UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D. C. 20549
FORM 10-QSB
Quarterly Report Under Section 13 or 15(d)
of the Securities Exchange Act of 1934
For the quarter ended Commission File No. 0-16761
September 30, 1996
HIGHLANDS BANKSHARES, INC.
West Virginia 55-0650793
(State or Other Jurisdiction of (I.R.S. Employer
Incorporation or Organization) Identification No.)
P. O. Box 929
Petersburg, West Virginia 26847
(304) 257-4111
(Registrant's Telephone Number, Including Area Code)
Indicate by check mark whether the registrant (1) filed all reports
required to be filed by Section 13 or 15(d) of the Securities Exchange Act
of 1934 during the past 12 months (or for such shorter period that the
registrant was required to file such reports), and (2) has been subject to
such filing requirement for the past 90 days. Yes ..X. No ....
State the number of shares outstanding of each of the issuer's classes
of common equity, as of the latest practicable date.
Class Outstanding at September 30, 1996
Common Stock, par value - $5 514,066 shares
HIGHLANDS BANKSHARES, INC.
INDEX
Page
PART I FINANCIAL INFORMATION 2
Item 1. Financial Statements
Consolidated Statements of Income - Nine Months Ended
September 30, 1996 and 1995 2
Consolidated Statements of Income - Three Months Ended
September 30, 1996 and 1995 3
Consolidated Balance Sheets - September 30, 1996 and
December 31, 1995 4
Consolidated Statements of Cash Flows - Nine Months Ended
September 30, 1996 and 1995 5
Consolidated Statements of Changes in Stockholders' Equity -
Nine Months Ended September 30, 1996 and 1995 6
Notes to Consolidated Financial Statements 7
Item 2. Management's Discussion and Analysis of
Financial Condition and Results of Operations 9
PART II OTHER INFORMATION 19
Item 1. Legal Proceedings 19
Item 2. Changes in Securities 19
Item 3. Defaults upon Senior Securities 19
Item 4. Submission of Matters to a Vote of Security Holders 19
Item 5. Other Information 19
Item 6. Exhibit and Reports on Form 8K 19
SIGNATURES 21
<PAGE> 2
Part I Financial Information
Item 1 Financial Statements
HIGHLANDS BANKSHARES, INC.
CONSOLIDATED STATEMENTS OF INCOME
(In Thousands of Dollars)
Nine Months Ended
September 30,
1996 1995
Interest Income
Interest and fees on loans $ 8,240 $ 7,446
Interest on federal funds sold 234 264
Interest on time deposits 38 19
Interest and dividends on investment securities
Taxable 1,856 1,509
Nontaxable 170 139
Total Interest Income 10,538 9,377
Interest Expense
Interest on time deposits over $100,000 905 711
Interest on other deposits 4,397 3,806
Total Interest on Deposits 5,302 4,517
Interest on borrowed money 6
Total Interest Expense 5,308 4,517
Net Interest Income 5,230 4,860
Provision for Loan Losses 105 90
Net Interest Income after Loan Losses 5,125 4,770
Noninterest Income
Service charges 174 149
Other 272 263
Investment security losses (2) (8)
Total Noninterest Income 444 404
Noninterest Expense
Salaries and employee benefits 1,829 1,636
Occupancy expense 189 135
Equipment expense 261 139
Data processing expense 286 273
FDIC expense 4 146
Other 761 709
Total Noninterest Expense 3,330 3,038
Income before Income Taxes 2,239 2,136
Provision for Income Taxes 696 722
Net Income $ 1,543 $ 1,414
Per Share Data
Net Income $ 3.00 $ 2.75
Cash Dividends $ .54 $ .48
Weighted Average Common Shares Outstanding 514,066 514,066
The accompanying notes are an integral part of these statements.
<PAGE> 3
HIGHLANDS BANKSHARES, INC.
CONSOLIDATED STATEMENTS OF INCOME
(In Thousands of Dollars)
Three Months Ended
September 30,
1996 1995
Interest Income
Interest and fees on loans $ 2,817 $ 2,606
Interest on federal funds sold 58 93
Interest on time deposits 12 5
Interest and dividends on investment securities
Taxable 668 512
Nontaxable 56 45
Total Interest Income 3,611 3,261
Interest Expense
Interest on time deposits over $100,000 318 274
Interest on other deposits 1,472 1,383
Total Interest on Deposits 1,790 1,657
Interest on borrowed money 2
Total Interest Expense 1,792 1,657
Net Interest Income 1,819 1,604
Provision for Loan Losses 45 30
Net Interest Income after Loan Losses 1,774 1,574
Noninterest Income
Service charges 66 50
Other income 95 74
Investment security gains (losses) 6 (5)
Total Noninterest Income 167 119
Noninterest Expense
Salaries and employee benefits 623 553
Occupancy expense 83 40
Equipment expense 125 55
Data processing 98 93
FDIC expense (refund) 1 (8)
Other 264 247
Total Noninterest Expense 1,194 980
Income before Income Taxes 747 713
Provision for Income Taxes 214 248
Net Income $ 533 $ 465
Per Share Data
Net Income $ 1.04 $ .90
Cash Dividends $ .18 $ .16
Weighted Average Common Shares Outstanding 514,066 514,066
The accompanying notes are an integral part of these statements.
<PAGE> 4
HIGHLANDS BANKSHARES, INC.
CONSOLIDATED BALANCE SHEETS
(In Thousands of Dollars)
September 30, December 31,
1996 1995
ASSETS
Cash and due from banks $ 3,393 $ 3,287
Federal funds sold 3,593 6,016
Time deposits in other banks 929 995
Securities held to maturity (note 2) 10,038 9,807
Securities available for sale (note 3) 34,213 29,040
Other investments 639 552
Loans, net of unearned interest (note 4) 119,936 113,935
Less allowance for loan losses (note 5) (1,265) (1,319)
Net Loans 118,671 112,616
Bank premises and equipment 3,487 3,338
Construction in progress 280
Interest receivable 1,478 1,303
Deferred income tax benefit 420 242
Other assets 535 688
Total Assets $ 177,676 $ 167,884
LIABILITIES
Deposits:
Noninterest bearing
Demand deposits $ 15,396 $ 14,134
Interest bearing
Money market and checking 14,690 14,819
Money market savings 12,584 14,578
Savings 17,894 16,989
Time deposits over $100,000 20,609 15,841
All other time deposits 75,102 71,352
Total Deposits 156,275 147,713
Borrowed money 146 157
Accrued expenses and other liabilities 1,430 1,152
Total Liabilities 157,851 149,022
STOCKHOLDERS' EQUITY
Common stock ($5 par value, 1,000,000 shares
authorized, 546,764 shares issued) 2,734 2,734
Surplus 1,662 1,662
Retained earnings 16,214 14,949
Net unrealized gain (loss) on securities
available for sale (291) 11
20,319 19,356
Treasury stock (at cost, 32,698 shares) (494) (494)
Total Stockholders' Equity 19,825 18,862
Total Liabilities and Stockholders' Equity $ 177,676 $ 167,884
The accompanying notes are an integral part of these statements.
<PAGE> 5
HIGHLANDS BANKSHARES, INC.
CONSOLIDATED STATEMENTS OF CASH FLOWS
(In Thousands of Dollars)
Nine Months Ended
September 30,
1996 1995
Cash Flows from Operating Activities:
Net income $ 1,543 $ 1,414
Adjustments to reconcile net income to net
cash provided by operating activities:
Investment securities losses 2 8
Depreciation 166 115
Net amortization 65 135
Provision for loan losses 105 90
Increase in interest receivable (175) (34)
Decrease in other assets 136 54
Increase in accrued expenses 278 266
Net Cash Provided by Operating Activities 2,120 2,048
Cash Flows from Investing Activities:
Proceeds from sale of securities
available for sale 1,260
Proceeds from maturities of securities
available for sale 10,479 10,375
Proceeds from maturities of securities
held to maturity 1,977 886
Net change in time deposits in other banks 73 (100)
Purchase of securities available for sale (19,124) (8,435)
Purchase of securities held to maturity (620) (1,502)
Net change in loans to customers (6,160) (8,051)
Net change in federal funds sold 2,423 (915)
Purchase of property and equipment (315) (279)
Construction in progress payments (280) (1,487)
Net Cash Consumed by Investing Activities (10,287) (9,508)
Cash Flows from Financing Activities:
Net increase in deposits 8,562 7,582
Other borrowed money (11) 160
Payment of dividends (278) (248)
Net Cash Provided by Financing Activities 8,273 7,494
Net Increase in Cash and Cash Equivalents 106 34
Cash and Cash Equivalents, Beginning of Period 3,287 3,327
Cash and Cash Equivalents, End of Period $ 3,393 $ 3,361
Supplementary Disclosures:
Cash paid for:
Income taxes $ 698 $ 760
Interest expense 5,277 4,330
The accompanying notes are an integral part of these statements.
<PAGE> 6
HIGHLANDS BANKSHARES, INC.
CONSOLIDATED STATEMENTS OF CHANGES IN STOCKHOLDERS' EQUITY
(In Thousands of Dollars)
Nine Months Ended
September 30,
1996 1995
Balance, beginning of period $ 18,862 $ 16,776
Net income for period 1,543 1,414
Cash dividends (278) (248)
Change in unrealized gain (loss) on securities
available for sale (302) 577
Balance, end of period $ 19,825 $ 18,519
The accompanying notes are an integral part of these statements.
<PAGE> 7
HIGHLANDS BANKSHARES, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE 1 ACCOUNTING PRINCIPLES:
The consolidated financial statements conform to generally
accepted accounting principles and to general industry
practices. In the opinion of management, the accompanying
unaudited consolidated financial statements contain all
adjustments (consisting of only normal recurring accruals)
necessary to present fairly the financial position as of
September 30, 1996, and the results of operations for the nine
and three month periods ended September 30, 1996 and 1995. The
notes included herein should be read in conjunction with the
notes to financial statements included in the 1995 annual report
to stockholders of Highlands Bankshares, Inc.
NOTE 2 SECURITIES HELD TO MATURITY:
The amortized cost and market value of securities held to
maturity as of September 30, 1996 and December 31, 1995, are as
follows:
1996 1995
Amortized Market Amortized Market
Cost Value Cost Value
US Treasury securities
and obligations of
US Government
corporations
and agencies $ 5,818 $ 5,832 $ 5,743 $ 5,836
Obligations of states
and political
subdivisions 4,220 4,202 4,064 4,144
Total $10,038 $10,034 $ 9,807 $ 9,980
NOTE 3 SECURITIES AVAILABLE FOR SALE:
The amortized cost and market value of securities available for
sale as of September 30, 1996 and December 31, 1995, are as
follows:
1996 1995
Amortized Market Amortized Market
Cost Value Cost Value
US Treasury securities
and obligations
of US Government
corporations and
agencies $33,268 $33,047 $27,405 $27,633
Obligations of states
and political
subdivisions 200 200
Other investments 1,408 1,166 1,417 1,207
Total $34,676 $34,213 $29,022 $29,040
<PAGE> 8
HIGHLANDS BANKSHARES, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE 4 LOANS OUTSTANDING:
A summary of loans outstanding as of September 30, 1996 and
December 31, 1995, is as follows:
1996 1995
Commercial $ 23,104 $ 20,749
Real estate - construction 1,769 2,622
- mortgages 68,533 65,971
Consumer installment 28,721 26,740
Total 122,127 116,082
Unearned interest (2,191) (2,147)
Net loans outstanding $ 119,936 $ 113,935
NOTE 5 ALLOWANCE FOR LOAN LOSSES:
A summary of transactions in the allowance for loan losses
for the nine months ended September 30, 1996 and 1995, follows:
1996 1995
Balance, beginning of period $ 1,319 $ 1,454
Provisions charged to operating expenses 105 90
Loan recoveries 101 104
Loan charge-offs (260) (301)
Balance, end of period $ 1,265 $ 1,347
<PAGE> 9
Item 2. Management's Discussion and Analysis of Financial Condition and
Results of Operations
Overview
Year to Date Operations
The Company's nine month income of $1,543,000 represents a 9.12%
increase in total earnings and earnings per share compared to 1995
operations. Earnings represented an annualized return on equity of 10.64%
for the first nine months of 1996 compared to 10.68% for the same period in
1995. The annualized return on average assets was 1.19% in the first nine
months of 1996 compared with 1.20% in the first nine months of 1995.
The tax equivalent net interest income increased by $390,000 in 1996
to $5,322,000. A 9.67% increase in the level of net earning assets and a
stable spread in the returns on earning assets and rates paid on deposits
were responsible for the increase. The higher level of earning assets was
funded primarily by increases in the level of time deposits.
The provision for loan losses increased from $90,000 to $105,000 due
primarily to increases in the level of loans outstanding. Noninterest
income increased 9.90% due primarily to increases in service charges.
Noninterest expenses increased 9.61% due primarily to increases in
personnel and occupancy expenses. Income taxes declined as a result of
state income tax refunds received in the third quarter of 1996 for the
years of 1992 to 1995. The refunds were the result of corrections of the
amounts excludable by the state of West Virginia and totaled $45,000.
Quarter Ending September 30 Operations
Net income for the quarter ending September 30, 1996 increased 14.62%
when compared to the prior year operations. Increases in the net interest
margin after credit losses totaled 12.71% for 1996 while other income
increased 40.34% from the prior year. Offsetting these earnings increases
were increases in noninterest expenses of 21.84%. These increases reflect
a charge to operations in the third quarter of 1996 of $75,000 for losses
as the result of Hurricane Fran. Also the third quarter reflects a refund
of state income and franchise taxes resulting from corrections of previous
filings.
Net Interest Income
Year to Date Operations
The Company's net interest income on a tax equivalent basis was 4.28%
($5,322,000) in the first nine months of 1996 compared to 4.35%
($4,932,000) in the first nine months of 1995. The moderate increase was
the result of a 9.67% increase in average earning assets and a relatively
stable interest spread. Increased yields from loans of all types and a
7.15% increase in the level of average loans outstanding were responsible
for the increase in income on loans. Rising market yields and a 17.65%
increase in average taxable investments were responsible for the increased
income on investments. Demand deposit and savings rates declined two basis
points while the level of these deposits remained stable in the first nine
months of the year. A 14.90% increase in the level of time deposits and a
.50% increase in the rate paid on these deposits were responsible for an
overall 25.26% increase in interest expense on time deposits in the first
nine months of 1996.
<PAGE> 10
Item 2 Management's Discussion and Analysis of Financial Condition and
Results of Operations (Continued)
Net Interest Income
Year to Date Operations (Continued)
The third quarter net interest margin improved slightly over the first
two quarters of the year. This combination of rate and volume increases
has provided the largest net interest income contribution in Company
history. Management believes that a slight reduction in the cost of
deposits and stable returns on earning assets should be seen in the next
twelve months and this should allow for continued improvement in the net
interest margins. The Company has traditionally paid a slightly higher
rate on deposits than larger money center banks as a means of maintaining
its core deposits. Should the Federal Reserve Bank take actions to raise
interest rates in late 1996 or early 1997, management believes its
asset/liability management policies are flexible enough to maintain an
acceptable net interest margin during such periods.
Quarter Ending September 30 Operations
The Company's net interest income on a tax equivalent basis was 4.38%
($1,850,000) for the quarter ending September 30, 1996 compared to 4.22%
($1,628,000) for the same period in 1995. Increased income from loans was
the result of increases in both volume and yields as market rates rose in
early 1996. Increases in investment yields also contributed to an overall
increase in the yield on earning assets. Interest rates paid on savings
and demand deposits declined modestly while rates paid on time deposits was
virtually unchanged. Assuming no dramatic changes in the Federal Reserve
Bank's targets for interest rates, management believes it will maintain or
increase the present level of the net interest margin into the foreseeable
future.
A complete yield analysis is shown as Table I on page 17.
Noninterest Income
Year to Date Operations
Noninterest income increased 9.90% on the strength of higher service
charges on deposit accounts (an increase of 16.78% in income) and greater
other fee income (an increase of 3.42%). The increase in service charges
is the result of a rate change at one of the subsidiary institutions while
the growth in assets is responsible for the increase in other income.
Losses on the sale of securities was insignificant in both periods.
Quarter Ending September 30 Operations
Noninterest income increased 40.34% in 1996 as a result of higher
service charge income, higher fees for other services and a small gain
instead of a small loss on the sale of securities. Noninterest income has
traditionally not been a major source of revenue for the Company but has
been increasing lately with asset growth and changes in the rates charged
for services.
<PAGE> 11
Item 2 Management's Discussion and Analysis of Financial Condition and
Results of Operations (Continued)
Noninterest Expenses
Year to Date Operations
Overall, noninterest expenses rose 9.61% for the first nine months of
1996 when compared to the same period of 1995. Personnel expenses
increased 11.80% due to merit and inflationary raises. Equipment, occupancy
and data processing expenses increased 34.55% during the nine month period.
Two significant occurrences affected the comparability of 1996 and 1995.
In 1995, it was determined that the Company had paid for duplicate billings
of $28,000 for certain equipment maintenance contracts and the refund of
this overbilling reduced expenses in 1995 by this amount. In September of
1996, the Company's Moorefield facilities were flooded as a result of
Hurricane Fran and this resulted in uninsured losses totaling $75,000.
Excluding these two unusual items, facility expenses increased by 14.96% as
a result of new operating facilities and general asset growth. The FDIC
insurance expense declined by 97.26% as the insurance fund reduced the cost
of insurance coverage to virtually zero as of June 1, 1995. Other
noninterest expenses increased by 7.33% as a result of overall asset growth
and expanded customer services. Exclusive of nonrecurring items cited
above, noninterest expenses rose 11.34% in 1996 compared to 1995.
Management views these increases as acceptable in light of a 9.67% increase
in average earning assets and the costs of expanding and modernizing its
facilities in Petersburg and Moorefield.
Quarter Ending September 30 Operations
Overall, noninterest expenses increased 21.84% for the quarter ending
September 30, 1996 compared to 1995. Exclusive of the flood losses cited
earlier, noninterest expenses increased 14.18% in 1996 as the result of
higher salaries and benefits, higher occupancy/equipment costs and general
asset growth. Management believes that noninterest costs will continue to
rise in future quarters as two new branches are opened to serve customers
in Keyser and Baker, West Virginia. While these facilities should
contribute to earnings growth in future periods, operating costs for these
new facilities will cause total noninterest expenses to increase in the
near future. Management will accept these higher costs in return for the
long-term growth potential these locations provide.
Income Taxes
Nine Months and Quarter Ended September 30
In the third quarter of 1996, the Company received refunds of a
portion of its state income taxes paid for the years of 1992-95. These
total tax refunds totaled $45,000 and were the result of changes in the
interpretation of the amounts excludable from taxation as defined under
state law. Excluding these refunds which had the effect of reducing the
current income tax expense, the effective tax rate for all periods was
relatively unchanged.
<PAGE> 12
Item 2 Management's Discussion and Analysis of Financial Condition and
Results of Operations (Continued)
Loan Portfolio
The Company is an active residential mortgage and construction lender
and generally extends commercial loans to small and medium sized businesses
within its primary service area. The Company's commercial lending activity
extends across its primary service areas of Grant, Hardy and northern
Pendleton counties. Consistent with its focus on providing community-based
financial services, the Company does not attempt to diversify its loan
portfolio geographically by making significant amounts of loans to
borrowers outside of its primary service area.
The principal economic risk associated with each of the categories of
loans in the Company's portfolio is the creditworthiness of its borrowers.
Within each category, such risk is increased or decreased depending on
prevailing economic conditions. The risk associated with the real estate
mortgage loans and installment loans to individuals varies based upon
employment levels, consumer confidence, fluctuations in value of
residential real estate and other conditions that affect the ability of
consumers to repay indebtedness. The risk associated with commercial,
financial and agricultural loans varies based upon the strength and
activity of the local economies of the Company's market areas. The risk
associated with real estate construction loans varies based upon the supply
of and demand for the type of real estate under construction.
Loans outstanding increased $6,001,000 or 5.27% in the first nine
months in 1996. The majority of this increase has occurred in the third
quarter and reflects strong loan demand throughout the service area.
Except for construction lending, all types of loans showed increases from
the year end. The loan to deposit ratio was 76.75% at September 30, 1996
compared to 77.13% at December 31, 1995. Management believes this current
level of lending activity will result in the greatest amount of earnings
without undue credit risk. Loan demand is expected to remain satisfactory
in the near future as economic conditions in the local area are stable and
there are no reasons to believe there will be any changes in this within
the next twelve month period.
Asset Quality and Risk Elements
Nonperforming loans include nonaccrual loans, loans 90 days or more
past due and restructured loans. Nonaccrual loans are loans on which
interest accruals have been suspended or discontinued permanently.
Restructured loans are loans on which the original interest rate or
repayment terms have been changed due to financial hardship of the
borrower. The loans on nonaccrual status at September 30, 1996, consist of
real estate mortgages. The total of nonaccrual loans was $81,000 at
September 30, 1996 compared to $95,000 at June 30, 1996, March 31, 1996 and
December 31, 1995. Foregone interest on nonaccrual loans was insignificant
in all periods reported.
Real estate acquired through foreclosure was $145,000 at September 30,
1996 compared to $260,000 at December 31, 1995. All foreclosed property
held at September 30, 1996 was in the Company's primary service area. The
Company's practice is to value real estate acquired through foreclosure at
the lower of (i) an independent current appraisal or market analysis less
anticipated costs of disposal, or (ii) the existing loan balance. The
Company is actively marketing all foreclosed real estate and does not
anticipate material write-downs in value before disposition.
<PAGE> 13
Item 2 Management's Discussion and Analysis of Financial Condition and
Results of Operations (Continued)
Asset Quality and Risk Elements (Continued)
An inherent risk in the lending of money is that the borrower will not
be able to repay the loan under the terms of the original agreement. The
allowance for loan losses (see subsequent section) provides for this risk
and is reviewed periodically for adequacy. This review also considers
concentrations of loans in terms of geography, business type or level of
risk. While lending is geographically diversified within the service area,
the Company does have some concentration of loans in the area of
agriculture (primarily poultry farming), timber and related industries.
Management recognizes these concentrations and considers them when
structuring its loan portfolio. As of September 30, 1996, management is
not aware of any significant potential problem loans in which the debtor is
currently meeting their obligations as stated in the loan agreement but
which may change in future periods.
Allowance for Loan Losses
Management evaluates the loan portfolio in light of national and local
economic changes, changes in the nature and value of the portfolio and
industry standards. The Company's loan classification system, which rates
existing loans, provides the basis for adjusting the allowance for loan
losses. Management reviews these classification totals, along with
internally generated loan review reports, past due reports, historical loan
loss experience and individual borrower's financial health to determine the
necessary amount to be provided in the allowance for loan losses.
Management evaluates nonperforming loans relative to their collateral value
and makes the appropriate adjustments to the allowance when needed.
The provision for credit losses and changes in the allowance for
credit losses are shown below (in thousands of dollars).
Quarter Ended Nine Months Ended
September 30, September 30,
1996 1995 1996 1995
Balance, beginning of period $ 1,305 $ 1,445 $ 1,319 $ 1,454
Net charge-offs (recoveries)
Charge-offs 121 156 260 301
Recoveries (36) (28) (101) (104)
Total net charge-offs * 85 128 159 197
Provision for credit losses 45 30 105 90
Balance, End of Period $ 1,265 $ 1,347 $ 1,265 $ 1,347
* Components of net charge-offs:
Rest estate - construction 6 (9) (1) 8
- mortgages 30 20 48
Commercial 39 63 44 96
Installment 40 44 96 45
Total $ 85 $ 128 $ 159 $ 197
<PAGE> 14
Item 2 Management's Discussion and Analysis of Financial Condition and
Results of Operations (Continued)
Allowance for Loan Losses (Continued)
The allowance for credit losses of $1,265,000 at September 30, 1996,
was down $40,000 from its level at June 30, 1996, and down $54,000 from
December 31, 1995 levels. The allowance was equal to 1.05%, 1.14%, and
1.16% of total loans at September 30, 1996, June 30, 1996 and December 31,
1995, respectively. The Company believes that its allowance must be viewed
in its entirety and, therefore, is available for potential credit losses in
its entire portfolio, including loans, credit-related commitments and other
financial instruments. In the opinion of management, the allowance, when
taken as a whole, is adequate to absorb reasonably estimated credit losses
inherent in the Company's portfolio.
On January 1, 1995, the Company adopted SFAS 114, "Accounting by
Creditors for Impairment of a Loan" as amended by SFAS 118, "Accounting by
Creditors for Impairment of a Loan - Income Recognition and Disclosure."
SFAS 114 requires the creation of a valuation allowance for impaired loans.
Under SFAS 114, a loan is impaired when, based on current information and
events, it is probable that a creditor will be unable to collect all
amounts due according to the loan's contractual terms. At September 30,
1996, the Company had only an insignificant amount of loans that would be
considered impaired under SFAS 114.
Securities
The Company's securities portfolio serves numerous purposes. Portions
of the portfolio may secure certain public and trust deposits. The
remaining portions are held as investments or used to assist the Company in
liquidity and asset/liability management. Total securities at September
30, 1996 were $44,890,000 compared to $39,399,000 at December 31, 1995.
Securities as percentage of total assets were 25.27% at September 30, 1996
compared to 23.47% at December 31, 1995. The increase in securities is a
result of good deposit growth and increased yields offered on low risk
investments.
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 the Company has the
ability at the time of purchase to hold the securities to maturity. Held
to maturity securities 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. Changes within the year in market values
are reflected as changes in stockholders' equity, net of the deferred tax
effect. As of September 30, 1996, the cost of the securities available for
sale exceeded their market value by $463,000 ($291,000 after tax
considerations). The Company's recent purchases of all securities have
generally been limited to securities of high credit quality with short to
medium term maturities.
Deposits
The Company's main source of funds remains deposits received from
individuals, governmental entities and businesses located within the
Company's service area. Deposit accounts include demand deposits, savings,
money market and certificates of deposit.
<PAGE> 15
Item 2 Management's Discussion and Analysis of Financial Condition and
Results of Operations (Continued)
Deposits (Continued)
Total deposits increased 5.80% between December 31, 1995 and September
30, 1996, primarily in the area of time deposit accounts. The cost of
funds for the first nine months of 1996 was 5.15% compared to 4.80% for the
same period in 1995. The yields on demand and savings deposits declined
modestly between the periods while yields on time deposits increased by 50
basis points. The majority of the Company's deposits are time deposits
which are attractive to persons seeking high yields on their deposits but
without the need for liquidity. The Company has not actively pursued
deposits in excess of $100,000 due to the volatile nature of these
relationships although it has seen a substantial increase in large
certificates throughout 1996.
Capital
The Company seeks to maintain a strong capital base to expand
facilities, promote public confidence, support current operations and grow
at a manageable level. As of September 30, 1996, the Company's total risk
based capital ratio was 20.55% which is far above the regulatory minimum of
8.0%. The ratio of total capital to total assets was 11.16% at September
30, 1996 which exceeds that of the Company's peers. Earnings have been
satisfactory to allow an increase in dividends in 1996 over those levels
experienced in 1995.
Liquidity
Liquidity is the 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, investments and loans maturing within one year. The Company's
ability to obtain deposits and purchase funds at favorable rates determines
its liquidity exposure. As a result of the Company's management of liquid
assets and the ability to generate liquidity through liability funding,
management believes that the Company maintains overall liquidity sufficient
to satisfy its depositors' requirements and meet its customers' credit
needs.
Additional sources of liquidity available to the Company include, but
are not limited to, loan repayments, the ability to obtain deposits through
the adjustment of interest rates and the purchasing of federal funds. To
further meet its liquidity needs, the Company also maintains lines of
credit with correspondent financial institutions and the Federal Reserve
Bank of Richmond. Both subsidiary banks have lines of credit with the
Federal Home Loan Bank of Pittsburgh although utilization has been
insignificant. In the past, growth in deposits and proceeds from the
maturity of investment securities have been sufficient to fund the net
increase in loans and investment securities.
Interest Rate Sensitivity
In conjunction with maintaining a satisfactory level of liquidity,
management must also control the degree of interest rate risk assumed on
the balance sheet. Managing this risk involves regular monitoring of the
interest sensitive assets relative to interest sensitive liabilities over
specific time intervals.
<PAGE> 16
Item 2 Management's Discussion and Analysis of Financial Condition and
Results of Operations (Continued)
Interest Rate Sensitivity (Continued)
At September 30, 1996 the Company had a negative gap position. This
liability sensitive position typically produces an unfavorable contribution
to earnings during a period of increasing rates. Increases in the volume
of earning assets and an increasing spread on amounts received and charged
have provided an increase in overall interest income for the period.
With the largest amount of interest sensitive assets and liabilities
repricing within three years, the Company monitors these areas very
closely. Early withdrawal of deposits, prepayments of loans and loan
delinquencies are some of the factors that could affect actual versus
expected cash flows. In addition, changes in rates on interest sensitive
assets and liabilities may not be equal, which could result in a change in
net interest margin. While the Company does not match each of its interest
sensitive assets against specific interest sensitive liabilities, it does
monitor closely the maturities of loans, investments and time deposits to
limit interest rate risk and the financial effect of market rate changes.
Effects of Inflation
Inflation significantly affects industries having high proportions of
property, plant and equipment or high levels of inventories. Although the
Company is not significantly affected in these areas, inflation does have
an impact on the growth of assets. As assets grow rapidly, it becomes
necessary to increase equity capital at proportionate levels to maintain
the appropriate equity to asset ratios. Traditionally, the Company's
earnings and high capital retention levels have enabled the Company to meet
these needs.
The Company's reported earnings results have been affected by inflation
but isolating the effect is difficult. The different types of income and
expense are affected in various ways. Interest rates are affected by
inflation, but the timing and magnitude of the changes may not coincide
with changes in the consumer price index. Management actively monitors
interest rate sensitivity, as illustrated by the Gap Analysis (Table II,
page 18) in order to minimize the effects of inflationary trends on
interest rates. Other areas of noninterest expenses may be more directly
affected by inflation.
Securities and Exchange Commission Web Site
The Securities and Exchange Commission maintains a Web site that
contains reports, proxy and information statements and other information
regarding registrants that file electronically with the Commission,
including Highlands Bankshares, Inc., and the address is
(http://www.sec.gov).
<Page 17>
Table I
<TABLE>
HIGHLANDS BANKSHARES, INC.
NET INTEREST MARGIN ANALYSIS
(Dollar Amounts in Thousands)
<CAPTION>
Nine Months Ended Nine Months Ended
September 30, 1996 September 30, 1995
Average Income/ Average Income/
Balance Expense Rates Balance Expense Rates
<S> <C> <C> <C> <C> <C> <C>
Rate Related Income
Loans
Commercial $ 21,843 $ 1,528 9.33% $ 19,385 $ 1,311 9.02%
Consumer 25,503 2,188 11.44% 23,448 1,944 11.05%
Real Estate 67,749 4,524 8.90% 64,577 4,191 8.65%
Total 115,095 8,240 9.54% 107,410 7,446 9.24%
Federal funds sold 5,764 234 5.41% 6,110 264 5.76%
Interest bearing deposits 927 38 5.47% 459 19 5.52%
Investments
Taxable 39,747 1,856 6.23% 33,784 1,509 5.96%
Tax exempt (1) 4,174 262 8.37% 3,337 211 8.43%
Total Earning Assets (1) 165,707 10,630 8.55% 151,100 9,449 8.34%
Interest Expense
Demand deposits 26,764 583 2.90% 27,791 648 3.11%
Savings 17,487 464 3.54% 16,687 472 3.77%
Time deposits 93,102 4,255 6.09% 81,032 3,397 5.59%
Other borrowed money 150 6 5.33%
Total Interest Bearing
Liabilities 137,503 5,308 5.15% 125,510 4,517 4.80%
Net Interest Margin $ 5,322 $ 4,932
Net Yield on Interest
Earning Assets (1) 4.28% 4.35%
(1) Yields are on a taxable equivalent basis using an assumed tax rate of 34%.
</TABLE>
Table I (Continued)
<TABLE>
HIGHLANDS BANKSHARES, INC.
NET INTEREST MARGIN ANALYSIS
(Dollar Amounts in Thousands)
<CAPTION>
Three Months Ended Three Months Ended
September 30, 1996 September 30, 1995
Average Income/ Average Income/
Balance Expense Rates Balance Expense Rates
<S> <C> <C> <C> <C> <C> <C>
Rate Related Income
Loans
Commercial $ 22,399 $ 519 9.27% $ 19,303 $ 451 9.35%
Consumer 26,291 756 11.50% 24,210 680 11.24%
Real Estate 68,857 1,542 8.96% 66,885 1,475 8.82%
Total 117,547 2,817 9.59% 110,398 2,606 9.44%
Federal funds sold 4,008 58 5.79% 6,612 93 5.62%
Interest bearing deposits 907 12 5.29% 491 5 4.07%
Investments
Taxable 42,233 668 6.33% 33,674 512 6.08%
Tax exempt (1) 4,162 87 8.36% 3,181 69 8.67%
Total Earning Assets (1) 168,857 3,642 8.63% 154,356 3,285 8.51%
Interest Expense
Demand deposits 26,174 193 2.95% 26,371 207 3.14%
Savings 17,609 156 3.54% 16,337 158 3.87%
Time deposits 95,744 1,441 6.02% 85,700 1,292 6.03%
Other borrowed money 146 2 5.48%
Total Interest Bearing
Liabilities 139,673 1,792 5.13% 128,408 1,657 5.16%
Net Interest Margin $ 1,850 $ 1,628
Net Yield on Interest
Earning Assets (1) 4.38% 4.22%
(1) Yields are on a taxable equivalent basis using an assumed tax rate of 34%.
</TABLE>
<PAGE> 18
TABLE II
<TABLE>
HIGHLANDS BANKSHARES, INC.
INTEREST RATE SENSITIVITY ANALYSIS
SEPTEMBER 30, 1996
(In Thousands of Dollars)
<CAPTION>
1 - 90 91 - 365 1 to 3 3 to 5 More than
Days Days Years Years 5 Years Total
<S> <C> <C> <C> <C> <C> <C>
EARNINGS ASSETS
Loans $ 15,373 $ 33,616 $ 55,265 $ 10,618 $ 5,064 $119,936
Fed funds sold 3,593 3,593
Securities 4,732 4,805 17,837 8,989 8,527 44,890
Time deposits in
other banks 229 400 300 929
Total 23,927 38,821 73,402 19,607 13,591 169,348
INTEREST BEARING LIABILITIES
Transaction accounts 14,690 14,690
Money market
accounts 12,584 12,584
Savings accounts 17,894 17,894
Time deposits more
than $100,000 2,365 13,967 2,352 1,925 20,609
Time deposits less
than $100,000 13,807 42,720 12,600 5,975 75,102
Other borrowed money 4 13 37 42 50 146
Total 61,344 56,700 14,989 7,942 50 141,025
Discrete interest
sensitivity gap (37,417) (17,879) 58,413 11,665 13,541 28,323
Cumulative interest
sensitivity gap (37,417) (55,296) 3,117 14,782 28,323
Ratio of cumulative
interest sensitive
assets to cumulative
interest sensitive
liabilities 39.00% 53.15% 102.34% 110.49% 120.08%
Assumes all transaction and money market deposit accounts reprice within 90 days.
</TABLE>
<PAGE> 19
Part II Other Information
Item 1. Legal Proceedings - Not Applicable
Item 2. Changes in Securities - Not Applicable
Item 3. Defaults Upon Senior Securities - Not Applicable
Item 4. Submission of Matters to a Vote
of Security Holders - Not Applicable
Item 5. Other Information - Not Applicable
Item 6. Exhibits and Reports on 8-K -
(a) Exhibits
3 (i) Articles of Incorporation of Highlands Bankshares,
Inc. are incorporated by reference to Appendix C to
Highlands Bankshares, Inc.'s Form S-4 filed October
20, 1986.
3 (ii) Bylaws of Highlands Bankshares, Inc. are
incorporated by reference to Appendix D to Highland
Bankshares, Inc.'s Form S-4 filed October 20, 1986.
27 Financial Data Schedule attached
(b) Reports on Form 8-K filed during the nine months ended
September 30, 1996.
None
<PAGE> 20
EXHIBIT INDEX
Exhibit
Index Page Number
27 Financial Data Schedule for the quarter ending
September 30, 1996 22
<PAGE> 21
Signature
Pursuant to the requirements of the Securities Exchange Act of 1934,
the Registrant has duly caused this report to be signed on its behalf by
the undersigned thereunto duly authorized.
HIGHLANDS BANKSHARES, INC.
LESLIE A. BARR
Leslie A. Barr
President
CLARENCE. E. PORTER
C. E. Porter
Secretary/Treasurer
Date November 8, 1996
<TABLE> <S> <C>
<ARTICLE> 9
<LEGEND>
This schedule contains summary financial information extracted from Highlands
Bankshares, Inc. Form 10QSB and is qualified in its entirety by reference to
such financial statements.
</LEGEND>
<MULTIPLIER> 1,000
<S> <C>
<PERIOD-TYPE> 9-MOS
<FISCAL-YEAR-END> DEC-31-1996
<PERIOD-END> SEP-30-1996
<CASH> 3,393
<INT-BEARING-DEPOSITS> 929
<FED-FUNDS-SOLD> 3,593
<TRADING-ASSETS> 0
<INVESTMENTS-HELD-FOR-SALE> 34,213
<INVESTMENTS-CARRYING> 10,038
<INVESTMENTS-MARKET> 10,034
<LOANS> 119,936
<ALLOWANCE> (1,265)
<TOTAL-ASSETS> 177,676
<DEPOSITS> 156,275
<SHORT-TERM> 91
<LIABILITIES-OTHER> 1,430
<LONG-TERM> 146
0
0
<COMMON> 2,734
<OTHER-SE> 17,091
<TOTAL-LIABILITIES-AND-EQUITY> 177,676
<INTEREST-LOAN> 8,240
<INTEREST-INVEST> 2,026
<INTEREST-OTHER> 272
<INTEREST-TOTAL> 10,538
<INTEREST-DEPOSIT> 5,302
<INTEREST-EXPENSE> 5,308
<INTEREST-INCOME-NET> 5,230
<LOAN-LOSSES> 105
<SECURITIES-GAINS> (2)
<EXPENSE-OTHER> 3,330
<INCOME-PRETAX> 2,239
<INCOME-PRE-EXTRAORDINARY> 1,543
<EXTRAORDINARY> 0
<CHANGES> 0
<NET-INCOME> 1,543
<EPS-PRIMARY> 3.00
<EPS-DILUTED> 3.00
<YIELD-ACTUAL> 4.28
<LOANS-NON> 81
<LOANS-PAST> 598
<LOANS-TROUBLED> 0
<LOANS-PROBLEM> 0
<ALLOWANCE-OPEN> 1,319
<CHARGE-OFFS> 260
<RECOVERIES> 101
<ALLOWANCE-CLOSE> 1,265
<ALLOWANCE-DOMESTIC> 1,265
<ALLOWANCE-FOREIGN> 0
<ALLOWANCE-UNALLOCATED> 0
</TABLE>
