UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D. C. 20549
FORM 10-QSB
Quarterly Report Under Section 13 or 15(d)
of the Securities Exchange Act of 1934
For Quarter Ended Commission File No. 0-16761
June 30, 1998
HIGHLANDS BANKSHARES, INC.
West Virginia 55-0650793
(State or Other Jurisdiction of (I.R.S. Employer
Incorporation or Organization) Identification No.)
P.O. Box 929
Petersburg, West Virginia 26847
(304) 257-4111
(Registrant's Telephone Number, Including Area Code)
Indicate by check mark whether the registrant (1) filed all reports
required to be filed by Section 13 or 15(d) of the Securities Exchange Act of
1934 during the past 12 months (or for such shorter period that the registrant
was required to file such reports), and (2) has been subject to such filing
requirement for the past 90 days. Yes ..X. No ....
State the number of shares outstanding of each of the issuer's classes of
common equity, as of the latest practicable date.
Class Outstanding at June 30, 1998
Common Stock, par value - $5 501,898 shares
<PAGE> 1
HIGHLANDS BANKSHARES, INC.
INDEX
Page
PART I FINANCIAL INFORMATION 2
Item 1. Financial Statements
Consolidated Statements of Income - Six Months
Ended June 30, 1998 and 1997 2
Consolidated Statements of Income - Three Months
Ended June 30, 1998 and 1997 3
Consolidated Balance Sheets - June 30, 1998 and
December 31, 1997 4
Consolidated Statements of Changes in Stockholders'
Equity - Six Months Ended June 30, 1998 and 1997 5
Consolidated Statements of Cash Flows - Six Months
Ended June 30, 1998 and 1997 6
Notes to Consolidated Financial Statements 7
Item 2. Management's Discussion and Analysis of
Financial Condition and Results of Operations 9
PART II OTHER INFORMATION 18
Item 1. Legal Proceedings 18
Item 2. Changes in Securities 18
Item 3. Defaults upon Senior Securities 18
Item 4. Submission of Matters to a Vote of Security Holders 18
Item 5. Other Information 18
Item 6. Exhibits and Reports on Form 8K 18
SIGNATURES 20
<PAGE> 2
Part I Financial Information
Item 1 Financial Statements
HIGHLANDS BANKSHARES, INC.
CONSOLIDATED STATEMENTS OF INCOME
(In Thousands of Dollars)
Six Months Ended
June 30,
1998 1997
Interest Income
Interest and fees on loans $ 6,417 $ 5,968
Interest on federal funds sold 195 122
Interest on time deposits 17 19
Interest and dividends on investment securities
Taxable 1,041 1,186
Nontaxable 87 95
------- ------
Total Interest Income 7,757 7,390
------- ------
Interest Expense
Interest on time deposits over $100,000 707 661
Interest on other deposits 3,097 2,936
Interest on borrowed money 12 37
------- ------
Total Interest Expense 3,816 3,634
------- ------
Net Interest Income 3,941 3,756
Provision for Loan Losses 120 90
------- ------
Net Interest Income After Provision for Loan Losses 3,821 3,666
------- ------
Noninterest Income
Service charges 161 140
Other 145 180
Gain (loss) on security transactions (3) 7
------- ------
Total Noninterest Income 303 327
------- ------
Noninterest Expense
Salaries and employee benefits 1,456 1,415
Occupancy expense 128 119
Equipment expense 220 219
Data processing 227 217
Other 625 579
------- ------
Total Noninterest Expense 2,656 2,549
------- ------
Income Before Income Taxes 1,468 1,444
Provision for Income Taxes 506 481
------- ------
Net Income $ 962 $ 963
======= ======
Per Share Data
Net Income $ 1.92 $ 1.90
======= ======
Cash Dividends $ .54 $ .50
======= ======
Weighted Average Common Shares Outstanding 501,898 506,723
======= =======
The accompanying notes are an integral part of these statements.
<PAGE> 3
HIGHLANDS BANKSHARES, INC.
CONSOLIDATED STATEMENTS OF INCOME
(In Thousands of Dollars Except Per Share Amounts)
Three Months Ended
June 30,
1998 1997
Interest Income
Interest and fees on loans $ 3,260 $ 3,033
Interest on federal funds sold 105 77
Interest on time deposits 7 9
Interest and dividends on investment securities
Taxable 512 595
Nontaxable 43 46
------- ------
Total Interest Income 3,927 3,760
------- ------
Interest Expense
Interest on time deposits over $100,000 356 339
Interest on other deposits 1,566 1,500
Interest on borrowed money 9 25
------- ------
Total Interest Expense 1,931 1,864
------- ------
Net Interest Income 1,996 1,896
Provision for Loan Losses 60 45
------- ------
Net Interest Income After Provision for Loan Losses 1,936 1,851
------- ------
Noninterest Income
Service charges 87 69
Other income 55 104
Investment security gains (losses) (3) 2
------- ------
Total Noninterest Income 139 175
------- ------
Noninterest Expense
Salaries and employee benefits 738 724
Occupancy expense 61 58
Equipment expense 110 106
Data processing expense 117 109
Other 313 295
------- ------
Total Noninterest Expense 1,339 1,292
------- ------
Income Before Income Taxes 736 734
Provision for Income Taxes 271 251
------- ------
Net Income $ 465 $ 483
======= ======
Per Share Data
Net Income $ .93 $ .96
======= ======
Cash Dividends $ .27 $ .25
======= ======
Weighted Average Common Shares Outstanding 501,898 501,898
======= =======
The accompanying notes are an integral part of these statements.
<PAGE> 4
HIGHLANDS BANKSHARES, INC.
CONSOLIDATED BALANCE SHEETS
(In Thousands of Dollars)
June 30, December 31,
1998 1997
ASSETS
Cash and due from banks - noninterest bearing $ 4,719 $ 3,246
Time deposits in other banks 848 827
Federal funds sold 6,860 6,895
Securities held to maturity (note 2) 3,757 4,577
Securities available for sale (note 3) 30,970 31,683
Other investments 731 715
Loans, net of unearned interest (note 4) 142,871 137,105
Less allowance for loan losses (note 5) (1,358) (1,370)
------- -------
Net Loans 141,513 135,735
Bank premises and equipment 4,622 4,773
Interest receivable 1,625 1,548
Investment in insurance contracts 2,101
Deferred income tax benefits 166 165
Other assets 522 606
------- -------
Total Assets $198,434 $190,770
======= =======
LIABILITIES
Deposits:
Noninterest bearing
Demand deposits $ 17,050 $ 15,952
Interest bearing
Money market and checking 17,428 15,774
Money market savings 12,115 12,179
Savings 20,861 19,389
Time deposits over $100,000 23,951 23,328
All other time deposits 82,904 81,314
------- -------
Total Deposits 174,309 167,936
Borrowed money 743 226
Accrued expenses and other liabilities 1,396 1,311
------- -------
Total Liabilities 176,448 169,473
------- -------
STOCKHOLDERS' EQUITY
Common stock ($5 par value, 1,000,000 shares
authorized, 546,764 shares issued) 2,734 2,734
Surplus 1,662 1,662
Retained earnings 18,545 17,854
Net unrealized loss on securities available for sale 38 40
------- -------
22,979 22,290
Treasury stock (at cost, 44,866 shares in 1998 and 1997) (993) (993)
-------- ------
Total Stockholders' Equity 21,986 21,297
------- -------
Total Liabilities and Stockholders' Equity $198,434 $190,770
The accompanying notes are an integral part of these statements.
<PAGE> 5
<TABLE>
HIGHLANDS BANKSHARES, INC.
CONSOLIDATED STATEMENTS OF CHANGES IN STOCKHOLDERS' EQUITY
(In Thousands of Dollars)
<CAPTION>
Accumulated
Other
Treasury Common Retained Comprehensive
Stock Stock Surplus Earnings Income (Loss) Total
<S> <C> <C> <C> <C> <C> <C>
Balance, December 31, 1996 $ (494) $ 2,734 $ 1,662 $16,478 $ (151) $20,229
Comprehensive Income
Net Income 963 963
Net change in unrealized
depreciation on
investment securities
available for sale,
net of taxes (19) (19)
----- ------ ------ ------ ------ ------
Total Comprehensive
Income 963 (19) 944
Purchase of treasury
stock (499) (499)
Dividends paid (253) (253)
----- ------ ------ ------ ------ ------
Balances, June 30, 1997 $ (993) $ 2,734 $ 1,662 $17,188 $ (170) $20,421
===== ====== ====== ====== ====== ======
Accumulated
Other
Treasury Common Retained Comprehensive
Stock Stock Surplus Earnings Income (Loss) Total
Balance, December 31, 1997 $ (993) $ 2,734 $ 1,662 $17,854 $ 40 $21,297
Comprehensive Income
Net Income 962 962
Net change in unrealized
depreciation on
investment securities
available for sale,
net of taxes (2) (2)
----- ------ ------ ------ ------ ------
Total Comprehensive Income 962 (2) 960
Dividends paid (271) (271)
----- ------ ------ ------ ------ ------
Balances, June 30, 1998 $ (993) $ 2,734 $ 1,662 $18,545 $ 38 $21,986
===== ====== ====== ====== ====== ======
</TABLE>
The accompanying notes are an integral part of these statements.
<PAGE> 6
HIGHLANDS BANKSHARES, INC.
CONSOLIDATED STATEMENTS OF CASH FLOWS
(In Thousands of Dollars)
Six Months Ended
June 30,
1998 1997
Cash Flows from Operating Activities:
Net income $ 962 $ 963
Adjustments to reconcile net income to net
cash provided by operating activities:
(Gain) loss on securities transactions 3 (7)
Depreciation 184 191
Net securities accretion (1) (5)
Provision for loan losses 120 90
Increase in interest receivable (77) (175)
Decrease in other assets 84 44
Increase in accrued expenses 85 55
------- ------
Net Cash Provided by Operating Activities 1,360 1,156
------- ------
Cash Flows from Investing Activities:
Net change in federal funds sold 35 (3,599)
Proceeds from maturities of securities
available for sale 5,061 4,484
Proceeds from maturities of securities held
to maturity 819 932
Purchase of other investments (16) (76)
Net change in time deposits in other banks (21) 267
Purchase of securities available for sale (4,352) (3,481)
Net change in loans (5,898) (6,559)
Purchase of property and equipment (33) (561)
Investment in insurance contracts (2,101)
------- ------
Net Cash Consumed by Investing Activities (6,506) (8,593)
------- ------
Cash Flows from Financing Activities:
Net increase in deposits 6,373 7,193
Dividends paid in cash (271) (253)
Purchase of treasury stock (499)
Other borrowed money 517 2,491
------- ------
Net Cash Provided by Financing Activities 6,619 8,932
------- ------
Net Increase in Cash and Cash Equivalents 1,473 1,495
Cash and Cash Equivalents, Beginning of Period 3,246 3,195
------- ------
Cash and Cash Equivalents, End of Period $ 4,719 $ 4,690
======= ======
Supplemental Disclosures:
Cash Paid For:
Income taxes $ 454 $ 421
Interest 3,836 3,695
The accompanying notes are an integral part of these statements.
<PAGE> 7
HIGHLANDS BANKSHARES, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE 1 ACCOUNTING PRINCIPLES:
The consolidated financial statements conform to generally accepted
accounting principles and to general industry practices. In the
opinion of management, the accompanying unaudited consolidated
financial statements contain all adjustments (consisting of only
normal recurring accruals) necessary to present fairly the financial
position as of June 30, 1998, and the results of operations for the
six month periods ended June 30, 1998 and 1997. The notes included
herein should be read in conjunction with the notes to financial
statements included in the 1997 annual report to stockholders of
Highlands Bankshares, Inc.
The Company does not expect the anticipated adoption of any newly
issued accounting standards to have a material impact on future
operations or financial position.
NOTE 2 SECURITIES HELD TO MATURITY:
The amortized cost and fair value of securities held to maturity as
of June 30, 1998 and December 31, 1997, are as follows:
1998 1997
-----------------------------------------
Amortized Fair Amortized Fair
Cost Value Cost Value
US Treasury securities and
obligations of US Government
corporations and agencies $ 770 $ 775 $ 1,282 $ 1,287
Obligations of states and
political subdivisions 2,987 3,076 3,295 3,390
------ ------ ----- ------
Total $ 3,757 $ 3,851 $ 4,577 $ 4,677
====== ====== ===== ======
NOTE 3 SECURITIES AVAILABLE FOR SALE:
The amortized cost and fair value of securities available for sale
as of June 30, 1998 and December 31, 1997, are as follows:
1998 1997
-----------------------------------------
Amortized Fair Amortized Fair
Cost Value Cost Value
US Treasury securities and
obligations of US Government
corporations and agencies $ 30,038 $ 30,162 $ 30,889 $ 31,014
Obligations of states and
political subdivisions 255 256 100 101
Other investments 619 552 630 568
------ ------ ----- ------
Total $ 30,912 $ 30,970 $ 31,619 $ 31,683
====== ====== ====== ======
<PAGE> 8
HIGHLANDS BANKSHARES, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE 4 LOANS OUTSTANDING:
A summary of loans outstanding as of June 30, 1998 and December 31,
1997, is as follows:
1998 1997
Commercial $ 30,773 $ 30,717
Real estate - construction 3,518 2,189
- mortgages 77,887 75,221
Consumer installment 32,835 31,492
------- -------
Total 145,013 139,619
Unearned interest (2,142) (2,514)
------- -------
Net loans outstanding $142,871 $137,105
======= =======
NOTE 5 ALLOWANCE FOR LOAN LOSSES:
A summary of transactions in the allowance for loan losses for the
six months ended June 30, 1998 and 1997, follows:
1998 1997
Balance, beginning of period $ 1,370 $ 1,257
Provisions charged to operating expenses 120 90
Loan recoveries 38 93
Loan charge-offs (170) (150)
------- -------
Balance, end of period $ 1,358 $ 1,290
======= =======
NOTE 6 INVESTMENT IN INSURANCE CONTRACTS:
Investment in insurance contracts consist of two single premium
insurance contracts which have the dual purposes of providing a rate
of return to the Company which approximately equals the rate of return
on one year Treasury obligations and providing life insurance and
retirement benefits to employees. The carrying value of this
investment is $2,101,000 at June 30, 1998.
<PAGE> 9
Item 2 Management's Discussion and Analysis of Financial Condition and
Results of Operations
Overview
Year to Date Operations
The Company's six month income of $962,000 was virtually the same as 1997
earnings ($963,000) and represents an .89% increase in earnings per share
compared to 1997 operations. Earnings represented an annualized return on equity
of 8.89% for the first six months of 1998 compared to 9.56% for the same period
in 1997. The annualized return on average assets was .99% in the first six
months of 1998 compared with 1.05% in the first six months of 1997.
The tax equivalent net interest income increased by $180,000 in 1998 as the
result of an increased level of income earning assets. While returns on loans
declined twenty basis points, yields on fed funds and taxable investments
increased by four basis points. A decline of eleven basis points in the overall
cost of funds was the result of lowers costs on time deposits. The net interest
margin was 4.34% for the first six months of 1998 compared to 4.38% for the same
period in 1997.
Noninterest income decreased 7.34% in 1998 compared to 1997 due mainly to a
decline in income from insurance operations. Noninterest expenses increased
4.20% in 1998 due to a full six months of operating costs at the new branch in
Baker which opened in April 1997.
Quarter Ending June 30 Operations
Overall net income for the quarter ending June 30, 1998 declined 3.73% when
compared to 1997 operations. With fewer average shares outstanding in 1998 than
1997, the decline in earnings per share was 3.13%. Increases in all expenses due
to expanded operations and a decline of 20.57% in nonoperating income were
responsible for the decline in earnings.
Net Interest Income
Year to Date Operations
The Company's net interest margin on a tax equivalent basis was $3,992,000
in the first six months of 1998 compared to $3,812,000 for 1997. The 4.72%
increase was due to a decline in the costs of deposits that exceeded the decline
in the yields on assets. Average loans outstanding grew by 9.85% from 1997 to
1998. This growth reflects good local economic conditions, moderate interest
rates and expanded banking facilities. The overall costs of funds reflects the
high level of competition for deposits in the Company's service areas which have
traditionally paid higher rates on deposits than larger statewide financial
institutions. The deposit increase represents growth in all types of accounts
(except money market saving accounts) and has been obtained from customers in
the immediate service areas.
Loans outstanding at June 30, 1998 increased 8.98% over amounts at June 30,
1997 and 8.41% on annualized basis since December 31, 1997. The increase in
loans has been the result of opening branches in new market areas and a
concerted effort to increase lending in existing markets. Loan growth has been
funded primarily by deposit growth with a slight decline in the level of
security investments. The 2.53% increase in the tax equivalent net interest
margin for the second quarter of 1998 over the first quarter of 1998 is the
result of stable costs of funds on all types of deposit accounts and the growth
in earning assets of 5.50% over 1997 average balances. Barring any future
increases in interest rates by the Federal Reserve Bank, the Company anticipates
its net interest margin remaining stable or increasing slightly as rates paid on
deposits are expected to remain stable or decline slightly over the next twelve
months and returns on and the levels of earning assets are expected to remain
stable during this period.
<PAGE> 10
Item 2 Management's Discussion and Analysis of Financial Condition and
Results of Operations (Continued)
Net Interest Income (Continued)
Quarter Ending June 30 Operations
The Company's net interest income on a tax equivalent basis was 4.35% of
earning assets ($2,021,000) for the quarter ending June 30, 1998 compared to
4.34% ($1,923,000) for the same period in 1997. Increased income from loans was
the result of increases in volume as the level of average loans outstanding rose
in the period and market rates declined slightly. Yields on investment
securities and short term investments fluctuated only slightly from 1997
operations. Helping improve the net interest margin was a decrease in rates paid
on interest bearing liabilities from 5.00% in 1997 to 4.88% in 1998. The decline
was the result of stable rates on a national level and historically low rates on
savings and transaction accounts. The Company expects future deposit rates to
remain stable or decline slightly in the second half of 1998 as local rates move
towards those of state and national competition.
A complete yield analysis is shown as Table I on page 16.
Noninterest Income
Year to Date Operations
Noninterest income for the period ending June 30, 1998 declined 7.34% from
amounts at June 30, 1997. An increase in service charge income of 15.28% was the
result of an increased volume on deposit accounts. Declines in income on
insurance operations of 57.83% was the result of a number of unusually large
claims incurred within the second quarter of the year. All other noninterest
income increased 13.40% in the first six months.
Quarter Ending June 30 Operations
Noninterest interest income for the quarter ending June 30, 1998 declined
20.57% as the result of lower insurance income. The decline in income from
insurance operations was the result of a number of large death claims, some of
which were due to accidents. Exclusive of the decline in insurance income,
noninterest income rose 12.12% in the quarter.
Noninterest Expenses
Year to Date Operations
Overall, noninterest expense increased 4.20% in the first six months of 1998
when compared to the same period in 1997. Personnel expenses increased 2.90% as
the result of inflation and staffing changes. Occupancy and equipment expenses
increased 2.96% as the result of slightly higher depreciation on recent
acquisitions. Data processing expenses increased by 4.61% as a result of asset
growth. Other noninterest expenses increased by 7.94% due to asset growth and
inflation. The overall increase in noninterest expenses of 4.20% is in line with
the 4.02% increase in assets and is in line with management's expectations.
<PAGE> 11
Item 2 Management's Discussion and Analysis of Financial Condition and
Results of Operations (Continued)
Noninterest Expenses (Continued)
Quarter Ending June 30 Operations
Overall, noninterest expenses increased 3.64% for the quarter ending June
30, 1998 compared to the quarter ending June 30, 1997. The reasons for the
quarterly increase are the same as for the year-to-date increases and the
percentage increases for the quarters are relatively the same as the
year-to-date increases.
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, Mineral, northern Pendleton
and southeastern Hampshire counties. Consistent with its focus on providing
community-based financial services, the Company does not attempt to diversify
its loan portfolio geographically by making significant amounts of loans to
borrowers outside of its primary service area.
The principal economic risk associated with each of the categories of loans
in the Company's portfolio is the creditworthiness of its borrowers. Within each
category, such risk is increased or decreased depending on prevailing economic
conditions. The risk associated with the real estate mortgage loans and
installment loans to individuals varies based upon employment levels, consumer
confidence, fluctuations in value of residential real estate and other
conditions that affect the ability of consumers to repay indebtedness. The risk
associated with commercial, financial and agricultural loans varies based upon
the strength and activity of the local economies of the Company's market areas.
The risk associated with real estate construction loans varies based upon the
supply of and demand for the type of real estate under construction.
Loans outstanding increased $5,766,000 or 4.21% in the first six months in
1998. The bulk of this increase was in real estate mortgage loans, mortgage and
construction loans, and consumer installment loans. The loan to deposit ratio
was 81.96% at June 30, 1998 compared to 81.64% at December 31, 1997. Management
believes this level of lending activity is satisfactory to generate adequate
earnings without undue credit risk. Loan demand is expected to remain
satisfactory in the near future with any growth a function of local and national
economic conditions.
Asset Quality
Nonperforming loans include nonaccrual loans, loans 90 days or more past due
and restructured loans. Nonaccrual loans are loans on which interest accruals
have been suspended or discontinued permanently. Restructured loans are loans on
which the original interest rate or repayment terms have been changed due to
financial hardship of the borrower. The Company had no material restructured
loans at June 30, 1998, March 31, 1998 or December 31, 1997.
<PAGE> 12
Item 2 Management's Discussion and Analysis of Financial Condition and
Results of Operations (Continued)
Asset Quality (Continued)
Real estate acquired through foreclosure was $98,000 at June 30, 1998
compared to $174,000 at December 31, 1997. All foreclosed property held at June
30, 1998 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.
An inherent risk in the lending of money is that the borrower will not be
able to repay the loan under the terms of the original agreement. The allowance
for loan losses (see subsequent section) provides for this risk and is reviewed
periodically for adequacy. This review also considers concentrations of loans in
terms of geography, business type or level of risk. While lending is
geographically diversified within the service area, the Company does have some
concentration of loans in the area of agriculture (primarily poultry farming),
timber and related industries. Management recognizes these concentrations and
considers them when structuring its loan portfolio. As of June 30, 1998,
management is not aware of any significant potential problem loans in which the
debtor is currently meeting their obligations as stated in the loan agreement
but which may change in future periods.
Allowance for Loan Losses
Management evaluates the loan portfolio in light of national and local
economic changes, changes in the nature and value of the portfolio and industry
standards. The Company's loan classification system, which rates existing loans,
provides the basis for adjusting the allowance for loan losses. Management
reviews these classification totals, along with internally generated loan review
reports, past due reports, historical loan loss experience and individual
borrower's financial health to determine the necessary amount to be provided in
the allowance for loan losses. Management evaluates nonperforming loans relative
to their collateral value and makes the appropriate adjustments to the allowance
when needed.
The provision for credit losses and changes in the allowance for credit
losses are shown below (in thousands of dollars).
Quarter Ended Six Months Ended
June 30, June 30,
Allowance for credit losses 1998 1997 1998 1997
Balance, beginning of period $ 1,320 $ 1,287 $ 1,370 $ 1,257
Net charge-offs (recoveries)
Charge-offs 37 90 170 150
Recoveries (15) (48) (38) (93)
------ ------ ------ ------
Total net charge-offs * 22 42 132 57
Provision for credit losses 60 45 120 90
------ ------ ------ ------
Balance, End of Period $ 1,358 $ 1,290 $ 1,358 $ 1,290
====== ====== ====== ======
<PAGE> 13
Item 2 Management's Discussion and Analysis of Financial Condition and
Results of Operations (Continued)
Allowance for Loan Losses (Continued)
* Components of net charge-offs:
Real estate mortgages $ $ 19 $ $ 7
Commercial 2 16 105 16
Installment 20 7 27 34
------ ----- ------ ------
Total $ 22 $ 42 $ 132 $ 57
====== ====== ====== ======
The allowance for credit losses of $1,358,000 at June 30, 1998, was up
$38,000 from its level at March 31, 1998, and down $12,000 from December 31,
1997 levels. The allowance was equal to .95%, .94% and 1.00% of total loans at
June 30, 1998, March 31, 1998 and December 31, 1997, respectively. The Company
believes that its allowance must be viewed in its entirety and, therefore, is
available for potential credit losses in its entire portfolio, including loans,
credit-related commitments and other financial instruments. In the opinion of
management, the allowance, when taken as a whole, is adequate to absorb
reasonably estimated credit losses inherent in the Company's portfolio.
Securities
The Company's securities portfolio serves numerous purposes. Portions of
the portfolio may secure certain public and trust deposits. The remaining
portions are held as investments or used to assist the Company in liquidity and
asset/liability management. Total securities at June 30, 1998 were $35,458,000
compared to $36,975,000 at December 31, 1997. Securities as percent of total
assets were 17.87% at June 30, 1998 compared to 19.38% at December 31, 1997. The
decline in securities is a result of using the proceeds of maturing securities
to fund loan growth and lower yields offered on low risk investments.
The securities portfolio consists of two components, securities held to
maturity and securities available for sale. Securities are classified as held to
maturity when management has the intent and the Company has the ability at the
time of purchase to hold the securities to maturity. Held to maturity securities
are carried at cost, adjusted for amortization of premiums and accretion of
discounts. Securities to be held for indefinite periods of time are classified
as available for sale and accounted for at market value. Securities available
for sale include securities that may be sold in response to changes in market
interest rates, changes in the security's prepayment risk, increases in loan
demand, general liquidity needs and other similar factors. The Company's recent
purchases of all securities have generally been limited to securities of high
credit quality with short to medium term maturities. Changes within the year in
market values are reflected as changes in stockholders' equity, net of the
deferred tax effect. As of June 30, 1998, the cost of the securities available
for sale exceeded their market value by $58,000 ($38,000 after tax
considerations).
Deposits
The Company's main source of funds remains deposits received from
individuals, governmental entities and businesses located within the Company's
service area. Deposit accounts include demand deposits, savings, money market
and certificates of deposit.
<PAGE> 14
Item 2 Management's Discussion and Analysis of Financial Condition and
Results of Operations (Continued)
Deposits (Continued)
Total deposits increased 3.79% between December 31, 1997 and June 30, 1998,
and in almost all areas of accounts. The cost of funds for the first six months
of 1998 was 4.89% compared to 5.00% for the same period in 1997. The yields on
all deposits (except demand deposits) declined slightly within the period. The
majority of the Company's deposits are time deposits which are attractive to
persons seeking high yields on their deposits but without the need for
liquidity. The Company has not actively pursued deposits in excess of $100,000
due to the volatile nature of these relationships and saw only moderate
increases in these deposits in the first half of 1998.
Capital
The Company seeks to maintain a strong capital base to expand facilities,
promote public confidence, support current operations and grow at a manageable
level. As of June 30, 1998, the Company's total risk based capital ratio was
18.29% which is far above the regulatory minimum of 8.0%. The ratio of total
capital to total assets was 11.08% at June 30, 1998.
Liquidity
Liquidity is the ability to meet present and future financial obligations
through either the sale or maturity of existing assets or the acquisition of
additional funds through liability management. Liquid assets include cash,
interest bearing deposits with banks, federal funds sold, investments and loans
maturing within one year. The Company's ability to obtain deposits and purchase
funds at favorable rates determines its liquidity exposure. As a result of the
Company's management of liquid assets and the ability to generate liquidity
through liability funding, management believes that the Company maintains
overall liquidity sufficient to satisfy its depositors' requirements and meet
its customers' credit needs.
Additional sources of liquidity available to the Company include, but are
not limited to, loan repayments, the ability to obtain deposits through the
adjustment of interest rates and the purchasing of federal funds. To further
meet its liquidity needs, the Company also maintains lines of credit with
correspondent financial institutions and the Federal Reserve Bank of Richmond.
Both subsidiary banks have lines of credit with the Federal Home Loan Bank of
Pittsburgh although utilization has been insignificant. In the past, growth in
deposits and proceeds from the maturity of investment securities have been
sufficient to fund the net increase in loans and investment securities.
Interest Rate Sensitivity
In conjunction with maintaining a satisfactory level of liquidity,
management must also control the degree of interest rate risk assumed on the
balance sheet. Managing this risk involves regular monitoring of the interest
sensitive assets relative to interest sensitive liabilities over specific time
intervals.
<PAGE> 15
Item 2 Management's Discussion and Analysis of Financial Condition and
Results of Operations (Continued)
Interest Rate Sensitivity (Continued)
At June 30, 1998 the Company had a negative gap position. This liability
sensitive position typically produces an unfavorable contribution to earnings
during a period of increasing rates. With the largest amount of interest
sensitive assets and liabilities repricing within three years, the Company
monitors these areas very closely. Early withdrawal of deposits, prepayments of
loans and loan delinquencies are some of the factors that could affect actual
versus expected cash flows. In addition, changes in rates on interest sensitive
assets and liabilities may not be equal, which could result in a change in net
interest margin. While the Company does not match each of its interest sensitive
assets against specific interest sensitive liabilities, it does review its
positions regularly and takes actions to reposition itself when necessary.
Disclosure of Year 2000 Issues
The Company is working to resolve the potential impact of the year 2000 on
the ability of the Company's computerized information systems to accurately
process information that may be date-sensitive. Any of the Company's programs
that recognize a date using "00" as the year 1900 rather than the year 2000
could result in errors or system failures. The Company utilizes a number of
computer programs across its entire operation. The Company has completed the
first phase of the assessment and continues to monitor changes. The Company
currently believes that costs of addressing this issue will not have a material
adverse impact on the Company's financial position. However, if the Company and
third parties upon which it relies are unable to address this issue in a timely
manner, it could result in a material financial risk to the Company. In order to
assure that this does not occur, the Company plans to devote all resources
required to resolve any significant year 2000 issues in a timely manner.
Effects of Inflation
Inflation significantly affects industries having high proportions of
property, plant and equipment or high levels of inventories. Although the
Company is not significantly affected in these areas, inflation does have an
impact on the growth of assets. As assets grow rapidly, it becomes necessary to
increase equity capital at proportionate levels to maintain the appropriate
equity to asset ratios. Traditionally, the Company's earnings and high capital
retention levels have enabled the Company to meet these needs.
The Company's reported earnings results have been affected by inflation,
but isolating the effect is difficult. The different types of income and expense
are affected in various ways. Interest rates are affected by inflation, but the
timing and magnitude of the changes may not coincide with changes in the
consumer price index. Management actively monitors interest rate sensitivity, as
illustrated by the Gap Analysis (Table II, page 17) in order to minimize the
effects of inflationary trends on interest rates. Other areas of noninterest
expenses may be more directly affected by inflation.
Securities and Exchange Commission Web Site
The Securities and Exchange Commission maintains a Web site that contains
reports, proxy and information statements and other information regarding
registrants that file electronically with the Commission, including Highlands
Bankshares, Inc., and the address is (http://www.sec.gov).
<PAGE> 16
TABLE I
HIGHLANDS BANKSHARES, INC.
NET INTEREST MARGIN ANALYSIS
(Dollar Amounts in Thousands)
Six Months Ended Six Months Ended
June 30, 1998 June 30, 1997
--------------------------- ----------------------
Average Income/ Average Income/
Balance Expense Rates Balance Expense Rates
Interest Income
Loans
Commercial $ 31,569 $ 1,382 8.76% $ 26,454 $ 1,179 8.91%
Consumer 29,512 1,637 11.09% 26,631 1,521 11.42%
Real estate 79,341 3,398 8.57% 74,743 3,268 8.74%
------ ----- ---- ------ ----- -----
Total 140,422 6,417 9.14% 127,828 5,968 9.34%
Federal funds sold 6,875 195 5.67% 4,432 122 5.51%
Interest bearing deposits 874 17 3.89% 808 19 4.70%
Investments
Taxable 32,314 1,041 6.44% 37,571 1,186 6.31%
Tax exempt 1 3,358 138 8.22% 3,608 151 8.37%
----- ----- ---- ----- ----- ----
Total Earning Assets 1 183,843 7,808 8.49% 174,247 7,446 8.55%
--------- ----- ------ ------- ----- ------
Interest Expense
Demand deposits 29,023 412 2.84% 27,622 377 2.73%
Savings 19,780 341 3.44% 18,370 322 3.51%
Time deposits 106,805 3,051 5.71% 98,158 2,898 5.90%
Other borrowed money 468 12 5.13% 1,274 37 5.81%
------- ------ ------- ------ ----- ------
Total Interest Bearing
Liabilities 156,076 3,816 4.89% 145,424 3,634 5.00%
------- -------- ----- ------- ----- ------
Net Interest Margin $ 3,992 $ 3,812
======== =====
Net Yield on Interest Earning
Assets 1 4.34% 4.38%
==== ====
1 On a taxable equivalent basis based on a tax rate of 37%.
<PAGE> 16 (Continued)
TABLE I (Continued)
HIGHLANDS BANKSHARES, INC.
NET INTEREST MARGIN ANALYSIS
(Dollar Amounts in Thousands)
Three Months Ended Three Months Ended
June 30, 1998 June 30, 1997
-------------------------- ------------------------
Average Income/ Average Income/
Balance Expense Rates Balance Expense Rates
Interest Income
Loans
Commercial $ 32,095 $ 707 8.81% $ 26,899 $ 596 8.86%
Consumer 29,926 831 11.11% 26,839 765 11.40%
Real estate 80,402 1,722 8.57% 76,082 1,672 8.79%
------ ----- ---- ------ ----- -----
Total 142,423 3,260 9.16% 129,820 3,033 9.35%
Federal funds sold 7,321 105 5.74% 5,480 77 5.62%
Interest bearing deposits 929 7 3.01% 810 9 4.44%
Investments
Taxable 31,870 512 6.43% 37,414 595 6.36%
Tax exempt 1 3,368 68 8.08% 3,525 73 8.28%
----- ----- ---- ----- ----- -----
Total Earning Assets 1 185,911 3,952 8.50% 177,049 3,787 8.56%
------- ----- ------ ------- ----- ------
Interest Expense
Demand deposits 29,885 211 2.82% 28,845 195 2.70%
Savings 20,096 173 3.44% 18,599 164 3.53%
Time deposits 107,643 1,538 5.72% 99,700 1,480 5.94%
Other borrowed money 698 9 5.16% 1,726 25 5.79%
------ ------ ------ ------- ----- ------
Total Interest Bearing
Liabilities 158,322 1,931 4.88% 148,870 1,864 5.00%
------- ------- ------ -------- ----- ------
Net Interest Margin $ 2,021 $ 1,923
======== =====
Net Yield on Interest Earning
Assets 1 4.35% 4.34%
==== ======
1 On a taxable equivalent basis based on a tax rate of 37%.
<PAGE> 17
TABLE II
HIGHLANDS BANKSHARES, INC.
INTEREST RATE SENSITIVITY ANALYSIS
JUNE 30, 1998
(In Thousands of Dollars)
More than
5 Years
1 - 90 91 - 365 1 to 3 3 to 5 or no
Days Days Years Years Maturity Total
EARNINGS ASSETS
Loans $19,540 $50,543 $51,327 $12,749 $8,712 $142,871
Fed funds sold 6,860 6,860
Securities 6,564 6,562 15,189 3,065 4,078 35,458
Time deposits in other
banks 248 600 848
Investment in insurance
contracts 2,101 2,101
------ ------ ------ ------ ----- ------
Total 33,212 57,705 66,516 15,814 14,891 188,138
-------- ------- -------- -------- ------- --------
INTEREST BEARING LIABILITIES
Transaction accounts 17,428 17,428
Money market savings 12,115 12,115
Savings accounts 20,861 20,861
Time deposits more
than $100,000 2,349 11,917 7,844 1,841 23,951
Time deposits less
than $100,000 12,761 38,396 26,344 5,162 241 82,904
Other borrowed money 15 46 135 152 395 743
------ ------ ------ ------ ----- ------
Total 65,529 50,359 34,323 7,155 636 158,002
------- ------- ------- ------- ----- --------
Rate sensitivity GAP (32,317) 7,346 32,193 8,659 14,255 30,136
Cumulative GAP (32,317) (24,971) 7,222 15,881 30,136
Ratio of cummulative
interest sensitive
assets to cummulative
interest sensitive
liabilities 50.68% 78.45% 104.81% 110.09% 119.07%
Assumes all transaction, money market and savings deposit accounts reprice
within 90 days.
<PAGE> 18
Part II Other Information
Item 1. Legal Proceedings - Not Applicable
Item 2. Changes in Securities - Not Applicable
Item 3. Defaults Upon Senior Securities - Not Applicable
Item 4. Submission of Matters to a Vote
of Security Holders - On April 14, 1998, the stockholders
held their annual meeting. The
following item was approved by the
shareholders by the required majority:
1) Election of the Board of Directors
as proposed in the proxy material
without any additions or
exceptions.
Item 5. Other Information - Not Applicable
Item 6. Exhibits and Reports on 8-K - (a) Exhibits
3(i) Articles of Incorporation of
Highlands Bankshares, Inc.
are incorporated by reference
to Appendix C to Highlands
Bankshares, Inc.'s Form S-4
filed October 20, 1986.
3(ii)Bylaws of Highlands
Bankshares, Inc. are
incorporated by reference to
Appendix D to Highland
Bankshares, Inc.'s Form
S-4 filed October 20, 1986.
27 Financial Data Schedule
attached
(b) Reports on Form 8-K filed during
the six months ended June 30, 1998.
None
<PAGE> 19
EXHIBIT INDEX
Exhibit
Index Page Number
27 Financial Data Schedule for the quarter ending June 30, 1998 21
<PAGE> 20
Signature
Pursuant to the requirements of the Securities Exchange Act of 1934, the
Registrant has duly caused this report to be signed on its behalf by the
undersigned thereunto duly authorized.
HIGHLANDS BANKSHARES, INC.
LESLIE A. BARR
Leslie A. Barr
President
JOHN A. VANMETER
John A. VanMeter
Chairman
August 11, 1998
<TABLE> <S> <C>
<ARTICLE> 9
<LEGEND>
This schedule contains summary financial information extracted from
Highlands Bankshares, Inc. Form 10QSB and is qualified in its entirety by
reference to such financial statements.
</LEGEND>
<MULTIPLIER> 1,000
<S> <C>
<PERIOD-TYPE> 6-MOS
<FISCAL-YEAR-END> DEC-31-1998
<PERIOD-START> APR-01-1998
<PERIOD-END> JUN-30-1998
<CASH> 4,719
<INT-BEARING-DEPOSITS> 848
<FED-FUNDS-SOLD> 6,860
<TRADING-ASSETS> 0
<INVESTMENTS-HELD-FOR-SALE> 30,970
<INVESTMENTS-CARRYING> 3,757
<INVESTMENTS-MARKET> 3,851
<LOANS> 142,871
<ALLOWANCE> (1,358)
<TOTAL-ASSETS> 198,434
<DEPOSITS> 174,309
<SHORT-TERM> 61
<LIABILITIES-OTHER> 1,396
<LONG-TERM> 682
0
0
<COMMON> 2,734
<OTHER-SE> 19,252
<TOTAL-LIABILITIES-AND-EQUITY> 198,434
<INTEREST-LOAN> 6,417
<INTEREST-INVEST> 1,128
<INTEREST-OTHER> 212
<INTEREST-TOTAL> 7,757
<INTEREST-DEPOSIT> 3,804
<INTEREST-EXPENSE> 3,816
<INTEREST-INCOME-NET> 3,941
<LOAN-LOSSES> 120
<SECURITIES-GAINS> (3)
<EXPENSE-OTHER> 2,656
<INCOME-PRETAX> 1,468
<INCOME-PRE-EXTRAORDINARY> 1,468
<EXTRAORDINARY> 0
<CHANGES> 0
<NET-INCOME> 962
<EPS-PRIMARY> 1.92
<EPS-DILUTED> 1.92
<YIELD-ACTUAL> 4.34
<LOANS-NON> 68
<LOANS-PAST> 1,037
<LOANS-TROUBLED> 0
<LOANS-PROBLEM> 0
<ALLOWANCE-OPEN> 1,370
<CHARGE-OFFS> 170
<RECOVERIES> 38
<ALLOWANCE-CLOSE> 1,358
<ALLOWANCE-DOMESTIC> 1,358
<ALLOWANCE-FOREIGN> 0
<ALLOWANCE-UNALLOCATED> 0
</TABLE>
