UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D. C. 20549
FORM 10-Q
Quarterly Report Under Section 13 or 15(d)
of the Securities Exchange Act of 1934
For the quarter ended Commission File No. 0-16761
September 30, 2000
HIGHLANDS BANKSHARES, INC.
West Virginia 55-0650793
- ----------------------------------- ---------------
(State or Other Jurisdiction of (I.R.S. Employer
Incorporation or Organization) Identification No.)
P. O. Box 929
Petersburg, West Virginia 26847
(304) 257-4111
---------------------
(Registrant's Telephone Number, Including Area Code)
Indicate by check mark whether the registrant (1) filed all reports required
to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during
the past 12 months (or for such shorter period that the registrant was required
to file such reports), and (2) has been subject to such filing requirement for
the past 90 days. Yes ..X. No ....
State the number of shares outstanding of each of the issuer's classes of
common equity, as of the latest practicable date.
Class Outstanding at September 30, 2000
- ---------------------------------------- ---------------------------------
Common Stock, par value - $5 501,898 shares
1
HIGHLANDS BANKSHARES, INC.
INDEX
Page
PART I FINANCIAL INFORMATION 2
Item 1. Financial Statements
Consolidated Statements of Income - Nine Months Ended
September 30, 2000 and 1999 2
Consolidated Statements of Income - Three Months Ended
September 30, 2000 and 1999 3
Consolidated Balance Sheets - September 30, 2000 and
December 31, 1999 4
Consolidated Statements of Changes in Stockholders' Equity -
Nine Months Ended September 30, 2000 and 1999 5
Consolidated Statements of Cash Flows - Nine Months Ended
September 30, 2000 and 1999 6
Notes to Consolidated Financial Statements 7
Item 2. Management's Discussion and Analysis of
Financial Condition and Results of Operations 10
PART II OTHER INFORMATION 19
Item 1. Legal Proceedings 19
Item 2. Changes in Securities 19
Item 3. Defaults upon Senior Securities 19
Item 4. Submission of Matters to a Vote of Security Holders 19
Item 5. Other Information 19
Item 6. Exhibit and Reports on Form 8K 19
SIGNATURES 21
2
Part I Financial Information
Item 1 Financial Statements
HIGHLANDS BANKSHARES, INC.
CONSOLIDATED STATEMENTS OF INCOME
(In Thousands of Dollars)
Nine Months Ended
September 30,
2000 1999
---------- -------
Interest Income
Interest and fees on loans $11,561 $10,096
Interest on federal funds sold 214 354
Interest on time deposits 137 158
Interest and dividends on investment securities
Taxable 1,245 1,347
Nontaxable 128 129
------ ------
Total Interest Income 13,285 12,084
------ ------
Interest Expense
Interest on time deposits over $100,000 1,330 1,130
Interest on other deposits 4,878 4,508
Interest on borrowed money 141 104
------ ------
Total Interest Expense 6,349 5,742
------ ------
Net Interest Income 6,936 6,342
Provision for Loan Losses 310 220
------ ------
Net Interest Income after Loan Losses 6,626 6,122
------ ------
Noninterest Income
Service charges 439 272
Other 392 324
Investment security gains 4
------ ------
Total Noninterest Income 831 600
------ ------
Noninterest Expense
Salaries and employee benefits 2,671 2,352
Occupancy expense 223 201
Equipment expense 424 321
Data processing expense 373 345
Other 1,173 1,041
------ ------
Total Noninterest Expense 4,864 4,260
------ ------
Income before Income Taxes 2,593 2,462
Provision for Income Taxes 939 841
------ ------
Net Income $ 1,654 $ 1,621
====== ======
Per Share Data
Net Income $ 3.30 $ 3.23
======= =======
Cash Dividends $ .93 $ .87
======= =======
Weighted Average Common Shares Outstanding 501,898 501,898
======= =======
The accompanying notes are an integral part of these statements.
3
HIGHLANDS BANKSHARES, INC.
CONSOLIDATED STATEMENTS OF INCOME
(In Thousands of Dollars)
Three Months Ended
September 30,
2000 1999
Interest Income
Interest and fees on loans $ 4,144 $ 3,471
Interest on federal funds sold 83 85
Interest on time deposits 52 48
Interest and dividends on investment securities
Taxable 413 443
Nontaxable 45 43
------ ------
Total Interest Income 4,737 4,090
------ ------
Interest Expense
Interest on time deposits over $100,000 491 390
Interest on other deposits 1,742 1,482
Interest on borrowed money 73 36
------ ------
Total Interest Expense 2,306 1,908
------ ------
Net Interest Income 2,431 2,182
Provision for Loan Losses 90 85
------ ------
Net Interest Income after Loan Losses 2,341 2,097
------ ------
Noninterest Income
Service charges 154 101
Other income 130 123
Investment security gains 1
------ ------
Total Noninterest Income 284 225
------ ------
Noninterest Expense
Salaries and employee benefits 908 813
Occupancy expense 74 64
Equipment expense 144 106
Data processing 122 124
Other 406 350
------ ------
Total Noninterest Expense 1,654 1,457
------ ------
Income before Income Taxes 971 865
Provision for Income Taxes 356 285
------ ------
Net Income $ 615 $ 580
====== ======
Per Share Data
Net Income $ 1.23 $ 1.16
======= =======
Cash Dividends $ .31 $ .29
======= =======
Weighted Average Common Shares Outstanding 501,898 501,898
======= =======
The accompanying notes are an integral part of these statements.
4
HIGHLANDS BANKSHARES, INC.
CONSOLIDATED BALANCE SHEETS
(In Thousands of Dollars)
September 30,December 31,
2000 1999
--------------------
ASSETS
Cash and due from banks - noninterest bearing $ 5,922 $ 7,312
Time deposits in other banks 2,195 2,436
Federal funds sold 5,563 2,703
Securities held to maturity (note 2) 2,796 3,176
Securities available for sale (note 3) 25,738 25,893
Other investments 763 746
Loans, net of unearned interest (note 4) 184,301 166,614
Less allowance for loan losses (note 5) (1,556) (1,318)
Bank premises and equipment 6,534 5,691
Interest receivable 1,936 1,628
Investment in insurance contracts (note 6) 4,800 4,662
Other assets 1,005 938
------- -------
Total Assets $239,997 $220,481
======= =======
LIABILITIES
Deposits:
Noninterest bearing
Demand deposits $ 24,692 $ 21,085
Interest bearing
Money market and checking 16,059 18,102
Money market savings 11,411 13,391
Savings 23,750 21,330
Time deposits over $100,000 32,754 28,529
All other time deposits 99,086 89,908
------- -------
Total Deposits 207,752 192,345
Borrowed money 4,644 2,568
Accrued expenses and other liabilities 2,052 1,344
------- -------
Total Liabilities 214,448 196,257
------- -------
STOCKHOLDERS' EQUITY
Common stock ($5 par value, 1,000,000 shares
authorized, 546,764 shares issued) 2,734 2,734
Surplus 1,662 1,662
Retained earnings 22,254 21,067
Accumulated other comprehensive loss (108) (246)
------- -------
26,542 25,217
Treasury stock (at cost, 44,866 shares in
2000 and 1999) (993) (993)
------- -------
Total Stockholders' Equity 25,549 24,224
------- -------
Total Liabilities and Stockholders' Equity $239,997 $220,481
======= =======
The accompanying notes are an integral part of these statements.
5
HIGHLANDS BANKSHARES, INC.
CONSOLIDATED STATEMENTS OF CHANGES IN STOCKHOLDERS' EQUITY
(In Thousands of Dollars)
Accumulated
Other
Common Retained Comprehensive Treasury
Stock Surplus Earnings Income (Loss) Stock Total
Balance, December 31,
1999 $2,734 $1,662 $21,067 $ (246) $ (993) $24,224
Comprehensive Income
Net Income 1,654 1,654
Net change in unrealized
appreciation on
investment securities
available for sale,
net of taxes 138 138
-----
Total Comprehensive
Income Dividends 1,792
paid (467) (467)
----- ----- ----- ----- ----- -----
Balances, September 30,
2000 $2,734 $1,662 $22,254 $ (108) $ (993) $25,549
===== ===== ====== ===== ===== ======
Accumulated
Other
Common Retained Comprehensive Treasury
Stock Surplus Earnings Income (Loss) Stock Total
Balance, December 31,
1998 $2,734 $1,662 $19,324 $ 119 $ (993) $22,846
Comprehensive Income
Net Income 1,621 1,621
Net change in
unrealized appreciation
(depreciation) on
investment securities
available for sale,
net of taxes (304) (304)
-----
Total Comprehensive
Income Dividends 1,317
paid (437) (437)
----- ----- ----- ----- ----- -----
Balances, September 30,
1999 $2,734 $1,662 $20,508 $ (185) $ (993) $23,726
===== ===== ====== ===== ===== ======
The accompanying notes are an integral part of these statements.
6
HIGHLANDS BANKSHARES, INC.
CONSOLIDATED STATEMENTS OF CASH FLOWS
(In Thousands of Dollars)
Nine Months Ended
September 30,
2000 1999
---------- -------
Cash Flows from Operating Activities:
Net income $ 1,654 $ 1,621
Adjustments to reconcile net income to net
cash provided by operating activities:
Investment securities gains (4)
Depreciation 352 268
Income from insurance contracts (138) (97)
Net security amortization 32 131
Provision for loan losses 310 220
Increase in interest receivable (308) (118)
(Increase) Decrease in other assets (147) 46
Increase in accrued expenses 708 141
-------- --------
Net Cash Provided by Operating Activities 2,463 2,208
-------- --------
Cash Flows from Investing Activities:
Net change in federal funds sold (2,860) 5,963
Proceeds from maturities of securities
available for sale 5,743 12,444
Proceeds from maturities of securities
held to maturity 386 268
Purchase of other investments (17) (15)
Net change in time deposits in other banks 241 (112)
Purchase of securities available for sale (5,408) (9,845)
Net change in loans to customers (17,759) (12,334)
Purchase of property and equipment (1,206) (915)
Proceeds from sale of property and equipment 11
Investment in insurance contracts (2,398)
-------- --------
Net Cash Consumed by Investing Activities (20,869) (6,944)
-------- --------
Cash Flows from Financing Activities:
Net increase in deposits 15,407 4,936
Increase in other borrowed money 2,076 248
Payment of dividends (467) (437)
-------- --------
Net Cash Provided by Financing Activities 17,016 4,747
-------- --------
Net Increase (Decrease) in Cash and Cash Equivalents (1,390) 11
Cash and Cash Equivalents, Beginning of Period 7,312 5,112
-------- --------
Cash and Cash Equivalents, End of Period $ 5,922 $ 5,123
======== ========
Supplementary Disclosures:
Cash paid for:
Income taxes $ 808 $ 877
Interest expense 6,063 5,738
The accompanying notes are an integral part of these statements.
7
HIGHLANDS BANKSHARES, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE 1 ACCOUNTING PRINCIPLES:
The consolidated financial statements conform to generally accepted
accounting principles and to general industry practices. In the
opinion of management, the accompanying unaudited consolidated
financial statements contain all adjustments (consisting of only
normal recurring accruals) necessary to present fairly the financial
position as of September 30, 2000, and the results of operations for
the nine and three month periods ended September 30, 2000 and 1999.
The notes included herein should be read in conjunction with the notes
to financial statements included in the 1999 annual report to
stockholders of Highlands Bankshares, Inc.
NOTE 2 SECURITIES HELD TO MATURITY:
The amortized cost and market value of securities held to maturity
as of September 30, 2000 and December 31, 1999, are as follows:
2000 1999
Amortized Market Amortized Market
Cost Value Cost Value
---------- ------- ---------- ------
US Treasury securities and
obligations of US government
corporations and agencies $ 155 $ 154 $ 340 $ 340
Obligations of states and
political subdivisions 2,641 2,630 2,836 2,836
------ ------ ----- ------
Total $ 2,796 $ 2,784 $3,176 $ 3,176
====== ====== ===== ======
NOTE 3 SECURITIES AVAILABLE FOR SALE:
The amortized cost and market value of securities available for
sale as of September 30, 2000 and December 31, 1999, are as follows:
2000 1999
Amortized Market Amortized Market
Cost Value Cost Value
---------- ------- ---------- ------
US Treasury securities and
obligations of US government
corporations and agencies $24,295 $24,154 $25,350 $25,008
Obligations of states and
political subdivisions 1,036 1,035 255 243
Other investments 579 549 679 642
------ ------ ----- ------
Total $25,910 $25,738 $26,284 $25,893
====== ====== ====== ======
8
HIGHLANDS BANKSHARES, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE 4 LOANS OUTSTANDING:
A summary of loans outstanding as of September 30, 2000 and
December 31, 1999, is as follows:
2000 1999
Commercial $35,008 $ 31,567
Real estate- construction 3,292 3,296
- mortgages 100,363 93,391
Consumer installment 46,386 39,994
------ -------
Total 185,049 168,248
Unearned interest (748) (1,634)
------ -------
Net loans outstanding $184,301 $166,614
======= =======
NOTE 5 ALLOWANCE FOR LOAN LOSSES:
A summary of transactions in the allowance for loan losses for the
nine months ended September 30, 2000 and 1999, follows:
2000 1999
Balance, beginning of period $ 1,318 $ 1,356
Allowance relating to loans
acquired in purchase 88
Provisions charged to operating expenses 310 220
Loan recoveries 84 71
Loan charge-offs (244) (340)
------ -------
Balance, end of period $ 1,556 $ 1,307
====== =======
NOTE 6 INVESTMENT IN INSURANCE CONTRACTS:
Investments in insurance contracts consist of single premium
insurance contracts which have the dual purposes of providing a rate
of return to the Company which approximately equals the rate of return
on one year Treasury obligations and providing life insurance and
retirement benefits to employees. The carrying value of these
investments was $4,800,000 at September 30, 2000 and $4,662,000 at
December 31, 1999.
9
HIGHLANDS BANKSHARES, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE 7 STATE INCOME TAX AUDIT:
In the second quarter of 2000, the Company was selected for audit
by the state of West Virginia for the years ended 1997 - 1999. The
audit covered the areas of sales and use taxes, income taxes and
franchise taxes. Management has received the auditor's report showing
sales and uses tax deficiencies of $21,000 and has charged this amount
to operations in the quarter ending June 30, 2000. The income and
franchise tax proposed assessments total $100,000 and stem from the
agent's reclassification of certain loans from West Virginia resident
home mortgages to commercial and/or nonresident home mortgages.
Management believes that West Virginia state law is unclear as to the
definition of residential mortgages and has discussed the matter with
state officials. Management accrued and charged to operations its
estimate of the correct liability of $69,000 in the second quarter of
2000. This estimate of liability will be adjusted when the matter is
settled, hopefully, by the end of the year.
NOTE 8 BUSINESS COMBINATIONS:
On May 3, 2000, The Grant County Bank ("Grant") and The Stockmans
Bank of Harman ("Stockmans") entered into an agreement and plan of
merger whereby Grant would purchase the remaining shares of Stockmans
not already owned by Highlands Bankshares, Inc. The agreement called
for cash to be paid for outstanding shares and was accounted for as a
purchase under generally accepted accounting principles. Closing took
place on July 26, 2000 and Grant paid stockholders $7,850 per share
for each of the 229 shares not owned by Highlands. The total purchase
cost of $1,798,000 was funded with short-term investments. The
purchase increased total assets and deposits by approximately
$9,000,000. Immediately subsequent to the closing, Stockmans was
merged into the operations of Grant and will operate as a branch of
Grant.
Proforma financial information reported as if the separate
entities had been combined for the nine months ended September 30,
2000 and 1999 follows:
Proforma Revenues
Highlands $14,116 $ 12,684
Stockmans 466 610
------ -------
Combined 14,582 13,294
Per Share Amounts 29.05 26.49
Proforma Net Income
Highlands 1,654 1,621
Stockmans 37 68
------ -------
Combined 1,691 1,689
Per Share Amounts 3.37 3.36
10
Item 2. Management's Discussion and Analysis of Financial Condition and
Results of Operations
Overview
Year to Date Operations
On July 26, 2000, the Grant County Bank closed its purchase of the Stockmans
Bank of Harman ("Stockmans"). Stockmans operated a single office in Harman, West
Virginia which is located approximately 30 miles from Grant's main office. The
purchase price for the 91.60% of the stock not previously controlled by
Highlands was $1,797,650. The purchase added approximately $5.7 million in
loans, $2.2 million in securities, $1.6 million in federal funds sold and $1.0
million in cash and other assets. Additional liabilities totaled $2.0 million in
savings accounts, $4.4 million in certificates of deposits and $2.4 million in
noninterest bearing deposits and liabilities. Stockmans began operating as a
branch of Grant immediately subsequent to the purchase.
The Company's nine month income of $1,654,000 was an increase of $33,000
over 1999 amounts and represents a 2.04% increase in net income and earnings per
share compared to 1999 operations. Earnings represented an annualized return on
equity of 8.90% for the first nine months of 2000 compared to 9.31% for the same
period in 1999. The annualized return on average assets was .97% in the first
nine months of 2000 compared with 1.01% in the first nine months of 1999.
The tax equivalent net interest income increased by $593,000 in 2000 as the
result of an increased level of income earning assets, namely loans. Returns on
loans increased ten basis points, yields on fed funds and cash equivalents
increased by 114 basis points and yields on investments increased by twelve
basis points. An increase of 29 basis points in the overall cost of funds was
the result of higher costs of all types of borrowings. The net interest margin
was 4.44% of average earning assets for the first nine months of 2000 compared
to 4.28% for the same period in 1999. Good loan demand and adequate rates on
loans are the reason for the earnings improvement.
Noninterest income increased 38.50% in 2000 compared to 1999 due mainly to
an increase in income from service charges and returns earned on investments in
insurance contracts. Noninterest expenses increased 14.18% in 2000 due to
earning asset growth and costs relating to the opening of a new branch in
Moorefield in the fall of 1999 that had a full nine months of operating expenses
in 2000.
A state tax audit relating to the income and franchise taxes for 1997 - 1999
was conducted in the second quarter of 2000, resulting in an after tax charge to
earnings of $58,000.
Quarter Ending September 30 Operations
Overall net income and earnings per share for the quarter ending September
30, 2000 increased 6.03% to $615,000 when compared to 1999 income of $580,000.
Increases in the net interest margin and noninterest income were offset by
increases in operating expenses during the period.
11
Item 2. Management's Discussion and Analysis of Financial Condition and Results
of Operations (Continued)
Net Interest Income
Year to Date Operations
The Company's net interest income on a tax equivalent basis was $7,011,000
in the first nine months of 2000 compared to $6,418,000 for 1999. Contributing
to the margin increase was higher yields on loans and a 5.46% increase in
average earning assets. The increase was also positively affected by an increase
in the yield on short-term investments that was substantially larger than the
increase in the cost of short-term deposits. Average loans outstanding grew by
13.25% from 1999 to 2000. About 18% of the asset growth and 6% of the loan
growth is attributable to the purchase of the Stockmans Bank in July. The loan
growth reflects good local economic conditions, moderate interest rates and
expanded banking facilities. The overall costs of funds reflects the high level
of competition for deposits in the Company's service areas which have
traditionally paid higher rates on deposits than larger statewide financial
institutions. The deposit increase of 3.65% represents growth in certificates of
deposits and deposits acquired in the acquisition of Stockmans. Stockmans
deposits accounted for about 33% of the average deposit increase.
Loans outstanding at September 30, 2000 increased 14.87% over amounts at
September 30, 1999 and 14.15% on annualized basis since December 31, 1999. The
increase in loans has been the result of opening branches in new market areas, a
concerted effort to increase lending in existing markets and the purchase of
Stockmans Bank which accounted for one third of the loan growth between the
periods. Loan growth has been funded by deposit growth and declines in the level
of federal funds sold and cash. The 6.41% increase in the tax equivalent net
interest margin for the third quarter of 2000 over the second quarter of 2000 is
the result of growth in earning assets. Barring any dramatic increases in
interest rates by the Federal Reserve Bank, the Company anticipates its net
interest margin remaining stable or increasing slightly as changes in the rates
paid on deposits are matched against increases in returns on investments and
loans.
Quarter Ending September 30 Operations
The Company's net interest income on a tax equivalent basis of $2,457,000
was 4.48% of average earning assets for the quarter ending September 30, 2000
compared to net interest income of $2,207,000 (4.38% of average earning assets)
for the same period in 1999. Increased income from loans was the result of
increases in volume and rate increases as the level of average loans outstanding
and market rates rose in the period. Yields on investment securities rose 30
basis points and yields on short-term investments increased 162 basis points
from 1999 to 2000. Tempering the increase in the net interest margin was an
increase in rates paid on interest bearing liabilities and borrowed money from
4.45% in 1999 to 5.00% in 2000. The increase was the result of increased costs
on all types of deposit accounts as the fed adjusted interest rates upward in
2000. The Company expects future deposit rates to remain stable or increase
slightly in the last quarter of 2000 as higher market conditions seen in the
last twelve months have a greater impact on the cost of time deposits.
A complete yield analysis is shown as Table I on page 17.
12
Item 2 Management's Discussion and Analysis of Financial Condition and Results
of Operations (Continued)
Noninterest Income
Year to Date Operations
Noninterest income for the period ending September 30, 2000 increased 39.43%
from amounts at September 30, 1999. An increase in service charge income of
$167,000 was the result of increased rates on NSF returned checks and increased
volume of returns. Income from investments in insurance contracts entered into
in 1998 and June of 1999 increased by $49,000 in 2000 compared to 1999
operations due to a complete nine months of investment income.
Quarter Ending September 30 Operations
Noninterest interest income for the quarter ending September 30, 2000
increased 26.78% as the result of items discussed in the preceding paragraph.
Noninterest Expenses
Year to Date Operations
Overall, noninterest expense increased 14.18% in the first nine months of
2000 when compared to the same period in 1999. Personnel expenses increased
13.56% as the result of asset growth, new branches in Moorefield and Harman and
additional officer compensation funded through life insurance contracts.
Occupancy and equipment expenses increased 23.95% as the result of higher
depreciation on equipment acquired as part of the year 2000 readiness program
and additional facilities placed in service. Data processing expenses increased
8.12% as a result of general asset growth. Other noninterest expenses increased
by 12.68% due to asset growth and expenses relating to a state use tax audit.
The Company's annualized noninterest expenses, reduced by noninterest income,
were 2.37% of average assets for the nine months ended September 30, 2000 versus
2.28% for the nine months ended September 30, 1999. The overall increase in
noninterest expenses of 14.18% is higher than the increase in assets of 10.50%
but is in line with management's expectations.
Quarter Ending September 30 Operations
Overall, noninterest expenses increased 13.52% for the quarter ending
September 30, 2000 compared to the quarter ending September 30, 1999. The
reasons for the quarterly increase are the same as for the year-to-date
increases and the percentage increases for the quarters are relatively the same
as the year-to-date increases. Annualized noninterest expense reduced by
noninterest income for the quarter ended September 30, 2000 was 2.31% of average
assets compared to 2.27% for the quarter ended September 30, 1999.
13
Item 2 Management's Discussion and Analysis of Financial Condition and Results
of Operations (Continued)
Loan Portfolio
The Company is an active residential mortgage and construction lender and
generally extends commercial loans to small and medium sized businesses within
its primary service area. The Company's commercial lending activity extends
across its primary service areas of Grant, Hardy, Mineral, Randolph, northern
Pendleton and southeastern Hampshire counties. Consistent with its focus on
providing community-based financial services, the Company 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 Company's portfolio is the creditworthiness of its borrowers. Within each
category, such risk is increased or decreased depending on prevailing economic
conditions. 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 Company's market areas.
The risk associated with real estate construction loans varies based upon the
supply of and demand for the type of real estate under construction.
Loans outstanding increased $17,687,000 or 10.62% in the first nine months
of 2000. Of this increase, approximately one third was due to the purchase of
the Stockmans Bank. Increases in all types of loans were noted. The loan to
deposit ratio was 88.71% at September 30, 2000 compared to 86.62% at December
31, 1999. Management believes this level of lending activity is satisfactory to
generate adequate earnings without undue credit risk. Loan demand is expected to
remain satisfactory in the near future with any growth a function of local and
national economic conditions.
Asset Quality and Risk Elements
Nonperforming loans include nonaccrual loans, loans 90 days or more past due
and restructured loans. Nonaccrual loans are loans on which interest accruals
have been suspended or discontinued permanently. Restructured loans are loans on
which the original interest rate or repayment terms have been changed due to
financial hardship of the borrower. Nonaccrual loans totaled $166,000 at
September 30, 2000 compared to $184,000 at June 30, 2000 and $194,000 at
December 31, 1999.
Real estate acquired through foreclosure was $109,000 at September 30, 2000
and $121,000 at December 31, 1999. All foreclosed property held at September 30,
2000 was in the Company's primary service area. The Company's practice is to
value real estate acquired through foreclosure at the lower of (i) an
independent current appraisal or market analysis less anticipated costs of
disposal, or (ii) the existing loan balance. The Company is actively marketing
all foreclosed real estate and does not anticipate material write-downs in value
before disposition.
An inherent risk in the lending of money is that the borrower will not be
able to repay the loan under the terms of the original agreement. The allowance
for loan losses (see subsequent section) provides for this risk and is reviewed
periodically for adequacy. This review also considers concentrations of loans in
terms of geography, business type or level of risk. While lending is
geographically diversified within the service area, the Company does have some
concentration of loans in the area of agriculture (primarily poultry farming),
timber and related industries. Management recognizes these concentrations and
considers them when structuring its loan portfolio. As of September 30, 2000,
management is not aware of any significant potential problem loans in which the
debtor is currently meeting their obligations as stated in the loan agreement
but which may change in future periods.
14
Item 2 Management's Discussion and Analysis of Financial Condition and Results
of Operations (Continued)
Allowance for Loan Losses
Management evaluates the loan portfolio in light of national and local
economic changes, changes in the nature and value of the portfolio and industry
standards. The Company's loan classification system, which rates existing loans,
provides the basis for adjusting the allowance for loan losses. Management
reviews these classification totals, along with internally generated loan review
reports, past due reports, historical loan loss experience and individual
borrower's financial health to determine the necessary amount to be provided in
the allowance for loan losses. Management evaluates nonperforming loans relative
to their collateral value and makes the appropriate adjustments to the allowance
when needed.
The additional provision for loan losses in 2000 is due to a substantial
increase in loans outstanding and an increase in loans delinquent 90 days or
more. The increase in delinquent loans is the result of three or four loans,
including a large loan acquired in the purchase of Stockmans Bank, failing to
meet the terms of their contracts.
The provision for credit losses and changes in the allowance for credit
losses are shown below (in thousands of dollars).
Quarter Ended Nine Months Ended
September 30, September 30,
2000 1999 2000 1999
Balance, beginning of period $ 1,459 $ 1,326 $ 1,318 $ 1,356
Allowance relating to loans
acquired in purchase of branch 88 88
Net charge-offs (recoveries)
Charge-offs 105 125 244 340
Recoveries (24) (21) (84) (71)
------ ------ ------ ------
Total net charge-offs * 81 104 160 269
Provision for credit losses 90 85 310 220
------ ------ ------ ------
Balance, End of Period $ 1,556 $ 1,307 $ 1,556 $ 1,307
====== ====== ====== ======
* Components of net charge-offs:
Real estate mortgages $ 32 $ 46 $ 62 $ 46
Commercial 4 13 21 88
Installment 33 45 65 135
Credit card 12 12
------ ------ ------
Total $ 81 $ 104 $ 160 $ 269
====== ====== ====== ======
The allowance for credit losses of $1,556,000 at September 30, 2000, was up
$97,000 from its level at June 30, 2000, and up $238,000 from December 31, 1999
levels. The allowance was equal to .84%, .83% and .79% of total loans at
September 30, 2000, June 30, 2000 and December 31, 1999, respectively.
15
Item 2 Management's Discussion and Analysis of Financial Condition and Results
of Operations (Continued)
Securities
The Company's securities portfolio serves numerous purposes. Portions of
the portfolio may secure certain public and trust deposits. The remaining
portions are held as investments or used to assist the Company in liquidity and
asset/liability management. Total securities at September 30, 2000 were
$29,297,000 compared to $29,815,000 at December 31, 1999. Securities as a
percentage of total assets were 12.21% at September 30, 2000 compared to 13.52%
at December 31, 1999. The decline in security investments reflects good loan
demand and low investment yields relative to rates paid on deposits.
The securities portfolio consists of three components, specifically,
securities held to maturity, securities available for sale and other
investments. Securities are classified as held to maturity when management has
the intent and the Company has the ability at the time of purchase to hold the
securities to maturity. Held to maturity securities are carried at cost,
adjusted for amortization of premiums and accretion of discounts. Securities to
be held for indefinite periods of time are classified as available for sale and
accounted for at market value. Securities available for sale include securities
that may be sold in response to changes in market interest rates, changes in the
security's prepayment risk, increases in loan demand, general liquidity needs
and other similar factors. Other investments include restricted securities whose
ownership is required to participate in certain governmental programs. The
Company's recent purchases of all securities have generally been limited to
securities of high credit quality with short to medium term maturities. Changes
in the market values of securities available for sale are reflected as changes
in stockholders' equity, net of the deferred tax effect. As of September 30,
2000, the cost of the securities available for sale exceeded their market value
by $172,000 ($108,000 after tax considerations).
Deposits
The Company's main source of funds remains deposits received from
individuals, governmental entities and businesses located within the Company's
service area. Deposit accounts include demand deposits, savings, money market
and certificates of deposit.
Total deposits increased 8.01% between December 31, 1999 and September 30,
2000, in all deposit areas except money market checking and saving accounts. Of
this increase, $8.8 million or 57% of the increase was attributable to deposits
acquired in the purchase of Stockmans Bank. The cost of funds for the first nine
months of 2000 was 4.76% compared to 4.47% for the same period in 1999. The
costs on all saving and demand deposits increased during the period due to
substantial increase in market yields in 2000. When rates on certificates
increased in the first six months of 2000, the Company saw a substantial amount
of money market deposits move into certificates. The majority of the Company's
deposits are time deposits which are attractive to persons seeking high yields
on their deposits but without the need for liquidity. The Company has not
actively pursued deposits in excess of $100,000 due to the volatile nature of
these relationships but saw a moderate increase in these deposits in the first
nine months of 2000.
16
Item 2 Management's Discussion and Analysis of Financial Condition and Results
of Operations (Continued)
Capital
The Company seeks to maintain a strong capital base to expand facilities,
promote public confidence, support current operations and grow at a manageable
level. As of September 30, 2000, the Company's total risk based capital ratio
was 16.18% which is far above the regulatory minimum of 8.0%. The ratio of total
capital to total assets was 10.65% at September 30, 2000.
Liquidity
Liquidity is the 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 and loans
maturing within one year. The Company's ability to obtain deposits and purchase
funds at favorable rates determines its liquidity exposure. As a result of the
Company's management of liquid assets and the ability to generate liquidity
through liability funding, management believes that the Company maintains
overall liquidity sufficient to satisfy its depositors' requirements and meet
its customers' credit needs.
Additional sources of liquidity available to the Company include, but are
not limited to, loan repayments, the ability to obtain deposits through the
adjustment of interest rates and the purchasing of federal funds. To further
meet its liquidity needs, the Company also maintains lines of credit with
correspondent financial institutions and the Federal Reserve Bank of Richmond.
Both subsidiary banks have lines of credit with the Federal Home Loan Bank of
Pittsburgh although utilization has been insignificant. In the past, growth in
deposits and proceeds from the maturity of investment securities have been
sufficient to fund the net increase in loans and investment securities.
Interest Rate Sensitivity
In conjunction with maintaining a satisfactory level of liquidity,
management must also control the degree of interest rate risk assumed on the
balance sheet. Managing this risk involves regular monitoring of the interest
sensitive assets relative to interest sensitive liabilities over specific time
intervals.
At September 30, 2000 the Company had a negative gap position. This
liability sensitive position typically produces an unfavorable contribution to
earnings during a period of increasing rates. With the largest amount of
interest sensitive assets and liabilities repricing within three years, the
Company monitors these areas very closely. Early withdrawal of deposits,
prepayments of loans and loan delinquencies are some of the factors that could
affect actual versus expected cash flows. In addition, changes in rates on
interest sensitive assets and liabilities may not be equal, which could result
in a change in net interest margin. While the Company does not match each of its
interest sensitive assets against specific interest sensitive liabilities, it
does review its positions regularly and takes actions to reposition itself when
necessary.
Securities and Exchange Commission Web Site
The Securities and Exchange Commission maintains a Web site that contains
reports, proxy and information statements and other information regarding
registrants that file electronically with the Commission, including Highlands
Bankshares, Inc., and the address is (http://www.sec.gov).
17
Table I
HIGHLANDS BANKSHARES, INC.
NET INTEREST MARGIN ANALYSIS
(Dollar Amounts in Thousands)
Nine Months Ended Nine Months Ended
September 30, 2000 September 30, 1999
Average Income/ Average Income/
Balance Expense Rates Balance Expense Rates
Rate Related Income
Loans
Commercial $ 32,251 $ 2,102 8.69% $ 30,088 $ 1,930 8.55%
Consumer 40,853 3,150 10.28% 33,290 2,659 10.65%
Real Estate 99,324 6,309 8.47% 88,876 5,507 8.26%
------- ------ ------ ------- ------- ------
Total 172,428 11,561 8.94% 152,254 10,096 8.84%
Federal funds
sold 4,654 214 6.13% 9,887 354 4.77%
Interest bearing
deposits 3,297 137 5.54% 4,476 158 4.71%
Investments
Taxable 27,091 1,245 6.13% 29,959 1,347 5.99%
Tax exempt 1 3,249 203 8.33% 3,226 205 8.47%
------- ------ ------ ------- ------- ------
Total Earning
Assets 1 210,719 13,360 8.45% 199,802 12,160 8.11%
------- ------ ------ ------- ------- ------
Interest Expense
Demand deposits 30,235 651 2.87% 32,799 596 2.42%
Savings 21,324 468 2.93% 21,228 434 2.73%
Time deposits 123,209 5,089 5.51% 114,593 4,608 5.36%
Other borrowed
money 3,109 141 6.05% 2,566 104 5.40%
------- ------ ------ ------- ------- ------
Total Interest
Bearing
Liabilities 177,877 6,349 4.76% 171,186 5,742 4.47%
------- ------ ------ ------- ------- ------
Net Interest
Margin $ 7,011 $ 6,418
====== =======
Net Yield on Interest
Earning Assets 1 4.44% 4.28%
====== ======
1 Yields are on a taxable equivalent basis using an assumed tax rate of 37%.
17 (Continued)
Table I (Continued)
HIGHLANDS BANKSHARES, INC.
NET INTEREST MARGIN ANALYSIS
(Dollar Amounts in Thousands)
Three Months Ended Three Months Ended
September 30, 2000 September 30, 1999
Average Income/ Average Income/
Balance Expense Rates Balance Expense Rates
Rate Related Income
Loans
Commercial $ 33,996 $ 757 8.91% $ 30,532 $ 656 8.59%
Consumer 43,602 1,149 10.54% 35,346 928 10.50%
Real Estate 102,896 2,238 8.70% 91,242 1,887 8.27%
------- ------- ------ ------- ------- ------
Total 180,494 4,144 9.18% 157,120 3,471 8.84%
Federal funds
sold 4,976 83 6.67% 6,452 85 5.27%
Interest bearing
deposits 3,362 52 6.19% 4,495 48 4.27%
Investments
Taxable 26,814 413 6.16% 30,498 443 5.81%
Tax exempt 1 3,533 71 8.04% 3,193 68 8.52%
------- ------- ------ ------- ------- ------
Total Earning
Assets 1 219,179 4,763 8.69% 201,758 4,115 8.16%
------- -------- ------ ------- ------- -----
Interest Expense
Demand deposits 28,487 213 2.99% 32,740 201 2.46%
Savings 22,090 170 3.08% 21,515 149 2.77%
Time deposits 129,426 1,850 5.72% 114,636 1,522 5.31%
Other borrowed
money 4,356 73 6.70% 2,561 36 5.62%
------- ------- ------ ------- ------- -----
Total Interest
Bearing
Liabilities 184,359 2,306 5.00% 171,452 1,908 4.45%
------- ------- ------ -------- ------- -----
Net Interest
Margin $ 2,457 $ 2,207
======= =======
Net Yield on Interest
Earning Assets 1 4.48% 4.38%
==== =====
1 Yields are on a taxable equivalent basis using an assumed tax rate of 37%.
18
TABLE II
HIGHLANDS BANKSHARES, INC.
INTEREST RATE SENSITIVITY ANALYSIS
SEPTEMBER 30, 2000
(In Thousands of Dollars)
1 - 90 91 - 365 1 to 3 3 to 5 More than
Days Days Years Years 5 Years Total
EARNINGS ASSETS
Loans $ 30,198 $ 77,631 $ 48,470 $ 20,113 $ 7,889 $184,301
Fed funds sold 5,563 5,563
Securities 5,011 9,053 8,783 1,252 5,198 29,297
Time deposits in
other banks 515 1,680 2,195
------- ------- ------- ------- ------- -------
Total 41,287 88,364 57,253 21,365 13,087 221,356
------ ------- ------- ------- ------- -------
INTEREST BEARING LIABILITIES
Transaction
accounts 16,059 16,059
Money market
accounts 11,411 11,411
Savings accounts 23,750 23,750
Time deposits more
than $100,000 4,736 11,527 13,143 3,348 32,754
Time deposits less
than $100,000 18,183 38,581 34,717 7,489 116 99,086
Other borrowed
money 2,270 144 416 411 1,403 4,644
------- ------- ------- ------- ------- -------
Total 76,409 50,252 48,276 11,248 1,519 187,704
------- ------- ------- ------- ------- -------
Rate sensitivity GAP (35,122) 38,112 8,977 10,117 11,568
Cumulative GAP (35,122) 2,990 11,967 22,084 33,652
Ratio of cumulative
interest sensitive
assets to cumulative
interest sensitive
liabilities 54.03% 102.36% 106.84% 111.86% 117.93%
Assumes all transaction and money market deposit accounts reprice within 90
days.
19
Part II Other Information
Item 1. Legal Proceedings - Not Applicable
Item 2. Changes in Securities - Not Applicable
Item 3. Defaults Upon Senior Securities - Not Applicable
Item 4. Submission of Matters to a Vote
of Security Holders - Not Applicable
Item 5. Other Information - Not Applicable
Item 6. Exhibits and Reports on 8-K - (a) Exhibits
3 (i) Articles of
Incorporation of
Highlands Bankshares,
Inc. are incorporated by
reference to Appendix C
to Highlands Bankshares,
Inc.'s Form S-4 filed
October 20, 1986.
3 (ii) Bylaws of Highlands
Bankshares, Inc. are
incorporated by
reference to Appendix D
to Highlands Bankshares,
Inc.'s Form S-4 filed
October 20, 1986.
27 Financial Data Schedule
attached
(b) Reports on Form 8-K filed during
the nine months ended September
30, 2000.
None
20
EXHIBIT INDEX
Exhibit
Index Page Number
27 Financial Data Schedule for the quarter ending
September 30, 2000 22
21
Signature
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.
HIGHLANDS BANKSHARES, INC.
LESLIE A. BARR
Leslie A. Barr
President
JOHN G. VANMETER
John G. VanMeter
Chairman
Date: November 13, 2000