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U.S. SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, DC 20549
FORM 10/A
GENERAL FORM FOR REGISTRATION OF SECURITIES
PURSUANT TO SECTION 12(B) OR 12(G) OF THE SECURITIES
EXCHANGE ACT OF 1934
Fauquier Bankshares, Inc.
(Exact name of registrant as specified in its charter)
Virginia 54-1288193
(State or Other Jurisdiction of (I.R.S. Employer Identification No.)
Incorporation or Organization)
10 Court House Square, Warrenton, Virginia 20186
(Address of principal executive offices) (Zip Code)
(540) 347-2700
(Registrant's telephone number)
Securities to be registered under Section 12(b) of the Act: None
Securities to be registered under Section 12(g) of the Act:
Common Stock, par value $3.13 per share
(Title of Class)
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TABLE OF CONTENTS
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ITEM 1. BUSINESS.............................................................................................3
ITEM 2. FINANCIAL INFORMATION...............................................................................11
ITEM 3. PROPERTIES..........................................................................................39
ITEM 4. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT......................................39
ITEM 5. DIRECTORS AND EXECUTIVE OFFICERS....................................................................41
ITEM 6. EXECUTIVE COMPENSATION..............................................................................45
ITEM 7. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS......................................................50
ITEM 8. LEGAL PROCEEDINGS...................................................................................51
ITEM 9. MARKET PRICE OF AND DIVIDENDS ON BANKSHARES'COMMON EQUITY AND RELATED
STOCKHOLDER MATTERS.................................................................................51
ITEM 10. RECENT SALES OF UNREGISTERED SECURITIES.............................................................52
ITEM 11. DESCRIPTION OF BANKSHARES'SECURITIES TO BE REGISTERED...............................................52
ITEM 12. INDEMNIFICATION OF DIRECTORS AND OFFICERS...........................................................55
ITEM 13. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA........................................................F-1
ITEM 14. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND FINANCIAL
DISCLOSURE .........................................................................................56
ITEM 15. FINANCIAL STATEMENTS AND EXHIBITS...................................................................57
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ITEM 1. BUSINESS
GENERAL
Fauquier Bankshares, Inc. ("Bankshares") was incorporated under the laws of the
Commonwealth of Virginia on January 13, 1984. Bankshares is a registered bank
holding company and owns all of the voting shares of The Fauquier Bank ("TFB").
Bankshares engages in its business through TFB, a Virginia state-chartered bank
that commenced operations in 1902. Bankshares has no significant operations
other than owning the stock of TFB. Bankshares has issued and outstanding
1,823,129 shares of common stock, par value $3.13 per share, held by 430 holders
of record on March 11, 1999.
TFB has six full service branch offices located in the Virginia communities of
Warrenton, Catlett, The Plains, Manassas and New Baltimore, in addition to the
main office branch located in Warrenton, Virginia. The executive offices of
Bankshares and the main office of TFB are located at 10 Court House Square,
Warrenton, Virginia 20186.
THE FAUQUIER BANK
TFB's general market area principally includes Fauquier County and neighboring
communities and is located approximately sixty (60) miles southwest of
Washington, D.C.
TFB provides a range of consumer and commercial banking services to individuals,
businesses and industries. The deposits of TFB are insured up to applicable
limits by the Bank Insurance Fund of the Federal Deposit Insurance Fund. The
basic services offered by TFB include: demand interest bearing and non-interest
bearing accounts, money market deposit accounts, NOW accounts, time deposits,
safe deposit services, credit cards, cash management, direct deposits, notary
services, money orders, night depository, traveler's checks, cashier's checks,
domestic collections, savings bonds, bank drafts, automated teller services,
drive-in tellers, and banking by mail. In addition, TFB makes secured and
unsecured commercial and real estate loans, issues stand-by letters of credit
and grants available credit for installment, unsecured and secured personal
loans, residential mortgages and home equity loans, as well as automobile and
other consumer financing. TFB provides automated teller machine (ATM) cards, as
a part of the Honor and Plus ATM networks, thereby permitting customers to
utilize the convenience of larger ATM networks.
TFB operates an Investments and Trust Services Division that was established in
1919. It is staffed with nine professionals that provide personalized services
that include investment management, trust, estate settlement, retirement, and
brokerage services. During 1998, managed assets increased by $ 9.3 million to
$122,141,252 or 8.2%. Similarly, revenue grew by $33,500 to $555,650 or 6.4%.
The revenues of TFB are primarily derived from interest on, and fees received in
connection with, real estate and other loans, and from interest and dividends
from investment and mortgage-backed securities, and short-term investments. The
principal sources of funds for TFB's lending activities are its deposits,
repayment of loans, and the sale and maturity of investment securities,
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and borrowings from the Federal Home Loan Bank of Atlanta. The principal
expenses of TFB are the interest paid on deposits, and operating and general
administrative expenses.
As is the case with banking institutions generally, TFB's operations are
materially and significantly influenced by general economic conditions and by
related monetary and fiscal policies of financial institution regulatory
agencies, including the Board of Governors of the Federal Reserve System
("Federal Reserve"). As a Virginia-chartered bank and a member of the Federal
Reserve, TFB is supervised and examined by the Federal Reserve and the State
Corporation Commission ("SCC"). Interest rates on competing investments and
general market rates of interest influence deposit flows and costs of funds.
Lending activities are affected by the demand for financing of real estate and
other types of loans, which in turn is affected by the interest rates at which
such financing may be offered and other factors affecting local demand and
availability of funds. TFB faces strong competition in the attraction of
deposits (its primary source of lendable funds) and in the origination of loans.
See "Competition."
As of December 31, 1998, Bankshares had total consolidated assets of $220
million, total consolidated deposits of $179.2 million, and total consolidated
shareholders' equity of $21.2 million.
LENDING ACTIVITIES
TFB offers a range of lending services, including real estate, consumer and
commercial loans, to individuals as well as small to medium sized businesses and
other organizations that are located in or conduct a substantial portion of
their business in TFB's market area. TFB's total loans at December 31, 1998 were
$164.5 million, or 74.8% of total assets. The interest rates charged on loans
vary with the degree of risk, maturity, and amount of the loan, and are further
subject to competitive pressures, money market rates, availability of funds, and
government regulations. TFB has no foreign loans or loans for highly leveraged
transactions.
TFB's primary market area consists of Fauquier and Prince William Counties
Virginia and the surrounding communities. There is no assurance that this area
will experience economic growth. Adverse conditions in any one or more of the
industries operating in Fauquier or Prince William Counties or a slow-down in
general economic conditions could have an adverse effect on Bankshares (and
TFB).
TFB's loans are concentrated in three major areas: commercial loans, real estate
loans, and consumer loans. Approximately 10.3% of TFB's loan portfolio at
December 31, 1998 consisted of commercial loans. The majority of TFB's loans are
made on a secured basis. As of December 31, 1998, approximately 68.5% of the
loan portfolio consisted of loans secured by mortgages on real estate.
LOANS SECURED BY REAL ESTATE
SINGLE FAMILY RESIDENTIAL LOANS. TFB's single-family residential mortgage loan
portfolio consists of conventional loans, with interest rates fixed for 10 years
or less and balloon loans with 3, 5, 7, or 10 year maturities and amortized for
30 years or less. As of December 31, 1998, TFB's conventional single-family
loans amounted to $48.8 million or 30% of the total loan portfolio.
Substantially all of TFB's single-family residential mortgage loans are secured
by properties located in TFB's service area. The majority of residential
mortgage loans originated by TFB are originated under terms and documentation
which permit the loans to be sold to the Federal Home Loan Mortgage Corporation
("FHLMC").
Loans with a fixed rate longer than 10 years are sold into the secondary market.
TFB does not retain the servicing of sold loans.
TFB requires private mortgage insurance if the principal amount of the loan
exceeds 80% of the value of the security property. TFB uses the underwriting
guidelines of the PMI provider for loans having a loan-to-value ration in excess
of 80%.
TFB also considers the income of the borrower in determining whether to make
single-family residential mortgage loans.
CONSTRUCTION LOANS. The majority of TFB's construction loans are made to
individuals to construct a primary residence. Such loans have a maximum term of
nine months, have a fixed rate of interest, and have loan-to-value ratios of 80%
or less of the appraised value upon completion. TFB requires that permanent
financing, with TFB or some other lender, be in place prior to closing any
construction loan. Construction loans are generally considered to involve a
higher degree of credit risk than single-family residential mortgage loans. The
risk of loss on a construction loan is dependent largely upon the accuracy of
the initial estimate of the property's value at completion.
TFB also provides construction loans and lines of credit to developers. Such
loans generally have maximum loan-to-value ratios of 80% of the appraised value
upon completion. The loans are made with a fixed rate of interest. The majority
of such loans consist of loans to selected local developers with whom TFB is
familiar to build single-family dwellings on either a pre-sold or speculative
basis. TFB limits the number of unsold units under construction. Loan proceeds
are disbursed in stages after inspections of the project indicate that such
disbursements are for costs already incurred and which have added to the value
of the project. Construction loans include loans to developers to acquire the
necessary land, develop the site and construct the residential units.
COMMERCIAL REAL ESTATE LOANS. Loans secured by commercial real estate comprised
$63.2 million or 38% of total loans and consist principally of commercial loans
where real estate constitutes a source of collateral. These loans are secured
primarily by owner-occupied properties. Commercial real estate loans generally
involve a greater degree of risk than single-family residential mortgage loans
because repayment of such loans may be subject to a greater extent to adverse
conditions in the real estate market or the economy.
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CONSUMER LOANS
The consumer loan portfolio consists primarily of loans to individuals for
various consumer purposes, but includes some business purpose loans which are
payable on an installment basis. TFB offers a wide variety of consumer loans,
which include installment loans, credit card loans, home equity loans and other
secured and unsecured credit facilities. The majority of these loans are for
terms of less than five years and are secured by liens on various personal
assets of the borrowers, but consumer loans may also be made on an unsecured
basis. Consumer loans are made at fixed and variable rates, and are often based
on up to a five-year amortization schedule. For additional information regarding
TFB's loan portfolio, see "Financial Information."
COMMERCIAL LOANS
TFB's commercial loans include loans to individuals and small to medium sized
businesses located primarily in Fauquier and Prince William Counties for working
capital, equipment purchases, and various other business purposes. Equipment or
similar assets secure a majority of TFB's commercial loans, but these loans may
also be made on an unsecured basis. Commercial loans may be made at variable or
fixed rates of interest. Commercial lines of credit are typically granted on a
one-year basis. Other commercial loans with terms or amortization schedules
longer than one year will normally carry interest rates which vary with the
prime lending rate and other financial indexes and will become payable in full
in three to five years.
Loan originations are derived from a number of sources, including direct
solicitation by TFB's loan officers, existing customers and borrowers,
advertising and walk-in customers.
Certain credit risks are inherent in making loans. These include prepayment
risks, risks resulting from uncertainties in the future value of collateral,
risks resulting from changes in economic and industry conditions, and risks
inherent in dealing with individual borrowers. In particular, longer maturities
increase the risk that economic conditions will change and adversely affect our
ability to collect. TFB attempts to minimize loan losses through various means.
In particular, on larger credits, TFB generally relies on the cash flow of a
debtor as the source of repayment and secondarily on the value of the underlying
collateral. In addition, TFB attempts to utilize shorter loan terms in order to
reduce the risk of a decline in the value of such collateral.
DEPOSIT ACTIVITIES
Deposits are the major source of TFB's funds for lending and other investment
activities. TFB considers the majority of its regular savings, demand, NOW and
money market deposit accounts to be core deposits. These accounts comprised
approximately 76.2% of TFB's total deposits at December 31, 1998. Approximately
23.8% of TFB's deposits as of December 31, 1998 were certificates of deposit.
Generally, TFB attempts to maintain the rates paid on its deposits at a
competitive level. Time deposits of $100,000 and over made up approximately 6.0%
of TFB's total deposits as of December 31, 1998 and pay interest at the same
rates as certificates of less than $100,000. The majority of the deposits of TFB
are generated from Fauquier and Prince
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William Counties. TFB does not accept brokered deposits. For additional
information regarding TFB's deposit accounts, see "Financial Information."
INVESTMENTS
TFB invests a portion of its assets in U.S. Treasury and U.S. Government
corporation and agency obligations, state, county and municipal obligations,
mutual funds, FHLB stock, and equity securities. TFB's investments are managed
in relation to loan demand and deposit growth, and are generally used to provide
for the investment of excess funds at reduced yields and risks relative to
yields and risks of the loan portfolio, while providing liquidity to fund
increases in loan demand or to offset fluctuations in deposits. TFB does not
engage in any hedging activities. For additional information relating to TFB's
investments, see "Financial Information."
GOVERNMENT SUPERVISION AND REGULATION
BANK HOLDING COMPANY REGULATION. Bankshares is a one-bank holding company,
registered with the Federal Reserve under the Bank Holding Company Act of 1956
("BHC Act"). As such, Bankshares is subject to the supervision, examination, and
reporting requirements of the BHC Act and the regulations of the Federal
Reserve. Bankshares is required to furnish to the Federal Reserve an annual
report of its operations at the end of each fiscal year, and such additional
information as the Federal Reserve may require pursuant to the BHC Act.
The BHC Act requires every bank holding company to obtain the prior approval of
the Federal Reserve before (i) it may acquire direct or indirect ownership or
control of any voting shares of any bank if, after such acquisition, the bank
holding company will directly or indirectly own or control more than 5% of the
total voting shares of the bank, (ii) it or any of its subsidiaries, other than
a bank, may acquire all or substantially all of the assets of the bank, or (iii)
it may merge or consolidate with any other bank holding company.
The BHC Act further provides that the Federal Reserve may not approve any
transaction that would result in a monopoly or would be in furtherance of any
combination or conspiracy to monopolize or attempt to monopolize the business of
banking in any section of the United States, or the effect of which may be
substantially to lessen competition or to tend to create a monopoly in any
section of the country, or that in any other manner would be in restraint of
trade, unless the anti-competitive effects of the proposed transaction are
clearly outweighed by the public interest in meeting the convenience and needs
of the community to be served. The Federal Reserve is also required to consider
the financial and managerial resources and future prospects of the bank holding
companies and banks concerned and the convenience and needs of the community to
be served. Consideration of financial resources generally focuses on capital
adequacy and consideration of convenience and needs issues including the
parties' performance under the Community Reinvestment Act of 1977 (the "CRA"),
both of which are discussed below.
The BHC Act generally prohibits Bankshares from engaging in activities other
than banking or managing or controlling banks or other permissible subsidiaries
and from acquiring or retaining direct or indirect control of any company
engaged in any activities other than those activities
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determined by the Federal Reserve to be so closely related to banking or
managing or controlling banks as to be a proper incident thereto. In determining
whether a particular activity is permissible, the Federal Reserve must consider
whether the performance of such an activity reasonably can be expected to
produce benefits to the public, such as greater convenience, increased
competition, or gains in efficiency, that outweigh possible adverse effects,
such as undue concentration of resources, decreased or unfair competition,
conflicts of interests, or unsound banking practices. For example, factoring
accounts receivable, acquiring or servicing loans, leasing personal property,
conducting discount securities brokerage activities, performing certain data
processing services, acting as agent or broker in selling credit life insurance
and certain other types of insurance in connection with credit transactions, and
performing certain insurance underwriting activities all have been determined by
the Federal Reserve to be permissible activities of bank holding companies.
Despite prior approval, the Federal Reserve has the power to order a bank
holding company or its subsidiaries to terminate any activity or to terminate
its ownership or control of any subsidiary when it has reasonable cause to
believe that continuation of such activity or such ownership or control
constitutes a serious risk to the financial safety, soundness, or stability of
any bank subsidiary of that bank holding company.
Banks are subject to the provisions of the CRA. Under the terms of the CRA, the
appropriate federal bank regulatory agency is required, in connection with its
examination of a bank, to assess such bank's record in meeting the credit needs
of the community served by that bank, including low- and moderate-income
neighborhoods. The regulatory agency's assessment of the bank's record is made
available to the public. Further, such assessment is required of any bank which
has applied to (i) charter a national bank, (ii) obtain deposit insurance
coverage for a newly chartered institution, (iii) establish a new branch office
that will accept deposits, (iv) relocate an office, or (v) merge or consolidate
with, or acquire the assets or assume the liabilities of, a federally regulated
financial institution. In the case of a bank holding company applying for
approval to acquire a bank or other bank holding company, the Federal Reserve
will assess the record of each subsidiary bank of the applicant bank holding
company, and such records may be the basis for denying the application.
BANK REGULATION. TFB is chartered under the laws of the Commonwealth of
Virginia. The Federal Deposit Insurance Corporation (the "FDIC") insures its
deposits to the extent provided by law. TFB is subject to comprehensive
regulation, examination and supervision by the Federal Reserve and to other laws
and regulations applicable to banks. Such regulations include limitations on
loans to a single borrower and to its directors, officers and employees;
restrictions on the opening and closing of branch offices; the maintenance of
required capital and liquidity ratios; the granting of credit under equal and
fair conditions; and the disclosure of the costs and terms of such credit. State
regulatory authorities also have broad enforcement powers over TFB, including
the power to impose fines and other civil or criminal penalties and to appoint a
receiver in order to conserve the assets of any such institution for the benefit
of depositors and other creditors.
Under federal law, federally insured banks are subject, with certain exceptions,
to certain restrictions on any extension of credit to their parent holding
companies or other affiliates, on investment in the stock or other securities of
affiliates, and on the taking of such stock or securities as collateral from any
borrower. In addition, such banks are prohibited from engaging
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in certain tie-in arrangements in connection with any extension of credit or the
providing of any property or service.
In 1989, the Financial Institutions Reform, Recovery and Enforcement Act of 1989
("FIRREA") was enacted. FIRREA contains major regulatory reforms, stronger
capital standards for savings and loan associations and stronger civil and
criminal enforcement provisions. FIRREA also provides that a depository
institution insured by the FDIC can be held liable for any loss incurred by, or
reasonably expected to be incurred by, the FDIC after August 9, 1989 in
connection with (i) the default of a commonly controlled FDIC insured depository
institution, or (ii) any assistance provided by the FDIC to a commonly
controlled FDIC insured institution in danger of default.
In 1991, the FDIC Improvement Act of 1991 ("FDICIA") was enacted. FDICIA made a
number of reforms addressing the safety and soundness of deposit insurance
funds, supervision, accounting, and prompt regulatory action, and also
implements other regulatory improvements. Annual full-scope, on-site
examinations are required of all insured depository institutions. The cost for
conducting an examination of an institution may be assessed to that institution,
with special consideration given to affiliates and any penalties imposed for
failure to provide information requested. Insured state banks also are precluded
from engaging as principal in any type of activity that is impermissible for a
national bank, including activities relating to insurance and equity
investments. FDICIA also re-codified current law restricting extensions of
credit to insiders under the Federal Reserve Act.
DIVIDENDS. Dividends from TFB constitute the primary source of funds for
dividends to be paid by Bankshares. There are various statutory and contractual
limitations on the ability of TFB to pay dividends, extend credit, or otherwise
supply funds to Bankshares, including the requirement under Virginia banking
laws that cash dividends only be paid out of undivided profits and only if such
dividends would not impair the paid-in capital of TFB. The Federal Reserve also
has the general authority to limit the dividends paid by bank holding companies
and state member banks, if such payment may be deemed to constitute an unsafe
and unsound practice. The Federal Reserve Board has indicated that banking
organizations should generally pay dividends only if (1) the organization's net
income available to common shareholders over the past year has been sufficient
to fund fully the dividends and (2) the prospective rate of earnings retention
appears consistent with the organization's capital needs, asset quality and
overall financial condition. TFB does not expect any of these laws, regulations
or policies to materially impact its ability to pay dividends.
EFFECT OF GOVERNMENTAL POLICIES. The earnings and business of Bankshares and TFB
are effected by the policies of various regulatory authorities of the United
States, especially the Federal Reserve. The Federal Reserve, among other things,
regulates the supply of credit and deals with general economic conditions within
the United States. The instruments of monetary policy employed by the Federal
Reserve for those purposes influence in various ways the overall level of
investments, loans, other extensions of credits, and deposits, and the interest
rates paid on liabilities and received on assets.
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ENFORCEMENT POWERS. Congress has provided the Federal Reserve and the FDIC with
an array of powers to enforce laws, rules, regulations and orders. Among other
things, the agencies may require that institutions cease and desist from certain
activities, may preclude persons from participating in the affairs of insured
depository institutions, may suspend or remove deposit insurance, and may impose
civil money penalties against institution-affiliated parties for certain
violations.
MAXIMUM LEGAL INTEREST RATES. Like the laws of many states, Virginia law
contains provisions on interest rates that may be charged by banks and other
lenders on certain types of loans. Numerous exceptions exist to the general
interest limitations imposed by Virginia law. The relative importance of these
interest limitation laws to the financial operations of TFB will vary from time
to time, depending on a number of factors, including conditions in the money
markets, the costs and availability of funds, and prevailing interest rates.
CHANGE OF CONTROL. Federal law restricts the amount of voting stock of a bank
holding company and a bank that a person may acquire without the prior approval
of banking regulators. The overall effect of such laws is to make it more
difficult to acquire a bank holding company and a bank by tender offer or
similar means than it might be to acquire control of another type of
corporation. Consequently, shareholders of Bankshares may be less likely to
benefit from the rapid increases in stock prices that may result from tender
offers or similar efforts to acquire control of other companies. Federal law
also imposes restrictions on acquisitions of stock in a bank holding company and
a state bank. Under the federal Change in Bank Control Act and the regulations
thereunder, a person or group must give advance notice to the Federal Reserve
before acquiring control of any bank holding company. Upon receipt of such
notice, the Federal Reserve and the OCC, as the case may be, may approve or
disapprove the acquisition. The Change in Bank Control Act creates a rebuttable
presumption of control if a member or group acquires a certain percentage or
more of a bank holding company's or bank's voting stock, or if one or more other
control factors set forth in the act are present.
INSURANCE OF DEPOSITS. TFB's deposit accounts are insured by the FDIC up to a
maximum of $100,000 per insured depositor. The FDIC issues regulations, conducts
periodic examinations, requires the filing of reports and generally supervises
the operations of its insured banks. Any insured bank that is not operated in
accordance with or does not conform to FDIC regulations, policies and directives
may be sanctioned for non-compliance. Proceedings may be instituted against any
insured bank or any director, officer, or employee of such bank engaging in
unsafe and unsound practices, including the violation of applicable laws and
regulations. The FDIC has the authority to terminate insurance of accounts
pursuant to procedures established for that purpose.
CAPITAL REQUIREMENTS. The federal bank regulatory authorities have adopted
risk-based capital guidelines for banks and bank holding companies that are
designed to make regulatory capital requirements more sensitive to differences
in risk profile among banks and bank holding companies. The resulting capital
ratios represent qualifying capital as a percentage of total risk-weighted
assets and off-balance sheet items. The guidelines are minimums, and the federal
regulators have noted that banks and bank holding companies contemplating
significant expansion programs should not allow expansion to diminish their
capital ratios and should
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maintain all ratios well in excess of the minimums. The current guidelines
require all bank holding companies and federally regulated banks to maintain a
minimum risk-based total capital ratio equal to 8%, of which at least 4% must be
Tier 1 capital. Tier 1 capital includes common stockholders' equity, qualifying
perpetual preferred stock, and minority interests in equity accounts of
consolidated subsidiaries, but excludes goodwill and most other intangibles and
excludes the allowance for loan and lease losses. Tier 2 capital includes the
excess of any preferred stock not included in Tier 1 capital, mandatory
convertible securities, hybrid capital instruments, subordinated debt and
intermediate term-preferred stock, and general reserves for loan and lease
losses up to 1.25% of risk-weighted assets. As of December 31, 1998 (i)
Bankshares' Tier 1 and total risk-based capital ratios were 13.1% and 14.3%,
respectively, and (ii) TFB's Tier 1 and total risk-based capital ratios were
13.2% and 14.3%, respectively.
FDICIA contains "prompt corrective action" provisions pursuant to which banks
are to be classified into one of five categories based upon capital adequacy,
ranging from "well capitalized" to "critically undercapitalized" and which
require (subject to certain exceptions) the appropriate federal banking agency
to take prompt corrective action with respect to an institution which becomes
"significantly undercapitalized" or "critically undercapitalized".
The FDIC has issued regulations to implement the "prompt corrective action"
provisions of FDICIA. In general, the regulations define the five capital
categories as follows: (i) an institution is "well capitalized" if it has a
total risk-based capital ratio of 10% or greater, has a Tier 1 risk-based
capital ratio of 6% or greater, has a leverage ratio of 5% or greater and is not
subject to any written capital order or directive to meet and maintain a
specific capital level for any capital measures; (ii) an institution is
"adequately capitalized" if it has a total risk-based capital ratio of 8% or
greater, has a Tier 1 risk-based capital ratio of 4% or greater, and has a
leverage ratio of 4% or greater; (iii) an institution is "undercapitalized" if
it has a total risk-based capital ratio of less than 8%, has a Tier 1 risk-based
capital ratio that is less than 4% or has a leverage ratio that is less than 4%;
(iv) an institution is "significantly undercapitalized" if it has a total
risk-based capital ratio that is less than 6%, a Tier 1 risk-based capital ratio
that is less than 3% or a leverage ratio that is less than 3%; and (v) an
institution is "critically undercapitalized" if its "tangible equity" is equal
to or less than 2% of its total assets. The FDIC also, after an opportunity for
a hearing, has authority to downgrade an institution from "well capitalized" to
"adequately capitalized" or to subject an "adequately capitalized" or
"under-capitalized" institution to the supervisory actions applicable to the
next lower category, for supervisory concerns. As of December 31, 1998, TFB had
a total risk-based capital ratio of 14.3%, a Tier 1 risk-based capital ratio of
13.2%, and a leverage ratio of 9.8%. TFB was notified by the Federal Reserve
Bank of Richmond that, at December 31, 1998, TFB was "well capitalized" under
the regulatory framework for prompt corrective action.
Additionally, FDICIA requires, among other things, that (i) only a "well
capitalized" depository institution may accept brokered deposits without prior
regulatory approval and (ii) the appropriate federal banking agency annually
examine all insured depository institutions, with some exceptions for small,
"well capitalized" institutions and state-chartered institutions examined by
state regulators. FDICIA also contains a number of consumer banking provisions,
including disclosure requirements and substantive contractual limitations with
respect to deposit accounts.
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COMPETITION
Bankshares encounters strong competition both in making loans and in attracting
deposits. The deregulation of the banking industry and the widespread enactment
of state laws which permit multi-bank holding companies as well as an increasing
level of interstate banking have created a highly competitive environment for
commercial banking. In one or more aspects of its business, TFB competes with
other commercial banks, savings and loan associations, credit unions, finance
companies, mutual funds, insurance companies, brokerage and investment banking
companies, and other financial intermediaries. Most of these competitors, some
of which are affiliated with bank holding companies, have substantially greater
resources and lending limits, and may offer certain services that TFB does not
currently provide. In addition, many of TFB's non-bank competitors are not
subject to the same extensive federal regulations that govern bank holding
companies and federally insured banks. Recent federal and state legislation has
heightened the competitive environment in which financial institutions must
conduct their business, and the potential for competition among financial
institutions of all types has increased significantly.
To compete, TFB relies upon specialized services, responsive handling of
customer needs, and personal contacts by its officers, directors, and staff.
Large multi-branch banking competitors tend to compete primarily by rate and the
number and location of branches while smaller, independent financial
institutions tend to compete primarily by rate and personal service.
EMPLOYEES
As of December 31, 1998, Bankshares and TFB employed 72 full-time employees and
26 part-time employees. A collective bargaining unit does not represent the
employees. Bankshares and TFB consider relations with employees to be good.
ITEM 2. FINANCIAL INFORMATION
The following discussion is qualified in its entirety by the more detailed
information and the financial statements and notes thereto appearing elsewhere
in this Form 10. In addition to the historical information contained herein, the
discussion in this Form 10 contains certain forward-looking statements that
involve risks and uncertainties, such as statements of Bankshares' plans,
objectives, expectations and intentions, including, among other statements,
statements involving net interest income, TFB branching, costs for TFB
expansion, liquidity, loan loss allowances, loan collateral values,
collectability of loans, and the Year 2000 issue. The cautionary statements made
in this Form 10 should be read as being applicable to all related
forward-looking statements wherever they appear in this Form 10. Bankshares'
actual results could differ materially from those discussed herein.
11
<PAGE>
INTRODUCTION
This discussion is intended to focus on certain financial information regarding
Bankshares and TFB. The purpose of this discussion is to provide the reader with
a more thorough understanding of the financial statements. This discussion
should be read in conjunction with the financial statements and accompanying
notes contained elsewhere herein.
Management is not aware of any market or institutional trends, events or
uncertainties that are expected to have a material effect on liquidity, capital
resources or operations. Also, management is not aware of any current
recommendations by its regulatory authorities that would have a material effect
on liquidity, capital resources or operations. TFB's internal sources of
liquidity are deposits, loan repayments and securities available for sale. TFB's
primary external source of liquidity is advances from the Federal Home Loan Bank
of Atlanta.
SELECTED FINANCIAL DATA
<TABLE>
<CAPTION>
1998 1997 1996 1995 1994
-------------------------------------------------------------------------
(DOLLARS IN THOUSANDS, EXCEPT PER SHARE DATA)
<S> <C> <C> <C> <C> <C>
INCOME STATEMENT DATA:
Interest income $ 14,839 $ 13,448 $ 12,547 $ 11,969 $ 11,325
Interest expense 5,519 4,751 4,699 4,511 3,762
Net interest income 9,320 8,697 7,848 7,458 7,563
Provision for (recovery of) loan loss 535 465 578 430 (38)
Net interest income after
provision for loan loss 8,785 8,232 7,270 7,028 7,601
Noninterest income 2,387 2,344 2,204 2,055 1,644
Securities gains (losses) 17 10 78 (108) (20)
Noninterest expense 7,709 7,354 6,965 7,066 7,778
Income before income taxes 3,480 3,232 2,590 1,909 1,447
Income taxes 1,039 981 748 568 412
Net income 2,441 2,251 1,842 1,341 1,035
PER SHARE DATA: (1)
Net income per share, basic $ 1.31 $ 1.18 $ 0.96 $ 0.70 $ 0.54
Net income per share, diluted 1.30 1.17 0.96 0.70 0.54
Cash dividends 0.45 0.35 0.26 0.21 0.19
Book value at period end 11.52 10.97 10.08 9.37 8.36
Tangible book value 11.52 10.97 10.08 9.37 8.36
Average basic shares outstanding 1,857,282 1,913,008 1,912,328 1,911,648 1,911,648
Average diluted shares outstanding 1,875,641 1,921,073 1,916,513 1,911,648 1,911,648
BALANCE SHEET DATA:
Assets $ 220,026 $ 184,442 $ 173,416 $ 167,239 $ 166,219
Loans, net 162,272 128,153 114,280 98,814 89,159
Securities 22,791 27,946 41,705 49,604 62,806
Deposits 179,217 161,869 152,938 148,283 145,536
Shareholders equity 21,177 20,978 19,270 17,921 15,989
</TABLE>
12
<PAGE>
<TABLE>
<CAPTION>
<S> <C> <C> <C> <C> <C>
PERFORMANCE RATIOS:
Return on average assets 1.21% 1.27% 1.09% 0.82% 0.63%
Return on average equity 11.60% 11.62% 9.86% 7.63% 6.40%
Dividend Payout 34.1% 29.7% 27.0% 29.9% 35.1%
Efficiency 65.9% 65.8% 68.3% 73.0% 82.9%
ASSET QUALITY RATIOS:
Allowance for loan loss to
period end loans, net 1.13% 1.27% 1.27% 1.18% 1.16%
Allowance for loan loss to
nonaccrual loans 278.2% 300.4% 199.9% 190.2% 63.5%
Net charge-offs to average loans 0.23% 0.22% 0.27% 0.31% 0.43%
CAPITAL AND LIQUIDITY RATIOS:
Tier-1 capital to average assets 9.7% 11.9% 11.1% 10.9% 10.5%
Risk-based capital ratios:
Tier-1 capital 13.1% 16.4% 16.5% 16.7% 16.9%
Total capital 14.3% 17.7% 17.7% 17.8% 17.9%
</TABLE>
(1) Per share data adjusted to reflect 2 for 1 stock split during 1998 and a 4
for 1 stock split during 1996.
OVERVIEW
The reported results of the Bank are dependent on a variety of factors,
including the general interest rate environment, competitive conditions in the
industry, governmental policies and regulations and conditions in the markets
for financial assets. Net interest income is the largest component of net
income, and consists of the difference between income generated on
interest-earning assets and interest expense incurred on interest-bearing
liabilities. Net interest income is primarily affected by the volume, interest
rates and composition of interest-earning assets and interest-bearing
liabilities.
AVERAGE BALANCES AND YIELDS
The following tables present for the periods indicated, the total amount of
interest income from average interest-earning assets and the resultant yields,
as well as the interest expense on average interest-bearing liabilities,
expressed both in dollars and rates, and the net interest margin. Net interest
margin refers to the net interest income divided by total interest-earning
assets and is influenced by the level and relative mix of interest-earning
assets and interest-bearing liabilities.
13
<PAGE>
<TABLE>
<CAPTION>
For the Year Ended December 31,
-------------------------------
1998 1997
---------------------------------------- -------------------------------------
Average Interest Average Average Interest Average
Balance (1) Income/ Rate Balance (1) Income/ Rate
Expense Expense
(Dollars in thousands)
<S> <C> <C> <C> <C> <C> <C>
ASSETS
INTEREST-EARNING ASSETS
Loans $ 144,283 $ 12,580 8.72% $122,628 $11,153 9.09%
Securities
Taxable 24,250 1,464 6.04% 32,274 1,881 5.83%
Nontaxable(2) 4,435 213 7.28% 4,662 249 8.09%
Interest-bearing deposits at other banks 1,791 89 4.97% 181 10 5.52%
Federal Funds sold 9,126 493 5.40% 2,849 155 5.44%
--------- -------- ------- -----
Total interest-earning assets 183,885 $14,839 8.13% 162,594 $13,448 8.35%
Cash and due from banks 9,593 7,417
Other assets 8,302 8,714
Total noninterest-earning assets 17,895 16,131
--------- --------
Total $ 201,780 $178,725
========= ========
LIABILITIES AND SHAREHOLDERS' EQUITY
INTEREST-BEARING LIABILITIES
Interest-bearing and money market $ 71,144 $ 2,170 3.05% $61,268 $1,688 2.76%
Other savings deposits 29,920 1,038 3.47% 29,738 1,020 3.43%
Time deposits 40,266 1,970 4.89% 36,237 1,788 4.93%
Federal funds purchased 3 -- 0.00% 401 17 4.24%
Short-term borrowings 6,726 341 5.07% 4,155 238 5.73%
--------- -------- ------- -----
Total interest-bearing liabilities $ 148,059 $ 5,519 3.73% 131,799 4,751 3.60%
--------- -------- ------- -----
NONINTEREST-BEARING LIABILITIES AND
SHAREHOLDERS' EQUITY
Demand deposits 30,721 25,325
Other 1,967 1,546
--------- --------
Total noninterest-bearing liabilities 32,688 26,871
--------- --------
Shareholders' equity 21,033 20,055
--------- --------
Total $ 201,780 $ 178,725
========= ========
Interest rate spread 4.40% 4.75%
Net interest income and interest margin $9,320 5.13% $8,697 5.43%
</TABLE>
<PAGE>
<TABLE>
<CAPTION>
1996
-------------------------------------
Average Interest Average
Balance (1) Income/ Rate
Expense
<S> <C> <C> <C>
ASSETS
INTEREST-EARNING ASSETS
Loans $106,237 $9,796 9.22%
Securities
Taxable 40,517 2,318 5.72%
Nontaxable(2) 5,197 282 8.22%
Interest-bearing deposits at other banks -- -- --
Federal Funds sold 2,882 151 5.24%
------- -----
Total interest-earning assets 154,833 $12,547 8.20%
Cash and due from banks 6,551
Other assets 8,761
Total noninterest-earning assets 15,312
--------
Total $170,145
========
LIABILITIES AND SHAREHOLDERS' EQUITY
INTEREST-BEARING LIABILITIES
Interest-bearing and money market $57,003 $1,729 3.03%
Other savings deposits 30,492 1,048 3.44%
Time deposits 37,366 1,917 5.13%
Federal funds purchased 209 5 2.39%
Short-term borrowings -- -- --
------- -----
Total interest-bearing liabilities 125,070 4,699 3.76%
------- -----
NONINTEREST-BEARING LIABILITIES AND
SHAREHOLDERS' EQUITY
Demand deposits 25,081
Other 1,540
--------
Total noninterest-bearing liabilities 26,621
--------
Shareholders' equity 18,454
--------
Total $ 170,145
========
Interest rate spread 4.44%
Net interest income and interest margin $7,848 5.16%
</TABLE>
(1) NON-ACCRUAL LOANS ARE INCLUDED IN THE
AVERAGE BALANCE
(2) NONTAXABLE SECURITIES YIELDS ARE CALCULATED ON A TAX-EQUIVALENT BASIS.
TAX-EQUIVALENT CALCULATIONS USE A 34% TAX RATE.
14
<PAGE>
RATE/VOLUME ANALYSIS
Net interest income is affected by changes in the level of interest-earning
assets and interest-bearing liabilities and changes in yields earned on assets
and rates paid on liabilities. The following table sets forth, for the periods
indicated, a summary of the impact on interest income and interest expense of
changes in average assets and liability balances and changes in average rates.
For each category of interest-earning assets and interest-bearing liabilities
information is provided on changes attributable to (i) changes in volume
(changes in average volume multiplied by old rate); (ii) changes in rates
(changes in rate multiplied by old average volume); (iii) changes in rate-volume
(changes in rate multiplied by the change in average volume).
<TABLE>
<CAPTION>
1998 Compared to 1997 1997 Compared to 1996
-------------------------------------- ---------------------------------------
Increase Increase
Volume Rate (Decrease) Volume Rate (Decrease)
---------- ---------- ------------ ---------- ---------- -------------
(Dollars in thousands)
<S> <C> <C> <C> <C> <C> <C>
INTEREST EARNED ON
Loans $ 1,854 $ (427) $ 1,427 $ 1,517 $ (160) $ 1,357
Investments
Taxable (488) 71 (417) (517) 80 (437)
Nontaxable (12) (24) (36) (37) 4 (33)
Federal funds sold 306 32 338 5 (1) 4
Cash & due from banks 73 6 79 5 5 10
------- ------- ------- ------- ------- -------
Total interest-earning assets $ 1,733 $ (342) $ 1,391 $ 973 $ (72) $ 901
------- ------- ------- ------- ------- -------
INTEREST PAID ON
Deposits
Interest-bearing demand deposits $ 292 $ 190 $ 482 $ 264 $ (111) $ 153
Savings 6 12 18 (161) (59) (220)
Time deposits 170 12 182 (103) (28) (131)
Federal funds purchased (8) (9) (17) 13 (1) 12
Short-term borrowings 127 (24) 103 119 119 238
------- ------- ------- ------- ------- -------
Total interest-bearing liabilities $ 587 $ 181 $ 768 $ 132 $ (80) $ 52
------- ------- ------- ------- ------- -------
Net change in interest income $ 1,146 $ (523) $ 623 $ 841 $ 8 $ 849
======= ======= ======= ======= ======= =======
</TABLE>
COMPARISON OF OPERATING RESULTS FOR THE YEAR ENDED DECEMBER 31, 1998 AND
DECEMBER 31, 1997
NET INCOME. Net income for the year ended December 31, 1998 increased 8.5% to
$2.4 million from $2.3 million for the year ended December 31, 1997. The
increase in net income was due primarily to increases in net interest income and
other income which more than offset increases in other expense and the provision
for loan losses.
NET INTEREST INCOME. Net interest income increased $623,000 or 7.2% to $9.3
million for the year ended December 31, 1998 compared to $8.7 million for the
year ended December 31, 1997. The increase was primarily due to growth in
earning assets of $36.3 million or 21.9%.
15
<PAGE>
INTEREST INCOME. Total interest income grew $1.4 million or 10.3% to $14.8
million for the year ended December 31, 1998 compared to $13.4 million for the
year ended December 31, 1997. The increase was a result of high loan growth.
Loan receivables grew 26.6% or $34.1 million from December 31, 1997 to December
31, 1998. An increase in deposits of $17.3 million and an increase of $18
million in long-term fixed rate Federal Home Loan Bank Advances primarily funded
this growth.
INTEREST EXPENSE. Total interest expense increased $768,000 or 16.2% to $5.5
million for the year ended December 31, 1998 from $4.8 million for the year
ended December 31, 1997. This was primarily due to a net increase in interest
bearing liabilities. The average balance of interest-bearing liabilities
increased by $16.2 million, or 12.3%, from the year ended December 31, 1997 to
the year ended December 31, 1998.
PROVISION FOR LOAN LOSSES. The provision for loan losses was $535,000 for 1998
and $465,000 for 1997. The amount of the provision for loan loss for 1998 and
1997 was determined based upon management's continual evaluation of the adequacy
of the allowance for loan losses, which encompasses the overall risk
characteristics of the loan portfolio, trends in TFB's delinquent and
non-performing loans, and the impact of economic conditions on borrowers. There
can be no assurances, however, that future losses will not exceed estimated
amounts or that additional provisions for loan losses will not be required in
future periods.
OTHER INCOME. Total other income increased by $51,000 or 2.2% from $2.3 million
for 1997 to $2.4 million for 1998. Other income is primarily derived from
non-interest fee income, which is typically divided into three major categories:
fiduciary, service charges, and other fee income. For 1998, fiduciary and other
fee income increased while service charge fee income decreased. The bulk of the
increase was from fiduciary activity, which contributed $33,470 of the $51,000,
increase. The remaining increase of $17,530 was other fee income from loan
related products.
OTHER EXPENSES. Other expense increased 4.8% or $355,000 for the year ended
December 31, 1998 compared to the year ended December 31, 1997. During the same
periods salaries and benefits increased $122,000, while all other expenses
increased $233,000.
INCOME TAXES. Income tax expense increased by $248,525 for the year ended
December 31, 1998 compared to the year ended December 31, 1997. The effective
tax rates were 29.9% for December 31, 1998 and 30.4% for December 31, 1997. The
effective tax rate is less than the statutory federal income tax rate of 34% due
mainly to TFB's investment in tax-exempt securities.
YEAR 2000 COMPLIANCE. A great deal of information has been disseminated about
the global computer crash that may occur in the Year 2000. Many computer
programs that can only distinguish the final two digits of the year entered (a
common programming practice in earlier years) are expected to read entries for
the Year 2000 as the year 1900 and compute payment, interest or delinquency
based on the wrong date or are expected to be unable to compute payment,
interest or delinquency. Rapid and accurate data processing is essential to the
operation of TFB. TFB has initiated a Year 2000 plan and has closely monitored
the situation by thoroughly assessing systems and programs that may be date
sensitive.
16
<PAGE>
In early 1997, TFB began planning its strategy to address the issue. In June
1998 a cross-functional project team was formed to assess and address both
internal and external risks associated with Y2K. A readiness plan was developed
consisting of six phases:
In the first phase, the Board adopted policies, procedures, and schedules to
address the issue. The Board and senior managers have been updated on their
implementation since June. Officers and associates have been provided an
internal newsletter outlining TFB's progress and containing information to
assist them in responding to customers' questions.
In the second phase, a complete inventory, including all hardware, software,
networks and other equipment that may have imbedded computer chips, such as
heating and air conditioning, security systems, vaults and elevators, was
developed and each item identified as either mission critical, mission
necessary, mission desirable or non-critical. The team continues to meet
regularly to update the status of each item on the inventory.
Vendors and correspondent organizations' readiness has been assessed and
evaluations will continue until readiness is assured. Every new vendor's
readiness is evaluated before contracting. Approximately 80% of TFB's vendors
for critical applications have informed TFB that they are fully compliant. The
remaining vendors have advised TFB that they are in the testing and validation
stage of the process.
TFB's credit risk related to current commercial customers has been assessed.
Organizations with relationships of $100,000 or more with TFB have been
contacted and their compliance status evaluated. Their progress will be
evaluated on an on-going basis to insure compliance. All new commercial
customers are evaluated as a regular part of the lending process.
Customers are being kept informed of TFB's progress by way of the Internet web
site, communications in statements mailed to the customers, updates at branch
offices, teller receipts, messages on telephone voice systems and seminars. TFB
plans to place advertisements in the local newspapers beginning in June 1999.
The impact of the Year 2000 issue on TFB depends not only on TFB's corrective
action, but also on the corrective action of governmental agencies, utilities,
businesses and other third parties that provide services or data to, or receive
services or data from TFB, or whose financial condition or operational
capability is important to TFB. To reduce this exposure, TFB has identified, and
continues to contact these significant parties to determine their Year 2000
plans and target dates.
In the third phase, upgrades and replacement systems for all hardware and
software were ordered. Ninety-eight percent are in place and operational. The
remainder will be put into service prior to June 30, 1999.
Through December 31, 1998, approximately $175,000 was spent on Y2K remediation
efforts. It is expected that an additional $75,000 will be required to complete
this project.
Contingency plans for all critical applications were developed to prepare for
unforeseen situations. TFB used the same contingency formula on the data
processing systems as has been used successfully in previous major system
conversions.
17
<PAGE>
In the fourth phase, in-house testing on the upgrades to the data processing
systems was completed successfully in the current environment. M&I Data
Services, TFB's outsource service provider, has completed proxy testing under
the Y2K environment. Specific testing of transmittals between TFB and M&I Data
Services using the Y2K simulated environment is scheduled. Sungard, TFB's Trust
Services outsource partner, has assured TFB that it is Y2K compliant and has
provided proxy-testing results.
Integration testing has been successfully completed on TFB's electronic funds
and reporting systems. The testing of networking system upgrades and
replacements has been substantially accomplished, and will be totally in-place
by June 30, 1999. Other non-critical applications have been substantially tested
and found to be compliant. TFB continues to monitor its vendors' testing and
compliance status.
In the fifth phase, TFB was reviewed by regulatory authorities to ensure that it
has been proceeding with a prudent plan of action for Year 2000 readiness. TFB
is on schedule in accordance with regulatory guidelines.
In the sixth phase, which is being implemented throughout 1999, systems,
contingency plans, and business resumption plans will be re-tested and refined.
Liquidity alternatives are being evaluated, and applications will be made prior
to May 31, 1999 to outside sources to insure alternative funding for a
worst-case scenario of funds shortage. Insurance risks have been evaluated, and
TFB will contract with legal counsel prior to June 30, 1999 for an outside legal
assessment of the Y2K readiness plans.
Notwithstanding TFB's efforts, there can be no assurance that mission critical
third-party vendors or other significant third parties will adequately address
their Year 2000 issues. Until the Year 2000 event actually occurs and for a
period of time thereafter, there can be no assurance that there will be no
problems related to Year 2000. The Year 2000 technology challenge is an
unprecedented event, and if the issues are not adequately addressed, TFB could
face business disruptions, operational problems, financial losses, legal
liability and similar risks, and TFB's business, results of operations, and
financial position could be materially adversely affected.
TFB's credit risk associated with borrowers may increase to the extent borrowers
fail to adequately address Year 2000 issues. As a result, there may be increases
in TFB's problem loans and credit losses in future years. In addition, TFB may
be subject to increased liquidity risks associated with deposit withdrawals. It
is not, however, possible to quantify the potential impact of any such risks or
losses at this time.
TFB has prepared alternate solutions through a business resumption contingency
plan to mitigate potential risks on January 1, 2000. The contingency plans were
developed for the critical core business functions and supporting information
technology systems. These critical functions include data processing, wire
transfer, trust accounting and the internal technology network. Core business
risks have been prioritized based upon greatest risk posed to TFB. The plans
identify financial and human resources necessary for their execution. The plans
are being enhanced to include a business risk assessment that identifies
potential disruptions on TFB's operations, the minimum acceptable
18
<PAGE>
level of services, the strategies and resources available to restore system or
business operations, and the processes and equipment needed for TFB to function
at an adequate level.
The risk of failure is not limited to TFB's internal information systems. TFB
depends on data provided by its business partners, correspondent banks, Federal
Reserve Bank, and other third parties. TFB also depends on vendors from which
telecommunications, software, and other services are provided. Additionally, TFB
depends on services provided by the public infrastructure including power,
water, transportation, and voice and data telecommunications. TFB is currently
completing business resumption plans for the entire branch system in the event
of possible public infrastructure failures.
COMPARISON OF OPERATING RESULTS FOR THE YEAR ENDED DECEMBER 31, 1997 AND
DECEMBER 31, 1996
NET INCOME. Net income for the year ended December 31, 1997 increased 22.2% to
$2.3 million from $1.8 million for the year ended December 31, 1996. The
increase in net income was primarily due to increases in net interest income
that more than offset increases in other expenses and the provision for loan
losses.
NET INTEREST INCOME. Net interest income increased 10.8% to $8.7 million from
$7.8 million for the year ended December 31, 1996. The increase in net interest
income was due primarily to an increase in the average balance of loans held by
TFB. A net decrease in the securities portfolio of $8.8 million and an $7.0
million increase in deposits and borrowings primarily funded this increase in
loan volume of $16.4 million. This increase in loan volume more than offset the
effects of decreases in the average interest rate earned on loans due to
declining market rates and an increase in interest expense due to short term
borrowings in 1997.
INTEREST INCOME. Total interest income grew $901,000 or 7.2% to $13.4 million
for the year ended December 31, 1997 compared to $12.5 million for the year
ended December 31, 1996. The increase was a result of an increase in the
interest and fees received on loans due to an increase in average loan
receivables of 15.4% or $16.4 million from December 31, 1996 to December 31,
1997.
INTEREST EXPENSE. Total interest expense increased $52,000 or 1.1% to $4.8
million from $4.7 million for the year ended December 31, 1996. A $200,000
decrease in expenses for interest on deposits fueled primarily by a decrease in
interest rates was partially offset by an increase in interest expenses on
short-term borrowing. The average balance of interest-bearing liabilities
increased by $6.7 million, or 5.4%, from the year ended December 31, 1996 to the
year ended December 31, 1997.
PROVISION FOR LOAN LOSSES. The provision for loan losses was $465,000 for 1997
and $578,000 for 1996. The amount of the provision for loan loss for 1997 and
1996 was determined based upon management's continual evaluation of the adequacy
of the allowance for loan losses, which encompasses the overall risk
characteristics of the loan portfolio, trends in TFB's delinquent and
non-performing loans, and the impact of economic conditions on borrowers. There
can be no assurances, however, that future losses will not exceed estimated
amounts or that additional provisions for loan losses will not be required in
future periods.
19
<PAGE>
OTHER INCOME. Total other income increased by $69,000 or 3.0% from $2.3 million
for 1996 to $2.4 million for 1997. Other income is primarily derived from
non-interest fee income, which is typically divided into three major categories:
fiduciary, service charges and other fee income. For 1997, Trust Department
income, service charges on deposit accounts, other service charges, commissions
and fees, and other operating income increased, while gains on securities
available for sale decreased. The majority of the increase was generated by
fiduciary activity that increased other service charges, commissions and fees
$54,000 and increased other operating income $45,000.
OTHER EXPENSES. Total other expenses increased 5.6% or $389,000 for the year
ended December 31, 1997 compared to the year ended December 31, 1996 due to
increases in the same salaries and employees' benefits of $208,000, and
increases in other operating expenses of $112,000.
INCOME TAXES. Income tax expense increased by $233,000 for the year ended
December 31, 1997 compared to the year ended December 31, 1996. The effective
tax rates were 30.4% for December 31, 1997 and 28.9% for December 31, 1996. The
effective tax rate is less than the statutory federal tax rate of 34% due
primarily to TFB's investment in tax-exempt securities.
ASSET QUALITY
Non-performing loans, in most cases, consist of loans for which the accrual of
interest has been discontinued. Management evaluates loans that are 90 days or
more past due in addition to loans that have suffered financial distress to
determine if they should be placed on non-accrual status. Factors considered by
management include the estimated value of collateral, if any, and other
resources of the borrower that may be available to satisfy the delinquency.
Nonaccrual loans totaled approximately $666,000 or .41% of total loans at
December 31, 1998, as compared to $553,000 or .43% of total loans at December
31, 1997. Non-performing loans as a percentage of the Allowance for Loan Losses
were 36% and 33.4% at December 31, 1998 and 1997, respectively.
20
<PAGE>
The following table summarizes TFB's loans accounted for on a non-accrual basis
for the years ended December 31, 1998, 1997, 1996, 1995, and 1994.
<TABLE>
<CAPTION>
For the Years Ended December 31,
-------------------------------------------------------------------------------------
1998 1997 1996 1995 1994
---------------- --------------- ------------- -------------- ------------
(Dollars in thousands)
<S> <C> <C> <C> <C> <C>
Nonaccrual loans $666 $551 $733 $621 $1,654
Restructured loans -- -- -- -- --
Foreclosed assets 57 199 477 778 469
---------------- --------------- ------------- -------------- ------------
Total non-performing assets $723 $750 $1,210 $1,399 $2,123
================ =============== ============= ============== ============
Loans past due 90 days or more
and
accruing interest $951 $491 $21 $195 $268
================ =============== ============= ============== ============
Non-performing loans to total
loans,
at period end 0.41% 0.43% 0.59% 0.62% 1.82%
================ =============== ============= ============== ============
Non-performing assets to period
end assets 0.33% 0.41% 0.67% 1.51% 1.28%
================ =============== ============= ============== ============
</TABLE>
There are no loans as of December 31, 1998, 1997, 1996, 1995, or 1994 other than
those disclosed above as either non-performing or impaired where known
information about the borrower caused management to have serious doubts about
the borrower's ability to comply with the contractual repayment obligations.
There are also no other interest-bearing assets that would be subject to
disclosure as either non-performing or impaired if such interest-bearing assets
were loans. There are no concentrations of loans to borrowers engaged in similar
activities that exceed 10% of total loans of which management is aware.
COMPARISON OF DECEMBER 31, 1998 AND DECEMBER 31, 1997 FINANCIAL CONDITION
Total assets were $220 million at December 31, 1998, an increase of 19.3% or
$35.6 million from $184.4 million at December 31, 1997. Balance sheet categories
reflecting significant changes included investment securities, total loans,
deposits, and Federal Home Loan Bank advances. Each of these categories is
discussed below.
INVESTMENT SECURITIES. Total investment securities amounted to $22.8 million at
December 31, 1998, reflecting a decrease of $5.2 million from $27.9 million at
December 31, 1997. The decrease was primarily reinvested into loans. At December
31,1998, the investment securities portfolio was segregated into available for
sale of $15.8 million and held to maturity of $6.9 million. The valuation
allowance for the available for sale portfolio as of December 31, 1998 had an
unrealized gain of $2,500 and an unrealized loss of $144,000 as of December 31,
1997.
LOANS. Total net loan balance after allowance for loan losses was $162.3 million
at December 31, 1998, which represents an increase of $34.1 million or 26.6%
from $128.2 million as of
21
<PAGE>
December 31, 1997. The majority of this increase was reflected in the real
estate ($27.6 million) and consumer installment ($5.9 million) loan categories.
The bulk of growth in real estate loans was split between commercial ($15.3
million) and 1-4 family residential ($11.3 million) loans. The majority of
consumer installment loans were comprised of automobile loans. TFB's loans are
made primarily to customers located within its local trade area.
DEPOSITS. For the year ended December 31, 1998, total deposits grew $17.3
million or 10.7%. The majority of the growth was in savings and interest-bearing
demand deposits that increased by $8.5 million while non-interest bearing demand
deposits and time deposits grew $5.2 million and $3.6 million, respectively.
FHLB ADVANCES. Amounts borrowed from the FHLB of Atlanta increased from none to
$18 million or 8.9% of earning assets at December 31, 1998. The increased
borrowing from the FHLB was to support high loan growth and extend liabilities.
The term structure of the advances borrowed was 10 years with a 5 year call
option for $13 million and the remaining $5 million has a 10 year maturity with
a 1-year call option.
CAPITAL RESOURCES AND LIQUIDITY
Shareholders' equity totaled $21.2 million at December 31, 1998. Equity growth
since December 31, 1997 was less than 1%, ($199,000), reflecting management's
desire to increase shareholders' return on equity by minimizing growth in
equity. Therefore, during the first quarter of 1998, the company initiated a
Dutch Auction self-tender offer to buy back shares directly from shareholders.
As a result of this action, Bankshares bought back 60,238 shares, as adjusted
for the two for one stock split, (3.2% of shares outstanding on December 31,
1997) for $1.2 million. Exclusive of the Dutch Auction, Bankshares initiated an
open market buyback program in 1998, through which it has bought back an
additional 15,000 shares (0.8% of shares outstanding on December 31, 1997) at a
cost of $300,000. Moreover, the securities portfolio valuation account reduced
its unrealized loss after tax by 92.2% to $7,000 at December 31, 1998 compared
to an unrealized loss of $95,000 at December 31, 1997.
Banking regulations have established minimum capital requirements for financial
institutions including risk-based capital ratios and leveraged ratios. As of
December 31, 1998 the appropriate regulatory authorities have categorized
Bankshares and TFB as well capitalized under the regulatory framework for prompt
corrective action.
The primary sources of funds are deposits, repayment of loans, maturities of
investments, funds provided from operations and advances from the FHLB of
Atlanta. While scheduled repayments of loans and maturities of investment
securities are predictable sources of funds, deposit flows and loan repayments
are greatly influenced by the general level of interest rates, economic
conditions and competition. TFB uses its sources of funds to fund existing and
future loan commitments, to fund maturing certificates of deposit and demand
deposit withdrawals, to invest in other interest-earning assets, to maintain
liquidity, and to meet operating expenses. Management monitors projected
liquidity needs and determines the desirable level based in part on TFB's
commitments to make loans and management's assessment of TFB's ability to
generate funds.
22
<PAGE>
Cash and amounts due from depository institutions and federal funds sold totaled
$26.7 million at December 31, 1998. These assets provide the primary source of
liquidity for TFB. In addition, management has designated a substantial portion
of the investment portfolio, ($15.8 million) as available for sale and has an
available line of credit with the Federal Home Loan Bank of Atlanta with a
borrowing limit of approximately $31 million at December 31, 1998 to provide
additional sources of liquidity.
QUANTITATIVE AND QUALITATIVE DISCLOSURE ABOUT MARKET RISK
An important component of both earnings performance and liquidity is management
of interest rate sensitivity. Interest rate sensitivity reflects the potential
effect on net interest income of a movement in market interest rates. TFB is
subject to interest rate sensitivity to the degree that its interest-earning
assets mature or reprice at a different time interval from that of its
interest-bearing liabilities. However, TFB is not subject to any of the other
major categories of market risk such as foreign currency exchange rate risk or
commodity price risk.
TFB uses a number of tools to manage its interest rate risk, including
simulating net interest income under various scenarios, monitoring the present
value change in equity under the same scenarios, and monitoring the difference
or gap between rate sensitive assets and rate sensitive liabilities over various
time periods. Management believes that rate risk is best measured by simulation
modeling.
The earnings simulation model forecasts annual net income under a variety of
scenarios that incorporate changes in the absolute level of interest rates,
changes in the shape of the yield curve and changes in interest rate
relationships. Management evaluates the effect on net interest income and
present value equity under varying market rate assumptions.
TFB monitors exposure to gradual change in rates of up to 200 basis points up or
down over a rolling 12-month period. TFB's policy limit for the maximum negative
impact on net interest income and change in equity from gradual changes in
interest rates of 200 basis points over 12 months is 15%. Management has
maintained a risk position well within these guideline levels during 1998.
23
<PAGE>
The following tables present TFB's present value changes in equity under various
rate scenarios as of December 31, 1998 and 1997.
<TABLE>
<CAPTION>
- ---------------------------------------------------------------------------------------------------------------------------------
1998 Percentage Market Minus CURRENT Plus Market Percentage
(Dollars in thousands) Change Value Change 200 pts FAIR VALUE 200 pts Value Change Change
- ---------------------------------------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C> <C> <C>
Securities 4.09% 936 23,802 22,866 21,915 (951) -4.16%
Loans receivable 5.07% 8,233 170,720 162,487 155,040 (7,447) -4.58%
Total rate sensitive assets 4.95% 9,169 194,522 185,353 176,955 (8,398) -4.53%
Other assets 0.00% 0 34,964 34,964 34,964 0 0.00%
Total assets 4.16% 9,169 229,486 220,317 211,919 (8,398) -3.81%
Rate sensitive deposits 3.45% 5,902 177,059 171,157 166,406 (4,751) -2.78%
Borrowed funds 14.14% 2,589 20,898 18,309 17,148 (1,161) -6.34%
Other Liabilities 0.00% 0 1,632 1,632 1,632 0 0.00%
Total liabilities 4.44% 8,491 199,589 191,098 185,186 (5,912) -3.09%
- ---------------------------------------------------------------------------------------------------------------------------------
Present Value Equity 2.32% $ 678 $29,897 $ 29,219 $26,733 $ (2,486) -8.51%
- ---------------------------------------------------------------------------------------------------------------------------------
<CAPTION>
- ---------------------------------------------------------------------------------------------------------------------------------
1997 Percentage Market Minus CURRENT Plus Market Percentage
(Dollars in thousands) Change Value Change 200 pts FAIR VALUE 200 pts Value Change Change
- ---------------------------------------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C> <C> <C>
Securities 4.57% 1,278 29,239 27,961 26,980 (981) -3.51%
Loans receivable 4.38% 5,618 133,836 128,218 124,841 (3,377) -2.63%
Total rate sensitive assets 4.42% 6,896 163,075 156,179 151,821 (4,358) -2.79%
Other assets 0.00% 0 28,343 28,343 28,343 0 0.00%
Total assets 3.74% 6,896 191,418 184,522 180,164 (4,358) -2.36%
Rate sensitive deposits 2.97% 4,602 159,472 154,870 150,703 (4,167) -2.69%
Other Liabilities 0.00% 0 1,595 1,595 1,595 0 0.00%
Total liabilities 2.94% 4,602 161,067 156,465 152,298 (4,167) -2.66%
- ---------------------------------------------------------------------------------------------------------------------------------
Present Value Equity 8.18% $ 2,294 $30,351 $ 28,057 $27,866 $ (191) -0.68%
- ---------------------------------------------------------------------------------------------------------------------------------
</TABLE>
IMPACT OF INFLATION AND CHANGING PRICES
The consolidated financial statements and the accompanying notes presented
elsewhere in this document, have been prepared in accordance with generally
accepted accounting principles, which require the measurement of financial
position and operating results in terms of historical dollars without
considering the change in the relative purchasing power of money over time and
due to inflation. Unlike most industrial companies, virtually all the assets and
liabilities are monetary in nature. The impact of inflation is reflected in the
increased cost of operations. As a result, interest rates have a greater impact
on performance than do the effects of general levels of inflation. Interest
rates do not necessarily move in the same direction or to the same extent as the
prices of goods and services.
RECENT ACCOUNTING PRONOUNCEMENTS
In June 1998, the Financial Accounting Standards Board issued Statement No. 133,
"Accounting for Derivative Instruments and Hedging Activities," which is
required to be adopted in years
24
<PAGE>
beginning after June 15, 1999. The Statement permits early adoption as of the
beginning of any fiscal quarter after its issuance. TFB has not determined
whether to adopt the new statement early. The Statement will require TFB to
recognize all derivatives on the balance sheet at fair value. Derivatives that
are not hedges must be adjusted to fair value through income. If the derivative
is a hedge, depending on the nature of the hedge, changes in the fair value of
derivatives will either be offset against the change in fair value of the hedged
assets, liabilities, or firm commitments through earnings or recognized in other
comprehensive income until the hedged item is recognized in earnings. The
ineffective portion of a derivative's change in fair value will be immediately
recognized in earnings.
Because TFB does not use derivatives, management does not anticipate that the
adoption of the new Statement will have a significant effect on the Bank's
earnings or financial position.
In October 1998, the FASB issued Statement No. 134, "Accounting for
Mortgage-Backed Securities Retained after the Securitization of Mortgage Loans
Held for Sale by a Mortgage Banking Enterprise, an amendment of FASB Statement
No. 65." FASB No. 65, as amended, requires that, after securitization of a
mortgage loan held for sale, an entity engaged in mortgage banking activities
classify the resulting mortgage-backed security as a trading security. This
Statement further amends Statement No. 65 to require that after the
securitization of mortgage loans held for sale, an entity engaged in mortgage
banking activities classify the resulting mortgage-backed securities or other
retained interests based on its ability and intent to sell or hold those
investments. This Statement conforms the subsequent accounting for securities
retained after the securitization of mortgage loans by a mortgage banking
enterprise with the subsequent accounting for securities retained after the
securitization of other types of assets by a non-mortgage banking enterprise.
This Statement is effective beginning in 1999.
25
<PAGE>
CERTAIN STATISTICAL INFORMATION
The following schedules present, for the period indicated, certain financial and
statistical information, or a specific reference as to the location of the
required disclosures elsewhere herein.
26
<PAGE>
INVESTMENT PORTFOLIO
At December 31, 1996, 1997 and 1998, the carrying values of the major
classifications of securities were as follows:
<TABLE>
<CAPTION>
Available for sale(1) Held to maturity(1)
-------------------------------------------------- --------------------------------------------
1998 1997 1996 1998 1997 1996
-------------- ---------------- ---------------- -------------- ------------- ---------------
<S> <C> <C> <C> <C> <C> <C>
U.S. Treasury and other U.S.
Government agencies and
Corporations $ 12,682,483 $ 14,722,755 $ 25,787,714 $ 4,229,829 $ 6,665,399 $ 9,598,686
States and political subdivisions 688,412 689,046 888,983 2,738,025 3,240,764 3,772,584
Mutual funds 875,852 1,038,986 1,031,728 -- -- --
Restricted investment - Federal
Home Loan Bank stock 966,700 966,700 -- -- -- --
Other securities 609,500 622,000 625,000 -- -- --
-------------- ---------------- ---------------- -------------- ------------- --------------
Total $ 15,822,947 $ 18,039,487 $ 28,333,425 $ 6,967,854 $ 9,906,163 $ 13,371,270
============= =============== =============== ============= ============ ==============
</TABLE>
(1) Amounts for held-to-maturity securities are based on amortized cost; amounts
for available-for-sale securities are based on fair value.
27
<PAGE>
MATURITY OR NEXT RATE ADJUSTMENT DATE
The following is a schedule of maturities or next rate adjustment date and
related weighted average yields of securities at December 31, 1998:
<TABLE>
<CAPTION>
Maturing
Maturing Maturing After After Five
Within One One but Within but Within
Year Five Years Ten Years
------------ ---------------- ------------
Amount(2) Yield Amount(2) Yield Amount(2) Yield
------------ ------- ---------------- -------------------- ---------
<S> <C> <C> <C> <C> <C> <C>
AVAILABLE FOR SALE
U.S. Treasury and other U.S. gov't
Agencies and corporations 795,918 6.51 6,717,258 6.08 3,975,197 6.05
States and political subdivisions - 475,000 7.10 -
Mutual funds - - -
Restricted investment - FHLB Stock - - -
Other securities - - -
Total AFS 795,918 6.51 7,192,258 6.14 3,975,197 6.05
HELD TO MATURITY
U.S. Treasury and other U.S. gov't
Agencies and corporations 1,730,216 5.76 2,499,613 6.41 -
States and political subdivisions 247,181 3.65 2,490,845 4.32 -
Mutual funds - - -
Restricted investment - FHLB Stock - - -
Other securities - - -
Total HTM 1,977,396 5.49 4,990,458 5.37 -
TOTAL SECURITIES 2,773,314 5.78 12,182,716 5.83 3,975,197 6.05
</TABLE>
<TABLE>
<CAPTION>
Maturing
After Ten
Years
------------- Total
Amount(1)(2) Yield Amount(2) Yield
------------ ----- ---------- ------
<S> <C> <C> <C> <C>
AVAILABLE FOR SALE
U.S. Treasury and other U.S. gov't
Agencies and corporations 1,194,110 6.77 12,682,483 6.16
States and political subdivisions 213,412 6.25 688,412 6.84
Mutual funds 875,852 7.23 875,852 7.23
Restricted investment - FHLB Stock 966,700 7.40 966,700 7.40
Other securities 609,500 6.74 609,500 6.74
Total AFS 3,859,574 7.00 15,822,947 6.35
HELD TO MATURITY
U.S. Treasury and other U.S. gov't
Agencies and corporations - 4,229,829 6.15
States and political subdivisions - 2,738,025 4.26
Mutual funds - -
Restricted investment - FHLB Stock - -
Other securities - -
Total HTM - 6,967,854 5.40
TOTAL SECURITIES 3,859,574 7.00 22,790,801 6.06
</TABLE>
(1) Securities that do not have stated maturity dates and are included in the
"After Ten Years" column.
(2) All security amounts are based on book value with available for sale
securities reflected at fair market value and held to maturity securities at
amortized cost
28
<PAGE>
LOAN PORTFOLIO
At December 31, 1998 and 1997 net loans accounted for 73.8% and 69.5%,
respectively, of total assets.
Loans are shown on the balance sheets net of unearned discounts and the
allowance for loan losses. Interest is computed by methods that result in level
rates of return on principal. Loans are charged-off when deemed by management to
be uncollectible after taking into consideration such factors as the current
financial condition of the customer and the underlying collateral and
guarantees.
Bankshares adopted FASB No. 114, "Accounting by Creditors for Impairment of a
Loan." This statement has been amended by FASB No. 118, "Accounting by Creditors
for Impairment of a Loan - Income Recognition and Disclosures." Statement 114,
as amended, requires that the impairment of loans that have been separately
identified for evaluation is to be measured based on the present value of
expected future cash flows or, alternatively, the observable market price of the
loans or the fair value of the collateral. However, for those loans that are
collateral dependent (that is, if repayment of those loans is expected to be
provided solely by the underlying collateral) and for which management has
determined foreclosure is probable, the measure of impairment is to be based on
the fair value of the collateral. Statement 114, as amended also requires
certain disclosures about investments in impaired loans and the allowance for
loan losses and interest income recognized on loans.
Bankshares considers all consumer installment loans and residential mortgage
loans to be homogenous loans. These loans are not subject to impairment under
FASB 114. A loan is considered impaired when it is probable that TFB will be
unable to collect all principal and interest amounts according to the
contractual terms of the loan agreement. Factors involved in determining
impairment include, but are not limited to, expected future cash flows,
financial condition of the borrower, and the current economic conditions. A
performing loan may be considered impaired if the factors above indicate a need
for impairment. A loan on non-accrual status may not be impaired if in the
process of collection or there is an insignificant shortfall in payment. An
insignificant delay of less than 30 days or a shortfall of less than 5% of the
required principal and interest payment generally does not indicate an
impairment situation, if in management's judgement the loan will be paid in
full. Loans that meet the regulatory definitions of doubtful or loss generally
will be paid in full. Loans that meet the regulatory definitions of doubtful or
loss generally qualify as an impaired loan under FASB 114. Charge-offs for
impaired loans occur when the loan or portion of the loan is determined to be
uncollectible, as is the case for all loans.
Loans are placed on non-accrual status when a loan is specifically determined to
be impaired or when principal or interest is delinquent for 90 days or more,
unless such loans are well secured and in the process of collection. Any unpaid
interest previously accrued on those loans is reversed from income. Interest
income generally is not recognized on specific impaired loans unless the
likelihood of further loss is remote. Interest payments received on such loans
are applied as a reduction of the loan principal balance. Interest income on
other non-accrual loans is recognized only to the extent of interest payments
received.
29
<PAGE>
Total loans on the balance sheet are comprised of the following classifications
as of December 31, 1998, 1997, 1996, 1995, and 1994.
<TABLE>
<CAPTION>
As of December 31,
----------------------------------------------------------------------------------
1998 1997 1996 1995 1994
-------------- ------------- -------------- ------------- -------------
Real estate loans (Dollars in thousands)
<S> <C> <C> <C> <C> <C>
Construction and land $8,297 $6,998 $9,617 $8,058 $4,814
development
Secured by farmland 1,163 1,449 1,345 700 866
1-4 family residential 53,430 42,120 34,145 27,547 26,872
Other real estate loans 49,814 34,513 36,354 32,421 27,788
Agricultural (except secured by - - 51 63 198
farmland)
Commercial and industrial (except
those secured by real estate) 16,933 15,844 12,689 12,810 12,565
Loans to individuals 30,284 24,417 21,119 18,586 17,027
All other loans 4,620 5,176 1,147 486 592
-------------- ------------- -------------- ------------- -------------
Total loans $164,541 $130,517 $116,467 $100,671 $90,722
-------------- ------------- -------------- ------------- -------------
Less: unearned income (416) (709) (722) (675) (513)
Allowance for loan losses (1853) (1655) (1465) (1182) (1050)
============== ============= ============== ============= =============
Net loans $162,272 $128,153 $114,280 $98,814 $89,159
============== ============= ============== ============= =============
</TABLE>
30
<PAGE>
MATURITIES AND SENSITIVITIES OF LOANS TO CHANGES IN INTEREST RATES
The following is a schedule of maturities and sensitivities of loans subject to
changes in interest rates as of December 31, 1998:
<TABLE>
<CAPTION>
Maturing After One but Within
Maturing Within One Year Five Years Maturing After Five Years
------------------------------ ------------------------------- --------------------------
Fixed Rate Variable Fixed Rate Variable Fixed Rate Variable
--------------- ------------- -------------- ------------ ------------ ------------
(In Thousands)
<S> <C> <C> <C> <C> <C> <C>
Commercial Loans $ 2,824 $ 4,477 $ 8,484 $ 331 $ 134 $ 683
Construction Loans 4,401 856 2,087 - 953 -
Total $ 7,225 $ 5,333 $ 10,571 $ 331 $ 1,087 $ 683
</TABLE>
<TABLE>
<CAPTION>
Totals
---------------------------------------------
Total Fixed Total Variable Grand Total
--------------- -------------- -------------
<S> <C> <C> <C>
Commercial Loans $ 11,442 $ 5,491 $ 16,933
Construction Loans 7,441 856 8,297
Total $ 18,883 $ 6,347 $ 25,230
</TABLE>
31
<PAGE>
RISK ELEMENTS
The information required under this section is set forth under the heading
"Asset Quality" in Financial Information.
SUMMARY OF LOAN LOSS EXPERIENCE
ANALYSIS OF LOAN LOSS EXPERIENCE. The allowance for loan losses is maintained at
a level which, in management's judgement, is adequate to absorb probable credit
losses inherent in the loan portfolio. The amount of the allowance is based on
management's evaluation of the collectibility of the loan portfolio, credit
concentration, trends in historical loss experience, specific impaired loans,
and current economic conditions. Management periodically reviews the loan
portfolio to determine probable credit losses related to specifically identified
loans as well as probable credit losses inherent in the remainder of the loan
portfolio that have been incurred. Allowances for impaired loans are generally
determined based on collateral values or the present value of estimated cash
flows. The allowance is increased by a provision for loan losses, which is
charged to expense and reduced by charge-offs, net of recoveries. Changes in the
allowances relating to impaired loans are charged or credited to the provision
for loan losses. Because of uncertainties inherent in the estimation process,
management's estimate of credit losses inherent in the loan portfolio and the
related allowance may change in the near term.
Additions to the allowance for loan losses, which are recorded as the provision
for loan losses on Bankshares' statements of earnings, are made monthly to
maintain the allowance at an appropriate level based on management's analysis of
the potential risk in the loan portfolio. The amount of the provision is a
function of the level of loans outstanding, the level of non-performing loans,
historical loan-loss experience, the amount of loan losses actually charged off
or recovered during a given period and current national and local economic
conditions.
At December 31, 1998, 1997, 1996, 1995 and 1994 the allowance for loan losses
was $1,853,000, $1,655,000, $1,465,000, $1,181,000 and $1,050,000 respectively.
32
<PAGE>
The following table summarizes TFB's loan loss experience for each of the last
five years ended December 31:
<TABLE>
<CAPTION>
For the years ended December 31,
------------------------------------------------------------------------------------
1998 1997 1996 1995 1994
--------------- ------------- ------------- -------------- -------------
<S> <C> <C> <C> <C> <C>
Balance of allowance for loan losses (Dollars in thousands)
at the beginning of the year $ 1,655 $ 1,465 $ 1,181 $ 1,050 $ 1,456
CHARGE-OFFS
Real estate loans
Construction and land development
Secured by farmland
1-4 family residential 40 40 116 52
Other real estate loans
Agricultural (except secured by
farmland)
Commercial and industrial (except 108 176 128 176 114
those secured by real estate)
Loans to individuals 223 187 225 97 267
All other loans
Total loan losses charged-off 371 363 393 389 433
RECOVERIES
Real estate loans
Construction and land development
Secured by farmland
1-4 family residential 1 7 9
Other real estate loans
Agricultural (except secured by
farmland)
Commercial and industrial (except 6 6 51 6 19
those secured by real estate)
Loans to individuals 29 81 47 77 37
All other loans
Total recoveries added to allowance 35 87 99 90 65
NET RECOVERIES (CHARGE-OFFS) (336) (276) (294) (299) (368)
Provision charged (credited) to
operating expense 535 465 578 430 (38)
=============== ============= ============= ============== =============
Balance at end of year $ 1,854 $ 1,654 $ 1,465 $ 1,181 $ 1,050
=============== ============= ============= ============== =============
Ratio of net charge-offs during period
to average loans outstanding during period 0.23% 0.22% 0.27% 0.31% 0.43%
</TABLE>
33
<PAGE>
ALLOCATION OF THE ALLOWANCE FOR LOAN LOSSES. The following table allocates the
allowance for loan losses at December 31, 1998, 1997, 1996, 1995 and 1994 to
each loan category. The allowance has been allocated according to the amount
deemed to be reasonably necessary to provide for the possibility of losses being
incurred within the following categories of loans at the dates indicated,
although the entire allowance balance is available to absorb any actual
charge-offs that may occur.
34
<PAGE>
<TABLE>
<CAPTION>
As of December 31,
---------------------------------------------------------------
1998 1997
---------------------------------------------------------------
% of Loans to % of Loans to
Allowance Total Loans Allowance Total Loans
--------------------------- -------------------------------
(Dollars in Thousands)
<S> <C> <C> <C> <C>
Real estate:
Construction and land development - 5.04% - 5.36%
Secured by farmland - 0.71% - 1.11%
1-4 family residential 160 32.47% 274 32.27%
Other real estate loans - 30.27% - 26.44%
Agricultural (except secured by farmland) - 0.00% - 0.00%
Commercial and industrial (except those
secured by real estate) 714 10.29% 777 12.14%
Loans to individuals 980 18.41% 603 18.71%
All other loans - 2.81% - 3.97%
Unallocated - 0.00% - 0.00%
------------------------ -----------------------
1,854 100.00% 1,654 100.00%
</TABLE>
<TABLE>
<CAPTION>
As of December 31,
-------------------------------------------------------------------------------------
1996 1995 1994
-------------------------------------------------------------------------------------
% of Loans to % of Loans to % of Loans to
Allowance Total Loans Allowance Total Loans Allowance Total Loans
--------- ----------- --------- ----------- --------- -----------
<S> <C> <C> <C> <C> <C> <C>
Real estate:
Construction and land development - 8.26% - 8.01% - 5.31%
Secured by farmland - 1.15% - 0.70% - 0.95%
1-4 family residential 293 29.32% 249 27.36% 200 29.62%
Other real estate loans - 31.21% - 32.20% - 30.63%
Agricultural (except secured by farmland) - 0.04% - 0.06% - 0.22%
Commercial and industrial (except those
secured by real estate) 522 10.89% 605 12.73% 683 13.85%
Loans to individuals 650 18.13% 327 18.46% 167 18.77%
All other loans - 1.00% - 0.48% - 0.65%
Unallocated - 0.00% - 0.00% - 0.00%
---------------------- -------------------- --------------------
1,465 100.00% 1,181 100.00% 1,050 100.00%
</TABLE>
35
<PAGE>
DEPOSITS
The average daily amounts of deposits and rates paid on savings deposits is
summarized for the periods indicated in the following table:
<TABLE>
<CAPTION>
December 31, 1998 December 31, 1997 December 31, 1996
-------------------------- ------------------------ --------------------------
Amount(1) Rate Amount(1) Rate Amount(1) Rate
--------------- --------- ------------- --------- ----------- --------
(Dollars in thousands)
<S> <C> <C> <C> <C> <C> <C>
Interest-bearing and money market $ 71,144 3.05% $ 61,268 2.76% $ 57,003 3.03%
Other savings deposits 29,920 3.47% 29,738 3.43% 30,492 3.44%
Time deposits 40,266 4.89% 36,237 4.93% 37,366 5.13%
--------------- ------------- ---------------
Total interest-bearing deposits 141,330 127,243 124,861
Noninterest-bearing deposits 30,721 25,325 25,081
--------------- ------------- ---------------
Total deposits $ 172,051 $ 152,568 $ 149,942
=============== ============= ===============
</TABLE>
(1) Amounts are based on daily average balances.
36
<PAGE>
MATURITY OF TIME DEPOSITS OF $100,000 OR MORE
The following is a schedule of maturities of time deposits in amounts of
$100,000 or more as of December 31, 1998:
Three months or less $ 1,648,027
Three through six months 1,543,204
Six through twelve months 3,489,907
One through Two Years 3,765,649
More than Two Years 309,347
======================
Total $ 10,756,134
======================
SIGNIFICANT FINANCIAL RATIOS
The ratio of net income to daily average total assets and average shareholders'
equity, and certain other ratios are, are as follows:
Certain Financial Ratios
At December 31
------------------------------
1998 1997
------------- -------------
Percentage of net income to:
Average total assets 1.21% 1.27%
Average shareholders' equity 11.60% 11.62%
Percentage of dividends declared per common
share to basic earnings per share 34.35% 29.66%
Percentage of average shareholders' equity
to average total assets 10.42% 11.22%
BORROWED FUNDS
LONG-TERM BORROWINGS. Amounts and weighted average rates for long-term
borrowings for 1998, 1997 and 1996 are as follows:
<TABLE>
<CAPTION>
As of December 31
------------------------------------------------------------------------------------------
1998 1997 1996
---------------- ------------ -------------
Amount Rate Amount Rate Amount Rate
---------------- ------------- ------------ ------------ ------------- ------------
<S> <C> <C> <C> <C> <C> <C>
FHLB Advances $ 18,000,000 5.19% -- -- -- --
</TABLE>
SHORT-TERM BORROWINGS. This information is not required, as the average amount
of borrowings during the period did not exceed 30% of shareholders' equity.
37
<PAGE>
CAPITAL
Bankshares and TFB are subject to various regulatory capital requirements
administered by 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
Bankshares' financial statements. Under capital adequacy guidelines and the
regulatory framework for prompt corrective action, Bankshares and TFB must meet
specific capital guidelines that involve quantitative measures of the assets,
liabilities, and certain off-balance sheet items as calculated under regulatory
accounting practices. Bankshares' and TFB's capital amounts and classification
are also subject to qualitative judgments by the regulators about components,
risk weightings and other factors.
Quantitative measures established by regulation to ensure capital adequacy
require Bankshares and TFB 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 (as defined) to average
assets (as defined). Management believes, as of December 31, 1998 that
Bankshares and TFB meet all capital adequacy requirements to which they are
subject.
Bankshares and TFB exceeded their regulatory capital ratios, as set forth in the
following table:
<TABLE>
<CAPTION>
To be Well Capitalized
For Capital Adequacy Under Prompt Corrective
Actual Purposes Action Provisions
----------------------------- ------------------------- -------------------------
Amount Ratio Amount Ratio Amount Ratio
------------------ -------- -------------- ------- -------------- --------
(Dollars in
Thousands)
AS OF DECEMBER 31, 1998:
Total Capital (to Risk Weighted
Assets):
<S> <C> <C> <C> <C>
Consolidated $ 22,975 14.3% >$ 12,884 >8.0% N/A
- -
The Fauquier Bank 23,058 14.3% 12,884 >8.0% >$ 16,106 >10.0%
- - -
Tier I Capital (to Risk Weighted
Assets):
Consolidated $ 21,122 13.1% >$ 6,442 >4.0% N/A
- -
The Fauquier Bank 21,205 13.2% 6,442 >4.0% >$ 9,663 > 6.0%
- - -
Tier I Capital (to Average Assets):
Consolidated $ 21,122 9.7% >$ 8,676 >4.0% N/A
- -
The Fauquier Bank 21,205 9.8% 8,676 >4.0% >$ 10,845 > 5.0%
- - -
AS OF DECEMBER 31, 1997:
Total Capital (to Risk Weighted
Assets):
Consolidated $ 22,604 17.7% >$ 10,251 >8.0% N/A
- -
The Fauquier Bank 22,617 17.7% 10,251 >8.0% >$ 12,814 >10.0%
- - -
Tier I Capital (to Risk Weighted
Assets):
Consolidated $ 21,003 16.4% >$ 5,126 >4.0% N/A
- -
The Fauquier Bank 21,015 16.4% 5,126 >4.0% >$ 7,688 > 6.0%
- - -
Tier I Capital (to Average Assets):
Consolidated $ 21,003 11.9% >$ 7,065 >4.0% N/A
- -
The Fauquier Bank 21,015 11.9% 7,065 >4.0% >$ 8,831 > 5.0%
- - -
</TABLE>
38
<PAGE>
ITEM 3. PROPERTIES
TFB owns property and operates branches at the following locations:
<TABLE>
<CAPTION>
LOCATION BOOK VALUE LEASE/OWN RENT (ANNUAL) EXPIRATION RENEWAL
OPTIONS
- ---------------------------------------------------------------------------------------------------------
Main Office *
<S> <C> <C> <C> <C> <C>
P.O. Box 561 $1.2 M Own N/A N/A N/A
10 Courthouse Square
Warrenton, VA 20186
Catlett Branch Office
Rt. 28 and 806 $65,000 Own N/A N/A N/A
Catlett, VA 20119
Manassas Branch Office
8091 Sudley Rd. N/A Lease $38,500 2004 Additional 5 yrs.
Manassas, VA
New Baltimore Office
5119 Lee Highway $570,000 Own N/A N/A N/A
Warrenton, VA 20187
The Plains Office
Main Street $10,000 Own N/A N/A N/A
The Plains, VA 20198
View Tree Office
216 Broadview Avenue $218,000 Own N/A N/A N/A
Warrenton, VA
</TABLE>
- --------------------------------------------------------------------------------
* TFB and Bankshares
ITEM 4. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT
No person or entity is known to Bankshares to be the beneficial owner of more
than five percent (5%) of Bankshares common stock.
The following table sets forth as of December 31, 1998, the number and
percentage of shares of Bankshares common stock held by each director and
nominee of Bankshares, the executive officers named in the Summary Compensation
Table, and all directors and executive officers of Bankshares and TFB as a group
who are the beneficial owners of any Bankshares common stock.
39
<PAGE>
<TABLE>
<CAPTION>
NAME OF AMOUNT AND NATURE OF PERCENT
BENEFICIAL OWNER(S) * BENEFICIAL OWNERSHIP ** OF CLASS
<S> <C> <C>
Randy K. Ferrell 14,100 .77%
Alexander G. Green, Jr. 69,680 (1) 3.82%
Stanley C. Haworth 41,620 (2) 2.28%
John J. Norman, Jr. 500 .03%
Douglas C. Larson 4,920 (3) .27%
C. H. Lawrence, Jr. 20,523 1.13%
D. Harcourt Lees, Jr. 15,680 (4) .86%
Randolph T. Minter 4,160 .23%
B. S. Montgomery 13,512 (5) .74%
H. P. Neale 24,704 (6) 1.36%
Pat H. Nevill 13,920 (7) .76%
Henry M. Ross 11,680 (8) .64%
Gary R. Shook 1,230 (9) .07%
C. Hunton Tiffany 20,406 (10) 1.12%
All directors and executive
officers as a group: 265,371 14.56%
</TABLE>
* The address or each beneficial owner listed above shall be Bankshares'
address: 10 Courthouse Square, Warrenton, Virginia 20186.
** Includes 4,480 shares that could be issued within 60 days to each
non-employee director, other than Mr. Larson and Mr. Minter, pursuant to the
Bank's Non-Employee Director Stock Option Plan, and 3,360 shares each that could
be issued within 60 days to Mr. Larson and Mr. Minter under such plan.
(1) Includes 2,720 shares held jointly with Alexander G. Green,
III, his son; 2,720 shares held jointly with Courtenay G.
Mullen, his daughter; and 2,720 shares held jointly with Mary
Blake Green, his daughter.
(2) Includes 32,740 shares held jointly with Mildred W. Haworth,
his wife.
(3) Includes 1,000 shares held jointly with Edith J. Larson, his
mother.
(4) Includes 1,600 shares owned by Eleanor T. Lees, his wife.
(5) Includes 4,888 shares held jointly with Patty M. Montgomery,
his wife.
(6) Includes 9,608 shares owned by Fontaine G. Neale, his wife.
(7) Includes 800 shares owned jointly with H.T.A. Nevill, her
husband; 6,000 shares owned by H. T. A. Nevill, and 2,200
shares for which Mr. Nevill has voting power.
(8) Includes 800 shares held jointly with Lois B. Ross, his wife.
(9) Includes 140 shares held by Ann Rodman Shook, his wife, as
Custodian for their children.
40
<PAGE>
(10) Includes 14,006 shares owned by Susanne J. Tiffany, his wife.
Bankshares is not aware of any definitive arrangement that may operate at a
subsequent date to effect a change in control of Bankshares.
ITEM 5. DIRECTORS AND EXECUTIVE OFFICERS
Bankshares' Articles of Incorporation provide that the Board of Directors of
Bankshares is classified into three classes.
The Class I directors serve until 2000, the Class II directors serve until 2001,
and the Class III directors serve until 1999.
<TABLE>
<CAPTION>
Name Age Principal Occupation Title Director
- ------------------------ ------- ------------------------------------------ ---------------------- -----------
CLASS I
<S> <C> <C> <C>
C.H. Lawrence, Jr. 54 Independent Contractor (Business Bankshares Director 1984
Development); Former Owner & General TFB Director
Manager; Country Chevrolet, Inc.
Henry M. Ross 71 President, Ross Industrial Development Bankshares Director 1984
Corp.; President, Greenwich Corp.; TFB Director
Founder & Former CEO, Ross Industries,
Inc. (Engineer)
C. Hunton Tiffany 59 Chairman of the Board, Fauquier Bankshares Director 1984
Bankshares, Inc.; President, TFB Director
Fauquier Bankshares, Inc.;
President of The Fauquier Bank
John J. Norman, Jr. 36 Vice President, Associate Bankshares Director 1998
Broker, Norman Realty, Inc.; (Commercial RE) TFB Director
Director of the Bank since 1998
CLASS II
Stanley C. Haworth 74 Auctioneer; Owner & General Manager, Bankshares Director 1984
Warrenton Nurseries TFB Director
(Nurseyman/Auctioneer)
H.P. Neale 77 Farming Bankshares Director 1984
TFB Director
Brian S. Montgomery 46 President, Warrenton Foreign Car, Inc. Bankshares Director 1990
President, Montgomery Auto Parts, Inc. TFB Director
(Sales/Service and Parts)
Pat H. Nevill 52 Director & Secretary-Treasurer, The Bankshares Director 1993
Stable Door, Ltd. (Retail Clothing & TFB Director
Tack Sales)
CLASS III
Alexander G. Green, Jr. 82 Retired Postmaster, Merchant Bankshares Director 1984
and Farmer TFB Director
Douglas C. Larson 52 Executive Director, Airlie Foundation; Bankshares Director 1996
Director, International Academy of TFB Director
Preventative Medicine (Conference Center
and Research)
D. Harcourt Lees, Jr. 77 Chairman, D.H. Lees & Co., Inc.; Bankshares Director 1984
President, D.H. Lees Real Estate (Real TFB Director
Estate and Insurance Sales)
</TABLE>
41
<PAGE>
<TABLE>
<S> <C> <C> <C>
Randolph T. Minter 39 President, Moser Funeral Home; Bankshares Director 1996
President, Bright View Cemetery, Inc. TFB Director
OFFICERS
Diane B. Coppage Treasurer/Senior Vice President, Fauquier Bankshares Officer
Bankshares; Treasurer/Senior Vice TFB Executive Officer
President
Controller, The Fauquier Bank See Principal Occup.
(Accounting, Data Processing,
Bookkeeping)
Randy K. Ferrell Senior Vice President, Fauquier Bankshares Officer
Bankshares; Senior Vice President, TFB Executive Officer
Commercial Banking, The Fauquier Bank See Principal Occup.
(Lending Division)
Gary R. Shook Senior Vice President, Fauquier Bankshares Officer
Bankshares; Senior Vice President, TFB Executive Officer
Investments & Trust Services, Retail See Principal Occup.
Banking, The Fauquier Bank (Branch
Banking, Trust Services and Investment
Sales)
H. Frances Stringfellow Senior Vice President, Secretary, Bankshares Officer
Fauquier
Bankshares; Senior Vice President, TFB Executive Officer
Administrative Services, The Fauquier See Principal Occup.
Bank
(Administration, Human Resources,
Property)
</TABLE>
C. H. "Buddy" Lawrence, Jr. was elected to TFB's Board in 1980 and to
Bankshares' Board in 1984. He was the owner and general manager of Country
Chevrolet, Inc., for many years, until he sold the business in late 1997. In
February 1998 he entered into a contract with TFB as an Independent Contractor
in a marketing, new business development, customer relations rol7. Mr. Lawrence
serves on the Executive, Long Range Planning, and Trust Committees.
Henry M. "Bud" Ross was elected to TFB's Board in 1976 and to Bankshares' Board
in 1984. Mr. Ross serves on the Audit, Executive, and Long Range Planning
Committees. In 1991 Mr. Ross sold his company, Ross Industries, Inc.
(large-scale food processing and freezing machinery) and became an independent
contractor and consultant to them until 1996. Currently Mr. Ross is President
and owner of Ross Industrial Development (real estate development) and The
Greenwich Corporation (research).
C. Hunton Tiffany has been an employee of TFB since 1965. He was elected to
TFB's Board in 1974 and to Bankshares' Board in 1984. He has served as President
of TFB since 1982 and Bankshares since 1984, and is currently Chairman of both
Boards of Directors. Mr. Tiffany is President and a Director of Fauquier Bank
Services, Inc., a subsidiary of TFB. Mr. Tiffany serves on the Executive,
Investment, Long Range Planning Committee and Trust Committees.
John J. Norman, Jr. is the newest member of the Board of Directors of TFB and
Bankshares, having been elected to both Boards in December 1998. He is Vice
President and Associate Broker of Norman Realty, Inc., a commercial real estate
brokerage. Prior to 1989, he was employed for First Union Bank in North Carolina
for several years.
42
<PAGE>
Stanley C. Haworth was elected to TFB's Board in 1971 and to Bankshares' Board
in 1984. For many years, Mr. Haworth has owned and managed Warrenton Nurseries,
growing and selling shrubbery and trees. He is also a licensed Auctioneer. Mr.
Haworth serves on the Audit, Compensation and Benefits, and Executive
Committees.
H. Paul Neale was elected to TFB's Board in 1971 and to Bankshares' Board in
1984. For many years, he has owned and managed a family dairy farming operation
in Fauquier County. Mr. Neale serves on the Audit and Executive Committees.
Brian S. Montgomery was elected to TFB and Bankshares' Boards in 1990. For many
years, he has owned and managed Warrenton Foreign Car, Inc. and Montgomery Auto
Parts (automotive sales and service). Mr. Montgomery serves on the Compensation,
Executive, Long Range Planning and Trust Committees.
Pat H. Nevill was elected to TFB and Bankshares' Boards in 1993. For many years,
she has been co-owner and manager of The Stable Door, Inc. a local clothing and
tack retail store. Mrs. Nevill serves on the Compensation and Benefits, Long
Range Planning, Investments and Trust Committees.
Alexander G. Green, Jr. was elected to TFB's Board in 1950 and to Bankshares'
Board in 1984. Mr. Green is a retired Postmaster, merchant and farmer. Mr. Green
serves on the Investment and Trust Committees.
Douglas C. Larson was elected to TFB's Board and to Bankshares' Board in 1996.
He has been employed for many years as Executive Director of the Airlie
Conference Center, and as Director of the International Academy of Preventive
Medicine, a research organization. Mr. Larson serves on the Audit and
Compensation and Benefits Committees.
D. Harcourt Lees, Jr. was elected to TFB's Board in 1954 and to Bankshares'
Board in 1984. For many years, Mr. Lees has owned and managed D. H. Lees Real
Estate, a local realty sales organization. Mr. Lees serves on the Long Range
Planning and Trust Committees.
Randolph T. Minter was elected to TFB and Bankshares' Boards in 1996. For more
than five years he has owned and managed Moser Funeral Home and Bright View
Cemetery, Inc. Mr. Minter serves on the Audit, Compensation and Benefits, and
Investment Committees.
Diane B. Coppage joined TFB in 1972. She serves as Senior Vice President,
Controller, and Treasurer of TFB and Senior Vice President and Treasurer of
Bankshares. As head of Support Services, she directs the activities of the
Accounting, Data Processing and Bookkeeping departments and is responsible for
the integrity of the financial systems of the organization. Mrs. Coppage is a
member of Senior Management, and also serves on the Technology, Human Resources,
Asset/Liability Management and Strategic Planning Committees of TFB. She
participates in presentations to the Boards of TFB and Bankshares.
Randy K. Ferrell joined TFB in September 1994. He serves as Senior Vice
President, and heads the Commercial Banking Division, and as Senior Vice
President of Bankshares. From 1972 to September 1994, Mr. Ferrell was employed
by NationsBank and its predecessors, ending his
43
<PAGE>
career there as Senior Vice President, responsible for all corporate banking
activities for Northern Virginia and Washington, D. C. Mr. Ferrell is a member
of Senior Management, and also serves on the Asset/Liability Management
Committee of TFB. Mr. Ferrell is a Senior Vice President and Director of
Fauquier Bank Services, Inc., a subsidiary of TFB. He participates in
presentations to the Boards of TFB and Bankshares, and leads the presentation of
new loans and analysis of the loan portfolio at the Executive Committee
meetings. Mr. Ferrell is a member of Senior Management, and serves on the
Asset/Liability Management and Strategic Planning Committees of TFB.
Gary R. Shook joined TFB in January 1995. He serves as Senior Vice President,
and heads the Retail Branch operations, Investment Sales and Trust Services
areas, and Senior Vice President of Bankshares. From 1988 to January 1995, Mr.
Shook was employed at Jefferson National Bank, as Vice President, Sales and
Marketing in the Trust and Investments Group. He oversees all aspects of the
branching system, third party investment sales, and the Trust Division products
and services of TFB. Mr. Shook serves as a Senior Vice President and Director of
Fauquier Bank Services, Inc., a subsidiary of TFB. Mr. Shook participates in
presentations to the Boards of TFB and Bankshares, and reports to the Trust
Committee of the Board of Directors on all trust activities. He is a member of
Senior Management and serves on the Asset/Liability Management and Strategic
Planning Committees of TFB.
H. Frances Stringfellow joined TFB in 1986. She serves as Senior Vice President
and Secretary of TFB, and Senior Vice President and Corporate Secretary of the
Bankshares. She oversees the operations of the Administrative Services Division,
property management and TFB's purchasing program, and serves as Human Resources
Manager. Mrs. Stringfellow manages the outsource relationship with our auditors
for Internal Auditing and coordinates the efforts of the internal Compliance
Committee of TFB. Currently, she is coordinating the efforts of the Year 2000
Readiness Committee within TFB. She serves as Senior Vice President, Secretary
and a Director of Fauquier Bank Services, Inc., a subsidiary of TFB. She
participates in presentations to the Board of Directors, reports to the Audit
Committee on Internal Auditing and Compliance, and assists the Compensation and
Benefits Committee. She is a member of Senior Management and serves on the
Asset/Liability Management, Human Resources and Strategic Planning Committees of
TFB.
44
<PAGE>
COMMITTEES OF THE BOARD
Bankshares does not have any established committees. During the year ended
December 31, 1998 the Board of Directors acted as a Committee of the whole as to
all matters.
MEETINGS OF BOARD OF DIRECTORS
During the year ended December 31, 1998, the Board of Directors of Bankshares
held eight meetings. All directors were in attendance at each meeting.
ITEM 6. EXECUTIVE COMPENSATION
The following table sets forth the remuneration accrued or paid by Bankshares or
TFB during the calendar years 1998, 1997, and 1996 for the TFB's Officers who
received more than $100,000 during the year.
45
<PAGE>
SUMMARY COMPENSATION TABLE
<TABLE>
<CAPTION>
- -----------------------------------------------------------------------------------------------------------------------
Annual Compensation Long term compensation
------------------------------------------------------------------
Name and principal Year Awards All other
position ------------------------ Compensation(5)
Other
Salary(1) Bonus(2) annual Restricted Options/ Payouts-- ($)
($) ($) compensa- Stock SARs(4) LTIP
tion(3) Awards (#) Payouts--
($) ($) ($)
(a) (b) (c) (d) (e) (f) (g) (h) (i)
- -----------------------------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C> <C>
C. Hunton Tiffany 1998 156,400 37,195 4,619 6,422 4,800
President & CEO 1997 148,631 37,195 4,428 4,442
1996 146,653 20,815 4,226 4,476
Randy K. Ferrell 1998 90,863 18,000 135 2,557 8,987
SVP, Commercial Banking 1997 88,863 18,000 135 8,846
1996 87,550 14,350 132 8,740
Gary R. Shook 1998 89,775 18,000 48 2,493 3,203
SVP,Retail/Investments & 1997 86,275 14,675 48 2,588
Trust Services
- -----------------------------------------------------------------------------------------------------------------------
</TABLE>
(1) Includes Director's Fees of $14,800 earned by the President in 1996.
(2) Reflects Incentive Compensation.
(3) Represents automobile allowance of $1,362 for the President in 1998, $1,241
in 1997, and $1,189 in 1996; group life insurance in excess of $50,000
premiums of $3,257 for the President in 1998, $3,187 in 1997, and $3,037 in
1996; same insurance premiums for Mr. Ferrell in 1998 of $135; in 1997 of
$135, and in 1996 of $132; and same insurance premiums for Mr. Shook in
1998 of $48, and in 1997 of $48.
(4) Represents the number of Incentive Stock Options granted by the Board of
Directors in 1998. 74% of the President's shares vest in the year 2001 and
26% vest in 2002; Mr. Ferrell's and Mr. Shook's shares vest in 2001. When
vested, the shares may be purchased by the employee at the fair market
value of $21.00 per share. The Options generally expire ten years after the
date of grant.
(5) Represents 401(k) Match paid TFB for the President in 1998, 1997, and 1996;
represents the portion of split dollar life insurance premiums paid by TFB
on Mr. Ferrell's behalf of $5,711 in 1998, $5,787 in 1997, and $5,764 in
1996, 401(k) Match paid by TFB for Mr. Ferrell of $3,276 in 1998, $3,059 in
1997 and $2,976 in 1996; and represents 401(k) Match paid by TFB for Mr.
Shook in 1998 and in 1997.
DIRECTORS' COMPENSATION
MEETING FEES. Non-Employee Directors of Bankshares receive a fee of $200 for
each Board meeting attended. Non-Employee Directors of TFB receive a fee of $400
for each Board meeting
46
<PAGE>
and $200 for each Committee meeting attended. However, no Director may receive
fees for more than two Board and Committee meetings held in any one day.
DIRECTOR DEFERRED COMPENSATION PLAN. Effective April 1, 1995, the Board approved
and established a Director Deferred Compensation Plan (the "Deferred
Compensation Plan"). This plan provides that any non-employee director of
Bankshares or TFB may elect to defer receipt of all or any portion of his or her
compensation as a director. A participating Director may elect to have amounts
deferred under the Deferred Compensation Plan held in a deferred cash account
which is credited on a quarterly basis with interest equal to the highest rate
offered by TFB at the end of the preceding quarter. Alternatively, a participant
may elect to have a deferred stock account in which deferred amounts are treated
as if invested in Bankshares common stock at the fair market value on the date
of deferral. The value of a stock account will increase and decrease based upon
the fair market value of an equivalent number of shares of common stock. In
addition, the deferred amounts deemed invested in common stock will be credited
with dividends on an equivalent number of shares. Amounts considered invested in
Bankshares common stock are paid, at the election of the director, either in
cash or in whole shares of the common stock and cash in lieu of fractional
shares. Directors may elect to receive amounts contributed to their respective
accounts in one or up to five installments. Bankshares may establish a trust to
hold amounts deferred and which accumulate under the plan. The purpose of the
Deferred Compensation Plan is to give the non-employee directors the option of
deferring current taxation on directors' fee income.
NON-EMPLOYEE DIRECTOR STOCK OPTION PLAN. In addition, the Board approved and
established effective April 1, 1995, a Non-Employee Director Stock Option Plan
(the "Option Plan"). Under this plan each Director who is not an employee of
Bankshares or its subsidiary will receive an option grant covering 1,120 shares
of Bankshares common stock on April 1 of each year during the five year term of
the Option Plan. The first grant under the Option Plan was made on May 1, 1995.
The exercise price of awards is fixed at the fair market value of the shares on
the date the option is granted. During the term of the Option Plan, a total of
61,600 shares of common stock may be granted. The options granted under the
Option Plan are not exercisable for six months from the date of grant except in
the case of death or disability. Options that are not exercisable at the time a
director's services on the Board terminates for reasons other than death,
disability or retirement in accordance with Bankshares' policy will be
forfeited. The purpose of the Option Plan is to promote a greater identity of
interest between non-employee directors and Bankshares' shareholders by
increasing each participant's proprietary interest in Bankshares through the
award of options to purchase Bankshares common stock.
INDEPENDENT CONTRACTOR AGREEMENT. C. H. Lawrence, Jr., a non-employee director,
continues to provide business development and customer relations services to TFB
under an Independent Contractor Agreement dated February 23, 1998, which
contract is renewable annually. Because of his successful performance under the
contract, Mr. Lawrence's compensation was increased from $50,000.00 to
$77,400.00 per annum, effective September 1, 1998.
EXECUTIVE COMPENSATION
OMNIBUS STOCK OWNERSHIP AND LONG TERM INCENTIVE PLAN. In 1998, Bankshares
adopted an Omnibus Stock Ownership and Long-Term Incentive Plan for certain key
employee of The
47
<PAGE>
Fauquier Bank. Two hundred thousand (200,000) shares of common stock were
reserved and available for issuance under the Plan. On August 20, 1998, the
Board of Directors granted incentive stock options, which options, if exercised,
would equal 17,977 shares of common stock. The options have an exercise price of
$21.00 per share. Generally, the shares are not exercisable until three years
from the date of issuance and generally require continuous employment during the
period prior to exercise. The options will expire in no more than ten years
after the date of grant. The Plan is designed to encourage and motivate
employees to contribute to the successful performance of Bankshares. The Board
of Directors believes that stock ownership by employees promotes a unity of
purpose between employees and shareholders. The Plan supports the achievement of
Bankshares' primary long term performance objectives and helps to retain
employees.
OPTIONS/SAR GRANTS IN 1998
Individual Grants
<TABLE>
<CAPTION>
- -------------------------------------------------------------------------------------------------------------------
Number of Percent of
securities total options/
underlying SARs granted
options/SARS to employees Exercise or Expiration
Name granted (#) in fiscal year base price ($/Sh) date
(a) (b) (c) (d) (e)
- -------------------------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C>
C. Hunton Tiffany 6,422 35.7% $21.00 Oct. 20, 2008
Randy K. Ferrell 2,557 14.2% $21.00 Oct. 20, 2008
Gary R. Shook 2,493 13.9% $21.00 Oct. 20, 2008
Diane B. Coppage 2,016 11.2% $21.00 Oct. 20, 2008
H. Frances Stringfellow 2,026 11.3% $21.00 Oct. 20, 2008
Total 17,977 100% $21.00 Oct. 20, 2008
- -------------------------------------------------------------------------------------------------------------------
</TABLE>
48
<PAGE>
PENSION PLANS. TFB has a non-contributory benefit plan which covers
substantially all employees of TFB who are 21 years of age or older, who have at
least one year of service, and work a minimum of 1,000 hours per year.
The Plan's Normal Retirement Benefit formula is as follows:
(a) 1.35% of the Participant's final 5-year average compensation
per year of service up to 35 years plus
(b) 0.60% of the Participant's final 5-year average compensation,
in excess of his/her Covered Compensation Level, * per year of
service up to 35 years.
* Covered Compensation Level = The average of the last 35 years of the social
security wage base at normal retirement.
TFB's pension plan expense for calendar year 1998 was $92,609.
Cash benefits under the Plan generally commence on retirement, death or other
termination of employment and are payable in various forms, generally at the
Participant's election.
<TABLE>
<CAPTION>
PENSION PLAN TABLE
5 Year YEARS OF SERVICE
Average 10 15 20 25 30 35
Salary
- ----------------- -------------- --------------- -------------- --------------- -------------- --------------
<S> <C> <C> <C> <C> <C> <C>
50,000 7,878 11,817 15,756 19,695 23,634 27,573
- ----------------- -------------- --------------- -------------- --------------- -------------- --------------
65,000 10,803 16,205 21,606 27,008 32,409 37,811
- ----------------- -------------- --------------- -------------- --------------- -------------- --------------
80,000 13,728 20,592 27,456 34,320 41,184 48,048
- ----------------- -------------- --------------- -------------- --------------- -------------- --------------
100,000 17,628 26,442 35,256 44,070 52,884 61,698
- ----------------- -------------- --------------- -------------- --------------- -------------- --------------
125,000 22,503 33,755 45,006 56,258 67,509 78,761
- ----------------- -------------- --------------- -------------- --------------- -------------- --------------
150,000 27,378 41,067 54,756 68,445 82,134 95,823
- ----------------- -------------- --------------- -------------- --------------- -------------- --------------
160,000 29,328 43,992 58,656 73,320 87,984 102,648
and above
- ----------------- -------------- --------------- -------------- --------------- -------------- --------------
</TABLE>
Based on a straight life annuity assuming full benefit at age 65, no offsets,
and covered compensation of $31,200 for a person age 65 in 1998. Compensation is
currently limited to $160,000 by Internal Revenue Service Regulations and
includes all regular pay, overtime and regular bonuses.
49
<PAGE>
The approximate years of service as of January 1, 1999 for the named executive
officers are as follows:
Service
<TABLE>
<CAPTION>
-------
Name Years Months
---- ----- ------
<S> <C> <C> <C>
C. Hunton Tiffany 34 (1/18/65)
Randy K. Ferrell 4 3 (9/19/94)
Gary R. Shook 4 (1/17/95)
</TABLE>
RETIREMENT PLAN. TFB has a defined contribution retirement plan under Code
Section 401(k) of the Internal Revenue Service covering employees who have
completed six months of service and who are at least 21 years of age. Under the
plan a participant may contribute an amount up to 15% of their covered
compensation for the year, subject to certain limitations. TFB may also make,
but is not required to make, a discretionary matching contribution. The amount
of this matching contribution, if any, is determined on an annual basis by the
Board of Directors. TFB made a contribution to the plan for the year ended
December 31, 1998 of $61,566.
INCENTIVE PLANS. No officer or director received remuneration other than as
stated above, in the form of bonus, profit-sharing, pension, retirement, options
or warrants to purchase stock or any other remuneration plan, for the year ended
December 31, 1998. An incentive compensation plan for 1998 was approved by the
Board of Directors to be shared by all employees of TFB. An incentive pool of
$297,031 for 1998 was divided among all employees of TFB in January 1999. There
are no commission agreements between Bankshares or TFB and their respective
directors or officers.
CHANGE OF CONTROL AGREEMENTS. TFB has entered into change of control agreements
with officers Tiffany, Ferrell, Shook, Coppage and Stringfellow (the
"Executives"). The change of control agreements (the "Agreements") are intended
to attract and retain experienced, well-qualified executives who will advance
the best interests of TFB. TFB and Bankshares' continued success depends to a
significant degree on the skills and competence of these executives.
The Agreements become operative upon a change of control in TFB. For purposes of
the Agreements, a change of control of TFB occurs if, (i) any person, including
a "group" as defined in Section 13(d)(3) of the Securities Exchange Act of 1934
(but excluding any group of which the Executive is a member), becomes the
beneficial owner of securities of TFB or of Bankshares having 20% or more of the
combined voting power of the then outstanding TFB or Bankshares securities that
may be cast for the election of TFB or Bankshares directors other than as a
result of an issuance of securities initiated by TFB or Bankshares, as long as
the majority of the Board of Directors approving the purchases is a majority at
the time the purchases are made; or (ii) as the direct or indirect result of, or
in connection with, a tender or exchange offer, a merger or other business
combination, a sale of assets, contested election, or any combination of these
events, the persons who were directors of TFB or Bankshares before such events
cease to constitute a majority of TFB's or Bankshares' Board of Directors, or
any successor's board, within two years of the last of such transactions.
If, after a change of control occurs, an Executive's employment is terminated
within three (3) years, the Executive is entitled to receive the payments
specified in the Agreements, unless such termination was for Cause or the
Executive terminates employment without Good Reason. "Cause" means the
Executive's gross negligence or willful misconduct, which is detrimental to the
best interests of TFB's business operations. "Good Reason" means (i) a material
change in the Executive's functions, duties, responsibilities, authority,
benefits or perquisites, or relocation of the Executive's principal place of
employment, (ii) removal from or failure to re-elect the Executive to a current
position, (iii) a reduction of the Executive's base salary or a failure to
increase such salary in accordance with cost-of-living increases, or (iv) the
failure of any successor to assume and agree to perform the Agreements.
If an Executive is terminated not for Cause or terminates employment for Good
Reason: (i) TFB is required to pay the Executive as compensation for services
rendered to TFB a cash amount (subject to any applicable payroll or other taxes
required to be withheld) equal to 2.99 times the highest annual compensation
paid to the Executive by TFB for any six months ending with the Executive's
termination; (ii) In addition to the benefits to which an Executive is entitled
under the retirement plans or programs in effect, TFB is required to pay an
Executive a cash amount equal to the actuarial equivalent of the retirement
pension to which the Executive would have been entitled under the terms of such
retirement plan or programs, without regard to "vesting" thereunder, had the
Executive accumulated three (3) additional years of continuous service after
termination at the Executive's base rate in effect at the time of termination,
reduced by the single sum actuarial equivalent of any amounts to which the
Executive is entitled pursuant to the provisions of said retirement plans or
programs; (iii) TFB is required to maintain in full force and effect, for the
continued benefit of the Executive for a three-year period after termination,
all employee benefit plans and programs or arrangements in which the Executive
was entitled to participate immediately prior to termination, or substantially
similar programs if the Executive's continued participation is not possible
under the general terms and provisions of such existing plans and programs; and
(iv) all stock options granted to the Executive under any of TFB's stock option
plans shall become immediately exercisable with respect to all or any portion of
the shares covered thereby regardless of whether such options are otherwise
exercisable. TFB is required to reimburse the Executive for any federal income
tax liability incurred by the Executive in connection with the exercise of such
options which would not have been incurred by the Executive in the absence of
such options becoming immediately available upon a change of control.
If any payment made or benefit provided to an Executive pursuant to the
Agreements would constitute an "excessive parachute payment" within the meaning
of Section 280G of the Internal Revenue Code of 1986, as amended (the "Code")
and any regulations thereunder, thereby resulting in a loss of an income tax
deduction by TFB or the imposition of an excise tax on the Executive under
Section 4999 of the Code, then the payments scheduled under the Agreements will
be reduced to one dollar less than the maximum amount which may be paid without
causing any such payment or benefit to be nondeductible.
SPLIT DOLLAR LIFE INSURANCE AGREEMENT. On January 1, 1996, TFB entered into a
Split Dollar Life Insurance Agreement with Mr. Ferrell pursuant to which TFB
purchased two existing policies of insurance on Mr. Ferrell's life. Pursuant to
the agreement, TFB pays a portion of the annual premium on the insurance
policies. The policies provide for a combined death benefit of $440,000 to be
paid to the beneficiaries named thereon, and TFB is entitled to the total policy
proceeds in excess of the death benefits. TFB paid $5,711 of premiums in 1998 in
connection with this agreement.
ITEM 7. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS
TFB, as Bankshares subsidiary, has had, and expects to have in the future,
banking transactions in the ordinary course of business with its directors,
executive officers, their immediate families and affiliated companies in which
they are principal stockholders. Such loans were made on substantially the same
terms, including interest rate, collateral, and repayment terms on loans, as
those prevailing at the same time for comparable transactions with similar risk.
The extensions of credit by TFB to these persons have not and do not currently
involve more than the normal risk of collectibility or present other unfavorable
features. At December 31, 1998, these loans (excluding loans that total less
than $60,000) totaled $4,396,078. During 1998, total principal additions were
$1,592,296 and total principal payments were $1,135,540.
50
<PAGE>
ITEM 8. LEGAL PROCEEDINGS
There is no pending or threatened litigation that, in the opinion of management,
may materially impact the financial condition of Bankshares or TFB.
ITEM 9. MARKET PRICE OF AND DIVIDENDS ON BANKSHARES' COMMON EQUITY AND RELATED
STOCKHOLDER MATTERS
As of March 11, 1999, there were 1,823,129 outstanding shares of common stock,
which is the only class of Bankshares stock. There is no organized trading
market for Bankshares' stock. Accordingly, there is no comprehensive record of
trades or the prices of any such trades. As a result, the prices reported for
Bankshares common stock may not be reliable indicators of market value. The
following table reflects stock prices for Bankshares' Shares, to the extent such
information is available. The following sets forth the high and low closing
prices for trades for Bankshares common stock that occurred in transactions know
to Bankshares management from January 1, 1997 and during the respective periods
indicated.
<TABLE>
<CAPTION>
1997 1998
------------------------------------------------ ------------------------------------------------
Q* HIGH LOW SHARES HIGH LOW SHARES
<S> <C> <C> <C> <C> <C> <C>
1st $12.33 $12.00 N/A $21.25 $18.75 N/A
2nd $13.25 $12.25 N/A $21.50 $21.00 N/A
3rd $14.00 $13.00 N/A $22.00 $19.00 N/A
4th $18.75 $14.00 N/A $20.00 $18.50 N/A
</TABLE>
* Quarter.
All prices are adjusted for the 2-for-1 stock split declared on March 19, 1998.
HOLDERS
As of March 11, 1999 there were 430 holders of record of Bankshares common
stock.
DIVIDENDS
On March 19, 1998, Bankshares declared a 2 for 1 stock split. Bankshares has
declared and paid the following cash dividends in the past two years:
51
<PAGE>
<TABLE>
<CAPTION>
($) ($)
Dividend Year Per Share * Total Annual
- ------------------ ------------ -----------------
<S> <C> <C>
1997 $0.35 $191,301
1998 $0.45 $238,910
</TABLE>
* The above figures are adjusted to reflect all stock splits and dividends.
Bankshares' future dividend policy is subject to the discretion of the Board of
Directors and will depend upon a number of factors, including future earnings,
financial condition, cash requirements, and general business conditions.
Bankshares' ability to pay cash dividends will depend entirely upon TFB's
abilities to pay dividends to Bankshares.
Transfer of funds from TFB to Bankshares in the form of loans, advances and cash
dividends are restricted by federal and state regulatory authorities. As of
December 31, 1998, the aggregate amount of unrestricted funds that could be
transferred from TFB to Bankshares without prior regulatory approval totaled
$3,136,385.
ITEM 10. RECENT SALES OF UNREGISTERED SECURITIES
Bankshares has sold no securities within the past three years.
ITEM 11. DESCRIPTION OF BANKSHARES' SECURITIES TO BE REGISTERED
SHARES OF COMMON STOCK
Bankshares has 8,000,000 shares of $3.13 par value common stock. As of March 11,
1999, Bankshares had 430 shareholders and 1,823,129 shares were issued and
outstanding. The outstanding shares are fully paid and non-assessable. In the
event of voluntary or involuntary liquidation, dissolution or winding up of the
affairs of Bankshares, Bankshares' assets shall be distributed pro rata to the
holders of the shares.
RIGHTS OF SHAREHOLDERS
The holders of Bankshares common stock are entitled to one vote per share on all
matters voted on by shareholders, including elections of directors, and possess
exclusively all voting power except as otherwise required by law. The Articles
do not provide for cumulative voting for the election of directors. The holders
of Bankshares common stock are entitled to such dividends as may be declared
from time to time by Bankshares' Board of Directors from funds available
therefore, and upon liquidation will be entitled to receive pro rata all assets
of Bankshares available for distribution to such holders. The holders of
Bankshares common stock have no
52
<PAGE>
preemptive or other subscription rights, and there are no conversion rights or
redemption or sinking fund provisions with respect to the common stock.
CERTAIN PROVISIONS OF BANKSHARES' ARTICLES OF INCORPORATION AND BYLAWS
The Articles and Bylaws contain provisions that may delay or prevent a change in
control of Bankshares. The Articles and Bylaws provide that: (i) the number of
directors shall be stated in TFB's Bylaws but the number of directors set forth
in the bylaws cannot be increased by more than two during any 12-month period
except by the affirmative vote of holders of 85% of all shares of voting stock
of TFB; (ii) that the Board of Directors shall be divided into three classes, as
nearly equal in number as possible and at each annual meeting of the
shareholders thereafter one class shall be elected each year to serve a
three-year term; (iii) subject to the rights of the holders of any series of
Preferred Stock then outstanding, any director may be removed, with out cause,
but only by the affirmative vote of the holders of at least 85% of the
outstanding shares of common stock; (iv) special meetings of the stockholders
may be called only by the Chairman of the Board, the President, a majority of
the Board of Directors, or by any three or more stockholders together holding at
least 25% of the number of shares of capital stock of TFB at the time
outstanding and entitled to vote with respect to the business to be transacted
at such meeting. At a special meeting no business may be transacted and no
corporate action may be taken other than that stated in the notice of the
meeting.
VIRGINIA STATE REGULATION OF CERTAIN TRANSACTIONS
AFFILIATED TRANSACTIONS. The Virginia Stock Corporation Act (the "Virginia Act")
contains provisions governing "Affiliated Transactions" designed to deter
certain coercive two-tier takeovers of Virginia corporations. Affiliated
Transactions include certain mergers and share exchanges, material dispositions
of corporate assets not in the ordinary course of business, any dissolution of
the corporation proposed by or on behalf of an "Interested Shareholder" (as
defined below), or reclassification, including reverse stock splits,
recapitalizations or mergers of the corporation with its subsidiaries which have
the effect of increasing the percentage of voting shares beneficially owned by
an Interested Shareholder by more than 5%. For purposes of the Virginia Act, an
"Interested Shareholder" is defined as any beneficial owner of more than 10% of
any class of the voting securities of a Virginia corporation.
Subject to certain exceptions discussed below, the provisions governing
Affiliated Transactions require that, for three years following the date upon
which any shareholder becomes an Interested Shareholder, a Virginia corporation
cannot engage in an Affiliated Transaction with such Interested Shareholder
unless approved by the affirmative vote of the holders of more than two-thirds
of the outstanding shares of the corporation entitled to vote, other than the
shares beneficially owned by the Interested Shareholder, and by a majority (but
not less than two) of the "Disinterested Directors." A "Disinterested Director"
means, with respect to a particular Interested Shareholder, a member of a
corporation's board of directors who (i) was a member before the later of
January 1, 1988 and the date on which an Interested Shareholder became an
Interested Shareholder and (ii) was recommended for election by, or was elected
to fill a vacancy and received the affirmative vote of, a majority of the
Disinterested Directors then on the corporation's board of directors. At the
expiration of the three-year period, these provisions
53
<PAGE>
require approval of Affiliated Transactions by the affirmative vote of the
holders of more than two-thirds of the outstanding shares of the corporation
entitled to vote, other than those beneficially owned by the Interested
Shareholder.
The principal exceptions to the special voting requirement apply to Affiliated
Transactions occurring after the three-year period has expired and require
either that the transaction be approved by a majority of the Disinterested
Directors or that the transaction satisfy certain fair price requirements of the
statute. In general, the fair price requirements provide that the shareholders
must receive the highest per share price for their shares as was paid by the
Interested Shareholder for his shares or the fair market value of their shares,
whichever is higher. The fair price requirements also require that, during the
three years preceding the announcement of the proposed Affiliated Transaction,
all required dividends have been paid and no special financial accommodations
have been accorded the Interested Shareholder, unless approved by a majority of
the Disinterested Directors.
None of the foregoing limitations and special voting requirements apply to an
Affiliated Transaction with an Interested Shareholder (i) who was an Interested
Shareholder on the date the corporation first became subject to the provisions
of the Virginia Act governing Affiliated Transactions by virtue of its having
300 shareholders of record or (ii) whose acquisition of shares making such a
person an Interested Shareholder was approved by a majority of the corporation's
Disinterested Directors.
The Affiliated Transactions provisions provide that, by affirmative vote of a
majority of the voting shares other than shares owned by any Interested
Shareholder, a corporation may adopt, by meeting certain voting requirements, an
amendment to its articles of incorporation or bylaws providing that Affiliated
Transaction provisions shall not apply to the corporation. Bankshares has not
adopted such an amendment.
CONTROL SHARE ACQUISITIONS. The Virginia Act contains provisions regulating
certain "control share acquisitions" which are transactions causing the voting
strength of any person acquiring beneficial ownership of shares of a public
corporation in Virginia to meet or exceed certain threshold percentages (20%,
33-1/3% or 50%) of the total votes entitled to be cast for the election of
directors. Shares acquired in a control share acquisition have no voting rights
unless granted by a majority vote of all outstanding shares other than those
held by the acquiring person or any officer or employee director of the
corporation. The acquiring person may require that a special meeting of the
shareholders be held to consider the grant of voting rights to the shares
acquired in the control share acquisition. If the acquiring person's shares are
not accorded voting rights (or if no request for a special meeting is made by an
acquirer), the corporation may, if authorized by its charter and bylaws prior to
control share acquisition, purchase the acquiring person's shares at their cost
to the acquiring person. If voting rights are approved and the acquiring person
controls 50% or more of the voting power, all shareholders other than the
acquiring person have dissenters' rights which enable them to receive the "fair
value" of their shares. "Fair value" is not less than the highest price paid in
the control share acquisition. The Virginia Act permits corporations to opt-out
of its provisions by adopting a bylaw or charter provision prior to a control
share acquisition stating that the control share provisions of the Virginia Act
shall not apply. Bankshares has not adopted such a provision.
54
<PAGE>
VOTING REQUIREMENTS FOR CERTAIN BUSINESS COMBINATIONS
Bankshares Articles of Incorporation establish voting requirements for certain
business combination in addition to any Virginia requirements. The affirmative
vote of the holders of 85% of all shares of Bankshares common stock entitled to
vote on any business combination (as hereinafter defined) shall be required for
the adoption or authorization of such business combination with any other entity
(as hereinafter defined) if such entity is the beneficial owner, directly or
indirectly, of more than 20% of Bankshares voting stock. This requirement is not
applicable if: (a) certain fair price considerations are met; (b) after such
other entity has acquired a 20% interest and prior to the consummation of the
business combination Bankshares' Board of Directors continues to be represented
by the same individuals who were directors prior to the time that such other
entity acquired in excess of 30% of Bankshares voting stock, and the other
entity has not acquired any more of Bankshares' voting stock beyond the
acquisitions that brought the entity above the 20% threshold; (c) such other
entity shall not have received the benefit, directly or indirectly (except
proportionately as a stockholder) of any loans, advances, guarantees, pledges or
other financial assistance provided by Bankshares, or made any major change in
Bankshares' business or capital structure with out the unanimous approval of the
directors, in either case prior to the consummation of such business
combination; and (d) A proxy statement responsive to the requirements of the
Securities Exchange Act of 1934 shall be mailed to Bankshares' public
stockholders for the purpose of soliciting stockholder approval.
ITEM 12. INDEMNIFICATION OF DIRECTORS AND OFFICERS
Bankshares' Articles of Incorporation state that each Director and Officer shall
be indemnified by the Corporation against liabilities, fines, penalties and
claims imposed upon or asserted against him (including amounts paid in
settlement) by reason of having been such a Director or Officer, whether or not
then continuing so to be, and against all expenses (including counsel fees)
reasonably incurred by him in connection therewith, except in relation to
matters as to which he shall have been finally adjudged to be liable by reason
of having been guilty of gross negligence or willful misconduct in the
performance of his duties as such Director or Officer. Further, in the event of
any other judgment against such Director or Officer or in the event of a
settlement, the indemnification shall be made only if the Corporation shall be
advised, in case none of the persons involved shall be or have been a Director
of the Corporation, by the Board of Directors, and otherwise by independent
counsel to be appointed by the Board of Directors, that in its or his opinion
such Director or Officer was not guilty of gross negligence or willful
misconduct in the performance of his duties, and, in the event of a settlement,
that such settlement was, or if still to be made is, in the best interests of
the Corporation. If this determination is to be made by the Board of Directors,
it may, as to all questions of law, rely on the advice of independent counsel.
Every reference therein to Director or Officer includes every Director or
Officer or former Director or Officer of the Corporation and every person who
may have served at its request as a director or officer of another corporation
in which the Corporation owned shares of stock or of which it is a creditor or,
in the case of a non-stock corporation, to which the Corporation contributes
and, in all of such cases, his executors and administrators. The right of
indemnification provided is not exclusive of any other rights to which any
Director or Officer may be entitled by Virginia law, or otherwise.
55
<PAGE>
ITEM 13. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA
INDEPENDENT AUDITOR'S REPORT
To the Shareholders and Directors of
Fauquier Bankshares, Inc. and Subsidiaries
Warrenton, Virginia
We have audited the accompanying consolidated balance sheets of Fauquier
Bankshares, Inc. and Subsidiaries as of December 31, 1998 and 1997, and the
related consolidated statements of income, changes in shareholders' equity and
cash flows for the years ended December 31, 1998, 1997 and 1996. These financial
statements are the responsibility of the Corporation's management. Our
responsibility is to express an opinion on these 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 Fauquier
Bankshares, Inc. and Subsidiaries as of December 31, 1998 and 1997, and the
results of their operations and their cash flows for the years ended December
31, 1998, 1997 and 1996, in conformity with generally accepted accounting
principles.
/s/ Yount, Hyde & Barbour, P.C.
Winchester, Virginia
January 27, 1999
F-1
<PAGE>
FAUQUIER BANKSHARES, INC. AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
December 31, 1998 and 1997
<TABLE>
<CAPTION>
DECEMBER 31,
------------
ASSETS 1998 1997
------ ---- ----
<S> <C> <C>
Cash and due from banks $ 9 868 240 $ 10 715 490
Interest-bearing deposits in other banks 3 680 430 26 639
Federal funds sold 13 182 000 9 470 000
Securities (fair value: 1998, $22,865,960;
1997, $27,961,270) 22 790 801 27 945 650
Loans, net 162 272 291 128 153 154
Bank premises and equipment, net 5 879 737 6 155 862
Accrued interest receivable 1 084 500 915 724
Other real estate 56 944 199 085
Other assets 1 211 432 860 470
----------------- ----------------
Total assets $ 220 026 375 $ 184 442 074
================= ================
LIABILITIES AND SHAREHOLDERS' EQUITY
LIABILITIES
Deposits:
Noninterest-bearing demand deposits $ 34 438 128 $ 29 188 395
Savings and interest-bearing demand deposits 102 176 226 93 628 599
Time deposits 42 602 788 39 052 110
----------------- ---------------
Total deposits $ 179 217 142 $ 161 869 104
Federal Home Loan Bank advances 18 000 000 - -
Dividends payable 238 910 191 301
Other liabilities 1 393 487 1 403 771
Commitments and contingent liabilities - - - -
----------------- ---------------
Total liabilities $ 198 849 539 $ 163 464 176
================= ================
SHAREHOLDERS' EQUITY
Common stock, par value, 1998, $3.13; 1997, $6.25; authorized 1998, 8,000,000
shares; 1997, 4,000,000 shares; issued and
outstanding 1998, 1,837,770 shares; 1997, 956,504 shares $ 5 752 220 $ 5 978 150
Capital surplus - - 1 207 680
Retained earnings 15 432 062 13 887 212
Accumulated other comprehensive income (loss) (7 446) (95 144)
------------------ ----------------
Total shareholders' equity $ 21 176 836 $ 20 977 898
================= ================
Total liabilities and shareholders' equity $ 220 026 375 $ 184 442 074
================= ================
</TABLE>
See Notes to Consolidated Financial Statements.
F-2
<PAGE>
FAUQUIER BANKSHARES, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF INCOME
For Each of the Three Years in the Period Ended December 31, 1998
<TABLE>
<CAPTION>
YEARS ENDED DECEMBER 31,
-----------------------------------------------------------
1998 1997 1996
--------------- -------------- -------------
<S> <C> <C> <C>
INTEREST INCOME
Interest and fees on loans $ 12 580 317 $ 11 152 802 $ 9 795 568
Interest on investment securities:
Taxable interest income 338 217 455 783 603 995
Interest income exempt from federal
income taxes 142 827 199 347 265 083
Interest and dividends on securities available
for sale:
Taxable interest income 1 037 353 1 362 679 1 663 606
Interest income exempt from federal
income taxes 70 493 49 774 16 542
Dividends 87 950 62 334 51 304
Interest on federal funds sold 492 677 155 531 150 769
Interest on deposits in other banks 88 862 9 960 - -
--------------- -------------- -------------
Total interest income $ 14 838 696 $ 13 448 210 $ 12 546 867
--------------- -------------- -------------
INTEREST EXPENSE
Interest on deposits $ 5 178 122 $ 4 495 621 $ 4 693 457
Interest on Federal Home Loan Bank advances 340 579 238 065 - -
Interest on federal funds purchased 160 17 474 5 285
--------------- -------------- -------------
Total interest expense $ 5 518 861 $ 4 751 160 $ 4 698 742
--------------- -------------- -------------
Net interest income $ 9 319 835 $ 8 697 050 $ 7 848 125
Provision for loan losses 534 675 465 000 578 000
--------------- -------------- -------------
Net interest income after
provision for loan losses $ 8 785 160 $ 8 232 050 $ 7 270 125
--------------- -------------- -------------
OTHER INCOME
Trust Department income $ 555 659 $ 522 190 $ 500 279
Service charges on deposit accounts 1 046 625 1 065 328 1 049 890
Other service charges, commissions
and fees 779 431 701 658 647 141
Gains on securities available for sale 16 673 10 142 78 036
Other operating income 5 829 54 361 9 540
--------------- -------------- -------------
Total other income $ 2 404 217 $ 2 353 679 $ 2 284 886
--------------- -------------- -------------
</TABLE>
See Notes to Consolidated Financial Statements.
F-3
<PAGE>
FAUQUIER BANKSHARES, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF INCOME
(Continued)
For Each of the Three Years in the Period Ended December 31, 1998
<TABLE>
<CAPTION>
YEARS ENDED DECEMBER 31,
-----------------------------------------------------------
1998 1997 1996
--------------- -------------- -------------
<S> <C> <C> <C>
OTHER EXPENSES
Salaries and employees' benefits $ 3 396 531 $ 3 274 362 $ 3 066 858
Net occupancy expense of premises 336 768 387 107 377 932
Furniture and equipment 792 402 883 089 823 610
Other operating expenses 3 183 078 2 809 098 2 696 659
--------------- -------------- -------------
Total other expenses $ 7 708 779 $ 7 353 656 $ 6 965 059
--------------- -------------- -------------
Income before income taxes $ 3 480 598 $ 3 232 073 $ 2 589 952
Income tax expense 1 039 053 981 510 748 387
--------------- -------------- -------------
Net income $ 2 441 545 $ 2 250 563 $ 1 841 565
=============== ============== =============
EARNINGS PER SHARE, basic $ 1.31 $ 1.18 $ 0.96
=============== ============== =============
EARNINGS PER SHARE, assuming dilution $ 1.30 $ 1.17 $ 0.96
=============== ============== =============
</TABLE>
See Notes to Consolidated Financial Statements.
F-4
<PAGE>
FAUQUIER BANKSHARES, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
For Each of the Three Years in the Period Ended December 31, 1998
<TABLE>
<CAPTION>
YEARS ENDED DECEMBER 31,
-----------------------------------------------------------
1998 1997 1996
---------------- -------------- -------------
<S> <C> <C> <C>
CASH FLOWS FROM OPERATING ACTIVITIES
Net income $ 2 441 545 $ 2 250 563 $ 1 841 565
Adjustments to reconcile net income to net cash provided
by operating activities:
Depreciation 773 863 824 725 762 744
Provision for loan losses 534 675 465 000 578 000
Provision for other real estate 30 000 40 000 25 000
Deferred tax (benefit) (40 964) (81 861) (114 660)
Net (gain) on sale of premises and equipment - - (2 861) (2 796)
Disposal of fixtures and equipment - - - - 27 994
(Gain) on securities available for sale (16 673) (10 142) (78 036)
(Gain) on other real estate (1 127) (11 954) (44 738)
(Gain) on sale of fixed assets (8 590) - - - -
Net premium amortization on investment
securities 29 272 62 537 44 388
Changes in assets and liabilities:
(Increase) decrease in other assets (537 700) (178 567) 204 110
Increase (decrease) in other liabilities (10 284) 339 447 144 421
---------------- -------------- -------------
Net cash provided by operating activities $ 3 194 017 $ 3 696 887 $ 3 387 992
---------------- -------------- -------------
CASH FLOWS FROM INVESTING ACTIVITIES
Proceeds from sale of securities available
for sale $ 2 734 130 $ 9 918 783 $ 4 992 100
Proceeds from maturities, calls and principal
payments of investment securities 3 424 859 3 450 904 1 613 581
Proceeds from maturities, calls and principal
payments of securities available for sale 14 562 054 8 175 688 9 252 765
Purchase of investment securities (499 250) (25 000) - -
Purchase of securities available for sale (14 932 919) (7 623 455) (8 437 615)
Proceeds from sale of premises and equipment 8 590 2 861 6 199
Proceeds from sale of other real estate owned 121 368 249 991 620 345
Purchase of premises and equipment (497 738) (1 281 972) (354 948)
Capitalized improvements to other real estate - - - - (6 900)
Net (increase) in loans (34 661 912) (14 337 988) (15 838 095)
---------------- --------------- --------------
Net cash (used in) investing activities $ (29 740 818) $ (1 470 188) $ (8 152 568)
---------------- -------------- -------------
</TABLE>
See Notes to Consolidated Financial Statements.
F-5
<PAGE>
FAUQUIER BANKSHARES, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
(Continued)
For Each of the Three Years in the Period Ended December 31, 1998
<TABLE>
<CAPTION>
YEARS ENDED DECEMBER 31,
-----------------------------------------------------------
1998 1997 1996
---------------- -------------- -------------
<S> <C> <C> <C>
CASH FLOWS FROM FINANCING ACTIVITIES
Net increase in demand deposits, NOW accounts
and savings accounts $ 13 797 360 $ 6 590 565 $ 4 828 215
Net increase (decrease) in certificates of deposit 3 550 678 2 340 206 (173 254)
Net increase in other borrowed funds 18 000 000 - - - -
Cash dividends paid (784 188) (620 539) (468 605)
Issuance of common stock - - - - 13 430
Acquisition of common stock (1 498 508) - - - -
---------------- -------------- -------------
Net cash provided by financing activities $ 33 065 342 $ 8 310 232 $ 4 199 786
---------------- -------------- -------------
Increase (decrease) in cash and cash equivalents $ 6 518 541 $ 10 536 931 $ (564 790)
CASH AND CASH EQUIVALENTS
Beginning 20 212 129 9 675 198 10 239 988
--------------- -------------- -------------
Ending $ 26 730 670 $ 20 212 129 $ 9 675 198
=============== ============== =============
SUPPLEMENTAL DISCLOSURES OF CASH FLOW
INFORMATION
Cash payments for:
Interest $ 5 432 911 $ 4 739 123 $ 4 718 362
=============== ============== =============
Income taxes $ 1 287 248 $ 1 021 000 $ 845 100
=============== ============== =============
SUPPLEMENTAL DISCLOSURES OF NONCASH
INVESTING ACTIVITIES
Other real estate acquired in settlement
of loans $ 17 267 $ - - $ 292 579
=============== ============== =============
Unrealized gain (loss) on securities
available for sale, net $ 146 625 $ 190 270 $ (13 192)
=============== ============== =============
</TABLE>
See Notes to Consolidated Financial Statements.
F-6
<PAGE>
FAUQUIER BANKSHARES, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CHANGES IN SHAREHOLDERS' EQUITY
For Each of the Three Years in the Period Ended December 31, 1998
<TABLE>
<CAPTION>
COMMON CAPITAL RETAINED
STOCK SURPLUS EARNINGS
------------- ------------ --------------
<S> <C> <C> <C>
BALANCE, DECEMBER 31, 1995 $ 5 973 900 $ 1 198 500 $ 10 960 829
Comprehensive income:
Net income - - - - 1 841 565
Other comprehensive income (loss) net of tax:
Unrealized holding gains on securities available
for sale, net of deferred income taxes of $22,047 - - - - - -
Less reclassification adjustment, net of income taxes
of $26,532 - - - - - -
Other comprehensive income (loss), net of tax - - - - - -
Total comprehensive income - - - - - -
Cash dividends ($0.26 per share) - - - - (497 382)
Issuance of 680 shares of common stock 4 250 9 180 - -
------------- ------------ --------------
BALANCE, DECEMBER 31, 1996 $ 5 978 150 $ 1 207 680 $ 12 305 012
Comprehensive income:
Net income - - - - 2 250 563
Other comprehensive income (loss) net of tax:
Unrealized holding gains on securities available
for sale, net of deferred income taxes of $68,139 - - - - - -
Less reclassification adjustment, net of income taxes
of $3,448 - - - - - -
Other comprehensive income, net of tax - - - - - -
Total comprehensive income - - - - - -
Cash dividends ($0.35 per share) - - - - (668 363)
------------- ------------ ---------------
BALANCE, DECEMBER 31, 1997 $ 5 978 150 $ 1 207 680 $ 13 887 212
Comprehensive income:
Net income - - - - 2 441 545
Other comprehensive income (loss) net of tax:
Unrealized holding gains on securities available
for sale, net of deferred income taxes of $50,847 - - - - - -
Less reclassification adjustment, net of income taxes
of $5,669 - - - - - -
Other comprehensive income, net of tax - - - - - -
Total comprehensive income - - - - - -
Cash dividends ($0.45 per share) - - - - (831 797)
Change in par value from $6.25 to $3.13 per share 9 264 (9 264) - -
Acquisition of 75,238 shares of common stock (235 194) (1 198 416) (64 898)
-------------- ------------- ---------------
BALANCE, DECEMBER 31, 1998 $ 5 752 220 $ - - $ 15 432 062
============= ============ ==============
</TABLE>
See Notes to Consolidated Financial Statements.
F-7
<PAGE>
<TABLE>
<CAPTION>
ACCUMULATED
OTHER
COMPREHENSIVE COMPREHENSIVE
INCOME (LOSS) INCOME TOTAL
------------- ------------- -----
<S> <C> <C> <C>
BALANCE, DECEMBER 31, 1995 $ (212 016) $ 17 921 213
Comprehensive income:
Net income - - $ 1 841 565 1 841 565
Other comprehensive income (loss) net of tax:
Unrealized holding gains on securities available
for sale, net of deferred income taxes of $22,047 - - 42 797 - -
Less reclassification adjustment, net of income taxes
of $26,532 - - (51 504) - -
Other comprehensive income (loss), net of tax --------------
Total comprehensive income (8 707) $ (8 707) (8 707)
Cash dividends ($0.26 per share) --------------
Issuance of 680 shares of common stock - - $ 1 832 858 - -
=============
BALANCE, DECEMBER 31, 1996 - - (497 382)
Comprehensive income: - - 13 430
Net income --------------- ----------------
Other comprehensive income (loss) net of tax: $ (220 723) $ 19 270 119
Unrealized holding gains on securities available
for sale, net of deferred income taxes of $68,139 - - $ 2 250 563 2 250 563
Less reclassification adjustment, net of income taxes
of $3,448
Other comprehensive income, net of tax - - 132 273 - -
Total comprehensive income
Cash dividends ($0.35 per share) - - (6 694) - -
--------------
BALANCE, DECEMBER 31, 1997 125 579 $ 125 579 125 579
Comprehensive income: -------------
Net income - - $ 2 376 142 - -
Other comprehensive income (loss) net of tax: =============
Unrealized holding gains on securities available - - (668 363)
for sale, net of deferred income taxes of $50,847 --------------- ----------------
Less reclassification adjustment, net of income taxes $ (95 144) $ 20 977 898
of $5,669
Other comprehensive income, net of tax - - $ 2 441 545 2 441 545
Total comprehensive income
Cash dividends ($0.45 per share)
Change in par value from $6.25 to $3.13 per share - - 98 702 - -
Acquisition of 75,238 shares of common stock
- - (11 004) - -
BALANCE, DECEMBER 31, 1998 --------------
87 698 $ 87 698 87 698
-------------
- - $ 2 529 243 - -
=============
- - (831 797)
- - - -
- - (1 498 508)
--------------- ----------------
$ (7 446) $ 21 176 836
================ ===============
</TABLE>
F-8
<PAGE>
FAUQUIER BANKSHARES, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
Years Ended December 31, 1998, 1997 and 1996
NOTE 1. NATURE OF BANKING ACTIVITIES AND SIGNIFICANT ACCOUNTING POLICIES
Fauquier Bankshares, Inc. and Subsidiaries (the Corporation) grant
commercial, financial, agricultural, residential and consumer loans to
customers in Virginia. The loan portfolio is well diversified and
generally is collateralized by assets of the customers. The loans are
expected to be repaid from cash flows or proceeds from the sale of
selected assets of the borrowers.
The accounting and reporting policies of the Corporation conform to
generally accepted accounting principles and to the reporting
guidelines prescribed by regulatory authorities. The following is a
description of the more significant of those policies and practices.
PRINCIPLES OF CONSOLIDATION
The consolidated financial statements include the accounts of
Fauquier Bankshares, Inc. and its wholly-owned subsidiaries, The
Fauquier Bank and Fauquier Bank Services, Inc. In consolidation,
significant intercompany accounts and transactions have been
eliminated.
SECURITIES
Securities are classified in three categories and accounted for
as follows:
a. Securities Held to Maturity
Securities classified as held to maturity are those debt
securities the Corporation has both the intent and ability
to hold to maturity regardless of changes in market
conditions, liquidity needs or changes in general economic
conditions. These securities are carried at cost adjusted
for amortization of premium and accretion of discount,
computed by the interest method over their contractual
lives.
b. Securities Available for Sale
Securities classified as available for sale are those debt
and equity securities that the Corporation intends to hold
for an indefinite period of time, but not necessarily to
maturity. Any decision to sell a security classified as
available for sale would be based on various factors,
including significant movements in interest rates, changes
in the maturity mix of the Corporation's assets and
liabilities, liquidity needs, regulatory capital
considerations, and other similar factors. Securities
available for sale are carried at fair value. Unrealized
gains or losses are reported as a separate component of
other comprehensive income, net of the related deferred tax
effect. Realized gains or losses, determined on the basis of
the cost of specific securities sold, are included in
earnings.
F-9
<PAGE>
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
c. Trading Securities
Trading securities, which are generally held for the short
term in anticipation of market gains, are carried at fair
value. Realized and unrealized gains and losses on trading
account assets are included in interest income on trading
account securities. The Corporation had no trading
securities at December 31, 1998 and 1997.
LOANS
Loans are shown on the balance sheets net of unearned discounts
and the allowance for loan losses.
Interest is computed by methods which result in level rates of
return on principal. Loans are charged off when in the opinion of
management they are deemed to be uncollectible after taking into
consideration such factors as the current financial condition of
the customer and the underlying collateral and guarantees.
Impairment of loans that have been separately identified for
evaluation is to be measured based on the present value of
expected future cash flows or, alternatively, the observable
market price of the loans or the fair value of the collateral.
However, for those loans that are collateral dependent (that is,
if repayment of those loans is expected to be provided solely by
the underlying collateral) and for which management has
determined foreclosure is probable, the measure of impairment of
those loans is to be based on the fair value of the collateral.
The Corporation considers all consumer installment loans and
residential mortgage loans to be homogeneous loans. These loans
are not subject to the above impairment provisions. A loan is
considered impaired when it is probable that the Corporation will
be unable to collect all principal and interest amounts according
to the contractual terms of the loan agreement. Factors involved
in determining impairment include, but are not limited to,
expected future cash flows, financial condition of the borrower,
and the current economic conditions. A performing loan may be
considered impaired, if the factors above indicate a need for
impairment. A loan on nonaccrual status may not be impaired if in
the process of collection or there is an insignificant shortfall
in payment. An insignificant delay of less than 30 days or a
shortfall of less than 5% of the required principal and interest
payment generally does not indicate an impairment situation, if
in management's judgment the loan will be paid in full. Loans
that meet the regulatory definitions of doubtful or loss
generally qualify as an impaired loan. Charge-offs for impaired
loans occur when the loan or portion of the loan is determined to
be uncollectible, as is the case for all loans.
F-10
<PAGE>
Loans are placed on nonaccrual when a loan is specifically determined to be
impaired or when principal or interest is delinquent for 90 days or more, unless
such loans are well secured and in the process of collection. Any unpaid
interest previously accrued on those loans is reversed from income. Interest
income generally is not recognized on specific impaired loans unless the
likelihood of further loss is remote. Interest payments received on such loans
are applied as a reduction of the loan principal balance. Interest income on
other nonaccrual loans is recognized only to the extent of interest payments
received.
ALLOWANCE FOR LOAN LOSSES
The allowance for loan losses is maintained at a level which, in
management's judgment, is adequate to absorb credit losses
inherent in the loan portfolio. The amount of the allowance is
based on management's evaluation of the collectibility of the
loan portfolio, credit concentrations, trends in historical loss
experience, specific impaired loans, and economic conditions.
Allowances for impaired loans are generally determined based on
collateral values or the present value of estimated cash flows.
The allowance is increased by a provision for loan losses, which
is charged to expense and reduced by charge-offs, net of
recoveries. Changes in the allowances relating to impaired loans
are charged or credited to the provision for loan losses. Because
of uncertainties inherent in the estimation process, management's
estimate of credit losses inherent in the loan portfolio and the
related allowance may change in the near term.
BANK PREMISES AND EQUIPMENT
Premises and equipment are stated at cost less accumulated
depreciation and amortization. Premises and equipment are
depreciated over their estimated useful lives; leasehold
improvements are amortized over the lives of the respective
leases or the estimated useful life of the leasehold improvement,
whichever is less. Depreciation and amortization are recorded on
the accelerated and straight-line methods.
Costs of maintenance and repairs are charged to expense as
incurred. Costs of replacing structural parts of major units are
considered individually and are expensed or capitalized as the
facts dictate.
INCOME TAXES
Deferred taxes are provided on a liability method whereby
deferred tax assets are recognized for deductible temporary
differences, operating loss carryforwards and tax credit
carryforwards. Deferred tax liabilities are recognized for
taxable temporary differences. Temporary differences are
differences between the reported amounts of assets and
liabilities and their tax bases. Deferred tax assets are reduced
by a valuation allowance when, in the opinion of management, it
is more likely than not that some portion or all of the deferred
tax assets will not be realized. Deferred tax assets and
liabilities are adjusted for the effects of changes in tax laws
and rates on the date of enactment.
F-11
<PAGE>
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
DEFINED BENEFIT PLAN
In 1998, the Corporation adopted Statement of Financial
Accounting Standards No. 132, "Employers' Disclosures about
Pensions and Other Postretirement Benefits." This pronouncement
does not change the measurement or recognition of amounts
recognized in the Corporation's financial statements applicable
to its defined benefit plan. Statement No. 132 revises the
existing disclosure requirements by standardizing the disclosure
requirements for pensions requiring certain additional
information on changes in the benefit obligations and fair values
of plan assets, and eliminating certain disclosures.
EARNINGS PER SHARE
In 1997, the Financial Accounting Standards Board issued
Statement No. 128, "Earnings per Share." Statement 128 replaced
the calculation of primary and fully diluted earnings per share
with basic and diluted earnings per share. Basic earnings per
share excludes any dilutive effects of options, warrants and
convertible securities. Diluted earnings per share is very
similar to the previously reported fully diluted earnings per
share.
NONREFUNDABLE LOAN FEES AND COSTS
Loan origination and commitment fees and certain direct loan
origination costs are being deferred and the net amount amortized
as an adjustment of the related loan's yield.
INVESTMENTS AND TRUST SERVICES
Securities and other property held by the Investments and Trust
Services Division in a fiduciary or agency capacity are not
assets of the Corporation and are not included in the
accompanying consolidated financial statements.
CASH AND CASH EQUIVALENTS
Cash and cash equivalents include cash on hand, amounts due from
banks and federal funds sold. Generally, federal funds are
purchased and sold for one-day periods.
OTHER REAL ESTATE
Real estate acquired by foreclosure is carried at the lower of
cost or fair market value less estimated costs of disposal.
USE OF ESTIMATES
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 at the date of the financial statements and the
reported amounts of revenues and expenses during the reporting
period. Actual results could differ from those estimates.
F-12
<PAGE>
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
ADVERTISING
The Corporation follows the policy of charging the costs of
advertising to expense as incurred. Advertising expense of
$169,475, $104,125 and $187,878 were incurred in 1998, 1997 and
1996, respectively.
COMPREHENSIVE INCOME
As of January 1, 1998, the Corporation adopted Statement of
Financial Accounting Standards No. 130, "Reporting Comprehensive
Income." Statement No. 130 establishes new rules for the
reporting and display of comprehensive income and its components;
however, the adoption of this Statement had no impact on the
Corporation's net income or shareholders' equity. Statement No.
130 requires other comprehensive income to include unrealized
gains and losses on investments in securities classified as
available for sale in accordance with Statement No. 115, which
prior to adoption were reported separately in shareholders'
equity. The December 31, 1997 and December 31, 1996 financial
statements have been reclassified to conform to the requirements
of Statement No. 130.
NOTE 2. SECURITIES
Amortized costs and fair values of securities being held to
maturity as of December 31, 1998 and 1997, are as follows:
<TABLE>
<CAPTION>
GROSS GROSS
AMORTIZED UNREALIZED UNREALIZED FAIR
COST GAINS (LOSSES) VALUE
--------- ---------- ---------- ----
1998
---------------------------------------------------------------------
<S> <C> <C> <C> <C>
U.S. Treasury securities
and obligations of U.S.
government corporations
and agencies $ 4 229 829 $ 25 582 $ (1 844) $ 4 253 567
Obligations of states and
political subdivisions 2 738 025 51 421 - - 2 789 446
----------------- ---------------- -------------- ----------------
$ 6 967 854 $ 77 003 $ (1 844) $ 7 043 013
================= ================ =============== ================
</TABLE>
F-13
<PAGE>
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
<TABLE>
<CAPTION>
GROSS GROSS
AMORTIZED UNREALIZED UNREALIZED FAIR
COST GAINS (LOSSES) VALUE
--------- ---------- ---------- ----
1997
--------------------------------------------------------------------------
<S> <C> <C> <C> <C>
U.S. Treasury securities
and obligations of U.S.
government corporations
and agencies $ 6 665 399 $ 17 628 $ (20 088) $ 6 662 939
Obligations of states and
political subdivisions 3 240 764 19 472 (1 392) 3 258 844
----------------- ---------------- --------------- ----------------
$ 9 906 163 $ 37 100 $ (21 480) $ 9 921 783
================= ================ =============== ================
</TABLE>
The amortized cost and fair value of securities being held to
maturity as of December 31, 1998, by contractual maturity, are
shown below. Expected maturities may differ from contractual
maturities because issuers may have the right to call or prepay
obligations without penalties.
<TABLE>
<CAPTION>
AMORTIZED FAIR
COST VALUE
---------------- ----------------
<S> <C> <C>
Due in one year or less $ 1 977 397 $ 1 976 667
Due after one year through five years 4 990 457 5 066 346
---------------- ----------------
$ 6 967 854 $ 7 043 013
================ ================
</TABLE>
Amortized costs and fair values of securities available for sale
as of December 31, 1998 and 1997 are as follows:
<TABLE>
<CAPTION>
GROSS GROSS
AMORTIZED UNREALIZED UNREALIZED FAIR
COST GAINS (LOSSES) VALUE
--------- ---------- ---------- ----
1998
------------------------------------------------------------------------
<S> <C> <C> <C> <C>
U.S. Treasury securities
and obligations of U.S.
government corporations
and agencies $ 12 621 891 $ 76 979 $ (16 387) $ 12 682 483
Obligations of states and
political subdivisions 684 580 3 832 - - 688 412
Mutual funds 937 809 - - (61 957) 875 852
Restricted investment -
Federal Home Loan
Bank stock 966 700 - - - - 966 700
Equity securities 609 500 - - - - 609 500
----------------- ---------------- -------------- ----------------
$ 15 820 480 $ 80 811 $ (78 344) $ 15 822 947
================= ================ =============== ================
</TABLE>
F-14
<PAGE>
<TABLE>
<CAPTION>
GROSS GROSS
AMORTIZED UNREALIZED UNREALIZED FAIR
COST GAINS (LOSSES) VALUE
--------- ---------- ---------- ----
1997
-------------------------------------------------------------------------
<S> <C> <C> <C> <C>
U.S. Treasury securities
and obligations of U.S.
government corporations
and agencies $ 14 764 914 $ 95 928 $ (138 087) $ 14 722 755
Obligations of states and
political subdivisions 685 582 3 464 - - 689 046
Mutual funds 1 144 449 - - (105 463) 1 038 986
Restricted investment -
Federal Home Loan
Bank stock 966 700 - - - - 966 700
Equity securities 622 000 - - - - 622 000
----------------- ---------------- -------------- ----------------
$ 18 183 645 $ 99 392 $ (243 550) $ 18 039 487
================= ================ =============== ================
</TABLE>
The amortized cost and fair value of securities available for
sale as of December 31, 1998, by contractual maturity, are shown
below. Expected maturities may differ from contractual maturities
because issuers may have the right to call or prepay obligations
without penalties.
<TABLE>
<CAPTION>
AMORTIZED FAIR
COST VALUE
---------------- ----------------
<S> <C> <C>
Due in one year or less $ 795 919 $ 803 417
Due after one year through five years 7 192 255 7 221 724
Due after five years through ten years 3 938 843 3 950 208
Due after ten years 1 379 454 1 395 546
Mutual funds 937 809 875 852
Equity securities 1 576 200 1 576 200
---------------- ----------------
$ 15 820 480 $ 15 822 947
================ ================
</TABLE>
There were no sales of securities being held to maturity during
1998, 1997 and 1996.
Proceeds from sales of securities available for sale during 1998,
1997 and 1996 were $2,734,130, $9,918,783 and $4,992,100. Gross
realized gains of $54,249, $46,967 and $80,183 and gross realized
losses of $37,576, $36,825 and $2,147 were recognized on those
sales.
The carrying value of securities pledged to secure deposits and
for other purposes amounted to $4,312,134 and $5,649,941 at
December 31, 1998 and 1997, respectively.
F-15
<PAGE>
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE 3. LOANS
Major classifications of loans are as follows:
<TABLE>
<CAPTION>
DECEMBER 31,
-----------------------------------
1998 1997
---------------- ----------------
(Thousands)
<S> <C> <C>
Real estate loans:
Construction and land development $ 8 297 $ 6 998
Secured by farmland 1 163 1 449
Secured by 1-4 family residential 53 430 42 120
Other real estate loans 49 814 34 513
Commercial and industrial loans (except
those secured by real estate) 16 933 15 844
Loans to individuals for personal expenditures 30 284 24 417
All other loans 4 620 5 176
---------------- ----------------
Total loans $ 164 541 $ 130 517
Less: Unearned income 416 709
Allowance for loan losses 1 853 1 655
---------------- ----------------
Net loans $ 162 272 $ 128 153
================ ================
</TABLE>
NOTE 4. ALLOWANCE FOR LOAN LOSSES
Changes in the allowance for loan losses are as follows:
<TABLE>
<CAPTION>
YEARS ENDED DECEMBER 31,
-------------------------------------------------
1998 1997 1996
------------- ------------ -------------
<S> <C> <C> <C>
Balance at beginning of year $ 1 654 917 $ 1 465 390 $ 1 181 494
Provision charged to operating expense 534 675 465 000 578 000
Recoveries added to the allowance 35 032 87 501 99 462
Loan losses charged to the allowance (371 474) (362 974) (393 566)
-------------- ------------- --------------
Balance at end of year $ 1 853 150 $ 1 654 917 $ 1 465 390
============= ============ =============
</TABLE>
F-16
<PAGE>
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
Information about impaired loans as of and for the years ended
December 31, 1998, 1997 and 1996 is as follows:
<TABLE>
<CAPTION>
1998 1997 1996
--------------- -------------- ---------------
<S> <C> <C> <C>
Impaired loans for which an allowance
has been provided $ 539 752 $ 550 820 $ 731 310
Impaired loans for which no allowance
has been provided - - - - - -
--------------- -------------- ---------------
Total impaired loans $ 539 752 $ 550 820 $ 731 310
=============== ============== ===============
Allowance provided for impaired loans,
included in the allowance for loan losses $ 100 000 $ 100 000 $ 245 000
=============== ============== ===============
Average balance in impaired loans $ 545 286 $ 644 283 $ 217 765
=============== ============== ===============
Interest income recognized $ 15 853 $ 46 497 $ 35 238
=============== ============== ===============
</TABLE>
There were no nonaccrual loans excluded from impaired loan disclosure
under FASB 114 at December 31, 1997. Nonaccrual loans excluded from
impaired loan disclosure under FASB 114 amounted to $126,704 and
$1,943 at December 31, 1998 and 1996, respectively. If interest on
these loans had been accrued, such income would have approximated
$6,064 and $40 for 1998 and 1996, respectively.
NOTE 5. RELATED PARTY TRANSACTIONS
The Corporation has had, and may be expected to have in the future,
banking transactions in the ordinary course of business with executive
officers, directors, their immediate families and affiliated companies
in which they are principal stockholders. Such loans were made on
substantially the same terms as those prevailing for comparable
transactions with similar risk. At December 31, 1998 and 1997, these
loans (excluding loans which total less than $60,000) totaled
$4,396,078 and $3,939,322, respectively. During 1998, total principal
additions were $1,592,296 and total principal payments were
$1,135,540.
F-17
<PAGE>
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE 6. BANK PREMISES AND EQUIPMENT, NET
Premises and equipment are summarized as follows:
<TABLE>
<CAPTION>
DECEMBER 31,
----------------------------------
1998 1997
---------------- ----------------
<S> <C> <C>
Land $ 864 667 $ 864 667
Buildings and improvements 5 737 359 5 558 993
Furniture and equipment 5 343 567 5 024 195
---------------- ----------------
$ 11 945 593 $ 11 447 855
Less accumulated depreciation and amortization 6 065 856 5 291 993
---------------- ----------------
$ 5 879 737 $ 6 155 862
================ ================
</TABLE>
Depreciation and amortization of bank premises and equipment included
in operating expenses for the years ended December 31, 1998, 1997 and
1996, was $773,863, $824,725 and $762,744, respectively.
NOTE 7. DEPOSITS
The aggregate amount of jumbo time deposits, each with a minimum
denomination of $100,000 was approximately $10,756,134 and $7,638,671
in 1998 and 1997, respectively.
At December 31, 1998, the scheduled maturities of time deposits are as
follows:
1999 $ 30 293 263
2000 10 162 160
2001 2 033 347
2002 114 018
--------------
$ 42 602 788
==============
NOTE 8. EMPLOYEE BENEFIT PLANS
The Corporation has a pension plan for its employees. Benefits are
generally based upon years of service and the employees' compensation.
The Corporation funds pension costs in accordance with the funding
provisions of the Employee Retirement Income Security Act. Information
about the plan follows.
F-18
<PAGE>
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
The following tables provide a reconciliation of the changes in the
plan's benefit obligations and fair value of assets over the two-year
period ending December 31, 1998 and 1997, computed as of October 1,
1998 and 1997, respectively:
<TABLE>
<CAPTION>
1998 1997
------------ ------------
<S> <C> <C>
CHANGE IN BENEFIT OBLIGATION
Benefit obligation, beginning $ 2 768 023 $ 2 193 845
Service cost 191 082 140 968
Interest cost 205 697 162 425
Actuarial (gain) loss (26 214) 335 902
Benefits paid (52 292) (65 117)
------------- -------------
Benefit obligation, ending $ 3 086 296 $ 2 768 023
============ ============
CHANGE IN PLAN ASSETS
Fair value of plan assets, beginning $ 3 111 184 $ 2 523 098
Actual return on plan assets (65 365) 653 203
Employer contributions 161 099 - -
Benefits paid (52 292) (65 117)
------------- -------------
Fair value of plan assets, ending $ 3 154 626 $ 3 111 184
============ ============
Funded status $ 68 330 $ 343 161
Unrecognized net actuarial gain (298 972) (631 080)
Unrecognized net obligation at transition (246 719) (265 698)
Unrecognized prior service cost 100 967 108 733
------------ ------------
Accrued benefit cost included in other liabilities $ (376 394) $ (444 884)
============= =============
</TABLE>
The following table provides the components of net periodic benefit
cost for the plan for the years ended December 31, 1998, 1997 and
1996:
<TABLE>
<CAPTION>
1998 1997 1996
------------ ------------ ------------
<S> <C> <C> <C>
COMPONENTS OF NET PERIODIC
BENEFIT COST
Service cost $ 191 082 $ 140 968 $ 142 239
Interest cost 205 697 162 425 163 511
Expected return on plan assets (277 721) (224 543) (225 402)
Amortization of prior service cost 7 766 7 766 7 766
Amortization of net obligation
at transition (18 979) (18 979) (18 979)
Recognized net actuarial gain (15 236) (14 301) (10 704)
------------- ------------- -------------
Net periodic benefit cost $ 92 609 $ 53 336 $ 58 431
============ ============ ============
</TABLE>
The assumptions used in the measurement of the Corporation's benefit
obligation are shown in the following table:
<TABLE>
<CAPTION>
1998 1997 1996
------------ ------------ ------------
<S> <C> <C> <C>
WEIGHTED-AVERAGE ASSUMPTIONS
AS OF DECEMBER 31
Discount rate 7.5% 7.5% 7.5%
Expected return on plan assets 9.0% 9.0% 9.0%
Rate of compensation increase 5.0% 5.0% 6.0%
</TABLE>
The Corporation has a defined contribution retirement plan under Code
Section 401(k) of the
F-19
<PAGE>
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
Internal Revenue Service covering employees who have completed 6
months of service and who are at least 21 years of age. Under the plan
a participant may contribute an amount up to 15% of their covered
compensation for the year, subject to certain limitations. The
Corporation may also make, but is not required to make, a
discretionary matching contribution. The amount of this matching
contribution, if any, is determined on an annual basis by the Board of
Directors. The Corporation made contributions to the plan for the
years ended December 31, 1998, 1997 and 1996 of $61,566, $62,868 and
$43,468, respectively.
NOTE 9. COMMITMENTS AND CONTINGENT LIABILITIES
As members of the Federal Reserve System, the Corporation's subsidiary
bank is required to maintain certain average reserve balances. For the
final weekly reporting period in the years ended December 31, 1998 and
1997, the aggregate amounts of daily average required balances were
approximately $1,573,000 and $2,132,000, respectively.
The Corporation has conducted a comprehensive review of its computer
systems to identify the systems that could be affected by the Year
2000 Issue, and has developed remediation plans to resolve the Issue.
The Issue is whether computer systems will properly recognize
date-sensitive information when the year changes to 2000. Systems that
do not properly recognize such information could generate erroneous
data or cause a system to fail. The Corporation is heavily dependent
on computer processing in the conduct of its business activities.
Failure of these systems could have a significant impact on the
Corporation's operations.
In the normal course of business, there are outstanding various
commitments and contingent liabilities, such as guarantees,
commitments to extend credit, etc., which are not reflected in the
accompanying financial statements. The Corporation does not anticipate
losses as a result of these transactions.
See Note 16 with respect to financial instruments with
off-balance-sheet risk.
F-20
<PAGE>
NOTE 10. INCOME TAXES
Net deferred tax assets consist of the following components as of
December 31, 1998 and 1997:
<TABLE>
<CAPTION>
1998 1997
--------------- ---------------
<S> <C> <C>
Deferred tax assets:
Allowance for loan losses $ 454 105 $ 368 107
Unearned fee income - - 28 653
Accrued pension obligation 127 480 151 315
Interest on nonaccrual loans 10 130 1 610
Allowance on other real estate owned 29 667 16 350
Securities available for sale 3 836 49 014
Other - - 21 851
--------------- ---------------
$ 625 218 $ 636 900
--------------- ---------------
Deferred tax liabilities:
Accumulated discount accretion $ 1 125 $ 1 568
Accumulated depreciation 276 584 283 609
--------------- ---------------
$ 277 709 $ 285 177
--------------- ---------------
$ 347 509 $ 351 723
=============== ===============
</TABLE>
The provision for income taxes charged to operations for the years
ended December 31, 1998, 1997 and 1996 consists of the following:
<TABLE>
<CAPTION>
1998 1997 1996
------------ ------------- ---------------
<S> <C> <C> <C>
Current tax expense $ 1 080 017 $ 1 063 371 $ 863 047
Deferred tax (benefit) (40 964) (81 861) (114 660)
------------- -------------- --------------
$ 1 039 053 $ 981 510 $ 748 387
============ ============= =============
</TABLE>
The income tax provision differs from the amount of income tax
determined by applying the U.S. federal income tax rate to pretax
income for the years ended December 31, 1998, 1997 and 1996 due to the
following:
<TABLE>
<CAPTION>
1998 1997 1996
------------ ------------- -------------
<S> <C> <C> <C>
Computed "expected" tax expense $ 1 183 403 $ 1 098 905 $ 880 584
Increase (decrease) in income taxes
resulting from:
Tax exempt interest income (109 185) (134 591) (107 488)
Other (35 165) 17 196 (24 709)
------------- ------------- --------------
$ 1 039 053 $ 981 510 $ 748 387
============ ============= =============
</TABLE>
F-21
<PAGE>
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE 11. EARNINGS PER SHARE
The following table shows the weighted average number of shares used
in computing earnings per share and the effect on weighted average
number of shares of diluted potential common stock. Weighted average
number of shares for all years reported have been restated giving
effect to stock splits. Earnings per share amounts for prior periods
have been restated to give effect to the application of Statement 128
which was adopted by the Corporation in 1997.
<TABLE>
<CAPTION>
1998 1997 1996
----------------------------------------
PER SHARE PER SHARE PER SHARE
SHARES AMOUNT SHARES AMOUNT SHARES AMOUNT
------ ------ ------ ------ ------ ------
<S> <C> <C> <C> <C> <C> <C>
Basic earnings per share 1 857 282 $ 1.31 1 913 008 $ 1.18 1 912 328 $ 0.96
============ ============ ============
Effect of dilutive securities,
stock options 18 359 8 065 4 185
------------ ------------ ------------
Diluted earnings per share 1 875 641 $ 1.30 1 921 073 $ 1.17 1 916 513 $ 0.96
============ ============ ============ ============ ============ ============
</TABLE>
NOTE 12. STOCK-BASED COMPENSATION PLAN
In 1998, the Corporation adopted an incentive stock option plan under
which options may be granted to certain key employees for purchase of
the Corporation's stock. The effective date of the plan was April 21,
1998 with a ten-year term. The plan reserves for issuance 200,000
shares of the Corporation's common stock. The stock option plan
requires that options be granted at an exercise price equal to at
least 100% of the fair market value of the common stock on the date of
the grant; however, for those individuals who own more than 10% of the
stock of the Corporation, the option price must be at least 110% of
the fair market value on the date of grant. Such options are generally
not exercisable until three years from the date of issuance and
generally require continuous employment during the period prior to
exercise. The options will expire in no more than ten years after the
date of grant.
Grants under the above plan are accounted for following APB Opinion
No. 25 and related interpretations. Accordingly, no compensation cost
has been recognized for grants under the plan. Had compensation cost
for the stock-based compensation plan been determined based on the
grant date fair value of awards (the method described in FASB No.
123), reported net income would have been reduced to the pro forma
amounts shown below; however, there would have been no change in basic
and diluted earnings per share:
1998
----
Net income:
As reported $ 2 441 545
Pro forma $ 2 433 767
F-22
<PAGE>
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
The fair value of each grant is estimated at the grant date using the
Black-Scholes option-pricing model with the following weighted average
assumptions for grants in 1998: price volatility of 15.65%, risk-free
interest rate of 4.5%, dividend rate of .58% and expected life of 7
years.
The status of the option plan during 1998 is as follows:
1998
---------------
WEIGHTED
AVERAGE
NUMBER EXERCISE
OF SHARES PRICE
--------------- --------------
Outstanding at January 1 - - $ - -
Granted 17 977 21.00
--------------- --------------
Outstanding at December 31 17 977 $ 21.00
=============== ==============
Exercisable at end of year - -
Weighted-average fair value
per option of options granted
during the year $ 5.90
NOTE 13. DIRECTOR COMPENSATION PLANS
The Corporation maintains a Nonemployee Director Stock Option Plan.
Under this plan each director who is not an employee of the
Corporation or its subsidiary will receive an option grant covering
1,120 shares of Corporation common stock on April 1 of each year
during the five-year term of the plan. The first grant under the plan
was made on May 1, 1995. The exercise price of awards are fixed at the
fair market value of the shares on the date the option is granted.
During the term of the plan, a total of 61,600 shares of common stock
may be granted. The options granted under the Plan are not exercisable
for six months from the date of grant except in the case of death or
disability. Options that are not exercisable at the time a director's
services on the Board terminates for reason other than death,
disability or retirement in accordance with the Corporation's policy
will be forfeited.
The status of the Option Plan during 1998, 1997 and 1996 is as
follows:
<TABLE>
<CAPTION>
1998 1997 1996
------------------------------------
WEIGHTED WEIGHTED WEIGHTED
NUMBER AVERAGE NUMBER AVERAGE NUMBER AVERAGE
OF EXERCISE OF EXERCISE OF EXERCISE
SHARES PRICE SHARES PRICE SHARES PRICE
------ ------- ------ ------- ------ -------
<S> <C> <C> <C> <C> <C> <C>
Outstanding at
January 1 38 080 $ 10.57 24 640 $ 9.52 11 200 $ 8.75
Granted 11 200 20.00 13 440 12.50 13 440 10.13
---------- ---------- -----------
Outstanding at
December 31 49 280 $ 12.71 38 080 $ 10.57 24 640 $ 9.52
========== ========== ===========
</TABLE>
F-23
<PAGE>
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
The status of the options outstanding as of December 31, 1998 is as
follows:
WEIGHTED
AVERAGE REMAINING
EXERCISE CONTRACTUAL
PRICE NUMBER LIFE
-------- ------ -----------
$ 8.75 11 200 6.33 years
10.13 13 440 7.25 years
12.50 13 440 8.25 years
20.00 11 200 9.25 years
-------
$ 14.92 49 280
All options have been restated giving retroactive effect to the stock
split in 1998.
The Corporation also maintains a Director Deferred Compensation Plan
(the "Deferred Compensation Plan"). This plan provides that any
non-employee director of the Corporation or the Bank may elect to
defer receipt of all or any portion of his or her compensation as a
director. A participating director may elect to have amounts deferred
under the Deferred Compensation Plan held in a deferred cash account
which is credited on a quarterly basis with interest equal to the
highest rate offered by the Bank at the end of the preceding quarter.
Alternatively, a participant may elect to have a deferred stock
account in which deferred amounts are treated as if invested in the
Corporation's common stock at the fair market value on the date of
deferral. The value of a stock account will increase and decrease
based upon the fair market value of an equivalent number of shares of
common stock. In addition, the deferred amounts deemed invested in
common stock will be credited with dividends on an equivalent number
of shares. Amounts considered invested in the Corporation's common
stock are paid, at the election of the director, either in cash or in
whole shares of the common stock and cash in lieu of fractional
shares. Directors may elect to receive amounts contributed to their
respective accounts in one or up to five installments.
NOTE 14. FEDERAL HOME LOAN BANK ADVANCES
The Corporation has obtained a $31,000,000 line of credit from Federal
Home Loan Bank of Atlanta (FHLB). The interest rate and term of each
advance from the line is dependent upon the type of advance and
commitment. Advances on the line are secured by all of the
Corporation's first lien loans on one-to-four unit single family
dwellings. As of December 31, 1998, the book value of these loans
totalled approximately $50,535,000. The amount of the available credit
is limited to seventy-five percent of qualifying collateral. Any
borrowings in excess of the qualifying collateral requires pledging of
additional assets. As of December 31, 1998, the Corporation had the
following advances outstanding which have stated maturities in 2008:
INTEREST OUTSTANDING
ADVANCE DATE RATE TERM PRINCIPAL
------------ -------- ---- ---------
June 19, 1998 4.97% 10 years $ 5 000 000
June 23, 1998 5.51% 10 years 3 000 000
September 16, 1998 5.51% 10 years 5 000 000
October 1, 1998 4.89% 10 years 5 000 000
----------------
$ 18 000 000
================
F-24
<PAGE>
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
The advance dated June 19, 1998 has an imbedded call option that gives
the FHLB the option to call after 1 year and quarterly thereafter. The
remaining three advances also have imbedded call options that give the
FHLB the option to call only on the five-year anniversary date.
NOTE 15. DIVIDEND LIMITATIONS ON AFFILIATE BANK
Transfers of funds from the banking subsidiary to the parent
corporation in the form of loans, advances and cash dividends are
restricted by federal and state regulatory authorities. As of December
31, 1998, the aggregate amount of unrestricted funds which could be
transferred from the banking subsidiary to the parent corporation,
without prior regulatory approval, totalled $3,136,385.
NOTE 16. FINANCIAL INSTRUMENTS WITH OFF-BALANCE-SHEET RISK
The Corporation is party to financial instruments with
off-balance-sheet risk in the normal course of business to meet the
financing needs of its customers and to reduce its own exposure to
fluctuations in interest rates. These financial instruments include
commitments to extend credit and standby letters of credit. Those
instruments involve, to varying degrees, elements of credit and
interest rate risk in excess of the amount recognized in the balance
sheet. The contract or notional amounts of those instruments reflect
the extent of involvement the Corporation has in particular classes of
financial instruments.
The Corporation's exposure to credit loss in the event of
nonperformance by the other party to the financial instrument for
commitments to extend credit and standby letters of credit is
represented by the contractual amount of those instruments. The
Corporation uses the same credit policies in making commitments and
conditional obligations as it does for on-balance-sheet instruments.
A summary of the contract or notional amount of the Corporation's
exposure to off-balance-sheet risk as of December 31, 1998 and 1997,
is as follows:
<TABLE>
<CAPTION>
1998 1997
--------------- ---------------
<S> <C> <C>
Financial instruments whose contract amounts represent
credit risk:
Commitments to extend credit $ 29 747 714 $ 19 528 640
Standby letters of credit $ 4 568 044 $ 3 186 013
</TABLE>
F-25
<PAGE>
Commitments to extend credit are agreements to lend to a customer as
long as there is no violation of any condition established in the
contract. Commitments generally have fixed expiration dates or other
termination clauses and may require payment of a fee. Since many of
the commitments are expected to expire without being drawn upon, the
total commitment amounts do not necessarily represent future cash
requirements. The Corporation evaluates each customer's credit
worthiness on a case-by-case basis. The amount of collateral obtained,
if deemed necessary by the Corporation upon extension of credit, is
based on management's credit evaluation of the counterparty.
Collateral held varies but may include accounts receivable, inventory,
property and equipment, and income-producing commercial properties.
Standby letters of credit are conditional commitments issued by the
Corporation to guarantee the performance of a customer to a third
party. Those guarantees are primarily issued to support public and
private borrowing arrangements, including commercial paper, bond
financing, and similar transactions. The credit risk involved in
issuing letters of credit is essentially the same as that involved in
extending loan facilities to customers. The Corporation holds
marketable securities, land and bank deposits as collateral supporting
those commitments for which collateral is deemed necessary.
NOTE 17. DISCLOSURES ABOUT FAIR VALUE OF FINANCIAL INSTRUMENTS
The following methods and assumptions were used to estimate the fair
value of each class of financial instruments for which it is
practicable to estimate that value:
CASH, SHORT-TERM INVESTMENTS AND FEDERAL FUNDS SOLD
For those short-term instruments, the carrying amount is a
reasonable estimate of fair value.
SECURITIES
For securities and marketable equity securities held for
investment purposes, fair values are based on quoted market
prices or dealer quotes. For other securities held as
investments, fair value equals quoted market price, if available.
If a quoted market price is not available, fair value is
estimated using quoted market prices for similar securities.
LOAN RECEIVABLES
For certain homogeneous categories of loans, such as some
residential mortgages, credit card receivables, and other
consumer loans, fair value is estimated using the quoted market
prices for securities backed by similar loans, adjusted for
differences in loan characteristics. The fair value of other
types of loans is estimated by discounting the future cash flows
using the current rates at which similar loans would be made to
borrowers with similar credit ratings and for the same remaining
maturities.
F-26
<PAGE>
DEPOSIT LIABILITIES AND BORROWINGS
The fair value of demand deposits, savings accounts, and certain
money market deposits is the amount payable on demand at the
reporting date. For all other deposits and borrowings, the fair
value is determined using the discounted cash flow method. The
discount rate is equal to the rate currently offered on similar
products.
OFF-BALANCE SHEET FINANCIAL INSTRUMENTS
The fair value of commitments to extend credit is estimated using
the fees currently charged to enter similar agreements, taking
into account the remaining terms of the agreements and the
present credit worthiness of the counterparties. For fixed-rate
loan commitments, fair value also considers the difference
between current levels of interest rates and the committed rates.
The fair value of stand-by letters of credit is based on fees
currently charged for similar agreements or on the estimated cost
to terminate them or otherwise settle the obligations with the
counterparties at the reporting date.
At December 31, 1998 and 1997, the difference between the
carrying amounts and fair values of loan commitments and stand-by
letters of credit were immaterial.
The estimated fair values of the Corporation's financial
instruments are as follows:
<TABLE>
<CAPTION>
1998 1997
---------------- --------------
CARRYING FAIR CARRYING FAIR
AMOUNT VALUE AMOUNT VALUE
-------- ---- -------- ----
(Thousands) (Thousands)
<S> <C> <C> <C> <C>
Financial assets:
Cash and short-
term investments $ 13 549 $ 13 549 $ 10 742 $ 10 742
Federal funds sold 13 182 13 182 9 470 9 470
Securities 22 791 22 866 27 946 27 961
Loans 162 272 162 487 128 153 128 218
--------------- -------------- --------------- ---------------
Total financial
assets $ 211 794 $ 212 084 $ 176 311 $ 176 391
=============== ============== =============== ===============
Financial liabilities:
Deposits $ 179 217 $ 171 157 $ 161 869 $ 154 870
FHLB advances 18 000 18 309 - - - -
--------------- -------------- --------------- ---------------
Total financial
liabilities $ 197 217 $ 189 466 $ 161 869 $ 154 870
=============== ============== =============== ===============
</TABLE>
F-27
<PAGE>
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE 18. OTHER OPERATING EXPENSES
The principal components of "Other operating expenses" in the
Consolidated Statements of Income are:
<TABLE>
<CAPTION>
1998 1997 1996
-------------- --------------- ---------------
<S> <C> <C> <C>
Advertising $ 169 475 $ 104 125 $ 187 878
Bank card 312 622 304 118 312 550
Consulting 197 200 221 460 213 791
Data processing 489 814 396 783 212 359
Postage 139 972 168 451 164 634
Supplies 109 760 88 462 122 535
Taxes, other than income 233 740 189 150 162 802
Telephone 176 292 161 429 148 545
Other 1 354 203 1 175 120 1 171 565
-------------- --------------- ---------------
$ 3 183 078 $ 2 809 098 $ 2 696 659
============== =============== ===============
</TABLE>
NOTE 19. CONCENTRATION RISK
The Corporation maintains its cash accounts in several correspondent
banks. The total amount by which cash on deposit in those banks
exceeds the federally insured limits is approximately $7,181,726 at
December 31, 1998.
NOTE 20. SHAREHOLDERS' EQUITY
On March 19, 1998, the Corporation adopted a resolution to effect a
2-for-1 stock split reducing the par value of its common stock from
$6.25 per share to $3.13 per share and increased the number of
authorized shares of common stock from 4,000,000 to 8,000,000. The per
share computations for the years ended December 31, 1997 and 1996 have
been retroactively adjusted for this split as if it occurred on
January 1, 1996.
NOTE 21. CAPITAL REQUIREMENTS
The Corporation is subject to various regulatory capital requirements
administered by the federal banking agencies. Failure to meet minimum
capital requirements can initiate certain mandatory possibly
additional discretionary - actions by regulators that, if undertaken,
could have a direct material effect on the Corporation's financial
statements. Under capital adequacy guidelines and the regulatory
framework for prompt corrective action, the Corporation must meet
specific capital guidelines that involve quantitative measures of the
Corporation's assets, liabilities, and certain off-balance-sheet items
as calculated under regulatory accounting practices. The Corporation's
capital amounts and classification are also subject to qualitative
judgments by the regulators about components, risk weightings, and
other factors.
F-28
<PAGE>
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
Quantitative measures established by regulation to ensure capital
adequacy require the Corporation to maintain minimum amounts and
ratios (set forth in the table below) of total and Tier 1 capital to
risk-weighted assets, and of Tier 1 capital to average assets.
Management believes, as of December 31, 1998, that the Corporation
meets all capital adequacy requirements to which it is subject.
As of December 31, 1998, the most recent notification from the Federal
Reserve Bank categorized the Corporation as well capitalized under the
regulatory framework for prompt corrective action. To be categorized
as well capitalized, the Corporation must maintain minimum total
risk-based, Tier 1 risk-based, and Tier 1 leverage ratios as set forth
in the table. There are no conditions or events since that
notification that management believes have changed the institution's
category.
F-29
<PAGE>
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
The Corporation's actual capital amounts and ratios are also presented
in the table.
<TABLE>
<CAPTION>
TO BE WELL
CAPITALIZED UNDER
FOR CAPITAL PROMPT CORRECTIVE
ACTUAL ADEQUACY PURPOSES ACTION PROVISIONS
------ ----------------- -----------------
AMOUNT RATIO AMOUNT RATIO AMOUNT RATIO
------ ----- ------ ----- ------ -----
(Amount in Thousands)
<S> <C> <C> <C> <C> <C> <C>
As of December 31, 1998:
Total Capital (to Risk
Weighted Assets):
Consolidated $ 22 975 14.3% $ 12 884 8.0% N/A
The Fauquier Bank $ 23 058 14.3% $ 12 884 8.0% $ 16 106 10.0%
Tier 1 Capital (to Risk
Weighted Assets):
Consolidated $ 21 122 13.1% $ 6 442 4.0% N/A
The Fauquier Bank $ 21 205 13.2% $ 6 442 4.0% $ 9 663 6.0%
Tier 1 Capital (to
Average Assets):
Consolidated $ 21 122 9.7% $ 8 676 4.0% N/A
The Fauquier Bank $ 21 205 9.8% $ 8 676 4.0% $ 10 845 5.0%
As of December 31, 1997:
Total Capital (to Risk
Weighted Assets):
Consolidated $ 22 604 17.7% $ 10 251 8.0% N/A
The Fauquier Bank $ 22 617 17.7% $ 10 251 8.0% $ 12 814 10.0%
Tier 1 Capital (to Risk
Weighted Assets):
Consolidated $ 21 003 16.4% $ 5 126 4.0% N/A
The Fauquier Bank $ 21 015 16.4% $ 5 126 4.0% $ 7 688 6.0%
Tier 1 Capital (to
Average Assets):
Consolidated $ 21 003 11.9% $ 7 065 4.0% N/A
The Fauquier Bank $ 21 015 11.9% $ 7 065 4.0% $ 8 831 5.0%
</TABLE>
F-30
<PAGE>
NOTE 22. RECENT ACCOUNTING PRONOUNCEMENTS
In June 1998, the Financial Accounting Standards Board issued
Statement No. 133, "Accounting for Derivative Instruments and Hedging
Activities," which is required to be adopted in years beginning after
June 15, 1999. The Statement permits early adoption as of the
beginning of any fiscal quarter after its issuance. The Corporation
has not determined whether to adopt the new statement early. The
Statement will require the Corporation to recognize all derivatives on
the balance sheet at fair value. Derivatives that are not hedges must
be adjusted to fair value through income. If the derivative is a
hedge, depending on the nature of the hedge, changes in the fair value
of derivatives will either be offset against the change in fair value
of the hedged assets, liabilities, or firm commitments through
earnings or recognized in other comprehensive income until the hedged
item is recognized in earnings. The ineffective portion of a
derivative's change in fair value will be immediately recognized in
earnings.
Because the Corporation does not use derivatives, management does not
anticipate that the adoption of the new Statement will have a
significant effect on the Bank's earnings or financial position.
In October 1998, the FASB issued Statement No. 134, "Accounting for
Mortgage-Backed Securities Retained after the Securitization of
Mortgage Loans Held for Sale by a Mortgage Banking Enterprise, an
amendment of FASB Statement No. 65." FASB No. 65, as amended, requires
that, after securitization of a mortgage loan held for sale, an entity
engaged in mortgage banking activities classify the resulting
mortgage-backed security as a trading security. This Statement further
amends Statement No. 65 to require that after the securitization of
mortgage loans held for sale, an entity engaged in mortgage banking
activities classify the resulting mortgage-backed securities or other
retained interests based on its ability and intent to sell or hold
those investments. This Statement conforms the subsequent accounting
for securities retained after the securitization of mortgage loans by
a mortgage banking enterprise with the subsequent accounting for
securities retained after the securitization of other types of assets
by a non-mortgage banking enterprise. This Statement is effective
beginning in 1999.
F-31
<PAGE>
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE 23. PARENT CORPORATION ONLY FINANCIAL STATEMENTS
FAUQUIER BANKSHARES, INC.
(PARENT CORPORATION ONLY)
BALANCE SHEETS
December 31, 1998 and 1997
<TABLE>
<CAPTION>
DECEMBER 31,
------------------------------------
ASSETS 1998 1997
--------------- --------------
<S> <C> <C>
Cash on deposit with subsidiary bank $ 29 555 $ 60 099
Investment in subsidiary; at cost,
plus equity in undistributed net income 21 259 492 20 990 180
Dividend receivable 238 910 191 301
Other assets 23 957 14 605
--------------- --------------
Total assets $ 21 551 914 $ 21 256 185
=============== ==============
LIABILITIES AND SHAREHOLDERS' EQUITY
LIABILITIES
Dividend payable $ 238 910 $ 191 301
Other liabilities 136 168 86 986
--------------- --------------
$ 375 078 $ 278 287
--------------- --------------
SHAREHOLDERS' EQUITY
Common stock $ 5 752 220 $ 5 978 150
Capital surplus - - 1 207 680
Retained earnings, which are substantially
undistributed earnings of subsidiary 15 432 062 13 887 212
Accumulated other comprehensive income (loss) (7 446) (95 144)
---------------- ---------------
$ 21 176 836 $ 20 977 898
--------------- --------------
Total liabilities and shareholders' equity $ 21 551 914 $ 21 256 185
=============== ==============
</TABLE>
F-32
<PAGE>
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
FAUQUIER BANKSHARES, INC.
(PARENT CORPORATION ONLY)
STATEMENTS OF INCOME
For Each of the Three Years in the Period Ended December 31, 1998
<TABLE>
<CAPTION>
YEARS ENDED DECEMBER 31,
--------------------------------------------------------
1998 1997 1996
---------------- --------------- -------------
<S> <C> <C> <C>
REVENUE, dividends from subsidiary $ 2 306 438 $ 668 365 $ 497 382
---------------- --------------- -------------
EXPENSES
Legal $ 51 104 $ - - $ 637
Directors' fees 4 047 12 872 18 004
Miscellaneous 15 313 4 644 6 839
---------------- --------------- -------------
Total expenses $ 70 464 $ 17 516 $ 25 480
---------------- --------------- -------------
Income before income taxes and equity
in undistributed net income of
subsidiary $ 2 235 974 $ 650 849 $ 471 902
Income tax (benefit) (23 958) (5 955) (8 650)
----------------- ---------------- --------------
Income before equity in undistributed
net income of subsidiary $ 2 259 932 $ 656 804 $ 480 552
Equity in undistributed net income of
subsidiary 181 613 1 593 759 1 361 013
---------------- --------------- -------------
Net income $ 2 441 545 $ 2 250 563 $ 1 841 565
================ =============== =============
</TABLE>
F-33
<PAGE>
FAUQUIER BANKSHARES, INC.
(PARENT CORPORATION ONLY)
STATEMENTS OF CASH FLOWS
For Each of the Three Years in the Period Ended December 31, 1998
<TABLE>
<CAPTION>
YEARS ENDED DECEMBER 31,
--------------------------------------------------------
1998 1997 1996
---------------- --------------- -------------
<S> <C> <C> <C>
CASH FLOWS FROM OPERATING ACTIVITIES
Net income $ 2 441 545 $ 2 250 563 $ 1 841 565
Adjustments to reconcile net income
to net cash provided by operating
activities:
Undistributed earnings of subsidiary (181 613) (1 593 759) (1 361 013)
Increase in undistributed dividends
receivable from subsidiary (47 609) (47 825) (28 777)
(Increase) in other assets (9 353) (5 955) (4 449)
Increase in other liabilities 49 182 39 860 44 726
Net cash provided by
operating activities $ 2 252 152 $ 642 884 $ 492 052
---------------- --------------- -------------
CASH FLOWS FROM FINANCING ACTIVITIES
Cash dividends paid $ (784 188) $ (620 539) $ (468 605)
Issuance of common stock - - - - 13 430
Acquisition of common stock (1 498 508) - - - -
----------------- --------------- -------------
Net cash (used in)
financing activities $ (2 282 696) $ (620 539) $ (455 175)
----------------- ---------------- --------------
Increase (decrease) in cash
and cash equivalents $ (30 544) $ 22 345 $ 36 877
CASH AND CASH EQUIVALENTS
Beginning 60 099 37 754 877
---------------- --------------- -------------
Ending $ 29 555 $ 60 099 $ 37 754
================ =============== =============
</TABLE>
F-34
<PAGE>
INDEX TO UNAUDITED FINANCIAL STATEMENTS
OF FAUQUIER BANKSHARES, INC. AND SUBSIDIARIES
CONTENTS
<TABLE>
<S> <C>
FINANCIAL STATEMENTS F-35
Consolidated Balance Sheet F-36
Consolidated Statements of Income F-37
Consolidated Statements of Cash Flows F-38
Consolidated Statements of Changes F-39
In Shareholders' Equity
Notes to Consolidated Financial Statements F-40
</TABLE>
F-35
<PAGE>
FAUQUIER BANKSHARES, INC. AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEET
(UNAUDITED)
MARCH 31, 1999
<TABLE>
<S> <C>
ASSETS
Cash and due from banks $ 16,765,621
Interest-bearing deposits in other banks 287,062
Federal funds sold 13,135,000
Securities (fair value: $22,097,769) 22,026,839
Loans, net 167,597,249
Bank premises and equipment, net 5,767,097
Accrued interest receivable 1,058,766
Other real estate 50,944
Other assets 1,281,372
--------------
Total assets $ 227,969,950
==============
LIABILITIES
Deposits:
Non-interest bearing demand deposits $ 30,736,301
Savings and interest-bearing demand deposits 108,726,360
Time deposits 47,860,301
--------------
Total deposits 187,322,962
Federal Home Loan advances 18,000,000
Dividends payable 237,007
Other liabilities 1,384,718
--------------
Total liabilities 206,944,687
--------------
SHAREHOLDERS' EQUITY
Common stock, par value, $3.13; authorized 8,000,000 shares;
issued and outstanding 1,823,129 shares 5,706,394
Capital surplus -
Retained earnings 15,386,028
Accumulated other comprehensive income (loss) (67,159)
--------------
Total shareholders' equity 21,025,263
--------------
Total liabilities and shareholders' equity $ 227,969,950
==============
</TABLE>
See Accompanying Notes to Financial Statements.
F-36
<PAGE>
FAUQUIER BANKSHARES, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF INCOME
(UNAUDITED)
FOR THE THREE MONTHS ENDED MARCH 31, 1999 AND 1998
<TABLE>
<CAPTION>
1999 1998
---- ----
INTEREST INCOME
<S> <C> <C>
Interest and fees on loans $ 3,490,600 $ 2,974,970
Interest on investment securities:
Taxable interest income 60,786 91,911
Interest income exempt from federal
income taxes 29,173 37,051
Interest and dividends on securities available
for sale:
Taxable interest income 207,797 240,314
Interest income exempt from federal
income taxes 11,747 12,092
Dividends 23,409 41,500
Interest on federal funds sold 169,451 156,017
Interest on deposits in other banks 23,822 -
------------ ------------
Total interest income 4,016,785 3,553,855
------------ ------------
INTEREST EXPENSE
Interest on deposits 1,330,542 1,271,453
Interest on Federal Home Loan Bank advances 237,127 -
------------ ------------
Total interest expense 1,567,669 1,271,453
------------ ------------
Net interest income 2,449,116 2,282,402
Provision for loan losses 235,000 135,000
------------ ------------
Net interest income after
provision for loan losses 2,214,116 2,147,402
------------ ------------
OTHER INCOME
Trust Department income 180,186 141,582
Service charges on deposit accounts 253,573 246,446
Other service charges, commissions
and fees 82,582 54,096
Other operating income - (7,299)
------------ ------------
Total other income 516,341 434,825
------------ ------------
OTHER EXPENSES
Salaries and employees' benefits 955,370 823,274
Net occupancy expense of premises 106,956 91,247
Furniture and equipment 211,075 207,172
Advertising 22,147 26,299
Bank card 63,557 80,581
Consulting 64,655 74,338
Data processing 150,748 137,930
Postage 42,374 42,392
Supplies 27,833 31,466
Taxes, other than income 52,104 42,220
Telephone 41,690 55,224
Other operating expenses 351,302 157,678
------------ ------------
Total other expenses 2,089,811 1,769,821
------------ ------------
Income before income taxes 640,646 812,406
Income tax expense 210,000 180,331
------------ ------------
Net income $ 430,646 $ 632,075
============ ============
EARNINGS PER SHARE, basic $ 0.24 $ 0.34
============ ============
EARNINGS PER SHARE, assuming dilution $ 0.23 $ 0.34
============ ============
</TABLE>
See Accompanying Notes to Financial Statements.
F-37
<PAGE>
FAUQUIER BANKSHARES, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
(UNAUDITED)
FOR THE THREE MONTHS ENDED MARCH 31, 1999 AND 1998
<TABLE>
<CAPTION>
------------ -------------
1999 1998
------------ -------------
CASH FLOWS FROM OPERATING ACTIVITIES
<S> <C> <C>
Net income $ 430,646 $ 632,075
Adjustments to reconcile net income to net
cash provided by operating activities:
Depreciation 187,535 198,532
Provision for loan losses 235,000 135,000
Provision for other real estate 6,000 -
Net premium amortization on investment
Securities 6,947 8,392
Changes in assets and liabilities:
(Increase) decrease in other assets (6,781) 130,276
(Decrease) in other liabilities (8,769) (82,155)
------------ -----------
Net cash provided by operating activities 850,578 1,022,120
------------ -----------
CASH FLOWS FROM INVESTING ACTIVITIES
Proceeds from maturities, calls and principal
payments of investment securities 389,124 757,184
Proceeds from maturities, calls and principal
payments of securities available for sale 1,026,280 2,431,618
Purchase of investment securities
Purchase of securities available for sale (755,528) (5,312,573)
Purchase of premises and equipment (74,895) (118,454)
Net (increase) in loans (5,559,958) (6,151,216)
------------ -----------
Net cash (used in) investing activities (4,974,977) (8,393,441)
------------ -----------
CASH FLOWS FROM FINANCING ACTIVITIES
Net increase in demand deposits, NOW accounts
and savings accounts 2,848,308 10,679,499
Net increase in certificates of deposit 5,257,513 315,972
Cash dividends paid (238,910) (191,301)
Acquisition of common stock (285,499) (1,179,959)
------------ -----------
Net cash provided by financing activities 7,581,412 9,624,211
------------ -----------
Increase in cash and cash equivalents 3,457,013 2,252,890
CASH AND CASH EQUIVALENTS
Beginning 26,730,670 20,212,129
------------ -----------
Ending $30,187,683 $ 22,465,019
============ ===========
SUPPLEMENTAL DISCLOSURES OF CASH FLOW INFORMATION
Cash payments for:
Interest $ 1,548,066 $ 1,244,065
============ ===========
Income taxes $ 90,000 $ 290,248
============ ===========
SUPPLEMENTAL DISCLOSURES OF NONCASH INVESTING ACTIVITIES
Other real estate acquired in settlement of loans $ - $ 180,000
============ ===========
Unrealized gain (loss) on securities available for sale, net $ (59,713) $ 30,819
============ ===========
</TABLE>
See Accompanying Notes to Financial Statements.
F-38
<PAGE>
FAUQUIER BANKSHARES, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CHANGES IN SHAREHOLDERS' EQUITY
(UNAUDITED)
FOR THE THREE MONTHS ENDED MARCH 31, 1999 AND 1998
<TABLE>
<CAPTION>
COMMON CAPITAL RETAINED
STOCK SURPLUS EARNINGS
-------------------------------------------------
<S> <C> <C> <C>
BALANCE, DECEMBER 31, 1997 $ 5,978,150 $ 1,207,680 $ 13,887,212
Comprehensive income:
Net income - 632,075
Other comprehensive income (loss) net of tax:
Unrealized holding gains on securities available
for sale, net of deferred income taxes of $15,876 - - -
Other comprehensive income (loss) net of tax - - -
Total comprehensive income - - -
Cash dividends - - (185,277)
Acquisition of 30,119 shares of common stock (188,244) (991,715) -
Change in par value from $6.25 to $3.13 per share 9,264 (9,264) -
----------------------------------------------------
BALANCE, MARCH 31, 1998 $ 5,799,170 $ 206,701 $ 14,334,010
====================================================
BALANCE, DECEMBER 31, 1998 $ 5,752,220 $ - $ 15,432,062
Comprehensive income:
Net income - - 430,646
Other comprehensive income (loss) net of tax:
Unrealized holding losses on securities available
for sale, net of deferred income taxes of ($30,761) - - -
Other comprehensive income (loss) net of tax - - -
Total comprehensive income - - -
Cash dividends - - (237,007)
Acquisition of 14,641 shares of common stock (45,826) - (239,673)
----------------------------------------------------
BALANCE, MARCH 31, 1999 $ 5,706,394 $ - $ 15,386,028
====================================================
</TABLE>
<TABLE>
<CAPTION>
ACCUMULATED
OTHER
COMPREHENSIVE COMPREHENSIVE
INCOME (LOSS) INCOME TOTAL
--------------------------------------------------------------
<S> <C> <C> <C>
BALANCE, DECEMBER 31, 1997 $ (95,144) $ 20,977,898
Comprehensive income:
Net income - $ 632,075 632,075
Other comprehensive income (loss) net of tax:
Unrealized holding gains on securities available
for sale, net of deferred income taxes of $15,876 - 30,819 -
-----------
Other comprehensive income (loss) net of tax 30,819 30,819 30,819
-----------
Total comprehensive income - $ 662,894 -
===========
Cash dividends - (185,277)
Acquisition of 30,119 shares of common stock - (1,179,959)
Change in par value from $6.25 to $3.13 per share - -
-------------- -------------
BALANCE, MARCH 31, 1998 $ (64,325) $ 20,275,556
============== =============
BALANCE, DECEMBER 31, 1998 $ (7,446) $ 21,176,836
Comprehensive income:
Net income - $ 430,646 430,646
Other comprehensive income (loss) net of tax:
Unrealized holding losses on securities available
for sale, net of deferred income taxes of ($30,761) - (59,713) -
-----------
Other comprehensive income (loss) net of tax (59,713) (59,713) (59,713)
-----------
Total comprehensive income - $ 370,933 -
===========
Cash dividends - (237,007)
Acquisition of 14,641 shares of common stock - (285,499)
-------------- -------------
BALANCE, MARCH 31, 1999 $ (67,159) $ 21,025,263
============== =============
</TABLE>
See Accompanying Notes to Financial Statements
F-39
<PAGE>
FAUQUIER BANKSHARES, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED)
NOTE 1. ACCOUNTING POLICIES
The unaudited financial statements as of and for the three months
ended March 31, 1999 and 1998 have not been audited but, in the
opinion of management, contain all adjustments (consisting of only
normal recurring adjustments) necessary to present fairly the
financial position and results of operations of the Corporation as
of such date and for such periods. The unaudited financial
statements should be read in conjunction with the annual financial
statements of the Corporation and the notes thereto. The results
of operations for the three months ended March 31, 1999 are not
necessarily indicative of the results of operations that may be
expected for the year ending December 31, 1999 or for any future
periods.
NOTE 2. EARNINGS PER SHARE
The following table shows the weighted average number of shares
used in computing earnings per share and the effect on weighted
average number of shares of diluted potential common stock.
Weighted average number of shares for all years reported have been
restated giving effect to stock splits.
<TABLE>
<CAPTION>
1999 1998
-------------------------- --------------------------
PER SHARE PER SHARE
SHARES AMOUNT SHARES AMOUNT
<S> <C> <C> <C> <C>
Basic earnings per share 1,829,588 $ 0.24 1,852,770 $ 0.34
============ ============
Effect of dilutive securities,
stock options 16,918 19,379
------------ -----------
Diluted earnings per share 1,846,506 $ 0.23 1,872,149 $ 0.34
============ ============ =========== ============
</TABLE>
F-40
<PAGE>
ITEM 14. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND
FINANCIAL DISCLOSURE
None.
56
<PAGE>
ITEM 15. FINANCIAL STATEMENTS AND EXHIBITS
C O N T E N T S
PAGE
INDEPENDENT AUDITOR'S REPORT ON THE
CONSOLIDATED FINANCIAL STATEMENTS F-1
FINANCIAL STATEMENTS
Consolidated balance sheets F-2
Consolidated statements of income F-3 and F-4
Consolidated statements of cash flows F-5 and F-6
Consolidated statements of changes
in shareholders' equity F-7 and F-8
Notes to consolidated financial statements F-9 - F-34
Unaudited financial statements at and for the three months
ended March 31, 1999 F-35 - F-40
DESCRIPTION OF EXHIBITS
Exhibit Number Description
- -------------- -----------
(3)(i) Articles of Incorporation of Fauquier Bankshares, Inc.
(including amendments)
(3)(ii) Bylaws of Fauquier Bankshares, Inc.
(10) Fauquier Bankshares, Inc.
Non-Employee Director Stock Option Plan
Fauquier Bankshares, Inc.
Director Deferred Compensation Plan
Fauquier Bankshares, Inc.
Omnibus Stock Ownership and Long Term Incentive Plan
Agreement with C. Hunton Tiffany
(11) Not applicable
(21) Subsidiaries of the Registrant
Financial Data Schedule
57
<PAGE>
SIGNATURES
In accordance with Section 12 of the Securities Exchange Act of 1934, the
registrant caused this registration statement to be signed on its behalf by the
undersigned, thereto duly authorized.
FAUQUIER BANKSHARES, INC
Date: July 12, 1999
-------------------------------
By: /s/ C. Hunton Tiffany
---------------------------------
C. Hunton Tiffany
President and Chief Executive
Officer
58
<PAGE>
INDEX TO EXHIBITS
(3) (i) Articles of Incorporation
(ii) Bylaws
(10) Material contracts
(11) Statement re: computation of per share earnings
(21) Subsidiaries of the registrant
Financial Data Schedule
59
