UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
---------------------
FORM 10-Q
QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d)
OF THE SECURITIES EXCHANGE ACT OF 1934
For the quarterly period ended
September 30, 1998
---------------------
Commission File Number 001-14070
PIEDMONT BANCORP, INC.
(Exact Name of Registrant as Specified in its Charter)
North Carolina 56-1936232
-------------- ----------
(State or Other Jurisdiction of (I.R.S. Employer
Incorporation or Organization) Identification Number)
260 South Churton Street, Hillsborough, NC 27278
- ------------------------------------------ -----
(Address of Principal Executive Offices) (Zip Code)
(Registrant's telephone number, including area code) (919) 732-2143
--------------
Indicate by check mark whether the registrant (1) has filed all reports
required to be filed by Section 13 or 15(d) of the Securities Exchange Act of
1934 during the preceding 12 months (or for such shorter period that the
registrant was required to file such reports), and (2) has been subject to such
filing requirements for the past 90 days.
[ X ] Yes [ ] No
As of November 3, 1998, 2,661,133 shares of the registrant's common stock, no
par value, were outstanding. The registrant has no other classes of securities
outstanding.
<PAGE>
Part I. FINANCIAL INFORMATION
Item 1 - Financial Statements
<TABLE>
<CAPTION>
PIEDMONT BANCORP, INC. AND SUBSIDIARY
CONSOLIDATED BALANCE SHEETS
September 30, June 30,
1998 1998
(unaudited) *
--------- ---------
(in thousands, except shares)
<S> <C> <C>
Assets
------
Cash $ 828 $ 823
Interest-bearing deposits in other financial institutions 1,561 1,821
Investment securities:
Available-for-sale 14,590 13,775
Held-to-maturity 3,215 3,250
Loans receivable (net of allowance for loan losses of $1,005 and
$951 at September 30, 1998 and June 30, 1998, respectively) 102,801 106,500
Federal Home Loan Bank stock, at cost 1,152 1,152
Premises and equipment 1,440 1,414
Prepaid expenses and other assets 2,020 1,806
--------- ---------
Total assets $ 127,607 $ 130,541
========= =========
Liabilities and Stockholders' Equity
------------------------------------
Liabilities
-----------
Deposits:
Demand, non-interest bearing 2,449 2,844
Savings, NOW and MMDA 31,895 32,800
Certificates of Deposit 54,767 54,196
--------- ---------
89,111 89,840
Advances from the Federal Home Loan Bank 15,929 18,000
Accrued expenses and other liabilities 1,320 1,095
--------- ---------
Total liabilities 106,360 108,935
--------- ---------
<PAGE>
<CAPTION>
PIEDMONT BANCORP, INC. AND SUBSIDIARY
CONSOLIDATED BALANCE SHEETS
September 30, June 30,
1998 1998
(unaudited) *
--------- ---------
(in thousands, except shares)
<S> <C> <C>
Stockholders' Equity
--------------------
Preferred stock, no par value, 5,000,000 shares authorized;
none issued -- --
Common stock, no par value, 20,000,000 shares authorized; 2,687,633 and
2,750,800 shares issued and outstanding at September 30, 1998 and June
30, 1998, respectively 8,495 9,121
Unearned ESOP shares (620) (679)
Unamortized deferred compensation (864) (953)
Unallocated restricted stock (87) (61)
Retained earnings, substantially restricted (note 6) 14,201 14,101
Accumulated other comprehensive income 122 77
--------- ---------
Total stockholders' equity 21,247 21,606
--------- ---------
Total liabilities and stockholders' equity $ 127,607 $ 130,541
========= =========
</TABLE>
* Derived from audited financial statements
See accompanying notes to consolidated financial statements.
<PAGE>
<TABLE>
<CAPTION>
PIEDMONT BANCORP, INC. AND SUBSIDIARY
CONSOLIDATED STATEMENTS OF INCOME (unaudited)
Three Months Ended
September 30,
-----------------
1998 1997
------ ------
(in thousands, except per share data)
<S> <C> <C>
Interest income:
Interest on loans $2,299 $2,187
Interest on deposits in other financial institutions 22 16
Interest and dividends on investment securities:
Taxable 233 203
Non-taxable 48 48
------ ------
Total interest income 2,602 2,454
------ ------
Interest expense:
Interest on deposits 1,042 993
Interest on borrowings 271 266
------ ------
Total interest expense 1,313 1,259
------ ------
Net interest income 1,289 1,195
Provision for loan losses 24 24
------ ------
Net interest income after provision for loan losses 1,265 1,171
------ ------
Other income:
Customer service and other fees 51 52
Mortgage loan servicing fees 6 21
Gain on sale of investment securities -- 6
Lower-of-cost or market adjustment on loans held-for-sale -- 33
Gain on sale of loans 40 --
Stock and mutual fund commissions 24 --
Other 30 25
------ ------
Total other income 151 137
------ ------
<PAGE>
<CAPTION>
PIEDMONT BANCORP, INC. AND SUBSIDIARY
CONSOLIDATED STATEMENTS OF INCOME (unaudited)
Three Months Ended
September 30,
-----------------
1998 1997
------ ------
(in thousands, except per share data)
<S> <C> <C>
Other expenses:
Compensation and fringe benefits (note 5) 457 423
Data and items processing 87 55
Deposit insurance premiums 13 13
Occupancy expense 26 25
Furniture and equipment expense 43 25
Professional fees 43 37
Other 114 93
------ ------
Total other expenses 783 671
------ ------
Income before income tax expense 633 637
Income tax expense 219 223
------ ------
Net income $ 414 $ 414
====== ======
Net income per share - basic (notes 2 and 7) $ 0.15 $ 0.15
====== ======
Net income per share - diluted (notes 2 and 7) $ 0.15 $ 0.15
====== ======
</TABLE>
See accompanying notes to consolidated financial statements.
<PAGE>
<TABLE>
<CAPTION>
PIEDMONT BANCORP, INC. AND SUBSIDIARY
CONSOLIDATED STATEMENTS OF CASH FLOWS
Three months ended
September 30,
1998 1997
------- -------
<S> <C> <C>
Operating activities:
Net income $ 414 $ 414
Adjustments to reconcile net income to net cash
provided by operating activities:
Depreciation 39 25
Net amortization (accretion) 13 26
Provision for loan losses 24 24
Net gain on sale of investments and mortgage-backed securities -- (6)
Gain on sale of loans (40) --
Release of ESOP shares 45 62
Compensation earned under MRP 63 65
Net decrease (increase) in mortgage loans held for sale (880) (609)
Increase in other assets (251) (326)
Increase in other liabilities 235 330
------- -------
Net cash provided by operating activities (338) 5
------- -------
Investing activities:
Net (increase) decrease in loans held for investment 4,607 (3,519)
Principal collected on mortgage-backed securities 290 95
Purchases of investment securities classified as available-for-sale (500) (2,782)
Purchases of mortgage-backed securities classified as available-for-sale (782) --
Proceeds from investment securities called by issuer 280 10
Proceeds of sales of mortgage-backed-securities classified as available-for-sale -- 1,508
Purchases of Federal Home Loan Bank stock -- (58)
Purchases of premises and equipment (65) (2)
------- -------
Net cash used by investing activities 3,830 (4,748)
------- -------
Financing activities:
Net increase (decrease) in time deposits 571 (685)
Net increase (decrease) in other deposits (1,300) 717
Proceeds from borrowings -- 6,050
Repayments of borrowings (2,071) (3,000)
Purchase and retirement of common stock (623) --
Cash dividends paid to shareholders (324) (263)
------- -------
Net cash provided by financing activities (3,747) 2,819
------- -------
Increase (decrease) in cash and cash equivalents (255) (1,924)
Cash and cash equivalents at beginning of period 2,644 4,645
------- -------
Cash and cash equivalents at end of period $ 2,389 $ 2,721
======= =======
<PAGE>
<CAPTION>
PIEDMONT BANCORP, INC. AND SUBSIDIARY
CONSOLIDATED STATEMENTS OF CASH FLOWS
Three months ended
September 30,
1998 1998
------- -------
<S> <C> <C>
Supplemental disclosure of cash flow information:
Cash paid during the period for:
Interest $ 1,287 $ 1,235
======= =======
Income taxes $ 59 $ 45
======= =======
Supplemental disclosure of noncash transactions:
Unrealized gains (losses) on available-for-sale securities,
net of deferred taxes of $79 and $53 $ 122 $ 83
======= =======
Dividends declared but unpaid 314 263
======= =======
</TABLE>
See accompanying notes to financial statements.
<PAGE>
<TABLE>
<CAPTION>
PIEDMONT BANCORP, INC. AND SUBSIDIARY
STATEMENTS OF CONSOLIDATED STOCKHOLDERS' EQUITY (unaudited)
Unearned Unamortized Unallocated
Shares Common ESOP Deferred Restricted Retained
Outstanding Stock Shares Compensation Stock Earnings
--------- ------ ----- ------- ----- -------
(dollars in thousands)
<S> <C> <C> <C> <C> <C> <C>
Balance at June 30, 1997 2,750,800 $9,143 $(933) $(1,269) $ (21) $13,580
Net income -- -- -- -- -- 414
Release of ESOP shares -- (12) 74 -- -- --
Amortization of unearned compensation -- -- -- 65 -- --
Forfeiture of restricted stock -- -- -- 37 (37) --
Tax benefit of dividends on restricted stock -- (3) -- -- -- --
Cash dividends declared, net of
forfeited dividends on restricted stock -- 17 -- -- -- (263)
Change in unrealized holding gains (losses),
net of income taxes -- -- -- -- -- --
--------- ------ ----- ------- ----- -------
Balance at September 30, 1997 2,750,800 $9,145 $(859) $(1,167) $ (58) $13,731
========= ====== ===== ======= ===== =======
Balance at June 30, 1998 2,750,800 $9,121 $(679) $ (953) $ (61) $14,101
Net income -- -- -- -- -- 414
Purchase and retirement of common stock (63,167) (623) -- -- -- --
Release of ESOP shares -- (14) 59 -- -- --
Amortization of unearned compensation -- -- -- 63 -- --
Forfeiture of restricted stock -- -- -- 26 (26) --
Tax benefit of dividends on restricted stock -- (1) -- -- -- --
Cash dividends declared, net of
forfeited dividends on restricted stock -- 12 -- -- -- (314)
Change in unrealized holding gains (losses),
net of income taxes -- -- -- -- -- --
--------- ------ ----- ------- ----- -------
Balance at September 30, 1998 2,687,633 $8,495 $(620) $ (864) $ (87) $14,201
========= ====== ===== ======= ===== =======
<PAGE>
<CAPTION>
PIEDMONT BANCORP, INC. AND SUBSIDIARY
STATEMENTS OF CONSOLIDATED STOCKHOLDERS' EQUITY (unaudited)
Accumulated
other Total
comprehensive Stockholders'
income Equity
----- -------
<S> <C> <C>
Balance at June 30, 1997 $ (84) $20,416
Net income -- 414
Release of ESOP shares -- 62
Amortization of unearned compensation -- 65
Forfeiture of restricted stock -- --
Tax benefit of dividends on restricted stock -- (3)
Cash dividends declared, net of
forfeited dividends on restricted stock -- (246)
Change in unrealized holding gains (losses),
net of income taxes 83 83
----- -------
Balance at September 30, 1997 $ (1) $20,791
===== =======
Balance at June 30, 1998 $ 77 $21,606
Net income -- 414
Purchase and retirement of common stock -- (623)
Release of ESOP shares -- 45
Amortization of unearned compensation -- 63
Forfeiture of restricted stock -- --
Tax benefit of dividends on restricted stock -- (1)
Cash dividends declared, net of
forfeited dividends on restricted stock -- (302)
Change in unrealized holding gains (losses),
net of income taxes 45 45
----- -------
Balance at September 30, 1998 $ 122 $21,247
===== =======
</TABLE>
See accompanying notes to consolidated financial statements.
<PAGE>
PIEDMONT BANCORP, INC. and SUBSIDIARY
Notes to Consolidated Financial Statements
1) Organization and Operations
Piedmont Bancorp, Inc., ("the Parent") is a bank holding company, formed in
December 1995, which owns all of the outstanding common stock of
Hillsborough Savings Bank, Inc. SSB ("the Bank"). The Bank amended and
restated its charter to effect its conversion from a North Carolina
chartered mutual savings bank to a North Carolina chartered stock savings
bank in December 1995. The Bank is primarily engaged in the business of
obtaining deposits and providing loans to the general public. The principal
activity of the Parent is ownership of the Bank.
2) Basis of Presentation
The consolidated financial statements include the accounts of the Parent and
the Bank, together referred to as "the Company". All significant
intercompany transactions and balances are eliminated in consolidation. The
preparation of financial statements in conformity with generally accepted
accounting principles requires management to make estimates and assumptions
that affect the reported amounts of assets and liabilities and disclosure of
contingent assets and liabilities as of the date of the balance sheets and
the reported amounts of income and expenses for the periods presented.
Actual results could differ significantly from those estimates. In
management's opinion, the financial information, which is unaudited,
reflects all adjustments (consisting solely of normal recurring adjustments)
necessary for a fair presentation of the financial information as of
September 30, 1998 and for the three month periods ending September 30, 1998
and September 30, 1997 in conformity with generally accepted accounting
principles. Operating results for the three month period ending September
30, 1998 are not necessarily indicative of the results that may be expected
for the fiscal year ending June 30, 1999.
3) Cash and Cash Equivalents
For purposes of reporting cash flows, the Company considers cash and
interest-bearing deposits in other financial institutions with original
maturities of three months or less to be cash equivalents.
4) Comprehensive Income
On July 1, 1998, the Company adopted Statement of Financial Accounting
Standards No. 130 ("SFAS 130"), "Reporting Comprehensive Income". SFAS 130
establishes standards for reporting and displaying comprehensive income and
its components (revenues, expenses, gains, and losses) in a full set of
general-purpose financial statements. This Statement requires that an
enterprise (a) classify items of other comprehensive income by their nature
in the financial statement and (b) display the accumulated balance of other
comprehensive income separately from retained earnings and additional
paid-in-capital in the equity section of a statement of financial position.
In accordance with the provisions of SFAS No. 130, comparative financial
statements presented for earlier periods have been reclassified to reflect
the provisions of the statement.
<PAGE>
PIEDMONT BANCORP, INC. and SUBSIDIARY
Notes to Consolidated Financial Statements
Comprehensive income is the change in equity of an enterprise during the
period from transactions and other events and circumstances from nonowner
sources and , accordingly, includes both net income and amounts referred to
as other comprehensive income. The Company's other comprehensive income for
the three months ended September 30, 1998 consisted of unrealized gains and
losses on certain investments in debt securities. Comprehensive income for
the three months ended September 30, 1998 and 1997 amounted to $459,000 and
$497,000, respectively.
5) Employee and Director Benefit Plans
The Company has an employee stock ownership plan ("ESOP") whereby an
aggregate number of shares amounting to 211,600 were purchased for future
allocation to employees. Contributions to the ESOP are made by the Bank on a
discretionary basis, and are allocated among ESOP participants on the basis
of relative compensation in the year of allocation. Benefits will vest in
full upon five years of service with credit given for years of service prior
to the conversion. The ESOP was funded by a $40,000 cash contribution from
the Bank in December 1995 and a loan from the Parent in the amount of
$2,690,677. The loan is secured by shares of stock purchased by the ESOP and
is not guaranteed by the Bank. Principal and interest payments on this loan
are funded primarily from discretionary contributions by the Bank.
Dividends, if any, paid on shares held by the ESOP may also be used to
reduce the loan. Dividends on unallocated shares which are used to repay
debt are not reported as dividends in the consolidated financial statements
but rather are recorded as an element of compensation expense. Dividends on
allocated shares are credited to the accounts of the participants and
reported as dividends in the consolidated financial statements. For the
three month period ending September 30, 1998 and 1997, ESOP-related
compensation expense totaled $45,000 and $62,000, respectively.
Additionally, in December of 1997, 19,918 shares were released to individual
participant accounts. At September 30, 1998, a total of 148,837 shares have
been released and allocated to participants under the Plan and 62,763 shares
remain unallocated.
The Bank has a management recognition plan ("MRP") which serves as a means
of providing existing directors and employees of the Bank with an ownership
interest in the Company. On August 29, 1996, restricted stock awards of
105,800 shares were made to 38 directors, officers, and employees of the
Bank. The shares awarded under the MRP were issued from authorized but
unissued shares of common stock at no cost to recipients. The shares granted
vest at a rate of 20% each year on the anniversary of the initial award of
shares so that the shares will be completely vested at the end of five
years. During the first three months of
<PAGE>
PIEDMONT BANCORP, INC. and SUBSIDIARY
Notes to Consolidated Financial Statements
fiscal 1999, one MRP participant forfeited 1,719 restricted, non-vested
shares of the Company's stock and $12,000 of dividends previously paid to
the participant on the restricted shares. The dividends refunded to the Bank
have been reflected as an addition to common stock. The shares forfeited
during the three months ended September 30, 1998, combined with shares
previously forfeited, leaves 5,778 restricted shares unallocated under the
MRP. Compensation expense of $63,000 and $65,000 was recorded during the
three months ended September 30, 1998 and 1997, respectively.
6) Regulatory Restrictions
At the time of conversion, the Bank established a liquidation account in an
amount equal to its net worth at June 30, 1995. The liquidation account will
be maintained for the benefit of eligible deposit account holders who
continue to maintain their deposit accounts in the Bank after conversion.
Only in the event of a complete liquidation will each eligible deposit
account holder be entitled to receive a liquidation distribution from the
liquidation account in the amount of the current adjusted subaccount balance
for deposit accounts then held before any liquidation distribution may be
made with respect to common stock. Dividends paid subsequent to the
conversion cannot be paid from this liquidation account.
The Bank may not declare or pay a cash dividend on or repurchase any of its
common stock if its net worth would thereby be reduced below either the
aggregate amount then required for the liquidation account or the minimum
regulatory capital requirements imposed by federal and state regulations. In
addition, for a period of five years after the conversion, the Bank will be
required, under existing North Carolina regulations, to obtain prior written
approval of the Administrator before it can declare and pay a cash dividend
on its capital stock in an amount in excess of one-half of the greater of
(i) its net income for the most recent fiscal year, or (ii) the average of
its net income after dividends for the most recent fiscal year and not more
than two of the immediately preceding fiscal years, if applicable. As a
result of this limitation, the Bank cannot pay a dividend without the
approval of the Administrator.
Management is not aware of any other trends, events, uncertainties, or
current recommendations by regulatory authorities that will have or that are
reasonably likely to have a material effect on the Company's liquidity,
capital resources, or other operations.
<PAGE>
PIEDMONT BANCORP, INC. and SUBSIDIARY
Notes to Consolidated Financial Statements
7) Earnings per Share
Basic net income per share, or basic EPS, is computed by dividing net income
by the weighted average number of common shares outstanding for the period.
ESOP shares that are unallocated and are not committed to be released are
not included in weighted average shares outstanding. Diluted EPS reflects
the potential dilution that could occur if the Company's dilutive stock
options were exercised. The numerator of the basic EPS computation is the
same as the numerator of the diluted EPS computation for all periods
presented. A reconciliation of the denominators of the basic and diluted EPS
computations is as follows:
<TABLE>
<CAPTION>
Three months ended
September 30,
------------------------
1998 1997
---- ----
<S> <C> <C>
Basic EPS denominator: weighted average
number of common shares outstanding 2,684,045 2,713,220
Dilutive effect of stock options 9,738 -
--------- ---------
Diluted EPS denominator 2,693,783 2,713,220
========= =========
</TABLE>
<PAGE>
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS
Comparison of Results of Operations for the Three Months Ended
September 30, 1998 and 1997
Summary
- -------
For the quarter ended September 30, 1998, the Company recorded net income of
$414,000, or $0.15 per share, compared to $414,000, or $0.15 per share for the
same quarter last year.
Net Interest Income
- -------------------
As shown in the table below, tax-equivalent net interest income increased
$94,000 to $1,319,000 for the quarter ended September 30, 1998 from $1,225,000
for the same period in 1997. Net interest income is analyzed on a tax-equivalent
basis to adjust for the nontaxable status of income earned on certain
investments such as municipal bonds.
<PAGE>
<TABLE>
<CAPTION>
Three Months Ended September 30,
-------------------------------------------------------------------
1998 1997
------------------------------- -------------------------------
Average Average
Average Yield/ Average Yield/
Balance Interest Rate(1) Balance Interest Rate(1)
------------------------------- -------------------------------
(dollars in thousands)
<S> <C> <C> <C> <C> <C> <C>
Assets:
Interest-earning assets:
Interest-bearing deposits $ 1,438 $ 22 6.12% $ 1,589 $ 16 4.03%
FHLB common stock 1,150 22 7.65 939 17 7.24
Taxable investment securities 12,665 211 6.66 11,408 186 6.52
Tax-exempt investment securities (2) 3,863 78 8.08 3,900 78 8.00
Loans receivable 108,196 2,299 8.50 103,065 2,187 8.49
-------- ------ ---- -------- ------ ----
Total interest-earning assets 127,312 2,632 8.27 120,901 2,484 8.22
------ ---- ------ ----
Non-interest-earning assets 3,631 3,046
-------- --------
Total $130,943 $123,947
======== ========
Liabilities and Stockholders' Equity:
Interest-bearing liabilities:
Deposit accounts 86,089 1,042 4.80 82,229 993 4.79
Borrowings 19,022 271 5.70 17,574 266 6.05
-------- ------ ---- ------- ------ ----
Total interest-bearing liabilities 105,111 1,313 5.00 99,803 1,259 5.05
------ ---- ------ ----
Non-interest-bearing liabilities 4,187 3,367
Stockholders' equity 21,645 20,777
-------- --------
Total $130,943 $123,947
======== ========
Net interest income and interest rate spread $1,319 3.27% $1,225 3.17%
====== ======
Net interest-earning assets and
net interest margin $ 22,201 4.17% $ 21,098 4.08%
======== ========
Ratio of interest-earning assets to
interest-bearing liabilities 121.12% 121.14%
</TABLE>
(1) All information presented in this column is annualized with the
exception of the ratio of interest-earning assets to interest bearing
liabilities. (2) Interest earned on tax-exempt investment securities
has been adjusted to a tax-equivalent basis using the applicable
federal and state rates of 34% and 7.25%, respectively, and reduced by
the nondeductible portion of interest expense.
<PAGE>
The increase in net interest income is due to a higher level of average net
interest-earning assets as well as a higher average yield during the quarter
ended September 30, 1998 compared to the same quarter last year. The majority of
the increase in interest-earning assets is due to an increase in average loans
receivable to $108,196,000 for the three months ended September 30, 1998 from
$103,065,000 for the three months ended September 30, 1997. Interest rate spread
(on a tax-equivalent basis) increased to 3.27% for the quarter ended September
30, 1998 from 3.17% for the same quarter in 1997 due to an increase in the
weighted average yield on interest-earning assets and a decrease in the weighted
average yield on interest-bearing liabilities. The increase in the weighted
average yield on assets was caused by a shift in the mix toward higher earning
assets, principally loans. Some of the increase was also caused by an increase
in the weighted average yield on taxable investment securities. Net interest
margin increased to 4.17% for the three months ended September 30, 1998 from
4.08% for the three months ended September 30, 1997.
Provision for Loan Losses
The provision for loan losses for the three months ended September 30, 1998
totaled $24,000 compared to $24,000 for the same period in 1997. The provision
for loan losses is based on management's evaluation of the loan portfolio as
discussed under "Financial Condition".
Other Income
Other income totaled $151,000 for the quarter ended September 30, 1998 compared
to $137,000 for the same period in 1996. The overall increase in other income
was caused by increases and decreases in other income accounts. Mortgage loan
servicing fees declined $15,000 from the first three months of fiscal 1998 to
the same period in 1999 due to faster prepayments on the underlying mortgages in
fiscal 1999 as compared to fiscal 1998. Gain on sale of investments declined
$6,000 from the first three months of fiscal 1998 compared to the same period in
1999 because there were no sales of investment securities in the first three
months of fiscal year 1999. During the first three months of fiscal 1998 there
was a positive lower-of-cost or market adjustment of $33,000 that was not
present during the first three months of fiscal 1999. The Company recorded a
$40,000 gain on sale of loans during the first three months of fiscal 1999.
There were no such loan sales during the first three months of fiscal 1998. The
Company collected stock and mutual fund commissions of $24,000 during the first
three months of fiscal 1999. There were no commissions in the first three months
of fiscal 1998 since the full service and discount brokerage subsidiary of the
Bank did not begin operations until the quarter ended March 31, 1998. The
increase of $5,000 in other "other" income from the first quarter of fiscal 1998
to the same period in 1999 was caused by increases in life insurance commissions
and VISA and Mastercard interchange income.
<PAGE>
Other Expenses
Other expenses totaled $783,000 for the three months ended September 30, 1998
compared to $671,000 for the same period in 1997. Compensation expense increased
$34,000 from the quarter ended September 30, 1997 to the same period in 1998 due
to the hiring of several employees during the second, third and fourth quarters
of fiscal year 1998. Data and items processing expense increased $32,000 from
the quarter ended September 30, 1997 to the same period in 1998 due to the
Bank's conversion to a new data processor in the third quarter of fiscal 1998.
The Bank's new processor provides a higher level of service and technology
compared to the Bank's previous processor. Furniture and equipment expense
increased $18,000 from the quarter ended September 30, 1997 to the same period
in 1998 due to higher depreciation expense associated with the purchase of
computer equipment in the third quarter of fiscal 1998. Other "other" expense
increased $21,000 from the quarter ended September 30, 1997 to the same period
in 1998 due primarily to increases in savings forms, postage, dues and
subscriptions and VISA and Mastercard merchant expenses in the three months
ended September 30, 1998.
Income Tax Expense
Income tax expense was $219,000 for the quarter ended September 30, 1998
resulting in an effective rate of 34.6% compared to $223,000 or 35.0% for the
same period in 1997.
Financial Condition
CHANGES IN FINANCIAL CONDITION
Total assets decreased $2.9 million or 2.2% to $127.6 million at September 30,
1998 from $130.5 million at June 30, 1998. A decrease in net loans of $3.7
million and an increase in investment securities of $780,000 from June 30, 1998
to September 30, 1998 contributed to the majority of the decrease in assets
during the same period of time. Total liabilities decreased $2.5 million or 2.3%
to $106.4 million at September 30, 1998 from $108.9 million at June 30, 1998.
Decreases of $729,000 and $2.1 million in total deposits and borrowings from the
Federal Home Loan Bank of Atlanta, respectively, from September 30, 1997 to
September 30, 1998 accounted for the decline.
Total stockholders' equity decreased $400,000 to $21.2 million at September 30,
1998 from $21.6 million at June 30, 1998. Under a previously announced stock
repurchase plan, the Company repurchased and retired 63,167 shares of its common
stock during the quarter ended September 30, 1998. The average cost of the
shares repurchased was $9.86 per share for a total cost of $623,000. The
implementation of the share repurchase plan and cash dividends declared were the
primary factors contributing to the decline in stockholders' equity during the
quarter ended September 30, 1998. Mitigating these decreases were quarterly net
income of $414,000, and release of ESOP shares, amortization of unearned
compensation, and a change in unrealized holding gains on investment securities
of $45,000, $63,000 and $45,000, respectively.
<PAGE>
ASSET QUALITY
Nonperforming Assets and Risk Assets
Nonperforming assets include nonaccrual loans, restructured loans and real
estate owned. The table on the following page presents information on
nonperforming assets and loans contractually past due but still accruing at
September 30, 1998 and June 30, 1998.
<TABLE>
<CAPTION>
September 30, June 30,
1998 1998
-------- --------
(in thousands)
<S> <C> <C>
Total nonaccrual loans $ 863 $ 928
Total restructured loans - -
-------- --------
Total nonperforming loans 863 928
Real estate owned - -
-------- --------
Total nonperforming assets 863 928
Accruing loans, delinquent 90 days or more - -
-------- --------
Total risk assets $ 863 $ 928
======== ========
Nonperforming loans to total loans 0.84% 0.87%
Nonperforming assets to total assets 0.68% 0.71%
Risk assets to total assets 0.68% 0.71%
Allowance for loan losses to:
Total nonperforming assets 1.16x 1.02x
Total risk assets 1.16x 1.02x
Total assets $127,607 $130,541
Total loans, net 102,801 106,500
Allowance for loan losses 1,005 951
</TABLE>
There were no significant changes in nonperforming assets outstanding from June
30, 1998 to September 30, 1998. Management has reviewed the collateral for
nonperforming assets and believes that collateral values related to the loans
exceeds such balances. The recorded investment in loans that are considered to
be impaired under SFAS No. 114 (Statement of Financial Accounting Standards No.
114, "Accounting by Creditors for Impairment of a Loan") were $118,000 at both
September 30, 1998 and June 30, 1998. There was no related allowance for credit
losses associated with these loans as determined in accordance with SFAS No.
114. Management has included this review among the factors considered in the
evaluation of the allowance for possible loan losses.
<PAGE>
Provision and Allowance for Loan Losses
The following table summarizes the activity in the allowance for loan losses for
the three months ended September 30, 1997 and 1996, respectively.
<TABLE>
<CAPTION>
Three months ended
September 30,
----------------------
1998 1997
------ ------
<S> <C> <C>
Balance at the beginning of period $ 951 $ 796
Provision for loan losses 24 24
Recoveries 30 34
Loans charged off -- --
------ ------
Balance at the end of period $1,005 $ 854
====== ======
</TABLE>
At September 30, 1998, the allowance for loan losses was 0.97% of total loans,
compared to 0.89% of total loans at June 30, 1998 and 0.81% of total loans at
September 30, 1997.
The levels of the provision and allowance for loan losses are based on
management's ongoing evaluation of the risk characteristics of the loan
portfolio considering current economic conditions, financial condition of
borrowers, growth and composition of the loan portfolio, collateral values, the
relationship of the allowance for loan losses to outstanding loans, the level of
nonperforming loans that have been identified as potential problems, past and
expected loss experience, results of the most recent regulatory examinations,
and other factors deemed relevant by management. Management actively maintains a
current loan watch list and knows of no other loans which are (1) material and
represent or result from trends or uncertainties which management reasonably
expects will materially impact future operating results, liquidity, or capital
resources, or (2) represent material credits about which management has serious
doubts as to the ability of such borrowers to comply with the loan repayment
terms. Based on management's evaluation of the loan portfolio, as described
above, the Company recorded a $24,000 provision for loan losses for the three
months ended September 30, 1998 compared to a $24,000 provision for the same
period in 1997.
<PAGE>
YEAR 2000 ISSUE
The Company recognizes and is addressing the potentially severe implications of
the "Year 2000 Issue." The "Year 2000 Issue" is a general term used to describe
the various problems that may result from the improper processing of dates and
date-sensitive calculations as the Year 2000 approaches. This issue is caused by
the fact that many of the world's existing computer programs use only two digits
to identify the year in the date field of a program. These programs were
designed and developed without considering the impact of the upcoming change in
the century and could experience serious malfunctions when the last two digits
of the year change to "00" as a result of identifying a year designated "00" as
the year 1900 rather than the Year 2000. This misidentification could prevent
the Company from being able to engage in normal business operations, including,
among other things, miscalculating interest accruals and the inability to
process customer transactions. Because of the potentially serious ramifications
of the Year 2000 Issue, the Company is taking the Year 2000 Issue very
seriously. The Company formed a Year 2000 Committee, which is comprised of a
cross-section of the Company's employees, in November of 1997. This Committee is
leading the Company's Year 2000 efforts to ensure that the Company is properly
prepared for the Year 2000. The Company's Board of Directors has approved a plan
submitted by the Year 2000 Committee that was developed in accordance with
guidelines set forth by the Federal Financial Institutions Examination Council.
This plan, which is described in further detail below, has five primary phases
related to internal Year 2000 compliance:
1. Awareness - this phase is ongoing and is designed to inform the
Company's Board of Directors (the "Board") and Executive management
("Management"), employees, customers and vendors of the impact of the
Year 2000 Issue. The awareness phase is an ongoing one that is designed
to provide ongoing information about the Year 2000 issue to the Board
of Directors, Management, employees and customers. Since December of
1997 the Board has been apprised of the Company's efforts at their
regular meetings. In addition, all customers were updated with respect
to the Company's Year 2000 efforts through a mailing sent in June of
1998.
2. Assessment - during this phase an inventory was conducted of all known
Company processes that could reasonably be expected to be impacted by
the Year 2000 Issue and their related vendors, if applicable. This
inventory of processes and vendors included not only typical computer
processes such as the Company's transaction applications systems, but
all known processes that could be impacted by micro-chip malfunctions.
These include but are not limited to the Company's alarm system, phone
system, check ordering process, and ATM network. The Company
inventoried all the systems listed above in December of 1997 and
performed an initial assessment of potential risks from either under or
nonperformance arising from incorrect processing and usage of dates
after December 31, 1999. At this time the Company had already made the
decision to convert in February of 1998 to a new computer service
provider for processing all loan, deposit and general ledger
transactions. In conjunction with the conversion, the Company purchased
and installed new computers, printers and related software in January
of 1998. New hardware and software for a local area network was also
purchased and installed in January of 1998. The total cost of the
hardware and software purchased by the Company in fiscal 1998 totaled
$296,000 and was capitalized. Most of the hardware and software
purchased by the Company either is Year 2000 compliant or will be with
minor modifications or upgrades. The assessment phase is complete,
although it is updated periodically as necessary.
<PAGE>
3. Renovation and/or replacement - this phase includes programming code
enhancements, hardware and software upgrades, system replacements,
vendor certification and any other changes necessary to make any
hardware, software and other equipment Year 2000 compliant. The Company
does not perform in-house programming, and thus is dependent on
external vendors to ensure and modify, if needed, the hardware,
software or other services it provides to the Company for Year 2000
compliance. As a result of the assessment performed above, the Company
contacted all third party vendors, requested documentation regarding
their Year 2000 compliance efforts, and analyzed their responses. The
responses from third party vendors generally include an overview of
renovation efforts to their systems that the Company utilizes. In
addition, some third party software vendors have notified the Company
that upgrades of their software will be necessary to ensure reliable
and accurate Year 2000 processing. One third party computer vendor (the
"primary service provider") processes, either directly, or indirectly
through other computer vendors, all loan, deposit and general ledger
transactions. The primary service provider has notified the Company
that the renovation and replacement of their systems is complete and
has been tested for Year 2000 compliance.
4. Testing - The next phase for the Company under the plan is to complete
a comprehensive testing of all known processes. As noted in the
renovation and/or replacement phase above, the Company's primary
service provider has already tested their system for Year 2000
compliance. The next step, which is currently in process, is to test
the Company's network and core service provider software applications
and hardware. The Company has performed Year 2000 testing of all
employee computer work stations, and all but one are Year 2000
compliant. The testing of the remainder of the Company's processes is
expected to be substantially complete by the end of the second quarter
of fiscal 1999.
5. Implementation - this phase will occur when Year 2000 processing
commences. On some applications the Company is already entering dates
greater than December 31, 1999 into their systems. In these situations
no adverse events have been noted. The significant part of the
implementation phase will occur after December 31, 1999. The Company is
in the process of developing contingency plans for processes that do
not process information reliably and accurately after December 31,
1999. The contingency plans for all systems should be substantially
complete by the end of the second quarter of fiscal 1999.
The Company is also in the process of assessing the year 2000 readiness of
significant borrowers and depositors. In the second quarter of 1999 the Company
plans on making a list of significant borrowers and depositors. Customers who
the Company has Year 2000 concerns about will be counseled on the Year 2000
issue and urged to take corrective action. Since the majority of the Company's
loans are to individuals and secured by one to four family residences this step
is not expected to require a significant amount of time or resources.
<PAGE>
Excluding the hardware and software purchases noted above, the Company expensed
$6,000 on Year 2000 costs for the quarter ended September 30, 1998. There were
no Year 2000 costs for the quarter ended September 30, 1997. Based on an
analysis of projected expenses performed in the last quarter of fiscal 1998, the
total cost of the Year 2000 project is currently estimated at $50,000. Funding
of the Year 2000 project costs will come from normal operating cash flow,
however the expenses associated with the Year 2000 Issue will directly reduce
otherwise reported net income for the Company.
Management of the Company believes that the potential effects on the Company's
internal operations of the Year 2000 Issue can and will be addressed prior to
the Year 2000. However, if required modifications or conversions are not made or
are not completed on a timely basis prior to the Year 2000, the Year 2000 Issue
could disrupt normal business operations. The most reasonably likely worst case
Year 2000 scenarios foreseeable at this time would include the Company
temporarily not being able to process, in some combination, various types of
customer transactions. This could affect the ability of the Company to, among
other things, originate new loans, post loan payments, accept deposits or allow
immediate withdrawals, and, depending on the amount of time such a scenario
lasted, could have a material adverse effect on the Company. Because of the
serious implications of these scenarios, the primary emphasis of the Company's
Year 2000 efforts is to correct, with complete replacement if necessary, any
systems or processes whose Year 2000 test results are not satisfactory prior to
the Year 2000. Nevertheless, should one of the most reasonably likely worst case
scenarios occur in the Year 2000, the Company, as noted above, is in the process
of formalizing a contingency plan that would allow for limited transactions,
including the ability to make certain deposit withdrawals, until the Year 2000
problems are fixed. The costs of the Year 2000 project and the date on which the
Company plans to complete Year 2000 compliance are based on management's best
estimates, which were derived using numerous assumptions of future events such
as the availability of certain resources (including internal and external
resources), third party vendor plans and other factors. However, there can be no
guarantee that these estimates will be achieved at the cost disclosed or within
the timeframe indicated, and actual results could differ materially from these
plans. Factors that might affect the timely and efficient completion of the
Company's Year 2000 project include, but are not limited to, vendors' abilities
to adequately correct or convert software and the effect on the Company's
ability to test its systems, the availability and cost of personnel trained in
the Year 2000 area, the ability to identify and correct all relevant computer
programs and similar uncertainties.
<PAGE>
LIQUIDITY AND INTEREST RATE RISK MANAGEMENT
Liquidity is the ability to raise funds or convert assets to cash in order to
meet customer and operating needs. The Company's primary sources of liquidity
are its portfolio of investment securities available-for-sale, principal and
interest payments on loans and mortgage-backed securities, interest income from
investment securities, maturities of investment securities held-to-maturity,
increases in deposits, and advances from the FHLB of Atlanta. At September 30,
1998, the Bank had $14.0 million of credit available from the FHLB which would
be collateralized by a blanket lien on qualifying loans secured by first
mortgages on 1-4 family residences. Additional amounts may be made available
under this blanket floating lien or by using investment securities as
collateral. Management believes that it will have sufficient funds available to
meet its anticipated future loan commitments as well as other liquidity needs.
Interest rate risk is the sensitivity of interest income and interest expense to
changes in interest rates. Management structures the Company's assets and
liabilities in an attempt to protect net interest income from large fluctuations
associated with changes in interest rates. At September 30, 1998, the Company
had a cumulative one year asset-sensitive gap position of $3.7 million or 3.00%
of interest-earning assets. A asset-sensitive gap position generally indicates
that net interest income would decrease in a declining rate environment and
increase in a rising rate environment. The Company had a cumulative one year
liability-sensitive gap position of $11.8 million or 7.09% of interest-earning
assets at June 30, 1998. The Company will continue to actively manage its
balance sheet in order protect net interest income from changes in interest
rates.
It should be noted that these measures reflect the interest-sensitivity of the
balance sheet as of a specific date and are not necessarily indicative of future
results. Because of this and other limitations, management also monitors
interest rate sensitivity through the use of a model which estimates the change
in net portfolio value and net interest income in response to a range of assumed
changes in market interest rates. Based on interest sensitivity measures as of
September 30, 1998, management believes that its interest rate risk is at an
acceptable level.
<PAGE>
CAPITAL RESOURCES
The Parent is regulated by the Board of Governors of the Federal Reserve System
("FRB") and is subject to securities registration and public reporting
regulations of the Securities and Exchange Commission. The Bank is regulated by
the Federal Deposit Insurance Corporation ("FDIC") and the Administrator,
Savings Institutions Division, North Carolina Department of Commerce, (the
"Administrator"). The Bank is subject to the capital requirements of the FDIC
and the Administrator. The FDIC requires the Bank to maintain minimum ratios of
Tier I capital to total risk-weighted assets and total capital to risk-weighted
assets of 4% and 8%, respectively. Tier I capital consists of total
stockholders' equity calculated in accordance with generally accepted accounting
principles less intangible assets, and total capital is comprised of Tier I
capital plus certain adjustments, the only one applicable to the Bank is the
allowance for possible loan losses. Risk-weighted assets refer to the on- and
off-balance sheet exposures of the Bank adjusted for their relative risk levels
using formulas set forth in FDIC regulations. The Bank is also subject to a FDIC
leverage capital requirement, which calls for a minimum ratio of Tier I capital
(as defined above) to quarterly average total assets of 3% and a ratio of 5% to
be "well-capitalized". The Administrator requires a net worth equal to at least
5% of total assets. At September 30, 1998, the Bank was in compliance with all
of the aforementioned capital requirements.
As of September 30, 1998, the FDIC categorized the Bank as "well-capitalized"
under the regulatory framework for prompt corrective action. To be categorized
as "well-capitalized", the Bank must meet minimum ratios for total risk-based,
and Tier I leverage (the ratio of Tier I capital to average assets) of 10% and
5%, respectively. There have been no events or conditions since notification
that management believes have changed the Bank's category.
<PAGE>
CURRENT ACCOUNTING ISSUES
The Company prepares its consolidated financial statements and related
disclosures in conformity with standards established by, among others, the
Financial Accounting Standards Board (the "FASB"). Because the information
needed by users of financial reports is dynamic, the FASB frequently has new
rules and proposed new rules for companies to apply in reporting their
activities. The following discussion addresses such changes as of September 30,
1998 that will affect the Company's future reporting.
In June 1997, the FASB issued Statement of Financial Accounting Standards No.
131 ("SFAS 131"), "Disclosures about Segments of an Enterprise and Related
Information". SFAS 131 establishes standards for the way that public businesses
report information about operating segments in annual financial statements and
requires that those enterprises report selected information about operating
segments in interim financial reports issued to shareholders. It also
establishes standards for related disclosures about products and services,
geographic areas, and major customers. This Statement is effective for financial
statements for periods beginning after December 15, 1997 and in the initial year
of application, comparative information for earlier years is to be restated. The
Company plans to adopt SFAS 131 in fiscal year 1999 without any significant
impact on its consolidated financial statements because the Company operates as
one segment.
In February 1998, the FASB issued Statement of Financial Accounting Standards
No. 132 ("SFAS 132"), "Employers Disclosures about Pensions and Other
Postretirement Benefits". This statement standardizes the disclosure
requirements of pensions and other postretirement benefits. This statement does
not change any measurement or recognition provisions, and thus will not
materially impact the Company. This statement is effective for fiscal years
beginning after December 15, 1997. The Company plans to adopt SFAS 132 in fiscal
year 1999 without any significant impact on its consolidated financial
statements.
In June 1998, the FASB issued Statement of Financial Accounting Standards No.
133 ("SFAS No. 133"), "Accounting for Derivative Instruments and Hedging
Activities". SFAS No. 133 establishes accounting and reporting standards for
derivative instruments and for hedging activities. SFAS No. 133 is effective for
all fiscal quarters of fiscal years beginning after June 15, 1999. The Company
plans to adopt SFAS 133 in fiscal year 2000 without any impact on its
consolidated financial statements as the Company does not have any derivative
financial instruments and is not involved in any hedging activities.
<PAGE>
ITEM 2. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
Market risk reflects the risk of economic loss resulting from adverse changes in
market price and interest rates. This risk of loss can be reflected in
diminished current market values and/or reduced potential net interest income in
future periods.
The Company's market risk arises primarily from interest rate risk inherent in
its lending and deposit taking activities. The structure of the Company's loan
and deposit portfolios is such that a significant decline in interest rates may
adversely impact net market values and net interest income. The Company does not
maintain a trading account nor is the Company subject to currency exchange risk
or commodity price risk. Interest rate risk is monitored as part of the
Company's asset/liability management function, which is discussed above in Item
2 "Management's Discussion and Analysis of Financial Condition and Results of
Operations" under the heading "Liquidity and Interest Rate Risk Management".
Management does not believe there has been any significant change in the overall
analysis of financial instruments considered market risk sensitive, as measured
by the factors of contractual maturities, average interest rates and estimated
fair values, since the analysis prepared and presented in conjunction with the
Form 10-K Annual report for the fiscal year ended June 30, 1998.
<PAGE>
PART II - OTHER INFORMATION
ITEM 1. LEGAL PROCEEDINGS
None
ITEM 2. CHANGES IN SECURITIES
Not applicable
ITEM 3. DEFAULTS UPON SENIOR SECURITIES
Not applicable
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
None
ITEM 5. OTHER INFORMATION
Not applicable
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K
(a) Exhibits
None
(b) Reports on Form 8-K
None
<PAGE>
SIGNATURES
Under the requirements of the Securities Exchange Act of 1934, the registrant
has duly caused this report to be signed on its behalf by the undersigned
thereunto duly authorized
Date: November 16, 1998 By: /s/ D. Tyson Clayton
-----------------
President
Date: November 16, 1998 By: /s/ Thomas W. Wayne
---------------
Vice President and principal
financial officer
<TABLE> <S> <C>
<ARTICLE> 9
<MULTIPLIER> 1,000
<S> <C>
<PERIOD-TYPE> 3-MOS
<FISCAL-YEAR-END> JUN-30-1999
<PERIOD-END> SEP-30-1998
<CASH> 828
<INT-BEARING-DEPOSITS> 1,561
<FED-FUNDS-SOLD> 0
<TRADING-ASSETS> 0
<INVESTMENTS-HELD-FOR-SALE> 14,590
<INVESTMENTS-CARRYING> 3,215
<INVESTMENTS-MARKET> 3,333
<LOANS> 102,801
<ALLOWANCE> 1,005
<TOTAL-ASSETS> 127,607
<DEPOSITS> 89,111
<SHORT-TERM> 15,929
<LIABILITIES-OTHER> 1,320
<LONG-TERM> 0
0
0
<COMMON> 8,495
<OTHER-SE> 12,752
<TOTAL-LIABILITIES-AND-EQUITY> 127,607
<INTEREST-LOAN> 2,299
<INTEREST-INVEST> 281
<INTEREST-OTHER> 22
<INTEREST-TOTAL> 2,602
<INTEREST-DEPOSIT> 1,042
<INTEREST-EXPENSE> 1,313
<INTEREST-INCOME-NET> 1,289
<LOAN-LOSSES> 24
<SECURITIES-GAINS> 0
<EXPENSE-OTHER> 783
<INCOME-PRETAX> 633
<INCOME-PRE-EXTRAORDINARY> 633
<EXTRAORDINARY> 0
<CHANGES> 0
<NET-INCOME> 414
<EPS-PRIMARY> 0.15
<EPS-DILUTED> 0.15
<YIELD-ACTUAL> 4.17
<LOANS-NON> 863
<LOANS-PAST> 0
<LOANS-TROUBLED> 0
<LOANS-PROBLEM> 0
<ALLOWANCE-OPEN> 951
<CHARGE-OFFS> 0
<RECOVERIES> 30
<ALLOWANCE-CLOSE> 1,005
<ALLOWANCE-DOMESTIC> 1,005
<ALLOWANCE-FOREIGN> 0
<ALLOWANCE-UNALLOCATED> 0
</TABLE>
