10-Q 1 a11-9488_110q.htm 10-Q

Table of Contents

 

 

 

UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

WASHINGTON, D.C. 20549

 

FORM 10-Q

 

(MARK ONE)

 

x      QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

 

For the Quarterly Period ended March 31, 2011

 

OR

 

o         TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

 

For the Transition Period from              to              

 

Commission File No. 000-52592

 

CONGAREE BANCSHARES, INC.

(Exact name of registrant as specified in its charter)

 

South Carolina

 

20-3863936

(State or other jurisdiction

 

(I.R.S. Employer

of incorporation)

 

Identification No.)

 

1201 Knox Abbott Drive

Cayce, South Carolina 29033

(Address of principal executive offices)

 

(803) 794-2265

(Registrant’s telephone number including area code)

 


 

Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days.  Yes x  No o

 

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 (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files).  Yes o  No o

 

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 o

 

Accelerated filer o

 

 

 

Non-accelerated o
(Do not check if 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 o  No x

 

Indicate the number of shares outstanding of each of the issuer’s classes of common stock, as of the latest practicable date: 1,764,439 shares of common stock, par value $0.01 per share, were issued and outstanding as of May 13, 2011.

 

 

 



Table of Contents

 

INDEX

 

 

 

Page No.

 

 

 

PART I - FINANCIAL INFORMATION

 

 

 

 

Item 1.

Financial Statements

 

 

 

 

 

Consolidated Condensed Balance Sheets - March 31, 2011 (Unaudited) and December 31, 2010

2

 

 

 

 

Consolidated Condensed Statements of Operations - Three months ended March 31, 2011 and 2010 (Unaudited)

3

 

 

 

 

Consolidated Condensed Statements of Changes in Shareholders’ Equity and Comprehensive Income (Loss)- Three months ended March 31, 2011 and 2010 (Unaudited)

4

 

 

 

 

Consolidated Condensed Statements of Cash Flows - Three months ended March 31, 2011 and 2010 (Unaudited)

5

 

 

 

 

Notes to Consolidated Condensed Financial Statements

6

 

 

 

Item 2.

Management’s Discussion and Analysis of Financial Condition and Results of Operation

20

 

 

 

Item 3.

Quantitative and Qualitative Disclosures About Market Risk

35

 

 

 

Item 4.

Controls and Procedures

35

 

 

 

PART II - OTHER INFORMATION

 

 

 

 

Item 1.

Legal Proceedings

36

 

 

 

Item 1A.

Risk Factors

36

 

 

 

Item 2.

Unregistered Sales of Equity Securities and Use of Proceeds

36

 

 

 

Item 3.

Defaults Upon Senior Securities

36

 

 

 

Item 4.

(Removed and Reserved)

36

 

 

 

Item 5.

Other Information

36

 

 

 

Item 6.

Exhibits

36

 

1



Table of Contents

 

CONGAREE BANCSHARES, INC.

 

PART I - FINANCIAL INFORMATION

Item 1. Financial Statements

 

Consolidated Condensed Balance Sheets

 

 

 

March 31, 2011
(unaudited)

 

December 31, 2010

 

Assets:

 

 

 

 

 

Cash and due from banks

 

$

2,722,060

 

$

2,771,515

 

Federal funds sold

 

8,030,000

 

2,280,000

 

Total cash and cash equivalents

 

10,752,060

 

5,051,515

 

 

 

 

 

 

 

Securities available-for-sale

 

23,393,544

 

20,776,657

 

Securities held-to-maturity (estimated fair value of $1,132,330 and $1,133,220 at March 31, 2011and December 31, 2010, respectively)

 

1,142,099

 

1,143,249

 

Non-marketable equity securities

 

474,300

 

474,300

 

Loans receivable

 

87,499,982

 

90,335,609

 

Less allowance for loan losses

 

1,508,907

 

1,552,061

 

Loans, net

 

85,991,075

 

88,783,548

 

 

 

 

 

 

 

Premises, furniture and equipment, net

 

759,554

 

753,709

 

Accrued interest receivable

 

515,107

 

503,753

 

Other real estate owned

 

3,508,442

 

3,293,167

 

Other assets

 

705,511

 

396,817

 

Total assets

 

$

127,241,692

 

$

121,176,715

 

Liabilities:

 

 

 

 

 

Deposits:

 

 

 

 

 

Noninterest-bearing transaction accounts

 

$

9,635,649

 

$

9,291,900

 

Interest-bearing transaction accounts

 

4,494,985

 

4,053,594

 

Savings and money market

 

53,196,665

 

46,281,198

 

Time deposits $100,000 and over

 

20,017,456

 

21,396,976

 

Other time deposits

 

24,844,977

 

25,562,324

 

Total deposits

 

112,189,732

 

106,585,992

 

 

 

 

 

 

 

Federal Home Loan Bank advances

 

3,000,000

 

3,000,000

 

Accrued interest payable

 

37,405

 

44,059

 

Other liabilities

 

391,467

 

370,016

 

Total liabilities

 

115,618,604

 

110,000,067

 

 

 

 

 

 

 

Shareholders’ equity:

 

 

 

 

 

Preferred stock, $.01 par value, 10,000,000 shares authorized:

 

 

 

 

 

Series A cumulative perpetual preferred stock 3,285 shares issued and outstanding at March 31, 2011 and December 31, 2010

 

3,175,770

 

3,167,722

 

Series B cumulative perpetual preferred stock 164 shares issued and outstanding at March 31, 2011 and December 31, 2010

 

174,773

 

175,538

 

Common stock, $.01 par value, 10,000,000 shares authorized; 1,764,439 shares issued and outstanding at March 31, 2011 and December 31, 2010

 

17,644

 

17,644

 

Capital surplus

 

17,688,324

 

17,688,324

 

Retained deficit

 

(9,071,859

)

(9,466,226

)

Accumulated other comprehensive income (loss)

 

(361,564

)

(406,354

)

 

 

 

 

 

 

Total shareholders’ equity

 

11,623,088

 

11,176,648

 

Total liabilities and shareholders’ equity

 

$

127,241,692

 

$

121,176,715

 

 

See notes to consolidated condensed financial statements.

 

2



Table of Contents

 

CONGAREE BANCSHARES, INC.

 

Consolidated Condensed Statements of Operations

(unaudited)

 

 

 

Three months ended

 

 

 

March 31,

 

 

 

2011

 

2010

 

Interest income:

 

 

 

 

 

Loans, including fees

 

$

1,219,689

 

$

1,457,789

 

Securities available for sale, taxable

 

173,307

 

181,041

 

Federal funds sold and other

 

4,669

 

5,322

 

 

 

 

 

 

 

Total interest income

 

1,397,665

 

1,644,152

 

 

 

 

 

 

 

Interest expense:

 

 

 

 

 

Time deposits $100,000 and over

 

88,273

 

212,834

 

Other deposits

 

242,207

 

353,751

 

Other borrowings

 

20,399

 

20,681

 

 

 

 

 

 

 

Total interest expense

 

350,879

 

587,266

 

 

 

 

 

 

 

Net interest income

 

1,046,786

 

1,056,886

 

 

 

 

 

 

 

Provision for loan losses

 

69,000

 

186,609

 

 

 

 

 

 

 

Net interest income after provision for loan losses

 

977,786

 

870,277

 

 

 

 

 

 

 

Noninterest income:

 

 

 

 

 

Service charges on deposit accounts

 

68,688

 

54,813

 

Residential mortgage origination fees

 

14,405

 

17,384

 

Gain on sale of securities

 

 

51,465

 

Other

 

37,619

 

15,572

 

 

 

 

 

 

 

Total noninterest income

 

120,712

 

139,234

 

 

 

 

 

 

 

Noninterest expenses:

 

 

 

 

 

Salaries and employee benefits

 

435,285

 

457,151

 

Net occupancy

 

120,437

 

92,060

 

Furniture and equipment

 

92,680

 

98,357

 

Professional fees

 

44,403

 

84,298

 

Regulatory fees and FDIC assessment

 

91,970

 

123,565

 

Other operating

 

244,636

 

188,393

 

 

 

 

 

 

 

Total noninterest expense

 

1,029,411

 

1,043,824

 

 

 

 

 

 

 

Income (loss) before income taxes

 

69,087

 

(34,313

)

Income tax benefit

 

377,315

 

 

 

 

 

 

 

 

Net income (loss)

 

446,402

 

(34,313

)

 

 

 

 

 

 

Net accretion of preferred stock to redemption value

 

7,283

 

7,283

 

Preferred dividends accrued

 

44,752

 

22,387

 

 

 

 

 

 

 

Net income (loss) available to common shareholders

 

$

394,367

 

$

(63,983

)

 

 

 

 

 

 

Income (loss) per common share

 

 

 

 

 

 

 

 

 

 

 

Basic income (loss) per common share

 

$

0.22

 

$

(0.04

)

 

 

 

 

 

 

 

 

Weighted average common shares outstanding

 

1,764,439

 

1,764,439

 

 

See notes to consolidated condensed financial statements.

 

3



Table of Contents

 

CONGAREE BANCSHARES, INC.

 

Consolidated Condensed Statements of Changes in Shareholders’ Equity and Comprehensive Income (Loss)

Three months ended March 31, 2011 and 2010 (Unaudited)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Accumulated Other

 

 

 

 

 

Preferred Stock

 

Common Stock

 

Capital

 

Retained

 

Comprehensive

 

 

 

 

 

Shares

 

Amount

 

Shares

 

Amount

 

Surplus

 

Deficit

 

Income  (loss) 

 

Total

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Balance, December 31, 2009

 

3,449

 

$

 3,314,129

 

1,764,439

 

$

 17,644

 

$

 17,658,940

 

$

 (8,959,528

)

$

 165,138

 

$

 12,196,323

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Accretion of Series A discount on preferred stock

 

 

 

8,048

 

 

 

 

 

 

 

(8,048

)

 

 

 

Amortization of Series B premium on preferred stock

 

 

 

(765

)

 

 

 

 

 

 

765

 

 

 

 

Dividends paid on preferred stock

 

 

 

 

 

 

 

 

 

 

 

(22,387

)

 

 

(22,387

)

Net loss

 

 

 

 

 

 

 

 

 

 

 

(34,313

)

 

 

(34,313

)

Other comprehensive income, net of taxes of $7,386

 

 

 

 

 

 

 

 

 

 

 

 

 

14,337

 

14,337

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Comprehensive loss

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

(19,976

)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Stock and warrant compensation expense

 

 

 

 

 

 

 

 

 

20,471

 

 

 

 

 

20,471

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Balance, March 31, 2010

 

3,449

 

$

 3,321,412

 

1,764,439

 

$

 17,644

 

$

 17,679,411

 

$

 (9,023,511

)

$

 179,475

 

$

 12,174,431

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Balance, December 31, 2010

 

3,449

 

$

 3,343,260

 

1,764,439

 

$

 17,644

 

$

 17,688,324

 

$

 (9,466,226

)

$

 (406,354

)

$

 11,176,648

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Accretion of Series A discount on preferred stock

 

 

 

8,048

 

 

 

 

 

 

 

(8,048

)

 

 

 

Amortization of Series B premium on preferred stock

 

 

 

(765

)

 

 

 

 

 

 

765

 

 

 

 

Dividends accrued on preferred stock

 

 

 

 

 

 

 

 

 

 

 

(44,752

)

 

 

(44,752

)

Net income

 

 

 

 

 

 

 

 

 

 

 

446,402

 

 

 

446,402

 

Other comprehensive income, net of taxes of $22,940

 

 

 

 

 

 

 

 

 

 

 

 

 

44,790

 

44,790

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Comprehensive income

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

491,192

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Balance, March 31, 2011

 

3,449

 

$

3,350,543

 

1,764,439

 

$

17,644

 

$

17,688,324

 

$

(9,071,859

)

$

(361,564

)

$

11,623,088

 

 

See notes to consolidated condensed financial statements.

 

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Table of Contents

 

CONGAREE BANCSHARES, INC.

 

Consolidated Condensed Statements of Cash Flows

(unaudited)

 

 

 

Three Months Ended
March 31,

 

 

 

2011

 

2010

 

Cash flow from operating activities

 

 

 

 

 

Net income (loss)

 

$

446,402

 

$

(34,313

)

Adjustments to reconcile net income (loss) to net cash provided by operating activities:

 

 

 

 

 

Provision for loan losses

 

69,000

 

186,609

 

Deferred income tax benefit

 

(377,315

)

 

Depreciation and amortization expense

 

48,847

 

64,272

 

Discount accretion and premium amortization

 

36,892

 

4,335

 

Stock and warrant compensation expense

 

 

20,471

 

Increase in accrued interest receivable

 

(11,354

)

(46,057

)

Increase (decrease) in accrued interest payable

 

(6,654

)

9,271

 

Gain from sale of securities available-for-sale

 

 

(51,465

)

Losses and writedowns on sales of other real estate

 

2,525

 

 

Decrease in other assets

 

47,248

 

37,052

 

Increase (decrease) in other liabilities

 

(23,301

)

91,280

 

Net cash provided by operating activities

 

232,290

 

281,455

 

 

 

 

 

 

 

Cash flow from investing activities

 

 

 

 

 

Proceeds from maturities/calls of securities available-for-sale

 

1,152,969

 

910,999

 

Proceeds from sale of securities available-for-sale

 

 

1,364,521

 

Purchase of securities available-for-sale

 

(3,739,435

)

(3,019,779

)

Purchase of securities held-to-maturity

 

 

(699,230

)

Net decrease in loans receivable

 

2,505,673

 

2,507,191

 

Purchase of premises, furniture and equipment

 

(54,692

)

(18,536

)

Net cash provided (used) by investing activities

 

(135,485

)

1,045,166

 

 

 

 

 

 

 

Cash flow from financing activities

 

 

 

 

 

Increase (decrease) in noninterest-bearing deposits

 

343,749

 

(1,525,785

)

Increase in interest-bearing deposits

 

5,259,991

 

5,828,929

 

Increase in securities sold under agreements to repurchase

 

 

1,022,731

 

 

 

 

 

 

 

Net cash provided by financing activities

 

5,603,740

 

5,325,875

 

 

 

 

 

 

 

Net increase in cash and cash equivalents

 

5,700,545

 

6,652,496

 

 

 

 

 

 

 

Cash and cash equivalents at beginning of the period

 

5,051,515

 

12,451,491

 

 

 

 

 

 

 

Cash and cash equivalents at end of the period

 

$

10,752,060

 

$

19,103,987

 

 

 

 

 

 

 

Supplemental cash flow information:

 

 

 

 

 

Interest paid on deposits and borrowed funds

 

$

357,533

 

$

577,995

 

Transfer of loans to other real estate

 

$

217,800

 

$

157,500

 

 

See notes to consolidated condensed financial statements.

 

5



Table of Contents

 

CONGAREE BANCSHARES, INC.

 

Notes to Consolidated Condensed Financial Statements

(unaudited)

 

Note 1 — Business and Basis of Presentation

 

Business Activity and Organization

 

Congaree Bancshares, Inc. (the “Company”) is a South Carolina corporation organized to operate as a bank holding company pursuant to the Federal Bank Holding Company Act of 1956 and the South Carolina Banking and Branching Efficiency Act, and to own and control all of the capital stock of Congaree State Bank (the “Bank”).  The Bank is a state chartered bank organized under the laws of South Carolina.  The Bank primarily is engaged in the business of accepting deposits insured by the Federal Deposit Insurance Corporation (the “FDIC”) and providing commercial, consumer and mortgage loans to the general public.

 

Basis of Presentation

 

The accompanying unaudited consolidated financial statements have been prepared in accordance with accounting principles generally accepted in the United States of America (“GAAP”) for interim financial information and with the instructions to Form 10-Q.  Accordingly, they do not include all information and footnotes required by GAAP for complete financial statements.  However, in the opinion of management, all adjustments (consisting of normal recurring adjustments) considered necessary for a fair presentation have been included.  Operating results for the three month period ended March 31, 2011 are not necessarily indicative of the results that may be expected for the year ending December 31, 2011.  For further information, refer to the financial statements and footnotes thereto included in our Annual Report on Form 10-K for the year ended December 31, 2010 as filed with the Securities and Exchange Commission (the “SEC”) on April 13, 2011.

 

Note 2 — Summary of Significant Accounting Policies

 

A summary of these policies is included in our Annual Report on Form 10-K for the year ended December 31, 2010.  For further information, refer to the consolidated financial statements and footnotes thereto included in our 2010 Annual Report on Form 10-K.  Accounting standards that have been issued or proposed by the Financial Accounting Standards Board that do not require adoption until a future date are not expected to have a material impact on the consolidated financial statements upon adoption.

 

Statements of Cash Flows

 

For purposes of reporting cash flows, the Company considered certain highly liquid debt instruments purchased with an original maturity of three months or less to be cash equivalents.  Cash equivalents include amounts due from banks, federal funds sold and certificates of deposit with other banks.  Generally, federal funds are sold for one-day periods.

 

Income (loss) Per Common Share

 

Basic income (loss) per common share is computed by dividing net income (loss) available to common shareholders by the weighted-average number of common shares outstanding.  Diluted income (loss) per common share is computed by dividing net income (loss) available to common shareholders by the weighted-average number of common shares outstanding and dilutive common share equivalents using the treasury stock method.  Dilutive common share equivalents include common shares issuable upon exercise of outstanding stock warrants and stock options.  Due to the net loss for the three months ended March 31, 2010, common stock equivalents were not included in loss per share calculations as their effects would be antidilutive.

 

6



Table of Contents

 

Note 2 — Summary of Significant Accounting Policies - continued

 

Basic and diluted net income (loss) per common share are computed below for the three months ended March 31, 2011 and 2010:

 

 

 

Three months ended

 

 

 

March 31,

 

 

 

2011

 

2010

 

Basic net income (loss) per common share computation:

 

 

 

 

 

Net income (loss) available to common shareholders

 

$

394,367

 

$

(63,983

)

Average common shares outstanding — basic

 

1,764,439

 

1,764,439

 

Basic net income (loss) per common share

 

$

0.22

 

$

(0.04

)

 

 

 

 

 

 

Diluted net income (loss) per common share computation:

 

 

 

 

 

Net income (loss) available to common shareholders

 

$

394,367

 

$

(63,983

)

Average common shares outstanding — basic

 

1,764,439

 

1,764,439

 

Incremental shares from assumed conversions: Stock options

 

 

 

Average common shares outstanding — diluted

 

1,764,439

 

1,764,439

 

Diluted net income (loss) per common share

 

$

0.22

 

$

(0.04

)

 

Comprehensive Income

 

GAAP requires that recognized income, expenses, gains, and losses be included in net income.  Although certain changes in assets and liabilities, such as unrealized gains and losses on available-for-sale securities, are reported as a separate component of the equity section of the balance sheet, such items, along with net income, are components of comprehensive income.

 

The change in the components of other comprehensive income and related tax effects are as follows for the three months ended March 31, 2011 and 2010:

 

 

 

Three months
ended March 31,

 

 

 

2011

 

2010

 

Change in unrealized gains on securities available for sale

 

$

67,730

 

$

73,188

 

Reclassification adjustment for gains realized in net income (loss)

 

 

(51,465

)

Net change in unrealized gains on securities

 

67,730

 

21,723

 

Tax effect

 

(22,940

)

(7,386

)

Net-of-tax amount

 

$

44,790

 

$

14,337

 

 

Subsequent Events

 

Subsequent events are events or transactions that occur after the balance sheet date but before financial statements are issued. Recognized subsequent events are events or transactions that provide additional evidence about conditions that existed at the date of the balance sheet, including the estimates inherent in the process of preparing financial statements.  Non-recognized subsequent events are events that provide evidence about conditions that did not exist at the date of the balance sheet but arose after that date. Management performed an evaluation to determine whether there have been any subsequent events since the balance sheet date, or March 31, 2011, and determined that no subsequent events occurred requiring accrual or disclosure.

 

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Table of Contents

 

Note 3 - Recently Issued Accounting Pronouncements

 

In January 2010, fair value guidance was amended to require disclosures for significant amounts transferred in and out of Levels 1 and 2 and the reasons for such transfers and to require that gross amounts of purchases, sales, issuances and settlements be provided in the Level 3 reconciliation.  Disaggregation of classes of assets and liabilities is also required. The new disclosures are effective for the Company for the current year and have been reflected in a separate note.

 

On July 21, 2010, President Obama 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 enactment of the Dodd-Frank Act will result in expansive changes in many areas affecting the financial services industry in general and the Company in particular.  The legislation provides broad economic oversight, consumer financial services protection, investor protection, rating agency reform and derivative regulatory reform. Various corporate governance requirements will result in expanded proxy disclosures and shareholder rights.  Additional provisions address the mortgage industry in an effort to strengthen lending practices.  Deposit insurance reform will result in permanent FDIC protection for up to $250,000 of deposits and will require the FDIC’s Deposit Insurance Fund to maintain 1.35% of insured deposits with the burden for closing any shortfall falling to banks with more than $10.0 billion in assets.

 

The Dodd-Frank Act includes several provisions that will affect how community banks, thrifts, and small bank and thrift holding companies will be regulated in the future.  Among others, one provision within the Dodd-Frank Act gives the Board of Governors of the Federal Reserve System (the “Federal Reserve”) the authority to establish rules regarding interchange fees charged for electronic debit transactions by payment card issuers having assets over $10.0 billion and to enforce a new statutory requirement that such fees be reasonable and proportional to the actual cost of a transaction to the issuer.  While the Company would not be subject to the interchange fee restrictions, this provision could negatively impact non-interest income if the reductions that are required of larger banks cause industry-wide reductions of interchange fees.  Additionally, other 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.  Management is actively reviewing the provisions of the Dodd-Frank Act and assessing its probable impact on our business, financial condition, and results of operations.

 

In July 2010, the Receivables topic of the Accounting Standards Codification (“ASC”) was amended by Accounting Standards Update (“ASU”) 2010-20 to require expanded disclosures related to a company’s allowance for credit losses and the credit quality of its financing receivables. The amendments require the allowance disclosures to be provided on a disaggregated basis.  The Company is required to include these disclosures in their interim and annual financial statements.  See Note 6.

 

In August 2010, two updates were issued to amend various SEC rules and schedules pursuant to Release No. 33-9026: Technical Amendments to Rules, Forms, Schedules and Codification of Financial Reporting Policies and based on the issuance of SEC Staff Accounting Bulletin 112.  The amendments related primarily to business combinations and removed references to “minority interest” and added references to “controlling” and “noncontrolling interest”.  The updates were effective upon issuance but had no impact on the Company’s financial statements.

 

Disclosures about Troubled Debt Restructurings (“TDRs”) required by ASU 2010-20 were deferred by the Financial Accounting Standards Board (“FASB”) in ASU 2011-01 issued in January 2011. In April 2011, the FASB issued ASU 2011-02 to assist creditors with their determination of when a restructuring is a TDR.   The determination is based on whether the restructuring constitutes a concession and whether the debtor is experiencing financial difficulties as both events must be present.

 

Other accounting standards that have been issued or proposed by the FASB or other standards-setting bodies are not expected to have a material impact on the Company’s financial position, results of operations or cash flows.

 

Note 4 - Fair Value Measurements

 

The following methods and assumptions were used to estimate the fair value of significant financial instruments:

 

Cash and Due from Banks and Certificates of Deposit - The carrying amount is a reasonable estimate of fair value, due to the short-term nature of such items.

 

8



Table of Contents

 

Federal Funds Sold - Federal funds sold are for a term of one day, and the carrying amount approximates the fair value.

 

Investment Securities - The fair values of securities held-to-maturity are based on quoted market prices or dealer quotes. The fair values of securities available-for-sale equal the carrying amounts, which are the quoted market prices.  If quoted market prices are not available, fair values are based on quoted market prices of comparable securities.  The carrying value of nonmarketable equity securities approximates the fair value since no ready market exists for the stocks.

 

Loans Receivable - For certain categories of loans, such as variable rate loans which are repriced frequently and have no significant change in credit risk, fair values are based on the carrying amounts.  The fair value of other types of loans is estimated by discounting the future cash flows using the current rates at which similar loans would be made to borrowers with similar credit ratings and for the same remaining maturities.

 

Deposits - The fair value of demand deposits, savings, and money market accounts is the amount payable on demand at the reporting date.  The fair values of certificates of deposit are estimated using a discounted cash flow calculation that applies current interest rates to a schedule of aggregated expected maturities.

 

Securities Sold Under Agreements to Repurchase - These repurchase agreements have variable rates that reprice on a continuous basis.  Due to the minor change in interest rates, management estimates the carrying value to be a reasonable estimate of fair value.

 

FHLB Advances - For disclosure purposes, the fair value of the FHLB fixed rate borrowing is estimated using discounted cash flows, based on the current incremental borrowing rates for similar types of borrowing arrangements.

 

Accrued Interest Receivable and Payable - The carrying value of these instruments is a reasonable estimate of fair value.

 

Off-Balance Sheet Financial Instruments - In the ordinary course of business, the Company enters into off-balance sheet financial instruments consisting of commitments to extend credit and letters of credit.  Because these commitments are made using variable rates and have short maturities, the contract value is a reasonable estimate of fair value.

 

9



Table of Contents

 

Note 4 - Fair Value Measurements - continued

 

The carrying values and estimated fair values of the Company’s financial instruments are as follows:

 

 

 

March 31, 2011

 

December 31, 2010

 

 

 

Carrying

 

Estimated

 

Carrying

 

Estimated

 

 

 

Amount

 

Fair Value

 

Amount

 

Fair Value

 

 

 

 

 

 

 

 

 

 

 

Financial Assets:

 

 

 

 

 

 

 

 

 

Cash and due from banks

 

$

2,722,060

 

$

2,722,060

 

$

2,771,515

 

$

2,771,515

 

Federal funds sold

 

8,030,000

 

8,030,000

 

2,280,000

 

2,280,000

 

Securities available-for-sale

 

23,393,544

 

23,393,544

 

20,776,657

 

20,776,657

 

Securities held-to-maturity

 

1,142,099

 

1,132,330

 

1,143,249

 

1,133,220

 

Nonmarketable equity securities

 

474,300

 

474,300

 

474,300

 

474,300

 

Loans receivable, net

 

85,991,075

 

84,647,740

 

88,783,548

 

88,091,769

 

Accrued interest receivable

 

515,107

 

515,107

 

503,753

 

503,753

 

 

 

 

 

 

 

 

 

 

 

Financial Liabilities:

 

 

 

 

 

 

 

 

 

Demand deposit, interest-bearing transaction, and savings accounts

 

67,327,299

 

67,327,299

 

59,626,692

 

59,626,692

 

Certificates of deposit and other time deposits

 

44,862,433

 

45,146,369

 

46,959,300

 

47,362,426

 

Federal Home Loan Bank advances

 

3,000,000

 

3,080,885

 

3,000,000

 

2,892,056

 

Accrued interest payable

 

37,405

 

37,405

 

44,059

 

44,059

 

 

 

 

Notional

 

Estimated

 

Notional

 

Estimated

 

 

 

Amount

 

Fair Value

 

Amount

 

Fair Value

 

Off-Balance Sheet Financial Instruments:

 

 

 

 

 

 

 

 

 

Commitments to extend credit

 

$

11,181,138

 

$

 

$

10,965,617

 

$

 

Financial standby letters of credit

 

225,000

 

 

125,000

 

 

 

GAAP provides a framework for measuring and disclosing fair value which requires disclosures about the fair value of assets and liabilities recognized in the balance sheet, whether the measurements are made on a recurring basis (for example, available-for-sale investment securities) or on a nonrecurring basis (for example, impaired loans).

 

Fair value is defined 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. GAAP 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 Company utilizes fair value measurements to record fair value adjustments to certain assets and to determine fair value disclosures. Securities available for sale are recorded at fair value on a recurring basis. Additionally, from time to time, the Company may be required to record at fair value other assets on a nonrecurring basis, such as loans held for sale, loans held for investment and certain other assets. These nonrecurring fair value adjustments typically involve application of lower of cost or market accounting or write-downs of individual assets.

 

Fair Vale Hierarchy

 

The Company groups assets and liabilities at fair value in three levels, based on the markets in which the assets and liabilities are traded and the reliability of the assumptions used to determine the fair value. These levels are:

 

Level 1 - Valuation is based upon quoted prices for identical instruments traded in active markets.

 

Level 2 - Valuation is based upon quoted prices for similar instruments in active markets, quoted prices for identical or similar instruments in markets that are not active, and model-based valuation techniques for which all significant assumptions are observable in the market.

 

10



Table of Contents

 

Note 4 - Fair Value Measurements - continued

 

Level 3 - Valuation is generated from model-based techniques that use at least one significant assumption not observable in the market. These unobservable assumptions reflect estimates of assumptions that market participants would use in pricing the asset or liability. Valuation techniques include the use of option pricing models, discounted cash flow models and similar techniques.

 

Following is a description of valuation methodologies used for assets and liabilities recorded at fair value.

 

Investment Securities Available for Sale

 

Investment securities available for sale are recorded at fair value on a recurring basis. Fair value measurement is based upon quoted prices, if available. If quoted prices are not available, fair values are measured using independent pricing models or other model-based valuation techniques such as the present value of future cash flows, adjusted for the security’s credit rating, prepayment assumptions and other factors such as credit loss assumptions. Level 1 securities include those traded on an active exchange such as the New York Stock Exchange, Treasury securities that are traded by dealers or brokers in active over-the counter markets and money market funds. Level 2 securities include mortgage backed securities issued by government sponsored entities, municipal bonds and corporate debt securities. Securities classified as Level 3 include asset-backed securities in less liquid markets.

 

Loans

 

The Company does not record loans at fair value on a recurring basis; however, from time to time, a loan is considered impaired and an allowance for loan loss is established. Loans for which it is probable that payment of interest and principal will not be made in accordance with the contractual terms of the loan are considered impaired. Once a loan is identified as individually impaired, management measures impairment. The fair value of impaired loans is estimated using one of several methods, including the collateral value, market value of similar debt, enterprise value, liquidation value and discounted cash flows. Those impaired loans not requiring a specific allowance represent loans for which the fair value of expected repayments or collateral exceed the recorded investment in such loans. At March 31, 2011 and December 31, 2010, substantially all of the impaired loans were evaluated based upon the fair value of the collateral. Impaired loans where an allowance is established based on the fair value of collateral require classification in the fair value hierarchy. When the fair value of the collateral is based on an observable market price or a current appraised value, the Company records the loan as nonrecurring Level 2. When an appraised value is not available or management determines the fair value of the collateral is further impaired below the appraised value and there is no observable market price, the Company records the loan as nonrecurring Level 3.

 

Other Real Estate Owned

 

Foreclosed assets are adjusted to fair value upon transfer of the loans to other real estate owned. Real estate acquired in settlement of loans is recorded initially at estimated fair value of the property less estimated selling costs at the date of foreclosure. The initial recorded value may be subsequently reduced by additional allowances, which are charges to earnings if the estimated fair value of the property less estimated selling costs declines below the initial recorded value. Fair value is based upon independent market prices, appraised values of the collateral or management’s estimation of the value of the collateral. When the fair value of the collateral is based on an observable market price or a current appraised value, the Company records the foreclosed asset as nonrecurring Level 2. When an appraised value is not available or management determines the fair value of the collateral is further impaired below the appraised value and there is no observable market price, the Company records the foreclosed asset as nonrecurring Level 3.

 

The table below presents the balances of assets and liabilities measured at fair value on a recurring basis by level within the hierarchy.

 

 

 

March 31, 2011

 

 

 

Total

 

Level 1

 

Level 2

 

Level 3

 

Securities available-for-sale

 

 

 

 

 

 

 

 

 

Government sponsored enterprises

 

$

18,465,603

 

$

 

$

18,465,603

 

$

 

Mortgage-backed securities

 

1,395,561

 

 

1,395,561

 

 

State, county and municipals

 

3,532,380

 

 

3,532,380

 

 

 

 

 

 

 

 

 

 

 

 

Total assets

 

$

23,393,544

 

$

 

$

23,393,544

 

$

 

 

11



Table of Contents

 

Note 4 - Fair Value Measurements - continued

 

 

 

December 31, 2010

 

 

 

Total

 

Level 1

 

Level 2

 

Level 3

 

 

 

 

 

 

 

 

 

 

 

Securities available-for-sale

 

 

 

 

 

 

 

 

 

Government sponsored enterprises

 

$

15,843,864

 

$

 

$

15,843,864

 

$

 

Mortgage-backed securities

 

2,118,254

 

 

2,118,254

 

 

State, county and municipals

 

2,814,539

 

 

2,814,539

 

 

 

 

 

 

 

 

 

 

 

 

Total assets

 

$

20,776,657

 

$

 

$

20,776,657

 

$

 

 

There were no liabilities measured at fair value on a recurring basis at March 31, 2011 and December 31, 2010.

 

Certain assets and liabilities are measured at fair value on a nonrecurring basis; that is, the instruments are not measured at fair value on an ongoing basis but are subject to fair value adjustments in certain circumstances (for example, when there is evidence of impairment).  The following table presents the assets and liabilities measured at fair value on a nonrecurring basis as of March 31, 2011 and December 31, 2010, aggregated by level in the fair value hierarchy within which those measurements fall.

 

 

 

March 31, 2011

 

 

 

Total

 

Level 1

 

Level 2

 

Level 3

 

 

 

 

 

 

 

 

 

 

 

Impaired loans

 

$

1,925,665

 

$

 

$

1,925,665

 

$

 

Other real estate owned

 

3,508,442

 

 

3,508,442

 

 

 

 

 

 

 

 

 

 

 

 

Total assets

 

$

5,434,107

 

$

 

$

5,434,107

 

$

 

 

 

 

December 31, 2010

 

 

 

Total

 

Level 1

 

Level 2

 

Level 3

 

 

 

 

 

 

 

 

 

 

 

Impaired loans

 

$

2,026,326

 

$

 

$

2,026,326

 

$

 

Other real estate owned

 

3,293,167

 

 

3,293,167

 

 

 

 

 

 

 

 

 

 

 

 

Total assets

 

$

5,319,493

 

$

 

$

5,319,493

 

$

 

 

There were no liabilities measured at fair value on a nonrecurring basis at March 31, 2011 and December 31, 2010.

 

Impaired loans which are measured for impairment using the fair value of collateral for collateral dependent loans, had a carrying value of $2,111,467 at March 31, 2011 with a valuation allowance of $185,802.  Impaired loans had a carrying value of $2,251,261 at December 31, 2010 with a valuation allowance of $224,935.

 

Other real estate owned, which is measured at the lower of carrying or fair value less costs to sell, had a net carrying value of $3,508,442 at March 31, 2011 and $3,293,167 at December 31, 2010.  There was approximately $2,525 in writedowns of other real estate owned during the quarter ended March 31, 2011 and there were no writedowns of other real estate owned during the quarter ended March 31, 2010.

 

The Company has no assets or liabilities whose fair values are measured using level 3 inputs.

 

Note 5 - Investment Securities

 

The amortized cost and estimated fair values of securities available-for-sale were:

 

 

 

Amortized

 

Gross Unrealized

 

Estimated

 

 

 

Costs

 

Gains

 

Losses

 

Fair Value

 

 

 

 

 

 

 

 

 

 

 

March 31, 2011

 

 

 

 

 

 

 

 

 

Government sponsored enterprises

 

$

18,876,734

 

$

9,199

 

$

420,330

 

$

18,465,603

 

Mortgage-backed securities

 

1,389,936

 

6,485

 

860

 

1,395,561

 

State, county and municipal

 

3,674,698

 

4,945

 

147,263

 

3,532,380

 

 

 

 

 

 

 

 

 

 

 

 

 

$

23,941,368

 

$

20,629

 

$

568,453

 

$

23,393,544

 

 

12



Table of Contents

 

Note 5 - Investment Securities - continued

 

December 31, 2010

 

 

 

 

 

 

 

 

 

Government sponsored enterprises

 

$

16,240,270

 

$

14,333

 

$

410,739

 

$

15,843,864

 

Mortgage-backed securities

 

2,151,089

 

8,107

 

40,942

 

2,118,254

 

State, county and municipal

 

2,999,285

 

75

 

184,821

 

2,814,539

 

 

 

 

 

 

 

 

 

 

 

 

 

$

21,390,644

 

$

22,515

 

$

636,502

 

$

20,776,657

 

 

The amortized cost and estimated fair values of securities held-to-maturity were:

 

 

 

Amortized

 

Gross Unrealized

 

Estimated

 

 

 

Costs

 

Gains

 

Losses

 

Fair Value

 

March 31, 2011

 

 

 

 

 

 

 

 

 

State, county and municipal

 

$

1,142,099

 

$

 

$

9,769

 

$

1,132,330

 

 

 

 

 

 

 

 

 

 

 

 

 

$

1,142,099

 

$

 

$

9,769

 

$

1,132,330

 

 

 

 

Amortized

 

Gross Unrealized

 

Estimated

 

 

 

Costs

 

Gains

 

Losses

 

Fair Value

 

December 31, 2010

 

 

 

 

 

 

 

 

 

State, county and municipal

 

$

1,143,249

 

$

 

$

10,029

 

$

1,133,220

 

 

 

 

 

 

 

 

 

 

 

 

 

$

1,143,249

 

$

 

$

10,029

 

$

1,133,220

 

 

There were no sales of available-for-sale securities for the period ended March 31, 2011. Proceeds from sales of available-for-sale securities were $1,364,521 for the period ended March 31, 2010.  Gross gains of $51,465 were recognized on those sales for the period ended March 31, 2010.

 

The amortized costs and fair values of investment securities at March 31, 2011, by contractual maturity, are shown in the following table.  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.  Callable securities and mortgage-backed securities are included in the year of their contractual maturity date.

 

In May 2010, management transferred securities with a book value of $448,672 from the available-for-sale category to held-to-maturity. Management intends to hold these investments to maturity and reasonably believes it has the capacity to do so.

 

 

 

Securities
Available-for-Sale

 

Securities
Held-to-Maturity

 

 

 

Amortized

 

Estimated

 

Amortized

 

Estimated

 

 

 

Cost

 

Fair Value

 

Cost

 

Fair Value

 

Due after one through five years

 

$

2,294,408

 

$

2,262,913

 

$

 

$

 

Due after five through ten years

 

13,422,553

 

13,190,888

 

446,649

 

444,597

 

Due after ten years

 

8,224,407

 

7,939,743

 

695,450

 

687,733

 

 

 

 

 

 

 

 

 

 

 

Total securities

 

$

23,941,368

 

$

23,393,544

 

$

1,142,099

 

$

1,132,330

 

 

The following table shows gross unrealized losses and fair value of securities available-for-sale, aggregated by investment category, and length of time that individual securities have been in a continuous realized loss position at:

 

 

 

Less than 12 months

 

12 months or more

 

Total

 

 

 

Fair

 

Unrealized

 

Fair

 

Unrealized

 

Fair

 

Unrealized

 

 

 

Value

 

Losses

 

Value

 

Losses

 

Value

 

Losses

 

March 31, 2011

 

 

 

 

 

 

 

 

 

 

 

 

 

Government sponsored enterprises

 

$

16,543,074

 

$

420,330

 

$

 

$

 

$

16,543,074

 

$

420,330

 

Mortgage-backed securities

 

1,279,717

 

860

 

 

 

1,279,717

 

860

 

State, county and municipal

 

2,822,819

 

147,263

 

 

 

2,822,819

 

147,263

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

$

20,645,610

 

$

568,453

 

$

 

$

 

$

20,645,610

 

$

568,453

 

 

13



Table of Contents

 

Note 5 - Investment Securities - continued

 

 

 

Less than 12 months

 

12 months or more

 

Total

 

 

 

Fair

 

Unrealized

 

Fair

 

Unrealized

 

Fair

 

Unrealized

 

 

 

Value

 

Losses

 

Value

 

Losses

 

Value

 

Losses

 

December 31, 2010

 

 

 

 

 

 

 

 

 

 

 

 

 

Government sponsored enterprises

 

$

13,454,861

 

$

410,739

 

$

 

$

 

$

13,454,861

 

410,739

 

Mortgage-backed securities

 

1,165,950

 

40,942

 

 

 

1,165,950

 

40,942

 

State, county and municipal

 

1,936,006

 

184,821

 

 

 

1,936,006

 

184,821

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

$

16,556,817

 

$

636,502

 

$

 

$

 

$

16,556,817

 

$

636,502

 

 

The following table shows gross unrealized losses and fair value of securities held-to-maturity, aggregated by investment category, and length of time that individual securities have been in a continuous unrealized loss position at:

 

 

 

Less than 12 months

 

12 months or more

 

Total

 

 

 

Fair

 

Unrealized

 

Fair

 

Unrealized

 

Fair

 

Unrealized

 

 

 

Value

 

Losses

 

Value

 

Losses

 

Value

 

Losses

 

March 31, 2011

 

 

 

 

 

 

 

 

 

 

 

 

 

State, county and municipal

 

$

1,132,330

 

$

9,769

 

$

 

$

 

$

1,132,330

 

9,769

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

$

1,132,330

 

$

9,769

 

$

 

$

 

$

1,132,330

 

$

9,769

 

 

 

 

Less than 12 months

 

12 months or more

 

Total

 

 

 

Fair

 

Unrealized

 

Fair

 

Unrealized

 

Fair

 

Unrealized

 

 

 

Value

 

Losses

 

Value

 

Losses

 

Value

 

Losses

 

December 31, 2010

 

 

 

 

 

 

 

 

 

 

 

 

 

State, county and municipal

 

$

1,133,220

 

$

10,029

 

$

 

$

 

$

1,133,220

 

10,029

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

$

1,133,220

 

$

10,029

 

$

 

$

 

$

1,133,220

 

$

10,029

 

 

Securities classified as available-for-sale are recorded at fair market value.  There were no securities classified as available-for-sale or held-to-maturity in a continuous loss position for more than twelve months at March 31, 2011 or December 31, 2010.

 

Management evaluates securities for other-than-temporary impairment at least on a quarterly basis, and more frequently when economic or market concerns warrant such evaluation.  Consideration is given to (1) the length of time and the extent to which the fair value has been less than cost, (2) the financial condition and near-term prospects of the issuer, and (3) the intent and ability of the Company to retain its investment in the issuer for a period of time sufficient to allow for any anticipated recovery in fair value.

 

In analyzing an issuer’s financial condition, management considers whether the securities are issued by the federal government or its agencies, whether downgrades by bond rating agencies have occurred, and industry analysts’ reports. As management has the ability to hold debt securities until maturity, or for the foreseeable future if classified as available-for-sale, no declines are deemed to be other than temporary.

 

At March 31, 2011 and December 31, 2010, securities with estimated fair value of $5,313,287 and $3,212,762, respectively, were pledged to secure public deposits as required by law.

 

Note 6 — Loans Receivable

 

Major classifications of loans receivable are summarized as follows:

 

 

 

March 31, 2011

 

December 31, 2010

 

 

 

 

 

 

 

Real estate - mortgage

 

$

67,781,894

 

$

67,625,366

 

Real estate - construction

 

10,757,640

 

12,076,019

 

Commercial and industrial

 

7,685,228

 

9,234,855

 

Consumer and other

 

1,275,220

 

1,399,369

 

 

 

 

 

 

 

Total gross loans

 

$

87,499,982

 

$

90,335,609

 

 

14



Table of Contents

 

Note 6 — Loans Receivable continued

 

The credit quality indicator utilized by the Company to internally analyze the loan portfolio is the internal risk rating. Loans classified as pass credits have no material weaknesses and are performing as agreed. Loans classified as special mention have a potential weakness that deserves management’s close attention. If left uncorrected, these potential weaknesses may result in deterioration of the repayment prospects for the loan or of the institution’s credit position at some future date. Loans classified as substandard are inadequately protected by the current net worth and paying capacity of the obligor or of the collateral pledged, if any. Loans so classified have a well-defined weakness or weaknesses that jeopardize the liquidation of the debt. They are characterized by the distinct possibility that the institution will sustain some loss if the deficiencies are not corrected.

 

The following is an analysis of our loan portfolio by credit quality indicators at March 31, 2011:

 

 

 

 

 

Commercial

 

 

 

 

 

 

 

 

 

 

 

 

 

Real Estate

 

Commercial Real

 

Residential-

 

Residential-

 

 

 

 

 

Commercial

 

Construction

 

Estate - Other

 

Prime

 

Subprime

 

Total

 

Grade:

 

 

 

 

 

 

 

 

 

 

 

 

 

Pass

 

$

5,974,359

 

$

8,103,746

 

$

22,986,320

 

$

27,560,749

 

$

8,465,280

 

$

73,090,454

 

Special mention

 

1,002,948

 

918,117

 

2,734,534

 

327,579

 

1,529,850

 

6,513,028

 

Substandard or worse

 

707,921

 

1,735,777

 

2,035,237

 

1,331,530

 

810,815

 

6,621,280

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Total

 

$

7,685,228

 

$

10,757,640

 

$

27,756,091

 

$

29,219,858

 

$

10,805,945

 

$

86,224,762

 

 

 

 

Consumer-

 

 

 

 

 

 

 

 

 

 

 

 

 

Other

 

Consumer-Auto

 

Total

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Performing

 

$

338,573

 

$

794,906

 

$

1,133,479

 

 

 

 

 

 

 

Nonperforming

 

141,741

 

 

141,741

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Total

 

$

480,314

 

$

794,906

 

$

1,275,220

 

 

 

 

 

 

 

 

The following is an analysis of our loan portfolio by credit quality indicators at December 31, 2010:

 

 

 

 

 

Commercial

 

 

 

 

 

 

 

 

 

 

 

 

 

Real Estate

 

Commercial Real

 

Residential-

 

Residential

 

 

 

 

 

Commercial

 

Construction

 

Estate - Other

 

Prime

 

Subprime

 

Total

 

Grade:

 

 

 

 

 

 

 

 

 

 

 

 

 

Pass

 

$

7,374,129

 

$

7,860,668

 

$

22,834,938

 

$

27,731,483

 

$

8,417,454

 

$

74,218,672

 

Special mention

 

1,011,261

 

1,125,410

 

2,756,133

 

163,430

 

1,650,840

 

6,707,074

 

Substandard or worse

 

849,465

 

3,089,941

 

2,045,296

 

1,184,031

 

841,761

 

8,010,494

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Total

 

$

9,234,855

 

$

12,076,019

 

$

27,636,367

 

$

29,078,944

 

$

10,910,055

 

$

88,936,240

 

 

 

 

Consumer-

 

 

 

 

 

 

 

 

 

 

 

 

 

Other

 

Consumer-Auto

 

Total

 

 

 

 

 

 

 

Performing

 

$

840,124

 

$

559,245

 

$

1,399,369

 

 

 

 

 

 

 

Nonperforming

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Total

 

$

840,124

 

$

559,245

 

$

1,399,369

 

 

 

 

 

 

 

 

15



Table of Contents

 

Note 6 — Loans Receivable continued

 

The following is an aging analysis of our loan portfolio at March 31, 2011:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Recorded

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Investment

 

 

 

30-59 Days

 

60-89 Days

 

Greater Than

 

Total

 

 

 

Total Loans

 

90 Days

 

 

 

Past Dues

 

Past Dues

 

90 Days

 

Past Due

 

Current

 

Receivable

 

and Accruing

 

Commercial

 

$

 

$

 

$

62,711

 

$

62,711

 

$

7,622,517

 

$

7,685,228

 

$

 

Commercial real estate:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Construction

 

158,639

 

1,129,312

 

51,930

 

1,339,881

 

9,417,759

 

10,757,640

 

 

Other

 

344,477

 

 

172,149

 

516,626

 

27,239,465

 

27,756,091

 

 

Consumer:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Other

 

 

 

140,996

 

140,996

 

1,134,224

 

1,275,220

 

 

Residential

 

364,787

 

96,450

 

372,782

 

834,019

 

39,191,784

 

40,025,803

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Total

 

$

867,903

 

$

1,225,762

 

$

800,568

 

$

2,894,233

 

$

84,605,749

 

$

87,499,982

 

$

 

 

The following is an aging analysis of our loan portfolio at December 31, 2010:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Recorded

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Investment

 

 

 

30-59 Days

 

60-89 Days

 

Greater Than

 

Total

 

 

 

Total Loans

 

90 Days

 

 

 

Past Dues

 

Past Dues

 

90 Days

 

Past Due

 

Current

 

Receivable

 

and Accruing

 

Commercial

 

$

18,430

 

$

93,797

 

$

48,836

 

$

161,063

 

$

9,073,797

 

$

9,234,855

 

$

 

Commercial real estate:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Construction

 

 

 

269,730

 

269,730

 

11,806,289

 

12,076,019

 

 

Other

 

236,270

 

 

70,769

 

307,039

 

27,329,328

 

27,636,367

 

 

Consumer:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Other

 

123,835

 

2,567

 

 

126,402

 

1,272,967

 

1,399,369

 

 

Residential

 

370,661

 

201,090

 

18,691

 

590,442

 

39,398,557

 

39,988,999

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Total

 

$

749,196

 

$

297,454

 

$

408,026

 

$

1,454,676

 

$

88,880,933

 

$

90,335,609

 

$

 

 

The following is an analysis of loans receivables on nonaccrual status as of:

 

 

 

March 31, 2011

 

December 31, 2010

 

 

 

 

 

 

 

Commercial

 

$

128,075

 

$

210,532

 

Commercial real estate:

 

 

 

 

 

Commercial real estate construction

 

840,242

 

781,629

 

Commercial real estate - other

 

172,149

 

70,769

 

Consumer

 

140,996

 

 

Residential:

 

 

 

 

 

Residential - prime

 

82,821

 

326,580

 

Residential - subprime

 

298,304

 

27,779

 

 

 

 

 

 

 

Total

 

$

1,662,587

 

$

1,417,289

 

 

Transactions in the allowance for loan losses are summarized below:

 

 

 

March 31, 2011

 

December 31, 2010

 

March 31, 2010

 

 

 

 

 

 

 

 

 

Balance, beginning of year

 

$

1,552,061

 

$

1,498,937

 

$

1,498,937

 

Provision charged to operations

 

69,000

 

853,109

 

186,609

 

Loans charged-off

 

(112,904

)

(809,338

)

(198,316

)

Recoveries of loans previously charged-off

 

750

 

9,353

 

2,420

 

 

 

 

 

 

 

 

 

Balance, end of year

 

$

1,508,907

 

$

1,552,061

 

$

1,489,650

 

 

16



Table of Contents

 

Note 6 — Loans Receivable - continued

 

The following table summarizes the allowance for loan losses and recorded investment in gross loans, by portfolio segment, at and for the period ended March 31, 2011:

 

 

 

 

 

Commercial

 

 

 

 

 

 

 

 

 

 

 

Commercial

 

Real Estate

 

Consumer

 

Residential

 

Unallocated

 

Total

 

Allowance for loan losses:

 

 

 

 

 

 

 

 

 

 

 

 

 

Beginning balance

 

$

407,111

 

$

444,195

 

$

19,211

 

$

646,452

 

$

35,092

 

$

1,552,061

 

Charge-offs

 

(91,834

)

 

(2,379

)

(18,691

)

 

(112,904

)

Recoveries

 

750

 

 

 

 

 

750

 

Provisions

 

(28,550

)

(3,334

)

50,562

 

59,161

 

(8,839

)

69,000

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Ending balance

 

$

287,477

 

$

440,861

 

$

67,394

 

$

686,922

 

$

26,253

 

$

1,508,907

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Ending balances:

 

 

 

 

 

 

 

 

 

 

 

 

 

Individually evaluated for impairment

 

$

89,864

 

$

24,757

 

$

55,452

 

$

15,729

 

$

 

$

185,802

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Collectively evaluated for impairment

 

$

197,613

 

$

416,104

 

$

11,942

 

$

671,193

 

$

26,253

 

$

1,323,105

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Loans receivable:

 

 

 

 

 

 

 

 

 

 

 

 

 

Ending balance - total

 

$

7,685,228

 

$

38,513,731

 

$

1,275,220

 

$

40,025,803

 

$

 

$

87,499,982

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Ending balances:

 

 

 

 

 

 

 

 

 

 

 

 

 

Individually evaluated for impairment

 

$

128,075

 

$

1,528,136

 

$

156,952

 

$

298,304

 

$

 

$

2,111,467

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Collectively evaluated for impairment

 

$

7,557,153

 

$

36,985,595

 

$

1,118,268

 

$

39,727,499

 

$

 

$

85,388,515

 

 

The following table summarizes the allowance for loan losses and recorded investment in gross loans, by portfolio segment, at and for the period ended December 31, 2010:

 

 

 

 

 

Commercial

 

 

 

 

 

 

 

 

 

 

 

Commercial

 

Real Estate

 

Consumer

 

Residential

 

Unallocated

 

Total

 

Allowance for loan losses:

 

 

 

 

 

 

 

 

 

 

 

 

 

Beginning balance

 

$

300,192

 

$

436,855

 

$

17,467

 

$

744,423

 

$

 

$

1,498,937

 

Charge-offs

 

(183,814

)

(500,474

)

(4,525

)

(120,525

)

 

(809,338

)

Recoveries

 

6,000

 

 

1,100

 

2,253

 

 

9,353

 

Provisions

 

284,733

 

507,814

 

5,169

 

20,301

 

35,092

 

853,109

 

Ending balance

 

$

407,111

 

$

444,195

 

$

19,211

 

$

646,452

 

$

35,092

 

$

1,552,061

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Ending balances:

 

 

 

 

 

 

 

 

 

 

 

 

 

Individually evaluated for impairment

 

$

162,956

 

$

14,667

 

$

16,423

 

$

30,889

 

$

 

$

224,935

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Collectively evaluated for impairment

 

$

244,155

 

$

429,528

 

$

2,788

 

$

615,563

 

$

35,092

 

$

1,327,126

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Loans receivable:

 

 

 

 

 

 

 

 

 

 

 

 

 

Ending balance — total

 

$

9,234,855

 

$

39,712,386

 

$

1,399,369

 

$

39,988,999

 

$

 

$

90,335,609

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Ending balances:

 

 

 

 

 

 

 

 

 

 

 

 

 

Individually evaluated for impairment

 

$

248,858

 

$

1,640,710

 

$

16,423

 

$

345,270

 

$

 

$

2,251,261

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Collectively evaluated for impairment

 

$

8,985,997

 

$

38,071,676

 

$

1,382,946

 

$

39,643,729

 

$

 

$

88,084,348

 

 

The Company’s analysis under GAAP indicates that the level of the allowance for loan losses is appropriate to cover estimated credit losses on individually evaluated loans as well as estimated credit losses inherent in the remainder of the portfolio.

 

17



Table of Contents

 

The following is an analysis of our impaired loan portfolio detailing the related allowance recorded at March 31, 2011:

 

 

 

Current

 

Unpaid

 

 

 

Average

 

Interest

 

 

 

Carrying

 

Principal

 

Related

 

Recorded

 

Income

 

 

 

Balance

 

Amount

 

Allowance

 

Investment

 

Recognized

 

 

 

 

 

 

 

 

 

 

 

 

 

With no related allowance recorded:

 

 

 

 

 

 

 

 

 

 

 

Commercial

 

$

27,671

 

$

27,671

 

$

 

$

27,671

 

$

267

 

Commercial real estate - construction

 

833,019

 

833,019

 

 

958,859

 

7,555

 

Commercial real estate - other

 

98,315

 

98,315

 

 

98,315

 

594

 

Consumer

 

 

 

 

 

 

Residential -prime

 

 

 

 

 

 

Residential- subprime

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

With an allowance recorded:

 

 

 

 

 

 

 

 

 

 

 

Commercial

 

35,040

 

35,040

 

24,501

 

68,554

 

 

Commercial real estate - construction

 

7,223

 

7,223

 

7,223

 

8,609

 

 

Commercial real estate - other

 

589,580

 

589,580

 

17,534

 

711,523

 

8,577

 

Consumer

 

222,315

 

222,315

 

120,815

 

223,485

 

2,048

 

Residential -prime

 

 

 

 

 

 

Residential- subprime

 

298,304

 

298,304

 

15,729

 

296,227

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Total:

 

 

 

 

 

 

 

 

 

 

 

Commercial

 

62,711

 

62,711

 

24,501

 

96,225

 

267

 

Commercial real estate - construction

 

840,242

 

840,242

 

7,223

 

967,468

 

7,555

 

Commercial real estate - other

 

687,895

 

687,895

 

17,534

 

809,838

 

9,171

 

Consumer

 

222,315

 

222,315

 

120,815

 

223,485

 

2,048

 

Residential -prime

 

 

 

 

 

 

Residential- subprime

 

298,304

 

298,304

 

15,729

 

296,227

 

 

Total

 

$

2,111,467

 

$

2,111,467

 

$

185,802

 

$

2,393,243

 

$

19,041

 

 

The following is an analysis of our impaired loan portfolio detailing the related allowance recorded at December 31, 2010:

 

 

 

Current

 

Unpaid

 

 

 

Average

 

Interest

 

 

 

Carrying

 

Principal

 

Related

 

Recorded

 

Income

 

 

 

Balance

 

Amount

 

Allowance

 

Investment

 

Recognized

 

 

 

 

 

 

 

 

 

 

 

 

 

With no related allowance recorded:

 

 

 

 

 

 

 

 

 

 

 

Commercial

 

$

9,241

 

$

9,241

 

$

 

$

16,998

 

$

560

 

Commercial real estate - construction

 

1,050,819

 

1,050,819

 

 

1,029,206

 

43,535

 

Commercial real estate - other

 

 

 

 

 

 

Consumer

 

 

 

 

 

 

Residential -prime

 

 

 

 

 

 

Residential- subprime

 

30,381

 

30,381

 

 

30,574

 

1,548

 

 

 

 

 

 

 

 

 

 

 

 

 

With an allowance recorded:

 

 

 

 

 

 

 

 

 

 

 

Commercial

 

239,617

 

266,518

 

162,956

 

278,112

 

12,585

 

Commercial real estate - construction

 

519,121

 

520,507

 

9,897

 

525,284

 

8,283

 

Commercial real estate - other

 

70,769

 

199,942

 

4,769

 

196,659

 

1,107

 

Consumer

 

16,423

 

16,423

 

16,423

 

7,208

 

613

 

Residential -prime

 

18,691

 

18,691

 

18,691

 

18,679

 

692

 

Residential- subprime

 

296,199

 

296,199

 

12,199

 

292,430

 

19,327

 

 

 

 

 

 

 

 

 

 

 

 

 

Total:

 

 

 

 

 

 

 

 

 

 

 

Commercial

 

248,858

 

275,759

 

162,956

 

295,110

 

13,145

 

Commercial real estate - construction

 

1,569,940

 

1,571,326

 

9,897

 

1,554,490

 

51,818

 

Commercial real estate - other

 

70,769

 

199,942

 

4,769

 

196,659

 

1,107

 

Consumer

 

16,423

 

16,423

 

16,423

 

7,208

 

613

 

Residential -prime

 

18,691

 

18,691

 

18,691

 

18,679

 

692

 

Residential- subprime

 

326,580

 

326,580

 

12,199

 

323,004

 

20,875

 

Total

 

$

2,251,261

 

$

2,408,721

 

$

224,935

 

$

2,395,150

 

$

88,250

 

 

18



Table of Contents

 

Note 7 — Other Real Estate Owned

 

Transactions in other real estate owned for the periods ended March 31, 2011 and December 31, 2010 are summarized below:

 

 

 

2011

 

2010

 

 

 

 

 

 

 

Balance, beginning of year

 

$

3,293,167

 

$

501,037

 

Additions

 

217,800

 

3,260,032

 

Sales

 

 

(332,572

)

Write downs

 

(2,525

)

(135,330

)

 

 

 

 

 

 

Balance, end of period

 

$

3,508,442

 

$

3,293,167

 

 

Note 8 - Regulatory Matters

 

As previously disclosed, following the FDIC’s safety and soundness examination of the Bank in the fourth quarter of 2009, the Bank entered into a Consent Order (the “Consent Order”) with the FDIC and the South Carolina Board of Financial Institutions (the “SCBFI”) on May 11, 2010.  The Consent Order set forth specific actions needed to address certain findings from the FDIC’s Report of Examination and to address the Bank’s financial condition, primarily related to capital planning, liquidity/funds management, policy and planning issues, management oversight, loan concentrations and classifications, and non-performing loans. The Board of Directors and management of the Bank have aggressively worked to improve these practices and procedures.  As a result, on April 12, 2011, the Bank received notices from the FDIC and SCBFI pursuant to which these regulatory agencies determined that the protection of the depositors, other customers and shareholders of the Bank, as well as the Bank’s safe and sound operation, do not require the continued existence of the Consent Order.  Accordingly, the FDIC and SCBFI terminated the Consent Order as of April 8, 2011.  Although the Consent Order has been terminated, certain regulatory restrictions and requirements remain, including, among other things, a requirement that the Bank achieve and maintain Total Risk Based capital at least equal to 10% of risk-weighted assets and Tier 1 capital at least equal to 8% of total assets. As of March 31, 2011 and December 31, 2010, the Bank was considered to be in compliance with the minimum capital requirements established by the regulatory restrictions.  The Board of Directors and management intend to continue to take all actions necessary to enable the Bank to comply with the requirements of the regulatory restrictions. For additional information on the Bank’s regulatory restrictions, including actions the Bank has taken in response to these regulatory restrictions, see “Management’s Discussion and Analysis of Financial Condition and Results of Operations - Regulatory Matters.”

 

Note 9 - Dividends on Series A Preferred Stock Issued to the U.S. Treasury

 

At the request of the Federal Reserve Bank of Richmond, the Company deferred the quarterly dividend payment on the shares of Series A Preferred Stock issued to the U.S. Treasury pursuant to the Capital Purchase Program (the “CPP”) which was due February 15, 2011.  This payment was the fifth dividend payment deferred.  As part of the CPP, the Company entered into a letter agreement with the Treasury on January 9, 2009, which includes a Securities Purchase Agreement-Standard Terms.  As part of the agreement, dividends compound if they accrue and are not paid.  Failure by the Company to pay the dividend on the shares of Series A Preferred Stock is not an event of default.  However, a failure to pay a total of six such dividends, whether or not consecutive, gives the Treasury the right to elect two directors to the Company’s Board of Directors.  That right would continue until the Company pays all dividends in arrears.  As of the date of this report, the total arrearage was $246,150. . The Company anticipates paying the accrued dividends at the next interest payment due on May 15, 2011 to avoid triggering the Treasury’s ability to elect directors to the Company’s Board of Directors.

 

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

 

The following discussion reviews our results of operations and assesses our financial condition.  You should read the following discussion and analysis in conjunction with the accompanying consolidated financial statements.  The commentary should be read in

 

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conjunction with the discussion of forward-looking statements, the financial statements, and the related notes and the other statistical information included in this report.

 

DISCUSSION OF FORWARD-LOOKING STATEMENTS

 

This report contains statements which constitute forward-looking statements within the meaning of Section 27A of the Securities Act of 1933 and Section 21E of the Securities Exchange Act of 1934.  These statements are based on many assumptions and estimates and are not guarantees of future performance.  Our actual results may differ materially from those anticipated in any forward-looking statements, as they will depend on many factors about which we are unsure, including many factors which are beyond our control.  The words “may,” “would,” “could,” “will,” “expect,” “anticipate,” “believe,” “intend,” “plan,” and “estimate,” as well as similar expressions, are meant to identify such forward-looking statements.  Our actual results may differ materially from the results discussed in the forward-looking statements, and our operating performance each quarter is subject to various risks and uncertainties that include, without limitation, those described under the heading “Risk Factors” in our Annual Report for the year ended December 31, 2010 filed with the SEC, and the following:

 

·                  reduced earnings due to higher credit losses generally and specifically because losses in the sectors of our loan portfolio secured by real estate are greater than expected due to economic factors, including declining real estate values, increasing interest rates, increasing unemployment, or changes in payment behavior or other factors;

·                  reduced earnings due to higher credit losses because our loans are concentrated by loan type, industry segment, borrower type, or location of the borrower or collateral;

·                  the Company’s non-payment of dividends on its Series A Preferred Stock issued to the U.S. Treasury under the CPP;

·                  our efforts to raise capital or otherwise increase our regulatory capital ratios;

·                  our ability to retain our existing customers, including our deposit relationships;

·                  significant increases in competitive pressure in the banking and financial services industries;

·                  changes in the interest rate environment, which could reduce anticipated or actual margins;

·                  changes in political conditions or the legislative or regulatory environment, including the effect of recent financial reform legislation on the banking industry;

·                  general economic conditions, either nationally or regionally and especially in our primary service area, becoming less favorable than expected, resulting in, among other things, a deterioration in credit quality;

·                  changes occurring in business conditions and inflation;

·                  changes in technology;

·                  changes in monetary and tax policies;

·                  the level of allowance for loan loss;

·                  the rate of delinquencies and amounts of charge-offs;

·                  the rates of loan growth;

·                  the amount of our loan portfolio collateralized by real estate, and the weakness in the real estate market;

·                  our reliance on available secondary funding sources such as Federal Home Loan Bank (“FHLB”) advances, Federal Reserve Discount Window borrowings, sales of securities and loans, and federal funds lines of credit from correspondent banks to meet our liquidity needs;

·                  our ability to maintain effective internal control over financial reporting;

·                  adverse changes in asset quality and resulting credit risk-related losses and expenses;

·                  loss of consumer confidence and economic disruptions resulting from terrorist activities or other military activity;

·                  changes in the securities markets; and

·                  other risks and uncertainties detailed from time to time in our filings with the SEC.

 

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These risks are exacerbated by the recent developments in national and international financial markets, and we are unable to predict what impact these uncertain market conditions will have on us.  For more than three years, the capital and credit markets have experienced extended volatility and disruption.  There can be no assurance that these unprecedented developments will not continue to materially and adversely impact our business, financial condition, and results of operations, as well as our ability to raise capital or other funding for liquidity and business purposes.

 

We have based our forward-looking statements on our current expectations about future events. Although we believe that the expectations reflected in our forward-looking statements are reasonable, we cannot guarantee that these expectations will be achieved. We undertake no obligation to publicly update or otherwise revise any forward-looking statements whether as a result of new information, future events, or otherwise.

 

Overview

 

Our Bank opened for business on October 16, 2006.  All activities of the Company prior to that date relate to the organization of the Bank.  The following discussion describes our results of operations for the three month periods ended March 31, 2011 and 2010 and also analyzes our financial condition as of March 31, 2011 as compared to December 31, 2010.

 

Like most community banks, we derive the majority of our income from interest we receive on our loans and investments. Our primary source of funds for making these loans and investments is our deposits, on which we pay interest.  Consequently, one of the key measures of our success is our amount of net interest income, or the difference between the income on our interest-earning assets, such as loans and investments, and the expense on our interest-bearing liabilities, such as deposits, also known as net interest margin.  Another key measure is the spread between the yield we earn on these interest-earning assets and the rate we pay on our interest-bearing liabilities, which is referred to as net interest spread.

 

There are risks inherent in all loans, so we maintain an allowance for loan losses to absorb probable losses on existing loans that may become uncollectible.  We establish and maintain this allowance by charging a provision for loan losses against our operating earnings. In the following section, we have included a detailed discussion of this process.

 

In addition to earning interest on our loans and investments, we earn income through fees and other expenses we charge to our clients.  We describe the various components of this non-interest income, as well as our non-interest expense, in the following discussion.  We encourage you to read this discussion and analysis in conjunction with the financial statements and the related notes and the other statistical information also included herein.

 

Recent Regulatory Developments

 

Consent Order - Following the FDIC’s safety and soundness examination of the Bank in the fourth quarter of 2009, the Bank entered into the Consent Order with the FDIC and the SCBFI on May 11, 2010.  The Consent Order required specific actions needed to address certain findings from the FDIC’s most recent Report of Examination and to address the Bank’s financial condition, primarily related to policy and planning issues, oversight, loan concentrations and classifications, non-performing loans, liquidity/funds management, and capital planning. The Board of Directors and management of the Bank have aggressively worked to improve these practices and procedures and, as a result, as of April 8, 2011, the Consent Order has been terminated although certain regulatory restrictions remain. The supervisory authorities have instituted certain ongoing requirements for the Bank as follows:

 

·                   The Bank shall prepare and submit a comprehensive budget and earnings forecast for the Bank which covers 2011 and includes any changes made as a result of the examination. Subsequently, budgets will be prepared and submitted annually by January 1 of each year. In addition, quarterly progress reports regarding the Bank’s actual performance compared to the budget plan shall be submitted concurrently with other reporting requirements.

 

·                   The Bank shall develop specific plans and proposals for the reduction and improvement of assets which are subject to adverse classification and past due loans.

 

·                   The Bank shall not extend, directly or indirectly, any additional credit to or for the benefit of any borrower who is obligated in any manner to the Bank or any extension of credit or portion thereof that has been charged off by the Bank or classified Loss or Doubtful in any report of examination, so long as such credit remains uncollected. In addition, the Bank shall make no additional advances to any borrower whose loan or line of credit has been adversely classified Substandard in any report of examination without the prior approval of a majority of the Bank’s Board of Directors.

 

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·                   Unless otherwise approved in writing by the supervisory authorities, the Bank shall charge off within 30 days of receipt of any official report of examination by either the FDIC or the SCBFI, the remaining balance of any assets classified as Loss, and make an appropriate impairment provision to the reserve for loan losses for those classified as Doubtful.

 

·                   The Bank shall maintain an adequate reserve for loan losses and such reserve shall be established by charges to current operating earnings. The Bank shall review the adequacy of the reserve prior to the end of each calendar quarter and make appropriate provisions to the reserve. The review shall be consider the results of the Bank’s loan review, loan loss experience, trends of delinquent and nonaccrual loans, estimate of potential loss exposure of significant credits, concentrations of credit, and present and prospective economic conditions. The results of the review shall be recorded in the minutes of the Board meeting at which the review was undertaken.

 

·                  The Bank shall maintain a minimum Tier 1 Leverage Capital ratio of 8 percent (8%) and a Total Risk-Based Capital ratio of at least ten percent (10%) and maintain a well-capitalized designation. In the event that the Bank’s capital falls below these minimums, the Bank shall notify the supervisory authorities and shall increase capital in an amount sufficient to meet the minimum ratio required by this provision within 90 days. The Bank shall not pay dividends without prior written consent of the supervisory authorities.

 

·                  The Bank shall eliminate and/or correct all violations of law and regulation and contraventions of policy listed in the report of examination issued by the supervisory authorities. In addition, the Bank shall take all necessary steps to ensure future compliance with all applicable laws and regulations and polity statements.

 

The Board of Directors and management of the Bank will continue to diligently work to comply the requirements set above by the supervising authorities.

 

Legislative Developments.  Markets in the United States and elsewhere have experienced extreme volatility and disruption over the past three plus years.  These circumstances have exerted significant downward pressure on prices of equity securities and virtually all other asset classes, and have resulted in substantially increased market volatility, severely constrained credit and capital markets, particularly for financial institutions, and an overall loss of investor confidence.  Loan portfolio performances have deteriorated at many institutions resulting from, among other factors, a weak economy and a decline in the value of the collateral supporting their loans.  Dramatic slowdowns in the housing industry, due in part to falling home prices and increasing foreclosures and unemployment, have created strains on financial institutions.  Many borrowers are now unable to repay their loans, and the collateral securing these loans has, in some cases, declined below the loan balance.  In response to the challenges facing the financial services sector, beginning in 2008 a multitude of new regulatory and governmental actions have been announced, including the Emergency Economic Stabilization Act (the “EESA”), approved by Congress and signed by President Bush on October 3, 2008, and the American Recovery and Reinvestment Act on February 17, 2009, among others.  Some of the more recent actions include:

 

·                  On July 21, 2010, the U.S. President signed into law the Dodd-Frank Act, a comprehensive regulatory framework that will likely result in dramatic changes across the financial regulatory system, some of which became effective immediately and some of which will not become effective until various future dates.  Implementation of the Dodd-Frank Act will require many new rules to be made by various federal regulatory agencies over the next several years.  Uncertainty remains as to the ultimate impact of the Dodd-Frank Act until final rulemaking is complete, which could have a material adverse impact either on the financial services industry as a whole or on our business, financial condition, results of operations, and cash flows.  Provisions in the legislation that affect consumer financial protection regulations, deposit insurance assessments, payment of interest on demand deposits, and interchange fees could increase the costs associated with deposits and place limitations on certain revenues those deposits may generate.  The Dodd-Frank Act includes provisions that, among other things, will:

 

·                                       Centralize responsibility for consumer financial protection by creating a new agency, the Bureau of Consumer Financial Protection, responsible for implementing, examining, and enforcing compliance with federal consumer financial laws;

 

·                                       Create the Financial Stability Oversight Council that will recommend to the Federal Reserve increasingly strict rules for capital, leverage, liquidity, risk management and other requirements as   companies grow in size and complexity;

 

·                                       Provide mortgage reform provisions regarding a customer’s ability to repay, restricting variable-rate lending by requiring that the ability to repay variable-rate loans be determined by using the maximum rate that will apply during the first five years of a variable-rate loan term, and making more loans subject to provisions for higher cost loans, new disclosures, and certain other revisions;

 

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·                                       Change the assessment base for federal deposit insurance from the amount of insured deposits to consolidated assets less tangible capital, eliminate the ceiling on the size of the Deposit Insurance Fund (“DIF”), and increase the floor on the size of the DIF, which generally will require an increase in the level of assessments for institutions with assets in excess of $10 billion;

 

·                                       Make permanent the $250,000 limit for federal deposit insurance and provide unlimited federal deposit insurance until December 31, 2012 for noninterest-bearing demand transaction accounts at all insured depository institutions;

 

·                                       Implement corporate governance revisions, including with regard to executive compensation and proxy access by shareholders, which apply to all public companies, not just financial institutions;

 

·                                       Repeal the federal prohibitions on the payment of interest on demand deposits, thereby permitting depository institutions to pay interest on business transactions and other accounts;

 

·                                       Amend the Electronic Fund Transfer Act (“EFTA”) to, among other things, give the Federal Reserve the authority to establish rules regarding interchange fees charged for electronic debit transactions by payment card issuers having assets over $10 billion and to enforce a new statutory requirement that such fees be reasonable and proportional to the actual cost of a transaction to the issuer;

 

·                                       Eliminate the Office of Thrift Supervision (“OTS”) one year from the date of the new law’s enactment.  The Office of the Comptroller of the Currency, which is currently the primary federal regulator for national banks, will become the primary federal regulator for federal thrifts.  In addition, the Federal Reserve will supervise and regulate all savings and loan holding companies that were formerly regulated by the OTS.

 

·                  On September 27, 2010, the U.S. President signed into law the Small Business Jobs Act of 2010 (the “Act”).  The Small Business Lending Fund (the “SBLF”), which was enacted as part of the Act, is a $30 billion fund that encourages lending to small businesses by providing Tier 1 capital to qualified community banks with assets of less than $10 billion. On December 21, 2010, the U.S. Treasury published the application form, term sheet and other guidance for participation in the SBLF.  Under the terms of the SBLF, the Treasury will purchase shares of senior preferred stock from banks, bank holding companies, and other financial institutions that will qualify as Tier 1 capital for regulatory purposes and rank senior to a participating institution’s common stock. The application deadline for participating in the SBLF is May 16, 2011, and we are currently evaluating whether to participate in this program.

 

·                  Internationally, both the Basel Committee on Banking Supervision (the “Basel Committee”) and the Financial Stability Board (established in April 2009 by the Group of Twenty Finance Ministers and Central Bank Governors to take action to strengthen regulation and supervision of the financial system with greater international consistency, cooperation, and transparency) have committed to raise capital standards and liquidity buffers within the banking system (“Basel III”).  On September 12, 2010, the Group of Governors and Heads of Supervision agreed to the calibration and phase-in of the Basel III minimum capital requirements (raising the minimum Tier 1 common equity ratio to 4.5% and minimum Tier 1 equity ratio to 6.0%, with full implementation by January 2015) and introducing a capital conservation buffer of common equity of an additional 2.5% with full implementation by January 2019.  The U.S. federal banking agencies support this agreement.  In December 2010, the Basel Committee issued the Basel III rules text, outlining the details and time-lines of global regulatory standards on bank capital adequacy and liquidity.  According to the Basel Committee, the framework sets out higher and better-quality capital, better risk coverage, the introduction of a leverage ratio as a backstop to the risk-based requirement, measures to promote the build-up of capital that can be drawn down in periods of stress, and the introduction of two global liquidity standards.

 

·                  In November 2010, the Federal Reserve’s monetary policymaking committee, the Federal Open Market Committee (“FOMC”), decided that further support to the economy was needed. With short-term interest rates already nearing 0%, the FOMC agreed to deliver that support by committing to purchase additional longer-term securities, as it did in 2008 and 2009. The FOMC intends to buy an additional $600 billion of longer-term U.S. Treasury securities by mid-2011 and will continue to reinvest repayments of principal on its holdings of securities, as it has been doing since August 2010.

 

·                  In November 2010, the FDIC approved two proposals that amend the deposit insurance assessment regulations. The first proposal implements a provision in the Dodd-Frank Act that changes the assessment base from one based on domestic deposits (as it has been since 1935) to one based on assets. The assessment base changes from adjusted domestic deposits to average consolidated total assets minus average tangible equity.  The second proposal changes the deposit insurance

 

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assessment system for large institutions in conjunction with the guidance given in the Dodd-Frank Act.  In February 2011, the FDIC approved the final rules that change the assessment base from domestic deposits to average assets minus average tangible equity, adopt a new scorecard-based assessment system for financial institutions with more than $10 billion in assets, and finalize the designated reserve ratio target size at 2.0% of insured deposits.  We elected to voluntarily participate in the unlimited deposit insurance component of the Treasury’s Transaction Account Guarantee Program (“TAGP”) through December 31, 2010.  Coverage under the program was in addition to and separate from the basic coverage available under the FDIC’s general deposit insurance rules. As a result of the Dodd-Frank Act that was signed into law on July 21, 2010, the program ended on December 31, 2010, and all institutions are now required to provide full deposit insurance on noninterest-bearing transaction accounts until December 31, 2012. There will not be a separate assessment for this as there was for institutions participating in the deposit insurance component of the TAGP.

 

·                  On December 16, 2010, the Federal Reserve issued a proposal to implement a provision in the Dodd-Frank Act that requires the Federal Reserve to set debit card interchange fees. The proposed rule, if implemented in its current form, would result in a significant reduction in debit-card interchange revenue. Though the rule technically does not apply to institutions with less than $10 billion in assets, there is concern that the price controls may harm community banks, which could be pressured by the marketplace to lower their own interchange rates.

 

·                  On April 19, 2011, the Federal Reserve issued a proposed rule under Regulation Z that would require creditors to determine a consumer’s ability to repay a mortgage before making the loan and would establish minimum mortgage underwriting standards. The proposal is being made pursuant to the Dodd-Frank Act.  The proposed rule, if implemented in its current form, provides four options for complying with the ability-to-repay requirement and would apply to all consumer mortgages, except home equity lines of credit, timeshare plans, reverse mortgages, or temporary loans. The proposal would also implement the Dodd-Frank Act’s limits on prepayment penalties, lengthen the time creditors must retain records that evidence compliance with the ability-to-repay and prepayment penalty provisions, and prohibit evasion of the rule by structuring a closed-end extension of credit as an open-end plan.

 

Although it is likely that further regulatory actions will arise as the Federal government attempts to address the economic situation, we cannot predict the effect that fiscal or monetary policies, economic control, or new federal or state legislation may have on our business and earnings in the future.

 

Current Business Strategy

 

As described above, we have been actively pursuing the corrective actions required by the Consent Order in an effort to ensure that the requirements of the Consent Order are met in a timely manner.  Now that we have accomplished that goal, we are currently focusing our efforts in the following areas:

 

Profitability.

2010 was a very challenging year for the Bank, the banking industry, and the U.S. economy in general, and these challenges have continued in 2011. The impact of the recession is continuing to be felt by the banking industry as a whole and by us as well. Accordingly, our focus has been and continues to be centered on managing through the effects of the recession to position the Bank to continue being profitable as the economy continues to recover. It is our expectation that our hard work, reduced operating expenses, and the eventual improvement in the economy and the real estate markets will help our borrowers and us weather this storm and continue our road to recovery. Our primary focus has been and will continue to be to increase our net interest margin.  We are reducing our reliance on wholesale deposits and placing emphasis on acquiring core deposits, specifically small business operating accounts.  We are also increasing our loan yields by using a more disciplined loan pricing strategy which takes into consideration risk, term and value of the overall relationship. Additionally, we are taking steps to increase noninterest income through allocating resources to mortgage loan production, insurance income and investment referrals. Reducing our level of nonperforming assets will also lower our operating costs, thus increasing the Bank’s profitability.

 

Increasing and Strengthening Our Capital Position.

As of March 31, 2011, the Bank’s ratios are sufficient to satisfy the regulatory criteria for being a “well capitalized” bank. Management has developed a plan to increase and preserve our capital with the goal of developing and maintaining a strong capital position. These initiatives include, among other things, restructuring the Bank’s balance sheet by limiting new loan activity and aggressively attempting to sell other real estate owned. Additionally, we are actively evaluating a number of capital sources and balance sheet management strategies to ensure that our projected level of regulatory capital can support our balance sheet and meet or exceed minimum requirements.

 

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Managing and Improving Asset Quality.

The economic recession and the deterioration of the housing and real estate markets have had an adverse impact on the credit quality of our loan portfolio. In response, our Bank intends to significantly reduce the amount of its non-performing assets. Non-performing assets hurt our profitability because they reduce the balance of earning assets, may require additional loan loss provisions or write-downs, and require significant devotion of staff time and financial resources to resolve. We believe our asset quality plan aggressively addresses these issues.  For example:

 

·                  We implemented a process for the continuous review of all classified loans, watch loans, past due loans and any other potential risky loans and applied conservative risk grades.

·                  We conducted disciplined watch loan meetings to track and monitor progress, including the execution of workout plans, obtainment of current financial data, and detailed progress updates.

·                  We maintained an adequate reserve for loan losses given the risk profile of our Bank.

·                  We created a comprehensive allowance for loan losses policy and procedures to ensure consistency in the reserve analysis.

·                  We reinforced a risk-focused internal and external loan review program.

·                  We are in the process of developing a plan for managing the loan concentrations. The plan will provide management with the direction to create a portfolio mix that is in tune to the strengths of the Bank and opportunities in our market.

 

Critical Accounting Policies

 

We have adopted various accounting policies that govern the application of accounting principles generally accepted in the United States of America and with general practices within the banking industry in the preparation of our financial statements.  Our significant accounting policies are described in the footnotes to our audited consolidated financial statements as of December 31, 2010, as filed on our Annual Report on Form 10-K.

 

Certain accounting policies involve significant judgments and assumptions by us that have a material impact on the carrying value of certain assets and liabilities.  We consider these accounting policies to be critical accounting policies.  The judgment and assumptions we use are based on historical experience and other factors, which we believe to be reasonable under the circumstances.  Because of the nature of the judgment and assumptions we make, actual results could differ from these judgments and estimates that could have a material impact on the carrying values of our assets and liabilities and our results of operations.

 

Allowance for Loan Losses

 

We believe the allowance for loan losses is the critical accounting policy that requires the most significant judgment and estimates used in preparation of our consolidated financial statements.  Some of the more critical judgments supporting the amount of our allowance for loan losses include judgments about the credit worthiness of borrowers, the estimated value of the underlying collateral, the assumptions about cash flow, determination of loss factors for estimating credit losses, the impact of current events and conditions, and other factors impacting the level of probable inherent losses.  Under different conditions or using different assumptions, the actual amount of credit losses incurred by us may be different from management’s estimates provided in our consolidated financial statements.  Refer to the portion of this discussion that addresses our allowance for loan losses for a more complete discussion of our processes and methodology for determining our allowance for loan losses.

 

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Income Taxes

 

We use assumptions and estimates in determining income taxes payable or refundable for the current year, deferred income tax liabilities and assets for events recognized differently in our financial statements and income tax returns, and income tax benefit or expense.  Determining these amounts requires analysis of certain transactions and interpretation of tax laws and regulations.  Management exercises judgment in evaluating the amount and timing of recognition of resulting tax liabilities and assets.  These judgments and estimates are reevaluated on a continual basis as regulatory and business factors change.   No assurance can be given that either the tax returns submitted by us or the income tax reported on the financial statements will not be adjusted by either adverse rulings by the United States Tax Court, changes in the tax code, or assessments made by the Internal Revenue Service.  We are subject to potential adverse adjustments, including, but not limited to, an increase in the statutory federal or state income tax rates, the permanent non-deductibility of amounts currently considered deductible either now or in future periods, and the dependency on the generation of future taxable income, including capital gains, in order to ultimately realize deferred income tax assets. We have partially reversed the valuation allowance related to the company’s deferred tax asset.  The valuation allowance was established in 2009 based on management’s analysis of the continued losses incurred by the Company and likelihood of recovery of those assets.  As the Company has been demonstrating positive earnings, management has concluded that a portion of those assets are likely to be recovered and, as a result, a portion of the valuation allowance has been reversed, creating earnings in the current quarter.  If the Company continues to generate positive earnings, additional portions of the valuation allowance will be reversed which would positively impact income in future periods.

 

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Results of Operations

 

Three months ended March 31, 2011 and 2010

 

General

 

The Company recorded net income, after tax provision, of $446,402 and net income available to common shareholders of $394,367, for the quarter ended March 31, 2011 compared to a net loss available to common shareholders of $63,983 for the quarter ended March 31, 2010.  Basic earnings per share were $0.22 for the first quarter of 2011 compared to a loss per share of $0.04 in the first quarter of 2010.  The increase in net income as compared to the first quarter of 2010 is primarily attributable to an increase in the Bank’s net interest margin and the partial reversal of the valuation allowance related to the Company’s deferred tax asset.  The valuation allowance was established in 2009 based on management’s analysis of the continued losses incurred by the Company and likelihood of recovery of those assets.  As the Company has been demonstrating positive earnings, management has concluded that a portion of those assets are likely to be recovered and, as a result, a portion of the valuation allowance has been reversed, creating earnings in the current quarter.  If the Company continues to generate positive earnings, additional portions of the valuation allowance will be reversed which would positively impact income in future periods.  For the period ended March 31, 2011, our net interest margin was 3.50% compared to 3.26% at March 31, 2010.  Despite the higher levels of liquidity, improved loan yields and lower deposit costs have resulted in a positive trend in the Company’s net interest margin.

 

Net Interest Income

 

Our primary source of revenue is net interest income.  Net interest income is the difference between income earned on interest-earning assets and interest paid on deposits and borrowings used to support such assets.  The level of net interest income is determined by the balances of interest-earning assets and interest-bearing liabilities and corresponding interest rates earned and paid on those assets and liabilities, respectively.  In addition to the volume of and corresponding interest rates associated with these interest-earning assets and interest-bearing liabilities, net interest income is affected by the timing of the repricing of these interest-earning assets and interest-bearing liabilities.  Our annualized net interest margins for the three months ended March 31, 2011 and 2010 were 3.50% and 3.26%, respectively.

 

Net interest income was $1,046,786 during the three months ended March 31, 2011, compared to $1,056,886 for the same period in 2010.  Interest income of $1,397,665 for the three months ended March 31, 2011 included $1,219,689 on loans, $173,307 on investment securities and $4,669 on federal funds sold and other.  The decrease in interest income for the three months ended March 31, 2011 compared to the same period last year was primarily due to a 15.3% reduction of the loan portfolio.   Interest expense decreased from $587,266 for the three months ended March 31, 2010 to $350,879 for the three months ended March 31, 2011, largely due to a 13.61% decrease in interest bearing deposits.

 

While nonperforming loans continue to be treated as interest-earning assets for purposes of calculating the net interest margin, the interest lost on these loans reduces net interest income, particularly in the quarter the loans first are considered nonperforming, as any interest income accrued on the loans is reversed at that point.

 

Provision for Loan Losses

 

We have established an allowance for loan losses through a provision for loan losses charged as a non-cash expense to our statement of operations.  We review our loan portfolio periodically to evaluate our outstanding loans and to measure both the performance of the portfolio and the adequacy of the allowance for loan losses.  Please see the discussion below under “Provision and Allowance for Loan Losses” for a description of the factors we consider in determining the amount of the provision we expense each period to maintain this allowance.

 

Our provision for loan losses for the three months ended March 31, 2011 was $69,000, a decrease of $117,609, or 63.02%, over our provision of $186,609 for the three months ended March 31, 2010. The provision continues to be maintained at a level based on management’s evaluation of the adequacy of the reserve for probable loan losses given the size, mix, and quality of the current loan portfolio.  Management also relies on our history of past-dues and charge-offs to determine our loan loss allowance.  See below under “Balance Sheet Review” for further information.

 

Noninterest Income

 

Noninterest income during the three months ended March 31, 2011 was $120,712, compared to $139,234 for the same period in 2010.  Noninterest income for the three months ended March 31, 2011 consisted primarily of service charges on deposit accounts of $68,688 and mortgage loan origination fees of $14,405. Noninterest income for the three months ended March 31, 2010 consisted primarily of service charges on deposit accounts of $54,813, gains on sale of investment securities of $51,465, and mortgage loan origination fees of $17,384. The decrease of $18,522 in noninterest income compared to the same period in 2010 is primarily the result of the gains on sale

 

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of investment securities of $51,465 recognized in 2010 offset by the increase in service charges on deposit accounts of $13,875 recognized during the first three months of 2011.

 

In response to competition to retain deposits, institutions in the financial services industry have increasingly been providing services for free in an effort to lure deposits away from competitors and retain existing balances.  Services that were initially developed as fee income opportunities, such as Internet banking and bill payment service, are now provided to customers free of charge. Consequently, opportunities to earn additional income from service charges for such services have been more limited.  In addition, recent focus on the level of deposit service charges within the banking industry by the media and the U.S. Government may result in future legislation limiting the amount and type of services charges within the banking industry.

 

The November 2010 amendment to Regulation E of the Electronic Fund Transfer Act, which was effective July 1, 2010, prohibits financial institutions from charging consumers fees for paying overdrafts on automated teller machine and one-time debit card transactions unless a consumer consents to the overdraft service for those types of transactions.  The current impact of the change from Regulation E resulted in a reduction of approximately 10% of such overdraft fees for the three months ended March 31, 2011 compared to the same period in 2010.

 

Noninterest Expenses

 

The following table sets forth information related to our noninterest expenses for the three months ended March 31, 2011 and 2010.

 

 

 

Three months ended

 

 

 

March 31,

 

 

 

2011

 

2010

 

Salaries and employee benefits

 

$

435,285

 

$

457,151

 

Occupancy and equipment

 

213,117

 

190,417

 

Data processing and related costs

 

87,814

 

94,180

 

Marketing, advertising and shareholder communications

 

10,329

 

20,213

 

Legal and audit

 

36,677

 

67,372

 

Other professional fees

 

10,226

 

17,819

 

Supplies, postage and telephone

 

9,146

 

10,230

 

Insurance

 

11,488

 

1,151

 

Credit related expenses

 

(5,523

)

11,950

 

Courier and armored carrier service

 

632

 

1,376

 

Regulatory fees and FDIC insurance

 

91,970

 

123,565

 

Other real estate owned expense

 

71,442

 

10,889

 

Other

 

56,808

 

37,511

 

Total noninterest expense

 

$

1,029,411

 

$

1,043,824

 

 

The most significant component of noninterest expense is compensation and benefits, which totaled $435,285 for the three months ended March 31, 2011, compared to $457,151 for the three months ended March 31, 2010. The decrease is primarily related to staff reductions.  Regulatory fees and FDIC insurance decreased from $123,565 for the three months ended March 31, 2010 to $91,970 for the three months ended March 31, 2011 due to a special assessment in the prior year and the decrease in deposit transaction accounts compared to the same period in 2010.  Other real estate expenses increased from $10,899 for the three months ended March 31, 2010, to $71,442 for the three months ended March 31, 2011 as a result of an increase in the number of real estate owned during the year.

 

Income Tax Benefit

 

The Company had reported taxable income for the three months ended March 31, 2011.  The Company did not have taxable income for the three months ended March 31, 2010. The valuation allowance was established in 2009 based on management’s analysis of the continued losses incurred by the Company and likelihood of recovery of those assets.  As the Company has been demonstrating positive earnings, management has concluded that a portion of those assets are likely to be recovered and, as a result, a portion of the valuation allowance has been reversed, creating earnings in the current quarter.  If the Company continues to generate positive earnings, additional portions of the valuation allowance will be reversed which would positively impact income in future periods.

 

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Balance Sheet Review

 

General

 

At March 31, 2011, total assets were $127,241,692, compared to $121,176,715 at December 31, 2010, an increase of $6,064,977, or 5.0%.  The increase in assets resulted from an increase in investment securities available-for-sale of approximately $2.6 million, an increase in federal funds sold of approximately $5.8 million and an increase in other real estate owned of $215,275. Interest-earning assets comprised approximately 93.4% and 92.9% of total assets at March 31, 2011 and December 31, 2010, respectively.  Gross loans totaled $87,499,982 and investment securities were $23,393,544 at March 31, 2011.

 

Deposits totaled $112,189,732 at March 31, 2011 and $106,585,992 at December 31, 2010.  FHLB advances were $3,000,000 at March 31, 2011 and December 31, 2010.  Shareholders’ equity was $11,623,088 and $11,176,648 at March 31, 2011 and December 31, 2010, respectively.

 

Loans

 

Since loans typically provide higher interest yields than other interest-earning assets, it is our goal to ensure that the highest percentage of our earning assets is invested in our loan portfolio.  Gross loans outstanding at March 31, 2011 were $87,499,982, or 73.6% of interest-earning assets and 68.8% of total assets, compared to $90,335,609, or 81.6% of interest-earning assets and 74.5% of total assets, at December 31, 2010.

 

Loans secured by real estate mortgages comprised approximately 89.76% of loans outstanding at March 31, 2011 and 88.23% at December 31, 2010. Most of our real estate loans are secured by residential and commercial properties. We do not generally originate traditional long-term residential mortgages, but we do issue traditional second mortgage residential real estate loans and home equity lines of credit.  We obtain a security interest in real estate whenever possible, in addition to any other available collateral.  This collateral is taken to increase the likelihood of the ultimate repayment of the loan.  Generally, we limit the loan-to-value ratio on loans we make to 80%.  Commercial loans and lines of credit represented approximately 8.78% and 10.22% of our loan portfolio at March 31, 2011 and December 31, 2010, respectively.  Our construction and development loans represented approximately 12.29% and 13.37% of our loan portfolio at March 31, 2011 and December 31, 2010, respectively.

 

Due to the short time our portfolio has existed, the loan mix shown below may not be indicative of the ongoing portfolio mix.  We attempt to maintain a relatively diversified loan portfolio to help reduce the risk inherent in concentration of certain types of collateral.

 

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The following table summarizes the composition of our loan portfolio as of March 31, 2011 and December 31, 2010.

 

 

 

March 31, 2011

 

December 31, 2010

 

 

 

Amount

 

Percentage
of Total

 

Amount

 

Percentage
of Total

 

Real Estate:

 

 

 

 

 

 

 

 

 

Construction and development and land

 

$

10,757,640

 

12.29

%

$

12,076,019

 

13.37

%

Commercial

 

27,756,091

 

31.72

 

27,636,367

 

30.59

 

Residential mortgages

 

15,220,038

 

17.38

 

14,450,685

 

16.00

 

Home equity lines

 

24,805,765

 

28.35

 

25,538,314

 

28.27

 

Total real estate

 

78,539,534

 

89.76

 

79,701,385

 

88.23

 

 

 

 

 

 

 

 

 

 

 

Commercial

 

7,685,228

 

8.78

 

9,234,855

 

10.22

 

Consumer

 

1,275,220

 

1.46

 

1,399,369

 

1.55

 

Gross loans

 

87,499,982

 

100

%

90,335,609

 

100

%

Less allowance for loan losses

 

(1,508,907

)

 

 

(1,552,061

)

 

 

Total loans, net

 

$

85,991,075

 

 

 

$

88,783,548

 

 

 

 

Provision and Allowance for Loan Losses

 

We have established an allowance for loan losses through a provision for loan losses charged to expense on our consolidated statements of operations.  The allowance for loan losses for the three months ended March 31, 2011 and 2010 is presented below:

 

 

 

Three Months Ended
March 31,

 

 

 

2011

 

2010

 

Balance at beginning of the period

 

$

1,552,061

 

$

1,498,937

 

Provision for loan losses

 

69,000

 

186,609

 

Loans charged-off

 

(112,904

)

(198,316

)

Recoveries of loans previously charged-off

 

750

 

2,420

 

Balance at end of the period

 

$

1,508,907

 

$

1,489,650

 

 

The allowance for loan losses was $1,508,907 and $1,552,061 as of March 31, 2011 and December 31, 2010, respectively, and represented 1.72% and 1.72% of outstanding loans at March 31, 2011 and December 31, 2010, respectively.

 

The allowance for loan losses represents an amount which we believe will be adequate to absorb probable losses on existing loans that may become uncollectible.  Our judgment as to the adequacy of the allowance for loan losses is based on a number of assumptions about future events, which we believe to be reasonable, but which may or may not prove to be accurate. Our determination of the allowance for loan losses is based on evaluations of the collectability of loans, including consideration of factors such as the balance of impaired loans, the quality, mix, and size of our overall loan portfolio, economic conditions that may affect the borrower’s ability to repay, the amount and quality of collateral securing the loans, our historical loan loss experience, and a review of specific problem loans.  We also consider subjective issues such as changes in the lending policies and procedures, changes in the local/national economy, changes in volume or type of credits, changes in volume/severity of problem loans, quality of loan review and board of director oversight, concentrations of credit, and peer group comparisons.  We adjust the amount of the allowance periodically based on changing circumstances as a component of the provision for loan losses.

 

We calculate the allowance for loan losses for specific types of loans and evaluate the adequacy on an overall portfolio basis utilizing our credit grading system which we apply to each loan.  We combine our estimates of the reserves needed for each component of the portfolio, including loans analyzed on a pool basis and loans analyzed individually.  The allowance is divided into two portions: (1) an amount for specific allocations on significant individual credits and (2) a general reserve amount.

 

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Specific Reserve

 

We analyze individual loans within the portfolio and make allocations to the allowance based on each individual loan’s specific factors and other circumstances that affect the collectability of the credit.  Significant individual credits classified as doubtful or substandard/special mention within our credit grading system require both individual analysis and specific allocation.

 

Loans in the substandard category are characterized by deterioration in quality exhibited by any number of well-defined weaknesses requiring corrective action such as declining or negative earnings trends and declining or inadequate liquidity.  Loans in the doubtful category exhibit the same weaknesses found in the substandard loan; however, the weaknesses are more pronounced.  These loans, however, are not yet rated as loss because certain events may occur which could salvage the debt such as injection of capital, alternative financing, or liquidation of assets.

 

In these situations where a loan is determined to be impaired (primarily because it is probable that all principal and interest due according to the terms of the loan agreement will not be collected as scheduled), the loan is excluded from the general reserve calculations described below and is assigned a specific reserve.  These reserves are based on a thorough analysis of the most probable source of repayment, which is usually the liquidation of the underlying collateral, but may also include discounted future cash flows or, in rare cases, the market value of the loan itself.

 

Generally, for larger collateral dependent loans, current market appraisals are ordered to estimate the current fair value of the collateral.  However, in situations where a current market appraisal is not available, management uses the best available information (including recent appraisals for similar properties, communications with qualified real estate professionals, information contained in reputable trade publications and other observable market data) to estimate the current fair value.  The estimated costs to sell the subject property are then deducted from the estimated fair value to arrive at the “net realizable value” of the loan and to determine the specific reserve on each impaired loan reviewed. An outside credit review firm periodically reviews the fair value assigned to each impaired loan and adjusts the specific reserve accordingly.

 

General Reserve

 

We calculate our general reserve based on a percentage allocation for each of the effective categories of unclassified loan types.  We apply our historical trend loss factors to each category and adjust these percentages for qualitative or environmental factors, as discussed below.  The general estimate is then added to the specific allocations made to determine the amount of the total allowance for loan losses.

 

We maintain a general reserve in accordance with December 2006 regulatory interagency guidance in our assessment of the loan loss allowance.  This general reserve considers qualitative or environmental factors that are likely to cause estimated credit losses including, but not limited to, changes in delinquent loan trends, trends in risk grades and net chargeoffs, concentrations of credit, trends in the nature and volume of the loan portfolio, general and local economic trends, collateral valuations, the experience and depth of lending management and staff, lending policies and procedures, the quality of loan review systems, and other external factors.

 

In addition, the current downturn in the real estate market has resulted in an increase in loan delinquencies, defaults and foreclosures, and we believe these trends are likely to continue.  In some cases, this downturn has resulted in a significant impairment to the value of our collateral and our ability to sell the collateral upon foreclosure, and there is a risk that this trend will continue.  The real estate collateral in each case provides an alternate source of repayment in the event of default by the borrower and may deteriorate in value during the time the credit is extended.  If real estate values continue to decline, it is also more likely that we would be required to increase our allowance for loan losses.  Based on present information and an ongoing evaluation, management considers the allowance for loan losses to be adequate to meet presently known and inherent losses in the loan portfolio.  Management’s judgment about the adequacy of the allowance is based upon a number of assumptions about future events which it believes to be reasonable but which may or may not be accurate.  Thus, there can be no assurance that charge-offs in future periods will not exceed the allowance for loan losses or that additional increases in the allowance for loan losses will not be required, especially considering the overall weakness in the commercial real estate market in our market areas.  Management believes estimates of the level of allowance for loan losses required have been appropriate and the expectation is that the primary factors considered in the provision calculation will continue to be consistent with prior trends.

 

The Company identifies impaired loans through its normal internal loan review process.  Loans on the Company’s potential problem loan list are considered potentially impaired loans.  These loans are evaluated in determining whether all outstanding principal and interest are expected to be collected.  Loans are not considered impaired if a minimal payment delay occurs and all amounts due, including accrued interest at the contractual interest rate for the period of delay, are expected to be collected.  Management has determined that the Company had $2,111,467 and $2,251,261 in impaired loans at March 31, 2011 and December 31, 2010, respectively.

 

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The valuation allowances related to impaired loans totaled $185,802 and $224,935 at March 31, 2011 and December 31, 2010, respectively.

 

At March 31, 2011 and December 31, 2010, nonaccrual loans totaled $1,662,587 and $1,417,289, respectively.  Generally, a loan will be placed on nonaccrual status when it becomes 90 days past due as to principal or interest, or when management believes, after considering economic and business conditions and collection efforts, that the borrower’s financial condition is such that collection of the loan is doubtful.  A payment of interest on a loan that is classified as nonaccrual is applied against the principal balance.

 

Deposits

 

Our primary source of funds for our loans and investments is our deposits.  Total deposits as of March 31, 2011 and December 31, 2010 were $112,189,732 and $106,585,992, respectively. The following table shows the average balance outstanding and the average rates paid on deposits for the quarter ended March 31, 2011 (annualized) and the year ended December 31, 2010.

 

 

 

March 31, 2011

 

December 31, 2010

 

 

 

Average
Amount

 

Rate

 

Average
Amount

 

Rate

 

Non-interest bearing demand deposits

 

$

8,932,136

 

%

$

9,954,508

 

%

Interest-bearing checking

 

4,735,699

 

0.31

 

4,471,063

 

0.33

 

Money market

 

51,185,250

 

1.19

 

42,431,506

 

1.58

 

Savings

 

930,442

 

0.28

 

894,561

 

0.45

 

Time deposits less than $100,000

 

25,511,620

 

1.40

 

28,234,323

 

2.03

 

Time deposits $100,000 and over

 

20,178,612

 

1.77

 

33,789,178

 

2.03

 

Total

 

$

111,473,759

 

1.31

%

$

119,775,139

 

1.78

%

 

Core deposits, which exclude time deposits of $100,000 or more and brokered certificates of deposit, provide a relatively stable funding source for our loan portfolio and other earning assets.  Our core deposits were approximately $92,172,276 and $85,189,016 at March 31, 2011 and December 31, 2010, respectively. Our loan-to-deposit ratio was 77.99% and 84.75% at March 31, 2011 and December 31, 2010, respectively.  Due to the competitive interest rate environment in our market, we utilized brokered certificates of deposit as a funding source in 2011 and 2010 when we were able to procure these certificates at interest rates less than those in the local market.  All of our time deposits are certificates of deposits.

 

Liquidity

 

Liquidity is the ability to meet current and future obligations through liquidation or maturity of existing assets or the acquisition of liabilities.  We manage both assets and liabilities to achieve appropriate levels of liquidity.  Liquidity management involves monitoring our sources and uses of funds in order to meet our day-to-day cash flow requirements while maximizing profits.  Liquidity management is made more complicated because different balance sheet components are subject to varying degrees of management control.  For example, the timing of maturities of our investment portfolio is fairly predictable and subject to a high degree of control at the time investment decisions are made.  However, net deposit inflows and outflows are far less predictable and are not subject to the same degree of control.

 

Cash and short-term investments are our 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 our principal source of secondary asset liquidity.  However, the availability of this source of funds is influenced by market conditions and pledging agreements.  Individual and commercial deposits, wholesale deposits and borrowings are our primary source of funds for credit activities.  In addition, we will receive cash upon the maturities and sales of loans and maturities, calls and prepayments on investment securities.  We maintain federal funds purchased lines of credit with correspondent banks totaling $9,100,000.  Availability on these lines of credit was $9,100,000 at March 31, 2011.

 

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We are a member of the FHLB of Atlanta, from which applications for borrowings can be made.  The FHLB requires that investment securities or qualifying mortgage loans be pledged to secure advances from them.  We are also required to purchase FHLB stock in a percentage of each advance.  At March 31, 2011 and December 31, 2010, we had $3,000,000 outstanding at an interest rate of 2.62% with a maturity date of February 25, 2013.  The Bank borrowed the funds to reduce the cost of funds on money used to fund loans.  The Bank has remaining credit availability of $9,850,000 at the FHLB.  We believe that our existing stable base of core deposits along with continued growth in this deposit base will enable us to successfully meet our long term liquidity needs.

 

Like all banks, we are subject to the FHLB’s credit risk rating policy which assigns member institutions a rating which is reviewed quarterly.  The rating system utilizes key factors such as loan quality, capital, liquidity, profitability, etc.  Our ability to access our available borrowing capacity from the FHLB in the future is subject to our rating and any subsequent changes based on our financial performance as compared to factors considered by the FHLB in their assignment of our credit risk rating each quarter.  In addition, the Federal Reserve Bank of Richmond as well as our correspondent banks review our financial results and could limit our credit availability based on their review.

 

At March 31, 2011, the Bank had short-term lines of credit with correspondent banks to purchase a maximum of $5,800,000 in unsecured federal funds on a one to fourteen day basis and $3,300,000 in unsecured federal funds on a one to twenty day basis for general corporate purposes.  The interest rate on borrowings under these lines is the prevailing market rate for federal funds purchased.  These accommodation lines of credit are renewable annually and may be terminated at any time at the correspondent bank’s sole discretion.  At March 31, 2011 and December 31, 2010, we had no borrowings outstanding on these lines.

 

The Bank’s level of liquidity is measured by the cash, cash equivalents, and investment securities available for sale to total assets ratio, which was at 26.84% at March 31, 2011 compared to 21.21% as of December 31, 2010.  At March 31, 2011, $5,313,287 of our investment securities were pledged to secure public entity deposits and as collateral for securities sold under agreement to repurchase. We continue to carefully focus on liquidity management during 2011.  We plan to continue reducing brokered time deposits as cash balances, retail deposit growth and operating needs allow.

 

Capital Resources

 

Total shareholders’ equity was $11,623,088 at March 31, 2011, an increase of $446,440 from $11,176,648 at December 31, 2010.  The increase is primarily due to the net income for the period of $446,402.

 

The Federal Reserve and bank regulatory agencies require bank holding companies and financial institutions to maintain capital at adequate levels based on a percentage of assets and off-balance sheet exposures, adjusted for risk weights ranging from 0% to 100%.  The Federal Reserve guidelines contain an exemption from the capital requirements for “small bank holding companies,” which in 2006 were amended to cover most bank holding companies with less than $500 million in total assets that do not have a material amount of debt or equity securities outstanding registered with the SEC.  Although our class of common stock is registered under Section 12 of the Securities Exchange Act, we believe that because our stock is not listed on any exchange or otherwise actively traded, the Federal Reserve will interpret its new guidelines to mean that we qualify as a small bank holding company.  Nevertheless, our Bank remains subject to these capital requirements.  Failure to meet minimum capital requirements can initiate certain mandatory and possibly additional discretionary actions by regulators that, if undertaken, could have a direct material effect on the Bank’s financial statements.  Under capital adequacy guidelines and the regulatory framework for prompt corrective action, the Bank must meet specific capital guidelines that involve quantitative measures of the Bank’s assets, liabilities and certain off-balance sheet items as calculated under regulatory accounting practices.  The Bank’s capital amounts and classifications are also subject to qualitative judgments by the regulators about components, risk weightings, and other factors.

 

Under the capital adequacy guidelines, regulatory capital is classified into two tiers.  These guidelines require an institution to maintain a certain level of Tier 1 and Tier 2 capital to risk-weighted assets.  Tier 1 capital consists of common shareholders’ equity, excluding the unrealized gain or loss on securities available for sale, minus certain intangible assets.  In determining the amount of risk-weighted assets, all assets, including certain off-balance sheet assets, are multiplied by a risk-weight factor of 0% to 100% based on the risks believed to be inherent in the type of asset.  Tier 2 capital consists of Tier 1 capital plus the general reserve for loan losses, subject to certain limitations.  We are also required to maintain capital at a minimum level based on total average assets, which is known as the Tier 1 leverage ratio.

 

At the bank level, we are subject to various regulatory capital requirements administered by the federal banking agencies. To be considered “adequately capitalized” under these capital guidelines, we must maintain a minimum total risk-based capital of 8%, with at least 4% being Tier 1 capital.  In addition, we must maintain a minimum Tier 1 leverage ratio of at least 4%. To be considered “well-capitalized,” we must maintain total risk-based capital of at least 10%, Tier 1 capital of at least 6%, and a leverage ratio of at least 5%.

 

The following table sets forth the Bank’s capital ratios at March 31, 2011 and December 31, 2010:

 

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Table of Contents

 

 

 

 

 

 

 

To Be Well-

 

 

 

 

 

 

 

Capitalized Under

 

 

 

 

 

For Capital

 

Prompt Corrective

 

 

 

Actual

 

Adequacy Purposes

 

Action Provisions

 

(Dollars in thousands)

 

Amount

 

Ratio

 

Amount

 

Ratio

 

Amount

 

Ratio

 

March 31, 2011

 

 

 

 

 

 

 

 

 

 

 

 

 

Total capital (to risk-weighted assets)

 

$

12,545

 

14.97

%

$

6,703

 

8.00

%

$

8,379

 

10.00

%

Tier 1 capital (to risk-weighted assets)

 

11,492

 

13.72

%

3,352

 

4.00

%

5,027

 

6.00

%

Tier 1 capital (to average assets)

 

11,492

 

9.15

%

5,022

 

4.00

%

6,277

 

5.00

%

December 31, 2010

 

 

 

 

 

 

 

 

 

 

 

 

 

Total capital (to risk-weighted assets)

 

$

12,538

 

14.09

%

$

7,117

 

8.00

%

$

8,896

 

10.00

%

Tier 1 capital (to risk-weighted assets)

 

11,421

 

12.84

%

3,558

 

4.00

%

5,338

 

6.00

%

Tier 1 capital (to average assets)

 

11,421

 

9.16

%

4,989

 

4.00

%

6,237

 

5.00

%

 

Under the Bank’s current regulatory restrictions, we are required to achieve and maintain Total Risk Based capital at least equal to 10% of risk-weighted assets and Tier 1 capital at least equal to 8% of total assets. As of March 31, 2011 and December 31, 2010, the Bank was considered to be in compliance with the minimum capital requirements established in the regulatory restrictions.

 

Off-Balance Sheet Risk

 

Through the Bank, we have made contractual commitments to extend credit in the ordinary course of our business activities.  These commitments are legally binding agreements to lend money to our clients at predetermined interest rates for a specified period of time. We evaluate each client’s creditworthiness on a case-by-case basis.  The amount of collateral obtained, if deemed necessary by us upon extension of credit, is based on our credit evaluation of the borrower.  Collateral varies but may include accounts receivable, inventory, property, plant and equipment, commercial and residential real estate.  We manage the credit risk on these commitments by subjecting them to normal underwriting and risk management processes.

 

At March 31, 2011 and December 31, 2010, we had issued commitments to extend credit of approximately $11,406,000 and $11,091,000, respectively, through various types of lending arrangements.  There were three standby letters of credit included in the commitments for $225,000 at March 31, 2011, and there were two standby letters of credit included in the commitments for $125,000 at December 31, 2010.

 

Commitments generally have fixed expiration dates or other termination clauses and may require the payment of a fee.  A significant portion of the unfunded commitments relate to consumer equity lines of credit and commercial lines of credit.  Based on historical experience, we anticipate that a portion of these lines of credit will not be funded.

 

Except as disclosed in this report, we are not involved in off-balance sheet contractual relationships, unconsolidated related entities that have off-balance sheet arrangements or transactions that could result in liquidity needs or other commitments that significantly impact earnings.

 

Item 3. Quantitative and Qualitative Disclosures About Market Risk

 

Not applicable.

 

Item 4. Controls and Procedures

 

As of the end of the period covered by this report, we carried out an evaluation, under the supervision and with the participation of our management, including our Chief Executive Officer and Chief Financial Officer, of the effectiveness of our disclosure controls and procedures as defined in Exchange Act Rule 13a-15(e).  Based upon that evaluation, our Chief Executive Officer and Chief Financial Officer have concluded that our current disclosure controls and procedures are effective as of March 31, 2011.  There have been no significant changes in our internal controls over financial reporting during the fiscal quarter ended March 31, 2011 that have materially affected, or are reasonably likely to materially affect, our internal controls over financial reporting.

 

The design of any system of controls and procedures is based in part upon certain assumptions about the likelihood of future events.  There can be no assurance that any design will succeed in achieving its stated goals under all potential future conditions, regardless of how remote.

 

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Table of Contents

 

PART II - OTHER INFORMATION

 

Item 1. Legal Proceedings

 

There are no pending material legal proceedings to which we are a party or of which any of our property is the subject.

 

Item 1.A Risk Factors

 

Not applicable.

 

Item 2. Unregistered Sales of Equity Securities and Use of Proceeds

 

Not applicable.

 

Item 3. Default Upon Senior Securities

 

We deferred the quarterly dividend payment on the shares of Series A Preferred Stock issued to the U.S. Treasury as part of the CPP which was due February 15, 2011.  This payment was the fifth dividend payment we have deferred.  As part of the CPP, the Company entered into a letter agreement with the Treasury on January 9, 2010, which includes a Securities Purchase Agreement-Standard Terms.  As part of the agreement, dividends compound if they accrue and are not paid.  Failure by the Company to pay the dividend on the shares of Series A Preferred Stock is not an event of default.  However, a failure to pay a total of six such dividends, whether or not consecutive, gives the Treasury the right to elect two directors to the Company’s Board of Directors.  That right would continue until the Company pays all dividends in arrears.  As of the date of this report, the total arrearage was $246,150. The Company anticipates paying the accrued dividends at the next interest payment due on May 15, 2011 to avoid triggering the Treasury’s ability to elect directors to the Company’s Board of Directors.

 

Item 4. (Removed and Reserved)

 

Item 5. Other Information

 

Not applicable.

 

Item 6.  Exhibits

 

31.1

 

Rule 13a-14(a) Certification of the Principal Executive Officer.

 

 

 

31.2

 

Rule 13a-14(a) Certification of the Principal Financial Officer.

 

 

 

32

 

Section 1350 Certifications.

 

36



Table of Contents

 

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.

 

 

Date:  May 16, 2011

By:

/s/ Charles A. Kirby

 

 

Charles A. Kirby

 

 

President and Chief Executive Officer
(Principal Executive Officer)

 

 

 

Date:  May 16, 2011

By:

/s/ Charlie T. Lovering

 

 

Charlie T. Lovering

 

 

Chief Financial Officer
(Principal Financial and Accounting Officer)

 

37



Table of Contents

 

EXHIBIT INDEX

 

Exhibit

 

 

Number

 

Description

 

 

 

31.1

 

Rule 13a-14(a) Certification of the Principal Executive Officer.

 

 

 

31.2

 

Rule 13a-14(a) Certification of the Principal Financial Officer.

 

 

 

32

 

Section 1350 Certifications.

 

38