UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-K
FOR ANNUAL AND TRANSITION REPORTS
PURSUANT TO SECTIONS 13 OR 15(d) OF
THE SECURITIES EXCHANGE ACT OF 1934
|X| Annual Report Pursuant to Section 13 or 15(d) of the Securities Exchange
Act of 1934
For the Fiscal Year Ended December 31, 2003
OR
|_| Transition Report Pursuant to Section 13 or 15(d) of the Securities
Exchange Act of 1934
For the transition period from ____________ to _________
Commission File No. 0-25766
Community Bank Shares of Indiana, Inc.
(Exact Name of Registrant as Specified in its Charter)
Indiana 35-1938254
(State or Other Jurisdiction of (I.R.S. Employer
Incorporation or Organization) Identification Number)
101 West Spring Street, New Albany, Indiana 47150
(Address of Principal Executive Offices) (Zip Code)
Registrant's telephone number, including area code: (812) 944-2224
Securities Registered Pursuant to Section 12(b) of the Act:
None
Securities Registered Pursuant to Section 12(g) of the Act:
Common Stock, par value $0.10 per share
(Title of Class)
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 twelve months (or for such shorter period that the
Registrant was required to file such reports) and (2) has been subject to such
requirements for the past 90 days. YES |X| NO |_|.
Indicate by check mark if disclosure of delinquent filers pursuant to Item 405
of Regulation S-K is not contained herein, and will not be contained to the best
of Registrant's knowledge, in definitive proxy or information statements
incorporated by reference in Part III of this Form 10-K or any amendment to this
Form 10-K. |_|
The aggregate market value of the voting and non-voting common equity held by
non-affiliates of the Registrant, computed by reference to the closing price of
$21.65 per share of such stock as of March 5, 2004, was $51,650,318. (The
exclusion from such amount of the market value of the shares owned by any person
shall not be deemed an admission by the Registrant that such person is an
affiliate of the Registrant.)
As of March 5, 2004, there were issued and outstanding 2,385,696 shares of the
Registrant's Common Stock.
DOCUMENTS INCORPORATED BY REFERENCE
Part III of Form 10-K - Proxy Statement for the 2003 Annual Meeting of
Stockholders.
Form 10-K
Index
Page
----
Part I:
Item 1. Business 3
Item 2. Properties 8
Item 3. Legal Proceedings 8
Item 4. Submission of Matters to a Vote of Security Holders 8
Part II:
Item 5. Market for Registrant's Common Equity, Related Stockholder Matters and Issuer
Purchase of Equity Securities 9
Item 6. Selected Financial Data 9
Item 7. Management's Discussion and Analysis of Financial Condition and
Results of Operations 10
Item 7A. Quantitative and Qualitative Disclosures about Market Risk 20
Item 8. Financial Statements and Supplementary Data 22
Part III:
Item 9. Directors and Executive Officers of the Registrant 53
Item 10. Executive Compensation 53
Item 11. Security Ownership of Certain Beneficial Owners
and Management and Related Stockholder Matters 53
Item 12. Certain Relationships and Related Transactions 53
Item 13. Controls and Procedures 53
Item 14. Principal Accountant Fees and Services 53
Part IV:
Item 15. Exhibits, Financial Statement Schedules, and Reports on Form 8-K 54
Signatures 55
Index of Exhibits 56
2
PART I
ITEM 1. BUSINESS
General
Community Bank Shares of Indiana, Inc. (the "Company") is a single bank holding
company headquartered in New Albany, Indiana. The Company's wholly-owned banking
subsidiary is Community Bank of Southern Indiana (the "Bank"). Until November
14, 2003, the Company also operated four bank offices in Jefferson and Nelson
County, Kentucky through its wholly owned banking subsidiary, Community Bank of
Kentucky, Inc. ("CBKY"). On November 14, 2003 CBKY was merged with and into the
Bank. The Bank is a state-chartered stock commercial bank headquartered in New
Albany, Indiana and is regulated by the Indiana Department of Financial
Institutions and the Federal Deposit Insurance Corporation. During 2002, the
Bank established three new wholly-owned subsidiaries to manage its investment
portfolio. CBSI Holdings, Inc. and CBSI Investments, Inc. are Nevada
corporations which jointly own CBSI Investment Portfolio Management, LLC, a
Nevada limited liability corporation which holds and manages investment
securities previously owned by the Bank. A total of $88.7 million in investment
securities were initially transferred from the Bank to CBSI Investment Portfolio
Management, LLC.
The Company had total assets of $521.3 million, total deposits of $341.3
million, and stockholders' equity of $42.3 million as of December 31, 2003. The
Company's principal executive office is located at 101 West Spring Street, New
Albany, Indiana 47150, and the telephone number at that address is (812)
944-2224.
Business Strategy
The Company's current business strategy is to operate a well-capitalized,
profitable and independent community bank with a significant presence in its
primary market areas. The Bank is primarily engaged in the business of
attracting deposits from the general public and using such funds to originate 1)
secured and unsecured business loans of various terms to local businesses and
professional organizations, 2) consumer loans including home equity lines of
credit, automobile and recreational vehicle, construction loans, and loans
secured by deposit accounts, and 3) residential real estate loans. In addition,
the Company also offers non-deposit investment products such as stocks, bonds,
mutual funds, and annuities to customers within its banking market areas through
a strategic alliance with Smith Barney.
Lending Activities
Commercial Business Loans. The Company originates non-real estate related
business loans to local small businesses and professional organizations. This
type of commercial loan has been offered at both variable rates and fixed rates
and can be unsecured or secured by general business assets such as equipment,
accounts receivable or inventory. The Company has increased its origination of
commercial business loans over the last few years. Such loans generally have
shorter terms and higher interest rates than commercial real estate loans.
However, commercial business loans also involve a higher level of credit risk
because of the type and nature of the collateral.
Commercial Real Estate Loans. The Company's commercial real estate loans are
secured by improved property such as offices, small business facilities,
apartment buildings, nursing homes, warehouses and other non-residential
buildings, most of which are located in the Company's primary market area and
most of which are to be used or occupied by the borrowers. Commercial real
estate loans have been offered at adjustable interest rates and at fixed rates
with balloon provisions at the end of the term financing. The Company continues
to originate commercial real estate loans, commercial real estate construction
loans and land loans.
Loans secured by commercial real estate generally involve a greater degree of
risk than residential mortgage loans and carry larger loan balances. This
increased credit risk is a result of several factors, including the
concentrations of principal in a limited number of loans and borrowers, the
effects of general economic conditions on income producing properties, and the
increased difficulty of evaluating and monitoring these types of loans.
Furthermore, the repayment of loans secured by multifamily and commercial real
estate is typically dependent upon the successful operation of the related real
estate project. If the cash flow from the project is reduced, the borrower's
ability to repay the loan may be impaired. The Company has increased its
origination of multi-family residential or commercial real estate loans over the
last few years, but attempts to protect itself against the increased credit risk
associated with these loans through its underwriting standards and ongoing
monitoring processes.
Residential Real Estate Loans. The Company originates one-to-four family,
owner-occupied, residential mortgage loans secured by property located in the
Company's market area. The majority of the Company's residential mortgage loans
consist of loans secured by owner-occupied, single family residences. The
Company currently offers residential mortgage loans for terms up to thirty
years, with adjustable (ARM) or fixed interest rates. Origination of fixed-rate
mortgage loans versus ARM loans is monitored continuously and is affected
significantly by the level of market interest rates, customer preference, and
loan products offered by the Company's competitors. Therefore, even if
management's strategy is to emphasize ARM loans, market conditions may be such
that there is greater demand for fixed-rate mortgage loans.
The primary purpose of offering ARM loans is to make the Company's loan
portfolio more interest rate sensitive. ARM loans, however, can carry increased
credit risk because during a period of rising interest rates the risk of default
on ARM loans may increase due to increases in borrowers' monthly payments.
The Company's fixed-rate mortgage loans are amortized on a monthly basis with
principal and interest due each month. Residential
3
real estate loans often remain outstanding for significantly shorter periods
than their contractual terms because borrowers may refinance or prepay loans at
their option.
After the initial fixed rate period, the Company's ARM loans generally adjust
annually with interest rate adjustment limitations of two percentage points per
year and six percentage points over the life of the loan. The Company also makes
ARM loans with interest rates that adjust every one, three or five years. Under
the Company's current practice, after the initial fixed rate period the interest
rate on ARM loans adjusts to the applicable U.S. Treasury Constant Maturity
Index plus a spread. The Company's policy is to qualify borrowers for one-year
ARM loans based on the initial interest rate plus the maximum annual rate
increase.
The Company has used different indices for its ARM loans such as the National
Average Median Cost of Funds, the Sixth District Net Cost of Funds Monthly
Index, the National Average Contract Rate for Previously Occupied Homes, the
average three year Treasury Bill Rate, and the Eleventh District Cost of Funds.
Consequently, the adjustments in the Company's portfolio of ARM loans tend not
to reflect any one particular change in any specific interest rate index, but
general interest rate trends overall.
Regulations limit the amount that a bank may lend based on the appraised value
of real estate securing loans that qualify for sale into the secondary market.
Such regulations permit a maximum loan-to-value ratio of ninety-five percent for
residential property and from sixty-five to ninety percent for all other real
estate related loans. The Company's lending policies, however, generally limit
the maximum loan-to-value ratio on both fixed-rate and ARM loans to eighty
percent of the lesser of the appraised value or the purchase price of the
property to serve as security for the loan, unless insured by a private mortgage
insurer.
The Company occasionally makes real estate loans with loan-to-value ratios in
excess of eighty percent. For real estate loans with loan-to-value ratios of
between eighty and ninety percent, the Company requires the first twenty percent
of the loan to be covered by private mortgage insurance. For real estate loans
with loan-to-value ratios of between ninety percent and ninety-five percent, the
Company requires private mortgage insurance to cover the first twenty-five to
thirty percent of the loan amount. The Company requires fire and casualty
insurance, as well as title insurance or an opinion of counsel regarding good
title, on all properties securing real estate loans made by the Company.
Construction Loans. The Company originates loans to finance the construction of
owner-occupied residential property. The Company makes construction loans to
private individuals for the purpose of constructing a personal residence or to
local real estate builders and developers. Construction loans generally are made
with either adjustable or fixed-rate terms of up to six months. Loan proceeds
are disbursed in increments as construction progresses and as inspections
warrant. Construction loans are structured to be converted to permanent loans
originated by the Company at the end of the construction period or to be
terminated upon receipt of permanent financing from another financial
institution.
Consumer Loans. The principal types of consumer loans offered by the Company are
equity lines of credit, auto loans, home improvement loans, and loans secured by
deposit accounts. Equity lines of credit are predominately made at rates which
adjust periodically and are indexed to the prime rate. Some consumer loans are
offered on a fixed-rate basis depending upon the borrower's preference. The
Company's equity lines of credit are generally secured by the borrower's
principal residence and a personal guarantee.
The underwriting standards employed by the Company for consumer loans include a
determination of the applicant's credit history and an assessment of the
prospective borrower's ability to meet existing obligations and payments on the
proposed loan. The stability of the applicant's monthly income may be determined
by verification of gross monthly income from primary employment and from any
verifiable secondary income. The underwriting process also includes a comparison
of the value of the collateral in relation to the proposed loan amount.
Loan Solicitation and Processing. Loans are originated through a number of
sources including loan sales staff, real estate broker referrals, existing
customers, borrowers, builders, attorneys and walk-in customers. Processing
procedures are affected by the type of loan requested and whether the loan will
be funded by the Company or sold into the secondary market.
Mortgage loans that are sold into the secondary market are submitted, when
possible, for Automated Underwriting, which allows for faster approval and an
expedited closing. The Company's responsibility on these loans is the
fulfillment of the loan purchaser's requirements. These loans often have reduced
underwriting features and may be made without an appraisal or credit report at
the option of the purchaser. Loans that are reviewed in a more traditional
manner, which are mostly loans held for the Company's own portfolio, require
credit reports, appraisals, and income verification before they are approved or
disapproved. Private mortgage insurance is generally required on loans with a
ratio of loan to appraised value of greater than eighty percent. Property
insurance and flood certifications are required on all real estate loans.
Installment loan documentation varies by the type of collateral offered to
secure the loan. In general, an application and credit report is required before
a loan is submitted for underwriting. The underwriter determines the necessity
of any additional documentation, such as income verification or appraisal of
collateral. An authorized loan officer approves or declines the loan after
review of all applicable loan documentation collected during the underwriting
process.
Commercial loans are underwritten by the commercial loan officer who makes the
initial contact with the customer applying for credit. The underwriting of these
loans is reviewed after the fact for compliance with the Company's general
underwriting standards. A loan exceeding the authority of the underwriting loan
officer requires the approval of a loan committee or the Board of Directors of
the Bank, depending on the loan amount.
Loan Commitments. The Company issues standby loan origination commitments to
qualified borrowers primarily for the construction
4
and purchase of residential real estate and commercial real estate. Such
commitments are made with specified terms and conditions for periods of thirty
days for commercial real estate loans and sixty days for residential real estate
loans.
Employees
As of December 31, 2003, the Company had 165 employees, 139 full-time and 26
part-time. The Bank employed eighty-one full-time and eighteen part-time
employees as of December 31, 2003. The remaining employees were employed by the
Company. None of these entity's employees are represented by a collective
bargaining group. Neither the Company nor any subsidiary has ever experienced a
work stoppage.
Competition
The banking business is highly competitive, and as such the Bank competes not
only with other commercial banks, but also with savings and loan associations,
trust companies and credit unions for deposits and loans, as well as stock
brokerage firms, insurance companies, and other entities providing one or more
of the services and products offered by the Bank. In addition to competition,
the Company's business and operating results are affected by the general
economic conditions prevalent in its market area.
The Bank's primary market areas consist of the counties of Floyd, Clark and
Harrison, which are located in Southern Indiana along the Ohio River, and
Jefferson and Nelson Counties in Kentucky. Jefferson, Clark, Floyd, and Harrison
counties are four of the seven counties comprising the Louisville, Kentucky
Standard Metropolitan Statistical Area, which has a population in excess of one
million. Nelson County is located approximately 40 miles southeast of
Louisville. The aggregate population of Floyd, Clark and Harrison counties is
approximately 204,000. The population of Jefferson and Nelson Counties are
approximately 693,000 and 39,000, respectively. Counties surrounding Nelson
County include: Spencer, Anderson, Hardin, Washington, Marion, Larue, and
Bullitt Counties, which together have a population in excess of 234,000. The
Company's headquarters are in New Albany, Indiana, a city of 38,000 located
approximately three miles from the center of Louisville.
Regulation and Supervision
As a bank holding company, the Company is regulated under the Bank Holding
Company Act of 1956, as amended (the "Act"). The Act limits the business of bank
holding companies to banking, managing or controlling banks and other
subsidiaries authorized under the Act, performing certain servicing activities
for subsidiaries and engaging in such other activities as the Board of Governors
of the Federal Reserve System ("Federal Reserve Board") may determine to be
closely related to banking. The Company is registered with and is subject to
regulation by the Federal Reserve Board. Among other things, applicable statutes
and regulations require the Company to file an annual report and such additional
information as the Federal Reserve Board may require pursuant to the Act and the
regulations which implement the Act. The Federal Reserve Board also conducts
examinations of the Company.
The Act provides that a bank holding company must obtain the prior approval of
the Federal Reserve Board to acquire more than five percent of the voting stock
or substantially all the assets of any bank or bank holding company. The Act
also provides that, with certain exceptions, a bank holding company may not (i)
engage in any activities other than those of banking or managing or controlling
banks and other authorized subsidiaries, or (ii) own or control more than five
percent of the voting shares of any company that is not a bank, including any
foreign company. A bank holding company is permitted, however, to acquire shares
of any company, the activities of which the Federal Reserve Board has determined
to be so closely related to banking or managing or controlling banks as to be a
proper incident thereto. A bank holding company may also acquire shares of a
company which furnishes or performs services for a bank holding company and
acquire shares of the kinds and in the amounts eligible for investment by
national banking associations. In addition, the Federal Reserve Act restricts
the Banks' extension of credit to the Company.
On November 12, 1999, Congress enacted the Gramm-Leach-Bliley Act. The
Gramm-Leach-Bliley Act permits bank holding companies to qualify as "financial
holding companies" that may engage in a broad range of financial activities,
including underwriting, dealing in and making a market in securities; insurance
underwriting and agency activities; and merchant banking. The Federal Reserve
Board is authorized to expand the list of permissible financial activities. The
Gramm-Leach-Bliley Act also authorizes banks to engage through financial
subsidiaries in nearly all of the activities permitted for financial holding
companies. The Company has not elected the status of financial holding company
and at this time has no plans for these investments or broader financial
activities.
As a state chartered commercial bank, the Bank is subject to examination,
supervision and extensive regulation by the FDIC and the Indiana Department of
Financial Institutions (the "DFI"). The Bank is a member of and owns stock in
the FHLB of Indianapolis. Additionally, the Bank also owns stock in the FHLB of
Cincinnati acquired by way of the aforementioned CBKY subsidiary. The FHLB
institutions located in Indianapolis and Cincinnati are each one of the twelve
regional banks in the FHLB system. The Bank is also subject to regulation by the
Federal Reserve Board, which governs reserves to be maintained against deposits
and regulates certain other matters. The extensive system of banking laws and
regulations to which the Bank is subject is intended primarily for the
protection of their customers and depositors, and not Company shareholders.
The FDIC and DFI regularly examines the Bank and prepares a report for the
consideration of the Bank's Board of Directors on any deficiencies that it may
find in the Bank's operations. The relationship of the Bank with its depositors
and borrowers also is regulated to a great extent by both federal and state
laws, especially in such matters as the form and content of the Bank's mortgage
documents and communication of loan and deposit rates to both existing and
prospective customers. Financial institutions
5
in various regions of the United States have been called upon by examiners to
write down assets to their fair market values and to establish increased levels
of reserves, primarily as a result of perceived weaknesses in real estate values
and a more restrictive regulatory climate.
The investment and lending authority of a state-chartered bank is prescribed by
state and federal laws and regulations, and such banks are prohibited from
engaging in any activities not permitted by such laws and regulations. These
laws and regulations generally are applicable to all state chartered banks. The
Bank may not lend to a single or related group of borrowers on an unsecured
basis an amount in excess of the greater of $500,000 or fifteen percent of the
Bank's unimpaired capital and surplus. An additional amount may be lent, equal
to ten percent of unimpaired capital and surplus, if such loan is secured by
readily marketable collateral, which is defined to include certain securities,
but generally does not include real estate.
Federal Regulations
Sections 22(h) and (g) of the Federal Reserve Act place restrictions on loans to
executive officers, directors and principal stockholders. Under Section 22(h),
loans to a director, an executive officer and to a greater than ten percent
stockholder of a bank, and certain affiliated interests of either, may not
exceed, together with all other outstanding loans to such person and affiliated
interests, the institution's loans to one borrower limit (fifteen percent of the
Bank's unimpaired capital and surplus). Section 22(h) also requires that loans
to directors, executive officers and principal stockholders be made on terms
substantially the same as offered in comparable transactions to other persons
and also requires prior board of directors approval for certain loans. In
addition, the aggregate amount of extensions of credit to all insiders cannot
exceed the institution's unimpaired capital and surplus. At December 31, 2003
the Bank was in compliance with the above restrictions.
Safety and Soundness. The Federal Deposit Insurance Act ("FDIA"), as amended by
the Federal Deposit Insurance Corporation Improvement Act of 1991 ("FDICIA") and
the Riegle Community Development and Regulatory Improvement Act of 1994,
requires the federal bank regulatory agencies to prescribe standards, by
regulations or guidelines, relating to the internal controls, information
systems and internal audit systems, loan documentation, credit underwriting,
interest-rate-risk exposure, asset growth, asset quality, earnings, stock
valuation and compensation, fees and benefits and such other operational and
managerial standards as the agencies may deem appropriate. The federal bank
regulatory agencies adopted, effective August 9, 1995, a set of guidelines
prescribing safety and soundness standards pursuant to FDICIA, as amended. In
general, the guidelines require, among other things, appropriate systems and
practices to identify and manage the risks and exposures specified in the
guidelines.
The FDIC generally is authorized to take enforcement action against a financial
institution that fails to meet its capital requirements; such action may include
restrictions on operations and banking activities, the imposition of a capital
directive, a cease and desist order, civil money penalties or harsher measures
such as the appointment of a receiver or conservator or a forced merger into
another institution. In addition, under current regulatory policy, an
institution that fails to meet its capital requirements is prohibited from
paying any dividends. Except under certain circumstances, further disclosure of
final enforcement action by the FDIC is required.
Prompt Corrective Action. Under Section 38 of the FDIA, as amended by the
FDICIA, each federal banking agency was required to implement a system of prompt
corrective action for institutions which it regulates. The federal banking
agencies, including the FDIC, adopted substantially similar regulations to
implement Section 38 of the FDIA, effective as of December 19, 1992. Under the
regulations, an institution is deemed to be (i) "well-capitalized" if it has
total risk-based capital of 10.0% or more, has a Tier 1 risk-based capital ratio
of 6.0% or more, has a Tier 1 leverage capital ratio of 5.0% or more and is not
subject to any order or final capital directive to meet and maintain a specific
capital level for any capital measure, (ii) "adequately-capitalized" if it has a
total risk-based capital ratio of 8.0% or more, a Tier 1 risk-based capital
ratio of 4.0% or more and a Tier 1 leverage capital ratio of 4.0% or more (3.0%
under certain circumstances) and does not meet the definition of
"well-capitalized," (iii) "undercapitalized" if it has a total risk-based
capital ratio that is less than 8.0%, a Tier 1 risk-based capital ratio that is
less than 4.0% or a Tier 1 leverage capital ratio that is less than 4.0% ( 3.0%
under certain circumstances), (iv) "significantly undercapitalized" if it has a
total risk-based capital ratio that is less than 6.0%, a Tier 1 risk-based
capital ratio that is less than 3.0% or a Tier II average capital ratio that is
less than 3.0%, and (v) "critically undercapitalized" if it has a ratio of
tangible equity to total assets that is equal to or less than 2.0%. Section 38
of the FDIA and the regulations promulgated thereunder also specify
circumstances under which a federal banking agency may reclassify a
well-capitalized institution as adequately-capitalized and may require an
adequately-capitalized institution or an undercapitalized institution to comply
with supervisory actions as if it were in the next lower category (except that
the FDIC may not reclassify a significantly undercapitalized institution as
critically undercapitalized). At December 31, 2003, the Company and the Bank
were deemed well-capitalized for purposes of the above regulations.
Federal Home Loan Bank System. The Bank is a member of the FHLB of Indianapolis.
The FHLB of Indianapolis is one of the 12 regional FHLB's that, prior to the
enactment of FIRREA, were regulated by the Federal Home Loan Bank Board (FHLBB).
FIRREA separated the home financing credit function of the FHLB's from the
regulatory functions of the FHLB's regarding savings institutions and their
insured deposits by transferring oversight over the FHLB's from the FHLBB to a
new federal agency, the Federal Home Financing Board ("FHFB").
As a member of the FHLB system, The Bank is required to purchase and maintain
stock in the FHLB in an amount equal to the greater of one percent of its
aggregate unpaid residential mortgage loans, home purchase contracts or similar
obligations at the beginning of each year, or 1/20 (or such greater fraction as
established by the FHLB) of outstanding FHLB advances. At December 31, 2003,
$8.0 million of FHLB stock was outstanding for the Bank, which was in compliance
with this requirement. In past years, the Bank has received dividends on its
FHLB stock.
Accounting. An FDIC policy statement applicable to all banks clarifies and
re-emphasizes that the investment activities of a bank
6
must be in compliance with approved and documented investment policies and
strategies, and must be accounted for in accordance with generally accepted
accounting principles. Under the policy statement, management must support its
classification of and accounting for loans and securities (i.e., whether held to
maturity, available for sale or available for trading) with appropriate
documentation. The Bank is in compliance with these amended rules.
Insurance of Accounts. The Bank's deposits are insured up to $100,000 per
insured member (as defined by law and regulation) and, except for the deposits
assumed by the Bank upon the merger of Heritage Bank of Southern Indiana into
the Bank in 2002, which are insured by the Bank Insurance Fund (BIF), are
insured by the Savings Association Insurance Fund (SAIF). This insurance is
backed by the full faith and credit of the United States Government. The SAIF
and the BIF are both administered and managed by the FDIC. As insurer, the FDIC
is authorized to conduct examinations of and to require reporting by SAIF and
BIF insured institutions. It also may prohibit any insured institution from
engaging in any activity the FDIC determines by regulation or order to pose a
serious threat to either fund. The FDIC also has the authority to initiate
enforcement actions against financial institutions. The annual assessment for
deposit insurance is based on a risk-related premium system. Each insured
institution is assigned to one of three capital groups: well-capitalized,
adequately-capitalized or undercapitalized. Within each capital group,
institutions are assigned to one of three subgroups (A, B, or C) on the basis of
supervisory evaluations by the institution's primary federal supervisor and if
applicable, state supervisor. Assignment to one of the three capital groups,
coupled with assignment to one of three supervisory subgroups, will determine
which of the nine risk classifications is appropriate for an institution.
Institutions are assessed insurance rates based on their assigned risk
classifications. The well-capitalized, subgroup "A" category institutions are
assessed the lowest insurance rate, while institutions assigned to the
undercapitalized subgroup "C" category are assessed the highest insurance rate.
As of December 31, 2003 the Bank was assigned to the well-capitalized, subgroup
"A" category and paid an annual insurance rate of 1.54 cents per $100 of
deposits.
The FDIC may terminate the deposit insurance of any insured depository
institution if it determines, after a hearing, that the institution has engaged
or is engaging in unsafe or unsound practices, is in an unsafe or unsound
condition to continue operations or has violated any applicable law, regulation,
order or any condition imposed by an agreement with the FDIC.
The Federal Reserve System. The Federal Reserve Board requires all depository
institutions to maintain reserves against their transaction accounts and
non-personal time deposits. Cash on hand or on deposit with the Federal Reserve
Bank of $2.2 million and $2.1 million was required to meet regulatory reserve
and clearing requirements at year-end 2003 and 2002. These balances do not earn
interest.
Banks are authorized to borrow from the Federal Reserve Bank "discount window,"
but Federal Reserve Board regulations require banks to exhaust other reasonable
alternative sources of funds, including FHLB advances, before borrowing from the
Federal Reserve Bank.
Federal Taxation. For federal income tax purposes, the Company and its
subsidiaries file a consolidated federal income tax return on a calendar year
basis. Consolidated returns have the effect of eliminating intercompany
distributions, including dividends, from the computation of consolidated taxable
income for the taxable year in which the distributions occur.
The Company and its subsidiaries are subject to the rules of federal income
taxation generally applicable to corporations under the Internal Revenue Code of
1986, as amended (the "Code").
The Company has not been audited by the Internal Revenue Service for the past
ten years.
Indiana Taxation. The Company is subject to a franchise tax imposed by the State
of Indiana. The tax is imposed at the rate of 8.5 percent of the Company's
adjusted gross income. In computing adjusted gross income, no deductions are
allowed for municipal interest, U.S. Government interest and pre-1990 net
operating losses. In 2000, the Indiana financial institution tax law was amended
to treat resident financial institutions the same as nonresident financial
institutions by providing for apportionment of Indiana income based on receipts
in Indiana. This revision allowed for the exclusion of receipts from out of
state sources and federal government and agency obligations.
Currently, income from the Bank's subsidiaries CBSI Holdings, Inc., CBSI
Investments, Inc. and CBSI Investment Portfolio Management, LLC is not subject
to the Indiana franchise tax.
The Company's state franchise tax returns have not been audited since 1997.
Kentucky Taxation. The Company is subject to a franchise tax imposed by the
Commonwealth of Kentucky on its operations in Kentucky. The tax is imposed at a
rate of 1.1% on taxable net capital, which equals capital stock paid in,
surplus, undivided profits and capital reserves, net unrealized holding gains or
losses on available for sale securities, and cumulative foreign currency
translation adjustments less an amount equal to the same percentage of the total
as the book value of United States obligations and Kentucky obligations bears to
the book value of the total assets of the financial institution. A financial
institution whose business activity is taxable within and without Kentucky must
apportion its net capital based on the three factor apportionment formula of
receipts, property and payroll unless the Kentucky Revenue Cabinet has granted
written permission to use another method.
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ITEM 2. PROPERTIES
The Company conducts its business through its corporate headquarters located in
New Albany, Indiana. The Bank operates a main office and ten branch offices in
Clark and Floyd Counties, Indiana, and five branch offices in Jefferson and
Nelson Counties, Kentucky. The following table sets forth certain information
concerning the main offices and each branch office at December 31, 2003. The
aggregate net book value of premises and equipment was $11.3 million at December
31, 2003.
Location Year Opened Owned or Leased
- -------- ----------- ---------------
Community Bank of Southern Indiana:
101 West Spring St. - Main Office 1937 Owned
New Albany, IN 47150
401 East Spring St. - Drive Thru for Main Office 2001 Owned
New Albany, IN 47150
2626 Charlestown Road 1995 Owned
New Albany, IN 47150
4328 Charlestown Road 2004 Leased
New Albany, IN 47150
480 New Albany Plaza 1974 Leased
New Albany, IN 47130
901 East Highway 131 1981 Owned
Clarksville, IN 47130
701 Highlander Point Drive 1990 Owned
Floyds Knobs, IN 47119
102 Heritage Square 1992 Owned
Sellersburg, IN 47172
201 W. Court Ave. 1996 Owned
Jeffersonville, IN 4710
5112 Highway 62 1997 Owned
Jeffersonville, IN 47130
2910 Grantline Rd. 2002 Leased
New Albany, IN 47150
400 Blankenbaker Parkway, Suite 100 2002 Leased
Louisville, KY 40243
106A West John Rowan Blvd. - Main Office 1997 Leased
Bardstown, KY 40004
119 East Stephen Foster Ave. 1972 Owned
Bardstown, KY 40004
7101 Cedar Springs 2002 Leased
Louisville, KY 40291
4510 Shelbyville Rd. 2003 Leased
Louisville, KY 40207
ITEM 3. LEGAL PROCEEDINGS
There are various claims and law suits in which the Company or its subsidiaries
are periodically involved, such as claims to enforce liens, condemnation
proceedings on properties in which the Bank holds security interests, claims
involving the making and servicing of real property loans and other issues
incident to the Bank's business. In the opinion of management, no material loss
is expected from any of such pending claims or lawsuits.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
No matter was submitted to a vote of security holders, through the solicitation
of proxies or otherwise, during the quarter ended December 31, 2003.
8
PART II
ITEM 5. MARKET FOR REGISTRANT'S COMMON STOCK EQUITY, RELATED STOCKHOLDER MATTERS
AND ISSUER PURCHASES OF EQUITY SECURITIES
The Company's common stock is traded on the Nasdaq Small Cap market under the
symbol of CBIN. The quarterly range of low and high trade prices per share of
the Company's common stock as reported by Nasdaq is shown below.
2003 2002
------------------------------------------- -------------------------------------------
QUARTER ENDED HIGH LOW DIVIDEND QUARTER ENDED HIGH LOW DIVIDEND
------------- ---- --- -------- ------------- ---- --- --------
March 31 $15.99 $15.05 $0.145 March 31 $17.00 $15.60 $0.145
June 30 18.20 15.05 0.145 June 30 18.75 16.90 0.145
September 30 19.50 16.92 0.145 September 30 17.75 15.55 0.145
December 31 22.33 16.39 0.145 December 31 16.56 14.50 0.145
The Company intends to continue its historical practice of paying quarterly cash
dividends although there is no assurance by the Board of Directors that such
dividends will continue to be paid in the future. The payment of dividends in
the future is dependent on future income, financial position, capital
requirements, the discretion and judgment of the Board of Directors, and other
considerations. In addition, the payment of dividends is subject to the
regulatory restrictions described in Note 11 to the Company's consolidated
financial statements.
As of March 5, 2004 there were 765 holders of the Company's common stock.
ITEM 6. SELECTED FINANCIAL DATA
The following table sets forth the Company's selected historical consolidated
financial information from 1999 through 2003. This information should be read in
conjunction with the Consolidated Financial Statements and the related Notes.
Factors affecting the comparability of certain indicated periods are discussed
in "MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF
OPERATIONS."
Years Ended December 31,
- -------------------------------------------------------------------------------------------------------------------
(dollars in thousands, except per share data) 2003 2002 2001 2000 1999
- -------------------------------------------------------------------------------------------------------------------
Income Statement Data:
Interest income ........................... $ 25,252 $ 25,052 $ 29,295 $ 30,488 $ 26,139
Interest expense .......................... 11,675 13,354 17,045 18,314 14,004
Net interest income ....................... 13,577 11,698 12,250 12,174 12,135
Provision for loan losses ................. 1,274 1,144 520 1,197 654
Noninterest income ........................ 3,684 3,160 2,186 1,974 1,483
Noninterest expense ....................... 13,104 10,938 9,379 8,833 7,483
Income before taxes ....................... 2,883 2,776 4,537 4,118 5,481
Cumulative effect of
change in accounting principle ......... -- -- -- (172) --
Net income ................................ 2,302 2,126 2,955 2,679 3,352
- -------------------------------------------------------------------------------------------------------------------
Balance Sheet Data:
Total assets .............................. $ 521,315 $ 465,549 $ 429,616 $ 416,221 $ 384,443
Total securities .......................... 83,143 92,374 99,101 86,436 104,337
Total loans, net .......................... 390,026 321,634 294,030 287,254 246,018
Allowance for loan losses ................. 4,034 3,814 3,030 2,869 1,741
Total deposits ............................ 341,315 289,830 255,892 258,222 226,473
Short-term borrowings ..................... 45,325 36,393 39,075 22,547 28,182
FHLB advances ............................. 90,200 92,700 89,000 91,800 86,250
Total shareholders' equity ................ 42,289 43,297 42,365 40,888 41,630
- -------------------------------------------------------------------------------------------------------------------
Per Share Data:
Basic earnings per share .................. $ 0.97 $ 0.87 $ 1.18 $ 1.05 $ 1.26
Diluted earnings per share ................ 0.96 0.87 1.18 1.05 1.26
Book value ................................ 17.74 18.08 17.11 16.24 15.91
Cash dividends per share .................. 0.58 0.58 0.58 0.54 0.54
- -------------------------------------------------------------------------------------------------------------------
Performance Ratios:
Return on average assets .................. 0.47% 0.47% 0.71% 0.67% 0.94%
Return on average equity .................. 5.37 4.91 6.90 6.43 7.98
Net interest margin ....................... 2.95 2.78 3.07 3.17 3.58
Efficiency ratio .......................... 76 74 65 62 55
- -------------------------------------------------------------------------------------------------------------------
Asset quality ratios:
Non-performing assets to total loans ...... 0.61% 1.17% 0.74% 0.39% 0.13%
Net loan charge-offs to average loans ..... 0.29 0.12 0.13 0.03 0.08
Allowance for loan losses to total loans .. 1.02 1.17 1.02 0.99 0.70
Allowance for loan losses to
non-performing loans ................... 223 120 186 252 549
- -------------------------------------------------------------------------------------------------------------------
Capital ratios:
Leverage ratio ............................ 8.3% 9.0% 10.0% 9.9% 10.7%
Average stockholders' equity to
average total assets ................... 8.7 9.6 10.2 10.4 11.8
Tier 1 risk-based capital ratio ........... 10.4 12.4 14.8 14.5 16.4
Total risk-based capital ratio ............ 11.7 13.6 15.9 15.5 17.1
Dividend payout ratio ..................... 59.8 66.1 49.6 51.3 43.0
- -------------------------------------------------------------------------------------------------------------------
Other key data:
End-of-period full-time equivalent
employees .............................. 154 145 131 114 124
Number of bank offices .................... 16 14 11 10 10
9
ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS
This section presents an analysis of the consolidated financial condition of the
Company and its wholly-owned subsidiary, the Bank, at December 31, 2003 and
2002, and the consolidated results of operations for each of the years in the
three year period ended December 31, 2003. The information contained in this
section should be read in conjunction with the consolidated financial
statements, notes to consolidated financial statements and other financial data
presented elsewhere in this annual report on Form 10-K.
The Company conducts its primary business through its Bank subsidiary, which is
a community-oriented financial institution offering a variety of financial
services to their local communities. The Bank is engaged primarily in the
business of attracting deposits from the general public and using such funds for
the origination of: 1) commercial business and real estate loans and 2) secured
consumer loans such as home equity lines of credit, automobile loans, and
recreational vehicle loans. Additionally, the Bank originates and sells into the
secondary market mortgage loans for the purchase of single-family homes in
Floyd, Clark, and Harrison Counties, Indiana, and Jefferson and Nelson Counties,
Kentucky, including surrounding communities. The Bank invests excess liquidity
balances in mortgage-backed, U.S. agency, state and municipal and corporate
securities.
The operating results of the Company depend primarily upon the Bank's net
interest income, which is the difference between interest earned on
interest-earning assets and interest incurred on interest-bearing liabilities.
Interest-earning assets principally consist of loans, taxable and tax-exempt
securities, and FHLB stock. Interest-bearing liabilities principally include
deposits, retail repurchase agreements, federal funds purchased, and advances
from the FHLB Indianapolis and the FHLB Cincinnati. The net income of the Bank
is also affected by 1) provision for loan losses, 2) noninterest income
(including gains on sales of loans and securities, deposit account service
charges and commission-based income on non-deposit investment products), 3)
noninterest expenses (including compensation and benefits, occupancy, equipment,
data processing expenses, marketing and advertising, and other expenses, such as
audit, postage, printing, and telephone expenses), and 4) income tax expense.
This discussion includes various forward-looking statements with respect to
credit quality (including delinquency trends and the allowance for loan losses),
corporate objectives and other financial and business matters. When used in this
discussion the words "anticipate," "project," "expect," "believe," and similar
expressions are intended to identify forward-looking statements. The Company
cautions that these forward-looking statements are subject to numerous
assumptions, risks and uncertainties, all of which may change over time. Actual
results could differ materially from forward-looking statements.
In addition to factors disclosed by the Company elsewhere in this annual report
on Form 10-K, the following factors, among others, could cause actual results to
differ materially from such forward-looking statements: 1) adverse changes in
economic conditions affecting the banking industry in general and, more
specifically, the market areas in which the Company and its subsidiary Bank
operates, 2) adverse changes in the legislative and regulatory environment
affecting the Company and its subsidiary Bank, 3) increased competition from
other financial and non-financial institutions, 4) the impact of technological
advances on the banking industry, and 5) other risks detailed at times in the
Company's filings with the Securities and Exchange Commission. The Company and
the Bank do not assume an obligation to update or revise any forward-looking
statements subsequent to the date on which they are made.
Highlights
The Company reported net income of $2,302,000 during 2003 compared with
$2,126,000 for 2002, an increase of 8.3%. The Company's performance in 2003 was
positively impacted by the continued growth of its average interest earning
assets in conjunction with an improved net interest margin. The improved net
interest margin is the result of funding costs declining faster than the yield
on interest-earning assets and the utilization of asst/liability management
initiatives that have had a significant positive impact on the Company's net
interest margin. The Company's book value per common share decreased from $18.08
at December 31, 2002 to $17.74 per share at December 31, 2003.
The following table summarizes selected financial information regarding the
Company's financial performance:
Table 1 - Summary
For the Years Ended December 31,
(Dollars in thousands, except per share amounts) 2003 2002 2001
- --------------------------------------------------------------------------------
Net income ..................................... $2,302 $2,126 $2,955
Basic earnings per share ....................... 0.97 0.87 1.18
Diluted earnings per share ..................... 0.96 0.87 1.18
Return on average assets ....................... 0.47% 0.47% 0.71%
Return on average equity ....................... 5.37 4.91 6.90
Total assets grew 12.0% during 2003 to $521.3 million from $465.5 million at
December 31, 2002. The Company generated loan growth of 21.3% during 2003 to
$390.0 million, which was primarily attributable to growth in commercial loans,
residential real estate, and home equity loans. Deposits increased 17.8% during
2003 to $341.3 million, primarily from growth in certificate of deposit accounts
which increased 32.6% during 2003. The Company will continue to seek loans and
deposits by developing relationships with commercial and retail customers within
its market areas.
10
During 2003, the Company expanded its banking offices by opening a new, full
service branch in Louisville, Kentucky. The Company expects that this new branch
will enhance its ability to increase deposit market share within Jefferson
County, Kentucky and is part of the Company's ongoing plan to expand into the
Jefferson County, Kentucky market. In addition, the Company plans to open a new,
full service branch in Floyd County, Indiana during the first half of 2004.
Results of Operations
Net Interest Income
The Company's principal revenue source is net interest income. Net interest
income is the difference between interest income on interest-earning assets,
such as loans and securities, and the interest expense on the liabilities used
to fund those assets, such as interest-bearing deposits and borrowings. Net
interest income is impacted by both changes in the amount and composition of
interest-earning assets and interest-bearing liabilities as well as changes in
market interest rates.
Net interest income increased $1.9 million or 16.1% to $13.6 million for 2003
compared to $11.7 million in 2002. The Company's net interest rate spread rose
20 basis points to 2.66% for 2003 from 2.46% in 2002, and its net interest
margin increased from 2.78% in 2002 to 2.95% for 2003. The increase in the
Company's net interest margin was primarily the result of the cost of interest
bearing liabilities declining faster than the yield on interest-earning assets.
In addition, net interest income was considerably impacted by the $771,000 of
interest income recognized on the Company's interest rate swaps (See Note 12 to
the Consolidated Financial Statements).
Average interest-earning assets increased 9.7% during 2003 to $460.8 million,
compared to a 5.4% increase during 2002. The growth in each of these periods
primarily resulted from an increase in average loans funded by increases in
deposits and short-term borrowings. The increase in loans is attributable to the
Company's continued focus on commercial business, commercial and residential
real estate, and home equity lending. Average loans grew $58.0 million or 18.7%
to $368.0 million in 2003, as the loan yield declined to 6.02% for 2003 as a
result of sustained lower interest rates and refinance activity. The Company
attributes the growth in commercial loans to its local presence in the markets
it serves and its ability to meet the needs of its commercial customers through
local decision making and rapid responses to customer inquiries. Additionally,
the Company experienced the full year impact of its 2002 expanded commercial
loan operations into Jefferson County Kentucky. Residential real estate demand
continued to be strong as sustained lower interest rates continued to prevail
throughout much of 2003. Currently, the Company retains and services
substantially all ten year, and some 15 and 30 year mortgage loans dependent
upon specific borrower relationships. Home equity loans increased because of
continued lower interest rates and the high demand for home equity lines of
credit, which increased 43.8% from 2002. The current interest rate environment
should result in continued strong loan demand in 2004.
During 2003, average interest-bearing liabilities grew $32.4 million to $413.9
million, an increase of 8.5% over 2002, while the costs of interest-bearing
liabilities declined to 2.82% for 2003 from 3.50% in 2002. The increase in
average interest-bearing liabilities was primarily attributable to the growth in
average deposits, which increased 12.3% from 2002. The Company attributes growth
in the average balance of deposits to its increased focus on its retail delivery
systems and the full year impact of its 2002 expanded banking operations.
While there can be no assurance as to the tangible long-term impact that the
current interest rate environment will have on the Company's future levels of
net interest income and net interest margin, it is presently anticipated, given
the pricing sensitivity and asset/liability mix of the Company's balance sheet,
that the Company's net interest margin will remain stable for 2004 when compared
with 2003.
For 2002, net interest income decreased $552,000 to $11.7 million compared to
$12.3 million in 2001. The Company's net interest margin decreased from 3.07% in
2001 to 2.78% for 2002. The reduction in the Company's net interest margin was
caused by the yield on interest-earning assets declining faster than the cost of
interest-bearing liabilities due to market interest rates that declined from
early 2001 through the end of 2002 (the prime rate, the index to which many of
the Bank's commercial and home equity loans are tied, fell by 5.25% over this
period).
Table 2 provides detailed information as to average balances, interest
income/expense, and rates by major balance sheet category for 2001 through 2003.
Table 3 provides an analysis of the changes in net interest income attributable
to changes in rates and changes in volume of interest-earning assets and
interest-bearing liabilities. Yields on tax-exempt securities have not been
presented on a tax equivalent basis.
11
Table 2 - Average Balance Sheets and Rates for December 31, 2003, 2002 and 2001
2003 2002
---------------------------------- ------------------------------
Average Average Average Average
(Dollars in thousands) Balance Interest Rate Balance Interest Rate
---------------------------------- ------------------------------
ASSETS
Earning assets:
Interest-bearing deposits with banks .. $ 3,018 $ 39 1.29% $ 5,821 $ 124 2.13%
Taxable securities .................... 67,501 2,047 3.03 85,868 3,698 4.31
Tax-exempt securities ................. 14,441 630 4.36 10,804 500 4.63
Total loans and fees(1)(2) ............ 368,032 22,145 6.02 310,004 20,278 6.54
FHLB stock ............................ 7,826 391 5.00 7,674 452 5.89
-------- -------- -------- --------
Total earning assets ..................... 460,818 25,252 5.48 420,171 25,052 5.96
Non-interest earning assets:
Less: Allowance for loan losses ....... (3,917) (3,325)
Non-earning assets:
Cash and due from banks ............... 8,440 8,635
Bank premises and equipment, net ...... 11,330 11,371
Other assets .......................... 15,470 12,547
-------- --------
Total assets ............................. $492,141 $449,399
======== ========
LIABILITIES AND SHAREHOLDERS' EQUITY
Interest bearing liabilities:
Deposits .............................. $289,195 $ 6,143 2.12% $257,491 $ 7,539 2.93%
Short-term borrowings ................. 36,206 311 0.86 31,319 354 1.13
FHLB advances ......................... 88,538 5,221 5.90 92,709 5,461 5.89
-------- -------- -------- --------
Total interest bearing liabilities ....... 413,939 11,675 2.82 381,519 13,354 3.50
Non-interest bearing liabilities:
Non-interest bearing deposits ......... 32,414 23,089
Other liabilities ..................... 2,900 1,502
Stockholders' equity .................. 42,888 43,289
-------- --------
Total liabilities and shareholders' equity $492,141 $449,399
======== ========
Net interest income ...................... $ 13,577 $ 11,698
======== ========
Net interest spread ...................... 2.66% 2.46%
Net interest margin ...................... 2.95% 2.78%
2001
------------------------------
Average Average
Balance Interest Rate
------------------------------
Earning assets:
Interest-bearing deposits with banks .. $ 12,390 $ 473 3.82%
Taxable securities .................... 84,694 4,974 5.87
Tax-exempt securities ................. 8,603 431 5.01
Total loans and fees(1)(2) ............ 285,351 22,856 8.01
FHLB stock ............................ 7,601 561 7.38
-------- --------
Total earning assets ..................... 398,639 29,295 7.35
Non-interest earning assets:
Less: Allowance for loan losses ....... (2,912)
Non-earning assets:
Cash and due from banks ............... 7,329
Bank premises and equipment, net ...... 10,794
Other assets .......................... 4,474
--------
Total assets ............................. $418,324
========
LIABILITIES AND SHAREHOLDERS' EQUITY
Interest bearing liabilities:
Deposits .............................. $236,279 $ 10,981 4.65%
Short-term borrowings ................. 27,779 739 2.66
FHLB advances ......................... 89,253 5,325 5.97
-------- --------
Total interest bearing liabilities ....... 353,311 17,045 4.82
Non-interest bearing liabilities:
Non-interest bearing deposits ......... 19,285
Other liabilities ..................... 2,887
Stockholders' equity .................. 42,841
--------
Total liabilities and shareholders' equity $418,324
========
Net interest income ...................... $ 12,250
========
Net interest spread ...................... 2.53%
Net interest margin ...................... 3.07%
(1) The amount of fee income included in interest on loans was $657, $187, and
$312 for the years ended December 31, 2003, 2002, and 2001, respectively.
(2) Includes loans held for sale and non-accruing loans in the average loan
amounts outstanding.
Table 3 illustrates the extent to which changes in interest rates and changes in
the volume of interest-earning assets and interest-bearing liabilities affected
the Company's interest income and interest expense during the periods indicated.
Information is provided in each category with respect to (i) changes
attributable to changes in volume (changes in volume multiplied by prior rate),
(ii) changes attributable to changes in rate (changes in rate multiplied by
prior volume), and (iii) the net change. The changes attributable to the
combined impact of volume and rate have been allocated proportionately to the
changes due to volume and the changes due to rate.
Table 3 - Volume/Rate Variance Analysis
Year Ended December 31, 2003 Year Ended December 31, 2002
compared to compared to
Year Ended December 31, 2002 Year Ended December 31, 2001
---------------------------- ----------------------------
INCREASE/(DECREASE) INCREASE/(DECREASE)
Due to Due to
------------------------------- -------------------------------
Total Net Total Net
Change Volume Rate Change Volume Rate
--------- ------- ------- --------- ------- -------
(Dollars in thousands)
Interest income:
Interest-bearing deposits with banks ........ $ (85) $ (47) $ (38) $ (349) $ (190) $ (159)
Taxable securities .......................... (1,651) (693) (958) (1,276) 68 (1,344)
Tax-exempt securities ....................... 130 160 (30) 69 104 (35)
Total loans and fees ........................ 1,867 3,583 (1,716) (2,578) 1,859 (4,437)
FHLB stock .................................. (61) 9 (70) (109) 5 (114)
--------- ------- ------- --------- ------- -------
Total increase (decrease) in interest income 200 3,012 (2,812) (4,243) 1,846 (6,089)
Interest expense:
Deposits .................................... (1,396) 849 (2,245) (3,442) 915 (4,357)
Federal funds purchased and
repurchase agreements .................... (43) 50 (93) (385) 84 (469)
FHLB advances ............................... (240) (246) 6 136 204 (68)
--------- ------- ------- --------- ------- -------
Total increase (decrease) in interest expense (1,679) 653 (2,332) (3,691) 1,203 (4,894)
--------- ------- ------- --------- ------- -------
Increase (decrease) in net interest income .. $ 1,879 $ 2,359 $ (480) $ (552) $ 643 $(1,195)
========= ======= ======= ========= ======= =======
12
Non-interest Income
Non-interest income was $3.7 million for 2003, $3.2 million for 2002, and $2.2
million for 2001. Non-interest income increased in 2003 primarily because of an
increase in service charges on deposit accounts that resulted from an increase
in the total number of demand deposit accounts and enhancements to the Company's
checking account product line.
The increase in non-interest income from 2001 to 2002 was primarily due to the
increase in cash surrender value of life insurance and increases in gain on the
sale of available for sale securities, service charges on deposit accounts, and
gain on the sale of mortgage loans.
Table 4 provides a breakdown of the Company's non-interest income during the
past three years.
Table 4 - Analysis of Non-interest Income
Year Ended December 31, Percent Increase/(Decrease)
----------------------- --------------------------
(Dollars in thousands) 2003 2002 2001 2003/2002 2002/2001
---- ---- ---- --------- ---------
Service charges on deposit accounts .............. $ 1,707 $ 1,100 $ 920 55% 20%
Commission income ................................ 109 330 599 (67) (45)
Gain on sale of mortgage loans ................... 592 457 359 30 27
Loan servicing income, net of amortization ....... (53) 96 101 (155) (5)
Increase in cash surrender value of life insurance 543 514 -- * *
Other ............................................ 133 152 176 (13) (14)
------- ------- -------
Subtotal ...................................... 3,031 2,649 2,155 14 23
Gain on sale of available for sale securities .... 653 511 31 28 *
------- ------- -------
Total ......................................... $ 3,684 $ 3,160 $ 2,186 17% 45%
======= ======= =======
* Less than 1% or not meaningful.
Offsetting the increases in non-interest income for 2003 was reduced commission
income. Management attributes the decline in commission income to a major change
in its business model related to non-deposit investment products. In an effort
to better position this business line for future growth, on May 15, 2003 the
Company announced the formation of a retail brokerage strategic alliance with
Smith Barney. In June of 2003, a Smith Barney Investment Center opened at the
Company's headquarters in New Albany, Indiana. At that time, the investment and
brokerage service operations of Heritage Financial Services was assumed by Smith
Barney. Heritage Financial Services, a division of the Company, reported gross
commission income as a component of non-interest income with the corresponding
costs recorded as a component of non-interest expense. As a result of the Smith
Barney strategic alliance, commissions are now recorded as a percentage of the
revenues generated by Smith Barney; therefore the Bank does not incur costs with
this arrangement. While commission income as reported declined from 2002 to
2003, on a comparable net of cost basis commission income increased from a net
loss of $29,000 for 2002 to a net loss of $16,000 for 2003. Although a net loss
for 2003, commission income of approximately $15,000 was generated by the Smith
Barney Investment Center during the last half of 2003. Accordingly, management
expects commission income to have a positive impact on 2004 non-interest income.
Gain on sale of available for sale securities increased $142,000 and $480,000
for 2003 and 2002, respectively. The Company sells securities during the year in
response to specific cash needs as identified through its liquidity management
process. The Company purchases securities during the year at times when cash on
hand exceeds expected usage over a relatively short time horizon (30-90 days) or
as deemed necessary by management.
The market interest rate environment heavily influences revenue from mortgage
banking activities. The increase in gain on sale of mortgage loans from 2002 to
2003 was due to the sustained lower interest rates of 2003 continuing to spur
refinancing activity. The increase in net gain on sale of mortgage loans from
2001 to 2002 reflected increased refinancing activity as mortgage interest rates
fell over the period beginning in mid-2001.
Non-interest Expense
Total non-interest expense increased 19.8% to $13.1 million in 2003 as a result
of increases in salaries and employee benefits, occupancy and equipment, data
processing, and other expenses. Non-interest expense increased from $9.4 million
in 2001 to $10.9 million in 2002. The Company expects that non-interest expense
will continue to increase through 2004 as it continues to make improvements to
its retail banking activities, including a new branch opening in the first half
of 2004.
Table 5 provides a breakdown of the Company's non-interest expense for the past
three years.
Table 5 - Analysis of Non-interest Expense
Year Ended in December 31, Percent Increase/(Decrease)
-------------------------- --------------------------
(Dollars in thousands) 2003 2002 2001 2003/2002 2002/2001
---- ---- ---- --------- ---------
Salaries and employee benefits $ 7,097 $ 5,967 $ 5,207 19% 15%
Occupancy .................... 957 823 844 16 (2)
Equipment .................... 989 871 602 14 45
Data processing .............. 1,407 1,106 916 27 21
Marketing and advertising .... 287 373 310 (23) 20
Other ........................ 2,367 1,798 1,500 23 20
------- ------- -------
Total ........................ $13,104 $10,938 $ 9,379 20% 17%
======= ======= =======
Salaries and benefits, the largest component of non-interest expenses, rose by
$1.1 million to $7.1 million for 2003 as a result of the additional employees
needed to staff the Company's new banking offices. The Company attributes the
increase between 2001 and 2002 to the same factors that affected the increase in
2003.
13
Occupancy expense increased 16.3% from 2002 to $957,000 for 2003 due to
increased rent expense incurred during 2003 as the Company opened additional
banking centers and experienced a full year's effect of the banking centers
opened in mid-2002. Occupancy expense decreased in 2002 from 2001 due to a
banking center rehabilitation program initiated and completed during 2001.
Banking center improvements were limited in 2002 as management sought to control
non-interest expenses in response to a falling net interest margin.
Equipment expense increased 13.5% during 2003 as a result of the Company's
expansion initiatives in 2003 and 2002. The Company attributes the increase
between 2001 and 2002 to the same factors that affected the increase in 2003.
Data processing expense increased 27.2% to $1.4 million during 2003 as the
Company began and completed a data processor conversion. The Company believes
the change in data processors will enhance its internal reporting capability
while better supporting the continued growth of its retail banking activities
and also result in reduced data processing expense during 2004. Data processing
expense increased during 2002 as the Company began offering Internet banking to
its customers in the third quarter of 2001 and experienced the full year impact
of initiatives undertaken in 2001.
Marketing and advertising expense decreased during 2003 as the Company looked to
limit non-interest expenses in an effort to offset historically low market
interest rates and lower than anticipated interest income. Marketing and
advertising expenses increased during 2002 from 2001 as the Company promoted its
retail banking activities through a brand awareness campaign.
Other operating expenses increased during 2003 as a result of increased other
expenses and legal and professional services fees. Other expenses increased as a
result of a $163,000 loss on the sale of other real estate and a $150,000
accrual associated with a lawsuit. In addition, the Company expensed
approximately $76,000 due to the restructuring of its Heritage Financial
Services division. Legal and professional fees increased during 2003 as a result
of various initiatives the Company implemented. Other operating expenses
increased during 2002 from 2001 primarily as a result of legal and professional
fees and miscellaneous expenses related to the three new branches opened.
Financial Condition
Loan Portfolio
The Company experienced loan growth of 21.3% during 2003 as total loans
increased $68.4 million to $390.0 million at December 31, 2003. Loan growth was
particularly strong in the commercial real estate, residential real estate, and
home equity portfolios as sustained lower interest rates in 2003 continued to
have a strong impact on loan demand. The commercial loan portfolio also
benefited from the Company's expanded presence in the Louisville, Kentucky
market.
Residential real estate loans increased 16.4% during 2003 to $95.0 million. The
Company attributes this growth to management's decision to retain and service
substantially all ten year and some fifteen and thirty year mortgage loans due
to specific borrower relationships. The Company originates and sells most
fifteen and thirty year conforming mortgage loans into the secondary market to
reduce the interest rate risk of holding such assets should interest rates rise.
At the end of 2003, the Company was servicing $28.8 million in mortgage loans
for other investors compared to $30.0 million in 2002 and $31.0 million in 2001.
The decline in the mortgage banking servicing portfolio from 2001 to 2003 is the
result of management's decision to sell a portion of its loans on a servicing
released basis and loan principal repayments on serviced loans.
The Company's lending activities remain primarily concentrated within its
existing markets, and are principally comprised of loans secured by
single-family residential housing developments, owner occupied manufacturing and
retail facilities, general business assets, and single-family residential real
estate. The Company emphasizes the acquisition of deposit relationships from new
and existing commercial business and real estate loan clients.
Table 6 provides a breakdown of the Company's loans by category during the past
five years.
Table 6 - Loans by Type
As of December 31,
(Dollars in thousands) 2003 2002 2001 2000 1999
---- ---- ---- ---- ----
Real estate:
Residential ................... $ 94,975 $ 81,618 $ 81,249 $ 91,310 $ 93,632
Commercial .................... 161,343 119,196 90,291 87,577 69,680
Construction .................. 15,691 13,972 14,506 6,928 5,342
Commercial ...................... 72,981 70,234 80,622 77,662 61,792
Home Equity ..................... 42,562 29,595 19,818 14,017 7,344
Consumer ........................ 5,962 10,488 10,011 11,630 8,676
Loans secured by deposit accounts 546 345 563 999 1,275
-------- -------- -------- -------- --------
Total loans ..................... $394,060 $325,448 $297,060 $290,123 $247,741
======== ======== ======== ======== ========
14
Table 7 illustrates the Company's fixed rate maturities and repricing frequency
for the loan portfolio:
Table 7 - Selected Loan Distribution
One Over One Over
As of December 31, 2003 Year Through Five Five
(Dollars in thousands) Total Or Less Years Years
----- ------- ----- -----
Fixed rate maturities ........... $114,060 $ 11,700 $ 23,848 $ 78,512
Variable rate repricing frequency 280,000 202,742 74,406 2,852
-------- -------- -------- --------
Total ........................... $394,060 $214,442 $ 98,254 $ 81,364
======== ======== ======== ========
Allowance and Provision for Loan Losses
Provisions for loan losses are charged against earnings to bring the total
allowance for loan losses to a level considered adequate by management based on
historical experience, the volume and type of lending conducted by the Bank, the
status of past due principal and interest payments, general economic conditions,
and inherent credit risk related to the collectibility of the Bank's loan
portfolio. The provision for loan losses was $1,274,000 for the year ended
December 31, 2003 as compared to $1,144,000 for 2002 and $520,000 for 2001. Net
charge-offs were $1,054,000 during 2003 as compared to $360,000 and $359,000 for
2002 and 2001, respectively. Net charge-offs for 2003 increased substantially
from 2002, primarily the result of commercial real estate and commercial
business loan charge offs. Management attributes these losses to the generally
unfavorable economic climate and lower than expected recoveries on the sale of
liquidated business assets.
The Company maintains the allowance for loan losses at a level that is
sufficient to absorb credit losses inherent in its loan portfolio. Management
determines the level of the allowance for loan losses based on its evaluation of
the collectibility of the loan portfolio, including the composition of the
portfolio, historical loan loss experience, specific impaired loans, and general
economic conditions. Allowances for impaired loans are generally determined
based on collateral values or the present value of estimated future cash flows.
The allowance for loan losses is increased by a provision for loan losses, which
is charged to expense, and reduced by charge-offs of specific loans, net of
recoveries. Changes in the allowance relating to impaired loans are charged or
credited directly to the provision for loan losses. At December 31, 2003, the
Company's allowance for loan losses totaled $4,034,000 as compared to $3,814,000
and $3,030,000 at December 31, 2002 and 2001, respectively.
Statements made in this section regarding the adequacy of the allowance for loan
losses are forward-looking statements that may or may not be accurate due to the
impossibility of predicting future events. Because of uncertainties intrinsic in
the estimation process, management's estimate of credit losses inherent in the
loan portfolio and the related allowance may differ from actual results.
Table 8 provides the Company's loan charge-off and recovery activity during the
past five years.
Table 8 - Summary of Loan Loss Experience
Year Ended in December 31,
--------------------------
(Dollars in thousands) 2003 2002 2001 2000 1999
---- ---- ---- ---- ----
Allowance for loan losses at beginning of year .......... $ 3,814 $ 3,030 $ 2,869 $ 1,741 $ 1,276
Adjustment to conform pooled subsidiary's fiscal year end -- -- -- -- --
Charge-offs:
Residential real estate .............................. (24) (24) (10) -- (24)
Commercial real estate ............................... (815) (297) (254) -- (3)
Construction ......................................... -- -- -- -- --
Commercial business .................................. (158) (189) (45) (52) (136)
Home equity .......................................... (23) -- (15) -- --
Consumer ............................................. (55) (48) (48) (17) (28)
------- ------- ------- ------- -------
Total .............................................. (1,075) (558) (372) (69) (191)
------- ------- ------- ------- -------
Recoveries:
Residential real estate .............................. -- -- 2 -- --
Commercial real estate ............................... 13 192 3 -- --
Construction ......................................... 2 -- -- -- --
Commercial business .................................. -- -- -- -- --
Home equity .......................................... -- -- -- -- --
Consumer ............................................. 6 6 8 -- 2
------- ------- ------- ------- -------
Total .............................................. 21 198 13 -- 2
------- ------- ------- ------- -------
Net loan charge-offs .................................... (1,054) (360) (359) (69) (189)
Provision for loan losses ............................... 1,274 1,144 520 1,197 654
------- ------- ------- ------- -------
Allowance for loan losses at end of year ................ $ 4,034 $ 3,814 $ 3,030 $ 2,869 $ 1,741
======= ======= ======= ======= =======
Ratios:
Allowance for loan losses to total loans ............. 1.02% 1.17% 1.02% 0.99% 0.70%
Net loan charge-offs to average loans ................ 0.29 0.12 0.13 0.03 0.08
Allowance for loan losses to non-performing loans .... 223 120 186 252 549
The following table depicts management's allocation of the allowance for loan
losses by loan type during the last five years. Allowance funding and allocation
is based on management's assessment of economic conditions, past loss
experience, loan volume, past-due history and other factors. Since these factors
and management's assumptions are subject to change, the allocation is not
necessarily indicative of future loan portfolio performance. Allocations of the
allowance may be made for specific loans or loan categories, but the entire
allowance is available for any loan that may be charged off. Loan losses are
charged against the allowance when management deems a loan uncollectible.
15
Table 9 - Management's Allocation of the Allowance for Loan Losses
As of December 31,
------------------
2003 2002 2001
---- ---- ----
Percent of Loans Percent of Loans Percent of Loans
(Dollars in thousands) Allowance to Total Loans Allowance to Total Loans Allowance to Total Loans
--------- -------------- --------- -------------- --------- --------------
Residential Real Estate $ 342 24.3% $ 319 25.2% $ 260 27.5%
Commercial Real Estate 1,769 40.9% 1,321 36.6% 1,138 30.4%
Construction .......... 5 4.0% 80 4.3% 55 4.9%
Commercial Business ... 1,436 18.5% 1,764 21.6% 1,301 27.1%
Home Equity ........... 371 10.8% 224 9.1% 150 6.7%
Consumer .............. 111 1.5% 106 3.2% 126 3.4%
--------- --------- ---------
Total ................. $ 4,034 100.0% $ 3,814 100.0% $ 3,030 100.0%
========= ========= =========
As of December 31,
------------------
2000 1999
---- ----
Percent of Loans Percent of Loans
Allowance to Total Loans Allowance to Total Loans
--------- -------------- --------- --------------
Residential Real Estate $ 217 31.8% $ 501 38.3%
Commercial Real Estate 933 30.2% 439 28.1%
Construction .......... -- 2.4% -- 2.2%
Commercial Business ... 1,472 26.8% 687 24.9%
Home Equity ........... 122 4.8% 56 3.0%
Consumer .............. 125 4.0% 58 3.5%
--------- ---------
Total ................. $ 2,869 100.0% $ 1,741 100.0%
========= =========
Asset Quality
Loans (including impaired loans under Statement of Financial Accounting
Standards 114 and 118) are placed on non-accrual status when they become past
due 90 days or more as to principal or interest. When loans are placed on
non-accrual status, all unpaid accrued interest is reversed. These loans remain
on non-accrual status until the loan becomes current or the loan is deemed
uncollectible and is charged off. The Company defines impaired loans to be those
commercial loans that management has classified as doubtful (collection of total
amount due is highly questionable or improbable) or loss (all or a portion of
the loan has been written off or a specific allowance for loss has been
provided). Loans individually classified as impaired decreased from $1.7 million
at December 31, 2002 to $805,000 at December 31, 2003. Non-performing assets
also include foreclosed real estate that has been acquired through foreclosure
or acceptance of a deed in lieu of foreclosure. Foreclosed real estate is
carried at the lower of cost or fair value less estimated selling costs, and is
actively marketed for sale.
Total non-performing loans decreased from $3.2 million at December 31, 2002 to
$1.8 million at December 31, 2003. These non-performing loans are primarily
secured by real estate and, historically, the Company's interest in the real
estate securing these loans has generally been adequate to limit the Company's
exposure to significant loss. Management's estimate of future credit losses (as
evidenced by the current level of the Company's allowance for loan losses) is
inherently uncertain and may differ from actual results.
Table 10 provides the Company's non-performing loan experience during the past
five years.
Table 10 - Non-Performing Assets
As of December 31,
------------------
(Dollars in thousands) 2003 2002 2001 2000 1999
------ ------ ------ ------ ------
Loans on non-accrual status (1) .................. $1,788 $3,171 $1,588 $1,052 $ 145
Loans past due 90 days or more and still accruing 25 -- 39 86 172
------ ------ ------ ------ ------
Total non-performing loans ....................... 1,813 3,171 1,627 1,138 317
Other real estate owned .......................... 610 630 560 -- 13
------ ------ ------ ------ ------
Total non-performing assets ...................... $2,423 $3,801 $2,187 $1,138 $ 330
====== ====== ====== ====== ======
Percentage of non-performing loans to total loans 0.46% 0.97% 0.55% 0.39% 0.13%
Percentage of non-performing assets to total loans 0.61 1.17 0.74 0.39 0.13
- ----------
(1) Impaired loans on non-accrual status are included in loans. See Note 3 to
the consolidated financial statements for additional discussion on
impaired loans.
Investment Securities
Table 11 sets forth the breakdown of the Company's securities portfolio for the
past five years.
Table 11 - Securities Portfolio
December 31,
------------
(Dollars in thousands) 2003 2002 2001 2000 1999
---- ---- ---- ---- ----
Securities Available for Sale:
U.S. Government and federal agency ........ $ -- $ 8,756 $ 27,089 $ 54,572 $ --
Mortgage-backed ........................... 52,657 61,295 54,354 23,651 4,057
State and municipal ....................... 15,246 13,040 10,707 7,219 2,371
Corporate bonds ........................... 14,990 9,283 6,951 994 --
Mutual Funds .............................. 250 -- -- -- --
-------- -------- -------- -------- --------
Total securities available for sale 83,143 92,374 99,101 86,436 6,428
Securities Held to Maturity:
U.S. Government and federal agency ........ -- -- -- -- 66,255
Mortgage-backed ........................... -- -- -- -- 26,388
State and municipal ....................... -- -- -- -- 4,256
Corporate bonds ........................... -- -- -- -- 1,010
-------- -------- -------- -------- --------
Total securities held to maturity ... -- -- -- -- 97,909
-------- -------- -------- -------- --------
Total ............................ $ 83,143 $ 92,374 $ 99,101 $ 86,436 $104,337
======== ======== ======== ======== ========
16
Table 12 sets forth the breakdown of the Company's investment securities
available for sale by type and maturity as of December 31, 2003.
Table 12 - Investment Securities Available for Sale
As of December 31, 2003
-----------------------
Weighted
Amortized Average
(Dollars in thousands) Cost Fair Value Yield (1)
---- ---------- ---------
State and municipal
Over one through five years .... $ 5,702 $ 5,723 2.99%
Over five through ten years .... 2,540 2,739 6.73
Over ten years ................. 6,607 6,784 6.61
---------- ----------
Total state and municipal ......... 14,849 15,246 5.25
Corporate Bonds
Within one year ................ 256 261 3.82
Over one through five years .... 4,359 4,301 2.75
Over ten years ................. 10,385 10,428 3.42
---------- ----------
Total corporate bonds ............. 15,000 14,990 3.23
Total mutual funds ................ 250 250 3.57
Total mortgage-backed securities .. 52,947 52,657 3.90
---------- ----------
Total available for sale securities $ 83,046 $ 83,143 4.03%
========== ==========
(1) Not tax equivalent basis for tax-exempt securities.
Securities available for sale decreased from $92.4 million at December 31, 2002
to $83.1 million at December 31, 2003 as proceeds from prepayments, maturities,
and sales were used to fund loan growth and manage the Company's liquidity
position. The current strategy for the securities portfolio is to maintain a
short to intermediate average life that remains relatively stable in a changing
interest rate environment, thus minimizing exposure to sustained increases in
interest rates. The investment portfolio primarily consists of mortgage-backed
securities, securities issued by states and municipalities, and corporate bonds.
Mortgage-backed securities consist primarily of obligations insured or
guaranteed by Federal Home Loan Mortgage Corporation, Federal National Mortgage
Association, or Government National Mortgage Association.
Deposits
Total deposits increased 17.8% to $341.3 million at December 31, 2003 compared
to $289.8 million at December 31, 2002, primarily as a result of growth in
certificates of deposit, non-interest bearing deposits, and money market
accounts. Management attributes the 32.6% increase in certificates of deposit
during 2003 primarily to its competitive pricing in an effort to attract short
and intermediate term funding. Non-interest bearing deposits increased 33.3% to
$34.4 million and money market deposits increased 10.9% to $82.5 million during
2003. Management attributes the growth in these areas to concentrated sales
training of its retail personnel and increased business development efforts. The
Company anticipates that it will continue to attract a significant amount of
both non-interest and interest bearing deposits as it expands its banking
operations and continues to promote its retail product offerings.
Table 13 provides a profile of the Company's deposits during the past five
years.
Table 13 - Deposits
December 31,
------------
(Dollars in thousands) 2003 2002 2001 2000 1999
---- ---- ---- ---- ----
Demand (NOW) .......................................... $ 35,973 $ 38,008 $ 43,378 $ 46,945 $ 41,523
Money market accounts ................................. 82,546 74,448 10,782 -- --
Savings ............................................... 28,456 30,656 45,897 41,853 41,552
Individual retirement accounts-savings ................ -- 338 377 379 442
Individual retirement accounts-certificates of deposit 17,841 16,173 15,035 13,636 13,014
Certificates of deposit, $100,000 and over ............ 41,028 28,048 39,030 45,870 27,249
Other certificates of deposit ......................... 101,085 76,369 81,277 86,236 85,725
-------- -------- -------- -------- --------
Total interest bearing deposits ....................... 306,929 264,040 235,776 234,919 209,505
Total non-interest bearing deposits ................... 34,386 25,790 20,116 23,303 16,968
-------- -------- -------- -------- --------
Total ................................................. $341,315 $289,830 $255,892 $258,222 $226,473
======== ======== ======== ======== ========
Short-Term Borrowings
The Company's short-term borrowings consist of repurchase agreements, lines of
credit with other financial institutions and federal funds purchased, which
represent overnight liabilities to non-affiliated financial institutions. While
repurchase agreements are effectively deposit equivalents, these arrangements
consist of securities that are sold to commercial customers under agreements to
repurchase. Short-term borrowings increased $9.1 million from $36.4 million at
December 31, 2002 to $45.8 million at December 31, 2003, primarily as a result
of an $8.7 million increase in federal funds purchased.
17
Federal Home Loan Bank Advances
FHLB advances decreased from $92.7 million at December 31, 2002 to $90.2 million
at December 31, 2003. These advances principally consist of putable (or
convertible) instruments that give the FHLB the option quarterly to put the
advance back to the Bank, at which time the Bank can prepay the advance without
penalty or can allow the advance to become variable adjusting to three-month
Libor (London Interbank Offer Rate). However, there is a substantial penalty if
the Company prepays the advances prior to the FHLB exercising its option. In
calculations provided by the FHLB to the Company, three month Libor would have
to rise by more than 300 basis points from December 31, 2003 levels before the
FHLB would exercise its put option. These advances have various maturities
through 2010. See Note 7 to the consolidated financial statements for additional
information. The Company does not anticipate that it will enter into putable
advances for the foreseeable future, but instead may use fixed rate advances to
fund balance sheet growth as needed.
Liquidity
Liquidity levels are adjusted in order to meet funding needs for deposit
outflows, repayment of borrowings, and loan commitments and to meet
asset/liability objectives. The Bank's primary sources of funds are deposits;
repayment of loans and mortgage-backed securities; Federal Home Loan Bank
advances; maturities of investment securities and other short-term investments;
and income from operations. While scheduled loan and mortgage-backed security
repayments are a relatively predictable source of funds, deposit flows and loan
and mortgage-backed security prepayments are greatly influenced by general
interest rates, economic conditions and competition.
Liquidity management is both a daily and long term function of business
management. If the Bank requires funds beyond those generated internally, as of
December 31, 2003 the Bank had $15.6 million in additional capacity under its
borrowing agreements with the FHLB and approximately $7.3 million from other
correspondent financial institutions that provide additional sources of funds.
The Company anticipates it will have sufficient funds available to meet current
loan commitments and other credit commitments.
Capital
Total capital of the Company decreased $1.0 million during 2003 to $42.3
million, primarily due to a decrease in accumulated other comprehensive income
related to the decrease in the fair values of available for sale securities and
interest rate swaps, and cash dividends of $0.58 per share.
The Company has actively been repurchasing shares of its common stock since May
21, 1999. A net total of 340,975 shares at an aggregate cost of $5.3 million
have been repurchased since that time under both the current and prior
repurchase plans, with 29,629 shares at a cost of $475,000 purchased in 2003.
The Company's Board of Directors authorized a share repurchase plan in May 2001
under which a maximum of $3.0 million of the Company's common stock may be
purchased. Through December 31, 2003, a total of $2.6 million had been expended
to purchase 163,136 shares under the current repurchase plan.
Regulatory agencies measure capital adequacy within a framework that makes
capital requirements, in part, dependent on the risk inherent in the balance
sheets of individual financial institutions. The Company and the Bank continue
to exceed the regulatory requirements for Tier I, Tier I leverage and Total
risk-based capital ratios. See Note 11 to the Consolidated Financial Statements.
Off Balance Sheet Arrangements
The Company uses off balance sheet financial instruments such as commitments to
make loans, credit lines and letters of credit to meet customer financing needs.
These agreements provide credit or support the credit of others and usually have
expiration dates but may expire without being used. In addition to credit risk,
the Company also has liquidity risk associated with these commitments as funding
for these obligations could be required immediately. The contractual amount of
these financial instruments with off balance sheet risk was as follows at
December 31, 2003:
(Dollars in thousands)
Commitments to make loans $ 8,689
Unused lines of credit 78,961
Letters of credit 3,832
-----------
Total $ 91,482
===========
The Company also utilizes interest rate swap arrangements with a notional amount
of $50 million to exchange variable payments of interest tied to Prime for
receipt of fixed rate payments. The variable rate of the swaps resets daily,
with net interest being settled monthly. The notional amount of the swaps does
not represent amounts exchanged by the parties. The amount exchanged is
determined by reference to the notional amount and other terms of the swaps. The
swaps have been designated by management as cash flow hedges of its Prime-based
commercial loans to in effect convert the loans from variable interest to
weighted average fixed interest rates (See Note 12 to the Consolidated Financial
Statements).
18
Aggregate Contractual Obligations
As of December 31, 2003
(Dollars in thousands) Less than More than
Total 1 year 1-3 years 3-5 years 5 years
--------- --------- --------- --------- ---------
Deposits ................ 341,315 272,257 50,752 17,499 807
FHLB Borrowings ......... 90,200 18,200 2,000 2,000 68,000
Lease commitments ....... 2,971 291 628 503 1,549
--------- --------- --------- --------- ---------
Total ................... $ 434,486 $ 290,748 $ 53,380 $ 20,002 $ 70,356
========= ========= ========= ========= =========
Deposits represent non-interest bearing, interest bearing, money market,
savings, certificates of deposits and all other deposits held by the Company.
Deposits that have an undetermined maturity period are included in the less than
one-year category above.
FHLB advances represent the amounts that are due to the FHLB of Indianapolis and
consist of $81.0 million in convertible advances. The FHLB has the quarterly
right to require the Company to choose either conversion of the fixed rate to a
variable rate tied to the three month LIBOR index or prepayment of the advance
without penalty. There is a substantial penalty if the Company prepays the
advances before FHLB exercises its right. Management does not expect these
advances to be converted in the near term.
Lease commitments represent the total minimum lease payments under noncancelable
operating leases, before considering renewal options that generally are present.
19
ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
Asset/liability management is the process of balance sheet control designed to
ensure safety and soundness and to maintain liquidity and regulatory capital
standards while maintaining acceptable net interest income. Interest rate risk
is the exposure to adverse changes in net interest income as a result of market
fluctuations in interest rates. Management continually monitors interest rate
and liquidity risk so that it can implement appropriate funding, investment, and
other balance sheet strategies. Management considers market interest rate risk
to be the Company's most significant ongoing business risk consideration.
The Company currently contracts with an independent third party consulting firm
to measure its interest rate risk position. The consulting firm utilizes an
earnings simulation model to analyze net interest income sensitivity. Current
balance sheet amounts, current yields and costs, corresponding maturity and
repricing amounts and rates, other relevant information, and certain assumptions
made by management are combined with gradual movements in interest rates of 200
basis points up and 100 basis points down within the model to estimate their
combined effects on net interest income over a one-year horizon. Interest rate
movements are spread equally over the forecast period of one year. The Company
feels that using gradual interest rate movements within the model is more
representative of future rate changes than instantaneous interest rate shocks.
The Company does not project growth in amounts for any balance sheet category
when constructing the model because of the belief that projected growth can mask
current interest rate risk imbalances over the projected horizon. The Company
believes that the changes made to its interest rate risk measurement process
have improved the accuracy of results of the process. Consequently, the Company
believes that it has better information on which to base asset and liability
allocation decisions going forward.
Assumptions based on the historical behavior of the Company's deposit rates and
balances in relation to changes in interest rates are incorporated into the
model. These assumptions are inherently uncertain and, as a result, the model
cannot precisely measure future net interest income or precisely predict the
impact of fluctuations in market interest rates on net interest income. The
Company continually monitors and updates the assumptions as new information
becomes available. Actual results will differ from the model's simulated results
due to timing, magnitude and frequency of interest rate changes, and actual
variations from the managerial assumptions utilized under the model, as well as
changes in market conditions and the application and timing of various
management strategies. Management's goal is to maintain a stable level of net
interest income in rising or falling interest rate environments.
The base scenario represents projected net interest income over a one year
forecast horizon exclusive of interest rate changes to the simulation model.
Given a gradual 200 basis point increase in the projected yield curve used in
the simulation model, it is estimated that as of December 31, 2003 the Company's
net interest income would decrease by an estimated 4.7% or $669,000 over the one
year forecast horizon. The decrease of 1.7% or $242,000 in net interest income
shown in the 200 basis point simulated increase from 2002 to 2003 is primarily
attributable to the increase in short-term borrowings, which are highly interest
rate sensitive. Given a gradual 100 basis point decrease in the projected yield
curve used in the simulation model, it is estimated that as of December 31, 2003
the Company's net interest income would increase by an estimated 0.50%, or
$76,000 over the one year forecast horizon. The projected results adhere to the
Company's asset/liability management policy which states the negative impact to
net interest income should not exceed 5% and 7% in a 100 basis point decrease
and 200 basis point increase in the projected yield curve over a one year
forecast horizon. The forecast results are heavily dependent on the assumptions
regarding changes in deposit rates; the Company can minimize the reduction in
net interest income in a period of rising interest rates to the extent that it
can resist raising deposit rates during this period. The Company continues to
explore transactions and strategies to both increase its net interest income and
minimize its interest rate risk.
The interest sensitivity profile of the Company at any point in time will be
affected by a number of factors. These factors include the mix of interest
sensitive assets and liabilities as well as their relative repricing schedules.
It is also influenced by market interest rates, deposit growth, loan growth, and
other factors. The tables below illustrate the Company's estimated annualized
earnings sensitivity profile based on the above referenced asset/liability model
as of year-end 2003 and 2002, respectively. The tables below are representative
only and are not precise measurements of the effect of changing interest rates
on the Company's net interest income in the future.
20
Interest Rate Sensitivity For 2003
Gradual Gradual
Decrease Increase
In Interest In Interest
Rates of 100 Rates of 200
(Dollars in thousands) Basis Points BASE Basis Points
------------ ---- ------------
Projected interest income:
Loans ....................... $ 23,973 $ 24,654 $ 26,079
Investments ................. 2,987 3,064 3,196
Short-term investments ...... 410 422 446
------------ -------- ------------
Total interest income .......... 27,370 28,140 29,721
Projected interest expense:
Deposits .................... 5,358 5,692 6,827
Other borrowings ............ 6,964 7,476 8,591
------------ -------- ------------
Total interest expense ......... 12,322 13,168 15,418
------------ -------- ------------
Net interest income ............ $ 15,048 $ 14,972 $ 14,303
============ ======== ============
Change from base ............... $ 76 $ (669)
% Change from base ............. 0.50% (4.7)%
Interest Rate Sensitivity For 2002
Gradual Gradual
Decrease Increase
In Interest In Interest
Rates of 100 Rates of 200
(Dollars in thousands) Basis Points BASE Basis Points
------------ ---- ------------
Projected interest income:
Loans ....................... $ 21,357 $ 21,744 $ 22,508
Investments ................. 3,203 3,340 3,608
Short-term investments ...... 431 442 466
------------ -------- ------------
Total interest income .......... 24,991 25,526 26,582
Projected interest expense:
Deposits .................... 5,640 5,814 6,826
Other borrowings ............ 5,332 5,533 6,004
------------ -------- ------------
Total interest expense ......... 10,972 11,347 12,830
------------ -------- ------------
Net interest income ............ $ 14,019 $ 14,179 $ 13,752
============ ======== ============
Change from base ............... $ (160) $ (427)
% Change from base ............. (1.1)% (3.0)%
21
ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA
COMMUNITY BANK SHARES OF INDIANA, INC.
New Albany, Indiana
FINANCIAL STATEMENTS
December 31, 2003, 2002, and 2001
CONTENTS
REPORT OF INDEPENDENT AUDITORS.............................................. 22
FINANCIAL STATEMENTS
CONSOLIDATED BALANCE SHEETS............................................ 23
CONSOLIDATED STATEMENTS OF INCOME...................................... 24
CONSOLIDATED STATEMENTS OF CHANGES IN
SHAREHOLDERS' EQUITY................................................. 25
CONSOLIDATED STATEMENTS OF CASH FLOWS.................................. 28
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS............................. 30
- --------------------------------------------------------------------------------
22
REPORT OF INDEPENDENT AUDITORS
Board of Directors and Shareholders
Community Bank Shares of Indiana, Inc.
New Albany, Indiana
We have audited the accompanying consolidated balance sheets of Community Bank
Shares of Indiana, Inc. and subsidiaries as of December 31, 2003 and 2002, and
the related consolidated statements of income, changes in shareholders' equity,
and cash flows for each of the three years in the period ended December 31,
2003. These financial statements are the responsibility of the Company's
management. Our responsibility is to express an opinion on these consolidated
financial statements based on our audits.
We conducted our audits in accordance with auditing standards generally accepted
in the United States of America. Those standards require that we plan and
perform the audit to obtain reasonable assurance about whether the financial
statements are free of material misstatement. An audit includes examining, on a
test basis, evidence supporting the amounts and disclosures in the financial
statements. An audit also includes assessing the accounting principles used and
significant estimates made by management, as well as evaluating the overall
financial statement presentation. We believe that our audits provide a
reasonable basis for our opinion.
In our opinion, the consolidated financial statements referred to above present
fairly, in all material respects, the financial position of Community Bank
Shares of Indiana, Inc. and subsidiaries as of December 31, 2003 and 2002, and
the results of its operations and its cash flows for each of the three years in
the period ended December 31, 2003 in conformity with accounting principles
generally accepted in the United States of America.
Crowe Chizek and Company LLC
Louisville, Kentucky
January 23, 2004
- --------------------------------------------------------------------------------
23
COMMUNITY BANK SHARES OF INDIANA, INC.
CONSOLIDATED BALANCE SHEETS
December 31
(In thousands, except share amounts)
- --------------------------------------------------------------------------------
2003 2002
---- ----
ASSETS
Cash and due from banks $ 10,164 $ 6,631
Interest-bearing deposits in other financial institutions 2,217 950
Securities available for sale, at fair value 83,143 92,374
Loans held for sale 1,173 9,230
Loans, net 390,026 321,634
Federal Home Loan Bank stock, at cost 7,999 7,700
Accrued interest receivable 1,849 1,967
Premises and equipment, net 11,331 11,324
Cash surrender value life insurance 11,057 10,514
Other assets 2,356 3,225
--------- ---------
$ 521,315 $ 465,549
========= =========
LIABILITIES AND SHAREHOLDERS' EQUITY
Deposits
Non-interest bearing $ 34,386 $ 25,790
Interest bearing 306,929 264,040
--------- ---------
Total deposits 341,315 289,830
Short-term borrowings 45,325 36,393
Federal Home Loan Bank advances 90,200 92,700
Accrued interest payable 351 337
Other liabilities 1,835 2,992
--------- ---------
Total liabilities 479,026 422,252
Shareholders' equity
Preferred stock, without par value;
5,000,000 shares authorized; none issued -- --
Common stock, $.10 par value per share
10,000,000 shares authorized;
2,728,298 shares issued; 2,383,696 and
2,394,752 shares outstanding 273 273
Additional paid-in capital 19,497 19,533
Retained earnings 28,299 27,373
Accumulated other comprehensive income (loss) (400) 1,332
Unearned ESOP and performance share awards
(2003 - 3,627, 2002 - 7,450) (39) (80)
Treasury stock, at cost (2003 - 340,975 shares,
2002 - 326,096 shares) (5,341) (5,134)
--------- ---------
Total shareholders' equity 42,289 43,297
--------- ---------
$ 521,315 $ 465,549
========= =========
- --------------------------------------------------------------------------------
See accompanying notes.
24
COMMUNITY BANK SHARES OF INDIANA, INC.
CONSOLIDATED STATEMENTS OF INCOME
Years ended December 31
(In thousands, except per share amounts)
- --------------------------------------------------------------------------------
2003 2002 2001
---- ---- ----
Interest and dividend income
Loans, including fees $ 22,145 $ 20,278 $ 22,856
Securities: taxable 2,047 3,698 4,974
tax exempt 630 500 431
Federal Home Loan Bank dividends 391 452 561
Interest-bearing deposits in other financial institutions 39 124 473
-------- -------- --------
25,252 25,052 29,295
Interest expense
Deposits 6,143 7,539 10,981
Federal Home Loan Bank advances 5,221 5,461 5,325
Short-term borrowings 311 354 739
-------- -------- --------
11,675 13,354 17,045
-------- -------- --------
Net interest income 13,577 11,698 12,250
Provision for loan losses 1,274 1,144 520
-------- -------- --------
Net interest income after provision for loan losses 12,303 10,554 11,730
Non-interest income
Service charges on deposit accounts 1,707 1,100 920
Commission income 109 330 599
Gain on sale of available for sale securities 653 511 31
Gain on sale of mortgage loans 592 457 359
Loan servicing income, net of amortization (53) 96 101
Increase in cash surrender value of life insurance 543 514 --
Other income 133 152 176
-------- -------- --------
3,684 3,160 2,186
Non-interest expense
Salaries and employee benefits 7,097 5,967 5,207
Occupancy 957 823 844
Equipment 989 871 602
Data processing 1,407 1,106 916
Marketing and advertising 287 373 310
Other expense 2,367 1,798 1,500
-------- -------- --------
13,104 10,938 9,379
-------- -------- --------
Income before income taxes 2,883 2,776 4,537
Income tax expense 581 650 1,582
-------- -------- --------
Net income $ 2,302 $ 2,126 $ 2,955
======== ======== ========
Earnings per share:
Basic $ 0.97 $ 0.87 $ 1.18
Diluted $ 0.96 $ 0.87 $ 1.18
- --------------------------------------------------------------------------------
See accompanying notes.
25
COMMUNITY BANK SHARES OF INDIANA, INC.
CONSOLIDATED STATEMENTS OF CHANGES IN SHAREHOLDERS' EQUITY
Years ended December 31
- --------------------------------------------------------------------------------
Common Stock Additional
Shares Paid-In Retained
Outstanding Amount Capital Earnings
----------- ------ ---------- --------
(In thousands)
Balance at January 1, 2001 2,517 $ 273 $ 19,491 $ 25,164
Comprehensive income:
Net income -- -- -- 2,955
Change in net unrealized gains (losses),
securities available for sale, net of
reclassification and tax effects -- -- -- --
Change in minimum pension liability,
net of tax effects -- -- -- --
Total comprehensive income
Cash dividends declared ($.58 per share) -- -- -- (1,466)
Purchase of 48,500 shares treasury stock (49) -- -- --
Vesting of 2,300 performance share awards 2 -- -- --
Commitment of 5,531 shares to be released
under ESOP 6 -- 22 --
----------- ------ ---------- --------
Balance at December 31, 2001 2,476 273 19,513 26,653
Comprehensive income:
Net income -- -- -- 2,126
Change in net unrealized gains (losses),
securities available for sale, net of
reclassification and tax effects -- -- -- --
Accumulated
Other Unearned
Comprehensive ESOP and Total
Income Performance Treasury Shareholders'
(Loss) Share Awards Stock Equity
------------- ------------ -------- -------------
Balance at January 1, 2001 $ (854) $ (220) $ (2,966) $ 40,888
Comprehensive income:
Net income -- -- -- 2,955
Change in net unrealized gains (losses),
securities available for sale, net of
reclassification and tax effects 747 -- -- 747
Change in minimum pension liability,
net of tax effects (152) -- -- (152)
-------------
Total comprehensive income 3,550
Cash dividends declared ($.58 per share) -- -- -- (1,466)
Purchase of 48,500 shares treasury stock -- -- (706) (706)
Vesting of 2,300 performance share awards -- 15 -- 15
Commitment of 5,531 shares to be released
under ESOP -- 62 -- 84
------------- ------------ -------- -------------
Balance at December 31, 2001 (259) (143) (3,672) 42,365
Comprehensive income:
Net income -- -- -- 2,126
Change in net unrealized gains (losses),
securities available for sale, net of
reclassification and tax effects 1,213 -- -- 1,213
- --------------------------------------------------------------------------------
26
(Continued)
COMMUNITY BANK SHARES OF INDIANA, INC.
CONSOLIDATED STATEMENTS OF CHANGES IN SHAREHOLDERS' EQUITY
Years ended December 31
- --------------------------------------------------------------------------------
Common Stock Additional
Shares Paid-In Retained
Outstanding Amount Capital Earnings
----------- ------ ---------- --------
(In thousands)
Change in unrealized gains (losses),
interest rate swap net of reclassification
and tax effects -- -- -- --
Change in minimum pension liability,
net of tax effects -- -- -- --
Total comprehensive income
Cash dividends declared ($.58 per share) -- -- -- (1,406)
Purchase of 96,007 shares treasury stock (96) -- -- --
Vesting of 300 performance share awards -- -- -- --
Stock options exercised 8,602 shares 9 -- (14) --
Commitment of 5,756 shares to be released
under ESOP 6 -- 34 --
----------- ------ ---------- --------
Balance at December 31, 2002 2,395 $ 273 $ 19,533 $ 27,373
Comprehensive income:
Net income -- -- -- 2,302
Change in net unrealized gains (losses),
securities available for sale, net of
reclassification and tax effects -- -- -- --
Change in unrealized gains (losses),
interest rate swap net of reclassification
and tax effects -- -- -- --
Change in minimum pension liability,
net of tax effects -- -- -- --
Total comprehensive income
Accumulated
Other Unearned
Comprehensive ESOP and Total
Income Performance Treasury Shareholders'
(Loss) Share Awards Stock Equity
------------- ------------ -------- -------------
Change in unrealized gains (losses),
interest rate swap net of reclassification
and tax effects 455 -- -- 455
Change in minimum pension liability,
net of tax effects (77) -- -- (77)
-------------
Total comprehensive income 3,717
Cash dividends declared ($.58 per share) -- -- -- (1,406)
Purchase of 96,007 shares treasury stock -- -- (1,596) (1,596)
Vesting of 300 performance share awards -- 2 -- 2
Stock options exercised 8,602 shares -- -- 134 120
Commitment of 5,756 shares to be released
under ESOP -- 61 -- 95
------------- ------------ -------- -------------
Balance at December 31, 2002 $ 1,332 $ (80) $ (5,134) $ 43,297
Comprehensive income:
Net income -- -- -- 2,302
Change in net unrealized gains (losses),
securities available for sale, net of
reclassification and tax effects (1,041) -- -- (1,041)
Change in unrealized gains (losses),
interest rate swap net of reclassification
and tax effects (708) -- -- (708)
Change in minimum pension liability,
net of tax effects 17 -- -- 17
-------------
Total comprehensive income 570
- --------------------------------------------------------------------------------
27
(Continued)
COMMUNITY BANK SHARES OF INDIANA, INC.
CONSOLIDATED STATEMENTS OF CHANGES IN SHAREHOLDERS' EQUITY
Years ended December 31
- --------------------------------------------------------------------------------
Common Stock Additional
Shares Paid-In Retained
Outstanding Amount Capital Earnings
----------- ------ ---------- --------
(In thousands)
Cash dividends declared ($.58 per share) -- -- -- (1,376)
Purchase of 29,629 shares treasury stock (30) -- -- --
Stock options exercised 14,750 shares 15 -- (60) --
Commitment of 3,823 shares to be released
under ESOP 4 -- 24 --
----------- ------ ---------- --------
Balance at December 31, 2003 2,384 $ 273 $ 19,497 $ 28,299
=========== ====== ========== ========
Accumulated
Other Unearned
Comprehensive ESOP and Total
Income Performance Treasury Shareholders'
(Loss) Share Awards Stock Equity
------------- ------------ -------- -------------
Cash dividends declared ($.58 per share) -- -- -- (1,376)
Purchase of 29,629 shares treasury stock -- -- (475) (475)
Stock options exercised 14,750 shares -- -- 268 208
Commitment of 3,823 shares to be released
under ESOP -- 41 -- 65
------------- ------------ -------- -------------
Balance at December 31, 2003 $ (400) $ (39) $ (5,341) $ 42,289
============= ============ ======== =============
- --------------------------------------------------------------------------------
28
See accompanying notes.
COMMUNITY BANK SHARES OF INDIANA, INC.
CONSOLIDATED STATEMENTS OF CASH FLOWS
Years ended December 31
(In thousands)
- --------------------------------------------------------------------------------
2003 2002 2001
---- ---- ----
Cash flows from operating activities
Net income $ 2,302 $ 2,126 $ 2,955
Adjustments to reconcile net income to
net cash from operating activities
Provision for loan losses 1,274 1,144 520
Depreciation 1,109 1,008 780
Net amortization of securities 1,019 825 289
Gain on sales of available for sale securities (653) (511) (31)
Mortgage loans originated for sale (28,595) (26,512) (29,780)
Proceeds from mortgage loan sales 37,244 35,174 29,343
Gain on sales of mortgage loans (592) (457) (359)
Increase in cash surrender value of life insurance (543) (514) --
Federal Home Loan Bank stock dividends (299) (42) (57)
ESOP and performance share award expense 65 95 99
Net change in
Accrued interest receivable 118 408 765
Accrued interest payable 14 (1) (106)
Other assets 727 864 (205)
Other liabilities (139) (943) 491
-------- -------- --------
Net cash from operating activities 13,051 12,664 4,704
Cash flows from investing activities
Net change in interest-bearing deposits (1,267) 1,707 2,973
Activity in available for sale securities
Sales 26,323 33,994 7,762
Purchases (65,318) (52,066) (81,144)
Maturities, prepayments and calls 46,280 26,339 61,694
Loan originations and payments, net (70,694) (45,047) (7,856)
Purchase of premises and equipment, net (1,116) (1,116) (1,705)
Investment in cash surrender value of life insurance -- (10,000) --
-------- -------- --------
Net cash from investing activities (65,792) (46,189) (18,276)
- --------------------------------------------------------------------------------
29
(Continued)
COMMUNITY BANK SHARES OF INDIANA, INC.
CONSOLIDATED STATEMENTS OF CASH FLOWS
Years ended December 31
(In thousands)
- --------------------------------------------------------------------------------
2003 2002 2001
---- ---- ----
Cash flows from financing activities
Net change in deposits $ 51,485 $ 33,938 $ (2,330)
Net change in short-term borrowings 8,932 (2,682) 16,528
Proceeds from Federal Home Loan Bank advances 46,340 15,700 7,000
Repayment of advances from Federal
Home Loan Bank (48,840) (12,000) (9,800)
Exercise of stock options 208 120 --
Purchase of treasury stock (475) (1,596) (706)
Cash dividends paid (1,376) (1,766) (1,483)
-------- -------- --------
Net cash from financing activities 56,274 31,714 9,209
-------- -------- --------
Net change in cash and due from banks 3,533 (1,811) (4,363)
Cash and due from banks at beginning
of year 6,631 8,442 12,805
-------- -------- --------
Cash and due from banks at end of year $ 10,164 $ 6,631 $ 8,442
======== ======== ========
Supplemental cash flow information:
Interest paid $ 11,661 $ 13,355 $ 17,151
Income taxes paid 471 354 1,800
Supplemental noncash disclosures:
Transfers from loans to loans held for sale -- 16,034 --
Transfers from loans to foreclosed real estate 1,025 215 560
Transfers from loans to repossessed assets 3 50 --
- --------------------------------------------------------------------------------
30
See accompanying notes.
COMMUNITY BANK SHARES OF INDIANA, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE 1 - SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
Principles of Consolidation and Nature of Operations: The consolidated financial
statements include Community Bank Shares of Indiana, Inc. and its wholly owned
subsidiary, Community Bank of Southern Indiana (Community Bank), collectively
referred to as "the Company". The Bank utilizes three wholly-owned subsidiaries
to manage its investment portfolio. CBSI Holdings, Inc. and CBSI Investments,
Inc. are Nevada corporations which jointly own CBSI Investment Portfolio
Management, LLC, a Nevada limited liability corporation which holds and manages
the Bank's investment securities. Effective November 14, 2003, Community Bank of
Kentucky dissolved their charter and all accounts were combined with Community
Bank of Southern Indiana, having no effect on the consolidated entity.
Intercompany balances and transactions are eliminated in consolidation.
The Bank provides financial services through its ten offices in Southern Indiana
and five in Kentucky. The Bank's primary deposit products are checking, savings,
and term certificate accounts, and their primary lending products are
residential mortgage, commercial, and installment loans. Substantially all loans
are secured by specific items of collateral including business assets, consumer
assets and commercial and residential real estate. Commercial loans are expected
to be repaid from cash flow from operations of businesses. Other financial
instruments, which potentially represent concentrations of credit risk, include
deposit accounts in other financial institutions and federal funds sold.
Use of Estimates: To prepare financial statements in conformity with accounting
principles generally accepted in the United States of America, management makes
estimates and assumptions based on available information. These estimates and
assumptions affect the amounts reported in the financial statements and the
disclosures provided, and future results could differ. The allowance for loan
losses, mortgage servicing rights and fair values of financial instruments are
particularly subject to change.
Cash Flows: Cash and cash equivalents include cash, deposits with other
financial institutions with maturities less than 90 days, and federal funds
sold. Net cash flows are reported for interest-bearing deposits in other
financial institutions, loans, deposits, and short-term borrowings.
Securities: Securities are classified as held to maturity and carried at
amortized cost when management has the positive intent and ability to hold them
to maturity. Securities are classified as available for sale when they might be
sold before maturity. Securities available for sale are carried at fair value,
with unrealized holding gains and losses reported in other comprehensive income.
Trading securities are carried at fair value, with changes in unrealized holding
gains and losses included in income. Other securities, such as Federal Home Loan
Bank stock, are carried at cost.
Interest income includes amortization of purchase premium or discount. Gains and
losses on sales are based on the amortized cost of the security sold. Securities
are written down to fair value when a decline in fair value is not temporary.
Mortgage Banking Activities: Mortgage loans originated and intended for sale in
the secondary market are carried at the lower of aggregate cost or market value.
To deliver closed loans to the secondary market and to control its interest rate
risk prior to sale, the Company enters agreements to sell loans. The aggregate
market value of mortgage loans held for sale considers the price of the sales
contracts. Loan commitments related to the origination of mortgage loans held
for sale and the corresponding sales contracts are considered derivative
instruments. The Company's commitments are for fixed rate mortgage loans,
generally lasting 60 days and are at market rates when initiated. The Company
had commitments to originate $624,000 and $2.3 million in loans and an equal
amount of corresponding sales contracts at December 31, 2003 and 2002. The
impact of accounting for these instruments as derivatives was not material and
substantially all of the gain on sale generated from mortgage banking activities
continues to be recorded when closed loans are delivered into the sales
contracts.
The Company sells loans on a servicing retained and released basis. Servicing
assets are recorded on loans sold with servicing retained and are capitalized in
other assets and expensed into other income against service fee income in
- --------------------------------------------------------------------------------
31
COMMUNITY BANK SHARES OF INDIANA, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE 1 - SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (Continued)
proportion to, and over the period of, estimated net servicing revenues.
Impairment is evaluated based on the fair value of the assets, using groupings
of the underlying loans as to interest rates and then, secondarily, as to
geographic and prepayment characteristics. Fair value is determined using prices
for similar assets with similar characteristics, when available, or based upon
discounted cash flows using market-based assumptions. Any impairment of a
grouping is reported as a valuation allowance.
Loans: Loans that management has the intent and ability to hold for the
foreseeable future or until maturity or payoff are reported at the principal
balance outstanding, net of deferred loan fees and costs and an allowance for
loan losses.
Interest income is reported on the interest method and includes amortization of
net deferred loan fees and costs over the loan term. Interest income on mortgage
and commercial loans is discontinued at the time the loan is 90 days delinquent.
Consumer loans are typically charged-off no later than 120 days past due. In all
cases, loans are placed on nonaccrual or charged-off at an earlier date if
collection of principal or interest is considered doubtful. All interest accrued
but not received for loans placed on nonaccrual is reversed against interest
income. Interest received on such loans is accounted for on the cash-basis or
cost-recovery method, until qualifying for return to accrual. Loans are returned
to accrual status when all the principal and interest amounts contractually due
are brought current and future payments are reasonably assured.
Allowance for Loan Losses: The allowance for loan losses is a valuation
allowance for probable incurred credit losses, increased by the provision for
loan losses and decreased by charge-offs less recoveries. Management estimates
the allowance balance required using past loan loss experience, the nature and
volume of the portfolio, information about specific borrower situations and
estimated collateral values, economic conditions, and other factors. Allocations
of the allowance may be made for specific loans, but the entire allowance is
available for any loan that, in management's judgment, should be charged-off.
Loan losses are charged against the allowance when management believes the
uncollectibility of a loan balance is confirmed.
A loan is impaired when full payment under the loan terms is not expected.
Commercial and commercial real estate loans are individually evaluated for
impairment. If a loan is impaired, a portion of the allowance is allocated so
that the loan is reported, net, at the present value of estimated future cash
flows using the loan's existing rate or at the fair value of collateral if
repayment is expected solely from the collateral. Smaller balance homogenous
loans, such as consumer and residential real estate, are collectively evaluated
for impairment, and accordingly, they are not separately identified for
impairment disclosure.
Premises and Equipment: Land is carried at cost. Premises and equipment are
stated at cost less accumulated depreciation. Buildings and related components
are depreciated using the straight-line method with useful lives ranging from 7
to 40 years. Furniture, fixtures, and equipment are depreciated using the
straight-line method with useful lives ranging from 2 to 10 years.
Cash Surrender Value of Life Insurance: The Company has purchased life insurance
policies on certain key executives. The life insurance is recorded at the amount
that can be realized, which is referred to as the cash surrender value.
Long-term Assets: Premises and equipment and other long-term assets are reviewed
for impairment when events indicate their carrying amount may not be recoverable
from future undiscounted cash flows. If impaired, the assets are recorded at
discounted amounts.
- --------------------------------------------------------------------------------
32
COMMUNITY BANK SHARES OF INDIANA, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE 1 - SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (Continued)
Foreclosed Assets: Assets acquired through or instead of loan foreclosure are
initially recorded at fair value when acquired, establishing a new cost basis.
If fair value declines, a valuation allowance is recorded through expense. Costs
after acquisition are expensed. Foreclosed assets amounted to $610,000 and
$630,000 at year-end 2003 and 2002 and are included in other assets in the
consolidated balance sheets.
Repurchase Agreements: Repurchase agreement liabilities, included in short-term
borrowings, represent amounts advanced by various customers. Securities are
pledged to cover these liabilities, which are not covered by federal deposit
insurance.
Benefit Plans: Pension expense is the net of service and interest cost, return
on plan assets, and amortization of gains and losses not immediately recognized.
A minimum pension liability is separately recorded with an offset to other
comprehensive income to the extent the plan's current liability, if in excess of
the plan's assets, is not otherwise recorded. Profit sharing and 401k plan
expense is the amount contributed determined by formula.
Stock Compensation: Employee compensation expense under stock options is
reported using the intrinsic value method. No stock-based compensation cost is
reflected in net income, as all options granted had an exercise price equal to
or greater than the market price of the underlying common stock at date of
grant. The following table illustrates the effect on net income and earnings per
share if expense was measured using the fair value recognition provisions of
FASB Statement No. 123, Accounting for Stock-Based Compensation.
2003 2002 2001
---- ---- ----
(In thousands,
except per share amounts)
Net income as reported $2,302 $2,126 $2,955
Less: Stock-based compensation expense
determined under fair value based method 57 79 87
------ ------ ------
Pro forma net income $2,245 $2,047 $2,868
====== ====== ======
Basic earnings per share as reported $ 0.97 $ 0.87 $ 1.18
Pro forma basic earnings per share 0.94 0.84 1.15
Diluted earnings per share as reported 0.96 0.87 1.18
Pro forma diluted earnings per share 0.94 0.84 1.15
The weighted-average assumptions for options granted during the year and the
resulting estimated weighted average fair values per share used in computing pro
forma disclosures are as follows:
2003 2002 2001
---- ---- ----
Risk-free interest rate N/A 4.21% 4.85%
Expected option life N/A 10 years 10 years
Expected stock price volatility N/A 24.67% 26.70%
Expected dividend yield N/A 3.60% 3.74%
Estimated fair value per share N/A $3.65 $3.89
- --------------------------------------------------------------------------------
33
COMMUNITY BANK SHARES OF INDIANA, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE 1 - SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (Continued)
Income Taxes: Income tax expense is the total of the current year income tax due
or refundable and the change in deferred tax assets and liabilities. Deferred
tax assets and liabilities are the expected future tax amounts for the temporary
differences between carrying amounts and tax bases of assets and liabilities,
computed using enacted tax rates. A valuation allowance, if needed, reduces
deferred tax assets to the amount expected to be realized.
Employee Stock Ownership Plan: The cost of shares issued to the ESOP, but not
yet committed to be released or allocated to participants, is shown as a
reduction of shareholders' equity. Compensation expense is based on the market
price of shares as they are committed to be released to participant accounts.
Dividends on allocated ESOP shares reduce retained earnings; dividends on
unearned ESOP shares reduce debt and accrued interest.
Off Balance Sheet Financial Instruments: Financial instruments include
off-balance sheet credit instruments, such as commitments to make loans and
standby letters of credit, issued to meet customer-financing needs. The face
amount for these items represents the exposure to loss, before considering
customer collateral or ability to repay. Such financial instruments are recorded
when they are funded.
Derivatives: All derivative instruments are recorded at their fair values. If
derivative instruments are designated as hedges of fair values, both the change
in the fair value of the hedge and the hedged item are included in current
earnings. Fair value adjustments related to cash flow hedges are recorded in
other comprehensive income and reclassified to earnings when the hedged
transaction is reflected in earnings. Ineffective portions of hedges are
reflected in earnings as they occur. The Company's use of derivatives is
described further under the heading "Mortgage Banking Activities" and Note 12,
"Interest Rate Swaps."
Earnings Per Common Share: Basic earnings per common share is net income divided
by the weighted average number of common shares outstanding during the period.
ESOP shares are considered outstanding for this calculation unless unallocated.
Diluted earnings per common share include the dilutive effect of additional
potential common shares issuable under stock options.
Comprehensive Income: Comprehensive income consists of net income and other
comprehensive income. Other comprehensive income, recognized as separate
components of equity, includes changes in the following items: unrealized gains
and losses on securities available for sale, unrealized gains and losses on
interest rate swaps, and a minimum pension liability.
Loss Contingencies: Loss contingencies, including claims and legal actions
arising in the ordinary course of business, are recorded as liabilities when the
likelihood of loss is probable and an amount or range of loss can be reasonably
estimated. Management does not believe there are currently such matters that
will have a material effect on the financial statements.
Restrictions on Cash: Cash on hand or on deposit with the Federal Reserve Bank
of $2.2 million and $2.1 million was required to meet regulatory reserve and
clearing requirements at year-end 2003 and 2002. These balances do not earn
interest.
Dividend Restriction: Banking regulations require maintaining certain capital
levels and may limit the dividends paid by the bank to the holding company or by
the holding company to shareholders, as more fully described in a separate note.
Fair Value of Financial Instruments: Fair values of financial instruments are
estimated using relevant market information and other assumptions, as more fully
disclosed in a separate note. Fair value estimates involve uncertainties and
matters of significant judgment regarding interest rates, credit risk,
prepayments, and other factors, especially in the absence of broad markets for
particular items. Changes in assumptions or in market conditions could
significantly affect the estimates.
- --------------------------------------------------------------------------------
34
COMMUNITY BANK SHARES OF INDIANA, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE 1 - SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (Continued)
Operating Segments: While the chief decision-makers monitor the revenue streams
of the various products and services, the identifiable segments are not material
and operations are managed and financial performance is evaluated on a
Company-wide basis. Accordingly, all of the financial service operations are
considered by management to be aggregated in one reportable operating segment.
Adoption of New Accounting Standards: During 2003, the Company adopted FASB
Statement 149, Amendment of Statement 133 on Derivative Instruments and Hedging
Activities, FASB Statement 150, Accounting for Certain Financial Instruments
with Characteristics of both Liabilities and Equities, FASB Statement 132
(revised 2003), Employers' Disclosures about Pensions and Other Postretirement
Benefits, FASB Interpretation 45, Guarantor's Accounting and Disclosure
Requirements for Guarantees, and FASB Interpretation 46, Consolidation of
Variable Interest Entities. Adoption of the new standards did not materially
affect the Company's operating results or financial condition.
Effect of Newly Issued But Not Yet Effective Accounting Standard: During January
2004, FASB issued an exposure draft of Interpretation G25 of Statement 133,
Accounting for Derivative Instruments and Hedging Activities, to clarify hedge
accounting for pools of prime-rate-based loans. As discussed in Note 12, the
Company has hedged $50 million of variable rate loans tied to prime and for
which no ineffectiveness has been recognized to date. Should the interpretation
be finalized in its current form, the Company will need to reassess its
accounting for these hedges which will result in a portion of the swap's
prospective change in fair value being considered ineffective and recorded
through earnings. Interpretation G25 will become effective the first quarter
after its finalization. The Company has not yet completed its assessment of the
Interpretation's financial statement impact.
Reclassifications: Some items in the prior years' financial statements were
reclassified to conform to the current presentation.
NOTE 2 - SECURITIES
The fair value of available for sale securities and the related gross unrealized
gains and losses recognized in accumulated other comprehensive income (loss)
were as follows.
Gross Gross
Amortized Unrealized Unrealized Fair
Cost Gains Losses Value
---- ----- ------ -----
(In thousands)
2003
State and municipal $ 14,849 $ 407 $ (10) $15,246
Mortgaged-backed 52,947 252 (542) 52,657
Corporate bonds 15,000 48 (58) 14,990
Mutual funds 250 -- -- 250
--------- ---------- ---------- -------
Total $ 83,046 $ 707 $ (610) $83,143
========= ========== ========== =======
2002
U. S. Government and federal agency $ 8,552 $ 204 $ -- $ 8,756
State and municipal 12,687 391 (38) 13,040
Mortgaged-backed 60,209 1,109 (23) 61,295
Corporate bonds 9,249 34 -- 9,283
--------- ---------- ---------- -------
Total $ 90,697 $ 1,738 $ (61) $92,374
========= ========== ========== =======
- --------------------------------------------------------------------------------
35
COMMUNITY BANK SHARES OF INDIANA, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE 2 - SECURITIES (Continued)
Sales of available for sale securities were as follows.
2003 2002 2001
---- ---- ----
(In thousands)
Proceeds $ 26,323 $ 33,994 $ 7,762
Gross gains 653 540 50
Gross losses - (29) (19)
Contractual maturities of available for sale securities at year-end 2003 were as
follows. Mortgage-backed securities and mutual funds which do not have a single
maturity date are shown separately.
Amortized Fair
Cost Value
---- -----
(In thousands)
Due in one year or less $ 256 $ 261
Due from one to five years 10,061 10,024
Due from five to ten years 2,540 2,738
Due after ten years 16,992 17,213
Mortgage-backed 52,947 52,657
Mutual Funds 250 250
----------- -----------
Total $ 83,046 $ 83,143
=========== ===========
Securities pledged at year-end 2003 and 2002 had a carrying amount of $71.4
million and $70.5 million to secure public deposits, repurchase agreements and
Federal Home Loan Bank advances.
At year end 2003 and 2002, there were no holdings of securities of any one
issuer, other than the U.S. Government and its agencies, in an amount greater
than 10% of shareholders' equity.
Securities with unrealized losses at year end 2003 not recognized in income were
as follows:
Less than 12 Months 12 Months or More Total
------------------- ----------------- -----
Fair Unrealized Fair Unrealized Fair Unrealized
Description of Securities Value Loss Value Loss Value Loss
- ------------------------- ----- ---- ----- ---- ----- ----
State and municipal $ 3,144 $ 10 $ -- $ -- $ 3,144 $ 10
Mortgage-backed 30,178 542 -- -- 30,178 542
Corporate bonds 4,359 58 -- -- 4,359 58
------- ----------- ------- ----------- ------- -----------
Total temporarily impaired $37,681 $ 610 $ -- $ -- $37,681 $ 610
======= =========== ======= =========== ======= ===========
Unrealized losses on securities have not been recognized into income because the
issuer(s) bonds are of high credit quality (rated A- or higher), management has
the intent and ability to hold for the foreseeable future, and the decline in
fair value is largely due to increases in market interest rates. The fair value
is expected to recover as the bond(s) approach their maturity date and/or market
rates decline.
- --------------------------------------------------------------------------------
36
COMMUNITY BANK SHARES OF INDIANA, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE 3 - LOANS
Loans at year-end were as follows.
2003 2002
---- ----
(In thousands)
Commercial $ 72,981 $ 70,234
Mortgage loans on real estate
Residential 94,975 81,618
Commercial 161,343 119,196
Construction 15,691 13,972
Home equity 42,562 29,595
Loans secured by deposit accounts 546 345
Consumer 5,962 10,488
--------- ---------
Subtotal 394,060 325,448
Less: Allowance for loan losses (4,034) (3,814)
--------- ---------
Loans, net $ 390,026 $ 321,634
========= =========
During 2003 and 2002, substantially all of the Company's residential and
commercial real estate loans were pledged as collateral to the Federal Home Loan
Bank to secure advances.
Activity in the allowance for loan losses was as follows.
2003 2002 2001
---- ---- ----
(In thousands)
Beginning balance $ 3,814 $ 3,030 $ 2,869
Provision for loan losses 1,274 1,144 520
Loans charged-off (1,075) (558) (372)
Recoveries 21 198 13
------------ ------------ ------------
Ending balance $ 4,034 $ 3,814 $ 3,030
============ ============ ============
Information about impaired loans is presented below. There were no impaired
loans for the periods presented without an allowance allocation.
2003 2002 2001
---- ---- ----
(In thousands)
Impaired loans at year-end $ 805 $1,682 $1,854
Amount of the allowance for loan losses allocated 276 527 369
Average of impaired loans during the year 1,691 2,227 1,315
Interest income recognized during impairment 30 26 184
Nonperforming loans at year-end were as follows.
Loans past due over 90 days still on accrual 25 $ - $ 39
Nonaccrual loans 1,788 3,171 1,588
- --------------------------------------------------------------------------------
37
COMMUNITY BANK SHARES OF INDIANA, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE 3 - LOANS (Continued)
Nonperforming loans includes both smaller balance homogenous loans that are
collectively evaluated for impairment and individually classified impaired
loans.
Loans and off-balance-sheet commitments (including commitments to make loans,
unused lines of credit, and letters of credit) to principal officers, directors,
and their affiliates were as follows.
2003
----
(In thousands)
Beginning loans $29,561
New loans 37,188
Effect of changes in related parties (7,622)
Repayments 33,170)
------
Ending loans $25,957
=======
2003 2002
---- ----
(In thousands)
Off-balance-sheet commitments $ 8,416 $10,363
Mortgage loans serviced for others are not included in the balance sheets. The
unpaid principal balances of mortgage loans serviced for others were
approximately $29.0 million and $30.0 million at year-end 2003 and 2002.
Custodial escrow balances maintained in connection with the foregoing loan
servicing, and included in non-interest bearing deposits, were approximately
$340,000 and $299,000 at year-end 2003 and 2002. Servicing assets related to
these loans, included in other assets, were $195,000 and $207,000 at year-end
2003 and 2002.
- --------------------------------------------------------------------------------
38
COMMUNITY BANK SHARES OF INDIANA, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE 4 - PREMISES AND EQUIPMENT
Year-end premises and equipment were as follows.
2003 2002
---- ----
(In thousands)
Land and land improvements $ 1,263 $ 1,263
Buildings 9,623 9,623
Furniture, fixtures and equipment 5,436 4,374
Leasehold improvements 390 336
---------- ----------
16,712 15,596
Less: Accumulated depreciation (5,381) (4,272)
---------- ----------
$ 11,331 $ 11,324
========== ==========
Rent expense was $195,000, $83,000 and $38,000 for 2003, 2002, and 2001,
respectively. Rent commitments under noncancelable operating leases (in
thousands) were as follows, before considering renewal options that generally
are present.
2004 $ 291
2005 311
2006 317
2007 285
2008 218
Thereafter 1,549
NOTE 5 - DEPOSITS
Time deposits of $100,000 or more were $44.6 million and $28.0 million at
year-end 2003 and 2002.
Scheduled maturities of time deposits for the next five years were as follows.
2004 $90,663
2005 22,491
2006 28,261
2007 12,861
2008 4,638
Thereafter 807
Deposits from principal officers, directors and their affiliates at year-end
2003 and 2002 were approximately $9.2 million and $7.5 million.
NOTE 6 - SHORT-TERM BORROWINGS
Short-term borrowings consist of, retail repurchase agreements representing
overnight borrowings from deposit customers, effectively deposit equivalents,
federal funds purchased representing overnight borrowings from other financial
institutions, and lines of credit with other financial institutions. The debt
securities sold under the repurchase agreements were under the control of the
subsidiary banks during 2003 and 2002.
- --------------------------------------------------------------------------------
39
COMMUNITY BANK SHARES OF INDIANA, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE 6 - SHORT-TERM BORROWINGS (Continued)
Information concerning 2003 and 2002 short-term borrowings is summarized as
follows.
2003 2002
---- ----
(Dollars in thousands)
Repurchase agreements at year-end
Balance $26,182 $26,393
Weighted average interest rate 0.50% 0.59%
Repurchase agreements during the year
Average daily balance $25,438 $27,966
Maximum month-end balance 29,227 37,561
Weighted average interest rate 0.57% 1.04%
Federal funds purchased and lines of credit at year-end
Balance $19,143 $10,000
Weighted average interest rate 1.25% 1.50%
Federal funds purchased and lines of credit during the year
Average daily balance $10,768 $ 3,353
Maximum month-end balance 19,143 12,140
Weighted average interest rate 1.48% 1.81%
NOTE 7 - FEDERAL HOME LOAN BANK ADVANCES
At year-end, advances from the Federal Home Loan Bank (FHLB) were as follows.
2003 2002
---------------------- ----------------------
Weighted Weighted
Average Average
Rate Amount Rate Amount
---- ------ ---- ------
(Dollars in thousands)
Fixed rate 5.89% $ 85,000 5.87% $ 88,000
Variable rate 1.31 5,200 1.33 4,700
----------- -----------
$ 90,200 $ 92,700
=========== ===========
The advances were collateralized by first mortgage loans and commercial loans
under a blanket lien agreement and available for sale securities which were
pledged as security under the agreement.
The contractual maturities of advances outstanding as of December 31, 2003 are
as follows.
Fixed Variable
----- --------
(In thousands)
2004 $13,000 $ 5,200
2005 2,000 --
2008 2,000 --
2009 21,000 --
2010 47,000 --
- --------------------------------------------------------------------------------
40
COMMUNITY BANK SHARES OF INDIANA, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE 7 - FEDERAL HOME LOAN BANK ADVANCES (Continued)
The fixed rate advances consisted of $81.0 million in convertible advances. The
FHLB has the quarterly right to require the Company to choose either conversion
of the fixed rate to a variable rate tied to the three month LIBOR index or
prepayment of the advance without penalty. There is a substantial penalty if the
Company prepays the advances before FHLB exercises its right.
NOTE 8 - BENEFIT PLANS
Defined Benefit Plans: The Company sponsors a defined benefit pension plan. The
benefits are based on years of service and the employees' highest average of
total compensation for five consecutive years of employment. In 1997, the plan
was amended such that there can be no new participants or increases in benefits
to the participants.
A reconciliation of the projected benefit obligation and the value of plan
assets follow.
2003 2002
---- ----
(In thousands)
Change in projected benefit obligation
Balance, beginning of year $ 747 $ 680
Interest cost 49 47
Actuarial (gain) loss 95 47
Benefits paid to participants (116) (27)
----- -----
Ending benefit obligation 775 747
Change in plan assets
Fair value, beginning of year 406 494
Actual return on plan assets 75 (61)
Employer contributions 151 --
Benefits paid to participants (116) (27)
----- -----
Ending plan assets 516 406
----- -----
Funded status (259) (341)
Unrecognized net actuarial loss 348 376
----- -----
Prepaid benefit cost $ 89 $ 35
===== =====
The components of pension expense and related actuarial assumptions were as
follows.
2003 2002 2001
---- ---- ----
(Dollars in thousands)
Interest cost $ 50 $ 47 $ 44
Expected return on plan assets (34) (44) (52)
Amortization of unrecognized loss 82 25 7
---- ---- ----
Pension expense (income) $ 98 $ 28 $ (1)
==== ==== ====
Discount rate on benefit obligation 6.25% 6.75% 7.00%
Rate of expected return on plan assets 8.00% 9.00% 9.00%
- --------------------------------------------------------------------------------
41
COMMUNITY BANK SHARES OF INDIANA, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE 8 - BENEFIT PLANS (Continued)
A minimum pension liability is separately recorded with an offset to other
comprehensive income to the extent the plan's current liability, if in excess of
the plan's assets, is not otherwise recorded. As a result of the 1997 amendment
discussed previously, the plan's projected benefit obligation also represents
its current liability. At year-end 2003 and 2002, the plan's current liability
exceeded the assets by $259,000 and $341,000. Accordingly, the Company's 2003
and 2002 balance sheets include a minimum pension liability of $348,000 and
$376,000 which is in addition to the prepaid benefit cost otherwise recorded.
Among other events, the amount carried in accumulated other comprehensive income
will be reclassified to earnings should management elect to terminate the plan.
The Company's target allocation for 2004, pension plan asset allocation at
year-end 2003, and 2002, and expected long-term rate of return by asset category
are as follows:
Target Percentage of Plan Weighted-Average
Allocation Assets at Year-end Expected Long-Term
2004 2003 2002 Rate of Return 2003
---- ---- ---- -------------------
Asset Category
Mutual funds 85% 85% 89% 9.3%
Money market 15 15 11 0.8
------ ------
Total 100% 100% 8.0%
====== ======
The Company expects to contribute $42,000 to its pension plan in 2004.
Community Bank is a participant in the Financial Institutions Retirement Fund, a
multi-employer defined benefit pension plan covering two of its employees.
Employees are fully vested at the completion of five years of participation in
the plan. No contributions were required during the three-year period ended
December 31, 2003. There have been no new enrollments since 1998.
Employee Stock Ownership Plan: Employees participate in an Employee Stock
Ownership Plan (ESOP). The ESOP borrowed from the Company to purchase 56,690
shares of Company stock at $10.08 per share. The Company makes discretionary
contributions to the ESOP, as well as paying dividends on unallocated shares to
the ESOP, and the ESOP uses funds it receives to repay the loan. When loan
payments are made, ESOP shares are allocated to participants based on relative
compensation and expense is recorded. Dividends on allocated shares increase
participant accounts. Participants receive the shares at the end of employment.
Contributions to the ESOP during 2003, 2002 and 2001 were $41,000, $61,000 and
$62,000. Expense for 2003, 2002 and 2001 was $65,000, $95,000 and $84,000.
Shares held by the ESOP trust were as follows.
2003 2002
---- ----
(In thousands)
Allocated to participants 37 37
Unearned 4 8
---------- ----------
Total ESOP shares 41 45
========== ==========
Fair value of unearned shares $ 72 $ 124
========== ==========
Deferred Compensation Arrangements: The Company has entered into deferred
compensation arrangements with certain directors and officers. The liability for
such arrangements is fully accrued during the service period. The liability was
$544,000 and $514,000 at December 31, 2003 and 2002, respectively. Expense
related to these arrangements for 2003, 2002 and 2001 was $84,000, $29,000 and
$36,000.
- --------------------------------------------------------------------------------
42
COMMUNITY BANK SHARES OF INDIANA, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE 8 - BENEFIT PLANS (Continued)
Defined Contribution Plans: The 401(k) benefit plan allows employee
contributions up to 15% of their compensation, which are matched equal to 100%
of the first 3% of the compensation contributed. Expense for 2003, 2002 and 2001
was $132,000, $96,000 and $89,000.
NOTE 9 - STOCK-BASED COMPENSATION PLANS
Stock Options: The Company's stock option plan provides for the granting of both
incentive and nonqualified stock options at exercise prices not less than the
fair market value of the common stock on the date of grant and expiration dates
of up to ten years. Terms of the options are determined by the Board of
Directors at the date of grant and generally vest over periods of three to four
years. Payment of the option price may be in cash or shares of common stock at
fair market value on the exercise date. Non-employee directors are eligible to
receive only nonqualified stock options. As of December 31, 2003, the plan
allows for additional option grants of up to 66,122 shares.
A summary of the activity in the plan follows.
2003 2002 2001
----------------- ----------------- ------------------
Weighted Weighted Weighted
Average Average Average
Exercise Exercise Exercise
Shares Price Shares Price Shares Price
------ ----- ------ ----- ------ -----
(In thousands, except per share amounts)
Outstanding at beginning
of year 168 $17.01 184 $16.87 185 $17.55
Granted -- -- 4 16.10 19 15.50
Exercised (15) 14.06 (9) 14.08 -- --
Forfeited (34) 20.66 (11) 19.44 (20) 20.87
------ ----- -----
Outstanding at end of year 119 $16.35 168 $17.01 184 $16.87
===== ===== =====
Options exercisable at year-end 119 $16.35 154 $ 17.12 106 $18.39
For options outstanding at December 31, 2003, the option price per share ranged
from $13.50 to $21.00 and the weighted average remaining contractual life on the
options was 5.2 years.
Performance Share Awards: The Company may grant performance share awards to
employees for up to 20,000 shares of common stock. The level of performance
shares eventually distributed is contingent upon the achievement of specific
performance criteria within a specified award period set at the grant date.
The compensation cost attributable to these restricted stock awards is based on
the fair market value of the shares at the grant date. In lieu of shares of
common stock, the Company may distribute cash in an amount equal to the fair
market value of the common stock award. The compensation expense is recognized
over the specified performance period. During 1999, the Company granted 8,700
shares of common stock as performance share awards and compensation expense of
$2,000 and $15,000 was recognized for the years ended 2002 and 2001,
respectively. Compensation expense has been fully recognized for the shares
granted in 1999.
- --------------------------------------------------------------------------------
43
COMMUNITY BANK SHARES OF INDIANA, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE 10 - INCOME TAXES
Income tax expense (benefit) was as follows.
2003 2002 2001
---- ---- ----
(In thousands)
Current $ 419 $ 632 $1,577
Deferred 21 (41) 5
Valuation allowance 141 59 --
------ ------ ------
Total $ 581 $ 650 $1,582
====== ====== ======
Effective tax rates differ from federal statutory rates applied to financial
statement income due to the following.
2003 2002 2001
---- ---- ----
(Dollars In thousands)
Federal statutory rate times
financial statement income $ 980 34.0% $ 944 34.0% $ 1,542 34.0%
Effect of:
Tax-exempt income (222) (7.7) (190) (6.8) (127) (2.8)
State taxes, net of federal
benefit (141) (4.9) (59) (2.1) 135 3.0
Change in
valuation allowance 141 4.9 59 2.1 -- --
Change in
cash surrender value
of life insurance policies (185) (6.4) (175) (6.3) -- --
Other, net 8 0.3 71 2.5 32 0.7
------- ---- ------- ---- ------- ----
Total $ 581 20.2% $ 650 23.4% $ 1,582 34.9%
======= ==== ======= ==== ======= ====
Year-end deferred tax assets and liabilities were due to the following.
2003 2002
---- ----
(In thousands)
Deferred tax assets
Allowance for loan losses $1,539 $1,455
Employee benefit plans 188 218
Minimum pension liability 136 147
Net unrealized appreciation on interest rate swap 161 --
Net operating loss carryforward 200 59
Unused tax credits 20 --
Other 16 22
------ ------
Total 2,260 1,901
- --------------------------------------------------------------------------------
44
COMMUNITY BANK SHARES OF INDIANA, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE 10 - INCOME TAXES (Continued)
2003 2002
---- ----
(In thousands)
Deferred tax liabilities
Premises and equipment (425) (310)
FHLB stock (329) (181)
Deferred loan fees and costs (173) (152)
Mortgage Servicing Rights (74) (79)
Net unrealized appreciation on securities
available for sale (33) (570)
Net unrealized appreciation on interest rate swap -- (291)
Other (48) (97)
-------- -------
Total (1,082) (1,680)
Valuation allowance on deferred tax assets (200) (59)
-------- -------
Net deferred tax asset $ 978 $ 162
======= =======
The Company incurred net operating losses for state income taxes during 2003 and
2002 which will be carried forward and applied to future state taxable income.
Due to the uncertainty of the Company's ability to use this benefit, a valuation
allowance has been recorded. The cumulative state net operating loss is $2.4
million and can be carried forward for 15 years.
Community Bank qualified under provisions of the Internal Revenue Code which
through 1987 permitted them to deduct from taxable income a provision for bad
debts that exceeded the provision for loan losses charged to income on the
financial statements. Retained earnings at December 31, 2003 and 2002 includes
this benefit of approximately $3.7 million for which accounting standards do not
require a deferred federal income tax liability to be recorded. If the banks
were liquidated or otherwise ceased to be banks or if tax laws were to change,
this liability would be recorded with an offset to income tax expense.
NOTE 11 - CAPITAL REQUIREMENTS AND RESTRICTIONS ON RETAINED EARNINGS
Banks and bank holding companies are subject to regulatory capital requirements
administered by federal banking agencies. Capital adequacy guidelines and,
additionally for banks, prompt corrective action regulations involve
quantitative measures of assets, liabilities, and certain off-balance-sheet
items calculated under regulatory accounting practices. Capital amounts and
classifications are also subject to qualitative judgments by regulators. Failure
to meet capital requirements can initiate regulatory action.
Prompt corrective action regulations provide five classifications: well
capitalized, adequately capitalized, undercapitalized, significantly
undercapitalized, and critically undercapitalized, although these terms are not
used to represent overall financial condition. If adequately capitalized,
regulatory approval is required to accept brokered deposits. If
undercapitalized, capital distributions are limited, as is asset growth and
expansion, and capital restoration plans are required. As of December 31, 2003
and 2002, the most recent regulatory notifications categorized the Company and
Banks as well capitalized under the regulatory framework for prompt corrective
action.
- --------------------------------------------------------------------------------
45
COMMUNITY BANK SHARES OF INDIANA, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE 11 - CAPITAL REQUIREMENTS AND RESTRICTIONS ON RETAINED EARNINGS (Continued)
Actual and required capital amounts and ratios are presented below at year-end.
To Be Well
Capitalized Under
For Capital Prompt Corrective
Actual Adequacy Purposes Action Provisions
------ ----------------- -----------------
Amount Ratio Amount Ratio Amount Ratio
------ ----- ------ ----- ------ -----
(Dollars in millions)
2003
Total Capital (to Risk Weighted Assets):
Consolidated $ 46.5 11.4% $ 32.6 8% $ 40.8 10%
Community Bank 46.5 11.4% 32.6 8 40.8 10
Tier I Capital (to Risk Weighted Assets):
Consolidated $ 42.5 10.4% $ 16.3 4% $ 24.5 6%
Community Bank 42.5 10.4% 16.3 4 24.5 6
Tier I Capital (to Average Assets):
Consolidated $ 42.5 8.3% $ 20.4 4% $ 25.4 5%
Community Bank 42.5 8.3% 19.1 4 23.9 5
2002
Total Capital (to Risk Weighted Assets):
Consolidated $ 45.5 13.6% $ 26.9 8% $ 33.6 10%
Community Bank 37.6 12.7 23.6 8 29.6 10
CB Kentucky 7.3 18.7 3.1 8 3.9 10
Tier I Capital (to Risk Weighted Assets):
Consolidated $ 41.7 12.4% $ 13.4 4% $ 20.1 6%
Community Bank 34.2 11.6 11.8 4 17.7 6
CB Kentucky 6.9 17.7 1.6 4 2.3 6
Tier I Capital (to Average Assets):
Consolidated $ 41.7 9.0% $ 18.5 4% $ 23.1 5%
Community Bank 34.2 8.4 16.3 4 20.4 5
CB Kentucky 6.9 12.5 2.2 4 2.8 5
Regulations limit capital distributions by banks. Generally, capital
distributions are limited to undistributed net income for the current and prior
two years. During 2004, the bank could, without prior approval, declare
dividends of approximately $750,000 plus any 2004 net income retained to the
date of dividend declaration.
- --------------------------------------------------------------------------------
46
COMMUNITY BANK SHARES OF INDIANA, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE 12 - INTEREST RATE SWAPS
On August 30, 2002, the Company entered into a $25,000,000 interest rate swap
arrangement to exchange variable payments of interest tied to Prime for receipt
of fixed rate payments of 6.51%. An additional $25,000,000 interest rate swap
was entered into on June 19, 2003 to exchange variable payments of interest tied
to Prime for receipt of fixed rate payments of 5.22%. The variable rate of the
swaps resets daily, with net interest being settled monthly. The notional amount
of the swaps does not represent amounts exchanged by the parties. The amount
exchanged is determined by reference to the notional amount and other terms of
the swaps.
The swaps have been designated by management as cash flow hedges of its
Prime-based commercial loans to in effect convert the loans from variable
interest to weighted average fixed interest rates of 6.76% on the initial swap
until the swap's maturity on August 30, 2007, and 5.58% on the subsequent swap
until its maturity on June 19, 2008. The hedge relationships were determined to
be highly effective. As such, changes in the fair value of the swaps are
reported in other comprehensive income and will be reclassified to earnings over
the lives of the hedges. Based on current rates, $933,000 is expected to be
transferred out of accumulated other comprehensive income into interest income
during 2004. See Note 1 for potential prospective change in accounting for
hedges of prime-based loans.
The fair value and earnings reclassification of the swaps was as follows:
2003 2002
---- ----
(In thousands)
Beginning balance $ 746 $ -
Increase (decrease) in value for the period (388) 915
Swap income reclassified to interest on loans (771) (169)
---------- ----------
Ending balance $ (413) $ 746
========== ==========
NOTE 13 - OFF-BALANCE-SHEET ACTIVITIES
Some financial instruments, such as commitments to make loans for the Company's
portfolio, credit lines and letters of credit, are issued to meet
customer-financing needs. These are agreements to provide credit or to support
the credit of others, as long as conditions established in the contract are met,
and usually have expiration dates. Commitments may expire without being used.
Off-balance-sheet risk to credit loss exists up to the face amount of these
instruments, although material losses are not anticipated. The same credit
policies are used to make such commitments as are used for loans, including
obtaining collateral at exercise of the commitment.
The contractual amount of financial instruments with off-balance-sheet risk was
as follows at year-end.
2003 2002
---- ----
Fixed Variable Fixed Variable
Rate Rate Rate Rate
---- ---- ---- ----
(In thousands)
Commitments to make loans $ 307 $ 8,382 $ 1,869 $ 14,987
Unused lines of credit -- 78,961 -- 79,189
Letters of credit -- 3,832 -- 3,784
Commitments to make loans are generally made for periods of 30 days or less and
are at market rates. The fixed rate loan commitments have interest rates ranging
from approximately 4.25% to 7.5% and maturities ranging from 30 days to 30
years.
See Note 1 for further discussion on mortgage-banking activities.
- --------------------------------------------------------------------------------
47
COMMUNITY BANK SHARES OF INDIANA, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE 14 - FAIR VALUES OF FINANCIAL INSTRUMENTS
Carrying amount and estimated fair values of financial instruments were as
follows at year-end.
2003 2002
---- ----
Carrying Fair Carrying Fair
Amount Value Amount Value
------ ----- ------ -----
(In thousands)
Financial assets
Cash and due from banks $ 10,164 $ 10,164 $ 6,631 6,631
Interest-bearing deposits
with banks 2,217 2,217 950 950
Securities available for sale 83,143 83,143 92,374 92,374
Loans held for sale 1,173 1,188 9,230 9,393
Loans, net 390,026 392,501 321,634 327,719
Federal Home Loan Bank stock 7,999 7,999 7,700 7,700
Accrued interest receivable 1,849 1,849 1,967 1,967
Interest rate swaps -- -- 746 746
Financial liabilities
Deposits 341,315 344,253 289,830 292,344
Short-term borrowings 45,325 45,325 36,393 36,393
Advances from Federal Home
Loan Bank 90,200 99,838 92,700 107,810
Accrued interest payable 351 351 337 337
Interest rate swaps 413 413 -- --
The methods and assumptions used to estimate fair value are described as
follows.
The estimated fair value equals the carrying amount for cash and due from banks,
interest-bearing deposits in other financial institutions, Federal Home Loan
Bank stock, accrued interest receivable and payable, demand deposits, short-term
borrowings, and variable rate loans or deposits that reprice frequently and
fully. Security and interest rate swap fair values are based on market prices or
dealer quotes, and if no such information is available, on the rate and term of
the instrument and information about the issuer. For fixed rate loans or
deposits and for variable rate loans or deposits with infrequent repricing or
repricing limits, fair value is based on discounted cash flows using current
market rates applied to the estimated life and credit risk. Fair values for
impaired loans are estimated using discounted cash flow analysis or underlying
collateral values. Fair value of loans held for sale is based on market quotes.
Fair value of debt is based on current rates for similar financing. The fair
value of off-balance-sheet items is based on current fees or costs that would be
charged to enter into or terminate such arrangements and is not material.
- --------------------------------------------------------------------------------
48
COMMUNITY BANK SHARES OF INDIANA, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE 15 - PARENT COMPANY ONLY CONDENSED FINANCIAL INFORMATION
Condensed financial information for Community Bank Shares of Indiana, Inc.
follows:
CONDENSED BALANCE SHEETS
December 31
2003 2002
---- ----
(In thousands)
ASSETS
Interest-bearing deposits in other financial institutions $ 1 $ 1
Premises and equipment, net 802 938
Receivables from subsidiaries 12 28
Investment in subsidiaries 42,293 42,653
Other assets 1,115 1,391
---------- ---------
$ 44,223 $ 45,011
========== =========
LIABILITIES AND SHAREHOLDERS' EQUITY
Short-term borrowings $ 1,200 $ 930
Accrued expenses and other liabilities 734 784
---------- ---------
Total liabilities 1,934 1,714
Total shareholders' equity 42,289 43,297
---------- ---------
$ 44,223 $ 45,011
========== =========
CONDENSED STATEMENTS OF INCOME
Years ended December 31
2003 2002 2001
---- ---- ----
(In thousands)
Income
Dividends from subsidiaries $ 2,700 $ 4,300 $ 3,100
Management and other fees from subsidiaries 2,409 2,269 2,906
Interest and dividend income 2 41 88
------- ------- -------
Total income 5,111 6,610 6,094
Expense
Operating expenses 5,151 4,697 3,934
------- ------- -------
Income (loss) before income taxes and equity
in undistributed net income of subsidiaries (40) 1,913 2,160
Income tax benefit 982 814 343
------- ------- -------
Income before equity in undistributed net
income of subsidiaries 942 2,727 2,503
Equity in undistributed (distributions in excess) of
net income of subsidiaries 1,360 (601) 452
------- ------- -------
Net income $ 2,302 $ 2,126 $ 2,955
======= ======= =======
- --------------------------------------------------------------------------------
49
COMMUNITY BANK SHARES OF INDIANA, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE 15 - PARENT COMPANY ONLY CONDENSED FINANCIAL INFORMATION (Continued)
CONDENSED STATEMENTS OF CASH FLOWS
Years ended December 31
2003 2002 2001
---- ---- ----
(In thousands)
Cash flows from operating activities
Net income $ 2,302 $ 2,126 $ 2,955
Adjustments to reconcile net income to net cash
from operating activities
Equity (in undistributed) distributions in excess
of net income of subsidiaries (1,360) 601 (452)
Depreciation 395 418 252
(Increase) decrease in other assets
and liabilities, net 295 (469) 275
------- ------- -------
Net cash from operating activities 1,632 2,676 3,030
Cash flows from investing activities
Net change in interest-bearing deposits in other
financial institutions -- 85 (64)
Purchase of premises and equipment, net (259) (449) (777)
------- ------- -------
Net cash from investing activities (259) (364) (841)
Cash flows from financing activities
Net change in short-term borrowings 270 930 --
Exercise of stock options 208 120 --
Purchase of treasury stock (475) (1,596) (706)
Cash dividends paid (1,376) (1,766) (1,483)
------- ------- -------
Net cash from financing activities (1,373) (2,312) (2,189)
------- ------- -------
Net change in cash -- -- --
Cash at beginning of year -- -- --
------- ------- -------
Cash at end of year $ -- $ -- $ --
======= ======= =======
- --------------------------------------------------------------------------------
50
COMMUNITY BANK SHARES OF INDIANA, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE 16 - EARNINGS PER SHARE
The factors used in the earnings per share computation follows.
2003 2002 2001
---- ---- ----
(In thousands, except per share amounts)
Basic
Net income $ 2,302 $ 2,126 $ 2,955
======= ======= =======
Average shares:
Common shares issued 2,728 2,728 2,728
Less: Unallocated ESOP shares (4) (8) (16)
Treasury stock (345) (284) (212)
Performance share awards -- -- (1)
------- ------- -------
Average shares outstanding 2,379 2,436 2,499
======= ======= =======
Net income per common share, basic $ 0.97 $ 0.87 $ 1.18
======= ======= =======
Diluted
Net income $ 2,302 $ 2,126 $ 2,955
======= ======= =======
Average shares:
Common shares outstanding for basic 2,379 2,436 2,499
Add: Dilutive effects of outstanding
options 15 16 4
------- ------- -------
Average shares and dilutive
potential common shares $ 2,394 $ 2,452 $ 2,503
======= ======= =======
Net income per common share, diluted $ 0.96 $ 0.87 $ 1.18
======= ======= =======
Stock options for 31,100, 69,700 and 134,817 common shares were excluded from
2003, 2002 and 2001 diluted earnings per share because they were antidilutive.
- --------------------------------------------------------------------------------
51
COMMUNITY BANK SHARES OF INDIANA, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE 17 - OTHER COMPREHENSIVE INCOME (LOSS)
Other comprehensive income components and related taxes were as follows.
2003 2002 2001
---- ---- ----
(In thousands)
Unrealized holding gains on
available for sale securities $ (927) $ 2,365 $ 1,266
Less reclassification adjustments for gains
later recognized in income (653) (511) (31)
------- ------- -------
Net unrealized gain (loss) on securities
available for sale, net of reclassifications (1,580) 1,854 1,235
Unrealized holding gain on interest
rate swaps (388) 915 -
Amounts reclassified to interest income (771) (169) -
------- ------- -------
Net unrealized gain (loss) on interest rate
swaps, net of reclassifications (1,159) 746 -
Change in minimum pension liability 28 (127) (249)
------- ------- -------
Other comprehensive income (loss)
before tax effects and cumulative
effect of change in accounting principle (2,711) 2,473 986
Tax effect 979 (882) (391)
------- ------- -------
Other comprehensive income (loss) $(1,732) $ 1,591 $ 595
======= ======= =======
NOTE 18 - QUARTERLY FINANCIAL DATA (UNAUDITED)
Earnings Per Share
Interest Net Interest Net ------------------
Income Income Income Basic Diluted
-------- ------------ ------ ------- --------
(In thousands, except per share amounts)
2003
- ----
First quarter $ 6,250 $ 3,443 $ 746 $ 0.31 $ 0.31
Second quarter 6,260 3,275 542 0.23 0.23
Third quarter 6,297 3,328 509 0.22 0.21
Fourth quarter 6,445 3,531 505 0.21 0.21
2002
- ----
First quarter $ 6,319 $ 2,946 $ 718 $ 0.29 $ 0.29
Second quarter 6,337 2,837 256 0.10 0.10
Third quarter 6,239 2,852 502 0.21 0.21
Fourth quarter 6,157 3,063 650 0.27 0.27
- --------------------------------------------------------------------------------
52
PART III
ITEM 9. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT
Information concerning Directors and executive officers of the Registrant and
reporting under Section 16 of the Securities Exchange Act of 1934 is
incorporated herein by reference to information under the headings "Election of
Directors" and "Section 16(a) Beneficial Ownership Reporting Compliance" in the
Company's definitive Proxy Statement for the Annual Meeting of Stockholders to
be held on May 18, 2004.
ITEM 10. EXECUTIVE COMPENSATION
Information concerning executive compensation is incorporated herein by
reference to the information under the headings "Executive Compensation",
"Compensation of Directors", "Defined Benefit Pension Plan", "Employment and
Retirement Agreements", and "Compensation Committee Interlocks and Insider
Participation" in the Company's definitive Proxy Statement for the Annual
Meeting of Stockholders to be held on May 18, 2004.
ITEM 11. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT AND
RELATED STOCKHOLDER MATTERS
Information concerning security ownership of certain owners and management is
incorporated herein by reference to the information under the heading "Stock
Ownership by Directors and Executive Officers" and "Information About Our Other
Stock Compensation Plans" in the Company's definitive Proxy Statement for the
Annual Meeting of Stockholders to be held on May 18, 2004.
ITEM 12. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS
Information concerning relationships and transactions is incorporated herein by
reference to the information under the headings "Compensation Committee
Interlocks and Insider Participation", "Indebtedness of Management", and "Other
Transactions with Management and Related Parties" in the Company's definitive
Proxy Statement for the Annual Meeting of Stockholders to be held on May 18,
2004.
ITEM 13. CONTROLS AND PROCEDURES
Company management, including the Chief Executive Officer (serving as the
principal executive officer) and Chief Financial Officer (serving as the
principal financial officer), have conducted an evaluation of the effectiveness
of disclosure controls and procedures pursuant to Securities Exchange Act of
1934 Rule 13a-14. Based on that evaluation, the Chief Executive Officer and the
Chief Financial Officer concluded that the disclosure controls and procedures
are effective in ensuring that all material information required to be filed in
this annual report has been made known to them in a timely fashion. There have
been no significant changes in internal controls, or in other factors that could
significantly affect internal controls, subsequent to the date the Chief
Executive Officer and the Chief Financial Officer completed their evaluation.
ITEM 14. PRINCIPAL ACCOUNTANT FEES AND SERVICES
Information concerning principal accountant fees and services is incorporated
herein by reference to the information under the headings "Audit Fees",
"Financial Information Systems Design and Implementation Fees", and "All Other
Fees" in the Company's definitive Proxy Statement for the Annual Meeting of
Stockholders to be held on May 18, 2004.
- --------------------------------------------------------------------------------
53
PART IV
ITEM 15. EXHIBITS, FINANCIAL STATEMENT SCHEDULES AND REPORTS ON FORM 8-K
(a)(1) Financial Statements
The following financial statements are included in Item 8 of this Form 10-K:
Report of Independent Auditors
Consolidated Balance Sheets
Consolidated Statements of Income
Consolidated Statements of Changes in Shareholders' Equity
Consolidated Statements of Cash Flows
Notes to Consolidated Financial Statements
(a)(2) Financial Statement Schedules
All financial statement schedules have been omitted as the required information
is inapplicable or the required information has been included in the
Consolidated Financial Statements or notes thereto.
(a)(3) Exhibits
The following exhibits are filed herein:
Exhibit
Number Document
- ------ --------
3.1 Articles of Incorporation (1)
3.2 Bylaws (1)
4.0 Common Stock Certificate (1)
10.1 Employment Agreement with Dale L. Orem * (2)
10.2 Retirement Agreement with Robert E. Yates * (2)
10.3 Employment Agreement with James D. Rickard * (3)
10.4 Community Bank Shares of Indiana, Inc. 1997 Stock Incentive
Plan * (4)
10.5 Community Bank Shares of Indiana, Inc. Dividend Reinvestment
Plan * (5)
10.6 Employment Agreement with Patrick J. Daily *
10.7 Employment Agreement with Christopher L. Bottorff *
10.8 Data Processing Services Agreement with Jack Henry and
Associates, Inc.*
10.9 Electronic Funds Transfer Agreement with Jack Henry and
Associates, Inc.*
10.10 Employment Agreement with Kevin J. Cecil
10.11 Employment Agreement with Paul A. Chrisco
10.12 Consulting Agreement with Dale L. Orem
10.13 Community Bank Shares of Indiana, Inc. and Affiliates Business
Ethics Policy
10.14 Lease Agreement with Al Josam Dixieland, LLC
10.15 Lease Agreement with JWL Properties, LLC
11.1 Computation of Earnings Per Share
21.0 Subsidiaries of Registrant
23.1 Consent of Crowe Chizek and Company LLC
31.1 Certification of Principal Executive Officer Pursuant to 18
U.S.C. Section 1350, As Adopted Pursuant to Section 302 of the
Sarbanes-Oxley Act of 2002
31.2 Certification of Principal Financial Officer Pursuant to 18
U.S.C. Section 1350, As Adopted Pursuant to Section 302 of the
Sarbanes-Oxley Act of 2002
32 Certification of Principal Executive Officer and Chief
Financial Officer pursuant to Section 906 of the
Sarbanes-Oxley Act of 2002
* Management contract or compensatory plan or arrangement required to be
filed as an exhibit to this Report pursuant to Item 601 of Regulation S-K.
(1) Incorporated herein by reference to Registration Statement on Form S-1
filed December 9, 1994 (File No. 33-87228).
(2) Incorporated by reference to the Annual Report on Form 10-K filed April 2,
2002.
(3) Incorporated by reference to the Quarterly Report on Form 10-Q filed
November 14, 2000.
(4) Incorporated by reference from the exhibits filed with the Registration
Statement on Form S-8, filed July 29, 1998, and any amendments thereto,
Registration statement No. 333- 60089.
(5) Incorporated by reference from the exhibits filed with the Registration
Statement on Form S-3, filed November 14, 1997, and any amendments
thereto, Registration Statement No. 333-40211.
(b) Reports on Form 8-K:
The Registrant filed a report on Form 8-K on October 31, 2003 reporting its
announcement on such date of its financial results for the third quarter of
2003.
(c) Exhibits
See response to Item 16(a)(3).
- --------------------------------------------------------------------------------
54
SIGNATURES
Pursuant to the requirements of Section 13 or 15(d) of the Securities Exchange
Act of 1934, the Registrant has duly caused this report to be signed on its
behalf by the undersigned, thereunto duly authorized.
COMMUNITY BANK SHARES
OF INDIANA, INC.
March 30, 2004 By: /s/ James D. Rickard
----------------------------
James D. Rickard
President and Chief Executive Officer
Pursuant to the requirements of the Securities Exchange of 1934, this report has
been signed below by the following persons on behalf of the Registrant and in
the capacities and on the dates indicated.
/s/ James D. Rickard President, Chief Executive Officer, and Director March 31, 2004
-------------------- (Principal Executive Officer)
James D. Rickard
/s/ Paul A. Chrisco Senior Vice-President and Chief Financial Officer) March 31, 2004
------------------- (Principal Financial and Accounting Officer)
Paul A. Chrisco
/s/ Timothy T. Shea Chairman of the Board of Directors and Director March 31, 2004
-------------------
Timothy T. Shea
/s/ Robert J. Koetter, Sr. Director March 31, 2004
--------------------------
Robert J. Koetter, Sr.
/s/ Gary L. Libs Director March 31, 2004
----------------
Gary L. Libs
/s/ James W. Robinson Director March 31, 2004
---------------------
James W. Robinson
/s/ George M. Ballard Director March 31, 2004
---------------------
George M. Ballard
/s/ Gordon L. Huncilman Director March 31, 2004
-----------------------
Gordon L. Huncilman
/s/ Kerry M. Stemler Director March 31, 2004
--------------------
Kerry M. Stemler
/s/ Steven R. Stemler Director March 31, 2004
---------------------
Steven R. Stemler
/s/ Dale L. Orem Director March 31, 2004
----------------
Dale L. Orem
- --------------------------------------------------------------------------------
55
Exhibit Index
Exhibit
Number Document
- ------ --------
3.1 Articles of Incorporation (1)
3.2 Bylaws (1)
4.0 Common Stock Certificate (1)
10.1 Employment Agreement with Dale L. Orem * (2)
10.2 Retirement Agreement with Robert E. Yates * (2)
10.3 Employment Agreement with James D. Rickard * (3)
10.4 Community Bank Shares of Indiana, Inc. 1997 Stock Incentive
Plan * (4)
10.5 Community Bank Shares of Indiana, Inc. Dividend Reinvestment
Plan * (5)
10.6 Employment Agreement with Patrick J. Daily *
10.7 Employment Agreement with Christopher L. Bottorff *
10.8 Data Processing Services Agreement with Jack Henry and
Associates, Inc.*
10.9 Electronic Funds Transfer Agreement with Jack Henry and
Associates, Inc.*
10.10 Employment Agreement with Kevin J. Cecil
10.11 Employment Agreement with Paul A. Chrisco
10.12 Consulting Agreement with Dale L. Orem
10.13 Community Bank Shares of Indiana, Inc. and Affiliates Business
Ethics Policy
10.14 Lease Agreement with Al Josam Dixieland, LLC
10.15 Lease Agreement with JWL Properties, LLC
11.1 Computation of Earnings Per Share
21.0 Subsidiaries of Registrant
23.1 Consent of Crowe Chizek and Company LLC
31.1 Certification of Principal Executive Officer Pursuant to 18
U.S.C. Section 1350, As Adopted Pursuant to Section 302 of the
Sarbanes-Oxley Act of 2002
31.2 Certification of Principal Financial Officer Pursuant to 18
U.S.C. Section 1350, As Adopted Pursuant to Section 302 of the
Sarbanes-Oxley Act of 2002
32 Certification of Principal Executive Officer and Chief
Financial Officer pursuant to Section 906 of the
Sarbanes-Oxley Act of 2002
* Management contract or compensatory plan or arrangement required to be
filed as an exhibit to this Report pursuant to Item 601 of Regulation S-K.
(1) Incorporated herein by reference to Registration Statement on Form S-1
filed December 9, 1994 (File No. 33-87228).
(2) Incorporated by reference to the Annual Report on Form 10-K filed April 2,
2002.
(3) Incorporated by reference to the Quarterly Report on Form 10-Q filed
November 14, 2000.
(4) Incorporated by reference from the exhibits filed with the Registration
Statement on Form S-8, filed July 29, 1998, and any amendments thereto,
Registration statement No. 333- 60089.
(5) Incorporated by reference from the exhibits filed with the Registration
statement on Form S-3, filed November 14, 1997, and any amendments
thereto, Registration Statement No. 333-40211.
- --------------------------------------------------------------------------------
56