<PAGE> 1
U.S. Securities and Exchange Commission
Washington, D.C. 20549
FORM 10-QSB
(Mark One)
[X] QUARTERLY REPORT UNDER SECTION 13 OR 15(D) OF THE
SECURITIES EXCHANGE ACT OF 1934
For the quarterly period ended SEPTEMBER 30, 2000
[ ] TRANSITION REPORT PURSUANT SECTION 13 OR 15(D) OF THE
SECURITIES EXCHANGE ACT OF 1934
For the transition period from to
------------------ ------------------
Commission file number 0-30497
CORNERSTONE BANCSHARES, INC.
(Exact name of small business issuer as specified in its charter)
TENNESSEE 62-1173944
(State of other jurisdiction of (IRS Employer
incorporation or organization) Identification No.)
6401 SUITE B
LEE CORNERS
CHATTANOOGA, TENNESSEE 37421
(Address of principal executive offices)
(423) 385-3000
(Issuer's telephone number)
Check whether the issuer (1) filed all reports required to be filed by
Section 13 or 15(d) of the Exchange Act during the past 12 months (or for such
shorter period that the registrant was required to file such reports), and (2)
has been subject to such filing requirements for the past 90 days.
Yes [X] No[ ]
APPLICABLE ONLY TO CORPORATE ISSUERS
State the number of shares outstanding of each of the issuer's classes
of common equity, as of the latest practicable date: 1,166,129 SHARES OF COMMON
STOCK AS OF SEPTEMBER 30, 2000.
Transitional Small Business Disclosure Format (check one):
Yes [ ] No [X]
<PAGE> 2
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
CORNERSTONE BANCSHARES
PRESENTATION OF FINANCIAL INFORMATION
The 2000 financial information in this report has not been audited. The
information included herein should be read in conjunction with the notes to
consolidated financial statements included in the 1999 Annual Report to
Shareholders which was furnished to each shareholder of the Company in March
2000. The consolidated financial statements presented herein conform to
generally accepted accounting principles and to general industry practices.
Consolidation
The accompanying consolidated financial statements include the accounts of
Cornerstone Bancshares Inc. ("Company") and its sole subsidiary Cornerstone
Community Bank ("Bank").
Substantially all intercompany transactions, profits and balances have been
eliminated.
Accounting Policies
During interim periods, Cornerstone Bancshares follows the accounting policies
set forth in its Form 10-K for the year ended December 31, 1999, as filed with
the Securities and Exchange Commission. Since December 1999, there have been no
changes in any accounting principles or practices, or in the method of applying
any such principles or practices.
Interim Financial Data (Unaudited)
In the opinion of the Company management, the accompanying interim financial
statements contain all material adjustments, consisting only of normal recurring
adjustments necessary to present fairly the financial condition, the results of
operations, and cash flows for the interim period. Results for interim periods
are not necessarily indicative of the results to be expected for a full year.
Earnings Per Common Share
Basic earnings per share ("EPS") is computed by dividing income available to
common shareholders (numerator) by the number of common shares outstanding
(denominator). Diluted EPS is computed by dividing income available to common
shareholders (numerator) by the adjusted number of shares outstanding
(denominator). The adjusted number of shares outstanding reflects the potential
dilution occurring if securities or other contracts to issue common stock were
exercised or converted into common stock resulting in the issuance of common
stock that share in the earnings of the entity.
Forward-Looking Statements
Certain written and oral statements made by or with the approval of an
authorized executive officer of the Company may constitute "forward-looking
statements" as defined under the Private Securities Litigation Reform Act of
1995. Words or phrases such as "should result, are expected to, we anticipate,
we estimate, we project" or similar expressions are intended to identify
forward-looking statements. These statements are subject to certain risks and
uncertainties that could cause actual
<PAGE> 3
results to differ materially from the Company's historical experience and its
present expectations or projections. These risks and uncertainties include, but
are not limited to, unanticipated economic changes, interest rate movements and
the impact of competition. Caution should be taken not to place undue reliance
on any such forward-looking statements since such statements speak only as of
the date of making such statements.
<PAGE> 4
PART I -- FINANCIAL INFORMATION
ITEM 1. FINANCIAL STATEMENTS
<TABLE>
<CAPTION>
CONSOLIDATED BALANCE SHEETS Unaudited Unaudited
September 30, December 31, September 30,
------------- ------------ -------------
2000 1999 1999
------------- ------------ -------------
<S> <C> <C> <C>
ASSETS
Cash and due from banks $ 4,699,263 $ 7,721,701 4,171,067
Federal funds sold -- -- 2,000,000
Investment securities available for sale 15,986,300 13,339,306 13,722,139
Investment securities held to maturity 4,502,465 5,723,320 6,128,973
Loans, less allowance for loan loss 81,683,363 71,323,878 69,287,556
Premises and equipment, net 3,312,820 2,231,179 2,057,900
Accrued interest receivable 753,569 656,159 653,862
Excess cost over fair value of assets acquired 2,636,586 2,722,651 2,750,747
Other assets 1,916,621 2,084,033 1,893,773
------------- ------------ -------------
Total assets $ 115,490,990 $105,802,227 102,666,018
============= ============ =============
LIABILITIES AND STOCKHOLDERS' EQUITY
Deposits
Non interest bearing $ 12,437,791 $ 12,411,939 10,886,803
NOW accounts 14,039,343 12,626,200 15,282,557
Savings deposits and money market accounts 10,757,431 10,254,825 10,488,031
Time deposits of $100,000 or more 16,590,984 16,129,350 15,860,872
Time deposits of less than $100,000 45,152,777 39,923,313 36,726,204
------------- ------------ -------------
Total deposits 98,978,325 91,345,627 89,244,467
Other Borrowings 3,906,041 2,179,363 1,044,188
Accrued interest payable 179,138 189,870 175,469
Other liabilities 262,251 193,108 331,655
Note Payable -- -- --
------------- ------------ -------------
Total Liabilities 103,325,754 93,907,968 90,795,779
------------- ------------ -------------
Redeemable common stock -- 237,504 237,504
Stockholders' Equity
Common stock 1,166,129 1,166,629 1,166,329
Additional paid-in capital 11,322,276 11,128,234 11,124,634
Undivided profits (deficit) (232,591) (454,818) (559,890)
Accumulated other comprehensive income (90,578) (183,290) (98,338)
------------- ------------ -------------
Total Stockholders' Equity 12,165,236 11,894,259 11,870,239
------------- ------------ -------------
Total liabilities and stockholders equity $ 115,490,990 $105,802,227 102,666,018
============= ============ =============
</TABLE>
<PAGE> 5
<TABLE>
<CAPTION>
CONSOLIDATED STATEMENTS OF INCOME Unaudited Unaudited
Three months ended Nine months ended
September 30, September 30,
----------------------------- -----------------------------
2000 1999 2000 1999
---------- ---------- ---------- ----------
<S> <C> <C> <C> <C>
INTEREST INCOME
Interest and fees on loans $2,068,694 1,626,935 $5,891,285 4,689,687
Interest on investment securities $ 355,531 305,513 1,043,700 833,699
Interest on federal funds sold $ 27,976 36,293 47,858 161,394
Interest on other earning assets $ 4 -- 267 --
---------- ---------- ---------- ----------
Total interest income 2,452,205 1,968,741 6,983,110 5,684,780
---------- ---------- ---------- ----------
INTEREST EXPENSE
Interest bearing demand accounts $ 72,492 55,565 210,089 172,369
Money market accounts $ 68,585 56,988 197,376 156,095
Savings accounts $ 32,088 27,466 91,018 81,352
Time deposits of less than $100,000 $ 674,993 515,312 1,819,741 1,592,998
Time deposits of $100,000 or more $ 251,963 202,828 692,644 659,737
Federal funds purchased $ 6,626 300 35,885 1,032
Securities sold under agreements to repurchase $ 49,644 6,551 107,292 10,269
Other borrowings $ -- 14,648 -- 67,122
---------- ---------- ---------- ----------
Total interest expense 1,156,391 879,658 3,154,044 2,740,974
---------- ---------- ---------- ----------
Net interest income $1,295,813 1,089,084 3,829,066 2,943,807
Provision for loan losses $ 90,000 105,000 504,500 760,000
---------- ---------- ---------- ----------
Net interest income after the provision for loan losses 1,205,813 984,084 3,324,566 2,183,807
---------- ---------- ---------- ----------
NONINTEREST INCOME
Service charges on deposit accounts $ 90,552 120,063 277,656 373,727
Net securities gains (losses) $ 25,498 -- 25,498 --
Other income $ 68,040 31,518 178,214 64,629
---------- ---------- ---------- ----------
Total noninterest income 184,089 151,581 481,367 438,356
---------- ---------- ---------- ----------
NONINTEREST EXPENSE
Salaries and employee benefits $ 543,772 568,057 1,673,486 1,605,235
Occupancy and equipment expense $ 194,099 135,221 458,336 397,742
Other operating expense $ 382,422 387,143 1,265,006 1,287,946
---------- ---------- ---------- ----------
Total noninterest expense 1,120,293 1,090,420 3,396,828 3,290,922
---------- ---------- ---------- ----------
Income before provision for income taxes $ 269,610 45,245 409,105 (668,760)
Provision for income taxes $ 144,500 (58,957) 186,878 (150,564)
---------- ---------- ---------- ----------
NET INCOME $ 125,110 104,202 $ 222,227 (518,196)
========== ========== ========== ==========
Basic net income per common share 0.11 0.09 0.19 (0.44)
Diluted net income per common share 0.10 0.09 0.18 (0.43)
Dividends declared per common share -- -- -- --
</TABLE>
<PAGE> 6
CONSOLIDATED STATEMENTS OF CASH FLOWS
For the Nine Months Ended September 30
<TABLE>
<CAPTION>
Unaudited Unaudited
2000 1999
------------ ------------
<S> <C> <C>
Cash flows from operating activities:
Net income 222,227 (518,196)
Adjustments to reconcile net income (loss)
to net cash provided by operating activities:
Provision for possible loan losses 504,500 760,000
Net Charge-offs (351,076) (1,174,766)
Provision for depreciation and amortization 277,249 265,846
Accrued interest receivable (97,410) (15,421)
Accrued interest payable (10,732) (95,165)
Changes in other assets and liabilities: 236,555 (443,016)
------------ ------------
Net cash provided by (used in) operating activities 781,312 (1,220,717)
------------ ------------
Cash flows from investing activities:
Purchase of investment securities: AFS (4,053,044) (9,295,372)
Purchase of investment securities: HTM -- --
Proceeds from security transactions: AFS 1,451,387 5,039,364
Proceeds from security transactions: HTM 1,267,728 2,557,272
Net increase in loans (10,512,909) 3,619,759
Purchase of bank premises and equipment (1,272,826) (273,085)
------------ ------------
Net cash provided by (used in) investing activities (13,119,664) 1,647,938
------------ ------------
Cash flows from financing activities:
Net increase in deposits 7,632,698 (8,767,141)
Net increase in repurchase agreements 1,726,678 1,044,188
Net increase of notes payable -- (1,250,000)
Issuance of common stock (43,462) 2,022,832
------------ ------------
Net cash provided by (used in) financing activities 9,315,914 (6,950,121)
------------ ------------
Net increase (decrease) in cash and cash equivalents (3,022,437) (6,522,900)
Cash and cash equivalents beginning of period 7,721,701 12,693,967
------------ ------------
Cash and cash equivalents end of period $ 4,699,263 6,171,067
============ ============
</TABLE>
<PAGE> 7
Cornerstone Bancshares, Inc and Subsidiary
Changes in Stockholders' Equity
September 30, 2000
<TABLE>
<CAPTION>
Accumulated
Additional Retained Other Total
Comprehensive Common Paid-in Earnings Comprehensive Stockholders'
Income Stock Capital (Deficit) Income Equity
------------- ---------- ----------- --------- ------------- -------------
<S> <C> <C> <C> <C> <C> <C>
BALANCE, December 31, 1999 $1,166,629 $11,128,234 $(454,818) $ (183,290) $11,656,755
Redemption of Common Stock (15,344) (222,660) (238,004)
Issuance of Common Stock 14,844 179,198 194,042
Decrease in Redeemable Common Stock 237,504 237,504
Comprehensive Income:
Net Income $222,227 222,227 222,227
Other comprehensive income, net of tax:
Unrealized holding gains (losses) on
securities available for sale, net of
reclassification adjustment 92,712 92,712 92,712
-------- ---------- ----------- --------- ---------- -----------
Total comprehensive income $314,939
========
BALANCE, September 30, 2000 (Unaudited) $1,166,129 $11,322,276 $(232,591) $ (90,578) $12,165,236
========== =========== ========= ========== ===========
</TABLE>
<PAGE> 8
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OR PLAN OF OPERATION.
OVERVIEW
The Company ended the first nine months of 2000 with total assets of
$115 million, a 9.2% increase from December 31, 1999, and a 12.5% increase from
September 30, 1999. The Company reported net income for the second quarter
ending September 30, 2000 of $125,110 or $0.11 basic earnings per share,
compared to $104,202 or $0.09 basic earnings per share, for the same period in
1999. The increase in earnings represents a 20.0% increase from the third
quarter 1999 compared to the third quarter of 2000. The Company reported net
income for the first nine months ending September 30, 2000 of $222,227, or $0.19
basic earnings per share, compared to $(518,196), or $(0.44) basic earnings per
share, for the same period in 1999. The increase in earnings represents a 142.9%
increase from the first nine months in 1999 compared to the same period in 2000.
The increase in net income for the first nine months 2000 is due
primarily to the improvement in the Bank's net interest margin. The Bank has
seen an increase in the net interest margin to 5.04% in first nine months of
2000 from 4.30% in the first nine months of 1999. This represents an increase of
74 basis points. Several factors have contributed to the improvement in net
interest margin. First, the loan portfolio quality has improved. The
non-performing assets and 90 days past due loan category decreased from
$1,362,582 at year end 1999 to $702,746 as of September 30, 2000. Second, the
growth in average earning-assets out paced the growth in average non-earning
assets. Average-earning assets increased 13.0% from December 31, 1999 to
September 30, 2000 while average non-earning assets decreased 13.6% over the
same time period. Third, the Bank's interest rate sensitivity was balanced and
had no negative impact on the interest rate margin as the Federal Reserve raised
the Federal Funds target rate by 175 basis points. To accomplish this, the Bank
actively managed the asset and liability mix to reduce the Bank's interest rate
risk and caused the Bank's portfolio to become more asset-sensitive. We also
have an improved asset and liability mix. The Bank's average loan to asset ratio
improved from 68.4% as of December 31, 1999 to 71.7% as of September 30, 2000.
Going forward the Bank expects the net interest margin to be in line with its
peer group and will focus on improving the Bank's efficiency ratio and asset and
liability mix to create further earnings increases to net income of the Company.
The Company expects net income to materially increase over the next several
quarters as the loan portfolio quality continues to improve and the Bank
efficiency ratios become more comparable with other peer banks.
The strategic plan of the Company is to provide a competitive footprint
(convenient branches) to the Chattanooga MSA (Metropolitan Statistical Area)
which would allow Cornerstone Bancshares to compete with the three major
regional banks located in the area. The Bank will focus its efforts in the
suburb branch network and not on a central hub bank located in downtown
Chattanooga. The customer base will consist of small businesses and individual
consumers.
The most recent action the Bank has taken to implement the strategic
plan is the acquisition of a new branch location. The Bank has completed a
transaction with AmSouth Bank to purchase its closed Gunbarrel Road Branch
building (located 50 yards in front of our present Gunbarrel supermarket
branch). The branch is scheduled to open November 16th of this year and will
provide a 4th full service branch to our system. The Bank closed its Highway 58
supermarket Branch in August, but retained the Gunbarrel location when
Albertson's announced they were leaving the Chattanooga market. The Gunbarrel
supermarket location will close when the Bank
<PAGE> 9
relocates to its new full service location. The move is consistent with the
strategic plan and will facilitate the Bank's movement away from grocery store
branches to full service branches that can provide the full service expected of
a community bank.
The Company is currently offering 150,000 shares at $13 per share of
Cornerstone Bancshares stock and close the sale at the end of the year. The
stock sale is scheduled to raise $2 million in capital of which the majority
will be use to fund deposit growth for the next 2 years. Another step the Bank
has taken is joining the Federal Home Loan Bank of Cincinnati, this organization
will provide a guaranteed source of funds for liquidity management and can lend
the funds either on a overnight basis or an extended maturity.
Cornerstone Community Bank is operating under a Memorandum of
Understanding (Memorandum) with the Tennessee Department of Financial
Institutions and the Federal Deposit Insurance Corporation. Among other things,
the Memorandum provides the following:
- The Board of Directors must develop a written management plan
that addresses Cornerstone Community Bank's plans for size,
structure, growth, earnings, services, information systems,
personnel, accounting, financial reporting and operating
matters;
- Cornerstone Community Bank must maintain a Tier I leverage
capital ratio of equal to or greater than 8%;
- Cornerstone Community Bank may not pay dividends without the
prior approval of the FDIC; and
- Cornerstone Community Bank must report its progress on the
actions required by the Memorandum to the FDIC on specific
dates.
At the June 2000, examination the FDIC reported that Cornerstone
Community Bank was materially in compliance with the provisions of the
Memorandum. However, because of the increased regulatory scrutiny required by
the Memorandum, the activities of Cornerstone Community Bank and Cornerstone are
more restricted, and these restrictions may affect the flexibility of
Cornerstone in conducting its business operations.
FINANCIAL CONDITION
Earning Assets. Average earning assets for three months ending
September 30, 2000 increased $14.4 million or 15.8% above the three months
ending September 30, 1999. The average balance increase was due to strong loan
demand and a steady growth in core deposits during the period. Management
expects average earning assets to steadily increase during the rest of 2000 and
anticipates similar growth in 2001.
Loan Portfolio. Average loans for the first nine months of 2000 were
$79.3 million, an increase of $10.4 million or 15.1% from the first nine months
in 1999, while actual balances increased to $82.8 million, an increase of 17.3%
above $70.3 million in loans at the end of September 1999. Management is
anticipating increased loan growth for the remainder of the year in average
balances, with a smaller increase in actual balances. This is due primarily to
the Bank's loan to asset ratio reaching industry norm. As a result, loan growth
will be restricted to the percentage of asset growth going forward. The amount
of such growth, if any, will depend upon general economic conditions.
Investment Portfolio. The average investment securities portfolio
decreased by 2.5% or $0.5 million from September 1999 to September 2000. The
decline was a result of slowing deposit
<PAGE> 10
growth and strong loan demand, which used all available funds. The portfolio
represents 19.5% of average assets the portfolio will remain at this level until
the rate of growth in deposits surpasses the growth rate of loans. The Bank
maintains an investment strategy of making prudent investment decisions with
active management of the portfolio to optimize, within the constraints of
established policies, an adequate return and value. Investment objectives
include Gap Management, Liquidity, Pledging, Return, and Local Community Support
in that order of priority. Cornerstone maintains two classifications of
investment securities: "Held to Maturity" (HTM) and "Available for Sale" (AFS).
The "Available for Sale" securities are carried at fair market value, whereas
the "Held to Maturity" securities are carried at book value. As of September 30,
2000, unrealized losses in the "Available for Sale" and "Held to Maturity"
amounted to $169,310 or a 0.8% decrease in value.
Deposits. Bank's average deposits and repurchase agreements increased
$13.9 million or 17.7% from September 30, 1999 to September 30, 2000, while
actual deposit and repurchase agreements balances increased $12.6 million or
14.0%. The actual deposit growth has been broad based but the majority of growth
was in certificates of deposit under $100,000, which increased 23.0% during the
same time period. Management plans to continue to focus its efforts on
attracting core deposits and expects average deposit growth in the 10% level for
the next several quarters. Transaction accounts will be continuously solicited
from new customers and existing customers. Attracting transaction accounts is
the Bank's highest liability management priority and will provide the Bank with
an increased net interest margin.
Capital Resources. Stockholders' average equity increased $1.3 million
or 11.3% to $12.8 million for the three months ending September 30, 2000,
compared with $11.5 million during the same three months ending September 30,
1999. Actual equity increased $0.3 million or 2.5% from September 30, 1999 to
September 30, 2000. This increase was primarily due to earnings for the period.
The balance represents current year earnings sustained from operations and
unrealized losses in the bond portfolio. As mentioned above, the Company has
approved a stock offering of 150,000 shares of common stock at $13 per share.
The Company plans to terminate the offering at the end of the forth quarter of
2000.
<PAGE> 11
CONSOLIDATED AVERAGE BALANCE SHEET
INTEREST INCOME / EXPENSE AND YIELD / RATES
Taxable equivalent basis
(in thousands)
<TABLE>
<CAPTION>
Three months ended
September 30,
-------------------------------------------------------------------------------
2000 1999
-------------------------------------------------------------------------------
Assets Average Income / Yield / Average Income / Yield /
Balance Expense Rate Balance Expense Rate
-------------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C> <C>
Earning Assets:
Loans, net of unearned income 82,333 2,069 10.11% 68,514 1,627 9.42%
Investment securities 23,146 384 6.68% 22,604 335 5.88%
Other earning assets -- --
--------------------- --------------------
Total earning assets 105,479 2,453 9.25% 91,117 1,962 8.54%
Allowance for loan losses (1,107) (998)
Cash and other assets 12,845 11,541
------- ------
TOTAL ASSETS 117,218 101,661
======= =======
Liabilities and Stockholders' Equity
Interest bearing liabilities:
Interest bearing demand deposits 15,987 72 1.82% 13,781 56 1.60%
Savings deposits 11,321 101 3.58% 10,005 84 3.35%
Time deposits 44,285 675 6.13% 38,288 505 5.24%
Time deposits of $100,000 or more 16,983 252 5.97% 15,397 213 5.48%
Federal funds and securities sold under
Agreement to repurchase 3,854 56 5.87% 652 7 4.17%
Other borrowings -- -- 0.00% 408 15 8.25%
--------------------- --------------------
Total interest bearing liabilities 92,430 1,156 4.98% 78,529 880 4.44%
--------- ----------
Net interest spread 1,297 1,082
========= ==========
Noninterest bearing demand deposits 11,957 11,372
Accrued expenses and other liabilities 749 669
Stockholders' equity 12,082 11,092
------- -------
TOTAL LIABILITIES AND
STOCKHOLDERS' EQUITY 117,218 101,661
======= =======
Net interest margin on earning assets 4.89% 4.71%
========= ==========
Net interest spread on earning assets 4.27% 4.10%
========= ==========
Taxable equivalent adjustment:
Loans -- --
Investment Securities 1 --
--------- ---------
Total adjustment 1 --
========= =========
</TABLE>
<PAGE> 12
RESULTS OF OPERATIONS - QUARTER ENDED SEPTEMBER 30, 2000 COMPARED TO QUARTER
ENDED SEPTEMBER 30, 1999
Net Interest Income. Net interest income is the principal component of
a financial institution's income stream and represents the spread between
interest and fee income generated from earning assets and the interest expense
paid on deposits. The following discussion is on a fully taxable equivalent
basis.
Net interest income after loan loss provision for the three-month
period ending September 30, 2000 increased $221,729 or 22.5% above net interest
income after loan loss provision as of the same period 1999. The increase in net
interest income as of September 30, 2000 is primarily due to an increase in the
Bank's net interest margin on earning assets, which rose from 4.71% to 4.89% in
three months ending September 30, 2000 as compared to the three months ended
September 30, 1999. The increased margin was a result of the increase in the
Bank's asset mix which saw the Bank's loan to asset ratio increase from 67% in
the third quarter of 1999 to 70% during the same quarter in 2000. The Bank has
reached the level of loan concentration desired and does not expect further
growth in the interest rate margin from changes in asset mix. Management's focus
will look to achieve future margin gains by changes on the liability side of the
balance sheet. The Bank has approximately 60% of its liabilities concentrated in
certificates of deposit and will strive to reduce that percentage to 40% over
the next five years. This strategic direction has produced material improvements
in the net interest margin and should continue to increase the Bank's earnings
in the future.
Interest income increased $483,464 or 24.6% as of September 30, 2000
compared to September 30, 1999. Interest income produced by the loan portfolio
increased $441,759 or 27.2% from September 30, 1999 to September 30, 2000 due to
the increase in average loans outstanding for the period and loan fees for loan
origination. Management estimates the average balances will increase, but will
restrain origination of these loans to insure quality standards and
documentation are maintained. Interest income on investment securities and
federal funds increased $41,701 or 12.2% from September 30, 1999 to September
30, 2000, due primarily to reduced prepayments of mortgage backed securities
that were purchased at a premium and a fully invested cash position.
Total interest expense increased $276,733 or 31.5% from September 30,
1999 to September 30, 2000. The interest expense increase from the third quarter
of 1999 to the third quarter of 2000 is primarily due to increased market rates
caused by the Federal Reserve's 175 basis point rate increases of Fed Funds over
the last 12 months. Aggravating the increase is the disinter-mediation of
deposits from lower paying transaction accounts to high cost certificates of
deposit.
The trend in net interest income is commonly evaluated in terms of
average rates using the net interest margin and the interest rate spread. The
net interest margin, or the net yield on earning assets, is computed by dividing
fully taxable equivalent net interest income by average earning assets. This
ratio represents the difference between the average yield on average earning
assets and the average rate paid for all funds used to support those earning
assets. The net interest margin at September 30, 2000 was 4.89%. The yield on
earning assets increased 71 basis points to 9.25% at September 30, 2000 from
8.54% at September 30, 1999.
The interest rate spread measures the difference between the average
yield on earning
<PAGE> 13
assets and the average rate paid on interest bearing sources of funds. The
interest rate spread eliminates the impact of noninterest bearing funds and
gives a direct perspective on the effect of market interest rate movements. As a
result of increases in the loan portfolio and the mix of the balance sheet, the
interest rate spread was 4.27% on September 30, 2000, compared to 4.10% on
September 30, 1999, an increase of 17 basis points.
Allowance for Loan Losses. The allowance for possible loan losses
represents management's assessment of the risks associated with extending credit
and its evaluation of the quality of the loan portfolio. Management analyzes the
loan portfolio to determine the adequacy of the allowance for possible loan
losses and the appropriate provisions required to maintain a level considered
adequate to absorb anticipated loan losses. Management believes that the
$1,155,233 as of September 30, 2000 in the allowance for loan loss account
reflects the full known extent of credit exposure. The provision for the third
quarter ending September 30, 2000 was $90,000, well within the budgeted amount
for that time period. The Bank anticipates a similar provision for the last
quarter of 2000. In the future and as the loan portfolio grows and unanticipated
loan losses occur, the Bank may have loan loss provisions slightly above peer to
cover the above average loan growth the Bank will realize. No assurances can be
given, however, that adverse economic circumstances will not result in increased
losses in the loan portfolio, and require greater provisions for possible loan
losses in the future.
Non-performing Assets. Non-performing assets include non-performing
loans and foreclosed real estate held for sale. Non-performing loans include
loans classified as non-accrual or renegotiated. Cornerstone's policy is to
place a loan on non-accrual status when it is contractually past due 90 days or
more as to payment of principal or interest. At the time a loan is placed on
non-accrual status, interest previously accrued but not collected may be
reversed and charged against current earnings. As of September 30, 2000
Cornerstone had $60,487 in non-accrual loans and $702,746 in non-performing
assets.
Non-interest Income. Non-interest income consists of revenues generated
from a broad range of financial services and activities including fee-based
services and profits and commissions earned through credit life insurance sales
and other activities. In addition, gains or losses realized from the sale of
loans are included in non-interest income. Total non-interest income increased
by $32,508 or 21.5% from September 30, 1999 to September 30, 2000. The increase
was due primarily to a gain on a security sale. Without the security sale the
non-interest income increased only $7,000 as fees and home loan origination's
regained previously attained levels.
Non-interest Expense. Non-interest expense for the three months ending
September 30, of 2000, increased by $29,873 or 2.74% as compared to the three
months ending September 30, 1999. Salaries and employee benefits decreased by
$24,285 or 4.3% in September 30, 2000 over September 30, 1999. Occupancy expense
as of September 30, 2000 increased by $58,878 or 43.6% over the same period in
1999. The spike in occupancy expense was due to branch closures and the opening
of the new branch located on Gunbarrel Road. All other non-interest expenses at
September 30, 2000 decreased $4,721 or 1.2% over the non-interest expenses as of
September 30, 1999.
<PAGE> 14
CONSOLIDATED AVERAGE BALANCE SHEET
INTEREST INCOME / EXPENSE AND YIELD / RATES
Taxable equivalent basis
(in thousands)
<TABLE>
<CAPTION>
Nine months ended
September 30,
-------------------------------------------------------------------------------
2000 1999
-------------------------------------------------------------------------------
Assets Average Income / Yield / Average Income / Yield /
Balance Expense Rate Balance Expense Rate
-------------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C> <C>
Earning Assets:
Loans, net of unearned income 79,347 5,891 9.92% 68,922 4,690 9.10%
Investment securities 22,101 1,093 6.61% 22,662 995 5.87%
Other earning assets -- --
--------------------- --------------------
Total earning assets 101,448 6,984 9.20% 91,585 5,685 8.30%
Allowance for loan losses (1,038) (1,076)
Cash and other assets 12,840 12,068
------- -------
TOTAL ASSETS 113,250 102,577
======= =======
Liabilities and Stockholders' Equity
Interest bearing liabilities:
Interest bearing demand deposits 16,108 210 1.74% 13,530 172 1.70%
Savings deposits 11,157 288 3.45% 9,760 237 3.25%
Time deposits 42,327 1,820 5.74% 39,805 1,593 5.35%
Time deposits of $100,000 or more 15,989 693 5.79% 15,846 660 5.57%
Federal funds and securities sold under
Agreement to repurchase 3,482 143 5.49% 338 11 4.47%
Other borrowings -- -- 999 67 8.98%
--------------------- --------------------
Total interest bearing liabilities 89,063 3,154 4.73% 80,278 2,741 4.56%
--------- ----------
Net interest spread 3,830 2,944
========= ==========
Noninterest bearing demand deposits 11,559 10,858
Accrued expenses and other liabilities 657 852
Stockholders' equity 11,972 10,589
------- -------
TOTAL LIABILITIES AND
STOCKHOLDERS' EQUITY 113,250 102,577
======= =======
Net interest margin on earning assets 5.04% 4.30%
========= ==========
Net interest spread on earning assets 4.47% 3.73%
========= ==========
Taxable equivalent adjustment:
Loans -- --
Investment Securities 1 --
--------- ---------
Total adjustment 1 --
========= =========
</TABLE>
<PAGE> 15
RESULTS OF OPERATIONS - NINE MONTHS ENDED SEPTEMBER 30, 2000 COMPARED TO NINE
MONTHS ENDED SEPTEMBER 30, 1999
Net Interest Income. Net interest income is the principal component of
a financial institution's income stream and represents the spread between
interest and fee income generated from earning assets and the interest expense
paid on deposits. The following discussion is on a fully taxable equivalent
basis.
Net interest income after loan loss provision for the first nine months
of 2000 increased $1,140,749 or 52.2% above net interest income after loan loss
provision as of first nine months of 1999. The increase in net interest income
as of September 30, 2000 is primarily due to an increase in the Bank's net
interest margin on earning assets, which rose from 4.30% to 5.04% in first nine
months of 2000 as compared to the first nine months of 1999. The increased
margin was a result of management's efforts to manage interest rate risk by
keeping asset and liability repricing similar, the collection of interest from
non-accrual loans written off in the previous year, and a smaller loan loss
provision. This strategic direction has produced improvements in the net
interest margin and should continue to assist the Bank's earnings in the future.
The current year provision represents a continued purging of substandard loans
and should continue throughout the year 2000.
Interest income increased $1,298,330 or 22.8% as of September 30, 2000
compared to September 30, 1999. Interest income produced by the loan portfolio
increased $1,201,598 or 25.6% from September 30, 1999 to September 30, 2000 due
to the increase in average loans outstanding for the period and an increase in
rates over the last nine months and loan fees for loan origination. Management
estimates the average balances will increase, but will restrain origination of
these loans to insure quality standards and documentation are maintained.
Interest income on investment securities and federal funds increased $96,465 or
9.7% from September 30, 1999 to September 30, 2000, due primarily to reduced
prepayments of mortgage backed securities that were purchased at a premium and a
fully invested cash position.
Total interest expense increased $413,070 or 15.1% from September 30,
1999 to September 30, 2000. The interest expense increase from the first nine
months of 1999 to the first nine months of 2000 is primarily due to increased
market rates caused by the Federal Reserve's 175 basis point rate increase of
Fed Funds over the last 18 months.
The trend in net interest income is commonly evaluated in terms of
average rates using the net interest margin and the interest rate spread. The
net interest margin, or the net yield on earning assets, is computed by dividing
fully taxable equivalent net interest income by average earning assets. This
ratio represents the difference between the average yield on average earning
assets and the average rate paid for all funds used to support those earning
assets. The net interest margin at September 30, 2000 was 5.04%. The yield on
earning assets increased 89 basis points to 9.19% at September 30, 2000 from
8.3% at September 30, 1999.
The interest rate spread measures the difference between the average
yield on earning assets and the average rate paid on interest bearing sources of
funds. The interest rate spread eliminates the impact of non-interest bearing
funds and gives a direct perspective on the effect of market interest rate
movements. As a result of changes in the asset and liability mix during late
1999 and recaptured interest during the current period, the interest rate spread
was 4.46% on September 30, compared to 3.73% on September 30, 1999, an increase
of 73 basis points.
<PAGE> 16
Allowance for Loan Losses. The allowance for possible loan losses
represents management's assessment of the risks associated with extending credit
and its evaluation of the quality of the loan portfolio. Management analyzes the
loan portfolio to determine the adequacy of the allowance for possible loan
losses and the appropriate provisions required to maintain a level considered
adequate to absorb anticipated loan losses. Management believes that the
$504,500 provision for loan loss as of September 30, 2000 adequately provides
funds to the Bank's loan loss allowance to cover the full known extent of credit
exposure. The Bank anticipates a smaller provision for the rest of 2000 that
will cover the Bank's credit risk as the loan portfolio grows and unanticipated
loan losses occur. No assurances can be given, however, that adverse economic
circumstances will not result in increased losses in the loan portfolio, and
require greater provisions for possible loan losses in the future.
Non-performing Assets. Non-performing assets include non-performing
loans and foreclosed real estate held for sale. Non-performing loans include
loans classified as non-accrual or renegotiated. Cornerstone's policy is to
place a loan on non-accrual status when it is contractually past due 90 days or
more as to payment of principal or interest. At the time a loan is placed on
non-accrual status, interest previously accrued but not collected may be
reversed and charged against current earnings. As of September 30, 2000
Cornerstone had $60,487 in non-accrual loans and $702,746 in non-performing
assets.
Non-interest Income. Non-interest income consists of revenues generated
from a broad range of financial services and activities including fee-based
services and profits and commissions earned through credit life insurance sales
and other activities. In addition, gains or losses realized from the sale of
loans are included in non-interest income. Total non-interest income increased
by $43,011 or 9.8% from September 30, 1999 to September 30, 2000.
Non-interest Expense. Non-interest expense for the first nine months of
2000 increased by $105,906 or 3.22% as compared to the first nine months in
1999. Salaries and employee benefits increased by $68,251 or 4.3% in September
30, 2000 over September 30, 1999. Occupancy expense as of September 30, 2000
increased by $60,594 or 15.2% over the same period in 1999. All other
non-interest expenses at September 30, 2000 decreased $22,940 or 1.8% over the
non-interest expenses as of September 30, 1999.
<PAGE> 17
ALLOWANCE FOR LOAN LOSSES
<TABLE>
<CAPTION>
2000
-------------------------------------------------
Quarter Ending September 30 June 30 March 31
-------------- ------------ ------------ -----------
<S> <C> <C> <C>
Balance at beginning of period 1,086,054 1,028,838 1,001,809
Loans charged-off (72,003) (259,543) (170,891)
Loans recovered 51,183 60,758 39,420
---------- ---------- ----------
Net Charge-offs (recoveries) (20,820) (198,784) (131,471)
Provision for loan losses charged
to expense 90,000 256,000 158,500
---------- ---------- ----------
Balance at end of period 1,155,233 1,086,054 1,028,838
========== ========== ==========
Allowance for loan losses as a
percentage of average loans
outstanding for the period 1.402% 1.358% 1.358%
Allowance for loan losses as a
percentage of nonperforming assets
and loans 90 days past due
outstanding for the period 164.388% 136.980% 83.251%
Annualized QTD net charge-offs as
a percentage of average loans
outstanding for the period -0.101% -0.994% -0.694%
Annualized YTD net charge-offs as -0.590% -0.849% -0.694%
a percentage of average loans
outstanding for the period
YTD Average Outstanding Loans 79,399,688 77,837,484 75,760,000
QTD Average Outstanding Loans 82,375,120 79,974,088 75,760,000
Nonperforming assets and 702,746 792,858 1,235,826
loans 90 days past due
<CAPTION>
1999
------------------------------------------------------------------
December 31 September 30 June 30 March 31
----------- ------------ ---------- ----------
<S> <C> <C> <C> <C>
Balance at beginning of period 985,234 1,030,243 1,208,311 1,400,000
Loans charged-off (123,631) (225,363) (858,844) (304,209)
Loans recovered 45,206 75,354 75,777 62,520
---------- ---------- ---------- ----------
Net Charge-offs (recoveries) (78,425) (150,009) (783,068) (241,689)
Provision for loan losses charged
to expense 95,000 105,000 605,000 50,000
---------- ---------- ---------- ----------
Balance at end of period 1,001,809 985,234 1,030,243 1,208,311
========== ========== ========== ==========
Allowance for loan losses as a
percentage of average loans
outstanding for the period 1.390% 1.438% 1.547% 1.679%
Allowance for loan losses as a
percentage of nonperforming assets
and loans 90 days past due
outstanding for the period 73.523% 78.287% 76.738% 125.368%
Annualized QTD net charge-offs as
a percentage of average loans
outstanding for the period -0.435% -0.876% -4.702% -1.344%
Annualized YTD net charge-offs as -1.797% -2.273% -2.966% -1.340%
a percentage of average loans
outstanding for the period
YTD Average Outstanding Loans 69,731,000 68,922,000 69,097,000 72,150,000
QTD Average Outstanding Loans 72,065,598 68,513,772 66,610,187 71,950,537
Nonperforming assets and 1,362,582 1,258,493 1,342,538 963,808
loans 90 days past due
</TABLE>
<PAGE> 18
PART II - OTHER INFORMATION
Item 1. Legal Proceedings
There are various claims and lawsuits in which the Bank is periodically
involved incidental to the Bank's business. In the opinion of management, no
material loss is expected from any of such pending claims or lawsuits.
Item 2. Changes in Securities
None
Item 3. Defaults on Senior Securities
N/A
Item 4. Submission of Matters to a Vote of Security Holders
None
Item 5. Other Information
None
Item 6. Exhibits and reports on Form 8-K
(a) Exhibits:
Financial Data Schedule (For SEC Use Only)
(b) There have been no Current Reports on Form 8-K during the quarter
ended September 30, 2000.
<PAGE> 19
SIGNATURES
In accordance with the requirements of the Exchange Act, the registrant caused
this report to be signed on its behalf by the undersigned, thereunto duly
authorized.
Date: November 15, 2000
/s/ Gregory B. Jones, President & CEO
Date: November 14, 2000
/s/ Nathaniel F. Hughes, EVP & CFO
