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 quarter ended June 30, 2002

 

Commission file number 000-25128

 

 

MAIN STREET BANKS, INC.

(Exact name of registrant as specified in its charter)

 

 

Securities registered under Section 12(b) of the Exchange Act: None

Securities registered under Section 12(g) of the Exchange Act:

Common Stock, no par value

 

 

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 ý  No o

 

APPLICABLE ONLY TO CORPORATE ISSUERS

 

As of July 31, 2002 registrant had outstanding 15,986,021 shares of common stock.

 

 

MAIN STREET BANKS, INC.

TABLE OF CONTENTS

 

PART I.	FINANCIAL INFORMATION
Item 1.	Financial Statements
	Condensed Consolidated Balance Sheets June 30, 2002 (unaudited) and December 31, 2001
	Condensed Consolidated Statements of Income (unaudited) Three Months Ended June 30, 2002 and 2001 and Six Months Ended June 30, 2002 and 2001
	Condensed Consolidated Statements of Comprehensive Income (unaudited) Three Months Ended June 30, 2002 and 2001 and Six Months Ended June 30, 2002 and 2001
	Condensed Consolidated Statements of Cash Flows (unaudited) Six Months Ended June 30, 2002 and 2001
	Notes to Condensed Consolidated Financial Statements (unaudited)
Item 2.	Management’s Discussion and Analysis of Financial Condition and Results of Operations
Item 3.	Quantitative and Qualitative Disclosures about Market Risk (included in Item 2)
PART II.	OTHER INFORMATION
Item 4.	Submission of Matters to a Vote of Security Holders
Item 6.	Exhibits and Reports on Form 8-K
	Signatures

 

 

PART I. – FINANCIAL INFORMATION

 

ITEM 1.  FINANCIAL STATEMENTS

 

MAIN STREET BANKS, INC.

CONDENSED CONSOLIDATED BALANCE SHEETS

 

		(Unaudited)
		June 30, 2002			December 31, 2001
Assets
Cash and due from banks		$	31,046,910		$	36,002,196
Interest-bearing deposits in banks		1,436,168			14,509,315
Federal funds sold and securities purchased under agreements to resell		15,684,897			60,431,897
Investment securities available for sale		227,610,228			122,447,873
Investment securities held to maturity (fair value of $741,739 and $729,102 at June 30, 2002 and December 31, 2001, respectively		687,241			686,966
Mortgage loans held for sale		4,144,673			9,193,983
Loans, net of unearned income		861,235,694			811,446,346
Allowance for loan losses		(12,746,608		)	(12,017,448		)
Loans, net		848,489,086			799,428,898
Premises and equipment, net		26,871,117			26,692,404
Other real estate		1,627,665			1,266,650
Accrued interest receivable		7,226,573			5,643,803
Goodwill and other intangible assets		1,477,448			705,867
Other assets		40,138,235			33,158,039
Total assets		$	1,206,440,241		$	1,110,167,891
Liabilities and stockholders’ equity
Liabilities:
Deposits:
Noninterest-bearing demand		$	173,268,897		$	160,675,955
Interest-bearing demand and money market		228,129,134			250,925,349
Savings		41,722,579			50,311,997
Time deposits of $100,000 or more		174,468,646			152,749,296
Other time deposits		319,967,471			293,518,204
Total deposits		937,556,727			908,180,801
Accrued interest payable		3,180,230			4,570,179
Federal Home Loan Bank advances		90,121,250			75,121,250
Federal funds purchased and securities sold under repurchase agreements		59,727,928			15,504,355
Other liabilities		4,396,808			1,669,954
Total liabilities		1,094,982,943			1,005,046,539
Shareholders’ equity
Common stock¾no par value per share; 50,000,000 shares authorized; outstanding, 15,979,269 shares in 2002 and 15,621,755 in 2001		30,823,590			32,407,424
Retained earnings		81,454,710			72,018,255
Accumulated other comprehensive income		3,726,903			1,729,548
Treasury stock, at cost, 344,082 shares in 2002 and 169,082 in 2001		(4,547,905		)	(1,033,875		)
Total shareholders’ equity		111,457,298			105,121,352
Total liabilities and shareholders’ equity		$	1,206,440,241		$	1,110,167,891

 

See accompanying notes.

 

2

 

MAIN STREET BANKS, INC.

CONDENSED CONSOLIDATED STATEMENTS OF INCOME

(Unaudited)

 

		Three Months Ended June 30,						Six Months Ended June 30,
		2002			2001			2002			2001
Interest income:
Loans, including fees		$	16,922,668		$	18,488,251		$	33,492,601		$	37,356,750
Interest on investment securities:
Taxable		2,262,347			1,964,580			3,547,696			4,203,020
Non-taxable		376,112			318,229			762,247			636,897
Federal funds sold and other short-term investments		120,424			593,774			393,382			1,404,174
Interest-bearing deposits in banks		6,705			13,970			39,116			28,532
Total interest income		19,688,256			21,378,804			38,235,042			43,629,373
Interest expense:
Interest-bearing demand and money market		573,766			1,011,118			1,214,066			2,248,639
Savings		98,997			216,807			225,267			479,202
Time deposits of $100,000 or more		1,667,606			2,410,235			3,436,784			4,895,809
Other time deposits		3,110,527			5,118,651			6,467,554			10,672,800
Federal funds purchased and securities sold under agreement to repurchase		376,678			44,064			389,640			131,557
Federal Home Loan Bank advances		390,836			691,231			764,235			1,501,843
Other interest expense		17,731			14,259			40,194			19,119
Total interest expense		6,236,141			9,506,365			12,537,740			19,948,969
Net interest income		13,452,115			11,872,439			25,697,302			23,680,404
Provision for loan losses		1,434,000			440,000			2,059,000			970,000
Net interest income after provision for loan losses		12,018,115			11,432,439			23,638,302			22,710,404
Noninterest income:
Service charges on deposit accounts		1,767,453			1,464,039			3,290,559			2,775,711
Investment securities gains		—			18,536			—			22,191
Gain on sales of assets		59,639			1,382			60,139			47,158
Gain on sales of loans		84,111			75,178			380,892			316,926
Other income		2,718,473			1,730,230			5,142,675			3,348,165
Total noninterest income		4,629,676			3,289,365			8,874,265			6,510,151
Noninterest expense:
Salaries and other compensation		4,753,499			3,780,083			9,264,673			7,884,647
Employee benefits		655,496			591,135			1,509,765			1,267,850
Net occupancy and equipment expense		1,306,706			1,223,334			2,484,503			2,401,628
Professional services		359,192			537,765			653,943			915,072
Regulatory agency assessments		53,898			85,703			113,049			160,080
Amortization of intangible assets		33,600			59,917			67,200			119,834
Merger expense		—			861,651			—			2,560,625
Other expense		2,210,445			2,100,156			4,342,616			3,947,188
Total noninterest expense		9,372,836			9,239,744			18,435,749			19,256,924
Income before income taxes		7,274,955			5,482,060			14,076,818			9,963,631
Income tax expense		2,268,561			1,701,388			4,300,819			3,524,118
Net income		$	5,006,394		$	3,780,672		$	9,775,999		$	6,439,513
Earnings per share:
Basic		$	.32		$	.24		$	.63		$	.41
Diluted		$	.31		$	.23		$	.61		$	.40
Dividends declared per share		$	.105		$	.09		$	.21		$	.18
Weighted average common shares outstanding:
Basic		15,586,254			15,634,599			15,558,280			15,618,595
Diluted		16,145,163			16,103,230			16,089,642			16,053,033

 

See accompanying notes.

 

3

 

MAIN STREET BANKS, INC.

CONDENSED CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME

(Unaudited)

 

		Three Months Ended June 30,						Six Months Ended June 30,
		2002			2001			2002			2001
Net income		$	5,006,394		$	3,780,672		$	9,775,999		$	6,439,513
Other comprehensive income, net of tax
Unrealized gains on securities available for sale		539,077			182,023			1,318,254			1,553,055
Less reclassification adjustment for net (gains) included in net income		(31,603		)	(12,234		)	(52,715		)	(14,646		)
Comprehensive income		$	5,513,869		$	3,950,461		$	11,041,538		$	7,977,922

 

See accompanying notes.

 

4

 

MAIN STREET BANKS, INC.

CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS

(Unaudited)

 

		Six Months Ended June 30,
		2002			2001
Operating activities
Net income		$	9,775,999		$	6,439,513
Adjustments to reconcile net income to net cash provided by operating activities:
Provision for loan losses		2,059,000			970,000
Depreciation and amortization of premises and equipment		1,137,435			1,103,478
Amortization of intangible assets		67,200			119,834
(Gain) loss on sales of other real estate		(57,036		)	27,661
Investment securities gains		—			(22,191		)
Net amortization (accretion) of investment securities		134,035			(432,519		)
Net accretion of loans purchased		(16,285		)	(19,682		)
(Gain) loss on sales of premises and equipment		(3,130		)	2,842
Net decrease (increase) in mortgage loans held for sale		5,049,310			(5,195,030		)
Gains on sales of mortgage loans		(325,344		)	(282,617		)
Gain on sales of loans		(380,892		)	(316,926		)
Deferred income tax expense (benefit)		(758,248		)	584,441
Deferred net loan fees		(27,129		)	(409,148		)
Vesting in restricted stock award plan		255,606			252,482
Changes in operating assets and liabilities:
(Increase) decrease in accrued interest receivable		(1,582,770		)	792,670
Increase in accrued interest payable		(1,389,949		)	(37,953		)
Other		(560,145		)	275,445
Net cash provided by operating activities		13,377,684			3,852,300
Investing activities
Purchases of investment securities available for sale		(125,995,591		)	(21,449,629		)
Purchases of other investments		(750,000		)	—
Maturities and calls of investment securities available for sale		18,810,466			50,997,381
Proceeds from sales of investment securities available for sale		—			1,104,250
Net increase in loans funded		(49,369,684		)	(32,397,438		)
Purchases of premises and equipment		(1,735,370		)	(1,399,215		)
Proceeds from sales of premises and equipment		45,066			340,336
Proceeds from sales of other real estate		646,172			1,815,426
Business combinations, net of cash acquired		(300,000		)	—
Net cash used in investing activities		(158,648,941		)	(988,889		)
Financing activities
Net (decrease) increase in demand and savings accounts		(18,792,691		)	27,332,950
Increase (decrease) in time deposits		48,168,617			(21,594,256		)
Increase (decrease) in federal funds purchased		44,223,573			(26,456,846		)
Net increase (decrease) in Federal Home Loan Bank advances		15,000,000			(6,500		)
Dividends paid		(3,303,007		)	(2,701,425		)
Proceeds from the issuance of common stock		713,362			460,451
Proceeds from the issuance of common stock		(3,514,030		)	—
Net cash provided by (used in) financing activities		82,495,824			(22,965,626		)
Net decrease in cash and cash equivalents		(62,775,433		)	(20,102,215		)
Cash and cash equivalents at beginning of year		110,943,408			129,397,609
Cash and cash equivalents at end of year		$	48,167,975		$	109,295,394
Supplemental disclosures of cash flow information
Cash paid during the period for:
Interest		$	12,537,740		$	19,986,649
Income taxes, net		3,900,000			650,000
Supplemental disclosures of noncash transactions
Loans transferred to other real estate acquired through foreclosure		$	1,297,082		$	543,817
Transfer of investment securities from held to maturity to available for sale		$	—		$	17,851,829

 

See accompanying notes.

 

5

 

MAIN STREET BANKS, INC.

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

(Unaudited)

JUNE 30, 2002

 

NOTE 1.        BASIS OF PRESENTATION

 

The accompanying unaudited condensed consolidated financial statements for Main Street Banks, Inc. (the “Company”) have been prepared in accordance with accounting principles generally accepted in the United States followed within the financial services industry for interim financial information and with the instructions to Form 10-Q and Article 10 of Regulation S-X. Accordingly, they do not include all of the information and notes required for complete financial statement presentation. In the opinion of management, all adjustments (consisting solely of normal recurring adjustments) considered necessary for a fair presentation of the financial position and results of operations for interim periods have been included.

 

The results of operations for the six month period ended June 30, 2002 are not necessarily indicative of the results that may be expected for the year ending December 31, 2002. These financial statements and related “Management’s Discussion and Analysis of Financial Condition and Results of Operations” should be read in conjunction with the consolidated financial statements and notes thereto for the year ended December 31, 2001, included in the Company’s Current Report Annual Report on Form 10-K.

 

NOTE 2.        BUSINESS COMBINATION

 

On January 25, 2001, the Company completed a business combination with Walton Bank and Trust Company (“Walton”) by exchanging 2.752 shares of its common stock for each share of Walton outstanding common stock.  The combination was accounted for as a pooling of interests and, accordingly, all prior financial statements have been restated to include the results of Walton.

 

NOTE 3.        CURRENT ACCOUNTING DEVELOPMENTS

 

In July 2001, the FASB issued Statement No. 142, “Goodwill and Other Intangible Assets” (“Statement 142”).  Under Statement No. 142, goodwill and intangible assets deemed to have indefinite lives will no longer be amortized but will be subject to annual impairment tests.  Other intangible assets will continue to be amortized over their useful lives.  The adoption of this statement did not have a material financial impact on the Company’s financial position or results of operations.  The adoption of Statement 142 resulted in the company reducing amortization expense by $26,317 and $52,634 for the three and six months ended June 30, 2002, respectively.

 

In October 2001, the FASB issued Statement No. 144, “Accounting for the Impairment or Disposal of Long-Lived Assets” (“Statement 144”), effective for fiscal years beginning after December 15, 2001 and applied prospectively.  Statement 144 superceded Statement 121 and APB 30.  Statement 144 retains the fundamental provisions of Statement 121 related to the recognition and measurement of long-lived assets.  Statement 144 provides more guidance on estimating cash flows when performing a recoverability test.  Furthermore, Statement 144 requires that operating losses from a “component of an entity” would be recognized in the period in which they occur rather than as of the measurement date as presently required by APB 30.  The adoption of this statement did not have a material financial impact on the Company’s financial position or results of operations.

 

6

 

NOTE 4.        EARNINGS PER COMMON SHARE

 

The computation of diluted earnings per share is as follows:

 

		Three Months Ended June 30,						Six Months Ended June 30,
		2002			2001			2002			2001
Basic and diluted net income		$	5,006,394		$	3,780,672		$	9,775,999		$	6,439,513
Basic weighted average shares		15,586,254			15,634,599			15,558,280			15,618,595
Effect of Employee Stock Options		558,909			468,631			531,362			434,438
Diluted weighted average shares		16,145,163			16,103,230			16,089,642			16,053,033
Diluted earnings per share		$	.31		$	.23		$	.61		$	.40

 

NOTE 5.        LOANS

 

Loans are stated at unpaid principal balances, net of unearned income and deferred loan fees.  Interest is accrued only if deemed collectible.  The following table represents the composition of the Company’s loan portfolio:

 

		June 30, 2002			December 31, 2001
		(Dollars in thousands)
Commercial		$	69,458		$	68,320
Construction		199,899			173,464
Residential mortgage		167,333			152,226
Real estate – other		381,782			366,003
Consumer		44,294			53,075
Total loans		862,766			813,088
Less:
Net deferred loan fees		(1,530		)	(1,642		)
Allowance for loan losses		(12,747		)	(12,017		)
Net loans		$	848,489		$	799,429

 

 

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

 

The following is management’s discussion and analysis of certain significant factors which have affected the Company’s financial position at June 30, 2002 as compared to December 31, 2001 and operating results for the three month and six month periods ended June 30, 2002. These comments should be read in conjunction with the Company’s unaudited condensed consolidated financial statements and accompanying notes appearing elsewhere herein.

 

Forward Looking Statements

 

This discussion contains certain forward-looking statements including statements relating to present or future trends or factors generally affecting the banking industry and specifically affecting the Company’s operations, markets and products.  Without limiting the foregoing, the words “believes” “anticipates”, “intends”, “expects” or similar expressions are intended to identify forward-looking statements.  These forward-looking statements involve certain risks and uncertainties.  Actual results could differ materially from those projected for many reasons including, without limitation, changing events and trends that have influenced the Company’s assumptions.  These trends and events include (i) changes in the interest rate environment which may reduce margins, (ii) non-achievement of expected growth (iii) less favorable than anticipated changes in national and local business environment and securities markets (iv) adverse changes in the regulatory requirements affecting the Company (v) greater competitive pressures among financial institutions in the Company’s market and (vi) greater than expected loan losses. Additional information and other factors that could affect future financial results are included in the Company’s filings with the Securities and Exchange Commission, including the Annual Report on Form 10-K for 2001.

 

 

7

 

 

Overview

 

The Company’s total assets have increased $96.3 million or 8.67% since December 2001.  Federal funds sold decreased $44.7 million primarily due to the purchase of investment securities and an increase in loan demand.  Loans have increased 6.14% or $49.8 million since December 2001.  The investment portfolio has increased $105.2 million due to the use of federal funds sold to purchase additional securities. Total deposits have increased by 3.23% or $29.4 million due to an ongoing deposit campaign and limited use of brokered and national deposits.

 

Return on average equity for the three months and six months ended June 30, 2002 was 18.5% and 18.3% on average equity of $108.7 million and $107.5 million, respectively.  This compares to 17.6% and 17.7% on average equity of $98.1 million and $96.6 million respectively, for the same periods in 2001, excluding merger related expenses.

 

Return on average assets for the three months and six months ended June 30, 2002 was 1.71% and 1.72%, respectively.  This compares to 1.66% and 1.64%, respectively for the same periods in 2001, excluding merger related expenses.

 

Critical Accounting Policies

 

The Company has established various accounting policies that govern the application of generally accepted accounting principles of the United States in the preparation of the Company’s financial statements.  Certain accounting policies involve significant judgments and assumptions on the part of management that can have a material impact on the carrying value of assets and liabilities.  Management considers such accounting policies to be critical accounting policies.  The Company believes the allowance for loan losses is a critical accounting policy that requires the most significant use of estimates and assumptions in the preparation of its condensed consolidated financial statements.

 

Allowance for loan losses is based on management’s opinion of an amount that is adequate to absorb losses in the existing loan portfolio.  The allowance for loan losses is established through a provision for losses based on management’s evaluation of current economic conditions.  The evaluation, which includes a review of all loans on which full collection may not be reasonably assumed, considers among other matters, economic conditions, the fair market value or the estimated net realizable value of the underlying collateral, management’s estimate of probable credit losses, historical loan loss experience, and other factors that warrant recognition in providing for an adequate loan loss allowance.

 

Capital

 

At June 30, 2002, the capital ratios of the Company and Main Street Bank (the Bank) were adequate based on regulatory minimum capital requirements.  The minimum capital requirements for banks and bank holding companies require a leverage capital to total assets ratio of at least 4%, core capital to risk-weighted assets ratio of at least 4% and total capital to risk-weighted assets of 8%.  The following table reflects the Company’s and the Bank’s compliance with regulatory capital requirements at June 30, 2002.

 

 

8

 

Loans and Allowance for Loan Losses

 

At June 30, 2002, loans, net of unearned income, were $861.2 million, an increase of $49.8 million or 6.14% over net loans at December 31, 2001 of $811.4 million. The growth in the loan portfolio was attributable to a consistent focus on quality loan production and strong loan markets in the state and region. Real estate-construction loans increased $26.4 million or 15.24% from December 31, 2001. The Company continues to monitor the composition of the loan portfolio to ensure that the market risk to the balance sheet is not adversely affected by the impact of changes in the economic environment on any one segment of the portfolio.

 

The Company primarily focuses on the following loan categories: (1) commercial, (2) real estate construction, (3) real estate mortgage and (4) consumer loans. The Company’s management has strategically located its branches in high growth markets and has taken advantage of a surge in residential and industrial growth in northeastern Georgia.

 

The allowance for loan losses is a reserve established through charges to earnings in the form of a provision for loan losses.  The provision for loan losses is based on management’s evaluation of the size and composition of the loan portfolio, the level of non-performing and past due loans, historical trends of charged-off loans and recoveries, prevailing economic conditions and other factors management deems appropriate. The Company’s management has established an allowance for loan losses which it believes is adequate for anticipated losses in the loan portfolio.  Based on a continuous credit evaluation of the loan portfolio, management presents a quarterly review of the allowance for loan losses to the Company’s board of directors. The review that management has developed primarily focuses on risk by evaluating the level of loans in certain risk categories.  These categories have also been established by management and take the form of loan grades. These loan grades closely mirror regulatory classification guidelines and include pass loan categories 1 through 4 and special mention, substandard, doubtful, and loss categories of 5 through 8, respectively.  By grading the loan portfolio in this manner the Company’s management is able to effectively evaluate the portfolio by risk, which management believes is the most effective way to analyze the loan portfolio and thus analyze the adequacy of the allowance for loan losses. Management also reviews charge-offs and recoveries on a quarterly basis to identify trends.

 

The Company’s risk management processes include a loan review program to evaluate the credit risk in the loan portfolio. The credit review department is independent of the loan function and reports to the Executive Vice President of Risk Management.  Through the loan review process, the Company maintains an internally criticized classified loan watch list which, along with the delinquency report of loans, serves as a tool to assist management in assessing the overall quality of the loan portfolio and the adequacy of the allowance for loan losses. Loans classified as “substandard” are those loans with clear and defined weaknesses such as a highly leveraged position, unfavorable financial ratios, uncertain financial ratios, uncertain repayment sources, deterioration in underlying collateral values, or poor financial condition which may jeopardize recoverability of the debt. Loans classified as “doubtful” are those loans that have characteristics similar to substandard loans but have an increased risk of loss, or at least a portion of the loan may require being charged-off.  Loans classified as “loss” are those loans that are in the process of being charged-off.

 

For the six month period ending June 30, 2002, net charge-offs totaled $1,329,840 or .32% (annualized) of average loans outstanding for the period, net of unearned income, compared to $460,813 or ..12% in net charge-offs for the same period in 2001. The increase in the net charge-offs was largely related to the Company’s decision to exit the receivables financing line of business.  The provision for loan losses for the six months ended June 30, 2002 was $2,059,000 compared to $970,000 for the same period in 2001. The allowance for loan losses totaled $12,746,608 or 1.48% of total loans, net of unearned income at June 30, 2002, compared to $12,017,448 or 1.48% at December 31, 2001.

 

9

 

The following table presents an analysis of the allowance for loan losses for the six month period ended June 30, 2002 and June 30, 2001 follows:

 

		Six Months Ended June 30,
		2002			2001
Balance of allowance for loan losses at beginning of period		$	12,017,448		$	10,907,424
Provision charged to operating expense		2,059,000			970,000
Charge-offs:
Commercial, financial and agricultural		578,957			147,174
Real estate – construction and land development		134,941			11,107
Real estate – mortgage		—			40,793
Installment and other consumer		752,727			465,417
Total charge-offs		$	1,466,625		$	664,491
Recoveries:
Commercial, financial and agricultural		8,584			21,832
Real estate – construction and land development		2,929			—
Real estate – mortgage		—			20,836
Installment and other consumer		125,272			161,010
Total recoveries		$	136,785		$	203,678
Net charge-offs		$	1,329,840		$	460,813
Balance of allowance for loan losses at end of period		$	12,746,608		$	11,416,611

 

Liquidity and Market Risk Sensitivity

 

Liquidity involves the Company’s ability to raise funds to support asset growth or reduce assets to meet deposit withdrawals and other payment obligations, to maintain reserve requirements and otherwise to operate on an ongoing basis. During the past three years, the Company’s liquidity needs have primarily been met by growth in core deposits, as previously discussed, together with advances from the Federal Home Loan Bank. Although access to purchased funds from correspondent banks is available and has been utilized on occasion to take advantage of investment opportunities, the Company does not generally rely on these external funding sources. The cash and federal funds sold position, supplemented by amortizing investment and loan portfolios, have generally created an adequate liquidity position.

 

The Company’s asset liability and funds management policy provides management with the necessary guidelines for effective funds management and a measurement system for monitoring its net interest rate sensitivity position. The Company manages its sensitivity position within established guidelines.

 

Market risk is defined as the risk of loss arising from adverse changes in market interest rates and prices. In order to maintain acceptable net interest income levels, interest rates, liquidity and maturities of the Company’s assets and liabilities need to be managed.  In a decreasing rate environment earnings are typically negatively impacted as the Company’s rate sensitive assets generally reprice faster than its rate sensitive liabilities thus an increase in interest rates will typically have a positive impact on earnings.

 

Interest rate risk is managed by the asset liability committee which is composed of senior officers of the Company, in accordance with policies approved by its board of directors. The asset liability committee formulates strategies based on appropriate levels of interest rate risk. In determining the appropriate level of interest rate risk, the asset liability committee considers the impact on earnings and capital of the current outlook on interest rates, potential changes in interest rates, regional economies, liquidity, business strategies and other factors. The asset liability committee meets regularly to review, among other things, the sensitivity of assets and liabilities to interest rate changes, the book and market values of assets and liabilities, unrealized gains and losses, purchase and sale activities, commitments to originate loans and the maturities of investments and borrowings. Additionally, the asset liability committee reviews liquidity, cash flow flexibility, maturities of deposits and consumer and commercial deposit activity. The Company’s management uses two methodologies to manage interest rate risk: (i) an analysis of relationships between interest-earning assets and interest-bearing liabilities; and (ii) an interest rate shock simulation model. The Company has traditionally managed its business to reduce its overall exposure to changes in interest rates.

 

 

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The Company manages its exposure to interest rates by structuring its balance sheet in the ordinary course of business. The Company has in the past, and may in the future utilize interest rate swaps, financial options, or financial futures contracts in order to reduce interest rate risk.

 

As of June 30, 2002, a $50 million notional amount interest rate floor is in place to protect the Company from further interest rate reductions.  The interest rate floor has a 12 month contract term that is tied to the 3 month London Interbank Offered Rate (LIBOR) and has a strike price of 2.0%.  The interest rate floor contract term expires during 2002.

 

The Company also as of June 30, 2002 has entered into an interest rate swap transaction.  The swap has a declining notional amount $50 million in year one, $35 million in year two, and $20 million in year three.  The entire swap matures during 2004.  The Company will receive a fixed rate and pay prime.  The Company had a $535,000 unrealized gain as of June 30, 2002 related to the swap transaction.

 

An interest rate sensitive asset or liability is one that, within a defined time period, either matures or experiences an interest rate change in line with general market interest rates. The management of interest rate risk is performed by analyzing the maturity and repricing relationships between interest-earning assets and interest-bearing liabilities at specific points in time (gap) and by analyzing the effects of interest rate changes on net interest income over specific periods of time by projecting the performance of the mix of assets and liabilities in varied interest rate environments. Interest rate sensitivity reflects the potential effect on net interest income of a movement in interest rates. A company is considered to be asset sensitive, or having a positive gap, when the amount of its interest-earning assets maturing or repricing within a given period exceeds the amount of its interest-bearing liabilities also maturing or repricing within that time period. Conversely, a company is considered to be liability sensitive, or having a negative gap, when the amount of its interest-bearing liabilities maturing or repricing within a given period exceeds the amount of its interest-earning assets also maturing or repricing within that time period. During a period of rising interest rates, a negative gap would tend to affect net interest income adversely, while a positive gap would tend to result in an increase in net interest income. During a period of falling interest rates, a negative gap would tend to result in an increase in net interest income, while a positive gap would tend to affect net interest income adversely.

 

Results of Operations for the Three Months Ended June 30, 2002 and 2001

 

Interest Income

 

Interest income for the three months ended June 30, 2002 was $19.7 million, a decrease of $1.7 million, or 7.9% compared to $21.4 million for the same period in 2001.  Interest and fees on loans decreased $1.6 million to $16.9 million for the three months ended June 30, 2002 compared to $18.5 million for the same period ending June 30, 2001.  The decrease is mainly attributable to the Federal Reserve’s aggressive interest rate reductions during 2001.  Interest on federal funds sold decreased $473,350 or 79.72%.  This was due to the Company’s decision to use the funds to purchase investment securities to earn a higher yield.   Average earning assets for the three month period increased $107.8 million to $1,080.3 million as of June 30, 2002 compared to $972.5 million as of June 30, 2001.   Yield on average earning assets decreased 151 basis points to 7.31% from 8.82 % for the quarter ended June 30, 2002 and 2001, respectively.

 

Interest Expense

 

Interest expense on deposits and other borrowings for the three months ended June 30, 2002 was $6.2 million, a $3.3 million, or 34.4% decrease from June 30, 2001.  The decrease was attributable to the yield on average interest bearing liabilities decreasing to 2.82% from 4.84% as of June 30, 2002 and June 30, 2001, respectively.  Average interest bearing liabilities increased $99.0 million to $886.5 million for the three months ended June 30, 2002 compared to $787.6 for the three months ended June 30, 2001.   The decrease was also attributable to the Company refinancing its Federal Home Loan Bank borrowings to take advantage of the Federal Reserve’s aggressive interest rate reductions.

 

 

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Net Interest Income

 

Net interest income for the three months ended June 30, 2002 increased $1.6 million, or 13.31% to $13.5 million compared to $11.9 million for the same period ending June 30, 2001.  The increase was mainly attributable to the Company’s ability to manage the effects of the Federal Reserve’s aggressive rate reductions.  The Company’s net interest margin increased to 5.10% for the three months ended June 30, 2002 compared to 4.99% as of June 30, 2001.

 

Provision for Loan Losses

 

The provision for loan losses was $1.4 million for the three months ended June 30, 2002 as compared to $0.4 million for the three months ended June 30, 2001.  The increase in the provision for loan losses was attributable to the Company’s decision to exit the receivables financing line of business.  Although no assurance is given, management believes that the present allowance for loan losses is adequate considering the Company’s historical loss experience.

 

Noninterest Income

 

Noninterest income was $4.6 million for the three months ended June 30, 2002, an increase of $1.3 million, or 40.75% compared to $3.3 million as of the three months ended June 30, 2001.  The components of the increase were service charges on deposit accounts and bank owned life insurance.  Service charges on deposit accounts increased $0.3 million, or 20.72% to $1.8 million from $1.5 million for the three months ended June 30, 2002 and 2001, respectively.  The Company also received $0.4 million related to the bank owned life insurance that was not in place during 2001.

 

Noninterest Expense

 

Noninterest expense increased $0.1 million or 1.44% to $9.4 million from $9.2 million for the three months ended June 30, 2002 and 2001, respectively.  The increase was mainly attributable to hiring of additional personnel required to accommodate the Company’s growth.  Salaries and employee benefits were $5.4 million, an increase of $1.0 million, or 23.74% from the three months ended June 30, 2001.  The Company’s efficiency ratio (excluding merger and other one time expenses) was 51.1% for the three months ended June 30, 2002 compared to 54.5% for the three months ended June 30, 2001.

 

Income Taxes

 

The amount of income tax expense is influenced by the amount of taxable income, the amount of tax-exempt income, the amount of nondeductible interest expense, and the amount of other nondeductible expenses.  For the three months ended June 30, 2002, the provision for taxes was $2.3 million, an increase of $567,173 from the $1.7 million provided for in the same period in 2001.  The effective tax rate for the three months ended June 30, 2002 was 31.18% compared to 31.04% for the same period in 2001.

 

Results of Operations for the Six Months Ended June 30, 2002 and 2001

 

Interest Income

 

Interest income for the six months ended June 30, 2002 was $38.2 million, a decrease of $5.4 million, or 12.36% compared to $43.6 million for the six months ended June 30, 2001.  Interest and fees on loans decreased $3.9 million to $33.5 million for the six months ended June 30, 2002 compared to $37.4 million for the same period in 2001.  Interest on investment securities decreased $529,974 to $4.3 million from $4.8 million for the six months ended June 30, 2002 and 2001, respectively.  The decrease is mainly attributable to the Federal Reserve’s aggressive interest rate reductions during 2001.  Average earning assets increased $74.9 million to $1,049.6 million for the six months ended June 30, 2002 compared to $974.7 million for the same period ended June 30, 2001.   Yield on average earning assets decreased 168 basis points to 7.35% from 9.03 % for the six months ended June 30, 2002 and 2001, respectively.

 

 

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Interest Expense

 

Interest expense on deposits and other borrowings for the six months ended June 30, 2002 was $12.5 million, a $7.4 million, or 37.15% decrease from the same period ending June 30, 2001.  The decrease was attributable to the yield on average interest bearing liabilities decreasing to 2.92% from 5.05% for the six months ended June 30, 2002 and June 30, 2001, respectively.  Average interest bearing liabilities increased $68.7 million to $864.5 million for the six months ended June 30, 2002 compared to $795.9 for the six months ended June 30, 2001.   The decrease was also attributable to the Company refinancing its Federal Home Loan Bank borrowings to take advantage of the Federal Reserve’s aggressive interest rate reductions.

 

Net Interest Income

 

Net interest income for the six months ended June 30, 2002 increased $2.0 million, or 8.52% to $25.7 million compared to $23.7 million for the same period ending June 30, 2001.  The increase was mainly attributable to the Company’s ability to manage the effects of the Federal Reserve’s aggressive rate reductions.  The Company’s net interest margin increased to 5.03% for the six months ended June 30, 2002 compared to 4.99% as of June 30, 2001.

 

Provision for Loan Losses

 

The provision for loan losses was $2.1 million for the six months ended June 30, 2002 as compared to $1.0 million for the same period ending June 30, 2001.  The increase was attributable to the Company’s decision to exit the receivables financing line of business and the increase in loan demand.  Although no assurance is given, management believes that the present allowance for loan losses is adequate considering the Company’s historical loss experience.

 

Noninterest Income

 

Noninterest income was $8.9 million for the six months ended June 30, 2002, an increase of $2.4 million, or 37.37% compared to $6.5 million for the six months ended June 30, 2001.  The components of the increase were service charges on deposit accounts and bank owned life insurance.  Service charges on deposit accounts increased $0.5 million, or 18.55% to $3.3 million from $2.8 million for the six months ended June 30, 2002 and 2001, respectively.  The Company also received $0.9 million related to the bank owned life insurance that was not in place during 2001.

 

Noninterest Expense

 

Noninterest expense decreased $0.8 million or 4.02% to $18.4 million from $19.2 million for the six months ended June 30, 2002 and 2001, respectively.  The decrease from the prior year was mainly attributable to the inclusion of merger related expenses in the prior year.  Excluding merger related expenses, noninterest expense increased $1.7 million.  The increase was mainly attributable to hiring of additional personnel required to accommodate the Company’s growth.  Salaries and employee benefits were $10.8 million an increase of $1.6 million, or 17.72% from the six months ended June 30, 2001.  The Company’s efficiency ratio, excluding 2001 merger related expenses, was 52.6% for the six months ended June 30, 2002 compared to 54.6% for the six months ended June 30, 2001.

 

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Income Taxes

 

Income tax expense includes the regular federal income tax at the statutory rate, plus the income taxes related to the State of Georgia income tax.  The amount of income tax expense is influenced by the amount of taxable income, the amount of tax-exempt income, the amount of nondeductible interest expense, and the amount of other nondeductible expenses.  For the six months ended June 30, 2002, the provision for taxes was $4.3 million, an increase of $0.8 million from the $3.5 million provided for in the same period in 2001.  The effective tax rate for the six months ended June 30, 2002 was 30.55% compared to 35.37% for the same period in 2001.

 

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PART II. – OTHER INFORMATION

 

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

 

At the Company’s Annual Meeting of Shareholders held on May 8, 2002, the following individuals were elected to serve as Class II Directors for three-year terms expiring at the 2005 Annual Meeting of Shareholders:

 

		Votes For		Votes Against		Votes Withheld
Eugene L. Argo		13,496,552		0		23,602
Frank B. Turner		13,496,552		0		23,602

 

ITEM 6.          EXHIBITS AND REPORTS ON FORM 8-K

 

(a)                          The following are filed with or incorporated by reference into this report

 

Exhibit No.		Description
3.1		Articles of Incorporation of Main Street Bank, Inc. (incorporated by reference to Exhibit 3.1 to Registration Statement No. 33-78046 on Form S-4) as amended by Certificate of Merger and Name Change (incorporated by reference to Exhibit 3.1 of the December 31, 1996, Form 10-KSB)
3.2		Bylaws of Main Street Bank, Inc. (incorporated by reference to Exhibit 3.2 to Registration Statement No. 33-78046 on Form S-4)
10.1		Registrant’s 1994 Substitute Incentive Stock Option Plan for The Westside Bank & Trust Company’s Incentive Stock Option Plan filed as Exhibit 4.4 to Form S-8 (File No. 33-97300) (incorporated by reference)
10.2		Form of Registrant’s 1994 Incentive Stock Option Agreement filed as Exhibit 4.5 to Form S-8 (File No. 33-97300) (incorporated by reference)
10.3		Registrant’s 1995 Directors Stock Option Plan filed as Exhibit 4.4 to Form S-8 (File No. 33-81053) (incorporated by reference)
10.4		Form of Registrant’s 1995 Directors Stock Option Agreement filed as Exhibit 4.5 to Form S-8 (File No. 33-81053) (incorporated by reference)
10.5		Registrant’s 1996 Substitute Incentive Stock Option Plan filed as Exhibit 4.1 to Form S-8 (File No. 333-15069) (incorporated by reference)
10.6		Form of Registrant’s 1996 Substitute Incentive Stock Option Agreement filed as Exhibit 4.2 to Form S-8 (File No. 333-15069) (incorporated by reference)
10.7		Registrant’s 1997 Directors Stock Option Plan filed as Exhibit 4.1 to Form S-8 (File No. 333-56473) (incorporated by reference)
10.8		Form of Registrant’s 1997 Directors Stock Option Agreement filed as Exhibit 4.2 to Form S-8 (File No. 333-56473) (incorporated by reference)

 

 

 

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10.9		Registrant’s 1997 Incentive Stock Option Plan filed as Exhibit 4.1 to Form S-8 (File No. 333-74555) (incorporated by reference)
10.10		Form of Registrant’s 1997 Incentive Stock Option Agreement filed as Exhibit 4.2 to Form S-8 (File No. 333-74555) (incorporated by reference)
10.11		Registrant’s 1999 Directors Stock Option Plan included as Appendix B to the Joint Proxy Statement/Prospectus set forth in Part I of the Registration Statement
10.12		Form of Registrant’s 1999 Directors Stock Option Agreement filed as Exhibit 4.2 to Form S-8 (File No. 333-88645) (incorporated by reference)
10.13		Registrant’s 2000 Directors Stock Option Plan files as Exhibit 4.1 to Form S-8 (File No. 333-49436) (incorporated by reference)
10.14		Form of Registrant’s 2000 Director’s Stock Option Agreement filed as Exhibit 4.2 to Form S-8 (File No. 333-49436) (incorporated by reference)
10.15		Registrant’s Omnibus Stock Ownership and Long Term Incentive Plan filed as Exhibit 4.1 to Form S8 (File No. 33365188) (incorporated by reference)
10.15		Form of Registrant’s Omnibus Stock Ownership and Long Term Incentive Plan Incentive Plan Option Agreement filed as Exhibit 4.2 to File S-8 (File No. 333-65188) (incorporated by reference)
10.17		Form of Registrant’s Omnibus Stock Ownership and Long Term Incentive Plan Restricted Stock Grant Agreement filed as Exhibit 4.3 to Form S-8 (File No. 333-65188)
10.18		Employment Agreement dated May 24, 2000 between Registrant and Edward C. Milligan (incorporated by referenced to Exhibit 10.13 to Registration Statement No. 333-50762 on Form S-4)
10.19		Employment Agreement dated May 24, 2000 between the Registrant and Robert R. Fowler, III (incorporated by referenced to Exhibit 10.14 to Registration Statement No. 333-50762 on Form S-4)
10.20		Employment Agreement dated May 24, 2000 between the Registrant and Sam B. Hay (incorporated by referenced to Exhibit 10.15 to Registration Statement No. 333-50762 on Form S-4)
10.21		Employment Agreement dated September 17, 2001 between the Registrant and Robert D. McDermott filed as Exhibit 10.21 to Form 10-K (File No. 000-25128) (incorporated by reference)
10.22		Employment Agreement dated April 23, 2002 between the Registrant and Max S. Crowe
21		The sole subsidiaries of the Registrant are Main Street Bank (Ga.) and Williamson, Musselwhite & The Company Insurance, Inc. (Ga.) and Main Street Bank has two subsidiaries, MSB Holdings, Inc. (Del.) and MSB Investments, Inc. (Ga.)
99.1		Certification of CEO and CFO pursuant to Section 906 of the Sarbanes-Oxly Act

 

 

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(b)                           Reports on Form 8K

 

The Company filed a Form 8-K on April 12, 2002 announcing a stock repurchase program.

 

 

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SIGNATURES

 

In accordance with the requirements of the Exchange Act, the registrant caused this report to be signed on its behalf by the undersigned, thereunto duly authorized.

 

			MAIN STREET BANKS, INC.
Date:  August 13, 2002		By:	/s/ Edward C. Milligan
			Edward C. Milligan, President and Chief Executive Officer
Date:  August 13, 2002		By:	/s/ Robert D. McDermott
			Robert D. McDermott, Chief Financial Officer

 

 

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