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UNITED STATES SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
----------
FORM 10-Q
Quarterly report pursuant to Section 13 or 15(d) of the
Securities Exchange Act of 1934
For the quarterly period ended March 31, 2004
Commission File Number 0-23971
Citizens South Banking Corporation
(Exact name of registrant as specified in its charter)
Delaware 54-2069979
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification Number)
245 West Main Avenue, Gastonia, North Carolina 28052-4140
(Address of principal executive offices)
Registrant's telephone number, including area code: (704)-868-5200
Indicate by check |X| whether the Registrant (1) has filed all reports
required to be filed by Section 13 or 15(d) of the Securities Exchange Act of
1934 during the preceding 12 months (or for such shorter period that the
Registrant was required to file such reports), and (2) has been subject to such
filing requirements for the past 90 days. Yes |X| No |_|
Indicate by check whether the Registrant is an accelerated filer. Yes |X|
No |_|
Indicate the number of shares outstanding of each of the issuer's classes
of common stock, as of the latest practicable date:
Common stock, $0.01 par value
8,386,384 shares outstanding as of May 4, 2004.
Citizens South Banking Corporation
INDEX
Page
----
PART I. FINANCIAL INFORMATION
Item 1. Consolidated Financial Statements............................... 1
Consolidated Statements of Financial Condition
March 31, 2004 and December 31, 2003 ........................ 1
Consolidated Statements of Operations
three months ended March 31, 2004 and 2003 ..................... 2
Consolidated Statements of Comprehensive Income
three months ended March 31, 2004 and 2003...................... 3
Consolidated Statements of Changes in Stockholders' Equity
three months ended March 31, 2004 and 2003...................... 4
Consolidated Statements of Cash Flows
three months ended March 31, 2004 and 2003...................... 5
Notes to Consolidated Financial Statements.......................... 6
Item 2. Management's Discussion and Analysis of Financial Condition
and Results of Operations....................................... 9
Item 3. Quantitative and Qualitative Disclosures About Market Risk...... 14
Item 4. Controls and Procedures......................................... 14
PART II. OTHER INFORMATION..................................................... 14
SIGNATURES..................................................................... 16
Exhibit 31.1 Certification of Chief Executive Officer Pursuant
to Section 302 of the Sarbanes-Oxley Act of 2002................ 17
Exhibit 31.2 Certification of Chief Financial Officer Pursuant
to Section 302 of the Sarbanes-Oxley Act of 2002................ 18
Exhibit 32.1 Statement of Chief Executive Officer Furnished Pursuant
to Section 906 of the Sarbanes-Oxley Act of 2002................ 19
Exhibit 32.2 Statement of Chief Financial Officer Furnished Pursuant
to Section 906 of the Sarbanes-Oxley Act of 2002................ 20
PART I. FINANCIAL INFORMATION
ITEM 1. Consolidated Financial Statements
Citizens South Banking Corporation
Consolidated Statements of Financial Condition
(dollars in thousands, except per share data)
March 31, December 31,
2004 2003
--------- ---------
(unaudited)
Assets:
Cash and due from banks ..................................................... $ 6,273 $ 5,374
Interest-earning bank balances .............................................. 20,499 2,840
--------- ---------
Cash and cash equivalents ................................................ 26,772 8,214
Investment securities available-for-sale, at fair value ..................... 49,248 56,233
Mortgage-backed and related securities available-for-sale, at fair value .... 78,998 89,168
Loans receivable, net of unearned income .................................... 296,238 297,995
Allowance for loan losses ................................................... (2,998) (2,969)
--------- ---------
Loans, net ............................................................... 293,240 295,026
Real estate owned ........................................................... 24 145
Accrued interest receivable ................................................. 1,743 1,943
Premises and equipment, net ................................................. 16,019 14,939
Federal Home Loan Bank stock ................................................ 2,550 2,915
Cash value of bank-owned life insurance policies ............................ 12,452 12,317
Intangible assets ........................................................... 7,873 7,985
Other assets ................................................................ 5,761 6,866
--------- ---------
Total assets ............................................................. $ 494,680 $ 495,751
========= =========
Liabilities and Stockholders' Equity:
Noninterest-bearing demand deposit accounts ................................. $ 12,062 $ 12,906
Interest-bearing demand deposit accounts .................................... 35,369 30,780
Money market deposit accounts ............................................... 51,725 48,189
Savings accounts ............................................................ 35,182 36,754
Time deposits ............................................................... 216,182 213,817
--------- ---------
Total deposits ........................................................... 350,520 342,446
Borrowed money .............................................................. 52,119 58,981
Deferred compensation ....................................................... 5,629 6,165
Other liabilities ........................................................... 978 490
--------- ---------
Total liabilities ........................................................ 409,246 408,082
Common stock, $0.01 par value, 20,000,000 shares authorized, 9,062,727
shares issued and outstanding at March 31, 2004 and December 31, 2003 .... 91 91
Additional paid-in-capital .................................................. 68,280 68,280
Unallocated common stock held by Employee Stock Ownership Plan .............. (1,933) (1,979)
Retained earnings, substantially restricted ................................. 29,280 28,824
Accumulated unrealized gain on securities available-for-sale, net of tax .... 337 (40)
Unearned compensation related to Recognition and Retention Plan ............. (1,793) (1,979)
Treasury stock of 631,343 shares at March 31, 2004, and 392,414 shares
at December 31, 2003, at cost ............................................ (8,828) (5,528)
--------- ---------
Total stockholders' equity ............................................... 85,434 87,669
--------- ---------
Total liabilities and stockholders' equity ............................... $ 494,680 $ 495,751
========= =========
See accompanying notes to consolidated financial statements.
1
Citizens South Banking Corporation
Consolidated Statements of Operations (unaudited)
(dollars in thousands, except per share data)
Three Months
Ended March 31,
------------------
2004 2003
---- ----
Interest Income:
Loans ....................................................... $ 3,872 $ 4,469
Investment securities ....................................... 485 418
Interest-bearing deposits ................................... 20 88
Mortgage-backed and related securities ...................... 778 928
---------- ----------
Total interest income ..................................... 5,155 5,903
Interest Expense:
Deposits .................................................... 1,426 1,741
Borrowed funds .............................................. 445 587
---------- ----------
Total interest expense .................................... 1,871 2,328
Net interest income ......................................... 3,284 3,575
Provision for loan losses ................................... 30 15
---------- ----------
Net interest income after provision for loan losses ....... 3,254 3,560
Noninterest Income:
Fee income on deposit accounts .............................. 603 557
Income on mortgage brokerage and other lending activities ... 102 267
Dividends on FHLB stock ..................................... 23 31
Gain on sale of assets ...................................... 290 14
Other noninterest income .................................... 308 235
---------- ----------
Total noninterest income .................................. 1,326 1,104
Noninterest Expense:
Compensation and benefits ................................... 1,810 1,519
Occupancy and equipment expense ............................. 376 325
Professional services ....................................... 131 121
Amortization of intangible assets ........................... 111 146
Loss on sale of assets ...................................... 0 10
Other noninterest expenses .................................. 769 662
---------- ----------
Total noninterest expense ................................. 3,197 2,783
Income before income taxes .................................. 1,383 1,881
Provision for income taxes .................................. 412 674
---------- ----------
Net income .................................................. $ 971 $ 1,207
========== ==========
Basic earnings per share .................................... $ 0.12 $ 0.14
Diluted earnings per share .................................. $ 0.12 $ 0.14
Basic average common shares outstanding ..................... 8,268,233 8,757,664
Diluted average common shares outstanding ................... 8,342,431 8,920,531
See accompanying notes to consolidated financial statements.
2
Citizens South Banking Corporation
Consolidated Statements of Comprehensive Income (unaudited)
(dollars in thousands)
Three Months Ended
March 31,
---------------------
2004 2003
-------- --------
Net income ............................................................... $ 971 $ 1,207
Other comprehensive income, net of tax:
Unrealized gains on securities available for sale:
Unrealized holding gains (losses) arising during period .......... 563 (297)
Reclassification adjustment for (gains) included in net income ... (186) (2)
-------- --------
Other comprehensive income ........................................... 377 (299)
-------- --------
Comprehensive income ..................................................... $ 1,348 $ 908
-------- --------
See accompanying notes to consolidated financial statements.
3
Citizens South Banking Corporation
Consolidated Statements of Changes in Stockholders' Equity (unaudited)
(dollars in thousands)
Three Months Ended
March 31,
---------------------
2004 2003
-------- --------
Common stock:
At beginning of period ...................................................... $ 91 $ 91
Issuance of common stock .................................................... 0 0
-------- --------
At end of period ............................................................ 91 91
-------- --------
Additional paid-in-capital:
At beginning of period ...................................................... 68,280 68,176
Allocation from shares purchased with loan from ESOP ........................ 0 3
-------- --------
At end of period ............................................................ 68,280 68,179
-------- --------
Unallocated common stock held by ESOP:
At beginning of period ...................................................... (1,979) (2,162)
Allocation from shares purchased with loan from ESOP ........................ 46 46
-------- --------
At end of period ............................................................ (1,933) (2,116)
-------- --------
Retained earnings, substantially restricted:
At beginning of period ...................................................... 28,824 28,739
Net income .................................................................. 971 1,207
Cash dividends declared on common stock ..................................... (515) (544)
-------- --------
At end of period ............................................................ 29,280 29,402
-------- --------
Accumulated unrealized gain on securities available for sale, net of tax:
At beginning of period ...................................................... (40) 1,538
Other comprehensive results, net of tax ..................................... 377 (299)
-------- --------
At end of period ............................................................ 337 1,239
-------- --------
Unearned compensation related to Recognition and Retention Plan:
At beginning of period ...................................................... (1,979) 0
Vesting of stock grants ..................................................... 186 0
-------- --------
At end of period ............................................................ (1,793) 0
-------- --------
Treasury Stock:
At beginning of period ...................................................... (5,528) 0
Repurchase of common stock .................................................. (3,300) 0
-------- --------
At end of period ............................................................ (8,828) 0
-------- --------
See accompanying notes to consolidated financial statements.
4
Citizens South Banking Corporation
Consolidated Statements of Cash Flows (unaudited)
(dollars in thousands)
Three Months Ended
March 31,
---------------------
2004 2003
-------- --------
Cash flows from operating activities:
Net income .......................................................................... $ 971 $ 1,207
Adjustments to reconcile net income to net cash provided by operating activities:
Provision for loan losses ....................................................... 30 15
Depreciation .................................................................... 207 161
Gain on sale of investments, available for sale ................................. (290) (3)
Gain on sale of other assets .................................................... 0 (1)
Purchase of bank-owned life insurance ........................................... 0 (3,000)
Deferred loan origination fees .................................................. (9) (37)
Allocation of shares to the ESOP ................................................ 46 46
(Increase) decrease in accrued interest receivable .............................. 200 (194)
Amortization of intangible assets ............................................... 111 146
Decrease in other assets ........................................................ 850 50
Decrease in other liabilities ................................................... (105) (72)
-------- --------
Net cash provided by (used for) operating activities .......................... 2,011 (1,682)
Cash flows from investing activities:
Net decrease in loans receivable .................................................... 1,765 637
Proceeds from the sale of investment securities ..................................... 1,258 2,000
Proceeds from the sale of mortgage-backed securities ................................ 6,432 525
Proceeds from the sale of other assets .............................................. 25 1,040
Maturities and prepayments of investment securities ................................. 9,375 2,086
Maturities and prepayments of mortgage-backed securities ............................ 4,323 3,556
Purchases of investments ............................................................ (3,325) (3,850)
Purchases of mortgage-backed securities ............................................. 0 (27,443)
(Purchase) sale of FHLB stock ....................................................... 365 (185)
Capital expenditures for premises and equipment ..................................... (1,312) (2,857)
-------- --------
Net cash provided by (used for) investment activities ......................... 18,906 (24,491)
Cash flows from financing activities:
Net increase in deposits ............................................................ 8,074 3,002
Dividends paid to stockholders ...................................................... (515) (544)
Repurchase of common stock .......................................................... (3,300) 0
Net increase (decrease) in borrowed money ........................................... (6,862) 5,322
Increase in advances from borrowers for insurance and taxes ......................... 244 240
-------- --------
Net cash provided by (used for) financing activities .......................... (2,359) 8,020
Net increase (decrease) in cash and cash equivalents .................................. 18,558 (18,153)
Cash and cash equivalents at beginning of period ...................................... 8,214 46,999
-------- --------
Cash and cash equivalents at end of period ............................................ $ 26,772 $ 28,846
======== ========
See accompanying notes to consolidated financial statements.
5
CITIZENS SOUTH BANKING CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
Note 1 - Basis of Presentation
In management's opinion, the accompanying consolidated financial
statements, which are unaudited, reflect all adjustments, consisting solely of
normal recurring accruals, necessary for a fair presentation of the financial
information as of and for the three-month periods ended March 31, 2004 and 2003,
in conformity with accounting principles generally accepted in the United States
of America. Results for the three months ended March 31, 2004, are not
necessarily indicative of the results that may be expected for the year ending
December 31, 2004.
The consolidated financial statements include the accounts of Citizens
South Banking Corporation (the "Company") and the Company's wholly-owned
subsidiary, Citizens South Bank (the "Bank").
The organization and business of the Company, accounting policies
followed, and other related information are contained in the notes to the
consolidated financial statements of the Company as of December 31, 2003 and
2002, and for the years ended December 31, 2003, 2002, and 2001, filed as part
of the Company's annual report on Form 10-K. These consolidated financial
statements should be read in conjunction with the annual consolidated financial
statements.
The Company's critical accounting policy relates to the evaluation of the
allowance for loan losses, which is based on management's opinion of an amount
that is adequate to absorb losses in the Company's existing portfolio. The
allowance for loan losses is established through a provision for loan losses
based on available information including the composition of the loan portfolio,
historical loan losses, specific impaired loans, availability and quality of
collateral, age of the various portfolios, changes in local economic conditions,
and loan performance and quality of the portfolio. Different assumptions used in
evaluating the adequacy of the Company's allowance for loan losses could result
in material changes in the Company's consolidated financial condition or
consolidated financial results of operations. The Company's policies with
respect to the methodology for determining the allowance for loan losses involve
a higher degree of complexity and require management to make subjective
judgments that often require assumptions or estimates about uncertain matters.
These critical policies and their assumptions are periodically reviewed with the
Board of Directors.
In accordance with the Statement of Financial Accounting Standards
("SFAS") No. 123, Accounting for Stock-Based Compensation, as amended by SFAS
No. 148, Accounting for Stock-Based Compensation - Transition and Disclosure -
An Amendment of FASB Statement No. 123, the Company has adopted the
disclosure-only option and elected to apply the provisions of APB No. 25 for
financial statement purposes. As such, no stock-based employee compensation cost
is reflected in net income for the Company's stock option plans.
Pro forma information regarding net income and earnings per share have
been determined as if the Company had accounted for its employee stock options
using the fair value method, and is presented in the following table.
6
Three Months ended
March 31
---------------------
2004 2003
---- ----
Net income (in thousands):
As reported .................................................... $ 971 $ 1,207
Deduct: Total stock-based employee compensation
cost determined under the fair value method, net of tax .... 12 7
-------- --------
Pro forma ...................................................... $ 959 $ 1,200
-------- --------
Basic earnings per share:
As reported .................................................... $ 0.12 $ 0.14
Pro forma ...................................................... $ 0.12 $ 0.14
Diluted earnings per share:
As reported .................................................... $ 0.12 $ 0.14
Pro forma ...................................................... $ 0.11 $ 0.13
The fair value of each option grant is estimated on the date of the grant
using the Black-Scholes option-pricing model with the following weighted average
assumptions used for the three-month periods ended March 31, 2004 and 2003:
dividend yield of 2.0%, expected volatility of 30%, risk-free investment rate of
3.5%, and expected lives of 7 years.
Note 2 - Use of Estimates
The financial statements are prepared in accordance with accounting
principles generally accepted in the United States of America which require
management to make estimates and assumptions that affect the amounts reported in
the financial statements and accompanying notes. Actual results could differ
from those estimates.
Note 3 - Earnings per Share
Earnings per share has been determined under the provisions of SFAS No.
128, Earnings Per Share. The only potential stock of the Company, as defined in
SFAS No. 128, Earnings Per Share, is stock options granted to various directors
and officers of the Bank. The following is a summary of the diluted earnings per
share calculation for the three months ended March 31, 2004 and 2003 (dollars in
thousands, except share and per share data):
Three Months Ended
March 31,
------------------
2004 2003
---- ----
Net income ..................................... $ 971 $ 1,207
Weighted average outstanding shares ............ 8,268,233 8,757,664
Dilutive effect of stock options ............... 74,198 162,867
---------- ----------
Weighted average diluted shares ................ 8,342,431 8,920,531
Diluted earnings per share ..................... $ 0.12 $ 0.14
7
Note 4 - Dividend Declaration
On April 19, 2004, the Board of Directors of the Company approved and
declared a regular cash dividend of six and one-half cents per share of common
stock to shareholders of record as of May 1, 2004, and payable on May 15, 2004.
Note 5 - Stock Repurchase Program
On October 20, 2003, the Board of Directors of the Company authorized the
repurchase of up to 879,900 shares, or approximately 10% of the Company's
outstanding common stock. The stock repurchase program may be carried out
through open market purchases, block trades, and negotiated private
transactions. The stock may be repurchased on an ongoing basis and will be
subject to the availability of stock, general market conditions, the trading
price of the stock, alternative uses for capital, and the Company's financial
performance. As of March 31, 2004, management had repurchased a total of 595,235
shares at an average price of $14.16 per share and had 284,665 shares remaining
to be repurchased under this plan. Management will consider repurchasing
additional shares of common stock of the Company at prices that are considered
to be attractive and in the best interests of both the Company and its
investors. A previously authorized repurchase program of 343,027 shares, or 3.8%
of outstanding shares, was completed in September 2003. Any repurchased shares
will be held as treasury stock and will be available for general corporate
purposes.
Note 6 - Impact of Recently Issued Accounting Standards
In March 2004, the Securities and Exchange Commission issued Staff
Accounting Bulletin No. 105, Application of Accounting Principles to Loan
Commitments. This Staff Accounting Bulletin summarizes the views of the staff
regarding the application of accounting principles generally accepted in the
United States of America to loan commitments accounted for as derivative
instruments. The provisions of this Staff Accounting Bulletin are effective
after March 31, 2004. The Company does not expect that the adoption of this
Staff Accounting Bulletin will have a material impact on the consolidated
financial statements of the Company.
8
ITEM 2. Management's Discussion and Analysis of Financial Condition and Results
of Operations
Forward Looking Statements
From time to time, the Company may publish forward looking statements
relating to such matters as anticipated financial performance, business
prospects, technological developments, new products, and similar matters. The
Private Securities Litigation Reform Act of 1995 provides a safe harbor for
forward looking statements provided that the Company notes that a variety of
factors could cause the Company's actual results to differ materially from the
anticipated results expressed in the Company's forward looking statements.
Factors that may cause actual results to differ materially from those projected
in the forward looking statements include, but are not limited to, general
economic conditions that are less favorable than expected, changes in market
interest rates that result in reduced interest margins, risks in the loan
portfolio, including prepayments, are greater than expected, legislation or
regulatory changes that have a less than favorable impact on the business of the
Company are enacted, and competitive pressures increase significantly.
Statements included in this report should be read in conjunction with the
Company's Annual Report on Form 10-K, which is incorporated into this discussion
by this reference. Forward looking statements speak only as of the date they are
made and the Company does not undertake to update forward looking statements to
reflect circumstances or events that occur after the date of the forward looking
statements or to reflect the occurrence of unanticipated events. Accordingly,
past results and trends should not be used by investors to anticipate future
results or trends.
Comparison of Financial Condition
Assets. Total assets of the Company decreased by $1.1 million, or 0.2%,
from $495.8 million as of December 31, 2003, to $494.7 million as of March 31,
2004. This decrease was primarily due to the repurchase of $3.3 million of
Company common stock. The Company experienced an $18.6 million increase in cash
and cash equivalents to $26.8 million from December 31, 2003 to March 31, 2004.
During the three-month period, the Company sold $6.4 million in mortgage-backed
securities and $1.3 million in investment securities in order to reduce the
Company's level of interest rate risk and to generate gains to offset the
expense from the vesting of a portion of the shares of stock issued by the
Company's Recognition and Retention Plan approved by shareholders in 2003. Also,
during the period, the Company had $9.4 million in investments that either
matured or were called, the effects of which were offset by purchases of $3.3
million. This resulted in a $7.0 million, or 12.4%, decrease in investment
securities to $49.2 million. The Company also received an additional $4.3
million in principal payments on mortgage-backed securities resulting in a $10.2
million, or 11.4%, decrease in mortgage-backed securities to $79.0 million.
Management expects to use this excess liquidity to repurchase common stock, to
increase origination of loans for portfolio, and to purchase short-term
investment and mortgage-backed securities.
Outstanding loans were relatively flat during the period, despite an
increase in loan prepayments in the first quarter of 2004 as compared to the
fourth quarter of 2003. During this period outstanding loans decreased by $1.8
million, or 0.6%, to $293.2 million. There were no major changes in the loan
composition mix from December 31, 2003, to March 31, 2004. Management will
continue to seek to grow the commercial and consumer loan portfolios in a safe
and sound manner with an emphasis on adjustable-rate loans or shorter-term fixed
rate loans.
Allowance for loan losses and nonperforming assets. The Company has
established a systematic methodology for determining the adequacy of the
allowance for loan losses. This methodology is set forth in a formal policy and
considers all loans in the portfolio. Specific allowances are established for
certain individual
9
loans that management considers impaired. The remainder of the portfolio is
segmented into groups of loans with similar risk characteristics for evaluation
and analysis. Management's periodic evaluation of the allowance is consistently
applied and based on inherent losses in the portfolio, past loan loss
experience, risks inherent in the different types of loans, the estimated value
of any underlying collateral, current economic conditions, the borrower's
financial position, and other relevant internal and external factors that may
affect loan collectibility. The allowance for loan losses is increased by
charging provisions for loan losses against income. As of March 31, 2004, the
allowance for loan losses amounted to $3.0 million. Management believes that
this amount meets the requirement for losses on loans that management considers
to be impaired, for known losses, and for incurred losses inherent in the
remaining loan portfolio. Although management believes that it uses the best
information available to make such determinations, future adjustments to the
allowance for loan losses may be necessary and results of operations could be
significantly adversely affected if circumstances differ substantially from the
assumptions used in making the determinations. The following table presents an
analysis of changes in the allowance for loan losses for the periods and
information with respect to nonperforming assets at the dates indicated.
At and For the Three
Months Ended March 31,
----------------------
2004 2003
---- ----
(dollars in thousands)
Allowance for loan losses:
Beginning of period ................................ $2,969 $2,995
Add:
Provision for loan losses ...................... 30 15
Recoveries ..................................... 1 2
Less:
Charge-offs .................................... 2 12
------ ------
End of period ...................................... $2,998 $3,000
Nonaccrual loans ................................... $ 513 $ 570
Real estate owned .................................. 24 240
------ ------
Nonperforming assets ............................... $ 537 $ 810
Allowance for loan losses as a
percentage of total loans ..................... 1.00% 0.99%
Nonperforming loans to
total loans ................................... 0.17% 0.19%
Nonperforming assets to
total assets ................................. 0.11% 0.16%
Liabilities. Total liabilities increased by $1.2 million, or 0.3%, from
$408.0 million as of December 31, 2003, to $409.2 million as of March 31, 2004.
This increase was primarily due to an $8.1 million increase in total deposits,
the effects of which were partly offset by a $6.9 million decrease in borrowed
money. Core deposit growth (checking accounts, savings accounts, and money
market accounts) was strong during the three-month period, increasing by $5.7
million, or 4.4%, to $134.3 million. This was primarily due to an aggressive
marketing campaign directed at increasing the Company's number of checking
account customers. Management will continue to focus on increasing the Company's
core deposits in both the retail and commercial sectors. Time deposits increased
during the three-month period by $2.4 million, or 1.1%, to
10
$216.2 million. During the three-month period, the Company reduced its
outstanding borrowed by $6.9 million. This reduction was primarily due to the
repayment of Federal Home Loan Bank daily rate advances that were used to fund
an increase in loan demand at the end of 2003. These Federal Home Loan Bank
advances were repaid from proceeds received from the increase in local deposits.
Stockholders' Equity. Total stockholders' equity decreased by $2.2
million, or 2.5%, from $87.6 million as of December 31, 2003, to $85.4 million
as of March 31, 2004. The decrease in stockholders' equity was primarily due to
the repurchase of 242,000 shares of common stock for $3.3 million, at an average
cost of $13.64 per share. On October 20, 2003, the Company announced that the
Board of Directors had authorized the repurchase of 879,900 shares, or
approximately 10.0% of the Company's outstanding common stock. As of March 31,
2004, management had repurchased a total of 595,235 shares at an average price
of $14.16 per share and had 284,665 shares remaining to be repurchased under
this plan. Management will consider repurchasing additional shares of common
stock of the Company at prices that are considered to be attractive and in the
best interests of both the Company and its investors. In addition, the Company
paid cash dividends totaling $515,000 during the three-month period,
representing $0.06 per share. These decreases in equity were partially offset by
$971,000 in earnings and a $377,000 increase in unrealized gains on available
for sale securities during the period.
Comparison of Results of Operations for the Three Months Ended March 31, 2004
and 2003
General. Net income for the Company for the three months ended March 31,
2004, amounted to $971,000, or $0.12 per diluted share, as compared to $1.2
million, or $0.14 per diluted share, for the three months ended March 31, 2003.
Net interest income. Net interest income decreased by $291,000, or 8.1%,
to $3.3 million for the three months ended March 31, 2004. Interest income
decreased by $748,000, or 12.7%, primarily as a result of a 56 basis point, or
10.6%, decrease in the average yield on earning assets to 4.74%. The decrease in
yield was primarily due to a 50 basis point decrease in the prime lending rate
during the second quarter of 2003. In addition, the average outstanding balance
of interest earning assets decreased by $13.4 million, or 3.0%, to $439.7
million. This decrease in average interest earning assets related to the
Company's funding of the repurchase of $13.1 million stock. Interest expense
decreased by $457,000, or 19.6%, during the period. This reduction in interest
expense was due to a 56 basis point, or 22.2%, reduction in the average cost of
funds to 1.96%. This decrease in the cost of funds was partially offset by an
$8.1 million, or 2.2%, increase in the average balance of interest-bearing
liabilities to $383.0 million. Average interest-bearing liabilities increased
primarily as a result of an $11.5 million increase in average core deposits
(checking accounts, savings accounts, and money market accounts) and a $3.2
million increase in average borrowed money. These balances were partly offset by
a $6.6 million decrease in average time deposits. The net interest margin for
the Company was 2.68% for the quarter ended March 31, 2004, compared to 2.88%
for the quarter ended March 31, 2003. This decrease was primarily the result of
an increased level of mortgage loan refinancings in 2003 and decreases in the
yield on prime-based consumer and commercial loans.
Provision for loan losses. The provision for loan losses amounted to
$30,000 for the three months ended March 31, 2004, compared to $15,000 for the
three months ended March 31, 2003. As a result, the allowance for loan losses
has remained stable at $3.0 million, or 1.00% of total loans, as of March 31,
2004, compared to 0.99% as of March 31, 2003. While the Company continued to
emphasize commercial and consumer loans, in addition to residential mortgage
loans, the Company's ratio of nonperforming loans to total loans remains below
our peer group average, at 0.17% of total loans on March 31, 2004, compared to
0.19% of total loans on March 31, 2003.
11
Noninterest income. Noninterest income increased to $1.3 million for the
three months ended March 31, 2004, as compared to $1.1 million for the three
months ended March 31, 2003. This represented an increase of $222,000, or 20.1%.
This increase was partly due to a $46,000, or 8.3%, increase in fee income n
deposit accounts and a $73,000, or 31.1%, increase in other income. Fee income
on deposits improved due to an increased number of deposit customers and
increased deposit balances. Management has focused on growing the number of
deposit customers and increasing the number of banking products used by existing
customers. The increase in other income was primarily due to a $45,000 increase
in the cash value of bank-owned life insurance, resulting from the purchase of
an additional $3.0 million in bank-owned life insurance in 2003. Fee income from
mortgage brokerage and other lending activities decreased by $165,000, or 61.8%
due to lower levels of residential loan originations during the first quarter of
2004. Management expects that the level of residential loan originations in 2004
will be significantly less than the level experienced in 2003.
During the quarter ended March 31, 2004, the Company recognized a gain of
$290,000 resulting from the sale of $1.3 million in investment securities and
$6.4 million in mortgage-backed securities. The purpose of the sale was to
offset the expense from the vesting of a portion of the shares of stock issued
by the Company's Recognition and Retention Plan approved by the shareholders in
2003 and to reduce the Company's level of interest rate risk. During the quarter
ended March 31, 2003, the Company recognized a gain of $14,000 resulting from
the sale of $2.0 million in investment securities.
Noninterest expense. Noninterest expense amounted to $3.2 million for the
quarter ended March 31, 2004, compared to $2.8 million for the quarter ended
March 31, 2003, representing an increase of $414,000, or 14.9%. This increase
was partly due to the expense from the vesting of a portion of the stock issued
by the Company's Recognition and Retention Plan resulting in a $291,000, or
19.2%, increase in compensation. This expense was offset by a $290,000 gain on
sale of investments. Also, occupancy and equipment expense increased by $51,000,
or 15.7%, due, in part, to the opening of the Company's tenth full-service
office in the second quarter of 2003. The Company plans to relocate an existing
office and consolidate its backoffice functions in the second quarter of 2004,
which may result in additional occupancy expenses. Professional services
increased by $10,000, or 8.3%, due to additional outside services being needed
to ensure proper corporate governance in light of new regulatory requirements.
Also, other noninterest expenses increased by $107,000, or 16.2%. The primary
reason for the increase was additional advertising expenses of $59,000, or
82.3%, resulting from marketing campaigns directed at increasing the Company's
core deposits. These increases were partially offset by a $35,000, or 24.0%,
reduction in the amortization of intangible assets.
Income taxes. Income taxes amounted to $412,000, or 29.8% of taxable
income, for the quarter ended March 31, 2004, as compared to $674,000, or 35.8%
of taxable income, for the quarter ended March 31, 2003. This reduction in
income taxes is primarily due to a $498,000 decrease in net income before taxes.
The reduction in the estimated effective rate was due to an increase in earnings
from tax-advantaged assets.
Liquidity, Market Risk, and Capital Resources
The objectives of the Company's liquidity management policy include
providing adequate funds to meet the cash needs of both borrowers and
depositors, to provide for the on-going operations of the Company, and to
capitalize on opportunities for expansion. Liquidity management addresses the
Company's ability to meet deposit withdrawals on demand or at contractual
maturity, to repay borrowings as they mature, and to fund new loans and
investments as opportunities arise. The primary sources of internally generated
funds are principal and interest payments on loans receivable, increases in
local deposits, cash flows generated from operations, and cash flows generated
by investments. If the Company requires funds
12
beyond its internal funding capabilities, it may rely upon external sources of
funds such in brokered deposits and Federal Home Loan Bank ("FHLB") advances.
The Company has $71.9 million in additional advances available from its line of
credit from the FHLB. The FHLB functions as a central reserve bank providing
credit for member financial institutions. As a member of the FHLB, we are
required to own capital stock in the FHLB and we are authorized to apply for
advances on the security of such stock and certain of our mortgage loans and
other assets (principally securities that are obligations of, or guaranteed by,
the U.S. Government) provided certain creditworthiness standards have been met.
Advances are made pursuant to several different credit programs. Each credit
program has its own interest rate and range of maturities. Depending on the
program, limitations on the amount of advances are based on the financial
condition of the member institution and the adequacy of collateral pledged to
secure the credit. The Company may also solicit brokered deposits for providing
funds for asset growth; however, to date, the Company has not used such deposits
to supplement its liquidity position.
In the normal course of business, various commitments are outstanding that
are not reflected in the consolidated financial statements. Commitments to
extend credit and undisbursed advances on customer lines of credit are
agreements to lend to a customer as long as there is no violation of any
condition established in the contract. The funding of these commitments and
previously approved undisbursed lines of credit could effect the Company's
liquidity position. At March 31, 2004, the Company had loan commitments of $14.3
million and unused lines of credit of $75.9 million. The Company believes that
it has adequate resources to fund loan commitments and lines of credit as they
arise. The Company does not have any special purpose entities or other similar
forms of off-balance sheet financing.
The Company's most significant form of market risk is interest rate risk,
as the Company's assets and liabilities are sensitive to changes in interest
rates. The Company's Asset / Liability Committee ("ALCO") is responsible for
monitoring its level of interest rate risk and ensuring compliance with
Board-adopted limits. There were no changes in the Company's asset or liability
composition that could result in a material change in the Company's analysis of
interest rate sensitivity as discussed in the Company's Annual Report on Form
10-K for the year ended December 31, 2003.
The Bank is subject to various regulatory capital requirements
administered by the banking regulatory agencies. As of March 31, 2004, Citizens
South Bank's level of capital exceeded all applicable regulatory requirements.
Citizens South Bank's Tier I capital was $62.5 million, or 12.9% of adjusted
total assets. The minimum Tier I capital ratio is 4.00%. Failure to meet minimum
capital requirements can initiate certain mandatory and possibly discretionary
actions by the regulators that, if undertaken, could have a direct material
effect on the Bank's financial statements. Under capital adequacy guidelines and
the regulatory framework for prompt corrective action, the Bank must meet
specific capital guidelines that involve quantitative measures of the Bank's
assets, liabilities, and certain off-balance sheet items as calculated under
regulatory accounting practices. The Bank's capital amounts and classifications
are subject to qualitative judgments by the regulators about components,
risk-weightings, and other factors.
13
ITEM 3. Quantitative and Qualitative Disclosures About Market Risk
The information required by this item is included above in Item 2,
Management's Discussion and Analysis of Financial Condition and Results of
Operations, under the caption "Liquidity, Market Risk, and Capital Resources."
ITEM 4. Controls and Procedures
Under the supervision and with the participation of the Company's
management, including the Company's Chief Executive Officer and Chief Financial
Officer, the Company has evaluated the effectiveness of the design and operation
of its disclosure controls and procedures (as defined in Rule 13a-15(e) and
15d-15(e) under the Exchange Act) as of the end of the period covered by this
report. Based upon that evaluation, the Chief Executive Officer and Chief
Financial Officer concluded that, as of the end of the period covered by this
report, the Company's disclosure controls and procedures were effective to
ensure that information required to be disclosed in the reports that the Company
files or submits under the Exchange Act is recorded, processed, summarized and
reported, within the time periods specified in the SEC's rules and forms and in
timely alerting them to material information relating to the Company (or its
consolidated subsidiaries) required to be filed in its periodic SEC filings.
There has been no change in the Company's internal control over financial
reporting identified in connection with the quarterly evaluation that occurred
during the Company's last fiscal quarter that has materially affected, or is
reasonably likely to materially affect, the Company's internal control over
financial reporting.
PART II. OTHER INFORMATION
Legal Proceedings
There are various claims and lawsuits in which the Bank is periodically
involved incidental to the Company's business. In the opinion of management, no
material loss is expected from any of such pending claims or lawsuits.
Changes in Securities and Use of Proceeds
During the three month period ended March 31, 2004, the Company
repurchased 242,000 shares of common stock for $3.3 million, at an average cost
of $13.64 per share as detailed in the following table:
- --------------------------------------------------------------------------------------------------------------
Total Number of Shares Maximum Number of Shares that May
Total Number of Average Price Purchased as Part of the be Purchased Under Current
Period Shares Purchased Paid per Share Current Repurchase Plan Repurchase Plan
- --------------------------------------------------------------------------------------------------------------
January 102,500 $13.62 455,735 424,165
- --------------------------------------------------------------------------------------------------------------
February 64,500 $13.66 520,235 359,665
- --------------------------------------------------------------------------------------------------------------
March 75,000 $13.64 595,235 284,665
- --------------------------------------------------------------------------------------------------------------
Total 242,000 $13.64 595,235 284,665
- --------------------------------------------------------------------------------------------------------------
On October 20, 2003, the Company announced that the Board of Directors had
authorized the repurchase of 879,900 shares, or approximately 10.0% of the
Company's outstanding common stock. As of March 31, 2004, management had
repurchased a total of 595,235 shares at an average price of $14.16 per
14
share and had 284,665 shares remaining to be repurchased under this plan.
Management will consider repurchasing additional shares of common stock of the
Company at prices that are considered to be attractive and in the best interests
of both the Company and its investors.
Defaults Upon Senior Securities
Not applicable.
Submission of Matters to a Vote of Security Holders
There were no meetings of the shareholders during the quarter ended March
31, 2004.
Exhibits and Report on Form 8-K.
(a) Exhibits:
31.1 Certification of Chief Executive Officer pursuant to Section 302 of
the Sarbanes-Oxley Act of 2002.
31.2 Certification of Chief Financial Officer pursuant to Section 302 of
the Sarbanes-Oxley Act of 2002.
32.1 Written statement of Chief Executive Officer furnished pursuant to
Section 906 of the Sarbanes-Oxley Act of 2002.
32.2 Written statement of Chief Financial Officer furnished pursuant to
Section 906 of the Sarbanes-Oxley Act of 2002.
(b) The Company filed the following reports on Form 8-K with the SEC during
the quarter ended March 31, 2004:
(1) January 26, 2004: The Company reported that it had issued two press
releases regarding 1) earnings for the quarter and fiscal year ended
December 31, 2003, and 2) the declaration of a $0.06 dividend for
shareholders of record on February 1, 2004.
15
SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934, the
Registrant has duly caused this report to be signed by the undersigned thereunto
duly authorized.
Citizens South Banking Corporation
Date: May 7, 2004 By: /s/ Kim S. Price
--------------------------------------
Kim S. Price
President and Chief Executive Officer
Date: May 7, 2004 By: /s/ Gary F. Hoskins
--------------------------------------
Gary F. Hoskins
Executive Vice President, Chief
Financial Officer and Treasurer
16