Capital Directions (CTDN) 10-Q 2001 Q2 Quarterly report

SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549

Form 10-Q

Quarterly Report Pursuant to Section 13 or 15(d)
Of The Securities Exchange Act of 1934

For the quarter ended June 30, 2001 Commission file number 33-20417

Capital Directions, Inc.

(Exact name of registrant as specified in its charter)

Michigan	38-2781737
(State or other jurisdiction of incorporation or organization)	(I.R.S. Employer Identification Number)

322 South Jefferson St., Mason, Michigan	48854-0130
(Address of principal executive offices)	(Zip Code)

Registrant’s telephone number, including area code: (517) 676-0500

None

Former name, former address and former fiscal
year, if changed since last report

Indicate by checkmark 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 period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes     No 

As of July 26, 2001 the registrant had outstanding 598,056 shares of common stock having a par value of $5 per share.

TABLE OF CONTENTS

PART I — FINANCIAL INFORMATION
	ITEM 1. CONSOLIDATED BALANCE SHEETS JUNE 30, 2001 AND DECEMBER 31, 2000
		CONSOLIDATED STATEMENTS OF INCOME FOR THE THREE AND SIX MONTHS ENDED JUNE 30, 2001 AND 2000
		CONSOLIDATED STATEMENTS OF CASH FLOWS FOR THE SIX MONTHS ENDED JUNE 30, 2001 AND 2000
		CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME FOR THE THREE AND SIX MONTHS ENDED JUNE 30, 2001 AND 2000
		NOTES TO INTERIM CONSOLIDATED FINANCIAL STATEMENTS
	ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
	ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
PART II — OTHER INFORMATION
	ITEM 1. LEGAL PROCEEDINGS
	ITEM 2. CHANGES IN SECURITIES AND USE OF PROCEEDS
	ITEM 3. DEFAULTS UPON SENIOR SECURITIES
	ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
	ITEM 5. OTHER INFORMATION
	ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K
		SIGNATURES
		INDEX TO EXHIBITS

CAPITAL DIRECTIONS, INC.
INDEX TO FORM 10-Q

		Page
PART I —FINANCIAL INFORMATION		Number
Item 1.	Consolidated Balance Sheets
	June 30, 2001 and December 31, 2000		1
	Consolidated Statements of Income for the Three and Six Months
	Ended June 30, 2001 and 2000		2
	Consolidated Statements of Cash Flows for the Six Months
	Ended June 30, 2001 and 2000		3
	Consolidated Statements of Comprehensive Income
	for the Three and Six Months Ended June 30, 2001 and 2000		4
	Notes to Interim Consolidated Financial Statements		5-8
Item 2.	Management’s Discussion and Analysis of Financial
	Condition and Results of Operations		8-14
Item 3.	Quantitative and Qualitative Disclosures About Market Risk		14
PART II — OTHER INFORMATION
Item 1.	Legal Proceedings		14
Item 2.	Changes in Securities and Use of Proceeds		14
Item 3.	Defaults Upon Senior Securities		14
Item 4.	Submission of Matters to a Vote of Security Holders		15
Item 5.	Other Information		15
Item 6.	Exhibits and Reports on Form 8-K		15
	Signatures		16
	Index to Exhibits		17

PART I — FINANCIAL INFORMATION

CAPITAL DIRECTIONS, INC.
CONSOLIDATED BALANCE SHEETS

(In thousands, except share and per share data)

				June 30,			December 31,
				2001			2000
				(Unaudited)
ASSETS
	Cash and non interest bearing deposits			$	3,520		$	2,603
	Interest bearing deposits				40			58
	Federal funds sold				1,895			5,905
			Total cash and cash equivalents		5,455			8,566
	Securities available for sale				14,383			15,670
	Federal Home Loan Bank (FHLB) stock				1,967			1,967
	Total investment securities				16,350			17,637
	Loans held for sale				680			—
	Loans:
		Commercial and agricultural			4,830			6,038
		Installment			3,678			3,688
		Real estate mortgages			76,314			75,923
			Total loans		84,822			85,649
			Allowance for loan losses		(1,043	)		(1,053	)
			Net loans		83,779			84,596
		Premises and equipment, net			1,117			947
		Accrued income and other assets			3,193			3,277
			Total assets	$	110,574		$	115,023
LIABILITIES AND SHAREHOLDERS’ EQUITY
LIABILITIES
		Deposits:
			Non interest bearing	$	10,080		$	9,885
			Interest bearing		57,327			62,538
			Total deposits		67,407			72,423
		Long-term FHLB borrowings			28,246			28,339
		Other liabilities			1,543			1,427
			Total liabilities		97,196			102,189
SHAREHOLDERS’ EQUITY
		Common stock: $5 par value, 1,300,000 shares authorized; 598,056 outstanding at June 30, 2001 and 598,056 outstanding at December 31, 2000			2,990			2,990
		Additional paid in capital			2,590			2,590
		Retained earnings			7,563			7,126
		Accumulated other comprehensive income, net of tax of $121 as of June 30, 2001 and $66 as of December 31, 2000			235			128
			Total shareholders’ equity		13,378			12,834
			Total liabilities and shareholders’ equity	$	110,574		$	115,023

See accompanying notes to consolidated financial statements.

1

CAPITAL DIRECTIONS, INC.
CONSOLIDATED STATEMENTS OF INCOME (Unaudited)

(In thousands, except share and per share data)

				Three Months Ended				Six Months Ended
				June 30,				June 30,
				2001		2000		2001		2000
Interest and Dividend Income
	Interest and fees on loans			$	1,704	$	1,761	$	3,438	$	3,527
	Federal funds sold				54		22		103		27
	Interest and dividends on investment securities:
		Taxable			223		136		455		261
		Tax exempt			37		43		76		86
		Other interest income			1		—		1		1
			Total interest income		2,019		1,962		4,073		3,902
Interest Expense
	Deposits				532		607		1,116		1,203
	Short-term borrowings				—		3		1		12
	Long-term borrowings				409		302		818		587
		Total interest expense			941		912		1,935		1,802
Net Interest Income					1,078		1,050		2,138		2,100
Provision for loan losses					—		—		—		6
Net interest income after provision for loan losses					1,078		1,050		2,138		2,094
Non Interest Income
	Service charges on deposit accounts				85		89		164		159
	Other income				148		137		253		228
		Total non interest income			233		226		417		387
Non Interest Expense
	Salaries and employee benefits				366		381		742		755
	Premises and equipment				87		72		170		150
	Other operating expense				220		231		418		420
		Total non interest expense			673		684		1,330		1,325
Income before income tax expense					638		592		1,225		1,156
Income tax expense					195		174		376		347
Net Income				$	443	$	418	$	849	$	809
Average common shares outstanding					598,056		598,056		598,056		597,584
Basic earnings per common share					0.74		0.70		1.42		1.35
Diluted earnings per common share					0.74		0.69		1.41		1.34
Dividends per share of common stock, declared					0.35		0.31		0.69		0.61

See accompanying notes to consolidated financial statements.

2

CAPITAL DIRECTIONS, INC.
CONSOLIDATED STATEMENTS OF CASH FLOWS (Unaudited)

(In thousands)					Six Months Ended
					June 30,
					2001			2000
Cash flows from operating activities
	Net income				$	849		$	809
	Adjustments to reconcile net income to net cash from
	operating activities
		Depreciation				63			57
		Provision for loan losses				—			6
		Net amortization (accretion) on securities				(5	)		1
		Loans originated for sale				(2,525	)		—
		Proceeds from sale of loans originated for sale				1,847			—
		Net gain on sales of loans originated for sale				(2	)		—
		Changes in assets and liabilities:
			Accrued interest receivable			87			(15	)
			Accrued interest payable			(45	)		(4	)
			Other assets			(58	)		(59	)
			Other liabilities			155			57
				Net cash from operating activities		366			852
Cash flows from investing activities
	Securities available for sale:
		Purchases				(1,028	)		(2,080	)
		Maturities, calls and principal payments				2,482			1,184
	Net change in loans					817			1,230
	Premises and equipment expenditures					(233	)		(36	)
			Net cash from investing activities			2,038			298
Cash flows from financing activities
	Net change in deposits					(5,016	)		(128	)
	Federal funds purchased					—			(1,700	)
	Proceeds from long-term FHLB borrowings					4,000			2,700
	Repayment of long-term FHLB borrowings					(4,093	)		(1,090	)
	Proceeds from shares issued upon exercise of stock options					—			21
	Dividends paid					(406	)		(359	)
			Net cash from financing activities			(5,515	)		(556	)
Net change in cash and cash equivalents						(3,111	)		594
Cash and cash equivalents at beginning of year						8,566			3,151
Cash and cash equivalents at June 30					$	5,455		$	3,745
Supplemental disclosure of cash flow information
	Cash paid during the period for:
		Interest			$	1,980		$	1,806
		Income taxes – federal			$	397		$	348

See accompanying notes to consolidated financial statements.

3

CAPITAL DIRECTIONS, INC.
CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME (Unaudited)
For the three and six months ended June 30, 2001 and 2000

(In thousands)

				Three Months Ended						Six Months Ended
				June 30,						June 30,
				2001			2000			2001			2000
Net income				$	443		$	418		$	849		$	809
Other comprehensive income (loss),
	net
		Unrealized holding gains (losses)
			on securities available for sale
			arising during period		9			13			162			(28	)
		Tax effects			(3	)		(4	)		(55	)		10
Other comprehensive income (loss), net					6			9			107			(18	)
Comprehensive income				$	449		$	427		$	956		$	791

See accompanying notes to consolidated financial statements.

4

CAPITAL DIRECTIONS, INC.
NOTES TO INTERIM CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)

1.	In the opinion of management of the Registrant, the accompanying Consolidated Financial Statements contain all adjustments (consisting only of normal recurring items) necessary to present fairly the consolidated financial position of the Registrant as of June 30, 2001 and December 31, 2000, and results of operations for the three and six month periods ended June 30, 2001 and 2000, and the cash flows for the six month periods ended June 30, 2001 and 2000.
2.	The results of operations for the six months ended June 30, 2001 are not necessarily indicative of the results to be expected for the full year.
3.	The accompanying unaudited Consolidated Financial Statements and the notes thereto should be read in conjunction with the Notes to Consolidated Financial Statements and the notes included therein, for the fiscal year end 2000, included in the Registrant’s 2000 Annual Report on Form 10-K.
4.	Management determines the adequacy of the allowance for loan losses based on an evaluation of the loan portfolio, recent loss experience, historical performance, current economic conditions, current analyses of asset quality and other pertinent factors. Non-performing loans are defined as all loans which are accounted for as non-accrual; loans 90 days or more past due and still accruing interest; or loans which have been renegotiated due to the borrowers’ inability to comply with the original terms. As of June 30, 2001, non-performing loans totaled $150,000 or .18% of total loans. This represents an increase of $13,000 from the $137,000 balance at December 31, 2000.

		June 30,			December 31,
Non-performing loans		2001			2000
Non-accrual		$	—		$	—
90 days or more past due			150,000			137,000
Renegotiated			—			—
	Total	$	150,000		$	137,000
Non-performing loans as a percent of:
	Total loans		.18	%		.16	%
	Allowance for loan losses		14.38	%		13.01	%

5

Note 4. Analysis of the allowance for loan losses (continued)

The following table summarizes changes in the allowance for loan losses arising from loans charged- off, recoveries on loans previously charged-off, and addition or reductions to the allowance which have been charged or credited to expense.

(Dollars in thousands)				Six			Twelve
				Months			Months
				Ended			Ended
				June 30,			December 31,
				2001			2000
		Balance at beginning of period		$	1,053		$	1,055
		Charge-offs			(32	)		(27	)
		Recoveries			22			19
			Net (charge-offs) recoveries		(10	)		(8	)
		Additions (reductions) to allowance for loan losses			—			6
		Balance at end of period		$	1,043		$	1,053
Average loans outstanding during the period				$	84,943		$	87,651
Loans outstanding at end of period				$	84,822		$	85,649
Allowance as a percent of:
	Total loans at end of period				1.23	%		1.23	%
	Non-performing loans at end of period				695.33	%		768.61	%
Net charge-offs as a percent of:
	Average loans outstanding				.01	%		.00	%
	Allowance for loan losses				.96	%		.76	%

6

Note 5.   Earnings per share

5. A reconciliation of basic and diluted earnings per share for the three-month and six-month periods; ending June 30 follows:

(Dollars in thousands, except per share amounts)
			Three months ended				Six months ended
			June 30,				June 30,
			2001		2000		2001		2000
Basic earnings per share
	Net income		$	443	$	418	$	849	$	809
Weighted average shares
	outstanding for basic
	earnings per share			598,056		598,056		598,056		597,584
	Per share amount		$	.74	$	.70	$	1.42	$	1.35
Diluted earnings per share
	Net income		$	443	$	418	$	849	$	809
Weighted average shares
	outstanding for basic
	earnings per share			598,056		598,056		598,056		597,584
	Effect of dilutive securities-
		Stock options		2,423		5,461		4,750		5,591
Weighted average shares
	outstanding for diluted
	earnings per share			600,479		603,517		602,806		597,584
Per share amount			$	.74	$	.69	$	1.41	$	1.34

Note 6.   Stock Option Plan

6. Options to buy common stock are granted to officers and other key employees under a Stock Option Plan which provides for the issuance of up to 40,000 shares of common stock. The plan provides for stock options to be granted at prices that approximate the fair value of the stock at the respective dates of grant. The vesting of stock options does not start until two years from the date of the grant. After two years, the options will vest evenly over a three year period. The plan terminates on May 20, 2003. All shares and per share amounts have been restated for stock splits.

7

Note 6. Stock Option Plan (continued)

A summary of activity in the plan is as follows:

									Weighted
							Weighted		Average Fair
	Available						Average		Value of
	For			Options			Exercise		Options
	Grant			Outstanding			Price		Granted
Balance at December 31, 2000		16,593			20,207		$	30.19
Granted		(4,000	)		4,000			40.00	$	2.75
Forfeited		950			(950	)		39.29
Balance June 30, 2001		13,543			23,257		$	31.50

For the options outstanding June 30, 2001, the range of exercise prices was $12.75 to $41.50 per share with a weighted average remaining contractual term of 7.48 years. At June 30, 2001, 10,951 were exercisable at a weighted average price of $23.43 per share. Had compensation cost for stock options been measured using SFAS No. 123, net income and earnings per share would have been the pro forma amounts indicated.

(Dollars in thousands, except per share amounts)

		Three Months			Three Months			Six Months		Six Months
		Ended			Ended			Ended		Ended
		June 30, 2001			June 30, 2000			June 30, 2001		June 30, 2000
Net income
	As reported		$	443		$	418	$	849	$	809
	Pro forma			432			413		838		801
Basic and diluted income per share
	As reported basic		$	.74		$	.70	$	1.42	$	1.35
	Pro forma basic			.74			.69		1.40		1.34
	As reported diluted			.74			.69		1.41		1.34
	Pro forma diluted			.72			.69		1.39		1.33

The pro forma effects are computed with option pricing models. For the options granted during the six months ended June 30, 2001 the following weighted average assumptions as of the grant date were used.

Risk-free interest rate	4.95	%
Expected option life	5 years
Expected stock price volatility	4.02	%
Expected dividend yield	3.44	%

Item 2.   Management’s discussion and analysis of financial condition and results of operations

The following discussion and analysis of financial condition and results of operations provides additional information to assess the Consolidated Financial Statements of the Registrant and its wholly owned subsidiaries. Capital Directions, Inc. is a one-bank holding company, which commenced operations on July 22, 1988. This was facilitated by the acquisition of 100% of the outstanding shares of Mason State Bank in an exchange of common stock. The Company and its subsidiaries provide banking and financial services in the banking industry. Substantially all revenue and services are derived from banking products and services. The Bank’s primary services include accepting retail deposits and making residential, consumer and commercial loans.

8

Item 2. Management’s discussion and analysis of financial condition and results of operations (continued)

The corporation is not aware of any market or institutional trends, events or circumstances that will have or are reasonably likely to have a material effect on liquidity, capital resources, or results of operations except as discussed herein.

Financial Condition(In thousands)

Assets totaled $110,574 at June 30, 2001. The 3.87% decrease of $4,449 from $115,023 at December 31, 2000 resulted primarily from a decrease of $4,010 in Federal funds sold and a $1,287 decrease in investment securities.

Cash and cash equivalents have decreased $3,111 or 36.32% in the six month period from December 31, 2000 to June 30, 2001. This is a result of the reduction of excess Federal funds sold and declining deposits as discussed more fully below.

Total outstanding loans have decreased $827 during the first six months of 2001. This is a decrease of .97% from December 31, 2000. This decline has been concentrated in the commercial loan portfolio, while real estate mortgages have increased slightly. Currently, $680 in 1-4 family residential loans reside in the held-for-sale category and as of June 30, 2001, had been committed for sale. During the first quarter of 2001, the Company decided to sell certain loans into the secondary market as part of the asset and liability strategy to minimize risk associated with the recent reduction in interest rates. Management will closely monitor this strategy in the near term.

The allowance for loan losses decreased $10 or .95% during the six-month period ending June 30, 2001. At June 30, 2001 the allowance as a percent of outstanding loans was 1.23% compared to 1.23% at December 31, 2000. Management continues to maintain the allowance for loan losses at a level considered appropriate to absorb losses inherent in the portfolio.

Total deposits as of June 30, 2001 compared to year-end 2000 decreased by $5,016 or 6.93%. The decline was concentrated in interest bearing demand deposits and time deposits, while savings deposits increased in the same period. This decline is primarily the result of customers seeking alternative deposit opportunities due to the declining rate environment.

Total shareholders’ equity increased $544 or 4.24% in the first six months of 2001. Net income of $849 and $107 net unrealized gain on available for sale securities increased shareholders’ equity, while dividends of $412 reduced shareholders’ equity. Book value per share was $22.37 at June 30, 2001 compared to $21.46 at December 31, 2000.

For the second quarter of 2001, net income was $443, basic earnings per share was $.74, and diluted earnings per share was $.74, compared to $418, $.70 and $.69 for the same period in 2000. During the six-month period ending June 30, 2001, net income totaled $849, basic earnings per share was $1.42, and diluted earnings per share was $1.41, compared to $809, $1.35 and $1.34 for the same period in 2000. Average earning assets increased by 6.09% to $106,440 from June 30, 2000 to June 30, 2001. The average yield on earning assets decreased to 7.81% for the six-month period ended June 30, 2001 from 7.91% for the comparable time period in 2000. Average costs for rate related liabilities increased six basis points to 4.46% at June 30, 2001 from 4.40% at June 30, 2000. Net interest margin decreased to 4.14% for the first six-months of 2001 compared to 4.30% in the same period of 2000. This is a result of the rapidly falling rate environment. The Company is experiencing a declining margin related primarily to the change in the structure of earning assets. As commercial loan demand declined during 2000 and 2001, those funds were used to increase the securities portfolio and residential mortgage portfolios, which tend to be at lower yields as compared to commercial loans. The following table illustrates the change in net interest margin for the six months ended June 30, 2001 and June 30, 2000.

9

Item 2. Management’s discussion and analysis of financial condition and results of operations (continued)

				2001							2000
		Average				Yield/			Average				Yield/
		Balance		Interest¹		Rate¹			Balance		Interest¹		Rate¹
Loans (taxable)		$	84,266	$	3,399		8.13	%	$	88,117	$	3,521		8.04	%
Loans (non-taxable)			677		29		8.64	%		177		9		10.23	%
Loans held for sale			669		20		6.03	%		—		—		—
Taxable investment securities			13,548		455		6.77	%		7,865		261		6.67	%
Non-taxable investment securities			2,891		115		8.02	%		3,211		129		8.08	%
Federal funds sold and other			4,389		104		4.78	%		962		28		5.85	%
	Total interest earning assets	$	106,440	$	4,122		7.81	%	$	100,332	$	3,948		7.91	%
Interest bearing demand deposits		$	9,047	$	28		.62	%	$	11,159	$	50		.90	%
Savings deposits			22,292		329		2.98	%		18,590		262		2.83	%
Time deposits <$100,000			17,569		489		5.61	%		20,968		555		5.32	%
Time deposits $100,000 or more			10,023		269		5.41	%		11,340		336		5.96	%
Federal funds purchased			16		1		6.30	%		402		12		6.00	%
Other borrowings			28,460		819		5.80	%		19,984		587		5.91	%
	Total interest bearing liabilities	$	87,407	$	1,935		4.46	%	$	82,443	$	1,802		4.40	%
Net Interest				$	2,187		3.35	%			$	2,146		3.51	%
Net Interest Margin							4.14	%						4.30	%

(1) Earning assets are presented on a fully taxable equivalent basis, using a 34% tax rate, and average yields/rates are annualized.

The two variables that have the most significant effect on the change in the net interest income are volume and rate. The change in interest due to both volume and rate has been allocated to volume and rate changes in proportion to the relationship of the absolute dollar amounts of the change in each. As illustrated in the following table, the Corporation had an increase in net interest income due primarily to changes due to interest rates, while volume changes between assets and liabilities were offsetting.

Change in Net Interest Income
(Dollars in thousands)			2001 compared to 2000
			Volume			Rate			Total
Earning Assets
	Loans (taxable)		$	(312	)	$	86		$	(226	)
	Loans (non-taxable)			44			(4	)		40
	Loans held for sale			40			—			40
	Taxable investment securities			385			8			393
	Non-taxable investment securities			(26	)		(2	)		(28	)
	Federal funds sold			166			(13	)		153
		Total interest income	$	297		$	75		$	372
Interest Bearing Liabilities
	Interest bearing demand deposits		$	(17	)	$	(27	)	$	(44	)
	Savings deposits			109			28			137
	Time deposits <$100,000			(188	)		58			(130	)
	Time deposits $100,000 or more			(74	)		(59	)		(133	)
	Federal funds purchased			(24	)		1			(23	)
	Other borrowings			492			(21	)		471
		Total interest expense	$	298		$	(20	)	$	278
	Net Interest Income		$	(1	)	$	95		$	94
	Earning assets are presented on a fully taxable equivalent basis.

10

Item 2. Management’s discussion and analysis of financial condition and results of operations (continued)

The provision for loan losses was $0 during the second quarter of 2001, unchanged from the same period of 2000. For the six months ended June 30, the provision was $0 in 2001 compared to $6 in 2000. This decrease is consistent with the decline in outstanding loans.

Non interest income increased $7 or 3.10% during the second quarter of 2001 when compared to the second quarter of 2000. This is primarily attributable to the recognition of mortgage servicing rights on loans sold into the secondary market, which offset declines in customer investment commissions. For the six months ended June 30, non interest income has increased $30 or 7.75% when compared to the similar period in 2000. This is a result of the same factors affecting the second quarter increase, as well as new and increased fees on products, which were not in effect for the entire time period in 2000.

Non interest expense decreased $11 or 1.61% when comparing the second quarter of 2001 to 2000. Most of this decrease is a result of reduced personnel costs for salaries and employee benefits as some vacant positions have not yet been replaced. This is partially offset by an increase in premises and equipment costs due to the renovation of the main office facility and increased postage and supply expenses. For the six months ended June 30, 2001 non interest expense slightly increased $5 or .38% compared to the same period in 2000. Salaries and benefits decreased $13 or 1.72% as some vacant positions have not yet been filled. Decreases were realized in marketing and data processing expenses due to continued efforts to control expenses.

The federal income tax provision for the second quarter of 2001 was $195, up $21 for the same period in 2000. Year-to-date the income tax provision has increased by $29 or 8.36%. This increase reflects a higher taxable income for 2001. The effective tax rate was 31% and 29% for the three months ended June 30, 2001 and 2000 and 31% and 30% for the six months ended June 30, 2001 and 2000. The effective tax rates are lower than the 34% statutory rate due to non-taxable income on loans and investments.

Liquidity and interest rate risk(In thousands)

The primary objective of asset/liability management is to assure the maintenance of adequate liquidity and maximize net interest income by maintaining appropriate maturities and balances between interest sensitive earning assets and interest bearing liabilities. Liquidity management ensures sufficient funds are maintained to meet the cash withdrawal requirements of depositors and the credit demand of borrowers.

Sources of liquidity include federal funds sold, investment security maturities and principal payments. A net average balance of $5,088 in federal funds sold was maintained during the second quarter of 2001. As a member of the Federal Home Loan Bank system, the Bank has access to an alternate funding source, lower cost for credit services, and an additional tool to manage interest rate risk. During the first six months of 2001, the Bank used this source of funding to offset security purchases to be used as collateral for public deposits. Other sources of liquidity include internally generated cash flow, repayments and maturities of loans, borrowing and normal deposit growth. The primary source of funds for the parent company is the upstream of dividends from the Bank. Management believes these sources of liquidity are sufficient for the Bank and parent company to continue current business plans.

At June 30, 2001 the securities available for sale were valued at $14,383. It is not anticipated that management will use these funds due to the optional sources that may be available.

Interest rate sensitivity management seeks to maximize net interest margin through periods of changing interest rates. The Bank develops strategies to assure desired levels of interest sensitive assets and interest bearing liabilities mature or reprice within selected time frames.

11

Item 2. Management’s discussion and analysis of financial condition and results of operations (continued)

Strategies include the use of variable rate loan products in addition to managing deposit accounts and maturities in the investment portfolio. The following table, using recommended regulatory standards, reflects the “rate sensitive position” or the difference between loans and investments, and liabilities that mature or reprice within the next year and beyond. The financial industry has generally referred to this difference as “GAP” and its handling as “GAP Management”. Throughout the second quarter of 2001, the results of the GAP analysis were within the Bank’s policy guidelines. At June 30, 2001, the percentage of rate sensitive assets to rate sensitive liabilities within the one-year time horizon was 46%.

The following table shows the Corporation’s GAP position as of June 30, 2001. The Corporation has a liability sensitive position of approximately $36,502 within the one-year time horizon which indicates higher net interest income may be earned if rates decrease during the period. Due to the limitations of GAP analysis, modeling is also used to enhance measurement and control.

12

GAP Measurement(Dollars in thousands)

			0-30			31-90			2nd			3rd			4th
			Days			Days			Quarter			Quarter			Quarter
Assets
Loans			$	4,620		$	7,497		$	3,922		$	3,177		$	3,016
Loans Held-
	For-Sale			—			680			—			—			—
Allowance for
loan losses				—			—			—			—			—
Investments				1,967			—			2,059			907			1,393
Short-term
Investments				1,935			—			—			—			—
Other non-
earning assets				—			—			—			—			—
		Total	$	8,522		$	8,177		$	5,981		$	4,084		$	4,409
Liabilities
Non interest
bearing
deposits			$	10,080		$	—		$	—		$	—		$	—
Interest
bearing
deposits				36,840			3,475			3,885			4,146			3,111
Long-term
FHLB
borrowings				—			1,000			5,122			16			—
Other
liabilities				—			—			—			—			—
Capital				—			—			—			—			—
		Total	$	46,920		$	4,475		$	9,007			4,162		$	3,111
GAP			$	(38,398	)	$	3,702		$	(3,026	)	$	(78	)	$	1,298
Cumulative
GAP			$	(38,398	)	$	(34,696	)	$	(37,722	)	$	(37,800	)	$	(36,502	)
GAP ratio				18	%		183	%		66	%		98	%		142	%

[Additional columns below]

[Continued from above table, first column(s) repeated]

			Annual			1-3			3-5			Over 5
			Total			Years			Years			Years			Total
Assets
Loans			$	22,232		$	7,207		$	7,852		$	47,531		$	84,822
Loans Held-
	For-Sale			680			—			—			—			680
Allowance for
loan losses				—			—			—			—			(1,043	)
Investments				6,326			8,708			657			659			16,350
Short-term
Investments				1,935			—			—			—			1,935
Other non-
earning assets				—			—			—			—			7,830
		Total	$	31,173		$	15,915		$	8,509		$	48,190		$	110,574
Liabilities
Non interest
bearing
deposits			$	10,080		$	—		$	—		$	—		$	10,080
Interest
bearing
deposits				51,457			5,028			792			50			57,327
Long-term
FHLB
borrowings				6,138			14,961			6,253			894			28,246
Other
liabilities				—			—			—			—			1,543
Capital				—			—			—			—			13,378
		Total	$	67,675		$	19,989		$	7,045		$	944		$	110,574
GAP			$	(36,502	)	$	(4,074	)	$	1,464		$	47,246
Cumulative
GAP			$	(36,502	)	$	(40,576	)	$	(39,112	)	$	8,134
GAP ratio				46	%		80	%		121	%		5,105	%

Capital Resources

The Corporation’s capital adequacy is reviewed regularly to ensure that sufficient capital is available to meet current and future funding needs and comply with regulatory requirements. Shareholders’ equity, excluding the net unrealized gain on securities available for sale, increased $437,000 or 3.44% to

13

Item 2. Management’s discussion and analysis of financial condition and results of operations (continued)

$13,143,000 for the first six months of 2001. This represents 11.89% of total assets. At June 30, 2000, the similar ratio of shareholders’ equity to total assets was 11.57%. Dividends declared per common share increased by 13.11% to $.69 per share in 2001 compared to $.61 in 2000.

Regulators established “risk-based” capital guidelines that became effective December 31, 1990. Under the guidelines, minimum capital levels are established for risk based and total assets based on perceived risk in asset categories and certain off-balance sheet items, such as loan commitments and standby letters of credit. On June 30, 2001, the Bank has a “risk-based” total capital to asset ratio of 19.94%. The ratio exceeds the requirements established by regulatory agencies as shown below.

(Dollars in thousands)			Minimum Required
June 30, 2001			For Capital					Under Prompt Corrective
			Adequacy Purposes					Action Regulations
	Actual
	Amount		Ratio			Amount		Ratio			Amount		Ratio
Total Capital (to risk weighted assets)	$	13,962		19.94	%	$	5,602		8.00	%	$	7,003		10.00	%
Tier 1 capital (to risk weighted assets)		13,085		18.69			2,801		4.00			4,202		6.00
Tier 1 capital (to average assets)		13,085		11.71			4,471		4.00			5,588		5.00

Bank management does not perceive that future rate changes or inflation will have a material impact on capital adequacy. It is the opinion of management that capital and shareholders’ equity is adequate and will continue to be so throughout 2001.

Item 3.   Quantitative and Qualitative Disclosures about Market Risk

Not required as Registrant meets requirements to be a small business filer.

Part II — Other Information

Item 1. Legal proceedings

The Corporation is not involved in any material pending legal proceedings to which the Registrant or its subsidiaries is a party or which any of its property is subject, except for proceedings which arise in the ordinary course of business. In the opinion of management, pending legal proceedings will not have a material effect on the consolidated financial statements of the Registrant or its subsidiaries as of and for the period ended June 30, 2001.

Item 2. Changes in securities and use of proceeds

During the six months ended June 30, 2001, there weren’t any changes in the Registrant’s securities, relevant to the requirements of this section, that would cause any shareholder’s rights to be materially modified, limited or qualified.

Item 3. Defaults upon senior securities

No defaults have occurred involving senior securities on the part of the Registrant.

14

Item 4. Submission of matters to a vote of security holders

The annual meeting of security holders of the Company was held April 26, 2001. Information concerning the matters brought to a vote of security holders is contained in the Company’s Proxy Statement and Notice of Annual Meeting of Shareholders held April 26, 2001, as previously filed. There have been no further matters submitted to a vote of the Registrant’s security holders during the six months ended June 30, 2001.

Item 5. Other information

None

Item 6. Exhibits and reports on Form 8-K

1.	Exhibits required by Item 601 of Regulation S-K See Index to Exhibits on page 13.
2.	Reports on Form 8-K No reports on Form 8-K were filed for the three months ended June 30, 2001.

15

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.

CAPITAL DIRECTIONS, INC.

Date:	August 2, 2001	By:     /s/     Timothy Gaylord
		Timothy Gaylord
		President
Date:	August 2, 2001	By:     /s/     Lois A. Toth
		Lois A. Toth
		Treasurer

16

Index to Exhibits

The following exhibits are filed or incorporated by reference as part of this report:

2	Plan of Acquisition, Reorganization, Arrangement, Liquidation or Succession – Consolidation Agreement included in Amendment No. 1 to Form S-4 Registrant Statement No. 33-20417
3	Instruments Defining the Rights of Security Holders, Including Debentures – Not applicable
11	Statement Regarding Computation of Per Share Earnings – Not applicable
15	Letter Regarding Unaudited Interim Financial Information – Not applicable
18	Letter Regarding Change in Accounting Principals – Not applicable
19	Previous Unfiled Documents – Not applicable
20	Report Furnished to Security Holders – Not applicable
23	Published Report Regarding Matters Submitted to Vote of Security Holders – Not applicable
24	Consents of Experts and Counsel – Not applicable
25	Power of Attorney – Not applicable
27	Additional Exhibits – Not applicable

17