UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-Q
(Mark One)
x | QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 |
For the Quarterly Period Ended June 30, 2011
¨ | TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 |
For the Transition Period from to
Commission file number 333-152331
COASTAL CAROLINA BANCSHARES, INC.
(Exact name of registrant as specified in its charter)
| | |
South Carolina | | 33-1206107 |
(State or other jurisdiction of incorporation or organization) | | (I.R.S. Employer Identification No.) |
2305 Oak Street
Myrtle Beach , South Carolina 29577
(Address of principal executive offices, including zip code)
(843) 839-1953
(Registrant’s telephone number, including area code)
Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. x YES ¨ NO
Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files). YES x NO ¨
Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, or a smaller reporting company. See the definitions of “large accelerated filer,” “accelerated filer” and “smaller reporting company” in Rule 12b-2 of the Exchange Act.
| | | | | | |
Large accelerated filer | | ¨ | | Accelerated filer | | ¨ |
| | | |
Non-accelerated filer | | ¨ (Do not check if a smaller reporting company) | | Smaller reporting company | | x |
Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act). ¨ YES x NO
Indicate the number of shares outstanding of each of the issuer’s classes of common stock, as of the latest practicable date: 2,191,500 shares of common stock, par value $0.01 per share, were outstanding as of August 10, 2011.
INDEX
PART I – FINANCIAL INFORMATION
Item 1. Financial Statements
COASTAL CAROLINA BANCSHARES, INC.
Consolidated Balance Sheets
| | | | | | | | |
| | June 30, 2011 (Unaudited) | | | December 31, 2010 | |
Assets | | | | | | | | |
Cash and non-interest due from banks | | $ | 1,623,711 | | | $ | 539,685 | |
Federal funds sold | | | 1,958,490 | | | | 1,589,151 | |
Interest-bearing bank deposits | | | 10,324,067 | | | | 16,465,014 | |
| | | | | | | | |
Total cash and cash equivalents | | | 13,906,268 | | | | 18,593,850 | |
Securities available for sale | | | 28,641,686 | | | | 28,705,311 | |
Federal Reserve Bank stock | | | 417,250 | | | | 456,300 | |
Federal Home Loan Bank stock | | | 93,800 | | | | — | |
Loans held for sale | | | — | | | | 340,000 | |
Loans receivable | | | 41,417,938 | | | | 23,300,686 | |
Deferred loan fees, net | | | (136,801 | ) | | | (73,850 | ) |
Allowance for loan losses | | | (928,173 | ) | | | (432,750 | ) |
| | | | | | | | |
Loans, net | | | 40,352,964 | | | | 22,794,086 | |
Premises and equipment, net | | | 297,128 | | | | 333,551 | |
Accrued income and other assets | | | 421,077 | | | | 663,435 | |
| | | | | | | | |
Total assets | | $ | 84,130,173 | | | $ | 71,886,533 | |
| | | | | | | | |
| | |
Liabilities and Shareholders’ Equity | | | | | | | | |
Liabilities | | | | | | | | |
Deposits: | | | | | | | | |
Non-interest bearing demand | | $ | 4,105,112 | | | $ | 2,319,623 | |
Interest checking | | | 3,218,918 | | | | 2,432,715 | |
Money market | | | 36,876,297 | | | | 27,071,059 | |
Savings | | | 170,424 | | | | 104,515 | |
Certificates of deposit | | | 25,286,982 | | | | 24,759,204 | |
| | | | | | | | |
Total deposits | | | 69,657,733 | | | | 56,687,116 | |
Accrued expenses and other liabilities | | | 502,118 | | | | 428,129 | |
| | | | | | | | |
Total liabilities | | | 70,159,851 | | | | 57,115,245 | |
| | |
Shareholders’ Equity | | | | | | | | |
Preferred stock, $.01 par value, 10,000,000 shares authorized, none issued and outstanding | | | — | | | | — | |
Common stock, $.01 par value, 50,000,000 shares authorized, 2,191,500 and 2,185,000 issued and outstanding at June 30, 2011 and December 31, 2010, respectively | | | 21,915 | | | | 21,850 | |
Additional paid-in capital | | | 21,766,600 | | | | 21,667,958 | |
Unearned compensation, nonvested restricted stock | | | (70,833 | ) | | | (25,000 | ) |
Retained deficit | | | (7,714,161 | ) | | | (6,548,688 | ) |
Accumulated other comprehensive loss | | | (33,199 | ) | | | (344,832 | ) |
| | | | | | | | |
Total shareholders’ equity | | | 13,970,322 | | | | 14,771,288 | |
| | | | | | | | |
Total liabilities and shareholders’ equity | | $ | 84,130,173 | | | $ | 71,886,533 | |
| | | | | | | | |
See notes to the consolidated financial statements.
3
COASTAL CAROLINA BANCSHARES, INC.
Consolidated Statements of Operations
(Unaudited)
| | | | | | | | | | | | | | | | |
| | Three Months Ended June 30, | | | Six Months Ended June 30, | |
| | 2011 | | | 2010 | | | 2011 | | | 2010 | |
Interest income | | | | | | | | | | | | | | | | |
Loans, including fees | | $ | 506,235 | | | $ | 206,475 | | | $ | 891,546 | | | $ | 373,316 | |
Federal funds sold and interest-bearing bank deposits | | | 19,368 | | | | 106,548 | | | | 59,058 | | | | 228,011 | |
Securities | | | 228,709 | | | | 211,042 | | | | 443,804 | | | | 397,052 | |
Federal Reserve stock dividend | | | 6,311 | | | | 7,477 | | | | 13,155 | | | | 15,248 | |
| | | | | | | | | | | | | | | | |
Total interest income | | | 760,623 | | | | 531,542 | | | | 1,407,563 | | | | 1,013,627 | |
Interest expense | | | | | | | | | | | | | | | | |
Deposits: | | | | | | | | | | | | | | | | |
Interest checking | | | 10,572 | | | | 3,126 | | | | 19,606 | | | | 5,682 | |
Money market and savings | | | 107,351 | | | | 81,299 | | | | 205,215 | | | | 179,005 | |
Certificates of deposit < $100,000 | | | 30,167 | | | | 39,375 | | | | 65,320 | | | | 76,596 | |
Certificates of deposit³ $100,000 | | | 65,906 | | | | 85,782 | | | | 136,606 | | | | 168,924 | |
Lines of credit and other borrowings | | | — | | | | 10 | | | | — | | | | 23 | |
| | | | | | | | | | | | | | | | |
Total interest expense | | | 213,996 | | | | 209,592 | | | | 426,747 | | | | 430,230 | |
| | | | | | | | | | | | | | | | |
Net interest income before provision for loan losses | | | 546,627 | | | | 321,950 | | | | 980,816 | | | | 583,397 | |
Provision for loan losses | | | 176,992 | | | | 94,000 | | | | 495,423 | | | | 322,457 | |
| | | | | | | | | | | | | | | | |
Net interest income after provision for loan losses | | | 369,635 | | | | 227,950 | | | | 485,393 | | | | 260,940 | |
Noninterest income | | | | | | | | | | | | | | | | |
Service charges on deposits | | | 8,362 | | | | 2,750 | | | | 13,482 | | | | 5,517 | |
ATM, debit, and merchant fees | | | 4,521 | | | | 1,944 | | | | 8,111 | | | | 3,150 | |
Gain on sale of loans | | | 2,024 | | | | 5,630 | | | | 8,629 | | | | 7,267 | |
Gain on sale of investment securities | | | 129,496 | | | | 114,483 | | | | 129,496 | | | | 114,483 | |
Other | | | 2,773 | | | | 874 | | | | 4,566 | | | | 1,704 | |
| �� | | | | | | | | | | | | | | | |
Total noninterest income | | | 147,176 | | | | 125,681 | | | | 164,284 | | | | 132,121 | |
Noninterest expense | | | | | | | | | | | | | | | | |
Salaries and employee benefits | | | 538,134 | | | | 470,831 | | | | 1,093,639 | | | | 904,113 | |
Occupancy and equipment | | | 91,514 | | | | 106,424 | | | | 185,917 | | | | 210,973 | |
Data processing | | | 81,761 | | | | 68,234 | | | | 159,868 | | | | 137,372 | |
Professional services | | | 45,544 | | | | 60,875 | | | | 100,837 | | | | 113,884 | |
Marketing and business development | | | 47,335 | | | | 41,671 | | | | 98,158 | | | | 68,321 | |
Shareholder communications | | | 12,073 | | | | 28,441 | | | | 21,494 | | | | 29,818 | |
Corporate insurance | | | 6,964 | | | | 5,913 | | | | 12,068 | | | | 10,974 | |
Postage and supplies | | | 10,710 | | | | 8,963 | | | | 20,735 | | | | 16,291 | |
Telecommunications | | | 5,232 | | | | 5,643 | | | | 10,871 | | | | 10,580 | |
FDIC insurance and regulatory assessments | | | 28,388 | | | | 28,348 | | | | 62,577 | | | | 54,054 | |
Other | | | 23,260 | | | | 18,493 | | | | 48,986 | | | | 32,802 | |
| | | | | | | | | | | | | | | | |
Total noninterest expense | | | 890,915 | | | | 843,836 | | | | 1,815,150 | | | | 1,589,182 | |
Loss before income taxes | | | (374,104 | ) | | | (490,205 | ) | | | (1,165,473 | ) | | | (1,196,121 | ) |
Income taxes | | | — | | | | — | | | | — | | | | 4,356 | |
| | | | | | | | | | | | | | | | |
Net loss | | $ | (374,104 | ) | | $ | (490,205 | ) | | $ | (1,165,473 | ) | | $ | (1,200,477 | ) |
| | | | | | | | | | | | | | | | |
| | | | |
Loss per share | | | | | | | | | | | | | | | | |
| | | | | | | | | | | | | | | | |
Basic and diluted loss per share | | $ | (0.17 | ) | | $ | (0.22 | ) | | $ | (0.53 | ) | | $ | (0.55 | ) |
| | | | | | | | | | | | | | | | |
| | | | |
Average shares outstanding | | | 2,191,500 | | | | 2,186,000 | | | | 2,189,597 | | | | 2,186,000 | |
| | | | | | | | | | | | | | | | |
See notes to the consolidated financial statements.
4
COASTAL CAROLINA BANCSHARES, INC.
Consolidated Statements of Shareholders’ Equity and Comprehensive Loss
(Unaudited)
| | | | | | | | | | | | | | | | | | | | | | | | | | | | |
| | | | | | | | | | | Unearned | | | | | | | | | | |
| | | | | | | | Additional | | | Compensation Nonvested | | | | | | Accumulated Other | | | Total | |
| | Common Stock | | | Paid-in | | | Restricted | | | Retained | | | Comprehensive | | | Shareholders’ | |
| | Shares | | | Amount | | | Capital | | | Stock | | | Deficit | | | Income (Loss) | | | Equity | |
| | | | | | | |
December 31, 2009 | | | 2,186,000 | | | $ | 21,860 | | | $ | 21,604,774 | | | $ | (51,111 | ) | | $ | (4,533,543 | ) | | $ | (100,826 | ) | | $ | 16,941,154 | |
Net Loss | | | — | | | | — | | | | — | | | | — | | | | (1,200,477 | ) | | | — | | | | (1,200,477 | ) |
Change in unrealized gains and losses on securities | | | — | | | | — | | | | — | | | | — | | | | — | | | | 276,405 | | | | 276,405 | |
| | | | | | | | | | | | | | | | | | | | | | | | | | | | |
Total comprehensive loss | | | — | | | | — | | | | — | | | | — | | | | — | | | | — | | | | (924,072 | ) |
Restricted Stock | | | — | | | | — | | | | — | | | | 10,000 | | | | — | | | | — | | | | 10,000 | |
Organizer/founder warrants | | | — | | | | — | | | | 8,244 | | | | — | | | | — | | | | — | | | | 8,244 | |
Stock-based compensation | | | — | | | | — | | | | 38,412 | | | | — | | | | — | | | | — | | | | 38,412 | |
| | | | | | | | | | | | | | | | | | | | | | | | | | | | |
June 30, 2010 | | | 2,186,000 | | | $ | 21,860 | | | $ | 21,651,430 | | | $ | (41,111 | ) | | $ | (5,734,020 | ) | | $ | 175,579 | | | $ | 16,073,738 | |
| | | | | | | | | | | | | | | | | | | | | | | | | | | | |
| | | | | | | |
December 31, 2010 | | | 2,185,000 | | | $ | 21,850 | | | $ | 21,667,958 | | | $ | (25,000 | ) | | $ | (6,548,688 | ) | | $ | (344,832 | ) | | $ | 14,771,288 | |
Net Loss | | | — | | | | — | | | | — | | | | — | | | | (1,165,473 | ) | | | — | | | | (1,165,473 | ) |
Change in unrealized gains and losses on securities | | | — | | | | — | | | | — | | | | — | | | | — | | | | 311,633 | | | | 311,633 | |
| | | | | | | | | | | | | | | | | | | | | | | | | | | | |
Total comprehensive loss | | | — | | | | — | | | | — | | | | — | | | | — | | | | — | | | | (853,840 | ) |
Restricted Stock | | | 6,500 | | | | 65 | | | | 64,935 | | | | (65,000 | ) | | | — | | | | — | | | | — | |
Organizer/founder warrants | | | — | | | | — | | | | 8,244 | | | | — | | | | — | | | | — | | | | 8,244 | |
Stock-based compensation | | | — | | | | — | | | | 25,463 | | | | 19,167 | | | | — | | | | — | | | | 44,630 | |
| | | | | | | | | | | | | | | | | | | | | | | | | | | | |
June 30, 2011 | | | 2,191,500 | | | $ | 21,915 | | | $ | 21,766,600 | | | $ | (70,833 | ) | | $ | (7,714,161 | ) | | $ | (33,199 | ) | | $ | 13,970,322 | |
| | | | | | | | | | | | | | | | | | | | | | | | | | | | |
See notes to the consolidated financial statements.
5
COASTAL CAROLINA BANCSHARES, INC.
Consolidated Statements of Cash Flows
(Unaudited)
| | | | | | | | |
| | Six Months Ended June 30, | |
| | 2011 | | | 2010 | |
Operating activities | | | | | | | | |
Net loss | | $ | (1,165,473 | ) | | $ | (1,200,477 | ) |
Adjustments to reconcile net loss to net cash used by operating activities: | | | | | | | | |
Provision for loan losses | | | 495,423 | | | | 322,457 | |
Increase in deferred loan fees, net | | | 62,952 | | | | 20,177 | |
Gains on sale of loans held for sale | | | (8,629 | ) | | | (7,267 | ) |
Origination of loans held for sale, net | | | (95,764 | ) | | | (562,777 | ) |
Proceeds from sale of loans held for sale | | | 444,393 | | | | 245,044 | |
Premium amortization and discount accretion on securities, net | | | 142,947 | | | | 49,544 | |
Securities gains, net | | | (129,496 | ) | | | (114,483 | ) |
Depreciation and amortization expense | | | 64,897 | | | | 96,629 | |
Stock-based compensation expense | | | 52,874 | | | | 56,656 | |
Increase in accrued interest receivable | | | (9,876 | ) | | | (32,488 | ) |
Increase in accrued interest payable | | | (1,620 | ) | | | (1,346 | ) |
Decrease in other assets | | | 52,993 | | | | 71,479 | |
Increase in other liabilities | | | 75,610 | | | | 99,018 | |
| | | | | | | | |
Net cash used in operating activities | | | (18,769 | ) | | | (957,834 | ) |
| | |
Investing activities | | | | | | | | |
Net change in loans | | | (18,117,253 | ) | | | (4,648,159 | ) |
Purchases of securities available for sale | | | (12,033,082 | ) | | | (17,469,140 | ) |
Proceeds from paydowns of securities available for sale | | | 1,521,708 | | | | 820,226 | |
Proceeds from sales of securities available for sale | | | 11,072,421 | | | | 9,738,632 | |
Redemption of Federal Reserve Bank stock | | | 39,050 | | | | 43,700 | |
Purchase of Federal Home Loan Bank stock | | | (93,800 | ) | | | — | |
Net purchases of premises and equipment | | | (28,474 | ) | | | (28,604 | ) |
| | | | | | | | |
Net cash used in investing activities | | | (17,639,430 | ) | | | (11,543,345 | ) |
| | |
Financing activities | | | | | | | | |
Net increase in demand deposits, interest-bearing transaction accounts and savings accounts | | | 12,442,839 | | | | 582,274 | |
Net increase in certificates of deposit | | | 527,778 | | | | 2,310,785 | |
| | | | | | | | |
Net cash provided by financing activities | | | 12,970,617 | | | | 2,893,059 | |
| | |
Net decrease in cash and cash equivalents | | | (4,687,582 | ) | | | (9,608,120 | ) |
| | | | | | | | |
| | |
Cash and cash equivalents, beginning of period | | | 18,593,850 | | | | 32,257,711 | |
| | | | | | | | |
Cash and cash equivalents, end of period | | $ | 13,906,268 | | | $ | 22,649,591 | |
| | | | | | | | |
Supplemental disclosures of cash flow information | | | | | | | | |
Cash paid for: | | | | | | | | |
Interest on deposits and borrowings | | $ | 428,367 | | | $ | 431,577 | |
Non-cash items: | | | | | | | | |
Unrealized gains (losses) on securities available for sale (net of tax expense of $199,241 and $172,236 for 2011 and 2010, respectively) | | | 311,633 | | | | 276,405 | |
| | | | | | | | |
See notes to the consolidated financial statements.
6
COASTAL CAROLINA BANCSHARES, INC.
Notes to Consolidated Financial Statements
June 30, 2011
Note 1 - Business and Basis of Presentation
Organization - Coastal Carolina National Bank (the “Bank”) received preliminary conditional approval from the OCC on June 20, 2008 and received conditional approval from the FDIC on October 1, 2008. Having received those approvals from the OCC and the FDIC, the Company filed an application with the Board of Governors of the Federal Reserve System (the “Federal Reserve”) to become a bank holding company and acquire all of the stock of the Bank upon its formation, and the Company received that approval on November 21, 2008.
In order to capitalize the Bank, the Company conducted a stock offering and raised $21.8 million selling 2,180,000 shares of its common stock at $10 per share. Of the total shares sold, the organizers, directors and executive officers of the Company purchased 891,525 shares of common stock at $10 per share in the offering. Upon receipt of all final regulatory approvals, the Company capitalized the Bank through the purchase of 1,994,000 shares at $10.00 per share, or $19,940,000, on June 5, 2009, and the Bank began banking operations on June 8, 2009.
Basis of Presentation - The accompanying unaudited consolidated financial statements have been prepared in accordance with accounting principles generally accepted in the United States of America for interim financial information and with the instructions to Form 10-Q. Accordingly, they do not include all information and footnotes required by accounting principles generally accepted in the United States of America for complete financial statements. However, in the opinion of management, all adjustments (consisting of normal recurring adjustments) considered necessary for a fair presentation have been included. Operating results for the three and six month periods ended June 30, 2011 are not necessarily indicative of the results that may be expected for the year ending December 31, 2011. For further information, refer to the financial statements and footnotes thereto included in our Annual Report on Form 10-K for 2010 as filed with the Securities and Exchange Commission (the “SEC”).
Note 2 - Summary of Significant Accounting Policies
A summary of these policies is included in our Form 10-K filed with the SEC for the year ended December 31, 2010. For further information, refer to the consolidated financial statements and footnotes thereto included in our Annual Report on Form 10-K for 2010 as filed with the SEC. It is uncertain whether Accounting standards that have been issued or proposed by the Financial Accounting Standards Board (the “FASB”) that do not require adoption until a future date will have a material impact on the Company’s consolidated financial statements upon adoption.
Statement of Cash Flow - For purposes of reporting cash flows, the Company considered certain highly liquid debt instruments purchased with an original maturity of three months or less to be cash equivalents. Cash equivalents include amounts due from banks, federal funds sold, and interest-bearing bank deposits. Generally, federal funds are sold for one-day periods.
Loss Per Share - Basic loss per share is computed by dividing net loss by the weighted-average number of common shares outstanding. Diluted loss per share is computed by dividing net loss by the weighted-average number of common shares outstanding and dilutive common share equivalents using the treasury stock method. Dilutive common share equivalents include common shares issuable upon exercise of outstanding stock warrants and stock options. There were no dilutive common share equivalents outstanding during the six months ended June 30, 2011 and 2010 due to the net loss; therefore, basic loss per share and diluted earnings per share were the same.
| | | | | | | | | | | | | | | | |
| | Three Months Ended June 30, | | | Six Months Ended June 30, | |
| | 2011 | | | 2010 | | | 2011 | | | 2010 | |
| | | | |
Net loss to common shareholders | | $ | (374,104 | ) | | $ | (490,205 | ) | | $ | (1,165,473 | ) | | $ | (1,200,477 | ) |
| | | | |
Weighted-average number of common shares outstanding | | | 2,191,500 | | | | 2,186,000 | | | | 2,189,597 | | | | 2,186,000 | |
| | | | | | | | | | | | | | | | |
Net loss per share | | $ | (0.17 | ) | | $ | (0.22 | ) | | $ | (0.53 | ) | | $ | (0.55 | ) |
| | | | | | | | | | | | | | | | |
7
Comprehensive Income - Accounting principles generally require that recognized income, expenses, gains, and losses be included in net income. Although certain changes in assets and liabilities, such as unrealized gains and losses on available-for-sale securities, are reported as a separate component of the equity section of the balance sheet, such items, along with net income, are components of comprehensive income.
The change in the components of other comprehensive income and related tax effects are as follows for the three and six months ended June 30, 2011 and 2010:
| | | | | | | | | | | | | | | | |
| | Three Months Ended June 30, | | | Six Months Ended June 30, | |
| | 2011 | | | 2010 | | | 2011 | | | 2010 | |
Net Change in unrealized gains on securities available-for-sale | | $ | 430,767 | | | $ | 368,416 | | | $ | 510,874 | | | $ | 448,641 | |
Net Change in Deferred tax on unrealized gains on securities available-for-sale | | | (167,999 | ) | | | (130,799 | ) | | | (199,241 | ) | | | (172,236 | ) |
| | | | | | | | | | | | | | | | |
Net-of-tax amount | | $ | 262,768 | | | $ | 237,617 | | | $ | 311,633 | | | $ | 276,405 | |
| | | | | | | | | | | | | | | | |
Note 3 - Recently Issued or Proposed Accounting Pronouncements
The following is a summary of recent authoritative pronouncements:
| • | | In July 2010, the Receivables topic of the Accounting Standards Codification (“ASC”) was amended by Accounting Standards Update (“ASU”) 2010-20 to require expanded disclosures related to a company’s allowance for credit losses and the credit quality of its financing receivables. The amendments require the allowance disclosures to be provided on a disaggregated basis. The Company is required to include these disclosures in their interim and annual financial statements. See Note 6. |
| • | | Disclosures about Troubled Debt Restructurings (“TDRs”) required by ASU 2010-20 were deferred by the Financial Accounting Standards Board (“FASB”) in ASU 2011-01 issued in January 2011. In April 2011 FASB issued ASU 2011-02 to assist creditors with their determination of when a restructuring is a TDR. The determination is based on whether the restructuring constitutes a concession and whether the debtor is experiencing financial difficulties as both events must be present. |
| • | | Disclosures related to TDRs under ASU 2010-20 will be effective for reporting periods beginning after June 15, 2011. |
| • | | In December 2010, the Intangibles topic of the ASC was amended to modify Step 1 of the goodwill impairment test for reporting units with zero or negative carrying amounts. For those reporting units, an entity is required to perform Step 2 of the goodwill impairment test if it is more likely than not that a goodwill impairment exists. Any resulting goodwill impairment should be recorded as a cumulative-effect adjustment to beginning retained earnings upon adoption. Impairments occurring subsequent to adoption should be included in earnings. The amendment is effective for the Company beginning January 1, 2011. |
| • | | Also in December 2010, the Business Combinations topic of the ASC was amended to specify that if a public entity presents comparative financial statements, the entity should disclose revenue and earnings of the combined entity as though the business combination that occurred during the current year had occurred as of the beginning of the comparable prior annual reporting period only. The amendment also requires that the supplemental pro forma disclosures include a description of the nature and amount of any material, nonrecurring pro forma adjustments directly attributable to the business combination included in the reported pro forma revenue and earnings. This amendment is effective for the Company for business combinations for which the acquisition date is on or after January 1, 2011, although early adoption is permitted. The Company does not expect the amendment to have any impact on the financial statements. |
| • | | In April 2011, the criteria used to determine effective control of transferred assets in the Transfers and Servicing topic of the ASC was amended by ASU 2011-03. The requirement for the transferor to have the ability to repurchase or redeem the financial assets on substantially the agreed terms and the collateral maintenance implementation guidance related to that criterion were removed from the assessment of effective control. The other criteria to assess effective control were not changed. The amendments are effective for the Company beginning January 1, 2012 but are not expected to have a material effect on the financial statements. |
8
| • | | ASU 2011-04 was issued in May 2011 to amend the Fair Value Measurement topic of the ASC by clarifying the application of existing fair value measurement and disclosure requirements and by changing particular principles or requirements for measuring fair value or for disclosing information about fair value measurements. The amendments will be effective for the Company beginning January 1, 2012 but are not expected to have a material effect on the financial statements. |
| • | | The Comprehensive Income topic of the ASC was amended in June 2011. The amendment eliminates the option to present other comprehensive income as a part of the statement of changes in stockholders’ equity. The amendment requires consecutive presentation of the statement of net income and other comprehensive income and requires an entity to present reclassification adjustments from other comprehensive income to net income on the face of the financial statements. The amendments will be applicable to the Company on January 1, 2012 and will be applied retrospectively. The Company does not expect the amendment to have any impact on the Company’s financial condition, results of operations, or cash flows. |
Other accounting standards that have been issued or proposed by the FASB or other standards-setting bodies are not expected to have a material impact on the Company’s financial position, results of operations or cash flows.
Note 4 - Cash and Cash Equivalents
As of June 30, 2011, cash and due from banks of $1.6 million is represented by cash on hand and noninterest-bearing deposits with other banks. Interest-bearing deposits in other banks were $12.3 million at June 30, 2011, and included $1.9 million in CDs invested at other banks that carry a weighted average rate of 1.80% with maturities less than 12 months. Also included is $4.2 million at the Federal Reserve and $4.2 million in money market deposit accounts. Additionally, as of June 30, 2011, the Bank had $2 million in federal funds sold. These balances allow the Bank to meet liquidity requirements and provide temporary holdings until the funds can be otherwise deployed or invested.
Note 5 - Securities
At June 30, 2011 and December 31, 2010, the Bank’s securities consisted of city and county issued municipal bonds, mortgage-backed securities issued by the Federal National Mortgage Association (FNMA), Federal Home Loan Mortgage Corporation (FHLMC), and Government National Mortgage Association (GNMA), and collateralized mortgage obligations issued by the Government National Mortgage Association (GNMA), summarized as follows:
| | | | | | | | | | | | | | | | |
| | June 30, 2011 | |
| | Amortized Cost | | | Gross Unrealized Gains | | | Gross Unrealized Losses | | | Fair Value | |
Municipal bonds | | $ | 1,956,084 | | | $ | 5,258 | | | $ | (22,271 | ) | | $ | 1,939,071 | |
Collateralized mortgage obligations (CMOs) | | | 2,932,054 | | | | 5,616 | | | | (3,997 | ) | | | 2,933,673 | |
Mortgage-backed securities (MBSs) | | | 23,807,973 | | | | 54,910 | | | | (93,941 | ) | | | 23,768,942 | |
| | | | | | | | | | | | | | | | |
Total securities | | $ | 28,696,111 | | | $ | 65,784 | | | $ | (120,209 | ) | | $ | 28,641,686 | |
| | | | | | | | | | | | | | | | |
| |
| | December 31, 2010 | |
| | Amortized Cost | | | Gross Unrealized Gains | | | Gross Unrealized Losses | | | Fair Value | |
Municipal bonds | | $ | 1,961,248 | | | $ | — | | | $ | (131,775 | ) | | $ | 1,829,473 | |
Collateralized mortgage obligations (CMOs) | | | 3,024,821 | | | | — | | | | (82,164 | ) | | | 2,942,657 | |
Mortgage-backed securities (MBSs) | | | 24,284,541 | | | | 9,615 | | | | (360,975 | ) | | | 23,933,181 | |
| | | | | | | | | | | | | | | | |
Total securities | | $ | 29,270,610 | | | $ | 9,615 | | | $ | (574,914 | ) | | $ | 28,705,311 | |
| | | | | | | | | | | | | | | | |
9
The unrealized losses at June 30, 2011 and December 31, 2010 are shown in the following table:
| | | | | | | | | | | | | | | | | | | | | | | | |
| | June 30, 2011 | |
| | Less than 12 months | | | 12 months or longer | | | Total | |
| | Fair | | | Unrealized | | | Fair | | | Unrealized | | | Fair | | | Unrealized | |
| | Value | | | Losses | | | Value | | | Losses | | | Value | | | Losses | |
Municipal Bonds | | $ | 1,298,153 | | | $ | (22,271 | ) | | $ | — | | | $ | — | | | $ | 1,298,153 | | | $ | (22,271 | ) |
Collateralized mortgage obligations (CMOs) | | | 979,683 | | | | (3,997 | ) | | | — | | | | — | | | | 979,683 | | | | (3,997 | ) |
Mortgage-backed securities (MBSs) | | | 15,421,501 | | | | (93,941 | ) | | | — | | | | — | | | | 15,421,501 | | | | (93,941 | ) |
| | | | | | | | | | | | | | | | | | | | | | | | |
Total temporarily impaired securities | | $ | 17,699,337 | | | $ | (120,209 | ) | | $ | — | | | $ | — | | | $ | 17,699,337 | | | $ | (120,209 | ) |
| | | | | | | | | | | | | | | | | | | | | | | | |
| |
| | December 31, 2010 | |
| | Less than 12 months | | | 12 months or longer | | | Total | |
| | Fair | | | Unrealized | | | Fair | | | Unrealized | | | Fair | | | Unrealized | |
| | Value | | | Losses | | | Value | | | Losses | | | Value | | | Losses | |
Municipal Bonds | | $ | 1,829,473 | | | $ | (131,775 | ) | | $ | — | | | $ | — | | | $ | 1,829,473 | | | $ | (131,775 | ) |
Collateralized mortgage obligations (CMOs) | | | 2,942,657 | | | | (82,164 | ) | | | — | | | | — | | | | 2,942,657 | | | | (82,164 | ) |
Mortgage-backed securities (MBSs) | | | 20,467,363 | | | | (360,975 | ) | | | — | | | | — | | | | 20,467,363 | | | | (360,975 | ) |
| | | | | | | | | | | | | | | | | | | | | | | | |
Total temporarily impaired securities | | $ | 25,239,493 | | | $ | (574,914 | ) | | $ | — | | | $ | — | | | $ | 25,239,493 | | | $ | (574,914 | ) |
| | | | | | | | | | | | | | | | | | | | | | | | |
The contractual maturity distribution and yields of the Bank’s securities portfolio at June 30, 2011 are summarized below. Actual maturities may differ from contractual maturities shown below since borrowers may have the right to pre-pay these obligations without pre-payment penalties.
| | | | | | | | |
| | Securities | |
| | Available For Sale | |
| | Amortized | | | Estimated | |
| | Cost | | | Fair Value | |
| | |
Due after one year but within five years | | $ | — | | | $ | — | |
Due after five years but within ten years | | | 1,849,798 | | | | 1,854,505 | |
Due after ten years | | | 26,846,313 | | | | 26,787,181 | |
| | | | | | | | |
Total(1) | | $ | 28,696,111 | | | $ | 28,641,686 | |
| | | | | | | | |
(1) | Maturities estimated based on average life of security. |
The Bank also owned Federal Reserve Bank (FRB) stock with a cost of $417,250 at June 30, 2011 and $456,300 at December 31, 2010. The yield at both periods was 6%. The amount of FRB stock held is based on our shareholders’ equity. As shareholders’ equity decreases due to losses, the amount of FRB stock may also decrease quarterly. During the first quarter of 2011, the bank became a member of the Federal Home Loan Bank (FHLB), Atlanta, Georgia, and purchased FHLB stock. At June 30, 2011, the Bank owned $93,800 in FHLB stock.
Securities with an amortized cost of $7,172,444 at June 30, 2011 and $5,021,219 at December 31, 2010, were pledged to secure public deposits. During the six months ended June 30, 2011, the Bank sold ten mortgage backed securities with amortized costs of $11 million and purchased eight mortgage backed securities with an amortized cost of $12 million. The securities sold and purchased were mortgage backed securities backed by U.S. Government Agencies.
There were no write-downs for other-than-temporary declines in the fair value of debt securities for the six month period ended June 30, 2011. At June 30, 2011, there were no investment securities considered to be other than temporarily impaired. The municipal bonds have been evaluated and are considered to be in a temporary loss position. The Bank’s mortgage-backed securities are investment grade securities backed by a pool of mortgages. Principal and interest payments on the underlying mortgages are used to pay monthly interest and principal on the securities.
10
Note 6 - Credit Quality
Provision and Allowance for Loan Losses
An allowance for loan losses has been established through a provision for loan losses charged to expense on the consolidated statement of operations. The allowance for loan losses represents an amount management has determined is adequate to absorb probable losses on existing loans that may become uncollectible. Growth in the loan portfolio is the primary reason for additions to the allowance for loan losses. Additionally, provisions may be made for non-performing loans.
The first step in the process is to assign a credit risk grade to each loan in the portfolio based on one common set of parameters that include items such as cash flow coverage ratios, debt-to-worth ratio, liquidity of the borrower, net worth, experience of the borrower, and other factors. The general pool of performing loans is then segmented into categories based on FFIEC call codes, which represent different loan types such as commercial loans, construction loans, consumer loans, and so on. The loss history of each loan type is measured and includes actual history experienced by the bank and the loss experiences of peer banks. The loss history results in a factor that is applied to each loan pool. Additionally, other factors are applied to represent known or expected changes to the loan portfolio resulting from economic and industry developments, the depth and knowledge of management, changes in policies and practices, and more. These environmental factors require judgment and estimates, and the eventual outcomes may differ from the estimates. The combined factors are applied to each loan category and result in the necessary allowance for the general performing loan pool.
The bank evaluates non-performing loans, loans with credit risk grades of Special Mention, Substandard, Doubtful, or worse, past due loans, loans on non-accrual, and any restructured loans separately to determine if the loan is impaired. Impaired loans and non-performing loans can require higher loan loss reserves. If a loan is individually evaluated and identified as impaired, it is measured by using either the fair value of the collateral less costs to sell, present value of expected future cash flows discounted at the loans effective interest rate, or observable market price of the loan. Management chooses a method on a loan-by-loan basis depending on which information is available. Measuring impaired loans requires judgment and estimates and the eventual outcomes may differ from the estimates.
The following table sets forth certain information with respect to our allowance for loan losses and the composition of charge offs and recoveries at June 30, 2011 and December 31, 2010. Deferred loans fees of $136,801 and $73,850 as of June 30, 2011 and December 31, 2010, respectively, are not included in the allowance for loan losses calculation.
11
| | | | | | | | | | | | | | | | | | | | | | | | | | | | |
| | Allowance for Loan Losses and Recorded Investment in Loans Receivable For the Year Through June 30, 2011 | |
| | Construction and Land Development | | | Real Estate Mortgage | | | Real Estate Other | | | Commercial and Industrial | | | Consumer | | | Unallocated | | | Total | |
Allowance for loan losses: | | | | | | | | | | | | | | | | | | | | | | | | | | | | |
Beginning Balance | | $ | 92,265 | | | $ | 79,048 | | | $ | 185,062 | | | $ | 14,981 | | | $ | 2,112 | | | $ | 59,282 | | | $ | 432,750 | |
Charge-offs | | | — | | | | — | | | | — | | | | — | | | | — | | | | — | | | | — | |
Recoveries | | | — | | | | — | | | | — | | | | — | | | | — | | | | — | | | | — | |
Provisions | | | 30,532 | | | | 59,267 | | | | 283,563 | | | | 65,515 | | | | 12,274 | | | | 44,272 | | | | 495,423 | |
| | | | | | | | | | | | | | | | | | | | | | | | | | | | |
Ending Balance | | $ | 122,797 | | | $ | 138,315 | | | $ | 468,625 | | | $ | 80,496 | | | $ | 14,386 | | | $ | 103,554 | | | $ | 928,173 | |
| | | | | | | | | | | | | | | | | | | | | | | | | | | | |
| | | | | | | |
Ending Balances: | | | | | | | | | | | | | | | | | | | | | | | | | | | | |
Individually evaluated for impairment | | $ | 8,434 | | | $ | — | | | $ | — | | | $ | — | | | $ | — | | | | | | | $ | 8,434 | |
| | | | | | | | | | | | | | | | | | | | | | | | | | | | |
| | | | | | | |
Collectively evaluated for impairment | | $ | 114,363 | | | $ | 138,315 | | | $ | 468,625 | | | $ | 80,496 | | | $ | 14,386 | | | $ | 103,554 | | | $ | 919,739 | |
| | | | | | | | | | | | | | | | | | | | | | | | | | | | |
| | | | | | | |
Loans acquired with deteriorated credit quality | | $ | — | | | $ | — | | | $ | — | | | $ | — | | | $ | — | | | $ | — | | | $ | — | |
| | | | | | | | | | | | | | | | | | | | | | | | | | | | |
| | | | | | | |
Loans receivable: | | | | | | | | | | | | | | | | | | | | | | | | | | | | |
Ending balance - total | | $ | 7,424,375 | | | $ | 14,092,648 | | | $ | 14,558,956 | | | $ | 4,183,110 | | | $ | 1,158,849 | | | | | | | $ | 41,417,938 | |
| | | | | | | | | | | | | | | | | | | | | | | | | | | | |
| | | | | | | |
Ending Balances: | | | | | | | | | | | | | | | | | | | | | | | | | | | | |
Individually evaluated for impairment | | $ | 243,528 | | | $ | — | | | $ | — | | | $ | — | | | $ | — | | | | | | | $ | 243,528 | |
| | | | | | | | | | | | | | | | | | | | | | | | | | | | |
Collectively evaluated for impairment | | $ | 7,180,847 | | | $ | 14,092,648 | | | $ | 14,558,956 | | | $ | 4,183,110 | | | $ | 1,158,849 | | | | | | | $ | 41,174,410 | |
| | | | | | | | | | | | | | | | | | | | | | | | | | | | |
Loans acquired with deteriorated credit quality | | $ | — | | | $ | — | | | $ | — | | | $ | — | | | $ | — | | | | | | | $ | — | |
| | | | | | | | | | | | | | | | | | | | | | | | | | | | |
| |
| | Allowance for Loan Losses and Recorded Investment in Loans Receivable For the Year Ended December 31, 2010 | |
| | Construction and Land Development | | | Real Estate Mortgage | | | Real Estate Other | | | Commercial and Industrial | | | Consumer | | | Unallocated | | | Total | |
Allowance for loan losses: | | | | | | | | | | | | | | | | | | | | | | | | | | | | |
Beginning Balance | | $ | 42,442 | | | $ | 7,317 | | | $ | 80,054 | | | $ | 14,206 | | | $ | 826 | | | $ | — | | | $ | 144,845 | |
Charge-offs | | | — | | | | — | | | | (197,797 | ) | | | — | | | | (30 | ) | | | — | | | | (197,827 | ) |
Recoveries | | | — | | | | — | | | | — | | | | — | | | | 30 | | | | — | | | | 30 | |
Provisions | | | 49,823 | | | | 71,731 | | | | 302,805 | | | | 775 | | | | 1,286 | | | | 59,282 | | | | 485,702 | |
| | | | | | | | | | | | | | | | | | | | | | | | | | | | |
Ending Balance | | $ | 92,265 | | | $ | 79,048 | | | $ | 185,062 | | | $ | 14,981 | | | $ | 2,112 | | | $ | 59,282 | | | $ | 432,750 | |
| | | | | | | | | | | | | | | | | | | | | | | | | | | | |
| | | | | | | |
Ending Balances: | | | | | | | | | | | | | | | | | | | | | | | | | | | | |
Individually evaluated for impairment | | $ | — | | | $ | — | | | $ | — | | | $ | — | | | $ | — | | | $ | — | | | $ | — | |
| | | | | | | | | | | | | | | | | | | | | | | | | | | | |
| | | | | | | |
Collectively evaluated for impairment | | $ | 92,265 | | | $ | 79,048 | | | $ | 185,062 | | | $ | 14,981 | | | $ | 2,112 | | | $ | 59,282 | | | $ | 432,750 | |
| | | | | | | | | | | | | | | | | | | | | | | | | | | | |
| | | | | | | |
Loans acquired with deteriorated credit quality | | $ | — | | | $ | — | | | $ | — | | | $ | — | | | $ | — | | | $ | — | | | $ | — | |
| | | | | | | | | | | | | | | | | | | | | | | | | | | | |
| | | | | | | |
Loans receivable: | | | | | | | | | | | | | | | | | | | | | | | | | | | | |
Ending balance - total | | $ | 5,528,181 | | | $ | 5,631,112 | | | $ | 10,721,143 | | | $ | 1,090,301 | | | $ | 329,949 | | | | | | | $ | 23,300,686 | |
| | | | | | | | | | | | | | | | | | | | | | | | | | | | |
| | | | | | | |
Ending Balances: | | | | | | | | | | | | | | | | | | | | | | | | | | | | |
Individually evaluated for impairment | | $ | 137,277 | | | $ | — | | | $ | — | | | $ | — | | | $ | — | | | | | | | $ | 137,277 | |
| | | | | | | | | | | | | | | | | | | | | | | | | | | | |
Collectively evaluated for impairment | | $ | 5,390,904 | | | $ | 5,631,112 | | | $ | 10,721,143 | | | $ | 1,090,301 | | | $ | 329,949 | | | | | | | $ | 23,163,409 | |
| | | | | | | | | | | | | | | | | | | | | | | | | | | | |
Loans acquired with deteriorated credit quality | | $ | — | | | $ | — | | | $ | — | | | $ | — | | | $ | — | | | | | | | $ | — | |
| | | | | | | | | | | | | | | | | | | | | | | | | | | | |
12
The adequacy of the allowance for loan losses is reviewed on an ongoing basis. The amount of the allowance is adjusted to reflect changing circumstances. Recognized losses are charged to the allowance and recoveries are added back to the allowance. As of June 30, 2011, management considers the allowance for loan losses to be adequate to meet presently known and inherent losses in the loan portfolio. The underlying assumptions used in the analysis may be impacted in future periods by changes in economic conditions, the impact of changing regulations, and the discovery of new information with respect to borrowers not previously known to management. Thus, there can be no assurance that charge-offs in future periods will not exceed the allowance for loan losses or that additional increases in the allowance for loan losses will not be required.
Credit Quality and Non-Performing Loans
Generally, the first indication of the non-performance of a loan is a missed payment. Thus, one of the adverse indicators used in monitoring the credit quality of a loan is the past due status of the loan payments. As of June 30, 2011, loans past due totaled $181,160, of which $153,714 was past due greater than 90 days. As of December 31, 2010, loans past due totaled $253,714, of which $137,277 was past due greater than 90 days.
Below is a table that presents the past due status of loans receivable as of June 30, 2011 and December 31, 2010.
| | | | | | | | | | | | | | | | | | | | | | | | |
June 30, 2011 | |
| | 30 - 59 Days Past Due | | | 60 - 89 Days Past Due | | | Greater Than 90 Days | | | Current | | | Total Loans | | | Past Due > 90 Days and Accruing | |
Construction/Land development | | $ | — | | | $ | — | | | $ | 153,714 | | | $ | 7,325,973 | | | $ | 7,479,687 | | | $ | — | |
Real estate - mortgage | | | — | | | | — | | | | — | | | | 8,585,179 | | | | 8,585,179 | | | | — | |
Real estate - other | | | — | | | | — | | | | — | | | | 20,805,973 | | | | 20,805,973 | | | | — | |
Commercial and industrial | | | — | | | | — | | | | — | | | | 4,207,559 | | | | 4,207,559 | | | | — | |
Consumer and other | | | — | | | | 27,446 | | | | — | | | | 312,094 | | | | 339,540 | | | | — | |
| | | | | | | | | | | | | | | | | | | | | | | | |
Total | | $ | — | | | $ | 27,446 | | | $ | 153,714 | | | $ | 41,236,778 | | | $ | 41,417,938 | | | $ | — | |
| | | | | | | | | | | | | | | | | | | | | | | | |
|
December 31,2010 | |
| | 30 - 59 Days Past Due | | | 60 - 89 Days Past Due | | | Greater Than 90 Days | | | Current | | | Total Loans | | | Past Due > 90 Days and Accruing | |
Construction/Land development | | $ | 116,437 | | | $ | — | | | $ | 137,277 | | | $ | 5,274,467 | | | $ | 5,528,181 | | | $ | — | |
Real estate - mortgage | | | — | | | | — | | | | — | | | | 5,631,112 | | | | 5,631,112 | | | | — | |
Real estate - other | | | — | | | | — | | | | — | | | | 10,721,143 | | | | 10,721,143 | | | | — | |
Commercial and industrial | | | — | | | | — | | | | — | | | | 1,090,301 | | | | 1,090,301 | | | | — | |
Consumer and other | | | — | | | | — | | | | — | | | | 329,949 | | | | 329,949 | | | | — | |
| | | | | | | | | | | | | | | | | | | | | | | | |
Total | | $ | 116,437 | | | $ | — | | | $ | 137,277 | | | $ | 23,046,972 | | | $ | 23,300,686 | | | $ | — | |
| | | | | | | | | | | | | | | | | | | | | | | | |
Generally, a loan will be placed on nonaccrual status when it becomes 90 days past due as to principal or interest, or when management believes, after considering economic and business conditions and collection efforts, that the borrower’s financial condition is such that collection of the loan is doubtful. When a loan is placed on non-accrual, all previously accrued interest that has not been received is reversed against current income. The recognition of interest on a non-accrual loan is placed on a cash basis and can be recognized when and if a payment is received. Generally, payments received on non-accrual loans are applied directly to principal.
13
Below is a table presenting information regarding nonaccrual loans at June 30, 2011 and December 31, 2010.
| | | | | | | | |
Non-Accrual Loans | |
| | June 30, | | | December 31, | |
| | 2011 | | | 2010 | |
Construction and land development | | $ | 243,528 | | | $ | 137,277 | |
Real estate - mortgage | | | — | | | | — | |
Real estate - other | | | — | | | | — | |
Commercial and industrial | | | — | | | | — | |
Consumer and other | | | — | | | | — | |
| | | | | | | | |
Total | | $ | 243,528 | | | $ | 137,277 | |
| | | | | | | | |
At June 30, 2011, the bank had three loans totaling $243,528 in non-accrual status. At December 31, 2010, the Bank had two loans in non-accrual status totaling $137,277. The Bank did not have any loans past due 90 days and still accruing as of June 30, 2011 and December 31, 2010.
Loans are assigned a credit risk grade upon their origination. Loans are monitored for non-performance and may be downgraded to reflect adverse conditions that might affect collectability. Heightened risk characteristics include a history of poor payment performance, poor financial performance, as well as the potential for adverse earnings impact from deteriorating collateral values. The Bank had $2,163,979 and $651,686 in loans classified as Substandard or worse as of June 30, 2011 and December 31, 2010, respectively.
General definitions for each credit risk level are as follows:
| • | | Prime credits present little to no risk as they are secured by cash and/or the borrowers have unquestionable strength with access to liquidity. |
| • | | Good credits have average risk. Borrowers have sound primary and secondary repayment sources, strong debt capacity and coverage, and substantial liquidity and net worth. Commercial borrowers in this category work within industries exhibiting strong trends and the company exhibits favorable profitability, liquidity, and leverage trends with good management in key positions. |
| • | | Acceptable credits are those that perform relatively close to expectations with adequate evidence the borrower is generating adequate cash flows to service the debt. Borrowers have good debt coverage and capacity, average liquidity and net worth, and operate in industries the exhibit good trends. |
| • | | Acceptable with care credits may be borrowers who exhibit a limited asset base and liquidity, have debt capacity that is limited, or may be a start up venture that is dependent on guarantor strength. These borrowers have elements of risk the Bank chooses to closely monitor. |
| • | | Special mention credits have a potential weakness that deserves close attention. If left uncorrected, these potential weaknesses may result in deterioration. Credits in this category are formally monitored on a recurring basis. |
| • | | Substandard credits are inadequately protected by the worth and paying capacity of the borrower or of the collateral pledged. These credits exhibit a well-defined weakness that may jeopardize the liquidation of the debt. There is a possibility these credits may result in losses if the observed weakness is not corrected. |
| • | | Doubtful credits have all the weaknesses of a substandard credit with the added characteristic that the weakness makes collection or liquidation in full improbable. |
| • | | Loss assets are considered uncollectible and of such little value that their continuance as bankable assets is not warranted. Losses should be taken in the period in which they surface as uncollectible. |
Credit risk grades within the loan portfolio as of June 30, 2011 and December 31, 2010 are presented in the following three tables, separately for commercial loans, residential real estate loans, and consumer loans, with breakdowns provided for loan types within those categories.
14
| | | | | | | | | | | | | | | | | | | | | | | | |
| | Credit Risk Profile of Commercial Loans | |
| | June 30, 2011 | | | December 31, 2010 | |
| | Commercial | | | Commercial Real Estate Construction | | | Commercial Real Estate | | | Commercial | | | Commercial Real Estate Construction | | | Commercial Real Estate | |
Prime | | $ | 280,000 | | | $ | — | | | $ | — | | | $ | 260,000 | | | $ | — | | | $ | — | |
Good | | | — | | | | — | | | | — | | | | — | | | | — | | | | — | |
Acceptable | | | 2,045,000 | | | | 2,410,868 | | | | 9,668,224 | | | | 90,870 | | | | 2,450,014 | | | | 3,424,704 | |
Acceptable with care | | | 1,745,089 | | | | 2,879,629 | | | | 6,795,165 | | | | 739,431 | | | | 1,209,159 | | | | 5,046,634 | |
Special mention | | | — | | | | — | | | | 2,587,049 | | | | — | | | | — | | | | 1,851,832 | |
Substandard assets | | | 137,470 | | | | 127,091 | | | | 1,755,535 | | | | — | | | | 137,277 | | | | 397,972 | |
Doubtful assets | | | — | | | | — | | | | — | | | | — | | | | — | | | | — | |
Loss assets | | | — | | | | — | | | | — | | | | — | | | | — | | | | — | |
| | | | | | | | | | | | | | | | | | | | | | | | |
Total | | $ | 4,207,559 | | | $ | 5,417,588 | | | $ | 20,805,973 | | | $ | 1,090,301 | | | $ | 3,796,450 | | | $ | 10,721,142 | |
| | | | | | | | | | | | | | | | | | | | | | | | |
| | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | |
Credit Risk Profile of Residential Loans | |
| | June 30, 2011 | | | December 31, 2010 | |
| | Residential - Prime | | | Residential - Subprime | | | Residential - Prime | | | Residential - Subprime | |
| | Residential Mortgage | | | Residential Construction | | | Residential Mortgage | | | Residential Construction | | | Residential Mortgage | | | Residential Construction | | | Residential Mortgage | | | Residential Construction | |
Prime | | $ | — | | | $ | — | | | $ | — | | | $ | — | | | $ | — | | | $ | — | | | $ | — | | | $ | — | |
Good | | | 84,733 | | | | — | | | | — | | | | — | | | | 45,808 | | | | — | | | | — | | | | — | |
Acceptable | | | 7,876,568 | | | | 1,945,663 | | | | — | | | | — | | | | 5,004,637 | | | | 1,577,794 | | | | — | | | | — | |
Acceptable with care | | | 437,407 | | | | — | | | | — | | | | — | | | | 580,667 | | | | 37,500 | | | | — | | | | — | |
Special mention | | | 186,470 | | | | — | | | | — | | | | — | | | | — | | | | — | | | | — | | | | — | |
Substandard assets | | | — | | | | 116,437 | | | | — | | | | — | | | | — | | | | 116,437 | | | | — | | | | — | |
Doubtful assets | | | — | | | | — | | | | — | | | | — | | | | — | | | | — | | | | — | | | | — | |
Loss assets | | | — | | | | — | | | | — | | | | — | | | | — | | | | — | | | | — | | | | — | |
| | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | |
Total | | $ | 8,585,178 | | | $ | 2,062,100 | | | $ | — | | | $ | — | | | $ | 5,631,112 | | | $ | 1,731,731 | | | $ | — | | | $ | — | |
| | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | |
| | | | | | | | | | | | | | | | |
Credit Risk Profile of Consumer Loans | |
| | June 30, 2011 | | | December 31, 2010 | |
| | Consumer - Auto | | | Consumer - Other | | | Consumer - Auto | | | Consumer - Other | |
Prime | | $ | 13,007 | | | $ | — | | | $ | — | | | $ | 18,722 | |
Good | | | 22,338 | | | | — | | | | — | | | | — | |
Acceptable | | | 46,702 | | | | 206,107 | | | | 65,008 | | | | 204,045 | |
Acceptable with care | | | 7,964 | | | | — | | | | — | | | | 11,228 | |
Special mention | | | 15,976 | | | | — | | | | — | | | | 30,946 | |
Substandard assets | | | — | | | | 27,446 | | | | — | | | | — | |
Doubtful assets | | | — | | | | — | | | | — | | | | — | |
Loss assets | | | — | | | | — | | | | — | | | | — | |
| | | | | | | | | | | | | | | | |
Total | | $ | 105,987 | | | $ | 233,553 | | | $ | 65,008 | | | $ | 264,941 | |
| | | | | | | | | | | | | | | | |
Impaired loans totaled $243,528 and $137,277 as of June 30, 2011 and December 31, 2010, respectively, and were represented by loans on non-accrual. The following table sets forth certain information regarding the type of impaired loans, their related allowances,
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and any interest income recognized on impaired loans during the second quarter of 2011 ending June 30.
| | | | | | | | | | | | | | | | | | | | |
Impaired Loans | |
For the Quarter Ended June 30, 2011 | |
| | Outstanding Principal Balance | | | Recorded Investment | | | Average Recorded Investment | | | Related Allowance | | | Interest Income Recognized | |
With no related allowance recorded: | | | | | | | | | | | | | | | | | | | | |
Construction and land development | | $ | 89,814 | | | $ | 89,814 | | | $ | 92,887 | | | $ | — | | | $ | — | |
| | | | | |
With an allowance recorded: | | | | | | | | | | | | | | | | | | | | |
Construction and land development | | | 153,714 | | | | 153,714 | | | | 153,771 | | | | 8,434 | | | | — | |
| | | | | | | | | | | | | | | | | | | | |
| | | | | |
Total: | | | | | | | | | | | | | | | | | | | | |
Construction and land development | | $ | 243,528 | | | $ | 243,528 | | | $ | 246,658 | | | $ | 8,434 | | | $ | — | |
| | | | | | | | | | | | | | | | | | | | |
If a loan is modified as a result of a customer’s inability to meet the original terms, and if the modification gives the customer more favorable terms that would not otherwise be granted, the loan is considered to be a troubled debt restructuring. As of June 30, 2011, the Bank has two loans that qualify as trouble debt restructuring. The following table presents information regarding the Bank’s loans that qualify as a troubled debt restructuring as of June 30, 2011.
| | | | | | | | | | | | |
| | June 30, 2011 | |
| | Number of Loans | | | Pre-modification Outstanding Balances | | | Post-modification Outstanding Balances | |
Construction and land development | | | 2 | | | $ | 137,277 | | | $ | 127,091 | |
Real estate - mortgage | | | — | | | | — | | | | — | |
Real estate - other | | | — | | | | — | | | | — | |
Commercial and industrial | | | — | | | | — | | | | — | |
Consumer and other | | | — | | | | — | | | | — | |
| | | | | | | | | | | | |
Total | | | 2 | | | $ | 137,277 | | | $ | 127,091 | |
| | | | | | | | | | | | |
As of June 30, 2011, management was not aware of any additional loans that were not already considered for impairment or categorized as impaired or on non-accrual.
Note 7 - Fair Value Measurements
The current accounting literature requires the disclosure of fair value information for financial instruments, whether or not they are recognized in the consolidated balance sheets, when it is practical to estimate the fair value. The guidance defines a financial instrument as cash, evidence of an ownership interest in an entity or contractual obligations, which require the exchange of cash, or other financial instruments. Certain items are specifically excluded from the disclosure requirements, including the Company’s common stock, premises and equipment, accrued interest receivable and payable, and other assets and liabilities.
The fair value of a financial instrument is the amount at which the asset or obligation could be exchanged in a current transaction between willing parties, other than in a forced or liquidation sale. Fair value estimates are made at a specific point in time based on relevant market information and information about the financial instruments. Because no market value exists for a significant portion of the financial instruments, fair value estimates are based on judgments regarding future expected loss experience, current economic conditions, risk characteristics of various financial instruments, and other factors.
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The Company has used management’s best estimate of fair value based on the above assumptions. Thus, the fair values presented may not be the amounts, which could be realized, in an immediate sale or settlement of the instrument. In addition, any income taxes or other expenses, which would be incurred in an actual sale or settlement, are not taken into consideration in the fair values presented.
The following methods and assumptions were used to estimate the fair value of significant financial instruments:
Cash and Due from Banks – The carrying amount is a reasonable estimate of fair value due to the short term nature of such items.
Federal Funds Sold – The carrying amount is a reasonable estimate of fair value, as the term for Fed Funds sold is for one day.
Interest-bearing Bank Deposits– Due to the short-term and liquid nature of these deposits, the carrying amount is a reasonable estimate of fair value.
Securities Available for Sale–Investment securities available-for-sale are recorded at fair value on a recurring basis. Fair value measurement is based upon quoted prices, if available. If quoted prices are not available, fair values are measured using independent pricing models or other model-based valuation techniques such as the present value of future cash flows, adjusted for the security’s credit rating, prepayment assumptions and other factors such as credit loss assumptions.
Federal Reserve Bank and Federal Home Loan Bank Stock – The carrying value of nonmarketable equity securities approximates the fair value since no ready market exists for the stock.
Loans Held for Sale – Loans held for sale are carried at the lower of cost or market value. The fair values of mortgage loans held for sale are based on commitments on hand from investors within the secondary market for loans with similar characteristics.
Loans Receivable – For certain categories of loans, such as variable rate loans, which are repriced frequently and have no significant change in credit risk, fair values are based on the carrying amounts. The fair value of fixed rate loans is estimated by discounting the future cash flows using the current rates at which similar loans would be made to borrowers with similar credit ratings and for the same remaining maturities. The fair value of impaired loans is estimated based on discounted cash flows or underlying collateral values, where applicable.
Deposits– The fair value of demand deposits, savings, and money market accounts is the amount payable on demand at the reporting date. The fair values of certificates of deposit are estimated using a discounted cash flow calculation that applies current interest rates to a schedule of aggregated expected maturities.
Off-Balance-Sheet Financial Instruments – The carrying amount for loan commitments, which are off-balance-sheet financial instruments, approximates the fair value since the obligations are typically made with variable rates or have short maturities.
The carrying values and estimated fair values of the Company’s financial instruments are as follows:
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| | | | | | | | | | | | | | | | |
| | June 30, 2011 | | | December 31, 2010 | |
| | Carrying Amount | | | Estimated Fair Value | | | Carrying Amount | | | Estimated Fair Value | |
Financial assets | | | | | | | | | | | | | | | | |
Cash and due from banks | | $ | 1,623,711 | | | $ | 1,623,711 | | | $ | 539,685 | | | $ | 539,685 | |
Federal funds sold | | | 1,958,490 | | | | 1,958,490 | | | | 1,589,151 | | | | 1,589,151 | |
Interest-bearing bank deposits | | | 10,324,067 | | | | 10,324,067 | | | | 16,465,014 | | | | 16,465,014 | |
Securities available for sale | | | 28,641,686 | | | | 28,641,686 | | | | 28,705,311 | | | | 28,705,311 | |
Federal Reserve Bank and Federal Home Loan Bank stock | | | 511,050 | | | | 511,050 | | | | 456,300 | | | | 456,300 | |
Loans and Loans Held for Sale, net | | | 40,352,964 | | | | 41,001,242 | | | | 23,134,086 | | | | 23,520,480 | |
| | | | |
Financial liabilities | | | | | | | | | | | | | | | | |
Demand deposits, interest-bearing transaction and savings accounts | | | 44,370,751 | | | | 44,370,751 | | | | 31,927,912 | | | | 31,927,912 | |
Certificates of deposits | | | 25,286,982 | | | | 25,394,785 | | | | 24,759,204 | | | | 24,901,427 | |
| | | | |
| | Notional Amount | | | Estimated Fair Value | | | Notional Amount | | | Estimated Fair Value | |
Commitments to extend credit | | $ | 7,665,811 | | | $ | — | | | $ | 4,341,642 | | | $ | — | |
| | | | | | | | | | | | | | | | |
Assets and liabilities carried at fair value are classified in one of the following three categories based on a hierarchy for ranking the quality and reliability of the information used to determine fair value:
| | |
Level 1 | | Quoted prices in active markets for identical assets or liabilities. Level 1 assets and liabilities include debt and equity securities and derivative contracts that are traded in an active exchange market, as well as U.S. Treasury Securities. |
| |
Level 2 | | Observable inputs other than Level 1 prices such as quoted prices for similar assets or liabilities; quoted prices in markets that are not active; or other inputs that are observable or can be corroborated by observable market data. Level 2 assets and liabilities include debt securities with quoted prices that are traded less frequently than exchange-traded instruments, mortgage-backed securities, municipal bonds, corporate debt securities and derivative contracts whose value is determined using a pricing model with inputs that are observable in the market or can be derived principally from or corroborated by observable market data. This category generally includes certain derivative contracts and impaired loans. |
| |
Level 3 | | Unobservable inputs that are supported by little or no market activity and that are significant to the fair value of the assets or liabilities. Level 3 assets and liabilities include financial instruments whose value is determined using pricing models, discounted cash flow methodologies, or similar techniques, as well as instruments for which the determination of fair value requires significant management judgment or estimation. For example, this category generally includes certain private equity investments, retained residual interests in securitizations, residential mortgage servicing rights, and highly-structured or long-term derivative contracts. |
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Assets Measured at Fair Value on a Recurring Basis
Following is a description of the valuation methodologies used for assets and liabilities measured at fair value on a recurring basis at June 30, 2011, as well as the general classification of such instruments pursuant to the valuation hierarchy:
Available-for-sale Securities
Investment securities available-for-sale are recorded at fair value on a recurring basis. Fair value measurement is based upon quoted prices, if available. If quoted prices are not available, fair values are measured using independent pricing models or other model-based valuation techniques such as the present value of future cash flows, adjusted for the security’s credit rating, prepayment assumptions and other factors such as credit loss assumptions.
Securities traded on an active exchange, such as the New York Stock Exchange, U.S. Treasury securities that are traded by dealers or brokers in active over-the-counter markets and money market funds are considered highly liquid and are classified as Level 1. Level 2 securities include mortgage-backed securities issued by government sponsored entities, municipal bonds and corporate debt securities. Securities classified as Level 3 include asset-backed securities in less liquid markets.
The following table presents the fair value of assets evaluated on a recurring basis as of June 30, 2011 and December 31, 2010 by level within the hierarchy.
| | | | | | | | | | | | |
| | Quoted Market Price in Active Markets (Level 1) | | | Significant Other Observable Inputs (Level 2) | | | Significant Unobservable Inputs (Level 3) | |
June 30, 2011 | | | | | | | | | | | | |
Mortgage Backed Securities (MBS) | | $ | — | | | $ | 23,768,942 | | | $ | — | |
Collateralized Mortgage Obligations (CMOs) | | | — | | | | 2,933,673 | | | | — | |
Municipal Bonds | | | — | | | | 1,939,071 | | | | — | |
| | | | | | | | | | | | |
Total | | $ | — | | | $ | 28,641,686 | | | $ | — | |
| | | | | | | | | | | | |
| | | |
December 31, 2010 | | | | | | | | | | | | |
Mortgage Backed Securities (MBS) | | $ | — | | | $ | 23,933,181 | | | $ | — | |
Collateralized Mortgage Obligations (CMOs) | | | — | | | | 2,942,657 | | | | — | |
Municipal Bonds | | | — | | | | 1,829,473 | | | | — | |
| | | | | | | | | | | | |
Total | | $ | — | | | $ | 28,705,311 | | | $ | — | |
| | | | | | | | | | | | |
There were no other assets and no liabilities measured at fair value on a recurring basis at June 30, 2011 and December 31, 2010.
Assets Measured at Fair Value on a Non-Recurring Basis
Loans Held for Sale
Loans held for sale are carried at the lower of cost or market value. The fair value of mortgage loans held for sale are based on commitments on hand from investors within the secondary market for loans with similar characteristics. As such, the fair value adjustments for mortgage loans for sale is nonrecurring Level 2.
Impaired Loans
A loan is considered impaired when the full payment under the loan terms is not expected. Impaired loans are carried at the present value of estimated future cash flows or the fair value of collateral. A portion of the allowance for loan losses is allocated to impaired loans if the value of such loans is deemed to be less than the unpaid balance. Loan losses are charged against the allowance when management believes the uncollectibility of a loan is confirmed. When the fair value of the collateral is based on an observable market price or a current appraised value, the Company records the loan as nonrecurring Level 2. When an appraised value is not
19
available and there is no observable market price, the Company records the loan as nonrecurring Level 3.
The following table presents the fair value of assets evaluated on a nonrecurring basis as of June 30, 2011 and December 31, 2010.
| | | | | | | | | | | | | | | | |
| | Carrying Value as of | | | Quoted Market Price in Active Markets (Level 1) | | | Significant Other Observable Inputs (Level 2) | | | Significant Unobservable Inputs (Level 3) | |
June 30, 2011 | | | | | | | | | | | | | | | | |
Loans held for sale | | $ | — | | | $ | — | | | $ | — | | | $ | — | |
Impaired Loans | | | 243,528 | | | | — | | | | 206,251 | | | | 37,277 | |
| | | | | | | | | | | | | | | | |
Total | | $ | 243,528 | | | $ | — | | | $ | 206,251 | | | $ | 37,277 | |
| | | | | | | | | | | | | | | | |
| | | | |
December 31, 2010 | | | | | | | | | | | | | | | | |
Loans held for sale | | $ | 340,000 | | | $ | — | | | $ | 340,000 | | | $ | — | |
Impaired Loans | | | 137,277 | | | | — | | | | 100,000 | | | | 37,277 | |
| | | | | | | | | | | | | | | | |
Total | | $ | 477,277 | | | $ | — | | | $ | 440,000 | | | $ | 37,277 | |
| | | | | | | | | | | | | | | | |
There were no other assets and no liabilities measured at fair value as of June 30, 2011 and December 31, 2010 on a non-recurring basis.
Note 8 - Subsequent Events
In preparing these consolidated financial statements, subsequent events were evaluated through the time the consolidated financial statements were issued. Financial statements are considered issued when they are widely distributed to all shareholders and other financial statement users, or filed with the SEC. In conjunction with applicable accounting standards, all material subsequent events have been either recognized in the consolidated financial statements or disclosed in the notes to the consolidated financial statements.
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Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations
The following discussion reviews our results of operations and assesses our financial condition. You should read the following discussion and analysis in conjunction with the accompanying consolidated financial statements. The commentary should be read in conjunction with the discussion of forward-looking statements, the consolidated financial statements, and the related notes and the other statistical information included in this report.
DISCUSSION OF FORWARD-LOOKING STATEMENTS
This report contains statements which constitute forward-looking statements within the meaning of Section 27A of the Securities Act of 1933 and Section 21E of the Securities Exchange Act of 1934. Forward-looking statements may relate to our financial condition, results of operation, plans, objectives, or future performance. These statements are based on many assumptions and estimates and are not guarantees of future performance. Our actual results may differ materially from those anticipated in any forward-looking statements, as they will depend on many factors about which we are unsure, including many factors which are beyond our control. The words “may,” “would,” “could,” “should,” “will,” “expect,” “anticipate,” “predict,” “project,” “potential,” “believe,” “continue,” “assume,” “intend,” “plan,” and “estimate,” as well as similar expressions, are meant to identify such forward-looking statements. Potential risks and uncertainties that could cause our actual results to differ from those anticipated in our forward-looking statements include, but are not limited to, those described in our Annual Report on Form 10-K for the year ended December 31, 2010 under Item 1A - Risk Factors and the following:
| • | | significant increases in competitive pressure in the banking and financial services industries; |
| • | | changes in the interest rate environment which could reduce anticipated or actual margins; |
| • | | changes in political conditions or the legislative or regulatory environment; |
| • | | general economic conditions, either nationally or regionally and especially in our primary service area, becoming less favorable than expected, resulting in, among other things, a deterioration in credit quality; |
| • | | changes occurring in business conditions and inflation; |
| • | | the level of allowance for loan loss and the lack of seasoning of our loan portfolio; |
| • | | the rate of delinquencies and amounts of charge-offs; |
| • | | the rates of loan growth; |
| • | | adverse changes in asset quality and resulting credit risk-related losses and expenses; |
| • | | changes in monetary and tax policies; |
| • | | loss of consumer confidence and economic disruptions resulting from terrorist activities; |
| • | | changes in the securities markets; and |
| • | | other risks and uncertainties detailed from time to time in our filings with the Securities and Exchange Commission. |
These risks are exacerbated by the volatility and disruption experienced in national and international financial, capital, and credit markets during the last three years. We are unable to predict what effect these uncertain market conditions will continue to have on our Company. There can be no assurance that these unprecedented developments will not materially and adversely affect our business, financial condition and results of operations.
Although we believe that the expectations reflected in our forward-looking statements are reasonable, we cannot guarantee you that these expectations will be achieved. We undertake no obligation to publicly update or otherwise revise any forward-looking statements, whether as a result of new information, future events, or otherwise.
Overview
Coastal Carolina Bancshares, Inc. is a bank holding company headquartered in Myrtle Beach, South Carolina. We were incorporated in February 2008 and our national bank subsidiary, Coastal Carolina National Bank, opened for business on June 8, 2009. The principal business activity of our bank is to provide retail and commercial banking services in Myrtle Beach and our surrounding market areas. Our deposits are insured by the Federal Deposit Insurance Corporation.
We completed our stock offering in June 2009, upon the issuance of 2,180,000 shares for gross proceeds of $21.8 million, pursuant to a closing in June 2009. We capitalized the bank with $19.9 million of the proceeds from the stock offering.
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Like most community banks, we derive most of our income from interest we receive on our loans and investments. Our primary source of funds for making these loans and investments is our deposits, on the majority of which we pay interest. Consequently, one of the key measures of our success is our amount of net interest income, or the difference between the income on our interest-earning assets, such as loans and investments, and the expense on our interest-bearing liabilities, such as deposits and borrowings. Another key measure is the spread between the yield we earn on these interest-earning assets and the rate we pay on our interest-bearing liabilities.
There are risks inherent in all loans, so we maintain an allowance for loan losses to absorb probable losses on existing loans that may become uncollectible. We establish and maintain this allowance by charging a provision for loan losses against our earnings. In the following section we have included a detailed discussion of this process.
The following discussion describes our results of operations for the three and six months ended June 30, 2011 and 2010 and also analyzes our financial condition as of June 30, 2011 and December 31, 2010.
Critical Accounting Policies
We have adopted various accounting policies, which govern the application of accounting principles generally accepted in the United States of America in the preparation of our financial statements. Our significant accounting policies are described in the footnotes to our audited consolidated financial statements as of December 31, 2010, as filed in our Annual Report on Form 10-K.
Certain accounting policies involve significant judgments and assumptions by us that may have a material impact on the carrying value of certain assets and liabilities. We consider such accounting policies to be critical accounting policies. The judgments and assumptions we use are based on historical experience and other factors, which we believe are reasonable under the circumstances. Because of the nature of the judgments and assumptions we make, actual results could differ from these judgments and estimates that could have a material impact on the carrying values of our assets and liabilities and our results of operations.
Allowance for Loan Losses
We believe the allowance for loan losses is the critical accounting policy that requires the most significant judgment and estimates used in preparation of our consolidated financial statements. Some of the more critical judgments supporting the amount of our allowance for loan losses include judgments about the credit worthiness of borrowers, the estimated value of the underlying collateral, assumptions about cash flow, determination of loss factors for estimating credit losses, and the impact of current events, conditions, and other factors impacting the level of probable inherent losses. Under different conditions, the actual amount of credit losses incurred by us may be different from management’s estimates provided in our consolidated financial statements. Refer to the portion of this discussion that addresses our allowance for loan losses for a more complete discussion of our processes and methodology for determining our allowance for loan losses.
Income Taxes
We use assumptions and estimates in determining income taxes payable or refundable for the current year, deferred income tax liabilities and assets for events recognized differently in our consolidated financial statements and income tax returns, and income tax benefit or expense. Determining these amounts requires analysis of certain transactions and interpretation of tax laws and regulations. Management exercises judgment in evaluating the amount and timing of recognition of resulting tax liabilities and assets. These judgments and estimates are reevaluated on a continual basis as regulatory and business factors change. Valuation allowances are established to reduce deferred tax assets if it is determined to be possible that all or some portion of the potential deferred tax asset will not be realized. The Company believes its loss position may adversely impact its ability to recognize the full benefit of its deferred tax asset. Therefore, the Company currently has placed a valuation allowance for its full deferred tax asset. No assurance can be given that either the tax returns submitted by us or the income tax reported on the financial statements will not be adjusted by either adverse rulings by the United States Tax Court, changes in the tax code, or assessments made by the Internal Revenue Service. We are subject to potential adverse adjustments, including, but not limited to, an increase in the statutory federal or state income tax rates, the permanent non-deductibility of amounts currently considered deductible either now or in future periods, and the dependency on the generation of future taxable income, including capital gains, in order to ultimately realize deferred income tax assets.
Legislative and Regulatory Initiatives to Address Financial and Economic Crises
Markets in the United States and elsewhere have experienced extreme volatility and disruption over the past three years. These circumstances have exerted significant downward pressure on prices of equity securities and virtually all other asset classes, and have
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resulted in substantially increased market volatility, severely constrained credit and capital markets, particularly for financial institutions, and an overall loss of investor confidence. Loan portfolio performances have deteriorated at many institutions resulting from, among other factors, a weak economy and a decline in the value of the collateral supporting their loans. Dramatic slowdowns in the housing industry, due in part to falling home prices and increasing foreclosures and unemployment, have created strains on financial institutions. Many borrowers are now unable to repay their loans and the collateral securing these loans has, in some cases, declined below the loan balance. In response to the challenges facing the financial services sector, a multitude of new regulatory and governmental actions have been announced beginning in 2008, including the Emergency Economic Stabilization Act (the EESA) approved by Congress and signed by President Bush on October 3, 2008, and the American Recovery and Reinvestment Act on February 17, 2009, among others.
Some of the more recent actions include:
| • | | On February 10, 2009, the SEC issued its final rule requiring public companies to file their financial statements in interactive data format using the eXtensibleBusinessReportingLanguage (“XBRL”). The use of XBRL is intended to make financial information easier for investors to analyze and to assist in automating regulatory filings and business information processing. All filers not already subject to the XBRL reporting requirements will be required to comply with the XBRL reporting requirements for periods ending on or after June 15, 2011. |
| • | | On July 21, 2010, the U.S. President signed into law the Dodd-Frank Wall Street Reform and Consumer Protection Act of 2010 (the “Dodd-Frank Act”), a comprehensive regulatory framework that will likely result in dramatic changes across the financial regulatory system, some of which became effective immediately and some of which will not become effective until various future dates. Implementation of the Dodd-Frank Act will require many new rules to be made by various federal regulatory agencies over the next several years. Uncertainty remains as to the ultimate impact of the Dodd-Frank Act until final rulemaking is complete, which could have a material adverse impact either on the financial services industry as a whole or on our business, financial condition, results of operations, and cash flows. Provisions in the legislation that affect consumer financial protection regulations, deposit insurance assessments, payment of interest on demand deposits, and interchange fees could increase the costs associated with deposits and place limitations on certain revenues those deposits may generate. The Dodd-Frank Act includes provisions that, among other things, will: |
| ¡ | | Centralize responsibility for consumer financial protection by creating a new agency, the Bureau of Consumer Financial Protection, responsible for implementing, examining, and enforcing compliance with federal consumer financial laws; |
| ¡ | | Create the Financial Stability Oversight Council that will recommend to the Federal Reserve increasingly strict rules for capital, leverage, liquidity, risk management and other requirements as companies grow in size and complexity; |
| ¡ | | Provide mortgage reform provisions regarding a customer’s ability to repay, restricting variable-rate lending by requiring that the ability to repay variable-rate loans be determined by using the maximum rate that will apply during the first five years of a variable-rate loan term, and making more loans subject to provisions for higher cost loans, new disclosures, and certain other revisions; |
| ¡ | | Change the assessment base for federal deposit insurance from the amount of insured deposits to consolidated assets less tangible capital, eliminate the ceiling on the size of the Deposit Insurance Fund (“DIF”), and increase the floor on the size of the DIF, which generally will require an increase in the level of assessments for institutions with assets in excess of $10 billion; |
| ¡ | | Make permanent the $250,000 limit for federal deposit insurance and provide unlimited federal deposit insurance until December 31, 2012 for noninterest-bearing demand transaction accounts at all insured depository institutions; |
| ¡ | | Implement corporate governance revisions, including with regard to executive compensation and proxy access by shareholders, which apply to all public companies, not just financial institutions; |
| ¡ | | Repeal the federal prohibitions on the payment of interest on demand deposits, thereby permitting depository institutions to pay interest on business transactions and other accounts; |
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| ¡ | | Amend the Electronic Fund Transfer Act (“EFTA”) to, among other things, give the Federal Reserve the authority to establish rules regarding interchange fees charged for electronic debit transactions by payment card issuers having assets over $10 billion and to enforce a new statutory requirement that such fees be reasonable and proportional to the actual cost of a transaction to the issuer; |
| ¡ | | Eliminate the Office of Thrift Supervision (“OTS”) July 21, 2011. The Office of the Comptroller of the Currency (“OCC”), which is the primary federal regulator for national banks, now has become the primary federal regulator for federal thrifts. In addition, the Federal Reserve now supervises and regulates all savings and loan holding companies that were formerly regulated by the OTS. |
| • | | The Dodd–Frank Wall Street Reform and Consumer Protection Act (the “Dodd–Frank Act”) initiated a substantial platform for changes in rules and regulations for banks. The Act was passed over one year ago and new requirements continue to be issued. These new requirements are anticipated to continue over the next twelve months and the impact to our operations remain unclear. Summarized below are some highlights of recent developments related to the Dodd–Frank Act. |
| ¡ | | In November 2010, the FDIC approved two proposals that amend the deposit insurance assessment regulations. The first proposal implements a provision in the Dodd-Frank Act that changes the assessment base from one based on domestic deposits (as it has been since 1935) to one based on assets. The assessment base changes from adjusted domestic deposits to average consolidated total assets minus average tangible equity. The second proposal changes the deposit insurance assessment system for large institutions in conjunction with the guidance given in the Dodd-Frank Act. In February 2011, the FDIC approved the final rules that change the assessment base from domestic deposits to average assets minus average tangible equity, adopt a new scorecard-based assessment system for financial institutions with more than $10 billion in assets, and finalize the designated reserve ratio to 2.0%. The reserve ratio target is higher than the 1.35% set by the Dodd-Frank Act in July 2010 and is an integral part of the FDIC’s comprehensive, long-range management plan for the DIF. |
| ¡ | | We did not participate in the unlimited deposit insurance component of the Treasury’s Transaction Account Guarantee Program (“TAGP”). Although the TAGP expired on December 31, 2010, a provision of the Dodd-Frank Act requires the FDIC to provide unlimited deposit insurance for all deposits in non-interest bearing transaction accounts. This deposit insurance mandate created by the Dodd-Frank Act took effect on December 31, 2010, and will continue through December 31, 2012. The deposit insurance mandate created by the Dodd-Frank Act is not an extension of the TAGP. Although the TAGP and the Dodd-Frank Act establish unlimited deposit insurance for certain types of non-interest bearing deposit accounts, unlike the TAGP, the coverage provided by the Dodd-Frank Act does not apply to NOW accounts and will be funded through general FDIC assessments, not special assessments. |
| ¡ | | On December 29, 2010, the Dodd-Frank Act was amended to include full FDIC insurance on Interest on Lawyers Trust Accounts (“IOLTAs”). IOLTAs will receive unlimited insurance coverage as noninterest-bearing transaction accounts for two years ending December 31, 2012. |
| ¡ | | On April 4, 2011, the FRB issued a Final Rule amending the Truth in Lending Act by increasing the threshold for exempt consumer credit transactions from $25,000 to $50,000, effective July 21, 2011. |
| ¡ | | On April 19, 2011, the FRB issued a Notice of Proposed Rulemaking that would amend Regulation Z,Truth in Lending, to expand the scope of the ability-to-repay requirement to cover any consumer credit transaction secured by a dwelling (excluding an open-end credit plan, timeshare plan, reverse mortgage, or temporary loan). In addition, the proposal would establish standards for complying with the ability-to-repay requirement, including by making a “qualified mortgage.” The proposal also implements limits on prepayment penalties. Finally, the proposal would require creditors to retain evidence of compliance with this rule for three years after a loan is consummated. |
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| ¡ | | In June 2011, the Federal Reserve approved a final debit card interchange rule in accordance with the Dodd-Frank Act. The final rule caps an issuer’s base fee at $0.21 per transaction and allows an additional 5 basis point charge per transaction to help cover fraud losses. Though the rule technically does not apply to institutions with less than $10 billion in assets, such as the bank, there is concern that the price controls may harm community banks, which could be pressured by the marketplace to lower their own interchange rates. The Federal Reserve also adopted requirements for issuers to include two unaffiliated networks for debt card transactions – one signature-based and one PIN-based. The effective date for the final rules on the pricing and routing restrictions is October 1, 2011. The results of these final rules may impact our interchange income from debit card transactions in the future. |
| ¡ | | Under a provision of the Dodd–Frank Wall Street Reform and Consumer Protection Act (the “Dodd–Frank Act”), insured depository institutions (“IDIs”) may pay interest on demand deposit accounts starting July 21, 2011. Under another section of the Dodd-Frank Act, the FDIC provides unlimited deposit insurance for noninterest-bearing transaction accounts through December 31, 2012. The Letter reminds IDIs that if on or after July 21, 2011, an IDI modifies the terms of a demand deposit account so that the account may pay interest, the IDI must notify affected customers that the account no longer will be eligible for unlimited deposit insurance coverage as a noninterest-bearing transaction account. |
| • | | Internationally, both the Basel Committee on Banking Supervision (the “Basel Committee”) and the Financial Stability Board (established in April 2009 by the Group of Twenty (“G-20”) Finance Ministers and Central Bank Governors to take action to strengthen regulation and supervision of the financial system with greater international consistency, cooperation, and transparency) have committed to raise capital standards and liquidity buffers within the banking system (“Basel III”). On September 12, 2010, the Group of Governors and Heads of Supervision agreed to the calibration and phase-in of the Basel III minimum capital requirements (raising the minimum Tier 1 common equity ratio to 4.5% and minimum Tier 1 equity ratio to 6.0%, with full implementation by January 2015) and introducing a capital conservation buffer of common equity of an additional 2.5% with full implementation by January 2019. The U.S. federal banking agencies support this agreement. In December 2010, the Basel Committee issued the Basel III rules text, outlining the details and time-lines of global regulatory standards on bank capital adequacy and liquidity. According to the Basel Committee, the framework sets out higher and better-quality capital, better risk coverage, the introduction of a leverage ratio as a backstop to the risk-based requirement, measures to promote the build-up of capital that can be drawn down in periods of stress, and the introduction of two global liquidity standards. |
| • | | In November 2010, the Federal Reserve’s monetary policymaking committee, the Federal Open Market Committee (“FOMC”), decided that further support to the economy was needed. With short-term interest rates already nearing 0%, the FOMC agreed to deliver that support by committing to purchase additional longer-term securities, as it did in 2008 and 2009. The FOMC bought an additional $600 billion of longer-term U.S. Treasury securities through mid-2011 and may continue to reinvest repayments of principal on its holdings of securities, as it has been doing since August 2010. |
| • | | The federal banking agencies (the “Agencies”) issued Interagency Appraisal and Evaluation Guidelines (the “Guidelines”) to provide further clarification of the Agencies’ appraisal regulations and supervisory guidance to institutions and examiners about prudent appraisal and evaluation programs. The Guidelines, including their appendices, update and replace existing supervisory guidance documents to reflect developments concerning appraisals and evaluations, as well as changes in appraisal standards and advancements in regulated institutions’ collateral valuation methods. In implementing the Dodd–Frank Act, the Agencies will determine whether future revisions to the Guidelines may be necessary. However, the Agencies are issuing the Guidelines to promote consistency in the application and enforcement of the Agencies’ current appraisal requirements and related supervisory guidance. The Agencies considered the Dodd–Frank Act and other federal statutory and regulatory changes affecting appraisals. The Guidelines are also responsive to the majority of public comments, which confirmed that additional clarification of existing regulatory and supervisory standards would strengthen the real estate collateral valuation and risk management practices across insured depository institutions. |
| • | | The Federal Housing Administration (“FHA”) has approved a waiver of the current audit requirements for FHA direct lenders under $500 million in assets. The audit requirement went into effect in January 2011 and began affecting lenders on March 31, 2011, following a 90-day grace period. The FHA will issue a mortgagee letter with the waiver’s details. It is |
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| likely that banks with less than $500 million in assets will be able to submit Call Report data in lieu of an audit. The FHA is expected to require banks to comply with Department of Housing and Urban Development procedures, regardless of the audit waiver. |
| • | | On May 25, 2011, the SEC issued Release No. 34-64545, Implementation of the Whistleblower Provisions of Section 21F of the Securities Exchange Act of 1934. The Dodd–Frank Act established a whistleblower program that requires the SEC to pay an award, under regulations prescribed by the SEC and subject to certain limitations, to eligible whistleblowers who voluntarily provide the SEC with original information about a violation of the federal securities laws that leads to the successful enforcement of a covered judicial or administrative action, or a related action. The Dodd-Frank Act also prohibits retaliation by employers against individuals who provide the Commission with information about possible securities violations. The proposed rule specifically requires the SEC to pay awards, subject to certain limitations and conditions, to whistleblowers who voluntarily provide the SEC with original information about a violation of the securities laws that leads to the successful enforcement of an action brought by the SEC that results in monetary sanctions exceeding $1,000,000. |
With respect to any other potential future government assistance programs, we will evaluate the merits of the programs, including the terms of the financing, our capital position, the cost to the Company of alternative capital, and our strategy for the use of additional capital, to determine whether it is prudent to participate. Regardless of our lack of participation, governmental intervention and new regulations under these programs could materially and adversely affect our business, financial condition and results of operations.
Results of Operations
Our primary source of revenue is net interest income. Net interest income is the difference between income earned on interest-bearing assets and interest paid on deposits and borrowings used to support such assets. The level of net interest income is determined by the balances of interest-earning assets and interest-bearing liabilities and corresponding interest rates earned and paid on those assets and liabilities, respectively. In addition to the volume of and corresponding interest rates associated with these interest-earning assets and interest-bearing liabilities, net interest income is affected by the timing of the repricing of these interest-earning assets and interest-bearing liabilities.
Three months ended June 30, 2011 and 2010
We incurred a net loss of $374,104, or .17 cents per share, for the three months ended June 30, 2011 compared to a net loss of $490,205, or .22 cents per share, for the three months ended June 30, 2010. Interest income was $760,623 and $531,542 for the three months ended June 30, 2011 and 2010, respectively. The increase in interest income is attributed to the larger loan portfolio maintained by the bank in 2011. Interest income for the three months ended June 30, 2011 was comprised of $506,235 earned on loans, $235,020 earned on investment securities, and $19,638 earned on fed funds sold and interest bearing bank deposits. Interest expense was $213,996 for the three months ended June 30, 2011, compared to $209,592 for the three months ended June 30, 2010. The small increase in interest expense is attributed to a larger deposit portfolio offset by a reduction in deposit rates. Our net interest spread and net interest margin were 2.48% and 2.79% respectively, for the three months ended June 30, 2011, compared to 1.58% and 2.07% respectively, for the three months ended June 30, 2010. The Company is achieving higher yields on earning assets due to loan growth, as lower yielding liquidity is redeployed into higher yielding loans. The Company is also achieving lower costs associated with deposit liabilities.
The loan loss provision, which is dependent on loan growth and non-performing loans, was $176,992 for the three months ended June 30, 2011, compared to $94,000 for the three months ended June 30, 2010. The increase in loan loss provision is attributed to higher loan growth experienced in 2011. Non-interest income was $147,176 for the three months ended June 30, 2011, of which $129,496 came from gains on the sale of investment securities. For the three months ended June 30, 2010, non-interest income was $125,681, of which $114,483 came from gains on the sale of investment securities. Non-interest expense was $890,915 and $843,836 for the three months ended June 30, 2011 and 2010, respectively. The increase in non-interest expense is primarily in salaries and benefits and data processing due to the growth of the Company, offset by decreases in professional services and occupancy and equipment expense.
Six months ended June 30, 2011 and 2010
We incurred a net loss of $1,165,473, or .53 cents per share, for the six months ended June 30, 2011 compared to a net loss of $1,200,477, or .55 cents per share, for the six months ended June 30, 2010. Interest income was $1,407,563 and $1,013,627 for the six months ended June 30, 2011 and 2010, respectively. The increase in interest income is attributed to the larger loan portfolio maintained by the bank in 2011. Interest income for the six months ended June 30, 2011 was comprised of $891,546 earned on loans, $456,929 earned on investment securities, and $59,058 earned on fed funds sold and interest bearing bank deposits. Interest expense was $426,747 for the
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six months ended June 30, 2011, compared to $430,230 for the six months ended June 30, 2010. The decrease in interest expense is attributed to a reduction in deposit rates. Our net interest spread and net interest margin were 2.28% and 2.61%, respectively, for the six months ended June 30, 2011, compared to 1.37% and 1.88% respectively, for the six months ended June 30, 2010. The Company is achieving higher yields on earning assets due to loan growth, as lower yielding liquidity is redeployed into higher yielding loans. The Company is also achieving lower costs associated with deposit liabilities.
The loan loss provision, which is dependent on loan growth and non-performing loans, was $495,423 for the six months ended June 30, 2011, compared to $322,457 for the six months ended June 30, 2010. The increase in loan loss provision is attributed to higher loan growth experienced in 2011. Non-interest income was $164,284 for the six months ended June 30, 2011, compared to $132,121 for the six months ended June 30, 2010. Non-interest expense was $1,815,150 and $1,589,182 for the six months ended June 30, 2011 and 2010, respectively. The increase in non-interest expense is in multiple categories, including salaries and benefits, data processing, marketing and business development, and FDIC insurance and regulatory assessments, and is due to the growth of the Company. The largest increases occurred in salaries and benefits and in marketing and business development and were the result of the addition of two lending positions and an underwriting position to support the strategic growth initiatives.
Assets and Liabilities
General
Total assets as of June 30, 2011 were $84.1 million, representing an increase of $12.2 million, or 17%, compared to $71.9 million as of December 31, 2010. The increase in assets is due primarily to net loan growth of $17.6 million, which was funded primarily by deposit growth of $13.0 million. At June 30, 2011, total assets consisted principally of $13.9 million in cash and cash equivalents, including interest bearing deposits with other financial institutions, $28.6 million in available-for-sale investment securities and $40.4 million in net loans. Net loans at December 31, 2010 were $22.8 million. The primary source of funding is deposits that are acquired locally. Liabilities at June 30, 2011 totaled $70.2 million, represented almost entirely by retail customer deposits totaling $69.7 million. Liabilities as of December 31, 2010 totaled $57.1 million, including $56.7 million in deposits. At June 30, 2011, shareholders’ equity was $14.0 million, compared to $14.8 million as of December 31, 2010. The reason for the decrease in shareholders’ equity is net losses. Book value per share was $6.37 at June 30, 2011 compared to $6.76 as of December 31, 2010.
Loans
Loans typically provide higher interest yields than other types of interest-earning assets. Net loans have increased $17.6 million, or 77%, during the six months ended June 30, 2011, primarily in the category of Real Estate – Other. The following table summarizes the composition of our loan portfolio as of June 30, 2011 and December 31, 2010.
| | | | | | | | | | | | | | | | |
| | June 30, 2011 | | | Percentage of Total | | | December 31 2010 | | | Percentage of Total | |
Construction and land development | | $ | 7,479,687 | | | | 18.06 | % | | $ | 5,528,181 | | | | 23.72 | % |
Real estate - residential mortgage | | | 8,585,179 | | | | 20.73 | | | | 5,631,112 | | | | 24.17 | |
Real estate - other | | | 20,805,973 | | | | 50.23 | | | | 10,721,143 | | | | 46.01 | |
Commercial and industrial | | | 4,207,559 | | | | 10.16 | | | | 1,090,301 | | | | 4.68 | |
Consumer and other | | | 339,540 | | | | 0.82 | | | | 329,949 | | | | 1.42 | |
| | | | | | | | | | | | | | | | |
Gross loans | | | 41,417,938 | | | | 100.00 | % | | | 23,300,686 | | | | 100.00 | % |
Allowance for loan losses | | | (928,173 | ) | | | — | | | | (432,750 | ) | | | — | |
Deferred loan fees, net | | | (136,801 | ) | | | — | | | | (73,850 | ) | | | — | |
| | | | | | | | | | | | | | | | |
Total loans, net | | $ | 40,352,964 | | | | — | | | $ | 22,794,086 | | | | — | |
| | | | | | | | | | | | | | | | |
Classified Loans
Classified loans are performing loans with elevated levels of credit risk. These loans are assigned credit risk grades of substandard or worse. The Bank’s classified loans increased during the first six months of 2011 from $651,686 as of December 31, 2010 to $2,163,979 as of June 30, 2011, primarily due to the downgrade of one loan relationship.
Nonperforming Loans
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At June 30, 2011, nonaccrual loans totaled $243,528, related to three lending relationships, compared to $137,277 nonaccrual loans as of December 31, 2010. There were no accruing loans which were contractually past due 90 days or more as to principal or interest payments at June 30, 2011 and December 31, 2010. Generally, a loan will be placed on nonaccrual status when it becomes 90 days past due as to principal or interest, or when management believes, after considering economic and business conditions and collection efforts, that the borrower’s financial condition is such that collection of the loan is doubtful. The nonaccrual loan relationship is considered impaired.
As of June 30, 2011, we were not aware of any other loans that were not already considered for impairment or categorized as impaired or on nonaccrual.
Provision and Allowance for Loan Losses
The allowance for loan losses represents an amount which we believe will be adequate to absorb probable losses on existing loans that may become uncollectible. Additions to the allowance are often the result of growth in the loan portfolio. Additionally, our judgment as to the adequacy of the allowance for loan losses is based on an ongoing review of the quality, mix, and size of our overall loan portfolio. We make a number of assumptions regarding current portfolio and economic conditions. We consider our historical loan loss experience, the loan loss experience of our peers, and any specific problem loans and commitments that may affect the borrower’s ability to pay. We believe the assumptions we have made to be reasonable, but which may or may not prove to be accurate.
Periodically, we will adjust the amount of the allowance based on changing circumstances. We will charge recognized losses to the allowance and add subsequent recoveries back to the allowance for loan losses. There can be no assurance that charge-offs of loans in future periods will not exceed the allowance for loan losses as estimated at any point in time or that provisions for loan losses will not be significant to a particular accounting period.
We have established an allowance for loan losses through a provision for loan losses charged to expense on our consolidated statement of operations. The allowance for loan losses was $928,173 as of June 30, 2011, or 2.24% of gross loans outstanding, compared to $432,750 as of December 31, 2010, or 1.86% of gross loans outstanding. Total provision expense for the six months ended June 30, 2011 was $495,423, compared to $322,457 for the six months ended June 30, 2010. The increase in provision during 2011 was primarily due to growth in the loan portfolio and additional provision needed for classified and nonperforming loan relationships.
There were no charge offs or recoveries during the first six months of 2011.
Management considers the allowance for loan losses as of June 30, 2011 to be adequate and sufficient.
Deposits
Our primary source of funds for loans and investments is the funds obtained through our customer deposits. At June 30, 2011, we had $69.7 million in deposits, representing an increase of $13 million compared from December 31, 2010. The deposits as of June 30, 2011 consisted primarily of $7.3 million in demand deposit accounts, $25.3 million in certificates of deposit, and $37 million of savings and money market accounts. The primary source of funding for our loan portfolio is deposits that are acquired locally. As of June 30, 2011, we have no brokered or wholesale deposits and no borrowings.
Liquidity
Liquidity represents the ability of a company to convert assets into cash or cash equivalents without significant loss, and the ability to raise additional funds by increasing liabilities. For an operating bank, 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. Liquidity management involves monitoring our sources and uses of funds in order to meet our day-to-day cash flow requirements while maximizing profits. Liquidity management is made more complicated because different balance sheet components are subject to varying degrees of management control. For example, the timing of maturities of our investment portfolio is fairly predictable and subject to a high degree of control at the time investment decisions are made. However, net deposit inflows and outflows are far less predictable and are not subject to the same degree of control.
Our primary sources of liquidity are deposits, scheduled repayments on our loans, and interest/principal payments received on and maturities of our investments. We plan to meet our future cash needs through the generation of deposits. Occasionally, we might sell investment securities in connection with the management of our interest sensitivity gap or to manage cash availability. We may also
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utilize our cash and due from banks and federal funds sold to meet liquidity requirements as needed. In addition, we have the ability, on a short-term basis, to purchase federal funds from other financial institutions or borrow advances from the Federal Home Loan Bank Atlanta. As of June 30, 2011, our primary sources of liquidity included interest-bearing deposits and federal funds sold with financial institutions totaling $13.9 million. The fair value of our available for sale investment portfolio was $28.6 million as of June 30, 2011. Our lines of credit available with correspondent banks total $8.0 million with no outstanding principal or interest on these lines at June 30, 2011 and are unsecured. These lines may be withdrawn at the discretion of the correspondent financial institutions. Our credit availability at the Federal Home Loan Bank is $7.1 million and requires collateralization by eligible investment securities or loans. We believe our liquidity levels are adequate to meet our operating needs.
Off-Balance Sheet Risk
Through the operations of our bank, we have made contractual commitments to extend credit in the ordinary course of our business activities. These commitments are legally binding agreements to lend money to our customers at predetermined interest rates for a specified period of time. At June 30, 2011, we had issued commitments to extend credit of $7.7 million through various types of lending arrangements, compared to $4.3 million as of December 31, 2010. We evaluate each customer’s credit worthiness on a case-by-case basis. The amount of collateral obtained, if deemed necessary by us upon extension of credit, is based on our credit evaluation of the borrower. Collateral varies but may include accounts receivable, inventory, property, plant and equipment, and commercial and residential real estate. We manage the credit risk on these commitments by subjecting them to normal underwriting and risk management processes.
Capital Resources
Total shareholders’ equity decreased from $14.8 million at December 31, 2010 to $14 million at June 30, 2011. The decrease is primarily a result of net loss of $1.2 for the six months ended June 30, 2011 offset by after tax deferred gains in the investment portfolio that increased $311,633 during the six month period.
Our bank and the Company are subject to various regulatory capital requirements administered by the federal banking agencies. However, the Federal Reserve guidelines contain an exemption from the capital requirements for “small bank holding companies” which in 2006 were amended to cover most bank holding companies with less than $500 million in total assets that do not have a material amount of debt or equity securities outstanding registered with the SEC. Since our assets are less than $500 million and our stock is not registered under Section 12 of the Securities Exchange Act of 1934, we believe our Company qualifies as a small bank holding company and is exempt from the capital requirements. Nevertheless, our bank remains subject to these capital requirements. Failure to meet minimum capital requirements can initiate certain mandatory and possibly additional discretionary actions by regulators that, if undertaken, could have a direct material effect on the bank’s financial statements. Under capital adequacy guidelines and the regulatory framework for prompt corrective action, the bank must meet specific capital guidelines that involve quantitative measures of the bank’s assets, liabilities, and certain off-balance-sheet items as calculated under regulatory accounting practices. The bank’s capital amounts and classifications are also subject to qualitative judgments by the regulators about components, risk weightings, and other factors. Regardless, our bank is “well capitalized” under these minimum capital requirements as set per bank regulatory agencies.
Under the capital adequacy guidelines, regulatory capital is classified into two tiers. These guidelines require an institution to maintain a certain level of Tier 1 and Tier 2 capital to risk-weighted assets. Tier 1 capital consists of common shareholders’ equity, excluding the unrealized gain or loss on securities available for sale, minus certain intangible assets. In determining the amount of risk-weighted assets, all assets, including certain off-balance sheet assets, are multiplied by a risk-weight factor of 0% to 100% based on the risks believed to be inherent in the type of asset. Tier 2 capital consists of Tier 1 capital plus the general reserve for loan losses, subject to certain limitations. A third capital ratio that is closely monitored, known as the Tier 1 Leverage Ratio, measures Tier 1 capital as a percentage of average assets during the quarter.
At the bank level, we are subject to various regulatory capital requirements administered by the federal banking agencies. To be considered “adequately capitalized” under these capital guidelines, we must maintain a minimum total risk-based capital of 8%, with at least 4% being Tier 1 capital. In addition, we must maintain a minimum Tier 1 leverage ratio of at least 4%. To be considered “well-capitalized,” we must maintain total risk-based capital of at least 10%, Tier 1 capital of at least 6%, and a leverage ratio of at least 5%.
In approving the bank’s application for deposit insurance, the FDIC required that the bank maintain a leverage ratio of at least 8% during the bank’s “de novo” period. In addition, the business plan submitted as part of our application with the OCC to obtain a national bank charter calls for the Bank to maintain a Tier 1 risked-based capital ratio of at least 8% and a total risk-based capital ratio
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of 12% during the Bank’s “de novo” period.”
The bank exceeded its minimum regulatory capital ratios as of June 30, 2011 and December 31, 2010, as well as the ratios to be considered “well capitalized.”
The following table sets forth the bank’s various capital ratios at June 30, 2011 and December 31, 2010:
| | | | | | |
(Unaudited) | | Tier 1 Leverage | | Tier 1 Risk-Based | | Total Risk-Based |
Minimum Required | | 4.00% | | 4.00% | | 8.00% |
Minimum Required to be well capitalized | | 5.00% | | 6.00% | | 10.00% |
| | | |
Actual Ratios at June 30, 2011 | | | | | | |
Coastal Carolina National Bank | | 16.78% | | 29.43% | | 30.69% |
Consolidated | | 17.65% | | 31.31% | | 32.57% |
| | | |
Actual Ratios at December 31, 2010 | | | | | | |
Coastal Carolina National Bank | | 20.34% | | 51.23% | | 52.49% |
Consolidated | | 21.33% | | 54.38% | | 55.64% |
We believe our capital is sufficient to fund the activities of the bank for a modest period of time as the Company grows. As of June 30, 2011, there were no significant firm commitments outstanding for capital expenditures.
Item 3. Quantitative and Qualitative Disclosure About Market Risk
Not applicable.
Item 4. Controls and Procedures
As of the end of the period covered by this report, we carried out an evaluation, under the supervision and with the participation of our management, including our Principal Executive Officer and Principal Financial Officer, of the effectiveness of our disclosure controls and procedures as defined in Exchange Act Rule 13a-15(e). Based upon that evaluation, our Principal Executive Officer and Principal Financial Officer have concluded that our current disclosure controls and procedures are effective as of June 30, 2011. There have been no significant changes in our internal controls over financial reporting during the six months ended June 30, 2011 that have materially affected, or are reasonably likely to materially affect, our internal controls over financial reporting.
The design of any system of controls and procedures is based in part upon certain assumptions about the likelihood of future events. There can be no assurance that any design will succeed in achieving its stated goals under all potential future conditions, regardless of how remote.
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Part II – Other Information
Item 1. Legal Proceedings
There are no material pending legal proceedings to which we are a party or of which any of our property is the subject.
Item 1A. Risk Factors
Not applicable.
Item 2. Unregistered Sales of Equity Securities and Use of Proceeds
No applicable.
Item 3. Default Upon Senior Securities
Not applicable.
Item 4.[Removed and Reserved.]
Item 5. Other Information
Not applicable.
Item 6. Exhibits
| | |
31.1 | | Rule 15d-14(a) Certification of the Principal Executive Officer. |
| |
31.2 | | Rule 15d-14(a) Certification of the Principal Financial Officer. |
| |
32 | | Section 1350 Certifications. |
| |
101 | | Interactive Data File. |
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SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized.
| | | | | | |
| | | | Coastal Carolina Bancshares, Inc. |
| | | |
| | Date: August 15, 2011 | | By: | | /s/ Michael D. Owens |
| | | | Michael D. Owens |
| | | | President and Chief Executive Officer |
| | | | (Principal Executive Officer) |
| | | |
| | | | By: | | /s/ Dawn Kinard |
| | | | Dawn Kinard |
| | | | Senior Vice President and Chief Financial Officer |
| | | | (Principal Financial and Accounting Officer) |
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EXHIBIT INDEX
| | |
Exhibit Number | | Description |
| |
31.1 | | Rule 15d-14(a) Certification of the Principal Executive Officer. |
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31.2 | | Rule 15d-14(a) Certification of the Principal Financial Officer. |
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32 | | Section 1350 Certifications. |
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101 | | Interactive Data File. |
33