UNITED STATES SECURITIES AND EXCHANGE COMMISSION Washington, D.C. 20549 FORM 10-Q X QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 For the quarterly period ended June 30, 1996 OR TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 Commission File Number 0-23976 FIRST NATIONAL CORPORATION (Exact name of registrant as specified in its charter) Virginia 54-1232965 (State or other jurisdiction of (I.R.S. Employer incorporation or organization) Identification Number) 100 West King Street, Strasburg, Virginia 22657 (Address of principal executive offices) (Zip Code) Registrant's telephone number, including area code (540) 465-9121 NONE (Former name, former address and former fiscal year, if changed since last report.) Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 Months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes X No Indicate the number of shares of each of the issuer's classes of common stock, as of the latest practicable date: Class: Common stock, $5.00 par value Outstanding as of July 31, 1996: 772,812 FIRST NATIONAL CORPORATION INDEX Part 1. Financial Information Item 1. Financial Statements Page No. Consolidated Statements of Income 3 Consolidated Balance Sheets 5 Consolidated Statements of Cash Flows 6 Consolidated Statements of Changes in Stockholders' Equity 7 Notes to Consolidated Financial Statements 8 Item 2. Management's Discussion and Analysis of Results of Operations and Financial Condition 11 Part II. Other Information Item 1 Legal Proceedings 13 Item 4. Submission of Matters to a vote of Security Holders 13 Item 6. Exhibits and Reports on Form 8-K 13 Signature 14 FIRST NATIONAL CORPORATION CONSOLIDATED STATEMENTS OF INCOME (In Thousands of Dollars) (Except Per Share Amounts) Three Months Ended June 30, 1996 June 30, 1995 Interest Income Interest and Fees on Loans $2,096 $1,831 Interest on Federal Funds Sold 30 13 Interest on Deposits in Banks 5 0 Interest and Dividends on Investment Securities Available for Sale Taxable 327 384 Non Taxable 97 59 Held to Maturity Taxable 60 169 ------ ------ Total Interest Income $2,615 $2,456 Interest Expense Interest on Savings Deposits and Interest Bearing Demand Deposits $340 $387 Interest on Time Deposits of $100,000 or more 146 124 Interest on All Other Time Deposits 725 630 Interest on Federal Funds Purchased 0 8 Interest on Note Payable 23 50 ------ ------ Total Interest Expense $1,234 $1,199 ------ ------ Net Interest Income $1,381 $1,257 ------ ------ Provision for Loan Losses 30 0 ------ ------ Net Interest Income After Provisions for Loan Losses $1,351 $1,257 Other Operating Income Service Charges 118 122 Gains on Securities Available for Sale 1 99 Other Operating Income 84 82 ------ ------ Total Non-interest Income $203 $303 Other Operating Expenses Salaries and Employee Benefits 549 547 Occupancy Expense 52 53 Equipment Expense 127 118 Other Operating Expenses 338 367 ------ ------ Total Operating Expenses $1,066 $1,085 Income Before Income taxes $488 $475 Income Taxes 139 109 ------ ------ Net Income $349 $366 ====== ====== Per Share Data Net Income $0.45 $0.47 ====== ====== Cash Dividends 0.15 0.13 ====== ====== <FN> The Accompanying Notes Are An Integral Part Of These Statements </FN> 3 FIRST NATIONAL CORPORATION CONSOLIDATED STATEMENTS OF INCOME (In Thousands of Dollars) (Except Per Share Amounts) Six Months Ended June 30, 1996 June 30, 1995 Interest Income Interest and Fees on Loans $4,127 $3,575 Interest on Federal Funds Sold 43 25 Interest on Deposits in Banks 13 6 Interest and Dividends on Investment Securities Available for Sale Taxable 656 767 Non Taxable 196 122 Held to Maturity Taxable 138 339 ------ ------ Total Interest Income $5,173 $4,834 Interest Expense Interest on Savings Deposits and Interest Bearing Demand Deposits $789 $695 Interest on Time Deposits of $100,000 or more 292 260 Interest on All Other Time Deposits 1,339 1,243 Interest on Federal Funds Purchased 2 13 Interest on Note Payable 51 96 ------ ------ Total Interest Expense $2,473 $2,307 ------ ------ Net Interest Income $2,700 $2,527 ------ ------ Provision for Loan Losses 60 0 ------ ------ Net Interest Income After Provisions for Loan Losses $2,640 $2,527 Other Operating Income Service Charges 232 248 Trust Income 0 3 Gains (Losses) on Securities Available for Sale 1 (31) Other Operating Income 168 228 ------ ------ Total Non-interest Income $401 $448 Other Operating Expenses Salaries and Employee Benefits 1,104 1,069 Occupancy Expense 112 101 Equipment Expense 250 212 Other 629 701 ------ ------ Total Operating Expenses $2,095 $2,083 Income Before Income taxes $946 $892 Income Taxes 270 272 ------ ------ Net Income $676 $620 ====== ====== Per Share Data Net Income $0.88 $0.80 ====== ====== Cash Dividends 0.30 0.26 ====== ====== <FN> The Accompanying Notes Are An Integral Part Of These Statements </FN> 4 FIRST NATIONAL CORPORATION CONSOLIDATED BALANCE SHEETS (In Thousands of Dollars) June 30, 1996 December 31, 1995 ASSETS Cash and due from banks $3,049 $4,314 Federal Funds Sold 1,324 0 Investment Securities Available for Sale 27,726 30,543 Held to Maturity 3,729 6,276 Loans Net of Unearned Discount 94,208 86,887 Less: Allowance for Loan Losses 952 901 ------- ------- Net Loans 93,256 85,986 ------- ------- Bank Premises and Equipment 2,901 3,089 Interest Receivable 833 840 Other Real Estate 979 804 Other Assets 917 669 -------- -------- Total Assets $134,714 $132,321 ======== ======== LIABILITIES AND STOCKHOLDERS' EQUITY Deposits Demand Deposits Non-Interest Bearing $13,652 $12,946 Interest Bearing 17,104 16,715 Savings Deposits 32,219 29,153 Certificates of Deposit of $100,000 and over 10,506 11,054 All Other Time Deposits 44,915 46,038 -------- -------- Total Deposits $118,396 $115,906 -------- -------- Federal Funds Purchased 0 382 Federal Home Loan Bank Advance 1,491 1,500 Accrued Expenses 808 625 -------- -------- Total Liabilities $120,695 $118,413 -------- -------- Stockholders' Equity Common Stock, Par Value $5 per Share; Authorized 2,000,000 Shares, 772,243 and 771,698 Shares Issued and Outstanding $3,861 $3,859 Surplus 1,099 1,090 Unrealized Gain (Loss) on Securities Available for Sale, Net (273) 71 Undivided Profits 9,332 8,888 -------- -------- Total Stockholders' Equity $14,019 $13,908 -------- -------- Total Liabilities and Stockholders' Equity $134,714 $132,321 ======== ======== <FN> The Accompanying Notes Are An Integral Part of These Statements </FN> 5 FIRST NATIONAL CORPORATION CONSOLIDATED STATEMENTS OF CASH FLOWS (In Thousands of Dollars) SIX MONTHS ENDED June 30, 1996 June 30, 1995 CASH FLOWS FROM OPERATING ACTIVITIES Net Income $676 $620 Adjustments to reconcile net income to net cash provided by operating activities: Depreciation and amortization 254 218 Provision for loan losses 60 0 Change in assets and liabilities: (Increase) decrease in interest receivables 7 (17) (Increase) decrease in other assets (251) 120 Increase in accrued expenses 183 231 ------ ------ Net Cash Provided by Operating Activities $929 $967 ------ ------ CASH FLOWS FROM INVESTING ACTIVITIES Proceeds from sale of securities-available for sale $1,001 $3,212 Proceeds from maturities and principal payments on securities-available for sale 3,727 1,099 Purchases of securities-available for sale (2,269) (2,003) Proceeds from maturities and principal payments on securities-held to maturity 2,346 612 Purchases of securities-held to maturity 0 (253) Proceeds on sale of bank premises and equipment 0 4 Purchases of bank premises and equipment (232) (734) Net (increase) in loans (7,321) (4,950) (Increase) in federal funds sold (1,324) (1,906) ------ ------ Net Cash (Used in) Investing Activities ($4,072) ($4,919) ------ ------ CASH FLOWS FROM FINANCING ACTIVITIES Net increase in demand deposits, NOW accounts, and savings accounts 4,161 7,365 Net (decrease) in certificates of deposit (1,671) (2,909) Net increase (decrease) in long-term borrowings (9) 0 Net proceeds from issuance of common stock 11 2 Cash dividends paid (232) (200) Net increase (decrease) in federal funds purchased (382) 0 ------ ------ Net Cash Provided by Financing Activities $1,878 $4,248 ------ ------ Increase (Decrease) in Cash and Cash Equivalents ($1,265) $296 ====== ====== CASH AND CASH EQUIVALENTS: Beginning 4,314 3,028 ------ ------ Ending $3,049 $3,324 ====== ====== SUPPLEMENTAL DISCLOSURES OF CASH FLOW INFORMATION Cash payments for: Interest $724 $805 ====== ====== Income Taxes $208 $315 ====== ====== <FN> The Accompanying Notes Are An Integral Part of These Statements </FN> 6 FIRST NATIONAL CORPORATION CONSOLIDATED STATEMENT OF CHANGES IN STOCKHOLDERS' EQUITY (IN THOUSANDS OF DOLLARS) Six Months Ended June 30 1996 and 1995 Unrealized Gain / Loss on Securities Common Available Retained Stock Surplus For Sale Earnings Total Balances, December 31, 1994 $3,855 $1,076 ($831) $8,036 $12,136 Issuance of 75 shares of common stock employee stock options 0 2 --- --- 2 Net Income --- --- --- 619 619 Unrealized Gain on Securities Available for Sale --- --- 801 --- 801 Cash Dividends --- --- --- (200) (200) ------- ------- ------- ------- ------- Balances, June 30, 1995 $3,855 $1,078 ($30) $8,455 $13,358 ======= ======= ======= ======= ======= Balances , December 31, 1995 $3,859 $1,090 $71 $8,888 $13,908 Issuance of 545 shares of common Stock dividend reinvestment plan 2 9 --- --- 11 Net Income --- --- --- 676 676 Increase In Unrealized loss on securities available for sale --- --- (344) --- (344) Cash dividends --- --- --- (232) (232) -------- -------- ------- ------- ------- Balances, June 30, 1996 $3,861 $1,099 ($273) $9,332 $14,019 ======== ======== ======= ======= ======= <FN> The Accompanying Notes Are An Integral Part of These Statements </FN> 7 FIRST NATIONAL CORPORATION NOTES TO CONSOLIDATED FINANCIAL STATEMENTS Note 1.Interim Financial Statements The accompanying consolidated financial statements of First National Corporation and its subsidiaries have not been audited by independent accountants, except for the balance sheet at December 31, 1995. In the opinion of the company's management, the financial statements reflect all adjustments necessary to present fairly the results of operations for the six month periods ended June 30, 1996 and 1995, the company's financial position at June 30, 1996 and December 31, 1995, and the cash flows for the six month periods ended June 30, 1996 and 1995. These adjustments are of a normal recurring nature. Note 2.Securities as of June 30, 1996 and December 31, 1995 are summarized below: (000 Omitted) June 30, 1996 December 31, 1995 Unrealized Unrealized Book Market Gain (Loss) Book Market Gain (Loss) Securities Available For Sale U. S. Treasury Securities $0 $0 $0 $1,003 $1,007 $4 U. S. Agency Securities 20,447 20,092 (355) 21,449 21,505 56 Obligation of State and Political Subdivisions 6,624 6,565 (59) 6,693 6,961 268 Other Securities 1,069 1,069 0 1,052 1,070 18 ------- ------- ------ ------- ------- ------ Total Securities Available for Sale $28,140 $27,726 ($414) $30,197 $30,543 $346 ======= ======= ====== ======= ======= ====== Securities Held to Maturity U. S. Treasury Securities $0 $0 $0 $0 $0 $0 U. S. Agency Securities 3,729 3,702 ($27) 6,076 6,082 6 Obligation of State and Political Subdivisions 0 0 0 0 0 0 Other Securities 0 0 0 0 0 0 ------- ------ ------ ------- ------ ----- Total Securities Held to Maturity $3,729 $3,702 ($27) $6,076 $6,082 $6 ======= ====== ====== ======= ====== ===== 8 FIRST NATIONAL CORPORATION NOTES TO CONSOLIDATED FINANCIAL STATEMENTS Note 3. The consolidated loan portfolio, stated at face amount, is composed of the following: (000 Omitted) June 30, 1996 December 31, 1995 Real estate loans: Construction and land development $2,624 $3,990 Secured by farm land 880 898 Secured by 1-4 family residential 39,537 42,236 Other real estate loans 16,270 13,549 Loans to farmers (except those secured by real estate) 628 574 Commercial and industrial loans (except those secured by real estate) 11,243 5,843 Loans to individuals for personal expenditures 21,461 20,288 All other loans 3,122 1,172 ------- ------- Total loans $95,765 $88,550 Less unearned income reflected in loans 1,557 1,663 ------- ------- Loans, net of unearned income $94,208 $86,887 ======= ======= <FN> The Bank had loans in a nonaccrual category of $120,320 on December 31, 1995 and $57,000 on June 30, 1996. </FN> Note 4. Allowance for Loan Losses Analysis of the Allowance for Loan Losses For the Six Months Ended (000 Omitted) June 30, 1996 June 30, 1995 Balance at Beginning of Period $901 $1,155 Charge-Offs 23 36 Recoveries 14 23 ------ ------ Net Charge-Offs 9 13 Provision for Loan Losses 60 0 ------ ------ Balance at End of Period $952 $1,142 ====== ====== 9 FIRST NATIONAL CORPORATION NOTES TO CONSOLIDATED FINANCIAL STATEMENTS Note 5. New Accounting Pronouncements Statement of Financial Accounting Standards No. 121, "Accounting for the Impairment of Long-Lived Assets and for Long-Lived Assets to be Disposed of," establishes standards for the impairment of long-lived assets, certain identifiable intangibles, and goodwill related to those assets to be held and used and for long-lived assets and certain identifiable intangibles to be disposed of. This Statement requires that long-lived assets and certain identifiable intangibles to be held and used by an entity be reviewed for impairment whenever events or changes in circumstances indicate that the carrying amount of an asset may not be recoverable. The Statement is effective for fiscal years beginning after December 15, 1995. The Statement did not have a material impact on the Corporation. Statement of Financial Accounting Standards No. 122, "Accounting for Mortgage Servicing Rights," amends SFAS No. 65, "Accounting for Certain Mortgage Banking Activities," to require that a mortgage banking enterprise recognize as separate assets rights to service mortgage loans for others, however those servicing rights are acquired. A mortgage banking enterprise that acquires mortgage servicing rights through either the purchase or origination of mortgage loans and sells or securitizes those loans with servicing rights retained should allocate the total cost of the mortgage loans to the mortgage servicing rights and the loans (without the mortgage servicing rights) based on their relative fair values if it is practicable to estimate those fair values. If it is not practicable to estimate the fair values of the mortgage servicing rights and the mortgage loans (without the mortgage servicing rights), the entire cost of purchasing or originating the loans should be allocated to the mortgage servicing rights. The Statement did not have a material impact on the Corporation. Statement of Financial Accounting Standards No. 123, "Accounting for Stock-Based Compensation" establishes financial accounting and reporting standards for stock-based employee compensation plans. Those plans include all arrangements by which employees receive shares of stock or other equity instruments of the employer or the employer incurs liabilities to employees in amounts based on the price of the employer's stock. Examples are stock purchase plans, stock options, restricted stock, and stock appreciation rights. This Statement also applies to transactions in which an entity issues its equity instruments to acquire goods or services from nonemployees. Those transactions must be accounted for based on the fair value of the consideration received or the fair value of the equity instruments issued, whichever is more reliably measurable. This Statement defines a fair value based method of accounting for an employee stock option or similar equity instrument and encourages all entities to adopt that method of accounting for all of their employee stock compensation plans. However, it also allows an entity to continue to measure compensation cost for those plans using the intrinsic value based method of accounting prescribed by APB Opinion 25, "Accounting for Stock Issued to Employees." The fair value based method is preferable to the Opinion 25 method for purposes of justifying a change in accounting principle under APB opinion 20, "Accounting Changes." Entities electing to remain with the accounting of Opinion 25 must make pro forma disclosures of net income and, if presented, earnings per share, as if the fair value based method of accounting defined in this Statement had been applied. The Statement is effective for fiscal years beginning after December 15, 1995. The disclosures must include the pro forma effects of other awards granted in fiscal years beginning after December 31, 1994. The Statement did not have a material impact on the Corporation. 10 FIRST NATIONAL CORPORATION MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS Overview Net income for the first half of 1996 was $676 thousand compared to $620 thousand in the same period of 1995. There was an increase in interest expense when the two periods are compared which was less than the increase in interest income during this period which was the result of an increasing loan portfolio which was funded by savings deposits and cash flows from the investment portfolio. This resulted in an increase in net interest income dollars even though the net interest margin was unchanged. Total assets grew $2.4 million during the first six months of 1996. The loan portfolio led the way by growing $7.3 million or 8.4% during this period. Both other real estate and other assets grew during this quarter, by $175 thousand and $248 thousand respectively. Federal funds sold increased $1.3 million. Funding for these increases was provided, in large part, by the securities portfolio which decreased $5.2 million. There was also an increase in total deposits of $2.5 million which rounded out the funding mix. Yields, Rates and Net Interest Margin While interest rates have risen during the second quarter of 1996, the decline in yield on the loan portfolio which moved down from 9.15% in 1995 to 8.80% in 1996 was the result of a management decision to accept lower yielding loans in an attempt to expand the portfolio. This decline in loan yield combined with a decline in yield on securities caused the yield on total earning assets to decline from 8.42% in 1995 to 8.22% this year. Due to an increase in volume in lower cost deposit products the cost of interest bearing liabilities held relatively steady and only increased from 4.67% in 1995 to 4.69% in 1996. This decline in yield on earning assets in conjunction with level costs on interest bearing liabilities caused the interest rate spread to narrow from 3.49% in 1995 to 3.59% in 1996 and as a result the net interest margin also declined from 4.46% to 4.37%. Future Operations While the bank has opened a new branch office during each of the last two years, there are no plans to continue in this manner. Management, instead, plans to improve the support departments for the existing branch network by remodeling the Strasburg office and by erecting a new building adjacent to the "main office" building which will house all the operations departments of the bank under one roof. Construction was started during the second quarter and should be completed around the end of first quarter of 1997. While the bank will continue to concentrate on the expansion and diversification the loan portfolio, management is in the process of developing a program to provide alternative financial products, mutual funds, bonds, common stock and investment products other than bank deposits to both bank customers and noncustomers. 11 FIRST NATIONAL CORPORATION AVERAGE BALANCES, INCOME AND EXPENSE, YIELDS AND RATES Six Months Ended June 30, 1996 1995 Annual Annual Average Income/ Yield/ Average Income/ Yield/ Balance Expense Rate Balance Expense Rate ASSETS Balances at correspondent banks - interest bearing $183,733 $13,859 15.09% $201,651 $6,059 6.01% Securities: Taxable 25,974,838 793,265 6.11% 33,354,611 1,105,425 6.63% Tax-exempt (1) 6,744,814 297,585 8.82% 3,739,800 184,665 9.88% ----------- --------- ----- ----------- --------- ----- Total Securities 32,719,652 1,090,850 6.67% 37,094,411 1,290,090 6.96% Loans (net of earned income):(2) Taxable 93,423,660 4,103,417 8.78% 77,630,960 3,548,054 9.14% Tax-exempt (1) 664,563 35,336 10.63% 804,528 40,926 10.17% ----------- --------- ----- ----------- --------- ----- Total Loans 94,088,223 4,138,753 8.80% 78,435,488 3,588,980 9.15% Federal funds sold and repurchase agreements 1,683,159 42,548 5.06% 918,624 25,328 5.51% ----------- --------- ----- ----------- --------- ----- Total earning assets 128,674,767 5,286,010 8.22% 116,650,174 4,910,457 8.42% Less: allowance for Loan Losses (923,855) (1,138,817) Total nonearning assets 5,521,707 7,640,322 ------------ ------------ Total Assets $133,272,619 $123,151,679 ============ ============ LIABILITIES AND SHAREHOLDER EQUITY Interest bearing deposits: Checking $9,834,647 $106,764 2.17% $8,919,277 $111,548 2.50% Money market savings 7,658,747 129,194 3.37% 7,405,529 126,860 3.43% Regular savings 29,574,115 681,983 4.61% 20,214,280 455,749 4.51% Certificates of deposit: Less than $100,000 45,401,444 1,209,495 5.33% 48,244,202 1,243,749 5.16% $100,000 and more 10,637,776 292,336 5.50% 9,458,357 260,428 5.51% ----------- --------- ----- ---------- --------- ----- Total interest bearing deposits 103,106,729 2,419,772 4.69% 94,241,645 2,198,330 4.67% Federal funds purchased 46,912 1,894 8.07% 3,371,871 108,342 6.43% Long term borrowings 1,496,158 51,551 6.89% 0 0 N\A ----------- --------- ----- ---------- ---------- ----- Total interest bearing liabilities 104,649,799 2,473,217 4.73% 97,613,516 2,306,672 4.73% Noninterest bearing liabilities Demand deposits 13,679,571 12,493,749 Other liabilities 1,124,187 952,728 ----------- ----------- Total liabilities 119,453,557 111,059,993 Stockholders' equity 13,819,062 12,091,686 ----------- ----------- Total liabilities and stockholders' equity $133,272,619 $123,151,679 =========== =========== Net Interest income $2,812,793 $2,603,785 ========= ========= Interest rate spread 3.49% 3.69% Interest expense as a percent of average earning assets 3.84% 3.95% Net interest margin 4.37% 4.46% <FN> (1) Income and yields are reported on a taxable-equivalent basis assuming a federal tax rate of 34% in 1995 and 1996. (2) Loans placed on a nonaccrual status are reflected in the balances. </FN> 12 First National Corporation PART II. OTHER INFORMATION Item 1. Legal Proceedings As of June 30, 1996 neither the corporation nor the bank was a party to any legal proceedings. Item 2. Not Applicable Item 3. Not Applicable Item 4. Submission of Matters to a Vote of Security Holders No matters were submitted to a vote of security holders during the second quarter of 1996. Item 5. Not Applicable Item 6. Exhibits and Reports on Form 8-K (a) Exhibits: 2. Plan of acquisition, reorganization, arrangement, liquidation or succession. Not applicable 3 (i) Articles of Incorporation (ii) Bylaws There have been no amendments during the quarter. 4. Instruments defining the rights of security holders, including indentures. Not applicable 10. Material contracts Not applicable 11. Statement re computation of per share earnings. Not applicable 15. Letter re unaudited interim financial information. Not applicable 13 First National Corporation PART II. OTHER INFORMATION 18. Letter re change in accounting principles. Not applicable 19. Report furnished to security holders. Not applicable 22. Published report regarding matters submitted to vote of security holders. Not applicable 23. Consent of experts and counsel. Not applicable 24. Power of attorney Not applicable 27. Financial Data Schedule See second document in filing 99. Additional Exhibits Not applicable (b). Reports on form 8-K None 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. First National Corporation (Registrant) Date August 14, 1996 Dana A. Froom ----------------- --------------------------------- Dana A. Froom, Comptroller (Principal Accounting Officer and Duly Authorized Officer) 14