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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
----------------------
(Mark One)
FORM 10-K
[X] ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
For The Fiscal Year Ended December 31, 1999
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 0-25051
PROSPERITY BANCSHARES, INC.
(Exact name of registrant as specified in its charter)
TEXAS 74-2331986
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification No.)
3040 POST OAK BLVD. 77056
HOUSTON, TEXAS (Zip Code)
(Address of principal executive offices)
Registrant's Telephone Number, Including Area Code: (713) 993-0002
Securities registered pursuant to Section 12(b) of the Act: None
Securities registered pursuant to Section 12(g) of the Act:
Common Stock, par value
$1.00 per share
Indicate by check mark whether the registrant (1) has filed all reports
required to be filed by Section 13 or 15(d) of the Securities Exchange Act of
1934 during the preceding 12 months (or for such shorter period that the
registrant was required to file such reports), and (2) has been subject to such
filing requirements for the past 90 days. Yes X No
Indicate by check mark if disclosure of delinquent filers pursuant to
Item 405 of Regulation S-K is not contained herein, and will not be contained,
to the best of registrant's knowledge, in definitive proxy or information
statements incorporated by reference in Part III of the Form 10-K or any
amendment of this Form 10-K. [ ]
As of February 23, 2000, the number of outstanding shares of Common
Stock was 5,217,825. As of such date, the aggregate market value of the shares
of Common Stock held by non-affiliates, based on the closing price of the Common
Stock on the Nasdaq National Market System on such date, was approximately
$63,837,479.
DOCUMENTS INCORPORATED BY REFERENCE:
Portions of the Company's Proxy Statement relating to the 2000 Annual Meeting
of Shareholders, which will be filed within 120 days after December 31, 1999,
are incorporated by reference into Part III, Items 10-13 of this Form 10-K.
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PROSPERITY BANCSHARES, INC.
1999 ANNUAL REPORT ON FORM 10-K
TABLE OF CONTENTS
PART I
Item 1. Business.....................................................................................1
General......................................................................................1
Bank Activities..............................................................................2
Business Strategies..........................................................................3
Recent Acquisition...........................................................................4
Competition..................................................................................4
Associates...................................................................................4
Supervision and Regulation...................................................................4
Item 2. Properties..................................................................................10
Item 3. Legal Proceedings...........................................................................12
Item 4. Submission of Matters to a Vote of Security Holders.........................................12
PART II
Item 5. Market for Registrant's Common Equity and Related Shareholder Matters.......................12
Item 6. Selected Consolidated Financial Data........................................................13
Item 7. Management's Discussion and Analysis of Financial Condition and Results of Operations.......15
Overview....................................................................................15
Results of Operations.......................................................................15
Financial Condition.........................................................................19
Year 2000 Compliance........................................................................31
Item 7A. Quantitative and Qualitative Disclosures about Market Risk..................................32
Item 8. Financial Statements and Supplementary Data.................................................32
Item 9. Changes In and Disagreements with Accountants on Accounting and Financial Disclosure........34
PART III
Item 10. Directors and Executive Officers of the Registrant..........................................34
Item 11. Executive Compensation......................................................................34
Item 12. Security Ownership of Certain Beneficial Owners and Management..............................34
Item 13. Certain Relationships and Related Transactions..............................................34
Part IV
Item 14. Exhibits, Financial Statement Schedules and Reports on Form 8-K.............................34
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PART I
SPECIAL CAUTIONARY NOTICE REGARDING FORWARD-LOOKING STATEMENTS
Statements and financial discussion an analysis contained in this
Annual Report on Form 10-K that are not historical facts are forward-looking
statements made pursuant to the safe harbor provisions for the Private
Litigation Reform Act of 1995. Forward-looking statements describe the Company's
future plans, strategies and expectations, are based on assumptions and involve
a number of risks and uncertainties, many of which are beyond the Company's
control. The important factors that could cause actual results to differ
materially from the forward-looking statements include, without limitation:
o changes in interest rates and market prices, which could
reduce the Company's net interest margins, asset valuations
and expense expectations;
o changes in the levels of loan prepayments and the resulting
effects on the value of the Company's loan portfolio;
o changes in local economic and business conditions which
adversely affect the Company's customers and their ability to
transact profitable business with the Company, including the
ability of its borrowers to repay their loans according to
their terms or a change in the value of the related
collateral;
o increased competition for deposits and loans adversely
affecting rates and terms;
o the timing, impact and other uncertainties of the Company's
future acquisitions, including the Company's ability to
identify suitable future acquisition candidates, the success
or failure in the integration of their operations, and the
Company's ability to enter new markets successfully and
capitalize on growth opportunities;
o increased credit risk in the Company's assets and increased
operating risk caused by a material change in commercial,
consumer and/or real estate loans as a percentage of the total
loan portfolio;
o the failure of assumptions underlying the establishment of and
provisions made to the allowance for credit losses;
o changes in the availability of funds resulting in increased
costs or reduced liquidity;
o increased asset levels and changes in the composition of
assets and the resulting impact on the Company's capital
levels and regulatory capital ratios;
o the Company's ability to acquire, operate and maintain cost
effective and efficient systems without incurring unexpectedly
difficult or expensive but necessary technological changes
(including changes to address Year 2000 data systems issues);
o the loss of senior management or operating personnel and the
potential inability to hire qualified personnel at reasonable
compensations levels; and
o changes in statutes and government regulations or their
interpretations applicable to bank holding companies and the
Company's present and future banking and other subsidiaries,
including changes in tax requirements and tax rates.
The Company undertakes no obligation to publicly update or otherwise
revise any forward-looking statements, whether as a result of new information,
future events or otherwise.
ITEM 1. BUSINESS
GENERAL
Prosperity Bancshares, Inc. (the "Company") was formed in 1983 as a
vehicle to acquire the former Allied Bank in Edna, Texas which was chartered in
1949. The Company derives substantially all of its income from its wholly-owned
bank subsidiary, First Prosperity Bank (the "Bank"), which has 15 full-service
banking locations ("Banking Centers") in the greater Houston metropolitan area
and nine contiguous counties situated south and southwest of Houston and
extending into South Texas. The Company's headquarters are located at 3040 Post
Oak Boulevard in Houston, Texas and its telephone number is (713) 993-0002.
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Operating under a community banking philosophy, the Company seeks to
develop broad customer relationships based on service and convenience while
maintaining its conservative approach to lending and strong asset quality. The
Company has grown through a combination of internal growth, the acquisition of
community banks and the opening of new banking centers. Utilizing a low cost of
funds and employing stringent cost controls, the Company has been profitable in
every full year of its existence, including the period of adverse economic
conditions in Texas in the late 1980s. From 1988 to 1992, as a sound and
profitable institution, the Company took advantage of this economic downturn and
acquired the deposits and certain assets of failed banks in West Columbia, El
Campo and Cuero, Texas and two failed banks in Houston, which diversified the
Company's franchise and increased its core deposits. The Company opened a
full-service Banking Center in Victoria, Texas in 1993 and the following year
established a Banking Center in Bay City, Texas. The Company expanded its Bay
City presence in 1996 with the acquisition of an additional branch location from
Norwest Bank Texas, and in 1997, the Company acquired the Angleton, Texas branch
of Wells Fargo Bank (the "Angleton Acquisition"). In 1998, the Company enhanced
its West Columbia Banking Center with the purchase of a commercial bank branch
located in West Columbia and acquired Union State Bank in East Bernard, Texas,
(the "Union Acquisition"). In addition, effective October 1, 1999, the Company
acquired South Texas Bancshares, Inc. and its wholly owned subsidiary, The
Commercial National Bank of Beeville ("CNB"), with locations in Beeville, Mathis
and Goliad, Texas (the "South Texas Acquisition"). The Company believes that
this acquisition will not only expand market presence and market share in South
Texas, but also enable it to achieve certain cost efficiencies and savings.
Additionally, the Company acquired trust powers in connection with the South
Texas Acquisition, and plans to offer trust services to customers through all of
its Banking Centers in 2000. At September 30, 1999, South Texas Bancshares had
total assets of $142.7 million, total loans of $33.7 million and total deposits
of $126.5 million. As a result of the addition of these acquisitions and
internal growth, the Company's assets have increased from $54.2 million at the
end of 1987 to $608.7 million as of December 31, 1999 and its deposits have
increased from $46.0 million to $534.8 million in that same period.
The Company's primary market consists of the communities served by its
three locations in the greater Houston metropolitan area and its 12 locations in
nine contiguous counties located to the south and southwest of Houston. Texas
Highway 59 (scheduled to become Interstate Highway 69), which serves as the
primary "NAFTA Highway" linking the interior United States and Mexico, runs
directly through the center of the Company's market area. The increased traffic
along this NAFTA Highway has enhanced economic activity in the Company's market
area and created opportunities for growth. The diverse nature of the economies
in each local market served by the Company provides the Company with a varied
customer base and allows the Company to spread its lending risk throughout a
number of different industries including farming, ranching, petrochemicals,
manufacturing, tourism, recreation and professional service firms and their
principals. The Company's market areas outside of Houston are dominated by
either small community banks or branches of large regional banks. Management
believes that the Company, as one of the few mid-sized financial institutions
that combines responsive community banking with the sophistication of a regional
bank holding company, has a competitive advantage in its market area and
excellent growth opportunities through acquisitions, new branch locations and
additional business development.
The Company's directors and officers are important to the Company's
success and play a key role in the Company's business development efforts by
actively participating in a number of civic and public service activities in the
communities served by the Company, such as the Rotary Club, Lion's Club, Pilot
Club, United Way and Chamber of Commerce. In addition, the Company's Banking
Centers in Bay City, Beeville, Clear Lake, Cuero, Edna, Meyerland, Post Oak and
Victoria maintain Community Development Boards, whose function is to solicit new
business, develop customer relations and provide valuable community knowledge to
their respective Banking Center Presidents.
The Company has invested heavily in its officers and associates by
recruiting talented officers in its market areas and providing them with
economic incentive in the form of stock options and bonuses based on
cross-selling performance. The senior management team has substantial experience
in both the Houston markets and the surrounding communities in which the Company
has a presence. Each Banking Center location is administered by a local
President with knowledge of the community and lending expertise in the specific
industries found in the community. The Company entrusts its Banking Center
Presidents with authority and flexibility within general parameters with respect
to product pricing and decision making in order to avoid the bureaucratic
structure of larger banks. The Company operates each Banking Center as a
separate profit center, maintaining separate data with respect to each Banking
Center's net interest income, efficiency ratio, deposit growth, loan growth and
overall profitability. Banking Center Presidents are accountable for performance
in these areas and compensated accordingly. Each Banking Center has its own
local telephone number, which enables a customer to be served by a local banker.
BANK ACTIVITIES
The Company offers a variety of traditional loan and deposit products
to its customers, which consist primarily of consumers and small and
medium-sized businesses. The Company tailors its products to the specific needs
of customers in a given market. At December 31, 1999 the Company maintained
approximately 45,000 separate deposit accounts and 6,200 separate loan accounts
and
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approximately 21.2% of the Company's total deposits were noninterest-bearing
demand deposits. For the period ended December 31, 1999, the Company's average
cost of funds was 2.96%.
The Company has been an active mortgage lender, with 1-4 family
residential and commercial mortgage loans comprising 60.8% of the Company's
total loans as of December 31, 1999. The Company also offers loans for
automobiles and other consumer durables, home equity loans, debit cards,
personal computer banking and other cash management services and telebanking. By
offering certificates of deposit, NOW accounts, savings accounts and overdraft
protection at competitive rates, the Company gives its depositors a full range
of traditional deposit products. The Company has successfully introduced the
Sunburst account, which for a monthly fee provides consumers with a package of
benefits including unlimited free checking, personalized checks, credit card
protection, free travelers checks, cashier's checks, money orders and certain
travel discounts.
The businesses targeted by the Company are primarily those that require
loans in the $100,000 to $3.0 million range. The Company offers these businesses
a broad array of loan products including term loans, lines of credit and loans
for working capital, business expansion and the purchase of equipment and
machinery, interim construction loans for builders and owner-occupied commercial
real estate loans. For its business customers, the Company has developed a
specialized checking product called Business 10 Checking which provides
discounted fees for checking and normal account analysis.
BUSINESS STRATEGIES
The Company's main objective is to increase deposits and loans through
additional expansion opportunities while maintaining efficiency, individualized
customer service and maximizing profitability. To achieve this objective, the
Company has employed the following strategic goals:
Continue Community Banking Emphasis. The Company intends to continue
operating as a community banking organization focused on meeting the specific
needs of consumers and small and medium-sized businesses in its market areas.
The Company will continue to provide a high degree of responsiveness combined
with a wide variety of banking products and services. The Company staffs its
Banking Centers with experienced bankers with lending expertise in the specific
industries found in the community, giving them authority to make certain pricing
and credit decisions, thereby attempting to avoid the bureaucratic structure of
larger banks.
Increase Loan Volume and Diversify Loan Portfolio. Historically, the
Company has elected to sacrifice some earnings for the historically lower credit
losses associated with home mortgage loans. While maintaining its conservative
approach to lending, the Company plans to emphasize both new and existing loan
products, focusing on growing its home equity and commercial loan portfolios.
Among new loan products, the Company successfully introduced home equity lending
in 1998, which contributed $3.2 million in new loans during 1999 and had a
balance of $11.3 million at December 31, 1999. The Company has also increased
its number of loans to finance the construction of commercial owner-occupied
real estate and loans to commercial businesses for accounts receivable financing
and other purposes. The Company is also targeting professional service firms
such as legal and medical practices for both loans secured by owner-occupied
premises and personal loans to their principals. As an outgrowth of its
traditional mortgage lending activity, the Company is making more jumbo mortgage
loans, particularly in the Houston area.
Continue Strict Focus on Efficiency. The Company plans to maintain its
stringent cost control practices and policies. The Company has invested
significantly in the infrastructure required to centralize many of its critical
operations, such as data processing and loan application processing. For its
Banking Centers, which the Company operates as independent profit centers, the
Company supplies complete support in the areas of loan review, internal audit,
compliance and training. The Company maintains a Products Committee which
provides support in the areas of product development, marketing and pricing.
Management believes that this centralized infrastructure can accommodate
substantial additional growth while enabling the Company to minimize operational
costs through certain economies of scale.
Enhance Cross-Selling. The Company recognizes that its customer base
provides significant opportunities to cross-sell various products and it seeks
to develop broader customer relationships by identifying cross-selling
opportunities. The Company uses incentives and friendly competition to encourage
cross-selling efforts, and increase cross-selling results. To assist with
cross-selling efforts the Company has updated its technology to help officers
and associates identify cross-selling opportunities. Using data, which includes
existing and related account relationships, the Company's officers and
associates inform customers of additional products when customers visit or call
the various Banking Centers or use their drive-in facilities. In addition, the
Company includes product information in monthly statements and other mailouts.
The products most frequently targeted for cross-selling include auto loans,
mortgage loans, home equity loans, checking accounts, savings accounts,
certificates of deposit, individual retirement accounts, direct deposit
accounts, personal computer banking and safe deposit boxes.
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Expand Market Share Through Internal Growth and a Disciplined
Acquisition Strategy. The Company intends to continue seeking opportunities,
both inside and outside its existing markets, to expand either by acquiring
existing banks or branches of banks or by establishing new branches. All of the
Company's acquisitions have been accretive to earnings immediately and have
supplied the Company with relatively low-cost deposits which have been used to
fund the Company's lending activities. Factors used by the Company to evaluate
expansion opportunities include the similarity in management and operating
philosophies, whether the acquisition will be accretive to earnings and enhance
shareholder value, the ability to achieve economies of scale to improve the
efficiency ratio and the opportunity to enhance the Company's image and market
presence.
Maintain Strong Asset Quality. The Company intends to maintain the
strong asset quality that has been representative of its historical loan
portfolio. As the Company diversifies and increases its lending activities, it
may face higher risks of nonpayment and increased risks in the event of economic
downturns. The Company intends, however, to continue to employ the strict
underwriting guidelines and comprehensive loan review process that have
contributed to its low incidence of nonperforming assets and its minimal
charge-offs.
RECENT ACQUISITION
The Company actively pursues an acquisition strategy designed to
increase efficiency, market share and return to shareholders. As part of this
strategy, on October 1, 1999, the Company acquired South Texas Bancshares and
its wholly-owned subsidiary CNB for aggregate cash consideration of $23,350,000.
The South Texas Acquisition provides the Company with a presence in Beeville, a
community of 18,000 located in Bee County, Mathis, a community of 5,800 located
in San Patricio County, and Goliad, a community of 3,000 located in Goliad
County. The Company's significantly higher lending limit is expected to create
lending opportunities in the market that South Texas Bancshares was unable to
take advantage of prior to the acquisition. Similar to its previous
acquisitions, management believes that the South Texas Acquisition will enable
the Company to achieve certain economies of scale and savings from the operation
of the newly acquired banking offices as additional Banking Centers. CNB offered
conventional consumer and commercial products and services, including interest
and noninterest-bearing depository accounts and commercial, industrial,
consumer, agricultural and real estate lending. As of September 30, 1999, CNB
had total assets of $142.7 million, total loans of $33.7 million and total
deposits of $126.5 million.
COMPETITION
The banking business is highly competitive, and the profitability of
the Company depends principally on the Company's ability to compete in its
market areas. The Company competes with other commercial banks, savings banks,
savings and loan associations, credit unions, finance companies, mutual funds,
insurance companies, brokerage and investment banking firms, asset-based nonbank
lenders and certain other nonfinancial entities, including retail stores which
may maintain their own credit programs and certain governmental organizations
which may offer more favorable financing than the Company. The Company has been
able to compete effectively with other financial institutions by emphasizing
customer service, technology and responsive decision-making with respect to
loans; by establishing long-term customer relationships and building customer
loyalty; and by providing products and services designed to address the specific
needs of its customers. Competition from both financial and nonfinancial
institutions is expected to continue.
Under the Gramm-Leach-Bliley Act, effective March 11, 2000, securities
firms and insurance companies that elect to become financial holding companies
may acquire banks and other financial institutions. The Gramm-Leach-Bliley Act
may significantly change the competitive environment in which the Company and
its subsidiaries conduct business. See "-Supervision and Regulation-The
Company". The financial services industry is also likely to become even more
competitive as further technological advances enable more companies to provide
financial services. These technological advances may diminish the importance of
depository institutions and other financial intermediaries in the transfer of
funds between parties.
ASSOCIATES
As of December 31, 1999, the Company and the Bank had 185 full-time
equivalent associates, 83 of whom were officers of the Bank. The Company
provides medical and hospitalization insurance to its full-time associates. The
Company considers its relations with associates to be excellent. Neither the
Company nor the Bank is a party to any collective bargaining agreement.
SUPERVISION AND REGULATION
The supervision and regulation of bank holding companies and their
subsidiaries is intended primarily for the protection of depositors, the deposit
insurance funds of the Federal Deposit Insurance Corporation ("FDIC") and the
banking system as a whole, and not for the protection of the bank holding
company shareholders or creditors. The banking agencies have broad enforcement
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power over bank holding companies and banks including the power to impose
substantial fines and other penalties for violations of laws and regulations.
The following description summarizes some of the laws to which the
Company and the Bank are subject. References herein to applicable statutes and
regulations are brief summaries thereof, do not purport to be complete, and are
qualified in their entirety by reference to such statutes and regulations. The
Company believes that it is in compliance in all material respects with these
laws and regulations.
THE COMPANY
The Company is a bank holding company registered under the Bank Holding
Company Act of 1956, as amended ("BHCA"), and it is subject to supervision,
regulation and examination by the Board of Governors of the Federal Reserve
System ("Federal Reserve Board"). The BHCA and other federal laws subject bank
holding companies to particular restrictions on the types of activities in which
they may engage, and to a range of supervisory requirements and activities,
including regulatory enforcement actions for violations of laws and regulations.
Regulatory Restrictions on Dividends; Source of Strength. It is the
policy of the Federal Reserve Board that bank holding companies should pay cash
dividends on common stock only out of income available over the past year and
only if prospective earnings retention is consistent with the organization's
expected future needs and financial condition. The policy provides that bank
holding companies should not maintain a level of cash dividends that undermines
the bank holding company's ability to serve as a source of strength to its
banking subsidiaries.
Under Federal Reserve Board policy, a bank holding company is expected
to act as a source of financial strength to each of its banking subsidiaries and
commit resources to their support. Such support may be required at times when,
absent this Federal Reserve Board policy, a holding company may not be inclined
to provide it. As discussed below, a bank holding company in certain
circumstances could be required to guarantee the capital plan of an
undercapitalized banking subsidiary.
In the event of a bank holding company's bankruptcy under Chapter 11 of
the U.S. Bankruptcy Code, the trustee will be deemed to have assumed and is
required to cure immediately any deficit under any commitment by the debtor
holding company to any of the federal banking agencies to maintain the capital
of an insured depository institution, and any claim for breach of such
obligation will generally have priority over most other unsecured claims.
Financial Modernization. Under the BHCA, bank holding companies
generally may not acquire a direct or indirect interest in or control of more
than 5% of the voting shares of any company that is not a bank or bank holding
company or from engaging in activities other than those of banking, managing or
controlling banks or furnishing services to or performing services for its
subsidiaries, except that it may engage in, directly or indirectly, certain
activities that the Federal Reserve Board determined to be closely related to
banking or managing and controlling banks as to be a proper incident thereto.
However, on November 12, 1999, President Clinton signed into law the
Gramm-Leach-Bliley Act which eliminated the barriers to affiliations among
banks, securities firms, insurance companies and other financial service
providers. The Gramm-Leach-Bliley Act, effective March 11, 2000, permits bank
holding companies to become financial holding companies and thereby affiliate
with securities firms and insurance companies and engage in other activities
that are financial in nature. The Gramm-Leach-Bliley Act defines "financial in
nature" to include securities underwriting, dealing and market making;
sponsoring mutual funds and investment companies; insurance underwriting and
agency; merchant banking activities; and activities that the Federal Reserve
Board has determined to be closely related to banking. No regulatory approval
will be required for a financial holding company to acquire a company, other
than a bank or savings association, engaged in activities that are financial in
nature or incidental to activities that are financial in nature, as determined
by the Federal Reserve Board.
Under the Gramm-Leach-Bliley Act, a bank holding company may become a
financial holding company by filing a declaration with the Federal Reserve Board
if each of its subsidiary banks is well capitalized under the FDICIA prompt
corrective action provisions, is well managed, and has at least a satisfactory
rating under the Community Reinvestment Act of 1977 ("CRA").
While the Federal Reserve Board will serve as the "umbrella" regulator
for financial holding companies and has the power to examine banking
organizations engaged in new activities, regulation and supervision of
activities which are financial in nature or determined to be incidental to such
financial activities will be handled along functional lines. Accordingly,
activities of subsidiaries of a financial holding company will be regulated by
the agency or authorities with the most experience regulating that activity as
it is conducted in a financial holding company.
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Safe and Sound Banking Practices. Bank holding companies are not
permitted to engage in unsafe and unsound banking practices. The Federal Reserve
Board's Regulation Y, for example, generally requires a holding company to give
the Federal Reserve Board prior notice of any redemption or repurchase of its
own equity securities, if the consideration to be paid, together with the
consideration paid for any repurchases or redemptions in the preceding year, is
equal to 10% or more of the company's consolidated net worth. The Federal
Reserve Board may oppose the transaction if it believes that the transaction
would constitute an unsafe or unsound practice or would violate any law or
regulation. Depending upon the circumstances, the Federal Reserve Board could
take the position that paying a dividend would constitute an unsafe or unsound
banking practice.
The Federal Reserve Board has broad authority to prohibit activities of
bank holding companies and their nonbanking subsidiaries which represent unsafe
and unsound banking practices or which constitute violations of laws or
regulations, and can assess civil money penalties for certain activities
conducted on a knowing and reckless basis, if those activities caused a
substantial loss to a depository institution. The penalties can be as high as
$1.0 million for each day the activity continues.
Anti-Tying Restrictions. Bank holding companies and their affiliates
are prohibited from tying the provision of certain services, such as extensions
of credit, to other services offered by a holding company or its affiliates.
Capital Adequacy Requirements. The Federal Reserve Board has adopted a
system using risk-based capital guidelines to evaluate the capital adequacy of
bank holding companies. Under the guidelines, specific categories of assets are
assigned different risk weights, based generally on the perceived credit risk of
the asset. These risk weights are multiplied by corresponding asset balances to
determine a "risk-weighted" asset base. The guidelines require a minimum total
risk-based capital ratio of 8.0% (of which at least 4.0% is required to consist
of Tier 1 capital elements). Total capital is the sum of Tier 1 and Tier 2
capital. As of December 31, 1999, the Company's ratio of Tier 1 capital to total
risk-weighted assets was 14.35% and its ratio of total capital to total
risk-weighted assets was 16.71%. SEE "MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS - FINANCIAL CONDITION - CAPITAL
RESOURCES."
In addition to the risk-based capital guidelines, the Federal Reserve
Board uses a leverage ratio as an additional tool to evaluate the capital
adequacy of bank holding companies. The leverage ratio is a company's Tier 1
capital divided by its average total consolidated assets. Certain highly rated
bank holding companies may maintain a minimum leverage ratio of 3.0%, but other
bank holding companies may be required to maintain a leverage ratio of up to 200
basis points above the regulatory minimum. As of December 31, 1999, the
Company's leverage ratio was 6.28%.
The federal banking agencies' risk-based and leverage ratios are
minimum supervisory ratios generally applicable to banking organizations that
meet certain specified criteria, assuming that they have the highest regulatory
rating. Banking organizations not meeting these criteria are expected to operate
with capital positions well above the minimum ratios. The federal bank
regulatory agencies may set capital requirements for a particular banking
organization that are higher than the minimum ratios when circumstances warrant.
Federal Reserve Board guidelines also provide that banking organizations
experiencing internal growth or making acquisitions will be expected to maintain
strong capital positions substantially above the minimum supervisory levels,
without significant reliance on intangible assets.
Imposition of Liability for Undercapitalized Subsidiaries. Bank
regulators are required to take "prompt corrective action" to resolve problems
associated with insured depository institutions whose capital declines below
certain levels. In the event an institution becomes "undercapitalized," it must
submit a capital restoration plan. The capital restoration plan will not be
accepted by the regulators unless each company having control of the
undercapitalized institution guarantees the subsidiary's compliance with the
capital restoration plan up to a certain specified amount. Any such guarantee
from a depository institution's holding company is entitled to a priority of
payment in bankruptcy.
The aggregate liability of the holding company of an undercapitalized
bank is limited to the lesser of 5% of the institution's assets at the time it
became undercapitalized or the amount necessary to cause the institution to be
"adequately capitalized." The bank regulators have greater power in situations
where an institution becomes "significantly" or "critically" undercapitalized or
fails to submit a capital restoration plan. For example, a bank holding company
controlling such an institution can be required to obtain prior Federal Reserve
Board approval of proposed dividends, or might be required to consent to a
consolidation or to divest the troubled institution or other affiliates.
Acquisitions by Bank Holding Companies. The BHCA requires every bank
holding company to obtain the prior approval of the Federal Reserve Board before
it may acquire all or substantially all of the assets of any bank, or ownership
or control of any voting shares of any bank, if after such acquisition it would
own or control, directly or indirectly, more than 5% of the voting shares of
such bank. In approving bank acquisitions by bank holding companies, the Federal
Reserve Board is required to consider the financial and
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managerial resources and future prospects of the bank holding company and the
banks concerned, the convenience and needs of the communities to be served, and
various competitive factors.
Control Acquisitions. The Change in Bank Control Act prohibits a person
or group of persons from acquiring "control" of a bank holding company unless
the Federal Reserve Board has been notified and has not objected to the
transaction. Under a rebuttable presumption established by the Federal Reserve
Board, the acquisition of 10% of more of a class of voting stock of a bank
holding company with a class of securities registered under Section 12 of the
Exchange Act, such as the Company, would, under the circumstances set forth in
the presumption, constitute acquisition of control of the Company.
In addition, any entity is required to obtain the approval of the
Federal Reserve Board under the BHCA before acquiring 25% (5% in the case of an
acquiror that is a bank holding company) or more of the outstanding Common Stock
of the Company, or otherwise obtaining control or a "controlling influence" over
the Company.
THE BANK
The Bank is a Texas-chartered banking association, the deposits of
which are insured by the Bank Insurance Fund ("BIF"). The Bank is not a member
of the Federal Reserve System; therefore, the Bank is subject to supervision and
regulation by the FDIC and the Texas Banking Department. Such supervision and
regulation subject the Bank to special restrictions, requirements, potential
enforcement actions and periodic examination by the FDIC and the Texas Banking
Department. Because the Federal Reserve Board regulates the bank holding company
parent of the Bank, the Federal Reserve Board also has supervisory authority
which directly affects the Bank.
Equivalence to National Bank Powers. The Texas Constitution, as amended
in 1986, provides that a Texas-chartered bank has the same rights and privileges
that are or may be granted to national banks domiciled in Texas. To the extent
that the Texas laws and regulations may have allowed state-chartered banks to
engage in a broader range of activities than national banks, the Federal Deposit
Insurance Corporation Improvement Act of 1991 ("FDICIA") has operated to limit
this authority. FDICIA provides that no state bank or subsidiary thereof may
engage as principal in any activity not permitted for national banks, unless the
institution complies with applicable capital requirements and the FDIC
determines that the activity poses no significant risk to the insurance fund. In
general, statutory restrictions on the activities of banks are aimed at
protecting the safety and soundness of depository institutions.
Financial Modernization. Under the Gramm-Leach-Bliley Act, a national
bank may establish a financial subsidiary and engage, subject to limitations on
investment, in activities that are financial in nature, other than insurance
underwriting as principal, insurance company portfolio investment, real estate
development, real estate investment and annuity issuance. To do so, a bank must
be well capitalized, well managed and have a CRA rating of satisfactory or
better. Subsidiary banks of a financial holding company or national banks with
financial subsidiaries must remain well capitalized and well managed in order to
continue to engage in activities that are financial in nature without regulatory
actions or restrictions, which could include divestiture of the financial in
nature subsidiary or subsidiaries. In addition, a financial holding company or a
bank may not acquire a company that is engaged in activities that are financial
in nature unless each of the subsidiary banks of the financial holding company
or the bank has a CRA rating of satisfactory of better.
Although the powers of state chartered banks are not specifically
addressed in the Gramm-Leach-Bliley Act, Texas-chartered banks such as the Bank,
will have the same if not greater powers as national banks through the parity
provision contained in the Texas Constitution.
Branching. Texas law provides that a Texas-chartered bank can establish
a branch anywhere in Texas provided that the branch is approved in advance by
the Texas Banking Department. The branch must also be approved by the FDIC,
which considers a number of factors, including financial history, capital
adequacy, earnings prospects, character of management, needs of the community
and consistency with corporate powers.
Restrictions on Transactions with Affiliates and Insiders. Transactions
between the Bank and its nonbanking subsidiaries, including the Company, are
subject to Section 23A of the Federal Reserve Act. In general, Section 23A
imposes limits on the amount of such transactions, and also requires certain
levels of collateral for loans to affiliated parties. It also limits the amount
of advances to third parties which are collateralized by the securities or
obligations of the Company or its subsidiaries.
Affiliate transactions are also subject to Section 23B of the Federal
Reserve Act which generally requires that certain transactions between the Bank
and its affiliates be on terms substantially the same, or at least as favorable
to the Bank, as those prevailing at the time for comparable transactions with or
involving other nonaffiliated persons.
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The restrictions on loans to directors, executive officers, principal
shareholders and their related interests (collectively referred to herein as
"insiders") contained in the Federal Reserve Act and Regulation O apply to all
insured institutions and their subsidiaries and holding companies. These
restrictions include limits on loans to one borrower and conditions that must be
met before such a loan can be made. There is also an aggregate limitation on all
loans to insiders and their related interests. These loans cannot exceed the
institution's total unimpaired capital and surplus, and the FDIC may determine
that a lesser amount is appropriate. Insiders are subject to enforcement actions
for knowingly accepting loans in violation of applicable restrictions.
Restrictions on Distribution of Subsidiary Bank Dividends and Assets.
Dividends paid by the Bank have provided a substantial part of the Company's
operating funds and for the foreseeable future it is anticipated that dividends
paid by the Bank to the Company will continue to be the Company's principal
source of operating funds. Capital adequacy requirements serve to limit the
amount of dividends that may be paid by the Bank. Under federal law, the Bank
cannot pay a dividend if, after paying the dividend, the Bank will be
"undercapitalized." The FDIC may declare a dividend payment to be unsafe and
unsound even though the Bank would continue to meet its capital requirements
after the dividend. Because the Company is a legal entity separate and distinct
from its subsidiaries, its right to participate in the distribution of assets of
any subsidiary upon the subsidiary's liquidation or reorganization will be
subject to the prior claims of the subsidiary's creditors. In the event of a
liquidation or other resolution of an insured depository institution, the claims
of depositors and other general or subordinated creditors are entitled to a
priority of payment over the claims of holders of any obligation of the
institution to its shareholders, including any depository institution holding
company (such as the Company) or any shareholder or creditor thereof.
Examinations. The FDIC periodically examines and evaluates insured
banks. Based on such an evaluation, the FDIC may revalue the assets of the
institution and require that it establish specific reserves to compensate for
the difference between the FDIC-determined value and the book value of such
assets. The Texas Banking Department also conducts examinations of state banks
but may accept the results of a federal examination in lieu of conducting an
independent examination.
Audit Reports. Insured institutions with total assets of $500 million
or more must submit annual audit reports prepared by independent auditors to
federal and state regulators. In some instances, the audit report of the
institution's holding company can be used to satisfy this requirement. Auditors
must receive examination reports, supervisory agreements and reports of
enforcement actions. In addition, financial statements prepared in accordance
with generally accepted accounting principles, management's certifications
concerning responsibility for the financial statements, internal controls and
compliance with legal requirements designated by the FDIC, and an attestation by
the auditor regarding the statements of management relating to the internal
controls must be submitted. For institutions with total assets of more than $3
billion, independent auditors may be required to review quarterly financial
statements. FDICIA requires that independent audit committees be formed,
consisting of outside directors only. The committees of such institutions must
include members with experience in banking or financial management, must have
access to outside counsel, and must not include representatives of large
customers.
Capital Adequacy Requirements. The FDIC has adopted regulations
establishing minimum requirements for the capital adequacy of insured
institutions. The FDIC may establish higher minimum requirements if, for
example, a bank has previously received special attention or has a high
susceptibility to interest rate risk.
The FDIC's risk-based capital guidelines generally require state banks
to have a minimum ratio of Tier 1 capital to total risk-weighted assets of 4.0%
and a ratio of total capital to total risk-weighted assets of 8.0%. The capital
categories have the same definitions for the Bank as for the Company. As of
December 31, 1999, the Bank's ratio of Tier 1 capital to total risk-weighted
assets was 14.37% and its ratio of total capital to total risk-weighted assets
was 15.48%. SEE "MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULT OF OPERATION OF THE COMPANY - FINANCIAL CONDITION - CAPITAL RESOURCES."
The FDIC's leverage guidelines require state banks to maintain Tier 1
capital of no less than 5.0% of average total assets, except in the case of
certain highly rated banks for which the requirement is 3.0% of average total
assets. The Texas Banking Department has issued a policy which generally
requires state chartered banks to maintain a leverage ratio (defined in
accordance with federal capital guidelines) of 6%. As of December 31, 1999, the
Bank's ratio of Tier 1 capital to average total assets (leverage ratio) was
6.29%. SEE "MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULT OF OPERATION OF THE COMPANY - FINANCIAL CONDITION - CAPITAL RESOURCES."
Corrective Measures for Capital Deficiencies. The federal banking
regulators are required to take "prompt corrective action" with respect to
capital-deficient institutions. Agency regulations define, for each capital
category, the levels at which institutions are "well capitalized," "adequately
capitalized," "under capitalized," "significantly under capitalized" and
"critically under capitalized." A "well capitalized" bank has a total risk-based
capital ratio of 10.0% or higher; a Tier 1 risk-based capital ratio of 6.0% or
higher; a leverage ratio of 5.0% or higher; and is not subject to any written
agreement, order or directive requiring it to maintain a specific capital level
for any capital measure. An "adequately capitalized" bank has a total risk-based
capital ratio of 8.0% or higher; a Tier 1
8
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risk-based capital ratio of 4.0% or higher; a leverage ratio of 4.0% or higher
(3.0% or higher if the bank was rated a composite 1 in its most recent
examination report and is not experiencing significant growth); and does not
meet the criteria for a well capitalized bank. A bank is "under capitalized" if
it fails to meet any one of the ratios required to be adequately capitalized.
The Bank is classified as "well capitalized" for purposes of the FDIC's prompt
corrective action regulations.
In addition to requiring undercapitalized institutions to submit a
capital restoration plan, agency regulations contain broad restrictions on
certain activities of undercapitalized institutions including asset growth,
acquisitions, branch establishment and expansion into new lines of business.
With certain exceptions, an insured depository institution is prohibited from
making capital distributions, including dividends, and is prohibited from paying
management fees to control persons if the institution would be undercapitalized
after any such distribution or payment.
As an institution's capital decreases, the FDIC's enforcement powers
become more severe. A significantly undercapitalized institution is subject to
mandated capital raising activities, restrictions on interest rates paid and
transactions with affiliates, removal of management and other restrictions. The
FDIC has only very limited discretion in dealing with a critically
undercapitalized institution and is virtually required to appoint a receiver or
conservator.
Banks with risk-based capital and leverage ratios below the required
minimums may also be subject to certain administrative actions, including the
termination of deposit insurance upon notice and hearing, or a temporary
suspension of insurance without a hearing in the event the institution has no
tangible capital.
Deposit Insurance Assessments. The Bank must pay assessments to the
FDIC for federal deposit insurance protection. The FDIC has adopted a risk-based
assessment system as required by FDICIA. Under this system, FDIC-insured
depository institutions pay insurance premiums at rates based on their risk
classification. Institutions assigned to higher risk classifications (that is,
institutions that pose a greater risk of loss to their respective deposit
insurance funds) pay assessments at higher rates than institutions that pose a
lower risk. An institution's risk classification is assigned based on its
capital levels and the level of supervisory concern the institution poses to the
regulators. In addition, the FDIC can impose special assessments in certain
instances. The current range of BIF assessments is between 0% and 0.27% of
deposits.
The FDIC established a process for raising or lowering all rates for
insured institutions semi-annually if conditions warrant a change. Under this
system, the FDIC has the flexibility to adjust the assessment rate schedule
twice a year without seeking prior public comment, but only within a range of
five cents per $100 above or below the premium schedule adopted. Changes in the
rate schedule outside the five cent range above or below the current schedule
can be made by the FDIC only after a full rulemaking with opportunity for public
comment.
On September 30, 1996, President Clinton signed into law an act that
contained a comprehensive approach to re-capitalizing the Savings Association
Insurance Fund ("SAIF") and to assure the payment of the Financing Corporation's
("FICO") bond obligations. Under this new act, banks insured under the BIF are
required to pay a portion of the interest due on bonds that were issued by FICO
to help shore up the ailing Federal Savings and Loan Insurance Corporation in
1987. The BIF-rate was required to equal one-fifth of the SAIF rate through
year-end 1999, or until the insurance funds merged, whichever occurred first.
Thereafter, BIF and SAIF payers will be assessed pro rata for the FICO bond
obligations. With regard to the assessment for the FICO obligation, for the
fourth quarter 1999, the BIF rate was .01184% of deposits and the SAIF rate was
.05920% of deposits, and for the first quarter of 2000, both the BIF and SAIF
rates are .02120% of deposits.
Enforcement Powers. The FDIC and the other federal banking agencies
have broad enforcement powers, including the power to terminate deposit
insurance, impose substantial fines and other civil and criminal penalties and
appoint a conservator or receiver. Failure to comply with applicable laws,
regulations and supervisory agreements could subject the Company or its banking
subsidiaries, as well as officers, directors and other institution-affiliated
parties of these organizations, to administrative sanctions and potentially
substantial civil money penalties. The appropriate federal banking agency may
appoint the FDIC as conservator or receiver for a banking institution (or the
FDIC may appoint itself, under certain circumstances) if any one or more of a
number of circumstances exist, including, without limitation, the fact that the
banking institution is undercapitalized and has no reasonable prospect of
becoming adequately capitalized; fails to become adequately capitalized when
required to do so; fails to submit a timely and acceptable capital restoration
plan; or materially fails to implement an accepted capital restoration plan. The
Texas Banking Department also has broad enforcement powers over the Bank,
including the power to impose orders, remove officers and directors, impose
fines and appoint supervisors and conservators.
Brokered Deposit Restrictions. Adequately capitalized institutions
cannot accept, renew or roll over brokered deposits except with a waiver from
the FDIC, and are subject to restrictions on the interest rates that can be paid
on such deposits. Undercapitalized institutions may not accept, renew, or roll
over brokered deposits.
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Cross-Guarantee Provisions. The Financial Institutions Reform, Recovery
and Enforcement Act of 1989 ("FIRREA") contains a "cross-guarantee" provision
which generally makes commonly controlled insured depository institutions liable
to the FDIC for any losses incurred in connection with the failure of a commonly
controlled depository institution.
Community Reinvestment Act. The CRA and the regulations issued
thereunder are intended to encourage banks to help meet the credit needs of
their service area, including low and moderate income neighborhoods, consistent
with the safe and sound operations of the banks. These regulations also provide
for regulatory assessment of a bank's record in meeting the needs of its service
area when considering applications to establish branches, merger applications
and applications to acquire the assets and assume the liabilities of another
bank. FIRREA requires federal banking agencies to make public a rating of a
bank's performance under the CRA. In the case of a bank holding company, the CRA
performance record of the banks involved in the transaction are reviewed in
connection with the filing of an application to acquire ownership or control of
shares or assets of a bank or to merge with any other bank holding company. An
unsatisfactory record can substantially delay or block the transaction.
Consumer Laws and Regulations. In addition to the laws and regulations
discussed herein, the Bank is also subject to certain consumer laws and
regulations that are designed to protect consumers in transactions with banks.
While the list set forth herein is not exhaustive, these laws and regulations
include the Truth in Lending Act, the Truth in Savings Act, the Electronic Funds
Transfer Act, the Expedited Funds Availability Act, the Equal Credit Opportunity
Act, and the Fair Housing Act, among others. These laws and regulations mandate
certain disclosure requirements and regulate the manner in which financial
institutions must deal with customers when taking deposits or making loans to
such customers. The Bank must comply with the applicable provisions of these
consumer protection laws and regulations as part of their ongoing customer
relations.
INSTABILITY AND REGULATORY STRUCTURE
Various legislation, such as the Gramm-Leach-Bliley Act which expanded
the powers of banking institutions and bank holding companies, and proposals to
overhaul the bank regulatory system and limit the investments that a depository
institution may make with insured funds, is from time to time introduced in
Congress. Such legislation may change banking statutes and the operating
environment of the Company and its banking subsidiaries in substantial and
unpredictable ways. The Company cannot determine the ultimate effect that the
Gramm-Leach-Bliley Act will have, or the effect that any potential legislation,
if enacted, or implementing regulations with respect thereto, would have, upon
the financial condition or results of operations of the Company or its
subsidiaries.
EXPANDING ENFORCEMENT AUTHORITY
One of the major additional burdens imposed on the banking industry by
FDICIA is the increased ability of banking regulators to monitor the activities
of banks and their holding companies. In addition, the Federal Reserve Board and
FDIC are possessed of extensive authority to police unsafe or unsound practices
and violations of applicable laws and regulations by depository institutions and
their holding companies. For example, the FDIC may terminate the deposit
insurance of any institution which it determines has engaged in an unsafe or
unsound practice. The agencies can also assess civil money penalties, issue
cease and desist or removal orders, seek injunctions, and publicly disclose such
actions. FDICIA, FIRREA and other laws have expanded the agencies' authority in
recent years, and the agencies have not yet fully tested the limits of their
powers.
EFFECT ON ECONOMIC ENVIRONMENT
The policies of regulatory authorities, including the monetary policy
of the Federal Reserve Board, have a significant effect on the operating results
of bank holding companies and their subsidiaries. Among the means available to
the Federal Reserve Board to affect the money supply are open market operations
in U.S. government securities, changes in the discount rate on member bank
borrowings, and changes in reserve requirements against member bank deposits.
These means are used in varying combinations to influence overall growth and
distribution of bank loans, investments and deposits, and their use may affect
interest rates charged on loans or paid for deposits.
Federal Reserve Board monetary policies have materially affected the
operating results of commercial banks in the past and are expected to continue
to do so in the future. The nature of future monetary policies and the effect of
such policies on the business and earnings of the Company and its subsidiaries
cannot be predicted.
ITEM 2. PROPERTIES
The Company conducts business at 15 full-service banking locations. The
Company's headquarters are located at 3040 Post Oak Boulevard, Houston, Texas.
The Company owns all of the buildings in which its Banking Centers are located
other than the Post Oak, Meyerland and Victoria Banking Centers. The lease terms
of the Post Oak, Meyerland and Victoria Banking Centers expire in
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July 2002, October 2003, and December 2001, respectively. The expiration dates
do not include the renewal option periods, which may be available. The following
table sets forth specific information on each such location;
Location Address Deposits at December 31,1999
-------- ------- ----------------------------
(Dollars in thousands)
Angleton 116 South Velasco $31,103
Angleton, TX 77516
Bay City-North 1600 Seventh St. $15,379
Bay City, TX 77404
Bay City-South 3700 Avenue F $28,308
Bay City, TX 77404
Beeville (1) 100 South Washington $81,330
Beeville, TX 78102
Clear Lake 100 West Medical Center Blvd. $30,297
Webster, TX 77598
Cuero 106 North Esplanade $23,005
Cuero, TX 77954
East Bernard 700 Church St. $68,884
East Bernard, TX 77435
Edna 102 North Wells $34,714
Edna, TX 77962
El Campo 1301 North Mechanic $53,580
El Campo, TX 77437
Goliad 145 North Jefferson $13,110
Goliad, TX 77963
Mathis 103 North Highway 359 $28,373
Mathis, TX 78368
Meyerland 8801 West Loop South $22,058
Houston, TX 77252
Post Oak 3040 Post Oak Blvd. Suite 150 $48,885
Houston, TX 77056
Victoria 2702 North Navarro $14,173
Victoria, TX 77903
West Columbia 510 East Brazos $41,557
West Columbia, TX 77486
- ------------------
(1) The Beeville Banking Center consists of the main office located at 100
South Washington and a drive-thru facility located approximately one-half
mile from the main office.
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ITEM 3. LEGAL PROCEEDINGS
Neither the Company nor the Bank is currently a party to any material
legal proceeding.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
No matters were submitted to a vote of security holders during the
fourth quarter of 1999.
PART II.
ITEM 5. MARKET FOR REGISTRANT'S COMMON EQUITY AND RELATED SHAREHOLDER MATTERS
The Company's Common Stock began trading on November 12, 1998 and is
listed on the Nasdaq National Market System ("Nasdaq NMS") under the symbol
"PRSP". Prior to that date, the Common Stock was privately held and not listed
on any public exchange or actively traded. The Company had a total of 5,195,325
shares outstanding at December 31, 1999. As of February 23, 2000, there were 207
shareholders of record. The number of beneficial owners is unknown to the
Company at this time.
The following table presents the high and low sales prices for the
Common Stock reported on the NASDAQ NMS during the two years ended December 31,
1999:
1999 High Low
----- ----- ------
Fourth Quarter.......................... $17.875 $14.000
Third Quarter........................... 16.875 13.875
Second Quarter.......................... 15.000 12.313
First Quarter........................... 13.250 12.063
1998
----
Fourth Quarter (since
November 12, 1998)...................... 12.625 12.000
Holders of Common Stock are entitled to receive dividends when, as and
if declared by the Company's Board of Directors out of funds legally available
therefor. While the Company has declared dividends on its Common Stock since
1994, and paid quarterly dividends aggregating $0.20 per share in 1999, there is
no assurance that the Company will continue to pay dividends in the future.
The principal source of cash revenues to the Company is dividends paid
by the Bank with respect to the Bank's capital stock. There are certain
restrictions on the payment of such dividends imposed by federal and state
banking laws, regulations and authorities. See "MANAGEMENT'S DISCUSSION AND
ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS" AND "BUSINESS -
SUPERVISION AND REGULATION - THE BANK".
The cash dividends paid per share (adjusted for a four for one stock split
effective September 10, 1998) by quarter were as follows:
1999 1998
----- -----
Fourth quarter.................... $0.05 $0.05
Third quarter...................... 0.05 0.05
Second quarter..................... 0.05 0.05
First quarter...................... 0.05 0.05
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ITEM 6. SELECTED CONSOLIDATED FINANCIAL DATA
The following selected consolidated financial data for, and as of the
end of, each of the years in the five-year period ended December 31, 1999 are
derived from and should be read in conjunction with the consolidated financial
statements of the Company and the Notes thereto, appearing elsewhere in this
Annual Report on Form 10-K, and the information contained in "Item 7.
Management's Discussion and Analysis of Financial Condition and Results of
Operations." The consolidated financial statements as of December 31, 1999 and
1998 and for each of the years in the three-year period ended December 31, 1999
and the report thereon of Deloitte & Touche LLP are included elsewhere in this
document.
As of and for the Years Ended December 31,
--------------------------------------------------------
1999 1998 1997 1996 1995
-------- -------- -------- -------- --------
(Dollars in thousands, except per share data)
INCOME STATEMENT DATA:
Interest income ............................. $ 31,412 $ 23,422 19,970 $ 16,841 $ 14,738
Interest expense ............................ 13,033 10,128 9,060 7,923 6,904
-------- -------- -------- -------- --------
Net interest income ...................... 18,379 13,294 10,910 8,918 7,834
Provision for credit losses ................. 280 239 190 230 175
-------- -------- -------- -------- --------
Net interest income after provision
for credit losses ...................... 18,099 13,055 10,720 8,688 7,659
Noninterest income .......................... 3,521 2,492 2,264 1,897 1,489
Noninterest expense ......................... 12,138 9,058 7,836 6,634 6,046
-------- -------- -------- -------- --------
Income before taxes ...................... 9,482 6,489 5,148 3,951 3,102
Provision for income taxes .................. 3,008 2,029 1,586 1,240 781
-------- -------- -------- -------- --------
Net income .................................. $ 6,474 $ 4,460 $ 3,562 $ 2,711 $ 2,321
======== ======== ======== ======== ========
PER SHARE DATA(1):
Basic earnings per share .................... $ 1.25 $ 1.08 $ 0.94 $ 0.77 $ 0.66
Diluted earnings per share .................. 1.20 1.04 0.92 0.76 0.66
Book value per share ........................ 8.33 8.01 6.22 5.36 4.68
Tangible book value per share (2) ........... 4.63 6.14 4.81 4.21 3.95
Cash dividends declared ..................... 0.20 0.20 0.15 0.10 0.10
Dividend payout ratio ....................... 16.02% 23.70% 16.11% 12.95% 15.12%
Weighted average shares outstanding (basic)
(in thousands) ........................... 5,186 4,116 3,778 3,513 3,514
Weighted average shares outstanding (diluted)
(in thousands) ........................... 5,392 4,309 3,864 3,560 3,523
Shares outstanding at end of period
(in thousands) ........................... 5,195 5,173 3,990 3,510 3,514
BALANCE SHEET DATA (AT PERIOD END):
Total assets ................................ $608,673 $436,312 $320,143 $293,988 $233,492
Securities .................................. 312,671 227,744 167,868 147,564 117,505
Loans ....................................... 223,505 170,478 120,578 113,382 88,797
Allowance for credit losses ................. 2,753 1,850 1,016 923 753
Total deposits .............................. 534,756 390,659 291,516 270,866 214,534
Borrowings and notes payable ................ 15,700 2,437 2,800 3,267 1,517
Total shareholders' equity .................. 43,266 41,435 24,818 18,833 16,458
AVERAGE BALANCE SHEET DATA:
Total assets ................................ $485,757 $354,851 $304,086 $257,205 $224,701
Securities .................................. 241,543 178,416 157,677 127,607 119,857
Loans ....................................... 193,687 143,196 117,586 104,534 81,631
Allowance for credit losses ................. 2,146 1,271 961 820 669
Total deposits .............................. 438,623 323,045 278,377 236,334 207,321
Total shareholders' equity .................. 42,745 27,933 21,821 17,646 14,916
(Table continued on next page)
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As of and for the Years Ended December 31,
----------------------------------------------------------
1999 1998 1997 1996 1995
-------- -------- -------- -------- --------
(Dollars in thousands, except per share data)
PERFORMANCE RATIOS:
Return on average assets ....................... 1.33% 1.26% 1.17% 1.05% 1.03%
Return on average equity ....................... 15.15 15.97 16.32 15.36 15.56
Net interest margin (tax-equivalent) (3) ....... 4.18 4.13 4.02 3.91 3.96
Efficiency ratio(4) ............................ 55.13 57.38 59.48 61.34 64.85
ASSET QUALITY RATIOS(5):
Nonperforming assets to total loans and
other real estate ........................... 0.00% 0.00% 0.00% 0.00% 0.00%
Net loan (recoveries) charge-offs
to average loans ............................ (0.03) 0.05 0.08 0.06 0.01
Allowance for credit losses to total
loans ....................................... 1.23 1.09 0.84 0.81 0.85
Allowance for credit losses to
nonperforming loans(6) ...................... -- -- -- -- --
CAPITAL RATIOS(5):
Leverage ratio ................................. 6.28% 7.58% 6.30% 5.45% 6.05%
Average shareholders' equity to average
total assets ................................ 8.80 7.87 7.18 6.86 6.64
Tier 1 risk-based capital ratio ................ 14.35 18.02 14.94 13.11 14.99
Total risk-based capital ratio ................. 16.71 19.08 15.73 13.89 15.79
- -----------------------------
(1) Adjusted for a four-for-one stock split effective September 10, 1998.
(2) Calculated by dividing total assets, less total liabilities and goodwill,
by shares outstanding at end of period.
(3) Calculated on a tax-equivalent basis using a 34% federal income tax rate.
(4) Calculated by dividing total noninterest expense, excluding securities
losses and credit loss provisions, by net interest income plus noninterest
income. The interest expense related to debentures issued by the Company in
connection with the issuance by a subsidiary trust of trust preferred
securities, is treated as interest expense for this calculation.
Additionally, taxes are not part of this calculation.
(5) At period end, except for net loan charge-offs to average loans and average
shareholders' equity to average total assets, which is for periods ended at
such dates.
(6) Nonperforming loans consist of nonaccrual loans, loans contractually past
due 90 days or more and restructured loans. The Company had no significant
nonperforming loans at any of the dates indicated.
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ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS
Management's Discussion and Analysis of Financial Condition and Results
of Operations analyzes the major elements of the Company's balance sheets and
statements of income. This section should be read in conjunction with the
Company's financial statements and accompanying notes and other detailed
information appearing elsewhere in this Annual Report on Form 10-K.
FOR THE YEARS ENDED DECEMBER 31, 1999, 1998 AND 1997
OVERVIEW
Net income was $6.5 million, $4.5 million and $3.6 million for the
years ended December 31, 1999, 1998 and 1997, respectively, and diluted earnings
per share were $1.20, $1.04, and $0.92 for these same periods. Earnings growth
from both 1997 to 1998 and 1998 to 1999 resulted principally from an increase in
loan volume and acquisitions, including the South Texas Acquisition and the
Union Acquisition. The Company posted returns on average assets of 1.33%, 1.26%
and 1.17% and returns on average equity of 15.15%, 15.97% and 16.32% for the
years ended December 31, 1999, 1998 and 1997, respectively. The Company posted
returns on average assets excluding amortization of goodwill of 1.46%, 1.37%,
and 1.30% and returns on average equity excluding amortization of goodwill of
16.57%, 17.38%, and 18.17% for the years ended December 31, 1999, 1998 and 1997,
respectively. The Company's efficiency ratio was 55.13% in 1999, 57.38% in 1998,
and 59.48% in 1997. The Company's efficiency ratio excluding amortization of
goodwill was 51.85% in 1999, 54.21% in 1998, and 56.43% in 1997.
Total assets at December 31, 1999, 1998 and 1997 were $608.7 million,
$436.3 million and $320.1 million, respectively. Total deposits at December 31,
1999, 1998 and 1997 were $534.8 million, $390.7 million, and $291.5 million,
respectively, with deposit growth in each period resulting from acquisitions and
internal growth. Total loans were $223.5 at December 31, 1999, an increase of
$53.0 million or 31.1% from $170.5 million at the end of 1998. Total loans were
$120.6 million at year-end 1997. At December 31, 1999, the Company had no
nonperforming loans and its allowance for credit losses was $2.8 million.
Shareholders' equity was $43.3 million, $41.4 million, and $24.8 million at
December 31, 1999, 1998 and 1997, respectively.
RESULTS OF OPERATIONS
Net Interest Income
Net interest income represents the amount by which interest income on
interest-earning assets, including securities and loans, exceeds interest
expense incurred on interest-bearing liabilities, including deposits and other
borrowed funds. Net interest income is the principal source of the Company's
earnings. Interest rate fluctuations, as well as changes in the amount and type
of earning assets and liabilities, combine to affect net interest income. The
Company's net interest income is affected by changes in the amount and mix of
interest-earning assets and interest-bearing liabilities, referred to as a
"volume change." It is also affected by changes in yields earned on
interest-earning assets and rates paid on interest-bearing deposits and other
borrowed funds, referred to as a "rate change."
1999 versus 1998. Net interest income for 1999 was $18.4 million,
compared with $13.3 million for 1998, an increase of $5.1 million or 38.3%. The
improvement in net interest income for 1999 was mainly due to an increase in
total average interest-earning assets and a decrease in funding costs. Average
interest-earning assets increased $121.4 million from $328.3 million to $449.7
million in 1999. Total funding costs decreased 24 basis points from 3.96% in
1998 to 3.72% in 1999. For 1999, the net interest margin on a tax-equivalent
basis increased five basis points to 4.18% from 4.13% in 1998.
1998 versus 1997. Net interest income for 1998 was $13.3 million,
compared with $10.9 million for 1997, an increase of $2.4 million or 22.0%. The
improvement in net interest income for 1998 was mainly due to an increase in
total average interest-earning assets and a decrease in funding costs. Average
interest-earning assets increased $49.5 million from $278.8 million to $328.3
million in 1998. Total funding costs decreased eight basis points from 4.04% in
1997 to 3.96% in 1998. For 1998, the net interest margin on a tax-equivalent
basis increased 11 basis points to 4.13% from 4.02% in 1997.
15
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The following table presents for the periods indicated the total dollar
amount of average balances, interest income from average interest-earning assets
and the resultant yields, as well as the interest expense on average
interest-bearing liabilities, expressed both in dollars and rates. Except as
indicated in the footnotes, no tax-equivalent adjustments were made and all
average balances are daily average balances. Nonaccruing loans have been
included in the tables as loans carrying a zero yield.
Years Ended December 31,
---------------------------------------------------------------------------------------
1999 1998 1997
----------------------------- ---------------------------- ----------------------------
Average Interest Average Average Interest Average Average Interest Average
Outstanding Earned/ Yield/ Outstanding Earned/ Yield/ Outstanding Earned/ Yield/
Balance Paid Rate Balance Paid Rate Balance Paid Rate
----------- --------- ----- ---------- -------- ------- --------- ------- --------
(Dollars in thousands)
ASSETS
Interest-earning assets:
Loans ................................... $ 193,687 16,386 8.46% $ 143,196 $ 12,282 8.58% 117,586 $ 10,205 8.68%
Securities(1) ........................... 241,543 14,292 5.92 178,416 10,834 6.07 157,677 9,572 6.07
Federal funds sold and other temporary
investments ............................ 14,491 734 5.00 6,676 306 4.58 3,545 193 5.44
--------- --------- --------- --------- --------- --------
Total interest-earning assets ......... 449,721 31,412 6.98% 328,288 23,422 7.13% 278,808 19,970 7.16%
--------- --------- ---------
Less allowance for credit losses ........ (2,146) (1,271) (961)
--------- --------- ---------
Total interest-earning assets, net
of allowance ......................... 447,575 327,017 277,847
Noninterest-earning assets ............. 38,182 27,834 26,239
--------- --------- ---------
Total assets .......................... $ 485,757 $ 354,851 $ 304,086
========= ========= =========
LIABILITIES AND SHAREHOLDERS' EQUITY
Interest-bearing liabilities:
Interest-bearing demand deposits ........ $ 54,396 $ 862 1.58% $ 41,710 $ 670 1.61 $ 42,898 915 2.13%
Savings and money market accounts ....... 125,015 4,103 3.28 83,428 2,838 3.40 64,448 2,158 3.35
Certificates of deposit ................. 169,417 8,006 4.73 128,097 6,485 5.06 113,669 5,785 5.09
Federal funds purchased and other
borrowings ............................. 1,169 62 5.23 2,267 135 5.96 3,030 202 6.67
--------- --------- --------- --------- --------- ---------
Total interest-bearing
liabilities .......................... 349,997 13,033 3.72% 255,502 10,128 3.96% 224,045 9,060 4.04%
--------- --------- --------- --------- --------- ---------
Noninterest-bearing liabilities:
Noninterest-bearing demand deposits ..... 89,795 69,810 57,362
Company obligated mandatorily redeemable
trust preferred securities of subsidiary
trust .................................. 1,500 -- --
Other liabilities ....................... 1,720 1,606 858
--------- --------- ---------
Total liabilities ..................... 443,012 326,918 282,265
--------- --------- ---------
Shareholders' equity ...................... 42,745 27,933 21,821
--------- --------- ---------
Total liabilities and shareholders'
equity ............................... $ 485,757 $ 354,851 304,086
========= ========= =========
Net interest rate spread .................. 3.26% 3.17% 3.12%
Net interest income and margin(2) ......... $ 18,379 4.09% $ 13,294 4.05% $ 10,910 3.91%
========= ========= =========
Net interest income and margin
(tax-equivalent basis)(3) ................ $ 18,781 4.18% $ 13,571 4.13% $ 11,222 4.02%
========= ========= =========
- ----------------
(1) Yield is based on amortized cost and does not include any component of
unrealized gains or losses.
(2) The net interest margin is equal to net interest income divided by
average interest-earning assets.
(3) In order to make pretax income and resultant yields on tax-exempt
investments and loans comparable to those on taxable investments and
loans, a tax-equivalent adjustment has been computed using a federal
income tax rate of 34% and other applicable effective tax rates.
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The following schedule presents the dollar amount of changes in
interest income and interest expense for the major components of
interest-earning assets and interest-bearing liabilities and distinguishes
between the increase (decrease) related to higher outstanding balances and the
volatility of interest rates. For purposes of this table, changes attributable
to both rate and volume which cannot be segregated have been allocated to rate.
Years Ended December 31,
--------------------------------------------------------------
1999 vs. 1998 1998 vs. 1997
---------------------------- ------------------------------
Increase Increase
(Decrease) (Decrease)
Due to Due to
------------------ ------------------
Volume Rate Total Volume Rate Total
------- ------- ------- ------- ------- -------
(Dollars in thousands)
Interest-earning assets:
Loans............................................... $ 4,331 $ (227) $ 4,104 $ 2,223 $ (146) $ 2,077
Securities ......................................... 3,833 (375) 3,458 1,259 3 1,262
Federal funds sold and other temporary
investments .................................... 353 75 428 170 (57) 113
------- ------- ------- ------- ------- -------
Total increase (decrease) in interest income.... 8,517 (527) 7,990 3,652 (200) 3,452
------- ------- ------- ------- ------- -------
Interest-bearing liabilities:
Interest-bearing demand deposits ................... 204 (12) 192 (25) (220) (245)
Savings and money market accounts .................. 1,415 (150) 1,265 636 44 680
Certificates of deposit ............................ 2,092 (571) 1,521 734 (34) 700
Federal funds purchased and other borrowings ....... (64) (9) (73) (51) (16) (67)
------- ------- ------- ------- ------- -------
Total increase (decrease) in interest expense... 3,647 (742) 2,905 1,294 (226) 1,068
------- ------- ------- ------- ------- -------
Increase in net interest income........................ $ 4,870 $ 215 $ 5,085 $ 2,358 $ 26 $ 2,384
======= ======= ======= ======= ======= =======
Provision for Credit Losses
The Company's provision for credit losses is established through
charges to income in the form of the provision in order to bring the Company's
allowance for credit losses to a level deemed appropriate by management based on
the factors discussed under "-Financial Condition - Allowance for Credit
Losses". The allowance for credit losses at December 31, 1999 was $2.8 million,
representing 1.23% of outstanding loans. The provision for credit losses for the
year ended December 31, 1999 was $280,000 compared with $239,000 for the year
ended December 31, 1998. The increased provision was made by the Company in
response to the increase in its loan portfolio, its increased legal lending
limit and the changing risk profile in its loan portfolio. The provision for
credit losses for the year ended December 31, 1998 was $239,000 compared with
$190,000 in 1997. Net loans recovered in 1999 were $57,000 compared with net
loans charged off of $66,000 in 1998 and $97,000 in 1997.
Noninterest Income
Noninterest income is an important source of revenue for financial
institutions. The Company's primary sources of non-interest income are service
charges on deposit accounts and other banking service related fees. In 1999,
noninterest income totaled $3.5 million, an increase of $1.0 million or 41.3%
versus $2.5 million in 1998. The increase was primarily due to the South Texas
Acquisition and an increase in insufficient funds charges. Noninterest income
for 1998 was $2.5 million, a $228,000 or 10.1% increase from $2.3 million in
1997, resulting largely from an increase in income due to the Union and Angleton
Acquisitions and an increase in customer service fees.
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The following table presents for the periods indicated the major
categories of noninterest income:
Years Ended December 31,
---------------------------------------
1999 1998 1997
------ ------- -----
(Dollars in thousands)
Service charges on deposit accounts...................... $3,010 $2,173 $2,062
Other noninterest income................................. 511 319 202
------ ------- ------
Total noninterest income.............................. $3,521 $2,492 $2,264
====== ====== ======
Noninterest Expense
For the years ended 1999, 1998 and 1997, noninterest expense totaled
$12.1 million, $9.1 million and $7.8 million, respectively. The Company's
efficiency ratio showed a positive trend over this period as it was reduced from
59.48% in 1997 to 55.13% in 1999. This reduction reflects the Company's
continued success in controlling operating expenses and integrating the South
Texas, Union and Angleton Acquisitions.
The following table presents for the periods indicated the major
categories of noninterest expense:
Years Ended December 31,
----------------------------------------
1999 1998 1997
------- -------- -----
(Dollars in thousands)
Salaries and employee benefits................................ $ 6,198 $ 4,541 $ 3,968
Non-staff expenses:
Net occupancy expense................................. 666 535 488
Depreciation expense.................................. 689 523 431
Data processing....................................... 880 807 642
Professional fees..................................... 245 112 97
Regulatory assessments and FDIC insurance............. 109 73 63
Ad valorem and franchise taxes........................ 213 200 164
Goodwill amortization................................. 715 500 402
Minority expense-trust preferred securities........... 142 -- --
Other................................................. 2,281 1,767 1,581
------ ------- ------
Total noninterest expense..................... $12,138 $ 9,058 $7,836
======= ======= ======
For 1999, noninterest expense totaled $12.1 million, an increase of
$3.0 million or 33.0% over $9.1 million in 1998. Salaries and employee benefits
for 1999 totaled $6.2 million, an increase of $1.7 million or 37.8% over $4.5
million for 1998. Other operating expenses of $2.3 million represented an
increase of $514,000 or 29.1% compared with $1.8 million in 1998. These
increases were principally due to the Union and South Texas Acquisitions. Total
noninterest expenses in 1998 were $9.1 million, an 16.7% increase over the 1997
level of $7.8 million primarily due to the Union and Angleton Acquisitions.
Salaries and employee benefits in 1998 increased by 12.5% from $4.0 million to
$4.5 million. The increase was principally due to additional staff associated
with the Union and Angleton Acquisitions.
Income Taxes
The amount of federal income tax expense is influenced by the amount of
taxable income, the amount of tax-exempt income, the amount of nondeductible
interest expense and the amount of other nondeductible expenses. For the year
ended December 31, 1999, income tax expense was $3.0 million compared with $2.0
million for the year ended December 31, 1998 and $1.6 million for the year ended
December 31, 1997. The effective tax rate in the years ended 1999, 1998, and
1997 was 31.7%, 31.3%, and 30.8%, respectively.
Impact of Inflation
The effects of inflation on the local economy and on the Company's
operating results have been relatively modest for the past several years. Since
substantially all of the Company's assets and liabilities are monetary in
nature, such as cash, securities, loans and
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deposits, their values are less sensitive to the effects of inflation than to
changing interest rates, which do not necessarily change in accordance with
inflation rates. The Company tries to control the impact of interest rate
fluctuations by managing the relationship between its interest rate sensitive
assets and liabilities. See "- Financial Condition - Interest Rate Sensitivity
and Liquidity."
FINANCIAL CONDITION
Loan Portfolio
At December 31, 1999, total loans were $223.5 million, an increase of
$53.0 million or 31.1% from $170.5 million at December 31, 1998. The growth in
the loan portfolio was due to strong loan demand and the South Texas
Acquisition. At December 31, 1999, total loans were 41.8% of deposits and 36.7%
of total assets. At December 31, 1998, total loans were 43.6% of deposits and
39.1% of total assets.
Loans increased 41.4% during 1998 from $120.6 million at December 31,
1997 to $170.5 million at December 31, 1998. The loan growth during 1998 was due
to continued strong loan demand, especially in the real estate area and
agriculture areas.
The following table summarizes the Company's loan portfolio by type of
loan as of the dates indicated:
December 31,
----------------------------------------------------------------------------------------0
1999 1998 1997 1996
------------------- ------------------- ------------------ -------------------
Amount Percent Amount Percent Amount Percent Amount Percent
-------- -------- -------- -------- -------- -------- -------- --------
(Dollars in thousands)
Commercial and industrial ........ $ 28,279 12.7% $ 16,972 9.9% $ 11,611 9.6% $ 10,633 9.4%
Real estate:
Construction and land
development ................... 4,015 1.8 1,727 1.0 6,453 5.3 5,021 4.4
1-4 family residential .......... 97,359 43.5 80,062 47.0 53,625 44.5 49,845 44.0
Home equity ..................... 11,343 5.1 8,077 4.7 NA NA NA NA
Commercial mortgages ............ 38,752 17.3 22,240 13.1 16,277 13.5 14,376 12.7
Farmland ........................ 7,404 3.3 6,148 3.6 5,804 4.8 5,468 4.8
Multifamily residential ......... 1,837 0.8 1,090 0.6 937 0.8 1,068 0.9
Agriculture ...................... 12,735 5.7 14,107 8.3 6,359 5.3 5,686 5.0
Consumer ......................... 21,781 9.8 20,055 11.8 19,512 16.2 21,285 18.8
-------- -------- -------- -------- -------- -------- -------- --------
Total loans ............... $223,505 100.0% $170,478 100.0% $120,578 100.0% $113,382 100.0%
======== ======== ======== ======== ======== ======== ======== ========
-------------------
1995
-------------------
Amount Percent
-------- --------
Commercial and industrial ........ $ 10,445 11.8
Real estate:
Construction and land
development ................... 2,507 2.8
1-4 family residential .......... 40,331 45.4
Home equity ..................... NA NA
Commercial mortgages ............ 12,835 14.5
Farmland ........................ 3,989 4.5
Multifamily residential ......... 716 0.8
Agriculture ...................... 4,666 5.2
Consumer ......................... 13,308 15.0
-------- --------
Total loans ............... $ 88,797 100.0%
======== ========
The lending focus of the Company is on 1-4 family residential,
agricultural, small and medium-sized business and consumer loans. The Company
offers a variety of commercial lending products including term loans and lines
of credit. The Company also offers a broad range of short to medium-term
commercial loans, primarily collateralized, to businesses for working capital
(including inventory and receivables), business expansion (including
acquisitions of real estate and improvements) and the purchase of equipment and
machinery. Historically, the Company has originated loans for its own account
and has not securitized its loans. The purpose of a particular loan generally
determines its structure. All loans in the 1-4 family residential category were
originated by the Company.
Loans from $300,000 to $750,000 are evaluated and acted upon by an
officers' loan committee, which meets weekly. Loans above that amount must be
approved by the Directors Loan Committee, which meets monthly.
In nearly all cases, the Company's commercial loans are made in the
Company's primary market area and are underwritten on the basis of the
borrower's ability to service such debt from income. As a general practice, the
Company takes as collateral a lien on any available real estate, equipment or
other assets owned by the borrower and obtains a personal guaranty of the
borrower. Working capital loans are primarily collateralized by short-term
assets whereas term loans are primarily collateralized by long-term assets. As a
result, commercial loans involve additional complexities, variables and risks
and require more thorough underwriting and servicing than other types of loans.
In addition to commercial loans secured by real estate, the Company
makes commercial mortgage loans to finance the purchase of real property, which
generally consists of real estate with completed structures. The Company's
commercial mortgage loans are secured by first liens on real estate, typically
have variable interest rates and amortize over a ten to 15 year period. Payments
on loans secured by such properties are often dependent on the successful
operation or management of the properties. Accordingly, repayment of these loans
may be subject to adverse conditions in the real estate market or the economy to
a greater extent than other types of loans. The Company seeks to minimize these
risks in a variety of ways, including giving careful consideration to the
property's operating history, future operating projections, current and
projected occupancy, location and physical condition in
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22
connection with underwriting these loans. The underwriting analysis also
includes credit verification, appraisals and a review of the financial condition
of the borrower.
Additionally, a significant portion of the Company's lending activity
has consisted of the origination of 1-4 family residential mortgage loans
collateralized by owner-occupied properties located in the Company's market
areas. The Company offers a variety of mortgage loan products which generally
are amortized over five to 25 years. Loans collateralized by 1-4 family
residential real estate generally have been originated in amounts of no more
than 89% of appraised value or have mortgage insurance. The Company requires
mortgage title insurance and hazard insurance. The Company has elected to keep
all 1-4 family residential loans for its own account rather than selling such
loans into the secondary market. By doing so, the Company is able to realize a
higher yield on these loans; however, the Company also incurs interest rate risk
as well as the risks associated with nonpayments on such loans.
The Company makes loans to finance the construction of residential and,
to a limited extent, nonresidential properties. Construction loans generally are
secured by first liens on real estate and have floating interest rates. The
Company conducts periodic inspections, either directly or through an agent,
prior to approval of periodic draws on these loans. Underwriting guidelines
similar to those described above are also used in the Company's construction
lending activities. Construction loans involve additional risks attributable to
the fact that loan funds are advanced upon the security of a project under
construction, and the project is of uncertain value prior to its completion.
Because of uncertainties inherent in estimating construction costs, the market
value of the completed project and the effects of governmental regulation on
real property, it can be difficult to accurately evaluate the total funds
required to complete a project and the related loan to value ratio. As a result
of these uncertainties, construction lending often involves the disbursement of
substantial funds with repayment dependent, in part, on the success of the
ultimate project rather than the ability of a borrower or guarantor to repay the
loan. If the Company is forced to foreclose on a project prior to completion,
there is no assurance that the Company will be able to recover all of the unpaid
portion of the loan. In addition, the Company may be required to fund additional
amounts to complete a project and may have to hold the property for an
indeterminate period of time. While the Company has underwriting procedures
designed to identify what it believes to be acceptable levels of risks in
construction lending, no assurance can be given that these procedures will
prevent losses from the risks described above.
Consumer loans made by the Company include direct "A"-credit automobile
loans, recreational vehicle loans, boat loans, home improvement loans, home
equity loans, personal loans (collateralized and uncollateralized) and deposit
account collateralized loans. The terms of these loans typically range from 12
to 120 months and vary based upon the nature of collateral and size of loan.
Consumer loans entail greater risk than do residential mortgage loans,
particularly in the case of consumer loans that are unsecured or secured by
rapidly depreciating assets such as automobiles. In such cases, any repossessed
collateral for a defaulted consumer loan may not provide an adequate source of
repayment for the outstanding loan balance. The remaining deficiency often does
not warrant further substantial collection efforts against the borrower beyond
obtaining a deficiency judgment. In addition, consumer loan collections are
dependent on the borrower's continuing financial stability, and thus are more
likely to be adversely affected by job loss, divorce, illness or personal
bankruptcy. Furthermore, the application of various federal and state laws may
limit the amount which can be recovered on such loans.
The Company provides agricultural loans for short-term crop production,
including rice, cotton, milo and corn, farm equipment financing and agricultural
real estate financing. The Company evaluates agricultural borrowers primarily
based on their historical profitability, level of experience in their particular
agricultural industry, overall financial capacity and the availability of
secondary collateral to withstand economic and natural variations common to the
industry. Because agricultural loans present a higher level of risk associated
with events caused by nature, the Company routinely makes on-site visits and
inspections in order to monitor and identify such risks.
The contractual maturity ranges of the commercial and industrial and
construction and land development portfolios and the amount of such loans with
predetermined interest rates and floating rates in each maturity range as of
December 31, 1999 are summarized in the following table:
December 31, 1999
-----------------------------------------------
After One
One Year Through After Five
or Less Five Years Years Total
-------- ---------- ---------- --------
(Dollars in thousands)
Commercial and industrial .................. $ 16,397 $ 6,548 $ 5,334 $ 28,279
Construction and land development .......... 3,956 34 25 4,015
-------- -------- -------- --------
Total ........................ $ 20,353 $ 6,582 $ 5,359 $ 32,294
======== ======== ======== ========
Loans with a predetermined interest rate ... $ 8,218 $ 3,428 $ 2,245 $ 13,891
Loans with a floating interest rate ........ 12,135 3,154 3,114 18,403
-------- -------- -------- --------
Total ........................ $ 20,353 $ 6,582 $ 5,359 $ 32,294
======== ======== ======== ========
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Nonperforming Assets
The Company has several procedures in place to assist it in maintaining
the overall quality of its loan portfolio. The Company has established
underwriting guidelines to be followed by its officers. The Company also
monitors its delinquency levels for any negative or adverse trends. There can be
no assurance, however, that the Company's loan portfolio will not become subject
to increasing pressures from deteriorating borrower credit due to general
economic conditions.
The Company requires appraisals on loans secured by real estate. With
respect to potential problem loans, an evaluation of the borrower's overall
financial condition is made to determine the need, if any, for possible
write-downs or appropriate additions to the allowance for credit losses.
The Company generally places a loan on nonaccrual status and ceases
accruing interest when the payment of principal or interest is delinquent for 90
days, or earlier in some cases, unless the loan is in the process of collection
and the underlying collateral fully supports the carrying value of the loan. The
Company generally charges off all loans before attaining nonaccrual status.
The Company's conservative lending approach, as well as a healthy local
economy, has resulted in strong asset quality. The Company had no nonperforming
assets as of December 31, 1999, $5,000 in nonperforming assets as of December
31, 1998, and no nonperforming assets in 1997.
The following table presents information regarding nonperforming assets
at the dates indicated:
December 31,
------------------------------------------------------
1999 1998 1997 1996 1995
------ ------ ------ ------ ------
(Dollars in thousands)
Nonaccrual loans ........................... $ -- $ 5 $ -- $ -- $ --
Restructured loans ......................... -- -- -- -- --
Other real estate .......................... -- -- -- -- --
------ ------ ------ ------ ------
Total nonperforming assets .......... $ -- $ 5 $ -- $ -- $ --
====== ====== ====== ====== ======
Nonperforming assets to total loans
and other real estate ................... 0.00% 0.00% 0.00% 0.00% 0.00%
Allowance for Credit Losses
The allowance for credit losses is a reserve established through
charges to earnings in the form of a provision for credit losses. Management has
established an allowance for credit losses which it believes is adequate for
estimated losses in the Company's loan portfolio. Based on an evaluation of the
loan portfolio, management presents a monthly review of the allowance for credit
losses to the Bank's Board of Directors, indicating any change in the allowance
since the last review and any recommendations as to adjustments in the
allowance. In making its evaluation, management considers factors such as
historical loan loss experience, industry diversification of the Company's
commercial loan portfolio, the amount of nonperforming assets and related
collateral, the volume, growth and composition of the Company's loan portfolio,
current economic changes that may affect the borrower's ability to pay and the
value of collateral, the evaluation of the Company's loan portfolio through its
internal loan review process and other relevant factors. Charge-offs occur when
loans are deemed to be uncollectible.
Although the Company does not determine the total allowance based upon
the amount of loans in a particular type or category, risk elements attributable
to particular loan types or categories are considered in assessing the quality
of individual loans. Some of the risk elements include: (i) in the case of 1-4
family residential mortgage loans, the borrower's ability to repay the loan,
including a consideration of the debt to income ratio and employment and income
stability, the loan to value ratio, and the age, condition and marketability of
collateral; (ii) for non-farm non-residential loans and multifamily residential
loans, the debt service coverage ratio (income from the property in excess of
operating expenses compared to loan payment requirements), operating results of
the owner in the case of owner-occupied properties, the loan to value ratio, the
age and condition of the collateral and the volatility of income, property value
and future operating results typical of properties of that type; (iii) for
agricultural real estate loans, the experience and financial capability of the
borrower, projected debt service coverage of the operations of the borrower and
loan to value ratio; (iv) for construction and land development loans, the
perceived feasibility of the project including the ability to sell developed
lots or improvements constructed for resale or ability to lease property
constructed for lease, the quality and nature of contracts for presale or
preleasing, if any, experience and ability of the developer and loan to value
ratio; (v) for commercial and
21
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industrial loans, the operating results of the commercial, industrial or
professional enterprise, the borrower's business, professional and financial
ability and expertise, the specific risks and volatility of income and operating
results typical for businesses in that category and the value, nature and
marketability of collateral; and (vi) for non-real estate agricultural loans,
the operating results, experience and financial capability of the borrower,
historical and expected market conditions and the value, nature and
marketability of collateral. In addition, for each category, the Company
considers secondary sources of income and the financial strength and credit
history of the borrower and any guarantors.
The Company follows a loan review program to evaluate the credit risk
in the loan portfolio. Through the loan review process, the Company maintains an
internally classified loan list which, along with the delinquency list of loans,
helps management assess the overall quality of the loan portfolio and the
adequacy of the allowance for credit losses. Loans classified as "substandard"
are those loans with clear and defined weaknesses such as a highly-leveraged
position, unfavorable financial ratios, uncertain repayment sources or poor
financial condition, which may jeopardize recoverability of the debt. Loans
classified as "doubtful" are those loans which have characteristics similar to
substandard accounts but with an increased risk that a loss may occur, or at
least a portion of the loan may require a charge-off if liquidated at present.
Loans classified as "loss" are those loans which are in the process of being
charged off.
In addition to the internally classified loan list and delinquency list
of loans, the Company maintains a separate "watch list" which further aids the
Company in monitoring loan portfolios. Watch list loans have one or more
deficiencies that require attention in the short term or pertinent ratios of the
loan account that have weakened to a point where more frequent monitoring is
warranted. These loans do not have all of the characteristics of a classified
loan (substandard or doubtful) but do show weakened elements compared with those
of a satisfactory credit. The Company reviews these loans to assist in assessing
the adequacy of the allowance for credit losses.
In order to determine the adequacy of the allowance for credit losses,
management considers the risk classification or delinquency status of loans and
other factors, such as collateral value, portfolio composition, trends in
economic conditions and the financial strength of borrowers. Management
establishes specific allowances for loans which management believes require
reserves greater than those allocated according to their classification or
delinquent status. An unallocated allowance is also established based on the
Company's historical charge-off experience. The Company then charges to
operations a provision for credit losses to maintain the allowance for credit
losses at an adequate level determined by the foregoing methodology.
For the year ended December 31, 1999, net recoveries totaled $57,000 or
(0.03)% of average loans outstanding for the period, compared with net
charge-offs of $66,000 or 0.05% of average loans during 1998. The Company's net
charge-offs totaled $97,000 or 0.08% of average loans outstanding in 1997.
During 1999, the Company recorded a provision for credit losses of $280,000
compared with $239,000 for 1998. At December 31, 1999, the allowance for credit
losses totaled $2.8 million, or 1.23% of total loans. The Company made a
provision for credit losses of $239,000 during 1998 compared with a provision of
$190,000 for 1997. At December 31, 1998, the allowance aggregated $1.9 million,
or 1.09% of total loans. At December 31, 1997, the allowance was $1.0 million,
or 0.84% of total loans.
22
25
The following table presents, for the periods indicated, an analysis of
the allowance for credit losses and other related data:
Years Ended December 31,
--------------------------------------------------------------------
1999 1998 1997 1996 1995
-------- -------- -------- -------- --------
(Dollars in thousands)
Average loans outstanding ...................... $193,687 $143,196 $117,586 $104,534 $ 81,631
======== ======== ======== ======== ========
Gross loans outstanding at end of period ....... $223,505 $170,478 $120,578 $113,382 $ 88,797
======== ======== ======== ======== ========
Allowance for credit losses at
beginning of period ......................... $ 1,850 $ 1,016 $ 923 $ 753 $ 588
Balance acquired with the South Texas and
Union Acquisitions, respectively ............ 566 661 -- -- --
Provision for credit losses .................... 280 239 190 230 175
Charge-offs:
Commercial and industrial ................... (13) (--) (26) (9) (6)
Real estate and agriculture ................. (43) (14) (47) (--) (2)
Consumer .................................... (55) (67) (57) (64) (24)
Recoveries:
Commercial and industrial ................... 34 5 15 -- --
Real estate and agriculture ................. 117 -- 7 -- 3
Consumer .................................... 17 10 11 13 19
-------- -------- -------- -------- --------
Net recoveries (charge-offs) ................... 57 (66) (97) (60) (10)
Allowance for credit losses at end of period ... $ 2,753 $ 1,850 $ 1,016 $ 923 $ 753
======== ======== ======== ======== ========
Ratio of allowance to end of period
loans ....................................... 1.23% 1.09% 0.84% 0.81% 0.85%
Ratio of net (recoveries) charge-offs to
average loans ............................... (0.03) 0.05 0.08 0.06 0.01
Ratio of allowance to end of period
nonperforming loans ......................... -- -- -- -- --
23
26
The following tables describe the allocation of the allowance for
credit losses among various categories of loans and certain other information
for the dates indicated. The allocation is made for analytical purposes and is
not necessarily indicative of the categories in which future losses may occur.
The total allowance is available to absorb losses from any segment of loans.
December 31,
-------------------------------------------------
1999 1998
----------------------- ----------------------
Percent of Percent of
Loans to Loans to
Amount Total Loans Amount Total Loans
-------- ----------- -------- -----------
(Dollars in thousands)
Balance of allowance for credit losses applicable to:
Commercial and industrial ....................... $ 57 12.7% $ 18 9.9%
Real estate ..................................... 62 71.8 70 70.0
Agriculture ..................................... 22 5.7 40 8.3
Consumer ........................................ 7 9.8 1 11.8
Unallocated ..................................... 2,605 -- 1,721 --
-------- -------- -------- --------
Total allowance for credit losses ....... $ 2,753 100.0% $ 1,850 100.0%
======== ======== ======== ========
December 31,
-----------------------------------------------------------------------
1997 1996 1995
--------------------- --------------------- ---------------------
Percent of Percent of Percent of
Loans to Loans to Loans to
Amount Total Loans Amount Total Loans Amount Total Loans
-------- ----------- -------- ----------- -------- -----------
(Dollars in thousands)
Balance of allowance for credit losses applicable to:
Commercial and industrial ...................... $ 41 9.6% $ 9 9.4% $ 7 11.8%
Real estate .................................... 59 68.9 34 66.8 27 68.0
Agriculture .................................... -- 5.3 -- 5.0 -- 5.2
Consumer ....................................... 51 16.2 6 18.8 6 15.0
Unallocated .................................... 865 -- 874 -- 713 --
-------- -------- -------- -------- -------- --------
Total allowance for credit
losses ................................. $ 1,016 100.0% $ 923 100.0% $ 753 100.0%
======== ======== ======== ======== ======== ========
Where management is able to identify specific loans or categories of
loans where specific amounts of reserve are required, allocations are assigned
to those categories. Federal and state bank regulators also require that a bank
maintain a reserve that is sufficient to absorb an estimated amount of
unidentified potential losses based on management's perception of economic
conditions, loan portfolio growth, historical charge-off experience and exposure
concentrations. While the Company's recent rate of charge-offs is low,
management is aware that the Company has been operating in an extremely
beneficial economic environment. Management, along with a number of economists,
has perceived during the past year and increasing instability in the national
and Southeast Texas economies and a worldwide economic slowdown that could
contribute to job losses and otherwise adversely affect a broad variety of
business sectors. In addition, as the Company has grown, its aggregate loan
portfolio has increased and since the Company has made a decision to diversify
its loan portfolio into areas other than 1-4 family residential mortgage loans,
the risk profile of the Company's loans has increased. By virtue of its
increased capital levels, the Company is able to make larger loans, thereby
increasing the possibility of one bad loan having a larger adverse impact than
before. Accordingly, management believes that the maintenance of an unallocated
reserve in the current amount is prudent and consistent with regulatory
requirements.
24
27
The Company believes that the allowance for credit losses at December
31, 1999 is adequate to cover losses inherent in the portfolio as of such date.
There can be no assurance, however, that the Company will not sustain losses in
future periods, which could be substantial in relation to the size of the
allowance at December 31, 1999.
Securities
The Company uses its securities portfolio both as a source of income
and as a source of liquidity. At December 31, 1999, investment securities
totaled $316.7 million, an increase of $89.5 million, or 39.4%, from $227.2
million at December 31, 1998. At December 31, 1999, securities represented 52.0%
of total assets compared with 52.2% of total assets at December 31, 1998.
The following table summarizes the amortized cost of securities as of
the dates shown (available-for-sale securities are not adjusted for unrealized
gains or losses):
December 31,
--------------------------------------------------------
1999 1998 1997 1996 1995
-------- -------- -------- -------- --------
(Dollars in thousands)
U.S. Treasury securities and obligations
of U.S. government agencies ........... $182,438 $128,603 $ 83,160 $ 60,830 $ 42,147
70% non-taxable preferred stock .......... 4,049 -- -- -- --
Mortgage-backed securities ............... 88,664 66,651 64,168 59,382 41,278
States and political subdivisions ........ 29,321 19,048 11,829 13,042 15,753
Collateralized mortgage obligations ...... 12,267 12,914 8,749 14,341 18,411
-------- -------- -------- -------- --------
Total ............................. $316,739 $227,216 $167,906 $147,595 $117,589
======== ======== ======== ======== ========
The following table summarizes the contractual maturity of securities
and their weighted average yields (available-for-sale securities are not
adjusted for unrealized gains or losses):
December 31, 1999
---------------------------------------------------------------------
After One Year After Five Years
but but
Within One Within Five Within Ten
Year Years Years
------------------- ------------------- -------------------
Amount Yield Amount Yield Amount Yield
-------- -------- -------- -------- -------- --------
(Dollars in thousands)
U.S. Treasury securities and obligations
of U.S. government agencies ............. $ 12,572 5.57% $138,923 6.19% $ 30,943 6.35%
Mortgage-backed securities ............... 3,589 5.78 23,565 6.28 13,538 6.70
States and political subdivisions ........ 2,087 4.57 13,348 4.47 5,324 4.84
70% non-taxable preferred stock .......... -- -- -- -- -- --
Qualified Zone Academy Bond (QZAB) ....... -- -- -- -- -- --
Collateralized mortgage obligations ...... -- -- -- -- 613 5.54
-------- -------- --------
Total ................................. $ 18,248 5.77% $175,836 6.25% $ 50,418 6.54%
======== ======== ======== ======== ======== ========
------------------------------------------
After Ten
Years Total
------------------- -------------------
Amount Yield Total Yield
-------- -------- -------- --------
U.S. Treasury securities and obligations
of U.S. government agencies ............. $ -- --% $182,438 6.17%
Mortgage-backed securities ............... 47,972 6.41 88,664 6.39
States and political subdivisions ........ 562 5.75 21,321 4.61
70% non-taxable preferred stock .......... 4,049 8.00 4,049 8.00
Qualified Zone Academy Bond (QZAB) ....... 8,000 2.00 8,000 2.00
Collateralized mortgage obligations ...... 11,654 7.04 12,267 6.97
-------- --------
Total ................................. $ 72,237 6.80% $316,739 6.39%
======== ======== ======== ========
The tax-exempt states and political subdivisions are not calculated on
a tax equivalent basis. On a tax equivalent basis, the yield on states and
political subdivisions would have been 6.98% at December 31, 1999. The QZAB bond
generates a tax credit of 7.18%, which is included in gross income.
The following table summarizes the carrying value by classification of
securities as of the dates shown:
December 31,
------------------------------------------------------------
1999 1998 1997 1996 1995
-------- -------- -------- -------- --------
(Dollars in thousands)
Available-for-sale ..... $224,782 $113,828 $ 38,612 $ 49,342 $ 35,452
Held-to-maturity ....... 87,889 113,916 129,256 98,222 82,053
-------- -------- -------- -------- --------
Total ........... $312,671 $227,744 $167,868 $147,564 $117,505
======== ======== ======== ======== ========
25
28
At December 31, 1999, securities totaled $312.7 million, an increase of
$85.0 million, or 37.3%, from $227.7 million at December 31, 1998, as the
Company invested excess deposits from the South Texas Acquisition. At December
31, 1999, securities represented 58.5% of total deposits and 51.4% of total
assets.
Securities increased $59.9 million or 35.7%, from $167.9 million at
December 31, 1997 to $227.7 million at December 31, 1998, as the Company
invested excess deposits from the Union Acquisition.
The following tables present the amortized cost and fair value of
securities classified as available-for-sale at December 31, 1999 and 1998:
December 31, 1999 December 31, 1998
------------------------------------------- -------------------------------------------
Gross Gross Gross Gross
Amortized Unrealized Unrealized Fair Amortized Unrealized Unrealized Fair
Cost Gains Losses Value Cost Gains Losses Value
--------- ---------- ---------- -------- --------- ---------- ---------- --------
(Dollars in thousands)
U.S. Treasury securities and obligations
of U.S. government agencies ............ $151,399 $ 61 $ 3,165 $148,295 $ 67,864 $ 285 $ 58 $ 68,091
Mortgage-backed securities ............... 49,438 47 1,222 48,263 30,578 98 176 30,500
Collateralized mortgage obligations ...... 11,729 261 63 11,927 10,832 166 26 10,972
70% non-taxable preferred stock .......... 4,049 -- 49 4,000
States and political subdivisions ........ 12,235 64 2 12,297 4,026 239 -- 4,265
-------- -------- -------- -------- -------- -------- -------- --------
Total ................................ $228,850 $ 433 $ 4,501 $224,782 $113,300 $ 788 $ 260 $113,828
======== ======== ======== ======== ======== ======== ======== ========
The following tables present the amortized cost and fair value of
securities classified as held-to-maturity at December 31, 1999 and 1998:
December 31, 1999 December 31, 1998
------------------------------------------- -------------------------------------------
Gross Gross Gross Gross
Amortized Unrealized Unrealized Fair Amortized Unrealized Unrealized Fair
Cost Gains Losses Value Cost Gains Losses Value
--------- ---------- ---------- -------- --------- ---------- ---------- --------
(Dollars in thousands)
U.S. Treasury securities and obligations
of U.S. government agencies ............ $ 31,039 $ 22 $ 253 $ 30,808 $ 60,739 $ 572 $ 2 $ 61,309
Mortgage-backed securities ............... 39,226 22 391 38,857 36,074 265 100 36,239
States and political subdivisions ........ 17,086 52 155 16,983 15,022 376 3 15,395
Collateralized mortgage obligations ...... 538 -- 2 536 2,081 -- 3 2,078
-------- -------- -------- -------- -------- -------- -------- --------
Total ................................ $ 87,889 $ 96 $ 801 $ 87,184 $113,916 $ 1,213 $ 108 $115,021
======== ======== ======== ======== ======== ======== ======== ========
Mortgage-backed securities are securities that have been developed by
pooling a number of real estate mortgages and which are principally issued by
federal agencies such as the Federal National Mortgage Association and the
Federal Home Loan Mortgage Corporation. These securities are deemed to have high
credit ratings, and minimum regular monthly cash flows of principal and interest
are guaranteed by the issuing agencies.
At December 31, 1999, 54.1% of the mortgage-backed securities held by
the Company had contractual final maturities of more than ten years with a
weighted average life of 5.0 years. However, unlike U.S. Treasury and U.S.
government agency securities, which have a lump sum payment at maturity,
mortgage-backed securities provide cash flows from regular principal and
interest payments and principal prepayments throughout the lives of the
securities. Mortgage-backed securities which are purchased at a premium will
generally suffer decreasing net yields as interest rates drop because home
owners tend to refinance their mortgages. Thus, the premium paid must be
amortized over a shorter period. Therefore, these securities purchased at a
discount will obtain higher net yields in a decreasing interest rate
environment. As interest rates rise, the opposite will generally be true. During
a period of increasing interest rates, fixed rate mortgage-backed securities do
not tend to experience heavy prepayments of principal and consequently, the
average life of this security will not be unduly shortened. If interest rates
begin to fall, prepayments will increase.
At the date of purchase, the Company is required to classify debt and
equity securities into one of three categories: held-to-maturity, trading or
available-for-sale. At each reporting date, the appropriateness of the
classification is reassessed. Investments in debt securities are classified as
held-to-maturity and measured at amortized cost in the financial statements only
if management has the positive intent and ability to hold those securities to
maturity. Securities that are bought and held principally for the purpose of
selling them in the near term are classified as trading and measured at fair
value in the financial statements with unrealized gains and
26
29
losses included in earnings. Investments not classified as either
held-to-maturity or trading are classified as available-for-sale and measured at
fair value in the financial statements with unrealized gains and losses
reported, net of tax, in a separate component of shareholders' equity until
realized.
Deposits
The Company offers a variety of deposit accounts having a wide range of
interest rates and terms. The Company's deposits consist of demand, savings,
money market and time accounts. The Company relies primarily on competitive
pricing policies and customer service to attract and retain these deposits. The
Company does not have or accept any brokered deposits.
Total deposits at December 31, 1999 were $534.8 million, an increase of
$144.1 million, or 36.9% from $390.7 million at December 31, 1998. The increase
is attributable to the South Texas Acquisition in the fourth quarter of 1999 and
internal growth. Noninterest-bearing deposits of $113.5 million at December 31,
1999 increased $28.5 million, or 33.5% from $85.0 million at December 31, 1998.
Noninterest-bearing deposits as of December 31, 1998 were $85.0 million compared
with $61.4 million at December 31, 1997. Interest-bearing deposits at December
31, 1999 were $421.2 million, up $115.5 million or 37.8% from $305.7 million at
December 31, 1998. Interest-bearing deposits at December 31, 1998 of $305.7
million represented a $75.6 million or 32.9% increase from $230.1 million at
December 31, 1997. Total deposits at December 31, 1997 were $291.5 million.
The daily average balances and weighted average rates paid on deposits
for each of the years ended December 31, 1999, 1998 and 1997 are presented
below:
Years Ended December 31,
---------------------------------------------------------------------------
1999 1998 1997
--------------------- --------------------- ---------------------
Amount Rate Amount Rate Amount Rate
-------- -------- -------- -------- -------- --------
(Dollars in thousands)
Interest-bearing checking ................ $ 54,396 1.58% $ 41,710 1.61% $ 42,898 2.13%
Regular savings .......................... 15,296 2.43 10,640 2.45 9,215 2.32
Money market savings ..................... 109,719 3.40 72,788 3.54 55,233 3.50
Time deposits ............................ 169,417 4.73 128,097 5.06 113,669 5.09
-------- -------- -------- -------- -------- --------
Total interest-bearing deposits ... 348,828 3.72 253,235 3.95 221,015 4.01
Noninterest-bearing deposits ............. 89,795 -- 69,810 -- 57,362 --
-------- -------- -------- -------- -------- --------
Total deposits .................... $438,623 2.96% $323,045 3.09% $278,377 3.18%
======== ======== ======== ======== ======== ========
The following table sets forth the amount of the Company's certificates
of deposit that are $100,000 or greater by time remaining until maturity:
December 31, 1999
----------------------
(Dollars in thousands)
Three months or less ........................... $25,163
Over three through six months .................. 11,564
Over six through 12 months ..................... 17,849
Over 12 months ................................. 5,373
-------
Total ......................................... $59,949
=======
Other Borrowings
Deposits are the primary source of funds for the Company's lending and
investment activities. Occasionally, the Company obtains additional funds from
the Federal Home Loan Bank ("FHLB") and correspondent banks. At December 31,
1999, the Company had FHLB borrowings of $5.7 million compared with $2.4 million
at December 31, 1998 and $2.8 million at December 31, 1997. The Company had
federal funds purchased of $10.0 million at December 31, 1999 compared with no
federal funds purchased at December 31, 1998 or 1997.
At December 31, 1999, 1998, and 1997 the Company had no outstanding
borrowings under a revolving line of credit extended by a commercial bank.
27
30
Interest Rate Sensitivity and Liquidity
The Company's Asset Liability and Funds Management Policy provides
management with the necessary guidelines for effective funds management, and the
Company has established a measurement system for monitoring its net interest
rate sensitivity position. The Company manages its sensitivity position within
established guidelines.
Interest rate risk is managed by the Asset Liability Committee
("ALCO"), which is composed of senior officers of the Company, in accordance
with policies approved by the Company's Board of Directors. The ALCO formulates
strategies based on appropriate levels of interest rate risk. In determining the
appropriate level of interest rate risk, the ALCO considers the impact on
earnings and capital of the current outlook on interest rates, potential changes
in interest rates, regional economies, liquidity, business strategies and other
factors. The ALCO meets regularly to review, among other things, the sensitivity
of assets and liabilities to interest rate changes, the book and market values
of assets and liabilities, unrealized gains and losses, purchase and sale
activities, commitments to originate loans and the maturities of investments and
borrowings. Additionally, the ALCO reviews liquidity, cash flow flexibility,
maturities of deposits and consumer and commercial deposit activity. Management
uses two methodologies to manage interest rate risk: (i) an analysis of
relationships between interest-earning assets and interest-bearing liabilities;
and (ii) an interest rate shock simulation model. The Company has traditionally
managed its business to reduce its overall exposure to changes in interest
rates.
The Company manages its exposure to interest rates by structuring its
balance sheet in the ordinary course of business. The Company does not enter
into instruments such as leveraged derivatives, interest rate swaps, financial
options, financial future contracts or forward delivery contracts for the
purpose of reducing interest rate risk.
An interest rate sensitive asset or liability is one that, within a
defined time period, either matures or experiences an interest rate change in
line with general market interest rates. The management of interest rate risk is
performed by analyzing the maturity and repricing relationships between
interest-earning assets and interest-bearing liabilities at specific points in
time ("GAP") and by analyzing the effects of interest rate changes on net
interest income over specific periods of time by projecting the performance of
the mix of assets and liabilities in varied interest rate environments. Interest
rate sensitivity reflects the potential effect on net interest income of a
movement in interest rates. A company is considered to be asset sensitive, or
having a positive GAP, when the amount of its interest-earning assets maturing
or repricing within a given period exceeds the amount of its interest-bearing
liabilities also maturing or repricing within that time period. Conversely, a
company is considered to be liability sensitive, or having a negative GAP, when
the amount of its interest-bearing liabilities maturing or repricing within a
given period exceeds the amount of its interest-earning assets also maturing or
repricing within that time period. During a period of rising interest rates, a
negative GAP would tend to affect net interest income adversely, 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 affect net
interest income adversely.
28
31
The following table sets forth an interest rate sensitivity analysis
for the Company at December 31, 1999:
Volumes Subject to Repricing Within
---------------------------------------------------------------------
0-30 31-180 181-365 After
days days days one year Total
---------- ---------- ---------- ---------- ----------
(Dollars in thousands)
Interest-earning assets:
Securities (gross of unrealized loss of $4,067) ... $ 27,331 $ 21,190 $ 19,769 $ 248,449 $ 316,739
Loans ............................................. 44,457 25,385 21,367 132,296 223,505
Federal funds sold ................................ 16,100 -- -- -- 16,100
---------- ---------- ---------- ---------- ----------
Total interest-earning assets ............... 87,888 46,575 41,136 380,745 556,344
---------- ---------- ---------- ---------- ----------
Interest-bearing liabilities:
Demand, money market and savings
deposits ....................................... 218,060 -- -- -- 218,060
Certificates of deposit and other
time deposits .................................. 21,368 90,626 61,502 29,686 203,182
Federal funds purchased and FHLB
advances ....................................... 15,700 -- -- -- 15,700
---------- ---------- ---------- ---------- ----------
Total interest-bearing liabilities .......... 255,128 90,626 61,502 29,686 436,942
---------- ---------- ---------- ---------- ----------
Period GAP ..................................... $ (167,240) $ (44,051) $ (20,366) $ 351,059 $ 119,402
Cumulative GAP ................................. $ (167,240) $ (211,291) $ (231,657) $ 119,402
Period GAP to total assets ..................... (27.48)% (7.24)% 3.35% 57.68%
Cumulative GAP to total assets ................. (27.48)% (34.71)% (38.06)% 19.62%
Shortcomings are inherent in any GAP analysis since certain assets and
liabilities may not move proportionally as interest rates change. In addition to
GAP analysis, the Company uses an interest rate risk simulation model and shock
analysis to test the interest rate sensitivity of net interest income and the
balance sheet, respectively. Contractual maturities and repricing opportunities
of loans are incorporated in the model as are prepayment assumptions, maturity
data and call options within the investment portfolio. Assumptions based on past
experience are incorporated into the model for nonmaturity deposit accounts.
Based on the Company's December 31, 1999 simulation analysis, the Company
estimates that a 100 basis point rise or decline in rates over the next 12 month
period would have an impact of less than 1.25% on its net interest income for
the period. The change is relatively small, despite the Company's liability
sensitive GAP position. The Company estimates that a 200 basis point rise in
rates would have an impact of approximately (7.77)% on its net interest income
while a 200 basis point decline over the same period would have an impact of
approximately 0.67% on its net interest income. The results are primarily from
the behavior of demand, money market and savings deposits. The Company has found
that historically interest rates on these deposits change more slowly in a
rising rate environment than in a declining rate environment. This assumption is
incorporated into the simulation model and is generally not fully reflected in a
GAP analysis.
As a financial institution, the Company's primary component of market
risk is interest rate volatility. Fluctuations in interest rates will ultimately
impact both the level of income and expense recorded on most of the Company's
assets and liabilities, and the market value of all interest-earning assets and
interest-bearing liabilities, other than those which have a short term to
maturity. Based upon the nature of the Company's operations, the Company is not
subject to foreign exchange or commodity price risk. The Company does not own
any trading assets.
The Company's exposure to market risk is reviewed on a regular basis.
Interest rate risk is the potential of economic losses due to future interest
rate changes. These economic losses can be reflected as a loss of future net
interest income and/or a loss of current fair market values. The objective is to
measure the effect on net interest income and to adjust the balance sheet to
minimize the inherent risk while at the same time maximizing income. Management
realizes certain risks are inherent, and that the goal is to identify and accept
the risks.
Liquidity involves the Company's ability to raise funds to support
asset growth or reduce assets to meet deposit withdrawals and other payment
obligations, to maintain reserve requirements and otherwise to operate the
Company on an ongoing basis. During the past three years, the Company's
liquidity needs have primarily been met by growth in core deposits, as
previously discussed. Although access to purchased funds from correspondent
banks is available and has been utilized on occasion to take advantage of
investment opportunities, the Company does not generally rely on these external
funding sources. The cash and federal funds sold position, supplemented by
amortizing investment and loan portfolios, have generally created an adequate
liquidity position.
29
32
Asset liquidity is provided by cash and assets which are readily
marketable or which will mature in the near future. As of December 31, 1999, the
Company had cash and cash equivalents of $36.8 million, up from $18.2 million,
at December 31, 1998. The increase was mainly due to an increase in federal
funds sold.
Capital Resources
Capital management consists of providing equity to support both current
and future operations. The Company is subject to capital adequacy requirements
imposed by the Federal Reserve Board and the Bank is subject to capital adequacy
requirements imposed by the FDIC and the Texas Banking Department. Both the
Federal Reserve Board and the FDIC have adopted risk-based capital requirements
for assessing bank holding company and bank capital adequacy. These standards
define capital and establish minimum capital requirements in relation to assets
and off-balance sheet exposure, adjusted for credit risk. The risk-based capital
standards currently in effect are designed to make regulatory capital
requirements more sensitive to differences in risk profiles among bank holding
companies and banks, to account for off-balance sheet exposure and to minimize
disincentives for holding liquid assets. Assets and off-balance sheet items are
assigned to broad risk categories, each with appropriate relative risk weights.
The resulting capital ratios represent capital as a percentage of total
risk-weighted assets and off-balance sheet items.
The risk-based capital standards issued by the Federal Reserve Board
require all bank holding companies to have "Tier 1 capital" of at least 4.0% and
"total risk-based" capital (Tier 1 and Tier 2) of at least 8.0% of total
risk-adjusted assets. "Tier 1 capital" generally includes common shareholders'
equity and qualifying perpetual preferred stock together with related surpluses
and retained earnings, less deductions for goodwill and various other
intangibles. "Tier 2 capital" may consist of a limited amount of
intermediate-term preferred stock, a limited amount of term subordinated debt,
certain hybrid capital instruments and other debt securities, perpetual
preferred stock not qualifying as Tier 1 capital, and a limited amount of the
general valuation allowance for loan losses. The sum of Tier 1 capital and Tier
2 capital is "total risk-based capital."
The Federal Reserve Board has also adopted guidelines which supplement
the risk-based capital guidelines with a minimum ratio of Tier 1 capital to
average total consolidated assets ("leverage ratio") of 3.0% for institutions
with well diversified risk, including no undue interest rate exposure; excellent
asset quality; high liquidity; good earnings; and that are generally considered
to be strong banking organizations, rated composite 1 under applicable federal
guidelines, and that are not experiencing or anticipating significant growth.
Other banking organizations are required to maintain a leverage ratio of at
least 4.0% to 5.0%. These rules further provide that banking organizations
experiencing internal growth or making acquisitions will be expected to maintain
capital positions substantially above the minimum supervisory levels and
comparable to peer group averages, without significant reliance on intangible
assets.
Pursuant to FDICIA, each federal banking agency revised its risk-based
capital standards to ensure that those standards take adequate account of
interest rate risk, concentration of credit risk and the risks of nontraditional
activities, as well as reflect the actual performance and expected risk of loss
on multifamily mortgages. The Bank is subject to capital adequacy guidelines of
the FDIC that are substantially similar to the Federal Reserve Board's
guidelines. Also pursuant to FDICIA, the FDIC has promulgated regulations
setting the levels at which an insured institution such as the Bank would be
considered "well capitalized," "adequately capitalized," "undercapitalized,"
"significantly undercapitalized" and "critically undercapitalized." Under the
FDIC's regulations, the Bank is classified "well capitalized" for purposes of
prompt corrective action. SEE "BUSINESS - SUPERVISION AND REGULATION - THE
COMPANY" AND " - THE BANK."
Shareholders' equity increased to $43.3 million at December 31, 1999
from $41.4 million at December 31, 1998, an increase of $1.9 million or 4.6%.
This increase was primarily the result of net income of $6.5 million offset by
dividends paid on the Common Stock of $1.0 million and a change in unrealized
loss on available for sale securities of $3.0 million. During 1998,
shareholders' equity increased by $16.6 million or 66.9% from $24.8 million at
December 31, 1997 due primarily to net income of $4.5 million, $12.8 million
from the Company's Initial Public Offering, offset by dividends of $1.1 million.
30
33
The following table provides a comparison of the Company's and the
Bank's leverage and risk-weighted capital ratios as of December 31, 1999 to the
minimum and well capitalized regulatory standards:
To Be Well Capitalized
Minimum Required Under Prompt
for Capital Corrective Action Actual Ratio at
Adequacy Purposes Provisions December 31, 1999
----------------- ---------------------- -----------------
THE COMPANY
Leverage ratio......................... 3.00%(1) N/A 6.28%
Tier 1 risk-based capital ratio........ 4.00% N/A 14.35%
Total risk-based capital ratio......... 8.00% N/A 16.71%
THE BANK
Leverage ratio......................... 3.00%(2) 5.00% 6.29%
Tier 1 risk-based capital ratio........ 4.00% 6.00% 14.37%
Total risk-based capital ratio......... 8.00% 10.00% 15.48%
- --------------------
(1) The Federal Reserve Board may require the Company to maintain a leverage
ratio of up to 200 basis points above the required minimum.
(2) The FDIC may require the Bank to maintain a leverage ratio of up to 200
basis points above the required minimum.
YEAR 2000 COMPLIANCE
General. The Year 2000 risk involves computer programs and computer
software that are not able to perform without interruption into the Year 2000.
If computer systems do not correctly recognize the date change from December 31,
1999 to January 1, 2000, computer applications that rely on the date field could
fail or create erroneous results. Such erroneous results could affect interest,
payment or due dates or cause the temporary inability to process transactions,
send invoices or engage in similar normal business activities. If these issues
are not addressed by the Company, its suppliers and its borrowers, there could
be a material adverse impact on the Company's financial condition or results of
operations.
State of Readiness. The Company formally initiated its Year 2000
project and plan in November 1997 to insure that its operational and financial
systems would not be adversely affected by Year 2000 problems. The Company
formed a Year 2000 project team and the Board of Directors and management
supported all compliance efforts and allocated the necessary resources to ensure
completion. An inventory of all systems and products (including both information
technology ("IT") and non-informational technology ("non-IT") systems) that
could be affected by the Year 2000 date change was developed, verified and
categorized as to its importance to the Company and an assessment of all major
IT and critical non-IT systems was completed. This assessment involved inputting
test data which simulated the Year 2000 date change into such IT systems and
reviewing the system output for accuracy. The Company's assessment of critical
non-IT systems involved reviewing such systems to determine whether they were
date dependent. Based on such assessment, the Company believed that none of its
critical non-IT systems were date dependent. The software for the Company's
systems is provided through service bureaus and software vendors. The Company
contacted all of its third party vendors and software providers and required
them to demonstrate and represent that the products provided were Year 2000
compliant and a program of testing compliance was planned. The Company's service
bureau, which performs substantially all of the Company's data processing
functions, warranted in writing that its software was Year 2000 compliant and
pursuant to applicable regulatory guidelines the Company reviewed the results of
user group tests performed by the service provider to verify this assertion. The
Company believes it would have recourse against the service provider for actual
damages incurred by the Company in the event the service provider breaches this
warranty. In addition, the FDIC reviewed the Company's compliance with Year 2000
issues on several occasions.
Risks Related to Third Parties. The impact of Year 2000 noncompliance
by third parties with which the Company transacts business cannot be accurately
gauged. The Company identified its largest dollar deposit (aggregate deposits
over $500,000) and loan ($250,000 or more) customers and, based on information
available to the Company, conducted a preliminary evaluation to determine which
of those customers would likely be affected by Year 2000 issues. The Company
then surveyed those customers deemed at risk to determine their readiness with
respect to Year 2000 issues, including their awareness of Year 2000 issues,
plans to address such issues and progress with respect to such plans. The
responses indicated that the customers were aware of Year 2000 issues, were in
the process of updating their systems and informed the Company that they
believed they would be ready for the Year 2000 date change by the end of 1999.
With respect to depositors, the Company maintained additional cash on hand in
the event of excess withdrawals. With respect to borrowers, the Company's loan
documents included a Year 2000 disclosure form and an addendum to the loan
agreement in which the borrower represented and warranted its Year 2000
compliance to the Company.
31
34
Transition Into the Year 2000. The Company suffered no failures in any
system or product upon the date change from December 31, 1999 to January 1,
2000. In addition, management is not aware of any vendor used by the Company for
data processing or related services which experienced a material failure of its
product or service due to a Year 2000 related problem. The Company was also
subject to risks associated with Year 2000 noncompliance by its customers.
Management is not aware of any customer which suffered losses related to a Year
2000 problem which would adversely affect that customer's financial condition or
its ability to repay any outstanding loan it has from the Company.
Costs of Compliance. The Company budgeted $10,000 to address Year 2000
issues. As of February 15, 2000, the Company incurred expenses of less than
$10,000 in relation to Year 2000. While the Company believes that it will incur
no additional material expenses related to the Year 2000 issue, there can be no
assurance that the Company will not be impacted by a Year 2000 related problem
which occurs after the date hereof or by the failure of a third party to achieve
proper Year 2000 compliance.
Ongoing Plans. Although many of the critical dates related to potential
Year 2000 related problems have passed, experts predict that Year 2000 related
failures could occur throughout the year, such as on February 29, 2000 and
December 31, 2000. Accordingly, the Company's Year 2000 project team will
continue to monitor the Company's IT and non-IT systems and attempt to identify
any potential problems during the course of the year. In addition, the Company
will continue to monitor the Year 2000 compliance of the third parties with
which the Company transacts business.
Contingency Plans. The Company continues to maintain its contingency
plans with respect to Year 2000 related issues and believes that if its own
systems should fail, it could convert to a manual entry system for a period of
time without significant losses. The Company believes that any mission critical
systems could be recovered and operating within seven days. In the event that
the Federal Reserve is unable to handle electronic funds transfers and check
clearing, the Company does not expect the impact to be material to its financial
condition or results of operations as long as it is able to utilize an
alternative electronic funds transfer and clearing source. As part of it
contingency planning, the Company reviewed its loan customer base and the
potential impact on capital of Year 2000 noncompliance. Based upon such review,
using what it considered to be a reasonable worst case scenario, the Company
assumed that certain of its commercial borrowers whose businesses are most
likely to be affected by Year 2000 noncompliance would be unable to repay their
loans, resulting in charge-offs of loan amounts in excess of collateral values.
If such were the case, the Company believes that it is unlikely that its
exposure would exceed $100,000, although there are no assurances that this
amount will not be substantially higher. The Company does not believe that this
amount is material enough for it to adjust its current methodology for making
provisions to the allowance for credit losses.
ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
For information regarding the market risk of the Company's financial
instruments, see "ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL
CONDITION AND RESULTS OF OPERATION - FINANCIAL CONDITION - INTEREST RATE
SENSITIVITY AND LIQUIDITY". The Company's principal market risk exposure is to
changes in interest rates.
ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA
The financial statements, the reports thereon, the notes thereto and
supplementary data commence at page F-1 of this Annual Report on Form 10-K.
32
35
The following table presents certain unaudited quarterly financial
information concerning the Company's results of operations for each of the two
years ended December 31, 1999. The information should be read in conjunction
with the historical Consolidated Financial Statements of the Company and the
Notes thereto appearing elsewhere in this Annual Report on Form 10-K.
CONSOLIDATED QUARTERLY FINANCIAL DATA OF THE COMPANY
Quarter Ended 1999
-------------------------------------------------------
(unaudited)
December 31 September 30 June 30 March 31
----------- ------------ -------- --------
(Dollars in thousands, except per share data)
Interest income ............................. $ 9,549 $ 7,310 $ 7,308 $ 7,245
Interest expense ............................ 3,944 2,959 3,019 3,111
-------- -------- -------- --------
Net interest income .................... 5,605 4,351 4,289 4,134
Provision for credit losses ................. 75 75 65 65
-------- -------- -------- --------
Net interest income after provision .... 5,530 4,276 4,224 4,069
Noninterest income .......................... 1,286 789 743 703
Noninterest expense ......................... 3,969 2,734 2,761 2,674
-------- -------- -------- --------
Income before income taxes ............. 2,847 2,331 2,206 2,098
Provision for income taxes .................. 895 746 703 664
-------- -------- -------- --------
Net income ............................. $ 1,952 $ 1,585 $ 1,503 $ 1,434
======== ======== ======== ========
Earnings per share:
Basic .................................. $ 0.38 $ 0.31 $ 0.29 $ 0.28
======== ======== ======== ========
Diluted ................................ $ 0.36 $ 0.29 $ 0.28 $ 0.27
======== ======== ======== ========
Quarter Ended 1998
-------------------------------------------------------
(unaudited)
December 31 September 30 June 30 March 31
----------- ------------ -------- --------
(Dollars in thousands, except per share data)
Interest income ............................. $ 6,910 $ 5,641 $ 5,597 $ 5,274
Interest expense ............................ 3,019 2,395 2,412 2,302
-------- -------- -------- --------
Net interest income .................... 3,891 3,246 3,185 2,972
Provision for credit losses ................. 24 70 75 70
-------- -------- -------- --------
Net interest income after provision .... 3,867 3,176 3,110 2,902
Noninterest income .......................... 667 586 622 617
Noninterest expense ......................... 2,609 2,195 2,148 2,106
-------- -------- -------- --------
Income before income taxes ............. 1,925 1,567 1,584 1,413
Provision for income taxes .................. 603 487 499 440
-------- -------- -------- --------
Net income .................................. $ 1,322 $ 1,080 $ 1,085 $ 973
======== ======== ======== ========
Earnings per share:
Basic .................................. $ 0.29 $ 0.27 $ 0.27 $ 0.24
======== ======== ======== ========
Diluted ................................ 0.28 0.26 0.27 0.24
======== ======== ======== ========
33
36
ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND
FINANCIAL DISCLOSURE
There have been no disagreements with accountants on any matter of
accounting principles or practices or financial statement disclosures during the
two year period ended December 31, 1999.
PART III.
ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT
The information under the captions "Election of Directors," "Continuing
Directors and Executive Officers" and "Section 16(a) Beneficial Ownership
Reporting Compliance" in the Company's definitive Proxy Statement relating to
its 2000 Annual Meeting of Shareholders (the "2000 Proxy Statement") is
incorporated herein by reference in response to this item.
ITEM 11. EXECUTIVE COMPENSATION
The information under the caption "Executive Compensation and Other
Matters" in the 2000 Proxy Statement is incorporated herein by reference in
response to this item.
ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT
The information under the caption "Beneficial Ownership of Common Stock
by Management of the Company and Principal Shareholders" in the 2000 Proxy
Statement is incorporated herein by reference in response to this item.
ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS
The information under the caption "Interests of Management and Others
in Certain Transactions" in the 2000 Proxy Statement is incorporated herein by
reference in response to this item.
PART IV.
ITEM 14. EXHIBITS, FINANCIAL STATEMENT SCHEDULES, AND REPORTS ON FORM 8-K
CONSOLIDATED FINANCIAL STATEMENTS AND SCHEDULES
Reference is made to the Financial Statements, the reports thereon, the
Notes thereto and supplementary data commencing at page F-1 of this Annual
Report on Form 10-K. Set forth below is a list of such Financial Statements:
Independent Auditors' Report
Consolidated Balance Sheets as of December 31, 1999 and 1998
Consolidated Statements of Income for the Years Ended December 31,
1999, 1998, and 1997
Consolidated Statements of Changes in Shareholders' Equity for the
Years Ended December 31, 1999, 1998 and 1997
Consolidated Statements of Cash Flows for the Years Ended December 31,
1999, 1998 and 1997
Notes to Consolidated Financial Statements
FINANCIAL STATEMENT SCHEDULES
All supplemental schedules are omitted as inapplicable or because the
required information is included in the Consolidated Financial Statements or
Notes thereto.
34
37
EXHIBITS
Each exhibit marked with an asterisk is filed with this Annual Report
on Form 10-K.
Exhibit
Number Description
------- -----------
2.1 - Agreement and Plan of Reorganization by and between the
Company and South Texas Bancshares, Inc. dated June 17,
1999 (incorporated herein by reference to Exhibit 2.1
to the Company's Form 10-Q for the quarter ended June
30, 1999).
2.2 - Agreement and Plan of Reorganization dated June 5, 1998
by and among the Company, First Prosperity Bank and
Union State Bank (incorporated herein by reference to
Exhibit 10.4 to the Company's Registration Statement on
Form S-1 (Registration No. 333-63267) (the
"Registration Statement")).
3.1 - Amended and Restated Articles of Incorporation of the
Company (incorporated herein by reference to Exhibit
3.1 to the Registration Statement.
3.2 - Amended and Restated Bylaws of the Company
(incorporated herein by reference to Exhibit 3.2 to the
Registration Statement).
4.1 - Specimen form of certificate evidencing the Common
Stock (incorporated herein by reference to Exhibit 4 to
the Registration Statement).
4.2 - Form of Indenture by and between the Company and First
Union Trust Company, N.A. (incorporated herein by
reference to Exhibit 4.1 of the Company's Registration
Statement on Form S-1 (Registration No. 333-89481)).
4.3 - Form of Subordinated Debenture (included as an exhibit
to Exhibit 4.2).
4.4 - Form of Trust Preferred Securities Guarantee Agreement
by and between the Company and First Union Trust
Company, N.A. (incorporated herein by reference to
Exhibit 4.7 of the Company's Registration Statement of
Form S-1 (Registration No. 333-89481)).
10.1 - Prosperity Bancshares, Inc. 1995 Stock Option Plan
(incorporated herein by reference to Exhibit 10.1 to
the Registration Statement).
10.2 - Prosperity Bancshares, Inc. 1998 Stock Incentive Plan
(incorporated herein by reference to Exhibit 10.2 to
the Registration Statement).
10.3 - Employment Agreements (incorporated herein by reference
to Exhibit 10.3 to the Registration Statement).
10.5 - Loan Agreement dated December 27, 1997 between the
Company and Norwest Bank Minnesota, National
Association (incorporated herein by reference to
Exhibit 10.5 to the Registration Statement).
21* - Subsidiaries of Prosperity Bancshares, Inc.
23.1* - Consent of Deloitte & Touche LLP.
27* - Financial Data Schedule.
35
38
REPORTS ON FORM 8-K
The Company filed a Current Report on Form 8-K under Item 2 of Form 8-K
on October 15, 1999 to report its acquisition of South Texas Bancshares, Inc.
The Company filed Amendment No. 1 to that Current Report on Form 8-K on November
8, 1999 to file the financial statements related to such acquisition.
SIGNATURES
PURSUANT TO THE REQUIREMENTS OF SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE
ACT OF 1934, PROSPERITY BANCSHARES, INC., HAS DULY CAUSED THIS REPORT TO BE
SIGNED ON ITS BEHALF BY THE UNDERSIGNED, THEREUNTO DULY AUTHORIZED, IN THE CITY
OF HOUSTON AND STATE OF TEXAS ON MARCH 8, 2000.
PROSPERITY BANCSHARES, INC.
BY: /s/ TRACY T. RUDOLPH
TRACY T. RUDOLPH
CHAIRMAN OF THE BOARD
PURSUANT TO THE REQUIREMENTS OF THE SECURITIES EXCHANGE ACT OF 1934, AS AMENDED,
THIS REPORT HAS BEEN SIGNED BY THE FOLLOWING PERSONS ON BEHALF OF THE REGISTRANT
IN THE INDICATED CAPACITIES ON MARCH 8, 2000.
Signature Positions
--------- ---------
/s/ TRACY T. RUDOLPH Chairman of the Board (principal
--------------------------------------- executive officer)
Tracy T. Rudolph
/s/ DAVID HOLLAWAY Chief Financial Officer (principal
--------------------------------------- financial officer and principal
David Hollaway accounting officer)
/s/ HARRY BAYNE Director
---------------------------------------
Harry Bayne
/s/ JAMES A. BOULIGNY Director
---------------------------------------
James A. Bouligny
/s/ J.T. HERIN Director
---------------------------------------
J.T. Herin
/s/ CHARLES M. SLAVIK Director
---------------------------------------
Charles M. Slavik
/s/ HARRISON STAFFORD Director
---------------------------------------
Harrison Stafford
/s/ ROBERT STEELHAMMER Director
---------------------------------------
Robert Steelhammer
/s/ DAVID ZALMAN Director
---------------------------------------
David Zalman
36
39
TABLE OF CONTENTS TO FINANCIAL STATEMENTS
Page
----
Prosperity Bancshares, Inc.
Independent Auditors' Report................................................. F-2
Consolidated Balance Sheets as of December 31, 1999 and 1998................ F-3
Consolidated Statements of Income for the Years Ended December 31,
1999, 1998 and 1997..................................................... F-4
Consolidated Statements of Changes in Shareholders' Equity for the
Years Ended December 31, 1999, 1998 and 1997............................ F-5
Consolidated Statements of Cash Flows for the Years Ended
December 31, 1999, 1998 and 1997........................................ F-6
Notes to Consolidated Financial Statements................................... F-8
F-1
40
INDEPENDENT AUDITORS' REPORT
To the Shareholders and Board of Directors of
Prosperity Bancshares, Inc. and Subsidiaries:
We have audited the accompanying consolidated balance sheets of Prosperity
Bancshares, Inc. and subsidiaries (collectively, the "Company") as of December
31, 1999 and 1998, and the related consolidated statements of income,
shareholders' equity and cash flows for each of the three years in the period
ended December 31, 1999. These financial statements are the responsibility of
the Company's management. Our responsibility is to express an opinion on these
financial statements based on our audits.
We conducted our audits in accordance with generally accepted auditing
standards. Those standards require that we plan and perform the audit to obtain
reasonable assurance about whether the financial statements are free of material
misstatement. An audit includes examining, on a test basis, evidence supporting
the amounts and disclosures in the financial statements. An audit also includes
assessing the accounting principles used and significant estimates made by
management, as well as evaluating the overall financial statement presentation.
We believe that our audits provide a reasonable basis for our opinion.
In our opinion, such consolidated financial statements present fairly, in all
material respects, the financial position of Prosperity Bancshares, Inc. and
subsidiaries as of December 31, 1999 and 1998, and the results of their
operations and their cash flows for each of the three years in the period ended
December 31, 1999 in conformity with generally accepted accounting principles.
Deloitte & Touche LLP
February 4, 2000
Houston, Texas
F-2
41
PROSPERITY BANCSHARES, INC. AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
December 31,
--------------------------
1999 1998
---------- ----------
(Dollars in thousands)
ASSETS
Cash and due from banks (Note 3) ................................. $ 20,658 $ 18,243
Federal funds sold ............................................... 16,100 --
Interest-bearing deposits in financial institutions .............. -- 99
Available for sale securities, at fair value (amortized cost
of $228,850 and $113,300, respectively) (Note 4) .............. 224,782 113,828
Held to maturity securities, at cost (fair value of $87,184
and $115,021, respectively) (Note 4) .......................... 87,889 113,916
Loans (Notes 5, 6) ............................................... 223,505 170,478
Less allowance for credit losses (Note 7) ........................ (2,753) (1,850)
---------- ----------
Loans, net ......................................... 220,752 168,628
Accrued interest receivable ...................................... 5,013 3,990
Goodwill, net of accumulated amortization
of $3,792 and $3,077, respectively ............................ 19,229 9,690
Bank premises and equipment, net (Note 8) ........................ 9,751 6,105
Other assets ..................................................... 4,499 1,813
---------- ----------
TOTAL ............................................................ $ 608,673 $ 436,312
========== ==========
LIABILITIES AND SHAREHOLDERS' EQUITY
LIABILITIES:
Deposits (Note 9):
Noninterest-bearing ....................................... $ 113,514 $ 84,976
Interest-bearing .......................................... 421,242 305,683
---------- ----------
Total deposits ..................................... 534,756 390,659
Federal funds purchased (Note 10) ............................. 10,000 --
Other borrowings (Note 10) .................................... 5,700 2,437
Accrued interest payable ...................................... 1,554 1,081
Other liabilities ............................................. 1,397 700
---------- ----------
Total liabilities .................................. 553,407 394,877
COMMITMENTS AND CONTINGENCIES
(Notes 12 and 16)
COMPANY-OBLIGATED MANDITORILY REDEEMABLE
TRUST PREFERRED SECURITIES OF SUBSIDIARY
TRUST (Note 20) ............................................... 12,000 --
SHAREHOLDERS' EQUITY (Notes 14, 17, and 18):
Common stock, $1 par value; 50,000,000 shares
authorized; 5,198,901 and 5,176,401, shares
issued at December 31, 1999 and 1998,
respectively; 5,195,325 and 5,172,825 shares
outstanding at December 31, 1999 and 1998,
respectively .............................................. 5,199 5,176
Capital surplus ............................................... 15,880 16,477
Retained earnings ............................................. 24,889 19,452
Accumulated other comprehensive income -- net
unrealized gains (losses) on available for sale
securities, net of tax benefit of $1,383 and tax
of $179, respectively ..................................... (2,684) 348
Less treasury stock, at cost, 3,576 shares .................... (18) (18)
---------- ----------
Total shareholders' equity ......................... 43,266 41,435
---------- ----------
TOTAL ............................................................ $ 608,673 $ 436,312
========== ==========
See notes to consolidated financial statements.
F-3
42
PROSPERITY BANCSHARES, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF INCOME
For the Years Ended
December 31,
--------------------------------------
1999 1998 1997
-------- -------- --------
(Dollars in thousands, except per share data)
INTEREST INCOME:
Loans, including fees ............................... $ 16,386 $ 12,282 $ 10,206
Securities:
Taxable .......................................... 13,323 10,152 8,950
Nontaxable ....................................... 933 682 605
70% nontaxable preferred dividends ............... 36 -- --
Federal funds sold .................................. 734 299 193
Deposits in financial institutions .................. -- 7 16
-------- -------- --------
Total interest income .......................... 31,412 23,422 19,970
-------- -------- --------
INTEREST EXPENSE:
Deposits ............................................ 12,971 9,993 8,858
Note payable and federal funds
purchased ........................................ 2 24 132
Other ............................................... 60 111 70
-------- -------- --------
Total interest expense ......................... 13,033 10,128 9,060
-------- -------- --------
NET INTEREST INCOME .................................... 18,379 13,294 10,910
PROVISION FOR CREDIT LOSSES (Note 7) ................... 280 239 190
-------- -------- --------
NET INTEREST INCOME AFTER PROVISION
FOR CREDIT LOSSES ................................... 18,099 13,055 10,720
-------- -------- --------
NONINTEREST INCOME:
Customer service fees ............................... 3,010 2,173 2,062
Other ............................................... 511 319 202
-------- -------- --------
Total noninterest income ....................... 3,521 2,492 2,264
-------- -------- --------
NONINTEREST EXPENSE:
Salaries and employee benefits
(Note 15) ........................................ 6,198 4,541 3,968
Net occupancy expense ............................... 666 535 488
Data processing ..................................... 880 807 642
Goodwill amortization ............................... 715 500 402
Depreciation expense ................................ 689 523 431
Minority interest trust preferred securities ........ 142 -- --
Other ............................................... 2,848 2,152 1,905
-------- -------- --------
Total noninterest expense ...................... 12,138 9,058 7,836
-------- -------- --------
INCOME BEFORE INCOME TAXES ............................. 9,482 6,489 5,148
PROVISION FOR INCOME TAXES (Note 13) ................... 3,008 2,029 1,586
-------- -------- --------
NET INCOME ............................................. $ 6,474 $ 4,460 $ 3,562
======== ======== ========
EARNINGS PER SHARE (Note 1):
Basic ............................................... $ 1.25 $ 1.08 $ 0.94
======== ======== ========
Diluted ............................................. $ 1.20 $ 1.04 $ 0.92
======== ======== ========
See notes to consolidated financial statements.
F-4
43
PROSPERITY BANCSHARES, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF SHAREHOLDERS' EQUITY
Accumulated
Other
Comprehensive
Income -- Net
Unrealized Loss
Common Stock on Available
------------------------ Capital Retained for Sale
Shares Amount Surplus Earnings Securities
---------- ---------- ---------- ---------- ------------
(Amounts in thousands, except share data)
BALANCE AT JANUARY 1, 1997 ............... 3,513,884 $ 3,513 $ 2,298 $ 13,061 $ (20)
Net income .......................... 3,562
Net change in unrealized loss on
available for sale securities ..... (4)
Total comprehensive income ..........
Sale of treasury stock ..............
Issuance of common stock ............ 480,000 480 2,520
Cash dividends declared, $0.15
per share ......................... (574)
---------- ---------- ---------- ---------- ----------
BALANCE AT DECEMBER 31, 1997 ............. 3,993,884 3,993 4,818 16,049 (24)
Net income .......................... 4,460
Net change in unrealized loss on
available for sale securities ..... 372
Total comprehensive income ..........
Sale of common stock ................ 1,182,517 1,183 11,659
Cash dividends declared, $0.20
per share ......................... (1,057)
---------- ---------- ---------- ---------- ----------
BALANCE AT DECEMBER 31, 1998 ............. 5,176,401 5,176 16,477 19,452 348
Net income .......................... 6,474
Net change in unrealized loss on
available for sale securities ..... (3,032)
Total comprehensive income ..........
Sale of common stock ................ 22,500 23 76
Trust preferred issuance costs ...... (560)
Initial public offering costs ....... (113)
Cash dividends declared, $0.20
per share ......................... (1,037)
---------- ---------- ---------- ---------- ----------
BALANCE AT DECEMBER 31, 1999 ............. 5,198,901 $ 5,199 $ 15,880 $ 24,889 $ (2,684)
========== ========== ========== ========== ==========
Total
Treasury Shareholders'
Stock Equity
---------- -------------
BALANCE AT JANUARY 1, 1997 ............... $ (19) $ 18,833
Net income .......................... 3,562
Net change in unrealized loss on
available for sale securities ..... (4)
----------
Total comprehensive income .......... 3,558
----------
Sale of treasury stock .............. 1 1
Issuance of common stock ............ 3,000
Cash dividends declared, $0.15
per share ......................... (574)
---------- ----------
BALANCE AT DECEMBER 31, 1997 ............. (18) 24,818
Net income .......................... 4,460
Net change in unrealized loss on
available for sale securities ..... 372
----------
Total comprehensive income .......... 4,832
----------
Sale of common stock ................ 12,842
Cash dividends declared, $0.20
per share ......................... (1,057)
---------- ----------
BALANCE AT DECEMBER 31, 1998 ............. (18) 41,435
Net income .......................... 6,474
Net change in unrealized loss on
available for sale securities ..... (3,032)
----------
Total comprehensive income .......... 3,442
----------
Sale of common stock ................ 99
Trust preferred issuance costs ...... (560)
Initial public offering costs ....... (113)
Cash dividends declared, $0.20
per share ......................... (1,037)
---------- ----------
BALANCE AT DECEMBER 31, 1999 ............. $ (18) $ 43,266
========== ==========
See notes to consolidated financial statements.
F-5
44
PROSPERITY BANCSHARES, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
For the Years Ended
December 31,
------------------------------------
1999 1998 1997
-------- -------- --------
(Dollars in thousands)
CASH FLOWS FROM OPERATING ACTIVITIES:
Net income .......................................... $ 6,474 $ 4,460 $ 3,562
Adjustments to reconcile net income
to net cash provided by operating activities:
Depreciation and amortization ..................... 1,404 1,023 833
Provision for credit losses ....................... 280 239 190
Net amortization of premium/
discount on investments ........................ 202 236 340
Loss on sale of real estate
acquired by foreclosure ......................... -- 2 2
Increase in accrued interest receivable ........... (13) (624) (297)
Increase in other assets .......................... (946) (180) (396)
Increase (Decrease) in accrued
interest payable and other liabilities ......... 79 217 (80)
-------- -------- --------
Total adjustments ............................... 1,006 913 592
-------- -------- --------
Net cash provided by operating activities ....... 7,480 5,373 4,154
-------- -------- --------
CASH FLOWS FROM INVESTING ACTIVITIES:
Proceeds from maturities and
principal paydowns of held to
maturity securities ............................... 53,047 54,725 35,405
Purchase of held to maturity securities ............. (4,525) (15,983) (66,766)
Proceeds from maturities and
principal paydowns of available
for sale securities ............................... 15,418 24,109 14,206
Purchase of available for sale securities ........... (87,070) (81,729) (3,497)
Net increase in loans ............................... (19,228) (28,433) (7,482)
Net proceeds from sale of real
estate acquired by foreclosure .................... -- 38 187
Purchase of bank premises and equipment ............. (414) (343) (743)
Net decrease in interest-bearing deposits
in financial institutions ......................... 99 99 198
Premium paid for Angleton branch .................... -- -- (1,990)
Net liabilities acquired in purchase of
Angleton branch (net of
acquired cash of $565) ............................ -- -- 28,647
Premium paid for South Texas Bancshares ............. (10,255) -- --
Net liabilities acquired in purchase of South
Texas Bancshares (net of acquired
cash of $12,271) .................................. 22,526 -- --
Premium paid for West Columbia branch ............... -- (250) --
Net liabilities acquired in purchase of
West Columbia branch (net
of acquired cash of $84) .......................... -- 5,799 --
Premium paid for purchase of East Bernard
branch ............................................ -- (4,297) --
Net liabilities acquired in purchase of
East Bernard branch (net of acquired
cash of $16,602) .................................. -- 3,134 --
-------- -------- --------
Net cash used in investing activities ........... (30,402) (43,131) (1,835)
-------- -------- --------
(Table continued on following page)
F-6
45
PROSPERITY BANCSHARES, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
For the Years Ended
December 31,
------------------------------------
1999 1998 1997
-------- -------- --------
(Dollars in thousands)
CASH FLOWS FROM FINANCING ACTIVITIES:
Net increase in noninterest-bearing
deposits .......................................... $ 6,531 $ 13,881 $ 1,210
Net increase (decrease) in
interest-bearing deposits ......................... 11,254 13,327 (9,861)
Proceeds from line of credit ........................ -- 2,000 --
Repayments of line of credit ........................ -- (2,000) (3,266)
Proceeds (repayments ) of other
borrowings (net) ................................. 13,263 (364) 2,800
Proceeds from the issuance of trust
preferred securities ............................ 12,000 -- --
Initial public offering costs ....................... (113)
Trust preferred issuance costs ..................... (560) -- --
Proceeds from the issuance of
common stock ...................................... 99 12,842 3,000
Sale of treasury stock .............................. -- -- 1
Payments of cash dividends .......................... (1,037) (1,057) (575)
-------- -------- --------
Net cash provided by (used in)
financing activities ......................... 41,437 38,629 (6,691)
-------- -------- --------
NET INCREASE (DECREASE) IN CASH AND
CASH EQUIVALENTS .................................... $ 18,515 $ 871 $ (4,372)
CASH AND CASH EQUIVALENTS, BEGINNING
OF PERIOD ........................................... 18,243 17,372 21,744
-------- -------- --------
CASH AND CASH EQUIVALENTS, END OF
PERIOD .............................................. $ 36,758 $ 18,243 $ 17,372
======== ======== ========
INCOME TAXES PAID ...................................... $ 2,437 $ 1,882 $ 1,681
======== ======== ========
INTEREST PAID .......................................... $ 12,560 $ 9,755 $ 9,039
======== ======== ========
NONCASH INVESTING ACTIVITIES:
The Company acquired certain real estate through
foreclosure of collateral on loans totaling
approximately $0, $0, and $189 during the
years ended December 31, 1999, 1998, and 1997,
respectively.
See notes to consolidated financial statements.
F-7
46
PROSPERITY BANCSHARES, INC. AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
1. NATURE OF OPERATIONS AND SUMMARY OF SIGNIFICANT ACCOUNTING AND REPORTING
POLICIES
NATURE OF OPERATIONS -- Prosperity Bancshares, Inc. ("Bancshares") and
its subsidiaries, Prosperity Holdings, Inc. ("Holdings") and First Prosperity
Bank (the "Bank") (collectively referred to as the "Company") provide retail and
commercial banking services.
The Bank operates fifteen branch banking offices in South Central Texas, with
three locations in Houston and twelve locations south, and southwest of Houston
in Angleton, Bay City, Beeville, Cuero, East Bernard, Edna, El Campo, Goliad,
Mathis, West Columbia and Victoria.
PRINCIPLES OF CONSOLIDATION -- The consolidated financial statements
include the accounts of Bancshares and its wholly owned subsidiaries. All
significant intercompany transactions have been eliminated in consolidation. The
accounting and reporting policies of the Company conform to generally accepted
accounting principles ("GAAP") and the prevailing practices within the banking
industry. A summary of significant accounting and reporting policies is as
follows:
USE OF ESTIMATES -- The preparation of financial statements in
conformity with GAAP requires management to make estimates and assumptions that
affect the reported amounts of assets and liabilities and disclosure of
contingent assets and liabilities at the date of the financial statements and
the reported amounts of revenues and expenses during the reporting period.
Actual results could differ from these estimates.
SECURITIES -- Securities held to maturity are carried at cost, adjusted
for the amortization of premiums and the accretion of discounts. Management has
the positive intent and the Company has the ability to hold these assets as
long-term securities until their estimated maturities. Under certain
circumstances (including the deterioration of the issuer's creditworthiness or a
change in tax law or statutory or regulatory requirements), securities may be
sold or transferred to another portfolio.
Securities available for sale are carried at fair value. Unrealized
gains and losses are excluded from earnings and reported, net of tax, as a
separate component of shareholders' equity until realized. Securities within the
available for sale portfolio may be used as part of the Company's
asset/liability strategy and may be sold in response to changes in interest
risk, prepayment risk or other similar economic factors.
Declines in the fair value of individual held-to-maturity and
available-for-sale securities below their cost that are other than temporary
would result in write-downs of the individual securities to their fair value.
The related write-downs would be included in earnings as realized losses.
Premiums and discounts are amortized and accreted to operations using
the level-yield method of accounting, adjusted for prepayments as applicable.
The specific identification method of accounting is used to compute gains or
losses on the sales of these assets. Interest earned on these assets is included
in interest income.
LOANS -- Loans are stated at the principal amount outstanding, net of
unearned discount and fees. Unearned discount relates principally to consumer
installment loans. The related interest income for multipayment loans is
recognized principally by the "sum of the digits" method which records interest
in proportion to the declining outstanding balances of the loans; for single
payment loans, such income is recognized using the straight-line method.
Effective January 1, 1995, the Company adopted Statement of Financial
Accounting Standards ("SFAS") No. 114, "Accounting by Creditors for Impairment
of a Loan," as amended by SFAS No. 118, "Accounting by Creditors for Impairment
of a Loan - Income Recognition and Disclosure." SFAS No. 114 applies to all
impaired loans, with the exception of groups of smaller-balance homogeneous
loans that are collectively evaluated for impairment. A loan is defined as
impaired by SFAS No. 114 if, based on current information and events, it is
probable that a creditor will be unable to collect all amounts due, both
interest and principal, according to the contractual terms of the loan
agreement. Specifically, SFAS No. 114 requires that the allowance for credit
losses related to impaired loans be determined based on the difference of
carrying value of loans and the present value of expected cash flows discounted
at the loan's effective interest rate or, as a practical expedient, the loan's
observable market price or the fair value of the collateral if the loan is
collateral dependent. Prior to the adoption of SFAS No. 114, the Company's
methodology for determining the adequacy of the allowance for credit losses did
not incorporate the concept of the time value of money and the expected future
interest cash flow.
F-8
47
PROSPERITY BANCSHARES, INC. AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (Continued)
As permitted by SFAS No. 118, interest revenue received on impaired
loans continues to be either applied against principal or realized as interest
revenue, according to management's judgment as to the collectibility of
principal. Adoption of these pronouncements, SFAS Nos. 114 and 118, had no
impact on the Company's consolidated financial statements including the level of
the allowance for credit losses.
OTHER REAL ESTATE -- Real estate properties acquired through, or in
lieu of, loan foreclosure are to be sold and are initially recorded at fair
value at the date of foreclosure establishing a new cost basis. After
foreclosure, valuations are periodically performed by management and the real
estate is carried at the lower of carrying amount or fair value less cost to
sell. Revenue and expenses from operations and changes in the valuation
allowance are included in the net gain/loss and carrying costs of other real
estate.
NONREFUNDABLE FEES AND COSTS ASSOCIATED WITH LENDING ACTIVITIES - Loan
origination fees are recognized over the life of the related loan as an
adjustment to yield using the interest method.
Generally, loan commitment fees are deferred, except for certain
retrospectively determined fees, and recognized as an adjustment of yield by the
interest method over the related loan life or, if the commitment expires
unexercised, recognized in income upon expiration of the commitment.
NONPERFORMING LOANS AND PAST DUE LOANS -- Included in the nonperforming
loan category are loans which have been categorized by management as nonaccrual
because collection of interest is doubtful and loans which have been
restructured to provide a reduction in the interest rate or a deferral of
interest or principal payments. When the payment of principal or interest on a
loan is delinquent for 90 days, or earlier in some cases, the loan is placed on
nonaccrual status unless the loan is in the process of collection and the
underlying collateral fully supports the carrying value of the loan. If the
decision is made to continue accruing interest on the loan, periodic reviews are
made to confirm the accruing status of the loan. When a loan is placed on
nonaccrual status, interest accrued during the current year prior to the
judgment of uncollectibility is charged to operations. Interest accrued during
prior periods is charged to allowance for credit losses. Generally, any payments
received on nonaccrual loans are applied first to outstanding loan amounts and
next to the recovery of charged-off loan amounts. Any excess is treated as
recovery of lost interest.
Restructured loans are those loans on which concessions in terms have
been granted because of a borrower's financial difficulty. Interest is generally
accrued on such loans in accordance with the new terms.
ALLOWANCE FOR CREDIT LOSSES -- The allowance for credit losses is a
valuation allowance available for losses incurred on loans. All losses are
charged to the allowance when the loss actually occurs or when a determination
is made that such a loss is probable. Recoveries are credited to the allowance
at the time of recovery.
Throughout the year, management estimates the probable level of losses
to determine whether the allowance for credit losses is adequate to absorb
losses in the existing portfolio. Based on these estimates, an amount is charged
to the provision for credit losses and credited to the allowance for credit
losses in order to adjust the allowance to a level determined to be adequate to
absorb losses.
Management's judgment as to the level of losses on existing loans
involves the consideration of current and anticipated economic conditions and
their potential effects on specific borrowers; an evaluation of the existing
relationships among loans, probable credit losses and the present level of the
allowance; results of examinations of the loan portfolio by regulatory agencies;
and management's internal review of the loan portfolio. In determining the
collectibility of certain loans, management also considers the fair value of any
underlying collateral. The amounts ultimately realized may differ from the
carrying value of these assets because of economic, operating or other
conditions beyond the Company's control.
Estimates of credit losses involve an exercise of judgment. While it is
possible that in the short term the Company may sustain losses which are
substantial in relation to the allowance for credit losses, it is the judgment
of management that the allowance for credit losses reflected in the consolidated
balance sheets is adequate to absorb probable losses that exist in the current
loan portfolio.
PREMISES AND EQUIPMENT -- Premises and equipment are carried at cost
less accumulated depreciation. Depreciation expense is computed principally
using the straight-line method over the estimated useful lives of the assets
which range from three to 30 years.
F-9
48
PROSPERITY BANCSHARES, INC. AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (Continued)
AMORTIZATION OF GOODWILL -- Goodwill is amortized using the
straight-line method over a period of 15 to 25 years. Goodwill is periodically
assessed for impairment.
INCOME TAXES -- Bancshares files a consolidated federal income tax
return. The Bank computes federal income taxes as if it filed a separate return
and remits to, or is reimbursed by, Bancshares based on the portion of taxes
currently due or refundable.
Deferred tax assets and liabilities are recognized for the estimated
tax consequences attributable to differences between the financial statement
carrying amounts of existing assets and liabilities and their respective tax
bases.
STOCK-BASED COMPENSATION -- The Company accounts for its employee stock
options using the intrinsic value-based method and makes pro forma disclosures
of net income and earnings per share using the fair value-based method (see Note
14).
STATEMENTS OF CASH FLOWS -- For purposes of reporting cash flows, cash
and cash equivalents include cash and due from banks as well as federal funds
sold that mature in three days or less.
RECLASSIFICATIONS -- Certain reclassifications have been made to 1998
and 1997 balances to conform to the current year presentation. All
reclassifications have been applied consistently for the periods presented.
EARNINGS PER SHARE -- SFAS No. 128, "Earnings Per Share," requires
presentation of basic and diluted earnings per share. Basic earnings per share
has been computed by dividing net income available to common shareholders by the
weighted average number of common shares outstanding for the reporting period.
Diluted earnings per share reflects the potential dilution that could occur if
securities or other contracts to issue common stock were exercised or converted
into common stock. Net income per common share for all periods presented has
been calculated in accordance with SFAS 128. Outstanding stock options issued by
the Company represent the only dilutive effect reflected in diluted weighted
average shares.
The following table illustrates the computation of basic and diluted
earnings per share after effect of stock split (see Note 17):
December 31,
------------------------------------------------------------
1999 1998 1997
---------------- ---------------- ----------------
Per Per Per
Share Share Share
Amount Amount Amount Amount Amount Amount
------ ------ ------ ------ ------ ------
(Dollars in thousands, except per share data)
Net income ............................. $6,474 $4,460 $3,562
Basic --
Weighted average shares
outstanding ....................... 5,186 $ 1.25 4,116 $ 1.08 3,778 $ 0.94
====== ====== ======
Diluted:
Weighted average shares
outstanding ....................... 5,186 4,116 3,778
Effect of dilutive securities --
options ........................... 206 193 86
------ ------ ------
Total ............................... 5,392 $ 1.20 4,309 $ 1.04 3,864 $ 0.92
====== ====== ====== ====== ====== ======
RECENTLY ISSUED ACCOUNTING STANDARDS -- Statement of Financial
Accounting Standards ("SFAS") No. 130, "Reporting Comprehensive Income" requires
that all components of comprehensive income and total comprehensive income be
reported on one of the following: (1) the statement of income, (2) the statement
of shareholders' equity, or (3) a separate statement of comprehensive income.
Comprehensive income is comprised of net income and all changes to shareholders'
equity, except those due to investments by owners (changes in paid-in capital)
and distributions to owners (dividends). The Company adopted this statement
effective January 1, 1998 and has elected to report comprehensive income in the
consolidated statements of shareholders' equity.
F-10
49
PROSPERITY BANCSHARES, INC. AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (Continued)
Other comprehensive income consists of unrealized gains and losses on
available for sale securities. For the year ended December 31, 1999 and 1998,
the change in net unrealized loss on available for sale securities is reported
in the consolidated statement of shareholders' equity.
SFAS No. 131, "Disclosures about Segments of an Enterprise and Related
Information" establishes new standards for public companies to report
information about their operating segments, products and services, geographic
areas and major customers. The statement is effective for financial statements
issued for periods beginning after December 15, 1997. The Company has adopted
SFAS No. 131 effective January 1, 1998. Adoption had no material effect on the
consolidated financial statements.
SFAS No. 133, "Accounting for Derivative Instruments and Hedging
Activities" establishes accounting and reporting standards for derivative
instruments and requires that an entity recognize all derivatives as either
assets or liabilities in the balance sheet and measure those instruments at fair
value. This statement is effective for periods beginning after June 15, 2000.
Management believes the implementation of this pronouncement will not have a
material effect on the Company's financial statements.
2. ACQUISITIONS
Effective October 1, 1999, the Company acquired all of the outstanding
shares of South Texas Bancshares. In connection with the acquisition, The
Commercial National Bank of Beeville, a wholly-owned subsidiary of South Texas
Bancshares, was merged into the Bank. The Company purchased $33.7 million in
loans, $126.5 million in deposits, and $2.7 in real property and fixed assets in
connection with this acquisition.
In connection with the purchase, the Company paid a cash premium of
approximately $10.3 million. This premium was recorded as goodwill and will be
amortized on a straight-line basis over 25 years. The acquisition was partially
financed with proceeds from the 1997 common stock issuance (see Note 17).
The acquisition was accounted for using the purchase method of accounting.
Accordingly, the assets and liabilities of the acquired bank were recorded at
their fair values at the acquisition date.
The following summarized proforma information assumes the South Texas
Bancshares acquisition had occurred on January 1, 1998:
Year Ended December 31,
-----------------------------------
1999 1998
-------- --------
(Dollars in thousands, except per share data)
Net interest income ............... $ 22,022 $ 18,317
Net earnings ...................... 7,418 6,012
Earnings per share (diluted) ...... 1.38 1.40
Effective October 1, 1998, the Company purchased $21.5 million in loans,
$66.1 million in deposits, and $292,000 in real property and fixed assets from
Union State Bank in East Bernard, Texas.
In connection with the purchase, the Company paid a cash premium of
approximately $4.3 million. This premium was recorded as goodwill and will be
amortized on a straight-line basis over 25 years. The acquisition was partially
financed with proceeds from the 1997 common stock issuance (see Note 17).
The acquisition was accounted for using the purchase method of accounting.
Accordingly, the assets and liabilities of the acquired bank were recorded at
their fair values at the acquisition date.
On February 27, 1998, the Company purchased for cash certain assets and
liabilities and all deposits and related accrued interest payable of Community
State Bank in West Columbia. The Company acquired $103,000 in loans, and $5.9
million in deposits. The Company paid a cash premium of $250,000 which is being
amortized over fifteen years using the straight-line method. The acquisition was
accounted for using the purchase method of accounting.
F-11
50
PROSPERITY BANCSHARES, INC. AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (Continued)
During March 1997, the Company entered into a purchase and assumption
agreement with another bank to purchase certain assets and to assume certain
deposit accounts and related accrued interest payable of a branch located in
Angleton, Texas. Effective June 20, 1997, the Company purchased approximately
$723,000 in real property and fixed assets and assumed deposits, including
unpaid accrued interest, totaling approximately $29,370,000.
In connection with the purchase, the Company paid a cash premium of
approximately $1,990,000. This premium was recorded as goodwill and is being
amortized on a straight-line basis over 15 years. The acquisition was partially
financed with proceeds from the 1997 common stock issuance (see Note 17).
The acquisition was accounted for using the purchase method of accounting.
Accordingly, the assets and liabilities of the acquired branch were recorded at
their fair values at the acquisition date.
3. CASH AND DUE FROM BANKS
The Bank is required by the Federal Reserve Bank to maintain average
reserve balances. "Cash and due from banks" in the consolidated balance sheets
includes amounts so restricted of approximately $5,487,000 and $5,399,000 at
December 31, 1999 and 1998.
4. SECURITIES
The amortized cost and fair value of debt securities are as follows:
December 31, 1999
-------------------------------------------------------------
Gross Gross
Amortized Unrealized Unrealized Fair Carrying
Cost Gains Losses Value Value
--------- ---------- ---------- -------- --------
(Dollars in thousands)
AVAILABLE FOR SALE
U.S. Treasury securities and
obligations of U.S. government
agencies ............................ $151,399 $ 61 $ 3,165 $148,295 $148,295
70% non-taxable preferred stock ........ 4,049 -- 49 4,000 4,000
States and political subdivisions ...... 12,235 64 2 12,297 12,297
Collateralized mortgage obligations .... 11,729 261 63 11,927 11,927
Mortgage-backed securities ............. 49,438 47 1,222 48,263 48,263
-------- -------- -------- -------- --------
Total .................................. $228,850 $ 433 $ 4,501 $224,782 $224,782
======== ======== ======== ======== ========
HELD TO MATURITY
U.S. Treasury securities and
obligations of U.S. government
agencies ............................ $ 31,039 $ 22 $ 253 $ 30,808 $ 31,039
States and political subdivisions ...... 17,086 52 155 16,983 17,086
Collateralized mortgage obligations .... 538 -- 2 536 538
Mortgage-backed securities ............. 39,226 22 391 38,857 39,226
-------- -------- -------- -------- --------
Total .................................. $ 87,889 $ 96 $ 801 $ 87,184 $ 87,889
======== ======== ======== ======== ========
F-12
51
PROSPERITY BANCSHARES, INC. AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (Continued)
December 31, 1998
-------------------------------------------------------------
Gross Gross
Amortized Unrealized Unrealized Fair Carrying
Cost Gains Losses Value Value
--------- ---------- ---------- -------- --------
(Dollars in thousands)
AVAILABLE FOR SALE
U.S. Treasury securities and
obligations of U.S. government
agencies ............................ $ 67,864 $ 285 $ 58 $ 68,091 $ 68,091
States and political subdivisions ...... 4,026 239 4,265 4,265
Collateralized mortgage obligations .... 10,832 166 26 10,972 10,972
Mortgage-backed securities ............. 30,578 98 176 30,500 30,500
-------- -------- -------- -------- --------
Total .................................. $113,300 $ 788 $ 260 $113,828 $113,828
======== ======== ======== ======== ========
HELD TO MATURITY
U.S. Treasury securities and
obligations of U.S. government
agencies ............................ $ 60,739 $ 572 $ 2 $ 61,309 $ 60,739
States and political subdivisions ...... 15,022 376 3 15,395 15,022
Collateralized mortgage
obligations ......................... 2,081 3 2,078 2,081
Mortgage-backed securities ............. 36,074 265 100 36,239 36,074
-------- -------- -------- -------- --------
Total .................................. $113,916 $ 1,213 $ 108 $115,021 $113,916
======== ======== ======== ======== ========
The amortized cost and fair value of debt securities at December 31,
1999, by contractual maturity, are shown below. Expected maturities will differ
from contractual maturities because borrowers may have the right to call or
prepay obligations with or without call or prepayment penalties.
December 31, 1999
------------------------------------------------------
Held to Maturity Available for Sale
------------------------ ------------------------
Amortized Fair Amortized Fair
Cost Value Cost Value
--------- -------- --------- --------
(Dollars in thousands)
Due in one year or less ................ $ 7,139 $ 7,142 $ 7,520 $ 7,510
Due after one year through five
years ............................... 37,677 37,381 114,595 112,734
Due after five years through ten
years ............................... 3,308 3,268 32,958 31,771
Due after ten years .................... -- -- 12,612 12,576
-------- -------- -------- --------
Subtotal ............................... 48,124 47,791 167,685 164,591
Mortgage-backed securities and
collateralized mortgage
obligations ......................... 39,765 39,393 61,165 60,191
-------- -------- -------- --------
Total .................................. $ 87,889 $ 87,184 $228,850 $224,782
======== ======== ======== ========
There were no sales of held to maturity or available for sale
investments in debt securities during 1999, 1998 and 1997.
The Company does not own securities of any one issuer (other than the
U.S. government and its agencies) for which aggregate adjusted cost exceeds 10%
of the consolidated shareholders' equity at December 31, 1999 and December 31,
1998. Securities with amortized costs of approximately $89,803,569 and
$68,245,999 and a fair value of approximately $88,204,172 and $68,698,655 at
December 31, 1999 and 1998, respectively, were pledged to secure public deposits
and for other purposes required or permitted by law.
F-13
52
PROSPERITY BANCSHARES, INC. AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (Continued)
5. LOANS
The loan portfolio consists of various types of loans made principally
to borrowers located in Southeast Texas and is classified by major type as
follows (rounded):
December 31,
-------------------------------------
1999 1998
----------- -----------
(Dollars in thousands)
Commercial and industrial............................ $ 28,279 $ 16,972
Real estate:
Construction and land
development.................................. 4,015 1,727
I-4 family residential............................ 97,359 80,062
Home equity....................................... 11,343 8,077
Commercial mortgages.............................. 38,752 22,240
Farmland.......................................... 7,404 6,148
Multi-family residential.......................... 1,837 1,090
Agriculture.......................................... 12,735 14,107
Consumer............................................. 22,020 20,711
----------- -----------
Total................................................ 223,744 171,134
Less unearned discount............................... 239 656
----------- -----------
Total................................................ $ 223,505 $ 170,478
=========== ===========
The contractual maturity ranges of the commercial and industrial and
construction and land development portfolios and the amount of such loans with
predetermined interest rates and floating rates in each maturity range are
summarized in the following table:
December 31, 1999
-----------------------------------------------------
After One
One Year Through After Five
or Less Five Years Years Total
-------- ---------- ---------- --------
(Dollars in thousands)
Commercial and industrial .............. $ 16,397 $ 6,548 $ 5,334 $ 28,279
Construction and land development ...... 3,956 34 25 4,015
-------- -------- -------- --------
Total .................... $ 20,353 $ 6,582 $ 5,359 $ 32,294
======== ======== ======== ========
Loans with a predetermined interest
rate ................................ $ 8,218 $ 3,428 $ 2,245 $ 13,891
Loans with a floating interest
rate ................................ 12,135 3,154 3,114 18,403
-------- -------- -------- --------
Total .................................. $ 20,353 $ 6,582 $ 5,359 $ 32,294
======== ======== ======== ========
As discussed in Note 1, the Bank adopted SFAS No. 114 and 118 effective
January 1, 1995. Adoption of these statements had no impact on the Company's
financial statements including the level of the allowance for credit losses.
Instead, it resulted only in a reallocation of the existing allowance for credit
losses.
As of December 31, 1999 and 1998, loans outstanding to directors,
officers and their affiliates were approximately $5,248,000 and $2,283,000,
respectively. In the opinion of management, all transactions entered into
between the Company and such related parties have been, and are, in the ordinary
course of business, made on the same terms and conditions as similar
transactions with unaffiliated persons.
F-14
53
PROSPERITY BANCSHARES, INC. AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (Continued)
An analysis of activity with respect to these related-party loans is as
follows:
Year Ended December 31,
-----------------------------------
1999 1998
--------- ---------
(Dollars in thousands)
Beginning balance.................................. $ 2,283 $ 2,469
New loans and reclassified related loans........... 4,356 2,061
Repayments......................................... (1,391) (2,247)
--------- ---------
Ending balance..................................... $ 5,248 $ 2,283
========= =========
6. NONPERFORMING LOANS AND PAST DUE LOANS
The Company had no nonaccrual loans, no 90 days or more past due loans,
and no restructured loans at December 31, 1999, The Company had $5,000 in
nonaccrual loans and no 90 days or more past due or restructured loans at
December 31, 1998.
7. ALLOWANCE FOR CREDIT LOSSES
An analysis of activity in the allowance for credit losses is as
follows:
Year Ended December 31,
----------------------------------------
1999 1998 1997
-------- -------- --------
(Dollars in thousands)
Balance at beginning of year ......................... $ 1,850 $ 1,016 $ 923
Balance acquired with South Texas Bancshares
and Union Acquisitions, respectively ........ 566 661 --
Addition -- provision charged to
operations .................................. 280 239 190
Net (charge-offs) and recoveries:
Loans charged off ....................... (111) (81) (130)
Loan recoveries ......................... 168 15 33
-------- -------- --------
Total net recoveries (charge-offs) ................... 57 (66) (97)
-------- -------- --------
Balance at end of period ............................. $ 2,753 $ 1,850 $ 1,016
======== ======== ========
F-15
54
PROSPERITY BANCSHARES, INC. AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (Continued)
8. PREMISES AND EQUIPMENT
Premises and equipment are summarized as follows:
Year Ended
December 31,
-----------------------
1999 1998
-------- --------
(Dollars in thousands)
Land ................................... $ 1,282 $ 1,024
Buildings .............................. 8,874 5,706
Furniture, fixtures and equipment ...... 3,482 2,551
Construction in progress ............... 6 32
-------- --------
Total .................................. 13,644 9,313
Less accumulated depreciation .......... 3,893 3,208
-------- --------
Premises and equipment, net ............ $ 9,751 $ 6,105
======== ========
9. DEPOSITS
Included in interest-bearing deposits are certificates of deposit in
amounts of $100,000 or more. These certificates and their remaining maturities
at December 31, 1999 were as follows:
December 31,1999
----------------
(Dollars in thousands)
Three months or less...................................... $ 25,163
Greater than three through six months..................... 11,564
Greater than six through twelve months.................... 17,849
Thereafter................................................ 5,373
--------
Total..................................................... $ 59,949
========
Interest expense for certificates of deposit in excess of $100,000 was
approximately $2,153,000, $1,492,000, and $1,264,000, for the years ended
December 31, 1999, 1998 and 1997, respectively.
The Company has no brokered deposits and there are no major
concentrations of deposits.
10. NOTE PAYABLE AND OTHER BORROWINGS
NOTE PAYABLE -- During December 1997, Bancshares entered into an
agreement with a bank to borrow up to $8,000,000 under a reducing, revolving
line of credit (the "Line"). The purpose of the Line is to provide funding for
potential acquisitions in the future. The maximum amount available under the
Line is reduced by $1,142,857 each year beginning December 1998 with all amounts
due and payable on December 31, 2004. The Line bears interest, payable
quarterly, at the Federal Funds Rate plus 2.75%. The Line is collateralized by
100% of the issued and outstanding common shares of Holdings and the Bank. At
December 31, 1999 and 1998, Bancshares had no outstanding borrowings under the
Line. During 1997, Bancshares paid off the outstanding balance under a similar
agreement (the "Old Line") with a bank.
OTHER BORROWINGS - At December 31, 1999, Federal Home Loan Bank
("FHLB") advances totaled $5,700,000 with a floating interest rate of 5.30%. At
December 31, 1998, FHLB advances totaled $2,435,000 with a floating interest
rate of 5.55%. The advances under the FHLB line of credit are secured by a
blanket pledge of the Bank's one-to-four family mortgages.
F-16
55
PROSPERITY BANCSHARES, INC. AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (Continued)
FEDERAL FUNDS PURCHASED - At December 31, 1999, the Company had
$10,000,000 in federal funds purchased compared with no federal funds purchased
at December 31, 1998.
11. INTEREST RATE RISK
The Company is principally engaged in providing real estate, consumer
and commercial loans, with interest rates that are both fixed and variable.
These loans are primarily funded through short-term demand deposits and
longer-term certificates of deposit with variable and fixed rates. The fixed
real estate loans are more sensitive to interest rate risk because of their
fixed rates and longer maturities.
12. FINANCIAL INSTRUMENTS WITH OFF-BALANCE-SHEET RISK
In the normal course of business, the Company is a party to various
financial instruments with off-balance-sheet risk to meet the financing needs of
its customers and to reduce its own exposure to fluctuations in interest rates.
These financial instruments include commitments to extend credit and standby
letters of credit. These instruments involve, to varying degrees, elements of
credit and interest rate risk in excess of the amounts recognized in the
consolidated balance sheets. The contract or notional amounts of these
instruments reflect the extent of the Company's involvement in particular
classes of financial instruments.
The Company's exposure to credit loss in the event of nonperformance by
the other party to the financial instrument for commitments to extend credit and
standby letters of credit is represented by the contractual amount of these
instruments. The Company uses the same credit policies in making these
commitments and conditional obligations as it does for on-balance-sheet
instruments.
The following is a summary of the various financial instruments entered
into by the Company:
December 31,
--------------------------
1999 1998
--------- --------
(Dollars in thousands)
Financial instruments whose contract
amounts represent credit risk:
Commitments to extend credit.................. $ 27,007 $ 19,698
Standby letters of credit..................... 445 233
At December 31, 1999, approximately $10.3 million of commitments to
extend credit have fixed rates ranging from 4.75% to 15.00%. Commitments to
extend credit are agreements to lend to a customer as long as there is no
violation of any condition established in the contract. Commitments generally
have fixed expiration dates or other termination clauses and may require payment
of a fee. Since many of the commitments are expected to expire without being
fully drawn upon, the total commitment amounts disclosed above do not
necessarily represent future cash requirements.
Standby letters of credit are conditional commitments issued by the
Company to guarantee the performance of a customer to a third party. The credit
risk involved in issuing letters of credit is essentially the same as that
involved in extending loan facilities to customers.
The Company evaluates customer creditworthiness on a case-by-case
basis. The amount of collateral obtained, if considered necessary by the Company
upon extension of credit, is based on management's credit evaluation of the
customer.
F-17
56
PROSPERITY BANCSHARES, INC. AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (Continued)
13. INCOME TAXES
The components of the provision for federal income taxes are as
follows:
Year Ended December 31,
----------------------------------------
1999 1998 1997
-------- -------- --------
(Dollars in thousands)
Current .................................... $ 3,097 $ 2,106 $ 1,634
Deferred ................................... (89) (77) (48)
-------- -------- --------
Total ...................................... $ 3,008 $ 2,029 $ 1,586
======== ======== ========
The provision for federal income taxes differs from the amount computed
by applying the federal income tax statutory rate on income as follows:
Year Ended December 31,
----------------------------------------
1999 1998 1997
-------- -------- --------
(Dollars in thousands)
Taxes calculated at statutory rate ......... $ 3,224 $ 2,206 $ 1,750
Increase (decrease) resulting from:
Tax-exempt interest ................ (359) (275) (251)
Amortization of goodwill ........... 138 54 57
Other, net ......................... 5 44 30
-------- -------- --------
Total ...................................... $ 3,008 $ 2,029 $ 1,586
======== ======== ========
Deferred tax assets and liabilities are as follows:
December 31,
------------------------
1999 1998
-------- --------
(Dollars in thousands)
Deferred tax assets -
Allowance for credit losses .................... $ -- $ 284
Unrealized loss on available for
sale securities ................................ 1,383 --
Other .......................................... 4 4
-------- --------
Total deferred tax assets .............................. 1,387 288
-------- --------
Deferred tax liabilities:
Allowance for credit losses .................... $ (363) $ --
Accretion on investments ....................... (249) (206)
Bank premises and equipment .................... (1,145) (192)
Unrealized gain on available for sale
securities .................................. -- (179)
-------- --------
Total deferred tax liabilities ......................... (1,757) (577)
-------- --------
Net deferred tax liabilities ........................... $ (370) $ (289)
======== ========
14. STOCK INCENTIVE PROGRAM
During 1995 the Company's Board of Directors approved a stock option
plan (the "Plan") for executive officers and key associates to purchase common
stock of Bancshares. On May 31, 1995, the Company granted 260,000 options, after
stock split, (see
F-18
57
PROSPERITY BANCSHARES, INC. AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (Continued)
Note 17) which vest over a ten-year period beginning on the date of grant. The
options were granted at an average exercise price of $4.40 (after stock split).
Compensation expense was not recognized for the stock options because the
options had an exercise price approximating the fair value of Bancshares' common
stock at the date of grant. The maximum number of options available for grant
under the Plan is 340,000 (after stock split).
Year Ended December 31,
--------------------------------------------------------------------------
1999 1998 1997
---------------------- --------------------- ---------------------
Weighted- Weighted- Weighted-
Number Average Number Average Number Average
of Exercise of Exercise of Exercise
Options Price Options Price Options Price
-------- --------- -------- --------- -------- ---------
Options outstanding, beginning of period ... 320,000 $ 4.71 260,000 $ 4.40 260,000 $ 4.40
Options granted ............................ 12,000 12.75 60,000 6.25 -- --
Options exercised .......................... (22,500) 4.40 -- -- -- --
-------- -------- -------- -------- -------- --------
Options outstanding, end of period ......... 309,500 $ 4.96 320,000 $ 4.71 260,000 $ 4.40
======== ======== ======== ======== ======== ========
At December 31, 1999, there were 22,900 options exercisable under the
Plan. During 1999, 22,500 options were exercised.
On May 4, 1999, the Company granted 12,000 options under the Plan. The
options were granted at an exercise price of $12.75. Compensation expense was
not recorded for the stock options because the exercise price approximated the
fair value of common stock at the date of grant.
On February 10, 1998, the Company granted 60,000 options under the
Plan. The options were granted at an exercise price of $6.25 (after stock
split). Compensation expense was not recorded for the stock options because the
exercise price approximated the fair value of common stock at the date of grant.
The weighted-average fair value of the stock options on the grant date
was $0.39, $0.81, and $2.85 in 1995, 1998 and 1999 respectively. The
weighted-average remaining contractual life of options outstanding as of
December 31, 1999 was 5.42, 8.17, and 9.42 years for 1995, 1998, and 1999
respectively. The fair value of each stock options was estimated using an
option-pricing model with the following assumptions: (1) 1995 options-risk-free
interest rate of 6.49%; dividend yield of 4.54%; and an expected life of 6.5
years (2) 1998 options-risk-free interest rate of 5.87%; dividend yield of
3.20%; and an expected life of 6.5 years (3) 1999 options- risk-free interest
rate of 5.765%; dividend yield of 1.57%; and an expected life of 4.5 years.
If compensation expense had been recorded based on the fair value at
the grant date for awards consistent with SFAS No. 123, the Company's net income
would have been $6,461,344, $4,449,936, and $ 3,555,480 for the years ended
December 31, 1999, 1998 and 1997, respectively. Diluted earnings per share would
have been $1.20, $1.03 and $0.92 for the years ended December 31, 1999, 1998 and
1997, respectively.
15. PROFIT SHARING PLAN
The Company has adopted a profit sharing plan pursuant to Section
401(k) of the Internal Revenue Code whereby participants may contribute up to
15% of their compensation. Matching contributions are made at the discretion of
the Company. Such matching contributions were approximately $184,000, $112,000,
and $87,000, for the years ended December 31, 1999, 1998 and 1997, respectively.
F-19
58
PROSPERITY BANCSHARES, INC. AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (Continued)
16. COMMITMENTS
Leases -- A summary of noncancelable future operating lease commitments as of
December 31, 1999 follows:
2000............................................ $ 222,492
2001............................................ 222,492
2002............................................ 223,398
2003............................................ 224,304
2004............................................ 224,304
------------
Total........................................... $ 1,116,990
============
It is expected that in the normal course of business, expiring leases
will be renewed or replaced by leases on other property or equipment.
Rent expense under all noncancelable operating lease obligations
aggregated approximately $226,000 for the year ended 1999, $193,000 for the year
ended December 31, 1998 and $191,000 for the year ended December 31, 1997.
Litigation - The Company has been named as a defendant in various legal
actions arising in the normal course of business. In the opinion of management,
after reviewing such claims with outside counsel, resolution of such matters
will not have a materially adverse impact on the consolidated financial
statements.
17. SHAREHOLDERS' EQUITY
During 1998, the Company had an Initial Public Offering selling
1,182,517 shares. Net proceeds of $12,840,890 were used to fund general
corporate purposes, including support of balance sheet growth, future
acquisitions and to repay certain indebtedness incurred in the acquisition of
Union State Bank.
On September 10, 1998, the Company effected a four for one common stock
split in the form of a common stock dividend (the "Stock Split"). All share and
per share information for common stock has been restated to reflect the Stock
Split. In September 1998, the Company increased the number of authorized shares
of common stock from 1,000,000 to 50,000,000 and authorized 20,000,000 shares of
preferred stock with a par value of $1.
During 1997, the Company sold 480,000 shares of common stock at $6.25
per share, after stock split, which approximated the book value of the Company
at the time of the sale. Proceeds to the Company totaling $3,000,000 were used
to fund the acquisition of a branch (Note 2) and to repay borrowings under a
line of credit arrangement with a bank (Note 10).
Dividends paid by Bancshares and the Bank are subject to restrictions
by certain regulatory agencies. There was an aggregate of approximately $11.8
million and $11.9 million available for payment of dividends by Bancshares and
by the Bank to Bancshares, respectively, at December 31, 1999 under these
restrictions. Dividends paid by Bancshares during the years ended December 31,
1999 and 1998 were $1.0 million and $1.1 million, respectively. There were no
dividends paid by the Bank to Bancshares during the year ended 1999. Dividends
paid by the Bank to Bancshares during the year ended December 31, 1998 was
$995,000.
18. REGULATORY MATTERS
The Company and the Bank are subject to various regulatory capital
requirements administered by the federal banking agencies. Any institution that
fails to meet its minimum capital requirements is subject to actions by
regulators that could have a direct material effect on the Company's and the
Bank's financial statements. Under the capital adequacy guidelines and the
regulatory framework for prompt corrective action, the Bank must meet specific
capital guidelines based on the Bank's assets, liabilities and certain off-
balance-sheet items as calculated under regulatory accounting practices. The
Company's and the Bank's capital amounts and the Bank's classification under the
regulatory framework for prompt corrective action are also subject to
qualitative judgements by the regulators about the components, risk weightings
and other factors.
To meet the capital adequacy requirements, the Company and the Bank
must maintain minimum capital amounts and ratios
F-20
59
PROSPERITY BANCSHARES, INC. AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (Continued)
as defined in the regulations. Management believes, as of December 31, 1999 and
1998, that the Company and the Bank met all capital adequacy requirements to
which they are subject.
At December 31, 1999, the most recent notification from the FDIC
categorized the Bank as well capitalized under the regulatory framework for
prompt corrective action. To be categorized as well capitalized the Bank must
maintain minimum total risk-based, Tier I risk-based and Tier I leverage ratios
as set forth in the table. There have been no conditions or events since that
notification which management believes have changed the Bank's category.
The following is a summary of the Company's and the Bank's capital
ratios at December 31, 1999 and 1998 (in thousands):
To Be Well
Capitalized Under
For Capital Prompt Corrective
Actual Adequacy Purposes Action Provisions
-------------------- -------------------- ------------------
Amount Ratio Amount Ratio Amount Ratio
------ ----- ------ ----- ------ -----
CONSOLIDATED:0
AS OF DECEMBER 31, 1999:
Total Capital
(to Risk Weighted Assets) ........... $ 41,473 16.71% $ 19,855 8.0% N/A N/A
Tier I Capital
(to Risk Weighted Assets) ........... $ 35,627 14.35% $ 9,927 4.0% N/A N/A
Tier I Capital
(to Average Assets) ................. $ 35,627 6.28% $ 17,011 3.0% N/A N/A
AS OF DECEMBER 31, 1998:
Total Capital
(to Risk Weighted Assets) ........... $ 33,248 19.08% $ 13,937 8.0% N/A N/A
Tier I Capital
(to Risk Weighted Assets) ........... $ 31,398 18.02% $ 6,969 4.0% N/A N/A
Tier I Capital
(to Average Assets) ................. $ 31,398 7.58% $ 12,422 3.0% N/A N/A
To Be Well
Capitalized Under
For Capital Prompt Corrective
Actual Adequacy Purposes Action Provisions
-------------------- -------------------- ------------------
Amount Ratio Amount Ratio Amount Ratio
------ ----- ------ ----- ------ -----
BANK ONLY:
AS OF DECEMBER 31, 1999:
Total Capital
(to Risk Weighted Assets) ........... $ 38,391 15.48% $ 19,836 8.0% $ 24,796 10.0%
Tier I Capital
(to Risk Weighted Assets) ........... $ 35,637 14.37% $ 9,918 4.0% $ 14,877 6.0%
Tier I Capital
(to Average Assets) ................. $ 35,637 6.29% $ 17,004 3.0% $ 28,341 5.0%
AS OF DECEMBER 31, 1998:
Total Capital
(to Risk Weighted Assets) ........... $ 22,516 12.93% $ 13,934 8.0% $ 17,417 10.0%
Tier I Capital
(to Risk Weighted Assets) ........... $ 20,666 11.87% $ 6,967 4.0% $ 10,450 6.0%
Tier I Capital
(to Average Assets) ................. $ 20,666 4.99% $ 12,419 3.0% $ 20,698 5.0%
19. DISCLOSURES ABOUT FAIR VALUE OF FINANCIAL INSTRUMENTS
Disclosures of the estimated fair value amounts of financial
instruments have been determined by the Company using available market
information and appropriate valuation methodologies. However, considerable
judgment is necessarily required in
F-21
60
PROSPERITY BANCSHARES, INC. AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (Continued)
interpreting market data to develop the estimates of fair value. Accordingly,
the estimates presented herein are not necessarily indicative of the amounts the
Company could realize in a current market exchange. The use of different market
assumptions and/or estimation methodologies could have a material effect on the
estimated fair value amounts.
The following methods and assumptions were used to estimate the fair
value of each class of financial instruments for which it is practicable to
estimate that value:
CASH AND CASH EQUIVALENTS -- For these short-term instruments, the
carrying amount is a reasonable estimate of fair value.
SECURITIES -- For securities held as investments, fair value equals
quoted market price, if available. If a quoted market price is not available,
fair value is estimated using quoted market prices for similar securities.
LOAN RECEIVABLES -- For certain homogeneous categories of loans (such
as some residential mortgages and other consumer loans), fair value is estimated
by discounting the future cash flows using the risk-free Treasury rate for the
applicable maturity, adjusted for servicing and credit risk. The carrying value
of variable rate loans approximates fair value because the loans reprice
frequently to current market rates.
DEPOSIT LIABILITIES -- The fair value of demand deposits, savings
accounts and certain money market deposits is the amount payable on demand at
the reporting date. The fair value of fixed-maturity certificates of deposit is
estimated using the rates currently offered for deposits of similar remaining
maturities.
LONG-TERM DEBT AND OTHER BORROWINGS -- Rates currently available to the
Company for debt with similar terms and remaining maturities are used to
estimate the fair value of existing debt.
OFF-BALANCE SHEET FINANCIAL INSTRUMENTS -- The fair value of
commitments to extend credit and standby letters of credit is estimated using
the fees currently charged to enter into similar agreements, taking into account
the remaining terms of the agreement and the present creditworthiness of the
counterparties.
The estimated fair values of the Company's interest-earning financial
instruments are as follows (in thousands):
December 31,
-----------------------------------------------------------
1999 1998
-------------------------- --------------------------
Carrying Fair Carrying Fair
Amount Value Amount Value
----------- ----------- ----------- -----------
Financial assets:
Cash and due from banks...................... $ 20,658 $ 20,658 $ 18,243 $ 18,243
Federal funds sold and other temporary
investments................................ 16,100 16,100 -- --
Interest-bearing deposits in
financial institutions..................... -- -- 99 99
Held to maturity securities.................. 87,889 87,184 113,916 115,021
Available for sale securities................ 224,782 224,782 113,828 113,828
Loans........................................ 223,505 236,306 170,478 186,874
Less allowance for credit losses............. (2,753) (2,753) (1,850) (1,850)
----------- ----------- ----------- -----------
Total................................................ $ 570,181 $ 582,277 $ 414,714 $ 432,215
=========== =========== =========== ===========
Financial liabilities:
Deposits..................................... $ 534,756 $ 535,106 $ 390,659 $ 391,590
Federal funds purchased and other
borrowings.................................. 15,700 15,700 2,437 2,437
----------- ----------- ----------- -----------
Total................................................ $ 550,456 $ 550,806 $ 393,096 $ 394,027
=========== =========== =========== ===========
The differences in fair value and carrying value of commitments to
extend credit and standby letters of credit were not material at December 31,
1999 and 1998.
F-22
61
PROSPERITY BANCSHARES, INC. AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (Continued)
The fair value estimates presented herein are based on pertinent
information available to management as of the dates indicated. Although
management is not aware of any factors that would significantly affect the
estimated fair value amounts, such amounts have not been comprehensively
revalued for purposes of these financial statements since those dates and,
therefore, current estimates of fair value may differ significantly from the
amounts presented herein.
20. TRUST PREFERRED SECURITIES
In November 1999, the Company formed Prosperity Capital Trust I, a
trust formed under the laws of the State of Delaware (the "Trust"). The Trust
issued $12.0 million of 9.60% Trust Preferred Securities and invested the
proceeds thereof in the 9.60% Junior Subordinated Deferrable Interest Debentures
(the "Junior Subordinated Debentures") issued by the Company. The Junior
Subordinated Debentures will mature on November 17, 2029, which date may be
shortened to a date not earlier than November 17, 2004, if certain conditions
are met (including the Company having received prior approval of the Federal
Reserve and any other required regulatory approvals). The Trust Preferred
Securities will be subject to mandatory redemption if the Junior Subordinated
Debentures are repaid by the Company. The Junior Subordinated Debentures may be
prepaid if certain events occur, including a change in the tax status or
regulatory capital treatment of the Trust Preferred Securities. In each case,
redemption will be made at par, plus the accrued and unpaid distributions
thereon through the redemption date.
21. PARENT COMPANY ONLY FINANCIAL STATEMENTS
PROSPERITY BANCSHARES, INC.
(PARENT COMPANY ONLY)
BALANCE SHEETS
December 31,
---------------------------------
1999 1998
--------- ---------
(Dollars in thousands)
ASSETS
Cash................................................. $ 2,993 $ 10,688
Investment in subsidiaries........................... 47,268 25,323
Investment in Prosperity Capital Trust I............. 380 --
Goodwill, net........................................ 4,914 5,380
Other assets......................................... 233 49
--------- ---------
TOTAL................................................ $ 55,788 $ 41,440
========= =========
LIABILITIES AND SHAREHOLDERS' EQUITY
LIABILITIES:
Accrued interest payable and other liabilities.. $ 142 $ 5
Junior subordinated debentures.................. 12,380 --
--------- ---------
Total liabilities......................... 12,522 5
--------- ---------
SHAREHOLDERS' EQUITY:
Common stock.................................... 5,199 5,176
Capital surplus................................. 15,880 16,477
Retained earnings............................... 24,889 19,452
Unrealized losses on available
for sale securities, net of tax............... (2,684) 348
Less treasury stock, at cost (3,576 shares at
December 31, 1999 and 1998, respectively)..... (18) (18)
--------- ---------
Total shareholders' equity............... 43,266 41,435
--------- ---------
TOTAL................................................ $ 55,788 $ 41,440
========= =========
F-23
62
PROSPERITY BANCSHARES, INC. AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (Continued)
PROSPERITY BANCSHARES, INC.
(PARENT COMPANY ONLY)
STATEMENTS OF INCOME
For the Years Ended December 31,
----------------------------------------------------
1999 1998 1997
---------- ----------- -----------
(Dollars in thousands)
OPERATING INCOME:
Dividends from subsidiaries.......... $ -- $ 995 $ 2,922
OPERATING EXPENSE:
Interest expense..................... -- 24 120
Amortization of goodwill............. 466 463 392
Minority expense trust preferred
securities......................... 142 -- --
Other expenses....................... 72 69 66
---------- ----------- -----------
Total operating expense........ 680 556 578
---------- ----------- -----------
INCOME BEFORE INCOME TAX BENEFIT AND
EQUITY IN UNDISTRIBUTED EARNINGS OF
SUBSIDIARIES............................ (680) 439 2,344
FEDERAL INCOME TAX BENEFIT................. 178 136 137
---------- ----------- -----------
INCOME BEFORE EQUITY IN UNDISTRIBUTED
EARNINGS OF SUBSIDIARIES................ (502) 575 2,481
EQUITY IN UNDISTRIBUTED EARNINGS OF
SUBSIDIARIES........................... 6,976 3,885 1,081
---------- ----------- -----------
NET INCOME................................. $ 6,474 $ 4,460 $ 3,562
========== =========== ==========
F-24
63
PROSPERITY BANCSHARES, INC. AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (Continued)
PROSPERITY BANCSHARES, INC.
(PARENT COMPANY ONLY)
STATEMENTS OF CASH FLOWS
For the Years Ended December 31,
------------------------------------
1999 1998 1997
-------- -------- --------
(Dollars in thousands)
CASH FLOWS FROM OPERATING ACTIVITIES:
Net income ............................................ $ 6,474 $ 4,460 $ 3,562
Adjustments to reconcile net income
to net cash provided by operating activities:
Equity in undistributed earnings
of subsidiaries ................................... (6,976) (3,885) (1,081)
Amortization of goodwill ............................ 466 463 392
(Increase) in other assets .......................... (183) (38) (6)
Accrued interest payable ............................ 142 -- --
(Decrease) increase in other liabilities ............ (6) -- 4
-------- -------- --------
Total adjustments ............................... (6,557) (3,460) (691)
-------- -------- --------
Net cash flows (used in) provided
by operating activities .................... (83) 1,000 2,871
-------- -------- --------
CASH FLOWS FROM INVESTING ACTIVITIES:
Premiums paid for branch acquisitions ................. -- (250) (1,990)
Capital contribution to subsidiary ................... (380) (2,000) --
-------- -------- --------
Net cash flows used in
investing activities ....................... (380) (2,250) (1,990)
-------- -------- --------
CASH FLOWS FROM FINANCING ACTIVITIES:
Repayment of line of credit ........................... -- (2,000) (3,267)
Proceeds from line of credit .......................... -- 2,000 --
Issuance of common stock .............................. 99 12,842 3,000
Initial public offering costs ......................... (113)
Trust preferred securities issuance cost .............. (560)
Payments of cash dividends ............................ (1,037) (1,057) (574)
Transfer to Bank ...................................... (18,000)
Proceeds from issuance of junior
subordinated debentures ........................... 12,380 -- --
Sale of treasury stock ................................ -- -- 1
-------- -------- --------
Net cash flows (used in) provided
by financing activities .................... (7,612) 11,785 (840)
-------- -------- --------
NET (DECREASE) INCREASE IN CASH
AND CASH EQUIVALENTS .................................. (7,695) 10,535 41
CASH AND CASH EQUIVALENTS, BEGINNING
OF PERIOD ............................................. 10,688 153 112
-------- -------- --------
CASH AND CASH EQUIVALENTS, END OF
PERIOD ................................................ $ 2,993 $ 10,688 $ 153
======== ======== ========
F-25
64
EXHIBIT INDEX
EXHIBIT
NUMBER DESCRIPTION
------- -----------
2.1 - Agreement and Plan of Reorganization by and between the
Company and South Texas Bancshares, Inc. dated June 17,
1999 (incorporated herein by reference to Exhibit 2.1
to the Company's Form 10-Q for the quarter ended June
30, 1999).
2.2 - Agreement and Plan of Reorganization dated June 5, 1998
by and among the Company, First Prosperity Bank and
Union State Bank (incorporated herein by reference to
Exhibit 10.4 to the Company's Registration Statement on
Form S-1 (Registration No. 333-63267) (the
"Registration Statement")).
3.1 - Amended and Restated Articles of Incorporation of the
Company (incorporated herein by reference to Exhibit
3.1 to the Registration Statement.
3.2 - Amended and Restated Bylaws of the Company
(incorporated herein by reference to Exhibit 3.2 to the
Registration Statement).
4.1 - Specimen form of certificate evidencing the Common
Stock (incorporated herein by reference to Exhibit 4 to
the Registration Statement).
4.2 - Form of Indenture by and between the Company and First
Union Trust Company, N.A. (incorporated herein by
reference to Exhibit 4.1 of the Company's Registration
Statement on Form S-1 (Registration No. 333-89481)).
4.3 - Form of Subordinated Debenture (included as an exhibit
to Exhibit 4.2).
4.4 - Form of Trust Preferred Securities Guarantee Agreement
by and between the Company and First Union Trust
Company, N.A. (incorporated herein by reference to
Exhibit 4.7 of the Company's Registration Statement of
Form S-1 (Registration No. 333-89481)).
10.1 - Prosperity Bancshares, Inc. 1995 Stock Option Plan
(incorporated herein by reference to Exhibit 10.1 to
the Registration Statement).
10.2 - Prosperity Bancshares, Inc. 1998 Stock Incentive Plan
(incorporated herein by reference to Exhibit 10.2 to
the Registration Statement).
10.3 - Employment Agreements (incorporated herein by reference
to Exhibit 10.3 to the Registration Statement).
10.5 - Loan Agreement dated December 27, 1997 between the
Company and Norwest Bank Minnesota, National
Association (incorporated herein by reference to
Exhibit 10.5 to the Registration Statement).
21* - Subsidiaries of Prosperity Bancshares, Inc.
23.1* - Consent of Deloitte & Touche LLP.
27* - Financial Data Schedule.