SECURITIES AND EXCHANGE COMMISSION
Washington, D. C. 20549
FORM 10-KSB
ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
For fiscal year ended December 31, 1996 Commission file number: 0-16761
Highlands Bankshares, Inc.
(Exact name of registrant as specified in its charter)
West Virginia 55-0650743
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification No.)
P. O. Box 929, Petersburg, West Virginia 26847
(Address of principal executive offices) (Zip Code)
Issuer's telephone number including area code: (304) 257-4111
Securities registered pursuant to Section 12(b) of the Act:
None
Securities registered pursuant to Section 12(g) of the Act:
Common Stock - $5 Par
Check whether the issuer (1) filed all reports required to be filed by
Section 13 or 15(d) of the Exchange Act 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 requirements for the past 90 days.
Yes ..X. No ....
Check if there is no disclosure of delinquent filers in response to Item
405 of Regulation S-B contained in this form, and no disclosure will be
contained, to the best of registrant's knowledge, in definitive proxy or
information statements incorporated by reference in Part III of this Form
10-KSB or any amendment to this Form 10-KSB. [X]
Issuer's revenues for its most recent fiscal year: $14,775,000
State the aggregate market value of the voting stock held by non-
affiliates computed by reference to the price at which the stock was sold,
or the average bid and asked prices of such stock, as of a specified date
within the past 60 days: As of March 1, 1997 - most recent bid price $41.00
most recent ask price $44.00
State the number of shares outstanding of each of the issuer's classes
of common equity, as of the latest practicable date: As of March 1, 1997 -
514,066
DOCUMENTS INCORPORATED BY REFERENCE:
Proxy Statement of Highlands Bankshares, Inc. filed via Form DEF 14A on
March 17, 1997.
LOCATION OF EXHIBIT INDEX
The index of exhibits is contained in Part IV herein on page 44.
TRANSITIONAL SMALL BUSINESS DISCLOSURE FORMAT YES NO X
<PAGE> 2
FORM 10-KSB INDEX
Page
Part I
Item 1. Description of Business 3
General
Services Offered by the Banks
Employees
Competition
Regulation and Supervision
Item 2. Description of Properties 4
Item 3. Legal Proceedings 5
Item 4. Results of Votes of Security Holders 5
Part II
Item 5. Market for Registrant's Common Equity and
Related Stockholder Matters 5
Item 6. Management's Discussion and Analysis of Financial
Condition and Results of Operation 6
Item 7. Financial Statements 22
Item 8. Changes in and Disagreement with Accountants on
Accounting and Financial Disclosure 44
Part III
Item 9. Directors and Executive Officers 44
Item 10. Executive Compensation 44
Item 11. Security Ownership of Certain Beneficial
Owners and Management 44
Item 12. Certain Relationships and Related Transactions 44
Part IV
Item 13. Exhibits and Reports on Form 8-K 44
Signatures 46
<PAGE> 3
Part I
Item 1. Description of Business
General
Highlands Bankshares, Inc. (Highlands), incorporated under the laws of
West Virginia in 1985, is a multi-bank holding company subject to the
provisions of the Bank Holding Company Act of 1956, as amended, and owns
100% of the outstanding stock of its subsidiary banks, The Grant County
Bank and Capon Valley Bank (hereinafter referred to as the banks) and its
life insurance subsidiary, HBI Life Insurance Company (HBI Life). Capon
Valley Bank became a member of Highlands effective July 1, 1987, in a
combination accounted for as a pooling of interests.
The Grant County Bank was chartered on May 20, 1902, and Capon Valley
Bank was chartered on July 1, 1918. Both are state banks chartered under
the laws of the State of West Virginia. HBI Life was chartered in April
1988 under the laws of the State of Arizona.
Services Offered by the Banks
The banks offer all services normally offered by a full service
commercial bank, including commercial and individual demand and time
deposit accounts, commercial and individual loans, and drive-in banking
services. No material portion of the banks' deposits have been obtained
from a single or small group of customers and the loss of the deposits of
any one customer or of a small group of customers would not have a material
adverse effect on the business of the banks. Credit life accident and
health insurance are sold to customers of the subsidiary banks through HBI
Life Insurance Company.
Employees
As of December 31, 1996, The Grant County Bank had 44 full time
equivalent employees and Capon Valley Bank had 33 full time equivalent
employees. No person is employed by Highlands or HBI Life on a full time
basis.
Competition
The banks' primary trade area is generally defined as Grant County,
Hardy County, Mineral County and the northern part of Pendleton County.
This area includes the cities of Petersburg, Moorefield and Keyser and
several rural towns. The banks compete with three state chartered banks
and two national banks. No financial institution has been chartered in the
area within the last five years although branches of state and nationally
chartered banks have located in this area within this time period.
Competition for new loans and deposits in the banks' service area is quite
intense and all competition has been forced to pay rates on deposits which
exceed the national averages.
The banks' secondary trade area includes portions of Hampshire County
in West Virginia and Frederick County in Virginia. In addition, the banks
compete with money market mutual funds and investment brokerage firms for
deposits in their service area.
Regulation and Supervision
Highlands is subject to the periodic reporting requirements of the
Securities Exchange Act of 1934. These include, but are not limited to,
the filing of annual, quarterly and other current reports with the
Securities and Exchange Commission.
<PAGE> 4
Regulation and Supervision (Continued)
Highlands, as a bank holding company, is subject to the provisions of
the Bank Holding Company Act of 1956, as amended (the "Act"). It is
registered as such and is supervised by the Federal Reserve Board. The Act
requires Highlands to secure the prior approval of the Federal Reserve
Board before Highlands acquires ownership or control of more than five
percent of the voting shares, or substantially all of the assets of any
institution, including another bank.
As a bank holding company, Highlands is required to file with the
Federal Reserve Board an annual report and such additional information as
it may require pursuant to the Act. The Federal Reserve Board may also
conduct examinations of Highlands and any or all of its subsidiaries.
Under Section 106 of the 1970 Amendments to the Act and the regulations of
the Federal Reserve Board, a bank holding company and its subsidiaries are
prohibited from engaging in certain tie-in arrangements in connection with
an extension of credit, provision of credit, sale, or lease of property or
furnishing of services.
Federal Reserve regulations permit bank holding companies to engage in
nonbanking activities closely related to banking or to managing or
controlling banks. These activities include the making or servicing of
loans, performing certain data processing services, and certain leasing and
insurance agency activities. HBI Life acts as reinsurer of the credit life
insurance coverage sold by the banks to bank customers. Approval of the
Federal Reserve Board is necessary to engage in any of these activities or
to acquire corporations engaging in these activities.
The operations of the banks are subject to federal and state statutes
which apply to state chartered banks. Bank operations are also subject to
the regulations of the Federal Deposit Insurance Corporation (the "FDIC"),
which insures the banks' deposits. In addition, the Capon Valley Bank is a
member of the Federal Reserve Bank System and is subject to the regulations
of the Federal Reserve Bank Board.
The supervisory authorities regularly examine such areas as reserves,
loans, investments, management practices, and other aspects of the banks'
operations. These examinations are designed primarily for the protection
of depositors. In addition to these regular examinations, the banks must
furnish the various regulatory authorities quarterly reports containing a
full and accurate statement of its affairs.
The operations of the insurance subsidiary are subject to the
oversight and review of State of Arizona Department of Insurance.
Item 2. Description of Properties
The Grant County Bank's main office is located on Main Street in
Petersburg, West Virginia. In September 1995, the Bank completed its
modernization of the existing facility which included an additional 6,000
square feet of operating space and new, state-of-the-art drive-up
facilities. An automatic teller machine has been added to allow customers
greater flexibility in their banking transactions. The Bank recently
opened a full service branch in Mineral County to serve the Keyser area.
This facility is owned by the Bank and features state-of-the-art drive-up
facilities and an automatic teller machine. The Bank also has a branch in
Riverton, West Virginia which provides banking services in northwest
Pendleton County. The Riverton branch building has an annual lease while
the main and Keyser office facilities are owned by the Bank.
Capon Valley Bank has its main office in Wardensville, West Virginia
and a branch office located in Moorefield, West Virginia. In April 1995,
Capon completed the expansion of its Moorefield facilities which have
provided for additional drive-up capabilities and additional lobby and
operating areas. Both facilities are owned by the Bank and considered
adequate for current operations.
<PAGE> 5
Item 3. Legal Proceedings
Management is not aware of any material pending or threatened
litigation in which Highlands or its subsidiaries may be involved as a
defendant. In the normal course of business the banks periodically must
initiate suits against borrowers as a final course of action in collecting
past due loans.
Item 4. Results of Votes of Security Holders
Highlands has not submitted any matters to the vote of security
holders for the quarter ending December 31, 1996.
Part II
Item 5. Market for Registrant's Common Equity and Related Stockholder
Matters
The Company had approximately 840 stockholders of record as of March
1, 1997. The Company's stock is not traded on any national or regional
stock exchange although brokers in Cumberland, Maryland, Winchester and
Harrisonburg, Virginia may occasionally initiate or be a participant in a
trade. Terms of an exchange between individual parties may not be known to
the Company. The following outlines the dividends paid and market prices
of the Company's stock based on prices disclosed to management. Such
prices may not include retail mark-ups, mark-downs or commissions.
Dividends Market Price Range
1996 Per Share High Low
First Quarter $ .18 $ 39.88 $ 38.00
Second Quarter .18 40.50 38.00
Third Quarter .18 40.50 39.00
Fourth Quarter .40 42.00 40.50
1995
First Quarter $ .16 $ 40.25 $ 39.00
Second Quarter .16 40.00 39.50
Third Quarter .16 41.25 37.00
Fourth Quarter .35 41.00 38.50
1994
First Quarter $ .14 $ 34.00 $ 28.50
Second Quarter .14 34.00 34.00
Third Quarter .14 39.63 33.00
Fourth Quarter .30 39.88 37.50
<PAGE> 6
Item 6. Management's Discussion and Analysis of Financial Condition and
Results of Operations
Overview
The net income of the Company increased 8.67% in 1996 compared to 1995
operations. Increased levels of loans outstanding (funded by equivalent
increases in deposits) were primarily responsible for the increase. The
increases of nine percent in average earning assets and eight percent in
average deposits is reflective of a good local economy and expanding branch
locations. The new Keyser facility was open only a month in 1996 but has
already garnered loans and deposits exceeding expectations. Year end
stockholders equity increased 7.25% over 1995 year end amounts as a result
of retained earnings from operations. The following outlines returns on
equity and average assets for the period 1994 - 1996:
1996 1995 1994
Return on average equity 9.99% 10.15% 11.05%
Return on average assets 1.15% 1.16% 1.22%
A complete five year summary of operations appears as Table I on page
18.
The Company's yield on loans increased to 9.52% in 1996 from 9.30% in
1995. The increase was the result of slight increases in market conditions
(primarily in the first part of the year) and a steady loan demand. The
increase of 7.55% in average loans outstanding for 1996 follows an increase
of 7.31% in 1995 and is reflective of controlled growth in lending without
incurring undue risk. Management believes loan growth will continue in
1997 as Grant's new location in Keyser and Capon's new branch in Baker are
expected to generate loans in these service areas. Additionally, general
economic conditions are expected to remain stable in the service areas.
The Company showed a 76.15% average loan/average deposit ratio for 1996
which is down slightly from the prior year's figure of 77.35%. This
statistic is still well above the Company's peer group levels and
demonstrates the ability of the Company to serve the local community.
Net Interest Margin
1996 compared to 1995
The Company's net interest margin on a tax equivalent basis was
$7,209,000 for 1996, an increase of 8.39% over amounts for 1995. Increases
in rates on earning assets (15 basis points higher) were offset by higher
rates paid on certificates of deposit (39 basis points higher). Greater
earnings were the result of volume increases, mostly in the area of loan
growth. Rates on contracts entered into in 1995 are primarily responsible
for the above average cost of funds. Rates paid on recent certificates of
deposit have been lower as the rates paid on deposits in the local
community have declined to rates more in line with state and national
averages. The above average cost of funds should begin to decline in late
1997 as older certificates mature and are replaced with rates more
reflective of current market conditions.
The deposit growth of 9.25% in 1996 provided funding for loan and
security growth. The deposit growth, lower levels of federal funds sold
and lower interest bearing deposits in other banks provided the funding for
a 18.30% increase in average investment securities. Tax equivalent yields
increased on an overall basis by 15 basis points as lower yielding
investments matured and were reinvested at higher rates. The majority of
the Company's investments are categorized as available for sale.
Management's investment philosophy has been to invest in only high quality
investments and to keep maturities relatively short. Excluding mortgage
backed securities (which amortize over the obligation's life), eighty
percent of all fixed rate securities will mature within the next five
years.
<PAGE> 7
Net Interest Margin (Continued)
1996 compared to 1995 (Continued)
Federal funds sold declined in 1996 as rates declined by 31 basis
points. Federal Reserve monetary policy dictates the yields of federal
funds sold and 1996 saw only limited changes in their policies. Federal
funds sold generally comprise three to five percent of average earning
assets and are used to provide short-term liquidity in the asset/liability
management.
Interest bearing deposits increased 8.46% in 1996, mainly in the areas
of time deposits. The rate declines for demand and savings accounts
continued with a 21 and 31 basis point decline, respectively. Rates on
time deposits increased 39 basis points and reflects high rates paid on new
certificates issued in 1995. The overall cost of deposits increased by 26
basis points which was slightly higher than the increase in the overall
yield on earning assets of 15 basis points. The higher level of earning
assets than interest bearing liabilities tempers this slight difference in
rates earned and paid. The results were a net interest margin of 4.32% for
1996 which is quite near the 1995 margin of 4.34%.
1995 compared to 1994
The Company's net interest margin on a tax equivalent basis was
$6,651,000 for 1995, a decline of 1.63% when compared to 1994 results.
Increases in the rates paid on deposits were the result of an intensive
campaign to retain existing customers and attract new certificates of
deposit within the local service area. The Company's yield on loans of
9.30% was an increase over 1994 operations of 9.12%. An increase of 7.31%
in average loans outstanding was the major factor in the 9.56% growth in
loan interest income. Loan growth was constant throughout the year as the
local economy was able to support a good loan demand.
The Company's average investments in securities declined 10.93% in
1995 over 1994 levels of investment. A higher return on investments (6.26%
in 1995 compared to 5.67% in 1994) was the result of investment decisions
made in 1994 and early 1995 when market rates were substantially higher.
Yields on federal funds increased substantially due to changes desired by
the Federal Reserve as part of its monetary policy.
Interest bearing liabilities saw a slight decline in the cost of
demand deposits and a small increase in the cost of savings deposits in
1995. Average balances in both of these deposit classifications fell
within 1995 as depositors switched to longer term certificates. This
switch and the new money which resulted from a certificate promotion helped
to increase average time deposits outstanding by 9.69% in 1995 over 1994
balances.
Provision and Allowance for Loan Losses
The Company's allowance for loan losses (the allowance against which
future losses will be charged) declined $62,000 at December 31, 1996
compared to December 31, 1995 balances. At December 31, 1996, the
allowance as a percentage of loans outstanding totaled 1.01% compared to
1.16% at December 31, 1995 and 1.37% at December 31, 1994. The Company had
net charge-offs of $197,000 in 1996 compared to $255,000 in 1995 and
$520,000 in 1994. The provision for loan losses of $135,000 for 1996 was a
slight increase over 1995's provision of $120,000 but substantially less
than the 1994 provision of $240,000.
The improvement in the status of loans 90 days or more delinquent and
improvements in net charge-offs are the primary reasons that a lower
allowance for loan losses is warranted as of December 31, 1996. Management
does not anticipate substantial changes in the allowance in the near future
as the quality of the current loan portfolio is quite good and the quality
of the new loan applications is also very good. See page 9 for a listing
of loans by type and pages 11 and 12 for an analysis of the activity in the
allowance and the composition of the allowance at each year end.
<PAGE> 8
Noninterest Income
1996 compared to 1995
Service charge income increased 23.50% in 1996 compared to 1995 due to
increases in the levels of deposits and a full year of operating under a
new fee structure implemented in 1995. The new fee structure allows the
Company to be competitive with other institutions yet still lower its
operating costs for these services. Insurance commission income was
virtually unchanged ($162,000 in 1996 compared to $160,000 in 1995) and has
been steady for the last three years. Other operating income declined
8.10%, the result of a bond loss recovery of $40,000 recognized in 1995
that was not repeated in 1996. Losses on security transactions increased
by $20,000 as the Company disposed of some underperforming investments to
reinvest the proceeds in higher yield obligations.
1995 compared to 1994
Service charge income increased by 8.32% in 1995 compared to 1994 due
to an increase in the level of deposit accounts and an increase in certain
rates. Insurance commission income was unchanged at $160,000 as sales of
new policies remained at prior levels. Other operating income increased
56.38% due primarily to a $40,000 recovery dealing with a failed investment
that had been charged to operations in 1991. Other reasons for the
increase include higher fees from loan servicing activities and larger
gains on the sale of foreclosed real estate. The losses on security
transactions declined from $26,500 in 1994 to $9,000 in 1995 due to a lower
volume of early payoffs on mortgage pools. The Company rarely sells
investment securities and gains/losses on security transactions arise
mainly from early mortgage pool paydowns.
Noninterest Expenses
1996 compared to 1995
Noninterest expenses rose 9.03% in 1996 when compared with 1995
operations. Salaries and benefits rose 11.99% due to merit and
inflationary raises, changes in the employees' benefit packages and an
increase in the number of full time equivalent employees. Part of the
increase was due to salaries paid new employees for the Keyser branch
during their training period. Occupancy and equipment expenses rose 43.67%
in 1996 as the Company incurred additional costs in the expansion of
facilities at Petersburg and Moorefield. In addition, the Moorefield
facility suffered flood damages in September of 1996 which was responsible
for about forty percent of the 1996 increase. FDIC insurance expenses
declined to almost zero in 1996 as insurance rates were virtually
eliminated in the second half of 1995. Data processing expense rose 5.61%
due to expanded volume and rate increases. Other noninterest expense
increased 6.45% due to inflation and asset growth. The overall noninterest
expense as a percentage of average assets was 2.61% for 1996 which is
approximately the same as in prior years.
1995 compared to 1994
Noninterest expenses rose 3.44% in 1995 when compared with 1994
operations. Salaries and benefits rose 11.35% due to merit and
inflationary raises, changes in the employees' benefit packages and an
increase in the number of full time equivalent employees. Occupancy and
equipment expenses rose 7.94% in 1995 as the Company incurred additional
costs in the expansion of facilities at Petersburg and Moorefield. FDIC
insurance expenses declined 47.80% as insurance rates were reduced to
almost zero in the second half of 1995. Data processing expense rose 6.15%
due to expanded volume and rate increases. Other noninterest expense
increased .81% due to inflation but were limited by lower insurance costs.
The overall noninterest expense as a percentage of average assets was 2.62%
for 1995 which is approximately the same as in prior years.
<PAGE> 9
Financial Condition
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, Hampshire,
Mineral 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 at December 31, 1996 increased 9.36% from amounts
outstanding at December 31, 1995. The increase was spread evenly over all
types of lending and was not concentrated in any one geographical or
business sector. The loan to deposit ratio of 79.30% at December 31, 1996
was an increase over the level of 77.13% at December 31, 1995 and 76.75% at
December 31, 1994.
The following table summarizes the Company's loan portfolio, net of
unearned income:
At December 31,
1996 1995 1994
(Dollars in Thousands)
Real Estate:
Mortgage $ 70,829 $ 65,971 $ 60,783
Construction 2,158 2,622 1,182
Commercial 25,104 20,749 19,462
Installment 28,693 26,740 24,727
126,784 116,082 106,154
Less unearned discount (2,184) (2,147) (2,112)
124,600 113,935 104,042
Allowance for loan losses (1,257) (1,319) (1,454)
Loans, net $ 123,343 $ 112,616 $ 102,588
The following table shows the maturity of loans outstanding (in
thousands of dollars) as of December 31, 1996, 1995 and 1994.
Maturity Range 1996 1995 1994
Predetermined Rates:
0 - 12 months $ 45,402 $ 57,049 $ 32,729
13 - 60 months 68,879 49,973 62,496
More than 60 months 10,319 6,818 8,651
Variable Rates
Nonaccrual Loans 95 166
Total Loans $ 124,600 $ 113,935 $ 104,042
<PAGE> 10
The following table shows the Company's loan maturity distribution
(in thousands of dollars) as of December 31, 1996:
Maturity Range
Less Than 1-5 Over
Loan Type 1 Year Years 5 Years Total
Commercial and
Agricultural Loans $ 19,943 $ 4,037 $ 1,124 $ 25,104
Real Estate -
mortgage 17,414 48,550 7,853 73,817
Real Estate -
construction 2,158 2,158
Consumer - installment 5,121 16,942 1,459 23,522
Total $ 44,636 $ 69,529 $ 10,436 $ 124,601
Loans with predetermined
rates $ 44,309 $ 66,322 $ 10,436 $ 121,067
Loans with variable or
adjustable rates 1,069 2,464 3,533
Total $ 45,378 $ 68,786 $ 10,436 $ 124,600
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 discontinued. Loans which reach nonaccrual
status may not be restored to accrual status until all delinquent principal
and interest has been paid or the loan becomes both well secured and in the
process of collection. Restructured loans are loans with respect to which
a borrower has been granted a concession on the interest rate or the
original repayment terms because of financial difficulties. 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.
Nonperforming loans are listed in the table below. The decrease in
nonperforming loans reflects the increased efforts of management to reduce
problem loans. Real estate acquired through foreclosure was $160,000 at
December 31, 1996, $269,000 at December 31, 1995 and $296,000 at December
31, 1994. All foreclosed property held at December 31, 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.
Management has continued its efforts to reduce delinquencies through
greater efforts in the early stages of the delinquency. The result has
been a decline in all delinquent loans of 64.75% in 1996 over 1995 amounts.
Management does not anticipate any material increase in nonperforming
assets in 1997.
<PAGE> 11
The following table summarizes the nonperforming loans:
At December 31,
1996 1995 1994
(Dollars in Thousands)
Loans accounted for on a
nonaccrual basis $ 0 $ 95 $ 166
Loans contractually past due 90
days or more as to interest
or principal payments (not
included in nonaccrual loans
above)
Commercial 63 487 378
Real estate 208 479 486
Installments 110 115 187
Total Delinquent Loans 381 1,081 1,051
Total Nonperforming Loans $ 381 $ 1,176 $ 1,217
As of December 31, 1996, the Company did not have any potential
problem loans as defined in Guide 3 that would require disclosure.
Allowance for Loan Losses
Management has analyzed the potential risk of loss on the Company's
loan portfolio given the loan balances and the value of the underlying
collateral and has recognized losses where appropriate. Nonperforming
loans are closely monitored on an ongoing basis as part of the Company's
loan review process. Management reviews the loan loss allowance at the end
of each quarter. Based primarily on the Company's loan classification
system, which classifies problem credits as substandard, doubtful or loss,
additional provisions for losses are made monthly. The ratio of the
allowance for loan losses to total loans outstanding was 1.01% at December
31, 1996 compared to 1.16% at December 31, 1995 and 1.37% at December 31,
1994. At December 31, 1996, the ratio of the allowance for loan losses to
nonperforming loans was 329.92% compared to 112.16% at December 31, 1995
and 119.47% at December 31, 1994.
The following table summarizes changes in the allowance for loan
losses:
Year Ending December 31,
1996 1995 1994
(In Thousands of Dollars)
Balance at beginning of period $ 1,319 $ 1,454 $ 1,734
Loan Losses:
Commercial and agricultural 92 129 394
Real estate - mortgage 59 95 131
Installment loans to individuals 186 156 187
Total loan losses 337 380 712
Recoveries:
Commercial and agricultural 9 12 34
Real estate - mortgage 15 11 42
Installment loans to individuals 116 102 116
Total recoveries 140 125 192
Net loan losses 197 255 520
Additions charged to operations 135 120 240
Balance at end of period $ 1,257 $ 1,319 $ 1,454
<PAGE> 12
The Company has allocated the allowance according to the amounts
deemed to be reasonably necessary to provide for the possibility of losses
incurred within each of the above categories of loans. The allocation of
the allowance as shown in the table below should not be interpreted as an
indication that loan losses in future years will occur in the same
proportions or that the allocation indicates future loan loss trends.
Furthermore, the portion allocated to each loan category is not the total
amount available for future losses that might occur within such categories
since the total allowance is a general allowance applicable to the entire
portfolio.
The following table shows the balance and percentage of the Company's
allowance for loan losses allocated to each major category of loans:
<TABLE>
<CAPTION>
At December 31,
1996 1995 1994
Percent Percent Percent
of of of
Loans Loans Loans
Percent in Percent in Percent in
of Category of Category of Category
Allow- to Total Allow- to Total Allow- to Total
Amount ance Loans Amount ance Loans Amount ance Loans
(Dollars in Thousands)
<S> <C> <C> <C> <C> <C> <C> <C> <C> <C>
Commercial $ 314 25% 18% $ 325 25% 18% $ 429 30% 18%
Real estate
mortgage 440 35 59 463 35 60 507 35 60
Installment 314 25 23 368 28 22 352 24 22
Unallocated 189 15 163 12 166 11
$ 1,257 100% 100% $ 1,319 100% 100% $ 1,454 100% 100%
</TABLE>
For each period presented, the provision for loan losses charged to
operations is based on management's judgment after taking into
consideration all factors connected with the collectibility of the existing
portfolio. Management evaluates the loan portfolio in light of economic
conditions, changes in the nature and value of the portfolio, industry
standards and other relevant factors. Specific factors considered by
management in determining the amounts charged to operations include
internally generated loan review reports, previous loan loss experience
with the borrower, the status of past due interest and principal payments
on the loan, the quality of financial information supplied by the borrower
and the general financial condition of the borrower.
Loan losses in 1996 were spread over all loan types with no
individual loss constituting a significant portion of the total. In
contrast to 1996 and 1995, 1994 had a single credit loss that was
significant and tended to skew loss information for that year. Recoveries
are quite unpredictable and 1996 showed a higher recovery rate than the
prior year. The net credit losses of $197,000 were within management
expectations and management does not believe credit losses will be a
significant problem in the near future.
The provision for loan losses totaled $135,000 for the year ended
December 31, 1996, $120,000 for 1995 and $240,000 for 1994. In the opinion
of management, the provision charged to operations over this three year
period has been sufficient to absorb the net loan losses.
<PAGE> 13
Securities
The Company's securities portfolio serves several purposes. Portions
of the portfolio are used to secure certain public and trust deposits. The
remaining portfolio is held as investments or used to assist the Company in
liquidity and asset liability management. During 1996, total securities
increased to $42.3 million or 23.62% of total assets at December 31, 1996,
while total securities were $39.4 million or 23.47% of total assets at
December 31, 1995.
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. The Company's purchases of securities
have generally been limited to securities of high credit quality with short
to medium term maturities.
With the adoption of Statement of Financial Accounting Standards No.
115 (SFAS No. 115) on January 1, 1994, the Company now segregates those
securities available for sale from those held to maturity. These
securities are valued at their market value with any difference in market
value and amortized cost shown as an adjustment in stockholders' equity.
Changes within the year in market values are reflected as changes in
stockholders' equity, net of the deferred tax effect. As of December 31,
1996, the cost of the securities available for sale exceeded their market
value by $240,000 ($151,200 after tax considerations).
The following table summarizes the carrying value of the Company's
securities at the dates indicated:
<TABLE>
<CAPTION>
Held to Maturity Available for Sale
Carrying Value Carrying Value
December 31, December 31,
1996 1995 1994 1996 1995 1994
(Dollars in Thousands) (Dollars in Thousands)
<S> <C> <C> <C> <C> <C> <C>
U.S. treasuries, agencies
and corporations $ 4,200 $ 5,107 $ 5,349 $ 18,304 $ 14,312 $ 21,555
Obligations of states and
political subdivisions 3,818 4,064 3,863 200
Mortgage-backed
securities 541 636 248 13,807 13,321 5,122
Total Debt Securities 8,559 9,807 9,460 32,111 27,833 26,677
Other securities 946 1,207 1,322
Total $ 8,559 $ 9,807 $ 9,460 $ 33,057 $ 29,040 $ 27,999
</TABLE>
<PAGE> 14
The carrying amount and estimated market value of debt securities (in
thousands of dollars) at December 31, 1996 by contractual maturity are
shown below. Expected maturities will differ from contractual maturities
because borrowers may have the right to call or prepay obligations with or
without call or prepayment penalties.
Securities Held to Maturity Carrying Market Average
Amount Value Yield
Due in one year or less $ 3,320,657 $ 3,339,584 6.37%
Due after one year
through five years 2,341,175 2,350,639 5.47
Due after five years
through ten years 1,670,607 1,654,335 5.06
Due after ten years 686,190 730,318 6.58
Mortgage-backed securities 540,327 545,233 7.10
Total $ 8,558,956 $ 8,620,109 5.91%
Securities Available for Sale Amortized Market Average
Cost Value Yield
Due in one year or less $ 3,763,083 $ 3,780,709 6.88%
Due after one year
through five years 11,902,008 11,973,480 6.87
Due after five years
through ten years 2,605,281 2,550,106 7.06
Mortgage-backed securities 13,890,315 13,806,852 6.51
Total $32,160,687 $32,111,147 6.73%
Yields on tax exempt securities are stated at tax equivalent yields.
Management has generally kept the maturities of investments
relatively short providing for flexibility in investing. Such a
philosophy allows the Company to better match deposit maturities with
investment maturities and thus react more quickly to interest rate changes.
Deposits and Short-Term Borrowings
The Company's predominant source of funds is local deposits. The
Company's deposit base is comprised of demand deposits, savings and money
market accounts and other time deposits. The Company's deposits are
provided by individuals and businesses located within the communities
served.
The average balance of interest bearing deposits increased by 8.46%
in 1996 over average levels in 1995. The average rate paid on deposits
increased to 5.15% in 1996 from 4.89% in 1995 and 4.15% in 1994. The
majority of the Company's deposits are higher yielding time deposits as
most of its customers are individuals who seek higher yields than savings
accounts or don't wish to accept the risks of the stock market.
<PAGE> 15
The Company does not actively solicit large certificates of deposit
(those more than $100,000) due to the unstable nature of these deposits.
Increases in 1996 are the result of the higher than average rates offered
by the Company. A summary of the maturity of large deposits is as follows:
December 31,
Maturity Range 1996 1995 1994
(In Thousands of Dollars)
Three months or less $ 4,832 $ 2,567 $ 3,353
Four to twelve months 11,360 6,699 7,073
One year to five years 4,667 6,575 2,807
Total $ 20,859 $ 15,841 $ 13,233
Capital Resources
The assessment of capital adequacy depends on a number of factors
such as asset quality, liquidity, earnings performance and changing
competitive conditions and economic forces. The Company seeks to maintain
a strong capital base to support its growth and expansion activities, to
provide stability to current operations and to promote public confidence.
The Company's capital position continues to exceed regulatory
minimums. The primary indicators relied on by the Federal Reserve Board
and other bank regulators in measuring strength of capital position are the
Tier 1 Capital, Total Capital and Leverage ratios. Tier 1 Capital consists
of common stockholders' equity. Total Capital consists of Tier 1 Capital
and a portion of the allowance for loan losses. Risk-based capital ratios
are calculated with reference to risk-weighted assets which consist of both
on and off-balance sheet risks.
The following table shows risk-based capital ratios and stockholders'
equity to total assets:
Regulatory December 31,
Minimum 1996 1995
Capital Ratios
Risk-based capital to risk-weighted assets
Tier 1 4.00% 18.85% 19.02%
Total 8.00% 18.82% 19.16%
Stockholders' equity to total assets 3.00% 11.58% 11.72%
The capital management function is an ongoing process. Central to
this process is internal equity generation accomplished by earnings
retention. During 1996, 1995 and 1994, total stockholders' equity
increased by $1,367,000, $2,086,000 and $935,000, respectively, as a result
of earnings retention and changes in the unrealized gains (losses) on
securities available for sale. The return on average equity was 9.99% in
1996 compared to 10.15% for 1995 and 11.05% for 1994. Total cash dividends
declared represent 24% of net income for 1996 compared to 23% of net income
for 1995 and 20% for 1994. Book value per share was $39.35 at December 31,
1996 compared to $36.69 at December 31, 1995 and $32.63 at December 31,
1994.
The Company's principal source of cash income is dividend payments
from the Banks. Certain limitations exist under applicable law and
regulation by regulatory agencies regarding dividend payments to a parent
by its subsidiaries. As of December 31, 1996, the Banks had $2,692,000 of
retained earnings available for distribution to the Company as dividends
without prior regulatory approval.
<PAGE> 16
Liquidity and Interest Rate Sensitivity
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 liability liquidity. 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, the Federal Reserve Bank
of Richmond and the Federal Home Loan Bank of Pittsburgh. In the past,
growth in deposits and proceeds from the maturity of investment securities
have been sufficient to fund the net increase in loans.
In the year ending December 31, 1996, cash and due from banks
declined $91,000 as cash provided by operations and financing activities
was slightly exceeded by cash used in investing activities. Cash provided
by operations consists primarily of earnings from operations and noncash
expenses such as the provision for loan losses, deferred income taxes and
depreciation. The investing activities saw an increase in net loans of
$10,700,000 and a net increase in securities of $3,000,000. New equipment
and building expenditures totaled $1,500,000 for 1996. The decline in
federal funds sold of $3,500,000 and increased deposits of $9,400,000 were
the major sources of funding for loan and securities growth. The dividends
paid of $500,000 is an increase of 13 percent over 1995 amounts.
For the year end December 31, 1995, cash and equivalents declined
$40,000 which was relatively insignificant. Net income plus depreciation,
amortization, the provision for loan losses and deferred tax expenses were
the major source of cash. Changes in other balance sheet accounts were
insignificant. The cash generated by operations plus the increase in
deposits of $12,100,000 were the primary sources of funds for increases in
loans of $10,300,000 and federal funds sold of $1,400,000. Expansion of
the Petersburg and Moorefield locations absorbed $1,800,000 for building
and equipment and dividends paid to shareholders totaled $400,000 (an
increase of 15% over the prior year). The balance of funds generated were
invested in new securities for an increase totaling $1,100,000.
The Company is not aware of any trends, events or uncertainties that
will have or that are reasonably likely to have a material effect on the
Company's liquidity, capital resources or operations. The Company is not
aware of any proposals from any regulatory authority which, if implemented,
would have such an effect.
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.
At December 31, 1996, the Company had a negative gap position. This
liability sensitive position typically produces a favorable contribution to
earnings during periods of decreasing rates and an unfavorable contribution
to earnings during a period of increasing rates. Although the financial
markets were in a relatively stable rate environment for 1996, certificates
of deposit entered into in early 1995 caused an increase in overall
interest expense. The Company expects a decline in the overall cost of
money in 1997 unless market conditions change substantially.
<PAGE> 17
With the largest amount of interest sensitive assets and liabilities
repricing within three years, the Company monitors these areas 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
periodically review its cumulative position of interest sensitive assets
and liabilities.
The majority of the Company's commercial and real estate loans are
made with repricing frequencies of three months to three years. For this
reason, 86% of all loans will reprice within three years of December 31,
1996. Installment loans generally have a fixed rate of interest but have
limited amortization periods. These loans have an average life to maturity
of less than two years. Management believes that its philosophy of
generally requiring loan repricing within a three year period to be the
most prudent approach to asset/liability management.
In the area of investments, the Company employs a management
technique known as "laddering" to minimize interest rate exposures and
provide a constant flow of maturities subject to repricing at current
market rates. To assist in the management of investments, the Company
employs an independent investment counsel that assists in planning and risk
diversification. The Company utilizes many forms of investment with a
significant use of mortgage-backed securities issued by federally chartered
institutions. The Company does not employ the use of derivatives in its
approach to controlling market risk. Although the majority of its
investments are classified as available for sale, the Company rarely sells
securities except in unusual circumstances.
Table IV (page 21) shows the maturity of liabilities and assets in
future periods. Table III (page 20) shows the effects of rate and volume
changes on the net interest margin for the past three year period.
Effects of Inflation
Inflation significantly affects industries having high proportions of
fixed assets 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 IV, page 21) 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 (including the Company) that file electronically with
the Commission. That address is (http: //www.sec.gov)
<PAGE> 18
TABLE I
<TABLE>
SUMMARY OF OPERATIONS
(Dollar amounts in thousands)
<CAPTION>
-- -- --- -- --YearsEnding December31, -- --- -- --- -
(In Thousands Except for Share Amounts)
1996 1995 1994 1993 1992
<S> <C> <C> <C> <C> <C>
Total Interest Income $ 14,182 $ 12,758 $ 11,726 $ 12,038 $ 12,605
Total Interest Expense (7,103) (6,219) (5,082) 5,360 6,483
Net Interest Income 7,079 6,539 6,644 6,678 6,122
Provision for Loan Losses 135 120 240 390 780
Net Interest Income after
Provision for Loan Losses 6,944 6,419 6,404 6,288 5,342
Other Income 592 581 467 700 505
Other Expenses 4,570 4,191 4,052 3,830 3,511
Income before Income Taxes 2,966 2,809 2,819 3,158 2,336
Income Tax Expense 953 956 944 1,068 751
Net Income $ 2,013 $ 1,853 $ 1,875 $ 2,090 $ 1,585
Net Income Per Share $ 3.92 $ 3.60 $ 3.65 $ 4.06 $ 3.07
Dividends Per Share $ .94 $ .83 $ .72 $ .63 $ .55
Total Assets at Year End $ 178,847 $ 167,884 $ 153,361 $ 150,964 $ 146,371
Return on Average Assets 1.15% 1.16% 1.22% 1.40% 1.11%
Return on Average Equity 9.99% 10.15% 11.05% 13.93% 11.79%
Dividend Payout Ratio 24.00% 23.03% 19.74% 15.50% 17.94%
Year End Equity to Assets Ratio 11.31% 11.24% 10.94% 10.49% 9.70%
</TABLE>
<PAGE> 19
TABLE II
NET INTEREST MARGIN AND AVERAGE BALANCE ANALYSIS
(Dollar amounts in thousands)
1996
Income/ Yield/
EARNING ASSETS Average Expense Rate
Loans 3 $ 116,864 $ 11,135 9.52
Investment securities:
Taxable 4 40,270 2,491 6.19
Nontaxable 1,4 4,146 354 8.53
Total Investment
Securities 44,416 2,845 6.41
Interest bearing deposits
in banks 898 48 5.35
Federal funds sold 5,192 284 5.47
Total Earning Assets 167,370 14,312 8.55
Allowance for loan losses (1,288)
Nonearnings assets 9,280
Total Assets $ 175,362
INTEREST-BEARING LIABILITIES
Deposits:
Demand $ 26,701 $ 778 2.91
Savings 17,535 620 3.54
Time deposits 93,482 5,695 6.09
Other borrowed money 148 10 6.75
Total Interest Bearing
Liabilities 137,866 7,103 5.15
Noninterest bearing deposits 15,600
Other liabilities 1,751
Total Liabilities 155,217
Stockholders' Equity 20,145
Total Liabilities and Equity $ 175,362
Net Interest Earnings $ 7,209
Net Yield on Interest Earning Assets 4.32%
1 Yields are computed on a taxable equivalent basis using a 37% income tax
rate.
2 Average balances are based on daily balances.
3 Includes loans in nonaccrual status.
4 Average balances for securities available for sale are based on amortized
carrying values and do not reflect changes in market values.
<PAGE> 19 (Continued
TABLE II (Continued)
NET INTEREST MARGIN AND AVERAGE BALANCE ANALYSIS
(Dollar amounts in thousands)
1995
Income/ Yield/
EARNING ASSETS Average Expense Rate
Loans 3 $ 108,659 $ 10,115 9.30
Investment securities:
Taxable 4 34,069 2,047 6.00
Nontaxable 1,4 3,475 302 8.69
Total Investment
Securities 37,544 2,349 6.26
Interest bearing deposits
in banks 587 29 4.94
Federal funds sold 6,524 377 5.78
Total Earning Assets 153,314 12,870 8.40
Allowance for loan losses (1,384)
Nonearnings assets 7,986
Total Assets $ 159,916
Deposits:
Demand $ 27,913 $ 870 3.12
Savings 16,674 642 3.85
Time deposits 82,477 4,704 5.70
Other borrowed money 49 3 6.12
Total Interest Bearing
Liabilities 127,113 6,219 4.89
Noninterest bearing deposits 13,356
Other liabilities 1,187
Total Liabilities 141,656
Stockholders' Equity 18,260
Total Liabilities and Equity $ 159,916
Net Interest Earnings $ 6,651
4.34%
1 Yields are computed on a taxable equivalent basis using a 37% income tax
rate.
2 Average balances are based on daily balances.
3 Includes loans in nonaccrual status.
4 Average balances for securities available for sale are based on amortized
carrying values and do not reflect changes in market values.
<PAGE> 19 (Continued)
TABLE II (Continued)
NET INTEREST MARGIN AND AVERAGE BALANCE ANALYSIS
(Dollar amounts in thousands)
1994
Income/ Yield/
EARNING ASSETS Average Expense Rate
Loans 3 $ 101,253 $ 9,232 9.12%
Investment securities:
Taxable 4 38,651 2,089 5.40
Nontaxable 1,4 3,854 319 8.27
Total Investment
Securities 42,505 2,408 5.67
Interest bearing deposits
in banks 431 19 4.40
Federal funds sold 4,339 184 4.24
Total Earning Assets 148,528 11,843 7.97
Allowance for loan losses (1,651)
Nonearnings assets 6,988
Total Assets $ 153,865
Deposits:
Demand $ 29,871 $ 942 3.15
Savings 17,374 640 3.68
Time deposits 75,190 3,500 4.65
Other borrowed money
Total Interest Bearing
Liabilities 122,435 5,082 4.15
Noninterest bearing deposits 12,886
Other liabilities 1,582
Total Liabilities 136,903
Stockholders' Equity 16,962
Total Liabilities and Equity $ 153,865
Net Interest Earnings $ 6,761
4.57%
1 Yields are computed on a taxable equivalent basis using a 37% income tax
rate.
2 Average balances are based on daily balances.
3 Includes loans in nonaccrual status.
4 Average balances for securities available for sale are based on amortized
carrying values and do not reflect changes in market values.
<PAGE> 20
TABLE III
<TABLE>
EFFECT OF RATE-VOLUME CHANGES ON NET INTEREST INCOME
(On a fully taxable equivalent basis)
(In thousands of dollars)
<CAPTION>
1996 Compared to 1995 1995 Compared to 1994
Increase (Decrease) Increase (Decrease)
Due to Change in: Total Due to Change in: Total
Average Average Increase Average Average Increase
Volume Rate (Decrease) Volume Rate (Decrease)
<S> <C> <C> <C> <C> <C> <C>
Interest Income:
Loans 2 $ 763 $ 257 $ 1,020 $ 687 $ 196 $ 883
Investment Securities:
Taxable 372 72 444 (231) 189 (42)
Nontaxable 58 (6) 52 (32) 15 (17)
Total Investment
Securities 430 66 496 (263) 204 (59)
Interest bearing deposits
in banks 15 4 19 7 3 10
Federal funds sold (77) (16) (93) 93 100 193
Total Interest Income 1,131 311 1,442 524 503 1,027
Interest Expense:
Deposits:
Demand (38) (54) (92) (62) (10) (72)
Savings 33 (55) (22) (26) 28 2
All other time
deposits 627 364 991 339 865 1,204
Other borrowed money 6 1 7 3 3
Total Interest Expense 628 256 884 254 883 1,137
Net Interest Income $ 503 $ 55 $ 558 $ 270 $ (380) $ (110)
<F1>
1 Changes in volume are calculated based on difference in average balance
multiplied by the prior year average rate. Rate change differences are
the difference in the volume changes and the actual dollar amount of
interest income or expense changes.
2 Nonaccrual loans have been included in average asset balances.
</TABLE>
<PAGE> 21
TABLE IV
<TABLE>
INTEREST RATE SENSITIVITY ANALYSIS
(In thousands of dollars)
DECEMBER 31, 1996
<CAPTION>
More than
5 Years
1 - 90 91 - 365 1 to 3 3 to 5 orWithout
Days Days Years Years Maturity Total
<S> <C> <C> <C> <C> <C> <C>
EARNINGS ASSETS
Loans $ 14,786 $ 36,562 $ 55,528 $ 9,784 $ 7,941 $ 124,601
Fed funds sold 2,494 2,494
Securities 4,629 6,072 15,530 8,860 7,164 42,255
Interest bearing time
deposits 134 400 300 834
Total 22,043 43,034 71,358 18,644 15,105 170,184
INTEREST BEARING LIABILITIES
Transaction accounts 14,132 14,132
Money market accounts 12,975 12,975
Savings accounts 17,994 17,994
Time deposits more than
$100,000 4,832 11,360 2,853 1,814 20,859
Time deposits less than
$100,000 13,868 41,923 14,088 5,854 75,733
Other borrowed money 4 13 37 43 45 142
Total 63,805 53,296 16,978 7,711 45 141,835
Discrete interest
sensitivity GAP (41,762) (10,262) 54,380 10,933 15,060 28,349
Cumulative interest
sensitivity GAP (41,762) (52,024) 2,356 13,289 28,349
Ratio of cumulative
interest sensitive
assets to cumulative
interest sensitive
liabilities 34.55% 55.57% 101.76% 109.37% 120.00%
</TABLE>
Assumes all transaction, money market and savings deposit accounts reprice
within 90 days.
<PAGE> 22
Item 7. Financial Statements
Index to Financial Statements
Page
Consolidated Balance Sheets as of December 31, 1996 and 1995 23
Consolidated Statements of Income for the Years Ended
December 31, 1996, 1995 and 1994 24
Consolidated Statements of Changes in Stockholders' Equity for
the Years Ended December 31, 1996, 1995 and 1994 25
Consolidated Statements of Cash Flows for the Years Ended
December 31, 1996, 1995 and 1994 26
Notes to Consolidated Financial Statements 27 - 42
Independent Auditors' Report 43
<PAGE> 23
CONSOLIDATED BALANCE SHEETS
HIGHLANDS BANKSHARES, INC.
December 31,
ASSETS 1996 1995
Cash and due from banks
(notes 2, 3 and 14) $ 3,195,822 $ 3,286,864
Interest bearing deposits in banks 833,626 994,583
Federal funds sold 2,494,077 6,016,352
Securities held to maturity (note 4) 8,558,956 9,807,434
Securities available for sale (note 4) 33,056,700 29,040,278
Other investments 638,850 552,450
Loans (notes 5, 12, 13 and 14) 124,600,872 113,935,453
Less allowance for loan losses (note 6) (1,257,454) (1,319,099)
Net Loans 123,343,418 112,616,354
Bank premises and equipment (note 7) 4,525,538 3,338,007
Interest receivable 1,361,433 1,302,613
Deferred income tax benefits (note 9) 275,337 241,983
Other assets 563,621 687,564
Total Assets $178,847,378 $167,884,482
LIABILITIES
Deposits:
Noninterest bearing
Demand deposits $ 15,416,012 $ 14,133,641
Interest bearing
Money market and interest checking 14,131,971 14,819,063
Money market savings 12,974,842 14,577,754
Savings accounts 17,993,883 16,988,718
Certificates of deposit over $100,000 20,859,000 15,841,254
All other time deposits 75,733,399 71,352,282
Total Deposits 157,109,107 147,712,712
Borrowed money 141,616 157,460
Accrued expenses and other liabilities 1,367,198 1,152,279
Total Liabilities 158,617,921 149,022,451
STOCKHOLDERS' EQUITY
Common stock, $5 par value, 1,000,000
shares authorized, 546,764 shares issued 2,733,820 2,733,820
Surplus 1,661,987 1,661,987
Retained earnings (note 12) 16,478,655 14,948,757
Net unrealized gains (losses) on
securities available for sale (151,192) 11,280
20,723,270 19,355,844
Treasury stock (at cost, 32,698 shares) (493,813) (493,813)
Total Stockholders' Equity 20,229,457 18,862,031
Total Liabilities and
Stockholders' Equity $178,847,378 $167,884,482
The accompanying notes are an integral part of this statement.
<PAGE> 24
CONSOLIDATED STATEMENTS OF INCOME
HIGHLANDS BANKSHARES, INC.
Years Ended December 31,
1996 1995 1994
INTEREST INCOME:
Loans, including fees $11,134,887 $10,115,016 $ 9,231,928
Federal funds sold 284,286 377,367 183,777
Interest bearing deposits 48,357 29,131 19,962
Investment securities -
taxable 2,491,490 2,047,061 2,088,759
Investment securities -
nontaxable 223,795 189,953 201,364
Total Interest Income 14,182,815 12,758,528 11,725,790
INTEREST EXPENSE:
Time deposits over $100,000 1,246,000 975,298 640,412
Other deposits 5,847,251 5,240,768 4,441,272
Total Interest on Deposits 7,093,251 6,216,066 5,081,684
Borrowed money 9,921 3,176
Total Interest Expense 7,103,172 6,219,242 5,081,684
NET INTEREST INCOME 7,079,643 6,539,286 6,644,106
PROVISION FOR LOAN LOSSES (note 6) 135,000 120,000 240,000
Net Interest Income after Provision
for Loan Losses 6,944,643 6,419,286 6,404,106
NONINTEREST INCOME:
Service charges 252,689 204,614 188,890
Insurance commissions and sales 162,306 160,316 160,519
Other operating income 206,398 224,583 143,613
Loss on security transactions
(note 4) (29,503) (9,185) (26,502)
Total Noninterest Income 591,890 580,328 466,520
NONINTEREST EXPENSES:
Salaries and benefits (note 10) 2,477,928 2,212,677 1,987,215
Occupancy expense 270,678 172,406 149,093
Equipment expense 328,372 244,554 237,213
FDIC insurance 3,500 159,729 305,998
Data processing expense 388,753 368,101 346,770
Other operating expenses 1,100,304 1,033,581 1,025,230
Total Noninterest Expenses 4,569,535 4,191,048 4,051,519
Income before Income Tax Expense 2,966,998 2,808,566 2,819,107
INCOME TAX EXPENSE (note 9) 953,874 956,085 944,101
NET INCOME $ 2,013,124 $ 1,852,481 $ 1,875,006
Net Income Per Share $ 3.92 $ 3.60 $ 3.65
Cash Dividends Paid Per Share $ .94 $ .83 $ .72
Weighted Average Shares
Outstanding 514,066 514,066 514,066
The accompanying notes are an integral part of this statement.
<PAGE> 25
CONSOLIDATED STATEMENTS OF CHANGES IN STOCKHOLDERS' EQUITY
HIGHLANDS BANKSHARES, INC.
<TABLE>
<CAPTION>
Net
Unrealized
Gain (Loss) on
Securities
Capital Retained Available Treasury
Stock Surplus Earnings for Sale Stock Total
<S> <C> <C> <C> <C> <C> <C>
BALANCE
DECEMBER 31, 1993 $2,733,820 $1,661,987 $12,018,069 $ (78,530) $ (493,813) $15,841,533
Cumulative effect
of change in
accounting for
securities
available for
sale, net of
tax effect
of $71,000 122,000 122,000
Net income 1,875,006 1,875,006
Cash dividends (370,128) (370,128)
Change in unrealized
loss on securities
available for
sale, net of tax
effect of
$406,612 (692,339) (692,339)
BALANCE
DECEMBER 31, 1994 2,733,820 1,661,987 13,522,947 (648,869) (493,813) 16,776,072
Net income 1,852,481 1,852,481
Cash dividends (426,671) (426,671)
Change in unrealized
gain on securities
available for sale,
net of tax effect
of $387,706 660,149 660,149
BALANCE
DECEMBER 31, 1995 2,733,820 1,661,987 14,948,757 11,280 (493,813) 18,862,031
Net income 2,013,124 2,013,124
Cash dividends (483,226) (483,226)
Change in unrealized
loss on securities
available for sale,
net of tax effect
of $95,420 (162,472) (162,472)
BALANCE
DECEMBER 31, 1996 $2,733,820 $1,661,987 $16,478,655 $ (151,192) $ (493,813) $20,229,457
The accompanying notes are an integral part of this statement.
</TABLE>
<PAGE> 26
CONSOLIDATED STATEMENTS OF CASH FLOWS
HIGHLANDS BANKSHARES, INC.
<TABLE>
<CAPTION>
Years Ended December31,
1996 1995 1994
<S> <C> <C> <C>
CASH FLOWS FROM OPERATING ACTIVITIES:
Net income $ 2,013,124 $ 1,852,481 $ 1,875,006
Adjustments to reconcile net income to
net cash provided by operating activities:
Loss on equipment 26,339
Loss on sale of securities 29,503 9,185 26,502
Depreciation 262,757 198,517 160,855
Amortization of security premiums 66,023 167,260 232,076
Provision for loan losses 135,000 120,000 240,000
Deferred income taxes 62,065 89,518 66,699
Change in other assets and liabilities:
Interest receivable (58,820) 386 29,608
Other assets (49,593) (12,921) 56,243
Accrued expenses 239,230 130,256 (84,444)
Net Cash Provided by Operating Activities 2,725,628 2,554,682 2,602,545
CASH FLOWS FROM INVESTING ACTIVITIES:
Proceeds from maturity of
securities held to maturity 3,736,267 2,018,760 13,296,750
Purchases of securities held to maturity (620,600) (2,859,702) (4,368,004)
Proceeds from maturities of securities
available for sale 12,028,403 12,612,466 6,736,161
Proceeds from sales of securities
available for sale 1,511,173 800,500
Purchases of securities available for sale (19,863,779) (12,307,206) (12,521,979)
Net change in deposits in other banks 160,957 (601,942) 99,000
Net increase in loans (10,712,064) (10,308,759) (6,218,672)
Change in federal funds sold 3,522,275 (1,391,007) (1,655,345)
Purchase of property and equipment (1,476,627) (1,836,894) (120,311)
Construction in progress payments (502,773)
Proceeds from sale of foreclosed real estate 199,141 164,000
Net Cash Used in Investing Activities (11,713,995) (14,475,143) (4,290,673)
CASH FLOWS FROM FINANCING ACTIVITIES:
Net change in time deposits 9,398,863 12,080,569 (537,098)
Net change in other deposit accounts (2,468) 69,059 2,081,331
Net change in borrowed money (15,844) 157,460
Dividends paid in cash (483,226) (426,671) (370,128)
Net Cash Provided by Financing Activities 8,897,325 11,880,417 1,174,105
CASH AND CASH EQUIVALENTS:
Net decrease in cash and due from banks (91,042) (40,044) (514,023)
Cash and due from banks, beginning of year 3,286,864 3,326,908 3,840,931
Cash and Due from Banks, End of Year $ 3,195,822 $ 3,286,864 $ 3,326,908
Supplemental Disclosures:
Cash paid for:
Interest expense $ 6,993,122 $ 6,040,215 $ 5,125,310
Income taxes 940,000 908,608 939,280
</TABLE>
The accompanying notes are an integral part of this statement.
<PAGE> 27
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
HIGHLANDS BANKSHARES, INC.
NOTE 1 NATURE OF OPERATIONS:
Highlands Bankshares, Inc. (the "Company") is a bank holding
company and operates under a charter issued by the state of West
Virginia. The Company owns all of the outstanding stock of The
Grant County Bank, the Capon Valley Bank and HBI Life Insurance
Company, Inc. which operate under charters issued in West
Virginia and Arizona. State chartered banks are subject to
regulation by the West Virginia Division of Banking, Federal
Reserve Bank and the Federal Deposit Insurance Corporation while
the insurance company is regulated by the Arizona Department of
Insurance. The Banks provide services to customers located
mainly in Grant, Hardy, Hampshire, Mineral and Pendleton counties
of West Virginia, including the towns of Petersburg, Keyser,
Moorefield and Wardensville through five branch offices. The
insurance company sells life and accident coverage exclusively
through the Company's subsidiary banks.
NOTE 2 SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES:
The accounting and reporting policies of Highlands Bankshares,
Inc. ("Company") and its subsidiaries conform to generally
accepted accounting principles and to accepted practice within
the banking industry.
(a) Principles of Consolidation
The consolidated financial statements include the accounts
of The Grant County Bank, the Capon Valley Bank and HBI Life
Insurance Company. All significant intercompany accounts and
transactions have been eliminated.
(b) Use of Estimates in the Preparation of Financial Statements
In preparing the financial statements, management is
required to make estimates and assumptions that affect the
reported amounts in those statements; actual results could
differ significantly from those estimates. A material
estimate that is particularly susceptible to significant
changes is the determination of the allowance for loan
losses, which is sensitive to changes in local economic
conditions.
(c) Cash and Cash Equivalents
Cash and cash equivalents include cash on hand and
noninterest bearing funds at correspondent institutions.
<PAGE> 28
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
HIGHLANDS BANKSHARES, INC.
NOTE 2 SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED):
(d) Securities
Effective January 1, 1994, the Company adopted Statement of
Financial Accounting Standards (SFAS) No. 115, "Accounting
for Certain Investments in Debt and Equity Securities." The
adoption of this statement as of January 1, 1994, increased
stockholders' equity by $122,000 (net of income tax effect
of $71,000). Changes subsequent to the adoption of this
statement are shown as a separate item on the statement of
stockholders' equity. Securities that the Company has both
the positive intent and ability to hold to maturity (at time
of purchase) are classified as held to maturity securities.
All other securities are classified as available for sale.
Securities held to maturity are carried at historical cost
and adjusted for amortization of premiums and accretion of
discounts, using the effective interest method. Securities
available for sale are carried at fair value with any
valuation adjustments reported, net of deferred taxes, as a
separate component of stockholders' equity. Also included
in securities available for sale are marketable equity
securities.
Other investments consist of investments in the Federal Home
Loan Bank of Pittsburgh and the Federal Reserve Bank of
Richmond. Such investments are required as members of these
institutions and these investments cannot be sold without a
change in the members' borrowing or service levels.
Interest and dividends on securities and amortization of
premiums and discounts on securities are reported as
interest income using the effective interest method. Gains
(losses) realized on sales and calls of securities are
determined using the specific identification method.
(e) Loans
Loans are carried on the balance sheet net of any unearned
interest and the allowance for loan losses. Interest income
on loans is determined using the effective interest method
on the daily amount of principal outstanding except where
serious doubt exists as to collectibility of the loan, in
which case the accrual of income is discontinued.
(f) Allowance For Loan Losses
The allowance for loan losses is based upon management's
knowledge and review of the loan portfolio. Estimation of
an adequate allowance for loan losses involves the exercise
of judgement, the use of assumptions with respect to present
economic conditions and knowledge of the environment in
which the Banks operate. Among the factors considered in
determining the level of the allowance are the changes in
composition of the loan portfolio, the amount of delinquent
and nonaccrual loans, past loan loss experience and the
value of collateral securing the loans.
<PAGE> 29
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
HIGHLANDS BANKSHARES, INC.
NOTE 2 SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED):
(g) Impaired Loans
On January 1, 1995, the Company adopted Statement of
Financial Accounting Standards No. 114, "Accounting by
Creditors for Impairment of a Loan" (SFAS 114), as amended
by SFAS 118, "Accounting by Creditors for Impairment of a
Loan - Income Recognition and Disclosures," collectively
SFAS 114. SFAS 114 requires that impaired loans within the
scope of the statements be presented in the financial
statements at the present value of expected future cash
flows or at the fair value of the loan's collateral. A
valuation allowance is required to the extent that such
measurement is less than the recorded investment. Under
this standard a loan is considered impaired based on current
information and events, if it is probable that the Company
will be unable to collect the scheduled payments of
principal and interest when due under the contractual terms
of the loan agreement. 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. The effect of
the adoption of SFAS 114 was not material to the Company's
consolidated financial statements as of and for the years
ended December 31, 1996 or 1995.
(h) Bank Premises and Equipment
Bank premises and equipment are stated at cost less
accumulated depreciation. Depreciation is charged to income
over the estimated useful lives of the assets using a
combination of the straight-line and accelerated methods.
The ranges of the useful lives of bank premises and
equipment are as follows:
Buildings and Improvements 15 - 40 years
Furniture and fixtures 6 - 15 years
Maintenance, repairs, renewals, and minor improvements are
charged to operations as incurred. Gains and losses on
routine dispositions are reflected in other income or
expense.
(i) Income Taxes
Amounts provided for income tax expense are based on income
reported for financial statement purposes rather than
amounts currently payable under federal and state tax laws.
Deferred taxes, which arise principally from differences
between the period in which certain income and expenses are
recognized for financial accounting purposes and the period
in which they affect taxable income, are included in the
amounts provided for income taxes.
(j) Earnings Per Share
Earnings per share are based on the weighted average number
of shares outstanding.
(k) Foreclosed Real Estate
The components of foreclosed real estate are adjusted to the
lower of cost or fair value less estimated costs of
disposal. The current year provision for a valuation
allowance has been recorded as an expense to current
operations.
NOTE 3 CASH AND DUE FROM BANKS:
The Banks are required to maintain average reserve balances
based on a percentage of deposits. The Banks have generally met
this requirement through average cash on hand and balances with
their correspondent institutions.
<PAGE> 30
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
HIGHLANDS BANKSHARES, INC.
NOTE 4 SECURITIES:
The carrying amount and estimated fair value of securities are
as follows:
Carrying Unrealized Unrealized Fair
Amount Gains Losses Value
Held to Maturity
December 31, 1996
U. S. Treasuries
and Agencies $ 4,200,310 $ 23,351 $ 855 $ 4,222,806
Mortgage-backed 540,327 4,906 545,233
State and
municipals 3,818,319 62,493 28,742 3,852,070
Total Securities
Held to
Maturity $ 8,558,956 $ 90,750 $ 29,597 $ 8,620,109
December 31, 1995
U. S. Treasuries
and Agencies $ 5,107,789 $ 81,015 $ 1,173 $ 5,187,631
Mortgage-backed 635,866 12,561 96 648,331
State and
municipals 4,063,779 103,113 22,846 4,144,046
Total Securities
Held to
Maturity $ 9,807,434 $196,689 $ 24,115 $ 9,980,008
Available for Sale
December 31, 1996
U. S. Treasuries
and Agencies $18,270,372 $100,114 $ 66,191 $18,304,295
Mortgage-backed 13,890,315 61,810 145,273 13,806,852
Marketable
equities 1,136,002 190,449 945,553
Total Securities
Available
for Sale $33,296,689 $161,924 $401,913 $33,056,700
December 31, 1995
U. S. Treasuries
and Agencies $14,190,987 $145,182 $ 23,819 $14,312,350
Mortgage-backed 13,214,572 124,129 17,904 13,320,797
State and
municipals 200,000 200,000
Marketable
equities 1,416,816 209,685 1,207,131
Total Securities
Available
for Sale $29,022,375 $269,311 $251,408 $29,040,278
<PAGE> 31
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
HIGHLANDS BANKSHARES, INC.
NOTE 4 SECURITIES (CONTINUED):
The carrying amount and fair value of debt securities at December
31, 1996, by contractual maturity, are shown below. Expected
maturities will differ from contractual maturities because
borrowers may have the right to call or prepay obligations with
or without call or prepayment penalties.
Securities Held to Maturity Carrying Fair
Amount Value
Due in one year or less $ 3,320,657 $ 3,339,584
Due after one year
through five years 2,341,175 2,350,639
Due after five years
through ten years 1,670,607 1,654,335
Due after ten years 686,190 730,318
Mortgage-backed securities 540,327 545,233
Total Held to Maturity $ 8,558,956 $ 8,620,109
Securities Available for Sale Carrying Fair
Amount Value
Due in one year or less $ 3,763,083 $ 3,780,709
Due after one year
through five years 11,902,008 11,973,480
Due after five years
through ten years 2,605,281 2,550,106
Mortgage-backed securities 13,890,315 13,806,852
Total Fixed Rate Securities 32,160,687 32,111,147
Equities 1,136,002 945,553
Total Available for Sale $33,296,689 $33,056,700
The carrying amount (which approximates market value) of
securities pledged by the banks to primarily secure deposits
amounted to $7,051,868 at December 31, 1996 and $5,913,000 at
December 31, 1995.
There were no holdings totaling more than 10% of stockholders'
equity with any issuer as of December 31, 1996 and 1995.
Gains and losses recognized in 1996 are primarily from securities
available for sale. All gains or losses in 1995 and 1994 are
from calls or early payoffs of securities designated as held to
maturity. Realized gains or losses for the years ending December
31 are as follows:
1996 1995 1994
Gains $ 2,386 $ 813 $ 2,000
Losses (31,889) (9,998) (28,502)
Total $(29,503) $ (9,185) $(26,502)
<PAGE> 32
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
HIGHLANDS BANKSHARES, INC.
NOTE 5 LOANS:
Loans outstanding as of December 31 are summarized as follows:
1996 1995
Commercial $ 25,103,784 $ 20,749,203
Real estate construction 2,158,000 2,622,000
Real estate mortgages 70,829,083 65,970,630
Consumer installment 28,693,887 26,740,410
Total Loans 126,784,754 116,082,243
Unearned interest (2,183,882) (2,146,790)
Net Loans $124,600,872 $113,935,453
Loans 90 days or more past due as of December 31 are as follows:
1996 1995 1994
Commercial $ 63,000 $ 487,000 $ 378,000
Real estate 208,000 479,000 486,000
Installments 110,000 115,000 187,000
Total $ 381,000 $1,081,000 $1,051,000
Above as a percentage
of net loans .31% .95% 1.01%
NOTE 6 ALLOWANCE FOR LOAN LOSSES:
A summary of changes in the allowance for loan losses for the
years ended December 31 is shown in the following schedule:
1996 1995 1994
Balance at beginning
of year $1,319,099 $1,454,307 $1,734,041
Provision charged to
operating expenses 135,000 120,000 240,000
Loan recoveries 140,289 124,501 192,222
Loans charged off (336,934) (379,709) (711,956)
Balance at end of year $1,257,454 $1,319,099 $1,454,307
Percentage of outstanding
loans 1.01% 1.16% 1.37%
<PAGE> 33
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
HIGHLANDS BANKSHARES, INC.
NOTE 7 BANK PREMISES AND EQUIPMENT:
Bank premises and equipment as of December 31 are summarized as
follows:
1996 1995
Land $ 553,652 $ 359,826
Buildings and improvements 4,232,937 3,560,558
Furniture and equipment 2,446,961 1,866,452
Total cost 7,233,550 5,786,836
Less - accumulated depreciation (2,708,012) (2,448,829)
Net Book Value $ 4,525,538 $ 3,338,007
Provisions for depreciation of $262,757 in 1996, $198,517 in 1995
and $160,855 in 1994, were charged to operations.
NOTE 8 DEPOSITS:
At December 31, 1996, the scheduled maturities of certificates of
deposit are as follows:
1997 $71,913,101
1998 12,710,021
1999 4,219,762
2000 5,190,341
2001 and thereafter 2,559,174
Total $96,592,399
NOTE 9 INCOME TAX EXPENSE:
The components of income tax expense for the years ended December
31 are summarized as follows:
1996 1995 1994
Current expense
Federal $829,724 $751,593 $770,254
State 62,085 114,974 107,148
Total current expense 891,809 866,567 877,402
Deferred expense
Federal 56,940 82,260 60,474
State 5,125 7,258 6,225
Total deferred expense 62,065 89,518 66,699
Income tax expense $953,874 $956,085 $944,101
Income benefits relating to
losses on security transactions
are as follows: $(10,916) $ (3,398) $ (9,944)
<PAGE> 34
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
HIGHLANDS BANKSHARES, INC.
NOTE 9 INCOME TAX EXPENSE (CONTINUED):
The deferred tax effects of temporary differences for the years
ended December 31 are as follows:
1996 1995 1994
Tax effect of temporary differences:
Provision for loan losses $ 2,492 $ 60,187 $ 103,687
Sale of loans 11,105 12,128 (32,622)
Pension expense (13,587) (2,053) 10,966
Depreciation 41,825 14,363
Miscellaneous 20,230 4,893 (15,332)
Net decrease in deferred
income tax benefit $ 62,065 $ 89,518 $ 66,699
The net deferred tax assets arising from temporary differences as
of December 31 are summarized as follows:
1996 1995
Deferred Tax Assets:
Provision for loan losses $ 231,530 $ 234,022
Insurance commissions 34,350 37,968
Sale of loans 38,640 49,746
Unrealized loss on securities
available for sale 88,797
Other 20,635 22,067
Total Assets 413,952 343,803
Deferred Tax Liabilities:
Pension prepaids 53,474 67,060
Unrealized gain on securities
available for sale 6,623
Accretion income 28,272 13,774
Accelerated depreciation 56,869 14,363
Total Liabilities 138,615 101,820
Net Tax Asset $ 275,337 $ 241,983
<PAGE> 35
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
HIGHLANDS BANKSHARES, INC.
NOTE 9 INCOME TAX EXPENSE (CONTINUED):
The following table summarizes the difference between income tax
expense and the amount computed by applying the federal statutory
income tax rate of 34 percent for the years ended December 31:
1996 1995 1994
Amounts at federal statutory
rates $1,008,779 $ 954,912 $ 958,497
(Reductions) additions
resulting from:
Tax-exempt income (77,900) (54,343) (59,428)
Partially exempt income (39,771) (35,739) (29,771)
State income taxes, net 69,538 86,179 72,451
Other (6,772) 5,076 2,352
Income tax expense $ 953,874 $ 956,085 $ 944,101
NOTE 10 EMPLOYEE BENEFITS:
The Company's two subsidiary banks each have separate retirement
and profit sharing plans which cover substantially all full time
employees at each bank. The Capon Valley Bank has a defined
contribution pension plan that is funded with insurance contracts
and various other investments and contains Code Section 401(k)
feature with limited matching of employee deferred IRA's.
The Grant County Bank is a member of the West Virginia Bankers'
Association Retirement Plan. Benefits under the plan are based
on compensation and years of service with 100% vesting after
seven years of service. The Plan's assets are in excess of the
projected benefit obligations and thus the Bank was not able to
make contributions to the Plan in 1996, 1995 or 1994. The
amounts of the prepaid expense and the net pension expense
reflected in operations are insignificant. In addition, The
Grant County Bank also maintains a profit sharing plan covering
substantially all employees to which contributions are made at
the discretion of the Board of Directors.
The Company has established an employee stock ownership plan
which will provide stock ownership to all employees of the
Company. The Plan provides total vesting upon the attainment of
seven years of service. Contributions to the plan are made at
the discretion of the Board of Directors and are allocated based
on the compensation of each employee relative to total
compensation paid by the Company. All shares held by the Plan
will be considered outstanding in the computation of earnings per
share. Shares of Company stock when distributed will have
restrictions on transferability.
Deferred compensation expenses for the above benefits charged to
operations totaled $206,893 in 1996, $139,371 in 1995 and $78,321
in 1994.
<PAGE> 36
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
HIGHLANDS BANKSHARES, INC.
NOTE 11 RESTRICTIONS ON DIVIDENDS OF SUBSIDIARY BANKS:
The principal source of funds of Highlands Bankshares, Inc. is
dividends paid by subsidiary banks. The various regulatory
authorities impose restrictions on dividends paid by a state
bank. A state bank cannot pay dividends (without the consent of
state banking authorities) in excess of the total net profits of
the current year and the combined retained profits of the
previous two years. As of January 1, 1997, the banks could pay
dividends to the Company of approximately $2,692,407 without
permission of the regulatory authorities.
NOTE 12 TRANSACTIONS WITH RELATED PARTIES:
During the year, officers and directors (and companies controlled
by them) were customers of and had transactions with the
subsidiary Banks in the normal course of business. These
transactions were made on substantially the same terms as those
prevailing for other customers and did not involve any abnormal
risk. The aggregate amount of loans to related parties of
$1,373,185 at December 31, 1995, was increased $853,489 by new
loans and reduced $783,422 by payments, resulting in an ending
balance of $1,443,252 at December 31, 1996.
NOTE 13 COMMITMENTS AND GUARANTEES:
The Banks make commitments to extend credit in the normal course
of business and issues standby letters of credit to meet the
financing needs of its customers. The amount of the commitments
represents the Banks' exposure to credit loss that is not
included in the balance sheet. As of the balance sheet dates,
the Banks had outstanding the following commitments:
1996 1995
Commitments to extend credit $ 5,743,000 $ 4,131,000
Standby letters of credit 677,000 658,000
The Banks use the same credit policies in making commitments and
issuing letters of credit as it does for the loans reflected in
the balance sheet.
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 Banks evaluate each
customer's creditworthiness on a case-by-case basis. The amount
of collateral obtained, if deemed necessary by the Banks upon
extension of credit, is based on management's credit evaluation
of the borrower. Collateral held varies but may include accounts
receivable, inventory, property, plant and equipment.
<PAGE> 37
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
HIGHLANDS BANKSHARES, INC.
NOTE 14 CONCENTRATIONS OF CREDIT:
The Banks grant commercial, residential real estate and consumer
loans to customers located primarily in the eastern portion of
the State of West Virginia. Although the Banks have a
diversified loan portfolio, a substantial portion of its debtors'
ability to honor their contracts is dependent upon the
agribusiness economic sector. Collateral required by the Banks
is determined on an individual basis depending on the purpose of
the loan and the financial condition of the borrower. The
ultimate collectibility of the loan portfolios is susceptible to
changes in local economic conditions. Approximately 59% of the
loan portfolio is secured by real estate. See note 5 for a
complete breakdown of loans by type.
The Bank has cash deposited in and federal funds sold to other
commercial banks totaling $3,511,000 and $7,200,000 at December
31, 1996 and 1995, respectively.
NOTE 15 DISCLOSURES ABOUT FAIR VALUE OF FINANCIAL INSTRUMENTS:
The fair value of the Company's assets and liabilities is
influenced heavily by market conditions. Fair value applies to
both assets and liabilities, either on or off the balance sheet.
Fair value is defined as the amount at which a financial
instrument could be exchanged in a current transaction between
willing parties, other than in a forced or liquidation sale.
The following methods and assumptions were used to estimate the
fair value of each class of financial instruments for which it is
practicable to estimate that value:
Cash, Due from Banks and Money Market Investments
The carrying amount of cash, due from bank balances, interest
bearing deposits and federal funds sold is a reasonable estimate
of fair value.
Securities
Fair values of securities are based on quoted market prices or
dealer quotes. If a quoted market price is not available, fair
value is estimated using quoted market prices for similar
securities.
Loans
The fair value 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, taking into consideration the credit risk
in various loan categories.
Deposits
The fair value of demand, interest checking, regular savings and
money market deposits is the amount payable on demand at the
reporting date. The fair value of fixed maturity certificates of
deposit is estimated using the rates currently offered for
deposits of similar remaining maturities.
<PAGE> 38
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
HIGHLANDS BANKSHARES, INC.
NOTE 15 DISCLOSURES ABOUT FAIR VALUE OF FINANCIAL INSTRUMENTS
(CONTINUED):
Interest Payable and Receivable
The carrying value of amounts of interest receivable and payable
is a reasonable estimate of fair value.
Off-Balance-Sheet Items
The carrying amount and estimated fair value of off-balance-sheet
items were not material at December 31, 1996.
The estimated fair values of financial instruments as of December
31 are as follows:
<TABLE>
<CAPTION>
1996 1995
Estimated Estimated
Carrying Fair Carrying Fair
Amount Value Amount Value
<S> <C> <C> <C> <C>
Financial Assets:
Cash and due from banks $ 3,195,822 $ 3,195,822 $ 3,286,864 $ 3,286,864
Interest bearing deposits 833,626 833,626 994,583 994,583
Federal funds sold 2,494,077 2,494,077 6,016,352 6,016,352
Securities held to maturity 8,558,956 8,620,109 9,807,434 9,980,008
Securities available for sale 33,056,700 33,056,700 29,040,278 29,040,278
Other investments 638,850 638,850 552,450 552,450
Loans, net 123,343,418 123,592,407 112,616,354 112,266,874
Interest receivable 1,361,433 1,361,433 1,302,613 1,302,613
Financial Liabilities:
Demand deposits 60,516,708 60,516,708 60,519,176 60,519,176
Term deposits 96,592,399 96,535,118 87,193,536 87,165,364
Borrowed money 141,616 141,616 157,460 157,460
Interest payable 795,000 795,000 684,520 684,250
</TABLE>
NOTE 16 REGULATORY MATTERS:
The Company is subject to various regulatory capital requirements
administered by the federal banking agencies. Failure to meet
minimum capital requirements can initiate certain mandatory - and
possibly additional discretionary - actions by regulators that,
if undertaken, could have a direct material effect on the
Company's financial statements. Under capital adequacy
guidelines and the regulatory framework for prompt corrective
action, the Company must meet specific capital guidelines that
involve quantitative measures of the Company's assets,
liabilities, and certain off-balance-sheet items as calculated
under regulatory accounting practices. The Company's capital
amounts and classification are also subject to qualitative
judgments by the regulators about components, risk weightings and
other factors.
<PAGE> 39
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
HIGHLANDS BANKSHARES, INC.
NOTE 16 REGULATORY MATTERS (CONTINUED):
Quantitative measures established by regulation to ensure capital
adequacy require the Company to maintain minimum amounts and
ratios (set forth in the table below) of total and Tier I capital
(as defined in the regulations) to risk-weighted assets (as
defined), and of Tier I capital (as defined) to average assets
(as defined). Management believes, as of December 31, 1996 and
1995, that the Company meets all capital adequacy requirements to
which it is subject.
To be categorized as well capitalized the Company must maintain
minimum total risk-based, Tier I risk-based, and Tier I leverage
ratios as set forth in the table. There are no conditions or
events that management believes have changed the Company's
category from a well capitalized status.
The Company's actual capital ratios are presented in the
following table:
Actual Regulatory Requirements
December Adequately Well
1996 1995 Capitalized Capitalized
Total risk-based
ratio 18.82% 19.16% 8.00% 10.00%
Tier 1 risk-based
ratio 18.85% 19.02% 4.00% 6.00%
Total assets leverage
ratio 11.58% 11.72% 3.00% 5.00%
Capital ratios and amounts are applicable both at the individual
bank level and on a consolidated basis. At December 31, 1996,
both subsidiary banks had capital levels far in excess of minimum
requirements. As such, both banks qualified as "well capitalized
banks" for FDIC insurance purposes and thus were charged the
minimum rate for insurance coverage.
<PAGE> 40
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
HIGHLANDS BANKSHARES, INC.
NOTE 17 PARENT CORPORATION ONLY FINANCIAL STATEMENTS:
BALANCE SHEETS
Assets December 31,
1996 1995
Cash $ 29,819 $ 89,117
Investment in subsidiaries 20,087,421 18,682,887
Other investments 100,000 100,000
Other assets 652 589
Income taxes receivable 11,565 31,176
Total Assets $20,229,457 $18,903,769
Liabilities
Due to subsidiaries $ $ 41,738
Total Liabilities 41,738
Stockholders' Equity
Common stock, par value $5
per share authorized
1,000,000 shares; 546,764
shares issued 2,733,820 2,733,820
Surplus 1,661,987 1,661,987
Retained earnings 16,478,655 14,948,757
Net unrealized gains (losses)
on securities
available for sale (151,192) 11,280
20,723,270 19,355,844
Less treasury stock (32,698
shares, at cost) (493,813) (493,813)
Total Stockholders' Equity 20,229,457 18,862,031
Total Liabilities and Stockholders'
Equity $20,229,457 $18,903,769
<PAGE> 41
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
HIGHLANDS BANKSHARES, INC.
NOTE 17 PARENT CORPORATION ONLY FINANCIAL STATEMENTS (CONTINUED):
STATEMENTS OF INCOME AND RETAINED EARNINGS
Years Ended December 31,
1996 1995 1994
Income
Dividends from
subsidiaries $ 483,226 $ 451,675 $ 395,128
Other dividends 630 630 630
Total 483,856 452,305 395,758
Expenses
Professional fees 34,478 22,203 22,449
Advertising 3,320 3,452 1,588
Other expenses 18,754 26,189 26,734
Total 56,552 51,844 50,771
Net income before
income tax benefit
and undistributed
income of
subsidiaries 427,304 400,461 344,987
Income tax benefit (18,815) (20,112) (19,791)
Income before
undistributed income
of subsidiaries 446,119 420,573 364,778
Undistributed income of
subsidiaries 1,567,005 1,431,908 1,510,228
Net Income 2,013,124 1,852,481 1,875,006
Retained earnings,
Beginning of period 14,948,757 13,522,947 12,018,069
Dividends paid (483,226) (426,671) (370,128)
Retained Earnings,
End of Period $16,478,655 $ 14,948,757 $ 13,522,947
<PAGE> 42
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
HIGHLANDS BANKSHARES, INC.
NOTE 17 PARENT CORPORATION ONLY FINANCIAL STATEMENTS (CONTINUED):
STATEMENTS OF CASH FLOWS
Years Ended December 31,
1996 1995 1994
Cash Flows from Operating
Activities:
Net income $ 2,013,124 $1,852,481 $1,875,006
Adjustments
Undistributed
subsidiary income (1,567,005) (1,431,908) (1,510,228)
Depreciation 408 391 663
Increase (decrease)
in payables (41,738) 16,901 (55,877)
(Increase) decrease in
receivables 19,139 (31,176) 1,171
Net Cash Provided by
Operating
Activities 423,928 406,689 310,735
Cash Flows from Financing
Activities:
Dividends paid (483,226) (426,671) (370,128)
Net Cash Used in
Financing
Activities (483,226) (426,671) (370,128)
Net Decrease in Cash (59,298) (19,982) (59,393)
Cash, Beginning of Year 89,117 109,099 168,492
Cash, End of Year $ 29,819 $ 89,117 $ 109,099
<PAGE> 43
INDEPENDENT AUDITORS' REPORT
The Stockholders and Board of Directors
Highlands Bankshares, Inc.
Petersburg, West Virginia
We have audited the accompanying consolidated balance sheets of Highlands
Bankshares, Inc. and subsidiaries as of December 31, 1996 and 1995, and the
related consolidated statements of income, changes in stockholders' equity
and cash flows for each of the years in the three year period ended
December 31, 1996. These financial statements are the responsibility of
the Company'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 financial statements referred to above present fairly,
in all material respects, the consolidated financial position of Highlands
Bankshares, Inc. and subsidiaries as of December 31, 1996 and 1995, and the
consolidated results of their operations and their cash flows for each of
the years in the three year period ended December 31, 1996, in conformity
with generally accepted accounting principles.
S. B. HOOVER & COMPANY, L.L.P.
January 17, 1997
Harrisonburg, Virginia
<PAGE> 44
Item 8. Changes in and Disagreements with Accountants on Accounting and
Financial Disclosure
None
Part III
Item 9. Directors and Executive Officers
We are incorporating the Proxy Statement of Highlands Bankshares, Inc.
via Form DEF 14A filed March 17, 1997.
Item 10. Executive Compensation
We are incorporating the Proxy Statement of Highlands Bankshares, Inc.
via Form DEF 14A filed March 17, 1997.
Item 11. Security Ownership of Certain Beneficial Owners and Management
We are incorporating the Proxy Statement of Highlands Bankshares, Inc.
via Form DEF 14A filed March 17, 1997.
Item 12. Certain Relationships and Related Transactions
We are incorporating the Proxy Statement of Highlands Bankshares, Inc.
via Form DEF 14A filed March 17, 1997.
Most of the directors, partnerships of which they may be general
partners and corporations of which they are officers or directors, maintain
normal banking relationships with the Bank. Loans made by the Bank to such
persons or other entities were made only in the ordinary course of
business, were made on substantially the same terms, including interest
rates and collateral, as those prevailing at the time for comparable
transactions with other persons, and did not involve more than normal risk
of collectibility or present other unfavorable features. See Note 12 of
the consolidated financial statements.
John VanMeter is a partner with the law firm of VanMeter and VanMeter,
which has been retained by the Company as legal counsel and it is
anticipated that the relationship will continue. Jack H. Walters is a
partner with the law firm of Walters & Krauskopf, which provides legal
counsel to the Company and it is anticipated that the relationship will
continue.
Part IV
Item 13. Exhibits and Reports on Form 8-K
a) Exhibits
Exhibit No. Description
2 Not applicable
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.
<PAGE> 45
Item 13. Exhibits and Reports on Form 8-K (Continued)
a) Exhibits (Continued)
Exhibit No. Description
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.
4 Not applicable
9 Not applicable
10 Not applicable
11 Not applicable
12 Not applicable
16 Not applicable
18 Not applicable
21 Subsidiaries of the Small Business Issuer is
attached on Page 47
22 Not applicable
23 Consent of Certified Public Accountant attached on
Page 48
24 Not applicable
27 Financial Data Schedule attached
28 Not applicable
b) Reports on Form 8-K
No reports on Form 8-K were filed in the fourth quarter of 1996.
<PAGE> 46
SIGNATURES
Pursuant to the requirements of Section 13 or 15(d) 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.
By LESLIE A. BARR
Leslie A. Barr
President, Chief Executive Officer
Date March 24, 1997
By CLARENCE E. PORTER
Clarence E. Porter
Secretary/Treasurer,
Chief Financial Officer
and Chief Accounting Officer
Date March 27, 1997
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 and as of the date indicated.
Signature Title Date
LESLIE A. BARR President March 24, 1997
Leslie A. Barr & Chief Executive Officer
Director
COURTNEY R. TUSING Director March 26, 1997
Courtney R. Tusing
Director
George B. Moomau
CLARENCE E. PORTER Secretary/Treasurer March 27, 1997
Clarence E. Porter Chief Financial
and Accounting Officer
Director
Director
Harold B. Roby
JOHN G. VANMETER Chairman of the Board March 27, 1997
John G. VanMeter Director
JACK H. WALTERS Director March 26, 1997
Jack H. Walters
L KEITH WOLFE Director March 27, 1997
L. Keith Wolfe
<PAGE> 47
Exhibit 21 - List of Subsidiaries of the Registrant
The following is a list of subsidiaries meeting the requirements of
Exhibit 21.
a) The Grant County Bank (incorporated in West Virginia), doing
business as The Grant County Bank.
b) Capon Valley Bank (incorporated in West Virginia), doing business
as the Capon Valley Bank.
c) HBI Life Insurance Company, Inc. (incorporated in the state of
Arizona), doing business as HBI Life.
Exhibit 21
<PAGE> 48
Exhibit 23 - Consent of Certified Public Accountant
Board of Directors
Highlands Bankshares, Inc.
We consent to the use of our report, dated January 17, 1997, relating to
the consolidated balance sheets of Highlands Bankshares, Inc. as of
December 31, 1996 and 1995, and the related statements of income, changes
in stockholders' equity, and cash flows for each of the years in the three
year period ended December 31, 1996, which report appears on page 23 in the
December 31, 1996 Annual Report to Shareholders of Highlands Bankshares,
Inc. and page 43 of this 10KSB.
S. B. HOOVER & COMPANY, L.L.P.
Harrisonburg, VA
March 26, 1997
Exhibit 23
<TABLE> <S> <C>
<ARTICLE> 9
<LEGEND>
This schedule contains summary financial information extracted from Highlands
Bankshares, Inc. Form 10KSB and is qualified in its entirety by reference to
such financial statements.
</LEGEND>
<MULTIPLIER> 1,000
<S> <C>
<PERIOD-TYPE> YEAR
<FISCAL-YEAR-END> DEC-31-1996
<PERIOD-END> DEC-31-1996
<CASH> 3,196
<INT-BEARING-DEPOSITS> 834
<FED-FUNDS-SOLD> 2,494
<TRADING-ASSETS> 0
<INVESTMENTS-HELD-FOR-SALE> 33,057
<INVESTMENTS-CARRYING> 8,559
<INVESTMENTS-MARKET> 8,620
<LOANS> 124,601
<ALLOWANCE> (1,257)
<TOTAL-ASSETS> 178,847
<DEPOSITS> 157,109
<SHORT-TERM> 0
<LIABILITIES-OTHER> 1,367
<LONG-TERM> 142
0
0
<COMMON> 2,734
<OTHER-SE> 17,495
<TOTAL-LIABILITIES-AND-EQUITY> 178,847
<INTEREST-LOAN> 11,135
<INTEREST-INVEST> 2,715
<INTEREST-OTHER> 333
<INTEREST-TOTAL> 14,183
<INTEREST-DEPOSIT> 7,093
<INTEREST-EXPENSE> 7,103
<INTEREST-INCOME-NET> 7,080
<LOAN-LOSSES> 135
<SECURITIES-GAINS> (30)
<EXPENSE-OTHER> 4,570
<INCOME-PRETAX> 2,967
<INCOME-PRE-EXTRAORDINARY> 2,013
<EXTRAORDINARY> 0
<CHANGES> 0
<NET-INCOME> 2,013
<EPS-PRIMARY> 3.92
<EPS-DILUTED> 3.92
<YIELD-ACTUAL> 4.32
<LOANS-NON> 0
<LOANS-PAST> 381
<LOANS-TROUBLED> 0
<LOANS-PROBLEM> 0
<ALLOWANCE-OPEN> 1,319
<CHARGE-OFFS> 337
<RECOVERIES> 140
<ALLOWANCE-CLOSE> 1,257
<ALLOWANCE-DOMESTIC> 1,257
<ALLOWANCE-FOREIGN> 0
<ALLOWANCE-UNALLOCATED> 0
</TABLE>
