Exhibit 13.1
Selected Financial Data
The following tables present certain selected historical financial information for SouthCrest Financial Group, Inc. and subsidiaries. The data should be read in conjunction with the historical financial statements, including the notes thereto, and other financial information concerning the Company.
SouthCrest Financial Group, Inc. and Subsidiaries
Summary Financial Data
For the Periods Ended December 31,
(all dollars in thousands except per share amounts)
| | | 2006 | | 2005 | | 2004 | | 2003 | | 2002 | |
Income Statement | | | | | | | | | | | |
| Net interest income | | $ | 19,191 | | $ | 17,469 | | $ | 11,460 | | $ | 9,130 | | $ | 9,103 | |
| Provision for loan losses | | | 839 | | | 751 | | | 375 | | | 324 | | | 519 | |
| Net interest income after | | | | | | | | | | | | | | | | |
| provision for loan losses | | | 18,352 | | | 16,718 | | | 11,085 | | | 8,806 | | | 8,584 | |
| Other income | | | 5,364 | | | 4,478 | | | 3,357 | | | 3,511 | | | 2,903 | |
| Other expense | | | 15,167 | | | 14,196 | | | 8,925 | | | 7,592 | | | 7,123 | |
| Income taxes | | | 2,775 | | | 2,156 | | | 1,660 | | | 1,390 | | | 1,249 | |
| Net income | | | 5,774 | | | 4,844 | | | 3,857 | | | 3,335 | | | 3,115 | |
| | | | | | | | | | | | | | | | | |
Per Common Share | | | | | | | | | | | | | | | | |
| Basic and diluted earnings per share | | $ | 1.58 | | $ | 1.36 | | $ | 1.52 | | $ | 1.53 | | $ | 1.43 | |
| Cash dividends declared | | $ | 0.50 | | $ | 0.48 | | $ | 0.46 | | $ | 0.46 | | $ | 0.45 | |
| Dividend payout ratio | | | 31.4 | % | | 35.3 | % | | 30.3 | % | | 30.1 | % | | 31.5 | % |
| Book value | | $ | 17.09 | | $ | 14.93 | | $ | 14.21 | | $ | 11.94 | | $ | 11.44 | |
| Average shares outstanding | | | 3,643,218 | | | 3,572,904 | | | 2,545,724 | | | 2,182,421 | | | 2,178,685 | |
Period End | | | | | | | | | | | | | | | | |
| Total loans | | $ | 335,452 | | $ | 276,475 | | $ | 229,232 | | $ | 123,187 | | $ | 118,232 | |
| Net loans | | | 330,972 | | | 272,998 | | | 226,071 | | | 121,362 | | | 116,289 | |
| Earning assets (1) | | | 483,652 | | | 410,897 | | | 374,684 | | | 237,239 | | | 219,896 | |
| Assets | | | 544,017 | | | 450,848 | | | 407,512 | | | 256,205 | | | 243,653 | |
| Deposits | | | 462,622 | | | 377,900 | | | 352,252 | | | 227,469 | | | 215,556 | |
| Stockholders' equity | | | 67,555 | | | 53,456 | | | 50,740 | | | 26,045 | | | 23,984 | |
| Common shares outstanding | | | 3,952,328 | | | 3,581,193 | | | 3,571,556 | | | 2,180,585 | | | 2,097,014 | |
| | | | | | | | | | | | | | | | | |
Average Balances | | | | | | | | | | | | | | | | |
| Loans | | $ | 293,489 | | $ | 249,394 | | $ | 156,003 | | $ | 119,676 | | $ | 113,049 | |
| Earning assets (1) | | | 430,130 | | | 394,076 | | | 269,651 | | | 231,131 | | | 212,288 | |
| Assets | | | 473,173 | | | 428,360 | | | 292,446 | | | 251,687 | | | 230,360 | |
| Deposits | | | 397,637 | | | 366,877 | | | 256,035 | | | 222,463 | | | 202,022 | |
| Other borrowings | | | 12,960 | | | 4,695 | | | 580 | | | 1,892 | | | 1,991 | |
| Stockholders’ equity | | | 57,456 | | | 52,125 | | | 33,062 | | | 25,014 | | | 23,509 | |
| | | | | | | | | | | | | | | | | |
Performance Ratios | | | | | | | | | | | | | | | | |
| Return on average assets | | | 1.22 | % | | 1.13 | % | | 1.32 | % | | 1.32 | % | | 1.35 | % |
Return on average stockholders’ | | | | | | | | | | | | | | | | |
| equity | | | 10.05 | % | | 9.29 | % | | 11.67 | % | | 13.33 | % | | 13.25 | % |
| Net interest margin | | | 4.46 | % | | 4.43 | % | | 4.25 | % | | 3.95 | % | | 4.29 | % |
| Average equity to average assets | | | 12.15 | % | | 12.17 | % | | 11.31 | % | | 9.94 | % | | 10.21 | % |
| Average loans to average deposits | | | 73.81 | % | | 67.98 | % | | 60.93 | % | | 53.79 | % | | 55.96 | % |
| (1) | Earning assets include interest-bearing deposits in banks, federal funds sold, securities available for sale, securities held to maturity, restricted equity securities, and loans net of unearned income. |
MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL
CONDITION AND RESULTS OF OPERATIONS
The purpose of the following discussion is to address information relating to the financial condition and results of operations of SouthCrest Financial Group, Inc. that may not be readily apparent from a review of the consolidated financial statements and notes thereto. This discussion should be read in conjunction with information provided in the Company’s consolidated financial statements and accompanying footnotes.
Critical Accounting Policies
Our accounting and reporting policies are in accordance with accounting principles generally accepted in the United States of America and conform to general practices within the banking industry. Our significant accounting policies are described in the notes to the consolidated financial statements. Certain accounting policies require management to make significant estimates and assumptions, which have a material impact on the carrying value of certain assets and liabilities, and we consider these to be critical accounting policies. The estimates and assumptions used are based on historical experience and other factors that management believes to be reasonable under the circumstances. Actual results could differ significantly from these estimates and assumptions, which could have a material impact on the carrying value of assets and liabilities at the balance sheet dates and results of operations for the reporting periods.
We believe the following are critical accounting policies that require the most significant estimates and assumptions that are particularly susceptible to a significant change in the preparation of our financial statements.
Allowance for Loan Losses. A provision for loan losses is based on management’s opinion of an amount that is adequate to absorb losses inherent in the existing loan portfolio. The allowance for loan losses is established through a provision for losses based on management’s evaluation of current economic conditions, volume and composition of the loan portfolio, the fair market value or the estimated net realizable value of underlying collateral, historical charge-off experience, the level of nonperforming and past due loans, and other indicators derived from reviewing the loan portfolio. The evaluation includes a review of all loans on which full collection may not be reasonably assumed. Should the factors that are considered in determining the allowance for loan losses change over time, or should management’s estimates prove incorrect, a different amount may be reported for the allowance and the associated provision for loan losses. For example, if economic conditions in our market areas experience an unexpected and adverse change, we may need to increase our allowance for loan losses by taking a charge against earnings in the form of an additional provision for loan loss. Additionally, various regulatory agencies, as an integral part of their examination process, periodically review the Company’s allowance for loan losses. Such agencies may require adjustments to the allowance for loan losses based on their judgments of information available to them at the time of their examination.
Investment Securities. Investment securities are classified into three categories. Debt securities that we have the intent and ability to hold to maturity are classified as “held-to-maturity securities” and reported at amortized cost. Debt and equity securities that are bought and held principally for the purpose of selling in the near term are classified as “trading securities” and reported as fair value, with unrealized gains and losses included in earnings. Debt securities not classified as either held-to-maturity securities or trading securities and equity securities not classified as trading securities are classified as “available-for-sale securities” and reported at fair value, with unrealized gains and losses excluded from earnings and reported as a separate component of other comprehensive income. We did not have any securities classified as trading securities as of December 31, 2006 or 2005.
Premiums and discounts related to securities are amortized or accreted over the life of the related security as an adjustment to the yield using the effective interest method and considering prepayment assumptions. Dividend and interest income is recognized when earned.
Gains and losses on sales and calls of securities are recognized on the settlement date based on the adjusted cost basis of the specific security. The financial statement impact of settlement date accounting versus trade date accounting is not significant. Declines in fair value of individual held to maturity and available for sale securities below their cost that are other than temporary result in write-downs of the individual securities to their fair value.
Management conducts regular reviews to assess whether the values of our investments are impaired and if any impairment is other than temporary. If we determine that the value of any investment is other than temporarily impaired, we record a charge against earnings in the amount of the impairment. The determination of whether other than temporary impairment has occurred involves significant assumptions, estimates and judgments by management. Changing economic conditions — global, regional or related to industries of specific issuers — could adversely affect these values. Impairment losses recognized for securities totaled $-0-, $600,000 and $-0- for the years ending December 31, 2006, 2005 and 2004.
Accounting Pronouncements Affecting Future Periods
In March 2006, the FASB issued SFAS No. 156, Accounting for Servicing of Financial Assets-an amendment of FASB Statement No. 140. This statement requires that an entity recognize a servicing asset or servicing liability each time it undertakes an obligation to service a financial asset, and that the servicing assets and servicing liabilities be initially measured at fair value. The statement also permits an entity to choose a subsequent measurement method for each class of separately recognized servicing assets and servicing liabilities. SFAS No. 156 is effective as of the beginning of the first fiscal year that begins after September 15, 2006. The application of SFAS No. 156 is not expected to have an impact on the Company’s financial condition or results of operations.
In July 2006, the FASB issued Interpretation No. 48, Accounting for Uncertainty in Income Taxes, an interpretation of FASB Statement No. 109. This interpretation clarifies the accounting for uncertainty in income taxes recognized in an enterprise’s financial statements in accordance with FASB Statement No. 109, Accounting for Income Taxes. The interpretation prescribes a recognition threshold and measurement attribute for the financial statement recognition and measurement of a tax position taken or expected to be taken in a tax return. The interpretation also provides guidance on derecognition, classification, interest and penalties, accounting in interim periods, disclosure and transition. FASB Interpretation No. 48 is effective for fiscal years beginning after December 15, 2006. The application of FASB Interpretation No. 48 is not expected to have a material effect on the Company’s consolidated financial statements.
In September 2006, the FASB issued SFAS No. 157, Fair Value Measurements, which provides for enhanced guidance for using fair value to measure assets and liabilities. SFAS No. 157 defines fair value, establishes a framework for measuring fair value in generally accepted accounting principles, and expands disclosures about fair value measurements. SFAS No. 157 is applicable under other accounting pronouncements that either require or permit fair value measurements and does not require any new fair value measurements. SFAS No. 157 is effective for financial statements issued for fiscal years beginning after November 15, 2007, and interim periods within those fiscal years. The Company has not yet evaluated the impact of the implementation of SFAS No. 157.
In September 2006, the FASB ratified EITF Issue 06-4, Accounting for Deferred Compensation and Postretirement Benefit Aspects of Endorsement Split-Dollar Life Insurance Arrangements. EITF Issue 06-4 addresses accounting for split-dollar life insurance arrangements after the employer purchases a life insurance policy on the covered employee. This Issue states that an obligation arises as a result of a substantive agreement with an employee to provide future postretirement benefits. Under Issue EITF 06-4, the obligation is not settled upon entering into an insurance arrangement. Since the obligation is not settled, a liability should be recognized in accordance with applicable authoritative guidance. Issue EITF 06-4 is effective for fiscal years beginning after December 15, 2007. The Company has not yet evaluated the impact of the implementation of EITF Issue 06-4.
In September 2006, the FASB ratified EITF Issue 06-5, Accounting for Purchases of Life Insurance—Determining the Amount That Could Be Realized in Accordance with FASB Technical Bulletin (“FTB”) No. 85-4, Accounting for Purchases of Life Insurance. This Issue addresses how an entity should determine the amount that could be realized under the insurance contract at the balance sheet date in applying FTB 85-4 and if the determination should be on an individual or group policy basis. EITF Issue 06-5 is effective for fiscal years beginning after December 15, 2006. The adoption of EITF Issue 06-5 is not expected to have a material effect on the Company’s financial statements.
In September 2006, the SEC issued SAB No. 108, Considering the Effects of Prior Year Misstatements when Quantifying Misstatements in Current Year Financial Statements. SAB 108 was issued to clarify the appropriate treatment of misstatements in audited financial statements. There are two methods for quantifying the effects of financial statement misstatements. The ‘rollover’ method focuses primarily on the impact of the misstatement on the income statement and, in some cases, considers the impact of reversing prior year misstatements. However, if the cause of the misstatement does not reverse in the following year, the rollover method would result in the accumulation of misstatements on the balance sheet. The ‘iron curtain’ method focuses on the impact of the misstatements on the balance sheet.
SAB 108 establishes an approach that requires quantification of effects of the financial statement misstatements on the company’s financial statements and related disclosures. This dual approach requires consideration of the impact of financial statement misstatements using both the iron curtain and the rollover methods. SAB 108 permits companies to either restate prior period financial statements to reflect the dual approach method or to record the cumulative effect of initially applying the dual approach by adjusting the carrying value of assets and liabilities as of January 1, 2006 with an offsetting adjustment to the opening balance of retained earnings.
Prior to the adoption of SAB 108, the Company quantified the impact of misstatements using the rollover method and management determined the impact of those misstatements was not material to the consolidated financial statements. The prior misstatements resulted from not capitalizing loan servicing rights on mortgage loans sold when future servicing rights were retained. The Company adopted SAB 108 effective January 1, 2006 and elected to record the cumulative effect of the change, which resulted in the recognition of mortgage servicing rights of $375,000, a $142,000 adjustment to deferred income tax liabilities, and a $233,000 adjustment to retained earnings.
Business Combinations.
On October 31, 2006, the Company completed its merger with Maplesville Bancorp (“Maplesville”), the parent company of Peachtree Bank (“Peachtree”). Under terms of the merger, shareholders of Maplesville received approximately 371,135 shares of SouthCrest stock and $7,557,000 in cash. The merger was accounted for using the purchase method of accounting. Accordingly, results of operations for Peachtree are included in the results of operations of SouthCrest prospectively from the date of merger, and the purchase price of $17.3 million was allocated to the fair values of Maplesville’s assets and liabilities. As a result, the Company recorded a core deposit intangible of $1.1 million and goodwill of $6.4 million. The core deposit intangible is being amortized on an accelerated basis over the estimated life of the deposits.
On September 30, 2004 the Company completed its merger with First Polk Bankshares, Inc. (“First Polk”), the parent company of The First National Bank of Polk County (“FNB Polk”). As a result of the merger, the Company issued 1,484,029 shares to the previous shareholders of First Polk. A stipulation in the merger agreement stated that shareholders of both companies could elect to redeem shares for $16.00 cash, subject to a maximum redemption of 93,750 shares. Because of this, subsequent to the completion of the merger, 93,058 shares were redeemed for a total $1,488,928.
The merger was accounted for using the purchase method of accounting. Accordingly, results of operations for FNB Polk are included in the results of operations of SouthCrest prospectively from the date of merger, and the purchase price of $23.7 million was allocated to the fair values of First Polk’s assets and liabilities. The business combination resulted in the recording of $2.4 million of core deposit intangible and $2.7 million of goodwill. Goodwill is subject to an annual test of impairment. The core deposit intangible is being amortized on an accelerated basis with $551,000 expensed in the first year following consummation of the purchase declining to $252,000 in the second year and $199,000 in future years.
The mergers with Maplesville and First Polk are summarized in Note 2, “Business Combinations and Name Change” in the Notes to Consolidated Financial Statements on page F-13.
Results of Operations for the Years Ended December 31, 2006, 2005 and 2004
For 2006, net income was $5,774,000 or $1.59 per share compared to net income of $4,844,000 or $1.36 per share for 2005, an increase of $930,000 or 16.9%. The primary reasons for the increase in net income are an increase in net interest income of $1,722,000 and an increase in other income of $886,000.
Net income for 2005 was $4,844,000 or $1.36 per share compared to net income of $3,857,000, or $1.52 per share in 2004, an increase of $987,000 or 25.6%. Substantially all of the increase relates to inclusion of the results of operations of FNB Polk for the full year in 2005, as in 2004 its results were only included for the three month period after the September 30, 2004 merger date.
Certain reclassifications to prior year balance sheets and income statements have been made to conform to current classifications. These reclassifications have no impact on net income or stockholders’ equity as previously reported.
Net interest income. A significant portion of SouthCrest’s results of operations are determined by its ability to manage effectively interest income and expense. Since market forces and economic conditions beyond the control of management determine interest rates, the ability to generate net interest income is dependent upon SouthCrest’s ability to maintain an adequate spread between the rate earned on earning assets and the rate paid on interest-bearing liabilities, such as deposits and borrowings. Thus, net interest income is the key performance measure of income.
Table 1. Average Consolidated Balance Sheets and Net Interest Income Analysis
For the Years Ended December 31,
(Dollars in thousands)
Table 1 below presents various components of assets and liabilities, interest income and expense as well as their yield/cost for the fiscal years ended 2006, 2005 and 2004. In this table, amounts related to average balances and interest income and interest expense for Peachtree and FNB Polk are included prospectively from the dates of their respective mergers:
| | | For the Years Ended December 31, | |
| | | 2006 | | 2005 | | 2004 | |
| | | Average Balances(1) | | Income/ Expense | | Yields/ Rates | | Average Balances(1) | | Income/ Expense | | Yields/ Rates | | Average Balances(1) | | Income/ Expense | | Yields Rates | |
| | | | | | | | | | | | | | | | | | | | |
| Loans | | $ | 293,489 | | $ | 23,314 | | | 7.94 | % | $ | 249,394 | | $ | 17,943 | | | 7.19 | % | $ | 156,003 | | $ | 10,550 | | | 6.76 | % |
| Taxable securities | | | 111,511 | | | 4,859 | | | 4.36 | % | | 121,260 | | | 5,041 | | | 4.16 | % | | 94,134 | | | 4,043 | | | 4.29 | % |
Nontaxable securities(2) | | | 12,492 | | | 551 | | | 4.41 | % | | 12,271 | | | 557 | | | 4.54 | % | | 9,284 | | | 445 | | | 4.79 | % |
| Federal funds sold | | | 9,569 | | | 509 | | | 5.32 | % | | 6,642 | | | 195 | | | 2.94 | % | | 5,373 | | | 87 | | | 1.62 | % |
| Interest bearing deposits in banks | | | 3,569 | | | 191 | | | 5.35 | % | | 4,509 | | | 157 | | | 3.48 | % | | 4,857 | | | 120 | | | 2.47 | % |
| Total earning assets | | | 430,630 | | | 29,424 | | | 6.83 | % | | 394,076 | | | 23,893 | | | 6.06 | % | | 269,651 | | | 15,245 | | | 5.65 | % |
| Cash and due from banks | | | 12,987 | | | | | | | | | 10,861 | | | | | | | | | 8,320 | | | | | | | |
| Allowance for loan losses | | | (3,832 | ) | | | | | | | | (3,265 | ) | | | | | | | | (2,230 | ) | | | | | | |
| Other assets | | | 33,977 | | | | | | | | | 26,688 | | | | | | | | | 16,705 | | | | | | | |
| Total | | $ | 473,173 | | | | | | | | $ | 428,360 | | | | | | | | $ | 292,446 | | | | | | | |
| | | | | | | | | | | | | | | | | | | | | | | | | | | | | |
Interest bearing demand (3) | | $ | 116,232 | | $ | 1,900 | | | 1.63 | % | $ | 116,852 | | $ | 1,242 | | | 1.06 | % | $ | 83,669 | | $ | 616 | | | 0.74 | % |
| Savings | | | 34,454 | | | 211 | | | 0.61 | % | | 36,845 | | | 193 | | | 0.52 | % | | 23,935 | | | 116 | | | 0.48 | % |
| Certificates of deposit | | | 183,650 | | | 7,497 | | | 4.08 | % | | 154,857 | | | 4,774 | | | 3.08 | % | | 109,889 | | | 3,024 | | | 2.75 | % |
| Total interest bearing deposits | | | 334,336 | | | 9,608 | | | 2.87 | % | | 308,554 | | | 6,209 | | | 2.01 | % | | 217,493 | | | 3,756 | | | 1.73 | % |
| Borrowed funds | | | 12,960 | | | 625 | | | 4.82 | % | | 4,695 | | | 215 | | | 4.58 | % | | 580 | | | 29 | | | 5.00 | % |
| Total interest bearing liabilities | | | 347,296 | | | 10,233 | | | 2.95 | % | | 313,249 | | | 6,424 | | | 2.05 | % | | 218,073 | | | 3,785 | | | 1.74 | % |
| Noninterest bearing demand | | | | | | | | | | | | | | | | | | | | | | | | | | | | |
| deposits | | | | | | | | | | | | 58,323 | | | | | | | | | 38,542 | | | | | | | |
| Other liabilities | | | 4,094 | | | | | | | | | 4,030 | | | | | | | | | 2,365 | | | | | | | |
| Redeemable common stock | | | | | | | | | | | | | | | | | | | | | | | | | | | | |
| held by ESOP | | | 1,025 | | | | | | | | | 633 | | | | | | | | | 404 | | | | | | | |
| Stockholders' equity | | | 57,456 | | | | | | | | | 52,125 | | | | | | | | | 33,062 | | | | | | | |
| Total | | $ | 473,173 | | | | | | | | $ | 428,360 | | | | | | | | $ | 292,446 | | | | | | | |
| Net interest income | | | | | $ | 19,191 | | | | | | | | $ | 17,469 | | | | | | | | $ | 11,460 | | | | |
| Net interest yield on earning assets | | | | | | | | | 4.46 | % | | | | | | | | 4.43 | % | | | | | | | | 4.25 | % |
| Net interest spread | | | | | | | | | 3.88 | % | | | | | | | | 4.01 | % | | | | | | | | 3.91 | % |
(1) Daily averages
(2) Tax-equivalent yields are not provided as effect is deemed immaterial.
(3) Includes money market accounts
Table 2. Changes In Interest Income and Expense
(Dollars in thousands)
| | | 2006 Compared to 2005 | | 2005 Compared to 2004 | |
| | | Increase (Decrease) Due to Changes In | | Increase (Decrease) Due to Changes In | |
| | | Volume | | Rate | | Total | | Volume | | Rate | | Total | |
| | | | | | | | | | | | | | |
| Loans | | $ | 3,378 | | $ | 1,993 | | $ | 5,371 | | $ | 6,683 | | $ | 710 | | $ | 7,393 | |
| Taxable securities | | | (418 | ) | | 236 | | | (182 | ) | | 1,124 | | | (126 | ) | | 998 | |
| Nontaxable securities | | | 10 | | | (16 | ) | | (6 | ) | | 136 | | | (24 | ) | | 112 | |
| Federal funds sold | | | 111 | | | 203 | | | 314 | | | 25 | | | 83 | | | 108 | |
| Interest bearing deposits in banks | | | (38 | ) | | 72 | | | 34 | | | (9 | ) | | 46 | | | 37 | |
| Total earning assets | | | 3,043 | | | 2,488 | | | 5,531 | | | 7,959 | | | 689 | | | 8,648 | |
| Interest bearing demand | | | (7 | ) | | 665 | | | 658 | | | 300 | | | 326 | | | 626 | |
| Savings | | | (13 | ) | | 31 | | | 18 | | | 66 | | | 11 | | | 77 | |
| Certificates of deposit | | | 992 | | | 1,731 | | | 2,723 | | | 1,353 | | | 397 | | | 1,750 | |
| Total deposits | | | 972 | | | 2,427 | | | 3,399 | | | 1,719 | | | 734 | | | 2,453 | |
| Borrowed funds | | | 398 | | | 12 | | | 410 | | | 188 | | | (2 | ) | | 186 | |
| Total interest bearing liabilities | | | 1,370 | | | 2,439 | | | 3,809 | | | 1,907 | | | 732 | | | 2,639 | |
| Net interest income | | $ | 1,673 | | $ | 49 | | $ | 1,722 | | $ | 6,052 | | $ | (43 | ) | $ | 6,009 | |
Table 2 above presents a Rate/Volume Analysis of Net Interest Income. For each category of interest -earning assets and interest-bearing liabilities, information is provided on changes attributable to (1) change in volume (change in volume multiplied by old rate); (2) change in rate (change in rate multiplied by old volume); and (3) a combination of change in rate and change in volume. The changes in interest income and interest expense attributable to both volume and rate have been allocated proportionately on a consistent basis to the change due to volume and the change due to rate.
Net interest income increased $1,722,000 to $19,191,000 for 2006. Of this amount, $420,000 relates to the inclusion of Peachtree for the final two months of the fiscal year. Interest income increased $5,531,000 due primarily to an increase of $5,371,000 in interest income earned on loans. Of this increase in income earned on loans, $3,378,000 relates to the growth in the average balances outstanding of $44.1 million in 2006 over 2005. In addition, the average rate earned on loans increased from 7.19% in 2005 to 7.94% in 2006. This increase in yield accounts for an increase of $1,993,000 in interest income on loans. The increase in interest income was offset by an increase in interest expense of $3,809,000. The growth experienced in the Company’s loan portfolio was funded primarily by increases in certificates of deposit and other borrowed funds. As a result, the average rate paid on all interest bearing liabilities increased from 2.05% in 2005 to 2.95% in 2006.
In 2005, net interest income increased $6,009,000 to $17,469,000 from $11,460,000 in 2004. Of the $6,009,000 increase in net interest income, $5,141,000 relates to the inclusion of FNB Polk in operations for a full twelve months in 2005 versus three months in 2004. Interest income increased $8,648,000 to $23,893,000 for the year ended December 31, 2005, as compared to $15,245,000 for 2004. The largest component of the increase was a $7,393,000 increase in interest earned on loans. The increase in the volume of loans outstanding of $93.4 million resulted in interest earned on such loans to increase by $6,683,000, while an increase in the average yield earned on loans from 6.76% to 7.19% resulted in an increase of $710,000 in interest income on loans. Interest expense increased $2,639,000 to $6,424,000 for 2005 from $3,785,000 in 2004. In general, interest expense increased due to the inclusion of FNB Polk, and to growth in deposits and borrowed funds required to fund loan growth experienced during the year. Increased competition for deposits in the Banks’ markets and increases in the general level of interest rates resulting from Federal Reserve increases in the discount rate have contributed to an increase in the average rates paid on deposits, which rose from 1.73% to 2.01%.
For 2006, the net interest yield on earning assets was 4.46% compared to 4.43% earned in 2005 and 4.25% in 2004. The average yield on earning assets was 6.83% in 2006 compared to 6.06% in 2005 and 5.65% in 2004, while the average rate paid on interest bearing liabilities was 2.95% for 2006, 2.05% in 2005 and 1.74% in 2004. The increases in the average yield on earning assets relates to the increase in loans as a percentage of total earning assets from 57.8% in 2004 to 63.2% in 2005 and 68.2% in 2006. Loans generally earn a higher rate of interest than other earning assets. In addition, as a result of increases in interest rates during the year, the average yield earned on loans increased from 6.76% in 2004 to 7.19% in 2005 and 7.94% in 2006. These average yields are higher than that earned on taxable securities of 4.16% earned in 2005 and 4.36% earned in 2006. The increase in the average rate paid on interest bearing liabilities is primarily the result of increases in rates paid on certificates of deposit, which increased from 2.75% for 2004 to 3.08% for 2005 and 4.08% for 2006.
Provision for Loan Losses. The provision for loan losses for 2006 was $839,000 compared to $751,000 provided in 2005 and $375,000 provided in 2004. In 2006, the Company charged-off loans, net of recoveries, totaling $467,000 or 0.16% of average loans outstanding compared to net chargeoffs in 2005 of $435,000, or 0.17% of average loans outstanding, and net chargeoffs in 2004 of $300,000, or 0.19% of average loans.
The provision for loan losses is determined primarily by management’s evaluation concerning the level of the allowance for loan losses. For further discussion, refer to the discussion below titled “Allowance for Loan Losses.”
Other Income. Total other income in 2006 was $5,364,000 compared to $4,478,000 in 2005, an increase of $886,000 or 19.8% of which $132,000 was attributable to the inclusion of Peachtree for two months in 2006. Other income in 2004 was $3,357,000. Other income recorded in 2005 included a gain of $320,000 on the sale of investment securities available for sale, a $600,000 impairment charge on investment securities, and a $184,000 loss on the disposal of equipment. The loss on the disposal of equipment related to data processing equipment and software that was rendered obsolete as a result of our consolidation of computer systems in November, 2005.
Service charges (including NSF and overdraft charges) on deposit accounts were $3,304,000 in 2006 and $3,264,000 for 2005, an increase of $40,000 or 1.2%. Excluding the effect of including Peachtree for the final two months of the year, these service charges would have declined by $58,000. Service charges in 2005 increased $975,000 from 2004 of which $917,000 relates to FNB Polk being included in 2005 for a full year compared to three months in 2004. As a percent of the average balances of interest-bearing checking and noninterest-bearing checking accounts, these service charges were 2.64% of such accounts for 2006, 2.70% for 2005 and 2.89% in 2004. In 2006, NSF fee income declined $73,000. Generally, these service charges have declined due to customers maintaining higher balances which enable them to avoid such fees and charges.
Other service charges were $1,104,000 in 2006 compared to $930,000 in 2005, an increase of $174,000. Of this increase, $12,000 relates to Peachtree while $120,000 relates to increased fee income from debit cards. In 2004, other service charges were $495,000 of which $130,000 relates to FNB Polk.
The net gain on the sale of loans was $159,000, $148,000 and $215,000 for 2006, 2005, and 2004 respectively. Mortgage volume was $15.2 million, $13.5 million, and $16.0 million for 2006, 2005, and 2004 respectively. The reduction in mortgage volume from 2004 generally relates to a trend toward higher interest rates which began in 2004. More stable interest rates in 2006 contributed to higher mortgage origination volume compared to 2005. In addition to reducing mortgage origination volume, the increase in interest rates also caused the average profit margins on loans sold to tighten from 1.35% for 2004 to 1.10% for 2005 and 1.05% for 2006.
During the first quarter of 2005, the Company recorded an impairment charge of $600,000 on $2.5 million of Federal Home Loan Mortgage Corporation (“Freddie Mac”) and Federal National Mortgage Association (“Fannie Mae”) perpetual preferred stock. The reclassification of an unrealized mark-to-market loss on these securities to an other-than-temporary charge to earnings was based upon a detailed impairment analysis of these securities. Previous losses on the securities were recognized in the equity section of the balance sheet. The Company’s conclusion considered the duration and severity of the unrealized loss, the financial condition and near-term prospects of the issuers, and the likelihood of the market value of these instruments increasing to our initial cost basis within a reasonable period of time. During the third quarter of 2005, the Company initiated a plan to sell a portion of these securities in which the securities would be sold slowly in small blocks. This plan was completed during the quarter, resulting in gains of $71,000 which are included in net gains on sale of securities available for sale.
In addition to the gain mentioned above, gain on sale of securities available for sale in 2005 also included a $249,000 gain realized on the sale of a common stock investment. The Company’s cost basis in that investment was $200,000.
The following table provides information about our other income.
Table 3. Summary of Other Income
(Dollars in thousands)
| | | 2006 | | 2005 | | 2004 | |
| | | | | | | | |
| Service charges on deposits | | $ | 529 | | $ | 416 | | $ | 334 | |
| NSF and overdraft charges | | | 2,775 | | | 2,848 | | | 1,955 | |
| Other service charges | | | 1,104 | | | 930 | | | 495 | |
| Net gain on sale of loans | | | 159 | | | 148 | | | 215 | |
| Income from bank-owned life insurance | | | 340 | | | 146 | | | 126 | |
| Impairment charge on investments | | | — | | | (600 | ) | | | |
| Gain on sale of securities available for sale | | | | | | 320 | | | | |
| Loss on disposal of assets | | | | | | (184 | ) | | | |
| Other operating income | | | 457 | | | 454 | | | 232 | |
| | | $ | 5,364 | | $ | 4,478 | | $ | 3,357 | |
Other Expenses. For 2006, other expenses were $15,167,000, an increase of $971,000 or 19.2% of which $328,000 related to the acquisition of Peachtree. The largest component of other expenses, salaries and benefits, increased $776,000 or 10.6%. Excluding the impact of Peachtree, salaries and benefits increased $616,000 or 8.4%. The largest component of the change over 2005 was an increase of $321,000 in incentive compensation related to the increase in profits for the year.
Equipment and occupancy expenses increased $84,000 of which $36,000 relates to the addition of Peachtree. Other operating expenses increased $267,000 of which $110,000 relates to the addition of Peachtree. Amortization of intangibles decreased $156,000 due to reduced amortization of the core deposit intangible recorded in connection with the merger with FNB Polk.
Other expenses for 2005 were $14,129,000 compared to $8,925,000 for 2004, an increase of $5,204,000 of which $3,836,000 relates to the addition of FNB Polk for a full twelve months. Salaries and benefits, increased $2,760,000 of which $1,891,000 relates to FNB Polk. Of the remaining $869,000 in increased compensation cost, approximately $780,000 is attributable to the Company’s expansion activities, including the expansion of the branch network into Fayetteville, Georgia in November, 2004 and additional expenses of the holding company after the merger with FNB Polk in September, 2004.
At the Company’s annual shareholders’ meeting held May 12, 2005, shareholders approved the adoption of the SouthCrest Financial Group, Inc. 2005 Stock Incentive Plan (the “Plan”), which provides for up to 549,000 shares of the Company’s stock to be awarded in the form of stock options. In December, 2005 the Company awarded 183,500 stock options to officers of the Company and the Banks. Prior to 2006, the Company had elected to follow APB Opinion No. 25, Accounting for Stock Issued to Employees, in accounting for its employee stock options. Accordingly, no compensation expense was recognized in the Company’s consolidated financial statements because the exercise price of the options equaled the market price of the Company’s common stock on the date of grant. In December 2004, the FASB issued SFAS No. 123(R), Accounting for Stock-Based Compensation (SFAS No. 123(R)), which the Company adopted in 2006. SFAS No. 123(R) requires that the fair value of equity instruments such as stock options be recognized as an expense in the historical financial statements as services are performed. Of the 183,500 options awarded in 2005, 104,000 were exercisable immediately while 79,500 will vest over a five year period beginning in 2006 and will therefore be subject to the expensing requirements under SFAS 123(R). The Company also awarded 7,900 stock options in December 2006 which will be subject to the requirements of SFAS 123(R). The Company recorded compensation expenses of $95,000 in 2006 relating to stock options. No tax benefit was recorded because all of the related stock options were considered tax qualifying. The accounting implications of the stock option plan are more fully explained in Notes 1 and 10 of Notes to Consolidated Financial Statements.
Equipment and occupancy expenses increased $680,000 in 2005 of which $554,000 relates to the addition of FNB Polk. Other operating expenses increased $1,559,000 in 2005 of which $1,187,000 relates to the addition of FNB Polk. Amortization of intangibles increased $205,000 in 2005 due to the merger with FNB Polk.
For 2006, other expenses amounted to 3.21% of average assets compared to 3.31% of average assets for 2005 and 3.05% in 2004. The following table provides information about our other expenses.
Table 4. Summary of Other Expenses
(Dollars in thousands)
| | | 2006 | | 2005 | | 2004 | |
| | | | | | | | |
| Salaries and benefits | | $ | 8,073 | | $ | 7,297 | | $ | 4,537 | |
| Equipment and occupancy | | | 1,650 | | | 1,559 | | | 879 | |
| Amortization of intangibles | | | 807 | | | 963 | | | 758 | |
| Professional fees | | | 439 | | | 477 | | | 333 | |
| Supplies | | | 295 | | | 302 | | | 258 | |
| Telephone | | | 197 | | | 187 | | | 108 | |
| Advertising | | | 261 | | | 130 | | | 103 | |
| Director fees | | | 370 | | | 343 | | | 202 | |
| Data processing expenses | | | 667 | | | 636 | | | 336 | |
| Other operating expenses | | | 2,778 | | | 2,302 | | | 1,411 | |
| | | $ | 15,167 | | $ | 14,196 | | $ | 8,925 | |
Income Tax Expense. Income tax expense in 2006 was $2,775,000 compared to $2,156,000 in 2005 and $1,660,000 in 2004. The Company’s effective tax rate was 32.5% for 2006 compared to 30.8% for 2005 and 30.1% for 2004. The Company’s effective tax rate is lower than statutory tax rates due primarily to certain elements of income that are not subject to taxation, such as the Banks’ earnings from tax-exempt securities and income on bank-owned life insurance.
FINANCIAL CONDITION
Management regularly monitors the financial condition of the Company in order to protect depositors, monitor asset quality and increase current and future earnings. At December 31, 2006 total assets were $544.0 million compared to $450.8 million at December 31, 2005, an increase of $93.2 million of which $68.9 million is attributable to Peachtree. In addition, the increase in total assets is due to the increase in loans which were funded with increases in deposits. The loan portfolio grew from $276.8 million at December 31, 2005 to $335.4 million at December 31, 2006, an increase of $58.6 million of which $33.5 is the result of the addition of Peachtree. The remaining $25.1 million increase in loans is primarily the result of loan growth experienced at the full-service office in Fayetteville.
Securities available for sale increased $16.3 million to $61.5 million while securities held to maturity declined $11.1 million to $67.3 million. Generally, in 2006 the Company did not reinvest its maturities from the investment portfolio due to the growth in the loan portfolio. The increase in securities available for sale was the result of the addition of Peachtree.
Fixed assets increased $4.1 million to $15.3 million at December 31, 2006. The addition of Peachtree accounted for $1.5 million of the increase. In the second quarter of 2005, Bank of Upson initiated a project in which it rebuilt its main office in Thomaston, Georgia. The effect of this project was to replace substantially all of its current facility, increasing its size from 16,000 to 26,000 square feet. Construction for this project has taken place in two phases, with the first phase completed in the third quarter of 2006 and the second phase to be completed in the first quarter of 2007. The total cost of the project, including the cost of furnishings, is estimated to be between $5.4 million and $5.6 million. Through December 31, 2006 approximately $5.0 million had been disbursed in connection with this project.
Deposits increased $84.7 million to $462.6 million of which $20.4 million was in noninterest-bearing demand deposits, $10.4 million in interest checking accounts, and $51.4 million in certificate accounts. Borrowed funds decreased $10.1 million, primarily in short-term Federal Home Loan Bank advances. The increases in certificate accounts were used to repay the short-term Federal Home Loan Bank advances and to fund the growth in loans, and contributed to the increase in the cost of funds from 2.05% in 2005 to 2.95% in 2006.
Stockholders’ equity increased $14.1 million due primarily to the issuance of 371,135 shares in connection with the Maplesville merger. Additionally, equity grew as a result of the Company’s earnings of $5.8 million less cash dividends of $1.9 million paid to shareholders. Equity also increased by $233,000 as a result of the adoption of SAB 108, and by $328,000 due to declines from 2005 in the unrealized losses on securities available for sale available for sale, net of deferred taxes.
The Company provides an Employee Stock Ownership Plan (“ESOP”) for its employees. Because the ESOP provides for the participants to have the option to diversify their account balances or to receive all or a portion of their account balance in cash upon termination, accounting rules require that the fair value of allocated shares held by the ESOP be classified on the balance sheet as a liability and therefore reflected as a reduction of retained earnings. The ESOP owned 42,773 shares at December 31, 2006 and 2005, and the fair values of these shares were $988,000 and $984,000 at those dates, respectively.
Securities. As of December 31, 2006, investment securities comprised 23.7% of the Company’s total assets compared to 27.4% at December 31, 2005, while federal funds sold and interest-bearing deposits in banks comprised approximately 3.1% of total assets at December 31, 2006 and 1.9% of total assets at December 31, 2005. As the Company’s loan portfolio has grown, investment securities and other earning assets represent a smaller portion of the Company’s balance sheet.
The following table presents, for the periods indicated, the carrying value of the Company’s investments. All securities classified as held to maturity are presented at adjusted cost while securities classified as available for sale are presented at their fair values. There are no securities classified as trading securities. For all securities classified as held to maturity, the Company has the intent and ability to hold them until they mature.
Table 5. Composition of Securities Portfolio
| | As of December 31, | |
| | | 2006 | | 2005 | | 2004 | |
| | (Dollars in thousands) | |
Securities held to maturity (at amortized cost): | | | | | | | |
| U.S. Treasuries and Agency bonds | | $ | 22,216 | | $ | 25,185 | | $ | 29,148 | |
| State and municipal bonds | | | 7,387 | | | 7,814 | | | 8,511 | |
| Mortgage backed securities | | | 36,665 | | | 44,322 | | | 49,262 | |
| Corporate bonds | | | 1,000 | | | 1,000 | | | 1,000 | |
| Total securities held to maturity | | | 67,268 | | | 78,321 | | | 87,921 | |
| | | | | | | | | | | |
Securities available for sale (at estimated fair value): | | | | | | | | | | |
| U.S. Treasuries and Agency bonds | | | 34,533 | | | 25,580 | | | 15,408 | |
| State and municipal bonds | | | 11,058 | | | 3,945 | | | 4,848 | |
| Mortgage backed securities | | | 14,198 | | | 14,594 | | | 18,360 | |
| Equity securities | | | 1,730 | | | 1,071 | | | 2,444 | |
| Total securities available for sale | | | 61,519 | | | 45,190 | | | 41,060 | |
| Total securities | | $ | 128,787 | | $ | 123,511 | | $ | 128,981 | |
The decline in held to maturity securities is the result of maturities and monthly principal payments received on mortgage-backed securities being in excess of securities purchased. In 2005 and 2006, these principal reductions were used to fund increases in the loan portfolio. The increase in securities available for sale from 2005 to 2006 is the result of securities acquired in the addition of Peachtree. The following table indicates, at December 31, 2006, the Company’s security portfolio segregated by major category with maturity and average yields presented:
Table 6. Maturity of Securities Portfolio
(Dollars in Thousands)
| | | Within One Year | | One to Five Years | | Five to Ten Years | | Over Ten Years | | Total | |
| | | $ | | % | | $ | | % | | $ | | % | | $ | | % | | $ | | % | |
| | | | | | | | | | | | | | | | | | | | | | |
| U.S. Government Agencies | | $ | 12,852 | | | 3.68 | % | $ | 21,523 | | | 4.74 | % | $ | 8,451 | | | 5.18 | % | $ | 13,924 | | | 4.58 | % | $ | 56,750 | | | 4.53 | % |
| State and municipal bonds (1) | | | 1,718 | | | 2.94 | % | | 8,118 | | | 3.86 | % | | 5,316 | | | 4.13 | % | | 3,292 | | | 4.49 | % | | 18,444 | | | 3.96 | % |
| Mortgage-backed securities (2) | | | 236 | | | 2.59 | % | | 6,878 | | | 4.11 | % | | 11,150 | | | 4.45 | % | | 32,599 | | | 4.76 | % | | 50,863 | | | 4.59 | % |
| Other securities (3) | | | — | | | 0.00 | % | | — | | | 0.00 | % | | 1,000 | | | 6.25 | % | | 1,730 | | | 4.63 | % | | 2,730 | | | 5.22 | % |
| Total | | $ | 14,806 | | | 3.58 | % | $ | 36,519 | | | 4.43 | % | $ | 25,917 | | | 4.69 | % | $ | 51,545 | | | 4.69 | % | $ | 128,787 | | | 4.49 | % |
| | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | |
Notes
| (1) | Yields on state and municipal bonds are not calculated on a tax-equivalent basis. |
| (2) | Mortgage backed securities are presented according to their final stated maturity. Their weighted average maturity is shorter because of monthly repayments of principal. |
| (3) | Includes corporate bonds and preferred equity securities issued by U.S. Government sponsored corporations. |
Loan Portfolio. The following table presents various categories of loans contained in the Company’s loan portfolio for the periods indicated.
Table 7. Composition of Loan Portfolio
As of December 31,
(Dollars in thousands)
| | | 2006 | | 2005 | | 2004 | | 2003 | | 2002 | |
Types of Loans | | | | | | | | | | | |
| Commercial, financial and agricultural | | $ | 23,996 | | $ | 19,841 | | $ | 18,560 | | $ | 9,757 | | $ | 6,882 | |
| Real estate — construction | | | 59,745 | | | 52,122 | | | 25,265 | | | 9,021 | | | 5,846 | |
| Real estate — mortgage | | | 211,676 | | | 169,555 | | | 145,413 | | | 68,154 | | | 64,571 | |
| Consumer | | | 33,690 | | | 31,567 | | | 35,680 | | | 32,352 | | | 36,231 | |
| Other loans | | | 6,058 | | | 3,554 | | | 4,415 | | | 4,009 | | | 4,842 | |
| Subtotal | | | 335,165 | | | 276,639 | | | 229,333 | | | 123,293 | | | 118,372 | |
| Less: Unearned income | | | 159 | | | 164 | | | 101 | | | 106 | | | 140 | |
| Less: Allowance for loan losses | | | 4,480 | | | 3,477 | | | 3,161 | | | 1,825 | | | 1,943 | |
| Total (net of allowance) | | $ | 330,526 | | $ | 272,998 | | $ | 226,071 | | $ | 121,362 | | $ | 116,289 | |
The following presents an analysis of maturities of the Company’s loans as of December 31, 2006, including the dollar amount of the loans maturing subsequent to the year ending December 31, 2007 distinguished between those with predetermined interest rates and those with variable interest rates:
Table 8. Loan Maturity Schedule
(Dollars in thousands)
| | | Due in one year or less | | Due in
one through five years | | Due after five years | | Total | |
| Commercial, financial, and agricultural | | $ | 12,055 | | $ | 11,355 | | $ | 585 | | $ | 23,996 | |
| Real estate — construction | | | 43,748 | | | 13,217 | | | 2,780 | | | 59,745 | |
| Real estate — mortgage | | | 56,462 | | | 85,954 | | | 69,260 | | | 211,676 | |
| Consumer | | | 9,535 | | | 23,390 | | | 765 | | | 33,690 | |
| Other loans | | | 780 | | | 987 | | | 4,291 | | | 6,058 | |
| Total | | $ | 122,580 | | $ | 134,903 | | $ | 77,682 | | $ | 335,165 | |
| | | | | | | | | | | | | | |
| Loans maturing after one year with: | | | | | | | | | | | | | |
| Fixed interest rates | | | | | $ | 104,839 | | $ | 46,937 | | $ | 151,776 | |
| Floating or adjustable interest rates | | | | | | 30,064 | | | 30,745 | | | 60,809 | |
| Total | | | | | $ | 134,903 | | $ | 77,682 | | $ | 212,585 | |
Nonaccrual, Past Due and Restructured Loans. The following table presents various categories of nonaccrual, past due and restructured loans in the Company’s loan portfolio as of the dates indicated.
Table 9. Nonaccrual, Past Due, and Restructured Loans
As of December 31,
(Dollars in thousands)
| | | 2006 | | 2005 | | 2004 | | 2003 | | 2002 | |
| Nonaccrual loans | | $ | 479 | | $ | 232 | | $ | 190 | | $ | — | | $ | — | |
| Loans past due 90 days or | | | | | | | | | | | | | | | | |
| more and still accruing | | $ | 1,015 | | $ | 549 | | $ | 186 | | $ | 118 | | $ | 264 | |
| Loans restructured under | | | | | | | | | | | | | | | | |
| troubled debt | | $ | — | | $ | — | | $ | — | | $ | — | | $ | — | |
Impaired loans and the average investment in impaired loans was as follows:
Table 10. Impaired Loans
As of December 31,
(Dollars in thousands)
| | | 2006 | | 2005 | | 2004 | | 2003 | | 2002 | |
| Impaired loans without a valuation | | | | | | | | | | | |
| allowance | | $ | — | | $ | — | | $ | — | | $ | — | | $ | — | |
| Impaired loans with valuation allowances | | | | | | | | | | | | | | | | |
| of $72, $35 and $29, respectively | | $ | 479 | | $ | 232 | | $ | 190 | | $ | — | | $ | — | |
| Average investment in impaired loans | | | | | | | | | | | | | | | | |
| for the period | | $ | 659 | | $ | 323 | | $ | 47 | | $ | 32 | | $ | 2 | |
At December 31, 2006, 2005 and 2004, the Company had $479,000, $232,000 and $190,000 in impaired loans with a valuation allowance and no impaired loans without a valuation allowance. The Company had no impaired loans at December 31, 2003, or 2002. The average investment in impaired loans during 2006, 2005 and 2004 was $659,000, $323,000 and $47,000, respectively. Interest income recognized on impaired loans for the years ended December 31, 2006, 2005, 2004, 2003, and 2002 was not material.
Accrual of interest is discontinued on a loan when management determines, upon consideration of economic and business factors affecting collection efforts, that collection of interest or principal is not reasonably expected.
Allowance for Loan Losses. The allowance for loan losses at December 31, 2006 was $4,480,000 compared to $3,477,000 at December 31, 2005 and $3,161,000 at December 31, 2004. The allowance for loan losses, as a percentage of total gross loans, at December 31, 2006 was 1.34% compared to 1.26% at December 31, 2005 and 1.38% as of December 31, 2004. The increase in this percentage from 2005 to 2006 relates primarily to the addition reserves acquired through the merger with Peachtree. The provision for loan losses during the years ended December 31, 2006, 2005 and 2004 was $839,000, $751,000, and 375,000.
In 2005, the Company changed the way it estimates its allowance for loan losses. In making this estimate, management utilizes a loan grading system to assign a risk grade to each loan based on factors such as the quality of collateral securing a loan, the financial condition of the borrower and the payment history of each loan. Based on net charge-off history experienced for each category within the loan portfolio, as well as general economic factors affecting the lending market, management assigns an estimated allowance range for each risk grade within each of the loan categories. Management then estimates the required allowance. Included in this estimate of the allowance may be a portion that is not allocated to a specific category of the loan portfolio, but which management deems is necessary based on the overall risk inherent in the loan portfolio. The estimation of the allowance may change due to fluctuations in any and all of the above factors. In addition, as trends change in terms of net charge-offs, past due loans, and generally economic conditions of the market areas served by the Company’s subsidiary banks, the assumptions will be adjusted appropriately and these adjustments are reflected in the quarterly analysis of the adequacy of the reserve.
The loan concentrations within the loan portfolio have changed in recent years, both due to changes in the lending practices of Bank of Upson, FNB Polk, and more recently, as a result of the merger with Peachtree. The portion of the gross loan portfolio represented by real estate loans have gradually increased, from 60% as of December 31, 2002 to 80% as of December 31, 2005 and 81% at December 31, 2006. The portion represented by consumer loans declined from 31% of gross loans as of December 31, 2002 to 11% at December 31, 2005 and 10% at December 31, 2006. Finally, the portion represented by commercial loans increased from 6% of gross loans as of December 31, 2002 to 7% of loans at December 31, 2005 and 2006.
Management considers the allowance for loan losses to be adequate; however, there can be no assurance that charge-offs in future periods will not exceed the allowance for loan losses or that additional provisions of the allowance will not be required.
Summary of Loan Loss Experience. An analysis of the Company’s loan loss experience is included in the following table for the periods indicated.
Table 11. Analysis of Allowance for Loan Losses
For the Periods Ended December 31,
(Dollars in thousands)
| | | 2006 | | 2005 | | 2004 | | 2003 | | 2002 | |
| Balance at beginning of period | | $ | 3,477 | | $ | 3,161 | | $ | 1,825 | | $ | 1,943 | | $ | 1,679 | |
| Charge-offs | | | | | | | | | | | | | | | | |
| Commercial loans | | | 102 | | | 31 | | | 50 | | | 32 | | | 263 | |
| Real estate - construction | | | — | | | — | | | — | | | — | | | — | |
| Real estate - mortgage | | | 263 | | | 50 | | | 46 | | | 87 | | | 12 | |
| Consumer | | | 393 | | | 613 | | | 334 | | | 461 | | | 42 | |
| Other | | | 145 | | | 199 | | | 175 | | | 177 | | | 155 | |
| Total Charge-offs | | | 903 | | | 893 | | | 605 | | | 757 | | | 472 | |
| Recoveries | | | | | | | | | | | | | | | | |
| Commercial loans | | | 6 | | | 42 | | | 25 | | | 6 | | | 107 | |
| Real estate - construction | | | — | | | — | | | — | | | — | | | — | |
| Real estate - mortgage | | | 10 | | | 1 | | | 30 | | | 18 | | | — | |
| Consumer | | | 328 | | | 310 | | | 172 | | | 191 | | | 57 | |
| Other | | | 92 | | | 105 | | | 78 | | | 100 | | | 69 | |
| Total recoveries | | | 436 | | | 458 | | | 305 | | | 315 | | | 233 | |
| Net (charge-offs) | | | (467 | ) | | (435 | ) | | (300 | ) | | (442 | ) | | (239 | ) |
| Additions charged to operations | | | 839 | | | 751 | | | 375 | | | 324 | | | 519 | |
| Decrease in reserve due to disposal | | | | | | | | | | | | | | | | |
| of finance company | | | — | | | — | | | — | | | — | | | (16 | ) |
| Addition to reserves resulting from | | | | | | | | | | | | | | | | |
| business combination | | | 631 | | | — | | | 1,261 | | | — | | | — | |
| Balance at end of period | | $ | 4,480 | | $ | 3,477 | | $ | 3,161 | | $ | 1,825 | | $ | 1,943 | |
| Ratio of net charge-offs during the | | | | | | | | | | | | | | | | |
| period to average loans outstanding | | | | | | | | | | | | | | | | |
| during the period | | | 0.16 | % | | 0.17 | % | | 0.19 | % | | 0.37 | % | | 0.21 | % |
The following table summarizes the Company’s allowances for loan losses at year-end for 2006, 2005, 2004, 2003, and 2002.
Table 12. Allocation of Allowance For Loan Losses
At December 31,
(Dollars in thousands)
| | | 2006 | | 2005 | | 2004 | | 2003 | | 2002 | |
| | | Amount | | % of total loan | | Amount | | % of total loan | | Amount | | % of total loan | | Amount | | % of total loan | | Amount | | % of total loan | |
Loan Category | | | | | | | | | | | | | | | | | | | | | |
| Commercial | | $ | 477 | | | 7 | | $ | 296 | | | 7 | | $ | 1,019 | | $ | 8 | | $ | 456 | | | 8 | | $ | 486 | | | 6 | |
| Real estate - construction | | | 896 | | | 18 | | | 782 | | | 19 | | | 76 | | | 11 | | | — | | | 8 | | | — | | | 5 | |
| Real estate - mortgage | | | 1,895 | | | 63 | | | 1,418 | | | 61 | | | 582 | | | 63 | | | 91 | | | 55 | | | 97 | | | 54 | |
| Consumer | | | 928 | | | 10 | | | 778 | | | 11 | | | 1,283 | | | 16 | | | 1,095 | | | 26 | | | 1,166 | | | 31 | |
| Other | | | 94 | | | 2 | | | 72 | | | 2 | | | 201 | | | 2 | | | 183 | | | 3 | | | 194 | | | 4 | |
| Unallocated | | | 190 | | | — | | | 131 | | | — | | | — | | | — | | | — | | | — | | | — | | | — | |
| Total | | $ | 4,480 | | | | | $ | 3,477 | | | | | $ | 3,161 | | | | | $ | 1,825 | | | | | $ | 1,943 | | | | |
Management believes commercial loans generally pose a higher level of risk per loan than other categories in the loan portfolio, such as real estate -mortgage loans. Management believes that, like consumer loans, commercial loans are more susceptible to risks associated with local economic and employment conditions. In addition, the credit quality of a commercial loan is also often dependent on the borrower’s management and its ability to adapt to changes in the marketplace, both of which are difficult to gauge at the time a loan is made. Given management’s belief regarding the increased risk associated with commercial loans and the Company’s historical loan losses associated with commercial loans, management has traditionally allocated a significant portion of the allowance for loan losses to commercial loans. For the five year period from 2002 through 2006, commercial loans charged off represented 13.2% of total chargeoffs during that period, including 55.7% of total chargeoffs in 2002. While commercial loan chargeoffs have been much lower since 2002, in 2006 they rose to 11.3% of chargeoffs from 3.5% in 2005. Therefore, management allocated 10.6% of the allowance for loan losses to commercial loans at December 31, 2006, to reflect management’s belief regarding general risk in the loan category and the Company’s historical losses with respect to commercial loans.
Real estate construction lending has been a significant source of growth for the Company’s loan portfolio in from 2004 through 2006, increasing from $9.0 million at year-end 2003 to $52.1 million at year-end 2005 and $59.7 million at year-end 2006. While the Company has not had any chargeoffs for such loans in the past five years, management still allocated 20.0% of its allowance for loan losses to this category of loans. Much of this growth has been in loans for the construction and development of commercial real estate, which generally carries more risk than the construction of a single family dwelling due to the size of the loan and complexity of the project.
Consumer loans have historically comprised a high percentage of the Company’s loan charge-offs, comprising 50.8% of total chargeoffs over the past five years, including 43.5% of total chargeoffs in 2006 and 68.7% of total chargeoffs in 2005. Management believes that the increased risk of loss in this loan category is a result of dependence on the borrower’s financial stability and the nature of the collateral for such loans, generally automobiles, boats and other personal property, which may make it more difficult to recover losses on such loans compared to loans in other categories, such as real estate-mortgage loans. As a result, management has allocated more of the allowance for loan losses to the consumer loan category than its relative composition of the entire portfolio. Management allocated 20.7% of the allowance for loan losses to these loans while they only comprise 10% of the portfolio.
Real estate mortgage loans constituted 63% of outstanding loan balances at December 31, 2006. All loans in this category represent real estate mortgages secured by both residential and commercial properties. Management allocated 42.3% of the total allowance for loan losses to these loans.
The Company had unallocated reserves of approximately $190,000 at December 31, 2006 compared to $131,000 at December 31, 2005. While not allocated to any particular category of loans, Management believes it should be included in its estimation of the allowance based on the overall risk inherent in the loan portfolio.
Deposits. Table 1 on Page 5 contains average amounts of the Company’s deposit accounts and the weighted average interest rates paid on those accounts. As illustrated in Table 1, the Company’s average balance of interest-bearing deposits increased by approximately $25.8 million from 2005 to 2006 and $91.1 million from 2004 to 2005. Of the increase from 2004 to 2005, $86.7 million was due to the addition of FNB Polk for the entire twelve month period in 2005 compared to only three months in 2004. For 2006, certificates of deposit represented approximately 54.8% of total interest-bearing deposits, compared to 50.2% for 2005 and 50.5% for 2004.
The following table indicates amounts outstanding of time certificates of deposit of $100,000 or more and their respective maturities at December 31, 2006:
Table 13. Maturity of Certificates of Deposit
With Balances $100,000 Or More
(Dollars in thousands)
| Three months or less | | $ | 20,870 | |
| Three through six months | | | 10,001 | |
| Six through twelve months | | | 20,094 | |
| Over one year | | | 12,743 | |
| Total | | $ | 63,708 | |
At December 31, 2006, the Company had no deposit relationships that represented concentrations.
Return on Equity and Assets. Returns on average consolidated assets and average consolidated equity presented below.
Table 14. Selected Performance Measures
| | | 2006 | | 2005 | | 2004 | |
| | | | | | | | |
| Return on average assets | | | 1.22 | % | | 1.13 | % | | 1.32 | % |
| Return on average stockholders’ equity | | | 10.05 | % | | 9.29 | % | | 11.67 | % |
| Dividend payout ratio | | | 31.6 | % | | 35.3 | % | | 30.2 | % |
| Average equity to average assets | | | 12.15 | % | | 12.17 | % | | 11.31 | % |
Short-term borrowings. The table below provides information about short-term borrowed funds.
Table 15. Short-term Borrowed Funds
(Dollars in thousands)
| | | 2006 | | 2005 | | 2004 | |
| | | | | | | | |
| Amount outstanding at year-end | | $ | — | | $ | 15,000 | | $ | — | |
| Average rate | | | — | | | 4.52 | % | | — | |
| Average amounts outstanding during the year | | $ | 7,627 | | $ | 4,372 | | $ | 147 | |
| Average rate | | | 5.15 | % | | 4.46 | % | | 1.36 | % |
| Maximum amount outstanding at any month-end | | | | | | | | | | |
| during the year | | $ | 10,000 | | $ | 18,700 | | $ | 5,050 | |
Liquidity and Interest Rate Sensitivity. Net interest income, the Company’s primary source of earnings, fluctuates with significant interest rate movements. To lessen the impact of these margin swings, management strives to structure the balance sheet so that repricing opportunities exist for both assets and liabilities in roughly equivalent amounts at approximately the same time intervals. Imbalances in these repricing opportunities at any point in time constitute interest rate sensitivity.
Interest rate sensitivity refers to the responsiveness of interest-bearing assets and liabilities to changes in market interest rates. The rate sensitive position, or gap, is the difference in the volume of rate sensitive assets and liabilities, at a given time interval. The general objective of gap management is to manage actively rate sensitive assets and liabilities so as to reduce the impact of interest rate fluctuations on the net interest margin. Management generally attempts to maintain a balance between rate sensitive assets and liabilities as the exposure period is lengthened to minimize the Company’s overall interest rate risks.
The asset mix of the balance sheet is continually evaluated in terms of several variables: yield, credit quality, appropriate funding sources and liquidity. To effectively manage the liability mix of the balance sheet, there should be a focus on expanding the various funding sources. The interest rate sensitivity position at year-end 2006 is presented in the following table. The difference between rate sensitive assets and rate sensitive liabilities, or the interest rate sensitivity gap, is shown at the bottom of the table. Since all interest rates and yields do not adjust at the same velocity, the gap is only a general indicator of rate sensitivity.
Table 16. Interest Sensitivity Gap Analysis
(Dollars in thousands)
| | | 0-3 months | | 3-12 months | | 1-5 years | | After 5 years | | Totals | |
RATE SENSITIVE ASSETS | | | | | | | | | | | |
| Loans | | $ | 115,265 | | $ | 50,917 | | $ | 134,939 | | $ | 34,044 | | $ | 335,165 | |
| Securities | | | 1,958 | | | 12,848 | | | 36,519 | | | 77,462 | | | 128,787 | |
| Federal funds sold | | | 12,504 | | | — | | | — | | | — | | | 12,504 | |
| Interest bearing deposits in other banks | | | 1,911 | | | 2,871 | | | 99 | | | — | | | 4,881 | |
| Total rate sensitive assets | | $ | 131,638 | | $ | 66,636 | | $ | 171,557 | | $ | 111,506 | | $ | 481,337 | |
| | | | | | | | | | | | | | | | | |
RATE SENSITIVE LIABILITIES | | | | | | | | | | | | | | | | |
| Interest bearing demand and | | | | | | | | | | | | | | | | |
| savings deposits | | $ | 11,042 | | $ | 11,042 | | $ | 65,756 | | $ | 76,549 | | $ | 164,389 | |
| Certificates less than $100,000 | | | 36,986 | | | 79,414 | | | 37,214 | | | 330 | | | 153,944 | |
| Certificates $100,000 and over | | | 20,870 | | | 30,905 | | | 12,743 | | | — | | | 63,708 | |
| Other borrowed funds | | | 780 | | | — | | | 5,165 | | | — | | | 5,945 | |
| Total rate sensitive liabilities | | $ | 69,678 | | $ | 120,551 | | $ | 120,878 | | $ | 76,879 | | $ | 387,986 | |
| | | | | | | | | | | | | | | | | |
| Interest-sensitivity gap | | $ | 61,960 | | $ | (53,915 | ) | $ | 50,679 | | $ | 34,627 | | $ | 93,351 | |
| Cumulative interest-sensitivity gap | | $ | 61,960 | | $ | 8,045 | | $ | 58,724 | | $ | 93,351 | | | | |
| Interest-sensitivity gap ratio | | | 188.92 | % | | 55.28 | % | | 141.93 | % | | 145.04 | % | | 124.06 | % |
| Cumulative interest-sensitivity gap ratio | | | 188.92 | % | | 104.23 | % | | 118.88 | % | | 124.06 | % | | | |
As evidenced by the table above, as of December 31, 2006, SouthCrest was cumulatively asset sensitive within one year. In an increasing interest rate environment, an asset sensitive position (a gap ratio greater than 100%) is generally advantageous as interest earning assets reprice sooner than interest bearing liabilities. Conversely, in a decreasing interest rate environment, an asset sensitive position is generally not favorable since interest earning assets reprice to the lower interest rates sooner than interest bearing liabilities. With respect to SouthCrest, an increase in interest rates could result in higher net interest income while a decline in interest rates could result in decreased net interest income. This, however, assumes that all other factors affecting income remain constant. It also assumes no substantial prepayments in the loan or investment portfolios. In the table above, maturities in the investment portfolio are shown by their stated maturity. The Company’s mortgage--backed securities portfolio, for example, provide the Company with monthly returns of principal while the balances are shown in the above table are included according to their stated maturity. Also, a portion of interest bearing demand and savings deposits are assumed to reprice in each period, while those accounts may not actually reprice to higher rates in the event of a general increase in interest rates. Finally, if interest rates remain constant, it is possible for some of the Company’s certificate accounts to reprice at rates that are higher or lower than their current rates, as rates in effect at the time the certificates were opened may be different than those in effect currently.
SouthCrest generally structures its rate sensitivity position to hedge against rapidly rising or falling interest rates. The Asset/Liability Committees of the Banks meet regularly to analyze each bank’s position with respect to interest rate risk and develops future strategies for managing that risk. Such strategy includes anticipation of future interest rate movements. At December 31, 2006, based on an interest rate risk simulation prepared by an independent firm, the Company estimates that if interest rates rose 200 basis points, net interest income would increase by 0.45%. Conversely, if interest rates declined by 200 basis points, the Company’s net interest income would decline by 1.33%.
The Company, if needed, has the ability to cash out certificates with asset cash flow under normal circumstances. In the event that abnormal circumstances arise, the Banks have federal funds lines of credit in place totaling $22.8 million. In addition, if needed for both short-term and longer-term funding needs, the Banks have available lines of credit with the Federal Home Loan Bank of Atlanta on which $16.1 million was available at December 31, 2006. The parent company also has a $5.5 million line of credit on which it may draw funds as needed until October 16, 2008, after which date the outstanding principal will be due in ten annual installments. The line of credit is secured by the common stock of the Company’s subsidiary banks and carries an interest rate of prime rate minus 0.50%. Interest is payable quarterly. The agreement contains restrictions concerning the maintenance of certain minimum capital levels and regulatory capital ratios, loan loss reserves, and profitability ratios. The primary purpose of the line is to provide funds that may be needed by the holding company from time to time. At December 31, 2006, $780,000 was outstanding on this line of credit.
Liquidity represents the ability to provide steady sources of funds for loan commitments and investment activities, as well as to maintain sufficient funds to cover deposit withdrawals and payment of debt and operating obligations. These funds can be obtained by converting assets to cash or by attracting new deposits. SouthCrest’s primary source of liquidity comes from its ability to maintain and increase deposits through its banks. Below are the pertinent liquidity balances and ratios for the periods ended December 31, 2006, 2005 and 2004.
Table 17. Liquid Assets and Liquidity Measures
(Dollars in thousands)
| | | 2006 | | 2005 | | 2004 | |
| | | | | | | | |
| Cash and due from banks | | $ | 16,926 | | $ | 15,930 | | $ | 9,814 | |
| Interest bearing deposits in banks | | | 4,881 | | | 4,039 | | | 5,246 | |
| Federal funds sold | | | 12,054 | | | 4,297 | | | 9,930 | |
| Securities | | | 128,787 | | | 123,511 | | | 128,981 | |
| Ratio of CDs> $100,000 to total deposits | | | 13.77 | % | | 11.01 | % | | 7.93 | % |
| Loan to deposit ratio | | | 72.41 | % | | 73.16 | % | | 65.08 | % |
| Brokered deposits | | | N/A | | | N/A | | | N/A | |
At December 31, 2006, large denomination certificates accounted for 13.77% of total deposits compared with 11.01% at December 31, 2005 and 7.93% at December, 31, 2004. Large denomination CDs are generally more volatile than other deposits. As a result, management monitors the competitiveness of the rates it pays on its large denomination CDs and periodically adjusts its rates in accordance with market demands. Despite the increase, SouthCrest is not heavily dependent on large deposits in relation to industry averages for institutions of similar size.
Cash and cash equivalents are the primary source of liquidity. At December 31, 2006, cash and due from banks amounted to $16.9 million, representing 3.1% of total assets. Overnight federal funds sold totaled $12.5 million or 2.3% of total assets and interest-bearing deposits in other financial institutions totaled $4.9 million or 0.9% of total assets. Securities available for sale provide a secondary source of liquidity. Also securities that are classified as held to maturity provide liquidity through cash flows of maturing securities and monthly principal payments on mortgage-backed securities.
Brokered deposits are deposit instruments, such as certificates of deposit, deposit notes, bank investment contracts and certain municipal investment contracts that are issued through brokers and dealers who then offer and/or sell these deposit instruments to one or more investors. As of December 31, 2006, SouthCrest had no brokered deposits in its portfolio.
In the second quarter of 2005, Bank of Upson initiated a project in which it will rebuild its main office in Thomaston, Georgia. This project will replace substantially all of its current facility, increasing its size from 16,000 to 26,000 square feet. Construction for this project will take place in phases, requiring approximately eighteen months to complete. The cost of the project, including the cost of furnishings, is estimated to be between $5.4 million and $5.6 million. The first phase was completed in the third quarter of 2006 at a cost of approximately $3.7 million. The second phase is expected to be completed in the first quarter of 2007. Through December 31, 2006 approximately $5.0 million had been disbursed in connection with this project.
Capital Adequacy. There are two primary measures of capital adequacy for banks and bank holding companies: (i) risk-based capital guidelines and (ii) the leverage ratio.
The risk-based capital guidelines measure the amount of a bank’s required capital in relation to the degree of risk perceived in its assets and its off-balance sheet items. Note that under the risk-based capital guidelines, capital is divided into two “tiers.” Tier 1 capital consists of common shareholders’ equity, non-cumulative and cumulative (bank holding companies only) perpetual preferred stock and minority interest. Goodwill and other intangible assets are subtracted from the total. Tier 2 capital consists of the allowance for loan losses, hybrid capital instruments, term subordinated debt and intermediate term preferred stock. Banks are required to maintain a minimum risk-based capital (tier 1 plus tier 2) ratio of 8.0%, with at least 4.0% consisting of Tier 1 capital.
The second measure of capital adequacy relates to the leverage ratio. The leverage ratio is computed by dividing Tier 1 capital into average total assets.
As of December 31, 2006, the most recent notification from the Federal Deposit Insurance Corporation categorized the Banks as well capitalized under the regulatory framework for prompt corrective action. To be categorized as well capitalized, the Banks must maintain minimum total risk-based, Tier I risk-based and Tier I leverage ratios as set forth in the following table. There are no conditions or events since that notification that management believes have changed the Banks’ category. Prompt corrective action provisions are not applicable to bank holding companies.
The table below illustrates the regulatory capital ratios of SouthCrest, Bank of Upson, The First National Bank of Polk County and Peachtree Bank as of December 31, 2006.
Table 18. Capital Adequacy Ratios at December 31, 2006
| | | Maximum Required | | Minimum Required to be Well Capitalized | | Consolidated | | Upson | | Polk | | Peachtree | |
| | | | | | | | | | | | | | |
| Risk-based capital ratios | | | | | | | | | | | | | |
| Total risk based capital | | | 8.00 | % | | 10.00 | % | | 15.97 | % | | 14.68 | % | | 20.19 | % | | 12.83 | % |
| Tier 1 | | | 4.00 | % | | 6.00 | % | | 14.77 | % | | 13.51 | % | | 18.94 | % | | 11.60 | % |
| Tier 1 leverage ratio | | | 4.00 | % | | 5.00 | % | | 10.81 | % | | 9.85 | % | | 12.04 | % | | 9.04 | % |
Fourth Quarter Analysis
In the quarter ended December 31, 2006, the Company recorded net income of $1,493,000 or $0.39 per share, compared to $1,154,000, or $0.32 per share, for the same period in 2005, an increase of $339,000. The addition of Peachtree Bank as of October 31, 2006 accounted for $156,000 of this increase. Additionally, in the fourth quarter of 2005, the Company recognized an expense of $184,000, or $116,000 net of tax, representing a loss on the disposal of equipment related to data processing equipment and software that was rendered obsolete as a result of our consolidation of computer systems in November, 2005. Table 19 contains a summary of our quarterly financial results for 2006 and 2005.
Table 19. Quarterly Financial Results
(Dollars in thousands except share and per share amounts)
| | | For the three months ended | |
| | | 3/31/2006 | | 6/30/2006 | | 9/30/2006 | | 12/31/2006 | |
Summary of Operations | | | | | | | | | |
| Interest income | | $ | 6,670 | | $ | 6,995 | | $ | 7,409 | | $ | 8,350 | |
| Interest expense | | | 2,089 | | | 2,371 | | | 2,668 | | | 3,105 | |
| Net interest income | | | 4,581 | | | 4,624 | | | 4,741 | | | 5,245 | |
| Provision for loan losses | | | 108 | | | 133 | | | 267 | | | 331 | |
| Other income | | | 1,230 | | | 1,334 | | | 1,344 | | | 1,456 | |
| Other expense | | | 3,607 | | | 3,708 | | | 3,663 | | | 4,189 | |
| Income tax expense | | | 690 | | | 691 | | | 706 | | | 688 | |
| Net income | | | 1,406 | | | 1,426 | | | 1,449 | | | 1,493 | |
| | | | | | | | | | | | | | |
| Basic and diluted earnings per share | | $ | 0.39 | | $ | 0.40 | | $ | 0.42 | | $ | 0.39 | |
| Dividends per share | | $ | 0.125 | | $ | 0.125 | | $ | 0.125 | | $ | 0.125 | |
| Average shares outstanding | | | 3,581,193 | | | 3,581,193 | | | 3,581,193 | | | 3,827,272 | |
| | | For the three months ended | |
| | | 3/31/2005 | | 6/30/2005 | | 9/30/2005 | | 12/31/2005 | |
Summary of Operations | | | | | | | | | |
| Interest income | | $ | 5,445 | | $ | 5,797 | | $ | 6,095 | | $ | 6,556 | |
| Interest expense | | | 1,299 | | | 1,482 | | | 1,684 | | | 1,959 | |
| Net interest income | | | 4,146 | | | 4,315 | | | 4,411 | | | 4,597 | |
| Provision for loan losses | | | 121 | | | 152 | | | 246 | | | 232 | |
| Other income | | | 537 | | | 1,251 | | | 1,577 | | | 1,113 | |
| Other expense | | | 3,418 | | | 3,435 | | | 3,514 | | | 3,829 | |
| Income tax expense | | | 325 | | | 621 | | | 715 | | | 495 | |
| Net income | | | 819 | | | 1,358 | | | 1,513 | | | 1,154 | |
| Basic and diluted earnings per share | | $ | 0.23 | | $ | 0.38 | | $ | 0.42 | | $ | 0.32 | |
| Dividends per share | | $ | 0.120 | | $ | 0.120 | | $ | 0.120 | | $ | 0.120 | |
| Average shares outstanding | | | 3,571,556 | | | 3,571,556 | | | 3,571,257 | | | 3,576,369 | |
Effects of Inflation and Changing Prices
Inflation generally increases the cost of funds and operating overhead, and to the extent loans and other assets bear variable rates, the yields on such assets. Unlike most industrial companies, virtually all of the assets and liabilities of a financial institution are monetary in nature. As a result, interest rates generally have a more significant impact on the performance of a financial institution than the effects of general levels of inflation. Although interest rates do not necessarily move in the same direction or to the same extent as the prices of goods and services, increases in inflation generally have resulted in increased interest rates. In addition, inflation affects financial institutions’ increased costs of goods and services purchased, the cost of salaries and benefits, occupancy expense, and similar items. Inflation and related increases in interest rates generally decrease the market value of shareholders’ equity. Mortgage originations and refinancings tend to slow as interest rates increase, and can reduce SouthCrest’s earnings from such activities and the income from the sale of residential mortgage loans in the secondary market.
Off-Balance-Sheet Financing
Our financial statements do not reflect various commitments and contingent liabilities that arise in the normal course of business. These off-balance-sheet financial instruments include commitments to extend credit and standby letters of credit. These financial instruments are included in the financial statements when funds are distributed or the instruments become payable. We use the same credit policies in making commitments as we do for on-balance -sheet instruments. Our exposure to credit loss in the event of nonperformance by the other party to the financial instruments for commitments to extend credit, standby letters of credit and credit card commitments is represented by the contractual amount of those instruments. Table 20 below contains a summary of our contractual obligations and commitments as of December 31, 2006.
Table 20. Commitments and Contractual Obligations
(Dollars in thousands)
| | | Less than one year | | 1-3 years | | 3-5 years | | Thereafter | | Total | |
| Contractual obligations | | | | | | | | | | | |
| Deposits having no stated maturity | | $ | 244,970 | | $ | — | | $ | | | $ | | | $ | 244,970 | |
| Certificates of Deposit | | | 167,365 | | | 37,719 | | | 12,238 | | | 330 | | | 217,652 | |
| FHLB advances and other | | | | | | | | | | | | | | | | |
| borrowed funds | | | 110 | | | 5,133 | | | 156 | | | 546 | | | 5,945 | |
| Deferred compensation | | | 23 | | | 40 | | | 180 | | | 2,522 | | | 2,765 | |
| Leases | | | 104 | | | 260 | | | 153 | | | 453 | | | 970 | |
| | | | | | | | | | | | | | | | | |
| Total contractual obligations | | $ | 412,572 | | $ | 43,152 | | $ | 12,727 | | $ | 3,851 | | $ | 472,302 | |
| | | | | | | | | | | | | | | | | |
| Commitments | | | | | | | | | | | | | | | | |
| Commitments to extend credit | | $ | 40,623 | | $ | | | $ | | | $ | | | $ | 40,623 | |
| Credit card commitments | | | 9,125 | | | | | | | | | | | | 9,125 | |
| Commercial standby letters of credit | | | 711 | | | | | | | | | | | | 711 | |
| Total commitments | | $ | 50,459 | | $ | | | $ | | | $ | | | $ | 50,459 | |
Stock Performance and Dividend Information
After the merger with First Polk Bankshares, the Company’s common stock began trading on the over-the-counter market under the symbol “SCSG.” The graph below compares our stock performance against the Russell 2000 index and the SNL Pink Bank Index, an index of community banks whose stock trades in the over the counter market. The graph reflects the performance of a $100 investment in the common stock of SouthCrest and the applicable stock indices since January 18, 2005, the first recorded trade in 2005. The graph assumes reinvestment of all dividends in the common stock of SouthCrest or in the applicable stock index.
Source : SNL Financial LC, Charlottesville, VA © 2007
Index | | 01/18/05 | | 12/31/05 | | 03/31/06 | | 06/30/06 | | 09/30/06 | | 12/31/06 | |
| SouthCrest Financial Group, Inc. | | | 100.00 | | | 130.01 | | | 133.59 | | | 134.30 | | | 142.19 | | | 133.36 | |
| Russell 2000 | | | 100.00 | | | 108.99 | | | 124.18 | | | 117.94 | | | 118.46 | | | 129.01 | |
| SNL Pink Bank Index | | | 100.00 | | | 108.18 | | | 111.65 | | | 113.38 | | | 115.32 | | | 118.44 | |
The table below provides the high and low trading prices for transactions during the given quarters for the previous two years on the Over-the-Counter Bulletin Board, as well as dividends paid in those quarters.
| | | 2006 | | 2005 | |
| | | High | | Low | | Dividends | | High | | Low | | Dividends | |
| | | | | | | | | | | | | | |
| First Quarter | | $ | 24.00 | | $ | 21.50 | | $ | 0.125 | | $ | 21.25 | | $ | 18.00 | | $ | 0.120 | |
| Second Quarter | | $ | 24.50 | | $ | 23.50 | | $ | 0.125 | | $ | 20.50 | | $ | 17.75 | | $ | 0.120 | |
| Third Quarter | | $ | 26.00 | | $ | 22.20 | | $ | 0.125 | | $ | 25.00 | | $ | 19.10 | | $ | 0.120 | |
| Fourth Quarter | | $ | 25.50 | | $ | 22.80 | | $ | 0.125 | | $ | 24.75 | | $ | 23.00 | | $ | 0.120 | |
The Company generally declares a dividend on the first business day of each quarter to be paid on the last business day of that month to the shareholders of record two weeks prior to the payment date.
