SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-Q
QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF
THE SECURITIES EXCHANGE ACT OF 1934
For the quarterly period ended March 31, 2004 Commission File No. 000-22054
COMMUNITY BANKSHARES, INC.
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(Exact name of registrant as specified in its charter)
South Carolina 57-0966962
------------------------------- ----------------------------------
(State or other jurisdiction of (IRS Employer Identification No.)
incorporation or organization)
791 Broughton Street
Orangeburg, South Carolina 29115
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(Address of principal executive offices, zip code)
(803) 535-1060
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(Registrant's telephone number, including area code)
Indicate by check mark whether the registrant (1) has filed all reports
required to be filed by Section 13 or 15(d) of the Securities Exchange Act of
1934 during the preceding 12 months (or for such shorter period that the
registrant was required to file such reports), and (2) has been subject to such
filing requirements for the past 90 days.
Yes [X] No [ ]
Indicate by check mark whether the registrant is an accelerated filer
(as defined in Rule 12b-2 of the Exchange Act).
Yes [ ] No [X]
Indicate the number of shares outstanding of each of the issuer's
classes of common stock, as of the latest practicable date: Common Stock, no par
or stated value, 4,349,775 shares outstanding on April 29, 2004.
COMMUNITY BANKSHARES, INC.
FORM 10-Q
Index
Page
PART I - FINANCIAL INFORMATION
Item 1. Financial Statements
Consolidated Balance Sheet........................................ 3
Consolidated Statement of Income.................................. 4
Consolidated Statement of Changes in Shareholders' Equity......... 5
Consolidated Statement of Cash Flows ............................. 6
Notes to Unaudited Consolidated Financial Statements ............. 7
Item 2. Management's Discussion and Analysis
of Financial Condition and Results of Operations ................ 8
Item 3. Quantitative and Qualitative Disclosures About Market Risk .......16
Item 4. Controls and Procedures ..........................................16
PART II - OTHER INFORMATION
Item 6. Exhibits and Reports on Form 8-K .................................17
SIGNATURES ...................................................................18
2
PART I - FINANCIAL INFORMATION
Item 1. - Financial Statements
COMMUNITY BANKSHARES, INC.
Consolidated Balance Sheet
(Unaudited)
March 31, December 31,
2004 2003
----- ----
(Dollars in thousands)
Assets
Cash and due from banks ................................................................. $ 12,033 $ 16,554
Federal funds sold ...................................................................... 23,415 25,321
--------- ---------
Total cash and cash equivalents .................................................. 35,448 41,875
Interest bearing deposits with other banks .............................................. 1,073 1,124
Securities available-for-sale ........................................................... 56,100 64,864
Securities held-to-maturity (estimated fair value $2,009 for 2004
and $2,155 for 2003) ............................................................... 2,000 2,000
Other investments ....................................................................... 2,038 2,038
Loans held for sale ..................................................................... 12,500 8,411
Loans receivable ........................................................................ 338,945 332,106
Less, allowance for loan losses ..................................................... (4,205) (4,206)
--------- ---------
Net loans ........................................................................ 334,740 327,900
Premises and equipment - net ............................................................ 6,826 6,915
Accrued interest receivable ............................................................. 2,119 2,186
Net deferred income tax assets .......................................................... 634 805
Intangible assets ....................................................................... 7,589 7,650
Prepaid expenses and other assets ....................................................... 1,406 812
--------- ---------
Total assets ..................................................................... $ 462,473 $ 466,580
========= =========
Liabilities
Deposits
Non-interest bearing ................................................................ $ 58,899 $ 59,337
Interest bearing .................................................................... 308,706 319,367
--------- ---------
Total deposits ................................................................... 367,605 378,704
Short-term borrowings ................................................................... 13,010 17,960
Long-term debt .......................................................................... 30,450 20,140
Accrued interest payable ................................................................ 675 585
Accrued expenses and other liabilities .................................................. 1,359 1,121
--------- ---------
Total liabilities ................................................................ 413,099 418,510
--------- ---------
Shareholders' equity
Common stock - no par value; 12,000,000 shares authorized; issued and
outstanding - 4,336,112 for 2004 and 4,331,460 for 2003 ............................. 29,447 29,402
Retained earnings ....................................................................... 19,562 18,610
Accumulated other comprehensive income .................................................. 365 58
--------- ---------
Total shareholders' equity ....................................................... 49,374 48,070
--------- ---------
Total liabilities and shareholders' equity ....................................... $ 462,473 $ 466,580
========= =========
See accompanying notes to unaudited consolidated financial statements.
3
COMMUNITY BANKSHARES, INC.
Consolidated Statement of Income
(Unaudited)
Three Months Ended
March 31,
2004 2003
----- ----
(Dollars in thousands,
except per share)
Interest and dividend income
Loans, including fees ........................................................ $ 5,331 $ 5,526
Interest bearing deposits with other banks ................................... 4 4
Debt securities .............................................................. 496 493
Dividends .................................................................... 19 20
Federal funds sold ........................................................... 58 57
------- -------
Total interest and dividend income ....................................... 5,908 6,100
------- -------
Interest expense
Deposits
Time deposits $100M and over ................................................. 313 427
Other deposits ............................................................... 919 1,119
------- -------
Total interest expense on deposits ....................................... 1,232 1,546
Short-term borrowings ........................................................ 105 181
Long-term debt ............................................................... 303 274
------- -------
Total interest expense ................................................... 1,640 2,001
------- -------
Net interest income ............................................................... 4,268 4,099
Provision for loan losses ......................................................... 233 264
------- -------
Net interest income after provision ............................................... 4,035 3,835
------- -------
Noninterest income
Service charges on deposit accounts .......................................... 845 783
Mortgage brokerage income .................................................... 749 1,260
Net gains or losses on sales of securities ................................... (4) 46
Other ........................................................................ 256 215
------- -------
Total non-interest income ................................................ 1,846 2,304
------- -------
Noninterest expenses
Salaries and employee benefits ............................................... 2,111 2,351
Premises and equipment ....................................................... 491 403
Other ........................................................................ 1,131 981
------- -------
Total other expenses ..................................................... 3,733 3,735
------- -------
Income before income taxes ........................................................ 2,148 2,404
Income tax expense ................................................................ 763 823
------- -------
Net income ........................................................................ $ 1,385 $ 1,581
======= =======
Per share
Net income ................................................................... $ 0.32 $ 0.37
Net income - diluted ......................................................... 0.31 0.36
Cash dividends declared ...................................................... 0.10 0.09
See accompanying notes to unaudited consolidated financial statements.
4
COMMUNITY BANKSHARES, INC.
Consolidated Statement of Changes in Shareholders' Equity
(Unaudited)
Common Stock
------------ Accumulated
Number of Retained Other Comprehensive
Shares Amount Earnings Income Total
------ ------ -------- ------ -----
(Dollars in thousands, except per share)
Balance, January 1, 2003 .................................. 4,304,384 $ 29,090 $ 14,529 $ 98 $ 43,717
---------
Comprehensive income:
Net income ............................................ - - 1,581 - 1,581
---------
Unrealized holding gains and losses
on available-for-sale securities arising
during the period, net of income
taxes of $30 ........................................ - - - 54 54
Reclassification adjustment for losses (gains)
realized in income, net of
income taxes of $16 ................................. - - - (30) (30)
---------
Total other comprehensive income .................. - - - - 24
---------
Total comprehensive income ...................... - - - - 1,605
---------
Exercise of employee stock options ........................ 1,600 17 - - 17
Cash dividends declared, $.09 per share ................... - - (387) - (387)
--------- --------- --------- --------- ---------
Balance, March 31, 2003 ................................... 4,305,984 $ 29,107 $ 15,723 $ 122 $ 44,952
========= ========= ========= ========= =========
Balance, January 1, 2004 .................................. 4,331,460 $ 29,402 $ 18,610 $ 58 $ 48,070
---------
Comprehensive income:
Net income ............................................ - - 1,385 - 1,385
---------
Unrealized holding gains and losses
on available-for-sale securities arising
during the period, net of income
taxes of $171 ....................................... - - - 304 304
Reclassification adjustment for losses (gains)
realized in income, net of
income taxes of $1 .................................. - - - 3 3
---------
Total other comprehensive income .................. - - - - 307
---------
Total comprehensive income ...................... - - - - 1,692
---------
Exercise of employee stock options ........................ 4,652 45 - - 45
Cash dividends declared, $.10 per share ................... - - (433) - (433)
--------- --------- --------- --------- ---------
Balance, March 31, 2004 ................................... 4,336,112 $ 29,447 $ 19,562 $ 365 $ 49,374
========= ========= ========= ========= =========
See accompanying notes to unaudited consolidated financial statements.
5
COMMUNITY BANKSHARES, INC.
Consolidated Statement of Cash Flows
(Unaudited)
Three Months Ended
March 31,
2004 2003
----- ----
(Dollars in thousands)
Operating activities
Net income ............................................................................ $ 1,385 $ 1,581
Adjustments to reconcile net income to net
cash (used) provided by operating activities
Depreciation and amortization .................................................. 283 232
Net amortization of securities ................................................. 71 46
Provision for loan losses ...................................................... 233 264
Net losses or (gains) on sales of securities ................................... 4 (46)
Proceeds of sales of loans held for sale ....................................... 37,663 71,867
Originations of loans held for sale ............................................ (41,752) (70,394)
Decrease (increase) in accrued interest receivable ............................. 67 (25)
Increase in other assets ....................................................... (633) (201)
Gains on sales of other real estate ............................................ (9) -
Increase in accrued interest payable ........................................... 90 90
Other liabilities .............................................................. 238 308
-------- --------
Net cash (used) provided by operating activities ........................... (2,360) 3,722
-------- --------
Investing activities
Net decrease (increase) in interest bearing deposits due from banks ................... 51 (372)
Purchases of available-for-sale securities ............................................ (10,739) (19,847)
Maturities, calls and paydowns of available-for-sale securities ....................... 11,979 24,810
Proceeds of sales of available-for-sale securities .................................... 7,927 1,747
Net increase in loans made to customers ............................................... (7,084) (7,297)
Purchases of premises and equipment ................................................... (133) (221)
Proceeds from sales of other real estate .............................................. 59 -
-------- --------
Net cash provided (used) by investing activities ........................... 2,060 (1,180)
-------- --------
Financing activities
Net (decrease) increase in deposits ................................................... (11,099) 9,608
Net decrease in short-term borrowings ................................................. (4,950) (1,322)
Proceeds from issuing long-term debt .................................................. 10,310 -
Exercise of employee stock options .................................................... 45 17
Cash dividends paid ................................................................... (433) (387)
-------- --------
Net cash (used) provided by financing activities ........................... (6,127) 7,916
-------- --------
(Decrease) increase in cash and cash equivalents ........................................... (6,427) 10,458
Cash and cash equivalents, beginning of period ............................................. 41,875 38,569
-------- --------
Cash and cash equivalents, end of period ................................................... $ 35,448 $ 49,027
======== ========
Supplemental Disclosures of Cash Flow Information
Cash payments for interest ............................................................ $ 1,550 $ 1,907
======== ========
Cash payments for income taxes ........................................................ $ 179 $ 517
======== ========
Supplemental Disclosures of Non-Cash Investing Activities
Transfers of loans receivable to other real estate .................................... $ 11 $ 131
======== ========
See accompanying notes to unaudited consolidated financial statements.
6
COMMUNITY BANKSHARES, INC.
Notes to Unaudited Consolidated Financial Statements
Accounting Principles - A summary of significant accounting policies and the
audited financial statements for 2003 are included in Community Bankshares,
Inc.'s (the "Company" or "CBI") Annual Report on Form 10-K for the year ended
December 31, 2003. Certain amounts in the 2003 consolidated financial statements
have been reclassified to conform to the current period classification. Such
reclassification had no effect on previously reported shareholders' equity or
net income.
Management Opinion - The interim financial statements in this report are
unaudited. In the opinion of management, all the adjustments necessary to
present a fair statement of the results for the interim period have been made.
Such adjustments are of a normal and recurring nature. The results of operations
for any interim period are not necessarily indicative of the results to be
expected for an entire year. These interim financial statements should be read
in conjunction with the annual financial statements and notes thereto contained
in the 2003 Annual Report on Form 10-K.
Nonperforming Loans - As of March 31, 2004, there were $1,482,000 in nonaccrual
loans and loans 90 or more days past due and still accruing interest.
Earnings Per Share - Basic earnings per share is computed by dividing net income
applicable to common shares by the weighted average number of common shares
outstanding. Diluted earnings per share is computed by dividing applicable net
income by the weighted average number of shares outstanding and any dilutive
potential common shares and dilutive stock options. It is assumed that all
dilutive stock options are exercised at the beginning of each period and that
the proceeds are used to purchase shares of the Company's common stock at the
average market price during the period. Net income per share and net income per
share, assuming dilution, were computed as follows:
(Unaudited)
Three Months Ended
March 31,
2004 2003
---- ----
(Dollars in thousands,
except per share amounts)
Net income per share, basic
Numerator - net income ........................................................... $ 1,385 $ 1,581
========== ==========
Denominator
Weighted average common shares issued and outstanding .......................... 4,333,718 4,305,237
========== ==========
Net income per share, basic ......................................... $ .32 $ .37
========== ==========
Net income per share, assuming dilution
Numerator - net income ........................................................... $ 1,385 $ 1,581
========== ==========
Denominator
Weighted average common shares issued and outstanding .......................... 4,333,718 4,305,237
Effect of dilutive stock options ............................................... 142,560 114,796
---------- ----------
Total shares ........................................................ 4,476,278 4,420,033
========== ==========
Net income per share, assuming dilution ............................. $ .31 $ .36
========== ==========
Stock Based Compensation - The Company has elected to continue using the
methodology of Accounting Principles Board Opinion No. 25 ("APB No. 25"),
"Accounting for Stock Issued to Employees," to account for compensation expenses
related to stock-based compensation. Options issued under the Company's plans
have no intrinsic value at the grant date and no compensation cost is recognized
in accordance with APB No. 25. Statement of Financial Accounting Standards No.
123 ("SFAS No. 123"), "Accounting for Stock-Based Compensation," requires
entities to provide pro forma disclosures of net income, and earnings per share,
as if the fair value based method of accounting promulgated by that standard had
been applied. While the Company has adopted the disclosure provisions of SFAS
No. 123, as amended, there are no current intentions to adopt the fair value
recognition provisions of that statement. Had compensation cost for the
Company's stock option plan been determined based on the fair value as of the
grant dates for awards under the plans consistent with the method prescribed by
7
SFAS No. 123, the Company's net income and earnings per share would have been
adjusted to the pro forma amounts indicated below:
(Unaudited)
Three Months Ended
March 31,
2004 2003
---- ----
(Dollars in thousands,
except per share amounts)
Net income, as reported ........................................................ $ 1,385 $ 1,581
Deduct: Total stock-based employee
compensation expense determined under
fair value based method for all awards,
net of any related tax effects ........................................... 214 -
--------- ---------
Pro forma net income ........................................................... $ 1,171 $ 1,581
========= =========
Net income per share, basic
As reported .............................................................. $ 0.32 $ 0.37
Pro forma ................................................................ 0.27 0.37
Net income per share, assuming dilution
As reported .............................................................. $ 0.31 $ 0.36
Pro forma ................................................................ 0.26 0.36
Variable Interest Entities - On March 8, 2004, CBI sponsored the creation of a
Delaware trust, SCB Capital Trust I (the "Trust"), and is the sole owner of the
common securities issued by the Trust. On March 10, 2004, the Trust issued
$10,000,000 in floating rate capital securities. The proceeds of this issuance,
and the amount of CBI's capital investment, were used to acquire $10,310,000
principal amount of CBI's floating rate junior subordinated deferrable interest
debt securities ("Debentures") due April 7, 2034, which securities, and the
accrued interest thereon, now constitute the Trust's sole assets. The interest
rate associated with the debt securities, and the distribution rate on the
common securities of the Trust, was established initially at 3.91% and is
adjustable quarterly at 3 month LIBOR plus 280 basis points. The index rate
(LIBOR) may not be lower than 1.11%. CBI may defer interest payments on the
Debentures for up to twenty consecutive quarters, but not beyond the stated
maturity date of the Debentures. In the event that such interest payments are
deferred by CBI, the Trust may defer distributions on the common securities. In
such an event, CBI would be restricted in its ability to pay dividends on its
common stock and perform under other obligations that are not senior to the
junior subordinated Debentures.
The Debentures are redeemable at par at the option of CBI, in whole or
in part, on any interest payment date on or after April 7, 2009. Prior to that
date, the Debentures are redeemable at 105% of par upon the occurrence of
certain events that would have a negative effect on the Trust or that would
cause it to be required to be registered as an investment company under the
Investment Company Act of 1940 or that would cause trust preferred securities
not to be eligible to be treated as Tier 1 capital by the Federal Reserve Board.
Upon repayment or redemption of the Debentures, the Trust will use the proceeds
of the transaction to redeem an equivalent amount of trust preferred securities
and trust common securities. The Trust's obligations under the trust preferred
securities are unconditionally guaranteed by CBI.
The Company's investment in the Trust is carried at cost in other
assets and the debentures are included in long-term debt in the consolidated
balance sheet.
Item 2. Management's Discussion and Analysis of Financial Condition and Results
of Operations
Forward Looking Statements
Statements included in Management's Discussion and Analysis of
Financial Condition and Results of Operations which are not historical in nature
are intended to be, and are hereby identified as "forward looking statements"
for purposes of the safe harbor provided by Section 21E of the Securities
Exchange Act of 1934, as amended. Forward-looking statements include statements
8
other than statements of historical facts concerning plans, objectives, goals,
strategies, future events or performance and underlying assumptions. Such
forward-looking statements may be identified, without limitation, by the use of
the words "anticipates," "believes," "estimates," "expects," "intends," "plans,"
"predicts," "projects," and similar expressions. The Company's expectations,
beliefs, estimates and projections are expressed in good faith and are believed
by the Company to have a reasonable basis, including without limitation,
management's examination of historical operating trends, data contained in the
Company's records and other data available from third parties, but there can be
no assurance that management's expectations, beliefs, estimates or projections
will result or be achieved or accomplished. The Company cautions readers that
forward looking statements, including without limitation, those relating to the
Company's recent and continuing expansion, its future business prospects,
revenues, working capital, liquidity, capital needs, interest costs, income, and
adequacy of the allowance for loan losses, are subject to risks and
uncertainties that could cause actual results to differ materially from those
indicated in the forward-looking statements, due to several important factors
herein identified, among others, and other risks and factors identified from
time to time in the Company's reports filed with the Securities and Exchange
Commission. The Company undertakes no obligation to publicly update or revise
any forward-looking statements, whether as a result of new information, future
events or otherwise.
Critical Accounting Policies
CBI has adopted various accounting policies, which govern the
application of accounting principles generally accepted in the United States of
America in the preparation of CBI's financial statements. The significant
accounting policies of CBI are described in detail in the notes to CBI's audited
consolidated financial statements included in CBI's Annual Report on Form 10-K.
Certain accounting policies involve significant judgments and estimates
by management, which have a material impact on the carrying value of certain
assets and liabilities. Management considers such accounting policies to be
critical accounting policies. The judgments and estimates used by management are
based on historical experience and other factors, which are believed to be
reasonable under the circumstances. Because of the nature of the judgments and
assumptions made by management, actual results could differ from these judgments
and estimates, which could have a material impact on the carrying values of
assets and liabilities and the results of operations of CBI.
CBI is a holding company for four community banks and a mortgage
company and, as a financial institution, believes the allowance for loan losses
is a critical accounting policy that requires the most significant judgments and
estimates used in preparation of its consolidated financial statements. Refer to
the sections "Allowance for Loan Losses" and "Provision for Loan Losses" in the
Annual Report on Form 10-K for 2003 for a detailed description of CBI's
estimation process and methodology related to the allowance for loan losses.
RESULTS OF OPERATIONS
Earnings Performance
For the quarter ended March 31, 2004, CBI earned consolidated net
income of $1,385,000, compared with $1,581,000 for the comparable period of
2003. This represents a decrease of $196,000 or 12.4%. Basic earnings per share
were $.32 in the 2004 period, compared with $.37 for the 2003 quarter. Diluted
earnings per share were $.31 for the 2004 period and $.36 for the 2003 period.
Operating results for the first quarter of 2004 were adversely affected
primarily by lower demand for mortgage loan refinancing and other related
activity. Because the current low interest rate environment has lasted for a
relatively long period of time, most homeowners who would be inclined to
refinance existing mortgage debts probably have already done so. As a result,
demand for refinancings has declined markedly from the level of 2003. The
current level of mortgage loan activity is believed to reflect more nearly the
underlying "base" amount of such activity resulting from normal, ongoing factors
and, accordingly, is believed to more indicative of a sustainable level of such
activity.
The prime lending rate for the first quarter 2004 averaged 4.00%,
compared with 4.25% for the same quarter in 2003, putting continuing pressure on
CBI's net interest margin. The average yield on earning assets in 2004 was
5.51%, a 56 basis point decline from the same period of 2003. However, CBI's
average rate paid on interest bearing liabilities declined also, from 2.37% for
the 2003 period to 1.86% for the 2004 period. As a result, interest rate spread
decreased only 5 basis points and net interest margin for 2004 was just 10 basis
points lower than in 2003. The Company believes that its reductions in rates
paid on deposit accounts are comparable to the practices of other competing
financial institutions in its market areas. However, because the rates offered
for such deposit instruments have declined to such low levels, the ability to
effect further cost reductions in this area is believed to be limited.
9
Summary Income Statement
-------------------------------------------------------------------
(Dollars in thousands)
For the Three Months Ended March 31, 2004 2003 Dollar Change Percentage Change
---- ---- ------------- -----------------
Interest income ................................... $5,908 $6,100 $ (192) -3.1%
Interest expense .................................. 1,640 2,001 (361) -18.0%
------ ------ ------
Net interest income ............................... 4,268 4,099 169 4.1%
Provision for loan losses ......................... 233 264 (31) -11.7%
Noninterest income ................................ 1,846 2,304 (458) -19.9%
Noninterest expenses .............................. 3,733 3,735 (2) -0.1%
Income tax expense ................................ 763 823 (60) -7.3%
------ ------ ------
Net income ........................................ $1,385 $1,581 $ (196) -12.4%
====== ====== ======
Net Interest Income
Net interest income is the amount of interest income earned on interest
earning assets (primarily loans, securities, interest bearing deposits in other
banks, and federal funds sold), less the interest expense incurred on interest
bearing liabilities (interest bearing deposits and other borrowings), and is the
principal source of the Company's earnings. Net interest income is affected by
the level of interest rates, volume and mix of interest earning assets and
interest bearing liabilities and the relative funding of those assets.
Interest income decreased by $192,000, or 3.1%, in the 2004 quarter
compared with the same 2003 period. Interest income from mortgage activities
declined from $251,000 in the 2003 period to $110,000 for 2004, primarily as a
result of the decreased level of activity discussed above. Interest on other
lending activities declined from $5,275,000 in the 2003 period to $5,221,000 in
the 2004 period due to the lower interest rate environment. Amounts of interest
earned on other categories of interest earning assets were substantially
unchanged, in the aggregate, as reductions in the average yields earned on those
assets were offset by increased average balances held. However, an increase of
$22,000 in income from taxable securities was offset by a $20,000 reduction in
income from tax-exempt securities.
Interest expense for deposits decreased from $1,546,000 for the 2003
period to $1,232,000 for the 2004 period primarily due to a 62 basis point
reduction in the rate paid for time deposits and a 37 basis point decline in the
rate paid for savings deposits. Offsetting the effects of these rate reductions
were sizable increases in the average amounts of interest bearing transaction
and savings accounts. In addition, because of the lower demand for mortgage
loan-related products, the Company's average amounts of short-term borrowings
declined from $29,832,000 in the 2003 period to $16,767,000 for the 2004 period.
As a result, the interest expense for such borrowings declined from $181,000 in
2003 to $105,000 for 2004.
During the first quarter of 2004, CBI sponsored the creation of a Trust
that issued $10,000,000 in trust preferred securities. The Trust invested the
proceeds of this issuance and $310,000 of capital provided by CBI into
$10,310,000 of junior subordinated debentures ("Debentures") issued by CBI.
Interest payments on the Debentures are due quarterly at a variable interest
rate. CBI used the proceeds of the Debentures to repay certain pre-existing debt
obligations, to enhance the capital position of two of the subsidiary banks, to
provide an additional funding mechanism for its mortgage brokerage activities,
and for other general corporate purposes. Although the interest rate associated
with the debt is variable, management believes that the indenture provisions
governing that variability will result in less volatility in interest expense
than achievable under certain short-term debt agreements. In addition, because
of the long-term nature of the new arrangement, transaction costs, such as those
incurred to renew lines of credit, are expected to be reduced. Furthermore,
under current regulatory guidelines, the trust preferred securities issued by
the Trust are includible in Tier 1 capital for risk-based capital purposes.
10
Average Balances, Yields and Rates
Three Months Ended March 31,
----------------------------
2004 2003
---- ----
Interest Interest
Average Income/ Yields/ Average Income/ Yields/
Balances Expense Rates* Balances Expense Rates*
-------- ------- ------ -------- ------- ------
(Dollars in thousands)
Assets
Interest earning deposits ............................... $ 1,110 $ 4 1.46% $ 576 $ 4 2.82%
Investment securities - taxable ......................... 57,236 431 3.05% 44,758 409 3.71%
Investment securities - tax exempt ...................... 10,208 84 3.34% 9,534 104 4.42%
Federal funds sold ...................................... 24,647 58 0.95% 20,441 57 1.13%
Loans, including loans held for sale .................... 341,982 5,331 6.32% 332,526 5,526 6.74%
--------- --------- --------- --------
Total interest earning assets .............. 435,183 5,908 5.51% 407,835 6,100 6.07%
Cash and due from banks ................................. 17,314 14,313
Allowance for loan losses ............................... (4,162) (3,607)
Premises and equipment .................................. 7,073 6,615
Intangible assets ....................................... 7,618 7,864
Other assets ............................................ 3,860 3,386
--------- ---------
Total assets ............................... $ 466,886 $ 436,406
========= =========
Liabilities and shareholders' equity
Interest bearing deposits
Interest bearing transaction accounts ............ $ 57,474 $ 66 0.47% $ 40,891 $ 51 0.51%
Savings .......................................... 79,663 183 0.93% 66,553 214 1.30%
Time deposits .................................... 181,616 983 2.20% 184,417 1,281 2.82%
--------- --------- --------- --------
Total interest bearing deposits ............ 318,753 1,232 1.57% 291,861 1,546 2.15%
Short-term borrowings ................................... 16,767 105 2.54% 29,832 181 2.46%
Long-term debt .......................................... 22,718 303 5.41% 20,210 274 5.50%
--------- --------- --------- --------
Total interest bearing liabilities ......... 358,238 1,640 1.86% 341,903 2,001 2.37%
Noninterest bearing demand deposits ..................... 58,045 47,939
Other liabilities ....................................... 1,836 1,956
Shareholders' equity .................................... 48,767 44,608
--------- ---------
Total liabilities and shareholders' equity .............. $ 466,886 $ 436,406
========= =========
Interest rate spread .................................... 3.65% 3.70%
Net interest income and net yield
on earning assets ................................ $ 4,268 3.98% $ 4,099 4.08%
Interest free funds supporting earning assets .......... $ 76,945 $ 65,932
* Yields and rates are annualized.
Provision and Allowance for Loan Losses
The provision for loan losses for the 2004 period was $233,000, a
decrease of $31,000, or 11.7%, from the $264,000 for the same period of 2003.
During the first quarter of 2004, a nonaccrual loan in the amount of $1,350,000,
or approximately 52% of CBI's December 31, 2003 nonaccrual loans, was
satisfactorily resolved with CBI collecting all principal and interest owed.
Because of this favorable outcome, the amount previously included in the
allowance for loan losses for this loan was no longer required. Therefore, the
2004 provision for loan losses was beneficially affected.
11
Net charge-offs during the three months ended March 31, 2004 were
$234,000, compared with $70,000 for the same period of 2003. The allowance for
loan losses as of March 31, 2004 was 1.24% of loans outstanding, compared with
1.27% as of December 31, 2003 and 1.20% as of March 31, 2003. Non-performing
loans totaled $1,482,000 as of March 31, 2004, compared with $2,741,000 as of
December 31, 2003, a decrease of $1,259,000 or 45.9%. The coverage ratio
(allowance for loan losses divided by non-performing loans) was 2.84x as of
March 31, 2004 and 1.53x as of December 31, 2003. The majority of non-performing
loans at March 31, 2004 were secured by commercial real estate and other
collateral.
Management believes that the allowance for loan losses, as of March 31,
2004, is adequate to absorb the losses inherent in the loan portfolio.
Management will continue to monitor the levels of non-performing and potential
problem loans and address the weaknesses in these credits to enhance the
ultimate collection or recovery of these assets. Management considers the levels
and trends in non-performing assets and past due loans in determining how the
provision and allowance for loan losses is estimated and adjusted.
The activity in the allowance for loan losses is summarized in the
following table:
Three Months Ended Year Ended Three Months Ended
March 31, 2004 December 31, 2003 March 31, 2003
-------------- ----------------- --------------
(Dollars in thousands)
Allowance at beginning of period ................................. $ 4,206 $ 3,573 $ 3,573
Provision for loan losses ........................................ 233 1,119 264
Net charge-offs .................................................. (234) (486) (70)
--------- --------- ---------
Allowance at end of period ....................................... $ 4,205 $ 4,206 $ 3,767
========= ========= =========
Allowance as a percentage of loans outstanding ................... 1.24% 1.27% 1.20%
Loans at end of period ........................................... $ 338,945 $ 332,106 $ 313,711
========= ========= =========
Following is a summary of non-performing loans as of March 31, 2004 and
December 31, 2003:
March 31, December 31,
2004 2003
---- ----
(Dollars in thousands)
Non-performing loans
Nonaccrual loans ................................... $1,162 $2,595
Past due 90 days or more and still accruing ........ 320 146
------ ------
Total ................................ $1,482 $2,741
====== ======
Nonperforming loans as a percentage
of loans outstanding ............................... 0.44% 0.83%
Noninterest Income
Non-interest income for the 2004 period decreased $458,000, or 19.9%,
from the $2,304,000 reported for the 2003 period. Mortgage brokerage income
decreased $511,000, or 40.6%, from $1,260,000 in the 2003 period to $749,000 for
the 2004 period, due to the market factors discussed previously. Service charge
income continued to improve, totaling $845,000 in the 2004 period, an increase
of $62,000, or 7.9%, due to the continued success of the Automatic Overdraft
Protection product.
12
Noninterest Expenses
Salaries and employee benefits for the 2004 period were $240,000, or
10.2%, less than for the same period of 2003. This decrease resulted primarily
from the decreased level of activity in the mortgage brokerage subsidiary.
Because demand for refinancing and other mortgage loan products has declined
recently, the number of employees needed to conduct the operations of that
company has decreased. Also, that entity's compensation system is predominantly
commission-based. Expenses associated with premises and equipment were $88,000,
or 21.8%, higher in the 2004 period, primarily due to the acquisition and
implementation of hardware and software associated with imaging technologies.
Over time, the use of such technology is expected to reduce postage expense,
reduce time required for research, improve internal processes and access to
information, enable the Company to take advantage of the opportunities presented
by the recent Check 21 legislation, and enhance the Company's ability to provide
service to its customers. Other expenses were $150,000, or 15.3%, higher in the
2004 period. The major area of increase was advertising, which was increased
primarily as a result of the mortgage company's efforts to increase sales.
Income Taxes
Although income tax expense for 2004 decreased $60,000, or 7.3%, from
the amount for 2003, the average tax rate for 2004 was 35.5% while in 2003 it
was 34.2%. The increase in the average tax rate for 2004 is a result of a lower
percentage of income being derived from tax-exempt sources in the current
period. While average interest earning assets for the 2004 period were
$27,348,000, or 6.7%, more than in the 2003 period, tax-exempt investments
increased only $674,000, or 7.1%, and the yield on such securities decreased by
108 basis points, or 24.4%. As a result of these factors, interest income
derived from tax-exempt investment securities was $20,000 less in 2004 than in
2003 and was 3.9% of pretax income in the 2004 period, compared with 4.3% in the
2003 period.
LIQUIDITY
Liquidity is the ability to meet current and future obligations through
liquidation or maturity of existing assets or the acquisition of additional
liabilities. Adequate liquidity is necessary to meet the requirements of
customers for loans and deposit withdrawals in a timely and economical manner.
The most manageable sources of liquidity are composed of liabilities, with the
primary focus of liquidity management being the ability to attract deposits
within CBI's service areas. Individual and commercial deposits are the primary
source of funds for credit activities, along with long-term borrowings from the
Federal Home Loan Bank of Atlanta and the net proceeds of issuing $10,000,000 of
trust preferred securities. Cash and amounts due from banks and federal funds
sold are CBI's primary sources of asset liquidity. These funds provide a cushion
against short-term fluctuation in cash flow from both loans and deposits.
Securities available-for-sale are CBI's principal source of secondary asset
liquidity. However, the availability of this source is limited by pledging
commitments for public deposits and securities sold under agreements to
repurchase, and is influenced by market conditions.
Total deposits as of March 31, 2003 were $367,605,000, a decrease of
$11,099,000, or 2.9%, from the amount as of December 31, 2003, primarily as a
result of fluctuations in the amounts of public deposits held by the banking
subsidiaries. As of March 31, 2003 the loan to deposit ratio was 92.2%, compared
with 87.7% at December 31, 2003 and 90.5% at March 31, 2003.
Management believes CBI and its subsidiaries' liquidity sources are
adequate to meet their current and projected operating needs.
CAPITAL RESOURCES
CBI and its banking subsidiaries are subject to regulatory risk-based
capital adequacy standards. Under these standards, bank holding companies and
banks are required to maintain certain minimum ratios of capital to
risk-weighted assets and average total assets. Under the provisions of the
Federal Deposit Insurance Corporation Improvement Act of 1991, federal bank
regulatory authorities are required to implement prescribed "prompt corrective
actions" upon the deterioration of the capital position of a bank. If the
capital position of an affected institution were to fall below a certain level,
increasingly stringent regulatory corrective actions would be mandated.
The March 31, 2004 risk-based capital ratios for CBI and its banking
subsidiaries are presented in the following table, compared with the "well
capitalized" and minimum ratios under the regulatory definitions and guidelines:
13
March 31, 2004
--------------
Tier 1 Total Capital Leverage
------ ------------- --------
Community Bankshares, Inc. ................. 15.25% 16.39% 11.19%
Orangeburg National Bank ................... 13.05% 14.30% 8.90%
Sumter National Bank ....................... 10.91% 12.12% 9.53%
Florence National Bank ..................... 12.14% 13.25% 10.47%
Bank of Ridgeway ........................... 14.05% 14.94% 8.43%
Minimum "well capitalized" requirement ..... 6.00% 10.00% 6.00%
Minimum requirement ........................ 4.00% 8.00% 4.00%
As shown in the table above, each of the capital ratios exceeds the
regulatory requirement to be considered "well capitalized." In the opinion of
management, the current and projected capital positions of CBI and its banking
subsidiaries are adequate.
OFF-BALANCE-SHEET ARRANGEMENTS
In the normal course of business, CBI engages in transactions that, in
accordance with generally accepted accounting principles, are not recorded in
the financial statements (generally commitments to extend credit) or are
recorded in amounts that differ from their notional amounts (generally
derivatives). These transactions involve elements of credit, interest rate and
liquidity risk of varying degrees. Such transactions are used by CBI for general
corporate purposes.
Variable Interest Entity
As discussd under "Results of Operations - Net Interest Income" and in
the notes to unaudited consolidated financial statements under "Variable
Interest Entities," as of March 31, 2004, CBI held an equity interest in, and
guarantees the liabilities of, a non-consolidated variable interest entity.
Commitments
CBI's banking and mortgage brokerage subsidiaries are parties to credit
related financial instruments with off-balance-sheet risk in the normal course
of business to meet the financing needs of their customers. These financial
instruments include commitments to extend credit and standby letters of credit.
Such commitments involve varying degrees of credit and interest rate risk in
excess of the amount recognized in the consolidated balance sheets. Exposure to
credit loss is represented by the contractual, or notional, amounts of these
commitments. The same credit policies are used in making commitments as for
on-balance-sheet instruments.
14
The following table sets forth the contractual amounts of commitments which
represent credit risk:
March 31, 2004
--------------
(Dollars in
thousands)
Loan commitments ................................... $ 44,776
Standby letters of credit .......................... 2,730
Commitments to extend credit are agreements to lend to a customer as
long as there is no violation of any condition established in the contract.
Commitments generally have fixed expiration dates or other termination clauses
and may require payment of a fee. Since many of the commitments are expected to
expire without being drawn upon, the total commitment amounts do not necessarily
represent future cash requirements. The amount of collateral obtained, if deemed
necessary by management upon extension of credit, is based on management's
credit evaluation of the counter-party. Collateral held varies but may include
personal residences, accounts receivable, inventory, property, plant and
equipment, and income-producing commercial properties.
Standby letters of credit are conditional commitments issued to
guarantee the performance of a customer to a third party. Those letters of
credit are primarily issued to support private borrowing arrangements. All
letters of credit are short-term guarantees. The credit risk involved in issuing
letters of credit is essentially the same as that involved in extending loan
facilities to customers. Generally, collateral supporting those commitments is
held if deemed necessary. Since many of the standby letters of credit are
expected to expire without being drawn upon, the total letter of credit amounts
do not necessarily represent future cash requirements.
Derivative Financial Instruments
In April, 2003, the Financial Accounting Standards Board issued
Statement No. 149, "Amendment of Statement 133 on Derivative Instruments and
Hedging Activities." Among other requirements, this Statement provides that loan
commitment contracts entered into or modified after June 30, 2003 that relate to
the origination of mortgage loans that will be held for sale shall be accounted
for as derivative instruments by the issuer of the loan commitment. CBI issues
mortgage loan rate lock commitments to potential borrowers to facilitate its
origination of home mortgage loans that are intended to be sold. Between the
time that CBI issues its commitments and the time that the loans close and are
sold, CBI is subject to variability in the selling prices related to those
commitments due to changes in market rates of interest. However, CBI offsets
this variability through the use of so-called "forward sales contracts" to
investors in the secondary market. Under these arrangements, an investor agrees
to purchase the closed loans at a predetermined price. CBI generally enters into
such forward sales contracts at the same time that rate lock commitments are
issued. These arrangements are designated as fair value hedges. These derivative
financial instruments are carried in the balance sheet at estimated fair value
and changes in the estimated fair values of these derivatives are recorded in
the statement of income in net gains or losses on loans held for sale. Because
CBI has effectively matched its forward sales contracts to investors and rate
lock commitments to potential borrowers, no net gains or losses due to changes
in market interest rates have been recorded in the statement of income.
Derivative financial instruments are written in amounts referred to as
notional amounts. Notional amounts only provide the basis for calculating
payments between counterparties and do not represent amounts to be exchanged
between parties or a measure of financial risk. The following table includes the
notional principal amounts of rate lock commitments and forward sales contracts
as of March 31, 2004, and the estimated fair values of those financial
instruments included in other assets and liabilities in the balance sheet as of
that date.
15
March 31, 2004
--------------
Estimated
Fair Value
Notional Asset
Amount (Liability)
------ -----------
(Dollars in thousands)
Rate lock commitments to potential borrowers
to originate mortgage loans to be held for sale ..... $10,765 $ (76)
Forward sales contracts with investors
of mortgage loans to be held for sale ............... 10,765 76
Item 3. Quantitative and Qualitative Disclosures about Market Risk
Market risk is the risk of loss from adverse changes in market prices
and rates. CBI's market risk arises principally from interest rate risk inherent
in its lending, deposit and borrowing activities. Management actively monitors
and manages its interest rate risk exposure. Although CBI manages other risks,
such as credit quality and liquidity risk in the normal course of business,
management considers interest rate risk to be its most significant market risk
and this risk could potentially have the largest material effect on CBI's
financial condition and results of operations. Other types of market risks such
as foreign currency exchange risk and commodity price risk do not arise in the
normal course of community banking activities.
CBI's Asset/Liability Committee uses a simulation model to assist in
achieving consistent growth in net interest income while managing interest rate
risk. According to the model, as of March 31, 2004, CBI is positioned so that
net interest income would increase $383,000 and net income would increase
$227,000 in the next twelve months if interest rates rose 100 basis points.
Conversely, net interest income would decline $483,000 and net income would
decline $297,000 in the next twelve months if interest rates declined 100 basis
points. CBI issued $10 million in trust preferred securities that float with
LIBOR, which are at or near their contractual floor rate. In the current
interest rate environment, it is not expected that there will be any large
decreases in market interest rates in the immediate future. Computation of
prospective effects of hypothetical interest rate changes are based on numerous
assumptions, including relative levels of market interest rates and loan
prepayment, and should not be relied upon as indicative of actual results.
Further, the computations do not contemplate any actions CBI and its customers
could undertake in response to changes in interest rates.
As of March 31, 2004 there was no significant change from the interest
rate sensitivity analysis for the various changes in interest rates calculated
as of December 31, 2003. The foregoing disclosures related to the market risk of
CBI should be read in connection with Management's Discussion and Analysis of
Financial Position and Results of Operations included in the 2003 Annual Report
on Form 10-K.
Item 4. Controls and Procedures
Based on the evaluation required by 17 C.F.R. Section 240.13a-15(b) or
240.15d-15(b) of the Company's disclosure controls and procedures (as defined in
17 C.F.R. Sections 240.13a-15(e) and 240.15d-15(e)), the Company's chief
executive officer and chief financial officer concluded that the effectiveness
of such controls and procedures, as of the end of the period covered by this
quarterly report, was adequate.
No disclosure is required under 17 C.F.R. Section 229.308(c).
16
PART II--OTHER INFORMATION
Item 6. Exhibits and Reports on Form 8-K
a) Exhibits 10-1 Indenture, dated as of March 10, 2004, between Community
Bankshares, Inc. and Wells Fargo Bank, National Association
10-2 Amended and Restated Declaration of Trust, SCB Capital
Trust I, dated as of March 10, 2004
10-3 Guranty Agreement, dated as of March 10, 2004
31-1 Rule 13a-14(a)/15d-14(a) Certification of principal
executive officer
31-2 Rule 13a-14(a)/15d-14(a) Certification of principal
financial officer
32 Certifications Pursuant to 18 U.S.C. Section 1350
b) Reports on Form 8-K. Form 8-K filed January 23, 2004 pursuant to Items 7
and 12 of that Form.
17
SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934,
the registrant has duly caused this report to be signed on its behalf by the
undersigned, thereunto duly authorized.
DATED: May 12, 2004
COMMUNITY BANKSHARES, INC.
By: s/ E. J. Ayers, Jr.,
----------------------
E. J. Ayers, Jr.,
Chief Executive Officer
By: s/ William W. Traynham
-----------------------
William W. Traynham
President and Chief Financial Officer
(Principal Accounting Officer)
18
EXHIBIT INDEX
10-1 Indenture, dated as of March 10, 2004, between Community
Bankshares, Inc. and Wells Fargo Bank, National Association
10-2 Amended and Restated Declaration of Trust, SCB Capital
Trust I, dated as of March 10, 2004
10-3 Guranty Agreement, dated as of March 10, 2004
31-1 Rule 13a-14(a)/15d-14(a) Certification of principal
executive officer
31-2 Rule 13a-14(a)/15d-14(a) Certification of principal
financial officer
32 Certifications Pursuant to 18 U.S.C. Section 1350
19