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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 June 30, 2011

OR

[   ]     TRANSITION  REPORT PURSUANT TO  SECTION 13 OR 15 (d)
OF THE SECURITIES EXCHANGE ACT OF 1934
For The Transition Period From _______________ To _________________.

Commission File Number 000-51950


CORNERSTONE BANCORP
(Exact name of registrant as specified in its charter)
 
South Carolina
57-1077978
(State or other jurisdiction of
(I.R.S. Employer Identification Number)
incorporation or organization)
 
 
1670 East Main Street, Easley, South Carolina 29640
(Address of principal executive offices)

(864) 306-1444
(Registrant's telephone number, including Area Code)

Not Applicable
(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 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. [X] Yes
 [ ] No

Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files). Yes [ ] No [ ] (This is the first report for which an interactive Data File is required to be filed and posted.)

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, or a smaller reporting company. See definition of “large accelerated filer,” “accelerated filer,” and “smaller reporting company” in Rule 12b-2 of the Exchange Act.

Large accelerated filer [ ]                                                                                           Accelerated filer [ ]
Non-accelerated filer [ ](Do not check if a smaller reporting company)             Smaller reporting company [X]

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act). [  ] Yes    [X]   No

Indicate the number of shares outstanding of each of the issuer's classes of common equity, as of the latest practicable date:
Common Stock - No Par Value, 2,210,769 shares outstanding on August 1, 2011

 
 
 
 

 

 
PART I
FINANCIAL INFORMATION
 
Item 1.  Financial Statements
 

CORNERSTONE BANCORP AND SUBSIDIARY
CONSOLIDATED BALANCE SHEETS
   
June 30,
   
December 31,
 
   
2011
   
2010
 
Assets
 
(Unaudited)
       
             
Cash and due from banks
  $ 7,485,196     $ 7,043,911  
Federal funds sold
    6,120,000       5,110,000  
       Cash and cash equivalents
    13,605,196       12,153,911  
                 
Investment securities
               
Available for sale
    27,320,193       23,592,336  
Other investments
    984,350       1,063,350  
                 
Loans, net
    104,671,708       117,210,770  
Property and equipment, net
    5,120,273       5,230,835  
Cash surrender value of life insurance policies
    1,941,712       1,908,112  
Real estate acquired in foreclosure
    13,118,039       10,278,599  
Other assets
    2,090,977       2,530,552  
              Total assets
  $ 168,852,448     $ 173,968,465  
                 
                 
Liabilities and Shareholders’ Equity
               
                 
Liabilities
               
Deposits
               
Noninterest bearing
  $ 12,975,769     $ 10,382,882  
Interest bearing
    127,243,643       130,263,510  
Total deposits
    140,219,412       140,646,392  
   Retail repurchase agreements and sweeps
    1,897,276       2,945,937  
Borrowings from Federal Home Loan Bank of Atlanta
    2,516,922       6,592,338  
   Broker repurchase agreements
    5,000,000       5,000,000  
Other liabilities
    640,152       425,086  
                 
Total liabilities
    150,273,762       155,609,753  
                 
                 
Shareholders’ equity
               
   Preferred stock, 10,000,000 shares authorized, 1,038 shares issued
    998,538       998,538  
Common stock, no par value, 20,000,000 shares authorized, 2,210,769  shares issued
    18,885,274       18,859,924  
Retained deficit
    (1,619,421 )     (1,418,781 )
   Accumulated other comprehensive income (loss)
    314,295       (80,969 )
                 
Total shareholders’ equity
    18,578,686       18,358,712  
                 
Total liabilities and shareholders’ equity
  $ 168,852,448     $ 173,968,465  

The accompanying notes are an integral part of these consolidated financial statements.
 
 
 
2

 
 

CORNERSTONE BANCORP AND SUBSIDIARY
CONSOLIDATED STATEMENTS OF INCOME (LOSS)
(Unaudited)

 
   
 For the three months
ended June 30,
   
 For the six months
ended June 30,
 
     2011      2010      2011      2010  
Interest and Dividend Income
                       
Interest and fees on loans
  $ 1,499,870     $ 1,775,594     $ 3,091,934     $ 3,544,876  
Investment securities
    225,060       232,420       413,751       500,662  
Federal funds sold and interest bearing
  balances
    3,154       4,682       6,661       7,062  
Total interest  income
    1,728,084       2,012,696       3,512,346       4,052,600  
                                 
Interest Expense
                               
Deposits
    388,576       597,554       820,964       1,249,559  
Borrowings
    74,616       94,107       152,626       210,481  
Total interest expense
    463,192       691,661       973,590       1,460,040  
                                 
Net Interest Income
    1,264,892       1,321,035       2,538,756       2,592,560  
Provision for Loan Losses
    110,000       280,000       260,000       900,000  
                                 
Net interest income after provision
  for loan losses
    1,154,892       1,041,035       2,278,756       1,692,560  
                                 
Noninterest Income
                               
Service charges on deposit accounts
    129,531       138,148       242,566       264,552  
Other
    57,183       49,595       100,114       95,394  
Total noninterest income
    186,714       187,743       342,680       359,946  
                                 
Noninterest Expense
                               
Salaries and employee benefits
    553,384       563,376       1,104,128       1,128,485  
Premises and equipment
    131,826       139,061       267,741       284,982  
Loss on sale of foreclosed property
    24,421       94,956       50,399       99,143  
Foreclosed property expenses
    403,606       102,149       542,762       221,139  
Professional and regulatory fees
    153,107       125,791       302,736       253,849  
Data processing
    60,698       59,297       117,708       114,142  
Supplies
    25,496       16,921       45,115       34,099  
Advertising
    4,955       4,815       15,419       10,553  
Other
    168,516       197,067       376,068       379,743  
Total noninterest expense
    1,526,009       1,303,433       2,822,076       2,526,135  
Net loss before taxes
    (184,403 )     (74,655 )     (200,640 )     (473,629 )
Income tax benefit
    -       (52,355 )     -       (210,754 )
Net loss
    (184,403 )     (22,300 )     (200,640 )     (262,875 )
Preferred stock dividend accumulated
    (20,703 )     -       (41,179 )     -  
Income (loss) available to common shareholders
  $ (205,106 )   $ (22,300 )   $ (241,819 )   $ (262,875 )
                                 
Loss Per Common Share
                               
Basic
  $ (.09 )   $ (.01 )   $ (.11 )   $ (.12 )
Diluted
  $ (.09 )   $ (.01 )   $ (.11 )   $ (.12 )
Weighted Average Shares Outstanding
                               
Basic
    2,210,769       2,210,769       2,210,769       2,210,769  
Diluted
    2,210,769       2,210,769       2,210,769       2,210,769  
 
The accompanying notes are an integral part of these consolidated financial statements.
 
 
 
3

 
 
 
 
 
CORNERSTONE BANCORP AND SUBSIDIARY
CONSOLIDATED STATEMENTS OF SHAREHOLDERS’ EQUITY
AND COMPREHENSIVE INCOME (LOSS)
For the six months ended June 30, 2011 and 2010
 
(Unaudited)
 
   
Preferred Stock
   
Common stock
   
Retained
    Accumulated
other
comprehensive
   
Total
shareholders’
 
    Shares     Amount     Shares     Amount     deficit     income (loss)     equity  
                                           
Balance, December 31, 2009
    -       -       2,105,738     $ 18,799,728     $ (921,014 )   $ 160,691     $ 18,039,405  
Net loss
    -       -       -       -       (262,875 )     -       (262,875 )
Other comprehensive income, net of
    income taxes
                                                       
Unrealized gain on investment 
    securities, net
    -       -       -       -       -       287,856       287,856  
Comprehensive income
    -       -       -                               24,981  
Stock based compensation
    -       -       -       30,610       -       -       30,610  
Stock dividend declared (5%), recorded 
    as a stock split
    -       -       105,031       (1,024 )     -       -       (1,024 )
                                                         
Balance, June 30, 2010
    -     $ -       2,210,769     $ 18,829,314     $ (1,183,889 )   $ 448,547     $ 18,093,972  
                                                         
                                                         
Balance, December 31, 2010
    1,038     $ 998,538       2,210,769     $ 18,859,924     $ (1,418,781 )   $ (80,969 )   $ 18,358,712  
Net loss
    -       -       -       -       (200,640 )     -       (200,640 )
Other comprehensive income, net 
    of income taxes
                                                       
Unrealized gain on investment
    securities, net
    -       -       -       -       -       395,264       395,264  
Comprehensive income
                                                    194,624  
Stock based compensation
    -       -       -       25,350       -       -       25,350  
                                                         
Balance, June 30, 2011
    1,038     $ 998,538       2,210,769     $ 18,885,274     $ (1,619,421 )   $ 314,295     $ 18,578,686  
                                                         
The accompanying notes are an integral part of these consolidated financial statements.
 
 
 
 
4

 
 
CORNERSTONE BANCORP AND SUBSIDIARY
CONSOLIDATED STATEMENTS OF CASH FLOWS
(Unaudited)
 
   
For the six months ended June 30,
 
   
2011
   
2010
 
Operating Activities
           
Net loss
  $ (200,640 )   $ (262,875 )
Adjustments to reconcile net loss to net cash provided by operating
          activities
               
Depreciation and amortization
    263,287       233,753  
Provision for loan losses
    260,000       900,000  
Write-down of other real estate owned
    333,830       19,064  
Non-cash option expense
    25,350       30,610  
Loss on sale of foreclosed property
    50,399       99,143  
Loss on retirement of fixed assets
    3,539       -  
Changes in operating assets and liabilities
               
Change in interest receivable
    26,670       35,686  
Change in other assets
    379,305       513,213  
Change in other liabilities
    11,443       (153,932 )
                 
Net cash provided by operating activities
    1,153,183       1,414,662  
                 
Investing Activities
               
Proceeds from maturities and principal repayments of available for sale securities
    1,902,877       5,098,636  
Purchase of investment securities available for sale
    (5,176,867 )     (499,000 )
Proceeds from sale of foreclosed property
    1,999,740       3,007,284  
Purchase of Federal Reserve Bank stock
    (17,900 )     -  
Redemption of FHLB stock
    96,900       -  
Purchase of property and equipment
    (11,669 )     (74,302 )
Capitalization of improvements to foreclosed property
    (171,976 )     (198,761 )
Proceeds from sale of fixed assets
    425       -  
Net decrease in loans to customers
    7,227,629       4,243,407  
                 
Net cash provided by investing activities
    5,849,159       11,577,264  
                 
Financing Activities
               
Net increase (decrease) in demand, savings and time deposits
    (426,980 )     70,956  
Net decrease in customer repurchase agreements
    (1,048,661 )     (538,351 )
Repayment of FHLB advances
    (4,075,416 )     (1,575,417 )
Cash paid in lieu of fractional shares related to stock dividend
    -       (1,024 )
                 
Net cash used by financing activities
    (5,551,057 )     (2,043,836 )
Net increase in cash and cash equivalents
    1,451,285       10,948,090  
Cash and Cash Equivalents, Beginning of Period
    12,153,911       6,039,596  
                 
Cash and Cash Equivalents, End of Period
  $ 13,605,196     $ 16,987,686  
                 
Supplemental Information
               
Cash paid for interest
  $ 1,009,384     $ 1,487,505  
Cash paid (refund received) for income taxes
  $ (208,897 )   $ -  
Non-cash Supplemental Information
               
Loans transferred to other real estate owned
  $ 5,051,433     $ 4,341,030  
Loans charged-off, net
  $ (458,003 )   $ (763,907 )
 
The accompanying notes are an integral part of these consolidated financial statements.
 
 
5

 
 
CORNERSTONE BANCORP AND SUBSIDIARY
NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS


Note 1.  Nature of Business and Basis of Presentation

Summary of Significant Accounting Principles
A summary of significant accounting policies is included in the Cornerstone Bancorp (the “Company”) 2010 Annual Report to Shareholders, which also contains the Company's audited financial statements for 2010 and is also included in the Form 10-K for the year ended December 31, 2010.

Principles of Consolidation
The consolidated financial statements include the accounts of Cornerstone Bancorp, the parent company, and Cornerstone National Bank (the “Bank”), its wholly owned subsidiary, and Crescent Financial Services, Inc., a wholly owned subsidiary of the Bank. All significant intercompany items have been eliminated in the consolidated statements. Certain amounts have been reclassified to conform to current year presentation.

Management Opinion
The accompanying consolidated financial statements have been prepared in accordance with generally accepted accounting principles for interim financial information and with the instructions for Form 10-Q. Accordingly they do not contain all the information and footnotes required by accounting principles generally accepted in the United States of America for complete financial statements. The financial statements in this report are unaudited. In the opinion of management, all adjustments necessary to present a fair statement of the results for the interim period have been made. Such adjustments are of a normal and recurring nature. The results of operations for any interim period are not necessarily indicative of the results to be expected for an entire year. These interim financial statements should be read in conjunction with the annual financial statements and notes thereto contained in the 2010 Annual Report on Form 10-K.

Note 2. Earnings per Share
Financial Accounting Standards Board (FASB”) Accounting Standards Codification (“ASC”) 260, "Earnings per Share," requires that the Company present basic and diluted net income (loss) per common share. The assumed conversion of stock options creates the difference between basic and diluted net income per share. Income per share is calculated by dividing net income by the weighted average number of common shares outstanding for each period presented. The weighted average number of common shares outstanding for basic and diluted net loss per common share for the three month period ended June 30, 2011 and 2010 was 2,210,769 shares. Outstanding options were excluded from the loss per share calculation because they are anti-dilutive for the three-month periods ended June 30, 2011 and 2010. The weighted average number of common shares outstanding for basic and diluted net loss per common share for the six month period ended June 30, 2011 and 2010 was 2,210,769 shares. Outstanding options were excluded from the loss per share calculation because they are anti-dilutive for the six-month periods ended June 30, 2011 and 2010. The calculations of earnings per share for the quarter and six months ended June 30, 2010 include the effect of the 5% stock dividend declared on April 13, 2010 as if it had been declared on January 1, 2010.

Note 3. Stock Based Compensation
As described in Notes 1 and 18 to the financial statements in the Company’s Annual Report on Form 10-K for the year ended December 31, 2010, the Company has a stock-based employee and director compensation plan, which was approved by shareholders in 2003 (the “2003 Plan”).

There have been no options granted in 2011 under the 2003 Plan. Refer to the notes to the financial statements in the Company’s Annual Report on Form 10-K for the year ended December 31, 2010 for further information.

For the three and six months ended June 30, 2011, the Company expensed $12,675 and $25,350, respectively, related to options granted in previous years. The expense is included in salaries and employee benefits in the accompanying consolidated statements of income.

 
6

 
Note 4. Estimates
The preparation of consolidated 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 interest and noninterest income and expenses during the reporting period. Actual results could differ from those estimates. The primary significant estimate in the accompanying consolidated financial statements is the allowance for loan losses. A discussion of the significant factors involved in estimating the allowance for loan losses is included in this Form 10-Q in “Management’s Discussion and Analysis of Financial Condition and Results of Operations” in the section titled “Results of Operations” and in the Company’s 2010 Form 10-K. The provision for income taxes and the valuation of other real estate owned are also considered significant estimates.

Note 5. Concentrations of credit risk
The Bank makes loans to individuals and small businesses located primarily in upstate South Carolina for various personal and commercial purposes. The Bank monitors the portfolio for concentrations of credit on a quarterly basis using North American Industry Codes, (“NAIC”) and using definitions required by regulatory agencies. The Bank has loans in three NAIC categories of which each represents more than 10% of the portfolio. The NAIC concentrations are 13.4% in Residential Building Construction, 12.2% in Accommodation and Food services, and 22.9% in Real Estate Rental and Leasing. The portfolio also has loans representing 19 other NAIC categories.

The Bank has concentrations in loans collateralized by real estate according to the regulatory definition. Included in this segment of the portfolio is the category for construction and development loans. While the Bank does have a concentration of loans in this category, the Bank’s business is managed in a manner intended to help reduce the risks normally associated with construction lending. Management requires lending personnel to visit job sites, maintain frequent contact with borrowers and perform or commission inspections of completed work prior to issuing additional construction loan draws. Under current policy, loans are limited to 80% of cost of construction projects, and borrowers are required to meet minimum net worth requirements and debt service coverage ratios. Projects for construction of single family homes are generally limited to those projects with contracts for sale where the ultimate owner has a significant investment in the contract.  These policies may be considered stricter than policies in place when some of the Bank’s currently outstanding loans were originated. However, as loans mature or as new loans are made, the current guidelines described above would be used to underwrite construction loans.

The Bank does not make long term (more than 15 years) mortgage loans to be held in its portfolio, and does not offer loans with negative amortization features or long-term interest only features, or loans with loan to collateral value ratios in excess of 100% at the time the loan is made. The Bank does offer loan products with features that can increase credit risk during periods of declining economic conditions, such as adjustable rate loans, short-term interest-only loans, and loans with amortization periods that differ from the maturity date (i.e., balloon payment loans). However, the Bank evaluates each customer’s creditworthiness based on the customer’s individual circumstances, and current and expected economic conditions, and underwrites and monitors each loan for associated risks. Loans made with exceptions to internal loan guidelines and those with loan-to-value ratios in excess of regulatory loan-to-value guidelines are monitored and reported to the Board of Directors on a monthly basis. The regulatory loan-to-value guidelines permit exceptions to the guidelines up to a maximum of 30% of total capital for commercial loans and exceptions for all types of real estate loans up to a maximum of 100% of total capital. As of June 30, 2011, the Bank had $7.2 million of loans which exceeded the regulatory loan to value guidelines. This amount is within the maximum allowable exceptions to the guidelines. Of the $7.2 million of loans with exceptions to the regulatory loan to value guidelines, $5.4 million or 75% were not exceptions at the time the loans were made, but became exceptions upon reappraisal. Management routinely reappraises real estate collateral based on specific criteria and circumstances. If additional collateral is available, the Bank may require the borrower to commit additional collateral to the loan or take other actions to mitigate the Bank’s risk.

Note 6. Income taxes
The Company accounts for income taxes using a method whereby certain items of income and expense (principally provision for loan losses, depreciation, and prepaid expenses) are included in one reporting period for financial accounting purposes and another for income tax purposes. Refer to the notes to the Company’s consolidated financial statements for the year ended December 31, 2010 for more information. To date in 2011, the Company recorded no net income tax expense or benefit. The Company has chosen to effectively reserve any tax benefit that would have accrued until the economic uncertainty in our market areas has subsided or declined. Management has evaluated the net deferred tax asset and determined that the current net deferred tax asset will more-likely-than-not be realized by the Company. The Company also believes that its income tax filing positions taken or expected to be taken in its tax returns will more likely than not be sustained upon audit by the taxing authorities, and does not anticipate any adjustments that will result in a material adverse impact on the Company’s financial condition, results of operations, or cash flows. Therefore, no reserves for uncertain income tax positions have been recorded pursuant to ASC 740, “Income Taxes”.

 
7

 
Note 7. Fair Value Accounting
ASC 820 defines fair value as the exchange price that would be received for an asset or paid to transfer a liability (an exit price) in the principal or most advantageous market for the asset or liability in an orderly transaction between market participants on the measurement date. The standard also establishes a fair value hierarchy which requires an entity to maximize the use of observable inputs and minimize the use of unobservable inputs when measuring fair value. The standard describes three levels of inputs that may be used to measure fair value:

Level 1-Quoted prices in active markets for identical assets or liabilities. Level 1 assets and liabilities include debt and equity securities and derivative contracts that are traded in an active exchange market, as well as U.S. Treasuries and money market funds.

Level 2-Observable inputs other than Level 1 prices such as quoted prices for similar assets or liabilities; quoted prices in markets that are not active; or other inputs that are observable or can be corroborated by observable market data for substantially the full term of the assets or liabilities. Level 2 assets and liabilities include debt with quoted prices that are traded less frequently than exchange-traded instruments, mortgage-backed securities, municipal bonds, corporate debt securities, and derivative contracts whose value is determined using a pricing model with inputs that are observable in the market or can be derived principally from or corroborated by observable market data. This category generally includes certain derivative contracts and impaired loans.

Level 3-Unobservable inputs that are supported by little or no market activity and that are significant to the fair value of the assets or liabilities. Level 3 assets and liabilities include financial instruments whose value is determined using pricing models, discounted cash flow methodologies, or similar techniques, as well as instruments for which the determination of fair value requires significant management judgment or estimation. For example, this category generally includes certain private equity investments, retained residual interests in securitizations, residential mortgage servicing rights, and highly-structured or long-term derivative contracts.


The estimated fair values of the Company's financial instruments were as follows:
 
     June 30, 2011    
December 31, 2010
 
 
Financial Assets
 
Carrying
Amount
   
Fair
Value
   
Carrying
Amount
   
Fair
Value
 
                         
Cash and due from banks
  $ 7,485,196     $ 7,485,196     $ 7,043,911     $ 7,043,911  
Federal funds sold
    6,120,000       6,120,000       5,110,000       5,110,000  
Investment securities
    27,320,193       27,320,193       24,655,686       24,655,686  
Loans, gross
    107,177,135       107,668,005       119,914,200       120,947,231  
Cash surrender value of life insurance policies
    1,941,712       1,941,712       1,908,112       1,908,112  
Financial Liabilities
                               
Deposits
    140,219,412       138,361,789       140,646,392       139,176,006  
Customer sweep accounts
    197,276       197,276       895,937       895,937  
Customer repurchase agreements
    1,700,000       1,770,323       2,050,000       2,137,395  
Borrowings from FHLB
    2,516,922       2,664,242       6,592,338       6,731,378  
Broker repurchase agreements
    5,000,000       5,199,454       5,000,000       5,212,655  
                                 


 
8

 
The table below presents the balances of assets measured at fair value on a recurring or nonrecurring basis by level within the hierarchy of inputs that may be used to measure fair value.

   
June 30, 2011
 
   
Total
   
Level 1
   
Level 2
   
Level 3
 
Investment securities, recurring
  $ 28,304,543     $ 18,797,345     $ 8,522,848     $ 984,350  
Other real estate owned, nonrecurring
  $ 13,118,039     $ -     $ -     $ 13,118,039  
Impaired loans, nonrecurring
  $ 9,556,161     $ -     $ -     $ 9,556,161  
       
   
December 31, 2010
 
Investment securities, recurring
  $ 24,655,686     $ 15,369,729     $ 8,222,607     $ 1,063,350  
Other real estate owned, nonrecurring
  $ 10,278,599     $ -     $ -     $ 10,278,599  
Impaired loans, nonrecurring
  $ 10,639,189     $ -     $ -     $ 10,639,189  
                                 

During the six months ended June 30, 2011, there were no significant transfers of assets between categories.

The table below represents the activity in Level 3 assets that are measured at fair value on a recurring basis for the period January 1, 2011 to June 30, 2011.

   
Other Investments
 
Beginning balance
  $ 1,063,350  
Total realized and unrealized gains or losses:
       
  Included in earnings
    -  
  Included in other comprehensive income
    -  
Purchases
    17,900  
Sales (redemption by FHLB Atlanta)
    (96,900 )
Principal reductions
    -  
Transfers in and/or out of Level 3
    -  
Ending balance
  $ 984,350  
         


Note 8. Cumulative Perpetual Preferred Stock (8%)
During the third quarter of 2010, the Company offered up to $2,500,000 of 8% Series A Cumulative Perpetual Preferred Stock (“the Preferred”) to accredited investors and up to 35 non-accredited investors. The Preferred was offered by the Company’s directors and executive officers, and no selling agents or underwriters were used. 1,038 shares of the Preferred were sold. Proceeds of the offering, net of offering expenses totaled $998,538. The Preferred is scheduled to pay a dividend quarterly. However, the Federal Reserve has declined to approve the dividends scheduled for payment to date. Dividends that have accumulated but have not been declared or accrued total $71,338 as of June 30, 2011.

Note 9. Evaluation of subsequent events
In accordance with the accounting standard regarding subsequent events, management performed an evaluation to determine whether or not there have been any subsequent events since the balance sheet date that would be required to be included in these financial statements and concluded that there were none.

Note 10. Recently issued accounting standards
The following is a summary of recent authoritative pronouncements that may affect accounting, reporting, and disclosure of financial information by the Company:

 
9

 
In April 2011, FASB issued ASU 2011-02 to assist creditors with their determination of when a restructuring is a TDR.   The determination is based on both whether the restructuring constitutes a concession and whether the debtor is experiencing financial difficulties. Disclosures related to TDRs under ASU 2010-20 will be effective for reporting periods beginning after June 15, 2011.  The standard is not expected to have a material effect on the financial statements.

In April 2011, the criteria used to determine effective control of transferred assets in the Transfers and Servicing topic of the ASC was amended by ASU 2011-03.  The requirement for the transferor to have the ability to repurchase or redeem the financial assets on substantially the agreed terms and the collateral maintenance implementation guidance related to that criterion were removed from the assessment of effective control.  The other criteria to assess effective control were not changed.  The amendments are effective for the Company beginning January 1, 2012 but are not expected to have a material effect on the financial statements.

ASU 2011-04 was issued in May 2011 to amend the Fair Value Measurement topic of the ASC by clarifying the application of existing fair value measurement and disclosure requirements and by changing particular principles or requirements for measuring fair value or for disclosing information about fair value measurements.  The amendments will be effective for the Company beginning January 1, 2012 but are not expected to have a material effect on the financial statements.

The Comprehensive Income topic of the ASC was amended in June 2011.  The amendment eliminates the option to present other comprehensive income as a part of the statement of changes in stockholders’ equity.  The amendment requires consecutive presentation of the statement of net income and other comprehensive income and requires an entity to present reclassification adjustments from other comprehensive income to net income on the face of the financial statements.  The amendments will be applicable to the Company on January 1, 2012 and will be applied retrospectively.  They are not expected to have an effect on the financial statements.

Accounting standards that have been issued or proposed by the FASB that do not require adoption until a future date are not expected to have a material impact on the consolidated financial statements upon adoption.


CAUTIONARY NOTICE WITH RESPECT TO FORWARD LOOKING STATEMENTS

Statements included in this report which are not historical in nature are intended to be, and are hereby identified as “forward looking statements” for purposes of the safe harbor provided by Section 21E of the Securities Exchange Act of 1934, as amended. Words such as “estimate,” “project,” “intend,” “expect,” “believe,” “anticipate,” “plan,” “may,” “will,” “should,” “could,” “would,” “assume,” “indicate,” “contemplate,” “seek,” “target,” “potential,” and similar expressions identify forward-looking statements. The Company cautions readers that forward looking statements including without limitation, those relating to the Company’s future business prospects, revenues, working capital, adequacy of the allowance for loan losses, liquidity, capital needs, interest costs, and income, are subject to certain risks and uncertainties that could cause actual results to differ from those indicated in the forward looking statements, due to several important factors identified in this report, among others, and other risks and factors identified from time to time in the Company’s other reports filed with the Securities and Exchange Commission.


 
10

 
These forward-looking statements are based on our current expectations, estimates and projections about our industry, management's beliefs, and assumptions made by management. Such information includes, without limitation, discussions as to estimates, expectations, beliefs, plans, strategies, and objectives concerning the Company’s future financial and operating performance. These statements are not guarantees of future performance and are subject to risks, uncertainties and assumptions that are difficult to predict, particularly in light of the fact that the Company is a relatively new company with limited operating history. Therefore, actual results may differ materially from those expressed or forecasted in such forward-looking statements. The risks and uncertainties include, but are not limited to:

·  
future economic and business conditions;
 
·  
the Company’s growth and ability to maintain growth;
 
·  
governmental monetary and fiscal policies;
 
·  
legislative and regulatory changes;
 
·  
actions taken by regulatory authorities;
 
·  
the effect of interest rate changes on our level, costs and composition of deposits, loan demand, and the values of our loan collateral, securities, and interest sensitive assets and liabilities;
 
·  
the effects of competition from a wide variety of local, regional, national and other providers of financial, investment and insurance services, as well as competitors that offer banking products and services by mail, telephone, computer, and/or the Internet;
 
·  
the effect of agreements with regulatory authorities, which restrict various activities and impose additional administrative requirements without commensurate benefits;
 
·  
credit risks;
 
·  
higher than anticipated levels of defaults on loans;
 
·  
perceptions by depositors about the safety of deposits;
 
·  
failure of our customers to repay loans;
 
·  
failure of assumptions underlying the establishment of the allowance for loan losses, including the value of collateral securing loans;
 
·  
the risks of opening new offices, including, without limitation, the related costs and time of building customer relationships and integrating operations, and the risk of failure to achieve expected gains, revenue growth and/or expense savings;
 
·  
changes in accounting policies, rules, and practices;
 
·  
cost and difficulty of implementing changes in technology or products;
 
·  
loss of consumer confidence and economic disruptions resulting from terrorist activities;
 
·  
ability to continue to weather the current economic downturn;
 
·  
loss of consumer or investor confidence; and
 
·  
other factors and information described in this report and in any of the other reports we file with the Securities and Exchange Commission under the Securities Act of 1934.
 
All forward-looking statements are expressly qualified in their entirety by this cautionary notice. The Company undertakes no obligation to publicly update or revise any forward-looking statements, whether as a result of new information, future events or otherwise. In light of these risks, uncertainties, and assumptions, the forward-looking events discussed in this report might not occur.

Website References

References to the Bank’s website included in, or incorporated by reference into, this report are for information purposes only, and are not intended to incorporate the website by reference into this report.
 
11

 
Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operation

General

Cornerstone Bancorp, (the “Company”) is a bank holding company and has no operations other than those carried on by its wholly owned subsidiary, Cornerstone National Bank (the “Bank”). The Bank commenced business in 1999, and conducts a general banking business from three offices in the Easley area of Pickens County, in the Berea area of Greenville County, and in the Powdersville area of Anderson County, South Carolina. In 2004, the Bank established a wholly owned subsidiary, Crescent Financial Services, Inc. (“Crescent”), which is an insurance agency that has not yet engaged in any significant operations.

Effect of Economic Trends

Problems in the economy over the last three years have adversely impacted the ability of some borrowers to repay their loans. Although the Company’s market area has not experienced the negative effects of the recession and declines in real estate markets to the same extent as some other markets in the country, these factors have had a significant effect on our operations as evidenced by the increases in our potential problem loans, charge-offs, nonaccrual loans and real estate owned. The majority of problem loans in 2010 and through the first six months of 2011 were real estate loans. These loans were often collateralized by newly constructed homes or undeveloped land and were foreclosed on after real estate sales in the Company’s market area decreased significantly beginning in the summer of 2008. Borrowers were generally builders and developers who did not have the cash flow required to support the level of inventory financed with area banks. The process of foreclosure in South Carolina is lengthy and expensive. The impact of foregone interest on nonaccruing loans in the process of foreclosure, combined with attorneys’ fees, property taxes, and costs to sell repossessed property negatively impacted the Company’s income in 2010 and 2011. The residential market for single family homes in South Carolina has a significant inventory of unsold homes. This inventory will take time for the market to absorb and the Company expects to continue through 2011 and into 2012 with elevated other real estate owned balances. As of June 30, 2011, the Company had $1.4 million of other real estate under contract for sale, and expects such contracts to close before September 30, 2011. The real estate and construction industries have been significant employers in the past in South Carolina, but these industries are not expected to return to pre-2008 levels in the foreseeable future. South Carolina is currently looking to other industries to provide job creation and economic prosperity in the State. The Company expects slow economic improvement in the remainder of 2011 in its market areas.

Dodd-Frank Wall Street Reform and Consumer Protection Act

On July 21, 2010, the President signed into law the Dodd-Frank Wall Street Reform and Consumer Protection Act (the “Dodd-Frank Act”), which significantly changes the regulation of financial institutions and the financial services industry.  The Dodd-Frank Act will have extensive effects on all financial institutions, and includes provisions that will affect how community banks, thrifts, and small bank and thrift holding companies will be regulated in the future.  Among other things, these provisions abolish the Office of Thrift Supervision and transfer its functions to the other federal banking agencies, relax rules regarding interstate branching, allow financial institutions to pay interest on business checking accounts, change the scope of federal deposit insurance coverage, and impose new capital requirements on bank and thrift holding companies.  The Dodd-Frank Act also establishes the Bureau of Consumer Financial Protection as an independent entity within the Federal Reserve, which will be given the authority to promulgate consumer protection regulations applicable to all entities offering consumer financial services or products, including banks.  Additionally, the Dodd-Frank Act includes a series of provisions covering mortgage loan origination standards affecting originator compensation, minimum repayment standards, and pre-payments.

The Dodd-Frank Act requires regulatory agencies to implement new regulations that will establish the parameters of the new regulatory framework and provide a clearer understanding of the legislation’s effect on banks.  We are in the process of evaluating this new legislation and determining the impact it will have on our current and future operations.  However, the manner and degree to which it affects our business will be significantly impacted by the implementing regulations that are ultimately adopted.  Accordingly, at the present time we cannot fully assess the impact that the act will have on us, though we are confident it will increase our cost of doing business and the time spent by management on regulatory compliance matters.

 
12

 
Legislative Proposals

Proposed legislation, which could significantly affect the business of banking, is introduced in Congress and the South Carolina Legislature from time to time. For example, numerous bills are pending in Congress and the South Carolina Legislature to provide various forms of relief to homeowners from foreclosure of mortgages as a result of publicity surrounding economic problems resulting from subprime mortgage lending and the economic adjustments in national real estate markets.  Broader problems in the financial sector of the economy, which became apparent in 2008, have led to numerous calls for, and legislative and regulatory proposals relating to, restructuring of the regulation of financial institutions.  However, several bills have been introduced in Congress to modify or lessen the impact of the Dodd-Frank Act. Management of the Company cannot predict the future course of such legislative proposals or their impact on the Company and the Bank should they be adopted.

Fiscal and Monetary Policy

Banking is a business that depends largely on interest rate differentials.  In general, the difference between the interest paid by a bank on its deposits and its other borrowings, and the interest received by a bank on its loans and securities holdings, constitutes the major portion of a bank’s earnings.  Thus, the earnings and growth of the Company and the Bank are subject to the influence of economic conditions generally, both domestic and foreign, and also to the monetary and fiscal policies of the United States and its agencies, particularly the Federal Reserve. The Federal Reserve regulates the supply of money through various means, including open-market dealings in United States government securities, the discount rate at which banks may borrow from the Federal Reserve, and the reserve requirements on deposits.  The nature and timing of any changes in such policies and their impact on the Company and the Bank cannot be predicted.

Results of Operations for the Three Months Ended June 30, 2011 and 2010

Summary
The Company recorded a loss of $184,403 (a loss of $205,106 available to common shareholders or a loss of $.09 per common share) during the second quarter of 2011 compared to a loss of $22,300 during the second quarter of 2010 or $.01 per share, after giving effect to the five percent stock dividend (recorded as a stock split) declared in 2010.  The primary reason for the larger loss was the continuation of decreases in property values and an increase in carrying costs of foreclosed assets. The Bank experienced a net increase in noninterest expense for the quarter in 2011 compared to 2010 that partially offset the gain in income from a lower loan loss provision. The Company is required to annually reappraise foreclosed assets that remain unsold. Property values have continued to decrease in certain areas, such as lake property, and the decrease in value has been reflected in the accompanying consolidated statements of income (loss) as foreclosed property expenses. That category also includes property taxes on foreclosed assets, maintenance costs, and property insurance.

Net Interest Income
Net interest income is the primary driver of net income for the Company. Net interest income is equal to the difference between interest income earned on the Company’s interest earning assets and the interest paid on its interest bearing liabilities. The Company’s net interest margin increased to 3.55% in the second quarter of 2011 from 3.24% in the second quarter of 2010. The primary reason for the increase in the net interest margin was a decrease in the average rate paid on interest bearing liabilities. For the quarter ended June 30, 2011 the Bank paid an average of 1.32% on interest bearing liabilities, compared with an average of 1.76% on interest bearing liabilities in the 2010 quarter. The decrease was primarily attributable to the replacement of maturing higher rate deposits with lower rate deposits.


 
13

 
The table below illustrates the average balances of interest earning assets and interest bearing liabilities and the resulting annualized yields and costs for the three month periods ended June 30, 2011 and 2010.

   
June 30, 2011
 
June 30, 2010
   
Average
Balance
   
Interest
   
Average
Yield/ Cost
 
Average
Balance
   
Interest
   
Average
Yield/ Cost
Investments
  $ 27,580,826     $ 225,060       3.27 %   $ 26,805,694     $ 232,420       3.48 %
Federal funds sold and other
    interest-earning deposits
    11,619,140       3,154       .11 %     14,641,467       4,682       .13 %
Loans, excluding nonaccruals
    103,764,573       1,499,870       5.80 %     122,260,555       1,775,594       5.83 %
                                                 
                                                 
   Total interest earning assets
    142,964,539       1,728,084       4.85 %     163,707,716       2,012,696       4.93 %
                                                 
                                                 
Interest bearing transaction
    accounts
    13,301,881       13,390       .40 %     13,230,841       15,251       .46 %
Savings and money market
    51,936,892       110,345       .85 %     51,086,580       193,961       1.52 %
Time deposits
    65,316,280       264,842       1.63 %     77,252,253       388,342       2.02 %
   Total interest bearing deposits
    130,555,053       388,577       1.19 %     141,569,674       597,554       1.69 %
                                                 
Retail repurchase agreements and
     sweeps
    2,201,160       6,458       1.18 %     2,631,147       9,743       1.49 %
Borrowings from FHLB Atlanta
    2,535,691       24,123       3.82 %     8,187,191       40,330       1.98 %
Broker repurchase agreements
    5,000,000       44,034       3.53 %     5,000,000       44,034       3.53 %
   Total interest bearing liabilities
  $ 140,291,904       463,192       1.32 %   $ 157,388,012       691,661       1.76 %
                                                 
Net interest income
          $ 1,264,892                     $ 1,321,035          
Interest rate spread
                    3.53 %                     3.17 %
Interest margin
                    3.55 %                     3.24 %

The Bank, which accounts for all of the Company’s sensitivity to changes in interest rates, measures interest sensitivity using various methods. Using a static GAP measurement, which compares the amount of interest sensitive assets repricing within a one year time period as compared to the amount of interest sensitive liabilities repricing within the same time frame, the Bank’s sensitivity to changes in interest rates can be analyzed. This method does not take into account loan prepayments and other non-contractual changes in balances and the applicable interest rates, but it does give some information as to possible changes in net interest income that could be expected simply as a result of changes in interest rates. As of June 30, 2011, the Bank’s cumulative static GAP ratio was .60 through 12 months assuming all non-maturing deposits reprice immediately and that all securities reprice in the year of their maturity, without regard to calls or principal reductions on mortgage-backed securities. This indicates a liability-sensitive position as of June 30, 2011. However, this measurement is based on assumptions about the repricing of various accounts, which may not occur as they have been modeled. Assuming some non-maturing deposits reprice in periods other than the first twelve months, and accounting for principal reductions on mortgage-backed securities, the Bank’s cumulative static GAP ratio is .94 through 12 months.
 
Based on a static GAP measurement, in a period of rising interest rates, asset-sensitive balance sheets would normally be expected to experience a widening of the net interest margin, while liability-sensitive balance sheets such as the Bank’s would normally be expected to experience pressure on the net interest margin. In a period of decreasing interest rates, liability-sensitive balance sheets would normally be expected to experience a widening of the net interest margin and asset-sensitive balance sheets would normally be expected to experience the opposite effect. Various market factors can, however, affect the net interest margin and cause it to react differently to changes in interest rates than would normally be expected under the static GAP model.
 
Provision for loan losses
For the quarter ended June 30, 2011, the Company expensed $110,000 to the provision for loan losses. The Bank sets the allowance for loan loss levels in response to trends in the portfolio and the level of potential problem loans. During the quarter, charge-offs totaled $251,219 and recoveries totaled $19,337.

 
14

 
Management has sought to provide the amount estimated to be necessary to maintain an allowance for loan losses that is adequate to cover the level of loss that management believes to be inherent in the portfolio as a whole, taking into account the Company’s experience, economic conditions and information about borrowers available at the time of the analysis. However, management believes further deterioration of economic conditions in the Company's market areas in the short-term is possible, especially with respect to real estate related activities and real property values.  Consequently, management expects that further increases in provisions for loan losses could be needed in the future. See “Balance Sheet Review- Loans” for additional information on the Company’s loan portfolio and allowance for loan losses.

Noninterest income
The primary recurring drivers of noninterest income for the Company and the Bank are service charges on deposit accounts. For the three months ended June 30, 2011, the Company earned $129,531 in service charges on deposit accounts compared to $138,148 for the same period in 2010. The decrease is primarily related to a decrease in insufficient funds charges. Other noninterest income was $57,183 in the second quarter of 2011 compared to $49,595 for the second quarter of 2010.
 
Noninterest expense
Noninterest expense totaled $1.5 million for the three months ended June 30, 2011 and $1.3 million for the three months ended June 30, 2010. Expense related to other real estate owned increased to $403,606 in the second quarter of 2011 compared to $102,149 in the second quarter of 2010. The increase is primarily due to write downs of value based on new appraisals. However, holding costs also increased year over year. Professional and regulatory fees increased $27,316 as a result of increases in FDIC insurance premiums and an increase in the cost of regulatory examinations.
 

 
Results of Operations for the Six Months Ended June 30, 2011 and 2010

Summary
The Company’s net loss for the six months ended June 30, 2011 was $200,640 or ($.11) per common share, compared to a loss of $262,875 or ($.12) per common share for the six months ended June 30, 2010 (including the effect of the five percent stock dividend declared in 2010). The decrease in the net loss is due to a decrease in the provision for loan losses, partially offset by higher noninterest expense.

Net Interest Income
Net interest income was $2.5 million in the first six months of 2011 compared to $2.6 million for the six months ended June 30, 2010. Net interest income was down slightly for the six months ended June 30, 2011 compared to the same period in 2010 primarily because of decreases in earning asset volumes. Average balances of earning assets declined from $164.3 million for the six months ended June 30, 2010 to $142.8 million for the six months ended June 30, 2011. As the economy continues to improve at a very slow pace, demand for loans is very low. Loans are the Company’s highest earning asset type.


 
15

 
The table below illustrates the average balances of interest earning assets and interest bearing liabilities and the resulting annualized yields and costs for the six month periods ended June 30, 2011 and 2010.

   
June 30, 2011
 
June 30, 2010
   
Average
Balance
   
Interest
Earned
   
Average
Yield/Cost
 
Average
Balance
   
Interest
Earned
   
Average
Yield/Cost
Investments
  $ 25,999,873     $ 413,751       3.21 %   $ 27,792,125     $ 500,662       3.63 %
Federal Funds Sold
    10,504,743       6,661       .13 %     11,686,639       7,062       .12 %
Loans
    106,249,305       3,091,934       5.87 %     124,837,141       3,544,876       5.73 %
   Total interest earning assets
    142,753,921       3,512,346       4.96 %     164,315,905       4,052,600       4.97 %
                                                 
Interest bearing transaction
    accounts
    13,061,755       27,082       .42 %     13,028,496       30,342       .47 %
Savings and money market accounts
    50,879,521       237,850       .94 %     50,086,611       407,989       1.64 %
Time deposits
    66,248,670       556,032       1.69 %     78,849,286       811,228       2.07 %
                                                 
   Total interest bearing deposits
    130,189,946       820,964       1.27 %     141,964,393       1,249,559       1.77 %
Retail repurchase agreements and
    sweeps
    2,543,055       14,040       1.11 %     2,854,997       22,406       1.58 %
Advances from FHLB
    2,842,141       51,002       3.62 %     8,819,608       100,007       2.29 %
Broker repurchase agreements
    5,000,000       87,584       3.53 %     5,000,000       88,068       3.55 %
   Total interest bearing liabilities
  $ 140,575,142       973,590       1.40 %   $ 158,638,998       1,460,040       1.86 %
                                                 
Net interest income
          $ 2,538,756                     $ 2,592,560          
Interest rate spread
                    3.56 %                     3.12 %
Interest margin
                    3.59 %                     3.18 %

Provision for loan losses
The amount of the Company’s provision for loan losses for the six months ended June 30, 2011 was $260,000          compared to $900,000 for the six months ended June 30, 2010. Charge-offs totaled $482,340 during the first half of 2011 compared to $763,907 for the first six months of 2010. Recoveries totaled $24,337 for the first six months of 2011. There were no recoveries in the first six months of 2010. See “Balance Sheet Review- Loans” for additional information on the Company’s loan portfolio and allowance for loan losses.

Noninterest income
Noninterest income for the six months ended June 30, 2011 was $342,680 compared to $359,946 for the six months ended June 30, 2010. For the six-month periods ended June 30, decreases in service charges on deposits in 2011 compared to 2010 were offset by an increase in brokerage income in 2011 compared to 2010.
 
Noninterest expense
Total noninterest expense for the six months ended June 30, 2011was $2.8 million compared to $2.5 million for the first six months of 2010. Salaries and benefits, occupancy expenses, and other expenses were down slightly in the first half of 2011 compared to the first half of 2010. However, increases in expenses associated with foreclosed property and professional and regulatory fees offset any decreases in other categories in 2011 compared to 2010. Expenses associated with foreclosed properties include recognition of decreases in appraised values as well as holding costs such as property taxes, insurance and maintenance costs. Decreases in appraised values accounted for expense of $333,830 for the first half of 2011 compared to $19,330 for the first half of 2010. The increase is primarily the result of an increase in the number of properties that have been owned for one year. Regulations require that foreclosed property must be reappraised annually. In 2011 appraised values on certain property types have continued to decline. The Company continues to market foreclosed property for sale in an effort to decrease holding costs going forward. However, the inventory of unsold real estate in South Carolina remains high as of June 30, 2011.

 
 
16

 

Balance Sheet Review
Investments
 
At June 30, 2011, the Bank held available for sale securities with a fair value of $27.3 million and other investments with an amortized cost of $1.0 million. Available for sale securities include government sponsored enterprise bonds, mortgage-backed securities, and municipal bonds. The fair values of the Company’s available for sale investments, other than municipal bonds, are measured on a recurring basis using quoted market prices in active markets for identical assets and liabilities (“Level 1 inputs” under FASB ASC 820). Due to the lower level of trading activity in municipal bonds, the fair market values of these investments are measured based on other inputs such as inputs that are observable or can be corroborated by observable market data for similar assets with substantially the same terms (“Level 2 inputs” under FASB ASC 820). We obtain our fair value information via our bond accounting vendor. This vendor obtains municipal bond market pricing from Interactive Data, a provider of third-party financial market data. The Company does not adjust market pricing received from this vendor, but we do request that a qualified analyst review each municipal bond in the portfolio to determine if any other information is available that would call into question the market values used.
 
Other investments include stock in the Federal Home Loan Bank of Atlanta and the Federal Reserve Bank. These stocks are held at amortized cost because they have no quoted market value and have historically been redeemed at par value. However, there can be no assurance that these stocks will, in fact, be redeemed at cost in the future.
 
As of June 30, 2011, investments available for sale had a net unrealized gain of $476,084. As of June 30, 2011, the Company held three investments in an unrealized loss position, but none of the investments had been in an unrealized loss position for 12 months or more.  Based on its other-than-temporary impairment analysis at June 30, 2011, the Company concluded that gross unrealized losses were not other-than-temporary.
 
The amortized cost and fair value of investment securities available-for-sale are as follows:

   
June 30, 2011
   
Amortized
   
Gross unrealized
   
Fair
 
   
Cost
   
Gains
   
Losses
   
value
 
Government sponsored enterprise bonds
  $ 4,487,623     $ 21,558     $ 42,043     $ 4,467,138  
Mortgage-backed securities
    14,042,384       287,823       -       14,330,207  
Municipal bonds
    8,314,102       242,075       33,329       8,522,848  
Total investment securities available-
    for-sale
  $ 26,844,109     $ 551,456     $ 75,372     $ 27,320,193  
                                 
   
December 31, 2010
   
Amortized
   
Gross unrealized
   
Fair
 
   
cost
   
Gains
   
Losses
   
value
 
Government sponsored enterprise bonds
  $ 4,486,806     $ 21,597     $ 131,752     $ 4,376,651  
Mortgage-backed securities
    10,909,120       132,800       48,842       10,993,078  
Municipal bonds
    8,319,212       123,001       219,606       8,222,607  
Total investment securities available-
    for-sale
  $ 23,715,138     $ 277,398     $ 400,200     $ 23,592,336  

The amortized cost and fair value of securities at June 30, 2011, by contractual maturity, are shown in the following chart. Expected maturities may differ from contractual maturities because borrowers may have the right to call or prepay obligations with or without call or prepayment penalties.

   
June 30, 2011
 
   
Amortized Cost
   
Fair Value
 
           
Due after one through five years
  $ 1,021,676     $ 1,069,729  
Due after five through ten years
    5,421,922       5,473,016  
After ten years or no maturity
    20,400,511       20,777,448  
                 
Total investment securities
  $ 26,844,109     $ 27,320,193  
 
17

 
Loans
The following table summarizes the composition of our loan portfolio.
 
   
June 30, 2011
 
December 31, 2010
   
Amount
   
% of
Loans
 
Amount
   
% of
Loans
Commercial and industrial
  $ 11,190,226       10.4 %   $ 12,580,841       10.5 %
Real Estate – construction
    34,331,658       32.0       41,855,338       34.9  
Real Estate – mortgage
                               
1-4 family residential
    18,180,954       17.0       19,604,943       16.3  
Nonfarm, nonresidential
    41,009,768       38.3       43,080,225       36.0  
Multifamily residential
    1,753,751       1.6       1,793,400       1.5  
Consumer installment
    710,778       .7       999,453       .8  
Total Loans
    107,177,135       100.0 %     119,914,200       100.0 %
        Less allowance for loan losses
    (2,505,427 )             (2,703,430 )        
           Net Loans
  $ 104,671,708             $ 117,210,770          

Allowance for loan losses
Portfolio Segmentation Methodology
 
The provision for loan losses charged to operating expenses reflects the amount deemed appropriate by management to establish an adequate reserve to meet the probable loan losses incurred in the current loan portfolio. Management’s judgment is based on periodic and regular evaluation of individual loans, the overall risk characteristics of the various portfolio segments, past experience with losses, delinquency trends, and prevailing economic conditions. To estimate the amount of allowance necessary the Company separates the portfolio into segments. The portfolio is first separated into groups according to the internal loan rating assigned by management. Loans rated “Other Assets Especially Mentioned” (“OAEM”), “Substandard” “Doubtful” or “Loss,” as defined in the Bank’s loan policy, are evaluated individually for impairment. The Company uses regulatory call report codes to stratify the remaining portfolio and tracks the Bank’s own charge-offs and those of peer banks using FDIC Call Report data. The Bank’s own charge-off ratios by call report code are used to project potential loan losses in the future on loans that are rated “Satisfactory” or better. Charge-off ratios may be increased or decreased based on other environmental factors which may need to be considered, such as unemployment rates and volatility of real estate values. While management uses the best information available to it to make evaluations, future adjustments to the allowance may be necessary if economic conditions differ substantially from the assumptions used in making the evaluations. The allowance for loan losses is also subject to periodic evaluation by various regulatory authorities and may be subject to adjustment upon their examination.
 

Credit Quality Indicators
Loans on the bank’s watch list (including loans rated OAEM, Substandard, Doubtful or Loss as defined in the Bank’s loan policy) totaled approximately $21.5 million as of June 30, 2011 and $20.6 million as of December 31, 2010. Loans evaluated and rated Substandard totaled $14.2 million as of June 30, 2011. The Substandard rating is defined as applicable to loans having a well-defined weakness in the liquidity or net worth of the borrower or the collateral that could jeopardize the liquidation of the debt. Well-defined weaknesses could include deterioration in the borrower’s financial condition or cash flows, significant changes in the value of underlying collateral, and other indicators.  The remaining loans are rated Special Mention ($6.5 million) or Doubtful ($1.0 million). The loan rated Doubtful is rated as such due to the length of time that has been required to resolve the circumstances surrounding the credit and convert the asset back to earning status. There is not expected to be a material loss associated with the loan because assets are available to repay the debt as soon as legal proceedings between the borrowers are completed. These loans are generally reviewed individually to determine which category they will be placed in for purposes of the calculation of the adequacy of the allowance for loan losses.

 
18

 

Delinquent loans and loans on non-accrual are presented by call report category in the table below.

   
June 30, 2011
   
December 31, 2010
 
   
Past due
30-89 Days
   
Nonaccrual or
Past due over 90 Days
   
Past due
30-89 Days
   
Nonaccrual or
Past due over 90 Days
 
                         
  Loans secured by real estate – construction
  $ 1,730,220     $ 3,603,636     $ 891,035     $ 7,218,012  
  Loans secured by real estate – single family
    829,732       1,968,769       1,977,519       1,522,290  
  Loans secured by real estate –nonfarm, nonresidential
    1,114,662       366,362       -       -  
  Commercial and industrial loans
    70,040       992,027       -       992,027  
  Loans to consumers
    -       -       -       -  
          Total
  $ 3,744,654     $ 6,930,794     $ 2,868,554     $ 9,732,329  
                                 

Management closely monitors delinquent loans. The increase in loans past due 30 to 89 days as of June 30, 2011 in comparison to December 31, 2010 is primarily due to two relationships.  Management has evaluated those relationships and believes that sufficient collateral exists to cover the Company’s investment in the loans. The decrease in loans on nonaccrual is primarily due to completion of the foreclosure process.

Impaired loans by portfolio segment, the majority of which are included in the table above, as of the dates indicated, were as follows:

   
June 30, 2011
 
December 31, 2010
   
Impaired Loans
   
% of
Total
 
Impaired
 Loans
   
% of
Total
Commercial and industrial
  $ 1,121,675       11.7 %   $ 1,129,662       10.6 %
Real Estate – construction
    5,619,839       58.8       7,218,013       67.8  
Real Estate – mortgage
                               
1-4 family residential
    1,975,777       20.7       2,137,335       20.1  
Nonfarm, nonresidential
    838,870       8.8       152,310       1.4  
Consumer installment
    -       -       1,869       .1  
                                 
Total impaired loans (1)
    9,556,161       100.0 %     10,639,189       100.0 %
        Less related allowance for loan losses
    (454,702 )             (348,436 )        
           Net nonperforming loans
  $ 9,101,459             $ 10,290,753          
                                 
(1)  
Includes loans on nonaccrual. Does not include an unfunded letter of credit in the amount of $44,303 that is also considered impaired. The related allowance does include the impaired letter of credit.

The Bank accounts for impaired loans in accordance with a financial accounting standard that requires all lenders to value a loan at the loan’s fair value if it is probable that the lender will be unable to collect all amounts due according to the terms of the loan agreement. Factors considered by management in determining impairment include payment status, collateral value, and the probability of collecting scheduled principal and interest payments when due. Loans that experience insignificant payment delays and payment shortfalls generally are not classified as impaired. Management determines the significance of payment delays and payment shortfalls on a case-by-case basis taking into consideration all the circumstances of the loan and the borrower, including the length of the delay, reasons for the delay, the borrower’s payment record and the amount of the shortfall in relation to the principal and interest owed. The fair value of an impaired loan may be determined based upon the present value of expected cash flows, market price of the loan, if available, or value of the underlying collateral. Expected cash flows are required to be discounted at the loan’s effective interest rate. The Bank’s loan portfolio is largely dependent on collateral for repayment if the borrower’s financial position deteriorates. Therefore, the most common type of valuation is to determine collateral value less disposal costs in order to determine carrying values for loans deemed impaired.

 
19

 
Loans which management identifies as impaired generally will be nonperforming loans or restructured loans (also known as “troubled debt restructurings” or “TDR’s”). Nonperforming loans include nonaccrual loans or loans which are 90 days or more delinquent as to principal or interest payments. As of June 30, 2011, the Bank had nonaccrual loans of $6.9 million representing 25 loans, a decrease of $2.8 million from December 31, 2010. With the exception of one loan in the amount of $1.0 million, these loans are secured by real estate. In addition to loans on nonaccrual, as of June 30, 2011, management considers another $2.6 million of loans impaired. The additional impaired loans include TDR’s totaling $893,646. Management routinely assesses the collateral and other circumstances associated with impaired loans in an effort to determine the amount of potential impairment. These loans are currently being carried at management’s best estimate of net realizable value, although no assurance can be given that no further losses will be incurred on these loans until the collateral has been acquired and liquidated or other arrangements can be made.  The foreclosure process is lengthy (generally a minimum of six months and often much longer), so loans may be on nonaccrual status for a significant time period prior to moving to other real estate owned, and sold. As soon as the amount of impairment is estimable, the amount of principal impairment is generally charged against the allowance for loan losses. However, until losses and selling costs can be estimated via appraisal or other means, a portion of the allowance may be allocated to specific impaired loans. The timing of the appraisal varies from loan to loan depending on the Bank’s ability to access the property.  As of June 30, 2011 the allowance for loan losses included approximately $454,702 of reserves specifically related to impaired loans. Of that amount, a significant portion is related to selling costs or is held in the abundance of caution, due to the length of certain legal proceedings. It is possible that a portion of the specific reserves related to impaired loans  as of June 30, 2011 will not ultimately be needed.

Management’s estimates of net realizable value or fair value of real estate collateral are obtained (on a nonrecurring basis) using independent appraisals, less estimated selling costs. Estimates of net realizable value for equipment and other types of personal property collateral are estimated based on input from equipment dealers and other professionals. If an appraisal is not available or management determines that fair value of the collateral is further impaired below the appraised value and there is no observable market price, the Company records the impaired loan as determined by Level 3 inputs as defined by FASB ASC 820, “Fair Value Measurements and Disclosures”.

Management identifies and maintains a list of potential problem loans. These are loans that are not included in nonaccrual status or impaired loans. A loan is added to the potential problem list when management becomes aware of information about possible credit problems of borrowers that causes serious doubts as to the ability of such borrowers to comply with the current loan repayment terms. These loans are designated as such in order to be monitored more closely than other credits in the Bank’s portfolio. There were loans in the amount of $1.8 million that have been determined by management to be potential problem loans at June 30, 2011. These loans are generally secured by real estate, and in many cases have been reappraised. Should potential problem loans become impaired, management will charge-off any impairment amount as soon as the amount of impairment can be determined.

 
20

 

Activity in the allowance for loan losses for the first six months of 2011 and 2010 is presented below.
 
   
Six months ended
June 30, 2011
   
Six months ended
June 30, 2010
 
             
Allowance for loan losses, beginning of year
  $ 2,703,430     $ 2,695,337  
Provision for losses
    260,000       900,000  
Charge-offs:
               
    Consumer
    -       2,133  
    Real estate- construction
    391,490       669,772  
    Real estate- 1-4 family residential
    90,850       92,002  
      Total charge-offs
    482,340       763,907  
Recoveries
               
    Commercial and industrial
    24,337       -  
     Total recoveries
    24,337       -  
        Net charge-offs
    458,003       763,907  
      Allowance for loan losses, end of period
  $ 2,505,427     $ 2,831,430  
                 
     Nonaccruing loans to gross loans at end of period
    6.47 %     6.02 %
     Net charge-offs to average loans outstanding
    (.402 %)     (.574 %)
     Net charge-offs to loans at end of period
    (.427 %)     (.595 %)
     Allowance for loan losses to average loans
    2.20 %     2.13 %
     Allowance for loan losses to loans at end of period
    2.34 %     2.20 %
     Net charge-offs to allowance for loan losses
    (18.3 %)     (27.0 %)
     Net charge-offs to provision for loan losses
    (176.2 %)     (84.8 %)

Other real estate owned

As of June 30, 2011 the Company held other real estate owned as a result of foreclosures totaling $13.1 million, representing 41 properties. Of the total recorded amount, $8.9 million relates to collateral formerly securing construction and land development loans, $3.0 million relates to properties formerly securing single family residential loans, and $1.2 million relates to collateral securing former nonfarm-nonresidential mortgage loans. If, at the time of foreclosure, the fair value is determined to be lower than the Company’s recorded investment, a charge-off is recorded at that time. If an appraisal is available, the appraisal will be used to estimate fair value. If an appraisal is not available or management determines that fair value of the collateral is further impaired below the appraised value and there is not an observable market price, the Company records the asset as determined by Level 3 inputs as defined by FASB ASC 820. If the property has been held for longer than one year, the Company’s policy is to arrange for an updated appraisal, unless the circumstances of the property indicate that an appraisal is not necessary. If a property is determined to be over-valued upon appraisal, the excess is charged to expense. At June 30, 2011, approximately $1.4 million of other real estate was under contract for sale.
 
The Company has acquired a significant number of real estate properties in settlement of loans. A summary of the activity in other real estate owned follows:

   
June 30,
 
   
2011
   
2010
 
             
Beginning balance
  $ 10,278,599     $ 6,712,948  
Additions from foreclosures and capitalized improvements
    5,223,409       4,539,791  
Write downs of value
    (333,830 )     -  
Sales
    (2,050,139 )     (3,125,491 )
        Ending other real estate owned
  $ 13,118,039     $ 8,127,248  

 
21

 
Other assets
 
As of June 30, 2011 other assets included accrued interest receivable on loans and investment securities available for sale totaling over $587,000, a deferred tax asset of approximately $856,000, prepaid expenses of approximately $567,000 and several miscellaneous items. Prepaid expenses include $485,000 of FDIC premiums for the remainder of 2011 and 2012 that were required to be prepaid to the FDIC in December 2009. The Company also has an income tax receivable of approximately $53,000 as of June 30, 2011. See Note 6 to the unaudited consolidated financial statements above for additional information related to income taxes.

Deposits
 
The following table shows the average balance amounts and the average rates we paid on deposits for the three months ended June 30, 2011 and 2010.
 
   
Average Deposits
   
Three months ended
June 30, 2011
 
Three months ended
June 30, 2010
   
Amount
   
Rate
 
Amount
   
Rate
                         
Noninterest bearing demand
  $ 12,219,033       - %   $ 12,168,099       - %
Interest bearing transaction accounts
    13,301,881       .40 %     13,230,841       .46 %
Savings and money market
    51,936,892       .85 %     51,086,580       1.52 %
Time deposits
    65,316,280       1.63 %     77,252,253       2.02 %
Total average deposits
  $ 142,774,086             $ 153,737,773          
 
Included in total deposits as of June 30, 2011 were $10.6 million of deposits considered to be brokered deposits based on regulatory definitions. These deposits come from a variety of sources, and are generally fully insured by the FDIC. The Company uses brokered deposits to fund various maturities that may not be attractive to customers in the local market area or to supplement local time deposits when interest rates offered locally are higher than interest rates on similar products in other markets. Pursuant to a formal agreement the Bank entered into with the Office of the Comptroller of the Currency (“OCC”) on May 12, 2010, the Bank is currently required to obtain a determination of no supervisory objection from the OCC prior to accepting or renewing brokered deposits.

Borrowings
 
The Bank’s outstanding borrowings are described in the following table. The amounts listed as broker repurchase agreements are collateralized borrowings from other institutions. Retail repurchase agreements with the Bank’s customers are not included in the table below.

 
Borrowings at or for the three months ended June 30, 2011
 
   
Ending Balance
   
Period- End Rate
 
Maximum Month-end Balance
   
Average Balance
   
Weighted Average Rate Paid
Federal Home Loan Bank advances
  $ 2,516,922       3.77 %   $ 2,542,061     $ 2,535,691       3.82 %
Broker repurchase agreements
  $ 5,000,000       3.52 %   $ 5,000,000     $ 5,000,000       3.53 %

Of the $2.5 million of FHLB advances outstanding, $516,922 are principal reducing credits with final maturities in 2013 through 2015. The remaining $2.0 million is a convertible advance with a final maturity in 2018.

Of the $5.0 million of broker repurchase agreements outstanding, $2.0 million has a final maturity in January, 2013 and $3.0 million has a final maturity in January, 2015. Both are callable, quarterly, beginning on January 10, 2010 and January 15, 2012, respectively.



 
22

 

Liquidity
 
Liquidity is the ability to meet current and future obligations through liquidation or maturity of existing assets or the acquisition of liabilities. The Company manages both assets and liabilities to achieve appropriate levels of liquidity. Cash and short-term investments are the Company’s primary sources of asset liquidity. These funds provide a cushion against short-term fluctuations in cash flow from both deposits and loans. The investment portfolio is the Company’s principal source of secondary asset liquidity. However, the availability of this source of funds is influenced by market conditions. Individual and commercial deposits and borrowings are the Company’s primary source of funding for credit activities. The Company has a line of credit with the FHLB of Atlanta. The FHLB line is based on the availability of eligible collateral, with a maximum borrowing capacity of 10% of Bank assets. The Bank currently has $2.5 million borrowed under the FHLB line. Approximately $14.4 million is available under the FHLB line, assuming adequate collateral is available for pledging. The Bank also has arrangements in place to borrow from the Federal Reserve Discount Window if necessary. The amount of collateral fluctuates with the borrowing base, which is based on a percentage of the outstanding balance of eligible loan collateral. Management believes that the Company’s liquidity sources are adequate to meet its operating needs.
 

Off Balance Sheet Risk
 
Through the operations of the Bank, the Company has contractual commitments to extend credit in the ordinary course of its business activities. These commitments are legally binding agreements to lend money to the Bank’s customers at predetermined interest rates for a specified period of time. Commitments are subject to various conditions which are expected to reduce the credit risk to the Company. The Bank’s management evaluates each customer’s creditworthiness on a case-by-case basis. The amount of collateral obtained, if deemed necessary by management upon extension of credit, is based on a credit evaluation of the borrower. Collateral varies but may include accounts receivable, inventory, property, plant and equipment, and commercial or residential real estate. Management manages the credit risk on these commitments by subjecting them to normal underwriting and risk management processes.
 
At June 30, 2011, the Bank had issued commitments to extend credit of $9.0 million through various types of lending arrangements and overdraft protection arrangements. Of that amount, approximately $3.2 million was undisbursed amounts of closed-end loans, $1.1 million was related to unused overdraft protection, and approximately $4.7 million was related to lines of credit. The Bank also had standby letters of credit outstanding of approximately $510,176 at June 30, 2011. There is one letter of credit that is considered impaired. It has been included in the analysis of the adequacy of the allowance for loan losses. An immaterial amount of fees were collected related to these commitments and letters of credit during the three and six-month periods ended June 30, 2011. Historically many of these commitments and letters of credit expire unused, and the total amount committed as of June 30, 2011 is not necessarily expected to be funded.
 
The Bank offers an automatic overdraft protection product to checking account customers. Each qualified account with the automatic overdraft protection feature can have up to $500 of paid overdrafts. Unused overdraft protection was $1.1 million as of June 30, 2011, the majority of which is not expected to be utilized. As of June 30, 2011, accounts in overdraft status totaled $17,965.
 

 
Capital Resources
 
The capital base for the Company increased by $219,974 for the first six months of 2011. This was due to stock based compensation activity, and increases in accumulated other comprehensive income, partially offset by a net loss. Stock based compensation activity includes the impact of accounting requirements on unexercised options. There were no options exercised during the quarter ended June 30, 2011, and no options expired. The Company’s ending equity to asset ratio was 11.0% as of June 30, 2011.
 
The following table details return on average assets (net income divided by average total assets, annualized in 2011), return on average equity (net income divided by average total equity, annualized in 2011), the ratio of average equity to average assets and the Dividend Payout Ratio (dividends paid divided by net income) as of and for the six months ended June 30, 2011 and as of and for the year ended December 31, 2010. The annualized return on assets and return on equity for the first six months of 2011 have improved compared to return on assets and return on equity for the year ended December 31, 2010. However, annualized results for the first six months of 2011 may not be indicative of actual annual results for 2011.
 
 
23

 
   
Six- month period ended
June 30, 2011
 
Year ended
December 31, 2010
   
(annualized)
     
Return on average assets
    (.23 %)     (.27 %)
Return on average equity
    (2.17 %)     (2.72 %)
Ratio of average equity to average assets
    10.7 %     9.93 %
Dividend payout ratio
    - %     - %

The FDIC has established guidelines for capital requirements for banks. As of June 30, 2011, the Bank is considered well capitalized based on the capital levels that are required to be maintained according to FDIC guidelines as shown in the following table.

Capital Ratios
 
Actual
 
Well Capitalized
Requirement Under Prompt Corrective Action Provisions
 
Adequately
Capitalized
Requirement
   
Amount
   
Ratio
 
Amount
   
Ratio
 
Amount
   
Ratio
As of June 30, 2011:
 
(Dollars in thousands)
 
Total capital to risk weighted assets
  $ 18,913       14.6 %   $ 12,998       10.0 %   $ 10,399       8.0 %
Tier 1 capital to risk weighted assets
  $ 17,268       13.3 %   $ 7,799       6.0 %   $ 5,199       4.0 %
Tier 1 capital to average assets
  $ 17,268       10.1 %   $ 8,553       5.0 %   $ 6,842       4.0 %
                                                 
As of December 31, 2010:
                                               
Total capital to risk weighted assets
  $ 19,307       13.8 %   $ 14,043       10.0 %   $ 11,234       8.0 %
Tier 1 capital to risk weighted assets
  $ 17,531       12.5 %   $ 8,426       6.0 %   $ 5,617       4.0 %
Tier 1 capital to average assets
  $ 17,531       9.8 %   $ 8,985       5.0 %   $ 7,188       4.0 %

In addition to the FDIC requirements shown above, the Bank is currently required to maintain individual minimum capital ratios by the OCC. Those required ratios are: Total capital to risk weighted assets– 12.0%; Tier 1 capital to risk weighted assets – 11.0%; and Tier 1 capital to average assets– 9.0%. As of June 30, 2011 the Bank exceeded the additional capital requirements required by the OCC.

The Federal Reserve has also established guidelines for capital requirements for bank holding companies that are similar to the FDIC’s guidelines for banks. At June 30, 2011 the Company exceeded all of the minimum requirements of the Federal Reserve guidelines.

Regulatory Actions
 
The Company has entered into a memorandum of understanding with the Federal Reserve Bank of Richmond (“FRB”). The memorandum of understanding requires the Company to seek permission from the FRB before it takes certain actions such as payment of cash dividends, redemption of outstanding stock, etc. The Company believes it is in compliance with the memorandum of understanding with the FRB as of June 30, 2011.

On May 12, 2010, the Bank entered into a formal agreement with the OCC for the Bank to take various actions with respect to the operation of the Bank. The actions include creation of a committee of the Bank's board of directors to monitor compliance with the agreement and make quarterly reports to the board of directors and the OCC; assessment and evaluation of management and members of the board; development, implementation and adherence to a written program to improve the Bank's loan portfolio management; protection of the Bank’s interest in its criticized assets; implementation of a program that identifies and manages concentrations of credit risk; extension of the Bank’s strategic plan; extension of the Bank’s capital program and profit plan; additional plans for ensuring that the level of liquidity at the Bank is sufficient to sustain the current operations and withstand any anticipated or extraordinary demand; and a requirement for obtaining a determination of no supervisory objection from the OCC before accepting brokered deposits. The substantive actions called for by the agreement should strengthen the Bank and make it more efficient in the long-term. The Bank believes it has taken appropriate actions at June 30, 2011 to comply with the requirements included in the formal agreement.

 
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Impact of Inflation
 
Unlike most industrial companies, the assets and liabilities of financial institutions such as the Company are primarily monetary in nature. Therefore, interest rates have a more significant impact on the Company’s performance than do the effects of changes in the general rate of inflation and changes in prices. In addition, interest rates do not necessarily move in the same magnitude as the prices of goods and services. As discussed previously, management seeks to manage the relationships between interest sensitive assets and liabilities in order to protect against wide rate fluctuations, including those resulting from inflation.
 

Item 3. Quantitative and Qualitative Disclosures about Market Risk
 
Market risk is the risk of loss from adverse changes in market prices and rates which principally arises from liquidity risk and interest rate risk inherent in the Bank’s lending, deposit gathering, and borrowing activities. Other types of market risk such as foreign currency exchange risk and commodity price risk do not normally arise in the ordinary course of our business. The Funds Management Committee of our Board of Directors, which meets quarterly, monitors and considers methods of managing exposure to liquidity and interest rate risk. Management monitors liquidity and interest rate risk on an on-going basis. Management is responsible for maintaining the level of interest rate sensitivity of our interest sensitive assets and liabilities and managing our liquidity within board-approved limits.

Interest rate sensitivity “GAP” analysis measures the timing and magnitude of the repricing of assets compared with the repricing of liabilities and is an important part of asset/liability management. The objective of interest rate sensitivity management is to generate stable growth in net interest income, and to control the risks associated with interest rate movements. Management constantly reviews interest rate risk exposure and the expected interest rate environment so that adjustments in interest rate sensitivity can be made in a timely manner.

ITEM 4. Controls and Procedures.

Based on the evaluation required by 17 C.F.R. Section 240.13a-15(b) or 240.15d-15(b) of the Company’s disclosure controls and procedures (as defined in 17 C.F.R. Sections 240.13a-15(e) and 240.15d-15(e)), the Company’s chief executive officer and chief financial officer concluded that such controls and procedures, as of the end of the period covered by this report, were effective.

There has been no change in the Company’s internal control over financial reporting during the most recent fiscal quarter that has materially affected, or is reasonably likely to materially affect, the Company’s internal control over financial reporting.


 
 
 
 
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Part II - Other Information

ITEM 6.  Exhibits

Exhibits:
   
31-1
Rule 13a-14(a)/ 15d-14(a) Certifications of Chief Executive Officer
31-2
Rule 13a-14(a)/Rule 15d-14(a) Certifications of Chief Financial Officer
32
18 U.S.C. Section 1350 Certifications
101
Interactive Data File


SIGNATURES

Pursuant to the requirements of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned, thereunto duly authorized.


                   Cornerstone Bancorp
                      (Registrant)


By:  s/J. Rodger Anthony                      Date: August 11, 2011
        J. Rodger Anthony
        Chief Executive Officer



By: s/Jennifer M. Champagne               Date: August 11, 2011
       Jennifer M. Champagne
       Senior Vice President and Chief Financial Officer
       (Principal Financial Officer)
 
 
 
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