Washington, D.C. 20549

 

FORM 10 - Q

 

 

Check whether the issuer (1) filed all reports required to be filed by Section 13 or 15 (d) of the Exchange Act during the past 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 90 days.  Yes ý             No o.

 

State the number of shares outstanding for each of the issuer’s classes of common equity as of the latest practicable date: 2,070,547 shares of Common Stock, $1.00 par value and 90,000 shares of Non-Voting Common Stock, $1.00 par value outstanding on July 31, 2003.

 

 

PART 1.                         FINANCIAL INFORMATION

ITEM 1.                             Financial statements

 

CITIZENS BANCSHARES CORPORATION AND SUBSIDIARIES

 

CONSOLIDATED BALANCE SHEETS
JUNE 30, 2003 AND DECEMBER 31, 2002
(In thousands, except share data)

 

		2003			2002
		(Unaudited)
ASSETS
Cash and due from banks		$	17,404		$	11,117
Federal funds sold		725			—
Interest-bearing deposits with banks		980			15,192
Certificates of deposit		3,248			3,095
Investment securities available for sale, at fair value		105,995			53,972
Investment securities held to maturity, at cost		7,232			2,376
Other investments		2,587			2,226
Loans receivable, net		201,225			172,077
Premises and equipment, net		9,594			6,732
Cash surrender value of life insurance		7,348			6,880
Other assets		8,052			5,823
Total assets		$	364,390		$	279,490
LIABILITIES AND STOCKHOLDERS’ EQUITY
LIABILITIES:
Noninterest-bearing deposits		$	61,408		$	62,394
Interest-bearing deposits		227,515			166,217
Total deposits		288,923			228,611
Accrued expenses and other liabilities		4,099			3,347
Notes payable		543			740
Trust preferred securities		5,000			5,000
Advances from Federal Home Loan Bank		41,018			18,750
Total liabilities		339,583			256,448
COMMITMENTS AND CONTINGENCIES
STOCKHOLDERS’ EQUITY:
Common stock - $1 par value; 5,000,000 shares authorized; 2,230,065 shares issued and outstanding		2,230			2,230
Nonvoting common stock - $1 par value; 5,000,000 shares authorized; 90,000 issued and outstanding		90			90
Additional paid-in capital		7,445			7,445
Retained earnings		15,932			14,921
Treasury stock, at cost (240,996 shares at 2003 and 2002)		(2,046		)	(2,046		)
Accumulated other comprehensive income		1,156			402
Total stockholders’ equity		24,807			23,042
		$	364,390		$	279,490

 

See notes to consolidated financial statements.

 

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CITIZENS BANCSHARES CORPORATION AND SUBSIDIARIES

 

CONSOLIDATED STATEMENTS OF INCOME

(Unaudited  - In thousands, except per share data)

 

		Three Months Ended June 30,						Six Months Ended June 30,
		2003			2002			2003			2002
Interest income:
Loans, including fees		$	3,958		$	3,094		$	7,423		$	6,212
Investment securities:
Taxable		775			837			1,428			1,546
Tax-exempt		246			241			481			454
Federal funds sold		7			2			10			12
Interest-bearing deposits		37			107			77			238
Total interest income		5,023			4,281			9,419			8,462
Interest expense:
Deposits		1,011			1,157			1,929			2,493
Other borrowings		335			160			598			324
Total interest expense		1,346			1,317			2,527			2,817
Net interest income		3,677			2,964			6,892			5,645
Provision for loan losses		65			225			280			400
Net interest income after provision for loan losses		3,612			2,739			6,612			5,245
Noninterest income:
Service charges on deposits		895			887			1,736			1,745
Gain on sales of securities		218			212			218			242
Mortgage origination fees		—			—			—			120
Other operating income		279			363			586			707
Total noninterest income		1,392			1,462			2,540			2,814
Noninterest expense:
Salaries and employee benefits		1,875			1,794			3,631			3,511
Net occupancy and equipment		740			551			1,302			1,107
Other operating expenses		1,451			1,388			2,519			2,627
Total noninterest expense		4,066			3,733			7,452			7,245
Income before income taxes		938			468			1,700			814
Income tax expense		219			39			377			64
Net income		$	719		$	429		$	1,323		$	750
Net income per share - basic and diluted		$	0.35		$	0.20		$	0.64		$	0.35
Weighted average outstanding shares - basic and diluted		2,079			2,109			2,079			2,118
Dividends per common share		$	—		$	—		$	0.15		$	0.15

 

See notes to consolidated financial statements.

 

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CITIZENS BANCSHARES CORPORATION AND SUBSIDIARIES

 

CONSOLIDATED STATEMENTS OF CASH FLOWS

FOR THE SIX MONTHS ENDED JUNE 30, 2003 AND 2002

(In thousands)

 

		2003			2002
		(Unaudited)
OPERATING ACTIVITIES:
Net income		$	1,323		$	750
Adjustments to reconcile net income to net cash provided by operating activities:
Provision for loan losses		280			400
Depreciation		257			478
Amortization (accretion), net		22			(4		)
Gain on sale of assets and investments		—			(242		)
Change in mortgage loans held for sale		—			422
Change in other assets		273			99
Change in accrued expenses and other liabilities		(464		)	(850		)
Net cash provided by operating activities		1,691			1,053
INVESTING ACTIVITIES:
Proceeds from sale and maturities of investment securities held to maturity		397			300
Proceeds from sale and maturities of investment securities available for sale		21,482			17,022
Purchases of investment securities held to maturity		(3,688		)	—
Purchases of investment securities available for sale		(15,132		)	(35,360		)
Net change in other investments		(361		)	—
Net change in loans		3,473			3,587
Increase in cash surrender value of life insurance		(468		)	(37		)
Net cash paid in acquisition		(1,085		)	—
Purchases (sales), net of premises and equipment		104			(763		)
Net change in interest bearing deposits with banks		14,212			34,514
Net change in federal funds sold		3,120			1,560
Net cash provided by investing activities		22,054			20,823
FINANCING ACTIVITIES:
Net change in noninterest-bearing deposits		(986		)	1,697
Net change in interest-bearing deposits		(19,283		)	(30,136		)
Purchase of treasury stock		—			(225		)
Proceeds from issuance of trust preferred securities		—			5,000
Principal payments on debt		(197		)	(530		)
Increase in advances from Federal Home Loan Bank		3,320			—
Dividends paid		(312		)	(341		)
Net cash used in financing activities		(17,458		)	(24,535		)
Net change in cash and due from banks		6,287			(2,659		)
Cash and due from banks at beginning of period		11,117			12,877
Cash and due from banks at end of period		$	17,404		$	10,218
Supplemental disclosures of cash paid during the period for:
Interest		$	1,066		$	3,191
Income taxes		$	181		$	290
Supplemental disclosures of noncash transactions:
Change in unrealized gain (loss) on investment securities available for sale, net of taxes		$	753		$	700

 

See notes to consolidated financial statements.

 

4

 

CITIZENS BANCSHARES CORPORATION AND SUBSIDIARIES

Notes to the Consolidated Financial Statements

June 30, 2003 and 2002

(Unaudited)

 

SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES

 

Basis of Presentation

 

Citizens Bancshares Corporation (the “Company”) is a holding company that provides a full range of commercial banking and mortgage brokerage services to individual and corporate customers in metropolitan Atlanta and Columbus, Georgia, and as of February 28, 2003, in Birmingham and Eutaw, Alabama, through its wholly owned subsidiary, Citizens Trust Bank (the “Bank”).  The Bank operates under a state charter and serves its customers through eight full-service branches in metropolitan Atlanta, Georgia, one full-service branch in Columbus, Georgia, two full-service branches in Birmingham, Alabama, and one full-service branch in Eutaw, Alabama.

 

The accompanying unaudited consolidated financial statements have been prepared pursuant to the rules and regulations for reporting on Form 10-Q.  Accordingly, certain disclosures required by generally accepted accounting principles are not included herein. These interim statements should be read in conjunction with the financial statements and notes thereto included in the Company’s latest Annual Report on Form 10-K filed with the Securities and Exchange Commission for the year ended December 31, 2002.  The results of operations for the interim periods reported herein are not necessarily representative of the results expected for the full 2003 fiscal year.

 

The consolidated financial statements of the Company as of June 30, 2003 and for the three and six month periods ended June 30, 2003 and 2002 are unaudited.  In the opinion of management, all adjustments necessary for a fair presentation of the financial position and results of operations and cash flows for the three month and six month periods have been included.  All adjustments are of a normal recurring nature.  All significant intercompany accounts and transactions have been eliminated in consolidation.

 

ACCOUNTING POLICIES

 

The Company’s consolidated financial statements have been prepared in accordance with accounting principles generally accepted in the United States of America (“GAAP”), which often require the judgment of management in the selection and application of certain accounting principles and methods.  Reference is made to the accounting policies of the Company described in the notes to the consolidated financial statements contained in the Company’s Annual Report on Form 10-K for the year ended December 31, 2002.  The Company has followed those policies in preparing this report.  Management believes that the quality and reasonableness of its most critical policies enable the fair presentation of its financial position and of its results of operations.

 

In response to the Securities and Exchange Commission’s (“SEC”) Release No. 33-8040, Cautionary Advice Regarding Disclosure About Critical Accounting Policies, the Company has identified the following as the most critical accounting policies upon which its financial status depends.  The critical policies were determined by considering accounting policies that involve the most complex or subjective decisions or assessments.  The Company’s most critical accounting

 

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policies relate to:

 

Investment Securities - The Company classifies investments in one of three categories based on management’s intent upon purchase: held to maturity securities which are reported at amortized cost, trading securities which are reported at fair value with unrealized holding gains and losses included in earnings, and available for sale securities which are recorded at fair value with unrealized holding gains and losses included as a component of accumulated other comprehensive income.  The Company had no investment securities classified as trading securities during 2003 or 2002.

 

Premiums and discounts on available for sale and held to maturity securities are amortized or accreted using a method which approximates a level yield.

 

Gains and losses on sales of investment securities are recognized upon disposition, based on the adjusted cost of the specific security.  A decline in market value of any security below cost that is deemed other than temporary is charged to earnings resulting in the establishment of a new cost basis for the security.

 

Loans  - Loans are reported at principal amounts outstanding less unearned income and the allowance for loan losses.  Interest income on loans is recognized on a level-yield basis. Loan fees and certain direct origination costs are deferred and amortized over the estimated terms of the loans using the level-yield method.  Discounts on loans purchased are accreted using the level-yield method over the estimated remaining life of the loan purchased.

 

Allowance for Loan Losses - - The Company provides for estimated losses on loans receivable when any significant and permanent decline in value occurs.  These estimates for losses are based on not only on individual assets and their related cash flow forecasts, sales values, independent appraisals, but also the volatility of certain real estate markets, and the concern for disposing of real estate in distressed markets.  For loans that are pooled for purposes of determining necessary provisions, estimates are based on loan types, history of charge-offs, and other delinquency analyses.  Therefore, the value used to determine the provision for losses is subject to the reasonableness of these estimates.  The adequacy of the allowance for loan losses is reviewed on a monthly basis by management and the Board of Directors.  On a quarterly basis a comprehensive review of the adequacy of the allowance for loan losses is performed.  This assessment is made in the context of historical losses as well as existing economic conditions, performance trends within specific portfolio segments, and individual concentrations of credit.  Loans are charged against the allowance when, in the opinion of management, such loans are deemed uncollectible and subsequent recoveries are added to the allowance.

 

A description of other accounting policies are summarized in Note 1, Summary of Significant Accounting Policies in the Notes to Consolidated Financial Statements of the Company’s Annual Report on Form 10-K for the year ended December 31, 2002.  The Company has followed those policies in preparing this report.

 

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ACQUISITION

 

On February 28, 2003, the Company acquired CFS Bancshares, Inc., a savings and loan holding company located in Birmingham, Alabama, whose banking subsidiary, Citizens Federal Savings Bank, simultaneously merged into the Bank.   The Company has paid approximately $8,444,000 in cash for all outstanding shares of CFS Bancshares, Inc. tendered through June 30, 2003.  This acquisition has resulted in a significant expansion of the Company’s market area and allows it to begin serving customers in the Birmingham metropolitan area.  The acquisition of CFS Bancshares, Inc. was accounted for as a purchase.  The fair value of the assets and liabilities acquired were determined by management and independent valuation specialists, and were recorded as of the date of purchase.  Goodwill was not recorded as the net fair value of the assets and liabilities acquired exceeded the purchase price.  The Company recorded a finite lived intangible asset related to the value of deposit accounts acquired of approximately $373,000 and is amortizing the amount over 7 years.

 

The following table presents the Company’s results of operations on a pro forma basis for the six months ended June 30, 2003:

 

		Citizens Bancshares			CFS Bancshares			Subtotal			Pro Forma Adjustments			Pro Forma Combined
Revenues		$	11,959		$	967		$	12,926		—			$	12,926
Net Income		$	1,323		$	(3,592	)	$	(2,269	)	$	3,728		$	1,459
EPS														$	0.70

 

INTANGIBLE ASSETS

 

The following table presents information about our intangible assets at June 30, 2003 and December 31, 2002:

 

		June 30, 2003						December 31, 2002
		Gross Carrying Amount			Accumulated Amortization			Gross Carrying Amount			Accumulated Amortization
Amortized intangible asset:
Core deposit intangible		$	2,836,665		$	1,182,047		$	2,463,665		$	997,198

 

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The following table presents information about aggregate amortization expense:

 

		For the 3 months ended June 30, 2003			For the 6 months ended June 30, 2003			For the 3 months ended June 30, 2002			For the 6 months ended June 30, 2002
Aggregate amortization expense of amortized intangible assets		$	96,861		$	184,849		$	87,988		$	175,976
Estimated amortization expense of amortized intangible assets:
For year ended 12/31/03		$	387,445
For year ended 12/31/04		$	405,192
For year ended 12/31/05		$	405,192
For year ended 12/31/06		$	405,192
For year ended 12/31/07		$	111,900
For year ended 12/31/08		$	53,240
For year ended 12/31/09		$	53,240
For year ended 12/31/10		$	18,466

 

COMMON STOCK

 

Basic net income per share (EPS) is computed based on net income divided by the weighted average number of common shares outstanding.  Diluted EPS is computed based on net income divided by the weighted average number of common and potential common shares. The Company’s potential common shares are due to outstanding stock options, which were not dilutive during the six months ended June 30, 2003 and 2002.

 

RECENT ACCOUNTING PRONOUNCEMENTS

 

In April 2003, the FASB issued Statement of Financial Accounting Standards (“SFAS”) No. 149, Amendment of Statement 133 on Derivative Instruments and Hedging Activities (“SFAS No. 149”) which is effective for hedging relationships entered into or modified after June 30, 2003. SFAS No. 149 amends and clarifies financial accounting and reporting for derivative instruments including certain derivative instruments embedded in other contracts and for hedging activities. The adoption of SFAS No. 149 had no impact on the Company Consolidated Financial Statements.

 

In May 2003, the FASB issued SFAS No. 150, Accounting for Certain Financial Instruments with Characteristics of both Liabilities and Equity (“SFAS No. 150”). SFAS No. 150 establishes standards for how an issuer classifies and measures certain financial instruments with characteristics of both liabilities and equity in its balance sheet. SFAS No. 150 is effective for financial instruments entered into or modified after May 31, 2003; otherwise, this statement is effective at the beginning of the first interim period beginning after June 15, 2003.  The adoption of SFAS No. 150 had no impact on the Company Consolidated Financial Statements.

 

RECLASSIFICATIONS

 

Certain 2002 amounts have been reclassified to conform to the 2003 presentation.

 

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OTHER MATTERS

 

On April 1, 2003, the Company announced a curtailment of its postretirement medical and life plans.  The curtailment reduced the Company’s associated plan liabilities by approximately $255,000 during the quarter ending June 2003.

 

ITEM 2.

MANAGEMENT’S DISCUSSION AND ANALYSIS

 

INTRODUCTION

 

Citizens Bancshares Corporation (the “Company”) is a holding company that provides a full range of commercial banking and mortgage brokerage services to individuals and corporate customers in its primary market areas, metropolitan Atlanta and Columbus, Georgia, and Birmingham and Eutaw, Alabama through its wholly owned subsidiary, Citizens Trust Bank (the “Bank”).  The Bank is a member of the Federal Reserve System and operates under a state charter.  The Company serves its customers through 12 full-service branches in Georgia and Alabama.

 

Forward Looking Statements

 

In addition to historical information, this report on Form 10-Q may contain forward-looking statements. For this purpose, any statements contained herein, including documents incorporated by reference, that are not statements of historical fact may be deemed to be forward-looking statements. Forward-looking statements are subject to numerous assumptions, risks and uncertainties. Without limiting the foregoing, the words “believe,” “anticipates,” “plan,” expects,” and similar expressions are intended to identify forward-looking statements.

 

Forward-looking statements are based on current management expectations and, by their nature, are subject to risk and uncertainties because of the possibility of changes in underlying factors and assumptions. Actual conditions, events or results could differ materially from those contained in or implied by such forward-looking statements for a variety of reasons, including: sharp and/or rapid changes in interest rates; significant changes in the economic scenario from the current anticipated scenario which could materially change anticipated credit quality trends and the ability to generate loans and gather deposits; significant delay in or inability to execute strategic initiatives designed to grow revenues and/or control expenses; unanticipated issues during the integration of acquisitions; and significant changes in accounting, tax or regulatory practices or requirements. The Company undertakes no obligation to, nor does it intend to, update forward-looking statements to reflect circumstances or events that occur after the date hereof or to reflect the occurrence of unanticipated events.

 

The following discussion is of the Company’s financial condition as of June 30, 2003 and the changes in the financial condition and results of operations for the three and six month periods ended June 30, 2003 and 2002.

 

FINANCIAL CONDITION

 

Citizens Bancshares Corporation’s total assets at June 30, 2003 were $364,390,000, an increase of $84,900,000 or 30% compared to $279,490,000 at December 31, 2002. This increase is primarily due to the acquisition of CFS Bancshares, Inc. (the “Alabama Division”), a bank holding

 

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company in Birmingham, Alabama, for approximately $8,444,000 in cash on February 28, 2003.  The acquisition of CFS Bancshares, Inc. allows the Company to extend its geographical base and provides new avenues for the Bank to sell its products and services. Accordingly, many significant changes in the financial condition of the Company are attributed to this acquisition.

 

At June 30, 2003, the Company maintained balances of cash and due from banks and federal funds sold of $17,404,000 and $725,000, respectively.  The increase in the Company’s cash and due from banks and federal funds sold balances by $6,287,000 and $725,000, respectively, were partially offset by a $14,212,000 decrease in interest bearing deposits with banks.   Similarly, the increases in investments of $52,023,000 for available for sale and $4,856,000 for held to maturity were partially offset by the $14,212,000 decrease in interest bearing deposits with banks.  At June 30, 2003, approximately $44,650,000 and $410,000 of investments classified as available for sale and held for maturity, respectively, are attributed to the Alabama Division.

 

Loans, net increased $29,148,000, during the six month period ended June 30, 2003.  The acquisition of the Alabama Division accounted for the majority of this increase. The Alabama Division had loans, net of approximately $30,090,000 at June 30, 2003.  Additionally, fixed assets increased $2,862,000 primarily due to the addition of $3,223,000 in fixed assets related to the Alabama division.

 

Other assets increased $2,229,000 to $8,052,000 at June 30, 2003.  This increase is attributed to several components including an increase in accrued interest receivables of $786,000, an increase in other real estate owned of $595,000 and an increase in federal income tax benefit of $1,243,000 obtained in the acquisition of the Alabama Division.  The increases in other assets were partially offset by deferred income taxes of $996,000.

 

Total liabilities increased $83,135,000 to $339,583,000 at June 30, 2003 from December 31, 2002. Total deposits, a component of total liabilities, increased $60,312,000 to $288,923,000.  Approximately $77,955,000 of the increase is attributed to the Alabama Division at June 30, 2003, offset by withdrawal of matured certificate of deposits by local governmental customers of approximately $12,800,000.  Corporate and Governmental customers of the Bank make significant monthly deposits and withdrawals based on their budgetary needs.  Another component of total liabilities, advances from Federal Home Loan Bank increased $22,268,000 as a result of additional advances by the Company and $18,950,000 in advances acquired from the Alabama Division at February 28, 2003.

 

INVESTMENT SECURITIES

 

The Company invests a portion of its assets in U.S. treasury bills and notes, U.S. government sponsored agency securities, mortgage backed bonds, as well as certain equity securities.  At June 30, 2003 and December 31, 2002, the Company’s investment securities portfolio represented approximately 31% and 20% of total assets, respectively.

 

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Investment securities available for sale are summarized as follows (in thousands):

 

At June 30, 2003		Amortized Cost			Gross Unrealized Gains			Gross Unrealized Losses			Fair Value
U.S. Treasury and U.S. Government agencies		$	9,189		$	175		$	—		$	9,364
State, county, and municipal securities		16,279			1,183			—			17,462
Mortgage-backed securities		77,374			707			92			77,989
Mutual funds											—
Equity securities		1,400			—			220			1,180
Totals		$	104,242		$	2,065		$	312		$	105,995

 

At December 31, 2002		Amortized Cost			Gross Unrealized Gains			Gross Unrealized Losses			Fair Value
U.S. Treasury and U.S. Government agencies		$	4,021		$	16		$	—		$	4,037
State, county, and municipal securities		15,798			492			—			16,290
Mortgage-backed securities		32,145			204			15			32,334
Equity securities		1,400			—			89			1,311
Totals		$	53,364		$	712		$	104		$	53,972

 

Investment securities held to maturity are summarized as follows (in thousands):

 

At June 30, 2003		Amortized Cost			Gross Unrealized Gains			Gross Unrealized Losses			Fair Value
U.S. Treasury and U.S. Government agencies		$	1,000		$	3		$	—		$	1,003
Mortgage-backed securities		579			10			—			589
State, county, and municipal securities		5,653			302			—			5,955
Totals		$	7,232		$	315		$	—		$	7,547

 

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December 31, 2002		Amortized Cost			Gross Unrealized Gains			Gross Unrealized Losses			Fair Value
State, county, and municipal securities		$	2,376		$	135		$	—		$	2,511
Totals		$	2,376		$	135		$	—		$	2,511

 

LOANS

 

Loans outstanding by classification are summarized as follows (in thousands):

 

		June 30, 2003			December 31, 2002
Commercial, financial, and agricultural		$	53,091		$	53,940
Installment		7,541			5,652
Real estate - mortgage		93,743			96,999
Real estate - construction		14,859			14,058
Other		37,078			5,376
		206,312			176,025
Less:  Net deferred loan fees		989			537
Allowance for loan losses		3,419			2,630
Discount on loans acquired from FDIC		679			781
Total Loans		$	201,225		$	172,077

 

NONPERFORMING ASSETS

 

Nonperforming assets include nonperforming loans, real estate acquired through foreclosure and repossessed assets.  Nonperforming loans consist of loans that are past due with respect to principal or interest more than 90 days or have been placed on nonaccrual status.

 

With the exception of the loans included within nonperforming assets in the table below, management is not aware of any loans classified for regulatory purposes as loss, doubtful, substandard, or special mention that have not been disclosed which (1) represent or result from trends or uncertainties which management reasonably expects will materially impact future operating results, liquidity, or capital resources, or (2) represent any information on material credits which management is aware that causes management to have serious doubts as to the abilities of such borrowers to comply with the loan repayment terms.

 

Nonperforming assets increased by $1,747,000 to $6,810,000 at June 30, 2003 from $5,063,000 at December 31, 2002.  Nonperforming assets represented 3.35% of loans, net of unearned income, discounts and real estate acquired through foreclosure at June 30, 2003 as compared to 2.91% at December 31, 2002.

 

The table below presents a summary of the Company’s nonperforming assets at June 30, 2003

 

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and December 31, 2002.

 

		2003			2002
		(in thousands, except financial ratios)
Nonperforming assets:
Nonperforming loans:
Nonaccrual loans		$	5,486		$	4,333
Past-due loans		—			—
Nonperforming loans		5,486			4,333
Real estate acquired through foreclosure		1,324			730
Total nonperforming assets		$	6,810		$	5,063
Ratios:
Nonperforming loans to loans, net of unearned income and discount on loans		2.68		%	2.49		%
Nonperforming assets to loans, net of unearned income, discounts, and real estate acquired through foreclosure		3.35		%	2.91		%
Nonperforming assets to total assets		1.87		%	1.81		%
Allowance for loan losses to nonperforming loans		62.32		%	60.69		%
Allowance for loan losses to nonperforming assets		50.21		%	51.94		%

 

ALLOWANCE FOR LOAN LOSSES

 

The allowance for loan losses is primarily available to absorb losses inherent in the loan portfolio. Credit exposures deemed uncorrectable are charged against the allowance for loan losses. Recoveries of previously charged-off amounts are credited to the allowance for loan losses.

 

The Company provides for estimated losses on loans receivable when any significant and permanent decline in value occurs.  These estimates for losses are based on individual assets and their cash flow forecasts, sales values, independent appraisals, the volatility of certain real estate markets, and concern for disposing of real estate in distressed markets.  For loans that are pooled for purposes of determining necessary provisions, estimates are based on loan types, history of charge-offs, and other delinquency analyses.  Therefore, the value used to determine the provision for losses is subject to the reasonableness of these estimates. The adequacy of the allowance for loan losses is reviewed on a monthly basis by management and the Board of Directors.  On a quarterly basis a comprehensive review of the adequacy of allowance for loan losses is performed.  This assessment is made in the context of historical losses as well as existing economic conditions, performance trends within specific portfolio segments, and individual concentrations of credit.

 

Loans are charged against the allowance when, in the opinion of management, such loans are deemed uncollectible and subsequent recoveries are added to the allowance.  For the six months

 

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ended June 30, 2003, provisions for loan losses totaled $280,000 compared to $400,000 for the same period in 2002.

 

The allowance for loan losses at June 30, 2003 was approximately $3,419,000, representing 1.67% of total loans, net of unearned income compared to approximately $2,630,000 at December 31, 2002, which represented 1.51% of total loans, net of unearned income.

 

Management believes the allowance for loan losses is adequate. While management uses available information to recognize losses on loans, future additions to the allowance may be necessary based on changes in economic conditions, particularly in the metropolitan Atlanta area. In addition, regulatory agencies, as an integral part of their examination process, periodically review the Company’s allowance for loan losses. Such agencies may require the Company to recognize additions to the allowance based on their judgments about information available to them at the time of their examination.

 

A substantial portion of the Company’s loan portfolio is secured by real estate in the metropolitan Atlanta market, including a concentration of church loans and convenience stores.  The Company’s church loans were approximately $42.2 million at June 30, 2003 and $37.7 million at December 31, 2002.  The Company’s loans to area convenience stores were approximately $26.0 million at June 30, 2003 and $26.3 million at December 31, 2002.  Accordingly, the ultimate collectability of the substantial portion of the Company’s loan portfolio is susceptible to changes in market conditions in the metropolitan Atlanta area.

 

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The following table summarizes loans, changes in the allowance for loan losses arising from loans charged off, recoveries on loans previously charged off by loan category, and additions to the allowance which have been charged to operating expense as of and for the six month period ended June 30, 2003 and year ended December 31, 2002, respectively.

 

		2003			2002
		(Amounts in thousands, except financial ratios)
Loans, net of unearned income and discounts		$	204,644		$	174,707
Average loans, net of unearned income, discounts and the allowance for loan losses		$	191,373		$	157,867
Allowance for loans losses at the beginning of period		$	2,630		$	2,003
Loans charged off:
Commercial, financial, and agricultural		15			840
Real estate - loans		279			245
Installment loans to individuals		171			751
Total loans charged off		465			1,836
Recoveries of loans previously charged off:
Commercial, financial, and agricultural		43			503
Real estate - loans		197			151
Installment loans to individuals		126			149
Total loans recovered		366			803
Net loans charged off		99			1,033
Allowance for loan losses transferred from acquired institution		608			—
Additions to allowance for loan losses charged to operating expense		280			1,660
Allowance for loan losses at period end		$	3,419		$	2,630
Ratio of net loans charged off to average loans, net of unearned income, discounts, and the allowance for loan losses		0.05		%	0.65		%
Ratio of allowance for loan losses to loans, net of unearned income and discounts		1.67		%	1.51		%

 

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DEPOSITS

 

Deposits remain the Company’s primary source of funding loan growth.  Total deposits for the six month period ended June 30, 2003 increased by 26.4% or $60,312,000 to $288,923,000.  Noninterest-bearing deposits decreased by $986,000 or 1.6%, while interest-bearing deposits increased by $61,298,000 or 36.9%.  The increase in total deposits is primarily attributed the Company’s Alabama Division acquired on February 28, 2003 and Corporate and Governmental customers who make significant monthly deposits and withdrawals based on their budgetary needs.

 

The following is a summary of interest-bearing deposits (in thousands):

 

		June 30 2003			December 31, 2002
NOW and money market accounts		$	39,444		$	37,485
Savings accounts		70,580			44,061
Time deposits of $100,000 or more		57,809			46,387
Other time deposits		59,682			38,284
		$	227,515		$	166,217

 

OTHER BORROWED FUNDS

 

While the Company continues to emphasize funding earning asset growth through deposits, the Company has relied on other borrowings as a supplemental funding source.  Other borrowings consist of Federal Home Loan Bank (the “FHLB”) advances and short-term borrowings.  The Company’s bank subsidiary had outstanding advances from the FHLB of $41,018,000 at June 30, 2003 and $18,750,000 at December 31, 2002.   The following advances are collateralized by a blanket lien on the Company’s 1-4 family mortgage loans.

 

Maturity		Callable		Type		June 30, 2003					December 31, 2002
April 2010		Quarterly		Fixed		5.82	%	$	10,000,000		5.82	%	$	10,000,000
July 2003		Daily		Variable		1.50	%	31,018,000			1.30	%	8,750,000
Total Principal Outstanding								$	41,018,000				$	18,750,000
Weighted Average Rate						2.59	%				3.76	%

 

The Company has an unsecured note payable of approximately $543,000 at June 30, 2003 and $740,000 at December 31, 2002.  The note bears interest at the lender’s prime rate minus 50 basis points.

 

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RESULTS OF OPERATIONS

 

Net Interest Income:

 

Net interest income is the principal component of a financial institution’s income stream and represents the difference, or spread, between interest and fee income generated from earning assets and the interest expense paid on deposits and borrowed funds.  Fluctuations in interest rates as well as volume and mix changes in earning assets and interest bearing liabilities can materially impact net interest income.

 

For the six months ended June 30, 2003, the Company’s net interest income increased $1,247,000 to $6,892,000 compared to June 30, 2002.  Total interest income increased $957,000 and is attributed to loans, including fees income which increased $1,211,000 partially offset by a decrease in interest-bearing deposits income of $161,000.  The Company reallocated its mix of earning assets by moving excess funds held in low yielding interest bearing deposits to higher yielding loans assets.  In addition, interest expense on deposits decreased $564,000 as the Company was able to lower its funding cost for the six month period ended June 30, 2003 compared to same period in 2002.  This decrease in interest on deposits was partially offset by a $274,000 increase in interest paid on other borrowings due to an increase in the amount of borrowings outstanding during the six month period of 2003 compared with 2002.

 

Net interest income increased $713,000 for the three month period ended June 30, 2003 as compared with the same period of the previous year.  The increase in net interest income resulted from the increase in the amount of higher yielding loans assets which generated additional interest income of $864,000, partially offset by a $70,000 decrease in interest bearing deposits compared to the same period last year.  In addition, interest expense on deposits decreased $146,000 for the three month period ended June 30, 2003 as the Company was able to lower its funding cost compared to same period in 2002.  This decrease in interest on deposits was partially offset by a $175,000 increase in interest paid on other borrowings due to an increase in the amount of borrowings outstanding.

 

Noninterest income:

 

Noninterest income consists of revenues generated from a broad range of financial services and activities, including fee-based services, origination fees from Mortgage Services, and profits and commissions earned through securities and insurance sales.  In addition, gains and losses realized from the sale of investment portfolio securities and sales of assets are included in noninterest income. Noninterest income totaled $2,540,000 for the six month period ended June 30, 2003, a decrease of $274,000 or 9.7% compared with the same period ended June 30, 2002. This decrease is attributed to a $120,000 decrease in origination fees from the Company’s mortgage subsidiary and a $121,000 decrease in other operating income.   In March 2002, the Company’s mortgage subsidiary’s operations ceased and all mortgage loan activities are presented as a component of the Bank’s operations within other operating income.  The decrease in other operating income is attributed to various immaterial components of other operating income including other recoveries.

 

For the three month period ended June 30, 2003, noninterest income totaled $1,392,000, a decrease of $70,000 or 4.8% compared to the three month period ended June 30, 2002.  This decrease is attributed to a $84,000 decrease in other operating income, partially offset by an $8,000 increase in service charges fees and a $6,000 increase in gains on the sale of securities.

 

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Noninterest expense:

 

Noninterest expense totaled $7,452,000 for the six month period ended June 30, 2003, an increase of $207,000 or 2.9% compared to the same period last year.  The increase, in large part, is due to the acquisition of CFS Bancshares, Inc. on February 28, 2003 and the resulting growth in the Company’s operations.

 

Salaries and employee benefits increased $120,000 or 3.4% for the six month period ended June 30, 2003 compared to the same period in 2002.  This increase is attributed to approximately 32 employees at the Alabama Division acquired during the purchase of CFS Bancshares, Inc.  As of June 30, 2003, the company completed it conversion of the Alabama Division’s computer system to the Company’s computer system.  As a result, the Company plans to eliminate any overlapping functions to reduce salaries expense.  For the three month period ended June 30, 2003, salaries and employee benefits increased $381,000 primarily as a result of the acquisition of the Alabama Division and an early retirement program offered during the three month period ended June 30, 2003.  The additional salary and benefit costs were partially offset by a $251,000 gains realized on the curtailment of the Company’s postretirement medical and life plans on April 1, 2003.

 

Net occupancy and equipment expense increased by $195,000 or 17.6% to $1,302,000 for the six month period ended June 30, 2003 compared to the same period in 2002.  Similarly, for the three month period ended June 30, 2003, net occupancy and equipment expense increased by $189,000. These increases are primarily the results of the acquisition of the Alabama Division on February 28, 2003, which has three full service branches.  In June 2003, the Company consolidated two branches into its Cascade branch, located in Southwest Atlanta, Georgia.  The consolidated branches were closed by the Company to control overhead cost.

 

Other operating expenses, decreased $108,000 or 4.1% to $2,519,000 for the six month period ended June 30, 2003, compared to $2,627,000 for the same period in 2002.  This decrease is primarily due to also due to management’s efforts to control overhead costs.   For the three month period ended June 30, 2003, other operating expenses increased $63,000 primarily as a result of the acquisition of the Alabama Division on February 28, 2003.

 

INTEREST RATE SENSITIVITY MANAGEMENT

 

Interest rate sensitivity management involves managing the potential impact of interest rate movements on net interest income within acceptable levels of risk.  The Company seeks to accomplish this by structuring the balance sheet so that repricing opportunities exist for both assets and liabilities in equivalent amounts and time intervals.  Imbalances in these repricing opportunities at any point in time constitutes a financial institution’s interest rate risk.  The Company’s ability to reprice assets and liabilities in the same dollar amounts and at the same time minimizes interest rate risk.

 

One method of measuring the impact of interest rate sensitivity is the cumulative gap analysis.  The difference between interest rate sensitive assets and interest rate sensitive liabilities at various time intervals is referred to as the gap.  The Company is liability sensitive on a short-term basis as reflected in the following table.  Generally, a net liability sensitive position indicates that there would be a negative impact on net interest income in an increasing rate environment.  However, interest rate sensitivity gap does not necessarily indicate the impact of general interest rate movements on the net interest margin, since all interest rates and yields do not adjust at the same

 

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velocity and the repricing of various categories of assets and liabilities is subject to competitive pressures and the needs of the Company’s customers.  In addition, various assets and liabilities indicated as repricing within the same period may in fact reprice at different times within such period and at different rates.  For conservative purposes, the Company has included demand deposits such as NOW, money market and savings accounts in the three month category.  However, the actual repricing of these accounts may lag beyond twelve months.  The interest rate sensitivity gap is only a general indicator of potential effects of interest rate changes on net interest income.

 

The following table sets forth the distribution of the repricing of the Company’s interest rate sensitive assets and interest rate sensitive liabilities as of June 30, 2003.

 

		Cumulative amounts as of June 30, 2003 Maturing and repricing within
		3 Months			3 to 12 Months			1 to 5 Years			Over 5 Years			Total
		(amounts in thousands, except ratios)
Interest-sensitive assets:
Investments		$	100		$	157		$	5,237		$	107,733		$	113,227
Certificates of deposit		1,095			1,900			253			—			3,248
Loans		9,601			16,833			85,916			88,875			201,225
Fed Funds		725			—			—			—			725
Interest-bearing deposits with other banks		980			—			—			—			980
Total interest-sensitive assets		$	12,501		$	18,890		$	91,406		$	196,608		$	319,405
Interest-sensitive liabilities:
Deposits (a)		$	207,930		$	57,816		$	18,277		$	4,900		$	288,923
Notes payable		543			—			—			—			543
Trust preferred securities		—			—			5,000			—			5,000
Other borrowings		41,018			—			—			—			41,018
Total interest-sensitive liabilities		$	249,491		$	57,816		$	23,277		$	4,900		$	335,484
Interest-sensitivity gap		$	(236,990	)	$	(38,926	)	$	68,129		$	191,708		$	(16,079	)
Cumulative interest-sensitivity gap to total interest-sensitive assets		(74.20		)%	(86.38		)%	(65.05		)%	-5.03		%	-5.03		%

 

(a) Savings, Now and money market deposits totaling  $110,024 are included in the maturing in 3 months classification.

 

LIQUIDITY

 

Liquidity is the ability of the Company to convert assets into cash or cash equivalents without significant loss and to raise additional funds by increasing liabilities. Liquidity management involves maintaining the Company’s ability to meet the day-to-day cash flow requirements of its customers, whether they are depositors wishing to withdraw funds or borrowers requiring funds to meet their credit needs.  Without proper liquidity management, the Company would not be able to perform the primary function of a financial intermediary and would, therefore, not be able to meet the needs of the communities we serve.  Additionally, the parent holding company requires cash for various operating needs including: dividends to shareholders; business combinations; capital

 

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injections to its subsidiaries; the servicing of debt; and the payment of general corporate expenses.

 

The primary source of liquidity for the parent holding company is dividends from the Bank. The amount of dividends paid by the Bank to the Company is limited by various banking regulatory agencies.  The Georgia Department of Banking and Finance regulates the dividend payments and must approve dividend payments that exceed 50% of the Bank’s net income for the prior year. The total dividends that could be paid by the Bank to the Company in 2003 without prior regulatory approval is approximately $928,000.  Also, the Company has access to various capital markets. The Company does not anticipate any liquidity requirements in the near future that it will not be able to meet.  In March 2003, the Bank paid cash dividends totaling $928,000 to the Company.

 

Asset and liability management functions not only serve to assure adequate liquidity in order to meet the needs of the Company’s customers, but also to maintain an appropriate balance between interest-sensitive assets and interest-sensitive liabilities so that the Company can earn a return that meets the investment requirements of its shareholders.  Daily monitoring of the sources and uses of funds is necessary to maintain an acceptable cash position that meets both requirements.

 

The asset portion of the balance sheet provides liquidity primarily through loan principal repayments, maturities of investment securities and, to a lesser extent, sales of investment securities available for sale and trading account securities. Other short-term investments such as federal funds sold, securities purchased under agreements to resell and maturing interest bearing deposits with other banks, are additional sources of liquidity funding.

 

The liability portion of the balance sheet provides liquidity through various customers’ interest bearing and noninterest bearing deposit accounts. Federal funds purchased, securities sold under agreements to repurchase and other short-term borrowings are additional sources of liquidity and, basically, represent the Company’s incremental borrowing capacity. These sources of liquidity are short-term in nature and are used as necessary to fund asset growth and meet short-term liquidity needs.

 

CAPITAL RESOURCES

 

Shareholders’ equity increased $1,765,000 for the six months ended June 30, 2003, due to the increase change in retained earnings and an increase in accumulated other comprehensive income.  On March 15, 2003, the Company paid a cash dividend of approximately $312,000 to stockholders of record as of March 1, 2003.  The annual dividend rate in 2003 was $0.15 per common share.  For the six month period ended June 30, 2003, accumulated other comprehensive income increased $754,000 to $1,156,000, compared with an accumulated other comprehensive income of $402,000 at December 31, 2002.

 

Quantitative measures established by regulation to ensure capital adequacy require the Company to maintain minimum amounts and ratios of total and Tier 1 capital to risk weighted assets, and Tier 1 capital to average assets.  As of June 30, 2003, the Company’s bank subsidiary’s total and Tier 1 capital to risk weighted assets and Tier 1 to average assets were 13%, 12% and 8% respectively.  As of June 30, 2003, the Company meets all capital adequacy requirements to which it is subject.

 

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ITEM 4.                                  CONTROLS AND PROCEDURES

 

Based on the evaluation of our disclosure controls and procedures, the Company’s Chief Executive Officer, Chief Operating Officer, and Chief Financial Officer have concluded that our disclosure controls and procedures were effective as of June 30, 2003 in timely alerting them to material information required to be included in our reports filed with or furnished to the Securities and Exchange Commission.  There have been no changes in the Company’s internal controls over financial reporting that occurred during the quarter ended June 30, 2003 that have materially affected, or are reasonably likely to materially affect, our internal control over financial reporting.

 

PART II.  OTHER INFORMATION

 

ITEM 1.                                  LEGAL PROCEEDINGS

 

The Company is not aware of any material pending legal proceedings to which the Company or its subsidiary is a party or to which any of their property is subject.

 

ITEM 2.                                  CHANGES IN SECURITIES

 

None

 

ITEM 3.                                  DEFAULTS UPON SENIOR SECURITIES

 

None

 

ITEM 4.                                  SUBMISSION OF MATTERS TO VOTE OF SECURITY HOLDERS

 

The Company held its Annual Shareholders’ Meeting on Wednesday, May 28, 2003, at 10:00 a.m., at the Atlanta Life Insurance Company, Herndon Plaza, 100 Auburn Avenue, N.E., Atlanta, Georgia.  The purpose of the Annual Shareholders’ Meeting was to elect four (4) Class I directors who will serve a three year term expiring at the 2006 annual meeting.  The following table presents the results of the shareholders vote:

 

Directors		For		Withhold
RayRobinson		1,126,134		30,682
H. Jerome Russell		1,140,014		16,802
Bunny Stokes, Jr.		1,139,739		17,077
James E. Young		1,139,019		17,797

 

ITEM 5.                                  OTHER INFORMATION

 

None

 

ITEM 6.                                  EXHIBITS AND REPORTS ON FORM 8-K

 

(a)               Exhibits:

 

Exhibit 31

 

Section 302 Certification by the Company’s executive officers with respect to the

 

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Company’s Quarterly Report on Form 10-Q for the quarter ended June 30, 2003.

 

Exhibit 32

 

Section 906 Certification pursuant to Section 1350 of Chapter 63 of Title 18 U.S.C. by the Company’s executive officers with respect to the Company’s Quarterly Report on Form 10-Q for the quarter ended June 30, 2003.

 

(b)               Reports on Form 8-K:

 

On May 15, 2003, the Company filed a Current Report on Form 8-K reporting under Item 2, Acquisition of Assets, the acquisition of CFS Bancshares on February 28, 2003.

 

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