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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-K
| þ | ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 |
For the fiscal year ended December 31, 2007
OR
| o | TRANSITION REPORT PURSUANT TO SECTION 13 OR 15 (d) OF THE SECURITIES EXCHANGE ACT OF 1934 |
For the transition period from ________ to ________
Commission File Number: 000-31225
PINNACLE FINANCIAL PARTNERS, INC.
(Exact name of registrant as specified in charter)
| Tennessee | 62-1812853 | |
| (State or other jurisdiction of incorporation) |
(I.R.S. Employer Identification No.) |
| 211 Commerce Street, Suite 300, Nashville, Tennessee | 37201 | |
| (Address of principal executive offices) | (Zip Code) |
Registrant’s telephone number, including area code: (615) 744-3700
Securities registered pursuant to Section 12 (b) of the Act:
| Title of Each Class | Name of Exchange on which Registered | |
| Common Stock, par value $1.00 | Nasdaq Global Select Market |
Securities registered to Section 12(g) of the Act:
None
Indicate by check mark if the registrant is a well-known seasoned issuer, as defined in Rule 405 of
the Securities Act. Yes o No þ
Indicate by check mark if the registrant is not required to file reports pursuant to Section 13 or
Section 15(d) of the Act. Yes o No þ
Indicate by check mark whether the registrant (1) has filed all reports required to be filed by
Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for
such shorter period that the registrant was required to file such reports), and (2) has been
subject to such filing requirements for the past 90 days. Yes þ No o
Indicate by check mark if disclosure of delinquent filers pursuant to Item 405 of Regulation S-K
(Section 229.405 of this chapter) is not contained herein, and will not be contained, to the best
of registrant’s knowledge, in definitive proxy or information statements incorporated by reference
in Part III of this Form 10-K or any amendment to this Form 10-K. o
Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer,
a non-accelerated filer, or a smaller reporting company. See the definitions of “large accelerated filer,” “accelerated filer” and “smaller reporting company” in
Rule 12b-2 of the Exchange Act. (Check one):
| Large Accelerated filer o | Accelerated filer þ | Non-accelerated filer o | Smaller reporting company o | |||
| (Do not check if a smaller reporting company) | ||||||
Indicate by check mark if the registrant is a shell company (as defined in Rule 12b-2 of the Act).
Yes o No þ
State the aggregate market value of the voting and non-voting common equity held by non-affiliates
computed by reference to the price at which the common equity was last sold, or the average bid and
asked price of such common equity as of the last business day of the registrant’s most recently
completed second fiscal quarter: $410,959,000 as of June 30, 2007.
APPLICABLE ONLY TO CORPORATE REGISTRANTS
Indicate the number of shares outstanding of each of the registrant’s classes of common stock, as
of the latest practicable date: 22,418,287 shares of common stock as of February 28, 2008.
DOCUMENTS INCORPORATED BY REFERENCE
Portions of the Proxy Statement for the Annual Meeting of Shareholders, scheduled to be held April
15, 2008, are incorporated by reference into Part III of this Form 10-K.
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FORWARD-LOOKING STATEMENTS
Pinnacle Financial Partners, Inc. (“Pinnacle Financial”) may from time to time make written or oral
statements, including statements contained in this report which may constitute forward-looking
statements within the meaning of Section 21E of the Securities Exchange Act of 1934 (the “Exchange
Act”). The words “expect,” “anticipate,” “intend,” “consider,” “plan,” “believe,” “seek,”
“should,” “estimate,” and similar expressions are intended to identify such forward-looking
statements, but other statements may constitute forward-looking statements. These statements
should be considered subject to various risks and uncertainties. Such forward-looking statements
are made based upon management’s belief as well as assumptions made by, and information currently
available to, management pursuant to “safe harbor” provisions of the Private Securities Litigation
Reform Act of 1995. Pinnacle Financial’s actual results may differ materially from the results
anticipated in forward-looking statements due to a variety of factors. Such factors are described
below in “Item 1A. Risk Factors” and include, without limitation, (i) unanticipated deterioration
in the financial condition of borrowers resulting in significant increases in loan losses and
provisions for those losses, (ii) increased competition with other financial institutions, (iii)
lack of sustained growth in the economy in the Nashville and Knoxville, Tennessee areas, (iv) rapid
fluctuations or unanticipated changes in interest rates, (v) the inability of our bank subsidiary,
Pinnacle National Bank, to satisfy regulatory requirements for its expansion plans, and (vi)
changes in state or federal legislation or regulations applicable to financial service providers,
including banks. Many of such factors are beyond Pinnacle Financial’s ability to control or
predict, and readers are cautioned not to put undue reliance on such forward-looking statements.
Pinnacle Financial does not intend to update or reissue any forward-looking statements contained in
this report as a result of new information or other circumstances that may become known to Pinnacle
Financial. Forward-looking statements made by us in this report are also subject to those risks
identified within “Item 1A. Risk Factors.”
PART I
Unless this Form 10-K indicates otherwise or the context otherwise requires, the terms “we,” “our,”
“us,” “Pinnacle Financial Partners” or “Pinnacle Financial” as used herein refer to Pinnacle
Financial Partners, Inc. and its bank subsidiaries, including its principal bank subsidiary at
December 31, 2007 Pinnacle National Bank, which we sometimes refer to as “Pinnacle National,” “our
bank subsidiary” or “our bank” and its other subsidiaries. References herein to the fiscal years
2003, 2004, 2005, 2006 and 2007 mean our fiscal years ended December 31, 2003, 2004, 2005, 2006 and
2007, respectively.
ITEM 1. BUSINESS
OVERVIEW
Pinnacle Financial Partners is Tennessee’s second-largest bank holding company, with $3.8 billion
in assets as of Dec. 31, 2007. Incorporated on Feb. 28, 2000, the holding company is parent of
Pinnacle National Bank and owns 100% of the capital stock of Pinnacle National Bank. The firm
started operations on Oct. 27, 2000, with one office in Nashville, Tenn., and has since grown to 33
offices, including 31 in eight rapidly-growing Middle Tennessee counties. The firm also has two
offices in Knoxville, Tenn., the state’s third-largest banking market, and plans to expand to a
total of five offices in Knoxville by the end of 2010.
The firm operates as a community bank primarily in urban markets. As an urban community bank,
Pinnacle provides the personalized service most often associated with small community banks, while
offering the sophisticated products and services, such as investments and treasury management, most
typically offered by large regional and national banks. This approach positions Pinnacle
Financial to move clients from the three vulnerable regional and national banks that, despite
significant market share losses over the last seven years, still possess almost 50% market share in
the Nashville MSA.
Withstanding Market Turbulence
Despite the turbulence in financial markets and the financial services industry, Pinnacle has
maintained excellent credit quality as compared to other competing financial institutions and has
not had significant credit losses since its inception. Pinnacle attributes this to sound credit
policy, as well as its approach of hiring the best financial services professionals in the market.
Hiring only experienced lenders with large client followings has enabled Pinnacle to further its
growth without sacrificing soundness.
Pinnacle also believes that its markets are in good position to weather a national economic
downturn. While the local Nashville and Knoxville economies are not as robust as in previous
periods, we believe they are still strong in comparison to other United States markets of similar
size. Further, national research firm POLICON ranked the Nashville MSA No. 4 nationally in 2007
for economic strength based on long-term tendency to grow in size and quality.
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Growth through Acquisition and Successful Integration
In 2007 Pinnacle acquired Mid-America Bancshares Inc. (“Mid-America”), a $1.12 billion, two-bank
holding company with a significant presence in rapidly growing counties that serve to compliment
Pinnacle’s existing footprint. Mid-America, formed in 2006 as the parent of PrimeTrust Bank and
Bank of the South, operated 14 offices in very attractive trade areas within the Nashville MSA.
When Pinnacle acquired PrimeTrust and Bank of the South, each had a growth rate in the top 10 in
the country for banks chartered in 2001, the year both banks were formed. The acquisition closed on
Nov. 30, 2007, and Pinnacle successfully integrated operations of PrimeTrust and Bank of the South
into Pinnacle’s bank subsidiary on February 29, 2008. We measured success on several criteria and
we believe we successfully integrated PrimeTrust and Bank of the South as a result of:
| 1. | Achievement of all major integration milestones on time, | ||
| 2. | Achievement of the financial synergies that were proposed at the time the Mid-America transaction was announced, | ||
| 3. | No degradation in service quality as measured by internal client surveys, and | ||
| 4. | Continued loan growth for the combined firm at rates exceeding those of the previous period. |
This experience with the Mid-America merger mirrors the successful integration in 2006 of Cavalry
Banking (“Cavalry”). Cavalry was a one-bank holding company headquartered in Rutherford County,
one of the fastest growing counties in Tennessee. In that acquisition, we met synergy targets and
achieved all major milestones while significantly increasing market share. Furthermore, we do not
believe we have lost and do not anticipate losing any significant revenue producers or clients as a
result of the Mid-America integration.
Opportunity. We believe there are major trends in the Nashville MSA that strengthen our strategic
market position as a locally managed community bank:
| • | Clients generally perceive that service levels at banks are declining. We believe this is largely attributable to merger-related integration issues resulting from consolidation in the bank and brokerage industries. Additionally, small business owners want a reliable point of contact that is knowledgeable about their business and the financial products and services that are important to the success of their business. Nashville is dominated by three large regional bank holding companies that are headquartered elsewhere, each of whom is experiencing declining market share trends over the last seven years; and | ||
| • | There is significant growth in the demand for convenient access to financial services, particularly through ATMs, telephone banking, remote deposit capture and Internet banking. We have developed best-in-class products and services in these areas, including free ATM usage and a comprehensive Internet banking suite of products. |
Our primary market segments, which are small businesses with annual sales from $1 million to $50
million, real estate professionals and consumers that are not price-based shoppers, are more likely
to be disaffected by the banking industry’s perceived decline in customer service and lack of
financial product sophistication. To overcome these client perceptions and attract business from
these market segments, our approach is to hire only seasoned professionals, from both the banking
and brokerage industries, and strategically design our banking, investment and insurance products
to meet the expected needs of our targeted market segments. As an example, we consider our consumer
brokerage and corporate treasury management products to be at least at parity with the large
regional banks that dominate our target segment in the Nashville market. Our advantage is that we
have both the sophisticated product offering and the exceptional service level provided by local
financial advisors working hand-in-hand with the client on an ongoing basis. Accordingly, our
marketing philosophy is centered on delivering exceptional service and effective financial advice
through highly trained personnel who understand and care about the broad financial needs and
objectives of our clients.
Business Strategies. To carry out our marketing philosophy, our specific business strategies have
been and will continue to be:
| • | Hire and retain highly experienced and qualified banking and financial professionals with successful track records and, for client contact personnel, established books of business with small businesses, real estate professionals and affluent households within the Nashville and Knoxville MSAs. On average, our senior client contact associates have in excess of 20 years experience in their local market. We have also achieved an annual associate retention rate of approximately 90 percent. We believe we will continue to experience success in attracting more market-best associates to our firm as well as retaining our highly experienced and successful group of associates. | ||
| • | Provide individualized attention with consistent, local decision-making authority. | ||
| • | Offer a full line of financial services to include traditional depository and credit products, as well as sophisticated investment, trust and insurance products and services. As of December 31, 2007, Pinnacle National’s brokerage division, Pinnacle Asset Management, had accumulated approximately $878 million in brokerage assets. In 2007, Pinnacle Asset Management was |
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| the top producer among Raymond James Financial Services branches nationwide. Additionally, our trust department had accumulated approximately $464 million in trust assets under management at December 31, 2007. We will use our trust area, Pinnacle Asset Management and Miller and Loughry Insurance Services to provide a broad array of sophisticated and convenient investment and insurance products and services. |
| • | Capitalize on customer dissatisfaction that we believe exists and has been caused by what we believe to be our competitors’ less than satisfactory response to the financial needs of today’s sophisticated consumers and small- to medium-sized businesses. Since we began our company, we have historically surveyed our customers on numerous matters related to their relationship with us. Consistently, 100 percent of these surveys indicate that Pinnacle is recognizably better than our competitors. | ||
| • | Offer extraordinary convenience by building a distribution system with online banking, telephone banking, remote deposit services and access to ATMs across the globe to provide options for clients to access financial services 24/7. In addition to the office expansion through acquisition, we opened two new offices in 2007, one in the Nashville MSA and the other in Knoxville. |
We believe our business strategies allow us to effectively distinguish ourselves from other
financial institutions operating within the Nashville and Knoxville MSAs and successfully attract
and retain business relationships with small businesses and affluent households.
Market Area. Our markets of Nashville and Knoxville are two of the top three banking market areas
in Tennessee.
Nashville MSA
The Nashville MSA, Pinnacle’s primary market area, includes Davidson County and twelve
surrounding counties. This area represents a geographic area that covers approximately 4,000
square miles and a population in excess of 1.3 million people. For Pinnacle National, we
concentrate our market efforts on Davidson, Rutherford, Williamson, Sumner, Wilson, Cheatham,
Dickson and Bedford counties which represent 89.9% of the Nashville MSA’s population base and
95.3% of the deposit base (based on June 30, 2007 FDIC information). The area’s growth is
not limited to population. Median income in the Nashville MSA is expected to have increased
by 22% between 2000 and 2008.
Nashville is the capitol of Tennessee and an important transportation, business and tourism
center within the United States. Additionally, the metropolitan Nashville area has attracted
a number of significant business relocations resulting in an expansion of its labor force
into many different industry sectors. In 2007, Expansion Management once again ranked
Nashville as one of “America’s 50 Hottest Cities” for relocation and expansion, and
Marketwatch.com ranked Nashville No. 6 nationally in its Top 10 Cities for Business ranking
because of Nashville’s robust industry sectors. In its Best Cities for Relocating Families
ranking, Primacy ranked Nashville No. 2 nationally among large market cities based on factors
such as home prices, appreciation rates and property taxes. Over the last few years,
Nashville has been chosen by such companies as Louisiana Pacific, Nissan North America,
CareMark and Dell to relocate their U.S. headquarters or to significantly expand their
operations.
Our primary service area’s economic strength comes from its large employer base, which
includes several large enterprises such as Vanderbilt University and Medical Center, HCA
Inc., Saturn Corporation and Nissan Motor Manufacturing Corporation USA. There are currently
more than 300 healthcare companies in the Nashville area. Additionally, according to the
Nashville Area Chamber of Commerce, the regional economy has outperformed the state and
national economies during the most recent time periods and continues to benefit from low
unemployment, consistent job growth, substantial outside investment and expansion and a well
trained and growing labor force. We anticipate that these factors will continue to cause more
businesses to relocate to, or start operations in, the Nashville MSA and, in turn, will
increase the demand for depository and lending services within our market at a pace faster
than national averages. In comparing Nashville MSA deposits as of June 30, 2007 to those at
June 30, 2006, the Nashville MSA deposits were $2.1 billion higher in 2007 than in 2006,
which reflects a 7.4% growth rate.
Knoxville MSA
The Knoxville MSA, where Pinnacle established its de novo presence in 2007, includes five
counties with a total population of 667,000 in 2006. According to a Labor Market Assessment
of the Greater Knoxville Region conducted for the Knoxville Area Chamber Partnership in 2006,
the area’s population is growing faster than the state or national growth rates. The study
indicates the population is projected to increase by 5.8%, compared to 4.3% for Tennessee and
4.8%
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nationally, between 2006 and 2011. Primacy ranked Knoxville No. 1 nationally among middle
market cities based on factors such as home prices, appreciation rates and property taxes.
The business climate in the Knoxville MSA has earned the area a reputation for being a good
choice for relocation. For instance, Expansion Management magazine ranks Knoxville among its
50 Hottest Cities, Forbes ranked Knoxville the No. 5 in its ranking of Best Places for
Business and Careers, and Site Selection magazine ranked Knoxville No. 5 nationally for Best
Overall Business Climate.
Among the leading companies that have recently relocated significant operations to the
Knoxville area are Brinks Home Security, SYSCO Corporation, Reily Foods and Exedy America.
The area was already home to corporate headquarters such as Panasonic Electronic Devices,
Regal Corp., Scripps Networks, Sea Ray Boats, Goody’s Family Clothing, Pilot Oil, Ruby
Tuesday and the Tennessee Valley Authority.
The region is also home to the University of Tennessee and Oak Ridge National Laboratory and
Y-12 National Security Complex. These intellectual assets help spur growth in the Knoxville
MSA.
Competitive Conditions. The Nashville MSA banking market is very competitive, with 59 financial
institutions with over $30.6 billion in deposits in the market as of June 30, 2007 up from
approximately $28.5 billion at June 30, 2006 according to FDIC data. As of June 30, 2007,
approximately 65.0% of this deposit base was controlled by large, multi-state banks headquartered
outside of Nashville, which included the following six banks, Regions Financial (headquartered in
Birmingham, Alabama), Bank of America (headquartered in Charlotte, North Carolina), First Horizon
(headquartered in Memphis, Tennessee), US Bancorp (headquartered in Milwaukee, Wisconsin), SunTrust
(headquartered in Atlanta, Georgia), and Fifth Third (headquartered in Cincinnati, Ohio).
According to FDIC deposit information, the collective market share of deposits in the Nashville MSA
of Regions Financial (including the acquired Union Planters National Bank, First American National
Bank, and AmSouth Bank), Bank of America and SunTrust (including the acquired National Bank of
Commerce) declined from 67.3% to 48.9% during the ten years ended June 30, 2007. Pinnacle, on the
other hand, after only seven years of operations, now holds the No. 4 market share position in the
Nashville MSA immediately behind the three vulnerable out-of-state banks.
The Knoxville MSA banking market is also very competitive, with 35 financial institutions with over
$10.4 billion in deposits in the market as of June 30, 2007. According to FDIC data, bank and
thrift deposits in the Knoxville MSA grew from approximately $10.1 billion at June 30, 1996 to more
than $10.4 billion at June 30, 2007. As of June 30, 2007, approximately 68.0% of this deposit base
was controlled by large, multi-state banks headquartered outside of Knoxville, which included the
following four banks, Regions Financial (headquartered in Birmingham, Alabama), First Horizon
(headquartered in Memphis, Tennessee), Branch Banking and Trust (headquartered in Winston-Salem,
North Carolina), and SunTrust (headquartered in Atlanta, Georgia). According to FDIC deposit
information, the collective market share of deposits in the Knoxville MSA of Regions Financial
(including the acquired Union Planters National Bank, First American National Bank, and AmSouth
Bank), First Horizon and SunTrust (including the acquired National Bank of Commerce) declined from
66.3% to 56.7% during the ten years ended June 30, 2007.
Consequently, while large, multi-state institutions are well established in both of our market
areas, the general trends indicate that a majority of the community banks in our market areas have
been able to increase their deposit market share in recent years at the expense of the larger,
multi-state banks. Furthermore, continued consolidation of our industry, particularly with respect
to the larger regional banks that have presence in our market, should create additional
opportunities for us as we capitalize on customer dissatisfaction that usually occurs following a
merger of these larger multi-state banks.
The Nashville MSA has also experienced several new denovo banks over the last few years. These new
banks will increase the competitiveness of our local market as they work to build market share
within Nashville and the surrounding counties. This competition may limit or reduce our
profitability, reduce our growth and adversely affect our results of operations and financial
condition. We expect that these new banks will approach our customers about moving their banking
relationships as well as approach our associates about joining their organizations. However, we do
not anticipate losing any customers or associates to these organizations as we will continue to
focus on providing high quality customer service and maintaining a high level of engagement with
our associate base.
We also believe that Pinnacle National’s status as a community bank will not be enough to compete
in today’s financial industry. In the wake of modern technology and the prosperity of the United
States’ financial markets, banking clients have generally become more sophisticated in their
approach to selecting financial services providers. We believe that the most important criteria to
our bank’s targeted clients when selecting a bank is their desire to receive exceptional and
personal customer service while being able to enjoy convenient access to a broad array of
sophisticated financial products. Additionally, when presented with a choice, we believe
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that many of our bank’s targeted clients would prefer to deal with a locally-owned institution
headquartered in Tennessee, like Pinnacle National, as opposed to a large, multi-state bank, where
many important decisions regarding a client’s financial affairs are made elsewhere.
Employees
As of Feb. 15, 2008, we employed 732 associates, including 671 full-time associates. These
associates are Pinnacle’s most important asset and are the reason the firm continues to outpace
growth rates of similar institutions. We consider our relationship with all associates to be
excellent. This is supported by the fact that for the fifth consecutive year, Pinnacle was named
by the Nashville Business Journal as the “Best Place to Work in Nashville” among Middle Tennessee’s
large companies with more than 100 employees. The selection is based on a survey of associates.
We are also one of a relatively small number of financial firms in the country that provide stock
options and other forms of equity compensation for all associates via a broad-based equity
incentive plan. We believe this broad-based equity incentive plan directly aligns our employee
base with our shareholders, and that our associates have become even more engaged in the creation
of shareholder value over the intermediate- and long-terms. Information concerning these plans is
included in the “Notes to the Consolidated Financial Statements.”
Additionally, all of our non-commission based employees participate in an annual cash incentive
plan whereby they receive a certain percentage of their annual base salary should the firm meet
certain soundness and earnings targets for the year. Information concerning this plan is included
in “Management’s Discussion and Analysis of Financial Condition and Results of Operations.”
Lending Services
We offer a full range of lending products, including commercial, real estate and consumer loans to
individuals and small-to medium-sized businesses and professional entities. We compete for these
loans with competitors who are also well established in the Nashville and Knoxville MSAs.
Pinnacle National’s loan approval policies provide for various levels of officer lending authority.
When the amount of total loans to a single borrower exceeds that individual officer’s lending
authority, officers with a higher lending limit, Pinnacle National’s board of directors or the
executive committee of the board determine whether to approve the loan request.
Pinnacle National’s lending activities are subject to a variety of lending limits imposed by
federal law. Differing limits apply based on the type of loan or the nature of the borrower,
including the borrower’s relationship to Pinnacle National. In general, however, at December 31,
2007, we were able to loan any one borrower a maximum amount equal to approximately $30.3 million
plus an additional $20.2 million, or a total of approximately $50.5 million, for loans that meet
certain additional federal collateral guidelines. These legal limits will increase or decrease as
our bank subsidiary’s capital increases or decreases as a result of its earnings or losses, the
injection of additional capital or other reasons. In addition to these regulatory limits, Pinnacle
National currently imposes upon itself an internal lending limit of $22 million, which is less than
the prescribed legal lending limit.
The principal economic risk associated with each category of loans that Pinnacle National expects
to make is the creditworthiness of the borrower. General economic factors affecting a commercial or
consumer borrower’s ability to repay include interest, inflation and unemployment rates, as well as
other factors affecting a borrower’s assets, clients, suppliers and employees. Many of Pinnacle
National’s commercial loans are made to small- to medium-sized businesses that are sometimes less
able to withstand competitive, economic and financial pressures than larger borrowers. During
periods of economic weakness, these businesses may be more adversely affected than larger
enterprises, and may cause increased levels of nonaccrual or other problem loans, loan charge-offs
and higher provision for loan losses.
Pinnacle National’s commercial clients borrow for a variety of purposes. The terms of these loans
will vary by purpose and by type of any underlying collateral and include equipment loans and
working capital loans. Commercial loans may be unsecured or secured by accounts receivable or by
other business assets. Pinnacle National also makes a variety of commercial real estate loans,
residential real estate loans and construction and development loans.
Pinnacle National also makes a variety of loans to individuals for personal, family, investment and
household purposes, including secured and unsecured installment and term loans, residential first
mortgage loans, home equity loans and home equity lines of credit. We do not have any
concentrations of subprime loans.
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Investment Securities
In addition to loans, Pinnacle National has other investments primarily in obligations of the
United States government, obligations guaranteed as to principal and interest by the United States
government and other securities. No investment in any of those instruments exceeds any applicable
limitation imposed by law or regulation. The executive committee of the board of directors reviews
the investment portfolio on an ongoing basis in order to ensure that the investments conform to
Pinnacle National’s asset liability management policy as set by the board of directors.
Asset and Liability Management
Our Asset Liability Management Committee (“ALCO”), composed of senior managers of Pinnacle
National, manages Pinnacle National’s assets and liabilities and strives to provide a stable,
optimized net interest income and margin, adequate liquidity and ultimately a suitable after-tax
return on assets and return on equity. ALCO conducts these management functions within the
framework of written policies that Pinnacle National’s board of directors has adopted. ALCO works
to maintain an acceptable position between rate sensitive assets and rate sensitive liabilities.
Deposit Services
Pinnacle National seeks to establish a broad base of core deposits, including savings, checking,
interest-bearing checking, money market and certificate of deposit accounts. To attract deposits,
Pinnacle National has employed a marketing plan in its overall service area and features a broad
product line and competitive rates and services. The primary sources of deposits are residents and
businesses located in the Nashville and Knoxville MSAs. Pinnacle National generally obtains these
deposits through personal solicitation by its officers and directors. We also utilize non-core
deposits as a significant funding source for our growth. These non-core deposit sources primarily
include brokered certificates of deposits and public funds.
Investment, Trust and Insurance Services
Pinnacle National contracts with Raymond James Financial Service, Inc. (“RJFS”), a registered
broker-dealer and investment adviser, to offer and sell various securities and other financial
products to the public from Pinnacle National’s locations through Pinnacle National employees that
are also RJFS employees. RJFS is a subsidiary of Raymond James Financial, Inc.
Pinnacle National offers, through RJFS, non-FDIC insured investment products in order to assist
Pinnacle National’s clients in achieving their financial objectives consistent with their risk
tolerances. Pinnacle National’s suite of investment products include:
•
|
Mutual Funds; | • | Fixed Annuities; | |||||
•
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Variable Annuities; | • | Stocks; | |||||
•
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Money Market Instruments; | • | Financial Planning; | |||||
•
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Treasury Securities; | • | Asset Management Accounts; and | |||||
•
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Bonds; | • | Listed Options. |
All of the financial products listed above are offered by RJFS from Pinnacle National’s main office
and its other offices. Additionally, we believe that the brokerage and investment advisory program
offered by RJFS complements Pinnacle National’s general banking business, and further supports its
business philosophy and strategy of delivering to our clients those products and services that meet
their financial needs. In addition to the compliance monitoring provided by RJFS, Pinnacle National
has developed its own compliance-monitoring program to further ensure that Pinnacle National
personnel deliver these products in a manner consistent with the various regulations governing such
activities.
Pinnacle National receives a percentage of commission credits and fees generated by the program.
Pinnacle National remains responsible for various expenses associated with the program, including
promotional expenses, furnishings and equipment expenses and general personnel costs.
Pinnacle National also maintains a trust department which provides fiduciary and investment
management services for individual and institutional clients. Account types include personal
trust, endowments, foundations, individual retirement accounts, pensions and custody. Pinnacle
Financial has also established Pinnacle Advisory Services, Inc., a registered investment advisor,
to provide investment advisory services to its clients. Additionally, Miller and Loughry Insurance
Services, Inc., a wholly-owned subsidiary of Pinnacle National provides insurance products,
particularly in the property and casualty area, to its clients.
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Other Banking Services
Given client demand for increased convenience in accessing banking and investment services,
Pinnacle National also offers a broad array of convenience-centered products and services,
including 24 hour telephone and Internet banking, debit cards, direct deposit and cash management
services for small- to medium-sized businesses. Additionally, Pinnacle National is associated with
a nationwide network of automated teller machines of other financial institutions that our clients
are able to use throughout Tennessee and other regions. In many cases, Pinnacle National, in
contrast to its regional competitors, reimburses its clients for any fees that may be charged to
the client for utilizing the nationwide ATM network which enables us to demonstrate greater
convenience as compared to these competitors.
Pinnacle National also offers its targeted commercial clients remote deposit services, which allow
electronic deposits to be made from the client’s place of business, giving clients even greater
convenience.
Available Information
We file reports with the Securities and Exchange Commission (“SEC”), including annual reports on
Form 10-K, quarterly reports on Form 10-Q and current reports on Form 8-K. The public may read and
copy any materials we file with the SEC at the SEC’s Public Reference Room at 100 F Street, N.E.,
Washington, DC 20549. The public may obtain information on the operation of the Public Reference
Room by calling the SEC at 1-800-SEC-0330. We are an electronic filer, and the SEC maintains an
Internet site at www.sec.gov that contains the reports, proxy and information statements, and other
information we have filed electronically. Our website address is www.pnfp.com. Please
note that our website address is provided as an inactive textual reference only. We make available
free of charge through our website, the annual report on Form 10-K, quarterly reports on Form 10-Q,
current reports on Form 8-K, and all amendments to those reports as soon as reasonably practicable
after such material is electronically filed with or furnished to the SEC. The information provided
on our website is not part of this report, and is therefore not incorporated by reference unless
such information is otherwise specifically referenced elsewhere in this report.
We have posted our Corporate Governance Guidelines, our Corporate Code of Conduct for directors,
officers and employees, and the charters of our Audit Committee, Human Resources and Compensation
Committee, and Nominating and Corporate Governance Committee of our board of directors on the
Corporate Governance section of our website at www.pnfp.com. Our corporate governance materials
are available free of charge upon request to our Corporate Secretary, Pinnacle Financial Partners,
Inc., 211 Commerce Street, Suite 300, Nashville, Tennessee 37201.
SUPERVISION AND REGULATION
Both Pinnacle Financial and Pinnacle National are subject to extensive state and federal banking
laws and regulations that impose restrictions on and provide for general regulatory oversight of
Pinnacle Financial’s and Pinnacle National’s operations. These laws and regulations are generally
intended to protect depositors and borrowers, not shareholders. The following discussion describes
the material elements of the regulatory framework which apply.
Pinnacle Financial
We are a bank holding company under the federal Bank Holding Company Act of 1956. As a result, we
are subject to the supervision, examination, and reporting requirements of the Bank Holding Company
Act and the regulations of the Federal Reserve.
Acquisition of Banks. The Bank Holding Company Act requires every bank holding company to obtain
the Federal Reserve’s prior approval before:
| • | Acquiring direct or indirect ownership or control of any voting shares of any bank if, after the acquisition, the bank holding company will directly or indirectly own or control more than 5% of the bank’s voting shares; | ||
| • | Acquiring all or substantially all of the assets of any bank; or | ||
| • | Merging or consolidating with any other bank holding company. |
Additionally, the Bank Holding Company Act provides that the Federal Reserve may not approve any of
these transactions if it would substantially lessen competition or otherwise function as a
restraint of trade, or result in or tend to create a monopoly, unless the anticompetitive effects
of the proposed transaction are clearly outweighed by the public interest in meeting the
convenience and needs of the communities to be served. The Federal Reserve is also required to
consider the financial and managerial resources and
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future prospects of the bank holding companies and banks concerned and the convenience and needs of
the communities to be served. The Federal Reserve’s consideration of financial resources generally
focuses on capital adequacy, which is discussed below.
Under the Bank Holding Company Act, if adequately capitalized and adequately managed, we or any
other bank holding company located in Tennessee may purchase a bank located outside of Tennessee.
Conversely, an adequately capitalized and adequately managed bank holding company located outside
of Tennessee may purchase a bank located inside Tennessee. In each case, however, state law
restrictions may be placed on the acquisition of a bank that has only been in existence for a
limited amount of time or will result in specified concentrations of deposits. For example,
Tennessee law currently prohibits a bank holding company from acquiring control of a
Tennessee-based financial institution until the target financial institution has been in operation
for three years.
Change in Bank Control. Subject to various exceptions, the Bank Holding Company Act and the Federal
Change in Bank Control Act, together with related regulations, require Federal Reserve approval
prior to any person or company acquiring “control” of a bank holding company. Control is
conclusively presumed to exist if an individual or company acquires 25% or more of any class of
voting securities of the bank holding company. Control is rebuttably presumed to exist if a person
or company acquires 10% or more, but less than 25%, of any class of voting securities and either:
| • | The bank holding company has registered securities under Section 12 of the Securities Exchange Act of 1934; or | ||
| • | No other person owns a greater percentage of that class of voting securities immediately after the transaction. |
Our common stock is registered under the Securities Exchange Act of 1934. The regulations provide a
procedure for challenge of the rebuttable control presumption.
Permitted Activities. The Gramm-Leach-Bliley Act of 1999 amended the Bank Holding Company Act and
expanded the activities in which bank holding companies and affiliates of banks are permitted to
engage. The Gramm-Leach-Bliley Act eliminates many federal and state law barriers to affiliations
among banks and securities firms, insurance companies, and other financial service providers.
Generally, if we qualify and elect to become a financial holding company, which is described below,
we may engage in activities that are:
| • | Financial in nature; | ||
| • | Incidental to a financial activity; or | ||
| • | Complementary to a financial activity and do not pose a substantial risk to the safety or soundness of depository institutions or the financial system generally. |
The Gramm-Leach-Bliley Act expressly lists the following activities as financial in nature:
| • | Lending, trust and other banking activities; | ||
| • | Insuring, guaranteeing, or indemnifying against loss or harm, or providing and issuing annuities, and acting as principal, agent, or broker for these purposes, in any state; | ||
| • | Providing financial, investment, or advisory services; | ||
| • | Issuing or selling instruments representing interests in pools of assets permissible for a bank to hold directly; | ||
| • | Underwriting, dealing in or making a market in securities; | ||
| • | Activities that the Federal Reserve has determined to be so closely related to banking or managing or controlling banks as to be a proper incident to banking or managing or controlling banks; |
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| • | Activities permitted outside of the United States that the Federal Reserve has determined to be usual in connection with banking or other financial operations abroad; | ||
| • | Merchant banking through securities or insurance affiliates; and | ||
| • | Insurance company portfolio investments. |
The Gramm-Leach-Bliley Act also authorizes the Federal Reserve, in consultation with the Secretary
of the Treasury, to determine activities in addition to those listed above that are financial in
nature or incidental to such financial activity. In determining whether a particular activity is
financial in nature or incidental or complementary to a financial activity, the Federal Reserve
must consider (1) the purpose of the Bank Holding Company and Gramm-Leach-Bliley Acts, (2) changes
or reasonably expected changes in the marketplace in which financial holding companies compete and
in the technology for delivering financial services, and (3) whether the activity is necessary or
appropriate to allow financial holding companies to effectively compete with other financial
service providers and to efficiently deliver information and services.
To qualify to become a financial holding company, any of our depository institution subsidiaries
must be well capitalized and well managed and must have a Community Reinvestment Act rating of at
least “satisfactory.” Additionally, we must file an election with the Federal Reserve to become a
financial holding company and provide the Federal Reserve with 30 days written notice prior to
engaging in a permitted financial activity. Although we do not have any immediate plans to file an
election with the Federal Reserve to become a financial holding company, one of the primary reasons
we selected the holding company structure was to have increased flexibility. Accordingly, if deemed
appropriate in the future, we may seek to become a financial holding company.
Under the Bank Holding Company Act, a bank holding company, which has not qualified or elected to
become a financial holding company, is generally prohibited from engaging in or acquiring direct or
indirect control of more than 5% of the voting shares of any company engaged in nonbanking
activities unless, prior to the enactment of the Gramm-Leach-Bliley Act, the Federal Reserve found
those activities to be so closely related to banking as to be a proper incident to the business of
banking. Activities that the Federal Reserve has found to be so closely related to banking as to be
a proper incident to the business of banking include:
| • | Factoring accounts receivable; | ||
| • | Acquiring or servicing loans; | ||
| • | Leasing personal property; | ||
| • | Conducting discount securities brokerage activities; | ||
| • | Performing selected data processing services; | ||
| • | Acting as agent or broker in selling credit life insurance and other types of insurance in connection with credit transactions; and | ||
| • | Performing selected insurance underwriting activities. |
Despite prior approval, the Federal Reserve may order a bank holding company or its subsidiaries to
terminate any of these activities or to terminate its ownership or control of any subsidiary when
it has reasonable cause to believe that the bank holding company’s continued ownership, activity or
control constitutes a serious risk to the financial safety, soundness, or stability of any of its
bank subsidiaries.
Support of Subsidiary Institutions. Under Federal Reserve policy, we are expected to act as a
source of financial strength for our bank subsidiary, Pinnacle National, and to commit resources to
support Pinnacle National. This support may be required at times when, without this Federal Reserve
policy, we might not be inclined to provide it. In the unlikely event of our bankruptcy, any
commitment by us to a federal bank regulatory agency to maintain the capital of Pinnacle National
would be assumed by the bankruptcy trustee and entitled to a priority of payment.
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Pinnacle National
Following our merger with Mid-America, on February 29, 2008, we, through Pinnacle National, sold
the charter of PrimeTrust Bank to an unaffiliated third party but simultaneously purchased all of
the assets and assumed all of the liabilities of PrimeTrust Bank and merged Bank of the South into
Pinnacle National so that we now own only one bank — Pinnacle National. Pinnacle National is a
national bank chartered under the federal National Bank Act. As a result, it is subject to the
supervision, examination and reporting requirements of the National Bank Act and the regulations of
the Office of the Comptroller of the Currency (the “OCC”). The OCC regularly examines Pinnacle
National’s operations and has the authority to approve or disapprove mergers, the establishment of
branches and similar corporate actions. The OCC also has the power to prevent the continuance or
development of unsafe or unsound banking practices or other violations of law. Additionally,
Pinnacle National’s deposits are insured by the FDIC to the maximum extent provided by law.
Pinnacle National also is subject to numerous state and federal statutes and regulations that will
affect its business, activities and operations.
Branching. While the OCC has authority to approve branch applications, national banks are required
by the National Bank Act to adhere to branching laws applicable to state chartered banks in the
states in which they are located. With prior regulatory approval, Tennessee law permits banks based
in the state to either establish new or acquire existing branch offices throughout Tennessee.
Pinnacle National and any other national or state-chartered bank generally may branch across state
lines by merging with banks in other states if allowed by the applicable states’ laws. Tennessee
law, with limited exceptions, currently permits branching across state lines either through
interstate merger, branch acquisition, or branch establishment. The laws of Alabama, North Carolina
and Virginia would allow Pinnacle to acquire or establish branches in those states, and banks in
those states to similarly branch in Tennessee.
FDIC Insurance. The FDIC has adopted a risk-based assessment system for insured depository
institutions that takes into account the risks attributable to different categories and
concentrations of assets and liabilities. In early 2006, Congress passed the Federal Deposit
Insurance Reform Act of 2005, which made certain changes to the Federal deposit insurance program.
These changes included merging the Bank Insurance Fund and the Savings Association Insurance Fund,
increasing retirement account coverage to $250,000 and providing for inflationary adjustments to
general coverage beginning in 2010, providing the FDIC with authority to set the fund’s reserve
ratio within a specified range, and requiring dividends to banks if the reserve ratio exceeds
certain levels. The new statute grants banks an assessment credit based on their share of the
assessment base on December 31, 1996, and the amount of the credit can be used to reduce
assessments in any year subject to certain limitations. Because it was not organized until 2000,
Pinnacle National was not eligible to receive this one-time assessment credit; however,
approximately $297,000 in credits were available from the Cavalry acquisition, all of which were
used to reduce our insurance assessment in 2007.
The FDIC may terminate its insurance of deposits if it finds that the institution has engaged in
unsafe and unsound practices, is in an unsafe or unsound condition to continue operations, or has
violated any applicable law, regulation, rule, order or condition imposed by the FDIC.
Capital Adequacy
Both Pinnacle Financial and Pinnacle National are required to comply with the capital adequacy
standards established by the Federal Reserve, in our case, and the OCC, in the case of Pinnacle
National. The Federal Reserve has established a risk-based and a leverage measure of capital
adequacy for bank holding companies. Pinnacle National is also subject to risk-based and leverage
capital requirements adopted by the OCC, which are substantially similar to those adopted by the
Federal Reserve for bank holding companies.
The risk-based capital standards are designed to make regulatory capital requirements more
sensitive to differences in risk profiles among banks and bank holding companies, to account for
off-balance-sheet exposure, and to minimize disincentives for holding liquid assets. Assets and
off-balance-sheet items, such as letters of credit and unfunded loan commitments, are assigned to
broad risk categories, each with appropriate risk weights. The resulting capital ratios represent
capital as a percentage of total risk-weighted assets and off-balance-sheet items.
The minimum guideline for the ratio of total capital to risk-weighted assets is 8%. Total capital
consists of two components, Tier 1 capital and Tier 2 capital. Tier 1 capital generally consists of
common stock, minority interests in the equity accounts of consolidated subsidiaries, noncumulative
perpetual preferred stock, and a limited amount of cumulative perpetual preferred stock, less
goodwill and other specified intangible assets. Tier 1 capital must equal at least 4% of
risk-weighted assets. Tier 2 capital generally consists of subordinated debt, other preferred
stock, and a limited amount of loan loss reserves. The total amount of Tier 2 capital is limited to
100% of Tier 1 capital.
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In addition, the Federal Reserve has established minimum leverage ratio guidelines for bank holding
companies. These guidelines provide for a minimum ratio of Tier 1 capital to average assets, less
goodwill and other specified intangible assets, of 3% for bank holding companies that meet
specified criteria, including having the highest regulatory rating and implementing the Federal
Reserve’s risk-based capital measure for market risk. All other bank holding companies generally
are required to maintain a leverage ratio of at least 4%. The guidelines also provide that bank
holding companies experiencing high internal growth, as is our case, or making acquisitions will be
expected to maintain strong capital positions substantially above the minimum supervisory levels.
Furthermore, the Federal Reserve has indicated that it will consider a bank holding company’s Tier
1 capital leverage ratio, after deducting all intangibles, and other indicators of capital strength
in evaluating proposals for expansion or new activities.
Information concerning our regulatory ratios at December 31, 2007 is included in the “Notes to the
Consolidated Financial Statements.”
If our growth rate continues, as we presently anticipate, our assets will grow faster than our
capital and our capital ratios will decline. In order to maintain capital at Pinnacle National at
appropriate levels, we may be required to incur borrowings or issue additional trust preferred or
equity securities, the proceeds of which would be contributed to Pinnacle National.
Failure to meet capital guidelines could subject a bank or bank holding company to a variety of
enforcement remedies, including issuance of a capital directive, the termination of deposit
insurance by the FDIC, a prohibition on accepting brokered deposits, and other restrictions on its
business. As described above, significant additional restrictions can be imposed on FDIC-insured
depository institutions that fail to meet applicable capital requirements.
Prompt Corrective Action
The Federal Deposit Insurance Corporation Improvement Act of 1991 establishes a system of prompt
corrective action to resolve the problems of undercapitalized financial institutions. Under this
system, the federal banking regulators have established five capital categories (well capitalized,
adequately capitalized, undercapitalized, significantly undercapitalized and critically
undercapitalized) into one of which all institutions are placed. Federal banking regulators are
required to take various mandatory supervisory actions and are authorized to take other
discretionary actions with respect to institutions in the three undercapitalized categories. The
severity of the action depends upon the capital category in which the institution is placed.
Generally, subject to a narrow exception, the banking regulator must appoint a receiver or
conservator for an institution that is critically undercapitalized. The federal banking agencies
have specified by regulation the relevant capital level for each category.
An institution that is categorized as undercapitalized, significantly undercapitalized, or
critically undercapitalized is required to submit an acceptable capital restoration plan to its
appropriate federal banking agency. A bank holding company must guarantee that a subsidiary
depository institution meets its capital restoration plan, subject to various limitations. The
controlling holding company’s obligation to fund a capital restoration plan is limited to the
lesser of 5% of an undercapitalized subsidiary’s assets or the amount required to meet regulatory
capital requirements. An undercapitalized institution is also generally prohibited from increasing
its average total assets, making acquisitions, establishing any branches or engaging in any new
line of business, except under an accepted capital restoration plan or with FDIC approval. The
regulations also establish procedures for downgrading an institution and a lower capital category
based on supervisory factors other than capital. As of December 31, 2007, we believe Pinnacle
National and our other banking subsidiaries in existence at that date would be considered “well
capitalized” by their primary regulators.
Payment of Dividends
We are a legal entity separate and distinct from Pinnacle National. Over time, the principal source
of our cash flow, including cash flow to pay dividends to our holders of trust preferred securities
and to our common stock shareholders, will be dividends that Pinnacle National pays to us as its
sole shareholder. Statutory and regulatory limitations apply to Pinnacle National’s payment of
dividends to us as well as to our payment of dividends to our shareholders
Pinnacle National is required by federal law to obtain the prior approval of the OCC for payments
of dividends if the total of all dividends declared by its board of directors in any year will
exceed (1) the total of Pinnacle National’s net profits for that year, plus (2) Pinnacle National’s
retained net profits of the preceding two years, less any required transfers to surplus.
Generally, federal regulatory policy encourages holding company debt to be serviced by subsidiary
bank dividends or additional equity issuances instead of utilizing additional debt for such
purpose. In the fourth quarter of 2007, Pinnacle National paid dividends to Pinnacle Financial of
$1.25 million.
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The payment of dividends by Pinnacle National and us may also be affected by other factors, such as
the requirement to maintain adequate capital above regulatory guidelines. If, in the opinion of the
OCC, Pinnacle National was engaged in or about to engage in an unsafe or unsound practice, the OCC
could require, after notice and a hearing, that Pinnacle National stop or refrain from engaging in
the practice. The federal banking agencies have indicated that paying dividends that deplete a
depository institution’s capital base to an inadequate level would be an unsafe and unsound banking
practice. Under the Federal Deposit Insurance Corporation Improvement Act of 1991, a depository
institution may not pay any dividend if payment would cause it to become undercapitalized or if it
already is undercapitalized. Moreover, the federal agencies have issued policy statements that
provide that bank holding companies and insured banks should generally only pay dividends out of
current operating earnings. See “Prompt Corrective Action” above.
Restrictions on Transactions with Affiliates
Both Pinnacle Financial and Pinnacle National are subject to the provisions of Section 23A of the
Federal Reserve Act. Section 23A places limits on the amount of:
| • | A bank’s loans or extensions of credit to affiliates; | ||
| • | A bank’s investment in affiliates; | ||
| • | Assets a bank may purchase from affiliates, except for real and personal property exempted by the Federal Reserve; | ||
| • | The amount of loans or extensions of credit to third parties collateralized by the securities or obligations of affiliates; and | ||
| • | A bank’s guarantee, acceptance or letter of credit issued on behalf of an affiliate. |
The total amount of the above transactions is limited in amount, as to any one affiliate, to 10% of
a bank’s capital and surplus and, as to all affiliates combined, to 20% of a bank’s capital and
surplus. In addition to the limitation on the amount of these transactions, each of the above
transactions must also meet specified collateral requirements. Pinnacle National must also comply
with other provisions designed to avoid the taking of low-quality assets.
Pinnacle Financial and Pinnacle National are also subject to the provisions of Section 23B of the
Federal Reserve Act which, among other things, prohibits an institution from engaging in the above
transactions with affiliates unless the transactions are on terms substantially the same, or at
least as favorable to the institution or its subsidiaries, as those prevailing at the time for
comparable transactions with nonaffiliated companies.
Pinnacle National is also subject to restrictions on extensions of credit to its executive
officers, directors, principal shareholders and their related interests. These extensions of credit
(1) must be made on substantially the same terms, including interest rates and collateral, as those
prevailing at the time for comparable transactions with third parties, and (2) must not involve
more than the normal risk of repayment or present other unfavorable features.
Community Reinvestment
The Community Reinvestment Act requires that, in connection with examinations of financial
institutions within their respective jurisdictions, the Federal Reserve, the OCC or the FDIC shall
evaluate the record of each financial institution in meeting the credit needs of its local
community, including low- and moderate-income neighborhoods. These facts are also considered in
evaluating mergers, acquisitions, and applications to open a branch or facility. Failure to
adequately meet these criteria could impose additional requirements and limitations on Pinnacle
National. Additionally, banks are required to publicly disclose the terms of various Community
Reinvestment Act-related agreements. Pinnacle National has received a “satisfactory” CRA rating
from the OCC.
Privacy
Under the Gramm-Leach-Bliley Act, financial institutions are required to disclose their policies
for collecting and protecting confidential information. Customers generally may prevent financial
institutions from sharing personal financial information with nonaffiliated third parties except
for third parties that market the institutions’ own products and services. Additionally, financial
institutions generally may not disclose consumer account numbers to any nonaffiliated third party
for use in telemarketing, direct mail marketing or other marketing through electronic mail to
consumers. Pinnacle National has established a privacy policy to ensure compliance with federal
requirements.
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Other Consumer Laws and Regulations
Interest and other charges collected or contracted for by Pinnacle National are subject to state
usury laws and federal laws concerning interest rates. For example, under the Soldiers’ and
Sailors’ Civil Relief Act of 1940, a lender is generally prohibited from charging an annual
interest rate in excess of 6% on any obligations for which the borrower is a person on active duty
with the United States military. Pinnacle National’s loan operations are also subject to federal
laws applicable to credit transactions, such as the:
| • | Federal Truth-In-Lending Act, governing disclosures of credit terms to consumer borrowers; | ||
| • | Home Mortgage Disclosure Act of 1975, requiring financial institutions to provide information to enable the public and public officials to determine whether a financial institution is fulfilling its obligation to help meet the housing needs of the community it serves; | ||
| • | Equal Credit Opportunity Act, prohibiting discrimination on the basis of race, creed or other prohibited factors in extending credit; | ||
| • | Fair Credit Reporting Act of 1978, governing the use and provision of information to credit reporting agencies; | ||
| • | Fair Debt Collection Act, governing the manner in which consumer debts may be collected by collection agencies; | ||
| • | Bank Secrecy Act, governing how banks and other firms report certain currency transactions and maintain appropriate safeguards against “money laundering” activities; | ||
| • | Soldiers’ and Sailors’ Civil Relief Act of 1940, governing the repayment terms of, and property rights underlying, secured obligations of persons in military service; and | ||
| • | Rules and regulations of the various federal agencies charged with the responsibility of implementing the federal laws. |
Pinnacle National’s deposit operations are subject to the:
| • | Right to Financial Privacy Act, which imposes a duty to maintain confidentiality of consumer financial records and prescribes procedures for complying with administrative subpoenas of financial records; and | ||
| • | Electronic Funds Transfer Act and Regulation E issued by the Federal Reserve to implement that act, which govern automatic deposits to and withdrawals from deposit accounts and customers’ rights and liabilities arising from the use of automated teller machines and other electronic banking services. |
Anti-Terrorism Legislation
On October 26, 2001, the President of the United States signed the Uniting and Strengthening
America by Providing Appropriate Tools Required to Intercept and Obstruct Terrorism (USA PATRIOT)
Act of 2001. Under the USA PATRIOT Act, financial institutions are subject to prohibitions against
specified financial transactions and account relationships as well as enhanced due diligence and
“know your customer” standards in their dealings with foreign financial institutions and foreign
customers.
In addition, the USA PATRIOT Act authorizes the Secretary of the Treasury to adopt rules increasing
the cooperation and information sharing between financial institutions, regulators, and law
enforcement authorities regarding individuals, entities and organizations engaged in, or reasonably
suspected based on credible evidence of engaging in, terrorist acts or money laundering activities.
Any financial institution complying with these rules will not be deemed to have violated the
privacy provisions of the Gramm-Leach-Bliley Act, as discussed above. Pinnacle National currently
has policies and procedures in place designed to comply with the USA PATRIOT Act.
Proposed Legislation and Regulatory Action
New regulations and statutes are regularly proposed that contain wide-ranging proposals for
altering the structures, regulations and competitive relationships of the nation’s financial
institutions. We cannot predict whether or in what form any proposed regulation or statute will be
adopted or the extent to which our business may be affected by any new regulation or statute.
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Effect of Governmental Monetary Policies
Our earnings are affected by domestic economic conditions and the monetary and fiscal policies of
the United States government and its agencies. The Federal Reserve’s monetary policies have had,
and are likely to continue to have, an important impact on the operating results of commercial
banks through the Federal Reserve’s statutory power to implement national monetary policy in order,
among other things, to curb inflation or combat a recession. The Federal Reserve, through its
monetary and fiscal policies, affects the levels of bank loans, investments and deposits through
its control over the issuance of United States government securities, its regulation of the
discount rate applicable to member banks and its influence over reserve requirements to which
member banks are subject. We cannot predict the nature or impact of future changes in monetary and
fiscal policies.
ITEM 1A. RISK FACTORS
Investing in our common stock involves various risks which are particular to our company, our
industry and our market area. Several risk factors regarding investing in our common stock are
discussed below. This listing should not be considered as all-inclusive. If any of the following
risks were to occur, we may not be able to conduct our business as currently planned and our
financial condition or operating results could be negatively impacted. These matters could cause
the trading price of our common stock to decline in future periods.
We are geographically concentrated in the Nashville, Tennessee MSA, and changes in local economic
conditions impact our profitability.
We currently operate primarily in the Nashville, Tennessee MSA, and most all of our loan, deposit
and other customers live or have operations in the Nashville MSA. Accordingly, our success
significantly depends upon the growth in population, income levels, deposits and housing starts in
the Nashville MSA, along with the continued attraction of business ventures to the area. Our
profitability is impacted by the changes in general economic conditions in this market.
Additionally, unfavorable local or national economic conditions could reduce our growth rate,
affect the ability of our customers to repay their loans to us and generally affect our financial
condition and results of operations.
We are less able than a larger institution to spread the risks of unfavorable local economic
conditions across a large number of diversified economies. Moreover, we cannot give any assurance
that we will benefit from any market growth or favorable economic conditions in our primary market
areas if they do occur.
We may not be able to continue to expand into the Knoxville MSA in the time frame and at the levels
that we currently expect and our projected expansion may continue to reduce our net income in 2008.
In order to continue our expansion into the Knoxville MSA we will be required to hire a significant
number of new associates and build out a branch network. We can not assure you that we will be
able to hire the number of experienced associates that we need to successfully execute our strategy
in the Knoxville MSA, nor can we assure you that the associates we hire will be able to
successfully execute our growth strategy in that market. Because we seek to hire experienced
associates, the compensation cost associated with these individuals may be higher than that of
other financial institutions of similar size in the market. If we are unable to grow our loan
portfolio at planned rates, the increased compensation expense of these experienced associates may
negatively impact our results of operations. Because there will be a period of time before we are
able to fully deploy our resources in the Knoxville MSA, our start up costs, including the cost of
our associates and our branch expansion, will negatively impact our results of operations. In
addition, if we are not able to expand our branch footprint in the Knoxville MSA in the time period
that we have targeted, our results of operations may be negatively impacted. Execution of our
growth plans in the Knoxville MSA also depends on continued growth in the Knoxville economy, and
unfavorable local or national economic conditions could reduce our growth rate, affect the ability
of our customers to repay their obligations to us and generally negatively affect our financial
condition and results of operations.
Our continued growth may require the need for additional capital and further regulatory approvals
which, if not obtained, could adversely impact our profitability and implementation of our current
business plan.
To continue to grow, we will need to provide sufficient capital to Pinnacle National through
earnings generation, additional equity or trust preferred offerings or borrowed funds or any
combination of these sources of funds. For certain amounts or types of indebtedness, we may be
required to obtain certain regulatory approvals beforehand. Should our growth exceed our
expectations, we may need to raise additional capital over our projected capital needs. However,
our ability to raise additional capital, if needed,
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will depend on conditions in the capital
markets at that time, which are outside our control, and on our financial performance.
Accordingly, we cannot assure our ability to raise additional capital if needed on terms acceptable
to us. If we cannot raise additional capital when needed, our ability to further expand and grow
our operations could be materially impaired. Additionally, our current plan involves increasing our
branch network, which will require capital expenditures. Our expansion efforts will likely also
require certain regulatory approvals. Should we not be able to obtain such approvals or otherwise
not be able to grow our asset base, our ability to attain our long-term profitability goals will be
more difficult.
We have a concentration of credit exposure to borrowers in certain industries and we also target
small to medium-sized businesses.
At December 31, 2007, we had significant credit exposures to borrowers in the trucking industry;
commercial and residential building lessors; new home builders and to land subdividers. If any of
these industries experience an economic slowdown and, as a result, the borrowers in these
industries are unable to perform their obligations under their existing loan agreements, our
earnings could be negatively impacted, causing the value of our common stock to decline.
Additionally, a substantial focus of our marketing and business strategy is to serve small to
medium-sized businesses in the Nashville and Knoxville MSAs. As a result, a relatively high
percentage of our loan portfolio consists of commercial loans primarily to small to medium-sized
business. At December 31, 2007, our commercial and industrial loans accounted for 30% of our total
loans. During periods of economic weakness, small to medium-sized businesses may be impacted more
severely and more quickly than larger businesses. Consequently, the ability of such businesses to
repay their loans may deteriorate, and in some cases this determination may occur quickly, which
would adversely impact our results of operations and financial condition.
With our recent acquisitions of Cavalry and Mid-America, we significantly increased our real estate
construction and development loans, which have a greater credit risk than residential mortgage
loans.
Following the acquisitions of Cavalry and Mid-America, construction and development lending is a
more significant portion of Pinnacle Financial’s loan portfolio than it was prior to these
acquisitions. The percentage of construction and land development loans in our bank subsidiaries’
portfolios increased to approximately 18.7% of total loans at December 31, 2007 from 16.9% at
December 31, 2006 and 10.5% at December 31, 2005. This type of lending is generally considered to
have more complex credit risks than traditional single-family residential lending because the
principal is concentrated in a limited number of loans with repayment dependent on the successful
operation of the related real estate project. Consequently, these loans are more sensitive to
adverse conditions in the real estate market or the general economy. These loans are generally less
predictable and more difficult to evaluate and monitor and collateral may be difficult to dispose
of in a market decline. Additionally, Pinnacle National may experience significant construction
loan losses because independent appraisers or project engineers inaccurately estimate the cost and
value of construction loan projects. Also, in the event of a general economic downturn in the
construction industry, Pinnacle Financial’s results of operations may be adversely impacted and its
net book value may be reduced.
We may not be able to successfully integrate Mid-America’s operations with ours or realize the
anticipated benefits of our merger with Mid-America.
The merger of Mid-America with and into Pinnacle Financial involves the combination of two bank
holding companies that previously have operated independently and in the case of Mid-America, two
separate bank subsidiaries that operate separate from one another. A successful combination of the
operations of the three bank subsidiaries will depend substantially on our ability to consolidate
operations, systems and procedures and to eliminate redundancies and costs. We may not be able to
combine our operations with the operations of Mid-America without encountering difficulties, such
as:
| • | the loss of key employees and customers; | ||
| • | the disruption of operations and business; | ||
| • | inability to maintain and increase competitive presence; | ||
| • | loan and deposit attrition, customer loss and revenue loss; | ||
| • | possible inconsistencies in standards, control procedures and policies | ||
| • | unexpected problems with costs, operations, personnel, technology and credit; and/or | ||
| • | problems with the assimilation of new operations, sites or personnel, which could divert resources from regular banking operations. |
Additionally, general market and economic conditions or governmental actions affecting the
financial industry generally may inhibit our successful integration with Mid-America and our
respective bank subsidiaries.
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Further, we entered into the merger agreement with the expectation that the merger will result in
various benefits including, among other things, benefits relating to enhanced revenues, a
strengthened market position for the combined company, cross selling
opportunities, technology, cost savings and operating efficiencies. Achieving the anticipated
benefits of the merger is subject to a number of uncertainties, including whether we integrate
Mid-America and its bank subsidiaries in an efficient and effective manner, and general competitive
factors in the marketplace. Failure to achieve these anticipated benefits could result in a
reduction in the price of our shares as well as in increased costs, decreases in the amount of
expected revenues and diversion of management’s time and energy and could materially impact our
business, financial condition and operating results. Finally, any cost savings that are realized
may be offset by losses in revenues or other charges to earnings.
We may incur significant costs integrating Mid-America.
We expect to incur significant costs associated with combining our operations with those of
Mid-America. Additional unanticipated costs may be incurred in the integration of our business
with the business of Mid-America. Although we expect that the elimination of duplicative costs, as
well as the realization of other efficiencies related to the integration of the businesses, may
offset incremental transaction and merger-related costs over time, this net benefit may not be
achieved in the near term, or at all.
If our allowance for loan losses is not sufficient to cover actual loan losses, our earnings will
decrease.
If loan customers with significant loan balances fail to repay their loans according to the terms
of these loans, our earnings would suffer. We make various assumptions and judgments about the
probable losses in our loan portfolio, including the creditworthiness of our borrowers and the
value of any collateral securing the repayment of our loans. We maintain an allowance for loan
losses in an attempt to cover our estimate of the probable losses in our loan portfolio. In
determining the size of this allowance, we rely on an analysis of our loan portfolio based on
volume and types of loans, internal loan classifications, trends in classifications, volume and
trends in delinquencies, nonaccruals and charge-offs, national and local economic conditions,
industry and peer bank loan quality indications, and other pertinent factors and information.
Because we are a relatively young organization, our allowance estimation may be less reflective of
our historical loss experience than a more mature organization. If our assumptions are inaccurate,
our current allowance may not be sufficient to cover potential loan losses, and additional
provisions may be necessary which would decrease our earnings.
In addition, federal and state regulators periodically review our loan portfolio and may require us
to increase our allowance for loan losses or recognize loan charge-offs. Their conclusions about
the quality of our loan portfolio may be different than ours. Any increase in our allowance for
loan losses or loan charge-offs as required by these regulatory agencies could have a negative
effect on our operating results.
Fluctuations in interest rates could reduce our profitability.
The absolute level of interest rates as well as changes in interest rates may affect our level of
interest income, the primary component of our gross revenue, as well as the level of our interest
expense. Interest rate fluctuations are caused by many factors which, for the most part, are not
under our direct control. For example, national monetary policy plays a significant role in the
determination of interest rates. Additionally, competitor pricing and the resulting negotiations
that occur with our customers also impact the rates we collect on loans and the rates we pay on
deposits.
As interest rates change, we expect that we will periodically experience “gaps” in the interest
rate sensitivities of our assets and liabilities, meaning that either our interest-bearing
liabilities will be more sensitive to changes in market interest rates than our interest-earning
assets, or vice versa. In either event, if market interest rates should move contrary to our
position, this “gap” may work against us, and our earnings may be negatively affected.
Changes in the level of interest rates also may negatively affect our ability to originate real
estate loans, the value of our assets and our ability to realize gains from the sale of our assets,
all of which ultimately affect our earnings. A decline in the market value of our assets may limit
our ability to borrow additional funds. As a result, we could be required to sell some of our loans
and investments under adverse market conditions, upon terms that are not favorable to us, in order
to maintain our liquidity. If those sales are made at prices lower than the amortized costs of the
investments, we will incur losses.
National or state legislation or regulation may increase our expenses and reduce earnings.
Changes in tax law, federal legislation and regulation, such as bankruptcy laws, deposit insurance,
and capital requirements, among others, can result in significant increases in our expenses and/or
chargeoffs, which may adversely affect our earnings. Changes in state or federal tax laws or
regulations can have a similar impact. Recently, the Tennessee Commissioner of Revenue has
proposed changes in taxation of certain bank subsidiaries that would increase our state taxes
materially, and the likelihood of such changes being adopted is currently uncertain.
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Loss of our senior executive officers or other key employees could impair our relationship with our
customers and adversely affect our business.
We have assembled a senior management team which has a substantial background and experience in
banking and financial services in the Nashville market. Loss of these key personnel could
negatively impact our earnings because of their skills, customer relationships and/or the potential
difficulty of promptly replacing them.
Competition with other banking institutions could adversely affect our profitability.
A number of banking institutions in the Nashville market have higher lending limits, more banking
offices, and a larger market share of loans or deposits. In addition, our asset management division
competes with numerous brokerage firms and mutual fund companies which are also much larger. In
some respects, this may place these competitors in a competitive advantage, although many of our
customers have selected us because of service quality concerns at the larger enterprises. This
competition may limit or reduce our profitability, reduce our growth and adversely affect our
results of operations and financial condition.
We may issue additional common stock or other equity securities in the future which could dilute
the ownership interest of existing shareholders.
In order to maintain our capital at desired or regulatory-required levels, we may be required to
issue additional shares of common stock, or securities convertible into, exchangeable for or
representing rights to acquire shares of common stock. We may sell these shares at prices below
the current market price of shares, and the sale of these shares may significantly dilute
shareholder ownership. We could also issue additional shares in connection with acquisitions of
other financial institutions.
Even though our common stock is currently traded on the Nasdaq Stock Market’s Global Select Market,
it has less liquidity than many other stocks quoted on a national securities exchange.
The trading volume in our common stock on the Nasdaq Global Select Market has been relatively low
when compared with larger companies listed on the Nasdaq Global Select Market or other stock
exchanges. Although we have experienced increased liquidity in our stock, we cannot say with any
certainty that a more active and liquid trading market for our common stock will continue to
develop. Because of this, it may be more difficult for shareholders to sell a substantial number of
shares for the same price at which shareholders could sell a smaller number of shares.
We cannot predict the effect, if any, that future sales of our common stock in the market, or the
availability of shares of common stock for sale in the market, will have on the market price of our
common stock. We can give no assurance that sales of substantial amounts of common stock in the
market, or the potential for large amounts of sales in the market, would not cause the price of our
common stock to decline or impair our future ability to raise capital through sales of our common
stock.
The market price of our common stock has fluctuated significantly, and may fluctuate in the future.
These fluctuations may be unrelated to our performance. General market or industry price declines
or overall market volatility in the future could adversely affect the price of our common stock,
and the current market price may not be indicative of future market prices.
If a change in control or change in management is delayed or prevented, the market price of our
common stock could be negatively affected.
Provisions in our corporate documents, as well as certain federal and state regulations, may make
it difficult and expensive to pursue a tender offer, change in control or takeover attempt that our
board of directors opposes. As a result, our shareholders may not have an opportunity to
participate in such a transaction, and the trading price of our stock may not rise to the level of
other institutions that are more vulnerable to hostile takeovers. Anti-takeover provisions
contained in our charter also will make it more difficult for an outside shareholder to remove our
current board of directors or management.
Holders of Pinnacle Financial’s bank indebtedness and junior subordinated debentures have rights
that are senior to those of Pinnacle Financial’s common shareholders.
Pinnacle Financial has supported its continued growth through the issuance of trust preferred
securities from special purpose trusts and accompanying junior subordinated debentures. At December
31, 2007, Pinnacle Financial had outstanding trust preferred securities and accompanying junior
subordinated debentures totaling $82.5 million. Payments of the principal and interest on the trust
preferred securities of these trusts are conditionally guaranteed by Pinnacle Financial. Further,
the accompanying junior subordinated debentures Pinnacle Financial issued to the trusts are senior
to Pinnacle Financial’s shares of common stock. As a result, Pinnacle Financial must make payments
on the junior subordinated debentures before any dividends can be paid on its common stock and, in
the event of Pinnacle Financial’s bankruptcy, dissolution or liquidation, the holders of the junior
subordinated debentures must be satisfied before any distributions can be made on Pinnacle
Financial’s common stock. Pinnacle Financial has the right to defer distributions on its junior
subordinated debentures (and the related trust preferred securities) for up to five years, during
which time no dividends may be paid on its common stock.
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The amount of common stock owned by, and other compensation arrangements with, our officers and
directors may make it more difficult to obtain shareholder approval of potential takeovers that
they oppose.
As of March 1, 2008, directors and executive officers beneficially owned approximately 7.6% of our
common stock. Employment agreements with our senior management also provide for significant
payments under certain circumstances following a change in control. These compensation
arrangements, together with the common stock, option and warrant ownership of our board and
management, could make it difficult or expensive to obtain majority support for shareholder
proposals or potential acquisition proposals of us that our directors and officers oppose.
Our business is dependent on technology, and an inability to invest in technological improvements
may adversely affect our results of operations and financial condition.
The financial services industry is undergoing rapid technological changes with frequent
introductions of new technology-driven products and services. In addition to better serving
customers, the effective use of technology increases efficiency and enables financial institutions
to reduce costs. We have made significant investments in data processing, management information
systems and internet banking accessibility. Our future success will depend in part upon our ability
to create additional efficiencies in our operations through the use of technology, particularly in
light of our past and projected growth strategy. Many of our competitors have substantially greater
resources to invest in technological improvements. We cannot make assurances that our technological
improvements will increase our operational efficiency or that we will be able to effectively
implement new technology-driven products and services or be successful in marketing these products
and services to our customers.
Our internal control over financial reporting may have weaknesses or inadequacies that may be
material.
Section 404 of the Sarbanes-Oxley Act of 2002 requires us to perform an evaluation of our internal
control over financial reporting and our auditor to attest to such evaluation on an annual basis.
Management concluded that our internal control over financial reporting was effective at December
31, 2007. Management’s report on internal control over financial reporting is included on page 53
of this Form 10-K and the report of our independent registered public accounting firm on internal
control over financial reporting is included on page 55 of this Form 10-K. Ongoing compliance with
these requirements is expected to be expensive and time-consuming and may negatively impact our
results of operations. While our management did not identify any material weaknesses in our
internal control over financial reporting at December 31, 2007, and concluded that our internal
control over financial reporting was effective, we cannot make any assurances that material
weaknesses in our internal control over financial reporting will not be identified in the future.
If any material weaknesses are identified in the future, we may be required to make material
changes in our internal control over financial reporting which could negatively impact our results
of operations. In addition, upon such occurrence, our management may not be able to conclude that
our internal control over financial reporting is effective or our independent registered public
accounting firm may not be able to attest that our internal control over financial reporting was
effective. If we cannot conclude that our internal control over financial reporting is effective
or if our independent registered public accounting firm is not able to attest that our internal
control over financial reporting is effective, we may be subject to regulatory scrutiny, and a loss
of public confidence in our internal control over financial reporting which may cause the value of
our common stock to decrease. For the fiscal year ended December 31, 2007, we did not have to
include Mid-America’s operations in our analysis of our internal control over financial reporting.
As a result, we cannot assure you that these operations have effective internal controls at
December 31, 2007. We will include these operations in our analysis for 2008, so we expect to
incur costs and expenses associated with evaluating the internal controls related to the former
Mid-America operations and to implement our internal control practices for these operations.
We are subject to various statutes and regulations that may limit our ability to take certain
actions.
We operate in a highly regulated industry and are subject to examination, supervision, and
comprehensive regulation by various regulatory agencies. Our compliance with these regulations is
costly and restricts certain of our activities, including payment of dividends, mergers and
acquisitions, investments, loans and interest rates charged, interest rates paid on deposits and
locations of offices. We are also subject to capitalization guidelines established by our
regulators, which require us to maintain adequate capital to support our growth.
The laws and regulations applicable to the banking industry could change at any time, and we cannot
predict the effects of these changes on our business and profitability. Because government
regulation greatly affects the business and financial results of all commercial banks and bank
holding companies, our cost of compliance could adversely affect our ability to operate profitably.
ITEM 1B. UNRESOLVED STAFF COMMENTS
None.
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ITEM 2. PROPERTIES
The Company’s executive offices are located at 211 Commerce Street, Suite 300, Nashville,
Tennessee. The Company operates 32 banking locations throughout our market areas, of which for 9
locations the Company leases the land, the building or both. The Company has locations in the
Tennessee municipalities of Nashville, Knoxville, Murfreesboro, Dickson, Ashland City, Mt. Juliet,
Lebanon, Franklin, Brentwood, Hendersonville, Goodlettesville, Smyrna and Shelbyville. We also
have three separate operational locations of which two are leased facilities. These facilities are
located in Nashville and Murfreesboro.
ITEM 3. LEGAL PROCEEDINGS
As of the date hereof, there are no material pending legal proceedings to which Pinnacle Financial
or any of its subsidiaries is a party or of which any of its or its subsidiaries’ properties are
subject; nor are there material proceedings known to Pinnacle Financial or any of its subsidiaries
to be contemplated by any governmental authority; nor are there material proceedings known to
Pinnacle Financial or any of its subsidiaries, pending or contemplated, in which any director,
officer or affiliate or any principal security holder of Pinnacle Financial or any of its
subsidiaries or any associate of any of the foregoing, is a party adverse to Pinnacle Financial or
any of its subsidiaries or has a material interest adverse to Pinnacle Financial or any of its
subsidiaries.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
| (a) | A special meeting of Pinnacle Financial’s shareholders was held on November 27, 2007 to vote on the merger agreement with Mid-America Bancshares, Inc. and to amend the 2004 Equity Incentive Plan. There were 15,553,036 shares outstanding as of October 9, 2007 (the record date for the meeting) of which 10,977,776 shares were represented at the meeting on November 27, 2007. | ||
| (c) | Matters voted upon and the results of the voting were as follows: |
We held a Special Meeting of Shareholders on November 27, 2007 (the “Special Meeting”)
to consider and vote on the following matters:
| • | A proposal to approve the Agreement and Plan of Merger, dated as of August 15, 2007 by and between the Pinnacle Financial and Mid-America (“Proposal #1”); and | ||
| • | A proposal to approve the adjournment of the Special Meeting, if necessary, to permit the Pinnacle Financial to solicit additional proxies if there were not sufficient votes at the Special Meeting to constitute a quorum or to approve Proposal #1 (“Proposal #2”); and | ||
| • | A proposal to approve an amendment to Pinnacle’s 2004 Equity Incentive Plan to increase the number of shares of Pinnacle common stock reserved for issuance under the plan by 500,000 shares (“Proposal #3”). |
The following table sets forth the number of votes cast for, against, and abstained
with respect to each of the proposals, all of which were approved at the Special
Meeting:
Proposal #1:
|
Number of votes cast “For” | 10,937,736 | ||||
| Number of votes cast “Against” | 22,891 | |||||
| Number of abstentions | 17,149 | |||||
Proposal #2:
|
Number of votes cast “For” | 10,738,068 | ||||
| Number of votes cast “Against” | 202,398 | |||||
| Number of abstentions | 36,310 | |||||
Proposal #3:
|
Number of votes cast “For” | 8,805,508 | ||||
| Number of votes cast “Against” | 2,117,912 | |||||
| Number of abstentions | 54,356 |
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PART II
ITEM 5. MARKET FOR REGISTRANT’S COMMON EQUITY, RELATED STOCKHOLDER MATTERS AND ISSUER PURCHASES OF
EQUITY SECURITIES
Pinnacle Financial’s common stock is traded on the Nasdaq Global Select Market’s under the symbol
“PNFP” and has traded on that market since July 3, 2006. Prior to that date, Pinnacle Financial’s
common stock traded on the Nasdaq National Market for the periods presented. The following table
shows the high and low sales price information for Pinnacle Financial’s common stock for each
quarter in 2007 and 2006 as reported on the Nasdaq Global Select Market, or its predecessor the
Nasdaq National Market.
| Price Per Share | ||||||||
| High | Low | |||||||
2007: |
||||||||
First quarter |
$ | 33.85 | $ | 29.40 | ||||
Second quarter |
31.48 | 28.27 | ||||||
Third quarter |
31.31 | 21.62 | ||||||
Fourth quarter |
30.93 | 24.85 | ||||||
2006: |
||||||||
First quarter |
$ | 28.84 | $ | 24.75 | ||||
Second quarter |
30.92 | 27.09 | ||||||
Third quarter |
37.41 | 28.93 | ||||||
Fourth quarter |
36.17 | 31.23 | ||||||
As of March 1, 2008, Pinnacle Financial had approximately 3,800 shareholders of record.
Pinnacle Financial has not paid any cash dividends since inception, and it does not anticipate that
it will consider paying dividends until Pinnacle National has achieved a level of profitability
appropriate to fund such dividends and support asset growth. See ITEM 1. “Business — Supervision
and Regulation — Payment of Dividends” and ITEM 7. “Management’s Discussion and Analysis of
Financial Condition and Results of Operations” for additional information on dividend restrictions
applicable to Pinnacle Financial.
Pinnacle Financial did not repurchase any shares of its common stock during the quarter ended
December 31, 2007.
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ITEM 6. SELECTED FINANCIAL DATA
| 2007(1) | 2006(2) | 2005 | 2004 | 2003 | ||||||||||||||||||||
| (in thousands, except per share data, ratios and percentages) | ||||||||||||||||||||||||
Statement of Financial Condition Data: |
||||||||||||||||||||||||
Total assets |
$ | 3,794,170 | $ | 2,142,187 | $ | 1,016,772 | $ | 727,139 | $ | 498,421 | ||||||||||||||
Loans, net of unearned income |
2,749,641 | 1,497,735 | 648,024 | 472,362 | 297,004 | |||||||||||||||||||
Allowance for loan losses |
(28,470 | ) | (16,118 | ) | (7,858 | ) | (5,650 | ) | (3,719 | ) | ||||||||||||||
Total securities |
522,685 | 346,494 | 279,080 | 208,170 | 139,944 | |||||||||||||||||||
Goodwill and core deposit intangibles |
260,900 | 125,673 | — | — | — | |||||||||||||||||||
Deposits and securities sold under agreements to repurchase |
3,081,390 | 1,763,427 | 875,985 | 602,655 | 405,619 | |||||||||||||||||||
Advances from FHLB and other borrowings |
141,666 | 53,726 | 41,500 | 53,500 | 44,500 | |||||||||||||||||||
Subordinated debt |
82,476 | 51,548 | 30,929 | 10,310 | 10,310 | |||||||||||||||||||
Stockholders’ equity |
466,610 | 256,017 | 63,436 | 57,880 | 34,336 | |||||||||||||||||||
Income Statement Data: |
||||||||||||||||||||||||
Interest income |
$ | 150,931 | $ | 109,696 | $ | 46,308 | $ | 27,679 | $ | 18,262 | ||||||||||||||
Interest expense |
75,219 | 48,743 | 17,270 | 7,415 | 5,363 | |||||||||||||||||||
Net interest income |
75,712 | 60,953 | 29,038 | 20,264 | 12,899 | |||||||||||||||||||
Provision for loan losses |
4,720 | 3,732 | 2,152 | 2,948 | 1,157 | |||||||||||||||||||
Net interest income after provision for loan losses |
70,992 | 57,221 | 26,886 | 17,316 | 11,742 | |||||||||||||||||||
Noninterest income |
22,521 | 15,786 | 5,394 | 4,978 | 3,035 | |||||||||||||||||||
Noninterest expense |
60,480 | 46,624 | 21,032 | 14,803 | 10,796 | |||||||||||||||||||
Income before income taxes |
33,033 | 26,383 | 11,248 | 7,491 | 3,981 | |||||||||||||||||||
Income tax expense |
9,992 | 8,456 | 3,193 | 2,172 | 1,426 | |||||||||||||||||||
Net income |
$ | 23,041 | $ | 17,927 | $ | 8,055 | $ | 5,319 | $ | 2,555 | ||||||||||||||
Per Share Data: |
||||||||||||||||||||||||
Earnings per share — basic |
$ | 1.43 | $ | 1.28 | $ | 0.96 | $ | 0.69 | $ | 0.35 | ||||||||||||||
Weighted average shares outstanding — basic |
16,100,076 | 13,954,077 | 8,408,663 | 7,750,943 | 7,384,106 | |||||||||||||||||||
Earnings per share — diluted |
$ | 1.34 | $ | 1.18 | $ | 0.85 | $ | 0.61 | $ | 0.32 | ||||||||||||||
Weighted average shares outstanding — diluted |
17,255,543 | 15,156,837 | 9,464,500 | 8,698,139 | 7,876,006 | |||||||||||||||||||
Book value per share |
$ | 20.96 | $ | 16.57 | $ | 7.53 | $ | 6.90 | $ | 4.65 | ||||||||||||||
Common shares outstanding at end of period |
22,264,817 | 15,446,074 | 8,426,551 | 8,389,232 | 7,384,106 | |||||||||||||||||||
Performance Ratios and Other Data: |
||||||||||||||||||||||||
Return on average assets |
0.96 | % | 1.01 | % | 0.93 | % | 0.89 | % | 0.66 | % | ||||||||||||||
Return on average stockholders’ equity |
8.34 | % | 8.66 | % | 13.23 | % | 12.31 | % | 7.70 | % | ||||||||||||||
Net interest margin (3) |
3.55 | % | 3.90 | % | 3.60 | % | 3.62 | % | 3.53 | % | ||||||||||||||
Net interest spread (4) |
2.88 | % | 3.20 | % | 3.16 | % | 3.34 | % | 3.23 | % | ||||||||||||||
Noninterest income to average assets |
0.94 | % | 0.89 | % | 0.62 | % | 0.83 | % | 0.78 | % | ||||||||||||||
Noninterest expense to average assets |
2.53 | % | 2.61 | % | 2.42 | % | 2.48 | % | 2.78 | % | ||||||||||||||
Efficiency ratio (5) |
61.57 | % | 60.76 | % | 61.08 | % | 58.64 | % | 67.78 | % | ||||||||||||||
Average loan to average deposit ratio |
94.88 | % | 88.73 | % | 81.3 | % | 79.0 | % | 85.5 | % | ||||||||||||||
Average interest-earning assets to average
interest-bearing liabilities |
119.46 | % | 122.10 | % | 120.0 | % | 120.0 | % | 118.9 | % | ||||||||||||||
Average equity to average total assets ratio |
11.56 | % | 11.64 | % | 7.00 | % | 7.23 | % | 8.54 | % | ||||||||||||||
Asset Quality Ratios: |
||||||||||||||||||||||||
Allowance for loan losses to nonperforming assets |
133.3 | % | 199.9 | % | 1,708.3 | % | 1,006.9 | % | 981.3 | % | ||||||||||||||
Allowance for loan losses to total loans |
1.04 | % | 1.08 | % | 1.21 | % | 1.20 | % | 1.25 | % | ||||||||||||||
Nonperforming assets to total assets |
0.56 | % | 0.37 | % | 0.05 | % | 0.08 | % | 0.08 | % | ||||||||||||||
Nonaccrual loans to total loans |
0.72 | % | 0.47 | % | 0.07 | % | 0.12 | % | 0.13 | % | ||||||||||||||
Net loan charge-offs (recoveries) to average loans |
0.06 | % | 0.05 | % | (0.01 | )% | 0.27 | % | 0.05 | % | ||||||||||||||
Capital Ratios: |
||||||||||||||||||||||||
Leverage (6) |
11.6 | % | 9.5 | % | 9.9 | % | 9.7 | % | 9.7 | % | ||||||||||||||
Tier 1 risk-based capital |
9.5 | % | 10.9 | % | 11.7 | % | 11.7 | % | 11.8 | % | ||||||||||||||
Total risk-based capital |
10.4 | % | 11.8 | % | 12.6 | % | 12.7 | % | 12.8 | % | ||||||||||||||
| (1) | Information for 2007 fiscal year includes the operations of Mid-America, which Pinnacle Financial merged with on November 30, 2007 and reflects approximately 6.7 million shares of Pinnacle Financial common stock issued in connection with the merger. | |
| (2) | Information for 2006 fiscal year includes the operations of Cavalry, which Pinnacle Financial merged with on March 15, 2006 and reflects approximately 6.9 million shares of Pinnacle Financial common stock issued in connection with the merger. | |
| (3) | Net interest margin is the result of net interest income for the period divided by average interest earning assets. | |
| (4) | Net interest spread is the result of the difference between the interest yield earned on interest earning assets less the interest paid on interest bearing liabilities. |
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| (5) | Efficiency ratio is the result of noninterest expense divided by the sum of net interest income and noninterest income. | |
| (6) | Leverage ratio is computed by dividing Tier 1 capital by average total assets for the fourth quarter of each year. |
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ITEM 7. MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
The following is a discussion of our financial condition at December 31, 2007 and 2006 and our
results of operations for each of the three-years ended December 31, 2007. The purpose of this
discussion is to focus on information about our financial condition and results of operations which
is not otherwise apparent from the consolidated financial statements. The following discussion and
analysis should be read along with our consolidated financial statements and the related notes
included elsewhere herein.
Overview
General. Our rapid organic growth together with our merger with Mid-America Bancshares, Inc.
(“Mid-America”), a two-bank holding company in Nashville, Tennessee, on November 30, 2007 and
Cavalry Bancorp, Inc. (“Cavalry”), a one-bank holding company located in Murfreesboro, Tennessee,
on March 15, 2006 has had a material impact on Pinnacle Financial’s financial condition and results
of operations. This rapid growth resulted in net income for the year ended December 31, 2007 of
$1.34 per diluted share as compared to $1.18 and $0.85 per diluted share for 2006 and 2005,
respectively. At December 31, 2007, loans totaled $2.750 billion, as compared to $1.498 billion at
December 31, 2006, while total deposits increased to $2.925 billion at December 31, 2007 from
$1.622 billion at December 31, 2006.
Acquisition — Mid-America. On November 30, 2007, we consummated a merger with Mid-America.
Pursuant to the merger agreement, Mid-America shareholders received a fixed exchange ratio of
0.4655 shares of our common stock and $1.50 in cash for each share of Mid-America common stock, or
approximately 6.7 million Pinnacle Financial shares and $21.6 million in cash. We financed the
cash portion of the merger consideration with the proceeds of a $30 million trust preferred
securities offering by an affiliated trust. The accompanying consolidated financial statements
include the activities of the former Mid-America since November 30, 2007.
In accordance with Statement of Financial Accounting Standards (“SFAS”) No. 141, “Accounting for
Business Combinations” (“SFAS No. 141”), SFAS No. 142, “Goodwill and Intangible Assets” (“SFAS No.
142”) and SFAS No. 147, “Acquisition of Certain Financial Institutions” (“SFAS No. 147”), we
recorded at fair value the following assets and liabilities of Mid-America as of November 30, 2007
(in thousands):
Cash and cash equivalents |
$ | 60,795 | ||
Investment securities — available-for-sale |
147,766 | |||
Loans, net of an allowance for loan losses of $8,695 |
855,887 | |||
Goodwill |
129,334 | |||
Core deposit intangible |
8,085 | |||
Other assets |
49,854 | |||
Total assets acquired |
1,251,721 | |||
Deposits |
957,076 | |||
Federal Home Loan Bank advances |
61,383 | |||
Other liabilities |
27,107 | |||
Total liabilities assumed |
1,045,566 | |||
Total consideration paid for Mid-America |
$ | 206,155 | ||
As noted above, total consideration for Mid-America approximates $206.2 million of which $205.1
million was in the form of cash, Pinnacle Financial common shares and options to acquire Pinnacle
Financial common shares and $1.1 million in investment banking fees, attorney’s fees and other
costs related to the acquisition which have been accounted for as a component of the purchase
price. We paid $21.6 million in cash and issued 6,676,580 shares of Pinnacle Financial common
stock to the former Mid-America shareholders. In accordance with EITF No. 99-12, “Determination of
the Measurement Date for the Market Price of Acquirer Securities Issued in a Purchase Business
Combination,” the consideration shares were valued at $26.26 per common share which represents the
average closing price of our common stock from the two days prior to the merger announcement on
August 15, 2007 through the two days after the merger announcement. Aggregate consideration for
the common stock issued was approximately $196.9 million. Additionally, we also assumed several
Mid-America equity compensation plans (the “Mid-America Plans”) pursuant to which we are obligated
to issue 487,835 shares of Pinnacle Financial common stock upon exercise of stock options and stock
appreciation rights awarded to certain former Mid-America employees who held outstanding options
and stock
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appreciation rights as of November 30, 2007. All of these options and stock appreciation
rights were fully vested prior to the merger announcement date and expire at various dates between 2011 and 2017. The exercise prices
for these stock options and the grant price for these stock appreciation rights range between $6.63
per share and $21.37 per share. In accordance with SFAS No. 141, we considered the fair value of
these options and stock appreciation rights in determining the acquisition cost of Mid-America.
The fair value of these vested options and stock appreciation rights approximated $8.2 million
which has been included as a component of the aggregate purchase price.
In accordance with SFAS Nos. 141 and 142, we have preliminarily recognized $8.1 million as a core
deposit intangible. This identified intangible is being amortized over ten years using an
accelerated method which anticipates the life of the underlying deposits to which the intangible is
attributable. For the year ended December 31, 2007, approximately $81,000 was recognized in the
accompanying statement of income as other noninterest expense. Amortization expense associated
with this identified intangible will approximate $600,000 to $975,000 per year for the next ten
years.
We also recorded other adjustments to the carrying value of Mid-America’s assets and liabilities in
order to reflect the fair value of those net assets in accordance with generally accepted
accounting principles, including an $883,000 discount associated with the loan portfolio, a $2.7
million premium for Mid-America’s certificates of deposit and a $898,000 premium for Mid-America’s
Federal Home Loan Bank advances. We also recorded the corresponding deferred tax asset or
liability associated with these adjustments. The discounts and premiums related to financial
assets and liabilities are being accreted and amortized into our statements of income using a
method that approximates the level yield method over the anticipated lives of the underlying
financial assets or liabilities. For the year ended December 31, 2007, the accretion and
amortization of the fair value discounts and premiums related to the acquired loans, certificates
of deposit and FHLB advances increased net interest income by approximately $528,000. Based on the
estimated useful lives of the acquired loans, deposits and FHLB advances, we expect to recognize
increases in net interest income related to accretion of these purchase accounting adjustments of
$3.9 million in subsequent years. We are in the process of finalizing the allocation of the
purchase price to the acquired net assets noted above. Accordingly, the above allocations should
be considered preliminary as of December 31, 2007.
During the year ended December 31, 2007, we incurred merger integration expense related to the
merger with Mid-America of $622,000. These expenses were directly related to the merger,
recognized as incurred and reflected on the accompanying consolidated statement of income as merger
related expense.
Knoxville expansion. During April of 2007, we announced a de novo expansion of our firm to the
Knoxville MSA. At that time, we had hired several new associates from other financial institutions
in that market and had negotiated a lease agreement for our main office facility with future plans
to construct four additional offices over the next few years. In June of 2007, we opened our first
full service branch facility in Knoxville. At December 31, 2007, our Knoxville facility had
recorded $109.2 million in loan balances and $34.2 million in deposit balances. At December 31,
2007, we employed 22 associates in the Knoxville MSA. We incurred approximately $1.3 million in
loan loss provision and approximately $2.0 million in noninterest expenses for compensation,
occupancy and other expenses related to the Knoxville expansion. As a result, we estimate that the
Knoxville expansion lost approximately $0.09 per fully diluted share during 2007.
Acquisition — Cavalry. On March 15, 2006, we consummated our merger with Cavalry. Pursuant to
the merger agreement, we acquired all of Cavalry’s outstanding common stock via a tax-free exchange
whereby Cavalry shareholders received a fixed exchange ratio of 0.95 shares of our common stock for
each share of Cavalry common stock, or approximately 6.9 million Pinnacle Financial shares. The
financial information herein includes the activities of the former Cavalry (the “Rutherford County
market”) since March 15, 2006.
In accordance with Statement of Financial Accounting Standards (“SFAS”) No. 141, “Accounting for
Business Combinations” (“SFAS No. 141”), SFAS No. 142, “Goodwill and Intangible Assets” (“SFAS No.
142”) and SFAS No. 147, “Acquisition of Certain Financial Institutions” (“SFAS No. 147”), we
recorded at fair value the following assets and liabilities of Cavalry as of March 15, 2006
(dollars in thousands):
Cash and cash equivalents |
$ | 37,420 | ||
Investment securities — available-for-sale |
39,476 | |||
Loans, net of an allowance for loan losses of $5,102 |
545,598 | |||
Goodwill |
114,288 | |||
Core deposit intangible |
13,168 | |||
Other assets |
42,937 | |||
Total assets acquired |
792,887 | |||
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Deposits |
583,992 | |||
Federal Home Loan Bank advances |
17,767 | |||
Other liabilities |
18,851 | |||
Total liabilities assumed |
620,610 | |||
Total consideration paid for Cavalry |
$ | 172,277 | ||
As noted above, total consideration for Cavalry approximates $172.3 million of which $171.1 million
was in the form of our common shares and options to acquire our common shares and $1.2 million in
investment banking fees, attorney’s fees and other costs related to the purchase of Cavalry. We
issued 6,856,298 shares of our common stock to the former Cavalry shareholders. In accordance with
EITF 99-12, “Determination of the Measurement Date for the Market Price of Acquirer Securities
Issued in a Purchase Business Combination,” the shares were valued at $24.53 per common share which
represents the average closing price of our common stock from the two days prior to the merger
announcement on September 30, 2005 through the two days after the merger announcement. Aggregate
consideration for the common stock issued was approximately $168.2 million. Additionally, we also
have assumed the Cavalry Bancorp, Inc. 1999 Stock Incentive Plan (the “Cavalry Plan”) pursuant to
which we were obligated to issue 195,551 shares of our common stock upon exercise of stock options
awarded to certain former Cavalry employees who held outstanding options as of March 15, 2006. All
of these options were fully vested prior to the merger announcement date and expire at various
dates between 2011 and 2012. The exercise prices for these stock options range between $10.26 per
share and $13.68 per share. In accordance with SFAS No. 141, we considered the fair value of these
options in determining the acquisition cost of Cavalry. The fair value of these vested options
approximated $2.9 million which has been included as a component of the aggregate purchase price.
In accordance with SFAS Nos. 141 and 142, we recognized $13.2 million as a core deposit intangible.
This identified intangible is being amortized over seven years using an accelerated method which
anticipates the life of the underlying deposits to which the intangible is attributable. For the
years ended December 31, 2007 and 2006, approximately $2.1 million and $1.8 million was recognized
in the statement of income. Amortization expense associated with the core deposit intangible will
approximate $1.6 million to $2.0 million per year for the next five years with a lesser amount for
the remaining year.
We also recorded other adjustments to the carrying value of Cavalry’s assets and liabilities in
order to reflect the fair value of those net assets in accordance with U.S. generally accepted
accounting principles, including a $4.8 million discount associated with the loan portfolio, a $2.9
million premium for Cavalry’s certificates of deposit and a $4.6 million premium for Cavalry’s land
and buildings. We have also recorded the corresponding deferred tax asset or liability associated
with these adjustments. The discounts and premiums related to financial assets and liabilities
will be amortized into our statements of income in future periods using a method that approximates
the level yield method over the anticipated lives of the underlying financial assets or
liabilities. For the years ended December 31, 2007 and 2006, the accretion of the fair value
discounts related to the acquired loans and certificates of deposit increased net interest income
by approximately $2.5 million and $3.7 million, respectively. Based on the estimated useful lives
of the acquired loans and deposits, we expect to recognize increases in net interest income related
to accretion of these purchase accounting adjustments of $1.5 million in subsequent years.
We also incurred approximately $1,636,000 in merger related expenses during the year ended December
31, 2006 directly related to the Cavalry merger. These charges were for our integration of Cavalry
and accelerated depreciation and amortization related to software and other technology assets whose
useful lives were shortened as a result of the Cavalry acquisition. We incurred no merger related
expenses during the year ended December 31, 2007 related to the Cavalry merger.
Results of Operations. Our net interest income increased to $75.7 million for 2007 compared to
$61.0 million for 2006 compared to $29.0 million for 2005. The net interest margin (the ratio of
net interest income to average earning assets) for 2007 was 3.55% compared to 3.90% for 2006 and
3.60% for the same period in 2005.
Our provision for loan losses was $4.7 million for 2007 compared to $3.7 million in 2006 and $2.2
million in 2005. The provision for loan losses increased primarily due to increases in loan
volumes and charge-offs in each year when compared to the previous year.
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Noninterest income for 2007 compared to 2006 increased by $6.73 million, or 42.7%, which was
primarily due to increases in service charges on deposits, investment sales commissions, insurance
commissions, trust and other fees. Noninterest income for 2006 compared to 2005 increased by $10.4
million, or 193%. This increase is largely attributable to the fee businesses associated with the
Cavalry acquisition, particularly with regard to service charges on deposit accounts, insurance
sales commissions and trust fees.
Our continued growth in 2007 resulted in increased noninterest expense compared to 2006 due to the
addition of Mid-America for one month in 2007, our expansion into the Knoxville MSA, increases in
salaries and employee benefits, equipment and occupancy expenses and other operating expenses. The
number of full-time equivalent employees increased from 404.0 at December 31, 2006 to 702.0 at
December 31, 2007. As a result, we experienced increases in compensation and employee benefit
expense. Our growth in 2006 resulted in increased noninterest expense compared to 2005 due to the
addition of the Rutherford County market, increases in salaries and employee benefits, equipment
and occupancy expenses and other operating expenses. The number of full-time equivalent employees
increased from 156.5 at December 31, 2005 to 404.0 at December 31, 2006. Additionally, we adopted
SFAS No. 123(R) in 2006 which addresses the accounting for employee equity based incentives which
also increased our compensation and employee benefit expense in 2007 and 2006 when compared to no
expense in 2005. In addition to incurring a full year of the Mid-America expense in 2008, we
expect to add additional employees throughout 2008 which will also cause our compensation and
employee benefit expense to increase in 2008. Additionally, our branch expansion efforts during
the last few years and the addition of the eleven Mid-America branches will also increase
noninterest expense. The increased operational expenses for the recently opened branches and the
additional planned branch in Knoxville expected to open in third quarter of 2008 will continue to
result in increased noninterest expense in future periods. Our efficiency ratio (the ratio of
noninterest expense to the sum of net interest income and noninterest income) was 61.6% in 2007
compared to 60.8% in 2006 and 61.1% in 2005. These calculations include the impact of
approximately $622,000 in Mid-America merger related charges in 2007 and $1,636,000 in Cavalry
merger related charges in 2006.
The effective income tax expense rate for 2007 was approximately 30.2% compared to an effective
income tax expense rate for 2006 of approximately 32.1% and 28.4% for 2005. The decrease in the
effective rate for 2007 compared to 2006 was due to increased investment in bank qualified
municipal securities and increased tax savings from our captive insurance subsidiary, PNFP
Insurance, Inc. The increase in the effective tax rate between 2006 and 2005 was due to the
additional earnings being taxed at a higher rate as the various tax savings initiatives (e.g.,
municipal bond income) had a lesser impact in 2006 when compared to 2005. Additionally, the impact
of our incentive stock options and their treatment pursuant to the adoption of SFAS No. 123(R)
contributed to the increase in our effective rate in 2006, but also contributed to the decreased
effective rate in 2007 as the tax treatment of incentive stock options will gradually lessen over
time as these incentive stock options fully vest. We now award only nonqualified stock options and
restricted shares to our associates.
Net income for 2007 was $23.0 million or 28.5% higher than net income for 2006 of $17.9 million.
Net income for 2006 was $17.9 million compared to $8.1 million in 2005, an increase of 123%.
Fully-diluted net income per common share was $1.34 for 2007 compared to $1.18 for 2006 and $0.85
for 2005.
Excluding the after-tax (rate of 39.23%) impact of merger related charges in both years, net income
for 2007 was $23.4 million compared to $18.9 million for 2006, an increase of 23.8%. As a result,
adjusted diluted net income per common share was $1.36 for 2007 compared to $1.25 for 2006, an
increase of 8.8%. Excluding the after-tax (rate of 39.23%) impact of merger related charges, net
income for 2006 was $18.9 million compared to $8.1 million for 2005, an increase of 135%. As a
result, adjusted diluted net income per common share was $1.25 for 2006 compared to $0.85 for 2005,
an increase of 47%. For a reconciliation of these non-GAAP financial measures to their most
directly comparable GAAP financial measure, see “Reconciliation of Non-GAAP financial measures” on
page 32.
Financial Condition. Loans increased $1.252 billion during 2007 of which $863 million was
attributable to the Mid-America acquisition. Thus, the net increase in our loan portfolio
attributable to organic growth was $389 million, or 31.0%. Loans increased $850 million during
2006 of which $551 million was attributable to the Cavalry acquisition. Thus, the net increase in
our loan portfolio attributable to organic growth was $299 million in 2006 or 46.1%.
We have successfully grown our total deposits to $2.925 billion at December 31, 2007 compared to
$1.622 billion at December 31, 2006, an increase of $1.303 billion, of which $954 million was
attributable to the Mid-America acquisition. As a result, we increased our deposits by $349
million, excluding the Mid-America acquisition. We grew our total deposits to $1.622 billion at
December 31, 2006 compared to $810 million at December 31, 2005, an increase of $812 million, of
which $584 million was attributable to the Cavalry acquisition. As a result, we increased our
deposits by $228 million, excluding the Cavalry acquisition. This growth in deposits had a higher
funding cost due to rising rates and increased deposit pricing competition in 2007 and 2006 when
compared to 2005.
Capital and Liquidity. At December 31, 2007, our capital ratios, including our bank’s capital
ratios, met regulatory minimum capital requirements. Additionally, at December 31, 2007, our banks
would be considered to be “well-capitalized” pursuant to
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banking regulations. As our banks grow they will require additional capital from us over that
which can be earned through operations. We anticipate that we will continue to use various capital
raising techniques in order to support the growth of our bank.
In the past, we have been successful in procuring additional capital from the capital markets (via
public and private offerings of trust preferred securities and common stock). This additional
capital was required to support our growth. As of December 31, 2007, we believe we have access to
sufficient capital to support our current growth plans. However, expansion by acquisition of other
banks or by branching into a new geographic market could result in issuance of additional capital,
including additional common shares.
Critical Accounting Estimates
The accounting principles we follow and our methods of applying these principles conform with U.S.
generally accepted accounting principles and with general practices within the banking industry.
In connection with the application of those principles, we have made judgments and estimates which,
in the case of the determination of our allowance for loan losses, the adoption of SFAS No. 123
(revised 2004), “Share Based Payments” (“SFAS No. 123(R)”) and the accounting for the Mid-America
and Cavalry mergers have been critical to the determination of our financial position and results
of operations.
Allowance for Loan Losses (“allowance”). Our management assesses the adequacy of the allowance
prior to the end of each calendar quarter. This assessment includes procedures to estimate the
allowance and test the adequacy and appropriateness of the resulting balance. The level of the
allowance is based upon management’s evaluation of the loan portfolios, past loan loss experience,
known and inherent risks in the portfolio, adverse situations that may affect the borrower’s
ability to repay (including the timing of future payment), the estimated value of any underlying
collateral, composition of the loan portfolio, economic conditions, industry and peer bank loan
quality indications and other pertinent factors. This evaluation is inherently subjective as it
requires material estimates including the amounts and timing of future cash flows expected to be
received on impaired loans that may be susceptible to significant change. Loan losses are charged
off when management believes that the full collectability of the loan is unlikely. A loan may be
partially charged-off after a “confirming event” has occurred which serves to validate that full
repayment pursuant to the terms of the loan is unlikely. Allocation of the allowance may be made
for specific loans, but the entire allowance is available for any loan that, in management’s
judgment, is deemed to be uncollectible.
Larger balance commercial and commercial real estate loans are impaired when, based on current
information and events, it is probable that we will be unable to collect all amounts due according
to the contractual terms of the loan agreement. Collection of all amounts due according to the
contractual terms means that both the contractual interest payments and the contractual principal
payments of a loan will be collected as scheduled in the loan agreement.
An impairment allowance is recognized if the present value of expected future cash flows from the
loan is less than the recorded investment in the loan (recorded investment in the loan is the
principal balance plus any accrued interest, net deferred loan fees or costs and unamortized
premium or discount, and does not reflect any direct write-down of the investment). The impairment
is recognized through the allowance. Loans that are impaired are recorded at the present value of
expected future cash flows discounted at the loan’s effective interest rate, or if the loan is
collateral dependent, impairment measurement is based on the fair value of the collateral, less
estimated disposal costs. Income is recognized on impaired loans on a cash basis.
The level of allowance maintained is believed by management to be adequate to absorb probable
losses in the portfolio at the balance sheet date. The allowance is increased by provisions
charged to expense and decreased by charge-offs, net of recoveries of amounts previously
charged-off.
In assessing the adequacy of the allowance, we also consider the results of our ongoing independent
loan review process. We undertake this process both to ascertain whether there are loans in the
portfolio whose credit quality has weakened over time and to assist in our overall evaluation of
the risk characteristics of the entire loan portfolio. Our loan review process includes the
judgment of management, the input from our independent loan reviewer, and reviews that may have
been conducted by bank regulatory agencies as part of their usual examination process. We
incorporate loan review results in the determination of whether or not it is probable that we will
be able to collect all amounts due according to the contractual terms of a loan.
As part of management’s quarterly assessment of the allowance, management divides the loan
portfolio into four segments: commercial, commercial real estate, consumer and consumer real
estate. Each segment is then analyzed such that an allocation of the allowance is estimated for
each loan segment.
The allowance allocation for commercial and commercial real estate loans begins with a process of
estimating the probable losses inherent for these types of loans. The estimates for these loans
are established by category and based on our internal system of credit risk ratings and historical
loss data for industry and various peer bank groups. The estimated loan loss allocation rate for
our
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internal system of credit risk grades for commercial and commercial real estate is based on
management’s experience with similarly graded loans, discussions with banking regulators and our internal loan review processes. We then
weight the allocation methodologies for the commercial and commercial real estate portfolios and
determine a weighted average allocation for these portfolios.
The allowance allocation for consumer and consumer real estate loans which includes installment,
home equity, consumer mortgages, automobiles and others is established for each of the categories
by estimating probable losses inherent in that particular category of consumer and consumer real
estate loans. The estimated loan loss allocation rate for each category is based on management’s
experience. Additionally, consumer and consumer real estate loans are analyzed based on our actual
loss rates, industry loss rates and loss rates of various peer bank groups. Consumer and consumer
real estate loans are evaluated as a group by category (i.e. retail real estate, installment, etc.)
rather than on an individual loan basis because these loans are smaller and homogeneous. We weight
the allocation methodologies for the consumer and consumer real estate portfolios and determine a
weighted average allocation for these portfolios.
The estimated loan loss allocation for all four loan portfolio segments is then adjusted for
management’s estimate of probable losses for several “environmental” factors. The allocation for
environmental factors is particularly subjective and does not lend itself to exact mathematical
calculation. This amount represents estimated inherent credit losses which may exist, but have not
yet been identified, as of the balance sheet date based upon quarterly trend assessments in
delinquent and nonaccrual loans, unanticipated charge-offs, credit concentration changes,
prevailing economic conditions, changes in lending personnel experience, changes in lending
policies or procedures and other influencing factors. These environmental factors are considered
for each of the four loan segments and the allowance allocation as determined by the processes
noted above for each segment is increased or decreased based on the incremental assessment of these
various “environmental” factors.
We then test the resulting allowance balance by comparing the balance in the allowance to
historical trends and industry and peer information. Our management then evaluates the result of
the procedures performed, including the result of our testing, and concludes on the appropriateness
of the balance of the allowance in its entirety. The audit committee of our board of directors
reviews and approves the assessment prior to the filing of quarterly and annual financial
information.
Share Based Payments — On January 1, 2006, we adopted SFAS No. 123(R), which addresses the
accounting for share-based payment transactions in which a company receives employee services in
exchange for equity instruments. SFAS No.123(R) eliminates the ability to account for share-based
compensation transactions, as we formerly did, using the intrinsic value method as prescribed by
Accounting Principles Board (“APB”) Opinion No. 25, “Accounting for Stock Issued to Employees,” and
generally requires that such transactions be accounted for using a fair-value-based method and
recognized as an expense.
We adopted SFAS No. 123(R) using the modified prospective method which requires the application of
the accounting standard as of January 1, 2006. The accompanying consolidated financial statements
for 2007 and 2006 reflect the impact of adopting SFAS No. 123(R). In accordance with the modified
prospective method, the consolidated financial statements for prior periods have not been restated
to reflect, and do not include, the impact of SFAS No. 123(R). Application of SFAS No. 123(R)
required us to assess numerous factors including the historical volatility of our stock price,
anticipated option forfeitures and estimates concerning the length of time that our options would
remain unexercised. Many of these assessments impact the fair value of the underlying stock option
more significantly than others and changes to these assessments in future periods could be
significant. We believe the assumptions we have incorporated into our stock option fair value
assessments are reasonable.
Accounting for the Mid-America and Cavalry Acquisitions — We recorded the assets and liabilities of
Mid-America as of November 30, 2007 and Cavalry as of March 15, 2006 at estimated fair value.
Arriving at these fair values required numerous assumptions regarding the economic life of assets,
decay rates for liabilities and other factors. We engaged a third party to assist us in valuing
certain of the financial assets and liabilities of both Mid-America and Cavalry. We also have
engaged a real estate appraisal firm to value the more significant properties that were acquired.
We also engaged a firm to analyze the income tax implications of the assets and liabilities
acquired as well as the deductibility of the various cash payments we and the former Mid-America
and Cavalry made and will make as a result of these mergers. As a result, we consider the values
we have assigned to the acquired assets and liabilities to be reasonable and consistent with the
application of U.S. generally accepted accounting principles (GAAP). We have concluded our
assessment of the acquired Cavalry assets and liabilities. We are still in the process of
obtaining and evaluating certain other information with respect to Mid-America. Accordingly, we
may have to reassess our Mid-America purchase price allocations. We will conclude the allocation
of the Mid-America purchase price to the acquired net assets during 2008.
Long-lived assets, including purchased intangible assets subject to amortization, such as our core
deposit intangible asset, are reviewed for impairment whenever events or changes in circumstances
indicate that the carrying amount of an asset may not be recoverable. Recoverability of assets to
be held and used is measured by a comparison of the carrying amount of an asset to
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estimated undiscounted future cash flows expected to be generated by the asset. If the carrying amount of an
asset exceeds its estimated future cash flows, an impairment charge is recognized by the amount by which the carrying
amount of the asset exceeds the fair value of the asset. Assets to be disposed of would be
separately presented in the balance sheet and reported at the lower of the carrying amount or fair
value less costs to sell, and are no longer depreciated.
Goodwill and intangible assets that have indefinite useful lives are tested annually for
impairment, and are tested for impairment more frequently if events and circumstances indicate that
the asset might be impaired. An impairment loss is recognized to the extent that the carrying
amount exceeds the asset’s fair value. Our annual assessment date is September 30. Should we
determine in a future period that the goodwill recorded in connection with our acquisitions have
been impaired, then a charge to our earnings will be recorded in the period such determination is
made.
Results of Operations
Our results for fiscal years 2007, 2006 and 2005 were highlighted by the continued growth in loans
and other earning assets and deposits, which resulted in increased revenues and expenses. The
following is a summary of our results of operations (dollars in thousands):
| Years ended | 2007-2006 | Year ended | 2006-2005 | |||||||||||||||||
| December 31, | Percent | December 31, | Percent | |||||||||||||||||
| 2007 | 2006 | Increase (Decrease) | 2005 | Increase (Decrease) | ||||||||||||||||
Interest income |
$ | 150,931 | $ | 109,696 | 37.6 | % | $ | 46,308 | 136.9 | % | ||||||||||
Interest expense |
75,219 | 48,743 | 54.3 | % | 17,270 | 182.2 | % | |||||||||||||
Net interest income |
75,712 | 60,953 | 24.2 | % | 29,038 | 109.9 | % | |||||||||||||
Provision for loan losses |
4,720 | 3,732 | 26.5 | % | 2,152 | 73.4 | % | |||||||||||||
Net interest income after
provision for loan losses |
70,992 | 57,221 | 24.1 | % | 26,886 | 112.8 | % | |||||||||||||
Noninterest income |
22,521 | 15,786 | 42.7 | % | 5,394 | 192.7 | % | |||||||||||||
Noninterest expense |
60,480 | 46,624 | 29.7 | % | 21,032 | 121.7 | % | |||||||||||||
Net income before income taxes |
33,033 | 26,383 | 25.2 | % | 11,248 | 134.6 | % | |||||||||||||
Income tax expense |
9,992 | 8,456 | 18.2 | % | 3,193 | 164.8 | % | |||||||||||||
Net income |
$ | 23,041 | $ | 17,927 | 28.5 | % | $ | 8,055 | 122.6 | % | ||||||||||
Our results for the years ended December 31, 2007 and 2006 included merger related expense.
Excluding merger related expense from our net income resulted in diluted net income per common
share for the year ended December 31, 2007 of $1.36 and for the year ended December 31, 2006 of
$1.25. A comparison of these amounts to 2005 and a reconciliation of this non-GAAP financial
measure follow:
Reconciliation of Non-GAAP financial measures:
| Year ended | Year ended | Year ended | ||||||||||
| December 31, | December 31, | December 31, | ||||||||||
| 2007 | 2006 | 2005 | ||||||||||
Net income, as reported |
$ | 23,041 | $ | 17,927 | $ | 8,055 | ||||||
Merger related expense net of tax |
378 | 994 | — | |||||||||
Net income excluding merger related expense |
$ | 23,419 | $ | 18,921 | $ | 8,055 | ||||||
Fully-diluted net income per common share, as reported |
$ | 1.34 | $ | 1.18 | $ | 0.85 | ||||||
Fully-diluted net income per common share, excluding
merger related expense |
$ | 1.36 | $ | 1.25 | $ | 0.85 | ||||||
The presentation of this non-GAAP financial information is not intended to be considered in
isolation or as a substitute for any measure prepared in accordance with GAAP. Because non-GAAP
financial measures presented are not measurements determined in accordance with GAAP and are
susceptible to varying calculations, these non-GAAP financial measures, as presented, may not be
comparable to other similarly titled measures presented by other companies.
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Pinnacle Financial believes that these non-GAAP financial measures excluding the impact of merger
related expenses facilitate making period-to-period comparisons, are meaningful indications of its
operating performance, and provide investors with additional information to evaluate our past
financial results and ongoing operational performance.
Pinnacle Financial’s management and board utilizes this non-GAAP financial information to compare
our operating performance versus the comparable periods in 2005 and utilized non-GAAP diluted
earnings per share for the 2007 and 2006 fiscal years (excluding the merger related expenses) in
calculating whether or not we met the performance targets of our 2007 and 2006 Annual Cash
Incentive Plans and our earnings per share targets in our restricted stock award agreements.
Net Interest Income. Net interest income represents the amount by which interest earned on various
earning assets exceeds interest paid on deposits and other interest bearing liabilities and is the
most significant component of our earnings. For the year ended December 31, 2007, we recorded net
interest income of $75,712,000, which resulted in a net interest margin of 3.55% for the year. For
the year ended December 31, 2006, we recorded net interest income of $60,953,000, which resulted in
a net interest margin of 3.90%. For the year ended December 31, 2005, we recorded net interest
income of $29,038,000, which resulted in a net interest margin of 3.60%.
The following table sets forth the amount of our average balances, interest income or interest
expense for each category of interest-earning assets and interest-bearing liabilities and the
average interest rate for total interest-earning assets and total interest-bearing liabilities, net
interest spread and net interest margin for each of the years in the three-year period ended
December 31, 2007 (dollars in thousands):
| 2007 | 2006 | 2005 | ||||||||||||||||||||||||||||||||||
| Average Balances | Interest | Rates/ Yields | Average Balances | Interest | Rates/ Yields | Average Balances | Interest | Rates/ Yields | ||||||||||||||||||||||||||||
Interest-earning assets: |
||||||||||||||||||||||||||||||||||||
Loans (1) |
$ | 1,723,361 | $ | 129,889 | 7.54 | % | $ | 1,226,803 | $ | 92,006 | 7.50 | % | $ | 562,061 | $ | 35,167 | 6.26 | % | ||||||||||||||||||
Securities: |
||||||||||||||||||||||||||||||||||||
Taxable |
280,668 | 13,962 | 4.97 | % | 254,906 | 12,615 | 4.95 | % | 204,532 | 9,086 | 4.44 | % | ||||||||||||||||||||||||
Tax-exempt (2) |
82,001 | 3,066 | 4.93 | % | 54,270 | 2,016 | 4.90 | % | 31,578 | 1,116 | 4.66 | % | ||||||||||||||||||||||||
Federal funds sold and other |
72,344 | 4,014 | 5.57 | % | 53,562 | 3,059 | 6.87 | % | 24,541 | 939 | 3.90 | % | ||||||||||||||||||||||||
Total interest-earning assets |
2,158,374 | 150,931 | 7.04 | % | 1,589,541 | 109,696 | 6.95 | % | 822,712 | 46,308 | 5.68 | % | ||||||||||||||||||||||||
Nonearning assets |
||||||||||||||||||||||||||||||||||||
Intangible assets |
135,893 | 100,107 | — | |||||||||||||||||||||||||||||||||
Other nonearning assets |
93,782 | 89,568 | 47,322 | |||||||||||||||||||||||||||||||||
Total assets |
$ | 2,388,049 | $ | 1,779,216 | $ | 870,034 | ||||||||||||||||||||||||||||||
Interest-bearing liabilities: |
||||||||||||||||||||||||||||||||||||
Interest-bearing deposits: |
||||||||||||||||||||||||||||||||||||
Interest checking |
$ | 261,163 | $ | 8,309 | 3.18 | % | $ | 171,637 | $ | 4,074 | 2.37 | % | $ | 65,119 | $ | 659 | 1.01 | % | ||||||||||||||||||
Savings and money market |
535,468 | 17,618 | 3.29 | % | 435,082 | 13,532 | 3.11 | % | 250,136 | 4,860 | 1.94 | % | ||||||||||||||||||||||||
Certificates of deposit |
727,724 | 35,745 | 4.91 | % | 516,394 | 22,426 | 4.34 | % | 256,056 | 8,171 | 3.19 | % | ||||||||||||||||||||||||
Total deposits |
1,524,355 | 61,672 | 4.05 | % | 1,123,113 | 40,032 | 3.56 | % | 571,311 | 13,690 | 2.40 | % | ||||||||||||||||||||||||
Securities sold under
agreements to repurchase |
181,621 | 7,371 | 4.06 | % | 101,144 | 4,329 | 4.28 | % | 54,811 | 1,315 | 2.40 | % | ||||||||||||||||||||||||
Federal Home Loan Bank advances
and other borrowings |
44,072 | 2,211 | 5.02 | % | 39,728 | 1,878 | 4.68 | % | 43,933 | 1,279 | 2.91 | % | ||||||||||||||||||||||||
Subordinated debt |
56,759 | 3,965 | 6.98 | % | 37,372 | 2,504 | 6.70 | % | 16,361 | 986 | 6.02 | % | ||||||||||||||||||||||||
Total interest-bearing
liabilities |
1,806,807 | 75,219 | 4.16 | % | 1,301,357 | 48,743 | 3.75 | % | 686,416 | 17,270 | 2.52 | % | ||||||||||||||||||||||||
Noninterest-bearing deposits |
291,983 | — | — | 259,585 | — | — | 120,007 | — | — | |||||||||||||||||||||||||||
Total deposits and interest-
bearing liabilities |
2,098,790 | 75,219 | 3.58 | % | 1,560,942 | 48,743 | 3.12 | % | 806,423 | 17,270 | 2.14 | % | ||||||||||||||||||||||||
Other liabilities |
13,108 | 11,105 | 2,730 | |||||||||||||||||||||||||||||||||
Stockholders’ equity |
276,151 | 207,169 | 60,881 | |||||||||||||||||||||||||||||||||
| $ | 2,388,049 | $ | 1,779,216 | $ | 870,034 | |||||||||||||||||||||||||||||||
Net interest income |
$ | 75,712 | $ | 60,953 | $ | 29,038 | ||||||||||||||||||||||||||||||
Net interest spread (3) |
2.88 | % | 3.20 | % | 3.16 | % | ||||||||||||||||||||||||||||||
Net interest margin |
3.55 | % | 3.90 | % | 3.60 | % | ||||||||||||||||||||||||||||||
| (1) | Average balances of nonperforming loans are included in the above amounts. | |
| (2) | Yields based on the carrying value of those tax exempt instruments are shown on a fully tax equivalent basis. |
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| (3) | The net interest spread calculation excludes the impact of demand deposits. Had the impact of demand deposits been included, the net interest spread for the year ended December 31, 2007 would have been 3.46% compared to a net interest spread for the years ended December 31, 2006 and 2005 of 3.83% and 3.54%, respectively. |
As noted above, the net interest margin for 2007 was 3.55% compared to a net interest margin of
3.90% in 2006. The reduction in the net interest margin was significant as the net increases in
the yield on interest-earning assets was only 9 basis points compared to the increase in the rate
paid on total deposits and interest-bearing liabilities of 46 basis points. The net interest
margin for 2005 was 3.60%. Other matters related to the changes in net interest income, net
interest yields and rates, and net interest margin between 2007 and 2006 are presented below:
| • | Our loan yields increased by only 4 basis points between 2007 and 2006 while they increased by 124 basis points between 2006 and 2005. A significant amount of our loan portfolio has variable rate pricing with a large portion of these loans tied to our prime lending rate. Our weighted average prime rate for 2005 was 6.25% compared to 7.94% in 2006 and 7.52% in 2007. Our prime lending rate moves in concert with the Federal Reserve’s changes to its Federal funds rate. As a result, the large increase in our prime rate between 2005 and 2006 contributed to the increase in overall loan rates while the decrease in our weighted average prime rate between 2006 and 2007 also impacted our loan rates. Other factors that impact our loan yields in any period are our evaluation of the credit worthiness, collateral and other factors related to the borrower when we agree to make a loan, the term of the loan and the ongoing relationship we have with a particular borrower. | ||
| • | We have been able to grow our funding base significantly. For asset/liability management purposes, we elected to allocate a greater proportion of such funds to our loan portfolio versus our securities and shorter-term investment portfolio during the three year period noted above. For 2007, average loan balances were 80% of total interest-earning assets compared to 77% in 2006 and 68% in 2005. Loans generally have higher yields than do securities and other shorter-term investments. This change in allocation contributed to the increase in the overall total interest earning asset yields between the three years. | ||
| • | During 2007, overall deposit rates were higher than those rates for the comparable period in 2006 and 2005. Normally, changes in interest rates paid on such products as interest checking, savings and money market accounts, securities sold under agreements to repurchase and Federal funds purchased will generally increase or decrease in a manner that is consistent with changes in the short-term rate environment. However, during 2007, our short term funding rates were generally higher than in 2006 even though we experienced decreases in our short-term asset and prime rate loan yields. We continue to monitor the pricing of deposit products by our primary competitors. The pricing of our primary competitors required us to increase these rates during the three-year period noted. | ||
| • | During 2007, the average balances of noninterest bearing deposit balances, interest bearing transaction accounts, savings and money market accounts and securities sold under agreements to repurchase amounted to 61% of our total funding compared to 62% in 2005 and 61% in 2004. These funding sources generally have lower rates than do other funding sources, such as certificates of deposit and other borrowings. Additionally, noninterest bearing deposits comprised only 14% of total funding in 2007, compared to 17% in 2006 and 15% in 2005. Maintaining our noninterest bearing deposit balances in relation to total funding is critical to maintaining and growing our net interest margin. Management places a great deal of emphasis on this particular product. | ||
| • | Also impacting the net interest margin during 2007 compared to 2006 and 2005 was pricing of our floating rate subordinated indebtedness which comprises approximately $60 million of our average aggregate subordinated indebtedness as of December 31, 2007, compared to $30 million at December 31, 2006. The interest rate charged on this indebtedness is generally higher than other funding sources. In October 2007, we issued an additional $30 million in floating rate subordinated indebtedness to fund the cash component of the Mid-America purchase price. The rate we are required to pay on this indebtedness is 285 points over three-month LIBOR. This spread is higher than similar forms of subordinated indebtedness which were acquired in previous periods reflecting an increase in market pricing for this form of indebtedness which occurred in the last half of 2007. |
The current shape of the yield curve represents a challenge for most banks, including Pinnacle
National, as we use a significant amount of short-term funding to fund our balance sheet growth.
This short-term funding comes in the form of checking accounts, savings accounts, money market
accounts, short-term time deposits and securities sold under agreements to repurchase. Rates paid
on these short-term deposits correlate to the Fed funds rate and short term treasury rates. During
most of 2007, the Fed funds rate was higher than other longer term treasuries (i.e., an inverted
yield curve). As a result, for most of 2007 depositors tended to maintain their funds in
shorter-term deposit accounts where they could achieve a higher yield on their deposit balances and
not
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concern themselves with long-term products because there was not enough rate increase for them to
justify the longer maturity. In a more traditional rate environment, depositors typically would
either accept a lesser rate for more liquid deposit accounts or choose a higher rate via a longer
time deposit.
In spite of the current yield curve, we believe we will increase net interest income through
overall growth in earning assets in 2008 compared to 2007. The additional revenues provided by
increased loan volumes should be sufficient to overcome any immediate increases in funding costs
such that we should be able to increase our current net interest income. Even though our net
interest income will likely increase, our net interest margins could decrease due to increasingly
competitive deposit pricing in our markets. In the last few months of 2007 and first few months of
2008, the Federal Reserve reduced short-term rates dramatically. We have taken steps to counter
the impact of these rate decreases on our floating rate assets (including prime rate loans) by
reducing deposit rates to an appropriate level where we believe we can sustain our funding base.
We believe it will take more time for our market to begin to price in the full impact of these rate
decreases, and for competitive reasons we will not be able to counter the full impact of these rate
decreases on our net interest margin. As a result, we believe our net interest margins 2008 will
be less than our net interest margin in 2007.
Rate and Volume Analysis. Net interest income increased by $14,759,000 between the years ended
December 31, 2007 and 2006 and by $31,915,000 between the years ended December 31, 2006 and 2005.
The following is an analysis of the changes in our net interest income comparing the changes
attributable to rates and those attributable to volumes (dollars in thousands):
| 2007 Compared to 2006 | 2006 Compared to 2005 | |||||||||||||||||||||||
| Increase (decrease) due to | Increase (decrease) due to | |||||||||||||||||||||||
| Rate | Volume | Net | Rate | Volume | Net | |||||||||||||||||||
Interest-earning assets: |
||||||||||||||||||||||||
Loans |
$ | 491 | $ | 37,392 | $ | 37,883 | $ | 6,970 | $ | 49,869 | $ | 56,839 | ||||||||||||
Securities: |
||||||||||||||||||||||||
Taxable |
51 | 1,296 | 1,347 | 1,043 | 2,486 | 3,529 | ||||||||||||||||||
Tax-exempt |
16 | 1,034 | 1,050 | 76 | 824 | 900 | ||||||||||||||||||
Federal funds sold |
(696 | ) | 1,651 | 955 | 729 | 1,391 | 2,120 | |||||||||||||||||
Total interest-earning assets |
(138 | ) | 41,373 | 41,235 | 8,818 | 54,570 | 63,388 | |||||||||||||||||
Interest-bearing liabilities: |
||||||||||||||||||||||||
Interest-bearing deposits: |
||||||||||||||||||||||||
Interest checking |
1,390 | 2,845 | 4,235 | 886 | 2,529 | 3,415 | ||||||||||||||||||
Savings and money market |
783 | 3,303 | 4,086 | 2,927 | 5,745 | 8,672 | ||||||||||||||||||
Certificates of deposit |
2,943 | 10,376 | 13,319 | 2,945 | 11,310 | 14,255 | ||||||||||||||||||
Total deposits |
5,116 | 16,524 | 21,640 | 6,758 | 19,584 | 26,342 | ||||||||||||||||||
Securities sold under agreements to
repurchase |
(223 | ) | 3,265 | 3,042 | 1,031 | 1,983 | 3,014 | |||||||||||||||||
Federal Home Loan Bank advances and
other borrowings |
135 | 198 | 333 | 798 | (199 | ) | 599 | |||||||||||||||||
Subordinated debt |
105 | 1,356 | 1,461 | 111 | 1,407 | 1,518 | ||||||||||||||||||
Total interest-bearing liabilities |
5,134 | 21,342 | 26,476 | 8,698 | 22,775 | 31,473 | ||||||||||||||||||
Net interest income |
$ | (5,272 | ) | $ | 20,031 | $ | 14,759 | $ | 120 | $ | 31,795 | $ | 31,915 | |||||||||||
Changes in net interest income are attributed to either changes in average balances (volume change)
or changes in average rates (rate change) for earning assets and sources of funds on which interest
is received or paid. Volume change is calculated as change in volume times the previous rate while
rate change is change in rate times the previous volume. The change attributed to rates and
volumes (change in rate times change in volume) is considered above as a change in volume.
Provision for Loan Losses. The provision for loan losses represents a charge to earnings necessary
to establish an allowance for loan losses that, in our management’s evaluation, should be adequate
to provide coverage for the probable losses on outstanding loans. The provision for loan losses
amounted to $4,720,000, $3,732,000 and $2,152,000 for the years ended December 31, 2007, 2006 and
2005, respectively.
Based upon our management’s evaluation of the loan portfolio, we believe the allowance for loan
losses to be adequate to absorb our estimate of probable losses existing in the loan portfolio at
December 31, 2007. A significant increase in loan growth and increased net-charge offs in 2007 were the primary reasons for the increased provision expense in 2007 when
compared to 2006 with similar reasons for the increased provision expense in 2006 when compared to
2005.
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Based upon management’s assessment of the loan portfolio, we adjust our allowance for loan losses
to an amount deemed appropriate to adequately cover probable losses in the loan portfolio. While
our policies and procedures used to estimate the allowance for loan losses, as well as the
resultant provision for loan losses charged to operations, are considered adequate by our
management and are reviewed from time to time by regulators, they are necessarily approximate.
There exist factors beyond our control, such as general economic conditions both locally and
nationally, which may negatively impact, materially, the adequacy of our allowance for loan losses
and, thus, the resulting provision for loan losses.
Noninterest Income. Our noninterest income is composed of several components, some of which vary
significantly between quarterly and annual periods. Service charges on deposit accounts and other
noninterest income generally reflect our growth, while investment services and fees from the
origination of mortgage loans will often reflect market conditions and fluctuate from period to
period. The opportunities for recognition of gains on loans and loan participations sold and gains
on sales of investment securities may also vary widely from quarter to quarter and year to year and
may diminish over time as our lending and industry concentration limits increase.
The following is the makeup of our noninterest income for the years ended December 31, 2007, 2006
and 2005 (dollars in thousands):
| 2007-2006 | 2006-2005 | |||||||||||||||||||
| Years ended | Percent | Year ended | Percent | |||||||||||||||||
| December 31, | Increase | December 31, | Increase | |||||||||||||||||
| 2007 | 2006 | (Decrease) | 2005 | (Decrease) | ||||||||||||||||
Noninterest income: |
||||||||||||||||||||
Service charges on deposit accounts |
$ | 7,941 | $ | 4,645 | 71.0 | % | $ | 978 | 374.9 | % | ||||||||||
Investment services |
3,456 | 2,463 | 40.3 | % | 1,836 | 34.2 | % | |||||||||||||
Insurance sales commissions |
2,487 | 2,123 | 17.1 | % | — | — | ||||||||||||||
Gains on sales of loans and loan participations, net: |
||||||||||||||||||||
Fees from the origination and sale of mortgage
loans, net of sales commissions |
1,619 | 1,448 | 11.8 | % | 1,096 | 32.1 | % | |||||||||||||
Gains on loan participations sold, net |
239 | 420 | (43.1 | %) | 152 | 176.3 | % | |||||||||||||
Gain on sale of investment securities, net |
16 | — | — | 114 | (100.0 | %) | ||||||||||||||
Trust fees |
1,908 | 1,181 | 61.6 | % | — | — | ||||||||||||||
Other noninterest income: |
||||||||||||||||||||
ATM and other consumer fees |
2,822 | 1,796 | 57.1 | % | 90 | 1895.6 | % | |||||||||||||
Letters of credit fees |
293 | 506 | (42.1 | %) | 527 | (4.0 | %) | |||||||||||||
Bank-owned life insurance |
631 | 470 | 34.3 | % | 74 | 535.1 | % | |||||||||||||
Equity in earnings of Collateral Plus, LLC |
274 | 120 | 128.3 | % | 216 | (44.4 | %) | |||||||||||||
Other noninterest income |
835 | 614 | 36.0 | % | 311 | 97.4 | % | |||||||||||||
Total noninterest income |
$ | 22,521 | $ | 15,786 | 42.7 | % | $ | 5,394 | 192.7 | % | ||||||||||
Service charge income for 2007 increased over that of 2006 due to an increased number of customers
utilizing overdraft protection products and an increased per item insufficient fund charge.
Service charge income for 2006 increased over that of 2005 due to increased volumes from our
Rutherford County market and an increase in the number of Nashville deposit accounts subject to
service charges. However, for the Nashville accounts, the increase in service charges in 2006 when
compared to 2005 and 2004 was offset by the earnings credit rate provided by Pinnacle National to
its commercial deposit customers. This earnings credit rate serves to reduce the deposit service
charges for our commercial customers and is based on the average balances of their checking
accounts at Pinnacle National.
Also included in noninterest income are commissions and fees from our financial advisory unit,
Pinnacle Asset Management, a division of Pinnacle National. At December 31, 2007, Pinnacle Asset
Management was receiving commissions and fees in connection with approximately $878 million in
brokerage assets held with Raymond James Financial Services, Inc. compared to $597 million at
December 31, 2006. Additionally, at December 31, 2007, our trust department was receiving fees on
approximately $464 million in assets compared to $395 million at December 31, 2006. In 2007, we
earned $2.5 million in insurance commissions compared to $2.1 million in 2006. Following our
merger with Cavalry in March of 2006, we began to offer trust services through Pinnacle National’s
trust division and insurance services through Miller and Loughry Insurance and Services, Inc. which
we believe will continue to increase our noninterest income in future periods.
Additionally, mortgage related fees also provided for a significant portion of the increase in
noninterest income. These mortgage fees are for loans originated in both the Nashville and
Rutherford County markets that are subsequently sold to third-party investors.
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All of these loan sales transfer servicing rights to the buyer. Generally, mortgage origination
fees increase in lower interest rate environments and decrease in rising interest rate
environments. As a result, mortgage origination fees may fluctuate greatly in response to a
changing rate environment. Also, impacting mortgage origination fees are the number of mortgage
originators we have offering these products. These originators are largely commission-based
employees. We have steadily increased the number of originators working for us over the years and
plan to continue to increase our mortgage origination work force in 2008.
We also sell certain commercial loan participations to our correspondent banks. Such sales are
primarily related to new lending transactions in excess of internal loan limits or industry
concentration limits. At December 31, 2007 and pursuant to participation agreements with these
correspondents, we had participated approximately $233.4 million of originated loans to these other
banks compared to $95.4 million at December 31, 2006. These participation agreements have various
provisions regarding collateral position, pricing and other matters. Many of these agreements
provide that we pay the correspondent less than the loan’s contracted interest rate. Pursuant to
SFAS No. 140, “Accounting for Transfers and Servicing of Financial Assets and Extinguishments of
Liabilities — a replacement of Financial Accounting Standards Board (“FASB”) Statement No. 125,”
in those transactions whereby the correspondent is receiving a lesser amount of interest than the
amount owed by the customer, we record a net gain along with a corresponding asset representing the
present value of our net retained cash flows. The resulting asset is amortized over the term of the
loan. Conversely, should a loan be paid prior to maturity, any remaining unamortized asset is
charged as a reduction to gains on loan participations sold. We recorded gains, net of
amortization expense related to the aforementioned retained cash flow asset, of $239,000, $420,000
and $152,000 during each of the years in the three-year period ended December 31, 2007 related to
the loan participation transactions. We intend to maintain relationships with our correspondents
in order to sell participations in future loans to these or other correspondents primarily due to
limitations on loans to a single borrower or industry concentrations. In general, the Mid-America
and Cavalry mergers have resulted in an increase in capital which has resulted in increased lending
limits for such items as loans to a single borrower and loans to a single industry such that our
need to participate such loans in the future may be reduced. In any event, the timing of
participations may cause the level of gains, if any, to vary significantly.
Also included in noninterest income for 2007 and 2005, were net gains of approximately $16,000 and
$114,000 realized from the sale of available-for-sale securities.
Included in other noninterest income are miscellaneous consumer fees, such as ATM revenues,
merchant card and other electronic banking revenues. We experienced a significant increase in
these revenues in 2007 and 2006 compared to previous periods due primarily to the merger with
Cavalry.
Noninterest income from the increased cash surrender value of bank-owned life insurance increased
significantly over the three year period. In connection with the Cavalry merger, we became the
owner and beneficiary of several life insurance policies on former Cavalry directors and
executives. These policies were acquired by Cavalry in connection with a supplemental retirement
plan for these former Cavalry directors and executives.
At the end of 2004, we formed a wholly-owned subsidiary, Pinnacle Credit Enhancement Holdings, Inc.
(“PCEH”). PCEH owns a 24.5% interest in Collateral Plus, LLC, which is accounted for under the
equity method. Collateral Plus, LLC serves as an intermediary between investors and borrowers in
certain financial transactions whereby the borrowers require enhanced collateral in the form of
guarantees or letters of credit issued by the investors for the benefit of banks and other
financial institutions. Our equity in the earnings of Collateral Plus, LLC for the years ended
December 31, 2007, 2006 and 2005 was $274,000, $120,000 and $216,000, respectively.
Additional other noninterest income increased by approximately $221,000 during 2007 when compared
to 2006 and $303,000 during 2006 when compared to 2005. Most of these revenues are for loan late
charges and other fees.
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Noninterest Expense. Noninterest expense consists of salaries and employee benefits, equipment and
occupancy expenses, and other operating expenses. The following is the makeup of our noninterest
expense for the years ended December 31, 2007, 2006 and 2005 (dollars in thousands):
| 2007-2006 | 2006-2005 | |||||||||||||||||||
| Years ended | Percent | Year ended | Percent | |||||||||||||||||
| December 31, | Increase | December 31, | Increase | |||||||||||||||||
| 2007 | 2006 | (Decrease) | 2005 | (Decrease) | ||||||||||||||||
Noninterest expense: |
||||||||||||||||||||
Salaries and employee benefits: |
||||||||||||||||||||
Salaries |
$ | 26,304 | $ | 18,017 | 46.0 | % | $ | 8,592 | 109.7 | % | ||||||||||
Commissions |
1,778 | 1,298 | 37.0 | % | 714 | 81.8 | % | |||||||||||||
Other compensation, primarily incentives |
2,602 | 4,209 | (38.2 | %) | 2,101 | 100.3 | % | |||||||||||||
Equity compensation expenses |
2,100 | 1,475 | 42.4 | % | 245 | 502.0 | % | |||||||||||||
Employee benefits and other |
3,362 | 2,470 | 36.1 | % | 1,479 | 67.0 | % | |||||||||||||
Total salaries and employee benefits |
36,146 | 27,469 | 31.6 | % | 13,131 | 109.2 | % | |||||||||||||
Equipment and occupancy |
10,261 | 7,522 | 36.4 | % | 3,767 | 99.7 | % | |||||||||||||
Other real estate |
160 | — | — | — | ||||||||||||||||
Marketing and business development |
1,677 | 1,234 | 35.9 | % | 698 | 76.8 | % | |||||||||||||
Postage and supplies |
1,995 | 1,510 | 32.1 | % | 618 | 144.3 | % | |||||||||||||
Amortization of core deposit intangible |
2,144 | 1,783 | 20.2 | % | — | — | ||||||||||||||
Other noninterest expense: |
||||||||||||||||||||
Accounting and auditing |
1,263 | 742 | 70.2 | % | 646 | 14.9 | % | |||||||||||||
Consultants |
269 | 320 | (15.9 | %) | 123 | 160.2 | % | |||||||||||||
Legal, including borrower-related charges |
437 | 310 | 41.0 | % | 245 | 26.5 | % | |||||||||||||
OCC exam fees |
365 | 257 | 42.0 | % | 182 | 41.2 | % | |||||||||||||
Directors’ fees |
233 | 257 | (9.3 | %) | 229 | 12.2 | % | |||||||||||||
Insurance, including FDIC assessments |
1,278 | 687 | 86.0 | % | 322 | 113.4 | % | |||||||||||||
Charitable contributions |
334 | 186 | 79.6 | % | 113 | 64.6 | % | |||||||||||||
Other professional fees |
158 | 73 | 116.4 | % | 4 | 1,725.0 | % | |||||||||||||
Other noninterest expense |
3,138 | 2,632 | 19.2 | % | 954 | 175.9 | % | |||||||||||||
Total other noninterest expense |
7,475 | 5,470 | 36.7 | % | 2,818 | 94.1 | % | |||||||||||||
Merger related expense |
622 | 1,636 | (62.0 | %) | — | — | ||||||||||||||
Total noninterest expense |
$ | 60,480 | $ | 46,624 | 29.7 | % | $ | 21,032 | 121.7 | % | ||||||||||
Expenses have generally increased between the above periods due to our mergers with Mid-America and
Cavalry, personnel additions occurring throughout each period, the continued development of our
branch network and other expenses which increase in relation to our growth rate. We anticipate
continued increases in our expenses in the future for such items as additional personnel, the
opening of additional branches, audit expenses and other expenses which tend to increase in
relation to our growth. Additionally, we adopted SFAS No. 123(R) in 2006 which addresses the
accounting for employee equity based incentives. Our compensation expense will increase in all
future periods as a result of adopting this accounting pronouncement. In 2007 and 2006,
approximately $1.70 million and $1.01 million, respectively, of compensation expense related to
stock options is included in equity compensation expense. The remaining expense in each year is
related to our shares of restricted stock that we have issued, but for which the forfeiture
restrictions have not yet lapsed.
At December 31, 2007, we employed 702.0 full time equivalent employees compared to 404.0 at
December 31, 2006 and 156.5 at the end of 2005. We intend to continue to add employees to our work
force for the foreseeable future, which will cause our salary and employee benefits costs to
increase in future periods.
We believe that variable pay incentives are a valuable tool in motivating an employee base that is
focused on providing our clients effective financial advice and increasing shareholder value. As a
result, and unlike many other financial institutions, substantially all of our employees are
eligible to participate in an annual cash incentive plan. Under the plan, the targeted level of
incentive payments requires the Company to achieve a certain soundness threshold and a targeted
earnings per share. To the extent that actual earnings per share are above or below targeted
earnings per share, the aggregate incentive payments are increased or decreased. Additionally, our
Human Resources and Compensation Committee (the “Committee”) of the Board of Directors has the
ability to change the parameters of the variable cash award at any time prior to final distribution
of the awards in order to take into account current events and circumstances and maximize the
benefit of the awards to our firm and to the associates.
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Included in the salary and employee benefits amounts for the years ended December 31, 2007, 2006
and 2005, were $2,373,000, $4,104,000 and $2,031,000, respectively, related to variable cash
awards. This expense will fluctuate from year to year and quarter to quarter based on the
estimation of achievement of performance targets and the increase in the number of associates
eligible to receive the award. In 2007, we achieved our soundness threshold but did not achieve
our targeted earnings per share which would have resulted in a minimum payout under the terms of
the plan. The Committee approved the payment of cash incentive awards under the 2007 plan at a
percentage that was generally higher than that otherwise payable under the terms of the plan,
except for five of our executive officers (President and Chief Executive Officer, Chairman of the
Board, Chief Administrative Officer, Chief Financial Officer and Chief Credit Officer). In
accordance with their request, these executive officers did not receive any cash incentive payments
under our 2007 cash incentive plan. As a result, the 2007 award was $2.4 million or $1.7 million
less than the 2006 award.
For 2006, the actual award to be paid to qualifying associates equaled 120% of their targeted award
as our actual earnings for 2006 exceed our 2006 earnings target under the 2006 plan adjusted for
the impact of the merger related expenses incurred in connection with the Cavalry acquisition. For
2005, the actual award to be paid to associates equaled 100% of their targeted award. The
incentive plan for 2008 is structured similarly to prior year plans in that the award is based on
the achievement of soundness and earnings objectives. Because of the relative experience of our
associates, our compensation costs are, and we expect will continue to be, higher on a per
associate basis than other financial institutions of a similar asset size; however, we believe the
experience and engagement of our associates also allows us to employ fewer people than most
financial institutions our size.
In connection with our merger with Mid-America, all former associates of Mid-America that were
displaced by our merger were granted a retention bonus award provided they worked through a
predetermined date. Also, those associates that will continue as Pinnacle associates following the
merger are eligible for a retention bonus should they continue their employment through December
31, 2008. We anticipate that this retention bonus award will approximate $4.6 million and will be
treated as a merger related expense in 2008. As a result of these associates agreeing to a
retention bonus award, they will not be eligible to participate in any of our other cash or equity
incentive award plans until 2009.
Equipment and occupancy expenses in 2007 were greater than the 2006 amount by $2.7 million. This
increase is primarily attributable to our market expansion to Knoxville, Tennessee, our new branch
facility in the Donelson area of Nashville which opened in the first quarter of 2007, one month of
expenses associated with the eleven Mid-America branches which were acquired on December 1, 2007
and a full year of expenses associated with the Cavalry merger which occurred in March of 2006.
Equipment and occupancy expense for 2006 increased by 99.7% over 2005’s expenses due primarily to
the additional branches and equipment acquired with the Cavalry merger. In January of 2005, we
opened an office in Franklin, Tennessee and, in the second quarter of 2005, we opened an office in
Hendersonville, Tennessee. We have also increased our leased main office space periodically during
the three years ended December 31, 2007. These additions contributed to the increase in our
equipment and occupancy expenses throughout the three year period and will contribute to increases
in expenses in the future as we construct new facilities, including new facilities currently
planned in both the Nashville and Knoxville MSAs.
Marketing and other business development and postage and supplies expenses are higher in 2007
compared to 2006 and 2005 due to increases in the number of customers and prospective customers;
increases in the number of customer contact personnel and the corresponding increases in customer
entertainment; and other business development expenses. The addition of customers from the
Mid-America and Cavalry mergers had a direct impact on these increased charges.
Included in noninterest expense for 2007 and 2006 is $2.1 million and $1.8 million, respectively,
of amortization core deposit intangibles related to the Mid-America and Cavalry mergers. For
Mid-America, this identified intangible is being amortized over ten years using an accelerated
method which anticipates the life of the underlying deposits to which the intangible is
attributable. For Cavalry, this identified intangible is being amortized over seven years using an
accelerated method which anticipates the life of the underlying deposits to which the intangible is
attributable. Amortization expense associated with these core deposit intangibles will approximate
$2.5 million to $2.9 million per year for the next five years with lesser amounts for the remaining
years.
Additionally, for the year ended December 31, 2007, we incurred $622,000 of merger related expenses
directly associated with the Mid-America merger. The merger related charges consisted of
integration costs incurred in connection with the merger, including approximately $4.6 million of
retention bonuses payable to Mid-America associates. We do anticipate additional merger related
expenses associated with the Mid-America transaction in 2008 as we fully integrate this
acquisition. For the year ended December 31, 2006, we incurred $1,636,000 of merger related
expenses directly associated with the Cavalry merger. The merger related charges consisted of
integration costs incurred in connection with the merger, including accelerated depreciation
associated with software and other technology assets whose useful lives were shortened as a result
of the Cavalry acquisition. We do not anticipate any additional merger related expenses associated
with the Cavalry transaction in 2008.
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Other noninterest expenses increased 36.7% in 2007 over 2006 and 94.1% in 2006 over 2005. Most of
these increases are attributable to increased audit and accounting fees, legal fees and insurance
expenses. Also contributing to the increases are incidental variable costs related to deposit
gathering and lending. Examples include expenses related to ATM networks, correspondent bank
service charges, check losses, appraisal expenses, closing attorney expenses and other items which
have increased significantly as a result of the Cavalry merger.
Our efficiency ratio (ratio of noninterest expense to the sum of net interest income and
noninterest income) was 61.6% in 2007 compared to 60.8% in 2006 and to 61.1% in 2005. The
efficiency ratio measures the amount of expense that is incurred to generate a dollar of revenue.
Income Taxes. The effective income tax expense rate for the year ended December 31, 2007 was
approximately 30.2%, compared to an effective income tax expense rate for years ended December 31,
2006 and 2005 of approximately 32.1% and 28.4%, respectively. The decrease in the effective rate
for 2007 compared to 2006 was due to increased investment in bank qualified municipal securities
and increased tax savings from our captive insurance subsidiary, PNFP Insurance, Inc. The increase
in the effective tax rate between 2006 and 2005 was due primarily to the additional earnings being
taxed at a higher rate as the various tax savings initiatives (e.g., municipal bond income) had a
lesser impact in 2006 when compared to the previous periods. Additionally, the impact of our
incentive stock options and their treatment pursuant to the adoption of SFAS No. 123(R) contributed
to the increase in our effective rate in 2006, but also contributed to the decreased effective rate
in 2007 as the tax treatment of incentive stock options will gradually lessen over time as these
older incentive stock options fully vest and thus become less impactful on our effective tax rate.
We now only award nonqualified stock options to our associates.
Financial Condition
Our consolidated balance sheet at December 31, 2007 reflects significant growth since December 31,
2005. Total assets grew from $1.02 billion at December 31, 2005 to $2.14 billion at December 31,
2006 to $3.79 billion at December 31, 2007. Total deposits grew $1.30 billion during 2007 and $812
million during 2006. Excluding the deposits acquired with the Mid-America acquisition on November
30, 2007 of $957 million, total deposits increased by $346 million in 2007. Excluding the deposits
acquired with the Cavalry acquisition on March 15, 2006 of $584 million, total deposits increased
by $228 million in 2006. We invested substantially all of the additional deposits and other
fundings in loans, which grew by $1.25 billion (of which $865 million was acquired with the
Mid-America acquisition) during 2007 and $850 million (of which $551 million was acquired with the
Cavalry acquisition) during 2006, and securities, which increased by $176 million in 2007 (of which
$148 million was acquired with the Mid-America acquisition) and $67 million in 2006 (of which $39
million was acquired with the Cavalry acquisition).
Loans. The composition of loans at December 31 for each of the past five years and the percentage
(%) of each classification to total loans are summarized as follows (dollars in thousands):
| 2007 | 2006 | 2005 | 2004 | 2003 | ||||||||||||||||||||||||||||||||||||
| Amount | Percent | Amount | Percent | Amount | Percent | Amount | Percent | Amount | Percent | |||||||||||||||||||||||||||||||
Commercial real estate — Mortgage |
$ | 728,201 | 26.5 | % | $ | 284,302 | 19.0 | % | $ | 148,102 | 22.9 | % | $ | 117,123 | 24.8 | % | $ | 68,507 | 23.1 | % | ||||||||||||||||||||
Consumer real estate — Mortgage |
562,721 | 20.5 | % | 299,627 | 20.0 | % | 169,953 | 26.2 | % | 126,907 | 26.9 | % | 76,042 | 25.6 | % | |||||||||||||||||||||||||
Construction and land development |
517,399 | 18.8 | % | 253,097 | 16.9 | % | 67,667 | 10.5 | % | 23,419 | 5.0 | % | 11,288 | 3.8 | % | |||||||||||||||||||||||||
Commercial and industrial |
838,161 | 30.5 | % | 608,530 | 40.6 | % | 239,129 | 36.9 | % | 189,456 | 40.1 | % | 129,882 | 43.7 | % | |||||||||||||||||||||||||
Consumer and other loans |
103,159 | 3.7 | % | 52,179 | 3.5 | % | 23,173 | 3.6 | % | 15,457 | 3.3 | % | 11,285 | 3.8 | % | |||||||||||||||||||||||||
Total loans |
$ | 2,749,641 | 100.0 | % | $ | 1,497,735 | 100.0 | % | $ | 648,024 | 100.0 | % | $ | 472,362 | 100.0 | % | $ | 297,004 | 100.0 | % | ||||||||||||||||||||
During the year ended December 31, 2007, our loan balances increased by $1.25 billion, or 83.6%.
Approximately $865 million of this increase was due to the Mid-America acquisition while $387
million was attributable to organic growth. Our organic growth rate equates to approximately 26%
for the year ended December 31, 2007. The Mid-America loan portfolio had a significant impact on
our loan portfolio volumes as well as mix of loans as Mid-America had a larger percentage of
commercial real estate loans in comparison to our loans.
During the year ended December 31, 2006, and primarily due to the Cavalry merger, we increased the
percentage of our outstanding loans in construction and land development loans significantly.
These types of loans require that we maintain effective credit and construction monitoring systems.
Also as a result of the Cavalry merger, we also increased our resources in this area so that we
can attempt to effectively manage this area of exposure through utilization of experienced
professionals who are well-trained in this type of lending and who have significant experience in
our geographic market.
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The following table classifies our fixed and variable rate loans at December 31, 2007 according to
contractual maturities of (1) one year or less, (2) after one year through five years, and (3)
after five years. The table also classifies our variable rate loans pursuant to the contractual
repricing dates of the underlying loans (dollars in thousands):
| Amounts at December 31, 2007 | ||||||||||||||||||||
| Fixed | Variable | At December 31, | At December 31, | |||||||||||||||||
| Rates | Rates | Totals | 2007 | 2006 | ||||||||||||||||
Based on contractual maturity: |
||||||||||||||||||||
Due within one year |
$ | 267,227 | $ | 956,620 | $ | 1,223,847 | 44.5 | % | 40.9 | % | ||||||||||
Due in one year to five years |
836,154 | 266,926 | 1,097,079 | 39.9 | % | 39.9 | % | |||||||||||||
Due after five years |
142,701 | 286,014 | 428,715 | 15.6 | % | 19.2 | % | |||||||||||||
Totals |
$ | 1,246,082 | $ | 1,503,559 | $ | 2,749,641 | 100.0 | % | 100.0 | % | ||||||||||
Based on contractual repricing dates: |
||||||||||||||||||||
Daily floating rate |
$ | — | $ | 1,099,215 | $ | 1,099,215 | 40.0 | % | 46.1 | % | ||||||||||
Due within one year |
267,227 | 316,208 | 583,435 | 21.2 | % | 13.6 | % | |||||||||||||
Due in one year to five years |
836,154 | 55,810 | 891,963 | 32.4 | % | 34.2 | % | |||||||||||||
Due after five years |
142,701 | 32,327 | 175,028 | 6.4 | % | 6.1 | % | |||||||||||||
Totals |
$ | 1,246,802 | $ | 1,503,559 | $ | 2,749,641 | 100.0 | % | 100.0 | % | ||||||||||
The above information does not consider the impact of scheduled principal payments. Daily floating
rate loans are tied to Pinnacle National’s prime lending rate or a national interest rate index
with the underlying loan rates changing in relation to changes in these indexes.
Non-Performing Assets. The specific economic and credit risks associated with our loan portfolio
include, but are not limited to, a general downturn in the economy which could affect employment
rates in our market areas, general real estate market deterioration, interest rate fluctuations,
deteriorated or non-existent collateral, title defects, inaccurate appraisals, financial
deterioration of borrowers, fraud, and any violation of laws and regulations.
We attempt to reduce these economic and credit risks by adherence to loan to value guidelines for
collateralized loans, by investigating the creditworthiness of the borrower and by monitoring the
borrower’s financial position. Also, we establish and periodically review our lending policies and
procedures. Banking regulations limit our exposure by prohibiting loan relationships that exceed
15% of Pinnacle National’s statutory capital in the case of loans that are not fully secured by
readily marketable or other permissible types of collateral. Furthermore, we have an internal
limit for aggregate indebtedness to a single borrower of $22 million. Our loan policy requires
that our board of directors approve any relationships that exceed this internal limit.
We discontinue the accrual of interest income when (1) there is a significant deterioration in the
financial condition of the borrower and full repayment of principal and interest is not expected or
(2) the principal or interest is more than 90 days past due, unless the loan is both well-secured
and in the process of collection. At December 31, 2007, we had $19,677,000 in loans on nonaccrual
compared to $7,070,000 at December 31, 2006. The increase in nonperforming loans between December
31, 2006 and December 31, 2007 was primarily related to loans acquired from Mid-America and
identified as being impaired and several larger loans identified in the fourth quarter of 2007. As
of December 31, 2007, approximately 52% of nonperforming loans were acquired from Mid-America.
At December 31, 2007, we owned $1,673,000 in real estate which we had acquired from borrowers.
Substantially all of this amount relates to homes that are in various stages of construction for
which we believe we have adequate collateral. Approximately $1.2 million of the amount at December
31, 2007 was acquired from Mid-America.
There was approximately $1.61 million in other loans 90 days past due and still accruing interest
at December 31, 2007 compared to $737,000 in loans at December 31, 2006. At December 31, 2007 and
at December 31, 2006, no loans were deemed to be restructured loans. The following table is a
summary of our nonperforming assets at December 31 for each of the years in the five year period
ended December 31, 2007 (dollars in thousands):
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| At December 31, | ||||||||||||||||||||
| 2007 | 2006 | 2005 | 2004 | 2003 | ||||||||||||||||
Nonaccrual loans (1) |
$ | 19,677 | $ | 7,070 | $ | 460 | $ | 561 | $ | 379 | ||||||||||
Restructured loans |
— | — | — | — | — | |||||||||||||||
Other real estate owned |
1,673 | 995 | — | — | — | |||||||||||||||
Total nonperforming assets |
21,350 | 8,065 | 460 | 561 | 379 | |||||||||||||||
Accruing loans past due 90 days or more |
1,613 | 737 | — | 146 | 182 | |||||||||||||||
Total nonperforming assets and accruing loans past due 90 days or more |
$ | 22,963 | $ | 8,802 | $ | 460 | $ | 707 | $ | 561 | ||||||||||
Total loans outstanding |
$ | 2,749,641 | $ | 1,497,735 | $ | 648,024 | $ | 472,362 | $ | 297,004 | ||||||||||
Ratio of nonperforming assets and accruing loans past due 90 days or
more to total loans outstanding at end of period |
0.84 | % | 0.59 | % | 0.07 | % | 0.15 | % | 0.19 | % | ||||||||||
Ratio of nonperforming assets and accruing loans past due 90 days or
more to total allowance for loan losses at end of period |
80.66 | % | 54.61 | % | 5.85 | % | 12.51 | % | 15.08 | % | ||||||||||
| (1) | Interest income that would have been recorded in 2007 related to nonaccrual loans was $485,000 compared to $283,000 for the year ended December 31, 2006 and $21,000 for the year ended December 31, 2005, none of which is included in interest income or net income for the applicable periods. |
Potential problem assets, which are not included in nonperforming assets, amounted to approximately
$15.3 million, or 0.56% of total loans outstanding at December 31, 2007, compared to $6.0 million,
or 0.24% of total loans outstanding at December 31, 2006. Potential problem assets represent those
assets with a well-defined weakness and where information about possible credit problems of
borrowers has caused management to have serious doubts about the borrower’s ability to comply with
present repayment terms. This definition is believed to be substantially consistent with the
standards established by the OCC, Pinnacle National’s primary regulator, for loans classified as
substandard.
Allowance for Loan Losses (ALL). We maintain the ALL at a level that our management deems
appropriate to adequately cover the probable losses in the loan portfolio. As of December 31, 2007
and December 31, 2006, our allowance for loan losses was $28,470,000 and $16,118,000, respectively,
which our management deemed to be adequate at each of the respective dates. The significant
increase in our ALL was primarily the result of our merger with Mid-America. The judgments and
estimates associated with our ALL determination are described under “Critical Accounting Estimates”
above.
We periodically analyze our loan position with respect to our borrowers’ industries to determine if
a concentration of credit risk exists to any one or more industries. We have significant credit
exposures arising from loans outstanding and unfunded lines of credit to borrowers in the home
building and land subdividing industry, the trucking industry and to lessors of residential and
commercial properties. We evaluate our exposure level to these industry groups periodically to
determine the amount of additional allowance allocations due to these concentrations.
The following table sets forth, based on management’s best estimate, the allocation of the ALL to
types of loans as well as the unallocated portion as of December 31 for each of the past five years
and the percentage of loans in each category to the total loans (dollars in thousands):
| 2007 | 2006 | 2005 | 2004 | 2003 | ||||||||||||||||||||||||||||||||||||
| Amount | Percent | Amount | Percent | Amount | Percent | Amount | Percent | Amount | Percent | |||||||||||||||||||||||||||||||
Commercial real estate — Mortgage |
$ | 8,068 | 26.4 | % | $ | 4,550 | 19.0 | % | $ | 1,488 | 22.9 | % | $ | 1,205 | 24.8 | % | $ | 723 | 23.1 | % | ||||||||||||||||||||
Consumer real estate — Mortgage |
1,890 | 20.8 | % | 913 | 20.0 | % | 1,286 | 26.2 | % | 869 | 26.9 | % | 607 | 25.6 | % | |||||||||||||||||||||||||
Construction and land development |
4,897 | 18.7 | % | 2,869 | 16.9 | % | 690 | 10.5 | % | 227 | 5.0 | % | 113 | 3.8 | % | |||||||||||||||||||||||||
Commercial and industrial |
11,660 | 30.4 | % | 6,517 | 40.6 | % | 2,305 | 36.9 | % | 1,711 | 40.1 | % | 1,236 | 43.7 | % | |||||||||||||||||||||||||
Consumer and other loans |
1,400 | 3.7 | % | 870 | 3.5 | % | 552 | 3.6 | % | 396 | 3.3 | % | 320 | 3.8 | % | |||||||||||||||||||||||||
Unallocated |
555 | NA | 399 | NA | 1,537 | NA | 1,242 | NA | 720 | NA | ||||||||||||||||||||||||||||||
Total allowance for loan losses |
$ | 28,470 | 100.0 | % | $ | 16,118 | 100.0 | % | $ | 7,858 | 100.0 | % | $ | 5,650 | 100.0 | % | $ | 3,719 | 100.0 | % | ||||||||||||||||||||
In periods prior to 2006, the unallocated portion of the allowance consisted of dollar amounts
specifically set aside for certain general factors influencing the allowance. These factors
included ratio trends and other factors not specifically allocated to each category. Establishing
the percentages for these factors was largely subjective but was supported by economic data,
changes made in lending functions, and other support where appropriate. In 2006, the unallocated
portion decreased significantly, due to a more comprehensive and refined methodology to assess the
adequacy of our allowance for loan losses. As a result, in 2006, the methodology was refined to
embed many of the factors previously included in the unallocated portion of the allowance to the
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allocated amounts above for each category. This enhancement established a methodology whereby
national and economic factors, concentrations in market segments, loan review and portfolio
performance could be assigned to these specific categories.
The following is a summary of changes in the allowance for loan losses for each of the years in the
five year period ended December 31, 2007 and the ratio of the allowance for loan losses to total
loans as of the end of each period (dollars in thousands):
| For the year ended December 31, | ||||||||||||||||||||
| 2007 | 2006 | 2005 | 2004 | 2003 | ||||||||||||||||
Balance at beginning of period |
$ | 16,118 | $ | 7,858 | $ | 5,650 | $ | 3,719 | $ | 2,677 | ||||||||||
Provision for loan losses |
4,720 | 3,732 | 2,152 | 2,948 | 1,157 | |||||||||||||||
Allowance from Mid-America (2007) and Cavalry (2006)
acquisitions |
8,695 | 5,102 | — | — | — | |||||||||||||||
Charged-off loans: |
||||||||||||||||||||
Commercial real estate — Mortgage |
(22 | ) | — | — | — | — | ||||||||||||||
Consumer real estate — Mortgage |
(364 | ) | (46 | ) | (38 | ) | (834 | ) | (123 | ) | ||||||||||
Construction and land development |
(271 | ) | — | — | — | — | ||||||||||||||
Commercial and industrial |
(326 | ) | (436 | ) | (61 | ) | (50 | ) | — | |||||||||||
Consumer and other loans |
(359 | ) | (336 | ) | (109 | ) | (148 | ) | (44 | ) | ||||||||||
Total charged-off loans |
(1,342 | ) | (818 | ) | (208 | ) | (1,032 | ) | (167 | ) | ||||||||||
Recoveries of previously charged-off loans: |
||||||||||||||||||||
Commercial real estate — Mortgage |
— | — | — | — | — | |||||||||||||||
Consumer real estate — Mortgage |
125 | — | 231 | — | — | |||||||||||||||
Commercial real estate — Construction |
1 | — | — | 2 | 49 | |||||||||||||||
Commercial and industrial |
51 | 166 | 3 | — | — | |||||||||||||||
Consumer — Other |
102 | 78 | 30 | 13 | 3 | |||||||||||||||
Total recoveries of previously charged-off loans |
279 | 244 | 264 | 15 | 52 | |||||||||||||||
Net (charge-offs) recoveries |
(1,063 | ) | (574 | ) | 56 | (1,017 | ) | (115 | ) | |||||||||||
Balance at end of period |
$ | 28,470 | $ | 16,118 | $ | 7,858 | $ | 5,650 | $ | 3,719 | ||||||||||
Ratio of allowance for loan losses to total loans
outstanding at end of period |
1.04 | % | 1.08 | % | 1.21 | % | 1.20 | % | 1.25 | % | ||||||||||
Ratio of net charge-offs (recoveries) to average loans
outstanding for the period |
0.06 | % | 0.05 | % | (0.01 | )% | 0.27 | % | 0.05 | % | ||||||||||
As noted in our critical accounting policies, management assesses the adequacy of the allowance
prior to the end of each calendar quarter. This assessment includes procedures to estimate the
allowance and test the adequacy and appropriateness of the resulting balance. The level of the
allowance is based upon management’s evaluation of the loan portfolios, past loan loss experience,
known and inherent risks in the portfolio, adverse situations that may affect the borrower’s
ability to repay (including the timing of future payment), the estimated value of any underlying
collateral, composition of the loan portfolio, economic conditions, industry and peer bank loan
quality indications and other pertinent factors. This evaluation is inherently subjective as it
requires material estimates including the amounts and timing of future cash flows expected to be
received on impaired loans that may be susceptible to significant change. Although the allowance
increased by $12.35 million between December 31, 2007 (of which $8.70 million was acquired with
Mid-America) and December 31, 2006, the ratio of our allowance for loan losses to total loans
outstanding decreased to 1.04% at December 31, 2007 compared to 1.08% at December 31, 2006. The
reduction in the ratio between the two dates is primarily attributable to improvements in the
overall credit quality of our portfolio. In the future, the allowance to total loans outstanding
ratio will increase or decrease to the extent the factors that influence our quarterly allowance
assessment in their entirety either improve or weaken.
Included in charged-off loans in 2006 was one commercial borrower of approximately $404,000 which
had been on nonaccruing status since the fourth quarter of 2005. Included in the charged-off loans
during 2004 were two loans totaling approximately $884,000, $834,000 of which had been on
nonaccrual status since June of 2004. We recovered approximately $231,000 of these particular
charge-offs in 2005.
Statement of Position 03-03, Accounting for Certain Loans or Debt Securities Acquired in a Transfer
(“SOP 03-03”) addresses accounting for differences between contractual cash flows and cash flows
expected to be collected from an investor’s initial investment in loans or debt securities (loans)
acquired in a transfer if those differences are attributable, at least in part, to credit quality
(i.e., “impaired loans”). SOP 03-03 does not apply to loans originated by us but does apply to the
loans we acquired in our mergers with Mid-America and Cavalry. Prior to the merger with
Mid-America and due to deteriorating credit conditions during the fourth quarter of 2007, the
management of Mid-America identified approximately $19 million in loans which had weaker credit
conditions and charged-off approximately $8.9 million related to these loans. Subsequently, our
assessment indicated that Mid-
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America had $10.3 million of loans to which the application of the provisions of SOP 03-03 was
required as of the merger date with Mid-America. We recorded no further accounting adjustments to
these balances as of November 30, 2007. As to the Cavalry merger, Cavalry had approximately $3.9
million of loans to which the application of the provisions of SOP 03-03 was required. As a result
of the application of SOP 03-03, we recorded purchase accounting adjustments to reflect a reduction
in loans and the allowance for loan losses of $1.0 million related to these impaired loans thus
reducing the carrying value of these loans to $2.9 million at March 15, 2006. All of the impaired
Mid-America and Cavalry loans were classified as nonperforming at December 31, 2007.
Investments. Our investment portfolio, consisting primarily of Federal agency bonds, state and
municipal securities and mortgage-backed securities, amounted to $522.7 million and $346.5 million
at December 31, 2007 and 2006, respectively.
The following table shows the carrying value of investment securities according to contractual
maturity classifications of (1) one year or less, (2) after one year through five years, (3) after
five years through ten years, and (4) after ten years. Actual maturities may differ from
contractual maturities of mortgage-backed securities because the mortgages underlying the
securities may be called or prepaid with or without penalty. Therefore, these securities are not
included in the maturity categories noted below as of December 31, 2007 and 2006 (dollars in
thousands):
| At December 31, | ||||||||||||||||||||||||||||||||||||||||
| U.S. Treasury | U.S. government | State and Municipal | ||||||||||||||||||||||||||||||||||||||
| securities | agency securities | securities | Corporate securities | Totals | ||||||||||||||||||||||||||||||||||||
| Amount | Yield | Amount | Yield | Amount | Yield | Amount | Yield | Amount | Yield | |||||||||||||||||||||||||||||||
At December 31, 2007: |
||||||||||||||||||||||||||||||||||||||||
Securities available-for-sale: |
||||||||||||||||||||||||||||||||||||||||
Due in one year or less |
$ | — | — | % | $ | 16,612 | 4.3 | % | $ | 12,463 | 5.2 | % | $ | 490 | 3.4 | % | $ | 29,565 | 4.7 | % | ||||||||||||||||||||
Due in one year to five years |
— | — | % | 43,097 | 4.5 | % | 27,089 | 5.3 | % | 1,488 | 3.9 | % | 71,674 | 4.8 | % | |||||||||||||||||||||||||
Due in five years to ten years |
— | — | % | 6,774 | 5.1 | % | 45,545 | 5.6 | % | — | 5.2 | % | 52,319 | 5.5 | % | |||||||||||||||||||||||||
Due after ten years |
— | — | % | 3,180 | 4.9 | % | 40,809 | 5.6 | % | 400 | 5.4 | % | 44,389 | 5.5 | % | |||||||||||||||||||||||||
| $ | — | — | % | $ | 69,663 | 4.5 | % | $ | 125,906 | 5.5 | % | $ | 2,378 | 5.2 | % | $ | 197,947 | 5.2 | % | |||||||||||||||||||||
Securities held-to-maturity: |
||||||||||||||||||||||||||||||||||||||||
Due in one year or less |
$ | — | — | % | $ | — | — | % | $ | 1,578 | 5.0 | % | $ | — | — | % | $ | 1,578 | 5.0 | % | ||||||||||||||||||||
Due in one year to five years |
— | — | % | 15,750 | 4.2 | % | 6,786 | 4.4 | % | — | — | % | 22,536 | 4.3 | % | |||||||||||||||||||||||||
Due in five years to ten years |
— | — | % | 1,997 | 4.8 | % | 922 | 5.0 | % | — | — | % | 2,919 | 4.8 | % | |||||||||||||||||||||||||
Due after ten years |
— | — | % | — | — | % | — | — | % | — | — | % | — | — | % | |||||||||||||||||||||||||
| $ | — | — | % | $ | 17,747 | 4.3 | % | $ | 9,286 | 4.6 | % | $ | — | — | % | $ | 27,033 | 4.4 | % | |||||||||||||||||||||
At December 31, 2006: |
||||||||||||||||||||||||||||||||||||||||
Securities available-for-sale: |
||||||||||||||||||||||||||||||||||||||||
Due in one year or less |
$ | — | — | % | $ | — | — | % | $ | 2,240 | 4.5 | % | $ | 398 | 3.2 | % | $ | 2,638 | 4.3 | % | ||||||||||||||||||||
Due in one year to five years |
— | — | % | 30,105 | 4.7 | % | 22,121 | 5.2 | % | 1,427 | 3.4 | % | 53,653 | 4.9 | % | |||||||||||||||||||||||||
Due in five years to ten years |
— | — | % | 7,524 | 5.2 | % | 28,848 | 5.4 | % | — | — | % | 36,372 | 5.4 | % | |||||||||||||||||||||||||
Due after ten years |
— | — | % | — | — | % | 8,750 | 5.7 | % | — | — | % | 8,750 | 5.7 | % | |||||||||||||||||||||||||
| $ | — | — | % | $ | 37,629 | 4.8 | % | $ | 61,959 | 5.3 | % | $ | 1,825 | 3.4 | % | $ | 101,413 | 5.1 | % | |||||||||||||||||||||
Securities held-to-maturity: |
||||||||||||||||||||||||||||||||||||||||
Due in one year or less |
$ | — | — | % | $ | — | — | % | $ | 154 | 5.6 | % | $ | — | — | % | $ | 154 | 5.6 | % | ||||||||||||||||||||
Due in one year to five years |
— | — | % | 15,750 | 4.2 | % | 5,777 | 4.9 | % | — | — | % | 21,527 | 4.4 | % | |||||||||||||||||||||||||
Due in five years to ten years |
— | — | % | 1,997 | 4.8 | % | 3,579 | 5.0 | % | — | — | % | 5,576 | 4.9 | % | |||||||||||||||||||||||||
Due after ten years |
— | — | % | — | — | % | — | — | % | — | — | % | — | — | % | |||||||||||||||||||||||||
| $ | — | — | % | $ | 17,747 | 4.3 | % | $ | 9,510 | 5.0 | % | $ | — | — | % | $ | 27,257 | 4.5 | % | |||||||||||||||||||||
We computed yields using coupon interest, adding discount accretion or subtracting premium
amortization, as appropriate, on a ratable basis over the life of each security. We computed the
weighted average yield for each maturity range using the acquisition price of each security in that
range.
Deposits and Other Borrowings. We had approximately $2.93 billion of deposits at December
31, 2007 compared to $1.62 billion at December 31, 2006. Our deposits consist of noninterest and
interest-bearing demand accounts, savings accounts, money market accounts and time deposits.
Additionally, we entered into agreements with certain customers to sell certain of our securities
under agreements to repurchase the security the following day. These agreements (which are
typically associated with comprehensive treasury management programs for our commercial clients and
provide the client with short-term returns for their excess funds) amounted to $156.1 million at
December 31, 2007 and $141.0 million at December 31, 2005. Additionally, at December 31, 2007, we
had borrowed $92.8 million in advances from the Federal Home Loan Bank of Cincinnati compared to
$53.7 million at December 31, 2006.
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Traditionally, banks classify their funding base as either core funding or non-core funding. Core
funding consists of all deposits other than time deposits issued in denominations of $100,000 or
greater while all other funding is deemed to be non-core. The following table represents the
balances of our deposits and other fundings and the percentage of each type to the total at
December 31, 2007 and December 31, 2006 (dollars in thousands):
| December 31, | December 31, | |||||||||||||||
| 2007 | Percent | 2006 | Percent | |||||||||||||
Core funding: |
||||||||||||||||
Noninterest-bearing deposit accounts |
$ | 400,120 | 12.1 | % | $ | 300,978 | 16.1 | % | ||||||||
Interest-bearing demand accounts |
410,661 | 12.4 | % | 236,674 | 12.7 | % | ||||||||||
Savings and money market accounts |
742,354 | 22.5 | % | 485,936 | 26.0 | % | ||||||||||
Time deposit accounts less than $100,000 |
371,881 | 11.3 | % | 158,687 | 8.5 | % | ||||||||||
Total core funding |
1,925,016 | 58.2 | % | 1,182,275 | 63.3 | % | ||||||||||
Non-core funding: |
||||||||||||||||
Time deposit accounts greater than $100,000 |
||||||||||||||||
Public funds |
104,902 | 3.2 | % | 98,286 | 5.3 | % | ||||||||||
Brokered deposits |
163,188 | 4.9 | % | 61,718 | 3.3 | % | ||||||||||
Other time deposits |
732,213 | 22.2 | % | 280,132 | 15.0 | % | ||||||||||
Securities sold under agreements to repurchase |
156,071 | 4.7 | % | 141,016 | 7.5 | % | ||||||||||
Federal Home Loan Bank advances and other
borrowings |
141,666 | 4.3 | % | 53,726 | 2.9 | % | ||||||||||
Subordinated debt |
82,476 | 2.5 | % | 51,548 | 2.8 | % | ||||||||||
Total non-core funding |
1,380,516 | 41.8 | % | 686,426 | 36.7 | % | ||||||||||
Totals |
$ | 3,305,532 | 100.0 | % | $ | 1,868,701 | 100.0 | % | ||||||||
The amount of time deposits as of December 31, 2007 amounted to $1.37 million. The following table
shows our time deposits in denominations of under $100,000 and those of denominations of $100,000
and greater by category based on time remaining until maturity of (1) three months or less, (2)
over three but less than six months, (3) over six but less than twelve months and (4) over twelve
months and the weighted average rate for each category (dollars in thousands):
| Balances | Weighted Avg. Rate | |||||||
Denominations less than $100,000 |
||||||||
Three months or less |
$ | 124,339 | 4.91 | % | ||||
Over three but less than six months |
88,374 | 4.85 | % | |||||
Over six but less than twelve months |
110,856 | 4.84 | % | |||||
Over twelve months |
48,312 | 4.69 | % | |||||
| 371,881 | 4.84 | % | ||||||
Denomination $100,000 and greater |
||||||||
Three months or less |
446,096 | 4.71 | % | |||||
Over three but less than six months |
204,522 | 5.04 | % | |||||
Over six but less than twelve months |
193,500 | 5.06 | % | |||||
Over twelve months |
156,124 | 5.04 | % | |||||
| 1,000,302 | 4.90 | % | ||||||
Totals |
$ | 1,372,183 | 4.88 | % | ||||
Subordinated debt and holding company line of credit. On December 29, 2003, we established PNFP
Statutory Trust I; on September 15, 2005 we established PNFP Statutory Trust II; on September 7,
2006 we established PNFP Statutory Trust III and on October 31, 2007 we established PNFP Statutory
Trust IV (“Trust I”; “Trust II”; “Trust III”, “Trust IV” or collectively, the “Trusts”). All are
wholly-owned statutory business trusts. We are the sole sponsor of the Trusts and acquired each
Trust’s common securities for $310,000; $619,000; $619,000 and $928,000, respectively. The Trusts
were created for the exclusive purpose of issuing 30-year capital trust preferred securities
(“Trust Preferred Securities”) in the aggregate amount of $10,000,000 for Trust I; $20,000,000 for
Trust II; $20,000,000 for Trust III; and $30,000,000 for Trust IV and using the proceeds to acquire
junior subordinated debentures (“Subordinated Debentures”) issued by Pinnacle Financial. The sole
assets of the Trusts are the Subordinated Debentures. At December 31, 2007, our $2,476,000
investment in the Trusts is included in investments in unconsolidated subsidiaries
in the accompanying consolidated balance sheets and our $82,476,000 obligation is reflected as
subordinated debt.
The Trust I Preferred Securities bear a floating interest rate based on a spread over 3-month LIBOR
(8.49% at December 31, 2007) which is set each quarter and matures on December 30, 2033. The Trust
II Preferred Securities bear a fixed interest rate of 5.848%
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per annum through September 30, 2010
at which time the securities will bear a floating rate set each quarter based on a spread over
3-month LIBOR. The Trust II securities mature on September 30, 2035. The Trust III Preferred
Securities bear a floating interest rate based on a spread over 3-month LIBOR (6.88% at December
31, 2007) which is set each quarter and mature on September 30, 2036. The Trust IV Preferred
Securities bear a floating interest rate based on a spread over 3-month LIBOR (7.76% at December
31, 2007) which is set each quarter and mature on September 30, 2037.
Distributions are payable quarterly. The Trust Preferred Securities are subject to mandatory
redemption upon repayment of the Subordinated Debentures at their stated maturity date or their
earlier redemption in an amount equal to their liquidation amount plus accumulated and unpaid
distributions to the date of redemption. We guarantee the payment of distributions and payments
for redemption or liquidation of the Trust Preferred Securities to the extent of funds held by the
Trusts. Pinnacle Financial’s obligations under the Subordinated Debentures together with the
guarantee and other back-up obligations, in the aggregate, constitute a full and unconditional
guarantee by Pinnacle Financial of the obligations of the Trusts under the Trust Preferred
Securities.
The Subordinated Debentures are unsecured; bear interest at a rate equal to the rates paid by the
Trusts on the Trust Preferred Securities and mature on the same dates as those noted above for the
Trust Preferred Securities. Interest is payable quarterly. We may defer the payment of interest
at any time for a period not exceeding 20 consecutive quarters provided that the deferral period
does not extend past the stated maturity. During any such deferral period, distributions on the
Trust Preferred Securities will also be deferred and our ability to pay dividends on our common
shares will be restricted.
Subject to approval by the Federal Reserve Bank of Atlanta, the Trust Preferred Securities may be
redeemed prior to maturity at our option on or after September 17, 2008 for Trust I; on or after
September 30, 2010 for Trust II; September 30, 2011 for Trust III and September 30, 2012 for Trust
IV. The Trust Preferred Securities may also be redeemed at any time in whole (but not in part) in
the event of unfavorable changes in laws or regulations that result in (1) the Trust becoming
subject to federal income tax on income received on the Subordinated Debentures, (2) interest
payable by the parent company on the Subordinated Debentures becoming non-deductible for federal
tax purposes, (3) the requirement for the Trust to register under the Investment Company Act of
1940, as amended, or (4) loss of the ability to treat the Trust Preferred Securities as “Tier I
capital” under the Federal Reserve capital adequacy guidelines.
The Trust Preferred Securities for the Trusts qualify as Tier I capital under current regulatory
definitions subject to certain limitations. Debt issuance costs associated with Trust I of
$120,000 consisting primarily of underwriting discounts and professional fees are included in other
assets in the accompanying consolidated balance sheet. These debt issuance costs are being
amortized over ten years using the straight-line method. There were no debt issuance costs
associated with Trust II, Trust III or Trust IV.
At December 31, 2007, we had outstanding a $9 million obligation to a bank secured by the
outstanding common stock of Bank of the South. This obligation bears interest at Prime Rate less
1% and is due December 13, 2008. In February of 2008, we entered into a loan agreement related to
a $25 million line of credit with a regional bank. This line of credit will be used to support the
growth of Pinnacle National and pay off the aforementioned $9 million obligation. The $25 million
line of credit has a one year term, contains customary affirmative and negative covenants regarding
the operation of our business, a negative pledge on the common stock of Pinnacle National and is
priced at 30-day LIBOR plus 125 basis points.
Capital Resources. At December 31, 2007 and 2006, our stockholders’ equity amounted to $466.6
million and $256.0 million, respectively. The 2007 increase of $210.6 million was primarily
attributable to $183.5
million of common stock issued in connection with the Mid-America acquisition and $24.3 million in
comprehensive income, which was composed of $23.0 million in net income and $1.3 million of net
unrealized holding gains associated with our available-for-sale portfolio. The 2006 increase of
$192.6 million was primarily attributable to $171.1 million of common stock issued in connection
with the Cavalry acquisition and $18.8 million in comprehensive income, which was composed of $17.9
million in net income and $853,000 of net unrealized holding gains associated with our
available-for-sale portfolio.
Dividends. Pinnacle National is subject to restrictions on the payment of dividends to Pinnacle
Financial under federal banking laws and the regulations of the Office of the Comptroller of the
Currency. We, in turn, are also subject to limits on payment of dividends to our shareholders by
the rules, regulations and policies of federal banking authorities and the laws of the State of
Tennessee. We have not paid any dividends to date, nor do we anticipate paying dividends to our
shareholders for the foreseeable future. Future dividend policy will depend on Pinnacle National’s
earnings, capital position, financial condition, anticipated growth rates and other factors.
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Market and Liquidity Risk Management
Our objective is to manage assets and liabilities to provide a satisfactory, consistent level of
profitability within the framework of established liquidity, loan, investment, borrowing, and
capital policies. Our Asset Liability Management Committee (“ALCO”) is charged with the
responsibility of monitoring these policies, which are designed to ensure acceptable composition of
asset/liability mix. Two critical areas of focus for ALCO are interest rate sensitivity and
liquidity risk management.
Interest Rate Sensitivity. In the normal course of business, we are exposed to market risk arising
from fluctuations in interest rates. ALCO measures and evaluates the interest rate risk so that we
can meet customer demands for various types of loans and deposits. ALCO determines the most
appropriate amounts of on-balance sheet and off-balance sheet items. Measurements which we use to
help us manage interest rate sensitivity include an earnings simulation model and an economic value
of equity model. These measurements are used in conjunction with competitive pricing analysis.
Earnings simulation model. We believe that interest rate risk is best measured by our
earnings simulation modeling. Forecasted levels of earning assets, interest-bearing
liabilities, and off-balance sheet financial instruments are combined with ALCO forecasts
of interest rates for the next 12 months and are combined with other factors in order to
produce various earnings simulations. To limit interest rate risk, we have guidelines for
our earnings at risk which seek to limit the variance of net interest income to less than
a 20 percent decline for a 300 basis point change up or down in rates from management’s
flat interest rate forecast over the next twelve months; to less than a 10 percent decline
for a 200 basis point change up or down in rates from management’s flat interest rate
forecast over the next twelve months; and to less than a 5 percent decline for a 100 basis
point change up or down in rates from management’s flat interest rate forecast over the
next twelve months. The results of our current simulation model would indicate that we
are in compliance with our current guidelines at December 31, 2007.
Economic value of equity. Our economic value of equity model measures the extent that
estimated economic values of our assets, liabilities and off-balance sheet items will
change as a result of interest rate changes. Economic values are determined by
discounting expected cash flows from assets, liabilities and off-balance sheet items,
which establishes a base case economic value of equity. To help limit interest rate risk,
we have a guideline stating that for an instantaneous 300 basis point change in interest
rates up or down, the economic value of equity should not decrease by more than 30 percent
from the base case; for a 200 basis point instantaneous change in interest rates up or
down, the economic value of equity should not decrease by more than 20 percent; and for a
100 basis point instantaneous change in interest rates up or down, the economic value of
equity should not decrease by more than 10 percent. The results of our current economic
value of equity model would indicate that we are in compliance with our current guidelines
at December 31, 2007.
Each of the above analyses may not, on its own, be an accurate indicator of how our net interest
income will be affected by changes in interest rates. Income associated with interest-earning
assets and costs associated with interest-bearing liabilities may not be affected uniformly by
changes in interest rates. In addition, the magnitude and duration of changes in interest rates
may have a significant impact on net interest income. For example, although certain assets and
liabilities may have similar maturities or periods of repricing, they may react in different
degrees to changes in market interest rates. Interest rates on certain types of assets and
liabilities fluctuate in advance of changes in general market rates, while interest rates on other
types may lag behind changes in general market rates. In addition, certain assets, such as
adjustable rate mortgage loans, have features (generally referred to as “interest rate caps and
floors”) which limit changes in interest rates. Prepayment and early withdrawal levels also could
deviate significantly from those assumed in calculating the maturity of certain instruments. The
ability of many borrowers to service their debts also may decrease during periods of rising
interest rates. ALCO reviews each of the above interest rate sensitivity analyses along with
several different interest rate scenarios as part of its responsibility to provide a satisfactory,
consistent level of profitability within the framework of established liquidity, loan, investment,
borrowing, and capital policies.
We may also use derivative financial instruments to improve the balance between interest-sensitive
assets and interest-sensitive liabilities and as one tool to manage our interest rate sensitivity
while continuing to meet the credit and deposit needs of our customers. Beginning in 2007, we
entered into interest rate swaps (“swaps”) to facilitate customer transactions and meet their
financing needs. These swaps qualify as derivatives, but are not designated as hedging
instruments. At December 31, 2007 and 2006, we had not entered into any derivative contracts to
assist managing our interest rate sensitivity.
Liquidity Risk Management. The purpose of liquidity risk management is to ensure that there are
sufficient cash flows to satisfy loan demand, deposit withdrawals, and our other needs.
Traditional sources of liquidity for a bank include asset maturities and growth in core deposits.
A bank may achieve its desired liquidity objectives from the management of its assets and
liabilities and
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by internally generated funding through its operations. Funds invested in
marketable instruments that can be readily sold and the continuous maturing of other earning assets
are sources of liquidity from an asset perspective. The liability base provides sources of
liquidity through attraction of increased deposits and borrowing funds from various other
institutions.
Changes in interest rates also affect our liquidity position. We currently price deposits in
response to market rates and our management intends to continue this policy. If deposits are not
priced in response to market rates, a loss of deposits could occur which would negatively affect
our liquidity position.
Scheduled loan payments are a relatively stable source of funds, but loan payoffs and deposit flows
fluctuate significantly, being influenced by interest rates, general economic conditions and
competition. Additionally, debt security investments are subject to prepayment and call provisions
that could accelerate their payoff prior to stated maturity. We attempt to price our deposit
products to meet our asset/liability objectives consistent with local market conditions. Our ALCO
is responsible for monitoring our ongoing liquidity needs. Our regulators also monitor our
liquidity and capital resources on a periodic basis.
In addition, Pinnacle National is a member of the Federal Home Loan Bank of Cincinnati (“FHLB”).
As a result, Pinnacle National receives advances from the FHLB, pursuant to the terms of various
borrowing agreements, which assist it in the funding of its home mortgage and commercial real
estate loan portfolios. Pinnacle National has pledged under the borrowing agreements with the
Federal Home Loan Bank of Cincinnati certain qualifying residential mortgage loans and, pursuant to
a blanket lien, all qualifying commercial mortgage loans as collateral. At December 31, 2007, our
bank subsidiaries had received advances from the Federal Home Loan Bank of Cincinnati totaling
$92.8 million at the following rates and maturities (dollars in thousands):
| Interest | ||||||||
| Amount | Rates | |||||||
2008 |
$ | 15,554 | 5.02 | % | ||||
2009 |
15,000 | 5.01 | % | |||||
2010 |
13,250 | 4.56 | % | |||||
2011 |
— | NA | ||||||
2012 |
30,294 | 3.51 | % | |||||
Thereafter |
18,706 | 4.02 | % | |||||
Total |
$ | 92,804 | ||||||
Weighted average interest rate |
4.26 | % | ||||||
Pinnacle National also has accommodations with upstream correspondent banks for unsecured
short-term advances. These accommodations have various covenants related to their term and
availability, and in most cases must be repaid within less than a month. At December 31, 2007, our
bank subsidiaries had borrowed from correspondent banks $48.9 million under such arrangements.
At December 31, 2007, brokered certificates of deposit approximated $163.2 million which
represented 4.9% of total fundings compared to $61.7 million and 3.3% at December 31, 2006. We
issue these brokered certificates through several different brokerage houses based on competitive
bids. Typically, these funds are for varying maturities from nine months to two years and are
issued at rates which are competitive to rates we would be required to pay to attract similar
deposits from the local market as well as
rates for Federal Home Loan Bank of Cincinnati advances of similar maturities. We consider these
deposits to be a ready source of liquidity under current market conditions.
Our short-term borrowings (borrowings which mature within the next fiscal year) consist primarily
of securities sold under agreements to repurchase (these agreements are typically associated with
comprehensive treasury management programs for our clients and provide them with short-term returns
for their excess funds), Federal Home Loan Bank of Cincinnati advances and Federal funds purchased.
Information concerning our short-term borrowings as of and for each of the years in the three-year
period ended December 31, 2007 is as follows (dollars in thousands):
| 2007 | 2006 | 2005 | ||||||||||
Amounts outstanding at year-end: |
||||||||||||
Securities sold under agreements to repurchase |
$ | 156,071 | $ | 141,016 | $ | 65,834 | ||||||
Federal funds purchased |
48,862 | — | — | |||||||||
Federal Home Loan Bank advances |
92,804 | 25,000 | 29,500 | |||||||||
Weighted average interest rates at year-end: |
||||||||||||
Securities sold under agreements to repurchase |
2.81 | % | 4.33 | % | 3.16 | % | ||||||
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| 2007 | 2006 | 2005 | ||||||||||
Federal funds purchased |
3.75 | % | — | — | ||||||||
Federal Home Loan Bank advances |
4.26 | % | 5.36 | % | 3.21 | % | ||||||
Maximum amount of borrowings at any month-end: |
||||||||||||
Securities sold under agreements to repurchase |
$ | 216,321 | $ | 166,520 | $ | 69,767 | ||||||
Federal funds purchased |
48,862 | 9,985 | 18,702 | |||||||||
Federal Home Loan Bank advances |
92,804 | 25,000 | 35,500 | |||||||||
Average balances for the year: |
||||||||||||
Securities sold under agreements to repurchase |
$ | 181,621 | $ | 101,144 | $ | 54,811 | ||||||
Federal funds purchased |
5,544 | 1,260 | 1,607 | |||||||||
Federal Home Loan Bank advances |
38,528 | 6,284 | 24,208 | |||||||||
Weighted average interest rates for the year: |
||||||||||||
Securities sold under agreements to repurchase |
4.06 | % | 4.28 | % | 2.40 | % | ||||||
Federal funds purchased |
5.15 | % | 5.26 | % | 3.51 | % | ||||||
Federal Home Loan Bank advances |
4.97 | % | 4.70 | % | 2.65 | % | ||||||
At December 31, 2007, we had no significant commitments for capital expenditures. However, we are
in the process of developing our branch network and other office facilities in the Nashville MSA
and the Knoxville MSA. As a result, we anticipate that we will enter into contracts to buy
property or construct branch facilities and/or lease agreements to lease facilities in the
Nashville MSA and Knoxville MSA, including recently entering into agreements to relocate our
downtown office facility in Nashville, Tennessee to a new facility projected to open in 2010.
The following table presents additional information about our contractual obligations as of
December 31, 2007, which by their terms have contractual maturity and termination dates subsequent
to December 31, 2007 (dollars in thousands):
| Next 12 | 13-36 | 37-60 | More than | |||||||||||||||||
| months | months | months | 60 months | Totals | ||||||||||||||||
Contractual obligations: |
||||||||||||||||||||
Certificates of deposit |
$ | 1,167,747 | $ | 185,837 | $ | 18,599 | $ | — | $ | 1,372,183 | ||||||||||
Securities sold under agreements to repurchase |
156,071 | — | — | — | 156,071 | |||||||||||||||
Federal Home Loan Bank advances and other borrowings |
64,416 | 28,250 | 30,294 | 18,706 | 141,666 | |||||||||||||||
Subordinated debt |
10,310 | 20,619 | 51,547 | — | 82,476 | |||||||||||||||
Minimum operating lease commitments |
1,846 | 3,551 | 2,703 | 10,227 | 18,327 | |||||||||||||||
Totals |
$ | 1,400,390 | $ | 238,257 | $ | 103,143 | $ | 28,933 | $ | 1,770,723 | ||||||||||
Our management believes that we have adequate liquidity to meet all known contractual obligations
and unfunded commitments, including loan commitments and reasonable borrower, depositor, and
creditor requirements over the next twelve months.
Off-Balance Sheet Arrangements. At December 31, 2007, we had outstanding standby letters of credit
of $98.3 million and unfunded loan commitments outstanding of $833.9 million. Because these
commitments generally have fixed expiration dates and many will expire without being drawn upon,
the total commitment level does not necessarily represent future cash requirements. If needed to
fund these outstanding commitments, Pinnacle National has the ability to liquidate Federal funds
sold or securities available-for-sale, or on a short-term basis to borrow and purchase Federal
funds from other financial institutions. The following table presents additional information about
our unfunded commitments as of December 31, 2007, which by their terms have contractual maturity
dates subsequent to December 31, 2007 (dollars in thousands):
| Next 12 | 13-36 | 37-60 | More than | |||||||||||||||||
| months | months | months | 60 months | Totals | ||||||||||||||||
Unfunded commitments: |
||||||||||||||||||||
Lines of credit |
$ | 559,721 | $ | 90,174 | $ | 44,496 | $ | 139,502 | $ | 833,893 | ||||||||||
Letters of credit |
84,504 | 12,301 | 1,500 | — | 98,305 | |||||||||||||||
Totals |
$ | 644,225 | $ | 102,475 | $ | 45,996 | $ | 139,502 | $ | 932,198 | ||||||||||
Page 48
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Impact of Inflation
The consolidated financial statements and related consolidated financial data presented herein have
been prepared in accordance with U.S. generally accepted accounting principles and practices within
the banking industry which require the measurement of financial position and operating results in
terms of historical dollars without considering the changes in the relative purchasing power of
money over time due to inflation. Unlike most industrial companies, virtually all the assets and
liabilities of a financial institution are monetary in nature. As a result, interest rates have a
more significant impact on a financial institution’s performance than the effects of general levels
of inflation.
Recent Accounting Pronouncements
In September 2006, the FASB issued SFAS No. 157, “Fair Value Measurements” — SFAS No. 157, which
defines fair value, establishes a framework for measuring fair value in U.S. generally accepted
accounting principles and expands disclosures about fair value measurements. SFAS No. 157 applies
only to fair-value measurements that are already required or permitted by other accounting
standards and is expected to increase the consistency of those measurements. The definition of
fair value focuses on the exit price, i.e., the price that would be received to sell an asset or
paid to transfer a liability in an orderly transaction between market participants at the
measurement date, not the entry price, i.e., the price that would be paid to acquire the asset or
received to assume the liability at the measurement date. The statement emphasizes that fair value
is a market-based measurement; not an entity-specific measurement. Therefore, the fair value
measurement should be determined based on the assumptions that market participants would use in
pricing the asset or liability. The effective date for SFAS No. 157 is for fiscal years beginning
after November 15, 2007, and interim periods within those fiscal years. We do not believe SFAS No.
157 will have a significant impact on our consolidated financial statements.
In February of 2007, the FASB issued Statement of Financial Accounting Standard No. 159 (“SFAS
159”), “The Fair Value Option for Financial Assets and Financial Liabilities”, which gives entities
the option to measure eligible financial assets, and financial liabilities at fair value on an
instrument by instrument basis, that are otherwise not permitted to be accounted for at fair value
under other accounting standards. The election to use the fair value option is available when an
entity first recognizes a financial asset or financial
liability. Subsequent changes in fair value must be recorded in earnings. This statement is
effective as of the beginning of a company’s first fiscal year after November 15, 2007. We do not
believe SFAS No. 159 will have a significant impact on our consolidated financial statements.
In June 2006, the Emerging Issues Task Force issued EITF No. 06-4, “Accounting for Deferred
Compensation and Postretirement Benefits Aspects of Endorsement Split-Dollar Life Insurance
Arrangements.” The EITF concluded that deferred compensation or postretirement benefit aspects of
an endorsement split-dollar life insurance arrangement should be recognized as a liability by the
employer and the obligation is not effectively settled by the purchase of a life insurance policy.
The effective date is for fiscal years beginning after December 15, 2007. On January 1, 2008, we
accounted for this EITF as a change in accounting principle and recorded a liability of $985,000
along with a corresponding adjustment to beginning retained earnings.
In December 2007, the SEC issued SAB 110, “Share-Based Payment.” SAB 110 allows eligible public
companies to continue to use a simplified method for estimating the expense of stock options if
their own historical experience isn’t sufficient to provide a reasonable basis. Under SAB 107,
“Share-Based Payment,” the simplified method was scheduled to expire for all grants made after
December 31, 2007. The SAB describes disclosures that should be provided if a company is using the
simplified method for all or a portion of its stock option grants beyond December 31, 2007. The
provisions of this bulletin are effective on January 1, 2008. Pinnacle Financial plans to retain
use of the simplified method allowed by SAB 110 for determining the expected term component for
share options granted during 2008.
In December 2007, the FASB issued SFAS 141R, “Business Combinations.” SFAS 141R clarifies the
definitions of both a business combination and a business. All business combinations will be
accounted for under the acquisition method (previously referred to as the purchase method). This
standard defines the acquisition date as the only relevant date for recognition and measurement of
the fair value of consideration paid. SFAS 141R requires the acquirer to expense all acquisition
related costs. SFAS 141R will also require acquired loans to be recorded net of the allowance for
loan losses on the date of acquisition. SFAS 141R defines the measurement period as the time after
the acquisition date during which the acquirer may make adjustments to the “provisional” amounts
recognized at the acquisition date. This period cannot exceed one year, and any subsequent
adjustments made to provisional amounts are done retrospectively and restate prior period data. The
provisions of this statement are effective for business combinations during fiscal years beginning
after December 15, 2008. Pinnacle Financial has not determined the impact
Page 49
Table of Contents
that SFAS 141R will have
on its financial position and results of operations and believes that such determination will not
be meaningful until Pinnacle Financial enters into a business combination.
In December 2007, the FASB issued SFAS No. 160, “Noncontrolling Interests in consolidated financial
statements — An Amendment of ARB No. 51.” SFAS No. 160 requires noncontrolling interests to be
treated as a separate component of equity, not as a liability or other item outside of equity.
Disclosure requirements include net income and comprehensive income to be displayed for both the
controlling and noncontrolling interests and a separate schedule that shows the effects of any
transactions with the noncontrolling interests on the equity attributable to the controlling
interest. The provisions of this statement are effective for fiscal years beginning after December
15, 2008. This statement should be applied prospectively except for the presentation and disclosure
requirements which shall be applied retrospectively for all periods presented. Pinnacle Financial
does not expect the impact of SFAS No. 160 on its financial position, results of operations or cash
flows to be material.
ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
The response to this Item is included in Item 7. Management’s Discussion and Analysis of Financial
Condition and Results of Operations, on pages 47 through 49 and is incorporated herein by
reference.
Page 50
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ITEM 8. FINANCIAL STATEMENTS
Pinnacle Financial Partners, Inc. and Subsidiaries
Consolidated Financial Statements
Table of Contents
| 52 | ||||
| 53 | ||||
| 54 | ||||
Consolidated Financial Statements: |
||||
| 55 | ||||
| 56 | ||||
| 57 | ||||
| 58 | ||||
| 59 |
Page 51
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MANAGEMENT REPORT ON INTERNAL CONTROL OVER FINANCIAL REPORTING
The management of Pinnacle Financial Partners, Inc. is responsible for establishing and maintaining
adequate internal control over financial reporting. Pinnacle Financial Partners, Inc.’s internal
control system was designed to provide reasonable assurance to the Company’s management and board
of directors regarding the preparation and fair presentation of published financial statements.
All internal control systems, no matter how well designed, have inherent limitations. Therefore,
even those systems determined to be effective can provide only reasonable assurance with respect to
financial statement preparation and presentation.
Pinnacle Financial Partners, Inc.’s management assessed the effectiveness of the Company’s internal
control over financial reporting as of December 31, 2007. In making this assessment, it used the
criteria set forth by the Committee of Sponsoring Organizations of the Treadway Commission (COSO)
in Internal Control-Integrated Framework. In conducting the Pinnacle Financial Partners, Inc.’s
evaluation of the effectiveness of its internal control over financial reporting, the Company has
excluded the operations of Mid-America Bancshares, Inc. (Mid-America), which Pinnacle Financial
Partners, Inc. merged with on November 30, 2007. At the acquisition date, total assets of
Mid-America totaled $1.252 billion. Further information concerning the acquisition of Mid-America
appears in Note 2, Merger with Mid-America Bancshares, Inc., to the accompanying audited
consolidated financial statements.
Based on our assessment we believe that, as of December 31, 2007, the Company’s internal control
over financial reporting is effective based on those criteria.
Pinnacle Financial Partners, Inc.’s independent registered public accounting firm has issued an
audit report on Pinnacle Financial Partners Inc.’s internal control over financial reporting. This
report appears on page 54 of this Annual Report on Form 10-K.
Page 52
Table of Contents
REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM
The Board of Directors and Stockholders
Pinnacle Financial Partners, Inc.:
Pinnacle Financial Partners, Inc.:
We have audited the accompanying consolidated balance sheets of Pinnacle Financial Partners, Inc.
and subsidiaries (the Company) as of December 31, 2007 and 2006, and the related consolidated
statements of income, stockholders’ equity and comprehensive income, and cash flows for each of the
years in the three-year period ended December 31, 2007. These consolidated financial statements are
the responsibility of the Company’s management. Our responsibility is to express an opinion on
these consolidated financial statements based on our audits.
We conducted our audits in accordance with the standards of the Public Company Accounting Oversight
Board (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 audits provide a reasonable basis for our opinion.
In our opinion, the consolidated financial statements referred to above present fairly, in all
material respects, the financial position of the Company as of December 31, 2007 and 2006, and the
results of its operations and its cash flows for each of the years in the three-year period ended
December 31, 2007, in conformity with U.S. generally accepted accounting principles.
As discussed in notes 1 and 11 to the consolidated financial statements, the Company changed its
method of accounting for uncertainty in income taxes as required by FASB Interpretation No. 48,
Accounting for Uncertainty in Income Taxes in 2007.
As discussed in notes 1 and 15 to the consolidated financial statements, the Company changed its
method of accounting for share-based payments as required by SFAS 123(R), Share-Based Payments in 2006.
We also have audited, in accordance with the standards of the Public Company Accounting Oversight
Board (United States), the Company’s internal control over financial reporting as of December 31,
2007, based on criteria established in Internal Control — Integrated Framework issued by the
Committee of Sponsoring Organizations of the Treadway Commission (COSO) and our report dated
March 5, 2008, expressed an unqualified opinion on the effectiveness of the Company’s internal
control over financial reporting.
/s/ KPMG LLP
Nashville, Tennessee
March 5, 2008
March 5, 2008
Page 53
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REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM
The Board of Directors and Stockholders
Pinnacle Financial Partners, Inc.:
Pinnacle Financial Partners, Inc.:
We have audited Pinnacle Financial Partners, Inc.’s (the Company) internal control over financial
reporting as of December 31, 2007, based on criteria established in Internal Control — Integrated
Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission (COSO).
The Company’s management is responsible for maintaining effective internal control over financial
reporting and for its assessment of the effectiveness of internal control over financial reporting,
included in management’s accompanying report on internal control over financial reporting. Our
responsibility is to express an opinion on the Company’s internal control over financial reporting
based on our audit.
We conducted our audit in accordance with the standards of the Public Company Accounting Oversight
Board (United States). Those standards require that we plan and perform the audit to obtain
reasonable assurance about whether effective internal control over financial reporting was
maintained in all material respects. Our audit included obtaining an understanding of internal
control over financial reporting, assessing the risk that a material weakness exists, and testing
and evaluating the design and operating effectiveness of internal control based on the assessed
risk. We believe that our audit provides a reasonable basis for our opinion.
A company’s internal control over financial reporting is a process designed to provide reasonable
assurance regarding the reliability of financial reporting and the preparation of financial
statements for external purposes in accordance with generally accepted accounting principles. A
company’s internal control over financial reporting includes those policies and procedures that (1)
pertain to the maintenance of records that, in reasonable detail, accurately and fairly reflect the
transactions and dispositions of the assets of the company; (2) provide reasonable assurance that
transactions are recorded as necessary to permit preparation of financial statements in accordance
with generally accepted accounting principles, and that receipts and expenditures of the company
are being made only in accordance with authorizations of management and directors of the company;
and (3) provide reasonable assurance regarding prevention or timely detection of unauthorized
acquisition, use, or disposition of the company’s assets that could have a material effect on the
financial statements.
Because of its inherent limitations, internal control over financial reporting may not prevent or
detect misstatements. Also, projections of any evaluation of effectiveness to future periods are
subject to the risk that controls may become inadequate because of changes in conditions, or that
the degree of compliance with the policies or procedures may deteriorate.
In our opinion, the Company maintained, in all material respects, effective internal control over
financial reporting as of December 31, 2007, based on criteria established in Internal Control -
Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway
Commission.
The Company acquired Mid-America Bancshares (Mid-America) on November 30, 2007. Total assets of
Mid-America totaled $1.252 billion. Management excluded Mid-America’s internal control over
financial reporting from its effectiveness of the Company’s internal control over financial
reporting as of December 31, 2007. Our audit of internal control over financial reporting of the
Company also excluded an evaluation of the internal control over financial reporting of
Mid-America.
We also have audited, in accordance with the standards of the Public Company Accounting Oversight
Board (United States), the consolidated balance sheets of the Company as of December 31, 2007 and
2006, and the related consolidated statements of income, stockholders’ equity and comprehensive
income, and cash flows for each of the years in the three-year period ended December 31, 2007, and
our report dated March 5, 2008 expressed an unqualified opinion on those consolidated financial
statements.
/s/ KPMG LLP
Nashville, Tennessee
March 5, 2008
March 5, 2008
Page 54
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PINNACLE FINANCIAL PARTNERS, INC. AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
CONSOLIDATED BALANCE SHEETS
| December 31, | ||||||||
| 2007 | 2006 | |||||||
ASSETS |
||||||||
Cash and noninterest-bearing due from banks |
$ | 76,941,931 | $ | 43,611,533 | ||||
Interest-bearing due from banks |
24,706,966 | 1,041,174 | ||||||
Federal funds sold |
20,854,966 | 47,866,143 | ||||||
Cash and cash equivalents |
122,503,863 | 92,518,850 | ||||||
Securities available-for-sale, at fair value |
495,651,939 | 319,237,428 | ||||||
Securities held-to-maturity (fair value of $26,883,473 and
$26,594,235 at December 31, 2007 and December 31, 2006,
respectively) |
27,033,356 | 27,256,876 | ||||||
Mortgage loans held-for-sale |
11,251,652 | 5,654,381 | ||||||
Loans |
2,749,640,689 | 1,497,734,824 | ||||||
Less allowance for loan losses |
(28,470,207 | ) | (16,117,978 | ) | ||||
Loans, net |
2,721,170,482 | 1,481,616,846 | ||||||
Premises and equipment, net |
68,385,946 | 36,285,796 | ||||||
Investments in unconsolidated subsidiaries and other entities |
22,636,029 | 16,200,684 | ||||||
Accrued interest receivable |
18,383,004 | 11,019,173 | ||||||
Goodwill |
243,573,636 | 114,287,640 | ||||||
Core deposit intangible |
17,325,988 | 11,385,006 | ||||||
Other assets |
46,254,566 | 26,724,183 | ||||||
Total assets |
$ | 3,794,170,461 | $ | 2,142,186,863 | ||||
LIABILITIES AND STOCKHOLDERS’ EQUITY |
||||||||
Deposits: |
||||||||
Non-interest-bearing |
$ | 400,120,147 | 300,977,814 | |||||
Interest-bearing |
410,661,187 | 236,674,425 | ||||||
Savings and money market accounts |
742,354,465 | 485,935,897 | ||||||
Time |
1,372,183,317 | 598,823,167 | ||||||
Total deposits |
2,925,319,116 | 1,622,411,303 | ||||||
Securities sold under agreements to repurchase |
156,070,830 | 141,015,761 | ||||||
Federal Home Loan Bank advances |
92,804,133 | 53,725,833 | ||||||
Federal Funds purchased |
48,862,000 | — | ||||||
Subordinated debt |
82,476,000 | 51,548,000 | ||||||
Accrued interest payable |
10,374,538 | 4,952,422 | ||||||
Other liabilities |
11,653,550 | 12,516,523 | ||||||
Total liabilities |
3,327,560,167 | 1,886,169,842 | ||||||
Stockholders’ equity: |
||||||||
Preferred stock, no par value; 10,000,000 shares
authorized; no shares issued and outstanding: |
— | — | ||||||
Common stock, par value $1.00; 90,000,000 shares
authorized; 22,264,817 issued and outstanding at
December 31, 2007 and 15,446,074 issued and
outstanding at December 31, 2006 |
22,264,817 | 15,446,074 | ||||||
Additional paid-in capital |
390,977,308 | 211,502,516 | ||||||
Retained earnings |
54,150,679 | 31,109,324 | ||||||
Accumulated other comprehensive loss, net of taxes |
(782,510 | ) | (2,040,893 | ) | ||||
Total stockholders’ equity |
466,610,294 | 256,017,021 | ||||||
Total liabilities and stockholders’ equity |
$ | 3,794,170,461 | $ | 2,142,186,863 | ||||
See accompanying notes to consolidated financial statements.
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PINNACLE FINANCIAL PARTNERS, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF INCOME
CONSOLIDATED STATEMENTS OF INCOME
| For the years ended December 31, | ||||||||||||
| 2007 | 2006 | 2005 | ||||||||||
Interest income: |
||||||||||||
Loans, including fees |
$ | 129,888,784 | $ | 92,005,602 | $ | 35,166,671 | ||||||
Securities: |
||||||||||||
Taxable |
13,961,714 | 12,614,623 | 9,086,134 | |||||||||
Tax-exempt |
3,066,519 | 2,016,044 | 1,115,486 | |||||||||
Federal funds sold and other |
4,014,424 | 3,059,750 | 939,369 | |||||||||
Total interest income |
150,931,441 | 109,696,019 | 46,307,660 | |||||||||
Interest expense: |
||||||||||||
Deposits |
61,671,734 | 40,032,020 | 13,690,649 | |||||||||
Securities sold under agreements to repurchase |
7,371,490 | 4,329,327 | 1,315,122 | |||||||||
Federal funds purchased and other borrowings |
6,176,205 | 4,381,878 | 2,263,851 | |||||||||
Total interest expense |
75,219,429 | 48,743,225 | 17,269,622 | |||||||||
Net interest income |
75,712,012 | 60,952,794 | 29,038,038 | |||||||||
Provision for loan losses |
4,719,841 | 3,732,032 | 2,151,966 | |||||||||
Net interest income after provision for loan losses |
70,992,171 | 57,220,762 | 26,886,072 | |||||||||
Noninterest income: |
||||||||||||
Service charges on deposit accounts |
7,941,029 | 4,645,685 | 977,386 | |||||||||
Investment services |
3,455,808 | 2,463,205 | 1,835,757 | |||||||||
Insurance sales commissions |
2,486,884 | 2,122,702 | — | |||||||||
Gains on loans and loan participations sold |
1,858,077 | 1,868,184 | 1,247,898 | |||||||||
Trust fees |
1,908,440 | 1,180,839 | — | |||||||||
Gains on sales of investment securities, net |
16,472 | — | 114,410 | |||||||||
Other noninterest income |
4,854,217 | 3,505,903 | 1,218,123 | |||||||||
Total noninterest income |
22,520,927 | 15,786,518 | 5,393,574 | |||||||||
Noninterest expense: |
||||||||||||
Salaries and employee benefits |
36,145,588 | 27,469,275 | 13,130,779 | |||||||||
Equipment and occupancy |
10,260,915 | 7,521,602 | 3,766,593 | |||||||||
Other real estate owned |
160,367 | — | — | |||||||||
Marketing and other business development |
1,676,455 | 1,234,497 | 698,232 | |||||||||
Postage and supplies |
1,995,267 | 1,510,048 | 618,060 | |||||||||
Amortization of core deposit intangibles |
2,144,018 | 1,783,230 | — | |||||||||
Merger related expense |
621,883 | 1,635,831 | — | |||||||||
Other noninterest expense |
7,475,072 | 5,469,777 | 2,818,352 | |||||||||
Total noninterest expense |
60,479,565 | 46,624,260 | 21,032,016 | |||||||||
Net income before income taxes |
33,033,533 | 26,383,020 | 11,247,630 | |||||||||
Income tax expense |
9,992,178 | 8,455,987 | 3,192,362 | |||||||||
Net income |
$ | 23,041,355 | $ | 17,927,033 | $ | 8,055,268 | ||||||
Per share information: |
||||||||||||
Basic net income per common share |
$ | 1.43 | $ | 1.28 | $ | 0.96 | ||||||
Diluted net income per common share |
$ | 1.34 | $ | 1.18 | $ | 0.85 | ||||||
Weighted average common shares outstanding: |
||||||||||||
Basic |
16,100,076 | 13,954,077 | 8,408,663 | |||||||||
Diluted |
17,255,543 | 15,156,837 | 9,464,500 | |||||||||
See accompanying notes to consolidated financial statements.
Page 56
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PINNACLE FINANCIAL PARTNERS, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF STOCKHOLDERS’ EQUITY
AND COMPREHENSIVE INCOME
CONSOLIDATED STATEMENTS OF STOCKHOLDERS’ EQUITY
AND COMPREHENSIVE INCOME
For the each of the years in the three-year period ended December 31, 2007
| Additional | Accumulated | Total | ||||||||||||||||||||||||||
| Common Stock | Paid-in | Unearned | Retained | Other Comprehensive | Stockholders’ | |||||||||||||||||||||||
| Shares | Amount | Capital | Compensation | Earnings | Income (Loss) | Equity | ||||||||||||||||||||||
Balances, December 31, 2004 |
8,389,232 | $ | 8,389,232 | $ | 44,376,307 | $ | (37,250 | ) | $ | 5,127,023 | $ | 24,863 | $ | 57,880,175 | ||||||||||||||
Exercise of employee incentive common
stock options and related tax
benefits |
20,953 | 20,953 | 153,808 | — | — | — | 174,761 | |||||||||||||||||||||
Issuance of restricted common shares
pursuant to 2004 Equity Incentive
Plan |
16,366 | 16,366 | 360,797 | (377,163 | ) | — | — | — | ||||||||||||||||||||
Compensation expense for restricted
shares |
— | — | — | 244,724 | — | — | 244,724 | |||||||||||||||||||||
Comprehensive income: |
||||||||||||||||||||||||||||
Net income |
— | — | — | — | 8,055,268 | — | 8,055,268 | |||||||||||||||||||||
Net unrealized holding losses on
available-for-sale securities, net of
deferred tax benefit of $1,788,761 |
— | — | — | — | — | (2,918,503 | ) | (2,918,503 | ) | |||||||||||||||||||
Total comprehensive income |
5,136,765 | |||||||||||||||||||||||||||
Balances, December 31, 2005 |
8,426,551 | $ | 8,426,551 | $ | 44,890,912 | $ | (169,689 | ) | $ | 13,182,291 | $ | (2,893,640 | ) | $ | 63,436,425 | |||||||||||||
Transfer of unearned compensation to
additional paid-in capital upon
adoption of SFAS 123(R) |
— | — | (169,689 | ) | 169,689 | — | — | — | ||||||||||||||||||||
Exercise of employee incentive common
stock options and related tax
benefits |
130,168 | 130,168 | 1,240,724 | — | — | — | 1,370,892 | |||||||||||||||||||||
Issuance of restricted common shares
pursuant to 2004 Equity Incentive
Plan |
22,057 | 22,057 | (22,057 | ) | — | — | — | — | ||||||||||||||||||||
Exercise of director common stock
warrants |
11,000 | 11,000 | 44,000 | — | — | — | 55,000 | |||||||||||||||||||||
Compensation expense for restricted
shares |
— | — | 465,003 | — | — | — | 465,003 | |||||||||||||||||||||
Compensation expense for stock options |
— | — | 1,009,958 | — | — | — | 1,009,958 | |||||||||||||||||||||
Merger with Cavalry Bancorp, Inc. |
6,856,298 | 6,856,298 | 164,231,274 | — | — | — | 171,087,572 | |||||||||||||||||||||
Costs to register common stock issued
in connection with the merger with
Cavalry Bancorp, Inc. |
— | — | (187,609 | ) | — | — | — | (187,609 | ) | |||||||||||||||||||
Comprehensive income: |
||||||||||||||||||||||||||||
Net income |
— | — | — | — | 17,927,033 | — | 17,927,033 | |||||||||||||||||||||
Net unrealized holding gains on
available-for-sale securities, net of
deferred tax expense of $521,886 |
— | — | — | — | — | 852,747 | 852,747 | |||||||||||||||||||||
Total comprehensive income |
18,779,780 | |||||||||||||||||||||||||||
Balances, December 31, 2006 |
15,446,074 | $ | 15,446,074 | $ | 211,502,516 | $ | — | $ | 31,109,324 | $ | (2,040,893 | ) | $ | 256,017,021 | ||||||||||||||
Exercise of employee incentive common
stock options, stock appreciation
rights and related tax benefits |
99,862 | 99,862 | 883,429 | — | — | — | 983,291 | |||||||||||||||||||||
Issuance of restricted common shares
pursuant to 2004 Equity Incentive
Plan |
42,301 | 42,301 | (42,301 | ) | — | — | — | — | ||||||||||||||||||||
Compensation expense for restricted
shares |
— | — | 396,378 | — | — | — | 396,378 | |||||||||||||||||||||
Compensation expense for stock options |
— | — | 1,703,441 | — | — | — | 1,703,441 | |||||||||||||||||||||
Merger with Mid-America Bancshares,
Inc. |
6,676,580 | 6,676,580 | 176,833,242 | — | — | — | 183,509,822 | |||||||||||||||||||||
Costs to register common stock issued
in connection with the merger with
Mid-America Bancshares, Inc. |
— | — | (299,397 | ) | — | — | — | (299,397 | ) | |||||||||||||||||||
Comprehensive income: |
||||||||||||||||||||||||||||
Net income |
— | — | — | — | 23,041,355 | — | 23,041,355 | |||||||||||||||||||||
Net unrealized holding gains on
available-for-sale securities, net of
deferred tax expense of $762,956 |
— | — | — | — | — | 1,258,383 | 1,258,383 | |||||||||||||||||||||
Total comprehensive income |
24,299,738 | |||||||||||||||||||||||||||
Balances, December 31, 2007 |
22,264,817 | $ | 22,264,817 | $ | 390,977,308 | $ | — | $ | 54,150,679 | $ | (782,510 | ) | $ | 466,610,294 | ||||||||||||||
See accompanying notes to consolidated financial statements.
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PINNACLE FINANCIAL PARTNERS, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
CONSOLIDATED STATEMENTS OF CASH FLOWS
| For the years ended December 31, | ||||||||||||
| 2007 | 2006 | 2005 | ||||||||||
Operating activities: |
||||||||||||
Net income |
$ | 23,041,355 | $ | 17,927,033 | $ | 8,055,268 | ||||||
Adjustments to reconcile net income to net cash provided
by operating activities: |
||||||||||||
Net amortization of premiums on securities |
492,280 | 629,634 | 1,130,766 | |||||||||
Depreciation and net amortization |
3,810,374 | 1,382,401 | 1,699,380 | |||||||||
Provision for loan losses |
4,719,841 | 3,732,032 | 2,151,966 | |||||||||
Gains on sales of investment securities, net |
(16,472 | ) | — | (114,410 | ) | |||||||
Gain on loans and loan participations sold, net |
(1,858,077 | ) | (1,868,184 | ) | (1,247,898 | ) | ||||||
Stock-based compensation expense |
2,099,819 | 1,474,961 | 244,724 | |||||||||
Deferred tax (benefit) expense |
3,977,708 | (1,164,336 | ) | (575,755 | ) | |||||||
Tax benefit on exercise of stock awards |
— | — | (50,535 | ) | ||||||||
Excess tax benefit from stock compensation |
(105,809 | ) | (131,121 | ) | — | |||||||
Mortgage loans held for sale: |
||||||||||||
Loans originated |
(169,808,372 | ) | (131,971,094 | ) | (102,874,134 | ) | ||||||
Loans sold |
169,599,685 | 134,301,622 | 100,730,532 | |||||||||
Increase in other assets |
(17,546,455 | ) | (6,103,122 | ) | (3,155,825 | ) | ||||||
Increase (decrease) in other liabilities |
(2,011,851 | ) | (6,303,665 | ) | 2,177,477 | |||||||
Net cash provided by operating activities |
16,394,026 | 11,906,161 | 8,171,556 | |||||||||
Investing activities: |
||||||||||||
Activities in available for sale securities: |
||||||||||||
Purchases |
(78,978,057 | ) | (62,760,686 | ) | (116,361,069 | ) | ||||||
Sales |
770,400 | — | 6,791,867 | |||||||||
Maturities, prepayments and calls |
51,518,109 | 35,568,504 | 32,935,215 | |||||||||
Increase in loans, net |
(386,164,624 | ) | (297,565,733 | ) | (175,606,019 | ) | ||||||
Purchases of premises and equipment and software |
(6,071,813 | ) | (4,649,676 | ) | (3,438,916 | ) | ||||||
Cash and cash equivalents acquired in merger with Cavalry
Bancorp, Inc., net of acquisition costs |
— | 36,230,539 | — | |||||||||
Cash and cash equivalents acquired in merger with
Mid-America Bancshares, Inc., net of acquisition costs |
38,149,471 | — | — | |||||||||
Purchases of other assets |
(4,905,032 | ) | (6,107,658 | ) | (2,708,000 | ) | ||||||
Net cash used in investing activities |
(385,681,546 | ) | (299,284,710 | ) | (258,386,922 | ) | ||||||
Financing activities: |
||||||||||||
Net increase in deposits |
346,584,243 | 229,745,145 | 239,423,716 | |||||||||
Net increase (decrease) in repurchase agreements |
(5,481,091 | ) | 75,181,529 | 33,906,372 | ||||||||
Net increase in Federal funds purchased |
48,862,000 | — | — | |||||||||
Federal Home Loan Bank: |
||||||||||||
Issuances |
80,000,000 | 56,000,000 | 62,000,000 | |||||||||
Payments |
(102,304,513 | ) | (61,540,828 | ) | (74,000,000 | ) | ||||||
Proceeds from issuance of subordinated debt |
30,928,000 | 20,619,000 | 20,619,000 | |||||||||
Exercise of common stock warrants |
— | 55,000 | — | |||||||||
Exercise of common stock options and stock appreciation rights |
877,482 | 1,239,771 | 174,761 | |||||||||
Excess tax benefit from stock compensation |
105,809 | 131,121 | — | |||||||||
Costs incurred in connection with registration of common
stock issued in merger |
(299,397 | ) | (187,609 | ) | — | |||||||
Net cash provided by financing activities |
399,272,533 | 321,243,129 | 282,123,849 | |||||||||
Net increase in cash and cash equivalents |
29,985,013 | 33,864,580 | 31,908,483 | |||||||||
Cash and cash equivalents, beginning of year |
92,518,850 | 58,654,270 | 26,745,787 | |||||||||
Cash and cash equivalents, end of year |
$ | 122,503,863 | $ | 92,518,850 | $ | 58,654,270 | ||||||
See accompanying notes to consolidated financial statements.
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PINNACLE FINANCIAL PARTNERS, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
Note 1. Summary of Significant Accounting Policies
Nature of Business — Pinnacle Financial Partners, Inc. (Pinnacle Financial) is a bank holding
company whose primary business is conducted by its wholly-owned subsidiary, Pinnacle National Bank
(Pinnacle National). Pinnacle National is a commercial bank located in Nashville, Tennessee.
Pinnacle National provides a full range of banking services in its primary market areas of
Nashville-Davidson-Rutherford-Franklin and Knoxville Metropolitan Statistical Areas.
In addition to Pinnacle National, Pinnacle Financial, for the time period following the merger
with Mid-America Bancshares, Inc. (“Mid-America”), through February 29, 2008, conducted banking
operations through the two banks formerly owned by Mid-America: PrimeTrust Bank in Nashville,
Tennessee and Bank of the South in Mt. Juliet, Tennessee. On February 29, 2008, Pinnacle National
purchased all of the assets and assumed all of the liabilities of PrimeTrust Bank and
simultaneously sold the charter of PrimeTrust Bank to an unaffiliated third party for $500,000.
Pinnacle Financial also merged Bank of the South into Pinnacle National on that date. References
to Pinnacle National as of December 31, 2007 include PrimeTrust Bank and Bank of the South.
Basis of Presentation — These consolidated financial statements include the accounts of
Pinnacle Financial and its wholly-owned subsidiaries. PNFP Statutory Trust I, PNFP Statutory Trust
II, PNFP Statutory Trust III, PNFP Statutory Trust IV and Collateral Plus, LLC, are affiliates of
Pinnacle Financial and are included in these consolidated financial statements pursuant to the
equity method of accounting. Significant intercompany transactions and accounts are eliminated in
consolidation.
Use of Estimates — The preparation of financial statements in conformity with U.S. generally
accepted accounting principles requires management to make estimates and assumptions that affect
the reported amounts of assets and liabilities and disclosures of contingent assets and liabilities
as of the balance sheet date and the reported amounts of revenues and expenses during the reporting
period. Actual results could differ from those estimates. Material estimates that are particularly
susceptible to significant change in the near term include the determination of the allowance for
loan losses.
Impairment — Long-lived assets, including purchased intangible assets subject to
amortization, such as Pinnacle Financial’s core deposit intangible asset, are reviewed for
impairment whenever events or changes in circumstances indicate that the carrying amount of an
asset may not be recoverable. Recoverability of assets to be held and used is measured by a
comparison of the carrying amount of an asset to estimated undiscounted future cash flows expected
to be generated by the asset. If the carrying amount of an asset exceeds its estimated future
cash flows, an impairment charge is recognized for the excess of the carrying amount over the fair
value of the asset. Assets to be disposed of are reported at the lower of the carrying amount or
fair value less costs to sell and are no longer depreciated.
Goodwill and intangible assets that have indefinite useful lives are tested annually for
impairment and are tested for impairment more frequently if events and circumstances indicate that
the asset might be impaired. An impairment loss is recognized to the extent that the carrying
amount exceeds the asset’s fair value. Pinnacle Financial’s annual assessment date is as of
September 30 such that the assessment will be completed during the fourth quarter of each year.
Should we determine in a future period that the goodwill recorded in connection with our
acquisitions of Mid-America Bancshares, Inc. (“Mid-America”) and Cavalry Bancorp, Inc. (“Cavalry”)
has been impaired, then a charge to our earnings will be recorded in the period such determination
is made.
Cash Equivalents and Cash Flows — Cash on hand, cash items in process of collection, amounts
due from banks, Federal funds sold and securities purchased under agreements to resell, with
original maturities within ninety days, are included in cash and cash equivalents. The following
supplemental cash flow information addresses certain cash payments and noncash transactions for
each of the years in the three-year period ended December 31, 2007 as follows:
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PINNACLE FINANCIAL PARTNERS, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
| For the years ended December 31, | ||||||||||||
| 2007 | 2006 | 2005 | ||||||||||
Cash Payments: |
||||||||||||
Interest |
$ | 76,735,790 | $ | 50,752,304 | $ | 16,154,326 | ||||||
Income taxes |
7,900,000 | 8,280,000 | 3,802,633 | |||||||||
Noncash Transactions: |
||||||||||||
Common stock, stock appreciation rights, and
options issued to acquire Mid-America Bancshares,
Inc. (see note 2) |
183,509,822 | — | — | |||||||||
Common stock and options issued to acquire Cavalry
Bancorp, Inc. (see note 3) |
— | 171,087,572 | — | |||||||||
Loans charged-off to the allowance for loan losses |
1,341,890 | 818,467 | 207,647 | |||||||||
Loans foreclosed upon with repossessions
transferred to other assets |
481,915 | 994,781 | — | |||||||||
Securities — Securities are classified based on management’s intention on the date of
purchase. All debt securities classified as available-for-sale are recorded at fair value with any
unrealized gains and losses reported in accumulated other comprehensive loss, net of the deferred
income tax effects. Securities that Pinnacle Financial has both the positive intent and ability to
hold to maturity are classified as held to maturity and are carried at historical cost and adjusted
for amortization of premiums and accretion of discounts.
A decline in the fair value of any available-for-sale or held-to-maturity security below cost
that is deemed to be other-than-temporary results in a reduction in the carrying amount to fair
value. The impairment is charged to earnings and a new cost basis for the security is
established. To determine whether impairment is other-than-temporary, management considers
whether it has the ability and intent to hold the investment until a market price recovery and
considers whether evidence indicating the cost of the investment is recoverable outweighs
evidence to the contrary. Evidence considered in this assessment includes the reasons for the
impairment, the severity and duration of the impairment, changes in value subsequent to
year-end and forecasted performance of the investee.
Interest and dividends on securities, including amortization of premiums and accretion of
discounts calculated under the effective interest method, are included in interest income. For
certain securities, amortization of premiums and accretion of discounts is computed based on
the anticipated life of the security which may not be the stated life of the security.
Realized gains and losses from the sale of securities are determined using the specific
identification method.
Loans Held for Sale — Loans originated and intended for sale are carried at the lower of cost
or estimated fair value as determined on a loan-by-loan basis. Net unrealized losses, if any, are
recognized through a valuation allowance by charges to income. Realized gains and losses are
recognized when legal title to the loans has been transferred to the purchaser and payments have
been received and are reflected in the accompanying consolidated statement of income in gains on
the sale of loans and loan participations sold.
Loans — Loans are reported at their outstanding principal balances less unearned income, the
allowance for loan losses and any deferred fees or costs on originated loans. Interest income on
loans is accrued based on the principal balance outstanding. Loan origination fees, net of certain
loan origination costs, are deferred and recognized as an adjustment to the related loan yield
using a method which approximates the interest method. At December 31, 2007 and 2006, net deferred
loan fees of $2.8 million and net deferred loan fees of $3.4 million, respectively, were included
in loans on the accompanying consolidated balance sheets. Net deferred loan fees at December 31,
2007 includes the unamortized discount of $875,000 assigned to the loan portfolio acquired from the
Mid-America acquisition as more fully discussed in “Note 2 — Merger with Mid-America Bancshares,
Inc.”. Net deferred loan fees at December 31, 2007 also includes the unamortized discount of
$794,000 assigned to the loan portfolio acquired from the Cavalry acquisition as more fully
discussed in “Note 3 — Merger with Cavalry Bancorp, Inc.”
The accrual of interest on loans is discontinued when there is a significant deterioration in
the financial condition of the borrower and full repayment of principal and interest is not
expected or the principal or interest is more than 90 days past due, unless the loan is both
well-secured and in the process of collection. Generally, all
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PINNACLE FINANCIAL PARTNERS, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
interest accrued but not collected for loans that are placed on nonaccrual status is reversed against current income. Interest income
is subsequently recognized only to the extent cash payments are received.
The allowance for loan losses is maintained at a level that management believes to be adequate
to absorb probable losses in the loan portfolio. Loan losses are charged against the allowance
when they are known. Subsequent recoveries are credited to the allowance. Management’s
determination of the adequacy of the allowance is based on an evaluation of the portfolio,
current economic conditions, volume, growth, composition of the loan portfolio, homogeneous
pools of loans, risk ratings of specific loans, historical loan loss factors, identified
impaired loans and other factors related to the portfolio. This evaluation is performed
quarterly and is inherently subjective, as it requires material estimates that are susceptible
to significant change including the amounts and timing of future cash flows expected to be
received on any impaired loans. In addition, regulatory agencies, as an integral part of their
examination process, will periodically review Pinnacle Financial’s allowance for loan losses,
and may require Pinnacle Financial to record adjustments to the allowance based on their
judgment about information available to them at the time of their examinations.
A loan is considered to be impaired when it is probable Pinnacle Financial will be unable to
collect all principal and interest payments due in accordance with the contractual terms of the
loan agreement. Individually identified impaired loans are measured based on the present value of
expected payments using the loan’s original effective rate as the discount rate, the loan’s
observable market price, or the fair value of the collateral if the loan is collateral dependent.
If the recorded investment in the impaired loan exceeds the measure of fair value, a valuation
allowance may be established as a component of the allowance for loan losses. Changes to the
valuation allowance are recorded as a component of the provision for loan losses.
Transfers of Financial Assets — Transfers of financial assets are accounted for as sales when
control over the assets has been surrendered. Control over transferred assets is deemed to be
surrendered when (1) the assets have been isolated from Pinnacle Financial, (2) the transferee
obtains the right (free of conditions that constrain it from taking advantage of that right) to
pledge or exchange the transferred assets, and (3) Pinnacle Financial does not maintain effective
control over the transferred assets through an agreement to repurchase them before maturity.
Premises and Equipment and Leaseholds — Premises and equipment are carried at cost less
accumulated depreciation and amortization computed principally by the straight-line method over the
estimated useful lives of the assets or the expected lease terms for leasehold improvements,
whichever is shorter. Useful lives for all premises and equipment range between three and thirty
years.
Pinnacle National is the lessee with respect to several office locations. All such leases are
being accounted for as operating leases within the accompanying consolidated financial statements.
Several of these leases include rent escalation clauses. Pinnacle National expenses the costs
associated with these escalating payments over the life of the expected lease term using the
straight-line method. At December 31, 2007, the deferred liability associated with these
escalating rentals was approximately $540,000 and is included in other liabilities in the
accompanying consolidated balance sheets.
Investments in unconsolidated subsidiaries and other entities — In addition to investments in
unconsolidated subsidiaries, Pinnacle Financial maintains certain investments, at cost, with
certain regulatory and other entities in which Pinnacle Financial has an ongoing business
relationship. These entities include the Federal Reserve Bank of Atlanta, the Bankers’ Bank of
Atlanta and the Federal Home Loan Bank of Cincinnati. At December 31, 2007 and 2006, the cost
of these investments was $15,655,000 and $12,794,000, respectively. Pinnacle Financial
determined that it is not practicable to estimate the fair value of these investments.
Pinnacle Financial has not observed any events or changes in circumstances that would have had
an adverse effect on the fair value of the investment. Additionally, Pinnacle Financial has
recorded certain unconsolidated investments in other entities, at fair value, of $1,252,000 and
$65,000 at December 31, 2007 and 2006. During 2007, Pinnacle Financial recorded a loss of
$35,000 due to reductions in the fair value of these investments. These investments are
reflected in the accompanying consolidated balance sheets in investments in unconsolidated
subsidiaries and other entities.
Securities sold under agreements to repurchase — Pinnacle National routinely sells securities
to certain treasury management customers and then repurchases these securities the next day.
Securities sold under agreements to repurchase are reflected as a secured borrowing in the
accompanying consolidated balance sheets at the amount of cash received in connection with each
transaction.
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PINNACLE FINANCIAL PARTNERS, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
Other Assets — Included in other assets as of December 31, 2007 and 2006, is approximately
$840,000 and $765,000, respectively, of computer software related assets, net of amortization. This
software supports Pinnacle Financial’s primary data systems and relates to amounts paid to vendors
for installation and development of such systems. These amounts are amortized on a straight-line
basis over periods of three to seven years. For the years ended December 31, 2007, 2006 and 2005,
Pinnacle Financial’s amortization expense was approximately $208,000, $281,000 and $272,000,
respectively. Software maintenance fees are capitalized in other assets and amortized over the term
of the maintenance agreement.
Included in other assets at December 31, 2007 and 2006 is $1,673,000 and $995,000,
respectively, of other real estate owned (OREO). OREO represents properties acquired by Pinnacle
National through loan defaults by customers. The property is recorded at the lower of cost or fair
value less estimated costs to sell at the date acquired. An allowance for losses on OREO may be
maintained for subsequent valuation adjustments on a specific property basis, when necessary. Any
gains or losses realized at the time of disposal are reflected in non interest income or non
interest expense, as applicable.
Pinnacle National is the owner and beneficiary of various life insurance policies on certain
key executives and former Cavalry directors, including policies that were acquired in its merger
with Cavalry. These policies are reflected in the accompanying consolidated balance sheets at
their respective cash surrender values. At December 31, 2007 and 2006, the aggregate cash
surrender value of these policies, which is reflected in other assets, was $33.4 million and $14.8
million, respectively.
Also included in other assets at December 31, 2007 and 2006 is $648,000 and $770,000,
respectively, which is related to loan participations which have been sold to correspondent banks.
These amounts represent the present value, net of amortization, of the future net cash flows
retained by Pinnacle Financial. These amounts are amortized against net interest income over the
life of the loan. Amortization of these amounts was $361,000, $127,000 and $165,000 for the years
ended December 31, 2007, 2006 and 2005, respectively.
Derivative Instruments — In accordance with SFAS No. 133, “Accounting for Derivative
Instruments and Hedging Activities,” as amended by SFAS No. 138 “Accounting for Certain Derivative
Instruments and Hedging Activities, an Amendment of SFAS No. 133,” all derivative instruments are
recorded on the consolidated balance sheet at their respective fair values.
The accounting for changes in fair value (i.e., gains or losses) of a derivative instrument
depends on whether it has been designated and qualifies as part of a hedging relationship and if
so, on the reason for holding it. If the derivative instrument is not designated as a hedge, the
gain or loss on the derivative instrument is recognized in earnings in the period of change. None
of the derivatives utilized by Pinnacle Financial have been designated as a hedge.
Investment Services and Trust Fees — Investment services and trust fees are recognized when
earned. As of December 31, 2007 and 2006, Pinnacle Financial had accumulated approximately $878
million and $597 million, respectively, in brokerage assets under management. Additionally, the
trust department had accumulated approximately $464 million and $395 million at December 31, 2007
and 2006, respectively, in trust assets under management.
Insurance Sales Commissions — Insurance sales commissions are recognized as of the effective
date of the policy and when the premium due under the policy can be reasonably estimated and when
the premium is billable to the client, less a provision for commission refunds in the event of
policy cancellation prior to termination date.
Income Taxes — Income tax expense is the total of the current year income tax due or
refundable and the change in deferred tax assets and liabilities. Deferred tax assets and
liabilities are the expected future tax amounts for the temporary differences between carrying
amounts and tax bases of assets and liabilities, computed using enacted tax rates. A valuation
allowance, if needed, reduces deferred tax assets to the amount expected to be realized.
The Company adopted FASB Interpretation 48, “Accounting for Uncertainty in Income Taxes” (“FIN
48”), as of January 1, 2007. A tax position is recognized as a benefit only if it is “more
likely than not” that the tax position
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PINNACLE FINANCIAL PARTNERS, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
would be sustained in a tax examination, with a tax
examination being presumed to occur. The amount recognized is the largest amount of tax benefit
that is greater than 50% likely of being realized on examination. For tax positions not
meeting the “more likely than not” test, no tax benefit is recorded. The adoption had no
material affect on the Company’s financial statements.
It is Pinnacle Financial’s policy to recognize interest and/or penalties related to income tax
matters in income tax expense.
Pinnacle Financial and its wholly-owned subsidiaries file a consolidated income tax return.
Each entity provides for income taxes based on its contribution to income or loss of the
consolidated group.
Income Per Common Share — Basic earnings per share (“EPS”) is computed by dividing net income
by the weighted average common shares outstanding for the period. Diluted EPS reflects the
dilution that could occur if securities or other contracts to issue common stock were exercised or
converted. The difference between basic and diluted weighted average shares outstanding was
attributable to common stock options, common stock appreciation rights, warrants and restricted
shares. The dilutive effect of outstanding options, common stock appreciation rights, warrants and
restricted shares is reflected in diluted earnings per share by application of the treasury stock
method.
As of December 31, 2007 there were 2,384,000 stock options and 15,000 stock appreciation rights
outstanding to purchase common shares. As of December 31, 2006 there were 1,658,000 stock
options outstanding to purchase common shares. Most of these options have exercise prices and
compensation costs attributable to current services, which when considered in relation to the
average market price of Pinnacle Financial’s common stock, are considered dilutive and are
considered in Pinnacle Financial’s diluted income per share calculation for each of the years
in the three year period ended December 31, 2007. There were common stock options of 327,000
and 287,000 outstanding as of December 31, 2007 and 2006, respectively, which were considered
anti-dilutive and thus have not been considered in the fully-diluted share calculations below.
Additionally, as of December 31, 2007, 2006 and 2005, Pinnacle Financial had outstanding
warrants to purchase 395,000, 395,000 and 406,000, respectively, of common shares which have
been considered in the calculation of Pinnacle Financial’s diluted income per share for each of
the years in the three-year period ended December 31, 2007.
The following is a summary of the basic and diluted earnings per share calculation for each of
the years in the three-year period ended December 31, 2007:
| 2007 | 2006 | 2005 | ||||||||||
Basic earnings per share calculation: |
||||||||||||
Numerator — Net income |
$ | 23,041,355 | $ | 17,927,033 | $ | 8,055,268 | ||||||
Denominator — Average common shares outstanding |
16,100,076 | 13,954,077 | 8,408,663 | |||||||||
Basic net income per share |
$ | 1.43 | $ | 1.28 | $ | 0.96 | ||||||
Diluted earnings per share calculation: |
||||||||||||
Numerator — Net income |
$ | 23,041,355 | $ | 17,927,033 | $ | 8,055,268 | ||||||
Denominator — Average common shares outstanding |
16,100,076 | 13,954,077 | 8,408,663 | |||||||||
Dilutive shares contingently issuable |
1,155,467 | 1,202,760 | 1,055,837 | |||||||||
Average diluted common shares
outstanding |
17,255,543 | 15,156,837 | 9,464,500 | |||||||||
Diluted net income per share |
$ | 1.34 | $ | 1.18 | $ | 0.85 | ||||||
Stock-Based Compensation — On January 1, 2006, Pinnacle Financial adopted Statement of
Financial Accounting Standards No. 123 (revised 2004), “Share-Based Payment” (“SFAS
No.123(R)”), that addresses the accounting for share-based payment transactions in which a
company receives employee services in exchange for equity instruments. SFAS No. 123(R)
eliminates the ability to account for share-based compensation transactions, as Pinnacle
Financial formerly did, using the intrinsic value method as prescribed by Accounting Principles
Board, (“APB”), Opinion No. 25, “Accounting for Stock Issued to Employees,” and generally
requires that such transactions be accounted for using a fair-value-based method and recognized
as expense in the accompanying consolidated statement of income.
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PINNACLE FINANCIAL PARTNERS, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
Pinnacle Financial adopted SFAS No. 123(R) using the modified prospective method which
required the application of the accounting standard as of January 1, 2006. The accompanying
consolidated financial statements as of and for the two year period ended December 31, 2007 and
2006 reflect the impact of adopting SFAS No. 123(R). In accordance with the modified prospective
method, consolidated financial statements for prior periods have not been restated to reflect, and
do not include, the impact of SFAS No. 123(R). See Note 15 for further details.
Stock-based compensation expense recognized during the period is based on the value of the
portion of stock-based payment awards that are ultimately expected to vest. Stock-based
compensation expense recognized in the accompanying consolidated statement of income during 2007
and 2006 included compensation expense for stock-based payment awards granted prior to, but not yet
vested, as of January 1, 2006 and for the stock-based awards granted after January 1, 2006, based
on the grant date fair value estimated in accordance with SFAS No. 123(R). As stock-based
compensation expense recognized in the accompanying consolidated statements of income for 2007 and
2006 is based on awards ultimately expected to vest, it has been reduced for estimated forfeitures.
SFAS No. 123(R) requires forfeitures to be estimated at the time of grant and revised, if
necessary, in subsequent periods if actual forfeitures differ from those estimates. In the pro
forma information for 2005, which is also detailed in Note 15 we accounted for forfeitures as they
occurred.
Comprehensive Income (Loss) —SFAS No. 130, “Reporting Comprehensive Income” describes
comprehensive income as the total of all components of comprehensive income including net income.
Other comprehensive income refers to revenues, expenses, gains and losses that under U.S. generally
accepted accounting principles are included in comprehensive income but excluded from net income.
Currently, Pinnacle Financial’s other comprehensive loss consists of unrealized gains and losses,
net of deferred income taxes, on available-for-sale securities.
Note 2. Merger with Mid-America Bancshares, Inc.
On November 30, 2007, Pinnacle Financial consummated its merger with Mid-America Bancshares,
Inc. (“Mid-America”), a two-bank holding company located in Nashville, Tennessee. Pursuant to
the merger agreement, Pinnacle acquired all Mid-America common stock via an exchange whereby
Mid-America shareholders received a fixed exchange ratio of 0.4655 shares of Pinnacle Financial
common stock and $1.50 in cash for each share of Mid-America common stock, or approximately 6.7
million Pinnacle Financial shares and $21.6 million in cash. The accompanying consolidated
financial statements include the activities of the former Mid-America since November 30, 2007.
In accordance with SFAS No. 141, “Accounting for Business Combinations” (“SFAS No. 141”), SFAS
No. 142, “Goodwill and Intangible Assets” (“SFAS No. 142”) and SFAS No. 147, “Acquisition of
Certain Financial Institutions” (“SFAS No. 147”), Pinnacle Financial recorded at fair value the
following assets and liabilities of Mid-America as of November 30, 2007 (in thousands):
Cash and cash equivalents |
$ | 60,795 | ||
Investment securities — available-for-sale |
147,766 | |||
Loans, net of an allowance for loan losses of $8,695 |
855,887 | |||
Goodwill |
129,334 | |||
Core deposit intangible |
8,085 | |||
Other assets |
49,854 | |||
Total assets acquired |
1,251,721 | |||
Deposits |
957,076 | |||
Federal Home Loan Bank advances |
61,383 | |||
Other liabilities |
27,107 | |||
Total liabilities assumed |
1,045,566 | |||
Total consideration paid for Mid-America |
$ | 206,155 | ||
As noted above, total consideration for Mid-America approximates $206.2 million of which $183.5
million was in the form of Pinnacle Financial common shares, options, and stock appreciation
rights to acquire Pinnacle Financial common shares, $21.6 million was in the form of cash, and
$1.1 million in investment banking fees,
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NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
attorney’s fees and other costs related to the
acquisition which have been accounted for as a component of the purchase price. Pinnacle
Financial issued 6,676,580 shares of Pinnacle Financial common stock to the former Mid-America
shareholders. In accordance with EITF No. 99-12, “Determination of the Measurement Date for
the Market Price of Acquirer Securities Issued in a Purchase Business Combination,” the
consideration shares were valued at $26.26 per common share which represents the average
closing price of Pinnacle Financial common stock from the two days prior to the merger
announcement on August 15, 2007 through the two days after the merger announcement. Aggregate
consideration for the common stock issued was approximately $196.9 million. Additionally,
Pinnacle Financial also has assumed several equity incentive plans, including the Mid-America
Bancshares, Inc. 2006 Omnibus Equity Incentive Plan (the “Mid-America Plans”) pursuant to which
Pinnacle is obligated to issue 487,835 shares of Pinnacle Financial common stock upon exercise
of stock options and stock appreciation rights awarded to certain former Mid-America employees
who held outstanding options and stock appreciation rights as of November 30, 2007. All of
these options and stock appreciation rights were fully vested prior to the merger announcement
date and expire at various dates between 2011 and 2017. The exercise prices for these stock
options and the grant prices for these stock appreciation rights range between $6.63 per share
and $21.37 per share. In accordance with SFAS No. 141, Pinnacle Financial has considered the
fair value of these options and stock appreciation rights in determining the acquisition cost
of Mid-America. The fair value of these vested options and stock appreciation rights
approximated $8.2 million which has been included as a component of the aggregate purchase
price.
In accordance with SFAS Nos. 141 and 142, Pinnacle Financial has preliminarily recognized $8.1
million as a core deposit intangible. This identified intangible is being amortized over ten
years using an accelerated method which anticipates the life of the underlying deposits to
which the intangible is attributable. For the year ended December 31, 2007, approximately
$81,000 was recognized in the accompanying consolidated statement of income as other
noninterest expense. Amortization expense associated with this identified intangible will
approximate $600,000 to $975,000 per year for the next ten years.
Pinnacle Financial also recorded other adjustments to the carrying value of Mid-America’s
assets and liabilities in order to reflect the fair value of those net assets in accordance
with U.S. generally accepted accounting principles, including an $883,000 discount associated
with the loan portfolio, a $2.7 million premium for Mid-America’s certificates of deposit and a
$898,000 premium for Mid-America’s Federal Home Loan Bank advances. Pinnacle Financial also
recorded the corresponding deferred tax asset or liability associated with these adjustments.
The discounts and premiums related to financial assets and liabilities are being accreted and
amortized into our consolidated statements of income using a method that approximates the level
yield over the anticipated lives of the underlying financial assets or liabilities. For the
year ended December 31, 2007, the accretion and amortization of the fair value discounts and
premiums related to the acquired assets and liabilities increased net interest income by
approximately $528,000. Based on the estimated useful lives of the acquired loans, certificates
of deposits, and FHLB advances, Pinnacle Financial expects to recognize increases in net
interest income related to the accretion of these purchase accounting adjustments of $3.9
million in subsequent years.
Statement of Position 03-03, Accounting for Certain Loans or Debt Securities Acquired in a
Transfer (“SOP 03-03”) addresses accounting for differences between contractual cash flows and
cash flows expected to be collected from an investor’s initial investment in loans or debt
securities (loans) acquired in a transfer if those differences are attributable, at least in
part, to credit quality. It includes loans acquired in purchase business combinations and
applies to all nongovernmental entities, including not-for-profit organizations. The SOP does
not apply to loans originated by the entity. Prior to the merger with Mid-America and due to
deteriorating credit conditions during the fourth quarter of 2007, the management of
Mid-America identified
approximately $19 million in loans which had weaker credit conditions and charged-off
approximately $8.9 million related to these loans. Subsequently, Pinnacle Financial identified
$10.3 million of loans to which the application of the provisions of SOP 03-03 was required.
Pinnacle recorded no further purchase accounting adjustments to these balances as of November
30, 2007. At December 31, 2007, the carrying value of these loans was $10.3 million.
Pinnacle Financial is in the process of finalizing the allocation of the purchase price to the
acquired net assets noted above. Accordingly, the above allocations should be considered
preliminary as of December 31, 2007.
The following pro forma income statements assume the merger was consummated on January 1, 2006.
The pro forma information does not reflect Pinnacle Financial’s results of operations that
would have actually occurred had the merger been consummated on such date (dollars in
thousands).
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NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
| Year ended December 31, | ||||||||
| 2007 | 2006(1) | |||||||
| (unaudited) | ||||||||
Pro Forma Income Statements: |
||||||||
Net interest income |
$ | 104,610 | $ | 78,454 | ||||
Provision for loan losses |
14,544 | 5,005 | ||||||
Noninterest income |
29,495 | 21,141 | ||||||
Noninterest expense |
98,437 | 68,897 | ||||||
Net income before taxes |
21,124 | 25,693 | ||||||
Income tax expense |
6,908 | 7,750 | ||||||
Net income |
$ | 14,216 | $ | 17,943 | ||||
Pro Forma Per Share Information: |
||||||||
Basic net income per common share |
$ | 0.64 | $ | 0.98 | ||||
Diluted net income per common share |
$ | 0.61 | $ | 0.92 | ||||
Weighted average shares outstanding: |
||||||||
Basic |
22,209,642 | 18,222,247 | ||||||
Diluted |
23,365,109 | 19,483,299 | ||||||
| (1) | In preparation and as a result of the merger during 2007, Mid-America and Pinnacle Financial incurred significant merger related charges of approximately $3.9 million in the aggregate, primarily for severance benefits, accelerated vesting of defined compensation agreements, investment banker fees, etc. Including these charges would have decreased pro forma net income for the year ended December 31, 2007 by $2.35 million resulting in net income of $11,872,000 and a basic and fully diluted pro forma net income per share of $0.53 and $0.51, respectively. |
During the year ended December 31, 2007, Pinnacle Financial incurred merger integration
expense related to the merger with Mid-America of $622,000. These expenses were directly related
to the merger, recognized as incurred and reflected on the accompanying consolidated statement of
income as merger related expense.
Following the merger with Mid-America, on February 29, 2008, Pinnacle National purchased all
of the assets and assumed all of the liabilities of PrimeTrust Bank and simultaneously sold the
charter of PrimeTrust Bank to an unaffiliated third party for $500,000. Pinnacle Financial also
merged Bank of the South into Pinnacle National on that date, leaving Pinnacle National as the sole
banking subsidiary of Pinnacle Financial. Goodwill was reduced as a result of the sale of the
charter, and therefore no gain was recorded.
Note 3. Merger with Cavalry Bancorp, Inc.
On March 15, 2006, Pinnacle Financial consummated its merger with Cavalry Bancorp, Inc.
(“Cavalry”), a one-bank holding company located in Murfreesboro, Tennessee. Pursuant to the merger
agreement, Pinnacle acquired all Cavalry common stock via a tax-free exchange whereby Cavalry
shareholders received a fixed exchange ratio of 0.95 shares of Pinnacle Financial common stock for
each share of Cavalry common stock, or approximately 6.9 million Pinnacle Financial shares. The
accompanying consolidated financial statements include the activities of the former Cavalry since
March 15, 2006.
In accordance with SFAS No. 141, “Accounting for Business Combinations” (“SFAS No. 141”), SFAS
No. 142, “Goodwill and Intangible Assets” (“SFAS No. 142”) and SFAS No. 147, “Acquisition of
Certain Financial Institutions” (“SFAS No. 147”), Pinnacle Financial recorded at fair value the
following assets and liabilities of Cavalry as of March 15, 2006 (in thousands):
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NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
Cash and cash equivalents |
$ | 37,420 | ||
Investment securities — available-for-sale |
39,476 | |||
Loans, net of an allowance for loan losses of $5,102 |
545,598 | |||
Goodwill |
114,288 | |||
Core deposit intangible |
13,168 | |||
Other assets |
42,937 | |||
Total assets acquired |
792,887 | |||
Deposits |
583,992 | |||
Federal Home Loan Bank advances |
17,767 | |||
Other liabilities |
18,851 | |||
Total liabilities assumed |
620,610 | |||
Total consideration paid for Cavalry |
$ | 172,277 | ||
As noted above, total consideration for Cavalry approximates $172.3 million of which $171.1
million was in the form of Pinnacle Financial common shares and options to acquire Pinnacle
Financial common shares and $1.2 million in investment banking fees, attorney’s fees and other
costs related to the acquisition which have been accounted for as a component of the purchase
price. Pinnacle Financial issued 6,856,298 shares of Pinnacle Financial common stock to the former
Cavalry shareholders. In accordance with EITF No. 99-12, “Determination of the Measurement Date
for the Market Price of Acquirer Securities Issued in a Purchase Business Combination,” the
consideration shares were valued at $24.53 per common share which represents the average closing
price of Pinnacle Financial common stock from the two days prior to the merger announcement on
September 30, 2005 through the two days after the merger announcement. Aggregate consideration for
the common stock issued was approximately $168.2 million. Additionally, Pinnacle Financial also
has assumed the Cavalry Bancorp, Inc. 1999 Stock Incentive Plan (the “Cavalry Plan”) pursuant to
which Pinnacle is obligated to issue 195,551 shares of Pinnacle Financial common stock upon
exercise of stock options awarded to certain former Cavalry employees who held outstanding options
as of March 15, 2006. All of these options were fully vested prior to the merger announcement date
and expire at various dates between 2011 and 2012. The exercise prices for these stock options
range between $10.26 per share and $13.68 per share. In accordance with SFAS No. 141, Pinnacle
Financial has considered the fair value of these options in determining the acquisition cost of
Cavalry. The fair value of these vested options approximated $2.9 million which has been included
as a component of the aggregate purchase price.
In accordance with SFAS Nos. 141 and 142, Pinnacle Financial has recognized $13.2 million as a
core deposit intangible. This identified intangible is being amortized over seven years using an
accelerated method which anticipates the life of the underlying deposits to which the intangible is
attributable. For the year ended December 31, 2007 and 2006, approximately $2.1 and $1.8 million,
respectively, was recognized in the accompanying consolidated statements of income as other
noninterest expense. Amortization expense associated with this identified intangible will
approximate $1.6 million to $2.0 million per year for the next five years with a lesser amount for
the remaining year.
Pinnacle Financial also recorded other adjustments to the carrying value of Cavalry’s assets
and liabilities in order to reflect the fair value of those net assets in accordance with U.S.
generally accepted accounting principles, including a $4.8 million discount associated with the
loan portfolio, a $2.9 million premium for Cavalry’s certificates of deposit and a $4.6 million
premium for Cavalry’s land and buildings. Pinnacle Financial also recorded the corresponding
deferred tax asset or liability associated with these adjustments. The discounts and premiums
related to financial assets and liabilities are being amortized into our consolidated statements of
income using a method that approximates the level yield method over the anticipated lives of the
underlying financial assets or liabilities. For the years ended December 31, 2007 and 2006, the
accretion of the fair value discounts related to the acquired loans and certificates of deposit
increased net interest income by approximately $2.5 and $3.7 million, respectively. Based on the
estimated useful lives of the acquired loans and deposits, Pinnacle Financial expects to recognize
increases in net interest income related to accretion of these purchase accounting adjustments of
$1.5 million in subsequent years.
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NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
Statement of Position 03-03, Accounting for Certain Loans or Debt Securities Acquired in a
Transfer (“SOP 03-03”) addresses accounting for differences between contractual cash flows and cash
flows expected to be collected from an investor’s initial investment in loans or debt securities
(loans) acquired in a transfer if those differences are attributable, at least in part, to credit
quality. It includes loans acquired in purchase business combinations and applies to all
nongovernmental entities, including not-for-profit organizations. The SOP does not apply to loans
originated by the entity. At March 15, 2006, Pinnacle Financial identified $3.9 million in loans
to which the application of the provisions of SOP 03-03 was required. The purchase accounting
adjustments reflect a reduction in loans and the allowance for loan losses of $1.0 million related
to Cavalry’s impaired loans, thus reducing the carrying value of these loans to $2.9 million as of
March 15, 2006. At December 31, 2007, the carrying value of these loans had been reduced to
$679,000 due to cash payments received from the borrowers.
During the year ended December 31, 2006, Pinnacle Financial incurred merger integration
expense related to the merger with Cavalry of $1,636,000. These expenses were directly related to
the merger, recognized as incurred and reflected on the accompanying consolidated statement of
income as merger related expense.
Note 4. Restricted Cash Balances
Regulation D of the Federal Reserve Act requires that banks maintain reserve balances with the
Federal Reserve Bank based principally on the type and amount of their deposits. At its option,
Pinnacle Financial maintains additional balances to compensate for clearing and other services.
For each of the years ended December 31, 2007 and 2006, the average daily balance maintained at the
Federal Reserve was approximately $611,000.
Note 5. Securities
The amortized cost and fair value of securities available-for-sale and held-to-maturity at
December 31, 2007 and 2006 are summarized as follows:
| December 31, 2007 | ||||||||||||||||
| Gross | Gross | |||||||||||||||
| Amortized | Unrealized | Unrealized | Fair | |||||||||||||
| Cost | Gains | Losses | Value | |||||||||||||
Securities available-for-sale: |
||||||||||||||||
U.S. Treasury securities |
$ | — | $ | — | $ | — | $ | — | ||||||||
U.S. Government agency
securities |
69,481,328 | 199,761 | 18,526 | 69,662,563 | ||||||||||||
Mortgage-backed securities |
297,909,174 | 1,237,808 | 1,441,636 | 297,705,346 | ||||||||||||
State and municipal securities |
127,220,978 | 208,241 | 1,523,412 | 125,905,807 | ||||||||||||
Corporate notes |
2,415,782 | — | 37,559 | 2,378,223 | ||||||||||||
| $ | 497,027,262 | $ | 1,645,810 | $ | 3,021,133 | $ | 495,651,939 | |||||||||
Securities held-to-maturity: |
||||||||||||||||
U.S. government agency
securities |
$ | 17,747,589 | $ | 4,436 | $ | — | 17,752,025 | |||||||||
State and municipal securities |
9,285,767 | 23,175 | 177,494 | 9,131,448 | ||||||||||||
| $ | 27,033,356 | $ | 27,611 | $ | 177,494 | $ | 26,883,473 | |||||||||
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NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
| December 31, 2006 | ||||||||||||||||
| Gross | Gross | |||||||||||||||
| Amortized | Unrealized | Unrealized | Fair | |||||||||||||
| Cost | Gains | Losses | Value | |||||||||||||
Securities available-for-sale: |
||||||||||||||||
U.S. Treasury securities |
$ | — | $ | — | $ | — | $ | — | ||||||||
U.S. Government agency
securities |
38,076,428 | 9,739 | 457,321 | 37,628,846 | ||||||||||||
Mortgage-backed securities |
220,397,093 | 455,203 | 3,028,241 | 217,824,055 | ||||||||||||
State and municipal securities |
62,215,952 | 131,412 | 388,124 | 61,959,240 | ||||||||||||
Corporate notes |
1,887,475 | — | 62,188 | 1,825,287 | ||||||||||||
| $ | 322,576,948 | $ | 596,354 | $ | 3,935,874 | $ | 319,237,428 | |||||||||
| Securities held-to-maturity: | ||||||||||||||||
U.S. government agency
securities |
$ | 17,747,278 | $ | — | $ | 378,528 | $ | 17,368,700 | ||||||||
State and municipal securities |
9,509,648 | — | 284,113 | 9,225,535 | ||||||||||||
| $ | 27,256,876 | $ | — | $ | 662,641 | $ | 26,594,235 | |||||||||
Pinnacle Financial realized approximately $16,000 in net gains from the sale of $770,000 of
available-for-sale securities during the year ended December 31, 2007. There were no losses on the
sale of securities during the year ended December 31, 2007. Pinnacle Financial had no sales of
investment securities in 2006. Pinnacle Financial realized approximately $114,000 in net gains
from the sale of $6.8 million of available for sale securities during the year ended December 31,
2005.
At December 31, 2007, approximately $411,271,000 of Pinnacle Financial’s available-for-sale
portfolio was pledged to secure public funds and other deposits and securities sold under
agreements to repurchase.
The amortized cost and fair value of debt securities as of December 31, 2007 by contractual
maturity are shown below. Actual maturities may differ from contractual maturities of
mortgage-backed securities since the mortgages underlying the securities may be called or prepaid
with or without penalty. Therefore, these securities are not included in the maturity categories in
the following summary.
| Available-for-sale | Held-to-maturity | |||||||||||||||
| Fair | Amortized | Fair | ||||||||||||||
| Amortized Cost | Value | Cost | Value | |||||||||||||
Due in one year or less |
$ | 29,574,165 | $ | 29,565,012 | $ | 1,578,186 | $ | 1,571,404 | ||||||||
Due in one year to five years |
71,667,981 | 71,674,128 | 22,535,568 | 22,403,338 | ||||||||||||
Due in five years to ten years |
52,785,286 | 52,318,514 | 2,919,602 | 2,908,731 | ||||||||||||
Due after ten years |
45,090,656 | 44,388,939 | — | — | ||||||||||||
| $ | 199,118,088 | $ | 197,946,593 | $ | 27,033,356 | $ | 26,883,473 | |||||||||
At December 31, 2007 and 2006, included in securities were the following investments with
unrealized losses. The information below classifies these investments according to the term of the
unrealized loss of less than twelve months or twelve months or longer:
| Investments with an | ||||||||||||||||||||||||
| Unrealized Loss of less than | Investments with an Unrealized | Total Investments with an | ||||||||||||||||||||||
| 12 months | Loss of 12 months or longer | Unrealized Loss | ||||||||||||||||||||||
| Unrealized | Unrealized | Unrealized | ||||||||||||||||||||||
| Fair Value | Losses | Fair Value | Losses | Fair Value | Losses | |||||||||||||||||||
At December 31, 2007: |
||||||||||||||||||||||||
U.S. government agency securities |
$ | 13,942,078 | $ | 25,198 | $ | 2,985,600 | $ | 14,400 | $ | 16,927,678 | $ | 39,598 | ||||||||||||
Mortgage-backed securities |
51,240,090 | 181,098 | 97,593,453 | 1,260,537 | 148.833.543 | 1.441.635 | ||||||||||||||||||
State and municipal securities |
54,467,544 | 1,193,763 | 35,481,739 | 486,071 | 89,949,283 | 1,679,834 | ||||||||||||||||||
Corporate notes |
527,115 | 300 | 1,451,108 | 37,260 | 1,978,223 | 37,560 | ||||||||||||||||||
Total temporarily-impaired securities |
$ | 120,176,827 | $ | 1,400,359 | $ | 137,511,900 | $ | 1,798,268 | $ | 257,688,727 | $ | 3,198,627 | ||||||||||||
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NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
At December 31, 2006: |
||||||||||||||||||||||||
U.S. government agency securities |
$ | — | $ | — | $ | 47,988,246 | $ | 835,849 | $ | 47,988,246 | $ | 835,849 | ||||||||||||
Mortgage-backed securities |
13,959,080 | 68,965 | 149,496,521 | 2,959,276 | 163,455,601 | 3,028,241 | ||||||||||||||||||
State and municipal securities |
13,975,595 | 47,071 | 35,660,379 | 625,166 | 49,635,974 | 672,237 | ||||||||||||||||||
Corporate notes |
— | — | 1,825,286 | 62,188 | 1,825,286 | 62,188 | ||||||||||||||||||
Total temporarily-impaired securities |
$ | 27,934,675 | $ | 116,036 | $ | 234,970,432 | $ | 4,482,479 | $ | 262,905,107 | $ | 4,598,515 | ||||||||||||
Management evaluates securities for other-than-temporary impairment on at least a quarterly
basis, and more frequently when economic or market concerns warrant such evaluation. Consideration
is given to (1) the length of time and the extent to which the fair value has been less than cost,
(2) the financial condition and near-term prospects of the issuer, and (3) the intent and ability
of Pinnacle Financial to retain its investment in the issue for a period of time sufficient to
allow for any anticipated recovery in fair value. Because the declines in fair value noted above
were attributable to increases in interest rates and not attributable to credit quality and because
Pinnacle Financial has the ability and intent to hold all of these investments until a market price
recovery or maturity, the impairment of these investments is not deemed to be other-than-temporary.
Note 6. Loans and Allowance for Loan Losses
The composition of loans at December 31, 2007 and 2006 is summarized as follows:
| 2007 | 2006 | |||||||
Commercial real estate — Mortgage |
$ | 728,200,839 | $ | 284,301,650 | ||||
Consumer real estate — Mortgage |
562,720,828 | 299,626,769 | ||||||
Construction and land development |
517,399,037 | 253,097,234 | ||||||
Commercial and industrial |
838,160,611 | 608,529,830 | ||||||
Consumer and other |
103,159,374 | 52,179,341 | ||||||
Total Loans |
2,749,640,689 | 1,497,734,824 | ||||||
Allowance for loan losses |
(28,470,207 | ) | (16,117,978 | ) | ||||
Loans, net |
$ | 2,721,170,482 | $ | 1,481,616,846 | ||||
Pinnacle Financial periodically analyzes its commercial loan portfolio to determine if a
concentration of credit risk exists to any one or more industries. Pinnacle Financial utilizes
broadly accepted industry classification systems in order to classify borrowers into various
industry classifications. Pinnacle Financial has a credit exposure (loans outstanding plus
unfunded lines of credit) exceeding 25% of Pinnacle National’s total risk-based capital to
borrowers in the following industries at December 31, 2007 and 2006:
| 2007 | 2006 | |||||||
Trucking industry |
$ | 109,118,000 | $ | 89,862,000 | ||||
Lessors of nonresidential buildings |
249,959,000 | 133,504,000 | ||||||
Lessors of residential buildings |
135,413,000 | 65,791,000 | ||||||
Land subdividers |
283,327,000 | 164,535,000 | ||||||
New housing operative builders |
269,744,000 | 192,373,000 | ||||||
New single family housing construction |
104,980,000 | 18,900 | ||||||
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PINNACLE FINANCIAL PARTNERS, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
Changes in the allowance for loan losses for each of the years in the three-year period ended
December 31, 2007 are as follows:
| 2007 | 2006 | 2005 | ||||||||||
Balance at beginning of period |
$ | 16,117,978 | $ | 7,857,774 | $ | 5,650,014 | ||||||
Charged-off loans |
(1,341,890 | ) | (818,467 | ) | (207,647 | ) | ||||||
Recovery of previously charged-off loans |
279,491 | 244,343 | 263,441 | |||||||||
Allowance from Mid-America acquisition
(see note 2) |
8,694,787 | — | — | |||||||||
Allowance from Cavalry acquisition (see
note 3) |
— | 5,102,296 | — | |||||||||
Provision for loan losses |
4,719,841 | 3,732,032 | 2,151,966 | |||||||||
Balance at end of period |
$ | 28,470,207 | $ | 16,117,978 | $ | 7,857,774 | ||||||
At December 31, 2007 and 2006, Pinnacle Financial had certain impaired loans on nonaccruing
interest status. The principal balance of these nonaccrual loans amounted to $19,677,000 and
$7,070,000 at December 31, 2007 and 2006, respectively. In each case, at the date such loans were
placed on nonaccrual, Pinnacle Financial reversed all previously accrued interest income against
current year earnings. Had these loans been on accruing status, interest income would have been
higher by $485,000, $283,000 and $21,000 for each of the years in the three-year period ended
December 31, 2007, respectively. For each of years in the three year period ended December 31,
2007, the average balance of nonaccrual loans was $5,747,000, $2,735,000 and $387,000,
respectively. As all loans that are deemed impaired were either on nonaccruing interest status
during the entire year or were placed on nonaccruing status on the date they were deemed impaired,
no interest income has been recognized on any impaired loans during the three year period ended
December 31, 2007. At December 31, 2007, Pinnacle Financial allocated approximately $50,000 of its
allowance for loan losses for loans considered to be impaired. At December 31, 2006, Pinnacle
Financial did not have an allowance for loans considered to be impaired.
At December 31, 2007, Pinnacle Financial had granted loans and other extensions of credit
amounting to approximately $27,653,000 to certain directors, executive officers, and their related
entities, of which $18,467,000 had been drawn upon. At December 31, 2006, Pinnacle Financial had
granted loans and other extensions of credit amounting to approximately $23,392,000 to certain
directors, executive officers, and their related entities, of which approximately $17,461,000 had
been drawn upon. During 2007, $2,493,000 of new loans were made, $2,473,000 of loans were
purchased through the Mid-America acquisition, and repayments totaled $1,487,000. During 2006,
$10,640,000 of new loans were made, $120,000 of loans were purchased through the Cavalry
acquisition, and repayments totaled $860,000. The terms on these loans and extensions are on
substantially the same terms customary for other persons for the type of loan involved. None of
these loans to certain directors, executive officers, and their related entities, were impaired at
December 31, 2007 or 2006.
During the three-year period ended December 31, 2007, Pinnacle Financial sold participations
in certain loans to correspondent banks at an interest rate that was less than that of the
borrower’s rate of interest. In accordance with U.S. generally accepted accounting principles,
Pinnacle Financial has reflected a net gain on the sale of these participated loans for each of the
years in the three year period ended December 31, 2007 of $239,000, $420,000 and $152,000,
respectively, which is attributable to the present value of the future net cash flows of the
difference between the interest payments the borrower is projected to pay Pinnacle Financial and
the amount of interest that will be owed the correspondent banks based on their participation in
the loan. At December 31, 2007, Pinnacle Financial was servicing $182.5 million of loans for
correspondent banks and other entities.
At December 31, 2007 and 2006, Pinnacle Financial had $11.3 million and $5.7 million in
mortgage loans held-for-sale. During 2007, Pinnacle Financial recognized $1.6 million in gains on
the sale of $170.0 million in mortgage loans held-for-sale.
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NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
Note 7. Premises and Equipment and Lease Commitments
Premises and equipment at December 31, 2007 and 2006 are summarized as follows:
| Range of Useful Lives | 2007 | 2006 | ||||||||||
Land |
— | $ | 15,365,882 | $ | 9,545,667 | |||||||
Buildings |
15 to 30 years | 41,255,704 | 19,849,960 | |||||||||
Leasehold improvements |
15 to 20 years | 5,087,210 | 1,954,028 | |||||||||
Furniture and equipment |
3 to 15 years | 26,910,636 | 21,350,694 | |||||||||
| 88,619,432 | 52,700,349 | |||||||||||
Accumulated depreciation |
(20,233,486 | ) | (16,414,553 | ) | ||||||||
| $ | 68,385,946 | $ | 36,285,796 | |||||||||
Depreciation and amortization expense was approximately $3,884,000, $2,702,000 and $997,000
for each of the years in the three-year period ended December 31, 2007.
Pinnacle Financial has entered into various operating leases, primarily for office space and
branch facilities. Rent expense related to these leases for 2007, 2006 and 2005 totaled
$1,346,000, $1,161,000 and $950,000, respectively. At December 31, 2007, the approximate future
minimum lease payments due under the aforementioned operating leases for their base term is as
follows:
2008 |
$ | 1,846,000 | ||
2009 |
1,878,000 | |||
2010 |
1,673,000 | |||
2011 |
1,343,000 | |||
2012 |
1,360,000 | |||
Thereafter |
10,225,651 | |||
| $ | 18,326,837 | |||
At December 31, 2007, Pinnacle Financial had $881,000 recorded as a liability for the present
value of future lease payments on a facility acquired in its merger with Mid-America that it
intends to close in 2008.
Note 8. Deposits
At December 31, 2007, the scheduled maturities of time deposits are as follows:
2008 |
$ | 1,168,105,188 | ||
2009 |
153,890,291 | |||
2010 |
31,986,218 | |||
2011 |
12,512,723 | |||
2012 |
5,688,898 | |||
| $ | 1,372,183,317 | |||
Additionally, at December 31, 2007 and 2006, approximately $1,000,302,000 and $440,136,000,
respectively, of time deposits had been issued in denominations of $100,000 or greater.
At December 31, 2007, Pinnacle Financial had $4.9 million of deposit accounts in overdraft
status and thus have been reclassified to loans on the accompanying consolidated balance sheet.
Note 9. Federal Home Loan Bank Advances and Other Borrowings
Pinnacle Financial’s banking subsidiaries are members of the Federal Home Loan Bank of
Cincinnati (“FHLB”) and as a result, are eligible for advances from the FHLB, pursuant to the terms
of various borrowing agreements, which assists the banking subsidiaries in the funding of their
home mortgage and commercial real estate loan portfolios. The banking subsidiaries have pledged
certain qualifying residential mortgage loans and, pursuant to a
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NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
blanket lien, all qualifying commercial mortgage loans with an aggregate carrying value of
$257,355,000 as collateral under the borrowing agreements with the FHLB.
At December 31, 2007 and 2006, Pinnacle Financial had received advances from the FHLB totaling
$92,804,000 and $53,726,000, respectively. At December 31, 2007, the scheduled maturities of these
advances and interest rates are as follows:
| Scheduled | ||||||||
| Maturities | Interest Rate Ranges | |||||||
2008 |
$ | 15,554,292 | 4.4% to 5.2% | |||||
2009 |
15,000,000 | 5.0% | ||||||
2010 |
13,250,485 | 4.1% to 5.0% | ||||||
2011-2020 |
48,999,356 | 2.3% to 4.4% | ||||||
| $ | 92,804,133 | |||||||
Weighted average interest rate |
4.3% | |||||||
At December 31, 2007, Pinnacle National has accommodations which allow it to purchase Federal
funds from several of its correspondent banks on an overnight basis at prevailing overnight market
rates. These accommodations are subject to various restrictions as to their term and availability,
and in most cases, must be repaid within less than a month. At December 31, 2007, the balance owed
these correspondents amounted to $48,862,000 under these arrangements. There were no outstanding
balances at December 31, 2006 under these arrangements.
At December 31, 2007, Pinnacle Financial had outstanding a $9 million obligation to a bank
secured by the outstanding common stock of Bank of the South. This obligation bears interest at
Prime Rate less 1% and is due December 13, 2008. In February of 2008, Pinnacle Financial entered
into a loan agreement related to a $25 million line of credit with a regional bank. This line of
credit will be used to support the growth of Pinnacle National and pay off the aforementioned $9
million obligation. The $25 million line of credit has a one year term, contains customary
affirmative and negative covenants regarding the operation of our and our subsidiaries’ business, a
negative pledge on the common stock of Pinnacle National and is priced at 30- day LIBOR plus 125
basis points.
At December 31, 2007, Pinnacle Financial had $34,897,000 in borrowing availability with the
FHLB and other correspondent banks with whom its subsidiary banks have arranged lines of credit.
Note 10. Investments in Affiliated Companies
On December 29, 2003, Pinnacle Financial established PNFP Statutory Trust I; on September 15,
2005 Pinnacle Financial established PNFP Statutory Trust II; on September 7, 2006 Pinnacle
Financial established PNFP Statutory Trust III; and on October 31, 2007 PNFP Statutory Trust IV was
established (“Trust I”; “Trust II”; “Trust III”; “Trust IV” or collectively, the “Trusts”). All
are wholly-owned statutory business trusts. Pinnacle Financial is the sole sponsor of the Trusts
and acquired each Trust’s common securities for $310,000; $619,000; $619,000 and $928,000,
respectively. The Trusts were created for the exclusive purpose of issuing 30-year capital trust
preferred securities (“Trust Preferred Securities”) in the aggregate amount of $10,000,000 for
Trust I; $20,000,000 for Trust II; $20,000,000 for Trust III and $30,000,000 for Trust IV and using
the proceeds to acquire junior subordinated debentures (“Subordinated Debentures”) issued by
Pinnacle Financial. The sole assets of the Trusts are the Subordinated Debentures. Pinnacle
Financial’s aggregate $2,476,000 and $1,548,000 investment in the Trusts is included in investments
in unconsolidated subsidiaries and other entities in the accompanying consolidated balance sheet at
December 31, 2007 and 2006, respectively, and the $82,476,000 and $51,548,000 obligation of
Pinnacle Financial is reflected as subordinated debt at December 31, 2007 and 2006, respectively.
The Trust I Preferred Securities bear a floating interest rate based on a spread over 3-month
LIBOR (8.49% at December 31, 2007) which is set each quarter and mature on
December 30, 2033. The Trust II Preferred Securities bear a fixed interest rate of 5.848% per
annum through September 30, 2010 at which time the securities will bear a floating rate set each
quarter based on a spread over 3-month LIBOR. The Trust II securities mature on September 30,
2035. The Trust III Preferred Securities bear a floating interest rate based on a spread over
3-month LIBOR (6.88% at December 31, 2007) which is set each quarter and mature on September 30,
2036. The Trust IV Preferred Securities bear a floating interest rate based on a spread over
3-month LIBOR (7.76% at December 31, 2007) which is set each quarter and mature on September 30,
2037.
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NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
Distributions are payable quarterly. The Trust Preferred Securities are subject to mandatory
redemption upon repayment of the Subordinated Debentures at their stated maturity date or their
earlier redemption in an amount equal to their liquidation amount plus accumulated and unpaid
distributions to the date of redemption. Pinnacle Financial guarantees the payment of
distributions and payments for redemption or liquidation of the Trust Preferred Securities to the
extent of funds held by the Trusts. Pinnacle Financial’s obligations under the Subordinated
Debentures together with the guarantee and other back-up obligations, in the aggregate, constitute
a full and unconditional guarantee by Pinnacle Financial of the obligations of the Trusts under the
Trust Preferred Securities.
The Subordinated Debentures are unsecured, bear interest at a rate equal to the rates paid by
the Trusts on the Trust Preferred Securities and mature on the same dates as those noted above for
the Trust Preferred Securities. Interest is payable quarterly. Pinnacle Financial may defer the
payment of interest at any time for a period not exceeding 20 consecutive quarters provided that
the deferral period does not extend past the stated maturity. During any such deferral period,
distributions on the Trust Preferred Securities will also be deferred and Pinnacle Financial’s
ability to pay dividends on our common shares will be restricted.
Subject to approval by the Federal Reserve Bank of Atlanta, the Trust Preferred Securities may
be redeemed prior to maturity at our option on or after September 17, 2008 for Trust I; on or after
September 30, 2010 for Trust II; September 30, 2011 for Trust III and September 30, 2012 for Trust
IV. The Trust Preferred Securities may also be redeemed at any time in whole (but not in part) in
the event of unfavorable changes in laws or regulations that result in (1) the Trust becoming
subject to federal income tax on income received on the Subordinated Debentures, (2) interest
payable by the parent company on the Subordinated Debentures becoming non-deductible for federal
tax purposes, (3) the requirement for the Trust to register under the Investment Company Act of
1940, as amended, or (4) loss of the ability to treat the Trust Preferred Securities as “Tier I
capital” under the Federal Reserve capital adequacy guidelines.
At December 31, 2007, the scheduled maturities of these Subordinated Debentures are as
follows:
| Scheduled | ||||
| Maturities | ||||
2008 |
$ | 10,310,000 | ||
2009 |
20,619,000 | |||
2010 |
51,547,000 | |||
2011-2020 |
— | |||
| $ | 82,476,000 | |||
The Trust Preferred Securities for the Trusts qualify as Tier I capital under current
regulatory definitions subject to certain limitations. Debt issuance costs associated with Trust I
of $120,000 consisting primarily of underwriting discounts and professional fees are included in
other assets in the accompanying consolidated balance sheet. These debt issuance costs are being
amortized over ten years using the straight-line method. There were no debt issuance costs
associated with Trust II; Trust III or Trust IV.
Combined summary financial information for the Trusts follows (dollars in thousands):
Combined Summary Balance Sheets
| December 31, 2007 | December 31, 2006 | |||||||
Asset — Investment in subordinated debentures issued by Pinnacle Financial |
$ | 82,476 | $ | 51,548 | ||||
Liabilities |
$ | — | $ | — | ||||
Stockholder’s equity — Trust preferred securities |
80,000 | 50,000 | ||||||
Common securities (100% owned by Pinnacle Financial) |
2,476 | 1,548 | ||||||
Total stockholder’s equity |
82,476 | 51,548 | ||||||
Total liabilities and stockholder’s equity |
$ | 82,476 | $ | 51,548 | ||||
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NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
| Combined Summary Income Statement | ||||||||||||
| Year ended December 31, | ||||||||||||
| 2007 | 2006 | 2005 | ||||||||||
Income — Interest income from
subordinated debentures issued by Pinnacle Financial |
$ | 3,965 | $ | 2,504 | $ | 986 | ||||||
Net Income |
$ | 3,965 | $ | 2,504 | $ | 986 | ||||||
| Combined Summary Statement of Stockholder’s Equity | ||||||||||||||||
| Trust | Total | |||||||||||||||
| Preferred | Common | Retained | Stockholder’s | |||||||||||||
| Securities | Stock | Earnings | Equity | |||||||||||||
Balances, December 31, 2004 |
$ | 10,000 | $ | 310 | $ | — | $ | 10,310 | ||||||||
Net income |
— | — | 986 | 986 | ||||||||||||
Issuance of trust preferred securities |
20,000 | 619 | — | 20,619 | ||||||||||||
Dividends: |
||||||||||||||||
Trust preferred securities |
— | — | (956 | ) | (956 | ) | ||||||||||
Common paid to Pinnacle Financial |
— | — | (30 | ) | (30 | ) | ||||||||||
Balances, December 31, 2005 |
$ | 30,000 | $ | 929 | $ | — | $ | 30,929 | ||||||||
Net income |
— | — | 2,504 | 2,504 | ||||||||||||
Issuance of trust preferred securities |
20,000 | 619 | — | 20,619 | ||||||||||||
Dividends: |
||||||||||||||||
Trust preferred securities |
— | — | (2,428 | ) | (2,428 | ) | ||||||||||
Common paid to Pinnacle Financial |
— | — | (76 | ) | (76 | ) | ||||||||||
Balances, December 31, 2006 |
$ | 50,000 | $ | 1,548 | $ | — | $ | 51,548 | ||||||||
Net income |
— | — | 3,965 | 3,965 | ||||||||||||
Issuance of trust preferred securities |
30,000 | 928 | — | 30,928 | ||||||||||||
Dividends: |
||||||||||||||||
Trust preferred securities |
— | — | (3,847 | ) | (3,847 | ) | ||||||||||
Common paid to Pinnacle Financial |
— | — | (118 | ) | (118 | ) | ||||||||||
Balances, December 31, 2007 |
$ | 80,000 | $ | 2,476 | $ | — | $ | 82,476 | ||||||||
Note 11. Income Taxes
FASB Interpretation 48, “Accounting for Income Tax Uncertainties” (“FIN 48”) was issued in
June 2006 and defines the threshold for recognizing the benefits of tax return positions in the
financial statements as “more-likely-than-not” to be sustained by the taxing authority. FIN 48 also
provides guidance on the derecognition, measurement and classification of income tax uncertainties,
along with any related interest and penalties and includes guidance concerning accounting for
income tax uncertainties in interim periods. Pinnacle Financial adopted the provisions of FIN 48,
on January 1, 2007, and determined there was no need to make an adjustment to retained earnings
upon adoption of this Interpretation. As of January 1, 2007, Pinnacle Financial had $700,000 of
unrecognized tax benefits related to Federal income tax matters, of which $687,000 was utilized
during 2007 as uncertainties related to the acquisition of Cavalry were resolved. The remaining
$13,000 was removed during 2007 through an adjustment to goodwill. The reversal of these
unrecognized tax benefits did not impact the Company’s effective tax rate. As of December 31, 2007,
Pinnacle Financial had no unrecognized tax benefits related to Federal or State income tax matters.
The Company does not anticipate any material increase or decrease in unrecognized tax benefits
during 2008 relative to any tax positions taken prior to December 31, 2007.
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NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
Pinnacle Financial’s unrecognized tax benefits at December 31, 2007 are summarized as
follows:
| 2007 | ||||
Balance at beginning of year |
$ | 700,000 | ||
Increases (decreases) in unrecognized tax benefits
relating to current period |
— | |||
Increases (decreases) in unrecognized tax benefits
relating to prior period |
(700,000 | ) | ||
Decreases in unrecognized tax benefits relating to
settlements with taxing authorities |
— | |||
Reductions to unrecognized tax benefits as a result of a
lapse of the applicable statue of limitations |
— | |||
Balance at end of year |
$ | — | ||
As of December 31, 2007, Pinnacle Financial has accrued no interest and no penalties related
to uncertain tax positions. It is Pinnacle Financial’s policy to recognize interest and/or
penalties related to income tax matters in income tax expense.
Pinnacle Financial and its subsidiaries file a consolidated U.S. Federal and state of
Tennessee income tax returns. Pinnacle Financial is currently open to audit under the statute of
limitations by the Internal Revenue Service for the years ended December 31, 2004 through 2007, and
the state of Tennessee for the years ended December 31, 2002 through 2007.
Income tax expense attributable to income from continuing operations for each of the years in
the three-year period ended December 31, 2007 consists of the following:
| 2007 | 2006 | 2005 | ||||||||||
Current tax expense (benefit): |
||||||||||||
Federal |
$ | 6,422,436 | $ | 9,073,193 | $ | 3,589,487 | ||||||
State |
(407,966 | ) | 547,130 | 178,630 | ||||||||
Total current tax expense (benefit) |
6,014,470 | 9,620,323 | 3,768,117 | |||||||||
Deferred tax expense (benefit): |
||||||||||||
Federal |
3,318,644 | (971,418 | ) | (479,072 | ) | |||||||
State |
659,064 | (192,918 | ) | (96,683 | ) | |||||||
Total deferred tax expense
(benefit) |
3,977,708 | (1,164,336 | ) | (575,755 | ) | |||||||
| $ | 9,992,178 | $ | 8,455,987 | $ | 3,192,362 | |||||||
Pinnacle Financial’s income tax expense differs from the amounts computed by applying the
Federal income tax statutory rates of 35% in 2007 and 2006 and 34% in 2005 to income before income
taxes. A reconciliation of the differences for each of the years in the three-year period ended
December 31, 2007 is as follows:
| 2007 | 2006 | 2005 | ||||||||||
Income taxes at statutory rate |
$ | 11,561,737 | $ | 9,234,057 | $ | 3,824,194 | ||||||
State tax expense, net of
federal tax effect |
163,214 | 230,238 | 54,085 | |||||||||
Federal tax credits |
(360,000 | ) | (300,000 | ) | (300,000 | ) | ||||||
Tax-exempt securities |
(889,716 | ) | (602,100 | ) | (339,900 | ) | ||||||
Insurance premiums |
(304,807 | ) | (91,049 | ) | — | |||||||
Other items |
(178,250 | ) | (15,159 | ) | (46,017 | ) | ||||||
Income tax expense |
$ | 9,992,178 | $ | 8,455,987 | $ | 3,192,362 | ||||||
The effective tax rate for all years is impacted by Federal tax credits related to the New
Markets Tax Credit program whereby a subsidiary of Pinnacle National has been awarded approximately
$2.3 million in future Federal tax credits which are available through 2010. Tax benefits related
to these credits will be recognized for financial
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NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
reporting purposes in the same periods that the credits are recognized in the Company’s income
tax returns. The credit that is available for each of the years in the three year period ended
December 31, 2007 was $360,000 in 2007 and $300,000 in 2006 and 2005. Pinnacle Financial believes
that it and its subsidiary have complied with the various regulatory provisions of the New Markets
Tax Credit program in each of these years. Also, during 2004, Pinnacle National formed a real
estate investment trust which provides Pinnacle Financial with an alternative vehicle for raising
capital. Additionally, the ownership structure of this real estate investment trust provides
certain state income tax benefits to Pinnacle National and Pinnacle Financial.
The components of deferred income taxes included in other assets in the accompanying
consolidated balance sheets at December 31, 2007 and 2006 are as follows:
| 2007 | 2006 | |||||||
Deferred tax assets: |
||||||||
Loan loss allowance |
$ | 11,104,038 | $ | 6,654,334 | ||||
Loans |
1,398,865 | 1,337,983 | ||||||
Securities |
485,398 | 1,251,636 | ||||||
Accrued liability for supplemental retirement agreements |
433,049 | 1,535,688 | ||||||
Deposits |
1,156,680 | 585,568 | ||||||
Restricted stock and stock options |
559,888 | 316,407 | ||||||
FHLB discount |
346,402 | — | ||||||
Mid-America organization costs |
298,169 | — | ||||||
Net operating loss carryforward |
1,662,445 | — | ||||||
Other deferred tax assets |
546,491 | 23,889 | ||||||
Total deferred tax assets |
17,991,425 | 11,705,505 | ||||||
Deferred tax liabilities: |
||||||||
Depreciation and amortization |
5,620,575 | 1,563,078 | ||||||
Core deposit intangible asset |
6,803,830 | 4,473,076 | ||||||
REIT dividends |
266,981 | — | ||||||
FHLB dividends |
853,829 | 770,156 | ||||||
Other deferred tax liabilities |
838,845 | 440,642 | ||||||
Total deferred tax liabilities |
14,384,060 | 7,246,952 | ||||||
Net deferred tax assets |
$ | 3,607,365 | $ | 4,458,553 | ||||
At December 31, 2007, Pinnacle Financial had approximately $4.3 million in
Federal net operating loss carryforwards that will begin expiring in 2021 if not used. In assessing the realizability of deferred tax assets, management considers whether it is more
likely than not that some portion or all of the deferred tax assets will not be realized. The
ultimate realization of deferred tax assets is dependent upon the generation of future taxable
income during the periods in which those temporary differences become deductible. Management
considers the scheduled reversal of deferred tax liabilities, projected future taxable income, and
tax planning strategies in making this assessment. Based upon the level of historical taxable
income and projections for future taxable income over the periods in which the deferred tax assets
are deductible, management believes it is more likely than not that Pinnacle Financial will realize
the benefit of these deductible differences. However, the amount of the deferred tax asset
considered realizable could be reduced in the near term if estimates of future taxable income
during the carryforward period are reduced.
Note 12. Commitments and Contingent Liabilities
In the normal course of business, Pinnacle Financial has entered into off-balance sheet
financial instruments which include commitments to extend credit (i.e., including unfunded lines of
credit) and standby letters of credit. Commitments to extend credit are usually the result of lines
of credit granted to existing borrowers under agreements that the total outstanding indebtedness
will not exceed a specific amount during the term of the indebtedness. Typical borrowers are
commercial concerns that use lines of credit to supplement their treasury management functions,
thus their total outstanding indebtedness may fluctuate during any time period based on the
seasonality of their business and the resultant timing of their cash flows. Other typical lines of
credit are related to home equity loans granted to consumers. Commitments to extend credit
generally have fixed expiration dates or other termination clauses and may require payment of a
fee.
Standby letters of credit are generally issued on behalf of an applicant (our customer) to a
specifically named beneficiary and are the result of a particular business arrangement that exists
between the applicant and the beneficiary. Standby letters of credit have fixed expiration dates
and are usually for terms of two years or less
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NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
unless terminated beforehand due to criteria specified in the standby letter of credit. A
typical arrangement involves the applicant routinely being indebted to the beneficiary for such
items as inventory purchases, insurance, utilities, lease guarantees or other third party
commercial transactions. The standby letter of credit would permit the beneficiary to obtain
payment from Pinnacle Financial under certain prescribed circumstances. Subsequently, Pinnacle
Financial would then seek reimbursement from the applicant pursuant to the terms of the standby
letter of credit.
Pinnacle Financial follows the same credit policies and underwriting practices when making
these commitments as it does for on-balance sheet instruments. Each customer’s creditworthiness is
evaluated on a case-by-case basis and the amount of collateral obtained, if any, is based on
management’s credit evaluation of the customer. Collateral held varies but may include cash, real
estate and improvements, marketable securities, accounts receivable, inventory, equipment, and
personal property.
The contractual amounts of these commitments are not reflected in the consolidated financial
statements and would only be reflected if drawn upon. Since many of the commitments are expected
to expire without being drawn upon, the contractual amounts do not necessarily represent future
cash requirements. However, should the commitments be drawn upon and should our customers default
on their resulting obligation to us, Pinnacle Financial’s maximum exposure to credit loss, without
consideration of collateral, is represented by the contractual amount of those instruments.
A summary of Pinnacle Financial’s total contractual amount for all off-balance sheet
commitments at December 31, 2007 is as follows:
Commitments to extend credit |
$ | 833,893,000 | ||
Standby letters of credit |
98,305,000 |
At December 31, 2007, the fair value of Pinnacle Financial’s standby letters of credit was
$234,000. This amount represents the unamortized fee associated with these standby letters of
credit and is included in the consolidated balance sheet of Pinnacle Financial. This fair value
will decrease over time as the existing standby letters of credit approach their expiration dates.
Various legal claims also arise from time to time in the normal course of business. In the
opinion of management, the resolution of claims outstanding at December 31, 2007 will not have a
material effect on Pinnacle Financial’s consolidated financial statements.
Note 13. Common Stock Warrants
Three executives of Pinnacle Financial (the Chairman of the Board, the President and Chief
Executive Officer and the Chief Administrative Officer) along with nine members of Pinnacle
Financial’s Board of Directors and two other organizers of Pinnacle Financial were awarded warrants
to acquire 406,000 shares of common stock at $5.00 per share. During 2006, 11,000 warrants were
exercised and, as a result, 395,000 unexercised warrants were outstanding and exercisable at
December 31, 2007 and 2006. The outstanding warrants expire August 17, 2010.
Note 14. Salary Deferral Plans and Cavalry Supplemental Executive Retirement Agreements
Pinnacle Financial has 401(k) retirement plans (the “401k Plans) covering all employees who
elect to participate, subject to certain eligibility requirements. The Plans allow employees to
defer up to 15% of their salary subject to regulatory limitations with Pinnacle Financial matching
100% of the first 4% in Pinnacle Financial stock during 2007 and 2006. In 2005, the match was
calculated at 50% of the first 6% deferred in Pinnacle Financial stock. Subsequent to the merger
with Cavalry, from March 15, 2006 through December 29, 2006, certain employees participated in the
Cavalry Bancorp 401(k) plan. On December 29, 2006, the Cavalry Bancorp 401(k) plan was merged into
the Pinnacle Financial 401(k) plan. Subsequent to the merger with Mid-America, from November 30,
2007 through December 31, 2007, certain employees participated in the Bank of the South 401(k) Plan
and the PrimeTrust 401(k) Plan. The Bank of the South 401(k) Plan and the PrimeTrust 401(k) were
merged into the Pinnacle Financial 401(k) plan on January 1, 2008. Pinnacle Financial’s expense
associated with the matching component of the plan(s) for each of the years in the three-year
period ended December 31, 2007 was approximately
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NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
$996,000, $762,000 and $259,000, respectively, and is included in the accompanying
consolidated statements of income in salaries and employee benefits expense.
Prior to the merger with Pinnacle Financial, Cavalry maintained an employee stock ownership
plan for the benefit of certain employees (the “Cavalry ESOP”). The Cavalry ESOP is a
noncontributory retirement plan adopted by Cavalry in 1998 for the benefit of certain employees who
meet minimum eligibility requirements. Cavalry Bancorp, Inc. was the Plan Sponsor and with the
merger with Pinnacle Financial, Pinnacle Financial became the Plan Sponsor on March 15, 2006. On
March 15, 2006, the Cavalry ESOP owned approximately 683,000 common shares of Pinnacle Financial.
The Cavalry ESOP had no liabilities as of March 15, 2006, thus all of the Pinnacle Financial shares
owned by the Cavalry ESOP were available for distribution to the participants in the Cavalry ESOP
pursuant to the terms of the plan. The terms of the Cavalry ESOP did not change as a result of the
merger with Pinnacle Financial.
Pursuant to the terms of the Cavalry ESOP, participation in the plan has been frozen as of
March 15, 2006 and all participants in the plan were fully vested prior to the merger date. All
assets of the plan were allocated to the participants pursuant to the plan’s provisions. Thus,
Pinnacle Financial is not required to make future contributions to the Cavalry ESOP. Distributions
to participants are only made upon the termination from employment from Pinnacle Financial or the
participant’s death, at which time, distributions will be made to the participant’s beneficiaries.
Pinnacle National serves as the Trustee of the Cavalry ESOP. During 2007 and 2006, Pinnacle
National assessed the Cavalry ESOP no fees as Trustee. Additionally, Pinnacle National incurred
administrative expenses of $27,000 and $15,000, respectively, primarily auditing and consulting
expenses, to maintain the plan.
Prior to the merger with Pinnacle Financial, Cavalry had adopted nonqualified noncontributory
supplemental retirement agreements (the “Cavalry SRAs”) for certain of the directors and executive
officers of Cavalry. Cavalry invested in and, as a result of the Cavalry merger, Pinnacle
Financial is the owner of single premium life insurance policies on the life of each participant
and is the beneficiary of the policy value. When a participant retires, the accumulated gains on
the policy allocated to such participant, if any, will be distributed to the participant in equal
installments for 15 years (the “Primary Benefit”). In addition, any annual gains after the
retirement date of the participant will be distributed on an annual basis for the lifetime of the
participant (the “Secondary Benefit”). As a result of the merger with Pinnacle Financial, all
participants became fully vested in the Cavalry SRAs. No new participants have been added to the
Cavalry SRAs as a result of the merger with Pinnacle Financial.
The Cavalry SRAs also provides the participants with death benefits, which is a percentage of
the net death proceeds for the policy, if any, applicable to the participant. The death benefits
are not taxable to Pinnacle Financial or the participant’s beneficiary.
Pinnacle Financial recognized approximately $163,000 in compensation expense in each of the
years ended December 31, 2007 and 2006 related to the Cavalry SRAs. During 2007, compensation
expense related to the Cavalry SRAs was reduced by $330,000 due to Pinnacle Financial offering a
settlement to all participants in the Cavalry SRAs with eleven participants accepting the
settlement. Two individuals remain as participants in the Cavalry SRAs. Additionally, Pinnacle
Financial incurred approximately $6,000 and $5,000 in administrative expenses to maintain the
Cavalry SRA during the years ended December 31, 2007 and 2006, respectively. At December 31, 2007
and 2006, included in other liabilities is $1,104,000 and $3,915,000, respectively, which
represents the net present value of the future obligations owed the participants in the Cavalry
SRAs using a discount rate of 5.0% at December 31, 2007 and 5.5% at December 31, 2006.
Note 15. Stock Options, Stock Appreciation Rights and Restricted Shares
Pinnacle Financial has two equity incentive plans under which it has granted stock options to
its employees to purchase common stock at or above the fair market value on the date of grant and
granted restricted share awards to employees and directors. At December 31, 2007, there were
728,661 shares available for issue under these plans.
During the first quarter of 2006 and in connection with its merger with Cavalry, Pinnacle
Financial assumed a third equity incentive plan, the 1999 Cavalry Bancorp, Inc. Stock Option Plan
(the “Cavalry Plan”). All options granted under the Cavalry Plan were fully vested prior to
Pinnacle Financial’s merger with Cavalry and expire at various dates between January 2011 and June
2012. In connection with the merger, all options to acquire Cavalry common stock were converted to
options to acquire Pinnacle Financial common stock at the 0.95 exchange ratio.
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NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
The exercise price of the outstanding options under the Cavalry Plan was adjusted using the
same exchange ratio. All other terms of the Cavalry options were unchanged. There were 195,551
Pinnacle shares which could be acquired by the participants in the Cavalry Plan at exercise prices
that ranged between $10.26 per share and $13.68 per share.
On November 30, 2007 and in connection with its merger with Mid-America, Pinnacle Financial
assumed several equity incentive plans, including the Mid-America Bancshares, Inc. 2006 Omnibus
Equity Incentive Plan (the “Mid-America Plans”). All options and stock appreciation rights granted
under the Mid-America Plans were fully vested prior to Pinnacle Financial’s merger with Mid-America
and expire at various dates between June 2011 and July 2017. In connection with the merger, all
options and stock appreciation rights to acquire Mid-America common stock were converted to options
or stock appreciation rights, as applicable, to acquire Pinnacle Financial common stock at the
0.4655 exchange ratio. The exercise price of the outstanding options and stock appreciation rights
under the Mid-America Plans were adjusted using the same exchange ratio with the exercise price
also being reduced by $1.50 per share. All other terms of the Mid-America options and stock
appreciation rights were unchanged. There were 487,835 Pinnacle shares which could be acquired by
the participants in the Mid-America Plan at exercise prices that ranged between $6.63 per share and
$21.37 per share. At December 31, 2007, there were 88,435 shares available for issue under the
Mid-America Plans.
Common Stock Options and Stock Appreciation Rights
As of December 31, 2007, of the 2,384,000 stock options and 15,000 stock appreciation rights
outstanding, 1,426,000 options were granted with the intention to be incentive stock options
qualifying under Section 422 of the Internal Revenue Code for favorable tax treatment to the option
holder while 973,000 options would be deemed non-qualified stock options or stock appreciation
rights and thus not subject to favorable tax treatment to the option holder. All stock options
granted under the Pinnacle equity incentive plans vest in equal increments over five years from the
date of grant and are exercisable over a period of ten years from the date of grant. All stock
options and stock appreciation rights granted under the Cavalry Plan and Mid-America Plans were
fully-vested at the date of those mergers.
A summary of the activity within the equity incentive plans during each of the years in the
three year period ended December 31, 2007 and information regarding expected vesting, contractual
terms remaining, intrinsic values and other matters was as follows:
| Weighted- | |||||||||||||||||
| Weighted- | Average | Aggregate | |||||||||||||||
| Average | Contractual | Intrinsic | |||||||||||||||
| Exercise | Remaining Term | Value (1) | |||||||||||||||
| Number | Price | (in years) | (000’s) | ||||||||||||||
Outstanding at December 31, 2004 |
1,068,350 | $ | 7.03 | ||||||||||||||
Granted |
209,482 | 23.74 | |||||||||||||||
Exercised |
(20,953 | ) | 5.93 | ||||||||||||||
Forfeited |
(14,486 | ) | 14.93 | ||||||||||||||
Outstanding at December 31, 2005 |
1,242,393 | $ | 9.78 | ||||||||||||||
Additional stock option
grants resulting from
assumption of the Cavalry
Plan |
195,551 | 10.80 | |||||||||||||||
Granted |
365,519 | 24.00 | |||||||||||||||
Exercised |
(130,168 | ) | 9.69 | ||||||||||||||
Forfeited |
(14,836 | ) | 15.45 | ||||||||||||||
Outstanding at December 31, 2006 |
1,658,459 | $ | 12.93 | ||||||||||||||
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NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
| Weighted- | |||||||||||||||||
| Weighted- | Average | Aggregate | |||||||||||||||
| Average | Contractual | Intrinsic | |||||||||||||||
| Exercise | Remaining Term | Value (1) | |||||||||||||||
| Number | Price | (in years) | (000’s) | ||||||||||||||
Additional stock option grants
and stock appreciation rights
resulting from assumption of
the Mid-America Plan |
487,835 | 14.54 | |||||||||||||||
Granted |
376,543 | 30.66 | |||||||||||||||
Stock options exercised |
(99,741 | ) | 8.68 | ||||||||||||||
Stock appreciation rights exercised(2) |
(465 | ) | 21.37 | ||||||||||||||
Forfeited |
(23,808 | ) | 28.00 | ||||||||||||||
Outstanding at December 31, 2007 |
2,398,823 | $ | 16.84 | 6.9 | $ | 23,784 | |||||||||||
Outstanding and expected to vest at
December 31, 2007 |
2,357,000 | $ | 16.67 | 6.9 | $ | 23,692 | |||||||||||
Options exercisable at December 31,
2007 |
1,533,986 | $ | 11.06 | 6.2 | $ | 20,876 | |||||||||||
| (1) | The aggregate intrinsic value is calculated as the difference between the exercise price of the underlying awards and the quoted price of Pinnacle Financial common stock of $25.42 per common share for the 2.1 million options and stock appreciation rights that were in-the-money at December 31, 2007. | |
| (2) | The 465 stock appreciation rights exercised during 2007 settled for 121 shares of Pinnacle Financial common stock. |
During the year ended December 31, 2007, 213,000 option awards vested at an average exercise
price of $17.77 and an intrinsic value of approximately $1.628 million. On January 18, 2008,
Pinnacle Financial granted options to purchase 163,000 common shares to certain employees at an
exercise price of $21.51 per share. These options, which were issued as non-qualified stock
options, will vest in varying increments over five years beginning one year after the date of the
grant and are exercisable over a period of ten years from the date of grant. Pursuant to SAB 110,
“Share-Based Payment,” Pinnacle Financial will continue to use the simplified method for estimating
the expense of stock compensation during 2008.
During each of the years in the three year period ended December 31, 2007, the aggregate
intrinsic value of options and stock appreciation rights exercised under our equity incentive plans
was $2,067,000, $1,694,000 and $354,000, respectively, determined as of the date of option
exercise. As of December 31, 2007, there was approximately $6.546 million of total unrecognized
compensation cost related to unvested stock options granted under our equity incentive plans. That
cost is expected to be recognized over a weighted-average period of 3.8 years.
Pinnacle Financial adopted SFAS No. 123(R) using the modified prospective transition method on
January 1, 2006. Accordingly, during the years ended December 31, 2007 and 2006, we recorded
stock-based compensation expense using the Black-Scholes valuation model for awards granted prior
to, but not yet vested, as of January 1, 2006 and for stock-based awards granted after January 1,
2006, based on fair value estimated using the Black-Scholes valuation model. For these awards, we
have recognized compensation expense using a straight-line amortization method. As SFAS No. 123(R)
requires that stock-based compensation expense be based on awards that are ultimately expected to
vest, stock-based compensation for the years ended December 31, 2007 and 2006 has been reduced for
estimated forfeitures. The impact on our results of operations (compensation and employee benefits
expense) and earnings per share of recording stock-based compensation in accordance with SFAS No.
123(R) (related to stock option awards) for the years ended December 31, 2007 and 2006 was as
follows:
| Awards granted with | ||||||||||||
| the intention to be | ||||||||||||
| classified | ||||||||||||
| as incentive stock | Non-qualified stock | |||||||||||
| options | option awards | Totals | ||||||||||
For the year ended December 31,2007: |
||||||||||||
Stock-based compensation expense |
$ | 481,009 | $ | 1,222,432 | $ | 1,703,441 | ||||||
Deferred income tax benefit |
— | 479,560 | 479,560 | |||||||||
Impact of stock-based compensation expense after
deferred income tax benefit |
$ | 481,009 | $ | 742,872 | $ | 1,223,881 | ||||||
Impact on earnings per share: |
||||||||||||
Basic —weighted average shares outstanding |
$ | 0.03 | $ | 0.05 | $ | 0.08 | ||||||
Fully diluted — weighted average shares outstanding |
$ | 0.03 | $ | 0.04 | $ | 0.07 | ||||||
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| Awards granted | ||||||||||||
| with | ||||||||||||
| the intention to be | ||||||||||||
| classified | ||||||||||||
| as incentive stock | Non-qualified stock | |||||||||||
| options | option awards | Totals | ||||||||||
For the year ended December 31,2006: |
||||||||||||
Stock-based compensation expense |
$ | 586,924 | $ | 423,034 | $ | 1,009,958 | ||||||
Deferred income tax benefit |
— | 165,956 | 165,956 | |||||||||
Impact of stock-based compensation expense after
deferred income tax benefit |
$ | 586,924 | $ | 257,078 | $ | 844,002 | ||||||
Impact on earnings per share: |
||||||||||||
Basic —weighted average shares outstanding |
$ | 0.04 | $ | 0.02 | $ | 0.06 | ||||||
Fully diluted — weighted average shares outstanding |
$ | 0.04 | $ | 0.02 | $ | 0.06 | ||||||
For purposes of these calculations, the fair value of options granted for each of the years in
the three-year period ended December 31, 2007 was estimated using the Black-Scholes option pricing
model and the following assumptions:
| 2007 | 2006 | 2005 | ||||||||||
Risk free interest rate |
4.70 | % | 4.65 | % | 2.57 | % | ||||||
Expected life of options |
6.50 years | 6.50 years | 6.50 years | |||||||||
Expected dividend yield |
0.00 | % | 0.00 | % | 0.00 | % | ||||||
Expected volatility |
21.1 | % | 23.1 | % | 24.1 | % | ||||||
Weighted average fair value |
$ | 10.57 | $ | 10.44 | $ | 7.30 | ||||||
Pinnacle Financial’s computation of expected volatility is based on weekly historical
volatility since September of 2002. Pinnacle Financial used the simplified method in determining
the estimated life of stock option issuances. The risk free interest rate of the award is based on
the closing market bid for U.S. Treasury securities corresponding to the expected life of the stock
option issuances in effect at the time of grant.
Restricted Shares
Additionally, Pinnacle Financial’s 2004 Equity Incentive Plan provides for the granting of
restricted share awards and other performance or market-based awards, such as stock appreciation
rights. There were no market-based awards or stock appreciation rights outstanding as of December
31, 2007 under the 2004 Equity Incentive Plan. During the three-year period ended December 31,
2007, Pinnacle Financial awarded 39,071 shares, 18,057 shares and 16,366 shares, respectively, of
restricted common stock to certain Pinnacle Financial associates. The weighted average fair value
of these awards as of the date of grant was $29.01, $34.96 and $24.98 per share, respectively. For
25,296 of the restricted shares awarded in 2007, the forfeiture restrictions lapse in three
separate traunches should Pinnacle Financial achieve certain earnings and soundness targets over
the subsequent three-year period, excluding the impact of any merger related expenses in 2006 and
thereafter. For the remaining 13,775 restricted shares awarded, the forfeiture restrictions lapse
in five traunches on the anniversary date of the grant. Compensation expense associated with the
restricted share awards is recognized over the time period that the restrictions associated with
the awards lapse based on a graded vesting schedule such that each traunche is amortized
separately. Earnings and soundness targets for the 2006 and 2005 fiscal years were achieved and
the restrictions related to 12,753 and 6,734 shares, respectively, were released. Earnings and
soundness targets for the 2007 fiscal year for the 2005 awards was achieved and 5,452 shares were
released. However, the earnings targets for the 2007 fiscal year for the 2006 and 2007 awards were
not achieved. As a result, 14,442 shares that were scheduled to be released were not released.
These shares have not been forfeited pending determination of the three year cumulative earnings
targets which will be determined at the end of the 2008 and 2009 fiscal years. For each year in
the three-year period ended December 31, 2007, Pinnacle Financial recognized approximately
$303,000, $360,000 and $245,000, respectively, in compensation costs attributable to these awards.
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NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
During 2007 and 2006, the Board of Directors of Pinnacle Financial awarded 3,230 and 4,400
shares, respectively, of restricted common stock to the outside members of the board in accordance
with their board compensation plan. Each board member received an award of 323 and 400 shares in 2007 and
2006, respectively. The restrictions on these shares lapsed on the one year anniversary date of
the award based on each individual board member meeting their attendance goals for the various
board and board committee meetings to which each member was scheduled to attend during the fiscal
year ended December 31, 2007 and 2006. All board members who had been granted these restricted
shares met their attendance goals with the exception of one outside board member who resigned his
board seat and forfeited his restricted share award during 2006. The weighted average fair value
of all restricted share awards granted to our directors as of the date of grant was $30.99 per
share in 2007 and $26.14 per share in 2006. For the years ended December 31, 2007 and 2006,
Pinnacle Financial recognized approximately $100,000 and $105,000, respectively, in compensation
costs attributable to these awards.
A summary of activity for restricted share awards for the year ended December 31, 2007 and
2006 follows:
| Executive Management Awards | Board of Director Awards | |||||||||||||||||||||||
| (number of share awards) | Vested | Unvested | Totals | Vested | Unvested | Totals | ||||||||||||||||||
Balances at December
31, 2005 |
8,016 | 12,196 | 20,212 | — | — | — | ||||||||||||||||||
Granted |
— | 18,057 | 18,057 | — | 4,400 | 4,400 | ||||||||||||||||||
Forfeited |
— | — | — | — | (400 | ) | (400 | ) | ||||||||||||||||
Vested |
12,753 | (12,753 | ) | — | — | — | — | |||||||||||||||||
Balances at December
31, 2006 |
20,769 | 17,500 | 38,269 | — | 4,000 | 4,000 | ||||||||||||||||||
Granted |
— | 39,071 | 39,071 | — | 3,230 | 3,230 | ||||||||||||||||||
Vested |
5,452 | (5,452 | ) | — | 4,000 | (4,000 | ) | — | ||||||||||||||||
Balances at December
31, 2007 |
26,221 | 51,119 | 77,340 | 4,000 | 3,230 | 7,230 | ||||||||||||||||||
A summary of compensation expense, net of the impact of income taxes, related to restricted
stock awards for the three-year period ended December 31, 2007, follows:
| 2007 | 2006 | 2005 | ||||||||||
Stock-based compensation expense |
$ | 396,378 | $ | 465,003 | $ | 244,724 | ||||||
Income tax benefit |
155,499 | 182,421 | 93,705 | |||||||||
Impact of stock-based compensation expense, net of
income tax benefit |
$ | 240,879 | $ | 282,582 | $ | 151,019 | ||||||
Impact on earnings per share: |
||||||||||||
Basic —weighted average shares outstanding |
$ | 0.01 | $ | 0.02 | $ | 0.02 | ||||||
Fully diluted — weighted average shares outstanding |
$ | 0.01 | $ | 0.02 | $ | 0.02 | ||||||
Prior to January 1, 2006, Pinnacle Financial applied APB Opinion No. 25 and related
interpretations in accounting for its stock option plans. All option grants carry exercise prices
equal to or above the fair value of the common stock on the date of grant. Accordingly, no
compensation cost had been recognized for such periods. Had compensation cost for Pinnacle
Financial’s equity incentive plans been determined based on the fair value at the grant dates for
awards under the plans consistent with the method prescribed in SFAS No. 123(R), Pinnacle
Financial’s net income and net income per share would have been adjusted to the pro forma amounts
indicated below for the year ended December 31, 2005:
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NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
| 2005 | ||||||||
Net income, as reported |
$ | 8,055,268 | ||||||
| Add: Compensation expense recognized in the accompanying consolidated statement of income, net of related tax effects | 167,981 | |||||||
| Deduct: Total stock-based compensation expense determined under the fair value based method for all awards, net of related tax effects | (859,350 | ) | ||||||
Pro forma net income |
$ | 7,363,899 | ||||||
Per share information: |
||||||||
Basic net income |
As reported | $ | 0.96 | |||||
| Pro forma | 0.88 | |||||||
Diluted net income |
As reported | $ | 0.85 | |||||
| Pro forma | 0.78 | |||||||
Note 16. Derivative Instruments
Financial derivatives are reported at fair value in other assets or other liabilities. The
accounting for changes in the fair value of a derivative depends on whether it has been designated
and qualifies as part of a hedging relationship. For derivatives not designated as hedges, the
gain or loss is recognized in current earnings. Beginning in 2007, Pinnacle Financial entered into
interest rate swaps (“swaps”) to facilitate customer transactions and meet their financing needs.
Upon entering into these instruments to meet customer needs, Pinnacle Financial enters into
offsetting positions in order to minimize the risk to Pinnacle Financial. These swaps qualify as
derivatives, but are not designated as hedging instruments.
Interest rate swap contracts involve the risk of dealing with counterparties and their ability to
meet contractual terms. When the fair value of a derivative instrument contract is positive, this
generally indicates that the counter party or customer owes the Company, and results in credit risk
to the Company. When the fair value of a derivative instrument contract is negative, the Company
owes the customer or counterparty and therefore, has no credit risk.
A summary of Pinnacle Financial’s interest rate swaps is included in the following table (in
thousands):
| December 31, 2007 | ||||||||
| Notional Amount | Estimated Fair Value | |||||||
Interest rate swap agreements: |
||||||||
Pay fixed / receive variable swaps |
$ | 25,415 | $ | 504 | ||||
Pay variable / receive fixed swaps |
25,415 | (504 | ) | |||||
Total |
$ | 50,830 | $ | — | ||||
Note 17. Employment Contracts
Pinnacle Financial has entered into, and subsequently amended, four continuously
automatic-renewing three-year employment agreements with four of its senior executives, the
President and Chief Executive Officer, the Chairman of the Board, the Chief Administrative Officer
and the Chief Financial Officer. These agreements, as amended, will always have a three-year term
unless any of the parties to the agreements gives notice of intent not to renew the agreement. The
agreements specify that in certain defined “Terminating Events,” Pinnacle Financial will be
obligated to pay each of the four senior executives a certain amount which is based on their annual
salaries and bonuses. These Terminating Events include disability, change of control and other
events.
In 2006, Pinnacle Financial entered into an employment agreement with one of its directors who
served as the former Chief Executive Officer of Cavalry. This agreement had a term that expired on
December 31, 2007.
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NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
Pursuant to the employment agreement the director has agreed to a noncompetition and
nonsolicitation clause for a period of three years following December 31, 2007.
Pinnacle Financial has business protection agreements with three former executive officers and
directors of Mid-America. Under the terms of these agreements, the former executive officer and
directors have agreed that they will not actively participate or engage directly or indirectly in a
competing business within the Nashville MSA and the counties contiguous to the Nashville MSA until
the earlier of (1) voluntary retirement after reaching age 65; (2) any transaction whereby Pinnacle
Financial is acquired; or (3) August 31, 2011. In exchange for this agreement, each executive is
entitled to receive their future monthly salary while employed or $10,000 per month after their
employment until the occurrence of one of the terminating events.
Note 18. Related Party Transactions
A local public relations company, of which one of Pinnacle Financial’s directors is a
principal, provides various services for Pinnacle Financial. For each of the years in the three
year period ended December 31, 2007, Pinnacle Financial incurred approximately $309,000, $195,000
and $187,000, respectively, in expense for services rendered by this public relations company.
Another director is an officer in an insurance firm that serves as an agent in securing insurance
in such areas as Pinnacle Financial’s property and casualty insurance and other insurance policies.
During 2004, Pinnacle Financial’s wholly-owned subsidiary, Pinnacle Credit Enhancement
Holdings, Inc. (“PCEH”), acquired a 24.5% membership interest in Collateral Plus, LLC. Collateral
Plus, LLC serves as an intermediary between investors and borrowers in certain financial
transactions whereby the borrowers require enhanced collateral in the form of guarantees or letters
of credit issued by the investors for the benefit of banks and other financial institutions. An
employee of Pinnacle National also owns a 24.5% interest in Collateral Plus, LLC. PCEH’s 24.5%
ownership of Collateral Plus, LLC resulted in pre-tax earnings of $274,000 in 2007, $120,000 in
2005 and $216,000 in 2004.
Also see “Note 6-Loans and Allowance for Loan Losses” concerning loans and other extensions of
credit to certain directors, officers, and their related entities.
Note 19. Fair Value of Financial Instruments
The following methods and assumptions were used by Pinnacle Financial in estimating its fair
value disclosures for financial instruments. In cases where quoted market prices are not available,
fair values are based on estimates using discounted cash flow models. Those models are
significantly affected by the assumptions used, including the discount rates and estimates of
future cash flows. In that regard, the derived fair value estimates cannot be substantiated by
comparison to independent markets and, in many cases, could not be realized in immediate settlement
of the instrument. The use of different methodologies may have a material effect on the estimated
fair value amounts. The fair value estimates presented herein are based on pertinent information
available to management as of December 31, 2007 and 2006. Such amounts have not been revalued for
purposes of these consolidated financial statements since those dates and, therefore, current
estimates of fair value may differ significantly from the amounts presented herein.
Cash, Due From Banks and Fed Funds Sold - The carrying amounts of cash, due from banks, and
federal funds sold approximate their fair value.
Securities — Estimated fair values for securities available for sale and securities held to
maturity are based on quoted market prices where available. If quoted market prices are
not available, estimated fair values are based on quoted market prices of comparable
instruments.
Loans — For variable-rate loans that reprice frequently and have no significant change in
credit risk, fair values are equal to carrying values. For fixed rate loans that reprice
within one year, fair values are equal to carrying values. For other loans, fair values
are estimated using discounted cash flow models, using current market interest rates
offered for loans with similar terms to borrowers of similar credit quality. Fair values
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NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
for impaired loans are estimated using discounted cash flow models or based on the fair
value of the underlying collateral.
Deposits, Securities Sold Under Agreements to Repurchase, Advances from the Federal Home Loan
Bank and Subordinated Debt - The carrying amounts of demand deposits, savings deposits,
securities sold under agreements to repurchase, floating rate advances from the Federal
Home Loan Bank and floating rate subordinated debt approximate their fair values. Fair
values for certificates of deposit, fixed rate advances from the Federal Home Loan Bank and
fixed rate subordinated debt are estimated using discounted cash flow models, using current
market interest rates offered on certificates, advances and other borrowings with similar
remaining maturities. For fixed rate subordinated debt, the maturity is assumed to be as
of the earliest date that the indebtedness will be repriced.
Federal Funds Purchased - The carrying amounts of federal funds purchased approximate their fair
value.
Financial derivatives - The carrying amounts of financial derivatives approximate their fair
value.
Off-Balance Sheet Instruments - The fair values of Pinnacle Financial’s off-balance-sheet
financial instruments are based on fees charged to enter into similar agreements. However,
commitments to extend credit and standby letters of credit do not represent a significant
value to Pinnacle Financial until such commitments are funded. Pinnacle Financial has
determined that the fair value of commitments to extend credit is not significant.
The carrying amounts and estimated fair values of Pinnacle Financial’s financial instruments
at December 31, 2007 and 2006 were as follows (in thousands):
| December 31, 2007 | December 31, 2006 | |||||||||||||||
| Estimated | Estimated Fair | |||||||||||||||
| Carrying Amount | Fair Value | Carrying Amount | Value | |||||||||||||
Financial assets: |
||||||||||||||||
Cash, due from banks, and
Federal funds sold |
$ | 122,504 | $ | 122,504 | $ | 92,519 | $ | 92,519 | ||||||||
Securities available-for-sale |
495,652 | 495,652 | 319,237 | 319,237 | ||||||||||||
Securities held-to-maturity |
27,033 | 26,883 | 27,257 | 26,594 | ||||||||||||
Mortgage loans held-for-sale |
11,252 | 11,252 | 5,654 | 5,654 | ||||||||||||
Loans, net |
2,721,170 | 2,705,663 | 1,481,617 | 1,469,642 | ||||||||||||
Derivative assets |
504 | 504 | — | — | ||||||||||||
Financial liabilities: |
||||||||||||||||
Deposits and securities sold
under agreements to repurchase |
$ | 3,081,390 | $ | 3,077,828 | $ | 1,763,427 | $ | 1,761,178 | ||||||||
Federal Home Loan Bank advances |
92,804 | 92,576 | 53,726 | 53,481 | ||||||||||||
Federal Funds Purchased |
48,862 | 48,862 | — | — | ||||||||||||
Subordinated debt |
82,476 | 83,293 | 51,548 | 52,110 | ||||||||||||
Derivative liabilities |
504 | 504 | — | — | ||||||||||||
| Notional | Notional | |||||||||||||||
| Amount | Amount | |||||||||||||||
Off-balance sheet instruments: |
||||||||||||||||
Commitments to extend credit |
$ | 833,893 | $ | — | $ | 532,383 | $ | — | ||||||||
Standby letters of credit |
98,305 | 234 | 52,961 | 159 | ||||||||||||
Note 20. Regulatory Matters
Pinnacle National is subject to restrictions on the payment of dividends to Pinnacle Financial
under federal banking laws and the regulations of the Office of the Comptroller of the Currency.
Prior to their consolidation with Pinnacle National on February 29, 2008, the two former
Mid-America subsidiaries, PrimeTrust Bank and Bank of the South were also subject to restrictions
on the payment of dividends to Pinnacle Financial under federal banking laws and the banking
regulations of the State of Tennessee. Pinnacle Financial is also subject to limits on payment
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NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
of dividends to its shareholders by the rules, regulations and policies of federal banking
authorities. Pinnacle Financial has not paid any cash dividends since inception, and it does not
anticipate that it will consider paying dividends until Pinnacle National generates sufficient
capital from operations to support both anticipated asset growth and dividend payments. At
December 31, 2007, pursuant to federal banking regulations, Pinnacle National had approximately
$43.9 million of net retained profits from the previous two years available for dividend payments
to Pinnacle Financial.
Pinnacle Financial and its banking subsidiaries are subject to various regulatory capital
requirements administered by 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 financial statements. Under capital
adequacy guidelines and the regulatory framework for prompt corrective action, Pinnacle Financial
and its banking subsidiaries must meet specific capital guidelines that involve quantitative
measures of the assets, liabilities, and certain off-balance-sheet items as calculated under
regulatory accounting practices. Pinnacle Financial’s and its banking subsidiaries capital amounts
and classification are also subject to qualitative judgments by the regulators about components,
risk weightings, and other factors.
Quantitative measures established by regulation to ensure capital adequacy require Pinnacle
Financial and its banking subsidiaries to maintain minimum amounts and ratios of Total and Tier I
capital to risk-weighted assets and of Tier I capital to average assets. Management believes, as of
December 31, 2007 and December 31, 2006, that Pinnacle Financial and Pinnacle National and as of
December 31, 2007, PrimeTrust Bank and Bank of the South met all capital adequacy requirements to
which they are subject. To be categorized as well-capitalized, Pinnacle National, PrimeTrust Bank
and Bank of the South must maintain minimum Total risk-based, Tier I risk-based, and Tier I
leverage ratios as set forth in the following table. Pinnacle Financial and its banking
subsidiaries’ actual capital amounts and ratios are presented in the following table (dollars in
thousands):
| Minimum | ||||||||||||||||||||||||
| To Be Well-Capitalized | ||||||||||||||||||||||||
| Minimum | Under Prompt | |||||||||||||||||||||||
| Capital | Corrective | |||||||||||||||||||||||
| Actual | Requirement | Action Provisions | ||||||||||||||||||||||
| Amount | Ratio | Amount | Ratio | Amount | Ratio | |||||||||||||||||||
At December 31, 2007 |
||||||||||||||||||||||||
Total capital to risk weighted assets: |
||||||||||||||||||||||||
| Pinnacle Financial | $ | 322,146 | 10.4 | % | $ | 248,263 | 8.0 | % | not applicable |
|||||||||||||||
Pinnacle National |
$ | 214,201 | 10.1 | % | $ | 169,825 | 8.0 | % | $ | 212,282 | 10.0 | % | ||||||||||||
PrimeTrust Bank |
$ | 56,822 | 10.1 | % | $ | 45,026 | 8.0 | % | $ | 56,283 | 10.0 | % | ||||||||||||
Bank of the South |
$ | 41,946 | 10.4 | % | $ | 32,155 | 8.0 | % | $ | 40,193 | 10.0 | % | ||||||||||||
Tier I capital to risk weighted assets: |
||||||||||||||||||||||||
| Pinnacle Financial | $ | 293,676 | 9.5 | % | $ | 124,132 | 4.0 | % | not applicable |
|||||||||||||||
Pinnacle National |
$ | 194,804 | 9.2 | % | $ | 84,913 | 4.0 | % | $ | 127,369 | 6.0 | % | ||||||||||||
PrimeTrust Bank |
$ | 51,550 | 9.2 | % | $ | 22,513 | 4.0 | % | $ | 33,770 | 6.0 | % | ||||||||||||
Bank of the South |
$ | 38,089 | 9.5 | % | $ | 16,077 | 4.0 | % | $ | 24,116 | 6.0 | % | ||||||||||||
Tier I capital to average assets (*): |
||||||||||||||||||||||||
| Pinnacle Financial | $ | 293,676 | 11.6 | % | $ | 101,515 | 4.0 | % | not applicable |
|||||||||||||||
Pinnacle National |
$ | 194,804 | 8.5 | % | $ | 91,273 | 4.0 | % | $ | 114,091 | 5.0 | % | ||||||||||||
PrimeTrust Bank |
$ | 51,550 | 8.3 | % | $ | 24,976 | 4.0 | % | $ | 31,220 | 5.0 | % | ||||||||||||
Bank of the South |
$ | 38,089 | 7.6 | % | $ | 19,908 | 4.0 | % | $ | 24,886 | 5.0 | % | ||||||||||||
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NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
| Minimum | ||||||||||||||||||||||||
| To Be Well-Capitalized | ||||||||||||||||||||||||
| Minimum | Under Prompt | |||||||||||||||||||||||
| Capital | Corrective | |||||||||||||||||||||||
| Actual | Requirement | Action Provisions | ||||||||||||||||||||||
| Amount | Ratio | Amount | Ratio | Amount | Ratio | |||||||||||||||||||
At December 31, 2006 |
||||||||||||||||||||||||
Total capital to risk weighted assets: |
||||||||||||||||||||||||
Pinnacle Financial |
$ | 202,881 | 11.8 | % | $ | 137,638 | 8.0 | % | not applicable |
|||||||||||||||
Pinnacle National |
$ | 175,159 | 10.2 | % | $ | 137,340 | 8.0 | % | $ | 171,676 | 10.0 | % | ||||||||||||
Tier I capital to risk weighted assets: |
||||||||||||||||||||||||
Pinnacle Financial |
$ | 186,763 | 10.9 | % | $ | 68,819 | 4.0 | % | not applicable |
|||||||||||||||
Pinnacle National |
$ | 159,031 | 9.3 | % | $ | 68,670 | 4.0 | % | $ | 103,005 | 6.0 | % | ||||||||||||
Tier I capital to average assets (*): |
||||||||||||||||||||||||
Pinnacle Financial |
$ | 186,763 | 9.5 | % | $ | 79,021 | 4.0 | % | not applicable |
|||||||||||||||
Pinnacle National |
$ | 159,031 | 8.1 | % | $ | 79,056 | 4.0 | % | $ | 98,820 | 5.0 | % | ||||||||||||
| (*) | Average assets for the above calculations were based on the most recent quarter. |
Note 21. Business Segment Information
Pinnacle Financial has four reporting segments comprised of commercial banking, trust and
investment services, mortgage origination and insurance services. Pinnacle Financial’s primary
segment is commercial banking which consists of commercial loan and deposit services as well as the
activities of its branch locations. Pinnacle Financial’s segments were changed in 2006 as a result
of the acquisition of Cavalry to include trust with Pinnacle Financial’s investment services
segment and to add a new segment for Insurance Services. Trust and investment services include
trust services offered by Pinnacle Financial’s banking subsidiaries and all brokerage and
investment activities. Mortgage origination is also a separate unit and focuses on the origination
of residential mortgage loans for sale to investors in the secondary residential mortgage market.
Insurance Services reflect the activities of Pinnacle National’s wholly owned subsidiary, Miller
and Loughry. Miller and Loughry is a general insurance agency located in Murfreesboro, Tennessee
and is licensed to sell various commercial and consumer insurance products. The following tables
present financial information for each reportable segment as of December 31, 2007 and 2006 and for
each year in the three-year period ended December 31, 2007 (dollars in thousands):
| Trust and | ||||||||||||||||||||
| Commercial | Investment | Mortgage | Insurance | Total | ||||||||||||||||
| Banking | Services | Origination | Services | Company | ||||||||||||||||
For the year ended December 31, 2007: |
||||||||||||||||||||
Net interest income |
$ | 75,541 | $ | — | $ | 171 | $ | — | $ | 75,712 | ||||||||||
Provision for loan losses |
4,720 | — | — | — | 4,720 | |||||||||||||||
Noninterest income |
12,492 | 4,743 | 2,792 | 2,494 | 22,521 | |||||||||||||||
Noninterest expense |
52,929 | 3,484 | 2,249 | 1,818 | 60,480 | |||||||||||||||
Income tax expense |
8,949 | 494 | 280 | 269 | 9,992 | |||||||||||||||
Net income |
$ | 21,435 | $ | 765 | $ | 434 | $ | 407 | $ | 23,041 | ||||||||||
For the year ended December 31, 2006: |
||||||||||||||||||||
Net interest income |
$ | 60,953 | $ | — | $ | — | $ | — | $ | 60,953 | ||||||||||
Provision for loan losses |
3,732 | — | — | — | 3,732 | |||||||||||||||
Noninterest income |
8,705 | 3,316 | 1,647 | 2,119 | 15,787 | |||||||||||||||
Noninterest expense |
41,930 | 2,375 | 976 | 1,343 | 46,624 | |||||||||||||||
Income tax expense |
7,508 | 369 | 263 | 317 | 8,457 | |||||||||||||||
Net income |
$ | 16,488 | $ | 572 | $ | 408 | $ | 459 | $ | 17,927 | ||||||||||
For the year ended December 31, 2005: |
||||||||||||||||||||
Net interest income |
$ | 29,038 | $ | — | $ | — | $ | — | $ | 29,038 | ||||||||||
Provision for loan losses |
2,152 | — | — | — | 2,152 | |||||||||||||||
Noninterest income |
2,675 | 1,573 | 1,146 | — | 5,394 | |||||||||||||||
Noninterest expense |
19,315 | 1,171 | 546 | — | 21,032 | |||||||||||||||
Income tax expense |
2,809 | 154 | 230 | — | 3,193 | |||||||||||||||
Net income |
$ | 7,437 | $ | 248 | $ | 370 | $ | — | $ | 8,055 | ||||||||||
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NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
| Trust and | ||||||||||||||||||||
| Commercial | Investment | Mortgage | Insurance | Total | ||||||||||||||||
| Banking | Services | Origination | Services | Company | ||||||||||||||||
As of December 31, 2007: |
||||||||||||||||||||
End of period assets |
$ | 3,773,874 | $ | 400 | $ | 15,074 | $ | 4,822 | $ | 3,794,170 | ||||||||||
As of December 31, 2006: |
||||||||||||||||||||
End of period assets |
$ | 2,128,105 | $ | 402 | $ | 9,762 | $ | 3,918 | $ | 2,142,187 | ||||||||||
At December 31, 2007 and 2006, Pinnacle Financial had approximately $260.9 million and $125.7
million, respectively, in goodwill and core deposit intangible assets, all of which had been
assigned to the Commercial Banking segment.
Note 22. Parent Company Only Financial Information
The following information presents the condensed balance sheets, statements of income, and
cash flows of Pinnacle Financial as of December 31, 2007 and 2006 and for each of the years in the
three-year period ended December 31, 2007:
CONDENSED BALANCE SHEETS
| 2007 | 2006 | |||||||
Assets: |
||||||||
Cash |
$ | 9,829,126 | $ | 24,803,538 | ||||
Investments in consolidated subsidiaries |
538,364,192 | — | ||||||
Investment in unconsolidated subsidiaries: |
||||||||
PNFP Statutory Trust I |
310,000 | 310,000 | ||||||
PNFP Statutory Trust II |
619,000 | 619,000 | ||||||
PNFP Statutory Trust III |
619,000 | 619,000 | ||||||
PNFP Statutory Trust IV |
928,000 | — | ||||||
Other investments |
1,255,135 | — | ||||||
Income taxes receivable from subsidiaries |
— | 1,298,299 | ||||||
Current income tax receivable |
8,365,160 | 1,049,604 | ||||||
Other assets |
8,125,827 | 786,846 | ||||||
| $ | 568,415,440 | $ | 307,755,021 | |||||
Liabilities and stockholders’ equity: |
||||||||
Income taxes
payable to subsidiaries |
$ | 8,916,956 | $ | — | ||||
Subordinated debt and other borrowings |
91,476,000 | 51,548,000 | ||||||
Other liabilities |
1,412,189 | 190,000 | ||||||
Stockholders’ equity |
466,610,295 | 256,017,021 | ||||||
| $ | 568,415,440 | $ | 307,755,021 | |||||
CONDENSED STATEMENTS OF INCOME
| 2007 | 2006 | 2005 | ||||||||||
Revenues — Interest income |
$ | 347,787 | $ | 267,154 | $ | 133,748 | ||||||
Expenses: |
||||||||||||
Interest expense — subordinated debentures |
4,012,243 | 2,504,033 | 985,645 | |||||||||
Stock-based compensation expense |
2,099,819 | 1,474,960 | 244,724 | |||||||||
Other expense |
303,827 | 245,528 | 58,772 | |||||||||
Loss before income taxes and equity in
undistributed income of subsidiaries |
(6,068,102 | ) | (3,957,367 | ) | (1,155,393 | ) | ||||||
Income tax benefit |
(2,195,146 | ) | (1,632,738 | ) | (438,270 | ) | ||||||
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PINNACLE FINANCIAL PARTNERS, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
| 2007 | 2006 | 2005 | ||||||||||
Loss before equity in undistributed income of
subsidiaries |
(3,872,956 | ) | (2,324,629 | ) | (717,123 | ) | ||||||
Equity in undistributed income of subsidiaries |
26,914,311 | 20,251,662 | 8,772,391 | |||||||||
Net income |
$ | 23,041,355 | $ | 17,927,033 | $ | 8,055,268 | ||||||
CONDENSED STATEMENTS OF CASH FLOWS
| 2007 | 2006 | 2005 | ||||||||||
Operating activities: |
||||||||||||
Net income |
$ | 23,041,355 | $ | 17,927,033 | $ | 8,055,268 | ||||||
Adjustments to reconcile net income to net cash
provided (used) by operating activities: |
||||||||||||
Stock-based compensation expense |
2,099,819 | 1,474,960 | 244,724 | |||||||||
Increase (decrease) in income tax payable, net |
(1,528,956 | ) | (1,921,194 | ) | 1,000,352 | |||||||
Decrease (increase) in other assets |
77,960 | 1,118,127 | (479,474 | ) | ||||||||
Decrease in other liabilities |
495,586 | 190,000 | 99,726 | |||||||||
Tax benefit from exercise of stock awards |
— | — | (50,535 | ) | ||||||||
Excess tax benefit from stock compensation |
(105,809 | ) | (131,121 | ) | ||||||||
Deferred tax expense (benefit) |
67,501 | (232,866 | ) | — | ||||||||
Equity in undistributed income of subsidiaries |
(26,914,311 | ) | (20,251,662 | ) | (8,772,391 | ) | ||||||
Net cash provided (used) by operating activities |
(2,766,855 | ) | (1,826,723 | ) | 97,670 | |||||||
Investing activities — |
||||||||||||
Investment in unconsolidated subsidiaries |
(928,000 | ) | (619,000 | ) | (619,000 | ) | ||||||
Investment in consolidated subsidiaries: |
||||||||||||
Banking subsidiaries |
(20,250,000 | ) | (10,000,000 | ) | (15,500,000 | ) | ||||||
Other subsidiaries |
— | (350,250 | ) | (183,721 | ) | |||||||
Investments in other entities |
(1,189,488 | ) | (65,647 | ) | — | |||||||
Cash and cash equivalents used in merger with
Mid-America |
(21,557,773 | ) | — | — | ||||||||
Cash and cash equivalents acquired in merger
with Cavalry |
— | 3,128,116 | — | |||||||||
Net cash used by investing activities |
(43,925,261 | ) | (7,906,781 | ) | (16,302,721 | ) | ||||||
Financing activities — |
||||||||||||
Proceeds from issuance of subordinated debt |
30,928,000 | 20,619,000 | 20,619,000 | |||||||||
Exercise of common stock warrants |
— | 55,000 | — | |||||||||
Exercise of common stock options |
983,292 | 1,239,771 | 174,761 | |||||||||
Excess tax benefit from stock compensation
arrangements |
105,809 | 131,121 | — | |||||||||
Costs incurred in connection with registration
of common stock issued in mergers |
(299,397 | ) | (187,609 | ) | — | |||||||
Net cash provided by financing activities |
31,717,704 | 21,857,283 | 20,793,761 | |||||||||
Net increase (decrease) in cash |
(14,974,412 | ) | 12,123,779 | 4,588,710 | ||||||||
Cash, beginning of year |
24,803,538 | 12,679,759 | 8,091,049 | |||||||||
Cash, end of year |
$ | 9,829,126 | $ | 24,803,538 | $ | 12,679,759 | ||||||
During 2007, Pinnacle National paid dividends of $1,250,000 to Pinnacle Financial. No dividends were paid
by Pinnacle National during 2005 or 2006.
Note 23. Quarterly Financial Results (unaudited)
A summary of selected consolidated quarterly financial data for each of the years in the
three-year period ended December 31, 2007 follows:
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NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
| First | Second | Third | Fourth | |||||||||||||
| (in thousands, except per share data) | Quarter | Quarter | Quarter | Quarter | ||||||||||||
2007 |
||||||||||||||||
Interest income |
$ | 33,739 | $ | 35,508 | $ | 38,347 | $ | 43,338 | ||||||||
Net interest income |
17,082 | 17,661 | 18,960 | 22,009 | ||||||||||||
Provision for loan losses |
788 | 900 | 772 | 2,260 | ||||||||||||
Net income before taxes |
8,196 | 7,828 | 8,410 | 8,599 | ||||||||||||
Net income |
5,602 | 5,426 | 5,772 | 6,242 | ||||||||||||
Basic net income per share |
$ | 0.36 | $ | 0.35 | $ | 0.37 | $ | 0.35 | ||||||||
Diluted net income per share |
$ | 0.34 | $ | 0.33 | $ | 0.35 | $ | 0.33 | ||||||||
2006 |
||||||||||||||||
Interest income |
$ | 16,811 | $ | 28,305 | $ | 31,340 | $ | 33,241 | ||||||||
Net interest income |
9,507 | 16,895 | 17,159 | 17,391 | ||||||||||||
Provision for loan losses |
387 | 1,707 | 587 | 1,051 | ||||||||||||
Net income before taxes |
3,839 | 6,463 | 7,942 | 8,139 | ||||||||||||
Net income |
2,612 | 4,322 | 5,347 | 5,646 | ||||||||||||
Basic net income per share |
$ | 0.27 | $ | 0.28 | $ | 0.35 | $ | 0.37 | ||||||||
Diluted net income per share |
$ | 0.24 | $ | 0.26 | $ | 0.32 | $ | 0.34 | ||||||||
2005 |
||||||||||||||||
Interest income |
$ | 9,270 | $ | 10,544 | $ | 12,379 | $ | 14,118 | ||||||||
Net interest income |
6,503 | 6,795 | 7,456 | 8,287 | ||||||||||||
Provision for loan losses |
601 | 483 | 366 | 702 | ||||||||||||
Net income before taxes |
2,499 | 2,762 | 2,867 | 3,119 | ||||||||||||
Net income |
1,780 | 1,959 | 2,078 | 2,238 | ||||||||||||
Basic net income per share |
$ | 0.21 | $ | 0.23 | $ | 0.25 | $ | 0.27 | ||||||||
Diluted net income per share |
$ | 0.19 | $ | 0.21 | $ | 0.22 | $ | 0.24 | ||||||||
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ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND FINANCIAL DISCLOSURE
None.
ITEM 9A. CONTROLS AND PROCEDURES
Evaluation of Disclosure Controls and Procedures
Pinnacle Financial maintains disclosure controls and procedures, as defined in Rule
13a-15(e) promulgated under the Securities Exchange Act of 1934 (the “Exchange Act”), that
are designed to ensure that information required to be disclosed by it in the reports that
it files or submits under the Exchange Act is recorded, processed, summarized and reported
within the time periods specified in the SEC’s rules and forms and that such information is
accumulated and communicated to Pinnacle Financial’s management, including its Chief
Executive Officer and Chief Financial Officer, as appropriate, to allow timely decisions
regarding required disclosure. Pinnacle Financial carried out an evaluation, under the
supervision and with the participation of its management, including its Chief Executive
Officer and Chief Financial Officer, of the effectiveness of the design and operation of its
disclosure controls and procedures as of the end of the period covered by this report.
Based on the evaluation of these disclosure controls and procedures, the Chief Executive
Officer and Chief Financial Officer concluded that Pinnacle Financial’s disclosure controls
and procedures were effective.
Management Report on Internal Control Over Financial Reporting
The report of Pinnacle Financial’s management on Pinnacle Financial’s internal control over
financial reporting is set forth on page 53 of this Annual Report on Form 10-K. The report
of Pinnacle Financial’s independent registered public accounting firm on Pinnacle
Financial’s internal control over financial reporting is set forth on page 55 of this Annual
Report on Form 10-K.
Changes in Internal Controls
For the three months ended December 31, 2007, Pinnacle Financial continued to expand its
internal control system over financial reporting to incorporate procedures specifically
related to its merger with Mid-America Bancshares, Inc. We reviewed the financial
information obtained from Mid-America from November 30, 2007 through the date such
information was integrated into Pinnacle Financial’s financial data systems and performed
additional procedures with respect to such information in order to determine its accuracy
and reliability.
There were no changes in Pinnacle Financial’s internal control over financial reporting
during Pinnacle Financial’s fiscal quarter ended December 31, 2007 that have materially
affected, or are reasonably likely to materially affect, Pinnacle Financial’s internal
control over financial reporting.
ITEM 9B. OTHER INFORMATION
None.
PART III
ITEM 10. DIRECTORS, EXECUTIVE OFFICERS AND CORPORATE GOVERNANCE
The responses to this Item will be included in Pinnacle Financial’s Proxy Statement for the Annual
Meeting of Shareholders to be held April 15, 2008, which will be filed on or before March 12, 2008
under the headings “Corporate Governance,” “Proposal #1 Election of Directors,” “Executive
Management Information,” “Section 16A Beneficial Ownership Reporting Compliance” and “Security
Ownership of Certain Beneficial Owners and Management” and are incorporated herein by reference.
Page 92
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ITEM 11. EXECUTIVE COMPENSATION
The responses to this Item will be included in Pinnacle Financial’s Proxy Statement for the Annual
Meeting of Shareholders to be held April 15, 2008, which will be filed on or before March 12, 2008
under the heading, “Executive Compensation” and are incorporated herein by reference.
ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT AND RELATED STOCKHOLDER
MATTERS
The responses to this Item will be included in Pinnacle Financial’s Proxy Statement for the Annual
Meeting of Shareholders to be held April 15, 2008, which will be filed on or before March 12, 2008
under the headings, “Security Ownership of Certain Beneficial Owners and Management,” and
“Executive Compensation,” and are incorporated herein by reference.
The following table summarizes information concerning the Company’s equity compensation plans
at December 31, 2007:
| Number of | ||||||||||||
| Securities | ||||||||||||
| Remaining Available | ||||||||||||
| Number of | for Future Issuance | |||||||||||
| Securities to be | Under Equity | |||||||||||
| Issued upon | Weighted Average | Compensation Plans | ||||||||||
| Exercise of | Exercise Price of | (Excluding | ||||||||||
| Outstanding | Outstanding | Securities | ||||||||||
| Options, Warrants | Options, Warrants | Reflected in First | ||||||||||
| Plan Category | and Rights | and Rights | Column) | |||||||||
Equity compensation plans approved by
shareholders: |
||||||||||||
2000 Stock Incentive Plan |
844,127 | $ | 6.19 | — | ||||||||
2004 Equity Incentive Plan |
982,484 | $ | 27.73 | 728,661 | ||||||||
1999 Cavalry Bancorp, Inc. Stock Option Plan |
98,456 | $ | 10.86 | — | ||||||||
Bank of the South 2001 Stock Option Plan |
68,223 | $ | 17.06 | — | ||||||||
PrimeTrust Bank 2001 Statutory-Non-Statutory
Stock Option Plan |
40,557 | $ | 7.52 | — | ||||||||
PrimeTrust Bank 2005 Statutory-Non-Statutory
Stock Option Plan |
113,024 | $ | 12.89 | — | ||||||||
Mid-America Bancshares, Inc. 2006 Omnibus
Equity Incentive Plan |
251,952 | $ | 15.65 | 88,435 | ||||||||
Equity compensation plans not approved by
shareholders |
N/A | N/A | N/A | |||||||||
Total |
2,398,823 | $ | 16.84 | 817,096 | ||||||||
ITEM 13. CERTAIN RELATIONSHIPS, RELATED TRANSACTIONS AND DIRECTOR INDEPENDENCE
The responses to this Item will be included in Pinnacle Financial’s Proxy Statement for the Annual
Meeting of Shareholders to be held April 15, 2008, which will be filed on or before March 12, 2008
under the headings, “Security Ownership of Certain Beneficial Owners and Management — Certain
Relationships and Related Transactions,” “Executive Compensation,” and “Corporate
Governance-Director Independence” and are incorporated herein by reference.
ITEM 14. PRINCIPAL ACCOUNTANT FEES AND SERVICES
The responses to this Item will be included in Pinnacle Financial’s Proxy Statement for the Annual
Meeting of Shareholders to be held April 15, 2008, which will be filed on or before March 12, 2008
under the heading, “Independent Registered Public Accounting Firm” and are incorporated herein by
reference.
Page 93
Table of Contents
ITEM 15. EXHIBITS AND FINANCIAL STATEMENT SCHEDULES
(a) Exhibits
| Exhibit | ||
| No. | Description | |
2.1
|
Merger Agreement, dated September 30, 2005, by and between Pinnacle Financial Partners, Inc. and Cavalry Bancorp, Inc. (schedules and exhibits to which been omitted pursuant to Items 601(b)(2) of Regulations S-K) (1) | |
2.2
|
Agreement and Plan of Merger by and between Pinnacle Financial Partners, Inc. and Mid-America Bancshares, Inc. (schedules and exhibits to which been omitted pursuant to Items 601(b)(2) of Regulations S-K) (2) | |
3.1
|
Amended and Restated Charter (3) | |
3.2
|
Bylaws (4) | |
4.1.1
|
Specimen Common Stock Certificate (5) | |
4.1.2
|
See Exhibits 3.1 and 3.2 for provisions of the Charter and Bylaws defining rights of holders of the Common Stock | |
10.1
|
Lease Agreement by and between TMP, Inc. (former name of Pinnacle Financial Partners, Inc.) and Commercial Street Associates dated March 16, 2000 (main office) (5) | |
10.4
|
Form of Pinnacle Financial Partners, Inc.’s Organizers’ Warrant Agreement (5) | |
10.7
|
Employment Agreement dated as of August 1, 2000 by and between Pinnacle National Bank, Pinnacle Financial Partners, Inc. and Robert A. McCabe, Jr. (5) * | |
10.8
|
Employment Agreement dated as of April 1, 2000 by and between Pinnacle National Bank, Pinnacle Financial Partners, Inc. and Hugh M. Queener (5) * | |
10.9
|
Letter Agreement dated March 14, 2000 and accepted March 16, 2000 by and between Pinnacle Financial Corporation (now known as Pinnacle Financial Partners, Inc.) and Atkinson Public Relations (5) | |
10.14
|
Employment Agreement dated March 1, 2000 by and between Pinnacle National Bank, Pinnacle Financial Partners, Inc. and M. Terry Turner (5) * | |
10.15
|
Pinnacle Financial Partners, Inc. 2000 Stock Incentive Plan (5) * | |
10.16
|
Form of Pinnacle Financial Partners, Inc.’s Stock Option Award (5) * | |
10.18
|
Agreement for Assignment of Lease by and between Franklin National Bank and TMP, Inc., now known as Pinnacle Financial Partners, Inc., effective July 17, 2000 (5) | |
10.19
|
Form of Assignment of Lease and Consent of Landlord by Franklin National Bank, Pinnacle Financial Partners, Inc., formerly TMP, Inc., and Stearns Investments, Jack J. Stearns and Edna Stearns, General Partners (5) | |
10.21
|
Green Hills Office Lease (6) | |
10.23
|
Form of Restricted Stock Award Agreement (7) | |
10.24
|
Form of Incentive Stock Option Agreement (7) | |
10.25
|
Lease Agreement for West End Lease (8) | |
10.26
|
Lease Amendments for Commerce Street location (8) | |
10.27
|
Pinnacle Financial Partners, Inc. 2004 Equity Incentive Plan (9) * | |
10.28
|
2007 Annual Cash Incentive Plan (10) * | |
10.29
|
Fourth Amendment to Commerce Street Lease (3) | |
10.30
|
Employment Agreement by and between Pinnacle National Bank and Ed C. Loughry, Jr. (11) * | |
10.31
|
Employment Agreement by and between Pinnacle National Bank and William S. Jones (11) * | |
10.32
|
Consulting Agreement by and between Pinnacle National Bank and Ronnie F. Knight (11) * | |
10.33
|
Form of Restricted Stock Agreement for non-employee directors (12) * | |
10.34
|
Form of Non-Qualified Stock Option Agreement (13) * | |
10.35
|
2006 Annual Cash Incentive Plan (14)* | |
10.36
|
Employment Agreement dated as of March 14, 2006 by and among Pinnacle Financial Partners, Inc., Pinnacle National Bank and Harold R. Carpenter (14)* | |
10.37
|
Calvary Bancorp, Inc. 1999 Stock Option Plan (15)* | |
10.38
|
Amendment No. 1 to Calvary Bancorp, Inc. 1999 Stock Option Plan (15)* | |
10.39
|
Form of Non-Qualified Stock Option Agreement (15)* | |
10.40
|
Amendment No. 1 to Pinnacle Financial Partners, Inc. 2000 Stock Incentive Plan (15)* | |
10.41
|
Amendment No. 3 to Pinnacle Financial Partners, Inc. 2004 Equity Incentive Plan (15)* | |
10.42
|
Form of Restricted Stock Award Agreement* (16) | |
10.43
|
Amendment No. 4 to Pinnacle Financial Partners, Inc. 2004 Equity Incentive Plan (17) | |
10.44
|
2008 Annual Cash Incentive Plan (18) * | |
10.45
|
Form of Restricted Stock Award Agreement (18) * | |
10.46
|
2008 Special Cash Incentive Plan (19) * | |
10.47
|
2008 Director and Named Executive Officer Compensation Summary* | |
10.48
|
Amendment to Employment Agreement by and among Pinnacle National Bank, Pinnacle Financial Partners, Inc. and M. Terry Turner * | |
10.49
|
Amendment to Employment Agreement by and among Pinnacle National Bank, Pinnacle Financial Partners, Inc. and Robert A. McCabe, Jr. * | |
10.50
|
Amendment to Employment Agreement by and among Pinnacle National Bank, Pinnacle Financial Partners, Inc. | |
Page 94
Table of Contents
| Exhibit | ||
| No. | Description | |
| and Hugh M. Queener * | ||
10.51
|
Employment Agreement by and among Pinnacle National Bank, Pinnacle Financial Partners, Inc. and Harold R. Carpenter * | |
10.52
|
Bank of the South 2001 Stock Option Plan * | |
10.53
|
PrimeTrust Bank 2001 Statutory — Nonstatutory Stock Option Plan * | |
10.54
|
PrimeTrust Bank 2005 Statutory — Nonstatutory Stock Option Plan * | |
10.55
|
Mid-America Bancshares, Inc. 2006 Equity Incentive Plan * | |
21.1
|
Subsidiaries of Pinnacle Financial Partners, Inc. | |
23.1
|
Consent of KPMG LLP | |
31.1
|
Certification pursuant to Rule 13a-14(a)/15d-14(a) | |
31.2
|
Certification pursuant to Rule 13a-14(a)/15d-14(a) | |
32.1
|
Certification pursuant to 18 USC Section 1350 — Sarbanes-Oxley Act of 2002 | |
32.2
|
Certification pursuant to 18 USC Section 1350 — Sarbanes-Oxley Act of 2002 | |
| (*) | Management compensatory plan or arrangement | |
| (1) | Registrant hereby incorporates by reference to Registrant’s Current Report on Form 8-K filed on October 3, 2005. | |
| (2) | Registrant hereby incorporates by reference to Registrant’s Current Report on Form 8-K filed on August 15, 2007. | |
| (3) | Registrant hereby incorporates by reference to Registrant’s Form 10-Q for the quarter ended March 31, 2005. | |
| (4) | Registrant hereby incorporates by reference to Registrant’s Current Report on Form 8-K filed on September 21, 2007. | |
| (5) | Registrant hereby incorporates by reference to the Registrant’s Registration Statement on Form SB-2, as amended (File No. 333-38018). | |
| (6) | Registrant hereby incorporates by reference to the Registrant’s Form 10-KSB for the fiscal year ended December 31, 2000 as filed with the SEC on March 29, 2001. | |
| (7) | Registrant hereby incorporates by reference to Registrant’s Form 10-Q for the quarter ended September 30, 2004. | |
| (8) | Registrant hereby incorporates by reference to Registrant’s Form 10-K for the fiscal year ended December 31, 2004 as filed with the SEC on February 28, 2005. | |
| (9) | Registrant hereby incorporates by reference to Registrant’s Current Report on Form 8-K filed on April 19, 2005. | |
| (10) | Registrant hereby incorporates by reference to Registrant’s Current Report on Form 8-K filed on January 25, 2007. | |
| (11) | Registrant hereby incorporates by reference to Registrant’s Registration Statement on Form S-4, as amended (File No. 333-129076). | |
| (12) | Registrant hereby incorporates by reference to Registrant’s Current Report on Form 8-K filed on January 23, 2006. | |
| (13) | Registrant hereby incorporates by reference to Registrant’s Form 10-K for the fiscal year ended December 31, 2005 as filed with the SEC on February 24, 2006. | |
| (14) | Registrant hereby incorporates by reference to Registrant’s Current Report on Form 8-K filed on March 20, 2006. | |
| (15) | Registrant hereby incorporates by reference to Registrant’s Form 10-Q for the quarter ended on September 30, 2006. | |
| (16) | Registrant hereby incorporates by reference to Registrant’s Form 10-K for the fiscal year ended December 31, 2006 as filed with the SEC on February 28, 2007. | |
| (17) | Registrant hereby incorporates by reference to Registrant’s Current Report on Form 8-K filed on December 4, 2007. | |
| (18) | Registrant hereby incorporates by reference to Registrant’s Current Report on Form 8-K filed on January 25, 2008. | |
| (19) | Registrant hereby incorporates by reference to Registrant’s Current Report on Form 8-K filed on January 25, 2008. |
Pinnacle Financial is a party to certain agreements entered into in connection with the offering by
PNFP Statutory Trust I, PNFP Statutory Trust II,PNFP Statutory Trust III, and PNFP Statutory Trust
IV of an aggregate of $80,000,000 in trust preferred securities, as more fully described in this
Annual Report on Form 10-K. In accordance with Item 601(b)(4)(ii) of Regulation SB, and because
the total amount of the trust preferred securities is not in excess of 10% of Pinnacle Financial’s
total assets, Pinnacle Financial has not filed the various documents and agreements associated with
the trust preferred securities herewith. Pinnacle Financial has, however, agreed to furnish copies
of the various documents and agreements associated with the trust preferred securities to the
Securities and Exchange Commission upon request.
Page 95
Table of Contents
SIGNATURES
Pursuant to the requirements of Section 13 or 15(d) 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.
| PINNACLE FINANCIAL PARTNERS, INC |
||||
| By: | /s/ M. Terry Turner | |||
| M. Terry Turner | ||||
| Date: March 7, 2008 | President and Chief Executive Officer | |||
Pursuant to the requirements of the Securities Exchange Act of 1934, this Report has been signed
below by the following persons on behalf of the Registrant and in the capacities and on the dates
indicated.
| SIGNATURES | TITLE | DATE | ||
/s/ Robert A. McCabe, Jr.
|
Chairman of the Board | March 7, 2008 | ||
/s/ M. Terry Turner
|
Director, President and Chief Executive Officer (Principal Executive Officer) | March 7, 2008 | ||
/s/ Harold R. Carpenter
|
Chief Financial Officer (Principal Financial and Accounting Officer) |
March 7, 2008 | ||
/s/ Sue R. Atkinson
|
Director | March 7, 2008 | ||
/s/ H. Gordon Bone
|
Director | March 7, 2008 | ||
/s/ Gregory L. Burns
|
Director | March 7, 2008 | ||
/s/ James C. Cope
|
Director | March 7, 2008 | ||
/s/ Colleen Conway-Welch
|
Director | March 7, 2008 | ||
/s/ Clay T. Jackson
|
Director | March 7, 2008 | ||
/s/ William H. Huddleston
|
Director | March 7, 2008 | ||
/s/ Ed C. Loughry, Jr.
|
Director | March 7, 2008 | ||
/s/ David Major
|
Director | March 7, 2008 | ||
/s/ Hal N. Pennington
|
Director | March 7, 2008 | ||
/s/ Dale W. Polley
|
Director | March 7, 2008 |
Page 96
Table of Contents
| SIGNATURES | TITLE | DATE | ||
/s/ Wayne J. Riley
|
Director | March 7, 2008 | ||
/s/ Gary Scott
|
Director | March 7, 2008 | ||
/s/ James L. Shaub, II
|
Director | March 7, 2008 | ||
/s/ Reese L. Smith, III
|
Director | March 7, 2008 |
Page 97
Table of Contents
EXHIBIT INDEX
| Exhibit | ||
| No. | Description | |
2.1
|
Merger Agreement, dated September 30, 2005, by and between Pinnacle Financial Partners, Inc. and Cavalry Bancorp, Inc. (schedules and exhibits to which been omitted pursuant to Items 601(b)(2) of Regulations S-K) (1) | |
2.2
|
Agreement and Plan of Merger by and between Pinnacle Financial Partners, Inc. and Mid-America Bancshares, Inc. (schedules and exhibits to which been omitted pursuant to Items 601(b)(2) of Regulations S-K) (2) | |
3.1
|
Amended and Restated Charter (3) | |
3.2
|
Bylaws (4) | |
4.1.1
|
Specimen Common Stock Certificate (5) | |
4.1.2
|
See Exhibits 3.1 and 3.2 for provisions of the Charter and Bylaws defining rights of holders of the Common Stock | |
10.1
|
Lease Agreement by and between TMP, Inc. (former name of Pinnacle Financial Partners, Inc.) and Commercial Street Associates dated March 16, 2000 (main office) (5) | |
10.4
|
Form of Pinnacle Financial Partners, Inc.’s Organizers’ Warrant Agreement (5) | |
10.7
|
Employment Agreement dated as of August 1, 2000 by and between Pinnacle National Bank, Pinnacle Financial Partners, Inc. and Robert A. McCabe, Jr. (5) * | |
10.8
|
Employment Agreement dated as of April 1, 2000 by and between Pinnacle National Bank, Pinnacle Financial Partners, Inc. and Hugh M. Queener (5) * | |
10.9
|
Letter Agreement dated March 14, 2000 and accepted March 16, 2000 by and between Pinnacle Financial Corporation (now known as Pinnacle Financial Partners, Inc.) and Atkinson Public Relations (5) | |
10.14
|
Employment Agreement dated March 1, 2000 by and between Pinnacle National Bank, Pinnacle Financial Partners, Inc. and M. Terry Turner (5) * | |
10.15
|
Pinnacle Financial Partners, Inc. 2000 Stock Incentive Plan (5) * | |
10.16
|
Form of Pinnacle Financial Partners, Inc.’s Stock Option Award (5) * | |
10.18
|
Agreement for Assignment of Lease by and between Franklin National Bank and TMP, Inc., now known as Pinnacle Financial Partners, Inc., effective July 17, 2000 (5) | |
10.19
|
Form of Assignment of Lease and Consent of Landlord by Franklin National Bank, Pinnacle Financial Partners, Inc., formerly TMP, Inc., and Stearns Investments, Jack J. Stearns and Edna Stearns, General Partners (5) | |
10.21
|
Green Hills Office Lease (6) | |
10.23
|
Form of Restricted Stock Award Agreement (7) | |
10.24
|
Form of Incentive Stock Option Agreement (7) | |
10.25
|
Lease Agreement for West End Lease (8) | |
10.26
|
Lease Amendments for Commerce Street location (8) | |
10.27
|
Pinnacle Financial Partners, Inc. 2004 Equity Incentive Plan (9) * | |
10.28
|
2007 Annual Cash Incentive Plan (10) * | |
10.29
|
Fourth Amendment to Commerce Street Lease (3) | |
10.30
|
Employment Agreement by and between Pinnacle National Bank and Ed C. Loughry, Jr. (11) * | |
10.31
|
Employment Agreement by and between Pinnacle National Bank and William S. Jones (11) * | |
10.32
|
Consulting Agreement by and between Pinnacle National Bank and Ronnie F. Knight (11) * | |
10.33
|
Form of Restricted Stock Agreement for non-employee directors (12) * | |
10.34
|
Form of Non-Qualified Stock Option Agreement (13) * | |
10.35
|
2006 Annual Cash Incentive Plan (14)* | |
10.36
|
Employment Agreement dated as of March 14, 2006 by and among Pinnacle Financial Partners, Inc., Pinnacle National Bank and Harold R. Carpenter (14)* | |
10.37
|
Calvary Bancorp, Inc. 1999 Stock Option Plan (15)* | |
10.38
|
Amendment No. 1 to Calvary Bancorp, Inc. 1999 Stock Option Plan (15)* | |
10.39
|
Form of Non-Qualified Stock Option Agreement (15)* | |
10.40
|
Amendment No. 1 to Pinnacle Financial Partners, Inc. 2000 Stock Incentive Plan (15)* | |
10.41
|
Amendment No. 3 to Pinnacle Financial Partners, Inc. 2004 Equity Incentive Plan (15)* | |
10.42
|
Form of Restricted Stock Award Agreement* (16) | |
10.43
|
Amendment No. 4 to Pinnacle Financial Partners, Inc. 2004 Equity Incentive Plan (17) | |
10.44
|
2008 Annual Cash Incentive Plan (18) * | |
10.45
|
Form of Restricted Stock Award Agreement (18) * | |
10.46
|
2008 Special Cash Incentive Plan (19) * | |
10.47
|
2008 Director and Named Executive Officer Compensation Summary* | |
10.48
|
Amendment to Employment Agreement by and among Pinnacle National Bank, Pinnacle Financial Partners, Inc. and M. Terry Turner * | |
10.49
|
Amendment to Employment Agreement by and among Pinnacle National Bank, Pinnacle Financial Partners, Inc. and Robert A. McCabe, Jr. * | |
10.50
|
Amendment to Employment Agreement by and among Pinnacle National Bank, Pinnacle Financial Partners, Inc. | |
Page 98
Table of Contents
| Exhibit | ||
| No. | Description | |
| and Hugh M. Queener * | ||
10.51
|
Employment Agreement by and among Pinnacle National Bank, Pinnacle Financial Partners, Inc. and Harold R. Carpenter * | |
10.52
|
Bank of the South 2001 Stock Option Plan * | |
10.53
|
PrimeTrust Bank 2001 Statutory — Nonstatutory Stock Option Plan * | |
10.54
|
PrimeTrust Bank 2005 Statutory — Nonstatutory Stock Option Plan * | |
10.55
|
Mid-America Bancshares, Inc. 2006 Equity Incentive Plan * | |
21.1
|
Subsidiaries of Pinnacle Financial Partners, Inc. | |
23.1
|
Consent of KPMG LLP | |
31.1
|
Certification pursuant to Rule 13a-14(a)/15d-14(a) | |
31.2
|
Certification pursuant to Rule 13a-14(a)/15d-14(a) | |
32.1
|
Certification pursuant to 18 USC Section 1350 — Sarbanes-Oxley Act of 2002 | |
32.2
|
Certification pursuant to 18 USC Section 1350 — Sarbanes-Oxley Act of 2002 | |
| (*) | Management compensatory plan or arrangement | |
| (1) | Registrant hereby incorporates by reference to Registrant’s Current Report on Form 8-K filed on October 3, 2005. | |
| (2) | Registrant hereby incorporates by reference to Registrant’s Current Report on Form 8-K filed on August 15, 2007. | |
| (3) | Registrant hereby incorporates by reference to Registrant’s Form 10-Q for the quarter ended March 31, 2005. | |
| (4) | Registrant hereby incorporates by reference to Registrant’s Current Report on Form 8-K filed on September 21, 2007. | |
| (5) | Registrant hereby incorporates by reference to the Registrant’s Registration Statement on Form SB-2, as amended (File No. 333-38018). | |
| (6) | Registrant hereby incorporates by reference to the Registrant’s Form 10-KSB for the fiscal year ended December 31, 2000 as filed with the SEC on March 29, 2001. | |
| (7) | Registrant hereby incorporates by reference to Registrant’s Form 10-Q for the quarter ended September 30, 2004. | |
| (8) | Registrant hereby incorporates by reference to Registrant’s Form 10-K for the fiscal year ended December 31, 2004 as filed with the SEC on February 28, 2005. | |
| (9) | Registrant hereby incorporates by reference to Registrant’s Current Report on Form 8-K filed on April 19, 2005. | |
| (10) | Registrant hereby incorporates by reference to Registrant’s Current Report on Form 8-K filed on January 25, 2007. | |
| (11) | Registrant hereby incorporates by reference to Registrant’s Registration Statement on Form S-4, as amended (File No. 333-129076). | |
| (12) | Registrant hereby incorporates by reference to Registrant’s Current Report on Form 8-K filed on January 23, 2006. | |
| (13) | Registrant hereby incorporates by reference to Registrant’s Form 10-K for the fiscal year ended December 31, 2005 as filed with the SEC on February 24, 2006. | |
| (14) | Registrant hereby incorporates by reference to Registrant’s Current Report on Form 8-K filed on March 20, 2006. | |
| (15) | Registrant hereby incorporates by reference to Registrant’s Form 10-Q for the quarter ended on September 30, 2006. | |
| (16) | Registrant hereby incorporates by reference to Registrant’s Form 10-K for the fiscal year ended December 31, 2006 as filed with the SEC on February 28, 2007. | |
| (17) | Registrant hereby incorporates by reference to Registrant’s Current Report on Form 8-K filed on December 4, 2007. | |
| (18) | Registrant hereby incorporates by reference to Registrant’s Current Report on Form 8-K filed on January 25, 2008. | |
| (19) | Registrant hereby incorporates by reference to Registrant’s Current Report on Form 8-K filed on January 25, 2008. |
Pinnacle Financial is a party to certain agreements entered into in connection with the offering by
PNFP Statutory Trust I, PNFP Statutory Trust II , PNFP Statutory Trust III, and PNFP Statutory
Trust IV of an aggregate of $80,000,000 in trust preferred securities, as more fully described in
this Annual Report on Form 10-K. In accordance with Item 601(b)(4)(ii) of
Page 99
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Regulation SB, and because the total amount of the trust preferred securities is not in excess of
10% of Pinnacle Financial’s total assets, Pinnacle Financial has not filed the various documents
and agreements associated with the trust preferred securities herewith. Pinnacle Financial has,
however, agreed to furnish copies of the various documents and agreements associated with the trust
preferred securities to the Securities and Exchange Commission upon request.
Page 100