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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20429
FORM 10-Q
QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d)
OF THE SECURITIES EXCHANGE ACT OF 1934
For the Quarterly Period Ended March 31, 2007
SEC Commission File No.: 000-52195
BANK OF THE CAROLINAS CORPORATION
(Exact name of registrant as specified in its charter)
NORTH CAROLINA | 20-4989192 | |
(State or other jurisdiction of incorporation) | (IRS Employer Identification No.) | |
135 Boxwood Village Drive Mocksville, North Carolina | 27028 | |
(Address of principal executive offices) | (Zip Code) |
Registrant’s telephone number, including area code: (336) 751-5755
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. Yes x No ¨
Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, or a nonaccelerated filer. See definition of accelerated filer and large accelerated filer in Rule 12b-2 of the Exchange Act.
Large accelerated filer ¨ Accelerated filer ¨ Non-accelerated filer x
Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act). Yes ¨ No x
On May 14, 2007 there were 3,831,692 outstanding shares of the registrant’s common stock.
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BANK OF THE CAROLINAS CORPORATION
FORM 10-Q
March 31, 2007
INDEX
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Bank of the Carolinas Corporation
Consolidated Balance Sheets
(In thousands, except share and per share data)
March 31 2007 | December 31 2006* | |||||||
(Unaudited) | ||||||||
Assets | ||||||||
Cash and due from banks | $ | 5,594 | $ | 5,626 | ||||
Interest-bearing deposits in banks | 100 | 7,777 | ||||||
Federal funds sold | 27,467 | 6,449 | ||||||
Securities available for sale | 58,452 | 55,677 | ||||||
Loans | 356,948 | 354,555 | ||||||
Less, Allowance for loan losses | (3,735 | ) | (3,732 | ) | ||||
Total Loans, net | 353,213 | 350,823 | ||||||
Premises and equipment | 11,391 | 11,142 | ||||||
Accrued interest receivable | 2,639 | 2,449 | ||||||
Other real estate owned | 918 | 1,000 | ||||||
Deferred tax assets | 784 | 768 | ||||||
Goodwill | 591 | 591 | ||||||
Bank owned life insurance | 9,019 | 8,937 | ||||||
Other assets | 2,675 | 3,339 | ||||||
Total assets | $ | 472,843 | $ | 454,578 | ||||
Liabilities and Shareholders’ Equity | ||||||||
Deposits: | ||||||||
Non-interest bearing demand deposits | $ | 29,603 | $ | 26,317 | ||||
Interest bearing demand deposits | 64,377 | 67,214 | ||||||
Savings deposits | 11,428 | 10,021 | ||||||
Large denomination time deposits | 161,724 | 153,017 | ||||||
Other time deposits | 140,084 | 126,152 | ||||||
Total deposits | 407,216 | 382,721 | ||||||
Borrowings | 23,000 | 31,000 | ||||||
Securities sold under agreements to repurchase | 994 | — | ||||||
Other liabilities | 3,191 | 3,143 | ||||||
Total liabilities | 434,401 | 416,864 | ||||||
Commitments and contingencies (Note 3) | ||||||||
Shareholders’ Equity: | ||||||||
Common stock, par value $5 per share: 15,000,000 shares authorized; Issued and outstanding 3,831,692 shares in 2007 and 3,826,792 in 2006 | 19,158 | 19,134 | ||||||
Additional paid-in capital | 11,471 | 11,444 | ||||||
Retained earnings | 7,881 | 7,293 | ||||||
Accumulated other comprehensive loss | (68 | ) | (157 | ) | ||||
Total stockholders’ equity | 38,442 | 37,714 | ||||||
Total liabilities and stockholders’ equity | $ | 472,843 | $ | 454,578 | ||||
* | Derived from audited financial statements. |
See accompanying notes.
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Bank of the Carolinas Corporation
Consolidated Statements of Income
(Unaudited)
(In thousands, except per share data)
��
Three Months Ended March 31 | ||||||
2007 | 2006 | |||||
Interest Income | ||||||
Interest and fees on loans | $ | 7,309 | $ | 5,805 | ||
Interest on securities | 614 | 477 | ||||
Interest on federal funds sold | 177 | 138 | ||||
Interest on deposits in other banks | 4 | 1 | ||||
Total interest income | 8,104 | 6,421 | ||||
Interest Expense | ||||||
Interest on deposits | 4,250 | 2,676 | ||||
Interest on borrowed funds | 285 | 271 | ||||
Total interest expense | 4,535 | 2,947 | ||||
Net Interest Income | 3,569 | 3,474 | ||||
Provision for loan losses | 62 | 117 | ||||
Net interest income after provision for loan losses | 3,507 | 3,357 | ||||
Non-interest income | ||||||
Customer service fees | 236 | 221 | ||||
Mortgage loan broker fees | 31 | 59 | ||||
Investment services | 43 | — | ||||
Income from bank owned life insurance | 82 | 49 | ||||
Other income | 37 | 28 | ||||
Total non-interest income | 429 | 357 | ||||
Noninterest Expense | ||||||
Salaries and benefits | 1,517 | 1,355 | ||||
Occupancy and equipment | 418 | 337 | ||||
Data processing expense | 190 | 173 | ||||
Other | 662 | 601 | ||||
Total non-interest expense | 2,787 | 2,466 | ||||
Income before income taxes | 1,149 | 1,248 | ||||
Income taxes | 369 | 444 | ||||
Net Income | $ | 780 | $ | 804 | ||
Earnings Per Share | ||||||
Basic | $ | 0.20 | $ | 0.21 | ||
Diluted | $ | 0.20 | $ | 0.20 | ||
Dividends Declared | $ | 0.05 | $ | 0.05 | ||
See accompanying notes.
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Bank of the Carolinas Corporation
Consolidated Statements of Cash Flows
(Unaudited)
(In thousands)
Three Months Ended March 31, 2007 | Three Months Ended March 31, 2006 | |||||||
Cash Flows from Operating Activities: | ||||||||
Net income | 780 | 804 | ||||||
Adjustments to reconcile net income to net cash provided by operating activities: | ||||||||
Provision for loan losses | 62 | 117 | ||||||
Deferred tax benefit | (71 | ) | (1 | ) | ||||
Stock based compensation expense | 5 | 2 | ||||||
Depreciation and amortization | 170 | 157 | ||||||
Loss on sale of other real estate owned | 13 | — | ||||||
Loss on disposal of fixed assets | 2 | — | ||||||
Income from bank owned life insurance | (82 | ) | (49 | ) | ||||
Amortization of premiums and discounts on investments | 21 | 21 | ||||||
Net change in other assets | 79 | (72 | ) | |||||
Net change in other liabilities | 48 | 573 | ||||||
Net cash provided by operating activities | 1,027 | 1,552 | ||||||
Cash Flows from Investing Activities: | ||||||||
(Increase) decrease in federal funds sold | (21,018 | ) | 14,221 | |||||
Purchases of premises and equipment | (422 | ) | (81 | ) | ||||
Purchases of securities available-for-sale | (8,518 | ) | (7,746 | ) | ||||
Proceeds from sales, calls, maturities and principal repayments of securities available for sale | 5,867 | 337 | ||||||
Sale (purchase) of FHLB stock | 322 | (66 | ) | |||||
Acquisition of other real estate owned | — | (152 | ) | |||||
Proceeds from the sale of other real estate owned | 233 | — | ||||||
Net Increase in loans | (2,544 | ) | (10,752 | ) | ||||
Net cash used in investing activities | (26,080 | ) | (4,239 | ) | ||||
Cash Flows from Financing Activities: | ||||||||
Net Increase in deposits | 24,495 | 5,782 | ||||||
Net repayments of other borrowings | (8,000 | ) | (3,400 | ) | ||||
Increase in repurchase agreements | 994 | — | ||||||
Proceeds from exercise of stock options | 31 | — | ||||||
Tax effect of stock options exercised | 15 | — | ||||||
Cash dividends paid | (191 | ) | (191 | ) | ||||
Net cash provided by financing activities | 17,344 | 2,191 | ||||||
Net decrease in cash and cash equivalents | (7,709 | ) | (496 | ) | ||||
Cash and cash equivalents at beginning of period | 13,403 | 5,155 | ||||||
Cash and cash equivalents at end of period | $ | 5,694 | $ | 4,659 | ||||
Supplemental disclosure of cash flow information: | ||||||||
Cash paid during the period for interest | $ | 4,425 | $ | 2,693 | ||||
Noncash investing and financing activities: | ||||||||
Increase (decrease) in fair value of securities available for sale, net of tax | 89 | (15 | ) | |||||
Dividends declared | 192 | 191 | ||||||
Foreclosed real estate | 164 | 90 | ||||||
Transfer from OREO to premise and equipment | — | 1,382 | ||||||
See accompanying notes.
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Bank of the Carolinas Corporation
Consolidated Statements of Changes in Shareholders’ Equity
(Unaudited) (In thousands, except share data)
Additional Paid-In Capital | Retained Earnings | Accumulated Other Comprehensive Loss | Total Stockholders’ Equity | |||||||||||||||||
Common Stock | ||||||||||||||||||||
Shares | Amount | |||||||||||||||||||
Balance, December 31, 2005 | 3,825,192 | $ | 19,126 | $ | 11,419 | $ | 4,583 | $ | (477 | ) | $ | 34,651 | ||||||||
Stock based compensation expense | 2 | 2 | ||||||||||||||||||
Cash dividends declared ($.05 per share) | (191 | ) | (191 | ) | ||||||||||||||||
Comprehensive income: | ||||||||||||||||||||
Net income | 804 | 804 | ||||||||||||||||||
Other comprehensive income | (15 | ) | (15 | ) | ||||||||||||||||
Total comprehensive income | 789 | |||||||||||||||||||
Balance, March 31, 2006 | 3,825,192 | $ | 19,126 | $ | 11,421 | $ | 5,196 | $ | (492 | ) | $ | 35,251 | ||||||||
Balance, December 31, 2006 | 3,826,792 | $ | 19,134 | $ | 11,444 | $ | 7,293 | $ | (157 | ) | $ | 37,714 | ||||||||
Stock options exercised | 4,900 | 24 | 7 | 31 | ||||||||||||||||
Current Income tax benefit on options exercised | 15 | 15 | ||||||||||||||||||
Stock based compensation expense | 5 | 5 | ||||||||||||||||||
Cash dividends declared ($.05 per share) | (192 | ) | (192 | ) | ||||||||||||||||
Comprehensive income: | ||||||||||||||||||||
Net income | 780 | 780 | ||||||||||||||||||
Other comprehensive income | 89 | 89 | ||||||||||||||||||
Total comprehensive income | 869 | |||||||||||||||||||
Balance, March 31, 2007 | 3,831,692 | $ | 19,158 | $ | 11,471 | $ | 7,881 | $ | (68 | ) | $ | 38,442 | ||||||||
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Notes to Consolidated Financial Statements
March 31, 2007
(Unaudited)
NOTE 1. BASIS OF PRESENTATION
In management’s opinion, the financial information, which is unaudited, reflects all adjustments (consisting of normal recurring adjustments) necessary for a fair presentation of the financial information as of and for the three month periods ended March 31, 2007 and 2006, in conformity with accounting principles generally accepted in the United States of America.
The preparation of financial statements requires management to make estimates and assumptions that affect reported amounts of assets and liabilities at the date of the financial statements, as well as the amounts of income and expense during the reporting period. Actual results could differ from those estimates. Operating results for the three month periods ended March 31, 2007 are not necessarily indicative of the results that may be expected for the fiscal year ending December 31, 2007.
The results presented here are for Bank of the Carolinas Corporation (“BankCorp”), the parent company of Bank of the Carolinas (“the Bank”). On April 24, 2006, we announced that the Bank’s Board of Directors had approved the formation of a bank holding company, BankCorp, of which the Bank would become a wholly owned subsidiary. The reorganization was effected through a share exchange in which each of the Bank’s shareholders received one share of common stock of BankCorp in exchange for each of their shares of the Bank’s common stock. BankCorp became the Bank’s parent holding company in the third quarter of 2006. The formation was approved at the 2006 Shareholders’ meeting. The organization and business of BankCorp, accounting policies followed by BankCorp and other relevant information are contained in the notes to the financial statements filed as part of BankCorp’s annual report on Form 10-K for the year ended December 31, 2006. This quarterly report should be read in conjunction with the annual report. Because BankCorp has no separate operations and conducts no business on its own other than owning the Bank, this discussion concerns primarily the business of the Bank. However, because the financial statements are presented on a consolidated basis, BankCorp and the Bank are collectively referred to as the “Company” unless otherwise noted.
NOTE 2. EARNINGS PER SHARE
Basic earnings per share represents income available to common shareholders divided by the weighted average number of common shares outstanding during the period. When applicable, the weighted average shares outstanding for the diluted earnings per share computations are adjusted to reflect the assumed conversion of shares available under stock options using the treasury stock method.
Earnings per share have been computed based on the following:
Three months Ended March 31, | ||||
2007 | 2006 | |||
Weighted average number of common shares outstanding used to calculate basic earnings per share | 3,826,706 | 3,825,192 | ||
Additional potential common shares due to stock options | 122,389 | 139,236 | ||
Weighted average number of common shares outstanding used to calculate diluted earnings per share | 3,949,095 | 3,964,428 | ||
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NOTE 3. COMMITMENTS AND CONTINGENCIES
The Company is a party to financial instruments with off-balance sheet risk in the normal course of business to meet the financing needs of its customers. These financial instruments include commitments to extend credit, lines of credit and standby letters of credit. These instruments involve elements of credit risk in excess of amounts recognized in the accompanying financial statements.
The Company’s risk of loss with the unfunded loans and lines of credit or standby letters of credit is represented by the contractual amount of these instruments. The Company uses the same credit policies in making commitments under such instruments as they do for on-balance sheet instruments. The amount of collateral obtained, if any, is based on management’s credit evaluation of the borrower. Since many of the commitments are expected to expire without being drawn upon, the total commitment amounts do not necessarily represent future cash requirements. At March 31, 2007, outstanding financial instruments whose contract amounts represent credit risk were approximately: (In thousands)
Loan commitments | $ | 59,961 | |
Letters of credit | $ | 2,263 |
NOTE 4. COMPREHENSIVE INCOME
Accounting principles generally require that recognized revenue, expenses, gains, and losses be included in net income. Certain changes in assets and liabilities, such as unrealized gains and losses on available-for-sale securities, are reported as a separate component in the equity section of the balance sheet. Such items, along with net income, are considered components of comprehensive income. Accounting principles do not require per share amounts of comprehensive income to be disclosed. The information that follows reconciles net income to comprehensive income.
Three-months ended March 31, | |||||||
(In thousands) | 2007 | 2006 | |||||
Net Income | $ | 780 | $ | 804 | |||
Net unrealized gain (loss) on AFS securities, net of taxes | 89 | (15 | ) | ||||
Comprehensive income | $ | 869 | $ | 789 | |||
NOTE 5. INCOME TAXES – FIN 48
Effective January 1, 2007, the Company adopted Financial Accounting Standards Board Interpretation No. 48, “Accounting for Uncertainty in Income Taxes”, an interpretation of FASB Statement 109 (FIN 48). FIN 48 provides guidance on financial statement recognition and measurements of tax positions taken, or expected to be taken, in tax returns. The initial adoption of FIN 48 had no impact on the Company’s financial statements. As of January 1, 2007, there were no unrecognized tax benefits.
The amount of unrecognized tax benefits may increase or decrease for various reasons including adding amounts for current tax positions, expiration of open income tax returns due to statute of limitations, changes in management’s judgment about the level of uncertainty, status of examinations, litigation and legislative activity and the addition or elimination of uncertain tax positions.
The Company’s policy is to report interest and penalties, if any, related to unrecognized tax benefits in other non-interest expense in the Consolidated Statements of Income.
The Company’s federal and state income tax returns are open and subject to examination from the 2003 tax return year and forward.
NOTE 6. RECENT ACCOUNTING PRONOUNCEMENTS
In September 2006, the SEC issued SAB 108 “Considering the Effects of Prior Year Misstatements When Quantifying Misstatements in Current Year Financial Statements” this instructional guidance clarifies the way that management and external auditors of public companies, should evaluate the materiality of uncorrected financial statement misstatements. The guidance indicates that the difference
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should be evaluated using both an “Iron Curtain” method and a “Roll-over” method. The Iron Curtain method is one where emphasis is placed on the amount of the misstatement in the ending balance sheet, whereas the rollover method places emphasis on the effect of current and reversing prior misstatements on the current income statement.
The guidance suggests a dual approach, indicating that an entity should give equal consideration to the misstatements of each of its financial statements. Initial adoption of SAB 108 could lead to a restatement of previous financial statements or a cumulative effect adjustment in the current period. The SAB was effective for years ending on or after November 15, 2006. The Company adopted this standard on December 31, 2006 with no material impact on the consolidated financial statements.
In February 2007, the FASB issued FASB Statement No. 159 “The Fair Value Option for Financial Assets and Financial Liabilities.” FASB 159 allows companies to measure financial instruments at fair value. The statement will be effective as of the beginning of each fiscal year that begins after November 15, 2007. FASB has allowed companies the choice to adopt the standard early but the Bank has chosen not to take that option.
NOTE 7. SUBSEQUENT EVENTS
On April 12, 2007, the Company announced it had entered into a definitive agreement with Randolph Bank & Trust Company whereby Randolph Bank will be merged into the Bank. The transaction is subject to shareholder and regulatory approval and is expected to be consummated in the fourth quarter of 2007.
Item 2. MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
GENERAL
Introduction
Bank of the Carolinas Corporation (“BankCorp”) was formed in the second quarter of 2006 and became the parent holding company of Bank of the Carolinas (“the Bank”) in the third quarter of 2006. Because BankCorp has no separate operations and conducts no business on its own other than owning the Bank, the discussion contained in this Management’s Discussion and Analysis concerns primarily the business of the Bank. However, because the financial statements are presented on a consolidated basis, BankCorp and the Bank are collectively referred to herein as the “Company” unless otherwise noted.
The Bank began in December 1998 as a state chartered bank and currently has nine offices in the Piedmont region. The Bank competes for loans and deposits throughout the markets it serves. The Bank, like other financial institutions, derives most of its revenue from net interest income which is the difference between the income it earns from loans and securities minus the interest expense it incurs on deposits and borrowings.
Recent Developments
In February 2007, the Bank opened a new office in the Silas Creek Shopping Center in Winston-Salem. This is the Bank’s first branch in the city of Winston-Salem.
On March 28, 2007, the Company declared a cash dividend of $.05 per share on its common stock, payable April 25, 2007 to shareholders of record on April 11, 2007. A cash dividend has been paid for the past fourteen quarters.
On April 12, 2007, the Company announced it had entered into a definitive agreement with Randolph Bank & Trust Company whereby Randolph Bank will be merged into the Bank. The transaction is subject to shareholder and regulatory approval and is expected to be consummated in the fourth quarter of 2007.
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CHANGES IN FINANCIAL CONDITION
Total Assets
At March 31, 2007, total assets were $472.8 million compared to $454.6 million at December 31, 2006, and $393.7 million at March 31, 2006 representing a 20.1 percent year over year increase.
Investment Securities
Investment securities totaled $58.5 million at March 31, 2007, compared to $55.7 million at December 31, 2006 and $54.7 million at March 31, 2006. Total investments increased $2.8 million or 5.0 percent from December 31, 2006 and $3.8 million or 6.9 percent from March 31, 2006.
The investment portfolio includes U.S. Government Agency bonds, mortgage-backed securities, corporate bonds, municipal bonds, and treasuries all classified as available-for-sale and carried at fair value.
Loans and Allowance for Loan Losses
At March 31, 2007, the loan portfolio totaled $356.9 million and represented 75.5 percent of total assets compared to $354.6 million or 78.0 percent of total assets at December 31, 2006 and $310.6 million or 78.9 percent of total assets at March 31, 2006. Total loans increased $2.4 million from December 31, 2006 and $46.3 million or 14.9 percent from March 31, 2006. Real estate loans comprised approximately 67.1 percent of the loan portfolio, and commercial loans comprised approximately 23.0 percent of the total loan portfolio at March 31, 2007.
The allowance for loan losses is created by direct charges to income. Losses on loans are charged against the allowance in the period in which such loans, in management’s opinion, become uncollectible. Recoveries during the period are credited to this allowance. The factors that influence management’s judgment in determining the amount charged to operating expense include past loan experience, composition of the loan portfolio, current economic conditions and probable losses.
The appropriateness of the allowance for loan losses is measured on a quarterly basis using an allocation model that assigns reserves to various components of the loan portfolio in order to provide for probable inherent losses. It must be emphasized, however, that the determination of the reserve using the Company’s procedures and methods rests upon various judgments and assumptions about current economic conditions and other factors affecting loans. No assurance can be given that the Company will not in any particular period sustain loan losses that are sizable in relation to their amounts reserved or that subsequent evaluations of the loan portfolio, in light of conditions and factors then prevailing, will not require significant changes in the allowance for loan losses or future charges to earnings. In addition, various regulatory agencies, as an integral part of their routine examination process, periodically review the Company’s allowance. Such agencies may require the Company to recognize adjustments to the allowance based on their judgments about information available to them at the time of their examinations. The Company believes the allowance is appropriate based on management’s current analysis.
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The following table describes the activity in our allowance for loan losses for the three-month periods ended March 31, 2007 and 2006.
Three-months ended March 31, | ||||||||
2007 | 2006 | |||||||
Balance at beginning of period | $ | 3,732 | $ | 3,315 | ||||
Provision for loan losses | 62 | 117 | ||||||
Charge-offs | (68 | ) | (29 | ) | ||||
Recoveries of loans previously charged-off | 9 | 7 | ||||||
Balance at end of period | $ | 3,735 | $ | 3,410 | ||||
Ratio of allowance for loan losses to total loans at end of period | 1.05 | % | 1.11 | % |
Certain credit risks are inherent in making loans, particularly commercial and consumer loans. Management prudently assesses these risks and attempts to manage them effectively. The Company also attempts to reduce repayment risks by adhering to internal credit underwriting policies and procedures. These policies and procedures include officer and customer limits, periodic loan documentation review and follow up on exceptions to credit policies. A loan is placed in nonaccrual status when, in management’s judgment, the collection of interest appears doubtful. Nonperforming assets are defined as foreclosed properties, nonaccrual loans and accruing loans that are contractually past due 90 days or more.
The following table summarizes information regarding our nonaccrual loans, other real estate owned, and certain other repossessed assets and loans, as of March 31, 2007 and December 31, 2006. On those dates, we had no loans categorized as troubled debt restructuring within the meaning of SFAS 15.
March 31, 2007 | December 31, 2006 | |||||||
Loans accounted for on a nonaccrual basis: | ||||||||
Real estate loans: | ||||||||
Mortgage | $ | — | $ | 102 | ||||
Commercial | 1,162 | 2,596 | ||||||
Construction | 104 | — | ||||||
Home Equity | — | — | ||||||
Commercial business and consumers | — | 82 | ||||||
Installment | — | — | ||||||
Total nonaccrual loans | 1,266 | 2,780 | ||||||
Accruing loans, which are contractually past due 90 days or more | 1,226 | 1,882 | ||||||
Total non-performing loans | 2,492 | 4,662 | ||||||
Other real estate owned, net | 918 | 1,000 | ||||||
Total non-performing assets | $ | 3,410 | $ | 5,662 | ||||
Non-performing loans as a percentage of net loans | 0.71 | % | 1.33 | % | ||||
Total non-performing assets as a percentage of total assets | 0.72 | % | 1.25 | % |
Deposits
The Company’s deposit services include business and individual checking accounts, savings accounts, NOW accounts, certificates of deposit and money market checking accounts. At March 31, 2007, total deposits were $407.2 million compared to $382.7 million at December 31, 2006 and $332.4 million at March 31, 2006. These figures represent increases of 6.4 percent over December 31, 2006 and 22.5 percent over March 31, 2006. At March 31, 2007, time deposits of $100,000 and over made up approximately 39.7 percent of total deposits versus 43.6 percent at December 31, 2006 and 24.3 percent at March 31, 2006. While the Company has continued to
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shift its focus on outsourced funds from institutional CD’s to brokered deposits, the majority of the Company’s deposits are still generated primarily from within its banking market. At March 31, 2007, the Company had $81.0 million in brokered deposits and $3.9 million in institutional certificates of deposits, which are solicited on the Internet through Express Data Corporation’s Quick-Rate CD Clearinghouse and which represented approximately 0.9 percent of the Company’s total deposits. At December 31, 2006 and March 31, 2006, the Company’s deposits solicited on the Internet amounted to approximately 1.0 percent and 5.1 percent, respectively, of total deposits.
Liquidity
Liquidity management is the process of managing assets and liabilities as well as their maturities to insure adequate funding for loan and deposit activity as well as continued growth of the Company. Sources of funding come from both the asset and liability side of the balance sheet. Asset side sources include cash and cash equivalents, federal funds sold and unpledged available for sale securities. These totaled $72.2 million at March 31, 2007 and $51.4 million at December 31, 2006. Liquidity sources from liabilities include deposits and lines of credit with other institutions. These sources are largely affected by our ability to attract and maintain deposits. Our deposits, together with equity capital, funded 94.3 percent of total assets at March 31, 2007. The Company has borrowing lines available from various correspondent banks and the Federal Home Loan Bank of Atlanta (FHLB) for short-term or long-term funding. At March 31, 2007, the Company had total borrowings of $23.0 million from the FHLB, with maturity dates on these borrowings extending through 2012. A blanket lien on residential 1-4 family dwellings and qualifying non-residential loans is in place with the FHLB to secure these advances. We closely monitor and evaluate our overall liquidity position. We believe our liquidity position at March 31, 2007 is adequate to meet our operating needs.
Interest Rate Sensitivity
Fluctuating interest rates, increased competition and changes in the regulatory environment continue to significantly affect the importance of interest-rate sensitivity management. Rate sensitivity arises when interest rates on assets change in a different period of time or in a different proportion to interest rates on liabilities. The primary objective of interest-rate sensitivity management is to prudently structure the balance sheet so that movements of interest rates on assets and liabilities are highly correlated and produce a reasonable net interest margin even in periods of volatile interest rates. The Company uses an asset/liability simulation model to project potential changes to the Company’s net interest margin, net income, and economic value of equity based on simulated changes to market interest rates, namely the prime rate. The Company is slightly liability sensitive over the next twelve months, which means that interest-earning liabilities could re-price more quickly than interest bearing assets. Theoretically, the Company’s net interest margin will decline if market interest rates rise or improve if market interest rates fall.
Capital Adequacy
Regulatory guidelines require banks to hold minimum levels of capital based upon the risk weighting of certain categories of assets as well as any off-balance sheet contingencies. Federal regulators have adopted risk-based capital and leverage capital guidelines for measuring the adequacy of a bank’s capital, and all applicable capital standards must be satisfied for us to be considered in compliance with regulatory requirements. On March 31, 2007, the Bank’s Total Capital Ratio and Tier 1 Capital Ratio were 10.96 percent and 9.98 percent, respectively, which were well above the minimum levels required by regulatory guidelines. On March 31, 2007, the Bank’s Leverage Capital Ratio was 8.30 percent, which was also well above the minimum level required by the regulatory guidelines. Banks are placed into one of four capital categories based on the above three separate capital ratios. The four categories are “well-capitalized”, “adequately capitalized”, “under-capitalized”, and “critically under-capitalized.” The Company is considered “well-capitalized” as of March 31, 2007.
Regulatory Matters
The Sarbanes-Oxley Act of 2002 is sweeping federal legislation addressing accounting, corporate governance and disclosure issues. The Act applies to all public companies and imposed significant new requirements for public company governance and disclosure requirements. Some of the provisions of the Act became effective immediately while others are still in the process of being implemented.
In general, the Sarbanes-Oxley Act mandated important new corporate governance and financial reporting requirements intended to enhance the accuracy and transparency of public companies’ reported financial results. It established new responsibilities for corporate chief executive officers, chief financial officers and audit committees in the financial reporting process, and it created a new regulatory body to oversee auditors of public companies. It backed these requirements with new SEC enforcement tools,
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increased criminal penalties for federal mail, wire and securities fraud, and created new criminal penalties for document and record destruction in connection with federal investigations. It also increased the opportunity for more private litigation by lengthening the statute of limitations for securities fraud claims and providing new federal corporate whistleblower protection.
The Act also required that the various securities exchanges, including The Nasdaq Stock Market, prohibit the listing of the stock of an issuer unless that issuer complies with various new corporate governance requirements imposed by the exchanges, including the requirement that various corporate matters (including executive compensation and board nominations) be approved, or recommended for approval by the issuer’s full board of directors, by directors of the issuer who are “independent” as defined by the exchanges’ rules or by committees made up of “independent” directors. Because our common stock is “listed” on The Nasdaq Capital Market, we are subject to those provisions of the Act and to the corporate governance requirements of The Nasdaq Stock Market
The economic and operational effects of the Sarbanes-Oxley Act on public companies, including us, have been and will continue to be significant in terms of the time, resources and costs associated with compliance. Because the Act, for the most part, applies equally to larger and smaller public companies, we have been and will continue to be presented with additional challenges as a smaller, community-oriented financial institution seeking to compete with larger financial institutions in our market.
RESULTS OF OPERATIONS
Three-Month Period Ended March 31, 2007 and March 31, 2006
The Company had net income of $780,000 or $.20 per diluted share for the three-month period ended March 31, 2007 and $804,000 or $.20 per diluted share for the three-month period ended March 31, 2006. As is evidenced by these numbers, net income was nearly unchanged quarter over quarter.
Net interest income, or the difference between income generated by earning assets (primarily loans, investment securities, and interest-bearing balances) and the expense incurred on interest bearing liabilities (primarily deposits and borrowed funds used to fund earning assets), is the Company’s primary source of earnings. The Company’s net interest income for the three-month period ended March 31, 2007 and 2006 was $3.6 million and $3.5 million respectively. The majority of this increase was due to the Company’s overall growth of loans during the period.
Interest expense for the three-month period ending March 31, 2007 was $4.5 million compared to $2.9 million during the same period in 2006. This was an increase of $1.6 million or 53.9%. The majority of this increase was due to deposit growth during the period as well as rising interest rates in the market, particularly for time deposit products.
Non-interest income was $429,000 for the three-months compared to $357,000 for the three-month period ended March 31, 2006. The non-interest income total includes service charges on deposit accounts, bank owned life insurance, and mortgage broker fees. The $72,000 year over year increase was a result of $43,000 in income from our investment services division which was started in the second quarter of 2006 and a $33,000 increase in income from bank owned life insurance (BOLI). The Bank acquired additional BOLI at the end of 2006 which resulted in the year over year increase.
Non-interest expense was $2.8 million for the three-months ended March 31, 2007, compared to $2.5 million for the same period in 2006 an increase of $321,000 or 13.0 percent. Salary expense increased $162,000 over the same quarter in the previous year which was primarily a result of normal salary increases as well as the addition of personnel. Occupancy expense increased $81,000 which was primarily due to increased expenses from the opening of our Winston-Salem office. Non-interest expense as a percentage of average assets actually decreased from 2.53% to 2.44% on an annualized year over year basis. The effective tax rate for the three-month period ended March 31, 2007 was 32.1 % compared to 35.6 % for the three-months ended March 31, 2006.
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DISCLOSURES ABOUT FORWARD LOOKING STATEMENTS
This Report and its exhibits contain statements relating to our financial condition, results of operations, plans, strategies, trends, projections of results of specific activities or investments, expectations or beliefs about future events or results, and other statements that are not descriptions of historical facts. Those statements, may be forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995, Section 27A of the Securities Act of 1933 and Section 21E of the Securities Exchange Act of 1934. Forward-looking statements may be identified by terms such as “may”, “will”, “should”, “could”, “expects”, “plans”, “intends”, “anticipates”, “believes”, “estimates”, “predicts”, “forecasts”, “potential” or “continue,” or similar terms or the negative of these terms, or other statements concerning opinions or judgments of the Company’s management about future events. Forward-looking information is inherently subject to risks and uncertainties, and actual results could differ materially from those currently anticipated due to a number of factors, which include, but are not limited to, risk factors discussed in the Company’s Annual Report on Form 10-K and in other documents the Company files with the Securities and Exchange Commission from time to time. Copies of those reports are available directly through the Commission’s website atwww.sec.gov. Other factors that could influence the accuracy of such forward-looking statements include, but are not limited to, (a) changes in competitive pressures among depository and other financial institutions or in the Company’s ability to compete successfully against the larger financial institutions in its banking markets; (b) the financial success or changing strategies of the Company’s customers; (c) actions of government regulators, or changes in laws, regulations or accounting standards, that adversely affect the Company’s business; (d) changes in the interest rate environment and the level of market interest rates that reduce the Company’s net interest margins and/or the volumes and values of loans it makes and securities it holds; (e) changes in general economic or business conditions and real estate values in the Company’s banking markets (particularly changes that affect the Company’s loan portfolio, the abilities of its borrowers to repay their loans, and the values of loan collateral); (f) the Company’s ability to successfully integrate the business of merger partners into its business without unexpected costs or difficulty, disruption, deposit attrition, or loss of revenue, or its inability to fully realize expected costs savings of any acquisition; and (g) other developments or changes in our business that the Company does not expect. Although the Company believes that the expectations reflected in the forward-looking statements are reasonable, it cannot guarantee future results, levels of activity, performance or achievements. All forward-looking statements attributable to the Company are expressly qualified in their entirety by the cautionary statements in this paragraph. The Company has no obligation, and do not intend, to update these forward-looking statements.
Item 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
Market risk reflects the risk of economic loss resulting from adverse changes in market price and interest rate risks. Interest rate risk is the result of differing maturities or re-pricing intervals of interest-earning assets and interest-bearing liabilities and the fact that rates on these financial instruments do not change uniformly. These changes can have a direct impact on the Company’s overall earnings. The current structure of the Company’s balance sheet is such that a significant increase in interest rates may negatively impact net interest income.
Management of the Company actively monitors interest rate risk through the development of and adherence to the Company’s asset/liability management policy. The Company has also established an Asset Liability Management Committee (“ALCO”) which monitors interest rate risk exposure, liquidity and funding strategies to ensure that their potential impact is within standards.
Item 4. CONTROLS AND PROCEDURES
An evaluation of the effectiveness of the Company’s disclosure controls and procedures as of the end of the period covered by this report has been performed under the supervision and with the participation of the Company’s Chief Executive Officer and Chief Financial Officer. Based on that evaluation, those officers concluded that the Company’s disclosure controls and procedures were effective as of the end of the period covered by this report.
In connection with the above evaluation of the effectiveness of the Company’s disclosure controls and procedures, no changes in the Company’s internal control over financial reporting was identified that occurred during the most recent fiscal quarter and that has materially affected, or is reasonably likely to materially affect, the Company’s internal control over financial reporting.
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From time to time, the Company may be a party to various legal proceedings incident to its business. At March 31, 2007 there were no legal proceedings to which the Company was a party, or to which any of its property was subject, which were expected by management to result in a material loss.
Along with other information set forth in this report, you should carefully consider the factors discussed in Part I, “Item 1A. Risk Factors” in the Company’s Annual Report on Form 10-K for the year ended December 31, 2006, which could materially affect the Company’s business, financial condition or future results. In addition to the risks described in the Annual Report on Form 10-K and investment risks that apply in the case of any financial institution, the Company’s business, financial condition and operating results could be harmed by other risks, including risks not yet identified or that the Company believes are immaterial or unlikely.
Item 2. Unregistered Sales of Equity Securities and Use of Proceeds
None
Item 3. Defaults Upon Senior Securities.
None
Item 4. Submission of Matters to a Vote of Security Holders
None
None
The following exhibits are being furnished or filed with this report.
31.01 | Certification of Chief Executive Officer pursuant to Rule 13a-14(a) (furnished herewith) | |
31.02 | Certification of Chief Financial Officer pursuant to Rule 13a-14(a) (furnished herewith) | |
32.01 | Certification of our Chief Executive Officer and Chief Financial Officer pursuant to 18 U.S.C. Section 1350 (furnished herewith) |
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Pursuant to the requirements of the Securities Exchange Act of 1934, the Company has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized.
BANK OF THE CAROLINAS CORPORATION | ||||
Date: May 14, 2007 | By: | /s/ Robert E. Marziano | ||
Robert E. Marziano | ||||
President and Chief Executive Officer | ||||
Date: May 14, 2007 | By: | /s/ Eric E. Rhodes | ||
Eric E. Rhodes | ||||
Vice President and Chief Financial Officer |
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Exhibit Number | Description | |
31.01 | Certification of our Chief Executive Officer pursuant to Rule 13a-14(a) (furnished herewith) | |
31.02 | Certification of our Chief Financial Officer pursuant to Rule 13a-14(a) (furnished herewith) | |
32.01 | Certifications of our Chief Executive Officer and Chief Financial Officer pursuant to 18 U.S.C. Section 1350 (furnished herewith) |
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