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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
_____________
 
FORM 10-Q

Quarterly Report Pursuant to Section 13 or 15 (d) of the
Securities Exchange Act of 1934

For the Quarterly Period Ended June 30, 2003 – Commission File Number 1-11823
_____________
 
PAB BANKSHARES, INC.
(A Georgia Corporation)
IRS Employer Identification Number: 58-1473302

3250 North Valdosta Road, Valdosta, Georgia 31602
Telephone Number: (229) 241-2775


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 o

Indicate by check mark whether the registrant is an accelerated filer (as defined in Rule 12b-2 of the Exchange Act).
Yes x No o 

The number of shares outstanding of the registrant’s common stock at July 31, 2003 was 9,441,704 shares.

 
     
 
TABLE OF CONTENTS

 
 
 
Page
PART I
FINANCIAL INFORMATION
 
Item 1.
Consolidated Financial Statements (Unaudited)
 
 
Statements of Condition
3
 
Statements of Income
4
 
Statements of Comprehensive Income
5
 
Statements of Stockholders’ Equity
6
 
Statements of Cash Flows
7
 
Notes to Consolidated Financial Statements
9
Item 2.
Management’s Discussion and Analysis of Financial Condition and Results of Operations
12
Item 3.
Qualitative and Quantitative Disclosures About Market Risk
22
Item 4.
Internal Controls
23
   

 

PART I
OTHER INFORMATION
 
Item 1.
Legal Proceedings
None
Item 2.
Changes in Securities and Use of Proceeds
None
Item 3.
Defaults Upon Senior Securities
None
Item 4.
Submissions of Matters to a Vote of Security Holders
24
Item 5.
Other Information
None
Item 6.
Exhibits and Reports on Form 8-K
24
 
 
 
SIGNATURES
 
25
 
 
  -2-   
 
 
PART I. FINANCIAL INFORMATION
 
PAB BANKSHARES, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CONDITION
AS OF JUNE 30, 2003 AND DECEMBER 31, 2002
 
 
    

June 30, 

 

 
December 31,

 

 

 

 
2003

 

 
2002
 
   
 
 
 
  

 (Unaudited)

    
 
  
ASSETS
   
 
    
 
  
Cash and due from banks
 
$
29,712,947
 
$
25,199,278
 
Interest-bearing deposits in other banks
   
910,826
   
974,848
 
Federal funds sold
   
8,861,000
   
30,784,000
 
Investment securities
   
140,366,607
   
98,025,604
 
 
    
 
    
 
  
Loans
   
529,230,561
   
555,238,242
 
Allowance for loan losses
   
(10,728,347
)
 
(12,096,988
)
   
 
 
Net loans
   
518,502,214
   
543,141,254
 
   
 
 
 
    
 
    
 
  
Premises and equipment
   
21,584,770
   
22,555,234
 
Goodwill and other intangible assets
   
5,984,604
   
5,984,604
 
Cash value of bank-owned life insurance policies
   
10,187,773
   
9,950,135
 
Foreclosed assets
   
1,882,044
   
1,284,487
 
Other assets
   
10,024,687
   
10,011,854
 
   
 
 
Total assets
 
$
748,017,472
 
$
747,911,298
 
   
 
 
LIABILITIES AND STOCKHOLDERS' EQUITY
   
 
    
 
  
Deposits:
   
 
    
 
  
Noninterest-bearing demand
 
$
89,533,990
 
$
87,667,055
 
Interest-bearing demand and savings
   
201,180,618
   
213,981,795
 
Time
   
282,515,454
   
305,081,383
 
   
 
 
Total deposits
   
573,230,062
   
606,730,233
 
   
 
 
Federal funds purchased and securities sold under agreements to repurchase
   
25,021,090
   
17,520,242
 
Advances from the Federal Home Loan Bank of Atlanta
   
59,491,689
   
36,144,910
 
Guaranteed preferred beneficial interests in debentures (trust preferred securities)
   
10,000,000
   
10,000,000
 
Other liabilities
   
5,708,536
   
6,251,175
 
   
 
 
Total liabilities
   
673,451,377
   
676,646,560
 
   
 
 
Stockholders' equity:
   
 
    
 
  
Preferred stock, no par value, 1,500,000 shares authorized, no shares issued
   
-
   
-
 
Common stock, no par value, 98,500,000 shares authorized,
   
 
    
 
  
9,434,813 and 9,430,413 shares issued
   
1,217,065
   
1,217,065
 
Additional paid-in capital
   
28,827,411
   
28,785,476
 
Retained earnings
   
43,218,866
   
40,228,327
 
Accumulated other comprehensive income
   
1,302,753
   
1,033,870
 
   
 
 
Total stockholders’ equity
   
74,566,095
   
71,264,738
 
   
 
 
Total liabilities and stockholders' equity
 
$
748,017,472
 
$
747,911,298
 
   
 
 
See accompanying notes to consolidated financial statements.
   
 
    
 
  
 
    
 
    
 
  
 
 
  -3-   
 

PAB BANKSHARES, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF INCOME
(Unaudited)
   

Three Months Ended

 

Six Months Ended

 

 

 

June 30,

 

June 30,

  
   
 
 
 
    
2003

 

 
2002

 

 
2003

 

 
2002
 
   
 
 
 
 
Interest income:
   
 
    
 
    
 
    
 
  
Interest and fees on loans
 
$
8,953,641
 
$
10,688,056
 
$
18,276,790
 
$
22,132,465
 
Interest and dividends on investment securities:
   
 
    
 
    
 
    
 
  
Taxable
   
997,672
   
1,299,852
   
1,950,342
   
2,654,845
 
Nontaxable
   
88,245
   
53,279
   
172,414
   
102,800
 
Other interest income
   
35,086
   
74,985
   
91,735
   
215,697
 
   
 
 
 
 
Total interest income
   
10,074,644
   
12,116,172
   
20,491,281
   
25,105,807
 
   
 
 
 
 
Interest expense:
   
 
    
 
    
 
    
 
  
Interest on deposits
   
2,679,102
   
4,344,957
   
5,642,670
   
9,738,447
 
Interest on Federal Home Loan Bank advances
   
397,199
   
565,301
   
841,819
   
1,012,227
 
Interest on other borrowings
   
127,928
   
70,769
   
258,693
   
149,146
 
Other interest expense
   
49,910
   
169,109
   
104,235
   
319,343
 
   
 
 
 
 
Total interest expense
   
3,254,139
   
5,150,136
   
6,847,417
   
11,219,163
 
   
 
 
 
 
Net interest income
   
6,820,505
   
6,966,036
   
13,643,864
   
13,886,644
 
 
    
 
    
 
    
 
    
 
  
Provision for loan losses
   
-
   
518,834
   
-
   
974,834
 
   
 
 
 
 
Net interest income after provision for loan losses
   
6,820,505
   
6,447,202
   
13,643,864
   
12,911,810
 
   
 
 
 
 
Other income:
   
 
    
 
    
 
    
 
  
Service charges on deposit accounts
   
1,287,588
   
1,346,012
   
2,534,039
   
2,639,450
 
Other fee income
   
453,579
   
468,267
   
965,471
   
926,847
 
Securities transactions, net
   
107,199
   
42,696
   
357,774
   
28,060
 
Other noninterest income
   
38,311
   
116,080
   
190,753
   
565,029
 
   
 
 
 
 
Total other income
   
1,886,677
   
1,973,055
   
4,048,037
   
4,159,386
 
   
 
 
 
 
Other expenses:
   
 
    
 
    
 
    
 
  
Salaries and employee benefits
   
3,817,765
   
3,343,238
   
7,811,405
   
6,755,610
 
Occupancy expense of premises
   
442,816
   
413,058
   
877,906
   
818,262
 
Furniture and equipment expense
   
615,315
   
578,866
   
1,201,915
   
1,184,027
 
Other noninterest expense
   
1,348,663
   
1,616,000
   
2,638,672
   
3,306,646
 
   
 
 
 
 
Total other expenses
   
6,224,559
   
5,951,162
   
12,529,898
   
12,064,545
 
   
 
 
 
 
Income before income tax expense
   
2,482,623
   
2,469,095
   
5,162,003
   
5,006,651
 
Income tax expense
   
750,972
   
768,731
   
1,605,507
   
1,568,606
 
   
 
 
 
 
Net income
 
$
1,731,651
 
$
1,700,364
 
$
3,556,496
 
$
3,438,045
 
   
 
 
 
 
Earnings per common share:
   
 
 
  
 
 
  
 
 
  
 
 
Basic
 
$
0.18
 
$
0.18
 
$
0.38
 
$
0.36
 
   
 
 
 
 
Diluted
 
$
0.18
 
$
0.18
 
$
0.37
 
$
0.36
 
   
 
 
 
 
See accompanying notes to consolidated financial statements.
 
 
    
 
    
 
  
 
 
  -4-   
 
 
PAB BANKSHARES, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME
(Unaudited)
 
  
 
 
 
 
   

 Three Months Ended

 

 Six Months Ended

 

 

 

 June 30,

 

 June 30,

 
   
 
 
    
2003

 

 
2002

 

 
2003

 

 
2002
 
   
 
 
 
 
 
    
 
    
 
    
 
    
 
  
Net income
 
$
1,731,651
 
$
1,700,364
 
$
3,556,495
 
$
3,438,045
 
 
    
 
    
 
    
 
    
 
  
Other comprehensive income:
   
 
    
 
    
 
    
 
  
Unrealized holding gains arising during the period, net of
   
 
    
 
    
 
    
 
  
tax of $402,719 and $347,000 for the quarter and
   
 
    
 
    
 
    
 
  
$260,158 and $133,873 for the year
   
781,749
   
673,588
   
505,014
   
259,872
 
Reclassification adjustment for gains included in net
   
 
    
 
    
 
    
 
  
income, net of tax of $36,448 and $14,517 for the
   
 
    
 
    
 
    
 
  
quarter and $121,643 and $9,540 for the year
   
(70,751
)
 
(28,179
)
 
(236,131
)
 
(18,520
)
   
 
 
 
 
 
    
710,998
   
645,409
   
268,883
   
241,352
 
   
 
 
 
 
Comprehensive income
 
$
2,442,649
 
$
2,345,773
 
$
3,825,378
 
$
3,679,397
 
   
 
 
 
 
See accompanying notes to consolidated financial statements.
 
 
    
 
    
 
  
 
 
  -5-   
 

PAB BANKSHARES, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF STOCKHOLDERS’ EQUITY
SIX MONTHS ENDED JUNE 30, 2003 AND YEAR ENDED DECEMBER 31, 2002
(Unaudited)
                     

Accumulated 

        
   

Common Stock

    

Additional

          

Other 

        
   
   

Paid-in

    

Retained

    

Comprehensive

        
 
    

Shares 

 

 
Par Value

 

 
Capital

 

 
Earnings

 

 
Income

 

 
Total
 
   
 
 
 
 
 
 
Balance, December 31, 2001
   
9,409,913
 
$
1,217,065
 
$
28,657,351
 
$
34,917,898
 
$
579,569
 
$
65,371,883
 
Net income
   
-
   
-
   
-
   
6,346,839
   
-
   
6,346,839
 
Other comprehensive income
   
-
   
-
   
-
   
-
   
454,301
   
454,301
 
Cash dividends declared,
   
 
    
 
    
 
    
 
    
 
    
 
  
$.11 per share
   
-
   
-
   
-
   
(1,036,410
)
 
-
   
(1,036,410
)
Stock options exercised
   
20,500
   
-
   
128,125
   
-
   
-
   
128,125
 
   
 
 
 
 
 
 
Balance, December 31, 2002
   
9,430,413
   
1,217,065
   
28,785,476
   
40,228,327
   
1,033,870
   
71,264,738
 
Net income
   
-
   
-
   
-
   
3,556,496
   
-
   
3,556,496
 
Other comprehensive income
   
-
   
-
   
-
   
-
   
268,883
   
268,883
 
Cash dividends declared,
   
 
    
 
    
 
    
 
    
 
    
 
  
$.06 per share
   
-
   
-
   
-
   
(565,957
)
 
-
   
(565,957
)
Stock options exercised
   
4,400
   
-
   
41,935
   
-
   
-
   
41,935
 
   
 
 
 
 
 
 
Balance, June 30, 2003
   
9,434,813
 
$
1,217,065
 
$
28,827,411
 
$
43,218,866
 
$
1,302,753
 
$
74,566,095
 
   
 
 
 
 
 
 
 
    
 
    
 
    
 
    
 
    
 
    
 
  
See accompanying notes to consolidated financial statements.
 
 
    
 
    
 
    
 
  
 
 
  -6-   
 

PAB BANKSHARES, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
SIX MONTHS ENDED JUNE 30, 2003 AND 2002
(Unaudited)
 
    
2003

 

 
2002
 
   
 
 
CASH FLOWS FROM OPERATING ACTIVITIES
   
 
    
 
  
Net income
 
$
3,556,496
 
$
3,438,045
 
Adjustments to reconcile net income to net cash
   
 
    
 
  
provided by operating activities:
   
 
    
 
  
Depreciation, amortization and accretion, net
   
1,731,597
   
1,397,178
 
Provision for loan losses
   
-
   
974,834
 
Net realized gain on securities transactions
   
(357,775
)
 
(28,061
)
Net loss on disposal of assets
   
123,567
   
4,261
 
Net gain on sale of branch office
   
-
   
(100,000
)
Increase in cash value of bank-owned life insurance
   
(237,638
)
 
(234,230
)
Increase (decrease) in deferred compensation accrual
   
69,027
   
(63,412
)
Decrease in retirement accruals
   
(182,376
)
 
(201,389
)
Decrease in taxes receivable
   
10,507
   
830,387
 
Decrease in interest receivable
   
521,910
   
1,783,234
 
Decrease in interest payable
   
(223,852
)
 
(1,592,003
)
Net increase in prepaid expenses and other assets
   
(107,205
)
 
(1,895,809
)
Net decrease in accrued expenses and other liabilities
   
(481,082
)
 
(215,911
)
   
 
 
Net cash provided by operating activities
   
4,423,176
   
4,097,124
 
   
 
 
CASH FLOWS FROM INVESTING ACTIVITIES
   
 
    
 
  
Decrease in interest-bearing deposits in other banks
   
64,022
   
14,323,830
 
Decrease in Federal funds sold
   
21,923,000
   
9,223,000
 
Purchase of securities available for sale
   
(92,706,407
)
 
(29,453,183
)
Proceeds from sales and calls of securities available for sale
   
36,659,399
   
40,210,857
 
Proceeds from maturities and paydowns of securities available for sale
   
14,800,721
   
13,735,334
 
Purchase of restricted and other equity investments
   
(1,444,700
)
 
(980,150
)
Redemption of restricted and other equity investments
   
543,800
   
540,500
 
Net decrease in loans
   
23,076,594
   
36,280,183
 
Net proceeds from sale of branch office
   
-
   
7,748,200
 
Purchase of premises and equipment
   
(665,149
)
 
(2,181,998
)
Proceeds from disposal of assets
   
740,135
   
777,441
 
   
 
 
Net cash provided by investing activities
   
2,991,415
   
90,224,014
 
   
 
 
CASH FLOWS FROM FINANCING ACTIVITIES
   
 
    
 
  
Net decrease in deposits
   
(33,500,171
)
 
(87,306,371
)
Net increase (decrease) in Federal funds purchased and
   
 
    
 
  
securities sold under agreements to repurchase
   
7,500,848
   
(1,316,429
)
Advances from Federal Home Loan Bank
   
36,000,000
   
-
 
Payments on Federal Home Loan Bank advances
   
(12,653,221
)
 
(1,496,094
)
Dividends paid
   
(287,313
)
 
(2,077,300
)
Proceeds from the exercise of stock options
   
41,935
   
128,125
 
Repurchase of preferred stock in REIT subsidiaries
   
(3,000
)
 
(19,000
)
   
 
 
Net cash used in financing activities
   
(2,900,922
)
 
(92,087,069
)
   
 
 
 
 
  -7-   
 
 
 
    
 
    
 
  
PAB BANKSHARES, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
SIX MONTHS ENDED JUNE 30, 2003 AND 2002
(Unaudited)
 
    
2003

 

 
2002
 
   
 
 
Net increase in cash and due from banks
 
$
4,513,669
 
$
2,234,069
 
 
    
 
    
 
  
Cash and due from banks at beginning of period
   
25,199,278
   
28,188,779
 
   
 
 
Cash and due from banks at end of period
 
$
29,712,947
 
$
30,422,848
 
   
 
 
 
    
 
    
 
  
SUPPLEMENTAL DISCLOSURES OF CASH FLOW INFORMATION
   
 
    
 
  
Cash paid during the period for:
   
 
    
 
  
Interest
 
$
7,071,269
 
$
12,811,166
 
   
 
 
Taxes
 
$
1,595,000
 
$
2,398,993
 
   
 
 
 
    
 
    
 
  
NONCASH INVESTING AND FINANCING TRANSACTIONS
   
 
    
 
  
Increase in unrealized gains on securities available for sale
 
$
407,399
 
$
365,466
 
   
 
 
Transfer of premises and equipment to other assets
 
$
551,269
 
$
-
 
   
 
 
 
    
 
    
 
  
See accompanying notes to consolidated financial statements.
   
 
    
 
  
 
 
  -8-   
 
PAB BANKSHARES, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)
 


NOTE 1. NATURE OF BUSINESS

PAB Bankshares, Inc. (the "Company") is a bank holding company whose business is primarily conducted by its wholly-owned commercial bank subsidiary, The Park Avenue Bank (the Bank). The Bank is a state-chartered, member bank of the Federal Reserve System that was originally founded in 1956 in Valdosta, Lowndes County, Georgia. Through the Bank, the Company offers a broad range of commercial and consumer banking products and services to customers located in the local market areas listed below. The Company and the Bank are subject to the regulations of certain federal and state agencies and are periodically examined by those regulatory agencies.

Banking Location
# of Offices
 
 
Valdosta, Lowndes County, Georgia
3 (including the main office)
Lake Park, Lowndes County, Georgia
1
Adel, Cook County, Georgia
1
Bainbridge, Decatur County, Georgia
3
Cairo, Grady County, Georgia
1
Statesboro, Bulloch County, Georgia
2
Baxley, Appling County, Georgia
1
Hazlehurst, Jeff Davis County, Georgia
1
McDonough, Henry County, Georgia
1
Ocala, Marion County, Florida
2
Oakwood, Hall County, Georgia
1

In addition to the banking products and services, the Bank offers brokerage, insurance, annuity, and investment planning services to its customers from its main office in Valdosta, Georgia.

The Company also owns PAB Bankshares Capital Trust I, a Delaware statutory business trust. This non-operating subsidiary was created in 2001 for the sole purpose of issuing trust preferred securities and investing the proceeds in subordinated debt issued by the Company.

NOTE 2. BASIS OF PRESENTATION

The accompanying consolidated financial information of the Company is unaudited; however, such information reflects all adjustments (consisting of normal recurring adjustments) which are, in the opinion of management, necessary for a fair presentation of the financial position and results of operations. The results of operations for the three months and six months ended June 30, 2003 are not necessarily indicative of the results that may be expected for the full year. These statements should be read in conjunction with the consolidated financial statements and notes thereto included in the Company's Annual Report on Form 10-K for the year ended December 31, 2002.

The consolidated financial statements include the accounts of the Company and its subsidiaries. Significant intercompany transactions and balances are eliminated in consolidation.

In preparing financial statements in conformity with accounting principles generally accepted in the United States of America, management is required to make estimates and assumptions that affect the reported amounts of assets and liabilities and the disclosure of contingent assets and liabilities as of the balance sheet date 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 in the near term relate to the determination of the allowance for loan losses, the valuation of goodwill, the valuation of foreclosed assets, and deferred taxes.

 
  -9-   
 
PAB BANKSHARES, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)
 
 
NOTE 3. EARNINGS PER SHARE

The following table sets forth the computation of basic and diluted earnings per share:
     
   

 Three Months Ended

 

 

 

 

 Six Months Ended

 

 

 

 June 30,

 

 

 

 

 June 30,

  
   
       
 
 
    
2003

 

 
2002

 

 
 

 

 
2003

 

 
2002
 
   
 
       
 
 
Basic earnings per share:
   
 
    
 
    
 
    
 
    
 
  
Net income
 
$
1,731,651
 
$
1,700,364
   
 
  
$
3,556,496
 
$
3,438,045
 
   
 
       
 
 
Weighted average common shares outstanding
   
9,431,644
   
9,430,413
   
 
    
9,431,032
   
9,423,048
 
   
 
       
 
 
Earnings per common share
 
$
0.19
 
$
0.18
   
 
  
$
0.38
 
$
0.36
 
   
 
       
 
 
Diluted earnings per share:
   
 
    
 
    
 
    
 
    
 
  
Net income
 
$
1,731,651
 
$
1,700,364
   
 
  
$
3,556,496
 
$
3,438,045
 
   
 
       
 
 
Weighted average common shares outstanding
   
9,431,644
   
9,430,413
   
 
    
9,431,032
   
9,423,048
 
Effect of dilutive stock options
   
122,701
   
24,390
   
 
    
76,516
   
33,886
 
   
 
       
 
 
Weighted average diluted common
   
 
    
 
    
 
    
 
    
 
  
shares outstanding
   
9,554,345
   
9,454,803
   
 
    
9,507,548
   
9,456,934
 
   
 
       
 
 
Earnings per common share
 
$
0.18
 
$
0.18
   
 
  
$
0.37
 
$
0.36
 
   
 
       
 
 
 
    
 
    
 
    
 
    
 
    
 
  

 
  -10-   
 
PAB BANKSHARES, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)

NOTE 4. STOCK-BASED EMPLOYEE COMPENSATION

The Company accounts for grants of stock options under its stock option plans based on the recognition and measurement principles of Accounting Principles Board Opinion No. 25, Accounting for Stock Issued to Employees , and related Interpretations. The following table illustrates the effect on net income and earnings per share for the three months and six months ended June 30, 2003 and 2002 if the Company had applied the fair value recognition provisions of Statement of Financial Accounting Standards No. 123, Accounting for Stock-Based Compensation , to stock-based employee compensation.
 
   

Three Months Ended

 

 

 

 

Six Months Ended

 

 

 

June 30,

 

 

 

 

June 30,

  
   
       
 
 
    
2003

 

 
2002

 

 
 

 

 
2003

 

 
2002
 
   
 
       
 
 
Net income, as reported
 
$
1,731,651
 
$
1,700,364
   
 
  
$
3,556,496
 
$
3,438,045
 
Deduct:
   
 
    
 
    
 
    
 
    
 
  
Total stock-based employee compensation expense
   
 
    
 
    
 
    
 
    
 
  
determined under fair value based method for all
   
 
    
 
    
 
    
 
    
 
  
awards, net of related tax effects
   
(89,466
)
 
(80,447
)
 
 
    
(174,976
)
 
(161,853
)
   
 
       
 
 
Pro forma net income
 
$
1,642,185
 
$
1,619,917
   
 
  
$
3,381,520
 
$
3,276,192
 
   
 
       
 
 
Earnings per share:
   
 
    
 
    
 
    
 
    
 
  
Basic – as reported
 
$
0.19
 
$
0.18
   
 
  
$
0.38
 
$
0.36
 
   
 
       
 
 
Basic – pro forma
 
$
0.17
 
$
0.17
   
 
  
$
0.36
 
$
0.35
 
   
 
       
 
 
Diluted – as reported
 
$
0.18
 
$
0.18
   
 
  
$
0.37
 
$
0.36
 
   
 
       
 
 
Diluted – pro forma
 
$
0.17
 
$
0.17
   
 
  
$
0.36
 
$
0.35
 
   
 
       
 
 
 
 
  -11-   
 
 
CAUTIONARY NOTICE REGARDING FORWARD-LOOKING STATEMENTS

Some of the statements in this Quarterly Report on Form 10-Q, including, without limitation, matters discussed under the caption "Management's Discussion and Analysis of Financial Condition and Results of Operation", may constitute "forward-looking statements" under the federal securities laws. Forward-looking statements include statements about the competitiveness of the banking industry, potential regulatory obligations, our allowance for loan losses, our net interest margin, our asset quality, our entrance and expansion into higher growth markets, our other business strategies and other statements that are not historical facts. When we use words like "anticipate", "believe", "intend", "plan", "expect", "estimate", "could", "should", "will", and similar expressions, you should consider them as i dentifying forward-looking statements, although some of these statements may use other phrasing. These forward-looking statements involve risks and uncertainties and are based on our beliefs and assumptions, and on the information available to us at the time that these disclosures were prepared. Factors that may cause actual results to differ materially from those expressed or implied by such forward-looking statements include, among others, the following possibilities: (1) competitive pressures among depository and other financial institutions may increase significantly; (2) changes in the interest rate environment may reduce margins; (3) general economic conditions may be less favorable than expected, resulting in, among other things, a deterioration in credit quality and/or a reduction in demand for credit; (4) legislative or regulatory changes, including changes in accounting standards, may adversely affect the businesses in which we are engaged; (5) competitors may have greater financial resources and d evelop products that enable such competitors to compete more successfully than us; (6) adverse changes may occur in the bond and equity markets; (7) war or terrorist activities may cause further deterioration in the economy or cause instability in credit markets; (8) opportunities to expand our presence in growth markets may be unavailable on terms suitable to management; and (9) restrictions or conditions imposed by our regulators on our operations may make it more difficult for us to achieve our goals. Many of such factors are beyond our ability to control or predict, and readers are cautioned not to put undue reliance on such forward-looking statements. We disclaim any obligation to update or revise any forward-looking statements contained in this Quarterly Report, whether as a result of new information, future events or otherwise.


ITEM 2. MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATION

The following discussion and analysis of the consolidated financial condition and results of operations of the Company should be read in conjunction with the Annual Consolidated Financial Statements and related Notes included in the Company’s 2002 Annual Report on Form 10-K, and is qualified in its entirety by the foregoing and other more detailed financial information appearing elsewhere. Historical results of operations and the percentage relationships among any amounts included, and any trends which may appear to be inferred, should not be taken as being necessarily indicative of trends in operations or results of operations for any future periods.

On May 20, 2002, the Board of Directors adopted a Resolution requested by our primary federal regulator, the Federal Reserve Bank of Atlanta, which, among other things, restricts us from redeeming our capital stock, paying dividends, modifying existing debt agreements, or incurring additional debt without the prior approval of our banking regulators. The Resolution is the result of an examination that found the Bank to be in less than satisfactory condition due primarily to serious weaknesses identified in the asset quality of the Bank’s loan portfolio. This Resolution will remain in effect until removed by the regulators.

FINANCIAL CONDITION

Total loans have decreased $26.0 million, or 4.7%, since December 31, 2002. This continues a trend that started eighteen months ago while we were under an examination by our regulators. Since December 31, 2001, total loans have decreased $108.6 million, or 17.0%. During this period, addressing asset quality and other issues identified in that examination has been our top priority, rather than loan production and business development. As a result, we have not generated sufficient new business to offset the maturities and refinancings of our existing portfolio. We believe, however, that the Bank’s asset quality i s much improved, and we have begun to turn our efforts back to loan production and business development.

 
  -12-   
 
 
The following table highlights the changes in the composition of the loan portfolio over the past six months.

As of Quarter End
   
Jun-03

 

 
% of Total

 

 
Dec-02

 

 
% of Total
 
  
 
  

(Dollars In Thousands)

Commercial and financial
 
$
47,281
   
8.9
%     
$
55,840
   
10.1
%
Agricultural
   
25,940
   
4.9
%
 
22,178
   
4.0
%
Real estate - construction
   
81,749
   
15.4
%
 
75,076
   
13.5
%
Real estate - mortgage (commercial and residential)
   
335,295
   
63.4
%
 
354,627
   
63.9
%
Installment loans to individuals and other loans
   
39,137
   
7.4
%
 
47,740
   
8.6
%
 
 
    
529,402
   
100.0
%
 
555,461
   
100.0
%
Unearned income, net
   
(172
)
 
0.0
%
 
(223
)
 
0.0
%
 
 
    
529,230
   
100.0
%
 
555,238
   
100.0
%
Allowance for loan losses
   
(10,728
)
 
-2.0
%
 
(12,097
)
 
-2.2
%
 
 
  
$
518,502
   
98.0
%
$
543,141
   
97.8
%
 
 
On a more positive note, we have made progress in developing business in our metro Atlanta offices. Over the past twelve months, loans in our metro Atlanta offices have grown $71.4 million, or 96.7%, from $73.9 million at June 30, 2002 to $145.3 million at June 30, 2003. As a percentage of total loans, the loans in our metro Atlanta offices have increased from 12.5% at June 30, 2002 to 27.5% one year later. During the second quarter of 2003, we closed our loan production office in Duluth, Gwinett County, Georgia and assigned the servicing of the construction and development loans generated through that office to our Henry County office.

As with most community banks, loan volume is the driver for the remainder of the bank’s balance sheet. Since our loan volume is down, we have not been aggressive in retaining time deposits. As a result, time deposits in total have decreased $22.6 million, or 7.4%, since year end and we have repaid $12.7 million in advances from the Federal Home Loan Bank of Atlanta (the "FHLB") as matured.

Total stockholders’ equity represented 9.97% of total assets at quarter end. Equity has grown $3.3 million during the first six months of the year due primarily to the retention of earnings. During the second quarter, we executed two separate leverage transactions totaling $45 million utilizing our excess capital to generate additional net interest income. In summary, we were able to take advantage of a steep yield curve to borrow $45 million ($35 million from the FHLB and $10 million in a reverse repurchase agreement) and invested those funds in higher yielding investments for an initial spread of 2.05%. The spread and resulting return on these investments are subject to interest rate risk that we will monitor on a periodic basis. This is a short-term strategy designed to help support our net interest income over the next two years.


RESULTS OF OPERATIONS

Net income for the quarter ended June 30, 2003 was $1.73 million, or $0.18 per diluted share, a slight increase compared to $1.7 million, or $0.18 per diluted share, during the same period in 2002. The increase in net income is the net result of a $519,000 decrease in the provision for loan losses and a $18,000 decrease in income tax expense, offset by a $146,000 decrease in net interest income, an $86,000 decrease in other income and a $273,000 increase in other expenses.

Net income for the year ended June 30, 2003 was $3.56 million, or $0.37 per diluted share, as compared to $3.44 million, or $0.36 per diluted share, during the same period in 2002. The increase in net income is the net result of a $975,000 decrease in the provision for loan losses, offset by a $243,000 decrease in net interest income, a $111,000 decrease in other income, a $466,000 increase in other expenses, and a $37,000 increase in income tax expense.

The reasons for these changes are discussed in more detail below.
 
 
  -13-   
 
 
Net Interest Income
The primary component of a financial institution’s profitability is its net interest income, or the difference between the interest income earned on assets, primarily loans and investments, and interest paid on liabilities, primarily deposits and other borrowed funds. For the three months ended June 30, 2003, net interest income on a taxable-equivalent basis was $6.82 million, or $172,000 less than the second quarter of 2002. Interest income decreased $2.07 million, while interest expense decreased $1.90 million. The decrease in interest income was due to the combined effect of a $53.8 million decrease in average earning assets outstanding during the period and a 67 basis point decrease in the average yield earned on those earning assets during the period. The $57.7 million decline in average loans outstanding alone represented $1.03 million of the overall decrease in interest income for the quarter. The decrease in interest expense was due to the combined effect of a $60.8 million decrease in interest-bearing liabilities outstanding during the period and a 100 basis point decrease in the average rate paid on those interest-bearing liabilities during the period. The decline in rates is reflective of the decline in overall market rates since the second quarter of 2002. The $70.0 million decline in average time deposits outstanding represented $716,000 of the overall decrease in interest expense for the quarter, while the change in rate on time deposits represented another $696,000 of the decrease in interest expense.

The net interest margin is net interest income expressed as a percentage of average earning assets. Our net interest margin for the second quarter of 2003 was 4.13%, 24 basis points higher than our net interest margin of 3.89% during the same period in 2002. However, the margin for the second quarter of 2003 was slightly lower than the 4.15% margin earned during the first quarter of 2003. Our ability to maintain our net interest margin going forward will be a challenge as long as interest rates remain constant or slide even lower than the already historically low levels.

The following table details the average balance of interest-earning assets and interest-bearing liabilities, the amount of interest earned and paid, and the average yields and rates for the three months and six months ended June 30, 2003 and 2002. Federally tax-exempt income is presented on a taxable-equivalent basis assuming a 34% Federal tax rate. Loan average balances include loans on nonaccrual status.

For the Quarter Ended June 30,
 
 
2003
 
 
2002
 
 
    
 

 

 

Interest

 

 
Average

 

 
 

 

 
Interest

 

 
Average

 

 

 

 

Average 

 

 
Income/

 

 
Yield/

 

 
Average

 

 
Income/

 

 
Yield/

 

 

 

 

Balance 

 

 
Expense

 

 
Rate

 

 
Balance

 

 
Expense

 

 
Rate
 
 
  

(Dollars In Thousands)

Interest-earning assets:
   
 
    
 
    
 
    
 
    
 
    
 
  
Loans
  
$
541,836
 
$
8,954
   
6.63
%   
$
599,539
 
$
10,688
   
7.15
%
Investment securities:
   
 
    
 
    
 
    
 
    
 
    
 
  
Taxable
   
105,155
   
998
   
3.81
%
 
99,466
   
1,108
   
4.47
%
Nontaxable
   
8,578
   
88
   
6.25
%
 
4,882
   
81
   
6.63
%
Other short-term investments
   
11,892
   
35
   
1.18
%
 
17,344
   
266
   
6.16
%
   
       
       
Total interest-earning assets
 
$
667,461
 
$
10,075
   
6.08
%
$
721,231
 
$
12,143
   
6.75
%
   
 		      
       
Interest-bearing liabilities:
   
 
    
 
    
 
    
 
    
 
    
 
  
Demand deposits
 
$
165,803
 
$
378
   
0.92
%
$
166,215
 
$
600
   
1.45
%
Savings deposits
   
39,438
   
76
   
0.77
%
 
38,913
   
108
   
1.11
%
Time deposits
   
285,368
   
2,225
   
3.13
%
 
355,362
   
3,637
   
4.11
%
FHLB advances
   
45,102
   
397
   
3.53
%
 
36,620
   
565
   
6.19
%
Notes payable
   
10,000
   
128
   
5.13
%
 
10,000
   
169
   
6.78
%
Other short-term borrowings
   
16,011
   
50
   
1.25
%
 
15,437
   
71
   
1.84
%
   
       
       
Total interest-bearing liabilities
 
$
561,721
 
$
3,254
   
2.32
%
$
622,547
 
$
5,150
   
3.32
%
   
       
       
 
    
 
    
 
    
 
    
 
    
 
    
 
  
Interest rate spread
   
 
    
 
    
3.76
%
 
 
    
 
    
3.43
%
               
             
 
 
    
 
    
 
    
 
    
 
    
 
    
 
  
Net interest income
   
 
  
$
6,821
   
 
    
 
  
$
6,993
   
 
  
         
             
       
 
    
 
    
 
    
 
    
 
    
 
    
 
  
Net interest margin
   
 
    
 
    
4.13
%
 
 
    
 
    
3.89
%
               
             
 
 
 
  -14-   
 
 
For the Six Months Ended June 30,
   
 
    
2003

 

 
 

 

 
 

 

 
2002

 

 
 

 

 

 

 

 
 

 

 

Interest

 

 
Average

 

 
 

 

 
Interest

 

 
Average

 

 

 

 

Average

 

 
Income/

 

 
Yield/

 

 
Average

 

 
Income/

 

 
Yield/

 

 

 

 

Balance

 

 
Expense

 

 
Rate

 

 
Balance

 

 
Expense

 

 
Rate
 
 
  

(Dollars In Thousands) 

Interest-earning assets:
   
 
    
 
    
 
    
 
    
 
    
 
  
Loans
 
$
548,202
 
$
18,277
   
6.72
%   
$
611,642
 
$
22,132
   
7.30
%
Investment securities:
   
 
    
 
    
 
    
 
    
 
    
 
  
Taxable
   
97,512
   
1,950
   
4.03
%
 
101,284
   
2,464
   
4.90
%
Nontaxable
   
8,307
   
172
   
6.34
%
 
4,779
   
156
   
6.57
%
Other short-term investments
   
15,461
   
92
   
1.20
%
 
27,243
   
407
   
3.01
%
   
       
       
Total interest-earning assets
 
$
669,482
 
$
20,491
   
6.20
%
$
744,948
 
$
25,159
   
6.81
%
   
       
 		        
Interest-bearing liabilities:
   
 
    
 
    
 
    
 
    
 
    
 
  
Demand deposits
 
$
168,576
 
$
828
   
0.99
%
$
167,684
 
$
1,229
   
1.48
%
Savings deposits
   
38,913
   
157
   
0.81
%
 
38,477
   
218
   
1.14
%
Time deposits
   
290,564
   
4,658
   
3.23
%
 
378,531
   
8,292
   
4.42
%
FHLB advances
   
39,743
   
842
   
4.27
%
 
37,199
   
1,012
   
5.49
%
Notes payable
   
10,000
   
258
   
5.22
%
 
10,000
   
319
   
6.44
%
Other short-term borrowings
   
16,402
   
104
   
1.28
%
 
16,107
   
149
   
1.87
%
   
       
       
Total interest-bearing liabilities
 
$
564,198
 
$
6,847
   
2.45
%
$
647,998
 
$
11,219
   
3.49
%
   
       
       
Interest rate spread
   
 
    
 
    
3.75
%
 
 
    
 
    
3.32
%
               
             
 
Net interest income
   
 
  
$
13,644
   
 
    
 
  
$
13,940
   
 
  
         
             
       
Net interest margin
   
 
    
 
    
4.14
%
 
 
    
 
    
3.77
%
               
             
 
 
    
 
    
 
    
 
    
 
    
 
    
 
  
 

 
Provision for Loan Losses
For the six months ended June 30, 2003, there was no provision for loan losses recorded, compared to $975,000 for the same period in 2002. Based on our monthly assessments of the allowance for loan losses during the quarter, no provision was needed. No net new loan growth and no material change in the level of nonperforming loans or delinquent loans during the quarter were contributing factors in our assessments.

 
  -15-   
 

The table below summarizes our levels of nonperforming loans over the past five quarters.
 
As of Quarter End
   
Jun-03

 

 
Mar-03

 

 
Dec-02

 

 
Sep-02

 

 
Jun-02
 
 
  

(Dollars in Thousands) 

Loans accounted for on a nonaccrual basis
 
$
9,842
 
$
10,301
 
$
10,378
 
$
12,100
 
$
16,058
 
Accruing loans which are contractually past due
   
 
    
 
    
 
    
 
    
 
  
90 days or more as to principal or interest payments
   
-
   
-
   
-
   
52
   
2
 
Total nonperforming loans
 
$
9,842
 
$
10,301
 
$
10,378
 
$
12,152
 
$
16,060
 
Total nonperforming loans as a percentage of
   
 
    
 
    
 
    
 
    
 
  
  total loans
   
1.86
%
 
1.88
%
 
1.87
%
 
2.20
%
 
2.72
%

For the six months ending June 30, 2003, net charge-offs of $1,369,000 was a 36.34% increase compared to $1,004,000 during the same period in 2002. During the second quarter of 2003 we charged off over $800,000 in bankrupt consumer loans. On an annualized basis, our net charge-offs for 2003 equates to 0.50% of average loans, compared to 1.06% for the 2002 fiscal year.

At June 30, 2003, the allowance as a percent of total loans was 2.03%, compared to 2.18% at December 31, 2002. We consider the current level of the allowance for loan losses adequate to absorb losses from loans in the portfolio. We have a comprehensive methodology for determining the adequacy of our allowance for loan losses. This methodology includes an assessment for specific valuations on larger loan lines and nonperforming loans, and an assessment based on environmental factors applied to other homogenous groups of otherwise performing loans. The environmental factors considered in developing our loss measurements include:
This evaluation is inherently subjective, as it requires estimates that are susceptible to significant revision as more information becomes available. While we use the best information available to make the evaluation, future adjustments to the allowance may be necessary if there are significant changes in economic conditions or other environmental factors. In addition, regulatory agencies, as an integral part of their examination process, periodically review the Bank’s allowance for loan losses, and may require the Bank to make additions to the allowance based on their judgment about information available to them at the time of their examinations.

 
  -16-   
 
 
Other Income
A summary of noninterest income follows:

For the Quarter Ended June 30,
   
2003

 

 
2002
   
 
  
 
    
 

 

 
 

 

 

Percent 

 

 

 

 

Amount 

 

 
Amount

 

 
Change
 
 
  

(Dollars in Thousands) 

Noninterest income:
   
 
    
 
    
 
  
Service charges on deposit account
 
$
1,288
 
$
1,346
   
-4.3
%
Mortgage origination fees
   
201
   
156
   
27.9
%
Securities transactions, net
   
107
   
42
   
151.1
%
Earnings on bank-owned life insurance
   
156
   
118
   
31.9
%
Loss on disposal of assets
   
(189
)
 
(72
)
 
164.3
%
Other noninterest income
   
324
   
383
   
-15.5
%
      
Total noninterest income
 
$
1,887
 
$
1,973
   
-4.5
%
 
    
 
    
 
    
 
  
 
    
 
    
 
    
 
  
 
    
 
    
 
    
 
  
For the Six Months Ended June 30,
   
2003

 

 
2002
   
 
  
    
 
    
 
    
 
    
Percent
  
 
    

Amount 

    
Amount
   
Change
 
 
  

(Dollars in Thousands)

Noninterest income:
   
 
    
 
    
 
  
Service charges on deposit account
 
$
2,534
 
$
2,639
   
-4.0
%
Mortgage origination fees
   
431
   
355
   
21.6
%
Securities transactions, net
   
358
   
28
   
1175.0
%
Earnings on bank-owned life insurance
   
238
   
234
   
1.4
%
Loss on disposal of assets
   
(194
)
 
(4
)
 
4463.3
%
Other noninterest income
   
681
   
907
   
-24.9
%
Total noninterest income
 
$
4,048
 
$
4,159
   
-2.7
%

The decrease in service charges and fees on deposit accounts is due primarily to lower transaction volume. The increase in mortgage fees is due to a continued increase in volume of mortgage originations and refinancings caused by lower mortgage rates. Gains on the sale of securities during the quarter and year were taken based on market opportunities. The increase in earnings for the quarter on bank owned life insurance was due to an accrual adjustment. Other losses increased during the second quarter of 2003 due to an $84,000 write down on other real estate and repossessions. Other noninterest income decreased in 2003 resulting from a gain of $100,000 recorded on the sale of a branch office in 2002, and an $88,000 refund received in 2002 from a vendor due to past billing discrepancies.
 
 
  -17-   
 
 
Other Expenses

A summary of noninterest expense follows:

For the Quarter Ended June 30,
   
2003

 

 
2002

 

 
 

 

 

 

 
 

 

 
 

 

 

Percent 

 

 

 

 

Amount 

 

 
Amount

 

 
Change
 
 
  

(Dollars in Thousands)

Noninterest expenses:
   
 
    
 
    
 
  
Salaries and wages
 
$
3,137
 
$
3,001
   
4.5
%
FAS 91 deferred loan cost
   
(98
)
 
(318
)
 
-69.1
%
Employee benefits
   
779
   
660
   
18.0
%
Net occupancy expense of premises
   
443
   
413
   
7.2
%
Furniture and equipment expense
   
615
   
579
   
6.3
%
Advertising and business development
   
102
   
124
   
-17.5
%
Supplies and printing
   
148
   
160
   
-7.4
%
Telephone and internet charges
   
115
   
170
   
-32.4
%
Postage and courier
   
141
   
166
   
-15.4
%
Legal and accounting fees
   
171
   
202
   
-15.3
%
Other noninterest expense
   
672
   
794
   
-15.4
%
 
Total noninterest expense
 
$
6,225
 
$
5,951
   
4.6
%
 
    
 
    
 
    
 
  
 
 
  
 
 
 
 
  
 
 
 
For the Six Months Ended June 30,
   
2003
   
2002
   
 
  
 
    
 
    
 
    
Percent
  
 
    

Amount 

    
Amount
   
Change
 
 
  

(Dollars in Thousands)

Noninterest expenses:
   
 
    
 
    
 
  
Salaries and wages
 
$
6,338
 
$
6,010
   
5.5
%
FAS 91 deferred loan cost
   
(217
)
 
(699
)
 
-68.9
%
Employee benefits
   
1,690
   
1,445
   
17.0
%
Net occupancy expense of premises
   
878
   
818
   
7.3
%
Furniture and equipment expense
   
1,202
   
1,184
   
1.5
%
Advertising and business development
   
201
   
237
   
-15.0
%
Supplies and printing
   
300
   
345
   
-13.1
%
Telephone and internet charges
   
257
   
316
   
-18.7
%
Postage and courier
   
281
   
321
   
-12.6
%
Legal and accounting fees
   
281
   
506
   
-44.5
%
Other noninterest expense
   
1,319
   
1,582
   
-16.6
%
Total noninterest expense
 
$
12,530
 
$
12,065
   
3.9
%

FAS 91 deferred loan cost, a credit against salaries and wages, decreased and resulted in an increase in expense reported during the period. The decline in the deferral of direct loan costs is due to a decline in loan volume experienced during 2003 compared to the same period in 2002. Some of the increase in employee benefits was due to higher premiums from our health care provider of 11% from 2002. An additional employee benefit expense for 2003, which was not incurred during the first half of 2002, was the Employee Stock Purchase Program (ESPP). The Company started the ESPP on July 1, 2002. The program allows for an employee or director to purchase up to $2,000 a year of the Company’s stock with the Company matching 50% of the purchase. The ESPP match expense amounted to $21,000 for the sec ond quarter and $56,000 for the year.

Legal and accounting fees were down due to the expenses incurred in the first half of 2002 on the collection and recovery of problem loans and regulatory matters. The remaining expenses decreased due primarily to efficiencies gained from our charter consolidations and the centralization of back office operations and tighter cost controls.

 
  -18-   
 
 
Income Tax Expense
During the second quarter of 2003, income tax expense was $751,000, a 2.47% decrease in comparison to the same period in 2002. Year to date for 2003, income tax expense was $1,606,000, a 2.36% increase compared to the same period in 2002. As a percentage of net income before taxes, income tax expense was 31.1% and 31.3% for the six months ending June 30, 2003 and June 30, 2002, respectively.

LIQUIDITY AND CAPITAL RESOURCES

Liquidity is an important factor in our financial condition and affects our ability to meet the borrowing needs and deposit withdrawal requirements of our customers. Assets, consisting primarily of loans and investment securities, are funded by customer deposits, borrowed funds, and retained earnings. Maturities in the investment and loan portfolios also provide a steady flow of funds for reinvestment. In addition, our liquidity continues to be enhanced by a relatively stable core deposit base and the availability of additional funding sources .

The $14.5 million quarter to date decline in deposits was offset by $36 million in FHLB advances made during the quarter. We purchased $59.5 million in investments during the second quarter of 2003, while $15.6 million in investments matured, paid down, or were sold during the same period. Our loan portfolio decreased $17.5 million during the second quarter of 2003. Our liquidity position is sufficient to fund assets when needed and meet liability obligations when they come due. At June 30, 2003, our ratio of liquid assets (defined as the sum of cash and due from bank balances, interest-bearing deposits in other banks, Fed Funds sold, and investment securities) to total assets was 24.0%, compared to 20.7% at December 31, 2002. It is our policy to maintain a ratio of liquid assets to total assets o f at least 15%.

Our financial statements do not reflect various commitments and contingent liabilities that arise in the normal course of business. These off-balance sheet financial instruments include commitments to extend credit and standby letters of credit. Such financial instruments are included in the financial statements when funds are distributed or the instruments become payable. Our 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. We use the same credit policies in making commitments as we do for on-balance s heet instruments. Although these amounts do not necessarily represent future cash requirements, a summary of our commitments as of June 30, 2003 and December 31, 2002 are as follows:   

 
    
Jun-03
   
Dec-02
 
   
 
 
  

(Dollars in Thousands)

Commitments to extend credit
 
$
60,362
 
$
70,351
 
Standby letters of credit
 
$
1,829
 
$
1,445
 
 
Stockholders’ Equity
The Company maintains a ratio of stockholders’ equity to total assets that is considered adequate according to industry standards. The Company and the Bank are required to comply with capital adequacy standards established by banking regulators. At June 30, 2003 the Company and the Bank were in compliance with those standards. There are no conditions or events since quarter end that we believe have changed our capital ratings.

The following table summarizes the regulatory capital ratios of the Company and the Bank at June 30, 2003.

 
    
 

 

 

Park

 

 
Minimum

 

 

 

 

Company

 

 
Avenue

 

 
Regulatory

 

 

 

 

Consolidated

 

 
Bank

 

 
Requirement
 
Total Capital to Risk Weighted Assets
   
15.1
%
  
14.4
%
  
8.0
%
Tier 1 Capital to Risk Weighted Assets
   
13.8
%
  
13.2
%
  
4.0
%
Tier 1 Capital to Average Assets (Leverage Ratio)
   
10.7
%
  
10.2
%
  
4.0
%*

* Under the provisions of our resolution with the Federal Reserve Bank of Atlanta, the Bank is required to maintain a minimum Tier 1 Leverage Ratio of at least 7.5%.

 
  -19-   
 
 
CRITICAL ACCOUNTING POLICIES

The preparation of financial statements and the related disclosures in conformity with accounting principles generally accepted in the United States requires that management make estimates and assumptions which effect 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. We believe that our determination of the allowance for loan losses and the fair value of assets, including the impairment of goodwill, affect our most significant judgments and estimates used in the preparation of our consolidated financial statements. The Company’s accounting policies are describ ed in detail in Note 1 of our Consolidated Financial Statements provided in Item 8 of our 2002 Annual Report on Form 10-K. The following is a brief description of the Company’s critical accounting policies involving significant management valuation judgment.

Allowance for Loan Losses
The allowance for loan losses represents management’s estimate of losses inherent in the existing loan portfolio. The allowance for loan losses is increased by the provision for loan losses charged to expense and reduced by loans charged off, net of recoveries. The allowance for loan losses is determined based on management’s assessment of several factors including, but not limited to, reviews and evaluations of specific loans, changes in the nature and volume of the loan portfolio, current economic conditions and the related impact on segments of the loan portfolio, historical loan loss experiences and the level of classified and nonperforming loans.

Loans are considered impaired if, 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. The measurement of impaired loans is based on either the fair value of the underlying collateral, the present value of the future cash flows discounted at the historical effective interest rate stipulated in the loan agreement, or the estimated market value of the loan. In measuring the fair value of the collateral, management uses assumptions (e.g., discount rate) and methodologies (e.g., comparison to the recent selling price of similar assets) consistent with those that would be utilized by unrelated third parties.

Management’s assessment is inherently subjective, as it requires estimates that are susceptible to significant revision as more information becomes available. Changes in various internal and external environmental factors including, but not limited to, the financial condition of individual borrowers, economic conditions, historical loss experience, or the condition of the various markets in which collateral may be sold may affect the required level of the allowance for loan losses and the associated provision for loan losses. Should these environmental factors change, a different amount may be reported for the allowance for loan losses and the associated provision for loan losses.

Estimates of Fair Value
The estimation of fair value is significant to a number of the Company’s assets, including, but not limited to, investment securities, other real estate owned, and other repossessed assets. These are all recorded at either fair value or at the lower of cost or fair value. Fair values are volatile and may be influenced by a number of factors. Circumstances that could cause estimates of the fair value of certain assets and liabilities to change include a change in prepayment speeds, discount rates, or market interest rates. Our estimates and assumptions are reviewed periodically and the effects of revisions are reflected in the consolidated financial statements in the period they are determined to be necessary.

Fair values for most investment securities are based on quoted market prices. If quoted market prices are not available, fair values are based on the quoted prices of similar instruments. The fair values of other real estate owned are typically determined based on appraisals by third parties, less estimated costs to sell.

Estimates of fair value are also required in performing an impairment analysis of goodwill. The Company reviews goodwill for impairment on at least an annual basis and whenever events or circumstances indicate the carrying value may not be recoverable. An impairment would be indicated if the carrying value exceeds the fair value of a reporting unit.

 
  -20-   
 
 
Recent Accounting Standards

In November 2002, the Financial Accounting Standards Board issued FASB Interpretation No. 45 ("FIN 45"), Guarantor’s Accounting and Disclosure Requirements for Guarantees, Including Indirect Guarantees of Indebtedness of Others, an interpretation of FASB Statements No. 5, 57, and 107 and rescission of FASB Interpretation No. 34 . FIN 45 elaborates on the disclosures to be made by a guarantor in its interim and annual financial statements about its obligations under certain guarantees that it has issued. The disclosures required by FIN 45 improv e the transparency of the financial statement information about the guarantor’s obligations and liquidity risks related to guarantees issued. This interpretation also incorporates, without change, the guidance in Financial Accounting Standards Board Interpretation No. 34, Disclosure of Indirect Guarantees of Indebtedness of Others , which is being superceded. FIN 45 also clarifies that a guarantor is required to recognize, at the inception of a guarantee, a liability for the obligations it has undertaken in issuing the guarantee, including its ongoing obligation to stand ready to perform over the term of the guarantee in the event that the specified triggering events or conditions occur. The initial recognition and initial measurement provisions of FIN 45 are applicable on a prospective basis to guarantees issued or modified after December 31, 2002, irrespective of the guarantor’s fiscal year-end. The disclosure requirements are effective for financial statements of interim or annual periods ending after December 15, 2002. The adoption of FIN 45 did not have a material impact on the Company’s consolidated financial statements.
 
In May 2003, the Financial Accounting Standards Board issued Statement No. 150 ("Statement 150"), Accounting for Certain Financial Instruments with Characteristics of Both Liabilities and Equity . Statement 150 requires certain financial instruments that have characteristics of both liabilities and equity to be classified as a liability on the balance sheet. Prior to the issuance of Statement 150, the Company classified trust preferred securities as a liability on the consolidated balance sheet and its related interest cost as interest expense on th e consolidated statement of income, which is consistent with the requirements of Statement 150. Statement 150 is effective for financial instruments entered into or modified after May 31, 2003, and otherwise is effective at the beginning of the first interim period beginning after June 15, 2003. Statement 150 will be effected by reporting the cumulative effect of a change in accounting principle for contracts created before the issuance date and still existing at the beginning of that interim period. The adoption of Statement 150 did not have an impact on the Company’s consolidated financial statements. 

 
  -21-   
 
 
ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK

We are subject to exposure to U.S. dollar interest rate changes and accordingly, we manage our exposure by considering the possible changes in the net interest margin. We do not engage in trading activity nor do we classify any portion of the investment portfolio as held for trading. We do not engage in any hedging activities or enter into any derivative instruments with a higher degree of risk than mortgage-backed securities, which are commonly held pass through securities. Finally, we have no material direct exposure to foreign currency exchange rate risk, commodity price risk, and other market risks.

Interest rates play a major part in the net interest income of a financial institution. The sensitivity to rate changes is known as "interest rate risk." The repricing of interest earning assets and interest-bearing liabilities can influence the changes in net interest income. As part of our asset/liability management program, the timing of repriced assets and liabilities is referred to as gap management. It is our policy to maintain a gap ratio in the one-year time horizon between 0.80 and 1.20. However, with interest rates at historic lows and the shape of the interest rate curve, the Company has exceeded policy limits by adjusting the balance sheet to a more asset-sensitive position. At June 30, 2003, our one-year management-adjusted gap ratio of 1.29 was outside of our policy guidelines, howev er, this exception to policy was mitigated by our strategy to position our balance sheet to benefit from an increase in interest rates.

The table below has two measures of gap; regulatory and management-adjusted. The regulatory gap considers only contractual maturities or repricings. The management-adjusted gap includes assumptions regarding prepayment speeds on certain rate sensitive assets, the repricing frequency of interest-bearing demand and savings accounts, and the stability of core deposit levels, all of which are adjusted periodically as market conditions change. We believe the management-adjusted gap is a more accurate reflection of the interest rate risk in our balance sheet. The management-adjusted gap indicates we are highly asset sensitive in relation to changes in market interest rates in the short-term. Being asset sensitive would result in net interest income increasing in a rising rate environment and decreasing in a declining rate environment.
 
Cumulative Repricing Gap Analysis
 
 
 
    
3-Month       

 

 
6-Month

 

 
1-Year
 
 
  

(Dollars in thousands)

Regulatory Defined
    
 
    
 
    
 
  
Rate Sensitive Assets (RSA)
 
$
343,105
 
$
378,011
 
$
441,318
 
Rate Sensitive Liabilities (RSL)
   
320,553
   
372,867
   
461,888
 
 
RSA minus RSL (Gap)
 
$
22,552
 
$
5,144
 
$
(20,570
)
 
    
 
    
 
    
 
  
Gap Ratio (RSA/RSL)
   
1.07
   
1.01
   
0.96
 
 
    
 
    
 
    
 
  
Management-Adjusted
    
 
    
 
    
 
  
Rate Sensitive Assets (RSA)
 
$
347,777
 
$
387,315
 
$
459,092
 
Rate Sensitive Liabilities (RSL)
    
145,376
   
197,691
   
355,865
 
 
RSA minus RSL (Gap)
 
$
202,401
 
$
189,624
 
$
103,227
 
 
    
 
    
 
    
 
  
Gap Ratio (RSA/RSL)
   
2.39
   
1.96
   
1.29
 
 
 
  -22-   
 
We use simulation analysis to monitor changes in net interest income due to changes in market interest rates. The simulation of rising, declining, and flat interest rate scenarios allows us to monitor and adjust interest rate sensitivity to minimize the impact of market interest rate swings. The analysis of the impact on net interest income over a twelve-month period is subjected to increases or decreases in market rates on net interest income and is monitored on a quarterly basis. As of quarter end, the simulation model projected net interest income would increase 5.27% over the next year if market rates immediately rose by 200 basis points. On the other hand, the model projected net interest income to decrease 22.48% over the next year if market rates immediately fell by 200 basis points. The hi gh volatility in our results is due primarily to our asset-sensitive balance sheet mix and our behavioral assumptions for repricing and prepayment speeds. Our policy states that net interest income cannot be reduced by more than 10% using this analysis, and technically, we were outside of policy guidelines at quarter end. However, this exception was mitigated because a further 200 basis point drop was not realistic given that the federal funds rate stood at 1.00%. If market rates immediately fell by 100 basis points, a more plausible, however still unlikely scenario in our opinion, our model projected net interest income to decrease 9.93% over the next year.

The following table shows the results of these projections for net interest income expressed as a percentage change over net interest income in a flat rate scenario for both a gradual change in market interest rates over a twelve-month period and an immediate change, or "shock", in market interest rates.

 
 
Effect on Net Interest Income

Market
Rate Change
 
Gradual
 
Immediate
+300 bps
 
6.29%
 
5.11%
+200 bps
 
5.70%
 
5.27%
+100 bps
 
4.02%
 
3.73%
-100 bps
 
-9.15%
 
-9.93%
 
 
ITEM 4. CONTROLS AND PROCEDURES

As of the end of the period covered by this Quarterly Report on Form 10-Q, an evaluation was carried out under the supervision and with the participation of management, including the Chief Executive Officer ("CEO") and the Chief Financial Officer ("CFO"), of the effectiveness of the Company’s disclosure controls and procedures. Based on that evaluation, the CEO and the CFO have concluded that the Company’s disclosure controls and procedures are effective to ensure that information required to be disclosed by the Company in reports that it files or submits under the Securities Exchange Act of 1934 is recorded, processed, summarized and reported within the time periods specified in Securities and Exchange Commission rules and forms. There were no changes in the Company’s internal c ontrol over financial reporting identified in connection with this evaluation that has materially affected, or is reasonably likely to materially affect, our internal control over financial reporting.

 
  -23-   
 
 
PART II. OTHER INFORMATION

ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS

At the annual meeting of stockholders held on May 27, 2003, two items were voted upon. The first item was the appointment of four directors to hold office until the 2006 annual meeting of stockholders and one director to hold office until the 2005 annual meeting of shareholders and until their successors are dully elected and qualified or until their earlier death, resignation, incapacity to serve, or removal:

Name
Votes For
Votes Against
Votes Abstained
 
 
 
 
James L. Dewar, Jr.
6,871,623
0
255,562
Michael E. Ricketson
6,756,457
0
370,728
Joe P. Singletary, Jr.
6,874,906
0
252,279
Walter W. Carroll, II
6,809,890
0
317,295
Michael H. Godwin
6,874,406
0
252,779
 
 
 
 
 
The following directors will continue in office:

Bill J. Jones, F. Ferrell Scruggs, Sr., James B. Lanier, Jr., John M. Simmons, R. Bradford Burnette, Kennith D. McLeod, and Paul E. Parker

The second item was approving the appointment of Mauldin & Jenkins, LLC as the Company’s independent auditors for the fiscal year 2003. Mauldin & Jenkins LLC was ratified as the independent auditors for fiscal year 2003 by a vote of 6,987,622 in favor, 110,488 against, and 29,074 abstentions.


ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K
 
(a)  Exhibits.

31.1
Rule 13a-14(a) Certification of Chief Executive Officer
 
 
31.2
Rule 13a-14(a) Certification of Chief Financial Officer
 
 
32.1
Section 1350 Certification of Chief Executive Officer
 
 
32.2
Section 1350 Certification of Chief Financial Officer

(b)  Reports on Form 8-K.

1.
Press Release dated April 25, 2003 Announcing First Quarter 2003 Earnings
 
 
2.
Press Release dated May 27, 2003 Announcing Second Quarter 2003 Dividend

 
  -24-   
 
 
SIGNATURES

Pursuant to the requirements of the Securities Exchange Act of 1934, the Registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized.
 
PAB BANKSHARES, INC.    
Registrant
 
 		  
 		  
 
Date: August 14, 2003 By:   /s/ Michael E. Ricketson
 
Michael E. Ricketson,
  President and Chief Executive Officer
     
 
 
 		  
 		  
 
Date: August 14, 2003 By:   /s/ Donald J. Torbert, Jr.,
 
Donald J. Torbert, Jr.,
  Executive Vice President, Chief Financial Officer
 
 
  -25-