UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
Form 10-K
Annual Report Pursuant to Section 13 or 15(d) of the
Securities Exchange Act of 1934
For the fiscal year ended Commission file number
December 31, 1999 O-15204
National Bankshares, Incorporated
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(Exact name of Registrant as specified in its charter)
Virginia 54-1375874
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(State or other jurisdiction of (I.R.S. Employer Identification No.)
incorporation or organization)
101 Hubbard Street
Blacksburg, Virginia 24060
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(Address of principal executive offices) Zip Code
Registrant's telephone number, including area code (540) 552-2011
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Securities registered pursuant to Section 12(b) of the Act: None
Securities registered pursuant to Section 12(g) of the Act:
Common Stock, Par Value $2.50 per Share
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(Title of Class)
Indicate by a check mark whether the Registrant (1) has filed all reports
required to be filed by Section 13 or 15(d) of the Securities Exchange Act of
1934 during the preceding 12 months (or for such shorter period that the
Registrant was required to file such reports), and (2) has been subject to such
filing requirements for the past 90 days.
Yes X No
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Indicate by check mark if disclosure of delinquent filers pursuant to Item 405
of Regulation S-K is not contained herein, and will not 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-K or any amendment to this
Form 10-K. X
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The aggregate market value of voting stock held by nonaffiliates of the
Registrant as of March 15, 2000 was $65,666,075. (In determining this amount,
the registrant assumes that all of its Directors and principal Officers are
affiliates. Such assumption shall not be deemed conclusive for any other
purposes.)
<PAGE>
Indicate the number of shares outstanding of each of the Registrant's classes of
common stock, as of the latest practicable date.
Class Outstanding at March 15, 2000
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Common Stock, $2.50 Par Value 3,516,977
DOCUMENTS INCORPORATED BY REFERENCE
Selected information from the Registrants' Annual Report to Stockholders for the
year ended December 31, 1999, is incorporated by reference into Parts I and II
of this report.
Selected information from the Registrant's Proxy Statement for the Annual
Meeting to be held April 11, 2000 and filed with the Securities and Exchange
Commission pursuant to Regulation 14A, is incorporated by reference into Part
III of this report.
(This report contains 42 pages.)
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(The Index of Exhibits are on pages 41-42.)<PAGE>
National Bankshares, Incorporated
Annual Report For 1999 on Form 10-K
Table of Contents
Page
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Part I
Item 1. Business 4
Item 2. Properties 30
Item 3. Legal Proceedings 30
Item 4. Submission of Matters to a Vote of
Security Holders 30
Executive Officers of the Registrant 31
Part II
Item 5. Market for Registrant's Common
Equity and Related Stockholder
Matters 32
Item 6. Selected Financial Data 32
Item 7. Management's Discussion and Analysis
of Financial Condition and Results
of Operations 32
Item 7A. Quantitative and Qualitative
Disclosures About Market Risk 32
Item 8. Financial Statements and
Supplementary Data 36
Item 9. Changes in and Disagreements with
Accountants on Accounting and
Financial Disclosure 36
Part III
Item 10. Directors and Executive Officers of
the Registrant 36
Item 11. Executive Compensation 36
Item 12. Security Ownership of Certain
Beneficial Owners and Management 36
Item 13. Certain Relationships and Related
Transactions 37
Part IV
Item 14. Exhibits, Financial Statement
Schedules, and Reports on Form 8-K 37
Signatures 40
Index to Exhibits 41<PAGE>
Part I
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Item 1. Business.
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History and Business
National Bankshares, Inc. (Bankshares) is a bank holding company organized
under the laws of Virginia in 1986 and registered under the Bank Holding Company
Act (BHCA). Except for a separate investment portfolio, Bankshares conducts all
of its business operations through its two wholly-owned subsidiaries, The
National Bank of Blacksburg (NBB) and Bank of Tazewell County (BTC),
collectively referred to as "the Company".
On June 1, 1996, Bankshares issued 1,888,209 shares of its common stock in a
one-for-one exchange for all the outstanding common stock of Bank of Tazewell
County, Tazewell, Virginia. This business combination has been accounted for as
a pooling-of-interests and, accordingly, the consolidated financial statements
for the periods prior to the combination have been restated to include the
accounts and results of operations of Bank of Tazewell County. There were no
adjustments of a material amount resulting from Bank of Tazewell County's
adoption of Bankshares' accounting policies.
In May 1996, Bankshares declared a stock split of .11129 per share effected
in the form of a stock dividend to the holders of Bankshares common stock just
prior to the merger effective date to facilitate the one-for-one common stock
exchange ratio. All stockholders' equity accounts, share and per share data
have been adjusted retroactively to reflect the stock split.
The National Bank of Blacksburg
The National Bank of Blacksburg was originally chartered as the Bank of
Blacksburg in 1891. Its state charter was converted to a national charter in
1922 and it became The National Bank of Blacksburg. NBB operates a full-service
banking business from its headquarters in Blacksburg, Virginia, and its nine
area branch offices. NBB offers general retail and commercial banking services
to individuals, businesses, local government units and institutional customers.
These products and services include accepting deposits in the form of checking
accounts, money market deposit accounts, interest-bearing demand deposit
accounts, savings accounts and time deposits; making real estate, commercial,
revolving, consumer and agricultural loans; offering letters of credit;
providing other consumer financial services, such as automatic funds transfer,
collections, night depository, safe deposit, travelers checks, savings bond
sales and utility payment services; and providing other miscellaneous services
normally offered by commercial banks. NBB also conducts a general trust
business in Blacksburg near its headquarters location. Through its trust
operation, NBB offers a variety of personal and corporate trust services.
NBB makes loans in all major loan categories, including commercial,
commercial and residential real estate, construction and consumer loans.
At December 31, 1999, NBB had total assets of $278,016. Total deposits at
this date were $233,245. NBB's net income for 1999 was $4,873 which produced a
return on average assets of 1.79% and a return on average stockholders' equity
of 17.32%. Refer to footnote 11 of the Company's 1999 Annual Report to
Stockholders for NBB's risk-based capital ratios.
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Bank of Tazewell County
The antecedents of BTC are in a charter issued on September 28, 1889 for
Clinch Valley Bank. On December 22, 1893, a second charter was issued in
substantially the same form for Bank of Clinch Valley. In 1929, Bank of Clinch
Valley merged with Farmers Bank under the charter of the former, and the name of
the new institution became Farmers Bank of Clinch Valley. Bank of Tazewell
County resulted from the 1964 merger of Bank of Graham, Bluefield, Virginia with
Farmers Bank of Clinch Valley. BTC provides general retail and commercial
banking services to individuals, businesses and local government units. These
services include commercial, real estate and consumer loans. Deposit accounts
offered include demand deposit accounts, interest-bearing demand deposit
accounts, money market deposit accounts, savings accounts and certificates of
deposit. Other services include automatic funds transfer, collections, night
depository, safe deposit, travelers checks, savings bond sales and utility
payment services; and providing other miscellaneous service normally offered by
commercial banks. BTC also conducts a general trust business.
At December 31, 1999 BTC had total assets of $198,735. Total deposits at
this same date were $173,963. BTC's net income for 1999 was $2,215 which
produced a return on average assets of 1.21% and a return on average
stockholders' equity of 8.67%. Refer to footnote 11 of the Company's 1999
Annual Report to Stockholders for BTC's risk-based capital ratios.
Commercial Loans
NBB and BTC make both secured and unsecured loans to businesses and to
individuals for business purposes. Loan requests are granted based upon several
factors including credit history, past and present relationships with the bank
and marketability of collateral. Unsecured commercial loans must be supported
by a satisfactory balance sheet and income statement. Business loans made on a
secured basis may be secured by a security interest in marketable equipment,
accounts receivable, business equipment and/or general intangibles of the
business. In addition, or in the alternative, the loan may be secured by a deed
of trust lien on business real estate.
The risks associated with commercial loans are related to the strength of the
individual business, the value of loan collateral and the general health of the
economy.
Residential Real Estate Loans
Loans secured by residential real estate are originated by both bank
subsidiaries. NBB sells a substantial percentage of the residential real estate
loans it originates in the secondary market on a servicing released basis.
There are occasions when a borrower or the real estate do not qualify under
secondary market criteria, but the loan request represents a reasonable credit
risk. Also, an otherwise qualified borrower may choose not to have their
mortgage loan sold. On these occasions, if the loan meets NBB's internal
underwriting criteria, the loan will be closed and placed in NBB's portfolio.
Some loans originated by BTC are held in the bank's loan portfolio and others
are sold in the secondary market. In their secondary market operations, NBB
and BTC participates in insured loan programs sponsored by the Department of
Housing and Urban Development, the Veterans Administration and the Virginia
Housing Development Authority.
Residential real estate loans carry risk associated with the continued
credit-worthiness of the borrower and changes in the value of the collateral.
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Construction Loans
NBB makes loans for the purpose of financing the construction of business and
residential structures to financially responsibly business entities and
individuals. These loans are subject to the same credit criteria as commercial
and residential real estate loans. Although BTC offers construction loans, its
involvement in this area of lending is more limited than NBB's due to the nature
of its market area.
In addition to the risks associated with all real estate loans, construction
loans bear the risks that the project will not be finished according to
schedule, the project will not be finished according to budget and the value of
the collateral may at any point in time be less than the principal amount of the
loan. Construction loans also bear the risk that the general contractor, who
may or may not be the bank's loan customer, is unable to finish the construction
project as planned because of financial pressures unrelated to the project.
Loans to customers that are made as permanent financing of construction loans
may likewise under certain circumstances be affected by external financial
pressures.
Consumer Loans
NBB and BTC routinely make consumer loans, both secured and unsecured. The
credit history and character of individual borrowers is evaluated as a part of
the credit decision. Loans used to purchase vehicles or other specific personal
property and loans associated with real estate are usually secured with a lien
on the subject vehicle or property. NBB also originates a small number of
student loans that are sold to the Student Loan Marketing Association.
Negative changes in a customer's financial circumstances due to a large
number of factors, such as illness or loss of employment, can place the
repayment of a consumer loan at risk. In addition, deterioration in collateral
value can add risk to consumer loans.
Sales and Purchases of Loans
NBB and BTC will occasionally buy or sell all or a portion of a loan. These
purchases and sales are in addition to the secondary market mortgage loans and
student loans regularly sold by NBB. Because the demand for loans, particularly
for commercial loans, is greater in NBB's market area than in BTC's market area,
NBB regularly sells loans and participations in loans to BTC.
Both banks will consider selling a loan or a participation in a loan, if: (i)
the full amount of the loan will exceed the bank's legal lending limit to a
single borrower; (ii) the full amount of the loan, when combined with a
borrower's previously outstanding loans, will exceed the bank's legal lending
limit to a single borrower; (iii) the Board of Directors or an internal Loan
Committee believes that a particular borrower has a sufficient level of debt
with the bank; (iv) the borrower requests the sale; (v) the loan to deposit
ratio is at or above the optimal level as determined by bank management; and/or
(vi) the loan may create too great a concentration of loans in one particular
location or in one particular type of loan.
The banks will consider purchasing a loan, or a participation in a loan, from
another financial institution (including from another subsidiary of the Company)
if the loan meets all applicable credit quality standards and (i) the bank's
loan to deposit ratio is at a level where additional loans would be desirable;
and/or (ii) a common customer requests the purchase.
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The following table sets forth, for the three fiscal years ended December 31,
1999, 1998 and 1997 the percentage of total operating revenue contributed by
each class of similar services which contributed 15% or more of total operating
revenues of the Company during such periods.
Percentage of
Period Class of Service Total Revenues
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December 31, 1999 Interest and Fees on Loans 64.95%
Interest on Investments 24.41%
December 31, 1998 Interest and Fees on Loans 61.97%
Interest on Investments 25.99%
December 31, 1997 Interest and Fees on Loans 59.92%
Interest on Investments 29.31%
Market Area
The National Bank of Blacksburg Market Area
NBB's primary market area consists of the northern portion of Montgomery
County, all of Giles County, the City of Galax and adjacent portions of Carroll
and Grayson Counties, Virginia. This area includes the towns of Blacksburg and
Christiansburg in Montgomery County and the towns of Pearisburg, Pembroke and
Rich Creek, in Giles County. The local economy is diverse and is oriented
toward higher education, retail and service, light manufacturing and
agriculture. For the years 1999 and 1998 the unemployment rate in Montgomery
County was 1.9% and 2.6% in 1997, and the rate in Giles County during those
years was 6.2% in 1999, 5.8% in 1998 and 6.7% in 1997. The City of Galax had an
unemployment rate of 4.3% in 1999, 3.9% in 1998 and 2.6% in 1997.
Montgomery County's largest employer is Virginia Polytechnic Institute and
State University (VPI & SU) located in Blacksburg. VPI & SU is the
Commonwealth's land grant college and also its largest university. Employment
at VPI & SU has remained stable over the past three years, and it is not
expected to change materially in the next few years. A second state supported
university, Radford University, is located in the western edge of NBB's service
area. It too has provided stable employment opportunities in the region.
Giles County's primary employer is the Celanese Corp. plant, a manufacturer
of the material from which cigarette filters are made. In 1995 and 1996
employment at that plant was stable, however, in late 1997 temporary employee
furloughs were announced, and a small number of these temporary layoffs have
become permanent.
The City of Galax is located in the Virginia-North Carolina furniture-
manufacturing region. Three furniture companies, Vaughan Bassett Furniture
Company, Vaughan Furniture Company, Inc. and Webb Furniture Company together
employ the largest percentage of the area's work force. The Galax economy is
stable.
Several other small manufacturing concerns are located in Montgomery and
Giles Counties and in the City of Galax. These concerns manufacture diverse
products and are not dependent on one sector of the economy. Agriculture and
tourism are also important to the region, especially in Giles County and in the
area near Galax.
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Since 1988, Montgomery County has developed into a regional retail center,
with the construction of two large shopping areas. Two area hospitals, each of
which are affiliated with different large health care systems, have in the past
several years constructed additional facilities and have attracted additional
health care providers to Montgomery County, making it a center for basic health
care services. VPI & SU's Corporate Research Center has brought several small
high tech companies to Blacksburg, and further expansion is planned.
Montgomery County, with an approximate population of 77,000, has experienced
moderate population growth and this trend is predicted to continue. Neighboring
Giles County is more rural, with a total population of approximately 16,500.
The population of Giles County is expected to slowly decline over the next few
years. It is not anticipated that this decline will materially impact NBB's
business in Giles County. The City of Galax has a population of approximately
7,000, and the neighboring, mostly rural, counties of Carroll and Grayson have a
total of approximately 50,000 in habitants. The area's population is stable,
and no dramatic changes are predicted.
NBB's primary market area offers the advantages of a good quality of life,
scenic beauty, moderate climate and the cultural attractions of two major
universities. The region has marketed itself as a retirement destination, and
it has had some recent success attracting retirees, particularly from the
Northeast and urban Northern Virginia. These marketing efforts are expected to
continue.
Bank of Tazewell County Market Area
Most of BTC's business originates from Tazewell County, Virginia and Mercer
County, West Virginia. This includes the towns of Tazewell and Bluefield,
Virginia and Bluefield, West Virginia. BTC's primary market area has largely
depended on the coal mining industry and farming for its economic base. In
recent years, coal companies have mechanized and this has reduced the number of
individuals required for the production of coal. There are still a number of
support industries for the coal mining business that continue to provide
employment in the area. Additionally, several new businesses have been
established in the area, and Bluefield, West Virginia has begun to emerge as a
regional medical center. Unemployment has stabilized, and real estate values
also remain stable and comparable to other areas in southwest Virginia.
For 1999 and 1998 the unemployment rate for Tazewell County was 7.0% and in
1997 9.5%. In the same years, Mercer County, West Virginia's unemployment rate
was 4.7%, 4.2% and 5.3%, respectively.
Competition
The banking and financial service business in Virginia generally, and in
NBB's and BTC's market areas specifically, is highly competitive. The
increasingly competitive environment is a result of changes in regulation,
changes in technology and product delivery systems and new competition from non-
traditional financial services provides the accelerating pace of consolidation
among financial service providers. The Company's bank subsidiaries compete for
loans and deposits with other commercial banks, savings and loan associations,
securities and brokerage companies, mortgage companies, money market funds,
credit unions and other nonbank financial service providers. Many of these
competitors are much larger in total assets and capitalization, have greater
access to capital markets and offer a broader array of financial services than
NBB and BTC. In order to compete with these other financial service providers,
NBB and BTC rely upon service-based business philosophies, personal
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relationships with customers, specialized services tailored to meet customers'
needs and the convenience of office locations. In addition, the banks are
generally competitive with other financial institutions in their market areas
with respect to interest rates paid on deposit accounts, interest rates charged
on loans and other service charges on loans and deposit accounts.
Registrant's Organization and Employment
Bankshares, NBB and BTC are organized in a holding company/subsidiary bank
structure. Bankshares has no employees, except for officers, and conducts
substantially all of its operations through its subsidiaries. All compensation
paid to officers and employees is paid by NBB, except for fees paid by
Bankshares to President and Chief Executive Officer James G. Rakes for his
service as a director of the Company.
At December 31, 1999, NBB employed 117 full time equivalent employees at its
main office, operations center and branch offices. BTC at December 31, 1999
employed 68 in its various offices and operational areas.
Certain Regulatory Considerations
Bankshares, NBB and BTC are subject to various state and federal banking laws
and regulations which impose specific requirements or restrictions on and
provide for general regulatory oversight with respect to virtually all aspects
of operations. As a result of the substantial regulatory burdens on banking,
financial institutions, including Bankshares, NBB and BTC, are disadvantaged
relative to other competitors who are not as highly regulated, and their costs
of doing business are much higher. The following is a brief summary of the
material provisions of certain statutes, rules and regulations which affect
Bankshares, NBB and/or BTC. This summary is qualified in its entirety by
reference to the particular statutory and regulatory provisions referred to
below and is not intended to be an exhaustive description of the statutes or
regulations which are applicable to the businesses of Bankshares, NBB and/or
BTC. Any change in applicable laws or regulations may have a material adverse
effect on the business and prospects of Bankshares, NBB and/or BTC.
National Bankshares, Inc.
Bankshares is a bank holding company within the meaning of the BHCA and
Chapter 13 of the Virginia Banking Act, as amended (the Virginia Banking Act).
The activities of Bankshares also are governed by the Gramm-Leach-Bliley Act of
1999.
The Bank Holding Company Act. The BHCA is administered by the Federal
Reserve Board, and Bankshares is required to file with the Federal Reserve Board
an annual report and any additional information the Federal Reserve Board may
require under the BHCA. The Federal Reserve Board also is authorized to examine
Bankshares and its subsidiaries. The BHCA requires every bank holding company
to obtain the approval of the Federal Reserve Board before (i) it or any of its
subsidiaries (other than a bank) acquires substantially all the assets of any
bank; (ii) it acquires ownership or control of any voting shares of any bank if
after the acquisition it would own or control, directly or indirectly, more than
5% of the voting shares of the bank; or (iii) it merges or consolidates with any
other bank holding company.
The BHCA and the Change in Bank Control Act, together with regulations
promulgated by the Federal Reserve Board, require that, depending on the
particular circumstances, either Federal Reserve Board approval must be obtained
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or notice must be furnished to the Federal Reserve Board and not disapproved
prior to any person or company acquiring "control" of a bank holding company,
such as Bankshares, subject to certain exemptions. Control is conclusively
presumed to exist if an individual or company acquires 25% or more of any class
of voting securities of Bankshares. Control is rebuttably presumed to exist if
a person acquires 10% or more, but less than 25%, of any class of voting
securities of Bankshares. The regulations provide a procedure for challenging
the rebuttable control presumption.
Under the BHCA, a bank holding company is generally prohibited from engaging
in, or acquiring direct or indirect control of more than 5% of the voting shares
of any company engaged in nonbanking activities, unless the Federal Reserve
Board, by order or regulation, has found those activities to be so closely
related to banking or managing or controlling banks as to be incident to
banking. Under recent amendments to the BHCA, included in the Gramm-Leach-
Bliley Act of 1999 (see below), any bank holding company, all the depository
institution subsidiaries of which are well-capitalized, well managed (as those
terms are defined in the BHCA) and have a satisfactory or better rating under
the Community Reinvestment Act as of their last examination, may file an
election with the Federal Reserve Board to become a Financial Holding Company.
A Financial Holding Company may engage in any activity that is (i) financial in
nature (ii) incidental to a financial activity or (iii) complementary to a
financial activity. The BHCA provides a long list of "financial activities",
including: insurance underwriting; securities dealing and underwriting;
providing financial, investment or economic arising services; and merchant
banking activities. Financial Holding Companies may also engage in other
activities that the Federal Reserve Board has determined are permissible under
the BHCA, by regulation or order.
The Federal Reserve Board imposes certain capital requirements on Bankshares
under the BHCA, including a minimum leverage ratio and a minimum ratio of
"qualifying" capital to risk-weighted assets. Subject to its capital
requirements and certain other restrictions, Bankshares can borrow money to make
a capital contribution to NBB or BTC, and these loans may be repaid from
dividends paid from NBB or BTC to Bankshares (although the ability of NBB or BTC
to pay dividends are subject to regulatory restrictions). Bankshares can raise
capital for contribution to NBB and BTC by issuing securities without having to
receive regulatory approval, subject to compliance with federal and state
securities laws.
The Gramm-Leach-Bliley Act. The Gramm-Leach-Bliley Act (the GLBA), enacted
on November 12, 1999, was a broad rewrite of financial services legislation.
The GLBA permits significant combinations among different sectors of the
financial services industry; allows for significant expansion of financial
service activities by Bank holding companies and provides for a regulatory
framework by various governmental authorities responsible for different
financial activities; and offers certain financial privacy protections to
consumers. The GLBA repealed affiliation and management interlock prohibitions
of the Depression-era Glass-Steagall Act and, by amending the Bank Holding
Companies, the GLBA added new substantive provisions to the non-banking
activities permitted under the BHCA with the creation of the financial holding
company. The GLBA preempts most state laws that prohibit financial holding
companies from engaging in insurance activities. The GLBA permits affiliations
between banks and securities firms within the same holding company structure,
and the Act permits financial holding companies to directly engage in a broad
range securities and merchant banking activities.
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The Gramm-Leach-Bliley Act will lead to important changes in the manner in
which financial services are delivered in the United States. Bank holding
companies and their subsidiary banks will be able to offer a much broader array
of financial services; however, there will be greater competition in all sectors
of the financial services market.
The Virginia Banking Act. All Virginia bank holding companies must register
with the Virginia State Corporation Commission (the Commission) under the
Virginia Banking Act. A registered bank holding company must provide the
Commission with information with respect to the financial condition, operations,
management and intercompany relationships of the holding company and its
subsidiaries. The Commission also may require such other information as is
necessary to keep itself informed about whether the provisions of Virginia law
and the regulations and orders issued under Virginia law by the Commission have
been complied with, and may make examinations of any bank holding company and
its subsidiaries. The Virginia Banking Act allows bank holding companies
located in any state to acquire a Virginia bank or bank holding company if the
Virginia bank or bank holding company could acquire a bank holding company in
their state and the Virginia bank or bank holding company to be acquired has
been in existence and continuously operated for more than two years. The
Virginia Banking Act permits bank holding companies from throughout the United
States to enter the Virginia market, subject to federal and state approval.
NBB and BTC
General. NBB is a national banking association incorporated under the laws
of the United States and is subject to examination by the Office of the
Comptroller of the Currency (the OCC). Deposits in NBB are insured by the FDIC
up to a maximum amount (generally $100,000 per depositor, subject to aggregation
rules). The OCC and the FDIC regulate or monitor all areas of NBB's operations,
including security devices and procedures, adequacy of capitalization and loss
reserves, loans, investments, borrowings, deposits, mergers, issuances of
securities, payment of dividends, interest rates payable on deposits, interest
rates or fees chargeable on loans, establishment of branches, corporate
reorganizations and maintenance of books and records. The OCC requires NBB to
maintain certain capital ratios. NBB is required by the OCC to prepare
quarterly reports on NBB's financial condition and to conduct an annual audit of
its financial affairs in compliance with minimum standards and procedures
prescribed by the OCC. NBB also is required by the OCC to adopt internal
control structures and procedures in order to safeguard assets and monitor and
reduce risk exposure. While appropriate for safety and soundness of banks,
these requirements impact banking overhead costs.
BTC is organized as a Virginia-chartered banking corporation and is regulated
and supervised by the Bureau of Financial Institutions (BFI) of the Virginia
State Corporation Commission. In addition, as a federally insured bank, BTC is
regulated and supervised by the Federal Reserve Board, which serves as its
primary federal regulator and is subject to certain regulations promulgated by
the FDIC. Under the provisions of federal law, federally insured banks are
subject, with certain exceptions, to certain restrictions on extensions of
credit to their affiliates, on investments in the stock or other securities of
affiliates and on the taking of such stock or securities as collateral from any
borrower. In addition, these banks are prohibited from engaging in certain tie-
in-arrangements in connection with any extension of credit or the providing of
any property of service.
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The Virginia State Corporation Commission and the Federal Reserve Board
conduct regular examinations of BTC reviewing the adequacy of the loan loss
reserves, quality of the loans and investments, propriety of management
practices, compliance with laws and regulations and other aspects of the bank's
operations. In addition to these regular examinations, Virginia chartered banks
must furnish to the Federal Reserve Board quarterly reports containing detailed
financial statements and schedules.
Community Reinvestment Act. NBB and BTC are subject to the provisions of the
Community Reinvestment Act of 1977 (the CRA), which requires the appropriate
federal bank regulatory agency, in connection with its regular examination of a
bank, to assess the bank's record in meeting the credit needs of the community
served by the bank, including low and moderate-income neighborhoods. Under the
implementing CRA regulations, banks have the option of being assessed for CRA
compliance under one of several methods. Small banks are evaluated differently
than larger banks and technically are not subject to some data collection
requirements. The focus of the regulations is on the volume and distribution of
a bank's loans, with particular emphasis on lending activity in low and
moderate-income areas and to low and moderate-income persons. The regulations
place substantial importance on a bank's product delivery system, particularly
branch locations. The regulations require banks, other than small banks, to
comply with significant data collection requirements. The regulatory agency's
assessment of the bank's record is made available to the public. Further, this
assessment is required for any bank which has applied to, among other things,
establish a new branch office that will accept deposits, relocate an existing
office, or merge, consolidate with or acquire the assets or assume the
liabilities of a federally regulated financial institution. It is likely that
banks' compliance with the CRA, as well as other so-called fair lending laws,
will face ongoing government scrutiny and that costs associated with compliance
will continue to increase.
NBB has received a CRA rating of "Outstanding" in its last examination by
federal bank regulators. BTC was rated as "Satisfactory".
Federal Deposit Insurance Corporation Improvement Act of 1991. The
difficulties encountered nationwide by financial institutions during 1990 and
1991 prompted federal legislation designed to reform the banking industry and to
promote the viability of the industry and of the deposit insurance system.
FDICIA, which became effective on December 19, 1991, bolsters the deposit
insurance fund, tightens bank regulation and trims the scope of federal deposit
insurance.
The legislation bolsters the bank deposit insurance fund with $70 billion in
borrowing authority and increases to $30 billion from $5 billion the amount the
FDIC can borrow from the U.S. Treasury to cover the cost of bank failures. The
loans, plus interest, would be repaid by premiums that banks pay on domestic
deposits over the next fifteen years.
Among other things, FDICIA requires the federal banking agencies to take
"prompt corrective action" in respect to banks that do not meet minimum capital
requirements. FDICIA establishes five capital tiers: "well capitalized,"
"adequately capitalized," "undercapitalized," "significantly undercapitalized"
and "critically undercapitalized."
If a depository institution's principal federal regulator determines that an
otherwise adequately capitalized institution is in an unsafe or unsound
condition or is engaging in an unsafe or unsound practice, it may require the
institution to submit a corrective action plan, restrict its asset growth and
-11-<PAGE>
prohibit branching, new acquisitions and new lines of business. An
institution's principal federal regulator may deem the institution to be
engaging in an unsafe or unsound practice if it receives a less than
satisfactory rating for asset quality, management, earnings or liquidity in its
most recent examination.
Among other possible sanctions, an undercapitalized depository institution
may not pay dividends and is required to submit a capital restoration plan to
its principal federal regulator. In addition, its holding company may be
required to guarantee compliance with the capital restoration plan under certain
circumstances. If an undercapitalized depository institution fails to submit or
implement an acceptable capital restoration plan, it can be subject to more
severe sanctions, including an order to sell sufficient voting stock to become
adequately capitalized. More severe sanctions and remedial actions can be
mandated by the regulators if an institution is considered significantly or
critically undercapitalized.
In addition, FDICIA requires regulators to draft a new set of non-capital
measures of bank safety, such as loan underwriting standards and minimum
earnings levels. The legislation also requires regulators to perform annual on-
site bank examinations, places limits on real estate lending by banks and
tightens auditing requirements. In April 1995, the regulators adopted safety
and soundness standards as required by FDICIA in the following areas: (i)
operational and managerial; (ii) asset quality earnings and stock valuation; and
(iii) employee compensation.
FDICIA reduces the scope of federal deposit insurance. The most significant
change ended the "too big to fail" doctrine, under which the government protects
all deposits in most banks, including those exceeding the $100,000 insurance
limit. The FDIC's ability to reimburse uninsured deposits--those over $100,000
and foreign deposits--has been sharply limited. Since December 1993, the
Federal Reserve Board's ability to finance undercapitalized banks with extended
loans from its discount window has been restricted. In addition, only the best
capitalized banks will be able to offer insured brokered deposits without FDIC
permission or to insure accounts established under employee pension plans.
Branching. In 1986, the Virginia Banking Act was amended to remove the
geographic restrictions governing the establishment of branch banking offices.
Subject to the approval of the appropriate federal and state bank regulatory
authorities, BTC as a state bank, may establish a branch office anywhere in
Virginia.
National banks, like NBB, are required by the National Bank Act to adhere to
branch banking laws applicable to state banks in the states in which they are
located. Under current Virginia law, NBB may open branch offices throughout
Virginia with the prior approval of the OCC. In addition, with prior approval
of one or more of the Federal Reserve Board, the Virginia Commission, the OCC
and the FDIC, NBB will be able to acquire existing banking operations in
Virginia.
The Riegle-Neal Interstate Banking and Branching Efficiency Act of 1994 (the
Interstate Act) allows bank holding companies to acquire banks in any state,
without regard to state law, except that if the state has a minimum requirement
for the amount of time a bank must be in existence, that law must be preserved.
Under the Virginia Banking Act, a Virginia bank or all of the subsidiaries of
Virginia holding companies sought to be acquired must have been in continuous
operation for more than two years before the date of such proposed acquisition.
The Interstate Act also permits banks to acquire out-of-state branches through
-12-<PAGE>
interstate mergers, if the state has not opted out of interstate branching. De
novo branching, where an out-of-state bank holding company sets up a new branch
in another state, requires a state's specific approval. An acquisition or
merger is not permitted under the Interstate Act if the bank, including its
insured depository affiliates, will control more than 10% of the total amount of
deposits of insured depository institutions in the United States, or will
control 30% or more of the total amount of deposits of insured depository
institutions in any state.
Virginia has, by statute, elected to opt-in fully to interstate branching
under the Interstate Act. Under the Virginia statute, Virginia state banks may,
with the approval of the Virginia State Corporation Commission, establish and
maintain a de novo branch or acquire one or more branches in a state other than
Virginia, either separately or as part of a merger. Procedures also are
established to allow out-of-state domiciled banks to establish or acquire
branches in Virginia, provided the "home" state of the bank permits Virginia
banks to establish or acquire branches within its borders. The activities of
these branches are subject to the same laws as Virginia domiciled banks, unless
such activities are prohibited by the law of the state where the bank is
organized. The Virginia State Corporation Commission has the authority to
examine and supervise out-of-state state banks to ensure that the branch is
operating in a safe and sound manner and in compliance with the laws of
Virginia. The Virginia statute authorizes the Bureau of Financial Institutions
to enter into cooperative agreements with other state and federal regulators for
the examination and supervision of out-of-state state banks with Virginia
operations, or Virginia domiciled banks with operations in other states.
Likewise, national banks, with the approval of the OCC, may branch into and out
of the state of Virginia. Any Virginia branch of an out-of-state national bank
is subject to Virginia law (enforced by the OCC) with respect to intrastate
branching, consumer protection, fair lending and community reinvestment as if it
were a branch of a Virginia bank, unless preempted by federal law.
The Interstate Act permits banks and bank holding companies from throughout
the United States to enter Virginia markets through the acquisition of Virginia
institutions and makes it easier for Virginia bank holding companies and
Virginia state and national banks to acquire institutions and to establish
branches in other states. Competition in market areas served by the Company has
increased as a result of the Interstate Act and the Virginia interstate banking
statutes.
Deposit Insurance. The FDIC establishes rates for the payment of premiums by
federally insured financial institutions. A Bank Insurance Fund (the BIF) is
maintained for commercial banks, with insurance premiums from the industry used
to offset losses from insurance payouts when banks fail. Beginning in 1993,
insured depository institutions like NBB and BTC paid for deposit insurance
under a risk-based premium system. Beginning in 1997, all banks, including NBB
and BTC, were subject to an additional FDIC assessment which funds interest
payments for bank issues to resolve problems associated with the savings and
loan industry. This assessment will continue until 2018-2019. The assessment
will vary over the period from 1.29 cents to 2.43 cents per $100 of deposits.
Gramm-Leach-Bliley Act. The Gramm-Leach-Bliley Act of 1999 (the GLBA) allows
national banks, with OCC approval, to acquire financial subsidiaries to engage
in any activity that is financial in nature or incidental to a financial
activity, as defined in the Bank Holding Act, except (i) insurance underwriting,
(ii) merchant or insurance portfolio investments, and (iii) real estate
development or investment. Well-capitalized national banks are also given the
authority to engage in municipal bond underwriting.
-13-<PAGE>
To establish or acquire a financial subsidiary, a national bank must be well-
managed, and the consolidated assets of its financial subsidiary must not exceed
the lesser of 45% of the consolidated total assets of the bank or $50 billion.
Relationship between a national bank and a financial subsidiary are subject to a
variety of supervisory enhancements from regulators. The GLBA also provides
that state banks that establish or acquire financial subsidiaries are required
to comply with the same safeguards imposed on the financial subsidiaries of
national banks.
Government Policies. The operations of NBB and BTC are affected not only by
general economic conditions, but also by the policies of various regulatory
authorities. In particular, the Federal Reserve Board regulates money and
credit and interest rates in order to influence general economic conditions.
These policies have a significant influence on overall growth and distribution
of loans, investments and deposits and affect interest rates charged on loans or
paid for time and savings deposits. Federal Reserve Board monetary policies
have had a significant effect on the operating results of commercial banks in
the past and are expected to continue to do so in the future.
Limits on Dividends and Other Payments. As a national bank, NBB, may not pay
dividends from its capital; all dividends must be paid out of net profits then
on hand, after deducting expenses, losses, bad debts, accrued dividends on
preferred stock, if any, and taxes. In addition, a national bank is prohibited
from declaring a dividend on its shares of common stock until its surplus equals
its stated capital, unless there has been transferred to surplus no less than
one-tenth of the bank's net profits of (i) the preceding two consecutive half-
year periods (in the case of an annual dividend) or (ii) the preceding half-year
period (in the case of a quarterly or semi-annual dividend). The approval of
the OCC is required if the total of all dividends declared by a national bank in
any calendar year exceeds the total of its net profits for that year combined
with its retained net profits for the preceding two years, less any required
transfers to surplus or to fund the retirement of preferred stock.
The OCC has promulgated regulations that became effective on December 13,
1990, which significantly affect the level of allowable dividend payments for
national banks. The effect is to make the calculation of national banks'
dividend-paying capacity consistent with generally accepted accounting
principles. The allowance for loan and lease losses will not be considered an
element of "undivided profits then on hand" and provisions to the allowance are
treated as expenses and therefore not part of "net profits." Accordingly, a
national bank with an allowance greater than its statutory bad debts may not
include the excess in calculating undivided profits for dividend purposes.
Further, a national bank may be able to use a portion of its earned capital
surplus account as "undivided profits then on hand," depending on the
composition of that account.
As a state member bank subject to the regulations of the Federal Reserve
Board, BTC must obtain the approval of the Federal Reserve Board for any
dividend if the total of all dividends declared in any calendar year would
exceed the total of its net profits, as defined by the Federal Reserve Board,
for that year, combined with its retained net profits for the preceding two
years. In addition, a state member bank may not pay a dividend in an amount
greater than its undivided profits then on hand after deducting its losses and
bad debts. For this purpose, bad debts are generally defined to include the
principal amount of loans which are in arrears with respect to interest by six
months or more, unless such loans are fully secured and in the process of
collection. Moreover, for purposes of this limitation, a state member bank is
not permitted to add the balance in its allowance for loan losses account to its
-14-<PAGE>
undivided profits then on hand; however, it may net the sum of its bad debts as
so defined against the balance in its allowance for loan losses account and
deduct from undivided profits only bad debts as so defined in excess of that
account.
In addition, the Federal Reserve Board is authorized to determine, under
certain circumstances relating to the financial condition of a state member
bank, that the payment of dividends would be an unsafe or unsound practice and
to prohibit payment thereof. The payment of dividends that depletes a bank's
capital base could be deemed to constitute such an unsafe or unsound practice.
The Federal Reserve Board has indicated that banking organizations should
generally pay dividends only out of current operating earnings.
Virginia law also imposes restrictions on the ability of BTC to pay
dividends. A Virginia state bank is permitted to declare a dividend out of its
"net undivided profits", after providing for all expenses, losses, interest and
taxes accrued or due by the bank. In addition, a deficit in capital originally
paid in must be restored to its initial level, and no dividend can be paid which
could impair the bank's paid in capital. The Bureau of Financial Institutions
further has authority to limit the payment of dividends by a Virginia bank if it
determines the limitation is in the public interest and is necessary to ensure
the bank's financial soundness.
The Federal Deposit Insurance Corporation Improvement Act of 1991 (FDICIA)
provides that no insured depository institution may make any capital
distribution (which would include a cash dividend) if, after making the
distribution, the institution would not satisfy one or more of its minimum
capital requirements.
Capital Requirements. The Federal Reserve Board has adopted risk-based
capital guidelines which are applicable to Bankshares and BTC. The Federal
Reserve Board guidelines redefine the components of capital, categorize assets
into different risk classes and include certain off-balance sheet items in the
calculation of risk-weighted assets. The minimum ratio of qualified total
capital to risk-weighted assets (including certain off-balance sheet items, such
as standby letters of credit) is 8.0%. At least half of the total capital must
be comprised of Tier 1 capital for a minimum ratio of Tier 1 Capital to risk-
weighted assets of 4.0%. The remainder may consist of a limited amount of
subordinated debt, other preferred stock, certain other instruments and a
limited amount of loan and lease loss reserves. The OCC has adopted similar
regulations applicable to NBB.
In addition, the Federal Reserve Board has established minimum leverage ratio
(Tier 1 capital to total assets less intangibles) guidelines that are applicable
to Bankshares and BTC. The OCC has adopted similar regulations applicable to
NBB. These guidelines provide for a minimum ratio of 4.0% for banks that meet
certain specified criteria, including that they have the highest regulatory
CAMELS rating and are not anticipating or experiencing significant growth and
have well-diversified risk. All other banks will be required to maintain an
additional cushion of at least 100 to 200 basis points, based upon their
particular circumstances and risk profiles. The guidelines also provide that
banks experiencing internal growth or making acquisitions will be expected to
maintain strong capital positions substantially above the minimum supervisory
levels, without significant reliance on intangible assets.
Bank regulators from time to time have indicated a desire to raise capital
requirements applicable to banking organizations beyond current levels. In
addition, the number of risks which may be included in risk-based capital
-15-<PAGE>
restrictions, as well as the measurement of these risks, is likely to change,
resulting in increased capital requirements for banks. Bankshares, NBB and BTC
are unable to predict whether higher capital ratios would be imposed and, if so,
at what levels and on what schedule.
Other Legislative and Regulatory Concerns
Other legislative and regulatory proposals regarding changes in banking and
the regulation of banks, thrifts and other financial institutions are
periodically considered by the executive branch of the federal government,
Congress and various state governments, including Virginia. New proposals could
significantly change the regulation of banks and the financial services
industry. It cannot be predicted what might be proposed or adopted or how these
proposals would affect the Company.
Other Business Concerns
The banking industry is particularly sensitive to interest rate fluctuations,
as the spread between the rates which must be paid on deposits and those which
may be charged on loans is an important component of profit. In addition, the
interest which can be earned on a bank's invested funds has a significant effect
on profits. Rising interest rates typically reduce the demand for new loans,
particularly the real estate loans which represent a significant portion of
NBB's and BTC's loan demand, as well as certain NBB loans in which BTC
participates.
-16-<PAGE>
Statistical Disclosure by National Bankshares, Inc.
and Subsidiaries (The Company)
I. Distribution of Assets, Liabilities and Stockholders' Equity; Interest
Rates and Interest Differential
------------------------------------------------------------------------
A. Average Balance Sheets
The following table presents, for the years indicated, condensed daily
average balance sheet information.
($ in thousands)
December 31,
Assets 1999 1998 1997
---- ---- ----
Cash and due from banks $ 12,820 10,281 9,954
Interest bearing deposits 5,263 12,889 4,165
Federal funds sold 2,926 6,389 8,181
Securities available for sale:
Taxable 95,979 94,247 54,213
Nontaxable 29,286 29,284 6,312
Securities held to maturity:
Taxable 8,940 9,972 67,046
Nontaxable 17,219 18,929 29,608
Mortgage loans held for sale 709 1,017 413
Loans, net 266,431 225,613 204,540
Other assets 14,616 12,367 11,500
-------- ------- -------
Total assets $454,189 420,988 395,932
======== ======= =======
Liabilities and Stockholders' Equity
Noninterest-bearing demand
deposits $ 55,700 49,552 44,193
Interest-bearing demand deposits 85,284 77,842 75,519
Savings deposits 46,792 47,475 47,781
Time deposits 203,807 185,101 171,946
-------- ------- -------
Total deposits 391,583 359,970 339,439
Short-term borrowings 4,228 216 319
Other liabilities 2,182 2,520 2,462
-------- ------- -------
Total liabilities 397,993 362,706 342,220
Stockholders' equity 56,196 58,282 53,712
------- ------- -------
Total liabilities and
stockholders' equity $454,189 420,988 395,932
======== ======= =======
-17-<PAGE>
<TABLE>
B. Analysis of Net Interest Earnings
The following table shows the major categories of interest-earning assets and interest-bearing
liabilities, the interest earned or paid, the average yield or rate on the daily average balance
outstanding, net interest income and net yield on average interest-earning assets for the years
indicated.
<CAPTION>
December 31, 1999 December 31, 1998 December 31, 1997
Average Average Average
Average Yield/ Average Yield/ Average Yield/
($ in thousands) Balance Interest Rate Balance Interest Rate Balance Interest Rate
------- -------- ------- ------- -------- ------- ------- -------- -------
<S> <C> <C> <C> <C> <C> <C> <C> <C> <C>
Interest-earning assets:
Loans, net (1)(2)(3) $267,140 24,244 9.08% 226,630 21,726 9.59% $204,953 19,667 9.60%
Taxable securities 104,919 6,820 6.50% 104,219 7,201 6.91% 121,259 7,776 6.41%
Nontaxable securities
(1) 46,505 3,414 7.34% 48,213 2,899 6.01% 35,920 2,708 7.54%
Federal funds sold 2,926 170 5.81% 6,389 345 5.40% 8,181 470 5.75%
Interest bearing deposits 5,263 269 5.11% 12,889 696 5.40% 4,165 230 5.52%
-------- ------- ------- ------- -------- -------
Total interest-earning
assets $426,753 34,917 8.18% 398,340 32,867 8.25% $374,478 30,851 8.24%
======== ======= ======= ======= ======== =======
Interest-bearing
liabilities:
Interest-bearing
demand deposits $ 85,284 2,129 2.50% 77,842 2,203 2.83% $ 75,519 2,161 2.86%
Savings deposits 46,792 1,212 2.59% 47,475 1,511 3.18% 47,781 1,571 3.29%
Time deposits 203,807 10,630 5.22% 185,101 10,203 5.51% 171,946 9,357 5.44%
Short-term borrowings 4,228 232 5.49% 216 11 5.09% 319 17 5.33%
Long-term debt --- --- --- --- --- --- --- --- ---
-------- ------- ------- ------- -------- -------
Total interest-
bearing liabilities $340,111 14,203 4.18% 310,634 13,928 4.48% 295,565 13,106 4.43%
======== ======= ======= ======= ======== =======
Net interest income and
interest rate spread 20,714 4.00% 18,939 3.77% 17,745 3.81%
Net yield on average
interest-earning assets 4.85% 4.75% 4.74%
(1) Interest on nontaxable loans and securities is computed on a fully taxable equivalent basis using
a Federal income tax rate of 34%.
(2) Loan fees of $680 in 1999, $414 in 1998 and $339 in 1997 are included in total interest income.
(3) Nonaccrual loans are included in average balances for yield computations.
</TABLE>
-18-<PAGE>
<TABLE>
C. Analysis of Changes in Interest Income and Interest Expense
The Company's primary source of revenue is net interest income, which is the difference between the
interest and fees earned on loans and investments and the interest paid on deposits and other funds.
The Company's net interest income is affected by changes in the amount and mix of interest-earning
assets and interest-bearing liabilities and by changes in yields earned on interest-earning assets
and rates paid on interest-bearing liabilities. The following table sets forth, for the years
indicated, a summary of the changes in interest income and interest expense resulting from changes
in average asset and liability balances (volume) and changes in average interest rates (rate).
<CAPTION>
1999 Over 1998 1998 Over 1997
------------------------------ -------------------------------
Changes Due To Changes Due To
-------------- --------------
Net Dollar Net Dollar
($ in thousands) Rates(2) Volume(2) Change Rates(2) Volume(2) Change
-------- --------- ---------- -------- --------- ----------
<S> <C> <C> <C> <C> <C> <C>
Interest income:(1)
Loans $(1,206) 3,724 2,518 (19) 2,078 2,059
Taxable securities (429) 48 (381) 572 (1,147) (575)
Nontaxable securities 621 (106) 515 (618) 809 191
Federal funds sold 24 (199) (175) (98) (27) (125)
Interest bearing deposits (35) (392) (427) 471 (5) 466
------- ------ ------ ------ ------ ------
Increase(decrease) in income on
interest-earning assets $(1,025) 3,075 2,050 308 1,708 2,016
------- ------ ------ ------ ------ ------
Interest expense:
Interest-bearing demand deposits $ (273) 199 (74) 66 (24) 42
Savings deposits (278) (21) (299) (50) (10) (60)
Time deposits (568) 995 427 724 122 846
Short-term borrowings 1 220 221 (1) (5) (6)
------- ------ ------ ------ ------ ------
Increase(decrease) in expense
of interest-bearing liabilities $(1,118) 1,393 275 739 83 822
-------- ------ ------ ------ ------ ------
Increase (decrease) in net interest
income $ 93 1,682 1,775 (431) 1,625 1,194
======= ====== ====== ====== ====== ======
(1) Taxable equivalent basis using a Federal income tax rate of 34%.
(2) Variances caused by the change in rate times the change in volume have been allocated to rate and
volume changes proportional to the relationship of the absolute dollar amounts of the change in
each.
</TABLE>
-19-<PAGE>
<TABLE>
II. Investment Portfolio
A. Book Value of Investments
The amortized costs and fair values of securities available for sale as of December 31, 1999,
1998 and 1997 were as follows:
<CAPTION>
December 31,
1999 1998 1997
---- ---- ----
Amortized Fair Amortized Fair Amortized Fair
($ in thousands) Costs Values Costs Values Costs Values
--------- ------ --------- ------ --------- ------
<S> <C> <C> <C> <C> <C> <C>
Available for sale:
U.S. Treasury $ 6,244 6,164 9,253 9,671 6,742 6,862
U.S. Government agencies and corporations 50,373 47,498 59,365 59,595 36,252 36,276
States and political subdivisions 32,903 31,617 32,183 32,865 9,540 9,639
Mortgage-backed securities (1) 13,464 13,176 17,282 17,200 4,172 4,119
Corporate debt securities 14,349 13,646 14,528 14,824 7,780 7,824
Federal Home Loan Bank stock 1,329 1,329 1,214 1,214 537 537
Federal Reserve Bank stock 247 247 247 247 247 247
Other securities 168 168 462 462 18 78
-------- ------- ------- ------- ------- -------
Total securities available for sale $119,077 113,845 134,534 136,078 65,288 65,582
======== ======= ======= ======= ======= =======
<CAPTION>
The amortized costs of securities held to maturity as of December 31, 1999, 1998 and 1997 were
as follows:
December 31,
($ in thousands) 1999 1998 1997
---- ---- ----
<S> <C> <C> <C>
Held to maturity:
U.S. Treasury $ 500 1,006 7,527
U.S. Government agencies and corporations 5,500 7,497 36,853
States and political subdivisions 17,283 21,160 32,949
Mortgage-backed securities (1) 364 513 630
Corporate --- 500 6,433
------- ------- -------
Total securities held to maturity $23,647 30,676 84,392
======= ======= =======
(1) The majority of mortgage-backed securities and collateralized mortgage obligations held at
December 31, 1999 were backed by U.S. agencies. Certain holdings are required to be
periodically subjected to the Financial Institution Examination Council's (FFIEC) high risk
mortgage security test. These tests address possible fluctuations in the average life and
price sensitivity which are the primary risks associated with this type of security. Such
tests are usually subject to regulatory review.
Except for U.S. Government securities, the Company has no securities with any issuer that exceeds
10% of stockholders' equity.
</TABLE>
-20-<PAGE>
<TABLE>
B. Maturities and Associated Yields
The following table presents the maturities for those securities available for sale and held to
maturity as of December 31, 1999 and weighted average yield for each range of maturities.
<CAPTION>
Maturities and Yields
December 31, 1999
($ in thousands except for % data) < 1 Year 1-5 Years 5-10 Years > 10 Years None Total
-------- --------- ---------- ---------- ---- -------
<S> <C> <C> <C> <C> <C> <C>
Available for Sale
------------------
U.S. Treasury $ --- 5,203 961 --- --- $ 6,164
---% 6.03% 5.67% ---% ---% 5.97%
U.S. Government agencies 4,001 5,854 23,188 14,455 --- 47,498
5.95% 6.20% 6.53% 6.67% ---% 6.48%
Mortgage-backed securities --- --- 2,142 11,035 --- 13,177
---% ---% 5.97% 7.16% ---% 6.95%
States and Political --- 1,701 494 1,287 --- 3,482
Subdivision - taxable ---% 7.24% 7.40% 7.77% ---% 6.73%
States and Political Subdivision --- 5,710 8,436 13,990 --- 28,136
- nontaxable(1) ---% 7.20% 7.36% 7.03% ---% 7.16%
Corporate --- 992 6,299 6,354 --- 13,645
---% 6.23% 6.75% 6.79% ---% 6.73%
Federal Home Loan Bank stock --- --- --- --- 1,329 1,329
---% ---% ---% ---% 7.75% 7.75%
Federal Reserve Bank stock --- --- --- --- 247 247
---% ---% ---% ---% 6.00% 6.00%
Other securities 167 --- --- --- --- 167
5.67% ---% ---% ---% ---% 5.67%
----- ------ ------ ------ ------ -------
Total 4,168 19,460 41,520 47,121 1,576 113,845
5.94% 6.54% 6.69% 6.94% 7.52% 6.75%
Held to Maturity
----------------
U.S. Treasury 500 --- --- --- --- 500
5.09% ---% ---% ---% ---% 5.09%
U.S. Government agencies --- 4,500 1,000 --- --- 5,500
---% 5.66% 3.96% ---% ---% 5.35%
Mortgage-backed securities --- 14 102 247 --- 363
---% 9.00% 7.67% 7.26% ---% 7.44%
States and Political 400 1,072 358 200 --- 2,030
Subdivision - taxable 6.40% 6.98% 7.03% 9.00% ---% 7.07%
States and Political 1,701 10,283 2,416 854 --- 15,254
Subdivision - nontaxable 6.86% 7.32% 7.62% 7.09% ---% 7.30%
Corporate --- --- --- --- --- ---
---% ---% ---% ---% ---% ---%
Other securities --- --- --- --- --- ---
---% ---% ---% ---% ---% ---%
----- ------ ------ ------ ------ ------
Total 2,601 15,869 3,876 1,301 --- 23,647
6.45% 6.83% 6.62% 7.42% ---% 6.78%
(1) Rates shown represent weighted average yield on a fully taxable basis.
</TABLE>
-21-<PAGE>
III. Loan Portfolio
--------------
The Company concentrates its lending activities in commercial and
industrial loans, real estate mortgage loans both residential and
business, and loans to individuals. The following tables set forth (i)
a comparison of the Company's loan portfolio by major category of loans
as of the dates indicated and (ii) the maturities and interest rate
sensitivity of the loan portfolio at December 31, 1999.
A. Types of Loans
December 31,
($ in thousands) 1999 1998 1997 1996 1995
---- ---- ---- ---- ----
Commercial and industrial
loans $149,386 110,509 101,379 87,519 59,609
Real estate mortgage
loans 58,829 48,724 42,969 43,917 45,589
Real estate construction
loans 14,669 12,827 8,510 6,295 6,007
Loans to individuals 73,825 69,493 66,635 60,991 56,920
-------- ------- ------- ------- -------
Total loans 296,709 241,553 219,493 198,722 168,125
Less unearned income and
deferred fees (1,916) (2,296) (2,503) (2,549) (2,307)
-------- ------- ------- ------- -------
Total loans, net of
unearned income 294,793 239,257 216,990 196,173 165,818
Less allowance for loans
losses (3,231) (2,679) (2,438) (2,575) (2,625)
-------- ------- ------- ------- -------
Total loans, net $291,562 236,578 214,552 193,598 163,193
======== ======= ======= ======= =======
B. Maturities and Interest Rate Sensitivities
December 31, 1999
After
($ in thousands) <1 Year 1-5 Years 5 Years Total
------- --------- ------- -----
Commercial and
industrial $52,277 61,749 35,360 149,386
Real estate
construction 14,669 --- --- 14,669
Less loans with
predetermined interest
rates 31,052 26,567 34,878 92,497
------- ------ ------ -------
Loans with adjustable
rates $35,894 35,182 482 71,558
======= ====== ====== =======
-22-<PAGE>
C. Risk Elements
1. Nonaccrual, Past Due and Restructured Loans
The following table presents aggregate amounts for nonaccrual
loans, restructured loans, other real estate owned, net and
accruing loans which are contractually past due ninety days or more
as to interest or principal payments.
December 31,
($ in thousands) 1999 1998 1997 1996 1995
---- ---- ---- ---- ----
Nonaccrual loans:
Commercial and industrial $ 65 --- 55 121 270
Real estate mortgage 33 28 32 495 418
Real estate construction --- --- --- --- ---
Loans to individuals 53 --- --- --- 30
------ ----- ----- ------ -----
$ 151 28 87 616 718
Restructured loans:
Commercial and industrial 40 --- --- --- ---
------ ----- ----- ------ -----
Total nonperforming loans $ 191 28 87 616 718
Other real estate owned, net 447 628 421 474 762
------ ----- ----- ------ -----
Total nonperforming assets $ 638 656 508 1,090 1,480
====== ===== ===== ====== =====
Accruing loans past due 90
days or more:
Commercial and industrial $ 99 186 82 14 11
Real estate mortgage 704 160 358 252 250
Real estate construction --- --- --- --- ---
Loans to individuals 274 204 232 192 313
------ ----- ----- ------ -----
$1,077 550 672 458 574
====== ===== ===== ====== =====
The effect of nonaccrual and restructured loans on interest income
is presented below:
($ in thousands) 1999 1998 1997
---- ---- ----
Scheduled interest:
Nonaccrual loans $ 13 4 8
Restructured loans --- --- ---
----- ----- -----
Total scheduled interest $ 13 4 8
===== ===== =====
Recorded interest:
Nonaccrual loans $ --- --- 1
Restructured loans --- --- ---
----- ----- -----
Total recorded interest $ --- --- 1
===== ===== =====
-23-<PAGE>
Interest is recognized on the cash basis for all loans carried in
nonaccrual status. Loans generally are placed in nonaccrual status
when the collection of principal or interest is ninety days or more
past due, unless the obligation is both well-secured and in the
process of collection.
2. Potential Problem Loans
At December 31, 1999, the recorded investment in loans which have
been identified as impaired loans totaled $317,000. Of this
amount, $95,000 related to loans with no valuation allowance and
$222,000 related to loans with a corresponding valuation allowance
of $154,000. For the year-ended December 31, 1999, the average
recorded investment in impaired loans was approximately $292,000
and the total interest income recognized on impaired loans was
$13,000 of which $0 was recognized on a cash basis.
At December 31, 1998, the recorded investment in loans which have
been identified as impaired loans totaled $373,000. Of this
amount, $228,000 related to loans with no valuation allowance and
$145,000 related to loans with a corresponding valuation allowance
of $145,000. For the year ended December 31, 1998, the average
recorded investment in impaired loans was approximately $387,000,
and the total interest income recognized on impaired loans was
$32,000 of which $0 was recognized on a cash basis.
3. Foreign Outstandings
At December 31, 1999, 1998 and 1997, there were no foreign
outstandings.
4. Loan Concentrations
The Company does a general banking business, serving the
commercial, agricultural and personal banking needs of its
customers. NBB's trade territory, consists of Montgomery and Giles
Counties, and the City of Galax, Virginia and portions of adjacent
counties. NBB's operating results are closely correlated with the
economic trends within this area which are, in turn, influenced by
the area's three largest employers, Virginia Polytechnic Institute
and State University, Montgomery County Schools and Celco. Other
industries include a wide variety of manufacturing, retail and
service concerns. Most of BTC's business originates from the
communities of Tazewell and Bluefield and other communities in
Tazewell County, Virginia and in Mercer County, West Virginia.
BTC's service area has largely depended on the coal mining industry
and farming for its economic base. In recent years, coal companies
have mechanized and reduced the number of persons engaged in the
production of coal. There are still a number of support industries
for the coal mining business that continue to provide employment in
the area. Additionally, several new businesses have been
established in the area and Bluefield, West Virginia has begun to
emerge as a regional medical center. The ultimate collectibility
of the loan portfolios and the recovery of the carrying amounts of
repossessed property are susceptible to changes in the market
conditions of these areas.
-24-<PAGE>
At December 31, 1999 and 1998, approximately $130 million and $94
million, respectively, of the loan portfolio were concentrated in
commercial real estate. This represents approximately 44% and 39%
of the loan portfolio at December 31, 1999 and 1998, respectively.
Included in commercial real estate at December 31, 1999 and 1998
was approximately $85 million and $64 million, respectively, in
loans for college housing and professional office buildings. Loans
secured by residential real estate were approximately $74 million
and $67 million at December 31, 1999 and 1998, respectively. This
represents approximately 25% and 28% of the loan portfolio at
December 31, 1999 and 1998, respectively. Loans secured by
automobiles were approximately $33 million and $32 million at
December 31, 1999 and 1998, respectively. This represents
approximately 11% of the loan portfolio at December 31, 1999 and
13% at December 31, 1998.
The Company has established operating policies relating to the
credit process and collateral in loan originations. Loans to
purchase real and personal property are generally collateralized by
the related property and with loan amounts established based on
certain percentage limitations of the property's total stated or
appraised value. Credit approval is primarily a function of
collateral and the evaluation of the creditworthiness of the
individual borrower or project based on available financial
information.
-25-<PAGE>
<TABLE>
IV. Summary of Loan Loss Experience
-------------------------------
A. Analysis of the Allowance for Loan Losses
The following tabulation shows average loan balances at the end of each period; changes in the
allowance for loan losses arising from loans charged off and recoveries on loans previously charged
off by loan category; and additions to the allowance which have been charged to operating expense:
<CAPTION>
December 31,
($ in thousands) 1999 1998 1997 1996 1995
---- ---- ---- ---- ----
<S> <C> <C> <C> <C> <C>
Average loans outstanding $266,431 225,613 204,540 177,419 160,643
======== ======= ======= ======= =======
Balance at beginning of year 2,679 2,438 2,575 2,625 2,551
Charge-offs:
Commercial and industrial loans 185 32 257 95 23
Real estate mortgage loans 33 80 --- 11 9
Real estate construction loans --- --- --- --- ---
Loans to individuals 760 526 422 400 259
-------- ------- ------- ------- -------
Total loans charged off 978 638 679 506 291
-------- ------- ------- ------- -------
Recoveries:
Commercial and industrial loans 51 --- 70 4 10
Real estate mortgage loans 1 2 --- 64 16
Real estate construction loans --- 190 --- --- ---
Loans to individuals 78 63 37 57 57
-------- ------- ------- ------- -------
Total recoveries 130 255 107 125 83
-------- ------- ------- ------- -------
Net loans charged off 848 383 572 381 208
Additions charged to operations 1,400 624 435 331 282
-------- ------- ------- ------- -------
Balance at end of year $ 3,231 2,679 2,438 2,575 2,625
======== ======= ======= ======= =======
Net charge-offs to average net loans
outstanding 0.32% 0.17% 0.28% 0.21% 0.13%
Factors influencing management's judgment in determining the amount of the loan loss provision
charged to operating expense include the quality of the loan portfolio as determined by
management, the historical loan loss experience, diversification as to type of loans in the
portfolio, the amount of secured as compared with unsecured loans and the value of underlying
collateral, banking industry standards and averages, and general economic conditions.
</TABLE>
-26-<PAGE>
<TABLE>
B. Allocation of the Allowance for Loan Losses
The allowance for loan losses has been allocated according to the amount deemed necessary to provide
for anticipated losses within the categories of loans for the years indicated as follows:
<CAPTION>
December 31,
1999 1998 1997 1996 1995
---- ---- ---- ---- ----
Percent Percent Percent Percent Percent
of of of of of
Loans in Loans in Loans in Loans in Loans in
Each Each Each Each Each
Category Category Category Category Category
($ in Allowance to Total Allowance to Total Allowance to Total Allowance to Total Allowance to Total
thousands) Amount Loans Amount Loans Amount Loans Amount Loans Amount Loans
--------- --------- --------- -------- --------- -------- --------- -------- --------- --------
<S> <C> <C> <C> <C> <C> <C> <C> <C> <C> <C>
Commercial
and
industrial
loans $ 555 50.35% 222 45.75% 213 46.18% 403 44.04% 411 35.46%
Real estate
mortgage
loans 119 19.83% 73 20.17% 67 19.58% 305 22.10% 363 27.12%
Real estate
construction
loans --- 4.94% --- 5.31% --- 3.88% 51 3.17% 100 3.57%
Loans to
individuals 978 24.88% 497 28.77% 416 30.36% 504 30.69% 271 33.85%
Unallocated 1,579 1,887 1,742 1,312 1,480
------ ------ ------ ------ ------
$3,231 100.00% 2,679 100.00% 2,438 100.00% 2,575 100.00% 2,625 100.00%
====== ====== ====== ====== ====== ====== ====== ====== ====== ======
</TABLE>
-27-<PAGE>
Loan Loss Allowance
- -------------------
The adequacy of the allowance for loan losses is based on management's
judgement and analysis of current and historical loss experience, risk
characteristics of the loan portfolio, concentrations of credit as well as other
internal and external factors such as general economic conditions.
The evaluation of the allowance for loan losses is performed by the internal
credit review department.
Guidance for the evaluations performed are established by the regulatory
authorities who periodically review the results for compliance.
As a part of this process, loans are grouped into principally two classes.
The first involves loans that are individually reviewed and direct allocations
made based on collateral values, financial statements of the borrower and other
documentation. In addition, an estimate is made for losses inherent to this
portfolio.
The second class includes pools of loans. Allocations from this analysis are
derived and based on historical loss averages.
The unallocated portion of the allowance for loan losses is the residual
amount after allocation to the above classes.
As previously stated, adequacy of the allowance for loan losses is subject to
periodic regulatory review. These reviews cover the allocation process and
overall adequacy of the allowance for loan losses. Regulatory authorities at
their discretion may set minimum levels for the allowance and/or require the
charge-off of loans as a result of their examination. This independent grading
process by regulators serves as a standard to gage the effectiveness of the
internal credit review.
-28-<PAGE>
V. Deposits
--------
A. Average Amounts of Deposits and Average Rates Paid
Average amounts and average rates paid on deposit categories in excess
of 10% of average total deposits are presented below:
December 31,
1999 1998 1997
---- ---- ----
Average Average Average
Average Rates Average Rates Average Rates
($ in thousands) Amounts Paid Amounts Paid Amounts Paid
------- ------- ------- ------- ------- -------
Noninterest-bearing
demand deposits $ 55,700 --- 49,552 --- 44,193 ---
Interest-bearing
demand deposits 85,284 2.50% 77,842 2.83% 75,519 2.86%
Savings deposits 46,792 2.59% 47,475 3.18% 47,781 3.29%
Time deposits 203,807 5.22% 185,101 5.51% 171,946 5.44%
-------- ------- -------
Average total
deposits $391,583 4.16% 359,970 4.48% 339,439 4.43%
======== ======= =======
B. Time Deposits of $100,000 or More
The following table sets forth time certificates of deposit and other
time deposits of $100,000 or more:
December 31, 1999
Over 3 Over 6
3 Months Months
Months Through 6 Through 12 Over 12
($ in thousands) or Less Months Months Months Total
------- --------- ---------- ------- -----
Certificates of
deposit $46,801 34,200 71,164 67,055 219,220
Other time deposits 35,590 27,526 54,381 55,551 173,048
------- ------ ------ ------ -------
Total time
deposits of
$100,000 or more $11,211 6,674 16,783 11,504 46,172
======= ====== ====== ====== =======
-29-<PAGE>
VI. Return on Equity and Assets
---------------------------
The ratio of net income to average stockholders' equity and to average
total assets, and certain other ratios are presented below:
December 31,
1999 1998 1997
---- ---- ----
Return on average assets 1.56% 1.61% 1.66%
Return on average equity(1) 12.61% 11.66% 12.21%
Dividend payout ratio 39.70% 41.29% 39.31%
Average equity to average assets(1) 12.37% 13.84% 13.57%
(1) Includes amount related to common stock subject to ESOP put option
excluded from stockholders' equity on the Consolidated Balance
Sheets for 1998 and 1997.
Item 2. Properties
- -------------------
Bankshares' headquarters, including the Main Office of NBB, are located at
100 South Main Street, Blacksburg, Virginia. In addition to the Bank's Main
Office location, NBB owns nine branch offices: three in the Town of Blacksburg;
one in the Town of Christiansburg; one in Montgomery County; and three in the
County of Giles and one in the City of Galax. An additional tract of land has
been acquired for the construction of a tenth branch.
Bank of Tazewell County owns the land and building of six of its seven
offices. The bank leases the land and building for its seventh office. The
Main Office is located at Main Street, Tazewell, Virginia. Three additional
branches are located in Tazewell, one in North Tazewell and two are located in
Bluefield, Virginia. Management believes that its existing facilities are
adequate to meet present needs and any anticipated growth.
NBB owns all its computer and data processing hardware and is a licensee of
the software it utilizes. BTC utilizes this same system for data processing.
Item 3. Legal Proceedings
- --------------------------
Bankshares, NBB nor BTC are not currently involved in any material pending
legal proceedings, other than routine litigation incidental to NBB's and BTC's
banking business.
Item 4. Submission of Matters to a Vote of Security Holders
- ------------------------------------------------------------
None
-30-<PAGE>
Executive Officers of the Registrant
------------------------------------
Pursuant to General Instruction G(3) of Form 10-K, the following list is
included as an unnumbered item in Part I of this report in lieu of being
included in the Proxy Statement for the Annual Meeting of Stockholders to be
held on April 11, 2000.
The following is a list of names and ages of all executive officers of
Bankshares; their terms of office as officers; the positions and offices within
Bankshares held by each officer; and each person's principal occupation or
employment during the past five years.
Year Elected an
Name Age Offices and Positions Held Officer/Director
---- --- -------------------------- ----------------
James G. Rakes 55 Chairman, President and 1986
Chief Executive Officer,
National Bankshares, Inc.;
and President and Chief
Executive Officer of The
National Bank of Blacksburg
since 1983.
J. Robert Buchanan 48 Treasurer, National 1998
Bankshares, Inc.; Senior
Vice President/Chief
Financial Officer of The
National Bank of Blacksburg,
since January 1, 1998; prior
thereto Senior Vice
President, Treasurer and
Chief Financial Officer,
Premier Bankshares Corporate
since 1991.
Marilyn B. Buhyoff 51 Secretary & Counsel, 1989
National Bankshares, Inc.;
and Senior Vice President/
Administration since 1992,
of The National Bank of
Blacksburg.
F. Brad Denardo 47 Corporate Officer, National 1989
Bankshares, Inc.; and
Executive Vice President/
Loans since 1989 of The
National Bank of Blacksburg.
Except for J. Robert Buchanan, each of the executive officers listed above have
served Bankshares and/or its subsidiaries in the aforementioned executive
capacity for the past five years.
-31-<PAGE>
Part II
-------
Item 5. Market for Registrant's Common Equity and Related Stockholder Matters
- ------------------------------------------------------------------------------
Effective December 1, 1999, National Bankshares, Inc.'s common stock began
trading on the Nasdaq SmallCap Market under the symbol "NKSH". Prior to
December 1, 1999, National Bankshares, Inc.'s common stock was traded on a
limited basis in the over-the-counter market and was not listed on any exchange
or quoted on Nasdaq. As of March 15, 2000, there were 1,103 stockholders of
Bankshares common stock. The following is a summary of the market price per
share and cash dividend per share of the common stock of National Bankshares,
Inc. for 1999 and 1998. Prices prior to December 1, 1999 do not necessarily
reflect the prices which would have prevailed had there been an active trading
market, nor do they reflect unreported trades, which may have been at lower or
higher prices.
Information concerning Market Price and Dividend Data is set forth under
"Common Stock Information and Dividends" on page 11 of Bankshares' 1999 Annual
Report to Stockholders and is incorporated herein by reference.
Item 6. Selected Financial Data
- --------------------------------
The table entitled "Selected Consolidated Financial Data" on page 4 of
Bankshares' 1999 Annual Report to Stockholders is incorporated herein by
reference.
Item 7. Management's Discussion and Analysis of Financial Condition and Results
of Operations
- --------------------------------------------------------------------------------
The information contained under "Management's Discussion and Analysis" on
pages 5 through 11 of Bankshares' 1999 Annual Report to Stockholders is
incorporated herein by reference.
Item 7A. Quantitative and Qualitative Disclosures About Market Risk
- -------------------------------------------------------------------
See "Analysis of Interest Rate Sensitivity" set forth below. Additional
information is set forth under the section "Interest Rate Sensitivity" on page 5
and the section "Derivatives and Market Risk Exposure" on page 9 of Bankshares'
1999 Annual Report to Stockholders and is incorporated herein by reference.
-32-<PAGE>
Analysis of Interest Rate Sensitivity
The following discussion of interest rate sensitivity contains forward-looking
statements within the meaning of Section 27A of the Securities Act of 1933 and
Section 21E of the Securities Exchange Act of 1934. The Company's actual
results could differ materially from those set forth in the forward-looking
statements.
The table below sets forth, as of December 31, 1999, the distribution of
repricing opportunities of the Company's interest-earning assets and interest-
bearing liabilities, the interest rate sensitivity gap (i.e., interest rate
sensitive assets less interest rate sensitive liabilities), and the cumulative
interest rate sensitivity gap ratio. The table sets forth the time periods
during which interest-earning assets and interest-bearing liabilities will
mature or may reprice in accordance with their contracted terms.
Certain shortcomings are inherent in the method of analysis presented in the
following table. For example, although certain assets and liabilities may have
similar maturities or periods of repricing, they may react in different degrees
and at different times to changes in market interest rates. Also, loan
prepayments and early withdrawals of certificates of deposit could cause the
interest sensitivities to vary from those which appear in the table.
An interest rate sensitivity gap is considered positive when the amount of
interest rate sensitive assets exceeds the amount of interest rate sensitive
liabilities. A gap is considered negative when the amount of interest rate
sensitive liabilities exceeds the amount of interest rate sensitive assets.
During a period of rising interest rates, a negative gap would generally tend to
affect adversely net interest income while a positive gap would generally tend
to result in an increase in net interest income. During a period of declining
interest rates, a negative gap would generally tend to result in increased net
interest income, while a positive gap would generally tend to affect adversely
net interest income. The Company's future earnings may be adversely affected by
a sharp upturn in interest rates as the Company is liability sensitive for a
period extending beyond five years. In a falling rate environment, earnings
might benefit to a certain degree from this position, because assets at higher
rate levels would reprice downward at a slower rate than interest sensitive
liabilities.
In prior years, the Company has used its securities available for sale as a
primary means to counter movements in interest rates. At December 31, 1999,
this portfolio contained a substantial amount of longer term securities with
call features. Due to overall increase in interest rate levels these securities
have not been called as originally anticipated. The rising interest rate levels
also resulted in a substantial increase in net unrealized losses making the sale
of these securities impractical. At present and for an indeterminate amount of
time in the future, the Company will not be able to use the securities
available for sale portfolio to respond to interest rate movements to the extent
possible in recent years. This risk can be mitigated, however, by funds
management, specifically through use of credit instruments offered by the
Federal Home Loan Bank. Accordingly, the Company's vulnerability to upward
movements of interest rates has increased.
-33-<PAGE>
<TABLE>
An interest-sensitivity table showing all major interest sensitive asset and liability categories for the
time intervals indicated and cumulative "gaps" for each interval is set forth on the following table.
<CAPTION>
Interest Rate December 31, 1999
Sensitivity Table (1) Interest-sensitive (days)
1-5 >5
($ in thousands) 1-90 91-180 181-365 Years Years Total
---- ------ ------- ----- ----- -----
<S> <C> <C> <C> <C> <C> <C>
Interest-earning assets:
Commercial and industrial loans $ 31,713 6,345 7,416 64,641 39,206 149,321
Real estate mortgage loans 8,953 1,030 2,546 29,562 16,705 58,796
Real estate construction loans 11,484 655 2,530 --- --- 14,669
Loans to individuals 11,556 5,251 8,689 37,144 9,216 71,856
--------- -------- -------- ------- ------- -------
Total loans, net of unearned income (2) $ 63,706 13,281 21,181 131,347 65,127 294,642
--------- -------- -------- ------- ------- -------
Federal funds sold 2,800 --- --- --- --- 2,800
Interest bearing deposits 9,219 --- --- --- --- 9,219
Securities available for sale (3) 2,407 407 1,318 28,263 81,450 113,845
Securities held to maturity (3) 1,818 710 1,399 16,375 3,345 23,647
Mortgage loans held for sale 229 --- --- --- --- 229
--------- -------- -------- ------- ------- -------
Total interest-earning assets $ 80,179 14,398 23,898 175,985 149,922 444,382
========= ======== ======== ======= ======= =======
Interest-bearing liabilities:
Interest-bearing demand deposits $ 88,385 --- --- --- --- 88,385
Savings deposits 44,834 --- --- --- --- 44,834
Time deposits 46,801 34,200 71,164 67,055 --- 219,220
Other borrowings 10,460 --- --- --- --- 10,460
--------- -------- -------- ------- ------- -------
Total interest-bearing liabilities $ 190,480 34,200 71,164 67,055 --- 362,899
========= ======== ======== ======= ======= =======
Cumulative ratio of interest-
sensitive assets to interest-
sensitive liabilities .42 .42 .40 .81 1.22 1.22
Cumulative interest-sensitivity gap $(110,301) (130,103) (177,369) (68,439) 81,483 81,483
========= ======== ======== ======= ======= =======
(1) The Company is sensitive to interest rate changes, as liabilities generally reprice or
mature before interest-earning assets. The above gap table reflects the Company's
rate-sensitive position at December 31, 1999, and is not necessarily reflective of its
position throughout the year. The carrying amounts of interest-rate sensitive assets and
liabilities are presented in the periods in which they reprice to market rates or mature and
are summed to show the interest-rate sensitivity gap.
(2) Excludes nonaccrual loans.
(3) Call features on certain securities, if exercised, could have the effect of materially shortening
the average life of the investment portfolio. The exercise of a call feature is dependent upon the
rate environment. The call decision is at the issuers discretion and ultimate benefit.
</TABLE>
-34-<PAGE>
The Company also uses simulation analysis to forecast its balance sheet and
monitor interest rate sensitivity. One test used by NBI is shock analysis which
measures the effect of a hypothetical, immediate and parallel shift in interest
rates. The following table shows the results of a rate shock of 100, 200, and
300 basis points and the effects on net income and return on average assets and
return on average equity at December 31, 1999.
($ in thousands, except for percent data)
Rate Net Return on Return on
Shift Income Average Equity Average Assets
----- ------ -------------- --------------
300 $ 5,773 10.40% 1.24%
200 6,614 11.83% 1.42%
100 7,449 13.23% 1.60%
(-)100 9,103 15.94% 1.95%
(-)200 9,921 17.26% 2.12%
(-)300 10,331 17.91% 2.21%
Simulation analysis allows the Company to test asset and liability management
strategies under rising and falling rate conditions. As a part of simulation
process, certain estimates and assumptions must be made dealing with but, not
limited to, asset growth, the mix of assets and liabilities, rate environment,
local and national economic conditions. Asset growth and the mix of assets can
to a degree be influenced by management. Other areas such as the rate
environment and economic factors cannot be controlled. For this reason actual
results may vary materially from any particular forecast or shock analysis.
This shortcoming is offset to a degree by the periodic re-forecasting of the
balance sheet to reflect current trends and economic conditions. Shock analysis
must also be updated periodically as a part of the asset and liability
management process.
-35-<PAGE>
Item 8. Financial Statements and Supplementary Data
- ----------------------------------------------------
The following consolidated financial statements of the Registrant and the
Independent Auditors' Report set forth on pages 12 through 35 of Bankshares'
1999 Annual Report to Stockholders are incorporated herein by reference:
1. Independent Auditors' Report
2. Consolidated Balance Sheets - December 31, 1999 and 1998
3. Consolidated Statements of Income and Comprehensive Income - Years ended
December 31, 1999, 1998 and 1997
4. Consolidated Statements of Changes in Stockholders' Equity - Years ended
December 31, 1999, 1998 and 1997
5. Consolidated Statements of Cash Flows - Years ended December 31, 1999,
1998 and 1997
6. Notes to Consolidated Financial Statements - December 31, 1999, 1998 and
1997
Item 9. Changes In and Disagreements With Accountants on Accounting and
Financial Disclosure
- --------------------------------------------------------------------------------
None.
Part III
--------
Item 10. Directors and Executive Officers of the Registrant
- ------------------------------------------------------------
Executive Officers of Bankshares as of December 31, 1999 are listed on page
32 herein.
Information with respect to the directors of Bankshares is set out under the
caption "Election of Directors" on pages 2 through 4 of Bankshares' Proxy
Statement dated March 15, 2000, which information is incorporated herein by
reference.
Item 11. Executive Compensation
- --------------------------------
The information set forth under "Executive Compensation" on pages 5 through 6
of Bankshares' Proxy Statement dated March 15, 2000 is incorporated herein by
reference.
Item 12. Security Ownership of Certain Beneficial Owners and Management
- ------------------------------------------------------------------------
The information set forth under "Voting Securities and Stock Ownership" on
page 1 and under "Stock Ownership of Certain Beneficial Owners" and "Stock
Ownership of Directors and Executive Officers" on pages 1 and 2 of Bankshares'
Proxy Statement dated March 15, 2000 is incorporated herein by reference.
-36-<PAGE>
Item 13. Certain Relationships and Related Transactions
- --------------------------------------------------------
The information contained under "Certain Transactions With Officers and
Directors" on page 11 of Bankshares' Proxy Statement dated March 15, 2000 is
incorporated herein by reference.
Part IV
-------
Item 14. Exhibits, Financial Statement Schedules and Reports on Form 8-K
- -------------------------------------------------------------------------
(a) The following documents are filed as part of this report:
1999 Annual Report
To Stockholders Page(s)*
------------------------
1. Financial Statements:
--------------------
Independent Auditors' Report 12
Consolidated Balance Sheets -
December 31, 1999 and 1998 13
Consolidated Statements of
Income and Comprehensive
Income - Years ended December
31, 1999, 1998 and 1997 14
Consolidated Statements of Changes
in Stockholders' Equity - Years
ended December 31, 1999, 1998 and
1997 15
Consolidated Statements of Cash
Flows - Years ended December 31,
1999, 1998 and 1997 16
Notes to Consolidated
Financial Statements - December
31, 1999, 1998 and 1997 17-35
2. Financial Statement Schedules:
-----------------------------
None
* Incorporated by reference from the indicated pages of the 1999 Annual Report
to Stockholders.
-37-<PAGE>
3. Exhibits:
--------
Page No. in
Exhibit No. Description Sequential System
----------- ----------- -----------------
3(i) Articles of Incorporation, as (incorporated
amended, of National herein by
Bankshares, Inc. reference to
Exhibit 3(a) of
the Annual Report on
Form 10K for
fiscal year ended
December 31, 1993)
4(i) Specimen copy of certificate (incorporated
for National Bankshares, Inc. herein by
common stock, $2.50 par value reference to
Exhibit 4(a) of
the Annual Report on
Form 10K for
fiscal year ended
December 31, 1993)
4(i) Article Four of the Articles (incorporated
of Incorporation of National herein by
Bankshares, Inc. included in reference to
Exhibit No. 3(a)) Exhibit 4(b) of
the Annual Report on
Form 10K for
fiscal year ended
December 31, 1993)
10(ii)(B) Computer software license (incorporated
agreement dated June 18, 1990, herein by
by and between Information reference to
Technology, Inc. and The Exhibit 10(e) of
National Bank of Blacksburg the Annual Report on
Form 10K for
fiscal year ended
December 31, 1992)
*10(iii)(A) Employment Agreement dated (incorporated
January 1, 1992, by and herein by
between National Bankshares, reference to
Inc. and James G. Rakes Exhibit 10(a) of
the Annual Report on
Form 10K for
fiscal year ended
December 31, 1992)
*10(iii)(A) Capital Accumulation Plan (incorporated
(included in Exhibit No. herein by
10(a)) reference to
Exhibit 10(b) of
the Annual Report on
Form 10K for
fiscal year ended
December 31, 1992)
-38-<PAGE>
Page No. in
Exhibit No. Description Sequential System
----------- ----------- -----------------
*10(iii)(A) Employee Lease Agreement dated (incorporated
May 7, 1992, by and between herein by
National Bankshares, Inc. and reference to
The National Bank of Exhibit 10(c) of
Blacksburg the Annual Report on
Form 10K for
fiscal year ended
December 31, 1992)
*10(iii)(A) National Bankshares, Inc. (incorporated herein
1999 Stock Option Plan by reference to
Exhibit 4.3 of the
Form S-8, filed as
Registration No.
333-79979 with the
Commission on June
4, 1999)
13(i) 1999 Annual Report to
Stockholders (such Report,
except to the extent
incorporated herein by
reference, is being furnished
for the information of the
Commission only and is not
deemed to be filed as part of
this Report on Form 10-K)
21(i) Subsidiaries of National
Bankshares, Inc.
23 Consent of KPMG LLP to
incorporation by reference of
independent auditors' report
incorporated by reference in
this Form 10-K, into
registrant's registration
statement on Form S-8.
27 Financial Data Schedule
* Indicates a management contract or compensatory plan required to be filed
herein.
(b) Reports on Form 8-K filed during the last quarter of the period covered
by this report:
------------------------------------------------------------------------
None.
(c) Exhibits required by Item 601 of Regulation S-K:
-----------------------------------------------
See Item 14(a)3 above.
(d) Financial Statement Schedules required by Regulation S-X:
--------------------------------------------------------
See Item 14(a)2 above.
-39-<PAGE>
Signatures
----------
Pursuant to the requirements of Section 13 or 15(d) of the Securities
Exchange Act of 1934, National Bankshares, Inc. has duly caused this report to
be signed on its behalf by the undersigned, thereunto duly authorized.
National Bankshares, Inc.
BY: /s/James G. Rakes
-------------------------------------
James G. Rakes, Chairman,
President and Chief Executive Officer
DATE: March 29, 2000
-------------------------------------
BY: /s/J. Robert Buchanan
-------------------------------------
J. Robert Buchanan
Treasurer (Principal Financial Officer)
DATE: March 29, 2000
-------------------------------------
Pursuant to the requirements of the Securities Exchange Act of 1934, this
report has been signed by the following persons on behalf of the Registrant and
in the capacities and on the date indicated.
Name Date Title
---- ---- -----
Director and Vice
------------------------- -------------- Chairman of the Board
C. L. Boatwright
/s/L. A. Bowman March 29, 2000 Director
------------------------- --------------
L. A. Bowman
/s/A. A. Crouse March 29, 2000 Director
------------------------- --------------
A. A. Crouse
/s/J. A. Deskins, Sr. March 29, 2000 Director
------------------------- --------------
J. A. Deskins, Sr.
/s/P. A. Duncan March 29, 2000 Director
------------------------- --------------
P. A. Duncan
/s/C. L. Forrester March 29, 2000 Director
------------------------- --------------
C. L. Forrester
/s/W. T. Peery March 29, 2000 Director
------------------------- --------------
W. T. Peery
/s/J. G. Rakes March 29, 2000 Chairman of the Board
------------------------- -------------- President and Chief
J. G. Rakes Executive Officer -
National Bankshares, Inc.
/s/J. R. Stewart March 29, 2000 Director
------------------------- --------------
J. R. Stewart
-40-<PAGE>
Index to Exhibits
-----------------
Page No. in
Exhibit No. Description Sequential System
----------- ----------- -----------------
3(i) Articles of Incorporation, as (incorporated
amended, of National Bankshares, herein by
Inc. reference to
Exhibit 3(a) of
the Annual Report on
Form 10K for
fiscal year ended
December 31, 1993)
4(i) Specimen copy of certificate for (incorporated
National Bankshares, Inc. common herein by
stock, $2.50 par value reference to
Exhibit 4(a) of
the Annual Report on
Form 10K for
fiscal year ended
December 31, 1993)
4(i) Article Fourth of the Articles (incorporated
of Incorporation of National herein by
Bankshares, Inc. included in reference to
Exhibit No. 3(a)) Exhibit 4(b) of
the Annual Report on
Form 10K for
fiscal year ended
December 31, 1993)
10(ii)(B) Computer software license (incorporated
agreement dated June 18, 1990, herein by
by and between Information reference to
Technology, Inc. and The Exhibit 10(e) of
National Bank of Blacksburg the Annual Report on
Form 10K for
fiscal year ended
December 31, 1992)
*10(iii)(A) Employment Agreement dated (incorporated
January 1, 1992, by and between herein by
National Bankshares, Inc. and reference to
James G. Rakes Exhibit 10(a) of
the Annual Report on
Form 10K for
fiscal year ended
December 31, 1992)
*10(iii)(A) Capital Accumulation Plan (incorporated
(included in Exhibit No. 10(a)) herein by
reference to
Exhibit 10(b) of
the Annual Report on
Form 10K for
fiscal year ended
December 31, 1992)
-41-<PAGE>
Page No. in
Exhibit No. Description Sequential System
----------- ----------- -----------------
*10(iii)(A) Employee Lease Agreement dated (incorporated
May 7, 1992, by and between herein by
National Bankshares, Inc. and reference to
The National Bank of Blacksburg Exhibit 10(c) of
the Annual Report on
Form 10K for
fiscal year ended
December 31, 1992)
*10(iii)(A) National Bankshares, Inc. 1999 (incorporated herein
Stock Option Plan by reference to
Exhibit 4.3 of the
Form S-8, filed as
Registration No.
333-79979 with the
Commission on June
4, 1999)
13(i) 1999 Annual Report to
Stockholders (such Report,
except to the extent
incorporated herein by
reference, is being furnished
for the information of the
Commission only and is not
deemed to be filed as part of
this Report on Form 10-K)
21(i) Subsidiaries of National
Bankshares, Inc.
23 Consent of KPMG LLP to
incorporation by reference of
independent auditors' report
incorporated by reference in
this Form 10-K, into
registrant's registration
statement on Form S-8.
27 Financial Data Schedule
* Indicates a management contract or compensatory plan required to be filed
herein.
-42-<PAGE>
National Bankshares
1999
Annual Report<PAGE>
1999 Annual Report
Financial Highlights
$ In thousands, except per share data 1999 1998 1997
---- ---- ----
Net income $ 7,088 6,798 6,560
Basic net income per share 1.96 1.79 1.73
Cash dividends declared per share 0.80 0.74 0.68
Book value per share 14.99 16.00 14.73
Loans, net $291,562 236,578 214,552
Total securities 137,492 166,754 149,974
Total assets 472,134 445,166 402,907
Total deposits 407,187 382,696 344,867
Stockholders' equity 52,723 58,503 54,029
Contents
To Our Stockholders 2
Selected Consolidated
Financial Data 4
Management's Discussion and
Analysis 5
Independent Auditors' Report 12
Consolidated Financial
Statements 13
Notes to Consolidated
Financial Statements 17
Selected Quarterly Data 36
Board of Directors 38
Corporate Information 40
<PAGE>
To Our Stockholders
We are pleased to report
another year of higher earnings and
solid asset growth. National
Bankshares, Inc. achieved net income
in 1999 of nearly $7.09 million, an
increase of 4.3% over 1998. Based National Bankshares
upon a weighted average of shares
outstanding during 1999 and also
reflecting the effects of the common
stock repurchase plan that was
completed in the second quarter of
the year, basic net income per share
rose to $1.96 from $1.79 in 1998.
The total assets of National
Bankshares increased to $472.13
million at December 31, 1999, as
compared to $445.17 million for the
same period in 1998. A major factor
contributing to asset growth during Picture of
the year was a 23.2% increase in net "New Hubbard Street Office"
loans, to $291.56 million at year-
end. Adding sound loans to our
subsidiary banks' portfolios serves
our communities, our customers and
our stockholders. Funds on deposit
at The National Bank and at Bank of
Tazewell County are used to make
loans in our local region. The
loans in turn support business
expansion and the construction of
new homes. They also allow our
customers to purchase new cars, to
pay for medical expenses and to
educate their children. National Picture of
Bankshares' stockholders benefit "Newly renovated BTC Bluefield
from loan growth because making good Branch Lobby"
loans is the most profitable use of
the banks' capital and assets.
As I mentioned above, when you
review this year's Annual Report you
will see that net income for 1999
totaled nearly $7.09 million, a 4.3%
increase over last year. You will
also see an item listed as
"comprehensive income", which is
less than the net income figure.
Since this difference can be
confusing, I want to explain about
comprehensive income, an accounting
presentation that in our case is Picture of
used to reflect the annual "NBB Customer Service Representative
fluctuations in the market value of demonstrating Online Banking"
our "available for sale" investment
portfolio.
2<PAGE>
In 1999, because of increases Picture of
in interest rates in the bond market "James G. Rakes"
and the structure of our available
for sale investment portfolio,
National Bankshares experienced an
unrealized net loss in the work by employees, neither The
portfolio. This year's National Bank nor Bank of Tazewell
comprehensive income resulted from Country experienced any disruption
subtracting the unrealized net loss in work flow. On the first business
figure from our net income total. day of 2000, it was business as
This unrealized net loss is usual for bank customers and
significant only if we actually sell employees.
the investments and recognize the We believe that the future of
loss into net income. When our progressive community banks
investments are fundamentally sound, depends upon offering a full
as we believe ours are, there is no spectrum of financial service
need to recognize any loss into net options, from high touch to high
income unless the investments are tech. As the world becomes more
sold before maturity. We do not impersonal, trusted relationships
plan to liquidate any significant become more valuable. Because of
portion of our available for sale our historic community ties, The
investment portfolio before National Bank and Bank of Tazewell
maturity, and we do not foresee any County are important present and
events in the near future that would future sources of quality financial
cause us to change these plans. services with a personal touch. It
This past year was a busy and would be impossible for us to move
productive one for The National Bank forward and carry out our corporate
and for Bank of Tazewell County. On mission without the support of our
February 1, NBB introduced an stockholders, directors and
Internet Banking product that has employees. I thank you for your
proven to be quite popular. With contributions to the continued
Internet Banking, our customers can success of National Bankshares.
access account balances, apply for
loans, open new accounts and pay
bills when it is most convenient for James G. Rakes
them. In August, The National Bank Chairman of the Board
opened the new Hubbard Street Office President and
Building in Blacksburg. In addition Chief Executive Officer
to housing the bank's tenth branch
location, Hubbard Street serves as
the corporate headquarters and as
the home to NBB's Trust, Bank Card,
Marketing, Human Resources, Audit,
Compliance and Loan Review
departments. Also during 1999, Bank
of Tazewell County completed needed
renovations at the Bluefield,
Virginia office. BTC highlighted
the importance of tradition by
incorporating several items of
antique furniture from its 110-year
past into the office renovation
plan. The year ended with the
publicized millennium celebration
and the associated Y2K computer
century date change. Fortunately,
because of years of advance
preparation and a great deal of hard
3<PAGE>
National Bankshares, Inc. and Subsidiaries
Selected Consolidated Financial Data
$ In thousands, except per share data. Years ended December 31,
1999 1998 1997 1996 1995
---- ---- ---- ---- ----
Selected Interest income $ 33,603 31,828 29,797 28,647 28,094
Income Interest expense 14,203 13,928 13,106 13,036 12,703
Statement Net interest income 19,400 17,900 16,691 15,611 15,391
Data: Provision for loan
losses 1,400 624 435 331 282
Noninterest income 3,512 3,174 2,834 2,693 2,382
Noninterest expense 11,868 11,061 10,031 9,515 10,033
Income taxes 2,556 2,591 2,499 2,341 1,933
Net income 7,088 6,798 6,560 6,117 5,525
Per Share Basic net income $ 1.96 1.79 1.73 1.61 1.46
Data: Cash dividends
declared 0.80 0.74 0.68 0.62 0.57
Book value per
share(1) 14.99 16.00 14.73 13.56 12.70
Selected Loans, net $291,562 236,578 214,552 193,598 163,193
Balance Total securities 137,492 166,754 149,974 171,244 187,635
Sheet Total assets 472,134 445,166 402,907 388,850 380,915
Data at Total deposits 407,187 382,696 344,867 334,584 330,313
End Stockholders'
of Year: equity 52,723 58,503 54,029 49,801 48,154
Selected Loans, net $266,431 225,613 204,540 177,419 160,643
Balance Total securities 151,424 152,432 157,179 177,403 183,994
Sheet Total assets 454,189 420,988 395,932 388,045 378,406
Daily Total deposits 391,583 359,970 339,439 335,938 330,261
Averages: Stockholders'
equity(1) 56,196 58,282 53,712 49,459 45,726
Selected Return on average
Ratios: assets 1.56 1.61 1.66 1.58 1.46
Return on average
equity(1) 12.61 11.66 12.21 12.37 12.08
Dividend payout
ratio 39.70 41.29 39.31 37.55 37.32
Average equity to
average assets(1) 12.37 13.84 13.57 12.75 12.08
(1) Includes amount related to common stock subject to ESOP put option
excluded from stockholders' equity on the Consolidated Balance Sheets
in 1998, 1997 and 1996.
"Cash Dividends Per Share" Graph
(In Dollars)
1999 1998 1997 1996 1995
---- ---- ---- ---- ----
.80 .74 .68 .62 .57
4<PAGE>
Management's Discussion and Analysis
($ In thousands, except per share data.)
PERFORMANCE SUMMARY
Net income in 1999 for National Bankshares, Inc. (Bankshares) and its
wholly-owned subsidiaries, The National Bank of Blacksburg (NBB) and Bank of
Tazewell County (BTC), (the Company), was $7,088, an increase of $290 or 4.27%
over the previous year. This produced a return on average assets and a return
on average equity of 1.56% and 12.61%, respectively.
Net income for the Company for 1998 was $6,798, an increase of $238 or
3.63% over 1997. The return on average assets and return on average equity for
1998 were 1.61% and 11.66%, respectively.
The Company's net income for 1997 was $6,560 which produced a return on
average assets of 1.66% and a return on average equity of 12.21%.
Basic net income per share increased steadily over the three-year period
rising from $1.73 per share in 1997 to $1.79 in 1998 and $1.96 in 1999.
Net income for 1999 increased 4.27% as previously stated; however, total
asset growth increased at a rate of approximately 6%, resulting in a slight
decline in the return on average assets. The increase in the return on average
equity for 1999 was the result of increased earnings and a decline in
stockholders' equity. This decline in stockholders' equity was due to a
combination of a stock repurchase that occurred in the second quarter of 1999,
cash dividends and a substantial decline in accumulated other comprehensive
income. The dividend payout ratio for 1999 was 39.70%, which compares to
41.29% in 1998 and 39.31% in 1997.
"Net Income" Graph
(In Millions)
1999 1998 1997 1996 1995
---- ---- ---- ---- ----
7.1 6.8 6.6 6.1 5.5
NET INTEREST INCOME
Net interest income for 1999 was $19,400, an increase of $1,500 or 8.38%
over 1998. In 1998, net interest income was $17,900, up $1,209 or 7.24% from
1997 net interest income of $16,691.
The net yield on earning assets for 1999 was 4.82%. In 1998 and 1997, the
net yield on earning assets was 4.77% and 4.75%, respectively.
During 1999, the Company continued to experience substantial loan growth,
which in turn contributed significantly to the increase in net interest income.
The improvement in the net interest margin of 5 basis points was the result of
a 14 basis point decline in the yield on earning assets combined with a 19
basis point decline in the cost to fund earning assets. In the fourth quarter
of 1999, the Company changed its method of accounting for loan late fees from
cash to accrual basis. As a result of this change, net interest income
increased by $266. This change was not deemed to be material.
The Company experienced a higher level of deposit growth in 1998 relative
to the preceding year. This allowed loan growth to be funded by deposits. The
investment portfolio grew as well.
In 1997, management's strategy was to fund increases in the loan portfolio
through liquidity generated principally from the securities portfolio. In
1997, overall loan growth was strong, particularly in commercial loans and
loans to individuals.
5<PAGE>
Management's Discussion and Analysis
INTEREST RATE SENSITIVITY
The Company considers interest rate risk to be a significant market risk
and has systems in place to measure the exposure of net interest income and
fair market values to adverse movement in interest rates. Interest rate
sensitivity analyses indicate repricing opportunities, and interest rate shock
simulations indicate potential economic loss due to future interest rate
changes. Management realizes certain risks are inherent and minimizes these by
adjusting asset/liability management responses to changing economic conditions.
The Company reduces the volatility of its net interest income by managing
the relationship of interest-rate sensitive assets to interest-rate sensitive
liabilities. In prior years, the Company has used its securities available for
sale as a primary means to counter movements in interest rates. At December
31, 1999, this portfolio contained a substantial amount of longer term
securities with call features. Due to an overall increase in interest rate
levels these securities have not been called as originally anticipated. The
rising interest rate levels also resulted in a substantial increase in net
unrealized losses making the sale of these securities impractical. At present
and for an indeterminate amount of time in the future, the Company will not be
able to use the securities available for sale portfolio to respond to interest
rate movements to the extent possible in recent years. This risk can be
mitigated, however, by funds management, specifically through use of credit
instruments offered by the Federal Home Loan Bank. Accordingly, the Company's
vulnerability to upward movements of interest rates has increased.
PROVISION AND ALLOWANCE FOR LOAN LOSSES
The adequacy of the allowance for loan losses is based on management's
judgement and analysis of current and historical loss experience, risk
characteristics of the loan portfolio, concentrations of credit and asset
quality, as well as other internal and external factors such as general
economic conditions.
An internal credit review department performs pre-credit analyses of large
credits and also conducts credit review activities that provide management with
an early warning of asset quality deterioration.
Changing trends in the loan mix are also evaluated in determining the
adequacy of the allowance for loan losses.
Loan loss and other industry indicators related to asset quality are
presented in the Loan Loss Data table.
6<PAGE>
National Bankshares, Inc. and Subsidiaries
Loan Loss Data
($ In thousands) 1999 1998 1997
---- ---- ----
Provision for loan losses $ 1,400 624 435
Net charge-offs to average
net loans 0.31% 0.17% 0.28%
Allowance for loan losses to
loans, net of unearned
income and deferred fees 1.10% 1.12% 1.12%
Allowance for loan losses to
nonperforming loans 1,691.62% 9,567.86% 2,802.30%
Allowance for loan losses to
nonperforming assets 506.43% 408.38% 479.92%
Nonperforming assets to loans,
net of unearned income
and deferred fees, plus
other real estate owned 0.22% 0.27% 0.23%
Nonaccrual loans $ 151 28 87
Restructured loans 40 --- ---
Other real estate owned, net 447 628 421
--------- --------- ---------
Total nonperforming assets $ 638 656 508
========= ========= =========
Accruing loans past due 90 days or more $ 1,077 550 672
========= ========= =========
Nonperforming loans include nonaccrual loans and restructured loans, but
do not include accruing loans past due 90 days or more. Nonperforming assets
for 1999 have decreased $18 or 2.74% from 1998. Nonperforming assets for 1998
increased by $148 or 29.13% from the 1997 total of $508.
Net charge-offs to average net loans for 1999 were 0.31%, up from 0.17% in
1998. In 1999, overall asset quality continued to be satisfactory and general
economic conditions favorable. The provision for loan loss increased by $776
or 124.36%. This increased level of bad debt expense was primarily in response
to the growth in the loan portfolio, but also provided for additional losses.
Charge-offs in the commercial loan category increased by $153, while charge-
offs on loans to individuals increased by $234. A majority of the charge-offs
in the commercial loan area was due to a single credit, while charge-offs on
loans to individuals consisted of numerous smaller credits.
Net charge-offs to average net loans for 1998 were 0.17%, down from 1997
when that ratio was 0.28%. The provision for loan losses, which increased $189
in 1998 or 43.45% over 1997's provision of $435, was increased to cover 1998's
net charge-offs and loan growth. See note 5 of Notes to Consolidated Financial
Statements for additional information relating to nonperforming assets, past
due loans, impaired loans and allowance for loan losses.
While past efforts directed at improving asset quality have been largely
successful, management is unable to estimate when and under what exact terms
problem assets will be resolved. Changing economic conditions, the timing and
extent of changes and the ultimate impact on the Company's asset quality is not
within management's ability to predict with any degree of precision.
In addition, precise loss predictions may be difficult to determine
because of the complex circumstances that surround troubled debts.
NONINTEREST INCOME
Noninterest income for 1999 was $3,512, an increase of $338 or 10.65%
over 1998. Noninterest income for 1998 was $3,174, up $340 or 12.00% from
1997.
7<PAGE>
Management's Discussion and Analysis
Service charges on deposits for 1999 totaled $1,395, an increase of $230
or 19.74% from 1998. This increase was due in part to volume and improved
collection efforts. Service charges on deposit accounts in 1998 were up $34 or
3.01% from the previous year. The level of these charges is driven by demand
deposit volume, types of accounts opened, service charge rates in effect, the
level of charges such as overdraft fees and the waiver policy concerning these
fees. The increase for 1998 was largely attributable to the overall increase
in demand deposit volume. The decrease for 1997 was largely attributable to
fluctuations in overdraft volumes.
Other service charges and fees are composed of safe deposit box rent,
charges associated with letters of credit and other miscellaneous items. In
1999, these charges were $279, an increase of $48 or 20.78% from 1998. For
1998, these charges totaled $231, a decrease of $19 or 7.60% from 1997.
Trust income for 1999 was $927 which represents an increase of $153 or
19.77% over 1998. In 1998, trust income was $774, an increase of $36 or 4.88%
over 1997. Factors affecting the growth in trust income include an increase in
the number of accounts managed, an increase in the average value of the
accounts managed and an increase in both the number and value of estates
settled. Due to its nature, estate business volume and the related income is
not within management's ability to predict.
Credit card income is composed of several types of fees and charges,
including transaction or interchange fees, merchant discount fees and overlimit
charges. In 1999, credit card income totaled $802, an increase of $149 or
22.82% over 1998. The increase in 1999 was attributable to increases in
merchant income and debit card processing fees. Credit card income for 1998
was $653, up $47 or 7.76% over 1997. Credit card income increased in 1998
largely because of a higher volume of interchange transactions, created in part
by the Company's debit card product. The Company's debit card product was
introduced late in the first quarter of 1997. Accordingly, 1998 reflects the
first full year of income derived from this product. Given the highly
competitive market which limits the amount of set charges, revenue increases
result from growth in the number of merchant accounts processed and increases
in the number of customer credit and debit card accounts that result in higher
transaction volume.
Net realized securities gains were $24 in 1999, down $164 or 87.23% from
1998. In 1998, net securities gains were $188, up 408.11% from 1997. Gains
and losses can occur as a result of portfolio restructuring, securities called
before maturity and certain market adjustments.
NONINTEREST EXPENSE
Noninterest expense in 1999 totaled $11,868, up $807 or 7.30% from 1998.
In 1998, noninterest expense was $11,061, an increase of $1,030 or 10.27% from
1997.
Salaries and benefits in 1999 increased $224 or 3.85% from 1998.
In 1998, salaries and benefits expense totaled $5,824, up $426 or 7.89%
from 1997. The increase in salaries was due in part to the acquisition of the
Galax office by NBB at the beginning of the second quarter, salary adjustments
and from increases in other normal compensation related items.
In early 2000, the Company's NBB subsidiary purchased a tract of land with
the intent to establish a new branch facility. The exact timing of the branch
application and construction processes has not been precisely determined. When
completed, it is expected that this planned addition will increase salaries
expense as well as certain other noninterest expenses.
Occupancy and furniture and fixtures expense increased $154 or 15.43% for
1999 when compared to 1998. This increase was due to higher costs associated
with the Galax office acquired by NBB in the second quarter of 1998 and also to
regular planned maintenance of facilities. Management anticipates occupancy
8<PAGE>
National Bankshares, Inc. and Subsidiaries
and furniture and fixtures expense will continue to increase due to the
addition of its Hubbard Street office placed in service in the third quarter of
1999 and the previously mentioned planned new facility. The expected increase
in occupancy and furniture and fixtures expense will be somewhat offset by a
future reduction in expenses for leased premises. Occupancy and furniture and
fixtures expense experienced an increase in 1998 of 4.18% over 1997.
Data processing and ATM expense was $889 for 1999, an increase over 1998
of $118 or 15.30%. This increase was due to costs associated with the upgrade
of information system hardware and software and costs related to an expanded
microcomputer network. In 1998, data processing and ATM expense was $771, an
increase of $193 or 33.39% over 1997.
The cost of Federal Deposit Insurance was $47 in 1999, an increase of $10
from 1998. While the banks' base premiums remain at the minimum required by
law, legislation enacted in late 1996 levied an assessment on banks for the
purpose of financing certain costs associated with the resolution of the
savings and loan crisis. This additional levy is expected to remain in effect
until 2018-2019. In 1998, the Company's affiliates paid a premium of $37, a
decrease of $6 over 1997.
Credit card processing expense for 1999 was $712, an increase of $113 or
18.86% over 1998. In 1998, credit card processing expense was $599, an
increase of 8.71%. This increase reflects additional expense due to the
introduction of a debit card product, higher merchant processing costs and an
overall increase in business activity.
Net costs of other real estate owned for 1999 were $26, a decrease of $11
or 29.73% from 1998. In 1998, net costs of other real estate owned were $37,
increasing $29 from 1997.
Other operating expenses were $2,956 in 1999, up $197 or 7.14% from 1998,
which was primarily the result of increases in stationery and supplies,
telephone and state franchise tax expense at BTC. The other operating expense
category in 1998 was $2,759, increasing 11.93% from 1997.
INCOME TAXES
Despite higher pre-tax income in 1999, a $35 decrease in income tax
expense resulted when compared to 1998. Tax exempt interest income continues
to be the primary difference between the "expected" and reported income tax
expense. The Company's effective tax rates for 1999, 1998 and 1997 were
26.50%, 27.60% and 27.59%, respectively.
See note 10 of Notes to Consolidated Financial Statements for additional
information relating to income taxes.
EFFECTS OF INFLATION
The Company's consolidated statements of income and comprehensive income
generally reflect the effects of inflation. Since interest rates, loan demand
and deposit levels are related to inflation, the resulting changes are included
in net income. The most significant item which does not reflect the effects of
inflation is depreciation expense, because historical dollar values used to
determine this expense do not reflect the effect of inflation on the market
value of depreciable assets after their acquisition.
"Total Assets" Graph
($ In Millions)
1999 1998 1997 1996 1995
---- ---- ---- ---- ----
$472.1 445.2 402.9 388.9 380.9
9<PAGE>
Management's Discussion and Analysis
"Net Loans" Graph
($ In Millions)
1999 1998 1997 1996 1995
---- ---- ---- ---- ----
$291.6 236.6 214.6 193.6 163.2
BALANCE SHEET
Total assets at year-end 1999 were $472,134 which represents an increase
of $26,968 or 6.06% over the previous year. The Company's primary methods of
achieving growth are to seek increases in deposits at its bank subsidiaries and
to grow through corporate acquisitions and mergers.
While deposit growth was strong in 1999, it was not sufficient to fund all
of the Company's investing and financing activities. Deposit growth was
supplemented in the fourth quarter by borrowing approximately $10,000 from the
Federal Home Loan Bank. See the Liquidity section for further comments.
In 1998, deposit growth was sufficient to fund loan growth as well as some
expansion of the securities portfolio. Profitable growth continues to be a
management objective. In 1999 and 1998, total average deposits grew by $31,613
and $20,531, respectively, which represents growth rates of 8.78% and 6.05%,
respectively.
LOANS
Loans, net of unearned income and deferred fees, grew by $55,536 or
23.21% in 1999. Commercial loans grew by $38,877 or 35.18% with loans to
individuals increasing by $4,332 or 6.23%. Loan growth for the year 2000 is
not expected to reach 1999 levels.
In 1998, loans, net of unearned income and deferred fees, grew by $22,267
or 10.26%. Commercial loans, which grew by $9,130 or 9.01%, accounted for the
largest portion of the increase.
The Company engages in the origination and sale of mortgage loans in the
secondary market. In 1999 and 1998, the Company originated $31,538 and
$41,472, respectively, and sold $33,489 and $39,697 in 1999 and 1998,
respectively, of mortgage loans.
SECURITIES
In 1999, total bank-owned securities decreased by $29,262 or 17.55%
compared to 1998. Securities available for sale declined by $22,233 or 16.34%,
while securities held to maturity declined by $7,029 or 22.91%. (See comments
in the Interest Rate Sensitivity section.)
In 1998, total bank-owned securities increased by $16,780 or 11.19% from
1997.
The Company's investment policy stresses safety, with a program of
purchasing high quality securities such as U.S. Treasury and U.S. Government
agency issues, state, county, and municipal bonds, corporate bonds, mortgage-
backed securities and other bank qualified investments. The Company has
classified all of its investment securities as either held to maturity or
available for sale, as the Company does not engage in trading activities.
At December 31, 1999 and 1998, the Company had no investment
concentrations in any single issues (excluding U.S. Government) that exceeded
ten percent of capital.
DEPOSITS
At year-end 1999, total deposits were $407,187 which represents a $24,491
or 6.4% increase over 1998. At December 31, 1998, total deposits were
$382,696, an increase of 10.97% over 1997. In the third quarter of 1999, the
10<PAGE>
National Bankshares, Inc. and Subsidiaries
Office of the Comptroller of Currency announced the closure of a banking
institution in Keystone, West Virginia. As a result of the closure, depositors
in that area were forced to seek banking relationships with other institutions
in the general area. The Company's BTC affiliate benefitted from the event,
acquiring new deposits in excess of $20,000. This event accounted for the
majority of the Company's deposit growth for 1999.
Average noninterest-bearing deposits were $55,700 in 1999, an increase of
$6,148 or 12.41% over 1998. In 1998, average noninterest- bearing deposits
increased by $5,359 or 12.13% over 1997.
Average interest-bearing deposits were $335,883 in 1999, an increase of
$25,465 over 1998. In 1998, average interest-bearing deposits of $310,418
increased $15,172 from 1997.
DERIVATIVES AND MARKET RISK EXPOSURES
The Company is not a party to derivative financial instruments with off-
balance sheet risks such as futures, forwards, swaps and options. The Company
is a party to financial instruments with off-balance sheet risks such as
commitments to extend credit, standby letters of credit, and recourse
obligations in the normal course of business to meet the financing needs of its
customers. See note 14 of Notes to Consolidated Financial Statements for
additional information relating to financial instruments with off-balance sheet
risk. Management does not plan any future involvement in high risk derivative
products. The Company has investments in mortgage-backed securities,
principally GNMA's, with a fair value of approximately $13,547, which includes
$2,142 of structured notes. In addition, the Company has investments in
nonmortgage-backed structured notes with a fair value of approximately $4,297.
See note 3 of Notes to Consolidated Financial Statements for additional
information relating to securities.
The Company's securities and loans are subject to credit and interest rate
risk and its deposits are subject to interest rate risk. Management considers
its credit risk when a loan is granted and monitors its credit risk after the
loan is granted. The Company maintains an allowance for loan losses to absorb
losses in the collection of its loans. See note 5 of Notes to Consolidated
Financial Statements for information relating to nonperforming assets, past due
loans, impaired loans and allowance for loan losses. See note 15 of Notes to
Consolidated Financial Statements for information relating to concentrations of
credit risk. The Company has an asset/liability program to manage its interest
rate risk. This program provides management with information related to the
rate sensitivity of certain assets and liabilities and the effect of changing
rates on profitability and capital accounts. While this planning process is
designed to protect the Company over the long term, it does not provide near
term protection from interest rate shocks, as interest rate sensitive assets
and liabilities do not, by their nature, move up or down in tandem in response
to changes in the overall rate environment. The Company's profitability in the
near term may be temporarily affected either positively by a falling interest
rate scenario or negatively by a period of rising rates. See note 16 of Notes
to Consolidated Financial Statements for information relating to fair value of
financial instruments and comments concerning interest rate sensitivity.
LIQUIDITY
Liquidity is the ability to provide sufficient cash flow to meet financial
commitments and to fund additional loan demand or withdrawal of existing
deposits. Sources of liquidity include deposits, loan principal and interest
repayments, sales, calls and maturities of securities and short-term
borrowings. The Company maintained an adequate liquidity level during 1999 and
1998. In 1999, the Company's liquidity was materially affected by several
events. As previously discussed, the Company's available for sale securities
11<PAGE>
Management's Discussion and Analysis
portfolio experienced a significant level of net unrealized losses through much
of 1999 and at December 31, 1999, which limited, in the near term, its use as a
source of liquidity. Deposit growth, however, during 1999 was strong, reducing
the effect of the lack of liquidity found in the securities portfolio. (See
comments in the deposit section related to the Keystone matter.) Loan growth
and other cash needs did however remain strong and resulted in the Company
borrowing $10,000 from the Federal Home Loan Bank on a short term basis at its
NBB subsidiary. Liquidity was also affected by a stock repurchase that used
cash totaling $7,762 and the building of a new corporate headquarters.
Management does not anticipate that 1999 loan growth levels will be repeated in
2000 and accordingly, believes that liquidity needs can be met by extensions of
credit by the Federal Home Loan Bank, as well as federal funds purchased.
Other needs for cash include the planned building of a new branch by the
Company's NBB subsidiary. The Company had approximately $43,000 in available
credit at the Federal Home Loan Bank at December 31, 1999. Overall, based on
available information, management does not expect demands for cash in 2000 to
reach 1999 levels.
Management is not aware of any other commitments or events that will
result in or are reasonably likely to result in a material and adverse decrease
in liquidity.
Net cash from operating activities of $11,448 in 1999 increased by $6,201
from 1998 primarily due to the increase in the provision for loan losses and
the decrease in mortgage loans held for sale. Net cash flows provided by
operating activities and financing activities for 1999 of $11,448 and $24,161,
respectively, were used primarily to fund loan growth.
Net cash from operating activities of $5,247 in 1998 decreased $2,326 from
1997 due primarily to the increase in mortgage loans held for sale offset by
the increase in net income. Net cash flows provided by operating activities
and financing activities for 1998 of $5,247 and $34,751, respectively, were
used to fund the net increases in federal funds sold, securities, loans made to
customers and purchases of loan participations of $790, $15,429, $18,675 and
$4,635, respectively.
CAPITAL RESOURCES
Total stockholders' equity decreased $7,986 from 1998 to 1999 and
increased $4,474 from 1997 to 1998. Cash dividends on common stock of $2,814
and the repurchase of common stock of $7,762, offset by net income, contributed
to the decrease in 1999. In addition, net unrealized gains (losses) on
securities available for sale, net of deferred income taxes, were ($3,453) at
December 31, 1999, $1,019 at December 31, 1998 and $194 at December 31, 1997.
These unrealized net gains and losses are recorded as accumulated other
comprehensive income (loss), a separate component of stockholders' equity, and
will continue to be subject to change in future years due to fluctuations in
fair values, sales, purchases, maturities and calls of securities classified as
available for sale.
In the second quarter of 1999, the Company repurchased 275,856 of its
common shares at $28.00 per share. This reduced stockholders' equity by
$7,762.
The Company has operated from a consistently strong capital position. The
ratio of total stockholders' equity to total assets was 11.17% at year end 1999
compared to 13.14% at year end 1998 and 13.41% at year end 1997. Banks are
required to apply percentages to various assets, including off-balance sheet
assets, to reflect their perceived risk. Regulatory defined capital is divided
by risk weighted assets in determining the banks' risk-based capital ratios.
No regulatory authorities have advised National Bankshares, Inc., The National
Bank of Blacksburg or Bank of Tazewell County of any specific leverage ratios
applicable to them. National Bankshares, Inc., The National Bank of Blacksburg
12<PAGE>
National Bankshares, Inc. and Subsidiaries
and Bank of Tazewell County's capital adequacy ratios exceed regulatory
requirements and provide added flexibility to take advantage of business
opportunities as they arise. See note 11 of Notes to Consolidated Financial
Statements for additional information.
RECENT ACCOUNTING PRONOUNCEMENTS
See notes 1 and 19 of Notes to Consolidated Financial Statements for
information relating to recent accounting pronouncements.
BUSINESS COMBINATIONS
On December 26, 1997, NBB entered into an agreement to purchase the
assets, including real estate and improvements, and assume the liabilities of
the Galax, Virginia branch office of First American Federal Savings Bank.
Settlement of this purchase agreement occurred on April 3, 1998 and did not
have a material impact on the Company's results of operations or liquidity.
YEAR 2000
The Company was cognizant of the risks posed by the Year 2000 issue for
Bank operations and borrowers. Subsequent to December 31, 1999, the Company
was not aware of any information that indicates a significant vendor or service
provider may be unable to sell goods or provide services to the Company because
of Year 2000 issues. Further, the Company has not received any notifications
from borrowers or regulatory agencies to which it is subject, nor is it aware
of any such information which indicates that (1) a borrower has experienced
significant issues which may impact its ability to service its loan or which
may impact its borrowing agreement terms or covenants or (2) significant
regulatory action is being or may be taken against the Company, as a result of
Year 2000 issues.
The Company has not experienced any significant disruptions to financial
or operating activities caused by failure in computerized systems resulting
from Year 2000 issues. Management does not expect Year 2000 issues to have a
material adverse effect on the Company's operations or financial results in
2000.
The Company was prepared for the millennium change and continues to
successfully operate and handle the transactions of customers subsequent to
December 31, 1999.
COMMON STOCK INFORMATION AND DIVIDENDS
Effective December 1, 1999, National Bankshares, Inc.'s common stock began
trading on the Nasdaq SmallCap Market under the symbol "NKSH". Prior to
December 1, 1999, National Bankshares, Inc.'s common stock was traded on a
limited basis in the over-the-counter market and was not listed on any exchange
or quoted on Nasdaq. As of December 31, 1999, there were 1,109 stockholders of
Bankshares common stock. The following is a summary of the market price per
share and cash dividend per share of the common stock of National Bankshares,
Inc. for 1999 and 1998. Prices prior to December 1, 1999 do not necessarily
reflect the prices which would have prevailed had there been an active trading
market, nor do they reflect unreported trades, which may have been at lower or
higher prices.
13<PAGE>
Common Stock Market Prices
Dividends
1999 1998 Per Share
High Low High Low 1999 1998
---- --- ---- --- ---- ----
First Quarter $26.00 22.00 $27.75 24.75 --- ---
Second Quarter 27.50 24.00 28.00 26.50 0.39 0.36
Third Quarter 25.00 22.00 27.50 23.25 --- ---
Fourth Quarter 23.50 19.75 24.25 21.25 0.41 0.38
Bankshares' primary source of funds for dividend payments is dividends
from its subsidiaries, The National Bank of Blacksburg and Bank of Tazewell
County. Bank regulatory agencies restrict dividend payments of the
subsidiaries as more fully disclosed in note 11 of Notes to Consolidated
Financial Statements.
14<PAGE>
Independent Auditors' Report
The Board of Directors and Stockholders
National Bankshares, Inc.:
We have audited the accompanying consolidated balance sheets of National
Bankshares, Inc. and subsidiaries as of December 31, 1999 and 1998, and the
related consolidated statements of income and comprehensive income, changes in
stockholders' equity, and cash flows for each of the years in the three-year
period ended December 31, 1999. These consolidated financial statements are
the responsibility of the Company's management. Our responsibility is to
express an opinion on these consolidated financial statements based on our
audits.
We conducted our audits in accordance with generally accepted auditing
standards. Those standards require that we plan and perform the audit to
obtain reasonable assurance about whether the financial statements are free of
material misstatement. An audit includes examining, on a test basis, evidence
supporting the amounts and disclosures in the financial statements. An audit
also includes assessing the accounting principles used and significant
estimates made by management, as well as evaluating the overall financial
statement presentation. We believe that our audits provide a reasonable basis
for our opinion.
In our opinion, the consolidated financial statements referred to above present
fairly, in all material respects, the financial position of National
Bankshares, Inc. and subsidiaries as of December 31, 1999 and 1998, and the
results of their operations and their cash flows for each of the years in the
three-year period ended December 31, 1999 in conformity with generally accepted
accounting principles.
As discussed in note 1(S) to the consolidated financial statements, the Company
adopted the provisions of Statement of Financial Accounting Standards No. 133,
"Accounting for Derivative Instruments and Hedging Activities," as of October
1, 1998.
/S/KPMG LLP
Roanoke, Virginia
February 11, 2000
15<PAGE>
<TABLE>
National Bankshares, Inc. and Subsidiaries
Consolidated Balance Sheets
<CAPTION>
$ In thousands, except share and per share data.
December 31, 1999 and 1998 1999 1998
---- ----
<S> <C> <C> <C>
Assets Cash and due from banks (notes 2 and 16) $ 13,311 14,421
Interest-bearing deposits (note 16) 9,219 7,027
Federal funds sold (note 16) 2,800 5,090
Securities available for sale (notes 3 and 16) 113,845 136,078
Securities held to maturity (fair value $23,496
in 1999 and $31,151 in 1998) (notes 3 and 16) 23,647 30,676
Mortgage loans held for sale (notes 14, 15 and 16) 229 2,180
Loans (notes 4, 5, 15 and 16):
Real estate construction loans 14,669 12,827
Real estate mortgage loans 58,829 48,724
Commercial and industrial loans 149,386 110,509
Loans to individuals 73,825 69,493
-------- -------
Total loans 296,709 241,553
Less unearned income and deferred fees (1,916) (2,296)
-------- -------
Loans, net of unearned income and
deferred fees 294,793 239,257
Less allowance for loan losses (note 5) (3,231) (2,679)
-------- -------
Loans, net 291,562 236,578
-------- -------
Bank premises and equipment, net (note 6) 8,506 6,657
Accrued interest receivable 4,014 3,777
Other real estate owned, net (note 5) 447 628
Other assets (note 10) 4,554 2,054
-------- -------
Total assets $472,134 445,166
======== =======
Liabilities Noninterest-bearing demand deposits $ 54,748 55,479
and Interest-bearing demand deposits 88,385 84,319
Stockholders'Savings deposits 44,834 46,387
Equity Time deposits (note 7) 219,220 196,511
-------- -------
Total deposits (note 16) 407,187 382,696
-------- -------
Other borrowed funds (notes 3 and 16) 10,460 214
Accrued interest payable 651 647
Other liabilities (note 8) 1,113 926
-------- -------
Total liabilities 419,411 384,483
-------- -------
16<PAGE>
Common stock subject to ESOP put option (note 8) --- 2,180
-------- -------
Stockholders' equity (notes 9, 10, 11 and 17):
Preferred stock of no par value. Authorized
5,000,000 shares; none issued and outstanding --- ---
Common stock of $2.50 par value. Authorized
5,000,000 shares; issued and outstanding
3,516,977 shares in 1999 and 3,792,833 in
1998 8,792 9,482
Retained earnings 47,384 50,182
Accumulated other comprehensive income (loss) (3,453) 1,019
Common stock subject to ESOP put option
(77,301 shares at $28.20 per share in
1998)(note 8) --- (2,180)
-------- -------
Total stockholders' equity 52,723 58,503
Commitments and contingent liabilities (notes 6, 8,
and 14)
-------- -------
Total liabilities and stockholders'
equity $472,134 445,166
======== =======
See accompanying notes to consolidated financial statements.
</TABLE>
17<PAGE>
National Bankshares, Inc. and Subsidiaries
Consolidated Statements of Income and Comprehensive Income
$ In thousands, except per share data. Years ended
December 31, 1999, 1998 and 1997 1999 1998 1997
---- ---- ----
Interest Interest and fees on loans $ 24,105 21,691 19,553
Income Interest on federal funds sold 170 345 451
Interest on interest-bearing deposits 269 696 230
Interest on securities - taxable 6,820 7,201 7,776
Interest on securities - nontaxable 2,239 1,895 1,787
-------- -------- -------
Total interest income 33,603 31,828 29,797
-------- -------- -------
Interest Interest on time deposits of $100,000 or
Expense more 2,487 2,457 2,335
Interest on other deposits 11,484 11,460 10,754
Interest on borrowed funds 232 11 17
-------- -------- -------
Total interest expense 14,203 13,928 13,106
-------- -------- -------
Net interest income 19,400 17,900 16,691
Provision for loan losses (note 5) 1,400 624 435
-------- -------- -------
Net interest income after
provision for loan losses 18,000 17,276 16,256
-------- -------- -------
Noninterest Service charges on deposit accounts 1,395 1,165 1,131
Income Other service charges and fees 279 231 250
Credit card fees 802 653 606
Trust income 927 774 738
Other income 85 163 72
Realized securities gains, net (note 3) 24 188 37
-------- -------- -------
Total noninterest income 3,512 3,174 2,834
-------- -------- -------
Noninterest Salaries and employee benefits (note 8) 6,048 5,824 5,398
Expense Occupancy and furniture and fixtures 1,152 998 958
Data processing and ATM 889 771 578
FDIC assessment 47 37 43
Credit card processing 712 599 551
Goodwill amortization 38 36 30
Net costs of other real estate owned 26 37 8
Other operating expenses 2,956 2,759 2,465
-------- -------- -------
Total noninterest expense 11,868 11,061 10,031
-------- -------- -------
18<PAGE>
Income before income tax expense 9,644 9,389 9,059
Income tax expense (note 10) 2,556 2,591 2,499
-------- -------- -------
Net income 7,088 6,798 6,560
-------- -------- -------
Other comprehensive income (loss), net of
income taxes:
Net unrealized gains (losses) on
securities available for sale (notes
1(R), 1(S) and 18):
Arising during the year (4,472) 356 442
Cumulative accounting change --- 469 ---
-------- -------- -------
Total other comprehensive income
(loss) (4,472) 825 442
-------- -------- -------
Comprehensive income $ 2,616 7,623 7,002
======== ======== =======
Basic net income per share (note
1(N)) $ 1.96 1.79 1.73
======== ======== =======
See accompanying notes to consolidated financial statements.
19<PAGE>
<TABLE>
National Bankshares, Inc. and Subsidiaries
Consolidated Statements of Changes in Stockholders' Equity
<CAPTION>
Common
Stock
Accumulated Subject
$ In thousands, except per share Other to ESOP
data. Years ended December 31, 1999, Common Retained Comprehensive Put
1998 and 1997. Stock Earnings Income (Loss) Option Total
------ -------- ------------- ------- -----
<S> <C> <C> <C> <C> <C>
Balances, December 31, 1996 $ 9,482 42,210 (248) (1,643) 49,801
Net income --- 6,560 --- --- 6,560
Cash dividends ($0.68 per share) --- (2,579) --- --- (2,579)
Change in net unrealized gains
(losses) on securities available for
sale, net of income tax expense of
$228 --- --- 442 --- 442
Change in common stock subject to
ESOP put option --- --- --- (195) (195)
------- ------ ------ ------ ------
Balances, December 31, 1997 9,482 46,191 194 (1,838) 54,029
Net income --- 6,798 --- --- 6,798
Cash dividends ($0.74 per share) --- (2,807) --- --- (2,807)
Change in net unrealized gains
(losses) on securities available
for sale, net of income tax expense
of $425:
Arising during the year, net of
income tax expense of $183 --- --- 356 --- 356
Cumulative accounting change, net
of income tax expense of $242
(note 1(S)) --- --- 469 --- 469
------- ------ ------ ------ ------
Total --- --- 825 --- 825
------- ------ ------ ------ ------
Change in common stock subject to
ESOP put option --- --- --- (342) (342)
------- ------ ------ ------ ------
Balances December 31, 1998 9,482 50,182 1,019 (2,180) 58,503
Net income --- 7,088 --- --- 7,088
Cash dividends ($0.80 per share) --- (2,814) --- --- (2,814)
Change in net unrealized gains
(losses) on securities available
for sale, net of income tax benefit
of $2,304 --- --- (4,472) --- (4,472)
Common stock repurchase (690) (7,072) --- --- (7,762)
Change in common stock subject to
ESOP put option (note 8) --- --- --- 2,180 2,180
------- ------ ------ ------ ------
Balances, December 31, 1999 $ 8,792 47,384 (3,453) --- 52,723
======= ====== ====== ====== ======
See accompanying notes to consolidated financial statements.
</TABLE>
20<PAGE>
<TABLE>
National Bankshares, Inc. and Subsidiaries
Consolidated Statements of Cash Flows
<CAPTION>
$ In thousands. Years ended December 31, 1999, 1998 and
1997 1999 1998 1997
---- ---- ----
<S> <C> <C> <C>
Cash Flows Net income $ 7,088 6,798 6,560
from Adjustments to reconcile net income to net cash
Operating provided by operating activities:
Activities Provision for loan losses 1,400 624 435
(Note 13) Recovery of bond losses --- --- (10)
Provision for deferred income taxes (214) (135) 300
Depreciation of bank premises and
equipment 903 811 586
Amortization of intangibles 152 144 121
Amortization of premiums and accretion of
discounts, net 350 87 11
Gains on sales and calls of
securities available for sale, net (20) (145) (5)
Gains on calls of securities held to
maturity, net (4) --- ---
Other 22 (135) (18)
(Increase) decrease in:
Mortgage loans held for sale 1,951 (1,775) 111
Accrued interest receivable (237) (332) 65
Other assets (134) (580) (76)
Increase (decrease) in:
Accrued interest payable 4 (75) 22
Other liabilities 187 (40) (529)
-------- -------- -------
Net cash provided by operating
activities 11,448 5,247 7,573
-------- -------- -------
Cash Flows Net (increase) decrease in federal funds sold 2,290 (790) (2,390)
from Net (increase) decrease in interest-bearing
Investing deposits (2,192) 2,701 (9,637)
Activities Proceeds from repayments of mortgage-backed
(Note 13) securities available for sale 4,558 1,065 396
Proceeds from sales of other securities
available for sale 1,300 2,999 ---
Proceeds from calls and maturities of other
securities available for sale 21,495 35,180 9,443
Proceeds from calls and maturities of
securities held to maturity 6,997 34,187 35,673
Purchases of mortgage-backed securities
available for sale --- (14,175) ---
Purchases of other securities available for
sale (12,190) (73,685) (12,201)
Purchases of securities held to maturity --- (1,000) (11,345)
Purchases of loan participations (5,643) (4,635) (6,189)
Collections of loan participations 3,408 4,074 1,934
Loans purchased, including premium --- (4,051) ---
Net increase in loans made to customers (54,456) (18,675) (17,400)
Proceeds from disposal of other real estate
owned 336 194 216
21<PAGE>
Recoveries on loans charged off 130 255 107
Bank premises and equipment expenditures (2,757) (1,770) (1,304)
Proceeds from sale of bank premises and
equipment 5 114 8
-------- -------- -------
Net cash used in investing
activities (36,719) (38,012) (12,689)
-------- -------- -------
Cash Flows Deposits acquired, net of premium --- 7,016 ---
from Net increase in time deposits 22,709 14,357 6,618
Financing Net increase in other deposits 1,782 16,456 3,665
Activities Net increase (decrease) in other borrowed funds 10,246 (271) (142)
(Note 13) Cash dividends paid (2,814) (2,807) (2,579)
Common stock repurchase (7,762) --- ---
-------- -------- -------
Net cash provided by
financing activities 24,161 34,751 7,562
-------- -------- -------
Net increase (decrease) in cash and due from
banks (1,110) 1,986 2,446
Cash and due from banks at beginning of year 14,421 12,435 9,989
-------- -------- -------
Cash and due from banks at end of year $ 13,311 14,421 12,435
======== ======== =======
See accompanying notes to consolidated financial statements.
</TABLE>
22<PAGE>
National Bankshares, Inc. and Subsidiaries
$ In thousands, except share and per share data.
December 31, 1999, 1998 and 1997
Note 1: Summary of Significant Accounting Policies
The accounting and reporting policies of National Bankshares, Inc.
(Bankshares) and its wholly-owned subsidiaries, The National Bank of Blacksburg
(NBB) and Bank of Tazewell County (BTC), conform to generally accepted
accounting principles and general practices within the banking industry.
The following is a summary of the more significant accounting policies.
(A) Consolidation
The consolidated financial statements include the accounts of
National Bankshares, Inc. and its wholly-owned subsidiaries (the Company).
All significant intercompany balances and transactions have been
eliminated.
(B) Cash and Cash Equivalents
For purposes of reporting cash flows, cash and cash equivalents
include cash on hand and due from banks.
(C) Securities
Securities available for sale are reported at fair value, with
unrealized gains and losses excluded from net income and reported, net of
income taxes, in a separate component of stockholders' equity. Securities
held to maturity are stated at cost, adjusted for amortization of premiums
and accretion of discounts on a basis which approximates the level yield
method. The Company does not engage in securities trading. Gains and
losses on securities are accounted for on the completed transaction basis
by the specific identification method.
A decline in the fair value of any available for sale or held to
maturity security below cost that is deemed other than temporary is
charged to income resulting in the establishment of a new cost basis for
the security.
(D) Loans
Loans are stated at the amount of funds disbursed plus the applicable
amount, if any, of unearned income and deferred fees less payments
received. Income on installment loans, including impaired installment
loans that have not been placed in nonaccrual status, is recognized on
methods which approximate the level yield method. Interest on all other
loans, including impaired other loans that have not been placed in
nonaccrual status, is accrued based on the balance outstanding times the
applicable interest rate.
Loans generally are placed in nonaccrual status when the collection
of principal or interest is 90 days or more past due, unless the
obligation is both well-secured and in the process of collection. All
interest accrued but not collected for loans that are placed on nonaccrual
status or charged-off is reversed against interest income. The interest
on these loans is accounted for on the cash basis until qualifying for
return to accrual. Loans are returned to accrual status when all the
principal and interest amounts contractually due are brought current and
future payments are reasonably assured.
Impaired loans are presented in the consolidated financial statements
at the present value of expected future cash flows or at the fair value of
the loan's collateral if the loan is deemed "collateral dependent." A
valuation allowance is required to the extent that the measure of the
impaired loans is less than the recorded investment. This requirement
23<PAGE>
Notes to Consolidated Financial Statements
does not apply to large groups of small-balance homogeneous loans such as
residential real estate mortgage, consumer installment, home equity and
bank card loans, which are collectively evaluated for impairment.
Loan origination and commitment fees and certain direct costs are
being deferred, and the net amount amortized as an adjustment to the
related loan's yield. These amounts are being amortized over the
contractual life of the related loans.
Mortgage loans held for sale are carried at the lower of cost or fair
value on an individual loan basis.
(E) Allowance for Loan Losses
The allowance for loan losses is a valuation allowance consisting of
the cumulative effect of the provision for loan losses, plus any amounts
recovered on loans previously charged off, minus loans charged off. The
provision for loan losses charged to expense is the amount necessary in
management's judgement to maintain the allowance for loan losses at a
level it believes adequate to absorb losses in the collection of its
loans.
(F) Bank Premises and Equipment
Bank premises and equipment are stated at cost, net of accumulated
depreciation. Depreciation is charged to expense over the estimated
useful lives of the assets on the straight-line basis. Depreciable lives
include 40 years for premises, 3-10 years for furniture and equipment, and
5 years for computer software. Costs of maintenance and repairs are
charged to expense as incurred and improvements are capitalized.
(G) Other Real Estate Owned
Other real estate, acquired through foreclosure or deed in lieu of
foreclosure, is carried at the lower of the recorded investment or its
fair value, less estimated costs to sell (net realizable value). When the
property is acquired, any excess of the loan balance over net realizable
value is charged to the allowance for loan losses. Subsequent decreases
in the net realizable value of such properties are charged to income by
adjusting the valuation allowance for other real estate owned. Net costs
of maintaining or operating foreclosed properties are expensed as
incurred.
(H) Intangible Assets
Included in other assets are deposit intangibles of $592 and $706 at
December 31, 1999 and 1998, respectively, and goodwill of $382 and $420 at
December 31, 1999 and 1998, respectively. Deposit intangibles are being
amortized on a straight-line basis over a ten-year period and goodwill is
being amortized on a straight-line basis over a fifteen-year period.
(I) Stock Option Plan
Effective March 10, 1999, the Company adopted the National
Bankshares, Inc. 1999 Stock Option Plan. The Company applies the
intrinsic value-based method of accounting prescribed by Accounting
Principles Board (APB) Opinion No. 25, "Accounting for Stock Issued to
Employees," and related interpretations, in accounting for its fixed plan
stock options. As such, compensation expense would be recorded on the
date of grant only if the current market price of the underlying stock
exceeded the exercise price. Statement of Financial Accounting Standards
No. 123, "Accounting for Stock-Based Compensation," established accounting
and disclosure requirements using a fair value-based method of accounting
for stock-based employee compensation plans. As allowed by Statement 123,
24<PAGE>
National Bankshares, Inc. and Subsidiaries
the Company has elected to continue to apply the intrinsic value-based
method of accounting described above, and has adopted the disclosure
requirements of Statement 123.
(J) Impairment of Long-Lived Assets and Long-Lived Assets to Be Disposed
Of
Long-lived assets and certain identifiable intangibles are reviewed
for impairment whenever events or changes in circumstances indicate that
the carrying amount of an asset may not be recoverable. Recoverability of
assets to be held and used is measured by a comparison of the carrying
amount of an asset to future undiscounted net cash flows expected to be
generated by the asset. If such assets are considered to be impaired, the
impairment to be recognized is measured by the amount by which the
carrying amount of the assets exceed the fair value of the assets. Assets
to be disposed of are reported at the lower of the carrying amount or fair
value less costs to sell.
(K) Pension Plans
On January 1, 1998, the Company adopted Statement of Financial
Accounting Standards No. 132, "Employers' Disclosure about Pension and
Other Post-retirement Benefits." Statement 132 revises the Company's
disclosure about pension and other post-retirement benefit plans.
Statement 132 does not change the method of accounting for such plans.
The Company sponsors two separate defined benefit pension plans which
cover substantially all full-time officers and employees. The benefits
are based upon length of service and a percentage of the employee's
compensation during the final years of employment. Pension costs are
computed based upon the provisions of Statement 87. The Company
contributes to the pension plans amounts deductible for federal income tax
purposes.
(L) Income Taxes
Income taxes are accounted for under the asset and liability method.
Deferred tax assets and liabilities are recognized for the future tax
consequences attributable to differences between the financial statement
carrying amounts of existing assets and liabilities and their respective
tax bases and operating loss and tax credit carryforwards. Deferred tax
assets and liabilities are measured using enacted tax rates expected to
apply to taxable income in the years in which those temporary differences
are expected to be recovered or settled. The effect on deferred tax
assets and liabilities of a change in tax rates is recognized in income in
the period that includes the enactment date.
(M) Trust Assets and Income
Assets (other than cash deposits) held by the Trust Departments in a
fiduciary or agency capacity for customers are not included in the
consolidated financial statements since such items are not assets of the
Company. Trust income is recognized on the accrual basis.
(N) Net Income Per Share
Basic net income per share is based upon the weighted average number
of common shares outstanding (3,607,669 shares in 1999, and 3,792,833 in
1998 and 1997). Stock options that could potentially dilute basic net
income per share in the future that were not included in the computation
of diluted net income per share because to do so would have been
antidilutive totaled 5,500 at December 31, 1999 (see note 9).
25<PAGE>
Notes to Consolidated Financial Statements
In February 1997, the Financial Accounting Standards Board issued
Statement of Financial Accounting Standards No. 128, "Earnings per Share."
Statement 128 established new standards for computing and presenting
earnings per share (EPS) and applies to entities with publicly-held common
stock or potential common stock.
Basic EPS excludes dilution and is computed by dividing income
available to common stockholders by the weighted-average number of common
shares outstanding for the period. Diluted EPS reflects the potential
dilution that could occur if securities or other contracts to issue common
stock were exercised or converted into common stock or resulted in the
issuance of common stock that then shared in the earnings of the entity.
Statement 128 was adopted by the Company at December 31, 1997.
(O) Off-Balance Sheet Financial Instruments
In the ordinary course of business, the Company has entered into off-
balance sheet financial instruments consisting of commitments to extend
credit and standby letters of credit. Such financial instruments are
recorded in the financial statements when they become payable.
(P) Fair Value of Financial Instruments
The following methods and assumptions were used to estimate the fair
value of each class of financial instrument for which it is practicable to
estimate that value:
(1) Cash and Due from Banks, Interest-Bearing Deposits and Federal
Funds Sold
The carrying amounts are a reasonable estimate of fair value.
(2) Securities
The fair values of securities are determined by quoted market
prices or dealer quotes. The fair value of certain state and
municipal securities is not readily available through market sources
other than dealer quotations, so fair value estimates are based on
quoted market prices of similar instruments, adjusted for differences
between the quoted instruments and the instruments being valued.
(3) Loans
Fair values are estimated for portfolios of loans with similar
financial characteristics. Loans are segregated by type such as
mortgage loans held for sale, commercial, real estate - commercial,
real estate - construction, real estate - mortgage, credit card and
other consumer loans. Each loan category is further segmented into
fixed and adjustable rate interest terms and by performing and
nonperforming categories.
The fair value of performing loans is calculated by discounting
scheduled cash flows through the estimated maturity using estimated
market discount rates that reflect the credit and interest rate risk
inherent in the loan, as well as estimates for prepayments. The
estimate of maturity is based on the Company's historical experience
with repayments for each loan classification, modified, as required,
by an estimate of the effect of current economic and lending
conditions.
26<PAGE>
National Bankshares, Inc. and Subsidiaries
Fair value for significant nonperforming loans is based on
estimated cash flows which are discounted using a rate commensurate
with the risk associated with the estimated cash flows. Assumptions
regarding credit risk, cash flows and discount rates are judgmentally
determined using available market information and specific borrower
information.
(4) Deposits
The fair value of demand and savings deposits is the amount
payable on demand. The fair value of fixed maturity time deposits
and certificates of deposit is estimated using the rates currently
offered for deposits with similar remaining maturities.
(5) Other Borrowed Funds
Other borrowed funds represents treasury tax and loan deposits,
and short-term borrowings from the Federal Home Loan Bank. The
carrying amount is a reasonable estimate of fair value because the
deposits are generally repaid within 1 to 120 days from the
transaction date.
(6) Commitments to Extend Credit and Standby Letters of Credit
The only amounts recorded for commitments to extend credit,
standby letters of credit and financial guarantees written are the
deferred fees arising from these unrecognized financial instruments.
These deferred fees are not deemed significant at December 31, 1999
and 1998, and as such, the related fair values have not been
estimated.
(Q) Transfers and Servicing of Financial Assets and Extinguishments of
Liabilities
The Company adopted the provisions of Statement No. 125, "Accounting
for Transfers and Servicing of Financial Assets and Extinguishments of
Liabilities," on January 1, 1997. This Statement provides accounting and
reporting standards for transfers and servicing of financial assets and
extinguishments of liabilities based on consistent application of a
financial-components approach that focuses on control. Under that
approach, after a transfer of financial assets, an entity recognizes the
financial and servicing assets it controls and the liabilities it has
incurred, derecognizes financial assets when control has been surrendered,
and derecognizes liabilities when extinguished. This Statement provides
consistent standards for distinguishing transfers of financial assets that
are sales from transfers that are secured borrowings. This Statement also
provides implementation guidance for assessing isolation of transferred
assets and for accounting for transfers of partial interests, servicing of
financial assets, securitizations, transfers of sales-type and direct
financing lease receivables, securities lending transactions, repurchase
agreements including "dollar rolls," "wash sales," loan syndications and
participations, risk participations in banker's acceptances, factoring
arrangements, transfers of receivables with recourse, and extinguishments
of liabilities. Statement No. 127, "Deferral of the Effective Date of
Certain Provisions of Statement 125," issued in December 1996, deferred
until January 1, 1998 the effective date (a) of paragraph 15 of Statement
125 and (b) for repurchase agreement, dollar-roll, securities lending, and
similar transactions, of paragraphs 9-12 and 237(b) of Statement 125.
Statement 125 was required to be adopted on a prospective basis and its
adoption did not have a material impact on the Company's financial
position, results of operations or liquidity.
27<PAGE>
Notes to Consolidated Financial Statements
(R) Comprehensive Income
On January 1, 1998, the Company adopted Statement of Financial
Accounting Standards No. 130, "Reporting Comprehensive Income." Statement
130 establishes standards for reporting and presentation of comprehensive
income and its components in a full set of general purpose financial
statements. Statement 130 was issued to address concerns over the
practice of reporting elements of comprehensive income directly in equity.
The Company is required to classify items of "Other Comprehensive
Income" [such as net unrealized gains (losses) on securities available for
sale] by their nature in a financial statement and present the accumulated
balance of other comprehensive income separately from retained earnings
and additional paid-in-capital in the equity section of a statement of
financial position. It does not require per share amounts of
comprehensive income to be disclosed.
In accordance with the provisions of the Statement, the Company has
included Consolidated Statements of Income and Comprehensive Income in the
accompanying consolidated financial statements. Comprehensive income
consists of net income and net unrealized gains (losses) on securities
available for sale. Also, accumulated other comprehensive income (loss)
is included as a separate disclosure within the Consolidated Statements of
Changes in Stockholders' Equity in the accompanying consolidated financial
statements. The adoption of Statement 130 did not have any effect on the
Company's consolidated financial position, results of operation or
liquidity.
(S) Derivatives
In June 1998, the Financial Accounting Standards Board issued
Statement of Financial Accounting Standards No. 133, "Accounting for
Derivative Instruments and Hedging Activities." The Company adopted
Statement 133 as of October 1, 1998. In connection with the adoption of
Statement 133, the Company transferred securities with a carrying value of
approximately $20,516 from held to maturity to available for sale. This
transfer of securities resulted in an increase in unrealized gains on
securities available for sale, comprehensive income, accumulated other
comprehensive income and stockholders' equity of approximately $469, net
of income taxes of $242, as of October 1, 1998, which is reported as a
cumulative effect of an accounting change. Except as discussed above, the
adoption of Statement 133 did not have a material effect on the
consolidated financial position, results of operations or liquidity of the
Company.
(T) Use of Estimates
In preparing the consolidated financial statements, management is
required to make certain estimates, assumptions and loan evaluations that
affect its consolidated financial statements for the period. Actual
results could vary significantly from those estimates.
Changing economic conditions, adverse economic prospects for
borrowers, as well as regulatory agency action as a result of an
examination, could cause NBB and BTC to recognize additions to the
allowance for loan losses and may also affect the valuation of real estate
acquired in connection with foreclosures or in satisfaction of loans.
28<PAGE>
National Bankshares, Inc. and Subsidiaries
Note 2: Restrictions on Cash
To comply with Federal Reserve regulations, the Company is required to
maintain certain average reserve balances. The daily average reserve
requirements were $5,285 and $4,813 for the weeks including December 31, 1999
and 1998, respectively.
Note 3: Securities
The amortized costs, gross unrealized gains, gross unrealized losses and
fair values for securities available for sale by major security type as of
December 31, 1999 and 1998 are as follows:
December 31, 1999
Gross Gross
Amortized Unrealized Unrealized Fair
($ In thousands) Costs Gains Losses Values
--------- ---------- ---------- ------
Available for sale:
U.S. Treasury $ 6,244 7 87 6,164
U.S. Government agencies
and corporations 50,373 7 2,882 47,498
States and political
subdivisions 32,903 112 1,398 31,617
Mortgage-backed securities 13,464 8 296 13,176
Corporate debt securities 14,349 --- 703 13,646
Federal Home Loan Bank
stock 1,329 --- --- 1,329
Federal Reserve Bank stock 247 --- --- 247
Other securities 168 --- --- 168
-------- ------ ----- -------
Total securities
available for sale $119,077 134 5,366 113,845
======== ====== ===== =======
December 31, 1998
Gross Gross
Amortized Unrealized Unrealized Fair
($ In thousands) Costs Gains Losses Values
--------- ---------- ---------- ------
Available for sale:
U.S. Treasury $ 9,253 418 --- 9,671
U.S. Government agencies
and corporations 59,365 369 (139) 59,595
States and political
subdivisions 32,183 786 (104) 32,865
Mortgage-backed securities 17,282 12 (94) 17,200
Corporate debt securities 14,528 331 (35) 14,824
Federal Home Loan Bank
stock 1,214 --- --- 1,214
Federal Reserve Bank stock 247 --- --- 247
Other securities 462 --- --- 462
-------- ------ ----- -------
Total securities
available for sale $134,534 1,916 (372) 136,078
======== ====== ===== =======
29<PAGE>
Notes to Consolidated Financial Statements
The amortized costs and fair values of single maturity securities
available for sale at December 31, 1999, by contractual maturity, are shown
below. Expected maturities may differ from contractual maturities because
borrowers may have the right to call or prepay obligations with or without call
or prepayment penalties. Mortgage-backed securities included in these totals
are allocated based upon estimated cash flows at December 31, 1999.
December 31, 1999
Amortized Fair
($ In thousands) Costs Values
--------- ------
Due in one year or less $ 4,170 4,168
Due after one year through five years 21,629 21,423
Due after five years through ten years 40,667 38,984
Due after ten years 51,037 47,695
No maturity 1,574 1,575
-------- -------
$119,077 113,845
======== =======
The amortized costs, gross unrealized gains, gross unrealized losses and
fair values for securities held to maturity by major security type as of
December 31, 1999 and 1998 are as follows:
December 31, 1999
Gross Gross
Amortized Unrealized Unrealized Fair
($ In thousands) Costs Gains Losses Values
--------- ---------- ---------- ------
Held to maturity:
U.S. Treasury $ 500 --- --- 500
U.S. Government agencies
and corporations 5,500 --- 230 5,270
States and political
subdivisions 17,283 117 45 17,355
Mortgage-backed securities 364 7 --- 371
------- ------- ----- -------
Total securities held
to maturity $23,647 124 275 23,496
======= ======= ===== =======
30<PAGE>
National Bankshares, Inc. and Subsidiaries
December 31, 1998
Gross Gross
Amortized Unrealized Unrealized Fair
($ In thousands) Costs Gains Losses Values
--------- ---------- ---------- ------
Held to maturity:
U.S. Treasury $ 1,006 3 --- 1,009
U.S. Government agencies
and corporations 7,497 55 (121) 7,431
States and political
subdivisions 21,160 537 (18) 21,679
Mortgage-backed securities 513 17 --- 530
Corporate debt securities 500 2 --- 502
------- ------- ----- -------
Total securities held
to maturity $30,676 614 (139) 31,151
======= ======= ===== =======
The amortized costs and fair values of single maturity securities held to
maturity at December 31, 1999, by contractual maturity, are shown below.
Expected maturities may differ from contractual maturities because borrowers
may have the right to call or prepay obligations with or without call or
prepayment penalties. Mortgage-backed securities included in these totals are
allocated based upon estimated cash flows at December 31, 1999.
December 31, 1999
Amortized Fair
($ In thousands) Costs Values
--------- ------
Due in one year or less $ 2,602 2,606
Due after one year through five years 15,868 15,817
Due after five years through ten years 3,877 3,779
Due after ten years 1,300 1,294
------- -------
$23,647 23,496
======= =======
There were no sales of securities held to maturity during 1999, 1998 or
1997.
The carrying value of securities pledged to secure public and trust
deposits, and for other purposes as required or permitted by law, was $46,937
at December 31, 1999 and $21,629 at December 31, 1998.
As members of the Federal Reserve and the Federal Home Loan Bank (FHLB) of
Atlanta, NBB and BTC are required to maintain certain minimum investments in
the common stock of those entities. Required levels of investment are based
upon NBB and BTC's capital and a percentage of qualifying assets. In addition,
NBB and BTC are eligible to borrow from the FHLB with borrowings collateralized
by qualifying assets, primarily residential mortgage loans, and NBB and BTC's
capital stock investment in the FHLB. At December 31, 1999, the available
borrowing limit was approximately $53,000, of which NBB had $10,000 in
borrowings outstanding at December 31, 1999. The note is due in February 2000
and bears interest at a fixed rate of 5.93 percent.
31<PAGE>
Notes to Consolidated Financial Statements
Note 4: Loans to Officers and Directors
In the normal course of business, loans have been made to executive
officers and directors of Bankshares and its subsidiaries. As of December 31,
1999 and 1998, there were direct loans to executive officers and directors of
$1,566 and $1,782, respectively. In addition, there were loans of $357 and
$1,844 at December 31, 1999 and 1998, respectively, which were endorsed by
directors and/or executive officers or had been made to companies in which
directors and/or executive officers had an equity interest.
The following schedule summarizes amounts receivable from executive
officers and directors of Bankshares and its subsidiaries, and their immediate
families or associates:
Year ended
December 31,
($ In thousands) 1999
------------
Aggregate balance, beginning of year $ 3,626
Additions 2,601
Collections (4,304)
-------
Aggregate balance, end of year $ 1,923
=======
Note 5: Nonperforming Assets, Past Due Loans, Impaired Loans and Allowance for
Loan Losses
Nonperforming assets consist of the following:
December 31,
($ In thousands) 1999 1998 1997
---- ---- ----
Nonaccrual loans $ 151 28 87
Restructured loans 40 --- ---
Other real estate owned, net 447 628 421
------- ------- ------
Total nonperforming assets $ 638 656 508
======= ======= ======
Accruing loans past due 90 days or
more $ 1,077 550 672
======= ======= ======
There were no material commitments to lend additional funds to customers
whose loans were classified as nonperforming at December 31, 1999.
The following table shows the interest that would have been earned on
nonaccrual loans if they had been current in accordance with their original
terms and the recorded interest that was earned and included in income on these
loans:
32<PAGE>
National Bankshares, Inc. and Subsidiaries
Years ended December 31,
($ In thousands) 1999 1998 1997
---- ---- ----
Scheduled interest:
Nonaccrual loans $ 13 4 8
======= ====== ======
Recorded interest:
Nonaccrual loans $ --- --- 1
======= ====== ======
Changes in the valuation allowance for other real estate owned are as
follows:
Years ended December 31,
($ In thousands) 1999 1998 1997
---- ---- ----
Balances, beginning of year $ 93 68 96
Provision for other real estate owned 8 25 ---
Write-offs --- --- (28
------- ------- -----
Balances, end of year $ 101 93 68
======= ======= =====
At December 31, 1999, the recorded investment in loans which have been
identified as impaired loans, totaled $317. Of this amount, $95 related to
loans with no valuation allowance and $222 related to loans with a
corresponding valuation allowance of $154. At December 31, 1998, the recorded
investment in loans which have been identified as impaired loans totaled $373.
Of this amount, $228 related to loans with no valuation allowance and $145
related to loans with a corresponding valuation allowance of $145.
For the year ended December 31, 1999, the average recorded investment in
impaired loans was approximately $292, and the total interest income recognized
on impaired loans was $13 of which $0 was recognized on a cash basis. For the
year ended December 31, 1998, the average recorded investment in impaired loans
was approximately $387, and the total interest income recognized on impaired
loans was $32 of which $0 was recognized on a cash basis. For the year ended
December 31, 1997, the average recorded investment in impaired loans was
approximately $458, and the total interest income recognized on impaired loans
was $23 of which $12 was recognized on a cash basis.
Changes in the allowance for loan losses are as follows:
Years ended December 31,
($ In thousands) 1999 1998 1997
---- ---- ----
Balances, beginning of year $ 2,679 2,438 2,575
Provision for loan losses 1,400 624 435
Recoveries 130 255 107
Loans charged off (978) (638) (679)
------- ------- ------
Balances, end of year $ 3,231 2,679 2,438
======= ======= ======
33<PAGE>
Notes to Consolidated Financial Statements
Note 6: Bank Premises and Equipment
Bank premises and equipment stated at cost, less accumulated depreciation,
are as follows:
December 31,
($ In thousands) 1999 1998
---- ----
Premises $ 8,818 6,321
Furniture and equipment 6,140 5,343
Construction-in-progress 21 632
-------- --------
14,979 12,296
Less accumulated depreciation (6,473) (5,639)
-------- --------
Bank premises and equipment, net $ 8,506 6,657
======== ========
The Company leases a branch facility as well as certain other office space
under noncancellable operating leases that expire over the next five years.
The future minimum lease payments under these leases (with initial or remaining
lease terms in excess of one year) as of December 31, 1999 are as follows: $51
in 2000, $50 in 2001, $43 in 2002 and $33 in 2003.
Note 7: Time Deposits
Included in time deposits are certificates of deposit and other time
deposits of $100 or more in the aggregate amounts of $46,172 at December 31,
1999 and $46,257 at December 31, 1998. At December 31, 1999, the scheduled
maturities of time deposits are as follows: $152,147 in 2000, $43,490 in 2001,
$9,692 in 2002, $8,297 in 2003 and $5,594 in 2004.
Note 8: Employee Benefit Plans
NBB has a Retirement Accumulation Plan qualifying under IRS Code Section
401(k). Eligible participants in the plan can contribute up to 10% of their
total annual compensation to the plan. Employee contributions are matched by
NBB based on a percentage of an employee's total annual compensation
contributed to the plan. For the years ended December 31, 1999, 1998 and 1997,
NBB contributed $102, $91 and $87, respectively, to the plan.
Bankshares has a nonleveraged Employee Stock Ownership Plan (ESOP) which
enables employees of the sole participating employer, NBB, who have one year of
service and who have attained the age of 21 prior to the plan's January 1 and
July 1 enrollment dates to own Bankshares common stock. Contributions to the
ESOP are determined annually by the Board of Directors. Contribution expense
amounted to $162, $0 and $219 for the years ended December 31, 1999, 1998 and
1997, respectively. Dividends on ESOP shares are charged to retained earnings.
As of December 31, 1999, the number of allocated shares held by the ESOP was
76,680 and the number of unallocated shares was 1,951. All shares held by the
ESOP are treated as outstanding in computing the Company's basic net income per
share. Bankshares or the ESOP has the right of first refusal for any shares
distributed to a participant in the event the participant elects to sell the
shares. Upon reaching age 55 with ten years of plan participation, a vested
participant has the right to diversify 50% of his or her allocated ESOP shares
and Bankshares or the ESOP, with the agreement of the Trustee, would be
obligated to purchase those shares. The ESOP contains a put option which
allows a withdrawing participant to require Bankshares or the ESOP, if the plan
administrator agrees, to purchase his or her allocated shares if the shares are
34<PAGE>
National Bankshares, Inc. and Subsidiaries
not readily tradeable on an established market at the time of its distribution.
Since the shares were not readily tradeable at December 31, 1998, 77,301 shares
of stock held by the ESOP, at their estimated fair value, which was based on
the most recent available independent valuation, is recorded outside of
stockholders' equity as of December 31, 1998. Effective December 1, 1999,
Bankshares' common stock began trading on the Nasdaq SmallCap Market. As a
result of being listed on an established national exchange, presentation of the
fair value of the shares of common stock held by the ESOP outside of
stockholders' equity is no longer required at December 31, 1999.
The Company also sponsors two separate noncontributory defined benefit
pension plans which cover substantially all of its employees. The pension
plans' benefit formulas generally base payments to retired employees upon their
length of service and a percentage of qualifying compensation during their
final years of employment. The NBB pension plan's assets are invested
principally in U.S. Government agency obligations (30%), mutual funds (32%),
corporate bonds (5%) and equity securities (33%). BTC's pension plan's assets
are invested principally in BTC certificates of deposit (4%), U.S. Government
agency obligations (81%) and equity securities (15%).
Pension Benefits
----------------
December 31,
------------
($ In thousands) 1999 1998
---- ----
Change in benefit obligation
Benefit obligation at beginning of year $ 5,995 4,967
Service cost 398 331
Interest cost 415 367
Actuarial gain (749) 491
Benefits paid (365) (161)
-------- --------
Benefit obligation at end of year 5,694 5,995
-------- --------
Change in plan assets
Fair value of plan assets at beginning of year 4,971 4,337
Actual return on plan assets 85 430
Employer contribution 186 365
Benefits paid (365) (161)
-------- --------
Fair value of plan assets at end of year 4,877 4,971
-------- --------
Funded status (817) (1,024)
Unrecognized net actuarial loss 522 917
Unrecognized prior service cost 201 216
Unrecognized transition asset (160) (183)
-------- --------
Net accrued pension cost (includes accrued
pension cost of $414 in 1999 and $363 in
1998 included in other liabilities, and
prepaid pension cost of $160 in 1999 and
$289 in 1998 included in other assets) $ (254) (74)
======== ========
35<PAGE>
Notes to Consolidated Financial Statements
Pension Benefits
------------------------------------------------
NBB BTC
($ In thousands) 1999 1998 1997 1999 1998 1997
---- ---- ---- ---- ---- ----
Weighted average
assumptions as of
December 31
Weighted average
discount rate 7.50% 7.00% 7.50% 7.50% 7.00% 7.50%
Expected return on
plan assets 9.00% 9.00% 9.00% 9.00% 9.00% 9.00%
Rate of compensation
increase 5.00% 5.00% 5.00% 5.00% 5.00% 5.00%
Pension Benefits
----------------
Years Ended December 31,
($ In thousands) 1999 1998 1997
---- ---- ----
Components of net periodic
benefit cost
Service cost $ 398 331 281
Interest cost 415 367 367
Expected return on plan assets (457) (400) (364)
Amortization of prior service
cost 15 15 15
Recognized net actuarial loss 18 3 8
Amortization of transition
asset (23) (22) (23)
------ ----- -----
Net periodic benefit cost $ 366 294 284
====== ===== =====
Note 9: Stock Option Plan
Effective March 10, 1999, the Company adopted the National Bankshares,
Inc. 1999 Stock Option Plan to give key employees of Bankshares and its
subsidiaries an opportunity to acquire shares of National Bankshares, Inc.
common stock. The purpose of the 1999 Stock Option Plan is to promote the
success of Bankshares and its subsidiaries by providing an incentive to key
employees that enhances the identification of their personal interest with the
long term financial success of the Company and with growth in stockholder
value. Under the 1999 Stock Option Plan, up to 250,000 shares of Bankshares
common stock may be granted. The 1999 Stock Option Plan is administered by the
Stock Option Committee, which is made up of all of the non-employee, outside
directors of National Bankshares, Inc. The Stock Option Committee may
determine whether options are incentive stock options or nonqualified stock
options and may determine the other terms of grants, such as number of shares,
term, a vesting schedule and the exercise price. The 1999 Stock Option Plan
limits the maximum term of any option granted to ten years, states that options
may be granted at not less than fair market value on the date of the grant and
contains certain other limitations on the exercisability of incentive stock
options. The options vest 25% after one year, 50% after two years, 75% after
36<PAGE>
National Bankshares, Inc. and Subsidiaries
three years and 100% after four years. At the discretion of the Stock Option
Committee, options may be awarded with the provision that they may be
accelerated upon a change of control, merger, consolidation, sale or
dissolution of National Bankshares, Inc.
At December 31, 1999, there were 244,500 additional shares available for
grant under the Plan. The per share weighted-average estimated fair value of
stock options granted during 1999 was $2.38 on the date of grant using the
Black Scholes option-pricing model with the following weighted-average
assumptions: 1999 - expected cash dividend yield of 3.41% percent, risk-free
interest rate of 6.38% percent, expected volatility of 18.60% percent and an
expected life of ten years.
The Company applies APB Opinion No. 25 in accounting for its Plan and,
accordingly, no compensation cost has been recognized for its stock options in
the consolidated financial statements. Proforma compensation cost determined
in accordance with Statement 123 was not material and had no impact on net
income per share presented.
Stock option activity during the periods indicated is as follows:
Weighted
Number of Average
Shares Exercise Price
--------- --------------
Granted in 1999 5,500 $22.00
Exercised --- ---
Forfeited --- ---
Expired --- ---
------ ------
Balance at December 31, 1999 5,500 $22.00
====== ======
At December 31, 1999, the exercise price and remaining contractual life of
outstanding options was $22.00 and 9.83 years.
Note 10: Income Taxes
Total income taxes were allocated as follows:
Years ended December 31,
($ In thousands) 1999 1998 1997
---- ---- ----
Income $ 2,556 2,591 2,499
Stockholders' equity, for net
unrealized gains (losses) on
securities available for sale
recognized for financial reporting
purposes (2,304) 425 228
------- ------- ------
Total income taxes $ 252 3,016 2,727
======= ======= ======
37<PAGE>
Notes to Consolidated Financial Statements
The components of federal income tax expense attributable to income before
income tax expense are as follows:
Years ended December 31,
($ In thousands) 1999 1998 1997
---- ---- ----
Current $ 2,770 2,726 2,199
Deferred (214) (135) 300
------- ------- ------
Total income tax expense $ 2,556 2,591 2,499
======= ======= ======
Taxes resulting from securities transactions amounted to a tax expense of
$8 for the year ended December 31, 1999, $64 for the year ended December 31,
1998 and $13 for the year ended December 31, 1997.
The following is a reconciliation of the "expected" income tax expense,
computed by applying the U.S. Federal income tax rate of 34% to
income before income tax expense, with the reported income tax expense:
Years ended December 31,
($ In thousands) 1999 1998 1997
---- ---- ----
Expected income tax expense (34%) $ 3,279 3,192 3,080
Tax-exempt interest income (866) (742) (700)
Nondeductible interest expense 109 97 90
Other, net 34 44 29
------- ------- ------
Reported income tax expense $ 2,556 2,591 2,499
======= ======= ======
The tax effects of temporary differences that give rise to significant
portions of the deferred tax assets and deferred tax liabilities at December
31, 1999 and 1998 are presented below:
38<PAGE>
National Bankshares, Inc. and Subsidiaries
December 31,
($ In thousands) 1999 1998
---- ----
Deferred tax assets:
Loans, principally due to allowance for loan
losses and unearned fee income $ 786 545
Other real estate owned, principally due to
valuation allowance 32 32
Deferred compensation and other liabilities,
due to accrual for financial reporting
purposes 124 96
Deposit intangibles and goodwill 59 51
Community development corporation related tax
credit 19 22
Other 36 ---
Net unrealized losses on securities available
for sale 1,779 ---
------- -------
Total gross deferred tax assets 2,835 746
Less valuation allowance --- ---
------- -------
Net deferred tax assets 2,835 746
Deferred tax liabilities:
Bank premises and equipment, principally due
to differences in depreciation (121) (102)
Securities, due to differences in discount
accretion (58) (52)
Accrued late fee income (72) ---
Other assets (62) (63)
Net unrealized gains on securities available
for sale --- (525)
------- -------
Total gross deferred tax liabilities (313) (742)
------- -------
Net deferred tax asset included in other
assets $ 2,522 4
======= =======
The Company has determined that a valuation allowance for the gross
deferred tax assets is not necessary at December 31, 1999 and 1998 due to the
fact that the realization of the entire gross deferred tax assets can be
supported by the amount of taxes paid during the carryback period available
under current tax laws.
39<PAGE>
Notes to Consolidated Financial Statements
Note 11: Restrictions on Payments of Dividends and Capital Requirements
Bankshares' principal source of funds for dividend payments is dividends
received from its subsidiary banks. For the years ended December 31, 1999,
1998 and 1997, dividends received from subsidiary banks were $10,538, $5,341
and $2,712, respectively. Additional funds dividended to the parent in 1999
were used primarily for a common stock repurchase.
Substantially all of Bankshares' retained earnings are undistributed
earnings of its banking subsidiaries, which are restricted by various
regulations administered by federal and state bank regulatory agencies. Bank
regulatory agencies restrict, without prior approval, the total dividend
payments of a bank in any calendar year to the bank's retained net income of
that year to date, as defined, combined with its retained net income of the
preceding two years, less any required transfers to surplus. At December 31,
1999, retained net income which was free of such restriction at NBB amounted to
approximately $198. There was no retained income free of this restriction at
BTC at December 31, 1999.
Bankshares and its subsidiaries are subject to various regulatory capital
requirements administered by the bank regulatory agencies. Failure to meet
minimum capital requirements can initiate certain mandatory, and possibly
additional discretionary, actions by regulators that, if undertaken, could have
a direct material effect on the Company's consolidated financial statements.
Under capital adequacy guidelines and the regulatory framework for prompt
corrective action, Bankshares and its subsidiaries must meet specific capital
guidelines that involve quantitative measures of their assets, liabilities and
certain off-balance-sheet items as calculated under regulatory accounting
practices. Bankshares' and its subsidiaries' capital amounts and
classification are also subject to qualitative judgments by regulators about
components, risk weightings and other factors.
Quantitative measures established by regulation to ensure capital adequacy
require Bankshares and its subsidiaries to maintain minimum amounts and ratios
(set forth in the table below) of total and Tier I capital (as defined in the
regulations) to risk weighted assets (as defined), and of Tier I capital (as
defined) to average assets (as defined). Management believes, as of December
31, 1999, that Bankshares and its subsidiaries meet all capital adequacy
requirements to which they are subject.
Bankshares' and its subsidiaries' actual regulatory capital amounts and
ratios are also presented in the following tables.
40<PAGE>
National Bankshares, Inc. and Subsidiaries
To Be Well
Capitalized
Under Prompt
For Capital Corrective
Adequacy Action
Actual Purposes Provisions
------ ----------- ------------
($ In thousands) Amount Ratio Amount Ratio Amount Ratio
------ ----- ------ ----- ------ -----
December 31, 1999
Total capital (to risk
weighted assets)
Bankshares consolidated $58,433 18.3% 25,552 8.0% N/A N/A
NBB 29,320 14.1% 16,682 8.0% 20,853 10.0%
BTC 26,630 23.7% 8,998 8.0% 11,247 10.0%
Tier I capital (to risk
weighted assets)
Bankshares consolidated $55,202 17.3% 12,776 4.0% N/A N/A
NBB 27,222 13.1% 8,341 4.0% 12,512 6.0%
BTC 25,497 22.7% 4,499 4.0% 6,748 6.0%
Tier I capital (to
average assets)
Bankshares consolidated $55,202 11.7% 18,957 4.0% N/A N/A
NBB 27,222 9.8% 11,135 4.0% 13,919 5.0%
BTC 25,497 12.7% 8,019 4.0% 10,023 5.0%
To Be Well
Capitalized
Under Prompt
Corrective
For Capital Action
Adequacy Provisions
Actual Purposes ------------
------ -----------
($ In thousands) Amount Ratio Amount Ratio Amount Ratio
------ ----- ------ ----- ------ -----
December 31, 1998
Total capital (to risk
weighted assets)
Bankshares consolidated $61,216 22.4% 21,819 8.0% N/A N/A
NBB 30,411 16.5% 14,747 8.0% 18,433 10.0%
BTC 28,284 31.8% 7,112 8.0% 8,890 10.0%
Tier I capital (to risk
weighted assets)
Bankshares consolidated $58,537 21.5% 10,910 4.0% N/A N/A
NBB 28,511 15.5% 7,373 4.0% 11,060 6.0%
BTC 27,505 30.9% 3,536 4.0% 5,334 6.0%
Tier I capital (to
average assets)
Bankshares consolidated $58,537 13.4% 17,457 4.0% N/A N/A
NBB 28,511 11.1% 10,292 4.0% 12,865 5.0%
BTC 27,505 15.6% 7,068 4.0% 8,835 5.0%
41<PAGE>
Notes to Consolidated Financial Statements
As of December 31, 1999, the most recent notifications from the
appropriate regulatory authorities categorized Bankshares and its subsidiaries
as adequately capitalized under the regulatory framework for prompt corrective
action. To be categorized as adequately capitalized, Bankshares and its
subsidiaries must maintain minimum total risk-based, Tier I risk-based, and
Tier I leverage ratios as set forth in the table. There are no conditions or
events since those notifications that management believes have changed
Bankshares' and its subsidiaries' category.
42<PAGE>
National Bankshares, Inc. and Subsidiaries
Note 12: Parent Company Financial Information
Condensed financial information of Bankshares (Parent) is presented below:
Condensed Balance Sheets
December 31,
($ In thousands, except share and
per share data.) 1999 1998
---- ----
Assets Cash due from subsidiaries $ 5 28
Securities available for sale
(note 3) 2,292 2,521
Investment in subsidiaries, at
equity 50,302 58,139
Refundable income taxes due
from subsidiaries 59 30
Other assets 85 30
-------- --------
Total assets $ 52,743 60,748
======== ========
Liabilities Other liabilities $ 20 65
and -------- --------
Stockholders' Common stock subject to ESOP
Equity put option (note 8) --- 2,180
-------- --------
Stockholders' equity (notes 9,
10, 11 and 17):
Preferred stock of no par
value. Authorized
5,000,000 shares; none
issued and outstanding --- ---
Common stock of $2.50 par
value. Authorized
5,000,000 shares; issued
and outstanding 3,516,977
shares in 1999 and 3,792,833
in 1998 8,792 9,482
Retained earnings 47,384 50,182
Accumulated other
comprehensive income (loss) (3,453) 1,019
Common stock subject to ESOP
put option (77,301 shares at
$28.20 per share in 1998)
(note 8) --- (2,180)
------- --------
Total stockholders' equity 52,723 58,503
Commitments and contingent
liabilities (notes 6, 8, and 14)
------- --------
Total liabilities and
stockholders' equity $52,743 60,748
======= ========
43<PAGE>
Notes to Consolidated Financial Statements
Condensed Statements of Income and Comprehensive Income
Years ended December 31,
($ In thousands) 1999 1998 1997
---- ---- ----
Income Dividends from subsidiaries
(note 11) $10,538 5,341 2,712
Interest on securities - taxable 17 29 ---
Interest on securities -
nontaxable 118 24 ---
------- ------ ------
10,673 5,394 2,712
Expenses Other expenses 194 173 125
------- ------ ------
Income before income tax benefit
and equity in undistributed net
income (distributions in excess
of equity in net income) of
subsidiaries 10,479 5,221 2,587
Applicable income tax benefit 59 47 42
------- ------ ------
Income before equity in
undistributed net income
(distributions in excess of
equity in net income) of
subsidiaries 10,538 5,268 2,629
Equity in undistributed net
income (distributions in
excess of equity in net
income) of subsidiaries (3,450) 1,530 3,931
------- ------ ------
Net income 7,088 6,798 6,560
------- ------ ------
Other comprehensive income
(loss), net of income taxes:
Net unrealized gains
(losses) on securities
available for sale
(notes 1(R), 1(S) and 18):
Arising during the year (4,472) 356 442
Cumulative accounting change --- 469 ---
------- ------ ------
Total other comprehensive
income (loss) (4,472) 825 442
======= ------ ------
Comprehensive income $ 2,616 7,623 7,002
======= ====== ======
44<PAGE>
National Bankshares, Inc. and Subsidiaries
Condensed Statements of Cash Flows
Years ended December 31,
($ In thousands) 1999 1998 1997
---- ---- ----
Cash Flows Net income $ 7,088 6,798 6,560
from Adjustments to reconcile net
Operating income to net cash provided
Activities by operating activities:
(Equity in undistributed
net income) distributions
in excess of equity in
net income of subsidiaries 3,450 (1,530) (3,931)
Amortization of premiums
and accretion of
discounts, net 7 4 ---
(Increase) decrease in
refundable income taxes
due from subsidiaries (29) (8) 3
Increase in other assets (10) (30) ---
Increase (decrease) in
other liabilities (45) 22 (4)
------- ------- ------
Net cash provided by
operating activities 10,461 5,256 2,628
------- ------- ------
Cash Flows Purchases of securities
from available for sale (207) (4,534) ---
Investing Maturities of securities
Activities available for sale 299 2,044 ---
------- ------- ------
Net cash provided by
(used in) investing
activities 92 (2,490) ---
------- ------- ------
Cash Flows Cash dividends paid (2,814) (2,807) (2,579)
from Common stock repurchase (7,762) --- ---
Financing ------- ------- ------
Activities
Net cash used in
financing activities (10,576) (2,807) (2,579)
------- ------- ------
Net increase (decrease) in
cash (23) (41) 49
Cash due from subsidiary
at beginning of year 28 69 20
------- ------- ------
Cash due from subsidiary
at end of year $ 5 28 69
======= ======= ======
45<PAGE>
Notes to Consolidated Financial Statements
Note 13: Supplemental Cash Flow Information
The Company paid $14,199, $14,003 and $13,084 for interest and $2,941,
$2,631 and $2,719 for income taxes, net of refunds, in 1999, 1998 and 1997,
respectively. Noncash investing activities consisted of $978, $638 and $679 of
loans charged against the allowance for loan losses in 1999, 1998 and 1997,
respectively. Noncash investing activities also included $177 in 1999, $382 in
1998 and $159 in 1997 of loans transferred to other real estate owned. In
addition, for the years ended December 31, 1999, 1998 and 1997, noncash
investing activities included changes in net unrealized gains (losses) on
securities available for sale of ($6,776), $1,250 and $670, respectively,
changes in deferred tax assets included in other assets of $2,304, ($425) and
($228), respectively, and changes in net unrealized gains (losses) on
securities available for sale included in stockholders' equity of ($4,472),
$825 and $442, respectively. Securities, classified as held to maturity,
totaling approximately $20,516, were transferred to securities available for
sale in 1998. This was in accordance with the reassessment of the
classification of securities allowed by Statement No. 133 "Accounting for
Derivative Instruments and Hedging Activities," which was adopted by the
Company on October 1, 1998.
Note 14: Financial Instruments with Off-Balance Sheet Risk
The Company is a party to financial instruments with off-balance sheet
risk in the normal course of business to meet the financing needs of its
customers. These financial instruments include commitments to extend credit
and standby letters of credit. Those instruments involve, to varying degrees,
elements of credit risk in excess of the amount recognized in the consolidated
balance sheets. The contract amounts of those instruments reflect the extent
of involvement the Company has in particular classes of financial instruments.
The Company's exposure to credit loss, in the event of nonperformance by
the other party to the financial instrument for commitments to extend credit
and standby letters of credit, is represented by the contractual amount of
those instruments. The Company uses the same credit policies in making
commitments and conditional obligations as it does for on-balance sheet
instruments.
The Company may require collateral or other security to support the
following financial instruments with credit risk:
December 31,
($ In thousands) 1999 1998
---- ----
Financial instruments whose contract
amounts represent credit risk:
Commitments to extend credit $52,932 53,498
======= =======
Standby letters of credit $ 5,109 3,320
======= =======
Mortgage loans sold with potential
recourse $33,489 39,697
======= =======
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
46<PAGE>
National Bankshares, Inc. and Subsidiaries
to expire without being drawn upon, the total commitment amounts do not
necessarily represent future cash requirements. The Company evaluates each
customer's creditworthiness on a case-by-case basis. The amount of collateral
obtained, if required by the Company upon extension of credit, is based on
management's credit evaluation of the customer. Collateral held varies but may
include accounts receivable, inventory, property, plant and equipment and
income-producing commercial properties. Extensions of credit arising from
these commitments are approximately equally divided between fixed and variable
rate in nature, except for construction loans which are at fixed rates, but
have terms generally less than one year.
Standby letters of credit are conditional commitments issued by the
Company to guarantee the performance of a customer to a third party. The
credit risk involved in issuing letters of credit is essentially the same as
that involved in extending loans to customers. Collateral held varies but may
include accounts receivable, inventory, property, plant and equipment and
income-producing commercial properties.
The Company originates mortgage loans for sale to secondary market
investors subject to contractually specified and limited recourse provisions.
In 1999, the Company originated $31,538 and sold $33,489 to investors, compared
to $41,472 originated and $39,697 sold in 1998. Every contract with each
investor contains certain recourse language. In general, the Company may be
required to repurchase a previously sold mortgage loan if there is major
noncompliance with defined loan origination or documentation standards,
including fraud, negligence or material misstatement in the loan documents.
Repurchase may also be required if necessary governmental loan guarantees are
canceled or never issued, or if an investor is forced to buy back a loan after
it has been resold as a part of a loan pool. In addition, the Company may have
an obligation to repurchase a loan if the mortgagor has defaulted early in the
loan term. This potential default period is approximately twelve months after
sale of a loan to the investor.
Note 15: Concentrations of Credit Risk
The Company does a general banking business, serving the commercial,
agricultural and personal banking needs of its customers. NBB's trade
territory, commonly referred to as the New River Valley, consists of Montgomery
and Giles Counties and the City of Galax, Virginia and portions of adjacent
counties. NBB's operating results are closely correlated with the economic
trends within this area which are, in turn, influenced by the area's three
largest employers, Virginia Polytechnic Institute and State University,
Montgomery County Schools and Celanese. Other industries include a wide
variety of manufacturing, retail and service concerns. Most of BTC's business
originates from the communities of Tazewell and Bluefield and other communities
in Tazewell County, Virginia and in Mercer County, West Virginia. BTC's
service area has largely depended on the coal mining industry and farming for
its economic base. In recent years, coal companies have mechanized and reduced
the number of persons engaged in the production of coal. There are still a
number of support industries for the coal mining business that continue to
provide employment in the area. Additionally, several new businesses have been
established in the area and Bluefield, West Virginia has begun to emerge as a
regional medical center. The ultimate collectibility of the loan portfolios
and the recovery of the carrying amounts of repossessed property are
susceptible to changes in the market conditions of these areas.
At December 31, 1999 and 1998, approximately $130,000 and $94,000,
respectively, of the loan portfolio was concentrated in commercial real estate.
This represents approximately 44% and 39% of the loan portfolio at December 31,
1999 and 1998, respectively. Included in commercial real estate at December
31, 1999 and 1998 was approximately $85,000 and $64,000, respectively, in loans
47<PAGE>
Notes to Consolidated Financial Statements
for college housing and professional office buildings. Loans secured by
residential real estate were approximately $74,000 and $67,000 at December 31,
1999 and 1998, respectively. This represents approximately 25% and 28% of the
loan portfolio at December 31, 1999 and 1998, respectively. Loans secured by
automobiles were approximately $33,000 and $32,000 at December 31, 1999 and
1998, respectively. This represents approximately 11% of the loan portfolio at
December 31, 1999 and 13% at December 31, 1998
The Company has established operating policies relating to the credit
process and collateral in loan originations. Loans to purchase real and
personal property are generally collateralized by the related property and with
loan amounts established based on certain percentage limitations of the
property's total stated or appraised value. Credit approval is primarily a
function of collateral and the evaluation of the creditworthiness of the
individual borrower or project based on available financial information.
Interest-bearing deposits with banks represent deposits with the Federal Home
Loan Bank of Atlanta. Management considers the concentration of credit risk to
be minimal.
Note 16: Fair Value of Financial Instruments
The estimated fair values of the Company's financial instruments at
December 31, 1999 and 1998 are as follows:
December 31,
1999 1998
---- ----
Carrying Estimated Carrying Estimated
($ In thousands) Amount Fair Value Amount Fair Value
-------- ---------- -------- ----------
Financial assets:
Cash and due from banks $ 13,311 13,311 14,421 14,421
Interest-bearing
deposits 9,219 9,219 7,027 7,027
Federal funds sold 2,800 2,800 5,090 5,090
Securities 137,492 137,341 166,754 167,229
Mortgage loans held for
sale 229 229 2,180 2,180
Loans, net 291,562 287,504 236,578 241,064
-------- -------- ------- --------
Total financial assets $454,613 450,404 432,050 437,011
======== ======== ======= ========
Financial liabilities:
Deposits $407,187 407,328 382,696 384,080
Other borrowed funds 10,460 10,460 214 214
-------- -------- ------- --------
Total financial
liabilities $417,647 417,788 382,910 384,294
======== ======== ======= ========
Fair value estimates are made at a specific point in time, based on
relevant market information and information about the financial instrument.
These estimates do not reflect any premium or discount that could result from
offering for sale at one time the Company's entire holdings of a particular
48<PAGE>
National Bankshares, Inc. and Subsidiaries
financial instrument. Because no market exists for a significant portion of
the Company's financial instruments, fair value estimates are based on
judgements regarding future expected loss experience, current economic
conditions, risk characteristics of various financial instruments and other
factors. These estimates are subjective in nature and involve uncertainties
and matters of significant judgement and therefore cannot be determined with
precision. Changes in assumptions could significantly affect these estimates.
Fair value estimates are based on existing on-and off-balance sheet
financial instruments without attempting to estimate the value of anticipated
future business and the value of assets and liabilities that are not considered
financial instruments. Significant assets that are not considered financial
assets include deferred tax assets and the bank premises and equipment. In
addition, the tax ramifications related to the realization of the unrealized
gains and losses can have a significant effect on fair value estimates and have
not been considered in the estimates.
Note 17: Business Combinations
On December 26, 1997, NBB entered into an agreement to purchase the
assets, including real estate and improvements, and assume the liabilities of
the Galax, Virginia, branch office of First American Federal Savings Bank. The
transaction, which was subject to regulatory approval, closed in the second
quarter of 1998. It did not have a material impact on the Company's results of
operations or liquidity.
Note 18: Other Comprehensive Income (Loss)
Other comprehensive income (loss) net of income taxes and net of
reclassification adjustments between net income and other comprehensive income
(loss) relating to securities available for sale are reported in the
Consolidated Statements of Income and Comprehensive Income. The information
that follows discloses the reclassification adjustments and the income taxes
related to securities available for sale that are included in other
comprehensive income, net of income taxes.
($ In thousands)
1999 1998
---- ----
Net unrealized gains (losses) on
securities available for sale:
Net unrealized holding gains
(losses) during the year $(6,756) 1,282
Less reclassification
adjustments for gains
included in net income (20) (32)
Income tax (expense) benefit 2,304 (425)
------- ------
Total other comprehensive
income (loss) $(4,472) 825
======= ======
Note 19: Future Accounting Considerations
There have been no recent accounting pronouncements issued that would have a
material effect on the consolidated financial position, results of operations
or liquidity of the Company or require additional disclosures.
49<PAGE>
Selected Quarterly Data (Unaudited)
The following is a summary of the unaudited quarterly results of
operations for the years ended December 31, 1999 and 1998:
1999
($ In thousands, except First Second Third Fourth
per share data) Quarter Quarter Quarter Quarter
------- ------- ------- -------
Income Statement Data:
Interest income $ 8,089 8,170 8,416 8,928
Interest expense 3,436 3,392 3,506 3,869
------- ------ ------ ------
Net interest income 4,653 4,778 4,910 5,059
Provision for loan losses 232 237 371 560
Noninterest income 766 856 956 934
Noninterest expense 2,926 2,946 3,025 2,971
Income taxes 582 651 666 657
------- ------ ------ ------
Net income $ 1,679 1,800 1,804 1,805
======= ====== ====== ======
Per Share Data:
Basic net income per share $ 0.44 0.50 0.51 0.51
Cash dividends per share --- 0.39 --- 0.41
Book value per share $ 16.21 14.80 15.16 14.99
Selected Ratios:
Return on average assets 1.54% 1.61% 1.60% 1.53%
Return on average equity 11.12% 12.55% 13.64% 13.50%
Average equity to average
assets 13.82% 12.81% 11.70% 11.37%
50<PAGE>
1998
($ In thousands, except First Second Third Fourth
per share data) Quarter Quarter Quarter Quarter
------- ------- ------- -------
Income Statement Data:
Interest income $ 7,571 7,923 8,150 8,184
Interest expense 3,296 3,458 3,590 3,584
------- ------ ------ ------
Net interest income 4,275 4,465 4,560 4,600
Provision for loan losses 21 73 225 305
Noninterest income 666 826 754 928
Noninterest expense 2,696 2,850 2,780 2,735
Income taxes 616 666 638 671
------- ------ ------ ------
Net income $ 1,608 1,702 1,671 1,817
======= ====== ====== ======
Per Share Data:
Basic net income per share $ 0.42 0.45 0.44 0.48
Cash dividends per share --- 0.36 --- 0.38
Book value per share $ 15.18 15.26 15.88 16.00
Selected Ratios:
Return on average assets 1.63% 1.63% 1.56% 1.65%
Return on average equity 11.49% 11.92% 11.37% 11.80%
Average equity to average
assets 14.16% 13.71% 13.74% 14.02%
51<PAGE>
National Bankshares
Mission Statement
National Bankshares, Inc. strives to be an exceptional community bank
holding company dedicated to providing shareholder value by offering
financial services to customers through subsidiary financial
instituions and affiliated companies in an efficient, friendly,
personalized and cost-effective manner. We recognize that to do
this, our financial institutions must retain the ability to make
decisions locally and must actively participate in the communities
they serve. We are committed to offering competitive and fair
employment opportunities and to maintaining the highest standards in
all aspects of our business.
The National Bank Advisory Boards
Montgomery County Advisory Board Dan A. Dodson, W. Clinton Graves, James J.
Owen, Arlene A. Saari, James C. Stewart, T. Cooper Via
Giles County Advisory Board Paul B. Collins, John H. Givens, Jr., Ross E.
Martin, Kenneth L. Rakes, Scarlet B. Ratcliffe, H. M. Scanland, Jr., Buford
Steele
Galax Advisory Board Charles L. Cox, Willie T. Greene, Sr., Jerry R. Mink,
Judy C. Wherry, James A. Williams, Jr.
52<PAGE>
National Bankshares
Board of Directors
Picture of Picture of
"William T. Peery, Charles L. "Cameron L. Forrester, James A.
Boatwright and James G. Rakes" Deskins, Sr. and L. Allen Bowman"
William T. Peery Cameron L. Forrester
Cargo Oil Co., Inc. President Bank of Tazewell County, President
Charles L. Boatwright and Chief Executive Officer
Vice Chairman of the Board, James A. Deskins, Sr.
Physician Deskins Super Market, Inc., Retired
James G. Rakes President
Chairman of the Board, National L. Allen Bowman
Bankshares, Inc., President and Litton Poly-Scientific, Retired
Chief Executive Officer, The President
National Bank, President and
Chief Executive Officer
Picture of Alonzo A. Crouse
"Alonzo A. Crouse, Paul A. Bank of Tazewell County, Executive
Duncan and Jeffrey R. Stewart" Vice President, Secretary and
Cashier
Paul A. Duncan
Holiday Motor Corp., President
Jeffrey R. Stewart
Educational Consultant
53<PAGE>
NBB
The National Bank Board of Directors
Picture of
"NBB Board of Directors"
Seated, from left: J. Lewis Webb, Jr., Dentist; Jeffrey R. Stewart, Chairman of
the Board, Educational Consultant; Paul A. Duncan, Holiday Motor Corp.,
President. Standing, from left: Charles L. Boatwright, Physician; James G.
Rakes, National Bankshares, Inc., Chairman, The National Bank, President and
Chief Executive Officer; L. Allen Bowman, Vice Chairman of the Board, Litton
Poly-Scientific, Retired President; James M. Shuler, Virginia House of
Delegates, Delegate; Paul P. Wisman, Grundy National Bank, Vice President of
Investments, Nicewonder Investments, Manager of Assets.
BTC
Bank of Tazewell County Board of Directors
Picture of
"BTC Board of Directors"
Charles E. Green, III, Registered Representative, The Equitqble Life Assurance
Society of the United States; E.P. Greever, Retired; William T. Peery, Chairman
of the Board, Cargo Oil Co., Inc. President; William H. VanDyke, Candlewax
Smokeless Fuel Co., Vice President; Alonzo A. Crouse, Bank of Tazewell County,
Executive Vice President, Secretary and Cashier; James S. Gillespie, Jr., Jim
Sam Gillespie Farm, President; Carl C. Gillespie, Honorary Chairman of the
Board, Attorney; James A. Deskins, Sr., Deskins Super Market, Inc., Retired
President; Jack Harry, Harry's Enterprises, Inc., President; J. M. Pope,
Retired; Cameron L. Forrester, Bank of Tazewell County, President and Chief
Executive Officer; James G. Rakes, National Bankshares, Inc., Chairman, The
National Bank, President and Chief Executive Officer.
54<PAGE>
Corporate Information
National Bankshares, Inc. Officers
James G. Rakes, Chairman F. Brad Denardo
President and Chief Executive Officer Corporate Officer
J. Robert Buchanan Shelby M. Evans
Treasurer Corporate Compliance Officer
Marilyn B. Buhyoff David K. Skeens
Secretary and Counsel Corporate Auditor
Annual Meeting
The Annual Meeting of Stockholders will be held on Tuesday, April 11, 2000 at
3:00 p.m. at the Best Western Red Lion Inn, 900 Plantation Road, Blacksburg,
Virginia.
Corporate Stock
National Bankshares, Inc. common stock trades on the Nasdaq Stock Market under
the symbol "NKSH".
Financial Information
Investors and analysts seeking financial information about National Bankshares,
Inc. should contact:
James G. Rakes, Chairman or J. Robert Buchanan
President and Chief Executive Officer Treasurer
(540)951-6300 or (800)552-4123 (540)951-6300 or (800)552-4123
Written requests may be directed to: National Bankshares, Inc., P.O. Box 90002,
Blacksburg, VA 24062-9002.
Stockholder Services and Stock Transfer Agent
Stockholders seeking information about National Bankshares, Inc. stock accounts
should contact:
Marilyn B. Buhyoff
Secretary and Counsel
(540)951-6300 or (800)552-4123
The National Bank of Blacksburg serves as transfer agent for National
Bankshares, Inc. stock.
Written requests and requests for stock transfers may be directed to: National
Bankshares, Inc., P.O. Box 90002, Blacksburg, VA 24062-9002.
A copy of National Bankshares, Inc.'s annual report to the Securities and
Exchange Commission on Form 10-K will be furnished without charge to any
stockholder upon written request.
Corporate Office
National Bankshares, Inc.
101 Hubbard Street
Blacksburg, VA 24060
P.O. Box 90002
Blacksburg, VA 24062-9002
55<PAGE>
Exhibit 21(i)
National Bankshares, Inc.
Subsidiaries of Registrant
The National Bank of Blacksburg, Blacksburg, Virginia. A wholly-owned
subsidiary of the Registrant is a national banking association, organized
under the laws of the United States of America.
Bank of Tazewell County, Tazewell, Virginia. A wholly-owned
subsidiary of the Registrant is incorporated under the laws of the
Commonwealth of Virginia.
<PAGE>
Exhibit 23
Accountants' Consent
The Board of Directors
National Bankshares, Inc.
We consent to incorporation by reference in Registration Statement No. 333-
79979 on Form S-8 of National Bankshares, Inc. of our report dated February
11, 2000, relating to the consolidated balance sheets of National Bankshares,
Inc. and subsidiaries as of December 31, 1999 and 1998, and the related
consolidated statements of income and comprehensive income, changes in
stockholders' equity, and cash flows for each of the years in the three-year
period ended December 31, 1999, which report is incorporated by reference in
the December 31, 1999 Annual Report on Form 10-K of National Bankshares, Inc.
KPMG LLP
Roanoke, Virginia
March 28, 2000<PAGE>
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