SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-K
Annual Report Pursuant to Section 13 or 15(d)
of the Securities Exchange Act of 1934
For the Fiscal Year ended: Commission File
DECEMBER 31, 1999 Number: 430893107
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HIGHLANDS BANKSHARES, INC.
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(Exact name of registrant as specified in its charter)
VIRGINIA 54-1796693
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(State or other jurisdiction (I.R.S. Employer
of incorporation or organization) Identification Number)
340 WEST MAIN STREET
ABINGDON, VIRGINIA 24210-1128
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(Address of principal (Zip Code)
executive offices)
Registrant's telephone number, including area code: (540) 628-9181
Securities registered pursuant to Section 12(b) of the Act:
NOT APPLICABLE
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Securities registered pursuant to Section 12(g) of the Act:
COMMON STOCK, $1.25 PAR VALUE
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(Title of Class)
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 and (2) has been subject to such filing requirements for
the past 90 days.
Yes [X] No [ ]
Indicate by check mark if disclosure of delinquent filers pursuant to Item 405
of Regulation S-K (Section 229.405 of this chapter) is not contained herein, and
will not be contained, to the best of registrant's knowledge, in definitive
proxy or information statements incorporated by reference in Part III of this
Form 10-K or any amendment to this Form 10-K. [ ]
As of December 31, 1999, there were 2,623,856 shares of Common Stock
outstanding.
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DOCUMENTS INCORPORATED BY REFERENCE
List hereunder the following documents if incorporated by reference and the Part
of Form 10-K into which the documents are incorporated:
(1) Part II incorporates information by reference from the registrant's Annual
Report to Stockholders for the fiscal year ended December 31, 1999.
(2) Part III incorporates by reference from the registrant's proxy statement
for its Annual Meeting of Stockholders scheduled for May 10, 2000.
(3) Part IV incorporates by reference from: (i) the registrant's Annual Report
to Stockholders for the fiscal year ended December 31, 1999, and (ii) the
registrant's proxy statement for its Annual Meeting of Stockholders
scheduled for May 10, 2000.
The exhibit index is located on page 26.
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PART I.
ITEM I. BUSINESS
GENERAL
Highlands Bankshares Inc. (the "Corporation") was incorporated in
Virginia in 1995 to serve as the holding company for Highlands Union Bank, (the
"Bank"). The stockholders of the Bank approved the Plan of Reorganization at the
Annual Meeting on December 13, 1995, and the reorganization was consummated on
December 29, 1995 with the Bank becoming a wholly-owned subsidiary of the
Corporation. The Bank is a state charted bank with principal offices in
Abingdon, Virginia. The Bank was incorporated in 1985.
At December 31, 1999, the Corporation had total assets of $358,348,000,
deposits of $306,193,000, and net worth of $20,408,000.
The Corporation's principal business activities, which are conducted
through the Bank, are attracting checking and savings deposits from the general
public through its retail banking offices and originating and servicing loans
secured by first mortgage liens on single-family dwellings, including
condominium units. All of the retail banking offices are located in Virginia.
The Corporation also lends funds to retail banking customers by means of home
equity and installment loans, and originates residential constructions loans and
loans secured by commercial property, multi-family dwellings and manufactured
housing units. The Corporation opened an indirect lending department in 1997.
The majority of indirect lending originates through new and used car
dealerships. The indirect lending portfolio comprises a significant portion of
the total consumer loan portfolio. The Corporation invests in certain U.S.
Government and agency obligations and other investments permitted by applicable
laws and regulations. The operating results of the Corporation are highly
dependent on net interest income, the difference between interest income earned
on loans and investments and the cost of checking and savings deposits and
borrowed funds.
The Bank is a member of the Federal Deposit Insurance Corporation
("FDIC"), and its deposit accounts are insured up to $100,000 as applied by FDIC
guidelines. The Bank is also a member of the Federal Reserve System, as such,
the Bank and the Corporation are subject to the supervision, regulation and
examination of the Federal Reserve. As a Virginia state chartered bank the Bank
is also subject to supervision, regulation and examination by the Virginia State
Corporation Commission.
The Corporation has two direct subsidiaries as of December 31, 1999.
The Bank which was formed in 1985 and Highlands Capital Trust I, a statutory
business trust (the "Trust") which was created by the Corporation on January 21,
1998. The Corporation's material assets as of December 31, 1999 include:
approximately $2.5 million in loan participations from the subsidiary bank;
approximately $1.4 million in building and land; investment securities,
approximately $1.1 million; and its investment in subsidiaries, approximately
$21.8 million. The Corporation's only material liability is the note payable on
the trust preferred debentures issued in January of 1998, $7.5 million.
The Bank had one direct wholly-owned subsidiary, Highlands Union
Insurance Services, Inc., that became effective on October 8, 1999. This entity
is still in the startup stage as of December 31, 1999 and is anticipated to
become fully operational during 2000. This entity will be used to sell insurance
services through the Virginia Bankers' Insurance Services, LLC.
The Corporation operates six full service and one express facility
throughout Washington County, Virginia, the City of Bristol, Virginia, Marion,
Virginia, and Glade Spring, Virginia. The Corporation also operates twenty
off-site ATM's throughout the service areas listed above as well as Russell
County and Wythe County, Virginia.
The results of operations for the fiscal years ended December 31, 1999,
1998, and 1997 ("fiscal year 1999", "fiscal year 1998" and "fiscal year 1997",
respectively) reflect the Corporation's strategies of expanding its community
banking operations.
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See "Management's Discussion and Analysis" of operations and financial
condition, included as part of the Annual Report to Stockholders, for a detailed
discussion of certain aspects of the Corporation's business.
LENDING ACTIVITIES
RESIDENTIAL MORTGAGE LENDING
The Corporation's lending policy is generally to lend up to 80% of the
appraised value of residential property. The Corporation lends up to 95% of the
appraised value with the normal requirement of insurance from private mortgage
insurance companies. This insurance normally covers amounts in excess of 80%
loan to value up to 95%.
The in-house residential mortgages are comprised of primarily one,
three and five year adjustable rate mortgages and 15 year fixed rate mortgages.
Adjustable rate mortgages are indexed to 275 basis points over the average yield
on United States Treasury securities adjusted to a constant maturity of one,
three or five years. An adjustment limitation (increase or decrease) of 2% per
annum applies to the one year adjustable product. A 5% lifetime cap over the
initial rate of the loan is included in the one, three and five year adjustable
rate mortgages.
The corporation's existing loan contracts generally provide for
repayment of residential mortgage loans over periods ranging from 15 to 30
years. However, such loans normally have remained outstanding for much shorter
periods of time as borrowers refinance or prepay their loans through the sale of
their homes.
Most of the Corporation's residential mortgage loans have "due on sale"
clauses which allows the creditor the right to declare a loan immediately due
and payable in the event the borrower sells or otherwise disposes of the real
property. Most of the Corporation's residential mortgage loans are not
assumable.
Mortgage loans exceeding $450,000 but less than $750,000 must be
approved by the loan committee of the Board of Directors. Mortgage loans in
excess of $750,000 must be approved by the Board of Directors.
All of the Corporation's mortgage lending is subject to loan
origination procedures established by the Board of Directors. Most originations
require a property valuation by state licensed appraisers, for a fee, approved
by the Board of Directors. Loan applications are obtained to determine the
borrowers ability to repay. Significant items are verified through the use of
credit reports, financial statements, etc.
It is generally the Corporation's policy to require title insurance on
first mortgage loans in excess of $100,000 (lower where deemed necessary). It is
also the Bank's general policy to require an attorney's opinion statement on all
first mortgage deeds of trust. Fire and casualty insurance (extended coverage)
is generally required on all property serving as security for these loans.
Hazard insurance and flood insurance (where required) is generally provided by
the customer prior to closing of the loan. The borrower is generally responsible
for paying insurance premiums and real estate taxes.
Federal regulations allow the Corporation to originate loans on real
estate within the State of Virginia, and within limits, to originate and
purchase loans or loan participations secured by real estate located in any part
of the United States. During fiscal year 1999 the Corporation's primary lending
area was Washington County, Virginia , the City of Bristol, Virginia, and Smyth
County, Virginia.
Residential loan originations come from many sources. Some of these
sources include existing customers, walk-in applications, referrals from real
estate brokers and others.
Federal regulation limits loans to one borrower to a maximum of 15% of
unimpaired capital and unimpaired surplus of the Bank.
The Corporation receives fees in addition to interest in connection
with real estate loan originations, loan modifications, late payments, etc.
Income from these activities varies from period to period depending on the
volume and type of loan made. Although not a significant portion of the
Corporation's income, late charges are received when monthly payments are
delinquent but are later paid.
The Corporation also offers secondary market fixed rate mortgages with
terms up to 30 years and up to 95% loan to value. These loans and servicing
rights are generally sold immediately into the secondary market and fees
received booked into income. These loans must meet certain criteria generally
set by the secondary market and are not a significant portion of the Bank's
residential mortgage activity.
Residential mortgages, including equity lines of credit, made up
approximately 38.09% of the loan portfolio as of December 31, 1999.
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CONSTRUCTION AND COMMERCIAL REAL ESTATE LENDING
The Corporation generally makes construction loans for periods up to
one year on residential and commercial real estate property. These loans are for
interim financing and are either paid off or converted to permanent financing
when completed. At December 31, 1999 outstanding construction loans (net of
undisbursed funds) totaled $3,164,000. These loans are generally made at 80% or
less of appraised value at completion. Funds are advanced as the project is
completed after an inspection by a staff inspector or the appraiser as deemed
appropriate. These loans are made based on established corporate underwriting
standards. Most of these construction loans are one to four family dwellings.
The Corporation generally charges a 1% origination fee on these construction
loans in addition to applicable interest.
Loans on commercial properties, multi-family dwellings, and apartment
buildings are typically made at 75% to 80% of the appraised value. These loans
totaled $56,158,000 or 21.46% of total loans held for investment at December 31,
1999.
Commercial and construction loans, by nature, entail additional risk as
compared to residential mortgage lending. They are generally more complex and
involve larger balances than typical residential mortgages. Payments are
typically dependent upon successful operation of a related real estate project
or business as compared to individual earnings on most residential mortgages.
Therefore, the market risk is somewhat greater. Construction delays, cost
overruns or the inability of the contractor to sell the finished product add an
element of risk to such lending.
CONSUMER LENDING
The Corporation offers other types of loans in addition to real estate
mortgage and construction loans. Consumer loans of many types are offered by the
Corporation. Some of these loans are loans to purchase automobiles, boats,
recreational vehicles and manufactured housing, as well as other secured and
unsecured consumer loans. The Corporation further makes loans secured by savings
accounts at 2% above the rate of the savings instrument. The terms generally do
not exceed ten years for manufactured housing loans and five years on other
consumer loans. Outstanding consumer loans at December 31, 1999 were
$68,097,000.
COMMERCIAL AND AGRICULTURE NON-REAL ESTATE LOANS
The Corporation also makes commercial (including agriculture) non-real
estate loans. These loans in general have higher risk associated with them than
real estate loans. They are generally secured by inventory, equipment, accounts
receivable, etc., or unsecured in some cases backed by appropriate financial
condition as per the underwriting standards of the Corporation. Agriculture
loans are generally secured by machinery, equipment, other miscellaneous assets
or unsecured in keeping with the underwriting standards of the Corporation. The
timely pay back is dependent upon the successful operation of the business or
farm. The outstanding balance of non-real estate commercial loans was
$27,072,000 at December 31, 1999 and the outstanding balance of non-real estate
agriculture loans was $3,215,000 at December 31, 1999.
INVESTMENTS
INVESTMENT SECURITIES
The Corporation invests in mortgage-backed securities, agency notes and
bonds, collateralized mortgage obligations (CMO's), municipal bonds, equity
securities and United States Treasury Notes.
A substantial portion of the mortgage-backed security portfolio
consists of securities that are either insured or guaranteed by FHLMC, FNMA or
GNMA. Guaranteed securities are more liquid than individual mortgage loans. At
December 31, 1999 the Corporation's mortgage-backed securities portfolio had a
carrying value of $51,099,000 or 14.26% of total assets compared to $38,131,000
or 12.39% of total assets at December 31, 1998. Amortized costs of
mortgage-backed securities were $51,594,000 at December 31, 1999 and $38,288,000
for the comparable 1998 period. Due to repayments and prepayments of the
underlying loans, the actual maturities of mortgage-backed securities are
expected to be substantially less than the scheduled maturities.
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The Corporation also holds investments in CMO's with a market value at
December 31, 1999 of $11,170,000 and amortized cost of $11,240,000 compared to a
market value of $7,873,000 and amortized cost of $7,886,000 at December 31,
1998.
The Corporation held no investments in United States Treasury Notes for
the comparable periods ending December 31, 1999 and December 31, 1998.
The Corporation had $4,206,000 and $3,264,000 in United States
Government-sponsored Agency Obligations at December 31, 1999 and 1998
respectively. These investments represent approximately 1.17% and 1.06% of total
assets at those dates.
The Corporation holds the following equity investments: Federal Reserve
Bank Stock of $295,400 for the periods ending December 31, 1999 and 1998
respectively; Federal Home Loan Bank Stock of $1,245,100 and $950,900 for the
same dates as above; and Community Bankers' Bank Stock of $54,750 and $54,750
for the same dates as above.
The Corporation also holds investments in municipal bonds of $2,258,000
and $759,000 as of December 31, 1999 and 1998 respectively. These investments
represented approximately 0.63% and 0.25% of total assets at those dates.
INVESTMENT ACTIVITIES
Under Federal Reserve regulations, the Bank is required to maintain
certain liquidity ratios and does so by investing in certain obligations and
other securities which qualify as liquid assets under Federal Reserve
regulations. See "Regulation". As a state chartered bank, the Bank's investment
authority is limited by federal law which permits investment in, among other
things, certain certificates of deposit issued by commercial bank, banker's
acceptances, loans to commercial banks for Federal Funds, United States
government and agency obligations of state governments, and corporate bonds.
The Corporation's investment committee, which meets monthly, follows
Federal Reserve guidelines with respect to portfolio investment and accounting.
Such Federal Reserve guidelines state that insured institutions must account for
securities held for investment, sale and/or trading in accordance with generally
accepted accounting principles. The Corporation maintains a written investment
policy to set forth investment portfolio composition and investment strategy.
The investment portfolio composition policy considers, among other factors, the
financial condition of the institution, the types of securities, amounts of
investments in those securities and safety and soundness considerations
pertaining to the institution. The investment strategy considers, among other
factors, interest rate risk, anticipated maturity of each type of investment and
the intent of the institution with respect to each investment.
SOURCES OF FUNDS
GENERAL
Deposit accounts have traditionally been the principal source of the
Corporation's funds for use in lending and for other general business purposes.
In addition to deposits, the Corporation derives funds from loan repayments,
repayments from securities, FHLB advances and loan participation sales.
Borrowings may be used on a short-term basis to compensate for seasonal or other
reductions in deposits or inflows at less than projected levels, as well as on a
long term basis to support expanded lending activities.
DEPOSIT ACTIVITIES
The Corporation, in its continuing effort to remain a competitive force
in its markets, offers a wide variety of deposit services, with varied
maturities, minimum-balance requirements and market-sensitive interest rates
that are attractive to all types of depositors. The Corporation's deposit
products include checking accounts, statement savings accounts, money market
deposit accounts, negotiable orders of withdrawal accounts, individual
retirement accounts and certificates of deposit accounts. The Corporation is
able to offer a broad array of products that are consistent with current Federal
Reserve regulations, and as a major result, the Corporation's deposit portfolio
is, for the most part, sensitive to general market fluctuations.
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The following table sets forth the various types of accounts offered by the
Corporation at December 31, 1999:
<TABLE>
<CAPTION>
Weighted
Average Minimum Amount
Interest Balance In % of
Type of Account Rate Term Deposit Thousands Total
- --------------- ---- ---- ------- --------- -----
<S> <C> <C> <C> <C>
Checking Account 0.00% none $ 100.00 $ 39,504 12.90%
Interest Checking 3.49 none 100.00 18,037 5.89
Passbook Accounts 4.00 none 25.00 44,680 14.59
Money Market
Deposit Accounts 3.80 none 500.00 8,037 2.63
Christmas Club Accts 4.05 none 5.00 71 0.02
Individual Retirement
Accounts 6.26 various 500.00 28,752 9.39
Certificates of Deposit
Accounts 5.32 various 500.00 167,112 54.58
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Totals $306,193 100.00%
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</TABLE>
The variety of deposit accounts offered by the Corporation and the
competitive rates paid on these deposit accounts has increased the Corporation's
ability to retain deposits and has allowed it to be more competitive in
obtaining new funds, reducing the threat of disintermediation (the flow of funds
away from deposit institutions into direct investment vehicles such as
government and corporate securities). As customers have become more rate
conscious and willing to move funds to higher yielding accounts, the ability of
the Corporation to attract and maintain deposits and the Corporation's cost of
funds have been, and will continue to be, significantly affected by money market
conditions.
The following table sets forth information relating to the
Corporation's deposit flows during the years indicated.
Years Ended December 31
(In Thousands) 1999 1998 1997
- -------------- -------- -------- --------
Increase (decrease) in deposits before
interest credited back to accounts $ 22,698 $ 28,880 $ 41,924
Interest credited back to accounts 11,154 6,815 5,251
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Net increase in deposits 33,852 35,695 47,175
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Total deposits at year end $306,193 $272,341 $236,646
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BORROWINGS
The Corporation may obtain advances from the FHLB upon the security of
the capital stock it owns in the bank and certain of its home mortgage loans
provided certain standards related to creditworthiness have been met. Such
advances may be made pursuant to several different credit programs. Each credit
program has its own interest rate and range of maturities and the FHLB
prescribes the acceptable uses to which the advances pursuant to each program
may be used, as well as limitations on the size of such advances. Depending on
the program, such limitations are based either on a fixed percentage of the
Corporation's net worth or on the FHLB's assessment of the Corporation's
creditworthiness. The FHLB is required to review its credit limitations and
standards at least once every six months. FHLB
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advances have from time been available to meet seasonal and other withdrawals of
savings accounts and to expand lending.
The Bank also has established credit arrangements with several of it's
correspondent banks. At December 31, 1999 the Bank had approximately $76,179,000
of unused lines of credit, including FHLB unused lines of credit, to fund any
necessary cash requirements.
The following table sets forth certain information as to the
Corporation's advances and other borrowings at the dates indicated. See Notes 8,
9 and 14 to the Consolidated Financial Statements, included as part of the
Annual Report to Stockholders, for information as to rates, maturities, average
balances and maximum amounts outstanding.
December 31
(In Thousands) 1999 1998 1997
- -------------- ------- ------- -------
Advances from FHLB $18,500 $ 6,643 $ 1,786
Guaranteed preferred beneficial
interests in corporation's junior
subordinated debt securities 7,500 7,500 -0-
Other borrowings 99 120 828
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Total borrowings $26,099 $14,263 $ 2,614
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EMPLOYEES
The Corporation at December 31, 1999 had 154 full time employees. None
of these employees are represented by a collective agent, and the Corporation
believes its employee relations are excellent.
COMPETITION
The Corporation encounters competition for both deposits and loans. For
deposits, competition comes from other commercial banks, savings and loan
associations and/or savings banks, mutual money market funds, credit unions and
various other corporate and financial institutions. Competition also comes from
interest paying obligations issued by various levels of government and from a
variety of securities paying dividends or interest. Competition for loans comes
primarily from other commercial banks, savings and loan associations and/or
savings banks, insurance companies, mortgage companies and other lending
institutions.
SUBSIDIARIES
The Corporation was incorporated in Virginia in 1995 to serve as the
holding company for the Bank. The Bank is a state chartered bank with principal
offices in Abingdon, Virginia. The Bank was incorporated in 1985 under the laws
of the Commonwealth of Virginia. The Corporation formed a statutory business
trust, Highlands Capital Trust I, in January of 1998 to issue trust preferred
securities in order to raise additional capital.
The Bank formed a wholly-owned subsidiary, Highlands Union Insurance
Services, Inc., on October 8, 1999 for the purpose of selling insurance services
through Virginia Bankers' Insurance Services, LLC. The subsidiary should become
fully operational during 2000.
FEDERAL HOME LOAN BANK SYSTEM
The Bank is a member of the Federal Home Loan Bank System, which
consists of 12 regional Federal Home Loan Banks. The Federal Home Loan Bank
System is regulated by the Federal Housing Finance Board ("FHFB"). The FHFB is
composed of five members, including the Secretary of Housing and Urban
Development and four private citizens appointed by the President with the advice
and consent of the Senate for terms of seven years. At least one director must
be chosen from organizations with more than a two-year history of representing
consumer or community interests on banking services, credit needs, housing or
financial consumer protections.
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The Bank, as a member of the FHLB of Atlanta, is required to purchase
and maintain stock in its bank in an amount as if 30 percent of the member's
assets were home mortgage loans.
The FHFB is required to adopt regulations establishing standards of
community investment or service for members of the Federal Home Loan Banks as a
condition for continued access to advances. The regulations are to take into
account the record of performance of the institution under the Community
Reinvestment Act of 1977 and its record of lending to first time home buyers.
In addition, new collateral requirements for advances are to be
established which will be designed to insure credit quality and marketability of
the collateral.
REGULATION
GENERAL
The Corporation and it's subsidiary are subject to the supervision,
regulation and examination of the Federal Reserve Board, the Federal Deposit
Insurance Corporation and the state regulators of the Commonwealth of Virginia
which has jurisdiction over financial institutions and has obtained regulatory
approval for it's various activities to the extent required.
FEDERAL AND STATE LAWS AND REGULATIONS
Bank holding companies and banks are extensively regulated under
federal and state law. To the extent that the following information describes
statutory and regulatory provisions, it is qualified in its entirety by
reference to such statutes and regulations. Any change in applicable law or
regulation may have a material effect on the business of the Corporation and
it's subsidiary.
BANK HOLDING COMPANY REGULATION
The Corporation is registered as a "bank holding company" with the
Board of Governors of the Federal Reserve System ("Federal Reserve"), and is
subject to supervision by the Federal Reserve under the Bank Holding Corporation
Act ("BHC Act"). The Corporation is required to file with the Federal Reserve
periodic reports and such additional information as the Federal Reserve may
require pursuant to the BHC Act. The Federal Reserve examines the Corporation
and the subsidiary bank.
The BHC Act requires prior Federal Reserve approval for, among other
things, the acquisition by a bank holding company of direct or indirect
ownership or control of more than 5% of the voting shares or substantially all
of the assets of any bank, or for a merger or consolidation of a bank holding
company with another bank holding company. With certain exceptions, the BHC Act
prohibits a bank holding company from acquiring direct or indirect ownership or
control of the voting shares of any company which is not a bank or bank holding
company and from engaging directly or indirectly in any activity other than
banking or managing or controlling banks or performing services for it's
authorized subsidiaries. A bank holding company may, however, engage in or
acquire an interest in a company that engages in activities which the Federal
Reserve has determined by regulation or order to be so closely related to
banking or managing or controlling banks as to be a proper incident thereto.
BANK REGULATION
The Bank, as a state chartered member of the Federal Reserve Systems,
is subject to regulation and examination by the Virginia State Corporation
Commission and the Federal Reserve Board. In addition, the Bank is subject to
the rules and regulations of the Federal Deposit Insurance Corporation, which
currently insures the deposits of each member bank to a maximum of $100,000 per
depositor.
The commercial banking business is affected by the monetary policies
adopted by the Federal Reserve Board. Changes in the discount rate on member
bank borrowings, availability of borrowing at the "discount window", open market
operations, the imposition of any changes in reserve requirements against member
banks' deposits and certain borrowings by banks and their affiliates, and the
limitation of interest rates which member banks may pay on deposits are some of
the instruments of monetary policy available to the Federal Reserve Board. Taken
together, these controls give the Board a significant influence over the growth
and profitability of all banks. Management of the Bank is unable to predict how
the Board's monetary policies (or the fiscal policies or economic controls
imposed by Federal or state governments)
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will affect the business and earnings of the Bank or the Corporation, or what
those policies or controls will be.
The references in this section to various aspects of supervision and
regulation are brief summaries which do not purport to be complete and which are
qualified in their entirety by reference to applicable laws, rules and
regulations.
FEDERAL DEPOSIT INSURANCE CORPORATION IMPROVEMENT ACT
The difficulties encountered nationwide by financial institutions
during 1990 and 1991 prompted federal legislation designed to reform the banking
industry and to promote the viability of the industry and of the deposit
insurance system. The Federal Deposit Insurance Corporation Improvement Act of
1991 ("FDICIA"), which became effective on December 19, 1991, bolsters the
deposit insurance fund, tightens bank and thrift regulation and trims the scope
of federal deposit insurance as summarized below.
FDICIA requires each federal banking regulatory agency to prescribe, by
regulation, standards for all insured depository institutions and depository
institution holding companies relating to (i) internal controls, information
systems and audit systems; (ii) loan documentation; (iii) credit underwriting;
(iv) interest rate exposure; (v) asset growth; (vi) compensation, fees and
benefits; and (vii) such other operational and managerial standards as the
agency determines to be appropriate. The compensation standards would prohibit
employment contracts, compensation or benefit arrangements, stock option plans,
fee arrangements or other compensatory arrangements that provide excessive
compensation, fees or benefits or could lead to material financial loss. In
addition, each federal banking regulatory agency must prescribe by regulation
standards specifying (i) a maximum ratio of classified assets to capital; (ii)
minimum earnings sufficient to absorb losses without impairing capital; (iii) to
the extent feasible, a minimum ratio of market value to book value for publicly
traded shares of depository institutions and depository institution holding
companies; and (iv) such other standards relating to asset quality, earnings and
valuation as the agency determines to be appropriate. If an insured institution
fails to meet any of the standards promulgated by regulation, then such
institution will be required to submit a plan to its federal regulatory agency
specifying the steps it will take to correct the deficiency.
Prompt corrective action measures adopted in FDICIA and which became
effective on December 19, 1992, impose significant new restrictions and
requirements on depository institutions that fail to meet their minimum capital
requirements. Under new Section 38 of the Federal Deposit Insurance Act ("FDI
Act"), the federal banking regulatory agencies have developed a classification
system pursuant to which all depository institutions are placed into one of five
categories based on their capital levels and other supervisory criteria: well
capitalized, adequately capitalized; undercapitalized; significantly
undercapitalized; and critically undercapitalized.
The Bank met the requirements at December 31, 1999 to be classified as
"adequately capitalized". This classification is determined solely for the
purposes of applying the prompt corrective action regulations and may not
constitute an accurate representation of the Corporation's overall financial
condition.
An undercapitalized depository institution is required to submit a
capital restoration plan to its principal federal regulator. The federal banking
agencies may not accept a capital plan without determining, among other things,
that the plan is based on realistic assumptions and is likely to succeed in
restoring the depository institution's capital and is guaranteed by the parent
holding company. If a depository institution fails to submit an acceptable plan,
it will be treated as if it were significantly undercapitalized.
Unless its principal federal regulator has accepted its capital plan,
an undercapitalized bank may not increase its average total assets in any
calendar quarter. If an undercapitalized institution's capital plan has been
accepted, asset growth will be permissible only if the growth is consistent with
the plan and the institution's ratio of tangible equity to assets increases
during the quarter at a rate sufficient to enable the institution to become
adequately capitalized within a reasonable time.
An institution that is undercapitalized may not solicit deposits by
offering rates of interest that are significantly higher than the prevailing
rates on insured deposits in the institution's normal market areas or in the
market area in which the deposits would otherwise be accepted.
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An undercapitalized may not branch, acquire an interest in another
business or institution or enter a new line of business unless its capital plan
has been accepted and its principal federal regulator approves the proposed
action.
An insured depository institution may not pay management fees to any
person having control of the institution nor may an institution, except under
certain circumstances and with prior regulatory approval, make any capital
distribution if, after making such payment or distribution, the institution
would be undercapitalized.
Significantly undercapitalized depository institutions may be subject
to a number of requirements and restrictions, including orders to sell
sufficient voting stock to become adequately capitalized, requirements to reduce
total assets and cessation of receipt of deposits from correspondent banks.
Critically undercapitalized institutions are subject to appointment of a
receiver or conservator.
If its principal federal regulator determines that an adequately
capitalized institution is in an unsafe or unsound condition or is engaging in
an unsafe or unsound practice, it may require the institution to submit a
corrective action plan, restrict its asset growth and prohibit branching, new
acquisitions and new lines of business. An institution's principal federal
regulator may deem it to be engaging in an unsafe or unsound practices if it
receives a less than satisfactory rating for asset quality, management, earnings
or liquidity in its most recent examination.
In addition, regulators were required to draft a new set of non-capital
measures of bank safety, such as loan underwriting standards and minimum
earnings levels, effective December 1, 1993. The legislation also requires
regulators to perform annual on-site bank examinations, place limits on real
estate lending by banks and tightens auditing requirements.
FEDERAL AND STATE TAXATION
GENERAL
The following discussion of federal taxation is a summary of certain
pertinent federal income tax matters as they pertain to the Corporation. With
some exceptions, including particularly the reserve for bad debts discussed
below, the Corporation is subject to federal income tax under the Internal
Revenue Code of 1986 (the "Code") in the same general manner as other
corporations.
BAD DEBT RESERVES
Commercial banks such as the Bank, which meet certain definitional
tests primarily relating to their assets and the nature of their businesses, are
permitted to establish a reserve for bad debts and to make annual additions to
the reserve. These additions, may within specified formula limits, be deducted
in arriving at the Bank's taxable income. For purposes of computing the
deductible addition to its bad debt reserve, the Bank utilizes the experience
method.
Under the experience method, the deductible annual addition is the
amount necessary to increase the balance of the reserve at the close of the
taxable year to the greater of (1) the amount which bears the same ratio to
loans outstanding at the close of the taxable year as the total net bad debts
sustained during the current and five preceding taxable years to bear to the sum
of the loans outstanding at the close of those six years or (2) the lower of (a)
the balance in the reserve account at the close of the last taxable year prior
to the most recent adoption of the experience method (the base year is the last
taxable year beginning before 1988), or (b) if the amount of loans outstanding
at the close of the taxable year is less than the amount of loans outstanding at
the close of the base year, the amount which bears the same ratio to loans
outstanding at the close of the taxable year as the balance of the reserve at
the close of the base year bears to the amount of loans outstanding at the close
of the base year.
MINIMUM TAX
A 20% corporate alternative minimum tax generally will apply to a base
of regular taxable income plus certain tax preferences ("alternative minimum
taxable income" or "AMTI") and will be payable to the
11
<PAGE>
extent such AMTI is in excess of an exemption amount. The Code provides that an
item of tax preference is the excess of the bad debt deduction over the amount
allowable under the experience method. The other items of tax preference that
constitute AMTI include (a) tax-exempt interest on newly-issued (generally,
issued on or after August 8, 1986) private activity bonds other than certain
qualified bonds and (b) 75% of the excess (if any) of (i) 75% of adjusted
current earnings as defined in the Code, over (ii) AMTI (determined without
regard to this preference and prior to reduction by net operating losses).
OTHER
For federal income tax purposes, the Corporation reports its income and
expenses on the accrual basis method of accounting and uses a year ending
December 31 for filing its income tax returns. The Corporation may carry back
net operating losses to the preceding two taxable years and forward to the
succeeding ten taxable years except in the case of that portion of a net
operating loss created by a bad debt deduction which may be carried back ten
and forward five years.
The Commonwealth of Virginia imposes an income tax on corporations
domiciled in the state. The Virginia taxable income is based on the federal
taxable income with certain adjustments for interest and dividend income on
obligations of securities of the United States and states other than Virginia.
The tax rate is 6% of taxable income.
See Note 6 to the Consolidated Financial Statements, included as part
of the Annual Report to Stockholders, for additional information regarding the
income taxes of the Company.
DISTRIBUTION OF ASSETS, LIABILITIES AND SHAREHOLDERS' EQUITY; INTEREST RATES AND
INTEREST DIFFERENTIAL
<TABLE>
<CAPTION>
<S> <C>
Year Ended December 31,
1999 1998 1997
(Dollars in Thousands)
AVERAGE YIELD/ AVERAGE YIELD/ AVERAGE YIELD/
BALANCE INTEREST RATE BALANCE INTEREST RATE BALANCE INTEREST RATE
------- -------- ---- ------- -------- ---- ------- -------- ----
ASSETS
Interest earning assets
(taxable-equivalent
basis (1) :
Loans (net of un-
earned discount) (2) $246,687 $ 21,873 8.87% $213,069 $ 19,618 9.21% $175,542 $ 16,249 9.26%
Securities (3) 63,050 3,733 5.79 56,757 3,057 5.39 38,158 2,363 6.19
Federal funds sold 1,446 65 4.50 4,250 222 5.22 3,244 169 5.20
-------- -------- ---- -------- -------- ---- -------- -------- ----
Total interest-earning
assets $311,183 $ 25,671 8.25% $274,076 $ 22,897 8.35% $216,944 $ 18,781 8.66%
-------- -------- ---- -------- -------- ---- -------- -------- ----
LIABILITIES
Interest-bearing
liabilities :
Savings & time dep $255,385 $ 12,810 5.02% $226,142 $ 12,336 5.46% $181,846 $ 10,099 5.55%
Other interest-bearing
liabilities 19,262 1,357 7.04 13,933 1,065 7.64 3,366 222 6.59
-------- -------- ---- -------- -------- ---- -------- -------- ----
Total interest-bearing
liabilities $274,647 $ 14,167 5.16% $240,075 $ 13,401 5.58% $185,212 $ 10,321 5.57%
-------- -------- ---- -------- -------- ---- -------- -------- ----
Net interest income $ 11,504 $ 9,496 $ 8,460
Net margin on int.
earning assets on a
tax equivalent basis 3.70% 3.46% 3.90%
Average interest
spread 3.09% 2.77 3.09%
</TABLE>
(1) Tax equivalent adjustments (using 34% federal tax rates) have been made in
calculating yields on tax-free loans and investments. Virginia banks are
exempt from state income tax.
(2) For the purposes of these computations, non-accruing loans are included in
the daily average loan amounts outstanding.
(3) The yield on securities classified as available for sale is computed based
on the average balance of the historical amortized cost balance without the
effects of the fair value adjustment required by FAS115
12
<PAGE>
As the largest component of income, net interest income represents the
amount that interest and fees earned on loans and investments exceeds the
interest costs of funds used to support these earning assets. Net interest
income is determined by the relative levels, rates and mix of earning assets and
interest-bearing liabilities. The following table attributes changes in net
interest income either to changes in average volume or to changes in interest
due to both rate and volume. The amounts below have been allocated to volume and
rate changes in proportion to the relationship of the absolute dollar amounts of
the change in each.
<TABLE>
<CAPTION>
<S> <C> <C> <C> <C>
1999 Compared to 1998 1998 Compared to 1997
Increase Increase Increase Increase
(decrease) due (decrease) due (decrease) due (decrease) due
to change in to change in Net increase to change in to change in Net increase
Increase (Decrease) in volume rate (decrease) volume rate (decrease)
- ---------------------- ------ ---- ---------- ------ ---- ----------
INTEREST INCOME
Securities ........... $ 449 $ 227 $ 676 $ 1,148 $ (454) $ 694
Federal funds sold ... (146) (11) (157) 52 1 53
Loans ................ 2,979 (724) 2,255 3,474 (105) 3,369
------- ------- ------- ------- ------- -------
Total Income Change $ 3,282 $ (508) $ 2,774 $ 4,674 $ (558) $ 4,116
------- ------- ------- ------- ------- -------
INTEREST EXPENSE
Savings and time
deposits .......... $ 1,469 $ (995) $ 474 $ 2,441 $ (204) $ 2,237
Other interest-bearing
liabilities ....... 374 (82) 292 697 146 843
------- ------- ------- ------- ------- -------
Total Expense Change $ 1,843 $(1,077) $ 766 $ 3,138 $ (58) $ 3,080
------- ------- ------- ------- ------- -------
Increase (Decrease) in
Net Interest Income $ 1,439 $ 569 $ 2,008 $ 1,536 $ (500) $ 1,036
------- ------- ------- ------- ------- -------
</TABLE>
INVESTMENT PORTFOLIO
The following table presents the maturity distribution, market value,
book value and approximate tax equivalent yield (assuming a 34% federal income
tax rate) of the investment portfolio at December 31, 1999.
<TABLE>
<CAPTION>
(Dollars in Thousands)
One Year Five Years
Within One Through Through After Ten Market Total Book
Year Five Years Ten Years Years Value Yield Value
---- ---------- --------- ----- ----- ----- -----
<S> <C> <C> <C> <C> <C> <C> <C>
U.S. Gov Agency $ 55 $ 4,716 $ 4,152 $57,552 $66,475 5.72% $67,168
State & Muni's -0- -0- 203 2,055 2,258 6.41 2,473
Other ......... -0- -0- -0- 2,065 2,065 8.28 2,095
------- ------- ------- ------- ------- ---- -------
TOTAL ....... $ 55 $ 4,716 $ 4,355 $61,672 $70,798 5.79% $71,736
------- ------- ------- ------- ------- ---- -------
</TABLE>
13
<PAGE>
LOAN PORTFOLIO
- --------------
The table below classifies loans, net of unearned income, by major
category and percentage distribution at December 31, 1999 for each of the past
three years:
<TABLE>
<CAPTION>
December 31,
(Dollars in thousands)
1999 1998 1997
DESCRIPTION AMOUNT PERCENTAGE AMOUNT PERCENTAGE AMOUNT PERCENTAGE
- ----------- ------ ---------- ------ ---------- ------ ----------
<S> <C> <C> <C> <C> <C> <C>
Commercial $ 27,055 10.34% $ 24,234 10.38% $ 24,395 12.71%
Real Estate 163,317 62.41 136,184 58.37 104,818 54.59
Consumer 68,091 26.02 70,132 30.05 59,653 31.07
Other 3,215 1.23 2,821 1.20 3,139 1.63
-------- ------ -------- ------ -------- ------
Total $261,678 100.00% $233,371 100.00% $192,005 100.00%
-------- ------ -------- ------ -------- ------
The following table shows the maturity of loans outstanding, inclusive
of contractual amortization as of December 31, 1999. Loans are classified based
upon the period in which the final payment is due.
<CAPTION>
December 31, 1999
(Dollars in Thousands)
Within One After One But After Five
Year Within Five Years Years
---- ----------------- -----
Fixed Floating Fixed Floating Fixed Floating
Rate Rate Rate Rate Rate Rate Total
---- ---- ---- ---- ---- ---- -----
<S> <C> <C> <C> <C> <C> <C>
Commercial $ 8,952 $ 7,166 $ 8,787 $ 611 $ 1,514 $ 25 $ 27,055
Real Estate 21,100 4,687 60,174 6,464 24,549 46,343 163,317
Consumer 22,244 183 43,906 11 1,736 11 68,091
Other 913 1,193 1,058 14 37 -0- 3,215
----- ----- ----- ----- ----- ------ -----
Total $ 53,209 $ 13,229 $113,925 $ 7,100 $ 27,836 $ 46,379 $261,678
------ ------ ------- ------- ------- ------ -------
</TABLE>
NON-PERFORMING LOANS
- --------------------
The loan portfolio of the Bank is reviewed regularly by senior officers
to evaluate loan performance. The frequency of the review is based on a rating
of credit worthiness of the borrower utilizing various factors such as net
worth, credit history, customer relationship, etc. The evaluations emphasize
different factors depending upon the type of loan involved. The commercial and
real estate type loans are reviewed on the basis of estimated net realizable
value through an evaluation of collateral and the financial strength of the
borrower. Installment loans are evaluated largely on the basis of delinquency
data because of the large number of such loans and relatively small size of each
individual loan.
Management review of commercial and other loans may result in a
determination that a loan should be placed on a non-accrual of interest basis.
It is the policy of the Bank to discontinue the accrual of interest on any loan
on which full collectability of principal and / or interest is doubtful.
Subsequent collection of interest is recognized as income on a cash basis upon
receipt. Placing a loan on non-accrual status for the purpose of income
recognition is not in itself a reliable indication of potential loss of
principal. Other factors, such as the value of the collateral securing the loan
and the financial condition of the borrower, serve as more reliable indications
of potential loss of principal.
The policy of the Bank is that non-performing loans consist of loans
accounted for on a non-accrual basis and loans which are contractually past due
90 days or more in regards to interest and/ or principal payments. As of the
three periods ended December 31, 1999, 1998 and 1997, non-accrual loans amounted
to $1,152,000, $1,396,000 and $888,000, respectively. Interest income lost on
non-accruing loans was approximately $136,000, $146,000, and $71,000 for
December 31, 1999, 1998, and 1997 respectively.
14
<PAGE>
SUMMARY OF LOAN LOSS EXPERIENCE
The allowance for loan losses is increased by the provision for loan
losses and reduced by loans charged off net of recoveries. The allowance for
loan losses is established and maintained at a level judged by management to be
adequate to cover any anticipated loan losses to be incurred in the collection
of outstanding loans. In determining the adequate level of the allowance for
loan losses, management considers the following factors: (a) loan loss
experience; (b) problem loans, including loans judged to exhibit potential
charge-off characteristics, loans on which interest is no longer being accrued,
loans which are past due and loans which have been classified in the most recent
regulatory examination; and (c) anticipated economic conditions and the
potential impact these conditions may have on individual classifications of
borrowers.
The following table presents the Corporation's loan loss experience for
the past three years:
Years Ended December 31,
(Dollars in Thousands)
<TABLE>
<CAPTION>
1999 1998 1997
---- ---- ----
<S> <C> <C> <C>
Allowance for loan losses at
beginning of year $ 2,008 $ 1,636 $ 1,072
Loans charged off:
Commercial 357 271 42
Real Estate 27 -0- -0-
Consumer 710 786 470
Other -0- -0- -0-
-------- -------- --------
Total $ 1,094 $ 1,057 $ 512
-------- -------- --------
Recoveries of loans previously charged off:
Commercial $ 97 42 6
Real Estate -0- -0- -0-
Consumer 65 157 68
Other -0- -0- -0-
-------- -------- --------
Total $ 162 $ 199 $ 74
-------- -------- --------
Net loans charged off $ 932 $ 858 $ 438
Provision for loan losses 1,418 1,230 1,002
-------- -------- --------
Allowance for loan losses end of year $ 2,494 $ 2,008 $ 1,636
-------- -------- --------
Average total loans (net of unearned income) $246,687 $213,069 $175,542
Total loans (net of unearned income) at year-end $261,678 $233,371 $192,005
Ratio of net charge-offs to average loans 0.378% 0.403% 0.249%
Ratio of provision for loan losses to average loans 0.575% 0.577% 0.571%
Ratio of provision for loan losses to net charge-off 152.146% 143.357% 228.770%
Allowance for loan losses to year-end loans 0.953% 0.860% 0.852%
</TABLE>
15
<PAGE>
ALLOCATION OF THE ALLOWANCE FOR LOAN LOSSES
- -------------------------------------------
The following table provides an allocation of the allowance for loan
losses as of December 31, 1999
Year Ended December 31, 1999
Percent of Loans on each category
(Dollars in Thousands)
Allowance for Percentage of Percentage of
Loan Loss Total Loan Loss Total Loans
--------- --------------- -----------
Commercial $ 625 25.06% 10.34%
Real Estate 147 5.89 62.42
Consumer 1,719 68.93 26.01
Other 3 0.12 1.23
----- ----- -----
Total $2,494 100.00% 100.00%
----- ----- -----
DEPOSITS
- --------
The following table provides a breakdown of deposits at December 31 for
the years indicated is as follows:
December 31,
(Dollars in Thousands)
1999 1998 1997
---- ---- ----
Non-interest bearing demand deposits $ 39,504 $ 36,187 $ 30,930
Interest bearing demand deposits 26,074 21,936 15,065
Savings deposits 44,751 35,640 26,808
Time deposits 195,864 178,578 163,843
------- ------- -------
Total Deposits $306,193 $272,341 $236,646
------- ------- -------
The average daily amount of deposits and rates paid on such deposits is
summarized for the periods indicated in the following table:
Year Ended December 31,
(Dollars in Thousands)
<TABLE>
<CAPTION>
1999 1998 1997
Amount Rate Amount Rate Amount Rate
------ ---- ------ ---- ------ ----
<S> <C> <C> <C> <C> <C> <C>
Non-interest bearing
demand deposits $ 38,651 0.00% $ 33,671 0.00% $ 28,177 0.00%
Interest-bearing demand
deposits 24,728 3.59 18,239 3.60 14,029 3.58
Savings deposits 44,505 4.00 32,681 4.00 24,600 4.00
Time deposits 186,151 5.45 175,222 5.92 143,217 6.01
-------- -------- --------
Total $294,035 $259,813 $210,023
-------- -------- --------
</TABLE>
16
<PAGE>
The remaining maturities of time deposits at December 31, 1999 are as
follows (in thousands) :
Maturity
3 months or less.................................... $ 39,967
Over 3 through 12 months............................ 84,634
Over 12 months...................................... 71,263
-------
Total $195,864
--------
INTEREST RATE SENSITIVITY ANALYSIS
- ----------------------------------
The following table provides the maturities of investment securities,
loans, and deposits as of December 31, 1999, and measures the interest rate
sensitivity gap for each range of maturity indicated. The amounts below also
reflect various prepayment assumptions.
December 31, 1999
(Dollars in Thousands)
Maturing
<TABLE>
<CAPTION>
Within One After One But After Five
Year Within Five Years Years Total
---- ----------------- ----- -----
<S> <C> <C> <C> <C>
ASSETS
Interest-bearing
Investment Securities $ 15,555 $ 11,428 $ 43,815 $ 70,798
Fed Funds Sold -0- -0- -0- -0-
Loans 66,461 121,113 71,610 259,184
Noninterest-bearing
Other Assets 13,988 -0- 14,378 28,366
-------- -------- -------- --------
Total Assets $ 96,004 $132,541 $129,803 $358,348
-------- -------- -------- --------
LIABILITIES AND SHARE-
HOLDERS EQUITY
Interest-bearing
All Interest-bearing Deposits $148,591 $ 68,407 $ 49,691 $266,689
Other Interest-bearing Liab 11,352 10,434 7,500 29,286
Noninterest-bearing
Demand Deposit Non-Interest -0- -0- 39,504 39,504
Other Liabilities 2,392 -0- 69 2,461
Shareholders Equity -0- -0- 20,408 20,408
-------- -------- -------- --------
Total Liabilities and Shareholders
Equity $162,335 $ 78,841 $117,172 $358,348
-------- -------- -------- --------
Interest Rate Sensitivity GAP $(66,331) $ 53,700 $ 12,631 $ -0-
</TABLE>
17
<PAGE>
RETURN ON EQUITY AND ASSETS
- ---------------------------
The following table highlights certain ratios for the periods
indicated:
Year Ended December 31,
(Percentage)
1999 1998 1997
---- ---- ----
Net income to:
Average total assets 0.64 0.61 0.84
Average shareholders equity 11.13 10.06 12.53
Dividend payout ratio(dividends declared per
share divided by net income per share) 0.07 0.07 0.00
Average shareholders equity to average total
assets ratio 5.71 6.02 6.73
ITEM 2. PROPERTIES
- ------------------
The Corporation's and the Bank's main offices are located at 340 W.
Main Street, Abingdon, Virginia. The main office is a two story brick structure
owned by the Bank. The Bank utilizes the entire structure for its day to day
operations. Attached to the main office is a four lane drive thru facility
constructed in 1998. The new drive thru replaced an older unit which was
detached from the main office's structure. The main office opened for operations
in 1985. In addition, the Bank has three other branch locations within
Washington County, Virginia. The East Abingdon branch is a one story brick
facility located at 24412 Maringo Road which operates as a full service branch.
The branch was completed and opened for operation in 1993. The West Abingdon
location operates as an "express facility." This location contains four drive
thru lanes and a walk-up window. This is a limited service facility. The West
Abingdon Express branch was completed and opened for operations in 1994 and is
located at Exit 14, I-81, Jonesboro Road, Abingdon, Virginia. During 1998, the
Bank constructed and placed in service a two-story brick building located at 506
Maple Avenue, Glade Spring, Virginia. The Glade Spring Office is a full service
location with four drive thru lanes. The Bank also has two full service branch
locations within the City of Bristol, Virginia. The East Bristol office is
located at 999 Old Airport Road, Bristol, Virginia. This is a two story brick
building with interior customer loan and deposit areas as well as a four lane
drive thru unit. The office was completed and opened for operations in 1988. The
Commonwealth office is located at 821 Commonwealth Avenue, Bristol, Virginia.
This is a two story block building with full service customer service areas and
a four lane drive thru facility. The Bank also operates its dealer finance
division out of the Commonwealth office. This office was completed and opened
for operations in 1995. The Bank also has a full service branch at 1425 North
Main Street , Marion, Virginia. The branch was placed in service in December of
1997. It is a two story brick building and operates as a full service branch.
The Marion office has two drive thru lanes. There is also an ATM located
approximately 1/2 mile from the branch on North Main Street. The ATM resides on
property purchased by the Bank in 1997. All of the Bank's branch locations
except Marion have an on premises ATM. All branch properties are owned by the
Bank and are free of liens. In September 1998, the Bank acquired the adjacent
building to its Commonwealth office to facilitate future expansion. This is a
one story brick structure, located at 801-805 Commonwealth Avenue, Bristol,
Virginia and is currently leased. A note payable to the sellers was executed and
is secured by a first deed of trust. The balance on the note as of December 31,
1999 was approximately $99,000. Also during 1998, the Bank initiated an off
premises ATM program. Throughout 1998 and 1999, 20 offsite ATMs were purchased
and installed throughout the Bank's market areas. Three machines were placed in
Bristol, Virginia; nine were installed in Washington County, Virginia; two in
Russell County, Virginia; five in Smyth County, Virginia, and one in Wythe
County, Virginia. All machines are free of liens. During 1999 the Bank purchased
a building, across from the Main Office in Abingdon, to provide for expansion of
the Bank's operations. The building is a brick and frame structure that is being
used to house the Bank's Financial Services Department, the Collections
Department, the Bank's credit card, check card and ATM card operations
department as well as the Bank's Check Printing
18
<PAGE>
Department. The office space not currently being used by the Bank is being
leased to other businesses. This property is free of any liens.
The Corporation acquired a commercial building during 1997 which is
located at 266 West Plumb Alley, Abingdon, Virginia. The building is a two story
concrete structure which was originally constructed by another bank for use as
an operations center. The Corporation assumed the lease of the building's
current tenants. The second floor of the structure is leased to third parties.
During 1997, the Corporation entered into a leasing arrangement with its
subsidiary to lease the first floor to be used for its operations center.
Currently, the bookkeeping, proof, accounting, shareholder services, human
resources, internal audit and training departments are located there. The West
Plumb Alley property is free of liens. Also during 1998, the Corporation
purchased the adjacent property to the operations center. The property purchased
is a one story brick structure which is currently leased. It is management's
intention to utilize the property as growth continues. The property is owned
free and clear of all liens.
ITEM 3. LEGAL PROCEEDINGS
- -------------------------
The Corporation is not involved in any pending legal proceedings, other
than non-material legal proceedings undertaken in the ordinary course of
business.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
- -----------------------------------------------------------
There were no matters submitted to a vote of security holders during
the quarter ended December 31, 1999.
PART II.
--------
ITEM 5. MARKET FOR REGISTRANT'S COMMON EQUITY AND RELATED STOCKHOLDER MATTERS
- -----------------------------------------------------------------------------
There is no established trading market for the stock of Highlands
Bankshares, Inc.. At December 31, 1999 the Corporation has approximately 1,075
stockholders of record. The Corporation acts as it's own registered Stock
Transfer Agent, without charging a transfer fee, ensuring that all applicable
federal guidelines relating to stock transfers are enforced. The Corporation
maintains a list of individuals who are interested in purchasing it's common
stock and connects these people with stockholders' who are interested in selling
their stock. These parties negotiate the per share price independent of the
Corporation. The stock transfer agent of the Corporation attempts to keep a
record of what the stock sales are trading at by asking the parties about the
trade price per share. Please refer to the table below entitled Common Stock
Performance for a breakdown of the trades for the four quarters of 1999. It is
the opinion of management that this range accurately reflects the market value
of the Corporations common stock at the present time.
Common Stock Performance-December 31 1999
High Low Quarterly Average
---- --- -----------------
First Quarter $20.00 $16.00 $16.86
Second Quarter $25.00 $17.00 $19.40
Third Quarter $30.00 $20.00 $21.89
Fourth Quarter $30.00 $21.00 $23.89
The Corporation's and the Bank's Board of Directors determines whether
to declare dividends and the amount of any dividends declared. Such
determinations by the Board take into account the Corporation's financial
condition, results of operations, and other relevant factors. The declaration,
amount and timing of future dividends will be determined by the Board of
Directors after a review of the Corporation's operations and will be dependent
upon, among other factors, the Corporation's income,
19
<PAGE>
operating costs, overall financial condition and capital requirements and upon
general business conditions. The Corporation declared and paid cash dividends of
$150,000 or $0.06 per share during 1999.
At December 31, 1999, there were approximately 1,075 holders of the
Corporation's common stock (based on the number of record holders as of that
date).
ITEM 6. SELECTED FINANCIAL DATA
- -------------------------------
The following table sets forth certain selected consolidated financial
data for the past five years.
Years Ended December 31,
(Dollars in thousands, except per share data)
<TABLE>
<CAPTION>
1999 1998 1997 1996 1995
---- ---- ---- ---- ----
Income Statement Amounts:
<S> <C> <C> <C> <C> <C>
Gross interest income $ 25,671 $ 22,897 $ 18,781 $ 14,612 $ 11,585
Gross interest expense 14,167 13,401 10,321 7,822 6,161
Net interest income 11,504 9,496 8,460 6,790 5,424
Provision for possible loan
Losses 1,418 1,230 1,002 374 143
Net interest income after
provision 10,086 8,266 7,458 6,416 5,281
Other operating income 1,353 1,367 842 644 488
Other operating expense 8,187 6,962 5,382 4,439 3,541
Income before income taxes
and other items 3,252 2,671 2,918 2,621 2,228
Income taxes 1,121 896 966 857 779
Income before cumulative
effect of change in
accounting principles 2,131 1,775 1,952 1,764 1,449
Cumulative effect of change
in accounting principles -0- -0- -0- -0- -0-
Net income $ 2,131 $ 1,775 $ 1,952 $ 1,764 1,449
Per Share Data (1):
Net income per share $ 0.85 $ 0.72 $ 0.79 $ 0.72 $ 0.60
Cash dividends per share 0.06 0.05 -0- -0- -0-
Book value (at year end) 7.77 7.33 6.82 5.98 5.26
Balance Sheet Amounts (at year-end):
Total assets $358,348 $307,764 $258,236 $207,739 $162,543
Total loans (net of unearned
income) 261,678 233,371 192,005 154,951 113,743
Total deposits 306,193 272,341 236,646 189,471 147,327
Long-term debt 10,599 6,763 2,614 1,929 -0-
Guaranteed preferred
beneficial interests in
junior subordinated debt
securities 7,500 7,500 -0- -0- -0-
Total equity 20,408 18,279 16,802 14,617 12,812
</TABLE>
(1) Adjusted for 1999 and 1995 two-for-one stock splits.
20
<PAGE>
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF
- --------------------------------------------------------------------------
OPERATIONS
- ----------
The information required herein is incorporated by reference from pages
8 to 12 of the Annual Report to Stockholders for the fiscal year ended December
31, 1999.
ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA
- ---------------------------------------------------
The financial statements and supplementary data required herein are
incorporated by reference from pages 20 to 40 of the Annual Report to
Stockholders for the fiscal year ended December 31,1999.
ITEM 9. CHANGES IN ACCOUNTANTS AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING
- -------------------------------------------------------------------------------
AND FINANCIAL DISCLOSURE
- ------------------------
None.
PART III.
- ---------
ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT
- ------------------------------------------------------------
The information required herein is incorporated by reference to "The
Board of Directors", "Executive Officers Who Are Not Directors", "Security
Ownership of Certain Beneficial Owners" and "Compliance With Filing Requirements
Under the Securities Exchange Act of 1934" contained in the definitive proxy
statement for the Registrant's 1999 Annual Meeting of Stockholders to be
subsequently filed.
ITEM 11. EXECUTIVE COMPENSATION
- -------------------------------
The information required herein is incorporated by reference to
"Remuneration" contained in the definitive proxy statement for the Registrant's
1999 Annual Meeting of Stockholders to be subsequently filed.
ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT
- -----------------------------------------------------------------------
The information required herein is incorporated by reference to
"Security Ownership of Management" and "Security Ownership of Certain Beneficial
Owners" contained in the definitive proxy statement for the Registrant's 1999
Annual Meeting of Stockholders to be subsequently filed.
ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS
- -------------------------------------------------------
The information required herein is incorporated by reference to
"Indebtedness of Management" contained in the definitive proxy statement for the
Registrant's 1999 Annual Meeting of Stockholders to be subsequently filed.
PART IV.
- --------
ITEM 14. EXHIBITS, FINANCIAL STATEMENT SCHEDULES, AND REPORTS ON FORM 8-K
- -------------------------------------------------------------------------
(a) (1) The following financial statements are incorporated by
reference into Item 8 hereof from Exhibit 13 hereof:
Consolidated Statements of Financial Condition as of December
31, 1999, 1998 and 1997
Consolidated Statements of Operations for each of the years in
the three year period ended December 31, 1999
Consolidated Statements of Stockholder's Equity for each of
the years in the three year period ended December 31, 1999
21
<PAGE>
Consolidated Statements of Cash Flows for each of the years in
the three year period ended December 31, 1999
Notes to Consolidated Financial Statements for December 31,
1999, 1998 and 1997
Independent Auditors' Report
(a) (2) There are no financial statement schedules required to be
filed herewith
3a The following exhibits are filed as part of this report on
Form 10-K, and this list includes the Exhibit Index.
EXHIBITS
--------
3a None
(b) No reports on Form 8-K have been filed during the last quarter of
the period covered by this report.
(c) See (a) (3) above for all exhibits filed herewith and the Exhibit
Index.
(d) Separate financial statements are not applicable.
22
<PAGE>
SIGNATURES
Pursuant to the requirements of Section 13 or 15(d) 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.
HIGHLANDS BANKSHARES, INC.
Date: March 21, 2000 BY:___________________________
Samuel L. Neese
Executive Vice President and
Chief Executive Officer
Pursuant to the requirements of the Securities Exchange Act of 1934,
this report has been signed below by the following persons on behalf of the
registrant and in the capacities indicated on March 21, 2000.
Signature Title
--------- -----
<TABLE>
<CAPTION>
<S> <C> <C>
/S/ James D Morefield 03-21-00
- --------------------------------------------
James D. Morefield Date Chairman of the Board, and Director
/S/ James D. Moore, Jr. 03-21-00
- --------------------------------------------
Dr. James D. Moore, Jr. Date President
/S/ J. Carter Lambert 03-21-00
- --------------------------------------------
J. Carter Lambert Date Vice Chairman
/S/ Samuel L. Neese 03-21-00
- --------------------------------------------
Samuel L. Neese Date Executive Vice President, and Chief Executive
Officer
/S/ James T. Riffe 03-21-00
- --------------------------------------------
James T. Riffe Date Executive Vice President and Cashier
/S/ William E. Chaffin 03-21-00
- --------------------------------------------
William E. Chaffin Date Director
/S/ V. D. Kendrick 03-21-00
- ---------------------------------------------
V.D. Kendrick Date Director
/S/ Clydes B. Kiser 03-21-00
- ---------------------------------------------
Clydes B. Kiser Date Director
/S/ Charles P. Olinger 03-21-00
- --------------------------------------------
Charles P. Olinger Date Director
/S/ William J. Singleton 03-21-00
- --------------------------------------------
William J. Singleton Date Director
/S/ H. Ramsey White, Jr. 03-21-00
- --------------------------------------------
Dr. H. Ramsey White, Jr. Date Director
</TABLE>
23
<PAGE>
Dear Shareholders:
We are pleased to report that 1999 was a successful year for Highlands
Bankshares Inc. The significant growth continued in 1999, as assets increased by
$50,584,000 or 16.44 percent; gross loans increased by $28,307,000 or 12.13
percent; and deposits increased by $33,852,000 or 12.43 percent. It was a record
year for earnings. Net income was $2,131,000 or an increase of 20.06 percent.
Return on equity was 11.13 percent compared to 10.06 percent in 1998. Return on
assets was 0.64 percent compared to 0.61 percent in 1998. In addition to this
increase in earnings, $1,418,000 was contributed to loan loss reserve to support
the continued loan growth and loan losses for 1999.
During 1999, the board of directors declared the second dividend in the
company's brief history in the amount of $0.12 per share. This was an increase
of 20 percent over the first-ever dividend in 1998. Also, the Board of Directors
was very pleased to announce a two-for-one stock split on April 22, 1999.
Highlands Union Bank (a wholly owned subsidiary of Highlands Bankshares Inc.)
has become known for its leadership in the community banking industry, for its
pattern of rapid growth and willingness to explore innovative technologies. 1999
was a year of expansion, new products and new locations.
The growth of our company continued to exceed the growth rate of the banking
industry in general. The market share of deposits held by Highlands Union Bank
increased in the markets served (Washington County, Smyth County and the City of
Bristol, Virginia). The first year of operation in Glade Spring exceeded
projections. It is expected that this unusual growth will continue as we further
develop the markets in which we operate and look for opportunities in new
markets.
In order to ensure the success of Highlands Bankshares Inc. and Highlands Union
Bank, our focus has always been on providing the best service possible to our
customers. We strive to provide sterling personal service in an environment that
offers state-of-the-art technology. In keeping with this theme, several
initiatives were undertaken. We were proud to be one of the first Virginia banks
to offer Internet banking to its customers. We introduced a state-of-the-art
Internet banking product that allows our customers to conduct routine banking
transactions from the privacy of their homes or any location with access to the
Internet.
We were also pleased to relocate our Financial Services division. Previously
located in the main bank building, it now has its own Main Street location at
the corner of Russell Road and Main Street in Abingdon (Highlands Union Center).
This new location adds convenience for our customers and additional street side
exposure for our Financial Services office.
Other initiatives include the expansion of our drive-thru facilities in Marion
to accommodate the growth at that location and the purchase of permanent back up
generators for our Operations Center and Main Office which will help provide
power and uninterrupted customer service in the event of a power outage. In
order to serve our existing and future customer base in a cost effective and
efficient manner, we upgraded and expanded our technology, delivery systems and
facilities. Additionally, we increased the number of our in-store ATM
facilities.
Our focus on customer service contributed to, not only exceptional growth, but
public recognition. We were proud and pleased to be named "The Best Bank in
Bristol" by readers of the BRISTOL HERALD COURIER. There are two Highlands Union
Bank offices in Bristol.
We continue to seek opportunities for growth of and enhancement of earnings for
our company. In that spirit, we are pleased to advise you that Highlands Union
Bank has applied for and received permission to open a new full service office
in Boone, North Carolina. We believe this market will offer new opportunities
for the bank. It is anticipated that this branch bank will open in late fall of
2000.
As we enter the new millennium - without any Y2K difficulties - we are
optimistic and excited about the opportunities available to our company. The
recently enacted financial modernization legislation will open the door to many
new business opportunities. We believe we are positioned to take advantage of
them.
<PAGE>
As in the past, we are truly appreciative of the support we continue to receive
from our customers, shareholders and friends. On behalf of the directors,
officers and employees of Highlands Bankshares Inc. and Highlands Union Bank,
thank you for your continued confidence and support.
Samuel L. Neese James T. Riffe
Chief Executive Officer Chief Operating Officer
<PAGE>
<TABLE>
<CAPTION>
RESULTS OF OPERATIONS 1999 1998 1997 1999/1998 1998/1997
(IN THOUSANDS EXCEPT SHARE AND PER SHARE DATA PERCENTAGE CHANGE
<S> <C> <C> <C> <C> <C>
Net Interest Income $ 11,504 $ 9,496 $ 8,460 21.15% 12.25%
Net Income <Loss> 2,131 1,775 1,952 20.06 (9.07)
FINANCIAL CONDITION AT YEAR-END
Assets $358,348 $307,764 $258,236 16.44% 19.18%
Loans 261,678 233,371 192,005 12.13 21.54
Securities 70,798 51,355 41,963 37.86 22.38
Deposits 306,193 272,341 236,646 12.43 15.08
Stockholders Equity 20,408 18,279 16,802 11.65 8.79
Shares Outstanding 2,624 2,494 2,464 5.21 1.22
SIGNIFICANT RATIOS
Return on average assets 0.64% 0.61% 0.84% 4.92% (27.38%)
Return on average equity 11.13 10.06 12.53 10.64 (19.71)
Average stockholders' equity to
average assets 5.71 6.02 6.73 (5.15) (10.55)
Allowance for loan losses as a
percentage of total loans 0.95 0.86 0.85 10.47 1.18
Non-performing loans to total loans 0.63 0.87 0.99 (27.59) (12.12)
PER SHARE DATA
Based on weighted-average shares
outstanding
Net Income $0.85 $0.72 $0.79 18.06% (9.43%)
Stockholders' eqyity (book value)
per shares outstanding at
year-end 7.77 7.33 6.82 6.00 7.51
</TABLE>
<PAGE>
COMPARISON OF RESULTS OF COMPARISON OF RESULTS OF
OPERATIONS FOR THE YEARS ENDED OPERATIONS FOR THE YEARS ENDED
DECEMBER 31, 1999 AND 1998 DECEMBER 31, 1998 AND 1997
<TABLE>
<CAPTION>
<S> <C>
Net interest income for the year ended Net interest income for the year ended
December 31, 1999 increased 21.15%, December 31, 1998 increased 12.25%,
approximately $2.01 million over 1998. approximately $1.04 million over 1997.
Average interest earning assets increased Average interest earning assets increased
$38.5 million from 1998 to 1999 while $57.1 million from 1997 to 1998 while
average interest bearing liabilities average interest bearing liabilities
increased $34.6 million. The yield on increased $54.8 million. The yield on
average interest earning assets for the year average interest earning assets for the year
ended December 31, 1999 was 8.25% compared ended December 31, 1998 was 8.35% compared
with 8.35% for the comparable 1998 period. with 8.66% for the comparable 1997 period.
The 1999 yield on average loans decreased by The 1998 yield on average loans decreased by
34 basis points to 8.87% as compared to the 5 basis points to 9.21% as compared to the
1998 period yield of 9.21%. The 1999 yield 1997 period yield of 9.26%. The 1998 yield
on average investments increased .40% to on average investments decreased .74% to
5.77% from December 31, 1998 to 1999. The 5.37% from December 31, 1997 to 1998. The
yield on average interest bearing yield on average interest bearing
liabilities decreased 42 basis points during liabilities increased 1 basis point during
1999 to 5.16% as compared to 5.58% during 1998 to 5.58% as compared to 5.57% during
1998. Net income for the year-ended 1999 was 1997. Net income for the year-ended 1998 was
$2.13 million, an increase of 20.06% over $1.78 million, a decrease of 9.07% over the
the 1998 period. Income tax expense for 1999 1997 period. Income tax expense for 1998
increased 25% to $1,121 thousand as compared decreased 7.25% to $896 thousand as compared
to $896 thousand for the 1998 period. to $966 thousand for the 1997 period
</TABLE>
<PAGE>
<TABLE>
<CAPTION>
COMPARISON OF FINANCIAL COMPARISON OF FINANCIAL
CONDITION AT DECEMBER 31, 1999 AND CONDITION AT DECEMBER 31, 1998 AND
1998 1997
<S> <C>
Total assets at December 31, 1999 totaled Total assets at December 31, 1998 totaled
$358.3 million compared to $307.8 million at $307.8 million compared to $258.2 million at
December 31, 1998. This 16.44% growth in December 31, 1997. This 19.18% growth in
assets was primarily due to the large volume assets was primarily due to the large volume
of loans originated. Total loans increased of loans originated. Total loans increased
12.13% or $28.3 million over the comparable 21.54% or $41.3 million over the comparable
1998 period. The security portfolio 1997 period. The security portfolio
increased 37.86% to $70.8 million during increased 22.38% to $51.3 million during
1999 as contrasted to the 1998 period. Total 1998 as contrasted to the 1997 period. Total
deposits increased to $306.2 million or deposits increased to $272.3 million or
12.43% from 1998's level of $272.3 million. 15.08% from 1997's level of $236.6 million.
Stockholders' Equity increased 11.65% during Stockholders' Equity increased 8.79% during
1999. The Financial Accounting Standards 1998. The Financial Accounting Standards
Board's (FASB) Statement on Accounting Board's (FASB) Statement on Accounting
Standards No. 115 was implemented during Standards No. 115 was implemented during
1994. FASB's SAS 115 required that all 1994. FASB's SAS 115 required that all
securities classified as "Available for securities classified as "Available for
Sale" be adjusted to market value through Sale" be adjusted to market value through
the use of a valuation account and any the use of a valuation account and any
unrealized (paper) gains or losses be run unrealized (paper) gains or losses be run
through the Stockholders' Equity section of through the Stockholders' Equity section of
the balance sheet. The effect of SAS 115 the balance sheet. The effect of SAS 115
caused an decrease in Stockholders' Equity caused an increase in Stockholder's Equity
at December 31, 1998 of $100 thousand, net at December 31, 1997 of $104 thousand, net
of the related deferred tax. As of December of the related deferred tax. As of December
31, 1999, the Corporation's security 31, 1998, the Corporation's security
portfolio had $619 thousand in unrealized portfolio had $100 thousand in unrealized
losses, net of deferred taxes. The losses, net of deferred taxes. The
Corporation notes that it does have the Corporation notes that it does have the
ability and intent to carry to maturity the ability and intent to carry to maturity the
existing $70.8 million of "available for existing $51.3 million of "available for
sale" securities. sale" securities.
</TABLE>
<PAGE>
<TABLE>
<CAPTION>
COMPARSION OF SIGNIFICANT RATIOS COMPARISON OF SIGNIFICANT RATIOS
AT DECEMBER 31, 1999 AND 1998 AT DECEMBER 1998 AND 1997
<S> <C>
Return on average assets increased to .64% Return on average assets dropped to .61% for
for the year-ended December 31, 1999 as the year-ended December 31, 1998 as compared
compared to .61% for the comparable 1998 to .84% for the comparable 1997 period. The
period. The continued growth in assets, the continued growth in assets, the absorption
absorption of the operational costs from the of the operational costs from the new branch
new branch openings, the costs and interest openings, the costs and interest expense
expense related to the trust preferred related to the trust preferred securities,
securities, and the addition of over 1.4 and the addition of over 1.2 million to the
million to the allowance for loan loss allowance for loan loss account all had
account all had a significant impact to this significant impact relating to the decrease
performance ratio. Return on average equity in this performance ratio. Return on average
increased from 10.06% at December 31, 1998 equity decreased from 12.53% at December 31,
to 11.13% at year-end 1999. Average 1997 to 10.06% at year-end 1998. Average
Stockholders' Equity to average assets Stockholders' Equity to average assets
declined to 5.71% at December 31, 1999 from declined to 6.02% at December 31, 1998 from
6.02% at December 31, 1998. Non-performing 6.73% at December 31, 1997. Non-performing
loans to total loans decreased to .63% as of loans to total loans decreased to .87% as of
December 31, 1999 as compared to .87% for December 31, 1998 as compared to .99% for
the comparable 1998 period. Allowance for the comparable period 1997 period. Allowance
loan losses as a percentage of total loans for loan losses as a percentage of total
increased 10.47% to .95% at December 31, loans increased 1.18% to .86% at December
1999. The decrease in average Stockholders' 31, 1998. The decrease in average
Equity to average assets is primarily Stockholders' Equity to average assets is
attributable to the enormous amount of primarily attributable to the enormous
growth which the Corporation sustained amount of growth which the Corporation
during 1999. sustained during 1998.
</TABLE>
<PAGE>
<TABLE>
<CAPTION>
COMPARSION OF PER SHARE DATA COMPARISION OF PER SHARE DATA
FOR THE YEARS ENDED DECEMBER 31, FOR THE YEARS ENDED DECEMBER 31,
1999 AND 1998 1998 AND 1997
<S> <C>
Net income per share, on a weighted average Net income per share, on a weighted average
basis, increased 18.1% to $.85 at December basis, decreased 9.43% to $.72 at December
31, 1999 as compared to $.72 for the 31, 1998 as compared to $.795 for the
comparable 1998 period. Book value per share comparable 1997 period. Book value per share
of common stock increased by 6.0% to $7.77 of common stock increased by 7.51% to $7.33
per share as compared to $7.33 at December per share as compared to $6.82 at December
31, 1998. The Corporation had approximately 31, 1998. The Corporation had approximately
619 thousand in unrealized losses as of 100 thousand in unrealized losses as of
December 31, 1999, net of deferred taxes, December 31, 1998, net of deferred taxes,
due to FASB's SAS 115 which affected the due to FASB's SAS 115 which affected the
book value computation. book value computation.
</TABLE>
<PAGE>
HIGHLANDS BANKSHARES, INC., AND SUBSIDIARIES
CONSOLIDATED FINANCIAL REPORT
DECEMBER 31, 1999
<PAGE>
C O N T E N T S
Page
INDEPENDENT AUDITOR'S REPORT F1
FINANCIAL STATEMENTS
Consolidated Balance Sheets F2
Consolidated Statements of Income F3
Consolidated Statements of Changes in Stockholders' Equity F4
Consolidated Statements of Cash Flows F5
Notes to Consolidated Financial Statements F6 - F28
<PAGE>
Page F1
INDEPENDENT AUDITOR'S REPORT
Board of Directors and Stockholders
Highlands Bankshares, Inc., and Subsidiaries
Abingdon, Virginia
We have audited the accompanying consolidated balance sheets of Highlands
Bankshares, Inc. and Subsidiaries as of December 31, 1999, 1998 and 1997 and the
related consolidated statements of income, stockholders' equity, and cash flows
for the years then ended. These consolidated financial statements are the
responsibility of the Bank's management. Our responsibility is to express an
opinion on these consolidated financial statements based on our audits.
We conducted our audits in accordance with generally accepted auditing
standards. Those standards require that we plan and perform the audit to obtain
reasonable assurance about whether the consolidated financial statements are
free of material misstatement. An audit includes examining, on a test basis,
evidence supporting the amounts and disclosures in the consolidated financial
statements. An audit also includes assessing the accounting principles used and
significant estimates made by management, as well as evaluating the overall
financial statement presentation. We believe that our audits provide a
reasonable basis for our opinion.
In our opinion, the consolidated financial statements referred to above present
fairly, in all material respects, the financial position of Highlands
Bankshares, Inc. and Subsidiaries as of December 31, 1999, 1998 and 1997 and the
results of their operations and their cash flows for the years then ended in
conformity with generally accepted accounting principles.
CERTIFIED PUBLIC ACCOUNTANTS
468 East Main Street
Abingdon, VA 24210
February 4, 2000
<PAGE>
HIGHLANDS BANKSHARES, INC. AND SUBSIDIARIES
Page F2
CONSOLIDATED BALANCE SHEETS
December 31, 1999, 1998 and 1997
(In thousands)
<TABLE>
<CAPTION>
ASSETS 1999 1998 1997
--------- --------- ---------
<S> <C> <C> <C>
Cash and due from banks (Note 18) $ 13,988 $ 9,324 $ 7,712
Federal funds sold - 1,670 7,213
--------- --------- ---------
Total Cash and Cash Equivalents 13,988 10,994 14,925
Investment securities available for sale (Note 2) 70,798 51,355 41,963
Loans, net of allowance for loan losses of $2,494,
$2,008 and $1,636 in 1999, 1998 and 1997,
respectively (Notes 3 and 4) 259,184 231,363 190,369
Premises and equipment, net (Note 5) 9,425 8,270 7,062
Interest receivable 2,155 1,875 1,495
Other assets (Notes 6 and 10) 2,798 3,907 2,422
--------- --------- ---------
Total Assets $ 358,348 $ 307,764 $ 258,236
========= ========= =========
LIABILITIES AND STOCKHOLDERS' EQUITY
Deposits (Note 7)
Noninterest bearing $ 39,504 $ 36,187 $ 30,930
Interest bearing 266,689 236,154 205,716
--------- --------- ---------
Total Deposits 306,193 272,341 236,646
--------- --------- ---------
Federal funds purchased 3,187 503 -
Interest, taxes and other liabilities 2,461 2,378 2,174
Other short term borrowings (Note 8) 8,000 - -
Long-term debt (Note 9) 10,599 6,763 2,614
Capital securities (Note 10) 7,500 7,500 -
--------- --------- ---------
31,747 17,144 4,788
--------- --------- ---------
Total Liabilities 337,940 289,485 241,434
--------- --------- ---------
STOCKHOLDERS' EQUITY
Common stock (Notes 12 and 14) 3,280 3,116 3,081
Additional paid-in capital 5,768 5,265 5,271
Retained Earnings 11,979 9,998 8,346
Accumulated other comprehensive income (loss) (619) (100) 104
--------- --------- ---------
Total Stockholders' Equity 20,408 18,279 16,802
--------- --------- ---------
Total Liabilities and Stockholders' Equity $ 358,348 $ 307,764 $ 258,236
========= ========= =========
</TABLE>
The Notes to Consolidated Financial Statements are an integral part of these
statements.
<PAGE>
HIGHLANDS BANKSHARES, INC. AND SUBSIDIARIES
Page F3
CONSOLIDATED STATEMENTS OF INCOME
Years Ended December 31, 1999, 1998 and 1997
(In thousands)
<TABLE>
<CAPTION>
INTEREST INCOME 1999 1998 1997
--------- --------- ---------
<S> <C> <C> <C>
Loans receivable and fees on loans $ 21,873 $ 19,618 $ 16,249
Securities available for sale 3,733 3,057 2,363
Federal funds sold 65 222 169
--------- --------- ---------
Total Interest Income 25,671 22,897 18,781
--------- --------- ---------
INTEREST EXPENSE
Deposits 12,810 12,336 10,099
Federal funds purchased 89 58 29
Other borrowed funds 573 342 176
Long-term debt 695 665 17
--------- --------- ---------
Total interest expense 14,167 13,401 10,321
--------- --------- ---------
Net interest income 11,504 9,496 8,460
ALLOWANCE FOR LOAN LOSSES 1,418 1,230 1,002
--------- --------- ---------
Net interest income after allowance for loan losses 10,086 8,266 7,458
--------- --------- ---------
NON-INTEREST INCOME
Securities gains (losses), net 117 359 10
Service charges on deposit accounts 706 545 514
Other service charges, commissions and fees 344 324 186
Other operating income, rents 186 139 132
--------- --------- ---------
Total Non-Interest Income 1,353 1,367 842
--------- --------- ---------
NON-INTEREST EXPENSES
Salaries and employee benefits (Note 13) 4,417 3,785 3,004
Occupancy expense of bank premises 498 441 334
Furniture and equipment expense 1,072 903 703
Other operating expenses (Note 20) 2,200 1,833 1,341
--------- --------- ---------
Total Non-Interest Expenses 8,187 6,962 5,382
--------- --------- ---------
Income Before Income Taxes 3,252 2,671 2,918
Income Tax Expense (Note 6) 1,121 896 966
--------- --------- ---------
Net Income $ 2,131 $ 1,775 $ 1,952
========= ========= =========
Earnings Per Common Share (Note 12) $ 0.85 $ 0.72 $ 0.79
========= ========= =========
Earnings Per Common Share - assuming dilution $ 0.84 $ 0.69 $ 0.76
========= ========= =========
</TABLE>
The Notes to Consolidated Financial Statements are an integral part of these
statements.
<PAGE>
HIGHLANDS BANKSHARES, INC. AND SUBSIDIARIES
Page F4
CONSOLIDATED STATEMENTS OF CHANGES IN
STOCKHOLDERS' EQUITY
Years Ended
December 31, 1999, 1998 and 1997
(In thousands)
<TABLE>
<CAPTION>
Accumulated
Common Stock Additional Other Total
----------------------- Paid-in Retained Comprehensive Stockholders'
Shares Par Value Capital Earnings Income Equity
------ --------- ------- -------- ------ ------
<S> <C> <C> <C> <C> <C> <C>
Balance, December 31, 1996 2,444 $ 3,054 $ 5,187 $ 6,394 $ (18) $ 14,617
--------
Comprehensive income:
Net income - - - 1,952 - 1,952
Change in unrealized gain
(loss) on securities available
for sale, net of deferred
income tax expense of $63 - - - - 122 122
Less: reclassification adjustment - - - - - -
--------
Total comprehensive income - - - - - 2,074
--------
Common stock issued for
stock options exercised, net 20 27 84 - - 111
------- ------- ------- -------- ------- --------
Balance, December 31, 1997 2,464 $ 3,081 $ 5,271 $ 8,346 $ 104 $ 16,802
--------
Comprehensive income:
Net income - - - 1,775 - 1,775
Change in unrealized gain
(loss) on securities available
for sale, net of deferred
income tax benefit of $105 - - - - (180) (180)
Less: reclassification adjustment - - - - (24) (24)
--------
Total comprehensive income - - - - - 1,571
--------
Common stock issued for
stock options exercised, net 28 35 (6) - - 29
Cash dividend - - - (123) - (123)
------- ------- ------- -------- ------- --------
Balance, December 31, 1998 2,492 $ 3,116 $ 5,265 $ 9,998 $ (100) $ 18,279
--------
Comprehensive income:
Net income - - - 2,131 - 2,131
Change in unrealized gain
(loss) on securities available
for sale, net of deferred
income tax benefit of $268 - - - - (508) (508)
Less: reclassification adjustment - - - - (11) (11)
--------
Total comprehensive income - - - - - 1,612
--------
Common stock issued for
stock options exercised, net 132 164 503 - - 667
Cash dividend - - - (150) - (150)
------- ------- ------- -------- ------- --------
Balance, December 31, 1999 2,624 $ 3,280 $ 5,768 $ 11,979 $ (619) $ 20,408
======= ======= ======= ======== ======= ========
</TABLE>
The Notes to Consolidated Financial Statements are an integral part of these
statements.
<PAGE>
HIGHLANDS BANKSHARES, INC. AND SUBSIDIARIES
Page F5
CONSOLIDATED STATEMENTS OF CASH FLOWS
Years Ended December 31, 1999, 1998, and 1997
(In thousands)
<TABLE>
<CAPTION>
1999 1998 1997
------- ------- -------
CASH FLOWS FROM OPERATING ACTIVITIES:
<S> <C> <C> <C>
Net income $ 2,131 $ 1,775 $ 1,952
Adjustments to reconcile net income to net cash
provided by operating activities:
Allowances for loan losses 1,418 1,230 1,002
Provision for deferred income taxes 14 (15) (124)
Depreciation and amortization 663 529 328
Net realized gains on available for sale securities (117) (359) (10)
Net amortization on securities 330 540 190
Increase in interest receivable (280) (380) (224)
(Increase) decrease in other assets 1,087 (1,076) (1,593)
Increase in interest, taxes and other
liabilities 69 204 452
------- ------- -------
Net Cash Provided by Operating Activities 5,315 2,448 1,973
------- ------- -------
CASH FLOWS FROM INVESTING ACTIVITIES:
Securities available for sale:
Proceeds from sale of securities 7,624 18,427 5,589
Proceeds from maturities of debt securities 21,439 27,412 9,536
Purchase of securities (49,238) (55,706) (25,740)
Net increase in loans (29,239) (42,224) (37,492)
Premises and equipment expenditures (1,796) (1,722) (2,800)
------- ------- -------
Net Cash Used in Investing Activities (51,210) (53,813) (50,907)
------- ------- -------
CASH FLOWS FROM FINANCING ACTIVITIES:
Net increase in certificates of deposit 13,787 12,397 35,683
Net increase in demand, savings and other deposits 20,065 23,298 11,492
Increase in federal funds purchased 2,684 503 -
Proceeds from issuance of short-term borrowings 8,000 - -
Repayment of short-term borrowings - - (143)
Proceeds from issuance of long-term debt 4,000 6,125 840
Repayment of long-term debt (164) (1,976) (12)
Proceeds from issuance of junior subordinated
debt securities - 7,500 -
Capital securities issuance cost - (319) (68)
Cash dividends paid (150) (123) -
Proceeds from issuance of common stock 667 29 111
------- ------- -------
Net Cash Provided by Financing Activities 48,889 47,434 47,903
------- ------- -------
Net increase (decrease) in cash and cash equivalents 2,994 (3,931) (1,031)
CASH AND CASH EQUIVALENTS AT BEGINNING OF YEAR 10,994 14,925 15,956
------- ------- -------
CASH AND CASH EQUIVALENTS AT END OF YEAR $ 13,988 $ 10,994 $ 14,925
======= ======= =======
SUPPLEMENTAL DISCLOSURE OF NON-CASH
TRANSACTIONS:
Unrealized gain (loss) in value of securities available for
sale (net of tax effects of $(268), $(105), and $63, at
December 31, 1999, 1998 and 1997, respectively) $ (519) $ (204) $ 122
======= ======= =======
SUPPLEMENTAL DISCLOSURES OF CASH FLOW
INFORMATION:
CASH PAID DURING THE YEAR FOR:
INTEREST $ 13,346 $ 13,280 $ 9,802
======= ======= =======
Income taxes $ 1,150 $ 952 $ 1,011
======= ======= =======
</TABLE>
The Notes to Consolidated Financial Statements are an integral part of these
statements.
<PAGE>
HIGHLANDS BANKSHARES, INC., AND SUBSIDIARIES
Page F6
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 1999
(In thousands)
NOTE 1. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
BASIS OF PRESENTATION AND CONSOLIDATION
---------------------------------------
The accompanying consolidated financial statements include the
accounts of Highlands Bankshares, Inc., (the "Parent Company")
and its wholly-owned subsidiaries, Highlands Union Bank (the
"Bank") and Highlands Capital Trust I (the "Trust"). The
statements also include Highlands Union Insurance Services,
Inc., (the "Insurance Services"), a wholly-owned subsidiary of
the Bank. All significant intercompany balances and
transactions have been eliminated in consolidation.
NATURE OF OPERATIONS
--------------------
Highlands Bankshares, Inc., and Subsidiaries (the "Company")
operates in Abingdon, Virginia and surrounding Southwest
Virginia, under the laws of the Commonwealth of Virginia. The
Company was organized December 29, 1995. Highlands Union Bank,
its wholly-owned subsidiary, began banking operations on April
27, 1985. The Bank operates under a state bank charter and
provides full banking services. As a state bank, the Bank is
subject to regulation by the Federal Reserve Board and the
Virginia State Bureau of Financial Institutions. Highlands
Capital Trust I, a wholly-owned subsidiary became effective on
January 14, 1998. The nature of the trust is described more
fully in Note 7. Highlands Union Insurance Services, Inc., a
wholly-owned subsidiary of the Bank became effective October
8, 1999. The entity will be used to sell insurance through
Virginia Bankers Insurance Services, LLC.
CASH AND CASH EQUIVALENTS
-------------------------
For purposes of the consolidated statements of cash flows,
cash and cash equivalents include cash and balances due from
banks and federal funds sold, all of which mature within
ninety days.
SECURITIES AVAILABLE FOR SALE
-----------------------------
Securities classified as available for sale are those debt
securities that the Company intends to hold for an indefinite
period of time, but not necessarily to maturity. Any decision
to sell a security classified as available for sale would be
based on various factors, including significant movements in
interest rates, changes in the maturity mix of the Company's
assets and liabilities, liquidity needs, regulatory capital
considerations, and other similar factors.
Securities available for sale are carried at fair value.
Unrealized gains or losses are reported as increases or
decreases in stockholders' equity, net of the related deferred
tax effect. Realized gains or losses are recorded on the trade
date and are determined on the basis of the cost of specific
securities sold. Realized gains or losses are included in
earnings. Premiums and discounts are recognized in interest
income using the interest method over the period to maturity.
LOANS
-----
The Company grants mortgage, commercial and consumer loans to
customers. A substantial portion of the loan portfolio is
represented by mortgage loans throughout Southwest Virginia.
The ability of the Company's debtors to honor their contracts
is dependent upon the real estate and general economic
conditions in this area.
(Continued)
<PAGE>
HIGHLANDS BANKSHARES, INC., AND SUBSIDIARIES
Page F7
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 1999
(In thousands)
NOTE 1. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)
Loans that management has the intent and ability to hold for
the foreseeable future or until maturity or pay-off generally
are reported at their outstanding unpaid principal balances
adjusted for charge-offs, the allowance for loan losses, and
any deferred fees or costs on originated loans. Interest
income is accrued on the unpaid balance. Loan origination
fees, net of certain direct origination costs, are deferred
and amortized to income over the estimated lives of the loans
using the straight-line method. The aforementioned method is
not materially different from the interest method.
The accrual of interest on loans is discontinued at the time
the loan is 90 days delinquent unless the credit is
well-secured and in process of collection. Credit card loans
and other personal loans are typically charged off no later
than 180 days past due. In all cases, loans are placed on
nonaccrual or charged-off at an earlier date if collection of
principal or interest is considered doubtful.
All interest accrued but not collected for loans that are
placed on nonaccrual or charged off is reversed against
interest income. The interest on these loans is accounted for
on the cash-basis or cost-recovery method, until qualifying
for return to accrual. Loans are returned to accrual status
when all the principal and interest amounts contractually due
are brought current and future payments are reasonably
assured.
ALLOWANCE FOR LOAN LOSSES
-------------------------
The allowance for loan losses is established as losses are
estimated to have occurred through a provision for loan losses
charged to earnings. Loan losses are charged against the
allowance when management believes the uncollectibility of a
loan balance is confirmed. Subsequent recoveries, if any, are
credited to the allowance.
The allowance for loan losses is evaluated on a regular basis
by management and is based upon management's periodic review
of the collectibility of the loans in light of historical
experience, the nature and volume of the loan portfolio,
adverse situations that may affect the borrower's ability to
repay, estimated value of any underlying collateral and
prevailing economic conditions. This evaluation is inherently
subjective as it requires estimates that are susceptible to
significant revision as more information becomes available.
A loan is considered impaired when, based on current
information and events, it is probable that the Company will
be unable to collect the scheduled payments of principal or
interest when due according to the contractual terms of the
loan agreement. Factors considered by management in
determining impairment include payment status, collateral
value, and the probability of collecting scheduled principal
and interest payments when due. Loans that experience
insignificant payment delays and payment shortfalls generally
are not classified as impaired. Management determines the
significance of payment delays and payment shortfalls on a
case-by-case basis, taking into consideration all of the
circumstances surrounding the loan and the borrower, including
the length of the delay, the reasons for the delay, the
borrower's prior payment record, and the amount of the
shortfall in relation to the principal and interest owed.
Impairment is measured on a loan by loan basis by either the
present value of expected future cash flows discounted at the
loan's effective interest rate, the loan's obtainable market
price, or the fair value of the collateral if the loan is
collateral dependent.
(Continued)
<PAGE>
HIGHLANDS BANKSHARES, INC., AND SUBSIDIARIES
Page F8
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 1999
(In thousands)
NOTE 1. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)
PREMISES AND EQUIPMENT
----------------------
Land is carried at cost. Premises and equipment are stated at
cost less accumulated depreciation. Depreciation is computed
on the straight-line method over estimated useful lives.
Maintenance and repairs are charged to current operations
while improvements are capitalized. Disposition gains and
losses are reflected in current operations.
INTANGIBLE ASSETS
-----------------
Capital issue costs relating to the junior subordinated debt
securities are stated at cost less accumulated amortization.
Amortization is computed on the straight-line method over the
life of the securities - 30 years.
INCOME TAXES
------------
Under the asset and liability method, deferred income taxes
are recognized for the tax consequences of "temporary
differences" by applying enacted statutory tax rates to the
differences between the financial statement carrying amounts
and the tax bases of existing assets and liabilities. Under
SFAS No. 109, the effect on deferred taxes of a change in tax
rates is recognized in income in the period that includes the
enactment date.
EARNINGS PER COMMON SHARE
-------------------------
Earnings per common share are calculated based on the weighted
average outstanding shares during the year. Earnings per
common share assuming dilution are calculated based on the
weighted average outstanding shares during the year plus
common stock equivalents at year end.
USE OF ESTIMATES
----------------
In preparing consolidated financial statements in conformity
with generally accepted accounting principles, management is
required to make estimates and assumptions that affect the
reported amounts of assets and liabilities as of the date of
the balance sheet and reported amounts of revenue and expenses
during the reporting period. Actual results could differ from
those estimates. Material estimates that are particularly
susceptible to significant change in the near term relate to
the determination of the allowance for loan losses, and the
valuation of foreclosed real estate, deferred tax assets and
trading activities.
BUSINESS SEGMENTS
-----------------
The Company reports its activities as a single business
segment. In determining the appropriateness of segment
definition, the Company considers components of the business
about which financial information is available and regularly
evaluated relative to resource allocation and performance
assessment.
RECLASSIFICATION OF FINANCIAL STATEMENT PRESENTATION
----------------------------------------------------
Certain reclassifications have been made to the 1998 and 1997
financial statements to conform with the 1999 financial
statement presentation. Such reclassifications had no effect
on net income as previously reported.
<PAGE>
HIGHLANDS BANKSHARES, INC., AND SUBSIDIARIES
Page F9
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 1999
(In thousands)
NOTE 2. INVESTMENT SECURITIES
Debt and equity securities have been classified in the
consolidated statements of financial condition according to
management's intent. The amortized cost and market value of
securities classified as available for sale are as follows:
<TABLE>
<CAPTION>
1999
-----------------------------------------------------------
Gross Gross
Amortized Unrealized Unrealized Fair
Cost Gains Losses Value
------------ ------------ ----------- ----------
<S> <C> <C> <C> <C>
U.S. Government agencies and
corporations $ 4,334 $ - $ 128 $ 4,206
State and political subdivisions 2,473 - 215 2,258
Collateralized Mortgage Obligations 11,240 60 130 11,170
Mortgage Backed securities 51,594 62 557 51,099
Other securities 2,095 - 30 2,065
-------- --------- -------- - --------
$ 71,736 $ 122 $ 1,060 $ 70,798
======== ========= ======== ========
<CAPTION>
1998
-----------------------------------------------------------
Gross Gross
Amortized Unrealized Unrealized Fair
Cost Gains Losses Value
------------ ------------ ----------- ----------
<S> <C> <C> <C> <C>
U.S. Government agencies and
corporations $ 3,250 $ 14 $ - $ 3,264
State and political subdivisions 754 5 - 759
Collateralized Mortgage Obligations 7,886 22 35 7,873
Mortgage Backed securities 38,288 40 197 38,131
Other securities 1,328 - - 1,328
-------- --------- ---------- --------
$ 51,506 $ 81 $ 232 $ 51,355
======== ========= ========== ========
<CAPTION>
1997
-----------------------------------------------------------
Gross Gross
Amortized Unrealized Unrealized Fair
Cost Gains Losses Value
------------ ------------ ----------- ----------
<S> <C> <C> <C> <C>
U.S. Treasury securities $ 1,493 $ 10 $ - $ 1,503
U.S. Government agencies and
corporations 1,500 - 14 1,486
State and political subdivisions 939 33 - 972
Collateralized Mortgage Obligations 3,987 - 12 3,975
Mortgage Backed securities 32,788 141 - 32,929
Other securities 1,098 - - 1,098
---------- ------------- -------------- ----------
$ 41,805 $ 184 $ 26 $ 41,963
======== ========== ============ ========
</TABLE>
(Continued)
<PAGE>
HIGHLANDS BANKSHARES, INC., AND SUBSIDIARIES
Page F10
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 1999
(In thousands)
NOTE 2. INVESTMENT SECURITIES (CONTINUED)
Investment securities available for sale with a carrying value
of $17,141, $4,787, and $3,571 at December 31, 1999, 1998 and
1997 respectively, and a market value of $16,955, $4,783, and
$3,595 at December 31, 1999, 1998 and 1997 were pledged as
collateral on public deposits and for other purposes as
required or permitted by law.
Federal Home Loan Bank (FHLB) and Federal Reserve Bank (FRB)
stock with a carrying value of $1,541, $1,246 and $1,029 at
December 31, 1999, 1998 and 1997, respectively are included in
the caption "Other Securities". These investments are
considered to be restricted as the Company is required by FHLB
and FRB to hold these investments, and the only market for
this stock is the issuing agency.
The amortized cost and estimated fair value of securities
available for sale at December 31, 1999 by contractual
maturity are shown below. 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.
<TABLE>
<CAPTION>
Approximate
Amortized Market
Cost Value
---------- ----------
<S> <C> <C>
Due in one year or less $ - $ -
Due after one year through five years 2,000 1,955
Due after five years through ten years 2,555 2,454
Due after ten years 2,252 2,055
----------- -----------
6,807 6,464
Mortgage-backed securities 62,834 62,269
Other securities 2,095 2,065
------------ -----------
$ 71,736 $ 70,798
========== =========
For the years ended December 31, 1999, 1998 and 1997, proceeds
from sale of securities amounted to $7,624, $18,427 and
$5,589, respectively. Gross realized gains and losses on
investment securities available for sale are as follows:
<CAPTION>
1999 1998 1997
---- ---- ----
<S> <C> <C> <C>
Realized gains $ 117 $ 369 $ 34
Realized losses $ ( - ) $ ( 10) $ ( 24)
</TABLE>
The tax benefit (provision) applicable to these net realized
gains and losses amounted to $40, $122, and $3, respectively.
<PAGE>
HIGHLANDS BANKSHARES, INC., AND SUBSIDIARIES
Page F11
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 1999
(In thousands)
NOTE 3. LOANS
The composition of the net loans is as follows:
<TABLE>
<CAPTION>
1999 1998 1997
--------- --------- --------
<S> <C> <C> <C>
Commercial $ 27,072 $ 24,240 $ 24,404
Real estate 163,459 136,339 104,899
Installment 68,097 70,137 59,798
Other 3,215 2,821 3,139
--------- --------- ---------
261,843 233,537 192,240
--------- --------- ---------
Deduct:
Unearned discount 7 31 127
Allowance for loan losses 2,494 2,008 1,636
Net deferred loan fees 158 135 108
--------- --------- ---------
2,659 2,174 1,871
--------- --------- ---------
$ 259,184 $231,363 $190,369
========= ========= =========
The following is a summary of information pertaining to impaired loans:
December 31,
-------------------------------------------
1999 1998 1997
--------- --------- --------
<S> <C> <C> <C>
Impaired loans without a
valuation allowance $ 1,152 $ 1,396 $ 888
Impaired loans with a valuation
Allowance - - -
--------- --------- ---------
Total impaired loans $ 1,152 $ 1,396 $ 888
========= - ========= =========
Valuation allowance related to
impaired loans $ 155 $ 190 $ 45
========= ========= =========
<CAPTION>
Years ended December 31,
--------------------------------------------
1999 1998 1997
--------- --------- ---------
<S> <C> <C> <C>
Average investment in
impaired loans $ 1,111 $ 1,011 $ 310
========= ========= =========
Interest income recognized
on impaired loans $ - $ - $ -
========= ========= =========
</TABLE>
No additional funds are committed to be advanced in connection
with impaired loans.
Loans have been pledged as part of the floating blanket lien
to secure Federal Home Loan Bank advances. (Note 15)
<PAGE>
HIGHLANDS BANKSHARES, INC., AND SUBSIDIARIES
Page F12
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 1999
(In thousands)
NOTE 4. ALLOWANCE FOR LOAN LOSSES
Activity in the allowance for loan losses is as follows:
<TABLE>
<CAPTION>
1999 1998 1997
---- ---- ----
<S> <C> <C> <C>
Balance, beginning $ 2,008 $ 1,636 $ 1,072
Provisions charged to
operations 1,418 1,230 1,002
Loans charged to reserve (1,094) (1,057) (512)
Recoveries 162 199 74
-------- -------- --------
Balance, ending $ 2,494 $ 2,008 $ 1,636
======== ======== ========
NOTE 5. PREMISES AND EQUIPMENT
Premises and equipment, stated at cost, are comprised of the
following:
<CAPTION>
1999 1998 1997
---- ---- ----
<S> <C> <C> <C>
Land $ 2,391 $ 1,870 $ 1,847
Bank premises 5,884 5,374 4,445
Equipment 3,719 2,954 2,184
-------- -------- --------
11,994 10,198 8,476
Less accumulated
depreciation 2,569 1,928 1,414
-------- -------- --------
$ 9,425 $ 8,270 $ 7,062
======== ======== =======
</TABLE>
Depreciation expense is $641, $514, and $321 for 1999, 1998
and 1997, respectively.
<PAGE>
HIGHLANDS BANKSHARES, INC., AND SUBSIDIARIES
Page F13
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 1999
(In thousands)
NOTE 6. INCOME TAXES
The components of the net deferred tax asset, included in
other assets, are as follows:
<TABLE>
<CAPTION>
1999 1998 1997
--------- --------- --------
<S> <C> <C> <C>
Deferred tax assets:
Allowance for loan loss $ 626 $ 532 $ 471
Deferred compensation 4 73 84
Net unrealized loss on securities available
for sale 319 51 -
--------- --------- ---------
949 656 555
--------- --------- ---------
Deferred tax liability:
Depreciation ( 235) ( 195) ( 160)
Net unrealized gain on securities available
for sale ( -) ( -) ( 54)
-------- -------- --------
( 235) ( 195) ( 214)
-------- -------- --------
Net deferred tax asset $ 714 $ 461 $ 341
========= ========= =========
The components of income tax expense (benefit) related to
continuing operations are as follows:
<CAPTION>
1999 1998 1997
--------- --------- --------
<S> <C> <C> <C>
Federal:
Current $ 1,107 $ 911 $ 1,090
Deferred 14 ( 15) ( 124)
--------- -------- --------
Total $ 1,121 $ 896 $ 966
========= ========= =========
The Bank's income tax expense differs from the statutory
federal rate of 34% as follows:
<CAPTION>
1999 1998 1997
--------- --------- --------
<S> <C> <C> <C>
Statutory rate applied to
earnings before income taxes $ 1,106 $ 908 $ 992
Tax exempt interest ( 22) ( 53) ( 10)
Other, net 37 41 ( 16)
--------- --------- --------
$ 1,121 $ 896 $ 966
========= ========= =========
NOTE 7. DEPOSITS
The composition of deposits is as follows:
<CAPTION>
1999 1998 1997
--------- --------- --------
<S> <C> <C> <C>
Noninterest bearing demand $ 39,504 $ 36,187 $ 30,930
Interest bearing demand 26,074 21,936 15,065
Savings deposits 44,751 35,640 26,808
Time deposits, in amounts of
$100,000 or more 47,922 41,302 37,890
Other time deposits 147,942 137,276 125,953
---------- ---------- ----------
$ 306,193 $ 272,341 $ 236,646
========== ========== ==========
</TABLE>
<PAGE>
HIGHLANDS BANKSHARES, INC., AND SUBSIDIARIES
Page F14
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 1999
(In thousands)
NOTE 7. DEPOSITS (CONTINUED)
The remaining maturities of time deposits at December 31, 1999
are as follows:
2000 $ 124,601
2001 43,920
2002 9,700
2003 8,631
2004 6,156
Thereafter 2,856
-----------
$ 195,864
===========
NOTE 8. OTHER SHORT-TERM BORROWINGS
Borrowed funds consist of Federal Home Loan Bank advances
which are secured by a floating blanket lien on a specific
class of mortgage loans of the Bank.
NOTE 9. LONG-TERM DEBT
At December 31, Highlands Bankshares Inc. and Subsidiaries had
the following long-term debt agreements:
<TABLE>
<CAPTION>
1999 1998 1997
---- ---- ----
<S> <C> <C> <C>
Note payable Federal Home Loan Bank dated June 6, 1996 for
$1,000 with an annual interest rate of 6.07%, due June 8,
1998. The note requires annual interest payments. The loan is
secured by a floating blanket lien on a specific class of
mortgage loans of the Bank. $ - $ - $ 1,000
Note payable Federal Home Loan Bank dated June 6, 1996 for
$1,000 with an annual interest rate of 7.02%, due June 6,
2003. The note requires semi-annual installments of $71 plus
interest. The loan is secured by a floating blanket lien on a
specific class of mortgage loans of the Bank. 500 643 786
</TABLE>
<PAGE>
HIGHLANDS BANKSHARES, INC., AND SUBSIDIARIES
Page F15
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 1999
(In thousands)
NOTE 9. LONG-TERM DEBT (CONTINUED)
<TABLE>
<CAPTION>
1999 1998 1997
---- ---- ----
<S> <C> <C> <C>
Note payable Federal Home Loan Bank dated March 26, 1998 for
$6,000 with an annual interest rate of 5.51%, due March 26,
2008. The note requires quarterly interest payments and has an
early conversion option at March 26, 2003. The loan is secured
by a floating blanket lien on a specific class of mortgage
loans of the Bank. 6,000 6,000 -
Note payable Federal Home Loan Bank dated August 13, 1999, for
$4,000 with an annual interest rate of 6.385%, due August 31,
2009. The note requires quarterly interest payments and has an
early conversion option at August 13, 2004. The loan is
secured by a floating blanket lien on a specific class of
mortgage loans of the Bank. 4,000 - -
Note payable resulting from a seller-financing transaction
dated September 10, 1998 for $125 with an annual interest rate
of 8.50%, due September 10, 2003. The note requires monthly
installments of principal and interest of $3. The loan is
secured by a first deed of trust on real estate. 99 120 -
Note payable to Company's Subsidiary (amount participated with
other financial institutions only) dated March 4, 1997 for
$900 with an annual interest rate of 8.25%, due March 4, 2002.
The note requires monthly installments of $8 with a balloon
payment at maturity. The loan is secured by a first deed of
trust on a commercial building. - - 828
------------- -------------- --------------
Total long-term debt $ 10,599 $ 6,763 $ 2,614
============= ============== ==============
</TABLE>
Principal maturities of long-term debt at December 31, 1999
are as follows:
2000 166
2001 168
2002 171
2003 94
2004 -
Thereafter 10,000
----------
$ 10,599
==========
<PAGE>
HIGHLANDS BANKSHARES, INC., AND SUBSIDIARIES
Page F16
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 1999
(In Thousands)
NOTE 10. CAPITAL SECURITIES
On January 21, 1998, Highlands Capital Trust I, a statutory
business trust (the "Trust") created by the Parent Company,
issued $7,500 of 9.25% Capital Securities which will mature on
January 15, 2028. The principal asset of the Trust is $7,500
of the Parent Company's junior subordinated debt securities
with like maturities and like interest rates to the Capital
Securities. Additionally, the Trust has issued 9,000 shares of
common securities to the Parent Company. The 9.25% Capital
Securities had $7,500 outstanding at December 31, 1999 and an
estimated fair value of $7,511. The related junior
subordinated debt securities had an estimated fair value of
$7,511.
The Capital Securities, the assets of the Trust and the common
securities issued by the Trust are redeemable in whole or in
part on or after January 15, 2008, or at any time in whole but
not in part from the date of issuance on the occurrence of
certain events.
The Capital Securities may be included in Tier I capital up to
25% of capital before inclusion for regulatory capital
adequacy determination purposes. The remaining 75% of the
Capital Securities may be included in Tier II capital.
Distributions to the holders of the Capital Securities are
included in interest expense.
The obligations of the Parent Company with respect to the
issuance of the Capital Securities constitute a full and
unconditional guarantee by the Parent Company of the Trust's
obligations with respect to the Capital Securities.
Subject to certain exceptions and limitations, the Parent
Company may elect from time to time to defer junior
subordinated debt securities interest payments, which would
result in a deferral of distribution payments on the related
Capital Securities.
Capital issue costs totaling $378 and related accumulated
amortization of $21 as of December 31, 1999, are included in
other assets. Amortization of these costs and interest expense
related to the Trust are $10 and $685, respectively for 1999.
NOTE 11. OPERATING LEASES
The following is a schedule by years of future minimum rental
payments required under operating leases that have initial or
remaining noncancelable terms in excess of one year as
follows:
Year ending December 31:
2000 $ 318
2001 207
2002 207
2003 207
----------
Total minimum payments required $ 939
=========
Total operating lease expense was $297, $342, and $330 for
December 31, 1999, 1998 and 1997 respectively.
(Continued)
<PAGE>
HIGHLANDS BANKSHARES, INC., AND SUBSIDIARIES
Page F17
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 1999
(In thousands)
NOTE 11. OPERATING LEASES (CONTINUED)
The Company owns several buildings for use by its'
subsidiaries, and leases the remaining space. The following is
a schedule by years of future minimum rental payments due to
be received under operating leases that have initial or
remaining noncancelable terms in excess of one year as
follows:
Year Ending December 31:
2000 $ 61
2001 28
2002 8
---------
Total minimum payments required $ 97
=========
Total operating lease income was $122, $90 and $90 for
December 31, 1999, 1998 and 1997, respectively.
NOTE 12. COMMON STOCK, STOCK SPLIT, AND EARNINGS PER COMMON SHARE
On April 22, 1999, the Board authorized a 2 for 1 stock split
to be distributed to all shareholders of record as of April 1,
1999. As a result, authorized shares increased from 10,000,000
to 20,000,000 and par value decreased from $2.50 to $1.25 per
share. All references in the financial statements to number of
shares, per share amounts and market prices of the Company's
common stock have been retroactively restated to reflect the
increased number of common shares outstanding.
Earnings per common share is computed using the weighted
average outstanding shares as of December 31. The stock
options (Note 14) have a dilutive effect on earnings per
share.
The following is a reconciliation of the numerators and the
denominators of the basic and diluted earnings per common
share computation:
<TABLE>
<CAPTION>
1999
--------------------------------------------
Income Shares Per-Share
(Numerator) (Denominator) Amount
----------- ------------- ------
<S> <C> <C> <C>
Net income $ 2,131
=========
Basic Earnings per Common Share
Income available to common
stockholders 2,131 2,521 $ .85
=========
Effect of Dilutive Stock options
outstanding - 21
--------- ---------
Diluted Earnings per Common Share
Income available to common
stockholders + assumed conversions $ 2,131 2,542 $ .84
========= ======= =========
</TABLE>
(Continued)
<PAGE>
HIGHLANDS BANKSHARES, INC., AND SUBSIDIARIES
Page F18
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 1999
(In thousands)
NOTE 12. COMMON STOCK, STOCK SPLIT, AND EARNINGS PER COMMON SHARE
(CONTINUED)
<TABLE>
<CAPTION>
1998
--------------------------------------------
Income Shares Per-Share
(Numerator) (Denominator) Amount
----------- ------------- ------
<S> <C> <C> <C>
Net income $ 1,775
==========
Basic Earnings per Common Share
Income available to common
stockholders 1,775 2,472 $ .72
===========
Effect of Dilutive Stock options
outstanding - 92
---------- ---------
Diluted Earnings per Common Share
Income available to common
stockholders + assumed conversions $ 1,775 2,564 $ .69
========== ======= ===========
<CAPTION>
1997
--------------------------------------------
Income Shares Per-Share
(Numerator) (Denominator) Amount
----------- ------------- ------
<S> <C> <C> <C>
Net income $ 1,952
==========
Basic Earnings per Common Share
Income available to common
stockholders 1,952 2,456 $ .79
===========
Effect of Dilutive Stock options
outstanding - 102
---------- --------
Diluted Earnings per Common Share
Income available to common
stockholders + assumed conversions $ 1,952 2,558 $ .76
========== ======== ===========
</TABLE>
NOTE 13. PROFIT SHARING AND RETIREMENT SAVINGS PLAN
From January 1, 1986 to June 30, 1997, the Bank provided a
profit sharing plan covering substantially all employees with
over one year of service. The plan provided for contributions
in such amounts as the Board of Directors determined annually,
but not in excess of the amount permitted under the Internal
Revenue Code as a deductible expense. The Bank accrued to the
plan $120 for the year ended December 31, 1996, which
represents approximately 6% of qualifying salaries and wages
of the Bank.
On July 1, 1997, the Bank converted its existing profit
sharing plan to a 401(K) saving plan. The plan is available to
substantially all employees meeting minimum eligibility
requirements. The Bank makes a 2% contribution to all
employees exclusive of employee contributions and employer
matching. Employees may elect to make voluntary contributions
to the plan up to 15% of their base pay. The Bank matches 50%
of the employee's initial 6% contribution; therefore, the
maximum employer contribution per employee could be 3% of base
pay. The cost of Bank contributions under the savings plan was
$137 and $115, in 1999 and 1998 respectively.
<PAGE>
HIGHLANDS BANKSHARES, INC., AND SUBSIDIARIES
Page F19
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 1999
(In thousands)
NOTE 14. STOCK OPTION PLAN
In 1996, Highlands Bankshares, Inc., adopted a non-qualified
stock incentive option plan, which is identical to and
replaced the plan adopted by Highlands Union Bank in 1986, for
key employees, officers, and directors and reserved 150,000
shares of common stock for issuance thereunder. The exercise
price of each option equals the market price of the Company's
stock on the date of grant and an option's maximum term is ten
years.
Shares under options which are canceled are available for
subsequent grant. Option prices are determined by the Board of
Directors, but shall not be less than the greater of the par
value of such stock or 100% of the book value of such stock as
shown by the Company's last published statement prior to
granting of the option. Proceeds received upon exercise of
options are credited to common stock, to the extent of par
value of the related shares, and the balance is credited to
surplus.
A summary of the status of the Company's stock option plan is
presented below:
<TABLE>
<CAPTION>
1999 1998 1997
------------------- --------------------- --------------------
Weighted Weighted Weighted
Average Average Average
Exercise Number of Exercise Number of Exercise Number of
Price Shares Price Shares Price Shares
-------- --------- --------- ------ --------- ------
<S> <C> <C> <C> <C> <C> <C>
Options outstanding January 1 $ 7.64 174,685 $ 4.60 155,586 $ 3.51 152,748
Granted 19.00 26,650 15.15 47,500 11.50 23,300
Exercised 6.66 (132,213) 2.40 (28,401) 3.69 (20,462)
-------- ------- -------
Options outstanding December 31 $ 14.76 69,122 $ 7.64 174,685 $ 4.60 155,586
========= ======= =======
Options exercisable at year-end $ 14.76 69,122 $ 7.64 174,685 $ 4.60 155,586
Weighted-average fair
value of options granted
during the year $ 19.00 $ 15.15 $ 11.50
Information pertaining to options outstanding at December 31,
1999 is as follows:
<CAPTION>
Options Outstanding Options Exercisable
--------------------------------------------- -----------------------
Weighted
Average Weighted Weighted
Remaining Average Average
Range of Number Contractual Exercise Number Exercise
Exercise Prices Outstanding Life Price Exercisable Price
-------- ------ ----------- ------------- ---------- ----------- -----
<S> <C> <C> <C> <C> <C> <C>
$3.08 - $4.17 3,301 4.97 years $ 4.14 3,301 $ 4.14
7.50 - 11.50 15,026 7.75 10.52 15,026 10.52
14.25 - 19.00 50,795 9.81 16.71 50,795 16.71
------- -------
Outstanding at
end of year 69,122 9.13 years $14.76 69,122 $14.76
======= =======
</TABLE>
<PAGE>
HIGHLANDS BANKSHARES, INC., AND SUBSIDIARIES
Page F20
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 1999
(In thousands)
NOTE 15. COMMITMENTS AND CONTINGENCIES
The Bank is party to various financial instruments with
off-balance sheet risk arising in the normal course of
business to meet the financing needs of their customers. Those
financial instruments include commitments to extend credit and
standby letters of credit. These commitments include standby
letters of credit of approximately $1,088, $859, and $2,408,
unfunded commitments under lines of credit of $19,067, $16,655
and $12,297 and commitments to grant loans of $695, $1,325,
and $458 for the years ended December 31, 1999, 1998 and 1997,
respectively. These instruments contain various elements of
credit and interest rate risk in excess of the amount
recognized in the statements of financial condition.
The Bank's exposure to credit loss, in the event of
non-performance by the other party to the financial instrument
for commitments to extend credit and standby letters of
credit, is the contractual amount of those instruments. The
Bank uses the same credit policies in making commitments and
conditional obligations that they do for on-balance sheet
instruments.
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. The commitments for equity lines of credit
may expire without being drawn upon. Therefore, the total
commitment amounts do not necessarily represent future cash
requirements. The amount of collateral obtained, if it is
deemed necessary by the Company, is based on management's
credit evaluation of the customer.
Unfunded commitments under lines of credit, revolving credit
lines and overdraft protection agreements are commitments for
possible future extensions of credit to existing customers.
These lines of credit are uncollateralized and usually do not
contain a specified maturity date and may not be drawn upon to
the total extent to which the Company is committed.
Standby letters of credit are conditional commitments issued
by the Company to guarantee the performance of a customer to a
third party. Those letters of credit are primarily issued to
support public and private borrowing arrangements. Essentially
all letters of credit issued have expiration dates within one
year. The credit risk involved in issuing letters of credit is
essentially the same as that involved in extending loan
facilities to customers. The Company generally holds
collateral supporting those commitments if deemed necessary.
The Bank has made arrangements with and has available from
other corresponding banks, approximately $76,179 of unused
lines of credit to fund any necessary cash requirements. The
Bank has $18,500 of Federal Home Loan Bank advances
outstanding as of December 31, 1999. A specific class of
mortgage loans with a balance of $91,999 at December 31, 1999
were pledged to the FHLB as collateral.
NOTE 16. FAIR VALUES OF FINANCIAL INSTRUMENTS
The fair value of a financial instrument is the current amount
that would be exchanged between willing parties, other than in
a forced liquidation. Fair value is best determined based upon
quoted market prices. However, in many instances, there are no
quoted market prices for the Company's various financial
instruments. In cases where quoted market prices are not
available, fair values are based on estimates using present
value or other valuation techniques. Those techniques are
significantly affected by the assumptions used, including the
discount rate and estimates of future cash flows. Accordingly,
the fair value estimates may not be realized in an immediate
settlement
(Continued)
<PAGE>
HIGHLANDS BANKSHARES, INC., AND SUBSIDIARIES
Page F21
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 1999
(In thousands)
NOTE 16. FAIR VALUES OF FINANCIAL INSTRUMENTS (CONTINUED)
of the instrument. SFAS 107 excludes certain financial
instruments and all nonfinancial instruments from its
disclosure requirements. Accordingly, the aggregate fair value
amounts presented may not necessarily represent the underlying
fair value of the Company.
The following methods and assumptions were used by the Company
in estimating fair value disclosures for financial
instruments:
CASH AND CASH EQUIVALENTS
-------------------------
The carrying amount reported in the balance sheets for cash
and short-term investments approximates fair value.
SECURITIES AVAILABLE FOR SALE
-----------------------------
Fair values for securities, excluding Federal Home Loan Bank
stock, are based on quoted market prices. The carrying value
of Federal Home Loan Bank stock approximates fair value based
on the redemption provisions of the Federal Home Loan Bank.
LOANS
-----
The fair values of loans represent the amount at which the
loans of the Bank could be exchanged on the open market, as
determined based on the current lending rate for similar types
of lending arrangements discounted over the remaining life of
the loans.
DEPOSITS
--------
The fair values of deposits represent the amount at which the
liabilities of the Bank could be exchanged on the open market,
as determined based on the incremental borrowing rate of the
Bank for similar types of borrowing arrangements.
FEDERAL FUNDS PURCHASED AND OTHER SHORT-TERM BORROWINGS
-------------------------------------------------------
The carrying amounts of federal funds purchased, borrowings
under repurchase agreements, and other short-term borrowings
maturing within ninety days approximate their fair values.
Fair values of other short-term borrowings are estimated using
discounted cash flow analyses based on the Company's current
incremental borrowing rates for similar types of borrowing
arrangements.
LONG-TERM DEBT AND CAPITAL SECURITIES
-------------------------------------
Rates currently available to the Company for debt with similar
terms and remaining maturities are used to estimate fair value
of existing debt.
(Continued)
<PAGE>
HIGHLANDS BANKSHARES, INC., AND SUBSIDIARIES
Page F22
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 1999
(In thousands)
NOTE 16. FAIR VALUES OF FINANCIAL INSTRUMENTS (CONTINUED)
OFF-BALANCE-SHEET INSTRUMENTS
-----------------------------
The amount of off-balance sheet commitments to extend credit,
standby letters of credit, and financial guarantees, is
considered equal to fair value. Because of the uncertainty
involved in attempting to assess the likelihood and timing of
commitments being drawn upon, coupled with the lack of an
established market and the wide diversity of fee structures,
the Company does not believe it is meaningful to provide an
estimate of fair value that differs from the given value of
the commitment.
The carrying amounts and fair values of the Company's
financial instruments at December 31 were as follows:
<TABLE>
<CAPTION>
1999 1998 1997
-------------------- ------------------ -------------------
Carrying Fair Carrying Fair Carrying Fair
Amount Value Amount Value Amount Value
------ ----- ------ ----- ------ -----
<S> <C> <C> <C> <C> <C> <C>
Cash and cash equivalents $ 13,988 $ 13,988 $ 10,994 $ 10,994 $ 14,925 $ 14,925
Securities available for sale 70,798 70,798 51,355 51,355 41,963 41,963
Loans, net 259,184 257,737 231,363 234,290 190,369 195,020
Deposits (306,193) (306,019) (272,341) (273,551) (236,646) (237,429)
Federal funds purchased (3,187) (3,187) (503) (503) - -
Other Short-term borrowings (8,000) (8,144) - - - -
Long-term debt (10,599) (9,947) (6,763) (6,767) (2,614) (2,448)
Capital securities (7,500) (7,511) (7,500) (7,923) - -
</TABLE>
NOTE 17. RELATED PARTY TRANSACTIONS
In the normal course of business, the Bank has made loans to
its' directors and officers and their affiliates. All loans
and commitments made to such officers and directors and to
companies in which they are officers or have significant
ownership interest have been made on substantially the same
terms, including interest rates and collateral, as those
prevailing at the time for comparable transactions with
unrelated persons, and did not, in the opinion of management,
involve more than normal credit risk or present other
unfavorable features. The activity of such loans are
approximately as follows:
1999 1998 1997
------- ------- ------
Balance, beginning $ 6,657 $ 5,766 $ 5,541
Loan additions 4,698 3,652 3,889
Amounts collected ( 3,588) ( 2,761) ( 3,664)
------- ------- -------
Balance, ending $ 7,767 $ 6,657 $ 5,766
======= ======= =======
Unused Commitments $ 315 $ 410 $ 216
======== ======== ========
<PAGE>
HIGHLANDS BANKSHARES, INC., AND SUBSIDIARIES
Page F23
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 1999
(In thousands)
NOTE 18. RESTRICTIONS ON CASH
The Bank is required to maintain reserve balances in cash with
the Federal Reserve Bank. The total of those reserve balances
at December 31, 1999, 1998 and 1997 were $2,109, $1,239 and
$1,034, respectively.
NOTE 19. UNDIVIDED PROFITS AND CAPITAL
Banking laws and regulations limit the amount of dividends
that may be paid without prior approval of the Bank's
regulatory agency. Under that limitation, the Company could
have declared dividends of $4,256, $2,939 and $3,534 in 1999,
1998 and 1997 respectively. The Company paid dividends of $150
and $123 or $.12/share and $.10/share in 1999 and 1998,
respectively. The Company declined to pay cash dividends for
1997, in order to maintain the capital necessary to support
the present rate of growth.
The Company and the Bank are subject to various regulatory
capital requirements administered by its primary regulator,
the Federal Reserve Board. Failure to meet the minimum
regulatory capital requirements can initiate certain mandatory
and possible additional discretionary actions by regulators,
that if undertaken, could have a direct material effect on the
Company and Bank and the consolidated financial statements.
Under the regulatory capital adequacy guidelines and the
regulatory framework for prompt corrective action, the Company
and the Bank must meet specific capital guidelines involving
quantitative measures of their assets, liabilities, and
certain off-balance-sheet items as calculated under regulatory
accounting practices. The capital amounts and classification
under the prompt corrective action guidelines are also subject
to qualitative judgments by the regulators about components,
risk weightings, and other factors. Prompt corrective action
provisions are not applicable to bank holding companies.
Quantitative measures established by regulation to ensure
capital adequacy require the Company and the Bank to maintain
minimum amounts and ratios of total risk-based capital and
Tier I capital to risk-weighted assets (as defined in the
regulations), and Tier I capital to adjusted total assets (as
defined). Management believes, as of December 31, 1999, 1998,
and 1997, that the Company and the Bank met all the capital
adequacy requirements to which they are subject.
The Company received notification from the Federal Reserve
Bank dated December 17, 1999 that as of September 30, 1999 the
Bank was categorized as well capitalized under the regulatory
framework for prompt corrective action. To remain categorized
as well capitalized, the Bank will have to maintain minimum
total risk-based, Tier I risk-based, and Tier I leverage
ratios as disclosed in the table below. There are no
conditions or events since the most recent notification that
management believes have changed the Bank's category.
(Continued)
<PAGE>
HIGHLANDS BANKSHARES, INC., AND SUBSIDIARIES
Page F24
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 1999
(In thousands)
NOTE 19. UNDIVIDED PROFITS AND CAPITAL (CONTINUED)
The Parent company's actual and required capital amounts and
ratios are as follows:
<TABLE>
<CAPTION>
To be Well Capitalized
under the Prompt
For Capital Corrective Action
Actual Adequacy Purposes Provisions
Amount Ratio Amount Ratio Amount Ratio
------ ----- ------ ----- ------ -----
<S> <C> <C> <C> <C> <C> <C>
As of December 31, 1999:
Total Risk-Based Capital
(to Risk-Weighted Assets) $31,015 2.88% $19,265 =>8.0% $24,081 =>10.0%
Tier I Capital
(to Risk-Weighted Assets) 28,036 11.64% 9,632 =>4.0% 14,449 =>6.0%
Tier I Capital
(to Adjusted Total Assets) 28,036 7.88% 14,236 =>4.0% 17,795 =>5.0%
As of December 31, 1998:
Total Risk-Based Capital
(to Risk-Weighted Assets) $27,887 12.79% $17,447 =>8.0% $21,808 =>10.0%
Tier I Capital
(to Risk-Weighted Assets) 24,505 11.24% 8,723 =>4.0% 13,085 =>6.0%
Tier I Capital
(to Adjusted Total Assets) 24,505 8.09% 12,112 =>4.0% 15,140 =>5.0%
As of December 31, 1997:
Total Risk-Based Capital
(to Risk-Weighted Assets) $18,334 9.91% $14,800 =>8.0% $18,500 =>10.0%
Tier I Capital
(to Risk-Weighted Assets) 16,698 9.03% 7,400 =>4.0% 11,100 =>6.0%
Tier I Capital
(to Adjusted Total Assets) 16,698 6.68% 9,994 =>4.0% 12,492 =>5.0%
</TABLE>
(Continued)
<PAGE>
HIGHLANDS BANKSHARES, INC., AND SUBSIDIARIES
Page F25
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 1999
(In thousands)
NOTE 19. UNDIVIDED PROFITS AND CAPITAL (CONTINUED)
The Bank's actual and required capital amounts and ratios are
as follows:
<TABLE>
<CAPTION>
To be Well Capitalized
under the Prompt
For Capital Corrective Action
Actual Adequacy Purposes Provisions
Amount Ratio Amount Ratio Amount Ratio
------ ----- ------ ----- ------ -----
<S> <C> <C> <C> <C> <C> <C>
As of December 31, 1999:
Total Risk-Based Capital
(to Risk-Weighted Assets) $24,898 10.49% $18,995 =>8.0% $24,744 =>10.0%
Tier I Capital
(to Risk-Weighted Assets) 22,410 9.44% 9,498 =>4.0% 14,247 => 6.0%
Tier I Capital
(to Adjusted Total Assets) 22,410 6.40% 14,010 =>4.0% 17,512 => 5.0%
As of December 31, 1998:
Total Risk-Based Capital
(to Risk-Weighted Assets) $21,241 10.15% $17,232 =>8.0% $21,054 =>10.0%
Tier I Capital
(to Risk-Weighted Assets) 19,865 9.22% 8,616 =>4.0% 12,924 => 6.0%
Tier I Capital
(to Adjusted Total Assets) 19,865 6.69% 11,875 =>4.0% 14,844 => 5.0%
As of December 31, 1997:
Total Risk-Based Capital
(to Risk-Weighted Assets) $17,874 9.74% $14,686 =>8.0% $18,358 =>10.0%
Tier I Capital
(to Risk-Weighted Assets) 16,238 8.85% 7,343 =>4.0% 11,015 => 6.0%
Tier I Capital
(to Adjusted Total Assets) 16,238 6.53% 9,942 =>4.0% 12,427 => 5.0%
NOTE 20. OTHER OPERATING EXPENSES
Other operating expenses consist of the following:
<CAPTION>
1999 1998 1997
------- ------- -------
<S> <C> <C> <C>
Professional services $ 220 $ 228 $ 230
FDIC insurance 32 67 24
Postage and freight 322 287 287
Regulatory agency assessments 52 45 40
Supplies 268 216 183
Bank stock tax 167 146 151
Other 1,139 844 426
--------- --------- ---------
$ 2,200 $ 1,833 $ 1,341
========= ========= =========
</TABLE>
<PAGE>
HIGHLANDS BANKSHARES, INC., AND SUBSIDIARIES
Page F26
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 1999
(In thousands)
NOTE 21. SUBSEQUENT EVENTS
In January 2000, the Company purchased an option on real
estate in Boone, NC for $15. The Company has 120 days to
purchase the property for an additional $880 before the option
expires. The property will be used as a future expansion site
of the Company.
NOTE 22. CONDENSED PARENT COMPANY FINANCIAL STATEMENTS
The condensed financial statements below relate to Highlands
Bankshares, Inc., as of December 31, 1999, 1998 and 1997 and
for the years then ended. Highlands Bankshares, Inc., was
formed December 29, 1995 and exchanged common stock for the
common stock of Highlands Union Bank.
CONDENSED BALANCE SHEETS
------------------------
<TABLE>
<CAPTION>
1999 1998 1997
--------- --------- --------
<S> <C> <C> <C>
ASSETS
Cash $ 887 $ 202 $ 1
Investment securities available
for sale 1,059 2,480 -
Loans, net of allowance for loan losses
of $6 2,552 - -
Federal funds sold - 1,670 -
Investments in subsidiaries 21,794 19,772 16,343
Premises and equipment, net 1,381 1,402 1,276
Other assets 381 406 86
----------- ----------- ------------
Total Assets $ 28,054 $ 25,932 $ 17,706
======== ======== ========
LIABILITIES AND STOCKHOLDERS' EQUITY
Interest, taxes and other
liabilities $ 146 $ 153 $ 23
Long-term debt - - 886
Capital securities 7,500 7,500 -
--------- ---------- -------------
Total Liabilities 7,646 7,653 909
--------- ---------- ----------
STOCKHOLDERS' EQUITY
Common stock 3,280 3,116 3,081
Additional paid-in capital 5,768 5,265 5,271
Retained earnings 11,979 9,998 8,341
Accumulated other comprehensive income (loss) ( 619) ( 100) 104
--------- ---------- ----------
Total Stockholders' Equity 20,408 18,279 16,797
--------- ---------- -------------
Total Liabilities and
Stockholders' Equity $ 28,054 $ 25,932 $ 17,706
======== ======== ========
</TABLE>
(Continued)
<PAGE>
HIGHLANDS BANKSHARES, INC., AND SUBSIDIARIES
Page F27
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 1999
(In thousands)
NOTE 22. CONDENSED PARENT COMPANY FINANCIAL STATEMENTS (CONTINUED)
CONDENSED STATEMENTS OF INCOME
------------------------------
<TABLE>
<CAPTION>
1999 1998 1997
---------- ---------- --------
<S> <C> <C> <C>
Revenues $ 427 $ 373 $ 102
Long-term debt interest expense - ( 9) ( 61)
Capital securities expense (685) ( 672) -
Operating expense (155) ( 68) ( 57)
--------- ---------- ----------
(413) ( 376) ( 16)
Income tax (expense) benefit 140 128 5
Equity in undistributed earnings of subsidiary 2,404 2,023 1,963
------- -------- --------
Net income $ 2,131 $ 1,775 $ 1,952
======== ======== ========
</TABLE>
(Continued)
<PAGE>
HIGHLANDS BANKSHARES, INC., AND SUBSIDIARIES
Page F28
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 1999
(In thousands)
NOTE 22. CONDENSED PARENT COMPANY FINANCIAL STATEMENTS (CONTINUED)
CONDENSED STATEMENTS OF CASH FLOWS
----------------------------------
<TABLE>
<CAPTION>
1999 1998 1997
---------- ------------- -----------
<S> <C> <C> <C>
CASH FLOWS FROM OPERATING ACTIVITIES:
Net income $ 2,131 $ 1,775 $ 1,952
Adjustments to reconcile net income to
net cash provided by operating activities:
Allowance for loan losses 6 -
Depreciation and amortization 47 42 25
Provision for deferred income taxes ( 1) ( 3) -
Equity in undistributed earnings of
Subsidiary (2,404) (2,023) (1,963)
Net amortization on securities 20 25 -
(Increase) decrease in other assets (93) ( 110) ( 69)
Increase (decrease) in other liabilities (6) 130 25
---------- ------------- -----------
Net cash provided by operating activities ( 300) ( 164) ( 30)
---------- ------------- -----------
CASH FLOWS FROM INVESTING ACTIVITIES:
Securities available for
sale:
Proceeds from sale of securities 1,360 1,072 -
Purchase of securities - (3,586) -
Net (increase) decrease in federal funds sold 1,670 (1,670) -
Net (increase) in loans (2,558) - -
Premises and equipment expenditures (4) ( 152) (1,154)
---------- ------------- -----------
Net cash provided by investing activities 468 (4,336) (1,154)
---------- ------------- -----------
CASH FLOWS FROM FINANCING ACTIVITIES:
Proceeds from issuance of long-term debt - - 900
Repayment of long-term debt - ( 886) ( 14)
Proceeds from issuance of junior subordinated-
debt securities - 7,500 -
Capital securities issuance cost - ( 319) ( 68)
Cash dividends paid (150) ( 123) -
Proceeds from issuance of common stock 667 29 111
Purchase of subsidiary stock - (1,500) ( 75)
---------- ------------- -----------
Net cash provided by financing activities 517 4,701 854
---------- ------------- -----------
Net increase (decrease) in cash and cash equivalents 685 201 ( 330)
CASH AND CASH EQUIVALENTS
AT BEGINNING OF YEAR 202 1 331
---------- ------------- -----------
CASH AND CASH EQUIVALENTS
AT END OF YEAR $ 887 $ 202 $ 1
========== ============= ===========
</TABLE>
<TABLE> <S> <C>
<ARTICLE> 9
<LEGEND>
THIS SCHEDULE CONTAINS SUMMARY FINANCIAL INFORMATION EXTRACTED FROM THE
HIGHLANDS UNION BANKSHARES AND SUBSIDIARIES CONSOLIDATED BALANCE SHEET AT
DECEMBER 31, 1999 AND THE CONSOLIDATED STATEMENT OF OPERATIONS FOR THE YEAR
ENDED DECEMBER 31, 1999 AND IS QUALIFIED IN ITS ENTIRETY BY REFERENCE TO SUCH
FINANCIAL STATEMENTS.
</LEGEND>
<MULTIPLIER> 1,000
<S> <C>
<PERIOD-TYPE> 12-MOS
<FISCAL-YEAR-END> DEC-31-1999
<PERIOD-END> DEC-31-1999
<CASH> 13,988
<INT-BEARING-DEPOSITS> 0
<FED-FUNDS-SOLD> 0
<TRADING-ASSETS> 0
<INVESTMENTS-HELD-FOR-SALE> 70,798
<INVESTMENTS-CARRYING> 0
<INVESTMENTS-MARKET> 0
<LOANS> 261,678
<ALLOWANCE> 2,494
<TOTAL-ASSETS> 358,348
<DEPOSITS> 306,193
<SHORT-TERM> 11,187
<LIABILITIES-OTHER> 2,461
<LONG-TERM> 18,099
0
0
<COMMON> 3,280
<OTHER-SE> 17,128
<TOTAL-LIABILITIES-AND-EQUITY> 358,348
<INTEREST-LOAN> 21,873
<INTEREST-INVEST> 3,733
<INTEREST-OTHER> 65
<INTEREST-TOTAL> 25,671
<INTEREST-DEPOSIT> 12,810
<INTEREST-EXPENSE> 14,167
<INTEREST-INCOME-NET> 11,504
<LOAN-LOSSES> 1,418
<SECURITIES-GAINS> 117
<EXPENSE-OTHER> 8,187
<INCOME-PRETAX> 3,252
<INCOME-PRE-EXTRAORDINARY> 3,252
<EXTRAORDINARY> 0
<CHANGES> 0
<NET-INCOME> 2,131
<EPS-BASIC> .85
<EPS-DILUTED> .84
<YIELD-ACTUAL> 3.70
<LOANS-NON> 1,152
<LOANS-PAST> 497
<LOANS-TROUBLED> 0
<LOANS-PROBLEM> 0
<ALLOWANCE-OPEN> 2,008
<CHARGE-OFFS> 1,094
<RECOVERIES> 162
<ALLOWANCE-CLOSE> 2,494
<ALLOWANCE-DOMESTIC> 2,494
<ALLOWANCE-FOREIGN> 0
<ALLOWANCE-UNALLOCATED> 0
</TABLE>
