SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
Form 10-KSB
(X) Annual Report Pursuant to Section 13 or 15(d) of the Securities
Exchange Act of 1934
For the fiscal year ended December 31, 1998
Commission file number 01-17377
Commonwealth Bankshares, Inc.
(Exact name of registrant as specified in its charter)
Virginia 54-1460991
(State or other jurisdiction of incorporated (I.R.S. Employer
or organization) identification No.)
403 Boush Street
Norfolk, Virginia 23510
(Address of principal executive offices) (Zip Code)
Registrant's telephone number, including area code: (757) 446-6900
Securities registered pursuant to Section 12(b) of the Act:
Name of each exchange
Title of each class on which registered
None None
Securities registered pursuant to Section 12(g) of the Act:
Common Stock, $2.50 Par Value
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, and (2) has been subject to such
filing requirements for the past 90 days. Yes X No
Indicate by check mark if disclosure of delinquent filers pursuant to Item
405 of Regulation S-K is not contained herein, and will not be contained,
to the best of the registrant's knowledge, in definitive proxy or
information statements incorporated by reference in Part III of this Form
10-KSB or any amendment to this Form 10-KSB. X
The aggregate market value of the voting stock held by non-affiliates of
the registrant as of March 15, 1999.
State issuer's revenues for its most recent fiscal year
State the aggregate market value of the voting stock held by
non-affiliates computed by reference to the price at which the stock was
sold,
or the average bid and asked prices of such stock, as of a specified date
within the past 60 days. (See definition of affiliate in Rule 12b-2 of the
Exchange Act).
Common Stock, $2.50 Par Value - 1,084,153 shares
DOCUMENTS INCORPORATED BY REFERENCE
Portions of the proxy statement for the annual shareholders meeting to be
held April 27, 1999 are incorporated by reference into Part III.
1998 10-K
Part I
Item 1. Descrpition of Business
The Company and the Bank. The sole business of Commonwealth
Bankshares, Inc. (the "Corporation") is to serve as a holding company for
Bank of the Commonwealth (the "Bank"). The Corporation was incorporated as
a Virginia corporation on June 6, 1988, and on November 7, 1988 it acquired
the Bank.
Bank of the Commonwealth was formed on August 28, 1970 under the laws
of Virginia. Since the Bank opened for business on April 14, 1971, its
main banking and administrative office has been located in Norfolk. The
Bank opened two branches in Norfolk in 1979 and four branches in Virginia
Beach in 1975, 1982, 1983 and 1996.
Principal Market Area. The Bank concentrates its marketing efforts in
the cities of Norfolk, Virginia Beach, Portsmouth and Chesapeake, Virginia.
The Corporation's present intention is to continue concentrating its
banking activities in its current market, which the Corporation believes is
an attractive area in which to operate.
Banking Service. Through its network of banking facilities, the Bank
provides a wide range of commercial banking services to individuals and
small and medium-sized businesses. The Bank conducts substantially all of
the business operations of a typical independent, commercial bank,
including the acceptance of checking and savings deposits, and the
initiating of commercial, real estate, personal, home improvement,
automobile and other installment and term loans. The Bank also offers
other related services, such as home banking, trust, travelers' checks,
safe deposit, lock box, depositor transfer, customer note payment,
collections, notary public, escrow, drive-in facility and other customary
banking services.
Competition
The Bank encounters strong competition for its banking services within
its primary market area. There are twelve commercial banks actively
engaged in business in the cities of Norfolk, Virginia Beach, Portsmouth
and Chesapeake, Virginia, including six major state-wide banking
organizations. The Bank is the oldest independent bank in its market area.
Finance companies, mortgage companies, credit unions and savings and loan
associations also compete with the Bank for loans and deposits. In
addition, in some instances, the Bank must compete for deposits with money
market mutual funds that are marketed nationally. Most of the Bank's
competitors have substantially greater resources than the Bank.
Employees
As of December 31, 1998, the Bank had 71 full-time equivalent
employees. Management of the Corporation and the Bank considers its
relations with employees to be excellent. No employees are represented by
a union or any similar group, and the Bank has never experienced any strike
or labor dispute.
Regulation and Supervision
Commonwealth Bankshares, Inc.
In order to acquire the shares of the Bank and thereby become a bank
holding company within the meaning of the Bank Holding Company Act, the
Corporation was required to obtain approval from, and register as a bank
holding company with the Federal Reserve Board (the "Board"), and it is
subject to ongoing regulation, supervision and examination by the Board.
As a condition to its approval, the Board required the Corporation to agree
that it would obtain approval of the Federal Reserve Bank of Richmond prior
to incurring any indebtedness. The Corporation is required to file with
the Board periodic and annual reports and other information concerning its
own business operations and those of its subsidiaries. In addition, the
Bank Holding Company Act requires a bank holding company to obtain Board
approval before it acquires, directly or indirectly, ownership or control
of any voting shares of a second or subsequent bank if, after such
acquisition, it would own or control more than 5% of such shares, unless it
already owns or controls a majority of such voting shares. Board approval
must also be obtained before a bank holding company acquires all or
substantially all of the assets of another bank or merges or consolidates
with another bank holding company. Any acquisition by a bank holding
company of more than 5% of the voting shares, or of all or substantially
all of the assets, of a bank located in another state may not be approved
by the Board unless such acquisition is specifically authorized by the laws
of that second state.
A bank holding company is prohibited under the Bank Holding Company
Act, with limited exceptions, from acquiring or obtaining direct or
indirect ownership or control of more than 5% of the voting shares of any
company which is not a bank, or from engaging in any activities other than
those of banking or of managing or controlling banks or furnishing services
to or performing services for its subsidiaries. An exception to these
prohibitions permits a bank holding company to engage in, or acquire an
interest in a company which engages in, activities which the Board, after
due notice and opportunity for hearing, by regulation or order has
determined is so closely related to banking or of managing or controlling
banks as to be proper incident thereto. A number of such activities have
been determined by the Board to be permissible.
A bank holding company may not, without providing prior notice to the
Board, purchase or redeem its own stock if the gross consideration to be
paid, when added to the net consideration paid by the Corporation for all
purchases or redemptions by the Corporation of its equity securities within
the preceding 12 months, will equal 10% or more of the Corporation's
consolidated net worth.
The ability of the Corporation to pay dividends depends upon the
amount of dividends declared by the Bank. Regulatory restrictions exist
with respect to the Bank's ability to pay dividends. See Note 7 to
Consolidated Financial Statements.
The Bank
The Bank, as a member bank of the Federal Reserve System, is subject
to regulation and examination by the Virginia State Corporation Commission
and the Board. In addition, the Bank is subject to the rules and regulations
of the Federal Deposit Insurance Corporation, which currently insures the
deposits of each member bank to a maximum of $100,000 per depositor.
The commercial banking business is affected by the monetary policies
adopted by the Board. Changes in the discount rate on member bank borrowing,
availability of borrowing at the "discount window," open market operations,
the imposition of any changes in reserve requirements against member banks'
deposits and certain borrowing by banks and their affiliates, and the
limitation of interest rates which member banks may pay on deposits are some
of the instruments of monetary policy available to the Board. Taken
together, these controls give the Board a significant influence over the
growth and profitability of all banks. Management of the Bank is unable to
predict how the Board's monetary policies (or the fiscal policies or economic
controls imposed by Federal or state governments) will affect the business
and earnings of the Bank or the Corporation, or what those policies or
controls will be.
The references in this section to various aspects of supervision and
regulation are brief summaries which do not purport to be complete and which
are qualified in their entirety by reference to applicable laws, rules and
regulations.
<TABLE>
<CAPTION>
<S> <C>
Distribution of Assets, Liabilities and Shareholders' Equity; Interest Rates and Interest
Differential
Year Ended December 31,
1998 1997 1996
Average Average Average
Balance Interest Yield/Rate Balance Interest Yield/Rate Balance Interest Yield/Rate
Interest earning assets
(taxable-equivalent
basis (1)):
Loans (net of unearned
discount (2)) $84,917 $7,839 9.25% $71,481 $6,776 9.48% $65,710 $6,126 9.32%
Investment securities 22,829 1,372 6.47 24,414 1,560 6.39 23,933 1,197 5.20
Federal funds sold 6,122 330 5.39 4,006 219 5.47 6,614 423 6.40
------ ----- ------ ----- ------ -----
Total interest
earning assets 113,868 9,541 8.47 99,901 8,555 8.56 96,257 7,746 8.13
Non-interest earning
assets:
Cash and due from
banks 4,276 4,408 4,408
Premises and equipment 2,595 2,415 2,467
Other assets 1,715 2,166 3,002
----- ----- -----
TOTAL $122,454 $108,890 $106,134
======== ======== ========
<FN>
(1) Tax equivalent adjustments (using 34% federal tax rates) have been made in calculating yields on tax-free loans and
investments. Virginia banks are exempt from state income tax.
(2) For the purposes of these computations, nonaccruing loans are included in the daily average loan amounts
outstanding.
</TABLE>
<TABLE>
<CAPTION>
<S> <C>
Distribution of Assets, Liabilities and Shareholders' Equity; Interest Rates and Interest Differential continued. . .
Year Ended December 31,
1998 1997 1996
Average Average Average
Balance Interest Yield/Rate Balance Interest Yield/Rate Balance Interest Yield/Rate
(Dollars in Thousands)
LIABILITIES &
SHAREHOLDERS'
EQUITY
Interest bearing liabilities:
Savings and time deposits $ 92,823 $ 4,907 5.29% $ 81,580 $ 4,236 5.19% $ 80,037 $ 4,009 5.01%
Federal funds purchased &
securities sold under
agreements to repurchase 2,854 121 4.23 3,165 140 4.42 3,142 156 4.96
Long term debt 557 32 5.75 583 34 5.83 609 36 5.91
Short term debt 0 0 0.00 0 0 0.00 0 0 0.00
----- ----- ----- ----- ----- -----
Total interest bearing
liabilities 96,234 5,060 5.26 85,328 4,410 5.17 83,788 4,201 5.01
Non-interest bearing
liabilities
Demand deposits 13,500 12,204 11,600
Other 1,564 1,399 1,291
------ ------ ------
Total liabilities 111,298 98,931 96,679
Common shareholders'
equity 11,156 9,959 9,455
------- ------- -------
TOTAL $122,454 $108,890 $106,134
======== ======== ========
Net interest earnings $ 4,481 $ 4,145 $ 3,545
======== ======== ========
Net margin on interest
earning assets on a taxable
equivalent basis 4.04 4.21 3.77
Average interest spread
(taxable equivalent basis) 3.21 3.39 3.12
</TABLE>
As the largest component of income, net interest income represents the
amount that interest and fees earned on loans and investments exceeds the
interest costs of funds used to support these earning assets. Net interest
income is determined by the relative levels, rates and mix of earning assets
and interest-bearing liabilities. The following table attributes changes in
net interest income either to changes in average volume or to changes in
interest due to both rate and volume has been allocated to volume and rate
changes in proportion to the relationship of the absolute dollar amounts of
the change in each.
<TABLE>
<CAPTION>
<S> <C>
1998 Compared to 1997 1997 Compared to 1996
Increase (Decrease) in: Increase Increase
(decrease) due Net (decrease) due Net
to change in: Increase to change in:
Increase
Volume Rate (decrease) Volume Rate
(decrease)
INTEREST INCOME
Investment securities $ (98) $ (90) $ (188) $ 25 $ 338 $ 363
Federal funds sold 114 (3) 111 (149) (55) (204)
Loans 1,235 (172) 1,063 546 104 650
----- ----- ----- ----- ----- -----
1,251 (265) 986 1,097 (214) 883
----- ----- ----- ----- ----- -----
INTEREST EXPENSE
Savings and time
deposits 592 79 671 78 149 227
Federal funds purchased &
securities sold under
agreement to repurchase (13) (6) (19) 1 (17) (16)
Long term debt (2) 0 (2)
Short term debt (1) (1) (2) 0 0 0
----- ----- ----- ----- ----- -----
578 72 650 77 132 209
----- ----- ----- ----- ----- -----
Increase (Decrease) in
Net Interest Income $ 673 $ (337) $ 336 $ 345 $ 255 $ 600
===== ====== ====== ===== ====== ======
</TABLE>
Investment Portfolio
The following table shows the book value (carrying value) of the
Corporation's investment securities at December 31 of the years indicated below.
<TABLE>
<CAPTION>
<S> <C>
December 31,
1998 1997 1996
(In thousands)
U. S. Government and its Agencies $16,125 $20,048 $21,483
State and Municipals 6,370 2,465 2,028
Other Securities 7 7 7
Federal Home Loan Bank Stock 352 0 0
Federal Reserve Bank Stock 144 144 144
------- ------- -------
$22,998 $22,664 $23,662
</TABLE>
The maturity distribution, par value, market value, and yield of the
investment portfolio at December 31, 1998, is presented in the following table.
<TABLE>
<CAPTION>
<S> <C>
December 31, 1998
Par Value Market Value Yield
(In thousands)
Within 3 months $ 87 $ 86 5.37%
After 3 but within 6 months 0 0 0.00
After 6 but within 12 months 0 0 0.00
After 1 but within 5 years 2,947 2,909 5.69
After 5 but within 10 years 4,522 4,478 6.34
After 10 years 15,118 14,989 6.04
Other Securities 7 7 89.24
Federal Home Loan Bank Stock 352 352 7.06
Federal Reserve Bank Stock 144 144 6.00
------ ------ ------
$23,177 $22,965 6.11
======= =======
</TABLE>
Loan Portfolio:
The table below classifies loans, net of unearned income, by major
category and percentage distribution at December 31 for each of the past
three years:
<TABLE>
<CAPTION>
<S> <C>
December 31
1998 1997 1996
(In thousands)
Amount % Amount % Amount %
Commercial $15,990 17.46% $13,861 17.71% $ 11,080 16.83%
Commercial mortgage 47,902 52.31 36,691 46.89 30,664 46.58
Residential mortgage 19,576 21.37 19,836 25.35 17,206 26.13
Installment loans to
individuals 5,290 5.78 4,681 5.98 4,436 6.74
Other 2,818 3.08 3,182 4.07 2,448 3.72
------- ----- ------- ------ ------- ------
TOTAL $91,576 100.00% $78,251 100.00% $65,834 100.00%
======= ====== ======= ====== ======= ======
</TABLE>
The following table shows the maturity of loans outstanding as of
December 31, 1998. Also provided are the amounts due after one year
classified according to the sensitivity to changes in interest rates.
Loans are classified based upon the period in which the final payment is due.
<TABLE>
<CAPTION>
<S> <C>
December 31, 1998
Maturing
After One
Within But Within After
One Year Five Years Five Years Total
(In thousands)
Commercial $ 5,174 $ 8,465 $ 2,351 $ 15,990
Commercial mortgage 12,684 19,137 16,081 47,902
Residential Mortgage 6,354 5,299 7,923 19,576
Installment loans to
individuals 1,931 2,906 727 5,564
Other 2,763 55 0 2,818
------- ------- ------- -------
TOTAL $28,906 $35,862 $27,082 $91,850
Loans maturing after one
year with:
Fixed interest rates $7,832 $22,443
Variable interest rates 28,030 4,639
------- -------
TOTAL $35,862 $27,082
</TABLE>
Non-performing Loans:
Non-performing loans consist of loans accounted for on a non-accrual
basis (as judgementally determined by management based upon anticipated
realization of interest income) and loans which are contractually past due
90 days or more as interest and/or principal payments. The following table
presents information concerning non-performing loans for the periods indicated:
<TABLE>
<CAPTION>
<S> <C>
December 31,
1998 1997 1996
(In thousands)
Non-accrual:
Real estate Loans $1,054 $1,343 $1,869
Installment Loans 41 28 16
Credit cards and related plans 0 0 0
Commercial (time and demand) and
all other loans 14 79 180
Lease financing receivables 0 0 0
------ ------ ------
$1,109 $1,450 $2,065
Contractually past - due
90 days or more:
Real estate Loans $ 0 $ 0 $ 102
Installment Loans 10 7 9
Credit cards and related plans 57 41 20
Commercial (time and demand)
and all other loans 135 76 49
Lease financing receivables 0 0 0
------ ------ ------
Total Non-performing $1,311 $1,574 $2,245
====== ====== ======
</TABLE>
It is management's practice to cease accruing interest on loans when
payments are 120 days delinquent. However, management may elect to continue
the accrual of interest when the estimated net realizable value of collateral
is sufficient to cover the principal balance and accrued interest, and the
loan is in the process of collection.
If nonaccruing loans had been performing fully, these loans would have
contributed an additional $101.0 thousand to interest income in 1998, $123.9
thousand in 1997, and $100.5 thousand in 1996.
Summary of Loan Loss Experience:
The allowance for loan losses is increased by the provision for loan
losses and reduced by loans charged off, net of recoveries. The allowance
for loan losses is established and maintained at a level judged by management
to be adequate to cover any anticipated loan losses to be incurred in the
collection of outstanding loans. In determining the adequate level of the
allowance for loan losses, management considers the following factors:
(a) loan loss experience; (b) problem loans,including loans judged to
exhibit potential charge-off characteristics, loans on which interest is no
longer being accrued, loans which are past due and loans which have been
classified in the most recent regulatory examination; and (c) anticipated
economic conditions and the potential impact these conditions may have on
individual classifications of borrowers.
The following table presents the Corporation's loan loss experience for
the past five years:
<TABLE>
<CAPTION>
<S> <C>
Year ended December 31,
1998 1997 1996 1995 1994
(In Thousands)
Amount of loans outstanding at end
of year (net of unearned income) $91,576 $78,251 $65,835 $61,373 $55,463
======= ======= ======= ======= =======
Average amount of loans outstanding
(net of unearned income) $84,917 $71,481 $65,710 $59,459 $52,592
======= ======= ======= ======= =======
Balance of allowance for loan losses
at beginning of year $ 969 $ 932 $1,256 $1,208 $1,129
Loans charged off:
Commercial 21 0 59 0 18
Real Estate 32 0 174 0 0
Installment 41 27 62 7 15
Credit Cards and Other Consumer 11 4 43 6 22
--- --- --- --- ---
Total loans charged off 105 31 338 13 55
--- --- --- --- ---
Recoveries of loans previously
charged off:
Commercial 0 1 3 0 9
Real Estate 0 11 1 0 3
Installment 2 3 6 6 12
Credit Cards and Other Consumer 1 3 4 2 8
--- --- --- --- ---
Total recoveries 3 18 14 8 32
--- --- --- --- ---
Net loans charged off 102 13 324 5 23
Additions to allowance charged
to expense 102 50 0 53 102
--- --- --- ----- -----
Balance at end of year $ 969 $ 969 $ 932 $1,256 $1,208
Ratio of net charge-offs to average
loans outstanding 0.12% 0.02% 0.49% 0.01% 0.04%
</TABLE>
ALLOCATION OF THE ALLOWANCE FOR LOAN LOSSES:
The following table provides an allocation of the allowance for loan losses
as of December 31, 1998:
<TABLE>
<CAPTION>
<S> <C>
December 31, 1998
Percent of Loans
on each category
Amount to total loans
(Dollars in Thousands)
Commercial $ 262 31.64%
Commercial Mortgage 420 50.73
Residential Mortgage 84 10.15
Installment Loans to Individuals 5 0.60
Other 57 6.88
Unallocated 141 N/A
---- -----
Total $ 969 100.00%
==== ======
</TABLE>
Deposits:
The breakdown of deposits at December 31 for the years indicated is
as follows:
<TABLE>
<CAPTION>
<S> <C>
December 31,
1998 1997 1996
(In Thousands)
Non-interest bearing demand deposits $ 16,433 $ 12,083 $10,687
Interest-bearing demand deposits 16,896 18,011 17,807
Savings deposits 5,304 4,874 4,238
Certificates of deposit:
Less than $100,000 61,006 57,066 52,234
$100,000 or more 16,531 8,726 5,296
------- ------- ------
$116,170 $100,760 $90,262
======= ======= ======
</TABLE>
The average daily amount of deposits and rates paid on such deposits
is summarized for the periods indicated in the
following table:
<TABLE>
<CAPTION>
<S> <C>
December 31,
1998 1997 1996
Amount Rate Amount Rate Amount Rate
(Dollars in Thousands)
Non-interest bearing demand
deposits $ 13,500 0.00% $12,204 0.00% $11,600 0.00%
Interest bearing demand
deposits 17,027 2.93 17,416 2.97 17,848 2.96
Savings deposits 6,082 2.98 5,055 2.97 4,673 2.98
Certificates of Deposit:
Less than $100,000 57,110 6.04 52,882 6.04 52,547 6.09
$100,000 or more 12,605 5.85 6,227 5.63 4,969 5.52
------- ------ ------
$106,324 $93,784 $91,637
======= ====== ======
</TABLE>
Remaining maturities of certificates $100,000 or more at December
31, 1998 as follows:
<TABLE>
<CAPTION>
<S> <C>
Maturity Amount
(In Thousands)
3 months or less $ 7,147
Over 3 through 12 months 4,411
Over 12 months 4,973
------
$16,531
======
</TABLE>
Interest Rate Sensitivity Analysis:
The following table provides the maturities of investment securities,
loans, and deposits at December 31, 1998, and measures the interest rate
sensitivity gap for each range of maturity indicated:
<TABLE>
<CAPTION>
<S> <C>
December 31, 1998
Maturing
Non-
Interest
Earning/
After Bearing
one but Assets/
Within Within After Liabili-
One Five Five ties and
Year Years Years Equity Total
(In Thousands)
Assets
Investment Securities $591 $2,018 $20,389 $0 $22,998
Loans 28,906 35,862 27,082 0 91,850
Other Assets 7,379 0 0 10,010 17,389
------ ------ ------ ------ ------
Total Assets 36,876 37,880 47,471 10,010 132,237
Liabilities and
Shareholders' Equity
Demand Deposits-Non Interest 0 0 0 16,433 16,433
All Interest-bearing Deposits 63,100 36,601 36 0 99,737
Other Liabilities 2,483 0 557 1,447 4,487
Shareholders' Equity 0 0 0 11,580 11,580
------ ------ ------ ------ ------
Total Liabilities and
Shareholders' Equity 65,583 36,601 593 29,460 132,237
------ ------ ------ ------ -------
Interest Rate
Sensitivity Gap $(28,707) $ 1,279 $46,878 $(19,450) $ 0
</TABLE>
Return on Equity and Assets
The following table highlights certain ratios for the periods indicated:
<TABLE>
<CAPTION>
<S> <C>
Year Ended December 31,
1998 1997 1996
Net income to:
Average total assets .90 .85 .79
Average shareholders' equity 9.91 9.35 8.85
Dividend payout ratio (dividends declared per
share divided by net income per share) .00 .00 .00
Average shareholders' equity to average total
assets ratio 9.11 9.13 8.91
</TABLE>
Item 2. Description of Properties
The headquarters building (the "Headquarters") of the Corporation and the
Bank, located at the corners of Freemason and Boush Streets, Norfolk,
Virginia, was completed in 1986 and is a three story building of masonry
construction, with approximately 21,000 square feet of floor space. The Bank
utilizes two floors and leases the third floor to others. The office
operates nine teller windows, including two drive-up facilities, one walk-up
facility and a 24 hour teller machine.
The Bank has entered into a lease with Boush Bank Building Associates,
a limited partnership (the "Partnership"), to rent the Headquarters. The
lease requires the Bank to pay all taxes, maintenance and insurance. The
term of the lease is twenty-three years and eleven months, and began on
December 19, 1984. In connection with this property, the lessor has
secured financing in the form of a $1,600,000 industrial development
revenue bond from the Norfolk Redevelopment and Housing Authority payable
in annual installments, commencing on January 1, 1987, at amounts equal to
3% of the then outstanding principal balance through the twenty-fifth year,
when the unpaid balance will become due. Interest on this bond is payable
monthly, at 68.6% of the prime rate of Crestar Bank in Richmond, Virginia.
Monthly rent paid by the Bank is equal to interest on the above bond, plus
any interest associated with secondary financing provided the lessor by the
Bank. The Bank has the right to purchase, at its option, an undivided
interest in the property at undepreciated original cost, and is obligated
to purchase in each January after December 31, 1986 an undivided interest
in an amount equal to 90% of the legal amount allowed by banking
regulations for investments in fixed properties, unless the Bank's return
on average assets is less than seven-tenths of one percent. Under this
provision the Bank purchased 19.7% of this property for $362,201 in 1987.
At the time of the 1987 purchase the Bank assumed $305,744 of the
above-mentioned bond. Pursuant to the purchase option contained in the
lease agreement, the Bank recorded an additional interest of $637,410
(34.7%) in the leased property as of December 31, 1988 by assuming a
corresponding portion ($521,888) of the unpaid balance of the related
revenue bond and applying the difference of $115,522 to amounts due from
the lessor.
Accordingly the Bank now owns 54.4%, of the Headquarters property. No
purchases have been made after 1988.
The general partner of the Partnership is Boush Bank Building
Corporation. All of the limited partners of the Partnership, namely
Messrs. Woodard, Burton and Kellam, are directors of the Bank and the
Corporation. The terms of the lease are not less favorable than could be
obtained from a non-related party.
Prior to executing the lease, the shareholders of the Bank owning a
majority of Bank common stock, consented to the foregoing lease.
Additionally, formal shareholder approval of the lease, due to the above
described interest of the Bank's directors, was obtained during the Bank's
1985 Annual Meeting of Shareholders.
The Bank operates a branch office in Norfolk at 4101 Granby Street and
four branches in Virginia Beach at 225 South Rosemont Road, 2712 North Mall
Drive, 1124 First Colonial Road and 1870 Kempsville Road.. One of the
locations is owned by the Bank and the remaining four are leased under
long-term operating leases with renewal options, at total annual rentals of
approximately $108,000 paid to unrelated parties.
Item 3. Legal Proceedings
None
Item 4. Submission of Matters to a Vote of Securities Holders
None
PART II
Item 5. MARKET PRICE OF COMMON STOCK AND RELATED MATTERS
Commonwealth Bankshares, Inc. had 1,084,153 shares of capital stock
outstanding on December 31, 1998. Shareholders of record total 488 and
reside in 23 states and 1 foreign country. 374 residents of the
Commonwealth of Virginia hold 49.5% of the shares outstanding. These
percentages do not reflect shares held by Virginia residents in nominee
form.
ANDERSON & STRUDWICK, INC., Underwriters/Distributors of Investment
Securities are an "active market maker" in the stock of the Corporation.
ANDERSON & STRUDWICK, INC. maintains offices in Richmond, Charlottesville,
Fredericksburg, Lynchburg, and Norfolk, Virginia. They are members of the
New York Stock Exchange.
Additionally, McKinnon & Company, Inc. has been a net market maker in
the stock of Commonwealth Bankshares, Inc.
Please refer to the table below entitled Common Stock Performance for a
breakdown of the trades quoted by ANDERSON & STRUDWICK, INC. for the four
quarters of 1998 and four quarters of 1997. It is the opinion of
management that this range accurately reflects the market value of the
Company's common stock at the present time. The most recent transfer
of the Bank's stock of which management is aware was at $15.00 per share.
There were no cash dividends declared during 1998, 1997 or 1996. The
Corporation issued a six (6%) percent stock dividend during the first
quarter of 1996 and 1997, and an eight percent (8%) stock dividend during
the first quarter of 1998.
Common Stock Performance
<TABLE>
<CAPTION>
<S> <C>
Common Stock Prices
1998 1997
High Low High Low
First Quarter $14.82 $13.68 $10.75 $9.90
Second Quarter $15.75 $14.25 $11.25 $10.00
Third Quarter $16.00 $14.50 $11.50 $10.50
Fourth Quarter $15.50 $14.75 $15.25 $11.00
</TABLE>
The foregoing over-the-counter market quotations reflect inter-dealer
prices, without retail mark-up, mark-down or commission, and may not
necessarily represent actual transactions.
At February 28, 1999, there were more than 500 record holders of the
Corporation's common stock (based on the number of record holders as of the
date).
Item 6. Selected Consolidated Financial Data
The following table sets forth certain selected consolidated financial
data for the past five years.
<TABLE>
<CAPTION>
<S> <C>
Years Ended December 31,
1998 1997 1996 1995 1994
(Dollars in thousands, except per share data)
Income Statement Amounts:
Gross interest income $9,547 $8,553 $7,744 $6,859 $5,831
Gross interest expense 5,060 4,410 4,201 3,632 2,652
----- ----- ----- ----- -----
Net interest income 4,487 4,143 3,543 3,227 3,179
Provision for possible loan
losses (102) (50) (1) ( 53) (102)
----- ----- ----- ----- -----
Net interest income after
provision 4,385 4,093 3,542 3,174 3,077
Other operating income 1,186 869 871 810 746
Other operating expense 3,984 3,605 3,213 2,866 2,731
----- ----- ----- ----- -----
Income before income
taxes and other item 1,587 1,357 1,200 1,118 1,092
Income taxes 482 427 364 282 278
----- ----- ----- ----- -----
Net income $1,105 $ 930 $ 836 $ 836 $ 814
===== ===== ===== ===== =====
Per Share Data (1):
Net income per share - basic (1) $1.02 $.86 $.77 $.77 $.75
Cash dividends per share 0 0 0 0 0
Book value (at year end) 10.68 10.49 9.53 8.73 7.76
Balance Sheet Amounts:
(at year end)
Total assets $132,237 $116,106 $106,170 $95,037 $81,458
Total loans (net of unearned income) 91,576 78,251 65,833 61,373 55,463
Total deposits 116,170 100,760 90,262 82,256 71,324
Long-term debt 557 583 609 684 662
Total equity 11,580 10,531 9,568 8,770 7,787
<FN>
(1) Adjusted to reflect 1998, 1997, 1996 and 1995 stock dividends.
</TABLE>
MANAGEMENT'S DISCUSSION AND ANALYSIS
OF OPERATIONS AND FINANCIAL CONDITION
This section of the Annual Report should be read in conjunction with
the statistical information, Financial Statements and related Notes and the
selected financial data appearing elsewhere in the Report.
In addition to historical information, the following discussion
contains forward looking statements that are subject to risks and
uncertainties that could cause Commonwealth's actual results to differ
materially from those anticipated. These forward looking statements
include, but are not limited to, statements regarding management's
expectations that the Bank will continue to experience growth in core
operating earnings, improved credit quality and increased service fee
income, and that commonwealth may pay cash dividends in the future.
Readers are cautioned not to place undue reliance on these forward looking
statements, which reflect management's analysis only as of the date hereof.
New Accounting Standards
In June 1997 the Financial Accounting Standards Board issued Statement
No. 130, "Reporting Comprehensive Income," which establishes standards for
reporting and display of comprehensive income and its components. The
Corporation adopted this new accounting standard as of January 1, 1998 and
there was no material impact on the consolidated financial statements.
YEAR 2000 ISSUE
The Company and the Bank have considered the impact of Year 2000
issues on their computer systems and applications. The Year 2000 issue is
the result of most computer programs being issued using two digits, rather
than four, to define the applicable year. As a result, these computer
programs may not recognize the correct date after December 31, 1999. In
addition, other systems and equipment that are not traditional computers
also may contain embedded hardware or software that have a similar problem.
The Company first began assessing its Year 2000 readiness in 1997,
when the Board began an awareness program. Since that time, an inventory
and analysis of the various systems has been performed. The Company
developed a remediation plan, implementation and conversion activities are
in progress and testing of mission critical systems was substantially
complete at December 31, 1998. Management anticipates the testing of
mission critical systems will be fully completed by the end of the first
quarter 1999, however, the Company plans to continue testing these systems
throughout the remainder of the year. The Company (and Bank) formed a Year
2000 Committee in July 1997 (the "Committee"), consisting of the Bank's
corporate officers, representing all areas of the Bank. The Committee,
which has the complete support of the Board, regularly reports to the
Company's Board of Directors.
The Committee established a test plan in accordance with the Federal
Financial Institution Examination Counsel ("FFIEC Guidelines"), which plan
and implementation are subject to examination by the Federal Reserve Board.
The Committee has inventoried and analyzed all of the Company's and
Bank's various computer systems, first concentrating on mission critical
systems, and then reviewing all other computer-related systems. In
addition, the Company has reviewed all non-information technology systems
that may contain embedded dates. Non-compliant systems have been corrected
through renovation or replacement. The Company has evaluated the state of
readiness of all of its critical vendors, and believes that they will be
prepared for the Year 2000. Computer systems with which the Bank's systems
interact to service the Bank's customers, such as automated teller
machines, will be tested, and management anticipates that this testing will
be completed by the end of the second quarter 1999.
The Bank has evaluated its significant customers to determine that
their systems will be Year 2000 compliant within the appropriate timeframe.
In September 1998, the Bank surveyed its largest 200 loan customers, to
assess their Year 2000 readiness and determine whether or not the Bank
needed to create additional reserves in the event any of these customers
are not able to pay their loans due to the Year 2000 issue. As a result of
the Bank's survey, the Company did not believe it was necessary to increase
its allowance for loan losses. The Bank continues to monitor these
customers.
As of December 31, 1998, the Year 2000 project has cost an aggregate
of $98,550, approximately $57,000 of which constituted software upgrades,
$25,000 of which was personnel costs projected through the Year 2000, and
the remainder of which constituted a variety of other costs, including
hardware replacement. Additional expenditures of approximately $11,500 are
budgeted to complete the Year 2000 project. While these expenditures have
not required deferment of any additional Year 2000 efforts, the Company has
delayed introduction of any new initiatives until the Year 2000 project is
completed.
The Company is in the process of establishing contingency plans to
address continuity of business on January 1, 2000 in the event that some or
all of its systems fail. Management anticipates that these contingency
plans will be completed at the beginning of the second quarter 1999. Plans
include a combination of alternative methods to perform a job, including
manual procedures and incorporating the Bank's existing disaster recovery
plan. Another issue that the Bank will address in the second quarter is
the adequacy of its cash reserves and related security concerns. Because
several advisors are recommending to the public that they maintain
abnormally high levels of cash, the Bank anticipates that it will need to
have additional available cash, and may need to increase its security
measures as a result of the additional cash.
The potential impact of Year 2000 will depend not only on the
Company's efforts but also on the Year 2000 readiness of entities on which
the Company depends, including public utility companies and phone
companies. Dependence on these vendors subjects the Company to a risk, for
which the Company cannot completely prepare.
The Company believes that the most likely worst case Year 2000
scenario would not have material adverse effect on the Company's results of
operations and financial conditions in the year ending December 31, 2000.
The Company's assessment is limited by the Company's legal right to demand
information and assurances, the willingness and ability of third parties
to provide such information, and the reliability of the information
provided. In addition, the Company believes that no entity can address the
unlimited number of possible circumstances relating to the Year 2000 issue,
including risks outside the Company's marketplace.
Certain information in the above discussion constitute forward-looking
statements about the Company's Year 2000 readiness that involve risks and
uncertainties that may be adversely effected due to third party vendors'
and customers' failure to resolve the Year 2000 issue, despite their prior
representations, the ability of public utilities to operate and similar
factors beyond the control of the Company.
Financial Condition and Results of Operations
Commonwealth Bankshares, Inc. and Subsidiary
This commentary provides an overview of Commonwealth Bankshares, Inc.'s
financial condition, changes in financial condition and results of
operations for the years 1996 through 1998. The following discussions
should assist readers in their analysis of the accompanying consolidated
financial statements and supplemental financial information. It should be
read in conjunction with the statistical information.
Earnings Overview
Net income in 1998 of $1.105 million represented an 18.85% increase
over the $930 thousand reported for the year 1997. This earnings record,
the highest in the Bank's history, reflects the Bank's continued growth in
core operating earnings, improved credit quality, record loan growth and
positive trends which are expected to continue into 1999.
Net income for 1997 of $930.0 thousand represented an 11.18% increase
over the $836.4 thousand reported in 1996.
Commonwealth's core earnings, defined by the Corporation as pre-tax
earnings exclusive of the provision for loan losses and nonrecurring items
such as securities gains, have improved steadily since 1993.
The key profitability measures of return on average assets (ROA) and
return on average total shareholders' equity (ROE) reflected improvement in
1998 when compared with 1997 and 1996 as a result of an improvement in the
Bank's net interest income and a substantial growth in the Bank's loan
portfolio. This growth was created by the migration of many small to
medium sized businesses to Bank of the Commonwealth from regional financial
institutions serving the Hampton Roads community. ROA equaled .90% in
1998 compared with .85% in 1997 and .79% in 1996. ROE equaled 9.91% in
1998 compared with 9.35% in 1997 and 8.85% in 1996. These ratios, along
with other significant earnings and balance sheet information for each
of the years in the five-year period ended December 31, 1998, are shown in
Table 1 as follows:
<TABLE>
<CAPTION>
<S> <C>
Table 1 - Selected Financial Information
(Dollars in thousands, except per share data)
Results of Operations (for the year): 1998 1997 1996 1995 1994
---- ---- ---- ---- ----
Income From Earning Assets $9,547 $8,553 $7,744 $6,859 $5,831
Net Interest Income 4,487 4,143 3,543 3,227 3,179
Provision For Loan Loss 102 50 1 53 102
Net Income 1,105 930 836 836 814
Earnings Per Share:
Net Income-Basic(1) $1.02 $0.86 $0.77 $0.77 $0.75
Average Shares Outstanding (1) 1,084,153 1,084,153 1,084,153 1,084,153 1,084,153
Financial Condition (at December 31):
Total Assets $132,237 $116,106 $106,170 $95,037 $81,458
Total Equity 11,580 10,531 9,568 8,770 7,787
Selected Ratios (for the year):
Return on Average Common
Shareholders' Equity 9.91% 9.35% 8.85% 10.17% 10.89%
Return on Average Assets 0.90% 0.85% 0.79% 0.94% 1.04%
Net Interest Margin 3.81% 3.99% 3.75% 3.92% 4.53%
<FN>
(1) Adjusted to reflect 1998, 1997, 1996, & 1995 stock dividends
</TABLE>
Earnings per share increased 18.61% during 1998 reaching $1.02 per
share or $.16 per share over the
$.86 per share reported in 1997.
Earnings per share increased 11.69% during 1997 reaching $.86 per share
or $.09 per share over the
$.77 per share reported in 1996. Significant items affecting the change in
earnings per share for 1998,
1997, and 1996 are summarized as follows:
1998 1997
vs. vs.
1997 1996
Interest on loans and 11.6% increase 10.4% increase
investments and loan fees
Interest on deposits and 14.7% increase 4.9% increase
funds purchased
Net interest income 8.3% increase 16.9% increase
Provision for loan losses $52.0 thousand $49.2 thousand
increase increase
NET INTEREST INCOME AND NET INTEREST MARGIN
A fundamental source of Commonwealth's earnings, net interest income,
is defined as the difference between income on earning assets and the cost
of funds supporting those assets. Significant categories
of earning assets are loans and securities, while deposits and short-term
borrowings represent the major portion of interest-bearing liabilities.
The level of net interest income is impacted primarily by variations in the
volume and mix of these assets and liabilities, as well as changes in
interest rates when compared to previous periods of operations.
The net interest margin is calculated as tax-equivalent net interest
income divided by average earning assets, and represents the Corporation's
net yield on its earning assets.
In 1998 the net interest margin of 3.81% represented a slight decline
of 18 basis points over the net interest margin of 3.99% recorded in 1997.
The decrease in net interest margin of 4.51% was brought about by a more
rapid decline in the rate of return on the loans and securities portfolios
when compared with the rate of decline in the Bank's sources of funding.
The net interest margin for 1997 was 3.99% compared to 3.75% for 1996.
The increase was principally attributable to a higher return on loans
outstanding. The decline in 1996 was primarily attributable to
a 0.5% increase in the cost of deposits for 1996 as compared to 1995. The
performance reported herein is reflected in Commonwealth's earning assets
yield which declined 9 basis points to 8.47% in 1998 compared with 8.56% in
1997, compared with an improvement of 43 basis points to 8.56% in 1997
compared with a decline of 55 basis points to 8.13% in 1996.
Commonwealth's average cost of deposits increased 9 basis points in 1998 to
5.26% when compared with an increase of 16 basis points in 1997 from 1996.
The substantial decreases in nonperforming assets of $797 thousand to $2.31
million in 1998, $858 thousand to $3.1 million at the end of 1997, and
$1.36 million to $3.96 million at the end of 1996, will result in a
favorable impact on the net interest margin during future periods since the
major reductions in nonperforming assets occurred at year end 1996, 1997,
and 1998 respectively. The level of nonperforming assets negatively
impacted earnings during 1998, 1997 and 1996 in the amounts of $101.0
thousand, $123.9 thousand, and $100.5 thousand respectively.
Average interest earning assets increased $14.0 million in 1998, $8.7
million in 1997, and $16.3 million in 1996. Average net loans increased
$13.4 million in 1998, $5.8 million in 1997, and $6.3 million in 1996.
Average investment securities decreased by $1.6 thousand in 1998, increased
$480.4 thousand during 1997, and $7.6 million during 1996.
Provision and Allowance for Loan Losses
The provision for loan losses is the annual cost of maintaining an
allowance for inherent credit losses. The amount of the provision each
year and the level of the allowance are matters of judgement and are
impacted by many factors, including actual credit losses during the period,
the prospective view of credit losses, loan performance measures and trends
(such as delinquencies and charge-offs), and other factors, both internal
and external that may affect the quality and future loss experience of the
credit portfolio.
On a quarterly basis, Commonwealth's management evaluates the adequacy
of the allowance for loan losses and, based on such review, establishes the
amount of the provision for loan losses. For large commercial and real
estate exposure, a detailed loan-by-loan review is performed. The
remainder of the commercial and real estate portfolio is analyzed utilizing
a formula-based determination of the allowance. The formula is impacted by
the risk rating of the loan, historical losses and expectations. Loan loss
allowances for the various consumer credit portfolios are based on
historical and anticipated losses and the current and projected
characteristics of the various portfolios. In addition, consideration of
factors such as economic conditions, underwriting standards, and compliance
and credit administration practices may impact the level of inherent credit
loss. Management's evaluation and resulting provision and allowance
decisions are reviewed by the Board of Directors quarterly.
A continuing strong economy, combined with the Corporation's continued
loan workout activities resulted in a modest contribution to the provision
for loan losses during 1998, 1997 and 1996 respectively. The Corporation
made provisions for loan losses of $101.7 thousand in 1998, $49.8 thousand
in 1997, and $0.5 thousand in 1996. Details of the activity in the
allowance for loan losses for the past three years are shown in Note 4 to
the Consolidated Financial Statement.
Net charge-offs during 1998 were $102 thousand compared with $13
thousand and $324 thousand reported during 1996. The level of charge-offs
for 1998 reflected normal increases as a result of the continued
growth in the loan portfolio. The level of charge-offs during 1996
reflected loses sustained, which were primarily attributable to the Bank's
relationship with one borrower, a relationship which was in a workout
position for an extended period of time. Current expectations are that
total net charge-offs in 1999 will be comparable with the Bank's experience
during 1998.
This expectation is based upon assumptions regarding the general
economic climate in Commonwealth's trade area and the performance
characteristics of the loan portfolio, including Commonwealth's continued
success in working out remaining nonperforming loans. Changes in these
conditions could warrant different results.
The allowance for loan losses at December 31, 1998 was $969 thousand
which was unchanged compared with December 31, 1997 and an increase over
the $932 thousand reported at year end 1996. This represented 1.06% of
year-end gross loans at December 31, 1998 compared with 1.24% of year-end
gross loans at December 31, 1997 and 1.41% of year-end gross loans at
December 31, 1996.
The tables on the following pages provide an analysis of the activity
in the Corporation's nonperforming assets and allowance for loan losses for
each of the last three years. Based on current expectations relative to
portfolio characteristics and performance measures including loss
projections, management considers the level of the allowance to be
adequate.
Nonperforming loans at December 31, 1998 declined $263 thousand to
$1.31 million when compared with the $1.57 million at year-end 1997.
During 1997 nonperforming loans declined $671 thousand when compared
with 1996. Nonperforming loans continue to be centered in a relatively
small number of loans with large balances. Based on the Bank's current
workout plans, we expect to return each of these loans to an
accrual status during 1999 with minimum losses to the Bank. Each of the
loans are fully secured and represent minimal risk.
The Corporation continues to allocate significant resources to the
expedient disposition and collection of nonperforming and other lower
quality assets. As a part of this workout process, the Corporation
routinely reevaluates all reasonable alternatives, including the sale of
these assets. Individual action plans have been developed for each
nonperforming asset.
The amount of loans past due 90 days or more that were not classified
as nonaccrual loans totaled $202 thousand at December 31, 1998, $124
thousand at December 31, 1997, and $180 thousand at December 31, 1996.
The following table reflects the trends discussed herein:
<TABLE>
<CAPTION>
<S> <C>
Nonperforming Assets
1998 1997 1996
December 31
90 Days delinquent and still
accruing $202,000 $124,000 $180,000
Nonaccrual 1,109,000 1,450,000 2,065,000
Foreclosed properties 999,000 1,533,000 1,720,000
---------- ---------- ----------
Total Nonperforming Assets $2,310,000 $3,107,000 $3,965,000
========== ========== ==========
</TABLE>
ASSET QUALITY REVIEW AND CREDIT RISK MANAGEMENT
In conducting business activities, the Corporation is exposed to the
possibility that borrowers or counterparties may default on their
obligations to the Corporation. Credit risk arises through the extension
of loans, leases, certain securities, and financial guarantees. To manage
this risk, the Corporation establishes policies and procedures to manage
both on and off-balance sheet risk and communicates and monitors the
application of these policies and procedures throughout the Corporation.
Loan Portfolio
The Corporation's credit risk is centered in its loan portfolio which
on December 31, 1998 totaled $91.9 million, or 75.1% of total earning
assets compared with $78.4 million or 72.9% of total earning assets at year
end 1997 and $66.0 million or 69.2% total earning assets at year end 1996.
The Corporation's overall objective in managing loan portfolio risk is to
minimize the adverse impact of any single event or set of occurrences. To
achieve this objective, the Corporation strives to maintain a loan
portfolio that is diverse in terms of loan type, industry concentration,
geographic distribution and borrower concentration.
For commercial loans, loan officers prepare proposals supporting the
extension of credit. These proposals contain an analysis of the borrower
and an evaluation of the ability of the borrower to repay the potential
credit. The proposals are subject to varying levels of approval by senior
line and credit policy management prior to the extension of credit.
Commercial loans receive an initial risk rating by the originating loan
officer. This rating is based on the amount of credit risk inherent in
the loan and reviewed for appropriateness by senior line and credit policy
personnel for deterioration in a borrower's financial condition which would
impact the borrower's ability to repay the credit. Risk ratings are
adjusted as necessary.
For consumer loans, approval and funding is conducted in various
locations with the majority of loans being approved at the Corporation's
headquarters facility.
A credit review group conducts ongoing reviews of the loan portfolio,
reexamining on a regular basis risk assessments for loans and overall
compliance with policy.
To limit credit exposure, the corporation obtains collateral to support
credit extensions and commitments when deemed necessary. The most
significant categories of collateral are real and personal property, cash
on deposit and marketable securities. The corporation obtains real
property as security for some loans that are made on the basis of the
general creditworthiness of the borrower and whose proceeds were not used
for real estate related purposes.
Senior level management is devoted to the management and/or collection
of certain nonperforming assets as well as certain performing loans.
Aggressive collection strategies and a proactive approach to managing
overall credit risk has expedited the Corporation's disposition, collection
and renegotiation of nonperforming and other lower-quality assets and
allowed loan officers to concentrate on generating new business.
As the volume of past due loans declines, it is anticipated that the
level of nonaccrual loans will be reduced. It should be noted that of all
loans on nonaccrual, the majority are making regular monthly payments. All
loans for the most part are fully secured with workout arrangements
currently in place.
If nonaccruing loans had been performing fully, these loans would have
contributed an additional $101.0 thousand to interest income in 1998,
$123.9 thousand in 1997, and $100.5 thousand in 1996.
The Corporation's Other Real Estate Owned (OREO) at December 31, 1998
declined to $999 thousand following a decline in 1997 of $187 thousand from
the $1.7 million reported at December 31, 1996. Of the $999 thousand,
three of the properties representing $781.8 thousand are generating income
under operating leases. The balance representing $216.9 thousand are in
various stages of liquidation.
During the last three years, there have been additions to and
liquidations of other real estate owned. There was 1 addition in 1998, no
additions during 1997, and properties acquired during 1996 equaled $603
thousand. Proceeds from the properties disposed of during 1998 equaled
$670 thousand compared with $302.5 thousand and $2.6 million in 1997 and
1996 respectively.
During 1998 and 1997, there were net losses on the sale of other real
estate of $61.6 thousand and $22.5 thousand respectively compared with a
$12.7 thousand gain in 1996.
The Bank has developed individual action plans for each property for
the ultimate liquidation of these properties. The objectives are
diligently pursued by management and reviewed with the Board of
Directors monthly.
Other Income
Total other income increased significantly in 1998 to $1.19 million
compared with $869.0 thousand reported in 1997, a 36.6% increase. Total
other income was relatively unchanged in 1997 compared with 1996. The
increase in 1998 was primarily attributable to the significant increase in
service charges and fees on deposits which is indicative of the recent
trend in commercial banking to generate additional income from services not
related to the lending function.
In each of the three years mentioned, income from OREO properties
equaled $82.9, $88.6 and $218.6 thousand respectively.
Other Expense
Total other expense increased to $3.98 million in 1998 or 10.5%
following increases of 12.2% and 12.1% in 1997 and 1996 respectively. This
represents a moderate increase when compared with the increase in the
Corporation's noninterest income and the Bank's overall growth. These
results reflect management's continued emphasis and commitment to the
management of this area of the Bank's operations. Salaries and employee
benefits, the largest component of other expenses increased by 8.9% in 1998
following increases of 11.3% in 1997 and 13.3% in 1996. Again, this
increase is a result of the Bank's overall growth, fully staffing the
Bank's new branch on Kempsville Road and the Bank's newly formed
Trust Department. Net occupancy expense increased $14.8 thousand in 1998,
$120.1 thousand in 1997, and a $24.3 thousand increase in 1996. The
increases in 1998, 1997 and 1996 reflects necessary modifications and
improvements to the Bank's physical facilities and the opening of the
Bank's sixth branch location. Other operating expenses, which include a
grouping of numerous transactions relating to normal banking operations,
increased $144.9 thousand or 14.6% in 1998 compared with an increase of
$59.3 thousand or 6.4% in 1997, and an increase of $130 thousand or 16.2%
in 1996. Again, when compared with the increase in the Corporation's
noninterest income during the past three years, the increase in noninterest
expense is considered nominal and reflects normal increases for outside
services.
Liquidity and Interest Sensitivity
Bank liquidity is a measure of the ability to generate and maintain
sufficient cash flows to fund operations and to meet financial obligations
to depositors and borrowers promptly and in a cost-effective manner. Asset
liquidity is provided primarily by maturing loans and investments, and by
cash received from operations. Other sources of asset liquidity include
readily marketable assets, especially short-term investments, and
longer-term investment securities that can serve as collateral for
borrowings. On the liability side, liquidity is affected by the timing of
maturing liabilities and the ability to generate new deposits or borrowings
as needed.
Commonwealth's Asset/Liability Management Committee (ALCO) is
responsible for formulating liquidity strategies, monitoring performance
based on established objectives and approving new liquidity initiatives.
ALCO's overall objective is to optimize net interest income within the
constraints of prudent capital adequacy, liquidity needs, the interest rate
and economic outlook, market opportunities, and customer requirements.
General strategies to accomplish this objective include maintaining a
strong balance sheet, achieving solid core deposit growth, taking on
manageable interest rate risk, adhering to conservative financial
management on a daily basis, monitored regularly by ALCO and reviewed
periodically with the Board of directors.
The Bank's funding requirements are supplied from a wide range of
traditional sources, including various types of demand deposits, money
market accounts, certificates of deposit and short-term borrrowings. Large
certificates of deposit, over $100,000 accounted for 14.2%, 8.1%, and 5.5%,
of the Bank's total deposits at December 31, 1998, 1997, and 1996
respectively. As a percentage of average assets, core deposits decreased
to 80.1% in 1996, increased to 84.5% in 1997, and decreased to 81.4%
in 1998. Management seeks to ensure adequate liquidity to fund loans,
deposit withdrawals, and the Bank's financial requirements and
opportunities. To provide liquidity for current, ongoing and
unanticipated needs, the Bank maintains a portfolio of marketable
investment securities, structures and monitors the flow of funds from these
securities and from maturing loans, and maintains access to short-term
funding sources, including a Federal funds line of credit with its
correspondent banks and the ability to borrow from the Federal Reserve
System.
The Corporation's loan portfolio net of unearned income and allowance
for loan losses increased by 17.2% to $90.6 million in 1998 compared with a
19.1% increase in 1997 to $77.3 million from the $64.9 million at year end
1996. Balances in a number of loan categories also increased. Total
commercial loans increased 26.4% to $63.9 million in 1998 compared with an
increase of 21.1% to $50.6 million in 1997, following a 15.5% increase in
1996 to $41.7 million. These increases reflect a continuing exodus of
commercial customers from the area's regional institutions to Bank of the
Commonwealth, the oldest community Bank in Southside Hampton Roads.
Consumer loans increased $689 thousand or 14.1% in 1998 following an
increase of $274 thousand or 6.0% in 1997 and a decline of $630.9 thousand
or 15.9% in 1996.
Sources of Funds
Purchased liabilities are composed of certificates of deposit of
$100,000 and over (large CDs) and balances held in "sweep accounts" for
customers. Purchased funds at December 31, 1998 equaled $19.0 million or a
65.5% increase in short-term borrowings during 1998 following a $28.6
million to $10.9 million during 1997 as compared with the $8.8 million
reported in 1996. At December 31, 1998, 1997 and 1996, approximately 100%
of Commonwealth's purchased funds consisted of funds invested by local
customers which, as such, are less volatile than other categories of
purchased funds or brokered deposits. On both an average and year-end
basis, the composition of purchased funds continued to shift in 1998, 1997
and 1996 from the balance sheet category of large CDs to short-term
borrowings. This shift in mix coincided with liquidity needs and balance
sheet management strategies in a low interest rate environment.
Uses of Funds
Total earning assets at December 31,1998 increased 14.0% from year-end
1997 compared with 1997's increase of 12.8% from year-end 1996's increase
of 13.6%. The increase in earning assets over the last three years has
been primarily attributable to the increase in the loan portfolio which has
increased from $64.9 million in 1996 to $90.6 million in 1998.
The composition of long-term investment securities as of December 31,
1998, 1997 and 1996 is presented in Note 3 to the Consolidated Financial
Statements.
At year-end 1998, 1997 and 1996, investment securities totaled $23.0
million, $22.7 million, and $23.7 million respectively.
In managing the investment securities portfolio, management's
philosophy has been to provide the maximum return over the long term on
funds invested while giving consideration to risk and other Corporate
objectives. During periods of increasing interest rates, the market value
of the investment portfolio declines in relation to book value.
Decisions to acquire investments of a particular type are based on an
assessment of economic and financial conditions, including interest rate
risk, liquidity, capital adequacy, the type of incremental funding
available to support such assets and an evaluation of alternative loan or
investment instruments.
Investment securities are purchased with the ability to hold until
maturity and with the intent to hold for the foreseeable future.
Management re-evaluates asset and liability strategies when economic and
financial conditions fluctuate in a magnitude that might adversely impact
the Company's overall interest rate risk, liquidity or capital adequacy
positions. Re-assessment may alter management's intent to hold certain
securities for the foreseeable future and result in repositioning a portion
of the investment portfolio. Often, security sales are required to
implement a change in strategy.
The total investment in the securities portfolio at December 31, 1998
was approximately $23.0 million.
The portfolio is well diversified among several market sectors as
summarized below:
Sector Percent
Municipals 28%
Floating Mortgage-Backed (MBS) 20%
Fixed U. S. Government Agency 20%
Fixed Mortgage-Backed (MBS) 13%
Floating Collateralized Mortgage Obligations (CMO) 9%
Fixed Collateralized Mortgage Obligations (CMO) 7%
Floating Agency 3%
The overall portfolio is currently projected to yield 6.20% on a fully
taxable equivalent basis. It has a weighted average life of 5.1 years, a
weighted average repricing term of 3.5 years, and 68% of total holdings are
invested in fixed rate securities. 76% of the portfolio has been placed in
the Available For Sale (AFS) category for FAS 115 purposes. The Bank will
continue to place a higher percentage of its investments in the AFS
portfolio. The portfolio currently contains an unrealized loss on sale of
$70.7 thousand.
The portfolio has a short repricing distribution with 48% repricing
within the next twelve months. Adjustable Rate securities total $8.3
million par value and represent 32% of the total portfolio. These
securities are well diversified among a variety of indices. The diversity
in indices results in a consistent performing adjustable rate portfolio
regardless of the direction or level of interest rates. Currently, the
adjustable rate securities portfolio is projected to yield 5.56% with a
weighted average months-to-roll of 4.6 months.
Fixed rate, U.S. Agency securities, excluding Index Amortizing Notes
(IANs), total $4.7million par value and represent 20% of total holdings.
The portfolio is diversified among various call types as 58% are
continuously callable (i.e. anytime after the first call date), 31% are
discretely callable (i.e. on coupon payment dates) and 11% are non-callable
prior to maturity.
Index Amortization Notes (IANs) are Agency debentures whose principal
is repaid in a similar fashion as CMOs. These issues total $576 thousand
par value and are projected to yield 6.08% with an expected average life of
0.99 years based on consensus prepayment estimates. These securities also
have a short average final stated maturity of just over five years, or
March 2004.
Municipal holdings total $7.3 million par value, or 28% of total
holdings, and have a taxable equivalent yield to the effective maturity
date of 6.58%. These issues have excellent credit quality, as 98% of the
portfolio is AA-rated or higher. The two largest states represented in the
portfolio include New York at 23% and Pennsylvania at 13%. The effective
maturity date of the municipal portfolio is September 2007, or
approximately 8.5 years.
Fixed rate CMOs total $1.6 million par value, or 7% of total holdings,
and are well diversified among a variety of structures and maturities.
Overall, the portfolio is relatively short with 18% having an expected
average life of between three to five years. The portfolio is currently
projected to yield 5.67% with an expected average life of 1.1 years based
on the historical one-month prepayment rate.
Fixed rate mortgage pools total $3.3 million par value, or 13% of total
holdings. These securities are invested in a variety of Balloon, 15-year,
20-year, and 30-year final maturity pools and is well diversified among
coupon rates. Overall, the portfolio is projected to yield 6.42% with a
projected average life of 4.7 years based on the one-month historical
prepayment rate.
Management frequently assesses the performance of the investment
portfolio to ensure its yield and cash flow performances are consistent
with the broad strategic plan of the entire Bank. Flexibility is one of
the hallmarks of the Bank's ability to meet the dynamic banking needs of
its customers.
Year-end total loans net of unearned income increased $13.3 million or
17.0% in 1998 following a $12.4 million or 18.9% increase in 1997, and an
increase of 7.2% or $4.5 million at year end 1996. The results were
largely due to the efforts of the Bank's officers to develop new loan
relationships with customers from the area's regional institutions combined
with an improved economic environment.
Loans represented the largest category of earning assets and the Bank
will continue with its efforts to develop creditable loan relationships in
order to enhance its earnings opportunities while simultaneously
strengthening its underwriting criteria. The policies, procedures and
lending guidelines implemented during the past two years have been reported
to shareholders in detail in previous quarterly and annual reports.
A number of measures have been taken by Commonwealth over the past
several years to reduce overall exposure and earnings vulnerability in the
real estate sectors of the Corporation's trade area, including
strengthening real estate underwriting, management review policies and
practices, and reducing higher risk concentrations within the real estate
portfolio. Commonwealth's real estate portfolio is comprised of loans to
customers located within the Corporation's established marketplace.
Diversification of the loan portfolio continues.
During the past three years, a considerable volume of new loan
relationships have been developed with "old line and well-established"
local businesses, who have transferred their relationships to Commonwealth
from other "regional financial institutions" that are experiencing further
consolidation. This has been an excellent source of new business for the
Bank. We intend to aggressively continue to target these relationships in
future periods.
Further explanations regarding the changes in the volume of outstanding
loans are included in Management's Discussion and Analysis of financial
Condition and Results Operations under the section entitled "Liquidity".
Dividends and Dividend Policy
The Corporation's Board of Directors determines the amount of and
whether or not to declare dividends. Such determinations by the board take
into account the Corporation's financial condition, results of operations,
and other relevant factors. The Corporation's only source of funds for
cash dividends are dividends paid to the Corporation by the Bank.
Based on the Corporation's earnings record for 1998, the Corporation
declared an 8% stock dividend, compared with a 6% stock dividend in 1997
and 1996. It is anticipated that this policy will continue to be
re-evaluated during 1999. Based on the Corporation's continued improved
record of profitability, it is expected that the payment of cash dividends
will be initiated in future periods.
Income Taxes
Corporations are required to pay the greater of the regular corporate
income tax or the alternative minimum tax (AMT).
In 1998, income tax expense was $482.3 thousand, up from $427.7
thousand in 1997, and $364.3 thousand in 1996. These increases were
attributable to improvements in earnings.
Inflation
The Corporation carefully reviews Federal Reserve monetary policy in
order to insure an appropriate position between the cost and utilization of
funds.
The effect of changing prices on financial institutions is typically
different than on non-banking companies since virtually all of a bank's
assets and liabilities are monetary in nature. In particular, interest
rates are significantly affected by inflation, but neither the timing nor
magnitude of the changes are directly related to price level indices.
Therefore, the Corporation can best counter inflation over the long term by
managing net interest income and controlling net increases in noninterest
income and expenses.
Capital Resources and Adequacy
Average shareholders' equity increased at the rate of 12.0% in 1998
compared with 9.4% in 1997, and 15.1% in 1996. During these periods, the
sole source of capital to the Bank has been internally generated retained
earnings.
The Federal Reserve Board, the Office of the Controller of the
Currency, and the FDIC have issued risk-based capital guidelines for U.S.
banking organizations. These guidelines provide a capital framework that
is sensitive to differences in risk profiles among banking companies.
Risk-based capital ratios are another measure of capital adequacy. At
December 31, 1998, the Bank's risk-adjusted capital ratios were 11.8% for
Tier 1 and 12.8% for total capital, well above the required minimums of
4.0% and 8.0% respectively, as compared with 12.5% and 13.7% respectively
at December 31, 1997 and 13.1% and 14.4% at December 31, 1996. These
ratios are calculated using regulatory capital (either Tier 1 or total
capital) as the numerator and both on-and off-balance sheet risk-weighted
assets as the denominator. Tier 1 capital consists primarily of common
equity less goodwill and certain other intangible assets. Total capital
adds certain qualifying debt instruments and a portion of the allowance for
loan losses to Tier 1 capital. One of four risk weights, primarily
based on credit risk, is applied to both on-and off-balance sheet assets to
determine the asset denominator. Under Federal Deposit Insurance
Corporation (FDIC) rules, Commonwealth was considered "Well-capitalized,"
the highest category of capitalization defined by the regulators allowing
the lowest level of FDIC insurance premium rates, as of December 31, 1998,
1997, and 1996.
The Bank's capital is adequate to support the present level of assets
and to provide for some future growth.
At December 31, 1998, shareholders' equity stood at $11.6 million as
compared with $10.5 million at year-end 1997, and $9.57 million at year-end
1996. These increases were brought about by a net profit of $1.105 million
in 1998, a net profit of $930.0 thousand in 1997, and a net profit of
$836.4 thousand in 1996.
In order to maintain a strong equity capital position, to protect
against the risks of loss, in the investment and loan portfolios and on
other assets, management will continue to monitor the bank's capital
position. Several measures have been or will be employed, to maintain the
Bank's capital position, including but not limited to:
*Continuing its efforts to return all nonperforming assets to
performing status,
*Monitoring the Bank's growth, and
*Continued utilization of its formal asset/liability policy.
Once again, it should be noted that the Bank's capital position has
always exceeded and continues to exceed the minimum standards established
by the regulatory authorities.
<TABLE>
<CAPTION>
<S> <C>
FIVE-YEAR SUMMARY CONSOLIDATED BALANCE SHEETS
December 31
1998 1997 1996 1995 1994
ASSETS
Cash and due from banks $5,383,384 $4,347,967 $5,655,944 $5,135,875 $4,764,835
Investment securities:
Available for sale 17,332,509 11,833,736 9,590,274 5,968,175 6,489,145
Held to maturity 5,665,833 10,830,242 14,072,217 11,290,140 8,393,628
Federal funds sold 7,378,500 6,440,417 5,718,439 5,131,844 1,056,522
Loans:
Commercial 15,990,112 13,861,467 11,078,914 8,889,880 9,899,880
Commercial construction 1,522,464 1,600,521 1,867,926 1,470,129 988,192
Commercial mortgage 46,379,110 35,090,563 28,796,673 25,795,631 21,068,295
Residential mortgage 19,576,529 19,836,295 17,206,173 18,668,317 16,376,434
Installment loans to individuals 5,564,235 4,874,850 4,600,931 3,970,015 4,103,107
Other 2,817,787 3,181,766 2,448,714 2,809,860 3,272,096
----------- ----------- ----------- ----------- -----------
GROSS LOANS 91,850,237 78,445,462 65,999,331 61,603,832 55,708,004
Less: Unearned income (274,472) (194,100) (164,724) (231,186) (244,930)
Allowance for loan losses (969,000) (969,000) (932,000) 1,256,000) (1,208,000)
----------- ----------- ----------- ----------- -----------
90,606,765 77,282,362 64,902,607 60,116,646 54,255,074
Premises and equipment 2,742,015 2,325,677 2,442,691 2,340,746 1,912,657
Other assets 3,128,238 3,045,336 3,788,054 5,053,931 4,486,250
----------- ----------- ----------- ----------- -----------
$132,237,244 $116,105,737 $106,170,226 $95,037,357 $81,458,111
LIABILITIES & SHAREHOLDERS' EQUITY
Deposits:
Noninterest bearing $16,433,391 $12,083,459 $10,686,956 $13,147,115 $9,080,263
Interest bearing 99,736,424 88,676,591 79,575,499 69,109,244 62,243,345
----------- ----------- ----------- ----------- -----------
TOTAL DEPOSITS 116,169,815 100,760,050 90,262,455 82,256,359 71,323,608
Securities sold under
agreement to repurchase 2,483,725 2,760,068 3,573,350 2,290,477 744,855
Long-term debt 557,056 583,168 609,280 684,019 661,504
Other liabilities 1,446,903 1,470,963 2,156,671 1,036,116 940,808
----------- ----------- ----------- ----------- -----------
TOTAL LIABILITIES 120,657,499 105,574,249 96,601,756 86,266,971 73,670,775
SHAREHOLDERS' EQUITY
Common stock 2,710,383 2,510,235 2,368,752 2,235,258 2,109,313
Additional paid capital 5,175,939 4,536,468 4,106,361 3,715,666 3,376,454
Retained earnings 3,740,072 3,477,142 3,121,362 2,811,562 2,443,469
Accumulated other
comprehensive income (loss) (46,649) 7,643 (28,005) 7,900 (141,900)
----------- ----------- ----------- ----------- -----------
11,579,745 10,531,488 9,568,470 8,770,386 7,787,336
----------- ----------- ----------- ----------- -----------
$132,231,244 $116,105,737 $106,170,226 $95,037,357 $81,458,111
=========== =========== =========== ========== ==========
</TABLE>
<TABLE>
<CAPTION>
<S> <C>
FIVE-YEAR SUMMARY OF CONSOLIDATED OPERATIONS
Years Ended December 31
1998 1997 1996 1995 1994
Interest on loans and investments and loan fees $9,546,891 $8,553,087 $7,744,380 $6,858,537 $5,831,266
Interest on deposits and federal funds purchased 5,060,073 4,409,992 4,201,221 3,631,792 2,652,383
---------- ---------- ---------- ---------- ----------
Net Interest Income 4,486,818 4,143,095 3,543,159 3,226,745 3,178,383
Provision for loan losses (101,738) (49,762) (529) (52,932) (101,787)
---------- ---------- ---------- ---------- ----------
Net Interest Income After Provision
for Loan Losses 4,385,080 4,093,333 3,542,630 3,173,813 3,077,096
Other Income
Security gains (loss) 5,084 10,077 3,570 28,430 (9,187)
Gains (loss) on sale of real estate (61,561) (22,459) (12,744) 8,668 (11,146)
Other operating income 1,243,147 881,401 879,795 772,963 766,736
---------- ---------- ---------- ---------- ----------
Total Other Income 1,186,670 869,019 870,621 810,061 746,403
Other Expenses:
Salaries and employee benefits 1,862,484 1,709,545 1,535,427 1,354,088 1,270,731
Occupancy expenses (net) 435,770 420,943 300,844 276,531 203,212
Furniture and equipment expenses 548,691 481,917 443,316 432,693 410,621
Other operating expenses 1,137,214 992,290 932,974 802,897 846,593
---------- ---------- ---------- ---------- ----------
Total Other Expenses 3,984,159 3,604,695 3,212,561 2,866,209 2,731,157
---------- ---------- ---------- ---------- ----------
Income Before Income Taxes 1,587,591 1,357,657 1,200,690 1,117,665 1,092,342
Applicable Income Tax Expense 482,339 427,692 364,264 282,148 278,251
--------- ------- ------- ------- -------
Net Income for Year $1,105,252 $929,965 $836,426 $835,517 $814,091
========= ======= ======= ======= =======
Net Income per share - basic (1) $1.02 $0.86 $0.77 $0.77 $0.75
Net Income per share assuming dilution (1) $0.93 $0.80 $0.73 $0.74 $0.74
Average shares outstanding (1) 1,084,153 1,084,153 1,084,153 1,084,153 1,084,153
Average shares - assuming dilution (1) 1,188,072 1,167,052 1,149,217 1,124,093 1,102,386
<FN>
(1) Adjusted to reflect 1998, 1997, 1996 & 1995 Stock Dividends.
</TABLE>
PART II
Item 7. Financial Statements.
Refer to the index to the Consolidated Financial Statements on
Page F-1 for the required information.
Item 8. Changes In and Disagreements With Accountants on Accounting and
Financial Disclosure.
None.
PART III
Item 9. Directors, Executive Officers, Promoters and Control Persons;
Compliance With Section 16(a) of the Exchange Act.
The following sets forth the names, ages and business
experience of the Corporation's executive officers.
Edward J. Woodard, Jr., 56
Chairman of the Board, President and Chief Executive Officer of
the Corporation and the Bank.
John H. Gayle, 60
Executive Vice President and Secretary of the Corporation and
Executive Vice President and Cashier of the Bank, and Vice
President and Secretary of BOC Title Hampton Roads.
Richard R. Early, 54
Senior Vice President and Senior Trust Officer of the Bank
since September 1996. Prior to accepting the position with the
Bank, Mr. Early was Senior Vice President and Senior Trust
Officer at Bank of Lancaster from May 1990 through September
1996.
Simon Hounslow, 34
Senior Vice President and Commercial Loan Officer of the Bank.
Richard W. Webb, 46
Vice President and Branch Administration Officer of the Bank.
Prior to joining the Bank in August 1993, Mr. Webb was a banker
with Home Savings Bank from 1975 through July 1993.
Item 10. Executive Compensation.
The information called for in this Item is incorporated by
reference from the Corporation's definitive Proxy Statement for
its 1999 Annual Meeting of Shareholders, which will be filed
with the Securities and Exchange Commission no later than 120
days after the end of the Corporation's fiscal year.
Item 11. Security Ownership of Certain Beneficial Owners and Management.
The information called for in this Item is incorporated by
reference from the Corporation's definitive Proxy Statement for
its 1999 Annual Meeting of Shareholders, which will be filed
with the Securities and Exchange Commission no later than 120
days after the end of the Corporation's fiscal year.
Item 12. Certain Relationships and Related Transactions.
The information called for in this item is incorporated by
reference form the Corporation's definitive Proxy Statement for
its 1999 Annual Meeting of Shareholders, which will be filed
with the Securities and Exchange Commission no later than 120
days after the end of the Corporation's fiscal year.
Item 13. Exhibits and Reports on Form 8-K.
(a) (3) Exhibits
3.1 Articles of Incorporation. Filed June 15, 1988, as
Exhibit 3.1to the Registrant's Form S-4, and
incorporated herein by reference.
3.2 By laws. Filed June 15, 1988, as Exhibit 3.2 to the
Registrant's Form S-4, and incorporated herein by
reference.
3.3 Amendment to Articles of Incorporation dated July 28,
1989. Filed March 20, 1990, as Exhibit 3.3 to the
Registrant's Form 10-K, and incorporated herein by
reference.
10.1 Lease. Filed June 15, 1988, as Exhibit 10.1 to the
Registrants Form S-4, and incorporated herein by
reference.
10.5 Employee Director's Deferred Compensation Plan. Filed
March 21, 1989, as Exhibit 10.5 to the Registrant's Form
10-K, and incorporated herein by reference.
10.6 Non-Employee Director's Deferred Compensation Plan.
Filed March 21, 1989, as Exhibit 10.6 to the
Registrant's Form 10-K, and incorporated herein by
reference.
10.7 Deferred Supplemental Compensation Agreement with Edward
J. Woodard, Jr. Filed March 21, 1989, as Exhibit 10.7 to
the Registrant's Form 10-K, and incorporated herein by
reference.
10.8 Employment Agreement with Edward J. Woodard, Jr. Filed
March 20, 1990, as Exhibit 10.8 to Registrant's Form
10-K, and incorporated herein by reference
10.9 Employment Agreement with John H. Gayle. Filed March
28, 1991, as Exhibit 10.9 to Registrant's Form 10-K, and
incorporated herein by reference.
10.10 Amendment to Deferred Supplemental Compensation
Agreement with Edward J. Woodard, Jr. Filed March
30,1994, as Exhibit 10.10 to Registrant's Form 10-K,
and incorporated herein by reference.
10.11 Amendment to Employment Agreement with Edward J.
Woodard, Jr. Filed March 30, 1994, as Exhibit 10.11 to
Registrant's Form 10-K, and incorporated herein by
reference.
10.12 Amendment to Employment Agreement with John H. Gayle.
Filed March 30, 1994, as Exhibit 10.12 to Registrant's
Form 10-K, and incorporated herein by reference.
10.13 Non-Employee Director Stock Compensation Plan. Filed
March 30, 1996, as Exhibit 10.13 to Registrant's form
10-K, and incorporated herein by reference.
10.14 Second amendment to deferred supplemental agreement
dated December 27, 1978, with Edward J. Woodard, Jr.
Filed herein.
(b) Reports filed on Form 8-K for the quarter ended December 31,
1998.
None
ANNUAL REPORT ON FORM 10-KSB
ITEM 8,
LIST OF FINANCIAL STATEMENTS
FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA
YEAR ENDED DECEMBER 31, 1998
COMMONWEALTH BANKSHARES, INC.
FORM 10-KSB--ITEM 7
COMMONWEALTH BANKSHARES, INC.
LIST OF FINANCIAL STATEMENTS
The following consolidated financial statements of Commonwealth
Bankshares, Inc. and
subsidiary are included:
Consolidated balance sheets--December 31, 1998 and 1997.
Consolidated statements of income--Years ended December 31, 1998,
1997 and 1996.
Consolidated statments of comprehensive income--Years ended December
31, 1998, 1997 and 1996.
Consolidated statements of stockholders' equity--Years ended December
31, 1998, 1997 and 1996.
Consolidated statements of cash flows--Years ended December 31, 1998,
1997 and 1996.
Notes to consolidated financial statements--December 31, 1998.
Schedules to the consolidated financial statements required by Article 9
of Regulations S-X are not required under the related instructions or are
inapplicable, and therefore have been omitted.
SIGNATURES
Pursuant to the requirements of Section 13 or 15(d) of the Securities
Exchange Act of 1934, the registrant has duly caused this Report to be
signed on its behalf by the undersigned, thereunto duly authorized.
Commonwealth Bankshares, Inc.
(Registrant)
Date: March 29, 1999 by:
E. J. Woodard, Jr., CLBB
Chairman of the Board,
President & CEO
by:
John H. Gayle
Executive Vice President & Cashier
(Principal Financial Officer)
<PAGE>
COMMONWEALTH BANKSHARES, INC.
1998 SEC VERSION
INDEX
PAGE
Independent Auditors' Report F-2
Financial Statements
Consolidated balance sheets F-3
Consolidated statements of income F-5
Consolidated statements of comprehensive income F-6
Consolidated statements of stockholders' equity F-7
Consolidated statements of cash flows F-8
Notes to consolidated financial statements F-9
Board of Directors
Commonwealth Bankshares, Inc.
Norfolk, Virginia
We have audited the accompanying consolidated balance sheets of Commonwealth
Bankshares, Inc. and its subsidiary as of December 31, 1998 and 1997, and the
related consolidated statements of income, comprehensive income,
stockholders' equity and cash flows for each of the three years in the period
ended December 31, 1998. These financial statements are the responsibility
of the Company's management. Our responsibility is to express an opinion on
these financial statements based on our audits.
We conducted our audits in accordance with generally accepted auditing
standards. Those standards require that we plan and perform the audit to
obtain reasonable assurance about whether the financial statements are free of
material misstatement. An audit includes examining, on a test basis, evidence
supporting the amounts and disclosures in the financial statements. An audit
also includes assessing the accounting principles used and significant
estimates made by management, as well as evaluating the overall financial
statement presentation. We believe that our audits provide a reasonable basis
for our opinion.
In our opinion, the consolidated financial statements referred to above
present fairly, in all material respects, the financial position of
Commonwealth Bankshares, Inc. and its subsidiary as of December 31, 1998 and
1997, and the results of their operations and their cash flows for each of
the three years in the period ended December 31, 1998, in conformity
with generally accepted accounting principles.
POTI, WALTON & ASSOCIATES, PC
(Formerly Plott & Walton, PC)
Richmond, Virginia
January 15, 1999
COMMONWEALTH BANKSHARES, INC.
CONSOLIDATED BALANCE SHEETS
DECEMBER 31, 1998 AND 1997
<TABLE>
<CAPTION>
<S> <C>
ASSETS
1998 1997
Cash and cash equivalents:
Cash and due from banks $5,383,384 $4,347,967
Federal funds sold 7,378,500 6,440,417
---------- ----------
Total cash and cash equivalents 12,761,884 10,788,384
Investment securities:
Available for sale 17,332,509 11,833,736
Held to maturity 5,665,833 10,830,242
Loans receivable:
Commercial 15,990,112 13,861,467
Commercial construction 1,522,464 1,600,521
Commercial mortgage 46,379,110 35,090,563
Residential mortgage 19,576,529 19,836,295
Installment loans to individuals 5,564,235 4,874,850
Other 2,817,787 3,181,766
---------- ----------
Gross loans 91,850,237 78,445,462
Unearned income (274,472) (194,100)
Allowance for loan losses (969,000) (969,000)
---------- ----------
Loans, net 90,606,765 77,282,362
Premises and equipment, net 2,742,015 2,325,677
Foreclosed real estate 998,697 1,533,435
Accrued interest receivable 856,458 800,913
Other assets 1,273,083 710,988
---------- ----------
$132,237,244 $116,105,737
=========== ===========
</TABLE>
<TABLE>
<CAPTION>
<S> <C>
LIABILITIES AND STOCKHOLDERS' EQUITY
1998 1997
Liabilities:
Deposits:
Non-interest bearing demand deposits $16,433,391 $12,083,459
Interest bearing:
Demand deposits 16,895,521 18,011,047
Savings deposits 5,303,955 4,873,839
Other time deposits 77,536,948 65,791,705
----------- -----------
Total deposits 116,169,815 100,760,050
Securities sold under agreements
to repurchase 2,483,725 2,760,068
Long-term debt 557,056 583,168
Accrued interest payable 381,067 403,839
Other liabilities 1,065,836 1,067,124
----------- -----------
Total liabilities 120,657,499 105,574,249
Stockholders' equity:
Common stock, par value $2.50,
5,000,000 shares authorized;
1,084,153 and 1,004,094 shares
issued and outstanding in 1998 and
1997, respectively 2,710,383 2,510,235
Additional paid-in capital 5,175,939 4,536,468
Retained earnings 3,740,072 3,477,142
Accumulated other comprehensive
income (loss) (46,649) 7,643
----------- -----------
Total stockholders' equity 11,579,745 10,531,488
----------- -----------
$132,237,244 $116,105,737
</TABLE>
<TABLE>
<CAPTION>
<S> <C>
COMMONWEALTH BANKSHARES, INC.
CONSOLIDATED STATEMENTS OF INCOME
FOR THE YEARS ENDED DECEMBER 31, 1998, 1997, AND 1996
1998 1997 1996
Interest income:
Loans, including fees S7,837,677 $6,774,908 $6,124,352
Investment securities 1,379,586 1,559,530 1,196,919
Other interest income 329,628 218,649 423,109
---------- ---------- ----------
Total interest income 9,546,891 8,553,087 7,744,380
Interest expense:
Deposits 4,906,526 4,235,619 4,009,124
Other interest expense 153,547 174,373 192,097
---------- ---------- ----------
Total interest expense 5,060,073 4,409,992 4,201,221
---------- ---------- ----------
Net interest income 4,486,818 4,143,095 3,543,159
Provision for loan losses (101,738) (49,762) (529)
---------- ---------- ----------
Net interest income after
provision for loan losses 4,385,080 4,093,333 3,542,630
Other income (loss):
Service charges on deposit accounts 824,827 526,540 443,958
Other service charges and fees 369,776 273,044 306,295
Other (7,933) 69,435 120,368
---------- ---------- ----------
Total other income 1,186,670 869,019 870,621
Other expenses:
Salaries and employee benefits 1,862,484 1,709,545 1,535,427
Net occupancy expense 435,770 420,943 300,844
Furniture and equipment expense 548,691 481,917 443,316
Other operating expense 1,137,214 992,290 932,974
---------- ---------- ----------
Total other expenses 3,984,159 3,604,695 3,212,561
---------- ---------- ----------
Income before income taxes 1,587,591 1,357,657 1,200,690
Provision for income taxes 482,339 427,692 364,264
---------- ---------- ----------
Net income $1,105,252 $929,965 $836,426
========== ========== ==========
Per share data:
Basic $1.02 $.86 $.77
========== ========== ==========
Diluted $.93 $.80 $.73
========== ========== ==========
</TABLE>
COMMONWEALTH BANKSHARES, INC.
CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME
FOR THE YEARS ENDED DECEMBER 31, 1998, 1997, AND 1996
<TABLE>
<CAPTION>
<S> <C>
1998 1997 1996
Net income $1,105,252 $929,965 $836,426
Other comprehensive income,
net of income tax:
Unrealized gains (losses)
on securities available for sale (54,292) 35,648 (35,905)
---------- ---------- ----------
Comprehensive income $1,050,960 $965,613 $800,521
</TABLE>
COMMONWEALTH BANKSHARES, INC.
CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY
FOR THE YEARS ENDED DECEMBER 31, 1998, 1997, and 1996
<TABLE>
<CAPTION>
<S> <C>
Accumulated
Additional Other
Common Paid-in Retained Comprehensive
Stock Capital Earnings Income (Loss) Total
Balance, December 31, 1995 $2,235,258 $3,715,666 $2,811,562 $7,900 $8,770,386
Net income - - 836,426 - 836,426
6% stock dividend -
53,398 shares 133,494 390,695 (526,626) - (2,437)
Net change in unrealized
loss on securities
available for sale - - - (35,905) (35,905)
---------- ---------- ---------- -------- ----------
Balance, December 31, 1996 2,368,752 4,106,361 3,121,362 (28,005) 9,568,470
Net income - - 929,965 - 929,965
6% stock dividend -
56,593 shares 141,483 430,107 (574,185) - (2,595)
Net change in unrealized
gain on securities
available for sale - - - 35,648 35,648
---------- ---------- ---------- -------- ----------
Balance, December 31, 1997 2,510,235 4,536,468 3,477,142 7,643 10,531,488
Net income - - 1,105,252 - 1,105,252
8% stock dividend -
80,059 shares 200,148 639,471 (842,322) - (2,703)
Net change in unrealized
loss on securities
available for sale - - - (54,292) (54,292)
--------- ---------- ---------- -------- ----------
Balance, December 31, 1998 $2,710,383 $5,175,939 $3,740,072 $(46,649) $11,579,745
========== ========== ========== ======== ===========
</TABLE>
COMMONWEALTH BANKSHARES, INC.
CONSOLIDATED STATEMENTS OF CASH FLOWS
FOR THE YEARS ENDED DECEMBER 31, 1998, 1997, 1996
<TABLE>
<CAPTION>
<S> <C>
1998 1997 1996
Operating activities:
Net income $1,105,252 $929,965 $836,426
Adjustments to reconcile
net income to net
cash from operating
activities:
Provision for loan losses 101,738 49,762 529
Depreciation and amortization 370,417 338,200 305,934
Other, net 133,279 78,099 (162,356)
Net change in:
Accrued interest receivable (55,545) (64,821) (101,709)
Accrued interest payable (22,772) 69,677 50,436
Other assets (616,565) (217,407) 195,185
--------- --------- ---------
Net cash from operating activities 1,015,804 1,183,475 1,124,445
Investing activities:
Purchase of securities
held to maturity (992,619) (3,098,544) (6,200,301)
Purchase of securities
available for sale (12,951,300) (8,251,207) (9,065,980)
Net purchase of premises
and equipment (782,043) (221,881) (342,582)
Net expenditures on
foreclosed real estate (157,811) (138,820) (257,771)
Net change in loans (13,465,516)(12,429,517) (5,423,798)
Proceeds from:
Maturities of securities
held to maturity 6,138,292 5,495,645 4,167,374
Sales and maturities of
securities available for sale 7,394,086 6,916,709 5,263,583
Sale of real estate acquired
in settlement of loans 670,000 302,534 2,629,900
----------- ----------- ---------
Net cash used in investing
Activities (14,146,911)(11,425,081) (9,229,575)
Financing activities:
Net change in:
Other time deposits 11,745,243 8,261,228 8,099,728
Demand,interest bearing
demand and savings deposits 3,664,522 2,236,368 (93,632)
Securities sold under
agreements to repurchase (276,343) (813,282) 1,282,873
Other (28,815) (28,707) (77,175)
----------- ---------- ----------
Net cash from financing activities 15,104,607 9,655,607 9,211,794
Net increase (decrease)
in cash and cash equivalents 1,973,500 (585,999) 1,106,664
Cash and cash equivalents,
January 1 10,788,384 11,374,383 10,267,719
----------- ---------- ----------
Cash and cash equivalents,
December 31 $12,761,884 $10,788,384 $11,374,383
=========== =========== ===========
Supplemental disclosure of cash
paid during the year for:
Interest $5,082,993 $4,340,315 $4,150,785
Income taxes 631,174 433,635 274,867
</TABLE>
Note 1 Summary of Significant Accounting Policies
The accounting and reporting policies of Commonwealth Bankshares, Inc.
(the Parent) and its subsidiary, Bank of the Commonwealth (the Bank) and its
subsidiary, BOC Title of Hampton Roads, Inc., are in accordance with
generally accepted accounting principles and conform to accepted practices
within the banking industry. A summary of significant accounting policies is
briefly described below.
Principles of Consolidation - The accompanying consolidated financial
statements include the accounts of the Parent and the Bank and its
subsidiary, collectively referred to as "the Company." All significant
intercompany balances and transactions have been eliminated in consolidation.
Nature of Operations - The Bank operates under a state bank charter and
provides full banking services, including trust services. As a state bank,
the Bank is subject to regulation of the Bureau of Financial Institutions and
the Federal Reserve System. The Bank serves Norfolk and Virginia Beach,
Virginia through its six banking offices.
Estimates - Management uses estimates and assumptions in preparing financial
statements. These estimates and assumptions affect the reported amounts of
assets and liabilities, the disclosure of contingent assets and liabilities
and the reported revenue and expenses.
Investment Securities - Investment securities which the Bank intends to hold
until maturity or until called are classified as held to maturity. These
investment securities are stated at cost, adjusted for amortization of
premiums and accretion of discounts.
Investment securities which the Bank intends to hold for indefinite periods
of time, including investment securities used as part of the Bank's
asset/liability management strategy, are classified as available for sale.
These investment securities are carried at fair value. Net unrealized gains
and losses, net of deferred income taxes, are excluded from earnings and
reported as accumulated other comprehensive income (loss).
Gains and losses on the sale of investment securities are determined using
the specific identification method.
Note 1 Summary of Significant Accounting Policies (Continued)
Loans Receivable - Loans receivable are intended to be held until maturity
and are shown on the balance sheet net of the allowance for loan losses.
Interest is computed by methods which generally result in level rates of
return on principal. Interest on past due and problem loans is accrued until
serious doubt arises as to the collectibility of the interest.
The Bank grants commercial, real estate, and consumer installment loans to
its customers. Collateral requirements for loans are determined on a loan by
loan basis depending upon the purpose of the loan and the financial condition
of the borrower. In the normal course of business, to meet the credit needs
of its customers, the Bank has made commitments to extend credit. These
commitments represent a credit risk which is not recognized in the balance
sheet. The Bank uses the same credit policies in making commitments as it does
for other loans. Commitments to extend credit are generally made for a
period of one year or less and interest rates are determined when funds are
disbursed. Collateral and other security for the loans are determined on a
case by case basis. Since some of the commitments are expected to expire
without being drawn upon, the contract or notional amounts do not necessarily
represent future cash requirements.
Allowance for Loan Losses - The allowance for loan losses is increased by
charges to income and decreased by charge-offs (net of recoveries).
Management's periodic evaluation of the adequacy of the allowance is based on
the Bank's past loan loss experience, known and inherent risks in the
portfolio, adverse situations that may affect the borrower's ability to
repay, the estimated value of any underlying collateral, and current economic
conditions.
Foreclosed Real Estate - Foreclosed real estate is stated at the lower of
cost or estimated fair market value of the property, less estimated disposal
costs, if any. Cost includes loan principal and accrued interest. Any
excess of cost over the estimated fair market value at the time of
acquisition is charged to the allowance for loan losses. The estimated fair
market value is reviewed periodically by management and any write-downs are
charged against current earnings.
Premises and Equipment - Premises and equipment are stated at cost less
accumulated depreciation. Deprecation is computed generally by the
straight-line method. It is the Company's policy to capitalize additions and
improvements and amortize the cost thereof over the estimated useful lives as
follows:
Buildings and improvements 5 to 40 years
Furniture and equipment 3 to 10 years
Note 1 Summary of Significant Accounting Policies (Continued)
Income Taxes - Deferred tax assets and liabilities are reflected at currently
enacted income tax rates applicable to the period in which the deferred tax
assets or liabilities are expected to be realized or settled. As changes in
tax laws on rates are enacted, deferred tax assets and liabilities are
adjusted through the provision for income taxes.
Per Share Data - In February 1997 the FASB issued Statement No. 128,
"Earnings per Share," which established standards for computing and
presenting earnings per share information. The Company adopted this new
accounting standard as of December 31, 1997 and there was no material
impact on the consolidated financial statements.
Basic earnings per share is computed by dividing net income by the weighted
average number of shares of common stock outstanding. Diluted earnings per
share is computed by dividing net income by the weighted average common and
potential dilutive common equivalent shares outstanding, determined as
follows:
<TABLE>
<CAPTION>
<S> <C>
1998 1997 1996
Weighted average shares
outstanding used to compute
basic earnings per share 1,084,153 1,084,153 1,084,153
Incremental shares issuable
upon the assumed exercise of
stock options 103,919 82,899 65,064
--------- --------- ---------
Shares used to compute
diluted earnings per share 1,188,072 1,167,052 1,149,217
========= ========= =========
</TABLE>
Earnings per share for 1997 and 1996 have been restated to reflect an 8%
stock dividend that was paid on April 28, 1998.
Financial Instruments - In the ordinary course of business the Bank has
entered into off-balance sheet financial instruments consisting of
commitments to extend credit, commitments under credit card arrangements,
commercial letters of credit, and standby letters of credit. Such financial
instruments are recorded in the financial statements when they are funded or
related fees are incurred or received.
Note 1 Summary of Significant Accounting Policies (Continued)
Fair Value of Financial Instruments - The carrying value of cash and cash
equivalents, accrued interest receivable, demand deposits, savings deposits,
and short-term borrowings approximates fair value. The fair value of
securities is based on quoted market prices. The remainder of the recorded
financial instruments were valued based on the present value of estimated
future cash flows, discounted at various rates in effect for similar
instruments at year end.
Fair values for off-balance sheet lending commitments approximate the
contract or notional value taking into account the remaining terms of the
agreements and the counterparties' credit standings.
Cash and Cash Equivalents - For purposes of the consolidated statements of
cash flows, cash and cash equivalents includes cash and due from banks and
federal funds sold.
Reclassifications - Certain prior year amounts have been reclassified to
conform to the 1998 presentation. These reclassifications have no effect on
previously reported net income.
Note 2 Concentrations of Credit Risk
At December 31, 1998, the Bank's cash and due from banks included one
commercial bank deposit account aggregating $4,235,437 in excess of the
Federal Deposit Insurance Corporation limit of $100,000 per institution.
Note 3 Investment Securities
The carrying and market values of investment securities are as follows:
<TABLE>
<CAPTION>
<S> <C>
Carrying Unrealized Unrealized Market
Amount Gains Losses Value
December 31, 1998
Available for sale:
U.S. Government and agency
Securities $3,502,101 $13,305 $11,510 $3,503,896
Mortgage-backed securities 8,778,983 25,574 68,973 8,735,584
State and municipal securities 4,618,427 12,978 42,054 4,589,351
Other equities 503,678 - - 503,678
---------- ------- ------- ----------
$17,403,189 $51,857 $122,537 $17,332,509
=========== ======= ======== ===========
Held to maturity:
U.S. Government and agency
Securities $1,071,938 $2,215 $57,010 $1,017,143
Mortgage-backed securities 2,813,503 10,522 23,472 2,800,553
State and municipal securities 1,780,392 35,839 - 1,816,231
---------- ------- ------- ----------
$5,665,833 $48,576 $80,482 $5,633,927
========== ======= ======= ==========
December 31, 1997
Available for sale:
U.S. Government and agency
Securities $4,950,654 $10,661 $300 $4,961,015
Mortgage-backed securities 6,045,988 19,869 33,660 6,032,197
State and municipal securities 673,835 15,011 - 688,846
Other equities 151,678 - - 151,678
---------- ------- ------- ----------
$11,822,155 $45,541 $33,960 $11,833,736
========== ======= ======= ==========
Held to maturity:
U.S. Government and agency
Securities $4,921,265 $11,508 $117,897 $4,814,876
Mortgage-backed securities 4,132,456 39,516 63,471 4,108,501
State and municipal securities 1,776,521 18,399 651 1,794,269
---------- ------- ------- ----------
$10,830,242 $69,423 $182,019 $10,717,646
========== ======= ======= ==========
</TABLE>
Note 3 Investment Securities (Continued)
A maturity schedule of investment securities as of December 31, 1998 is as
follows:
<TABLE>
<CAPTION>
<S> <C>
Available for Sale Held to Maturity
Carrying Market Carrying Market
Amount Value Amount Value
Due:
In one year or less $ - $ - $86,803 $86,043
After one year through
five years - - 1,913,086 1,870,025
After five years through
ten years 2,783,584 2,796,864 452,441 470,994
After ten years 5,336,944 5,296,383 400,000 406,312
--------- --------- --------- ---------
8,120,528 8,093,247 2,852,330 2,833,374
Mortgage-backed securities 8,778,983 8,735,584 2,813,503 2,800,553
Equity securities 503,678 503,678 - -
--------- --------- --------- ---------
$17,403,189 $17,332,509 $5,665,833 $5,633,927
========== ========== ========= =========
</TABLE>
Securities with a carrying value of $10,472,897 and $12,816,353 and market
value of $10,381,425 and $12,704,594 at December 31, 1998 and 1997,
respectively, were pledged as collateral to secure public deposits and for
other purposes.
Note 4 Loans Receivable
Although the Bank has a diversified loan portfolio, a substantial portion of
the borrowers' ability to honor their contracts is dependent upon the
commercial real estate operators and hotel/motel sectors. The majority of
these loans are collateralized by a deed of trust on real estate. The
approximate outstanding balances of loans in these sectors are as follows:
<TABLE>
<CAPTION>
<S> <C>
December 31,
1998 1997
Commercial real estate operators $13,700,000 $10,300,000
Hotel/motel 6,800,000 3,100,000
</TABLE>
A summary of transactions in the allowance for loan losses follows:
<TABLE>
<CAPTION>
<S> <C>
1998 1997 1996
Balance at beginning of year $969,000 $932,000 $1,256,000
Provision charged to operating expense 101,738 49,762 529
Loan charge-offs (105,218) (30,576) (338,106)
Loan recoveries 3,480 17,814 13,577
-------- -------- ----------
Balance at end of year $969,000 $969,000 $932,000
</TABLE>
Note 5 Premises and Equipment
Premises and equipment are summarized as follows:
<TABLE>
<CAPTION>
<S> <C>
December 31,
1998 1997
Land $263,802 $185,918
Buildings and improvements 1,612,422 1,448,789
Leasehold improvements 338,576 310,757
Furniture and equipment 2,997,073 2,549,101
Construction in progress 71,398 23,474
--------- ---------
5,283,271 4,518,039
Less accumulated depreciation 2,541,256 2,192,362
--------- ---------
$2,742,015 $2,325,677
========= =========
</TABLE>
Note 6 Deposits
The aggregate amount of time deposits with minimum denominations of $100,000,
was approximately $15,636,000 and $8,173,000 at December 31, 1998 and 1997,
respectively.
At December 31, 1998, the scheduled maturities of certificate of deposits
included in other time deposits on the balance sheet are as follows:
1999 $37,784,311
2000 21,682,976
2001 2,525,714
2002 2,778,754
2003 7,106,164
Thereafter 22,571
-----------
$71,900,490
===========
Note 7 Dividend Limitations
Dividends may be paid to the Parent by the Bank under formulas established by
the appropriate regulatory authorities. These formulas contemplate that the
current earnings and earnings retained for the two preceding years may be
paid to the Parent without regulatory approval. In 1999, the Bank can
initiate dividend payments without said regulatory approvals of approximately
$2,043,000 plus an additional amount equal to the Bank's net earnings for
1999 up to the date of any such dividend declaration. Substantially all of
the retained earnings of the Parent are represented by undistributed
earnings of the Bank.
Note 8 Short-Term Borrowings
Securities sold under agreements to repurchase generally mature within one to
three days from the transaction date. The maximum amount outstanding at the
end of a month was $3,948,091 and $4,359,253 during 1998 and 1997,
respectively. The average daily balance was $2,853,812 and $3,164,985 during
1998 and 1997, respectively. The securities underlying these agreements were
under the Bank's control.
Note 9 Income Taxes
The current and deferred components of income tax expense are as follows:
<TABLE>
<CAPTION>
<S> <C>
1998 1997 1996
Current $563,490 $492,714 $258,031
Deferred (81,151) (65,022) 106,233
------- ------- -------
Provision for income taxes $482,339 $427,692 $364,264
======= ======= =======
</TABLE>
A reconciliation between the provision for income taxes and the amount
computed by multiplying income by the current statutory 34% federal income
tax rate is as follows:
<TABLE>
<CAPTION>
<S> <C>
1998 1997 1996
Income tax expense at statutory rates $539,781 $461,603 $408,234
Increase (decrease) due to:
Tax exempt income (61,303) (42,684) (53,221)
Other 3,861 8,773 9,251
------- ------- -------
Provision for income taxes $482,339 $427,692 $364,264
======= ======= =======
</TABLE>
Deferred income taxes result from timing differences between taxable income
and the income for financial reporting purposes. The only significant timing
difference relates to the provision for loan losses.
The net deferred tax asset consists of the following:
December 31,
1998 1997
Deferred tax asset $705,173 $602,171
Deferred tax liability (152,754) (158,873)
------- -------
Net deferred tax asset $552,419 $443,298
======= =======
Note 10 Related Parties
During the year, officers, directors, principal stockholders, and their
affiliates (related parties) were customers of and had transactions with the
Bank in the ordinary course of business. In management's opinion these
transactions were made on substantially the same terms as those prevailing
for other customers for comparable transactions and did not involve more than
normal risks. Loan activity to related parties is as follows:
1998 1997
Beginning of year $2,553,484 $2,601,252
Additional borrowings 1,476,197 518,157
Curtailments (1,536,455) (565,925)
--------- ---------
End of year $2,493,226 $2,553,484
Note 11 Regulatory Matters
The Bank is subject to various regulatory capital requirements administered
by the federal banking agencies. Failure to meet minimum capital
requirements can initiate certain mandatory - and possibly additional
discretionary - actions by regulators that, if undertaken, could have a direct
material effect on the Bank's financial statements. Under capital adequacy
guidelines and the regulatory framework for prompt corrective action, the
Bank must meet specific capital guidelines that involve quantitative measures
of the Bank's assets, liabilities, and certain off-balance sheet items
as calculated under regulatory accounting practices. The Bank's capital
amounts and classification are also subject to qualitative judgments by the
regulators about components, risk weightings, and other factors.
Quantitative measures established by regulation to ensure capital adequacy
require the Bank 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, 1998,
that the Bank meets all capital adequacy requirements to which it is subject.
Note 11 Regulatory Matters (Continued)
As of December 31, 1998, the most recent notification from the Federal
Reserve Bank categorized the Bank as well capitalized under the regulatory
framework for prompt corrective action. To be categorized as well capitalized
the Bank 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 that notification that management believes have changed the
institution's category.
The Bank's actual capital amounts and ratios are also presented below.
<TABLE>
<CAPTION>
<S> <C>
For Capital To Be Well
Actual Adequacy Purposes Capitalized
Amount Ratio Amount Ratio Amount Ratio
As of December 31, 1998:
Total capital (to risk
weighted assets) $12,367,000 12.8% > $7,741,000 > 8.0% > $9,676,000 >10.0%
Tier I capital (to risk
weighted assets) 11,398,000 11.8% > 3,870,000 > 4.0% > 5,806,000 > 6.0%
Tier I capital (to average
assets) 11,398,000 8.7% > 5,232,000 > 4.0% > 6,540,000 > 5.0%
As of December 31, 1997:
Total capital (to risk
weighted assets) $11,257,000 13.7% > $6,567,000 > 8.0% > $8,208,000 >10.0%
Tier I capital (to risk
weighted assets) 10,288,000 12.5% > 3,283,000 > 4.0% > 4,925,000 > 6.0%
Tier I capital (to average
assets) 10,288,000 9.0% > 4,588,000 > 4.0% > 5,735,000 > 5.0%
</TABLE>
Note 12 Disclosures About Fair Value of Financial Instruments
Fair value and the carrying value of the Bank's recorded financial
instruments are as follows (in thousands):
<TABLE>
<CAPTION>
<S> <C>
December 31, 1998 December 31, 1997
Carrying Fair Carrying Fair
Amount Value Amount Value
Cash and cash equivalents $12,718 $12,718 $10,712 $10,712
Investment securities 22,998 22,965 22,664 22,552
Net loans 90,235 92,934 76,933 78,209
Deposits 116,280 118,356 100,999 101,710
Securities sold not owned 2,484 2,484 2,760 2,760
Long-term debt 557 535 583 536
</TABLE>
The contract or notional amount of financial instruments with off-balance
sheet risk are as follows:
<TABLE>
<CAPTION>
<S> <C>
December 31,
1998 1997
Commitments to extend credit $12,983,891 $8,508,211
Standby letters of credit 568,456 352,968
</TABLE>
Note 13 Year 2000 Statement
The Bank has considered the impact of the Year 2000 issues on the Bank's
computer systems and applications and developed a remediation plan.
Conversion activities are in process, and conversion and testing are
substantially complete as of December 31, 1998, and expected to be fully
complete by March 31, 1999.
Specifically, the bank has a Year 2000 Committee, consisting of the bank's
Corporate Officers, representing all areas of the Bank. The Committee
regularly reports to and has the complete support of the Board of Directors.
The Committee has taken the following approach for Year 2000 compliance:
* An inventory and analysis of the various systems have been performed.
Mission-critical systems have been identified.
* Non-compliant systems have been corrected through renovation or replacement.
* As of December 31, 1998, replacement and renovation has cost $98,550.
Additional expenditures of approximately $12,000 are expected to complete
the project.
* Working with vendors and significant customers has determined that their
systems will be Year 2000 compliant within an appropriate time frame.
* Contingency plans have been established to address business continuity on
January 1, 2000. Plans include a combination of alternative methods to
perform a job, including manual procedures and incorporating the Bank's
existing disaster recovery plans.
The Bank is dedicated to ensure that all systems are fully tested and
compliant, and that January 1, 2000 will be uneventful.
Note 14 Parent Company Only Financial Information
COMMONWEALTH BANKSHARES, INC.
(PARENT COMPANY ONLY)
BALANCE SHEETS
DECEMBER 31, 1998 AND 1997
<TABLE>
<CAPTION>
<S> <C>
ASSETS
1998 1997
Cash on deposit with subsidiary $104,197 $238,353
Investment in subsidiary 11,351,747 10,296,571
Due from subsidiary 2,172 -
Premises (net of accumulated depreciation of $1,411) 121,629 -
---------- ----------
$11,579,745 $10,534,924
========== ==========
LIABILITIES AND STOCKHOLDERS' EQUITY
Due to subsidiary $ - $ 3,436
Total stockholders' equity 11,579,745 10,531,488
---------- ----------
$11,579,745 $10,534,924
========== ==========
</TABLE>
Note 14 Parent Company Only Financial Information (Continued)
COMMONWEALTH BANKSHARES, INC.
(PARENT COMPANY ONLY)
<TABLE>
<CAPTION>
<S> <C>
STATEMENTS OF INCOME
FOR THE YEARS ENDED DECEMBER 31, 1998, 1997, AND 1996
1998 1997 1996
Income:
Rental income $2,000 $ - $ -
----- ----- -----
Total income 2,000 - -
Expenses:
Legal expense 4,277 3,539 2,719
Other 4,111 1,667 1,100
----- ----- -----
Total expenses 8,388 5,206 3,819
----- ----- -----
Loss before income taxes and
equity in undistributed net
income of subsidiary
(6,388) (5,206) (3,819)
Income tax benefits 2,172 1,770 1,298
----- ----- -----
Loss before equity in
undistributed net income
of subsidiary (4,216) (3,436) (2,521)
Equity in undistributed net
income of subsidiary 1,109,468 933,401 838,947
--------- -------- --------
Net income $1,105,252 $929,965 $836,426
========= ======= =======
</TABLE>
Note 14 Parent Company Only Financial Information (Continued)
COMMONWEALTH BANKSHARES, INC.
(PARENT COMPANY ONLY)
<TABLE>
<CAPTION>
<S> <C>
STATEMENTS OF CASH FLOWS
FOR THE YEARS ENDED DECEMBER 31, 1998, 1997, AND 1996
1998 1997 1996
Operating activities:
Net income $1,105,252 $929,965 $836,426
Adjustments to reconcile net
income to net cash used in
operating activities:
Depreciation 1,411 - -
Equity in undistributed net
income of subsidiary (1,109,468) (933,401) (838,946)
Increase in amount
due from subsidiary (2,172) - -
Increase (decrease) in
amount due to subsidiary (3,436) 914 (2,684)
--------- -------- --------
Net cash used in
operating activities (8,413) (2,522) (5,204)
Investing activity:
Purchase of premises (123,040) - -
Financing activity:
Dividends paid (2,703) (2,595) (2,437)
--------- -------- --------
Net decrease in cash on
deposit with subsidiary (134,156) (5,117) (7,641)
Cash on deposit with
subsidiary, January 1 238,353 243,470 251,111
--------- -------- --------
Cash on deposit with
subsidiary, December 31 $104,197 $238,353 $243,470
</TABLE>
