UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
Form 10-Q
[X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE
ACT OF 1934 FOR THE QUARTERLY PERIOD ENDED MARCH 31, 2003
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934 FOR THE TRANSITION PERIOD FROM _____ TO _____
Commission File Number: 000-21383
APPALACHIAN BANCSHARES, INC.
(Exact name of registrant as specified in its charter)
Georgia 58-2242407
---------------------- -------------------------------
(State of Incorporation) (IRS Employer Identification No.)
829 Industrial Boulevard
Ellijay, Georgia 30540
(Address of principal executive office)
(706) 276-8000
----------------------------------------------
(Issuer's telephone number, including area code)
No Change
------------------------------------------------------------------------------
(Former name,former address and former fiscal year,if changed since last report)
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 past 12 months (or for such shorter period that the registrant was required
to file such reports), and (2) has been subject to such filing requirements for
the past 90 days.
Yes X No
------- -------
Indicate by check mark whether the registrant is an accelerated filer (as
defined in Exchange Act - Rule 12b-2).
Yes No X
------- -------
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 Outstanding at May 5, 2003; 3,296,376 Shares
Form 10-Q
APPALACHIAN BANCSHARES, INC.
March 31, 2003
TABLE OF CONTENTS
Page No.
Part I. Financial Information
Item 1. Financial Statements (Unaudited)
Consolidated Statements of Financial Condition at March 31, 2003
and December 31, 2002..................................................................... 1
Consolidated Statements of Income For the Three Months Ended March 31,
2003 and 2002............................................................................. 2
Consolidated Statements of Comprehensive Income For the Three Months
Ended March 31, 2003 and 2002............................................................. 3
Consolidated Statements of Cash Flows For the Three Months Ended
March 31, 2003 and 2002................................................................... 4
Notes to Consolidated Financial Statements.................................................. 5
Item 2 Management's Discussion and Analysis of Financial Condition and
Results of Operation...................................................................... 11
Item 3 Quantitative and Qualitative Disclosures about Market Risk.................................. 19
Item 4 Controls and Procedures..................................................................... 22
Part II. Other Information
Item 2 Changes in Securities and Use of Proceeds................................................... 23
Item 6 Exhibits and Reports on Form 8-K............................................................ 23
Signatures
Certification of Periodic Financial Reports
PART I. FINANCIAL INFORMATION
Item 1. Financial Statements
APPALACHIAN BANCSHARES, INC.
CONSOLIDATED STATEMENTS OF FINANCIAL CONDITION
March 31, 2003 (Unaudited) and December 31, 2002
March 31,
2003 December 31,
(Unaudited) 2002
--------------- ----------------
Assets
Cash and due from banks...................................................... $ 14,159,292 $ 14,701,857
Interest bearing deposits with other banks................................... 6,095,996 8,398,840
Federal funds sold........................................................... 9,295,000 7,756,000
--------------- ----------------
Cash and Cash Equivalents............................................. 29,550,288 30,856,697
Securities available-for-sale................................................ 43,459,876 40,374,902
Loans........................................................................ 303,509,719 298,063,055
Allowance for loan losses.................................................... (3,215,948) (3,237,898)
--------------- ----------------
Net Loans............................................................. 300,293,771 294,825,157
Premises and equipment, net.................................................. 8,778,459 8,771,352
Accrued interest............................................................. 2,124,638 2,240,920
Cash surrender value on life insurance....................................... 2,510,536 2,483,243
Intangibles, net............................................................. 2,060,641 2,081,264
Other assets................................................................. 2,658,244 2,390,550
--------------- ----------------
Total Assets.......................................................... $ 391,436,453 $ 384,024,085
=============== ================
Liabilities and Shareholders' Equity
Liabilities
Deposits:
Noninterest-bearing..................................................... $ 20,380,170 $ 21,897,058
Interest-bearing........................................................ 295,904,145 294,385,698
--------------- ----------------
Total Deposits........................................................ 316,284,315 316,282,756
Short-term borrowings..................................................... 8,211,269 5,928,624
Accrued interest.......................................................... 818,951 976,156
Long-term debt............................................................ 38,085,715 34,735,714
Other liabilities......................................................... 531,463 481,546
--------------- ----------------
Total Liabilities..................................................... 363,931,713 358,404,796
--------------- ----------------
Shareholders' Equity
Common stock, par value $0.01 per share, 20,000,000 shares authorized,
3,362,360 shares issued at March 31, 2003,
3,327,160 shares issued at December 31, 2002............................ 33,624 33,272
Paid-in capital........................................................... 17,077,120 16,428,767
Retained earnings......................................................... 11,122,836 10,495,901
Accumulated other comprehensive income: net unrealized
holding gains on securities available-for-sale, net of
deferred income tax..................................................... 315,736 449,050
Treasury stock, at cost (117,150 and 200,553 shares at March 31,
2003 and at December 31, 2002, respectively)............................ (1,044,576) (1,787,701)
--------------- ----------------
Total Shareholders' Equity............................................ 27,504,740 25,619,289
--------------- ----------------
Total Liabilities and Shareholders' Equity............................ $ 391,436,453 $ 384,024,085
=============== ================
See notes to consolidated financial statements
1
APPALACHIAN BANCSHARES, INC.
CONSOLIDATED STATEMENTS OF INCOME
Three Months Ended March 31, 2003 and 2002
(Unaudited)
Three Months Ended
March 31,
---------------------------------
2003 2002
--------------- ----------------
Interest Income
Interest and fees on loans................................................ $ 5,117,698 $ 4,783,523
Interest on investment securities:
Taxable securities...................................................... 307,406 468,826
Nontaxable securities................................................... 179,417 178,155
Interest on deposit in other banks........................................ 24,163 946
Interest on federal funds sold............................................ 16,144 23,958
--------------- ----------------
Total Interest Income................................................. 5,644,828 5,455,408
Interest Expense
Interest on deposits...................................................... 2,034,884 2,400,834
Interest on federal funds purchased and securities sold under
agreements to repurchase................................................ 24,903 12,418
Interest expense on long-term debt........................................ 355,955 476,822
--------------- ----------------
Total Interest Expense................................................ 2,415,742 2,890,074
Net Interest Income.......................................................... 3,229,086 2,565,334
Provision for loan losses.................................................... 360,000 146,000
--------------- ----------------
Net Interest Income After Provision for Loan Losses.......................... 2,869,086 2,419,334
Noninterest Income
Customer service fees..................................................... 188,107 221,017
Insurance commissions..................................................... 40,993 19,242
Mortgage origination fees................................................. 290,299 212,071
Other operating income.................................................... 201,775 148,914
Investment securities gains (losses)...................................... (16,978) 20,434
--------------- ----------------
Total Noninterest Income.............................................. 704,196 621,678
Noninterest Expenses
Salaries and employee benefits............................................ 1,293,693 1,066,417
Occupancy expense......................................................... 156,275 139,987
Furniture and equipment expense........................................... 250,596 211,166
Other operating expenses.................................................. 990,083 677,613
--------------- ----------------
Total Noninterest Expenses............................................ 2,690,647 2,095,183
Income before income taxes................................................... 882,635 945,829
Income tax expense........................................................... 256,000 295,000
--------------- ----------------
Net Income................................................................... $ 626,635 $ 650,829
=============== ================
Earnings Per Common Share
Basic..................................................................... $ 0.20 $ 0.22
Diluted................................................................... 0.19 0.20
Cash Dividends Declared
Per Common Share.......................................................... $ 0.00 $ 0.00
Weighted Average Shares Outstanding
Basic..................................................................... 3,168,149 2,929,292
Diluted................................................................... 3,326,993 3,202,938
See notes to consolidated financial statements
2
APPALACHIAN BANCSHARES, INC.
CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME
Three Months Ended March 31, 2003 and 2002
(Unaudited)
Three Months Ended
March 31,
---------------------------------
2003 2002
--------------- ----------------
Net Income................................................................... $ 626,635 $ 650,829
Other comprehensive income, net of tax:
Unrealized gains on securities:
Unrealized holding gains (losses) arising during the period............. (218,970) (325,655)
Reclassification adjustments for (gains) losses included in net income.. 16,978 (20,434)
--------------- ----------------
Net unrealized gains (losses)........................................... (201,992) (346,089)
Income tax expense related to items of other comprehensive income......... 68,678 117,670
--------------- ----------------
Other comprehensive income (loss)............................................ (133,314) (228,419)
--------------- ----------------
Comprehensive Income......................................................... $ 493,321 $ 422,410
=============== ================
See notes to consolidated financial statements
3
APPALACHIAN BANCSHARES, INC.
CONSOLIDATED STATEMENTS OF CASH FLOWS
Three Months Ended March 31, 2003 and 2002
(Unaudited)
Three Months Ended
March 31,
---------------------------------
2003 2002
--------------- ----------------
Operating Activities
Net income................................................................ $ 626,635 $ 650,829
Adjustments to reconcile net income to net cash provided
by operating activities:
Provision for loan losses............................................... 360,000 146,000
Net depreciation and amortization....................................... 215,473 169,535
Realized investment security losses (gains)............................. 16,978 (20,434)
Decrease in accrued interest receivable................................. 116,282 163,495
Increase in cash surrender value of life insurance...................... (30,289) (27,293)
Decrease in accrued interest payable.................................... (157,205) (202,438)
Other, net.............................................................. (7,716) 135,190
--------------- ----------------
Net Cash Provided by Operating Activities............................. 1,140,158 1,014,884
--------------- ----------------
Investing Activities
Purchase of securities available-for-sale, net............................ (3,084,974) (1,665,243)
Net increase in loans to customers........................................ (6,456,957) (11,439,458)
Capital expenditures, net................................................. (205,671) (443,324)
Proceeds from the disposition of foreclosed real estate................... 275,000 --
--------------- ----------------
Net Cash Used in Investing Activities................................. (9,472,602) (13,548,025)
--------------- ----------------
Financing Activities
Net increase in demand deposits, NOW accounts,
and savings accounts.................................................... 4,074,469 11,240,636
Net increase (decrease) in certificates of deposit........................ (4,072,910) 4,562,776
Net increase in short-term borrowings.................................... 2,282,645 440,277
Proceeds from issuance of common stock.................................... 140,800 351,201
Proceeds from long-term debt, net......................................... 3,350,001 1,366,667
Proceeds from sale of treasury stock...................................... 1,251,030 --
--------------- ----------------
Net Cash Provided by Financing Activities............................. 7,026,035 17,961,557
--------------- ----------------
Net Increase (Decrease) in Cash and Cash Equivalents......................... (1,306,409) 5,428,416
Cash and Cash Equivalents at Beginning of Period............................. 30,856,697 7,558,258
--------------- ----------------
Cash and Cash Equivalents at End of Period................................... $ 29,550,288 $ 12,986,674
=============== ================
Supplemental Disclosures of Cash Flow Information
Cash paid during the period for:
Interest................................................................ $ 2,572,947 $ 3,092,512
Income taxes............................................................ -- 108,000
See notes to consolidated financial statements
4
APPALACHIAN BANCSHARES, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
March 31, 2003
(Unaudited)
Note A - Basis of Presentation
The consolidated financial statements include the accounts of Appalachian
Bancshares, Inc. (the "Company")(a Georgia corporation) and its wholly-owned
subsidiaries: Appalachian Community Bank and Appalachian Information Management,
Inc. ("AIM") (collectively the "Bank"). During 2001, the two previous bank
subsidiaries, Gilmer County Bank and Appalachian Community Bank (formerly known
as First National Bank of Union County) were merged. The surviving bank of
Gilmer County Bank simultaneously changed its name to Appalachian Community
Bank. AIM was formed as a wholly-owned subsidiary of the Bank to provide
in-house data services to the Bank and to offer data processing services to
other institutions; however, AIM's operations ceased on November 12, 2002. All
significant inter-company transactions and balances have been eliminated in
consolidation. Unless otherwise indicated herein, the financial results of the
Company refer to the Company and the Bank on a consolidated basis. The Bank
provides a full range of banking services to individual and corporate customers
in North Georgia and the surrounding areas. The accompanying unaudited
consolidated financial statements have been prepared in accordance with
generally accepted accounting principles for interim financial information and
with the instructions to Form 10-Q and Article 10 of Regulation S-X.
Accordingly, they do not include all of the information and footnotes required
by generally accepted accounting principles for complete financial statements.
In the opinion of management, all adjustments (consisting of normal recurring
accruals) considered necessary for a fair presentation have been included.
Operating results for the three-month period ended March 31, 2003, are not
necessarily indicative of the results that may be expected for the year ending
December 31, 2003.
The consolidated statement of financial condition at December 31, 2002, has
been derived from the audited consolidated financial statements at that date,
but does not include all of the information and footnotes required by generally
accepted accounting principles for complete financial statements.
For further information, refer to the consolidated financial statements for
Appalachian Bancshares, Inc. for the year ended December 31, 2002, and footnotes
thereto, included in the Company's Form 10-K, filed with the Securities and
Exchange Commission on March 31, 2003.
Note B - Critical Accounting Policies
Use of Estimates
The preparation of financial statements in conformity with accounting
principles generally accepted in the United States of America requires
management to make estimates and assumptions that affect the reported amounts of
assets and liabilities and disclosure of contingent assets and liabilities at
the date of the financial statements and the reported amounts of revenues and
expenses during the reporting period. Actual results could differ from those
estimates.
The determination of the adequacy of the allowance for loan losses is based
on estimates that are particularly susceptible to significant changes in the
economic environment and market conditions. In connection with the determination
of the estimated losses on loans, management obtains independent appraisals for
significant collateral. While management uses available information to recognize
losses on loans, further reductions in the carrying amounts of loans may be
necessary based on changes in local
5
APPALACHIAN BANCSHARES, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
March 31, 2003
(Unaudited)
Note B - Critical Accounting Policies - Continued
economic conditions. In addition, regulatory agencies, as an integral part of
their examination process, periodically review the estimated losses on loans.
Such agencies may require the Bank to recognize additional losses based on their
judgments about information available to them at the time of their examination.
Because of these factors, it is reasonably possible that the estimated losses on
loans may change materially in the near term. However, the amount of the change
that is reasonably possible cannot be estimated.
Note C - Income Taxes
The effective tax rates of approximately 29.0 percent and 31.2 percent for
the three months ended March 31, 2003 and 2002, respectively, are less than the
applicable statutory rate due primarily to the effects of tax-exempt income and
general business credits.
Note D - Investment Securities
The Company applies the accounting and reporting requirements of Statement
of Financial Accounting Standards ("SFAS") No. 115, Accounting for Certain
Investments in Debt and Equity Securities. This pronouncement requires that all
investments in debt securities be classified as either "held-to-maturity"
securities, which are reported at amortized cost; "trading" securities, which
are reported at fair value, with unrealized gains and losses included in
earnings; or "available-for-sale" securities, which are reported at fair value,
with unrealized gains and losses excluded from earnings and reported in a
separate component of shareholders' equity (net of deferred tax effect).
At March 31, 2003, the Company had net unrealized gains of $478,387 in
available-for-sale securities which are reflected in the presented assets and
resulted in an increase in shareholders' equity of $315,736, net of deferred tax
benefit. There were no trading securities. The net decrease in shareholders'
equity as a result of the SFAS No. 115 adjustment from December 31, 2002 to
March 31, 2003, was $133,314.
Note E - Segment Information
All of the Company's offices offer similar products and services, are
located in the same geographic region, and serve the same customer segments of
the market. As a result, management considers all units as one operating segment
and therefore feels that the basic financial statements and related footnotes
provide details related to segment reporting.
Note F - Regulatory Filing Status Change
Effective January 1, 2002, the Company is now required to file under
Regulation S-X instead of Regulation S-B. The Company's public float has
exceeded $25,000,000 for the past two consecutive years therefore necessitating
the change in filing status.
6
APPALACHIAN BANCSHARES, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
March 31, 2003
(Unaudited)
Note G - Goodwill
In June 2001, the FASB issued Statement No. 142, Goodwill and Other
Intangible Assets. The statement requires that goodwill and other intangible
assets with indefinite useful lives no longer be amortized, but instead an
entity must perform an assessment of whether these assets are impaired as of the
date of adoption and test for impairment at least annually in accordance with
the provisions of the statement. The statement also required that intangible
assets with determinable lives be amortized. The Company adopted statement 142
on January 1, 2002. The initial assessment of the Company's intangible assets as
of January 1, 2002, indicated that no impairment of values existed at that date.
Acquired goodwill and other intangible assets at March 31, 2003, are
detailed as follows:
As of March 31, 2003
-------------------------------------------------
Gross Net
Carrying Accumulated Carrying
Amount Amortization Amount
-------------- --------------- --------------
Identifiable amortizing assets................................. $ 165,000 $ 96,250 $ 68,750
Nonamortizing goodwill......................................... 2,335,858 343,967 1,991,891
-------------- --------------- --------------
Total acquired intangible asset................................ $ 2,500,858 $ 440,217 $ 2,060,641
============== =============== ==============
Aggregate amortization expense for the three months ended March 31, 2003,
was $20,623. Aggregate annual amortization expense estimated for the years
ending December 31, 2003 and 2004 is $82,500 and $6,875, respectively.
Note H - Stock Options
The Company has long-term incentive stock option plans and an employee
stock purchase plan. The Company accounts for those plans under the recognition
and measurement principles of APB Opinion 25, Accounting for Stock Issued to
Employees, and related interpretations using the intrinsic value based method,
as permitted by Statement of Financial Accounting Standards (SFAS) No. 123,
Accounting for Stock-based Compensation. In December 2002, the FASB issued SFAS
No. 148, Accounting for Stock-Based Compensation - Transition and Disclosure.
This statement amends SFAS No. 123 to provide alternative methods of transition
for an entity that voluntarily changes to the fair value based method of
accounting for stock-based employee compensation. It amends the disclosure
provisions of that Statement to require prominent disclosure about the effects
on reported net income of an entity's accounting policy decisions with respect
to stock-based employee compensation. This Statement also amends APB Opinion No.
28 to require disclosure about those effects in interim financial information.
This Statement is effective for financial statements for fiscal years ending
after December 15, 2002, and for financial reports containing condensed
financial statements for interim periods beginning after December 15, 2002. No
stock-based employee compensation cost is reflected in net income for these
plans.
7
APPALACHIAN BANCSHARES, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
March 31, 2003
(Unaudited)
Note H - Stock Options - Continued
Pro forma information regarding net income and earnings per share is
presented as if the Company had accounted for its employee stock options under
the fair value method, as prescribed by SFAS No. 123. The fair value for these
options was estimated at the dates of grant using the Black-Scholes option
pricing model.
The Black-Scholes option valuation model was developed for use in
estimating the fair value of traded options that have no vesting restrictions
and are fully transferable. In addition, option valuation models require the
input of highly subjective assumptions including the expected stock price
volatility. Because the Company's employee stock options have characteristics
significantly different from those of traded options, and because changes in the
subjective input assumptions can materially affect the fair value estimate, the
existing models do not necessarily provide a reliable single measure of the fair
value of its employee stock options.
The Company has issued incentive stock options to certain key employees of
which 168,500 are outstanding at March 31, 2003, at exercise prices ranging from
$4.00 to $15.00 (the fair market values on the grant dates). These options vest
over a five-year time period at 20% on each anniversary of the grant date and
expire ten years from the grant date.
The Company has also issued nonqualified stock options primarily to
directors of the Company of which 259,400 are outstanding at March 31, 2003, at
an exercise price of $4.00 to $6.00 (the fair market value on the grant dates).
These options vest over a five-year time period at 20% on each anniversary of
the grant date and expire ten years from the grant date.
[The remainder of this page intentionally left blank]
8
APPALACHIAN BANCSHARES, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
March 31, 2003
(Unaudited)
Note H - Stock Options - Continued
The Company's actual and pro forma information follows:
Three Months Ended
March 31, March 31,
-----------------------------------
2003 2002
---------------- -----------------
Net Income
As Reported.................................................................. $ 626,635 $ 650,829
Deduct: Total stock-based employee compensation expense determined
under fair value based method for all awards, net of tax................... 19,209 36,486
---------------- -----------------
Pro forma net income......................................................... $ 607,426 $ 614,343
================ =================
Basic earnings per share:
As Reported.................................................................. $ 0.20 $ 0.22
================ =================
Pro forma.................................................................... $ 0.19 $ 0.21
================ =================
Diluted earnings per share:
As Reported.................................................................. $ 0.19 $ 0.20
================ =================
Pro forma.................................................................... $ 0.18 $ 0.19
================ =================
Note I - Recently Passed Legislation
Sarbanes-Oxley Act of 2002. On July 30, 2002, the Sarbanes-Oxley Act of
2002 (the "Sarbanes-Oxley Act") was adopted, in order to address corporate and
accounting fraud. The Sarbanes-Oxley Act establishes a new accounting oversight
board that will enforce auditing standards and restricts the scope of services
that accounting firms may provide to their public company audit clients. Among
other things, it also (i) requires chief executive officers and chief financial
officers to certify to the accuracy of periodic reports filed with the
Securities and Exchange Commission (the "SEC"); (ii) imposes new disclosure
requirements regarding internal controls, off-balance-sheet transactions, and
pro forma (non-GAAP) disclosures; (iii) accelerates the time frame for reporting
of insider transactions and periodic disclosures by certain public companies;
and (iv) requires companies to disclose whether or not they have adopted a code
of ethics for senior financial officers and whether the audit committee includes
at least one "audit committee financial expert."
9
APPALACHIAN BANCSHARES, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
March 31, 2003
(Unaudited)
Note I - Recently Passed Legislation - Continued
The Sarbanes-Oxley Act requires the SEC, based on certain enumerated
factors, to regularly and systematically review corporate filings. To deter
wrongdoing, the Sarbanes-Oxley Act, (i) subjects bonuses issued to top
executives to disgorgement if a restatement of a company's financial statements
was due to corporate misconduct; (ii) prohibits an officer or director
misleading or coercing an auditor; (iii) prohibits insider trades during pension
fund "blackout periods"; (iv) imposes new criminal penalties for fraud and other
wrongful acts; and (v) extends the period during which certain securities fraud
lawsuits can be brought against a company or its officers.
Note J - Subsequent Events
As previously disclosed in the Company's Form 8-K, filed with the
Securities and Exchange Commission on May 14, 2003, the Board of Directors, on
May 13, 2003, declared a 10% stock dividend (the "Stock Dividend") on each
outstanding share of the Company's common stock, $.01 par value per share (the
"Common Stock"). The Stock Dividend will be distributed on July 1, 2003 to
shareholders of record as of the close of business on May 27, 2003. Further, in
lieu of distributing fractional shares of the Common Stock, created as a result
of the Stock Dividend, the Company will pay to shareholders of record the cash
equivalent of such fractional shares, based on the fair market value of the
Common Stock.
Note K - Commitments and Contingencies
Standby letters of credit are commitments issued by the Company to
guarantee the performance of a customer to a third party. These guarantees are
primarily issued to support public and private borrowing arrangements, including
commercial paper, bond financing and similar transactions, and expire in
decreasing amounts with terms ranging from one to four years. The credit risk
involved in issuing letters of credit is essentially the same as that involved
in extending loan facilities to customers.
The following represents the Company's commitments to extend credit and
standby letters of credit as of March 31, 2003 and December 31, 2002:
Period Ended
March 31, December 31,
-----------------------------------
2003 2002
---------------- -----------------
Commitments to extend credit................................................. $ 41,064,000 $ 35,890,000
Standby and commercial letters of credit..................................... 1,382,000 1,320,000
---------------- -----------------
Total commitments and contingencies.......................................... $ 42,446,000 $ 37,210,000
================ =================
10
APPALACHIAN BANCSHARES, INC.
March 31, 2003
Item 2. Management's Discussion and Analysis of Financial Condition and Results
of Operations
Forward-Looking Statements
Certain of the statements made in this Report, including matters discussed
under the caption "Management's Discussion and Analysis of Financial Condition
and Results of Operations," as well as oral statements made by the Company or
its officers, directors or employees, may constitute forward-looking statements
within the meaning of Section 21E of the Securities Exchange Act of 1934, as
amended (the "Exchange Act"). Such forward-looking statements are based on
Management's beliefs, current expectations, estimates and projections about the
financial services industry, the economy and about the Company and the Bank in
general. The words "expect," "anticipate," "intend," "plan," "believe," "seek,"
"estimate" and similar expressions are intended to identify such forward-looking
statements; however, this Report also contains other forward-looking statements
in addition to historical information. Such forward-looking statements are not
guarantees of future performance and are subject to risks, uncertainties and
other factors that may cause the actual results, performance or achievements of
the Company to differ materially from historical results or from any results
expressed or implied by such forward-looking statements. Such factors include,
without limitation, (i) increased competition with other financial institutions,
(ii) lack of sustained growth in the economy in Gilmer and Union Counties, (iii)
rapid fluctuations in interest rates, (iv) the inability of the Bank (as defined
herein) to maintain regulatory capital standards, and (v) changes in the
legislative and regulatory environment. Many of these factors are beyond the
Company's ability to control or predict, and readers are cautioned not to put
undue reliance on such forward-looking statements. The Company disclaims any
obligation to update or revise any forward-looking statements contained in this
Report, whether as a result of new information, future events or otherwise.
This discussion is intended to assist in an understanding of the Company's
financial condition and results of operations. This analysis should be read in
conjunction with the financial statements and related notes appearing in Item 1
of this Report on Form 10-Q and Management's Discussion and Analysis of
Financial Condition and Results of Operations for the year ended December 31,
2002, appearing in the Company's Form 10-K filed with the Securities and
Exchange Commission on March 31, 2003.
The Company's operations are conducted through the Bank. Management
continuously monitors the financial condition of the Bank in order to protect
depositors, increase retained earnings and protect current and future earnings.
Significant items affecting the Company's financial condition and results of
operations are discussed in detail below.
In August 2002, management decided to discontinue operations of AIM, which
operations ceased on November 12, 2002. Accordingly, the Bank entered into a
data processing agreement with Fiserv Solutions, Inc., whereby the Bank
outsourced those data services previously provided in-house by AIM. AIM has
ceased offering data processing services to other institutions. Management
anticipates that the discontinuance of AIM's operations will not have a material
effect on the Company's operations or financial condition.
11
APPALACHIAN BANCSHARES, INC.
March 31, 2003
FINANCIAL CONDITION
March 31, 2003 compared to December 31, 2002
Loans
Loans comprised the largest single category of the Company's earning assets
at March 31, 2003. Loans, net of unearned income and allowance for loan losses,
were 76.7% of total assets at March 31, 2003. Total net loans were $300,293,771
at March 31, 2003, representing a 1.85% increase from $294,825,157 at December
31, 2002. Loan demand in the local markets has increased due to the current
interest rate environment.
Investment Securities and Other Earning Assets
Investment securities at March 31, 2003, were $43,459,876 compared with
$40,374,902 at December 31, 2002, reflecting a 7.64% increase of $3,084,974.
Federal funds sold were $9,295,000 at March 31, 2003, compared to the December
31, 2002 total of $7,756,000, a 19.8% increase. The investment securities
portfolio is used to make various term investments, to provide a source of
liquidity and to serve as collateral to secure certain government deposits.
Federal funds sold are maintained as a tool in managing the daily cash needs of
the Bank.
Asset Quality
Asset quality is measured by three key ratios. The ratio of the allowance
for loan losses to total nonperforming assets (defined as nonaccrual loans,
loans past due 90 days or greater, restructured loans, nonaccruing securities,
and other real estate) increased from 0.53% at December 31, 2002 to 0.81 at
March 31, 2003. Total non-performing assets at March 31, 2003, were $3.960
million, which consisted of $181 thousand in consumer loans, $209 thousand in
commercial and industrial loans, $2.193 million in loans secured by real estate
and $1.377 thousand of foreclosed real estate. Nonperforming assets at December
31, 2002, were $6.143 million. The ratio of total nonperforming assets to total
assets decreased from 1.60% at December 31, 2002 to 1.01% at March 31, 2003, and
the ratio of nonperforming loans to total loans decreased from 1.73% at December
31, 2002 to 0.85% at March 31, 2003. The decrease in nonperforming assets is due
to loans to, two commercial customers that were identified as "nonperforming"
and were resolved by Management during 2002. Management is closely monitoring
the loan portfolio to identify any potential loan quality issues.
Deposits
Total deposits at March 31, 2003, were $316,284,315, an increase of $1,559
over total deposits of $316,282,756 at year-end 2002. Deposits are the Company's
primary source of funds with which to support its earning assets.
Noninterest-bearing deposits decreased $1,516,888 or 6.93% from year-end 2002 to
$20,380,170 at March 31, 2003, and interest-bearing deposits increased
$1,518,447 or 0.52% during the same period to $295,904,145. Deposit growth
during the first quarter of the year has historically been minimal due to
customers repaying bills for the holiday season and corporations making tax
payments.
12
APPALACHIAN BANCSHARES, INC.
March 31, 2003
Securities Sold Under Agreements To Repurchase
Securities sold under agreements to repurchase totaled $8,211,269 at March
31, 2003, a $2,282,645 increase from the December 31, 2002 total of $5,928,624.
The total of securities sold under agreements to repurchase is associated with
the cash flow needs of the Bank's corporate customers that participate in
repurchase agreements.
Shareholders' Equity
Shareholders' equity increased $1,885,451 from $25,619,289 at December 31,
2002 to $27,504,740 at March 31, 2003. This increase was mainly attributable to
net earnings of $626,635, a decrease of $133,315 in the unrealized gain on AFS
securities, proceeds from the issuance of stock of $140,800 and the sale of
treasury stock for $1,251,030.
Liquidity Management
Liquidity is defined as the ability of a company to convert assets into
cash or cash equivalents without significant loss. Liquidity management involves
maintaining the Bank's ability to meet the day-to-day cash flow requirements of
its customers, whether they are depositors wishing to withdraw funds or
borrowers requiring funds to meet their credit needs. Without proper liquidity
management, the Bank would not be able to perform its primary function as a
financial intermediary and would, therefore, not be able to meet the production
and growth needs of the communities it serves.
The objective of assets and liabilities management is not only to assure
adequate liquidity in order for the Bank to meet the needs of its customer base,
but also to maintain an appropriate balance between interest-sensitive assets
and interest-sensitive liabilities so that the Bank can meet the investment
objectives of the Company's shareholders. Daily monitoring of the sources and
uses of funds is necessary to maintain an acceptable cash position that meets
both requirements. In the banking environment, both assets and liabilities are
considered sources of liquidity funding and both are, therefore, monitored on a
daily basis.
The asset portion of the balance sheet provides liquidity primarily through
loan principal repayments or sales of investment and trading account securities.
Loans that mature in one year or less equaled approximately $187.6 million or
61.8% of the total loan portfolio at March 31, 2003, and investment securities
maturing in one year or less equaled approximately $1.0 million or 2.3% of the
portfolio. Other sources of liquidity include short-term investments such as
federal funds sold.
The liability portion of the balance sheet provides liquidity through
various customers' interest-bearing and noninterest-bearing deposit accounts. At
March 31, 2003, funds were also available through the purchase of federal funds
from correspondent commercial banks from available lines of up to an aggregate
of $16 million. Liquidity management involves the daily monitoring of the
sources and uses of funds to maintain an acceptable cash position.
To maintain and improve its liquidity position, the Bank is a member of the
Federal Home Loan Bank of Atlanta. As a member of the Federal Home Loan Bank,
the Bank is able to improve its ability to manage liquidity and reduce interest
rate risk by having a funding source to match longer-term loans. The Bank's
credit line was approximately $57.6 million as of March 31, 2003. At March 31,
2003, the outstanding balance of Appalachian Community Bank's credit line was
$33,485,715.
13
APPALACHIAN BANCSHARES, INC.
March 31, 2003
Capital Resources
A strong capital position is vital to the continued profitability of the
Company because it promotes depositor and investor confidence and provides a
solid foundation for future growth of the organization.
Term Loan. On April 3, 2002, the Company obtained a $4.6 million term loan
under a Loan and Stock Pledge Agreement and a Promissory Note (collectively, the
"Term Loan") with Crescent Bank and Trust Company. The Company used $4.6 million
of the proceeds of the Term Loan to repay that certain loan and stock pledge
agreement, dated April 3, 2000, previously entered into by and between the
Company and Crescent Bank and Trust Company. At March 31, 2003, the balance on
the Term Loan was $4.6 million. Interest on the outstanding amounts under the
Term Loan is payable quarterly, commencing July 1, 2002, at the prime rate (as
defined in the Promissory Note) less twenty-five (25) basis points. The Company
began making interest payments on July 1, 2002. Principal is due in seven equal
annual installments, each in the amount of $657,000, beginning on April 1, 2003.
The entire outstanding balance of the Term Loan, together with all accrued and
unpaid interest, is due and payable in a final installment on March 31, 2010.
The Term Loan contains certain affirmative and negative covenants, including,
but not limited to, requiring the Company to cause the Bank at all times to
maintain certain minimum capital ratios, and to maintain a minimum ratio of loan
and lease losses to gross loans.
Federal Capital Standards. The Company and the Bank are subject to federal
guidelines mandating minimum risk-based capital requirements. The guidelines
take into consideration risk factors associated with various categories of
assets, both on and off the balance sheet. Under the guidelines, capital
strength is measured in two tiers, which are used in conjunction with
risk-adjusted assets to determine the risk-based capital ratios. The Company's
Tier 1 capital, which consists of common equity, paid-in capital and retained
earnings (less intangible assets), amounted to $25.1 million at March 31, 2003.
Tier 2 capital components include supplemental capital components such as
qualifying allowance for loan losses and qualifying subordinated debt. Tier 1
capital plus the Tier 2 capital components is referred to as Total Capital and
was $28.3 million at March 31, 2003. The Company's percentage ratios as
calculated under regulatory guidelines were 8.18% and 9.22% for Tier 1 and Total
Capital, respectively, at March 31, 2003, matching or exceeding the minimum
ratios of 4% and 8%, respectively.
Another important indicator of capital adequacy in the banking industry is
the leverage ratio. The leverage ratio is defined as the ratio which
shareholders' equity, minus intangibles bears to total assets minus intangibles.
At March 31, 2003, the Company's leverage ratio was 6.61% exceeding the
regulatory minimum requirement of 4%.
DBF Capital Requirement. In addition to the capital standards imposed by
federal banking regulators, the Georgia Department of Banking and Finance (the
"DBF") imposes a 6% primary capital ratio. This standard is calculated as the
ratio of total equity to total assets, each as adjusted for unrealized gains and
losses on securities and allowance for loan losses. At March 31, 2003, the
capital ratio as calculated under the DBF standard for the Bank was 8.66%.
There have been no dividends during 2003 paid by the Bank to the Company.
The Company injected additional capital of $500,000 into the Bank to support
loan growth and strengthen its capital position.
14
APPALACHIAN BANCSHARES, INC.
March 31, 2003
RESULTS OF OPERATIONS
Three months ended March 31, 2003 and 2002
Summary
Net earnings for the three months ended March 31, 2003, were $626,635
compared to net earnings of $650,829 for the same period in 2002. This 3.7%
decrease in net earnings is primarily attributable to the current low interest
rate environment in which the bank currently operates, the expenses associated
with the start up of the Blue Ridge branch and a rise in salary and benefits
expenses. Net interest income increased $663,752 (25.9%) during the first three
months of 2003 as compared to the same period in 2002; noninterest expenses
increased $595,464 (28.4%) during same period, while noninterest income
increased by $82,518 (13.3%). Total interest expense decreased $474,332 (16.4%)
during the first three months of 2003 as compared to the same period in 2002.
Net Interest Income
Net interest income, the difference between interest earned on assets and
the cost of interest-bearing liabilities, is the largest component of the
Company's net income. Revenue from earning assets of the Company during the
three months ended March 31, 2003, increased $189,420 (3.5%) from the same
period in 2002. Interest expense for the three months ended March 31, 2003,
decreased $474,332 or (16.4%) compared to the same period in 2002. The overall
increase in net interest income is a result of the re-pricing of deposits to
match the rapid decline in the prime rate over the past twenty-four months as
well as the repayment of higher rate Federal Home Loan Bank borrowings.
Provision for Loan Losses
The provision for loan losses represents the charge against current
earnings necessary to maintain the allowance for loan losses at a level which
management considers appropriate. This level is determined based upon
management's assessment of current economic conditions, the composition of the
loan portfolio and the levels of nonaccruing and past due loans.
For the three months ended March 31, 2003, the provision for loan losses
was $360,000 compared to $146,000 for the same period in 2002. The increased
provision for loan losses for the three-month period ended March 31, 2003, as
compared to the same period of 2002, are attributable to two commercial
relationships identified as "non-performing". Management is comfortable with the
controls in place to identify potential credit problems and feels that at this
time they have all been identified and properly recognized.
Charge-offs exceeded recoveries by $381,925 for the three months ended
March 31, 2003. The allowance for loan losses as a percent of outstanding loans,
net of unearned income, was 1.06% at March 31, 2003, compared to 1.09% at
year-end 2002.
15
APPALACHIAN BANCSHARES, INC.
March 31, 2003
Noninterest Income
Noninterest income for the three months ended March 31, 2003, was $704,196
compared to $621,678 for the same period in 2002. This increase was primarily
due to the mortgage refinance business related to the current low interest rate
environment.
Noninterest Expenses
Noninterest expenses increased by $595,464 for the quarter ended March 31,
2003, as compared to the same period in 2002. Salaries and employee benefits
increased by $227,276 for the three months ended March 31, 2003, 21.3% higher
than the same period in 2002. Occupancy costs increased by $16,288, furniture
and equipment expense increased by $39,430, and other operating expenses
increased by $312,470 for the first quarter of 2003, as compared to the same
period in 2002.
Additional personnel, wage increases and internal growth accounted for the
higher expenses.
Income Taxes
The Company attempts to maximize its net income through active tax
planning. The provision for income taxes for the three months ended March 31,
2003 was $256,000, a decrease of $39,000 compared to the same period in 2002.
The decline in the provision is associated with the Company's decision to
utilize tax free securities to minimize the liability.
Recently Issued Accounting Standards
In September 2002, the Auditing Standards Board issued SAS No. 98, Omnibus
Statement on Auditing Standards - 2002. This statement revises and amends
several previously issued Statements on Auditing Standards. The changes required
impose enhanced quality controls and audit considerations on a firm of
independent auditors in the conduct of their audit of a company's financial
statements. The additional requirements primarily relate to more descriptive
guidance on the application of auditing procedures, the auditors report and
related disclosures and supplementary information. This SAS No. 98 was effective
upon issuance except for the amendment to SAS No. 70, which is effective for
reports issued on or after January 1, 2003. The impact on the audit of the
Company's consolidated financial statements resulting from the issuance of this
auditing standard was not material.
In October 2002, the FASB issued SFAS No. 147, Acquisitions of Certain
Financial Institutions, an amendment of SFAS No. 72 and 144 and FASB
Interpretation No. 9. Except for transactions between two or more mutual
enterprises, SFAS No. 147 removes acquisitions of financial institutions from
the scope of SFAS No. 72 and Interpretation 9 and requires those transactions be
accounted for in accordance with SFAS No. 141 and 142. SFAS No. 147 also amends
SFAS No. 144 to include in its scope long-term customer-relationship intangible
assets of financial institutions such as depositor and borrower relationship
intangible assets and credit cardholder intangible assets. Consequently, those
intangible assets are subject to the same undiscounted cash flow recoverability
test and impairment loss recognition and measurement provisions that SFAS No.
144 requires for other long-lived assets that are held and used. The provisions
of SFAS No. 72 requiring the intangible recognition and subsequent
16
APPALACHIAN BANCSHARES, INC.
March 31, 2003
amortization of any excess fair value of net liabilities assumed in an
acquisition will no longer apply. SFAS No. 147 is essentially effective as of
October 1, 2002. As a result, the Company adopted SFAS No. 147 on October 1,
2002, with no material impact on the Company's consolidated financial
statements.
In October 2002, the Auditing Standards Board issued SAS No. 99,
Consideration of Fraud in a Financial Statement Audit. This statement supersedes
SAS No. 82 and amends SAS No. 1 and SAS No. 85. SAS No. 99 describes fraud and
its characteristics; discusses the need for auditors to exercise professional
skepticism; requires (as part of planning the audit) that there be a discussion
among the audit team members regarding the risks of material misstatement due to
fraud; and requires auditors to gather information necessary to identify risks
of material misstatement due to fraud. This SAS is effective for audits of
financial statements for periods beginning on or after December 15, 2002. The
impact on the audit of the Company's consolidated financial statements resulting
from the issuance of this auditing standard is not expected to be material.
In November 2002, the Auditing Standards Board issued SAS No. 100, Interim
Financial Information. This statement supersedes SAS No. 71 and establishes
standards on the nature, timing and extent of the procedures to be performed by
an independent accountant when conducting a review of interim financial
information. This SAS is effective for interim periods within fiscal years
beginning after December 15. 2002. The impact on the audit of the Company's
consolidated financial statements resulting from the issuance of this auditing
standard is not expected to be material.
In November 2002, the FASB issued Interpretation No. 45, Guarantor's
Accounting and Disclosure Requirements for Guarantees, Including Indirect
Guarantees of Indebtedness of Others. This interpretation changes the current
practice of accounting for, and the disclosures related to guarantees.
Interpretation No. 45 requires certain guarantees to be recorded at fair value,
which is a change from the current practice of generally only recording a
liability when a loss is probable and reasonably estimable. The interpretation
also requires a guarantor to make new disclosures, even when the likelihood of
making any payments under the guarantee is remote, which is another change from
current practice. The disclosure requirements of this interpretation are
effective for financial statements of interim or annual periods ending after
December 15, 2002. The interpretation's initial recognition and initial
measurement provisions are applicable on a prospective basis to guarantees
issued or modified after December 31, 2002. The guarantor's previous accounting
for guarantees issued prior to the date of Interpretation No. 45 are not to be
revised or restated to reflect the interpretation's provisions. The adoption of
the disclosure requirements of Interpretation No. 45 did not have a material
impact on the Company's consolidated financial statements. The adoption of the
initial recognition and initial measurement provisions of Interpretation No. 45
is not expected to have a material impact on the Company's consolidated
financial statements.
In December 2002, the FASB issued SFAS No. 148, Accounting for Stock-Based
Compensation - Transition and Disclosure. This statement amends SFAS No. 123 to
provide alternative methods of transition for an entity that voluntarily changes
to the fair value based method of accounting for stock-based employee
compensation. It amends the disclosure provisions of that Statement to require
prominent disclosure about the effects on reported net income of an entity's
accounting policy decisions with respect to stock-based employee compensation.
This Statement also amends APB Opinion No. 28 to require disclosure about those
effects in interim financial information. This Statement is effective for
17
APPALACHIAN BANCSHARES, INC.
March 31, 2003
financial statements for fiscal years ending after December 15, 2002 and for
financial reports containing condensed financial statements for interim periods
beginning after December 15, 2002. The adoption of SFAS No. 148 did not have a
material impact on the Company's consolidated financial statements.
In January 2003, the Auditing Standards Board issued SAS No. 101, Auditing
Fair Value Measurements and Disclosures. This statement establishes standards on
auditing the measurement and disclosure of assets, liabilities, and specific
components of equity presented or disclosed at fair value in financial
statements. This SAS is effective for audits of financial statements for periods
beginning on or after June 15, 2003. The impact on the audit of the Company's
consolidated financial statements resulting from the issuance of this auditing
standard is not expected to be material.
In January 2003, the FASB issued FIN 46, which clarifies the application of
Accounting Research Bulletin ("ARB") 51, Consolidated Financial Statements, to
certain entities (called variable interest entities) in which equity investors
do not have the characteristics of a controlling financial interest or do not
have sufficient equity at risk for the entity to finance its activities without
additional subordinated financial support from other parties. The disclosure
requirements of this Interpretation are effective for all financial statements
issued after January 31, 2003. The consolidation requirements apply to all
variable interest entities created after January 31, 2003. In addition, public
companies must apply the consolidation requirements to variable interest
entities that existed prior to February 1, 2003 and remain in existence as of
the beginning of annual or interim periods beginning after June 15, 2003.
Management is currently assessing the impact of FIN 46, and does not expect this
Interpretation to have a material impact to the Consolidated Financial
Statements.
On April 30, 2003, the FASB issued SFAS No. 149, Amendment of Statement 133
on Derivative Instruments and Hedging Activities. SFAS No. 149 amends and
clarifies financial accounting and reporting for derivative instruments,
including certain derivative instruments embedded in other contracts and for
hedging activities under SFAS No. 133, Accounting for Derivative Instruments and
Hedging Activities. The provisions of SFAS No. 149 are effective for fiscal
quarters beginning after June 15, 2003. Management does not believe the
provisions of this standard will have a material impact on results of future
operations.
Recently Passed Legislation
Sarbanes-Oxley Act of 2002. On July 30, 2002, the Sarbanes-Oxley Act of
2002 (the "Sarbanes-Oxley Act") was adopted, in order to address corporate and
accounting fraud. The Sarbanes-Oxley Act establishes a new accounting oversight
board that will enforce auditing standards and restricts the scope of services
that accounting firms may provide to their public company audit clients. Among
other things, it also (i) requires chief executive officers and chief financial
officers to certify to the accuracy of periodic reports filed with the
Securities and Exchange Commission (the "SEC"); (ii) imposes new disclosure
requirements regarding internal controls, off-balance-sheet transactions, and
pro forma (non-GAAP) disclosures; (iii) accelerates the time frame for reporting
of insider transactions and periodic disclosures by certain public companies;
and (iv) requires companies to disclose whether or not they have adopted a code
of ethics for senior financial officers and whether the audit committee includes
at least one "audit committee financial expert."
18
APPALACHIAN BANCSHARES, INC.
March 31, 2003
The Sarbanes-Oxley Act requires the SEC, based on certain enumerated
factors, to regularly and systematically review corporate filings. To deter
wrongdoing, the Sarbanes-Oxley Act, (i) subjects bonuses issued to top
executives to disgorgement if a restatement of a company's financial statements
was due to corporate misconduct; (ii) prohibits an officer or director
misleading or coercing an auditor; (iii) prohibits insider trades during pension
fund "blackout periods"; (iv) imposes new criminal penalties for fraud and other
wrongful acts; and (v) extends the period during which certain securities fraud
lawsuits can be brought against a company or its officers.
Item 3. Quantitative and Qualitative Disclosures About Market Risk
At March 31, 2003, there have been no material changes in information that
would be provided under this Item 3, from the quantitative and qualitative
disclosures about market risk provided in Company's Annual Report on Form 10-K
for the year ended December 31, 2002. Consequently, the information provided in
this Item 3 is the same as that provided in Items 7 and 7A of the Company's
Annual Report on Form 10-K for the year ended December 31, 2002.
Interest Rate Sensitivity Management
Interest rate sensitivity is a function of the repricing characteristics of
the Bank's portfolios of assets and liabilities. These repricing characteristics
are the time frames within which the interest-bearing assets and liabilities are
subject to changes in interest rates, either at replacement or maturity during
the life of the instruments. Sensitivity is measured as the difference between
the volume of assets and liabilities in the Bank's current portfolio that is
subject to repricing in future time periods. The differences are known as
interest rate sensitivity gaps and are usually calculated separately for
segments of time, ranging from zero to thirty days, thirty-one to ninety days,
ninety-one days to one year, one to five years, over five years and on a
cumulative basis.
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19
APPALACHIAN BANCSHARES, INC.
March 31, 2003
The following tables show interest rate sensitivity gaps for these
different intervals as of December 31, 2002.
Interest Rate Sensitivity Analysis
0-30 31-90 90-365 1-5 Over 5
Days Days Days Years Years Total
----------- ----------- ----------- ----------- ----------- -----------
(In thousands, except ratios)
Interest-earning assets (1)
Loans............................ $ 18,574 $ 24,524 $ 101,548 $ 129,561 $ 19,033 $ 293,240
Securities:
Taxable........................ -- 2,127 6,566 8,827 7,541 25,061
Tax-exempt..................... -- -- 104 1,732 13,478 15,314
Time deposits in other banks..... 8,399 -- -- -- -- 8,399
Federal funds sold............... 7,756 -- -- -- -- 7,756
----------- ----------- ----------- ----------- ----------- -----------
34,729 26,651 108,218 140,120 40,052 349,770
----------- ----------- ----------- ----------- ----------- -----------
Interest-bearing liabilities (2)
Demand deposits (3).............. 27,513 27,512 27,512 -- -- 82,537
Savings deposits (3)............. 13,741 13,740 13,740 -- -- 41,221
Time deposits.................... 11,570 23,321 99,494 36,243 -- 170,628
Other short-term borrowings...... 5,929 -- -- -- -- 5,929
Long-term debt................... 2,100 7,150 11,793 8,343 5,350 34,736
----------- ----------- ----------- ----------- ----------- -----------
60,853 71,723 152,539 44,586 5,350 335,051
----------- ----------- ----------- ------------------------ -----------
Interest sensitivity gap............ $ (26,124) $ (45,072) $ (44,321) $ 95,534 $ 34,702 $ 14,719
=========== =========== =========== =========== =========== ===========
Cumulative interest sensitivity gap. $ (26,124) $ (71,196) $ (115,517) $ (19,983) $ 14,719
=========== =========== =========== =========== ===========
Ratio of interest-earning assets to
interest-bearing liabilities..... 0.57 0.37 0.71 3.14 7.49
=========== =========== =========== =========== ===========
Cumulative ratio.................... 0.57 0.46 0.59 0.94 1.04
=========== =========== =========== =========== ===========
Ratio of cumulative gap to total
interest-earning assets.......... (0.07) (0.20) (0.33) (0.06) 0.04
=========== =========== =========== =========== ===========
(1) Excludes nonaccrual loans and securities.
(2) Excludes matured certificates which have not been redeemed by the customer and on which no interest is
accruing.
(3) Demand and savings deposits are assumed to be subject to movement into other deposit instruments in equal
amounts during the 0-30 day period, the 31-90 day period, and the 91-365 day period.
The above table indicates that, in a rising interest rate environment, the
Company's earnings may be adversely affected in the 0-365 day periods where
liabilities will reprice faster than assets. As seen in the preceding table, for
the first 30 days of repricing opportunity, there is an excess of earning
liabilities over interest-bearing assets of approximately $26 million. For the
first 365 days, interest-bearing liabilities exceed earning assets by
approximately $116 million. During this one-year time frame, 85.1% of all
interest-bearing liabilities will reprice compared to 39.6% of all
interest-earning assets. Changes in the mix of earning assets or supporting
liabilities can either increase or decrease the net interest margin without
affecting interest rate sensitivity. In addition, the interest rate spread
between an asset and its supporting liability can vary significantly while the
timing of repricing for both the asset and the liability remain the same, thus
impacting net interest income. It should be noted, therefore, that a matched
interest-sensitive position by itself would not ensure maximum net interest
income.
20
APPALACHIAN BANCSHARES, INC.
March 31, 2003
Management continually evaluates the condition of the economy, the pattern
of market interest rates and other economic data to determine the types of
investments that should be made and at what maturities. Using this analysis,
management from time to time assumes calculated interest rate sensitivity gap
positions to maximize net interest income based upon anticipated movements in
the general level of interest rates.
Market Risk
Market risk is the risk arising from adverse changes in the fair value of
financial instruments due to a change in interest rates, exchange rates and
equity prices. The Company's primary market risk is interest rate risk.
The primary objective of Asset/Liability Management of the Company is to
manage interest rate risk and achieve reasonable stability in net interest
income throughout interest rate cycles. This is achieved by maintaining the
proper balance of rate sensitive earning assets and rate sensitive liabilities.
The relationship of rate sensitive earning assets to rate sensitive liabilities
is the principal factor in projecting the effect that fluctuating interest rates
will have on future net interest income. Rate sensitive earning assets and
interest-bearing liabilities are those that can be repriced to current market
rates within a relatively short time period. Management monitors the rate
sensitivity of earning assets and interest-bearing liabilities over the entire
life of these instruments, but places particular emphasis on the first year and
through three years.
The Company has not experienced a high level of volatility in net interest
income primarily because of the relatively large base of core deposits that do
not reprice on a contractual basis. These deposit products include regular
savings, interest-bearing transaction accounts and money market savings
accounts. Balances for these accounts are reported based on historical repricing
experienced at each bank. However, the rates paid are typically not directly
related to market interest rates, since management has some discretion in
adjusting these rates as market rates change.
The Company uses additional tools to monitor and manage interest rate
sensitivity. One of the primary tools is simulation analysis. Simulation
analysis is the primary method of estimating earnings at risk and capital at
risk under varying interest rate conditions. Simulation analysis is used to test
the sensitivity of the Company's net interest income and shareholders' equity to
both the level of interest rates and the slope of the yield curve. Simulation
analysis accounts for the expected timing and magnitude of assets and liability
cash flows, as well as the expected timing and magnitude of deposits that do not
reprice on a contractual basis. In addition, simulation analysis includes
adjustments for the lag between movements in market interest rates on loans and
interest-bearing deposits. These adjustments are made to reflect more accurately
possible future cash flows, repricing behavior and ultimately net interest
income. The estimated impact on the Company's net interest income before
provision for loan loss sensitivity over a one-year time horizon is shown below.
Such analysis assumes a sustained parallel shift in interest rates and the
Company's estimate of how interest-bearing transaction accounts will reprice in
21
APPALACHIAN BANCSHARES, INC.
March 31, 2003
each scenario. Actual results will differ from simulated results due to timing,
magnitude and frequency of interest rate changes and changes in market
conditions and management's strategies, among other factors.
Percentage Increase
(Decrease) in Interest
Income/Expense Given
Interest Rate Shifts
--------------------------------
Down 200 Up 200
Basis Points Basis Points
-------------- --------------
For the Twelve Months After December 31, 2002
Projected change in:
Interest income .......................................................... (11.43)% 11.57%
Interest expense ......................................................... (12.18) 13.21
-------------- --------------
Net interest income....................................................... (11.04)% 10.70%
============== ==============
Item 4. Controls and Procedures
Evaluation of Disclosure Controls and Procedures
The Company has evaluated the effectiveness of its disclosure controls and
procedures pursuant to Exchange Act Rule 13a-14. The evaluation was performed
under the supervision and with the participation of management, including the
chief executive officer and the chief financial officer, within 90 days prior to
the date of the filing of this quarterly report. Based on this evaluation, the
chief executive officer and chief financial officer have concluded that the
disclosure controls and procedures are effective in ensuring that all material
information required to be disclosed in this quarterly report has been
communicated to them in a manner appropriate to allow timely decisions regarding
required disclosure.
Changes in Internal Controls
Subsequent to the date of the chief executive officer's and the chief
financial officer's evaluation, there were no significant changes in internal
controls or other factors that could significantly affect internal controls,
including any corrective actions with regard to significant deficiencies and
material weaknesses.
22
APPALACHIAN BANCSHARES, INC.
March 31, 2003
PART II - Other Information
Item 2. Changes in Securities and Use of Proceeds
Recent Sales of Unregistered Securities
On December 2, 2002, the Company commenced a private placement offering, to
accredited investors only, of up to 200,000 shares of Common Stock, at an
aggregate offering price of $3,000,000 ($15.00 per share) (the "Offering").
Based on the number of shares initially sold in the Offering, the Company
extended its original termination date from March 3, 2003 to June 2, 2003.
During the three months ended March 31, 2003, the Company sold 83,402 shares of
Common Stock in the Offering, and from the commencement date, through the date
of this report, the Company has sold 150,517 shares of Common Stock in the
Offering.
The Offering is made without the services of an underwriter and without any
advertising or promotion, and sales therein are solicited only by certain of the
Company's executive officers and directors, none of whom has or will receive any
commission or remuneration for their efforts. Further, the securities sold in
the Offering are exempt from registration under the Securities Act of 1933, as
amended (the "Securities Act"), based on the exemption set forth in Rule 506 of
Regulation D, promulgated under the Securities Act, which provides that
registration is not required where, among other things, all of the purchasers in
such an offering are "accredited investors," as that term is defined in Section
2(a)(15) of the Securities Act and Rule 501 of Regulation D. Purchasers of
shares of Common Stock in the Offering are entitled to certain registration
rights with respect to such shares and are subject to certain call rights of the
Company (forms of the applicable Registration Rights Agreement and Call Option
Agreement are filed with this report as Exhibits 10.1 and 10.2, respectively).
Item 6. Exhibits and Reports on Form 8-K
(a) Exhibits. The following Exhibits are filed with this report:
Exhibit No. Exhibit Page
--------- --------------------------------------------------------------------------- ----------
Exhibit No. Exhibit Page
----------- --------------------------------------------------------------------------- -----------
3.1 Articles of Incorporation of the Company (Amended and Restated)
3.2 Amendments to Articles Two, Three, Nine and Eleven of the Bylaws of the
Company
10.1 Form of Registration Rights Agreement, to be entered into in conjunction
with the Company's private placement of Common Stock, which commenced on
December 2, 2002
10.2 Form of Call Option Agreement, to be entered into in conjunction with the
Company's private placement of Common Stock, which commenced on December
2, 2002
11 Computation of Earnings Per Share 24
99.1 Certification pursuant to 18 U.S.C. Section 1350, as adopted pursuant to
Section 906 of the Sarbanes-Oxley Act of 2002 25
(b) Reports on Form 8-K. On March 12, 2003, the Company filed a report on Form 8-K to report,
under Item 5 (Other Events), a press release, announcing record earnings for its fiscal year
ended December 31, 2002, providing a summary of its year-end financial condition, and
providing preliminary notice of its Annual Meeting of Shareholders to be held in late May
2003.
23
Exhibit 11
APPALACHIAN BANCSHARES, INC.
STATEMENT RE: COMPUTATION OF EARNINGS PER SHARE
The following tabulation presents the calculation of basic and diluted earnings
per common share for the three-month periods ended March 31, 2003 and 2002.
Three Months Ended
March 31,
---------------------------------
2003 2002
--------------- ----------------
Basic Earnings Per Share:
Net Income................................................................ $ 626,635 $ 650,829
=============== ================
Earnings on common shares................................................. 626,635 650,829
=============== ================
Weighted average common shares outstanding - basic........................ 3,168,149 2,929,292
=============== ================
Basic earnings per common share........................................... $ 0.20 $ 0.22
=============== ================
Diluted Earnings Per Share:
Net Income................................................................ $ 626,635 $ 650,829
=============== ================
Weighted average common shares outstanding - diluted...................... 3,326,993 3,202,938
=============== ================
Diluted earnings per common share......................................... $ 0.19 $ 0.20
=============== ================
24
APPALACHIAN BANCSHARES, INC.
March 31, 2003
Exhibit 99.1
CERTIFICATION PURSUANT TO 18 U.S.C. SECTION 1350
AS ADOPTED PURSUANT TO SECTION 906 OF THE
SARBANES-OXLEY ACT OF 2002
In connection with the Quarterly Report of Appalachian Bancshares, Inc. (the
"Company") on Form 10-Q for the quarterly period ended March 31, 2003 as filed
with the Securities and Exchange Commission on the date hereof (the "Report"),
the undersigned, Tracy R. Newton, President and Chief Executive Officer of the
Company, and Alan R. May, Chief Financial Officer, do hereby certify, pursuant
to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the
Sarbanes-Oxley Act of 2002, that to the best of our knowledge:
1. The Report fully complies with the requirements of Section 13(a) or 15(d)
of the Securities Exchange Act of 1934; and
2. The information contained in the Report fairly presents, in all material
respects, the financial condition and results of operations of the Company.
Date: May 15, 2003 By: /s/ Tracy R. Newton
-------------------------------------
Tracy R. Newton
President and Chief Executive Officer
Date: May 15, 2003 By: /s/ Alan R. May
-------------------------------------
Alan R. May
Chief Financial Officer
25
SIGNATURES
In accordance with the requirements of the Securities Exchange Act of 1934,
the Company has caused this report to be signed on its behalf by the
undersigned, thereunto duly authorized.
Dated: May 15, 2003
APPALACHIAN BANCSHARES, INC.
By: /s/ Tracy R. Newton
-------------------------------------
Tracy R. Newton
President and Chief Executive Officer
(Duly authorized officer)
By: /s/ Alan R. May
-------------------------------------
Alan R. May
Chief Financial Officer
(Principal financial officer)
26
CERTIFICATION
I, Tracy R. Newton, certify that:
1. I have reviewed this quarterly report on Form 10-Q of Appalachian
Bancshares, Inc.;
2. Based on my knowledge, this quarterly report does not contain any untrue
statement of a material fact or omit to state a material fact necessary to
make the statements made, in light of the circumstances under which such
statements were made, not misleading with respect to the period covered by
this quarterly report;
3. Based on my knowledge, the financial statements, and other financial
information included in this quarterly report, fairly present in all
material respects the financial condition, results of operations and cash
flows of the registrant as of, and for, the periods presented in this
quarterly report;
4. The registrant's other certifying officers and I are responsible for
establishing and maintaining disclosure controls and procedures (as defined
in Exchange Act Rules 13a-14 and 15d-14) for the registrant and we have:
a) designed such disclosure controls and procedures to ensure that
material information relating to the registrant, including its
consolidated subsidiaries, is made known to us by others within those
entities, particularly during the period in which this quarterly
report is being prepared;
b) evaluated the effectiveness of the registrant's disclosure controls
and procedures as of a date within 90 days prior to the filing date of
this quarterly report (the "Evaluation Date"); and
c) presented in this quarterly report our conclusions about the
effectiveness of the disclosure controls and procedures based on our
evaluation as of the Evaluation Date;
5. The registrant's other certifying officers and I have disclosed, based on
our most recent evaluation, to the registrant's auditors and the audit
committee of registrant's board of directors (or persons performing the
equivalent function):
a) all significant deficiencies in the design or operation of internal
controls which could adversely affect the registrant's ability to
record, process, summarize and report financial data and have
identified for the registrant's auditors any material weaknesses in
internal controls; and
b) any fraud, whether or not material, that involves management or other
employees who have a significant role in the registrant's internal
controls; and
6. The registrant's other certifying officers and I have indicated in this
quarterly report whether or not there were significant changes in internal
controls or in other factors that could significantly affect internal
controls subsequent to the date of our most recent evaluation, including
any corrective actions with regard to significant deficiencies and material
weaknesses.
Date: May 15, 2003
/s/ Tracy R. Newton
- -------------------------------------
Tracy R. Newton
President and Chief Executive Officer
27
CERTIFICATION
I, Alan R. May, certify that:
1. I have reviewed this quarterly report on Form 10-Q of Appalachian
Bancshares, Inc.;
2. Based on my knowledge, this quarterly report does not contain any untrue
statement of a material fact or omit to state a material fact necessary to
make the statements made, in light of the circumstances under which such
statements were made, not misleading with respect to the period covered by
this quarterly report;
3. Based on my knowledge, the financial statements, and other financial
information included in this quarterly report, fairly present in all
material respects the financial condition, results of operations and cash
flows of the registrant as of, and for, the periods presented in this
quarterly report;
4. The registrant's other certifying officers and I are responsible for
establishing and maintaining disclosure controls and procedures (as defined
in Exchange Act Rules 13a-14 and 15d-14) for the registrant and we have:
a) designed such disclosure controls and procedures to ensure that
material information relating to the registrant, including its
consolidated subsidiaries, is made known to us by others within those
entities, particularly during the period in which this quarterly
report is being prepared;
b) evaluated the effectiveness of the registrant's disclosure controls
and procedures as of a date within 90 days prior to the filing date of
this quarterly report (the "Evaluation Date"); and
c) presented in this quarterly report our conclusions about the
effectiveness of the disclosure controls and procedures based on our
evaluation as of the Evaluation Date;
5. The registrant's other certifying officers and I have disclosed, based on
our most recent evaluation, to the registrant's auditors and the audit
committee of registrant's board of directors (or persons performing the
equivalent function):
a) all significant deficiencies in the design or operation of internal
controls which could adversely affect the registrant's ability to
record, process, summarize and report financial data and have
identified for the registrant's auditors any material weaknesses in
internal controls; and
b) any fraud, whether or not material, that involves management or other
employees who have a significant role in the registrant's internal
controls; and
6. The registrant's other certifying officers and I have indicated in this
quarterly report whether or not there were significant changes in internal
controls or in other factors that could significantly affect internal
controls subsequent to the date of our most recent evaluation, including
any corrective actions with regard to significant deficiencies and material
weaknesses.
Date: May 15, 2003
/s/ Alan R. May
- -------------------------------------
Alan R. May
Chief Financial Officer
28