UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-Q
QUARTERLY REPORT UNDER SECTION 13 OR
15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
FOR THE QUARTERLY PERIOD ENDED JUNE 30, 2007
Commission File Number
000-28037
FIRST SOUTH BANCORP, INC.
(Exact Name of registrant as specified in its charter)
SOUTH CAROLINA 57-1086258
(State of Incorporation) (IRS Employer Identification) number)
1450 John B. White, Sr., Blvd.
Spartanburg, South Carolina 29306
(Address of Principal Executive Office)
(864) 595-0455
(Registrant's Telephone Number)
Check whether the registrant (1) has filed all reports to be filed by Section 13
or 15(d) of the Exchange Act during the past 12 months (or for such shorter
period that the Issuer was required to file such reports), and (2) has been
subject to such filing requirements for the past 90 days. YES (X) N0 ( )
Indicate by check mark whether the registrant is a large accelerated filer, an
accelerated filer, or a non-accelerated filer. See definition of "accelerated
filer and a large accelerated filer" in Rule 12b-2 of the Exchange Act. (Check
one):
Large accelerated filer ( ) Accelerated filer ( ) Non-accelerated filer (X)
Indicate by check mark whether the registrant is a shell company (as defined in
Rule 12b-2 of the Exchange Act. ( ) Yes (X) No
State the number of shares outstanding of each of the registrant's classes of
common equity, as of the latest practical date: Common Stock, no par value,
2,161,038 shares outstanding on August 13, 2007.
FIRST SOUTH BANCORP, INC.
FORM 10-Q
INDEX
PART I - FINANCIAL INFORMATION Page
Item 1. Financial Statements (Unaudited)
Consolidated Balance Sheets.................................3
Consolidated Statements of Income...........................4
Consolidated Statements of Comprehensive Income.............5
Consolidated Statements of Cash Flows.......................6
Notes to Unaudited Consolidated Financial Statements......7-9
Item 2. Management's Discussion and Analysis of Financial Condition
and Results of Operations............................9-21
Item 3. Quantitative and Qualitative Disclosures about Market Risk..22
Item 4.T Controls and Procedures ....................................23
Part II- OTHER INFORMATION
Item 4. Submission of Matters to a Vote of Security Holders........24
Item 6. Exhibits...................................................25
2
PART I - FINANCIAL INFORMATION
Item 1 - Financial Statements
FIRST SOUTH BANCORP, INC. AND SUBSIDIARY
CONSOLIDATED BALANCE SHEETS
(Dollar amounts in thousands)
(Unaudited)
Jun. 30, Dec. 31,
2007 2006
---- ----
Assets:
Cash & due from banks ................................................................ $ 5,642 $ 5,032
Due from banks - interest bearing .................................................... 12,125 10,650
Investment securities:
Securities held to maturity .................................................... 9,796 9,902
Securities available-for-sale .................................................. 20,668 23,293
Loans ................................................................................ 310,535 296,465
Less, allowance for loan losses ........................................... (3,454) (3,275)
--------- ---------
Loans - net .......................................................................... 307,081 293,190
Property & equipment, net ............................................................ 6,586 5,290
Investment in FSBS Capital Trust ..................................................... 155 155
Other assets ......................................................................... 5,454 5,911
--------- ---------
Total assets ......................................................................... $ 367,507 $ 353,423
========= =========
Liabilities
Deposits
Noninterest-bearing demand ........................................................ $ 15,758 $ 16,038
Interest-bearing .................................................................. 290,784 292,019
--------- ---------
Total deposits ................................................................ 306,542 308,057
Securities sold under repurchase agreements .......................................... 1,472 2,171
Other borrowed funds ................................................................. 15,000 -
Demand notes issued to the U.S. Treasury ............................................. 154 287
Subordinated debt .................................................................... 5,155 5,155
Other liabilities .................................................................... 1,665 1,798
--------- ---------
Total liabilities .............................................................. 329,988 317,468
Shareholder's equity
Common stock, no par value; 36,000,000 shares authorized
2,161,038 and 2,155,538, respectively ................................................ - -
Paid-in capital ...................................................................... 19,923 19,849
Retained earnings .................................................................... 17,770 16,206
Accumulated other comprehensive loss ................................................. (174) (100)
--------- ---------
Total shareholders' equity ........................................................... 37,519 35,955
--------- ---------
Total liabilities and shareholders' equity ........................................... $ 367,507 $ 353,423
========= =========
See notes to unaudited consolidated financial statements.
3
FIRST SOUTH BANCORP, INC. AND SUBSIDIARY
Consolidated Statements of Income
(Unaudited) (Unaudited)
Three Months ended Six Months ended
June 30 June 30
------- -------
2007 2006 2007 2006
---- ---- ---- ----
(Dollars in thousands, except per share data)
Interest income
Loans, including fees .............................. $ 6,763 $ 6,346 $ 13,516 $ 12,472
Investment securities .............................. 405 397 831 753
Interest bearing deposits .......................... 149 171 191 298
-------- -------- -------- --------
Total interest income ............................ 7,317 6,914 14,538 13,523
Interest expense
Deposits and borrowings ............................ 3,821 3,210 7,467 6,004
-------- -------- -------- --------
Net interest income .................................... 3,496 3,704 7,071 7,519
Provision for loan losses ........................... (461) (227) (901) (542)
-------- -------- -------- --------
Net interest income after provision .................... 3,035 3,477 6,170 6,977
Noninterest income
Service charges on deposit accounts ................. 60 72 114 135
Gain on sale of Bank owned assets ................... 69 47 182 47
Other income ........................................ 97 427 202 528
-------- -------- -------- --------
Total noninterest income .......................... 226 546 498 710
-------- -------- -------- --------
Noninterest expenses
Salaries and benefits ............................... 1,279 1,231 2,581 2,330
Occupancy and equipment ............................. 259 232 504 440
Other expense ....................................... 568 541 1,132 999
-------- -------- -------- --------
Total noninterest expense ......................... 2,106 2,004 4,217 3,769
-------- -------- -------- --------
Income before income taxes ............................. 1,155 2,019 2,451 3,918
Provision for income taxes .......................... 416 729 886 1,414
-------- -------- -------- --------
Net income ............................................. $ 739 $ 1,290 $ 1,565 $ 2,504
======== ======== ======== ========
Basic per share earnings ............................... $ 0.34 $ 0.61 $ 0.72 $ 1.19
======== ======== ======== ========
Diluted earnings per common share ...................... $ 0.34 $ 0.59 $ 0.72 $ 1.15
======== ======== ======== ========
See notes to unaudited consolidated financial statements.
4
FIRST SOUTH BANCORP, INC. AND SUBSIDIARY
Consolidated Statements of Comprehensive Income
(Dollar amounts in thousands)
(Unaudited) (Unaudited)
Three Months ended Six Months ended
June 30, June 30,
-------- --------
2007 2006 2007 2006
---- ---- ---- ----
Net income ..................................................... $ 739 $ 1,290 $ 1,565 $ 2,504
Other comprehensive loss:
Change in unrealized holdings gains &
losses on available for sale securities ................ (194) (161) (120) (226)
Income tax expense benefit on other
comprehensive loss ........................ 74 86 46 86
------- ------- ------- -------
Total other comprehensive loss ................................. (120) (75) (74) (140)
------- ------- ------- -------
Comprehensive income ........................................... $ 619 $ 1,215 $ 1,491 $ 2,364
======= ======= ======= =======
See notes to unaudited consolidated financial statements.
5
FIRST SOUTH BANCORP, INC. AND SUBSIDIARY
Consolidated Statements of Cash Flows
(Dollar amounts in thousands)
(Unaudited)
Six Months Ended
June 30,
--------
2007 2006
---- ----
Operating Activities
Net income ........................................................................... $ 1,565 $ 2,504
Adjustments to reconcile net income to net cash provided
by operating activities
Provision for loan losses ....................................................... 901 542
Depreciation .................................................................... 214 208
Gain on sale of bank owned assets ............................................... (3) -
Net Amortization of Securities .................................................. 8 -
Deferred Tax Asset .............................................................. - 86
Increase in cash surrender value of life insurance .............................. (17) (15)
Increase (decrease) in other assets ............................................. 827 (247)
Decrease in accrued expenses
and other liabilities ......................................................... (148) (471)
-------- --------
Net cash provided by operating activities ............................................ 3,347 2,607
-------- --------
Investing Activities
Purchase of securities available for sale ....................................... (1,000) (8,498)
Purchase of restricted FHLB stock ............................................... (570) (57)
Proceeds from MBS principal paydowns ............................................ 184 326
Proceeds from matured available for sale securities ............................. 4,000 4,000
Origination of loans, net of principal collected ................................ (15,109) (28,027)
Purchase of premises and equipment .............................................. (1,493) (351)
-------- --------
Net cash used in investing activities ................................................ (13,988) (32,607)
-------- --------
Financing Activities
Net increase (decrease) in deposits ............................................. (1,516) 21,701
Net decrease in retail repurchase agreements .................................... (699) (2,013)
Proceeds from exercise of stock options ......................................... 74 137
Net increase (decrease) in other borrowings ..................................... 14,867 (267)
-------- --------
Net cash provided by financing activities ............................................ 12,726 19,558
-------- --------
Net increase (decrease) in cash and cash equivalents ................................. 2,085 (10,442)
Cash and cash equivalents, beginning ................................................. 15,682 18,532
-------- --------
Cash and cash equivalents, ending .................................................... $ 17,767 $ 8,090
======== ========
See notes to unaudited consolidated financial statements.
6
FIRST SOUTH BANCORP, INC. AND SUBSIDIARY
Notes to Unaudited Consolidated Financial Statements
Note 1. Basis of Presentation and Use of Estimates
The accompanying unaudited financial statements have been prepared in accordance
with accounting principles generally accepted in the United States for interim
financial information and with instructions to Form 10-Q and Regulation S-X of
the Securities and Exchange Commission. Accordingly, they do not contain all of
the information and footnotes required by accounting principles generally
accepted in the United States for complete financial statements. However, in the
opinion of management, all adjustments considered necessary for a fair
presentation have been included. Operating results for the six and three months
ended June 30, 2007 are not necessarily indicative of the results that may be
expected for the year ended December 31, 2007. For further information, please
refer to the financial statements and footnotes thereto for the Corporation's
fiscal year ended December 31, 2006, contained in the Corporation's 2006 Annual
Report on Form 10-K.
The consolidated financial statements include the accounts of the Corporation
and its wholly-owned subsidiary, the Bank. All significant intercompany balances
and transactions have been eliminated in consolidation.
Use of Estimates - The preparation of the consolidated financial statements in
conformity with accounting principles generally accepted in the United States of
America requires management to make estimates and assumptions that affect
reported amounts of assets and liabilities and disclosure of contingent
liabilities at the date of the financial statements, as well as the amounts of
income and expenses during the reporting period. Actual results could differ
from those estimates.
Note 2 - Earnings per Share
Earnings per share has been determined under the provisions of statement of
Financial Accounting Standards No. 128, Earnings Per Share. For the quarters
ended June 30, 2007 and 2006, basic earnings per share has been computed based
upon the weighted average common shares outstanding of 2,160,785 and 2,110,679,
respectively.
The only potential dilutive security of the Company as defined in Statement of
Financial Accounting Standards No. 128, Earnings Per Share, is stock options
granted to various officers and employees of the Bank prior to 2006. The
following is a summary of the diluted earnings per share calculation for the
three months ended June 30, 2007 and 2006 (Dollars in thousands, except share
and per share data):
Three Months ended Six Months ended
June 30, June 30,
-------- --------
2007 2006 2007 2006
---- ---- ---- ----
Net Income ......................................... $ 739 $ 1,290 $ 1,565 $ 2,504
Weighted average outstanding shares ................ 2,160,785 2,110,679 2,158,176 2,110,679
Basic earnings per share ........................... $ 0.34 $ 0.61 $ 0.72 $ 1.19
Weighted average outstanding shares ................ 2,160,785 2,110,679 2,158,176 2,110,679
Dilutive effect of stock options ................... 28,769 63,762 29,094 63,762
---------- ---------- ---------- ----------
Weighted average diluted shares .................... 2,189,554 2,174,441 2,187,270 2,174,441
Diluted earnings per share ......................... $ 0.34 $ 0.59 $ 0.72 $ 1.15
7
Note 3 - Impact of Recently Issued Accounting Standards
In March 2006, the FASB issued SFAS No. 156, Accounting for Servicing of
Financial Assets, an amendment of FASB Statement No. 140. This statement amends
SFAS No. 140, Accounting for Transfers and Servicing of Financial Assets and
Extinguishments of Liabilities, a replacement of SFAS No. 125 with respect to
the accounting for separately recognized servicing assets and servicing
liabilities. The provisions of this statement were effective as of the beginning
of the Company's 2007 fiscal year. The adoption of SFAS No. 156 did not have a
material impact on the Company's financial position and results of operations.
In July 2006, FASB issued Interpretation No. 48, "Accounting for Uncertainty in
Income Taxes--an interpretation of SFAS No. 109" ("FIN 48"), which clarifies the
accounting for uncertainty in tax positions. This interpretation requires that
the Company recognize in its financial statements, the impact of a tax position,
if that position is more likely than not of being sustained on audit, based on
the technical merits of the position. The provisions of FIN 48 were effective as
of the beginning of the Company's 2007 fiscal year, with the cumulative effect
of the change in accounting principle recorded as an adjustment to opening
retained earnings. The Company adopted FIN 48 effective January 1, 2007. The
adoption of FIN 48 did not have a material impact on the Company's financial
position and results of operations.
In September 2006, FASB issued SFAS No. 157, "Fair Value Measurements" ("SFAS
No. 157"), which enhances existing guidance for measuring assets and liabilities
using fair value and requires additional disclosure about the use of fair value
for measurement. The Statement is effective for financial statements issued for
fiscal years beginning after November 15, 2007, and interim periods within those
fiscal years. The Company will be required to adopt SFAS No. 157 in the first
quarter of 2008, and is currently evaluating the impact of the adoption of SFAS
No. 157 on its financial position and results of operations, including the
valuation methods and support for the assumptions that underlie the valuation.
During the first quarter of 2007, FASB issued SFAS No. 159, "The Fair Value
Option for Financial Assets and Financial Liabilities" ("SFAS 159"), which
permits entities to choose and measure many financial instruments and certain
other items at fair value. The Company will be required to adopt SFAS No. 159 in
the first quarter of 2008, and is currently evaluating the impact of the
adoption of SFAS No. 159 on its financial position and results of operations.
In September 2006, the Emerging Issues Task Force issued EITF Issue 06-4,
"Accounting for Deferred Compensation and Postretirement Benefit Aspects of
Endorsement Split-Dollar Life Insurance Arrangements" ("EITF Issue 06-4"). EITF
Issue 06-4 requires that, for endorsement split-dollar insurance arrangements
that provide a benefit to an employee that extends to postretirement periods, an
employer should recognize a liability for future benefits in accordance with
SFAS No. 106 or APB No. 12 based on the substantive agreement of the employee.
If the employer has effectively agreed to maintain a life insurance policy
during postretirement periods, the costs of the life insurance policy during the
postretirement periods should be accrued in accordance with either FASB
Statement No. 106 or APB No. 12. If the employer has agreed to provide a death
benefit, the employer should recognize a liability for the future death benefit
in accordance with either SFAS No. 106 or APB No. 12. EITF Issue 06-4 is
effective for fiscal years beginning after December 15, 2007. The Company is
currently evaluating the impact of EITF Issue 06-4 on its financial statements.
8
Note 4 - Other Borrowed Funds
Other borrowed funds consisted of a 10 year $10 million one year convertible
advance at 4.115% issued on April 5, 2007 and a 10 year $5 million six month
convertible advance at 4.06% issued on April 5, 2007 from the Federal Home Loan
Bank of Atlanta
Item 2. Management's Discussion and Analysis of Financial Condition and Results
of Operations
This discussion is intended to assist in understanding the financial condition
and results of operations of the Company, and should be read in conjunction with
the financial statements and related notes contained elsewhere herein and in the
Company's 2006 annual report on Form 10-K. Because the Bank is responsible for
all of the Company's operations, the discussion will refer to the results of
operations of the Bank.
Forward Looking Statements
Statements included in this Form 10-Q which are not historical in nature are
intended to be, and are hereby identified as "forward-looking statements" for
purposes of the safe harbor provided by Section 21E of the Securities and
Exchange Act of 1934, as amended. Words such as "estimate," "project," "intend",
"expect," "believe," "anticipate," "plan," and similar expressions identify
forward looking statements. The Company cautions readers that forward looking
statements, including without limitation, those relating to the Company's future
business prospects, revenues, working capital, liquidity, capital needs,
adequacy of allowance for loan losses, interest costs, and income, are subject
to certain risks and uncertainties that could cause actual results to differ
from those indicated in forward looking statements, due to several important
factors herein identified, among others, and other risks and factors identified
from time to time in the Company's reports filed with the Securities and
Exchange Commission. These forward-looking statements are based on current
expectations, estimates and projections about our industry, management's
beliefs, and assumptions made by management. Such information includes, without
limitation, discussions as to estimates, expectations, beliefs, plans,
strategies, and objectives concerning the Company's future financial and
operating performance. These statements are not guarantees of future performance
and are subject to risks, uncertainties and assumptions that are difficult to
predict, particularly in light of the fact that the Company is a relatively new
company with limited operating history. Therefore, actual results may differ
from those expressed or forecasted in such forward-looking statements. The risks
and uncertainties include, but are not limited to:
o The Company's growth and ability to maintain growth;
o government monetary and fiscal policies, as well as legislative and
regulatory changes;
o the effect of interest rate changes on our level and composition of
deposits, loan demand and the value of our loan collateral and
securities;
o the effects of competition from other financial institutions operating
in the Company's market areas and elsewhere, including institutions
operating locally, regionally, nationally and internationally;
o failure of assumptions underlying the establishment of the allowance
for loan losses, including the value of collateral securing loans; and
o loss of consumer confidence and economic disruptions resulting from
terrorist activities.
The Company undertakes no obligation to publicly update or revise any
forward-looking statements, whether as a result of new information, future
events or otherwise. In light of these risks, uncertainties, and assumptions,
the forward-looking events discussed in this report might not occur.
9
RESULTS OF OPERATIONS: THREE MONTH PERIOD ENDED JUNE 30, 2007, COMPARED TO THE
SAME PERIOD ENDED JUNE 30, 2006, AND SIX MONTH PERIOD ENDED JUNE 30, 2007,
COMPARED TO JUNE 30, 2006.
Net Income
For the quarter ended June 30, 2007, the Company earned a net profit of $739
thousand, a decrease of $551 thousand, or 42.7%, from the same period in 2006.
Diluted per share quarterly earnings were $.34 in 2007 and $.59 in 2006. The
decrease in earnings in 2007, as compared to the same quarter in 2006, can be
primarily attributed to the $442 thousand, or 12.7%, decrease in net interest
income after provision, the $320 thousand, or 58.6%, decrease in non-interest
income, and the $102 thousand, or 5.1%, increase in non-interest expense
discussed below. Correspondingly, the provision for income taxes for the second
quarter of 2007 has decreased $313 thousand as compared to the second quarter of
2006. This offsets the overall decrease to income before taxes of $864 thousand,
or 42.8%, in the second quarter of 2007 as compared to the second quarter of
2006.
For the first six months of 2007, the Company earned a net income of
approximately $1.565 million, or $.72 per diluted share, compared to
approximately $2.504 million, or $1.15 per diluted share, for the same period in
2006. Earnings per share decreased by 37.4% in the first six months of 2007 as
compared to the same period in 2006. The decrease in net income of 37.5% is
attributed to several factors including a $807 thousand, or 11.6%, decrease in
net interest income after the provision, a decrease in non-interest income of
$212 thousand, or 29.9%, and an increase in non-interest expense of $448
thousand, or 11.9%, during the first six months in 2007 as compared to the same
period in 2006. Correspondingly, the provision for income taxes for the first
six months of 2007 has decreased $528 thousand, or 37.3%. The decrease in the
provision for the first six months of 2007 as compared to the first six months
of 2006 offsets the overall decrease in income before tax of $939 thousand, or
37.5%, for the first six months of 2007 as compared to the same period in 2006.
Profitability
Earnings of financial institutions are most commonly measured through ROAA
(return on average assets) and ROAE (return on average equity). Return on
average assets is the income for the period, annualized, divided by the average
assets for the period. Return on average equity is the income for the period,
annualized, divided by the average equity for the period. As is shown in Table
One, ROAA and ROAE for the three month period ending June 30, 2007 were 0.83%
and 8.01%, respectively. For the first six months of 2007 as is shown in Table
One, ROAA and ROAE were 0.89% and 8.53%, respectively.
10
Table One
Selected Earnings Ratios
For three months ending For six months ending
June 30, June 30,
-------- --------
2007 2006 2007 2006
---- ---- ---- ----
Return on Average Assets ................................... 0.83% 1.50% 0.89% 1.46%
Return on Average Equity ................................... 8.01% 15.66% 8.53% 15.59%
Dividend Payout Ratio ...................................... N/A N/A N/A N/A
Average Shareholders' Equity
as a Percentage of Average Assets .......................... 10.42% 9.55% 10.42% 9.36%
Performance results as measured by ROAA and ROAE can be primarily attributed to
changes in the volume and composition of earning assets and the interest rate
environment. Details of these changes are provided in the following discussion
of net interest income.
Net Interest Income
Net interest income, the major component of First South Bancorp's income, is the
amount by which interest and fees on earning assets exceeds the interest paid on
interest bearing liabilities, primarily deposits. Net interest income for the
quarter ended June 30, 2007 decreased by $208 thousand, or 5.6%, as compared to
the 2006 quarter. Net interest income for the first six months of 2007 decreased
by $448 thousand, or 6.0%, over the same period in 2006.
This decrease can be largely attributed to the change in the economic
environment between the first six months of 2006 and 2007. During the first six
months of 2006, interest rates were rising and the Company's earning assets were
repricing more rapidly than interest-bearing liabilities. During the first six
months of 2007 when interest rates were stable, the repricing frequency of
interest-bearing liabilities, especially in the area of time deposits, exceeded
that of earning assets. The extent to which the earnings in 2007 were negatively
impacted by the change in the economic environment between the two first six
month periods is shown in Table Two. The average yield on earning assets
increased in 2007 over that of 2006 by 37 basis points (8.56%-8.19%), while the
cost of interest-bearing liabilities between the two periods increased 86 basis
points (4.97% - 4.11%). In addition, contributing to the negative effect of the
change in the economic environment between the periods are changes in the
Company's balance sheet. The increase in average earning assets of $9.5 million
in the first six months as compared to the same period in 2006 exceeded the $7.9
million increase in interest-bearing liabilities by $1.6 million. Although the
growth in average earning assets exceeded interest bearing liabilities, it was
not sufficient to offset the pace of repricing for average interest-bearing
liabilities. The net effect of these combined changes between the two first six
month periods resulted in a 49 basis point (3.59% - 4.08%) decrease in the
interest spread from 2006 to 2007.
In addition, the competition from new community banks and new branch offices of
older banks in the Spartanburg, Columbia, and Bluffton areas of South Carolina
has increased the interest expense of interest-bearing liabilities and reduced
the interest income of loans.
11
Table Two includes a detailed comparison of the average balances, yields and
rates for the interest sensitive segments of the Company's balance sheets for
the six months ended June 30, 2007 and 2006.
Table Two Net Interest Income and Average Balance Analysis
for the Six Months Ended June 30,
2007 and 2006
(Amounts in thousands)
Interest Average
Average Balance Income/Expense Yield/Cost(1)
--------------- -------------- -------------
Interest-Earning Assets 2007 2006 2007 2006 2007 2006
---- ---- ---- ---- ---- ----
Due from Banks ........................................ $ 7,463 $ 12,904 $ 191 $ 298 5.16% 4.66%
Investments ........................................... 31,908 33,416 831 753 5.25% 4.54%
Loans ................................................. 302,941 286,475 13,516 12,472 9.00% 8.78%
--------- --------- --------- ---------
Total Interest Earning Assets ......................... 342,312 332,795 14,538 13,523 8.56% 8.19%
Non-interest-Earning Assets
Cash & Due From Banks ................................. 4,670 5,558
Allowance for Loan Losses ............................. (3,339) (3,170)
Investments: Fair Value ............................... (155) (339)
Premises & Equipment .................................. 5,921 5,394
Investment in unconsolidated subsidiary ............... 155 155
Interest Receivable & Other ........................... 5,527 5,366
--------- ---------
Total Noninterest-Earning Assets ...................... 12,779 12,964
--------- ---------
TOTAL ASSETS .......................................... $ 355,091 $ 345,759
--------- ---------
Interest-Bearing Liabilities
NOW Accounts .......................................... $ 28,102 $ 32,979 $ 510 $ 567 3.66% 3.47%
Money Market & Savings ................................ 61,935 49,339 1,435 1,001 4.67% 4.09%
Time Deposits & IRAs .................................. 197,231 192,919 5,094 3,929 5.21% 4.11%
Fed Funds and Purchased and Repos ..................... 1,573 4,868 34 98 4.36% 4.06%
Other Borrowed Funds .................................. 8,525 9,475 185 213 4.38% 4.53%
Subordinated Debt ..................................... 5,155 5,000 205 192 8.02% 7.74%
Demand Notes Issued to Treasury ....................... 177 186 4 4 4.56% 4.34%
--------- --------- --------- ---------
Total Interest-Bearing Liabilities ................... 302,698 294,766 7,467 6,004 4.97% 4.11%
Noninterest-Bearing Liabilities
Demand Deposits ....................................... 13,540 15,820
Interest Payable ...................................... 1,130 996
Other Liabilities ..................................... 721 1,801
--------- ---------
Total Noninterest-Bearing Liabilities ................. 15,391 18,617
--------- ---------
Stockholders' Equity .................................. 37,002 32,376
--------- ---------
TOTAL LIABILITIES & EQUITY ............................ $ 355,091 $ 345,759
--------- ---------
Net Interest Income ................................... $ 7,071 $ 7,519
--------- ---------
Net Yield on Earning Assets ......................... 4.17% 4.56%
Interest Rate Spread ................................ 3.59% 4.08%
(1) Annualized
12
Noninterest Income
Noninterest income for the second quarter of 2007 decreased $320 thousand, or
58.6%, to $226 thousand for the second quarter of 2007 from $546 thousand for
the second quarter of 2006. The decrease is primarily composed of a $177
thousand decrease in brokerage service commissions, and a $118 thousand decrease
in loan brokerage commissions in the second quarter of 2007 compared to the
second quarter in 2006. The Loan Brokerage department was terminated as of
December 2006, therefore no income from this activity has been reported in 2007.
Noninterest income for the first six months of 2007 decreased $212 thousand, or
29.9%, from the $710 thousand amount recorded during the first six months in
2006. This decrease is the net effect of an increase in Other Non-interest
Income of $21 thousand, a decrease in Commission & Fees of $347 thousand, and a
decrease in Service Charges of $21 thousand. The decrease in Commissions and
Fees is predominately a decrease in Brokerage Service Commissions of $166k and
Loan Brokerage Commissions of $130k. The Loan Brokerage department was
terminated as of December 2006, therefore no income from this activity has been
reported in 2007. As shown in Table Three, service charge income decreased by
$21 thousand from $135 thousand during the first six months of 2006 to $114
thousand during the same period in 2007. This decrease resulted primarily from
the increase in 2007, as compared to that of the same period in 2006, of the
earnings allowance interest rate which resulted in a larger credit to business
accounts as an offset against service charges determined through full account
analysis.
Table Three provides a three and six month 2007 to 2006 comparison of various
categories of noninterest income.
Table Three Summary of Total Noninterest Income
for the Three Months Ended for the Six Months Ended
June 30, June 30,
-------- --------
(Amounts in thousands) (Amounts in thousands)
2007 2006 2007 2006
---- ---- ---- ----
Service Charges ............................................ $ 60 $ 72 $114 $135
Commissions & Fees ......................................... 69 404 147 494
Gain on sale of bank owned assets .......................... 69 47 182 47
Other Non-interest Income .................................. 28 23 55 34
---- ---- ---- ----
Total ...................................................... $226 $546 $498 $710
Noninterest Expense
Noninterest expense for the second quarter of 2007 increased by $102 thousand,
or 5.1% compared to the second quarter of 2006. The increase consisted primarily
of a $48 thousand increase in salaries and benefits, and a $23 increase for loss
on sale of bank owned assets. As discussed below increases in salary and
benefits are related to increases in the number of personnel at the end of the
second quarter of 2007 as compared to the end of the second quarter in 2006.
Noninterest expense for the first six months of 2007 increased by $448 thousand,
or 11.9%, over the first six months total in 2006 of $3.8 million. The increase
in salaries and employee benefits, and the increase in other noninterest
expenses were the primary reasons for the overall increase in noninterest
expense. Salaries and benefits increased 10.8% from the first six months 2006
total of $2.3 million. This increase was primarily the result of an increase in
13
the number of employees from 62 to 66 during the period ending June 30, 2006 to
June 30, 2007. The increase in employees is consistent with the bank's efforts
regarding future growth plans. Other noninterest expenses increased 13.3% from
the first six months 2006 total of $999 thousand. This increase is primarily the
result of an increase in loss on sale of bank owned assets of $54 thousand and
an increase in other loan related fees of $29 for the first six months of 2007
from the first six months of 2006.
Table Four provides a three and six month 2007 to 2006 comparison of the various
categories of noninterest expense.
Table Four Summary of Total Noninterest Expense
for the Three Months Ended for the Six Months Ended
June 30, June 30,
-------- --------
(Amounts in thousands) (Amounts in thousands)
2007 2006 2007 2006
---- ---- ---- ----
Salaries & Employee Benefits ........................... $1,279 $1,231 $2,581 $2,330
Occupancy & Equipment .................................. 259 232 504 440
Other noninterest expense .............................. 568 541 1,132 999
------ ------ ------ ------
Total .................................................. $2,106 $2,004 $4,217 $3,769
Income Taxes
Provision for income taxes for the three month period ending June 30, 2007
decreased $313, or 42.9%, to $416 compared to $729 thousand for the three month
period ending June 30, 2006. This decrease resulted from the corresponding
decrease in income before tax of $864 thousand, or 42.8% between the second
quarter of 2007 and 2006. Provision for income taxes for the six months ended
June 30, 2007 was $886 thousand as compared to $1.414 million in 2006 during the
same period, a 37.3% decrease. This decrease was due to the overall decrease in
income before taxes of $1.467 million, or 37.4%, in 2007 as compared to that of
2006.
CHANGES IN FINANCIAL POSITION
Investment portfolio
During the first six months of 2007, there were $1 million in purchases, $4
million in maturities, and $184 thousand of paydowns. There were no calls of
investment portfolio holdings during the first six months of 2007. As compared
to the same period in 2006, the annual yield of the investment portfolio during
the first six months of 2007 increased by 71 basis points to 5.25% from 4.54%.
14
Table Five Analysis of Investment Securities
(Amounts in thousands)
December 31, 2006 Available-for-Sale Held-for-Investment
------------------ -------------------
Amortized Estimated Amortized Estimated
Cost Value Cost Value
---- ----- ---- -----
Due in one year or less ............................ $ 5,000 $ 4,961 $ - $ -
Due from one to five years ......................... 6,493 6,427 4,000 3,978
Due from five to 10 years .......................... 6,500 6,485 4,998 5,037
Due after ten years ................................ 4,123 4,097 482 632
Mortgage backed securities ......................... 597 583 421 425
------- ------- ------- -------
$22,713 $22,553 $ 9,901 $10,072
======= ======= ======= =======
June 30, 2007 Available-for-Sale Held-for-Investment
------------------ -------------------
Amortized Estimated Amortized Estimated
Cost Value Cost Value
---- ----- ---- -----
Due in one year or less ............................ $ 1,000 $ 992 $ - $ -
Due from one to five years ......................... 6,495 6,406 4,000 3,964
Due from five to 10 years .......................... 7,500 7,416 4,998 4,968
Due after ten years ................................ 4,123 4,028 483 628
Mortgage backed securities ......................... 519 515 315 318
------- ------- ------- -------
$19,637 $19,357 $ 9,796 $ 9,878
======= ======= ======= =======
Excludes equity securities with no readily deteminable market value of $741
thousand on December 31, 2006 and $1.311 million on June 30, 2007.
Loan portfolio
From December 31, 2006 to June 30, 2007 total loans grew from $296.5 million to
$310.5 million, or 4.75%. The percentage composition of the loan portfolio, as
shown in Table Six, changed slightly as the percentage of real estate loans
declined by 1.10% of the total portfolio from 82.8% on December 31, 2006 to
81.7% on June 30, 2007. Commercial and industrial loans increased by 1.02% as a
percentage of the loan portfolio from 17.05% on December 31, 2006 to 18.07% as
of June 30, 2007.
As shown in Table Seven, Variable Rate Loans comprised 76.3% of the total loan
portfolio.
On June 30, 2007, there were ten loans totaling $1.6 million on non-accrual
status.
15
Table Six Analysis of Loans
(Amounts in thousands)
Real Estate: June 30, 2007 December 31, 2006
------------- -----------------
Construction/Land Development ......................... $ 27,766 8.94% $ 29,634 10.00%
1-4 Family Residential Properties ..................... 70,732 22.78% 67,063 22.62%
Multifamily Residential Properties .................... 4,505 1.45% 6,987 2.36%
Nonfarm Nonresidential Properties ..................... 147,732 47.58% 138,752 46.80%
Other Real Estate Loans ............................... 3,018 0.97% 3,078 1.04%
Commercial & Industrial .................................. 56,117 18.07% 50,556 17.05%
Consumer ................................................. 665 0.21% 395 0.13%
-------- ------ -------- ------
Total .................................................... $310,535 100.00% $296,465 100.00%
======== ====== ======== ======
Table Seven Analysis of Loan Maturities and Repricing Frequency
as of June 30, 2007
(Amounts in thousands)
Within >3 Months >1 Year >3 Years Over
3 Months 12 Months 3 Years 5 Years 5 Years Total
-------- --------- ------- ------- ------- -----
Variable Rate Loans ................ $235,629 $ - $ - $ - $ - $235,629
Fixed Rate Loans ................... 7,736 9,096 30,889 23,807 1,780 $ 73,308
-------- -------- -------- -------- -------- --------
Total Loans ........................ $243,365 $ 9,096 $ 30,889 $ 23,807 $ 1,780 $308,937
-------- -------- -------- -------- -------- --------
Excludes loans on non-accrual status of $1.6 million
16
The allowance for loan losses is analyzed monthly in accordance with a board
approved plan. This judgmental analysis is based on a model that assigns a risk
rating to each individual loan and considers the loss risks associated with the
various categories of loans in relationship to the current and forecasted
economic environment. Management also monitors the overall loan portfolio, as
well as the level of reserves being maintained by peer banks. The monthly
provision for loan losses may fluctuate based on the results of this analysis.
Of the $901 thousand provision amount credited to the loan loss reserve during
the first six months of 2007, $667 thousand or 74.0%, of the total was credited
as a replacement of reserves covering the amount of net loan losses during the
period. $234 thousand, or 26.0%, of the total provision amount credited during
the first six months was made to cover loan growth. Table Eight provides the
results of the year-to-date analysis for the six months ending June 30, 2007 and
2006, as well as the amounts charged to this reserve as a loss and credited to
this reserve as a recovery.
Table Eight Analysis of the Allowance for Loan Losses
for the Six Months Ended June 30,
(Amounts in thosands)
2007 2006
---- ----
Balance at Beginning of Year .............. $ 3,275 $ 3,000
Provision Charged to Operations ........... 901 542
Loans Charged-Off ......................... (736) (206)
Loan Recoveries ........................... 14 14
------- -------
Balance at End Of Period .................. $ 3,454 $ 3,350
======= =======
Interest rate risk
Financial institutions are subject to interest rate risk to the degree that
their interest bearing liabilities (consisting principally of customer deposits)
mature or reprice more or less frequently, or on a different basis, than their
interest earning assets (generally consisting of intermediate or long-term loans
and investment securities). The match between the scheduled repricing and
maturities of the Bank's earning assets and interest bearing liabilities within
defined time periods is referred to as "gap" analysis. The Bank's
Asset/Liability Management Committee is responsible for managing the risks
associated with changing interest rates and their impact on earnings. The
regular evaluation of the sensitivity of net interest income to changes in
interest rates is an integral part of interest rate risk management. At June 30,
2007, the cumulative one-year gap for the Bank was negative, or liability
sensitive, $28.6 million. At June 30, 2007, the cumulative five-year gap for the
Bank was positive $39.4 million. A positive gap means that assets would reprice
faster than liabilities if interest rates changed, while interest-bearing
liabilities reprice faster than assets in a negative gap position. The Bank's
gap is within policy limits which were established to reduce the adverse impact
on earnings which movements in interest rates can cause. Intense competition in
the Bank's markets continues to pressure quality loan rates downward while
conversely pressuring deposit rates upward. Table Nine demonstrates how the
relationship between interest-bearing assets and interest-bearing liabilities
was calculated for June 30, 2007.
17
Table Nine Distribution of Interest-Earning Assets and Interest-Bearing Liabilities
Repricing Schedule as of June 30, 2007
(Amounts in thousands)
One Year Over One Year Over
or Less to Five Years Five Years Total
------- ------------- ---------- -----
Interest Earning Assets
Due From Banks ...................................... $ 12,125 $ - $ - $ 12,125
Investment Securities* .............................. 1,000 10,495 17,938 29,433
FHLB Stock .......................................... 1,311 - - 1,311
Loans** ............................................. 252,461 54,696 1,780 308,937
--------- --------- --------- ---------
Total ............................................... $ 266,897 $ 65,191 $ 19,718 $ 351,806
Interest Bearing Liabilities
NOW Accounts ........................................ $ 29,210 $ - $ - $ 29,210
Savings & MMIA ...................................... 61,059 - - 61,059
Time Deposits:$100 & > .............................. 70,011 6,241 - 76,252
Time Deposits: <$100m ............................... 113,601 10,664 - 124,265
Repurchase Agreements ............................... 1,472 - - 1,472
Other Borrowed Funds *** ............................ 20,154 - - 20,154
--------- --------- --------- ---------
Total ............................................... $ 295,507 $ 16,905 $ - $ 312,412
Period Gap .......................................... $ (28,610) $ 48,286 $ 19,718 $ 39,394
Cumulative Gap ...................................... $ (28,610) $ 19,676 $ 39,394
Period Gap Ratios:
Interest Sensitive Assets to
Interest Sensitive Liabilities .................... -90.3% 385.6% 0.0%
Cumulative Gap Ratios:
Interest Sensitive Assets to
Interest Sensitive Liabilities .................... -90.3% 106.3% 112.6%
3 Months Over 3 Months Over One
Time Deposits & Less to 12 Months Year Total
------ ------------ ---- -----
$100,000 and Greater ........................... $15,882 $54,129 $ 6,241 $76,252
* - Amortized Cost
** - Excludes $1.6 million in loans on non-accrural status.
*** - Net of investment in FSBS Capital Trust of $155 thousand.
18
Liquidity
Liquidity is the ability to meet current and future obligations through
liquidation or the maturity of existing assets or the acquisition of additional
liabilities. Adequate liquidity is necessary to meet the requirements of
customers for loans and deposit withdrawals in the most timely and economical
manner. Some liquidity is ensured by maintaining assets which may be immediately
converted into cash at minimal cost (amounts due from banks and federal funds
sold). However, the most manageable sources of liquidity are composed of
liabilities, with the primary focus on liquidity management being the ability to
obtain deposits within the Bank's service area. Core deposits (total deposits
less wholesale time deposits) provide a relatively stable funding base, and were
equal to 63.1% of total assets at June 30, 2007. Asset liquidity is provided
from several sources, including amounts due from banks and federal funds sold,
and funds from maturing loans. The Bank is a member of the FHLB of Atlanta, and
the Bank's borrowings from that institution increased by $15 million for the
first six months of 2007. These borrowings were made on a variable rate (daily
rate) credit basis. The Bank also has $12 million available through lines of
credit with other banks as an additional source of liquidity funding. Management
believes that the Bank's overall liquidity sources are adequate to meet its
operating needs.
Capital Resources
The increase in Tier 1 capital for the Company during the six month period
between December 31, 2006 and June 30, 2007 resulted from a $1.6 million
increase in retained earnings and the exercising of stock options in the amount
of $74.4 thousand. The most significant contributors to the difference between
Tier 1 Capital between the Company and the Bank at June 30, 2007, are the $5
million Trust Preferred issuance proceeds, considered Tier 1 Capital at the
holding company level and Tier 2 Capital at the bank level, and the $1.826
million received from the exercise of stock options, which is in compliance with
the Board's intention to keep at this time that amount of capital at the holding
company level.
The Company and the Bank are subject to regulatory capital adequacy standards.
Under these standards, financial institutions are required to maintain certain
minimum capital ratios of capital to risk-weighted assets and average total
assets. Under the provisions of the Federal Deposit Insurance Corporation
Improvement Act of 1991, federal financial institutions regulatory authorities
are required to implement prescribed "prompt corrective action" upon the
deterioration of the capital position of a bank. If the capital position of an
affected institution were to fall below certain levels, increasingly stringent
regulatory corrective actions are mandated. At June 30, 2007 the Company and the
Bank met all of their applicable capital requirements.
The Bank's and Company's June 30, 2007 capital ratios are presented in the
following table, compared with the "well capitalized" and minimum ratios under
the FDIC regulatory definitions and guidelines:
19
To Be Well
Capitalized Under
For Capital Prompt Corrective
The Bank Adequacy Purposes Action Provisions
As of June 30, 2007 Actual Minimum Minimum
------ ------- -------
Amount Ratio Amount Ratio Amount Ratio
------ ----- ------ ----- ------ -----
Total Capital
(To Risk Weighted Assets) .............. $44,289 14.04% $25,228 8.00% $31,535 10.00%
Tier I Capital
(To Risk Weighted Assets) .............. $35,935 11.40% $12,614 4.00% $18,921 6.00%
Tier I Capital
(To Average Assets) .................... $35,935 9.96% $14,435 4.00% $18,044 5.00%
The Company
As of June 30, 2007 Actual Minimum
------ -------
Amount Ratio Amount Ratio
------ ----- ------ -----
Total Capital
(To Risk Weighted Assets) ............... $46,147 14.63% $25,243 8.00%
Tier I Capital
(To Risk Weighted Assets) ............... $42,693 13.53% $12,621 4.00%
Tier I Capital
(To Average Assets) ..................... $42,693 12.02% $14,204 4.00%
Off-Balance Sheet Arrangements
The Company, through the operations of the Bank, makes contractual commitments
to extend credit in the ordinary course of its business activities. These
commitments are legally binding agreements to lend money to customers of the
Bank at predetermined interest rates for a specific period of time. At June 30,
2007, the Bank had issued commitments to extend credit of $62.5 million and
standby letters of credit of $1.6 million through various types of lending
arrangements. Of these commitments, 54.6 %, or $35.0 million, expire within one
year, and 45.4 %, or $29.1 million, expiring in more than one year. Past
experience indicates that many of these commitments to extend credit will expire
unused.
The Company evaluates each customer's creditworthiness on a case-by-case basis.
The amount of collateral obtained, if deemed necessary by the Company upon the
extension of credit, is based on the credit evaluation of the borrower.
Collateral varies, but may include accounts receivable, inventory, property,
plant and equipment, commercial and residential real estate.
20
Item 3. Quantitative and Qualitative Disclosures About Market Risk.
The Company's exposure to market risk is primarily related to the risk of loss
from adverse changes in market prices and rates. This risk arises principally
from interest rate risk inherent in the Company's lending, deposit gathering and
borrowing activities. Management actively monitors and manages its interest rate
risk exposure. Although the Company manages other risks, such as credit quality
and liquidity risk in the normal course of business, management considers
interest rate risk to be its most significant market risk, and this risk could
potentially have the largest material effect on the Company's financial
condition and results of operations. Other types of market risks, such as
commodity price risk and foreign currency exchange risk, do not arise in the
normal course of the Company's community banking operations.
The Company periodically uses a simulation model to assist in the management of
interest rate risk. Since the model incorporates the use of estimated changes in
growth and mix of both earning assets and interest-bearing liabilities over
established time periods, as well as projected changes in interest rates, the
resulting "What-if" scenarios are heavily dependant on accurate forecasts and
can not be relied on as indicative of actual future results.
As of June 30, 2007, there was no significant change from the interest
sensitivity analysis performed and disclosed in the 2006 Annual Report on Form
10-K filed with the Securities and Exchange Commission.
Item 4.T - Controls and Procedures
Based on the evaluation required by 17 C.F.R. Section 240.13a-15(b) or
240.15d-15(b) of the Company's disclosure controls and procedures (as defined in
17 C.F.R. Sections 240.13a-15(e) and 240.15d-15(e)), the Company's chief
executive officer and chief financial officer concluded that such controls and
procedures, as of the end of the period covered by this quarterly report, were
effective.
There has been no change in the Company's internal control over financial
reporting during the most recent fiscal quarter that has materially affected, or
is reasonably likely to materially affect, the Company's internal control over
financial reporting.
21
PART II - OTHER INFORMATION
Item 4 - Submission of Matters to a Vote of Security Holders
a) The Corporation held its annual meeting of shareholders on
June 27, 2007.
b) The following persons were elected as directors of the
Corporation, each to serve a three year term until the Annual
Meeting of Shareholders in 2009.
Shares Voted
Broker
Name For Withold Non-Votes
---- --- ------- ---------
Harold E. Fleming 1,649,478 156,657 0
Joel C. Griffin 1,649,478 156,567 0
Barry L. Slider 1,645,098 161,037 0
Other directors to continue serving after the meeting are:
Roger A. F. Habisreutinger, Chandrakant V. Shanbhag, Herman E.
Ratchford, and David G. White
c) Ratification of the selection of Cherry, Bekaert & Holland, L.L.P., as
the registrant's independent auditors was approved with the following
vote of shares:
Broker
FOR AGAINST ABSTAIN Non-Votes
----- ------- ------- ---------
1,700,410 109,835 270 0
22
Item 6 - Exhibits
Exhibit No. Description
31.1 13a-14(a)/15d-14(a) Certifications of Chief Executive Officer
31.2 13a-14(a)/15d-14(a) Certifications of Chief Financial Officer
32 Section 1350 Certifications
23
SIGNATURE
Pursuant to the requirements of the Securities and Exchange Act of 1934, the
registrant has duly caused this report to be signed on its behalf by the
undersigned thereunto duly authorized.
First South Bancorp, Inc.
s/Barry L. Slider
August 14, 2007 -------------------------------------------
Barry L. Slider, President and CEO
s/V. Lewis Shuler
---------------------------------------------
V. Lewis Shuler, Executive Vice President
(Principal Accounting Officer)
24
Exhibit Index
Exhibit No. Description
31.1 13a-14(a)/15d-14(a) Certifications of Chief Executive Officer
31.2 13a-14(a)/15d-14(a) Certifications of Chief Financial Officer
32 Section 1350 Certifications
25