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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington D.C. 20549
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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 March 31, 2004
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OR
/ / TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
For the transition period from to
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Commission File Number: 0-24626
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COOPERATIVE BANKSHARES, INC.
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(Exact name of registrant as specified in its charter)
North Carolina 56-1886527
- ------------------------------ ----------
(State or other jurisdiction of (I.R.S. Employer
incorporation or 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
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Former name, former address and former fiscal year, if changed since last
report.
N/A
- --------------------------------------------------------------------------------
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
Indicate by check mark whether the registrant is an accelerated filer (as
defined in Rule 12b-2 of the Exchange Act).
/ / Yes /X/ 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. 2,860,764 shares at April 23, 2004
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1
TABLE OF CONTENTS
Page
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Part I Financial Information
Item 1 Financial Statements
Consolidated Statements of Financial Condition, March 31, 2004 and
December 31, 2003 3
Consolidated Statements of Operations, for the three months ended
March 31, 2004 and 2003 4
Consolidated Statement of Stockholders' Equity, for the three months
ended March 31, 2004 5
Consolidated Statements of Cash Flows, for the three months ended
March 31, 2004 and 2003 6-7
Notes to Consolidated Financial Statements 8-9
Item 2 Management's Discussion and Analysis of Financial Condition and
Results of Operations 10-15
Item 3 Market Risk 15
Item 4 Controls and Procedures 15-16
Part II Other Information
Item 1 Legal Proceedings 17
Item 2 Changes in Securities, Use of Proceeds and Issuer Purchases of Equity
Securities 17
Item 3 Defaults Upon Senior Securities 17
Item 4 Submission of Matters to a Vote of Security Holders 17
Item 5 Other Information 17
Item 6 Exhibits and Reports on Form 8-K 17
Signatures 18
Exhibits
31.1 Certification of Chief Executive Officer 19
31.2 Certification of Chief Financial Officer 20
32 Certification Pursuant to 18 U.S.C. Section 1350 21
2
COOPERATIVE BANKSHARES, INC. AND SUBSIDIARY
CONSOLIDATED STATEMENTS OF FINANCIAL CONDITION
MARCH 31, 2004 DECEMBER 31, 2003*
--------------- ------------------
(UNAUDITED)
ASSETS
Cash and due from banks, noninterest-bearing $ 13,418,492 $ 14,400,034
Interest-bearing deposits in other banks 4,750,786 3,993,331
------------- -------------
Total cash and cash equivalents 18,169,278 18,393,365
Securities:
Available for sale (amortized cost of $47,884,134 in March 2004
and $43,180,913 in December 2003) 48,712,704 43,613,112
Held to maturity (estimated market value of $3,606,844 in March
2004 and $3,889,736 in December 2003) 3,508,140 3,806,376
FHLB stock 4,354,400 4,154,400
Loans held for sale 8,304,744 6,375,275
Loans 415,258,023 404,820,362
Less allowance for loan losses 3,638,961 3,447,002
------------- -------------
Net loans 411,619,062 401,373,360
Accrued interest receivable 1,986,214 1,852,366
Premises and equipment, net 8,586,347 8,665,698
Goodwill 1,461,543 1,461,543
Other assets 12,179,366 12,741,394
------------- -------------
Total assets $ 518,881,798 $ 502,436,889
============= =============
LIABILITIES AND STOCKHOLDERS' EQUITY
Deposits $ 376,450,494 $ 367,202,433
Short-term borrowings 32,048,351 41,416,785
Escrow deposits 296,599 199,433
Accrued interest payable 195,851 180,067
Accrued expenses and other liabilities 2,577,038 2,207,003
Long-term obligations 63,086,523 48,087,770
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Total liabilities 474,654,856 459,293,491
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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,
2,860,764 and 2,849,447 shares issued and outstanding 2,860,764 2,849,447
Additional paid-in capital 2,673,233 2,638,044
Accumulated other comprehensive income 546,856 285,251
Retained earnings 38,146,089 37,370,656
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Total stockholders' equity 44,226,942 43,143,398
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Total liabilities and stockholders' equity $ 518,881,798 $ 502,436,889
============= =============
Book value per common share $ 15.46 $ 15.14
============= =============
* Derived from audited consolidated financial statements.
The accompanying notes are an integral part of the consolidated financial
statements.
3
COOPERATIVE BANKSHARES, INC. AND SUBSIDIARY
CONSOLIDATED STATEMENTS OF OPERATIONS
(Unaudited)
Three Months Ended
March 31,
2004 2003
------------- -----------
INTEREST INCOME:
Loans $ 5,944,835 $ 6,564,072
Securities 562,083 603,090
Other 9,880 9,806
Dividends on FHLB stock 35,736 45,575
------------- -----------
Total interest income 6,552,534 7,222,543
------------- -----------
INTEREST EXPENSE:
Deposits 1,506,825 2,038,260
Borrowed funds 672,009 891,943
------------- -----------
Total interest expense 2,178,834 2,930,203
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NET INTEREST INCOME 4,373,700 4,292,340
Provision for loan losses 220,000 200,000
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Net interest income after provision for loan losses 4,153,700 4,092,340
------------- -----------
NONINTEREST INCOME:
Gain on sale of loans 580,169 977,456
Service charges and fees on loans 69,713 149,152
Deposit-related fees 364,091 256,871
Bank-owned life insurance earnings 86,608 97,074
Other income, net 44,910 52,625
------------ -----------
Total noninterest income 1,145,491 1,533,178
------------ -----------
NONINTEREST EXPENSE:
Compensation and fringe benefits 2,296,407 2,268,591
Occupancy and equipment 824,305 647,931
Professional and examination fees 131,221 101,247
Advertising 124,981 120,555
Real estate owned 432 17,890
Other 523,099 462,553
------------ -----------
Total noninterest expenses 3,900,445 3,618,767
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Income before income taxes 1,398,746 2,006,751
Income tax expense 480,276 619,101
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Net Income $ 918,470 $ 1,387,650
============ ===========
Net Income Per Share:
Basic $ 0.32 $ 0.49
============ ===========
Diluted $ 0.32 $ 0.48
============ ===========
WEIGHTED AVERAGE COMMON SHARES OUTSTANDING:
Basic 2,855,539 2,844,678
============ ===========
Diluted 2,913,184 2,887,096
============ ===========
The accompanying notes are an integral part of the consolidated financial
statements.
4
COOPERATIVE BANKSHARES, INC. AND SUBSIDIARY
CONSOLIDATED STATEMENT OF STOCKHOLDERS' EQUITY
(Unaudited)
Accumulated
Additional other Total
Common paid-in comprehensive Retained stockholders'
stock capital income earnings equity
------------- ------------ ------------- ------------ --------------
Balance, December 31, 2003 $ 2,849,447 $ 2,638,044 $ 285,251 $ 37,370,656 $ 43,143,398
Exercise of stock options 14,000 104,625 -- -- 118,625
Stock traded to exercise options
(2,683 shares) (2,683) (69,436) (72,119)
Other comprehensive
loss, net of taxes -- -- 261,605 -- 261,605
Net income -- -- -- 918,470 918,470
Cash dividends ($.05 per share) -- -- -- (143,037) (143,037)
----------- ----------- --------- ------------ ------------
Balance, March 31, 2004 $ 2,860,764 $ 2,673,233 $ 546,856 $ 38,146,089 $ 44,226,942
=========== =========== ========= ============ ============
The accompanying notes are an integral part of the consolidated financial
statements.
5
COOPERATIVE BANKSHARES, INC. AND SUBSIDIARY
CONSOLIDATED STATEMENTS OF CASH FLOWS
(Unaudited)
Three Months Ended
March 31,
2004 2003
------------ ------------
OPERATING ACTIVITIES:
Net income $ 918,470 $ 1,387,650
Adjustments to reconcile net income to net cash
provided by operating activities:
Net accretion, amortization, and depreciation 254,546 318,037
Net gain on sale of loans (580,169) (1,026,756)
Provision (benefit) from deferred income taxes (85,420) (43,329)
Loss on sales of foreclosed real estate -- 534
Valuation losses on foreclosed real estate -- 107,880
Provision for loan losses 220,000 200,000
Originations of loans held for sale (34,758,191) (56,336,726)
Proceeds from sales of loans held for sale 33,410,564 62,230,202
Changes in assets and liabilities:
Accrued interest receivable (133,848) 46,987
Prepaid expenses and other assets 521,329 62,917
Accrued interest payable 15,784 (6,266)
Accrued expenses and other liabilities 370,035 (1,058,443)
------------ ------------
Net cash provided by operating activities 153,100 5,882,687
------------ ------------
INVESTING ACTIVITIES:
Purchases of securities available for sale (5,293,578) --
Repayments of mortgage-backed securities available for sale 570,274 1,619,390
Repayments of mortgage-backed securities held to maturity 298,353 226,074
Loan originations, net of principal repayments (10,476,022) (10,848,421)
Proceeds from disposals of foreclosed real estate -- 74,390
Net expenditures on foreclosed real estate -- (4,822)
Net sales (purchases) of FHLB stock (200,000) 250,100
Purchases of premises and equipment (155,229) (803,952)
------------ ------------
Net cash used in investing activities (15,256,202) (9,487,241)
------------ ------------
FINANCING ACTIVITIES:
Net increase in deposits 9,248,061 17,766,319
Net proceeds (repayments) on short-term borrowings 631,566 (9,857,575)
Repayments on long-term obligations (1,247) (1,181)
Proceeds on long-term borrowings 5,000,000 --
Proceeds from issuance of common stock 46,506 184,508
Dividends paid (143,037) (142,398)
Net change in escrow deposits 97,166 157,887
------------ ------------
Net cash provided by financing activities 14,879,015 8,107,560
------------ ------------
INCREASE IN CASH AND CASH EQUIVALENTS (224,087) 4,503,006
CASH AND CASH EQUIVALENTS:
BEGINNING OF PERIOD 18,393,365 11,858,603
------------ ------------
END OF PERIOD $ 18,169,278 $ 16,361,609
============ ============
(Continued)
6
COOPERATIVE BANKSHARES, INC. AND SUBSIDIARY
CONSOLIDATED STATEMENTS OF CASH FLOWS, CONTINUED
THREE MONTHS ENDED
MARCH 31,
2004 2003
------------- ---------------
Cash paid for:
Interest $ 2,163,050 $ 2,936,469
Income taxes 25,900 207,652
Summary of noncash investing and financing activities:
Transfer from loans to foreclosed real estate 120,372 479,462
Loans to facilitate the sale of foreclosed real estate 111,725 --
Unrealized loss on securities available for sale,
net of taxes 261,605 (61,707)
Reclassifications between long-term obligations
and short-term borrowings 10,000,000 --
The accompanying notes are an integral part of the consolidated financial
statements.
7
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
consolidated 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, 2003 (the "Annual Report"). The results of
operations for the three-month period ended March 31, 2004 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 (the "Bank") and its wholly owned subsidiaries, Lumina
Mortgage Company, Inc. ("Lumina") and CS&L Holdings, Inc. ("Holdings"), and
Holdings' majority owned subsidiary, CS&L Real Estate Trust, Inc. (the
"REIT"). 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 (EPS) is calculated by dividing net
-------------------
income by the weighted average number of common shares outstanding (basic
EPS) and the sum of the weighted average number of common shares
outstanding and potential common stock (diluted EPS). Potential common
stock consists of stock options issued and outstanding. In determining the
number of shares 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
MARCH 31,
2004 2003
----------- ------------
Net income (numerator) $ 918,470 $ 1,387,650
Shares for basic EPS (denominator) 2,855,539 2,844,678
Dilutive effect of stock options 57,645 42,418
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Shares for diluted EPS (denominator) 2,913,184 2,887,096
========== ===========
For the periods ended March 31, 2004 and 2003, there were 0 and 4,204 options
outstanding respectively that were antidilutive since the exercise price exceeds
the average market price. The options have been omitted from the calculation of
the dilutive effect of stock options.
8
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 months ended March 31.
THREE MONTHS ENDED
MARCH 31,
2004 2003
----------- -----------
Net income $ 918,470 $ 1,387,650
Other comprehensive income (loss):
Unrealized gain (loss) arising during the period 396,371 (172,420)
Income tax benefit (expense) (134,766) 110,713
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Other comprehensive income (loss) 261,605 (61,707)
----------- -----------
Comprehensive income $ 1,180,075 $ 1,325,943
=========== ===========
5. Stock-Based Compensation: On January 1, 1996 the Company adopted SFAS No.
--------------------------
123, "Accounting for Stock-Based Compensation". As permitted by SFAS No.
123, the Company has chosen to continue to apply APB Opinion No. 25,
"Accounting for Stock Issued to Employees" and related interpretations. The
option exercise price is the market price of the common stock on the date
the option is granted. Accordingly, no compensation cost has been
recognized for options granted under the Option Plan. Had compensation cost
for the Company's Option Plan been determined based on the fair value at
the grant dates for awards under the option plan consistent with the method
of SFAS No. 123, the Company's net income and net income per share would
have been reduced to the pro forma amounts indicated below.
THREE MONTHS ENDED
MARCH 31,
2004 2003
---------- -----------
Net income, as reported $ 918,470 $ 1,387,650
Deduct: Total stock-based employee
compensation expense determined
under fair value based method for all
awards, net of related tax effects (23,054) --
--------- -----------
Proforma net income $ 895,416 $ 1,387,650
========= ===========
Earnings per share:
Basic-as reported $ 0.32 $ 0.49
========= ===========
Basic-proforma $ 0.31 $ 0.49
========= ===========
Diluted-as reported $ 0.32 $ 0.48
========= ===========
Diluted-proforma $ 0.31 $ 0.48
========= ===========
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 is the parent
company of Cooperative Bank (the "Bank"), a North Carolina chartered commercial
bank. Cooperative Bank, headquartered in Wilmington, North Carolina, was
chartered in 1898. The Bank provides financial services through 21 offices in
Eastern North Carolina. One of the Bank's subsidiaries, Lumina Mortgage Company,
Inc. ("Lumina") is a mortgage banking firm originating and selling residential
mortgage loans through offices in Wilmington, North Carolina, North Myrtle
Beach, South Carolina, and Virginia Beach, Virginia. The Bank's other
subsidiary, CS&L Holdings, Inc. ("Holdings") is a Virginia corporation and the
holding company for CS&L Real Estate Trust, Inc. (the "REIT"), which is a real
estate investment trust.
Through its financial centers, the Bank provides a wide range of banking
products, including interest-bearing and noninterest-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. The Bank began offering Online Banking and Bill Payment in July 2003.
In addition, the Bank also offers discount brokerage services, annuity sales and
mutual funds through a third party arrangement with UVEST Investment Services.
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
The 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 March 31, 2004, approximately $274 million, or 66%, of the Bank's
loan portfolio, which excludes loans held for sale, consisted of loans secured
by residential properties. This compared to approximately $267 million, or 66%
at December 31, 2003. The Bank originates adjustable rate and fixed rate loans.
As of March 31, 2004, adjustable rate and fixed rate loans totaled approximately
68 % and 32%, respectively, of the Bank's total loan portfolio.
The Bank has chosen to sell a large percentage of its fixed rate mortgage loan
originations in the secondary market and 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 exceeds the amount of interest rate sensitive
liabilities. Gap is considered negative when the amount of interest rate
sensitive liabilities exceeds the amount of interest rate sensitive assets. At
March 31, 2004, Cooperative had a one-year positive gap position of 3.1%. During
a period of falling interest rates, a positive gap would tend to adversely
affect net interest income, while a negative gap would tend to result in an
increase in net interest income. During a period of rising interest rates, a
positive gap would tend to result in an increase in net interest income while a
negative 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-
10
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 on these
types of 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
commitment 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.
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 March 31, 2004, the Bank's borrowed funds from the FHLB equaled 16.8%
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 March 31, 2004, the estimated market value of liquid assets (cash, cash
equivalents, marketable securities and loans held for sale) was approximately
$78.8 million, which represents 16.7% of deposits and borrowed funds as compared
to $71.8 million or 15.7% of deposits and borrowed funds at December 31, 2003.
The increase in liquid assets was due to an increase in available for sale
securities and loans held for sale.
The Company's primary uses of liquidity are to fund loans and to make
investments. At March 31, 2004, outstanding off-balance sheet commitments to
extend credit totaled $39.7 million, and the undisbursed portion of construction
loans was $45.0 million. Management considers current liquidity levels adequate
to meet the Company's cash flow requirements.
CAPITAL
Stockholders' equity at March 31, 2004, was $44.2 million, up 2.5% from $43.1
million at December 31, 2003. Stockholders' equity at March 31, 2004, includes
an unrealized gain net of tax of $546,856 as compared to an unrealized gain net
of tax at December 31, 2003, of $285,251 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 March 31, 2004, the
Bank's ratio of Tier I capital was 8.47%. 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
March 31, 2004, the Bank had a ratio of qualifying total capital to
risk-weighted assets of 11.93%.
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 March 14, 2004, the Company's Board of
Directors approved a quarterly cash dividend of $.05 per share. The dividend was
paid on April 16, 2004 to stockholders of record as of April 1, 2004. 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.
11
CRITICAL ACCOUNTING POLICY
The Bank's most significant critical accounting policies are those that govern
accounting for loans and its allowance for loan losses and goodwill. A critical
accounting policy is one that is both very important to the portrayal of the
Company's financial condition and results, and requires a difficult, subjective
or complex judgment by management. What makes these judgments inherently
difficult, subjective and/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 the "Critical Accounting Policy" and the
"Financial Condition" in Management's Discussion and Analysis and Note 3 of
"Notes to Consolidated Financial Statements" included in the Annual Report. For
further information on goodwill, see the "Critical Accounting Policy" in
Management's Discussion and Analysis and Note 13 of "Notes to Consolidated
Financial Statements" included in the Annual Report.
FINANCIAL CONDITION AT MARCH 31, 2004 COMPARED TO DECEMBER 31, 2003
The Company's total assets increased 3.3% to $518.9 million at March 31, 2004,
as compared to $502.4 million at December 31, 2003. The major change in the
assets was an increase of $10.4 million (2.6%) in loans, which was funded
primarily by an increase in deposits of $9.2 million (2.5%). The increase in
loans and deposits was a result of opening new branches. The Bank increased
securities available for sale by $5.1 million (11.7%) and loans held for sale by
$1.9 million (30.3%). The security purchase was funded by an advance 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. Loans held for sale are funded by a short-term borrowing
at another financial institution. This loan increased $1.5 million since
December 31, 2003 and is collateralized by the loans held for sale.
The Company's nonperforming assets (loans 90 days or more delinquent and
foreclosed real estate) were $220,000, or 0.04% of assets, at March 31, 2004,
compared to $267,000, or 0.05% of assets, at December 31, 2003. The Bank did not
own any foreclosed real estate at March 31, 2004, or December 31, 2003. The
Company assumes an aggressive position in collecting delinquent loans and
disposing of foreclosed assets to minimize balances of nonperforming 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. Yields and costs have continued to decline because of
the actions taken by the Federal Reserve over the past several years to reduce
interest rates in hopes of spurring the economy.
NET INCOME
Net income for the three-month period ended March 31, 2004, of $918,000
represents a 33.8% decrease as compared to the same period last year. The
decrease in net income for the period ended March 31, 2004 can be attributed to
a decrease in noninterest income of $388,000 and an increase in noninterest
expense of $282,000.
INTEREST INCOME
For the three-month period ended March 31, 2004, interest income decreased 9.3%
as compared to the same period a year ago. The average balance of
interest-earning assets increased 0.1% but the average yield decreased 58 basis
points as compared to the same period a year ago. The yield on average
interest-earning assets decreased to 5.51% as compared to 6.09% for the same
period a year ago which caused the negative impact on interest income.
INTEREST EXPENSE
Interest expense decreased 25.6% for the three-month period ended March 31,
2004, as compared to the same period a year ago. This decrease was due to the
average cost of interest-bearing liabilities decreasing 64 basis points as
compared to the same period a year ago. In addition, the average balance of
interest-bearing liabilities decreased
12
1.9% as compared to the same period a year ago. The cost of interest-bearing
liabilities decreased to 2.03% as compared to 2.67% for the same period last
year.
NET INTEREST INCOME
Net interest income for the three-month period ended March 31, 2004, as compared
to the same period a year ago, increased 1.9%. The increase was due to a
decrease in interest-bearing liabilities versus an increase in interest-earning
assets. There was also a larger decrease in the cost of liabilities, versus the
yield on assets. This can be attributed to the Bank's success in obtaining both
low and no cost deposits. See "Average Yield/Cost Analysis" table for further
information on interest income and interest expense.
13
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 quarter ended
March 31, 2004 March 31, 2003
---------------------------------------------------------------------------------
(Dollars in thousands) Average Average
Average Yield/ Average Yield/
Balance Interest Cost Balance Interest Cost
------------- ---------- ------------- ------------ ------------- ------------
Interest-earning assets:
Interest-bearing deposits in other banks $4,432 $ 10 0.90% $ 3,554 $ 10 1.13%
Securities:
Available for sale 46,512 512 4.40% 40,339 493 4.89%
Held to maturity 3,749 50 5.33% 7,783 109 5.60%
FHLB stock 4,133 36 3.48% 4,124 46 4.46%
Loan portfolio 416,469 5,945 5.71% 418,894 6,564 6.27%
-------- ------ -------- ------
Total interest-earning assets 475,295 6,553 5.51% 474,694 7,222 6.09%
Non-interest earning assets 25,629 26,266
-------- --------
Total assets $500,924 $500,960
======== ========
Interest-bearing liabilities:
Deposits 344,086 1,507 1.75% 344,878 2,038 2.36%
Borrowed funds 86,052 672 3.12% 93,473 892 3.82%
-------- ------ -------- ------
Total interest-bearing liabilities 430,138 $2,179 2.03% 438,351 $2,930 2.67%
------ ------
Non-interest bearing liabilities 29,868 23,772
-------- --------
Total liabilities 460,006 462,123
Stockholders' equity 40,918 38,837
-------- --------
Total liabilities and stockholders' equity $500,924 $500,960
======== ========
Net interest income $4,374 $4,292
====== ======
Interest rate spread 3.48% 3.42%
===== =====
Net yield on interest-earning assets 3.68% 3.62%
Percentage of average interest-earning
assets to average interest-bearing
liabilities 110.50% 108.30%
====== ======
PROVISION AND RESERVE FOR LOAN LOSSES
During the three-month period ended March 31, 2004 the Bank had net charge-offs
against the allowance for loan losses of $28,000 compared to $140,000 for the
same period in 2003. This decrease was primarily due to one credit relationship
being charged off during the first quarter of 2003. The Bank added $220,000 to
the allowance for loan
14
losses for the current three-month period increasing the balance to $3.6 million
at March 31, 2004. This brings the ratio of allowance for loan losses to total
loans up to .86% at March 31, 2004 as compared to .84% at December 31, 2003.
This percentage continues to rise because of the increase in retail banking
loans in the Bank's portfolio. Management considers the current level of the
allowance to be appropriate based on loan composition, the current level of
delinquencies and other nonperforming assets, overall economic conditions and
other factors. Future increases to the allowance may be necessary, however, 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
adjustments 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 decreased by 25.3% for the three-month period ended March 31,
2004, as compared to the same period a year ago. The change in noninterest
income can be attributed to gain on sale of loans and service charges and fees
on loans decreasing $397,000 and $79,000 respectively. These changes were
primarily caused by a reduction in mortgage banking activities caused by lower
refinancing activities. Deposit related fees increased $107,000 primarily due to
a new service the Bank offered beginning in April 2003 for checking accounts
with non-sufficient funds.
NONINTEREST EXPENSE
For the three-month period ended March 31, 2004, noninterest expense increased
7.8% as compared to the same period last year. Occupancy and equipment and other
expense increased $176,000 and $61,000 respectively, which was primarily caused
by the opening of four new branches since May of 2003.
INCOME TAXES
The effective tax rate for the three-month periods ended March 31, 2004 and
2003, was 34.3% and 30.9% respectively. The lower rate in 2003 was the result of
the formation of Holdings and the REIT in December 2002, which caused an
adjustment to taxes.
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, 2003.
ITEM 4 - CONTROLS AND PROCEDURES
As of the end of the period covered by this report, management of the Company
carried out an evaluation, under the supervision and with the participation of
the Company's principal executive officer and principal financial officer, of
the effectiveness of the Company's disclosure controls and procedures. Based on
this evaluation, the Company's principal executive officer and principal
financial officer concluded that the Company's disclosure controls and
procedures are effective in ensuring that information required to be disclosed
by the Company in reports that it files or submits under the Securities Exchange
Act of 1934, as amended, is recorded, processed, summarized and reported, within
the time periods specified in the Securities and Exchange Commission's rules and
forms. It should be noted that the design of the Company's disclosure controls
and procedures is based in part upon certain
15
reasonable assumptions about the likelihood of future events, and there can be
no reasonable assurance that any design of disclosure controls and procedures
will succeed in achieving its stated goals under all potential future
conditions, regardless of how remote, but the Company's principal executive and
financial officers have concluded that the Company's disclosure controls and
procedures are, in fact, effective at a reasonable assurance level.
There have been no changes in the Company's internal control over financial
reporting (to the extent that elements of internal control over financial
reporting are subsumed within disclosure controls and procedures) identified in
connection with the evaluation described in the above paragraph that occurred
during the Company's last fiscal quarter, that has materially affected, or is
reasonably likely to materially affect, the Company's internal control over
financial reporting.
16
PART II - OTHER INFORMATION
ITEM 1. LEGAL PROCEEDINGS
Not applicable
ITEM 2. CHANGES IN SECURITIES, USE OF PROCEEDS AND ISSUER PURCHASES OF EQUITY
SECURITIES
(a) Not applicable
(b) Not applicable
(c) Not applicable
(d) Not applicable
(e) 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
None
ITEM 5. OTHER INFORMATION
None
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K
(a) Exhibits
Exhibit 31.1 Rule 13a-14(a) Certification of Chief Executive Officer
Exhibit 31.2 Rule 13a-14(a) Certification of Chief Financial Officer
Exhibit 32 Certificate Pursuant to 18 U.S.C. Section 1350
(b) Reports on Form 8-K
The Company filed a Current Report on Form 8-K dated January 28, 2004
to report fiscal year 2003 earnings.
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 Cooperative Bankshares, Inc.
/s/ Frederick Willetts, III
-----------------------------------
Frederick Willetts, III
President/Chief Executive Officer
Dated: May 12, 2004
/s/ Todd L. Sammons
-----------------------------------
Todd L. Sammons
Senior Vice President/Chief
Financial Officer
18