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SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
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, 2000
OR
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d)
OF THE SECURITIES EXCHANGE ACT OF 1934
COMMISSION FILE NO. 0-30535
GRAYSON BANKSHARES, INC.
(Exact name of registrant as specified in its charter)
Virginia 54-1647596
(State or other jurisdiction of (IRS Employer
incorporation or organization) Identification No.)
113 West Main Street
Independence, Virginia 24348
(Address of principal executive offices) (Zip Code)
(540) 773-2811
(Registrant's telephone number, including area code)
Securities registered pursuant to Section 12(b) of the Act:
Title of Securities Name of Exchange on Which Registered
------------------- ------------------------------------
None n/a
Securities registered pursuant to Section 12(g) of the Act:
Common Stock, par value $1.25 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 ___
The aggregate market value of voting stock held by non-affiliates of
the registrant on March 30, 2001 was approximately $53,309,920. Executive
officers and directors of the registrant are considered affiliates for purposes
of this calculation but should not necessarily be deemed affiliates for any
other purpose.
The number of shares of Common Stock outstanding on March 30, 2001 was
1,718,968.
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 this Form 10-K. [ ]
DOCUMENTS INCORPORATED BY REFERENCE
Portions of the definitive proxy statement for the 2001 Annual Meeting
of Shareholders are incorporated by reference into Part III hereof.
2
TABLE OF CONTENTS
PART I
------
Page
ITEM 1. BUSINESS............................................................ 4
ITEM 2. PROPERTIES..........................................................11
ITEM 3. LEGAL PROCEEDINGS...................................................11
ITEM 4. SUBMISSION OF MATTERS TO A VOTE
OF SECURITY HOLDERS..............................................11
PART II
-------
ITEM 5. MARKET FOR REGISTRANT'S COMMON EQUITY AND
RELATED STOCKHOLDER MATTERS......................................12
ITEM 6. SELECTED FINANCIAL DATA.............................................13
ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL
CONDITION AND RESULTS OF OPERATIONS..............................14
ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES
ABOUT MARKET RISK................................................30
ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA.........................30
ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS
ON ACCOUNTING AND FINANCIAL DISCLOSURE...........................30
PART III
--------
ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT..................31
ITEM 11. EXECUTIVE COMPENSATION..............................................31
ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL
OWNERS AND MANAGEMENT............................................31
ITEM 13 CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS......................31
PART IV
-------
ITEM 14. EXHIBITS, FINANCIAL STATEMENT SCHEDULES AND
REPORTS ON FORM 8-K..............................................32
3
PART I
------
Item 1. Business
General
Grayson Bankshares, Inc. (the "Company") was incorporated as a Virginia
corporation on February 3, 1992 to acquire 100% of the stock of The Grayson
National Bank (the "Bank"). The Bank was acquired by the Company on July 1,
1992. The Bank was founded in 1900 and currently serves Grayson County and
surrounding areas through five banking offices located in the town of
Independence, the localities of Elk Creek and Troutdale and the City of Galax,
Virginia, and the Town of Sparta, North Carolina.
Grayson County is located in the rural southwestern part of Virginia.
Agriculture and light manufacturing, primarily furniture and textiles, are a big
part of the economy in this area. The Population Estimates Program of the U.S.
Census Bureau estimated the county's population at 16,399 on July 1, 1998 and
16,451 on July 1, 1999. The economy of the City of Galax relies heavily on the
manufacturing of furniture. Population estimates for the City of Galax were
6,651 and 6,484 for July 1, 1998 and 1999 respectively.
The Bank operates for the primary purpose of meeting the banking needs
of individuals and small to medium sized businesses in the Bank's service area,
while developing personal, hometown associations with these customers. The Bank
offers a wide range of banking services including checking and savings accounts;
commercial, installment, mortgage and personal loans; safe deposit boxes; and
other associated services. The Bank's primary sources of revenue are interest
income from its lending activities, and, to a lesser extent, from its investment
portfolio. The Bank also earns fees from lending and deposit activities. The
major expenses of the Bank are interest on deposit accounts and general and
administrative expenses, such as salaries, occupancy and related expenses.
Lending Activities
The Bank's lending services include real estate, commercial,
agricultural and consumer loans. The loan portfolio constituted 78.66% of the
earning assets of the Bank at December 31, 2000 and has historically produced
the highest interest rate spread above the cost of funds. The Bank's loan
personnel have the authority to extend credit under guidelines established and
approved by the Board of Directors. Any aggregate credit which exceeds the
authority of the loan officer is forwarded to the loan committee for approval.
The loan committee is composed of the Bank President and all loan officers. All
aggregate credits that exceed the loan committee's lending authority are
presented to the full Board of Directors for ultimate approval or denial. The
loan committee not only acts as an approval body to ensure consistent
application of the Bank's loan policy but also provides valuable insight through
communication and pooling of knowledge, judgment and experience of its members.
Loans Secured by Real Estate
Residential Real Estate Loans - The Bank's residential mortgage loan
portfolio consists of balloon loans with 1 and 3 year maturities, amortized for
20 years or less. As of December 31, 2000, residential real estate loans
amounted to $69.6 million or 51.6% of the total loan portfolio. Substantially
all of the Bank's residential mortgage loans are secured by properties located
in the Bank's service area.
Construction Loans - The majority of the Bank's construction loans are
made to individuals to construct a primary residence. Such loans have an initial
term of six months and may be renewed twice in
4
three-month intervals, not to exceed a total of twelve months. The rate is fixed
but may be repriced upon renewal. Construction loans have a loan-to-value ratio
of 80% or less of the appraised value upon completion. The Bank requires that
permanent financing, with the Bank or another lender, be in place prior to
closing any construction loan. Construction loans are generally considered to
involve a higher degree of credit risk than residential mortgage loans. The risk
of loss on a construction loan is dependent largely upon the accuracy of the
initial estimate of the property's value at completion. To mitigate this risk
the Bank conducts thorough internal reviews of all such appraisals and adheres
to policy guidelines for loan-to-value ratios and individual lending limits.
Commercial Real Estate Loans - Loans secured by commercial real estate
totaled $27.2 million or 20.2% of total loans as of December 31, 2000, and
consist principally of commercial loans where real estate constitutes a source
of collateral. These loans are secured primarily by owner-occupied properties
and may be fixed or variable rate loans. Commercial real estate loans generally
involve a greater degree of risk than single family residential mortgage loans
because repayment of such loans may be subject to a greater extent to adverse
conditions in the real estate market or the economy. To reduce this risk the
Bank makes commercial real estate loan decisions based on the same criteria that
other commercial credits are made. Primary consideration is given to the
strength of the business based on such factors as management ability and
experience, earnings history, cash flows and general economic conditions.
Other Real Estate Loans - Other real estate loans include loans secured
by farm land, second mortgage loans, and non-farm/non-residential real estate
loans. These loans may be fixed rate balloon loans with maturities of 1 or 3
years or variable rate loans if the maturity exceeds 3 years. Other real estate
loans comprised 5.1% of the total loan portfolio at December 31, 2000. Like
construction and commercial real estate loans, these loans tend to involve a
greater degree of risk than residential mortgage loans, however this added risk
is addressed through strict adherence to loan-to-value ratios and internal
reviews of all appraisals.
Consumer Loans
The consumer loan portfolio consists primarily of loans to individuals
for various consumer purposes, but includes some business purpose loans which
are payable on an installment basis. The Bank offers a wide variety of consumer
loans at fixed or variable rates for terms of generally five years or less. The
majority of these loans are secured by liens on automobiles or other personal
property of the borrower, however they may also be made on an unsecured basis.
At December 31, 2000, consumer loans totaled $18.3 million and comprised 13.6%
of the total loan portfolio.
Commercial and Agricultural Loans
The Bank's commercial and agricultural loans include loans to
individuals and small to medium sized businesses located primarily in Grayson
County and the City of Galax for working capital, equipment purchases, and
various other business purposes. Equipment or similar assets secure a majority
of the Bank's commercial and agricultural loans, but these loans may also be
made on an unsecured basis. These loans may be made on a secured or an unsecured
basis at variable or fixed rates of interest. Commercial lines of credit are
typically granted on a one-year basis. Other commercial loans with terms or
amortization schedules longer than one year will normally carry interest rates
which vary with the prime lending rate and other financial indexes and will
become payable in full in three to five years. Commercial and agricultural loans
totaled $12.4 million, or 9.2% of total loans at December 31, 2000.
Loan originations are derived from a number of sources, including;
direct solicitation by the Bank's loan officers, existing customers and
borrowers, advertising and walk-in customers.
5
Certain credit risks are inherent in making loans. These include
prepayment risks, risks resulting from uncertainties in the future value of
collateral, risks resulting from changes in economic and industry conditions,
and risks inherent in dealing with individual borrowers. In particular, longer
maturities increase the risk that economic conditions will change and adversely
affect our ability to collect. The Bank attempts to minimize loan losses through
various means. In particular, on larger credits, we generally rely on the cash
flow of a debtor as the primary source of repayment and secondarily on the value
of the underlying collateral. In addition, the Bank attempts to utilize shorter
loan terms in order to reduce the risk of a decline in the value of such
collateral.
Investments
The Bank invests a portion of its assets in U.S. Treasury and U.S.
Government corporation and agency obligations, state, county and municipal
obligations, and equity securities. The Bank's investments are managed in
relation to loan demand and deposit growth, and are generally used to provide
for the investment of excess funds at reduced yields and risks relative to
increases in loan demand or to offset fluctuations in deposits. The Bank does
not engage in any hedging activities. For additional information relating to
investments, see "Financial Information."
Deposit Activities
Deposits are the major source of funds for lending and other investment
activities. The Bank considers the majority of its regular savings, demand, NOW
and money market deposits and small denomination certificates of deposit, to be
core deposits. These accounts comprised approximately 83.3% of the Bank's total
deposits at December 31, 2000. Certificates of deposit in denominations of
$100,000 or more represented the remaining 16.7% of deposits at year-end.
Competition
The Company encounters strong competition both in making loans and in
attracting deposits. The deregulation of the banking industry and the widespread
enactment of state laws which permit multi-bank holding companies as well as an
increasing level of interstate banking have created a highly competitive
environment for commercial banking. In one or more aspects of its business, the
Company competes with other commercial banks, savings and loan associations,
credit unions, finance companies, mutual funds, insurance companies, brokerage
and investment banking companies, and other financial intermediaries. Many of
these competitors have substantially greater resources and lending limits and
may offer certain services that we do not currently provide. In addition, many
of the Company's competitors are not subject to the same extensive federal
regulations that govern bank holding companies and federally insured banks.
Recent federal and state legislation has heightened the competitive environment
in which financial institutions must conduct their business, and the potential
for competition among financial institutions of all types has increased
significantly.
To compete, the Company relies upon specialized services, responsive
handling of customer needs, and personal contacts by its officers, directors,
and staff. Large multi-branch banking competitors tend to compete primarily by
rate and the number and location of branches while smaller, independent
financial institutions tend to compete primarily by rate and personal service.
Currently, in Grayson County the Company competes with only one other
commercial bank, which operates two branch banking facilities. As of June 30,
2000, the Company held 82.29% of the deposits in Grayson County. In the City of
Galax the Company competes with five other commercial banks. Since opening in
May of 1996 we have captured a market share of 11.89% of deposits to become the
third largest holder of deposits in the market. First Union leads the market
with 35.10% of deposits.
6
Employees
At December 31, 2000, the Company had 60 full time equivalent
employees, none of which are represented by a union or covered by a collective
bargaining agreement. Management considers employee relations to be good.
Government Supervision and Regulation
General. As a bank holding company, the Company is subject to
regulation under the Bank Holding Company Act of 1956, as amended (the "BHCA"),
and the examination and reporting requirements of the Board of Governors of the
Federal Reserve System (the "Federal Reserve Board"). Under the BHCA, a bank
holding company may not directly or indirectly acquire ownership or control of
more than 5% of the voting shares or substantially all of the assets of any bank
or merge or consolidate with another bank holding company without the prior
approval of the Federal Reserve Board. The BHCA also generally limits the
activities of a bank holding company to that of banking, managing or controlling
banks, or any other activity which is determined to be so closely related to
banking or to managing or controlling banks that an exception is allowed for
those activities.
As a national bank, the Bank is subject to regulation, supervision and
examination at the federal level by the Office of the Comptroller of the
Currency (the "OCC"). It is also subject to regulation, supervision and
examination by the Federal Deposit Insurance Corporation (the "FDIC"). Federal
law also governs the activities in which the Bank engages, the investments that
it makes and the aggregate amount of loans that may be granted to one borrower.
Various consumer and compliance laws and regulations also affect the Bank's
operations.
The earnings of the Bank, and therefore the earnings of the Company,
are affected by general economic conditions, management policies, changes in
state and federal legislation and actions of various regulatory authorities,
including those referred to above. The following description summarizes the
significant state and federal laws to which the Company and the Bank are
subject. To the extent that statutory or regulatory provisions or proposals are
described, the description is qualified in its entirety by reference to the
particular statutory or regulatory provisions or proposals.
Payment of Dividends. The Company is a legal entity separate and
distinct from its banking and other subsidiaries. Virtually all of the Company's
revenues will result from dividends paid to the Company by the Bank. The Bank is
subject to laws and regulations that limit the amount of dividends that it can
pay. Under OCC regulations, a national bank may not declare a dividend in excess
of its undivided profits, which means that each Bank must recover any start-up
losses before it may pay a dividend to the Company. Additionally, a national
Bank may not declare a dividend if the total amount of all dividends, including
the proposed dividend, declared by the national bank in any calendar year
exceeds the total of the national bank's retained net income of that year to
date, combined with its retained net income of the two preceding years, unless
the dividend is approved by the OCC. A national bank may not declare or pay any
dividend if, after making the dividend, the national bank would be
"undercapitalized," as defined in regulations of the OCC.
In addition, both the Company and the Bank are subject to various
regulatory restrictions relating to the payment of dividends, including
requirements to maintain capital at or above regulatory minimums. Banking
regulators have indicated that banking organizations should generally pay
dividends only if the organization's net income available to common shareholders
over the past year has been sufficient to fully fund the dividends, and the
prospective rate of earnings retention appears consistent with the
organization's capital needs, asset quality and overall financial condition. The
Company does not expect
7
that any of these laws, regulations or policies will materially affect the
ability of the Bank to pay dividends. During the year ended December 31, 2000,
the Bank declared $636,018 in dividends payable to the Company.
Insurance of Accounts, Assessments and Regulation by the FDIC. The
deposits of the Bank are insured by the FDIC up to the limits set forth under
applicable law. The deposits of the Bank are subject to the deposit insurance
assessments of the Bank Insurance Fund ("BIF") of the FDIC.
The FDIC has implemented a risk-based deposit insurance assessment
system under which the assessment rate for an insured institution may vary
according to regulatory capital levels of the institution and other factors
(including supervisory evaluations). Depository institutions insured by the BIF
that are "well capitalized" are required to pay only the statutory minimum
assessment of $2,000 annually for deposit insurance, while all other banks are
required to pay premiums ranging from .03% to .27% of domestic deposits. These
rate schedules are subject to future adjustments by the FDIC. In addition, the
FDIC has authority to impose special assessments from time to time. However,
because the legislation enacted in 1996 requires that both Savings Association
Insurance Fund insured and BIF-insured deposits pay a pro rata portion of the
interest due on the obligations issued by the Financing Corporation, the FDIC is
assessing BIF-insured deposits an additional 1.30 basis points per $100 of
deposits to cover those obligations.
The FDIC is authorized to prohibit any BIF-insured institution from
engaging in any activity that the FDIC determines by regulation or order to pose
a serious threat to the respective insurance fund. Also, the FDIC may initiate
enforcement actions against banks, after first giving the institution's primary
regulatory authority an opportunity to take such action. The FDIC may terminate
the deposit insurance of any depository institution if it determines, after a
hearing, that the institution has engaged or is engaging in unsafe or unsound
practices, is in an unsafe or unsound condition to continue operations, or has
violated any applicable law, regulation, order or any condition imposed in
writing by the FDIC. It also may suspend deposit insurance temporarily during
the hearing process for the permanent termination of insurance, if the
institution has no tangible capital. If deposit insurance is terminated, the
deposits at the institution at the time of termination, less subsequent
withdrawals, shall continue to be insured for a period from six months to two
years, as determined by the FDIC. Management is not aware of any existing
circumstances that could result in termination of any Bank's deposit insurance.
Capital. The OCC has issued risk-based and leverage capital guidelines
applicable to banking organizations that it supervises. Under the risk-based
capital requirements, the Company and the Bank are each generally required to
maintain a minimum ratio of total capital to risk-weighted assets (including
certain off-balance sheet activities, such as standby letters of credit) of 8%.
At least half of the total capital must be composed of common equity, retained
earnings and qualifying perpetual preferred stock, less certain intangibles
("Tier 1 capital"). The remainder may consist of certain subordinated debt,
certain hybrid capital instruments and other qualifying preferred stock and a
limited amount of the loan loss allowance ("Tier 2 capital," which, together
with Tier 1 capital, composes "total capital").
In addition, each of the federal banking regulatory agencies has
established minimum leverage capital requirements for banking organizations.
Under these requirements, banking organizations must maintain a minimum ratio of
Tier 1 capital to adjusted average quarterly assets equal to 3% to 5%, subject
to federal bank regulatory evaluation of an organization's overall safety and
soundness.
The risk-based capital standards of the OCC explicitly identify
concentrations of credit risk and the risk arising from non-traditional
activities, as well as an institution's ability to manage these risks, as
important factors to be taken into account by the agency in assessing an
institution's overall capital adequacy. The capital guidelines also provide that
an institution's exposure to a decline in the economic
8
value of its capital due to changes in interest rates be considered by the
agency as a factor in evaluating a banking organization's capital adequacy.
Other Safety and Soundness Regulations. There are a number of
obligations and restrictions imposed on bank holding companies and their
depository institution subsidiaries by federal law and regulatory policy that
are designed to reduce potential loss exposure to the depositors of such
depository institutions and to the FDIC insurance funds in the event that the
depository institution is insolvent or is in danger of becoming insolvent. For
example, under the requirements of the Federal Reserve Board with respect to
bank holding company operations, a bank holding company is required to serve as
a source of financial strength to its subsidiary depository institutions and to
commit resources to support such institutions in circumstances where it might
not do so otherwise. In addition, the "cross-guarantee" provisions of federal
law require insured depository institutions under common control to reimburse
the FDIC for any loss suffered or reasonably anticipated by the FDIC as a result
of the insolvency of commonly controlled insured depository institutions or for
any assistance provided by the FDIC to commonly controlled insured depository
institutions in danger of failure. The FDIC may decline to enforce the
cross-guarantee provision if it determines that a waiver is in the best
interests of the deposit insurance funds. The FDIC's claim for reimbursement
under the cross guarantee provisions is superior to claims of shareholders of
the insured depository institution or its holding company but is subordinate to
claims of depositors, secured creditors and nonaffiliated holders of
subordinated debt of the commonly controlled insured depository institutions.
The federal banking agencies also have broad powers under current
federal law to take prompt corrective action to resolve problems of insured
depository institutions. The extent of these powers depends upon whether the
institution in question is well capitalized, adequately capitalized,
undercapitalized, significantly undercapitalized or critically undercapitalized,
as defined by the law. As of December 31, 2000, the Company and the Bank were
classified as well capitalized.
Federal and state banking regulators also have broad enforcement powers
over the Bank, including the power to impose fines and other civil and criminal
penalties, and to appoint a conservator.
Interstate Banking and Branching. Current federal law authorizes
interstate acquisitions of banks and bank holding companies without geographic
limitation. Effective June 1, 1997, a bank headquartered in one state was
authorized to merge with a bank headquartered in another state, as long as
neither of the states had opted out of such interstate merger authority prior to
such date. After a bank has established branches in a state through an
interstate merger transaction, the bank may establish and acquire additional
branches at any location in the state where a bank headquartered in that state
could have established or acquired branches under applicable federal or state
law.
Gramm-Leach-Bliley Act of 1999. The Gramm-Leach-Bliley Act of 1999 (the
"Act") was signed into law on November 12, 1999. The Act covers a broad range of
issues, including a repeal of most of the restrictions on affiliations among
depository institutions, securities firms and insurance companies. Most of the
Act's provisions require the federal bank regulatory agencies and other
regulatory bodies to adopt regulations to implement the Act, and for that reason
an assessment of the full impact on the Company of the Act must await completion
of that regulatory process.
The Act repeals sections 20 and 32 of the Glass-Stegall Act, thus
permitting unrestricted affiliations between banks and securities firms. The Act
also permits bank holding companies to elect to become financial holding
companies. A financial holding company may engage in or acquire companies that
engage in a broad range of financial services, including securities activities
such as underwriting, dealing, brokerage, investment and merchant banking; and
insurance underwriting, sales and brokerage activities. In order to become a
financial holding company, the bank holding company and all of its
9
affiliated depository institutions must be well-capitalized, well-managed, and
have at least a satisfactory Community Reinvestment Act rating.
The Act provides that the states continue to have the authority to
regulate insurance activities, but prohibits the states in most instances from
preventing or significantly interfering with the ability of a bank, directly or
through an affiliate, to engage insurance sales, solicitations or
cross-marketing activities. Although the states generally must regulate bank
insurance activities in a nondiscriminatory manner, the states may continue to
adopt and enforce rules that specifically regulate bank insurance activities in
certain areas identified in the Act. The Act directs the federal bank regulatory
agencies to adopt insurance consumer protection regulations that apply to sales
practices, solicitations, advertising and disclosures.
The Act adopts a system of functional regulation under which the
Federal Reserve Board is confirmed as the umbrella regulator for financial
holding companies, but financial holding company affiliates are to be
principally regulated by functional regulators such as the FDIC for state
nonmember bank affiliates, the Securities and Exchange Commission for securities
affiliates and state insurance regulators for insurance affiliates. The Act
repeals the broad exemption of banks from the definitions of "broker" and
"dealer" for purposes of the Securities Exchange Act of 1934, as amended, but
identifies a set of specific activities, including traditional bank trust and
fiduciary activities, in which a bank may engage without being deemed a
"broker", and a set of activities in which a bank may engage without being
deemed a "dealer". The Act also makes conforming changes in the definitions of
"broker" and "dealer" for purposes of the Investment Company Act of 1940, as
amended, and the Investment Advisers Act of 1940, as amended.
The Act contains extensive customer privacy protection provisions.
Under these provisions, a financial institution must provide to its customers,
at the inception of the customer relationship and annually thereafter, the
institution's policies and procedures regarding the handling of customers'
nonpublic personal financial information. The Act provides that, except for
certain limited exceptions, an institution may not provide such personal
information to unaffiliated third parties unless the institution discloses to
the customer that such information may be so provided and the customer is given
the opportunity to opt out of such disclosure. An institution may not disclose
to a non-affiliated third party, other than to a consumer reporting agency,
customer account numbers or other similar account identifiers for marketing
purposes. The Act also provides that the states may adopt customer privacy
protections that are more strict than those contained in the Act. The Act also
makes a criminal offense, except in limited circumstances, obtaining or
attempting to obtain customer information of a financial nature by fraudulent or
deceptive means.
10
Item 2. Properties
The Company and the Bank are headquartered in the Main Office at 113
West Main Street, Independence, Virginia. The Bank owns and operates branches at
the following locations:
BANKING
LOCATION/ FUNCTIONS
NAME OF OFFICE TELEPHONE NUMBER OFFERED
Main Office 113 West Main Street Full Service
Independence, Virginia 24348
East Independence Office 558 East Main Street Full Service
Independence, Virginia 24348 24 Hour Teller
Elk Creek Office 60 Comers Rock Road Full Service
Elk Creek, Virginia 24326
Troutdale Office 101 Ripshin Road. Full Service
Troutdale, Virginia 24378
Galax Office 209 West Grayson Street Full Service
Galax, Virginia 24333 24 Hour Teller
Sparta Office 98 South Grayson Street Full Service
Sparta, North Carolina 28675 24 Hour Teller
The Bank also recently owns a vacant lot near the main office in
Independence, Virginia. This property is being held as a potential building site
for an operations center.
Item 3. Legal Proceedings
In the ordinary course of operations, the Company and the Bank expect
to be parties to various legal proceedings. At present, there are no pending or
threatened proceedings against the Company or the Bank which, if determined
adversely, would have a material effect on the business, results of operations,
or financial position of the Company or the Bank.
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 2000.
11
Item 5. Market Price of and Dividends on the Registrant's Common Equity and
Related Stockholder Matters
Shares of the Company's Common Stock are neither listed on any stock
exchange nor quoted on the Nasdaq Stock Market and trade infrequently. Shares of
Common Stock have periodically been sold in a limited number of privately
negotiated transactions. Based on information available to it, the Company
believes that from January 1, 1999 to December 31, 2000, the selling price of
shares of Common Stock ranged from $27.50 to $34.00. There may, however, have
been other transactions at other prices not known to the Company.
Market Price and Dividends
Sales Price ($) (1) Dividends ($) (1)
------------------- -----------------
High Low
---- ---
1999:
1st quarter................. 30.00 27.50 .00
2nd quarter................. 32.50 30.00 .16
3rd quarter................. 31.25 30.00 .00
4th quarter................. 34.00 32.00 .17
2000:
1st quarter................. 33.00 32.00 .00
2nd quarter................. 32.00 32.00 .18
3rd quarter................. 32.00 32.00 .00
4th quarter................. 32.00 28.00 .19
__________________
(1) All prices and dividends are adjusted for a two-for-one stock split as
of July 30, 1999.
The Company historically has paid cash dividends on a semi-annually
basis. The final determination of the timing, amount and payment of dividends on
the Common Stock is at the discretion of the Company's Board of Directors and
will depend upon the earnings of the Company and its subsidiaries, principally
the Bank, the financial condition of the Company and other factors, including
general economic conditions and applicable governmental regulations and
policies.
As of December 31, 2000, there were approximately 675 record holders of
Common Stock.
12
Item 6. Selected Financial Data
2000 1999 1998 1997 1996
----------- ----------- ----------- ----------- ----------
Summary of Operations
Interest income $ 13,153 $ 11,655 $ 11,010 $ 10,260 $ 9,201
Interest expense 6,785 5,921 5,786 5,456 5,155
----------- ----------- ----------- ----------- ----------
Net interest income 6,368 5,734 5,224 4,804 4,046
Provision for credit losses 280 300 319 185 210
Other income 435 347 375 293 269
Other expense 3,772 3,371 2,986 2,972 2,562
Income taxes 687 466 397 333 273
----------- ----------- ----------- ----------- ----------
Net income $ 2,064 $ 1,944 $ 1,897 $ 1,607 $ 1,270
=========== =========== =========== =========== ==========
Per Share Data2
Net income $ 1.20 $ 1.13 $ 1.10 $ .94 $ .74
Cash dividends declared .37 .33 .30 .26 .23
Book value 11.42 10.41 9.90 9.04 8.31
Estimated market value3 32.00 32.00 27.50 22.50 18.00
Year-end Balance Sheet Summary
Loans, net $ 133,072 $ 121,498 $ 105,924 $ 98,552 $ 88,535
Investment securities 28,766 29,430 32,510 31,924 31,433
Total assets 180,318 170,335 159,745 148,005 134,577
Deposits 159,590 151,620 141,803 131,701 119,630
Stockholders' equity 19,638 17,890 17,028 15,542 14,293
Selected Ratios
Return on average assets 1.18% 1.18% 1.24% 1.13% .98%
Return on average equity 10.95% 11.05% 11.54% 10.77% 9.16%
Average equity to average assets 10.75% 10.69% 10.73% 10.47% 10.68%
_________________
1 In thousands of dollars, except per share data.
2 Adjusted for the effects of a two for one stock split in 1999.
3 Provided at the trade date nearest year end.
13
Item 7. Management's Discussion and Analysis of Financial Condition and
Results of Operations
Overview
Management's Discussion and Analysis is provided to assist in the
understanding and evaluation of the Company's financial condition and its
results of operations. The following discussion should be read in conjunction
with the Company's consolidated financial statements.
The Bank operates for the primary purpose of meeting the banking needs
of individuals and small to medium sized businesses in the Bank's service area,
while developing personal, hometown associations with these customers. The Bank
offers a wide range of banking services including checking and savings accounts;
commercial, installment, mortgage and personal loans; safe deposit boxes; and
other associated services. The Bank's primary sources of revenue are interest
income from its lending activities, and, to a lesser extent, from its investment
portfolio. The Bank also earns fees from lending and deposit activities. The
major expenses of the Bank are interest on deposit accounts and general and
administrative expenses, such as salaries, occupancy and related expenses.
The earnings position of the Company continues to improve. The Company
experienced record net earnings of $2,063,709 for 2000, compared to $1,944,153
in 1999 and $1,897,480 in 1998. Dividends paid to stockholders increased to $.37
per share for 2000 compared to $.33 per share in 1999.
The total assets of the Company grew to $180,317,812 from $170,334,856,
a 5.86% increase, continuing our strategy to grow the Company. Average equity to
average assets indicates that the Company has a strong capital position with a
ratio of 10.75%.
14
- ------------------------------------------------------------------------------
Table 1. Net Interest Income and Average Balances (dollars in thousands)
- ------------------------------------------------------------------------------
2000 1999 1998
------------------------------- ------------------------------- ------------------------------
Interest Interest Interest
Average Income/ Yield/ Average Income/ Yield/ Average Income/ Yield/
Balance Expense Cost Balance Expense Cost Balance Expense Cost
--------- --------- --------- --------- --------- --------- --------- --------- --------
Interest earning assets:
Deposits in other banks $ - $ - 0.00% $ - $ - 0.00% $ 60 $ 4 6.17%
Federal funds sold 6,578 410 6.23% 10,310 520 5.04% 8,590 450 5.23%
Investment securities 29,248 1,614 5.52% 31,428 1,720 5.47% 31,854 1,728 5.43%
Loans 131,326 11,129 8.47% 114,790 9,415 8.20% 103,731 8,828 8.51%
--------- --------- --------- --------- --------- --------- --------- --------- --------
Total 167,152 13,153 156,528 11,655 144,235 11,010
--------- --------- --------- --------- --------- ---------
Yield on average
interest-earning assets 7.87% 7.45% 7.65%
========= ========= ========
Non interest-earning assets:
Cash and due from banks 5,156 5,318 4,645
Premises and equipment 2,458 2,018 1,976
Interest receivable and other 2,849 2,371 2,210
Allowance for loan losses (1,795) (1,620) (1,555)
Unrealized gain/(loss) on securities (497) (65) 176
--------- --------- ---------
Total 8,171 8,022 7,452
--------- --------- ---------
Total assets $ 175,323 $ 164,550 $ 151,687
========= ========= =========
Interest-bearing liabilities:
Demand deposits $ 13,422 386 2.88% $ 12,723 365 2.87% $ 11,120 318 2.86%
Savings deposits 31,042 1,077 3.47% 30,351 1,048 3.45% 28,048 967 3.45%
Time deposits 92,299 5,322 5.77% 86,093 4,508 5.24% 80,263 4,501 5.61%
--------- --------- --------- --------- --------- --------- --------- --------- --------
Total 136,763 6,785 129,167 5,921 119,431 5,786
--------- --------- --------- --------- --------- ---------
Cost on average
interest-bearing liabilities 4.96% 4.58% 4.84%
========= ========= ========
Non interest-bearing
liabilities:
Demand deposits 18,378 16,514 14,612
Interest payable and other 1,329 1,249 1,183
--------- --------- ---------
Total 19,707 17,763 15,795
--------- --------- ---------
Total liabilities 156,470 146,930 135,226
Stockholder's equity: 18,853 17,620 16,461
--------- --------- ---------
Total liabilities and
stockholder's equity $ 175,323 $ 164,550 $ 151,687
========= ========= =========
Net interest income $ 6,368 $ 5,734 $ 5,224
========= ========= ==========
Net yield on
interest-earning assets 3.81% 3.66% 3.62%
========= ========= ========
15
- --------------------------------------------------------------------------------
Table 2. Rate/Volume Variance Analysis (thousands)
================================================================================
2000 Compared to 1999 1999 Compared to 1998
-------------------------------------------- --------------------------------------------
Interest Variance Interest Variance
Income/ Attributable To Income/ Attributable To
Expense Expense
Variance Rate Volume Variance Rate Volume
------------ ------------ ------------ ------------ ------------ ------------
Interest-earning assets:
Deposits in other banks $ - $ - $ - $ (4) $ - $ (4)
Federal funds sold (110) 105 (215) 70 (17) 87
Investment securities (106) 15 (121) (8) 13 (21)
Loans 1,714 319 1,395 587 (330) 917
------------ ------------ ------------ ------------ ------------ ------------
Total 1,498 439 1,059 645 (334) 979
------------ ------------ ------------ ------------ ------------ ------------
Interest-bearing liabilities:
Demand deposits 21 1 20 47 1 46
Savings deposits 29 6 23 81 - 81
Time deposits 814 475 339 7 (308) 315
------------ ------------ ------------ ------------ ------------ ------------
Total 864 482 382 135 (307) 442
------------ ------------ ------------ ------------ ------------ ------------
Net interest income $ 634 $ (43) $ 677 $ 510 $ (27) $ 537
============ ============ ============ ============ ============ ============
Net Interest Income
Net interest income, the principal source of bank earnings, is the
amount of income generated by earning assets (primarily loans and investment
securities) less the interest expense incurred on interest-bearing liabilities
(primarily deposits used to fund earning assets). Table 1 summarizes the major
components of net interest income for the past three years and also provides
yields and average balances.
Total interest income in 2000 increased by 12.8% to $13.15 million from
$11.66 million in 1999 and $11.01million in 1998. The increase in total interest
income in 2000 was the result of a $10.62 million dollar increase in average
interest-earning assets combined with a 42 basis point increase in yields on
interest-earning assets. The increase in interest income in 1999 was due to
increases in interest-earning assets which were slightly offset by a 20 basis
point decrease in yields on interest-earning assets. Total interest expense
increased by $860,000 in 2000 to $6.78 million from $5.92 million in 1999. This
was due to an increase in average interest-bearing liabilities of $7.60 million
accompanied by a 38 basis point increase in the average rate paid for
interest-bearing liabilities. The increase in average interest-bearing
liabilities of $9.74 million in 1999 was partially offset by a decrease in the
average rate paid for interest-bearing liabilities of 26 basis points, resulting
in an increase in interest expense of $135,000. The effects of changes in
volumes and rates on net interest income in 2000 compared to 1999, and 1999
compared to 1998 are shown in Table 2.
Despite the volatility in interest rates in recent years, net yield on
interest-earning assets shows increases of 15 basis points from 1999 to 2000 and
4 basis points from 1998 to 1999. Net interest income also increased steadily by
11.1% in 2000 and 9.8% in 1999.
16
Provision for Credit Losses
The allowance for credit losses is established to provide for expected
losses in the Bank's loan portfolio. Loan losses and recoveries are charged or
credited directly to the allowance. Management determines the provision for
credit losses required to maintain an allowance adequate to provide for probable
losses. The factors considered in making this decision are the collectibility of
past due loans, volume of new loans, composition of the loan portfolio, and
general economic outlook.
At the end of 2000, the loan loss reserve was $1,760,999 compared to
$1,731,096 in 1999 and $1,677,171 in 1998. The Bank's allowance for loan losses,
as a percentage of total loans, at the end of 2000 was 1.31%, compared to 1.40%
in 1999, and 1.56% in 1998.
Additional information is contained in Tables 12 and 13, and is
discussed in Nonperforming and Problem Assets.
Other Income
Noninterest income consists of revenues generated from a broad range of
financial services and activities. The majority of noninterest income is a
result of service charges on deposit accounts including charges for insufficient
funds checks and fees charged for nondeposit services. Noninterest income
increased by $88,000 or 25.3% to $435,000 in 2000 from $347,000 in 1999.
Noninterest income in 1998 totaled $374,000. The increase from 1999 to 2000 was
primarily due to increases in service charges on deposit accounts as certain fee
increases were implemented in August, 2000. The primary sources of noninterest
income for the past three years are summarized in Table 3.
- -------------------------------------------------------------------------------
Table 3. Sources of Noninterest Income (thousands)
- --------------------------------------------------------------------------------
2000 1999 1998
------------ ------------ ------------
Service charges on deposit accounts $ 223 $ 158 $ 152
Other service charges and fees 97 87 96
Insurance commissions 36 30 41
Safe deposit box rental 28 21 19
Gain on the sale of securities 5 9 14
Other income 46 42 52
------------ ------------ ------------
Total noninterest income $ 435 $ 347 $ 374
============ ============ ============
Other Expense
The major components of noninterest expense for the past three years
are illustrated at Table 4.
Total noninterest expense increased by $401,000 or 11.9% to $3.77
million in 2000. The majority of the increase in 2000 was attributable to
personnel expense as well as other expenses associated with the opening of the
new branch banking facility in Sparta, North Carolina.
17
Noninterest expense increased by $386,000 from 1998 to 1999. The
majority of this increase was attributable to personnel expense with the
addition of three full-time equivalent employees, including a senior lending
officer and a chief financial officer, as well as normal wage increases and
increased benefit costs.
- --------------------------------------------------------------------------------
Table 4. Sources of Noninterest Expense (thousands)
- --------------------------------------------------------------------------------
2000 1999 1998
------------- ------------- -------------
Salaries & wages $ 1,783.8 $ 1,644.5 $ 1,385.2
Employee benefits 693.9 565.3 529.8
------------- ------------- -------------
Total personnel expense 2,477.7 2,209.8 1,915.0
Director fees 42.5 40.1 40.5
Occupancy expense 115.8 89.6 81.0
Computer charges 48.9 69.3 56.7
Other equipment expense 288.7 225.9 215.1
FDIC/OCC assessments 84.5 35.3 68.0
Insurance 47.5 38.9 41.7
Professional fees 43.3 38.3 39.3
Advertising 120.6 105.3 93.8
Postage and freight 131.0 121.9 117.9
Supplies 109.0 127.6 88.5
Franchise tax 40.3 110.3 106.6
Telephone 55.9 45.0 39.1
Travel, dues & meetings 50.4 41.2 32.4
Other expense 116.5 72.7 49.6
------------- ------------- -------------
Total noninterest expense 3,772.6 3,371.2 2,985.2
============= ============= =============
The overhead efficiency ratio of noninterest expense to adjusted total
revenue (net interest income plus noninterest income) was 55.5% in 2000, 55.4%
in 1999 and 53.3% in 1998.
Income Taxes
Income tax expense is based on amounts reported in the statements of
income (after adjustments for non-taxable income and non-deductible expenses)
and consists of taxes currently due plus deferred taxes on temporary differences
in the recognition of income and expense for tax and financial statement
purposes. The deferred tax assets and liabilities represent the future Federal
income tax return consequences of those differences, which will either be
taxable or deductible when the assets and liabilities are recovered or settled.
Income tax expense (substantially all Federal) was $687,125 in 2000,
$465,875 in 1999 and $396,972 in 1998 resulting in effective tax rates of 25.0%,
19.3% and 17.3% respectively. Income tax expense increased by $221,250 from 1999
to 2000 as alternative minimum tax credits, which were available in 1998 and
1999, were depleted in 2000.
18
The Bank's deferred income tax benefits and liabilities result
primarily from temporary differences (discussed above) in the provisions for
credit losses, valuation reserves, depreciation, deferred compensation, deferred
income, pension expense and investment security discount accretion.
Net deferred tax benefits of $755,075 and $854,188 are included in
other assets at December 31, 2000 and 1999 respectively. At December 31, 2000,
$10,009 of the total deferred tax benefit was applicable to unrealized
depreciation on investment securities available for sale. Accordingly, this
amount was not charged to income but recorded directly to the related
stockholders' equity account.
Analysis of Financial Condition
Average earning assets increased 6.8% from December 31, 1999 to
December 31, 2000. Total earning assets represented 95.3% of total average
assets in 2000 and 95.1% in 1999. The mix of average earning assets changed
moderately from 1999 to 2000 as federal funds balances and proceeds from
investment securities were used to fund loan growth.
- --------------------------------------------------------------------------------
Table 5. Average Asset Mix (dollars in thousands)
- --------------------------------------------------------------------------------
2000 1999
---------------------------- ----------------------------
Average Average
Balance % Balance %
------------ ------------ ------------ ------------
Earning assets:
Loans $ 131,326 74.91% $ 114,790 69.76%
Investment securities 29,248 16.68% 31,428 19.10%
Federal funds sold 6,578 3.75% 10,310 6.27%
Deposits in other banks - 0.00% - 0.00%
------------ ------------ ------------ ------------
Total earning assets 167,152 95.34% 156,528 95.12%
------------ ------------ ------------ ------------
Nonearning assets:
Cash and due from banks 5,156 2.94% 5,318 3.23%
Premises and equipment 2,458 1.40% 2,018 1.23%
Other assets 2,849 1.62% 2,371 1.44%
Allowance for loan losses (1,795) - (1,620) -0.98%
Unrealized gain/(loss) on securities (497) - (65) -0.04%
------------ ------------ ------------ ------------
Total nonearning assets 8,171 4.66% 8,022 4.88%
------------ ------------ ------------ ------------
Total assets $ 175,323 100.00% $ 164,550 100.00%
============ ============ ============ ============
Average loans for 2000 represented 74.91% of total average assets
compared to 69.76% in 1999. Average federal funds sold decreased from 6.27% to
3.75% of total average assets while average investment securities decreased from
19.10% to 16.68% of total average assets over the same time period. The average
balances of cash and due from bank accounts decreased in 2000 as cash balances,
which had been increased in 1999 for potential Y2K related cash demands, were
returned to normal levels.
19
Loans
Average loans totaled $131.3 million over the year ended December 31,
2000. This represents an increase of 14.4% over the average of $114.8 million
for 1999. Average loans increased by 10.7% from 1998 to 1999.
The loan portfolio is dominated by real estate and consumer loans.
These loans accounted for 90.5% of the total loan portfolio at December 31,
2000. This is down slightly from the 91.2% that the two categories maintained at
December 31, 1999. The amount of loans outstanding by type at December 31, 2000
and December 31, 1999 and the maturity distribution for variable and fixed rate
loans as of December 31, 2000 are presented in Tables 6 & 7 respectively.
- --------------------------------------------------------------------------------
Table 6. Loan Portfolio Summary (dollars in thousands)
- --------------------------------------------------------------------------------
December 31, 2000 December 31, 1999
--------------------------- ---------------------------
Amount % Amount %
------------ ------------ ------------ ------------
Construction and development $ 2,384 1.77% $ 3,329 2.71%
Residential, 1-4 families 69,567 51.59% 64,586 52.41%
Residential, 5 or more families 29 0.02% 37 0.03%
Farmland 4,517 3.35% 4,355 3.53%
Nonfarm, nonresidential 27,236 20.20% 22,840 18.53%
------------ ------------ ------------ ------------
Total real estate 103,733 76.93% 95,147 77.21%
Agricultural 3,805 2.82% 3,208 2.61%
Commercial 8,613 6.39% 7,434 6.03%
Consumer 18,340 13.61% 17,208 13.96%
Other 342 0.25% 232 0.19%
------------ ------------ ------------ ------------
Total $ 134,833 100.00% $ 123,229 100.00%
============ ============ ============ ============
20
- --------------------------------------------------------------------------------
Table 7. Maturity Schedule of Loans (dollars in thousands)
- --------------------------------------------------------------------------------
Total
Real Agricultural Consumer -------------------------------
Estate and Commercial and Other Amount %
-------------- -------------- -------------- -------------- --------------
Fixed rate loans:
Three months or less $ 6,117 $ 3,772 $ 2,117 $ 12,006 8.9%
Over three to twelve months 25,776 5,635 4,316 35,727 26.5%
Over one year to five years 67,467 1,143 10,840 79,450 58.9%
Over five years 1,486 16 493 1,995 1.5%
-------------- -------------- -------------- -------------- --------------
Total fixed rate loans $ 100,846 $ 10,566 $ 17,766 $ 129,178 95.8%
-------------- -------------- -------------- -------------- --------------
Variable rate loans:
Three months or less $ 297 $ 692 $ - $ 989 0.7%
Over three to twelve months 1,099 589 35 1,723 1.3%
Over one year to five years 572 462 796 1,830 1.4%
Over five years 919 109 85 1,113 0.8%
-------------- -------------- -------------- -------------- --------------
Total variable rate loans $ 2,887 $ 1,852 $ 916 $ 5,655 4.2%
-------------- -------------- -------------- -------------- --------------
Total loans:
Three months or less $ 6,414 $ 4,464 $ 2,117 $ 12,995 9.6%
Over three to twelve months 26,875 6,224 4,351 37,450 27.8%
Over one year to five years 68,039 1,605 11,636 81,280 60.3%
Over five years 2,405 125 578 3,108 2.3%
-------------- -------------- -------------- -------------- --------------
Total loans $ 103,733 $ 12,418 $ 18,682 $ 134,833 100.0%
============== ============== ============== ============== ==============
Interest rates charged on loans vary with the degree of risk, maturity
and amount of the loan. Competitive pressures, money market rates, availability
of funds, and government regulation also influence interest rates. On average,
loans yielded 8.47% in 2000 compared to an average yield of 8.20% in 1999.
Investment Securities
The Bank uses its investment portfolio to provide liquidity for
unexpected deposit decreases or loan generation, to meet the Bank's interest
rate sensitivity goals, and to generate income.
Management views the investment portfolio as a source of income, and
purchases securities with the intent of retaining them until maturity. However,
adjustments are necessary in the portfolio to provide an adequate source of
liquidity which can be used to meet funding requirements for loan demand and
deposit fluctuations and to control interest rate risk. Therefore, from time to
time, management may sell certain securities prior to their maturity. Table 8
presents the investment portfolio at the end of 2000 by major types of
investments and maturity ranges. Maturities on investment securities are based
on the earlier of the contractual maturity or the call date, if any.
Total investment securities decreased by approximately $660,000 from
December 31, 1999 to December 31, 2000 as proceeds from maturities and calls
were used primarily in funding increased loan demand as opposed to the purchase
of additional investment securities. The average yield of the investment
portfolio increased to 5.52% for the year ended December 31, 2000 compared to
5.47% for 1999.
21
- --------------------------------------------------------------------------------
Table 8. Investment Securities - Maturity/Yield Schedule (dollars in thousands)
- --------------------------------------------------------------------------------
In One After One After Five After
Year or Through Through Ten Market
Less Five Years Ten Years Years Total Value
------------ ------------ ------------ ------------ ------------ ------------
Investment Securities:
U.S. Treasury securities $ 500 $ - $ - $ - $ 500 $ 499
U.S. Government agencies 1,269 4,599 349 - 6,217 6,198
State and municipal securities 3,932 11,087 2,554 100 17,673 17,791
Corporate securities 467 2,999 858 - 4,324 4,275
------------ ------------ ------------ ------------ ------------ ------------
Total $ 6,168 $ 18,685 $ 3,761 $ 100 $ 28,714 $ 28,763
============ ============ ============ ============ ============ ============
Weighted average yields:
U.S. Treasury securities 5.06% - - - 5.06%
U.S. Government agencies 6.26% 5.85% 6.38% - 5.98%
State and municipal securities 5.06% 5.47% 6.15% 7.55% 5.46%
Corporate securities 6.03% 6.60% 6.22% - 6.48%
------------ ------------ ------------ ------------ ------------
Total 5.34% 5.74% 6.20% 7.55% 5.72%
------------ ------------ ------------ ------------ ------------
Deposits
The Bank relies on deposits generated in its market area to provide the
majority of funds needed to support lending activities and for investments in
liquid assets. More specifically, core deposits (total deposits less
certificates of deposit in denominations of $100,000 or more) are the primary
funding source. The Bank's balance sheet growth is largely determined by the
availability of deposits in its markets, the cost of attracting the deposits,
and the prospects of profitably utilizing the available deposits by increasing
the loan or investment portfolios. Market conditions have resulted in depositors
shopping for deposit rates more than in the past. An increased customer
awareness of interest rates adds to the importance of rate management. The
Bank's management must continuously monitor market pricing, competitor's rates,
and the internal interest rate spreads to maintain the Bank's growth and
profitability. The Bank attempts to structure rates so as to promote deposit and
asset growth while at the same time increasing overall profitability of the
Bank.
Average total deposits for the year ended December 31, 2000 amounted to
$155.1million, which was an increase of $9.4 million, or 6.5% over 1999. Average
core deposits totaled $130.4 million in 2000 representing a 7.1% increase over
the $121.8 million in 1999. The percentage of the Bank's average deposits that
are interest-bearing decreased from 88.7% in 1999 to 88.2% in 2000. Average
demand deposits which earn no interest increased 11.3% from $16.5 million in
1999 to $18.4 million in 2000. Average deposits for the periods ended December
31, 2000 and December 31, 1999 are summarized in Table 9.
22
- --------------------------------------------------------------------------------
Table 9. Deposit Mix (dollars in thousands)
- --------------------------------------------------------------------------------
2000 1999
-------------------------------------------- --------------------------------------------
Average Average Average Average
Balance % Rate Paid Balance % Rate Paid
------------ ------------ ------------ ------------ ------------ ------------
Interest-bearing deposits:
NOW accounts $ 13,422 8.7% 2.88% $ 12,723 8.7% 2.87%
Money Market 4,919 3.2% 3.25% 5,425 3.7% 3.25%
Savings 26,124 16.8% 3.50% 24,925 17.1% 3.50%
Small denomination certificates 67,572 43.6% 5.70% 62,236 42.8% 5.20%
Large denomination certificates 24,726 15.9% 5.95% 23,858 16.4% 5.32%
------------ ------------ ------------ ------------ ------------ ------------
Total interest-bearing deposits 136,763 88.2% 4.96% 129,167 88.7% 4.58%
Noninterest-bearing deposits 18,378 11.8% 0.00% 16,514 11.3% 0.00%
------------ ------------ ------------ ------------ ------------ ------------
Total deposits $ 155,141 100.0% 4.96% $ 145,681 100.0% 4.58%
============ ============ ============ ============ ============ ============
The average balance of certificates of deposit issued in denominations
$100,000 or more increased by $868,000, or 3.6%, for the year ended December 31,
2000. The strategy of management has been to support loan and investment growth
with core deposits and not to aggressively solicit the more volatile, large
denomination certificates of deposit. Table 10 provides maturity information
relating to certificates of deposit of $100,000 or more at December 31, 2000.
- ------------------------------------------------------------------------------
Table 10. Large Time Deposit Maturities (thousands)
- ------------------------------------------------------------------------------
Analysis of time deposits of $100,000 or more at Decmeber 31, 2000:
Remaining maturity of three months or less $ 4,343
Remaining maturity over three through twelve months 16,800
Remaining maturity over one through five years 5,438
Remaining maturity over five years -
---------
Total time deposits of $100,000 or more $ 26,581
=========
Capital Adequacy
Stockholders' equity amounted to $19.6 million at December 31, 2000, a
9.8% increase over the 1999 year end total of $17.9 million. The increase
resulted from earnings of approximately $2.1 million, less dividends paid, plus
a change in unrealized depreciation of investment securities classified as
available for sale.
Regulatory guidelines relating to capital adequacy provide minimum
risk-based ratios which assess capital adequacy while encompassing all credit
risks, including those related to off-balance sheet activities. Capital ratios
under these guidelines are computed by weighing the relative risk of each asset
23
category to derive risk-adjusted assets. The risk-based capital guidelines
require minimum ratios of core (Tier 1) capital (common stockholders' equity) to
risk-weighted assets of 4.0% and total regulatory capital (core capital plus
allowance for loan losses up to 1.25% of risk-weighted assets) to risk-weighted
assets of 8.0%. As of December 31, 2000 the Bank has a ratio of Tier 1 capital
to risk-weighted assets of 12.3% and a ratio of total capital to risk-weighted
assets of 13.6%.
- --------------------------------------------------------------------------------
Table 11. Bank's Year-end Risk-Based Capital (dollars in thousands)
- --------------------------------------------------------------------------------
2000 1999
------------- ------------
Tier 1 capital $ 14,755 $ 13,305
Qualifying allowance for loan losses
(limited to 1.25% of risk-weighted assets) 1,499 1,360
------------- ------------
Total regulatory capital $ 16,254 $ 14,665
============= ============
Total risk-weighted assets $ 119,635 $ 108,433
============= ============
Tier 1 capital as a percentage of
risk-weighted assets 12.3% 12.3%
Total regulatory capital as a percentage of
risk-weighted assets 13.6% 13.5%
Leverage ratio* 8.1% 7.8%
*Tier 1 capital divided by average total assets for
the quarter ended December 31 of each year.
In addition, a minimum leverage ratio of Tier 1 capital to average
total assets for the previous quarter is required by federal bank regulators,
ranging from 3% to 5%, subject to the regulator's evaluation of the Bank's
overall safety and soundness. As of December 31, 2000, the Bank had a ratio of
year-end Tier 1 capital to average total assets for the fourth quarter of 2000
of 8.1%. Table 11 sets forth summary information with respect to the Bank's
capital ratios at December 31, 2000. All capital ratio levels indicate that the
Bank is well capitalized.
At December 31, 2000 the Company had 1,718,968 shares of common stock
outstanding which were held by approximately 600 shareholders of record.
Nonperforming and Problem Assets
Certain credit risks are inherent in making loans, particularly
commercial and consumer loans. Management prudently assesses these risks and
attempts to manage them effectively. The Bank attempts to use shorter-term loans
and, although a portion of the loans have been made based upon the value of
collateral, it tries to rely primarily on the cash flow of the borrower as the
source of repayment rather than the value of the collateral.
The Bank also attempts to reduce repayment risk by adhering to internal
credit policies and procedures. These policies and procedures include officer
and customer limits, periodic loan documentation review and follow up on
exceptions to credit policies.
24
Nonperforming assets at December 31, 2000 and 1999 are analyzed in
Table 12.
- --------------------------------------------------------------------------------
Table 12. Nonperforming Assets (dollars in thousands)
- --------------------------------------------------------------------------------
December 31, 2000 December 31, 1999
--------------------------- ---------------------------
Amount % of Loans Amount % of Loans
------------ ------------ ------------ ------------
Nonaccrual loans $ 687 0.5% $ 281 0.2%
Restructured loans 368 0.3% 409 0.3%
Loans past due 90 days or more 623 0.5% 754 0.6%
Foreclosed, repossessed and idled properties - - - -
------------ ------------ ------------ ------------
Total nonperforming assets $ 1,678 1.3% $ 1,444 1.1%
============ ============ ============ ============
Total nonperforming assets were 1.3% and 1.1% of total outstanding
loans as of December 31, 2000 and 1999 respectively.
The allowance for loan losses is maintained at a level which, in
management's judgement, is adequate to absorb probable credit losses inherent in
the loan portfolio. Some of the factors which management considers in
determining the appropriate level of the allowance for loan losses are: past
loss experience, an evaluation of the current loan portfolio, identified loan
problems, the loan volume outstanding, the present and expected economic
conditions in general, and in particular, how such conditions relate to the
market area that the Bank serves. Bank regulators also periodically review the
Bank's loans and other assets to assess their quality. Loans deemed
uncollectible are charged to the allowance. Provisions for loan losses and
recoveries on loans previously charged off are added to the allowance. The
accrual of interest on a loan is discontinued when, in the opinion of
management, there is an indication that the borrower may be unable to meet
payments as they become due.
To quantify the specific elements of the allowance for loan losses, the
Bank begins by reviewing loans in the portfolio and assigning grades to loans
which have been reviewed. Loans which are graded as acceptable are then grouped
with loans in the same category which have not been graded and the total is then
multiplied by a historical charge-off percentage to arrive at a base allowance
amount. Loans which are graded other than acceptable are given specific
allowances based on the grade. An allowance of 5% is made for loans graded as
"special mention"; an allowance of 15% is made for loans graded as
"substandard"; an allowance of 50% is made for loans graded as "doubtful"; and
an allowance of 100% is made for loans graded as "loss". The allowance for
graded loans is then added to the base allowance for acceptable and ungraded
loans. Finally, the allowance may be adjusted by factors which consider current
loan volume and general economic conditions. The allowance is allocated
according to the amount deemed to be reasonably necessary to provide for the
possibility of losses being incurred within the respective categories of loans,
although the entire allowance is available to absorb any actual charge-offs that
may occur.
25
The provision for loan losses, net charge-offs and the activity in the
allowance for loan losses is detailed in Table 13. The allocation of the reserve
for loan losses is detailed in Table 14.
- --------------------------------------------------------------------------------
Table 13. Loan Losses (thousands)
- --------------------------------------------------------------------------------
2000 1999 1998
------------ ------------ ------------
Allowance for loan losses, beginning $ 1,731,096 $ 1,677,171 $ 1,556,237
Provision for loan losses, added 280,000 300,000 319,200
Charge-offs:
Real estate (41,739) (37,099) (129,593)
Commercial and agricultural (231,472) (280,969) (65,060)
Consumer and other (100,933) (77,277) (88,357)
Recoveries:
Real estate 13,649 19,024 32,474
Commercial and agricultural 85,257 78,487 30,874
Consumer and other 25,141 51,759 21,396
------------ ------------ ------------
Net charge-offs (250,097) (246,075) (198,266)
------------ ------------ ------------
Allowance for loan losses, ending $ 1,760,999 $ 1,731,096 $ 1,677,171
============ ============ ============
- --------------------------------------------------------------------------------
Table 14. Allocation of the Reserve for Loan Losses (thousands)
- --------------------------------------------------------------------------------
2000 1999
---------------------------- ----------------------------
% of % of
Loans to Loans to
Balance at the end of the period applicable to: Amount Total Loans Amount Total Loans
------------ ------------ ------------ ------------
Commercial and agricultural $ 440 9.21% $ 433 8.64%
Real estate - construction - 1.77% - 2.71%
Real estate - mortgage 793 75.16% 779 74.50%
Consumer and other 528 13.86% 519 14.15%
------------ ------------ ------------ ------------
Total $ 1,761 100.00% $ 1,731 100.00%
============ ============ ============ ============
Quantitative and Qualitative Disclosure about Market Risk
The principal goals of the Bank's asset and liability management
strategy are the maintenance of adequate liquidity and the management of
interest rate risk. Liquidity is the ability to convert assets to cash to fund
depositors' withdrawals or borrowers' loans without significant loss. Interest
rate risk management balances the effects of interest rate changes on assets
that earn interest or liabilities on which interest is paid, to protect the Bank
from wide fluctuations in its net interest income which could result from
interest rate changes.
Management must insure that adequate funds are available at all times
to meet the needs of its customers. On the asset side of the balance sheet,
maturing investments, loan payments, maturing loans,
26
federal funds sold, and unpledged investment securities are principal sources of
liquidity. On the liability side of the balance sheet, liquidity sources include
core deposits, the ability to increase large denomination certificates, federal
fund lines from correspondent banks, borrowings from the Federal Reserve Bank,
as well as the ability to generate funds through the issuance of long-term debt
and equity.
The liquidity ratio (the level of liquid assets divided by total
deposits plus short-term liabilities) was 18.1% at December 31, 2000 compared to
19.0% at December 31, 1999. These ratios are considered to be adequate by
management.
The Bank uses cash and federal funds sold to meet its daily funding
needs. If funding needs are met through holdings of excess cash and federal
funds, then profits might be sacrificed as higher-yielding investments are
foregone in the interest of liquidity. Therefore management determines, based on
such items as loan demand and deposit activity, an appropriate level of cash and
federal funds and seeks to maintain that level.
The Bank prefers to maintain a quiet investment security portfolio. The
primary goals of the investment portfolio are liquidity management and maturity
gap management. As investment securities mature the proceeds are reinvested in
federal funds sold if the federal funds level needs to be increased, otherwise
the proceeds are reinvested in similar investment securities. The majority of
investment security transactions consist of replacing securities that have been
called or matured. The Bank keeps a significant portion of its investment
portfolio in unpledged assets that are less than 18 months to maturity. These
investments are a preferred source of funds in that they can be disposed of in
any interest rate environment without causing significant damage to that
quarter's profits.
Interest rate risk is the effect that changes in interest rates would
have on interest income and interest expense as interest-sensitive assets and
interest-sensitive liabilities either reprice or mature. Management attempts to
maintain the portfolios of interest-earning assets and interest-bearing
liabilities with maturities or repricing opportunities at levels that will
afford protection from erosion of net interest margin, to the extent practical,
from changes in interest rates. Table 15 shows the sensitivity of the Bank's
balance sheet on December 31, 2000. This table reflects the sensitivity of the
balance sheet as of that specific date and is not necessarily indicative of the
position on other dates. At December 31, 2000, the Bank appeared to be
cumulatively asset-sensitive (interest-earning assets subject to interest rate
changes exceeding interest-bearing liabilities subject to changes in interest
rates). However, in the one year window liabilities subject to change in
interest rates exceed assets subject to interest rate changes (non
asset-sensitive).
Matching sensitive positions alone does not ensure the Bank has no
interest rate risk. The repricing characteristics of assets are different from
the repricing characteristics of funding sources. Thus, net interest income can
be impacted by changes in interest rates even if the repricing opportunities of
assets and liabilities are perfectly matched.
27
- --------------------------------------------------------------------------------
Table 15. Interest Rate Sensitivity (dollars in thousands)
- --------------------------------------------------------------------------------
December 31, 2000
Maturities/Repricing
--------------------------------------------------------------------------------
1 to 3 4 to 12 13 to 60 Over 60
Months Months Months Months Total
------------ ------------ ------------ ------------ ------------
Interest-Earning Assets:
Federal funds sold $ 7,820 $ - $ - $ - $ 7,820
Investments 2,209 3,959 18,685 3,861 28,714
Loans 12,995 37,450 81,280 3,108 134,833
------------ ------------ ------------ ------------ ------------
Total $ 23,024 $ 41,409 $ 99,965 $ 6,969 $ 171,367
============ ============ ============ ============ ============
Interest-Bearing Liabilities:
NOW accounts $ 14,060 $ - $ - $ - $ 14,060
Money market 4,507 - - - 4,507
Savings 25,330 - - - 25,330
Certificates of deposit 18,421 53,043 25,554 - 97,018
------------ ------------ ------------ ------------ ------------
Total $ 62,318 $ 53,043 $ 25,554 $ - $ 140,915
============ ============ ============ ============ ============
Interest sensitivity gap $ (39,294) $ (11,634) $ 74,411 $ 6,969 $ -
Cumulative interest
sensitivity gap $ (39,294) $ (50,928) $ 23,483 $ 30,452 $ 30,452
Ratio of sensitivity gap to
total earning assets -22.9% -6.8% 43.4% 4.1% 0.0%
Cumulative ratio of sensitivity
gap to total earning assets -22.9% -29.7% 13.7% 17.8% 17.8%
The Bank uses a number of tools to manage its interest rate risk,
including simulating net interest income under various scenarios, monitoring the
present value change in equity under the same scenarios, and monitoring the
difference or gap between rate sensitive assets and rate sensitive liabilities
over various time periods (as displayed in Table 15).
The earnings simulation model forecasts annual net income under a
variety of scenarios that incorporate changes in the absolute level of interest
rates, changes in the shape of the yield curve and changes in interest rate
relationships. Management evaluates the effect on net interest income and
present value equity from gradual changes in rates of up to 400 basis points up
or down over a 12-month period. Table 16 presents the Bank's forecasts for
changes in net income and market value of equity as of December 31, 2000.
28
- --------------------------------------------------------------------------------
Table 16. Interest Rate Risk (dollars in thousands)
- --------------------------------------------------------------------------------
Rate Shocked Interest Margin and Market Value of Equity
- --------------------------------------------------------------------------------
Rate Change -400bp -300bp -200bp -100bp 0bp +100bp +200bp +300bp +400bp
-------- -------- -------- -------- -------- -------- -------- -------- --------
Interest Income:
Federal funds sold $ 340 $ 382 $ 425 $ 467 $ 509 $ 552 $ 594 $ 636 $ 679
Investments 1,705 1,717 1,729 1,741 1,752 1,764 1,776 1,788 1,799
Loans 10,550 10,834 11,119 11,403 11,666 11,919 12,170 12,422 12,671
------------------------------------------------------------------------------------------------
Total interest income 12,595 12,933 13,273 13,611 13,927 14,235 14,540 14,846 15,149
Interest Expense:
Deposits 6,633 6,824 7,015 7,206 7,398 7,584 7,771 7,958 8,145
Federal funds purchased - - - - - - - - -
Other borrowings - - - - - - - - -
------------------------------------------------------------------------------------------------
Total interest expense 6,633 6,824 7,015 7,206 7,398 7,584 7,771 7,958 8,145
Interest Margin $ 5,962 $ 6,109 $ 6,258 $ 6,405 $ 6,529 $ 6,651 $ 6,769 $ 6,888 $ 7,004
Actual Dollars at Risk $ 567 $ 420 $ 271 $ 124 $ - $ - $ - $ - $ -
Market value of assets $185,842 $184,094 $182,367 $180,652 $178,822 $176,953 $175,098 $173,275 $171,453
Market value of liabilities 171,092 169,442 167,791 166,140 164,489 162,838 161,187 159,536 157,886
------------------------------------------------------------------------------------------------
Market Value of Equity $ 14,750 $ 14,652 $ 14,576 $ 14,512 $ 14,333 $ 14,115 $ 13,911 $ 13,739 $ 13,567
Impact of Inflation and Changing Prices
The consolidated financial statements and the accompanying notes
presented elsewhere in this document have been prepared in accordance with
generally accepted accounting principles which require the measurement of
financial position and operating results in terms of historical dollars without
considering the change in the relative purchasing power of money over time and
due to inflation. Unlike most industrial companies, virtually all the assets and
liabilities are monetary in nature. The impact of inflation is reflected in the
increased cost of operations. As a result, interest rates have a greater impact
on performance than do the effects of general levels of inflation. Interest
rates do not necessarily move in the same direction or to the same extent as the
prices of goods and services.
29
- --------------------------------------------------------------------------------
Table 17. Key Financial Ratios
- --------------------------------------------------------------------------------
2000 1999 1998
------------- ------------ ------------
Return on average assets 1.18% 1.18% 1.24%
Return on average equity 10.95% 11.05% 11.54%
Dividend payout ratio 30.83% 29.20% 27.27%
Average equity to average assets 10.75% 10.69% 10.73%
Item 7A. Quantitative and Qualitative Disclosures about Market Risk
Information with respect to this Item is included under "Item 7.
Management's Discussion and Analysis of Financial Condition and Results of
Operations - Quantitative and Qualitative Disclosure about Market Risk" above.
Item 8. Financial Statements and Supplementary Data
The following financial statements are filed as a part of this report
following Item 14 below:
Independent Auditor's Report
Consolidated Balance Sheets as of December 31, 2000 and 1999
Consolidated Statements of Income for the Years Ended December 31,
2000, 1999, and 1998
Consolidated Statements of Changes in Shareholders' Equity for the
Years Ended December 31, 2000, 1999, and 1998
Consolidated Statements of Cash Flows for the Years Ended December
31, 2000, 1999, and 1998
Notes to Consolidated Financial Statements
Item 9. Changes in and Disagreements With Accountants on Accounting and
Financial Disclosure
None
30
PART III
Item 10. Directors and Executive Officers of the Registrant
Pursuant to General Instruction G(3) of Form 10-K, the information
contained under the headings "Election of Directors," "Executive Officers Who
Are Not Directors" and "Section 16(a) Beneficial Ownership Reporting Compliance"
in the Company's Proxy Statement for the 2001 Annual Meeting of Shareholders is
incorporated herein by reference.
Item 11. Executive Compensation
Pursuant to General Instruction G(3) of Form 10-K, the information
contained under the heading "Compensation and Related Transactions" in the
Company's Proxy Statement for the 2001 Annual Meeting of Shareholders is
incorporated herein by reference.
Item 12. Security Ownership of Certain Beneficial Owners and Management
Pursuant to General Instruction G(3) of Form 10-K, the information
contained under the headings "Security Ownership of Management" and "Security
Ownership of Certain Beneficial Owners" in the Company's Proxy Statement for the
2001 Annual Meeting of Shareholders is incorporated herein by reference.
Item 13. Certain Relationships and Related Transactions
Pursuant to General Instruction G(3) of Form 10-K, the information
contained under the heading "Transactions with Management" in the Company's
Proxy Statement for the 2001 Annual Meeting of Shareholders is incorporated
herein by reference.
31
PART IV
Item 14. Exhibits, Financial Statement Schedules and Reports on Form 8-K
(a) Financial statements, financial statement schedules and reports
included in this Annual Report on Form 10-K
(1) Financial Statements
The Company's financial statements are filed as a part of
this report following this Item 14.
(2) Financial Statement Schedules
No financial statement schedules, other than those schedules
included in the Company's financial statements, are required
or applicable.
(3) The exhibits that are required to be filed or incorporated
by reference herein are as follows:
Exhibit No. Document
----------- --------
3.1 Articles of Incorporation, incorporated by reference
to Exhibit 3.1 of the Company's Registration
Statement on Form 10, File No. 0-30535 (the "Form
10").
3.2 Bylaws, incorporated by reference to Exhibit 3.2 of
the Form 10.
21 Subsidiary of the Company.*
______________________
* Filed herewith
(b) Reports on Form 8-K.
None.
(c) Exhibits
The response to this portion of Item 14 is set forth in Item
14(a)(3) above.
(d) Financial Statement Schedules
No financial statement schedules, other than those schedules
included in the Company's financial statements, are required or
applicable.
32
[LETTERHEAD OF LARROWE & COMPANY, P.L.C.]
Independent Auditor's Report
Board of Directors and Stockholders
Grayson Bankshares, Inc.
Independence, Virginia
We have audited the consolidated balance sheets of Grayson Bankshares, Inc. and
subsidiary as of December 31, 2000 and 1999 and the related consolidated
statements of income, stockholders' equity and cash flows for each of the three
years in the period ended December 31, 2000. These consolidated financial
statements are the responsibility of the Company's management. Our
responsibility is to express an opinion on these consolidated financial
statements based on our audits.
We conducted our audits in accordance with 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
amounts and disclosures in the financial statements. An audit also includes
assessing the accounting principles used and significant estimates made by
management, as well as evaluating the overall financial statement presentation.
We believe that our audits provide a reasonable basis for our opinion.
In our opinion, the consolidated financial statements referred to above present
fairly, in all material respects, the financial position of Grayson Bankshares,
Inc. and subsidiary at December 31, 2000 and 1999, and the results of their
operations and their cash flows for each of the three years in the period ended
December 31, 2000, in conformity with generally accepted accounting principles.
/s/ Larrowe & Company, P.L.C.
Galax, Virginia
January 18, 2001
F-1
================================================================================
Consolidated Balance Sheets
December 31, 2000 and 1999
- --------------------------------------------------------------------------------
Assets 2000 1999
--------------- ---------------
Cash and due from banks $ 4,993,526 $ 7,773,049
Interest-bearing deposits with banks - -
Federal funds sold 7,820,438 6,871,535
Investment securities available for sale 18,718,706 16,561,594
Investment securities held to maturity 9,965,781 12,786,424
Restricted equity securities 81,750 81,750
Loans, net of allowance for loan losses of $1,760,999
in 2000 and $1,731,096 in 1999 133,071,889 121,498,141
Property and equipment, net 2,792,981 2,119,422
Accrued income 1,681,910 1,412,088
Other assets 1,190,831 1,230,853
--------------- ---------------
$ 180,317,812 $ 170,334,856
=============== ===============
Liabilities and Stockholders' Equity
Liabilities
Deposits
Noninterest-bearing $ 18,674,556 18,755,128
Interest-bearing 140,915,544 132,864,897
--------------- ---------------
Total deposits 159,590,100 151,620,025
Accrued interest payable 294,583 239,061
Other liabilities 795,468 585,698
--------------- ---------------
160,680,151 152,444,784
Commitments and contingencies
Stockholders' equity
Preferred stock, $25 par value; 500,000
shares authorized; none issued - -
Common stock, $1.25 par value; 5,000,000 shares
authorized; 1,718,968 shares issued
in 2000 and 1999, respectively 2,148,710 2,148,710
Surplus 521,625 521,625
Retained earnings 16,986,754 15,559,063
Accumulated other comprehensive income (loss) (19,428) (339,326)
--------------- ---------------
19,637,661 17,890,072
--------------- ---------------
$ 180,317,812 $ 170,334,856
=============== ===============
See Notes to Consolidated Financial Statements
F-2
================================================================================
Consolidated Statements of Income
Years ended December 31, 2000, 1999 and 1998
- --------------------------------------------------------------------------------
2000 1999 1998
-------------- ------------- --------------
Interest income:
Loans and fees on loans $ 11,129,081 $ 9,415,047 $ 8,827,770
Federal funds sold 409,824 519,842 449,585
Investment securities:
Taxable 1,012,459 986,447 842,873
Exempt from federal income tax 601,479 733,837 885,693
Deposits with banks - - 3,713
-------------- ------------- --------------
13,152,843 11,655,173 11,009,634
-------------- ------------- --------------
Interest expense:
Deposits 6,784,519 5,920,886 5,785,685
Interest on borrowings - - -
-------------- ------------- --------------
6,784,519 5,920,886 5,785,685
-------------- ------------- --------------
Net interest income 6,368,324 5,734,287 5,223,949
Provision for loan losses 280,000 300,000 319,200
-------------- ------------- --------------
Net interest income after
provision for loan losses 6,088,324 5,434,287 4,904,749
-------------- ------------- --------------
Noninterest income:
Service charges on deposit accounts 223,283 157,697 152,027
Other service charges and fees 68,675 51,779 60,741
Net realized gains on securities 4,738 8,580 13,938
Other income 138,425 128,894 148,206
-------------- ------------- --------------
435,121 346,950 374,912
-------------- ------------- --------------
Noninterest expense:
Salaries and employee benefits 2,477,773 2,209,827 1,915,008
Occupancy expense 115,793 89,553 80,975
Equipment expense 288,655 225,949 215,096
Other expense 890,390 845,880 774,130
-------------- ------------- --------------
3,772,611 3,371,209 2,985,209
-------------- ------------- --------------
Income before income taxes 2,750,834 2,410,028 2,294,452
Income tax expense 687,125 465,875 396,972
-------------- ------------- --------------
Net income $ 2,063,709 $ 1,944,153 $ 1,897,480
============== ============= ==============
Basic earnings per share $ 1.20 $ 1.13 $ 1.10
============== ============= ==============
Weighted average shares outstanding 1,718,968 1,718,968 1,718,968
============== ============= ==============
See Notes to Consolidated Financial Statements
F-3
================================================================================
Consolidated Statements of Stockholders' Equity
Years ended December 31, 2000, 1999 and 1998
- --------------------------------------------------------------------------------
Accumulated
Common Stock Other
-------------------------- Retained Comprehensive
Shares Amount Surplus Earnings Income (Loss) Total
------------ ------------ ------------ ------------ ------------ ------------
Balance, December 31, 1997 859,484 $ 1,074,355 $ 521,625 $ 13,874,735 $ 71,357 $ 15,542,072
Comprehensive income
Net income - - - 1,897,480 - 1,897,480
Net change in unrealized
depreciation on investment
securities available for
sale, net of taxes of $53,751 - - - - 118,276 118,276
Reclassification adjustment - - - - (13,938) (13,938)
------------
Total comprehensive income 2,001,818
Dividends paid
($.60 per share) - - - (515,690) - (515,690)
------------ ------------ ------------ ------------ ------------ ------------
Balance, December 31, 1998 859,484 1,074,355 521,625 15,256,525 175,695 17,028,200
Comprehensive income
Net income - - - 1,944,153 - 1,944,153
Net change in unrealized
depreciation on investment
securities available for
sale, net of taxes of $(265,314) - - - - (515,021) (515,021)
------------
Total comprehensive income 1,429,132
Dividends paid
($.33 per share) - - - (567,260) - (567,260)
Stock split, two for one 859,484 1,074,355 - (1,074,355) - -
------------ ------------ ------------ ------------ ------------ ------------
Balance, December 31, 1999 1,718,968 2,148,710 521,625 15,559,063 (339,326) 17,890,072
Comprehensive income
Net income - - - 2,063,709 - 2,063,709
Net change in unrealized
depreciation on investment
securities available for
sale, net of taxes of $ 164,796 - - - - 319,898 319,898
------------
Total comprehensive income 2,383,607
Dividends paid
($.37 per share) - - - (636,018) - (636,018)
------------ ------------ ------------ ------------ ------------ ------------
Balance, December 31, 2000 1,718,968 $ 2,148,710 $ 521,625 $ 16,986,754 $ (19,428) $ 19,637,661
============ ============ ============ ============ ============ ============
See Notes to Consolidated Financial Statements
F-4
================================================================================
Consolidated Statements of Cash Flows
Years ended December 31, 2000, 1999 and 1998
- --------------------------------------------------------------------------------
2000 1999 1998
-------------- ------------- -------------
Cash flows from operating activities:
Net income $ 2,063,709 $ 1,944,153 $ 1,897,480
Adjustments to reconcile net income
to net cash provided by operations:
Depreciation and amortization 253,732 197,945 178,595
Provision for loan losses 280,000 300,000 319,200
Deferred income taxes (65,682) 22,524 (83,605)
Net realized gains on securities (4,738) (8,580) (13,938)
Gain on sale of equipment (115) - -
Accretion of discount on securities, net of
amortization of premiums 8,969 22,729 17,429
Deferred compensation 117,731 42,848 40,787
Changes in assets and liabilities:
Accrued income (269,822) (61,851) 27,893
Other assets (59,092) (37,470) (38,190)
Accrued interest payable 55,522 10,221 (19,167)
Other liabilities 92,039 (141,907) 130,951
-------------- ------------- -------------
Net cash provided by operating activities 2,472,253 2,290,612 2,457,435
-------------- ------------- -------------
Cash flows from investing activities:
Increase (decrease) in interest-bearing deposits with banks - - 99,369
Net increase (decrease) in federal funds sold (948,903) 5,228,465 (2,300,000)
Purchases of investment securities (3,395,005) (3,869,555) (9,360,555)
Sales of investment securities - 3,039,500 1,058,370
Maturities of investment securities 4,538,999 3,115,748 7,871,005
Net increase in loans (11,853,748) (15,873,677) (7,691,706)
Purchases of property and equipment, net of sales (927,176) (424,815) (74,179)
-------------- ------------- -------------
Net cash used in investing activities (12,585,833) (8,784,334) (10,397,696)
-------------- ------------- -------------
Cash flows from financing activities:
Net increase in deposits 7,970,075 9,816,962 10,101,638
Dividends paid (636,018) (567,260) (515,690)
Net increase (decrease) in short-term debt - - -
-------------- ------------- -------------
Net cash provided by financing activities 7,334,057 9,249,702 9,585,948
-------------- ------------- -------------
Net increase (decrease) in cash and cash equivalents (2,779,523) 2,755,980 1,645,687
Cash and cash equivalents, beginning 7,773,049 5,017,069 3,371,382
-------------- ------------- -------------
Cash and cash equivalents, ending $ 4,993,526 $ 7,773,049 $ 5,017,069
============== ============= =============
Supplemental disclosure of cash flow information:
Interest paid $ 6,728,997 $ 5,910,665 $ 5,804,852
============== ============= =============
Taxes paid $ 730,050 $ 457,000 $ 432,000
============== ============= =============
Supplemental disclosure of noncash investing activities:
Effect on equity of change in net unrealized gain (loss) $ 319,898 $ (515,021) $ 104,338
============== ============= =============
See Notes to Consolidated Financial Statements
F-5
================================================================================
Notes to Consolidated Financial Statements
- --------------------------------------------------------------------------------
Note 1. Organization and Summary of Significant Accounting Policies
Organization
Grayson Bankshares, Inc. (the Company) was incorporated as a Virginia
corporation on February 3, 1992 to acquire the stock of The Grayson National
Bank (the Bank). The Bank was acquired by the Company on July 1, 1992.
The Grayson National Bank was organized under the laws of the United States in
1900 and currently serves Grayson County, Virginia and surrounding areas through
six banking offices. As an FDIC insured, National Banking Association, the Bank
is subject to regulation by the Comptroller of the Currency. The Company is
regulated by the Federal Reserve.
The accounting and reporting policies of the Company and the Bank follow
generally accepted accounting principles and general practices within the
financial services industry. Following is a summary of the more significant
policies.
Principles of Consolidation
The consolidated financial statements include the accounts of the Company and
the Bank, which is wholly owned. All significant, intercompany transactions and
balances have been eliminated in consolidation.
Business Segments
The Company reports its activities as a single business segment. In determining
the appropriateness of segment definition, the Company considers components of
the business about which financial information is available and regularly
evaluated relative to resource allocation and performance assessment.
Use of Estimates
The preparation of financial statements in conformity with generally accepted
accounting principles 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 those estimates.
Material estimates that are particularly susceptible to significant change
relate to the determination of the allowance for loan losses and the valuation
of real estate acquired in connection with foreclosures or in satisfaction of
loans. In connection with the determination of the allowances for loan and
foreclosed real estate losses, management obtains independent appraisals for
significant properties.
Substantially all of the Bank's loan portfolio consists of loans in its market
area. Accordingly, the ultimate collectibility of a substantial portion of the
Bank's loan portfolio and the recovery of a substantial portion of the carrying
amount of foreclosed real estate are susceptible to changes in local market
conditions. The regional economy is diverse, but influenced to an extent by the
manufacturing and agricultural segments.
While management uses available information to recognize loan and foreclosed
real estate losses, future additions to the allowances may be necessary based on
changes in local economic conditions. In addition, regulatory agencies, as a
part of their routine examination process, periodically review the Bank's
allowances for loan and foreclosed real estate losses. Such agencies may require
the Bank to recognize additions to the allowances based on their judgments about
information available to them at the time of their examinations. Because of
these factors, it is reasonably possible that the allowances for loan and
foreclosed real estate losses may change materially in the near term.
Cash and Cash Equivalents
For the purpose of presentation in the consolidated statements of cash flows,
cash and cash equivalents are defined as those amounts included in the balance
sheet caption "cash and due from banks."
F-6
================================================================================
Notes to Consolidated Financial Statements
- --------------------------------------------------------------------------------
Note 1. Organization and Summary of Significant Accounting Policies, continued
Trading Securities
The Bank does not hold securities for short-term resale and therefore does not
maintain a trading securities portfolio.
Securities Held to Maturity
Bonds, notes, and debentures for which the Bank has the positive intent and
ability to hold to maturity are reported at cost, adjusted for premiums and
discounts that are recognized in interest income using the interest method over
the period to maturity or to call dates.
Securities Available for Sale
Available-for-sale securities are reported at fair value and consist of bonds,
notes, debentures, and certain equity securities not classified as trading
securities or as held-to-maturity securities.
Unrealized holding gains and losses, net of tax, on available-for-sale
securities are reported as a net amount in a separate component of shareholders'
equity. Realized gains and losses on the sale of available-for-sale securities
are determined using the specific-identification method. Premiums and discounts
are recognized in interest income using the interest method over the period to
maturity or to call dates.
Declines in the fair value of individual held-to-maturity and available-for-sale
securities below cost that are other than temporary are reflected as write-downs
of the individual securities to fair value. Related write-downs are included in
earnings as realized losses.
Loans Receivable
Loans receivable that management has the intent and ability to hold for the
foreseeable future or until maturity or pay-off are reported at their
outstanding principal amount adjusted for any charge-offs and the allowance for
loan losses. Loan origination fees and costs, are not capitalized and recognized
as an adjustment to the yield on the related loan as such deferrals are not
material to the Company's financial position or results of operations.
Interest is accrued and credited to income based on the principal amount
outstanding. The accrual of interest on impaired loans is discontinued when, in
management's opinion, the borrower may be unable to meet payments as they become
due. When interest accrual is discontinued, all unpaid accrued interest is
reversed. Interest income is subsequently recognized only to the extent cash
payments are received.
Allowance for Loan Losses
The allowance for loan losses is established as losses are estimated to have
occurred through a provision for loan losses charged to earnings. Loan losses
are charged against the allowance when management believes the uncollectability
of a loan balance is confirmed. Subsequent recoveries, if any, are credited to
the allowance.
The allowance for loan losses is evaluated on a regular basis by management and
is based upon management's periodic review of the collectibility of the loans in
light of historical experience, the nature and volume of the loan portfolio,
adverse situations that may affect the borrower's ability to repay, estimated
value of any underlying collateral and prevailing economic conditions. This
evaluation is inherently subjective as it requires estimates that are
susceptible to significant revision as more information becomes available.
F-7
================================================================================
Notes to Consolidated Financial Statements
- --------------------------------------------------------------------------------
Note 1. Organization and Summary of Significant Accounting Policies, continued
Allowance for Loan Losses, continued
A loan is considered impaired when, based on current information and events, it
is probable that the Bank will be unable to collect the scheduled payments of
principal or interest when due according to the contractual terms of the loan
agreement. Factors considered by management in determining impairment include
payment status, collateral value, and the probability of collecting scheduled
principal and interest payments when due. Loans that experience insignificant
payment delays and payment shortfalls generally are not classified as impaired.
Management determines the significance of payment delays and payment shortfalls
on a case-by-case basis, taking into consideration all of the circumstances
surrounding the loan and the borrower, including the length of the delay, the
reasons for the delay, the borrower's prior payment record, and the amount of
the shortfall in relation to the principal and interest owed. Impairment is
measured on a loan by loan basis for commercial and construction loans by either
the present value of expected future cash flows discounted at the loan's
effective interest rate, the loan's obtainable market price, or the fair value
of the collateral if the loan is collateral dependent.
Large groups of smaller balance homogeneous loans are collectively evaluated for
impairment. Accordingly, the Bank does not separately identify individual
consumer and residential loans for impairment disclosures.
Property and Equipment
Land is carried at cost. Bank premises, furniture and equipment, and leasehold
improvements are carried at cost, less accumulated depreciation and amortization
computed principally by the straight-line method over the following estimated
useful lives:
Years
-----
Buildings and improvements 10-40
Furniture and equipment 5-12
Foreclosed Properties
Real estate properties acquired through, or in lieu of, loan foreclosure are to
be sold and are initially recorded at fair value less anticipated cost to sell
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 loss on foreclosed real estate. The historical average holding period for
such properties is less than six months.
Pension Plan
The Bank maintains a noncontributory defined benefit pension plan covering all
employees who meet eligibility requirements. To be eligible, an employee must be
21 years of age and have completed one year of service. Plan benefits are based
on final average compensation and years of service. The funding policy is to
contribute the maximum deductible for federal income tax purposes.
Transfers of Financial Assets
Transfers of financial assets are accounted for as sales, when control over the
assets has been surrendered. Control over transferred assets is deemed to be
surrendered when (1) the assets have been isolated from the Bank, (2) the
transferee obtains the right (free of conditions that constrain it from taking
advantage of that right) to pledge or exchange the transferred assets, and (3)
the Bank does not maintain effective control over the transferred assets through
an agreement to repurchase them before their maturity.
F-8
================================================================================
Notes to Consolidated Financial Statements
- --------------------------------------------------------------------------------
Note 1. Organization and Summary of Significant Accounting Policies, continued
Income Taxes
Provision for income taxes is based on amounts reported in the statements of
income (after exclusion of non-taxable income such as interest on state and
municipal securities) and consists of taxes currently due plus deferred taxes on
temporary differences in the recognition of income and expense for tax and
financial statement purposes. Deferred tax assets and liabilities are included
in the financial statements at currently enacted income tax rates applicable to
the period in which the deferred tax assets or liabilities are expected to be
realized or settled. As changes in tax laws or rates are enacted, deferred taxes
assets and liabilities are adjusted through the provision for income taxes.
Deferred income tax liability relating to unrealized appreciation (or the
deferred tax asset in the case of unrealized depreciation) on investment
securities available for sale is recorded in other liabilities (assets). Such
unrealized appreciation or depreciation is recorded as an adjustment to equity
in the financial statements and not included in income determination until
realized. Accordingly, the resulting deferred income tax liability or asset is
also recorded as an adjustment to equity.
Basic Earnings per Share
Basic earnings per share is computed by dividing income available to common
shareholders by the weighted average number of common shares outstanding during
the period, after giving retroactive effect to stock splits and dividends.
Diluted Earnings per Share
The computation of diluted earnings per share is similar to the computation of
basic earnings per share except that the denominator is increased to include the
number of additional common shares that would have been outstanding if dilutive
potential common shares had been issued. The numerator is adjusted for any
changes in income or loss that would result from the assumed conversion of those
potential common shares. For the years presented, the Company has no potentially
dilutive securities outstanding.
Comprehensive Income
Annual comprehensive income reflects the change in the Company's equity during
the year arising from transactions and events other than investments by and
distributions to shareholders. It consists of net income plus certain other
changes in assets and liabilities that are reported as separate components of
shareholders' equity rather than as income or expense.
Financial Instruments
Any derivative financial instruments held or issued by the Bank are held or
issued for purposes other than trading.
In the ordinary course of business the Bank has entered into off-balance-sheet
financial instruments consisting of commitments to extend credit and commercial
and standby letters of credit. Such financial instruments are recorded in the
financial statements when they are funded or related fees are incurred or
received.
The Bank does not utilize interest-rate exchange agreements or interest-rate
futures contracts.
F-9
================================================================================
Notes to Consolidated Financial Statements
- --------------------------------------------------------------------------------
Note 1. Organization and Summary of Significant Accounting Policies, continued
Fair Value of Financial Instruments
Statement of Financial Accounting Standards No. 107, Disclosures about Fair
Value of Financial Instruments, requires disclosure of fair value information
about financial instruments, whether or not recognized in the balance sheet. In
cases where quoted market prices are not available, fair values are based on
estimates using present value or other valuation techniques. Those techniques
are significantly affected by the assumptions used, including the discount rate
and estimates of future cash flows. In that regard, the derived fair value
estimates cannot be substantiated by comparison to independent markets and, in
many cases, could not be realized in immediate settlement of the instruments.
Statement No. 107 excludes certain financial instruments and all nonfinancial
instruments from its disclosure requirements. Accordingly, the aggregate fair
value amounts presented do not represent the underlying value of the Company.
The following methods and assumptions were used by the Company in estimating its
fair value disclosures for financial instruments:
Cash and cash equivalents: The carrying amounts reported in the balance sheet
for cash and cash equivalents approximate their fair values.
Interest-bearing deposits with banks: Fair values for time deposits are
estimated using a discounted cash flow analysis that applies interest rates
currently being offered on certificates to a schedule of aggregated contractual
maturities on such time deposits.
Available-for-sale and held-to-maturity securities: Fair values for securities,
excluding restricted equity securities, are based on quoted market prices, where
available. If quoted market prices are not available, fair values are based on
quoted market prices of comparable instruments. The carrying values of
restricted equity securities approximate fair values.
Loans receivable: For variable-rate loans that reprice frequently and with no
significant change in credit risk, fair values are based on carrying amounts.
The fair values for other loans are estimated using discounted cash flow
analysis, based on interest rates currently being offered for loans with similar
terms to borrowers of similar credit quality. Loan fair value estimates include
judgments regarding future expected loss experience and risk characteristics.
Fair values for impaired loans are estimated using discounted cash flow analysis
or underlying collateral values, where applicable. The carrying amount of
accrued interest receivable approximates its fair value.
Deposit liabilities: The fair values disclosed for demand and savings deposits
are, by definition, equal to the amount payable on demand at the reporting date.
The fair values for certificates of deposit are estimated using a discounted
cash flow calculation that applies interest rates currently being offered on
certificates to a schedule of aggregated contractual maturities on such time
deposits. The carrying amount of accrued interest payable approximates fair
value.
Short-term debt: The carrying amounts of short-term debt approximate their fair
values.
Other liabilities: For fixed-rate loan commitments, fair value considers the
difference between current levels of interest rates and the committed rates. The
carrying amounts of other liabilities approximates fair value.
Reclassification
Certain reclassifications have been made to the prior years' financial
statements to place them on a comparable basis with the current presentation.
Net income (loss) and stockholders' equity previously reported were not affected
by these reclassifications.
F-10
================================================================================
Notes to Consolidated Financial Statements
- --------------------------------------------------------------------------------
Note 2. Restrictions on Cash
To comply with banking regulations, the Bank is required to maintain certain
average cash reserve balances. The daily average cash reserve requirement was
approximately $858,000 and $913,000 for the periods including December 31, 2000
and 1999, respectively.
Note 3. Investment Securities
Debt and equity securities have been classified in the consolidated balance
sheets according to management's intent. The carrying amount of securities and
their approximate fair values at December 31 follow:
2000 Amortized Unrealized Unrealized Fair
- ---- Cost Gains Losses Value
------------- ------------- ------------- -------------
Available for sale:
U.S. Treasury securities $ 499,878 $ - $ 972 $ 498,906
U.S. Government agency securities 6,217,638 10,028 29,289 6,198,377
State and municipal securities 7,706,876 89,091 49,630 7,746,337
Corporate securities 4,323,751 14,686 63,351 4,275,086
------------- ------------- ------------- -------------
$ 18,748,143 $ 113,805 $ 143,242 $ 18,718,706
============= ============= ============= =============
Held to maturity:
State and municipal securities $ 9,965,781 $ 81,315 $ 2,519 $ 10,044,577
============= ============= ============= =============
1999
Available for sale:
U.S. Treasury securities $ 499,295 $ - $ 6,561 $ 492,734
U.S. Government agency securities 6,974,053 2,339 188,681 6,787,711
State and municipal securities 7,237,882 13,461 186,234 7,065,109
Corporate securities 2,364,495 - 148,455 2,216,040
------------- ------------- ------------- -------------
$ 17,075,725 $ 15,800 $ 529,931 $ 16,561,594
============= ============= ============= =============
Held to maturity:
State and municipal securities $ 12,786,424 $ 83,172 $ 50,872 $ 12,818,724
============= ============= ============= =============
Investment securities with amortized cost of approximately $3,104,906 and
$2,793,000 at December 31, 2000 and 1999, respectively, were pledged as
collateral on public deposits and for other purposes as required or permitted by
law.
Gross realized gains and losses for the years ended December 31, 2000, 1999 and
1998 are as follows:
2000 1999 1998
-------------- ------------- -------------
Realized gains $ 4,738 $ 8,580 $ 14,038
Realized losses - - (100)
-------------- ------------- -------------
$ 4,738 $ 8,580 $ 13,938
============== ============= =============
F-11
================================================================================
Notes to Consolidated Financial Statements
- --------------------------------------------------------------------------------
Note 3. Investment Securities, continued
The scheduled maturities of securities available-for-sale and securities
held-to-maturity at December 31, 2000, were as follows:
Available for Sale Held to Maturity
--------------------------------- ---------------------------------
Amortized Fair Amortized Fair
Cost Value Cost Value
--------------- ---------------- --------------- ----------------
Due in one year or less $ 2,837,014 $ 2,839,982 $ 3,330,491 $ 3,340,533
Due after one year through five years 13,041,354 13,021,887 5,643,468 5,708,454
Due after five years through ten years 2,769,775 2,753,444 991,822 995,590
Due after ten years 100,000 103,393 - -
--------------- ---------------- --------------- ----------------
$ 18,748,143 $ 18,718,706 $ 9,965,781 $ 10,044,577
=============== ================ =============== ================
The scheduled maturities of securities available-for-sale and securities
held-to-maturity at December 31, 1999, were as follows:
Available for Sale Held to Maturity
--------------------------------- ---------------------------------
Amortized Fair Amortized Fair
Cost Value Cost Value
--------------- ---------------- --------------- ----------------
Due in one year or less $ 1,707,194 $ 1,702,978 $ 2,421,528 $ 2,433,304
Due after one year through five years 11,050,104 10,801,520 8,732,389 8,758,765
Due after five years through ten years 4,218,427 3,958,641 1,632,507 1,626,654
Due after ten years 100,000 98,455 - -
Restricted equity securities 81,750 81,750 - -
--------------- ---------------- --------------- ----------------
$ 17,157,475 $ 16,643,344 $ 12,786,424 $ 12,818,723
=============== ================ =============== ================
F-12
================================================================================
Notes to Consolidated Financial Statements
- --------------------------------------------------------------------------------
Note 4. Loans Receivable
The major components of loans in the consolidated balance sheets at December 31,
2000 and 1999 are as follows (in thousands):
2000 1999
------------- -------------
Commercial $ 8,613 $ 7,434
Real estate:
Construction and land development 2,384 3,329
Residential, 1-4 families 69,567 64,586
Residential, 5 or more families 29 37
Farmland 4,517 4,355
Nonfarm, nonresidential 27,236 22,840
Agricultural 3,805 3,208
Consumer 18,340 17,208
Other 342 232
------------- -------------
134,833 123,229
Allowance for loan losses (1,761) (1,731)
------------- -------------
$ 133,072 $ 121,498
============= =============
Note 5. Allowance for Loan Losses
An analysis of the allowance for loan losses follows:
2000 1999 1998
-------------- ------------- -------------
Balance, beginning $ 1,731,096 $ 1,677,171 $ 1,556,237
Provision charged to expense 280,000 300,000 319,200
Recoveries of amounts charged off 124,047 149,270 84,744
Amounts charged off (374,144) (395,345) (283,010)
-------------- ------------- -------------
Balance, ending $ 1,760,999 $ 1,731,096 $ 1,677,171
============== ============= =============
The following is a summary of information pertaining to impaired loans at
December 31:
2000 1999
--------------- ---------------
Impaired loans without a valuation allowance $ 1,223,881 $ 939,993
Impaired loans with a valuation allowance 140,312 572,515
--------------- ---------------
Total impaired loans $ 1,364,193 $ 1,512,508
=============== ===============
Valuation allowance related to impaired loans $ 60,013 $ 414,615
=============== ===============
2000 1999 1998
---------------- --------------- ---------------
Average investment in impaired loans $ 365,492 $ 1,061,844 $ 1,269,751
================ =============== ===============
Interest income recognized on impaired loans $ 51,995 $ 76,855 $ 112,699
================ =============== ===============
Interest income recognized on a cash basis on impaired loans $ 30,893 $ 76,855 $ 112,699
================ =============== ===============
No additional funds are committed to be advanced in connection with impaired
loans.
F-13
================================================================================
Notes to Consolidated Financial Statements
- --------------------------------------------------------------------------------
Note 6. Property and Equipment
Components of property and equipment and total accumulated depreciation at
December 31, 2000 and 1999, are as follows:
2000 1999
------------- --------------
Land $ 403,169 $ 403,169
Buildings and improvements 2,104,787 1,571,167
Furniture and equipment 1,898,589 1,505,033
------------- --------------
4,406,545 3,479,369
Less accumulated depreciation (1,613,564) (1,359,947)
------------- --------------
$ 2,792,981 $ 2,119,422
============= ==============
Note 7. Deposits
The aggregate amount of time deposits in denominations of $100,000 or more at
December 31, 2000 and 1999 was $26,580,744 and $24,082,169, respectively. At
December 31, 2000, the scheduled maturities of time deposits (in thousands) are
as follows:
Three months or less $ 18,421
Over three months through twelve months 53,043
Over one year through three years 25,554
Over three years -
--------------
$ 97,018
==============
Note 8. Short-Term Debt
The Bank has established lines of credit of approximately $3,000,000 with
correspondent banks to provide additional liquidity if and as needed. At
December 31, 2000 and 1999, no amounts were outstanding under these
arrangements.
Note 9. Fair Values of Financial Instruments
The estimated fair values of the Company's financial instruments are as follows
(dollars in thousands):
December 31, 2000 December 31, 1999
------------------------------- -------------------------------
Carrying Fair Carrying Fair
Amount Value Amount Value
------------- -------------- ------------- --------------
Financial assets
Cash and cash equivalents $ 4,994 $ 4,994 $ 7,773 $ 7,773
Interest-bearing deposits with banks - - - -
Federal funds sold 7,820 7,820 6,872 6,872
Securities, available-for-sale 18,719 18,719 16,562 16,562
Securities, held to maturity 9,966 10,045 12,786 12,819
Restricted equity securities 82 82 82 82
Loans, net of allowance for credit losses 133,072 132,490 121,498 122,197
Financial liabilities
Deposits 159,590 159,839 151,620 151,655
Short-term debt - - - -
Off-balance-sheet assets (liabilities)
Commitments to extend credit and
standby letters of credit - - - -
F-14
================================================================================
Notes to Consolidated Financial Statements
- --------------------------------------------------------------------------------
Note 10. Employee Benefit Plan
The Bank has a qualified noncontributory, defined benefit pension plan which
covers substantially all of its employees. The benefits are primarily based on
years of service and earnings.
The following is a summary of the plan's funded status as of December 31, 2000
and 1999.
2000 1999
------------- --------------
Change in benefit obligation
Benefit obligation at beginning of year $ 2,296,182 $ 2,021,011
Service cost 111,761 99,707
Interest cost 172,214 151,576
Plan participants' contributions - -
Amendments - -
Actuarial (gain) loss 7,060 23,888
Acquisition - -
Benefits paid (463,357) -
------------- --------------
Benefit obligation at end of year $ 2,123,860 $ 2,296,182
============= ==============
Change in plan assets
Fair value of plan assets at beginning of year $ 2,008,883 $ 1,495,491
Actual return on plan assets 285,209 214,449
Acquisition - -
Employer contribution - 298,943
Plan participants' contributions - -
Benefits paid (463,357) -
------------- --------------
Fair value of plan assets at end of year $ 1,830,735 $ 2,008,883
============= ==============
Change in prepaid (accrued) benefit cost
Prepaid (accrued) benefit cost, beginning $ (17,474) $ (188,323)
Contributions - 298,943
Pension cost (125,762) (128,094)
------------- --------------
Prepaid (accrued) benefit cost, ending $ (143,236) $ (17,474)
============= ==============
Funded status $ (293,125) $ (287,299)
Unrecognized transitional net assets (308) (343)
Unrecognized prior service costs 90,578 100,642
Unrecognized net actuarial loss 59,619 169,526
------------- --------------
Prepaid (accrued) benefit cost $ (143,236) $ (17,474)
============= ==============
Weighted-average assumptions as of December 31
Discount rate 7.5% 7.5%
Expected return on plan assets 9.0% 9.0%
Rate of compensation increase 5.0% 5.0%
2000 1999 1998
-------------- ------------- --------------
Components of net periodic benefit cost
Service cost $ 111,761 $ 99,707 $ 95,346
Interest cost 172,214 151,576 122,361
Return on plan assets (285,209) (214,449) 5,066
Originating unrecognized asset gain (loss) 116,967 79,855 (140,116)
Recognized net actuarial (gain) loss - 1,376 -
Amortization 10,029 10,029 10,029
-------------- ------------- --------------
Net periodic benefit cost $ 125,762 $ 128,094 $ 92,686
============== ============= ==============
F-15
================================================================================
Notes to Consolidated Financial Statements
- --------------------------------------------------------------------------------
Note 11. Deferred Compensation and Life Insurance
Deferred compensation plans have been adopted for certain members of the Board
of Directors for future compensation upon retirement. Under plan provisions
aggregate annual payments ranging from $1,992 to $61,044 are payable for ten
years certain, generally beginning at age 65. Reduced benefits apply in cases of
early retirement or death prior to the benefit date, as defined. Liability
accrued for compensation deferred under the plan amounts to $496,765 and
$379,034 at December 31, 2000 and 1999, respectively. Charges to income are
based on present value of future cash payments, discounted at 8%.
The Bank is owner and beneficiary of life insurance policies on these directors.
Policy cash values totaled $174,921 and $161,992 at December 31, 2000 and 1999,
respectively.
Note 12. Income Taxes
Current and Deferred Income Tax Components
The components of income tax expense (substantially all Federal) are as follows:
2000 1999 1998
-------------- ------------- --------------
Current $ 752,807 $ 443,351 $ 480,577
Deferred (65,682) 22,524 (83,605)
-------------- ------------- --------------
$ 687,125 $ 465,875 $ 396,972
============== ============= ==============
Rate Reconciliation
A reconciliation of income tax expense computed at the statutory federal income
tax rate to income tax expense included in the statements of income follows:
2000 1999 1998
-------------- ------------- --------------
Tax at statutory federal rate $ 935,284 $ 819,410 $ 780,114
Tax exempt interest income (208,202) (250,237) (263,651)
State income tax, net of federal benefit 4,264 - -
Other (44,221) (103,298) (119,491)
-------------- ------------- --------------
$ 687,125 $ 465,875 $ 396,972
============== ============= ==============
Deferred Income Tax Analysis
The components of net deferred tax assets (all Federal) at December 31, 2000 and
1999 are summarized as follows:
2000 1999
------------- --------------
Deferred tax assets $ 830,503 $ 932,698
Deferred tax liabilities (75,428) (78,510)
------------- --------------
$ 755,075 $ 854,188
============= ==============
F-16
================================================================================
Notes to Consolidated Financial Statements
- --------------------------------------------------------------------------------
Note 12. Income Taxes, continued
The tax effects of each significant item creating deferred taxes are summarized
below:
2000 1999
------------- --------------
Net unrealized depreciation on securities
available for sale $ 10,009 $ 174,804
Allowance for loan losses 530,585 523,184
Unearned credit life insurance 33,640 35,215
Deferred compensation and accrued pension costs 217,600 134,813
Others creating deferred tax benefits 38,669 64,682
Accretion of discount on investment securities (14,557) (8,832)
Depreciation (60,871) (69,678)
------------- --------------
$ 755,075 $ 854,188
============= ==============
Note 13. Commitments and Contingencies
Litigation
In the normal course of business the Bank is involved in various legal
proceedings. After consultation with legal counsel, management believes that any
liability resulting from such proceedings will not be material to the
consolidated financial statements.
Financial Instruments with Off-Balance-Sheet Risk
The Bank is party to financial instruments with off-balance-sheet risk in the
normal course of business to meet the financing needs of its customers. These
financial instruments include commitments to extend credit and standby letters
of credit. These instruments involve, to varying degrees, credit risk in excess
of the amount recognized in the consolidated balance sheets.
The Bank'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 those instruments.
The Bank uses the same credit policies in making commitments and conditional
obligations as for on-balance-sheet instruments. A summary of the Bank's
commitments at December 31, 2000 and 1999 is as follows:
2000 1999
------------- --------------
Commitments to extend credit $ 5,405,757 $ 7,191,143
Standby letters of credit - -
------------- --------------
$ 5,405,757 $ 7,191,143
============= ==============
Commitments to extend credit are agreements to lend to a customer as long as
there is no violation of any condition established in the contract. Commitments
generally have fixed expiration dates or other termination clauses and may
require payment of a fee. Since many of the commitments are expected to expire
without being drawn upon, the total commitment amounts do not necessarily
represent future cash requirements. The Bank evaluates each customer's
creditworthiness on a case-by-case basis. The amount of collateral obtained, if
deemed necessary by the Bank upon extension of credit, is based on management's
credit evaluation of the party. Collateral held varies, but may include accounts
receivable, inventory, property and equipment, residential real estate and
income-producing commercial properties.
F-17
================================================================================
Notes to Consolidated Financial Statements
- --------------------------------------------------------------------------------
Note 13. Commitments and Contingencies, continued
Financial Instruments with Off-Balance-Sheet Risk, continued
Standby letters of credit are conditional commitments issued by the Bank to
guarantee the performance of a customer to a third party. Those guarantees are
primarily issued to support public and private borrowing arrangements. The
credit risk involved in issuing letters of credit is essentially the same as
that involved in extending loan facilities to customers. Collateral held varies
as specified above and is required in instances which the Bank deems necessary.
Concentrations of Credit Risk
Substantially all of the Bank's loans, commitments to extend credit, and standby
letters of credit have been granted to customers in the Bank's market area and
such customers are generally depositors of the Bank. Investments in state and
municipal securities involve governmental entities within and outside the Bank's
market area. The concentrations of credit by type of loan are set forth in Note
4. The distribution of commitments to extend credit approximates the
distribution of loans outstanding. Standby letters of credit are granted
primarily to commercial borrowers. The Bank's primary focus is toward small
business and consumer transactions, and accordingly, it does not have a
significant number of credits to any single borrower or group of related
borrowers in excess of $500,000. The Bank has cash and cash equivalents on
deposit with financial institutions which exceed federally insured limits.
Note 14. Regulatory Restrictions
Dividends
The Company's dividend payments are made from dividends received from the Bank.
Under applicable federal law, the Comptroller of the Currency restricts national
bank total dividend payments in any calendar year to net profits of that year,
as defined, combined with retained net profits for the two preceding years. The
Comptroller also has authority under the Financial Institutions Supervisory Act
to prohibit a national bank from engaging in an unsafe or unsound practice in
conducting its business. It is possible, under certain circumstances, the
Comptroller could assert that dividends or other payments would be an unsafe or
unsound practice.
Intercompany Transactions
The Bank's legal lending limit on loans to the Company is governed by Federal
Reserve Act 23A, and differs from legal lending limits on loans to external
customers. Generally, a bank may lend up to 10% of its capital and surplus to
its Parent, if the loan is secured. If collateral is in the form of stocks,
bonds, debentures or similar obligations, it must have a market value when the
loan is made of at least 20% more than the amount of the loan, and if
obligations of a state or political subdivision or agency thereof, it must have
a market value of at least 10% more than the amount of the loan. If such loans
are secured by obligations of the United States or agencies thereof, or by
notes, drafts, bills of exchange or bankers' acceptances eligible for rediscount
or purchase by a Federal Reserve Bank, requirements for collateral in excess of
the loan amount do not apply. Under this definition, the legal lending limit for
the Bank on loans to the Company was approximately $1,652,000 at December 31,
2000. No 23A transactions were deemed to exist between the Company and the Bank
at December 31, 2000.
Capital Requirements
The Bank is subject to various regulatory capital requirements administered by
federal banking agencies. Failure to meet minimum capital requirements can
initiate certain mandatory (and possibly additional discretionary) actions by
regulators that, if undertaken, could have a direct material effect on the
Company's consolidated financial statements. Under capital adequacy guidelines
and the regulatory framework for prompt corrective action, the Bank must meet
specific capital guidelines that involve quantitative measures of the Bank's
assets, liabilities, and certain off-balance-sheet items as calculated under
regulatory accounting practices. The Bank's capital amounts and classification
are also subject to qualitative judgments by the regulators about components,
risk weightings, and other factors.
F-18
================================================================================
Notes to Consolidated Financial Statements
- --------------------------------------------------------------------------------
Note 14. Regulatory Restrictions, continued
Capital Requirements, continued
Quantitative measures established by regulation to ensure capital adequacy
require the Bank to maintain minimum amounts and ratios (set forth in the table
below) of total and Tier I capital to risk-weighted assets, and of Tier I
capital to average assets, as all those terms are defined in the regulations.
Management believes, as of December 31, 2000, that the Bank meets all capital
adequacy requirements to which it is subject.
As of December 31, 2000, the most recent notification from the Office of the
Comptroller of the Currency 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 following table. There are no
conditions or events since that notification that management believes have
changed the institution's category.
The Bank's actual capital amounts and ratios are also presented in the table (in
thousands).
To Be Well
Capitalized Under
For Capital Prompt Corrective
Actual Adequacy Purposes Action Provisions
--------------------- --------------------- ---------------------
Amount Ratio Amount Ratio Amount Ratio
--------- ------- --------- ------- --------- -------
December 31, 2000:
Total Capital
(to Risk-Weighted Assets) $ 16,254 13.6% >=$ 9,571 >= 8.0% >=$ 11,964 >= 10.0%
Tier I Capital
(to Risk-Weighted Assets) $ 14,755 12.3% >=$ 4,785 >= 4.0% >=$ 7,178 >= 6.0%
Tier I Capital
(to Average Assets) $ 14,755 8.1% >=$ 7,243 >= 4.0% >=$ 9,054 >= 5.0%
December 31, 1999:
Total Capital
(to Risk-Weighted Assets) $ 14,665 13.5% >=$ 8,676 >= 8.0% >=$ 10,844 >= 10.0%
Tier I Capital
(to Risk-Weighted Assets) $ 13,305 12.3% >=$ 4,338 >= 4.0% >=$ 6,507 >= 6.0%
Tier I Capital
(to Average Assets) $ 13,305 7.8% >=$ 6,827 >= 4.0% >=$ 8,534 >= 5.0%
F-19
================================================================================
Notes to Consolidated Financial Statements
- --------------------------------------------------------------------------------
Note 15. Transactions with Related Parties
The Bank has entered into transactions with its directors, significant
shareholders and their affiliates (related parties). Such transactions were made
in the ordinary course of business on substantially the same terms and
conditions, including interest rates and collateral, as those prevailing at the
same time for comparable transactions with other customers, and did not, in the
opinion of management, involve more than normal credit risk or present other
unfavorable features.
Aggregate 2000 and 1999 loan transactions with related parties were as follows:
2000 1999
------------- -------------
Balance, beginning $ 2,316,286 $ 2,238,396
New loans 369,368 607,880
Repayments (518,093) (529,990)
------------- -------------
Balance, ending $ 2,167,561 $ 2,316,286
============= =============
Note 16. Parent Company Financial Information
Condensed financial information of Grayson Bankshares, Inc. is presented as
follows:
Balance Sheets
December 31, 2000 and 1999
2000 1999
------------- -------------
Assets
Cash and due from banks $ 4,097,977 $ 4,103,199
Securities available for sale 796,433 772,913
Investment in affiliate bank at equity 14,736,841 12,982,552
Other assets 26,272 31,408
------------- -------------
Total assets $ 19,657,523 $ 17,890,072
============= =============
Liabilities
Other liabilities $ 19,862 $ -
------------- -------------
Stockholders' equity
Common stock 2,148,710 1,074,355
Surplus 521,625 521,625
Retained earnings 16,986,754 16,633,418
Accumulated other comprehensive income (19,428) (339,326)
------------- -------------
Total stockholders' equity 19,637,661 17,890,072
------------- -------------
Total liabilities and stockholders' equity $ 19,657,523 $ 17,890,072
============= =============
F-20
================================================================================
Notes to Consolidated Financial Statements
- --------------------------------------------------------------------------------
Note 16. Parent Company Financial Information, continued
Statements of Income
For the years ended December 31, 2000, 1999 and 1998
2000 1999 1998
-------------- ------------- -------------
Income:
Dividends from affiliate bank $ 636,018 $ 567,260 $ 515,690
Interest on taxable securities 46,000 46,000 42,142
-------------- ------------- -------------
682,018 613,260 557,832
-------------- ------------- -------------
Expenses:
Management and professional fees 73,950 66,076 64,215
Other expenses 5,208 3,667 3,810
-------------- ------------- -------------
79,158 69,743 68,025
-------------- ------------- -------------
Income before tax benefit and equity
in undistributed income of affiliate 602,860 543,517 489,807
Federal income tax benefit 10,934 8,073 8,801
-------------- ------------- -------------
Income before equity in undistributed
income of affiliate 613,794 551,590 498,608
Equity in undistributed income of affiliate 1,449,915 1,392,563 1,398,872
-------------- ------------- -------------
Net income $ 2,063,709 $ 1,944,153 $ 1,897,480
============== ============= =============
Statements of Cash Flows
For the years ended December 31, 2000, 1999 and 1998
2000 1999 1998
-------------- ------------- -------------
Cash flows from operating activities:
Net income $ 2,063,709 $ 1,944,153 $ 1,897,480
Adjustments to reconcile net income to net
cash provided by operating activities:
Increase in equity in undistributed income of affiliate (1,449,915) (1,392,563) (1,398,872)
Net (increase) decrease in other assets (2,860) 13,181 (12,071)
Net increase in other liabilities 19,862 - -
-------------- ------------- -------------
Net cash provided by operating activities 630,796 564,771 486,537
-------------- ------------- -------------
Cash flows from investing activities:
Purchase of investment securities - - (450,000)
Maturities of investment securities - - 250,000
-------------- ------------- -------------
Net cash provided by investing activities - - (200,000)
-------------- ------------- -------------
Cash flows from financing activities:
Dividends paid (636,018) (567,260) (515,690)
-------------- ------------- -------------
Net cash used by financing activities (636,018) (567,260) (515,690)
-------------- ------------- -------------
Net increase (decrease) in cash and due from banks (5,222) (2,489) (229,153)
Cash and cash equivalents, beginning 4,103,199 4,105,688 4,334,841
-------------- ------------- -------------
Cash and cash equivalents, ending $ 4,097,977 $ 4,103,199 $ 4,105,688
============== ============= =============
F-21
SIGNATURES
Pursuant to the requirements of Section 13 or 15(d) of the Securities
Exchange Act of 1934, as amended, the registrant has duly caused this report to
be signed on its behalf by the undersigned, thereunto duly authorized.
GRAYSON BANKSHARES, INC.
Date: March 29, 2001 By: /s/ Jacky K. Anderson
-------------------------------------
Jacky K. Anderson
President and Chief Executive Officer
Pursuant to the requirements of the Securities Exchange Act of 1934, as
amended, this report has been signed below by the following persons on behalf of
the registrant and in the capacities and on the dates indicated.
Signature Title Date
--------- ----- ----
/s/ Jacky K. Anderson President and Chief Executive March 29, 2001
- ------------------------------------------- Officer and Director
Jacky K. Anderson (Principal Executive Officer)
/s/ Blake M. Edwards, Jr. Chief Financial Officer March 29, 2001
- ------------------------------------------- (Principal Financial
Blake M. Edwards, Jr. and Accounting Officer)
/s/ Dennis B. Gambill Director March 29, 2001
- -------------------------------------------
Dennis B. Gambill
/s/ Julian L. Givens Director March 30, 2001
- -------------------------------------------
Julian L. Givens
Director March __, 2001
- -------------------------------------------
Jack E. Guynn, Jr.
/s/ Fred B. Jones Director March 30, 2001
- -------------------------------------------
Fred B. Jones
Director March __, 2001
- -------------------------------------------
Jean W. Lindsey
Signature Title Date
--------- ----- ----
/s/ Carl J. Richardson Director March 30, 2001
- -------------------------------------------
Carl J. Richardson
Director March __, 2001
- -------------------------------------------
Charles T. Sturgill
Director March __, 2001
- -------------------------------------------
J. David Vaughan
EXHIBIT INDEX
Exhibit No. Document
----------- --------
3.1 Articles of Incorporation, incorporated by reference to
Exhibit 3.1 of the Company's Registration Statement on Form
10, File No. 0-30535 (the "Form 10").
3.2 Bylaws, incorporated by reference to Exhibit 3.2 of the
Form 10.
21 Subsidiary of the Company.*
_________________________
* Filed herewith