SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-KSB
ANNUAL REPORT UNDER SECTION 13 OR 15(D)
OF THE SECURITIES EXCHANGE ACT OF 1934
FOR THE FISCAL YEAR ENDED DECEMBER 31, 1998 COMMISSION FILE NO. 0-24753
ECB BANCORP, INC.
(Name of small business issuer in its charter)
- - ----------------------------------------- ---- -------------------------------
NORTH CAROLINA 56-2090738
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification No.)
- - ----------------------------------------- ---- -------------------------------
POST OFFICE BOX 337
ENGELHARD, NORTH CAROLINA 27824
(Address of principal executive offices) (Zip Code)
- - ----------------------------------------- ---- -------------------------------
(252) 925-9411
Registrant's telephone number, including area code
Securities registered under Section 12(b) of the Act: NONE
Securities registered under Section 12(g) of the Act: COMMON STOCK, $3.50 PAR
VALUE PER SHARE
(Title of class)
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
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Check if disclosure of delinquent filers in response to Item 405 of
Regulation S-B is not contained in this form, and no disclosure will 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-KSB
or any amendment to this Form 10-KSB.
YES X NO
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Registrant's revenues for its most recent fiscal year were: $ 16,909,358
------------
On March 24, 1999, the aggregate market value of the voting and
non-voting common equity held by nonaffiliates (computed by reference to the
price at which the common equity was sold, or the average bid and asked price of
such common equity) was $19,541,691.
On March 24, 1999, the number of outstanding shares of Registrant's
common stock was 2,125,254.
DOCUMENTS INCORPORATED BY REFERENCE
Portions of Registrant's Annual Report to Shareholders for the year
ended December 31, 1998, are incorporated herein in Part II.
Portions of Registrant's definitive Proxy Statement dated March 29,
1999, are incorporated herein in Part III.
<PAGE>
PART I
ITEM 1. DESCRIPTION OF BUSINESS
GENERAL. Registrant is a bank holding company headquartered in
Engelhard, North Carolina. Registrant operates through, and its principal asset
is its investment in, The East Carolina Bank (the "Bank") which operates as
Registrant's wholly-owned subsidiary.
As part of the Bank's growth strategy, management of the Bank perceived
that the reorganization of the Bank into a holding company form of organization
likely would result in certain advantages, including, without limitation,
additional flexibility in expansion of the Bank's business through the
acquisition of other financial institutions, in the raising of additional
capital through borrowing (if needed) and with respect to other activities and
corporate matters. Additionally, such a reorganization could benefit the Bank's
shareholders through increased public awareness and additional liquidity in the
trading market for the holding company's outstanding equity securities. As a
result, Registrant was organized on March 4, 1998, by the Bank and at the
direction of the Bank's Board of Directors, to serve as the Bank's parent
holding company. Effective July 22, 1998, and to effect the reorganization, (i)
an "interim bank" subsidiary of Registrant (newly formed for the purpose of such
transaction) was merged into the Bank (with the Bank as the surviving
corporation), (ii) the outstanding shares of the Bank's common stock were
converted into an identical number of shares of Registrant's Common Stock with
the result that the then current shareholders of the Bank became shareholders of
Registrant (with the same relative ownership interests that they had in the
Bank) and (iii) Registrant became the Bank's sole shareholder.
The Bank continues to exist under its separate charter and bylaws but as
the wholly-owned subsidiary of Registrant, and continues to conduct its banking
business at all its previous banking offices.
THE BANK. The Bank is an FDIC-insured, North Carolina-chartered bank
which was organized in 1919 and is engaged in a general, community-oriented
commercial and consumer banking business. The Bank currently maintains 15
full-service banking offices in six counties in North Carolina, together with
one loan production office, and its deposits are insured under the FDIC's Bank
Insurance Fund ("BIF") to the maximum amount permitted by law. The Bank has two
wholly-owned subsidiaries. Carolina Financial Realty, Inc. ("CFR") holds title
to five of the Bank's branch offices which it leases to the Bank. The second
subsidiary, Carolina Financial Courier, Inc., formerly provided courier services
to the Bank but currently contracts with a third-party for such services.
The Bank's operations are primarily retail oriented and directed toward
individuals, small- and medium-sized businesses and local governmental units
located in its banking markets, and its deposits and loans are derived primarily
from customers in its banking markets. While the Bank provides most traditional
commercial and consumer banking services, its principal activities are the
taking of demand and time deposits and the making of secured and unsecured
loans. The Bank's primary source of revenue is interest income from its lending
activities, and it has pursued a strategy of growth through internal expansion
by establishing branch offices in communities within its banking markets.
<PAGE>
The Bank's banking markets are located in the east central and
northeastern portions of North Carolina and along North Carolina's Outer Banks.
<PAGE>
The Bank makes a variety of types of consumer and commercial loans to
individuals and small- and medium-sized businesses located primarily in its
banking markets for various personal, business and agricultural purposes,
including term and installment loans, equity lines of credit and overdraft
checking credit. The Bank's loans are concentrated in four major areas: (i) real
estate loans, (ii) commercial and agricultural loans, (iii) installment loans
and (iv) credit card loans.
At December 31, 1998, approximately 48.5% of the Bank's loan portfolio
consisted of real estate loans. All real estate loans are secured by first or
junior liens on real property located almost exclusively in the Bank's
geographic markets (and substantially all of which, both commercial and
residential, is owner occupied or operated), and management estimates that more
than approximately 75% of those loans actually were made for purposes related to
the real estate collateral (generally, loans made to individuals and businesses
for the purchase and improvement of or investment in real estate, including
construction loans to individuals and builders). However, in addition to such
real estate purpose loans, the Bank also makes loans secured by first or junior
liens on real estate for various other commercial, agricultural and consumer
purposes. Such loans generally are reflective of efforts by management to
minimize credit risk by taking real estate as primary or additional collateral
on loans made for purposes not directly related to the real estate itself. The
Bank does not make conventional, long-term residential mortgage loans in its own
name, and none of its other real estate loans are made with the intent to sell
them in the secondary market. Therefore, none of such loans are underwritten to
conform to FNMA or FHLMC guidelines.
Loans secured by real estate may be made at fixed or variable interest
rates and for terms of up to 15 years, or which provide for payments based on an
amortization schedule of up to 15 years. However, loans having terms of more
than five years, or which are based on an amortization schedule of more than
five years, generally will contain contractual provisions which allow the Bank
to call the loan in full, or provide for a "balloon" payment in full, at the end
of each five-year period.
The Bank's commercial and agricultural loans include loans to
individuals and small- and medium-sized businesses located in its banking
markets for working capital, equipment purchases and various other business and
agricultural purposes (other than any such loan secured by real estate) and
loans made to finance the production of crops. A majority of the Bank's
commercial and agricultural loans are secured by inventory, equipment, crops or
similar assets, but these loans also may be made on an unsecured basis.
Commercial and agricultural loans may be made at variable or fixed rates of
interest; however, it currently is the Bank's policy that those loans which have
terms or amortization schedules of longer than five years normally will carry
interest rates which vary with the prime lending rate and may be called in full
at any time after the first five years.
The Bank's installment loan portfolio consists primarily of loans to
individuals for various consumer purposes (other than any such loan secured by
real estate), but also includes the outstanding balances on consumer revolving
credit accounts. The majority of the Bank's installment loans are secured by
liens on various personal assets of the borrowers, but these loans may also be
made on an unsecured basis. Consumer loans generally are made at fixed interest
rates (with the exception of revolving credit accounts which may provide for
variable rates) and for terms which generally do not exceed three years.
However, the Bank will make consumer loans for terms of up to five years. The
Bank is an issuer of MasterCard and Visa credit cards (primarily to customers
within its banking markets). During 1998, the Bank began offering long-term,
residential mortgage
<PAGE>
loans that are originated by the Bank but are underwritten and funded by, and
closed in the name of, third-party lenders. The Bank retains a portion of the
origination fees collected with respect to these loans. This arrangement permits
the Bank to offer this product in its markets and enhance its fee-based income,
but it avoids the credit and interest rate risk associated with long-term loans
since these loans are not in the Bank's loan portfolio.
As described above, the Bank's loan portfolio consists primarily of
loans made for a variety of commercial, agricultural and consumer purposes and
the Bank does not make long-term residential mortgage loans for its own account.
Because these types of loans are made based, to a great extent, on the Bank's
assessment of borrowers' income, cash flow, character and ability to repay (as
compared to long-term residential mortgage loans in which greater emphasis is
placed on collateral), such loans are viewed as involving a higher degree of
credit risk than is the case with long-term residential mortgage loans. To
manage this risk, the Bank's loan portfolio is managed under a defined process,
which includes guidelines for loan underwriting standards and risk assessment,
procedures for loan approvals, loan grading, ongoing identification and
management of credit deterioration and portfolio reviews to assess loss exposure
and to ascertain compliance with the Bank's credit policies and procedures. The
Bank has retained an outside credit risk management consultant to advise the
Bank with respect to its credit policies and procedures and to provide on-line
credit manuals that can be modified quickly and efficiently to reflect periodic
changes. The lending and loan administration process includes a centralized
credit review and analysis prior to funding of all credit decisions involving an
aggregate credit relationship in excess of $200,000, a review of all loans after
funding for adequacy of documentation and compliance with regulatory
requirements and a review by credit administration personnel at least annually
of any credit relationship exceeding $100,000. Additionally, the Bank's credit
risk management consultant currently reviews the Bank's 15 largest lending
relationships and other selected loans three times a year. Reports of the
results of these outside reviews are made to the Board of Directors.
At the time loans are made, and during periodic reviews, loans are
assigned a grade which indicates the level of management attention to be given
to that loan to protect the Bank's position and to reduce loss exposure. During
the life of each loan, its grade is reviewed and validated or modified to
reflect changes in circumstances and risk. Loans are placed in a non-accrual
status if they become 90 days past due or otherwise whenever, in the opinion of
management, collection becomes doubtful, and they are charged off when the
collection of principal and interest is doubtful and the loans can no longer be
considered sound collectible assets (or, in the case of unsecured loans, when
they become 90 days past due).
The General Credit Committee reviews all substandard loans over $10,000
on a quarterly basis, and management of the Bank meets regularly to review asset
quality trends and to discuss loan policy issues. Based on these reviews and
other factors (including a defined formula that takes into consideration general
and specific credit risks in the Bank's loan portfolio), the Bank has
established a reserve for loan losses. The adequacy of the reserve is assessed
by management of the Bank and reviewed by the Bank's Board of Directors each
month.
The Bank's deposit services include business and individual checking
accounts, savings accounts, NOW accounts, certificates of deposit and money
market checking accounts. It is the Bank's policy to monitor its competition in
order to keep the rates paid on its deposits at a competitive level. The Bank's
banking markets include primarily smaller communities where its emphasis on
customer service provides it with a stable
<PAGE>
source of core funding. The vast majority of the Bank's deposits are generated
from within its banking markets, and the Bank does not accept brokered deposits
but does actively solicit public funds deposits in its markets.
The Bank competes for deposits in its banking markets with other
commercial banks, savings banks and other thrift institutions, credit unions,
agencies issuing United States government securities and all other organizations
and institutions engaged in money market transactions. In its lending
activities, the Bank competes with all other financial institutions as well as
consumer finance companies, mortgage companies and other lenders. Commercial
banking in the Bank's banking markets and in North Carolina as a whole is
extremely competitive. North Carolina is the home of three of the largest
commercial banks in the Southeast, each of which has branches located in certain
of the Bank's markets, and 14 other commercial banks, thrift institutions and
credit unions also are represented in its banking markets.
Interest rates, both on loans and deposits, and prices of fee-based
services, are significant competitive factors among financial institutions
generally. Other important competitive factors include office location, office
hours, the quality of customer service, community reputation, continuity of
personnel and services, and, in the case of larger commercial customers,
relative lending limits and the ability to offer more sophisticated cash
management and other commercial banking services. Many of the Bank's competitors
have greater resources, broader geographic markets and higher lending limits
than the Bank, and they can offer more products and services and can better
afford and make more effective use of media advertising, support services and
electronic technology than can the Bank. The Bank depends on its reputation as a
community bank in its local markets, its direct customer contact, its ability to
make credit and other business decisions locally, and its personalized service,
to counter these competitive disadvantages.
In recent years, federal and state legislation has heightened the
competitive environment in which all financial institutions must conduct their
business, and the potential for competition among financial institutions of all
types has increased significantly. Additionally, with the elimination of
restrictions on interstate banking, a North Carolina commercial bank may be
required to compete not only with other North Carolina-based financial
institutions, but also with out-of-state financial institutions which may
acquire North Carolina institutions, establish or acquire branch offices in
North Carolina, or otherwise offer financial services across state lines,
thereby adding to the competitive atmosphere of the industry in general. In
terms of assets, the Bank is one of the smaller commercial banks in North
Carolina, and there is no assurance that the Bank will be or continue to be an
effective competitor in the current financial services environment.
Registrant does not have any separate employees. As of December 31,
1998, the Bank employed 131 full-time employees (including its and Registrant's
executive officers) and 14 part-time employees. The Bank and its employees are
not parties to any collective bargaining agreement, and the Bank considers its
relations with its employees to be good.
ITEM 2. PROPERTIES.
Registrant's offices are located in the Bank's corporate offices in
Engelhard, North Carolina, and Registrant does not own or lease any separate
properties. The Bank maintains the following 16 offices, seven of which it owns,
five of which are owned by CFR and leased to the Bank, three of which are held
under leases with unaffiliated third parties, and one of which was constructed
by the Bank on property held under a ground
<PAGE>
lease with an unaffiliated third party. All of the Bank's existing banking
offices are in good condition and fully equipped for the Bank's purposes.
CENTRAL REGION: Engelhard main banking and corporate office (owned)
Swan Quarter branch office (owned)
Fairfield branch office (leased from CFR)
Columbia branch office (leased from CFR)
Creswell branch office (owned)
Washington loan production office (leased)
WESTERN REGION: Greenville Arlington branch office (owned)
Greenville University Medical Center branch office (owned)
Greenville WalMart Supercenter branch office (leased)
OUTER BANKS REGION: Barco branch office (ground lease)
Southern Shores/Kitty Hawk branch office (leasedfrom CFR)
Nags Head branch office (leased from CFR)
Manteo branch office (owned)
Avon branch office (leased)
Hatteras branch office (leased from CFR)
Ocracoke branch office (owned)
(B) OTHER PROPERTIES OWNED BY THE BANK
None
ITEM 3. LEGAL PROCEEDINGS.
At December 31, 1998, Registrant was not a party to any legal proceeding
that is expected to have a material effect on its financial condition or results
of operations.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS.
Not applicable.
PART II
ITEM 5. MARKET FOR COMMON EQUITY AND RELATED STOCKHOLDER MATTERS
MARKET INFORMATION. Registrant's Common Stock was first issued on July
22, 1998, which is the date upon which Registrant became [THE BANK'S] parent
holding company and its shares were issued in exchange for [THE BANK'S]
outstanding shares. The Common Stock was listed for trading on the Nasdaq Small
Cap Market (under the symbol "ECBE") on November 23, 1998. Previously, it had
been listed on the Nasdaq Bulletin Board. However, there is not an active
trading market for shares of the Common Stock.
Registrant has been informed that, between July 22, 1998, and December
31, 1998, its Common Stock has traded in isolated transactions on the Nasdaq
Bulletin Board and the Nasdaq Small Cap Market at prices ranging from $13.50 to
$20.00 per share.
On March 12, 1999, there were approximately 721 holders of record of
Registrant's Common Stock.
<PAGE>
Between July 22, 1998, and December 31, 1998, Registrant declared one
cash dividend on its Common Stock in the amount of $.255 per share which was
payable on December 7, 1998. Registrant's sole source of funds for the payment
of dividends on the Common Stock is dividends paid to it by [THE BANK] on the
shares of [THE BANK'S] common stock held by Registrant, and the declaration and
payment of future dividends by [THE BANK] will continue to depend on [THE
BANK'S] earnings and financial condition, capital requirements, general economic
conditions, compliance with regulatory requirements generally applicable to
North Carolina banks, and other factors. Registrant's ability to pay dividends
also is subject to its own separate factors, including its earnings and
financial condition, capital requirements and regulatory restrictions applicable
to bank holding companies.
SALES OF COMMON STOCK. During 1998, Registrant issued shares of its
Common Stock as described below.
(A) BANK HOLDING COMPANY REORGANIZATION. Registrant was organized by
[THE BANK] and at the direction of [THE BANK'S] Board of Directors, to serve as
[THE BANK'S] parent holding company. Effective July 22, 1998, and to effect the
reorganization, (i) an "interim bank" subsidiary of Registrant (newly formed for
the purpose of such transaction) was merged into [THE BANK], (ii) the
outstanding shares of [THE BANK'S] common stock were converted into an identical
number of shares of Registrant's Common Stock with the result that [THE BANK'S]
the then current shareholders became shareholders of Registrant (with the same
relative ownership interests that they had in [THE BANK]) and (iii) Registrant
became the sole shareholder of [THE BANK]. An aggregate of 1,780,254 shares of
Registrant's Common Stock were issued to effect the bank holding company
reorganization. In issuing its shares to [THE BANK'S] shareholders, Registrant
relied upon Section 3(a)(12) of the Securities Act of 1933.
(B) PUBLIC OFFERING. On November 23, 1998, Registrant completed a public
offering in which it sold, through Interstate/Johnson Lane Corporation (which
acted as underwriter for the offering), an aggregate of 345,000 shares of its
Common Stock at a price to the public of $14.25 per share. Aggregate
underwriting discounts in the offering were [$368,719]. In connection with the
public offering, the following information is provided:
(1) Effective date of Registration Statement on Form SB-1: November
12, 1998 Commission file number: 333-61839
(2) Date offering commenced: November 12, 1998
(3) (I) The offering terminated after the sale of all shares
registered.
(II) Underwriters: Interstate/Johnson Lane Corporation
(III) Title of class of securities registered: Common Stock,
$3.50 par value
(IV) Amount registered: 345,000 shares
Aggregate offering price of amount registered: $4,916,250
Amount sold: 345,000 shares
Aggregate offering price of amount sold: $4,916,250
(V) Expenses:
Underwriting discounts and commissions: $368,719
Finders' fees: 0
Expenses paid to or for underwriters: 19,635
Other expenses: 259,629
<PAGE>
Total expenses: $647,983
None of such expenses were paid to or
for any of Registrant's directors,
officers, or principal shareholders.
(VI) Net offering proceeds to Registrant
after deduction of total expenses: $4,268,267
(VII) Application of net proceeds:
Construction of plant, building and
facilities: $-0-
Purchase and installation of
machinery and equipment: -0-
Purchase of real estate: -0-
Acquisition of other businesses: -0-
Working capital: $4,268,267
Temporary investments: -0-
None of such proceeds were paid to any
of Registrant's directors, officers or
principal shareholders.
ITEM 6. MANAGEMENT'S DISCUSSION AND ANALYSIS OR PLAN OF OPERATION.
Incorporated herein by reference to pages 31 through 47 of Registrant's
1998 Annual Report to Shareholders.
ITEM 7. FINANCIAL STATEMENTS.
Incorporated herein by reference to pages 11 through 29 of Registrant's
1998 Annual Report to Shareholders.
ITEM 8. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS.
Not applicable.
PART III
ITEM 9. DIRECTORS, EXECUTIVE OFFICERS, PROMOTERS AND CONTROL PERSONS;
COMPLIANCE WITH SECTION 16(A) OF THE EXCHANGE ACT.
Incorporated herein by reference from pages 3 through 4, and page 6
(under the captions "Section 16(a) Beneficial Ownership Reporting Compliance,"
"Proposal 1: Election of Directors" and "Executive Officers") of Registrant's
definitive Proxy Statement dated March 29, 1999.
<PAGE>
ITEM 10. EXECUTIVE COMPENSATION.
Incorporated herein by reference from pages 5 through 8 (under the
caption "Director Compensation," "Executive Compensation" and "Stock Options")
of Registrant's definitive Proxy Statement dated March 29, 1999.
ITEM 11. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT.
Incorporated herein by reference to pages 2 through 3 (under the caption
"Beneficial Ownership of Securities") of Registrant's definitive Proxy Statement
dated March 29, 1999.
ITEM 12. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS.
Incorporated herein by reference to page 8 (under the caption
"Transactions with Management") of Registrant's definitive Proxy Statement dated
March 29, 1999.
ITEM 13. EXHIBITS AND REPORTS ON FORM 8-K.
(A) EXHIBITS. The following exhibits are filed herewith or incorporated
herein by reference as part of this Report.
EXHIBIT
NUMBER DESCRIPTION
------ -----------
3.1 Registrant's Restated Articles of Incorporation (incorporated
by reference from Exhibit 3.1 Registrant's Registration
Statement on Form SB-2, Reg. No. 333-61839)
3.2 Registrant's Bylaws (incorporated by reference from Exhibit
3.2 to Registrant's Registration Statement on Form SB-2, Reg.
No. 333-61839)
10.1 Employment Agreement between Arthur H. Keeney, III and the
Bank (incorporated by reference from Exhibit 10.1 to
Registrant's Registration Statement on Form SB-2, Reg. No.
333-61839)
10.2 Omnibus Stock Ownership and Long Term Incentive Plan
(incorporated by reference from Exhibit 10.2 to Registrant's
Registration Statement on Form SB-2, Reg. No. 333-61839)
10.3 Form of Employee Stock Option Agreement (incorporated by
reference from Exhibit 10.3 to Registrant's Registration
Statement on Form SB-2, Reg. No. 333-61839)
<PAGE>
13.1 Registrant's 1998 Annual Report to Shareholders (filed
herewith)
22 List of subsidiaries of Registrant (incorporated by reference
from Exhibit 21.1 to Registrant's Registration Statement on
Form SB-2, Reg. No. 333-61839)
27 Financial data schedule (filed herewith)
99 Registrant's definitive Proxy Statement dated March 29, 1999,
as filed with the Securities and Exchange Commission (not
being refiled)
(B) REPORTS ON FORM 8-K. During the last quarter of the period covered
by this Report on Form 10-KSB, Registrant filed one (1) Current Report on Form
8-KSB as follows: On October 27, 1998 reporting its financial results for the
nine months ended September 30, 1998, and that its Board of Directors had
declared a cash dividend on its outstanding common stock.
<PAGE>
SIGNATURES
In accordance with Section 13 or 15(d) of the Securities Exchange Act of
1934, Registrant caused this Report to be signed on its behalf by the
undersigned, thereunto duly authorized.
ECB BANCORP, INC.
DATE: MARCH 24, 1999 BY: /s/
---------------------------------------
Arthur H. Keeney, III
President and Chief Executive Officer
In accordance with Section 13 or 15(d) 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 and on the dates indicated.
<TABLE>
<CAPTION>
SIGNATURE TITLE DATE
--------- ----- ----
<S> <C> <C>
_/s/____________________________ President, Chief Executive March 24, 1999
Arthur H. Keeney, III Officer and Director
(principal executive officer)
_/s/____________________________ Senior Vice President and March 24, 1999
Gary M. Adams Chief Financial Officer
(principal financial and
accounting officer)
_/s/____________________________ Chairman March 24, 1999
R. S. Spencer, Jr.
_/s/____________________________ Director March 24, 1999
George T. Davis, Jr.
_/s/____________________________ Director March 24, 1999
C. Gilbert Gibbs
_/s/_____________________________ Director March 24, 1999
Gregory C. Gibbs
</TABLE>
<PAGE>
<TABLE>
<CAPTION>
<S> <C> <C>
_/s/____________________________ Director March 24, 1999
John F. Hughes, Jr.
_/s/____________________________ Director March 24, 1999
J. Bryant Kittrell, III
_/s/____________________________ Director March 24, 1999
Joseph T. Lamb, Jr.
_/s/____________________________ Director March 24, 1999
B. Martelle Marshall
_/s/____________________________ Director March 24, 1999
Robert L. Mitchell
_/s/____________________________ Director March 24, 1999
Ray M. Spencer
</TABLE>
<PAGE>
EXHIBIT INDEX
EXHIBIT
NUMBER DESCRIPTION
------ -----------
3.1 Registrant's Restated Articles of Incorporation (incorporated
by reference from Exhibit 3.1 to Registrant's Registration
Statement on Form SB-2, Reg. No. 333-61839)
3.2 Registrant's Bylaws (incorporated by reference from Exhibit
3.2 to Registrant's Registration Statement on Form SB-2, Reg.
No. 333-61839)
10.1 Employment Agreement between Arthur H. Keeney, III and the
Bank (incorporated by reference from Exhibit 10.1 to
Registrant's Registration Statement on Form SB-2, Reg. No.
333-61839)
10.2 Omnibus Stock Ownership and Long Term Incentive Plan
(incorporated by reference from Exhibit 10.2 to Registrant's
Registration Statement on Form SB-2, Reg. No. 333-61839)
10.3 Form of Employee Stock Option Agreement (incorporated by
reference from Exhibit 10.3 to Registrant's Registration
Statement on Form SB-2, Reg. No. 333-61839)
13.1 Registrant's 1998 Annual Report to Shareholders (filed
herewith)
22 List of subsidiaries of Registrant (incorporated by reference
from Exhibit 21.1 Registrant's Registration Statement on Form
SB-2, Reg. No. 333-61839)
27 Financial data schedule (filed herewith)
99 Registrant's definitive Proxy Statement dated March 29, 1999,
as filed with the Securities and Exchange Commission (not
being refiled)
MISSION STATEMENT
The East Carolina Bank will be operated in a financially sound manner and will
achieve its growth and profit objectives through the delivery of select, quality
financial products and services to individuals, small business, and agricultural
customers in eastern North Carolina.
We will be dedicated to employee development, strive to exceed the public's
expectations with our service orientation, and seek to have our corporate values
reflect those of the community.
The result shall be a high performance independent bank providing career
opportunities for our employees, superior returns for our shareholders, and
Excellence in Community Banking for our customers.
<PAGE>
TABLE OF CONTENTS
[LOGO]--------------------------------------------------------------------------
The East Carolina Bank and Subsidiaries
1998
ANNUAL REPORT
Shareholder Reference ................................................... 3
Letter to Shareholders .................................................. 4-5
The Newman's Own George Award ........................................... 7
Financial Highlights .................................................... 8-9
Consolidated Five Year Financial Summary ................................ 10
Independent Auditors' Report ............................................ 11
Consolidated Balance Sheets ............................................. 12
Consolidated Statements of Income ....................................... 13
Consolidated Statements of Shareholders' Equity ......................... 14
Consolidated Statements of Cash Flows ................................... 15
Notes to Consolidated Financial Statements .............................. 16-29
Management's Discussion and Analysis .................................... 31-47
Board of Directors and Subsidiary Corporations .......................... 48
Bank Senior Management and Corporate Officers ........................... 49
Bank Officers and Department Managers ................................... 50
Branch Officers ......................................................... 51
Attorneys and Correspondent Banks ....................................... 52
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FORWARD-LOOKING STATEMENTS
The Private Securities Litigation Reform Act of 1995 evidences Congress'
determination that the disclosure of forward-looking information is desirable
for investors and encourages such disclosure by providing a safe harbor for
forward-looking statements by Company management. This Annual Report, including
the Letter to Shareholders and Management's Discussion and Analysis of Financial
Condition and Results of Operations, contains forward-looking statements that
involve risk and uncertainty. In order to comply with the terms of the safe
harbor, the Company notes that a variety of factors could cause the Company's
actual results and experience to differ materially from the anticipated results
or other expectations expressed in the Company's forward-looking statements.
The risks and uncertainties that may affect the operations, performance,
development, growth projections and results of the Company's business include,
but are not limited to, the growth of the economy, interest rate movements,
timely development by the Company of technology enhancements for its products
and operating systems, the impact of competitive products, services and pricing,
customer business requirements, Congressional legislation and similar matters.
Readers of this report are cautioned not to place undue reliance on
forward-looking statements which are subject to influence by the named risk
factors and unanticipated future events. Actual results, accordingly, may differ
materially from management expectations.
- - --------------------------------------------------------------------------------
2
<PAGE>
SHAREHOLDER REFERENCE
- - --------------------------------------------------------------------------[LOGO]
The East Carolina Bank and Subsidiaries
ANNUAL MEETING
The Annual Shareholders' Meeting will be held
Wednesday, April 28, 1999 at 11:00 a.m. at
the Lodge at Lake Mattamuskeet, Hyde County, North Carolina.
HEADQUARTERS
Post Office Box 337
35080 US Highway 264
Engelhard, North Carolina 27824
(252) 925-9411
FORM 10-KSB
Copies of ECB Bancorp, Inc.'s Annual Report Form 10-KSB to the Securities and
Exchange Commission may be obtained without charge by writing to Gary M. Adams,
Senior VP & Chief Financial Officer, The East Carolina Bank, P.O. Box 337,
Engelhard, North Carolina 27824.
ANNUAL DISCLOSURE STATEMENT
A copy of the Bank's Annual Disclosure Statement may be obtained without charge
by contacting Gary M. Adams, Senior VP & Chief Financial Officer, The East
Carolina Bank, P.O. Box 337, Engelhard, North Carolina 27824.
STOCK TRANSFER AND REGISTRAR
First Citizens Bank & Trust Company
P.O. Box 151
Raleigh, North Carolina 27602
SHAREHOLDER ACCOUNT INQUIRIES
Communications regarding transfer requirements and lost certificates should be
directed to:
The East Carolina Bank
P.O. Box 337
35080 US Highway 264
Engelhard, North Carolina 27824
Attention: Corporate Secretary
INDEPENDENT CERTIFIED PUBLIC ACCOUNTANTS
KPMG LLP
Suite 1200, 150 Fayetteville Street Mall
P.O. Box 29543
Raleigh, North Carolina 27626-0543
INVESTMENT BANKING ADVISOR
Interstate/Johnson Lane
Interstate Tower
P.O. Box 1012
Charlotte, North Carolina 28201-1012
COUNSEL
Davis & Davis
Attorneys at Law
P.O. Box 277
Swan Quarter, North Carolina 27885
BUSINESS PROFILE
ECB Bancorp, Inc. ("Bancorp") is a bank holding company headquartered in
Engelhard, North Carolina, whose wholly-owned subsidiary, The East Carolina Bank
(the "Bank" or "ECB") (collectively referred to hereafter as the "Company"), is
a state-chartered, independent, community bank founded in 1919. At year-end
1998, The East Carolina Bank had 131 full-time employees. ECB is a member of the
Federal Deposit Insurance Corporation, the American Bankers Association, the
North Carolina Bankers Association, and the Independent Bankers Association of
America. The Bank currently operates 15 full-service branches, a loan production
office and twelve automated teller machines in eastern North Carolina. Ten of
these offices are located in mainland Beaufort, Currituck, Hyde, Pitt, Tyrrell,
and Washington counties, and six are on North Carolina's famed Outer Banks, from
Ocracoke Island in Hyde County to Southern Shores in Dare County.
- - --------------------------------------------------------------------------------
Excellence in Community Banking
3
<PAGE>
LETTER TO SHAREHOLDERS
[LOGO]--------------------------------------------------------------------------
The East Carolina Bank and Subsidiaries
Dear Shareholder:
This report represents the first annual report of ECB Bancorp, Inc., the new
holding company for The East Carolina Bank. To that end, I am also pleased to
announce that 1998 was another record-setting year. We continue to be blessed
with a strong and diverse economy in our market area. This was once again
displayed in 1998 even though we had to deal with hurricane Bonnie in addition
to certain other adverse weather conditions for our agri-business segment.
For the year ended December 31, 1998, Bancorp generated a consolidated net
income of $1,959,000, or $1.08 per share, which is a 17.1% increase over the
$1,673,000, or $.94 per share, earned for the period ended December 31, 1997.
Consolidated total assets at year-end 1998 were $210,484,000, an 11.8% increase
over total assets of $188,228,000 at December 31, 1997. Deposits of $184,185,000
represented a 7.8% increase over the previous year-end balance of $170,909,000.
Loans grew 9.7% to $133,024,000 at December 31, 1998, up from $121,209,000 at
December 31, 1997. Consolidated shareholders' equity for the period-end was
$21,852,000, representing a 39.1% increase over the 1997 level.
These financial results equate to a 1.01% return on average assets and an 11.33%
return on average equity.
1998 was an exciting and event-filled year for your organization. Much of Senior
Management's time in 1998 was devoted to several special projects. Not only was
a holding company form of organization put in place, but the Directors also
authorized a three-for-one stock split as a display of their confidence in the
corporation's future. Both of these actions became effective July 22, 1998, and
were matters that were approved for implementation at last year's shareholders'
meeting. Moreover, in the fall of 1998, ECB Bancorp, Inc. undertook the sale of
additional shares of common stock principally to support the continuation of its
growth. We are gratified to report that the offering was over subscribed.
Interstate/Johnson Lane Corporation served as underwriter for the offering and
we are now listed on Nasdaq's SmallCap Market. For those of you who are first
time shareholders, we welcome you to the family of ECB, Bancorp investors.
The organization's overall performance in 1998 was also gratifying, particularly
in light of certain increases in expenses associated with the expansion into new
markets and the introduction of several new products. We are pleased to report
that the new offices in Avon (Dare County) and Barco (Currituck County) continue
to perform above expectations. The Bank's home mortgage products introduced
earlier last year continue to progress well. To continue this momentum, a new
Home Equity product line was introduced in March 1999 which we also anticipate
will be a success.
The construction of our new branch location in Manteo, (Dare County) is
progressing nicely while in Washington, NC we are well underway in the
completion of our 16th full service branch. We hope to open in late spring 1999
and eagerly look forward to bringing our form of community banking to the
businesses and consumers of western Beaufort County. We have also announced the
closing of our WalMart Branch (Greenville) after three years of effort to reach
our goals. The Bank's valued employees and customers will be assigned to one of
our other two Greenville locations.
It goes without saying that your Directors and Senior Managers are dedicated to
achieving ECB Bancorp's organizational goals of being a "Best Bank" and creating
sustainable increases in shareholder value. To that end, we will continue to
explore the addition of several new products including those relating to
insurance and investment services as well as financial counseling. 1999 will
also see a continuation of ECB Bancorp's firm commitment to both product and
sales training so that we may continue to maintain our leadership position in
each market for "quality customer service". Moreover, we will continue to
explore creative uses of technology such as in check statement imaging and home
banking via the Internet.
- - --------------------------------------------------------------------------------
4
<PAGE>
LETTER TO SHAREHOLDERS
- - --------------------------------------------------------------------------[LOGO]
The East Carolina Bank and Subsidiaries
Elsewhere in this report you will find a more detailed explanation of how ECB
Bancorp is meeting the challenges surrounding the change in century. Suffice it
to say, our "Year 2000" taskforce is tackling all issues, whether they be
technical or psychological in nature. Managing the public's apprehension
surrounding the "Y2K issue" will be a challenge for all financial institutions.
As this effort continues through 1999, our staff will be conducting public
seminars for both consumers and businesses with the goal of educating the
audiences on how to manage a variety of "millennium" issues. You will be pleased
to know that we have a very thorough contingency plan to deal with Y2K issues,
including minor interruptions caused by the possible loss of electrical and
telephone service.
On the following page, you will find a photo of "The Newman's Own/George Award".
In case you have not heard, The East Carolina Bank's philanthropic endeavors
were nationally recognized at a dinner in New York in April 1998 hosted by
Newman's Own/George Magazine. The Bank was a top ten finalist for the magazine's
"Most Generous Company in America" award.
By splitting our stock and issuing additional shares in 1998 (and becoming
listed on Nasdaq's SmallCap Market), we believe we have created additional
liquidity and visibility for ECB Bancorp investors. Commencing in 1999, it is
our intent to pay dividends quarterly rather than once a year as we have done
historically. These actions have been part of a plan designed to drive and
create sustainable shareholder value. These initiatives will also assist in
protecting the organization's ability to be both flexible and responsive to
changing market and economic circumstances.
The increased financial results that are being reported are a direct result of
the organization's strategic initiatives formulated and implemented since 1996.
In February 1999, the Board of Directors and the Senior Management team joined
in a retreat to review and update where necessary the organization's current
strategic plan. The conference was quite successful and the participants left
confident that ECB Bancorp is facing the future in good order.
We have received several requests to close this letter in the first annual
report for ECB Bancorp, in the same manner as we have closed the Shareholders'
letter for The East Carolina Bank over the last several years, so here goes. I
would once again like to thank the Directors for their confidence and to
acknowledge the continued display of teamwork throughout the organization, but
particularly among the management team. Additionally, I will again thank the
employees as I have all year long for their support and dedication to the
principles upon which the success of this bank will be built. Lastly, I want to
thank the shareholders for their support and patience as we put together a
top-performing bank which will handsomely reward their investment over time.
Sincerely,
/s/ Arthur H. Keeney, III
Arthur H. Keeney, III
President & CEO
March 29, 1999
- - --------------------------------------------------------------------------------
Excellence in Community Banking
5
<PAGE>
[LOGO]--------------------------------------------------------------------------
The East Carolina Bank and Subsidiaries
[LOGO]
Excellence in Community Banking
- - --------------------------------------------------------------------------------
6
<PAGE>
[PHOTO]
"The Newman's Own George/Award"
- - --------------------------------------------------------------------------------
Excellence in Community Banking
7
<PAGE>
FINANCIAL HIGHLIGHTS
[LOGO]--------------------------------------------------------------------------
The East Carolina Bank and Subsidiaries
[THE FOLLOWING TABLE WAS REPRESENTED BY A BAR CHART IN THE PRINTED MATERIAL.]
RETURN ON ASSETS
1994 .82%
1995 .74%
1996 .80%
1998 1.01%
1997 .93%
[THE FOLLOWING TABLE WAS REPRESENTED BY A BAR CHART IN THE PRINTED MATERIAL.]
RETURN ON EQUITY
1994 10.37%
1995 9.16%
1996 9.55%
1997 11.07%
1998 11.33%
- - --------------------------------------------------------------------------------
8
<PAGE>
FINANCIAL HIGHLIGHTS
- - --------------------------------------------------------------------------[LOGO]
The East Carolina Bank and Subsidiaries
<TABLE>
<CAPTION>
Percent
1998 1997 Change
- - -------------------------------------------------------------------------------------------------
<S> <C> <C> <C>
For the year:
Operating income $ 16,909,358 $ 15,585,282 8.5%
Operating expense 14,950,318 13,912,031 7.5%
Net income 1,959,040 1,673,251 17.1%
Per share amounts (basic and diluted) 1.08 .94 14.7%
Cash dividends declared 453,965 415,393 9.3%
Per share $ .255 $ .233 9.3%
Average number of common shares outstanding 1,817,117 1,780,254 02.1%
================================================================= ============ =====
At year-end:
Assets $210,483,738 $188,227,722 11.8%
Earning assets 191,418,473 168,328,783 13.7%
Loans 133,024,004 121,208,810 9.7%
Investment securities 58,394,469 47,119,973 23.9%
Allowance for possible loan losses 2,750,000 2,660,000 3.4%
Deposits 184,184,803 170,908,861 7.8%
Shareholders' equity 21,852,346 15,713,293 39.1%
Book value per share $ 10.28 $ 8.83 16.5%
================================================================= ============ =====
Averages:
Assets $194,618,000 $180,515,000 7.8%
Earning assets 179,290,000 167,269,000 7.2%
Loans 127,650,000 118,185,000 8.0%
Deposits 175,857,000 164,363,000 7.0%
Shareholders' equity 17,295,000 15,113,000 14.4%
</TABLE>
[THE FOLLOWING TABLE WAS REPRESENTED BY A BAR CHART IN THE PRINTED MATERIAL.]
<TABLE>
<CAPTION>
Net Income
<S> <C> <C>
1998 $1,959,040
1997 $1,673,251
1996 $1,333,763
1994 $1,247,365
1995 $1,190,183
</TABLE>
- - --------------------------------------------------------------------------------
Excellence in Community Banking
9
<PAGE>
CONSOLIDATED FIVE YEAR FINANCIAL SUMMARY
[LOGO]--------------------------------------------------------------------------
The East Carolina Bank and Subsidiaries
<TABLE>
<CAPTION>
ASSETS AND LIABILITIES 1998 1997 1996 1995 1994
- - -------------------------------------------------------------- ------------ ------------ ------------ --------------
<S> <C> <C> <C> <C> <C>
Deposits $184,184,803 $170,908,861 $151,335,562 $150,435,845 $141,044,393
Demand 86,197,280 73,153,398 66,263,148 61,617,488 62,631,974
Savings and time 97,987,523 97,755,463 85,072,414 88,818,357 78,412,419
Loans 133,024,004 121,208,810 112,655,981 94,488,919 85,997,184
Securities: 58,394,469 47,119,973 34,588,505 47,771,754 51,160,625
Taxable 41,527,347 33,062,817 25,334,366 38,259,514 41,834,692
Tax exempt 16,867,122 14,057,156 9,254,139 9,512,240 9,325,933
Allowance for possible loan losses 2,750,000 2,660,000 2,400,000 1,950,000 1,900,000
Shareholders' equity 21,852,346 15,713,293 14,249,546 13,426,644 11,904,174
Assets $210,483,738 $188,227,722 $167,217,594 $165,407,814 $153,552,839
============================================================== ============ ============ ============ ==============
OPERATING SUMMARY
Interest income:
Interest and fees on loans $ 12,014,838 $ 10,887,327 $ 9,521,265 $ 8,754,549 $ 7,237,495
Interest on securities 2,625,600 2,261,265 2,390,995 2,677,175 2,488,626
Interest on federal funds sold 241,595 490,623 301,265 371,806 188,251
- - -------------------------------------------------------------- ------------ ------------ ------------ --------------
Total interest income 14,882,033 13,639,215 12,213,525 11,803,530 9,914,372
- - -------------------------------------------------------------- ------------ ------------ ------------ --------------
Interest expense:
Interest on deposits 5,351,026 5,363,757 4,831,397 5,207,179 3,560,886
Interest on borrowed money 8,853 786 9,459 8,746 3,261
- - -------------------------------------------------------------- ------------ ------------ ------------ --------------
Total interest expense 5,359,879 5,364,543 4,840,856 5,215,925 3,564,147
- - -------------------------------------------------------------- ------------ ------------ ------------ --------------
Net interest income 9,522,154 8,274,672 7,372,669 6,587,605 6,350,225
Provision for possible loan losses 242,396 353,513 496,914 515,066 396,926
Non-interest income 2,027,325 1,946,067 1,718,064 1,669,518 1,580,990
Non-interest expenses 8,703,043 7,543,975 6,785,056 6,167,874 5,786,924
- - -------------------------------------------------------------- ------------ ------------ ------------ --------------
Income before taxes and cumulative
effect of a change in accounting
for postretirement benefits 2,604,040 2,323,251 1,808,763 1,574,183 1,747,365
Income taxes 645,000 650,000 475,000 384,000 500,000
- - -------------------------------------------------------------- ------------ ------------ ------------ --------------
Income before cumulative effect of
a change in accounting for
postretirement benefits 1,959,040 1,673,251 1,333,763 1,190,183 1,247,365
- - -------------------------------------------------------------- ------------ ------------ ------------ --------------
Cumulative effect for years prior to
January 1, 1995 of a change in
accounting for postretirement benefits,
net of income tax -- -- -- (278,555) --
- - -------------------------------------------------------------- ------------ ------------ ------------ --------------
Net income $ 1,959,040 $ 1,673,251 $ 1,333,763 $ 911,628 $ 1,247,365
============================================================== ============ ============ ============ ==============
Weighted average outstanding
shares of common stock 1,817,117 1,780,254 1,780,254 1,780,254 1,780,254
Per share amounts:
Income before cumulative effect of
a change in accounting for
postretirement benefits $ 1.08 $ 0.94 $ 0.75 $ 0.67 $ 0.70
Cumulative effect for years prior
to January 1, 1995 of a change in
accounting for postretirement benefits -- -- -- (0.16) --
- - -------------------------------------------------------------- ------------ ------------ ------------ --------------
Net income per common share
(basic and diluted) $ 1.08 $ .94 $ .75 $ .51 $ .70
============================================================== ============ ============ ============ ==============
</TABLE>
- - --------------------------------------------------------------------------------
10
<PAGE>
INDEPENDENT AUDITORS' REPORT
- - --------------------------------------------------------------------------[LOGO]
The East Carolina Bank and Subsidiaries
INDEPENDENT AUDITORS' REPORT
THE BOARD OF DIRECTORS
ECB BANCORP, INC.:
We have audited the accompanying consolidated balance sheets of ECB Bancorp,
Inc. and subsidiary (the "Company") as of December 31, 1998 and 1997, and the
related consolidated statements of income, shareholders' equity, and cash flows
for each of the years in the three-year period ended December 31, 1998. These
consolidated financial statements are the responsibility of the Company'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 financial statements are free of material
misstatement. An audit includes examining, on a test basis, evidence supporting
the amounts and disclosures in the 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 ECB Bancorp, Inc.
and subsidiary as of December 31, 1998 and 1997, and the results of their
operations and their cash flows for each of the years in the three-year period
ended December 31, 1998, in conformity with generally accepted accounting
principles.
KPMG LLP
Raleigh, North Carolina
February 5, 1999
- - --------------------------------------------------------------------------------
Excellence in Community Banking
11
<PAGE>
CONSOLIDATED BALANCE SHEETS
[LOGO]--------------------------------------------------------------------------
The East Carolina Bank and Subsidiaries
<TABLE>
<CAPTION>
December 31, 1998 and 1997
Assets 1998 1997
- - ------------------------------------------------------------------------------------------------------------- -------------
<S> <C> <C>
Non-interest bearing deposits and cash (note 13) $ 11,786,543 $ 8,280,694
Federal funds sold -- 4,425,000
- - ------------------------------------------------------------------------------------------------------------- -------------
Total cash and cash equivalents 11,786,543 12,705,694
- - ------------------------------------------------------------------------------------------------------------- -------------
Investment securities (note 2):
Available-for-sale (cost: $57,374,975 and
$46,655,155, respectively) 58,394,469 47,119,973
Loans (note 3) 133,024,004 121,208,810
Allowance for possible loan losses (note 4) (2,750,000) (2,660,000)
- - ------------------------------------------------------------------------------------------------------------- -------------
Loans, net 130,274,004 118,548,810
- - ------------------------------------------------------------------------------------------------------------- -------------
Real estate acquired in settlement of loans, net 50,000 340,000
Real estate held for sale, net -- 150,000
Federal Home Loan Bank common stock, at cost 564,800 503,000
Bank premises and equipment, net (note 5) 7,006,508 6,266,283
Accrued interest receivable 2,096,424 1,922,814
Other assets (note 6) 310,990 671,148
- - ------------------------------------------------------------------------------------------------------------- -------------
Total $ 210,483,738 $ 188,227,722
============================================================================================================= =============
Liabilities and Shareholders' Equity
- - ------------------------------------------------------------------------------------------------------------- -------------
Deposits (note 10):
Demand, noninterest bearing $ 38,086,062 $ 31,897,001
Demand, interest bearing 48,111,218 41,256,397
Savings 14,561,072 14,712,835
Time 83,426,451 83,042,628
- - ------------------------------------------------------------------------------------------------------------- -------------
Total deposits 184,184,803 170,908,861
- - ------------------------------------------------------------------------------------------------------------- -------------
Federal funds purchased 2,725,000 --
Accrued interest payable 829,104 698,997
Other liabilities (note 7) 892,485 906,571
- - ------------------------------------------------------------------------------------------------------------- -------------
Total liabilities 188,631,392 172,514,429
- - ------------------------------------------------------------------------------------------------------------- -------------
Shareholders' equity (notes 11, 13 and 16):
Common stock, par value $3.50 per share; authorized
10,000,000 shares; issued and outstanding 2,125,254 and
1,780,254 shares at December 31, 1998 and 1997, respectively 7,438,389 6,230,889
Capital surplus 6,260,392 3,200,000
Retained earnings 7,480,699 5,975,624
Accumulated other comprehensive income 672,866 306,780
- - ------------------------------------------------------------------------------------------------------------- -------------
Total shareholders' equity 21,852,346 15,713,293
- - ------------------------------------------------------------------------------------------------------------- -------------
Commitments and contingencies (notes 12 and 14)
Total $ 210,483,738 $ 188,227,722
============================================================================================================= =============
</TABLE>
- - --------------------------------------------------------------------------------
See accompanying notes to consolidated financial statements.
12
<PAGE>
CONSOLIDATED STATEMENTS OF INCOME
- - --------------------------------------------------------------------------[LOGO]
The East Carolina Bank and Subsidiaries
<TABLE>
<CAPTION>
Years ended December 31, 1998, 1997 and 1996
1998 1997 1996
- - ------------------------------------------------------------------------------------ ----------- ----------- -----------
<S> <C> <C> <C>
Interest income:
Interest and fees on loans $12,014,838 $10,887,327 $ 9,521,265
Interest on investment securities:
Interest exempt from federal income taxes 751,990 511,653 472,206
Taxable interest income 1,873,610 1,749,612 1,918,789
Interest on federal funds sold 241,595 490,623 301,265
- - ------------------------------------------------------------------------------------ ----------- ----------- -----------
Total interest income 14,882,033 13,639,215 12,213,525
- - ------------------------------------------------------------------------------------ ----------- ----------- -----------
Interest expense:
Deposits (note 10):
Demand accounts 686,085 698,635 699,138
Savings 284,094 308,012 328,029
Time 4,380,847 4,357,110 3,804,230
Other 8,853 786 9,459
- - ------------------------------------------------------------------------------------ ----------- ----------- -----------
Total interest expense 5,359,879 5,364,543 4,840,856
- - ------------------------------------------------------------------------------------ ----------- ----------- -----------
Net interest income 9,522,154 8,274,672 7,372,669
Provision for possible loan losses (note 4) 242,396 353,513 496,914
- - ------------------------------------------------------------------------------------ ----------- ----------- -----------
Net interest income after provision for possible loan losses 9,279,758 7,921,159 6,875,755
- - ------------------------------------------------------------------------------------ ----------- ----------- -----------
Non-interest income:
Service charges on deposit accounts 1,334,958 1,391,136 1,102,866
Other service charges and fees 590,832 524,638 419,128
Net gain on sale of securities -- -- 5,662
Net gain on sale of real estate acquired in settlement
of loans and real estate held for sale -- -- 110,960
Other 101,535 30,293 79,448
- - ------------------------------------------------------------------------------------ ----------- ----------- -----------
Total non-interest income 2,027,325 1,946,067 1,718,064
- - ------------------------------------------------------------------------------------ ----------- ----------- -----------
Non-interest expense:
Salaries 3,186,103 2,938,570 2,770,184
Retirement and other employee benefits (note 7) 1,083,843 971,474 939,505
Occupancy 720,257 623,134 549,613
Equipment 875,232 768,244 563,478
Deposit insurance premiums 20,532 24,589 1,500
Professional fees 318,336 209,038 198,298
Supplies 251,076 221,978 183,942
Telephone 265,386 216,821 176,034
Postage 171,747 150,311 143,458
Other 1,810,531 1,419,816 1,259,044
- - ------------------------------------------------------------------------------------ ----------- ----------- -----------
Total non-interest expense 8,703,043 7,543,975 6,785,056
- - ------------------------------------------------------------------------------------ ----------- ----------- -----------
Income before income taxes 2,604,040 2,323,251 1,808,763
Income taxes (note 6) 645,000 650,000 475,000
- - ------------------------------------------------------------------------------------ ----------- ----------- -----------
Net income $ 1,959,040 $ 1,673,251 $ 1,333,763
==================================================================================== =========== =========== ===========
Net income per share (basic and diluted) $ 1.08 $ 0.94 $ 0.75
Weighted average common shares outstanding 1,817,117 1,780,254 1,780,254
==================================================================================== =========== =========== ===========
</TABLE>
See accompanying notes to consolidated financial statements.
- - --------------------------------------------------------------------------------
13
<PAGE>
CONSOLIDATED STATEMENTS OF SHAREHOLDERS' EQUITY
[LOGO]--------------------------------------------------------------------------
The East Carolina Bank and Subsidiaries
<TABLE>
<CAPTION>
Years ended December 31, 1998, 1997 and 1996
Common stock Accumulated
--------------------------- other
Number Capital Retained comprehensive
of shares Amount surplus earnings income
- - ------------------------------------- ------------ ------------ ------------ ------------ ------------
Balance at December 31, 1995
<S> <C> <C> <C> <C> <C>
(note 11) 1,780,254 $ 6,230,889 $ 3,200,000 $ 3,763,791 $ 231,964
Unrealized losses, net of
income taxes of $67,500 -- -- -- -- (131,073)
Net income -- -- -- 1,333,763 --
Total comprehensive income
Cash dividends ($.21 per share) -- -- -- (379,788) --
- - ------------------------------------- ------------ ------------ ------------ ------------ ------------
Balance at December 31, 1996 1,780,254 6,230,889 3,200,000 4,717,766 100,891
Unrealized gains, net of
income taxes of $106,000 -- -- -- -- 205,889
Net income -- -- -- 1,673,251 --
Total comprehensive income
Cash dividends ($.23 per share) -- -- -- (415,393) --
- - ------------------------------------- ------------ ------------ ------------ ------------ ------------
Balance at December 31, 1997 1,780,254 6,230,889 3,200,000 5,975,624 306,780
Unrealized gains, net of
income taxes of $188,590 -- -- -- -- 366,086
Net income -- -- -- 1,959,040 --
Total comprehensive income
Common stock issued (note 11) 345,000 1,207,500 3,060,392 -- --
Cash dividends ($.255 per share) -- -- -- (453,965) --
- - ------------------------------------- ------------ ------------ ------------ ------------ ------------
Balance at December 31, 1998 2,125,254 $ 7,438,389 $ 6,260,392 $ 7,480,699 $ 672,866
===================================== ============ ============ ============ ============ ============
</TABLE>
<TABLE>
<CAPTION>
Comprehensive
income Total
- - ------------------------------------- ------------ ------------
Balance at December 31, 1995
<S> <C> <C>
(note 11) $ 13,426,644
Unrealized losses, net of
income taxes of $67,500 (131,073) (131,073)
Net income 1,333,763 1,333,763
Total comprehensive income $ 1,202,690
============
Cash dividends ($.21 per share) (379,788)
- - ------------------------------------- ------------ ------------
Balance at December 31, 1996 14,249,546
Unrealized gains, net of
income taxes of $106,000 205,889 205,889
Net income 1,673,251 1,673,251
Total comprehensive income $ 1,879,140
============
Cash dividends ($.23 per share) (415,393)
- - ------------------------------------- ------------ ------------
Balance at December 31, 1997 15,713,293
Unrealized gains, net of
income taxes of $188,590 366,086 366,086
Net income 1,959,040 1,959,040
------------
Total comprehensive income $ 2,325,126
============
Common stock issued (note 11) 4,267,892
Cash dividends ($.255 per share) (453,965)
- - ------------------------------------- ------------ ------------
Balance at December 31, 1998 $ 21,852,346
===================================== ============
</TABLE>
See accompanying notes to consolidated financial statements.
14
<PAGE>
CONSOLIDATED STATEMENTS OF CASH FLOWS
- - --------------------------------------------------------------------------[LOGO]
The East Carolina Bank and Subsidiaries
<TABLE>
<CAPTION>
Years ended December 31, 1998, 1997 and 1996
1998 1997 1996
- - -------------------------------------------------------------------------------- ------------ ------------ ------------
<S> <C> <C> <C>
Cash flows from operating activities:
Net income $ 1,959,040 $ 1,673,251 $ 1,333,763
Adjustments to reconcile net income to net
cash provided by operating activities:
Depreciation 668,383 545,852 445,314
Amortization of premium on investment securities, net 54,862 51,838 9,870
Provision for possible loan losses 242,396 353,513 496,914
Provision for loss on real estate held for sale -- 50,000 53,800
Deferred income taxes 72,000 (33,700) (128,500)
Loss (gain) on sale of available-for-sale securities -- 25,818 (5,662)
Loss (gain) on sale of real estate acquired in settlement
of loans and real estate held for sale (6,476) 95 (110,960)
Loss on disposal of premises and equipment 6,285 7,242 8,384
Increase in accrued interest receivable (173,610) (403,494) (74,499)
Decrease (increase) in other assets 99,568 (914) (8,989)
Increase (decrease) in accrued interest payable 130,107 115,265 (72,264)
Increase in postretirement benefit liability 20,747 42,000 28,000
Increase (decrease) in other liabilities (34,833) (184,183) 106,518
- - -------------------------------------------------------------------------------- ------------ ------------ ------------
Net cash provided by operating activities 3,038,469 2,242,583 2,081,689
- - -------------------------------------------------------------------------------- ------------ ------------ ------------
Cash flows from investing activities:
Proceeds from sales of investment securities classified
as available-for-sale -- 3,015,439 513,924
Proceeds from maturities of investment securities
classified as available-for-sale 9,913,543 13,349,710 21,500,092
Purchases of investment securities classified as available-for-sale (20,688,225) (28,662,322) (9,033,608)
Purchases of Federal Home Loan Bank common stock (61,800) (503,000) --
Proceeds from disposal of premises and equipment 12,063 23,665 21,842
Purchases of premises and equipment (1,426,956) (1,304,813) (592,433)
Proceeds from disposal of real estate acquired in
settlement of loans and real estate held for sale 446,476 50,263 406,653
Net loan originations (11,967,590) (9,075,362) (18,146,433)
- - -------------------------------------------------------------------------------- ------------ ------------ ------------
Net cash used by investing activities (23,772,489) (23,106,420) (5,329,963)
- - -------------------------------------------------------------------------------- ------------ ------------ ------------
Cash flows from financing activities:
Net increase in deposits 13,275,942 19,573,299 924,642
Net increase in federal funds purchased 2,725,000 -- --
Dividends paid (453,965) (415,393) (379,788)
Proceeds from issuance of common stock 4,267,892 -- --
- - -------------------------------------------------------------------------------- ------------ ------------ ------------
Net cash provided by financing activities 19,814,869 19,157,906 544,854
- - -------------------------------------------------------------------------------- ------------ ------------ ------------
Decrease in cash and cash equivalents (919,151) (1,705,931) (2,703,420)
Cash and cash equivalents at beginning of year 12,705,694 14,411,625 17,115,045
- - -------------------------------------------------------------------------------- ------------ ------------ ------------
Cash and cash equivalents at end of year $ 11,786,543 $ 12,705,694 $ 14,411,625
================================================================================ ============ ============ ============
Supplemental disclosure of noncash financing and investing activities:
Unrealized gains (losses) on available-for-sale securities,
net of deferred taxes $ 366,086 $ 205,889 $ (131,073)
================================================================================ ============ ============ ============
</TABLE>
See accompanying notes to consolidated financial statements.
- - --------------------------------------------------------------------------------
Excellence in Community Banking
15
<PAGE>
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
[LOGO]--------------------------------------------------------------------------
The East Carolina Bank and Subsidiaries
December 31, 1998 and 1997
(1) Summary of Significant Accounting and Reporting Policies
(a) Consolidation
The consolidated financial statements include the accounts of ECB bancorp,
Inc. ("Bancorp") (see note 11) and its wholly-owned subsidiary, The East
Carolina Bank (the "Bank") (collectively referred to hereafter as the
"Company"). The Bank has two wholly-owned subsidiaries, Carolina Financial
Realty, Inc. and Carolina Financial Courier, Inc. Significant intercompany
accounts and transactions have been eliminated in consolidation.
(b) Basis of Financial Statement Presentation
The preparation of financial statements in conformity with generally
accepted accounting principles requires management to make estimates and
assumptions that affect the reported amounts of assets and liabilities and
disclosure of contingent assets and liabilities as of the date of the
balance sheets and the reported amounts of income and expenses for the
periods presented. Actual results could differ significantly from those
estimates.
Material estimates that are particularly susceptible to significant change
in the near-term relate to the determination of the allowance for possible
loan losses. In connection with the determination of the allowance for
possible loan losses, management obtains independent appraisals for
significant properties held as collateral for loans.
(c) Business
Bancorp is a bank holding company incorporated in North Carolina. The
principal activity of Bancorp is ownership of the Bank. The Bank provides
financial services through its branch network located in eastern North
Carolina. The Bank competes with other financial institutions and numerous
other non-financial services commercial entities offering financial
services products. The Bank is further subject to the regulations of
certain federal and state agencies and undergoes periodic examinations by
those regulatory authorities. The Company has no foreign operations, and
the Company's customers are principally located in eastern North Carolina.
(d) Cash and Cash Equivalents
Cash and cash equivalents include demand and time deposits (with original
maturities of ninety days or less) at other financial institutions and
federal funds sold. Generally, federal funds are purchased and sold for
one-day periods.
(e) Investment Securities
Management determines the appropriate classification of investment
securities at the time of purchase and reevaluates such designation at each
reporting date. Securities are classified as held-to-maturity ("HTM") when
the Company has both the positive intent and ability to hold the securities
to maturity. HTM securities are stated at amortized cost. Securities not
classified as HTM are classified as available-for-sale ("AFS"). AFS
securities are stated at fair value as determined by reference to published
sources, with the unrealized gains and losses, net of income taxes,
reported as a separate component of shareholders' equity. The Company has
no trading securities.
The amortized cost of securities classified as HTM or AFS is adjusted for
amortization of premiums and accretion of discounts to maturity. Such
amortization is included in interest income from investments. Realized
gains and losses, and declines in value judged to be other-than-temporary
are included in net securities gains (losses). The cost of securities sold
is based on the specific identification method.
(f) Loans Receivable
Loans are generally stated at their outstanding unpaid principal balances
net of any deferred fees or costs. Loan origination fees net of certain
direct loan origination costs are deferred and amortized as a yield
adjustment over the contractual life of the related loans using the
level-yield method.
- - --------------------------------------------------------------------------------
16
<PAGE>
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
- - --------------------------------------------------------------------------[LOGO]
The East Carolina Bank and Subsidiaries
(1) Summary of Significant Accounting and Reporting Policies (continued)
Interest on loans is recorded based on the principal amount outstanding.
The Company ceases accruing interest on loans (including impaired loans)
when, in management's judgment, the collection of interest income appears
doubtful or the loan is past due 90 days or more. Management may return a
loan classified as nonaccrual to accrual status when the obligation has
been brought current, has performed in accordance with its contractual
terms over an extended period of time, and the ultimate collectibility of
the total contractual principal and interest is no longer in doubt.
(g) Allowance for Possible Loan Losses
The allowance for possible loan losses ("AFLL") is established through
provisions for losses charged against income. Loan amounts deemed to be
uncollectible are charged against the AFLL, and subsequent recoveries, if
any, are credited to the allowance. The AFLL represents management's
estimate of the amount necessary to absorb estimated probable losses
existing in the loan portfolio. Management believes that the AFLL is
adequate. Management's periodic evaluation of the adequacy of the allowance
is based on individual loan reviews, past loan loss experience, economic
conditions in the Company's market areas, the fair value and adequacy of
underlying collateral, and the growth and risk composition of the loan
portfolio. This evaluation is inherently subjective as it requires material
estimates, including the amounts and timing of future cash flows expected
to be received on impaired loans, that may be susceptible to significant
change. Thus, future additions to the AFLL may be necessary based on the
impact of changes in economic conditions. In addition, various regulatory
agencies, as an integral part of their examination process, periodically
review the Company's AFLL. Such agencies may require the Company to
recognize additions to the AFLLbased on their judgments about information
available to them at the time of their examination.
Under the provisions of Statement of Financial Accounting Standards
("SFAS") No. 114, "Accounting by Creditors for Impairment of a Loan," as
amended by SFAS No. 118, "Accounting by Creditors for Impairment of a Loan
Income Recognition and Disclosures" (collectively referred to hereafter as
"SFAS No. 114"), the AFLL related to loans that are identified for
evaluation in accordance with these standards is based on discounted cash
flows using the loan's initial effective interest rate, the loan's
observable market price, or the fair value of the collateral for collateral
dependent loans.
(h) Real Estate Acquired in Settlement of Loans
Real estate acquired in settlement of loans consists of property acquired
through a foreclosure proceeding or acceptance of a deed-in-lieu of
foreclosure and loans classified as in-substance foreclosure. In accordance
with SFAS No. 114, a loan is classified as in-substance foreclosure when
the Company has taken possession of the collateral regardless of whether
formal foreclosure proceedings have taken place. Real estate acquired in
settlement of loans is recorded initially at the lower of the loan balance
plus unpaid accrued interest or estimated fair value of the property less
estimated selling costs at the date of foreclosure. The initial recorded
value may be subsequently reduced by additional allowances, which are
charged to earnings, if the estimated fair value of the property less
estimated selling costs declines below the initial recorded value. Costs
related to the improvement of the property are capitalized, whereas those
related to holding the property are expensed. Such properties are held for
sale and, accordingly, no depreciation or amortization expense is
recognized. Loans with outstanding principal balances totalling $390,358
were foreclosed on during the years ended December 31, 1997. There were
such foreclosures in 1998 or 1996.
(i) Membership/Investment in Federal Home Loan Bank Stock
In 1997, the Company became a member of the Federal Home Loan Bank of
Atlanta ("FHLB"). Membership, along with a signed blanket collateral
agreement, provides the Company with the ability to draw $13 million of
advances from the FHLB. No advances were drawn by the Company in 1998 or
1997.
As a requirement for membership, the Company invests in stock of the FHLB
in the amount of 1% of its outstanding residential loans or 5% of its
outstanding advances from the FHLB, whichever is greater. Such stock is
pledged as collateral for any FHLB advances drawn by the Company. At
December 31, 1998, the Company owned 5,648 shares of the FHLB's $100 par
value capital stock. No ready market exists for such stock, which is
carried at cost.
- - --------------------------------------------------------------------------------
Excellence in Community Banking
17
<PAGE>
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
[LOGO]--------------------------------------------------------------------------
The East Carolina Bank and Subsidiaries
(1) Summary of Significant Accounting and Reporting Policies (continued)
(j) Premises and Equipment
Premises and equipment are stated at cost less accumulated depreciation.
Depreciation is computed by the straight-line method and is charged to
operations over the estimated useful lives of the assets which range from
25 to 50 years for bank premises and 3 to 10 years for furniture and
equipment.
Maintenance, repairs, renewals and minor improvements are charged to
expense as incurred. Major improvements are capitalized and depreciated.
(k) Income Taxes
The Company records income taxes using the asset and liability method.
Under this method, deferred income taxes are determined based on temporary
differences between the financial statement and tax bases of assets and
liabilities using enacted tax rates expected to be in effect when such
amounts are realized or settled.
(l) Employee Benefit Plans
The Company has in place a postretirement benefit plan covering certain
retirees and a defined contribution 401(k) plan that covers all eligible
employees. The Company had a noncontributory defined benefit retirement
plan that covered substantially all employees which was terminated in 1995
with final pay-out of accrued benefits occurring in 1996 (see note 7).
(m) Stock Option Plan
As discussed in note 8, the Company adopted a stock option plan in 1998.
The Company accounts for its stock option plan in accordance with the
provisions of Accounting Principles Board Opinion No. 25 (APB Opinion No.
25), "Accounting for Stock Issued to Employees," and related
interpretations. As such, compensation expense is recorded on the date of
grant only if the market price of the underlying stock on the date of grant
exceeds the exercise price. SFAS No. 123, "Accounting for Stock-Based
Compensation" (SFAS No. 123), requires entities to recognize as expense
over the vesting period the fair value of all stock-based awards on the
date of grant. Alternatively, SFAS No. 123 also allows entities to continue
to apply the provisions of APB Opinion No. 25 and provide pro forma net
income and pro forma earnings per share disclosures for employee stock
option grants made as if the fair-value-based method defined in SFAS No.
123 had been applied. The Company has elected to apply the provisions of
ABP Opinion No. 25 and provide the pro forma disclosure provisions of SFAS
No. 123.
(n) Net Income/Dividends Per Share
The Company adopted SFAS No. 128, "Earnings Per Share" (SFAS No. 128) as of
December 31, 1997. SFAS No. 128 superseded Accounting Principles Board
Opinion No. 15, "Earnings Per Share" (APB No. 15) which the Company had
followed until the adoption of SFAS No. 128. For companies that have
potentially issuable stock (complex capital structures), such as Bancorp
with its stock option plan, SFAS No. 128 requires that two earnings per
share amounts be disclosed - 1) Basic Earnings Per Share and 2) Diluted
Earnings per Share. Basic Earnings Per Share is calculated by dividing net
income by the weighted average number of common shares outstanding during
the period. Diluted Earnings Per Share is computed by assuming the issuance
of common shares for all dilutive potential common shares outstanding
during the reporting period. Currently, the Company's only dilutive
potential common stock issuances relate to options that have been issued
under the Company's stock option plan. In computing Diluted Earnings Per
Share, it is assumed that all such dilutive stock options are exercised
during the reporting period at their respective exercise prices, with the
proceeds from the exercises used by the Company to buy back stock in the
open market at the average market price in effect during the reporting
period. The difference between the number of shares assumed to be exercised
and the
- - --------------------------------------------------------------------------------
18
<PAGE>
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
- - --------------------------------------------------------------------------[LOGO]
The East Carolina Bank and Subsidiaries
(1) Summary of Significant Accounting and Reporting Policies (continued)
number of shares bought back is added to the number of weighted average
common shares outstanding during the period. The sum is used as the
denominator to calculate Diluted Earnings Per Share for the Company.
Dividends per share are based on the shares outstanding at the time of
dividend declaration. All shares and per share amounts have been restated
to give effect to the three-for-one stock split on July 22, 1998 (see note
11).
(o) Comprehensive Income
On January 1, 1998, the Company adopted SFAS No. 130, "Reporting
Comprehensive Income." This statement establishes standards for reporting
and display of comprehensive income and its components in a full set of
financial statements. Comprehensive income is defined as the change in
equity during a period for non-owner transactions and is divided into net
income and other comprehensive income. Other comprehensive income includes
revenues, expenses, gains, and losses that are excluded from earnings under
current accounting standards. This statement does not change or modify the
reporting or display in the income statement. As of and for the periods
presented, the sole component of other comprehensive income for the Company
has consisted of unrealized gains and losses, net of taxes, of the
Company's available-for-sale securities portfolio. Comparative financial
statements for earlier periods have been presented to reflect application
of this statement.
During 1997 the net tax effect of $106,000 on unrealized gains was net of a
reclassification adjustment of $8,778 for losses on sales of
available-for-sale securities included in net income. During 1996 the net
tax effect of $67,500 on unrealized losses was net of a reclassification
adjustment of $1,925 for gains on sales of available-for-sale securities
included in net income.
(p) Segment Reporting
In June 1997, the FASB issued SFAS No. 131, "Disclosures about Segments of
an Enterprise and Related Information" ("SFAS No. 131"). SFAS No. 131
requires that public business enterprises report certain information about
operating segments in complete sets of financial statements issued to
shareholders. It also requires that public business enterprises report
certain information about their products and services, the geographic areas
in which they operate and their major customers. The provisions of SFAS No.
131 are effective for fiscal years beginning after December 15, 1997.
Adoption of this pronouncement had no effect on the Company's consolidated
financial statements as the Company has no operating segments as defined by
SFAS No. 131.
(q) Disclosures About Pensions
In February 1998, the FASB issued SFAS No. 132, "Employers' Disclosures
about Pensions and other Postretirement Benefits," ("SFAS No. 132"). This
statement standardizes the disclosure requirements of pensions and other
postretirement benefits. Adoption of SFAS No. 132 by the Company did not
result in changes to any measurement or recognition provisions, but has
resulted in altered disclosures relating to postretirement obligations.
(r) Reclassifications
Certain 1996 and 1997 amounts have been reclassified in the financial
statements to conform with the 1998 presentation. The reclassifications had
no effect on previously reported net income or retained earnings.
- - --------------------------------------------------------------------------------
Excellence in Community Banking
19
<PAGE>
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
[LOGO]--------------------------------------------------------------------------
The East Carolina Bank and Subsidiaries
(2) Investment Securities
The following is a summary of the securities portfolios by major
classification:
<TABLE>
<CAPTION>
December 31, 1998
- - ------------------------------------------------------------------------------------------------------------------------------------
Gross Gross
Amortized unrealized unrealized Fair
cost gains losses value
- - ------------------------------------------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C>
Securities available-for-sale:
U.S. Treasury obligations $19,045,593 $ 406,297 $ -- $19,451,890
Securities of other U.S. government
agencies and corporations 20,913,647 70,740 (21,802) 20,962,585
Obligations of states and political subdivisions 16,867,122 563,438 (5,236) 17,425,324
Mortgage-backed securities 548,613 6,057 -- 554,670
- - ------------------------------------------------------------------------------- ----------- ----------- -----------
Total $57,374,975 $ 1,046,532 $ (27,038) $58,394,469
=============================================================================== =========== =========== ===========
</TABLE>
<TABLE>
<CAPTION>
December 31, 1997
- - ------------------------------------------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C>
Securities available-for-sale:
U.S. Treasury obligations $25,072,694 $ 156,543 $ (1,087) $25,228,150
Securities of other U.S. government
agencies and corporations 7,041,372 12,509 (2,427) 7,051,454
Obligations of states and political subdivisions 13,761,077 300,592 (4,513) 14,057,156
Mortgage-backed securities 780,012 3,201 -- 783,213
- - ------------------------------------------------------------------------------- ----------- ----------- -----------
Total $46,655,155 $ 472,845 $ (8,027) $47,119,973
=============================================================================== =========== =========== ===========
</TABLE>
Gross realized gains and losses on sales of securities for the
years ended December 31, 1998, 1997 and 1996 were as follows:
<TABLE>
<CAPTION>
1998 1997 1996
- - ------------------------------------------------------------------------------- ----------- -----------
<S> <C> <C> <C>
Gross realized gains $ -- $ -- $ 5,662
Gross realized losses -- (25,818) --
- - ------------------------------------------------------------------------------- ----------- -----------
Net realized gains (losses) $ -- $ (25,818) $ 5,662
==================================================================================================================
</TABLE>
The aggregate amortized cost and fair value of the
available-for-sale securities portfolio at December 31, 1998, by
remaining contractual maturity are as follows:
<TABLE>
<CAPTION>
Amortized Fair
cost value
- - ------------------------------------------------------------------------------------------------------------------------------------
<S> <C> <C>
U.S. Treasury obligations:
Due in one year or less $ 6,002,110 $ 6,024,060
Due in one year through five years 13,043,483 13,427,830
Securities of other U.S. government agencies and corporations:
Due in one year or less 8,670,009 8,665,716
Due in one year through five years 12,243,638 12,296,869
Obligations of states and political subdivisions:
Due in one year or less 1,245,276 1,248,865
Due in one year through five years 4,601,221 4,742,142
Due after five through ten years 6,329,528 6,522,994
Due after ten years 4,691,097 4,911,323
Mortgage-backed securities 548,613 554,670
- - ------------------------------------------------------------------------------------------------------------- -----------
Total securities $57,374,975 $58,394,469
============================================================================================================= ===========
</TABLE>
Securities with a principal amount of approximately $22,620,000 at December 31,
1998 are pledged as collateral for deposits.
- - --------------------------------------------------------------------------------
20
<PAGE>
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
- - --------------------------------------------------------------------------[LOGO]
The East Carolina Bank and Subsidiaries
(3) Loans
Loans at December 31, 1998 and 1997 classified by type, are as follows:
<TABLE>
<CAPTION>
1998 1997
- - -------------------------------------------------------------------------------------------- ------------
<S> <C> <C>
Commercial, financial and agricultural $ 48,893,329 $ 27,580,080
Real estate loans:
Construction 4,560,418 1,490,215
Mortgage, commercial and residential 64,687,018 63,444,502
Installment 15,033,205 28,838,515
- - -------------------------------------------------------------------------------------------- ------------
133,173,970 121,353,312
Less deferred fees and costs, net 149,966 144,502
- - -------------------------------------------------------------------------------------------- ------------
$133,024,004 $121,208,810
============================================================================================ ============
Included in the above:
Nonaccrual loans $ 88,170 $ 1,462,831
Restructured loans $ 620,612 $ 522,352
============================================================================================ ============
</TABLE>
In 1998 the Company reclassified loans according to purpose rather than
collateral type. The effect was a shifting of loans from Installment to
Commerical. The Company did not have the information needed to reclassify
1997 loans to conform to the current year classifications.
At December 31, 1998, the recorded investment in loans that are considered
to be impaired under SFAS No. 114 was $46,000 (all on a non-accrual basis),
the entire balance of which has been reserved in the AFLL. The average
recorded investment in impaired loans during the year ended December 31,
1998 was approximately $354,000. For the year ended December 31, 1998, the
Company recognized interest income on those impaired loans of $234,683, all
of which was recognized using the cash basis method of income recognition.
At December 31, 1997, the recorded investment in loans that are considered
to be impaired under SFAS No. 114 was $797,000 (all on a non-accrual
basis). Included in this amount is $112,000 of impaired loans for which the
related AFLL is $112,000 and $685,000 of impaired loans that as a result of
write-downs and collateral values do not have an AFLL. The average recorded
investment in impaired loans during the year ended December 31, 1997 was
approximately $810,000. For the year ended December 31, 1997, the Company
recognized interest income on those impaired loans of $26,000, all of which
was recognized using the cash basis method of income recognition.
Interest income that would have been recorded on nonaccrual loans for the
years ended December 31, 1998, 1997 and 1996 had they performed in
accordance with the original terms throughout each of the periods amounted
to approximately $3,147, $161,000, and $119,000, respectively. Actual
interest income recorded on nonaccrual loans for the years ended December
31, 1998, 1997 and 1996 was $274,000, $25,000 and $23,000, respectively.
Interest income on restructured loans included in the results of operations
for each of the years amounted to approximately $57,000, $53,000 and
$41,000, respectively.
Loans at December 31, 1998 and 1997 include loans to officers and directors
and their associates totaling approximately $800,000 and $1,103,000,
respectively. During 1998, $431,000 in loans were disbursed to officers,
directors and their associates and principal repayments of $734,000 were
received on such loans.
The Company, through its normal lending activity, originates and maintains
loans receivable which are substantially concentrated in the Eastern region
of North Carolina, where its offices are located. The Company's policy
calls for collateral or other forms of repayment assurance to be received
from the borrower at the time of loan origination. Such collateral or other
form of repayment assurance is subject to changes in economic value due to
various factors beyond the control of the Company and such changes could be
significant.
At December 31, 1998 and 1997, included in mortgage, commercial and
residential loans were loans collateralized by owner-occupied residential
real estate of approximately $21,152,000 and $23,963,000, respectively.
- - --------------------------------------------------------------------------------
Excellence in Community Banking
21
<PAGE>
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
[LOGO]--------------------------------------------------------------------------
The East Carolina Bank and Subsidiaries
(4) Allowance for Possible Loan Losses
An analysis of the allowance for possible loan losses for the years ended
December 31, 1998, 1997 and 1996 follows:
<TABLE>
<CAPTION>
December 31,
- - ------------------------------------------------------------------------------------------------------------------------------------
1998 1997 1996
- - --------------------------------------------------------------------------------- ------------ -------------
<S> <C> <C> <C>
Beginning balance $ 2,660,000 $ 2,400,000 $ 1,950,000
Provision for possible loan losses 242,396 353,513 496,914
Recoveries 78,538 100,838 218,843
Loans charged off (230,934) (194,351) (265,757)
- - --------------------------------------------------------------------------------- ------------ -------------
Ending balance $ 2,750,000 $ 2,660,000 $ 2,400,000
================================================================================= ============ =============
</TABLE>
(5) Premises and Equipment
An analysis of premises and equipment at December 31, 1998 and 1997
follows:
<TABLE>
<CAPTION>
Accumulated Undepreciated
Cost depreciation cost
- - --------------------------------------------------------------------------------- ------------ -------------
<S> <C> <C> <C>
December 31, 1998:
Land $ 1,787,138 $ -- $ 1,787,138
Land improvements 242,744 179,286 63,458
Buildings 5,599,256 1,739,986 3,859,270
Furniture and equipment 4,594,566 3,297,924 1,296,642
- - --------------------------------------------------------------------------------- ------------ -------------
Total $ 12,223,704 $ 5,217,196 $ 7,006,508
================================================================================= ============ =============
December 31, 1997:
Land $ 1,177,138 $ -- $ 1,177,138
Land improvements 243,541 161,959 81,582
Buildings 5,270,762 1,535,891 3,734,871
Furniture and equipment 4,201,127 2,928,435 1,272,692
- - --------------------------------------------------------------------------------- ------------ -------------
Total $ 10,892,568 $ 4,626,285 $ 6,266,283
================================================================================= ============ =============
</TABLE>
(6) Income Taxes
The components of income tax expense (benefit) are as follows:
<TABLE>
<CAPTION>
Current Deferred Total
- - --------------------------------------------------------------------------------- ------------ -------------
<S> <C> <C> <C>
Year ended December 31, 1998:
Federal $ 556,700 $ 72,000 $ 628,700
State 16,300 -- 16,300
================================================================================= ============ =============
$ 573,000 $ 72,000 $ 645,000
================================================================================= ============ =============
Year ended December 31, 1997:
Federal $ 660,700 $ (33,700) $ 627,000
State 23,000 -- 23,000
- - --------------------------------------------------------------------------------- ------------ -------------
$ 683,700 $ (33,700) $ 650,000
================================================================================= ============ =============
Year ended December 31, 1996:
Federal $ 599,500 $ (128,500) $ 471,000
State 4,000 -- 4,000
- - --------------------------------------------------------------------------------- ------------ -------------
$ 603,500 $ (128,500) $ 475,000
================================================================================= ============ =============
</TABLE>
- - --------------------------------------------------------------------------------
22
<PAGE>
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
- - --------------------------------------------------------------------------[LOGO]
The East Carolina Bank and Subsidiaries
(6) Income Taxes (continued)
Total income tax expense was less than the amount computed by applying the
federal income tax rate of 34% to income before income taxes. The reasons
for the difference were as follows:
<TABLE>
<CAPTION>
Year Ended December 31,
- - -----------------------------------------------------------------------------------------------------------------------------
1998 1997 1996
- - -------------------------------------------------------------------------------- --------- ----------
<S> <C> <C> <C>
Income taxes at statutory rate $ 885,000 $ 790,000 $ 615,000
Increase (decrease) resulting from:
Effect of non-taxable interest income (268,000) (187,000) (179,000)
Other, net 28,000 47,000 39,000
- - -------------------------------------------------------------------------------- --------- ----------
Applicable income taxes $ 645,000 $ 650,000 $ 475,000
================================================================================ ========= ==========
</TABLE>
The tax effects of temporary differences that give rise to significant portions
of the deferred tax assets and deferred tax liabilities at December 31, 1998 and
1997 are presented below:
<TABLE>
<CAPTION>
1998 1997
- - ---------------------------------------------------------------------------------------------------------- ---------
<S> <C> <C>
Deferred tax assets:
Allowance for possible loan losses $710,600 $680,000
Writedown of other real estate -- 78,000
Postretirement benefits 183,500 175,300
Other 3,700 3,200
- - ---------------------------------------------------------------------------------------------------------- ---------
Total gross deferred tax assets $897,800 $936,500
========================================================================================================== =========
Deferred tax liabilities:
Bank premises and equipment, principally due to differences
in depreciation $280,800 $245,400
Unrealized holding gains on securities available for sale 347,000 158,000
Other 30,900 22,000
- - ---------------------------------------------------------------------------------------------------------- ---------
Total gross deferred tax liabilities 658,700 425,400
- - ---------------------------------------------------------------------------------------------------------- ---------
Net deferred tax asset $239,100 $511,100
========================================================================================================== =========
</TABLE>
The Company has no valuation allowance at December 31, 1998 or 1997,
because management has determined that it has sufficient taxable income in
the carryback period to support the realizability of the net deferred tax
asset.
Income taxes paid during each of the three years ended December 31, 1998,
1997 and 1996 were $555,700, $749,400 and $534,100, respectively.
(7) Retirement Plans and Other Postretirement Benefits
Net periodic pension cost for 1996 for the Company's defined benefit
pension plan consists of the following components:
<TABLE>
<CAPTION>
1996
------------------------------------------------------------------------------------
<S> <C>
Service cost-benefits earned during the period $ --
Interest cost on projected benefit obligation 69,647
Actual return on plan assets (19,084)
Net amortization and deferral 629
Effect of change in PBGC rate 53,808
------------------------------------------------------------------------------------
Net periodic pension expense $ 105,000
====================================================================================
</TABLE>
- - --------------------------------------------------------------------------------
Excellence in Community Banking
23
<PAGE>
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
[LOGO]--------------------------------------------------------------------------
The East Carolina Bank and Subsidiaries
(7) Retirement Plans and Other Postretirement Benefits (continued)
In 1994, the Plan benefits were frozen in anticipation of a complete plan
termination. The Company approved termination of the Plan in 1995. The Plan
termination was approved by the Internal Revenue Service in 1996 and all
Plan benefits were paid to participants.
On June 1, 1994, the Company implemented a defined contribution 401(k) plan
that covers all eligible employees. The Company matches employee
contributions up to certain amounts as defined in the plan. Total expense
related to this plan was $98,089, $117,355 and $100,588 in 1998, 1997, and
1996, respectively.
The Company also has a postretirement benefit plan whereby the Company pays
postretirement health care benefits for certain of its retirees that have
met minimum age and service requirements.
The following tables provide information relating to the Company's
postretirement benefit plan:
Postretirement Benefits
<TABLE>
<CAPTION>
- - ---------------------------------------------------------------------------------------
1998 1997
- - ---------------------------------------------------------------------------------------
<S> <C> <C>
Reconciliation of Benefit Obligation
Net benefit obligation, January 1 $ 449,495 464,524
Service Cost 5,662 6,478
Interest cost 31,465 32,517
Actuarial gain (42,601) (39,595)
Benefits paid (16,245) (14,429)
- - ------------------------------------------------------------------------- -------
Net benefit obligation, December 31 427,776 449,495
========================================================================= =======
Fair value of plan assets -- --
Funded Status
Funded status, December 31 427,776 449,495
Unrecognized actuarial gain 89,032 46,566
- - ------------------------------------------------------------------------- -------
Net amount recognized $ 516,808 496,061
========================================================================= =======
</TABLE>
Net periodic postretirement benefit cost for 1998, 1997 and 1996 includes
the following components:
<TABLE>
<CAPTION>
1998 1997 1996
--------------------------------------------------------------------------------- -------
<S> <C> <C> <C>
Service cost $ 5,662 $ 6,478 $ 4,832
Interest cost 31,465 32,517 31,966
--------------------------------------------------------------------------------- -------
Net periodic postretirement benefit cost $37,127 $38,995 $36,798
================================================================================= =======
</TABLE>
The following table presents assumptions relating to the plan at December
31, 1998 and 1997:
<TABLE>
<CAPTION>
1998 1997
----------------------------------------------------------------------------------- ------
<S> <C> <C>
Weighted average discount rate in determining benefit obligation 7.0% 7.0%
Annual health care cost trend rate 9.0 9.0
Ultimate medical trend rate 8.0 8.0
Medical trend rate period (in years) 5.0 5.0
Effect of 1% increase in assumed health care cost on:
Service and interest cost 16.2% 16.4%
Benefit obligation 14.6 15.0
Effect of 1% decrease in assumed health care cost on:
Service and interest cost (13.3) (14.0)
Benefit obligation (12.0) (12.3)
</TABLE>
- - --------------------------------------------------------------------------------
24
<PAGE>
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
- - --------------------------------------------------------------------------[LOGO]
The East Carolina Bank and Subsidiaries
(8) Stock Option Plan
During 1998, the Company adopted an Omnibus Stock Ownership and Long-Term
Incentive Plan ("the Omnibus Plan") which was approved by the Company's
shareholders at the May 13, 1998 annual meeting and which provides for the
issuance of up to an aggregate of 159,000 shares of common stock of the
Company pursuant to stock options and other awards granted or issued under
its terms. At that time, the Board of Directors also awarded to certain
officers of the Bank options to purchase an aggregate of 9,516 shares of
the Company's common stock pursuant to the terms of the Omnibus Plan at a
price equal to the then current market value of $12.50 per share. These
options expire on May 13, 2008, and are all currently outstanding as of
December 31, 1998. Beginning January 2001, one-third of the options become
exercisable each year.
If the Company had elected to recognize compensation cost for its
stock-based compensation plans in accordance with the fair value based
accounting method of SFAS No. 123, net income and earnings per share would
have been as follows:
<TABLE>
<CAPTION>
1998
-----------------------------------------------------------------------------
Pro Forma As Reported
-----------------------------------------------------------------------------
<S> <C> <C>
Net income $ 1,951,142 1,959,040
Basic EPS 1.07 1.08
Diluted EPS 1.07 1.08
</TABLE>
(9) Related Party Transactions
The Company has banking transactions in the ordinary course of business
with several of its directors and officers, and their associates. Such
transactions are on the same terms as those prevailing at the time for
comparable transactions with others. In the opinion of management, loans
made to directors, officers and their associates do not involve more than
the normal risk of collectibility or present any other unfavorable features
(see note 3).
(10) Deposits
At December 31, 1998 and 1997, certificates of deposit of $100,000 or more
amounted to approximately $26,855,000 and $19,503,067, respectively.
For the years ended December 31, 1998, 1997 and 1996, interest expense on
certificates of deposit of $100,000 or more amounted to approximately
$1,254,000, $1,057,000 and $1,038,000, respectively.
The Company made interest payments of $5,229,772, $5,249,278 and $4,903,660
during the years ended December 31, 1998, 1997 and 1996, respectively.
Time deposit accounts as of December 31, 1998, mature in the following
years and amounts: 1999 - $73,603,766; 2000 - $8,338,967; and 2001 -
$1,483,718.
(11) Stockholders' Equity and Formation of Holding Company
On July 22, 1998, and pursuant to a charter amendment, the Bank effected a
three-for-one stock split of the Bank's common stock increasing the number
of shares of common stock from 593,418 to 1,780,254. Additionally, by way
of the same charter amendment, the Bank increased the post-split par value
of the common stock from $3.33 per share to $3.50 per share. In connection
with the stock split and increase in par value, the Bank increased the
capital surplus account in accordance with North Carolina General Statutes
Section 53-88. All references to the number of common shares and per share
amounts in the financial statements have been restated as appropriate to
reflect the effect of the split, for all periods presented. Additionally,
common stock, capital surplus, and retained earnings have been restated for
all periods presented as appropriate to reflect the stock split, the
increase in par value, and the increase in the capital surplus account.
- - --------------------------------------------------------------------------------
Excellence in Community Banking
25
<PAGE>
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
[LOGO]--------------------------------------------------------------------------
The East Carolina Bank and Subsidiaries
On July 22, 1998, the Bank was acquired by Bancorp, which was newly-formed
on March 4, 1998, for purposes of such transaction. Each outstanding share
of the Bank's common stock was exchanged for one share of Bancorp's common
stock with the Bank becoming a wholly-owned subsidiary of Bancorp.
Bancorp's primary purpose is to serve as the parent of the Bank. This
transaction was accounted for in a manner similar to a pooling-of-interests
whereby the historical book values of the Bank's accounts were combined
with Bancorp's accounts on the date of the merger.
On November 23, 1998 the Company issued 345,000 shares of common stock to
the public at a price of $14.25 per share. The net proceeds of the offering
were approximately $4,268,000.
(12) Leases
The Company also has several noncancellable operating leases for three
branch locations. These leases generally contain renewal options for
periods ranging from three to five years and require the Company to pay all
executory costs such as maintenance and insurance. Rental expense for
operating leases during 1998 and 1997 was $65,795 and $69,758,
respectively.
Future minimum lease payments under noncancellable operating leases (with
initial or remaining lease terms in excess of one year) as of December 31,
1998 are as follows:
<TABLE>
<S> <C>
Year ending December 31,
1999 $ 65,797
2000 65,797
2001 42,397
2002 9,879
------------------------------------------------
Total minimum lease payments $183,870
================================================
</TABLE>
(13) Reserve Requirements
The aggregate net reserve balances maintained under the requirements of the
Federal Reserve, which are noninterest bearing, were approximately
$3,157,000 at December 31, 1998.
(14) Commitments and Contingencies
The Company has various financial instruments (outstanding commitments)
with off-balance sheet risk that are issued in the normal course of
business to meet the financing needs of its customers. These financial
instruments include commitments to extend credit of $20,411,000 and standby
letters of credit of $361,000, at December 31, 1998.
The Company's exposure to credit loss for commitments to extend credit and
standby letters of credit is the contractual amount of those financial
instruments. The Company uses the same credit policies for making
commitments and issuing standby letters of credit as it does for on-balance
sheet financial instruments. Each customer's creditworthiness is evaluated
on an individual case-by-case basis. The amount and type of collateral, if
deemed necessary by management, is based upon this evaluation of
creditworthiness. Collateral obtained varies, but may include marketable
securities, deposits, property, plant and equipment, investment assets,
real estate, inventories and accounts receivable. Management does not
anticipate any significant losses as a result of these financial
instruments and anticipates their funding from normal operations.
- - --------------------------------------------------------------------------------
26
<PAGE>
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
- - --------------------------------------------------------------------------[LOGO]
The East Carolina Bank and Subsidiaries
(15) Fair Value of Financial Instruments
Fair value estimates are made by management at a specific point in time,
based on relevant information about the financial instrument and the
market. These estimates do not reflect any premium or discount that could
result from offering for sale at one time the Company's entire holdings of
a particular financial instrument nor are potential taxes and other
expenses that would be incurred in an actual sale considered. Fair value
estimates are based on judgments regarding future expected loss experience,
current economic conditions, risk characteristics of various financial
instruments, and other factors. These estimates are subjective in nature
and involve uncertainties and matters of significant judgment and therefore
cannot be determined with precision. Changes in assumptions and/or the
methodology used could significantly affect the estimates disclosed.
Similarly, the fair values disclosed could vary significantly from amounts
realized in actual transactions.
Fair value estimates are based on existing on- and off-balance sheet
financial instruments without attempting to estimate the value of
anticipated future business and the value of assets and liabilities that
are not considered financial instruments.
The following table presents the carrying values and estimated fair values
of the Company's financial instruments at December 31, 1998 and 1997:
<TABLE>
<CAPTION>
1998 1997
--------------------------------------------------------------------------------------------------------------------------
Carrying Estimated Carrying Estimated
value fair value value fair value
--------------------------------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C>
Financial assets:
Non-interest bearing deposits and cash $ 11,723,000 $ 11,723,000 $ 8,185,000 $ 8,185,000
Federal funds sold -- -- 4,425,000 4,425,000
Investment securities 58,394,000 58,394,000 47,120,000 47,120,000
FHLB common stock 564,800 564,800 503,000 503,000
Net loans 130,274,000 130,770,000 118,549,000 119,094,000
Financial liabilities:
Deposits $184,185,000 $175,722,000 $170,909,000 $171,137,000
</TABLE>
The estimated fair values of net loans and deposits at December 31 are
based on cash flows discounted at market interest rates. The carrying
values of other financial instruments, including various receivables and
payables, approximate fair value.
(16) Regulatory Matters
The Company is subject to various regulatory capital requirements
administered by the federal banking agencies. Failure to meet minimum
capital requirements can initiate certain mandatory, and possibly
additional discretionary, actions by regulators that, if undertaken, could
have a direct material effect on the Company's financial statements. Under
capital adequacy guidelines and the regulatory framework for prompt
corrective action, the Bank must meet specific capital guidelines that
involve quantitative measures of the Company's assets, liabilities, and
certain off-balance sheet items as calculated under regulatory accounting
practices. The Company's capital amounts and classification are also
subject to qualitative judgments by the regulators about components, risk
weightings, and other factors.
The Bank, as a North Carolina chartered bank, may pay dividends only out of
undivided profits as determined pursuant to North Carolina General Statutes
Section 53-87. However, regulatory authorities may limit payment of
dividends by any bank when it is determined that such a limitation is in
the public interest and is necessary to ensure the financial soundness of
the Bank.
- - --------------------------------------------------------------------------------
Excellence in Community Banking
27
<PAGE>
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
[LOGO]--------------------------------------------------------------------------
The East Carolina Bank and Subsidiaries
(16) Regulatory Matters (continued)
Quantitative measures established by regulation to ensure capital adequacy
require the Bank to maintain minimum amounts and ratios (set forth in the
table below) of total and Tier I capital (as defined in the regulations) to
risk-weighted assets (as defined), and of Tier I capital to average assets
(as defined). Management believes, as of December 31, 1998, that the Bank
meets all capital adequacy requirements to which it is subject.
As of December 31, 1998, the most recent notification from the Federal
Deposit Insurance Corporation ("FDIC") categorized the Bank as
well-capitalized under the regulatory framework for prompt corrective
action. To be categorized as well-capitalized, the Bank must maintain
minimum total risk-based, Tier I risk-based, and Tier I leverage ratios as
set forth in the table. There are no conditions or events since that
notification that management believes have changed the Bank's category.
The Bank's actual capital amounts, in thousands, and ratios are presented
in the following table:
<TABLE>
<CAPTION>
To be well
capitalized
under prompt
For capital corrective
Actual adequacy purposes action provisions
-------------------------------------------------------------------------------------------------------------------------------
Amount Ratio Ratio Ratio
-------------------------------------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C>
As of December 31, 1998:
Total Capital
(to Risk Weighted Assets) $22,957 16.25% >=8.0% >=10.00%
Tier I Capital
(to Risk Weighted Assets) 21,179 15.00% >=4.0% >=6.00%
Tier I Capital
(to Average Assets) 21,179 10.45% >=4.0% >=5.00%
As of December 31, 1997:
Total Capital
(to Risk Weighted Assets) $16,973 13.66% >=8.0% >=10.00%
Tier I Capital
(to Risk Weighted Assets) 15,406 12.40% >=4.0% >=6.00%
Tier I Capital
(to Average Assets) 15,406 8.53% >=4.0% >=5.00%
</TABLE>
In May 1995, the Bank Insurance Fund ("BIF") of the FDIC reached its
designated ratio of reserves to insured deposits (i.e., 1.25%). For this
reason, the FDIC reduced the assessment rate applicable to BIF deposits in
two stages, so that, beginning in 1996, the deposit insurance premiums for
92% of all BIF members in the highest capital and supervisory categories
were set at $1,500 per year, regardless of deposit size. Beginning in 1997,
BIF members were required to begin paying FICO-bond assessments in addition
to the $1,500 annual assessment. The FICO bond assessment was $19,032 for
the Company in 1998 and $23,089 in 1997.
- - --------------------------------------------------------------------------------
28
<PAGE>
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
- - --------------------------------------------------------------------------[LOGO]
The East Carolina Bank and Subsidiaries
(17) ECB Bancorp, Inc. (Parent Company)
ECB Bancorp, Inc.'s principal asset is its investment in the Bank, and its
principal source of income is dividends from the Bank. The Parent Company
condensed balance sheet as of December 31, 1998, and the related condensed
statements of income and cash flows from the period July 22, 1998 (see note
11) to December 31, 1998 are as follows:
<TABLE>
<CAPTION>
CONDENSED BALANCE SHEET
<S> <C>
Assets
Investment in subsidiary $ 21,852,346
-----------------------------------------------------------------------
Total assets $ 21,852,346
=======================================================================
Liabilities and Shareholders' Equity
Common stock 7,438,389
Surplus 6,260,392
Retained earnings 7,480,699
Accumulated other comprehensive income 672,866
------------
Total liabilities and shareholders' equity $ 21,852,346
=======================================================================
CONDENSED STATEMENT OF INCOME
Dividends from bank subsidiary $ 453,965
Equity in undistributed net income of subsidiary 603,168
------------
Net income $ 1,057,133
=======================================================================
CONDENSED STATEMENT OF CASH FLOWS
Operating activities:
Net income $ 1,057,133
Undistributed net income of subsidiary (603,168)
------------
Net cash provided by operating activities 453,965
=======================================================================
Investing activities:
Investment in subsidiary (4,267,892)
------------
Net cash used by investing activities (4,267,892)
=======================================================================
Financing activities:
Proceeds from issuance of common stock 4,267,892
Cash dividends paid (453,965)
------------
Net cash provided by financing activities 3,813,927
=======================================================================
Net change in cash $ --
=======================================================================
</TABLE>
As discussed in note 11, on July 22, 1998 the Parent Company exchanged its
common stock for that of the Bank, resulting in an increase in
shareholders' equity at the Parent Company of $16,679,425.
- - --------------------------------------------------------------------------------
Excellence in Community Banking
29
<PAGE>
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
[LOGO]--------------------------------------------------------------------------
The East Carolina Bank and Subsidiaries
- - --------------------------------------------------------------------------------
30
<PAGE>
MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS
- - --------------------------------------------------------------------------[LOGO]
The East Carolina Bank and Subsidiaries
ECB Bancorp, Inc. ("Bancorp") is a bank holding company headquartered in
Engelhard, North Carolina, whose wholly-owned subsidiary, The East Carolina Bank
(the "Bank") (collectively referred to hereafter as the "Company") is a state
chartered community bank which was founded in 1919. The Bank offers a full range
of banking services through 15 branches serving eastern North Carolina,
including the communities of Engelhard, Swan Quarter, Columbia, Creswell,
Fairfield, Nags Head, Manteo, Southern Shores, Barco, Avon, Hatteras, Ocracoke
and Greenville (three branches). The Bank also operates a loan production
facility in Washington, North Carolina and is expected to open its sixteenth
branch in this community in the spring of 1999.
The operations of the Company and depository institutions in general are
significantly influenced by general economic conditions and by related monetary,
fiscal and other policies of depository institution regulatory agencies,
including the Federal Reserve Board, the Federal Deposit Insurance Corporation
(the "FDIC") and the North Carolina State Banking Commission. The net income of
the Bank is dependent, to a large extent, on the differences between interest
earned on loans and investments and interest paid on deposits. Deposit flows and
costs of funds are influenced by interest rates on competing investments and
general market rates of interest. Lending activities are affected by the demand
for financing of real estate and other types of loans, which in turn are
affected by the interest rates at which such financing may be offered and other
factors affecting local demand and availability of funds.
Management's discussion and analysis of financial condition and results of
operations are presented to assist in understanding the financial condition and
results of operations of ECB Bancorp, Inc. and its wholly-owned subsidiary, The
East Carolina Bank, for the years of 1998, 1997, and 1996. This discussion and
the related financial data should be read in conjunction with the audited
consolidated financial statements and related footnotes.
Liquidity is the Bank's ability to generate cash to fund asset growth, to meet
deposit withdrawals, to maintain regulatory reserve requirements and to pay
operating expenses. The principal sources of liquidity are the Bank's investment
portfolio, interest from loans and investments, loan principal repayments, and
increases in deposits.
Sufficient levels of capital are necessary to sustain growth and absorb losses.
To this end, the FDIC, which regulates The East Carolina Bank, has established
capital adequacy guidelines. These guidelines relate to the Bank's Leverage
Capital, and Tier 1 and Total Risk Based Capital ("RBC").
For The East Carolina Bank, Leverage Capital consists of total shareholders'
equity excluding unrealized gains or losses, net of income taxes, on securities
available-for-sale. As of December 31, 1998, the Bank's Leverage Ratio was
10.45% compared to 8.53% and 8.42%, respectively, at year-end 1997 and 1996. For
regulatory purposes, a well-capitalized financial institution must have a Tier 1
Leverage Ratio of at least 5.00%.
Within the RBC calculations, The East Carolina Bank's assets, including loan
commitments and other off-balance sheet items, are weighted according to Federal
regulatory guidelines for risk considered inherent in the assets. The East
Carolina Bank's Tier 1 RBC ratio as of December 31, 1998 was 15.00% which is,
along with a ratio of 12.40% and 12.49% for 1997 and 1996, respectively,
representative of a well-capitalized institution. The calculation of the Total
RBC ratio allows, in The East Carolina Bank's circumstances, the inclusion of
the allowance for loan losses in capital, but only to the maximum of 1.25% of
risk-weighted assets. As of December 31, 1998, the Bank's Total RBC was 16.25%
which is representative of a well-capitalized institution. The Total RBC ratios
for 1997 and 1996 were 13.66% and 13.75%, respectively, both of which were
representative of a well-capitalized financial institution.
As of December 31, 1998, shareholders' equity totaled $21.9 million compared to
$15.7 million at December 31, 1997. On November 23, 1998 the Company issued
345,000 shares of common stock to the public at a price of $14.25 per share. The
net proceeds of the offering were approximately $4,268,000. Shareholders' equity
for 1998 and 1997 included $672,866 and $306,780, respectively, of net
unrealized securities gains.
- - --------------------------------------------------------------------------------
Excellence in Community Banking
31
<PAGE>
MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS
[LOGO]--------------------------------------------------------------------------
The East Carolina Bank and Subsidiaries
An adequate capital position provides the Company with expansion capabilities.
Retention of sufficient earnings to maintain that adequate capital position is
an important factor in determining dividends. During 1998, the Company paid
$453,965 in dividends, versus $415,393 in 1997 and $379,788 in 1996. As a
percentage of net income in 1998, dividends were 23.2% and represented an
increase of 9.3% over dividends paid in 1997.
In 1998, the Company had net income of $1,959,040, or $1.08 basic and diluted
earnings per share, compared to $1,673,251 or $0.94 basic and diluted earnings
per share (as restated for three-for-one stock split effected July 22, 1998),
for the year ended December 31, 1997. Net interest income after the provision
for possible loan losses increased $1,358,599 as a result of an increase in
interest income of $1,242,818 and a decrease in interest expense of $4,664. This
increase in the Company's net interest margin is attributable to loans
representing a larger portion of the Company's total earning assets and, in
part, to interest recoveries on certain non-accrual loans and a lower cost of
funds. During 1998, the Bank had interest recoveries on non-accrual loans in the
amount of $245,700. The provision for possible loan losses decreased $111,117
when compared to 1997 provision expense of $353,513 due primarily to lower
levels of nonperforming assets.
Management continuously analyzes the growth and risk characteristics of the
total loan portfolio under current economic conditions in order to evaluate the
adequacy of the allowance for possible loan losses. The factors that influence
management's judgement in determining the amount charged to operating expense
include past loan loss experience, composition of the loan portfolio, evaluation
of probable losses inherent in the portfolio and current economic conditions.
The Company's watch committee, which includes three members of senior management
as well as regional managers and other credit administration personnel, conducts
a quarterly review of all credits classified as substandard. This review follows
a re-evaluation by the account officer who has primary responsibility for the
relationship. Various regulatory agencies, as an integral part of their
examination process, periodically review the Company's allowance for possible
loan losses. Such agencies may require the Company to recognize additions to the
allowance for possible loan losses based on their judgments about information
available to them at the time of their examination.
Nonperforming assets, which consist of loans not accruing interest, restructured
debt and real estate acquired in settlement of loans, were $759,000 and
$2,325,000 at December 31, 1998 and 1997, respectively. The decrease in
nonperforming assets is primarily due to the pay-off of two large nonperforming
lending relationships during the year and the sale of a significant portion of
real estate acquired in settlement of loans. Through sales, the Company has
liquidated all other real estate owned reducing the balance to $50,000 at
December 31, 1998 from $490,000 at December 31, 1997.
Non-interest income, principally charges for the use of the Company's services,
is a significant contributor to net earnings. Non-interest income for 1998
increased $81,000 or 4.2% when compared to 1997. Service charges on deposit
accounts increased $31,000 or 6.2%, but were offset by a decrease in
Non-Sufficient Funds (NSF) service charges of $87,000, resulting in a $56,000 or
4.0% net decrease when compared to 1997. Other service charges and fees
increased $66,000 or 12.6% as a result of increased ATM transaction fees of
$55,000 that were effected by the Company after the first quarter of 1997. Other
non-interest income increased $71,000 principally due to mortgage loan
origination fees of $54,000 generated by the Company's new mortgage loan
product. Generally, the Company has been able to increase other income by
increasing the prices of its services to partially offset increases in other
operating expenses.
Non-interest expenses increased by $1,159,000 or 15.4% in 1998 and by 11.2% in
1997. This increase was caused in part by the opening of new full service
branches in Avon and Barco, and a loan production office in Washington, North
Carolina. A significant component of non-interest expense is salaries and
employee benefits. Salary expense increased $247,000 over 1997 partially as a
result of opening the aforementioned offices, and employee benefits increased
approximately $112,000 as the Company increased cash awards paid to employees
participating in the Company's performance based incentive program. When
compared to 1997, net occupancy expense increased $97,000 or 15.6% as a result
of opening the aforementioned offices and equipment expense increased $107,000
due to the Company upgrading its host processor and continued introduction of
branch automation. The Company's telephone expense increased $48,000 over last
year as a result of increased usage of the Company's Xpress phone banking system
introduced during the second quarter of 1997. Professional fees increased
$109,000 in connection with non-recurring legal and accounting fees incurred
related to the formation of Bancorp in 1998.
- - --------------------------------------------------------------------------------
32
<PAGE>
MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS
- - --------------------------------------------------------------------------[LOGO]
The East Carolina Bank and Subsidiaries
Other non-interest expenses increased $391,000 from $1,420,000 in 1997 to
$1,811,000 in 1998. This increase is principally attributable to increases in
marketing expense and non-recurring expenses related to the planned closing of
the Company's WalMart Supercenter office in March of 1999. Marketing expense
increased approximately $182,000 over 1997 as the Company launched a broad range
of mortgage products and its new Club 7 Visa Card, a program done in conjunction
with a local television station. During December of 1998, the Company expensed
approximately $157,000 relating to the closing of the WalMart Supercenter
office. These expenses consisted primarily of obligated lease payments of
$50,000 and write-off of leasehold improvements of approximately $87,000.
In 1997, the Bank had net income of $1,673,251, an increase of $339,488 compared
to 1996 net income. Net interest income after the provision for possible loan
losses increased $1,045,404 as a result of an increase in interest income of
$1,425,690 mitigated by an increase in interest expense of $523,687. The
provision for possible loan losses decreased $143,401 when compared to 1996
provision expense of $496,914.
Non-interest income, principally charges for the use of the Bank's services, is
a significant contributor to net earnings. Non-interest income for 1997
increased $228,000 or 13.3% when compared to 1996. Service charges on deposit
accounts for 1997 increased $288,000 as a result of an increased collection rate
of NSF fees on transaction accounts. Other service charges and fees increased
$106,000 or 25.3% as a result of increased ATM transaction fees of $67,000 and
merchant discount income net of merchant processing expense of $39,000. Other
non-interest income in 1997 decreased $166,000 due principally to gains realized
in 1996 on the sale of real estate acquired in settlement of loans totaling
$119,000 and other miscellaneous income totaling $22,000 in 1996. Generally, the
Bank has been able to increase other income by increasing the prices of its
services to partially offset increases in other operating expenses.
Non-interest expenses increased by 11.2% in 1997 and by 10.0% in 1996. A
significant component of non-interest expense is salaries and employee benefits.
Personnel expense increased $200,000 or 5.4% compared to 1996. This increase was
caused in part by the opening of a new branch in Avon and a loan production
office in Washington, North Carolina. Net occupancy expense increased $73,000 or
13.3% as a result of opening the aforementioned offices as well as an addition
to the Bank's home office. Equipment expense increased $205,000 or 36.4% when
compared to 1996. This increase was due in part to opening of new offices but
principally to the Bank's 1997 initiative to provide deposit and loan platform
automation at its branch locations. During 1997, the Bank installed
approximately 50 personal computers and related equipment. In addition, the Bank
upgraded its IBM A/S 400 host processor and doubled the number of proof machines
used in its item-processing center. Other non-interest expense increased
$281,000 principally due to expenses of $80,000 associated with its "BEST"
account product offering, increased telephone and data communication cost of
approximately $41,000, and stationery and supplies increases of $38,000.
- - --------------------------------------------------------------------------------
Excellence in Community Banking
33
<PAGE>
MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS
[LOGO]--------------------------------------------------------------------------
The East Carolina Bank and Subsidiaries
TABLE 1. AVERAGE BALANCES AND NET INTEREST INCOME ANALYSIS
<TABLE>
<CAPTION>
Year Ended December 31,
- - ------------------------------------------------------------------------------------------------------------------------------------
1998 1997 1996
----------------------------------------------------------------------------------------------------
Average Yield/ Income/ Average Yield/ Income/ Average Yield/ Income/
Balance Rate Expense Balance Rate Expense Balance Rate Expense
- - ------------------------------------------------------------------------------------------------------------------------------------
(dollars in thousands)
<S> <C> <C> <C> <C> <C> <C> <C> <C> <C>
Assets
- - ---------------------------
Loans - net (1) $124,794 9.63% $ 12,015 $115,487 9.43% $ 10,887 $101,950 9.34% $ 9,522
Taxable securities 31,721 5.91% 1,874 29,705 5.89% 1,750 33,672 5.70% 1,919
Non-taxable
securities (2) 15,318 7.44% 1,139 10,254 7.57% 776 9,279 7.71% 715
Federal funds sold 4,601 5.26% 242 9,125 5.38% 491 5,750 5.23% 301
- - --------------------------- -------- ---- -------- -------- ---- -------- -------- ---- --------
Total interest-
earning assets 176,434 8.66% $ 15,270 164,571 8.45% 13,904 150,651 8.27% 12,457
Cash and due from
banks 9,122 7,715 7,472
Bank premises and
equipment, net 6,542 5,929 5,617
Other assets 2,520 2,300 2,229
- - --------------------------- -------- -------- --------
Total assets $194,618 $180,515 $165,969
=========================== ======== ======== ========
Liabilities and
Shareholders' equity
- - ---------------------------
Interest-bearing
deposits $140,585 3.81% $ 5,351 $135,789 3.95% $ 5,364 $123,986 3.90% $ 4,831
Borrowed funds 152 5.92% 9 -- -- -- 188 5.32% 10
- - --------------------------- -------- ---- -------- -------- ---- -------- -------- ---- --------
Total interest-
bearing liabilities 140,737 3.81% 5,360 135,789 3.95% 5,364 124,174 3.90% 4,841
Non-interest-bearing
deposits 35,272 28,574 26,788
Other liabilities 1,314 1,039 1,035
Shareholders' equity 17,295 15,113 13,972
- - --------------------------- -------- -------- --------
Total liabilities and
shareholders' equity $194,618 $180,515 $165,969
=========================== ======== ======== ========
Net interest income
and net yield on
interest-earning
assets (FTE) 5.62% $ 9,910 5.19% $ 8,540 5.06% $ 7,616
=========================== ==== ======== ==== ======== ==== ========
Interest rate spread
(FTE) 4.85% 4.50% 4.37%
</TABLE>
(1) Average loans, net of the allowance for possible loan losses and unearned
income. These figures include non-accruing loans, the effect of which is to
lower the average rates.
(2) Yields on tax-exempt investments have been adjusted to a fully
taxable-equivalent basis (FTE) using the federal income tax rate of 34%.
- - -------------------------------------------------------------------------------
34
<PAGE>
MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS
- - --------------------------------------------------------------------------[LOGO]
The East Carolina Bank and Subsidiaries
Changes in interest income and interest expense can result from variances in
both volume and rates. Table 2 below analyzes the effect of variances in volume
and rate on taxable-equivalent interest income, interest expense and net
interest income.
TABLE 2. VOLUME AND RATE VARIANCE ANALYSIS
<TABLE>
<CAPTION>
- - ------------------------------------------------------------------------------------------------------------------------------------
1998 compared to 1997 1997 compared to 1996
Volume (1) Rate (1) Net Volume (1) Rate (1) Net
- - ------------------------------------------------------------------------------------------------------------------------------------
(dollars in thousands)
<S> <C> <C> <C> <C> <C> <C>
Loans $ 887 $ 241 $ 1,128 $ 1,270 $ 95 $ 1,365
Taxable securities 119 5 124 (230) 61 (169)
Non-taxable securities (2) 380 (17) 363 75 (14) 61
Federal funds sold (241) (8) (249) 179 11 190
- - -------------------------------------------------------- ------- ------- ------- ------- -------
Interest income 1,145 221 1,366 1,294 153 1,447
Interest-bearing deposits 186 (199) (13) 463 70 533
Borrowed funds 5 4 9 (5) (5) (10)
- - -------------------------------------------------------- ------- ------- ------- ------- -------
Interest expense 191 (195) (4) 458 65 523
- - -------------------------------------------------------- ------- ------- ------- ------- -------
Net interest income $ 954 $ 416 $ 1,370 $ 1,835 $ 089 $ 1,924)
======================================================== ======= ======= ======= ======= =======
</TABLE>
(1) The combined rate/volume variance for each category has been allocated
equally between rate and volume variances.
(2) Yields on tax-exempt investments have been adjusted to a taxable-equivalent
basis using the federal income tax rate of 34%.
- - --------------------------------------------------------------------------------
Excellence in Community Banking
35
<PAGE>
MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS
[LOGO]--------------------------------------------------------------------------
The East Carolina Bank and Subsidiaries
Rate sensitivity analysis, an important aspect of achieving satisfactory levels
of net interest income, is the management of the composition and maturities of
rate-sensitive assets and liabilities. The following table sets forth the
Company's interest sensitivity analysis at December 31, and describes, at
various cumulative maturity intervals, the gap ratios (ratios of rate-sensitive
assets to rate-sensitive liabilities) for assets and liabilities that management
considers rate sensitive.
TABLE 3. RATE SENSITIVITY ANALYSIS AS OF DECEMBER 31, 1998
<TABLE>
<CAPTION>
- - -----------------------------------------------------------------------------------------------------------------------
3 Months 4 to 12 Total within Over 12
Or Less Months 12 Months Months Total
- - -----------------------------------------------------------------------------------------------------------------------
(dollars in thousands)
<S> <C> <C> <C> <C> <C>
Earning assets
Loans - gross $ 56,517 $ 14,745 $ 71,262 $ 61,762 $ 133,024
Investment securities 6,044 8,892 14,936 43,458 58,394
FHLB stock 565 -- 565 -- 565
- - ---------------------------------------------------------------- --------- --------- --------- ---------
Total earning assets $ 63,126 $ 23,637 $ 86,763 $ 105,220 $ 191,983
================================================================ ========= ========= ========= =========
Percent of total earning assets 32.9% 12.3% 45.2% 54.8% 100.0%
Cumulative percent of total earning assets 32.9% 45.2% 45.2% 100.0%
Interest-bearing liabilities
Time deposits of $100,000 or more $ 10,795 $ 13,615 $ 24,410 $ 2,445 $ 26,855
Savings, NOW and Money Market deposits 62,672 -- 62,672 -- 62,672
Other time deposits 21,339 27,912 49,251 7,320 56,571
Federal funds purchased 2,725 -- 2,725 -- 2,725
- - ---------------------------------------------------------------- --------- --------- --------- ---------
Total interest-bearing liabilities $ 97,531 $ 41,527 $ 139,058 $ 9,765 $ 148,823
================================================================ ========= ========= ========= =========
Percent of total interest-bearing liabilities 65.5% 27.9% 93.4% 6.6% 100.0%
Cumulative percent of total interest-bearing
liabilities 65.5% 93.4% 93.4% 100.0%
Ratios
Ratio of earning assets to interest-bearing
liabilities (gap ratio) 64.7% 56.9% 62.4% 1077.5%
Cumulative ratio of earning assets to
interest-bearing liabilities (cumulative
gap ratio) 64.7% 62.4% 62.4% 129.0%
Interest sensitivity gap $ (34,405) $ (17,890) $ (52,295) $ 95,455 $ 43,160
Cumulative interest sensitivity gap $ (34,405) $ (52,295) $ (52,295) $ 43,160 $ 43,160
As a percent of total earning assets (17.9%) (27.2%) (27.2%) 22.5% 22.5%
</TABLE>
In periods of rising interest rates, the Company's rate-sensitive assets cannot
be repriced as quickly as its rate-sensitive liabilities. Thus, the Company's
net interest income generally will decrease during a period of rising interest
rates. In periods of declining interest rates the opposite effect occurs.
As of December 31, 1998, approximately 45.2% of the Company's interest-earning
assets could be repriced within one year and approximately 82.3% of
interest-earning assets could be repriced within five years. Approximately 93.4%
of interest-bearing liabilities could be repriced within one year and
substantially all interest-bearing liabilities could be repriced within five
years.
- - --------------------------------------------------------------------------------
36
<PAGE>
MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS
- - --------------------------------------------------------------------------[LOGO]
The East Carolina Bank and Subsidiaries
Interest Sensitivity
Deregulation of interest rate and short-term, interest bearing deposits which
are more volatile, have created a need for shorter maturities of earning assets.
As a result, an increasing percentage of commercial, installment and mortgage
loans are being made with variable rates or shorter maturities to increase
liquidity and interest rate sensitivity.
The difference between interest sensitive asset and interest sensitive liability
repricing within time periods is referred to as the interest rate sensitivity
gap. Gaps are identified as either positive (interest sensitive assets in excess
of interest sensitive liabilities) or negative (interest sensitive liabilities
in excess of interest sensitive assets).
As of December 31, 1998, the Company had a negative one year cumulative gap of
27.2%. The Company has interest earning assets of $87 million maturing or
repricing within one year and interest bearing liabilities of $139 million
repricing or maturing within one year. This is primarily the result of stable
core deposits being used to fund longer term interest earning assets, such as
loans and investment securities. A negative gap position implies that interest
bearing liabilities (deposits) will reprice at a faster rate than interest
earning assets (loans and investments). In a falling rate environment, this
position will generally have a positive effect on earnings, while in a rising
rate environment this will generally have a negative effect on earnings.
The Company's savings and core time deposits of $119 million include interest
bearing checking and savings accounts of $63 million. These deposits are
considered as repricing in the earliest period because the rate can be changed
weekly. However, history has shown that the decreases in the rates paid on these
deposits have little, if any, effect on their movement out of the Company.
Therefore, in reality, they are not sensitive to changes in market rates and
could be considered in the Non-Rate Sensitive column. If this change were made,
the Company's rate sensitive liabilities would be more closely matched at the
end of the one year period.
TABLE 4. MARKET RISK
<TABLE>
<CAPTION>
Principal Maturing in Years ended December 31,
- - ----------------------------------------------------------------------------------------------------------------------------
Fair
1999 2000 2001 2002 2003 Thereafter Total Value
- - ----------------------------------------------------------------------------------------------------------------------------
(dollars in thousands)
<S> <C> <C> <C> <C> <C> <C> <C> <C>
Assets
Loans
Fixed rate $ 13,111 $ 11,927 $ 12,412 $ 9,948 $ 19,470 $ 13,620 $ 80,488 $ 80,984
Average rate (%) 9.18% 9.52% 9.25% 9.01% 8.53% 8.08% 9.02%
Variable rate 25,706 4,690 5,147 3,333 4,909 8,751 52,536 52,536
Average rate (%) 9.00% 8.43% 8.69% 8.42% 8.60% 8.59% 8.78%
Investment securities
Fixed rate 14,910 12,588 6,532 9,322 2,452 11,571 57,375 58,394
Average rate (%) 5.47% 6.14% 6.46% 6.13% 5.93% 6.72% 6.11%
Liabilities
Savings and interest
bearing checking
Variable rate 62,672 -- -- -- -- -- 62,672 60,458
Average rate (%) 1.45% -- -- -- -- -- 1.77%
Certificates of deposits
Fixed rate 73,327 8,337 1,484 -- -- -- 83,148 83,248
Average rate (%) 4.96% 5.47% 5.18% -- -- -- 5.35%
Variable rate 276 2 -- -- -- -- 278 278
Average rate (%) 2.96% 3.34% -- -- -- -- 3.34%
Federal funds purchased
Variable rate 2,725 -- -- -- -- -- 2,725 2,725
Average rate (%) 5.92% -- -- -- -- -- 5.92%
</TABLE>
- - --------------------------------------------------------------------------------
Excellence in Community Banking
37
<PAGE>
MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS
[LOGO]--------------------------------------------------------------------------
The East Carolina Bank and Subsidiaries
Non-interest income, principally charges for the use of the Company's services,
is a significant contributor to net earnings. Non-interest income for 1998
increased $81,000 or 4.2% when compared to 1997. Service charges on deposit
accounts increased $31,000 or 6.2% but was offset by a decrease in NSF service
charges of $87,000, resulting in a $56,000 or 4.0% net decrease when compared to
the same period in 1997. Other service charges and fees increased $66,000 as a
result of increased ATM surcharge fees of $55,000 that were effected by the
Company after the first quarter of 1997. Other operating income increased
$71,000 principally due to mortgage loan origination fees of $54,000 generated
by the Company's new mortgage loan product.
TABLE 5. NON-INTEREST INCOME
<TABLE>
<CAPTION>
Year ended December 31,
================================================ ====== ======
1998 1997 1996
- - ------------------------------------------------ ------ ------
(dollars in thousands)
<S> <C> <C> <C>
Service charges on deposit accounts $1,335 $1,391 $1,103
Other service charges and fees 591 525 419
Other 101 30 196
- - ------------------------------------------------ ------ ------
Total $2,027 $1,946 $1,718
================================================ ====== ======
</TABLE>
Non-interest expenses increased by $1,159,000 or 15.4% in 1998. This increase is
principally due to the opening of a new full service branch in Avon and Barco,
and a loan production office in Washington, North Carolina. Salaries and related
personnel expenses increased $360,000 over 1997 due principally to the opening
of these offices. When compared to 1997, net occupancy expense increased $97,000
or 15.6% as a result of opening the aforementioned offices and equipment
increased $107,000 due to the Company upgrading its host computer system and the
introduction of branch automation. The Company's telephone expense increased
$48,000 over last year as a result of increased usage of the Company's Xpress
phone banking system introduced during the second quarter of 1997. Professional
fees increased approximately $109,000 in connection with non-recurring legal and
accounting fees incurred related to the formation of a holding company. Other
operating expenses increased $391,000 from $1,420,000 in 1997 to $1,811,000 in
1998. This increase is primarily attributable to increases in marketing expenses
and non-recurring expense related to the planned closing of the Company's
WalMart Supercenter office in March of 1999. Marketing expense increased
approximately $182,000 over 1997 as the Company launched a broad range of
mortgage products and its new Club 7 Visa Card, a program done in conjunction
with a local television station. During December of 1998, the Company expensed
approximately $157,000 relating to the closing of the WalMart Supercenter
office. These expenses consisted primarily of obligated lease payments of
$50,000 and write-off of leasehold improvements of approximately $87,000.
TABLE 6. NON-INTEREST EXPENSES
<TABLE>
<CAPTION>
Year ended December 31,
- - ---------------------------------------------------------- ------ ------
1998 1997 1996
- - ---------------------------------------------------------- ------ ------
(dollars in thousands)
<S> <C> <C> <C>
Salaries $3,186 $2,939 $2,770
Retirement and other employee benefits 1,084 971 940
Occupancy 720 623 550
Equipment 875 768 563
Deposit insurance premiums 21 25 2
Professional fees 318 209 198
Supplies 251 222 184
Telephone 265 217 176
Postage 172 150 143
Other 1,811 1,420 1,259
- - ---------------------------------------------------------- ------ ------
Total $8,703 $7,544 $6,785
========================================================== ====== ======
</TABLE>
- - --------------------------------------------------------------------------------
38
<PAGE>
MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS
- - --------------------------------------------------------------------------[LOGO]
The East Carolina Bank and Subsidiaries
ANALYSIS OF FINANCIAL CONDITION
Management believes the Company's financial condition is sound. The following
discussion focuses on the factors considered by management to be important in
assessing the Company's financial condition.
The following table sets forth the percentage of significant components of the
Company's balance sheets at December 31, 1998 and 1997.
TABLE 7. DISTRIBUTION OF ASSETS AND LIABILITIES
<TABLE>
<CAPTION>
December 31,
- - ---------------------------------------------------------------------------------------------------------
1998 1997
- - ---------------------------------------------------------------------------------------------------------
(dollars in thousands)
<S> <C> <C> <C> <C>
Assets
Loans (net) $130,274 61.9% $118,549 63.0%
Investment securities 58,394 27.7% 47,120 25.0%
FHLB stock 565 0.3% 503 0.3%
Federal funds sold -- --% 4,425 2.4%
- - ------------------------------------------------------------------- ------ -------- -----
Total earning assets 189,233 89.9% 170,597 90.7%
Cash and due from banks 11,787 5.6% 8,281 4.4%
Bank premises and equipment, net 7,007 3.3% 6,266 3.3%
Other assets 2,457 1.2% 3,084 1.6%
- - ------------------------------------------------------------------- ------ -------- -----
Total assets $210,484 100.0% $188,228 100.0%
Liabilities and shareholders' equity
Demand deposits $ 38,086 18.1% $ 31,897 16.9%
Savings, NOW and Money Market deposits 62,672 29.8% 55,969 29.7%
Time deposits of $100,000 or more 26,855 12.8% 19,503 10.4%
Other time deposits 56,572 26.9% 63,540 33.8%
- - ------------------------------------------------------------------- ------ -------- -----
Total deposits 184,185 87.5% 170,909 90.8%
Federal funds purchased 2,725 1.3% -- --
Accrued expense and other liabilities 1,722 0.8% 1,606 0.9%
- - ------------------------------------------------------------------- ------ -------- -----
Total liabilities 188,632 89.6% 172,515 91.7%
Shareholders' equity 21,852 10.4% 15,713 8.3%
- - ------------------------------------------------------------------- ------ -------- -----
Total liabilities and shareholders' equity $210,484 100.0% $188,228 100.0%
=================================================================== ====== ======== ======
</TABLE>
[THE FOLLOWING TABLE WAS REPRESENTED AS A BAR CHART IN THE PRINTED MATERIALS.]
<TABLE>
<CAPTION>
Total Assets
(In Thousands)
<S> <C> <C>
1994 $153,553
1995 $165,408
1996 $167,218
1997 $188,228
1998 $210,484
</TABLE>
[THE FOLLOWING TABLE WAS REPRESENTED AS A BAR CHART IN THE PRINTED MATERIALS.]
<TABLE>
<CAPTION>
Total Deposits
(In Thousands)
<S> <C> <C>
1994 $141,044
1995 $150,436
1996 $151,336
1997 $170,909
1998 $184,185
</TABLE>
- - --------------------------------------------------------------------------------
Excellence in Community Banking
39
<PAGE>
MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS
[LOGO]--------------------------------------------------------------------------
The East Carolina Bank and Subsidiaries
INVESTMENT PORTFOLIO
The carrying values of investment securities held by the Company at the dates
indicated are summarized as follows:
TABLE 8. INVESTMENT PORTFOLIO COMPOSITION
<TABLE>
<CAPTION>
December 31,
- - ------------------------------------------------------------------------------------------------------------
1998 1997
- - ------------------------------------------------------------------------------------------------------------
(dollars in thousands)
<S> <C> <C> <C> <C>
Securities available-for-sale
U.S. Treasury $19,452 33.3% $25,228 53.6%
U.S. Government agencies 20,962 35.9% 7,052 14.9%
Mortgage-backed securities 555 1.0% 783 1.7%
State and political subdivisions 17,425 29.8% 14,057 29.8%
- - ------------------------------------ ------- ----- ------- -----
Total investments $58,394 100.0% $47,120 100.0%
- - ------------------------------------ ------- ----- ------- -----
</TABLE>
The following table shows maturities of the carrying values of investment
securities held by the Company at December 31, 1998, and the weighted average
yields.
TABLE 9. INVESTMENT PORTFOLIO MATURITY SCHEDULES
<TABLE>
<CAPTION>
After One Year After Five Years
Within But Within But Within After
One Year Five Years Ten Years Ten Years
- - -------------------------------------------------------------------------------------------------------------------------------
Amount Yield Amount Yield Amount Yield Amount Yield Total Yield
- - -------------------------------------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C> <C> <C> <C> <C> <C>
Available-for-Sale:
U.S. Treasury $ 6,022 5.95% $13,430 6.18% -- -- -- -- $19,452 6.11%
U.S. Government
agencies 7,671 4.97% 13,291 5.73% -- -- -- -- 20,962 5.48%
Mortgage-backed
securities -- -- -- -- -- -- $ 555 6.47% 555 6.47%
State and political
subdivisions (1) 1,249 6.63% 4,742 7.54% 5,396 6.82% 6,038 6.67% 17,425 6.95%
- - ------------------------ ------- ---- ------- ---- ------- ---- ------- ---- ------- ----
Total $14,942 5.50% $31,463 6.20% $ 5,396 6.82% $ 6,593 6.66% $58,394 6.13%
======================== ======= ==== ======= ==== ======= ==== ======= ==== ======= ====
</TABLE>
(1) Yields on tax-exempt investments have been adjusted to a fully
taxable-equivalent basis using the federal income tax rate of 34%. The weighted
average yields shown are calculated on the basis of cost and effective yields
for the scheduled maturity of each security. At December 31, 1998 the market
value of the investment portfolio was approximately $1,019,000 above its book
value, which is the result of lower market interest rates compared to the
interest rates on the investments in the portfolio.
- - --------------------------------------------------------------------------------
40
<PAGE>
MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS
- - --------------------------------------------------------------------------[LOGO]
The East Carolina Bank and Subsidiaries
LOAN PORTFOLIO
The Company's management believes the loan portfolio is adequately diversified
and contains no foreign loans. Real estate loans represent approximately 49% of
the Company's loan portfolio. Real estate loans are primarily loans secured by
real estate, mortgage, and construction loans. The Company does not have a large
portfolio of home mortgage loans. See note (1) below. Commercial loans are
spread throughout a variety of industries, with no particular industry or group
of related industries accounting for a significant portion of the commercial
loan portfolio. At December 31, 1998, the ten largest loans of the Company
accounted for approximately 7% of the Company's outstanding loans. As of
December 31, 1998, the Company had outstanding loan commitments of approximately
$20,411,000. The amounts of loans outstanding and the percentage that such loans
represented of total loans at the indicated dates are shown in the following
table according to loan type.
TABLE 10. LOAN PORTFOLIO COMPOSITION
<TABLE>
<CAPTION>
December 31,
- - ------------------------------------------------------------------------------------------------
1998 1997
- - ------------------------------------------------------------------------------------------------
(dollars in thousands)
<S> <C> <C> <C> <C>
Real estate (1) $ 64,538 48.5% $ 63,300 52.2%
Installment loans 11,339 8.5% 25,424 21.0%
Credit cards and related plans 3,694 2.8% 3,415 2.8%
Commercial and all other loans 53,453 40.2% 29,070 24.0%
- - ------------------------------------------------------- ----- -------- -----
Total $133,024 100.0% $121,209 100.0%
======================================================= ===== ======== =====
</TABLE>
(1) The majority of these loans are various consumer and commercial loans with
approval based on cash flow and not the real estate. The majority of the
commercial real estate is owner-occupied and operated.
MATURITIES AND SENSITIVITIES OF LOANS TO CHANGES IN INTEREST RATES
The following table sets forth the maturity distribution of the Company's loans
as of December 31, 1998. A significant majority of loans maturing after one year
are repriced at two and three year intervals. In addition, approximately 39% of
the Company's loan portfolio is comprised of variable rate loans.
TABLE 11. LOAN MATURITIES
<TABLE>
<CAPTION>
- - ------------------------------------------------------------------------------------------------------------------------------------
Credit cards Commercial
Real and related and all
estate Installment plans other loans Total
- - ------------------------------------------------------------------------------------------------------------------------------------
(dollars in thousands)
<S> <C> <C> <C> <C> <C>
Due in 1 year or less $ 8,678 $ 1,349 $ 3,694 $ 25,096 $ 38,817
Due after 1 year through 5 years:
Floating interest rates 10,826 294 -- 6,959 18,079
Fixed interest rates 33,153 8,974 -- 11,630 53,757
Due after 5 years:
Floating interest rates 2,933 23 -- 5,795 8,751
Fixed interest rates 8,948 699 -- 3,973 13,620
- - -------------------------------------------------------- -------- -------- -------- -------- --------
Total $ 64,538 $ 11,339 $ 3,694 $ 53,453 $133,024
======================================================== ======== ======== ======== ======== ========
</TABLE>
- - --------------------------------------------------------------------------------
Excellence in Community Banking
41
<PAGE>
MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS
[LOGO]--------------------------------------------------------------------------
The East Carolina Bank and Subsidiaries
NONPERFORMING ASSETS AND PAST DUE LOANS
A loan is placed on non-accrual status when, in management's judgment, the
collection of interest income appears doubtful or the loan is past due 90 days
or more. Interest receivable that has been accrued and is subsequently
determined to have doubtful collectibility is charged to the appropriate
interest income account. Interest on loans that are classified as non-accrual is
recognized when received. In some cases, where borrowers are experiencing
financial difficulties, loans may be restructured to provide terms significantly
different from the original terms. Foreclosed properties are included in other
assets and represent other real estate that has been acquired through loan
foreclosures or deeds in lieu of foreclosure. Such properties are initially
recorded at the lower of cost or fair value less estimated costs to sell.
Thereafter the properties are maintained at the lower of cost or fair value less
estimated costs to sell.
The following table summarizes the Company's nonperforming assets and past due
loans at the dates indicated.
TABLE 12. NONPERFORMING ASSETS AND PAST DUE LOANS
<TABLE>
<CAPTION>
December 31,
- - ----------------------------------------------------------
1998 1997
- - ----------------------------------------------------------
(dollars in thousands)
<S> <C> <C>
Non-accrual loans $ 88 $1,463
Restructured loans 621 522
Foreclosed properties 50 340
- - ------------------------------------------- ------
Total $ 759 $2,325
=========================================== ======
</TABLE>
As December 31, 1998 and 1997, nonperforming assets and past due loans were
approximately 0.57% and 1.92%, respectively, of the loans outstanding at such
dates.
SUMMARY OF LOAN LOSS EXPERIENCE
The allowance for possible loan losses is created by direct charges to
operations. Losses on loans are charged against the allowance in the period in
which such loans, in management's opinion, become uncollectible. Recoveries
during the period are credited to this allowance. The factors that influence
management's judgment in determining the amount charged to operating expense
include past loan loss experience, composition of the loan portfolio, evaluation
of estimated probable loan losses and current economic conditions. The Company's
loan watch committee, which includes three members of senior management as well
as regional managers and other credit administration personnel, conducts a
quarterly review of all credits classified as substandard. This review follows a
re-evaluation by the account officer who has primary responsibility for the
relationship.
The following table sets forth the allowance for possible loan losses at
December 31, 1998 and 1997.
TABLE 13. ALLOCATION OF ALLOWANCE FOR POSSIBLE LOAN LOSSES
<TABLE>
<CAPTION>
December 31,
- - --------------------------------------------------------------------------------------------------------------
1998 1997
- - --------------------------------------------------------------------------------------------------------------
Percent of Percent of
Total Loans in Total Loans in
Amount Each Category Amount Each Category
- - --------------------------------------------------------------------------------------------------------------
(dollars in thousands)
<S> <C> <C> <C> <C>
Real estate $1,619 48.5% $1,690 52.2%
Installment loans 166 8.5% 389 21.0%
Credit cards and related plans 160 2.8% 390 2.8%
Commercial and all other loans 624 40.2% 149 24.0%
- - --------------------------------------------------------- ----- ------ -----
Total allocated 2,569 100.0% 2,618 100.0%
Unallocated 181 42
- - --------------------------------------------------------- ------
Total $2,750 $2,660
========================================================= ======
</TABLE>
- - --------------------------------------------------------------------------------
42
<PAGE>
MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS
- - --------------------------------------------------------------------------[LOGO]
The East Carolina Bank and Subsidiaries
Management considers the allowance for possible loan losses adequate to cover
estimated probable loan losses on the loans outstanding as of each reporting
period. It must be emphasized, however, that the determination of the allowance
using the Company's procedures and methods rests upon various judgments and
assumptions about economic conditions and other factors affecting loans. No
assurance can be given that the Company will not in any particular period
sustain loan losses that are sizable in relation to the amount reserved or that
subsequent evaluations of the loan portfolio, in light of conditions and factors
then prevailing, will not require significant changes in the allowance for
possible loan losses or future charges to earnings.
For 1998, 1997, and 1996, the following table summarizes the Company's balances
of loans outstanding, average loans outstanding, changes in the allowance
arising from charge-offs and recoveries by category, and additions to the
allowance that have been charged to expense.
TABLE 14. LOAN LOSS AND RECOVERY EXPERIENCE
<TABLE>
<CAPTION>
Year ended December 31,
- - ------------------------------------------------------------------------------------------------------------------------------------
1998 1997 1996
- - ------------------------------------------------------------------------------------------------------------------------------------
(dollars in thousands)
<S> <C> <C> <C>
Total loans outstanding at end of year $133,024 $121,209 $112,656
================================================================================================= ======== ========
Average loans outstanding 127,650 118,185 104,297
================================================================================================= ======== ========
Allowance for possible loan losses at beginning of year $ 2,660 $ 2,400 $ 1,950
Loans charged off:
Real estate 21 6 12
Installment loans 89 62 62
Credit cards and related plans 119 110 111
Commercial and all other loans 2 17 81
- - ------------------------------------------------------------------------------------------------- -------- --------
Total charge-offs 231 195 266
Recoveries of loans previously charged off:
Real estate -- -- 118
Installment loans 22 22 26
Credit cards and related plans 23 36 34
Commercial and all other loans 34 43 41
- - ------------------------------------------------------------------------------------------------- -------- --------
Total recoveries 79 101 219
Net charge-offs 152 94 47
Additions to the allowance charged to expense 242 354 497
- - ------------------------------------------------------------------------------------------------- -------- --------
Allowance for possible loan losses at end of year $ 2,750 $ 2,660 $ 2,400
================================================================================================= ======== ========
Ratios
Net charge-offs during year to average loans outstanding during year 0.12% 0.08% 0.05%
Net charge-offs during year to loans at year-end 0.11% 0.08% 0.04%
Allowance for possible loan losses to average loans 2.15% 2.25% 2.30%
Allowance for possible loan losses to loans at year-end 2.07% 2.19% 2.13%
Net charge-offs to allowance for possible loan losses 5.53% 3.53% 1.96%
Net charge-offs to provision for possible loan losses 62.81% 26.55% 9.46%
</TABLE>
- - --------------------------------------------------------------------------------
Excellence in Community Banking
43
<PAGE>
MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS
[LOGO]--------------------------------------------------------------------------
The East Carolina Bank and Subsidiaries
DEPOSITS
The average amounts of deposits of the Company for the years ended December 31,
1998, and 1997 are summarized below.
TABLE 15. AVERAGE DEPOSITS
Year ended December 31,
<TABLE>
<CAPTION>
- - -----------------------------------------------------------------------------------------------------
1998 1997
- - -----------------------------------------------------------------------------------------------------
Average Average
Balance Rate Balance Rate
- - -----------------------------------------------------------------------------------------------------
(dollars in thousands)
<S> <C> <C> <C> <C>
Interest-bearing demand deposits $ 42,807 1.60% $ 40,029 1.75%
Savings deposits 14,648 1.94% 14,956 2.06%
Time deposits 83,130 5.27% 80,804 5.39%
- - ---------------------------------------------------------- ----- -------- -----
Total interest-bearing deposits 140,585 3.81% 135,789 3.95%
- - ---------------------------------------------------------- ----- -------- -----
Non-interest-bearing deposits 35,272 -- 28,574 --
- - ---------------------------------------------------------- ----- -------- -----
Total deposits $175,857 3.04% $164,363 3.26%
========================================================== ===== ======== =====
</TABLE>
The Company has a large, stable base of time deposits with little dependence on
volatile deposits of $100,000 or more. The time deposits are principally
certificates of deposits and individual retirement accounts obtained from
individual customers. Deposits of certain local governments and municipal
entities represented approximately 9.7% of the Company's total deposits at
December 31, 1998. All such public funds are collateralized by investment
securities. The Company does not purchase brokered deposits.
As of December 31, 1998, the Company held approximately $26,855,000 in time
deposits of $100,000 or more and time deposits less than $100,000 of
$56,571,000. The following table is a maturity schedule of time deposits as of
December 31, 1998.
TABLE 16. TIME DEPOSIT MATURITY SCHEDULE
<TABLE>
<CAPTION>
- - ----------------------------------------------------------------------------------------------------------------------
3 Months 4 to 6 7 to 12 Over 12
Or Less Months Months Months Total
- - ----------------------------------------------------------------------------------------------------------------------
(dollars in thousands)
<S> <C> <C> <C> <C> <C>
Time certificates of deposit of
$100,000 or more $10,795 $5,925 $7,690 2,445 $26,855
Time certificates of deposit less
than $100,000 21,339 14,635 13,277 7,320 56,571
- - ------------------------------------------------------------- ------- ------- ------ -------
Total time deposits $32,134 $20,560 $20,967 $9,765 $83,426
============================================================= ======= ======= ====== =======
</TABLE>
RETURN ON ASSETS AND EQUITY
The following table shows return on assets (net income divided by average
assets), return on equity (net income divided by average shareholders' equity),
dividend payout ratio (dividends declared per share divided by net income per
share) and shareholders' equity to assets ratio (average shareholders' equity
divided by average total assets) for each of the years presented.
TABLE 17. RETURN ON ASSETS AND EQUITY
<TABLE>
<CAPTION>
Year ended December 31,
- - ----------------------------------------------------------------------
1998 1997 1996
- - ----------------------------------------------------------------------
<S> <C> <C> <C>
Return on assets 1.01% 0.93% 0.80%
Return on equity 11.33% 11.07% 9.55%
Dividend payout 23.64% 24.82% 28.44%
Shareholders' equity to assets 8.89% 8.37% 8.42%
</TABLE>
- - --------------------------------------------------------------------------------
44
<PAGE>
MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS
- - --------------------------------------------------------------------------[LOGO]
The East Carolina Bank and Subsidiaries
ACCOUNTING AND OTHER MATTERS
In June 1998, the Financial Accounting Standards Board ("FASB") issued Statement
of Financial Accounting Standards ("SFAS") No. 133, "Accounting for Derivative
Instruments and Hedging Activities." This statement establishes accounting and
reporting standards for derivative instruments, including certain derivative
instruments embedded in other contracts, and for hedging activities. It requires
that an entity recognize all derivatives as either assets or liabilities in the
balance sheet and measure those instruments at fair value. The accounting for
changes in the fair value of a derivative depends on the intended use of the
derivative and the resulting designation. This statement is effective for all
fiscal quarters of fiscal years beginning after June 15, 1999. Earlier
application of all of the provisions of this statement is encouraged. The
Company plans to adopt this statement at January 1, 2000 and does not anticipate
any material effect on its consolidated financial statements.
In October 1998, the FASB issued SFAS No. 134, "Accounting for Mortgage-Backed
Securities Retained after the Securitization of Mortgage Loans Held for Sale by
a Mortgage Banking Enterprise". This statement allows mortgage banking firms to
account for certain securities and other interests retained after securitizing
mortgage loans that were held for sale based on the ability and intent to hold
or sell such investments, consistent with the guidance contained in SFAS No.
115, "Accounting for Certain Investments in Debt and Equity Securities". This
statement is effective for the first fiscal quarter beginning after December 15,
1998. The Company plans to adopt this statement on January 1, 1999 and does not
anticipate any material effect on its consolidated financial statements.
The FASB also issues exposure drafts for proposed statements of financial
accounting standards. Such exposure drafts are subject to comment from the
public, to revisions by the FASB and to final issuance by the FASB as statements
of financial accounting standards. Management considers the effect of the
proposed statements on the consolidated financial statements of the Company and
monitors the status of changes to issued exposure drafts and to proposed
effective dates.
Year 2000 Issue
GENERAL. The year 2000 ("Y2K") issue confronting the Company and its suppliers,
customers, customers' suppliers and competitors centers on the potential
inability of certain computer systems to recognize the year 2000. Many existing
computer programs and systems originally were programmed with six digit dates
that provided only two digits to identify the calendar year in the date field.
With the impending new millennium, these programs and computers will recognize
"00" as the year 1900 rather than the year 2000.
Financial institution regulators recently have increased their focus upon Y2K
compliance issues and have issued guidance concerning the responsibilities of
senior management and directors. The Federal Financial Institutions Examination
Council ("FFIEC") has issued several interagency statements on Y2K Project
Management Awareness. These statements require financial institutions to, among
other things, examine the Y2K implications of their reliance on vendors and with
respect to data exchange and the potential impact of the Y2K issue on their
customers, suppliers and borrowers. These statements also require each federally
regulated financial institution to survey its exposure, measure its risk and
prepare a plan to address the Y2K issue. In addition, the federal banking
regulators have issued safety and soundness guidelines to be followed by insured
depository institutions, such as the Bank, to assure resolution of any Y2K
problems. The federal banking agencies have asserted that Y2K testing and
certification is a key safety and soundness issue in conjunction with regulatory
exams and, thus, that an institution's failure to address appropriately the Y2K
issue could result in supervisory action, including the reduction of the
institution's supervisory ratings, the denial of applications for approval of
mergers or acquisitions or the imposition of civil money penalties.
RISKS. Like most financial service providers, the Company and its operations may
be significantly affected by the Y2K issue due to its dependence on technology
and date-sensitive data. Computer software and hardware and other equipment,
both within and outside the Company's direct control, and third parties with
whom the Company electronically or operationally interfaces (including without
limitation its customers and third party vendors) may be affected. If computer
systems are not modified in order to be able to identify the year 2000, many
computer applications could fail or create erroneous results. As a result, many
calculations which rely on date field information, such as interest, payment or
due dates and other operating functions, could generate results which are
significantly misstated, and the Company would experience an inability to
process transactions, prepare statements or engage in similar normal business
activities. Likewise, under certain circumstances, a failure to adequately
address the Y2K issue could adversely affect the viability of the Company's
suppliers and creditors and the creditworthiness of its borrowers. Thus, if not
- - --------------------------------------------------------------------------------
Excellence in Community Banking
45
<PAGE>
MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS
[LOGO]--------------------------------------------------------------------------
The East Carolina Bank and Subsidiaries
adequately addressed, the Y2K issue could result in a significant adverse impact
on the Company's operations and, in turn, its financial condition and results of
operations.
STATE OF READINESS. During November 1997, the Company formulated its plan to
address the Y2K issue. Since that time, the Company has taken the following
steps:
Established senior management advisory and review responsibilities;
Completed a company-wide inventory of applications and system software;
Built an internal tracking database for application and vendor software;
Developed compliance plans and schedules for all lines of business;
Begun computer code testing;
Initiated vendor compliance verification;
Begun awareness and education activities for employees through existing internal
communication channels; and
Developed a process to respond to customer inquiries as well as help educate
customers on the Y2K issue.
The following paragraphs summarize the phases of the Company's Y2K plan:
AWARENESS PHASE. The Company formally established a Y2K plan headed by a senior
manager, and a project team was assembled for management of the Y2K project. The
project team created a plan of action that includes milestones, budget
estimates, strategies, and methodologies to track and report the status of the
project. Members of the project team also attended conferences and information
sharing sessions to gain more insight into the Y2K issue and potential
strategies for addressing it. This phase is substantially complete.
ASSESSMENT PHASE. The Company's strategies were further developed with respect
to how the objectives of the Y2K plan would be achieved, and a Y2K business risk
assessment was made to quantify the extent of the Company's Y2K exposure. A
corporate inventory (which is periodically updated as new technology is acquired
and as systems progress through subsequent phases) was developed to identify and
monitor Y2K readiness for information systems (hardware, software, utilities,
and vendors) as well as environmental systems (security systems, facilities,
etc.). Systems were prioritized based on business impact and available
alternatives. Mission critical systems supplied by vendors were researched to
determine Y2K readiness. If Y2K-ready versions were not available, the Company
began identifying functional replacements which were either upgradable or
currently Y2K-ready, and a formal plan was developed to repair, upgrade or
replace all mission critical systems. This phase is substantially complete.
In August 1997, the Company began Y2K discussions with its larger borrowers at
the time of the annual review of their loans. Beginning in January 1998, all
credits greater than $250,000 were evaluated for Y2K exposure by the
relationship account officer using a questionnaire developed by the Company's
credit administration staff. As part of the current credit approval process, all
new and renewed loans are evaluated for Y2K risk. During the course of these
evaluations, Company personnel have met individually with each of its larger
borrowers to discuss and obtain information regarding each borrower's dependence
on information technology and third party vendors and the nature of steps being
taken by the borrowers to address their Y2K risk. While the Company will
continue to monitor the progress being made by its larger borrowers in
addressing their own Y2K issues, to date the Company is generally satisfied with
these customers' responses to the Company's inquiries and their progress in
addressing their Y2K risk.
RENOVATION PHASE. The Company's corporate inventory revealed that Y2K upgrades
were available for all vendor supplied mission critical systems, and all these
Y2K-ready versions have been delivered and placed into production and have
entered the validation process.
VALIDATION PHASE. The validation phase is designed to test the ability of
hardware and software to accurately process date sensitive data. The Company
currently is in the process of validation testing of each mission critical
system, with the degree of completion of such testing ranging from 25% to 100%.
The Company has created a test environment comprised of an IBM Model 170
dedicated to Y2K testing which is virtually insulated from production and
development environments. The Company anticipates that the validation phase will
absorb approximately 50% of the total Y2K resources (computer and personnel)
over the life cycle of the project. The Company has increased staff in
anticipation of that work effort. The Company's validation phase is
subs-
- - --------------------------------------------------------------------------------
46
<PAGE>
MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS
- - --------------------------------------------------------------------------[LOGO]
The East Carolina Bank and Subsidiaries
tantially complete for all mission critical systems (with the exception of the
Company's automated teller machine network as to which validation testing will
be completed during the first quarter of 1999). During the validation testing
process to date, no significant Y2K problems have been identified relating to
any modified or upgraded mission critical systems.
IMPLEMENTATION PHASE. The Company's plan calls for putting Y2K-ready code into
production before having actually completed Y2K validation testing. Y2K-ready
modified or upgraded versions have been installed and placed into production
with respect to all mission critical systems.
COMPANY RESOURCES INVESTED. The Company's Y2K project team has been assigned the
task of ensuring that all systems across the Company are identified, analyzed
for Y2K compliance, corrected if necessary, tested, and changes put into
service. The Y2K project team members represent all functional areas of the
Company, including branches, data processing, loan administration, accounting,
item processing and operations, compliance, internal audit, human resources, and
marketing. The team is headed by a vice president who reports directly to a
member of the Company's senior management team. The Company's Board of Directors
oversees the Y2K plan and provides guidance and resources to, and receives
quarterly updates from, the Y2K project team.
The Company is expensing all costs associated with required system changes as
those costs are incurred, and such costs are being funded through operating cash
flows. The total cost of the Y2K conversion project for the Company is estimated
to be $200,000. Expenses of approximately $47,000 were incurred and expensed by
the Company in 1998 and the Company life-to-date has expensed approximately
$54,000. The Company does not expect significant increases in future data
processing costs relating to Y2K compliance.
CONTINGENCY PLANS. During the assessment phase, the Company began to develop
back-up or contingency plans for each of its mission critical systems. The
Company's contingency plans are based upon its most reasonably likely worst-case
scenario of failure or interruptions of service from electrical and telephone
providers. Virtually all of the Company's mission critical systems are dependent
upon third party vendors or service providers, therefore, contingency plans
include selecting a new vendor or service provider and converting to their
system. In the event a current vendor's system fails during the validation phase
and it is determined that the vendor is unable or unwilling to correct the
failure, the Company will convert to a new system from a pre-selected list of
prospective vendors. In each case, realistic trigger dates have been established
to allow for orderly and successful conversions. For some systems, contingency
plans consist of using spreadsheets software or reverting to manual systems
until system problems can be corrected.
The majority of the Company's mission critical systems fall into the categories
of its core-banking software, its proof of deposit system, and its automated
teller machine network. The Company has received warranties from vendors to the
effect that the proof of deposit and automated teller machine network software
is Y2K-ready. While no warranty has been received with respect to the
core-banking system, that system is used by a number of banking institutions and
has been reviewed by the Federal Reserve Bank of Atlanta for year 2000
readiness.
With respect to each third party with whom the Company interfaces electronically
or from whom it obtains services or supplies (such as the Company's credit and
debit card processors, its correspondent bank, the Federal Reserve Bank of
Richmond, its electric and telephone companies, and its suppliers of business
forms), the Company has requested information regarding that party's
preparations and state of preparedness with respect to Y2K issues. While, in
general, no such third parties will give warranties or guarantees with respect
to Y2K issues, the Company has received from each third party in writing an
acknowledgment of that party's awareness of the Y2K issues, information
regarding its plan for addressing Y2K concerns, and an assurance that steps are
being taken to prevent service interruptions. While these assurances do not give
the Company any specific legal rights or remedies, the Company generally is
satisfied with the responses it has received. In the case of third parties with
whom the Company interfaces electronically, testing of those interfaces is being
conducted or is scheduled and interruptions in the services provided by such
third parties have been taken into account in the Company's contingency plans
(which, for example, provide for increased inventories of business forms and
supplies, increased levels of cash on hand, use of a generator to operate the
Company's main computer system and operations function, manual processing of
branch transactions, direct clearing of checks through the Federal Reserve
rather than through a correspondent bank, and, where possible, a change to a
different third party supplier).
Management is not aware of any known trends, events, uncertainties, or current
recommendations by regulatory authorities that will or that are reasonably
likely to have a material effect on the Company's liquidity, capital resources
or other operations.
- - --------------------------------------------------------------------------------
Excellence in Community Banking
47
<PAGE>
BOARD OF DIRECTORS AND SUBSIDIARY CORPORATIONS
[LOGO]--------------------------------------------------------------------------
The East Carolina Bank and Subsidiaries
Board of Directors
George Thomas Davis, Jr.
Vice Chairman of the Board
Attorney at Law
Davis & Davis Attorneys
Swan Quarter, North Carolina
C. Gilbert Gibbs
Farmer and Merchant
C.G. Gibbs Hardware
Engelhard, North Carolina
Gregory C. Gibbs
Student
NC State University
Raleigh, North Carolina
John F. Hughes, Jr.
Region Manager
North Carolina Power
Manteo, North Carolina
Arthur H. Keeney, III
President and CEO
The East Carolina Bank
Engelhard, North Carolina
J. Bryant Kittrell, III
President and Owner
Kittrell & Associates, Inc.
Greenville, North Carolina
Joseph T. Lamb, Jr.
President
Joe Lamb, Jr. & Associates, Inc.
Real Estate Sales
Nags Head, North Carolina
B. Martelle Marshall
Restaurant Owner
Martelle's Bar-B-Q
Engelhard, North Carolina
Robert L. Mitchell
Barber and Retired Magistrate
Mitchell's Barber Shop
Columbia, North Carolina
R.S. Spencer, Jr.
Chairman of the Board
President, R.S. Spencer, Inc.
Merchant
Engelhard, North Carolina
Ray Mitchell Spencer
Retired Farmer
Swan Quarter, North Carolina
Jo Ellen G. Cutrell
Corporate Secretary
The East Carolina Bank Subsidiary Corporations
- - --------------------------------------------------------------------------------
CAROLINA FINANCIAL REALTY, INC.
- - -------------------------------
Gregory C. Gibbs
President
B. Martelle Marshall
Vice President
Arthur H. Keeney, III
Corporate Secretary and Treasurer
CAROLINA FINANCIAL COURIER, INC.
- - --------------------------------
Gregory C. Gibbs
President
B. Martelle Marshall
Vice President
Arthur H. Keeney, III
Corporate Secretary and Treasurer
- - --------------------------------------------------------------------------------
48
<PAGE>
BANK SENIOR MANAGEMENT and CORPORATE OFFICERS
- - -------------------------------------------------------------------------[LOGO]
The East Carolina Bank and Subsidiaries
Bank Senior Management
* Arthur H. Keeney, III
President and
Chief Executive Officer
* J. Dorson White, Jr.
Executive Vice President
Branch Administration
* Gary M. Adams
Senior Vice President
Chief Financial Officer
* William F. Plyler, II
Senior Vice President
Chief Credit Officer
* Sarah M. Stephens
Senior Vice President
Human Resources
Jo Ellen G. Cutrell
Corporate Secretary
* Denotes Policy-making Officers of the Bank
- - --------------------------------------------------------------------------------
Corporate Officers
Arthur H. Keeney, III
President and
Chief Executive Officer
Gary M. Adams
Senior Vice President
Chief Financial Officer
Jo Ellen G. Cutrell
Corporate Secretary
- - --------------------------------------------------------------------------------
Excellence in Community Banking
49
<PAGE>
BANK OFFICERS AND DEPARTMENT MANAGERS
[LOGO]--------------------------------------------------------------------------
The East Carolina Bank and Subsidiaries
Bank Officers
Accounting
Judith C. Tomlinson
Vice President
Agri-Business
Arthur R. "Buck" Spruill, III
Vice President
Agri-Business Officer
Jeffrey B. Williamson
Assistant Vice President
Agri-Business Officer
Walter T. "Tom" Felton
Banking Officer
Agri-Business Officer
Audit/COMPLIANCE
Thomas B. Heggie, III
Vice President
Vincent L. Midgette
Banking Officer
BANK CARD SERVICES
T. Ann Williams
Vice President
BANK OPERATIONS
Edna H. Sukeforth
Vice President
CREDIT ADMINISTRATION
Marla C. Gibbs
Vice President
Matthew J. Byrne
Vice President
MANAGEMENT INFORMATION SYSTEMS
Edward H. Heflin
Vice President
MARKETING
Mimi W. Van Nortwick
Assistant Vice President
Elizabeth C. Stanley
Assistant Vice President
- - --------------------------------------------------------------------------------
Bank Department Managers
CENTRAL PURCHASING
Denise L. Gibbs
DATA ENTRY
Jean M. Raczenski-Clarke
DATA PROCESSING
C. Todd Mason
FACILITIES MAINTENANCE
Jerry W. Gibbs
ITEM PROCESSING
Devonda Howard
TECHNICAL SUPPORT
Candis L. Castellow
- - --------------------------------------------------------------------------------
50
<PAGE>
BRANCH OFFICERS
- - -------------------------------------------------------------------------[LOGO]
The East Carolina Bank and Subsidiaries
Bank Senior Management
CENTRAL REGION
COLUMBIA
David W. Noell
Branch Manager
Dawn L. Harrell
Branch Operations Manager
CRESWELL
Betty B. Cabarrus
Vice President
Branch Manager
Eloise F. Hassell
Branch Operations Manager
ENGELHARD
Beverly B. Meekins
Branch Manager
Lori G. Cahoon
Branch Operations Manager
FAIRFIELD
Faye C. Sadler
Vice President
Branch Manager
SWAN QUARTER
Faye C. Sadler
Vice President
Branch Manager
WASHINGTON
John E. Wojcik
Vice President
Branch Manager*
- - --------------------------------------------------------------------------------
EASTERN REGION
T. Olin Davis
Vice President
Eastern Region Manager
Richard N. "Skipper" Hines, III
Vice President
Business Development Officer
AVON
Roberta L. Midgett
Assistant Vice President
Branch Manager
BARCO/CURRITUCK
Lewis G. Barnett
Assistant Vice President
Branch Manager
HATTERAS
R. Drew Pullen
Vice President
Branch Manager
Cora A. Simmons
Assistant Vice President
Loan Officer
MANTEO
T. Olin Davis
Vice President
Branch Manager
Susan H. Berry
Vice President
Loan Officer
Roy O. "Chip" Phillips, Jr.
Banking Officer
NAGS HEAD
Richard N. "Skipper" Hines, III
Vice President
Branch Manager
Linda H. Algood
Assistant Vice President
Loan Officer
OCRACOKE
R. Drew Pullen
Vice President
Branch Manager
Agnes G. Garrish
Banking Officer
Judith G. Garrish
Banking Officer
Branch Operations Manager
SOUTHERN SHORES
Thomas J. Kern
Assistant Vice President
Branch Manager*
- - --------------------------------------------------------------------------------
WESTERN REGION
Edwin J. "Jerry" Brett
Vice President
Western Region Manager
GREENVILLE
RED BANKS ROAD
Barry G. Allen
Assistant Vice President
Branch Manager
UNIVERSITY MEDICAL CENTER
Mary M. Lawrence
Branch Manager
- - --------------------------------------------------------------------------------
Excellence in Community Banking
51
<PAGE>
ATTORNEYS AND CORRESPONDENT BANKS
[LOGO]--------------------------------------------------------------------------
The East Carolina Bank and Subsidiaries
ATTORNEYS
Davis & Davis
Attorneys at Law
Swan Quarter, North Carolina
Ward and Smith, P.A.
Attorneys at Law
New Bern, North Carolina
Charles W. Ogletree
Attorney at Law
Columbia, North Carolina
- - --------------------------------------------------------------------------------
CORRESPONDENT BANKS
Centura Bank
Rocky Mount, North Carolina
Federal Home Loan Bank of Atlanta
Atlanta, Georgia
Federal Reserve Bank of Richmond
Charlotte Branch
Charlotte, North Carolina
Federal Reserve Bank of Richmond
Richmond, Virginia
First Citizens Bank & Trust Company
Raleigh, North Carolina
Bank of America
Charlotte, North Carolina
SunTrust Bank
Atlanta, Georgia
Wachovia Bank & Trust Company
Winston-Salem, North Carolina
- - --------------------------------------------------------------------------------
52
<TABLE> <S> <C>
<ARTICLE> 9
<S> <C> <C>
<PERIOD-TYPE> 12-MOS 12-MOS
<FISCAL-YEAR-END> DEC-31-1998 DEC-31-1997
<PERIOD-START> JAN-01-1998 JAN-01-1997
<PERIOD-END> DEC-31-1998 DEC-31-1997
<CASH> 11,787 8,281
<INT-BEARING-DEPOSITS> 0 0
<FED-FUNDS-SOLD> 0 4,425
<TRADING-ASSETS> 0 0
<INVESTMENTS-HELD-FOR-SALE> 58,394 47,120
<INVESTMENTS-CARRYING> 0 0
<INVESTMENTS-MARKET> 0 0
<LOANS> 133,024 121,209
<ALLOWANCE> 2,750 2,660
<TOTAL-ASSETS> 210,484 188,228
<DEPOSITS> 184,185 170,909
<SHORT-TERM> 2,725 0
<LIABILITIES-OTHER> 1,722 1,606
<LONG-TERM> 0 0
0 0
0 0
<COMMON> 7,438 6,231
<OTHER-SE> 14,414 9,482
<TOTAL-LIABILITIES-AND-EQUITY> 210,484 188,228
<INTEREST-LOAN> 12,015 10,887
<INTEREST-INVEST> 2,625 2,261
<INTEREST-OTHER> 242 491
<INTEREST-TOTAL> 14,882 13,639
<INTEREST-DEPOSIT> 5,351 5,363
<INTEREST-EXPENSE> 5,360 5,364
<INTEREST-INCOME-NET> 9,522 8,275
<LOAN-LOSSES> 242 354
<SECURITIES-GAINS> 0 0
<EXPENSE-OTHER> 8,703 7,544
<INCOME-PRETAX> 2,604 2,323
<INCOME-PRE-EXTRAORDINARY> 2,604 2,323
<EXTRAORDINARY> 0 0
<CHANGES> 0 0
<NET-INCOME> 1,959 1,673
<EPS-PRIMARY> 1.08 0.94
<EPS-DILUTED> 1.08 0.94
<YIELD-ACTUAL> 5.62 5.19
<LOANS-NON> 88 1,463
<LOANS-PAST> 0 0
<LOANS-TROUBLED> 621 522
<LOANS-PROBLEM> 0 0
<ALLOWANCE-OPEN> 2,660 2,400
<CHARGE-OFFS> 231 195
<RECOVERIES> 79 101
<ALLOWANCE-CLOSE> 2,750 2,660
<ALLOWANCE-DOMESTIC> 2,750 2,660
<ALLOWANCE-FOREIGN> 0 0
<ALLOWANCE-UNALLOCATED> 0 0
</TABLE>
