SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-QSB
[X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(D)
OF THE SECURITIES EXCHANGE ACT OF 1934
For the Quarterly Period Ended September 30, 1999
or
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(D)
OF THE SECURITIES EXCHANGE ACT OF 1934
For the transition period from _____________________ to _____________________
Commission File No. 2017-6
--------------------------
ECB Bancorp, Inc.
-----------------
(Exact name of registrant as specified in its charter)
North Carolina 56-0215930
-------------- ----------
(State or other jurisdiction of (I.R.S. Employer Identification No.)
incorporation or organization)
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)
Indicate by check mark whether the registrant (1) has filed all reports required
to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during
the preceding 12 months (or for such shorter period that the registrant was
required to file such reports), and (2) has been subject to such filing
requirements for the past 90 days. Yes X No
--- ---
APPLICABLE ONLY TO CORPORATE ISSUERS:
Indicate the number of shares outstanding of each of the issuer's classes of
common stock, as of the latest practicable date.
As of November 10, 1999, 2,122,029 shares of the registrant's common stock,
$3.50 par value, were outstanding.
This Form 10-QSB has 19 pages.
<PAGE>
Part I. FINANCIAL INFORMATION
Item 1. Financial Statements
ECB BANCORP, INC. AND SUBSIDIARY
Consolidated Balance Sheets
September 30, 1999 and December 31, 1998
(dollar amounts in thousands)
<TABLE>
<CAPTION>
September 30, December 31,
Assets 1999 1998*
- ------------------------------------------------------------------------------------- -----------
(unaudited)
<S> <C> <C>
Non-interest bearing deposits and cash $12,073 $11,787
Federal funds sold 4,175 -
- ------------------------------------------------------------------------------------- -----------
Total cash and cash equivalents 16,248 11,787
- ------------------------------------------------------------------------------------- -----------
Investment securities
Available-for-sale, at market value (cost of $60,458 and 60,107 58,394
$57,375 at September 30, 1999 and December 31, 1998, respectively)
Loans 146,173 133,024
Allowance for probable loan losses (2,714) (2,750)
- ------------------------------------------------------------------------------------- -----------
Loans,net 143,459 130,274
- ------------------------------------------------------------------------------------- -----------
Real estate acquired in settlement of loans, net 54 50
Federal Home Loan Bank common stock, at cost 633 565
Bank premises and equipment, net 6,754 7,007
Accrued interest receivable 2,639 2,096
Other assets 1,357 311
- ------------------------------------------------------------------------------------- -----------
Total $231,251 $210,484
- ------------------------------------------------------------------------------------- -----------
Liabilities and Shareholders' Equity
- ------------------------------------------------------------------------------------- -----------
Deposits
Demand, noninterest bearing $43,536 $38,086
Demand interest bearing 64,950 48,111
Savings 14,400 14,561
Time 80,491 83,427
- ------------------------------------------------------------------------------------- -----------
Total deposits 203,377 184,185
- ------------------------------------------------------------------------------------- -----------
Short-term borrowings 942 2,725
Long-term borrowings 3,000 -
Accrued interest payable 765 829
Other liabilities 1,197 892
- ------------------------------------------------------------------------------------- -----------
Total liabilities 209,281 188,631
- ------------------------------------------------------------------------------------- -----------
Shareholders' equity
Common stock, par value $3.50 per share; authorized
10,000,000 shares; issued and outstanding 2,122,029
and 2,125,254 in 1999 and 1998, respectively. 7,427 7,438
Capital surplus 6,234 6,261
Retained earnings 8,578 7,481
Deferred compensation - restricted stock (37) -
Accumulated other comprehensive income (loss) (232) 673
- ------------------------------------------------------------------------------------- -----------
Total shareholders' equity 21,970 21,853
- ------------------------------------------------------------------------------------- -----------
Commitments and contingencies
- ------------------------------------------------------------------------------------- -----------
Total $231,251 $210,484
- ------------------------------------------------------------------------------------- -----------
</TABLE>
See accompanying notes to consolidated financial statements.
* Derived from audited consolidated financial statements.
2
<PAGE>
ECB BANCORP, INC. AND SUBSIDIARY
Consolidated Income Statements
For the three and nine months ended September 30, 1999 and 1998
(unaudited - dollar amounts in thousands, except net income per share)
<TABLE>
<CAPTION>
Three months ended Nine months ended
September 30 September 30
1999 1998 1999 1998
- ---------------------------------------------- ----------- ---------- ----------- ----------
Interest Income:
<S> <C> <C> <C> <C>
Interest and fees on loans $3,163 $3,249 $9,255 $9,068
Interest on investment securities:
Interest exempt from federal income taxes 184 190 578 552
Taxable interest income 594 445 1,636 1,346
Interest on federal funds sold 131 105 226 188
- ---------------------------------------------- ----------- ---------- ----------- ----------
Total interest income 4,072 3,989 11,695 11,154
- ---------------------------------------------- ----------- ---------- ----------- ----------
Interest expense:
Deposits:
Demand accounts 348 174 902 488
Savings 56 70 165 214
Time 993 1,097 3,020 3,304
Other 42 0 109 8
- ---------------------------------------------- ----------- ---------- ----------- ----------
Total interest expense 1,439 1,341 4,196 4,014
- ---------------------------------------------- ----------- ---------- ----------- ----------
Net interest income 2,633 2,648 7,499 7,140
Provision for probable loan losses 60 60 180 180
- ---------------------------------------------- ----------- ---------- ----------- ----------
Net interest income after provision for probable loan losses 2,573 2,588 7,319 6,960
- -------------------------------------------------------------------------- ---------- ----------- ----------
Non-interest income:
Service charges on deposit accounts 329 324 995 984
Other service charges and fees 223 217 496 479
Net (loss) on sale of securities (18) - (21) -
Net gain on sale of real estate acquired in settlement
of loans - - - 6
Other operating income 53 12 82 26
- ---------------------------------------------- ----------- ---------- ----------- ----------
Total non-interest income 587 553 1,552 1,495
- ---------------------------------------------- ----------- ---------- ----------- ----------
Non-interest expenses:
Salaries 896 810 2,601 2,376
Retirement and other employee benefits 268 235 794 717
Occupancy 189 197 516 545
Equipment 266 228 729 645
Professional fees 73 48 255 227
Supplies 30 60 168 182
Telephone 94 64 209 201
Postage 47 39 133 124
Other operating expenses 498 462 1,377 1,268
- ---------------------------------------------- ----------- ---------- ----------- ----------
Total non-interest expenses 2,361 2,143 6,782 6,285
- ---------------------------------------------- ----------- ---------- ----------- ----------
Income before income taxes 799 998 2,089 2,170
Income taxes 215 355 530 625
- ---------------------------------------------- ----------- ---------- ----------- ----------
Net income $584 $643 $1,559 $1,545
- ---------------------------------------------- ----------- ---------- ----------- ----------
Net income per share (basic and diluted) $0.28 $0.36 $0.73 $0.87
Weighted average common shares outstanding 2,120,454 1,780,254 2,126,018 1,780,254
- -------------------------------------------------------- ----------- ---------- ----------- ----------
</TABLE>
See accompanying notes to consolidated financial statements.
3
<PAGE>
ECB BANCORP, INC. AND SUBSIDIARY
Consolidated Statements of Shareholders' Equity
For the nine months ended September 30, 1999 and 1998
(unaudited - dollar amounts in thousands)
<TABLE>
<CAPTION>
Accumulated
other
Common Capital Retained comprehensive Comprehensive
Stock Surplus Earnings income income Total
---------- ---------- ----------- ---------- ----------- ----------
<S> <C> <C> <C> <C> <C> <C>
Balance January 1, 1998 $6,231 $3,200 $5,975 $307 $15,713
Unrealized gains, net of
income taxes of $196 381 $381 381
Net income 1,545 - 1,545 1,545
-----------
Total comprehensive income $ 1,926
===========
---------- ---------- ----------- ---------- ----------
Balance September 30, 1998 $6,231 $3,200 $ 7,520 $ 688 $17,639
========== ========== =========== ========== ==========
<CAPTION>
Deferred Accumulated
Compensation Other
Common Capital Retained Restricted Comprehensive Comprehensive
Stock Surplus Earnings Stock Income (loss) income Total
---------- ---------- ----------- ----------- --------------- -------------- ----------
<S> <C> <C> <C> <C> <C> <C> <C> <C>
Balance January 1, 1999 $7,438 $6,261 $7,481 $673 $21,853
Unrealized losses, net of
income taxes of $465 (905) ($905) (905)
Net income 1,559 1,559 1,559
Deferred compensation -
restricted stock issuance 12 29 ($41)
Recognition of deferred
compensation - restricted stock 4 4
----------
Total comprehensive income $ 654
==========
Repurchase of common stock (23) (56) (79)
Cash dividends
($.2175 per share) (462) (462)
---------- ---------- ----------- ---------- ----------- ---------
Balance September 30, 1999 $7,427 $6,234 $ 8,578 $ (37) $ (232) $21,970
========== ========== =========== ========== =========== =========
</TABLE>
See accompanying notes to consolidated financial statements.
4
<PAGE>
ECB BANCORP, INC. AND SUBSIDIARY
Consolidated Statements of Cash Flows
Nine months ended September 30, 1999 and 1998
(Unaudited - dollar amounts in thousands)
<TABLE>
<CAPTION>
Nine Months Ended
September 30
Cash flows from operating activities: 1999 1998
----------- ----------
<S> <C> <C>
Net income $1,559 $1,545
Adjustments to reconcile net income to
net cash provided by operating activities:
Depreciation 499 498
Provision for probable loan losses 180 180
(Gain)Loss on sale of premises & equipment (42) 6
Loss on sale of securities 21 --
(Gain) on sale of real estate acquired in
settlement of loans -- (6)
Amortization of premium on investment securities, net 42 41
Deferred compensation-restricted stock 4 --
Increase in accrued interest receivable (543) (400)
Decrease (increase) in other assets (584) (272)
Increase (decrease) in other liabilities, net 88 410
- ---------------------------------------------- ----------- ----------
Net cash provided by operating activities 1,224 2,002
- ---------------------------------------------- ----------- ----------
Cash flows from investing activities:
Purchase of investment securities (19,172) (9,646)
Proceeds from sales of investment securities 2,678
Proceeds from maturities of investment securities 13,347 8,884
Purchase of Federal Home Loan Bank common stock (68) (62)
Proceeds from disposal of premises and equipment 1,597 255
Purchases of premises and equipment (1,801) (1,376)
Proceeds from disposal of real estate
acquired in settlement of loans -- 496
Net loan originations (13,365) (9,613)
- ---------------------------------------------- ----------- ----------
Net cash used by investing activities (16,784) (11,062)
- ---------------------------------------------- ----------- ----------
Cash flows from financing activities:
Net increase in deposits 19,192 10,580
Net change in short-term borrowings (1,783) --
Originations of long-term borrowings 3,000 --
Repurchase of common stock (79) --
Dividends paid (309) --
- ---------------------------------------------- ----------- ----------
Net cash provided by financing activities 20,021 10,580
- ---------------------------------------------- ----------- ----------
Increase in cash and cash equivalents 4,461 1,520
Cash and cash equivalents at beginning of period 11,787 12,706
----------- ----------
Cash and cash equivalents at end of period $16,248 $14,226
=========== ==========
Cash paid during the period:
Interest $ 4,260 $ 4,089
Taxes 425 229
Supplemental disclosures of noncash financing and investing activities:
Cash dividends declared but not paid $ 153 --
Unrealized gains (losses) on available-for-sale
securities, net of deferred taxes (905) 381
</TABLE>
See accompanying notes to consolidated financial statements.
5
<PAGE>
ECB BANCORP, INC. AND SUBSIDIARY
Notes to Consolidated Financial Statements
(1) BASIS OF PRESENTATION
The consolidated financial statements include the accounts of ECB Bancorp, Inc.
("Bancorp") 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 Courier, Inc. and Carolina
Financial Realty, Inc. All intercompany transactions and balances are eliminated
in consolidation.
The preparation of the consolidated financial statements in conformity with
generally accepted accounting principles requires management to make estimates
and assumptions that affect reported amounts of assets and liabilities at the
date of the financial statements, as well as the amounts of income and expenses
during the reporting period. Actual results could differ from those estimates.
All adjustments considered necessary for a fair presentation of the results for
the interim periods presented have been included (such adjustments are normal
and recurring in nature). The footnotes in Bancorp's annual report on Form
10-KSB should be referenced when reading these unaudited interim financial
statements. Operating results for the nine month period ended September 30,
1999, are not necessarily indicative of the results that may be expected for the
year ending December 31, 1999.
(2) CASH AND CASH EQUIVALENTS
For purposes of reporting cash flows, cash and cash equivalents include cash and
due from banks (with original maturities of ninety days or less) and federal
funds sold. Generally, federal funds are purchased and sold for one-day periods.
(3) ALLOWANCE FOR PROBABLE LOAN LOSSES
The following summarizes the activity in the allowance for probable loan losses
for the nine months ended September 30, 1999 and 1998, respectively.
Nine months ended September 30,
-------------------------------
1999 1998
---- ----
Balance at the beginning of the
period $2,750,000 $2,660,000
Provision for probable loan losses 180,000 180,000
Charge-offs (280,000) (184,000)
Recoveries 64,000 72,000
------ ------
Net charge-offs (216,000) (112,000)
--------- ---------
Balance at the end of the period $2,714,000 $2,728,000
========== =========
(4) NET INCOME PER SHARE
The Company adopted SFAS No. 128, "Earnings Per Share", in 1997, which requires
net income per share to be calculated on both a basic and diluted basis. The
stock options granted in 1998 had no dilutive effect on net income per share for
the three and nine month periods ended September 30, 1999 and 1998.
6
<PAGE>
ECB BANCORP, INC. AND SUBSIDIARY
Notes to Consolidated Financial Statements, continued
(5) RECLASSIFICATIONS
Certain items in the prior period consolidated financial statements have been
reclassified to conform with the current presentation. Such reclassifications
had no impact on net income or shareholders' equity as previously reported.
7
<PAGE>
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS
GENERAL
- --------
ECB Bancorp, Inc. ("Bancorp") is a bank holding company headquartered in
Engelhard, North Carolina. Bancshares' 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, Washington and Greenville (two branches).
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. 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.
COMPARISON OF THE RESULTS OF OPERATIONS FOR THE NINE MONTH PERIODS ENDED
SEPTEMBER 30, 1999 AND 1998
SUMMARY
- --------
For the nine months ended September 30, 1999, the Company had net income of
$1,559,000, or $0.73 basic and diluted earnings per share, compared to
$1,545,000, or $0.87 basic and diluted earnings per share, for the nine months
ended September 30, 1998. For the nine months ended September 30, 1999, net
interest income increased 5.03% and non-interest income increased 3.81% when
compared to the same period last year. Non-interest expense increased $497,000
or 7.91% for the nine months ended September 30, 1999 as compared to the same
period in 1998, partly attributable to increases in salary and employee benefits
expense of $379,000.
NET INTEREST INCOME
- --------------------
Net interest income for the nine months ended September 30, 1999 was $7,499,000,
an increase of $359,000 or 5.03% when compared to net interest income of
$7,140,000 for the nine months ended September 30, 1998. The net yield on
interest-earning assets, on a tax-effected basis, for the nine months ended
September 30, 1999 was 5.21% compared to 5.67% in 1998. This modest decrease in
the Company's net interest margin is attributable to three separate 25 basis
point declines in the Company's prime rate during the fourth quarter of 1998. As
a result, the Company's yield on its loan portfolio decreased 73 basis points
when compared to nine months ended September 30, 1998.
Total interest income increased $458,000 for the nine months ended September 30,
1999 compared to the nine months ended September 30, 1998, principally due to an
increase in the average volume of loans of $14.0 million. Total interest expense
increased $182,000 for the nine months ended September 30, 1999 compared to the
nine months ended September 30, 1998, principally due to an increase in average
money market checking balances of $13.7 million.
8
<PAGE>
PROVISION FOR PROBABLE LOAN LOSSES
- ----------------------------------
The provision for probable loan losses charged to operations during the first
nine months of 1999 was $180,000, compared to $180,000 during the first nine
months of 1998. Net charge-offs for the nine months ended September 30, 1999
totaled $216,000, compared to net charge-offs of $112,000 during the same period
of 1998. The increase in net charge-offs is the result of farm related credit
losses of approximately $75,000 during the quarter ended June 30, 1999 and a
reduction in recoveries of prior year charge-offs. The amount charged to the
provision for probable loan losses is the result of management's review and
evaluation of the portfolio, which considers current conditions, past due loans,
and prior past loan loss experience. Following hurricanes Dennis and Floyd,
management reviewed and assessed its larger credits to determine to what extent
the storms may have had on certain borrowers ability to repay. No significant
adverse effects are expected on the portfolio. Nonperforming assets, which
consist of non-accrual loans, restructured debt and real estate acquired in
settlement of loans, were $795,000 and $230,000 at September 30, 1999 and
December 31, 1998, respectively. The increase in nonperforming assets is the
result of non-accrual loans increasing $569,000 to $657,000 at September 30,
1999. A large farm credit of approximately $465,000 was placed on non-accrual
status during the second quarter of 1999.
NON-INTEREST INCOME
- --------------------
Non-interest income increased $57,000 to $1,552,000 for the nine months ended
September 30, 1999 from $1,495,000 for the same period in 1998. This increase is
principally due to mortgage loan origination fees of $53,000 generated by the
Company's new mortgage loan product and payment processing fee income of
$27,000, partially offset by decreases in net merchant discount fees of $39,000
and credit-life loan insurance fees of $19,000.
NON-INTEREST EXPENSE
- ---------------------
Non-interest expense increased $497,000 or 7.91% to $6,782,000 for the nine
months ended September 30, 1999 from the same period in 1998. This increase is
principally due to increases in salary and employee benefits expense of
$379,000. Additional staffing in the Bank's home office area accounted for
approximately $115,000 of this increase while the Banks' new office in
Washington accounted for an additional $70,000 in staffing expense. Employee
benefits increased approximately $77,000 as a result of increased incentive pay
accruals and 401-K match contributions. Equipment expense increased $84,000 as
the Company continues to upgrade its branch platform automation. Other operating
expenses increased $109,000 from $1,268,000 for the nine months ended September
30, 1998 to $1,377,000 for the nine months ended September 30, 1999. This
increase is principally due to $27,000 of nonrecurring expenses related to the
data conversion of credit card processing to a new vendor and BEST checking
account expense of $20,000.
INCOME TAXES
- ------------
Income tax expense for the nine months ended September 30, 1999 and 1998 was
$530,000 and $625,000, respectively, resulting in effective tax rates of 25.37%
and 28.80%, respectively. The effective tax rates in both years differ from the
federal statutory rate of 34.00% primarily due to tax-exempt interest income.
9
<PAGE>
COMPARISON OF THE RESULTS OF OPERATIONS FOR THE THREE MONTH PERIODS ENDED
SEPTEMBER 30, 1999 AND 1998
SUMMARY
- --------
For the three months ended September 30, 1999, the Company had net income of
$584,000, or $0.28 basic and diluted earnings per share, compared to $643,000,
or $0.36 basic and diluted earnings per share, for the three months ended
September 30, 1998. For the quarter ended September 30, 1999, net interest
income was basically unchanged and non-interest income increased $34,000 or
6.15% when compared to the same period last year. Non-interest expense increased
$218,000 or 10.17% for the three month period ended September 30, 1999 as
compared to the same period in 1998 partly attributable to the opening of the
new Washington office and the addition of personnel at the Company's corporate
office. Salary and employee benefits expense increased $119,000 to $1,164,000
compared to $1,045,000 during the third quarter of 1998.
NET INTEREST INCOME
- -------------------
Net interest income for the three months ended September 30, 1999 was
$2,633,000, a slight decrease of $15,000 or 0.57% when compared to net interest
income of $2,648,000 for the three months ended September 30, 1998. The net
yield on interest-earning assets, on a tax-equivalent basis, for the three
months ended September 30, 1999 was 5.29% compared to 5.95% in 1998. This
decrease in the Company's net interest margin is attributable to three separate
25 basis point declines in the Company's prime rate during the fourth quarter of
1998 and interest recoveries on non-accrual loans in the amount of approximately
$150,000 in the third quarter of 1998. As a result, the Company's yield on its
loan portfolio decreased 104 basis points when compared to three months ended
September 30, 1998.
Total interest income increased $83,000 for the three months ended September 30,
1999 compared to the three months ended September 30, 1998, principally due to
an increase in the average volume of loans of $11.8 million. Total interest
expense increased $98,000 for the three months ended September 30, 1999 compared
to the three months ended September 30, 1998, as a result of interest-bearing
demand deposits increasing by $18.0 million. The cost of funds for the Company
during the three months ended September 30, 1999 decreased 23 basis points when
compared to the three months ended September 30, 1998. The Company's decline in
cost of funding was a result of increased non-interest bearing demand deposit
balances of $3.0 million and a moderate decline in rates paid on interest
bearing deposits since the third quarter of 1998.
PROVISION FOR PROBABLE LOAN LOSSES
- ----------------------------------
The provision for probable loan losses charged to operations during the three
months ended September 30, 1999 was $60,000, compared to $60,000 during the
three months ended September 30, 1998. Net charge-offs for the quarter ended
September 30, 1999 totaled $46,000, compared to net charge-offs of $22,000
during the same period of 1998. The increase in net charge-offs is the result of
a reduction in recoveries of prior year charge-offs. The amount charged for
provision for probable loan losses is the result of management's review and
evaluation of the portfolio, which considers current conditions, past due loans,
and prior past loan loss experience.
10
<PAGE>
NON-INTEREST INCOME
- -------------------
Non-interest income increased $34,000 to $587,000 for the three months ended
September 30, 1999 compared to the same period in 1998. Other service charges
and fees increased $6,000 due primarily to increased mortgage loan origination
fees of $36,000 generated by the Company's new mortgage loan product and payment
processing fee income of $10,000. These increases were offset by decreases in
net merchant discount fees of $29,000 and decreased ATM fees of $10,000. Other
operating income increased $41,000 during the third quarter of 1999 when
compared to the same period in 1998. This increase is primarily the result of a
net gain on the sale of fixed assets of approximately $42,000.
NON-INTEREST EXPENSE
- --------------------
Non-interest expense increased $218,000 or 10.17% to $2,361,000 for the three
months ended September 30, 1999 from the same period in 1998. This increase is
principally due to general increases in salary and employee benefits expense of
$119,000. The opening of the Washington office accounted for approximately
$39,000 of the personnel expense increase while additional staffing within the
Company's home offices accounted for an additional $30,000 of personnel expense.
Occupancy expense decreased $8,000 for the quarter ended September 30, 1999 when
compared to the prior year period as a result of the Company closing the
Wal-Mart office at the end of the first quarter of 1999. Equipment expense
increased $38,000 as the Company continues to upgrade its branch platform
automation. Professional fees increased $25,000 for the three months ended
September 30, 1999 to $73,000. This increase in professional fees is a
combination of increased loan-related legal fees of approximately $16,000. Non
loan related legal expense increased approximately $6,000 compared to the same
period in 1998. Other operating expenses increased $36,000 from $462,000 for the
three months ended September 30, 1998 to $498,000 for the three months ended
September 30, 1999. This increase is principally due to increased advertising
and public relations of $19,000.
INCOME TAXES
- ------------
Income tax expense for the three months ended September 30, 1999 and 1998 was
$215,000 and $355,000, respectively. The effective tax rates in both years
differ from the federal statutory rate of 34.00% primarily due to tax-exempt
interest income.
COMPARISON OF FINANCIAL CONDITION AT SEPTEMBER 30, 1999 AND DECEMBER 31, 1998
Total assets increased $20.8 million to $231.3 million, an increase of 9.87%
when compared to $210.5 million at December 31, 1998. Asset growth was funded by
increased interest-bearing demand deposits of $16.8 million and an increase in
non-interest-bearing demand deposits of approximately $5.4 million, partially
offset by a decrease in certificates of deposits of $3.0 million. The increase
in interest-bearing demand deposits is the result on the Bank's introduction on
a high yield money market instrument during the third quarter of 1998.
11
<PAGE>
Loans receivable increased from $133.0 million at December 31, 1998 to $146.2
million at September 30, 1999. The Company experiences seasonal loan growth
during the first and second quarters of each year as farm production loans and
commercial lines of credit are used by the Company's agricultural base and
tourist related businesses on the "Outer Banks".
Shareholders' equity increased by $117,000 from December 31, 1998 to September
30, 1999, as the Company generated net income of $1,559,000 and experienced a
decrease of net unrealized gains on available-for-sale securities of $905,000.
The Company declared cash dividends of $462,000 or 21.75 cents per share, during
the first nine months of 1999. No dividends were paid in the first nine months
of 1998.
ASSET QUALITY
- -------------
Management continuously analyzes the growth and risk characteristics of the
total loan portfolio under current conditions in order to evaluate the adequacy
of the allowance for probable loan losses. 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 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 probable
loan losses. Such agencies may require the Company to recognize additions to the
allowance for probable loan losses based on their judgments about information
available to them at the time of their examination. Nonperforming assets, which
consist of non-accrual loans, restructured debt and real estate acquired in
settlement of loans, were $795,000 and $759,000 at September 30, 1999 and
December 31, 1998, respectively. The increase in nonperforming assets is the
result of non-accrual loans increasing $599,000 to $657,000 at September 30,
1999, offset by the reclassification of restructured loans down from $621,000 at
December 31, 1998 to $84,000 at September 30, 1999. At September 30, 1999, the
recorded investment in loans that are considered to be impaired under SFAS No.
114 was $2,000 compared to $46,000 at December 31, 1998. These loans are on a
non-accrual basis and the entire balance of which has been reserved in the
allowance for probable loan losses.
REGULATORY MATTERS
- ------------------
Management is not presently aware of any current recommendation to the Company
by regulatory authorities which, if they were to be implemented, would have a
material effect on the Company's liquidity, capital resources or operations.
LIQUIDITY
- ---------
The Company relies on the investment portfolio, as a source of liquidity, with
maturities designed to provide needed cash flows. Further, retail deposits
generated throughout the branch network have enabled management to fund asset
growth and maintain liquidity. These sources have allowed limited dependence on
short-term borrowed funds for liquidity or for asset expansion. External sources
of funds include the ability to access advances from the Federal Home Loan Bank
of Atlanta and Fed Fund lines with correspondent banks.
12
<PAGE>
CAPITAL RESOURCES
- -----------------
Bancorp and the Bank are subject to the capital requirements of the Federal
Reserve, the FDIC and the State Banking Commission. The FDIC requires the Bank
to maintain minimum ratios of Tier I capital to total risk-weighted assets and
total capital to risk-weighted assets of 4% and 8%, respectively. To be `well
capitalized,' the FDIC requires ratios of Tier I capital to total risk-weighted
assets and total capital to risk-weighted assets of 6% and 10%, respectively.
Tier I capital consists of total stockholders' equity calculated in accordance
with generally accepted accounting principles excluding unrealized gains or
losses, net of income taxes, on securities available-for-sale, and total capital
is comprised of Tier I capital plus certain adjustments, the only one of which
is applicable to the Bank is the allowance for probable loan losses.
Risk-weighted assets reflect the Banks' on- and off-balance sheet exposures
after such exposures have been adjusted for their relative risk levels using
formulas set forth in FDIC regulations. As of September 30, 1999, the Bank was
in compliance with all of the aforementioned capital requirements and meets the
`well-capitalized' definition that is used by the FDIC in its evaluation of
member banks. Additionally, at September 30, 1999, Bancorp was also in
compliance with the applicable capital requirements set forth by the Federal
Reserve.
CURRENT ACCOUNTING ISSUES
- -------------------------
In September 1998, the FASB issued 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, as amended by SFAS No.
137, is effective for all fiscal quarters of fiscal years beginning after June
15, 2000. Earlier application of all of the provisions of this statement is
encouraged. The Company plans to adopt this statement at January 1, 2001 and
does not anticipate any 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 nine 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
13
<PAGE>
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
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.
14
<PAGE>
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.
Additionally, the Company has continued to promote customer Year 2000 awareness
in the communities it serves through Y2K related presentations to various civic
groups and news releases. This phase is 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 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 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. During the
first quarter of 1999, the Company completed testing of its mission-critical
systems. Testing was successfully completed on the Company's Automated Teller
Machines (ATM's) and also completed testing with its ATM network provider.
External testing with the Company's merchant processor of credit card
transactions has been successfully completed. The Company's card services
15
<PAGE>
provider has successfully completed the validation phase of its Year 2000
Readiness Strategy. The Year 2000 validation process was developed by the vendor
based on Federal Financial Institutions Examinations Council industry standards.
All test results were collected, and required deliverables completed. Test
results were reviewed by knowledgeable professionals for accuracy. A key
component of the Year 2000 readiness process was comparing test system output to
production system output. During the validation testing, 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 mission
critical and non-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 Company expects to incur total expenses of $75,000 to $100,000
relating to the Y2K conversion project. Expenses of approximately $18,000 were
incurred and expensed by the Company in the first nine months of 1999 and the
Company life-to-date has expensed approximately $77,000. 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 a third party for year 2000 readiness.
16
<PAGE>
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). Bancorp has competed a Business Continuity Plan
as part of its Year 2000 contingency planning. The objective of these plans is
to provide a plan of action in the event there are systems failures at critical
dates. Accordingly, existing disaster recovery and business recovery plans are
being updated taking into consideration various potential Year 2000 events. The
Company is aware of the interagency statement, Guidance Concerning Contingency
Planning in Connection With Year 2000 Readiness, issued May 13, 1998 and
Question and Answers Concerning Year 2000 Contingency Planning issued January 5,
1999. The Year 2000 contingency plans were approved by the Company's Directors
during the May 1999 Board meeting. The Company has contracted the services of an
outside vendor, who is actively engaged as consultants by the banking community
in North Carolina, to assist the Company in the review and development of a
method of validation of its contingency plans. On July 22, 1999, the Company
successfully tested its business resumption contingency plans. Additional
testing and refinement of the plan is scheduled for the remaining months of
1999.
MANAGEMENT AWARENESS
- --------------------
Management is not aware of any known trends, events, uncertainties that will or
that are reasonably likely to have a material effect on the Company's liquidity,
capital resources or other operations.
17
<PAGE>
PART II. OTHER INFORMATION
ITEM 1. LEGAL PROCEEDINGS
None.
ITEM 2. CHANGES IN SECURITIES AND USE OF PROCEEDS
Not applicable.
ITEM 3. DEFAULTS UPON SENIOR SECURITIES
Not applicable.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
None.
ITEM 5. OTHER INFORMATION
Not applicable.
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-KSB
(a) Exhibits:
Exhibit 27 - Financial Data Schedule.
(b) Reports on Form 8-KSB
On July 19, 1999, Registrant filed a Current Report on Form 8-KSB which
was dated July 15, 1999 and reported its financial results for the
quarter ended June 30, 1999. The filing did not contain any financial
statements.
18
<PAGE>
SIGNATURES
Under the requirements of the Securities Exchange Act of 1934, the registrant
has duly caused this report to be signed on its behalf by the undersigned
thereunto duly authorized.
ECB BANCORP, INC.
-----------------
(Registrant)
Date: November 10, 1999 By: /s/ Arthur H. Keeney, III
- ----------------------- -------------------------
Arthur H. Keeney, III
(President & CEO)
Date: November 10, 1999 By: /s/ Gary M. Adams
- ----------------------- -----------------
Gary M. Adams
(Senior Vice President & CFO)
19
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