SECURITIES AND EXCHANGE COMMISSION
Washington, D. C. 20549
FORM 10-K
[ X ] ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE
ACT OF 1934 For the Fiscal Year Ended December 31, 1998
OR
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF SECURITIES EXCHANGE
ACT OF 1934
Commission File Number 0-5929
F&M NATIONAL CORPORATION
(Exact Name of Registrant as specified in its charter)
VIRGINIA 54-0857462
(State or other jurisdiction (IRS Employer
of incorporation or organization) Identification umber)
9 COURT SQUARE, WINCHESTER, VIRGINIA 22601
(Address of principal executive offices, including Zip Code)
(540) 665-4200
(Registrant's telephone number, including area code)
SECURITIES REGISTERED PURSUANT TO SECTION 12(b) OF THE ACT:
Common Stock, $2.00 par value
(Title of Class)
New York Stock Exchange
(Name of each exchange on which registered)
SECURITIES REGISTERED PURSUANT TO SECTION 12(g) OF THE ACT: None
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 by check mark if disclosure of delinquent filers pursuant to Item 405
of Regulation S-K (229.405 of this chapter) is not contained herein, and will
not be contained, to the best of the registrant's knowledge, in definitive proxy
or information statements incorporated by reference in Part III of this Form
10-K or any amendment to this Form 10-K. [ ]
State the aggregate market value of the voting stock held by the non-affiliates
of the Registrant. The aggregate market value is computed by reference to the
closing price of such stock as reported by the New York Stock Exchange on
February 26, 1999: $ 577,531,013
NUMBER OF SHARES OF COMMON STOCK OUTSTANDING AT FEBRUARY 26, 1998: 21,818,588
DOCUMENTS INCORPORATED BY REFERENCE
(1) Portions of the Registrant's Annual Report to Shareholders for the fiscal
year ended December 31, 1998, are incorporated by reference in Parts II and
IV hereof; and
(2) Portions of Registrant's 1999 Proxy Statement dated March 23, 1999, are
incorporated by reference in Part III hereof.
<PAGE>
PART I
ITEM 1. BUSINESS.
(A) GENERAL DEVELOPMENT OF BUSINESS
The following is a summary of the major developments in F&M's business
since January 1, 1998 (F&M National Corporation is referred to herein as "F&M"
or the "Company"):
On January 1, 1998, F&M Trust Company was formed by consolidating the
trust departments of F&M Bank-Winchester, F&M Bank-Peoples, and F&M
Bank-Northern Virginia.
On April 1, 1998, Peoples Bank of Virginia ("PBVA"), Chesterfield,
Virginia, merged with and into F&M Bank-Richmond. Each share of common stock of
PBVA outstanding immediately prior to consummation of the merger was exchanged,
in a tax-free exchange, for 2.58 shares of the common stock of F&M, with cash
being paid in lieu of issuing fractional shares. At December 31, 1997, PBVA had
total assets of $80.4 million, total loans of $47.0 million, total deposits of
$70.4 million and total shareholders' equity of $8.2 million. The merger was
accounted for as a pooling of interests.
On April 1, 1998, F&M Bank-Richmond opened the following four branch
offices which were formerly branch offices of PBVA: 9970 Ironbridge Road,
Chesterfield, Virginia, 5756 Hopkins Road, Richmond, Virginia, 11450 Midlothian
Turnpike, Richmond, Virginia and 11010 Hull Street Road, Richmond, Virginia. One
former branch office of PVBA located at 9440 Ironbridge Road, Chesterfield,
Virginia was closed.
On April 30, 1998, F&M and J.V. Arthur, Inc, ("JVA"), Winchester,
Virginia, announced an agreement of affiliation of JVA with F&M Bank-Winchester,
F&M's lead bank. On May 1, 1998, F&M expanded its product base with the
acquisition JVA, which offers a full line of insurance products including
automobile, home, group, life and business insurance. The acquisition was
accounted for as a pooling of interests with payment in the form of F&M common
stock.
On June 1, 1998, The Bank of Alexandria ("BOA"), Alexandria, Virginia,
merged with and into F&M Bank-Northern Virginia. Each share of common stock of
BOA outstanding immediately prior to consummation of the merger was exchanged,
in a tax-free exchange, for 0.942 shares of common stock of F&M, with cash being
paid in lieu of issuing fractional shares. At December 31, 1997, BOA had total
assets of $75.9 million, total loans of $58.2 million, total deposits of $67.6
million, and total shareholders' equity of $7.9 million. The merger was
accounted for as a pooling of interests.
<PAGE>
On June 1, 1998, F&M Bank-Northern Virginia opened the following four
branch offices, which were formerly branch offices of BOA: 1717 King Street,
Alexandria, Virginia, 7901 Richmond Highway, Alexandria, Virginia, 606 King
Street, Alexandria, Virginia, and 2111 Eisenhower Avenue, Alexandria, Virginia.
One former branch of BOA located at 200 Washington Street, Alexandria, Virginia
was closed.
On September 21, 1998, F&M Bank-Richmond opened branch offices at the
following locations: 4851 Laburnam Avenue, Richmond, Virginia and 17650
Midlothian Turnpike, Chesterfield, Virginia
On October 1, 1998, F&M Bank-West Virginia opened a branch office at
Wal-Mart, Route 4, Box 82, Keyser, West Virginia.
On October 20, 1998, F&M Bank-Northern Virginia opened a branch office
at 25393 Elklick Road, South Riding, Virginia
On November 10, 1998, F&M and Security Bank Corporation ("Security"),
Manassas, Virginia announced that their respective Boards of Directors approved
an agreement for the affiliation of Security with F&M. The merger agreement
provided for the merger of Security with F&M's affiliate, F&M Bank-Northern
Virginia, and F&M to exchange the number of its shares of common stock whose
aggregate market value determined as of the date of the closing equals $17.25.
The affiliation with Security closed on March 22, 1999 with F&M exchanging, in a
tax-free transaction, 0.653 shares of F&M common stock for each share of
Security common stock. The merger was accounted for as a pooling of interests.
At December 31, 1998, Security had total assets of $61.2 million, total loans of
$34.3 million, Deposits of $52.4 million, and total stockholders' equity of $7.9
million.
On December 1, 1998, Credit Bureau of Winchester ("CBW") discontinued
business. CBW, a wholly owned subsidiary of F&M Bank-Winchester, provided
customer credit information to subsidiary banks.
(B) FINANCIAL INFORMATION ABOUT INDUSTRY SEGMENTS
F&M and its subsidiaries are engaged primarily in only one industry
segment, banking, the making of commercial and personal loans and similar credit
transactions, and other activities closely related to banking.
(C) NARRATIVE DESCRIPTION OF THE BUSINESS
THE COMPANY
GENERAL
F&M National Corporation is a multi-bank holding company headquartered
in Winchester, Virginia. F&M's nine subsidiary banks operate 119 banking offices
offering a full range of banking services principally to individuals and small
and middle-market business in north, central and south Virginia including the
Shenandoah Valley, and the eastern panhandle of West Virginia, and the counties
of Montgomery and Prince George's in Maryland. At December 31, 1998, F&M had
assets of $2.889 billion, deposits of $2.436 billion and shareholders' equity of
$287.1 million.
<PAGE>
F&M was formed in 1969 to serve as the parent holding company of its
then sole subsidiary bank, F&M Bank-Winchester, organized in 1902. Since its
organization, F&M has acquired 22 banks, which expanded its market area and
increased market share in Virginia, West Virginia and Maryland.
The following table sets forth certain information concerning F&M and
its operating subsidiaries at December 31, 1998:
<TABLE>
<CAPTION>
DATE BANKING TOTAL TOTAL TOTAL
ACQUIRED OFFICES ASSETS LOANS DEPOSITS
-------------------------------------------------------------------
(Dollars in thousands)
<S> <C> <C> <C> <C> <C>
F&M Bank-Winchester
Winchester, VA (1) 1970 32 $ 794,024 $ 498,244 $ 694,736
F&M Bank-Massanutten
Harrisonburg, VA (2) 1980 9 230,164 177,548 191,068
F&M Bank-Richmond
Richmond, VA (3) 1982 15 300,559 159,893 271,640
F&M Bank-Central
Virginia
Charlottesville, VA 1985 7 87,102 40,362 73,944
F&M Bank-West Virginia
Ranson, WV (4) 1988 13 328,315 212,587 287,444
F&M Bank-Emporia
Emporia, VA 1993 3 74,149 34,946 65,089
F&M Bank-Peoples
Warrenton, VA 1994 4 122,522 81,397 107,787
F&M Bank-Northern VA
Fairfax, VA (5) 1996 27 701,491 380,778 601,433
F&M Bank-Allegiance
Bethesda, MD 1996 9 203,674 107,287 142,881
F&M (Parent only) - - 46,714 - -
----- ---------- --------- ---------
Total 119 $2,888,714 $1,693,042 $ 2,436,022
</TABLE>
- -----------------
(1) Includes F&M Mortgage Services, Inc., and two insurance agencies. Also
includes the 1993 purchase of substantially all of the assets and assumption
of certain liabilities of Farmers and Merchants Bank of Hamilton (the
"Hamilton Bank').
(2) Includes the merger in 1995 of F&M Bank-Broadway, Broadway, Virginia, into
F&M Bank-Massanutten.
(3) Includes the acquisition in 1998 of Peoples Bank of Virginia, Chesterfield,
Virginia.
(4) Created from the consolidation in 1998 of F&M Bank-Blakeley, F&M
Bank-Martinsburg and F&M Bank-Keyser.
(5) Includes the acquisition in 1994 of Hallmark Bank and Trust, Springfield,
Virginia, the acquisition in 1995 of The Bank of the Potomac, Herndon,
Virginia, the acquisition in 1996 of FB&T Financial Corporation, Fairfax,
Virginia and the acquisition in 1998 of The Bank of Alexandria, Alexandria,
Virginia.
<PAGE>
The business strategy of F&M is to provide its customers with the
financial sophistication and breadth of products of a regional bank, while
retaining the local appeal and level of service of a community bank. F&M has
maintained its community orientation by allowing its subsidiary banks latitude
to tailor products and services to meet community and customer needs. While F&M
has preserved the autonomy of its subsidiary banks, it has established
system-wide policies governing, among other things, lending practices, credit
analysis and approval procedures, as well as guidelines for deposit pricing and
investment portfolio management. In addition, F&M has established a centralized
loan review team that regularly performs a detailed, on-site review and analysis
of each subsidiary bank's loan portfolio to ensure the consistent application of
credit policies and procedures system-wide. An officer or representative of F&M
serves on the board of directors of each subsidiary bank to monitor operations
and to serve as a liaison to the Company.
F&M's subsidiary banks are community-oriented and offer services
customarily provided by full-service banks, including individual and commercial
demand and time deposit accounts, commercial and consumer loans, residential
mortgages, credit card services and safe deposit boxes. Lending is focused on
individuals and small and middle-market businesses in the local market regions
of each of F&M's subsidiary banks. In 1998, F&M Trust Company was formed by
consolidating the trust departments of F&M Bank-Winchester, F&M Bank-Peoples,
and F&M Bank-Northern Virginia. F&M Trust Company provides a variety of personal
trust services including management of common trust funds, estate administration
and planning specifically addressing the investment and financial management
needs of its customers. At December 31, 1998, F&M Trust Company managed assets
and accounts totaling $586.4 million.
F&M operates in seven market regions: the Shenandoah Valley of Virginia;
the eastern panhandle of West Virginia; Charlottesville/Albemarle County and
surrounding areas; Greenville County in southside Virginia; suburban Richmond,
primarily Henrico and Chesterfield Counties; the northern Virginia areas of
Loudoun, Fairfax, and Prince William Counties; Stafford, Warrenton and
surrounding Fauquier County area and the counties of Montgomery and Prince
George's in Maryland. The more populous sectors within each of the seven market
regions experienced substantial population growth between 1980 and 1990, most of
which exceeded 20% growth. At December 31, 1998, F&M operated 34 banking offices
in the Shenandoah Valley from Winchester to Harrisonburg with deposits of $719.9
million; 13 banking offices in the eastern panhandle of West Virginia with
deposits of $287.4 million; 7 banking offices in the Charlottesville/Albemarle
County area with deposits of $73.9 million; 3 banking offices in Emporia,
<PAGE>
Virginia, and surrounding Greenville County with deposits of $65.1 million; 15
banking offices in suburban Richmond, Virginia, with deposits of $271.6 million;
34 banking offices in Loudoun, Fairfax and Prince William Counties of northern
Virginia with deposits of $769.3 million; 4 offices in the town of Warrenton and
Fauquier and Stafford Counties with deposits of $107.8 million; and 9 offices in
the counties of Montgomery and Prince George's in Maryland with deposits of
$142.9 million. F&M's principal market is Winchester and the surrounding six
Virginia counties where its lead bank, F&M Bank-Winchester, is the dominant
financial institution in terms of deposit market share, with a 51% share of
total deposits in Winchester, a 23% share of total deposits in surrounding
Frederick County, a 29% share of total deposits in Warren County, and a 16%
share of total deposits in Loudoun County. In Rockingham County, which has the
largest population of any county or city in the Shenandoah Valley, F&M has a 15%
deposit market share. In F&M's three-county West Virginia market, F&M has a 26 %
deposit market share in Jefferson County (which includes Charles Town), a 17%
deposit market share in Berkeley County (which includes Martinsburg) and a 42%
deposit market share in Mineral County (which includes Keyser). In Fairfax,
Prince William and Fauquier Counties (including Warrenton), F&M has 3%, 4%, and
16%, respectively, of deposit market share. Although F&M's deposit market share
in the Richmond and Charlottesville areas is small, F&M has positioned its
banking offices in these two markets to increase deposit market share as a
result of continued business and population growth in the suburban markets
surrounding Richmond and Charlottesville. In F&M's two-county Maryland market,
F&M is positioning itself to increase market share in Montgomery County and
Prince George's County.
F&M's subsidiary banks have not experienced loan quality deterioration
due to conservative underwriting standards and focused in-market lending
practices. At December 31, 1998, F&M had total nonperforming assets of
approximately $26.9 million, representing 1.58% of period end loans and
foreclosed properties.
F&M also operates F&M Mortgage Services, Inc., which offers both fixed
and adjustable rate residential mortgage loans and servicing. F&M Mortgage
Services Inc., F&M Bank-Northern Virginia and F&M Bank-Peoples sell into the
secondary market permanent residential mortgage loans that conform to GNMA and
FNMA underwriting guidelines. These F&M subsidiaries purchase government insured
1-4 family FHA and VA loans and resell them immediately in package form.
ACQUISITION PROGRAM
F&M has expanded its market area and increased its market share through
both internal growth and strategic acquisitions. Since the beginning of 1988,
F&M has acquired approximately $1.4 billion in assets and approximately $1.2
billion in deposits through 14 acquisitions. 1998 acquisitions by F&M are
outlined in "ITEM 1. BUSINESS (a) General Development of Business."
Management believes there are additional opportunities to acquire
financial institutions or to acquire assets and deposits that will allow F&M to
enter adjacent markets or increase market share in existing markets. Management
intends to pursue acquisition opportunities in strategic markets where its
managerial, operational and capital resources will enhance the performance of
acquired institutions. There can be no assurance that F&M will be able to
successfully effect any additional acquisition activity, or that any such
acquisition activity will have a positive effect on the value of shares of F&M
Common Stock.
<PAGE>
ANTI-TAKEOVER PROVISIONS
The Company's Articles of Incorporation and the Virginia Stock
Corporation Act contain certain anti-takeover provisions, including (i) the
Affiliated Transactions statue which places restrictions on any significant
transaction between a publicly held Virginia corporation and any shareholder who
owns more than 10% of any class of its outstanding shares, (ii) the Control
Share Acquisitions statue which provides that a shareholder who purchases shares
in any one of three statutory ranges (20%-33 1/3%, 33 1/3%-50%, and 50% or more
of the outstanding shares) cannot vote those shares on any matter unless the
acquisition of the additional shares has been approved by disinterested
shareholders, and (iii) a super-majority provision in the Articles of
Incorporation that requires the affirmative vote of at lease 80% of the
outstanding voting shares on significant transactions, unless at least
two-thirds of the Board of Directors then in office have approved the
transaction.
EMPLOYEES
At December 31, 1998, F&M had 1,244 full time and 293 part time
employees. No employees are represented by any collective bargaining unit. F&M
considers relations with its employees to be good.
MARKET REGIONS
The market regions of F&M extend from the eastern panhandle of West
Virginia southward to Virginia in Winchester, the surrounding Shenandoah Valley
through Harrisonburg and Rockingham County and eastward to Loudoun, Fauquier,
Stafford and Prince William counties, to the central Virginia markets of
Charlottesville and Richmond, southern Virginia market in Emporia and Greenville
County and Montgomery and Prince George's counties in Maryland. The following
table displays the market and population data for each of the market regions:
<TABLE>
<CAPTION>
BANKING % MARKET MARKET 1990
COUNTY/CITY (1) OFFICES SHARE (2) RANK (2) POPULATION
- ------------------------------- ------------ ------------ ----------- ----------------
<S> <C> <C> <C> <C>
STATE OF VIRGINIA:
Shenandoah Valley:
City of Winchester 10 51 1 21,947
Frederick County 5 23 1 45,723
Warren County 4 29 1 26,142
Shenandoah County 3 9 5 31,636
Clarke County 1 22 2 12,101
Rappahannock County 1 43 2 6,622
Rockingham County 4 19 3 57,482
City of Harrisonburg 5 13 5 30,707
Northern Virginia:
City of Alexandria 5 4 4 111,182
City of Fairfax 1 10 5 20,959
City of Falls Church 2 2 7 8,982
City of Manassas 3 10 4 33,399
</TABLE>
<PAGE>
<TABLE>
<CAPTION>
BANKING % MARKET MARKET 1990
COUNTY/CITY (1) OFFICES SHARE (2) RANK (2) POPULATION
- ------------------------------- ------------ ------------ ----------- ----------------
<S> <C> <C> <C> <C>
Loudoun County 8 16 1 86,100
Fairfax County 12 2 11 819,000
Fauquier County 3 16 2 52,000
Prince William County 3 4 7 216,000
Stafford County 1 1 10 61,000
Charlottesville/
Albemarle County:
City of Charlottesville 1 * 8 40,341
Albemarle County 3 8 7 68,040
Nelson County 2 35 2 12,778
Amherst County 1 6 6 28,578
Richmond:
City of Richmond 3 1 8 203,056
Henrico County 4 3 8 217,881
Chesterfield County 7 7 7 209,274
Emporia:
City of Emporia 3 32 1 14,109
STATE OF WEST VIRGINIA:
Jefferson County 5 26 2 35,926
Berkeley County 5 17 3 59,253
Mineral County 3 42 1 26,697
STATE OF MARYLAND:
Montgomery County 6 1 16 821,035
Prince George's 3 1 NM 769,747
State of Virginia 95 3 7 6,187,358
State of West Virginia 13 2 11 1,793,477
State of Maryland 9 * NM 4,781,000
</TABLE>
- ------------
* Represents less than 1% deposit market share NM=Not meaningful
(1) In Virginia, certain cities are separate political entities and not part
of the counties that surround them. The city of Winchester and Frederick
County, the city of Harrisonburg and Rockingham County, the city of
Charlottesville and Albemarle County, the city of Fairfax and Fairfax
County and the city of Richmond and Henrico and Chesterfield Counties are
examples. The FDIC and OTS provide deposit data for each separately
incorporated city.
(2) Deposit data includes total bank and thrift deposits and is based on FDIC
and OTS data as of June 30, 1998, which is the most recently available
information.
<PAGE>
LENDING ACTIVITIES
All of F&M's subsidiary banks offer both commercial and consumer loans,
but lending activity is generally focused on consumers and small to middle
market businesses within each subsidiary banks' respective market regions. Four
of F&M's subsidiary banks, F&M Bank-Massanutten, F&M Bank-West Virginia, F&M
Bank-Emporia, and F&M Bank-Peoples emphasize consumer lending with activities
focused primarily on residential real estate and consumer lending. F&M
Bank-Richmond, F&M Bank-Central Virginia, F&M Bank-Northern Virginia and F&M
Bank-Allegiance are based in larger markets where commercial loan demand is
stronger and, as a result, their lending activities place a greater emphasis on
small to medium sized business. F&M Bank-Winchester, because of its size and
dominant position in its market, has a greater opportunity to appeal to large
commercial customers in addition to consumers.
The following table sets forth the composition of F&M's loan portfolio
(by percentage) for the three years ended December 31:
<TABLE>
<CAPTION>
1998 1997 1996
--------------- ---------------- ---------------
<S> <C> <C> <C>
Commercial 16.6% 16.7% 15.6%
Real estate construction 6.0 5.8 4.6
Real estate mortgage:
Residential (1-4 family) 30.1 30.9 31.1
Home equity lines 3.5 4.2 4.5
Multifamily 1.8 2.0 2.3
Nonfarm, nonresidential(1) 30.0 28.4 28.9
Agricultural 0.9 1.1 1.2
--------------- ---------------- ---------------
Real estate mortgage subtotal 65.2 66.6 68.0
Loans to individuals:
Consumer 10.9 9.3 9.8
Credit card 1.3 1.6 1.6
--------------- ---------------- ---------------
Loans to individuals subtotal 12.2 10.9 11.8
Total Loans 100.0% 100.0% 100.0%
Total loans (dollars) $ 1,693,041 $ 1,648,754 $ 1,527,786
</TABLE>
- -------------------
(1) This category generally consists of commercial and industrial loans where
real estate constitutes a source of collateral.
Approximately 16.6% of F&M's loan portfolio at December 31, 1998, was
comprised of commercial loans, which included loans secured by real estate shown
in the table above under the categories of multifamily, non-farm,
non-residential and agricultural where real estate is among the sources of
collateral securing the loan. F&M's subsidiary banks offer a variety of
commercial loans within their market regions, including revolving lines of
credit, working capital loans, equipment financing loans, and letters of credit.
Although F&M's subsidiary banks typically look to the borrower's cash flow as
the principal source of repayment for such loans, many of the loans within this
<PAGE>
category are secured by assets, such as accounts receivable, inventory and
equipment. In addition, a number of commercial loans are secured by real estate
used by such businesses and are generally personally guaranteed by the
principals of the business. F&M's commercial loans generally bear a floating
rate of interest tied to a system-wide prime rate set by F&M Bank-Winchester.
F&M's residential real estate loan portfolio (including home equity
lines) was 65.2 % of its total loan portfolio at December 31, 1998. The
residential mortgage loans made by F&M's subsidiary banks and F&M Mortgage
Services, Inc., are made only for single family, owner-occupied residences
within their respective market regions. Residential mortgage loans offered by
F&M's subsidiary banks are either adjustable rate loans or fixed rate loans with
20 to 30 year amortization schedules that mature with a balloon payment on the
third or fifth year anniversary of the loan.
F&M Mortgage Services, Inc., F&M Bank-Northern Virginia, and F&M
Bank-Peoples sell into the secondary market permanent residential mortgage loans
that conform to GNMA and FNMA underwriting guidelines. These F&M subsidiaries
purchase government insured 1-4 family FHA and VA loans and resell them
immediately in package form. At December 31, 1998, only F&M Mortgage Services,
Inc., had $28.2 million in loans that it had committed to purchase, but had not
settled upon.
F&M's real estate construction portfolio historically has been a
relatively small portion of the total loan portfolio. At December 31, 1998,
construction loans were $101.7 million or 6.0% of the total loan portfolio.
Generally, all construction loans are made to finance owner-occupied properties
with permanent financing commitments in place. F&M's subsidiary banks make a
limited number of loans for acquisition, development and construction of
residential real estate. F&M's construction loans, including its acquisition and
development loans, generally bear a floating rate of interest and mature in one
year or less. Loan underwriting standards for such loans generally limit the
loan amount to 75% of the finished appraised value of the project. As a result
of strict underwriting guidelines, F&M has experienced charge-offs involving
residential construction since 1993 of less than one-half of 1%.
Consumer loans were 12.2% of F&M's total loan portfolio at December 31,
1998. F&M's subsidiary banks offer a wide variety of consumer loans, which
include installment loans, credit card loans, home equity lines, and other
secured and unsecured credit facilities. The performance of the consumer loan
portfolio is directly tied to and dependent upon the general economic conditions
in each subsidiary banks' respective market regions.
CREDIT POLICIES AND PROCEDURES
F&M has established system-wide guidelines governing, among other
things, lending practices, credit analysis and approval procedures, and credit
quality review. Within these guidelines, F&M's subsidiary banks have latitude to
tailor their loan products to meet the needs of the communities and specific
customers. A holding company officer or representative serves on the Board of
Directors of each subsidiary bank to monitor practices and to serve as the
liaison with F&M.
<PAGE>
LOAN APPROVAL. F&M's loan approval policies provide for various levels of
officer lending authority. When the aggregate outstanding loans to a single
borrower exceed an individual officer's lending authority, the loan request must
be approved by an officer with a higher lending limit or by the subsidiary
bank's loan review committee. F&M has assigned a lending limit for each
subsidiary bank. Loans that would result in a subsidiary bank exceeding its
assigned limit must be approved first by the subsidiary bank's loan review
committee and then by a central credit committee appointed by the holding
company. The central credit committee consists of six senior officers of F&M
Bank-Winchester and the Company, along with outside directors of either F&M
Bank-Winchester or the Company, who rotate at the twice weekly meetings.
All loans to an individual borrower are reviewed each time the borrower
requests a renewal or extension of any loan or requests an additional loan. All
lines of credit are reviewed annually prior to renewal. These reviews are
conducted by each subsidiary bank and, if necessary, by F&M's central credit
committee.
LOAN REVIEW. Each subsidiary bank of F&M has a formal loan review function that
consists of a committee of bank officers that regularly reviews loans and
assigns a classification, if required, based on current perceived credit risk.
In addition, the holding company has a loan review team that performs a detailed
on-site review and analysis of each subsidiary bank's portfolio on at least an
annual basis to ensure the consistent application of system-wide policies and
procedures. The holding company loan review team reviews all loans over an
established principal amount for each subsidiary bank, which results in a review
of 60% to 75% of the total principal amount of the subsidiary bank's loan
portfolio. In addition, all lending relationships involving a classified loan
are reviewed regardless of size. The holding company loan review team has the
authority to classify any loan it determines is not satisfactory or to change
the classification of a loan within F&M's loan grading system.
All classified loans are reviewed at least quarterly by F&M's senior
officers and monthly by the subsidiary bank's boards of directors. All past due
and nonaccrual loans are reviewed monthly by the subsidiary banks' boards of
directors. As a matter of policy, F&M's subsidiary banks place loans on
nonaccrual status when management determines that the borrower can no longer
service debt from current cash flows and/or collateral liquidation. This
generally occurs when a loan becomes 90 days past due as to principal and
interest.
ALLOWANCE FOR LOAN LOSSES. Each subsidiary bank of F&M maintains its allowance
for loan losses based on loss experience for each loan category over a period of
years and adjusts the allowance for existing economic conditions as well as
performance trends within specific areas, such as real estate. In addition, each
subsidiary bank periodically reviews significant individual credits and adjusts
the allowance when deemed necessary. The allowance also is increased to support
projected loan growth.
IMPAIRED LOANS. The recorded investment in certain loans that were considered to
be impaired in accordance to FASB 114 was $11.0 million at year end 1998 as
compared to $14.5 million at year end 1997, of which $7.3 million was classified
as nonperforming. Included in 1998 impaired loans are $7.2 million secured by
<PAGE>
commercial real estate. All impaired loans at year-end 1998 and 1997 had a
related valuation allowance totaling $2.3 million and $4.0 million,
respectively. The average recorded investment in certain impaired loans for 1998
and 1997 was approximately $13.9 million and $10.2 million, respectively. For
the years 1998 and 1997, interest income recognized on impaired loans totaled
$804 thousand and $513 thousand, respectively, all of which was recognized on a
cash basis.
Loans are placed on nonaccrual when a loan is specifically determined to
be impaired or when principal or interest is delinquent for 90 days or more. Any
unpaid interest previously accrued on those loans is reversed from income.
Interest income generally is not recognized on specific impaired loans unless
the likelihood of further loss is remote. Cash payments received on such loans
are applied as a reduction of the loan principal balance. Interest income on
other nonaccrual loans is recognized only to the extent of interest payments
received. Changes in the allowance relating to impaired loans are charged or
credited to the provision for loan losses.
An impaired loan is charged-off when management determines that the
prospect of recovery of the principal of the loan has significantly diminished.
DEPOSITS
F&M's subsidiary banks offer a number of programs to consumers and to
small and middle market businesses at interest rates consistent with local
market conditions. The following table sets forth the mix of depository accounts
offered by the subsidiary banks as a percentage of total deposits at the dates
indicated:
December 31,
------------------------------------
1998 1997 1996
--------- ---------- -----------
Noninterest-bearing demand 22.0% 19.2% 17.1%
Interest checking 18.0 16.2 15.3
Savings accounts 8.7 9.1 10.2
Money market accounts 10.1 10.4 11.4
Time deposit accounts:
Under $100,000 31.2 35.6 37.1
$100,000 and over 10.0 9.5 8.9
--------- ---------- -----------
100.0% 100.0% 100.0%
F&M's subsidiary banks control deposit flows primarily through pricing
of deposits and, to a lesser extent, through promotional activities. F&M's
subsidiary banks establish deposit rates based on a variety of factors,
including competitive conditions, liquidity needs and compliance with net
interest margin requirements established by F&M for all subsidiary banks. As of
December 31, 1998, F&M's subsidiary banks had $242.1 million of certificates of
deposit greater than $100,000, or 10% of total deposits. F&M's subsidiary banks
do not accept brokered deposits.
<PAGE>
No material portion of the deposits of F&M's subsidiary banks has been
obtained from a single or a small group of customers, and the loss of any
customer's deposits or a small group of customers' deposits would not have a
material adverse effect on the business of any of F&M's subsidiary banks. See
"Business-Market Regions" for information regarding each subsidiary bank's
deposit share and rank in its respective market.
LIQUIDITY AND SENSITIVITY TO INTEREST RATES
The primary functions of asset/liability management are to ensure
adequate liquidity and maintain an appropriate balance between
interest-sensitive assets and interest-sensitive liabilities. Liquidity
management involves the ability to meet the cash flow requirements of F&M's loan
and deposit customers. Interest rate sensitivity management seeks to avoid
fluctuating net interest margins and to enhance consistent growth of net
interest income through periods of changing interest rates. F&M does not hedge
its position with swaps, options or futures but instead maintains a highly
liquid and short-term position in all of its earning assets and interest-bearing
liabilities.
In order to meet its liquidity needs, F&M schedules the maturity of its
investment securities according to its needs. The weighted-average life of the
securities portfolio at the end of 1998 was 5 years 2 months, which is
indicative of F&M's investment philosophy of investing in U.S. Government
securities with maturities between five and ten years. F&M views its securities
portfolio primarily as a source of liquidity and safety. However, it may if the
market is favorable, make changes in the available for sale portfolio to take
advantage of changes in the yield curve. F&M views the total available for sale
securities portfolio as a source of liquidity, whereas, liquidity in the held to
maturity portfolio is limited to calls and maturities. The maturity ranges of
the securities and the average taxable-equivalent yields as of December 31,
1998, are shown in the following table:
<TABLE>
<CAPTION>
U.S. Government State and
And its Agencies Municipal Other
Book Value Yield Book Value Yield Book Value Yield
------------------------- --------------------------- ------------------------
<S> <C> <C> <C> <C> <C> <C>
One year or less $ 111,883 6.14% $ 2,867 7.23% $ 650 8.46%
After one year
through five
years 395,397 6.03 11,862 7.43 512 7.90
After five -
through
ten years 155,284 6.41 7,432 7.63 258 5.70
After ten years 66,969 6.73 1,878 8.41 16,697 6.12
------------- ----------- -----------
Total $ 729,533 6.16% $ 24,039 7.55% $ 18,117 6.25%
============= =========== ===========
</TABLE>
A cash reserve, consisting primarily of overnight investments such as
Federal Funds, is also maintained to meet any contingencies and to provide
additional capital, if needed.
Most of F&M's loans are fixed-rate installment loans to consumers and
mortgage loans whose maturities are generally longer than the deposits by which
they are funded. A degree of interest-rate risk is incurred if the interest rate
on deposits should rise before the loans mature. However, the substantial
liquidity provided by the monthly repayments on these loans can be reinvested at
higher rates that largely reduce the interest-rate risk. Home equity lines of
credit have adjustable rates that are tied to the prime rate. Many of the loans
not in the installment or mortgage categories have maturities of less than one
year or have floating rates that may be adjusted periodically to reflect current
market rates. These loans are summarized in the following table:
<PAGE>
REMAINING MATURITIES OF SELECTED LOANS
December 31, 1998
---------------------------------
Commercial,
Financial and Real estate and
Agricultural Construction
------------------------------------
(Dollars in thousands)
Within 1 year $ 150,586 $ 71,071
--------------- ------------------
Variable Rate:
1 to 5 years 25,949 4,768
After 5 years 11,439 7,279
--------------- ------------------
Total 37,388 12,047
--------------- ------------------
Fixed Rate:
1 to 5 years 80,883 11,609
After 5 years 11,857 6,988
--------------- ------------------
Total $ 92,740 $ 18,597
=============== ==================
Total Maturities $ 280,714 $ 101,715
=============== ==================
F&M's asset/liability/risk committee is responsible for reviewing the
Company's liquidity requirements and maximizing the Company's net interest
income consistent with capital requirements, liquidity, interest rate and
economic outlooks, competitive factors and customer needs. Liquidity
requirements are also reviewed in detail for each of F&M's individual banks;
however, overall asset/liability management is performed on a consolidated basis
to achieve a consistent and coordinated approach.
FORWARD-LOOKING STATEMENTS
The sections that follow, Market Risk Management, contain certain
forward-looking statements (as defined in the Private Securities Litigation
Reform Act of 1995). These forward-looking statements may involve significant
risks and uncertainties. Although F&M believes that the expectations reflected
in such forward-looking statements are reasonable, actual results may differ
materially from the results discussed in these forward-looking statements.
INTEREST SENSITIVITY
The primary goals of interest rate risk management are to minimize
fluctuations in net interest margin as a percentage of earning assets and to
increase the dollar of net interest margin at a growth rate consistent with the
growth rate of total assets. These goals are accomplished by balancing the
volume of floating-rate liabilities with a similar volume of floating-rate
assets, by keeping the average maturity of fixed rate asset and liability
contracts reasonably consistent and short, and by routinely adjusting pricing
rates to market conditions on a weekly basis.
<PAGE>
The goal of F&M is to generally maintain a position that is to provide
flexibility enough to move to an equality between rate-sensitive assets and
rate-sensitive liabilities, which may be desirable when there are wide and
frequent fluctuations in interest rates. Interest rate gaps are managed through
investments, loan pricing and deposit pricing. When an unacceptable positive or
negative gap occurs, variable rate loans can be increased and more investment in
shorter-term investments can be made. Pricing policies on either or both loans
and deposits can be changed to accomplish any of the goals. F&M reviews the
interest sensitivity position of each subsidiary bank at least once a quarter.
It is F&M's policy not to engage in activities considered to be
derivative in nature such as futures, option contracts, swaps, caps, floors,
collars or forward commitments. F&M considers derivatives as speculative which
is contrary to F&M's historical or prospective philosophy. F&M does not hold or
issue financial instruments for trading purposes. F&M does hold in its loan and
security portfolio investments that adjust or float according to changes in the
"prime" lending rate which is not considered speculative, but necessary for good
asset/liability management. Off-balance sheet risks such as commitments to
extend credit, standby letters of credit and other items are discussed in Note
18 in the Notes to Consolidated Financial Statements.
MARKET RISK MANAGEMENT. Market risk is the risk of loss arising from adverse
changes in the fair value of financial instruments due to changes in interest
rates, exchange rates and equity prices. F&M's market risk is composed primarily
of interest rate risk. F&M's Asset/Liability/Risk Committee ("ALCO") is
responsible for reviewing the interest rate sensitivity position of F&M and
establishing policies to monitor and limit exposure to interest rate risk. F&M's
Board of Directors review guidelines established by ALCO. Asset/Liability
Management: The primary goals of asset/liability management are to maximize net
interest income and the net value of F&M's future cash flows within the interest
rate risk limits set by ALCO.
INTEREST RATE RISK MEASUREMENT. Interest rate risk is monitored through the use
of three complementary measures: static gap analysis, earnings simulation
modeling and net present value estimation. While each of the interest rate risk
measurements has limitations, taken together they represent a reasonably
comprehensive view of the magnitude of interest rate risk in the Corporation,
the distribution of risk along the yield curve, the level of risk through time,
and the amount of exposure to changes in certain interest rate relationships.
STATIC GAP. Gap analysis measures the amount of repricing risk embedded in the
balance sheet at a point in time. It does so by comparing the differences in the
repricing characteristics of assets and liabilities. A gap is defined as the
difference between the principal amount of assets and liabilities, adjusted for
off-balance sheet instruments, which reprice within a specified time period. The
cumulative one-year gap, at year-end 1998 and 1997, was -4.7% and -12.2% of
total earning assets, respectively. The policy limit for the one-year gap is
plus or minus 15% of adjusted total earning assets.
<PAGE>
Core deposits and loans with non-contractual maturities are included in
the gap repricing distributions based upon historical patterns of balance
attrition and pricing behavior which are reviewed at least annually.
The gap repricing distributions include principal cash flows from
residential mortgage loans and mortgage-backed securities in the timeframes in
which they are expected to be received. Mortgage prepayments are estimated by
applying industry median projections of prepayment speeds to portfolio segments
based on coupon range and loan age.
EARNINGS SIMULATION. The earnings simulation model forecasts one-year net income
under a variety of scenarios that incorporate changes in the absolute level of
interest rates, changes in the shape of the yield curve and changes in interest
rate relationships. Management evaluates the effects on income of alternative
interest rate scenarios against earnings in a stable interest rate environment.
This type of analysis is also most useful in determining the short-run earnings
exposures to changes in customer behavior involving loan payments and deposit
additions and withdrawals.
The most recent earnings simulation model projects net income would
decrease by approximately 4.7% of stable-rate net income if rates were to fall
immediately by two hundred basis points. It projects an increase of
approximately 7.3% if rates rise by two hundred basis points. Management
believes this reflects a slight liability-sensitive rate risk position for the
one-year horizon. This one-year forecast is within the ALCO guideline of 15.0%.
This dynamic simulation model includes assumptions about how the balance
sheet is likely to evolve through time, in different interest rate environments.
Loan and deposit growth rate assumptions are derived from historical analysis
and management's outlook, as are the assumptions used to project yields and
rates for new loans and deposits. All maturities, calls and prepayments in the
securities portfolio are assumed to be reinvested in like instruments. Mortgage
loan prepayment assumptions are developed from industry median estimates of
prepayment speeds for portfolios with similar coupon ranges and seasoning.
Noncontractual deposit growth rates and pricing are assumed to follow historical
patterns. The sensitivities of key assumptions are analyzed at least annually
and reviewed by ALCO.
NET PRESENT VALUE. The Net Present Value ("NPV") of the balance sheet, at a
point in time, is defined as the discounted present value of asset cash flows
minus the discounted value of liability cash flows. Interest rate risk analysis
using NPV involves changing the interest rates used in determining the cash
flows and in discounting the cash flows. The resulting percentage change in NPV
is an indication of the longer term repricing risk and options risk embedded in
the balance sheet.
At year-end, a 200 basis point immediate increase in rates is estimated
to reduce NPV by 5.1%. Additionally, NPV is projected to increase by 2.2% if
rates fall immediately by 200 basis points. Analysis of the average quarterly
change in the Treasury yield curve over the past ten years indicates that a
parallel curve shift of 200 basis points or more is an event that has less than
a .1% chance of occurrence.
<PAGE>
As with gap analysis and earnings simulation modeling, assumptions about
the timing and variability of balance sheet cash flows are critical in NPV
analysis. Particularly important are the assumptions driving mortgage
prepayments and the assumptions about expected attrition of the core deposit
portfolios. These assumptions are applied consistently across the different rate
risk measures. Summary information about interest-rate risk measures is
presented below.
Year-end Year-end
------------ ------------
1998 1997
------------ ------------
Static 1-Year Cumulative Gap -4.7% -12.2%
1-Year Net Income Simulation Projection
-200 bp Shock vs Stable Rate -8.1% -3.2%
+200 bp Shock vs Stable Rate 7.3% 2.7%
Static Net Present Value Change
-200 bp Shock vs Stable Rate 2.2% 5.0%
+200 bp Shock vs Stable Rate -5.1% -7.8%
Due to borrowers' preferences for floating-rate loans and depositors'
preferences for fixed-rate deposits, F&M's balance sheet tends to move toward
less liability sensitivity with the passage of time. The earnings simulation
model indicates that if all prepayments, calls and maturities of the securities
portfolios expected over the next year were to remain uninvested, then the
current liability sensitivity position would be lessened. Purchases of
fixed-rate securities have been made to offset the natural tendency toward a
less liability sensitive interest rate risk position.
Management expects interest rates will decline less than 1% during 1999
and believes that the current modest level of liability sensitivity is
appropriate.
OTHER ACTIVITIES
Effective January 1, 1998, F&M Trust Company, a wholly-owned trust
subsidiary of the Company, began operations and assumed responsibility for all
the trust and fiduciary activities of the Virginia banking subsidiaries of the
Company.
In 1998, F&M Trust Company offered a range of trust services. At
December 31, 1998, F&M Trust Company managed $ 586.4 million in assets in
approximately 1,627 fiduciary accounts, covering both personal trust activities
and employee benefit plans.
<PAGE>
COMPETITION
Each of the market regions in which the Company operates has a highly
competitive banking market involving commercial banks and thrifts. Other
competitors, including credit unions, consumer finance companies, insurance
companies and money market mutual funds, compete with the Company for certain
lending and deposit gathering services. In its Charlottesville/Albemarle County,
northern Virginia, and suburban Richmond markets, the Company faces particularly
intense competition from several state-wide and regional banking institutions
which have substantial operations in those market regions. Management believes,
however, that the Company enjoys certain competitive advantages in its principal
market of Winchester, the surrounding northern Shenandoah Valley and Loudoun
County where F&M Bank-Winchester is the largest financial institution
headquartered in the area and the dominant bank in terms of deposit market
share.
Competition among the various financial institutions is based on
interest rates offered on deposit accounts, interest rates charged on loans,
credit and service charges, the quality of services, the convenience of banking
facilities and, in connection with loans to larger borrowers, relative lending
limits. Many of the financial organizations in competition with the Company have
much greater financial resources, diversified markets, and branch networks than
F&M and are able to offer similar services at varying costs with higher lending
limits. With reciprocal interstate banking, the Company also faces the prospect
of additional competitors entering its markets as well as additional competition
in its efforts to acquire other financial institutions.
<PAGE>
EXECUTIVE OFFICERS OF THE REGISTRANT
All officers of the Company and its subsidiaries are elected annually to
serve at the pleasure of the Board of Directors of the Company. The following
table sets forth the name, age, year first elected, and offices held at February
26, 1999, of each of the executive officers of the Company:
<TABLE>
<CAPTION>
YEAR
FIRST
NAME AGE ELECTED OFFICE
- ---- --- ------- ------
<S> <C> <C> <C>
W. M. Feltner 79 1970 Chairman and Chief Executive Officer of
the Company; Chairman of the Board of
F&M Bank-Winchester
Alfred B. Whitt 60 1998 President, Vice Chairman, and Chief
Financial Officer of the Company; Vice
Chairman and Secretary of F&M
Bank-Winchester
Charles E. Curtis 60 1998 Vice Chairman and Chief Administrative
Office of the Company; Vice Chairman of
F&M Bank-Winchester
F. Dixon Whitworth, Jr. 54 1985 Executive Vice President of the
Company; President of F&M Trust Company
Betty H. Carroll 61 1987 Senior Vice President of the Company;
President and Chief Executive Officer
of F&M Bank-Winchester
Michael L. Bryan 47 1998 Corporate Secretary and General
Counsel of the Company
Barbara H. Ward 53 1983 Treasurer of the Company; Senior Vice
President of F&M Bank-Winchester
</TABLE>
Mr. Feltner has been a senior executive officer of the Company since its
inception in 1970.
Mr. Whitt joined the Company in 1987 as Director of Human Resources,
before which time he served as President of F&M Bank-Massanutten, Harrisonburg,
Virginia, since its organization in 1973. In July of 1991, he was appointed
Senior Vice President, Senior Financial Officer and Secretary of the Company and
F&M Bank-Winchester. As of January 1, 1998, Mr. Whitt was appointed President,
Vice Chairman and Chief Financial Officer of the Company, and Vice Chairman and
Secretary to the Board of F&M Bank-Winchester.
In March of 1996, Mr. Curtis joined the Company as President and Chief
Executive Officer of Fairfax Bank and Trust Company, now F&M Bank-Northern
Virginia. Mr. Curtis served in this position from July 22, 1985 to December 31,
1997. As of January 1, 1998, Mr. Curtis was appointed Vice Chairman and Chief
Administrative Officer of the Company, and Vice Chairman of F&M Bank-Winchester.
F. Dixon Whitworth, Jr. joined the Company in August 1985, as President
of the Suburban Bank, now F&M Bank-Richmond, and served as such until November,
1985, when he became Executive Vice President of the Company. As of January 1,
1998, Mr. Whitworth was appointed President of F&M Trust Company.
Mrs. Carroll has served as President and Chief Executive Officer of F&M
Bank-Winchester since December 1988. She was appointed Senior Vice President of
the Company in 1987.
Mr. Bryan was appointed Corporate Secretary and General Counsel of the
Company effective January 1, 1998. Prior to this appointment, Mr. Bryan was a
partner in the law firm of Bryan & Coleman, P.C., Winchester, Virginia, since
February 1, 1995.
<PAGE>
Mrs. Ward was appointed Senior Vice President of F&M Bank-Winchester in
March of 1992. Prior thereto, she was a Vice President of F&M Bank-Winchester
since 1974. She has been Treasurer of the Company since 1983.
SUPERVISION AND REGULATION
The Company and its subsidiary banks are subject to state and federal
banking laws and regulations, which impose specific requirements or restrictions
on and provide for general regulatory oversight with respect to virtually all
aspects of operations. The following is a brief summary of certain statues,
rules and regulations affecting the Company and its subsidiary banks. This
summary is qualified in its entirety by reference to the particular statutory
and regulatory provisions referred to below and is not intended to be an
exhaustive description of the statutes or regulations applicable to the business
of the Company and its subsidiary banks. A change in applicable laws or
regulations may have a material effect on the business and prospects of the
Company.
THE COMPANY
The Company is registered as a bank holding company under the Bank
Holding Company Act ("BHCA") and the Virginia Financial Institution Holding
Company Act, and is therefore subject to regulation and examination by the Board
of Governors of the Federal Reserve System (the "Federal Reserve") and the
Virginia State Corporation Commission (the "Virginia SCC"). F&M's subsidiary
banks are subject to examination and regulation by the Virginia SCC, the West
Virginia Board of Banking and Financial Institutions (the "West Virginia Board
of Banking") and the Commissioner of Financial Regulation of the State of
Maryland (the "Maryland-CFR"). In addition, the Company and its subsidiary banks
are subject to certain minimum capital standards established by the Federal
Reserve and the FDIC.
Under the BHCA, the Company is required to secure the prior approval of
the Federal Reserve before it can merge or consolidate with any other bank
holding company, or acquire all or substantially all of the assets of any bank
or acquire direct or indirect ownership or control of any voting shares of any
bank that is not already majority owned by it if after such acquisition the
Company would directly or indirectly own or control more than 5% of the voting
shares of such bank. The BHCA also prohibits the Company from acquiring,
directly or indirectly voting shares of, or interests in, or all or
substantially all of the assets of, any bank located outside the State of
Virginia unless the acquisition is specifically authorized by the laws of the
state in which such bank is located, as discussed below.
<PAGE>
The Company is prohibited under the BHCA, and regulations promulgated
thereunder, from engaging in, and from acquiring direct or indirect ownership or
control of more than 5% of voting shares of any company engaged in, nonbanking
activities unless the Federal Reserve, by order or regulation, has found such
activities to be so closely related to banking or managing or controlling banks
as to be a proper incident thereto. The Federal Reserve has by regulation
determined that certain activities are closely related to banking within the
meaning of the BHCA. These activities include, among others, operating a
mortgage, finance, credit card or factoring company; performing certain data
processing operations; providing investment and financial advice; acting as an
insurance agent for certain types of credit-related insurance; leasing personal
property on a full-payout, non-operating basis; and providing certain stock
brokerage and investment advisory services.
The Company, as an affiliate of its subsidiary banks within the meaning
of the Federal Reserve Act, is subject to certain restrictions under the Federal
Reserve Act regarding transactions between a bank and companies with which it is
affiliated. These provisions limit extensions of credit (including guarantees of
loans) by the subsidiary banks to affiliates, investments in the stock or other
securities of the Company by the subsidiary banks and the nature and amount of
collateral that subsidiary banks may accept from any affiliate to secure loans
extended to the affiliate. Further, under the Federal Reserve Act and the
regulations promulgated thereunder, a bank holding company and its subsidiaries
are prohibited from engaging in certain tie-in arrangements in connection with
any extension of credit or provision of any property or service.
The BHCA and the Change in Bank Control Act, together with regulations of
the Federal Reserve, require that, depending on the particular circumstances,
either Federal Reserve approval must be obtained or notice must be furnished to
the Federal Reserve and not disapproved prior to any person or company acquiring
"control" of a bank holding company, such as the Company, subject to exemptions
for certain transactions. Control is conclusively presumed to exist if an
individual or company acquires 25% or more of any class of voting securities of
the bank holding company. Control is rebuttably presumed to exist if a person
acquires 10% or more but less than 25% of any class of voting securities and
either the company has registered securities under Section 12 of the Securities
Exchange Act of 1934, as amended, or no other person will own a greater
percentage of that class of voting securities immediately after the transaction.
The regulations provide a procedure for challenge of the rebuttable control
presumption.
Federal Reserve policy requires a bank holding company to act as a source
of financial strength to each of its bank subsidiaries and to take certain
measures to preserve and protect bank subsidiaries in situations where
additional investments in a troubled bank subsidiary may not otherwise be
warranted. Under the Federal Deposit Insurance Corporation Improvement Act of
1991 ("FDICIA"), in order to avoid receivership of an insured depository
institution subsidiary, a bank holding company is required to guarantee up to
certain maximum limits the compliance with the terms of any capital restoration
plan filed by such subsidiary with its appropriate federal banking regulator. In
addition, if a bank holding company has more than one bank or thrift subsidiary,
the bank holding company's other subsidiary depository institutions are
responsible under a cross guarantee for any losses to the FDIC resulting from
the failure of a depository institution subsidiary. Under these provisions, a
bank holding company may be required to loan money to its depository institution
subsidiaries in the form of capital notes or other instruments. However, any
such loans likely would be unsecured and subordinated to such institution's
depositors and certain other creditors.
<PAGE>
Under federal legislation, restrictions on interstate bank acquisitions
were abolished effective September 29, 1995, and bank holding companies from any
state are now able to acquire banks and bank holding companies located in any
other state. Effective June 1, 1997, the law permits banks to merge across state
lines, subject to earlier "opt-in" or "opt-out" action by individual states. The
law also allows interstate branch acquisitions and de novo branching if
permitted by the host state. Virginia, Maryland and West Virginia have adopted
early "opt-in" legislation that allows interstate bank mergers. The states also
permits interstate branch acquisitions and de novo branching if reciprocal
treatment is accorded Virginia banks in the state of the acquiror.
All acquisitions, whether by an in-state or out-of-state acquiror,
involving a Virginia bank or bank holding company require the prior approval of
the Virginia SCC, in addition to approval by the appropriate federal regulatory
authority. Similarly, the West Virginia Board of Banking must approve all
acquisitions of a West Virginia bank or bank holding company, and the
Maryland-CFR must approve all acquisitions of a Maryland bank or bank holding
company.
REGULATION OF SUBSIDIARY BANKS
GENERAL. All of F&M's subsidiary banks are state-chartered institutions
organized under either Virginia, West Virginia, or Maryland law. Seven of the
subsidiary banks, F&M Bank-Winchester, F&M Bank-Massanutten, F&M Bank-Richmond,
F&M Bank-Central Virginia, F&M Bank-Emporia, F&M Bank-Northern Virginia, and F&M
Bank-Peoples are Virginia-chartered institutions regulated and examined by the
Virginia SCC. F&M Bank-West Virginia, Inc., is a West Virginia-chartered
institutions regulated and examined by the West Virginia Board of Banking. F&M
Bank-Allegiance is a Maryland state-chartered bank regulated and examined by the
Maryland-CFR.
F&M's subsidiary banks are all members of the Federal Reserve System and
are, therefore, supervised and examined by the Federal Reserve, their primary
federal regulator. The Federal Reserve and the Virginia SCC, West Virginia Board
of Banking, or the Maryland-CFR, as appropriate, conduct regular examinations of
each subsidiary bank, reviewing the adequacy of their allowance for loan losses,
quality of loans and investments, propriety of management practices, compliance
with laws and regulations and other aspects of operations. In addition to these
regular examinations, each subsidiary bank must furnish the Federal Reserve with
quarterly reports containing detailed financial statements and schedules. The
FDIC, which provides deposit insurance, also has authority to examine and
regulate F&M's subsidiary banks.
<PAGE>
Federal and state banking laws and regulations govern all areas of the
operations of F&M's subsidiary banks, including maintenance of cash reserves,
loans, mortgages maintenance of minimum capital, payment of dividends, and
establishment of branch offices. Federal and state bank regulatory agencies also
have the general authority to eliminate dividends paid by insured banks if such
payment is deemed to constitute an unsafe and unsound practice. As their primary
federal regulator, the Federal Reserve has authority to impose penalties,
initiate civil administrative actions and take other steps to prevent F&M's
subsidiary banks from engaging in unsafe or unsound practices. In this regard,
the Federal Reserve has adopted capital adequacy requirements applicable to its
member banks.
DEPOSIT INSURANCE. The deposits of F&M's subsidiary banks are currently insured
to a maximum of $100,000 per depositor, subject to certain aggregation rules.
The FDIC has implemented a risk-related assessment system for deposit insurance
premiums and all depository institutions have been assigned to one of nine risk
assessment classifications based upon certain capital and supervisory measures.
All deposits of F&M's subsidiary banks are subject to the rates of the Bank
Insurance Fund ("BIF"), the federal deposit insurance fund that covers
commercial bank deposits. In 1998, all F&M's banks received a "1A" risk
classification rating, the highest possible rating.
REGULATORY CAPITAL REQUIREMENTS. On December 19, 1991, FDICIA was enacted. Among
other things, FDICIA requires the federal banking agencies to take "prompt
corrective action" with respect to banks that do not meet minimum capital
requirements. FDICIA establishes five capital tiers: "well capitalized,"
"adequately capitalized", "under capitalized", "significantly undercapitalized",
and "critically undercapitalized", which terms are each further defined by
federal regulations. A depository institution is "well capitalized" if it
significantly exceeds the minimum level required by regulation for each relevant
capital measure, "adequately capitalized" if it meets each such measure,
"undercapitalized" if it fails to meet any such measure, "significantly
undercapitalized" if it is significantly below any such measure, and "critically
undercapitalized" if it fails to meet any critical capital level set forth in
the regulations. The critical capital level must be a level of tangible equity
capital equal to not less than 2.0% of total assets and not more than 65% of the
minimum leverage ratio to be prescribed by regulation (except to the extent that
2.0% would be higher than such 65% level). An institution may be deemed to be in
a capitalization category that is lower than is indicated by its actual capital
position if it receives an unsatisfactory examination rating. In order to be
classified as a "well capitalized institution," the institution must have a
total risk-based capital ratio of 10% and a leverage ratio of 5%.
If a depository institution fails to meet regulatory capital
requirements, regulatory agencies can require submission and funding of a
capital restoration plan by the institution, place limits on its activities,
require the raising of additional capital, and, ultimately, require the
appointment of a conservator or receiver for the institution. As of December 31,
1998, all F&M's subsidiary banks exceeded the required regulatory capital
requirements under FDICIA.
<PAGE>
CAPITAL ADEQUACY AND DIVIDENDS. Information on "Capital Adequacy" may be found
under "ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS", "Capital Resources".
Dividends from F&M's subsidiary banks constitute the major source of
funds for dividends to be paid by the Company. The amount of dividends payable
by each subsidiary bank to the Company depends upon its earnings and capital
position, and is limited by federal and state law, regulations and policy. The
Federal Reserve has the general authority to limit dividends paid by F&M's
subsidiary banks and the Company if such payments are deemed to constitute an
unsafe and unsound practice.
As state member banks subject to the regulations of the Federal Reserve,
each subsidiary bank must obtain approval of the Federal Reserve for any
dividend if the total of all dividends declared by F&M's subsidiary banks in any
calendar year would exceed the total of its net profits for such year, as
defined by the Federal Reserve, plus its retained net profits for the preceding
two years. In addition, each subsidiary bank may not pay a dividend in an amount
greater than its undivided profits then on hand after deducting current losses
and bad debts. For this purpose, bad debts are generally defined to include the
principal amount of all loans which are in arrears with respect to interest by
six months or more, unless such loans are fully secured and in the process of
collection.
In addition, Virginia law imposes restrictions on the ability of all
banks chartered under Virginia law to pay dividends. Under Virginia law, no
dividend may be declared or paid that would impair a bank's paid-in capital. The
Virginia SCC also can limit the payment of dividends by any Virginia bank if it
determines the limitation is in the public interest and is necessary to ensure
the bank's financial soundness.
<PAGE>
Under West Virginia law, a state bank may declare a dividend only from
its undivided profits and, if the bank's surplus account is not greater than or
equal to the par value of the bank's stock, the bank may not declare a dividend
unless a portion of the bank's profits for the period for which dividends are
declared is credited to the bank's surplus account. Also, a West
Virginia-chartered bank must obtain the approval of the West Virginia Board of
Banking prior to declaring a dividend if the total of all dividends paid by the
bank in any calendar year exceeds the total of its profits for that year plus
its undivided profits for the preceding two years.
Pursuant to Maryland law, a state bank may declare a cash dividend only
from (i) its undivided profits or (ii) with the prior approval of the
Maryland-CFR, its surplus in excess of 100% of its required capital stock. For
further information about the Company's dividends, see Part II., Item 5.,
"Market for Registrant's Common Equity and Related Stockholder Matters."
RECENT LEGISLATIVE DEVELOPMENTS
From time to time, various legislative and regulatory proposals with
respect to the regulation of financial institutions are considered by the
executive branch of the Federal government, Congress and various state
governments, including Virginia, West Virginia, and Maryland. Certain of these
proposals, if adopted, could significantly change the regulation of banks and
the financial services industry. The Company cannot predict whether any of these
proposals will be adopted or, if adopted, how these proposals would affect the
Company.
<PAGE>
ITEM 2. PROPERTIES.
The principal executive offices of F&M moved January 1, 1998, to 9 Court
Square, Winchester, Virginia, a multi-story building complex that is owned free
of any encumbrances. The Company operates a total of 119 banking offices (97 in
Virginia, 13 in West Virginia, and 9 in Maryland), 66 of which are owned by the
Company or one of its subsidiary banks free of any encumbrances, and 54 of which
are leased under agreements expiring at various dates, including renewal
options. The Company also owns additional office facilities for various of its
lending, audit, accounting, and data processing functions. Additional
information regarding F&M's lease agreements may be found under "ITEM 8.
FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA, Note 15."
ITEM 3. LEGAL PROCEEDINGS.
In the ordinary course of its operations, the Company and its subsidiary
banks are parties to various legal proceedings. Based on information presently
available, and after consultation with legal counsel, management believes that
the ultimate outcome in such proceedings, in the aggregate, will not have a
material adverse effect on the business or the financial condition or results of
operations of the Company.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS.
The Company has not submitted any matters to its security holders since
its Annual Meeting of Shareholders held April 28, 1998.
<PAGE>
PART II
ITEM 5. MARKET FOR REGISTRANT'S COMMON EQUITY AND RELATED STOCKHOLDER MATTERS.
The following table sets forth the per share high and low last sale
prices for the common stock of the Company as reported on the New York Stock
Exchange, and the cash dividends declared per share on the Common Stock for the
periods indicated:
PRICE RANGE CASH
HIGH LOW DIVIDENDS
---- --- ---------
1997
First Quarter 22.875 19.625 0.180
Second Quarter 26.375 19.875 0.180
Third Quarter 30.4375 26.00 0.185
Fourth Quarter 36.25 28.5625 0.185
1998
First Quarter 36.25 31.75 0.185
Second Quarter 34.31 32.00 0.185
Third Quarter 31.56 26.13 0.195
Fourth Quarter 31.69 25.06 0.195
At December 31, 1998, there were 21,948,484 shares of Common Stock
outstanding held by 8,182 holders of record.
The Company historically has paid cash dividends on a quarterly basis.
The final determination of the timing, amount and payment of dividends on the
Common Stock is at the discretion of the Board of Directors and will depend upon
the earnings of the Company and its subsidiaries, principally its subsidiary
banks, the financial condition of the Company and other factors, including
general economic conditions and applicable governmental regulations and
policies.
The Company or F&M Bank-Winchester has paid regular cash dividends for
more than 56 consecutive years.
The Company is a legal entity separate and distinct from its
subsidiaries, and its revenues depend primarily on the payment of dividends from
F&M's subsidiary banks. F&M's subsidiary banks are subject to certain legal
restrictions on the amount of dividends they are permitted to pay to the
Company. At December 31, 1998, F&M's subsidiary banks had available for
distribution as dividends to the Company approximately $31.3 million.
<PAGE>
ITEM 6. SELECTED FINANCIAL DATA.
Incorporated herein by reference, as Exhibit 13, to page 1 of
the 1998 Annual Report.
ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS.
Incorporated herein by reference, as Exhibit 13, to pages 6
through 26 of the 1998 Annual Report.
ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK.
Incorporated herein by reference, as Exhibit 13, to pages 9 and
12 of the 1998 Annual Report.
ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA.
Incorporated herein by reference, as Exhibit 13, to pages 27
through 49 of the 1998 Annual Report.
ITEM 9. CHANGE IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND
FINANCIAL DISCLOSURES.
None.
<PAGE>
PART III
ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT.
ITEM 11. EXECUTIVE COMPENSATION.
ITEM 12. SECURITIES OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND
MANAGEMENT.
ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS.
Pursuant to General Instruction G(3), the information called
for by Part III, Items 10. through 13., is incorporated herein
by reference from the Company's definitive proxy statement,
dated March 23, 1999, for the Company's Annual Meeting of
Shareholders to be held April 27, 1999, which definitive proxy
statement was filed with the Commission pursuant to Rule 14a-6
on March 23, 1999. The information regarding executive officers
called for by Item 401 of Regulation S-K is included in Part I
under "EXECUTIVE OFFICERS OF THE REGISTRANT".
<PAGE>
PART IV
ITEM 14. EXHIBITS, FINANCIAL STATEMENTS, SCHEDULES, AND REPORTS ON FORM
8-K.
(a) The following documents included in Part II of this report are
incorporated by reference to the Company's 1998 Annual Report (see
Exhibit 13):
1. Financial Statements Pages
F&M National Corporation and Subsidiaries:
Consolidated Balance Sheets at December 31, 1998 and 1997 27
Consolidated Statements of Income for the years
ended December 31, 1998, 1997, and 1996 28
Consolidated Statements of Changes in Shareholders'
Equity for years ended December 31, 1998, 1997 and 1996 29
Consolidated Statements in Cash Flows for the years
ended December 31, 1998, 1997 and 1996 30
Notes to Consolidated Financial Statements 31
Report of Independent Certified Public Accountants 49
2. Financial Statement Schedules
All schedules are omitted because of the absence of conditions under
which they are required or because the required information is given in
the financial statements or notes thereto.
3. Exhibits.
(3)
(i) Registrant's Articles of Incorporation (incorporated
herein by reference to Exhibit 3.1 to Registration
Statement #33-45717).
(ii) Registrant's Bylaws (incorporated herein by reference to
Exhibit 3.2 to Registration Statement #33-45717).
(10) Material Contracts.
(i) Form of agreement between officers of the Registrant under
the Registrant's Defined Benefit Deferred Compensation and
Salary Continuation Plan (incorporated herein by reference
to Exhibit 10(b) to Registration Statement #33-10696,
filed on December 9, 1986).
<PAGE>
(ii) Registrant's Officers' Incentive Bonus Plan (incorporated
herein by reference to Exhibit 28(i) to Registration
Statement #33-25867 filed on December 2, 1988).
(iii) Executive Severance Agreements entered into with
the Registrant and the following Executive Officers of
the Registrant on December 1, 1995: Betty H. Carroll,
Alfred B. Whitt, and F. Dixon Whitworth, Jr.;
(incorporated herein by reference to Form 10-K/405 for
the calendar year ended December 31, 1995, filed with the
Commission on March 28, 1996), and Executive Severance
Agreement entered into with the Registrant and Charles E.
Curtis on April 1, 1996 (incorporated herein by reference
to Form 10-K for the calendar year ended December 31,
1996, filed with the Commission on March 19, 1997).
(iv) Registrant's 1992 Incentive and Non-Qualified Stock Option
Plan, as amended and restated February 2, 1998
(incorporated herein by reference to Exhibit 99.0 to
Registration Statement #333-63111 filed on September 9,
1998).
(v) Registrant's 1998 Employee Stock Discount Plan
(incorporated herein by reference to Exhibit 99.1 to
Registration Statement #333-63113 filed on September 9,
1998).
(11) Statement re computation of per share earnings (incorporated by
reference as Note 11, page 38, of the 1998 Annual Report to
Shareholders filed herewith as Exhibit 13).
(13) Portions of the 1998 Annual Report to Shareholders for the fiscal
year ended December 31, 1998 (filed herewith).
(21) Subsidiaries of the Registrant (filed herewith).
(23) Consent of Yount, Hyde & Barbour, P. C., Certified Public
Accountants (filed herewith).
(27) Financial Data Schedule (filed herewith).
(b) Reports on Form 8-K:
None.
<PAGE>
SIGNATURES
Pursuant to the requirements of Section 13 or 15(d) of the Securities
and Exchange Act of 1934, the registrant has duly caused this report to be
signed on its behalf by the undersigned, thereunto duly authorized, as of the
10th day of March, 1999:
F&M NATIONAL CORPORATION
Winchester, Virginia
/s/ W. M. Feltner
------------------------------------
W. M. Feltner, Chairman of the Board
and Chief Executive Officer
Pursuant to the requirements of the Securities Exchange Act of 1934,
this report has been signed below by the following persons on behalf of the
registrant and in the capacities on the 10th day of March, 1999:
SIGNATURE TITLE
/s/ W. M. Feltner
------------- Chairman of the Board, Chief
W. M. FELTNER Executive Officer, Director
/s/ Alfred B. Whitt
--------------- Vice Chairman,President, Chief
ALFRED B. WHITT Financial Officer, Director
/s/ Charles E. Curtis Vice Chairman, Chief
----------------- Administrative
CHARLES E. CURTIS Officer, Director
/s/ Frank Armstrong, III
-------------------- Director
FRANK ARMSTRONG, III
/s/ William H. Clement
------------------
WILLIAM H. CLEMENT Director
/s/ John E. Fernstrom
-----------------
JOHN E. FERNSTROM Director
/s/ William R. Harris
-----------------
WILLIAM R. HARRIS Director
<PAGE>
/s/ L David Horner, III
-------------------
L DAVID HORNER, III Director
/s/ Jack R. Huyett
--------------
JACK R. HUYETT Director
/s/ George L. Romine
----------------
GEORGE L. ROMINE Director
/s/ J. D. Shockey, Jr.
------------------
J. D. SHOCKEY, JR. Director
/s/ Ronald W. Tydings
-----------------
RONALD W. TYDINGS Director
/s/ Fred G. Wayland, Jr.
--------------------
FRED G. WAYLAND, JR. Director
[F&M LOGO APPEARS HERE]
F&M
NATIONAL CORPORATION
ANNUAL REPORT
1998
<PAGE>
TABLE OF CONTENTS
Selected Financial Data............................ 1
To Our Owners, Customers,
Neighbors and Other Friends...................... 2
1998 Highlights.................................... 4
Management's Discussion and
Analysis of Financial Condition
and Results of Operations........................ 6
Financial Statements.............................. 27
Notes to Financial Statements..................... 31
Independent Auditor's Report...................... 49
F&m Trust Company................................. 50
Corporate Directors and
Officers........................................ 51
Directors and Officers of Affiliates.............. 52
Office Locations.................................. 56
Corporate Profile................................. 59
General Information............................... 60
<PAGE>
SELECTED FINANCIAL DATA
<TABLE>
<CAPTION>
YEAR ENDED DECEMBER 31,
---------------------------------------------------------------
1998 1997 1996 1995 1994
---------- ----------- ---------- ---------- ----------
<S> <C> <C> <C> <C> <C>
(IN THOUSANDS, EXCEPT RATIOS AND PER SHARE AMOUNTS)
INCOME STATEMENT DATA:
Interest income......... $198,807 $ 190,434 $178,578 $168,576 $148,152
Interest expense......... 81,832 80,043 75,875 71,667 56,761
---------- ----------- ---------- ---------- ----------
Net interest income...... 116,975 110,391 102,703 96,909 91,391
Provision for loan losses 4,963 5,802 2,141 2,395 2,786
---------- ----------- ---------- ---------- ----------
Net interest income after
provision for loan
losses 112,012 104,589 100,562 94,514 88,605
Noninterest income....... 36,209 26,521 23,602 22,167 21,360
Securities gains......... 2,428 4,233 314 519 342
Noninterest expense...... 95,107 86,179 77,707 76,638 73,793
---------- ----------- ---------- ---------- ----------
Income before income taxes 55,542 49,164 46,771 40,562 36,514
Income taxes............. 19,057 16,360 15,869 13,467 11,031
---------- ----------- ---------- ---------- ----------
Net income............... $36,485 $ 32,804 $ 30,902 $ 27,095 $ 25,483
========== =========== ========== ========== ==========
PER SHARE DATA:
Net income per share,
basic $ 1.67 $ 1.51 $ 1.41 $ 1.24 $ 1.17
Net income per share,
diluted 1.65 1.50 1.40 1.23 1.15
Cash dividends .......... 0.76(1) 0.73 0.69 0.61(1) 0.54
Book value at period end. 13.13 12.10 11.24 10.76 9.68
Tangible book value...... 12.65 11.58 10.96 10.49 9.27
Average basic shares
outstanding............ 21,884 21,715 21,892 21,822 21,835
Average diluted shares
outstanding............ 22,084 21,878 22,103 22,096 22,114
BALANCE SHEET DATA:
Assets...................$2,888,714 $ 2,677,935 $ 2,458,431 $ 2,346,358 $ 2,149,817
Loans, net of unearned
income 1,693,041 1,648,754 1,527,786 1,378,818 1,290,982
Securities............... 771,689 661,173 629,503 661,670 616,497
Deposits................. 2,436,022 2,275,380 2,102,931 2,004,037 1,861,900
Shareholders' equity..... 287,105 264,851 246,052 236,066 207,902
PERFORMANCE RATIOS:
Return on average assets. 1.32% 1.29% 1.29% 1.22% 1.20%
Return on average equity. 13.11% 12.97% 12.82% 12.03% 12.37%
Dividend payout.......... 44.84% 45.26% 45.81% 40.29% 37.81%
Efficiency (1)........... 60.31% 61.60% 60.83% 63.57% 64.68%
ASSET QUALITY RATIOS:
Allowance for loan losses to
period end loans, net. 1.30% 1.32% 1.25% 1.40% 1.45%
Allowance for loan losses to
nonaccrual loans...... 201.12% 111.51% 157.96% 131.62% 89.78%
Nonperforming assets to
period end loans and
foreclosed properties (2) 1.58% 2.14% 1.72% 2.31% 2.93%
Net charge-offs to average
loans................. 0.28% 0.20% 0.16% 0.14% 0.09%
CAPITAL AND LIQUIDITY RATIOS:
Leverage................. 9.90% 9.92% 10.00% 10.12% 9.77%
Risk-based capital ratios:
Tier 1 capital........ 15.03% 15.03% 15.52% 15.94% 14.83%
Total capital......... 16.27% 16.28% 16.77% 17.19% 16.06%
Average loans to average
deposits.............. 70.95% 73.72% 70.88% 68.85% 67.10%
</TABLE>
Note: The amounts previously reported in Form 10Q and Form 10K for the periods
presented have been retroactively restated to reflect the acquisitions of
Peoples Bank of Virginia on April 1, 1998, J. V. Arthur Inc. on April 30,
1998, Bank of Alexandria on June 1, 1998, FB&T Financial Corporation on
March 29, 1996, Allegiance Banc Corporation on October 1, 1996, Bank of
the Potomac on April 6, 1995, PNB Financial Corporation on July 1, 1994
and Hallmark Bank & Trust on July 1, 1994 and a 2.5% stock dividend
effective September 1, 1994.
(1) Computed by dividing noninterest expense minus foreclosed property expense
and amortization of intangibles by the sum of net interest income on a tax
equivalent basis and noninterest income, net of securities gains or losses.
(2) Nonperforming assets do not include loans past due 90 days accruing
interest.
1
<PAGE>
TO OUR OWNERS, CUSTOMERS, NEIGHBORS AND OTHER FRIENDS:
[PHOTO OF W.M. FELTNER APPEARS HERE]
W.M. FELTNER
"OUR LEGISLATORS REALLY DO THINK ALL BANKS AND BANKERS ARE FAT CATS AND CAN
STAND A LITTLE MORE COMPETITION."
Those of you who have followed us over the years will probably remember that
we began this decade by labeling it the "nasty nineties". Since that time,
economic conditions have improved dramatically and the Big Apple has shown
extraordinary growth. 1998 was very special from an operational standpoint with
assets and earnings reaching record heights, yet, despite this our stock price
performed poorly, dropping a little over 5 points during the year at a time when
the stock market was at record levels. So, from that standpoint, we are going to
label the year as nice but nasty.
Very briefly let's look at the company from an operational standpoint. Assets
exceeded 2 3/4 billion dollars for the first time, ending the year at
$2,889,000,000. Total revenue exceeded $237,000,000, a new all-time high. Net
earnings were $36,485,000, also an all-time high and represented $1.67 per
share. Last year we earned $1.51 per share. Book value at year end was $13.13.
Last year it was $12.10. Return on assets was 1.32 percent, compared to last
year's 1.29 percent and return on equity was 13.11 percent, compared to 1997's
figure of 12.91 percent.
So with all this improvement, one has to ask why did the stock perform so
poorly? First and foremost, we realized the 1997 year end price of $35.3125 was
unrealistic and brought about by rumors we were being acquired by an
out-of-state bank holding company. Rumors that had no basis or foundation.
Secondly, your board of directors is still on record as wanting to remain
independent. The first reason sent the stock up. The second sent it back down.
Quite frankly, at today's price, the stock is selling at 19 times earnings and
appears to be at or near the industry's norm for bank companies our size.
The year was a busy one for us from an internal standpoint. Our acquisition
of Peoples Bank of Virginia, Chesterfield, Virginia was completed and merged
into F&M Bank-Richmond. Our acquisition of Bank of Alexandria was completed and
merged into F&M Bank-Northern Virginia. Additionally, we consolidated our three
West Virginia Banks, Keyser, Martinsburg and Ranson, into F&M Bank-West
Virginia. Each of the above have improved, expanded and strengthened our
position in their market area, as well as affording us certain economics in our
operations.
Also during the year, we were fortunate in having the J.V. Arthur Insurance
Agency join our organization. This acquisition, along with our F&M -Shomo
Lineweaver Insurance Company, will strengthen our insurance operation and afford
us the opportunity to provide a complete line of insurance products to you, our
shareholders, bank customers and the public in general.
We also increased our ATM network to 174 units, expanded our branch network
to 119 offices and made extraordinary progress in expanding our new trust
company.
We cannot begin to tell you how much effort and time we have put into
preparation for the Year 2000. Because of that and to assure you that ALL our
banks and affiliates will be ready, we are devoting a special report which you
will find in the 1998 Highlights of this annual report.
Two years ago, we stated in our annual report to you what a raw deal the
Congress continues to heap upon the banks. Well, 1998 was certainly no
exception. Only this time, they really stuck it to us. We are referring to the
Credit Union Membership Access Act which President Clinton signed into law on
August 7, 1998. Despite the fact a federal appeals court ruled against the
National Credit Union Administration's Multi-group
2
<PAGE>
"SINCE 1994, OF THE 23 FINANCIAL INSTITUTIONS IN THE STATE OF VIRGINIA WITH
DEPOSITS GREATER THAN 400 MILLION, ALL HAVE BEEN SOLD WITH THE EXCEPTION OF
EIGHT."
[PHOTO OF ALFRED B. WHITT APPEARS HERE]
AFRED B. WHITT
Membership Policy and the U.S. Court of Appeals for the District of Columbia
ruled that each federal occupational credit union must share one common bond,
the NCUA appealed to the Supreme Court and LOST. The Supreme Court ruled they
MUST adhere to the sharing of just one common bond. Well, you guessed it, again
our favorite legislators overwhelmingly, almost without any opposition, passed a
law whereby practically anyone can join a credit union and they STILL PAY NO
TAXES. Our legislators really do think all banks and bankers are fat cats and
can stand a little more competition. Believe us when we say, this is just
another nail in the coffin of small banks and that's Nasty!
While we are on the subject, they still could find no common ground to
relieve banks of the restrictive laws passed back in the 30's. Financial
services reform legislation is just not in the cards for banks. It has been
promised for the last five years. They are long on promises but short on action.
Bankruptcy reform legislation is just another case in point.
1998 saw the further demise of Virginia's large banks. Most of which have
sold to out-of-state bank holding companies. It is difficult to comprehend that
the F&M is now the second largest financial institution headquartered in the
state. To give you a better idea of what has transpired, let me give you some
facts presented to us by J. P. Morgan. Since 1994, of the 23 financial
institutions in the State of Virginia with deposits greater than 400 million,
all have been sold with the exception of eight. Alarming? I think so! It is no
wonder so many new banks are being organized.
1998 was another outstanding year for the economy. Lower interest rates,
little inflation and low unemployment brought about another government budget
surplus. Very nice. Hopefully, 1999 will see the continuation of a healthy
economy. Those of us here at the F&M are excited about the prospects for another
record-setting year, despite the uncertainty of corporate profits, stock market
volatility and the general state of political upheaval. Somewhere along the way
it seems that the majority of our politicians have forgotten that the United
States of America should be their first priority. Instead, they are determined
to put party affiliation ahead of everything else. Maybe it is time that all of
us should remind them of this.
So friends, owners and so forth, another year has come and gone. In fact, we
are now past the first quarter of the last year of the decade of the nineties.
Some of the years have been rather nasty and others have been quite nice. Here's
hoping your (and our) 1999 will be nicer than nice.
Sincerely,
/s/ W.M. Feltner /s/ Alfred B. Whitt
W.M. Feltner Alfred B. Whitt
Chairman of the Board President
"SOMEWHERE ALONG THE WAY IT SEEMS THAT THE MAJORITY OF OUR POLITICIANS HAVE
FORGOTTEN THAT THE UNITED STATES OF AMERICA SHOULD BE THEIR FIRST PRIORITY.
INSTEAD, THEY ARE DETERMINED TO PUT PARTY AFFILIATION HEAD OF EVERYTHING ELSE."
3
<PAGE>
1998 HIGHLIGHTS
1998
ACQUISITIONS
Acquisitions are valuable to F&M in expanding geographically, and in-market
mergers provide additional market share of deposits and opportunities for cost
savings. PEOPLES BANK OF VIRGINIA in Chesterfield increased our F&M
Bank-Richmond's share of the Richmond deposit market by $70 million. Due to an
overlap of branches, we were able to close a branch and create savings
sufficient to avoid any earnings dilution. Our branch network at F&M
Bank-Richmond increased from 10 to 15.
We had the same opportunity when the BANK OF ALEXANDRIA agreed to join F&M
Bank-Northern Virginia. Approximately $70 million in deposits was added by this
transaction and, once again, savings were realized with the closing of one
branch.
SECURITY BANK at Manassas has agreed to join F&M's family of banks. Security
Bank will also be merged with F&M Bank-Northern Virginia, increasing our deposit
base by approximately $60 million.
J.V. ARTHUR, INC., a respected Winchester insurance agency, was acquired by
F&M on May 1, 1998. Our insurance network was expanded by the addition of J.V.
Arthur's three insurance offices.
F&M now operates a total of 119 bank branches in Virginia, West Virginia and
Maryland, an increase of 10 branches in 1998. ATMs increased by 21 units to 174
units in 1998. F&M also offers mortgage services, insurance, trust, and
financial services through 12 locations.
[PHOTO OF PEOPLES BANK OF VIRGINIA'S MAIN OFFICE IN CHESTERFIELD APPEARS HERE]
[PHOTO OF THE BANK OF ALEXANDRIA'S MAIN OFFICE APPEARS HERE]
ORGANIZATIONAL CHANGES
Our three West Virginia banks, F&M Bank-Blakeley, F&M Bank-Keyser, and F&M
Bank-Martinsburg merged into one bank, F&M BANK-WEST VIRGINIA. This combination
will provide operational savings, but more importantly, will improve and expand
services to all of our West Virginia customers.
F&M TRUST COMPANY was formed from the trust departments of three banks. The
financial report for this company appears later in this report. Fiduciary
services are available to all shareholders and customers. You should consider
F&M when you need trust administration, estate administration, or employee
benefits administration.
F&M SERVICES, INC., F&M's data center, was established on July 1, 1998. Its
responsibilities include management of our ATMs, VISA debit cards and data
processing for all affiliate banks and non-banking subsidiaries.
4
<PAGE>
With a projected increase in earnings for 1999 and F&M's commitment to pay
approximately 45 percent of its income to its shareholders, the outlook for
increased dividends is good. Dividends for 1998 were $0.75 and are projected to
be $0.79 for 1999.
F&M continues to review our current services and offer new services when
required or requested. In 1999, look for:
o Home banking for inquiry and bill paying.
o Cash management for business customers.
o Electronic telephone voting by shareholders.
o Insurance savings for shareholders and customers.
o The expansion of trust services throughout F&M's market area.
2000 (Y2K)
The Board of Directors and Senior Management of F&M made a commitment that
the organization would be Year 2000 ready by March 31, 1999.
F&M is implementing changes to its information systems so that they will be
fully operable for date recognition and data processing before the year 2000
begins. The Corporation's Year 2000 plans are subject to guidelines promulgated
by the Federal Financial Institutions Examination Council ("FFIEC").
The Kirchman Corporation has certified F&M's D3000 software Year 2000 ready.
The Kirchman Corporation also received certification from the Information
Technology Association of America ("ITAA") on the Year 2000. ITAA 2000
certification means that the process and methods used by the Kirchman
Corporation meets the information technology industry's best software
development practices for addressing the Year 2000 issue.
The ITAA, in conjunction with the Software Productivity Consortium, performs
a thorough and complete review of design methods and controls used to provide
Year 2000 compliant software. This independent examination is viewed as a vital
piece of the Year 2000 due diligence practices for software providers.
It has been estimated that the cost of addressing Year 2000 will be 1.6
percent of 1998 earnings or 0.006 percent of assets, which is immaterial when
considering the size of the Corporation.
Our projections are necessarily based in part on assumptions of future events
including the continued availability of adequate resources and completion of
third party modification plans. There can be no guarantee that these estimates
will be achieved; actual results could differ from the Corporation's current
estimates. Specific risk factors that might cause material differences include,
but are not limited to, the availability and cost of personnel with adequate
programming skills and the ability to locate and correct all relevant computer
codes. The inability to control the actions and plans of vendors and suppliers,
customers, government entities, and other third parties with respect to Year
2000 issues are associated risks.
F&M has dedicated technical and managerial support from all levels of the
organization to ensure that it has the necessary resources to complete the Year
2000 compliance plans in accordance with the recommended time frames and,
therefore, expects no interruptions in service.
[PHOTO OF F&M TRUST COMPANY'S HEADQUARTERS IN WINCHESTER APPEARS HERE]
[PHOTO OF F&M-J.V.ARTHUR'S HEADQUARTERS IN WINCHESTER APPEARS HERE]
5
<PAGE>
MANAGEMENT'S DISCUSSION AND ANALYSIS
OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
The following discussion provides information about the major components of
the results of operations and financial condition, liquidity and capital
resources of F&M. This discussion and analysis should be read in conjunction
with "Selected Financial Data" and the Consolidated Financial Statements and
Notes to Consolidated Financial Statements.
OVERVIEW
F&M produced record earnings during 1998, performing well in a highly
complex, increasingly competitive business environment. F&M's continued high
asset quality, an excellent interest margin and improved management efficiencies
contributed to record net income of $36.5 million, a return on assets of 1.32%
and a return on equity of 13.11%.
F&M expanded its operations by announcing mergers with 3 banks and a second
insurance agency in 1998. On April 1, 1998, under terms of the Merger Agreement,
Peoples Bank of Virginia ("PBVA") Chesterfield, Virginia, was merged with F&M
Bank-Richmond and each share of common stock of PBVA outstanding immediately
prior to consummation of the Merger was exchanged, in a tax-free exchange, for
2.58 shares of common stock of F&M with cash being exchanged in lieu of issuing
fractional shares. As of December 31, 1997, PBVA had total assets of $80.4
million, total loans of $47.0 million, total deposits of $70.4 million and total
shareholders' equity of $8.2 million.
On June 1, 1998, under terms of the Merger Agreement, The Bank of
Alexandria ("BOA") Alexandria, Virginia was merged with F&M Bank-Northern
Virginia and each share of common stock of BOA outstanding immediately prior to
consummation of the Merger was exchanged, in a tax-free exchange, for 0.942
shares of common stock of F&M, with cash being paid in lieu of issuing
fractional shares. As of December 31, 1997, BOA had total assets of $75.9
million, total loans of $58.2 million, total deposits of $67.6 million, and
total shareholders' equity of $7.9 million.
On April 30, 1998, F&M and J.V. Arthur, Inc. ("JVA") announced an agreement
of affiliation of J. V. Arthur, Inc. with F&M Bank-Winchester, F&M's lead bank.
JVA is an insurance agency located in Winchester, Virginia, which offers a full
line of insurance products.
On November 10, 1998, F&M and Security Bank Corporation ("Security"),
Manassas, Virginia announced that their respective Boards of Directors have
approved an agreement for the affiliation of Security with F&M. Under the
agreement, Security will merge with F&M's affiliate, F&M Bank-Northern Virginia.
Under terms of the agreement F&M would exchange the number of its shares of
common stock whose aggregate market value determined as of the date of the
closing equals $17.25, giving the transaction an indicated value of
approximately $16.5 million. The transaction is intended to qualify as a
tax-free exchange and be accounted for as a pooling of interests. Security also
granted F&M an option, exercisable under certain circumstances, to acquire
191,300 shares of Security's common stock (subject to adjustment). At December
31, 1998, Security had total assets of $61.2 million, total loans of $34.3
million, deposits of $52.4 million and total shareholders' equity of $7.9
million. The transaction is expected to be completed in the first quarter 1999.
On January 1, 1998, F&M Trust Company was formed by consolidating the trust
departments of F&M Bank-Winchester, F&M Bank-Peoples and F&M Bank-Northern
Virginia. F&M Trust Company provides a variety of personal trust services
including management of common trust funds, estate administration and planning
specifically addressing the investment and financial management needs of its
customers. At December 31, 1998, F&M Trust Company managed assets and accounts
totaling $586.4 million.
In 1998, F&M expanded its banking market by 10 branch locations to include
119 branches located in Virginia, West Virginia and Maryland. F&M has 174 ATM
machines strategically located throughout its market area.
RESULTS OF OPERATIONS
Net income increased 11.2% in 1998 to $36.5 million, compared with $32.8
million earned in 1997 and $30.9 million earned in 1996. Net income per share,
basic, increased to $1.67 per share in 1998 compared to $1.51 and $1.41 per
share for 1997 and 1996. Net income per share, diluted, increased to $1.65 per
share in 1998 compared to $1.50 per share for 1997 and $1.40 per share for 1996.
Profitability ratios compare favorably in 1998, 1997 and 1996. Return on
average assets on an annualized basis was 1.32% for 1998 and 1.29% for 1997 and
1996. Return on average shareholders' equity is another significant measure of
profitability which in 1998 improved to 13.11%, compared to 12.97% and 12.82%
for 1997 and 1996, respectively. These performance ratios have varied since
1994, with return on average assets increasing slightly from
6
<PAGE>
1.20% in 1994 to 1.22% in 1995, increasing to 1.29% in 1996 and 1997. Return on
average shareholders' equity decreased from 12.37% in 1994 to 12.03% in 1995,
increasing to 12.82% in 1996 and again increasing to 12.97% in 1997.
Net interest margin represents tax-equivalent net interest income divided
by average earning assets. It reflects the average effective rate earned by F&M
on its average earning assets. In 1998, net interest margin, on a tax-equivalent
basis, was 4.71% compared to 4.82% for 1997 and 4.75% for 1996. Net interest
income and net interest margin are influenced by fluctuations in market rates
and changes in both the volume and mix of average earning assets and the
liabilities that fund those assets. In 1998, the yield on interest-earning
assets decreased 30 basis points from 8.26% in 1997 to 7.96% in 1998 and the
cost of interest-bearing liabilities decreased 10 basis points from 4.24% in
1997 to 4.14% in 1998. The decrease in the yield on earning assets was the
result of lower rates received on loans due to competitive pressures in the
market place. In the later part of 1998, the Federal Reserve cut the prime rate
75 basis points, which reduced the yield on interest rate sensitive loans.
In 1998, interest-earning assets have increased to $2.629 billion from
$2.435 billion in 1997 and $2.235 billion in 1996. Competition for potential
loan customers have increased to the point that customers are shopping for
rates, consequently, the rate relative to volume of increase in loans has
declined. Loans, net of unearned discount, in 1998 increased $44.3 million to
$1.693 billion as compared to $1.649 billion in 1997 and $1.528 billion in 1996.
F&M's securities portfolio represents the second largest component of
interest earning assets. At December 31, 1998, F&M's securities portfolio
totaled $771.7 million, $110.5 million or 16.7% higher than year-end 1997. The
securities portfolio at year-end 1997 totaled $661.2 million, which was $31.7
million or 5.0% higher than year-end 1996. In 1998, funds were invested in
investment securities due to the decline in the demand for loan funds and to
take advantage of attractive yields.
F&M's efficiency ratio, a measure of its performance based upon the
relationship between non-interest expense minus foreclosed property expense and
amortization of intangibles and income less securities gains, compares favorably
to other Virginia financial institutions. F&M's efficiency ratio for 1998, 1997
and 1996 was 60.3%, 61.6% and 60.8%, respectively. A lower efficiency ratio
represents a greater control of non-interest related costs. This ratio is
influenced as a result of acquisition and affiliation costs due to F&M's program
of acquiring financial institutions. A fluctuation in the efficiency ratio can
be attributed to relative changes in both non-interest expense and net interest
income.
Since the beginning of 1988, F&M has acquired approximately $1.362 billion
in assets and $1.181 billion in deposits through fourteen bank acquisitions and
two nonbank acquisitions. Thirteen of these acquisitions were accounted for as a
pooling-of-interests and three as a purchase, which enabled F&M to expand its
market into the eastern panhandle of West Virginia, northern Virginia market of
Loudoun, Fauquier, Fairfax and Prince William counties, southern Virginia market
of Greensville County, increase its market share in two of its other Virginia
markets and enter the Maryland markets of Montgomery and Prince George counties.
F&M is not aware of any current recommendations by any regulatory
authorities which, if they were implemented, would have a material effect on the
registrant's liquidity, capital resources, or results of operations.
TABLE 1 -- SUMMARY OF FINANCIAL RESULTS BY QUARTER
<TABLE>
<CAPTION>
1998 1997*
---------------------------------------- ---------------------------------------
DEC. 31 SEPT. 30 JUNE 30 MARCH 31 DEC. 31 SEPT. 30 JUNE 30 MARCH 31
------- -------- ------- -------- ------- -------- ------- --------
(IN THOUSANDS, EXCEPT PER SHARE AMOUNTS)
<S> <C> <C> <C> <C> <C> <C> <C> <C>
Interest income..........................$ 49,942 $ 50,165 $ 49,838 $ 48,862 $ 48,847 $ 48,041 $ 47,235 $ 46,311
Interest expense......................... 19,969 20,475 20,755 20,633 20,999 20,253 19,640 19,151
------- -------- ------- -------- ------- -------- ------- --------
Net interest income...................... 29,973 29,690 29,083 28,229 27,848 27,788 27,595 27,160
Provision for loan losses................ 2,173 1,410 663 717 3,034 799 873 1,096
------- -------- ------- -------- ------- -------- ------- --------
Net interest income after provision for
loan losses 27,800 28,280 28,420 27,512 24,814 26,989 26,722 26,064
Noninterest income....................... 12,425 8,922 8,770 8,520 10,399 7,840 6,398 6,117
Noninterest expense...................... 25,825 23,234 23,624 22,424 23,304 22,377 20,729 19,769
Income before income taxes............... 14,400 13,968 13,566 13,608 11,909 12,452 12,391 12,412
Applicable income taxes.................. 4,744 4,820 4,800 4,693 3,644 4,260 4,235 4,221
------- -------- ------- -------- ------- -------- ------- --------
Net income...............................$ 9,656 $ 9,148 $ 8,766 $ 8,915 $ 8,265 $ 8,192 $ 8,156 $ 8,191
======== ======== ======== ======== ======== ======== ======== =======
Earnings per share, basic................$ 0.44 $ 0.42 $ 0.40 $ 0.41 $ 0.38 $ 0.38 $ 0.38 $ 0.37
Earnings per share, assuming dilution....$ 0.44 $ 0.41 $ 0.40 $ 0.40 $ 0.38 $ 0.37 $ 0.37 $ 0.37
</TABLE>
*The amounts previously reported on Form 10Q for the periods presented have been
retroactively restated to reflect the acquisitions of Peoples Bank of Virginia
on April 1, 1998, J. V. Arthur Inc. on April 30, 1998 and The Bank of Alexandria
on June 1, 1998.
7
<PAGE>
NET INTEREST INCOME
Net interest income represents the principal source of earnings for F&M.
Net interest income equals the amount by which interest income exceeds interest
expense and represents F&M's gross profit margin. Changes in the volume and mix
of interest-earning assets and interest-bearing liabilities, as well as their
respective yields and rates, have a significant impact on the level of net
interest income.
Net interest income increased to $117.0 million for the year ended December
31, 1998, up 6.0% over the $110.4 million reported for the same period in 1997
and up 7.5% in 1997 over the $102.7 million reported for 1996. Net interest
income in 1998 was affected by increased competition for loans coupled with
declining market rates, however, the economy was considered strong and
expanding. Loans grew $44.3 million or 2.7% to $1.693 billion in 1998 from
$1.649 billion in 1997. Loans increased in 1997 by $121.0 million or 7.9% over
$1.528 billion in 1996. In 1998, deposits provided the source of funds by
increasing to $2.436 billion, up $160.6 million or 7.1% from $2.275 billion in
1997. Interest-bearing deposits increased $61.6 million in 1998 to $1.900
billion from $1.838 billion in 1997. Deposit and loan growth in 1998 was
affected by uncertainty in Far East economic conditions which, in turn, affected
interest rates in banks in the United States. The Federal Reserve lowered the
discount rate in the latter part of 1998 in order to preserve economic
stability. In 1998, depositors were pooling funds in liquid deposit
relationships rather than commit funds to long term relationships.
Net interest income was $110.4 million for the year 1997, up 7.5% over the
$102.7 million reported for the same period in 1996. Net interest income in 1997
was affected by a rebound of loan demand following a recessionary period. Loans
grew $121.0 million or 7.9% to $1.649 billion in 1997 from $1.528 billion in
1996. In 1997, total interest-bearing deposits provided the primary source of
funds increasing to $1.838 billion, up $94.4 million or 5.4% from $1.744 billion
in 1996.
Net interest income for 1996 increased $7.7 million to $102.7 million,
compared to $96.9 million for 1995. The net interest margin for 1996 was 4.75%.
At year-end 1996, the securities portfolio was $629.5 million, down $32.1
million or 4.8% over the same period 1995. During 1996, funds were kept in
liquid interest-earning assets to be available when securities yields and loan
demand improved.
Table 2 analyzes changes in net interest income attributable to changes in
the volume of interest-bearing assets and liabilities compared to changes in
interest rates. Nonaccruing loans are included in average loans outstanding.
TABLE 2 -- VOLUME AND RATE ANALYSIS
TAX EQUIVALENT BASIS
<TABLE>
<CAPTION>
1998 1997
------------------------- ------------------------
CHANGE IN CHANGE IN
VOLUME RATE INCOME/ VOLUME RATE INCOME/
EFFECT EFFECT EXPENSE EFFECT EFFECT EXPENSE
-------- ------- -------- ------- -------- -------
<S> <C> <C> <C> <C> <C> <C>
(DOLLARS IN THOUSANDS)
EARNING ASSETS:
Taxable securities.......................... $4,858 $ (713) $ 4,145 $(1,089) $ 191 $(898)
Tax-exempt securities....................... (315) (82) (397) (284) (28) (312)
Taxable loans............................... 4,695 (3,108) 1,587 13,286 (432) 12,854
Tax-exempt loans............................ (30) (35) (65) 216 (4) 212
Federal funds sold and repurchase agreements 2,069 (124) 1,945 (178) (130) (308)
Interest-bearing deposits in other banks.... 984 12 996 316 (42) 274
-------- ------- -------- ------- -------- --------
Total earning assets................... $12,261 $(4,050) $ 8,211 $ 12,267 $ (445) $11,822
-------- ------- -------- ------- -------- --------
INTEREST-BEARING LIABILITIES:
Checking deposits........................... $1,295 $ (33) $ 1,262 $ 722 $ 31 $ 753
Savings deposits - regular.................. (37) (280) (317) (174) (144) (318)
Savings deposits - money market............. 288 (95) 193 (65) 241 176
CD's & other time deposits - under $100,000. (457) (147) (604) 1,375 (381) 994
CD's & other time deposits - $100,000 & over 839 (316) 523 1,281 (18) 1,263
-------- ------- -------- ------- -------- --------
Total interest-bearing deposits........ 1,928 (871) 1,057 3,139 (271) 2,868
Borrowed funds short-term.............. 557 107 664 583 209 792
Borrowed funds long-term............... 159 (91) 68 509 (1) 508
-------- ------- -------- ------- -------- --------
Total interest-bearing liabilities..... 2,644 (855) 1,789 4,231 (63) 4,168
-------- ------- -------- ------- -------- --------
Change in net interest income.......... $9,617 $(3,195) $ 6,422 $ 8,036 $ (382) $ 7,654
======== ======= ======== ======= ======== =======
</TABLE>
Note: The change in interest due to both rate and volume has been allocated to
change due to volume and change due to rate in proportion to the relationship of
the absolute dollar amounts of the change in each.
8
<PAGE>
Table 3 (page 10 and 11) depicts interest income on earning assets and
related average yields as well as interest expense on interest-bearing
liabilities and related average rates paid for the periods indicated. Loans
placed on a nonaccrual status are included in the balances and were included in
the computation of yields, upon which they had no material effect.
INTEREST SENSITIVITY
The primary goals of interest rate risk management are to minimize
fluctuations in net interest margin as a percentage of earning assets and to
increase the dollars of net interest margin at a growth rate consistent with the
growth rate of total assets. These goals are accomplished by balancing the
volume of floating-rate liabilities with a similar volume of floating-rate
assets, by keeping the average maturity of fixed rate asset and liability
contracts reasonably consistent and short, and by routinely adjusting pricing
rates to market conditions on a weekly basis.
The goal of F&M is to generally maintain a position that is to provide
flexibility enough to move to an equality between rate-sensitive assets and
rate-sensitive liabilities, which may be desirable when there are wide and
frequent fluctuations in interest rates. Interest rate gaps are managed through
investments, loan pricing and deposit pricing. When an unacceptable positive gap
within a one-year time frame occurs, maturities can be extended by selling
shorter-term investments and buying longer maturities. The same effect can also
be accomplished by reducing emphasis on variable rate loans. When an
unacceptable negative gap occurs, variable rate loans can be increased and more
investment in shorter-term investments can be made. Pricing policies on either
or both loans and deposits can be changed to accomplish any of the goals. F&M
reviews the interest sensitivity position of each subsidiary bank at least once
a quarter.
It is F&M's policy not to engage in activities considered to be derivative
in nature such as futures, option contracts, swaps, caps, floors, collars or
forward commitments. F&M considers derivatives as speculative which is contrary
to F&M's historical or prospective philosophy. F&M does not hold or issue
financial instruments for trading purposes. F&M does hold in its loan and
security portfolio investments that adjust or float according to changes in the
"prime" lending rate which is not considered speculative, but necessary for good
asset/liability management. Off-balance sheet risks such as commitments to
extend credit, standby letters of credit and other items are discussed in Note
18 in the Notes to Consolidated Financial Statements.
FORWARD-LOOKING STATEMENTS
The sections that follow, Market Risk Management, contain certain
forward-looking statements (as defined in the Private Securities Litigation
Reform Act of 1995). These forward-looking statements may involve significant
risks and uncertainties. Although F&M believes that the expectations reflected
in such forward-looking statements are reasonable, actual results may differ
materially from the results discussed in these forward-looking statements.
MARKET RISK MANAGEMENT
Market risk is the risk of loss arising from adverse changes in the fair
value of financial instruments due to changes in interest rates, exchange rates
and equity prices. F&M's market risk is composed primarily of interest rate
risk. F&M's Asset/Liability/Risk Committee ("ALCO") is responsible for reviewing
the interest rate sensitivity position of F&M and establishing policies to
monitor and limit exposure to interest rate risk. Guidelines established by ALCO
are reviewed by F&M's Board of Directors.
ASSET/LIABILITY/RISK MANAGEMENT: The primary goals of asset/liability/risk
management are to maximize net interest income and the net value of F&M's future
cash flows within the interest rate risk limits set by ALCO.
INTEREST RATE RISK MEASUREMENT: Interest rate risk is monitored through the
use of three complementary measures: static gap analysis, earnings simulation
modeling and net present value estimation. While each of the interest rate risk
measurements has limitations, taken together they represent a reasonably
comprehensive view of the magnitude of interest rate risk in the Corporation,
the distribution of risk along the yield curve, the level of risk through time,
and the amount of exposure to changes in certain interest rate relationships.
STATIC GAP: Gap analysis measures the amount of repricing risk embedded in
the balance sheet at a point in time. It does so by comparing the differences in
the repricing characteristics of assets and liabilities. A gap is defined as the
difference between the principal amount of assets and liabilities, adjusted for
off-balance sheet instruments, which reprice within a specified time period. The
cumulative one-year gap, at year-end 1998 and 1997, was -4.7% and -12.2% of
total earning assets, respectively. The policy limit for the one-year gap is
plus or minus 15% of adjusted total earning assets.
Core deposits and loans with noncontractual maturities are included in the
gap repricing distributions based upon historical patterns of balance attrition
and pricing behavior which are reviewed at least annually.
The gap repricing distributions include principal cash flows from
residential mortgage loans and mortgage-
9
<PAGE>
TABLE 3 -- AVERAGE BALANCES, INCOME AND EXPENSE, YIELDS AND RATES (1)
<TABLE>
<CAPTION>
Twelve Months Ended December 31,
- -----------------------------------------------------------------------------------------
1998
ANNUAL
AVERAGE INCOME/ YIELD/
BALANCE EXPENSE RATE
------- ------- ----
<S> <C> <C> <C>
ASSETS (DOLLARS IN THOUSANDS)
Securities:
Taxable............................................... $679,856 $41,709 6.13%
Tax-exempt (1)........................................ 24,556 2,046 8.33%
- -----------------------------------------------------------------------------------------
Total securities.................................. 704,412 43,755 6.21%
Loans (net of unearned income):
Taxable............................................... 1,641,288 147,140 8.96%
Tax-exempt (1)........................................ 14,473 1,518 10.49%
- -----------------------------------------------------------------------------------------
Total loans....................................... 1,655,761 148,658 8.98%
Federal funds sold and repurchase agreements.............. 121,062 6,120 5.06%
Interest-bearing deposits in other banks.................. 31,216 1,521 4.87%
- -----------------------------------------------------------------------------------------
Total earning assets.............................. 2,512,451 200,054 7.96%
Less: allowance for loan losses........................... (22,171)
Total nonearning assets................................... 267,523
-----------
Total assets......................................$ 2,757,803
===========
LIABILITIES AND SHAREHOLDERS' EQUITY Interest-bearing deposits:
Checking..............................................$ 396,097 $ 8,735 2.21%
Regular savings....................................... 208,282 5,491 2.64%
Money market savings................................. 243,070 7,323 3.01%
Certificates of deposit:
Less than $100,000................................ 794,970 43,739 5.50%
$100,000 and more................................. 216,158 11,616 5.37%
- -----------------------------------------------------------------------------------------
Total interest-bearing deposits........................... 1,858,577 76,904 4.14%
Short-term borrowings..................................... 101,455 3,825 3.77%
Long-term borrowings...................................... 18,469 1,103 5.97%
- -----------------------------------------------------------------------------------------
Total interest-bearing liabilities................ 1,978,501 81,832 4.14%
Noninterest-bearing liabilities:
Demand deposits....................................... 475,272
Other liabilities..................................... 25,628
-----------
Total liabilities......................................... 2,479,401
Stockholders' equity...................................... 278,402
-----------
Total liabilities and shareholders` equity................$ 2,757,803
===========
Net interest income....................................... $118,222
--------
Interest rate spread...................................... 3.82%
Interest expense as a percent of average earning assets... 3.26%
Net interest margin....................................... 4.71%
</TABLE>
(1) Income and yields are reported on a taxable-equivalent basis.
10
<PAGE>
TWELVE MONTHS ENDED DECEMBER 31,
<TABLE>
<CAPTION>
- --------------------------------------------------------------------------------------
1997 1996
ANNUAL ANNUAL
AVERAGE INCOME/ YIELD/ AVERAGE INCOME/ YIELD/
BALANCE EXPENSE RATE BALANCE EXPENSE RATE
------- ------- ---- ------- ------- ----
(DOLLARS IN THOUSANDS) (DOLLARS IN THOUSANDS)
<S> <C> <C> <C> <C> <C>
$601,166 $ 37,564 6.25% $618,136 $38,462 6.22%
28,320 2,443 8.63% 31,605 2,755 8.72%
- ---------------------------------------------------------------------------------------
629,486 40,007 6.36% 649,741 41,217 6.34%
1,586,410 145,553 9.17% 1,441,886 132,699 9.20%
14,754 1,583 10.73% 12,739 1,371 10.76%
- ----------------------------------------------------------------------------------------
1,601,164 147,136 9.19% 1,454,625 134,070 9.22%
80,006 4,175 5.22% 83,394 4,483 5.38%
11,024 525 4.76% 4,094 251 6.13%
- ----------------------------------------------------------------------------------------
2,321,680 191,843 8.26% 2,191,854 180,021 8.21%
(19,647) (19,413)
241,661 218,198
- ---------- -----------
$2,543,694 $ 2,390,639
========== ===========
$336,906 $ 7,473 2.22% $304,314 $ 6,720 2.21%
209,567 5,808 2.77% 216,008 6,126 2.84%
233,777 7,130 3.05% 235,923 6,954 2.95%
804,029 44,343 5.52% 778,793 43,349 5.57%
200,749 11,093 5.53% 177,359 9,830 5.54%
- ----------------------------------------------------------------------------------------
1,785,028 75,847 4.25% 1,712,397 72,979 4.26%
86,697 3,161 3.65% 70,390 2,369 3.37%
15,198 1,035 6.81% 7,725 527 6.82%
- ---------------------------------------------------------------------------------------
1,886,923 80,043 4.24% 1,790,512 75,875 4.24%
383,672 339,827
20,209 19,283
- ---------- -----------
2,290,804 2,149,622
252,890 241,017
- ---------- -----------
$2,543,694 $ 2,390,639
========== ===========
$111,800 $104,146
-------- --------
4.02% 3.97%
3.45% 3.46%
4.82% 4.75%
</TABLE>
11
<PAGE>
backed securities in the time frames in which they are expected to be received.
Mortgage prepayments are estimated by applying industry median projections of
prepayment speeds to portfolio segments based on coupon range and loan age.
EARNINGS SIMULATION: The earnings simulation model forecasts one year net
income under a variety of scenarios that incorporate changes in the absolute
level of interest rates, changes in the shape of the yield curve and changes in
interest rate relationships. Management evaluates the effects on income of
alternative interest rate scenarios against earnings in a stable interest rate
environment. This type of analysis is also most useful in determining the
short-run earnings exposures to changes in customer behavior involving loan
payments and deposit additions and withdrawals.
The most recent earnings simulation model projects net income would
decrease by approximately 8.1% of stable-rate net income if rates immediately
fall by two hundred basis points over the next year. It projects an increase of
approximately 7.3% if rates rise immediately by two hundred basis points.
Management believes this reflects a liability-sensitive rate risk position for
the one-year horizon. This one-year forecast is within the ALCO guideline of
15.0%.
This dynamic simulation model includes assumptions about how the balance
sheet is likely to evolve through time, in different interest rate environments.
Loan and deposit growth rate assumptions are derived from historical analysis
and management's outlook, as are the assumptions used to project yields and
rates for new loans and deposits. All maturities, calls and prepayments in the
securities portfolio are assumed to be reinvested in like instruments. Mortgage
loan prepayment assumptions are developed from industry median estimates of
prepayment speeds for portfolios with similar coupon ranges and seasoning.
Noncontractual deposit growth rates and pricing are assumed to follow historical
patterns. The sensitivities of key assumptions are analyzed at least annually
and reviewed by ALCO.
NET PRESENT VALUE: The Net Present Value ("NPV") of the balance sheet, at a
point in time, is defined as the discounted present value of asset cash flows
minus the discounted value of liability cash flows. Interest rate risk analysis
using NPV involves changing the interest rates used in determining the cash
flows and in discounting the cash flows. The resulting percentage change in NPV
is an indication of the longer term repricing risk and options risk embedded in
the balance sheet.
At year-end, a 200 basis point immediate increase in rates is estimated to
reduce NPV by 5.1%. Additionally, NPV is projected to increase by 2.2% if rates
fall immediately by 200 basis points. Analysis of the average quarterly change
in the Treasury yield curve over the past ten years indicates that a parallel
curve shift of 200 basis points or more is an event that has less than a .1%
chance of occurrence.
As with gap analysis and earnings simulation modeling, assumptions about
the timing and variability of balance sheet cash flows are critical in NPV
analysis. Particularly important are the assumptions driving mortgage
prepayments and the assumptions about expected attrition of the core deposit
portfolios. These assumptions are applied consistently across the different rate
risk measures.
Summary information about interest-rate risk measures are presented below.
TABLE 4 -- INTEREST-RATE RISK MEASUREs
YEAR-END YEAR-END
1998 1997
----------- ----------
Static 1-Year Cumulative Gap.................. -4.7% -12.2%
1-Year Net Income Simulation Projection
-200 bp Shock vs Stable Rate................ -8.1% -3.2%
+200 bp Shock vs Stable Rate................ 7.3% 2.7%
Static Net Present Value Change
-200 bp Shock vs Stable Rate................ 2.2% 5.0%
+200 bp Shock vs Stable Rate................ -5.1% -7.8%
Due to borrowers' preferences for floating-rate loans and depositors'
preferences for fixed-rate deposits, F&M's balance sheet tends to move toward
less liability sensitivity with the passage of time. The earnings simulation
model indicates that if all prepayments, calls and maturities of the securities
portfolios expected over the next year were to remain uninvested, then the
current liability sensitivity position would be lessened. Purchases of
fixed-rate securities have been made to offset the natural tendency toward a
less liability sensitive interest rate risk position.
Management expects interest rates will decline less than 1% during 1999 and
believes that the current modest level of liability sensitivity is appropriate.
12
<PAGE>
NONINTEREST INCOME
Noninterest income for 1998 increased $7.9 million, or 25.6%, over the same
period in 1997. Trust Company income increased $306 thousand or 13.1% from $2.3
million for 1997 to $2.6 million for 1998 as a result of increased fiduciary
activities and the settlement of estates. Service charges on deposit accounts,
the largest single item of noninterest income, increased $2.3 million for 1998,
up 21.5% over the comparable period a year ago as a result of adding additional
services and improving existing deposit services. Credit card fees increased to
$4.2 million for 1998 as compared to $3.7 million for 1997 as a result of
increased card loan volume. Fees for other customer services were $3.3 million
for 1998, which increased $749 thousand or 29.5% from 1997 as a result of
increased marketing of current services and providing new services for
customers. Insurance commissions increased $5.2 million or 161.8% from $3.2
million in 1997 to $8.4 million in 1998 as a result of acquiring Shomo &
Lineweaver Insurance and J V Arthur Inc., two full service insurance companies.
Gains on sale of securities were $2.4 million for 1998 as compared to $4.2
million for 1997. Security gains are realized when market conditions exist that
are favorable to F&M and/or conditions dictate additional liquidity is
desirable. In 1997 and to a lesser extent in 1998, F&M took advantage of
significant stock market gains in other corporate stock and securities held by
the corporation. Other operating income increased to $4.8 million in 1998, up
$619 thousand or 14.8% over 1997. The increase in other operating income was the
result of increased charges for various nondeposit related fees such as
checkbook sales, foreign ATM fees, safe deposit box fees, and loan documentation
fees.
In 1997, noninterest income increased $6.8 million or 28.6% from $23.9
million in 1996 to $30.8 million. Trust Company income increased $139 thousand
or 6.3% from $2.2 million for 1996 to $2.3 million for 1997 as a result of
additional and increased fiduciary activities. Service charges on deposit
accounts were $10.6 million for 1997, up 10.0% over the previous year. Credit
card fees were $3.7 million and $3.4 million for 1997 and 1996, up $251 thousand
as a result of increased card lending activities. Fees for other customer
services were $2.5 million for 1997, which increased $471 thousand or 22.8% from
1996 as a result of a reduction in loan refinancing activity. Insurance
commissions increased $982 thousand or 44.1% from $2.2 million in 1996 to $3.2
million in 1997 as a result of acquiring Shomo & Lineweaver Insurance Company.
Gains on sale of securities were $4.2 million for 1997 as compared to $314
thousand for 1996. Security gains are realized when market conditions exist that
are favorable to F&M and/or conditions dictate additional liquidity is
desirable. Interest rates were rising in 1996 reducing the appeal to reposition
securities, therefore, security gains were smaller in 1996 than in 1997.
TABLE 5 -- NONINTEREST INCOME
<TABLE>
<CAPTION>
YEAR ENDED DECEMBER 31,
---------------------------
1998 1997 1996
-------- ------- --------
<S> <C> <C> <C>
(DOLLARS IN THOUSANDS)
Commissions and fees from fiduciary activities.. $ 2,641 $ 2,335 $ 2,196
Service charges on deposit accounts............. 12,895 10,612 9,645
Credit card fees................................ 4,193 3,652 3,401
Fees for other customer services................ 3,287 2,537 2,066
Insurance commission income..................... 8,397 3,208 2,226
Other operating income.......................... 4,796 4,177 4,068
-------- ------- --------
Noninterest income...................... 36,209 26,521 23,602
Profits on securities available for sale........ 2,425 4,217 312
Investment securities gains, net................ 3 16 2
-------- ------- --------
Total noninterest income................ $ 38,637 $30,754 $23,916
======== ======= ========
</TABLE>
NONINTEREST EXPENSE
Total noninterest expense increased $8.9 million or 10.4%, from $86.2
million in 1997 to $95.1 million in 1998. Salaries and employee benefits
increased $6.5 million or 14.0%, net occupancy expense including furniture and
equipment expense increased $577 thousand or 4.1%, credit card expense increased
$147 thousand or 5.7% and other operating expense increased $1.7 million or
7.4%. Growth in 1998 noninterest expense is attributable to branch bank
expansion and costs associated with handling asset and liability growth.
For 1997, noninterest expense increased by $8.5 million, or 10.9%, from
$77.7 million in 1996 to $86.2 million in 1997. This increase was primarily due
to a $5.4 million, or 13.2% increase in salary and employee benefits, a $1.3
13
<PAGE>
million or 10.1% increase in net occupancy expense including furniture and
equipment expense and a $332 thousand, or 14.9% increase in credit card expense.
Other operating expenses also increased $1.4 million or 6.6% in 1997. The
primary reason for the increases in noninterest expense was costs associated
with acquiring and opening new bank offices and remodeling other banking
offices. Credit card expenses increased as a result of higher card lending
activity coupled with a computer conversion. Other operating expenses increased
as a result of professional fees associated with acquiring new banks and
training and conversion costs associated with converting to a new consolidated
data processing system.
TABLE 6 -- NONINTEREST EXPENSE
YEAR ENDED DECEMBER 31,
---------------------------
1998 1997 1996
-------- ------- --------
(DOLLARS IN THOUSANDS)
Salaries and employee benefits............. $ 52,997 $46,509 $41,073
Net occupancy expense of premises.......... 8,190 7,378 6,696
Furniture and equipment expense............ 6,318 6,553 5,961
Deposit insurance.......................... 291 255 209
Credit card expense........................ 2,710 2,563 2,231
Other operating expenses................... 24,601 22,921 21,537
-------- ------- --------
Total............................... $ 95,107 $86,179 $77,707
======== ======= ========
INCOME TAXES
Income tax expense at December 31, 1998 was $19.1 million, up from $16.4
million for 1997 and up from $15.9 million for 1996. The increase in income
taxes is attributable to increased taxable earnings at the federal statutory
income tax rate of 35% and state income taxes levied by West Virginia and
Maryland. This corresponds to an effective tax rate of 34.3%, 33.2% and 34.0%
for the three years ended December 31, 1998, 1997 and 1996, respectively. Note
16 to the Consolidated Financial Statements provide a reconciliation between
income tax expense computed using the federal statutory income tax rate and
F&M's actual income tax expense. Also included in Note 16 to the Consolidated
Financial Statements is information regarding the principal items giving rise to
deferred taxes for each of the three years ended December 31.
LOAN PORTFOLIO
Loans, net of unearned income, increased to $1.693 billion at December 31,
1998, up $44 million or 2.7% from $1.649 billion at year-end 1997 and up $121
million or 7.9% from $1.528 billion at year end 1996. The loan activity increase
for 1998 is indicative of a highly competitive market coupled with an expanding
economy. All of F&M's subsidiary banks offer both commercial and consumer loans,
but lending activity is generally focused on consumers and small to
middle-market businesses within the subsidiary banks' respective market regions.
Four of F&M's subsidiary banks, F&M Bank-Massanutten, F&M Bank-West Virginia,
F&M Bank-Emporia and F&M Bank-Peoples emphasize consumer lending, with
activities focused primarily on residential real estate and consumer lending.
F&M Bank-Richmond, F&M Bank-Northern Virginia, F&M Bank-Central Virginia and F&M
Bank-Allegiance are based in larger markets where the commercial loan demand is
stronger and, as a result, their lending activities place a greater emphasis on
small to medium-size business. F&M Bank-Winchester, because of its size and
dominant position in its market, has a greater opportunity to appeal to larger
commercial customers in addition to consumers.
Approximately 16.6% of F&M's loan portfolio at December 31, 1998 was
comprised of commercial loans, which includes certain loans secured by real
estate in categories of multifamily, non-farm, non-residential and agricultural
where real estate is among the sources of collateral securing the loan. F&M's
subsidiary banks offer a variety of commercial loans within their market
regions, including revolving lines of credit, working capital loans, equipment
financing loans and letters of credit. Although F&M's subsidiary banks typically
look to the borrower's cash flow as the principal source of repayment for such
loans, many of the loans within this category are secured by assets, such as
real property, accounts receivable, inventory and equipment. In addition, a
number of commercial loans are secured by real estate used by such businesses
and are generally personally guaranteed by the principals of the businesses.
F&M's commercial loans generally bear a floating rate of interest tied to a
system-wide prime rate set by F&M Bank-Winchester.
F&M's residential real estate loan portfolio (including home equity lines)
was 65.2% of total loans at December 31, 1998. The residential mortgage loans
made by F&M's subsidiary banks and F&M Mortgage Services are made only for
single family, owner-occupied residences within their respective market regions.
Residential mortgage loans
14
<PAGE>
offered by F&M's subsidiaries are either adjustable rate loans or fixed
rate loans with 20 to 30 year amortization schedules that mature with a balloon
payment on the third or fifth year anniversary of the loan.
F&M Mortgage Services, F&M Bank-Northern Virginia and F&M Bank-Peoples sell
into the secondary market permanent residential mortgage loans that conform to
GNMA and FNMA underwriting guidelines. These F&M subsidiaries purchase
government insured 1-4 family FHA and VA loans and resell them immediately in
package form. At December 31, 1998, F&M Mortgage Services had $28.2 million in
loans that it had committed to purchase, but had not settled upon.
F&M's real estate construction portfolio historically has been a relatively
small portion of the total loan portfolio. At December 31, 1998, construction
loans were $101.7 million or 6.0% of the total loan portfolio. Generally, all
construction loans are made to finance owner-occupied properties with permanent
financing commitments in place. F&M's subsidiary banks make a limited number of
loans for acquisition, development and construction of residential real estate.
F&M's construction loans, including its acquisition and development loans,
generally bear a floating rate of interest and mature in one year or less. Loan
underwriting standards for such loans generally limit the loan amount to 75% of
the finished appraised value of the project. As a result of strict underwriting
guidelines, F&M has experienced charge-offs involving residential construction
loans since 1993 of less than one half of 1%.
Consumer loans were 12.2% of F&M's total loan portfolio at December 31,
1998. F&M subsidiary banks offer a wide variety of consumer loans, which include
installment loans, credit card loans, home equity lines and other secured and
unsecured credit facilities. The performance of the consumer loan portfolio is
directly tied to and dependent upon the general economic conditions in each of
F&M's subsidiary banks' respective market regions.
Loans secured by real estate consist of a diverse portfolio of
predominantly single family residential loans, which at December 31, 1998
comprised 65.2% of the loan portfolio. Loans secured by commercial real estate
comprised 16.6% of the loan portfolio at December 31, 1998 and consist
principally of commercial and industrial loans where real estate constitutes a
source of collateral (29.0%) (shown in Table 7 under the category of "Non-farm,
non-residential"), multifamily loans (1.8%) and agricultural loans (0.9%). F&M
attempts to reduce its exposure to the risks of the local real estate market by
limiting the aggregate size of its commercial real estate portfolio and by
making such loans primarily on owner-occupied properties. F&M has historically
engaged in limited mortgage lending on multifamily and agricultural properties.
Real estate construction loans accounted for only 6.0% of total loans
outstanding at December 31, 1998. F&M's net charge-off rate for all loans
secured by real estate was 0.07% of period end loans. This is consistent with
1997 when the charge-off rate for all loans secured by real estate was 0.06% of
period end loans outstanding. F&M's consumer loan portfolio, its second largest
loan category, consists principally of personal loans.
Consistent with its focus on providing community-based financial services,
F&M generally does not make loans outside its principal market regions. F&M does
not engage in foreign lending activities, consequently, the loan portfolio is
not exposed to risk from foreign credits. F&M maintains a policy not to
originate or purchase loans classified by regulators as highly leveraged
transactions or loans to foreign entities or individuals.
F&M's unfunded loan commitments amounted to $384.5 million at December 31,
1998, compared to $339.4 million at December 31, 1997. This decrease in unfunded
loan commitments is due to review by management of available lines and reducing
excessive lines.
On December 31, 1998, F&M had a concentration of loans in non-farm,
non-residential loans, consisting primarily of commercial loans secured by real
estate of $490.7 million and 1-4 family residential mortgage loans of $509.0
million which were in excess of 10 percent of the total loan portfolio. Because
of the nature of F&M's market, loan collateral is predominately real estate
related.
A number of economic factors in conjunction with loan activity in 1998
suggest that loan growth in 1999 should continue at a slow pace. At present
there is an inverse relationship with short-term rates being higher than
long-term rates. Interest rates in 1998 were below the floors they reached in
1997 and were attractive to borrowers. New home construction is slowing, but
home sales remain strong due to attractive market rates. Auto sales were up in
1998, and the forecast is for it to be steady in 1999. The economy is continuing
to create new jobs and absorb the unemployment that was created during the
recession and business restructuring in 1997 and 1996. Reports suggest that
borrowers are showing a mixed degree of confidence in the economy. These factors
resulted in a declining loan growth trend in 1998 and this trend is expected to
continue in 1999.
15
<PAGE>
TABLE 7 -- LOAN PORTFOLIO
<TABLE>
<CAPTION>
DECEMBER 31,
-----------------------------------------------------------
1998 1997 1996 1995 1994
---------- ----------- ----------- ----------- -----------
(DOLLARS IN THOUSANDS)
<S> <C> <C> <C> <C> <C>
Commercial, financial and agricultural.... $ 280,714 $ 275,678 $ 238,490 $ 198,219 $ 191,480
Real estate construction.................. 101,715 95,310 78,063 67,818 61,912
Real estate mortgage:
Residential (1-4 family).............. 508,966 509,204 475,374 432,422 406,855
Home equity lines..................... 59,507 68,991 69,011 70,275 70,852
Multifamily........................... 30,060 32,860 34,614 27,530 27,800
Non-farm, non-residential (1)......... 490,682 471,352 442,186 399,361 345,079
Agricultural.......................... 15,297 18,516 19,199 17,576 17,511
---------- ----------- ----------- ----------- -----------
Real estate subtotal.................. 1,104,512 1,100,923 1,040,384 947,164 868,097
Loans to individuals:
Consumer.............................. 187,762 157,457 153,179 148,210 155,554
Credit card........................... 21,074 23,047 23,389 23,043 19,362
---------- ----------- ----------- ----------- -----------
Loans to individuals subtotal......... 208,836 180,504 176,568 171,253 174,916
Total loans....................... 1,695,777 1,652,415 1,533,505 1,384,454 1,296,405
Less unearned income...................... (2,736) (3,661) (5,719) (6,676) (6,286)
---------- ----------- ----------- ----------- -----------
Loans-- net of unearned income............ $1,693,041 $1,648,754 $1,527,786 $1,377,778 $1,290,119
========== =========== =========== =========== ===========
</TABLE>
(1) This category generally consists of commercial and industrial loans where
real estate constitutes a source of collateral.
REMAINING MATURITIES OF SELECTED LOANS
DECEMBER 31, 1998
---------------------
COMMERCIAL,
FINANCIAL AND REAL ESTATE-
AGRICULTURAL CONSTRUCTION
------------- -------------
(DOLLARS IN THOUSANDS)
Within 1 year..................... $ 150,586 $ 71,071
--------- ---------
Variable Rate:
1 to 5 years.................. 25,949 4,768
After 5 years................. 11,439 7,279
--------- ---------
Total......................... $ 37,388 $ 12,047
--------- ---------
Fixed Rate:
1 to 5 years.................. 80,883 11,609
After 5 years................. 11,857 6,988
--------- ---------
Total......................... $ 92,740 $ 18,597
--------- ---------
Total Maturities.............. $ 280,714 $ 101,715
========= =========
ASSET QUALITY
ALLOWANCE FOR LOAN LOSSES. The allowance for loan losses is an estimate of
an amount adequate to provide for potential losses in the loan portfolio of each
of F&M's subsidiary banks. The amount of the allowance is based on management's
evaluation of the collectability of the loan portfolio, credit concentrations,
trends in historical loss experience, specific impaired loans, and economic
conditions. Allowances for impaired loans are generally determined based on
collateral values or the present value of estimated cash flows. The allowance is
increased by a provision for loan losses, which is charged to expense and
reduced by charge-offs, net of recoveries. Changes in the allowances relating to
impaired loans are charged or credited to the provision for loan losses. Each of
F&M's subsidiary banks has a formal loan review function which consists of a
committee of bank officers that regularly reviews loans and assigns a
classification based on current perceived credit risk. In addition, the holding
company has an independent loan review team that performs a detailed on-site
review and analysis of each of F&M's subsidiary bank's loan portfolio on at
least an annual basis reviewing 60% to 75% of the total principal amount of each
of F&M's subsidiary bank's loan portfolio. In addition, all lending
relationships involving an adversely classified loan are reviewed. The review
team has the authority to classify any loan it determines is not satisfactorily
classified within F&M's grading system. All classified loans are reviewed at
least quarterly by F&M's senior officers and by the subsidiary banks' board of
directors. All past due and nonaccrual loans are reviewed monthly by the
subsidiary banks' board of directors. As a matter of policy, F&M's subsidiary
banks place loans on nonaccrual status
16
<PAGE>
when management determines that the borrower can no longer service debt
from current cash flows and/or collateral liquidation. This generally occurs
when a loan becomes 90 days past due as to principal and interest. This detailed
management analysis forms the basis for determining the amount needed in the
allowance for loan losses. Although the ratio of the allowance to total loans
and nonaccrual loans may be less than its peers, F&M believes the ratio to be
adequate based on this loan risk review analysis.
Nonperforming loans decreased $8.4 million from $20.0 million at year-end
1997 to $11.5 million at year-end 1998. In keeping with F&M's conservative
philosophy, the amount provided for the provision for loan losses was $5.0
million after careful analysis of possible losses in the loan portfolio. In
1997, the provision was $5.8 million to make additional provision for one
commercial customer. The nature of loan quality in the portfolio and improved
underwriting standards in 1996 allowed F&M to maintain a lower allowance for
loan losses for that year. The ratio of allowance for loan losses to period end
loans, net for 1998, 1997 and 1996 was 1.30%, 1.32% and 1.25%, respectively. In
1998, F&M included in its loan portfolio $39.0 million loans composed of SBA,
FHA and VA residential housing loans that were guaranteed by the U.S.
government. If these guaranteed loans were excluded from total average loans for
1998, the ratio of allowance for loan losses to period end loans, net would be
1.36%. In 1998, 1997 and 1996, the ratio of allowance for loan losses to
nonaccrual loans were 201.1%, 111.5% and 158.0%, respectively, which is an
indication that the allowance is adequate with respect to nonaccrual loans.
The allowance is also subject to regulatory examinations and determinations
as to adequacy, which may take into account such factors as the methodology used
to calculate the allowance and the size of the allowance in comparison to peer
companies identified by regulatory agencies. F&M's subsidiary banks are examined
at different times, but the Virginia Bureau of Financial Institutions examined
all Virginia banking subsidiaries, the West Virginia Division of Banking
examined the West Virginia bank subsidiary and the Federal Reserve Bank of
Baltimore examined the Maryland bank subsidiary during 1998. Loans classified
for regulatory purposes as loss, doubtful, substandard, or special mention, do
not represent or result from trends or uncertainties which management reasonably
expects will materially impact future operating results, liquidity, or capital
resources or represent material credits about which management is aware of any
information which causes management to have serious doubts as to the ability of
such borrowers to comply with the loan repayment terms.
F&M maintains a general allowance for loan losses and does not allocate its
allowance for loan losses to individual categories for management purposes.
Table 8 shows an allocation among loan categories based upon analysis of the
loan portfolio's composition, historical loan loss experience, and other factors
and the ratio of the related outstanding loan balances to total loans.
TABLE 8 -- ALLOCATION OF ALLOWANCE FOR LOAN LOSSES
<TABLE>
<CAPTION>
1998 1997 1996 1995
------------------------ ------------------------ ----------------------- -----------------------
PERCENT OF PERCENT OF PERCENT OF PERCENT OF
LOANS IN EACH LOANS IN EACH LOANS IN EACH LOANS IN EACH
CATEGORY TO CATEGORY TO CATEGORY TO CATEGORY TO
ALLOWANCE TOTAL LOANS ALLOWANCE TOTAL LOANS ALLOWANCE TOTAL LOANS ALLOWANCE TOTAL LOANS
--------- ----------- --------- ----------- --------- ----------- --------- -----------
<S> <C> <C> <C> <C> <C> <C> <C> <C>
December 31: (DOLLARS IN THOUSANDS)
Commercial, financial
and agriculture.... $9,060 16.6% $8,959 16.7% $6,677 15.6% $6,752 14.4%
Real estate-
construction....... 779 6.0 770 5.8 763 4.6 750 4.9
Real estate-mortgage 7,210 65.2 7,129 66.6 6,944 68.0 7,022 68.7
Consumer............. 4,887 12.2 4,832 10.9 4,693 11.8 4,768 12.0
------- ----- ------- ----- ------- ----- ------- -----
$21,936 100.0% $21,690 100.0% $19,077 100.0% $19,292 100.0%
======= ===== ======= ===== ======= ===== ======= =====
</TABLE>
<TABLE>
<CAPTION>
1994
----------------------
PERCENT OF
LOANS IN EACH
CATEGORY TO
ALLOWANCE TOTAL LOANS
--------- -----------
<S> <C> <C>
December 31:
Commercial, financial
and agriculture.... $6,653 14.8%
Real estate-
construction....... 748 4.8
Real estate-mortgage 6,803 67.3
Consumer........... 4,485 13.1
------- -----
$18,689 100.0%
======= =====
</TABLE>
F&M provided $5.0 million, $5.8 million and $2.1 million for provision for
loan losses for the years 1998, 1997 and 1996, respectively. These charges to
the provision represent management's decision to provide an amount necessary to
achieve a level in the allowance for loan losses to adequately cover possible
losses to the portfolio.
F&M's net charge-offs increased in 1998 to $4.7 million, higher than the
1997 level of $3.2 million and higher than 1996 net charge-offs of $2.4 million.
The higher net charge-offs in 1998 was due to a few customers inability to
manage their finances and the settlement of a bankruptcy attributable to one
large commercial customer. Commercial, financial and agricultural loans
represented the highest category of net charge-offs in 1998 of $2.0 million
compared to $163 thousand in 1997. Loans to individuals made up of consumer and
credit card loans represented the second highest category of net charge-offs in
1998 of $1.5 million as compared to $1.9 million in 1997. In 1998 and 1997,
personal bankruptcies and credit card losses contributed largely to the
charge-offs in the loans to individuals category. Net charge-offs to average
loans was 0.28%, 0.20% and 0.16% for the years 1998, 1997 and 1996,
respectively.
17
<PAGE>
TABLE 9 -- ALLOWANCE FOR LOAN LOSSES
<TABLE>
<CAPTION>
DECEMBER 31,
---------------------------------------------------
1998 1997 1996 1995 1994
-------- ------- -------- -------- -------
(DOLLARS IN THOUSANDS)
<S> <C> <C> <C> <C> <C>
Balance, beginning of period..................... $21,690 $19,077 $ 19,292 $18,689 $ 17,073
Loans charged-off:
Commercial, financial and agriculture.... 2,152 896 1,442 690 1,311
Real estate construction................. 57 171 20 74 45
Real estate mortgage:
Residential (1-4 family)............. 478 382 142 583 280
Home equity lines.................... 13 -- 27 -- 14
Multifamily.......................... -- -- 45 -- --
Non-farm, non-residential (1)........ 911 265 81 95 --
Agricultural......................... 15 400 -- -- --
-------- ------- -------- -------- -------
Real estate subtotal......... 1,417 1,047 295 678 294
Consumer..................................... 1,215 1,199 715 1,156 692
Credit card.................................. 630 1,000 541 348 152
-------- ------- -------- -------- -------
Loans to individuals subtotal 1,845 2,199 1,256 1,504 844
Total loans charged-off...... 5,471 4,313 3,013 2,946 2,494
Recoveries:
Commercial, financial and agriculture.... 148 733 232 712 837
Real estate construction................. 30 -- -- -- --
Real estate mortgage:
Residential (1-4 family)............. 32 24 119 68 125
Home equity lines.................... -- -- -- 56 22
Multifamily.......................... -- -- 3 -- --
Non-farm, non-residential (1)........ 89 36 37 19 4
Agricultural......................... 120 -- -- -- --
-------- ------- -------- -------- -------
Real estate subtotal......... 241 60 159 143 151
Loans to individuals:
Consumer................................. 232 277 238 286 324
Credit card.............................. 103 54 28 13 12
-------- ------- -------- -------- -------
Loans to individuals subtotal 335 331 266 299 336
Total recoveries............. 754 1,124 657 1,154 1,324
-------- ------- -------- -------- -------
Net charge-offs.................................. 4,717 3,189 2,356 1,792 1,170
Provision for loan losses........................ 4,963 5,802 2,141 2,395 2,786
-------- ------- -------- -------- -------
Balance, end of period........................... $21,936 $21,690 $ 19,077 $19,292 $ 18,689
======== ======= ======== ======== =======
Ratio of allowance for loan losses to loans
outstanding at end of period................... 1.30% 1.32% 1.25% 1.40% 1.45%
Ratio of net charge-offs to average loans
outstanding during period...................... 0.28% 0.20% 0.16% 0.14% 0.09%
</TABLE>
(1) This category generally consists of commercial and industrial loans where
real estate constitutes a source of collateral.
The net amount of interest recorded during each year on loans that were
classified as nonperforming or restructured on December 31, 1998, 1997 and 1996
was $804 thousand, $216 thousand and $769 thousand, respectively. If these loans
had been accruing interest at their originally contracted rates, related income
would have been $1.1 million in 1998, $1.7 million in 1997 and $1.5 million in
1996.
NONPERFORMING ASSETS. Total nonperforming assets, which consist of
nonaccrual loans, restructured loans and foreclosed properties, were $27.0
million, $35.6 million, and $26.6 million at year-end 1998, 1997 and 1996,
respectively. The decrease in nonperforming assets in 1998 was due to a
reduction in nonaccrual loans. F&M management exerts great effort to identify
deteriorating assets early in the business cycle to ensure that prompt action is
taken while working toward final resolution of all nonperforming assets.
Nonperforming loans (nonaccrual loans and restructured loans) at December
31, 1998 were $11.5 million, or 0.7% of total loans, down from $20.0 million, or
1.2% of total loans at December 31, 1997 and down from $12.3 million, or 0.8% of
total loans, at December 31, 1996. Nonperforming loans at year-end 1998 were
composed of $7.7 million secured by real estate, $3.2 million commercial and
industrial loans and loans to individuals for household, family, and other
personal expenditures amounting to $591 thousand. Nonperforming loans that were
guaranteed by the U.S. government were $907 thousand in 1998.
18
<PAGE>
Nonperforming loans are those loans where, in the opinion of management,
the full collection of principal or interest is unlikely. Nonperforming loans
decreased 42.3% during 1998, while they increased 61.9% in 1997. The increase in
nonperforming loans in 1997 was primarily due to the inclusion of loans made to
one commercial customer for $6.6 million. In 1998, the customer filed for
bankruptcy and was liquidated. The amount provided in the reserve for loan
losses was more than adequate to absorb the loss.
The recorded investment in certain loans that were considered to be
impaired was $11.0 million at year-end 1998 as compared to $14.5 million at
year-end 1997, of which $7.3 million was classified as nonperforming. Included
in 1998, impaired loans are $7.2 million secured by commercial real estate. All
impaired loans at year-end 1998 and 1997 had a related valuation allowance
totaling $2.3 million and $4.0 million. The average recorded investment in
certain impaired loans for the years ended December 31, 1998 and December 31,
1997 was approximately $13.9 million and $10.2 million, respectively. For the
years 1998 and 1997, interest income recognized on impaired loans totaled $804
thousand and $216 thousand, all of which was recognized on a cash basis.
Nonaccrual loans excluded from impaired loan disclosure under FASB 114
amounted to $3.5 million and $6.4 million at December 31, 1998 and 1997,
respectively. If interest on these loans had been accrued, such income would
have approximated $482 thousand and $320 thousand for 1998 and 1997,
respectively.
Foreclosed properties consists of 30 parcels of real estate acquired
through debt previously contracted. These properties consist primarily of
commercial and residential real estate whose value is determined through sale at
public auction or fair market value, whichever is less. In 1995, F&M acquired
through foreclosure approximately 1,000 acres of real estate located in
Jefferson County, West Virginia, valued in excess of $4 million. F&M is
marketing this property and will dispose of it as expediently as possible. At
December 31, 1997, F&M had $13.2 million in foreclosed property upon which it
does not anticipate incurring any material loss on the final disposition.
TABLE 10 -- NONPERFORMING ASSETS
<TABLE>
<CAPTION>
DECEMBER 31,
-----------------------------------------------------------
1998 1997 1996 1995 1994
---------- ----------- ----------- ----------- -----------
<S> <C> <C> <C> <C> <C>
(DOLLARS IN THOUSANDS)
Nonaccrual loans.......................... $ 10,907 $ 19,452 $ 12,077 $ 14,657 $ 20,816
Restructured loans........................ 625 523 259 487 731
Foreclosed property....................... 15,401 15,663 14,243 16,668 16,804
---------- ----------- ----------- ----------- -----------
Total nonperforming assets......... $ 26,933 $ 35,638 $ 26,579 $ 31,812 $ 38,351
========== =========== =========== =========== ===========
Loans past due 90 days accruing interest.. $ 1,990 $ 2,930 $ 4,785 $ 3,828 $ 2,158
Allowance for loan losses to period end loans 1.30% 1.32% 1.25% 1.40% 1.45%
Allowance for loan losses to nonaccrual loans 201.12% 111.51% 157.96% 131.62% 89.78%
Nonperforming assets to period end loans and
foreclosed properties................... 1.58% 2.14% 1.72% 2.31% 2.93%
Net charge-offs to average loans.......... 0.28% 0.20% 0.16% 0.14% 0.09%
The loss of income associated with nonperforming loans at December 31 were:
DECEMBER 31,
-----------------------------------------------------------
1998 1997 1996 1995 1994
---------- ----------- ----------- ----------- -----------
(DOLLARS IN THOUSANDS)
Income that would have been recorded in
accordance with original terms:
Nonaccrual loans and restructured loans $ 1,112 $ 1,680 $ 1,549 $ 1,343 $ 1,444
Income actually recorded:
Nonaccrual and restructured loans...... 804 216 769 229 159
</TABLE>
On December 31, 1998, there were no material outstanding commitments to
lend additional funds with respect to nonperforming loans.
Loans are placed on nonaccrual status when collection of interest and
principal is doubtful, generally when loans become 90 days past due. There are
three negative implications for earnings when a loan is placed on nonaccrual
status. First, all interest accrued but unpaid at the date the loan is placed on
nonaccrual status is either deducted from interest income or written off as a
loss. Second, accruals of interest are discontinued until it becomes certain
that both principal and interest can be repaid. Third, there may be actual
losses which necessitate additional provisions for loan losses be charged
against earnings.
At December 31, 1998, loans past due 90 days or more and still accruing
interest because they are both well secured and in the process of collection
were $2.0 million, compared to $2.9 million and $4.8 million at year end 1997
and 1996, respectively.
19
<PAGE>
POTENTIAL PROBLEM LOANS. At December 31, 1998, potential problem loans were
approximately $14.5 million, including 4 lending relationships with principal
balances in excess of $500,000, which had an aggregate principal balance
outstanding of $3.6 million. Loans are viewed as potential problem loans
according to the ability of such borrowers to comply with current repayment
terms. These loans are subject to constant management attention, and their
status is reviewed on a regular basis. The potential problem loans identified at
December 31, 1998 are generally secured by residential and commercial real
estate with appraised values that exceed the principal balance.
Although trends for credit quality factors, such as loan losses and
non-performing assets, continue to improve, it is likely that F&M will continue
modest provisions for loan losses in 1999. The principal factor for additional
provisions is expected growth in the loan portfolio as the result of continued
improvement in economic conditions.
Continued positive economic conditions and an assessment of the loan
portfolio and problem assets suggest that loan losses in 1999 should not be
materially greater than those in 1998. At such relatively low levels of loan
losses as were experienced in 1998, however, a minor dollar fluctuation in
losses could represent a large percentage increase. Loan loss expectations for
1999 are influenced by economic forecasts of continued growth and moderate
interest rates. Financial circumstances of individual borrowers also will affect
loan loss results. Unforeseen changes, either in economic conditions or
borrowers' financial conditions, could also impact actual loan losses in 1999.
F&M will maintain and follow its policies and practices intended to minimize
future credit losses.
SECURITIES
The book value of the securities portfolio was $771.7 million at December
31, 1998, compared to $661.2 million at December 31, 1997. The securities
portfolio increased $110.5 million in 1998 over 1997, which followed an increase
of $31.7 million in 1997 over 1996. Investment in U.S. Government securities
increased $116.4 million, or 19.0%, for the year 1998. For the year 1997, U.S.
Government securities increased $37.9 million, or 6.6%. Investment in states and
political subdivisions remained at relatively low levels. F&M has generally not
reinvested funds in securities issued by states and political subdivisions,
because those securities do not have the same tax benefits that they have had in
prior years.
The securities portfolio consists of two components, securities held to
maturity and securities available for sale. Securities are classified as held to
maturity when management has the intent and F&M has the ability at the time of
purchase to hold the securities to maturity. Securities held to maturity are
carried at cost adjusted for amortization of premiums and accretion of
discounts. Securities to be held for indefinite periods of time are classified
as available for sale and accounted for at market value. Securities available
for sale include securities that may be sold in response to changes in market
interest rates, changes in the security's prepayment risk, increases in loan
demand, general liquidity needs and other similar factors.
Financial Accounting Standards Board Pronouncement No. 115 effective
January 1, 1994, required F&M to show the effect of market changes in the value
of securities available for sale (AFS). The market value of AFS securities at
December 31, 1998 was $372.5 million. The effect of the market value of AFS
securities less the book value of AFS securities, net of income taxes is
reflected as a line in Shareholders' Equity as unrealized gain of $6.0 million
and $2.2 million at December 31, 1998 and December 31, 1997, respectively.
Investment rates have decreased in 1998 and 1997, thereby, causing currently
held bond portfolio market values to increase. In 1996, the decline in market
yields was due to interest rate fluctuations only and not a result of re-ratings
or down grading of securities.
It is F&M's policy not to engage in activities considered to be derivative
in nature such as futures, option contracts, swaps, caps, floors, collars or
forward commitments. F&M considers derivatives as speculative which is contrary
to F&M's historical or prospective philosophy. F&M does not hold or issue
financial instruments for trading purposes. F&M does hold in its loan and
security portfolio investments that adjust or float according to changes in the
"prime" lending rate which is not considered speculative, but necessary for good
asset/liability management. Off-balance sheet risks such as commitments to
extend credit, standby letters of credit, and other items are discussed in Note
18 in the Notes to Consolidated Financial Statements.
TABLE 11 -- INVESTMENT PORTFOLIO AND SECURITIES AVAILABLE FOR SALE
The carrying value of investment securities at the dates indicated was:
<TABLE>
<CAPTION>
DECEMBER 31,
---------------------------
1998 1997 1996
-------- ------- --------
<S> <C> <C> <C>
(DOLLARS IN THOUSANDS)
U.S. Government securities...................... $375,378 $375,858 $301,630
States and political subdivisions............... 22,860 29,273 30,350
Other securities and corporate securities....... 970 1,576 1,881
-------- ------- --------
Total investment securities............. $399,208 $406,707 $333,861
======== ======= ========
</TABLE>
20
<PAGE>
The carrying value of securities available for sale at the dates indicated
was:
<TABLE>
<CAPTION>
DECEMBER 31,
---------------------------
1998 1997 1996
-------- ------- --------
(DOLLARS IN THOUSANDS)
<S> <C> <C> <C>
U.S. Government securities...................... $354,155 $237,285 $273,591
States and political subdivisions............... 1,179 1,846 2,697
Other securities and corporate securities....... 17,147 15,335 19,355
-------- ------- --------
Total securities available for sale..... $372,481 $254,466 $295,643
======== ======= ========
</TABLE>
TABLE 12 -- MATURITY DISTRIBUTION AND YIELDS OF SECURITIES
DECEMBER 31, 1998
TAXABLE-EQUIVALENT BASIS
<TABLE>
<CAPTION>
DUE AFTER 1 DUE AFTER 5
DUE IN 1 YEAR THROUGH 5 THROUGH 10
OR LESS YEARS YEARS
-------------------- --------------------- --------------------
AMOUNT YIELD AMOUNT YIELD AMOUNT YIELD
------ ----- ------ ----- ------ -----
(DOLLARS IN THOUSANDS)
Securities held for investment:
<S> <C> <C> <C> <C> <C> <C>
U.S. Government securities $ 32,645 6.19% $ 266,318 5.98% $ 69,360 6.61%
Other taxable securities 200 9.75% 512 7.90% 258 5.70%
-------- ---- -------- ---- ---------- ----
Total taxable..... 32,845 6.21% 266,830 5.98% 69,618 6.61%
Tax-exempt securities (1) 2,867 7.23% 11,862 7.43% 6,253 7.82%
-------- ---- -------- ---- ---------- ----
Total ............ $35,712 6.29% $278,692 6.05% $ 75,871 6.71%
-------- ---- -------- ---- ---------- ----
Securities held for sale:
U.S. Government securities $ 79,238 6.12% $ 129,079 6.12% $ 85,924 6.25%
Other taxable securities 450 8.00% -- 0.00% -- 0.00%
-------- ---- -------- ---- ---------- ----
Total taxable..... $79,688 6.13% 129,079 6.12% 85,924 6.25%
-------- ---- -------- ---- ---------- ----
Tax-exempt securities (1) -- 0.00% -- 0.00% 1,179 6.59%
Total............. $79,688 6.13% $129,079 6.12% $ 87,103 6.25%
-------- ---- -------- ---- ---------- ----
Total securities........ $115,400 6.18% $407,771 6.07% $ 162,974 6.47%
======== ==== ======== ==== ========== ====
</TABLE>
<TABLE>
<CAPTION>
DUE AFTER 10
YEARS AND
EQUITY SECURITIES TOTAL
------------------- -------------------
AMOUNT YIELD AMOUNT YIELD
------ ----- ------ -----
Securities held for investment:
<S> <C> <C> <C> <C>
U.S. Government securities $ 7,055 7.40% $375,378 6.09%
Other taxable securities -- 0.00% 970 7.71%
--------- ---- -------- ----
Total taxable..... 7,055 7.40% 376,348 6.09%
Tax-exempt securities (1) 1,878 8.41% 22,860 7.60%
--------- ---- -------- ----
Total ............ $ 8,933 7.61% $399,208 6.18%
--------- ---- -------- ----
Securities held for sale:
U.S. Government securities $ 59,914 6.65% $354,155 6.23%
Other taxable securities 16,697 6.12% 17,147 6.17%
--------- ---- -------- ----
Total taxable..... 76,611 6.53% 371,302 6.23%
--------- ---- -------- ----
Tax-exempt securities (1) -- 0.00% 1,179 6.59%
Total............. $ 76,611 6.53% $372,481 6.23%
--------- ---- -------- ----
Total securities........ $ 85,544 6.65% $771,689 6.20%
========= ==== ======== ====
</TABLE>
(1) Yields on tax-exempt securities have been computed on a tax-equivalent
basis.
See Note 2 to the Consolidated Financial Statements as of December 31, 1998
for an analysis of gross unrealized gains and losses in the securities
portfolio.
DEPOSITS
F&M has made an effort in recent years to increase core deposits and reduce
cost of funds. Deposits provide funding for F&M's investments in loans and
securities, and the interest paid for deposits must be managed carefully to
control the level of interest expense.
Deposits at December 31, 1998 increased $160.6 million or 7.1% to $2.436
billion from $2.275 billion at year-end 1997. Non-interest bearing demand
deposits increased $99.0 million or 22.7% from $437.2 million in 1997 to $536.2
million in 1998. Interest bearing deposits increased $61.6 million or 3.4% to
$1.900 billion in 1998. In 1998, savings deposits including interest checking
increased $76.6 million or 13.3% to $651.1 million, while money market deposits
increased $10.2 million. Certificates of deposit over $100,000 experienced a
$26.6 million or 12.4% increase in deposits. Certificates of deposit under
$100,000 declined $51.8 million or 6.4% from $812.6 million at year-end 1997 to
$760.8 million at year-end 1998. Depositors have pooled funds in liquid deposits
such a non-interest bearing deposits and savings in order to have the
flexibility to move balances into investments that yield a higher rate of
return.
F&M does not have any other time deposits, other than certificates of
deposits, that are over $100,000.
Deposits at December 31, 1997 grew $172.4 million or 8.2% to $2.275 billion
from $2.102 billion at year-end 1997. Non-interest bearing demand deposits
increased $78.1 million or 21.7% from $359.1 million in 1996 to $437.2 million
in 1997. Interest bearing deposits increased $94.4 million or 5.4% to $1.838
billion in 1997. Interest checking,
21
<PAGE>
savings deposits, and money market deposits experienced a reduction in deposits
in 1997, whereas, certificates of deposit over and under $100,000 experienced an
increase in deposits. Deposit growth in 1997 was affected by comparatively low
interest rates and the consequent movement of funds out of deposit accounts and
into alternative investments. In addition to moving funds out of deposit
accounts, depositors continued to shift funds into more liquid accounts.
TABLE 13 -- DEPOSITS AND RATES PAID
<TABLE>
<CAPTION>
DECEMBER 31,
---------------------------------------------------------------------------
1998 1997 1996
--------------------- ---------------------- ----------------------
AMOUNT RATE AMOUNT RATE AMOUNT RATE
--------- --------- ---------- ---------- --------- ----------
<S> <C> <C> <C> <C> <C> <C>
(DOLLARS IN THOUSANDS)
Noninterest-bearing accounts $ 536,243 $437,208 $359,128
---------- -------- --------
Interest-bearing accounts:
Interest checking..... 439,150 2.21% 368,128 2.22% 321,982 2.21%
Regular savings....... 211,960 2.64% 206,212 2.77% 213,725 2.84%
Money-market.......... 245,748 3.01% 235,567 3.05% 238,856 2.95%
Time deposits:
Less than $100,000 760,781 5.50% 812,569 5.52% 781,257 5.57%
$100,000 and more 242,140 5.37% 215,496 5.53% 187,984 5.54%
--------- ----- --------- ----- ---------- -----
Total interest-bearing.... 1,899,779 4.14% 1,837,972 4.25% 1,743,804 4.26%
--------- ----- --------- ----- ---------- -----
Total............. $2,436,022 $2,275,180 $2,102,932
========== ========== ==========
</TABLE>
MATURITIES OF CD'S OF $100,000 AND MORE
<TABLE>
<CAPTION>
WITHIN THREE TO SIX TO ONE TO OVER PERCENT
THREE SIX TWELVE FIVE FIVE OF TOTAL
MONTHS MONTHS MONTHS YEARS YEARS TOTAL DEPOSITS
--------- --------- ---------- ----------- ----------- ----------- -----------
(DOLLARS IN THOUSANDS)
<S> <C> <C> <C> <C> <C> <C> <C>
At December 31, 1998 $ 28,553 $ 39,527 $ 99,260 $ 74,800 $ -- $ 242,140 9.94%
</TABLE>
CAPITAL RESOURCES
Management seeks to maintain a capital structure that will assure an
adequate level of capital to support anticipated asset growth and absorb
potential losses. The adequacy of F&M's capital is reviewed by management on an
ongoing basis with emphasis on the size, composition and quality of F&M's asset
and liability levels and consistent with regulatory requirements and industry
standards.
The Federal Reserve, along with the Comptroller of the Currency and the
Federal Deposit Insurance Corporation, have adopted capital guidelines to
supplement the definitions of capital for regulatory purposes and to establish
minimum capital standards. Specifically, the guidelines categorize assets and
off-balance sheet items into four risk-weighted categories. The minimum ratio of
qualifying total capital to risk-weighted assets is 8.0%, of which at least 6.0%
must be Tier I capital, composed of common equity, retained earnings and a
limited amount of perpetual preferred stock, less certain goodwill items. A
"Well Capitalized" bank will have a Tier 1 capital ratio of at least 6% and a
Total Capital ratio of at least 10%. F&M had a Tier I capital of 15.0% and a
Total Capital ratio of 16.3% at December 31, 1998, far exceeding the capital
requirements adopted by the Federal bank regulatory agencies.
Table 14 reflects the cash dividends per share declared during each quarter
of the periods indicated. The information in Table 14 may vary for certain
periods from the dividends paid during the quarter in cases where the dividend
was paid in the quarter following its declaration. In addition, the amounts
shown have not been restated and adjusted to reflect the acquisitions of Peoples
Bank of Virginia, Bank of Alexandria, and J.V. Arthur Inc.
22
<PAGE>
TABLE 14 -- COMMON STOCK PERFORMANCE AND DIVIDENDS
<TABLE>
<CAPTION>
COMMON STOCK PRICE
---------------------------------------------
1998 1997 DIVIDENDS DECLARED
-----------------------
HIGH LOW HIGH LOW 1998 1997
--------- ---------- ----------- ----------- ----------- -----------
<S> <C> <C> <C> <C> <C> <C>
First quarter................ $ 36.25 $ 31.75 $ 22.88 $ 19.63 $ 0.185 $ 0.180
Second quarter............... $ 34.31 $ 32.00 $ 26.38 $ 19.88 $ 0.185 $ 0.180
Third quarter................ $ 31.56 $ 26.13 $ 30.44 $ 26.00 $ 0.195 $ 0.185
Fourth quarter............... $ 31.69 $ 25.06 $ 36.25 $ 28.56 $ 0.195 $ 0.185
Years ended December 31...... $ 36.25 $ 25.06 $ 36.25 $ 19.63 $ 0.760 $ 0.730
</TABLE>
F&M National Corporation common stock is traded on the New York Stock Exchange
(NYSE) under the symbol FMN. On December 31, 1998 there were approximately 8,182
shareholders of record.
TABLE 15 -- ANALYSIS OF CAPITAL
<TABLE>
<CAPTION>
DECEMBER 31,
--------------------------------
1998 1997 1996
-------- ------- --------
<S> <C> <C> <C>
(DOLLARS IN THOUSANDS)
Tier 1 Capital:
Common stock................................ $ 43,743 $43,779 $ 43,770
Additional paid in capital.................. 76,404 77,989 78,969
Retained earnings........................... 160,980 140,853 122,897
Less: Goodwill.............................. 10,090 11,208 7,249
-------- ------- --------
Total Tier 1 capital........................ 271,037 251,413 238,387
Tier 2 Capital:
Allowance for loan losses................... 21,936 20,906 19,077
Add: 45% of unrealized equity securities.... 433 -- --
-------- ------- --------
Total Tier 2 capital........................ 22,369 20,906 19,077
Total risk-based capital.................... $293,406 $ 272,319 $ 257,464
======== ======= ========
Risk-weighted assets........................... $1,803,320 $1,672,473 $1,535,557
CAPITAL RATIOS:
Tier 1 risk-based capital ratio............. 15.03% 15.03% 15.52%
Total risk-based capital ratio.............. 16.27% 16.28% 16.77%
Tier 1 capital to average total assets...... 9.90% 9.92% 10.00%
</TABLE>
LIQUIDITY
Liquidity represents an institution's ability to meet present and future
financial obligations through either the sale or maturity of existing assets or
the acquisition of additional funds through liability management. Liquid assets
include cash, interest-bearing deposits with banks, federal funds sold,
securities and loans classified as available for sale and loans and investment
securities maturing within one year. As a result of F&M's management of liquid
assets and the ability to generate liquidity through liability funding,
management believes that F&M maintains overall liquidity sufficient to satisfy
its depositors' requirements and meet its customers' credit needs.
At December 31, 1998, approximately $934.5 million or 35.5% of total
earning assets is due to mature or reprice within the next year.
F&M also maintains additional sources of liquidity through a variety of
borrowing arrangements. F&M's subsidiary banks maintain federal fund lines with
a number of larger regional and money-center banking
23
<PAGE>
institutions totaling in excess of $59.2 million, of which none was
borrowed at December 31, 1998. Federal funds borrowed by F&M's subsidiary banks
during 1998 averaged less than $500,000. At December 31, 1998, certain of F&M's
subsidiary banks had outstanding $102.9 million of borrowings pursuant to
securities repurchase agreement transactions, ranging in maturity from one day
to three months. Also, F&M has credit lines totaling $364.9 million from the
Federal Home Loan Bank that can be utilized for short and/or long-term
borrowing.
F&M engages in short-term borrowings at the parent company level, as well.
At December 31, 1998, F&M had $17.3 million outstanding in short-term
obligations issued to selected customers of F&M's subsidiary banks pursuant to
master note agreements. As a back-up source of funds, F&M has approved bank
lines of credit totaling $9.0 million. These lines are used infrequently with
the average aggregate balance outstanding under the lines not exceeding $1.0
million since they have been in place. At year end 1998, 1997 and 1996, there
were no outstanding balances under these lines of credit.
All F&M's banks are members of the Federal Home Loan Bank system except two
banks, which do not qualify. F&M's FHLB member banks joined the system in order
to enter a program of long-term borrowing which must be invested in Residential
Housing Finance Assets (RHFA). RHFA are defined as (1) Loans secured by
residential real property; (2) Mortgage-backed securities; (3) Participations in
loans secured by residential real property; (4) Loans financed by Community
Investment Program advances; (5) Loans secured by manufactured housing,
regardless of whether such housing qualifies as residential real property; or
(6) Any loans or investments which the Federal Housing Finance Board and the
Bank, in their discretion, otherwise determine to be residential housing finance
assets. In 1998, long-term borrowings from the Federal Home Loan Bank system for
RHFA investments were $21.1 million maturing through 2006.
ACCOUNTING RULE CHANGES
In 1997, the FASB issued FASB No. 131, "Disclosures about Segments of an
Enterprise and Related Information." FASB No. 131 establishes standards for the
way that public enterprises report information about operating segments in
annual financial statements and requires that those enterprises report selected
information about operating segments in interim financial reports issued to
shareholders. It also establishes standards for related disclosures about
products and services, geographic areas and major customers. This statement
became effective in 1998. The Corporation does not have any segments that meet
the disclosure requirements under this statement.
In October 1998, the FASB issued Statement No 134, "Accounting for
Mortgage-Backed Securities Retained after the Securitization of Mortgage Loans
Held for Sale by a Mortgage Banking Enterprise, an amendment of FASB Statement
No. 65." FASB Statement No. 65, as amended, requires that, after securitization
of a mortgage loan held for sale, an entity engaged in mortgage banking
activities classify the resulting mortgage-backed security as a trading
security. This Statement further amends Statement No. 65 to require that after
the securitization of mortgage loans held for sale, an entity engaged in
mortgage banking activities classify the resulting mortgage-backed securities or
other retained interests based on its ability and intent to sell or hold those
investments. This Statement conforms the subsequent accounting for securities
retained after the securitization of mortgage loans by a mortgage banking
enterprise with the subsequent accounting for securities retained after the
securitization of other types of assets by a nonmortgage banking enterprise.
This Statement is effective beginning in 1999.
YEAR 2000 (Y2K)
THE PROBLEM
The impact the century date change will have on date-sensitive computer
programs worldwide is one of the biggest challenges ever faced by the business
world. On older computers, memory and storage space were limited and expensive.
In most cases, only the last two digits of the year (99) were used, with the
century (19) being implied. At the turn of the century, some computers may
recognize the year "00" as 1900 instead of 2000, causing problems ranging from
minor inaccuracies to systems failures. F&M is committed to achieving Year 2000
readiness well in advance of the millennium change. It is F&M's goal to continue
to deliver uninterrupted and unparalleled service into the 21st century and
beyond.
In 1998, F&M has estimated that costs of addressing Year 2000 issues was
1.6% of 1998 earnings (or 0.02% of assets), which was immaterial when
considering the size of the Corporation. Year 2000 costs in 1999 and 2000 are
also expected to be immaterial. The projections of total costs of F&M's Year
2000 project and the expected completion dates are based on F&M's best
estimates, which are necessarily based in part on assumptions of future events
24
<PAGE>
including the continued availability of adequate resources and completion
of third party modification plans. There can be no guarantee that these
estimates will be achieved; actual results could differ from the Corporation's
current estimates. Specific risk factors that might cause material differences
include, but are not limited to, the availability and cost of personnel with
adequate programming skills and the ability to locate and correct all relevant
computer codes. The inability to control the actions and plans of vendors and
suppliers, customers, government entities, and other third parties with respect
to Year 2000 issues are associated risks.
F&M has long recognized that the Year 2000 issue is a multifaceted one.
Corporate management and technical teams have been working steadily on all
related aspects of business that could be affected. F&M has been scrutinized by
regulatory authorities to ensure that it is proceeding with a prudent plan of
action for year 2000 readiness and are keeping its customers informed.
YEAR 2000 PROJECT PHASES
In 1997, F&M and its affiliates began to develop a comprehensive plan to
ensure that the Corporation would be ready for the millennium change. This plan
encompassed five phases:
PHASE I -- ORGANIZATIONAL AWARENESS
The Year 2000 Task Force will make certain that the strategic importance of
Year 2000 as a business objective is understood by the Board of Directors,
senior management, officers, and employees of all affiliates.
PHASE II -- ASSESSING ACTIONS AND DEVELOPING DETAILED PLANS
The Year 2000 Task Force will create a detailed inventory covering
centralized and decentralized hardware, software, and networks, as well as
equipment with embedded computer chips and logic. The inventory can include
items such as HVAC systems, vaults, security equipment, and elevators.
PHASE III -- RENOVATING SYSTEMS, APPLICATIONS, AND EQUIPMENT
During this phase, the necessary upgrade of operating system applications,
hardware, and equipment take place. In addition, contingency plans are developed
identifying alternate approaches if renovations of current software, hardware
and equipment lag behind or fail after January 1, 2000.
PHASE IV -- VALIDATING THE RENOVATIONS THROUGH TESTING
In this phase, F&M will develop and coordinate detailed test schedules with
correspondents, vendors, and customers to ensure Year 2000 preparedness. This
phase is critical and encompasses both corrected applications and those
applications already determined to be compliant.
PHASE V -- IMPLEMENTATION
Implementation requires careful planning to make sure that interrelated
applications are coordinated as to when they go into production. This phase also
includes monitoring of systems throughout 1999 and into 2000 to ensure date
functions and interdependencies work properly.
"MISSION CRITICAL" SYSTEM TESTING
F&M's "mission critical" system was developed from initial design and
tested in 1998 as Year 2000 ready by its vendor, Kirchman Corporation. In
addition, the Kirchman Corporation received Year 2000 Certification from the
ITAA (Information Technology Association of America) during 1998. Foresight and
commitment to serving F&M's customers has, in many ways, kept F&M one step ahead
of the Year 2000 issue.
F&M made great strides on this project during 1998 and are continuing to do
so in 1999. Test plans have been completed, testing strategies have been
developed, and a second phase of testing has begun. F&M has installed its own
separate certification test environment to ensure that F&M will have the ability
to roll into 2000 without impact. F&M is running multiple compliance tests to
affirm that all applications interface properly under future-date simulated
conditions. F&M expects to complete Phase I through Phase IV testing in the
first quarter of 1999.
F&M places a high priority on the service provided to customers, and is
working diligently to ensure the continued operation of essential business
functions. The Corporation is on schedule and confident that F&M will make a
smooth transition into the Year 2000.
CONTINGENCY PLANS
Simultaneous to the testing of its mission critical system, F&M will
prepare alternate solutions through a business resumption contingency plan to
mitigate potential risks on January 1, 2000. This contingency plan will be
developed for all core business functions and their supporting information
technology systems and will include
<PAGE>
25
trigger dates for implementation of alternative solutions. Core business
risks will be prioritized based upon greatest risk posed to the institution. The
contingency plans will identify financial and human resources necessary for
their execution. In addition, it will contain a business risk assessment that
identifies potential disruptions on the bank's operations, the minimum
acceptable level of services, the strategies and resources available to restore
system or business operations, and the processes and equipment needed for the
institution to function at an adequate level.
The risk of failure is not limited to F&M's internal information system.
The institution depends on data provided by its business partners, correspondent
banks, Federal Reserve Bank, and other third parties. F&M also depends on
vendors from which telecommunications, software, and other services are
provided. Finally, F&M depends on services provided by the public infrastructure
including power, water, transportation, and voice and data telecommunications.
F&M's contingency plans address these concerns and provide for alternate
solutions should Year 2000-related infrastructure problems develop, ensuring
that our institution can operate at an acceptable level.
WORST-CASE YEAR 2000 SCENARIOS
Until the Year 2000 event actually occurs and for a period of time
thereafter, there can be no assurance that there will be no problems related to
Year 2000. The Year 2000 technology challenge is an unprecedented event. If Year
2000 issues are not adequately addressed by the Corporation and third parties,
the Corporation could face, among other things, business disruptions,
operational problems, financial losses, legal liability and similar risks, and
the Corporation's business, results of operations and financial position could
be materially adversely affected.
The Corporation's credit risk associated with borrowers may increase to the
extent borrowers fail to adequately address year 2000 issues. As a result, there
may be increases in the Corporation's problem loans and credit losses in future
years. In addition, the Corporation may be subject to increased liquidity risks
associated with deposit withdrawals. It is not, however, possible to quantify
the potential impact of any such risks or losses at this time.
FDIC INSURANCE
FDIC-insured deposits are completely safe. FDIC insurance is a constant, a
given, a guarantee you can literally bank on. If a bank were to experience Year
2000 problems and, in the worse case, were unable to operate, the FDIC will be
there to protect insured deposits, as it has been for all 65 years of the FDIC's
existence. No depositor has ever lost a cent of insured funds at an FDIC-insured
bank or savings institution.
"First and foremost, the FDIC wants consumers to know that insured deposits
are safe, and that deposit insurance will not be affected by the century date
change," says Sandy Cormenetz, the Y2K Project Manager for the FDIC's Legal
Division in Washington. "We also want people to know as much as possible about
the Year 2000 problem -- to know what it is, and what it is not. That way people
can separate accurate information from scare stories." (Source: FDIC CONSUMER
NEWS, Fall 1998)
The foregoing Year 2000 discussion contains "forward-looking statement"
within the meaning of the Private Securities Litigation Reform Act of 1995. Such
statements, including, without limitation, anticipated costs, the dates by which
the Corporation expects to complete remediation and testing of systems and
contingency planning, and the impact of the redeployment of existing staff, are
based on management's best current estimates, which were derived utilizing
numerous assumptions about future events, including the continued availability
of certain resources, representations received from third-party vendors and
other factors. However, there can be no guarantee that these estimates will be
achieved, and actual results could differ materially from those anticipated.
Specific factors that might cause such material differences include, but are not
limited to: the availability and cost of personnel trained in this area; the
ability to identify and convert all relevant systems; results of Year 2000
testing; adequate resolution of Year 2000 issues by governmental agencies,
businesses or other third parties that are service providers, suppliers,
borrowers or customers of the Corporation; unanticipated system costs; the need
to replace hardware; the adequacy of and ability to implement contingency plans;
and similar uncertainties. The forward-looking statements made in the foregoing
Year 2000 discussion speak only as of the date of which such statements are
made, and the Corporation undertakes no obligation to update any forward-looking
statement to reflect events or circumstances after the date on which such
statement is made or reflect the occurrence of unanticipated events.
The foregoing Year 2000 discussion constitutes a Year 2000 Readiness
Disclosure within the meaning of the Year 2000 Readiness and Disclosure Act of
1998.
26
<PAGE>
F&M NATIONAL CORPORATION AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
December 31, 1998 and 1997
(In Thousands, Except Per Share Data)
<TABLE>
<CAPTION>
1998 1997
------------ -------------
<S> <C> <C>
ASSETS
Cash and due from banks.............................................. $ 160,839 $ 132,138
Interest-bearing deposits in other banks............................. 38,820 11,843
Federal funds sold and securities purchased under
agreements to resell.............................................. 109,930 113,077
Securities (fair value 1998, $777,274; 1997, $667,752).............. 771,689 661,173
Loans............................................................... 1,695,777 1,652,415
Unearned income..................................................... (2,736) (3,661)
------------ -------------
Loans (net of unearned income).......................... $ 1,693,041 $ 1,648,754
Allowance for loan losses......................................... (21,936) (21,690)
------------ -------------
Net loans............................................... $ 1,671,105 $ 1,627,064
Bank premises and equipment, net.................................... 65,155 60,958
Other assets........................................................ 71,176 71,682
------------ -------------
Total assets............................................ $ 2,888,714 $ 2,677,935
============ =============
LIABILITIES AND SHAREHOLDERS' EQUITY
LIABILITIES
Deposits:
Noninterest-bearing demand deposits............................... $ 536,243 $ 437,208
Savings and interest-bearing demand deposits...................... 896,858 810,107
Time deposits..................................................... 1,002,921 1,028,065
------------ -------------
Total deposits.......................................... $ 2,436,022 $ 2,275,380
Federal funds purchased and securities sold under
agreements to repurchase.......................................... 102,935 81,336
Other short-term borrowings......................................... 17,312 14,509
Long-term debt...................................................... 21,058 17,136
Other liabilities................................................... 24,282 24,723
Commitments and contingent liabilities.............................. -- --
------------ -------------
Total liabilities....................................... $ 2,601,609 $ 2,413,084
------------ -------------
SHAREHOLDERS' EQUITY
Preferred stock, no par value, authorized 5,000,000 shares,
no shares outstanding............................................. $ -- $ --
Common stock, par value $2 per share, authorized 30,000,000 shares,
issued 1998, 21,871,674 shares; issued 1997, 21,889,500 shares.... 43,743 43,779
Capital surplus..................................................... 76,404 77,989
Retained earnings................................................... 160,980 140,853
Accumulated other comprehensive income.............................. 5,978 2,230
------------ -------------
Total shareholders' equity.............................. $ 287,105 $ 264,851
------------ -------------
Total liabilities and shareholders' equity.............. $ 2,888,714 $ 2,677,935
============ =============
</TABLE>
- ---------------
See Notes to Consolidated Financial Statements.
27
<PAGE>
F&M NATIONAL CORPORATION AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF INCOME
For Each of the Three Years in the Period Ended December 31, 1998
(In Thousands, Except Per Share Data)
<TABLE>
<CAPTION>
1998 1997 1996
------------- ------------ -------------
<S> <C> <C> <C>
INTEREST INCOME
Interest and fees on loans............................ $ 148,127 $ 146,582 $ 133,591
Interest and dividends on investment securities:
Taxable interest income............................ 24,102 20,656 19,077
Interest income exempt from federal income taxes... 1,277 1,518 1,716
Interest and dividends on securities available for sale:
Taxable interest income............................ 16,735 16,136 18,790
Interest income exempt from federal income taxes... 53 71 75
Dividends.......................................... 872 771 595
Interest income on federal funds sold and securities
purchased under agreements to resell............... 6,120 4,175 4,483
Interest on deposits in banks........................ 1,521 525 251
------------- ------------ -------------
Total interest income............. $ 198,807 $ 190,434 $ 178,578
------------- ------------ -------------
INTEREST EXPENSE
Interest on deposits ................................. $ 76,904 $ 75,847 $ 72,979
Interest on short-term borrowings.................... 3,825 3,161 2,369
Interest on long-term debt........................... 1,103 1,035 527
------------- ------------ -------------
Total interest expense............ $ 81,832 $ 80,043 $ 75,875
------------- ------------ -------------
Net interest income............... $ 116,975 $ 110,391 $ 102,703
Provision for loan losses............................ 4,963 5,802 2,141
------------- ------------ -------------
Net interest income after provision
for loan losses................ $ 112,012 $ 104,589 $ 100,562
------------- ------------ -------------
OTHER INCOME
Commissions and fees from fiduciary activities........ $ 2,641 $ 2,335 $ 2,196
Service charges on deposit accounts.................. 12,895 10,612 9,645
Credit card fees..................................... 4,193 3,652 3,401
Fees for other customer services..................... 3,287 2,537 2,066
Insurance commissions................................ 8,397 3,208 2,226
Other operating income............................... 4,796 4,177 4,068
Profits on securities available for sale............. 2,425 4,217 312
Investment securities gains, net..................... 3 16 2
------------- ------------ -------------
Total other income................ $ 38,637 $ 30,754 $ 23,916
------------- ------------ -------------
OTHER EXPENSES
Salaries and employees' benefits...................... $ 52,997 $ 46,509 $ 41,073
Net occupancy expense of premises.................... 8,190 7,378 6,696
Furniture and equipment expenses..................... 6,318 6,553 5,961
Credit card expense.................................. 2,710 2,563 2,231
Other operating expenses............................. 24,892 23,176 21,746
------------- ------------ -------------
Total other expenses.............. $ 95,107 $ 86,179 $ 77,707
------------- ------------ -------------
Income before income taxes........ $ 55,542 $ 49,164 $ 46,771
Income tax expense..................................... 19,057 16,360 15,869
------------- ------------ -------------
Net income........................ $ 36,485 $ 32,804 $ 30,902
============= ============ =============
EARNINGS PER COMMON SHARE, basic....................... $ 1.67 $ 1.51 $ 1.41
============= ============ =============
EARNINGS PER COMMON SHARE, assuming dilution........... $ 1.65 $ 1.50 $ 1.40
============= ============ =============
</TABLE>
- ---------------
See Notes to Consolidated Financial Statements.
28
<PAGE>
F&M NATIONAL CORPORATION AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CHANGES IN SHAREHOLDERS' EQUITY
For Each of the Three Years in the Period Ended December 31, 1998
(In Thousands, Except Share Data)
<TABLE>
<CAPTION>
ACCUMULATED
OTHER
COMPRE- COMPRE-
COMMON CAPITAL RETAINED HENSIVE HENSIVE
STOCK SURPLUS EARNINGS INCOME INCOME TOTAL
--------- --------- --------- --------- --------- ---------
<S> <C> <C> <C> <C> <C> <C>
BALANCE, DECEMBER 31, 1995.......... $ 43,871 $ 82,488 $ 106,154 $ 3,553 $ 236,066
Comprehensive income:
Net income-- 1996................. -- -- 30,902 -- $ 30,902 30,902
Other comprehensive income net of tax:
Unrealized holding (losses) arising
during the period (net of tax,
$1,580)....................... -- -- -- -- (2,934) --
Reclassification adjustment (net of
tax, $109).................... -- -- -- -- (203) --
---------
Other comprehensive income
(net of tax, $1,689).......... -- -- -- (3,137) $ (3,137) (3,137)
---------
Total comprehensive income...... -- -- -- -- $ 27,765 --
=========
Cash dividends declared............ -- -- (14,159) -- (14,159)
Acquisition of common stock
(410,000 shares)................ (821) (6,635) -- -- (7,456)
Issuance of common stock-benefit plans
(360,000 shares)................ 720 3,116 -- -- 3,836
--------- --------- --------- --------- ---------
BALANCE, DECEMBER 31, 1996.......... $ 43,770 $ 78,969 $ 122,897 $ 416 $ 246,052
Comprehensive income:
Net income-- 1997................. -- -- 32,804 -- $ 32,804 32,804
Other comprehensive income net of tax:
Unrealized holding gains arising
during the period (net of tax,
$2,453)........................ -- -- -- -- 4,555 --
Reclassification adjustment (net of
tax, $1,476).................. -- -- -- -- (2,741) --
---------
Other comprehensive income
(net of tax, $977)............ -- -- -- 1,814 $ 1,814 1,814
---------
Total comprehensive income...... -- -- -- -- $ 34,618 --
=========
Cash dividends declared............ -- -- (14,848) -- (14,848)
Acquisition of common stock
(440,000 shares).................. (883) (9,711) -- -- (10,594)
Issuance of common stock-benefit plans
(180,000 shares).................. 360 2,966 -- -- 3,326
Issuance of common stock in exchange for
net assets in acquisition (266,000
shares)........................... 532 5,765 -- -- 6,297
--------- --------- --------- --------- ---------
BALANCE, DECEMBER 31, 1997.......... $ 43,779 $ 77,989 $ 140,853 $ 2,230 $ 264,851
Comprehensive income:
Net income-- 1998................. -- -- 36,485 -- $ 36,485 36,485
Other comprehensive income net of tax:
Unrealized holding gains arising
during the period (net of tax,
$2,811)........................ -- -- -- -- 5,324 --
Reclassification adjustment (net of
tax, $849).................... -- -- -- -- (1,576) --
---------
Other comprehensive income
(net of tax, $1,962).......... -- -- -- 3,748 $ 3,748 3,748
---------
Total comprehensive income...... -- -- -- -- $ 40,233 --
=========
Cash dividends declared............ -- -- (16,358) -- (16,358)
Acquisition of common stock
(188,000 shares).................. (376) (5,733) -- -- (6,109)
Issuance of common stock-benefit plans
(170,000 shares).................. 340 4,148 -- -- 4,488
--------- --------- --------- --------- ---------
BALANCE, DECEMBER 31, 1998.......... $ 43,743 $ 76,404 $ 160,980 $ 5,978 $ 287,105
========= ========== ========= ========= =========
</TABLE>
See Notes to Consolidated Financial Statements.
29
<PAGE>
F&M NATIONAL CORPORATION AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
For Each of the Three Years in the Period Ended December 31, 1998
(In Thousands)
<TABLE>
<CAPTION>
--------------------------------------------
1998 1997 1996
------------- ------------ -------------
<S> <C> <C> <C>
CASH FLOWS FROM OPERATING ACTIVITIES
Net income............................................ $ 36,485 $ 32,804 $ 30,902
Adjustments to reconcile net income to net cash
provided by operating activities:
Depreciation and amortization.................... 5,750 5,899 5,153
Provision for loan losses........................ 4,963 5,802 2,141
Deferred income taxes (credits).................. 497 1,509 (69)
Profits on securities available for sale......... (2,425) (4,217) (312)
Investment securities gains, net................. (3) (16) (2)
(Gain) loss on sale of other real estate......... (99) 90 (121)
Net amortization and accretion of securities..... 41 (109) 238
Increase in other assets......................... (1,239) (5,145) (2,055)
Increase (decrease) in other liabilities......... (943) (1,878) 1,047
------------- ------------ -------------
Net cash provided by operating activities $ 43,027 $ 38,495 $ 36,922
------------- ------------ -------------
CASH FLOWS FROM INVESTING ACTIVITIES
(Increase) in interest-bearing deposits in other banks $ (26,977) $ (4,113) $ (5,569)
Proceeds from sales, principal repayments and calls of
securities available for sale ..................... 145,710 71,864 55,368
Proceeds from maturities of securities available for sale 48,460 51,451 37,082
Proceeds from principal repayments and calls of
investment securities.............................. 127,750 52,714 13,935
Proceeds from maturities of investment securities.... 75,646 61,389 96,915
Purchase of securities available for sale............ (250,351) (74,898) (101,209)
Purchase of investment securities.................... (249,634) (186,946) (74,737)
(Increase) decrease in federal funds sold and
securities purchased under agreements to resell.... 3,147 (36,927) 25,261
Net (increase) in loans.............................. (53,974) (128,521) (153,870)
Purchases of bank premises and equipment............. (8,784) (15,656) (11,086)
Proceeds from sale of other real estate.............. 4,721 2,497 5,052
Cash acquired in acquisition......................... -- 529 --
------------- ------------ -------------
Net cash (used in) investing activities $ (184,286) $ (206,617) $ (112,858)
------------- ------------ -------------
CASH FLOWS FROM FINANCING ACTIVITIES
Net increase in noninterest-bearing and interest-
bearing demand deposits and savings accounts....... $ 185,786 $ 113,682 $ 36,734
Net increase (decrease) in certificates of deposit... (25,144) 58,925 62,472
Dividends paid....................................... (15,856) (15,762) (12,102)
Increase (decrease) in federal funds purchased and
securities sold under agreements to repurchase..... 21,599 28,059 (5,935)
Increase (decrease) in other short-term borrowings... 2,803 (367) (3,663)
Net proceeds from issuance and sale of common stock.. 2,959 2,594 3,336
Acquisition of common stock.......................... (6,109) (10,594) (7,456)
Increase (decrease) in Federal Home Loan Bank advances -- (8,297) 2,560
Proceeds from long-term debt......................... 9,900 8,500 8,775
Principal payments on long-term debt................. (5,978) (2,861) (1,503)
------------- ------------ -------------
Net cash provided by financing activities $ 169,960 $ 173,879 $ 83,218
------------- ------------ -------------
Increase in cash and cash equivalents $ 28,701 $ 5,757 $ 7,282
CASH AND CASH EQUIVALENTS
Beginning............................................. 132,138 126,381 119,099
------------- ------------ -------------
Ending............................................... $ 160,839 $ 132,138 $ 126,381
============= ============ =============
SUPPLEMENTAL DISCLOSURES OF CASH FLOW INFORMATION
Cash payments for:
Interest .......................................... $ 82,174 $ 79,003 $ 75,476
============= ============ =============
Income taxes....................................... $ 18,949 $ 17,412 $ 14,953
============= ============ =============
SUPPLEMENTAL SCHEDULE OF NONCASH INVESTING AND
FINANCING ACTIVITIES
Issuance of stock options under nonvariable
compensatory plan $ 1,529 $ 732 $ 500
============= ============ =============
Loan balances transferred to foreclosed properties... $ 4,970 $ 4,504 $ 2,419
============= ============ =============
Unrealized gain (loss) on securities available for
sale $ 5,710 $ 2,791 $ (4,826)
============= ============ =============
Issuance of common stock in exchange for net assets
in acquisition $ -- $ 6,297 $ --
============= ============ =============
</TABLE>
- ---------------
See Notes to Consolidated Financial Statements.
30
<PAGE>
F&M NATIONAL CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
For Each of the Three Years in the Period Ended December 31, 1998
NOTE 1 -- NATURE OF BANKING ACTIVITIES AND SIGNIFICANT ACCOUNTING POLICIES
F&M National Corporation is a bank holding company whose principal banking
subsidiaries provide a wide range of financial services, including a variety of
deposit accounts, as well as commercial, consumer and mortgage lending to
customers in Virginia, West Virginia and Maryland. In addition to commercial
activities, the Corporation operates insurance and trust companies which
generate noninterest income by sales of insurance, trust and fiduciary services.
The accounting and reporting policies of F&M National Corporation and
Subsidiaries conform to generally accepted accounting principles and to the
reporting guidelines prescribed by regulatory authorities. The following is a
description of the more significant of those policies and practices.
PRINCIPLES OF CONSOLIDATION
The consolidated financial statements include the accounts of F&M National
Corporation and all of its banking and nonbanking affiliates. In consolidation,
significant intercompany accounts and transactions have been eliminated.
SECURITIES
Securities are classified in three categories and are accounted for as
follows:
a. Securities Held to Maturity
Securities classified as held to maturity are those debt securities the
Corporation has both the intent and ability to hold to maturity regardless
of changes in market conditions, liquidity needs or changes in general
economic conditions. These securities are carried at cost adjusted for
amortization of premium and accretion of discount, computed by the interest
method over their contractual lives.
b. Securities Available for Sale
Securities classified as available for sale are those debt and equity
securities that the Corporation intends to hold for an indefinite period of
time, but not necessarily to maturity. Any decision to sell a security
classified as available for sale would be based on various factors,
including significant movements in interest rates, changes in the maturity
mix of the Corporation's assets and liabilities, liquidity needs,
regulatory capital considerations, and other similar factors. Securities
available for sale are carried at fair value. Unrealized gains or losses
are reported as increases or decreases in shareholders' equity, net of the
related deferred tax effect. Realized gains or losses, determined on the
basis of the cost of specific securities sold, are included in earnings.
c. Trading Securities
Trading securities, which are generally held for the short term in
anticipation of market gains, are carried at fair value. Realized and
unrealized gains and losses on trading account assets are included in
interest income on trading account securities. The Corporation had no
trading securities at December 31, 1998 and 1997.
LOANS
Loans are shown on the balance sheets net of unearned income and allowance
for loan losses. Interest income on commercial and real estate mortgage loans is
computed on the loan balance outstanding. Interest income on installment loans
is computed on the sum-of-the-months digits and actuarial methods. The loan
portfolio is well diversified and generally is collateralized by assets of the
customers. The loans are expected to be repaid from cash flow or proceeds from
the sale of selected assets of the borrowers.
The Corporation has adopted FASB Statement No. 114, "Accounting by
Creditors for Impairment of a Loan", which was amended by FASB Statement No.
118. Statement 114, as amended, requires that the impairment of loans that have
been separately identified for evaluation is to be measured based on the present
value of expected future cash flows or, alternatively, the observable market
price of the loans or the fair value of the collateral. However, for those loans
that are collateral dependent (that is, if repayment of those loans is expected
to be provided solely by the underlying collateral) and for which management has
determined foreclosure is probable, the measure of impairment of those loans is
to be based on the fair value of the collateral. Statement 114, as amended, also
requires certain disclosures about investments in impaired loans and the
allowance for credit losses and interest income recognized on loans.
31
<PAGE>
The Corporation considers all consumer installment loans and residential
mortgage loans to be homogeneous loans. These loans are not subject to
impairment under FASB 114. A loan is considered impaired when it is probable
that the Corporation will be unable to collect all principal and interest
amounts according to the contractual terms of the loan agreement. Factors
involved in determining impairment include, but are not limited to, expected
future cash flows, financial condition of the borrower, and the current economic
conditions. A performing loan may be considered impaired, if the factors above
indicate a need for impairment. A loan on nonaccrual status may not be impaired
if in the process of collection or there is an insignificant shortfall in
payment. An insignificant delay of less than 30 days or a shortfall of less than
5% of the required principal and interest payment generally does not indicate an
impairment situation, if in management's judgment the loan will be paid in full.
Loans that meet the regulatory definitions of doubtful or loss generally qualify
as impaired loans under FASB 114. Charge-offs for impaired loans occur when the
loan, or portion of the loan is determined to be uncollectible, as is the case
for all loans.
Loans are placed on nonaccrual when a loan is specifically determined to be
impaired or when principal or interest is delinquent for 90 days or more. Any
unpaid interest previously accrued on those loans is reversed from income.
Interest income generally is not recognized on specific impaired loans unless
the likelihood of further loss is remote. Interest payments received on such
loans are applied as a reduction of the loan principal balance. Interest income
on other nonaccrual loans is recognized only to the extent of interest payments
received.
ALLOWANCE FOR LOAN LOSSES
The allowance for loan losses is maintained at a level which, in
management's judgment, is adequate to absorb credit losses inherent in the loan
portfolio. The amount of the allowance is based on management's evaluation of
the collectibility of the loan portfolio, including the nature of the portfolio,
credit concentrations, trends in historical loss experience, specific impaired
loans, and economic conditions. Allowances for impaired loans are generally
determined based on collateral values or the present value of estimated cash
flows. The allowance is increased by a provision for loan losses, which is
charged to expense and reduced by charge-offs, net of recoveries. Changes in the
allowance relating to impaired loans are charged or credited to the provision
for loan losses. Because of uncertainties inherent in the estimation process,
management's estimate of credit losses inherent in the loan portfolio and the
related allowance may change in the near term.
BANK PREMISES AND EQUIPMENT
Premises and equipment are stated at cost less accumulated depreciation and
amortization. Premises and equipment are depreciated over their estimated useful
lives; leasehold improvements are amortized over the lives of the respective
leases or the estimated useful life of the leasehold improvement, whichever is
less. Depreciation and amortization are recorded on the straight-line and
declining-balance methods.
Costs of maintenance and repairs are charged to expense as incurred. Costs
of replacing structural parts of major units are considered individually and are
expensed or capitalized as the facts dictate.
PENSION PLAN
The Corporation has a trusteed, noncontributory defined contribution
pension plan covering substantially all full-time employees.
INCOME TAXES
The Corporation accounts for income taxes using the asset and liability
method of accounting for income taxes as prescribed by FASB Statement No. 109,
"Accounting for Income Taxes". Under the asset and liability method of Statement
109, deferred tax assets and liabilities are recognized for the future tax
consequences attributable to differences between the consolidated financial
statement carrying amounts of existing assets and liabilities and their
respective tax bases. Deferred tax assets and liabilities are measured using
enacted tax rates expected to apply to taxable income in the years in which
those temporary differences are expected to be recovered or settled. Under
Statement 109, the effect on deferred tax assets and liabilities of a change in
tax rates is recognized in income in the year that includes the enactment date.
COMMON STOCK
Shares of its own common stock reacquired by the Corporation are cancelled
as a matter of state law and are accounted for as authorized but unissued
shares.
EARNINGS PER SHARE
In 1997, the Financial Accounting Standards Board issued Statement No. 128,
"Earnings per Share." Statement 128 replaced the calculation of primary and
fully diluted earnings per share with basic and diluted earnings per share.
Basic earnings per share excludes any dilutive effects of options, warrants and
convertible securities. Diluted earnings per share is very similar to the
previously reported fully diluted earnings per share. All earnings per share
32
<PAGE>
amounts for all periods have been presented, and where appropriate, restated to
conform to the Statement 128 requirements.
TRUST DIVISION
Securities and other property held by the F&M Trust Company in a fiduciary
or agency capacity are not assets of the Corporation and are not included in the
accompanying consolidated financial statements.
LOAN FEES AND COSTS
Loan origination and commitment fees and direct loan origination costs are
being recognized as collected and incurred. The use of this method of
recognition does not produce results that are materially different from results
which would have been produced if such costs and fees were deferred and
amortized as an adjustment of the loan yield over the life of the related loan.
OTHER REAL ESTATE
Other real estate, classified in "other assets" in the accompanying balance
sheets, consists primarily of real estate held for resale which was acquired
through foreclosure on loans secured by real estate. Other real estate is
carried at the lower of cost or appraised market value less an allowance for
estimated selling expenses on the future disposition of the property. Writedowns
to market value at the date of foreclosure are charged to the allowance for loan
losses. Subsequent declines in market value are charged to expense.
CASH AND CASH EQUIVALENTS
For purposes of reporting cash flows, cash and cash equivalents include
cash on hand and amounts due from banks.
COMPREHENSIVE INCOME
As of January 1, 1998, the Corporation adopted Statement of Financial
Accounting Standards (SFAS) No. 130, "Reporting Comprehensive Income." Statement
130 establishes new rules for the reporting and display of comprehensive income
and its components; however, the adoption of this statement had no impact on the
Corporation's net income or shareholders' equity. The statement requires other
comprehensive income to include unrealized gain or loss on securities available
for sale adjustments, which prior to adoption were reported separately in
shareholders' equity. The financial statements have been reclassified to conform
to the requirements of SFAS No. 130.
USE OF ESTIMATES
The preparation of financial statements in conformity with generally
accepted accounting principles requires management to make estimates and
assumptions that affect the reported amounts of assets and liabilities and
disclosure of contingent assets and liabilities at the date of the financial
statements and the reported amounts of revenues and expenses during the
reporting period. Actual results could differ from those estimates.
DERIVATIVE FINANCIAL INSTRUMENTS
As of October 1, 1998, the Corporation adopted Statement of Financial
Accounting Standards (SFAS) No. 133, "Accounting for Derivative Instruments and
Hedging Activities." Statement 133 establishes accounting and reporting
standards for derivative financial instruments and other similar financial
instruments and for hedging activities. The Statement also allowed securities
classified as held to maturity to be transferred to the available for sale
category at the date of initial application of this standard. The Corporation
does not have any derivative instruments and hedging activities as defined under
this Statement.
NOTE 2 -- SECURITIES
The amortized cost and fair values of securities being held to maturity as
of December 31, 1998 and 1997, are as follows:
<TABLE>
<CAPTION>
DECEMBER 31, 1998
-----------------------------------------------------------
GROSS GROSS
AMORTIZED UNREALIZED UNREALIZED FAIR
COST GAINS (LOSSES) VALUE
------------ ------------- ------------ -------------
<S> <C> <C> <C> <C>
U.S. Treasury securities and obligations of (In Thousands)
U.S. government corporations and agencies $ 375,378 $ 6,064 $ (1,122) $ 380,320
Obligations of states and political
subdivisions........................... 22,860 623 (27) 23,456
Corporate securities..................... 970 47 -- 1,017
------------ ---------- ---------- -------------
$ 399,208 $ 6,734 $ (1,149) $ 404,793
============ ========== ========== =============
</TABLE>
33
<PAGE>
<TABLE>
<CAPTION>
DECEMBER 31, 1997
-----------------------------------------------------------
GROSS GROSS
AMORTIZED UNREALIZED UNREALIZED FAIR
COST GAINS (LOSSES) VALUE
------------ ------------- ------------ -------------
<S> <C> <C> <C> <C>
U.S. Treasury securities and obligations of (In Thousands)
U.S. government corporations and agencies $ 375,858 $ 6,494 $ (596) $ 381,756
Obligations of states and political
subdivisions........................... 29,273 668 (60) 29,881
Corporate securities..................... 976 49 -- 1,025
Mortgage-backed securities............... 600 24 -- 624
------------ ---------- ---------- ----------
$ 406,707 $ 7,235 $ (656) $ 413,286
============ ========== ========== ==========
</TABLE>
The amortized cost and fair value of securities being held to maturity as
of December 31, 1998, by contractual maturity are shown below. Expected
maturities may differ from contractual maturities because the corporate
securities and mortgage-backed securities may be called or repaid without any
penalties. Therefore, these securities are not included in the maturity
categories in the maturity summary.
AMORTIZED FAIR
COST VALUE
------------ -------------
(In Thousands)
Due in one year or less................... $ 35,712 $ 35,969
Due after one year through five years..... 278,692 281,908
Due after five years through ten years.... 75,871 76,556
Due after ten years....................... 7,963 9,343
Corporate securities...................... 970 1,017
------------ -------------
$ 399,208 $ 404,793
============ =============
The amortized cost and fair value of securities available for sale as of
December 31, 1998 and 1997, are as follows:
<TABLE>
<CAPTION>
DECEMBER 31, 1998
-----------------------------------------------------------
GROSS GROSS
AMORTIZED UNREALIZED UNREALIZED FAIR
COST GAINS (LOSSES) VALUE
------------ ------------- ------------ -------------
<S> <C> <C> <C> <C>
(In Thousands)
U.S. Treasury securities and obligations of
U.S. government corporations and agencies $ 345,753 $ 9,055 $ (653) $ 354,155
Obligations of states and political
subdivisions........................... 1,135 44 -- 1,179
Corporate securities..................... 4,897 564 -- 5,461
Other.................................... 11,286 400 -- 11,686
------------ ------------- ------------ -------------
$ 363,071 $ 10,063 $ (653) $ 372,481
============ ============= ============ =============
DECEMBER 31, 1997
-----------------------------------------------------------
GROSS GROSS
AMORTIZED UNREALIZED UNREALIZED FAIR
COST GAINS (LOSSES) VALUE
------------ ------------- ------------ -------------
(In Thousands)
U.S. Treasury securities and obligations of
U.S. government corporations and agencies $ 235,502 $ 2,165 $ (382) $ 237,285
Obligations of states and political
subdivisions........................... 1,841 8 (3) 1,846
Corporate securities..................... 3,951 1,748 (1) 5,698
Other.................................... 9,454 183 -- 9,637
------------ ------------- ------------ -------------
$ 250,748 $ 4,104 $ (386) $ 254,466
============ ============= ============ =============
</TABLE>
34
<PAGE>
The amortized cost and fair value of securities available for sale, as of
December 31, 1998 by contractual maturity are shown below. Expected maturities
may differ from contractual maturities because the corporate securities and
mortgage-backed securities may be called or prepaid without any penalties.
Therefore, these securities are not included in the maturity categories in the
maturity summary.
AMORTIZED FAIR
COST VALUE
------------ -------------
(In Thousands)
Due in one year or less................... $ 79,212 $ 79,688
Due after one year through five years..... 126,830 129,079
Due after five years through ten years.... 86,025 87,103
Due after ten years....................... 54,818 59,464
Corporate securities...................... 4,897 5,461
Other..................................... 11,289 11,686
------------ -------------
$ 363,071 $ 372,481
============ =============
Proceeds from principal repayments and calls of securities held to maturity
during 1998, 1997 and 1996 were $127,750,000, $52,714,000 and $13,935,000. Gross
gains of $3,000, $20,000 and $5,000 and gross losses of $-0-, $4,000 and $3,000
were realized on those principal repayments and calls during 1998, 1997 and
1996, respectively. There were no sales of securities held to maturity during
1998, 1997 and 1996.
Proceeds from sales, principal repayments and calls of securities available
for sale during 1998, 1997 and 1996 were $145,710,000, $71,864,000 and
$55,368,000. Gross gains of $2,568,000, $4,272,000 and $368,000 and gross losses
of $143,000, $55,000 and $56,000 were realized on those sales and calls during
1998, 1997 and 1996, respectively.
The book value of securities pledged to secure deposits and for other
purposes amounts to $221,946,000 and $210,031,000 at December 31, 1998 and 1997,
respectively.
As permitted under SFAS No. 133, the Corporation transferred securities
held to maturity with a book value of $65,937,000 and a market value of
$71,911,000 to securities available for sale as of October 1, 1998.
NOTE 3 --LOANS
Major classifications of loans are as follows:
DECEMBER 31,
-----------------------------
1998 1997
------------ -------------
(In Thousands)
Commercial, financial and agricultural..... $ 280,714 $ 275,678
Real estate-- construction................. 101,715 95,310
Real estate-- mortgage..................... 1,104,512 1,100,923
Consumer loans to individuals.............. 208,836 180,504
------------ -------------
$ 1,695,777 $ 1,652,415
============ =============
NOTE 4 --ALLOWANCE FOR LOAN LOSSES
Changes in the allowance for loan losses are as follows:
<TABLE>
<CAPTION>
DECEMBER 31,
--------------------------------------------
1998 1997 1996
------------- ------------ -------------
(In Thousands)
<S> <C> <C> <C>
Balance at beginning of year............. $ 21,690 $ 19,077 $ 19,292
Provision charged to operating expense... 4,963 5,802 2,141
Recoveries added to the reserve.......... 754 1,124 657
Loan losses charged to the reserve....... (5,471) (4,313) (3,013)
------------- ------------ -------------
Balance at end of year................... $ 21,936 $ 21,690 $ 19,077
============= ============ =============
</TABLE>
35
<PAGE>
Impairment of loans having recorded investments of $10,989,000 at December 31,
1998 and $14,549,000 at December 31, 1997, has been recognized in conformity
with FASB Statement No. 114, as amended by FASB Statement No. 118. The average
recorded investment in impaired loans during 1998 and 1997 was $13,926,000 and
$10,166,000, respectively. The total allowance for loan losses related to these
loans was $2,293,000 and $3,965,000 on December 31, 1998 and 1997, respectively.
Interest income on impaired loans of $804,000 and $513,000 was recognized for
cash payments received in 1998 and 1997, respectively.
Nonaccrual loans excluded from impaired loan disclosure under FASB Statement No.
114 amounted to $3,516,000 and $6,361,000 at December 31, 1998 and 1997,
respectively. If interest on these loans had been accrued, such income would
have approximated $482,000 and $320,000 for 1998 and 1997, respectively.
NOTE 5 --RELATED PARTY TRANSACTIONS
The Securities and Exchange Commission requires disclosure of loans which
exceed $60,000 to executive officers and directors of the Corporation or to
their associates. Such loans were made on substantially the same terms as those
prevailing for comparable transactions with similar risk. At December 31, 1998
and 1997, these loans totaled $39,786,000 and $40,021,000, respectively. During
1998, total principal additions were $9,438,000 and total principal payments
were $9,673,000.
The Corporation was indebted to related parties for short-term borrowings
totaling $6,400,000 and $4,004,000 at December 31, 1998 and 1997, respectively.
The Corporation paid $114,060 in 1998 to the law firm of one director who
serves as legal counsel for a bank subsidiary.
Construction of bank premises during 1998 included $108,000 paid to
companies of related parties.
NOTE 6 --BANK PREMISES AND EQUIPMENT,NET
Premises and equipment are summarized as follows:
DECEMBER 31,
-----------------------------
1998 1997
------------ -------------
(In Thousands)
Premises......................................... $ 57,397 $ 52,615
Leasehold improvements........................... 7,262 6,828
Furniture and equipment.......................... 35,616 33,104
Construction in progress......................... 1,835 2,498
------------ -------------
$ 102,110 $ 95,045
Less accumulated depreciation and amortization... (36,955) (34,087)
------------ -------------
$ 65,155 $ 60,958
============ =============
Depreciation and amortization of bank premises and equipment included in
operating expenses for the years ended December 31, 1998, 1997 and 1996, were
$4,587,000, $4,925,000 and $4,356,000, respectively.
NOTE 7 --DEPOSITS
The aggregate amount of jumbo time deposits, each with a minimum
denomination of $100,000, was $242,139,702 and $215,496,000 in 1998 and 1997,
respectively.
At December 31, 1998, the scheduled maturities of time deposits (in
thousands) are as follows:
1999.............................. $ 615,287
2000.............................. 255,960
2001.............................. 64,831
2002.............................. 31,445
2003.............................. 31,750
Later years....................... 3,648
------------
$ 1,002,921
============
36
<PAGE>
NOTE 8 -- SHORT-TERM BORROWINGS
Short-term borrowings consist of securities sold under agreements to
repurchase which are secured transactions with customers and generally mature
the day following the date sold. Short-term borrowings may also include federal
funds purchased, which are unsecured overnight borrowings from other financial
institutions, and advances from the FHLB of Atlanta, which are secured either by
a blanket floating lien on all real estate mortgage loans secured by 1 to 4
family residential properties, FHLB stock, or other mortgage-related assets.
The Corporation has unused lines of credit for short-term borrowings
totaling approximately $428,266,000 at December 31, 1998.
The table below presents selected information on the combined totals of
repurchase agreements and other short-term borrowings for the years ended
December 31:
<TABLE>
<CAPTION>
1998 1997
------------ -------------
<S> <C> <C>
(In Thousands)
Maximum balance at any month end during the year.... $ 120,247 $ 110,000
Average balance for the year........................ 101,455 86,697
Weighted average rate for the year.................. 3.77% 3.65%
Weighted average rate on borrowings at year end..... 3.53% 4.72%
Estimated fair value................................ 120,247 95,845
</TABLE>
The weighted average rates shown for borrowings at year end were calculated
by multiplying the effective rate for each transaction by the principal amount
and dividing the aggregate product by the total principal outstanding.
Due to the short maturities of these financial instruments, the carrying
amounts for both repurchase agreements and other short-term borrowings were
deemed to approximate fair values at December 31, 1998 and 1997.
NOTE 9 -- LONG-TERM DEBT
The Corporation joined the Federal Home Loan Bank system in order to enter
a program of long-term borrowing which is restricted to be invested in
Residential Housing Finance Assets (RHFA). RHFA are defined as (1) Loans secured
by residential real property; (2) Mortgage-backed securities; (3) Participations
in loans secured by residential real property; (4) Loans financed by Community
Investment Program advances; (5) Loans secured by manufactured housing,
regardless of whether such housing qualifies as residential real property; or
(6) Any loans or investments which the Federal Housing Finance Board and the
Bank, in their discretion, otherwise determine to be residential housing finance
assets. Borrowings from the Federal Home Loan Bank system for RHFA investments
totaled $21,058,000 and $17,136,000 at December 31, 1998 and 1997, maturing
through 2006. The interest rate on the notes payable range from 5.57% to 8.18%
at December 31, 1998. Principal payments on the notes (in thousands) are due as
follows:
1999............................... $ 2,891
2000............................... 3,098
2001............................... 3,107
2002............................... 2,116
2003............................... 2,126
Later years........................ 7,720
------------
$ 21,058
============
NOTE 10 -- BUSINESS COMBINATIONS
On April 1, 1998, the Corporation completed its acquisition of Peoples Bank
of Virginia. A total of approximately 778,000 shares of the Corporation's stock
was issued in the transaction, which was accounted for as a
pooling-of-interests.
On April 30, 1998, the Corporation completed its acquisition of J. V.
Arthur, Inc. A total of approximately 91,000 shares of the Corporation's stock
was issued in the transaction, which was accounted for as a
pooling-of-interests.
On June 1, 1998, the Corporation completed its acquisition of The Bank of
Alexandria. A total of approximately 646,000 shares of the Corporation's stock
was issued in the transaction, which was accounted for as a
pooling-of-interests.
37
<PAGE>
Total assets and results of operations as originally reported for 1997 and
1996 have been restated to reflect the accounts of the pooled entities as
follows:
<TABLE>
<CAPTION>
NET INCOME PER SHARE
------------------------
TOTAL TOTAL NET ASSUMING
ASSETS INCOME INCOME BASIC DILUTION
----------- ----------- ---------- ---------- -----------
<S> <C> <C> <C> <C> <C>
(In Thousands)
1997 originally reported........... $ 2,520,312 $ 205,634 $ 31,115 $ 1.54 $ 1.53
1997 results of pooled entities.... 157,623 15,554 1,689 -- --
----------- ----------- ---------- ---------- -----------
As restated.... $ 2,677,935 $ 221,188 $ 32,804 $ 1.51 $ 1.50
=========== =========== ========== ========== ===========
</TABLE>
<TABLE>
<CAPTION>
NET INCOME PER SHARE
------------------------
TOTAL TOTAL NET ASSUMING
ASSETS INCOME INCOME BASIC DILUTION
----------- ----------- ---------- ---------- -----------
(In Thousands)
<S> <C> <C> <C> <C> <C>
1996 originally reported........... $ 2,303,751 $ 188,779 $ 29,298 $ 1.44 $ 1.42
1996 results of pooled entities.... 154,680 13,715 1,604 -- --
----------- ----------- ---------- ---------- -----------
As restated.... $ 2,458,431 $ 202,494 $ 30,902 $ 1.41 $ 1.40
=========== =========== ========== ========== ===========
</TABLE>
On November 1, 1997, the Corporation completed its acquisition of Shomo &
Lineweaver Insurance Agency, Inc. The Corporation issued 265,853 shares of its
common stock in exchange for all of the shares of common stock of Shomo &
Lineweaver Insurance Agency, Inc. The excess of the total acquisition cost over
the fair value of the net assets acquired of $4,823,000 is being amortized over
25 years by the straight-line method. The acquisition has been accounted for as
a purchase and results of operations of Shomo since the date of acquisition are
included in the consolidated financial statements.
On March 29, 1996, the Corporation completed its acquisition of FB&T
Financial Corporation (FB&T), the holding company for Fairfax Bank & Trust
Company. A total of approximately 2,518,000 shares of the Corporation's stock
was issued in the transaction, which was accounted for as a
pooling-of-interests.
On October 1, 1996, the Corporation completed its acquisition of Allegiance
Banc Corporation, the holding company for Allegiance Bank, N.A. A total of
approximately 1,456,000 shares of the Corporation's stock was issued in the
transaction, which was accounted for as a pooling-of-interests.
NOTE 11 -- EARNINGS PER SHARE
The following shows the weighted average number of shares used in computing
earnings per share and the effect on weighted average number of shares of
diluted potential common stock. Potential dilutive common stock has no effect on
income available to common stockholders. Earnings per share amounts for prior
periods have been restated to give effect to the acquisition of Peoples Bank of
Virginia, The Bank of Alexandria and J.V. Arthur Inc.
in 1998.
<TABLE>
<CAPTION>
1998 1997 1996
------------------------ ----------------------- ------------------------
PER PER PER
SHARE SHARE SHARE
SHARES AMOUNT SHARES AMOUNT SHARES AMOUNT
------------ ---------- ------------ --------- ------------ ----------
<S> <C> <C> <C> <C> <C> <C>
Basic EPS 21,884,226 $ 1.67 21,714,917 $ 1.51 21,892,085 $ 1.41
========== ========= ==========
Effect of dilutive
securities:
Stock options 199,756 163,362 210,834
------------ ------------ ------------
Diluted EPS 22,083,982 $ 1.65 21,878,279 $ 1.50 22,102,919 $ 1.40
============ ========== ============ ========= ============ ==========
</TABLE>
38
<PAGE>
NOTE 12 -- STOCK-BASED COMPENSATION PLANS
The Corporation has two stock-based compensation plans which are described
below. Grants under those plans are accounted for following APB Opinion No. 25
and related interpretations. Compensation cost charged to income for the stock
option plan was $276,000, $173,000 and $136,000 for the years ended December 31,
1998, 1997 and 1996, respectively. No compensation cost has been recognized for
grants under the Employee Stock Discount Plan.
STOCK OPTION PLAN
The Corporation sponsors a stock option plan, which provides for the
granting of both incentive and nonqualified stock options to executive officers
and key employees of the Corporation and its Subsidiaries. The option price of
incentive options will not be less than the fair market value of the stock at
the time an option is granted. Nonqualified options may be granted at a price
established by the Board of Directors including prices less than the fair market
value on the date of grant.
A summary of the status of the stock option plan at December 31, 1998, 1997
and 1996 and changes during the years ended on those dates is as follows:
<TABLE>
<CAPTION>
1998 1997 1996
------------------------ ----------------------- ------------------------
WEIGHTED WEIGHTED WEIGHTED
AVERAGE AVERAGE AVERAGE
EXERCISE EXERCISE EXERCISE
SHARES PRICE SHARES PRICE SHARES PRICE
------------ ---------- ------------ --------- ------------ ----------
<S> <C> <C> <C> <C> <C> <C>
Outstanding at
beginning of year.... 289,393 $ 9.55 272,496 $ 9.12 360,091 $ 7.53
Granted................ 67,000 17.18 72,240 10.84 99,534 10.20
Exercised.............. (95,787) 9.86 (55,343) 9.15 (186,131) 6.61
Forfeited.............. -- -- (998)
------------ ------------ ------------
Outstanding and
exercisable at end
of year.............. 260,606 $ 11.51 289,393 $ 9.55 272,496 $ 9.12
============ ============ ============
Weighted-average fair
value per option of
options granted during
the year............. $ 22.60 $ 14.75 $ 8.19
</TABLE>
The Corporation accounts for the stock option plan and the stock discount plan
under APB Opinion No. 25. Proforma adjustments of compensation cost for the
stock-based compensation plans are determined based on the grant date fair
values of awards (the method described in FASB Statement No. 123). For the
purpose of computing the proforma amounts indicated below, the fair value of
each option on the date of grant is estimated using the Black-Scholes
option-pricing model with the following weighted average assumptions used for
grants in 1998, 1997 and 1996, respectively: dividend yields of 2.6%, 3.0% and
3.6%; expected volatility of 19.1%, 18.1% and 20.7%; a risk free interest rate
of 4.5%, 5.8% and 5.1%; and an expected option life of 10 years from the date of
grant.
<TABLE>
<CAPTION>
1998 1997 1996
------------- ------------ -------------
(In Thousands)
<S> <C> <C> <C>
Net Income: As Reported............................. $ 36,485 $ 32,804 $ 30,902
Pro Forma............................... 35,591 32,127 30,402
Basic EPS: As Reported............................. 1.67 1.51 1.41
Pro Forma............................... 1.63 1.48 1.39
Diluted EPS: As Reported............................. 1.65 1.50 1.40
Pro Forma............................... 1.61 1.47 1.38
</TABLE>
39
<PAGE>
A further summary about options outstanding at December 31, 1998, is as follows:
OPTIONS OUTSTANDING AND EXERCISABLE
-------------------------------------------
WEIGHTED WEIGHTED
RANGE OF REMAINING AVERAGE
EXERCISE NUMBER CONTRACTUAL EXERCISE
PRICES OUTSTANDING LIFE PRICE
- -------------------- ------------ ------------- ------------
$5.60 - 9.62 15,005 .2 years $ 9.16
8.14 - 11.89 20,561 1.2 10.74
7.69 - 9.21 42,438 5.5 8.64
7.94 - 9.22 21,676 6.0 7.98
6.91 - 12.91 43,820 7.1 9.75
10.69 - 14.20 53,606 8.0 10.87
17.18 63,500 9.0 17.18
------------
$5.60 - 17.18 260,606 6.5 11.51
============
EMPLOYEE STOCK DISCOUNT PLAN
In 1998, the Corporation adopted an Employee Stock Discount Plan. The Plan
offers eligible employees of the Corporation the opportunity to purchase common
stock through payroll deduction. The price of the shares purchased is the lesser
of 85% of the market price of the shares as determined under the plan at January
1 of the calendar year of purchase or 85% of the market price of the shares as
determined under the plan at December 31 of the calendar year of purchase.
Employees automatically become eligible to participate on January 1 or July 1 as
of the date they reach age 18 and complete 12 months of service, whichever
occurs last. A regular employee is one who is customarily employed for more than
20 hours per week and more than five months per year.
All officers and directors who are eligible employees may participate.
30,411 shares were issued for the 1998 plan year at a discount of $136,000.
46,259 shares were issued for the 1997 plan year at a discount of $148,000.
29,498 shares were issued for the 1996 plan year at a discount of $91,000. The
number of shares available to be issued in future years totals 219,589.
NOTE 13 -- EMPLOYEE BENEFIT PLANS
F&M National Corporation and its affiliates have a defined contribution
retirement plan covering substantially all full-time employees and provides that
employees automatically become eligible to participate on January 1 or July 1 as
of the date they reach age 18 and complete 12 months of service, whichever
occurs last. The plan was amended in 1989 to add a 401(k) or deferred feature.
Under the plan, a participant may contribute to the plan an amount up to
10% of their covered compensation for the year, subject to certain limitations.
For each year in which the employee makes a contribution to the plan, the
Corporation will make a matching contribution. The Corporation may also make,
but is not required to make, a discretionary contribution for each participant
out of its current or accumulated net profits. The amount of the matching
contribution and discretionary contribution, if any, is determined on an annual
basis by the Board of Directors.
The total plan expense for 1998, 1997 and 1996, was $338,000, $240,000 and
$234,000, respectively.
In 1994, the Corporation adopted an Employee Stock Ownership Plan (ESOP)
covering substantially all full-time employees and providing that employees
automatically become eligible to participate on January 1 or July 1 as of the
date they reach age 18 and complete 12 months of service, whichever occurs last.
The Corporation may make, but is not required to make, a discretionary
contribution for each participant (proportionately based on eligible W-2
salaries) out of its current or accumulated net profits. The total contribution
may be contributed in cash or corporate common stock. The amount of the
discretionary contribution was 5% in cash for 1998, 1997 and 1996.
The total plan expense for 1998, 1997 and 1996 was $1,412,000, $1,214,000
and $1,049,000, respectively.
NOTE 14 -- EXECUTIVE AND DIRECTOR COMPENSATION PLANS
EXECUTIVE INCENTIVE COMPENSATION PLAN
The Executive Incentive Compensation Plan was established for the purpose
of attracting and retaining key executives. The executives and the amounts of
the awards (subject to limits as set forth in the Plan) are determined
40
<PAGE>
by a Committee composed of members of the Corporation's Board of Directors
who are not employees. The aggregate cash awards amounted to $1,344,000 in 1998,
$1,320,000 in 1997 and $1,227,000 in 1996.
In addition, deferred compensation plans have been adopted for certain key
employees which provide that benefits are to be paid in monthly installments for
15 years following retirement or death. The agreement provides that if
employment is terminated for reasons other than death or disability prior to age
65, the amount of benefits would be reduced or forfeited. The deferred
compensation expense for 1998, 1997 and 1996, based on the present value of the
retirement benefits, amounted to approximately $336,000, $505,000 and $572,000,
respectively. The plan is unfunded. However, life insurance has been acquired on
the lives of these employees in amounts sufficient to discharge the obligations
thereunder.
NONEMPLOYEE DIRECTOR STOCK COMPENSATION AND WARRANT PLANS
Effective June 15, 1994, FB&T Financial Corporation ("FB&T") (a subsidiary
of F&M National Corporation as of March 29, 1996) implemented a Nonemployee
Director Stock Compensation Plan (the "Option Plan"). Allegiance Bank, N.A.
("Allegiance") (a subsidiary of F&M National Corporation as of October 1, 1996)
implemented a Director Stock Warrant Plan effective February 8, 1994. The
exercise price of awards were fixed at the fair market value of the share on the
date the option was granted.
The following summarizes the option activity under the stock option plan
for the last three years as restated to equivalent shares of the Corporation's
common stock:
<TABLE>
<CAPTION>
1998 1997 1996
------------------------ ----------------------- ------------------------
WEIGHTED WEIGHTED WEIGHTED
AVERAGE AVERAGE AVERAGE
EXERCISE EXERCISE EXERCISE
SHARES PRICE SHARES PRICE SHARES PRICE
------------ ---------- ------------ --------- ------------ ----------
<S> <C> <C> <C> <C> <C> <C>
Outstanding at
beginning of year... 22,693 $ 7.10 48,267 $ 7.15 142,624 $ 6.98
Granted............... -- -- --
Exercised............. (7,040) 6.26 (25,574) 7.19 (89,567) 6.92
Forfeited............. -- -- (4,790) 6.26
------------ ------------ ------------
15,653 $ 7.48 22,693 $ 7.10 48,267 $ 7.15
============ ============ ============
</TABLE>
NOTE 15 -- LEASE COMMITMENTS AND CONTINGENT LIABILITIES
The Corporation and Subsidiaries were obligated under a number of
noncancelable leases mainly for various banking premises and equipment.
Facilities leases, including renewal options, expire through 2008. Total rental
expense for operating leases for 1998, 1997 and 1996, was $3,443,004, $3,116,000
and $2,985,000, respectively. Minimum rental commitments under noncancelable
leases with terms in excess of one year as of December 31, 1998, were as
follows:
YEAR OPERATING LEASES
-------------------------- ----------------
(In Thousands)
1999...................... $ 3,045
2000...................... 2,659
2001...................... 2,237
2002...................... 1,623
2003...................... 1,366
Later years............... 2,597
---------------
Total minimum payments.... $ 13,527
===============
In the normal course of business, there are other outstanding commitments
and contingent liabilities which are not reflected in the accompanying financial
statements. The Corporation does not anticipate losses as a result of these
transactions.
As members of The Federal Reserve System, the Corporation's subsidiary
banks are required to maintain certain average reserve balances. For the final
weekly reporting period in the years ended December 31, 1998 and 1997, the
aggregate amounts of daily average required balances were approximately
$12,656,000 and $28,867,000, respectively.
41
<PAGE>
The Corporation is conducting a comprehensive review of its computer
systems to identify the systems that could be affected by the Year 2000 Issue,
and is developing a remediation plan to resolve the Issue. The Issue is whether
computer systems will properly recognize date-sensitive information when the
year changes to 2000. Systems that do not properly recognize such information
could generate erroneous data or cause a system to fail. The Corporation is
heavily dependent on computer processing in the conduct of its business
activities. Failure of these systems could have a significant impact on the
Corporation's operations.
NOTE 16 -- INCOME TAXES
Net deferred tax assets consist of the following components as of December
31, 1998 and 1997:
1998 1997
--------------- ---------------
(In Thousands)
Deferred tax assets:
Provision for loan losses......... $ 7,387 $ 7,091
Salary continuation plan.......... 1,350 1,442
Other real estate owned........... 598 536
Nonaccrual interest............... 70 113
Other............................. 382 471
--------------- ---------------
$ 9,787 $ 9,653
--------------- ---------------
Deferred tax liabilities:
Depreciation...................... $ 2,050 $ 1,386
Excess tax basis - acquisition.... 271 257
Securities available for sale..... 3,301 1,338
Other............................. 102 149
--------------- ---------------
$ 5,724 $ 3,130
--------------- ---------------
$ 4,063 $ 6,523
=============== ===============
The provision for income taxes charged to operations for the years ended
December 31, 1998, 1997 and 1996, consists of the following:
1998 1997 1996
------------- ------------ -------------
(In Thousands)
Current tax expense....... $ 18,560 $ 14,851 $ 15,938
Deferred tax (benefit).... 497 1,509 (69)
------------- ------------ -------------
$ 19,057 $ 16,360 $ 15,869
============= ============ =============
The income tax provision differs from the amount of income tax determined
by applying the federal income tax rate to pretax income for the years ended
December 31, 1998, 1997 and 1996 due to the following:
<TABLE>
<CAPTION>
1998 1997 1996
------------- ------------ -------------
<S> <C> <C> <C>
Computed "expected" tax expense........................ 35.0% 35.0% 35.0%
Increase (decrease) in income taxes resulting from:
Tax-exempt interest.................................. (1.2) (1.7) (2.1)
Nondeductible merger expenses........................ .1 -- .3
Other, net........................................... (.4) (.1) .8
------------- ------------ -------------
34.3% 33.2% 34.0%
============= ============ =============
</TABLE>
NOTE 17 -- RESTRICTIONS ON TRANSFERS TO PARENT
Transfer of funds from banking subsidiaries to the Parent Corporation in
the form of loans, advances and cash dividends, are restricted by federal and
state regulatory authorities. As of December 31, 1998, the aggregate amount
42
<PAGE>
of unrestricted funds which could be transferred from the Corporation's
subsidiaries to the Parent Corporation, without prior regulatory approval,
totaled $31,285,000 or 10.9% of the consolidated net assets.
NOTE 18 -- FINANCIAL INSTRUMENTS WITH OFF-BALANCE-SHEET RISK
The Corporation and Subsidiaries are party to financial instruments with
off-balance-sheet risk in the normal course of business to meet the financing
needs of its customers and to reduce its own exposure to fluctuations in
interest rates. These financial instruments include commitments to extend
credit, standby letters of credit and financial guarantees. Those instruments
involve, to varying degrees, elements of credit and interest rate risk in excess
of the amount recognized in the balance sheet. The contract or notional amounts
of those instruments reflect the extent of involvement the Corporation and
Subsidiaries have in particular classes of financial instruments.
The Corporation and Subsidiaries' exposure to credit loss in the event of
nonperformance by the other party to the financial instrument for commitments to
extend credit and standby letters of credit and financial guarantees written is
represented by the contractual notional amount of those instruments. The
Corporation and Subsidiaries use the same credit policies in making commitments
and conditional obligations as it does for on-balance-sheet instruments.
Unless noted otherwise, the Corporation and Subsidiaries do not require
collateral or other security to support financial instruments with credit risk.
A summary of the contract or notional amount of the Corporation and
Subsidiaries' exposure to off-balance-sheet risk as of December 31, 1998 and
1997, is as follows:
<TABLE>
<CAPTION>
1998 1997
------------ -------------
(In Thousands)
Financial instruments whose contract amounts represent credit risk:
<S> <C> <C>
Commitments to extend credit........................................ $ 384,463 $ 339,417
Standby letters of credit and financial guarantees written.......... $ 22,816 $ 20,128
</TABLE>
Commitments to extend credit are agreements to lend to a customer as long
as there is no violation of any condition established in the contract.
Commitments generally have fixed expiration dates or other termination clauses
and may require payment of a fee. Since many of the commitments are expected to
expire without being drawn upon, the total commitment amounts do not necessarily
represent future cash requirements. The Corporation and Subsidiaries evaluate
each customer's credit worthiness on a case-by-case basis. The amount of
collateral obtained, if deemed necessary by the Corporation and Subsidiaries
upon extension of credit, is based on management's credit evaluation of the
counterparty. Collateral held varies but may include accounts receivable,
inventory, property and equipment, and income-producing commercial properties.
Standby letters of credit and financial guarantees written are conditional
commitments issued by the Corporation and Subsidiaries to guarantee the
performance of a customer to a third party. Those guarantees are primarily
issued to support public and private borrowing arrangements, including
commercial paper, bond financing, and similar transactions. The credit risk
involved in issuing letters of credit is essentially the same as that involved
in extending loan facilities to customers. The Corporation and Subsidiaries hold
marketable securities as collateral supporting those commitments for which
collateral is deemed necessary. The extent of collateral held for those
commitments at December 31, 1998, varies from 0 percent to 100 percent; the
average amount collateralized is 42 percent.
NOTE 19 -- CREDIT RISK
As of December 31, 1998, the Corporation had a concentration of loans in
non-farm, non-residential loans, consisting primarily of commercial loans
secured by real estate of $490,682,000 which were in excess of 10% of the total
loan portfolio. The Corporation does not engage in any foreign lending
activities.
As of December 31, 1998, the Corporation had $48,343,000 in deposits in
financial institutions in excess of amounts insured by the Federal Deposit
Insurance Corporation (FDIC).
NOTE 20 -- DISCLOSURES ABOUT FAIR VALUE OF FINANCIAL INSTRUMENTS
The following methods and assumptions were used to estimate the fair value
of each class of financial instruments for which it is practicable to estimate
that value:
43
<PAGE>
CASH AND SHORT-TERM INVESTMENTS
For those short-term instruments, the carrying amount is a reasonable
estimate of fair value.
INVESTMENT SECURITIES AND SECURITIES AVAILABLE FOR SALE
For securities and marketable equity securities held for investment
purposes, fair values are based on quoted market prices or dealer quotes. For
other securities held as investments, fair value equals quoted market price, if
available. If a quoted market price is not available, fair value is estimated
using quoted market prices for similar securities.
LOAN RECEIVABLES
For certain homogeneous categories of loans, such as some residential
mortgages, credit card receivables, and other consumer loans, fair value is
estimated using the quoted market prices for securities backed by similar loans,
adjusted for differences in loan characteristics. The fair value of other types
of loans is estimated by discounting the future cash flows using the current
rates at which similar loans would be made to borrowers with similar credit
ratings and for the same remaining maturities.
DEPOSITS AND BORROWINGS
The fair value of demand deposits, savings accounts, and certain money
market deposits is the amount payable on demand at the reporting date. For all
other deposits and borrowings, the fair value is determined using the discounted
cash flow method. The discount rate was equal to the rate currently offered on
similar products.
OFF-BALANCE-SHEET FINANCIAL INSTRUMENTS
The fair value of commitments to extend credit is estimated using the fees
currently charged to enter similar agreements, taking into account the remaining
terms of the agreements and the present credit worthiness of the counterparties.
For fixed-rate loan commitments, fair value also considers the difference
between current levels of interest rates and the committed rates.
The fair value of stand-by letters of credit is based on fees currently
charged for similar agreements or on the estimated cost to terminate them or
otherwise settle the obligations with the counterparties at the reporting date.
At December 31, 1998 and 1997, the carrying amounts and fair values of loan
commitments, and stand-by letters of credit, were immaterial.
The estimated fair values of the Corporation's financial instruments are as
follows:
<TABLE>
<CAPTION>
1998 1997
----------------------------- -----------------------------
CARRYING FAIR CARRYING FAIR
AMOUNT VALUE AMOUNT VALUE
------------- -------------- ------------- -------------
<S> <C> <C> <C> <C>
(In Thousands) (In Thousands)
FINANCIAL ASSETS:
Cash and short-term investments...... $ 309,589 $ 309,589 $ 257,058 $ 257,058
Investments securities............... 399,208 404,793 406,707 413,286
Securities available for sale........ 372,481 372,481 254,466 254,466
Loans................................ 1,671,105 1,709,853 1,627,064 1,647,565
------------- -------------- ------------- -------------
Total financial assets......... $ 2,752,383 $ 2,796,716 $ 2,545,295 $ 2,572,375
============= ============== ============= =============
FINANCIAL LIABILITIES:
Deposits............................. $ 2,436,022 $ 2,440,397 $ 2,275,380 $ 2,282,437
Federal funds purchased and securities
sold under agreement to repurchase. 102,935 102,935 81,336 81,336
Other short-term borrowings.......... 17,312 17,312 14,509 14,509
Long-term debt....................... 21,058 19,856 17,136 13,887
------------- -------------- ------------- -------------
Total financial liabilities.... $ 2,577,327 $ 2,580,500 $ 2,388,361 $ 2,392,169
============= ============== ============= =============
</TABLE>
NOTE 21 -- REGULATORY MATTERS
The Corporation is subject to various regulatory capital requirements
administered by the federal banking agencies. Failure to meet minimum capital
requirements can initiate certain mandatory -- possibly additional discretionary
- -- actions by regulators that, if undertaken, could have a direct material
effect on the Corporation's financial statements. Under capital adequacy
guidelines and the regulatory framework for prompt corrective action, the
Corporation must meet specific capital guidelines that involve quantitative
measures of the Corporation's assets, liabilities, and certain off-balance-sheet
items as calculated under regulatory accounting practices. The Corporation's
44
<PAGE>
capital amounts and classification are also subject to qualitative judgments by
the regulators about components, risk weightings, and other factors.
Quantitative measures established by regulation to ensure capital adequacy
require the Corporation to maintain minimum amounts and ratios (set forth in the
table below) of total and Tier 1 capital (as defined in the regulations) to
risk-weighted assets, and of Tier 1 capital to average assets. Management
believes, as of December 31, 1998, that the Corporation meets all capital
adequacy requirements to which it is subject.
As of December 31, 1998, the most recent notification from the Federal
Reserve Bank categorized the Corporation as well capitalized under the
regulatory framework for prompt corrective action. To be categorized as well
capitalized, the Corporation must maintain minimum total risk-based, Tier 1
risk-based, and Tier 1 leverage ratios as set forth in the table.
There are no conditions or events since that notification that management
believes have changed the institution's category.
The Corporation's and significant Subsidiaries' actual capital amounts and
ratios are also presented in the table:
<TABLE>
<CAPTION>
TO BE WELL CAPITALIZED
FOR CAPITAL UNDER PROMPT CORRECTIVE
ACTUAL ADEQUACY PURPOSES ACTION PROVISIONS
--------------------- ----------------------- -----------------------
AMOUNT RATIO AMOUNT RATIO AMOUNT RATIO
--------- ---------- ----------- ----------- ----------- -----------
<S> <C> <C> <C> <C> <C> <C>
(In Thousands)
As of December 31, 1998:
Total Capital (to Risk
Weighted Assets)
Consolidated........... $ 293,406 16.3% >$144,266 > 8.0% N/A
- -
F&M Bank-Winchester.... $ 80,942 16.4% >$ 39,615 > 8.0% >$ 49,519 > 10.0%
- - - -
F&M Bank-NOVA.......... $ 56,056 13.4% >$ 33,416 > 8.0% >$ 41,770 > 10.0%
- - - -
Tier 1 Capital (to Risk
Weighted Assets)
Consolidated........... $ 271,037 15.0% >$ 72,133 > 4.0% N/A
- -
F&M Bank-Winchester.... $ 74,752 15.1% >$ 19,808 > 4.0% >$ 29,711 > 6.0%
- - - -
F&M Bank-NOVA.......... $ 51,101 12.2% >$ 16,708 > 4.0% >$ 25,062 > 6.0%
- - - -
Tier 1 Capital (to
Average Assets)
Consolidated........... $ 271,037 9.9% >$109,878 > 4.0% N/A
- -
F&M Bank-Winchester.... $ 74,752 9.6% >$ 31,125 > 4.0% >$ 38,906 > 5.0%
- - - -
F&M Bank-NOVA.......... $ 51,101 7.8% >$ 26,267 > 4.0% >$ 32,934 > 5.0%
- - - -
As of December 31, 1997:
Total Capital (to Risk
Weighted Assets)
Consolidated........... $ 272,319 16.3% >$133,798 > 8.0% N/A
- -
F&M Bank-Winchester.... $ 78,440 15.7% >$ 40,067 > 8.0% >$ 50,084 > 10.0%
- - - -
F&M Bank-NOVA.......... $ 46,160 14.1% >$ 26,204 > 8.0% >$ 32,755 > 10.0%
- - - -
Tier 1 Capital (to Risk
Weighted Assets)
Consolidated........... $ 251,413 15.0% >$ 66,899 > 4.0% N/A
- -
F&M Bank-Winchester.... $ 72,180 14.4% >$ 20,034 > 4.0% >$ 30,050 > 6.0%
- - - -
F&M Bank-NOVA.......... $ 42,066 12.9% >$ 13,102 > 4.0% >$ 19,653 > 6.0%
- - - -
Tier 1 Capital (to
Average Assets)
Consolidated........... $ 251,413 9.9% >$101,376 > 4.0% N/A
- -
F&M Bank-Winchester.... $ 72,180 8.8% >$ 32,854 > 4.0% >$ 41,067 > 5.0%
- - - -
F&M Bank-NOVA.......... $ 42,066 8.3% >$ 20,202 > 4.0% >$ 25,253 > 5.0%
- - - -
</TABLE>
NOTE 22 -- PROPOSED MERGER
Security Bank Corporation (SBC) and the Corporation have entered into a
Definitive Agreement and Plan of Reorganization, dated as of November 25, 1998
and related Plan of Merger (collectively, the "Merger Agreement"). This
transaction is subject to the approval of regulatory authorities and
shareholders of SBC. Under the terms of the Merger Agreement, SBC will be merged
with F&M Bank-Northern Virginia and each share of common stock of SBC
outstanding immediately prior to consummation of the Merger will be exchanged,
in a tax-free exchange, for shares of F&M common stock whose aggregate market
value equals $17.25, with cash being paid in lieu of issuing fractional shares.
It is anticipated that the Merger will become effective in the first quarter of
1999. As of December 31, 1998, SBC had total assets of $61.2 million, total
loans of $34.3 million, total deposits of $52.4 million and total shareholders'
equity of $7.9 million.
45
<PAGE>
NOTE 23 -- CONDENSED FINANCIAL INFORMATION -- PARENT COMPANY ONLY
F&M NATIONAL CORPORATION
(PARENT CORPORATION ONLY)
BALANCE SHEETS
December 31, 1998 and 1997
<TABLE>
<CAPTION>
DECEMBER 31,
-----------------------------
1998 1997
------------ -------------
<S> <C> <C>
(In Thousands)
ASSETS
Cash on deposit with subsidiary banks................................ $ 1 $ 1
Investment in subsidiaries, at cost, plus equity in undistributed
net income........................................................ 265,306 258,013
Securities available for sale....................................... 10,063 9,964
Other short-term investments........................................ 24,401 7,726
Bank premises and equipment, net.................................... 1,345 1,348
Intangible, goodwill, at amortized cost............................. 185 245
Other assets........................................................ 10,719 10,692
------------ -------------
Total assets......................................... $ 312,020 $ 287,989
============ =============
LIABILITIES AND SHAREHOLDERS' EQUITY
LIABILITIES
Short-term borrowings............................................... $ 17,483 $ 14,218
Dividends payable................................................... 4,263 3,761
Other liabilities................................................... 3,169 5,159
------------ -------------
Total liabilities..................................... $ 24,915 $ 23,138
------------ -------------
SHAREHOLDERS' EQUITY
Preferred stock..................................................... $ -- $ --
Common stock........................................................ 43,743 43,779
Capital surplus..................................................... 76,404 77,989
Retained earnings, which are substantially undistributed earnings
of subsidiaries................................................... 160,980 140,853
Accumulated other comprehensive income.............................. 5,978 2,230
------------ -------------
Total shareholders' equity............................ $ 287,105 $ 264,851
------------ -------------
Total liabilities and shareholders' equity............ $ 312,020 $ 287,989
============ =============
</TABLE>
46
<PAGE>
F&M NATIONAL CORPORATION
(PARENT CORPORATION ONLY)
STATEMENTS OF INCOME
For Each of the Three Years in the Period Ended December 31, 1998
<TABLE>
<CAPTION>
DECEMBER 31,
--------------------------------------------
1998 1997 1996
------------- ------------ -------------
(In Thousands)
REVENUE
<S> <C> <C> <C>
Dividends from subsidiaries........................... $ 34,435 $ 17,012 $ 14,418
Interest on other short-term investments............. 361 219 665
Interest and dividends on securities available for sale 427 448 390
Management fees from subsidiaries.................... 3,179 2,826 2,409
Rental income from subsidiaries...................... 123 54 91
Profits on securities available for sale............. 546 3,252 407
Other revenue........................................ 8 22 11
------------- ------------ -------------
Total revenue......................... $ 39,079 $ 23,833 $ 18,391
------------- ------------ -------------
EXPENSES
Salaries and employee benefits........................ $ 1,859 $ 2,113 $ 2,029
Directors, fees...................................... 205 190 178
Taxes (other than income)............................ 51 42 13
Interest............................................. 360 348 374
Amortization of goodwill............................. 60 60 60
Depreciation......................................... 31 34 35
Merger expenses...................................... 226 9 381
Other expenses....................................... 824 1,068 956
------------- ------------ -------------
Total expenses........................ $ 3,616 $ 3,864 $ 4,026
------------- ------------ -------------
INCOME BEFORE INCOME TAXES AND EQUITY
IN UNDISTRIBUTED NET INCOME OF SUBSIDIARIES $ 35,463 $ 19,969 $ 14,365
INCOME TAX EXPENSE (BENEFIT)........................... 447 1,143 (164)
------------- ------------ -------------
INCOME BEFORE EQUITY IN UNDISTRIBUTED
NET INCOME OF SUBSIDIARIES......... $ 35,016 $ 18,826 $ 14,529
EQUITY IN UNDISTRIBUTED NET INCOME OF SUBSIDIARIES..... 1,469 13,978 16,373
------------- ------------ -------------
NET INCOME............................. $ 36,485 $ 32,804 $ 30,902
============= ============ =============
</TABLE>
47
<PAGE>
F&M NATIONAL CORPORATION
(PARENT CORPORATION ONLY)
STATEMENTS OF CASH FLOWS
For Each of the Three Years in the Period Ended December 31, 1998
<TABLE>
<CAPTION>
DECEMBER 31,
--------------------------------------------
1998 1997 1996
------------- ------------ -------------
<S> <C> <C> <C>
(In Thousands)
CASH FLOWS FROM OPERATING ACTIVITIES
Net income............................................ $ 36,485 $ 32,804 $ 30,902
Adjustments to reconcile net income to net cash provided
by operating activities:
Depreciation..................................... 31 34 35
Amortization..................................... 60 60 60
Deferred income taxes (credits).................. 276 239 (308)
Discount accretion............................... (4) (4) (3)
Profits on securities available for sale......... (546) (3,252) (407)
Undistributed net income of subsidiaries......... (1,469) (13,978) (16,373)
Decrease in goodwill............................. -- -- 304
(Increase) decrease in other assets.............. 1,795 (1,781) (4,804)
Increase in other liabilities.................... (1,990) 1,345 1,077
------------- ------------ -------------
Net cash provided by operating activities $ 34,638 $ 15,467 $ 10,483
------------- ------------ -------------
CASH FLOWS FROM INVESTING ACTIVITIES
(Increase) decrease in investment in subsidiaries..... $ (1,600) $ -- $ 162
Purchase of securities available for sale............ (2,151) (2,227) (6,024)
Proceeds from sale of securities available for sale.. 1,557 8,447 2,954
(Increase) decrease in other short-term investments.. (16,675) 2,128 12,561
Purchase of bank premises and equipment.............. (28) (6) (3)
------------- ------------ -------------
Net cash provided by (used in) investing
activities $ (18,897) $ 8,342 $ 9,650
------------- ------------ -------------
CASH FLOWS FROM FINANCING ACTIVITIES
Increase (decrease) in short-term borrowings.......... $ 3,265 $ (237) $ (4,007)
Net proceeds from issuance and sale of common stock.. 2,959 2,594 3,336
Acquisition of common stock.......................... (6,109) (10,594) (7,456)
Dividends paid....................................... (15,856) (15,703) (12,049)
------------- ------------ -------------
Net cash (used in) financing activities $ (15,741) $ (23,940) $ (20,176)
------------- ------------ -------------
(Decrease) in cash and cash equivalents $ -- $ (131) $ (43)
CASH AND CASH EQUIVALENTS
Beginning............................................. 1 132 175
------------- ------------ -------------
Ending............................................... $ 1 $ 1 $ 132
============= ============ =============
SUPPLEMENTAL DISCLOSURES OF CASH FLOW INFORMATION
Cash payments for interest............................ $ 360 $ 348 $ 374
============= ============ =============
SUPPLEMENTAL SCHEDULE OF NONCASH INVESTING AND
FINANCING ACTIVITIES
Issuance of stock options under nonvariable
compensatory plan $ 1,529 $ 732 $ 500
============= ============ =============
Issuance of common stock in exchange for net
assets in bank acquisition......................... $ -- $ 6,297 $ --
============= ============ =============
Unrealized gain (loss) on securities available for sale $ 1,045 $ (858) $ 215
============= ============ =============
</TABLE>
48
<PAGE>
INDEPENDENT AUDITOR'S REPORT
TO THE SHAREHOLDERS AND DIRECTORS
OF F&M NATIONAL CORPORATION
WINCHESTER, VIRGINIA
We have audited the accompanying consolidated balance sheets of F&M
National Corporation and Subsidiaries as of December 31, 1998 and 1997, and the
related consolidated statements of income, changes in shareholders' equity, and
cash flows for the years ended December 31, 1998, 1997 and 1996. These financial
statements are the responsibility of the Corporation's management. Our
responsibility is to express an opinion on these financial statements based on
our audits.
We conducted our audits in accordance with generally accepted auditing
standards. Those standards require that we plan and perform the audit to obtain
reasonable assurance about whether the financial statements are free of material
misstatement. An audit includes examining, on a test basis, evidence supporting
the amounts and disclosures in the financial statements. An audit also includes
assessing the accounting principles used and significant estimates made by
management, as well as evaluating the overall financial statement presentation.
We believe that our audits provide a reasonable basis for our opinion.
In our opinion, the consolidated financial statements referred to above
present fairly, in all material respects, the financial position of F&M National
Corporation and Subsidiaries as of December 31, 1998 and 1997, and the results
of their operations and their cash flows for the years ended December 31, 1998,
1997 and 1996, in conformity with generally accepted accounting principles.
Winchester, Virginia /s/ Yount, Hyde & Barbour, P.C.
January 27, 1999 YOUNT, HYDE & BARBOUR, P.C.
49
<PAGE>
[F&M LOGO APPEARS HERE] F&M TRUST COMPANY
F&M Trust Company began as a new subsidiary of F&M National Corporation on
January 1, 1998. While the corporate structure was new, consolidating three
existing bank trust departments into one entity, we are hardly new to the trust
business since one of those bank departments had been in business for over 71
years.
F&M Trust Company began 1998 managing consolidated trust assets totaling
$480 million. By year-end, managed trust assets (representing 1627 fiduciary
accounts) exceeded $586 million, a 22 percent growth generated through business
development and investment enhancement.
Our Company is fortunate to have a seasoned staff of 29 professionals, with
regional offices in Fairfax and Warrenton supported by the headquarters office
in Winchester. Our regional presence allows us to personally serve our expanded
customer base in Virginia, West Virginia and Maryland.
Unquestionably one of the highlights of the year has been the company's
success in developing new trust business. The net growth in trust assets from
new business generated from outside sources exceeded $75 million. Another
highlight would be our growth in revenue from fiduciary services. Total trust
revenue for 1998 was $2,674,000 which represented a 16 percent increase over the
consolidated trust revenue for the preceding year. Net income from 1998
operations, after taxes, was $426,463 which exceeded initial corporate
projections.
A third highlight of the year would be investment performance... our record
is outstanding. The portfolio managers for F&M Trust Company remain dedicated to
a disciplined blended approach (value and growth) to the selection of quality
stocks together with a structured allocation process to ensure a prudent
portfolio diversification. Our individually managed accounts and the Company's
collective trust funds had excellent results for 1998. The Balanced Common Trust
Fund produced a return of 22.27 percent for the year which significantly
exceeded the Lipper Balanced Fund Average of 13.48 percent, thereby continuing a
tradition of index out-performance which extends into both the 5-year and
10-year time frames. The Income Fund's return for 1998 was 7.38 percent which
compares very favorably to the Lipper General Bond Fund Average of 6.47 percent.
As with the Balanced Fund, the performance of the Income Fund has also
outdistanced its Lipper Benchmark in the 5- and 10-year horizons.
With trust operations fully consolidated, personnel fully staffed and our
vision for the future clearly focused, we head to the new century anticipating
continued asset growth and greater profitability for our stockholders. However,
we pledge to never lose sight of our underlying commitment of providing
professional and personal service for each of our fiduciary customers.
[SIGNATURE APPEARS HERE]
F. Dixon Whitworth, Jr.
President and CEO
ASSETS AND ACCOUNTS UNDER MANAGEMENT
As of December, 31, 1998 (unaudited)
(IN THOUSANDS)
------------
ASSETS
Discretionary Assets:
Bank Deposits..................................... $ 1,964
United States Treasury and Agency Obligations..... 20,770
State, County, and Municipal Obligations.......... 21,334
Short Term Interest Bearing Funds................. 48,621
Notes and Bonds................................... 39,473
Common and Preferred Stocks....................... 266,287
Real Estate Mortgages............................. 1,588
Real Estate....................................... 10,982
Miscellaneous Assets.............................. 13,818
------------
Total Discretionary Assets......................... $ 424,837
------------
Non-Discretionary Assets........................... $ 161,599
------------
Total Assets....... $ 586,436
============
ACCOUNTS
Personal Trusts............................... 382 $ 230,205
Estates and Other Court Accounts.............. 30 10,796
Employee Benefit Accounts..................... 785 156,401
Agencies and Other............................ 430 189,034
------------
Total Accounts 1627 $ 586,436
============
50
<PAGE>
F&M NATIONAL CORPORATION
<TABLE>
<CAPTION>
<S> <C>
DIRECTORS: OFFICERS:
Frank Armstrong, III W. M. Feltner
CHAIRMAN, PRESIDENT, AND CHIEF EXECUTIVE OFFICER, CHAIRMAN OF THE BOARD AND
NATIONAL FRUIT PRODUCT COMPANY, INC. CHIEF EXECUTIVE OFFICER
W. H. Clement Alfred B. Whitt
VICE CHAIRMAN, HIDDEN CREEK PRESIDENT, VICE CHAIRMAN,
INDUSTRIES, INC. CHIEF FINANCIAL OFFICER
Charles E. Curtis Charles E. Curtis
VICE CHAIRMAN, CHIEF ADMINISTRATIVE OFFICER VICE CHAIRMAN AND CHIEF
F&M NATIONAL CORPORATION ADMINISTRATIVE OFFICER
W. M. Feltner F. Dixon Whitworth, Jr.
CHAIRMAN OF THE BOARD AND CHIEF EXECUTIVE OFFICER, EXECUTIVE VICE PRESIDENT
F&M NATIONAL CORPORATION;
CHAIRMAN OF THE BOARD, F&M BANK-WINCHESTER Betty H. Carroll
SENIOR VICE PRESIDENT
John R. Fernstrom
CHAIRMAN OF THE BOARD, Jack W. Lee, Jr.
F&M BANK-ALLEGIANCE SENIOR VICE PRESIDENT-AUDITOR
William R. Harris Michael L. Bryan
PRESIDENT AND CHAIRMAN OF THE BOARD, CORPORATE SECRETARY
HARRIS HEATING AND PLUMBING, INC.
Barbara H. Ward
L. David Horner, III TREASURER
CHAIRMAN, HORNER PROPERTIES, INC.
Colleen M. Bly
Jack R. Huyett DIRECTOR OF HUMAN RESOURCES SERVICES
RETIRED PRESIDENT AND CAO,
F&M NATIONAL CORPORATION Richard B. Wiltshire, Jr.
INDEPENDENT LOAN REVIEW OFFICER
George L. Romine
SALES MANAGEMENT CONSULTANT
J. D. Shockey, Jr.
PRESIDENT, SHOCKEY INDUSTRIES, INC.
Ronald W. Tydings
ATTORNEY, ODIN, FELDMAN AND PITTLEMAN P.C.
Fred G. Wayland, Jr.
RETIRED PRESIDENT, F&M BANK-PEOPLES
Alfred B. Whitt
PRESIDENT, VICE CHAIRMAN AND CHIEF FINANCIAL OFFICER
F&M NATIONAL CORPORATION
VICE CHAIRMAN AND SECRETARY
F&M BANK-WINCHESTER
DIRECTORS EMERITI
John S. Scully III
C. Ridgely White
</TABLE>
51
<PAGE>
<TABLE>
<CAPTION>
<S> <C> <C>
F&M BANK-WINCHESTER CHARGE CARDS: D. Elliott Collins
VICE PRESIDENT
DIRECTORS: Clyde C. Lamond III Jeannette Doyle
VICE PRESIDENT-CHARGE CARDS VICE PRESIDENT
Frank Armstrong, III
Ruth D. Bridgeforth F&M BANK-
Betty H. Carroll MONEY MANAGEMENT: MASSANUTTEN
W. H. Clement
Charles E. Curtis Phyllis K. Bishop DIRECTORS:
W. M. Feltner, CHAIRMAN VICE PRESIDENT
Joseph E. Kalbach Linda G. Jones J. Robert Black
George L. Romine VICE PRESIDENT Robert W. Drechsler
J. D. Shockey, Jr. Dwight W. Hartman
Beverley B. Shoemaker MARKETING: W. Wallace Hatcher, CHAIRMAN
William A. Truban, DVM Russell K. Henry, Jr.
Alfred B. Whitt Jill A. Feltner Marian G. Jenkins
F. Dixon Whitworth, Jr. MARKETING DIRECTOR Curtis F. Kite
James R. Wilkins, III W. Price Lineweaver
Miles R. Orndorff, Jr. Harry L. Rawley
DIRECTOR EMERITUS: PUBLIC RELATIONS DIRECTOR Garnett R. Turner
Mary M. Henkel Nancy H. Whitmore
F&M BANK- Alfred B. Whitt
OFFICERS: CENTRAL VIRGINIA
W. M. Feltner OFFICERS:
CHAIRMAN OF THE BOARD DIRECTORS:
Jacob P. Bailey, CHAIRMAN Russell K. Henry, Jr.
Alfred B. Whitt William J. Camden PRESIDENT AND CHIEF EXECUTIVE OFFICER
VICE CHAIRMAN, SECRETARY James N. Fleming
S. W. Heischman Writa D. Hill
Charles E. Curtis Larry J. McElwain SENIOR VICE PRESIDENT,
VICE CHAIRMAN Ronald L. Moyer SENIOR OPERATIONS OFFICER, SECRETARY
William B. Pollard, M.D.
Betty H. Carroll Robert C. Raynor, M.D. Edward A. Strunk
PRESIDENT AND CHIEF EXECUTIVE OFFICER Thomas H. Romer SENIOR VICE PRESIDENT
Walter L.Tucker, Jr.
Barbara H. Ward Wayne L. Turner James G. Link
SENIOR VICE PRESIDENT F. Dixon Whitworth, Jr. VICE PRESIDENT
OFFICERS: Donna S. Walker
LOANS: VICE PRESIDENT
Wayne L.Turner
M. Lee Boppe PRESIDENT AND F&M-BANK-NORTHERN
SENIOR VICE PRESIDENT-LOANS CHIEF EXECUTIVE OFFICER VIRGINIA
Frances H. Fortune William K. King DIRECTORS:
SENIOR VICE PRESIDENT-CREDIT SENIOR VICE PRESIDENT AND SECRETARY
Vicki T. Miller Daniel R. Baker
Robert E. Lee VICE PRESIDENT AND CASHIER Warren E. Barry
SENIOR VICE PRESIDENT-LOANS Larry F. Mundy Robert H. Bird
VICE PRESIDENT-COMMERCIAL LENDING Hugh W. Compton
Fay H. DeHaven Charles E. Curtis
VICE PRESIDENT-LOANS F&M BANK-EMPORIA James C. Davis
Frances H. Fannon III
Romaine S. Hess DIRECTORS: David E. Feldman
VICE PRESIDENT-LOAN OPERATIONS C. Butler Barrett Howard R. Green
Stephen D. Bloom Thom F. Hanes
Steven D. Tavenner Bobby L. Flippen Scott C. Humphrey
VICE PRESIDENT-LOANS Dr. Theopolis Gilliam, Jr. Reed E. Larson
Robert H. Grizzard, Jr., CHAIRMAN Henry C. Mackall
OPERATIONS: O. Wayne Hanks Charles D. Mercer
Arthur H. Kreienbaum, Jr. Carol B. Moore
Peggy J. Marcus Wayne P. Leath Jon M. Peterson
SENIOR VICE PRESIDENT-CASHIER T. Earl Rogers
OFFICERS: Thomas D. Rust
Shelby C. Hodgson O. Wayne Hanks Edward Semonian
VICE PRESIDENT-BRANCH COORDINATOR PRESIDENT AND CHIEF EXECUTIVE OFFICER Robert E. Sevila
Arvilla S. Rinker
VICE PRESIDENT-OPERATIONS
Linda P. Russell
VICE PRESIDENT-NSF OFFICER
Paul E. Shifflett
VICE PRESIDENT-CONTROLLER
52
<PAGE>
Ronald W. Tydings, CHAIRMAN B. Drew Brown Joan B. Oliver
Michael M. Webb VICE PRESIDENT-COMMERCIAL LENDING VICE PRESIDENT-DATA PROCESSING
Michael E. Wicks Arlene F. Haley
VICE PRESIDENT-COMMERICAL LENDING Nancy W. Clatterbuck
OFFICERS: Michael K. Kuhns VICE PRESIDENT-BRANCH MANAGER
VICE PRESIDENT-COMMERCIAL LENDING
T. Earl Rogers Robert J. Maiorana Daryl A. Urnosky
PRESIDENT AND CHIEF EXECUTIVE OFFICER VICE PRESIDENT-COMMERCIAL LENDING VICE PRESIDENT-CHIEF FINANCIAL OFFICER
Robert C. Miller
Thom F. Hanes VICE PRESIDENT-COMMERCIAL LENDING F&M BANK-RICHMOND
EXECUTIVE VICE PRESIDENT AND Jeffery M. Rosati
REGIONAL EXECUTIVE OFFICER VICE PRESIDENT-COMMERCIAL LENDING DIRECTORS:
Alejandro Solis
Ramona W. Rodriguez VICE PRESIDENT-COMMERCIAL LENDING James H. Atkinson, Jr.
SENIOR VICE PRESIDENT, CHIEF Carter L. Wormeley Jeff C. Bane
FINANCIAL OFFICER AND SECRETARY VICE PRESIDENT-COMMERCIAL LENDING W. S. Carnes
Nancy J. Krause Stephen C. Conte
Donald E. Strehle VICE PRESIDENT-COMPLIANCE OFFICER Quentin L. Corbett
SENIOR VICE PRESIDENT, John Djuric Lewis T. Cowardin
BRANCH ADMINISTRATOR VICE PRESIDENT-CONSTRUCTION LENDING Zane G. Davis
John R. Lucas Bonnie D. Klepner Read F. Goode
SENIOR VICE PRESIDENT AND VICE PRESIDENT-CONTRACTS COORDINATOR Richard H. Hamlin
REGIONAL OFFICER Cynthia E. McGlumphy A. Lee Hanbury
Alice B. Williams VICE PRESIDENT-LOAN ADMINISTRATION William R. Harris, CHAIRMAN
SENIOR VICE PRESIDENT AND Thomas F. Bradley Seale A. Moorer
REGIONAL OFFICER VICE PRESIDENT-MORTGAGE LENDING Thomas L. Newton, Jr.
George T. Pawlak Thomas E. Pruitt
J. David Holden VICE PRESIDENT-NETWORK ADMINISTRATOR James R. Reames
SENIOR VICE PRESIDENT- Oliver D. Rudy
BUSINESS DEVELOPMENT F&M-PEOPLES J. K. Timmons, Jr.
F. Dixon Whitworth, Jr.
Steven R. Wilson DIRECTORS:
SENIOR VICE PRESIDENT- OFFICERS:
COMMERCIAL LENDING Alice Jane Childs
Alan L. Day, Jr. James H. Atkinson, Jr.
Steven P. Tees Marshall DeF. Doeller PRESIDENT AND CHIEF EXECUTIVE OFFICER
SENIOR VICE PRESIDENT- George F. Downes
RETAIL LENDING T. Christopher Jenkins Quentin L. Corbett
Thomas H. Kirk EXECUTIVE VICE PRESIDENT
Karin M. Johns Mark C. Riley
CASHIER AND ASSISTANT SECRETARY Lewis N. Springer Wayne D. Eaves
Edward C. A. Wachtmeister, CHAIRMAN SENIOR VICE PRESIDENT
Edward P. Alton Fred G. Wayland, Jr.
VICE PRESIDENT-MORTGAGE DIVISION Vera H. Primm
DIRECTOR EMERITUS: SENIOR VICE PRESIDENT
Cynthia C. Fisher
VICE PRESIDENT-OPERATIONS Vincent L. Tolson K. Bradley Hildebrandt
SENIOR VICE PRESIDENT
Paula A. Newsome OFFICERS:
VICE PRESIDENT Daily H. Stern
Mark C. Riley VICE PRESIDENT AND COMPLIANCE OFFICER
Harvey R. Boltwood PRESIDENT AND CHIEF EXECUTIVE OFFICER
VICE PRESIDENT-BUSINESS DEVELOPMENT Marshall E. McCall
Caren M. Eastham VICE PRESIDENT-COMMERCIAL LENDING
James E. Merritt SENIOR VICE PRESIDENT-
VICE PRESIDENT-BUSINESS DEVELOPMENT ADMINISTRATIVE SERVICES F&M BANK-WEST VIRGINIA
Charles W. Whittaker Theodore R. Coleman DIRECTORS:
VICE PRESIDENT-BUSINESS DEVELOPMENT VICE PRESIDENT-LOANS
William M. Bane
Michele K. Parker Richard L. Monahan Betty H. Carroll
VICE PRESIDENT-CASH MANAGEMENT VICE PRESIDENT-LENDING Craig H. Collis
Charles C. Conrad
Peter T. Fuge J. Blackwell Davis, Sr.
VICE PRESIDENT-COMMERCIAL LOAN OFFICER Douglas E. Haines
Denver L. Hipp
Wayne R. Garcia Joseph W. Kessel
VICE PRESIDENT-COMMERCIAL LOAN OFFICER J. Wayne Lancaster
Robert L. Amsler Dr. James M. Moler
VICE PRESIDENT-COMMERCIAL LENDING Paul L. Reid, CHAIRMAN
Glen A. Ryan
Kathleen Bromley
VICE PRESIDENT-COMMERCIAL LENDING
53
<PAGE>
Richard B. Schwinabart F&M MORTGAGE SERVICES, INCORPORATED F&M-SHOMO & LINEWEAVER INCORPORATED
Rudy R. Sites
Donald L. Sperow, Sr. DIRECTORS: DIRECTORS:
Alfred B. Whitt Betty H. Carroll Betty H. Carroll
Charles E. Curtis Michael A. Conway
DIRECTORS EMERTI: James M. O'Brien Robert W. Drechsler, CHAIRMAN
Alfred B. Whitt Michael E. Fiore
Harlan M. Bell W. Michael Heatwole, III
G. Francis Caton OFFICERS: W. Price Lineweaver
William C. Knott Ellen M. Ritchie
Dr. William R. McCune James M. O'Brien Jerry D. Sheets
Evelyn S. Oates PRESIDENT AND CHIEF EXECUTIVE OFFICER Norman J. Stern
Harland D. Ridder Monique Fraedrich Donald W. Wallinger
EXECUTIVE VICE PRESIDENT Alfred B. Whitt
OFFICERS: John Bobko
Denver L. Hipp SENIOR VICE PRESIDENT OFFICERS:
PRESIDENT AND CHIEF EXECUTIVE OFFICER Robert N. Tyson
SENIOR VICE PRESIDENT Robert W. Drechsler
Ida M. Hull Beverly Alexander CHAIRMAN
SENIOR VICE PRESIDENT AND CASHIER VICE PRESIDENT W. Price Lineweaver
Betty H. Carroll PRESIDENT
Thomas R. Reilly VICE PRESIDENT Michael E. Fiore
SENIOR VICE PRESIDENT-ADMINISTRATION John G. Mortimer SECRETARY
VICE PRESIDENT
Reginald C. Kimble M. Louise Riley F&M-J. V. ARTHUR, INCORPORATED
SENIOR VICE PRESIDENT-LENDING VICE PRESIDENT
Michael L. Bryan DIRECTORS:
James C. Rodgers SECRETARY-TREASURER Betty H. Carroll
SENIOR VICE PRESIDENT-REGIONAL MANAGER Gary S. Nichols
Jerry Partlow
Bruce E. Ludwick F&M TRUST COMPANY Terry S. Plank
SENIOR VICE PRESIDENT-REGIONAL MANAGER Alfred B. Whitt
DIRECTORS:
F&M BANK-ALLEGIANCE Betty H. Carroll OFFICERS:
W. H. Clement
DIRECTORS: Joseph E. Kalbach Gary S. Nichols
Charles E. Curtis Ronald W. Tydings PRESIDENT
John R. Fernstrom, CHAIRMAN Edward C. A. Wachtmeister Jerry Partlow
Michael A. Hubert Michael M. Webb VICE PRESIDENT
William E. Knight F. Dixon Whitworth, Jr., CHAIRMAN Terry S. Plank
R. Hugh Rial, Jr. VICE PRESIDENT
Jerrold Rosenberg OFFICERS:
Linda Greer Spooner
Ronald A. Willoner F. Dixon Whitworth, Jr. F&M FINANCIAL SERVICES CORPORATION
PRESIDENT
OFFICERS: David D. Addison DIRECTORS:
R. Hugh Rial, Jr. SENIOR VICE PRESIDENT Norman J. Stern
PRESIDENT AND CHIEF Marshall J. Beverley, Jr. W. Michael Heatwole, III
EXECUTIVE OFFICER SENIOR VICE PRESIDENT
Thomas H. Kirk OFFICERS:
Robert P. Pugh SENIOR VICE PRESIDENT
EXECUTIVE VICE PRESIDENT W. Blakely Curtis Norman J. Stern
VICE PRESIDENT PRESIDENT
Elaine B. Durkin Dennis R. Dorsett W. Michael Heatwole, III
SENIOR VICE PRESIDENT-OPERATIONS VICE PRESIDENT SECRETARY
William A. Gallagher E. Lee Earnhardt
SENIOR VICE PRESIDENT- VICE PRESIDENT
CHIEF LENDING OFFICER
Jack D. Green
SENIOR VICE PRESIDENT-
BRANCH ADMINISTRATION
David S. Cohen
VICE PRESIDENT-CONTROLLER
David W. Irey
VICE PRESIDENT-CONSUMER LOANS
AND COMPLIANCE OFFICER
54
<PAGE>
WINCHESTER
CREDIT CORPORATION
DIRECTORS:
Betty H. Carroll
Charles E. Curtis
Alfred B. Whitt
OFFICERS:
Betty H. Carroll
PRESIDENT
Michael L. Bryan
SECRETARY
Barbara H. Ward
TREASURER
APPLE TITLE COMPANY
DIRECTORS:
Betty H. Carroll
Charles E. Curtis
Alfred B. Whitt
OFFICERS:
Betty H. Carroll
PRESIDENT
Michael L. Byran
SECRETARY
Frances H. Fortune
TREASURER
55
<PAGE>
CORPORATE HEADQUARTERS 22550 Davis Drive F&M BANK-MASSANUTTEN
Sterling, Virginia 20164
F&M NATIONAL CORPORATION 703-435-0782 1855 East Market Street
9 Court Square RAPPAHANNOCK COUNTY: Harrisonburg, Virginia 22801
Winchester, Virginia 22601 644 Zachary Taylor Highway 540-434-6761
540-665-4200 Flint Hill, Virginia 22627 3150 South Main Street
540-675-3596 Harrisonburg, Virginia 22801
F&M BANK-WINCHESTER SHENANDOAH COUNTY: 540-433-1330
Main Office 5180 Main Street 611 Mount Clinton Pike
115 North Cameron Street Mount Jackson, Virginia 22842 Harrisonburg, Virginia 22801
Winchester, Virginia 22601 540-477-2931 540-433-9936
540-665-4200 158 South Main Street 157 North Main Street
OTHER BANKING OFFICES: Woodstock, Virginia 22664 Broadway, Virginia 22915
WINCHESTER, VIRGINIA 22601 540-459-5500 540-896-7083
540-665-4200 9383 Congress Street 200 Augusta Street
100 North Loudoun Street New Market, Virginia 22844 Grottoes, Virginia 24441
509A Amherst Street 540-740-8044 540-249-5727
2252 Valley Avenue WARREN COUNTY: 1900 South High Street
829 North Loudoun Street 540-635-3134 Harrisonburg, Virginia 22801
1850 Apple Blossom Drive 102 East Main Street 540-432-6490
748 Berryville Avenue Front Royal, Virginia 22630 317 North Main Street
124 West Piccadilly Street 215 North Royal Avenue Bridgewater, Virginia 22812
2082 South Pleasant Valley Road Front Royal, Virginia 22630 540-828-4737
2004 South Pleasant Valley Road Royal Plaza Shopping Center American Legion Drive and
CLARKE COUNTY: 433 South Street Route 42
23 North Church Street Front Royal, Virginia 22630 Timberville, Virginia 22853
Berryville, Virginia 22611 123 East Sixth Street 540-896-5858
540-955-1222 Front Royal, Virginia 22630 430 Highlands Place
FREDERICK COUNTY: Harrisonburg, Virginia 22801
6701 Northwestern Pike F&M BANK-CENTRAL VIRGINIA 540-433-2702
Gore, Virginia 22637 1425 Seminole Trail
540-858-2832 Charlottesville, Virginia 22901 F&M BANK-NORTHERN VIRGINIA
7800 Main Street 804-973-4233
Middletown, Virginia 22645 101 Critzer Shop Road 4117 Chain Bridge Road
540-869-1200 Afton, Virginia 22920 Fairfax, Virginia 22030
5306 Main Street 540-456-8156 703-385-3335
Stephens City, Virginia 22655 840 South Main Street 2111 Eisenhower Avenue
540-869-3000 Amherst, Virginia 24521 Alexandria, Virginia 22314
1855 Senseny Road 804-946-2265 703-299-3563
Winchester, Virginia 22602 2208 Ivy Road 606 King Street
540-665-4200 Charlottesville, Virginia 22903 Aleandria, Virginia 22314
300 Westminster Canterbury Drive 804-293-9181 703-683-4066
Winchester, Virginia 22603 1113 5th Street Extended 1717 King Street
540-665-4200 Charlottesville, Virginia 22902 Alexandria, Virginia 22314
LOUDOUN COUNTY: 804-293-5211 703-549-8262
38997 East Colonial Highway 93 Front Street 7901 Richmond Highway
Hamilton, Virginia 20158 Lovingston, Virginia 22949 Alexandria, Virginia 22308
540-338-3600 804-263-4806 703-780-4095
101 Catoctin Circle, SE 350 Valley Street 7027A Manchester Boulevard
Leesburg, Virginia 20175 Scottsville, Virginia 24590 Alexandria, Virginia 22310
703-771-7202 804-286-2805 703-922-8001
7 West Market Street 4115 Annandale Road
Leesburg, Virginia 20176 F&M BANK-EMPORIA Annandale, Virginia 22003
703-771-7245 703-642-9212
10 West Market Street 401 Halifax Street 14260 J Centreville Square
Leesburg, Virginia 20176 Emporia, Virginia 23847 Centreville, Virginia 20120
703-771-7282 804-634-6555 703-359-9387
7 Broad Way 301 West Atlantic Street 5105 Westfields Boulevard
Lovettsville, Virginia 20180 Emporia, Virginia 23847 Centreville, Virginia 20120
540-822-9034 804-634-8855 703-359-9393
202 West Washington Street 431 South Main Street 13821 Lee Jackson Highway
Middleburg, Virginia 20117 Emporia, Virginia 23847 Chantilly, Virginia 20151
540-687-5731 804-634-8866 703-359-9397
21 Main Street
Round Hill, Virginia 20141
540-338-6065
56
<PAGE>
12220 Fairfax Towne Center 760 Warrenton Road 1504 Tuscawilla Hills
Fairfax, Virginia 22033 Fredericksburg, Virginia 22406 Charles Town, West Virginia 25414
703-359-7556 540-899-3882 304-728-4270
3829 South George Mason Drive Wal-Mart
Falls Church, Virginia 22041 4 Charles Town Plaza
703-671-5862 F&M BANK-RICHMOND Charles Town, West Virginia 25414
133 South Washington Street 304-728-4290
Falls Church, Virginia 22046 9401 West Broad Street Route 51 West
703-352-6194 Richmond, Virginia 23294 Inwood, West Virginia 25428
14091 John Marshall Highway 804-346-8080 304-229-5824
Gainesville, Virginia 20155 6980 Forest Hill Avenue Route 28 and Carroll Lane
703-754-8520 Richmond, Virginia 23225 Fort Ashby, West Virginia 26719
230 Herndon Parkway 804-272-5337 304-298-3667
Herndon, Virginia 20170 209 West Franklin Street Florida & Southern Drive
703-435-1000 Richmond, Virginia 23220 Keyser, West Virginia 26726
12493 Dillingham Square 804-780-0122 304-788-0883
Lake Ridge, Virginia 22192 5756 Hopkins Road 87 North Main Street
703-590-8700 Richmond, Virginia 23234 Keyser, West Virginia 26726
9201 Church Street 804-271-5013 304-788-3111
Manassas, Virginia 20110 4851 South Laburnm Avenue Wal-Mart
703-368-1101 Richmond, Virginia 23231 Route 220 South
13414 Dumfries Road 804-236-9142 Keyser, West Virginia 26726
Manassas, Virginia 20112 5001 Lakeside Avenue 304-788-9010
703-791-2265 Richmond, Virginia 23228 301 W. Burke Street
7900 Sudley Road 804-264-2783 Martinsburg, West Virginia 25401
Manassas, Virginia 20110 9960 Midlothian Turnpike 304-264-5000
703-392-0370 Richmond, Virginia 23235 1321 Edwin Miller Boulevard
6257A Old Dominion Drive 804-320-6610 Martinsburg, West Virginia 25401
McLean, Virginia 22101 11450 Midlothian Turnpike 304-264-5040
703-691-7897 Richmond, Virginia 23235 704 Foxcroft Avenue, North
25393 Elk Lick Road 804-271-5033 Martinsburg, West Virginia 25401
South Riding, Virginia 20152 1300 East Parham Road 304-262-6301
703-327-0226 Richmond, Virginia 23227 Wall-Mart
7830 Backlick Road 804-264-2824 800 Foxcroft Avenue
Springfield, Virginia 22150 1776 Staples Mill Road Martinsburg, West Virginia 25401
703-913-0102 Richmond, Virginia 23230 304-267-9000
6810 Commerce Street 804-355-7841
Springfield, Virginia 22150 9012 Three Chopt Road F&M BANK-ALLEGIANCE
703-451-8100 Richmond, Virginia 23229 4719 Hampden Lane
8432 Old Keene Mill Road 804-282-7527 Bethesda, Maryland 20814
Springfield, Virginia 22152 4310 West Hundred Road 301-656-5300
703-451-0074 Chester, Virginia 23831 10533 Baltimore Boulevard
440 Maple Avenue East 804-748-2735 Beltsville, Maryland 20705
Vienna, Virginia 22180 9970 Ironbridge Road 301-937-9766
703-319-0299 Chesterfield, Virginia 23832 8019 Snouffer School Road
8221 Old Courthouse Road 804-271-5015 Gaithersburg, Maryland 20879
Vienna, Virginia 22182 11010 Hull Street Road 301-417-2640
703-359-9390 Midlothian, Virginia 23112 8401 Corporate Drive
14229 Potomac Mills Road 804-271-5025 Landover, Maryland 20785
Woodbridge, Virginia 22192 301-731-1700
703-497-2333 17650 Midlothian Turnpike 9401 Key West Avenue
Midlothian, Virginia 23113 Rockville, Maryland 20850
804-897-7187 301-417-0422
F&M BANK-PEOPLES 11921 Rockville Pike
F&M BANK-WEST VIRGINIA Rockville, Maryland 20852
21 Main Street 301-424-3550
Warrenton, Virginia 20186 301 South Mildred Street 99 South Washington Street
540-347-1711 Ranson, West Virginia 25438 Rockville, Maryland 20850
251 West Lee Highway 304-728-4200 301-217-9494
Warrenton, Virginia 20186 Hilldale Shopping Center 8602 Colesville Road
540-349-3491 Route 340 South Silver Spring, Maryland 20910
8318 East Main Street Charles Town, West Virginia 25414 301-588-9700
Marshall, Virginia 20115 304-728-0216
540-364-1511 Somerset Village Shopping Center
Route 340 North
Charles Town, West Virginia 25414
304-728-4250
57
<PAGE>
2729 University Boulevard, West APPLE TITLE COMPANY
Wheaton, Maryland 20902 12 Rouss Avenue
301-949-2440 Winchester, Virginia 22601
540-665-4233
F&M TRUST COMPANY
38 Rouss Avenue WINCHESTER CREDIT CORPORATION
Winchester, Virginia 22601 12 Rouss Avenue
540-665-4204 Winchester, Virginia 22601
21 Main Street 540-338-2962
Warrenton, Virginia 20186
540-349-3474
4117 Chain Bridge Road F&M SERVICES, INCORPORATED
Fairfax, Virginia 22030 (A data processing company)
703-383-1347 9 Court Square
Winchester, Virginia 22601
F&M-SHOMO AND LINEWEAVER INSURANCE
AGENCY INCORPORATED
F&M FINANCIAL SERVICES CORPORATION
328 South Main Street
Harrisonburg, Virginia 22801
540-434-1301
2 East Wolfe Street
Harrisonburg, Virginia 22801
57 East Main Street
Luray, Virginia, 22835
F&M-J.V. ARTHUR, INCORPORATED
1104 Amherst Street
Winchester, Virginia 22601
540-662-3865
12 Rouss Avenue
Winchester, Virginia 22601
540-665-4385
821-S South King Street
Leesburg, Virginia 20175
703-777-9455
F&M MORTGAGE SERVICES, INCORPORATED
124 West Piccadilly Street
Winchester, Virginia 22601
540-665-4340
1855 East Market Street
Harrisonburg, Virginia 22801
540-434-6761
5180 Main Street
Mount Jackson, Virginia 22842
540-477-2931
22550 Davis Drive
Sterling, Virginia 20164
703-733-0123
1321 Edwin Miller Boulevard
Martinsburg, West Virginia 25401
304-263-7334
</TABLE>
58
<PAGE>
F&M NATIONAL CORPORATION
CORPORATE PROFILE
F&M National Corporation is a bank holding company registered under the
Bank Holding Company Act of 1956, as amended. It was incorporated under the laws
of Virginia on November 26, 1968, and commenced business on December 31, 1969.
The Corporation, headquartered in Winchester, Virginia, was organized primarily
as a financial holding company which operates through subsidiary organizations
or establishments which are engaged in banking and in bank and finance related
businesses.
The Corporation has nine commercial banks, seven located in Virginia, one
located in West Virginia and one in Maryland. Each of these financial
institutions is operated independently which is contrary to the way most bank
holding companies operate. By operating as independent units, they can be more
responsive to their customers' needs since they can make their own decisions on
the local level and they can be better attuned to the needs of the communities
they serve. And yet, though they operate independently, they have the financial
backing and strength of the F&M National Corporation's $2.9 billion in assets.
The combination of the affiliates' independence and the corporation's financial
strength makes F&M National Corporation a truly unique and outstanding financial
institution.
F&M National Corporation also has seven indirect subsidiaries: Apple Title
Company, F&M Mortgage Services, Incorporated, Winchester Credit Corporation,
F&M-Shomo & Lineweaver and F&M - J.V. Arthur Insurance Agencies, F&M Trust
Company and F&M Services Incorporated, a data processing company.
59
<PAGE>
GENERAL INFORMATION
ANNUAL MEETING
The annual meeting of shareholders will be held at the TraveLodge Banquet
Room, 1825 Dominion Avenue, Winchester, Virginia, Tuesday, April 27, at 10:00
a.m.
STOCK TRANSFER AGENT
American Stock Transfer and Trust Company
46th Floor
40 Wall Street
New York, New York 10005
F&M National Corporation Common Stock is traded on the New York Stock
Exchange under the symbol FMN.
INFORMATION
For additional information, contact Alfred B. Whitt, President, or Michael
L. Bryan, Secretary, F&M National Corporation, 540-665-4200.
A COPY OF THE CORPORATION'S FORM 10-K ANNUAL REPORT TO THE SECURITIES AND
EXCHANGE COMMISSION MAY BE OBTAINED WITHOUT CHARGE UPON WRITTEN REQUEST TO
ALFRED B. WHITT, F&M NATIONAL CORPORATION.
MAILING ADDRESS
F&M National Corporation
P.O. Box 2800
Winchester, Virginia 22604
60
<PAGE>
TABLE OF CONTENTS
Selected Financial Data............................ 1
To Our Owners, Customers,
Neighbors and Other Friends...................... 2
1998 Highlights.................................... 4
Management's Discussion and
Analysis of Financial Condition
and Results of Operations........................ 6
Financial Statements.............................. 27
Notes to Financial Statements..................... 31
Independent Auditor's Report...................... 49
F&m Trust Company................................. 50
Corporate Directors and
Officers........................................ 51
Directors and Officers of Affiliates.............. 52
Office Locations.................................. 56
Corporate Profile................................. 59
General Information............................... 60
<PAGE>
[F&M LOGO APPEARS HERE]
F&M CORPORATE HEADQUARTERS
9 Court Square / Winchester, VA
EXHIBIT 21
SUBSIDIARIES OF REGISTRANT.
The subsidiaries of the Company as of December 31, 1998, and the state in which
each was organized are as scheduled below:
<TABLE>
<CAPTION>
State or
Jurisdiction
Under Laws of Name Under Which
Name of Subsidiaries Which Organized Subsidiaries Do Business
- -------------------- --------------- ------------------------
<S> <C> <C>
F&M Bank-Winchester (2) Virginia F&M Bank-Winchester
F&M Mortgage Services, Inc.(1) Virginia F&M Mortgage Services, Inc.
Winchester Credit Corporation(1) Virginia Winchester Credit Corporation
Apple Title Company(1) Virginia Apple Title Company
F&M/Shomo & Lineweaver F&M/Shomo & Lineweaver
Insurance, Inc.(1) Virginia Insurance
J. V. Arthur, Inc. (1) Virginia J. V. Arthur, Inc.
F&M Financial Services, Inc.(1) Virginia F&M Financial Services
F&M Bank-Central Virginia Virginia F&M Bank-Central Virginia
F&M Bank-Massanutten Virginia F&M Bank-Massanutten
F&M Bank-Richmond Virginia F&M Bank-Richmond
F&M Bank-West Virginia, Inc. West Virginia F&M Bank-West Virginia
F&M Bank-Emporia Virginia F&M Bank-Emporia
F&M Bank-Peoples Virginia F&M Bank-Peoples
F&M Bank-Northern Virginia Virginia F&M Bank-Northern Virginia
F&M Bank-Allegiance, Inc. Maryland F&M Bank-Allegiance
F&M Trust Company Virginia F&M Trust Company
F&M Services, Inc. Virginia F&M Services, Inc.
- ------------------------
</TABLE>
(1) Winchester Credit Corporation, F&M Mortgage Services, Inc., Apple Title
Company, F&M/Shomo & Lineweaver Insurance, Inc., J. V. Arthur, Inc., and F&M
Financial Services, Inc., are wholly-owned subsidiaries of F&M Bank-Winchester.
Credit Bureau of Winchester is a wholly-owned subsidiary of Winchester Credit
Corporation. All other bank subsidiaries are wholly-owned by F&M National
Corporation.
(2) Credit Bureau of Winchester, Inc. was closed as of December 1,
1998.
EXHIBIT 23
CONSENT OF CERTIFIED PUBLIC ACCOUNTANTS
We hereby consent to the use of our report dated January 27, 1999 in this Annual
Report on Form 10-K relating to the Consolidated Financial Statements of F&M
National Corporation and Subsidiaries, appearing under Item 8, Financial
Statements and Supplementary Data, including, without limitation, the
incorporation by reference in the Prospectuses constituting part of the
Registration Statements on Form S-8 (#333-63111) and Form S-8 (#333-63113) of
F&M National Corporation.
YOUNT, HYDE & BARBOUR, P.C.
March 22, 1999
Winchester, Virginia
<TABLE> <S> <C>
<ARTICLE> 9
<MULTIPLIER> 1,000
<S> <C>
<PERIOD-TYPE> 12-MOS
<FISCAL-YEAR-END> DEC-31-1998
<PERIOD-END> DEC-31-1998
<CASH> 160,839
<INT-BEARING-DEPOSITS> 38,820
<FED-FUNDS-SOLD> 109,930
<TRADING-ASSETS> 0
<INVESTMENTS-HELD-FOR-SALE> 372,481
<INVESTMENTS-CARRYING> 399,208
<INVESTMENTS-MARKET> 404,793
<LOANS> 1,693,042
<ALLOWANCE> 21,936
<TOTAL-ASSETS> 2,888,714
<DEPOSITS> 2,436,022
<SHORT-TERM> 120,247
<LIABILITIES-OTHER> 24,282
<LONG-TERM> 21,058
0
0
<COMMON> 43,743
<OTHER-SE> 243,362
<TOTAL-LIABILITIES-AND-EQUITY> 2,888,714
<INTEREST-LOAN> 148,127
<INTEREST-INVEST> 43,039
<INTEREST-OTHER> 7,641
<INTEREST-TOTAL> 198,807
<INTEREST-DEPOSIT> 76,904
<INTEREST-EXPENSE> 4,928
<INTEREST-INCOME-NET> 116,975
<LOAN-LOSSES> 4,963
<SECURITIES-GAINS> 2,428
<EXPENSE-OTHER> 95,107
<INCOME-PRETAX> 55,542
<INCOME-PRE-EXTRAORDINARY> 55,542
<EXTRAORDINARY> 0
<CHANGES> 0
<NET-INCOME> 36,485
<EPS-PRIMARY> 1.67
<EPS-DILUTED> 1.65
<YIELD-ACTUAL> 4.71
<LOANS-NON> 10,907
<LOANS-PAST> 1,990
<LOANS-TROUBLED> 625
<LOANS-PROBLEM> 14,543
<ALLOWANCE-OPEN> 21,690
<CHARGE-OFFS> 5,471
<RECOVERIES> 754
<ALLOWANCE-CLOSE> 21,936
<ALLOWANCE-DOMESTIC> 21,936
<ALLOWANCE-FOREIGN> 0
<ALLOWANCE-UNALLOCATED> 0
</TABLE>
