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, 2001 COMMISSION FILE NUMBER 333-49459
NEW SOUTH BANCSHARES, INC.
(Exact name of Registrant as specified in its charter)
------------------
DELAWARE 63-1132716
(State or other jurisdiction of (I.R.S. Employer Identification No.)
incorporation or organization)
1900 Crestwood Boulevard 35210
Birmingham, Alabama (Zip Code)
(Address of Principal Executive Offices)
(205) 951-4000
(Registrant's telephone number, including area code)
Securities registered pursuant to Section 12(b) of the Act:
Title of Each Class Name of Each Exchange on Which
To be so Registered Each Class is to be Registered
- --------------------------------- -------------------------------------
Cumulative Trust Preferred Securities American Stock Exchange
(and the Guarantee with respect thereto)
Securities registered pursuant to Section 12(g) of the Act: None
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 Registrant's knowledge, in 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]
Number of shares of Common Stock, $1.00 Par Value, outstanding as of March 1,
2002: 1,255,537.1
DOCUMENTS INCORPORATED BY REFERENCE
None, except Exhibits
1
ITEM 1. BUSINESS
New South Bancshares, Inc. (the "Company") is a closely held unitary
thrift holding company headquartered in Birmingham, Alabama. Through its
financial institution subsidiary, New South Federal Savings Bank (the "Bank" or
"New South"), the Company operates one full-service retail branch office in
Birmingham, Alabama, and 40 loan production offices located in 13 states
throughout the southeastern and eastern United States. New South is the largest
thrift and the sixth largest depository institution, based on asset size,
headquartered in the State of Alabama.
The Company's operations principally involve residential mortgage
lending, automobile installment lending, residential construction and land
lending, manufactured housing lending and deposit gathering activities. The
Company's residential mortgage lending efforts involve the origination and
purchase of residential mortgage loans through its loan origination offices and
wholesale sources, the sale of such loans, usually on a pooled or securitized
basis, in the secondary market, and the servicing of residential mortgage loans
for investors and the Company's own loan portfolio. The automobile installment
lending program currently involves indirect lending through 470 automobile
dealers in 6 southern states. The Company's residential construction and land
lending efforts involve making loans to builders for the construction of single
family properties and, on a more limited basis, loans for the acquisition and
development of improved residential lots. The manufactured housing lending
program primarily includes the indirect origination of mortgage loans,
including the land and the home, and nonmortgage loans for the home only, in
addition to construction loans that are in place during the preparation phase
of the land. The Company actively funds and purchases commercial real estate
loans originated by Collateral Mortgage Capital, LLC ("CMC"), an affiliate,
which may be sold to investors or held in New South's portfolio.
The Company funds its lending activities primarily with customer deposits
gathered through the offering of a broad range of banking services including
certificates of deposit, individual retirement and other time and demand
deposit accounts, and money market accounts. The Company takes a wholesale
approach to generating deposits, paying high interest rates while keeping
deposit gathering overhead costs low. The Company maintains one retail branch
office in Birmingham, Alabama, but attracts the majority of its deposits
through telemarketing activities and third parties, primarily brokers.
The Company was established in 1994 for the purpose of acquiring and
holding 100 percent of the capital stock of New South. The Company and New
South are members of a family of financial services companies that are owned
primarily by W. T. Ratliff, Jr. and members of his family. Since W. T.
Ratliff founded Collateral Investment Company in 1933, these companies have
been engaged in virtually all aspects of real estate lending, investment,
brokerage and management, and various other financial services business.
Prior to the formation of the Company, New South was a wholly owned
subsidiary of Collateral Mortgage, Ltd. ("Collateral"), an affiliate. Prior to
1997, Collateral conducted residential mortgage lending operations consisting
primarily of direct originations of residential mortgage loans which were
generally underwritten and processed in accordance with the guidelines issued by
Fannie Mae ("FNMA"), Freddie Mac ("FLHMC"), the Federal Housing Administration
("FHA") or the Veterans Administration ("VA"), i.e., conforming residential
mortgage loans, through 39 retail mortgage origination offices located in 13
southern states as well as commercial lending. Effective July 1, 1997,
Collateral transferred all 39 of its loan origination offices to New South (the
"Transfer"). Prior to the Transfer, New South's residential mortgage lending
operations consisted primarily of indirect originations of residential mortgage
loans which were generally not underwritten and processed in accordance with
government or federal agency guidelines, known as nonconforming residential
mortgage loans, through correspondents and mortgage brokers, although it
originated some nonconforming residential mortgage loans on a direct basis
through seven origination offices.
As a result of the Transfer, New South now originates conforming and
nonconforming residential mortgage loans on a direct and indirect basis through
its origination offices and a network of loan correspondents and mortgage
brokers. New South also originates conforming and nonconforming residential
mortgage loans on an indirect basis through correspondents and mortgage brokers.
For financial details concerning the Company's business, see the
accompanying Management's Discussion and Analysis of Financial Condition and
Results of Operations.
2
RESIDENTIAL MORTGAGE LENDING
CONFORMING LOANS
New South's primary line of business is the origination and subsequent
sale of residential mortgage loans which New South classifies as conforming
residential mortgage loans. These loans are typically single family loans which
generally have been underwritten and processed in accordance with standard
government or federal agency guidelines including FNMA, FHLMC, FHA and VA. The
conforming residential mortgage loans are fixed-rate and adjustable-rate first
mortgage loans with 15 year or 30 year terms generally secured by
owner-occupied residences. New South's adjustable-rate mortgages ("ARMs")
generally have interest rates that adjust semi-annually or annually.
Presently, New South originates conforming residential mortgage loans
primarily on a direct basis through 40 loan production offices located in the
States of Alabama (12), Tennessee (4), Georgia (3), North Carolina (2), Florida
(3), Texas (1), Nevada (3), Kentucky (1), Louisiana (1), Virginia (3),
Mississippi (1), Arizona (1) and Utah (1). These offices originate primarily
single- family residential mortgage loans from a number of sources such as
referrals from realtors, walk-in customers, borrowers, and advertising. New
South augments its direct originations of conforming residential mortgage loans
with indirect originations through over 250 wholesale customers, including
independent mortgage brokers and correspondents, community banks, and other
financial institutions in 13 states. These mortgage brokers and correspondents
originate such loans using New South's underwriting criteria and standards and
close such loans using funds advanced by New South simultaneously with, or
following, closing. In some cases, loans are purchased at some point following
closing in a secondary market transaction.
NONCONFORMING LOANS
New South originates nonconforming residential mortgage loans primarily
on an indirect basis through mortgage brokers and correspondents, although it
also originates nonconforming loans on a direct basis. All nonconforming
residential mortgage loans originated, either on a direct or indirect basis,
must conform to New South's underwriting guidelines for nonconforming
residential mortgage loan products which have been internally developed by New
South's management by analyzing a variety of factors, including the proposed
equity in the collateral, the credit history and debt-to-income ratio of the
borrower, the property type, and the characteristics of the underlying first
mortgage, if any. Applying these guidelines, New South will internally classify
a proposed nonconforming residential mortgage loan product as either Grade AA,
A, B or C according to credit risk and establish the terms of the loan in
accordance with such internal classifications.
New South augments its indirect originations of nonconforming residential
mortgage loans with direct originations through one loan production office in
Birmingham, Alabama. Like conforming residential mortgage loans, originations
through these offices are derived from a number of sources such as referrals
from realtors, brokers, walk-in customers, borrowers, and advertising.
AUTOMOBILE INSTALLMENT LENDING
New South offers automobile installment loans secured by automobiles,
light-duty trucks and vans. New South began offering an automobile installment
lending program in 1989 to automobile dealers in the southern United States.
New South has an extensive automobile dealer network consisting of 470 dealers
in the States of Alabama, Florida, Georgia, Mississippi, Tennessee and Texas.
New South's automobile dealer network is made up of new car franchise dealers
and independent car dealers.
PRIME LOANS
The majority of New South's automobile installment loans are considered
to be prime loans by industry standards. Generally, the industry classifies
prime and nonprime customers based on the creditworthiness of the consumer. New
South's current guidelines for its prime lending products require an applicant
to have, among other factors, a credit bureau score of at least 580. On used
cars, the terms of the contract are also based, in part, on the actual mileage
of the vehicle. The Company also classifies as prime an immaterial amount of
other non automobile installment loans secured by deposits.
New South purchases prime products and a limited number of nonprime
products, typically secured, fixed-rate retail installment contracts, from
dealers on a non recourse basis.
3
NONPRIME LOANS
New South offers a nonprime product to certain qualifying consumers who
report credit bureau scores below the prime threshold. Terms of nonprime
automobile installment loans are established by New South underwriters based on
a variety of factors in accordance with New South's underwriting guidelines
which have been specifically designed to evaluate nonprime customers.
Importantly, the automobile payment cannot exceed 20 percent of a nonprime
borrower's gross income.
OTHER LENDING
RESIDENTIAL CONSTRUCTION AND LAND LOANS
New South originates residential real estate construction loans as well
as providing construction and land development loans in residential
subdivisions to professional home builders and developers. Residential
construction and land loans are primarily originated on a direct basis through
New South's residential construction lending offices. New South is active in
making loans to builders for the construction of single family properties and,
on a more limited basis, loans for the acquisition and development of improved
residential lots. These loans are made on a commitment term that generally is
for a period of one year. New South reviews each individual builder's
experience and reputation, general financial condition, and inventory levels in
order to limit risks. All construction loans are secured by a first lien on the
property and construction in progress. Additionally, the construction status is
reviewed by on-site inspections. The builders' ongoing financial position is
monitored on a periodic basis.
COMMERCIAL REAL ESTATE LOANS
Commercial real estate loans are originated primarily by CMC, a
subsidiary of Collateral on an indirect basis through mortgage bankers and
brokers nationwide. Collateral formed CMC in 2001 and placed all origination
and servicing for commercial loans in CMC. New South funds and closes in its
name certain commercial real estate loans originated by CMC. These loans are
secured by various types of commercial real estate, including multifamily
properties, retail shopping centers, mobile home parks, hotels, manufactured
home communities and a wide variety of other commercial properties. Many of
these loans may be sold in the secondary market by New South to investors such
as commercial banks, life insurance companies, pension funds, conduit programs,
and government sponsored entities. In addition, New South may hold these loans
in its own portfolio.
COMMERCIAL LOANS
New South makes available to certain independent automobile dealers
automobile floor plan credit lines, which are revolving credit lines used for
financing the used automobile inventory of independent automobile dealerships.
New South develops prospects for commercial loans primarily through its
existing customer base of independent automobile dealers who have sold retail
installment contracts to New South. New South will make advances on a dealer's
credit line when the dealer purchases an automobile and provides New South with
proper evidence of title to the property.
MANUFACTURED HOUSING
In August 1998, New South began its manufactured housing division to
provide retail financing on manufactured homes. The manufactured housing
division originates loans on new and preowned products utilizing chattle loans
and real estate loans following FHA, Fannie Mae, Freddie Mac or Rural
Development guidelines.
FUNDING ACTIVITIES
The Company funds its lending activities primarily through deposits. A
significant source of funding for New South is the sale of residential mortgage
loans and automobile installment loans either in the secondary market or as
securitizations and advances from the Federal Home Loan Bank ("FHLB"). To a
lesser extent, New South receives funds from traditional commercial borrowings
as well as the retention of earning after dividend distributions to the
Company. In 2001, the Company expanded its use of security repurchase
agreements.
4
DEPOSITS
New South conducts deposit gathering activities through one full service
branch located in Birmingham, Alabama and operates an active telephone and
internet banking center that handles incoming inquiries and conducts an
outgoing telemarketing program for deposit products. Deposits are not accepted
at any other location of New South. New South does not rely heavily on a local
retail deposit base. It has primarily utilized certificates of deposit to
compete for consumer deposits. New South attracts deposits from throughout the
country and several foreign countries by paying competitive rates.
New South also distributes its deposit products through brokers to
individuals and institutional purchasers through a brokered certificate of
deposit program which offers certificates of deposits in increments of $1.0
million to $20.0 million through selected brokers who meet New South's
guidelines. In addition, the Bank receives smaller denominated brokered deposits
through various programs.
SALES/SECURITIZATIONS
New South sells a substantial portion of its loan production into the
secondary market, principally by securitizing pools of loans and through sales
to private investors. With respect to conforming residential mortgage loans, if
a loan meets government or federal agency guidelines, it is typically sold
immediately, either through the FNMA, FHLMC or Ginnie Mae ("GNMA") programs or
to private investors. With respect to nonconforming residential mortgage loans,
New South generally holds these loans in its portfolio unless it determines that
it is economically necessary or desirable to sell the loan in light of the
existing prices, capital constraints, liquidity needs, and prepayment risks.
Generally, New South retains a portion of the servicing rights to the loans that
it sells.
LOAN SERVICING
RESIDENTIAL MORTGAGE LOAN SERVICING
New South services residential mortgage loans secured by single family
residences for its portfolio and for others including FNMA, FHLMC, GNMA, and
private mortgage investors. Mortgage loan servicing includes collecting
payments of principal and interest from borrowers, remitting aggregate loan
payments to investors, accounting for principal and interest payments, holding
escrow funds for payment of mortgage related expenses such as taxes and
insurance, making advances to cover delinquent payments, inspecting the
mortgaged premises as required, contacting delinquent mortgagors, supervising
foreclosures, making property dispositions in the event of unremedied defaults,
and other miscellaneous duties related to loan administration.
AUTOMOBILE INSTALLMENT LOAN SERVICING
From time to time, New South has sold a portion of its automobile
installment loan originations while retaining servicing for a servicing fee
and, in some instances, a 10 percent participation in the loans themselves. As
servicer, New South collects and posts all payments, responds to inquiries of
customers, investigates delinquencies, sends payment coupons to customers,
oversees the collateral in cases of default and accounts for collections. New
South's collections department takes all actions necessary to maintain the
security interest granted in the financed automobiles, including collecting
delinquencies, communicating with the consumer to ensure timely payments are
made and when required, contracts with third parties to recover and sell the
financed automobile.
SUPERVISION AND REGULATION
The following discussion is intended to be a summary of certain statutes,
rules and regulations affecting New South and the Company. The following
summary of applicable statues and regulations does not purport to be complete
and is qualified in its entirety by reference to such statues and regulations.
The Company is a unitary thrift holding company under the Home Owners'
Loan Act, as amended ("HOLA") and, as such, is subject to Office of Thrift
Supervision ("OTS") regulation, supervision and examination. In addition, the
OTS has enforcement authority over the Company and may restrict or prohibit
activities that are determined to represent a serious risk to the safety,
soundness or stability of New South or any other subsidiary savings institution.
Under the HOLA, a thrift holding company may not (i) acquire, with
certain exceptions, more than 5 percent of a non subsidiary savings institution
or a nonsubsidiary savings and loan holding company; or (ii) acquire or retain
control of a depository institution that is not insured by the Federal Deposit
Insurance Corporation ("FDIC").
5
As a thrift holding company, the Company generally is not subject to any
restriction as to the types of business activities in which it may engage,
provided that New South continues to satisfy the Qualified Thrift Lender Test.
Upon any nonsupervisory acquisition by the Company of another savings
institution that is held as a separate subsidiary, the Company would become a
multiple savings and loan holding company and would be subject to limitations
on the types of business activities in which it could engage. The HOLA limits
the activities of a multiple savings and loan holding company and its
noninsured institution subsidiaries primarily to activities permissible for
bank holding companies under the Bank Holding Company Act, subject to the prior
approval of the OTS, and to the other activities authorized by OTS regulation.
New South is chartered as a federal savings bank subject to regulation,
supervision and regular examination by the OTS. Federal banking laws and
regulations control, among other things, New South's required reserves,
investments, loans, mergers and consolidations, payment of dividends and other
aspects of its operations. The deposits of New South are insured by the Savings
Association Insurance Fund ("SAIF") administered by the FDIC to the maximum
extent provided by law generally $100,000 for each depositor. In addition, the
FDIC has certain regulatory and examination authority over OTS regulated
savings institutions, such as New South, and may recommend enforcement actions
against New South to the OTS, even though the FDIC is not the primary regulator
of New South. The supervision and regulation of New South is intended primarily
for the protection of the deposit insurance fund and New South's depositors
rather than for holders of the Company's stock or for the Company as the holder
of the stock of New South.
Business Activities. New South derives its lending and investment powers
-------------------
from the HOLA and the regulations of the OTS thereunder. Under these laws and
regulations, New South may invest in residential mortgage loans secured by
residential and commercial real estate, commercial and consumer loans, certain
types of commercial paper and debt securities, and certain other assets. New
South may also establish service corporations that may engage in activities not
otherwise permissible for New South, including certain real estate equity
investments and securities and insurance brokerage. These investment powers are
subject to various limitations.
OTS Capital Requirements. Under federal law and OTS regulations, savings
------------------------
associations are required to comply with each of three separate capital
adequacy standards: a tangible capital requirements; a tier 1 capital ratio;
and a risk- based capital requirement. The OTS is authorized to establish
individual capital requirements for a savings association consistent with these
capital standards. The OTS was required by the Federal Deposit Insurance
Corporation Improvement Act of 1991 ("FDICIA") to promulgate additional capital
requirements that in certain respects have superseded the capital requirements
discussed immediately below. Higher capital requirements must be met for the
Bank to meet the well capitalized guidelines.
Tangible Capital. The OTS capital regulations require tangible capital of
----------------
at least 1.5 percent of adjusted total assets, as defined by regulation.
Tangible capital generally includes common shareholders' equity and retained
earnings, noncumulative perpetual preferred stock and related surplus and
minority interest in the equity accounts of fully consolidated subsidiaries. In
addition, all intangible assets, other than a limited amount of properly valued
mortgage servicing rights ("MSRs"), must be deducted from tangible capital.
Tier 1 Capital Ratio. The tier 1 capital ratio adopted by the OTS
--------------------
requires savings associations to maintain core capital in an amount equal to at
least three percent of adjusted total assets. Core capital includes common
shareholders' equity, including retained earnings, noncumulative perpetual
preferred stock and any related surplus, and minority interests in the equity
accounts of fully consolidated subsidiaries, certain goodwill and MSRs less
certain intangible assets, and investments in nonincludable subsidiaries. In
general, intangible assets must be deduced in computing core capital because
they are excluded from assets under the OTS's capital rules. There are
exceptions to this rule of deduction, however. MSRs and purchased credit card
relationships ("PCCRs") are limited in the aggregate to the lesser of 100% of
the amount of core capital computed before the deduction of any disallowed
servicing assets and disallowed PCCRs, or the amount of servicing assets and
PCCRs, with PCCRs not exceeding 25 percent of core capital, provided that such
rights must be valued at the lower of 90 percent of fair market value or 100
percent of the remaining unamortized book value of the asset.
Risk-based Capital. The risk-based capital standard for savings
------------------
institutions requires the maintenance of total capital, which is defined as
core capital and supplementary capital less certain holdings, to risk-weighted
assets of at least eight percent. In determining the amount of risk-weighted
assets, all assets, including certain off-balance sheet instruments, are
multiplied by a risk weight of 0 percent to 100 percent, as assigned by the OTS
capital regulation based on the risks OTS believes are inherent in the type of
asset. The components of core capital are equivalent to those discussed
earlier under the three percent leverage standard. The components of
supplementary capital currently include cumulative preferred stock, long term
perpetual preferred stock, mandatory convertible securities, subordinated debt
and intermediate preferred stock and the general allowance for loan and lease
losses. Allowance for loan and lease losses includable in supplementary capital
is limited to a maximum of 1.25 percent of risk-adjusted assets. Overall, the
amount of supplemental capital counted toward total capital cannot exceed 100
percent of core capital.
6
Effective January 1, 2002, the OTS and the other bank regulatory agencies
amended their regulatory capital standards to change the treatment of certain
recourse obligations, direct credit substitutes, residual interests, and other
positions in securitized transactions that expose banking organizations to
credit risk. With this amendment, the agencies' regulatory capital standards
align more closely the risk-based capital treatment of recourse obligations and
direct credit substitutes, vary the capital requirements for positions in
securitized transactions (and certain other credit exposures) according to
their relative risk, and require capital commensurate with the risks associated
with residual interests.
Federal Deposit Insurance. New South is required to pay assessments to
the FDIC for insurance of its deposits by the SAIF based on a percentage of its
insured deposits.
FDICIA was enacted to recapitalize the Bank Insurance Fund ("BIF") and
impose certain supervisory and regulatory reforms on insured depository
institutions. Pursuant to the FDICIA, the FDIC established a risk-based
assessment system for determining the deposit insurance assessments to be paid
by insured depository institutions. The assessment rate depends on the capital
category and supervisory category to which an institution is assigned.
In late 1995, the FDIC amended the risk-based assessment schedule for
depository institutions with deposits insured by the BIF, resulting in a
significant reduction in FDIC assessments for BIF-insured but not SAIF-insured
institutions. In response to this assessment disparity, the Deposit Insurance
Funds Act of 1996 (the "1996 Act"), enacted on September 30, 1996, amended the
Federal Deposit Insurance Act in several ways to recapitalize the SAIF and
reduce the disparity between the assessment rates for the BIF and the SAIF. The
1996 Act authorized the FDIC to impose a special assessment on all institutions
with SAIF-assessable deposits in the amount necessary to recapitalize the SAIF
to the required reserve ratio of 1.25 percent. In addition to the assessment
for deposit insurance, since January 1, 1997, insured institutions are charged
an assessment on their insured deposits for the purpose of paying interest on
the bonds issued by the federal Financing Corporation in the late 1980s (the
"FICO Bonds") to assist in the recovery of the savings and loan industry. Since
December 31, 1999, BIF and SAIF members are assessed at the same rate for these
FICO obligations. The assessment amount is currently equal to approximately
0.021% of insured deposits. These assessments will continue until the FICO
Bonds mature.
The 1996 Act also provides that the FDIC cannot increase regular
insurance assessments for the SAIF or the BIF unless required to maintain or to
achieve the designated reserve ratio of 1.25 percent, except for assessments on
institutions that are not classified as well-capitalized or that have been
found to have "moderately severe" or "unsatisfactory" financial, operational or
compliance weaknesses. New South is classified as well-capitalized and has not
been found by the OTS to have such supervisory weaknesses. Accordingly, if the
designated reserve ratio is maintained by the SAIF after the collection of the
special SAIF assessment, New South, as long as it maintains its capital and
supervisory status, would expect to pay substantially lower FDIC assessments
compared to those it paid in recent years. Nevertheless, the FDIC has exercised
this authority several times in the past and may raise insurance premiums in
the future. The FDIC recently notified all insured institutions about the
possibility of higher deposit insurance premiums in the second half of 2002. If
such action is taken by the FDIC, it could have an adverse effect on the
earnings of New South.
Qualified Thrift Lender Test. The HOLA and OTS regulations require all
savings institutions to meet a Qualified Thrift Lender ("QTL") test. Under the
QTL test, as modified by FDICIA, a savings association is required to maintain
at least 65 percent of its portfolio assets, defined as total assets less (i)
specified liquid assets up to 20 percent of total assets, (ii) intangible
assets, including goodwill, and (iii) the value of property used to conduct
business, in certain "qualified thrift investments," such as home residential
mortgage loans and other residential real estate-related assets, on a monthly
average basis in 9 out of every 12 months. A savings institution may also be
considered a QTL by qualifying as a "domestic building and loan association" as
defined under the Code.
A savings institution that fails the QTL test must either operate under
certain restrictions on its activities or convert to a bank charter. An initial
failure to qualify as a QTL results in a number of sanctions, including the
imposition of certain operating restrictions and a restriction on obtaining
additional advances from its FHLB. If a savings institution does not requalify
under the QTL test within the three-year period after it fails the QTL test, it
would be required to terminate any activity not permissible for a national bank
and repay as promptly as possible any outstanding advances from the FHLB. In
addition, the holding company of such an institution, such as the Company,
would similarly be required to register as a bank holding company with the
Federal Reserve Board. See "Supervision and Regulation--Supervision and
Regulation of the Company." At December 31, 2001, New South qualified as a QTL.
Standards for Safety and Soundness. The FDI Act, as amended by FDICIA and
the Riegle Community Development and Regulatory Improvement Act of 1994,
requires the OTS, together with the other federal bank regulatory agencies, to
prescribe standards, by regulation or guideline, relating to internal controls,
information systems and internal audit systems, loan documentation, credit
underwriting, interest rate risk exposure, asset growth, asset quality,
operational and managerial standards as the agencies deem appropriate. The OTS
and the federal bank regulatory agencies adopted, effective August 9, 1995, a
set of
7
guidelines prescribing safety and soundness standards pursuant to the statute.
The safety and soundness guidelines establish general standards relating to
internal controls and information systems, internal audit systems, and
compensation, fees and benefits. In general, the guidelines require, among
other things, appropriate systems and practices to identify and manage the
excessive compensation as an unsafe and unsound practice and describe
compensation as excessive when the amounts paid are unreasonable or
disproportionate to the services performed by an executive officer, employee,
director or principal stockholder.
Limitations on Capital Distributions. OTS regulations currently impose
limitations upon capital distributions by savings institutions, such as cash
dividends, payments to repurchase or otherwise acquire its shares, payments to
stockholders of another institution in a cash-out merger and other
distributions charged against capital. A savings association must provide the
OTS with a 30 day advance notice of all proposed capital distributions whether
or not supervisory approval is required under OTS regulations.
Real Estate Lending Standards. Under joint regulations of the federal
banking agencies, including the OTS, savings institutions must adopt and
maintain written policies that establish appropriate limits and standards for
extensions of credit that are secured by liens or interests in real estate or
are made for the purpose of financing permanent improvements to real estate.
These policies must establish loan portfolio diversification standards, prudent
underwriting standards, including loan-to-value limits, that are clear and
measurable, loan administration procedures and documentation, approval and
reporting requirements. Each institution must monitor conditions in the real
estate market in its lending area to ensure its real estate lending policies
continue to be appropriate for current market conditions. An institution's real
estate lending policy must reflect consideration of Interagency Guidelines for
Real Estate Lending Policies (the "Interagency Guidelines") that have been
adopted by the federal bank regulators. The Interagency Guidelines, among other
things, call upon depository institutions to establish internal loan-to-value
limits specified in the Interagency Guidelines for the various types of real
estate loans. The Interagency Guidelines state that it may be appropriate in
individual cases to originate or purchase loans with loan-to-value ratios in
excess of the supervisory loan-to-value limits.
Federal Consumer Credit and Non-Discrimination Regulation. New South's
mortgage lending activities are subject to the provisions of various federal
and state statutes, including among others, the Truth in Lending Act, the Equal
Credit Opportunity Act, the RESPA, the Fair Housing Act and the regulations
promulgated thereunder. These statues and regulations, among other things,
prohibit discrimination on the basis of race, gender or other designated
characteristics, prohibit unfair and deceptive trade practices, require the
disclosure of certain basic information to mortgage borrowers concerning credit
terms and settlement costs, and otherwise regulate terms and conditions of
credit and the procedures by which credit is offered and administered. Each of
the foregoing statutes provides for various administrative, civil and, in
limited circumstances, criminal enforcement procedures, and violations thereof
may also lead to class actions seeking actual and/or punitive damages.
New South attempts in good faith to comply with the provisions of these
statutes and their implementing regulations; however, the provisions are
complex and even inadvertent noncompliance could result in liability to New
South. During the past several years, numerous individual claims, purported
class actions and federal enforcement proceedings have been commenced against a
number of financial institutions alleging that one or more of these provisions
have been violated. While New South has incurred no material detriment as a
result of these actions, there can be no assurance that one or more aspects of
its lending program will not be found to have been in violation of these
statutes.
Federal Deposit Regulation. New South's deposit taking activities are
subject to the provisions of various federal and state statutes, including
among others, the Truth-in-Savings Act, the Expedited Funds Availability Act,
the Electronic Funds Transfer Act, and the regulations promulgated thereunder.
These statutes and regulations, among other things, require the disclosure of
certain basic information concerning deposit accounts to account holders,
specify when funds must be made available to account holders and require
disclosure to account holders of the bank's funds availability policies, and
establish the rights, liabilities, and responsibilities of parties in
electronic funds transfers. Civil liability is also imposed by some statutes
and violations of those statutes may lead to class actions seeking actual
and/or punitive damages. New South attempts in good faith to comply with the
provisions of these statutes and their implementing regulations; however, even
inadvertent noncompliance could result in liability to New South.
Community Reinvestment. Under the Community Reinvestment Act ("CRA"), as
----------------------
implemented by OTS regulations, a savings institution has a continuing and
affirmative obligation consistent with its safe and sound operation to help meet
the credit needs of its entire community, including low and moderate income
neighborhoods. CRA does not establish specific lending requirements or programs
for financial institutions nor does it limit an institution's discretion to
develop the types of products and services that it believes are best suited to
its particular community, consistent with CRA. CRA requires the OTS, in
connection with its examination of a savings institution, to assess the
institution's record of meeting the credit needs of its community and to take
that record into account in its evaluation of certain applications by the
institution. FIRREA amended CRA to require all institutions to make public
disclosure of their CRA performance using the ratings of "outstanding,"
"satisfactory," "needs to improve," or "substantial noncompliance." New South
received an outstanding rating in its most recent
8
CRA examination by the OTS.
Bank regulatory agencies, including the OTS, have CRA regulations that
provide guidance to financial institutions on their CRA obligations and the
methods by which those obligations will be assessed and enforced. The
regulations establish three tests applicable to New South: (i) a lending test to
evaluate direct lending in low-income areas and indirect lending to groups that
specialize in community lending; (ii) a service test to evaluate its delivery of
services to such areas, and (iii) an investment test to evaluate its investment
in programs beneficial to such areas. New South's current operations and
policies substantially comply with the regulations.
Agencies. New South's lending activities, including its mortgage banking
--------
operations, are subject to the rules and regulations of FHA, VA, FNMA, FHLMC and
GNMA and other regulatory agencies with respect to originating, processing,
underwriting, selling and servicing residential mortgage loans. In addition,
there are other federal and state statutes and regulations affecting such
activities. Moreover, lenders such as New South are required annually to submit
audited financial statements to FNMA, FHLMC and GNMA and to comply with each
regulatory entity's own financial requirements. New South's business is also
subject to examination by FNMA, FHLMC and GNMA to assure compliance with
applicable regulations, policies and procedures.
Transactions with Affiliates. New South is subject to restrictions
----------------------------
imposed by federal law on extensions of credit to, and certain other
transactions with, the Company and other affiliates and on investments in the
stock or other securities thereof. Such restrictions prevent the Company and
such other affiliates from borrowing from New South unless the loans are
secured by specified collateral, and require such transactions to have terms
comparable to terms of arms-length transactions with third persons. Further,
such secured loans and other transactions and investments by New South are
generally limited in amount as to the Company and as to any other individual
affiliate in the aggregate amount of 10 percent of New South's capital and
surplus and as to the Company and all affiliates to an aggregate of 20 percent
of New South's capital and surplus. These regulations and restrictions may
limit the Company's ability to obtain funds from New South for its cash needs,
including funds for acquisitions and for payment of dividends, interest and
operating expenses. New South's ability to extend credit to its directors,
executive officers, and 10 percent shareholders, as well as to entities
controlled by such persons, is governed by the requirements of Section 22(g)
and 22(h) of the Federal Reserve Act and Regulation O of the Federal Reserve
thereunder.
Liquidity Requirements. New South is required by OTS regulation to
----------------------
maintain an average daily balance of liquid assets such as cash, certain time
deposits, bankers' acceptances, highly rated corporate debt and commercial
paper, securities of certain mutual funds and specified United States
government, state or federal agency obligations, in each calendar quarter of
not less than four percent of the amount of its liquidity base at the end of
the preceding calendar quarter or the average daily balance of its liquidity
base during the preceding quarter. Effective March 15, 2001, the OTS adopted an
interim rule eliminating the statutory liquidity requirement. In its place, the
OTS adopted a policy, consistent with that of the other federal banking
regulatory agencies that liquidity be maintained at a level which provides for
safe and sound banking practices and financial flexibility.
Branching. Subject to certain limitations, the HOLA and the OTS
---------
regulations currently permit federally chartered savings institutions such as
New South to establish branches in any state of the United States and its
territories. A savings association must apply with the OTS prior to opening a
branch. The regulations allow the OTS to grant supervisory clearance to an
applicant based on the policies, condition of the applicant including whether
the applicant has adequate capital and its CRA record.
FHLB System. The FHLB System consists of 12 district FHLBs subject to
-----------
supervision and regulation by the Federal Housing Finance Board ("FHFB"). The
Federal Home Loan Banks provide a central credit facility primarily for member
institutions. As a member of the FHLB, New South is required to acquire and
hold shares of capital stock in the FHLB in an amount at least equal to one
percent of the aggregate unpaid principal of its home residential mortgage
loans, home purchase contracts, and similar obligations at the beginning of
each year, or 1/20 of its outstanding advances from the FHLB, whichever is
greater.
Recent Legislation. On November 12, 2000, the Gramm-Leach-Bliley Act
------------------
("GLBA") became law, allowing bank holding companies to engage in a wider range
of nonbanking activities, including greater authority to engage in securities
and insurance activities. The GLBA also addressed privacy issues and required
financial institutions to adopt a privacy policy, to provide the policy to
customers before or at the time the customer relationship is established, to
periodically redistribute the privacy policy, to adhere to it, and to permit
customers to "opt-out- of information sharing with third parties in many
circumstances. In 2001, the federal banking regulators issued final regulations
implementing certain provisions of the GLBA related to privacy. Compliance with
these regulations, which were effective November 13, 2000, became mandatory on
July 1, 2001. New South has adopted a privacy policy and has procedures in
place to comply with the provisions of the GLBA and the related regulations.
9
Following the terrorist attacks of September 11, 2001, the Uniting and
Strengthening America by Providing Appropriate Tools Required to Intercept and
Obstruct Terrorism Act ("USA PATRIOT Act"), was passed by Congress. This
legislation, which was signed into law by President Bush on October 26, 2001,
contains provisions ranging from improving counter terrorism capabilities to
providing aid and relief for the victims of terrorism. Among its provisions,
the USA Patriot Act requires each financial institution: (i) to establish an
anti-money laundering program; (ii) to establish due diligence policies,
procedures and controls with respect to its private banking accounts and
correspondent banking accounts involving foreign individuals and certain
foreign banks; and (iii) to avoid establishing, maintaining, administering, or
managing correspondent accounts in the United States for, or on behalf of, a
foreign bank that does not have a physical presence in any country. In
addition, the USA Patriot Act contains a provision encouraging cooperation
among financial institutions, regulatory authorities and law enforcement
authorities with respect to individuals, entities and organizations engaged in,
or reasonably suspected of engaging in, terrorist acts or money laundering
activities. It is anticipated that regulations interpreting the USA Patriot Act
will be issued throughout 2002. It is not anticipated that the USA Patriot Act
will have a significant impact on the financial position of the Company.
In addition to the recent legislation discussed above, proposals to change
the laws and regulations governing the banking industry are frequently
introduced in Congress, in the state legislatures, and before the various bank
regulatory agencies. The Company cannot determine the likelihood and timing of
any such proposals or legislation and the impact they might have on it and its
subsidiaries.
COMPETITION
New South faces substantial competition in purchasing and originating
loans and in attracting deposits. Competitors include other thrifts, national
and state banks, trust companies, insurance companies, mortgage banking
operations, credit unions, finance companies, money market funds and other
financial and non-financial companies which may offer products similar to those
offered by New South. Many competing providers have greater financial resources
than New South, offer additional services, have wider geographic presence or
more accessible branch and loan production offices. New South's headquarters
and its only two deposit gathering branches are located in Birmingham, Alabama.
Birmingham is served by over 19 commercial banks and thrifts, most of which are
headquartered in the Birmingham area. Four of the 50 largest commercial banks
in the United States are headquartered in Birmingham.
ITEM 2. PROPERTIES
The principal executive offices of the Company are located at 1900
Crestwood Boulevard, Birmingham, Alabama in a 63,000 square foot building owned
by Collateral. New South owns a 42,789 square foot facility located at 215
North 21st Street in Birmingham, Alabama of which 33 percent is occupied by New
South. The remaining space is leased to multiple tenants. New South also owns
an 85,000 square foot building located at 210 Automation Way, Birmingham,
Alabama.
In addition, New South leases space at 2000 Crestwood Boulevard,
Birmingham, Alabama in a 15,000 square foot building. New South leases all of
its other physical locations in the normal course of business. At December 31,
2001, New South had 40 offices in 38 cities which were leased. Substantially
all leases are for periods of from one to five years.
ITEM 3. LEGAL PROCEEDINGS
The Company, from time to time, has been named in ordinary, routine
litigation. Certain of these lawsuits are class actions requesting unspecified
or substantial damages. In each case, a class has not yet been certified. These
matters have arisen in the normal course of business and are related to
lending, collections, servicing and other activities. The Company believes that
it has meritorious defenses to these lawsuits. Management is of the opinion
that the ultimate resolution of these lawsuits will not have a material adverse
effect on the Company's financial condition or results of operations.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS.
No matters were submitted during the fourth quarter of 2001 to a vote of
the security holders of the Company.
ITEM 5. MARKET FOR REGISTRANT'S COMMON EQUITY AND RELATED STOCKHOLDER
MATTERS.
The common stock of the Company was held by approximately 57 stockholders
as of March 1, 2002. The common stock of the Company has not been registered
under the Securities Act of 1933 (the "Securities Act"), and the Company is not
aware of the existence of any trading activity in the common stock.
Accordingly, there is no market for such common stock, and no market is
10
expected to develop in the foreseeable future.
From time to time in the past, the Company has purchased shares of common
stock from Company shareholders who desired to sell their shares. The Company
has never encouraged such sales and has historically paid only the then current
book value. On August 26, 1998, the Company purchased 126,766.50 shares of its
common stock at $77.25 as part of an offer. There have been no other purchases
since that time.
11
ITEM 6. SELECTED CONSOLIDATED FINANCIAL DATA
The following information summarizes selected consolidated financial data
for the last five years. The summary below should be read in conjunction with
"Management's Discussion and Analysis of Financial Condition and Results of
Operations" and the Company's Consolidated Financial Statements and Notes
included therein.
12
FIVE-YEAR SUMMARY OF SELECTED CONSOLIDATED FINANCIAL DATA
(Amounts in thousands, except ratios and per share data)
December 31
-----------------------------------------------------------------------
2001 2000 1999 1998 1997
---------------- -------------- ------------- -------------- -----------
(In thousands, except percentages and per share data)
Summary of Operations Data:
Interest income ......................................... $ 91,507 $ 98,004 $ 85,356 $ 83,251 $ 75,491
Interest expense ........................................ 62,767 66,588 53,584 52,299 47,723
---------------- -------------- ------------- -------------- -----------
Net interest income ..................................... 28,740 31,416 31,772 30,952 27,768
Provision for loan losses ............................... 5,363 5,565 3,638 3,944 2,954
---------------- -------------- ------------- -------------- -----------
Net interest income after provision
for loan losses........................................ 23,377 25,851 28,134 27,008 24,814
Non interest income:
Loan administration income............................... 11,277 11,409 10,348 5,143 4,333
Gain on sale of loans and mortgage servicing rights...... 19,212 14,599 12,058 12,435 5,661
Other income............................................. 18,908 13,532 15,563 15,992 5,320
---------------- -------------- ------------- -------------- -----------
Total ................................................... 49,397 39,540 37,969 33,570 15,314
Non interest expense:
Salaries and benefits.................................... 34,639 31,005 34,347 26,286 16,024
Other expense............................................ 24,083 23,627 27,759 22,467 15,398
---------------- -------------- ------------- -------------- -----------
Total.................................................... 58,722 54,632 62,106 48,753 31,422
Income before income taxes and cumulative
effect of a change in accounting principle.. .......... 14,052 10,759 3,997 11,825 8,706
Income taxes expense..................................... 720 644 1,406 5,088 3,990
---------------- -------------- ------------- -------------- -----------
Income before cumulative effect of a change
in accounting principle............................... 13,332 10,115 2,591 6,737 4,716
Cumulative effect of a change in accounting
principle.... ....................................... 1,124 - - - -
---------------- -------------- ------------- -------------- -----------
Net Income............................................... $ 12,208 $ 10,115 $ 2,591 $ 6,737 $ 4,716
================ ============== ============= ============== ===========
Per Share Data
- --------------
Earnings per share....................................... $ 9.72 $ 8.05 $ 2.06 $ 5.05 $ 3.42
Weighted average shares outstanding...................... 1,256 1,256 1,255 1,333 1,377
Selected Year End Balances
- --------------------------
Total assets............................................. $ 28,694 $1,222,777 $1,021,107 $1,142,622 $ 994,053
Investment securities available for sale................. 302,608 168,176 135,703 109,591 197,135
Loans, net of unearned income............................ 789,238 895,186 748,277 812,877 727,854
Allowance for loan losses................................ 12,613 13,513 11,114 9,107 7,333
Deposits................................................. 808,000 916,226 745,085 775,448 695,365
Federal Home Loan Bank Advances.......................... 196,749 133,415 128,417 198,418 179,420
Total liabilities........................................ 20,095 1,162,769 973,799 1,094,182 941,739
Shareholders' equity..................................... (11,093) 60,008 47,308 48,440 52,314
Performance Ratios
- ------------------
Return on average assets................................. 1.01% 0.89% 0.24% 0.65% 0.51%
Return on average equity/(1)/............................ 21.09 19.93 5.27 13.84 9.33
Interest rate spread..................................... 2.29 2.48 2.56 2.72 2.74
Net interest margin ..................................... 2.55 2.89 3.04 3.22 3.21
Ratio of average interest-earning assets
to average interest-bearing liabilities...... ....... 104.69 106.72 109.40 109.14 108.46
Ratio of non interest expense to average assets.......... 4.85 4.80 5.71 4.71 3.42
Efficiency ratio......................................... 75.15 76.99 89.05 75.56 72.94
Average equity to average assets/(1)/.................... 4.78 4.46 4.52 4.70 5.50
Asset Quality Data
- ------------------
Net charge-offs to average loans,
net of unearned income....... ....................... 0.75% 0.35% 0.18% 0.28% 0.21%
Nonperforming assets to average total assets............. 2.22 2.12 1.33 1.16 1.11
Nonperforming loans to average total loans,
net of unearned income...... ........................ 2.53 2.21 1.19 1.38 1.27
Allowance for loan losses to total loans,
net of unearned income......... ..................... 1.60 1.51 1.49 1.12 1.01
Allowance for loan losses to total
nonperforming assets..... ........................... 47.02 56.12 77.08 75.92 71.75
Capital Ratios/(2)/
- -------------------
Tangible capital (tier 1 to total assets)................ 7.66% 8.05% 8.64% 7.00% 6.17%
Tier 1 capital (to risk weighted assets)................. 10.64 10.02 11.86 9.96 9.51
Total risk-based capital (to risk weighted assets)....... 11.78 11.04 12.10 10.38 10.48
/(1)/ Equity used to calculate this ratio excludes components of other
comprehensive income.
/(2)/ Capital ratio data for all periods presented are for New South only.
13
Quarterly Results of Operations (Unaudited)
The quarterly results of operations for the years ended December 31, 2001 and
2000 are as follows:
2001
------------------------------------------------------------------
Fourth Third Second First
Total Quarter Quarter Quarter Quarter
---------- ---------- ---------- ---------- ----------
(In thousands, except per share data)
Interest income............................................. $ 91,507 $ 22,794 $ 22,299 $ 20,738 $ 25,676
Interest expense............................................ 62,767 15,031 15,068 14,980 17,688
Net interest income......................................... 28,740 7,763 7,231 5,758 7,988
Provision for loan losses................................... 5,363 1,550 1,000 1,010 1,803
Noninterest income ......................................... 49,397 13,283 11,856 12,358 11,900
Noninterest expense ........................................ 58,722 15,891 14,689 14,458 13,684
Income before income taxes and cumulative effect
of a change in accounting principle......... ........... 14,052 3,605 3,398 2,648 4,401
Cumulative effect of a change in accounting principle....... (1,124) - - - (1,124)
Net income.................................................. 12,208 3,415 3,227 2,510 3,056
Per common share:
Net income/(1)/............................................. $ 9.72 $ 2.72 $ 2.57 $ 2.00 $ 2.43
Weighted average shares outstanding......................... 1,256 1,256 1,256 1,256 1,256
2000
------------------------------------------------------------------
Fourth Third Second First
Total Quarter Quarter Quarter Quarter
---------- ---------- ---------- ---------- ----------
(In thousands, except per share data)
Interest income............................................. $ 98,004 $ 25,789 $ 25,704 $ 24,674 $ 21,837
Interest expense............................................ 66,588 18,530 17,775 15,925 14,358
Net interest income......................................... 31,416 7,259 7,929 8,749 7,479
Provision for loan losses................................... 5,565 1,802 1,353 1,942 468
Noninterest income ......................................... 39,540 10,650 9,473 10,259 9,158
Noninterest expense ........................................ 54,632 13,586 12,842 13,458 14,746
Income before income taxes.................................. 10,759 2,521 3,207 3,608 1,423
Net income ................................................. 10,115 2,381 3,017 3,379 1,338
Per common share:
Net income/(1)/............................................. $ 8.05 $ 1.89 $ 2.40 $ 2.69 $ 1.07
Weighted average shares outstanding......................... 1,256 1,256 1,256 1,256 1,256
/(1)/ Per share amounts are computed based on the weighted average shares
outstanding during each quarter. Therefore, due to rounding differences
with the weighted average shares calculation and per share amounts, net
income per share for the quarters may not amount to the annual totals
shown.
ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS
BASIS OF PRESENTATION
The following discussion should be read in conjunction with the
preceding "Selected Consolidated Financial Data" and the Company's Consolidated
Financial Statements and Notes thereto and the other financial data included
elsewhere in this document. Footnote 1 to the Consolidated Financial Statements
summarizes the Company's significant accounting policies governing amounts
reported in the financial statements. The financial information provided has
been rounded in order to simplify its presentation. However, the ratios and
percentages contained herein are calculated using the detailed financial
information contained in the Consolidated Financial Statements, the Notes
thereto, and the other financial data included elsewhere in this document. All
tables, graphs, and financial statements included herein should be considered
an integral part of this section. Certain amounts in the
14
prior year's financial information have been reclassified to conform with the
2001 presentation, with no effect on previously reported net income.
New South Bancshares, Inc. ("Bancshares" or the "Company") is a closely
held unitary thrift holding company headquartered in Birmingham, Alabama. The
Company has three wholly owned subsidiaries, New South Federal Savings Bank
("New South" or the "Bank"), Collateral Agency of Texas, Inc., and New South
Management Services, LLC ("NSMS"). NSMS, formed in 2000, performs certain loan
related functions for the various mortgage lending units of the Bank. New South
has three subsidiaries, Avondale Funding.com, inc. ("Avondale"), New South
Agency, Inc. and New South Real Estate, LLC and significant interest in five
joint ventures (the "New South Joint Ventures"). On February 17, 1999, New South
acquired the assets associated with the national mortgage origination activities
of Avondale Federal Savings Bank ("AFSB"), (the "Acquisition"). The Acquisition
was recorded under the purchase method; accordingly, the purchase price was
allocated to the assets acquired based upon their fair value, with no goodwill
being recorded. Concurrent with the Acquisition, New South organized Avondale
Funding Corporation ("AFC") to hold the acquired assets and the assumed
acquisition liabilities and related operations. In July 1999, AFC's name was
changed to Avondale. On May 31, 2000, New South sold its operations in Avondale
and is currently in the process of liquidating the remaining assets (the
"Divestiture").
In 2001, the Company completed the securitization of approximately $254
million of primarily residential nonconforming mortgage loans (the "2001
Securitization"), recording a gain of $3.7 million. The nature and timing of the
2001 Securitization had a significant impact on the 2001 results of operations
as well as December 31, 2001 loan balances and 2001 average earning assets and
interest-bearing liabilities. The residual interest associated with the 2001
Securitization was sold to an affiliated company at fair value of $7.9 million.
The Company also completed securitizations in 2000 of primarily nonconforming
mortgage loans of $29.0 million, with no gain or loss (the "2000
Securitization") and $646.0 million, with a loss of $1.0 million, in 1999 (the
"1999 Securitizations"). The Company retained residual interests totaling $.5
million and $7.2 million relating to the 2000 Securitization and 1999
Securitizations, respectively.
FORWARD LOOKING STATEMENTS
This management discussion and analysis contains certain forward
looking information with respect to the financial condition, results of
operations, and business of the Company, including the Notes to Consolidated
Financial Statements and statements contained in the discussion above with
respect to security maturities, loan maturities, loan growth, expectations for
and the impact of interest rate changes, the adequacy of the allowance for loan
losses, expected loan losses, and the impact of inflation, unknown trends, or
regulatory action. The Company cautions readers that forward looking statements,
including without limitation those noted above, are subject to risks and
uncertainties that could cause actual results to differ materially from those
indicated in the forward looking statements.
Factors that may cause actual results to differ materially from those
contemplated include, among others, the stability of interest rates, the rate of
growth of the economy in the Company's market area, the success of the Company's
marketing efforts, the ability to expand into new segments of the market area,
competition, changes in technology, the strength of the consumer and commercial
credit sectors, levels of consumer confidence, the impact of regulation
applicable to the Company, and the performance of stock and bond markets.
GENERAL
The Company's operations principally involve residential mortgage
lending, automobile installment lending, residential construction and land
lending, manufactured housing lending, and deposit gathering activities. The
Company's residential mortgage lending efforts involve the origination and
purchase of residential mortgage loans through its loan origination offices and
wholesale sources, the sale of such loans, usually on a pooled or securitized
basis, in the secondary market, and the servicing of residential mortgage loans
for investors and the Company's own loan portfolio. The automobile installment
lending program involves indirect lending through approximately 470 automobile
dealers in 6 southern states. The Company's residential construction and land
lending efforts involve making loans to builders for the construction of single
family properties and, on a more limited basis, loans for the acquisition and
development of improved residential lots. The manufactured housing lending
program primarily includes the indirect origination of mortgage loans, including
land and home, and
15
nonmortgage loans for the home only, in addition to construction loans that are
in place during the preparation phase of the land. The Company conducts
deposit gathering activities through its single full service branch located in
Birmingham, Alabama, through its telephone banking center, and via the
internet. See "Business."
The Company's net income results primarily from New South's operations.
Net interest income is the difference between interest earned on
interest-earning assets and interest paid on interest-bearing liabilities.
Variations in the volume and mix of interest-earning assets and interest-bearing
liabilities and their relative sensitivity to interest rate movements determine
changes in net interest income. Net income is further affected by the provision
for loan losses, noninterest income and noninterest expense. Noninterest income
consists primarily of loan administration income and origination fees related to
mortgage banking operations, net gains or losses on the sale of investment
securities available for sale, gain on the sale of loans and mortgage servicing
rights, and other income. Noninterest expense consists primarily of salaries and
benefits, net occupancy and equipment expense, and other expenses.
Loans are the largest component of the Company's earning assets and
generally have a more favorable return than other categories of earning assets.
Average loans, net of unearned income, were $834.5 million during 2001 and
$894.7 million during 2000, totaling 74.1% and 82.4%, respectively, of total
average earning assets.
Deposits are New South's largest source of funds used to support
earning assets. New South's average deposits were $865.5 million during 2001 and
$812.6 million during 2000, totaling 80.5% and 79.9%, respectively, of total
average interest-bearing liabilities. The Company has generally been able to
attract and retain deposits by offering nationally competitive rates. The
Company also continued its use of Federal Home Loan Bank ("FHLB") advances as an
alternative funding source. Average advances decreased to $130.2 million in 2001
from $160.4 million in 2000.
New South is required by the Office of Thrift Supervision ("OTS") to
meet certain capital requirements. Among these are minimum tier 1 capital,
tangible, and risk-based capital ratios. New South has consistently exceeded
these minimum guidelines. At December 31, 2001, New South's capital ratios place
it in the regulatory defined "well capitalized" category.
RESULTS OF OPERATIONS
Year Ended December 31, 2001 Compared to Year Ended December 31, 2000
Net income increased $2.1 million, or 20.6%, from $10.1 million, or
$8.05 per share, in 2000, to $12.2 million, or $9.72 per share, in 2001. During
2001, the Company implemented a required change in its accounting for derivative
instruments and hedging activities and expensed $1.1 million, or $.89 per share,
net of tax benefit, resulting from the cumulative effects of the change in
accounting.
Net interest income decreased $2.7 million, or 1.0%, to $28.7 million
in 2001 from $31.4 million in 2000. The decrease is attributable to lower
average loan balances during 2001 following the 2001 Securitization, compared
with 2000, and the impact of interest rate swap contracts ("Swaps"). Generally,
the Company is liability sensitive. See "--Net Interest Income."
The provision for loan losses decreased $.2 million, or 3.6%, to $5.4
million in 2001 from $5.6 million in 2000. Higher levels of nonperforming assets
and net charge-offs during 2001, compared with 2000, offset the effects of lower
period end loan levels. See "--Provision and Allowance for Loan Losses."
Noninterest income increased $9.9 million, or 24.9%, to $49.4 million
in 2001 from $39.5 million in 2000. Origination fees increased to $12.3 million
in 2001 from $8.2 million, an increase of $4.1 million, or 50.5%, as a result of
an increase in the number of residential mortgage loans originated. The sale of
investment securities available for sale resulted in a gain of $1.2 million in
2001, compared with a loss of $.6 million in 2000. Gain on the sale of loans and
mortgage servicing rights increased $4.6 million, or 31.6%, to $19.2 million in
2001 from $14.6 million in 2001, primarily resulting from the $3.7 million gain
on the 2001 Securitization. See "--Noninterest Income and Expense."
16
Noninterest expense increased $4.1 million, or 7.5%, to $58.7 million
in 2001 from $54.6 million in 2000. Salaries and benefits totaled $34.6 million
in 2001 compared to $31.0 million in 2000, an increase of $3.6 million, or
11.7%. The increase resulted from the rise in mortgage origination volume during
2001, which offset a $1.0 million decline resulting from the Divestiture. Net
occupancy and equipment expense was $4.8 million in 2001 and $6.0 million in
2000, a decrease of $1.2 million, or 20.3%, primarily as a result of the
Divestiture, which saved $.7 million. Other expenses were $19.3 million in 2001
and $17.7 million in 2000, an increase of $1.7 million, or 9.4%. The increase in
other expenses resulted from increased operating cost associated with higher
2001 residential lending volume which offset the decrease of $1.4 million in
other expenses attributable to the Divestiture. See "--Noninterest Income and
Expense."
The Company elected S Corporation treatment under the Internal Revenue
Code on January 1, 1999. Generally, corporations electing such treatment are not
subject to federal corporate taxation. Accordingly, the provision for income
taxes was $.7 million in 2001, an effective rate of 5.1%, attributable only to
the taxes in states which do not conform to federal S Corporation treatment. The
2000 provision for income taxes was $.6 million, an effective rate of 6.0%.
Year Ended December 31, 2000 Compared to Year Ended December 31, 1999
Net income increased $7.5 million, or 290.4%, to $10.1 million, or
$8.05 per share, in 2000, from $2.6 million, or $2.06 per share, in 1999.
Net interest income decreased $.4 million, or 1.2%, to $31.4 million in
2000 from $31.8 million in 1999. Generally, the Company is liability sensitive.
Net interest income decreased $.4 million, or 1.1%, to $31.4 million in 2001
from $31.8 million in 2000. During 2001, compared with 2000, a 3.9% increase in
average interest-earning assets along with a 86 basis point increase in the
yield were negated by the combined effect of a 6.5% increase in interest-bearing
liabilities along with a 94 basis point increase in the rate.
The provision for loan losses increased $2.0 million, or 53.0%, to $5.6
million in 2000 from $3.6 million in 1999. This increase resulted primarily from
an increase of $8.0 million, or 75.4% in nonperforming loans, from $10.6 million
at year-end 1999 to $18.7 million at year-end 2000. Many of the additional
nonperforming loans were from the Acquisition. See "--Provision and Allowance
for Loan Losses."
Noninterest income increased $1.5 million, or 4.1%, to $39.5 million in
2000 from $38.0 million in 1999. Loan administration income increased from $10.3
million in 1999 to $11.4 million, an increase of $1.1 million, or 10.3%, as a
result of increases in the loan servicing portfolio. The increase in loan
administration income was partially offset by a decrease in origination fees of
$1.6 million, to $8.2 million in 2000 from $9.8 million in 1999, attributable to
a decline in the number of residential mortgage loans originated. Gain on the
sale of loans and mortgage servicing rights increased $2.5 million to $14.6
million in 2000 from $12.1 million in 1999. See "--Noninterest Income and
Expense."
Noninterest expense decreased $7.5 million, or 12.0%, to $54.6 million
in 2000 from $62.1 million in 1999. Salaries and benefits totaled $31.0 million
in 2000 and $34.3 million in 1999, a decrease of $3.3 million, or 9.7%. The
decrease resulted from a $2.1 million decrease in salaries and benefits
resulting from the Divestiture, and from reduction in commissions related to the
decline in mortgage origination volume during 2000. Net occupancy and equipment
expense was $6.0 million in 2000 and $6.2 million in 1999, a decrease of $.2
million, or 3.7%. Other expenses were $17.7 million in 2000 and $21.6 million in
1999, a decrease of $3.9 million, or 18.1%. The decreases in other expenses
attributable to the Divestiture was $1.7 million, with the remainder primarily
resulting from the decline in mortgage origination volume during 2000 and a
change in advertising strategy from 1999. See "--Noninterest Income and
Expense."
The provision for income taxes was $.6 million in 2000, an effective
rate of 6.0%, attributable only to the taxes in states which do not conform to
federal S Corporation treatment. The provision for income taxes, in 1999,
included the write off of the Company's federal deferred tax asset of $1.3
million, a direct result of the January 1, 1999 S Corporation election, and was
$1.4 million, an effective rate of 35.2%.
NET INTEREST INCOME
17
General
Net interest income is determined by the yields earned on the Company's
interest-earning assets and the rates paid on its interest-bearing liabilities,
the relative amounts of interest-earning assets and interest-bearing
liabilities, and the degree of mismatch in the maturity and repricing
characteristics of its interest-earning assets and interest-bearing liabilities.
Net interest income divided by average earning assets represents the Company's
net interest rate margin.
During 2001, the Company implemented a strategy to more fully leverage
its core capital by purchasing a portfolio of Government National Mortgage
Association ("GNMA") securities beginning in the second quarter of 2001 ("GNMA
Strategy"). The securities acquired under the GNMA Strategy totaled $197.4
million at December 31, 2001, and averaged $82.5 million during 2001. The GNMA
securities are being funded primarily with securities sold under agreements to
repurchase ("Security Repo Agreements") agreements. Amounts borrowed under
Security Repo Agreements totaled $181.0 million at December 31, 2001 and
averaged $77.4 million. This change in the composition of the Company's
interest-earning assets reduced the net interest rate spread and margin from
2000 levels but contributed positive net interest income.
Net interest income decreased $2.7 million, or 8.5%, to $28.7 million
in 2001 from $31.4 million in 2000 as a result of the combined effects of a
decrease in average loans and the impact of Swaps, which offset the otherwise
improved net interest rate spread. Despite increased loan origination volume in
2001, average loans declined $60.2 million during 2001, compared with 2000. The
decline in average loans, primarily resulting from the 2001 Securitization,
decreased net interest income by approximately $1.3 million. During 2001,
funding rates declined throughout the year. This was in contrast to 2000 when
interest rates were generally increasing. As discussed further in "Interest
Sensitivity", the Company enters into various derivative contracts to reduce its
interest rate risk. During periods of declining interest rates, these contracts
reduce the benefit the Company realizes from repricing its liabilities. The
Company's Swaps, intended primarily to convert variable rate liabilities to
fixed rates, decreased net interest income by $4.6 million during 2001. Without
the impact of the Swaps, the cost of time deposits and federal funds purchased
and securities sold under agreements to repurchase would have been 5.67 percent
and 3.90 percent, respectively.
Average Balances, Income, Expenses and Rates
The following table sets forth, for the periods indicated, certain
information related to the Company's average balance sheets and its average
yields on assets and average costs of liabilities. Such yields or costs are
derived by dividing income or expense by the average balance of the
corresponding assets or liabilities. Average balances have been derived from the
daily balances throughout the periods indicated.
18
Average Balances, Income, Expense, and Rates
Years Ended December 31,
----------------------------------------------------------------------------------
2001 2000 1999
----------------------------------------------------------------------------------
Average Income/ Yield/ Average Income/ Yield/ Average Income/ Yield/
--------- -------- ------ ---------- --------- ------ ------------ ------- ------
Balance Expense Rate Balance Expense Rate Balance Expense Rate
--------- -------- ------ ---------- --------- ------ ------------ ------- ------
(In thousands, except percentages)
Assets
Loans, net of unearned income/(1)/.............$ 834,465 $72,272 8.66% $ 894,681 $ 84,113 9.40% $ 898,379 $76,829 8.55%
Interest-bearing deposits in other banks....... 13,603 690 5.07 7,095 519 7.32 17,131 823 4.80
Investment securities available for sale ...... 206,941 13,318 6.44 109,328 7,711 7.05 71,469 4,128 5.78
Other investments.............................. 71,110 5,227 7.35 74,338 5,661 7.62 58,133 3,576 6.15
--------- ------- ------ ----------- --------- ----- ----------- -------- -----
Total earning assets......................... 1,126,119 91,507 8.13 1,085,442 98,004 9.03 1,045,112 85,356 8.17
Securities under repurchase agreements......... - -
Allowance for loan losses...................... (12,539) (12,020) (10,077)
Other assets .................................. 97,304 64,988 52,440
---------- ----------- ----------
Total Assets.................................$1,210,884 $ 1,138,410 $1,087,475
========== =========== ==========
Liabilities and Shareholders' Equity
Other interest-bearing deposits................$ 4,868 156 3.20 $ 3,845 156 4.06 $ 3,689 150 4.07
Savings deposits............................... 83,510 3,072 3.68 73,858 3,481 4.71 83,035 3,811 4.59
Time deposits.................................. 713,809 44,158 6.19 677,502 44,219 6.53 629,829 35,872 5.70
Federal funds purchased and securities sold
under agreements to repurchase ............. 97,417 4,730 4.86 60,132 4,271 7.10 42,132 2,232 5.29
Other borrowings............................... 11,346 921 8.12 6,904 615 8.91 3,311 126 3.81
Federal Home Loan Bank advances................ 130,196 6,798 5.22 160,397 10,914 6.80 158,782 8,461 5.33
Guaranteed preferred beneficial interests
in the Company's subordinated debt.......... 34,500 2,932 8.50 34,500 2,932 8.50 34,500 2,932 8.50
--------- ------- ------ ----------- --------- ----- ------------ -------- -----
Total interest-bearing liabilities...........1,075,646 62,767 5.84 1,017,138 66,588 6.55 955,278 53,584 5.61
Noninterest-bearing deposits................... 63,362 57,385 76,507
Accrued expenses and other liabilities......... 15,815 12,599 8,061
Shareholders' equity........................... 56,061 51,288 47,629
---------- ----------- ----------
Total Liabilities and Shareholders' Equity... $1,210,884 $ 1,138,410 $1,087,475
========== =========== ==========
----- ---- ----
Net interest rate spread....................... 2.29% 2.48% 2.56%
===== ==== ====
------- -------- -------
Net interest income............................ $28,740 $ 31,416 $31,772
======= ======== =======
----- ---- ----
Net interest rate margin....................... 2.55% 2.89% 3.04%
===== ==== ====
/(1)/ Loans classified as nonaccrual are included in the average volume
classification.
Analysis of Changes in Net Interest Income
The following table sets forth the effect that the varying levels of
interest-earning assets and interest-bearing liabilities and the applicable
rates have had on changes in net interest income from 1999 to 2000 and 2000 to
2001. Changes not solely attributable to a change in rate or volume are
attributable to a mixture of each.
19
Analysis of Changes in Net Interest Income
Years Ended December 31,
-----------------------------------------------------------
2001 Compared to 2000 2000 Compared to 1999
Change Attributable to Change Attributable to
---------------------------- ---------------------------
Volume Rate Mix Volume Rate Mix
--------- ----------- ------- -------- ------- --------
(In thousands)
Earning Assets
Total loans, net of unearned
income/(1)/...................................... $ (5,661) $ (6,626) $ 446 $ (316) $ 7,632 $ (31)
Federal funds sold................................. 476 (159) (146) (482) 430 (252)
Investment securities available for sale........... 6,885 (675) (603) 2,187 913 484
Other investments.................................. (246) (197) 9 997 851 237
--------- ---------- ------- --------- -------- -------
Total interest income.............................. 1,454 (7,657) (294) 2,385 9,826 437
Interest Bearing Liabilities
Other interest bearing deposits.................... 42 (33) (9) 6 (0) (0)
Savings deposits................................... 455 (764) (100) (421) 103 (11)
Time deposits...................................... 2,370 (2,307) (124) 2,715 5,235 396
Federal funds purchased and securities - - -
sold under agreements to repurchase ........... 2,648 (1,351) (838) 954 761 325
Other borrowings................................... 396 (55) (35) 137 169 183
Federal Home Loan Bank - - -
advances...................................... (2,055) (2,539) 478 86 2,343 24
Guaranteed preferred beneficial interests
in the Company's subordinated debt............ - - - - - -
--------- ---------- ------- --------- -------- -------
Total interest expense............................. 3,855 (7,049) (627) 3,477 8,610 917
--------- ---------- ------- --------- -------- -------
Net interest income................................ $ (2,401) $ (608) $ 333 $(1,092) $ 1,215 $ (480)
========= ========== ======= ========= ======== =======
/(1)/ "Loans, net of unearned income" includes nonaccrual loans for all years
presented.
Interest Sensitivity and Market Risk
Interest Sensitivity
Through policies established by the Bank's Asset/Liability Management
Committee ("ALCO"), the Bank monitors and manages the repricing and maturity of
its assets and liabilities in order to diminish the potential adverse impact
that changes in interest rates could have on its net interest income. The ALCO
uses a combination of earnings and market value sensitivity analyses and
traditional gap analysis. These analyses compare the repricings, maturities, and
prepayments, as applicable, of New South's interest-earning assets and
interest-bearing liabilities and off balance sheet instruments in order to
measure, monitor, and manage interest rate risk. The differences in the various
maturities or repricings, known as GAP, are summarized in the analysis below as
of December 31, 2001:
20
Summary GAP Report
As of December 31, 2001
-------------------------------------------------------------------------------------
Immediate Over Three Over One Over Five Over
to Three Months Year Through Years Through Ten
Months to One Year Five Years Ten Years Years Total
------------ -------------- ------------- --------------- ---------- -----------
(In thousands)
Interest-bearing deposits in other banks.... $ 16,138 $ - $ - $ - $ - $ 16,138
Investment securities available for sale.... 15,017 42,276 107,997 58,037 79,281 302,608
Residual interests in loan securitizations.. 250 2,650 5,694 - - 8,594
Loans available for sale.................... 118,267 - - - - 118,267
Loans net of unearned income................ 292,932 127,539 215,941 101,413 51,413 789,238
---------- ---------- ---------- --------- ---------- -----------
Total Assets........................ $ 442,604 $ 172,465 $ 329,632 $ 159,450 $ 130,694 $ 1,234,845
========== ========== ========== ========= ========== ===========
Interest-bearing deposits................... $ 369,639 $ 235,610 $ 146,444 $ 56,307 $ - $ 808,000
Federal funds purchased and securities
sold under agreement to repurchase...... 89,426 107,323 - - - 196,749
Federal Home Loan Bank advances............. 85,000 - 35,025 - - 120,025
Notes payable............................... 10,295 - - - - 10,295
Guaranteed preferred beneficial interest in
the Company's subordinated debentures.. - - - - 34,500 34,500
---------- ---------- ---------- --------- ---------- -----------
Total Liabilities................... $ 554,360 $ 342,933 $ 181,469 $ 56,307 $ 34,500 $ 1,169,569
========== ========== ========== ========= ========== ===========
Periodic GAP................................ $ (111,756) $ (170,468) $ 148,163 $ 103,143 $ 96,194
Cumulative GAP.............................. (111,756) (282,224) (134,061) (30,918) 65,276
Impact of Swaps............................. 295,000 40,000 (320,000) (15,000) -
Hedged Periodic GAP......................... 183,244 (130,468) (171,837) 88,143 96,194
Hedged Cumulative GAP....................... 183,244 52,776 (119,061) (30,918) 65,276
The Company's interest rate sensitivity analysis evaluates interest
rate risk based on the impact of various interest rate scenarios on the net
interest income and the market value of the portfolio equity ("MVPE"). The MVPE
analysis is required quarterly by the OTS. The Company also uses an earnings
simulation model to determine the effects of several interest rate scenarios on
the Company's net interest income. ALCO meets semi-monthly to monitor and
evaluate the interest rate risk position of New South and to formulate and
implement strategies for mitigating the interest rate risk and increasing the
net interest rate margin and net income.
Brokered deposits, or deposits received through third party depositor
representatives, are considered to be highly interest rate sensitive and are
reflected in interest rate risk analyses reviewed by ALCO. Additionally, both
the Committee and New South's Board of Directors are apprised of the level of
brokered deposits on an ongoing basis.
For relatively short-term rate changes, the impact on income would be
insignificant. However, a significant, sustained change in rates could have a
significant impact on earnings, depending upon the magnitude and direction of
the change. As of December 31, 2001, the Company's interest rate risk management
model indicated that projected net interest income would increase by 3.4%
assuming an instantaneous increase in interest rates of 200 basis points, or
decrease by 12.69% assuming an instantaneous decrease of 200 basis points. All
measurements of interest rate risk sensitivity fall within guidelines
established by New South's Board of Directors.
New South uses interest rate contracts, primarily Swaps and interest
rate caps ("Caps"), to reduce or modify interest rate risk. The impact of these
instruments is incorporated into the interest rate risk management model. The
Company manages the credit risk of its Swaps and Caps through a review of the
creditworthiness of the counterparties to such contracts, Board established
credit limits for each counterparty, and monitoring by ALCO.
21
At December 31, 2001, New South had Swaps with notional amounts
totaling $425 million. $380 million of the Swaps were receive variable/pay fixed
swap contracts designated to convert variable rate funding to a fixed rate, thus
reducing the impact of an upward movement in interest rates on the net interest
rate margin. At December 31, 2001 these Swaps were designated as cash flow
hedges under Statement of Financial Accounting Standards ("SFAS") No. 133,
Accounting for Derivative Instruments and Hedging Activities ("SFAS 133"), for
$140 million of Security Repo Agreements and $240 million of certain time
deposits. Additionally, the Company has entered into $45 million of receive
fixed/pay variable Swaps utilized as cash flow hedges under SFAS 133 for certain
brokered certificates of deposit included in the Company's overall funding.
These Swaps reduce the current cost of these liabilities and convert them to an
adjustable rate. These Swaps are callable at the option of the counterparty. If
called, the Company has the right to call the certificates of deposit. At
December 31, 2001, the Company increased its interest-bearing deposits and
federal funds purchased and securities sold under agreements to repurchase by
$14.3 million, the market value of the Swaps. At December 31, 2001, other
comprehensive income ("OCI") included an after-tax loss of $13.3, net of $.3
million reclassified as additional interest expense attributable to hedge
ineffectiveness.
New South also had $245 million in Caps outstanding at December 31,
2001. The Company is exposed to rising liability costs due to the short-term
nature of its liability portfolio as noted in the Summary Gap Report. The Caps
generally serve to mitigate the Company's risk against increases in the costs of
liabilities. The table following shows the weighted average LIBOR based strike
rate for the Caps is 7.56 percent, therefore short-term interest rates levels
would have to increase significantly before the Caps would provide the Company
with a material benefit. At December 31, 2001, 90 day LIBOR was 1.88 per cent.
Under SFAS 133, the Caps do not qualify for hedge accounting. Accordingly,
changes in the market value of the Caps are recorded through the income
statement versus OCI. During 2001, the Company's other income was reduced by $.3
million for declines in the market value of the Caps.
The following table sets forth notional values of the Company's Swap
and Cap activity for the years 1999, 2000 and 2001.
Interest Rate Swaps
-----------------------
Received Pay Interest
fixed fixed Rate Caps Total
---------- ----------- ----------- ------------
(In thousands)
Balance at January 1, 1999 ......... $ 40,000 $ 80,000 $ 305,000 $ 425,000
Additions........................... 25,000 100,000 30,000 155,000
Maturities.......................... - (15,000) (105,000) (120,000)
Calls .............................. (30,000) - - (30,000)
Terminations........................ - (100,000) - (100,000)
---------- ----------- ----------- ------------
Balance at December 31, 1999........ 35,000 65,000 230,000 330,000
Additions........................... 20,000 100,000 126,350 246,350
Maturities.......................... - (25,000) (50,000) (75,000)
---------- ----------- ----------- ------------
Balance at December 31, 2000........ 55,000 140,000 306,350 501,350
Additions........................... 35,000 240,000 48,650 323,650
Maturities.......................... - - (70,000) (70,000)
Calls .............................. (45,000) - - (45,000)
Terminations........................ - - (40,000) (40,000)
---------- ----------- ----------- ------------
Balance at December 31, 2001........ $ 45,000 $ 380,000 $ 245,000 $ 670,000
========== =========== =========== ============
The following table sets forth the relative maturities and interest
rates related to Swaps and Caps outstanding at December 31, 2001.
22
Year of Maturity
------------------------------------------------------------
2006 and
2002 2003 2004 2005 Thereafter Total
---- ---- ---- ---- ---------- -------
(In thousands, except percentages)
Notional amount of receive fixed swap............. $ - $ - $ - $ - $ 45,000 $ 45,000
Received rate fixed.......................... - - - - 6.21% 6.21%
Pay rate variable............................ - - - - 1.90 1.90
Notional amount of pay fixed swaps................ $ - $ 50,000 $ 180,000 $ 90,000 $ 60,000 $ 380,000
Received rate variable....................... - 2.44% 2.26% 2.22% 2.68% 2.34%
Pay rate fixed............................... - 7.14 4.89 6.54 5.40 5.66
Notional amount of caps........................... $ 30,000 $ 140,000 $ - $ 25,000 $ 50,000 $ 245,000
Weighted average strike rate ................ 7.00% 7.45% - 8.00% 8.00% 7.56%
The Company enters into forward commitments and optional commitments to
sell loans based on the interest rates of loans currently in the Company's
pipeline. This reduces the impact of future changes in market rates on the value
of those loans upon sale. At December 31, 2001, the Company estimated that
approximately $47.9 million of unclosed loans in its pipeline would ultimately
require funding. Forward commitments totaling approximately $43.4 million
existed at December 31, 2001 relating to those loans or unfunded commitments.
Under the terms of SFAS 133, both the unfunded commitments in the pipeline and
the forward commitments related to those loans are considered derivatives
requiring the Company to record the market value of each in the balance sheet.
These derivatives do not qualify for hedge accounting treatment under SFAS 133,
therefore the change in market value is included in the income statement. During
2001, $.6 million is included in gain on sale of loans and mortgage servicing
rights for the market value of these derivatives.
The Company also utilizes forward commitments to reduce the impact of
changes in market value of mortgage loans available for sale until their
delivery. Under SFAS 133, these forward commitments are considered as fair value
hedges.
Market Risk
The Company's earnings are largely dependent on its net interest
income, which is the difference between interest income earned on all earning
assets, primarily loans and securities, and interest paid on all
interest-bearing liabilities, primarily deposits, FHLB borrowings and federal
funds purchased and securities sold under agreements to repurchase. Market risk
is the risk of loss from adverse changes in market prices and rates. The
Company's market risk arises primarily from inherent interest rate risk in its
lending, investing and deposit gathering activities. The Company seeks to reduce
its exposure to market risk through actively monitoring and managing its
interest rate risk. Management relies upon a variety of analyses to monitor and
manage its interest rate risk, primarily earnings simulation analysis, market
value analysis, and static GAP analysis. Earnings simulation analysis addresses
the impact of changes in the level of prevailing interest rates upon the Bank's
earnings by considering the effect of changes in the structure of rates, the
relationships between rates, and the resulting changes in the Bank's operating
activities and income. Market value analysis evaluates the impact of
instantaneous, parallel rate shocks on the Bank's MVPE. Static GAP analysis
calculates the degree of mismatch between the maturity, repricing, and
prepayments of the assets and the maturity and repricing of the deposits and
interest-bearing liabilities.
The primary earning assets, loans and securities, contain certain
features within individual types of loans and specific securities that create
uncertainty as to expected performance at varying levels of interest rates. In
some cases, options exist whereby the borrower may elect to repay the
obligation at any time. These prepayment options make anticipating the
performance of those instruments difficult in changing rate environments. At
December 31, 2001, mortgage backed securities, loans available for sale, and
loans, net of unearned income, amounting to $1.1 billion, or 88.0% of total
assets, have prepayment risks. Management believes that assumptions used in its
simulation on the performance of financial instruments with such risks are
appropriate. However, the actual performance of these financial instruments is
likely to differ from management's estimates due to several factors, including
the diversity and sophistication of the customer base, the general level of
prevailing interest rates and the relationship to their historical levels, and
general economic conditions. The difference between those assumptions
23
and actual results, if significant, could cause the actual results to differ
materially from those indicated by the simulation analysis.
Deposits totaled $873.1 million, or 66.9% of assets, at December 31,
2001. Since deposits are the primary funding source for earning assets, the
associated market risk is considered by management in its simulation analysis.
Generally, it is anticipated deposits will be sufficient to support funding
requirements. However, the rates paid for deposits at varying levels of
prevailing interest rates have a significant impact on net interest income and,
therefore, must be quantified by the Company in its simulation analysis.
Generally, the Company is considered to be liability sensitive, meaning that
earnings will tend to decrease as rates increase, and rise in a decreasing rate
environment. However, changes in the relationship between rates can also have
an impact on earnings, depending upon the direction and magnitude of the change.
The following table illustrates the results of simulation analysis
used by the Company to determine the extent to which market risk would have
affected the net interest rate margin if prevailing interest rates differed
from actual rates during 2001 and 2000. The table below ignores any changes to
the balance sheet resulting from normal on going operations of the Company.
Because of the inherent use of estimates and assumptions in the simulation
model used to derive this information, the actual results for 2001 and the
future impact of market risk on the Company's net interest rate margin is
likely to differ from that found in the table.
Market Risk
(In thousands, except percentages)
Year ended December 31, 2001 Year ended December 31, 2000
Change in ---------------------------- ----------------------------
Prevailing Net Interest Change from Net Interest Change from
Interest Rates Income Amount Income Amount Income Amount Income Amount
-------------- ------------- ------------- ------------- -------------
+200 basis points .............. $ 30,364 5.65 % $ 26,726 (14.93) %
+100 basis points .............. 29,717 3.40 29,584 (5.83)
+0 basis points ................ 28,740 - 31,416 -
- -100 basis points .............. 27,395 (4.68) 33,272 5.91
- -200 basis points .............. 25,093 (12.69) 35,230 12.14
24
ASSET QUALITY
Nonperforming Assets
The following table sets forth the Company's nonperforming assets for
the periods indicated.
As of December 31,
================================================================
2001 2000 1999 1998 1997
=========== =========== =========== =========== ============
(In thousands, except percentages)
Nonaccrual loans/(1)/............................... $ 15,291 $ 16,972 $ 6,805 $ 7,629 $ 6,065
Restructured loans.................................. 5,786 2,813 3,844 2,944 2,996
----------- ----------- ----------- ----------- ------------
Total nonperforming loans...................... 21,077 19,785 10,649 10,573 9,061
Foreclosed properties and
repossessed assets............................. 5,748 4,294 3,770 1,423 1,159
----------- ----------- ----------- ----------- ------------
Total nonperforming assets..................... $ 26,825 $ 24,079 $ 14,419 $ 11,996 $ 10,220
=========== =========== =========== =========== ============
Allowance for loan losses to period-end
nonperforming loans ........................... 59.84% 68.30% 104.37% 86.13% 80.93%
Allowance for loan losses to period-end
nonperforming assets ........................... 47.02% 56.12% 77.08% 75.92% 71.75%
Nonperforming assets to period-end
loans, net of unearned income, and
foreclosed properties and
repossessed assets ............................ 3.37% 2.68% 1.92% 1.47% 1.40%
Nonperforming loans to period-end
loans, net of unearned income ................. 2.67% 2.21% 1.42% 1.30% 1.24%
/(1)/ Includes all loans contractually past due 90 days or more as to principal
or interest.
Management closely monitors loans and other assets which are
classified as nonperforming assets. Nonperforming assets include nonaccrual
loans, restructured loans, and foreclosed properties and repossessed assets.
Management utilizes tracking and monitoring systems to identify potential
problem assets within all lending portfolios. It is the Company's policy to
place on nonaccrual status any loan that is contractually 90 days or more past
due with respect to principal or interest. When a loan is placed on nonaccrual
status, all accrued but unpaid interest is reversed and deducted from interest
income. No additional interest is accrued on the loan balance until collection
of both principal and interest is reasonably certain.
Beginning in late 2000 and continuing in 2001, general economic
conditions declined. Unemployment increased during this period and many
companies announced significant layoffs and reductions in the amount of workers
weekly hours. The tragic events of September 11, 2001 added further stress to
the economy.
The increase in nonaccrual loans at December 31, 2001 and 2000 is
related to the slowing of general economic conditions, and certain repurchased
governmental loans relating to the Company's loan servicing activities. One
significant construction lending relationship was added to restructured loans
during late 2001. The increased level of foreclosed properties and repossessed
assets is due to the foreclosure of construction loans related to the
bankruptcy of a developer in Nevada. The deterioration of the ratio of
nonperforming assets to period-end loans and foreclosed properties and
repossessed assets and the ratio of nonperforming loans to period-end loans is
primarily the
25
result of the reduced December 31, 2001 loan levels attributable to the
Securitization and general economic conditions. See the following section
"Provision and Allowance for Loan Losses" for a discussion of the adequacy of
the allowance.
The Company's nonperforming loans are generally secured by liens on
real estate or other assets. The liquidation of the collateral supporting these
nonperforming loans, in the event of foreclosure or repossession, would in
management's opinion significantly reduce the Company's net loss from these
loans.
The amount of interest income earned in 2001 on the $15.3 million of
nonaccruing loans outstanding at year-end was approximately $.7 million. If
these loans had been current in accordance with their original terms,
additional interest income of approximately $1.1 million would have been earned
on these loans in 2001.
The following tables set forth nonperforming loans by portfolio for
the dates presented.
As of December 31,
==========================================================
2001 2000
============================ ============================
% of % of
Average Average
Loans per Loans per
Balance Category Balance Category
============== ============ ============== ============
(In thousands, except percentages)
Residential mortgage............................................ $ 13,818 4.45% $ 14,859 3.24%
Automobile and other installment................................ 1,473 0.84 1,010 0.62
Residential construction and land .............................. 3,042 1.65 1,103 0.81
Commercial real estate.......................................... 2,744 1.94 2,813 2.14
------------- ------------ -------------- ------------
Total nonperforming loans/(1)/............................. $ 21,077 2.53 $ 19,785 2.21
============= ==============
/(1)/ There were no nonperforming loans in the commercial portfolio for the
periods presented.
Provision and Allowance for Loan Losses
Management establishes allowances for the purpose of absorbing losses
that are inherent within the loan portfolio and that are expected to occur
based on management's review of historical losses, underwriting standards,
changes in the composition of the loan portfolio, changes in the economy, and
other factors. The allowance for loan losses is maintained at a level
considered adequate to provide for losses as determined by management's
continuing review and evaluation of the loans and its judgment as to the impact
of economic conditions on the portfolio. Charges are made to the allowance for
loan losses that are charged-off during the year while recoveries of these
amounts are credited to the account. The Company follows a policy of charging
off loans determined to be uncollectible by management.
The Company's allowance for loan losses is based upon management's
judgment and assumptions regarding risk elements in the portfolio, future
economic conditions and other factors affecting borrowers. The evaluation of
the allowance for loan losses includes management's identification and analysis
of loss inherent in various portfolio segments using a credit grading process
and specific reviews and evaluations of certain significant problem credits. In
addition, management monitors the overall portfolio quality through observable
trends in delinquencies, charge-offs, and general economic conditions in the
service area with residential mortgage and automobile installment loan
portfolios each being evaluated collectively for impairment. The adequacy of
the allowance for loan losses and the effectiveness of the Company's monitoring
and analysis system are also reviewed periodically by the banking regulators.
26
The following table sets forth certain information with respect to the
Company's allowance for loan losses and the composition of charge-offs and
recoveries for each of the last five reporting periods.
Allowance for Loan Losses
As of and for the Year Ended December 31,
--------------------------------------------------------------------
2001 2000 1999 1998 1997
------------ ------------ ------------ ------------ ------------
(In thousands, except percentages)
Loans, net of unearned income, outstanding
as of December 31,............................. $ 789,238 $ 895,186 $ 748,277 $ 812,877 $ 727,854
============ ============ ============ ============ ============
Average loans, net of unearned income............... $ 834,465 $ 894,681 $ 898,379 $ 766,780 $ 713,935
============ ============ ============ ============ ============
Balance of allowance for loan losses
at beginning of period......................... $ 13,513 $ 11,114 $ 9,107 $ 7,333 $ 5,904
Loans charged off:
Residential mortgage........................... (3,739) (1,196) (1,206) (186) (41)
Installment.................................... (5,351) (3,576) (1,980) (3,019) (2,159)
Commercial real estate......................... - (4) - - -
------------- ------------ ------------ ------------ ------------
Total charge-offs......................... (9,090) (4,776) (3,186) (3,205) (2,200)
------------- ------------ ------------ ------------ ------------
Recoveries of loans previously charged off:
Residential mortgage........................... 993 131 140 43 15
Installment ................................... 1,834 1,479 1,415 992 660
Commercial real estate......................... - - - - -
------------- ------------ ------------ ------------ ------------
Total recoveries 2,827 1,610 1,555 1,035 675
------------- ------------ ------------ ------------ ------------
Net recoveries/(charge-offs)........................ (6,263) (3,166) (1,631) (2,170) (1,525)
Provision charged to expense ....................... 5,363 5,565 3,638 3,944 2,954
------------- ------------ ------------ ------------ ------------
Balance of allowance for loan losses
as of December 31,............................. $ 12,613 $ 13,513 $ 11,114 $ 9,107 $ 7,333
============= ============ ============ ============ ============
Allowance for loan losses to
loans, net of unearned income.................. 1.60% 1.51% 1.49% 1.12% 1.01%
Allowance for loan losses to
nonperforming loans............................ 59.84% 68.30% 104.37% 86.13% 80.93%
Net charge-offs to average loans, net of
unearned income 0.75% 0.35% 0.18% 0.28% 0.21%
27
Net charge-offs have increased in both 2001 and 2000. Installment
charge-offs were impacted by the declining economic conditions in 2001. In
addition, used car prices declined significantly during the second half of 2001
as a result of the pricing promotions offered on new automobiles by major
manufacturers.
Residential charge-offs increased largely due to higher than historical
losses as the Company worked through delinquency and foreclosure issues from
the liquidation of Avondale assets. The majority of these losses were
recognized in the second quarter of 2001. The Company is likely to experience
higher levels of residential net charge-offs in 2002 than 1999 and 2000 levels
due to the economic conditions and the continued liquidation of Avondale
assets.
The following table sets forth the components of the allowance for
loan losses related to the primary segments of the Company's loan portfolio. All
loan amounts are net of unearned income.
As of December 31,
------------------------------------------------------------------------------------------------
2001 2000 1999 1998
----------- --------- ------------- --------- ------------- -------- ------------- ---------
(In thousands, except percentages)
%of %of %of %of
Loans to Loans to Loans to Loans to
Allowance Total Allowance Total Allowance Total Allowance Total
Allocation Loans Allocation Loans Allocation Loans Allocation Loans
----------- --------- ------------- --------- ------------- -------- ------------- ---------
Residential mortgage............... $ 3,881 35.47% $ 5,107 41.10% $ 3,245 41.81% $ 2,326 56.03%
Automobile and other installment... 4,047 20.17 3,840 21.28 4,509 19.43 3,472 6.49
Residential construction and
Land............................. 1,509 20.61 1,665 18.81 550 18.33 499 17.81
Commercial real estate............. 2,816 21.14 2,741 17.61 2,810 19.57 2,810 19.11
Commercial......................... 360 2.61 160 1.20 - 0.86 - 0.56
----------- --------- ------------- --------- ------------- -------- ------------- ---------
Total.............................. $ 12,613 100.00% $ 13,513 100.00% $ 11,114 100.00% $ 9,107 100.00%
=========== ========= ============= ========= ============= ======== ============= =========
As of December 31,
---------------------
1997
---------------------
(In thousands, except percentages)
%of
Loans to
Allowance Total
Allocation Loans
----------- ---------
Residential mortgage.............. $ 2,373 52.66%
Automobile and other installment.. 1,651 13.29
Residential construction and
Land...... ................... 499 12.09
Commercial real estate............ 2,810 21.76
Commercial........................ - 0.20
----------- ---------
Total............................. $ 7,333 100.00%
=========== =========
Based on present information and an ongoing evaluation, management
considers the allowance for loan losses to be adequate to meet presently known
and inherent risks in the loan portfolio. Management's judgment as to the
adequacy of the allowance is based upon a number of assumptions about future
events that it believes to be reasonable but which may or may not be valid.
Thus, there can be no assurance that charge-offs in future periods will not
exceed the allowance for loan losses or that additional increases in the
allowance for loan losses will not be required.
NONINTEREST INCOME AND EXPENSE
Noninterest Income
Noninterest income consists primarily of fees from mortgage banking
activities, including origination fees, loan administration fees, gains or
losses on sales of loans and mortgage servicing rights, and gains and losses on
sales of investment securities available for sale. Total noninterest income
increased $9.9 million, or 24.9%, to $49.4 million in 2001 from $39.5 million in
2000. The following table sets forth, for the periods indicated, the principal
components of noninterest income.
28
For The Year Ended
December 31,
---------------------------------------
2001 2000 1999
---- ---- ----
(In thousands)
Loan administration income............. $ 11,277 $ 11,409 $ 10,348
Origination fees....................... 12,324 8,190 9,758
Other lending fees..................... 4,027 2,310 2,957
Gain/(loss) on sale of investment
Securities available for sale........ 1,206 (639) 381
Gain on sale of loans and mortgage
Servicing rights....... ........... 19,212 14,599 12,058
Other income........................... 1,351 3,671 2,467
-------- -------- ---------
Total noninterest income.... $ 49,397 $ 39,540 $ 37,969
======== ======== =========
- --------------------------------------------------------------------------------
29
The primary component of loan administration income is servicing fee
income received from various outside investors. In 2000, loan administration
fees increased $1.1 million, or 10.3%, from $10.3 million in 1999. The increase
in 2000 was due primarily to the full year impact of securitizations done in
1999. Under the terms of the Company's contract with GMAC Mortgage ("GMAC") for
the sale of agency servicing rights, approximately $90 million of the following
servicing rights were sold on January 31, 2002 at a net gain to the Company. The
Company's contract with GMAC expired on January 31, 2002 and the value the
Company receives from the sale of its servicing rights may decline in 2002 from
2001 levels. Loans serviced for others are set forth in the following table:
As of December 31,
---------------------------------------
2001 2000 1999
----------- ----------- -----------
(In thousands)
GNMA ................................ $ 385,782 $ 302,618 $ 328,564
Freddie Mac ......................... 506,553 692,141 709,402
Fannie Mae .......................... 345,048 130,711 138,637
Other investors ..................... 1,790,341 882,294 937,747
----------- ----------- -----------
Total loans serviced for others... $ 3,027,724 $ 2,007,764 $ 2,114,350
=========== =========== ===========
Origination fees increased $4.1 million, or 50.5%, to $12.3 million in
2001 from $8.2 million in 2000 and decreased $1.6 million, or 10.3%, from $9.8
million in 1999. Other lending fees increased $1.7 million, or 74.3%, to $4.0
million in 2001 from $2.3 million in 2000 and decreased $.7 million, or 21.9%,
from $3.0 million in 1999. These changes result primarily from the number of
residential conforming mortgage loan originations. The following table sets
forth, for the periods indicated, loan originations by significant loan type.
For the Year Ended December 31,
-----------------------------------------
2001 2000 1999
----------- ------------ ------------
(In thousands)
Residential
Conforming......................... $ 965,346 $ 542,550 $ 709,418
Nonconforming...................... 158,821 169,259 248,375
Automobile and other installment:
Prime ............................. 53,471 68,649 134,687
Other ............................. 10,202 18,468 10,131
Manufactured housing
Mortgage........................... 1,883 2,702 17,173
Non-mortgage....................... 16,435 25,787 82,963
Residential construction and land.... 315,999 261,329 233,629
Commercial real estate (1)........... 43,430 119,192 59,064
Commercial........................... 11,114 9,440 8,532
----------- ----------- ------------
$ 1,576,701 $ 1,217,376 $ 1,503,972
=========== =========== ============
(1) Consists primarily of commercial real estate loans generated by CMC, for
which CMC earns an origination fee. The loans are funded by New South
and closed in New South's name.
The Company sells specific investment securities available for sale
from time to time as necessary to meet its overall liquidity goals and to
address changes in the various interest rate and securities markets. The gains
or losses relating to such sales are influenced by multiple factors, including
the repayment characteristics of the specific investment security being sold as
well as changes in interest rates. The Company realized gains of $1.2 million on
the sale of $65.8 million of investments available for sale in 2001.
30
An increase of $4.6 million, or 31.6%, was experienced in the gain on
sales of loans and mortgage servicing rights between 2000 and 2001, as compared
to a $2.5 million, or 21.1% increase in this same category between 1999 and
2000. Securitization activity significantly effected recorded gains and losses
and is set forth, for the periods indicated, in the following table. The
remaining increase in 2001 is attributable to increased conforming loan
production.
Loan Securitization Activity
For the Year Ended December 31,
-------------------------------
2001 2000 1999
---- ---- ----
(In thousands)
Loans securitized $ 254,000 $ 29,000 $ 646,000
========= ========== =========
Gain/(loss) on securitization of loans $ 3,700 $ 32 $ (1,000)
========== ========== ==========
Noninterest Expense
Total noninterest expense increased $4.1 million, or 7.5%, from $54.6
million in 2000 to $58.7 million in 2001. The increase was largely due to
increased loan origination volume. The following table sets forth, for the
periods indicated, the principal components of noninterest expense:
For The Year Ended
December 31,
--------------------------------------
2001 2000 1999
---- ---- ----
(In thousands)
Salaries and benefits................... $ 34,639 $ 31,005 $ 34,347
Net occupancy and equipment expense..... 4,750 5,962 6,193
Computer service........................ 2,951 1,787 1,967
Legal and professional.................. 2,502 1,772 2,274
Supplies and printing................... 1,726 1,868 2,239
Telephone............................... 1,346 1,291 1,431
Advertising............................. 729 810 1,753
Other expense........................... 10,079 10,137 11,902
---------- ---------- ----------
Total noninterest expense $ 58,722 $ 54,632 $ 62,106
========== ========== ==========
During 2001, salaries and benefits totaled $34.6 million, an increase of
$3.6 million, or 11.7%, from $31.0 million during 2000. Increases of $4.6
million, primarily related to higher compensation resulting from an increase in
residential loan production volume, was, and to a lesser degree construction
loans was offset by $1.0 million in savings resulting from the Divestiture.
Net occupancy and equipment expense was $4.8 million in 2001 and $6.0
million in 2000, a decrease of $1.2 million, or 20.3%. The 2001 decrease is
primarily related to savings resulting from the Divestiture of $.8 million. In
2000, the $.2 million decrease resulted from $1.1 million in savings associated
with the Divestiture, as reduced by a full year's expenses associated with the
Company's operations center, after its late 1999 opening.
Computer service expenses totaled $3.0 million, $1.8 million, and $2.0
million in 2001, 2000, and 1999, respectively. These expenses relate to the
annual costs for maintenance of computer hardware and licensing of the Company's
core application software. The increase in 2001, $1.2 million, resulted
primarily from the consolidation and conversion of loan, deposit, and general
ledger accounting systems, including the costs associated with parallel
operation of multiple systems and various programming associated with the new
systems.
31
Legal and professional expenses totaled $2.5 million in 2001 and $1.8
million in 2000, an increase of $.7 million, or 41.2%. Legal and professional
expenses reflect higher cost related to the level of nonperforming assets in
2001 and tax planning fees.
Supplies and printing expenses, telephone, and other expenses are
related to the level of residential loan production volume and is consistent
with the loan production variability. Reductions in these expenses resulting
from the Divestiture totaled $1.3 million in both 2001 and 2000.
EARNING ASSETS
Loans
The Company on a regular basis performs and utilizes services of
affiliated companies. In addition, the Company periodically enters into one-time
transactions with affiliates. These transactions are described in more detail in
Item 13 "Certain Relationships and Related Transactions."
Loans are the single largest category of earning assets and typically
provide higher yields than other categories. Total loans, net of unearned
income, decreased $106.0 million, or 11.8%, to $789.2 million at December 31,
2001 from $895.2 million at December 31, 2000 and increased $146.9 million, or
19.6 %, from $748.3 million at December 31, 1999 to $895.2 million at December
31, 2000, reflecting primarily the level of loan securitization activity for
nonconforming residential mortgages in 2001 and 1999.
The following table sets forth the composition of the loan portfolio by
category as of December 31 for the years indicated.
As of December 31,
------------------
2001 2000 1999 1998 1997
---- ---- ---- ---- ----
(In thousands)
Residential mortgage
Conforming.............................. $ 153,944 $ 200,651 $ 268,377 $ 127,765 $ 252,568
Nonconforming........................... 127,473 181,410 45,513 328,721 132,700
---------- ---------- ---------- ---------- ----------
Total residential mortgage loans 281,417 382,061 313,890 456,486 385,268
Automobile and other Installment
Automobile
Prime................................. 101,358 94,923 75,353 39,643 84,769
Other ................................ 20,267 18,036 10,010 1,436 12,147
Manufactured housing.................... 39,734 68,665 64,915 12,589 -
---------- ---------- ---------- ---------- ----------
Total installment loans 161,359 181,624 150,278 53,668 96,916
Residential construction and land......... 162,635 168,390 136,831 144,771 87,889
Commercial real estate.................... 167,136 157,977 146,072 155,765 158,377
Commercial................................ 20,574 10,689 6,417 4,579 1,467
---------- ---------- ---------- ---------- ----------
Total loans............................. 793,121 900,741 753,488 815,269 729,917
Less unearned income...................... 3,883 5,555 5,211 2,392 2,063
---------- ---------- ---------- ---------- ----------
Loans net of unearned income............ $ 789,238 $ 895,186 $ 748,277 $ 812,877 $ 727,854
========== ========== ========== ========== ==========
The Company originates and purchases some residential mortgage and
automobile installment loans that are available to be sold should liquidity
needs, loan portfolio mix, or other asset/liability management needs arise.
Loans may be securitized or sold directly into the secondary market. The
composition of the Company's loan portfolio may be significantly changed by the
timing and amount of these sales.
The largest component of the Company's loan portfolio is residential
mortgage loans. Residential mortgage loans consist of conforming loans, which
are originated primarily through the Company's loan production offices, and
nonconforming loans, which are originated primarily through correspondent
relationships or through the
32
Company's retail branch network. Generally, conforming residential
mortgage loans adhere to the underwriting guidelines of Fannie Mae ("FNMA"),
Freddie Mac ("FHLMC"), the Federal Housing Administration or the Veterans
Administration. Nonconforming residential mortgage loans typically do not
exceed the standard agency maximum loan size guidelines, but the borrower may
fail to meet one or more other guidelines relating to creditworthiness, such as
acceptable debt ratios and acceptable consumer loan payment histories. See
"Business--Residential Mortgage Lending."
Automobile and other installment loans consists primarily of automobile
and manufactured housing loans, for the purchase of the home only. Most of the
automobile installment loans are originated on an indirect basis through a
network of approximately 470 automobile dealers located in Alabama, Georgia,
Florida, Tennessee, Mississippi, and Texas. Dealers are selected based on their
financial strength and references. The majority of New South's automobile
installment loans are considered to be prime loans by industry standards. New
South does offer other products to certain qualifying consumers who report
credit bureau scores below the prime threshold due to delinquencies on certain
accounts or other factors. The Company initiated the manufactured housing
lending program in August 1998 providing for direct and indirect origination of
loans. See "Business--Automobile Installment Lending."
As a percentage of loans, net of unearned income, total automobile and
other installment loans were 20.4% at December 31, 2001 and 20.3% at December
31, 2000. The 2001 decrease in balances resulted from the inclusion of
approximately $24.0 million of manufactured housing loans in the 2001
Securitization, and reflects weaker consumer demand in the automobile lending
programs. The 2000 and 1999 increases in the portfolio follows a 1998 decrease
resulting from a $125.0 million securitization of automobile installment loans.
The Company also makes residential construction and land development
loans. As a percentage of loans, net of unearned income, these loans were 20.6%
at December 31, 2001 compared to 18.8 % at December 31, 2000. All loans in this
category generally mature in one year or less and have a variable interest rate.
See "Business--Other Lending."
The Company maintains a minimal amount of commercial loans to certain
independent automobile dealers to finance such dealers' automobile inventories.
Referred to as Floor Plan Loans, these loans are revolving in maturity and have
a variable interest rate. See "Business--Other Lending."
The amounts of total gross loans, excluding residential mortgage and
automobile installment, outstanding at December 31, 2001 and December 31, 2000,
based on remaining scheduled repayments of principal due in one year or less,
more than one year but less than five years, and more than five years are shown
in the following tables. Amounts are classified according to sensitivity to
changes in interest rates.
33
Maturity and Interest Rate Sensitivity of Selected Loan Categories
As of December 31, 2001
----------------------------------------------------------------------------------------------
Due After One Year But
Due in One Year or Less Within Five Years Due After Five Years
----------------------------- ------------------------ --------------------------
Fixed Variable Sub- Fixed Variable Sub- Fixed Variable Sub-
Rate Rate Total Rate Rate Total Rate Rate Total Total
------- -------- -------- ------- --------- ------- ------ -------- ------ ----------
(In thousands)
Residential construction and land.. $ - $162,635 $162,635 $ - $ - $ - $ - $ - $ - $ 162,635
Commercial real estate............. 17,716 35,162 52,878 12,762 55,341 68,103 43,286 2,869 46,155 167,136
Commercial....................... - 20,574 20,574 - - - - - - 20,574
------- -------- -------- ------- --------- ------- ------ -------- ------ ----------
$17,716 $218,371 $236,087 $12,762 $55,341 $68,103 $43,286 $2,869 $46,155 $ 350,345
======= ======== ======== ======= ========= ======= ====== ======== ====== ==========
As of December 31, 2000
----------------------------------------------------------------------------------------------
Due After One Year But
Due in One Year or Less Within Five Years Due After Five Years
----------------------------- ------------------------ --------------------------
Fixed Variable Sub- Fixed Variable Sub- Fixed Variable Sub-
Rate Rate Total Rate Rate Total Rate Rate Total Total
------- -------- -------- ------- --------- ------- ------ -------- ------ ----------
(In thousands)
Residential construction and land.. $ - $168,390 $168,390 $ - $ - $ - $ - $ - $ - $168,390
Commercial real estate............. 3,877 10,075 13,952 30,452 57,253 87,705 50,747 5,573 56,320 157,977
Commercial......................... - 10,689 10,689 - - - - - - 10,689
------- -------- -------- ------- --------- ------- ------ -------- ------ ----------
$3,877 $189,154 $193,031 $30,452 $57,253 $87,705 $50,747 $5,573 $56,320 $337,056
======= ======== ======== ======= ========= ======= ====== ======== ====== ==========
Investment Securities
Total investment securities averaged $278.1 million for 2001, of which
$82.5 million were related to the GNMA Strategy, compared to $183.7 million in
2000, an increase of $94.4 million, or 51.4%. At December 31, 2001, all
investment securities were classified as available for sale and recorded at
market value. The Company elected to classify its entire securities portfolio
as available for sale in order to maximize flexibility in meeting funding
requirements. Footnote 3 "Investment Securities Available for Sale,"
incorporated herein by reference, shows the book value and unrealized gain and
losses of the Company's securities.
The following table sets forth the scheduled maturities and average
yields of securities held at December 31, 2001.
34
Due After One Due After Five
Due Within But Within But Within Due After
One Year Five Years Ten Years Ten Years Total
------------------ --------------- ------------------ ---------------
Amount Yield Amount Yield Amount Yield Amount Yield Amount(2)
-------- ------ ------- -------- -------- ------- -------- -------- -----------
(In thousands, except percentages)
Mortgage-backed securities(1)....... $ - $ 24 6.64% $ 177 6.38% $241,227 6.37% $241,428
U. S. Treasury and federal agency... - - 35,897 5.89 15,379 7.19 - - 51,276
------- -------- -------- -------- -----------
Total............................. $ - $ 35,921 5.89% $ 15,556 7.18% $241,227 6.37% $292,704
======= ======== ======== ======== ===========
Percentage of total portfolio....... 12.27% 5.31% 82.42%
(1) Maturity of MBS was determined based on contractual maturity.
(2) FHLB Stock of $8.0 million and interest only strip of $1.9 million are not included.
At December 31, 2001 and 2000, 79.8% and 65.2%, respectively of the
securities portfolio consisted of mortgage-backed securities. Generally, these
securities consist of pooled, homogeneous residential mortgage loans guaranteed
by GNMA, FNMA, or FHLMC. These securities are subject to the risk of prepayment
on the underlying mortgages. At December 31, 2001 and 2000, 96.7% and 93.7%,
respectively of the securities portfolio consisted of United States Treasury and
federal agency securities, which are backed by the full faith and credit of the
United States government or its agencies.
DEPOSITS AND OTHER INTEREST-BEARING LIABILITIES
Average interest-bearing liabilities increased $58.5 million, or 5.8%,
to $1.08 billion in 2001 from $1.02 billion in 2000. Average interest-bearing
deposits, increased $47.0 million, or 6.2%, to $802.2 million in 2001 from
$755.2 million in 2000. Average federal funds purchased and Security Repo
Agreements, increased by $41.7 million, or 62.2% to $108.8 million in 2001 from
$67.0 million in 2000, reflecting the net increase resulting from the
utilization of Security Repo Agreement funding related to the Company's GNMA
Strategy, as reduced by a portion of the proceeds from the 2001 Securitization.
Federal Home Loan Bank ("FHLB") advances averaged $130.2 million during 2001 and
$160.4 million, a decrease of $30.2 million, or 18.8%, as FHLB advances were
repaid with the proceeds of the 2001 Securitization.
Deposits
Deposits are a significant source of funding for the Company. The
Company's loan-to-deposit ratio was 90.4% at December 31, 2001 and 97.7% at
December 31, 2000. The Company has been able to attract deposits throughout the
United States by consistently paying nationally competitive rates.
35
The following table sets forth the average deposits of the Company by
category for the dates indicated.
As of December 31,
--------------------------------------
2001 2000 1999
----------- --------- ------------
(In thousands)
Time................................. $ 713,809 $ 677,502 $ 629,829
Savings.............................. 83,510 73,858 83,035
Non-interest bearing................. 63,362 57,385 76,507
Interest-bearing demand.............. 4,868 3,845 3,689
----------- --------- ------------
Total average deposits........ $ 865,549 $ 812,590 $ 793,060
=========== ========= ============
The increase in average deposits is primarily due to the increase in
average time deposits, which increased $36.3 million, or 5.4%, to $713.8
million in 2001 from $677.5 million in 2000. At December 31, 2001, brokered
deposits totaled $269.6 million, or 33.2% of total deposits, compared with
$290.9 million at December 31, 2000, or 31.8% of total deposits. The Company
has historically relied upon brokered deposits as a significant funding source
and is expected to maintain reliance on such funding in the future.
Savings accounts, including money market accounts, averaged $83.5
million in 2001 and $73.9 million in 2000, an increase of $9.6 million, or
13.1%. As rates declined in 2001, balances increased in these more liquid types
of accounts.
There was an increase in average noninterest-bearing demand deposits of
$6.0 million, or 10.4%, from $57.4 million at December 31, 2000 to $63.4 million
at December 31, 2001. This increase is due primarily from an increase in the
number and dollar volume of residential mortgage loan originations and their
effect on outstanding official checks used to fund such loans.
The maturity distribution of the Company's time deposits over $100,000
(in thousands) as of December 31, 2001 is set forth in the following table.
Three months or less................................ $ 107,286
Over three months through six months................ 42,597
Over six months through twelve months............... 88,350
Over twelve months.................................. 122,003
---------------
$ 360,236
===============
Approximately 29.8% of the Company's time deposits over $100,000 had
scheduled maturities within 3 months. These deposits are primarily obtained
through a broker network.
36
Borrowed Funds
Borrowed funds consist primarily of, Security Repo Agreements, and
advances from the FHLB. The following table sets forth information regarding
the Company's borrowings over the periods indicated.
Weighted Average Average
Average Maximum Ending Interest Rate at Rate
Balance Outstanding Balance Year-End Paid
---------- ------------ ---------- ------------------- --------
(In thousands, except percentages)
As of and for the year ending December 31, 2001
Federal funds purchased and securities sold under
agreement to repurchase............................ $ 97,419 $ 207,123 $196,749 3.11% 4.86%
FHLB advances....................................... 130,196 288,415 120,025 4.49% 5.22%
As of and for the year ending December 31, 2000
Federal funds purchased and securities sold under
agreement to repurchase............................ $ 60,132 $ 83,808 $ 53,213 6.66% 7.10%
FHLB advances....................................... 160,397 193,416 33,415 6.44% 6.80%
As of and for the year ending December 31, 1999
Federal funds purchased and securities sold under
agreement to repurchase............................ $ 42,132 $ 73,054 $ 50,923 6.09% 5.29%
FHLB advances......................................... 158,782 218,418 128,417 5.87% 5.33%
FHLB advances were $120.0 million at December 31, 2001 and $133.4
million at December 31, 2000, a decrease of $13.4 million, or 10.0%. Average
FHLB advances for 2001 were $130.1 million compared to $160.4 million for 2000,
a decrease of $30.2 million, or 18.8%. These decreases reflect the application
of proceeds from the 2001 Securitization to reduce outstanding advances. The
Company intends to continue using FHLB advances as a significant funding source.
Federal funds purchased and Security Repo Agreements totaled $196.7
million at December 31, 2001 and $53.2 million at December 31, 2000, an
increase of $143.5 million. Average Federal funds purchased and Security Repo
Agreements for 2001 were $97.4 million compared to $60.1 million for 2000, an
increase of $37.3 million, or 62.0%. These increases reflect the utilization of
this funding source in the GNMA Strategy. The Company anticipates the continued
use of Security Repo Agreements as a funding source for its investment
portfolio.
CAPITAL
The OTS requires thrift financial institutions to maintain capital at
adequate levels based on a percentage of assets and off-balance sheet exposures,
adjusted for risk weights ranging from 0 percent to 100 percent. Under the
risk-based standard, capital is classified into two tiers. Tier 1 capital of New
South consists of common shareholder's equity, excluding the unrealized gain or
loss on securities available for sale, plus minority interest in consolidated
subsidiaries. New South's Tier 2 capital consists of the general reserve for
possible loan losses subject to certain limitations. Certain capital ratios
require deductions from Tier 1 capital for certain high loan-to-value ratio
loans and low level recourse assets. Consolidated regulatory capital
requirements do not apply to thrift holding companies. The following table sets
forth the specific capital amounts and ratios for the indicated periods:
37
Analysis of Capital
As of December 31,
---------------------------------
2001 2000
------------ ------------
(In thousands, except for percentages)
Shareholder's equity.............................. $ 87,808 $ 98,345
Minority interest in consolidated subsidiaries.... 276 206
Other comprehensive (income) loss................. 11,093 (215)
-------------- --------------
Tier 1 capital.................................. 99,177 98,336
Allowance for loan losses........................ 9,910 9,282
-------------- --------------
Tier 2 capital.................................. 9,910 9,282
Certain high loan-to-value ratio loans............ 213 150
Low level recourse deduction...................... 8,594 8,259
-------------- --------------
Total deductions................................ 8,807 8,409
-------------- --------------
Total risk-based capital........................ $ 100,280 $ 99,209
============== ==============
Risk-weighted assets (including off-balance
sheet exposure)................................. $ 851,056 $ 898,939
Tier 1 leverage ratio............................. 7.66% 8.05%
Total risk-based capital ratio.................... 11.78 11.04
Tier 1 risk-based capital ratio /(1)/............. 10.64 10.02
/(1)/ Tier 1 capital utilized in the tier 1 capital ratio is reduced by the
low level recourse deduction.
New South has consistently exceeded regulatory minimum guidelines and
it is the intention of management to continue to monitor these ratios to ensure
regulatory compliance and maintain adequate capital for New South. New South's
current capital ratios place New South in the regulatory defined
well-capitalized category.
LIQUIDITY MANAGEMENT AND CAPITAL RESOURCES
Liquidity management involves monitoring the Company's sources and
uses of funds in order to meet its day-to-day cash flow requirements while
maximizing profits. Liquidity represents the ability of a company to convert
assets into cash or cash equivalents without significant loss and to raise
additional funds by increasing liabilities. Without proper liquidity
management, the Company would not be able to perform the primary function of a
financial intermediary and would, therefore, not be able to meet the needs of
the customers it serves.
Liquidity management is made more complex because different balance
sheet components are subject to varying degrees of management control. For
example, the timing of maturities in the investment securities available for
sale portfolio is predictable and is, therefore, subject to a high degree of
control at the time investment decisions are made. However, net deposit inflows
and outflows are less predictable and are not subject to the same degree of
control.
New South is required by OTS regulations to maintain minimum levels of
liquid assets. This requirement, which may be changed at the discretion of the
OTS depending upon economic conditions and net deposit flows, is based upon a
percentage of deposits and short-term borrowings. The required minimum ratio is
currently four percent. New South management monitors liquidity closely and
continues to ensure liquidity ratios are in excess of the minimum requirements.
The Company depends on deposits, including brokered certificates of
deposit; FHLB advances, and reverse repurchase agreements as primary sources of
liquidity. Brokered deposits approximated 33.2% of total deposits as of
December 31, 2001. These brokered deposits are either deposits solicited by the
Company from national and
38
regional brokerage firms, which accounted for approximately $269.6 million of
deposits at December 31, 2001, or are unsolicited and are brought to New South
by the Company's competitive rates. The solicited brokered deposits are
utilized as alternative funding sources that are often cheaper than retail
deposits or other funding sources. However, this funding source is highly
interest rate sensitive and, as such, the Bank never considers brokered
deposits, either singly or as a whole, to be a permanent funding source. In the
unlikely event that the Company is unable to replace or maintain a current
level of brokered certificate of deposit funding, the Company can either
increase efforts in the retail deposit market or can utilize any of the various
alternative funding sources available.
As of December 31, 2001, alternative funding sources included $45.0
million of available lines to purchase federal funds, $2.2 million of unused
revolving credit facilities, and $95.0 million in unused FHLB borrowing
capacity. In addition, the New South Joint Ventures have $9.6 million in
available warehousing lines of credit from other financial institutions to meet
their loan origination needs. The ability to draw on certain of these funding
sources is subject to having sufficient collateral. The Company also had $19.1
million of unpledged investment securities available for sale to serve as
security for additional borrowings. Reliance on all funding sources is monitored
on an ongoing basis to insure no reliance upon a single source and to insure
that adequate reserve sources are available, if needed.
The Company completed the issuance of $16 million of Trust Preferred
Securities ("TPS") through a private placement with an investment bank which
closed on March 26, 2002. Proceeds from the sale of TPS will be used to repay
Bancshares working capital loans, as additional tier 2 capital for the Bank and
other corporate purposes. The TPS will bear an interest rate of 90-day LIBOR
plus 360 basis points and will not exceed 11 percent for the initial five years
outstanding. The initial interest rate is 5.59 percent. The TPS are callable at
the Company's option, at par, beginning March 26, 2007 and mature March 26,
2032.
Accounting Rule Changes
In June 2001, the FASB issued SFAS No. 141, Business Combinations
("SFAS 141") and SFAS No. 142, Goodwill and Other Intangible Assets ("SFAS
142"). These statements revise the standards of accounting for business
combinations and related goodwill and other intangible assets. SFAS 141 is
generally effective for business combinations after July 1, 2001 and SFAS 142 is
effective for fiscal years beginning after December 15, 2001 with certain
provisions effective earlier. Management does not expect the requirements of
these statements to have a significant impact on the financial statements.
In August 2001, the FASB issued SFAS No. 144, Accounting for the
Impairment or Disposal of Long-Lived Assets ("SFAS 144"). This statement revises
the standards of accounting for the accounting and reporting for the impairment
or disposal of long-lived assets. SFAS 144 is effective for fiscal years
beginning after December 15,2001. Management does not expect the requirements of
this statement to have a significant impact on the financial statements.
39
NEW SOUTH BANCSHARES, INC.
Consolidated Financial Statements
December 31, 2001 and 2000
40
NEW SOUTH BANCSHARES, INC.
Consolidated Financial Statements
December 31, 2001 and 2000
Contents
Report of Independent Public Accountants.................................. 42
Audited Financial Statements
Consolidated Balance Sheets.......................................... 43
Consolidated Income Statements....................................... 44
Consolidated Statements of Shareholders' Equity...................... 45
Consolidated Statements of Cash Flows................................ 46
Notes to Consolidated Financial Statements........................... 47
41
[LOGO]
ANDERSEN
REPORT OF INDEPENDENT PUBLIC ACCOUNTANTS
To New South Bancshares, Inc.:
We have audited the accompanying consolidated balance sheets of NEW SOUTH
BANCSHARES, INC. AND SUBSIDIARIES (a Delaware corporation) as of December 31,
2001 and 2000, and the related consolidated statements of income, shareholders'
equity, and cash flows for each of the three years in the period ended December
31, 2001. These financial statements are the responsibility of the Company's
management. Our responsibility is to express an opinion on these financial
statements based on our audits.
We conducted our audits in accordance with auditing standards generally accepted
in the United States. Those standards require that we plan and perform the audit
to obtain reasonable assurance about whether the financial statements are free
of material misstatement. An audit includes examining, on a test basis, evidence
supporting the amounts and disclosures in the financial statements. An audit
also includes assessing the accounting principles used and significant estimates
made by management, as well as evaluating the overall financial statement
presentation. We believe that our audits provide a reasonable basis for our
opinion.
In our opinion, the financial statements referred to above present fairly, in
all material respects, the financial position on New South Bancshares, Inc. and
Subsidiaries as of December 31, 2001 and 2000, and the results of their
operations and their cash flows for each of the three years in the period ended
December 31, 2001 in conformity with accounting principles generally accepted in
the United States.
As explained in Note 1 to the financial statements, effective January 1, 2001,
the Company changed its method of accounting for derivative instruments and
hedging activities.
/s/ Arthur Andersen LLP
Birmingham, Alabama
February 26, 2002
42
NEW SOUTH BANCSHARES, INC.
CONSOLIDATED BALANCE SHEETS
December 31,
---------------------------
2001 2000
------------- -----------
(In thousands)
ASSETS
Cash and due from banks $ 9,499 $ 14,286
Interest-bearing deposits in other banks 16,138 11,033
Investment securities available for sale 302,608 168,176
Residual interest in loan securitizations 8,594 8,259
Loans available for sale 118,267 74,449
Loans, net of unearned income 789,238 895,186
Allowance for loan losses (12,613) (13,513)
------------ ------------
Net Loans 776,625 881,673
Premises and equipment, net 7,959 9,049
Mortgage servicing rights, net 19,777 16,176
Servicing advances 17,160 9,481
Other assets 28,694 30,195
------------ ------------
Total Assets $ 1,305,321 $ 1,222,777
============ ============
LIABILITIES AND SHAREHOLDERS' EQUITY
Deposits:
Noninterest-bearing $ 65,057 $ 63,037
Interest-bearing 808,000 853,189
------------ ------------
Total Deposits 873,057 916,226
Federal funds purchased and securities sold under
agreements to repurchase 196,749 53,213
Federal Home Loan Bank advances 120,025 133,415
Notes payable 10,295 11,599
Guaranteed preferred beneficial interests in the Company's
subordinated debentures 34,500 34,500
Accrued expenses, deferred revenue, and other liabilities 20,095 13,816
------------ ------------
Total Liabilities 1,254,721 1,162,769
Commitments and contingencies (see Note 22)
Shareholders' Equity:
Common stock of $1.00 par value (authorized: 1.5 million shares; issued
and outstanding: 1,255,537.1 at December 31, 2001 and 2000) 1,256 1,256
Surplus 29,475 29,475
Retained earnings 30,962 29,062
Accumulated other comprehensive income (loss), net (11,093) 215
------------ ------------
Total Shareholders' Equity 50,600 60,008
------------ ------------
Total Liabilities and Shareholders' Equity $ 1,305,321 $ 1,222,777
============ ============
See accompanying notes to consolidated financial statements.
43
NEW SOUTH BANCSHARES, INC.
CONSOLIDATED FINANCIAL STATEMENTS
Years ended December 31,
--------------------------------------
2001 2000 1999
----------- ---------- -----------
(In thousands, except per share data)
Interest Income:
Interest on securities available for sale $ 18,545 $ 13,372 $ 7,704
Interest on loans 72,272 84,113 76,829
Interest on other short-term investments 690 519 823
----------- ---------- -----------
Total Interest Income 91,507 98,004 85,356
Interest Expense:
Interest on deposits 47,386 47,856 39,833
Interest on federal funds purchased and securities sold
under agreements to repurchase 4,730 4,271 2,232
Interest on Federal Home Loan Bank advances 6,798 10,914 8,461
Interest on notes payable 921 615 126
Interest expense on guaranteed preferred beneficial interests in
the Company's subordinated debentures 2,932 2,932 2,932
----------- ---------- -----------
Total Interest Expense 62,767 66,588 53,584
Net Interest Income 28,740 31,416 31,772
Provision for Loan Losses 5,363 5,565 3,638
----------- ---------- -----------
Net Interest Income After Provision for Loan Losses 23,377 25,851 28,134
Noninterest Income:
Loan administration income 11,277 11,409 10,348
Origination fees 12,324 8,190 9,758
Gain/(Loss) on sale of investment securities available for sale 1,206 (639) 381
Gain on sale of loans and mortgage servicing rights 19,212 14,599 12,058
Other income 5,378 5,981 5,424
----------- ---------- -----------
Total Noninterest Income 49,397 39,540 37,969
Noninterest Expense:
Salaries and benefits 34,639 31,005 34,347
Net occupancy and equipment expense 4,750 5,962 6,193
Other expense 19,333 17,665 21,566
----------- ---------- -----------
Total Noninterest Expense 58,722 54,632 62,106
----------- ---------- -----------
Income Before Provision for Income Taxes and Cumulative
Effect of a Change in Accounting Principle 14,052 10,759 3,997
Provision for Income Taxes 720 644 1,406
----------- ---------- -----------
Income Before Cumulative Effect of a Change in Accounting
Principle 13,332 10,115 2,591
Cumulative Effect of a Change in Accounting for Derivative
Instruments and Hedging Activities, Net of Tax Benefit of $72 1,124 - -
----------- ---------- -----------
Net Income $ 12,208 $ 10,115 $ 2,591
=========== ========== ===========
Weighted average shares outstanding 1,256 1,256 1,255
Earnings per share
Before Cumulative Effect of a Change in Accounting for Derivative
Instruments and Hedging Activities $ 10.61 $ 8.05 $ 2.06
=========== ========== ===========
Cumulative Effect of a Change in Accounting for Derivative
Instruments and Hedging Activities $ 0.89 $ - $ -
=========== ========== ===========
Net Income $ 9.72 $ 8.05 $ 2.06
=========== ========== ===========
44
See accompanying notes to consolidated financial statements.
NEW SOUTH BANCSHARES, INC.
CONSOLIDATED STATEMENTS OF SHAREHOLDERS' EQUITY
Accumulated
Other Total
Common Retained Comprehensive Shareholders'
Stock Surplus Earnings Income (Loss) Equity
-------- --------- ------------- --------------- -------------
(In thousands)
Balance at January 1,1999 $ 1,250 $ 29,230 $ 17,909 $ 51 $ 48,440
Comprehensive Loss:
Net income - - 2,591 - 2,591
Change in unrealized loss on securities
available for sale, net of tax - - - (3,974) (3,974)
------------
Total comprehensive loss (1,383)
Issuance of common stock 6 245 - - 251
------- --------- ------------- ---------------- -------------
Balance at December 31, 1999 1,256 29,475 20,500 (3,923) 47,308
Comprehensive Income:
Net income - - 10,115 - 10,115
Change in unrealized gain on securities
available for sale, net of tax - - - 4,138 4,138
------------
Total comprehensive income 14,253
Common dividends paid
($1.24 per share) - - (1,553) - (1,553)
------- --------- ------------- ---------------- -----------
Balance at December 31, 2000 1,256 29,475 29,062 215 60,008
Comprehensive Income:
Net income - - 12,208 - 12,208
Other comprehensive income, net of tax
Cumulative effect of a change in accounting
for derivative instruments and hedging
activities (3,222)
Net unrealized losses on current period
cash flow hedges (10,025)
Change in unrealized gain on securities
available for sale - - - 1,939
----------------
Total other comprehensive income (11,308) (11,308)
-------------
Total comprehensive income 900
Common dividends paid
($8.21 per share) - - (10,308) - (10,308)
--------- ---------- ----------- ---------------- -------------
Balance at December 31, 2001 $ 1,256 $ 29,475 $ 30,962 $ (11,093) $ 50,600
========= ========== =========== ================ =============
See accompanying notes to consolidated financial statements.
45
NEW SOUTH BANCSHARES, INC.
CONSOLIDATED STATEMENTS OF CASH FLOWS
Years Ended December 31,
---------------------------------------------------
2001 2000 1999
------------- -------------- ------------
(In thousands)
Operating Activities:
Net income $ 12,208 $ 10,115 $ 2,591
Adjustments to reconcile net income to net cash used in operating activities:
Provision for (benefit of) deferred taxes 28 (766) 1,552
Accretion of discounts and fees (1,589) (2,275) (676)
Provision for loan losses 5,363 5,565 3,638
Depreciation and amortization 2,185 2,702 2,456
Amortization of mortgage servicing rights 4,292 3,027 2,387
Cumulative effect of a change in accounting for derivative
instruments and hedging activities 1,124 - -
(Gain) loss on sale of investment securities available for sale (1,206) 639 (381)
Purchase of loans available for sale - - (3,997)
Origination of loans available for sale (1,065,520) (508,676) (633,384)
Proceeds from the sale of loans available for sale and servicing rights 1,092,122 450,151 454,401
(Gain) loss on sale of premises and equipment (24) - 26
Net gain on sale of loans available for sale and mortgage servicing rights (19,212) (14,599) (12,058)
Increase in other assets (3,825) (10,213) (18,886)
Increase in loan advances (7,680) (2,691) (2,045)
Increase (decrease) in accrued expenses, deferred
revenue and other liabilities 5,490 4,583 (8,257)
------------- -------------- ------------
Net Cash Provided by (Used in) Operating Activities 23,756 (62,438) (212,633)
Investing Activities:
Net (increase) decrease in interest-bearing deposits in other banks (5,105) 699 45,305
Proceeds from sales of investment securities available for sale 65,763 85,407 214,951
Proceeds from maturities and calls of investment securities
available for sale 79,144 13,472 43,879
Purchases of investment securities available for sale (309,678) (23,286) (39,381)
Net (increase) decrease in loan portfolio 82,439 (188,546) 63,754
Purchases of premises and equipment (1,183) (2,547) (4,962)
Proceeds from sale of premises and equipment 112 1,045 91
Net (investment in) proceeds from sale of real estate owned (1,454) 164 (2,159)
------------- -------------- ------------
Net Cash Provided by (Used in) Investing Activities (89,962) (113,592) 321,478
Financing Activities:
Net increase (decrease) in noninterest-bearing deposits 2,020 15,359 (26,195)
Net increase (decrease) in interest-bearing deposits (59,135) 155,782 (4,168)
Net increase (decrease) in federal funds purchased and securities
sold under agreements to repurchase 143,536 2,290 (17,877)
Net increase (decrease) in note payable (1,304) 6,497 6,115
Net increase (decrease) of Federal Home Loan Bank Advances (13,390) 4,998 (70,001)
Dividends paid (10,308) (1,553) -
Proceeds from the issuance of common stock - - 251
------------- -------------- ------------
Net Cash Provided by (Used in) Financing Activities 61,419 183,373 (111,875)
------------- -------------- ------------
Net increase (decrease) in cash and cash equivalents (4,787) 7,343 (3,030)
Cash and cash equivalents at beginning of year 14,286 6,943 9,973
------------- -------------- ------------
Cash and cash equivalents at end of year $ 9,499 $ 14,286 $ 6,943
------------- -------------- ------------
Supplemental information:
Interest paid $ 61,007 $ 63,998 $ 54,152
Income taxes paid (received) $ 740 $ (250) $ (140)
See accompanying notes to consolidated financial statements.
46
NEW SOUTH BANCSHARES, INC.
Notes to Consolidated Financial Statements
December 31, 2001
1. Summary of Significant Accounting Policies
------------------------------------------
New South Bancshares, Inc. ("Bancshares" or the "Company") is a unitary
thrift holding company formed in 1994. The Company has three wholly owned
subsidiaries, New South Federal Savings Bank ("New South" or the "Bank"),
Collateral Agency of Texas, Inc., and New South Management Services, LLC
("NSMS"). NSMS was formed during the second quarter of 2000. NSMS performs
certain loan related functions for the various mortgage lending units of the
Bank. New South has three subsidiaries, Avondale Funding.com, inc. ("Avondale"),
New South Agency, Inc., and New South Real Estate, LLC and significant interest
in five joint ventures (the "New South Joint Ventures"). The consolidated
financial statements presented primarily represent the accounts of Bancshares
and New South. Four of the New South Joint Ventures are consolidated with their
minority interests included in other accrued expenses, deferred revenues, and
other liabilities. One New South Joint Venture is accounted for under the equity
method. All significant intercompany accounts or transactions have been
eliminated upon consolidation. Certain accounting principles which significantly
affect the determination of financial position, results of operations and cash
flows are summarized below. Certain amounts in the prior year's financial
statements have been reclassified to conform with the 2001 presentation. These
reclassifications had no effect on previously reported net income.
USE OF ESTIMATES IN THE PREPARATION OF FINANCIAL STATEMENTS
The preparation of financial statements in conformity with generally
accepted accounting principles requires management to make estimates and
assumptions that affect the reported amounts of assets and liabilities at the
date of the financial statements and the reported amounts of revenues and
expenses during the reporting period. Actual results could differ from those
estimates.
Material estimates that are particularly susceptible to significant
changes in the near term relate to the estimate of prepayment speeds in
connection with the valuation of mortgage servicing rights and the estimation of
the allowance for loan losses. The Company's accounting policies with respect to
these matters are discussed further in the footnotes following.
CASH AND DUE FROM BANKS
For the purpose of reporting cash flows, cash and cash equivalents consist
of cash on hand and due from banks. New South maintains cash balances with the
Federal Reserve when required. As of December 31, 2001 and 2000, reserve
requirements amounted to $.3 million and $2.8 million, respectively.
INVESTMENT SECURITIES AVAILABLE FOR SALE
Investment securities available for sale consist of bonds, notes,
debentures, interest only strips and certain equity securities which are
classified as available for sale and are carried at fair value. Any unrealized
gains or losses are reported as a net amount in accumulated other comprehensive
income or loss, net of any tax effect. Realized gains and losses on the sales of
investment securities available for sale are determined using the specific
identification method and are included in noninterest income. Any premiums and
discounts are recognized in interest income using the effective interest method
over the period to maturity.
Interest only strips ("IOs") are financial investments which represent the
right to receive earnings from assets that contain excess interest income which
is stripped from the underlying interest earning asset. IOs are recorded as
assets by determining the net present value of the excess interest income stream
generated by the assets. To determine the fair value of IOs, the Company uses
market prices for comparable assets and a valuation model that
47
1. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES - continued
------------------------------------------------------
calculates the present value of the estimated cash flows. Interest income is
recorded on these securities based on their expected internal rate of return,
which is reevaluated periodically. A quarterly impairment analysis is performed
using discounted cash flow methodology comparing actual to projected results.
Declines in value judged to be other than temporary as well as realized gains
and losses are reported in noninterest income. Key assumptions used in the
initial recording and on-going valuation and impairment analyses relate to
prepayment speeds, discount rates, and loss experience.
RESIDUAL INTEREST IN LOAN SECURITIZATIONS
Residual interest in loan securitizations ("Residuals") are financial
investments which represent the right to receive excess cash flow from loan
securitizations. Residuals are recorded as assets by determining the net present
value of the excess interest income stream generated by the assets. To determine
the fair value of Residuals, the Company uses a valuation model that calculates
the present value of the estimated cash flows and market prices of comparable
assets where appropriate. Interest income is recorded on these securities based
on their expected internal rate of return, which is reevaluated periodically. A
quarterly impairment analysis is performed using discounted cash flow
methodology comparable to yields on similar assets. Declines in value judged to
be other than temporary as well as realized gains and losses are reported in
noninterest income. Key assumptions used in the initial recording and on-going
valuation and impairment analyses relate to prepayment speeds, discount rates,
and loss experience.
LOANS AVAILABLE FOR SALE
Loans available for sale are reported at the lower of cost or market, as
determined in the aggregate. Gains or losses on the sale of these assets are
included in noninterest income while interest collected on these assets is
included in interest income.
LOANS
All loans are stated at principal balances outstanding, adjusted for any
amounts charged off, discounts or premiums on loans purchased from others, and
discount points collected at origination. Interest income on loans is credited
to income based upon the principal amount of the loans outstanding using
contractual rates of interest. Amortization of discounts and premiums on loans
is calculated using the effective interest method and included in interest
income over the period to maturity.
Certain impaired loans are reported at the present value of expected
future cash flows using the loan's effective interest rate. Others are reported
at the loan's observable market price or the fair value of the collateral, if
the loan is collateral dependent. Residential mortgage loans and installment
loans, primarily automobile, are evaluated collectively for impairment. At
December 31, 2001 and 2000, the recorded investment in loans that were
considered to be impaired under Statement of Financial Accounting Standards
("SFAS") No. 114, Accounting by Creditors for Impairment of a Loan - an
Amendment of SFAS No. 5 and 15, were $10.1 million and $6.1 million,
respectively. The related allowances for loan losses on impaired loans was $1.5
million and $1.3 million at December 31, 2001 and 2000, respectively.
It is the policy of New South to stop accruing interest income and place
the recognition of interest on a cash basis when any loan is past due more than
90 days as to principal or interest or if the ultimate collection of either is
in doubt. Any interest previously accrued but not collected is reversed against
current income when a loan is placed on a nonaccrual basis. Generally, New
South has a mortgage lien on all property on which mortgage loans are made in
order to protect New South's interest in both the principal amounts outstanding
and interest collections. Additionally, portions of certain mortgage loan
balances are insured by private or government guaranty or insurance policies.
Loans collateralized by savings accounts are secured by savings account
balances in excess of the outstanding loan amount. Nonaccrual loans totaled
$15.3 million and $17.0 million at December 31, 2001 and 2000, respectively.
The amount of interest income earned during 2001 and 2000 on nonaccrual
48
1. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES - continued
------------------------------------------------------
loans outstanding at year-end was approximately $.7 million and $.5 million,
respectively. If these loans had been current in accordance with their original
terms, additional interest income of approximately $1.1 million and $1.3 million
would have been earned on these loans during 2001 and 2000, respectively.
ALLOWANCE FOR LOAN LOSSES
The allowance for loan losses is maintained at a level considered adequate
to provide for losses inherent in the portfolio. The provision for loan losses
charged to income is determined by various factors including actual loss
experience, the current volume and condition of loans in the portfolio, changes
in the composition of the portfolio, known and inherent risks in the portfolio,
and current and expected economic conditions. Such provisions, less net loan
charge-offs, comprise the allowance for loan losses and is available for future
loan charge-offs. New South follows a policy of charging off loans which
management determines to be uncollectible. Subsequent recoveries are credited to
the allowance.
PREMISES AND EQUIPMENT
Premises and equipment are stated at cost less accumulated depreciation.
Depreciation is computed primarily using the double-declining balance method
over the estimated useful lives of the properties or equipment. Estimated useful
lives are generally as follows:
Building 29 - 40 years
Leasehold improvements 7 - 40 years
Furniture and equipment 3 - 7 years
MORTGAGE SERVICING RIGHTS
The Company sells a substantial portion of its originated loans into the
secondary market by securitizing pools of loans and sales to private investors.
During 2001 and 2000, the Company sold approximately $723.7 million and $118.0
million, respectively, of mortgage loans primarily in agency securitizations.
Mortgage servicing rights ("MSRs") are capitalized based on relative fair values
of the mortgages and MSR when the mortgages are sold.
For valuation of mortgage servicing rights, management obtains external
information, evaluates overall portfolio characteristics and monitors economic
conditions to arrive at appropriate prepayment speeds and other assumptions.
These characteristics are used to stratify the servicing portfolio on which MSRs
have been recognized to determine valuation and impairment. Impairment is
recognized for the amount by which MSRs for a stratum exceed their fair value.
The Company amortizes MSRs over the estimated lives of the underlying loans in
proportion to the resultant servicing income stream.
FORECLOSED REAL ESTATE OWNED AND REPOSSESSED ASSETS
Real estate owned arises from loan foreclosure or deed in lieu of
foreclosure and is reported at the lower of cost or net realizable value. Any
resultant writedown at the time of foreclosure/repossession is charged to the
allowance for loan losses. Subsequent gains or losses on the sale or losses from
valuation of these properties are credited or charged to income. Costs of
improvements made to facilitate sale are capitalized while costs of holding the
property are charged to expense. Allowances, if any, are recorded for any
anticipated costs to dispose.
Real estate owned, which is included in Other Assets at December 31, 2001
and 2000, totaled $3.9 million and $3.1 million, respectively. Repossessed
assets, also included in Other Assets, totaled $1.8 million and $1.2 million at
December 31, 2001 and 2000, respectively.
49
1. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES - continued
------------------------------------------------------
RECOGNITION OF INCOME
Loan administration income primarily represents fees earned in connection
with the servicing of real estate mortgage loans for investors. Such income is
recognized concurrent with the receipt of the related mortgage payments and is
usually based on the outstanding principal balances of the loans serviced.
Gains or losses on sales of mortgages are recognized based upon the
difference between the selling price and the carrying value of the related loans
sold.
INCOME TAXES
Effective January 1, 1999, the Company elected S Corporation status.
Corporations electing such treatment under the Internal Revenue Code generally
are not subject to Federal corporate taxation. Certain states, however, do not
recognize S Corporation status; therefore, the Company incurs state income taxes
for those jurisdictions. Profits and losses flow through to the S Corporation
shareholders directly in proportion to their per share ownership in the entity.
Accordingly, shareholders will be required to include profits and losses from
the Company on their individual income tax returns for federal, and state and
local, if applicable, income tax purposes.
Typically S Corporations declare dividends to shareholders in an amount
sufficient to enable shareholders to pay the tax on any S Corporation income
included in the shareholder's individual income. The Company declared dividends
of $10.3 million and $1.6 million during 2001 and 2000, respectively, which are
generally not subject to tax since they result from S Corporation income on
which shareholders have previously been taxed.
The consolidated financial statements have been prepared on the accrual
basis. When income and expenses are recognized in different periods for
financial reporting purposes and for purposes of computing income taxes
currently payable, deferred taxes are provided on such temporary differences.
Deferred tax assets and liabilities are recorded for the expected future tax
consequences of events that have been recognized in the financial statements or
tax returns. Deferred tax assets and liabilities are measured using the enacted
tax rates expected to apply to taxable income in the years in which those
temporary differences are expected to be realized or settled. As changes in the
laws or rates are enacted, deferred tax assets and liabilities are adjusted
through the provision for income taxes in the period of enactment.
Bancshares and the Bank have entered into a tax sharing agreement by which
a consolidated return is filed each calendar year.
EARNINGS PER SHARE
SFAS No. 128, Earnings Per Share requires dual presentation of basic and
diluted earnings per share for companies with potentially dilutive securities.
There are no dilutive securities issued or outstanding for the years ended
December 31, 2001, 2000 and 1999 and, therefore, basic and diluted presentations
are the same.
DERIVATIVE INSTRUMENTS AND HEDGING ACTIVITIES
In September 1998, the Financial Accounting Standards Board ("FASB")
issued SFAS No. 133, Accounting for Derivative Instruments and Hedging
Activities. In September 2000, the FASB issued SFAS No. 138, Accounting for
Certain Derivative Instruments and Hedging Activities - an Amendment of SFAS
No. 133. SFAS No. 133, as amended, replaces existing pronouncements and
practices with a single, integrated accounting framework for derivatives and
hedging activities requiring companies to formally record at fair value all
derivatives and to document, designate, and assess the effectiveness of
transactions that receive hedge accounting.
The Company utilizes certain derivative instruments in its operations.
Interest rate lock commitments ("IRLC") represent commitments the Company has
accepted to extend mortgage credit to borrowers ("Mortgage
48
1. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES - continued
------------------------------------------------------
Pipeline"). IRLCs exist from the time of application and acceptance by the
Company until the commitment's expiration or loan funding. At the time of
funding, the IRLCs become loans available for sale. The Company employs mortgage
forward delivery contracts ("Forward Contracts") and mortgage options to hedge
changes in the market value of the Company's IRLCs and loans available for sale.
The IRLCs and their related Forward Contracts, until funding, are undesignated
derivatives and do not qualify for hedge accounting treatment under SFAS No.
133, so the change in market value is included in the income statement. Funded
IRLCs become loans available for sale, at which time the related Forward
Contracts are designated as a fair value hedges. Accordingly, until the
settlement of those Forward Contracts, no additional net gain or loss has been
recognized attributable to hedge ineffectiveness in the income statement.
The Company's primary funding sources are generally short-term and/or
priced at variable interest rates and includes, among other sources of funds,
certain interest-bearing time deposits and repurchase agreements included in
federal funds purchased and securities sold under agreements to repurchase.
Because of the sensitivity of these short-term funding sources, the Company
utilizes interest rate swap contracts ("Swaps") to change the payment
characteristics of the funding source to more closely match the assets being
funded. Interest rate caps ("Caps") are utilized to limit increases in interest
expense resulting from rising interest rates. Under SFAS No. 133, the Swaps are
designated as cash flow hedges resulting in changes in their market value, net
of any amounts reclassified into the income statement, being included in
accumulated other comprehensive income ("OCI"). The Caps do not qualify for
hedge accounting so changes in their market value are included in the income
statement.
The Company adopted SFAS No. 133 effective January 1, 2001 and
recognized a cumulative-effect transition adjustment of approximately $1.1
million to decrease net income for the effect of the change in the accounting
principle relating to derivatives that did not receive hedge accounting
treatment. Additionally, the Company recognized a cumulative-effect transition
adjustment to reduce OCI by $3.2 million on a pre-tax basis. The transition
adjustment to OCI represents net unrealized losses on derivative instruments
that qualify as cash flow hedges.
The Company utilizes certain derivatives in its operations that do not
qualify as hedges for accounting purposes, as described above, under SFAS No.
133. The following summarizes the impact on earnings from valuation adjustments
relating to these derivatives.
Gain (Loss)
-------------
Caps $ (254)
IRLC and related Forward Contracts 615
-------------
$ 361
=============
During 2001, certain Forward Contracts relating to loans available for
sale initially designated as cash flow hedges were redesignated as fair value
hedges resulting in the reclassification of $.4 million into gain on the sale of
loans and mortgage servicing rights. OCI was increased by $.3 million in 2001
from reclassification into earnings resulting from hedge ineffectiveness. The
extent of hedge ineffectiveness is influenced by a number of factors including
future interest rate volatility, hedge performance and correlation.
During 2000 and 1999, prior to the adoption of SFAS No. 133, hedge
accounting treatment was used if the following criteria applied: (1) the asset
or liability hedged exposed the institution, as a whole, to the interest rate
risk, (2) the instrument altered or reduced sensitivity to interest rate
changes, and (3) the instrument was designated and effective as a hedge. If the
designated asset or liability hedged was terminated, matured or was sold, any
realized or unrealized gain or loss from the related off-balance sheet product
was recognized in noninterest income coincident with the extinguishment or
termination. Accordingly, while hedge accounting treatment applied, there was no
recognition of the market value, or change in market value, for IRLCs or Forward
Contracts.
50
1. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES - continued
------------------------------------------------------
Other Off-Balance Sheet Instruments
In the ordinary course of business New South has entered into
off-balance-sheet financial instruments consisting of commitments to extend
credit for certain loans excluded from IRLCs and loans available for sale, and
letters of credit. Such financial instruments are recorded in the financial
statements when they are funded or related fees are incurred or received.
RECENT ACCOUNTING STANDARDS
In June 2001, the FASB issued SFAS No. 141, Business Combinations ("SFAS
No. 141") and SFAS No. 142, Goodwill and Other Intangible Assets ("SFAS 142").
These statements revise the standards of accounting for business combinations
and related goodwill and other intangible assets. SFAS 141 is generally
effective for business combinations after July 1, 2001 and SFAS 142 is effective
for fiscal years beginning after December 15, 2001 with certain provisions
effective earlier. Management does not expect the requirements of these
statements to have a significant impact on the financial statements.
In August 2001, the FASB issued SFAS No. 144, Accounting for the
Impairment or Disposal of Long-Lived Assets ("SFAS No. 144"). This statement
revises the standards of accounting for the accounting and reporting for the
impairment or disposal of long-lived assets. SFAS No. 144 is effective for
fiscal years beginning after December 15,2001. Management does not expect the
requirements of this statement to have a significant impact on the financial
statements.
2. BUSINESS ACQUISITION AND DIVESTITURE
------------------------------------
On February 17, 1999, New South acquired the assets associated with the
national mortgage origination activities of Avondale Federal Savings Bank
("AFSB"), (the "Acquisition"). The Acquisition was recorded under the purchase
method; accordingly, the purchase price was allocated to the assets acquired
based upon their fair value, with no goodwill being recorded. Concurrent with
the Acquisition, New South organized Avondale Funding Corporation ("AFC") to
hold the acquired assets and the assumed acquisition liabilities and related
operations. In July 1999, AFC's name was changed to Avondale Funding.com, inc.
("Avondale"). On May 31, 2000, New South sold its operations in Avondale and is
currently in the process of disposing and liquidating the remaining assets.
51
3. INVESTMENT SECURITIES AVAILABLE FOR SALE
----------------------------------------
The fair value and amortized cost of securities available for sale and the
related unrealized gains and losses for each category are presented as follows:
Gross Gross Estimated
Amortized Unrealized Unrealized Fair
December 31, 2001 Cost Gains Losses Value
- ----------------- ---------------- ----------------- --------------- ---------------
(In thousands)
Mortgage-backed securities $ 242,508 $ 1,022 $ 2,102 $ 241,428
U.S. Treasury and Federal
agency securities 47,929 3,367 20 51,276
Other 9,904 - - 9,904
---------------- --------------- --------------- ---------------
$ 300,341 $ 4,389 $ 2,122 $ 302,608
================ =============== =============== ===============
Gross Gross Estimated
Amortized Unrealized Unrealized Fair
December 31, 2000 Cost Gains Losses Value
- ----------------- ---------------- ----------------- --------------- ---------------
(In thousands)
Mortgage-backed securities $ 109,663 $ 759 $ 717 $ 109,705
U.S. Treasury and Federal
agency securities 47,622 467 281 47,808
Other 10,663 - - 10,663
---------------- --------------- --------------- ---------------
$ 167,948 $ 1,226 $ 998 $ 168,176
================ =============== =============== ===============
The contractual maturities of the securities available for sale are
presented in the following table for 2001 and 2000:
2001 2000
----------------------------- -----------------------------
Estimated Estimated
Amortized Fair Amortized Fair
Cost Value Cost Value
-------------- --------------- -------------- -------------
(In thousands)
Due in one year or less $ - $ - $ 7,000 $ 6,968
Due after one year through five years 34,568 35,897 34,762 34,843
Due after five years through ten years 13,361 15,379 5,860 5,997
Mortgage-backed securities 242,508 241,428 109,663 109,705
Equity securities and interest only strips 9,904 9,904 10,663 10,663
----------- ------------ ------------- ------------
$ 300,341 $ 302,608 $ 167,948 $ 168,176
=========== ============ ============= ============
51
3. INVESTMENT SECURITIES AVAILABLE FOR SALE - continued
----------------------------------------------------
Gross realized gains and losses on securities available for sale, for
2001, 2000, and 1999 are presented in the following table:
2001 2000 1999
------------ ---------------- ------------
(In thousands)
Gross realized gains $ 1,206 $ 1,362 $ 4,784
Gross realized losses - 2,001 4,403
------------ ---------------- ------------
$ 1,206 $ (639) $ 381
============ ================ ============
At December 31, 2001 and 2000, New South had securities of $270.2 million
and $142.2 million, respectively, pledged to secure certain Federal Home Loan
Bank ("FHLB") advances, arrangements for the sale of securities under agreements
to repurchase, interest rate swap contracts, and state and municipal deposits.
4. COMPREHENSIVE INCOME
--------------------
Comprehensive income is the change in equity during a period from
transactions and other events and circumstances from nonowner sources. For New
South, changes in other nonowner transactions consist of net changes in
unrealized gains and losses on securities available for sale and, beginning in
2001, net gains and losses relating to cash flow hedges, including the
cumulative effect of a change in the accounting for those cash flow hedges.
52
4. COMPREHENSIVE INCOME - continued
--------------------------------
In the calculation of comprehensive income, certain reclassification
adjustments are made to avoid double counting items that are displayed as part
of net income and other comprehensive income during that or earlier periods.
The following table reflects the reclassification amounts and the related tax
effect for the three years ended December 31:
2001
--------------------------------------------
(In thousands)
Before After
Tax Tax Tax
Amount Effect Amount
--------------------------------------------
Cumulative effect of a change in accounting
for derivative instruments and hedging
activities $ (3,428) $ (206) $ (3,222)
Net losses on current period cash flow hedges (10,855) (510) (10,345)
Reclassification adjustments for net losses
included in net income 337 17 320
Net unrealized gains (losses) arising during the period 3,245 160 3,085
Reclassification adjustments for net (gains) losses
included in net income (1,206) (60) (1,146)
-------------- -------------- ------------
$ (11,907) $ (599) $ (11,308)
============== ============== ============
2000
--------------------------------------------
(In thousands)
Before After
Tax Tax Tax
Amount Effect Amount
--------------------------------------------
Net unrealized gains arising during the period $ 3,726 $ 189 $ 3,537
Reclassification adjustments for net (gains) losses
included in net income 639 38 601
-------------- -------------- ------------
$ 4,365 $ 227 $ 4,138
============== ============== ============
1999
--------------------------------------------
(In thousands)
Before After
Tax Tax Tax
Amount Effect Amount
--------------------------------------------
Net unrealized gains (losses) arising during the period $ (3,836) $ (105) $ (3,731)
Reclassification adjustments for net (gains) losses
included in net income (381) (138) (243)
-------------- -------------- ------------
$(4,217) $(243) $(3,974)
============== ============== ============
55
5. LOANS
-----
New South's primary line of business is the origination of residential
mortgage loans which New South classifies as either conforming or
nonconforming. Conforming loans are typically single family loans which
generally have been underwritten and processed in accordance with standard
government or federal agency guidelines including Fannie Mae ("FNMA"), Freddie
Mac ("FHLMC"), Federal Housing Administration ("FHA") and Veterans
Administration ("VA"). Conforming residential mortgage loans are fixed-rate and
adjustable-rate residential first mortgage loans with 15 year or 30 year terms
generally secured by owner-occupied residences. Nonconforming loans typically
do not exceed the standard agency maximum loan size guidelines but may fail to
meet one or more other guidelines relating to creditworthiness, such as
acceptable debt ratios and acceptable consumer loan payment histories. New
South originates only fixed rate products in the nonconforming residential
mortgage area.
The majority of New South's automobile installment loans are considered
to be prime loans by industry standards. Generally, the industry classifies
prime and nonprime customers based on the creditworthiness of the consumer. The
Company also classifies as prime an immaterial amount of other nonautomobile
installment loans secured by deposits, boats and recreational vehicles, and
some unsecured signature loans. The terms of nonprime automobile installment
loans are established by New South underwriters based on a variety of factors
in accordance with New South's underwriting guidelines which have been
specifically designed to evaluate nonprime customers.
Commercial real estate loans are generally secured by multi-family real
estate. Commercial loans relate to operating loans to commercial entities and
may be secured by inventories or other assets. Most commercial and commercial
real estate loans carry variable interest rates with maturities consistent with
industry standards for the type of instrument, typically 30 years for the real
estate related loans.
New South's residential construction and land lending efforts involve
making loans to builders for the construction of single family properties and,
on a more limited basis, loans for the acquisition and development of improved
residential lots. These loans are generally secured by first liens on real
estate.
The composition of the loan portfolio as of December 31, 2001 and 2000
was as follows:
2001 2000
---------------------- -------------------
(In thousands)
Residential Mortgage:
Conforming $ 153,944 $ 200,651
Nonconforming 127,473 181,410
---------------------- -------------------
281,417 382,061
Installment (automobile and other)
Prime 141,092 163,588
Non prime 20,267 18,036
---------------------- -------------------
161,359 181,624
Residential construction and land 162,635 168,390
Commercial real estate 167,136 157,977
Commercial 20,574 10,689
---------------------- -------------------
793,121 900,741
Less unearned income 3,883 5,555
---------------------- -------------------
$ 789,238 $ 895,186
====================== ===================
The undisbursed portion of mortgage and construction loans was $35.1
million and $29.8 million at December 31, 2001 and 2000, respectively.
56
6. ALLOWANCE FOR LOAN LOSSES
-------------------------
A summary of the activity in the allowance for loan losses for the years
ended December 31, 2001, 2000, and 1999 as follows:
2001 2000 1999
-------------- --------------- --------------
(In thousands)
Balance at beginning of year $ 13,513 $ 11,114 $ 9,107
Provision for loan losses 5,363 5,565 3,638
Loans charged off 9,090 4,776 3,186
Loan recoveries (2,827) (1,610) (1,555)
-------------- --------------- --------------
Net charge-offs 6,263 3,166 1,631
-------------- --------------- --------------
Balance at end of year $ 12,613 $ 13,513 $ 11,114
============== =============== ==============
7. PREMISES AND EQUIPMENT
----------------------
Major classifications of premises and equipment as of December 31, 2001 and
2000 are summarized as follows:
2001 2000
-------------- --------------
(In thousands)
Land $ 600 $ 600
Building and leasehold improvements 6,553 6,511
Furniture and equipment 10,566 9,756
-------------- --------------
17,719 16,867
Less accumulated depreciation and amortization 9,760 7,818
-------------- --------------
$ 7,959 $ 9,049
============== ==============
8. MORTGAGE SERVICING RIGHTS AND RETAINED INTERESTS
------------------------------------------------
A summary of activity in the MSR accounts for the years ended December 31,
2001 and 2000 is presented in the following table:
2001 2000
-------------- ----------------
(In thousands)
Balance at beginning of year $ 16,176 $ 16,101
Originated MSR 16,342 2,245
Purchased MSR 764 857
Sale of MSR (9,213) -
Amortization expense (4,292) (3,027)
-------------- ----------------
Balance at end of year $ 19,777 $ 16,176
============== ================
Estimated fair value at end of year $ 21,217 $ 20,011
============== ================
57
8. MORTGAGE SERVICING RIGHTS AND RETAINED INTERESTS - continued
------------------------------------------------------------
At December 31, 2001, the fair value and key economic assumptions for the
following retained interests (similar to those resulting from securitizations
during 2001) are as follows:
MSR's IOs Residuals
----------- ------------- ------------
(In thousands, except percentages)
Estimated fair value $21,217 $1,903 $8,594
Annual prepayment rate 12-22% 15.00% 25.00%
Annual discount rate 9-17 20 12-25
The impact of 10 percent and 20 percent adverse changes in the prepayment
rate and discount rate, respectively, are not material to the financial
condition of the Company. Furthermore, the estimated fair values as disclosed
should not be considered indicative of future earnings on the assets or that
these values would be realized if or when the servicing rights were sold.
During 2001, the Company securitized approximately $254 million of
primarily residential nonconforming mortgage loans, recording a gain of $3.7
million. The Company sold the residual interest from the securitization to an
affiliate for $7.9 million, which approximated estimated fair value. The
expected static pool losses for the Company's 1999-2 securitization as of
December 31, 2001 are approximately 2.5%. For the securitizations indicated, as
of December 31, 2001, the principal amount of delinquent loans (including
foreclosures), in addition to credit losses, net of recoveries, are as follows
(in thousands):
Principal
Amount of Current Year
Loans 90 Days Net Credit
Securitization Or More Past Due Losses
- ---------------- -------------------- -------------------
1998-A $ 191 $ 489
1999-1 13,490 1,667
1999-2 13,348 1,431
2001-1 7,438 149
58
9. DEPOSITS
--------
The composition of the deposit base as of December 31, 2001 and 2000 is
summarized in the following table:
2001 2000
--------------------------- --------------------------
Amount Percent Amount Percent
--------------- ---------- --------------- ---------
(In thousands)
Noninterest bearing demand $ 65,057 7.5% $ 63,037 6.9%
Interest bearing transaction accounts 6,188 0.7 4,587 0.5
Money market accounts 87,102 10.0 62,199 6.8
Statement savings 7,299 0.8 5,712 0.6
Certificates of deposit:
Less than 4% 369,388 42.3 1,364 0.1
4% to 4.99% 79,064 9.1 2,190 0.2
5% to 5.99% 52,591 6.0 45,687 5.0
6% to 6.99% 143,290 16.4 570,438 62.3
7% to 8.99% 62,556 7.2 160,398 17.5
More than 9% 522 0.1 614 0.1
--------------- ---------- --------------- ---------
$ 873,057 100.0% $ 916,226 100.0%
=============== ========== =============== =========
The aggregate amounts of certificates of deposit in denominations greater
than $100,000 were approximately $360.2 million and $340.6 million as of
December 31, 2001 and 2000, respectively.
The scheduled maturities of certificates of deposit as of December 31,
2001 were as follows (in thousands):
2002 $ 425,234
2003 96,354
2004 54,763
2005 5,349
2006 and thereafter 125,711
---------------
$ 707,411
===============
The following table summarizes interest expense on deposits for the years
ended December 31, 2001, 2000, and 1999:
2001 2000 1999
------------ ------------ ------------
(In thousands)
Interest bearing transaction accounts $ 156 $ 156 $ 150
Money market accounts 2,820 3,213 3,600
Statement savings 252 268 211
Certificates of deposit 44,158 44,219 35,872
------------ ------------ ------------
$ 47,386 $ 47,856 $ 39,833
============ ============ ============
59
10. NOTES PAYABLE
-------------
The table below provides information relating to the Company's notes
payable as of December 31, 2001 and 2000:
2001 2000
-------------- --------------
(In thousands)
Bancshares $ 4,392 $ 5,500
Other notes payable 5,903 6,099
-------------- --------------
$ 10,295 $ 11,599
============== ==============
During 2001, Bancshares borrowed under terms of a $6.6 million credit
facility from a commercial bank. Bancshares pays interest under terms of the
credit facility quarterly at a variable interest rate, which was 3.88 percent at
December 31, 2001.
11. FEDERAL HOME LOAN BANK ADVANCES
-------------------------------
As of December 31, 2001 and 2000, FHLB advances amounted to $120.0 million
and $133.4 million, respectively. The advances outstanding at December 31, 2001
bear interest at rates ranging from 1.83 percent to 7.80 percent. The advances
are collateralized by stock in the FHLB, a blanket assignment of mortgage loans,
and the pledge of certain investment securities available for sale and
commercial real estate loans. Scheduled maturities for the advances outstanding
as of December 31, 2001 are as follows (in thousands):
2002 $ 25,000
2003 25,000
2005 and thereafter 70,025
---------------
$ 120,025
===============
12. EMPLOYEE BENEFIT PLAN
---------------------
As of December 31, 2001, substantially all full-time employees with six
months of service were eligible to participate in New South's 401(k) Defined
Contribution Plan. Under the plan, an employee may elect to defer a portion of
their wages with New South matching deferrals up to three percent of the first
eight percent of the employee's compensation deferred. Effective January 1,
2002, the Company's matching deferral will be 100 percent on the first three
percent of an employee's compensation contributed to the plan and fifty percent
on the next two percent of contributed compensation. The Company recognized
expenses related to its matching of eligible employee contributions of $.65
million for 2001 and $.5 million for both 2000 and 1999.
60
13. INCOME TAXES
------------
The provisions for (benefit of) income taxes included in the consolidated
income statement are summarized below:
Current Deferred Total
-------------- --------------- -----------
(In thousands)
2001
State $ 692 $ 28 $ 720
-------------- --------------- -----------
$ 692 $ 28 $ 720
============== =============== ===========
2000
State $ 1,410 $ (766) $ 644
-------------- --------------- -----------
$ 1,410 $ (766) $ 644
============== =============== ===========
1999
Federal $ - $ 1,316 $ 1,316
State (146) 236 90
-------------- --------------- -----------
$ (146) $ 1,552 $ 1,406
============== =============== ===========
At December 31, 2001 and 2000, deferred income taxes reflect the net tax
effects of temporary differences between the carrying amounts of assets and
liabilities for financial reporting purposes and the amounts used for income tax
purposes. The valuation allowances for net deferred tax was eliminated during
1999.
61
13. INCOME TAXES - continued
------------------------
Significant components of New South's deferred tax assets and liabilities
as of December 31, 2001 and 2000 are listed in the following table:
2001 2000
------------- -------------
(In thousands)
Deferred tax asset:
Allowance for loan losses $ 631 $ 814
Derivative instruments and
hedge activites 461 -
Securitization income 748 613
Deferred expense 180 -
Other 113 69
------------- -------------
2,133 1,496
Deferred tax liability:
Originated mortgage servicing rights 929 923
Unrealized gain on securities
available for sale 113 14
Basis difference for loans
and securities 219 -
Other 85 106
------------- -------------
1,346 1,043
------------- -------------
Net deferred tax asset $ 787 $ 453
============= =============
62
13. INCOME TAXES - continued
------------------------
Applicable income taxes for financial reporting purposes differ from the
amount computed by applying the applicable income tax rate of 5 percent, the
blended tax rate for states in which the Company operates, for 2001 and 6
percent for 2000 and 1999 for the following reasons:
2001 2000 1999
------------- -------------- -------------
(In thousands)
Tax computed at statutory
applicable income tax rate $ 703 $ 646 $ 240
Reversal of federal net deferred tax asset - - 3,145
Elimination of valuation allowance - - (1,988)
Other, net 17 (2) 9
------------ ------------- -------------
$ 720 $ 644 $ 1,406
============ ============= =============
14. OTHER NONINTEREST EXPENSE
-------------------------
The following table sets forth the principal components of other
noninterest expense for the years ended December 31:
2001 2000 1999
------------- -------------- -------------
(In thousands)
Computer service $ 2,951 $ 1,787 $ 1,967
Legal and professional 2,502 1,772 2,274
Supplies and printing 1,726 1,868 2,239
Telephone 1,346 1,291 1,431
Advertising and promotion 729 810 1,753
Other expense 10,079 10,137 11,902
------------- -------------- -------------
$ 19,333 $ 17,665 $ 21,566
============= ============== =============
63
15. CAPITAL
-------
Various regulatory capital measures used within the banking industry are
indicators of capital adequacy. Among these are leverage, tangible, and
risk-based capital ratios. These ratios adjust reported asset and capital
amounts by various nonqualifying regulatory assets such as certain mortgage
servicing rights and certain nonqualifying intangibles. Regulatory authorities
set these minimum ratio standards for banking institutions in order to monitor
the capital strength of the institutions. Should the Bank's capital ratios
decline below these minimum standards, it would become subject to a series of
increasingly restrictive regulatory actions. The Bank has consistently exceeded
these minimum guidelines and it is the intention of management to continue to
monitor these ratios to insure regulatory compliance and maintain adequate
capital for the Bank. The Bank's current regulatory ratios place the Bank in the
regulatory defined well capitalized category. The capital levels for the Bank
under these various measures are noted in the table for December 31, 2001 and
2000. Management believes, as of December 31, 2001, that the Bank meets all
capital adequacy guidelines to which it is subject.
Minimum To Be Well
Requirement Actual Capitalized
-----------------------------------------------------------------------
Amount Ratio Amount Ratio Amount Ratio
-----------------------------------------------------------------------
(In thousands, except percentages)
As of December 31,2001
Tier I capital ("Tier I")
Tier I to total adjusted assets $38,866 3.00% $99,177 7.66% $64,776 5.00%
Tangible capital
Tangible capital to total adjusted assets 19,433 1.50 99,177 7.66 N/A N/A
Total risk-based capital
to risk weighted assets 68,084 8.00 100,280 11.78 85,106 10.00
Tier 1 capital
Tier 1 to risk weighted assets N/A N/A 90,583 10.64 51,063 6.00
As of December 31,2000
Tier I capital
Tier 1 to total adjusted assets $36,627 3.00% $98,336 8.05% $61,045 5.00%
Tangible capital
Tangible capital to total adjusted assets 18,313 1.50 98,336 8.05 N/A N/A
Total risk-based capital
to risk weighted assets 71,915 8.00 99,209 11.04 89,894 10.00
Tier 1 capital
Tier 1 to risk weighted assets N/A N/A 90,077 10.02 53,936 6.00
15. CAPITAL - continued
-------------------
64
While the Company presently intends to declare dividends in an amount
sufficient to enable shareholders to pay income tax at the highest marginal
federal, state and local income tax rate of any shareholder of the Company for
the applicable period, and since the Company is dependent upon dividends from
the Bank, there is no assurance that dividends to shareholders can be timely
made. The Bank also presently intends to declare dividends in an amount
sufficient to pay such dividends to shareholders and provide debt service on
Bancshares debt; however, the Bank is subject to strict regulatory and legal
guidelines regarding capital adequacy, dividend policies and other restrictions
and rules designed to assure the safety and soundness of the Bank. As of
December 31, 2001, the Bank could declare dividends in the amount of $3.0
million without additional consent of the Office of Thrift Supervision.
16. DERIVATIVE INSTRUMENTS
Swaps involve credit risk of dealing with counterparties and their ability
to meet the terms of the contracts in addition to the interest rate risk
associated with unmatched positions. Notional principal amounts are often used
to express the volume of these transactions; however, the amounts potentially
subject to credit risk are much smaller. Generally, New South will enter into
Swaps with firms that are rated investment grade or better by a nationally
recognized investment rating service.
The notional amounts of Swaps at December 31, 2001 and 2000 were $425.0
million and $195.0 million, respectively. During 2001, the average notional
amount of Swaps was $293.9 million; the average rate received under the
contracts was 4.29 percent and the average rate paid was 5.80 percent, resulting
in a decrease in net interest income of $4.4 million. During 2000, the average
notional outstanding amount was $167.1 million and the average rates received
and paid were 6.69 percent and 6.56 percent, respectively, and increased net
interest income by $.3 million. At December 31, 2001, the notional amounts and
contractual maturities of Swaps were as follows:
Effective
Notional
Amount Expiration Year
- --------------------- ------------------------
(In thousands)
$ 50,000 2003
180,000 2004
90,000 2005
105,000 2006 and thereafter
- ---------------------
$ 425,000
=====================
65
16. DERIVATIVE INSTRUMENTS - continued
----------------------------------
Caps are used to modify and/or reduce New South's interest rate risk. As
of December 31, 2001 and 2000, New South had Caps with commercial banks and
major investment banking firms covering New South's interest rate exposure on
short-term liabilities. The effective notional amounts outstanding were $245.0
million at December 31, 2001 and $306.4 million at December 31, 2000. The
results of the Caps were an increase in expense of $.2 million, $.8 million and
$.7 million for 2001, 2000, and 1999, respectively. At December 31, 2001, the
notional amounts and contractual maturities of Caps were as follows:
Effective
Notional
Amount Expiration Year
- -------------- ------------------
(In thousands)
$ 30,000 2002
140,000 2003
25,000 2005
50,000 2006 and thereafter
- --------------
$ 245,000
==============
17. FAIR VALUE OF FINANCIAL INSTRUMENTS
-----------------------------------
SFAS No. 107, Disclosures about Fair Value of Financial Instruments,
requires the disclosure of estimated fair values for all financial instruments,
both assets and liabilities, on and off-balance sheet, for which it is
practicable to estimate their value along with pertinent information on those
financial instruments for which such values are not available.
Fair value estimates are made at a specific point in time and are based on
relevant market information which is continuously changing. Because no quoted
market prices exist for a significant portion of New South's financial
instruments, fair values for such instruments are based on management's
assumptions with respect to future economic conditions, estimated discount
rates, estimates of the amount and timing of future cash flows, expected loss
experience, and other economic factors. These estimates are subjective in nature
involving uncertainties and matters of significant judgement; therefore, they
cannot be determined with precision. Changes in the assumptions could
significantly affect the estimates.
For purposes of this disclosure, the carrying value approximates, or is
equal to, the fair value of financial instruments for the balance sheet lines
captioned: cash and due from banks, interest-bearing deposits in other banks,
accrued interest receivable and payable, and federal funds purchased and
securities sold under agreements to repurchase.
66
17. FAIR VALUE OF FINANCIAL INSTRUMENTS - continued
-----------------------------------------------
The carrying amount and estimated fair values of other financial
instruments is summarized as follows:
December 31,
-----------------------------------------------------
2001 2000
--------------------------- ------------------------
Carrying Estimated Carrying Estimated
Amount Fair Value Amount Fair Value
------------ ------------ -------- -------------
(In thousands)
Financial Assets:
Investment securities available for sale $302,608 $302,608 $168,176 $168,176
Loans available for sale 118,267 118,267 74,449 74,449
Loans, net of unearned income 789,238 802,163 895,186 885,690
Residuals 8,594 8,594 8,259 8,259
Interest rate cap agreements 350 350 - -
Commitments to extend credit 197 197 - -
Financial Liabilities:
Deposits 873,057 885,804 916,226 920,049
FHLB advances 120,025 123,000 133,415 132,308
Notes payable 10,295 10,295 11,599 11,599
Interest rate swap agreements 14,283 14,283 - -
Mandatory forward delivery contracts (1,497) (1,497)
Off-balance Sheet Financial Instruments:
Unrealized gains/(losses):
Interest rate swap agreements - - - (3,827)
Interest rate cap agreements - - - (1,205)
Commitments to extend credit - - - 146
Forward delivery contracts - - - (753)
The following methods and assumptions were used by New South in estimating its
fair value disclosures for financial instruments:
Investment Securities Available for Sale and Loans Available for Sale -
---------------------------------------------------------------------
Fair values for securities and loans available for sale are based on
quoted market prices where available. Where quoted market prices are not
available, fair values are based on quoted market prices of similar instruments,
adjusted for any significant differences between the quoted instruments and the
instruments being valued.
Loans - The fair values of variable rate loans that reprice frequently and
-----
have no significant change in credit risk are assumed to approximate carrying
amounts. The fair values for other loans are estimated using discounted cash
flow analyses, using interest rates currently being offered for loans with
similar terms to borrowers of similar credit quality and estimates of maturity
based on New South's historical experience.
Deposits - The fair value of deposits with no stated maturity, such as
--------
noninterest-bearing demand deposits, savings accounts, and money market and
----------
interest-bearing checking accounts is, by definition, equal to the amount
- ----------------
payable on demand or the carrying amount. Fair values for fixed rate
certificates of deposit are estimated using a discounted cash flow calculation
that applies interest rates currently being offered on certificates of deposit
to a schedule of aggregated expected monthly maturities on time deposits.
67
17. FAIR VALUE OF FINANCIAL INSTRUMENTS - continued
-----------------------------------------------
FHLB Advances and Notes Payable - The fair values of these advances are
-------------------------------
determined using discounted cash flow analyses which apply interest rates
currently offered.
Interest rate Swaps and Caps - Fair values of Swaps and Caps are
----------------------------
determined with the use of pricing models or formulas using current assumptions
if there are no relevant market comparables.
Commitments to Extend Credit - The value of these financial instruments,
----------------------------
including IRLCs, with notional values totaling $56.9 million and $40.1 million
at December 31, 2001 and 2000, respectively, is estimated based on the fee
income associated with the commitments which, in the absence of credit exposure,
is considered to approximate their settlement value.
Letters of Credit - These instruments, with notional values totaling $6.8
-----------------
million and $8.5 million at December 31, 2001 and 2000, respectively, are
short-term in nature and have no unrealized gain or losses associated with them.
Forward Contracts - These derivatives with notional amounts totaling
-----------------
$109.9 million and $68.8 million at December 31, 2001 and 2000, respectively,
are valued based upon discounted cash flow analyses, using interest rates
currently being offered for underlying loans with similar terms to borrowers of
similar credit quality and estimates of maturity based on New South's historical
experience.
18. OFF-BALANCE SHEET RISK AND COMMITMENTS
--------------------------------------
New South is a party to financial instruments with off-balance sheet risk
in the normal course of business in order to meet the needs of its customers and
to reduce its own exposure to fluctuations in interest rates. The financial
instruments may include commitments to extend credit, letters of credit, and
commitments to purchase loans. These instruments involve, to varying degrees,
elements of credit and interest rate risk in excess of the amounts recognized in
the financial statements. The contract, or notional, amounts of these
instruments reflect the extent of involvement New South has in the particular
class of financial instrument.
New South's exposure to credit loss in the event of nonperformance by the
other party to the financial instrument for commitments to extend credit and
letters of credit is represented by the contractual amount of those instruments.
New South uses the same credit policies in making commitments and conditional
obligations as it does for on-balance sheet instruments. Generally, New South
will require collateral, margin deposits or other security to support financial
instruments with credit or interest risk. Since many of the lending commitments
are expected to expire without being drawn upon, the total commitment amounts do
not necessarily represent future cash requirements.
Commitments to purchase loans are agreements to buy mortgage loans on a
specified date at an amount stated as a percentage of the note amount of the
loans to be purchased. On these commitments, New South uses the same policies to
control credit and interest rate risk as it does for other commitments to extend
credit.
Letters of credit are conditional commitments issued by New South to
guarantee the performance of a customer to a third party. Those guarantees are
primarily issued to support public and private borrowing arrangements, such as a
bond financing. While some of the guarantees are short-term in nature, most
extend for the same term as that extended for related loan facilities to
customers. New South holds various assets as collateral, including real estate
and mortgage-backed securities, supporting those commitments for which
collateral is deemed necessary.
19. LOAN SERVICING
--------------
Mortgage and installment loans serviced for others are not recorded on New
South's books and, accordingly, are not reflected in the accompanying financial
statements. New South is obligated to service the unpaid principal
68
19. LOAN SERVICING - continued
--------------------------
balances of these loans. See Note 20 for a discussion of the servicing
arrangement New South has with Collateral Mortgage, LTD. ("Collateral").
New South, as a servicer for all FHA/VA loans, is required to advance from
its own funds escrow and foreclosure costs on the loans it services. Portions of
these advances are not recoverable for loans serviced for the Governmental
National Mortgage Association ("GNMA"). Losses associated with these advances
during 2001, 2000, and 1999 amounted to $.5 million, $.1 million, and $.2
million, respectively.
The outstanding mortgage and installment loan amounts serviced for others
as of December 31, 2001 and 2000 are summarized below:
2001 2000
--------------- --------------
(In thousands)
GNMA $ 385,782 $ 302,618
FHLMC 506,553 692,141
FNMA 345,048 130,711
Other investors 1,790,341 882,294
--------------- --------------
$ 3,027,724 $ 2,007,764
=============== ==============
Custodial escrow balances maintained in connection with loan servicing
were approximately $6.1 million and $6.2 million at December 31, 2001 and 2000,
respectively. These are included with noninterest-bearing deposits.
20. RELATED PARTY TRANSACTIONS
--------------------------
Due to the nature of their businesses, the operations of New South,
Collateral and Collateral Mortgage Capital, LLC ("CMC") are closely involved.
Management, systems, and facilities are shared, and, accordingly, there are
numerous intercompany transactions. Management monitors all activity to ensure
that all transactions are made in a fair and equitable manner to New South,
Collateral, and CMC. New South collected $.4 million, $.6 million, and $.3
million in management fees from Collateral in 2001, 2000, and 1999,
respectively, which were paid monthly. New South collected $.13 million, $.1
million, and $.08 million from Collateral Investment Corp. ("CIC") in 2001,
2000, and 1999, respectively, which are paid monthly. Additionally, management
fees were received during 2000, and 1999 in the amounts of $.06 million, and $.1
million, respectively from Triad Guaranty Insurance Corporation, an affiliate,
for services provided. These fees are due quarterly and bear no interest. During
2001, New South paid management fees to Collat, an affiliate, totaling $.07
million. New South paid Collateral monthly fees for services provided, including
facilities management of $.4 million, $.5 million and $1 million in 2001, 2000,
and 1999, respectively.
In connection with its commercial loan servicing activities, CMC is
required to maintain escrow accounts as trustee for investors and mortgagors. At
December 31, 2001, CMC had on deposit with New South approximately $15 million
and $27.4 million, respectively, in interest-bearing and noninterest-bearing
accounts. For 2000, Collateral's interest-bearing and noninterest-bearing
account totaled to $11.4 million and $6.9 million, respectively.
Prior to 1999, Collateral performed the servicing activities on behalf of
New South for New South's investor servicing obligations and New South's owned
portfolio. Effective January 1, 1999, New South began servicing these assets. In
addition, New South began servicing on behalf of Collateral all of Collateral's
residential servicing obligations to third parties and Collateral's owned
portfolio. Collateral paid $.5 million in both 2001
69
and 2000 and $1.7 million in 1999, respectively, to New South for these
servicing activities under a subservicing agreement based upon industry
servicing fee standards.
20. RELATED PARTY TRANSACTIONS - continued
--------------------------------------
Collateral and its affiliates maintain normal business checking and money
market accounts at New South. At December 31, 2001, and 2000, these accounts
totaled approximately $2.8 million, and $6.0 million, respectively.
During 2001, New South sold the residual interest of a securitization to
CIC for $7.9 million. During 1999, New South sold an interest only strip from a
securitization to Collateral for $4.8 million. No gain or loss was recognized on
these sales.
During 2001 and 2000, New South as a continuation of the Bank's building
of it's servicing portfolio, purchased $.06 and $.8 million, respectively, in
servicing rights from Collateral for fair value. Effective January 1, 2002, New
South purchased Collateral's remaining residential servicing portfolio for
approximately $.3 million.
Servicing fees paid to Collateral during both 2001 and 2000 amounted to
$.4 million. These amounts relate solely to Collateral's subservicing of New
South's owned commercial loan portfolio.
In July 1997, the loan production operations of the residential mortgage
banking unit of Collateral were transferred into New South. As a result of this
change, New South assumed responsibility for 39 residential loan production
offices, associated employees, and related operating lease obligations. Under
the terms of an agreement with Collateral, a fee was payable semi-annually in
installments over a three year period based on a decreasing percentage ranging
from .35 percent to .10 percent of the aggregate original principal balances of
certain residential mortgage loans originated by New South through June 30,
2000. The fees for 2000, and 1999 were $.2 million and $.9 million,
respectively.
70
21. PARENT ONLY FINANCIAL INFORMATION
----------------------------------
Financial information and operating results for New South Bancshares,
Inc., parent only, is presented as follows:
December 31,
---------------------------
2001 2000
------------ -----------
(In thousands)
Balance Sheets:
- --------------
Assets:
Cash $ 64 $ 219
Investment in subsidiaries:
New South Federal Savings Bank 87,808 98,345
Other 98 202
Other assets 1,404 1,457
Accounts receivable-intercompany 118 -
------------ -----------
Total Assets $ 89,492 $100,223
============ ===========
Liabilities:
Notes payable $ 4,392 $ 5,500
Guaranteed preferred beneficial interests in the Company's
subordinated debentures 34,500 34,500
Accrued expenses and other liabilities - 100
Accounts payable-intercompany - 115
------------ -----------
Total Liabilities 38,892 40,215
============ ===========
Shareholders' Equity:
Common stock of $1.00 par value (authorized: 1.5 million shares; issued
and outstanding: 1,255,537.1 at December 31, 2001 and 2000) 1,256 1,256
Surplus 29,475 29,475
Retained earnings 30,962 29,062
Accumulated other comprehensive income (loss) (11,093) 215
------------ -----------
Total Shareholders' Equity 50,600 60,008
------------ -----------
Total Liabilities and Shareholders' Equity $ 89,492 $100,223
============ ===========
71
21. PARENT ONLY FINANCIAL INFORMATION - continued
---------------------------------------------
Year ended December 31,
---------------------------------------------------------
2001 2000 1999
------------- ---------------- -----------------
(In thousands)
Income Statements:
- -----------------
Income:
Dividends from subsidiaries $ 14,709 $ 3,650 $ 1,805
Interest on other short-term investments - - 5
------------- ---------------- -----------------
Total Income 14,709 3,650 1,810
------------- ---------------- -----------------
Expenses:
Interest on notes payable 326 399 92
Interest expense on guaranteed preferred beneficial
interests in the Company's subordinated debentures 2,932 2,932 2,932
Other expense 71 129 110
------------- ---------------- --------------
Total Expenses 3,329 3,460 3,134
------------- ---------------- --------------
Income (loss) before equity in undistributed earnings
of subsidiaries 11,380 190 (1,324)
Equity in undistributed earnings of subsidiaries 667 9,705 3,722
------------- ---------------- -------------
Income before income tax benefit 12,047 9,895 2,398
Income tax benefit 161 220 193
------------- ---------------- -------------
Net Income $ 12,208 $ 10,115 $ 2,591
============= ================ =============
72
21. PARENT ONLY FINANCIAL INFORMATION - continued
---------------------------------------------
Year ended December 31,
-----------------------------------------------------
2001 2000 1999
------------- ---------------- ---------------
(In thousands)
Statements of Cash Flows:
------------------------
Operating activities:
Net income $ 12,208 $ 10,115 $ 2,591
Equity in undistributed earnings of subsidiaries (667) (9,705) (3,722)
Decrease in other assets 53 53 51
(Increase) decrease in accounts receivable-intercompany (118) 312 (312)
Increase (decrease) in accrued expenses and other liabilities (100) (69) 284
Decrease in accounts payable-intercompany (115) - (28)
------------- ---------------- ---------------
Net cash provided by (used in) operations 11,261 706 (1,136)
------------- ---------------- ---------------
Investing activities:
Capital contributions to subsidiaries - (1) (3,600)
------------- ---------------- ---------------
Net cash used in investing activities - (1) (3,600)
------------- ---------------- ---------------
Financing activities:
Net increase (decrease) in notes payable (1,108) 1,000 4,500
Dividends on common stock (10,308) (1,553) -
Proceeds from the issuance of common stock - - 251
------------- ---------------- ---------------
Net cash provided by (used in) financing activities (11,416) (553) 4,751
------------- ---------------- ---------------
Net increase (decrease) in cash and cash equivalents (155) 152 15
Cash and cash equivalents at beginning of year 219 67 52
------------- ---------------- ---------------
Cash and cash equivalents at end of year $ 64 $ 219 $ 67
============= ================ ===============
73
22. COMMITMENTS AND CONTINGENCIES
-----------------------------
Various legal proceedings are pending against New South. These actions
arise in the ordinary course of New South's business and include actions
relating to its lending and servicing activities. Certain of these lawsuits are
class actions requesting unspecified or substantial damages. In each case a
class has not yet been certified. Although the outcome of any litigation cannot
be predicted with certainty, management considers that any potential liability
resulting from the proceedings would not have a material adverse impact on the
financial condition of New South.
The Company leases its executive offices, other corporate office space,
and its mortgage production branches. Rent expense is included in net occupancy
and equipment expense and totaled $1.4 million, $1.7 million, and $2.3 million
for the years ended December 31, 2001, 2000, and 1999, respectively. Amounts
paid to Collateral for New South's executive office and other office space
totaled $.3 million, $.3 million, and $1.0 million for the years ended December
31, 2001, 2000, and 1999, respectively. Amounts received from subleases totaled
$.2 million for the year ended December 31, 2001, and $.3 million for the years
ended December 31, 2000 and December 31, 1999, respectively. Minimum rental
payments due as of December 31, 2001 are summarized below (in thousands).
2002 $ 692
2003 439
2004 245
2005 157
2006 45
-----------
$1,578
===========
23. SEGMENT REPORTING
-----------------
The Company adopted SFAS No. 131, Disclosures About Segments of an
Enterprise and Related Information, in 1998. Reportable segments consist of
Residential Mortgage Lending, Commercial Real Estate Lending, Automobile
Lending, and Portfolio Management. The accounting policies for each segment are
the same as those used by the Company as described in Note 1 - Significant
Accounting Policies.
Residential Mortgage Banking originates and services single-family
mortgage loans. These loans are originated through the Company's network of
retail loan origination offices and through brokers and correspondents.
Commercial Real Estate Lending consists of loans secured by primarily
multi-family housing. Automobile Lending consists of originating and servicing
loans on automobiles. These loans are primarily acquired on an indirect basis
through automobile dealers. Portfolio Management oversees the Company's overall
portfolio of marketable assets as well as the Bank's funding needs. For 2001 and
2000, Residential Mortgage Banking, Commercial Real Estate Lending, and
Automobile Lending retained the assets generated by each unit, and are credited
with the interest income generated by those assets unless the asset is actually
sold in the secondary market. The results of such sales also are attributed to
each unit for 2001 and 2000. The owning unit pays a market-based funds-use
charge to Portfolio Management. For 1999, Residential Mortgage Banking,
Commercial Real Estate Lending, and Automobile Lending sold permanent,
marketable loans to Portfolio Management at market-based prices. Portfolio
Management then sold, securitized, or retained the loans based on the Company's
needs and market conditions. Certain short-term and floating rate loans were
retained by the originating unit, which was credited with the interest income
generated by those loans. The originating unit paid a market-based funds-use
charge to Portfolio Management. All other allocations are consistent for each
period. The segment results include certain other overhead allocations. The
results for the reportable segments of the Company for 2001, 2000, and 1999 are
included in the following tables:
74
23. SEGMENT REPORTING - continued
-----------------------------
For the year ended December 31, 2001
---------------------------------------------------------------------------------
Residential Commercial
Mortgage Real Estate Automobile Portfolio
Lending Lending Lending Management Other Consolidated
----------- ------------ ---------- ------------ ------- ------------
Interest income $ 43,015 $ 13,001 $ 14,663 $ 19,107 $ 1,721 $ 91,507
Interest expense 3 476 - 58,912 3,376 62,767
Intra-company funds (used) / provided (21,611) (6,221) (4,774) 32,473 132 0
Provision for loan losses 694 50 3,150 - 1,469 5,363
Noninterest income 46,765 378 1,834 (2,600) 3,020 49,397
Noninterest expense 37,359 240 5,453 4,326 11,344 58,722
----------- ------------ ---------- ----------- -------- ------------
Net income (loss) before income taxes and
cumulative effect of a change in
accounting principle 30,113 6,392 3,120 (14,258) (11,316) 14,052
Provision for (benefit of) income taxes 1,532 325 159 (726) (571) 720
----------- ------------ ---------- ------------ ------- ------------
Net income before cumulative effect
of a change in accounting principle 28,581 6,067 2,961 (13,532) (10,745) 13,332
Cumulative effect of change in
accounting principle - - - 1,124 - 1,124
------------ ------------ ---------- ------------ ------- ------------
Net income (loss) $ 28,581 $ 6,067 $ 2,961 $ (14,656) $(10,745) $ 12,208
============ ============ ========== ============ ======== ============
Depreciation and amortization, net $ 832 $ - $ 111 $ 39 $ 1,203 $ 2,185
Total assets 647,777 143,885 137,160 332,694 43,805 1,305,321
Capital expenditures 569 - 110 33 471 1,183
For the year ended December 31, 2000
---------------------------------------------------------------------------------
Residential Commercial
Mortgage Real Estate Automobile Portfolio
Lending Lending Lending Management Other Consolidated
----------- ------------ ---------- ------------ ------- ------------
Interest income $ 52,351 $ 11,088 $ 12,080 $ 18,137 $ 4,348 $ 98,004
Interest expense - - - 62,995 3,593 66,588
Intra-company funds (used) / provided (35,158) (7,823) (6,086) 49,711 (644) -
Provision for loan losses 2,011 - 592 - 2,962 5,565
Noninterest income 32,506 519 2,902 (2,169) 5,782 39,540
Noninterest expense 33,108 323 4,526 3,299 13,376 54,632
------------ ------------ ---------- ------------ ------- ----------
Net income (loss) before income taxes 14,580 3,461 3,778 (615) (10,445) 10,759
Provision for (benefit of) income taxes 686 148 189 275 (654) 644
------------ ------------- ---------- ------------ ------- ----------
Net income (loss) $ 13,894 $ 3,313 $ 3,589 $ (890) $ (9,791) $ 10,115
============ ============= ========== ============ ======== ==========
Depreciation and amortization, net $ 1,027 $ - $ 169 $ 42 $ 1,464 $ 2,702
Total assets 682,249 123,579 104,575 219,371 93,003 1,222,777
Capital expenditures 466 - 16 19 2,045 2,546
75
23. SEGMENT REPORTING - continued
-----------------------------
For the year ended December 31, 1999
-----------------------------------------------------------------------------------
Residential Commercial
Mortgage Real Estate Automobile Portfolio
Lending Lending Lending Management Other Consolidated
------------ ------------- ------------- ---------- -------------- -------------
Interest income $ 18,109 $ 70 $ 221 $ 63,660 $ 3,296 $ 85,356
Interest expense 39 - 37 52,463 1,045 53,584
Intra-company funds (used) / provided (11,831) - (167) 12,300 (302) -
Provision for loan losses 61 - - 2,626 951 3,638
Noninterest income 40,985 788 3,265 (9,699) 2,630 37,969
Noninterest expense 35,530 127 5,783 5,102 15,564 62,106
------------ ------------- ------------- ---------- -------------- -------------
Net income (loss) before income taxes 11,633 731 (2,501) 6,070 (11,936) 3,997
Provision for (benefit of) income taxes 4,093 - (880) 2,135 (3,942) 1,406
------------ ------------- ------------- ---------- -------------- -------------
Net income (loss) $ 7,540 $ 731 $ (1,621) $ 3,935 $ (7,994) $ 2,591
============ ============= ============= ========== ============== =============
Depreciation and amortization, net $ 1,504 $ - $ 288 $ 6 $ 658 $ 2,456
Total assets 166,610 - 12,057 800,363 42,077 1,021,107
Capital expenditures 3,186 - 147 - 1,629 4,962
24. TRUST PREFERRED SECURITIES
--------------------------
In June 1998, the Company sold $34.5 million of 8.5 percent cumulative
preferred securities issued by New South Capital Trust I (the "Trust"). These
preferred securities are collateralized by subordinated debentures issued by the
Company and are presented on the balance sheet as a separate line entitled
"Guaranteed preferred beneficial interests in the Company's subordinated
debentures". The debentures have a stated maturity of June 30, 2028 and are
subject to early redemption, in whole or in part, any time after June 30, 2003,
at par.
The sole assets of the Trust are $35.6 million in subordinated debentures
which have the same interest rate and maturity characteristics as the trust
preferred securities. The Company owns all of the common securities of the Trust
which amount to $1.1 million.
The Company, through the guarantee, the trust agreement, the subordinated
debentures and the indenture, taken together, fully, irrevocably and
unconditionally guarantees all of the Trust's obligations with respect to the
preferred securities. The Company guarantees the payment of distributions and
payments on liquidation or redemption of the preferred securities, but only in
each case to the extent of funds held by the Trust. The guarantee does not cover
payment of distributions when the Trust has insufficient funds to pay such
distributions. If the Company does not make interest payments on the
subordinated debentures held by the Trust, the Trust will have insufficient
funds to pay distributions on the preferred securities. In such event, a holder
of preferred securities may institute a legal proceeding directly against the
Company pursuant to the terms of the guarantee to enforce payment of amounts
equal to such distributions to such holder.
The Company's subordinated debentures and its guarantee are unsecured and
subordinated to all senior debt. Accordingly, the subordinated debentures and
the guarantee will rank junior in right of payment to all present and future
senior debt of the Company and rank pari passu with obligations to or rights of
the Company's other general unsecured creditors. In the case of a bankruptcy or
insolvency proceeding involving the Company, the Company's obligations under the
guarantee will rank subordinate and junior in right of payment to all
liabilities of the Company, but senior to any obligation in respect of any class
of capital stock of the Company.
76
24. TRUST PREFERRED SECURITIES - continued
--------------------------------------
The Company will have the right at any time to terminate the Trust and
cause the subordinated debentures to be distributed to the holders of the trust
securities in liquidation of the Trust. In the event of the termination of the
Trust, after satisfaction of liabilities to creditors of the Trust as required
by applicable law, the holders of the preferred securities will be entitled to
receive a liquidation amount of $10.00 per preferred security plus accumulated
and unpaid distributions thereon to the date of payment, which may be in the
form of a distribution of such amount in subordinated debentures, subject to
certain exceptions.
77
ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND
FINANCIAL DISCLOSURE.
None
PART III
ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS
The Company's Board of Directors ("Board of Directors") is divided into
three classes, and each of the Company's five directors is elected into one of
these three classes to hold office for a term of three years or until their
successors have been elected and qualified. Executive officers serve at the
pleasure of the Board of Directors and directors are elected in the annual
meeting of stockholders. The directors, executive officers and other key
employees of the Company and their ages as of March 31, 2002, are as follows:
Name Age Position
- ---- --- --------
Director elected to serve until annual meeting in 2004 (Class II)
Lizabeth R. Nichols 46 Director, Vice President and Assistant Secretary of the
Company; Senior Vice President and General Counsel of
New South
Directors elected to serve until annual meeting in 2002 (Class I)
William T. Ratliff, Jr. 77 Director and Vice President of the Company;
Director of New South
Robert M. Couch 44 Director and Executive Vice President of the Company;
Director, President and Chief
Executive Officer of New South
Directors elected to serve until annual meeting in 2003 (Class III)
William T. Ratliff, III 48 Director, Chairman of the Board and President of the
Company;
Chairman of the Board of New South
David W. Whitehurst 52 Director of the Company
Executive Officers Who Are Not Also Directors
David E. Mewbourne 52 Executive Vice President of New South
Roger D. Murphree 55 Executive Vice President and Treasurer of New South
David A. Roberts 48 Director and Senior Vice President of New South
Richard W. Edwards 42 Vice President and Chief Financial Officer of the
Company and Senior Vice President and Chief Financial
Officer of New South
Larry A. Nelson 52 Senior Vice President of New South
The business experience of each of the persons named above during the past five
years is discussed below.
Mr. William T. Ratliff, Jr. has been a Director and Vice President of
the Company since its organization in 1994. He has been a Director of New South
since its organization in 1985. He served as Chief Executive Officer of
Collateral (or its predecessor Collateral Investment Company) for 31 years until
1986. Mr. Ratliff, Jr. is the father of Mr. Ratliff, III, the Chairman and
President of the Company, and the brother of Mr. J.K.V. Ratliff, a Vice
President of the Company.
78
Mr. William T. Ratliff, III has been President and a Director of the
Company since its organization in October 1994 and Chairman of the Board and
Chief Executive Officer of New South since 1985. Mr. Ratliff, III, has been
the Chairman of the Board of Triad Guaranty, Inc., an affiliate, since its
inception in 1993 and Chairman of the Board of Triad Guaranty Insurance
Corporation, an affiliate, since 1989. He has been President of Collateral
Investment Corp., an affiliate, since 1990 and was President and an individual
General Partner of Collateral from 1987 to 1995. From March 1994 until
December 1996, Mr. Ratliff served as President of Southwide Life Insurance
Corp., an affiliate. He served as Executive Vice President of Southwide Life
Insurance Corp., an affiliate, from 1986 to 1993. Mr. Ratliff, III joined
Collateral in 1981. Mr. Ratliff, III is the son of Mr. Ratliff, Jr., a
Director and Vice President of the Company, and the nephew of Mr. J.K.V.
Ratliff, a Vice President of the Company.
Mr. Robert M. Couch has been Executive Vice President of the Company
since 1994, and a Director since July 1998. Mr. Couch is responsible for the
day-to- day operations of the Company. He has been President and Chief
Executive Officer of New South since March 2001, and a Director since January
1995. He was President and Chief Operating Officer of New South from June 1997
to March 2001. From March 1995 to June 1997, he served as Vice Chairman of New
South. Mr. Couch has been Managing Director of Collateral since November
2000. From August 1995 to November 2000, Mr. Couch was President of
Collateral. From October 1993 to August 1995, Mr. Couch served as Executive
Vice President of Collateral.
Mr. David W. Whitehurst has been a Director of the Company since July
of 1998. Mr. Whitehurst was a Director of New South from 1989 to May 2001.
Mr. Whitehurst has been Managing Director of North American Vision Alliance,
L.L.C., an affiliate, since September 2001. He has been a Director and
Executive Vice President, CFO, Treasurer and Assistant Secretary of Collateral
Benefits Group, Inc. since October 2001. He was Executive Vice President, Chief
Financial Officer, and a Director of Triad Guaranty, Inc. from 1993 to 2000,
and served as Secretary of Triad Guaranty, Inc. from 1993 until 1996. He has
been Executive Vice President of CIC since 1995 (Vice President from 1990 to
1995), was Chief Financial Officer of CIC from 1990 through 1995, was Executive
Vice President of Southwide Life Insurance Corp. from 1992 until 1996. From
January 1997 until July 2001 Mr. Whitehurst was the President, Treasurer and a
Director of Southland National Insurance Corp. and its subsidiaries, all of
which are affiliates. Mr. Whitehurst joined Collateral in 1989 and served as
Vice President of Collateral and its affiliates until 1992, when he began
devoting all of his time to CIC and its affiliates.
Ms. Lizabeth R. Nichols has been a Director of the Company since May
2001, and Vice President and Assistant Secretary of the Company since August
1998. Ms. Nichols has been Senior Vice President and General Counsel of New
South since November 1998. From February 1998 to November 1998 Ms. Nichols
served as Vice President and General Counsel of New South. From January 1997
to January 1998, Ms. Nichols served as Vice President and Legal Counsel of New
South. Ms. Nichols has served as Vice President of Collateral since January
1997. Ms. Nichols has been a Director and General Counsel of Southland
National Insurance Corporation, an affiliate, since September 2001 and Chairman
of the Board since February 2002. From October 1993 to September 1996, Ms.
Nichols was Vice President and Associate General Counsel of Protective Life
Corporation, an insurance holding company and was an employee until January
1997.
Mr. David E. Mewbourne has been Executive Vice President of New South
since July 1997. Mr. Mewbourne is responsible for the day to day operations of
residential mortgage loan production, underwriting and servicing. From 1995 to
June 1997, he was Senior Vice President of New South. Mr. Mewbourne has been
Senior Vice President of Collateral since March 1, 1995. From June 1987 to
March 1995, he served as Executive Vice President of AmSouth Mortgage Company.
Mr. Roger D. Murphree has been Executive Vice President of New South
since October 2001. Mr. Murphree was Senior Vice President of New South from
December 1997 to October 2001. Mr. Murphree is responsible for secondary
marketing sales, securitizations, and portfolio trading for the Company. Since
December 1996, Mr. Murphree has been a Director of Southland National
Insurance Corporation, an affiliate. From 1995 to December 1997, he served as
Vice President of New South. Mr. Murphree has been employed by New South
since 1985. Mr. Murphree has served as Senior Vice President of Collateral
since June 1995.
Mr. David A. Roberts has been a Director of New South since September
1997 and Senior Vice President since July 1997. Mr. Roberts is responsible for
New South's commercial real estate lending activities. Mr. Roberts has been
President and Chief Executive Officer of CMC since May 2001. Mr. Roberts has
served as President and Chief Operating Officer of Collateral since November
2000. Mr. Roberts served as Executive Vice President and Chief Operating
Officer of Collateral from August 1997 to November 2000. From February 1995 to
July 1997, he served as Senior Vice President of Collateral. From June 1990 to
February 1995, he served as Vice President of Collateral.
79
Mr. Richard W. Edwards has been Vice President and Chief Financial
Officer of the Company and Senior Vice President and Chief Financial Officer of
New South since January 2001. From July 1989 to December 2001, Mr. Edwards
served as a senior financial officer of Bank of America Corporation and its
predecessors in various businesses and capacities. Mr. Edwards was a Senior
Vice President of Bank of America from September 1995 until December 2001.
From April 2001 to December 2001 Mr. Edwards served as the Chief Financial
Officer of Bank of America Marketplace, LLC. and Bank of America Financial
Services Engine, LLC.
Mr. Larry A. Nelson has been Senior Vice President of New South since
December 1997. Mr. Nelson is responsible for the day-to-day operations of
automobile installment lending. From 1989 to 1997, he served as Vice President
of New South.
ITEM 11. EXECUTIVE COMPENSATION.
The following table sets forth the compensation earned by the named
Executive Officers of New South during the last three fiscal years.
Summary Compensation Table
- --------------------------
Name and Principal Position Year Salary Bonus/(2)/ Other Long-term All Other
Compensation/(5)/ Compensation Awards/(7)/ Compensation/(8)/
William T. Ratliff, III 2001 187,000/(1)/ 502,000/(1)/ 0 50,000 4,851
President of the Company 2000 182,278 302,500 0 0 0
1999 127,000 96,252 0 0 0
Robert M. Couch 2001 225,720 297,500/(3)/ 0 90,000 4,925
Executive Vice President 2001 221,000 120,000 0 0 0
of the Company 1999 216,000 80,000 0 0 0
David E. Mewbourne 2001 207,000 125,000 0 60,000 1,950
Executive Vice President 2000 198,542 90,000 0 0 0
of New South 1999 190,000 90,000 0 0 0
Richard W. Edwards 2001 132,499/(2)/ 30,000 40,157/(6)/ 30,000 2,412
Vice President and Chief Financial 2000 0 0
Officer of the Company 1999 0
Roger D. Murphree 2001 124,274 37,500/(4)/ 0 30,000 1,786
Executive Vice President and 2000 115,368 27,500 0 0 0
Treasurer of New South 1999 108,626 40,000 0 0 0
/(1)/ The base salary and bonus for Mr. Ratliff, III are paid by Collat, Inc.
("Collat"), an affiliate. New South reimburses an applicable portion of
the base salary and bonus based on an allocation of time, under the
Administration Services Agreement (as defined herein) for services
rendered by Mr. Ratliff, III.
/(2)/ Employed as of January 2001.
/(3)/ Includes $73,000 reimbursed by Collateral under the Administrative
Services Agreement (as defined herein) for services rendered by Mr. Couch
to Collateral. See "Certain Relationships and Related Transactions."
/(4)/ Includes $7,500 reimbursed by Collateral under the Administration
Services Agreement (as defined herein) for services rendered by Mr.
Murphree. See "Certain relationships and Related Transactions."
/(5)/ Does not include amounts contributed by the Company to the Executive
Officer's 401(k) plan, the maximum amount which will be contributed to
one individual is $5,175.
/(6)/ Includes amounts reimbursed for taxes and other miscellaneous moving
expenses.
/(7)/ In 2001 New South implemented an Executive Incentive and Retirement
Agreement ("Plan") which provides for the granting of incentive awards in
the form of cash. The Plan is administered by the Bank's Compensation
Committee of the Board of Directors, which has the sole discretion,
subject to the terms of the Plan, to determine those employees, including
executive officers, eligible to receive awards, the amount of such
awards; formulate the terms and conditions of the awards and make other
determinations required in the administration thereof. For the fiscal
year 2001, the awards made under the Plan to the executive officers above
consisted of awards of cash, subject to certain conditions. Each award
deferred will vest 1/3 on the last day of the Plan Year after it is made
and 2/3's on the last day of the second Plan Year and fully vest on the
last day of the third Plan Year provided the Executive Officer is
employed and in good standing. The vested awards will be paid in lump sum
or in monthly installments at New South's discretion at normal retirement
(age 62) or actual retirement if later, death or disability. Awards are
discretionary.
/(8)/ Includes premiums for supplemental disability insurance paid on behalf
of executive officer by New South.
80
ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT
The following table sets forth certain information concerning the
beneficial ownership of the Company's common stock as of March 1, 2002 (unless
otherwise noted) with respect to (i) persons the Company believes to be the
beneficial owners of 5 percent or more of the Company's common stock, (ii) each
current director and each of the executive officers named in the Summary
Compensation Table contained herein, and (iii) all directors and executive
officers of the Company, as a group:
Name and Address of Beneficial Owner Amount and Nature of Percentage
--------------------
Beneficial Ownership/(1)/ Beneficially Owned/(1)/
Mary R. Johnson-Butterworth 104,515/(2)/ 8.32 percent
4731 Old Leeds Road
Birmingham, Alabama 35213
W.T. Ratliff, Jr. 233,720 18.62 percent
2621 Altadena Road
Birmingham, Alabama 35243
J.K.V. Ratliff 180,507 14.38 percent
46 Greenway Road
Birmingham, Alabama 35213
William T. Ratliff, III 137,678/(3)/ 10.97 percent
3944 Forest Glen Drive
Birmingham, Alabama 35213
Amelie L. Ratliff 98,860 7.87 percent
5 Fuller Street, #1
Brookline, Massachusetts 02446-2452
Daniel T. Ratliff 109,444/(4)/ 8.72 percent
31315 Pine Run Drive
Ono Island
Orange Beach, Alabama 36561
Carlton McCoy Ray 98,360 7.83 percent
9949 Southwind Drive
Indianapolis, Indiana 46256
Thomas E. Gester 22,390 1.78 percent
3020 Briarcliff Road
Birmingham, Alabama 35223
Robert M. Couch 5,347.60 *
8 Club View Drive
Birmingham, Alabama 35223
All current directors and 557,253.60 44.38 percent
executive officers as a group (12
individuals)
- -------------------------------
* Less than one percent
/(1)/ Unless otherwise indicated, the persons named above have the sole
power to vote or direct the voting and to dispose or direct the
disposition of any security.
/(2)/ Includes 5,542 shares held by Mrs. Johnson-Butterworth as custodian
for the benefit of her minor children.
/(3)/ Includes 24,406 shares held by Mr. Ratliff, III as custodian for the
benefit of his minor children, nieces and nephews. /(4)/ Includes
11,084 shares held by Mr. Daniel T. Ratliff as custodian for the
benefit of his minor children.
81
ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS
Certain affiliated corporations and limited partnerships in which Messrs.
Ratliff, Jr., J.K.V. Ratliff and Ratliff, III are majority owners have been
customers of New South in the ordinary course of business. These affiliated
corporations and limited partnerships include Collateral, CMC, Collat,
Collateral Agency, Inc., Triad Guaranty, Inc., and Southland National Insurance
Corporation. Outside of normal customer relationships, no directors or
officers of the Company, no shareholders holding over five percent of the
Company's voting securities, and no corporations or limited partnerships with
which such persons or entities were associated, maintain or have maintained
since December 31, 2001, any significant business or personal relationship with
the Company or New South, except as described below. The terms of each of the
transactions presented herein are similar to those that could have been
obtained through negotiations with unaffiliated third parties.
Transfer. In connection with the Transfer, which is described in two
agreements between Collateral and New South. New South agreed to make semi-
annual payments to Collateral through June 30, 2000 based on a percentage of
the aggregate principal balance of all residential mortgage loans originated
through the 39 loan production offices. The percentage for the 12 month period
ending 2000 is 0.10 percent, or $.2 million.
Subservicing Agreement. Collateral has entered into a Subservicing
----------------------
Agreement with New South to service certain conforming residential mortgage
loans for Collateral. The Subservicing Agreement has an indefinite term but may
be terminated by Collateral with 60 days notice, provided Collateral pays New
South a penalty equal to 1 percent of the aggregate amount of servicing
outstanding on the date of termination. New South has the right to terminate
the Subservicing Agreement with 30 days notice without penalty. Under the terms
of the Subservicing Agreement, Collateral is required to reimburse New South
for any non recoverable losses. During 2001, Collateral paid New South $.5
million under the terms of the Subservicing Agreement. New South paid
Collateral $.4 million in 2001 for subservicing New South's owned commercial
and construction loan portfolio.
Lease Agreements. New South leases furnished office space from certain
----------------
affiliates. The Commercial Lease Agreements are each for terms of one year and
are automatically renewable. Either party may terminate same with 60 days
notice. During 2001 New South paid Collateral $.3 million in rent.
Administrative Services Agreement. New South provides data processing,
---------------------------------
legal, management, corporate accounting, human resources, mail,
telecommunications and public relations services to certain affiliated
companies under the terms of an Agreement for Administrative Services effective
January 1, 1991 (the "Administrative Services Agreement"). The Administrative
Services Agreement is for a term of one year, and is automatically renewable.
The Administrative Services Agreement may be terminated by any party with sixty
days notice. Administrative services are provided at actual costs, with fees
being due quarterly. During 2001 New South collected $.1 million from
Collateral Investment Corporation and $.06 million from Triad Guaranty
Insurance Corporation. During 2001, New South paid $.07 million to Collat, Inc.
and $.4 million to Collateral.
Investment Advisory Agreements. In 2001, Collateral received fees from
------------------------------
Triad Guaranty Insurance Corporation and Southland National Insurance
Corporation under the terms of Investment Advisory Agreements dated January 1,
1996. These Agreements have an indefinite term and may be terminated by either
party with 60 days notice. For investment advisory services rendered,
Collateral receives a fee based on the value of the assets actively managed.
Collateral's advisory services are provided by New South personnel in the
Capital Markets department who also serve as officers of Collateral.
Approximately 20 percent of New South's Capital Markets department time is
expended on these investment advisory services.
During the first quarter of 2000, New South purchased certain servicing
rights from Collateral to add to its servicing portfolio for $.8 million.
During 2001, New South paid $.06 million for certain servicing rights and
effective January 1, 2002 paid $.3 million to purchase the remaining
residential servicing portfolio owned by Collateral.
Indebtedness of Management. Certain directions and executive officers of
--------------------------
New South and its affiliates are currently indebted to New South for mortgage
loans. These loans (i) were made in the ordinary course of business, (ii) were
made on substantially the same terms, including interest and collateral, as
those prevailing at the time for comparable transactions with other persons,
and (iii) did not involve more than the normal risk of collectibility or
present other unfavorable features.
Additional information concerning Relationships and Transactions with
affiliated persons and organizations is incorporated herein by reference to
"Footnote 20 - Related Party Transactions" under Item 8 filed herein.
82
Part IV
-------
ITEM 14. EXHIBITS, FINANCIAL STATEMENT SCHEDULES, AND REPORTS ON FORM 8-K.
(1) The following documents are filed as part of this report:
1. Financial Statements (Item 8)
2. Financial Statement Schedules (see index annexed)
3. Exhibits:
The exhibits listed in the Exhibit Index on page 85 of this
Form 10-K are filed herewith or are incorporated herein by reference. No
management contract or compensatory plan or arrangement is required to be filed
as an exhibit to this form. The Registrant will furnish a copy of any of the
exhibits listed upon the payment of $5.00 per exhibit to cover the cost of the
Registrant in furnishing the exhibit.
(2) Reports on Form 8-K:
No reports on Form 8-K were filed by the Company during the fourth
quarter.
83
SIGNATURES
Pursuant to the requirements of Section 13 of the Securities Exchange Act
of 1934, the Company has duly caused this Report to be signed on its behalf by
the undersigned, thereunto duly authorized.
NEW SOUTH BANCSHARES, INC.
/s/ Robert M. Couch
- -----------------------------------------
By: Robert M. Couch
Executive Vice President and Director
Pursuant to the requirements of the Securities Exchange Act of 1934, this
Report has been signed below by the following persons on behalf of the Company
and in the capacities and on the dates indicated.
CAPACITY IN WHICH
SIGNATURE SIGNED DATE
Chairman and President March 28, 2002
- ---------------------------------
William T. Ratliff, III*
/s/ Richard W. Edwards Vice President March 28, 2002
- ---------------------------------
Richard W. Edwards Chief Financial Officer
Director and Vice President March 28, 2002
- ---------------------------------
William T. Ratliff, Jr.*
/s/ Lizabeth R. Nichols Director and Vice President March 28, 2002
- ---------------------------------
Lizabeth R. Nichols
Director March 28, 2002
- ---------------------------------
David W. Whitehurst*
* Lizabeth R. Nichols hereby signs this Report on March 28, 2002 on behalf of
each of the indicated persons for whom she is attorney-in-fact pursuant to
powers of attorney duly executed by such persons and filed with the Securities
and Exchange Commission.
/s/ Lizabeth R. Nichols
- -----------------------------------------
Lizabeth R. Nichols
Attorney-In-Fact
84
INDEX TO EXHIBITS
Exhibit No. Description of Exhibit
- ----------- -----------------------
*1.1 Form of Underwriting Agreement
*3.1 Certificate of Incorporation of New South Bancshares, Inc.
*3.2 By-Laws of New South Banchares, Inc.
*4.1 Certificate of Trust of New South Capital Trust I
*4.2 Initial Trust Agreement of New South Capital Trust I
**4.3 Form of Junior Subordinated Indenture between the Company and Bankers Trust Company, as
Debenture Trustee
**4.4 Form of Amended and Restated Trust Agreement of New South Capital Trust I
**4.5 Form of Preferred Security Certificate for New South Capital Trust I (included as Exhibit A-1
of Exhibit 4.4)
**4.6 Form of Guarantee Agreement for New South Capital Trust I
**5.1 Opinion of Balch & Bingham LLP as to legality of the Junior Subordinated
Debentures and the Guarantees to be issued by the Company
**5.2 Opinion of Richards, Layton & Finger, P.A. as to legality of the Preferred Securities to be
issued by New South Capital Trust I
***8.1 Opinion and consent of Balch & Bingham LLP regarding certain federal income tax matters
**10.1 Asset Purchase Agreement dated July 1, 1997
**10.2 Lease Agreement dated July 1, 1997
**10.3 Sub Servicing Agreement dated December 31, 1986
**10.4 Loan/Mortgage B Securities Master Participation Agreement dated March 30, 1988
**10.5 Commercial Lease Agreement dated April 20, 1993
**10.6 Commercial Lease Agreement dated January 1, 1998
**10.7 Administrative Services Agreement dated January 1, 1991
**10.8 Real Estate Purchase Agreement dated June 6, 1997
**10.9 Loan Participation Agreement dated November 25, 1997
***10.10 Stock Purchase Agreement dated December 31, 1997
10.11 Executive Incentive and Retirement Agreement
21 List of Subsidiaries of New South Bancshares, Inc.
***23.23 Consent of Balch & Bingham (included in the opinion in Exhibit 8.1)
**23.3 Consent of Richards, Layton & Finger, P.A. (included in the opinion in Exhibit 5.2)
24.1 Power of Attorney
**25.1 Form T-1 Statement of Eligibility of Bankers Trust Company to act as trustee under (i) the Junior
Subordinated Indenture (ii) the Amended and Restated Trust Agreement of New South Capital
Trust I and (iii) the Guarantee for the benefit of the holders of Preferred Securities of New South
Capital Trust I.
99 Confirmation of Receipt of Assurances - Arthur Andersen LLP
- ------------------------
* Filed with Registration Statement on Form S-1, filed April 6, 1998,
registration No. 333-49459
** Filed with Amendment No. 1 to the
Registration Statement on Form S-1, filed May 13, 1998
*** Filed with Amendment No. 2 to the Registration Statement of Form S-1,
filed My 26, 1998
**** Filed with Amendment to Form 8-K, filed November 19, 1998
85