UNITED STATES SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-K
ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
For the fiscal year ended December 31, 1997
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)
112 West King Street, Strasburg, Virginia 22657
(Address of principal executive offices) (Zip Code)
Registrant's telephone number, including area code (540) 465-9121
Securities registered pursuant to Section 12(B) of the Act:
Title of each class Name of each exchange on which registered:
None None
Securities registered Pursuant to section 12(g) of
the Act:
Common Stock, $5.00 par value per share
(Title of class)
Indicate by check mark whether the registrant (1) has filed all reports required
to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during
the preceding 12 Months (or for such shorter period that the registrant was
required to file such reports), and (2) has been subject to such filing
requirements for the past 90 days. Yes X No
Indicate by check mark if disclosure of delinquent filers pursuant to Item 405
of Regulation S-K is not contained herein, and will not be contained, to the
best of the registrant's knowledge, in the definitive proxy or information
statements incorporated by reference in Part III of this Form 10-K or any
amendment to this Form 10-K. [ X]
As of February 28, 1998, there were 777,547 shares of common stock, $5.00 par
value, outstanding and the aggregate market value of common stock of First
National Corporation held by nonaffiliates was approximately $22,612,919.
DOCUMENTS INCORPORATED BY REFERENCE
1997 Annual Report to Shareholders - Parts I and II
Notice of Annual Meeting and Proxy Statement Dated February 27,
1998 - Part III
Part 1
Item 1. Business.
The Company
First National Corporation (the "Company") was organized on September
7, 1983 as a Virginia corporation for the purpose of acquiring all of the
outstanding common stock of the First National Bank of Strasburg (effective June
1, 1994, name changed to First Bank) (the "Bank") in connection with the
reorganization of the Bank into a one bank holding company structure. At the
effective date of the reorganization, the Bank merged into a newly-formed
national bank organized as a wholly-owned subsidiary of the Company, with each
outstanding share of common stock of the Bank being converted into one share of
common stock of the Company. The primary activity of the Company is the
ownership and operation of the Bank.
The Bank
The bank is currently organized as a state chartered bank under the
laws of the Commonwealth of Virginia. It commenced operations on July 1, 1907 as
The Peoples National Bank of Strasburg. On January 10, 1928 the Bank changed its
name to the First National Bank of Strasburg and moved into its current
headquarters location in Strasburg.
On July 8, 1985, the Bank's first branch was opened in the town of
Front Royal, Virginia. The second branch was opened on July 26, 1985 in the City
of Winchester, Virginia. The Bank purchased a branch in Frederick County,
Virginia from First Union National Bank of Virginia on March 31, 1994. The Bank
opened this former First Union branch as a full service office on July 1, 1994.
A fourth branch was constructed in the town of Woodstock, Virginia and opened
for business on May 30, 1995.
On April 12, 1994, the Bank received approval from the Federal Reserve
Bank of Richmond (the "Federal Reserve") and the Virginia State Corporation
Commission's Bureau of Financial Institutions (the "SCC") to convert to a state
chartered bank with membership in the Federal Reserve System. The Bank was given
one year from approval to convert. On June 1, 1994, the Bank consummated such
conversion and changed its name to First Bank.
In April 1994, the Bank formed a subsidiary, First Bank Financial
Services, Inc., ("Financial Services"), for the purpose of investing in Bankers
Title of Fredericksburg, LLC, a title insurance company formed by a group of
community banks in Virginia. This company underwrites title insurance which is
sold through the banks which own the company to their customers.
Banking Services
As a full-service commercial bank, the Bank provides a wide range of
deposit, loan and other general banking services to individuals, businesses,
institutions and government entities. The Bank's deposit services for
individuals include checking, statement savings, NOW accounts, money market
accounts, IRA deposits, certificates of deposit, Christmas club accounts, direct
deposit programs, a club account, life-line checking accounts and investment
savings accounts. Loan services to individuals include personal and installment
loans (including automobile and property improvement loans), residential
mortgages, adjustable rate mortgages, bi-weekly mortgages, home equity loans,
and MasterCard and Visa credit cards. The Bank also offers consumers other
general banking services, such as safe deposit facilities, travelers checks and
collections, and acts as agent for the purchase and redemption of United States
Savings Bonds. In addition, the Bank offers corporate and business services,
including regular business checking, corporate savings, certificates of deposit,
commercial and small business loans, and on-line wire transfer services. The
Bank also offers Commercial mortgages.
Location and Service
The Bank serves the areas of Shenandoah, Frederick, Warren and Clarke
Counties and the City of Winchester in Virginia. The Bank solicits business from
individuals and small to medium-sized businesses, including retail shops and
professional service businesses, residing in this service area.
The Bank has offices at the following locations:
Main Office - 112 W. King St., Strasburg, VA 22657
Front Royal Office - 508 N. Commerce Ave.,
Front Royal, VA 22630
Winchester Office - 2210 Valley Ave., Winchester, VA 22601
Kernstown Office - 3143 Valley Pike, Winchester, VA 22602
Remote ATM site at Strasburg Square Shopping Center, Strasburg, Virginia
Woodstock Office - 860 South Main Street, Woodstock, VA 22664
Remote ATM site at Shenandoah Memorial Hospital, Woodstock, Virginia
Remote ATM site at Judd's Inc., Strasburg, Virginia
Competition
The Bank is subject to intense competition from various financial
institutions and other companies or firms that offer financial services. In its
market area, the Company is and will be competing with several state-wide and
regional banking institutions, including First Virginia Bank, Signet Bank,
Crestar Bank, NationsBank, N. A., First Union National Bank, F&M Bank, Jefferson
National Bank and Central Fidelity National Bank. The Bank competes for deposits
with other commercial banks, savings and loan associations, credit unions and
with issuers of commercial paper and securities, such as money market and mutual
funds. In making loans, the Bank competes with other commercial banks, savings
and loan associations, consumer finance companies, credit unions, leasing
companies and other lenders.
Federal and state legislative changes since 1982 have significantly
increased competition among financial institutions, and current trends toward
further deregulation may be expected to increase such competition even further.
Many of the financial organizations in competition with the Company have greater
financial resources than the Company and are able to offer similar services at
varying costs with greater loan capacities. Of all the banks in our marketplace,
the Bank is one of a few that serves the area exclusively as an independent,
community bank. This enables it to identify and meet customer needs efficiently
and enhance its competitiveness in the marketplace. The Bank's history, dating
back to 1907, also allows it to compete from a position of strength and
stability.
Asset and Liability Management
Assets of the Bank consist primarily of loans and its investment
portfolio. Deposit accounts, including checking accounts and interest-bearing
accounts, time deposits and certificates of deposit, represent the majority of
the liabilities of the Bank. In an effort to maintain adequate levels of
liquidity and minimize fluctuations in the net interest margin (the difference
between interest income and interest expense), the rate sensitivity of the loan
and investment portfolios are similar to the rate sensitivity of the Bank's
liabilities.
The Bank invests the majority of its investment portfolio in highly
marketable short-term assets, such as federal funds and issues of the United
States government and its agencies. By pricing loans on a variable rate
structure, or by keeping the maturity of the investment and loan portfolios
relatively short- term, the Bank is able to maintain loan interest or to
reinvest securities proceeds at prevailing market rates, thereby helping to
maintain a generally consistent spread over the interest rates paid by the Bank
on the deposits which are used to fund the investment and loan portfolios.
Lending Activities
The Bank is an active lender with a loan portfolio that includes
commercial and residential mortgages, real estate construction loans, commercial
loans, and consumer loans. The Company's lending activity extends to individuals
and small and medium-sized businesses within its primary service area.
Consistent with its focus on providing community-based financial services, the
Bank does not attempt to diversify its loan portfolio geographically by making
significant amounts of loans to borrowers outside of its primary service area.
The principal economic risk associated with each of the categories of
loans in the portfolio is the credit worthiness of its borrowers. Within each
category, such risk is increased or decreased depending on prevailing economic
conditions. In an effort to manage this risk, it is the Bank's policy to give
loan amount approval limits to individual loan officers based on their level of
experience. The risk associated with the real estate mortgage loans and
installment loans to individuals varies based upon employment levels, consumer
confidence, fluctuations in value of residential real estate and other
conditions that affect the ability of consumers to repay indebtedness. The risk
associated with commercial, financial and agricultural loans varies based upon
the strength and activity of the local economies of the Bank's market area. The
risk associated with real estate construction loans varies based upon the supply
and demand for the type of real estate under construction. Most of the Bank's
real estate construction loans are for pre-sold or contract homes.
Residential Mortgage Lending. Residential mortgage loans are made in
amounts up to 80% (95% with Mortgage Guaranty Insurance) of the appraised value
of the security property. Residential mortgage loans are underwritten using
qualification guidelines. The Bank requires that the borrower obtain title, fire
and casualty coverage in an amount equal to the loan amount and in a form
acceptable to the Bank.
The Bank's adjustable rate mortgages ("ARMs") generally are subject to
limitations of 2% per year on interest rate increases and decreases. In
addition, ARMs currently originated by the Bank provide for a lifetime cap of 6%
or less from the borrower's initial interest rate. All changes in the interest
rate must be based on the movement of an index agreed to by the Bank and the
borrower.
There are risks resulting from increased costs to a borrower as a
result of the periodic repricing mechanisms of these loans. Despite the benefits
of ARMs to an institution's Asset Liability management, they pose additional
risks, primarily because as interest rates rise the underlying payments by the
borrowers rise, increasing the potential for default. At the same time, the
marketability of the underlying property may be affected adversely by higher
interest rates.
The Bank charges origination fees on its residential mortgage loans.
These fees vary among loan products and with market conditions. Generally such
fees amount to 1.0% to 2.125% of the loan principal amount. In addition, the
Bank charges fees to its borrowers to cover the cost of appraisals, credit
reports and certain expenses related to the documentation and closing of loans.
Real Estate Construction Loans. In general, the Bank does not originate
construction loans on income-producing properties such as apartments, shopping
centers, hotels and office buildings. However, the Bank does make construction
loans for residential purposes. These loans are primarily used for construction
of owner-occupied pre-sold residential homes and are considered an attractive
type of lending due to their short-term maturities and higher yields. The Bank
does not participate in any "speculative lending" which relies on market demand
after construction.
Construction lending entails significant additional risk as compared
with commercial and residential mortgage lending. Construction loans typically
involve larger loan balances concentrated with single borrowers or groups of
related borrowers. Construction loans involve additional risks attributable to
the fact that loan funds are advanced upon the security of the home under
construction, which is of uncertain value prior to the completion of
construction. Thus, it is more difficult to evaluate accurately the total loan
funds required to complete a project and related loan-to-value ratios. To
minimize risks associated with construction lending, the Bank limits loan
amounts to 80% of appraised value on pre-sold homes in addition to its usual
credit analysis of its borrowers. The Bank also obtains a first lien on the
security property as security for its construction loans.
Commercial Real Estate Lending. The Bank provides permanent mortgage
financing for a variety of commercial projects. These loans are written with
maturities generally within one and five years and are made predominantly on an
adjustable rate basis. The Bank attempts to concentrate its commercial real
estate lending efforts into owner-occupied projects. However, from time to time,
in the normal course of business, the Bank will provide a limited amount of
financing for income producing, non-owner occupied projects which meet all of
the guidelines established by loan policy.
Commercial Loans. As a full-service community bank, the Bank makes
loans to qualified small businesses in its service area. Commercial business
loans generally have a higher degree of risk than commercial and residential
mortgage but have commensurately higher yields. To manage these risks, the Bank
secures appropriate collateral and carefully monitors the financial condition of
its business borrowers. Commercial business loans typically are made on the
basis of the borrower's ability to make repayment from the cash flow of its
business and are either unsecured or secured by business assets, such as
accounts receivable, equipment and inventory. As a result, the availability of
funds for the repayment of commercial business loans may be substantially
dependent on the success of the business itself. Further, the collateral for
secured commercial business loans may depreciate over time and cannot be
appraised with as much precision as real estate.
Consumer Loans. The Bank currently offers most types of consumer
demand, time and installment loans including automobile loans and home equity
lines of credit. The risk associated with installment loans to individuals
varies based upon employment levels, consumer confidence, and other conditions
that affect the ability of consumers to repay indebtedness.
Employees
At December 31, 1997, a total of 83 persons were employed by the
Company and the Bank in both full and part time positions. None are represented
by any collective bargaining unit. The Company considers relations with its
employees to be good.
Supervision and Regulation
General. As a bank holding company registered under the Bank Holding
Company Act of 1956 (the "BHCA"), the Company is subject to the supervision and
examination of the Board of Governors of the Federal Reserve System and is
required to file with the Federal Reserve such reports and other information as
the Federal Reserve may require. The Bank was supervised and regularly examined
by the Office of the Comptroller of the Currency, but upon its conversion to a
state chartered bank on June 1, 1994, became subject to the oversight of the
Federal Reserve and the Bureau of Financial Institutions of the SCC. The various
laws and regulations administered by the regulatory agencies affect corporate
practices, such as dividend payments, incurring debt, acquisition of financial
institutions and other companies, and types of business conducted.
Bank Holding Company Regulation. Under Federal Reserve policy, a bank
holding company is expected to act as a source of financial strength to each of
its subsidiary banks and to commit resources to support such banks in
circumstances where it might not do so absent such policy. The BHCA requires a
bank holding company to obtain Federal Reserve approval before it acquires,
directly or indirectly, ownership or control of any voting shares of a bank or
bank holding company if, after such acquisition, it would own or control more
than 5% of such shares (unless it already owns or controls a majority of such
voting shares). Federal Reserve approval also must be obtained before a bank
holding company acquires all or substantially all of the assets of another bank
or bank holding company or merges or consolidates with another bank holding
company. Furthermore, any acquisition by a bank holding company of more than 5%
of the voting shares, or of all or substantially all of the assets of a bank
located in another state may not be approved by the Federal Reserve unless such
acquisition is specifically authorized by the laws of that other state. In
addition to the approval of the Federal Reserve, before any bank acquisition can
be completed, prior approval thereof must be obtained from each other banking
agency which has supervisory jurisdiction over the bank to be acquired.
The BHCA also prohibits a bank holding company, with certain limited
exceptions, from acquiring or retaining direct or indirect ownership or control
of more than 5% of the voting shares of any company which is not a bank, or from
engaging in any activities other than those of banking or of managing or
controlling banks or furnishing services to or performing services for its
subsidiaries. The principal exceptions to these prohibitions permit a bank
holding company to engage in, or acquire an interest in a company that engages
in activities which, after due notice and opportunity for hearing, the Federal
Reserve by regulation or order has determined are so closely related to banking
or of managing or controlling banks as to be a proper incident thereto.
A bank holding company and its subsidiaries are prohibited from
engaging in certain tie-in arrangements in connection with the provision of any
credit, property or services. Thus, the subsidiary of a bank holding company may
not extend credit, lease or sell property, furnish any services or fix or vary
the consideration for these activities on the condition that (1) the customer
must obtain some additional credit, property or services from, or provide
additional property or services to, the bank holding company or any subsidiary
thereof, or (2) the customer may not obtain some other credit, property or
service from a competitor, except to the extent reasonable conditions are
imposed to insure the soundness of the credit extended. The subsidiary banks of
a bank holding company also are subject to certain restrictions imposed by the
Federal Reserve Act on any extensions of credit to the bank holding company or
any of its subsidiaries, or investments in the stock or other securities
thereof, and on the taking of such stocks or securities as collateral for loans.
The Federal Reserve possesses cease and desist powers over bank holding
companies if their actions represent unsafe or unsound practices or violations
of law.
A bank holding company may not, without providing prior notice to the
Federal Reserve, purchase or redeem its own stock if after the transaction the
company is no longer classified as "well-capitalized".
The company is also subject to certain provisions of Virginia law that
affect the ability of a bank holding company to acquire another financial
institution based in Virginia. Under certain amendments to the Virginia
Financial Institutions Holding Company Act that became effective July 1, 1983,
no corporation, partnership or other business entity may acquire, or make any
public offer to acquire, more than 5% of the stock of any Virginia financial
institution or any Virginia financial institution holding company, unless it
shall first file an application with the Virginia State Corporation Commission
(the "SCC"). The SCC is directed by the statute to solicit the views of the
affected financial institution, or financial institution holding company, with
respect to such stock acquisition, and is empowered to conduct an investigation
during the 60 days following receipt of such an application. If the SCC takes no
action within the prescribed period, or if during the prescribed period it
issues notice of its intent not to disapprove an application, the acquisition
may be completed. The SCC may disapprove an application subject to such
conditions as it may deem advisable.
In 1985, the Virginia General Assembly enacted legislation that allows
a bank holding company that has its principal place of business in a defined
region of states to acquire, subject to the approval of the SCC, a Virginia
based financial institution. Before approving the acquisition, the SCC must
determine that there is reciprocity between the laws of the state in which the
acquiring institution is based and the laws of Virginia governing acquisition by
out-of-state bank holding companies. The states that comprise the region are
Alabama, Arkansas, Florida, Georgia, Kentucky, Louisiana, Maryland, Mississippi,
North Carolina, South Carolina, Tennessee, Virginia, West Virginia, and the
District of Columbia.
The Bank. Prior to June 1, 1994 the Bank was a national banking
association, supervised and regularly examined by the Office of the Comptroller
of the Currency (the "OCC"). The various laws and regulations administered by
the OCC affected corporate practices, such as the payment of dividends.
incurring debt and acquisition of financial institutions and other companies,
and affected business practices, such as payment of interest on deposits, the
charging of interest on loans, types of business conducted and location of
offices.
As stated earlier in this item under "The Bank," the Bank received
approval from the Federal Reserve and the SCC and converted to a state chartered
bank, organized under the laws of the Commonwealth of Virginia, with membership
in the Federal Reserve System. The Bank is now supervised and regularly examined
by the Federal Reserve and the SCC and is subject to the laws and regulations
administered by those regulatory authorities.
Limits on Dividends and Other Payments. The Company is a legal entity
separate and distinct from the Bank. Most of the Company's revenues result from
dividends paid to the Company by the Bank. The right of the Company, and
consequently the right of creditors and shareholders of the Company, to
participate in any distribution of the assets or earnings of the Bank through
the payment of such dividends or otherwise is necessarily subject to the prior
claims of creditors of the Bank, except to the extent that claims of the Company
in its capacity as a creditor may be recognized.
The amount of dividends payable by the Bank to the Company depends upon
the Bank's earnings and capital position, and is limited by federal and state
law, regulations and policies.
As a state member bank subject to the regulations of the Federal
Reserve Board, the Bank has to obtain the approval of the Federal Reserve Board
for any dividend if the total of all dividends declared in any calendar year
would exceed the total of its net profits, as defined by the Federal Reserve
Board, for that year, combined with its retained net profits for the preceding
two years. In addition, the Bank may not pay a dividend in an amount greater
than its undivided profits then on hand after deducting its losses and bad
debts. For this purpose, bad debts are generally defined to include the
principal amount of loans which are in arrears with respect to interest by six
months or more unless such loans are fully secured and in the process of
collection. Moreover, for purposes of this limitation, the Bank is not permitted
to add the balance in its allowance for loan losses account to its undivided
profits then on hand; however, it may net the sum of its bad debts as so defined
in excess of that account. At December 31, 1997, the Bank had $3.0 million of
retained earnings legally available for the payment of dividends.
In addition, the Federal Reserve is authorized to determine under
certain circumstances relating to the financial condition of a national bank, a
state member bank or a bank holding company that the payment of dividends would
be an unsafe or unsound practice and to prohibit payment thereof. The payment of
dividends that deplete a bank's capital base could be deemed to constitute such
an unsafe or unsound practice. The Federal Reserve has indicated that banking
organizations should generally pay dividends only out of current operating
earnings.
Borrowings by the Company. There are various legal restrictions on the
extent to which the Company can Borrow or otherwise obtain credit from the Bank.
In general, these restrictions require that any such extensions of credit must
be secured by designated amounts of specified collateral and are limited, as to
the Company, to 10 percent of the Bank's capital stock and surplus, and as to
the Company and any nonbanking subsidiaries in the aggregate, to 20 percent of
the Bank's capital stock and surplus. Federal law also requires that
transactions between the Bank and the Company or any nonbanking subsidiaries,
including extensions of credit, sales of securities or assets and the provision
of services, be conducted on terms at least as favorable to the bank as those
that apply or would apply to comparable transactions with unaffiliated parties.
Capital Requirements
Year Ended
December 31,
1997
Required Capital Ratios:
Leverage Ratio 4.00%
Tier 1 risk-based capital ratio 4.00
Total risk-based capital ratio 8.00
The Company Capital Ratios:
Leverage Ratio 10.0%
Tier 1 risk-based capital ratio 14.2
Total risk-based capital ratio 15.2
In January 1989, the Federal Reserve Board published risk-based capital
guidelines in final form which are applicable to bank holding companies. The
Federal Reserve Board guidelines redefine the components of capital, categorize
assets into different risk classes and include certain off-balance sheet items
in the calculation of risk-weighted assets. These guidelines became effective on
March 15, 1989. The minimum ratio of qualified total capital to risk-weighted
assets (including certain off balance sheet items, such as standby letters of
credit) is 8.00%. At least half of the total capital must be comprised of common
equity, retained earnings and a limited amount of permanent preferred stock,
less goodwill ("Tier 1 capital"). The remainder ("Tier 2 capital ) may consist
of a limited amount of subordinated debt, other preferred stock, certain other
instruments and a limited amount of loan and lease losses reserves. The
Company's Tier 1 and total Capital ratios as of December 31, 1997 were 14.2% and
15.2%, respectively.
In addition, the Federal Reserve Board has established minimum Leverage
ratio (Tier 1 capital to quarterly average assets less goodwill) guidelines for
bank holding companies. These guidelines provide for a minimum ratio of 3.00%
for bank holding companies that meet certain specific criteria, including that
they have the highest regulatory rating. All other bank holding companies will
be required to maintain a Leverage ratio of 3.00% plus an additional cushion of
at least 100 to 200 basis points. The Company's Leverage ratio as of December
31, 1997 was 10.0%. The guidelines also provide that a banking organization
experiencing internal growth or making acquisitions will be expected to maintain
strong capital positions substantially above the minimum supervisory levels,
without significant reliance on intangible assets.
Bank regulators continue to indicate their desire to raise capital
requirements applicable to banking organizations beyond their current levels.
However, management is unable to predict whether higher capital ratios would be
imposed and, if so, at what levels and on what schedule.
Under Federal Reserve Board policy, a bank holding company is required
to serve as a source of financial and managerial strength to its subsidiary
banks and may not conduct its operations in an unsafe or unsound manner. In
addition, it is the Federal Reserve Board's policy that, in serving as a source
of strength to its subsidiary banks, a bank holding company should stand ready
to use available resources to provide adequate capital funds to its subsidiary
banks. This support may be required during periods of financial stress or
adversity or in circumstances where the financial flexibility and
capital-raising capacity of the bank holding company would be called upon to
obtain additional resources for assisting its subsidiary banks. The failure of a
bank holding company to serve as a source of strength to its subsidiary banks
would generally be considered by the Federal Reserve Board to be an unsafe and
unsound banking practice, a violation of Federal Reserve regulations, or both.
FIRREA. In August 1989, Congress enacted the Financial Institutions
Reform, Recovery, and Enforcement Act ("FIRREA"). Among other things, FIRREA
abolished the Federal Savings and Loan Insurance Corporation and established two
new insurance funds under the jurisdiction of the FDIC -- the Savings
Association Insurance Fund ("SAIF") and the Bank Insurance Fund ("BIF"). The
FDIC will set assessments for deposit insurance annually. The act requires that
the FDIC reach an insurance fund reserve ratio for the BIF of $1.25 for every
$100 of insured deposits within fifteen years. Assessment for the BIF and SAIF
will be set independently.
FIRREA also imposes, with certain exceptions, a "cross-guarantee" on
the part of commonly controlled depository institutions. Under this provision,
if one depository institution subsidiary of a multi- unit holding company fails
or requires FDIC assistance, the FDIC may assess a commonly controlled
depository institution for the estimated losses suffered by the FDIC. While the
FDIC's claim is junior to the claims of non-affiliated depositors, holders of
secured liabilities, general creditors, and subordinated creditors, it is
superior to the claims of shareholders.
In addition, FIRREA grants numerous new or enhanced enforcement powers
over financial institutions and individuals associated with them. It's criminal
and civil liability provisions apply equally to banks and savings and loan
associations and provide for stiffer civil fines and criminal penalties for any
depository institution or any institution affiliated party who engages in or
tolerates bank fraud or other wrongdoing.
FDICIA. The Federal Deposit Insurance Corporation Improvement Act
("FDICIA") was signed into law on December 19, 1991. Section 131 of FDICIA
requires the federal banking agencies to develop a mechanism to take prompt and
corrective action ("PCA") to resolve the problems of insured depository
institutions ("IDI's"). Capital levels and supervisory concern determine a
bank's PCA capital category.
Section 302 requires the FDIC to establish a risk-based assessment
system. The system is designed as a matrix where each IDI will pay an assessment
rate based on the combination of its capital and supervisory condition.
Section 305 of FDICIA requires incorporating interest rate risk ("IRR")
into the risk-based standard and a measurement system that would identify
institutions with high levels of IRR and ensure that they have sufficient
capital to cover their exposure. The measurement system will quantify IRR
exposure through weighting and risk factors.
Depository institutions will be required to establish non-capital
standards for bank safety and soundness. These standards fall into three broad
categories: operations and management standards for internal controls, loan
documentation, and credit underwriting; asset quality, earnings and stock
valuation standards; and executive compensation standards. The failure of a
depository institution to meet these standards will trigger regulatory actions.
Section 112 establishes guidelines for annual independent audit, annual report
filings with regulatory agencies, independent audit reports and procedures, and
independent audit committees.
Section 301 addresses brokered deposits with no restrictions on "well
capitalized" institutions and restrictions based upon the capital threshold of
remaining institutions. Truth in Savings ("TISA") or Regulation DD is intended
to assist consumers in comparing deposit accounts principally through
disclosures of fees, annual percentage yields, interest rates and other terms
associated with interest-bearing deposit accounts. Compliance was mandatory on
June 21, 1993. Section 304 requires a uniform standard for real estate lending
establishing loan-to value ("LTV") ratio guidelines for real estate secured
loans.
FDICIA contains a provision for IDI's to provide supplemental
disclosure of the estimated fair value of assets and liabilities in reports
required to be filed with federal banking agency.
FDICIA establishes various limitations on loans to bank insiders and
prescribes standards that effectively limit the risks posed by an insured bank's
exposure to other insured depository institutions ("Interbank Liabilities").
FDICIA also requires advance notice of a branch closure, the establishment of
incentives to provide life-line accounts to low-income customers and addresses
the frequency and scope of supervisory examinations. Clearly, the ultimate
impact of FIDICIA will be profound.
Government Policies and Legislation. The policies of regulatory
authorities, including the Federal Reserve Board and the FDIC, have had a
significant effect on the operating results of commercial banks in the past and
are expected to do so in the future. An important function of the Federal
Reserve is to regulate aggregate bank credit and money through such means as
open market dealings in securities, establishment of the discount rate on member
banks, borrowings, and changes in reserve requirements against member deposits.
Policies at these agencies may be influenced by many factors, including
inflation, unemployment, short-term and long-term changes in the international
trade balance, and fiscal policies of the United States government.
Congress has periodically considered and adopted legislation which has
resulted in, and could result in further, deregulation of both banks and
financial institutions. Such legislation could modify or eliminate geographic
restrictions on banks and bank holding companies and could modify or eliminate
current prohibitions against the Company engaging in one or more non-banking
activities. Such legislative changes also could place the Company in more direct
competition with other financial institutions. No assurance can be given as to
whether any additional legislation will be adopted and as to effect of such
legislation on the business of the Company.
Item 2. Properties
The principal executive offices of First National Corporation are
located at 112 West King Street, Strasburg, Virginia, which is owned free of
encumbrances. In addition to operating a full service banking facility at this
Strasburg location, the Company operates four additional branches. The Company
owns three of these facilities without encumbrances and leases the fourth. The
lease on this facility, including renewal options, expires in 2001. See Note 14
to the Consolidated Financial Statements of the Company's 1997 Annual Report to
Shareholders for additional information concerning this lease commitment.
Item 3. Legal Proceedings
In the ordinary course of its operations, the Company is party to
various legal proceedings. Based on information presently available, and after
consultation with legal counsel, management believes that the ultimate outcome
in such proceedings in the aggregate, will not have a material adverse effect on
the business or the financial condition or results of operations of the Company.
Item 4. Submission of Matters to a Vote of Securities Holders
No matters were submitted to security holders for a vote in the fourth
quarter of 1997.
Part II
Item 5. Market for the Registrant's Common Equity and Related Stockholder
Matters
Shares of the common stock of the Company are traded on the
over-the-counter (OTC) market and quoted in the OTC Bulletin Board where our
symbol is FXNC. However, similar to the trading of the Bank's common stock prior
to the reorganization, trading the Company's common stock is generally the
result of private negotiation. Increasingly a broker or dealer may be involved,
and the Company is aware of nine brokerage firms that are attempting to make a
market as such in the Company's stock.
The Company has a limited record of variation in prices in the sense of
"bid" and "asked" or in highs or lows. The effort to accurately relate trading
prices throughout 1997 is made more difficult due to the fact that price per
share information is not required by the Company when shares of its stock have
been sold by holders and purchased by others. On the basis of trades known to
the Company, the Company's common stock traded in a range from $21.08 to $29.75
in 1997. The Company's common stock traded in the range of $19.25 to $22.50 in
1996. However, the Company may not be aware of the per share price of all trades
made.
The Company had 687 shareholders as of February 28, 1998.
The Company increased its dividend to $0.82 per share in 1997
representing a payout of 39.71%. The respective dividend per share and payout
ratios were $0.70 and 37.19% in 1996.
Quarterly Dividends
Date 1997 1996
March 31 $0.175 $0.15
June 30 0.175 0.15
September 30 0.175 0.15
December 31 0.295 0.25
Item 6. Selected Financial Data
Pursuant to General Instruction G(2), the information required by this
Item is incorporated by reference to page 23 of the Company's Annual Report to
Shareholders for the fiscal year ended December 31, 1997.
Item 7. Management's Discussion and Analysis of Financial Condition and Results
of Operations
First National Corporation (the "Company") is the holding company for
First Bank (the "Bank") and First Bank Financial Services Inc. ("Financial
Services"). The following discussion and analysis of the financial condition and
results of operations of the Company for the years ended December 31, 1997, 1996
and 1995 should be read in conjunction with the consolidated financial
statements and related notes.
Overview
Earnings and assets grew in 1997. Net income for 1997 was $1,611,322
compared to $1,454,266 in 1996 and $1,314,548 in 1995. Net income per share
increased $0.20 in 1997 from 1996 ($2.08 per share versus $1.88 per share). The
increase in earnings resulted primarily from a continuing increase in the Bank's
interest income which was greater than the increase in interest expense. Return
on average assets was 1.07% in 1997, 1.06% in 1996 and 1.03% in 1995. Return on
average equity was 10.56% in 1997, 10.36% in 1996 and 10.28% in 1995.
Assets grew 16.46% in 1997, an increase over the 1996 growth rate of
6.7%. Growth occurred in both the loan portfolio where loans, net of unearned
income and allowance for loan losses, increased $14.1 million to $112.5 million
and in the securities portfolio which increased $8.0 million to $41.7 million.
Funding for this loan growth was provided by an increase in deposits of $15.7
million and an increase in long term debt of $5.0 million.
Results of Operations
Net interest income represents the primary source of earnings for the
Company. Net interest income equals the amount by which interest income on
earning assets, predominately loans and securities, exceeds interest expense on
interest bearing liabilities, predominately deposits, short-term and long term
borrowings. The provision for loan losses and the amount of noninterest income
and expense also have an effect on net income. Noninterest income and expense
consists of income from service charges on deposit accounts, fees charged for
various services, gains and losses from the sale of assets, both fixed assets
and securities, and various administrative, operating and income tax expenses.
Changes in the volume and mix of interest-earning assets and
interest-bearing liabilities, as well as their respective yields and rates, have
a significant impact on the level of net interest income. Net interest margin is
calculated by dividing tax equivalent net interest income by average earning
assets and reflects the Company's net yield on its earning assets.
General. Net income has increased in each of the last three years.
Income increased in 1995 as a result of a growth in earning assets and an
increase in noninterest income from nonrecurring items. The continued increase
in income in 1996 was caused by further growth in earning assets and by the
funding of higher yielding assets, in part, from lower yielding assets. In 1997,
net interest income increased as a result of interest earning assets growing
faster than interest bearing liabilities.
Net Interest Income. Net interest income, after provision for loan
losses, was $6.02 million for the year ended December 31, 1997, up $0.40 million
or 7.11% over the $5.62 million reported for the same period in 1996. This
increase in net interest income, after provision for loan losses, resulted from
an increase in interest-bearing assets. In 1996 net interest income, after
provision for loan losses increased 7.79% or $0.41 million from $5.21 million in
1995.
Both the net interest margin and interest rate spread increased between
1995 and 1996 and. they both declined between 1996 and 1997. Interest expense as
a percent of average earning assets increased from 3.86% in 1995 to 3.92% in
1996 and increased again in 1997 to 4.02%. Interest income as a percent of
average earning assets, on the other hand, increased from 8.26% in 1995 to 8.50%
in 1996 and declined slightly to 8.40% in 1997. The decreases in 1997 resulted
from a decline in yield on each earning asset portfolio with an increase in
interest cost on interest bearing liabilities.
The net interest spread decreased to 3.54% in 1997 after increasing to
3.78% in 1996 from 3.49% in 1995 The net interest margin also decreased to 4.37%
in 1997 from 4.51% in 1996 after increasing from 4.40% in 1995 The above ratios
reflect management's attempt to grow the loan portfolio resulting in a lower
yield while the cost of funding this growth increased.
Provision for Loan Losses. There was no provision made in 1995 as a
result of management's analysis of the allowance for loan losses which found
that the balance was sufficient to cover anticipated losses. In 1996, in
anticipation of growth in the loan portfolio, a provision of $120,000 was made
to the allowance for loan losses. Management continued to make provisions in
1997, adding an additional $220,000 in provisions.
Non-Interest Income. Non-interest income increased $230,568 in 1997 due
to the introduction of fees on noncustomer atm transactions, an increase in fees
on deposit accounts and several non recurring income items.
Non-Interest Expense. In 1997, non-interest expenses increased
$367,133 or 8.58% over 1996. This increase was larger than the increase in 1996
of $61,533.
Income Taxes. The company has adopted FASB Statement No. 109,
"Accounting for Income Taxes". A more detailed discussion of the Company's tax
calculation is contained in Note 9 to the consolidated financial statements.
Net interest income is affected by changes in both average interest
rates and average volumes of interest earning assets and interest bearing
liabilities. Table 3 sets forth the amounts of the total change in interest
income that can be attributed to changes in the volume of interest earning
assets and interest bearing liabilities and the amount of the change that can be
attributed to changes in interest rates. The amount of change not solely due to
rate or volume changes was allocated between the change due to rate and the
change due to volume based on the relative size of the rate and volume changes.
Table 1 - Selected Consolidated Financial Data
Years Ended December 31,
1997 1996 1995 1994 1993
(in thousands, except ratios and per share amounts)
Income Statement Data:
Interest income $11,974 $10,833 $9,943 $8,441 $8,340
Interest expense 5,738 5,097 4,733 3,605 3,428
Net interest income 6,236 5,736 5,210 4,836 4,912
Provision for loan losses 220 120 0 0 240
Net interest income after
provision for loan losses 6,016 5,616 5,210 4,836 4,672
Noninterest income 867 628 811 526 518
Securities gains (losses) 11 20 (8) 73 92
Noninterest expense 4,646 4,279 4,217 4,053 3,357
Income before income taxes 2,247 1,985 1,796 1,382 1,925
Income taxes 636 531 481 341 551
Net income $1,611 $1,454 $1,315 $1,041 $1,374
Per Share Data:
Net income, basic and diluted $2.08 $1.88 $1.70 $1.35 $1.79
Cash dividends .82 0.70 0.60 0.52 0.48
Book value at period end 20.81 19.16 18.02 15.74 15.98
Balance Sheet Data:
Assets $164,589 $141,329 $132,321 $122,008 $109,701
Loans, net of unearned income 112,494 98,421 85,986 76,829 62,274
Securities 41,699 33,742 36,619 38,441 39,346
Deposits 139,762 123,984 115,906 106,129 96,758
Stockholders' equity 16,182 14,837 13,908 12,135 12,297
Average shares outstanding 776 773 771 771 768
Performance Ratios:
Return on average assets 1.07% 1.06% 1.03% 0.91% 1.28%
Return on average equity 10.41% 10.36% 10.28% 8.66% 11.94%
Dividend payout 39.71% 37.19% 35.19% 38.50% 26.66%
Capital and Liquidity Ratios
Leverage 9.99% 10.43% 10.70% 11.19% 11.42%
Risk-based capital ratios:
Tier 1 capital 14.20% 15.58% 16.46% 17.89% 20.70%
Total capital 15.19% 16.60% 17.53% 19.27% 21.95%
Table 2 Average Balances, Income and Expense, Yields and Rates
Twelve Months Ended December 31,
1997 1996
Annual Annual
Average Income/ Yield/ Average Income/ Yield/
Balance Expense Rate Balance Expense Rate
ASSETS
Balances at correspondent banks
- interest bearing $188,336 $27,828 14.78% $174,458 $24,626 14.12%
Securities:
Taxable 29,820,396 1,890,375 6.34% 26,455,493 1,640,495 6.20%
Tax-exempt (1) 6,364,538 540,538 8.49% 6,635,704 580,583 8.75%
------------ ---------- ----------- ----------
Total Securities 36,184,934 2,430,913 6.72% 33,091,197 2,221,078 6.71%
Loans (net of earned income): (2)
Taxable 104,602,121 9,608,529 9.19% 94,213,894 8,641,278 9.17%
Tax-exempt (1) 233,177 27,171 11.65% 647,870 68,764 10.61%
-------------- ------------ ------------ -----------
Total Loans 104,835,298 9,635,700 9.19% 94,861,764 8,710,042 9.18%
Federal funds sold and repurchase
agreements 1,359,677 72,338 5.32% 1,845,432 98,316 5.33%
Total earning assets 142,568,245 12,166,779 8.53% 129,972,851 11,054,062 8.50%
Less: allowance for Loan Losses (1,037,732) (949,853)
Total nonearning assets 9,356,074 8,225,868
--------------- -------------
Total Assets $150,886,587 $137,248,866
============ =============
LIABILITIES AND SHAREHOLDER EQUITY
Interest bearing deposits:
Checking $9,319,003 $207,523 2.23% $9,949,675 $218,001 2.19%
Money market savings 7,467,943 252,551 3.38% 7,533,802 254,996 3.38%
Regular savings 43,739,949 2,171,628 4.96% 32,582,668 1,515,184 4.65%
Certificates of deposit:
Less than $100,000 43,408,723 2,304,884 5.31% 45,093,776 2,398,451 5.32%
$100,000 and more 12,334,619 677,710 5.49% 11,182,450 609,303 5.45%
---------- ------- ---------- -------
Total interest bearing deposits 116,270,237 5,614,296 4.83% 106,342,371 4,995,935 4.70%
Fed funds purchased 276,025 19,612 7.11% 44,396 2,799 6.30%
FHLB borrowings 1,685,539 104,182 6.18% 1,495,687 98,241 6.57%
------------- ------- ------------ -----------
Total interest bearing liabilities 118,231,801 5,738,090 4.85% 107,882,453 5,096,975 4.72%
--------- ---------
Noninterest bearing liabilities
Demand deposits 16,260,497 14,323,879
Other liabilities 916,236 992,066
------------- -------------
Total liabilities 135,408,534 123,198,399
Stockholders' equity 15,478,053 14,050,467
------------ ------------
Total liabilities and
stockholders' equity $150,886,587 $137,248,866
============ =============
Net Interest income $6,428,689 $5,957,087
========== ==========
Interest rate spread 3.68% 3.78%
Interest expense as a percent of average
earning assets 4.02% 3.92%
Net interest margin 4.51% 4.58%
(1) Income and yields are reported on a taxable-equivalent basis assuming a
federal tax rate of 34% in 1997 and 1996.
(2) Loans placed on a nonaccrual status are reflected in the balances.
Table 3 - Volume and Rate analysis
1997 1996
Change in Change in
Volume Rate Income/ Volume Rate Income/
Effect Effect Expense Effect Effect Expense
Earning Assets:
Due From Banks $ 2,017 $ 1,185 $ 3,202 $ (2,590) $ 14,572 $ 11,982
Taxable Securities 212,206 37,674 249,880 (550,420) 171,482 (378,938)
Tax-Exempt Securities (23,186) (16,859) (40,045) 168,140 (26,783) 141,357
Taxable Loans 948,490 18,761 967,251 1,240,139 (110,081) 1,129,058
Tax-Exempt Loans (49,114) 7,521 (41,593) (10,971) 985 (9,986)
Federal Funds Sold and
Repurchase Agreements (25,794) (184) (25,978) 45,639 (4,037) 41,602
-------- --------- -------- ---------- -------- ---------
Total Earning Assets $ 1,064,619 $ 48,098 $ 1,112,717 889,937 $ 45,158 $ 935,075
----------- -------- ------------ ---------- -------- ---------
Interest Bearing Liabilities:
Interest Checking $ (14,719) $ 4,241 $ (10,478) $27,495 $(33,194) $(5,699)
Savings Deposits-
Regular 549,469 106,975 656,444 (4,434) (7,456) (11,890)
Money Market (2,445) 0 (2,445) 426,222 (9,278) 416,944
CD's and Other Time Deposits
$100,000 and More 63,858 4,549 68,407 (124,371) 28,563 (95,808)
Less Than $100,000 (89,086) (4,481) (93,567) 105,947 (10,737) 95,210
-------- ------- -------- ---------- -------- --------
Total Interest-
Bearing Deposits $ 507,077 $ 111,284 $ 618,361 $ 430,859 $ (32,102) $ 398,757
Fed Funds Purchased 16,409 404 16,813 (127,081) (341) (127,422)
FHLB Borrowings 11,160 (5,219) 5,941 92,828 276 93,104
-------- ------- --------- ---------- --------- ---------
Total Interest-
Bearing Liabilities $ 534,646 $ 106,469 $ 641,115 $ 396,606 $ (32,167) $ 364,439
--------- --------- --------- --------- ---------- ---------
Change in
Net Interest Income $ 529,973 $ (58,371) $ 471,602 $ 493,331 $ 71,305 $ 570,636
========= ========== ========= ========= ======== =========
Financial Condition
General. Management's plan to aggressively increase the size of the
loan portfolio continued in 1997. Loans, net of unearned discounts and allowance
for loan losses, increased $14.1 million or 14.3% from $98.4 million in 1996 to
$112.5 million in 1997. This growth in loans was reflected in a 16.46% increase
in assets during the year. Assets began the year at $141.3 million and grew
$23.3 million to $164.6 million by year end.
Loans. The Bank is an active lender with a loan portfolio which
includes commercial and residential mortgages, commercial loans, consumer loans,
both installment and credit card, real estate construction loans and home equity
loans. The Bank's lending activity is concentrated on individuals and small to
medium sized businesses in its primary trade area of the Virginia counties of
Shenandoah, Warren, Frederick and the City of Winchester. As a provider of
community oriented financial services, the Bank does not attempt to
geographically diversify its loan portfolio by undertaking significant lending
activity outside its primary trade area.
The Bank's loan portfolio is summarized in table 4 for the periods
indicated.
Table 4 - Loan Portfolio
Loans at December 31, 1997 and 1996 are summarized as follows
1997 1996
---- ----
(thousands)
Commercial, Financial, and Agricultural $20,223 $14,318
Real Estate Construction 3,583 2,127
Real Estate-Mortgage:
Residential (1-4 Family) 45,133 43,615
Non-Farm. Non-Residential 17,126 16,959
Secured by Farmland 947 993
Consumer 26,574 21,397
All Other Loans 461 1,075
----------- -----------
Total Loans $114,047 $100,484
Less Unearned Income 441 1,089
------------ -----------
Loans-Net of Unearned Income $113,606 $99,395
======== =======
As shown in Table 4 above the total amount of commercial, financial and
agricultural loans increased $5.9 million in 1997. Residential real estate
mortgage loans increased $1.5 million in 1997 after increasing $1.4 million in
1996. Non-farm, non residential mortgage loans also increased in 1997 by $0.2
million and in 1996 by $3.4 million. The growth in the consumer loan area
continued in 1997 with an increase of $5.2 million which was more than the
increase of $1.1 million in 1996.
There were no category of loans that exceeded 10% of outstanding loans
at December 31, 1997 which were not disclosed in Table 4.
Table 5 Remaining Maturities of Selected Loans
At December 31, 1997
Commercial
Financial, and Real Estate
Agricultural Construction
(Dollars in Thousands)
Within 1 Year: $ 6,233 $ 3,583
------- -------
Variable Rate:
1 to 5 Years $ 955 $ - -
After 5 Years 68 - -
---------- ---------
Total $ 1,023 $ - -
------- -------
Fixed Rate:
1 to 5 Years $ 11,374 $ - -
After 5 Years 1,593 - -
--------- -------
Total $ 12,967 $ - -
-------- -------
Total Maturities $ 20,223 $ 3,583
======== =======
Asset Quality. The Allowance for Loan Losses ("ALL") balance at
December 31, 1997 was $1,112,318, representing 0.975% of total loans and 118% of
non-performing assets. At December 31, 1996, these amounts were 0.98% and 115%.
These amounts were 1.04% and 97.5% at December 31, 1995.
Total losses charged against the ALL in 1997 were $97,008 compared to
$62,825 in 1996, and $289,687 in 1995. The losses in 1995 were due to a $200,000
charge off resulting from the Bank's receiving real estate by deed in lieu of
foreclosure. Recoveries, consisting of the recovery of principal on loans
previously charged against the allowance, totaled $14,914 in 1997, $ 16,425 in
1996, and $35,395 in 1995.
Management believes, based upon its review and analysis, that the Bank
has sufficient reserves to cover any projected losses within the total loan
portfolio.
Allowance for Loan Losses. Changes in the allowance for loan and lease
losses are detailed in Table 6.
Table 6 - Allowance For Loan Losses
(in thousands of dollars)
At December 31,
1997 1996
Balance, Beginning of Period $974 $ 901
Loans Charged-Off
Commercial, Financial and Agricultural 5 8
Real Estate-Construction -- --
Real Estate-Mortgage
Residential (1-4 Family) -- 11
Non-Farm, Non Residential -- --
Secured by Farmland -- --
Consumer 92 44
All Other Loans -- --
------ ------
Total Loans Charged Off 97 63
------ ------
Recoveries
Commercial, Financial and Agricultural 2 1
Real Estate-Construction -- --
Real Estate-Mortgage
Residential (1-4 Family) 1 11
Non-Farm, Non-Residential -- --
Secured by Farmland -- --
Consumer 12 40
All Other Loans -- --
------ ------
Total Recoveries 15 16
------ ------
Net Charge-Offs (Recoveries) 82 47
Provision For Loan Losses 220 120
------ ------
Balance, End of Period $1,112 $974
====== ====
Ratio of net charge-offs (recoveries) during the period
to average loans outstanding during the period 0.08% 0.05%
For each period presented, the provision for loan losses charged to
operating expense was based on management's judgement after taking into
consideration all factors connected with the collectability of the existing
portfolio. Management considers economic conditions, changes in the nature and
value of the portfolio, industry standards and other relevant factors when
evaluating the loan portfolio. Specific factors considered by management when
determining the amount to be provided included internally generated loan quality
reports which analyze each problem loan to estimate amounts of probable loss and
previous loss experience with various loan categories.
Table 7 shows the balance and percentage of the Bank's allowance for
loan losses allocated to each major category of loans.
Table 7 Allocation of Allowance For Loan Losses
1997 1996
---- ----
Percent of Percent of
Loans in Each Loans in Each
Category to Category to
Allowance Total Loans Allowance Total Loans
--------- ----------- --------- ------------
(Dollars in Thousands)
Commercial, Financial
And Agricultural $401 17.73% $417 14.25%
Real Estate-Construction -- 3.14% 5 2.12%
Real Estate-Mortgage 390 55.43% 177 61.27%
Consumer 309 23.30% 302 21.29%
All Other 12 0.40% 33 1.07%
Unallocated -- -- 40 --
------- ------- ----- -------
$ 1,112 100.00% $ 974 100.00%
======= ======= ===== =======
Non-Performing Assets. Management classifies as non-performing both
those loans on which payment has been delinquent 90 days or more and for which
there is a risk of loss to either principal or interest, and Other Real Estate
Owned. Other Real Estate Owned represents real property taken by the Bank either
through foreclosure or through a deed in lieu thereof from the borrower. Other
Real Estate Owned is booked at the lower of cost or market less estimated
selling costs, and is actively marketed by the Bank through brokerage channels.
Non-accrual loans totaled $23,642 at year end, representing 0.021% of
the net loan portfolio. These numbers increased from the 1996 balance of $12,827
or 0.013% of the net loan portfolio. The Bank has allocated a portion of the
Allowance for Loan Losses to cover anticipated losses from these loans and is
included in Table 7 above.
When a loan is placed on non-accrual status there are several negative
implications as a result. First, all interest accrued but unpaid at the time of
the classification is deducted from the interest income totals for the Bank.
Second, accruals of interest are discontinued until it becomes certain that both
principal and interest can be repaid. Third, there may be actual losses which
necessitate additional provisions for credit losses charged against earnings.
For the fiscal year 1997 interest income not recognized on non-accrual loans
amounted to $3,490
Table 8 Non-Performing Assets
At December 31,
1997 1996
---- ----
(Dollars in Thousands)
Nonaccrual Loans $ 23 $ 13
Restructured Loans 37 32
Foreclosed Property 919 804
------- -------
Total Nonperforming Assets $ 979 $ 849
===== =====
Loans Past Due 90 Days Accruing Interest $717 $418
Allowance for Loan Losses to Period End Loans 0.98% 0.98%
Nonperforming Assets to Period End Loans 0.86% 0.84%
and foreclosed Properties
Net Charge-Offs (Recoveries) to Average Loans 0.08% 0.05%
Securities. The Company adopted FASB No. 115, "Accounting for Certain
Investments in Debt and Equity Securities" effective beginning January 1, 1994.
The Company reclassified its securities portfolio into those securities that
would be held to maturity and those that were available for sale. The securities
that were classified as available for sale were recorded at fair value in
accordance with FASB No. 115 and the Company recognized the effect of unrealized
gains/losses net of tax effects in stockholders' equity.
Table 9 summarizes the carrying value of the Company's securities
portfolio on the dates indicated.
Table 9 Securities Portfolio
Years Ended December 31
(Dollars in Thousands)
1997 1996
---- ----
Book Value:
Securities Held to Maturity
U.S. Government Securities $1,662 $3,033
States and Political Subdivisions 0 0
------ ------
Total Securities Held to Maturity $1,662 $3,033
====== ======
Securities Available for Sale
U.S. Government Securities $32,162 $23,089
States and Political Subdivisions 6,785 6,559
Other Securities 1,090 1,061
------- -------
Total Securities Available for Sale $40,037 $30,709
======= =======
Total Securities $41,699 $33,742
======= =======
Amount and Average Yield of Securities at December 31, 1997
Over Ten Years
One Year or One to Five Five to Ten And Equity
Less Years Years Securities Total
Held to Maturity Securities
U.S. Government Securities
Amortized Cost 0 497 1,165 0 1,662
Market Value 0 497 1,165 0 1,662
Weighted Ave. Yield 0.00% 5.29% 5.11% 0.00%
Available for Sale Securities
U.S. Government Securities
Amortized Cost 1,000 14,749 12,939 3,273 31,961
Market Value 1,001 14,879 12,979 3,303 32,162
Weighted Ave. Yield 5.75% 6.58% 6.33% 6.64%
State and Political Subdivisions
Amortized Cost 370 623 2,088 3,397 6,478
Market Value 376 642 2,199 3,568 6,785
Weighted Ave. Yield (1) 9.23% 9.21% 7.25% 7.57%
Other Securities
Amortized Cost 0 0 0 1,090 1,090
Market Value 0 0 0 1,090 1,090
Weighted Ave. Yield 0.00% 0.00% 0.00% 5.07%
Total Portfolio
Amortized Cost 1,370 15,868 16,193 7,760 41,191
Market Value 1,377 16,017 16,343 7,961 41,699
Weighted Ave. Yield (1) 6.69% 6.64% 6.36% 6.82%
(1) Yields on tax exempt securities have been computed on a tax-equivalent
basis.
As of December 31, 1997, neither the Company nor the Bank held any
derivative financial instruments in their respective investment security
portfolios.
Deposits. The Bank has made an effort in recent years to increase core
deposits and reduce costs of funds. Deposits provide funding for the Company's
investments in loans and securities, and the interest paid for deposits must be
managed carefully to control the level of interest expense.
Deposits at December 31, 1997 were $139.8 million, an increase of $15.7
million or 12.63% from $124.1 million at December 31, 1996. This increase was
concentrated in Savings Accounts which increased $15.3 million and was caused by
growth in floating rate money market savings account during the year. Large
local government deposits on which rates were set by competitive bid caused an
increase in Certificates of Deposit with balances equal to or in excess of $100
thousand.
The following tables are a summary of average deposits and average
rates paid.
Table 10 Average Deposits and Rates Paid
December 31,
1997 1996
(Dollars in Thousands)
Amount Rate Amount Rate
Noninterest Bearing Deposits $16,053 -- $14,324 --
Interest Bearing Deposits
Interest Checking $9,319 2.23% $9,950 2.19%
Money-Market 7,468 3.38% 7,534 3.38%
Regular Savings 43,740 4.96% 32,583 4.65%
Time Deposits
Less than $100,000 43,409 5.31% 45,094 5.32%
$100,000 and more 12,334 5.49% 11,182 5.45%
Total Interest Bearing $116,270 4.83% $106,343 4.70%
Total $132,530 $120,667
Maturities of CD's of $100,000 and More
Within Three to Six to Over
Three Six Twelve One
Months Months Months Year Total
At December 31, 1997 $6,039 $993 $1,262 $3,949 $12,243
Liquidity. Liquidity represents an institutions ability to meet present
and future financial obligations through either the sale or maturity of existing
assets or the acquisition of additional funds through liability management.
Liquid assets include cash, interest-bearing deposits with banks, federal funds
sold, investments in Treasury securities, and loans maturing within one year. As
a result of the Bank's management of liquid assets and the ability to generate
liquidity through liability funding, management believes that the Bank maintains
overall liquidity sufficient to satisfy its depositors' requirements and to meet
its customers' credit needs.
At December 31, 1997, cash, interest bearing and non-interest bearing
deposits with banks, federal funds sold, investments in Treasury securities, and
loans maturing within one year were $39.6 million. As of December 31, 1997,
approximately 33.095% or $37.7 million of the loan portfolio would mature or
reprice within a one year period.
Non-deposit sources of funds in use at December 31, 1997 consisted of
two Federal Home Loan Bank advances and federal funds purchased. Both Federal
Home Loan Bank advances were draws by the Bank against its line at the Federal
Home Loan Bank of Atlanta with one having an original balance of $1.5 million
bearing interest at 6.25% with a maturity of December 12, 2005, and the other
having an original balance of $5 million bearing interest of 5.58% with an
ultimate maturity of December 16, 2002. Security for both advances consists of
qualifying real estate loans and Federal Home Loan Bank Stock. These advances
were used to fund growth in the loan portfolio.
Capital Resources. The adequacy of the Company's capital is reviewed by
management on an ongoing basis with reference to the size, composition, and
quality of the Company's asset and liability levels and consistent with
regulatory requirements and industry standards. Management seeks to maintain a
capital structure that will assure an adequate level of capital to support
anticipated asset growth and absorb potential losses.
The Board of Governors of the Federal Reserve System has adopted
capital quidelines to supplement the existing definitions of capital for
regulatory purposes and to establish minimum capital standards. Specifically,
the guidelines categorize assets and off-balance sheet items into four risk
weighted categories. The minimum ratio of qualifying total capital to
risk-weighted assets is 8.0%, of which at least 4.0% must be tier 1 capital,
composed of common equity, retained earnings and a limited amount of perpetual
preferred stock, less certain goodwill items. The Company had a ratio of
risk-weighted assets to total capital of 15.19% at December 31, 1997 and a ratio
of risk-weighted assets to Tier 1 capital of 14.20%. Both of these exceed the
capital requirements adopted by the federal regulatory agencies.
Table 11 Analysis of Capital
Year End December 31,
1997 1996
(Dollars in Thousands)
Tier 1 Capital
Common Stock $3,888 $3,872
Surplus 1,187 1,133
Retained Earnings 10,772 9,801
Total Tier 1 Capital $15,847 $14,806
Tier 2 Capital:
Allowance for Loan Losses (1) 1,112 974
Total Risk Based Capital $16,959 $15,780
Risk-Weighted Assets $111,572 $95,050
Capital Ratios:
Tier 1 Risk-Based Capital Ratio 14.2% 15.6%
Total Risk-Based Capital Ratio 15.2% 16.6%
Tier 1 Capital to Average Total Assets 10.0% 10.4%
- --------------
(1) Limited to 1.25% of risk weighted assets.
New Accounting Pronouncements. FASB Statement No. 125, "Accounting for
Transfers and Servicing of Financial Assets and Extinguishment of Liabilities"
was issued in June, 1996 and establishes, among other things, new criteria for
determining whether a transfer of financial assets in exchange for cash of other
consideration should be accounted for as a sale or as a pledge of collateral in
a secured borrowing. Statement 125 also establishes new accounting requirements
for pledged collateral. As issued, Statement 125 is effective for all transfers
and servicing of financial assets and extinguishments of liabilities occurring
after December 1996.
FASB Statement No. 127, "Deferral of the Effective Date of Certain
Provisions of FASB Statement No. 125", defers for one year the effective date
(a) paragraph 15 of Statement 125 and (b) for repurchase agreement, dollar-roll,
securities lending, or similar transactions, of paragraph 9-12 of Statement 125.
During June 1997, the FASB issued FASB No. 130, "Reporting
Comprehensive Income." This pronouncement established standards for reporting
and display of comprehensive income and its components (revenues, expenses,
gains and losses) in a full set of general purpose financial statements. FASB
No. 130 is effective for financial statements beginning after December 15, 1997.
Additionaly during June of 1997, the FASB issued FASB No. 131,
"Disclosures about Segments of an Enterprise and Related Information." FASB No.
131 establishes standards for the way that public enterprises report information
about operating segments in annual financial statements and requires that those
enterprises report selected information about operating segments in interim
financial reports issued to shareholders. It also establishes standards for
related disclosures about products and services, geographic areas and major
customers. This statement becomes effective for financial statements for periods
beginning after December 31, 1997.
The effects of these Statements on the Company's consolidated financial
statements are not expected to be material.
Item 8. Financial Statements and Supplementary Data
Pursuant to General Instruction G(2), information required by this Item
is incorporated by reference from pages 6 to 21 of the Company's Annual Report
to Shareholders for the fiscal year ended December 31, 1997.
Item 9. Change in and Disagreements with Accountants on Accounting and
Financial Disclosure
None
PART III
Item 10. Directors and Executive Officers of the Registrant
Pursuant to General Instruction G(3), the information called for this
Item is incorporated herein by reference from pages 2, 3, 5 and 6 of the
Company's proxy statement dated February 27, 1998, for the Company's Annual
Meeting of Shareholders held April 7, 1998.
Item 11. Executive Compensation
Pursuant to General Instruction G(3), the information called for this
Item is incorporated herein by reference from pages 6 and 7 of the Company's
proxy statement dated February 27, 1998 for the Company's Annual Meeting of
Shareholders held April 7, 1998.
Item 12. Security Ownership of Certain Beneficial Owners and Management
Pursuant to General Instruction G(3), the information called for this
Item is incorporated herein by reference from pages 4 and 5 of the Company's
proxy statement dated February 27, 1998, for the Company's Annual Meeting of
Shareholders held April 7, 1998.
Item 13. Certain Relationships and Related Transactions
Pursuant to General Instruction G(3), the information called for this
Item is incorporated herein by reference from page 7 of the Company's proxy
statement dated February 27, 1998, for the Company's Annual Meeting of
Shareholders held April 7, 1998.
PART IV
Item 14. Exhibits, Financial Statement, Schedules and Reports on Form 8-K
(a) The following documents required in Part II, Item 8, are incorporated by
reference to pages 6 through 21 of the Company's Annual Report to
Shareholders for the fiscal year ended December 31, 1997:
1. Financial Statements Page
Report of Independent Certified Public Accountants 6
First National Corporation and Subsidiaries:
Consolidated Balance Sheets at December 31, 1997 and 1996 7
Consolidated Statements of Income for years ended
December 31, 1997, 1996 and 1995 8
Consolidated Statements of Cash Flows for the years
ended December 31, 1997, 1996 and 1995 9 and 10
Consolidated Statements of Changes in Stockholders'
Equity for years ended December 31, 1997, 1996 and 1995 11
Notes to Financial Statements 12 - 21
2. Financial Statement schedules
All schedules are omitted because of the absence of conditions under
which they are required or because the required information is given in
the financial statements or notes thereto.
3. Exhibits
The following documents are attached hereto or incorporated herein by reference
as Exhibits:
3.1 Articles of Incorporation, including amendments thereto (incorporated
herein by reference to Exhibit 2 to the Registrant's form 10 filed with
the SEC on May 2, 1994).
3.2 Bylaws (incorporated herein by reference to Exhibit 3 to the
Registrant's Form 10 filed with the SEC on May 2, 1994).
4.1 Specimen of Registrant's Common Stock Certificate (incorporated herein
by reference to Exhibit 1 to the Registrant's Form 10 filed with SEC on
May 2, 1994).
13.1 Registrant's Annual Report to Shareholders for the year ended December
31, 1997.
21.1 Subsidiaries of the Registrant (incorporated herein by reference to
Exhibit 1 to the Registrant's Form 10 filed with SEC on May 2, 1994).
27 Financial Data Schedule
(b) Reports on Form 8-K
No Reports on Form 8-K were filed during the quarter ended December 31,
1997.
With the exception of the information herein expressly incorporated by
reference, the 1997 Annual Report to Shareholders and the 1997 Proxy Statement
of the Registrant are not to be deemed filed as part of this Annual Report on
Form 10-K.
Signatures
Pursuant to the requirements of Section 13 or 15(d) of the Securities
and 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
Strasburg, Virginia
by /S/ Ronald F. Miller
--------------------------------
Ronald F. Miller, President
Pursuant to the requirements of the Securities Exchange Act of 1934, this report
has been signed by the following persons on behalf of the registrant and in the
capacities and on the dates indicated.
Name Title Date
/S/ Ronald F. Miller President and March 18, 1998
- ------------------------------- Chief Executive Officer
Ronald F. Miller Director
/S/ Dana A. Froom Comptroller and Chief March 18, 1998
- ------------------------------- Accounting Officer
Dana A. Froom
/S/ Noel M. Borden Chairman of the Board March 18, 1998
- ------------------------------- Director
Noel M. Borden
/S/ Douglas C. Arthur Vice Chairman of the Board March 18, 1998
- -------------------------------- Director
Douglas C. Arthur
/S/ Dr. Byron A. Brill Director March 18, 1998
- -------------------------------- Director
Dr. Byron A. Brill
/S/ Elizabeth H. Cottrell Director March 18, 1998
- -------------------------------
Elizabeth H. Cottrell
/S/ Christopher E. French Director March 18, 1998
- -------------------------------
Christopher E. French
/S/ Charles E. Maddox, Jr. Director March 18, 1998
- -------------------------------
Charles E. Maddox, Jr.
/S/ W. Allen Nicholls Director March 18, 1998
- -------------------------------
W. Allen Nicholls
/S/ Henry L. Shirkey Director March 18, 1998
- -------------------------------
Henry L. Shirkey