UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington D.C. 20549
-------------------------
FORM 10-Q
(Mark One)
[X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE
ACT OF 1934
For the quarterly period ended June 30, 2002
--------------
OR
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
For the transition period from ________ to ________
Commission File Number: 0-24626
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COOPERATIVE BANKSHARES, INC.
---------------------------
(Exact name of registrant as specified in its charter)
North Carolina 56-1886527
- ------------------------------------------------- -------------------
(State or other jurisdiction of incorporation or (I.R.S. Employer
organization) Identification No.)
201 Market Street, Wilmington, North Carolina 28401
- --------------------------------------------- ----------
(Address of principal executive offices) (Zip Code)
Registrant's telephone number, including area code: (910) 343-0181
--------------
Former name, former address and former fiscal year,
if changed since last report.
- --------------------------------------------------------------------------------
Indicate by check mark whether the registrant (1) has filed all reports
required to be filed by Section 13 of 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.
[X] Yes [ ] No
APPLICABLE ONLY TO CORPORATE ISSUERS: Indicate the number of shares outstanding
of each of the issuer's classes of common stock, as of the latest practicable
date. 2,835,947 shares at July 31, 2002
---------------------------------
TABLE OF CONTENTS
Page
Part I Financial Information
Item 1 Financial Statements
Consolidated Statements of Financial Condition,
June 30, 2002 and December 31, 2001 2
Consolidated Statements of Operations, for the
three and six months ended June 30, 2002 and 2001 3
Consolidated Statement of Stockholders' Equity,
for the six months ended June 30, 2002 4
Consolidated Statements of Cash Flows, for the
six months ended June 30, 2002 and 2001 5-6
Notes to Consolidated Financial Statements 7-9
Item 2 Management's Discussion and Analysis of Financial
Condition and Results of Operations 10-17
Item 3 Market Risk 17
Part II Other Information 18
Signatures 19
Exhibit 99
PART I - FINANCIAL INFORMATION - FINANCIAL STATEMENTS
COOPERATIVE BANKSHARES, INC. AND SUBSIDIARY
CONSOLIDATED STATEMENTS OF FINANCIAL CONDITION
JUNE 30, 2002 December 31, 2001*
------------- ------------------
(unaudited)
ASSETS
Cash and due from banks, noninterest-bearing $ 11,486,565 $ 10,709,799
Interest-bearing deposits in other banks 2,386,990 1,585,779
------------ ------------
Total cash and cash equivalents 13,873,555 12,295,578
Securities:
Available for sale (amortized cost of $39,263,986 in June 2002
and $42,661,527 in December 2001) 39,598,524 42,970,180
Held to maturity (estimated market value of $9,018,725 in June
2002 and $5,282,815 in December 2001) 8,838,807 5,000,000
FHLB stock 4,154,900 4,154,900
Loans held for sale 6,557,504 --
Loans 387,462,919 375,980,628
Less allowance for loan losses 2,591,792 2,522,737
------------ ------------
Net loans 384,871,127 373,457,891
Other real estate owned 1,283,041 759,272
Accrued interest receivable 2,388,917 2,637,367
Premises and equipment, net 6,594,514 6,471,715
Other assets 11,273,681 10,367,162
------------ ------------
Total assets $479,434,570 $458,114,065
============ ============
LIABILITIES AND STOCKHOLDERS' EQUITY
Deposits $360,535,738 $339,830,052
Short-term borrowings 37,833,591 35,000,000
Escrow deposits 648,267 220,944
Accrued interest payable 267,443 264,391
Accrued expenses and other liabilities 1,279,012 1,083,242
Long-term obligations 43,094,905 48,097,156
------------ ------------
Total liabilities 443,658,956 424,495,785
------------ ------------
Stockholders' equity:
Preferred stock, $1 par value, 3,000,000 shares authorized,
no shares issued and outstanding -- --
Common stock, $1 par value, 7,000,000 shares authorized,
2,835,947 and 2,835,447 shares issued and outstanding 2,835,947 2,835,447
Additional paid-in capital 2,440,644 2,435,720
Accumulated other comprehensive income 204,068 188,278
Retained earnings 30,294,955 28,158,835
------------ ------------
Total stockholders' equity 35,775,614 33,618,280
------------ ------------
Total liabilities and stockholders' equity $479,434,570 $458,114,065
============ ============
Book value per common share $ 12.62 $ 11.86
============ ============
*Derived from audited consolidated financial statements
The accompanying notes are an integral part of the consolidated financial
statements.
2
COOPERATIVE BANKSHARES, INC. AND SUBSIDIARY
CONSOLIDATED STATEMENTS OF OPERATIONS
(Unaudited)
THREE MONTHS ENDED SIX MONTHS ENDED
JUNE 30, JUNE 30,
2002 2001 2002 2001
---------- ---------- ----------- -----------
INTEREST INCOME:
Loans $6,653,357 $7,006,622 $13,248,903 $14,152,016
Securities 673,851 696,892 1,369,739 1,232,212
Other 11,625 58,129 23,918 228,335
Dividends on FHLB stock 54,384 63,197 113,292 130,329
---------- ---------- ----------- -----------
Total interest income 7,393,217 7,824,840 14,755,852 15,742,892
---------- ---------- ----------- -----------
INTEREST EXPENSE:
Deposits 2,610,028 3,967,552 5,455,370 8,092,831
Borrowed funds 892,076 855,064 1,804,729 1,701,870
---------- ---------- ----------- -----------
Total interest expense 3,502,104 4,822,616 7,260,099 9,794,701
---------- ---------- ----------- -----------
NET INTEREST INCOME 3,891,113 3,002,224 7,495,753 5,948,191
Provision for loan losses 120,000 90,000 400,000 180,000
---------- ---------- ----------- -----------
Net interest income after provision for loan losses 3,771,113 2,912,224 7,095,753 5,768,191
---------- ---------- ----------- -----------
NONINTEREST INCOME:
Net gains on sale of loans 79,388 2,420 97,668 2,420
Net gains on sale of securities 18,417 12,399 135,182 12,399
Service charges and fees on loans 136,374 176,498 337,756 335,215
Deposit-related fees 262,693 243,138 510,929 482,514
Gain (loss) on sale of premises and equipment -- -- 464,977 (3,318)
Bank-owned life insurance earnings 99,837 -- 199,674 --
Other income, net 42,858 27,667 102,974 47,869
---------- ---------- ----------- -----------
Total noninterest income 639,567 462,122 1,849,160 877,099
---------- ---------- ----------- -----------
NONINTEREST EXPENSE:
Compensation and fringe benefits 1,570,690 1,269,547 3,006,544 2,566,176
Occupancy and equipment 549,184 521,985 1,067,395 1,065,802
Advertising 66,317 64,485 136,820 110,945
Real estate owned 3,985 (1,548) 10,527 (638)
Other 457,024 421,001 975,985 906,651
---------- ---------- ----------- -----------
Total noninterest expenses 2,647,200 2,275,470 5,197,271 4,648,936
---------- ---------- ----------- -----------
Income before income taxes 1,763,480 1,098,876 3,747,642 1,996,354
Income tax expense 632,318 395,972 1,327,978 719,098
---------- ---------- ----------- -----------
NET INCOME $1,131,162 $ 702,904 $ 2,419,664 $ 1,277,256
========== ========== =========== ===========
NET INCOME PER SHARE:
Basic $ 0.40 $ 0.25 $ 0.85 $ 0.46
========== ========== =========== ===========
Diluted $ 0.40 $ 0.25 $ 0.85 $ 0.45
========== ========== =========== ===========
WEIGHTED AVERAGE COMMON SHARES OUTSTANDING:
Basic 2,835,508 2,800,975 2,835,478 2,774,243
========== ========== =========== ===========
Diluted 2,861,143 2,816,418 2,853,202 2,816,297
========== ========== =========== ===========
The accompanying notes are an integral part of the consolidated financial
statements.
3
COOPERATIVE BANKSHARES, INC. AND SUBSIDIARY
CONSOLIDATED STATEMENT OF STOCKHOLDERS' EQUITY
(UNAUDITED)
ACCUMULATED
OTHER
ADDITIONAL COMPREHENSIVE TOTAL
COMMON PAID-IN INCOME RETAINED STOCKHOLDERS'
STOCK CAPITAL NET EARNINGS EQUITY
----------- ----------- --------- ------------ ------------
Balance, December 31, 2001 $ 2,835,447 $ 2,435,720 $ 188,278 $ 28,158,835 $ 33,618,280
Exercise of stock options 500 4,924 -- -- 5,424
Other comprehensive
income, net of taxes -- -- 15,790 -- 15,790
Net income -- -- -- 2,419,664 2,419,664
Cash dividend ($.10 per share) -- -- -- (283,544) (283,544)
----------- ----------- --------- ------------ ------------
Balance, June 30, 2002 $ 2,835,947 $ 2,440,644 $ 204,068 $ 30,294,955 $ 35,775,614
=========== =========== ========= ============ ============
The accompanying notes are an integral part of the consolidated financial
statements.
4
COOPERATIVE BANKSHARES, INC. AND SUBSIDIARY
CONSOLIDATED STATEMENTS OF CASH FLOWS
(UNAUDITED)
SIX MONTHS ENDED
JUNE 30,
2002 2001
----------- -----------
OPERATING ACTIVITIES:
Net income $ 2,419,664 $ 1,277,256
Adjustments to reconcile net income to net cash
provided by operating activities:
Net accretion, amortization, and depreciation 464,730 329,044
Net gain on sale of securities (135,182) (12,399)
Net gain on sale of loans (97,668) (2,420)
Provision for deferred income taxes 107,938 (106,739)
Loss (gain) on sale of premises and equipment (464,977) 3,318
Gain on sales of foreclosed real estate - (6,086)
Valuation losses on foreclosed real estate 108,446 2,807
Provision for loan losses 400,000 180,000
Proceeds from sale of loans 5,826,611 27,115
Loan originations held for sale (12,286,447) -
Changes in assets and liabilities:
Accrued interest receivable 248,450 132,890
Prepaid expenses and other assets (311,859) 273,381
Accrued interest payable 3,052 (12,092)
Accrued expenses and other liabilities 184,102 136,908
------------ ------------
Net cash provided (used) by operating activities (3,533,140) 2,222,983
------------ ------------
INVESTING ACTIVITIES:
Purchases of securities available for sale (21,882,903) (37,518,037)
Purchase of Lumina Mortgage Company (772,610) -
Proceeds from sale of securities available for sale 19,058,014 5,994,375
Proceeds from maturity of securities available for sale 2,435,511 10,004,133
Proceeds from maturity of securities held to maturity - 5,000,000
Loan originations, net of principal repayments (12,450,903) (3,823,008)
Proceeds from disposals of foreclosed real estate 101,908 177,990
Additions to other real estate owned (96,455) -
Purchases of premises and equipment (466,744) (365,250)
Proceeds from sale of premises and equipment 499,070 5,375
------------ ------------
Net cash used in investing activities (13,575,112) (20,524,422)
------------ ------------
FINANCING ACTIVITIES:
Net increase in deposits 20,705,686 11,672,525
Net change in short-term borrowings (2,168,660) (2,131)
Proceeds from issuance of common stock 5,424 5,525
Dividends paid (283,544) (280,098)
Net change in escrow deposits 427,323 193,736
------------ ------------
Net cash provided by financing activities 18,686,229 11,589,557
------------ ------------
INCREASE (DECREASE) IN CASH AND CASH EQUIVALENTS 1,577,977 (6,711,882)
CASH AND CASH EQUIVALENTS:
BEGINNING OF PERIOD 12,295,578 17,898,568
------------ ------------
END OF PERIOD $ 13,873,555 $ 11,186,686
============ ============
5
COOPERATIVE BANKSHARES, INC. AND SUBSIDIARY
CONSOLIDATED STATEMENTS OF CASH FLOWS, CONTINUED
SIX MONTHS ENDED
JUNE 30,
2002 2001
----------- -----------
Cash paid for:
Interest $ 7,257,047 $ 9,806,793
Income taxes 1,192,763 764,583
Summary of noncash investing and financing activities:
Transfer from loans to foreclosed real estate 637,668 --
Unrealized gain on securities available for sale,
net of taxes 15,790 57,785
Transfer of securities from held to maturity to
available for sale-fair value -- 5,946,000
The accompanying notes are an integral part of the consolidated financial
statements.
6
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
1. Accounting Policies: The significant accounting policies followed by
--------------------
Cooperative Bankshares, Inc. (the "Company") for interim financial
reporting are consistent with the accounting policies followed for annual
financial reporting. These unaudited consolidated financial statements have
been prepared in accordance with Rule 10-01 of Regulation S-X, and, in
management's opinion, all adjustments of a normal recurring nature
necessary for a fair presentation have been included. The accompanying
financial statements do not purport to contain all the necessary financial
disclosures that might otherwise be necessary in the circumstances and
should be read in conjunction with the consolidated financial statements
and notes thereto in the Company's annual report for the year ended
December 31, 2001. The results of operations for the three and six-month
periods ended June 30, 2002 are not necessarily indicative of the results
to be expected for the full year.
2. Basis of Presentation: The accompanying unaudited consolidated financial
---------------------
statements include the accounts of Cooperative Bankshares, Inc.,
Cooperative Bank For Savings, Inc., SSB and its wholly owned subsidiary,
CS&L Services, Inc. All significant intercompany items have been
eliminated. Certain items for prior periods have been reclassified to
conform to the current period presentation. These reclassifications have no
effect on the net income or stockholders' equity as previously reported.
3. Earnings Per Share: Earnings per share are calculated by dividing net
-------------------
income by the sum of the weighted average number of common shares
outstanding and potential common shares. Potential common stock consists of
stock options issued and outstanding. In determining the number of
potential common stock, the treasury stock method was applied. This method
assumes that the number of shares issuable upon exercise of the stock
options is reduced by the number of common shares assumed purchased at
market prices with the proceeds from the assumed exercise of the common
stock options plus any tax benefits received as a result of the assumed
exercise. The following table provides a reconciliation of income available
to common stockholders and the average number of shares outstanding for the
periods below:
THREE MONTHS ENDED SIX MONTHS ENDED
JUNE 30, JUNE 30,
----------------------- -----------------------
2002 2001 2002 2001
--------- --------- --------- ---------
Net income (numerator) $1,131,162 $ 702,904 $2,419,664 $1,277,256
Shares for basic EPS (denominator) 2,835,508 2,800,975 2,835,478 2,774,243
Dilutive effect of stock options 25,635 15,443 17,724 42,054
--------- --------- --------- ---------
Shares for diluted EPS (denominator) 2,861,143 2,816,418 2,853,202 2,816,297
========= ========= ========= =========
4. Comprehensive Income: Comprehensive income includes net income and all
---------------------
other changes to the Company's equity, with the exception of transactions
with shareholders ("other comprehensive income"). The Company's only
components of other comprehensive income relate to unrealized gains and
losses on available for sale securities. The following table sets forth the
components of other comprehensive income and total comprehensive income for
the three and six months ended June 30:
THREE MONTHS ENDED SIX MONTHS ENDED
JUNE 30, JUNE 30,
-------------------------- --------------------------
2002 2001 2002 2001
----------- ----------- ----------- -----------
Net income ............................. $ 1,131,162 $ 702,904 $ 2,419,664 $ 1,277,256
Other comprehensive income
Reclassification adjustment for
realized gain on available for
sale securities .................... (18,417) (12,399) (135,182) (12,399)
Unrealized gain (losses) on available
for sale securities arising during
the period ........................ 1,064,830 (94,326) 161,067 107,129
Income tax (expense) benefit ........... (408,101) 41,623 (10,095) (36,945)
----------- ----------- ----------- -----------
Other comprehensive income (loss) ...... 638,312 (65,102) 15,790 57,785
----------- ----------- ----------- -----------
Comprehensive income ................... $ 1,769,474 $ 637,802 $ 2,435,454 $ 1,335,041
=========== =========== =========== ===========
5. New Accounting Pronouncements: On January 1, 2001, the Company adopted SFAS
-----------------------------
No. 133, "Accounting for Derivative Instruments and Hedging Activities".
The statement is effective for fiscal years beginning after June 15, 2000,
with earlier adoption permitted, as amended by SFAS No. 137. SFAS No. 133
establishes accounting and reporting standards for derivative instruments
and for hedging activities. The statement requires an entity
7
to recognize all derivatives as either assets or liabilities in the
statement of financial position and measure those instruments at fair
value. On January 1, 2001, the Company transferred held-to-maturity
investment securities with an amortized cost of approximately $5,978,000 to
the available-for-sale category at fair value as allowed by SFAS No. 133.
The unrealized loss at the time of transfer of approximately $32,000 before
tax has been included in other comprehensive income, net of tax. Such
transfers from the held-to-maturity category at the date of initial
adoption shall not call into question the Company's intent to hold other
debt securities to maturity in the future.
The Company does not engage in any hedging activities except for the buy
and sell commitments for loans held for sale, which are deemed immaterial
due to the fact the Company issues a rate lock commitment to a customer and
concurrently "locks in" the loan with a secondary market investor under a
best efforts delivery mechanism. Therefore, market risk is mitigated
because any commitments to fund a loan available for sale is concurrently
hedged by a commitment from an investor to purchase the loan under the same
terms. Loans are usually sold within 60 days after closing. Other than the
aforementioned transfer of securities, the adoption of the statement had no
material impact on the Company.
On July 1, 2001, the Company adopted SFAS No. 141, "Business Combinations".
This Statement improves the transparency of the accounting and reporting
for business combinations by requiring that all business combinations be
accounted for under a single method - the purchase method. Use of the
pooling-of-interests method is no longer permitted. SFAS No. 141 requires
that the purchase method be used for business combinations initiated after
June 30, 2001. The purchase method was used in recording the acquisition of
Lumina Mortgage Company.
On January 1, 2002, the Company adopted SFAS No. 142 "Goodwill and Other
Intangible Assets". This Statement requires that goodwill no longer be
amortized to earnings, but instead be reviewed for impairment. The Company
did not have any goodwill until the purchase of Lumina Mortgage Company.
This purchase has created goodwill in the amount of $661,000 at June 30,
2002. In accordance with Statement No. 142, this goodwill will not be
amortized since it has an indefinite useful life but instead will be tested
for impairment at least annually.
6. Real Estate Sale: During February 2002, the Bank sold a parking lot for
----------------
$500,000. A gain of $464,977 was realized on the sale.
7. Loans Held for Sale: As a part of the normal business operations, the
--------------------
Company originates mortgage loans that have been pre-approved by secondary
investors. The Company issues a rate lock commitment to a customer and
concurrently "locks in" with a secondary market investor under a best
efforts delivery mechanism. The terms of the loan are set by the secondary
investors and are transferred to them at par within several weeks of the
Company initially funding the loan. The Company receives origination fees
from borrowers and servicing release premiums from the investors that are
recognized on the Statement of Operations in the line item "net gains on
sale of loans". Between the initial funding of the loans by the Company and
the subsequent purchase by the investor, the Company carries the loans on
its balance sheet at cost.
8. Acquisition: On May 31, 2002, the Bank acquired the operating assets of
-----------
Wilmington-based Lumina Mortgage Company ("Lumina"). The combined resources
of these two companies will allow the Bank to become the premier mortgage
lender in the Wilmington market and enable Cooperative Bank to offer a
wider range of products to a larger customer base. Lumina has offices in
Wilmington, North Carolina, North Myrtle Beach, South Carolina and Virginia
Beach, Virginia. Their 2001 loan originations totaled $118 million. The
purchase price was $740,000 in cash with two future contingent payments
based on loan origination volume and meeting certain profitability goals of
Lumina in the two subsequent years after the purchase. Due to the
uncertainties surrounding the determination of the contingent payments,
such payments have not been recorded. The two contingent payments are
estimated to be approximately $300,000 each and will be recorded as
additional purchase price. At June 30, 2002, the goodwill created by this
transaction was $661,000.
Lumina borrows money on a short-term basis to fund its loans that are held
for sale. At June 30, 2002 the balance of this borrowing was $6.5 million
at a rate of 4.09%. This borrowing is collateralized by mortgage loans held
for sale. When a loan is sold, the proceeds are used to repay the
borrowing. Loans are usually sold within 60 days. This borrowing agreement
provides for a maximum line of credit up to $10 million.
8
The following table summarizes the estimated fair value of assets acquired
and liabilities assumed at May 31, 2002 but does not include $32,549 of
professional fees that were included in goodwill as part of this
transaction:
Premises and equipment $ 71,584
Goodwill 628,416
Other Assets 51,729
--------
Total assets acquired $751,729
--------
Accrued expenses and other liabilities 11,668
--------
Total liabilities assumed 11,668
--------
Net assets acquired $740,061
========
Presented below are the pro-forma consolidated condensed statements of
income, for the Company and Lumina Mortgage Company, for the three and six
month periods ended June 30, 2002 and 2001, assuming the acquisition was
completed at the beginning of all periods presented. The unaudited
pro-forma information presented below is not necessarily indicative of the
results of operations that would have resulted had the merger been
completed at the beginning of the applicable periods presented, nor is it
necessarily indicative of the results of operations in future periods.
THREE MONTHS ENDED SIX MONTHS ENDED
JUNE 30, JUNE 30,
2002 2001 2002 2001
----------- ----------- ----------- -----------
Interest income $ 7,465,700 $ 7,937,893 $14,900,817 $15,968,998
Interest expense 3,551,085 4,927,161 7,358,060 10,003,791
----------- ----------- ----------- -----------
Net interest income 3,914,615 3,010,732 7,542,757 5,965,207
Provision for loan losses 120,000 90,000 400,000 180,000
----------- ----------- ----------- -----------
Net interest income after provision
for loan losses 3,794,615 2,920,732 7,142,757 5,785,207
----------- ----------- ----------- -----------
Noninterest income 1,339,363 1,300,804 3,248,751 2,554,463
Noninterest expense 3,313,973 3,030,890 6,530,817 6,159,776
Income before income taxes 1,820,005 1,190,646 3,860,691 2,179,894
Income tax expense 654,363 431,762 1,372,067 790,679
----------- ----------- ----------- -----------
NET INCOME $ 1,165,642 $ 758,884 $ 2,488,624 $ 1,389,215
=========== =========== =========== ===========
NET INCOME PER SHARE:
Basic $ 0.41 $ 0.27 $ 0.88 $ 0.50
=========== =========== =========== ===========
Diluted $ 0.41 $ 0.27 $ 0.87 $ 0.49
=========== =========== =========== ===========
9
ITEM 2 - MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS
GENERAL
Cooperative Bankshares, Inc. (the "Company") is a registered bank holding
company incorporated in North Carolina in 1994. The Company was formed for the
purpose of serving as the holding company for Cooperative Bank for Savings,
Inc., SSB ("Cooperative Bank" or the "Bank"), a North Carolina chartered savings
bank. The Company's primary activities consist of holding the stock of
Cooperative Bank and operating the business of the Bank. Accordingly, the
information set forth in this report, including financial statements and related
data, relates primarily to Cooperative Bank.
Cooperative Bank was chartered in 1898 and is headquartered in Wilmington, North
Carolina. The Bank operates 17 financial centers throughout the coastal and
inland communities of eastern North Carolina. These centers extend from Corolla,
located on the Outer Banks of North Carolina, to Tabor City, located on the
South Carolina border. The Bank's deposit accounts are insured up to applicable
limits by the Federal Deposit Insurance Corporation ("FDIC").
Through its financial centers, the Bank provides a wide range of banking
products, including interest bearing and non-interest bearing checking accounts,
certificates of deposit and individual retirement accounts. It offers an array
of loan products: overdraft protection, commercial, consumer, agricultural, real
estate, residential mortgage and home equity loans. Also offered are safe
deposit boxes and automated banking services through ATMs and Access24 Phone
Banking. In addition, the Bank offers discount brokerage services, annuity sales
and mutual funds through a third party arrangement with UVEST Investment
Services. The Bank also offers a wide range of mortgage loan products through
its subsidiary, CS&L Services. On May 31, 2002, the Bank acquired
Wilmington-based Lumina Mortgage Company. Lumina Mortgage has offices in
Wilmington, North Carolina, North Myrtle Beach, South Carolina and Virginia
Beach, Virginia. Their 2001 loan originations totaled $118 million. Management
expects this acquisition to be accretive to earnings during the year ended 2002.
MISSION STATEMENT
It is the mission of the Company to provide the maximum in safety and security
for our depositors, an equitable rate of return for our stockholders, excellent
service for our customers, and to do so while operating in a fiscally sound and
conservative manner, with fair pricing of our products and services, good
working conditions, outstanding training and opportunities for our staff, along
with a high level of corporate citizenship.
MANAGEMENT STRATEGY
Cooperative Bank's lending activities have traditionally concentrated on the
origination of loans for the purpose of constructing, financing or refinancing
residential properties. In recent years however, the Bank has emphasized
origination of nonresidential real estate loans and secured and unsecured
consumer and business loans. As of June 30, 2002, approximately $274 million, or
71%, of the Bank's loan portfolio consisted of loans secured by residential
properties. This has changed from approximately $273 million, or 73% at December
31, 2001. The Bank originates adjustable rate and fixed rate loans. As of June
30, 2002, adjustable rate and fixed rate loans totaled approximately 63.5% and
36.5%, respectively, of the Bank's total loan portfolio.
The Bank has chosen to sell a larger percentage of its fixed rate mortgage loan
originations through brokered arrangements. This enables the Bank to reinvest
these funds in commercial loans, while increasing fee income. This is part of
the continuing effort to restructure the balance sheet and operations to be more
reflective of a commercial bank.
INTEREST RATE SENSITIVITY ANALYSIS
Interest rate sensitivity refers to the change in interest spread resulting from
changes in interest rates. To the extent that interest income and interest
expense do not respond equally to changes in interest rates, or that all rates
do not change uniformly, earnings will be affected. Interest rate sensitivity,
at a point in time, can be analyzed using a static gap analysis that measures
the match in balances subject to repricing between interest-earning assets and
interest-bearing liabilities. Gap is considered positive when the amount of
interest rate sensitive assets exceed the amount of interest rate sensitive
liabilities. Gap is considered negative when the amount of interest rate
sensitive liabilities exceed the amount of interest rate sensitive assets.
10
At June 30, 2002, Cooperative had a one-year cumulative gap position of a
negative 3.2%. During a period of rising interest rates, a negative gap would
tend to adversely affect net interest income, while a positive gap would tend to
result in an increase in net interest income. During a period of falling
interest rates, a negative gap would tend to result in an increase in net
interest income while a positive gap would tend to adversely affect net interest
income. It is important to note that certain shortcomings are inherent in static
gap analysis. 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. For example, a part of the Company's
adjustable-rate mortgage loans are indexed to the National Monthly Median Cost
of Funds to SAIF-insured institutions. This index is considered a lagging index
that may lag behind changes in market rates. The one-year or less
interest-bearing liabilities also include checking, savings, and money market
deposit accounts. Experience has shown that the Company sees relatively modest
repricing of these transaction accounts. Management takes this into
consideration in determining acceptable levels of interest rate risk.
When Lumina gives a rate lock commitment to a customer, there is a concurrent
"lock in" for the loan with a secondary market investor under a best efforts
delivery mechanism. Therefore interest rate risk is mitigated because any
commitments to fund a loan available for sale is concurrently hedged by a
commitment from an investor to purchase the loan under the same terms. Loans are
usually sold within 60 days after closing.
CONTRACTUAL OBLIGATIONS AND COMMITMENTS
The Bank enters into agreements that obligate it to make future payments under
contracts, such as debt and lease agreements. In addition, the Bank commits to
lend funds in the future such as credit lines and loan commitments at June 30,
2002 (in thousands).
Payments Due by Period
--------------------------------------------------------------------
Less
than 1 1-3 4-5 Over 5
Contractual Obligations Total year years years years
-------- -------- ------- ------ -------
Borrowed Funds $ 80,928 $ 37,834 $20,000 $ - $23,094
Lease Obligations 1,920 317 408 177 1,018
Deposits 360,536 305,040 55,323 42 131
-------- -------- ------- ------ -------
Total Contractual Cash Obligations $443,384 $343,191 $75,731 $ 219 $24,243
======== ======== ======= ====== =======
Amount of Commitment Expiration
Per Period
----------------------------------------------------------------------
Total Less
Amounts than 1 1-3 4-5 Over 5
Off Balance Sheet Commitments Committed year years years years
---------- ------- ----- ----- -------
Undisbursed portion of home equity loans
collateralized primarily by junior liens
on 1-4 family properties $ 12,739 $ 1,444 $ 176 $ 224 $ 10,895
Other commitments and credit lines 12,668 10,205 633 6 1,824
Undisbursed portion of construction loans 33,023 33,023 - - -
Fixed-rate mortgage loan commitments 601 601 - - -
Adjustable-rate mortgage loan
commitments 1,866 1,866 - - -
Commitments to sell loans 6,558 6,558 - - -
-------- -------- ----- ----- --------
Total Commitments $ 67,455 $ 53,697 $ 809 $ 230 $ 12,719
======== ======== ===== ===== ========
11
LIQUIDITY
The Company's goal is to maintain adequate liquidity to meet potential funding
needs of loan and deposit customers, pay operating expenses, and meet regulatory
liquidity requirements. Maturing securities, principal repayments of loans and
securities, deposits, income from operations and borrowings are the main sources
of liquidity. The Bank has been granted a line of credit by the Federal Home
Loan Bank of Atlanta ("FHLB") in an amount of up to 25% of the Bank's total
assets. At June 30, 2002, the Bank's borrowed funds from the FHLB equaled 15.5%
of its total assets. Scheduled loan repayments are a relatively predictable
source of funds, unlike deposits and loan prepayments that are significantly
influenced by general interest rates, economic conditions and competition.
At June 30, 2002, the estimated market value of liquid assets (cash, cash
equivalents, marketable securities and loans held for sale) was approximately
$69.0 million, which represents 15.6% of deposits and borrowed funds as compared
to $60.5 million or 14.3% of deposits and borrowed funds at December 31, 2001.
The increase in liquid assets was primarily due to an increase in loans held for
sale that was funded with short term borrowings.
The Company's primary uses of liquidity are to fund loans and to make
investments. At June 30, 2002, outstanding off-balance sheet commitments to
extend credit totaled $27.9 million, and the undisbursed portion of construction
loans was $33.0 million. Management considers current liquidity levels adequate
to meet the Company's cash flow requirements.
CAPITAL
Stockholders' equity at June 30, 2002, was $35.8 million, up 6.4% from $33.6
million at December 31, 2001. Stockholders' equity at June 30, 2002 and December
31, 2001, includes unrealized gains, net of tax, of $204,000 and $188,000,
respectively, on securities available for sale marked to estimated fair market
value.
Under the capital regulations of the FDIC, the Bank must satisfy minimum
leverage ratio requirements and risk-based capital requirements. Banks
supervised by the FDIC must maintain a minimum leverage ratio of core (Tier I)
capital to average adjusted assets ranging from 3% to 5%. At June 30, 2002, the
Bank's ratio of Tier I capital was 7.56%. The FDIC's risk-based capital rules
require banks supervised by the FDIC to maintain risk-based capital to
risk-weighted assets of at least 8.00%. Risk-based capital for the Bank is
defined as Tier I capital plus the balance of allowance for loan losses. At June
30, 2002, the Bank had a ratio of qualifying total capital to risk-weighted
assets of 11.14%.
The Company, as a bank holding company, is also subject, on a consolidated
basis, to the capital adequacy guidelines of the Board of Governors of the
Federal Reserve (the "Federal Reserve Board"). The capital requirements of the
Federal Reserve Board are similar to those of the FDIC governing the Bank.
The Company currently exceeds all of its capital requirements. Management
expects the Company to continue to exceed these capital requirements without
altering current operations or strategies.
On June 20, 2002, the Company's Board of Directors approved a quarterly cash
dividend of $.05 per share. The dividend was paid on July 16, 2002 to
stockholders of record as of July 1, 2002. Any future payment of dividends is
dependent on the financial condition, and capital needs of the Company,
requirements of regulatory agencies, and economic conditions in the marketplace.
CRITICAL ACCOUNTING POLICY
The Company's only critical accounting policy is the determination of its
allowance for loan losses. A critical accounting policy is one that is both very
important to the portrayal of the Company's financial condition and results, and
requires management's most difficult, subjective or complex judgments. What
makes these judgments inherently difficult, subjective and/or or complex is the
need to make estimates about the effects of matters that are inherently
uncertain. For further information on the allowance for loan losses, see
"Financial Condition" in Management's Discussion and Analysis and Note 3 of
"Notes to Consolidated Financial Statements" included in the 2001 Annual Report.
FINANCIAL CONDITION AT JUNE 30, 2002, COMPARED TO DECEMBER 31, 2001
The Company's total assets increased 4.7% to $479.4 million at June 30, 2002, as
compared to $458.1 million at December 31, 2001. There was an increase of $1.6
million (12.8%) in cash and cash equivalents, which was caused by an increase in
deposits of $20.7 million (6.1%). The increase in deposits was primarily in the
seven month certificates due to favorable pricing and the customers' desire to
stay short in the current rate environment. The
12
Bank also attracted an additional $6.7 million in internet deposits because the
rates were competitive with the Bank's local markets. Internet deposits are
primarily obtained from other financial institutions in increments of $99,000,
with terms primarily of one or two years. The rise in deposits also enabled the
Bank to fund an increase in loans of $11.5 million (3.1%) and repay $9.0 million
of borrowed funds from the FHLB. Borrowed funds, collateralized through an
agreement with the FHLB for advances, are secured by the Bank's investment in
FHLB stock and qualifying first mortgage loans. There was an increase of $6.6
million in loans held for sale, which was funded by a short term borrowing at
another financial institution. This loan is collateralized by the loans held for
sale. Both the loans held for sale and the corresponding borrowing are new since
December 31, 2001, and are a result of the Lumina Mortgage Company purchase. At
June 30, 2002, $37.8 million in borrowed funds mature in 1 year and $20.0
million of funds mature in 2 years. The remaining amount of borrowed funds
matures in 2010 or 2011.
The Company's non-performing assets (loans 90 days or more delinquent and
foreclosed real estate) were $1.5 million, or .32% of assets, at June 30, 2002,
compared to $3.8 million, or 0.84% of assets, at December 31, 2001. The majority
of this reduction was due to over $1.1 million of loans being paid off in the
first half of 2002 that were classified as non-performing at December 31, 2001.
In addition, $331,000 in loans were charged off during this period. Foreclosed
real estate increased to $1.3 million at June 30, 2002, from $800,000 at
December 31, 2001, but only three properties make up this balance. The Company
assumes an aggressive position in collecting delinquent loans and disposing of
foreclosed assets to minimize balances of non-performing assets and continues to
evaluate the loan and real estate portfolios to provide loss reserves as
considered necessary. For further information see "Comparison of Operating
Results - Provision and Reserve for Loan Losses".
COMPARISON OF OPERATING RESULTS
OVERVIEW
The net income of the Company depends primarily upon net interest income. Net
interest income is the difference between the interest earned on loans, the
securities portfolios and interest earning deposits and the cost of funds,
consisting principally of the interest paid on deposits and borrowings. The
Company's operations are materially affected by general economic conditions, the
monetary and fiscal policies of the Federal government, and the policies of
regulatory authorities.
NET INCOME
Net income for the three and six-month periods ended June 30, 2002, increased
60.9% to $1.1 million and 89.4% to $2.4 million respectively, as compared to the
same period last year. The increase in net income for the six-month period ended
June 30, 2002 can be attributed to increases in net interest income of $1.5
million and noninterest income of $1.1 million. These increases were partially
offset by increases in the provision for loan losses of $220 thousand,
noninterest expense of $550 thousand and income taxes of $610 thousand during
the same period.
INTEREST INCOME
For the three-month period ended June 30, 2002, interest income decreased 5.5%
as compared to the same period a year ago. The average balance of
interest-earning assets increased 6.9% but the average yield decreased 89 basis
points as compared to the same period a year ago. Interest income decreased 6.3%
for the six-month period ended June 30, 2002, as compared to the same period a
year ago. The decrease in interest income can be attributed to the yield on
average interest-earning assets decreasing to 6.82% as compared to 7.78% for the
same period a year ago. The average balance of interest-earning assets increased
7.0% for the six month period ended June 30, 2002, as compared to the same
period a year ago. The increase in the average balance of interest-earning
assets had a positive effect on interest income while the reduction in yield had
a negative impact on interest income.
INTEREST EXPENSE
Interest expense decreased 27.4% for the three-month period ended June 30, 2002,
as compared to the same period a year ago. This decrease was due to the average
cost of interest-bearing liabilities decreasing 174 basis points as compared to
the same period a year ago. In the six-month period ended June 30, 2002,
interest expense decreased 25.9% as compared to the same period a year ago. The
average balance of interest-bearing liabilities increased 9.6% as compared to
the same period a year ago. The cost of interest-bearing liabilities decreased
to 3.57% as compared to 5.28% for the same period last year.
13
NET INTEREST INCOME
Net interest income for the three and six-month periods ended June 30, 2002, as
compared to the same period a year ago, increased 29.6% and 26.0%, respectively.
The increase was due to a larger decrease in the cost of liabilities versus the
yield on assets, which can be attributed to the fact that certificates of
deposit continue to reprice at lower yields caused by the rate reductions in
2001. See "Average Yield/Cost Analysis" tables for further information on
interest income and interest expense.
AVERAGE YIELD/COST ANALYSIS
The following table contains information relating to the Company's average
balance sheet and reflects the average yield on assets and average cost of
liabilities for the periods indicated. Such annualized yields and costs are
derived by dividing income or expense by the average balances of assets or
liabilities, respectively, for the periods presented. The average loan portfolio
balances include nonaccrual loans.
For the three months ended
JUNE 30, 2002 JUNE 30, 2001
--------------------------------- ----------------------------
(DOLLARS IN THOUSANDS) Average Average
Average Yield/ Average Yield/
Balance Interest Cost Balance Interest Cost
------- --------- ------- ------- -------- ------
Interest-earning assets:
Interest-bearing deposits in other banks $ 2,604 $ 12 1.84% $ 8,886 $ 58 2.61%
Securities:
Available for sale 41,171 559 5.43% 37,927 596 6.29%
Held to maturity 7,216 115 6.37% 8,000 101 5.05%
FHLB stock 4,155 54 5.20% 3,755 63 6.71%
Loan portfolio 380,417 6,653 7.00% 348,987 7,007 8.03%
-------- ------ -------- ------
Total interest-earning assets 435,563 7,393 6.79% 407,555 7,825 7.68%
Non-interest earning assets 27,238 12,583
-------- --------
Total assets $462,801 $420,138
======== ========
Interest-bearing liabilities:
Deposits $336,202 $2,610 3.11% $316,673 $3,968 5.01%
Borrowed funds 72,460 892 4.92% 56,410 855 6.06%
-------- ------ -------- ------
Total interest-bearing liabilities 408,662 3,502 3.43% 373,083 4,823 5.17%
------ ------
Non-interest bearing liabilities 19,098 15,013
-------- --------
Total liabilities 427,760 388,096
Stockholders' equity 35,041 32,042
-------- --------
Total liabilities and stockholders' equity $462,801 $420,138
======== ========
Net interest income $3,891 $3,002
====== ======
Interest rate spread 3.36% 2.51%
===== =====
Net yield on interest-earning assets 3.57% 2.95%
Percentage of average interest-earning
assets to average interest-bearing
liabilities 106.6% 109.2%
===== =====
14
AVERAGE YIELD/COST ANALYSIS
The following table contains information relating to the Company's average
balance sheet and reflects the average yield on assets and average cost of
liabilities for the periods indicated. Such annualized yields and costs are
derived by dividing income or expense by the average balances of assets or
liabilities, respectively, for the periods presented. The average loan portfolio
balances include nonaccrual loans.
For the six months ended
JUNE 30, 2002 JUNE 30, 2001
--------------------------------- ----------------------------
(DOLLARS IN THOUSANDS) Average Average
Average Yield/ Average Yield/
Balance Interest Cost Balance Interest Cost
------- --------- ------- ------- -------- ------
Interest-earning assets:
Interest-bearing deposits in other banks $ 2,707 $ 24 1.77% $ 12,189 $ 228 3.74%
Securities:
Available for sale 42,285 1,166 5.51% 32,680 1,035 6.33%
Held to maturity 6,108 204 6.68% 8,061 198 4.91%
FHLB stock 4,155 113 5.44% 3,755 130 6.92%
Loan portfolio 377,682 13,249 7.02% 347,877 14,152 8.14%
-------- ------- -------- -------
Total interest-earning assets 432,937 14,756 6.82% 404,562 15,743 7.78%
Non-interest earning assets 27,709 12,391
-------- --------
Total assets $459,646 $416,953
======== ========
Interest-bearing liabilities:
Deposits $331,507 $ 5,454 3.29% $315,507 $ 8,093 5.13%
Borrowed funds 75,443 1,806 4.79% 55,756 1,702 6.11%
-------- ------- -------- -------
Total interest-bearing liabilities 406,950 7,260 3.57% 371,263 9,795 5.28%
------- -------
Non-interest bearing liabilities 17,979 13,956
-------- --------
Total liabilities 424,929 385,219
Stockholders' equity 34,717 31,734
-------- --------
Total liabilities and stockholders' equity $459,646 $416,953
======== ========
Net interest income $ 7,496 $ 5,948
======= =======
Interest rate spread 3.25% 2.50%
===== =====
Net yield on interest-earning assets 3.46% 2.94%
Percentage of average interest-earning
assets to average interest-bearing
liabilities 106.4% 109.0%
===== =====
PROVISION AND RESERVE FOR LOAN LOSSES
During the six-month period ended June 30, 2002 the Bank had net charge-offs
against the allowance for loan losses of $331,000 compared to $50,000 for the
same period in 2001. This increase was due to one credit of $189,000,
15
which previously had been placed in the non-accrual status, being charged off
and three loans that were written down to the fair value of the collateral at
the time of foreclosure. The Bank recorded $400,000 as a provision for loan
losses for the current six-month period, increasing the balance of the allowance
for loan losses to $2.6 million at June 30, 2002 as compared to recording a
$180,000 provision for the same period last year. The increase in the provision
was primarily caused by a continued emphasis to grow the Bank's commercial loan
portfolio. Management considers the current level of the provision to be
appropriate based on loan composition, the current level of delinquencies and
other non-performing assets, overall economic conditions and other factors.
Future increases to the allowance may be necessary due to changes in loan
composition or loan volume, changes in economic or market area conditions and
other factors. Additionally, various regulatory agencies, as an integral part of
their examination process, periodically review the Company's allowance for loan
losses. Such agencies may require the recognition of additions to the allowance
for loan losses based on their judgments of information available to them at the
time of their examination.
NONINTEREST INCOME
Noninterest income increased by 110.8% for the six-month period ended June 30,
2002, as compared to the same period a year ago. The change in noninterest
income can be attributed to a $465,000 gain on the sale of real estate and
Bank-owned life insurance earnings of $200,000. No similar transactions occurred
during the six months ended June 30, 2001. During February 2002, the Bank sold a
parking lot for $500,000 which caused the gain on the sale of real estate. The
Bank-owned life insurance was purchased at the end of September 2001. In
addition, net gains on sale of securities increased $123,000 for the six-month
period ended June 30, 2002, as compared to the same period last year. The gain
on securities was due primarily to selling bonds and purchasing mortgage backed
securities to give the Bank greater cash flow in the event of rising rates.
Also, net gains on sale of loans increased to $98,000 for the six-month period
ended June 30, 2002, as compared to $2,000 for the same period a year ago. This
increase was primarily due to increased loan sale volume resulting from the
purchase of Lumina Mortgage Company. For the six-month period ended June 30,
2002, as compared to the same period a year ago, other income increased $58,000
in the current period. This increase was mainly due to an increase in
commissions from annuity sales and mutual funds, through UVEST Investment
Services.
In the three-month period ended June 30, 2002, noninterest income increased
38.4% as compared to the same period last year. The net gains on sale of loans,
Bank-owned life insurance and other income net increased $77,000, $100,000 and
$15,000 respectively, for the three-month period ended June 30, 2002, as
compared to the same period a year ago. The reasons for these increases are the
same as stated above for the six month period. In addition, deposit-related fees
increased 8.0% for the three-month period ended June 30, 2002, as compared to
the same period last year. This increase is primarily due to an increase in ATM
revenues, which was caused by an increase in both the fee and the number of ATMs
in operation. During the same three-month period, service charges and fees on
loans decreased 22.7% as compared to last year. This reduction was primarily
caused by a reduction in loan settlement service fees due to the large number of
mortgage refinances made during the three-months ended June 30, 2001.
NONINTEREST EXPENSES
For the six-month period ended June 30, 2002, noninterest expense increased
11.8% as compared to the same period last year. Compensation and related costs
increased 17.2%. The increase was due to increases in incentive based pay, costs
of benefits, staffing levels and normal increases in salaries, as well as higher
personnel costs as a result of the purchase of Lumina Mortgage Company. The
increase in other noninterest expenses of $69,000 was mainly due to an increase
in professional fees. The increase of $26,000 in advertising can be attributed
to a more progressive advertising and business development strategy.
In the three-month period ended June 30, 2002, noninterest expense increased
16.3% as compared to the same period last year. This increase can be principally
attributed to compensation and fringe benefits and other expense increasing
$301,000 and $36,000, respectively. The reasons for these changes are identical
to the six-month period ended June 30, 2002.
INCOME TAXES
The effective tax rates for the six-month periods ended June 30, 2002 and 2001,
were 35.4% and 36.0% respectively. The effective tax rates for the three-month
periods ended June 30, 2002 and 2001, were 35.9% and
16
36.0% respectively. The decreases were mainly due to the fact that the earnings
on Bank-owned life insurance are not taxable.
NOTE REGARDING FORWARD-LOOKING STATEMENTS
In addition to historical information contained herein, the discussion contains
forward-looking statements that involve risks and uncertainties. Economic
circumstances, the Company's operations, and the Company's actual results could
differ significantly from those discussed in the forward-looking statements.
Some of the factors that could cause or contribute to such differences are
discussed herein, but also include changes in the economy and interest rates in
the nation, changes in the Company's regulatory environment and the Company's
market area.
ITEM 3 - MARKET RISK
The Company's primary market risk is interest rate risk. Interest rate risk is
the result of differing maturities or repricing intervals of interest earning
assets and interest bearing liabilities and the fact that rates on these
financial instruments do not change uniformly. These conditions may impact the
earnings generated by the Company's interest earning assets or the cost of its
interest bearing liabilities, thus directly impacting the Company's overall
earnings. The Company's management actively monitors and manages interest rate
risk. One way this is accomplished is through the development of and adherence
to the Company's asset/liability policy. This policy sets forth management's
strategy for matching the risk characteristics of the Company's interest earning
assets and liabilities so as to mitigate the effect of changes in the rate
environment. The Company's market risk profile has not changed significantly
since December 31, 2001.
17
PART II - OTHER INFORMATION
ITEM 1. LEGAL PROCEEDINGS
Not applicable
ITEM 2. CHANGES IN SECURITIES AND USE OF PROCEEDS
(a) Not applicable
(b) Not applicable
ITEM 3. DEFAULTS UPON SENIOR SECURITIES
(a) Not applicable
(b) Not applicable
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY-HOLDERS
(1) Annual Meeting of Stockholders, April 26, 2002
(a) Election of Directors
FOR WITHHELD
NUMBER PERCENTAGE NUMBER PERCENTAGE
OF VOTES OF VOTES OF VOTES OF VOTES
Paul G. Burton 2,383,836 90.22 % 258,428 9.78%
H. Thompson King, III 2,384,636 90.25% 257,628 9.75%
R. Allen Rippy 2,383,636 90.21% 258,628 9.79%
ITEM 5. OTHER INFORMATION
None
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K
(a) Exhibits - Exhibit 99 - CERTIFICATE PURSUANT TO 18 U.S.C. SECTION
1350, AS ADOPTED PURSUANT TO SECTION 906 OF THE SARBANES-OXLEY ACT OF
2002
(b) Reports on Form 8-K
The Company filed a Current Report on Form 8-K dated July 17, 2002 to
report second quarter earnings.
18
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.
COOPERATIVE BANKSHARES, INC.
Dated: August 14, 2002 /s/ Frederick Willetts, III
------------------------------------------
President and Chief Executive Officer
Dated: August 14, 2002 /s/ Todd Sammons
------------------------------------------
Treasurer and Chief Financial Officer
19