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UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

 

 

FORM 10-Q

 

 

 

x	QUARTERLY REPORT PURSUANT TO SECTION 13 or 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

For the quarterly period ended June 30, 2008

or

 

¨	TRANSITION REPORT PURSUANT TO SECTION 13 OR 15 (d) OF THE SECURITIES EXCHANGE ACT OF 1934

For the transition period from              to            

Commission File Number 0-13396

 

 

CNB FINANCIAL CORPORATION

(Exact name of registrant as specified in its charter)

 

 

 

Pennsylvania		25-1450605
(State or other jurisdiction of incorporation or organization)		(I.R.S. Employer Identification No.)

1 South Second Street

P.O. Box 42

Clearfield, Pennsylvania 16830

(Address of principal executive offices)

Registrant’s telephone number, including area code, (814) 765-9621

 

 

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

x  Yes    ¨  No

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, or a non-accelerated filer, or a smaller company. See definitions of “large accelerated filer”, “accelerated filer” and “smaller reporting company” in Rule 12b-2 of the Exchange Act. (Check one):

 

Large accelerated filer		¨		Accelerated filer		x
Non-accelerated filer		¨		Smaller reporting company		¨

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Act).     ¨  Yes    x  No

The number of shares outstanding of the issuer’s common stock as of August 4, 2008

COMMON STOCK: $0 PAR VALUE, 8,562,517 SHARES

 

 

 

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INDEX

PART I.

FINANCIAL INFORMATION

 

Sequential Page Number
ITEM 1 – Financial Statements (unaudited)
PAGE 3.		Consolidated Balance Sheets – June 30, 2008 and December 31, 2007
PAGE 4.		Consolidated Statements of Income – Three months ending June 30, 2008 and 2007
PAGE 5.		Consolidated Statements of Income – Six months ending March 31, 2008 and 2007
PAGE 6.		Consolidated Statements of Comprehensive Income for the three and six month periods ending June 30, 2008 and 2007
PAGE 7.		Consolidated Statements of Cash Flows – Six months ending June 30, 2008 and 2007
PAGE 8.		Notes to Consolidated Financial Statements
ITEM 2 – Management’s Discussion and Analysis
PAGE 14.		Management’s Discussion and Analysis of Financial Condition and Results of Operations
ITEM 3 – Quantitative and Qualitative Disclosures
PAGE 25.		Quantitative and Qualitative Disclosures about Market Risk
ITEM 4 – Controls and Procedures
PAGE 26.		Controls and Procedures
PART II. OTHER INFORMATION
PAGE 26.		ITEM 1		Legal Proceedings
PAGE 26.		ITEM 1A		Risk Factors
PAGE 27.		ITEM 2		Unregistered Sales of Equity Securities and Use of Proceeds
PAGE 27.		ITEM 3		Defaults Upon Senior Securities
PAGE 27.		ITEM 4		Submission of Matters for Security Holders Vote
PAGE 27.		ITEM 5		Other Information
PAGE 27.		ITEM 6		Exhibits
PAGE 28.		Signatures

 

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CNB FINANCIAL CORPORATION

CONSOLIDATED BALANCE SHEETS

Dollars in thousands

 

		(unaudited)
		June 30, 2008				December 31, 2007
ASSETS
Cash and due from banks		$	29,041			$	23,540
Interest bearing deposits with other banks			2,474				2,274
Federal funds sold			9,178				773
Total cash and cash equivalents			40,693				26,587
Interest bearing time deposits with other banks			4,395				3,498
Securities available for sale			174,434				162,643
Trading securities			4,510				—
Loans held for sale			4,244				1,745
Loans			668,035				603,541
Less: unearned discount			7,176				3,853
Less: allowance for loan losses			7,442				6,773
Net loans			653,417				592,915
FHLB and other equity interests			5,226				5,834
Premises and equipment, net			22,323				19,780
Bank owned life insurance			15,432				15,099
Accrued interest receivable and other assets			9,147				16,644
Mortgage servicing rights			482				457
Goodwill			10,821				10,821
Other intangible assets, net			235				285
TOTAL		$	945,359			$	856,308
LIABILITIES AND SHAREHOLDERS’ EQUITY
Non-interest bearing deposits		$	103,874			$	90,994
Interest bearing deposits			651,969				568,163
Total deposits			755,843				659,157
Treasury, tax and loan borrowings			441				2,000
FHLB and other borrowings			99,000				98,000
Subordinated debentures			20,620				20,620
Accrued interest payable and other liabilities			3,397				7,248
Total liabilities			879,301				787,025
Common stock, $0 par value; authorized 50,000,000 shares; issued 9,233,750 shares			—				—
Additional paid in capital			12,939				13,058
Retained earnings			67,620				66,696
Treasury stock, at cost (669,883 shares at June 30, 2008 and 679,948 shares at December 31, 2007)			(9,790	)			(9,947	)
Accumulated other comprehensive loss			(4,711	)			(524	)
Total shareholders’ equity			66,058				69,283
TOTAL		$	945,359			$	856,308

See Notes to Consolidated Financial Statements

 

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CNB FINANCIAL CORPORATION

CONSOLIDATED STATEMENTS OF INCOME (unaudited)

Dollars in thousands, except per share data

 

		Three months ended
		June 30, 2008				June 30, 2007
INTEREST AND DIVIDEND INCOME:
Loans including fees		$	11,594			$	10,953
Deposits with banks			79				125
Federal funds sold			81				83
Securities:
Taxable			1,799				1,646
Tax-exempt			308				371
Dividends			62				104
Total interest and dividend income			13,923				13,282
INTEREST EXPENSE:
Deposits			3,610				4,648
Borrowed funds			1,095				761
Subordinated debentures			219				383
Total interest expense			4,924				5,792
NET INTEREST INCOME			8,999				7,490
PROVISION FOR LOAN LOSSES			756				442
Net interest income after provision for loan losses			8,243				7,048
OTHER INCOME:
Trust and asset management fees			265				277
Service charges on deposits accounts			1,046				1,034
Other service charges and fees			354				218
Net realized gains on securities available for sale			—				22
Net realized losses from sales of securities for which fair value was elected			(79	)			—
Net unrealized losses on securities for which fair value was elected			(379	)			—
Mortgage banking			102				104
Bank owned life insurance			160				208
Wealth management			208				155
Other			173				194
Total other income			1,850				2,212
OTHER EXPENSES:
Salaries and benefits			3,763				2,965
Net occupancy expense of premises			861				777
Amortization of intangibles			25				25
Other			2,457				2,253
Total other expenses			7,106				6,020
INCOME BEFORE INCOME TAXES			2,987				3,240
INCOME TAX EXPENSE			811				858
NET INCOME		$	2,176			$	2,382
EARNINGS PER SHARE:
Basic		$	0.26			$	0.27
Diluted		$	0.26			$	0.27
DIVIDENDS PER SHARE,
Cash dividends per share		$	0.16			$	0.15

See Notes to Consolidated Financial Statements

 

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CNB FINANCIAL CORPORATION

CONSOLIDATED STATEMENTS OF INCOME (unaudited)

Dollars in thousands, except per share data

 

		Six months ended
		June 30, 2008				June 30, 2007
INTEREST AND DIVIDEND INCOME:
Loans including fees		$	23,203			$	21,287
Deposits with banks			160				227
Federal funds sold			232				198
Securities:
Taxable			3,573				3,129
Tax-exempt			613				775
Dividends			172				206
Total interest and dividend income			27,953				25,822
INTEREST EXPENSE:
Deposits			7,152				9,317
Borrowed funds			2,227				1,434
Subordinated debentures			533				603
Total interest expense			9,912				11,354
NET INTEREST INCOME			18,041				14,468
PROVISION FOR LOAN LOSSES			1,265				568
Net interest income after provision for loan losses			16,776				13,900
OTHER INCOME:
Trust and asset management fees			605				538
Service charges on deposits accounts			2,048				1,969
Other service charges and fees			650				400
Net realized gains on securities available for sale			117				35
Net realized losses from sales of securities for which fair value was elected			(254	)			—
Net unrealized losses on securities for which fair value was elected			(1,025	)			—
Mortgage banking			195				181
Bank owned life insurance			334				339
Wealth management			420				307
Other			306				430
Total other income			3,396				4,199
OTHER EXPENSES:
Salaries and benefits			7,652				6,143
Net occupancy expense of premises			1,836				1,613
Amortization of intangibles			50				50
Other			4,921				4,473
Total other expenses			14,459				12,279
INCOME BEFORE INCOME TAXES			5,713				5,820
INCOME TAX EXPENSE			1,535				1,517
NET INCOME		$	4,178			$	4,303
EARNINGS PER SHARE:
Basic		$	0.49			$	0.49
Diluted		$	0.49			$	0.49
DIVIDENDS PER SHARE,
Cash dividends per share		$	0.32			$	0.30

See Notes to Consolidated Financial Statements

 

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CNB FINANCIAL CORPORATION

CONSOLIDATED STATEMENTS OF INCOME (unaudited)

Dollars in thousands

 

		Three months ended								Six months ended
		June 30, 2008				June 30, 2007				June 30, 2008				June 30, 2007
NET INCOME		$	2,176			$	2,382			$	4,178			$	4,303
Other comprehensive loss, net of tax:
Unrealized gains/(losses) on securities available for sale:
Unrealized gains/(losses) arising during the period, net of tax of $1,805 and $435 for the three months ending June 30, 2008 and 2007 and $2,491 and $331 for the six months ending June 30, 2008 and 2007			(3,353	)			(796	)			(4,626	)			(603	)
Reclassification adjustment for accumulated (gains)/losses included in net income, net of tax of $8 for the three months ending June 30, 2007 and $41 and $12 for the six months ending June 30, 2008 and 2007			—				(14	)			(76	)			(23	)
Other comprehensive loss			(3,353	)			(810	)			(4,702	)			(626	)
COMPREHENSIVE (LOSS) INCOME		$	(1,177	)		$	1,572			$	(524	)		$	3,677

See Notes to Consolidated Financial Statements

 

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CNB FINANCIAL CORPORATION

CONSOLIDATED STATEMENTS OF CASH FLOWS (unaudited)

Dollars in thousands

 

		Six months ended
		June 30, 2008				June 30, 2007
CASH FLOWS FROM OPERATING ACTIVITIES:
Net income		$	4,178			$	4,303
Adjustments to reconcile net income to net cash provided by operations:
Provision for loan losses			1,265				568
Depreciation and amortization			908				834
Amortization, accretion and deferred loan fees			(317	)			(303	)
Net realized gains on securities available for sale			(117	)			(35	)
Net realized and unrealized losses on securities for which fair value was elected			1,279				—
Gain on sale of loans			(137	)			(130	)
Net gains on dispositions of acquired property			—				(59	)
Proceeds from sale of loans			4,811				4,064
Origination of loans held for sale			(7,285	)			(4,371	)
Increase in bank owned life insurance			(333	)			(339	)
Stock-based compensation expense			77				44
Changes in:
Accrued interest receivable and other assets			282				(308	)
Accrued interest payable and other liabilities			(1,803	)			(1,250	)
NET CASH PROVIDED BY OPERATING ACTIVITIES			2,808				3,018
CASH FLOWS FROM INVESTING ACTIVITIES:
Net increase in interest bearing time deposits with other banks			(897	)			(1,000	)
Proceeds from maturities, prepayments and calls of securities			19,589				20,392
Proceeds from sales of securities			13,003				162
Purchase of securities			(49,498	)			(31,253	)
Loan origination and payments, net			(61,589	)			(25,299	)
Redemption of FHLB and other equity interests			608				126
Purchase of premises and equipment			(3,314	)			(1,325	)
Proceeds from sale of premises and equipment and foreclosed assets			47				220
NET CASH USED IN INVESTING ACTIVITIES			(82,051	)			(37,977	)
CASH FLOWS FROM FINANCING ACTIVITIES:
Net change in:
Checking, money market and savings accounts			91,590				11,697
Certificates of deposit			5,096				4,938
Proceeds from issuance of subordinated debenture			—				20,620
Repayments of subordinated debenture			—				(10,310	)
Treasury stock purchased			(611	)			(5,548	)
Proceeds from sale of treasury stock			572				578
Proceeds from exercise of stock options			—				51
Excess tax benefit from exercise of stock options			—				10
Cash dividends paid			(2,739	)			(2,659	)
Advances from long-term borrowings			5,000				10,000
Repayment of long-term borrowings			(4,000	)			(2,250	)
Net change in short-term borrowings			(1,559	)			6,510
NET CASH PROVIDED BY FINANCING ACTIVITIES			93,349				33,637
NET INCREASE (DECREASE) IN CASH AND CASH EQUIVALENTS			14,106				(1,322	)
CASH AND CASH EQUIVALENTS, Beginning			26,587				21,254
CASH AND CASH EQUIVALENTS, Ending		$	40,693			$	19,932
SUPPLEMENTAL DISCLOSURE OF CASH FLOW INFORMATION:
Cash paid during the period for:
Interest		$	9,990			$	11,381
Income taxes		$	2,450			$	1,490
SUPPLEMENTAL NONCASH DISCLOSURES:
Transfers to other real estate owned		$	126			$	553
Grant of restricted stock awards from treasury stock		$	173			$	172
Adoption of FASB Statement No. 159, transfer of securities available for sale to trading securities		$	7,018			$	—

See Notes to Consolidated Financial Statements

 

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CNB FINANCIAL CORPORATION AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

(UNAUDITED)

BASIS OF PRESENTATION

The accompanying consolidated financial statements have been prepared pursuant to rules and regulations of the Securities and Exchange Commission (SEC) and in compliance with accounting principles generally accepted in the United States of America. Because this report is based on an interim period, certain information and footnote disclosures normally included in financial statements prepared in accordance with accounting principles generally accepted in the United States of America have been condensed or omitted.

In the opinion of management of the registrant, the accompanying consolidated financial statements as of June 30, 2008 and for the quarters and six months ended June 30, 2008 and 2007 include all adjustments, consisting of only normal recurring adjustments, necessary for a fair presentation of the financial condition and the results of operations for the periods. The financial performance reported for CNB Financial Corporation (the Corporation) for the three and six month periods ended June 30, 2008 is not necessarily indicative of the results to be expected for the full year. This information should be read in conjunction with the Corporation’s Annual Report to shareholders and Form 10-K for the period ended December 31, 2007.

FAIR VALUE OPTION AND FAIR VALUE MEASUREMENTS

In September 2006, the Financial Accounting Standards Board (FASB) issued Statement No. 157, Fair Value Measurements. This Statement defines fair value, establishes a framework for measuring fair value and expands disclosures about fair value measurements. This Statement establishes a fair value hierarchy about the assumptions used to measure fair value and clarifies assumptions about risk and the effect of a restriction on the sale or use of an asset. The standard is effective for fiscal years beginning after November 15, 2007. In February 2008, the FASB issued Staff Position (FSP) 157-2, Effective Date of FASB Statement No. 157. This FSP delays the effective date of FAS 157 for all nonfinancial assets and nonfinancial liabilities, except those that are recognized or disclosed at fair value on a recurring basis (at least annually) to fiscal years beginning after November 15, 2008, and interim periods within those fiscal years. The impact of adoption was not material.

In February 2007, the FASB issued Statement No. 159, The Fair Value Option for Financial Assets and Financial Liabilities. The standard provides companies with an option to report selected financial assets and liabilities at fair value and establishes presentation and disclosure requirements designed to facilitate comparisons between companies that choose different measurement attributes for similar types of assets and liabilities. The new standard is effective for the Corporation on January 1, 2008. As of January 1, 2008, the Corporation elected the fair value option for certain investment securities. The effect of the adoption is described in the Fair Value note.

 

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STOCK COMPENSATION

The Corporation has a stock incentive plan for key employees and independent directors. The Stock incentive plan, which is administered by a committee of the Board of Directors, provides for up to 625,000 shares of common stock in the form of nonqualified options or restricted stock. For key employees, the plan vesting is one-fourth of the granted options or restricted stock per year beginning one year after the grant date with 100% vested on the fourth anniversary of the grant. For independent directors, the vesting schedule is one-third of the granted options per year beginning one year after the grant date with 100% vested on the third anniversary of the grant.

Compensation expense for the restricted stock awards is recognized over the requisite service period noted above based on the fair value of the shares at the date of grant. Unearned restricted stock awards are recorded as a reduction of shareholders equity until earned. Compensation expense resulting from these restricted stock awards was approximately $46,000 and $77,000 for the three and six months ended June 30, 2008 and $25,000 and $44,000 for the three and six months ended June 30, 2007. As of June 30, 2008, there was approximately $334,000 of total unrecognized compensation cost related to unvested restricted stock awards.

A summary of changes in unvested restricted stock awards for the three months ended June 30, 2008 and 2007 follows:

 

		June 30, 2008						June 30, 2007
					Weighted Average					Weighted Average
		Shares			Grant Date Fair Value			Shares		Grant Date Fair Value
Nonvested at beginning of period		28,766			$	14.03		23,440		$	14.11
Granted		—				—		—			—
Vested		(825	)			14.10		—			—
Forfeited		—				—		—			—
Nonvested at end of period		27,941			$	14.03		23,440		$	14.11

A summary of changes in unvested restricted stock awards for the six months ended June 30, 2008 and 2007 follows:

 

		June 30, 2008						June 30, 2007
					Weighted Average						Weighted Average
		Shares			Grant Date Fair Value			Shares			Grant Date Fair Value
Nonvested at beginning of period		22,688			$	14.12		14,654			$	13.81
Granted		12,433				13.91		11,929				14.39
Vested		(7,180	)			14.10		(3,143	)			13.80
Forfeited		—				—		—				—
Nonvested at end of period		27,941			$	14.03		23,440			$	14.11

FAIR VALUE

Fair Value Option

Management elected to adopt Statement No. 159 for its investment in perpetual preferred equity securities issued by the Federal National Mortgage Association and the Federal Home Loan Mortgage Corporation as well as its investment in all other equity securities that are traded on a national stock exchange.

 

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Management elected the fair value option for these securities to provide financial statement users with greater visibility into the Corporation’s financial instruments that do not have a defined maturity date.

These securities had previously been classified as available for sale and carried at fair value with unrealized gains and losses, net of tax, recorded in accumulated other comprehensive income. The carrying value of the securities for which the fair value option was elected at January 1, 2008 was $7,017,976 and included a net unrealized loss of $793,231. As a result of adopting Statement No. 159, the after tax effect of the net unrealized loss was removed from accumulated other comprehensive income which increased this balance by $515,600. The offset was recorded as a reduction to retained earnings as a cumulative effect adjustment.

Fair value changes included in earnings for the three and six months ended June 30, 2008 were ($379,000) and ($1,025,000) for unrealized losses and ($79,000) and ($254,000) for realized losses on sales. Dividend income for the three and six months ended June 30, 2008 of $62,000 and $172,000 is recorded based on cash dividends and comprises the “Dividends” line item in the accompanying consolidated statement of income.

Fair Value Measurement

Statement No. 157 defines fair value as the exchange price that would be received for an asset or paid to transfer a liability (an exit price) in the principal or most advantageous market for the asset or liability in an orderly transaction between market participants on the measurement date. Statement No. 157 also establishes a fair value hierarchy which requires an entity to maximize the use of observable inputs and minimize the use of unobservable inputs when measuring fair value. The standard describes three levels of inputs that may be used to measure fair value:

Level 1: Quoted prices (unadjusted) for identical assets or liabilities in active markets that the entity has the ability to access as of the measurement date.

Level 2: Significant other observable inputs other than Level 1 prices such as quoted prices for similar assets or liabilities; quoted prices in markets that are not active; or other inputs that are observable or can be corroborated by observable market data.

Level 3: Significant unobservable inputs that reflect a company’s own assumptions about the assumptions that market participants would use in pricing an asset or liability.

Assets and Liabilities Measured on a Recurring Basis

Assets and liabilities measured at fair value on a recurring basis are summarized below (in thousands):

 

					Fair Value Measurements at Reporting Date Using
Description		June 30, 2008			Quoted Prices in Active Markets for Identical Assets (Level 1)			Significant Other Observable Inputs (Level 2)			Significant Unobservable Inputs (Level 3)
Assets:
Securities Available
For Sale		$	174,434		$	7,862		$	165,171		$	1,401
Trading securities			4,510			4,510

 

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The table below presents a reconciliation and income statement classification of gains and losses for all securities available for sale measured at fair value on a recurring basis using significant unobservable inputs (Level 3) for the three months ended June 30, 2008 (in thousands):

 

Beginning balance, April 1, 2008		$	6,398
Total gains or losses (realized/unrealized):
Included in earnings			—
Included in other comprehensive income			(284	)
Purchases, issuances, and settlements			1,109
Transfers in and/or out of Level 3			(5,822	)
Ending balance, June 30, 2008		$	1,401

The table below presents a reconciliation and income statement classification of gains and losses for all securities available for sale measured at fair value on a recurring basis using significant unobservable inputs (Level 3) for the six months ended June 30, 2008 (in thousands):

 

Beginning balance, January 1, 2008		$	1,526
Total gains or losses (realized/unrealized):
Included in earnings			—
Included in other comprehensive income			(301	)
Purchases, issuances, and settlements			5,998
Transfers in and/or out of Level 3			(5,822	)
Ending balance, June 30, 2008		$	1,401

There were no changes in unrealized gains or losses reported in earnings for the three and six months ended June 30, 2008 for Level 3 assets that are still held at June 30, 2008.

Assets and Liabilities Measured on a Non-Recurring Basis

Assets measured at fair value on a non-recurring basis are summarized below (in thousands):

 

					Fair Value Measurements at Reporting Date Using
					Quoted Prices in Active Markets for Identical Assets		Significant Other Observable Inputs			Significant Unobservable Inputs
Description		June 30, 2008			(Level 1)		(Level 2)			(Level 3)
Assets,
Impaired loans		$	2,678				$	2,678

Impaired loans, which are measured for impairment using the fair value of collateral for collateral dependent loans, had a carrying amount of $3,721, with a valuation allowance of $1,043. The fair value of collateral is primarily measured using independent appraisals. The additional provision for loan losses recorded during the three months and six months ended June 30, 2008 was not significant.

EARNINGS PER SHARE

Basic earnings per share is computed by dividing net income by the weighted average number of shares outstanding during the period. Restricted stock awards are considered outstanding as they become earned. Diluted earnings per share is computed using the weighted average number of shares determined for the basic computation plus the dilutive effect of potential common shares issuable under stock compensation plans. For the three and six month periods ended June 30, 2008 and 2007, 110,500 shares under option were excluded from the diluted earnings per share calculations as they were anti-dilutive.

 

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The computation of basic and diluted EPS is shown below (in thousands except per share data):

 

		Three months ended						Six months ended
		June 30,						June 30,
		2008			2007			2008			2007
Basic earnings per share computation:
Net income		$	2,176		$	2,382		$	4,178		$	4,303
Gross weighted average shares outstanding			8,566			8,801			8,566			8,833
Less: Average unearned restricted stock			25			21			24			19
Net weighted average shares outstanding			8,541			8,780			8,542			8,814
Basic earnings per share		$	0.26		$	0.27		$	0.49		$	0.49
Diluted earnings per share computation:
Net income		$	2,176		$	2,382		$	4,178		$	4,303
Weighted average shares outstanding for basic EPS			8,541			8,780			8,542			8,814
Add: Dilutive effects of assumed exercises of stock options			24			24			23			26
Weighted average shares and potentially dilutive shares			8,565			8,804			8,565			8,840
Diluted earnings per share		$	0.26		$	0.27		$	0.49		$	0.49

RECENT ACCOUNTING PRONOUNCEMENTS

In December 2007, the FASB issued FAS No. 141 (revised 2007), Business Combinations (“FAS 141(R)”), which establishes principles and requirements for how an acquirer recognizes and measures in its financial statements the identifiable assets acquired, the liabilities assumed, and any noncontrolling interest in an acquiree, including the recognition and measurement of goodwill acquired in a business combination. FAS No. 141(R) is effective for fiscal years beginning on or after December 15, 2008. Earlier adoption is prohibited. The adoption of this standard is not expected to have a material effect on the Corporation’s results of operations or financial position.

In December 2007, the FASB issued FAS No. 160, Noncontrolling Interests in Consolidated Financial Statements — an amendment of ARB No. 51. FAS No. 160 amends ARB No. 51 to establish accounting and reporting standards for the noncontrolling interest in a subsidiary and for the deconsolidation of a subsidiary. It clarifies that a noncontrolling interest in a subsidiary, which is sometimes referred to as minority interest, is an ownership interest in the consolidated entity that should be reported as equity in the consolidated financial statements. Among other requirements, this statement requires consolidated net income to be reported at amounts that include the amounts attributable to both the parent and the noncontrolling interest. It also requires disclosure, on the face of the consolidated income statement, of the amounts of consolidated net income attributable to the parent and to the noncontrolling interest. FAS No. 160 is effective for fiscal years beginning on or after December 15, 2008. Earlier adoption is prohibited. The adoption of this standard is not expected to have a material effect on the Corporation’s results of operations or financial position.

In September 2006, the FASB reached consensus on the guidance provided by Emerging Issues Task Force Issue 06-4 (“EITF 06-4”), Accounting for Deferred Compensation and Postretirement Benefit Aspects of Endorsement Split-Dollar Life Insurance Arrangements. The guidance is applicable to endorsement split-dollar life insurance arrangements, whereby the employer owns and controls the insurance policy, that are associated with a postretirement benefit. EITF 06-4 requires that for a split-dollar life insurance arrangement within the scope of the Issue, an employer should recognize a liability for future benefits in accordance with FAS No. 106 (if, in substance, a postretirement benefit plan exists) or Accounting Principles Board Opinion No. 12 (if the arrangement is, in substance, an individual deferred compensation contract) based on the substantive agreement with the employee. EITF 06-4 is effective for fiscal years beginning after December 15, 2007. The adoption of this EITF did not have a material effect on the Corporation’s results of operations or financial position.

 

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In March 2007, the FASB ratified Emerging Issues Task Force Issue No. 06-10 (“EITF 06-10”), Accounting for Collateral Assignment Split-Dollar Life Insurance Agreements. EITF 06-10 provides guidance for determining a liability for the postretirement benefit obligation as well as recognition and measurement of the associated asset on the basis of the terms of the collateral assignment agreement. EITF 06-10 is effective for fiscal years beginning after December 15, 2007. The adoption of this EITF did not have a material effect on the Corporation’s results of operations or financial position.

In June 2007, the FASB ratified Emerging Issues Task Force Issue No. 06-11 (“EITF 06-11”), Accounting for Income Tax Benefits of Dividends on Share-Based Payment Awards. EITF 06-11 applies to share-based payment arrangements with dividend protection features that entitle employees to receive (a) dividends on equity-classified nonvested shares, (b) dividend equivalents on equity-classified nonvested share units, or (c) payments equal to the dividends paid on the underlying shares while an equity-classified share option is outstanding, when those dividends or dividend equivalents are charged to retained earnings under FAS No. 123R, Share-Based Payment, and result in an income tax deduction for the employer. A consensus was reached that a realized income tax benefit from dividends or dividend equivalents that are charged to retained earnings and are paid to employees for equity-classified nonvested equity shares, nonvested equity share units, and outstanding equity share options should be recognized as an increase in additional paid-in capital. EITF 06-11 is effective for fiscal years beginning after December 15, 2007, and interim periods within those fiscal years. The adoption of this EITF did not have a material effect on the Corporation’s results of operations or financial position.

In March 2008, the FASB issued FAS No. 161, Disclosures about Derivative Instruments and Hedging Activities, to require enhanced disclosures about derivative instruments and hedging activities. The new standard has revised financial reporting for derivative instruments and hedging activities by requiring more transparency about how and why an entity uses derivative instruments, how derivative instruments and related hedged items are accounted for under FAS No. 133, Accounting for Derivative Instruments and Hedging Activities, and how derivative instruments and related hedged items affect an entity’s financial position, financial performance, and cash flows. FAS No. 161 requires disclosure of the fair values of derivative instruments and their gains and losses in a tabular format. It also requires entities to provide more information about their liquidity by requiring disclosure of derivative features that are credit risk-related. Further, it requires cross-referencing within footnotes to enable financial statement users to locate important information about derivative instruments. FAS No. 161 is effective for financial statements issued for fiscal years and interim periods beginning after November 15, 2008, with early application encouraged. The adoption of this standard is not expected to have a material effect on the Corporation’s results of operations or financial position.

In May 2008, the FASB issued FAS No. 162, The Hierarchy of Generally Accepted Accounting Principles. This statement identifies the sources of accounting principles and the framework for selecting the principles used in the preparation of nongovernmental entities that are presented in conformity with generally accepted accounting principles in the United States. The statement is effective 60 days following the Securities and Exchange Commission’s approval of the Public Company Accounting Oversight Board amendments to AU Section 411, The Meaning of Present Fairly in Conformity with Generally Accepted Accounting Principles. The adoption of this standard is not expected to have a material effect on the Corporation’s results of operations or financial position.

In June 2008, the FASB ratified Staff Position No. EITF 03-6-1, Determining Whether Instruments Granted in Share-Based Payment Transactions Are Participating Securities. This standard addresses whether instruments granted in share-based payment transactions are participating securities prior to vesting and, therefore, need to be included in the earnings allocation in computing earnings per share under the two-class method described in paragraphs 60 and 61 of FASB Statement No. 128, Earnings Per Share. This standard is effective for financial statements issued for fiscal years beginning after December 15, 2008 and interim periods within those years. The adoption of this standard is not expected to have a material effect on the Corporation’s basic or diluted earnings per share.

 

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RECLASSIFICATIONS

Certain prior year amounts have been reclassified for comparative purposes.

ITEM 2

MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION

AND RESULTS OF OPERATIONS

The following discussion and analysis of the consolidated financial statements of CNB Financial Corporation (the “Corporation”) is presented to provide insight into management’s assessment of financial results. The Corporation’s subsidiary CNB Bank (the “Bank”) provides financial services to individuals and businesses within the Bank’s market area which is primarily made up of the west central Pennsylvania counties of Cambria, Clearfield, Centre, Elk, Jefferson and McKean. During 2005 the Bank entered the northwestern Pennsylvania county of Erie and began doing business as ERIEBANK. The Bank is subject to regulation, supervision and examination by the Pennsylvania State Department of Banking as well as the Federal Deposit Insurance Corporation. The financial condition and results of operations are not intended to be indicative of future performance. One of the Corporation’s subsidiaries, CNB Securities Corporation, is incorporated in Delaware and currently maintains investments in debt and equity securities. County Reinsurance Company, also a subsidiary, is a Corporation of Arizona, and provides credit life and disability for customers of CNB Bank. CNB Insurance Agency, incorporated in Pennsylvania, provides for the sale of nonproprietary annuities and other insurance products. Finally, Holiday Financial Services Corporation was formed in 2005 to facilitate the Corporation’s entry into the consumer discount loan and finance business. Management’s discussion and analysis should be read in conjunction with the consolidated financial statements and related notes.

Risk identification and management are essential elements for the successful management of the Corporation. In the normal course of business, the Corporation is subject to various types of risk, including interest rate, credit, and liquidity risk. These risks are controlled through policies and procedures established throughout the Corporation.

Interest rate risk is the sensitivity of net interest income and the market value of financial instruments to the direction and frequency of changes in interest rates. Interest rate risk results from various repricing frequencies and the maturity structure of the financial instruments owned by the Corporation. The Corporation uses its asset/liability management policy and systems to control, monitor and manage interest rate risk.

Credit risk represents the possibility that a customer may not perform in accordance to contractual terms. Credit risk results from loans with customers and the purchase of securities. The Corporation’s primary credit risk is in the loan portfolio. The Corporation manages credit risk by following an established credit policy and through a disciplined evaluation of the adequacy of the allowance for loan losses. Also, the investment policy limits the amount of credit risk that may be taken in the securities portfolio.

Liquidity risk represents the inability to generate or otherwise obtain funds at reasonable rates to satisfy commitments to borrowers and obligations to depositors. The Corporation has established guidelines within its asset liability management policy to manage liquidity risk. These guidelines include contingent funding alternatives.

 

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GENERAL OVERVIEW

During 2005, the Bank established a loan production office in Erie, Pennsylvania in order to begin offering commercial loan service to businesses located within Erie and Erie County. Management operated from temporary store locations during 2005 and 2006 and in the third quarter of 2007 opened its first new full service financial services store in Erie’s west side. Another store was opened in the fourth quarter of 2007. We recently completed a third store which will serve as our ERIEBANK division headquarters, and a fourth store is under construction with completion scheduled for the fourth quarter of 2008. Management believes that our ERIEBANK division, along with our traditional CNB Bank market areas, should provide the Bank with sustained loan and deposit growth during 2008.

In the fourth quarter of 2005, the Corporation formed a new subsidiary and entered the consumer discount loan and finance business as Holiday Financial Services Corporation. In 2006, we opened three new offices in the communities of Hollidaysburg, Northern Cambria and Clearfield, Pennsylvania. Three additional offices in the communities of Bellefonte, Ridgway and Bradford, Pennsylvania were opened in 2007 bringing our total to seven. In the second quarter of 2008, the Corporation opened another office which will service our ERIEBANK market area. Although the consumer discount loan business is relatively new to the Corporation, management is making the necessary investments in experienced personnel and technology which we believe will facilitate the growth of Holiday Financial Services into a successful and profitable subsidiary of the corporation.

While non-interest costs are expected to increase with the growth of the Corporation’s banking and consumer discount loan franchises, these new ventures will continue to provide growth in earning assets as well as enhanced non-interest income which we believe will more than offset these costs in 2008 and beyond. As such, the Corporation made the necessary investments in infrastructure and personnel over the past two years knowing that earnings were reduced in the near term due to costs increasing faster than related revenues.

The interest rate environment will continue to play an important role in the future earnings of the Corporation. Our net interest margin remained strong during the first six months of 2008. Recent actions of the Federal Reserve have resulted in decreases in short term interest rates and the shift to a more normalized yield curve which has benefited the Corporation primarily by reducing its cost of funds. Management will closely monitor our net interest margin in 2008, as well as continue to apply a disciplined approach to managing our balance sheet, as the majority of the earnings of the Corporation continue to be derived from interest income. Due to our continued growth, non-interest income should be enhanced in several areas including service charges and fees as well as improved wealth management income. While our business plan continues to focus on commercial lending, we now offer a full service approach to servicing the needs of high net worth individuals through our Private Banking groups in both our CNB Bank and ERIEBANK franchises.

Management concentrates on return on average equity and earnings per share evaluations, plus other methods to measure and direct the performance of the Corporation. While past results are not an indication of future earnings, we feel the Corporation is well positioned to enhance earnings through the remainder of 2008.

CASH AND CASH EQUIVALENTS

Cash and cash equivalents totaled $40.7 million at June 30, 2008 compared to $26.6 million at December 31, 2007. The increase was primarily the result of deposit growth which exceeded loan growth by $36.2 million during the first six months of 2008.

Management believes the liquidity needs of the Corporation are satisfied by the current balance of cash and cash equivalents, readily available access to traditional funding sources, and the portion of the investment and loan portfolios that mature within one year. These sources of funds will enable the Corporation to meet cash obligations and off-balance sheet commitments as they come due.

 

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SECURITIES

Securities increased $16.3 million or 10.0% since December 31, 2007. The increase is primarily the result of purchases of structured collateralized mortgage obligations from excess deposit growth not reinvested in loans. Most structured collateralized mortgage obligations that have been acquired during the first six months of 2008 were issued by government sponsored entities.

Effective January 1, 2008, the Corporation adopted FASB Statement No. 159, The Fair Value Option for Financial Assets and Financial Liabilities for its investment in perpetual preferred equity securities issued by the Federal National Mortgage Association and the Federal Home Loan Mortgage Corporation as well as its investment in all other equity securities that are traded on a national stock exchange. The effect of adopting Statement No. 159 was to reduce retained earnings by $515 thousand at January 1, 2008. In addition, fair value changes included in earnings for the three and six months ended June 30, 2008 were ($379,000) and ($1,025,000) for unrealized losses and ($79,000) and ($254,000) for realized losses on sales. These losses resulted primarily from declines in fair value of the Corporation’s financial services equity securities.

The Corporation generally buys into the market over time and does not attempt to “time” its transactions. In doing this, the highs and lows of the market are averaged into the portfolio and minimize the overall effect of different rate environments. Management monitors the earnings performance and the effectiveness of the liquidity of the securities portfolio on a regular basis through Asset / Liability Committee (“ALCO’) meetings. The ALCO also reviews and manages interest rate risk for the Corporation. Through active balance sheet management and analysis of the securities portfolio, the Corporation maintains sufficient liquidity to satisfy depositor requirements and various credit needs of its customers.

LOANS

The Corporation experienced an increase in loan demand during the first six months of 2008. The Corporation’s lending is primarily focused on the northwest and west central Pennsylvania markets and consists principally of commercial lending primarily to locally owned small businesses and retail lending which includes single-family residential mortgages and other consumer lending. Management continues to focus growth initiatives on commercial lending which it views as a competitive advantage.

At June 30, 2008, the Corporation had $660.9 million in loans outstanding, net of unearned discount, an increase of $61.2 million (or 10.2%) since December 31, 2007. The Corporation expects increasing demand throughout the remainder of 2008 with the growth of our ERIEBANK division as well as the continued loan demand in our traditional CNB Bank market areas. In addition, the Corporation ran a successful home equity loan promotion during the first six months of 2008, which was the primary reason for the growth in residential mortgages of $18.8 million or 10.7%.

Total loans, net of unearned discount, at June 30, 2008 and December 31, 2007 are summarized as follows (in thousands):

 

		June 30, 2008			December 31, 2007
Commercial, financial and agricultural		$	250,930		$	218,839
Residential mortgage			195,272			176,470
Commercial mortgage			164,297			160,585
Consumer and other			50,360			43,794
		$	660,859		$	599,688

 

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ALLOWANCE FOR LOAN LOSSES

The allowance for loan losses is established by provisions for losses in the loan portfolio as well as overdrafts in deposit accounts. These provisions are charged against current income. Loans and overdrafts deemed not collectible are charged-off against the allowance while any subsequent collections are recorded as recoveries and increase the allowance.

The table below shows activity within the allowance account (in thousands):

 

		Six months ending June 30, 2008				Year ending December 31, 2007				Six months ending June 30, 2007
Balance at beginning of period		$	6,773			$	6,086			$	6,086
Charge-offs:
Commercial and financial			—				—				6
Commercial mortgages			95				67				27
Residential mortgages			204				180				112
Consumer			275				417				173
Overdrafts			122				346				103
			696				1,010				421
Recoveries:
Commercial and financial			—				—				—
Commercial mortgages			2				—				—
Residential mortgages			5				12				2
Consumer			41				91				48
Overdrafts			52				82				51
			100				185				101
Net charge-offs			(596	)			(825	)			(320	)
Provision for loan losses			1,265				1,512				568
Balance at end of period		$	7,442			$	6,773			$	6,334
Loans, net of unearned		$	660,859			$	599,688			$	571,727
Allowance to net loans			1.13	%			1.13	%			1.11	%
Net charge-offs to average loans			0.19	%			0.14	%			0.12	%
Nonperforming assets		$	3,684			$	2,890			$	1,763
Nonperforming % of total assets			0.39	%			0.34	%			0.22	%

The adequacy of the allowance for loan and lease losses is subject to a formal analysis by the credit administrator of the Bank. As part of the formal analysis, delinquencies and losses are monitored monthly. The loan portfolio is divided into several categories in order to better analyze the entire pool. First is a selection of criticized loans that is given a specific reserve. The remaining loans are pooled, by category, into these segments:

Reviewed

 

•

Commercial and financial

 

•

Commercial mortgages

Homogeneous

 

•

Residential real estate

 

•

Consumer

 

•

Credit cards

 

•

Overdrafts

 

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The reviewed loan pools are further segregated into four categories: special mention, substandard, doubtful and unclassified. Historical loss factors are calculated for each pool excluding overdrafts based on the previous eight quarters of experience. The homogeneous pools are evaluated by analyzing the historical loss factors from the most previous quarter end and the two most recent year ends. The historical loss factors for both the reviewed and homogeneous pools are adjusted based on these six qualitative factors:

 

•

Levels of and trends in delinquencies and non-accruals

 

•

Trends in volume and terms of loans

 

•

Effects of any changes in lending policies and procedures

 

•

Experience, ability and depth of management

 

•

National and local economic trends and conditions

 

•

Concentrations of credit

The methodology described above was created using the experience of our credit administrator, guidance from the regulatory agencies, expertise of our loan review partner, and discussions with our peers. The resulting factors are applied to the pool balances in order to estimate the probable risk of loss within each pool.

Prudent business practices dictate that the level of the allowance, as well as corresponding charges to the provision for loan losses, should be commensurate with identified areas of risk within the loan portfolio and the attendant risks inherent therein. The quality of the credit risk management function and the overall administration of this vital segment of the Corporation’s assets are critical to the ongoing success of the Corporation.

The previously mentioned analysis considered numerous historical and other factors to analyze the adequacy of the allowance and current period charges against the provision for loan losses. Management paid special attention to a section of the analysis that compared and plotted the actual level of the allowance against the aggregate amount of loans adversely classified in order to compute the estimated potential losses associated with those loans. By noting the “spread” at the present time, as well as prior periods, management can determine the current adequacy of the allowance as well as evaluate trends that may be developing. The volume and composition of the Corporation’s loan portfolio continue to reflect growth in commercial credits including commercial real estate loans. As mentioned in the Loans section of this analysis, management considers commercial lending a competitive advantage and continues to focus on this area as part of its strategic growth initiatives. However, management must also consider the fact that the inherent risk is more pronounced in these types of credits and is also driven by the economic environment of its market areas.

During the six month period ended June 30, 2008 the Corporation increased its provision for loan losses and allowance as compared to the six month period ended June 30, 2007. The increase was a result of increases in net charge-offs, as well as growth in loans outstanding and nonperforming loans from December 31, 2007 to June 30, 2008. Nonperforming loans and net charge-offs have increased during the first six months of 2008, primarily as a result of the effect of rising costs and the overall challenging economic environment on certain borrowers. Management believes that both its current period provision and allowance for loan losses are reasonable and adequate to absorb probable incurred losses in its portfolio at June 30, 2008.

PREMISES AND EQUIPMENT

Premises and equipment increased $2.5 million (or 12.9%) since December 31, 2007. This increase is the result of growth initiatives with the Corporation’s ERIEBANK division. As mentioned in the General Overview section, the Corporation is currently recent completed its third ERIEBANK store, and construction has begun on a fourth store with completion expected in the fourth quarter of 2008. As such, future increases to premises and equipment are forthcoming.

 

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ACCRUED INTEREST RECEIVABLE AND OTHER ASSETS

Accrued interest receivable and other assets totaled $9.1 million at June 30, 2008, compared to $16.6 million at December 31, 2007. This decrease is almost entirely attributable to recording a receivable for proceeds from principal and interest of $7.9 million at December 31, 2007 from one of the Corporation’s investment custodians. The Corporation sold five investment securities in late December 2007 and the settlement did not occur until early January 2008.

FUNDING SOURCES

The Corporation considers deposits, short-term borrowings, and term debt when evaluating funding sources. Traditional deposits continue to be the main source of funds in the Corporation increasing $96.6 million from $659.2 million at December 31, 2007 to $755.8 million at June 30, 2008. As noted in the table below, the growth in deposits was primarily the result of increases in non-interest bearing and interest bearing checking accounts and savings accounts.

 

		Percentage Change			June 30, 2008			December 31, 2007
Checking, non-interest bearing		14.2	%		$	103,874		$	90,994
Checking, interest bearing		21.8	%			208,483			171,216
Savings accounts		76.3	%			95,788			54,339
Certificates of deposit		1.5	%			347,698			342,608
					$	755,843		$	659,157

During the second quarter, the Corporation introduced a new high rate checking product to its CNB Bank and ERIEBANK markets which should result in continued deposit growth throughout the remainder of 2008. In addition, savings account deposit growth has occurred as a result of the Corporation’s expansion of both consumer and business relationships throughout all of its market areas.

Periodically, the Corporation utilizes term borrowings from the Federal Home Loan Bank (FHLB) and other lenders to meet funding needs not accommodated by deposit growth. There were no new borrowings from the FHLB during the six months ended June 30, 2008; however, in order to fund continued loan growth, Holiday Financial Services Corporation expanded its borrowings on an available line of credit from an unaffiliated financial institution from $5 million at December 31, 2007 to $10 million at June 30, 2008. Management plans to maintain access to short and long-term borrowings as an available funding source when deemed appropriate.

On August 1, 2008, the Corporation entered into an interest rate swap agreement with PNC Bank, N.A. in connection with its subordinated debentures. The agreement has the effect of converting the variable interest rate on $10 million of the outstanding balance to a fixed rate of 5.84% beginning with the next interest rate reset date on September 15, 2008. The interest rate swap is considered a derivative financial instrument, and the Corporation has elected cash flow hedge accounting under FASB Statement No. 133, as amended. As a result, to the extent that the interest rate hedge is effective, any changes in fair value of the agreement will be reported as a component of shareholders’ equity.

SHAREHOLDERS’ EQUITY

The Corporation’s capital continues to provide a base for profitable growth. Total shareholders’ equity was $66.1 million at June 30, 2008 compared to $69.3 million at December 31, 2007, a decrease of $3.2 million, or 4.7%. This decrease was primarily attributable to the decline in fair value of the Corporation’s investment portfolio as compared to its cost basis. In the first six months of 2008, the Corporation earned $4.2 million and declared dividends of $2.7 million, a dividend payout ratio of 65.6% of net income.

 

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The Corporation has also complied with the standards of capital adequacy mandated by the banking regulators. Bank regulators have established “risk-based” capital requirements designed to measure capital adequacy. Risk-based capital ratios reflect the relative risks of various assets banks hold in their portfolios. A weight category of 0% (lowest risk assets), 20%, 50%, or 100% (highest risk assets), is assigned to each asset on the balance sheet. The Corporation’s total risk-based capital ratio of 12.26% at June 30, 2008 is above the well-capitalized standard of 10%. The Corporation’s Tier 1 capital ratio of 11.22% is above the well-capitalized minimum of 6%. The leverage ratio at June 30, 2008 was 9.00%, also above the well-capitalized standard of 5%. The Corporation is well capitalized as measured by the federal regulatory agencies. The ratios provide quantitative data demonstrating the strength and future opportunities for use of the Corporation’s capital base. Management continues to evaluate risk-based capital ratios and the capital position of the Corporation as part of its strategic decision making process.

LIQUIDITY AND INTEREST RATE SENSITIVITY

Liquidity measures an organizations’ ability to meet cash obligations as they come due. The consolidated statement of cash flows presented on page 7 of the accompanying unaudited financial statements provides analysis of the Corporation’s cash and cash equivalents. Additionally, management considers that portion of the loan and investment portfolio that matures within one year as part of the Corporation’s liquid assets. The Corporation’s liquidity is monitored by the ALCO Committee, which establishes and monitors ranges of acceptable liquidity. Management believes the Corporation’s current liquidity and interest rate position is acceptable.

OFF BALANCE SHEET ACTIVITIES

Some financial instruments, such as loan commitments, credit lines, letters of credit and overdraft protection, are issued to meet customer financing needs. The contractual amount of financial instruments with off-balance sheet risk was as follows at June 30, 2008 (in thousands):

 

Commitments to extend credit		$	183,425
Standby letters of credit			11,067
		$	194,492

 

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CNB FINANCIAL CORPORATION

CONSOLIDATED YIELD COMPARISONS

AVERAGE BALANCES AND NET INTEREST MARGIN

Dollars in thousands

 

		June 30, 2008										June 30, 2007
		Average Balance				Annual Rate			Interest Inc./Exp.			Average Balance				Annual Rate			Interest Inc./Exp.
ASSETS:
Interest-bearing deposits with other banks		$	6,561			4.88	%		$	160		$	7,824			5.80	%		$	227
Federal funds sold and securities purchased under agreements to resell			13,744			3.38	%			232			6,753			5.86	%			198
Securities:
Taxable (1)			146,603			4.80	%			3,573			116,841			5.35	%			3,129
Tax-Exempt (1,2)			27,699			6.63	%			890			33,594			6.32	%			1,035
Equity Securities (1,2)			6,440			6.22	%			227			15,059			3.18	%			220
Total			201,047			5.55	%			5,082			180,071			5.88	%			4,809
Loans:
Commercial (2)			237,736			6.64	%			7,896			213,561			8.03	%			8,579
Mortgage (2)			341,558			7.11	%			12,149			307,143			7.28	%			11,173
Consumer			46,973			14.32	%			3,363			31,098			11.35	%			1,765
Total loans (3)			626,267			7.48	%			23,408			551,802			7.80	%			21,517
Total earning assets			827,314			6.87	%		$	28,490			731,873			7.21	%		$	26,326
Non interest-bearing assets:
Cash and due from banks			20,292										17,291
Premises and equipment			21,607										16,409
Other assets			38,875										31,718
Allowance for loan losses			(7,084	)									(6,122	)
Total non interest-bearing assets			73,690										59,296
TOTAL ASSETS		$	901,004									$	791,169
LIABILITIES AND SHAREHOLDERS’ EQUITY:
Demand - interest-bearing			185,564			1.47	%			1,368		$	142,638			1.66	%		$	1,187
Savings			75,140			1.56	%			586			52,190			0.66	%			173
Time			350,145			2.97	%			5,198			358,351			4.44	%			7,957
Total interest-bearing deposits			610,849			2.34	%			7,152			553,179			3.37	%			9,317
Short-term borrowings			1,298			1.54	%			10			5,616			3.70	%			104
Long-term borrowings			98,333			4.51	%			2,217			52,000			5.12	%			1,330
Subordinated debentures			20,620			5.17	%			533			20,000			6.03	%			603
Total interest-bearing liabilities			731,100			2.71	%		$	9,912			630,795			3.60	%		$	11,354
Demand - non interest-bearing			94,363										83,770
Other liabilities			6,145										3,953
Total liabilities			831,608										718,518
Shareholders’ equity			69,396										72,651
TOTAL LIABILITIES AND SHAREHOLDERS’ EQUITY		$	901,004									$	791,169
Interest income/Earning assets						6.87	%		$	28,490						7.21	%		$	26,326
Interest expense/Interest-bearing liabilities						2.71	%			9,912						3.60	%			11,354
Net interest spread						4.16	%		$	18,578						3.61	%		$	14,972
Interest income/Interest-bearing assets						6.87	%			28,490						7.21	%			26,326
Interest expense/Interest-bearing assets						2.40	%			9,912						3.10	%			11,354
Net interest margin						4.47	%		$	18,578						4.11	%		$	14,972

 

(1)	Includes unamortized discounts and premiums. Average balance is computed using the carrying value of securities. The average yield has been computed using the historical amortized cost average balance for available for sale securities.

(2)	Average yields are stated on a fully taxable equivalent basis.

(3)	Average outstanding includes the average balance outstanding of all non-accrual loans. Loans consist of the average of total loans less average unearned income. The amount of loan fees included in the interest income on loans is not material.

 

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RESULTS OF OPERATIONS

THREE MONTHS ENDED JUNE 30, 2008 AND 2007

OVERVIEW OF THE INCOME STATEMENT

The Corporation had net income of $2.2 million for the second quarter of 2008 compared to $2.4 million for the same period of 2007. The earnings per diluted share decreased from $0.27 in the second quarter of 2007 to $0.26 for the second quarter of 2008.

INTEREST INCOME AND EXPENSE

Net interest income totaled $9.0 million in the second quarter, an increase of $1.5 million (or 20.1%) over the second quarter of 2007. Total interest and dividend income increased by $641 thousand (or 4.8%) as compared to the second quarter of 2007 as a result of growth in earning assets. Total interest expense decreased $868 thousand (or 15.0%) as compared to the second quarter of 2007, primarily as a result of decreases in short-term interest rates by the Federal Reserve that began in the latter part of 2007 and continued during the early part of 2008.

PROVISION FOR LOAN LOSSES

The Corporation recorded a provision for loan losses of $756 thousand in the second quarter of 2008 compared to $442 thousand in the second quarter of 2007. As noted in the allowance for loan loss table on page 17, the Corporation has experienced a relatively low level of charge-offs over the past year. However, because of the increasing level of nonperforming assets, as well as management’s detailed evaluation of problem loans, criticized assets, charge-offs and the overall effects of the economy in our markets, an increase in the second quarter provision was deemed necessary. Management believes the second quarter provision is appropriate and the allowance for loan losses is adequate to absorb probable incurred losses in our portfolio as of June 30, 2008.

OTHER INCOME

Other income decreased $362 thousand (or 16.4%) in the second quarter of 2008 as compared to the same period in 2007. However, a substantial portion of the decrease is a result of the Corporation’s adoption of FASB Statement No. 159 for its equity portfolio as of January 1, 2008, which resulted in a pretax charge of $379 thousand for net unrealized losses on securities. Excluding the effects of securities transactions, the Corporation’s other income increased $118 thousand (or 5.4%) in the second quarter of 2008 as compared to the same period in 2007.

The Corporation is experiencing positive trends in other non interest income line items such as wealth management fees and service charges.

NON-INTEREST EXPENSE

Non-interest expense increased by 18.0% to $7.1 million in the second quarter of 2008 compared to $6.0 million in the second quarter of 2007. The majority (approximately 81%) of the increase was a result of the Corporation’s increasing costs for salaries and wages, benefits and occupancy related costs. Like many growing entities, the Corporation is faced with increasing employee related costs in order to support its growth. Increases in non-interest expenses such as data processing and insurance contributed to the increases in other expenses of $204 thousand, or 9.1%.

 

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As mentioned in the general overview section of this analysis, the Corporation is continuing the process of expanding its ERIEBANK division and will continue to grow its consumer finance venture, Holiday Financial Services Corporation. The Corporation realizes that expenses related to these new ventures may outpace related revenues in the near term but believes the long-term growth potential is more than worth the near term cost. As such, the Corporation will strive to manage expenses while recognizing some, such as increasing costs for salaries, occupancy, outside services and technology, are the result of continued growth.

FEDERAL INCOME TAX EXPENSE

Federal income tax expense was $811 thousand in the second quarter of 2008 as compared to $858 thousand in the second quarter of 2007 resulting in an effective tax rate of 27.2% and 26.5%, respectively.

SIX MONTHS ENDED JUNE 30, 2008 AND 2007

OVERVIEW OF THE INCOME STATEMENT

The Corporation had net income of $4.2 million for the six months of 2008 compared to $4.3 million for the same period of 2007. The earnings per diluted share was $0.49 in the first six months of 2008 and 2007. The return on assets and the return on equity for the first six months of 2008 are 0.93% and 12.11% as compared to 1.10% and 11.95% for the first six months of 2007.

INTEREST INCOME AND EXPENSE

Net interest income totaled $18.0 million in the first six months, an increase of $3.5 million (or 24.7%) over the first six months of 2007. Total interest and dividend income increased by $2.1 million (or 8.3%) as compared to the first six months of 2007 as a result of growth in earning assets. Total interest expense decreased $1.4 million (or 12.7%) as compared to the first six months of 2007, primarily as a result of decreases in short-term interest rates by the Federal Reserve that began in the latter part of 2007 and continued during the early part of 2008. As noted in the table on page 21, the Corporation’s average earning assets have grown by $95.4 million since June 30, 2007 while the yield has decreased by 34 basis points from 7.21% to 6.87%. The growth in average earning assets more than offset the decline in yield. Meanwhile, the cost of interest bearing liabilities decreased by 89 basis points which more than offset the increase in average interest bearing liabilities of $100.3 million.

PROVISION FOR LOAN LOSSES

The Corporation recorded a provision for loan losses of $1,265,000 in the first six months of 2008 compared to $568,000 in the first six months of 2007. As noted in the allowance for loan loss table on page 17, the Corporation has experienced an increased level of charge-offs over the prior year even though net charge-offs as a percentage of average loans remains at a modest level. However, because of the increase in net charge-offs and the increasing level of nonperforming loans, as well as management’s detailed evaluation of problem loans, criticized assets, and the overall effects of the economy in our markets, an increase in the provision was deemed necessary. Management believes the charges to the provision in the current year are appropriate and the allowance for loan losses is adequate to absorb probable incurred losses in our portfolio as of June 30, 2008.

 

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OTHER INCOME

Other income decreased $803 thousand (or 19.1%) during the first six months of 2008 as compared to the same period in 2007. However, a substantial portion of the decrease is a result of the Corporation’s adoption of FASB Statement No. 159 for its equity portfolio as of January 1, 2008, which resulted in a pretax charge of $1,025,000 for net unrealized losses on securities for which fair value was elected during the six month period ended June 30, 2008. Excluding the effects of securities transactions, the Corporation’s other income increased $394 thousand (or 9.5%) in the first six months of 2008 as compared to the same period in 2007.

The Corporation is experiencing positive trends in other non interest income line items such as trust and asset management fees, wealth management fees and service charges.

NON-INTEREST EXPENSE

Non-interest expense increased by 17.8% to $14.5 million during the first six months of 2008 compared to $12.3 million during the first six months of 2007. The majority (approximately 79%) of the increase was a result of the Corporation’s increasing costs for salaries and wages, benefits and occupancy related costs. Like many growing entities, the Corporation is faced with increasing employee related costs in order to support its growth. As of June 30, 2008, the Corporation had 278 full time equivalent employees, compared to 255 full time equivalent employees at June 30, 2007, an increase of 9.0%.

As mentioned in the general overview section of this analysis, the Corporation is continuing the process of expanding its ERIEBANK division and will continue to grow its consumer finance venture, Holiday Financial Services Corporation. The Corporation realizes that expenses related to these new ventures may outpace related revenues in the near term but believes the long-term growth potential is more than worth the near term cost. As such, the Corporation will strive to manage expenses while recognizing some, such as increasing costs for salaries, occupancy, outside services and technology, are the result of continued growth.

FEDERAL INCOME TAX EXPENSE

Federal income tax was $1.5 million in the first six months of 2008 and 2007, resulting in an effective tax rate of 26.9% and 26.1%, respectively. The effective tax rate for the periods differed from the federal statutory rate of 35.0% principally as a result of tax exempt income from securities and loans as well as earnings from bank owned life insurance. The increase in the effective tax rate compared to the prior year is attributable to a decline in tax exempt interest income.

CRITICAL ACCOUNTING POLICIES

The accounting and reporting policies of CNB Financial Corporation are in accordance with accounting principles generally accepted in the United States of America and conform to general practices within the financial services industry. Accounting and reporting practices for the allowance for loan losses and fair value of securities are deemed critical since they involve the use of estimates and require significant management judgments. Application of assumptions different than those used by management could result in material changes in CNB Financial Corporation’s financial position or results of operations. Note 1 (Summary of Significant Accounting Policies), Note 3 (Securities), and Note 5 (Allowance for Loan Losses), of the 2007 Annual Report and 10-K, provide detail with regard to the Corporation’s accounting for the allowance for loan losses and fair value of securities. There have been no significant changes in the application of accounting policies since December 31, 2007.

 

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“SAFE HARBOR” STATEMENT UNDER THE PRIVATE

SECURITIES LITIGATION REFORM ACT OF 1995

Certain statements contained in the report that are not historical facts are forward looking statements that are subject to certain risks and uncertainties. When used herein, the terms “anticipates,” “plans,” “expects,” “believes,” “estimate,” “projected,” “forecast,” “should,” or “gravitate to” and similar expressions as they relate to CNB Financial Corporation or its management are intended to identify such forward looking statements. CNB Financial Corporation’s actual results, performance or achievements may materially differ from those expressed or implied in the forward-looking statements. Risks and uncertainties that could cause or contribute to such material differences include, but are not limited to, general economic conditions, interest rate environment, competitive conditions in the financial services industry, changes in law, governmental policies and regulations, and rapidly changing technology affecting financial services.

ITEM 3

QUANTITATIVE & QUALITATIVE DISCLOSURES ABOUT MARKET RISK

Market risk is the risk of loss arising from adverse changes in the fair value of financial instruments due to changes in interest rates, exchange rates, and equity prices. As a financial institution, the Corporation is primarily sensitive to the interest rate risk component. Changes in interest rates will affect the levels of income and expense recorded on a large portion of the Bank’s assets and liabilities. Additionally, such fluctuations in interest rates will impact the market value of all interest sensitive assets. The Asset/Liability Committee (ALCO) is responsible for reviewing the interest rate sensitivity position and establishing policies to control exposure to interest rate fluctuations. The primary goal established by this policy is to increase total income within acceptable risk limits.

The Corporation monitors interest rate risk through the use of two models: earnings simulation and static gap. Each model standing alone has limitations, however taken together they represent a reasonable view of the Corporation’s interest rate risk position. The following discussion provides a summary of our analysis at June 30, 2008.

STATIC GAP: Gap analysis is intended to provide an approximation of projected repricing of assets and liabilities at a point in time on the basis of stated maturities, prepayments, and scheduled interest rate adjustments within selected time intervals. A gap is defined as the difference between the principal amount of assets and liabilities which reprice within those time intervals. The cumulative one year gap at June 30, 2008 was 8.82% of total earning assets compared to policy guidelines of plus or minus 15.0%.

Fixed rate securities, loans and CDs are included in the gap repricing based on time remaining until maturity. Mortgage prepayments are included in the time frame in which they are expected to be received.

Certain shortcomings are inherent in the method of analysis presented in Static Gap. For example, although certain assets and liabilities may have similar maturities or periods to repricing, they may not react correspondingly to changes in market interest rates. Also, the interest rates on certain types of assets and liabilities may fluctuate with changes in market interest rates, while interest rates on other types of assets may lag behind changes in market rates. Additionally, certain assets, such as adjustable-rate loans, have features, like annual and lifetime rate caps, which restrict changes in interest rates both on a short-term basis and over the life of the asset. Further, in the event of a change in interest rates, prepayment and early withdrawal levels would likely deviate from those assumed in the table. Finally, the ability of certain borrowers to make scheduled payments on their adjustable-rate loans may decrease in the event of an interest rate increase.

 

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EARNINGS SIMULATION: This model forecasts the projected change in net income resulting from an increase or decrease in the level of interest rates. The model assumes a one time shock of plus or minus 200 basis points or 2%.

The model makes various assumptions about cash flows and reinvestments of these cash flows in the different rate environments. Generally, repayments, maturities and calls are assumed to be reinvested in like instruments and no significant change in the balance sheet mix is assumed. Actual results could differ significantly from these estimates which would produce significant differences in the calculated projected change in income. The limits stated above do not necessarily represent measures that would be taken by management in order to stabilize income results. The instruments on the balance sheet do react at different speeds to various changes in interest rates as discussed under Static Gap. In addition, there are strategies available to management that minimize the decline in income caused by a rapid rise in interest rates.

The following table below summarizes the information from the interest rate risk measures reflecting rate sensitive assets to rate sensitive liabilities at June 30, 2008 and December 31, 2007:

 

		June 30, 2008			December 31, 2007
Static 1-Yr. Cumulative Gap		8.82	%		1.38	%
Earnings Simulation:
-200 bps vs. Stable Rate		7.13	%		6.55	%
+200 bps vs. Stable Rate		(1.50	%)		(2.65	%)

The interest rate sensitivity position at June 30, 2008 was asset sensitive in the short-term, which is consistent with December 31, 2007. Management measures the potential impact of significant changes in interest rates on both earnings and equity. By the use of computer generated models, the potential impact of these changes has been determined to be acceptable with modest effects on net income and equity given an interest rate shock of an increase or decrease in rates of 2.0%. We continue to monitor the interest rate sensitivity through the ALCO and use the data to make strategic decisions.

ITEM 4

CONTROLS AND PROCEDURES

As of the end of the period covered by this quarterly report, an evaluation was carried out under the supervision and with the participation of the Corporation’s management, including our Chief Executive Officer and Principal Financial Officer, of the effectiveness of our disclosure controls and procedures (as defined in Exchange Act Rules 13a-15(e) and 15d-15(e) under the Securities Exchange Act of 1934). Based on their evaluation, our Chief Executive Officer and Principal Financial Officer have concluded that the Corporation’s disclosure controls and procedures are, to the best of their knowledge, effective to ensure that information required to be disclosed by the Corporation in reports that it files or submits under the Exchange Act is recorded, processed, summarized and reported within the time periods specified in Securities and Exchange Commission rules and forms. Subsequent to the date of their evaluation, our Chief Executive Officer and Principal Financial Officer have concluded that there were no significant changes in the Corporation’s internal controls or in other factors that could significantly affect its internal controls, including any corrective actions with regard to significant deficiencies and material weaknesses.

PART II OTHER INFORMATION

 

ITEM 1.

LEGAL PROCEEDINGS – None

 

ITEM 1A.

RISK FACTORS – There have been no material changes to the factors disclosed in Item 1A. Risk Factors in our Annual Report on Form 10-K for the year ended December 31, 2007.

 

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ITEM 2.

UNREGISTERED SALES OF EQUITY SECURITIES AND USE OF PROCEEDS

ISSUER PURCHASES OF EQUITY SECURITIES

 

Period		Total Number of Shares (or Units) Purchased		Average Price Paid Per Share (or Unit)			Total Number of Shares (or Units) Purchased as Part Of Publicly Announced Plans or Programs		Maximum Number (or Approximate Dollar Value) of Shares (or Units) That May Yet Be Purchased Under The Plans or Programs
4/1/08 to 4/30/08		12,639		$	13.96		11,120		192,815
5/1/08 to 5/31/08		17,200			14.13		17,200		175,615
6/1/08 to 6/30/08		7,230			13.84		7,229		168,386
Total		37,069		$	14.02		35,549

Purchases not made in conjunction with the Publicly Announced Plan were made to facilitate employee benefit plans in the form of a 401(k).

 

ITEM 3.

DEFAULTS UPON SENIOR SECURITIES - None

 

ITEM 4.

SUBMISSION OF MATTERS FOR SECURITY HOLDERS VOTE – CNB Financial Corporation held its Annual Meeting of Shareholders on April 15, 2008, for the purpose of electing four directors, to ratify the appointment of independent auditors, and to transact other business as would properly come before the meeting.

Results of shareholder voting on these individuals were as follows:

 

		Election of Directors
		William F. Falger		Jeffrey S. Powell		James B. Ryan		Peter F. Smith
For		6,096,327		6,077,115		6,068,498		6,030,638
Against or Withheld		282,512		301,724		310,341		348,201

The following directors’ terms of office as director continued after the meeting: Joseph B. Bower, Jr., Robert E. Brown, Michael F. Lezzer, Dennis L. Merrey, Robert W. Montler, Deborah Dick Pontzer, Charles H. Reams.

Results of ratification of appointment of Crowe Chizek and Company LLC as independent auditors was as follows:

 

For		6,306,477
Against or Withheld		72,362

The total shares voted at the Annual Meeting were 6,378,839.

 

ITEM 5.

OTHER INFORMATION – None

 

ITEM 6.

EXHIBITS

 

EXHIBIT 31.1		CEO Certification
EXHIBIT 31.2		Principal Financial Officer Certification
EXHIBIT 32		Certifications

 

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SIGNATURES

Pursuant to the requirements of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized.

 

				CNB FINANCIAL CORPORATION
				(Registrant)
DATE: August 8, 2008				/s/ William F. Falger
				William F. Falger
				President and Director
				(Principal Executive Officer)
DATE: August 8, 2008				/s/ Charles R. Guarino
				Charles R. Guarino
				Treasurer
				(Principal Financial Officer)

 

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