SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-Q
Quarterly Report Pursuant to Section 13 or 15(d) of
the Securities Exchange Act of 1934
For the quarterly period ended March 31, 2006 Commission File No. 000-22054
COMMUNITY BANKSHARES, INC.
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(Exact name of registrant as specified in its charter)
South Carolina 57-0966962
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(State or other jurisdiction of (IRS Employer Identification No.)
incorporation or organization)
102 Founders Court
Orangeburg, South Carolina 29118
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(Address of principal executive offices, zip code)
(803) 535-1060
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(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 Securities Exchange Act of
1934 during the preceding 12 months (or for such shorter period that the
registrant was required to file such reports), and (2) has been subject to such
filing requirements for the past 90 days.
Yes [X] No [ ]
Indicate by check mark whether the registrant is a large accelerated
filer, an accelerated filer, or a non-accelerated filer. See definition of
"accelerated filer and large accelerated filer" in Rule 12b-2 of the Exchange
Act. (Check one):
Large accelerated filer [ ] Accelerated filer [ ] Non-accelerated filer [X]
Indicate by check mark whether the registrant is a shell company (as
defined in Rule 12b-2 of the Exchange Act).
Yes [ ] No [X]
Indicate the number of shares outstanding of each of the issuer's
classes of common stock, as of the latest practicable date: Common Stock, no par
or stated value, 4,434,898 shares outstanding on May 2, 2006.
COMMUNITY BANKSHARES, INC.
FORM 10-Q
Index
Page
PART I - FINANCIAL INFORMATION
Item 1. Financial Statements
Consolidated Balance Sheets 3
Consolidated Statements of Income 4
Consolidated Statements of Changes in Shareholders' Equity 5
Consolidated Statements of Cash Flows 6
Notes to Unaudited Consolidated Financial Statements 7
Item 2. Management's Discussion and Analysis of Financial Condition and Results of
Operations 9
Item 3. Quantitative and Qualitative Disclosures About Market Risk 19
Item 4. Controls and Procedures 20
PART II - OTHER INFORMATION
Item 2. Unregistered Sales of Equity Securities and Use of Proceeds
21
Item 6. Exhibits
21
SIGNATURES 22
2
PART I - FINANCIAL INFORMATION
Item 1. - Financial Statements
COMMUNITY BANKSHARES, INC.
Consolidated Balance Sheets
(Unaudited)
March 31, December 31,
2006 2005
---- ----
(Dollars in thousands)
Assets
Cash and due from banks ................................................................. $ 16,963 $ 19,508
Federal funds sold ...................................................................... 28,800 32,483
--------- ---------
Total cash and cash equivalents .................................................. 45,763 51,991
Interest-bearing deposits with other banks .............................................. 1,847 1,038
Securities available-for-sale ........................................................... 57,420 58,701
Securities held-to-maturity (estimated fair value $1,828 for 2006
and $1,820 for 2005) ............................................................... 1,850 1,850
Other investments ....................................................................... 3,051 2,980
Loans held for sale ..................................................................... 13,305 12,447
Loans receivable ........................................................................ 417,451 413,984
Less, allowance for loan losses ..................................................... (11,094) (11,641)
--------- ---------
Net loans ........................................................................ 406,357 402,343
Premises and equipment - net ............................................................ 9,896 9,412
Accrued interest receivable ............................................................. 2,898 3,134
Net deferred income tax assets .......................................................... 3,680 3,655
Goodwill ................................................................................ 4,321 4,321
Core deposit intangible assets .......................................................... 2,776 2,837
Prepaid expenses and other assets ....................................................... 1,669 2,127
--------- ---------
Total assets ..................................................................... $ 554,833 $ 556,836
========= =========
Liabilities
Deposits
Noninterest bearing ................................................................. $ 66,095 $ 67,146
Interest-bearing .................................................................... 393,570 397,063
--------- ---------
Total deposits ................................................................... 459,665 464,209
Short-term borrowings ................................................................... 10,491 8,975
Long-term debt .......................................................................... 31,693 32,196
Accrued interest payable ................................................................ 1,245 1,212
Accrued expenses and other liabilities .................................................. 1,822 1,252
--------- ---------
Total liabilities ................................................................ 504,916 507,844
--------- ---------
Shareholders' equity
Common stock - no par value; 12,000,000 shares authorized; issued and
outstanding - 4,426,648 for 2006 and 4,404,303 for 2005 ............................. 30,457 30,202
Retained earnings ....................................................................... 20,040 19,325
Accumulated other comprehensive income (loss) ........................................... (580) (535)
--------- ---------
Total shareholders' equity ....................................................... 49,917 48,992
--------- ---------
Total liabilities and shareholders' equity ....................................... $ 554,833 $ 556,836
========= =========
See accompanying notes to unaudited consolidated financial statements.
3
COMMUNITY BANKSHARES, INC.
Consolidated Statements of Income
(Unaudited)
Three Months Ended
March 31,
2006 2005
----- ----
(Dollars in thousands,
except per share)
Interest and dividend income
Loans, including fees ............................ $ 7,683 $ 6,716
Interest-bearing deposits with other banks ....... 20 8
Debt securities .................................. 553 437
Dividends ........................................ 34 24
Federal funds sold ............................... 323 68
------- -------
Total interest and dividend income ........... 8,613 7,253
------- -------
Interest expense
Deposits
Time deposits $100M and over ..................... 859 527
Other deposits ................................... 1,944 1,208
------- -------
Total interest expense on deposits ........... 2,803 1,735
Short-term borrowings ............................ 101 43
Long-term debt ................................... 482 438
------- -------
Total interest expense ....................... 3,386 2,216
------- -------
Net interest income ................................... 5,227 5,037
Provision for loan losses ............................. 615 450
------- -------
Net interest income after provision ................... 4,612 4,587
------- -------
Noninterest income
Service charges on deposit accounts .............. 832 762
Mortgage brokerage income ........................ 837 692
Net securities gains or (losses) ................. 1 (10)
Other ............................................ 264 221
------- -------
Total noninterest income ..................... 1,934 1,665
------- -------
Noninterest expenses
Salaries and employee benefits ................... 2,579 2,278
Premises and equipment ........................... 624 535
Other ............................................ 1,424 1,306
------- -------
Total noninterest expenses ................... 4,627 4,119
------- -------
Income before income taxes ............................ 1,919 2,133
Income tax expense .................................... 718 773
------- -------
Net income ............................................ $ 1,201 $ 1,360
======= =======
Per share
Net income ....................................... $ 0.27 $ 0.31
Net income - diluted ............................. 0.27 0.30
Cash dividends declared .......................... 0.11 0.10
See accompanying notes to unaudited consolidated financial statements.
4
COMMUNITY BANKSHARES, INC.
Consolidated Statements of Changes in Shareholders' Equity
(Unaudited)
Common Stock
---------------------- Accumulated
Number of Retained Other Comprehensive
Shares Amount Earnings Income (Loss) Total
------ ------ -------- ------------- -----
(Dollars in thousands, except per share)
Balance, January 1, 2005 .................................. 4,390,784 $ 30,042 $ 20,075 $ (90) $ 50,027
---------
Comprehensive income
Net income ............................................ - - 1,360 - 1,360
---------
Unrealized holding gains and losses
on available-for-sale securities arising
during the period, net of income
taxes of $203 ....................................... - - - (361) (361)
Reclassification adjustment for losses (gains)
realized in income, net of
income taxes of $3 .................................. - - - 7 7
---------
Total other comprehensive income (loss) .......... - - - - (354)
---------
Total comprehensive income .................. - - - - 1,006
---------
Exercise of employee stock options ........................ 12,232 140 - - 140
Cash dividends declared, $.10 per share ................... - - (439) - (439)
--------- --------- --------- --------- ---------
Balance, March 31, 2005 ................................... 4,403,016 $ 30,182 $ 20,996 $ (444) $ 50,734
========= ========= ========= ========= =========
Balance, January 1, 2006 .................................. 4,404,303 $ 30,202 $ 19,325 $ (535) $ 48,992
---------
Comprehensive income
Net income ............................................ - - 1,201 - 1,201
---------
Unrealized holding gains and losses
on available-for-sale securities arising
during the period, net of income
taxes of $25 ........................................ - - - (44) (44)
Reclassification adjustment for losses (gains)
realized in income, net of
income taxes of $0 .................................. - - - (1) (1)
---------
Total other comprehensive income (loss) .......... - - - - (45)
---------
Total comprehensive income .................. - - - - 1,156
---------
Proceeds of sale of common stock .......................... 1,000 16 - - 16
Exercise of employee stock options ........................ 21,345 239 - - 239
Cash dividends declared, $.11 per share ................... - - (486) - (486)
--------- --------- --------- --------- ---------
Balance, March 31, 2006 ................................... 4,426,648 $ 30,457 $ 20,040 $ (580) $ 49,917
========= ========= ========= ========= =========
See accompanying notes to unaudited consolidated financial statements.
5
COMMUNITY BANKSHARES, INC.
Consolidated Statements of Cash Flows
(Unaudited)
Three Months Ended
March 31,
2006 2005
---- ----
(Dollars in thousands)
Operating activities
Net income .............................................................................. $ 1,201 $ 1,360
Adjustments to reconcile net income to net
cash provided by operating activities
Depreciation and amortization .................................................... 314 286
Net amortization of securities ................................................... 6 32
Provision for loan losses ........................................................ 615 450
Net securities (gains) losses .................................................... (1) 10
Proceeds of sales of loans held for sale ......................................... 51,178 43,781
Originations of loans held for sale .............................................. (52,036) (44,807)
Decrease (increase) in accrued interest receivable ............................... 236 (65)
Decrease in other assets ......................................................... 458 652
Increase in accrued interest payable ............................................. 33 174
Increase in other liabilities .................................................... 570 30
-------- --------
Net cash provided by operating activities .................................... 2,574 1,903
-------- --------
Investing activities
Net (increase) decrease in interest-bearing deposits with other banks ................... (809) 309
Purchases of available-for-sale securities .............................................. (2,499) (3,500)
Maturities, calls and paydowns of available-for-sale securities ......................... 3,705 2,069
Proceeds of sales of available-for-sale securities ...................................... - 4,412
Purchases of other investments .......................................................... (71) (216)
Net increase in loans made to customers ................................................. (4,629) (12,475)
Purchases of premises and equipment ..................................................... (737) (214)
-------- --------
Net cash used by investing activities ........................................ (5,040) (9,615)
-------- --------
Financing activities
Net (decrease) increase in deposits ..................................................... (4,544) 6,608
Net increase in short-term borrowings ................................................... 1,516 168
Proceeds from issuing long-term debt .................................................... - 2,998
Repayment of long-term debt ............................................................. (503) -
Proceeds from sale of stock ............................................................. 16 -
Exercise of employee stock options ...................................................... 239 140
Cash dividends paid ..................................................................... (486) (439)
-------- --------
Net cash (used) provided by financing activities ............................. (3,762) 9,475
-------- --------
(Decrease) increase in cash and cash equivalents ............................................. (6,228) 1,763
Cash and cash equivalents, beginning of period ............................................... 51,991 26,968
-------- --------
Cash and cash equivalents, end of period ..................................................... $ 45,763 $ 28,731
======== ========
Supplemental disclosures of cash flow information
Cash payments for interest .............................................................. $ 3,353 $ 2,042
======== ========
Cash payments for income taxes .......................................................... $ - $ -
======== ========
Supplemental disclosures of non-cash investing activities
Transfers of loans receivable to other real estate ...................................... $ - $ -
======== ========
See accompanying notes to unaudited consolidated financial statements.
6
COMMUNITY BANKSHARES, INC.
Notes to Unaudited Consolidated Financial Statements
Accounting Principles - A summary of significant accounting policies and the
audited financial statements for 2005 are included in Community Bankshares,
Inc.'s (the "Company" or "CBI") Annual Report on Form 10-K for the year ended
December 31, 2005 filed with the Securities and Exchange Commission. Certain
amounts in the 2005 financial statements have been reclassified to conform to
the current presentation.
Management Opinion - The interim financial statements in this report are
unaudited. In the opinion of management, all the adjustments necessary to
present a fair statement of the results for the interim period have been made.
Such adjustments are of a normal and recurring nature. The results of operations
for any interim period are not necessarily indicative of the results to be
expected for an entire year. These interim financial statements should be read
in conjunction with the annual financial statements and notes thereto contained
in the 2005 Annual Report on Form 10-K.
Nonperforming Loans - As of March 31, 2006, there were $14,779,000 in nonaccrual
loans and $1,678,000 in loans 90 or more days past due and still accruing
interest.
Earnings Per Share - Basic earnings per share is computed by dividing net income
applicable to common shares by the weighted average number of common shares
outstanding. Diluted earnings per share is computed by dividing applicable net
income by the weighted average number of shares outstanding and any dilutive
potential common shares and dilutive stock options. It is assumed that all
dilutive stock options are exercised at the beginning of each period and that
the proceeds are used to purchase shares of the Company's common stock at the
average market price during the period. Net income per share and net income per
share, assuming dilution, were computed as follows:
(Unaudited)
Three Months Ended
March 31,
---
2006 2005
---- ----
(Dollars in thousands,
except per share amounts)
Net income per share, basic
Numerator - net income ........................................................... $ 1,201 $ 1,360
========== ==========
Denominator
Weighted average common shares issued and outstanding .......................... 4,414,059 4,394,078
========== ==========
Net income per share, basic ......................................... $ .27 $ .31
========== ==========
Net income per share, assuming dilution
Numerator - net income ........................................................... $ 1,201 $ 1,360
========== ==========
Denominator
Weighted average common shares issued and outstanding .......................... 4,414,059 4,394,078
Effect of dilutive stock options ............................................... 84,916 102,720
---------- ----------
Total shares ........................................................ 4,498,975 4,496,798
========== ==========
Net income per share, assuming dilution ............................. $ .27 $ .30
========== ==========
7
Stock Based Compensation - Effective January 1, 2006, the Company began
accounting for compensation expenses related to stock options granted to
employees and directors under the recognition and measurement principles of
Statement of Accounting Standards No. 123(R) "Share-Based Payment" ("SFAS
123(R)) using the modified prospective application method. The Company had
previously elected to continue using the methodology of Accounting Principles
Board Opinion No. 25 ("APB No. 25"), "Accounting for Stock Issued to Employees,"
to account for compensation expenses related to stock-based compensation until
the mandatory effective date for SFAS 123(R).
Options previously issued under the Company's plans had no intrinsic value at
the grant date and no compensation cost was recognized in accordance with APB
No. 25. Statement of Financial Accounting Standards No. 123 ("SFAS No. 123"),
"Accounting for Stock-Based Compensation," required entities to provide pro
forma disclosures of net income, and earnings per share, as if the fair value
based method of accounting promulgated by that standard had been applied. Under
the modified prospective application method of SFAS 123(R), the Company is
required to apply SFAS 123(R) only to new awards and to awards modified,
repurchased or cancelled after the required effective date. Also, compensation
cost would be recognized for the portions of previously granted awards
outstanding which had not vested on the effective date. The Company had no such
awards outstanding as of January 1, 2006.
Variable Interest Entities - On March 8, 2004, CBI sponsored the creation of a
Delaware trust, SCB Capital Trust I (the "Trust"), and is the sole owner of the
common securities issued by the Trust. On March 10, 2004, the Trust issued
$10,000,000 in floating rate capital securities. The proceeds of this issuance,
and the amount of CBI's capital investment, were used to acquire $10,310,000
principal amount of CBI's floating rate junior subordinated deferrable interest
debt securities ("Debentures") due April 7, 2034, which securities, and the
accrued interest thereon, now constitute the Trust's sole assets. The interest
rate associated with the debt securities, and the distribution rate on the
common securities of the Trust, was established initially at 3.91% and is
adjustable quarterly at 3 month LIBOR plus 280 basis points. The index rate
(LIBOR) may not be lower than 1.11%. CBI may defer interest payments on the
Debentures for up to twenty consecutive quarters, but not beyond the stated
maturity date of the Debentures. In the event that such interest payments are
deferred by CBI, the Trust may defer distributions on the common securities. In
such an event, CBI would be restricted in its ability to pay dividends on its
common stock and perform under other obligations that are not senior to the
junior subordinated Debentures.
The Debentures are redeemable at par at the option of CBI, in whole or in part,
on any interest payment date on or after April 7, 2009. Prior to that date, the
Debentures are redeemable at 105% of par upon the occurrence of certain events
that would have a negative effect on the Trust or that would cause it to be
required to be registered as an investment company under the Investment Company
Act of 1940 or that would cause trust preferred securities not to be eligible to
be treated as Tier 1 capital by the Federal Reserve Board. Upon repayment or
redemption of the Debentures, the Trust will use the proceeds of the transaction
to redeem an equivalent amount of trust preferred securities and trust common
securities. The Trust's obligations under the trust preferred securities are
unconditionally guaranteed by CBI.
The Company's investment in the Trust is carried at cost in other assets and the
debentures are included in long-term debt in the consolidated balance sheet.
8
Item 2. Management's Discussion and Analysis of Financial Condition and Results
of Operations
Forward Looking Statements
Statements included in this report which are not historical in nature
are intended to be, and are hereby identified as `forward-looking statements'
for purposes of the safe harbor provided by Section 21E of the Securities
Exchange Act of 1934, as amended. Forward-looking statements include statements
concerning plans, objectives, goals, strategies, future events or performance
and underlying assumptions and other statements which are other than statements
of historical facts. Such forward-looking statements may be identified, without
limitation, by the use the of the words "anticipates," "believes," "estimates,"
"expects," "intends," "plans," "predicts," "projects," and similar expressions.
The Company's expectations, beliefs, estimates and projections are expressed in
good faith and are believed by the Company to have a reasonable basis, including
without limitation, management's examination of historical operating trends,
data contained in the Company's records and other data available from third
parties, but there can be no assurance that management's expectations, beliefs,
estimates or projections will result or be achieved or accomplished. The Company
cautions readers that forward-looking statements, including without limitation,
those relating to the Company's recent and continuing expansion, its future
business prospects, revenues, working capital, liquidity, capital needs,
interest costs, income, and adequacy of the allowance for loan losses, are
subject to risks and uncertainties that could cause actual results to differ
materially from those indicated in the forward-looking statements, due to
several important factors herein identified, among others, and other risks and
factors identified from time to time in the Company's reports filed with the
Securities and Exchange Commission. The Company undertakes no obligation to
publicly update or revise any forward-looking statements, whether as a result of
new information, future events or otherwise.
References to our Website Address
References to our website address throughout this Quarterly Report on
Form 10-Q and in any documents incorporated into this Form 10-Q by reference are
for informational purposes only, or to fulfill specific disclosure requirements
of the Securities and Exchange Commission's rules or the American Stock Exchange
listing standards. These references are not intended to, and do not, incorporate
the contents of our website by reference into this Form 10-Q or the accompanying
materials.
Critical Accounting Policies
CBI has adopted various accounting policies, which govern the
application of accounting principles generally accepted in the United States of
America in the preparation of CBI's financial statements. The significant
accounting policies of CBI are described in detail in the notes to CBI's audited
consolidated financial statements included in CBI's 2005 Annual Report on Form
10-K filed with the Securities and Exchange Commission.
Certain accounting policies involve significant judgments and estimates
by management, which have a material impact on the carrying value of certain
assets and liabilities. Management considers such accounting policies to be
critical accounting policies. The judgments and estimates used by management are
based on historical experience and other factors, which are believed to be
reasonable under the circumstances. Because of the nature of the judgments and
assumptions made by management, actual results could differ from these judgments
and estimates, which could have a material impact on the carrying values of
assets and liabilities and the results of operations of CBI.
CBI is a holding company for four community banks and a mortgage
company and, as a financial institution, believes the allowance for loan losses
is a critical accounting policy that requires the most significant judgments and
estimates used in preparation of its consolidated financial statements. Refer to
the sections "Allowance for Loan Losses" and "Provision for Loan Losses" in the
9
Annual Report on Form 10-K for 2005 for a detailed description of CBI's
estimation process and methodology related to the allowance for loan losses.
RESULTS OF OPERATIONS
Changes in Financial Condition
During the three months ended March 31, 2006, deposits decreased by
$4,544,000, or 1.0%, primarly due to a net seasonal outflow of deposits related
to local government tax receipts. Loans increased by $3,467,000 during the
period. Funding for these changes was provided primarily by decreasing the
Company's cash and federal funds sold positions and by allowing some maturities,
calls and paydowns of the Company's investments in securities available-for-sale
to occur without reinvestment.
Earnings Performance
For the quarter ended March 31, 2006, CBI earned consolidated net
income of $1,201,000, compared with $1,360,000 for the comparable period of
2005. This represents a decrease of $159,000 or 11.7%. Basic earnings per share
were $.27 in the 2006 period, compared with $.31 for the 2005 quarter. Diluted
earnings per share were $.27 for the 2006 period and $.30 for the 2005 period.
Operating results for the first quarter of 2006 were affected by
increased net interest income resulting from both higher average amounts of
loans and higher rates earned on those assets, partially offset by higher
interest expenses resulting mainly from higher interest rates paid for interest
bearing deposit accounts. The Federal Reserve's Open Market Committee (the
"Committee") continued to raise the federal funds rates throughout the 2006
first quarter. It is expected that such actions will continue until the
Committee is satisfied that inflation does not pose a significant threat to the
economy. The principal effect of those rate increases has been to increase
market rates of interest for instruments with short-to-medium term maturities,
while longer term interest rates have been affected to a lesser degree. For the
Company, the changes in interest rates have generally resulted in increases in
rates associated with pre-existing variable rate loans, increased rates charged
for new and renewed loans, and higher rates realized for federal funds sold and
new investments in securities. Since the Company's funding sources generally are
short-term deposits, rates associated with those sources, as well as any
short-term borrowings, have also been subject to the increases.
The results for the 2006 period were affected adversely by the regular
re-evaluation of the Company's allowance for loan losses, which resulted in an
increase of $165,000 in the provision for loan losses compared with the same
period of 2005.
Noninterest income for the 2006 first quarter was $269,000 more than
for the same period of 2005 due to an increase of $145,000 in mortgage brokerage
income and a $70,000 increase in service charges assessed on deposit accounts
10
and for other services. Mortgage brokerage income for the 2006 period increased
due to continued strength in demand for mortgage loan originations.
Noninterest expense for the first quarter of 2006 was $508,000 more
than for the same period of 2005 due to increases of $301,000 in salaries and
employee benefits, $89,000 in premises and equipment expenses and $118,000 in
other expenses. The increase in salaries and employee benefits in the 2006
quarter was caused primarily by the addition of a Chief Credit Officer, a
director of human resources and other management personnel after the first
quarter of 2005, higher commission-based compensation in the mortgage brokerage
subsidiary, and normal salary increases. Also, during the 2006 first quarter,
the Company increased its 401K matching contributions. Increased expenses for
premises and equipment resulted from the Company's moving into its newly
constructed headquarters and operations center building in the first quarter of
2006 and the leasing of other office space to provide for the needs of certain
management and other personnel who are located away from the corporate
headquarters.
Summary Income Statement
----------------------------------------------------------------------
(Dollars in thousands)
For the Three Months Ended March 31, 2006 2005 Dollar Change Percentage Change
------------------------------------ ---- ---- ------------- -----------------
Interest income ..................................... $ 8,613 $ 7,253 $ 1,360 18.8%
Interest expense .................................... 3,386 2,216 1,170 52.8%
------- ------- ------
Net interest income ................................. 5,227 5,037 190 3.8%
Provision for loan losses ........................... 615 450 165 36.7%
Noninterest income .................................. 1,934 1,665 269 16.2%
Noninterest expenses ................................ 4,627 4,119 508 12.3%
Income tax expense .................................. 718 773 (55) -7.1%
------- ------- ------
Net income .......................................... $ 1,201 $ 1,360 $ (159) -11.7%
======= ======= =======
Net Interest Income
Net interest income is the amount of interest income earned on interest
earning assets (primarily loans, securities, interest bearing deposits in other
banks, and federal funds sold), less the interest expense incurred on interest
bearing liabilities (interest bearing deposits and other borrowings), and is the
principal source of the Company's earnings. Net interest income is affected by
the level of interest rates, volume and mix of interest earning assets and
interest bearing liabilities and the relative funding of those assets.
Interest income increased by $1,360,000, or 18.8%, in the 2006 first
quarter compared with the same 2005 period. Interest income from loans increased
from $6,716,000 in the 2005 period to $7,683,000 in the 2006 period primarily
due to higher rates charged on loans outstanding, supplemented by higher average
volumes of loans outstanding. The amounts of interest earned on all other
categories of interest earning assets increased by $393,000, in the aggregate,
due to increases in both the average amounts of, and rates associated with,
federal funds sold and taxable investments and other securities.
Interest expense for deposits increased from $1,735,000 for the 2005
period to $2,803,000 for the 2006 period primarily due to increased rates
associated with all categories of interest bearing deposits. Larger average
amounts of interest-bearing deposits, primarily time deposits, also contributed
to this increased interest expense.
11
During the first quarter of 2004, CBI sponsored the creation of a Trust
that issued $10,000,000 in trust preferred securities. The Trust invested the
proceeds of this issuance and $310,000 of capital provided by CBI into
$10,310,000 of junior subordinated debentures ("Debentures") issued by CBI.
Interest payments on the Debentures are due quarterly at a variable interest
rate. CBI used the proceeds of the Debentures to repay certain pre-existing debt
obligations, to enhance the capital position of two of the subsidiary banks, to
provide an additional funding mechanism for its mortgage brokerage activities,
and for other general corporate purposes. Under current regulatory guidelines,
the trust preferred securities issued by the Trust are includible in Tier 1
capital for risk-based capital purposes.
In the first quarter of 2006, interest expense for long-term debt,
which includes the Debentures and advances obtained from the Federal Home Loan
Bank of Atlanta, totaled $482,000, an increase of $44,000, or 10.0%, over the
amount for the same period of 2005. Average amounts of long-term debt
outstanding increased by $1,623,000, or 5.2%, and the interest rate paid for
such borrowings increased by 27 basis points.
Interest expenses for short-term borrowings in the first quarter of
2006 were $101,000, an increase of $58,000, or 134.9%, over the amount for the
same period of 2005. An increase of 193 basis points in the average rate
associated with those borrowings was primarily responsible for the increased
expense.
12
Average Balances, Yields and Rates
Three Months Ended March 31,
----------------------------
2006 2005
---- ----
Interest Interest
Average Income/ Yields/ Average Income/ Yields/
Balances Expense Rates(1) Balances Expense Rates(1)
-------- ------- -------- -------- ------- --------
(Dollars in thousands)
Assets
Interest earning deposits ............................ $ 1,538 $ 20 5.27% $ 794 $ 8 4.09%
Investment securities - taxable ...................... 57,868 540 3.78% 52,075 405 3.15%
Investment securities - tax exempt (2) ............... 5,423 47 3.51% 6,825 56 3.33%
Federal funds sold ................................... 29,592 323 4.43% 11,744 68 2.35%
Loans, including loans held for sale (2) ............. 430,109 7,683 7.24% 415,869 6,716 6.55%
--------- ------- --------- -------
Total interest earning assets .............. 524,530 8,613 6.66% 487,307 7,253 6.04%
Cash and due from banks .............................. 16,236 15,826
Allowance for loan losses ............................ (11,343) (4,816)
Premises and equipment ............................... 6,516 7,888
Intangible assets .................................... 10,446 7,372
Other assets ......................................... 7,978 4,165
--------- ---------
Total assets ............................... $ 554,363 $ 517,742
========= =========
Liabilities and shareholders' equity
Interest bearing deposits
Interest bearing transaction accounts .......... $ 73,906 $ 219 1.20% $ 64,420 $ 95 0.60%
Savings ........................................ 85,521 451 2.14% 90,073 307 1.38%
Time deposits .................................. 236,100 2,133 3.66% 208,779 1,333 2.59%
--------- ------- --------- -------
Total interest bearing deposits ............ 395,527 2,803 2.87% 363,272 1,735 1.94%
Short-term borrowings ................................ 10,276 101 3.99% 8,446 43 2.06%
Long-term debt ....................................... 32,711 482 5.98% 31,088 438 5.71%
--------- ------- --------- -------
Total interest bearing liabilities ......... 438,514 3,386 3.13% 402,806 2,216 2.23%
Noninterest bearing demand deposits .................. 63,186 62,815
Other liabilities .................................... 2,972 1,456
Shareholders' equity ................................. 49,691 50,665
--------- ---------
Total liabilities and
shareholders' equity ..................... $ 554,363 $ 517,742
========= =========
Interest rate spread ................................. 3.53% 3.81%
Net interest income and net yield ....................
on earning assets .............................. $ 5,227 4.04% $ 5,037 4.19%
----------------------------------
(1) Yields and rates are annualized.
(2) Yields on tax-exempt securities and loans have not been stated on a
tax-equivalent basis.
Provision and Allowance for Loan Losses
The provision for loan losses for the 2006 first quarter was $615,000,
an increase of $165,000, or 36.7%, over the $450,000 provided for the same
period of 2005. This increase was due primarily to an increase in net
charge-offs and non-performing loans during the 2006 first quarter, as discussed
below.
Net charge-offs during the three months ended March 31, 2006 were
$1,162,000, compared with $75,000 for the same period of 2005. The allowance for
13
loan losses as of March 31, 2006 was 2.66% of loans outstanding, compared with
2.81% as of December 31, 2005 and 1.16% as of March 31, 2005.
The activity in the allowance for loan losses is summarized in the
following table:
Three Months Three Months
Ended Year Ended Ended
March 31, December 31, March 31,
2006 2005 2005
---- ---- ----
(Dollars in thousands)
Allowance at beginning of period ................................. $ 11,641 $ 4,347 $ 4,347
Transfer of allowance for off-balance-sheet
contingencies to other liabilities ............................. - (305) -
Provision for loan losses ........................................ 615 9,637 450
Net charge-offs .................................................. (1,162) (2,038) (75)
--------- --------- ---------
Allowance at end of period ....................................... $ 11,094 $ 11,641 $ 4,722
========= ========= =========
Allowance as a percentage of loans outstanding ................... 2.66% 2.81% 1.16%
Loans at end of period ........................................... $ 417,451 $ 413,984 $ 406,049
========= ========= =========
During the first quarter of 2006, net charge-offs included $1,100,000
of partial charge-offs related to two borrowers in the manufactured housing
business. Loans to these borrowers were placed in nonaccrual status in the third
quarter of 2005.
Non-performing loans, consisting of nonaccrual loans and loans 90 or
more days past due which are still accruing interest, totaled $16,457,000 as of
March 31, 2006, compared with $12,380,000 as of December 31, 2005, an increase
of $4,077,000 or 32.9%. The majority of non-performing loans at March 31, 2006
were secured by commercial real estate and other collateral. Accordingly, the
amount of problem loans does not reflect the amount of probable loss that
management estimates will be incurred with respect to problem loans. The amount
of such estimated loss is included in the allowance for loan losses.
Following is a summary of non-performing loans as of March 31, 2006 and
December 31, 2005:
March 31, December 31,
2006 2005
---- ----
(Dollars in thousands)
Non-performing loans
Nonaccrual loans ............................... $14,779 $11,651
Past due 90 days or more and still accruing .... 1,678 729
------- -------
Total ............................ $16,457 $12,380
======= =======
Nonperforming loans as a percentage of:
Loans outstanding .............................. 3.94% 2.99%
Allowance for loan losses ...................... 148.34% 106.35%
14
The following table shows quarterly changes in nonperforming and
potential problem loans since December 31, 2004.
90 Days or
More Past Due Total Percentage Percentage
Nonaccrual and Still Nonperforming of Total Potential of Total
Loans Accruing Loans Loans Problem Loans Loans
----- -------- ----- ----- ------------- -----
(Dollars in thousands)
December 31, 2004 ................ $ 4,941 $ 137 $ 5,078 1.29% $ 4,628 1.20%
Net change ....................... 118 215 333 2,972
------- ------- ------- -------
March 31, 2005 ................... 5,059 352 5,411 1.33% 7,600 1.87%
Net change ....................... 200 (9) 191 10,400
------- ------- ------- -------
June 30, 2005 .................... 5,259 343 5,602 1.35% 18,000 4.35%
Net change ....................... 4,954 74 5,028 (4,107)
------- ------- ------- -------
September 30, 2005 ............... 10,213 417 10,630 2.57% 13,893 3.35%
Net change ....................... 1,438 312 1,750 15,420
------- ------- ------- -------
December 31, 2005 ................ 11,651 729 12,380 2.99% 29,313 7.08%
Net change ....................... 3,128 949 4,077 (2,767)
------- ------- ------- -------
March 31, 2006 ................... $14,779 $ 1,678 $16,457 3.94% $26,546 6.36%
======= ======= ======= =======
The $3,128,000 increase in nonaccrual loans in the first quarter of
2006 represents the further deterioration of loans aggregating $2,867,000 that
were previously identified as potential problem loans, $107,000 of loans that
were previously 90 days or more past due and still accruing, and loans
aggregating $1,896,000 that were not previously included in potential problem or
nonperforming loans. Of these loans, approximately $951,000 are unsecured,
$1,819,000 are collateralized by real estate and the remainder are
collateralized by accounts receivable, commercial equipment, and automobiles.
Subsequent to March 31, 2006, the collateral underlying one borrower's
nonaccrual loans was sold and the Company's loans were settled. The original
amount of this borrower's relationship was approximately $3,452,000. During 2004
the Company charged the value of the loans down by $1,000,000. During 2005 the
Company provided an additional specific allocation of $1,000,000 against the
loans. In early April 2006 the Company realized a final settlement of the loans
in the amount $1,800,000, for a net life-to-date loss of $1,652,000, all of
which was recognized in prior years, as noted above.
Management will continue to monitor the levels of non-performing and
potential problem loans and dedicate the resources necessary to address the
weaknesses in these credits in order to enhance the probability of collection or
recovery of these assets. Management considers the levels and trends in
non-performing assets and past due loans in determining how the provision and
allowance for loan losses is estimated and adjusted.
Noninterest Income
Noninterest income for the first quarter of 2006 increased by $269,000,
or 16.2%, from the $1,665,000 reported for the 2005 period. Service charges on
deposit accounts increased by $70,000 from the prior year amount. This increase
was primarily the result of increased returned check revenue. Mortgage brokerage
income increased by $145,000 or 21.0%, from $692,000 for the 2005 period, due to
fees derived from a larger number of loans originated in the quarter.
15
Noninterest Expenses
Salaries and employee benefits for the first quarter of 2006 were
$301,000 or 13.2%, more than in the same 2005 period. This increase resulted
primarily from expenses associated with the hiring of several administrative
officers since the end of the first quarter of 2005, higher commission-based
compensation related to the mortgage-brokerage operation, and increased matching
contributions for the Company's 401K retirement plan for employees. During 2005,
the Company built a new headquarters office building where it now provides
office space for many of its management officers and operations personnel. This
facility was initially occupied in early 2006. In addition, other recently hired
management personnel occupy offices in recently leased facilities located more
centrally within the Company's geographic footprint. As a result, expenses
associated with premises and equipment were $89,000, or 16.6%, higher in the
2006 period.
During the first quarter of 2006, CBI's Board of Directors directed
management to plan for a transition to a single bank charter. Contingent upon
receiving required legal and regulatory approvals, implementation of this change
is expected by year-end 2006. CBI expects that this change ultimately will
result in significant financial savings, improved operational efficiency and
effectiveness, improved customer service through unified selection of banking
products and services, accelerated approval of loan requests, and better
availability of ATM and in-bank services for all customers.
Income Taxes
Income tax expense for the first quarter of 2006 decreased $55,000, or
7.1%, from the amount for the first quarter of 2005. The average tax rate for
2006 was 37.4% compared with 36.2% in 2005.
LIQUIDITY
Liquidity is the ability to meet current and future obligations through
liquidation or maturity of existing assets or the acquisition of additional
liabilities. Adequate liquidity is necessary to meet the requirements of
customers for loans and deposit withdrawals in a timely and economical manner.
The most manageable sources of liquidity are composed of liabilities, with the
primary focus of liquidity management being the ability to attract deposits
within CBI's market areas. Individual and commercial deposits are the primary
source of funds for credit activities, along with long-term borrowings from the
Federal Home Loan Bank of Atlanta and the net proceeds of issuing $10,000,000 of
trust preferred securities. Cash and amounts due from banks and federal funds
sold are CBI's primary sources of asset liquidity. These funds provide a cushion
against short-term fluctuation in cash flow from both loans and deposits.
Securities available-for-sale are CBI's principal source of secondary asset
liquidity. However, the availability of this source is limited by pledging
commitments for public deposits and securities sold under agreements to
repurchase, and is influenced by market conditions.
Total deposits as of March 31, 2006 were $459,665,000, a decrease of
$4,544,000, or 1.0%, from the amount as of December 31, 2005. As of March 31,
2006 the loan to deposit ratio was 90.8%, compared with 89.2% at December 31,
2005 and 94.4% at March 31, 2005. Loans held-for-sale have not been included in
the numerator of the calculation of the loan to deposit ratio. The banking
subsidiaries have significant amounts of long-term debt available under
agreements with the Federal Home Loan Bank of Atlanta.
16
Management believes CBI and its subsidiaries' liquidity sources are
adequate to meet their current and projected operating needs.
CAPITAL RESOURCES
CBI and its banking subsidiaries are subject to regulatory risk-based
capital adequacy standards. Under these standards, bank holding companies and
banks are required to maintain certain minimum ratios of capital to
risk-weighted assets and average total assets. Under the provisions of the
Federal Deposit Insurance Corporation Improvement Act of 1991, federal bank
regulatory authorities are required to implement prescribed "prompt corrective
actions" upon the deterioration of the capital position of a bank. If the
capital position of an affected institution were to fall below a certain level,
increasingly stringent regulatory corrective actions would be mandated.
The March 31, 2006 risk-based capital ratios for CBI and its banking
subsidiaries are presented in the following table, compared with the "well
capitalized" and minimum ratios under the regulatory definitions and guidelines:
March 31, 2006
--------------
Tier 1 Total Capital Leverage
------ ------------- --------
Community Bankshares, Inc. ................ 12.89% 14.16% 9.76%
Orangeburg National Bank .................. 11.44% 12.69% 8.25%
Sumter National Bank ...................... 9.83% 11.15% 7.46%
Florence National Bank .................... 9.83% 11.08% 8.73%
Bank of Ridgeway .......................... 11.28% 12.53% 8.79%
Minimum "well capitalized" requirement .... 6.00% 10.00% 6.00%
Minimum requirement ....................... 4.00% 8.00% 5.00%
As shown in the table above, each of the banks' capital ratios exceeds
the regulatory requirement to be considered "well capitalized." In the opinion
of management, the current and projected capital positions of CBI and its
banking subsidiaries are adequate.
OFF-BALANCE-SHEET ARRANGEMENTS
In the normal course of business, CBI engages in transactions that, in
accordance with generally accepted accounting principles, are not recorded in
the financial statements (generally commitments to extend credit) or are
recorded in amounts that differ from their notional amounts (generally
derivatives). These transactions involve elements of credit, interest rate and
liquidity risk of varying degrees. Such transactions are used by CBI for general
corporate purposes.
Variable Interest Entity
As discussd under "Results of Operations - Net Interest Income" and in
the notes to unaudited consolidated financial statements under "Variable
Interest Entities," as of March 31, 2006, CBI held an equity interest in, and
guarantees the liabilities of, a non-consolidated variable interest entity, SCB
Capital Trust I.
17
Commitments
CBI's banking and mortgage brokerage subsidiaries are parties to credit
related financial instruments with off-balance-sheet risk in the normal course
of business to meet the financing needs of their customers. These financial
instruments include commitments to extend credit and standby letters of credit.
Such commitments involve varying degrees of credit and interest rate risk in
excess of the amount recognized in the consolidated balance sheets. Exposure to
credit loss is represented by the contractual, or notional, amounts of these
commitments. The same credit policies are used in making commitments as for
on-balance-sheet instruments.
The following table sets forth the contractual amounts of commitments which
represent credit risk:
March 31, 2006
--------------
(Dollars in
thousands)
Loan commitments ....................................... $ 61,239
Standby letters of credit .............................. 2,360
Commitments to extend credit are agreements to lend to a customer as
long as there is no violation of any condition established in the contract.
Commitments generally have fixed expiration dates or other termination clauses
and may require payment of a fee. Since many of the commitments are expected to
expire without being drawn upon, the total commitment amounts do not necessarily
represent future cash requirements. The amount of collateral obtained, if deemed
necessary by management upon extension of credit, is based on management's
credit evaluation of the counter-party. Collateral held varies but may include
personal residences, accounts receivable, inventory, property, plant and
equipment, and income-producing commercial properties.
Standby letters of credit are conditional commitments issued to
guarantee the performance of a customer to a third party. Those letters of
credit are primarily issued to support private borrowing arrangements. All
letters of credit are short-term guarantees. The credit risk involved in issuing
letters of credit is essentially the same as that involved in extending loan
facilities to customers. Generally, collateral supporting those commitments is
held if deemed necessary. Since many of the standby letters of credit are
expected to expire without being drawn upon, the total letter of credit amounts
do not necessarily represent future cash requirements.
Neither the Company nor the Bank is involved in other off-balance sheet
contractual relationships or transactions that could result in liquidity needs
or other commitments or significantly impact earnings.
Derivative Financial Instruments
In April, 2003, the Financial Accounting Standards Board issued
Statement No. 149, "Amendment of Statement 133 on Derivative Instruments and
Hedging Activities." Among other requirements, this Statement provides that loan
commitment contracts entered into or modified after June 30, 2003 that relate to
the origination of mortgage loans that will be held for sale shall be accounted
for as derivative instruments by the issuer of the loan commitment. In March,
2004, the SEC issued its Staff Accounting Bulletin No 105 "Application of
Accounting Principles to Loan Commitments," which resulted in no changes in
CBI's accounting for such commitments. CBI issues mortgage loan rate lock
18
commitments to potential borrowers to facilitate its origination of home
mortgage loans that are intended to be sold. Between the time that CBI issues
its commitments and the time that the loans close and are sold, CBI is subject
to variability in the selling prices related to those commitments due to changes
in market rates of interest. However, CBI offsets this variability through the
use of so-called "forward sales contracts" to investors in the secondary market.
Under these arrangements, an investor agrees to purchase the closed loans at a
predetermined price. CBI generally enters into such forward sales contracts at
the same time that rate lock commitments are issued. These arrangements
effectively insulate CBI from the effects of changes in interest rates during
the time the commitments are outstanding, but the arrangements do not qualify as
fair value hedges. These derivative financial instruments are carried in the
balance sheet at estimated fair value and changes in the estimated fair values
of these derivatives are recorded in the statement of income in net gains or
losses on loans held for sale.
Derivative financial instruments are written in amounts referred to as
notional amounts. Notional amounts only provide the basis for calculating
payments between counterparties and do not represent amounts to be exchanged
between parties or a measure of financial risk. The following table includes the
notional principal amounts of rate lock commitments and forward sales contracts
as of March 31, 2006, and the estimated fair values of those financial
instruments included in other assets and liabilities in the balance sheet as of
that date.
March 31, 2006
----------------------
Estimated
Fair Value
Notional Asset
Amount (Liability)
------ -----------
(Dollars in thousands)
Rate lock commitments to potential borrowers
to originate mortgage loans to be
held for sale ..................................... $23,686 $ (190)
Forward sales contracts with investors
of mortgage loans to be held for sale ............. $23,686 $ 190
Item 3. Quantitative and Qualitative Disclosures about Market Risk
Market risk is the risk of loss from adverse changes in market prices
and rates. CBI's market risk arises principally from interest rate risk inherent
in its lending, deposit and borrowing activities. Management actively monitors
and manages its interest rate risk exposure. Although CBI manages other risks,
such as credit quality and liquidity risk in the normal course of business,
management considers interest rate risk to be its most significant market risk
and this risk could potentially have the largest material effect on CBI's
financial condition and results of operations. Other types of market risks such
as foreign currency exchange risk and commodity price risk do not arise in the
normal course of community banking activities.
CBI's Asset/Liability Committee uses a simulation model to assist in
achieving consistent growth in net interest income while managing interest rate
risk. According to the model, as of March 31, 2006, CBI is positioned so that
net interest income would increase $123,000 and net income would increase
$73,000 in the next twelve months if interest rates rose 100 basis points.
Conversely, net interest income would decline $123,000 and net income would
decline $73,000 in the next twelve months if interest rates declined 100 basis
19
points. In the current interest rate environment, it is not expected that there
will be any large decreases in market interest rates in the immediate future.
Computation of prospective effects of hypothetical interest rate changes are
based on numerous assumptions, including relative levels of market interest
rates and loan prepayment, and should not be relied upon as indicative of actual
results. Further, the computations do not contemplate any actions CBI and its
customers could undertake in response to changes in interest rates.
As of March 31, 2006 there was no significant change from the interest
rate sensitivity analysis for the various changes in interest rates calculated
as of December 31, 2005. The foregoing disclosures related to the market risk of
CBI should be read in connection with Management's Discussion and Analysis of
Financial Position and Results of Operations included in the 2005 Annual Report
on Form 10-K.
Item 4. Controls and Procedures
Based on the evaluation required by 17 C.F.R. Section 240.13a-15(b) or
240.15d-15(b) of the Company's disclosure controls and procedures (as defined in
17 C.F.R. Sections 240.13a-15(e) or 240.15d-15(e)), the Company's chief
executive officer and chief financial officer concluded that such controls and
procedures, as of the end of the period covered by this report, were effective.
There has been no change in the Company's internal control over
financial reporting during the most recent fiscal quarter that has materially
affected, or is reasonably likely to materially affect, the Company's internal
control over financial reporting.
20
PART II--OTHER INFORMATION
Item 2. Unregistered Sales of Equity Securities and Use of Proceeds
On February 10, 2006, the Company sold 1,000 shares of its common stock
to an executive officer for an aggregate purchase price of $16,100. Issuance of
the securities was not registered under the Securities Act of 1933 in reliance
on the exemption provided by Section 4(2) thereof because no public offering was
involved.
Item 6. Exhibits
Exhibits 31-1 Rule 13a-14(a)/15d-14(a) Certification of principal
executive officer
31-2 Rule 13a-14(a)/15d-14(a) Certification of principal
financial officer
32 Certifications Pursuant to 18 U.S.C. Section 1350
21
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.
DATED: May 12, 2006
COMMUNITY BANKSHARES, INC.
By: s/ Samuel L. Erwin
------------------------------------------
Samuel L. Erwin
Chief Executive Officer
By: s/ William W. Traynham
------------------------------------------
William W. Traynham
President and Chief Financial Officer
(Principal Accounting Officer)
22
EXHIBIT INDEX
31-1 Rule 13a-14(a)/15d-14(a) Certification of principal
executive officer
31-2 Rule 13a-14(a)/15d-14(a) Certification of principal
financial officer
32 Certifications Pursuant to 18 U.S.C. Section 1350
23