UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-Q
[ x ] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d)
OF THE SECURITIES EXCHANGE ACT OF 1934
For the quarterly period ended: June 30, 1998
OR
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d)
OF THE SECURITIES EXCHANGE ACT OF 1934
For the transition period from _____________ to ______________
Commission File Number: 0-10196
INDEPENDENT BANKSHARES, INC.
(Exact name of registrant as specified in its charter)
Texas 75-1717279
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification No.)
547 Chestnut Street
P. O. Box 3296
Abilene, Texas 79604
(Address of principal executive offices) (Zip Code)
(915) 677-5550
(Registrant's telephone number, including area code)
Indicate by check mark whether the registrant (1) has filed all
reports required to be filed by Section 13 or 15(d) of the
Securities Exchange Act of 1934 during the preceding 12 months (or
for such shorter period that the registrant was required to file
such reports) and (2) has been subject to such filing requirements
for the past 90 days.
YES X NO
------ ------
Indicate the number of shares outstanding of each of
the issuer's classes of common stock at June 30, 1998.
Class: Common Stock, par value $0.25 per share
Outstanding at June 30, 1998: 1,987,296 shares
<PAGE>
PART I
FINANCIAL INFORMATION
Item 1. Financial Statements.
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<PAGE>
INDEPENDENT BANKSHARES, INC.
CONSOLIDATED BALANCE SHEETS
JUNE 30, 1998 AND DECEMBER 31, 1997
(Unaudited)
<TABLE>
<CAPTION>
June 30, December 31,
ASSETS 1998 1997
- - - ------ ------------- -------------
<S> <C> <C>
Cash and Cash Equivalents:
Cash and Due from Banks $ 13,111,000 $ 14,518,000
Federal Funds Sold 29,200,000 24,900,000
------------- -------------
Total Cash and Cash Equivalents 42,311,000 39,418,000
------------- -------------
Securities:
Available-for-sale 26,332,000 22,501,000
Held-to-maturity 40,148,000 47,293,000
------------- -------------
Total Securities 66,480,000 69,794,000
Loans:
Total Loans 141,691,000 142,315,000
Less:
Unearned Income on Installment Loans 882,000 1,462,000
Allowance for Possible Loan Losses 1,121,000 1,173,000
------------- -------------
Net Loans 139,688,000 139,680,000
------------- -------------
Premises and Equipment 7,624,000 7,518,000
Goodwill 3,046,000 3,159,000
Accrued Interest Receivable 2,140,000 2,208,000
Other Real Estate and Other Repossessed Assets 253,000 739,000
Other Assets 1,959,000 2,058,000
------------- -------------
Total Assets $ 263,501,000 $ 264,574,000
============= =============
LIABILITIES AND STOCKHOLDERS' EQUITY
Liabilities:
Deposits:
Noninterest-bearing Demand Deposits $ 44,296,000 $ 43,868,000
Interest-bearing Demand Deposits 75,098,000 77,495,000
Interest-bearing Time Deposits 121,570,000 121,438,000
------------- -------------
Total Deposits 240,964,000 242,801,000
Accrued Interest Payable 868,000 947,000
Notes Payable 4,000 57,000
Other Liabilities 355,000 242,000
------------- -------------
Total Liabilities 242,191,000 244,047,000
------------- -------------
Stockholders' Equity:
Series C Preferred Stock 51,000 56,000
Common Stock 497,000 494,000
Additional Paid-in Capital 13,923,000 13,921,000
Retained Earnings 6,982,000 6,218,000
Unrealized Gain on Available-for-sale Securities 39,000 31,000
Unearned ESOP Shares (182,000) (193,000)
------------- -------------
Total Stockholders' Equity 21,310,000 20,527,000
------------- -------------
Total Liabilities and Stockholders' Equity $ 263,501,000 $ 264,574,000
============= =============
</TABLE>
See Accompanying Notes to Consolidated Financial Statements.
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<PAGE>
INDEPENDENT BANKSHARES, INC.
CONSOLIDATED STATEMENTS OF INCOME AND COMPREHENSIVE INCOME
QUARTERS AND SIX-MONTH PERIODS ENDED JUNE 30, 1998 AND 1997
(Unaudited)
<TABLE>
<CAPTION>
Six-month Period
Quarter Ended June 30, Ended June 30,
-------------------------- --------------------------
1998 1997 1998 1997
----------- ----------- ----------- -----------
<S> <C> <C> <C> <C>
Interest Income:
Interest and Fees on Loans $ 3,189,000 $ 3,102,000 $ 6,333,000 $ 5,833,000
Interest on Securities 955,000 1,389,000 1,973,000 2,699,000
Interest on Federal Funds Sold 505,000 187,000 918,000 442,000
----------- ----------- ----------- -----------
Total Interest Income 4,649,000 4,678,000 9,224,000 8,974,000
----------- ----------- ----------- -----------
Interest Expense:
Interest on Deposits 2,134,000 2,178,000 4,286,000 4,214,000
Interest on Notes Payable 0 15,000 1,000 35,000
----------- ----------- ----------- -----------
Total Interest Expense 2,134,000 2,193,000 4,287,000 4,249,000
----------- ----------- ----------- -----------
Net Interest Income 2,515,000 2,485,000 4,937,000 4,725,000
Provision for Loan Losses 125,000 60,000 300,000 60,000
----------- ----------- ----------- -----------
Net Interest Income After
Provision for Loan Losses 2,390,000 2,425,000 4,637,000 4,665,000
----------- ----------- ----------- -----------
Noninterest Income:
Service Charges 514,000 393,000 974,000 739,000
Trust Fees 57,000 48,000 104,000 94,000
Other Income 107,000 23,000 259,000 53,000
----------- ----------- ----------- -----------
Total Noninterest Income 678,000 464,000 1,337,000 886,000
----------- ----------- ----------- -----------
Noninterest Expenses:
Salaries and Employee Benefits 1,066,000 1,007,000 2,145,000 1,926,000
Net Occupancy Expense 239,000 216,000 468,000 411,000
Equipment Expense 188,000 213,000 402,000 415,000
Stationery, Printing and Supplies Expense 108,000 98,000 206,000 184,000
Professional Fees 78,000 92,000 141,000 182,000
Litigation Settlement Expense 125,000 0 125,000 0
Goodwill Amortization 57,000 57,000 113,000 101,000
Net Cost (Revenues) Applicable to Other
Real Estate and Other Repossessed Assets 21,000 (45,000) 47,000 (40,000)
Other Expenses 372,000 430,000 790,000 779,000
----------- ----------- ----------- -----------
Total Noninterest Expenses 2,254,000 2,068,000 4,437,000 3,958,000
----------- ----------- ----------- -----------
Income Before Federal Income Taxes 814,000 821,000 1,537,000 1,593,000
Federal Income Taxes 295,000 259,000 564,000 538,000
----------- ----------- ----------- -----------
Net Income 519,000 562,000 973,000 1,055,000
Other Comprehensive Income, Net of Tax:
Unrealized Holding Gains (Losses) on
Available-for-sale Securities Arising
During the Period (9,000) 63,000 8,000 (1,000)
----------- ----------- ----------- -----------
Comprehensive Income $ 510,000 $ 625,000 $ 981,000 $ 1,054,000
=========== =========== =========== ===========
Preferred Stock Dividends $ 6,000 $ 14,000 $ 12,000 $ 28,000
=========== =========== =========== ===========
Net Income Available to Common Stockholders $ 513,000 $ 548,000 $ 961,000 $ 1,027,000
=========== =========== =========== ===========
Basic Earnings per Common Share
Available to Common Stockholders $ 0.26 $ 0.30 $ 0.49 $ 0.59
=========== =========== =========== ===========
Diluted Earnings Per Common Share
Available to Common Stockholders $ 0.25 $ 0.27 $ 0.47 $ 0.52
=========== =========== =========== ===========
</TABLE>
See Accompanying Notes to Consolidated Financial Statements.
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<PAGE>
INDEPENDENT BANKSHARES, INC.
CONSOLIDATED STATEMENTS OF CASH FLOWS
SIX-MONTH PERIODS ENDED JUNE 30, 1998 AND 1997
(Unaudited)
<TABLE>
<CAPTION>
1998 1997
------------ ------------
<S> <C> <C>
Cash Flows from Operating Activities:
Net Income $ 973,000 $ 1,055,000
Adjustments to Reconcile Net Income to Net Cash Provided by Operating Activities:
Deferred Federal Income Tax Expense 232,000 239,000
Depreciation and Amortization 393,000 336,000
Provision for Loan Losses 300,000 60,000
Gains on Sales of Other Real Estate and Other Repossessed Assets (3,000) (64,000)
Writedown of Other Real Estate and Other Repossessed Assets 0 2,000
Decrease (Increase) in Accrued Interest Receivable 68,000 (100,000)
Decrease (Increase) in Other Assets (133,000) 528,000
Decrease in Accrued Interest Payable (79,000) (224,000)
Increase (Decrease) in Other Liabilities 113,000 (193,000)
------------ ------------
Net Cash Provided by Operating Activities 1,864,000 1,639,000
------------ ------------
Cash Flows from Investing Activities:
Proceeds from Maturities of Available-for-sale Securities 5,189,000 1,228,000
Proceeds from Maturities of Held-to-maturity Securities 19,866,000 9,919,000
Proceeds from Sale of Available-for-sale Securities 0 193,000
Purchases of Available-for-sale Securities (9,019,000) (6,037,000)
Purchases of Held-to-maturity Securities (12,768,000) (8,021,000)
Net Increase in Loans (763,000) (4,561,000)
Additions to Premises and Equipment (386,000) (174,000)
Proceeds from Sales of Other Real Estate and Other Repossessed Assets 1,010,000 643,000
Cash Paid for Purchase of Crown Park Bancshares, Inc., Lubbock, Texas, in Excess
of Cash and Cash Equivalents Held by Crown Park Bancshares on January 28, 1997
(Date of Acquisition) 0 (1,236,000)
------------ ------------
Net Cash Provided by (Used in) Investing Activities 3,129,000 (8,046,000)
------------ ------------
Cash Flows from Financing Activities:
Increase (Decrease) in Deposits (1,837,000) 889,000
Proceeds from Notes Payable 0 1,300,000
Repayment of Notes Payable (53,000) (2,805,000)
Net Proceeds from Issuance of Equity Securities 0 4,004,000
Payment of Cash Dividends (210,000) (196,000)
Payment for Fractional Shares in Stock Dividend 0 (5,000)
------------ ------------
Net Cash Provided by (Used in) Financing Activities (2,100,000) 3,187,000
------------ ------------
Net Increase (Decrease) in Cash and Cash Equivalents 2,893,000 (3,220,000)
Cash and Cash Equivalents at Beginning of Period 39,418,000 29,958,000
------------ ------------
Cash and Cash Equivalents at End of Period $ 42,311,000 $ 26,738,000
============ ============
Noncash Investing Activities:
Additions to Other Real Estate and Other Repossessed Assets Through Foreclosures $ 611,000 $ 571,000
Sales of Other Real Estate and Other Repossessed Assets Financed with Loans 83,000 81,000
Increase (Decrease) in Unrealized Gain/Loss on Available-for-sale Securities,
Net of Tax 8,000 (1,000)
</TABLE>
See Accompanying Notes to Consolidated Financial Statements.
-5-
<PAGE>
INDEPENDENT BANKSHARES, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(1) Summary of Significant Accounting Policies
For information with regard to significant accounting
policies, reference is made to Notes to Consolidated Financial
Statements included in the Annual Report on Form 10-K for the year
ended December 31, 1997, which was filed with the Securities and
Exchange Commission pursuant to Section 13 or 15(d) of the
Securities and Exchange Act of 1934, as amended.
The accompanying financial statements reflect all adjustments
necessary to present a fair statement of the results for the
interim periods presented, and all adjustments are of a normal
recurring nature.
(2) Recent Accounting Pronouncements
In June 1997, the Financial Accounting Standards Board
(the "FASB") issued Statement of Financial Accounting Standards
No. 130, "Reporting Comprehensive Income ("FAS 130"). FAS 130
establishes standards for reporting and display of comprehensive
income and its components (revenues, expenses, gains and losses)
in a full set of general purpose financial statements. FAS 130
requires that all items that are required to be recognized
under accounting standards as components of comprehensive
income be reported in a financial statement that is displayed
with the same prominence as other financial statements. The
Company adopted FAS 130 on January 1, 1998.
In June 1998, the FASB issued Statement of Financial
Accounting Standards No. 133, "Accounting for Derivative
Instruments and Hedging Activities" ("FAS 133"). FAS 133
establishes accounting and reporting standards for derivative
instruments, including certain derivative instruments embedded
in other contracts, and for hedging activities. It requires
that all derivatives be recognized as either assets or
liabilities in the statement of financial position and that
those instruments be measured at fair value. The Company
adopted FAS 133 beginning July 1, 1998.
(3) Acquisition of Subsidiary Bank
The Company completed the acquisition of Crown Park
Bancshares, Inc. ("Crown Park") and its wholly owned subsidiary
bank, Western National Bank, Lubbock, Texas ("Western National"),
effective January 28, 1997, for an aggregate cash consideration of
$7,510,000. On the acquisition date, Crown Park was merged with
and into a wholly owned subsidiary of the Company and Western
National was merged with and into the Company's subsidiary bank,
First State Bank, National Association, Abilene, Texas (the
"Bank"). To obtain funding for the acquisition, the Company sold
an aggregate of 395,312 shares of its common stock (the "Common
Stock") in an underwritten offering at a price of $11.40 per share
(the "Offering"). This included 51,562 shares covered by the
underwriter's over-allotment option. The above number of shares
and price per share have been adjusted for the 5-for-4 stock split,
effected in the form of a 25% stock dividend, paid to the Company's
shareholders in May 1997. The Company borrowed $800,000 from a
financial institution in Amarillo, Texas (the "Amarillo Bank") to
finance a portion of the cost of acquiring Crown Park. The $800,000
of borrowings was reduced to $400,000 with the proceeds of the sale
of the over-allotment shares. The borrowing was paid off on
December 31, 1997. At the date of acquisition, Crown Park had
total assets of $60,420,000, total loans, net of unearned income,
of $41,688,000, total deposits of $53,604,000 and stockholders'
equity of $4,238,000. This acquisition was accounted for using the
purchase method of accounting. A total of $2,486,000 of goodwill
was recorded as a result of this acquisition.
(4) Pending Acquisition
The Company has entered into a definitive agreement to acquire
Azle Bancorp ("Azle Bancorp") and its subsidiary bank, Azle State
Bank, Azle, Texas ("Azle State"), for $19,025,000 in cash. The
Company anticipates that it will raise the funds necessary to
consummate the acquisition through a combination of an underwritten
Common Stock offering, an underwritten offering of a new trust
preferred stock issue and borrowings. Details of such potential
stock issuances and borrowings are yet to be determined.
-6-
<PAGE>
At June 30, 1998, Azle State had total assets of $91,658,000,
total loans, net of unearned income, of $45,103,000, total deposits
of $80,826,000 and stockholders' equity of $9,998,000.
The acquisition has been approved by the various regulatory
authorities but is still subject to the approval of the
shareholders of Azle Bancorp and other conditions. If such approval
is received and the other conditions are satisfied, the transaction
will probably be consummated during the third or fourth quarter of
1998.
(5) Unearned ESOP Stock
The Company's Employee Stock Ownership/401(k) Plan (the
"Plan") purchased 18,750 shares, adjusted for the 5-for-4 stock
split, effected in the form of a 25% stock dividend, paid to
shareholders in May 1997, of Common Stock in the Offering in
January 1997 for $214,000. The funds used for the purchase were
borrowed from the Company. The note evidencing such borrowing is
due in eighty-four equal monthly installments of $4,000, including
interest, and matures on February 27, 2004. The note bears
interest at the Company's floating base rate plus 1% (9.50% at June
30, 1998). The note is collateralized by the stock purchased in
the Offering.
As a result of the lending arrangement between the Company and
the Plan, the shares are considered "unearned." The shares are
"earned" on a pro rata basis as principal payments are made on the
note. The shares are included in the Company's earnings per share
calculations only as they are earned. At June 30, 1998, a total of
15,923 shares with an original cost of $182,000 are considered to
be unearned.
(6) Earnings Per Share
Basic earnings per common share is computed by dividing net
income available to common shareholders by the weighted average
number of shares outstanding during the period. Because the
Company's outstanding Series C Cumulative Convertible Preferred
Stock (the "Series C Preferred Stock") is cumulative, the
dividends allocable to such preferred stock reduces income
available to common shareholders in the basic earnings per
share calculations. In computing diluted earnings per common
share for the quarters and six-month periods ended June 30,
1998 and 1997, the conversion of the Series C Preferred Stock
was assumed, as the effects are dilutive. The weighted average
common shares outstanding used in computing basic earnings per
common share for the quarters ended June 30, 1998 and 1997, was
1,968,000 and 1,854,000 shares, respectively. The weighted
average common shares outstanding used in computing basic
earnings per share for the six-month periods ended June 30,
1998 and 1997, was 1,964,000 and 1,742,000 shares, respectively.
The weighted average common shares outstanding used in
computing diluted earnings per common share for the quarters
ended June 30, 1998 and 1997, was 2,088,000 and 2,079,000
shares, respectively. The weighted average common shares
outstanding used in computing diluted earnings per common share
for the six-month periods ended June 30, 1998 and 1997, was
2,087,000 and 2,015,000 shares, respectively.
(7) Accumulated Other Comprehensive Income
An analysis of accumulated other comprehensive income for the
quarters and six-month periods ended June 30, 1998 and 1997, is as
follows:
<TABLE>
<CAPTION>
Unrealized Gains (Losses), Net of Tax
on Available-for-sale Securities
-----------------------------------------
Quarter Ended Six-month Period
June 30, Ended June 30,
--------------- -----------------
1998 1997 1998 1997
----- ----- ----- -----
(In thousands)
<S> <C> <C> <C> <C>
Balance, beginning of period $ 48 $ (39) $ 31 $ 25
Current period change (9) 63 8 (1)
----- ----- ----- -----
Balance, end of period $ 39 $ 24 $ 39 $ 24
===== ===== ===== =====
</TABLE>
-7-
<PAGE>
(8) Settlement of Potential Litigation
In November 1995, the Pension Benefit Guaranty Corporation
(the "PBGC") sent a letter to the Company regarding the Retirement
Plan for Employees of the Texas Bank and Trust Co., Sweetwater,
Texas (the "Plan"). In the letter, the PBGC alleged that the
Company was responsible for the Plan and asked that the Company
assume sponsorship of the Plan. The Company declined the PBGC's
request to assume responsibility for, and sponsorship of, the Plan.
If the Company had assumed responsibility for the Plan, the Company
would have owed as of June 30, 1995, according to PBGC
calculations, approximately $656,000 to the PBGC. In response, the
PBGC, in June 1996, terminated the Plan and became the Plan's
trustee, effective as of June 30, 1992.
Texas Bank and Trust Co., Sweetwater, Texas ("Texas Bank"),
became a repossessed asset of The First State Bank, Abilene, Texas
("FSB - Abilene"), a former subsidiary of the Company, through a
bank foreclosure that occurred in 1985. FSB - Abilene was placed
into receivership by the Federal Deposit Insurance Corporation (the
"FDIC") on February 17, 1989. Texas Bank was placed into
receivership by the FDIC on July 27, 1989.
The Company did not intend to assume any responsibility for
the Plan and had decided to vigorously contest any attempt by the
PBGC to have the Company assume responsibility with respect to any
aspect of the Plan. The statute of limitations for any action to be
taken by the PBGC against the Company regarding this matter was set
to expire on June 30, 1998. The PBGC indicated to the Company that
as of June 30, 1998, the Company's potential responsibility to the
Plan, according to PBGC calculations, was in excess of $1,000,000.
The Company and the PBGC entered into settlement negotiations, and
on June 30, 1998, the Company and the PBGC executed a tolling
agreement to extend the expiration of the statute of limitations
regarding this matter to July 20, 1998. A settlement agreement was
negotiated and consummated on July 20, 1998, and the Company paid
a total of $125,000 ($83,000, net of tax) to the PBGC to avoid
costs of litigation regarding this matter. This amount was accrued
into expense in the Company's Consolidated Financial Statements at
June 30, 1998.
-8-
<PAGE>
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL
CONDITION AND RESULTS OF OPERATIONS
THIS QUARTERLY REPORT ON FORM 10-Q CONTAINS CERTAIN FORWARD-
LOOKING STATEMENTS AND INFORMATION RELATING TO INDEPENDENT
BANKSHARES, INC. (THE "COMPANY") AND ITS SUBSIDIARIES THAT ARE
BASED ON THE BELIEFS OF THE COMPANY'S MANAGEMENT AS WELL AS
ASSUMPTIONS MADE BY AND INFORMATION CURRENTLY AVAILABLE TO THE
COMPANY'S MANAGEMENT. WHEN USED IN THIS REPORT, THE WORDS
"ANTICIPATE," "BELIEVE," "ESTIMATE," "EXPECT" AND "INTEND" AND
WORDS OR PHRASES OF SIMILAR IMPORT, AS THEY RELATE TO THE COMPANY
OR ITS SUBSIDIARIES OR COMPANY MANAGEMENT, ARE INTENDED TO IDENTIFY
FORWARD-LOOKING STATEMENTS. SUCH STATEMENTS REFLECT THE CURRENT
VIEW OF THE COMPANY WITH RESPECT TO FUTURE EVENTS AND ARE SUBJECT
TO CERTAIN RISKS, UNCERTAINTIES AND ASSUMPTIONS RELATED TO CERTAIN
FACTORS INCLUDING, WITHOUT LIMITATION, COMPETITIVE FACTORS, GENERAL
ECONOMIC CONDITIONS, CUSTOMER RELATIONS, THE INTEREST RATE
ENVIRONMENT, GOVERNMENTAL REGULATION AND SUPERVISION, NONPERFORMING
ASSET LEVELS, LOAN CONCENTRATIONS, CHANGES IN INDUSTRY PRACTICES,
ONE TIME EVENTS AND OTHER FACTORS DESCRIBED HEREIN. BASED UPON
CHANGING CONDITIONS, SHOULD ANY ONE OR MORE OF THESE RISKS OR
UNCERTAINTIES MATERIALIZE, OR SHOULD ANY UNDERLYING ASSUMPTIONS
PROVE INCORRECT, ACTUAL RESULTS MAY VARY MATERIALLY FROM THOSE
DESCRIBED HEREIN AS ANTICIPATED, BELIEVED, ESTIMATED, EXPECTED OR
INTENDED. THE COMPANY DOES NOT INTEND TO UPDATE THESE FORWARD-
LOOKING STATEMENTS.
The Company
- - - -----------
The Company is a bank holding company that, at June 30, 1998,
owned 100% of Independent Financial Corp. ("Independent Financial")
which, in turn, owned 100% of First State Bank, National
Association, Abilene, Texas (the "Bank"). The Bank currently
operates full-service banking locations in the West Texas cities of
Abilene (three locations), Lubbock, Odessa (four locations), San
Angelo, Stamford and Winters. The Bank acquired its two branches
in Stamford and Winters when two of the Company's former subsidiary
banks, The First National Bank in Stamford, Stamford, Texas ("First
National"), and The Winters State Bank, Winters, Texas ("Winters
State"), were merged into the Bank, effective November 1, 1994.
The Bank acquired Peoples National Bank, Winters, Texas
("Peoples National") effective January 1, 1996. The existing
location of Peoples National was subsequently closed, the land and
building were sold and Peoples National was merged with and into
the Bank's existing branch facility in Winters. Effective May 27,
1996, the Bank also acquired the San Angelo branch of Coastal Banc
ssb ("Coastal Banc - San Angelo"), which was merged with and into
and became a branch of the Bank.
As noted in "Note 3: Acquisition of Subsidiary Bank," the
Company acquired Crown Park Bancshares, Inc. ("Crown Park") and its
wholly owned subsidiary bank, Western National Bank, Lubbock, Texas
("Western National"), on January 28, 1997. Western National was
merged with and into and became a branch of the Bank.
Results of Operations
- - - ---------------------
GENERAL
The following discussion and analysis presents the more
significant factors affecting the Company's financial condition at
June 30, 1998, and December 31, 1997, and results of operations for
each of the quarters and six-month periods ended June 30, 1998 and
1997. This discussion and analysis should be read in conjunction
with the Consolidated Financial Statements, notes thereto and other
financial information appearing elsewhere in this quarterly report.
NET INCOME
Net income for the quarter ended June 30, 1998, amounted to
$519,000 ($0.26 basic and $0.25 diluted earnings per common share,
respectively) compared to net income of $562,000 ($0.30 basic and
$0.27 diluted earnings per common share, respectively) for the
quarter ended June 30, 1997. Net income for the six-month period
ended June 30, 1998, was $973,000 ($0.49 basic and $0.47 diluted
earnings per common share, respectively) compared to net income of
$1,055,000 ($0.59 basic and $0.52 diluted earnings per common
share, respectively) for the six-month period ended June 30, 1997.
The net income and earnings per share amounts for the quarter- and
six-month period
-9-
<PAGE>
ended June 30, 1998, were negatively impacted by
$125,000 ($83,000 net of tax), or $0.04 basic and diluted earnings
per share, as a result of the settlement of potential litigation.
See "Note 8: Settlement of Potential Litigation" to the Company's
Consolidated Financial Statements. The 1997 earnings per share
amounts have been adjusted for the five-for-four stock split,
effected in the form of a 25% stock dividend, paid to shareholders
on May 30, 1997.
NET INTEREST INCOME
Net interest income represents the amount by which interest
income on interest-earning assets, including securities and loans,
exceeds interest paid on interest-bearing liabilities, including
deposits and notes payable. Net interest income is the principal
source of the Company's earnings. Interest rate fluctuations, as
well as changes in the amount and type of interest-earning assets
and interest-bearing liabilities, combine to affect net interest
income.
Net interest income amounted to $2,515,000 for the second
quarter of 1998, an increase of $30,000, or 1.2%, from the second
quarter of 1997. Net interest income for the second quarter of
1997 was $2,485,000. Net interest income for the first six months
of 1998 was $4,937,000, an increase of $212,000, or 4.5%, from net
interest income of $4,725,000 for the first six months of 1997.
The year-to-date increase in 1998 was primarily due to the
acquisition of Crown Park effective January 28, 1997. The net
interest margin on a fully taxable-equivalent basis, was 4.22% and
4.16% for the second quarter and first six months of 1998,
respectively, compared to 4.15% and 4.08% for the second quarter
and first six months of 1997, respectively. The primary reasons
for the increases in the net interest margin during 1998 are the
Company's higher loan-to-deposit ratio in 1998 and a slightly lower
overall cost of funds in 1998 when compared to 1997.
At June 30, 1998, approximately $36,496,000, or 25.9%, of the
Company's total loans, net of unearned income, were tied to
fluctuations in the prime interest rate. This amount represents
42.8% of the Company's loans, excluding loans to individuals which
are almost exclusively fixed rate in nature. Average rates paid
for various types of deposits, particularly certificates of
deposit, remained relatively stable for the first six months of
1998, when compared to the first six months of 1997. For example,
the average rate paid by the Company for certificates of deposit of
$100,000 or more decreased slightly from 5.47% for the first six
months of 1997 to 5.39% for the first six months of 1998; however,
the average rate paid for certificates of deposit less than
$100,000 increased slightly from 5.29% during the first half of
1997 to 5.31% during the first half of 1998. Rates on other types
of deposits, such as interest-bearing demand, savings and money
market deposits, decreased slightly from an average of 2.66% during
the first six months of 1997 to an average of 2.63% during the
first half of 1998. Given the fact that the Company's interest-
bearing liabilities are subject to repricing faster than its
interest-earning assets in the very short-term, an overall falling
interest rate environment would normally produce a higher net
interest margin than an overall rising interest rate environment.
As noted under "Analysis of Financial Condition - Interest Rate
Sensitivity" below, because the Company's interest-bearing demand,
savings and money market deposits are somewhat less rate-sensitive,
the Company's net interest margin does not necessarily increase
significantly in an overall falling interest rate environment.
The following table presents the average balance sheets of the
Company for the quarters and six-month periods ended June 30, 1998
and 1997, and indicates the interest earned or paid on the major
categories of interest-earning assets and interest-bearing
liabilities on a fully taxable-equivalent basis and the average
rates earned or paid on each major category. This analysis details
the contribution of interest-earning assets and the impact of the
cost of funds on overall net interest income.
-10-
<PAGE>
<TABLE>
<CAPTION>
Quarter Ended June 30,
-------------------------------------------------------
1998 1997
------------------------- -------------------------
Interest Interest
Average Income/ Yield/ Average Income/ Yield/
Balance Expense Rate Balance Expense Rate
--------- --------- ----- --------- -------- -----
<S> <C> <C> <C> <C> <C> <C>
ASSETS(1) (Dollars in thousands)
Interest-earning assets:
Loans, net of unearned income (2) $ 139,485 $ 3,189 9.15% $ 135,521 $ 3,102 9.16%
Securities (3) 62,726 959 6.12 90,698 1,390 6.13
Federal funds sold 36,547 505 5.53 13,471 187 5.55
--------- --------- ----- --------- --------- -----
Total interest-earning assets 238,758 4,653 7.80 239,690 4,679 7.81
--------- --------- ----- --------- --------- -----
Noninterest-earning assets:
Cash and due from banks 13,309 10,369
Premises and equipment 7,474 7,147
Goodwill 3,074 3,364
Accrued interest receivable
and other assets 4,391 4,958
Allowance for possible loan losses (1,075) (1,295)
--------- ---------
Total noninterest-earning assets 27,173 24,543
--------- ---------
Total assets $ 265,931 $ 264,233
========= =========
LIABILITIES AND STOCKHOLDERS' EQUITY(1)
Interest-bearing liabilities:
Demand, savings and money
market deposits $ 76,660 $ 491 2.56% $ 77,147 $ 516 2.68%
Time deposits 122,711 1,643 5.36 124,204 1,662 5.35
--------- --------- ----- --------- --------- -----
Total interest-bearing deposits 199,371 2,134 4.28 201,351 2,178 4.33
Notes payable 5 0 -- 824 15 7.28
--------- --------- ----- --------- --------- -----
Total interest-bearing liabilities 199,376 2,134 4.28 202,175 2,193 4.34
--------- --------- ----- --------- --------- -----
Noninterest-bearing liabilities:
Demand deposits 43,857 41,282
Accrued interest payable and
other liabilities 1,487 1,483
--------- ---------
Total noninterest-bearing liabilities 45,344 42,765
--------- ---------
Total liabilities 244,720 244,940
Stockholders' equity 21,211 19,293
--------- ---------
Total liabilities and
stockholders' equity $ 265,931 $ 264,233
========= =========
Net interest income $ 2,519 $ 2,486
========= =========
Interest rate spread (4) 3.52% 3.47%
===== =====
Net interest margin (5) 4.22% 4.15%
===== =====
______________________________
(1) The Average Balance and Interest Income/Expense columns for
1997 include the balance sheet and income statement accounts
of Crown Park from January 28, 1997, the acquisition date of
such company.
(2) Nonaccrual loans are included in the Average Balance columns,
and income recognized on these loans, if any, is included in
the Interest Income/Expense columns. Interest income on loans
includes fees on loans, which are not material in amount.
(3) Nontaxable interest income on securities was adjusted to a
taxable yield assuming a tax rate of 34%.
(4) The interest rate spread is the difference between the average
yield on interest-earning assets and the average cost of
interest-bearing liabilities.
(5) The net interest margin is equal to net interest income, on a
fully taxable-equivalent basis, divided by average interest-
earning assets.
</TABLE>
-11-
<PAGE>
<TABLE>
<CAPTION>
Six-month Period Ended June 30,
-------------------------------------------------------
1998 1997
------------------------- -------------------------
Interest Interest
Average Income/ Yield/ Average Income/ Yield/
Balance Expense Rate Balance Expense Rate
--------- --------- ----- --------- -------- -----
<S> <C> <C> <C> <C> <C> <C>
ASSETS(1) (Dollars in thousands)
Interest-earning assets:
Loans, net of unearned income (2) $ 139,564 $ 6,333 9.08% $ 126,841 $ 5,833 9.20%
Securities (3) 64,655 1,979 6.12 88,629 2,702 6.10
Federal funds sold 33,436 918 5.49 16,318 442 5.42
--------- --------- ----- --------- --------- -----
Total interest-earning assets 237,655 9,230 7.77 231,788 8,977 7.75
--------- --------- ----- --------- --------- -----
Noninterest-earning assets:
Cash and due from banks 13,664 9,803
Premises and equipment 7,482 6,623
Goodwill 3,102 2,983
Accrued interest receivable
and other assets 4,654 5,062
Allowance for possible loan losses (1,089) (1,168)
--------- ---------
Total noninterest-earning assets 27,813 23,303
--------- ---------
Total assets $ 265,468 $ 255,091
========= =========
LIABILITIES AND STOCKHOLDERS' EQUITY(1)
Interest-bearing liabilities:
Demand, savings and money
market deposits $ 77,458 $ 1,018 2.63% $ 74,526 $ 992 2.66%
Time deposits 122,515 3,268 5.34 120,557 3,222 5.34
--------- --------- ----- --------- --------- -----
Total interest-bearing deposits 199,973 4,286 4.29 195,083 4,214 4.32
Notes payable 5 1 7.85 859 35 8.15
--------- --------- ----- --------- --------- -----
Total interest-bearing liabilities 199,978 4,287 4.29 195,942 4,249 4.34
--------- --------- ----- --------- --------- -----
Noninterest-bearing liabilities:
Demand deposits 42,996 39,319
Accrued interest payable and
other liabilities 1,471 1,352
--------- ---------
Total noninterest-bearing liabilities 44,467 40,671
--------- ---------
Total liabilities 244,445 236,613
Stockholders' equity 21,023 18,478
--------- ---------
Total liabilities and
stockholders' equity $ 265,468 $ 255,091
========= =========
Net interest income $ 4,943 $ 4,728
========= =========
Interest rate spread (4) 3.48% 3.41%
===== =====
Net interest margin (5) 4.16% 4.08%
===== =====
______________________________
(1) The Average Balance and Interest Income/Expense columns for
1997 include the balance sheet and income statement accounts
of Crown Park from January 28, 1997, the acquisition date of
such company.
(2) Nonaccrual loans are included in the Average Balance columns,
and income recognized on these loans, if any, is included in
the Interest Income/Expense columns. Interest income on loans
includes fees on loans, which are not material in amount.
(3) Nontaxable interest income on securities was adjusted to a
taxable yield assuming a tax rate of 34%.
(4) The interest rate spread is the difference between the average
yield on interest-earning assets and the average cost of
interest-bearing liabilities.
(5) The net interest margin is equal to net interest income, on a
fully taxable-equivalent basis, divided by average interest-
earning assets.
The following table presents the changes in the components of
net interest income and identifies the part of each change due to
differences in the average volume of interest-earning assets and
interest-bearing liabilities and the part of each change due to the
average rate on those assets and liabilities. The changes in
interest due to both rate and
-12-
<PAGE>
volume in the table have been allocated to volume or rate change in
proportion to the absolute amounts of the change in each.
</TABLE>
<TABLE>
<CAPTION>
Quarters Ended Six-month Periods Ended
June 30, 1998 vs. 1997 (1) June 30, 1998 vs 1997 (1)
--------------------------- ---------------------------
Increase (Decrease) Due to Increase (Decrease) Due To
Changes In: Changes In
--------------------------- ---------------------------
Volume Rate Total Volume Rate Total
------- ------- ------- ------- ------- -------
<S> <C> <C> <C> <C> <C> <C>
(In thousands)
Interest-earning assets:
Loans, net of unearned income (2) $ 91 $ (4) $ 87 $ 578 $ (78) $ 500
Securities (3) (429) (2) (431) (731) 8 (723)
Federal funds sold 320 (2) 318 470 6 476
------- ------- ------- ------- ------- -------
Total interest income (18) (8) (26) 317 (64) 253
------- ------- ------- ------- ------- -------
Interest-bearing liabilities:
Deposits:
Demand, savings and money
market deposits (3) (22) (25) 38 (12) 26
Time deposits (20) 1 (19) 46 0 46
------- ------- ------- ------- ------- -------
Total interest-bearing deposits (23) (21) (44) 84 (12) 72
Notes payable (15) 0 (15) (33) (1) (34)
------- ------- ------- ------- ------- -------
Total interest expense (38) (21) (59) 51 (13) 38
------- ------- ------- ------- ------- -------
Increase (decrease) in net interest income $ 20 $ 13 $ 33 $ 266 $ (51) $ 215
======= ======= ======= ======= ======= =======
______________________________
(1) Income statement items for 1997 include the income statement
accounts of Crown Park beginning January 28, 1997, the
acquisition date of such company.
(2) Nonaccrual loans have been included in average assets for the
purposes of the computations, thereby reducing yields.
(3) Information with respect to tax-exempt securities is provided
on a fully taxable-equivalent basis assuming a tax rate of
34%.
</TABLE>
PROVISION FOR LOAN LOSSES
The amount of the provision for loan losses is based on
periodic (not less than quarterly) evaluations of the loan
portfolio, especially nonperforming and other potential problem
loans. During these evaluations, consideration is given to such
factors as: management's evaluation of specific loans; the level
and composition of nonperforming loans; historical loss experience;
results of examinations by regulatory agencies; an internal asset
review process conducted by the Company that is independent of the
management of the Bank; expectations of future economic conditions
and their impact on particular industries and individual borrowers;
the market value of collateral; the strength of available
guarantees; concentrations of credits; and other judgmental
factors. The provisions for loan losses made for the quarter and
six-month period ended June 30, 1998, were $125,000 and $300,000,
respectively, compared to $60,000 for the quarter and six-month
period ended June 30, 1997, respectively. These represent increases
of $65,000, or 108.3%, and $240,000, or 400.0%. The increased
provisions for the quarter and six-month period ended June 30,
1998, were due to increased charge-offs during the first half of
1998, particularly in the area of indirect installment loans. In
addition, the Company had net loan recoveries during the first half
of 1997, requiring a lower provision for that time period.
NONINTEREST INCOME
Noninterest income increased $214,000, or 46.1%, from $464,000
during the second quarter of 1997 to $678,000 during the second
quarter of 1998. Noninterest income also increased $451,000, or
50.9%, from $886,000 for the first six months of 1997 to $1,337,000
for the first six months of 1998.
-13-
<PAGE>
Service charges on deposit accounts and on other types of
services are the major source of noninterest income to the Company.
This source of income increased from $393,000 during the second
quarter of 1997 to $514,000 during the second quarter of 1998, a
30.8% increase, and increased $235,000, or 31.8%, from $739,000 for
the first six months of 1997 to $974,000 for the first six months
of 1998. The increase was due to the acquisition of Crown Park
during January 1997, service charge on the accounts of seven (7)
Albertson's grocery stores which began in October 1997 and an
increase in rates on selected charges during the first quarter of
1998.
Trust fees from the operation of the trust department of the
Bank increased $9,000, or 18.8%, from $48,000 during the second
quarter of 1997 to $57,000 during the same period in 1998, and
increased $10,000, or 10.6%, from $94,000 for the first six months
of 1997 to $104,000 for the first six months of 1998 primarily as
a result of an overall increase in the value of assets under
management of the trust department.
Other income is the sum of several components of noninterest
income including insurance premiums earned on automobiles financed
through the Company's indirect installment loan program, check
printing income, bankcard royalty income and other sources of
miscellaneous income. Other income increased $84,000, or 365.2%,
from $23,000 during the second quarter of 1997 to $107,000 during
the second quarter of 1998, and increased $206,000, or 388.7%, from
$53,000 for the first six months of 1997 to $259,000 for the
corresponding period in 1998 primarily due to a significant
increase in insurance premiums received during the first six months
of 1998 on automobiles financed through the Company's installment
lending program and an increase in check printing income. The
Company also had a significant increase in income from investment
services which it began promoting during the second quarter of
1997.
NONINTEREST EXPENSES
Noninterest expenses increased $186,000, or 9.0%, from
$2,068,000 during the second quarter of 1997 to $2,254,000 during
the second quarter of 1998 and increased $479,000, or 12.1%, from
$3,958,000 during the first six months of 1997 to $4,437,000 during
the first six months of 1998. Noninterest expenses for the six-
month period ended June 30, 1998, were higher than the same period
for 1997 primarily as a result of the acquisition of Crown Park at
the end of January 1997.
Salaries and employee benefits rose $59,000, or 5.9%, from
$1,007,000 for the second quarter of 1997 to $1,066,000 for the
corresponding period of 1998, and increased $219,000, or 11.4%,
from $1,926,000 for the six-month period ended June 30, 1997, to
$2,145,000 for the corresponding period of 1998. The increase was
primarily a result of the opening of two grocery store branches in
October 1997 and one additional grocery store branch in May 1998 as
well as overall salary increases.
Net occupancy expense increased $23,000, or 10.6%, from
$216,000 for the second quarter of 1997 to $239,000 for the same
period in 1998, and increased $57,000, or 13.9%, from $411,000 for
the first six months of 1997 to $468,000 for the first six months
of 1998. All of the quarterly increase and approximately 86% of
the year-to-date increase was a result of the opening of the three
additional branches noted above.
Equipment expense decreased from $213,000 for the second
quarter of 1997 to $188,000 for the corresponding period in 1998,
representing a decrease of $25,000, or 11.7%. These expenses also
decreased $13,000, or 3.1%, from $415,000 for the first six months
of 1997 to $402,000 for the first six months of 1998. The decreases
are due to the expiration of operating leases on certain data
processing equipment during the first six months of 1998. The
equipment was purchased at the end of the leases for fair market
value and the depreciation currently being recorded is less than
the lease expense previously recorded.
Stationery, printing and supplies expense increased $10,000,
or 10.2%, from $98,000 for the second quarter of 1997 to $108,000
for the second quarter of 1998, and increased $22,000, or 12.0%,
from $184,000 for the first six months of 1997 to $206,000 for the
first six months of 1998. Approximately one-half of the increases
are due to the opening of the additional grocery store branches.
Professional fees, which include legal and accounting fees,
decreased $14,000, or 15.2%, from $92,000 during the second quarter
of 1997 to $78,000 during the second quarter of 1998, and decreased
$41,000, or 22.5%, from $182,000
-14-
<PAGE>
during the first six months of 1997 to $141,000 for the corresponding
period of 1998. The decreases were a result of increased legal fees
incurred immediately after the acquisition related to Crown Park
loans and legal fees incurred to settle litigation, which resulted
in a recovery of approximately $108,000 of a previously charged off
loan during the first quarter of 1997.
The Company recorded $125,000 in expense during the second
quarter of 1998 as a result of the settlement of potential
litigation involving a bank that had been repossessed by a former
subsidiary bank of the Company. See "Note 8: Settlement of
Potential Litigation" to the Company's Consolidated Financial
Statements.
Goodwill amortization was $57,000 for both the second quarter
of 1998 and 1997, and increased $12,000, or 11.9%, from $101,000
for the first six months of 1997 to $113,000 for the first six
months of 1998. Amortization expense of goodwill related to the
acquisition of Crown Park on January 28, 1997, was the cause of the
year-to-date increase.
Net costs (revenues) applicable to other real estate and other
repossessed assets consist of expenses associated with holding and
maintaining repossessed assets, the net gain or loss on the sales
of such assets, the write-down of the carrying value of the assets
and any rental income that is credited as a reduction in expense.
The Company recorded net expenses of $21,000 and $47,000 for the
second quarter and first six months of 1998, respectively, compared
to net revenues of $45,000 and $40,000 for the second quarter and
first six months of 1997, respectively. The net revenues resulted
primarily from gains on the sales during the first quarter of 1997
of two petroleum producing properties that were held by the Winters
branch of the Bank.
Other noninterest expense includes, among many other items,
postage, due from bank account charges, data processing, armored
car and courier fees, travel and entertainment, advertising,
regulatory examinations, directors' fees, dues and subscriptions
and Federal Deposit Insurance Corporation ("FDIC") insurance
expense. These expenses decreased $58,000, or 13.5%, from $430,000
during the second quarter of 1997 to $372,000 during the second
quarter of 1998, but increased $11,000, or 1.4%, from $779,000 for
the first six months of 1997 to $790,000 for the first half of
1998. The decrease during the second quarter and small increase
during the first six months of 1998 were primarily a result of,
among other things, reduced advertising expenses, reduced credit
reports expense due to lower indirect lending volume and reduced
postage expense due to implementation of the Company's new check
imaging system.
FEDERAL INCOME TAXES
The Company accrued $295,000 and $259,000 in federal income
taxes in the second quarter of 1998 and 1997, respectively, and
accrued $564,000 and $538,000 in federal income taxes for the first
six months of 1998 and 1997, respectively. The effective tax rate
for the first six months of 1998 and 1997 were 36.7% and 33.8%,
respectively. The lower effective rate for 1997 was a result of a
$41,000 reduction in federal income tax expense due to an
adjustment in the amount of the utilization of the Company's net
operating loss carryforwards.
IMPACT OF INFLATION
The effects of inflation on the local economies in which the
various branches of the Bank operate and on the Company's operating
results have been relatively modest for the past several years.
Because substantially all of the Company's assets and liabilities
are monetary in nature, such as cash, securities, loans and
deposits, their values are less sensitive to the effects of
inflation than to changing interest rates, which do not necessarily
change in accordance with inflation rates. The Company tries to
control the impact of interest rate fluctuations by managing the
relationship between its interest rate-sensitive assets and
liabilities. See "Analysis of Financial Condition - Interest Rate
Sensitivity" below.
Analysis of Financial Condition
- - - -------------------------------
ASSETS
Total assets decreased $1,073,000, or 0.4%, from $264,574,000
at December 31, 1997, to $263,501,000 at June 30, 1998, primarily
due to a slight decrease in the level of deposits noted below.
-15-
<PAGE>
CASH AND CASH EQUIVALENTS
The amount of cash and cash equivalents increased $2,893,000,
or 7.3%, from $39,418,000 at December 31, 1996, to $42,311,000 at
June 30, 1998, due to maturities of securities which were greater
than purchases of securities during the first six months of 1998
and an increased amount of funds that were invested temporarily in
federal funds sold at June 30, 1998.
SECURITIES
Securities decreased $3,314,000, or 4.7%, from $69,794,000 at
December 31, 1997, to $66,480,000 at June 30, 1998. The decrease
in 1998 is due to funds from maturities of securities being
invested temporarily in federal funds sold as noted above.
The Board of Directors of the Bank reviews all securities
transactions monthly and the securities portfolio periodically.
The Company's current investment policy provides for the purchase
of U.S. Treasury securities, federal agency securities and
mortgage-backed securities having maturities of five years or less
and for the purchase of state, county and municipal agencies'
securities with maximum maturities of 10 years. The Company's
policy is to maintain a securities portfolio with staggered
maturities to meet its overall liquidity needs. Municipal
securities must be rated A or better. Certain school district
issues, however, are acceptable with a Baa rating. Securities
totaling $26,332,000 are classified as available-for-sale and are
carried at fair value at June 30, 1998. Securities totaling
$40,148,000 are classified as held-to-maturity and are carried at
amortized cost. During the second quarter of 1997, the Company
sold $193,000 of investments classified as available-for-sale. No
gain or loss was recognized on the sale of such investments. The
decision to sell securities classified as available-for-sale is
based upon management's assessment of changes in economic or
financial market conditions.
Certain of the Company's securities are pledged to secure
public and trust fund deposits and for other purposes required or
permitted by law. At June 30, 1998, the book value of U.S.
Treasury and other U.S. Government agency securities so pledged
amounted to $10,473,000, or 15.8% of the total securities
portfolio.
The following table summarizes the amounts and the
distribution of the Company's securities held at the dates
indicated.
<TABLE>
<CAPTION>
June 30, 1998 December 31, 1997
----------------- -----------------
Amount % Amount %
-------- ------- -------- -------
(Dollars in thousands)
<S> <C> <C> <C> <C>
Carrying value:
U.S. Treasury securities $ 15,372 23.1% $ 21,292 30.5%
Obligations of other U.S. Government
agencies and corporations 39,535 59.5 36,122 51.8
Mortgage-backed securities 10,145 15.2 11,622 16.7
Obligations of states and political subdivisions 844 1.3 175 0.2
Other securities 584 0.9 583 0.8
-------- ----- -------- -----
Total carrying value of securities $ 66,480 100.0% $ 69,794 100.0%
======== ===== ======== =====
Total market value of securities $ 66,570 $ 69,877
======== ========
</TABLE>
The market value of securities classified as held-to-maturity
is usually different from the reported carrying value of such
securities due to interest rate fluctuations that cause market
valuations to change.
The following table provides the maturity distribution and
weighted average interest rates of the Company's total securities
portfolio at June 30, 1998. The yield has been computed by
relating the forward income stream on the securities, plus or minus
the anticipated amortization of premiums or accretion of discounts,
to the carrying value of the
-16-
<PAGE>
securities. The book value of securities classified as
held-to-maturity is their cost, adjusted for previous amortization
or accretion.
<TABLE>
<CAPTION>
Estimated Weighted
Type and Maturity Grouping Principal Carrying Fair Average
at June 30, 1998 Amount Value Value Yield
- - - ------------------------- --------- --------- --------- --------
(Dollars in thousands)
<S> <C> <C> <C> <C>
U.S. Treasury securities:
Within one year $ 6,250 $ 6,269 $ 6,269 5.67%
After one but within five years 9,000 9,103 9,104 5.79
--------- --------- --------- -------
Total U.S. Treasury securities 15,250 15,372 15,373 5.74
--------- --------- --------- -------
Obligations of other U.S. Government
agencies and corporations:
Within one year 2,500 2,485 2,497 6.48
After one but within five years 37,000 37,050 37,084 6.16
--------- --------- --------- -------
Total obligations of U.S. Government
agencies and corporations 39,500 39,535 39,581 6.18
--------- --------- --------- -------
Mortgage-backed securities 10,038 10,145 10,174 6.16
--------- --------- --------- -------
Obligations of states and political subdivisions:
Within one year 0 0 0 --
After one but within five years 0 0 0 --
After five but within ten years 445 447 457 7.30
After ten years 400 397 401 6.98
--------- --------- --------- -------
Total obligations of states and political
subdivisions 845 844 858 7.15
--------- --------- --------- -------
Other securities:
Within one year 0 0 0 --
After one but within five years 0 0 0 --
After five but within ten years 0 0 0 --
After ten years 584 584 584 3.96
--------- --------- --------- -------
Total other securities 584 584 584 3.96
--------- --------- --------- -------
Total securities $ 66,217 $ 66,480 $ 66,570 6.04%
========= ========= ========= =======
</TABLE>
LOAN PORTFOLIO
Total loans, net of unearned income, decreased $44,000, from
$140,853,000 at December 31, 1997, to $140,809,000 at June 30,
1998. The slight decrease during the first half of 1998 was a
result of a significant amount of payoffs received on the Company's
indirect installment loans. These payoffs resulted in a decrease
of $11,022,000 in loans to individuals. This decrease was offset
by a $7,878,000 increase in commercial and industrial loans and a
$3,146,000 increase in other loans during the first six months of
1998.
The Bank primarily makes installment loans to individuals and
commercial and real estate loans to small to medium-sized
businesses and professionals. The Bank offers a variety of
commercial lending products including revolving lines of credit,
letters of credit, working capital loans and loans to finance
accounts receivable, inventory and equipment. Typically, the
Banks' commercial loans have floating rates of interest, are for
varying terms (generally not exceeding five years), are personally
guaranteed by the borrower and are collateralized by accounts
receivable, inventory or other business assets.
-17-
<PAGE>
Due to diminished loan demand during the early 1990's,
the Bank instituted an installment loan program whereby it began
to purchase automobile loans from automobile dealerships in the
Abilene and Odessa/Midland, Texas areas. The Company expanded
this program into the San Angelo and Lubbock markets with the
acquisitions of Coastal Banc-San Angelo and Crown Park. Under
this program, an automobile dealership will agree to make a
loan to a prospective customer to finance the purchase of a
new or used automobile. The different financial institutions
that have a pre-established relationship with the particular
dealership review the transaction, including the credit
history of the prospective borrower, and decide if they would
agree to purchase the loan from the dealership and, if so, at
what rate of interest. The dealership selects the financial
institution to which it decides to sell the loan. The
financial institution purchasing the loan has a direct loan to
the borrower collateralized by the automobile, and the dealership
realizes a profit based on the difference between the interest rate
quoted to the buyer by the dealership and the interest rate at
which the loan is purchased by the financial institution. At June
30, 1998, the Company had approximately $39,655,000, net of
unearned income, of this type of loan outstanding compared to
approximately $50,052,000 of this type of loan at December 31,
1997, a decrease of $10,397,000, or 20.8%. The Company is
attempting to decrease its reliance on these loans by generating
additional commercial and real estate loans.
The following table presents the Company's loan balances at
the dates indicated separated by loan types.
June 30, December 31,
1998 1997
--------- ---------
(In thousands)
Loans to individuals $ 56,431 $ 67,453
Real estate loans 43,944 44,569
Commercial and industrial loans 32,062 24,184
Other loans 9,254 6,109
--------- ---------
Total loans 141,691 142,315
Less unearned income 882 1,462
--------- ---------
Loans, net of unearned income $ 140,809 $ 140,853
========= =========
Loan concentrations are considered to exist when there are
amounts loaned to a multiple number of borrowers engaged in similar
activities that would cause them to be similarly impacted by
economic or other conditions. The Company had no concentrations of
loans at June 30, 1998, except for those described in the above
table. The Bank had no loans outstanding to foreign countries or
borrowers headquartered in foreign countries at June 30, 1998.
Management of the Bank may renew loans at maturity when
requested by a customer whose financial strength appears to support
such renewal or when such renewal appears to be in the Company's
best interest. The Company requires payment of accrued interest in
such instances and may adjust the rate of interest, require a
principal reduction or modify other terms of the loan at the time
of renewal.
-18-
<PAGE>
The following table presents the distribution of the maturity
of the Company's loans and the interest rate sensitivity of those
loans, excluding loans to individuals, at June 30, 1998. The table
also presents the portion of loans that have fixed interest rates
or interest rates that fluctuate over the life of the loans in
accordance with changes in the money market environment as
represented by the prime rate.
<TABLE>
<CAPTION>
One to Over Total
One Year Five Five Carrying
and Less Years Years Value
--------- --------- --------- ---------
<S> <C> <C> <C> <C>
(In thousands)
Real estate loans $ 6,152 $ 29,942 $ 7,850 $ 43,944
Commercial and industrial loans 15,795 10,679 5,588 32,062
Other loans 8,412 621 221 9,254
--------- --------- --------- ---------
Total loans $ 30,359 $ 41,242 $ 13,659 $ 85,260
========= ========= ========= =========
With fixed interest rates $ 11,151 $ 30,824 $ 6,789 $ 48,764
With variable interest rates 19,208 10,418 6,870 36,496
--------- --------- --------- ---------
Total loans $ 30,359 $ 41,242 $ 13,659 $ 85,260
========= ========= ========= =========
</TABLE>
ALLOWANCE FOR POSSIBLE LOAN LOSSES
Implicit in the Company's lending activities is the fact that
loan losses will be experienced and that the risk of loss will vary
with the type of loan being made and the creditworthiness of the
borrower over the term of the loan. To reflect the currently
perceived risk of loss associated with the Company's loan
portfolio, additions are made to the Company's allowance for
possible loan losses (the "allowance"). The allowance is created
by direct charges against income (the "provision" for loan losses),
and the allowance is available to absorb possible loan losses. See
"Results of Operations - Provision for Loan Losses" above.
The amount of the allowance equals the cumulative total of the
loan loss provisions made from time to time, reduced by loan
charge-offs, and increased by recoveries of loans previously
charged off. The Company's allowance was $1,121,000, or 0.80% of
loans, net of unearned income, at June 30, 1998, compared to
$1,173,000, or 0.83% of loans, net of unearned income, at December
31, 1997. The decrease in the allowance and the percentage of the
allowance to loans, net of unearned income, during the first half
of 1998 is due to a larger than normal amount of charge-offs,
primarily in the indirect lending area, particularly at the Bank's
Lubbock location. See "Results of Operations - Provision for Loan
Losses" above. Charge-offs on indirect installment loans accounted
for $315,000, or 79.1%, of total charge-offs during the first six
months of 1998.
Credit and loan decisions are made by management and the Board
of Directors of the Bank in conformity with loan policies
established by the Board of Directors of the Company. The
Company's practice is to charge off any loan or portion of a loan
when it is determined by management to be uncollectible due to the
borrower's failure to meet repayment terms, the borrower's
deteriorating or deteriorated financial condition, the depreciation
of the underlying collateral, the loan's classification as a loss
by regulatory examiners or for other reasons. The Company charged
off $158,000 and $398,000 in loans during the second quarter and
first six months of 1998, respectively. Recoveries during the
second quarter and first six months of 1998 were $33,000 and
$46,000, respectively.
-19-
<PAGE>
The following table presents the provisions for loan losses,
loans charged off and recoveries on loans previously charged off,
the amount of the allowance, the average loans outstanding and
certain pertinent ratios for the quarters and six-month periods
ended June 30, 1998 and 1997.
<TABLE>
<CAPTION>
Quarter Ended Six-month Period
June 30, Ended June 30,
------------------- -------------------
1998 1997 1998 1997
--------- --------- --------- ---------
(Dollars in thousands)
<S> <C> <C> <C> <C>
Analysis of allowance for possible loan losses:
Balance, beginning of period $ 1,121 $ 1,312 $ 1,173 $ 793
Acquisition of subsidiary bank 0 0 0 395
Provision for loan losses 125 60 300 60
--------- --------- --------- ---------
1,246 1,372 1,473 1,248
--------- --------- --------- ---------
Loans charged off:
Loans to individuals 155 87 355 164
Real estate loans 0 2 40 2
Commercial and industrial loans 3 0 3 35
Other loans 0 0 0 4
--------- --------- --------- ---------
Total charge-offs 158 89 398 205
--------- --------- --------- ---------
Recoveries of loans previously charged off:
Loans to individuals 14 19 21 32
Real estate loans 15 2 15 35
Commercial and industrial loans 4 24 10 218
Other loans 0 0 0 0
--------- --------- --------- ---------
Total recoveries 33 45 46 285
--------- --------- --------- ---------
Net loans charge-offs (recoveries) 125 44 352 (80)
--------- --------- --------- ---------
Balance, end of period $ 1,121 $ 1,328 $ 1,121 $ 1,328
========= ========= ========= =========
Average loans outstanding, net of unearned income(1) $ 139,485 $ 135,521 $ 139,564 $ 126,841
========= ========= ========= =========
Ratio of net loan charge-offs (recoveries) to average
loans outstanding, net of unearned income
(annualized) 0.36% 0.13% 0.50% (0.13)%
==== ==== ==== ====
Ratio of allowance for possible loan losses to total
loans, net of unearned income, at June 30 0.80% 0.97% 0.80% 0.97%
==== ==== ==== ====
</TABLE>
______________________________
(1) Average loans, net of unearned income, for 1997 include the
average loans, net of unearned income, of Crown Park from
January 28, 1997, the date of acquisition of such company.
Foreclosures on defaulted loans result in the Company
acquiring other real estate and other repossessed assets;
however, the amount of other real estate and other repossessed
assets being carried on the Company's books has been
decreasing. Accordingly, the Company incurs other expenses,
specifically net costs applicable to other real estate and
other repossessed assets, in maintaining, insuring and selling
such assets. The Company attempts to convert nonperforming
loans into interest-earning assets, although usually at a lower
dollar amount than the face value of such loans, either through
liquidation of the collateral securing the loan or through
intensified collection efforts.
As the economies of the Bank's market areas have recovered
and stabilized over the past several years, there has been a
reduction in total loan losses and in the amount of the provision
necessary to maintain an adequate balance in the allowance. This
reflects not only the loan loss trend, but management's assessment
of the continued reduction of credit risks associated with the loan
portfolio.
The amount of the allowance is established by management based
upon estimated risks inherent in the existing loan portfolio.
Management reviews the loan portfolio on a continuing basis to
evaluate potential problem loans. This review encompasses
management's estimate of current economic conditions and the
potential impact on various industries, prior loan loss experience
and the financial conditions of individual borrowers. Loans that
have been
-20-
<PAGE>
specifically identified as problem or nonperforming loans are
reviewed on at least a quarterly basis, and management
critically evaluates the prospect of ultimate losses arising from
such loans, based on the borrower's financial condition and the
value of available collateral. When a risk can be specifically
quantified for a loan, that amount is specifically allocated in the
allowance. In addition, the Company allocates the allowance based
upon the historical loan loss experience of the different types of
loans. Despite such allocation, both the allocated and unallocated
portions of the allowance are available for charge-offs for all
loans.
On January 1, 1995, the Company adopted Statement of Financial
Accounting Standards No. 114, "Accounting by Creditors for
Impairment of a Loan" ("FAS 114"). In accordance with FAS 114, any
change in the present value of such loans is recognized as an
adjustment to the Company's allowance.
The following table shows the allocations in the allowance and
the respective percentages of each loan category to total loans at
June 30, 1998, and December 31, 1997.
<TABLE>
<CAPTION>
June 30, 1998 December 31, 1997
---------------------------- ----------------------------
Percent of Percent of
Loans by Loans by
Amount of Category to Amount of Category to
Allowance Loans, Net of Allowance Loans, Net of
Allocated to Unearned Allocated to Unearned
Category Income Category Income
------------ ------------- ------------ -------------
(Dollars in thousands)
<C> <C> <C> <C> <C>
Loans to individuals $ 549 39.4% $ 570 46.8%
Real estate loans 67 31.2 52 31.6
Commercial and industrial loans 149 22.8 193 17.2
Other loans 29 6.6 28 4.4
------- ----- ------- -----
Total allocated 794 100.0% 843 100.0%
===== =====
Unallocated 327 330
------- -------
Total allowance for possible loan losses $ 1,121 $ 1,173
======= =======
</TABLE>
Loan Review Process
The Company follows a loan review program to evaluate the
credit risk in its loan portfolio. Through the loan review
process, the Bank maintains an internally classified loan list
that, along with the list of nonperforming loans discussed below,
helps management assess the overall quality of the loan portfolio
and the adequacy of the allowance. Loans classified as
"substandard" are those loans with clear and defined weaknesses
such as highly leveraged positions, unfavorable financial ratios,
uncertain repayment sources or poor financial condition, which may
jeopardize recoverability of the loan. Loans classified as
"doubtful" are those loans that have characteristics similar to
substandard loans, but also have an increased risk that a loss may
occur or at least a portion of the loan may require a charge-off if
liquidated at present. Although loans classified as substandard do
not duplicate loans classified as doubtful, both substandard and
doubtful loans may include some loans that are past due at least 90
days, are on nonaccrual status or have been restructured. Loans
classified as "loss" are those loans that are in the process of
being charged off. At June 30, 1998, substandard loans totaled
$757,000, of which $135,000 were loans designated as nonaccrual or
90 days past due, and there were no doubtful or loss loans.
Substandard, doubtful and loss loans at December 31, 1997, were
$941,000, $16,000 and $0, respectively.
In addition to the internally classified loans, the Bank also
has a "watch list" of loans that further assists the Bank in
monitoring its loan portfolio. A loan is included on the watch
list if it demonstrates one or more deficiencies requiring
attention in the near term or if the loan's ratios have weakened to
a point where more frequent monitoring is warranted. These loans
do not have all the characteristics of a classified loan
(substandard, doubtful or loss), but do have weakened elements as
compared with those of a satisfactory credit. Management of the
Bank reviews these loans in assessing the adequacy of the
allowance. Substantially all of the loans on the watch list at
June 30, 1998, were current and paying in accordance with loan
terms. At June 30, 1998, watch list loans totaled $1,204,000
(including $383,000 of loans guaranteed by U.S. governmental
agencies). Of the total loans on the watch list, $572,000 of the
-21-
<PAGE>
loans involved borrowers who had filed Chapter 13 bankruptcy and
the Bank was awaiting finalization of the individual borrowers'
bankruptcy plans. In addition, at June 30, 1998, $116,000 of loans
not classified and not on the watch list were designated as
nonaccrual, 90 days past due or restructured loans. See
"Nonperforming Assets" below.
NONPERFORMING ASSETS
Nonperforming loans consist of nonaccrual, past due and
restructured loans. A past due loan is an accruing loan that is
contractually past due 90 days or more as to principal or interest
payments. Loans on which management does not expect to collect
interest in the normal course of business are placed on nonaccrual
or are restructured. When a loan is placed on nonaccrual, any
interest previously accrued but not yet collected is reversed
against current income unless, in the opinion of management, the
outstanding interest remains collectible. Thereafter, interest is
included in income only to the extent of cash received. A loan is
restored to accrual status when all interest and principal payments
are current and the borrower has demonstrated to management the
ability to make payments of principal and interest as scheduled.
A "troubled debt restructuring" is a restructured loan upon
which interest accrues at a below market rate or upon which certain
principal has been forgiven so as to aid the borrower in the final
repayment of the loan, with any interest previously accrued, but
not yet collected, being reversed against current income. Interest
is accrued based upon the new loan terms.
Nonperforming loans are fully or substantially collateralized
by assets, with any excess of loan balances over collateral values
allocated in the allowance. Assets acquired through foreclosure
are carried at the lower of cost or estimated fair value, net of
estimated costs of disposal, if any. See "Other Real Estate and
Other Repossessed Assets" below.
The following table lists nonaccrual, past due and
restructured loans and other real estate and other repossessed
assets at June 30, 1998, and December 31, 1997.
<TABLE>
<CAPTION>
June 30, December 31,
1998 1997
------------ ------------
(In thousands)
<S> <C> <C>
Nonaccrual loans $ 57 $ 70
Accruing loans contractually past due over 90 days 78 121
Restructured loans 87 104
Other real estate and other repossessed assets 253 739
------- -------
Total nonperforming assets $ 475 $ 1,034
======= =======
</TABLE>
The gross interest income that would have been recorded during
the second quarter and first six months of 1998 on the Company's
nonaccrual loans if such loans had been current, in accordance with
the original terms thereof and outstanding throughout the period
or, if shorter, since origination, was approximately $2,000 and
$4,000, respectively. No interest income was actually recorded
(received) on loans that were on nonaccrual during the first half
of 1998.
A potential problem loan is defined as a loan where
information about possible credit problems of the borrower is
known, causing management to have serious doubts as to the ability
of the borrower to comply with the present loan repayment terms and
which may result in the inclusion of such loan in one of the
nonperforming asset categories. The Company does not believe it
has any potential problem loans other than those reported above.
PREMISES AND EQUIPMENT
Premises and equipment increased $106,000, or 1.4%, during the
first half of 1998, from $7,518,000 at December 31, 1997, to
$7,624,000 at June 30, 1998. The increase was due to the opening
of one additional supermarket branch in May 1998 and purchases of
small amounts of equipment during the first half of 1998. This
-22-
<PAGE>
increase was partially offset by depreciation expense of
$280,000 which was recorded during the first six months of 1998.
GOODWILL
Goodwill decreased $113,000, or 3.6%, from $3,159,000 at
December 31, 1997, to $3,046,000 at June 30, 1998. This decrease
was due entirely to goodwill amortization expense recorded during
the first half of 1998. The goodwill recorded from all of the
recent acquisitions made by the Company is being amortized over a
period of 15 years.
ACCRUED INTEREST RECEIVABLE
Accrued interest receivable consists of interest that has
accrued on securities and loans, but is not yet payable under the
terms of the related agreements. The balance of accrued interest
receivable decreased $68,000, or 3.1%, from $2,208,000 at December
31, 1997, to $2,140,000 at June 30, 1998. The decrease was
primarily a result of the decrease in securities, on which interest
is normally collected semiannually, and an increase in federal
funds sold, on which interest is payable daily. Of the total
balance at June 30, 1998, $1,184,000, or 55.3%, was interest
accrued on loans and $956,000, or 44.7%, was interest accrued on
securities. The amounts of accrued interest receivable and
percentages attributable to loans and securities at December 31,
1997, were $1,220,000, or 55.3%, and $988,000, or 44.7%,
respectively.
OTHER REAL ESTATE AND OTHER REPOSSESSED ASSETS
Other real estate and other repossessed assets consist of real
property and other assets unrelated to banking premises or
facilities. Income derived from other real estate and other
repossessed assets, if any, is generally less than that which would
have been earned as interest at the original contract rates on the
related loans. At June 30, 1998, and December 31, 1997, other real
estate and other repossessed assets had an aggregate book value of
$253,000 and $739,000, respectively. Other real estate and other
repossessed assets decreased $486,000, or 65.8%, during the first
six months of 1998, primarily due to the sale of a parcel of real
estate for $357,000 and a reduction in the number of repossessed
automobiles held by the Company. No gain or loss was recorded as
a result of the sale of such real estate. Of the June 30, 1998,
balance, $143,000 represented sixteen (16) repossessed automobiles
and $110,000 represented three commercial and two residential
properties.
OTHER ASSETS
The most significant component of other assets at June 30,
1998, is a net deferred tax asset of $1,022,000. The balance of
other assets decreased $99,000, or 4.8%, to $1,959,000 at June 30,
1998, from $2,058,000 at December 31, 1997, as a result of a
decrease in the Company's net deferred tax asset due principally to
the utilization of a portion of the Company's tax credit
carryforwards.
DEPOSITS
The Bank's lending and investing activities are funded almost
entirely by core deposits, 49.5% of which are demand, savings and
money market deposits at June 30, 1998. Total deposits decreased
$1,837,000, or 0.8%, from $242,801,000 at December 31, 1997, to
$240,964,000 at June 30, 1998. The Bank does not have any brokered
deposits.
-23-
<PAGE>
The following table presents the average amounts of, and the
average rates paid on, deposits of the Company for the quarters and
six-month periods ended June 30, 1998 and 1997.
<TABLE>
<CAPTION>
Quarter Ended June 30, Six-month Period Ended June 30,
------------------------------------- -------------------------------------
1998 1997(1) 1998 1997(1)
----------------- ----------------- ----------------- -----------------
Average Average Average Average Average Average Average Average
Amount Rate Amount Rate Amount Rate Amount Rate
--------- ------- --------- ------- --------- ------- --------- -------
(Dollars in thousands)
<S> <C> <C> <C> <C> <C> <C> <C> <C>
Noninterest-bearing
demand deposits $ 43,857 --% $ 41,282 --% $ 42,996 --% $ 39,319 --%
Interest-bearing demand,
savings and money
market deposits 76,660 2.56 77,147 2.68 77,458 2.63 74,526 2.66
Time deposits of less
than $100,000 83,150 5.33 86,947 5.30 83,027 5.31 84,777 5.29
Time deposits of
$100,000 or more 39,561 5.42 37,257 5.48 39,488 5.39 35,780 5.47
-------- ------ -------- ------ -------- ------ -------- ------
Total deposits $243,228 3.51% $242,633 3.59% $242,969 3.53% $234,402 3.59%
======== ====== ======== ====== ======== ====== ======== ======
</TABLE>
______________________________
(1) The average amounts of, and average rates paid on, deposits
for 1997, include the averages for Crown Park from January 28,
1997, the date of acquisition of such company.
The maturity distribution of time deposits of $100,000 or more
at June 30, 1998, is presented below.
At June 30, 1998
-----------------
(In thousands)
3 months or less $ 11,394
Over 3 through 6 months 10,458
Over 6 through 12 months 14,111
Over 12 months 2,634
--------
Total time deposits of $100,000 or more $ 38,597
========
The Bank experiences relatively limited reliance on time
deposits of $100,000 or more. Time deposits of $100,000 or more
are a more volatile and costly source of funds than other deposits
and are most likely to affect the Company's future earnings because
of interest rate sensitivity. At June 30, 1998, deposits of
$100,000 or more represented approximately 14.6% of the Company's
total assets, compared to 14.5% of total assets at December 31,
1997.
ACCRUED INTEREST PAYABLE
Accrued interest payable consists of interest that has accrued
on deposits and notes payable, but is not yet payable under the
terms of the related agreements. The balance of accrued interest
payable decreased $79,000, or 8.3%, from $947,000 at December 31,
1997, to $868,000 at June 30, 1998, due to a decrease in accrued
interest payable on certificates of deposit at the Bank's Abilene
locations which had a significant amount of time deposits of
$100,000 or more that matured in the first half of 1998.
NOTES PAYABLE
The Company's notes payable decreased $53,000, or 93.0%, from
$57,000 at December 31, 1997, to $4,000 at June 30, 1998. The
decrease was due to the payment of the last installment on one of
the notes payable to the current and former directors.
OTHER LIABILITIES
The most significant components of other liabilities are
amounts accrued for various types of expenses. The balance of
other liabilities increased $113,000, or 46.7%, from $242,000 at
December 31, 1997, to $355,000 at June 30,
-24-
<PAGE>
1998, primarily due to an increase in the amount of insurance
premiums on indirect automobile loans that had been collected
from loan customers and were payable to the insurance company,
an increase in unearned safe deposit income because most customer
contracts for such services are on a calendar year basis and
increases in other accrued liabilities such as property taxes
that are normally paid on or around December 31.
INTEREST RATE SENSITIVITY
Interest rate risk arises when an interest-earning asset
matures or when its rate of interest changes in a time frame
different from that of the supporting interest-bearing liability.
The Company seeks to minimize the difference between the amount of
interest-earning assets and the amount of interest-bearing
liabilities that could change interest rates in the same time frame
in an attempt to reduce the risk of significant adverse effects on
the Company's net interest income caused by interest rate changes.
The Company does not attempt to match each interest-earning asset
with a specific interest-bearing liability. Instead, as shown in
the table below, it aggregates all of its interest-earning assets
and interest-bearing liabilities to determine the difference
between the two in specific time frames. This difference is known
as the rate-sensitivity gap. A positive gap indicates that more
interest-earning assets than interest-bearing liabilities mature in
a time frame, and a negative gap indicates the opposite.
Maintaining a balanced position will reduce risk associated with
interest rate changes, but it will not guarantee a stable interest
rate spread because the various rates within a time frame may
change by differing amounts and occasionally change in different
directions. Management regularly monitors the interest sensitivity
position and considers this position in its decisions in regard to
interest rates and maturities for interest-earning assets acquired
and interest-bearing liabilities accepted.
The Company's objective is to maintain a ratio of interest-
sensitive assets to interest-sensitive liabilities that is as
balanced as possible. The following table shows that ratio to be
67.6% at the 90-day interval, 58.9% at the 180-day interval and
52.8% at the 365-day interval at June 30, 1998. Currently, the
Company is in a liability-sensitive position at the three
intervals; however, the Company had $75,098,000 of interest-bearing
demand, savings and money market deposits at June 30, 1998, that
are somewhat less rate-sensitive. Excluding these types of
deposits, the Company's interest-sensitive assets to interest-
sensitive liabilities ratio at the 365-day interval would have been
91.6% at June 30, 1998. The interest sensitivity position is
presented as of a point in time and can be modified to some extent
by management as changing conditions dictate.
The following table shows the interest rate sensitivity
position of the Company at June 30, 1998.
<TABLE>
<CAPTION>
Volumes
Cumulative Volumes Subject to
Subject to Repricing Within Repricing
---------------------------------------- After
90 Days 180 Days 365 Days 1 Year Total
---------- ---------- ---------- ---------- ----------
<S> <C> <C> <C> <C> <C>
Interest-earning assets: (Dollars in thousands)
Federal funds sold $ 29,200 $ 29,200 $ 29,200 $ 0 $ 29,200
Securities 2,751 4,754 8,747 57,733 66,480
Loans, net of unearned income 42,055 46,605 55,648 85,161 140,809
---------- ---------- ---------- ---------- ----------
Total interest-earning assets 74,006 80,559 93,595 142,894 236,489
---------- ---------- ---------- ---------- ----------
Interest-bearing liabilities:
Demand, savings and money market
deposits 75,098 75,098 75,098 0 75,098
Time deposits 34,378 61,620 102,175 19,395 121,570
Notes payable 1 2 4 0 4
---------- ---------- ---------- ---------- ----------
Total interest-bearing liabilities 109,477 136,720 177,277 19,395 196,672
---------- ---------- ---------- ---------- ----------
Rate-sensitivity gap(1) $ (35,471) $ (56,161) $ (83,682) $ 123,499 $ 39,817
========== ========== ========== ========== ==========
Rate-sensitivity ratio(2) 67.6% 58.9% 52.8%
==== ==== ====
______________________________
(1) Rate-sensitive interest-earning assets less rate-sensitive
interest-bearing liabilities.
(2) Rate-sensitive interest-earning assets divided by rate-
sensitive interest-bearing liabilities.
</TABLE>
-25-
<PAGE>
SELECTED FINANCIAL RATIOS
The following table presents selected financial ratios
(annualized) for the quarters and six-month periods ended June 30,
1998 and 1997.
<TABLE>
<CAPTION>
Quarter Ended Six-month Period
June 30, Ended June 30,
----------------- -----------------
1998 1997(1) 1998 1997(1)
------- ------- ------- -------
<S> <C> <C> <C> <C>
Net income to:
Average assets 0.78% 0.85% 0.73% 0.83%
Average interest-earning assets 0.87 0.94 0.82 0.91
Average stockholders' equity 9.79 11.65 9.26 11.42
Dividend payout (2) to:
Net income 19.15 17.33 20.35 15.96
Average stockholders' equity 1.87 2.02 1.88 1.82
Average stockholders' equity to:
Average total assets 7.98 7.30 7.92 7.24
Average loans (3) 15.21 14.24 15.06 14.57
Average total deposits 8.72 7.95 8.65 7.88
Average interest-earning assets to:
Average total assets 89.78 90.71 89.52 90.86
Average total deposits 98.16 98.79 97.81 98.88
Average total liabilities 97.56 97.86 97.22 97.96
Ratio to total average deposits of:
Average loans (3) 57.35 55.86 57.44 54.11
Average noninterest-bearing deposits 18.03 17.01 17.70 16.77
Average interest-bearing deposits 81.97 82.99 82.30 83.23
Total interest expense to total interest income 45.90 46.88 46.48 47.35
Efficiency ratio (4) 68.15 69.72 68.17 69.45
_________________________
(1) Average balance sheet and income statement items for 1997
include the accounts for Crown Park from January 28, 1997, the
date of acquisition of such company.
(2) Dividends on Common Stock only.
(3) Before allowance for possible loan losses.
(4) Calculated as a noninterest expense less amortization of
intangibles and net expenses (revenues) related to other real
estate and other repossessed assets divided by the sum of
netinterest income before provision for loan losses and total
noninterest income, excluding securities gains and losses.
</TABLE>
Liquidity
- - - ---------
THE BANK
Liquidity with respect to a financial institution is the
ability to meet its short-term needs for cash without suffering an
unfavorable impact on its on-going operations. The need for the
Bank to maintain funds on hand arises principally from maturities
of short-term money market borrowings, deposit withdrawals,
customers' borrowing needs and the maintenance of reserve
requirements. Liquidity with respect to a financial institution
can be met from either assets or liabilities. On the asset side,
the primary sources of liquidity are cash and due from banks,
federal funds sold, maturities of securities and scheduled
repayments and maturities of loans. The Bank maintains adequate
levels of cash and near-cash investments to meet its day-to-day
needs. Cash and due from banks averaged $13,309,000 and
$13,664,000 during the second quarter and first six months of 1998,
respectively, and $10,369,000 and $9,803,000 during the second
quarter and first six months of 1997, respectively. These amounts
comprised 5.0% and 5.1% of average total assets during the second
quarter and first six months of 1998, respectively, and 3.9% and
3.8% of average total assets during the second quarter and first
six months of 1997, respectively. The average level of securities
and federal funds sold was $99,273,000 and $98,091,000 during the
second quarter and first six months of 1998,
-26-
<PAGE>
respectively, and $104,169,000 and $104,947,000 during the second
quarter and first six months of 1997, respectively. The decreases
from 1997 to 1998 were due primarily to an increase in loans and
a stable deposit base.
The Bank sold $193,000 of securities classified as available-
for-sale during the second quarter of 1997. The Bank sold no
securities during the six-month period ended June 30, 1998. At June
30, 1998, $8,754,000, or 13.2%, of the Company's securities
portfolio, excluding mortgage-backed securities, matured within one
year and $46,153,000, or 69.4%, excluding mortgage-backed
securities, matured after one but within five years. The Bank's
commercial lending activities are concentrated in loans with
maturities of less than five years and with adjustable interest
rates, while their installment lending activities are concentrated
in loans with maturities of three to five years and with fixed
interest rates. The Bank's experience, however, has been that
these installment loans are paid off in an average of approximately
thirty months. At June 30, 1998, approximately $55,648,000, or
39.5%, of the Company's loans, net of unearned income, matured
within one year and/or had adjustable interest rates.
Approximately $47,647,000, or 55.9%, of the Company's loans
(excluding loans to individuals) matured within one year and/or had
adjustable interest rates. See "Analysis of Financial Condition -
Loan Portfolio" above.
On the liability side, the principal sources of liquidity are
deposits, borrowed funds and the accessibility to money and capital
markets. Customer deposits are by far the largest source of funds.
During the second quarter and first six months of 1998, the
Company's average deposits were $243,228,000, or 91.5% of average
total assets, and $242,969,000, or 91.5% of average total assets,
respectively, compared to $242,633,000, or 91.8% of average total
assets, and $234,402,000, or 91.9% of average total assets, during
the second quarter and first six months of 1997, respectively. The
Company attracts its deposits primarily from individuals and
businesses located within the market areas served by the Bank. See
"Analysis of Financial Condition - Deposits" above.
The level of nonperforming assets has squeezed interest
margins and has resulted in noninterest expenses from net operating
costs and write-downs associated with nonperforming assets,
although the level of such nonperforming assets has generally been
decreasing over the past several years. In order to improve
liquidity, the Bank has implemented various cost-cutting and
revenue-generating measures and extended efforts to reduce
nonperforming assets.
THE COMPANY
The Company depends on the Bank for liquidity in the form of
cash flow, primarily to meet debt service and dividend requirements
and to cover other operating expenses. This cash flow from
subsidiaries comes from three sources: (1) dividends resulting from
earnings of the Bank, (2) current tax liabilities generated by the
Bank and (3) management and service fees for services performed for
the Bank.
The payment of dividends to the Company is subject to
applicable law and the scrutiny of regulatory authorities.
Dividends paid by the Bank to Independent Financial during both the
second quarter and first six months of 1998 totaled $250,000; in
turn, Independent Financial paid dividends to the Company totaling
$250,000 during the same time periods. Dividends paid by the Bank
to Independent Financial during the second quarter and first six
months of 1997 were $300,000 and $500,000, respectively; in turn,
Independent Financial paid dividends to the Company totaling
$300,000 and $500,000 during the same time periods of 1997,
respectively. At June 30, 1998, there were approximately
$3,025,000 in dividends available for payment to Independent
Financial by the Bank without regulatory approval.
The payment of current tax liabilities generated by the Bank
and management and service fees constituted 54% and 5%,
respectively, of the Company's cash flow from the Bank during the
second quarter of 1998. These percentages were 66% and 7%,
respectively, for the first six months of 1998. Pursuant to a tax-
sharing agreement, the Bank pays to the Company an amount equal to
its individual tax liability on the accrual method of federal
income tax reporting. The accrual method generates more timely
payments of current tax liabilities by the Bank to the Company,
increasing the regularity of cash flow and shifting the time value
of such funds to the Company. In the event that the Bank incurs a
loss, the Company may be required to refund tax liabilities
previously collected. Current tax liabilities totaling $345,000
and $657,000 were paid by the Bank to the Company during the second
quarter and first six months of 1998, respectively, compared to a
total of $347,000 and $691,000 during the second quarter and the
first six months of 1997.
-27-
<PAGE>
From January 1, 1989, through December 31, 1995, the Company
collected federal income taxes from the Bank based on an effective
tax rate of approximately 34% and paid taxes to the federal
government at the rate of approximately 2% as a result of the
utilization of the Company's net operating loss carryforwards for
both regular tax and alternative minimum tax purposes. At December
31, 1995, the Company's net operating loss carryforwards for
alternative minimum tax purposes had been fully utilized. As a
result, the Company began paying federal income taxes at the
effective tax rate of approximately 20% during the first quarter
of 1996. The net operating carryforwards available for regular
federal income tax purposes were fully utilized by December 31,
1997. The Company still has net tax credit carryforwards available
for alternative minimum tax purposes which should not be fully
utilized before December 31, 1998.
The Bank pays management fees to the Company for services
performed. These services include, but are not limited to,
financial and accounting consultation, attendance at the Bank's
board meetings, audit and loan review services and related
expenses. The Bank paid a total of $33,000 and $73,000 in
management fees to the Company in the second quarter and first six
months of 1998, respectively, compared to $34,000 and $76,000 paid
by the Bank during the second quarter and first six months of 1997,
respectively. The Company's fees must be reasonable in relation to
the management services rendered, and the Bank is prohibited from
paying management fees to the Company if the Bank would be
undercapitalized after any such distribution or payment.
Capital Resources
- - - -----------------
At June 30, 1998, stockholders' equity totaled $21,310,000, or
8.1% of total assets, compared to $20,527,000, or 7.8% of total
assets, at December 31, 1997.
Bank regulatory authorities in the United States have risk-
based capital standards by which all bank holding companies and
banks are evaluated in terms of capital adequacy. These guidelines
relate a banking company's capital to the risk profile of its
assets. The risk-based capital standards require all banking
companies to have Tier 1 capital of at least 4% and total capital
(Tier 1 and Tier 2 capital) of at least 8% of risk-weighted assets,
and to be designated as well-capitalized, the banking company must
have Tier 1 and total capital ratios of at least 6% and 10%,
respectively. For the Company, Tier 1 capital includes common
stockholders' equity and qualifying perpetual preferred stock,
reduced by goodwill. For the Company, Tier 2 capital is comprised
of all of the allowance for possible loan losses.
Banking regulators also have leverage ratio requirements. The
leverage ratio requirement is measured as the ratio of Tier 1
capital to adjusted quarterly average assets. The leverage ratio
standards require all banking companies to have a minimum leverage
ratio of at least 4% and to be designated as well-capitalized, the
banking company must have a leverage ratio of at least 5%. The
following table provides a calculation of the Company's risk-based
capital and leverage ratios and a comparison of the Company's and
the Bank's risk-based capital ratios and leverage ratios to the
minimum regulatory and well-capitalized minimum requirements at
June 30, 1998.
-28-
<PAGE>
<TABLE>
<CAPTION>
The Company June 30, 1998
----------- -----------------------
(Dollars in thousands)
<S> <C>
Tier 1 capital:
Common stockholders' equity, excluding unrealized gain on
available-for-sale securities $ 21,058
Preferred stockholders' equity (1) 213
Goodwill (3,046)
---------
Total Tier 1 capital 18,225
---------
Tier 2 capital:
Allowance for possible loan losses (2) 1,121
---------
Total Tier 2 capital 1,121
---------
Total capital $ 19,346
=========
Risk-weighted assets $ 153,697
=========
Adjusted quarterly average assets $ 262,857
=========
</TABLE>
<TABLE>
<CAPTION>
Regulatory Well-capitalized Actual Ratios at
The Company Minimum Minimum June 30, 1998
- - - ----------- --------------- ---------------- ----------------
<S> <C> <C> <C>
Tier 1 capital to risk-weighted assets ratio 4.00% 6.00% 11.86%
Total capital to risk-weighted assets ratio 8.00 10.00 12.59
Leverage ratio 4.00 5.00 6.93
The Bank
- - - --------
Tier 1 capital to risk-weighted assets ratio 4.00% 6.00% 10.93%
Total capital to risk-weighted assets ratio 8.00 10.00 11.66
Leverage ratio 4.00 5.00 6.45
___________________________
(1) Limited to 25% of total Tier 1 capital, with any remainder
qualifying as Tier 2 capital.
(2) Limited to 1.25% of risk-weighted assets.
</TABLE>
The Federal Deposit Insurance Corporation Improvement Act of
1991 ("FDICIA") requires each federal banking agency to revise its
risk-based capital standards to ensure that those standards take
adequate account of interest rate risk, concentration of credit
risk and the risks of non-traditional activities, as well as
reflect the actual performance and expected risk of loss on multi-
family mortgages. This law also requires each federal banking
agency to specify the levels at which an insured institution would
be considered "well capitalized," "adequately capitalized,"
"undercapitalized," "significantly undercapitalized" and
"critically undercapitalized." Under the FDIC's regulations, the
Company and the Bank were both "well capitalized" at June 30, 1998.
The Company's ability to generate capital internally through
retention of earnings and access to capital markets is essential
for satisfying the capital guidelines for bank holding companies as
prescribed by the Federal Reserve Board.
The payment of dividends on the Common Stock and Series C
Cumulative Convertible Preferred Stock (the "Series C Preferred
Stock") is determined by the Company's Board of Directors in light
of circumstances and conditions then existing, including the
earnings of the Company and the Bank, funding requirements and
financial condition and applicable laws and regulations. The
Company's ability to pay cash dividends is restricted by the
requirement that it maintain a certain level of capital as
discussed above in accordance with regulatory guidelines.
-29-
<PAGE>
Holders of the Series C Preferred Stock are entitled to receive,
if, as and when declared by the Company's Board of Directors,
out of funds legally available therefor, quarterly cumulative
cash dividends at the annual rate of 10%. The Federal Reserve
Board has promulgated a policy prohibiting bank holding companies
from paying dividends on common stock unless such bank holding
company can pay such dividends from current earnings. The
Federal Reserve Board has asserted that this policy is also
applicable to payment of dividends on preferred stock. Such an
interpretation may limit the ability of the Company to pay
dividends on the Series C Preferred Stock.
The Company began paying quarterly cash dividends of $0.03 per
share on the Common Stock during the second quarter of 1994. The
Company also paid a 4-for-3 stock split, effected in the form of a
33-1/3% stock dividend, on May 31, 1995. The Company's Board of
Directors increased the Company's quarterly Common Stock cash
dividend to $0.05 per share during the second quarter of 1996. In
addition, the Company paid a 5-for-4 stock split, effected in the
form of a 25% stock dividend, on May 30, 1997.
At its meeting on July 15, 1998, the Board of Directors of the
Company approved the payment of the regular quarterly cash dividend
of $0.05 per share on August 31, 1998, to shareholders of record of
the Common Stock on August 17, 1998.
Year 2000 Compliance
- - - --------------------
The inability of computers, software and other equipment
utilizing microprocessors to recognize and properly process data
fields containing a four digit year is commonly referred to as the
Year 2000 Compliance issue. As the year 2000 approaches, such
systems may be unable to accurately process certain date-based
information.
The Company believes it has identified all significant
applications that will require modification to ensure Year 2000
Compliance. Internal and external resources are being used to make
the required modifications and test Year 2000 Compliance. The
modification process of all significant applications by outside
hardware and software suppliers is substantially complete. The
Company plans on completing the testing process of all significant
applications by December 31, 1998.
The Company leased virtually all of its computer hardware
under leases that expired during the first six months of 1998. The
Company replaced this hardware, as well as the software used for
its main operating system and major banking applications, during
this same time period. The Company believes all such hardware and
software to be Year 2000 compliant.
In addition, the Company has had formal communications with
other vendors with which it does significant business to determine
their Year 2000 readiness and the extent to which the Company
appears vulnerable to any third party Year 2000 issues. There can
be no assurance, however, that the systems of other companies will
be timely converted, or that a failure to convert by another
company, or a conversion that is incompatible with the Company's
systems, would not have a material adverse effect on the Company.
As a result of the timing of the replacement and upgrade of
the Company's hardware and software, the total cost to the Company
of Year 2000 Compliance activities has not been, and is not
anticipated to be, material to the Company's financial position or
results of operations in any given year. Year 2000 compliance
costs and the date on which the Company plans to complete the Year
2000 modifications and testing processes are based on management's
best estimates, which were derived utilizing numerous assumptions
of future events, including the continued availability of certain
resources, third party modification plans and other factors. There
can be no assurance, however, that these estimates will be achieved
and actual results could differ from those plans.
-30-
<PAGE>
PART II
OTHER INFORMATION
Item 1. Legal Proceedings.
In November 1995, the Pension Benefit Guaranty Corporation
(the "PBGC") sent a letter to the Company regarding the Retirement
Plan for Employees of the Texas Bank and Trust Co., Sweetwater,
Texas (the "Plan"). In the letter, the PBGC alleged that the
Company was responsible for the Plan and asked that the Company
assume sponsorship of the Plan. The Company declined the PBGC's
request to assume responsibility for, and sponsorship of, the Plan.
If the Company had assumed responsibility for the Plan, the Company
would have owed as of June 30, 1995, according to PBGC
calculations, approximately $656,000 to the PBGC. In response, the
PBGC, in June 1996, terminated the Plan and became the Plan's
trustee, effective as of June 30, 1992.
Texas Bank and Trust Co., Sweetwater, Texas ("Texas Bank"),
became a repossessed asset of The First State Bank, Abilene, Texas
("FSB - Abilene"), a former subsidiary of the Company, through a
bank foreclosure that occurred in 1985. FSB - Abilene was placed
into receivership by the Federal Deposit Insurance Corporation (the
"FDIC") on February 17, 1989. Texas Bank was placed into
receivership by the FDIC on July 27, 1989.
The Company did not intend to assume any responsibility for
the Plan and had decided to vigorously contest any attempt by the
PBGC to have the Company assume responsibility with respect to any
aspect of the Plan. The statute of limitations for any action to be
taken by the PBGC against the Company regarding this matter was set
to expire on June 30, 1998. The PBGC indicated to the Company that
as of June 30, 1998, the Company's potential responsibility to the
Plan, according to PBGC calculations, was in excess of $1,000,000.
The Company and the PBGC entered into settlement negotiations, and
on June 30, 1998, the Company and the PBGC executed a tolling
agreement to extend the expiration of the statute of limitations
regarding this matter to July 20, 1998. A settlement agreement was
negotiated and consummated on July 20, 1998, and the Company paid
a total of $125,000 ($83,000, net of tax) to the PBGC to avoid
costs of litigation regarding this matter. This amount was accrued
into expense in the Company's Consolidated Financial Statements at
June 30, 1998.
The Company is involved in various litigation proceedings
incidental to the ordinary course of business. In the opinion of
management, the ultimate liability, if any, resulting from such
litigation would not be material in relation to the Company's
financial position or results of operations.
Item 2. Changes in Securities.
None
Item 3. Defaults upon Senior Securities.
None
Item 4. Submission of Matters to a Vote of Security Holders.
None
Item 5. Other Information.
None
-31-
<PAGE>
Item 6. Exhibits and Reports on Form 8-K.
(a) Exhibits
27.1 Financial Data Schedule
(b) Reports on Form 8-K
Current Report on Form 8-K, dated June 19, 1998 reporting
the execution of the Agreement and Plan of Reorganization
dated May 29, 1998, between the Company and Azle Bancorp.
-32-
<PAGE>
SIGNATURE
Pursuant to the requirements of the Securities Exchange Act of
1934, the registrant has duly caused this report to be signed on
its behalf by the undersigned thereunto duly authorized.
Date: August 4, 1998 Independent Bankshares, Inc.
(Registrant)
By: /s/ RANDAL N. CROSSWHITE
--------------------------------
Randal N. Crosswhite
Senior Vice President and Chief
Financial Officer
-33-
<TABLE> <S> <C>
<ARTICLE> 9
<LEGEND>
THIS SCHEDULE CONTAINS SUMMARY FINANCIAL INFORMATION EXTRACTED FROM THE
UNAUDITED FINANCIAL STATEMENTS FOR INDEPENDENT BANKSHARES, INC. FOR THE SIX
MONTHS ENDED JUNE 30, 1998 AND IS QUALIFIED IN ITS ENTIRETY BY REFERENCE TO SUCH
FINANCIAL STATEMENTS.
</LEGEND>
<MULTIPLIER> 1
<S> <C>
<PERIOD-TYPE> 6-MOS
<FISCAL-YEAR-END> DEC-31-1998
<PERIOD-START> JAN-01-1998
<PERIOD-END> JUN-30-1998
<CASH> 13,111,000
<INT-BEARING-DEPOSITS> 0
<FED-FUNDS-SOLD> 29,200,000
<TRADING-ASSETS> 0
<INVESTMENTS-HELD-FOR-SALE> 26,332,000
<INVESTMENTS-CARRYING> 66,480,000
<INVESTMENTS-MARKET> 66,570,000
<LOANS> 140,809,000<F1>
<ALLOWANCE> 1,121,000
<TOTAL-ASSETS> 263,501,000
<DEPOSITS> 240,964,000
<SHORT-TERM> 4,000
<LIABILITIES-OTHER> 1,223,000
<LONG-TERM> 0
51,000
51,000
<COMMON> 497,000
<OTHER-SE> 20,762,000
<TOTAL-LIABILITIES-AND-EQUITY> 263,501,000
<INTEREST-LOAN> 6,333,000
<INTEREST-INVEST> 1,973,000
<INTEREST-OTHER> 918,000
<INTEREST-TOTAL> 9,224,000
<INTEREST-DEPOSIT> 4,286,000
<INTEREST-EXPENSE> 4,287,000
<INTEREST-INCOME-NET> 4,937,000
<LOAN-LOSSES> 300,000
<SECURITIES-GAINS> 0
<EXPENSE-OTHER> 4,437,000
<INCOME-PRETAX> 1,537,000
<INCOME-PRE-EXTRAORDINARY> 1,537,000
<EXTRAORDINARY> 0
<CHANGES> 0
<NET-INCOME> 973,000
<EPS-PRIMARY> 0.49
<EPS-DILUTED> 0.47
<YIELD-ACTUAL> 4.16
<LOANS-NON> 57,000
<LOANS-PAST> 78,000
<LOANS-TROUBLED> 87,000
<LOANS-PROBLEM> 0
<ALLOWANCE-OPEN> 1,173,000
<CHARGE-OFFS> 398,000
<RECOVERIES> 46,000
<ALLOWANCE-CLOSE> 1,121,000
<ALLOWANCE-DOMESTIC> 1,121,000
<ALLOWANCE-FOREIGN> 0
<ALLOWANCE-UNALLOCATED> 327,000
<FN>
<F1>Net of unearned income on installment loans of $882,000.
</FN>
</TABLE>
