EXHIBIT 13
CNB CORPORATION
ANNUAL REPORT
December 31, 2005, 2004 and 2003
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.
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CNB CORPORATION
ANNUAL REPORT
December 31, 2005, 2004 and 2003
CONTENTS
FINANCIAL HIGHLIGHTS ......................................... 1
CONSOLIDATED BALANCE SHEETS .................................. 2
CONSOLIDATED STATEMENTS OF INCOME AND COMPREHENSIVE INCOME.... 3
CONSOLIDATED STATEMENTS OF CHANGES IN SHAREHOLDERS' EQUITY ... 4
CONSOLIDATED STATEMENTS OF CASH FLOWS ........................ 5
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS ................... 6
REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM....... 30
MANAGEMENT'S DISCUSSION AND ANALYSIS.......................... 31
OFFICERS, COMMUNITY ADVISORS AND STAFF........................ 43
DIRECTORS AND DIRECTORS EMERITI............................... 45
CNB CORPORATION
FINANCIAL HIGHLIGHTS
2005 2004 2003 2002 2001
-------- -------- -------- -------- --------
(In thousands, except per share data)
OPERATING STATISTICS
Interest income $ 13,356 $ 12,466 $ 13,282 $ 14,820 $ 15,788
Interest expense 3,132 2,764 3,380 5,300 6,900
Net interest income 10,224 9,702 9,902 9,520 8,888
Income before income taxes 4,528 4,131 5,385 5,703 4,910
Net income 3,288 2,955 3,885 4,094 3,501
Basic earnings per share (1) 2.66 2.38 3.12 3.27 2.80
Diluted earnings per share (1) 2.65 2.37 3.11 3.26 2.78
Return on average assets (ROA) 1.28% 1.14% 1.53% 1.71% 1.56%
Return on average
shareholders' equity (ROE) 13.23% 11.68% 15.14% 16.65% 15.24%
BALANCE SHEET STATISTICS
Securities $ 74,485 $ 88,951 $ 86,921 $ 69,400 $ 73,096
Total loans 156,326 144,619 143,500 146,328 134,803
Deposits 223,437 225,411 224,914 216,444 204,589
Total assets 252,731 254,094 254,406 244,439 231,031
CAPITAL STATISTICS
Shareholders' equity $ 24,499 $ 24,156 $ 25,138 $ 24,737 $ 23,377
Book value per share (1) 19.80 19.51 20.21 19.83 18.66
Cash dividends per share (1) 2.20 2.20 2.10 2.04 1.88
Dividend payout ratio 82.79% 92.32% 67.16% 62.25% 67.15%
Average equity to average
total assets 9.66% 9.79% 10.13% 10.25% 10.23%
CREDIT STATISTICS
Net charge-offs to total loans 0.01% 0.16% 0.07% 0.00% 0.05%
Nonperforming loans
to total loans 0.16% 0.47% 0.28% 0.08% 0.48%
Allowance for loan losses
to total loans 0.93% 0.93% 1.10% 1.14% 1.24%
Allowance for loan losses
to nonperforming loans 5.72x 2.00x 3.86x 14.64x 2.58x
PRICE RANGE FOR COMMON STOCK
The following table shows the high and low selling prices of known transactions
in common stock of the Company for each quarter of 2005 and 2004. There is no
established public trading market for the Company's common stock. The Company
had 1,009 shareholders as of December 31, 2005.
2005 2004
--------------------------------- -----------------------------------
Cash Cash
Market Price Dividends Market Price Dividends
Quarter High Low Declared High Low Declared
- ------- -------- --------- --------- --------- -------- ---------
1st $ 50.00 $ 48.00 $ 0.40 $ 52.00 $ 49.24 $ 0.40
2nd 50.00 49.50 0.40 52.00 48.00 0.40
3rd 50.00 46.50 0.40 51.00 49.50 0.40
4th 50.00 45.00 1.00 51.00 48.00 1.00
(1) All share and per share data have been restated to reflect the 5% stock
dividend declared in 2003.
See accompanying notes to consolidated financial statements.
1.
CNB CORPORATION
CONSOLIDATED BALANCE SHEETS
December 31, 2005 and 2004
2005 2004
--------- ----------
(In thousands, except share data)
ASSETS
Cash and due from banks $ 6,586 $ 5,795
Interest-bearing deposits with other financial institutions -- 2,000
Federal funds sold 5,357 4,900
--------- ----------
Total cash and cash equivalents 11,943 12,695
Securities available for sale 69,315 78,280
Securities held to maturity (fair value of $4,128
in 2005 and $4,663 in 2004) 4,117 4,621
Other securities 1,053 6,050
Loans, net of allowance for loan losses of $1,456
in 2005 and $1,350 in 2004 154,862 143,258
Premises and equipment, net 5,443 4,600
Other assets 5,998 4,590
--------- ----------
Total assets $ 252,731 $ 254,094
========= ==========
LIABILITIES
Deposits
Noninterest-bearing $ 38,943 $ 37,289
Interest-bearing 184,494 188,122
--------- ----------
Total deposits 223,437 225,411
Other liabilities 4,795 4,527
--------- ----------
Total liabilities 228,232 229,938
SHAREHOLDERS' EQUITY
Common stock - $2.50 par value; 2,000,000 shares
authorized; 1,237,418 and 1,237,994 shares
issued and outstanding in 2005 and 2004 3,094 3,095
Additional paid-in capital 20,430 20,475
Retained earnings 1,576 1,010
Accumulated other comprehensive loss, net of tax (601) (424)
--------- ----------
Total shareholders' equity 24,499 24,156
--------- ----------
Total liabilities and shareholders' equity $ 252,731 $ 254,094
========= ==========
See accompanying notes to consolidated financial statements.
2.
CNB CORPORATION
CONSOLIDATED STATEMENTS OF INCOME AND COMPREHENSIVE INCOME
Years ended December 31, 2005, 2004 and 2003
2005 2004 2003
--------- --------- ---------
(In thousands, except per share data)
INTEREST INCOME
Loans, including fees $ 10,460 $ 9,705 $ 10,483
Securities
Taxable 2,073 1,925 1,734
Tax exempt 571 691 862
Other interest income 252 145 203
-------- -------- --------
Total interest income 13,356 12,466 13,282
INTEREST EXPENSE ON DEPOSITS 3,132 2,764 3,380
-------- -------- --------
NET INTEREST INCOME 10,224 9,702 9,902
Provision for loan losses 120 - -
-------- -------- --------
NET INTEREST INCOME AFTER PROVISION
FOR LOAN LOSSES 10,104 9,702 9,902
-------- -------- --------
NONINTEREST INCOME
Service charges and fees 942 976 947
Net realized gains from sales of loans 256 342 777
Loan servicing fees, net of amortization 113 135 (43)
Other income 505 165 297
-------- -------- --------
Total noninterest income 1,816 1,618 1,978
NONINTEREST EXPENSES
Salaries and employee benefits 3,303 3,400 3,180
Deferred compensation 690 315 436
Pension 260 768 370
Hospitalization 545 490 394
Occupancy 913 814 762
Supplies 168 168 170
Legal and professional 457 312 222
Other expenses 1,056 922 961
-------- -------- --------
Total noninterest expense 7,392 7,189 6,495
-------- -------- --------
INCOME BEFORE INCOME TAXES 4,528 4,131 5,385
Income tax expense 1,240 1,176 1,500
-------- -------- --------
NET INCOME 3,288 2,955 3,885
======== ======== ========
Other comprehensive income (loss)
Net change in unrealized gains (losses)
on securities available for sale (746) (1,130) (547)
Change in minimum pension liability 477 12 (489)
Tax effects 92 381 352
-------- -------- --------
Total other comprehensive income (loss) (177) (737) (684)
-------- -------- --------
COMPREHENSIVE INCOME $ 3,111 $ 2,218 $ 3,201
======== ======== ========
Basic earnings per share $ 2.66 $ 2.38 $ 3.12
Diluted earnings per share 2.65 2.37 3.11
See accompanying notes to consolidated financial statements.
3.
CNB CORPORATION
CONSOLIDATED STATEMENTS OF CHANGES IN SHAREHOLDERS' EQUITY
Years ended December 31, 2005, 2004 and 2003
Accumulated
Other
Comprehensive
Additional Income (Loss), Total
Outstanding Common Paid-In Retained Net Shareholders'
Shares Stock Capital Earnings of Tax Equity
----------- ---------- ---------- ---------- -------------- -------------
(Dollars in thousands, except per share data)
Balance January 1, 2003 1,188,372 $ 2,971 $ 18,240 $ 2,529 $ 997 $ 24,737
Net income 3,885 3,885
Cash dividends - $2.10 per share (2,609) (2,609)
5% stock dividend 58,852 147 2,854 (3,022) (21)
Shares issued under stock option plan 264 1 7 8
Purchase and retirement of common stock (3,549) (9) (169) (178)
Net change in accumulated other
comprehensive income (loss) (684) (684)
--------- ---------- ---------- ---------- ---------- ----------
Balance December 31, 2003 1,243,939 3,110 20,932 783 313 25,138
Net income 2,955 2,955
Cash dividends - $2.20 per share (2,728) (2,728)
Shares issued under stock option plan,
net of 4,543 shares surrendered 4,324 11 37 48
Purchase and retirement of common stock (10,269) (26) (494) (520)
Net change in accumulated other
comprehensive income (loss) (737) (737)
--------- ---------- ---------- ---------- ---------- ----------
Balance December 31, 2004 1,237,994 3,095 20,475 1,010 (424) 24,156
Net income 3,288 3,288
Cash dividends - $2.20 per share (2,722) (2,722)
Shares issued under stock option plan 1,382 4 48 52
Purchase and retirement of common stock (1,958) (5) (93) (98)
Net change in accumulated other
comprehensive income (loss) (177) (177)
--------- ---------- ---------- ---------- ---------- ----------
Balance December 31, 2005 1,237,418 $ 3,094 $ 20,430 $ 1,576 $ (601) $ 24,499
========= ========== ========== ========== ========== ==========
See accompanying notes to consolidated financial statements.
4.
CNB CORPORATION
CONSOLIDATED STATEMENTS OF CASH FLOWS
Years ended December 31, 2005, 2004 and 2003
2005 2004 2003
-------- -------- --------
(In thousands)
CASH FLOWS FROM OPERATING ACTIVITIES
Net Income $ 3,288 $ 2,955 $ 3,885
Adjustments to reconcile net income to net cash
from operating activities
Depreciation, amortization and accretion, net 458 1,138 1,022
Provision for loan losses 120 -- --
Loans originated for sale (11,613) (18,590) (40,356)
Proceeds from sales of loans originated for sale 11,739 18,793 40,830
Gain on sales of loans (256) (342) (777)
(Increase) decrease in other assets (596) 594 456
Increase in other liabilities 732 20 589
-------- -------- --------
Total adjustments 584 1,613 1,764
-------- -------- --------
Net cash provided by operating activities 3,872 4,568 5,649
CASH FLOWS FROM INVESTING ACTIVITIES
Proceeds from maturities of securities
available for sale 22,706 30,690 29,587
Purchase of securities available for sale (14,458) (35,073) (48,944)
Proceeds from maturities of securities held
to maturity 2,154 2,056 2,186
Purchase of securities held to maturity (1,650) (1,785) (1,463)
Proceeds from maturities of other securities 5,055 600 1,285
Purchase of other securities (58) (338) (1,345)
Net change in portfolio loans (12,314) (1,474) 2,727
Premises and equipment expenditures (1,330) (964) (1,038)
-------- -------- --------
Net cash (used in) provided by investing activities 105 (6,288) (17,005)
CASH FLOWS FROM FINANCING ACTIVITIES
Net increase (decrease) in deposits (1,974) 497 8,470
Dividends paid (2,709) (2,675) (2,612)
Net proceeds from exercise of stock options 52 48 8
Purchases of common stock (98) (520) (178)
-------- -------- --------
Net cash (used in) provided by financing activities (4,729) (2,650) 5,688
-------- -------- --------
Net change in cash and cash equivalents (752) (4,370) (5,668)
Cash and cash equivalents at beginning of year 12,695 17,065 22,733
-------- -------- --------
CASH AND CASH EQUIVALENTS AT END OF YEAR $ 11,943 $ 12,695 $ 17,065
======== ======== ========
Supplemental disclosure of cash flow information
Cash paid during the period for:
Interest $ 3,069 $ 2,784 $ 3,399
Income taxes 1,214 1,364 1,442
Non-cash transactions:
Transfer from loans to other real estate owned 590 126 -
See accompanying notes to consolidated financial statements.
5.
CNB CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 2005, 2004 and 2003
NOTE 1 - SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
Principles of Consolidation: The consolidated financial statements include CNB
Corporation (the Company) and its wholly-owned subsidiary, Citizens National
Bank of Cheboygan and the Bank's wholly-owned subsidiary CNB Mortgage
Corporation (the Bank and the Mortgage Corporation are hereafter collectively
referred to as the Bank). All significant intercompany accounts and transactions
are eliminated in consolidation.
Nature of Operations and Concentrations of Credit Risk: The Company is a
one-bank holding company which conducts no direct business activities. All
business activities are performed by the Bank.
The Bank provides a full range of banking services to individuals, agricultural
businesses, commercial businesses and light industries located in its service
area. It maintains a diversified loan portfolio, including loans to individuals
for home mortgages, automobiles, personal expenditures and loans to business
enterprises for current operations and expansion. The Bank offers a variety of
deposit accounts, including checking, savings, money market, individual
retirement accounts and certificates of deposit.
The principal markets for the Bank's financial services are the Michigan
communities in which the Bank is located and the area immediately surrounding
these communities. The Bank serves these markets through eight offices located
in Cheboygan, Presque Isle and Emmet Counties in northern lower Michigan.
Use of Estimates: To prepare financial statements in conformity with accounting
principles generally accepted in the United States of America, management makes
estimates and assumptions based on available information. These estimates and
assumptions affect the amounts reported in the financial statements and the
disclosures provided, and future results could differ. The allowance for loan
losses, value of mortgage servicing rights, and fair values of financial
instruments are particularly subject to change in the near term.
Cash Flow Reporting: Cash and cash equivalents include cash and due from banks
and federal funds sold. Net cash flows are reported for customer loan and
deposit transactions.
Securities: Securities classified as held to maturity are carried at amortized
cost when management has the positive intent and ability to hold them to
maturity. Securities are classified as available for sale when they might be
sold before maturity. Securities available for sale are carried at fair value,
with unrealized holding gains and losses reported in shareholders' equity, net
of tax. Securities are written down to fair value when a decline in fair value
is not temporary. Interest income includes amortization of purchase premium and
discount. Declines in the fair value of securities below their cost that are
other than temporary are reflected as realized losses. In estimating
other-than-temporary losses, management considers: (1) the length of time and
extent that fair value has been less than cost, (2) the financial condition and
(Continued)
6
CNB CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 2005, 2004 and 2003
NOTE 1 - SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (Continued)
near term prospects of the issuer, and (3) the Company's ability and intent to
hold the security for a period sufficient to allow for any anticipated recovery
in fair value.
Other securities, which include Federal Reserve Bank stock, Federal Home Loan
Bank stock and other taxable securities that are not readily marketable, are
carried at cost.
Interest income includes amortization of purchase premium or discount. Premiums
and discounts on securities are amortized on the level-yield method without
anticipating prepayments, except for mortgage-backed securities where
prepayments are anticipated. Gains and losses on sales are recorded on the trade
date and determined using the specific identification method.
Loans: Loans that management has the intent and ability to hold for the
foreseeable future or until maturity or payoff are reported at the principal
balance outstanding, net of unearned interest, deferred loan fees and costs, and
an allowance for loan losses. Loans held for sale are reported at the lower of
cost or market on an aggregate basis.
Loan Income: Interest income is earned on the interest method and includes
amortization of net deferred loan fees and costs over the loan term. Interest
income is not reported when full loan repayment is in doubt, typically when the
loan is impaired or payments are past due over 90 days (180 days for residential
mortgages).
All interest accrued but not received for loans placed on nonaccrual is reversed
against interest income. Interest received on such loans is accounted for on the
cash-basis or cost-recovery method, until qualifying for return to accrual.
Loans are returned to accrual status when all the principal and interest amounts
contractually due are brought current and future payments are reasonably
assured.
Allowance for Loan Losses: The allowance for loan losses is a valuation
allowance for probable incurred credit losses, increased by the provision for
loan losses and decreased by charge-offs less recoveries. Management estimates
the allowance balance required using past loan loss experience, the nature and
volume of the portfolio, information about specific borrower situations and
estimated collateral values, economic conditions, and other factors. Allocations
of the allowance may be made for specific loans, but the entire allowance is
available for any loan that, in management's judgment, should be charged-off.
Loan losses are charged against the allowance when management believes the
uncollectibility of a loan balance is confirmed. Subsequent recoveries, if any,
are credited to the allowance.
A loan is impaired when full payment under the loan terms is not expected.
Impairment is evaluated in total for smaller-balance loans of similar nature
such as residential mortgage, consumer, and credit card loans, and on an
individual loan basis for other loans. If a loan is
(Continued)
7
CNB CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 2005, 2004 and 2003
NOTE 1 - SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (Continued)
impaired, a portion of the allowance is allocated so that the loan is reported,
net, at the present value of estimated future cash flows using the loan's
existing rate or at the fair value of collateral if repayment is expected solely
from the collateral.
Premises and Equipment: Land is carried at cost. Premises and equipment are
stated at cost less accumulated depreciation. Depreciation is computed on the
straight-line method over the assets useful lives. For furniture and fixtures
the useful life ranges from three to five years while the useful life for
buildings is thirty-nine years. These assets are reviewed for impairment when
events indicate the carrying amount may not be recoverable. Maintenance and
repairs are charged to expense and improvements are capitalized.
Other Real Estate Owned: Real estate properties acquired through, or in lieu of,
loan foreclosure are initially recorded at the lower of the loan carrying amount
and fair value at acquisition. Any reduction to fair value from the carrying
value of the related loan is accounted for as a loan loss. After acquisition, a
valuation allowance reduces the reported amount to the lower of the initial
amount or fair value less costs to sell. Expenses, gains and losses on
disposition, and changes in the valuation allowance are reported in other
expenses. As of December 31, 2005 other assets on the consolidated balance sheet
includes $562,000 of other real estate owned. As of December 31, 2004 the
balance was $126,000.
Servicing Rights: Servicing rights represent the allocated value of servicing
rights retained on loans sold. Servicing rights are expensed in proportion to,
and over the period of, estimated net servicing revenues. Impairment is
evaluated based on the fair value of the rights, using groupings of the
underlying loans as to interest rates and then, secondarily, as to prepayment
characteristics. Any impairment of a grouping is reported as a valuation
allowance.
Company Owned Life Insurance: The Company has purchased life insurance policies
on those directors who participate in the 1985 Directors Deferred Compensation
plan. Company owned life insurance is recorded at its cash surrender value, or
the amount that can be realized.
Employee Benefits: A defined benefit pension plan covers substantially all
employees, with benefits based on years of service and compensation prior to
retirement. Contributions to the plan are based on the maximum amount deductible
for income tax purposes. A 401(k) savings and retirement plan has also been
established and covers substantially all employees. Contributions to the 401(k)
plan are expensed as made.
Stock Compensation: Employee compensation expense under stock options is
reported using the intrinsic value method. Options granted vest over one year
and have a maximum term of ten years. No stock-based compensation cost is
reflected in net income, as all options granted had an exercise price equal to
or greater than the market price of the underlying common stock at date of
grant.
(Continued)
8
CNB CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 2005, 2004 and 2003
NOTE 1 - SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (Continued)
The following table illustrates the effect on 2004 net income and earnings per
share if option expense for options granted at year-end 2003 and vesting in 2004
were measured using the fair value recognition provisions of FASB Statement No.
123, Accounting for Stock-Based Compensation. (Dollars in thousands, except per
share data)
2004
-----------
Net income as reported $ 2,955
Deduct: Stock-based compensation expense
determined under fair value based method (44)
Pro forma net income $ 2,911
Basic earnings per share as reported $ 2.38
Pro forma basic earnings per share 2.34
Diluted earnings per share as reported 2.37
Pro forma diluted earnings per share 2.34
The effect of net income and earnings per share if expense was measured using
the fair value recognition provisions of FASB Statement No. 123, was less than
$.01 per share for 2003. The fair value of options granted during 2003 and pro
forma effects are computed using option pricing models, using the following
weighted-average assumptions as of grant date.
2003
--------
Risk-free interest rate 4.21%
Expected option life 10 years
Expected stock price volatility 13.36%
Dividend yield 4.15%
Weighted average fair value of
options granted during year $ 5.45
There were no stock options granted during 2005 and 2004.
Income Taxes: Income tax expense is the sum of the current year income tax due
or refundable and the change in deferred tax assets and liabilities. Deferred
tax assets and liabilities are the expected future tax consequences of temporary
differences between the carrying amounts and tax bases of assets and
liabilities, computed using enacted tax rates. A valuation allowance, if needed,
reduces deferred tax assets to the amount expected to be realized.
(Continued)
9
CNB CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 2005, 2004 and 2003
NOTE 1 - SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (Continued)
Earnings Per Share: Basic earnings per share is based on net income divided by
the weighted average number of shares outstanding during the period. Diluted
earnings per share shows the dilutive effect of additional potential shares
issuable under stock options.
Stock Splits and Stock Dividends: Dividends issued in stock are reported by
transferring the market value of the stock issued from retained earnings to
common stock and additional paid-in capital. Stock splits are recorded by
adjusting par value. Fractional shares are paid in cash for all stock splits and
dividends. Basic earnings per share, diluted earnings per share and dividends
per share have been restated for all stock splits and stock dividends, including
the five percent stock dividend declared in 2003.
Financial Instruments with Off-Balance-Sheet Risk: The Company, in the normal
course of business, makes commitments to extend credit which are not reflected
in the consolidated financial statements. A summary of these commitments is
disclosed in Note 12.
Comprehensive Income: Comprehensive income consists of net income and other
comprehensive income. Other comprehensive income includes the net change in
unrealized gains (losses) on securities available for sale, net of tax, and the
change in the Company's minimum pension liability, net of tax, which are also
recognized as a separate component of shareholders' equity.
Fair Values of Financial Instruments: Fair values of financial instruments are
estimated using relevant market information and other assumptions. Fair value
estimates involve uncertainties and matters of significant judgment regarding
interest rates, credit risk, prepayments, and other factors, especially in the
absence of broad markets for particular items. Changes in assumptions or in
market conditions could significantly affect the estimates. The fair value
estimates of existing on- and off-balance-sheet financial instruments do not
include the value of anticipated future business or the values of assets and
liabilities not considered financial instruments.
Reclassification: Some items in prior financial statements have been
reclassified to conform with the current presentation.
Newly Issued But Not Yet Effective Accounting Policies: FAS123R requires all
public companies to record compensation for stock options provided to employees
in return for employee service. The cost is measured at the fair value of the
options when granted, and this cost historically has been expensed over the
vesting period of the options, which is one year. This applies to awards granted
or modified after the first quarter or year that began after June 15, 2005.
Compensation cost will also be recorded for prior option grants that vest after
the date of adoption. For the Company, this policy applies to all options
granted or vested after December 31, 2005. All of the Company's options that it
granted in prior periods were vested as of December 31, 2005. Unless additional
options are granted, this new accounting standard will have no effect on the
Company.
(Continued)
10
CNB CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 2005, 2004 and 2003
NOTE 2 - SECURITIES
The year end fair values and related gross unrealized gains and losses
recognized in accumulated other comprehensive income/(loss) for securities
available for sale, were as follows:
Gross Gross
Fair Unrealized Unrealized
Available for Sale Value Gains Losses
--------- ---------- -----------
(In thousands)
2005
U.S. Government agency $ 49,099 $ - $ (717)
Mortgage-backed 8,140 - (180)
State and municipal 12,076 38 (52)
--------- ---------- ----------
$ 69,315 $ 38 $ (949)
========= ========== ==========
2004
U.S. Government agency $ 56,786 $ 20 $ (431)
Mortgage-backed 3,149 8 -
State and municipal 18,345 255 (17)
--------- ---------- ----------
$ 78,280 $ 283 $ (448)
========= ========== ==========
The year end carrying amount, unrecognized gains and losses, and fair value of
securities held to maturity were as follows:
Gross Gross
Carrying Unrecognized Unrecognized Fair
Held to Maturity Amount Gains Losses Value
---------- ------------ ------------ ----------
(In thousands)
2005
State and municipal $ 4,117 $ 37 $ (26) $ 4,128
========== ============ ============ ==========
2004
State and municipal $ 4,621 $ 55 $ (13) $ 4,663
========== ============ ============ ==========
(Continued)
11
CNB CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 2005, 2004 and 2003
NOTE 2 - SECURITIES (Continued)
Securities with unrealized losses at year end 2005 and 2004, aggregated by
investment category and length of time that individual securities have been in a
continuous unrealized loss position, are as follows (in thousands):
Less Than 12 Months 12 Months or More Total
------------------------- ------------------------- ------------------------
Fair Unrealized Fair Unrealized Fair Unrealized
2005 Value Loss Value Loss Value Loss
- ----------------------- --------- ---------- --------- ---------- --------- -----------
U.S. Government
and agency $ 8,842 $ (100) $ 40,257 $ (617) $ 49,099 $ (717)
Mortgage-backed 8,140 (180) - - 8,140 (180)
State and municipal 4,658 (39) 3,153 (39) 7,811 (78)
--------- ---------- --------- ---------- --------- ----------
Total temporarily
impaired $ 21,640 $ (319) $ 43,410 $ (656) $ 65,050 $ (975)
========= ========== ========= ========== ========= ==========
Less Than 12 Months 12 Months or More Total
------------------------- ------------------------- -------------------------
Fair Unrealized Fair Unrealized Fair Unrealized
2004 Value Loss Value Loss Value Loss
- ----------------------- --------- ---------- --------- ---------- --------- ----------
U.S. Government
and agency $ 48,780 $ (431) $ - $ - $ 48,780 $ (431)
State and municipal 4,849 (22) 492 (8) 5,341 (30)
--------- ---------- --------- ---------- --------- ----------
Total temporarily
impaired $53,629 $ (453) $ 492 $ (8) $ 54,121 $ (461)
========= ========== ========= ========== ========= ==========
Unrealized losses at year end 2005 and 2004 have not been recognized into income
because they are not considered to be other-than-temporary. Management considers
the unrealized losses to be market driven, resulting from changes in interest
rates, and the Company has the intent and ability to hold the securities until
their value recovers.
(Continued)
12
CNB CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 2005, 2004 and 2003
NOTE 2 - SECURITIES (Continued)
Contractual maturities of debt securities at year end 2005 are shown below.
Expected maturities may differ from contractual maturity because borrowers may
have the right to call or prepay obligations with or without call or prepayment
penalties. Securities not due at a single maturity date, primarily
mortgage-backed securities, are shown separately.
Available for sale Held to Maturity
Fair Carrying Fair
Value Amount Value
---------- ---------- ---------
(In thousands)
Due in one year or less $ 35,914 $ 1,615 $ 1,616
Due from one to five years 23,752 752 766
Due from five to ten years 705 593 589
Due after ten years 804 1,157 1,157
Mortgage Backed 8,140 - -
---------- ---------- ---------
$ 69,315 $ 4,117 $ 4,128
========== ========== =========
Securities with a carrying value of $691,000 and $1,031,000 were pledged at
December 31, 2005 and 2004, to secure public deposits and for other purposes.
The Company held securities exceeding 10% of shareholders' equity from the
following states (including its political subdivisions) at December 31:
2005 2004
---------- -----------
(In thousands)
Michigan $ 8,713 $ 10,443
NOTE 3 - LOANS
Year end loans were as follows:
2005 2004
---------- ----------
(In thousands)
Residential real estate $ 83,234 $ 83,364
Consumer 9,922 8,699
Commercial real estate 53,133 43,336
Commercial 10,037 9,220
---------- ----------
156,326 144,619
Deferred loan origination fees, net (8) (11)
Allowance for loan loses (1,456) (1,350)
---------- ----------
$ 154,862 $ 143,258
========== ==========
(Continued)
13
CNB CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 2005, 2004 and 2003
NOTE 3 - LOANS (Continued)
Activity in the allowance for loan losses is summarized as follows:
2005 2004 2003
--------- -------- -------
(In thousands)
Beginning balance $ 1,350 $ 1,575 $ 1,669
Provision for loan losses 120 - -
Charge-offs (28) (242) (106)
Recoveries 14 17 12
--------- -------- -------
Ending Balance $ 1,456 $ 1,350 $ 1,575
========= ======== =======
There was one impaired loan during 2004 with an average balance of approximately
$100,000. The balance of this loan was zero at year-end. Information relating to
income received on this loan during impairment is not considered material to
this presentation. There were no impaired loans during 2005.
Nonperforming loans were as follows:
2005 2004
------- ------
(In thousands)
Loans past due over 90 days still on accrual $ 255 $ 674
Nonaccrual loans - -
NOTE 4 - LOAN SERVICING
Mortgage loans serviced for others are not reported as assets. These loans
totaled $73,201,000 and $69,760,000 at year end 2005 and 2004. Related escrow
deposit balances were $100,000 and $71,000. Capitalized mortgage servicing
rights balances were $586,000 and $518,000 at year end 2005 and 2004. There was
no valuation allowance at year end 2005 or 2004. The related additions
recognized were $130,000, $139,000 and $303,000 and the amortization was
$62,000, $71,000 and $215,000 in 2005, 2004 and 2003.
(Continued)
14
CNB CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 2005, 2004 and 2003
NOTE 5 - PREMISES AND EQUIPMENT
Year end premises and equipment were as follows:
2005 2004
---------- ----------
(In thousands)
Real estate and buildings $ 5,876 $ 5,312
Furniture and fixtures 4,825 4,070
---------- ----------
10,701 9,382
Less accumulated depreciation (5,258) (4,782)
---------- ----------
$ 5,443 $ 4,600
========== ==========
Depreciation expense amounted to $487,000, $448,000 and $396,000 in 2005, 2004
and 2003.
NOTE 6 - DEPOSITS
Time deposit accounts individually exceeding $100,000 total $19,561,000 and
$14,751,000 at year end 2005 and 2004.
At year end 2005, the scheduled maturities of time deposits are as follows:
(In thousands)
2006 $ 40,008
2007 24,145
2008 2,884
2009 1,689
2010 1,452
---------
$ 70,178
=========
(Continued)
15
CNB CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 2005, 2004 and 2003
NOTE 7 - EMPLOYEE BENEFITS
Defined Benefit Retirement Plan: The Company has a defined benefit,
noncontributory pension plan which provides retirement benefits for essentially
all employees. The Company uses a December 31 measurement date for its plan. The
following sets forth the plan's funded status and amounts recognized in the
financial statements:
2005 2004
-------- ----------
(In thousands)
Change in benefit obligation:
Beginning benefit obligation $ (4,591) $ (5,035)
Service cost (189) (218)
Interest cost (290) (336)
Actuarial loss (gain) 236 (174)
Benefits paid 283 79
Plan settlement - 1,093
-------- ----------
Ending benefit obligation (4,551) (4,591)
Change in plan assets, at fair value:
Beginning plan assets 2,984 3,638
Actual return 194 284
Employer contribution 1,290 362
Benefits paid (283) (79)
Plan settlement - (1,221)
-------- ----------
Ending plan assets 4,185 2,984
Funded status (366) (1,607)
Unrecognized net actuarial loss 1,413 1,632
Unrecognized transition amount (23) (32)
Unrcognized prior service amount 35 36
-------- ----------
Prepaid pension cost $ 1,059 $ 29
======== ==========
Amounts recognized in the balance sheet consist of:
2005 2004
------- -----
(In thousands)
Prepaid pension cost $ 1,059 $ 29
Accrued pension liability - (513)
Intangible assets - 36
Accumulated other comprehensive income - 477
-------- --------
Net amount recognized $ 1,059 $ 29
======== ========
(Continued)
16
CNB CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 2005, 2004 and 2003
NOTE 7 - EMPLOYEE BENEFITS (Continued)
The accumulated benefit obligation for the defined benefit pension plan was
$3,207,000 and $3,242,000 at year end 2005 and 2004, respectively.
Components of net periodic benefit cost are as follows:
2005 2004 2003
-------- ------ --------
(In thousands)
Service cost $ 189 $ 218 $ 207
Interest cost on benefit obligation 290 336 297
Expected return on plan assets (279) (288) (231)
Net amortization and deferral (9) (9) (9)
Recognized net actuarial loss 69 85 105
Plan settlement - 426 -
-------- ------ --------
Pension expense $ 260 $ 768 $ 369
======== ====== ========
Additional information about the defined benefit pension plan:
2005 2004 2003
-------- ------ --------
Increase (decrease) in minimum liability included
in other comprehensive income $ (477) $ (12) $ 489
The following weighted-average assumptions were used to determine benefit
obligations at year end and net cost:
2005 2004 2003
---- ---- ----
Weighted Average disount rate 6.50% 6.50% 6.50%
Rate of increase in future compensation 4.00% 4.00% 4.00%
Expected long term return on plan assets 8.00% 8.00% 8.00%
(Continued)
17
CNB CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 2005, 2004 and 2003
NOTE 7 - EMPLOYEE BENEFITS (Continued)
The Company's pension plan asset allocation at year end 2005 and 2004, target
allocation for 2006, and expected long-term rate of return by asset category are
as follows:
Percentage of Plan Weighted-
Target Assets Average Expected
Allocation at Year end Long-Term Rate
Asset Category 2006 2005 2004 of Return - 2005
- -------------------------- ---------- ----- ----- ----------------
Equity securities 70.0% 66.5% 69.5% 9.60%
Fixed Income securities 30.0 25.4 27.3 5.40
Other - 8.1 3.2 2.35
---------- ------ ----- ----------------
Total 100.0% 100.0% 100.0% 8.00%
========== ====== ===== ================
Plan assets are administered by Huntington National Bank as trustee of the plan.
Plan assets are invested in diversified mutual funds.
The estimates of weighted average expected long-term rate of return is an
estimate based on past performance and actual returns in the future are likely
to vary over time.
The overall expected long-term rate of return and risk expectations of the
investments in the plan are based on Standard and Poor's 500 and 5-year Treasury
bonds from 1950-2005.
The asset mix of the portfolio will be maintained by periodically re-balancing
this account back to the stock and fixed income target allocations stated above.
The investments in the plan are managed for the benefits of the participants.
They are structured to meet the cash flow necessary to pay retiring employees.
ERISA guidelines for diversification of the investments are followed.
During 2004, the Company distributed a lump sum distribution to a highly
compensated employee which triggered a plan settlement in the amount of $426,000
in addition to the Company's expense of $342,000, bringing the total expense to
$768,000 for the year.
During 2005, the Company made a voluntary contribution into the plan of
$1,290,000. The Company expects to contribute approximately $310,000 to this
pension plan in 2006.
(Continued)
18
CNB CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 2005, 2004 and 2003
NOTE 7 - EMPLOYEE BENEFITS
Estimated Future Payments
The following benefit payments, which reflect expected future service, are
anticipated:
Year End Benefit Payments
- ----------------- ----------------
2006 $ 107,000
2007 103,000
2008 97,000
2009 92,000
2010 115,000
Years 2011 - 2015 1,151,000
Deferred Compensation Plan: The Company has a deferred compensation plan to
provide retirement benefits to certain Directors, at their option, in lieu of
annual directors' fees. The present value of future benefits are accrued
annually over the period of active service of each participant. The expense for
the plan was $656,000, $280,000 and $408,000 in 2005, 2004 and 2003. During 2005
an additional $315,000 was expensed to the deferred compensation plan to
recognize the accelerated benefit amount payable due to the death of a director.
The Company has also purchased insurance on the lives of participating directors
with the Company as the owner and beneficiary of the policies. At December 31,
2005 and 2004, the cash surrender value of the underlying policies was
$1,137,000 and $1,340,000, which is included in other assets on the Balance
Sheet.
The Company also has a deferred compensation plan that allows executive officers
of the Bank, and certain Directors an opportunity to defer a portion of their
compensation. On a monthly basis, the account of each participant accrues
interest based on the interest rate determined for that year. The expense of the
plan was $33,000, $35,000 and $28,000 in 2005, 2004 and 2003.
401(k) Plan: The Company has a 401(k) savings and retirement plan covering
substantially all employees. Under the plan, employees may defer up to the
lesser of 100% of their eligible compensation or the limitations set by the IRS.
The employees may also make "catch-up" contributions to the extent the IRS
allows. During 2005, 2004 and 2003, the Board of Directors elected to contribute
a matching contribution equal to 100% of the first 2% and 50% of the next 2% of
the employee's deferred compensation. Employee contributions and the Company's
matching percentages are vested immediately. The Company's matching percentages
are determined annually by the Board of Directors and resulted in total
contributions of $71,000, $73,000 and $73,000 in 2005, 2004 and 2003.
(Continued)
19
CNB CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 2005, 2004 and 2003
NOTE 8 - STOCK OPTIONS
Stock Option Plan: The shareholders approved an incentive stock option plan in
May 1996 under which options may be issued at market prices to employees. The
right to exercise the options vests over a one-year period. The exercise price
of options granted is equivalent to the market value of underlying stock at the
grant date. As of December 31, 2005, a total of 9,952 shares were available for
future grants.
Activity in the option plan for the years ended, and as restated for all stock
dividends, is summarized as follows:
Weighted Weighted
Number of Average Average
Outstanding Exercise Exercise Fair Value
Options Price Price of Grants
----------- ------------- -------- ----------
Balance at January 1, 2003 30,957 $ 23.92-57.01 $ 42.70
Granted 8,662 47.62-48.57 48.54 $ 5.45
Exercised (277) 23.92-33.61 25.39
-------- ------------- --------
Balance at December 31, 2003 39,342 23.92-57.01 44.10
Exercised (8,867) 23.92-33.62 31.41
Forfeitures (2,636) 57.01 57.01
-------- ------------- --------
Balance at December 31, 2004 27,839 23.92-57.01 46.92
Exercised (1,382) 33.62-48.57 38.11
Forfeitures (525) 48.57 48.57
-------- ------------- --------
Balance at December 31, 2005 25,932 $ 23.92-57.01 $ 47.35
========
(Continued)
20
CNB CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 2005, 2004 and 2003
NOTE 8 - STOCK OPTIONS (Continued)
Options outstanding at year-end 2005 were as follows.
Outstanding Exercisable
---------------------------------------- ---------------------
Weighted
Average Weighted Weighted
Range of Remaining Average Average
Exercise Contractual Exercise Excerise
Prices Number Life (in years) Price Number Price
- ----------------------- ------ --------------- -------- -------- --------
$20.00-$30.00 1,180 0.5 $ 23.92 1,180 $ 23.92
$30.00-$40.00 5,045 2.1 33.62 5,045 33.62
$40.00-$50.00 11,367 6.4 48.80 11,367 48.80
$50.00-$60.00 8,340 4.0 57.01 8,340 57.01
------ --------------- -------- -------- --------
Outstanding at year end 25,932 4.5 $ 47.35 25,932 $ 47.35
====== =============== ======== ======== ========
All options outstanding at December 31, 2004 were exercisable. There were 30,680
options exercisable at December 31, 2003 with a weighted average exercise price
of $42.85.
NOTE 9 - INCOME TAXES
Income tax expense consists of:
2005 2004 2003
-------- -------- --------
(In thousands)
Current $ 944 $ 1,265 $ 1,595
Deferred 296 (89) (95)
-------- -------- --------
$ 1,240 $ 1,176 $ 1,500
======== ======== ========
Year end deferred tax assets and liabilities consist of:
2005 2004
------- --------
(In thousands)
Deferred tax assets
Allowance for loan losses $ 347 $ 322
Deferred compensation 1,024 848
Minimum pension liability - 162
Unrealized losses on securities available for sale 310 56
Other 4 8
------- --------
Total deferred tax assets 1,685 1,396
------- --------
(Continued)
21
CNB CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 2005, 2004 and 2003
NOTE 9 - INCOME TAXES (Continued)
2005 2004
------- --------
(In thousands)
Deferred tax liabilities
Pension 367 17
Fixed assets 216 152
Mortgage servicing rights 199 176
Accretion 79 44
Other 70 48
------- --------
Total deferred tax assets 931 437
------- --------
Net deferred tax asset $ 754 $ 959
======= ========
Income tax expense calculated at the statutory rate of 34% differs from actual
income tax expense as follows:
2005 2004 2003
---------- ---------- ----------
(In thousands)
Statutory rate applied to income before taxes $ 1,540 $ 1,405 $ 1,831
Deduct
Tax-exempt interest income, net (183) (218) (269)
Life insurance (113) (14) (22)
Other (4) 3 (40)
---------- ---------- ----------
$ 1,240 $ 1,176 $ 1,500
========== ========== ==========
NOTE 10 - EARNINGS PER SHARE
A reconciliation of the numerators and denominators of the basic earnings per
share and diluted earnings per share computations is presented below:
2005 2004 2003
---------- ----------- ---------
Basic earnings per share
Net income available to common
shareholders (in thousands) $ 3,288 $ 2,955 $ 3,885
========== ========== =========
Weighted average shares outstanding 1,237,217 1,241,624 1,245,653
Basic earnings per share $ 2.66 $ 2.38 $ 3.12
========== ========== =========
(Continued)
22
CNB CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 2005, 2004 and 2003
NOTE 10 - EARNINGS PER SHARE (Continued)
2005 2004 2003
---------- ---------- ----------
Diluted earnings per share
Net income available to common
shareholders (in thousands) $ 3,288 $ 2,955 $ 3,885
========== ========== ==========
Weighted average shares outstanding 1,237,217 1,241,624 1,245,653
Add dilutive effects of assumed exercises
of stock options 2,603 3,883 3,541
---------- ---------- ----------
Weighted average dilutive
potential shares outstanding 1,239,820 1,245,507 1,249,194
========== ========== ==========
Diluted earnings per share $ 2.65 $ 2.37 $ 3.11
========== ========== ==========
Stock options for 8,340 shares of common stock were not considered in computing
diluted earnings per share for 2005 because they were antidilutive.
NOTE 11 - RELATED PARTY TRANSACTIONS
Certain directors and executive officers of the Company and the Bank (including
family members, affiliates and companies in which they are principal owners) had
loans outstanding with the Bank in the ordinary course of business. A summary of
the aggregate loans outstanding which exceeded $60,000 to these individuals
follows:
2005 2004
------- -------
(In thousands)
Balance outstanding, January 1 $ 2,043 $ 2,022
New loans and rewrites 663 997
Payments and payoffs (501) (921)
Change in persons included (19) (55)
------- -------
Balance outstanding, December 31 $ 2,186 $ 2,043
======= =======
Related party deposits totaled $3,953,000 and $2,005,000 at year end 2005 and
2004.
(Continued)
23.
CNB CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 2005, 2004 and 2003
NOTE 12 - COMMITMENTS, OFF-BALANCE-SHEET RISK, AND CONTINGENCIES
There are various contingent liabilities that are not reflected in the financial
statements, including claims and legal actions arising in the ordinary course of
business. In the opinion of management, after consultation with legal counsel,
the ultimate disposition of these matters is not expected to have a material
effect on the financial condition or result of operations of the Company.
At year end 2005 and 2004, reserves of $1,848,000 and $1,975,000 were required
as deposits with the Federal Reserve or as cash on hand. These reserves do not
earn interest.
Some financial instruments are used in the normal course of business to meet the
financing needs of customers and to reduce exposure to interest rate changes.
These financial instruments include commitments to extend credit and standby
letters of credit. These involve, to a varying degree, credit and interest-rate
risk in excess of the amount reported in the financial statements.
Exposure to credit loss if the other party does not perform is represented by
the contractual amount for commitments to extend credit and standby letters of
credit. The same credit policies are used for commitments and conditional
obligations as are used for loans.
Commitments to extend credit are agreements to lend to a customer as long as
there is no violation of any condition established in the commitment.
Commitments generally have fixed expiration dates or other termination clauses
and may require payment of a fee. Since many of the commitments are expected to
expire without being used, the total commitments do not necessarily represent
future cash requirements. Standby letters of credit are conditional commitments
to guarantee a customer's performance to a third party.
A summary of the notional or contractual amounts of financial instruments with
off-balance-sheet risk at year end were as follows:
2005 2004
------- -------
(In thousands)
Commitments to extend credit $19,054 $16,798
Standby letters of credit 387 148
The fair values of these commitments are not material. Substantially all of
these commitments are at variable or uncommitted rates.
(Continued)
24.
CNB CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 2005, 2004 and 2003
NOTE 13 - FAIR VALUES OF FINANCIAL INSTRUMENTS
The following methods and assumptions were used to estimate fair values for
financial instruments. The carrying amount is considered to estimate fair value
for cash and variable rate loans or deposits that reprice frequently and fully.
Securities fair values are based on quoted market prices or, if no quotes are
available, on the rate and term of the security and on information about the
issuer. For fixed rate loans or deposits and for variable rate loans or deposits
with infrequent repricing or repricing limits, the fair value is estimated by
discounted cash flow analysis or underlying collateral values, where applicable.
The fair value of off-balance-sheet items approximates cost and is not
considered significant to this presentation.
The estimated year end values of financial instruments were:
2005 2004
---------------------- ----------------------
Carrying Fair Carrying Fair
Amount Value Amount Value
--------- --------- --------- ---------
(In thousands)
Assets
Cash and cash equivalents $ 11,943 $ 11,943 $ 12,695 $ 12,695
Securities available for sale 69,315 69,315 78,280 78,280
Securities held to maturity 4,117 4,128 4,621 4,663
Other securities 1,053 1,053 6,050 6,050
Loans, net 154,862 155,703 143,258 146,427
Liabilities
Deposits
Noninterest-bearing $ (38,943) $ (38,943) $ (37,289) $ (37,289)
Interest bearing (184,494) (183,897) (188,122) (187,956)
NOTE 14 - REGULATORY CAPITAL
The Company and Bank are subject to regulatory capital requirements administered
by federal banking agencies. Capital adequacy guidelines and prompt corrective
action regulations involve quantitative measures of assets, liabilities, and
certain off-balance-sheet items calculated under regulatory accounting
practices. Capital amounts and classifications are also subject to qualitative
judgments by regulators about components, risk weightings and other factors, and
the regulators can lower classifications in certain cases. Failure to meet
various capital requirements can initiate regulatory action that could have a
direct material effect on the financial statements.
(Continued)
25.
CNB CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 2005, 2004 and 2003
NOTE 14 - REGULATORY CAPITAL (Continued)
The prompt corrective action regulations provide five classifications, including
well capitalized, adequately capitalized, undercapitalized, significantly
undercapitalized and critically undercapitalized, although these terms are not
used to represent overall financial condition. If adequately capitalized,
regulatory approval is required to accept brokered deposits. If
undercapitalized, capital distributions are limited, as is asset growth and
expansion, and plans for capital restoration are required. The minimum
requirements are:
Capital to Risk-
Weighted Assets Tier 1 Capital
Total Tier 1 To Average Assets
----- ------ -----------------
Well Capitalized 10% 6% 5%
Adequately capitalized 8% 4% 4%
Undercapitalized 6% 3% 3%
The Bank was categorized as well capitalized at year end. There are no
conditions or events since year-end that management believes has changed the
Bank's category. Actual capital levels (in millions) and minimum required levels
were:
Minimum Required
To Be Well
Minimum Required Capitalized Under
For Capital Prompt Corrective
Actual Adequacy Purposes Action Regulations
------------------- --------------------- ---------------------
Amount Ratio Amount Ratio Amount Ratio
--------- ----- ----------- ----- ----------- ------
2005
Total capital (to risk weighted assets)
Consolidated $ 26.5 17.0% $ 12.5 8.0% $ N/A 10.0%
Bank 26.5 17.0 12.5 8.0 15.6 10.0
Tier 1 capital (to risk weighted assets)
Consolidated 25.0 16.1 6.2 4.0 N/A 6.0
Bank 25.0 16.0 6.2 4.0 9.4 6.0
Tier 1 capital (to average assets)
Consolidated 25.0 9.9 10.1 4.0 N/A 5.0
Bank 25.0 9.9 10.2 4.0 12.7 5.0
2004
Total capital (to risk weighted assets)
Consolidated $ 25.6 17.7% $ 11.6 8.0% $ N/A 10.0%
Bank 25.5 17.7 11.6 8.0 14.5 10.0
Tier 1 capital (to risk weighted assets)
Consolidated 24.2 16.7 5.8 4.0 N/A 6.0
Bank 24.2 16.7 5.8 4.0 8.7 6.0
Tier 1 capital (to average assets)
Consolidated 24.2 9.4 10.3 4.0 N/A 5.0
Bank 24.2 9.4 10.3 4.0 12.9 5.0
(Continued)
26.
CNB CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 2005, 2004 and 2003
NOTE 14 - REGULATORY CAPITAL (Continued)
One of the principal sources of cash for the Company is dividends from the Bank.
Regulatory agencies can place dividend restrictions on the Bank based on their
evaluation of its financial condition. No restrictions are currently imposed by
regulatory agencies on the Bank other than the limitations found in the
regulations which govern the payment of dividends to the Company. Under the most
restrictive of these regulations, in 2006, the Bank is limited to paying
dividends of approximately $226,000 plus 2006 net income, without prior
regulatory approval.
NOTE 15 - PARENT COMPANY CONDENSED FINANCIAL STATEMENTS
Following are condensed parent company financial statements:
CONDENSED BALANCE SHEETS
December 31, 2005 and 2004
2005 2004
------ -------
(In thousands)
ASSETS
Cash $ 66 $ -
Investment in subsidiary 24,448 24,134
Dividends receivable 1,236 1,260
------- -------
Total assets $25,750 $25,394
======= =======
LIABILITIES AND SHAREHOLDERS' EQUITY
Dividends payable $ 1,251 $ 1,238
Shareholders' equity 24,499 24,156
------- -------
Total liabilities and shareholders' equity $25,750 $25,394
======= =======
(Continued)
27.
CNB CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 2005, 2004 and 2003
NOTE 15 - PARENT COMPANY CONDENSED FINANCIAL STATEMENTS (Continued)
CONDENSED STATEMENTS OF INCOME
Years ended December 31, 2005, 2004 and 2003
2005 2004 2003
------- ------- -------
(In thousands)
Dividends from subsidiary $ 2,826 $ 3,240 $ 2,802
Operating expenses (44) (28) (36)
------- ------- -------
Income before income taxes and equity
in undistributed (overdistributed) net income of subsidiary 2,782 3,212 2,766
Income tax benefit 15 9 12
Equity in undistributed income of subsidiary 491 (266) 1,107
------- ------- -------
NET INCOME $ 3,288 $ 2,955 $ 3,885
======= ======= =======
CONDENSED STATEMENTS OF INCOME
Years ended December 31,2005,2004 and 2003
2005 2004 2003
------- ------- -------
(In thousands)
CASH FLOWS FROM OPERATING ACTIVITIES
Net income $ 3,288 $ 2,955 $ 3,885
Equity in undistributed(overdistributed) net income of subsidiary (491) 266 (1,107)
Change in dividends receivable 24 (60) 258
Change in other assets - - 4
Change in other liabilities - (21) (270)
------- ------- -------
Net cash from operating activities 2,821 3,140 2,770
CASH FLOWS FROM FINANCING ACTIVITIES
Dividends paid (2,709) (2,675) (2,612)
Net shares purchased (46) (472) (170)
------- ------- -------
Net cash from financing activities (2,755) (3,147) (2,782)
------- ------- -------
Net change in cash and cash equivalents 66 (7) (12)
Cash at beginning of year - 7 19
------- ------- -------
CASH AT END OF YEAR $ 66 $ - $ 7
======= ======= =======
(Continued)
28.
CNB CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 2005, 2004 and 2003
NOTE 16 - QUARTERLY FINANCIAL DATA (UNAUDITED)
Net Earnings Per Share
Interest Interest Net ------------------
Income Income Income Basic Diluted
-------- -------- ------ ------- -------
(In thousands, except per share data)
2005
First quarter $ 3,161 $ 2,508 $ 805 $ 0.65 $ 0.65
Second quarter 3,320 2,594 932 0.75 0.75
Third quarter 3,399 2,563 769 0.62 0.62
Fourth quarter 3,476 2,559 782 0.64 0.63
2004
First quarter $ 3,071 $ 2,315 $ 773 $ 0.62 $ 0.62
Second quarter 3,073 2,359 732 0.59 0.59
Third quarter 3,138 2,455 819 0.66 0.66
Fourth quarter 3,184 2,573 631 0.51 0.50
During the second quarter of 2005 the Bank received a payment of life insurance
proceeds in the amount of $300,000. The proceeds were offset by an additional
expense of $315,000 to recognize amounts payable under a deferred compensation
plan. The insurance proceeds are non-taxable income and resulted in the net
increase in net income for the quarter.
The decrease in fourth quarter 2004 net income was the effect of the Company
recording additional defined benefit pension expense for a plan settlement.
(Continued)
29.
REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM
Board of Directors and Shareholders
CNB Corporation
Cheboygan, Michigan
We have audited the accompanying consolidated balance sheets of CNB Corporation
as of December 31, 2005 and 2004, and the related consolidated statements of
income and comprehensive income, changes in shareholders' equity and cash flows
for each of the three years in the period ended December 31, 2005. 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 of the Public
Accounting Oversight Board (United States). Those standards require that we plan
and perform the audit to obtain reasonable assurance about whether the financial
statements are free from 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 consolidated financial statements referred to above present
fairly, in all material respects, the financial position of CNB Corporation as
of December 31, 2005 and 2004 and the results of its operations and its cash
flows for each of the three years in the period ended December 31, 2005, in
conformity with accounting principles generally accepted in the United States of
America.
Crowe Chizek and Company LLC
Grand Rapids, Michigan
March 10, 2006
(Continued)
30.
CNB CORPORATION
MANAGEMENT'S DISCUSSION AND ANALYSIS
December 31, 2005, 2004 and 2003
This discussion provides information about the consolidated financial condition
and results of operations of CNB Corporation (the Company) and its wholly-owned
subsidiary, Citizens National Bank of Cheboygan and the Bank's wholly-owned
subsidiary CNB Mortgage Corporation (the Bank and the Mortgage Corporation are
hereafter collectively referred to as the Bank). This discussion should be read
in conjunction with the consolidated financial statements beginning on page 2
and the related footnotes.
FINANCIAL CONDITION
The overall financial condition of the Company was strong for 2005. The Company
recognized an 8.1% increase in the loan portfolio. Deposits had a slight overall
decline during 2005 while the Company's equity increased during 2005.
CASH AND CASH EQUIVALENTS
The Company's balances of cash and cash equivalents decreased $752,000 from 2004
to 2005. During the year, $3.9 million of cash was provided from operating
activities due primarily to net income, while $105,000 was provided from
investing activities. The company utilized $4.7 million on financing activities.
The balances maintained in cash and cash equivalents vary based on daily
fluctuations in loan and deposit balances. Sufficient cash is maintained on a
daily basis to meet the anticipated liquidity needs of the Company for customer
transactions and to clear checks drawn on other financial institutions. The
amount of clearings can vary by as much as $3.0 million in one day, causing the
Company's cash position to vary.
SECURITIES
The Company maintains securities portfolios that include obligations of federal
agencies and government sponsored entities as well as securities issued by
states and political subdivisions. Security balances decreased $14.5 million
during 2005. Securities available for sale represent 93.1% of the portfolio.
Currently, the Company primarily maintains a short-term securities portfolio.
The Company will extend the average life of the portfolio moving forward as the
rate environment continues to increase. As the amount of securities maturing on
a regular basis decreases, liquidity will be maintained by adding to the
available for sale portfolio. The reason for the decrease in the securities
portfolio during 2005 is due to the fact that as the securities matured, the
Company did not reinvest as many dollars back into securities as it has in the
past. This was due to the increased loan demand. The Company used the dollars
from the securities maturities to fund higher yielding loans. It is management's
expectation that the Company will continue to change the balance sheet mix in
this manner during 2006.
31
CNB CORPORATION
MANAGEMENT'S DISCUSSION AND ANALYSIS
December 31, 2005, 2004 and 2003
The chart below shows the change in each of the categories of the portfolio.
2005 2004 2003
---------- ------------- --------
(In thousands)
U.S. Government and agency
securities $ (7,687) $ 7,984 $ 21,813
Mortgage backed 4,991 3,149 -
Tax exempt state and municipal (4,149) (4,901) (2,810)
Taxable state and municipal (2,624) (3,940) (1,542)
Other (4,997) (262) 60
---------- -------------- --------
Total change in securities $ (14,466) $ 2,030 $ 17,521
========== ============== ========
Holdings in U.S. government and state and municipal securities decreased during
the year primarily due to our increased loan activity funding requirements. The
Company did reinvest some of its maturity dollars into the mortgage-backed
security portfolio which continues to be one of its higher yielding investments.
The Company maintains a short-term investment portfolio with maturities
averaging less than two years. The Company will continue to monitor the rate
environment and may extend the maturities of the investment portfolio. The chart
below shows the percentage composition of the portfolio as of December 31.
2005 2004
--------- ---------
U.S. Government and agency
securities 65.92% 63.84%
Mortgage backed 10.93% 3.54%
Tax exempt state and municipal 19.12% 20.67%
Taxable state and municipal 2.62% 5.15%
Other 1.41% 6.80%
------- ---------
100.00% 100.00%
======= =========
Securities available for sale are recorded at fair value and securities held to
maturity are recorded at amortized cost. The net unrealized loss on securities
available for sale at December 31, 2005 was $601,000, net of taxes. The
unrealized gains and losses are temporary since they are a result of market
changes rather than a reflection of credit quality. Management has no specific
intent to sell these securities at the present time.
The Company maintains a conservative security portfolio with a majority of the
investments in U.S. Government and agency securities and issues of governmental
units in its service area. The
32
CNB CORPORATION
MANAGEMENT'S DISCUSSION AND ANALYSIS
December 31, 2005, 2004 and 2003
maturities of the U.S. Government and agency securities have typically been very
short, two years or less, providing liquidity in addition to quality.
During 2006, management feels that there will be sufficient liquidity to
increase the maturity of the investment portfolio, in addition to increasing
yields.
LOANS
Total loans increased $11.7 million or 8.1% during 2005, with the primary
increase in commercial real estate loans of $9.8 million or 22.6%. As a full
service lender, the Company offers a variety of personal and commercial loans.
Home mortgages comprise the largest portion of the loan portfolio. The Company
generally retains the ownership of adjustable rate loans and short to
medium-term fixed-rate loans and originates and sells long-term single family
residential fixed-rate mortgage loans to the secondary market. This practice
allows the Company to meet the housing credit needs of its service area while
maintaining an appropriate interest rate sensitivity and liquidity position. Due
to the lower rate environment, consumer real estate mortgage refinancing was
stronger in 2003 than 2004 or 2005. The Company originated $11.6 million in
loans for sale in 2005 and $18.6 million in 2004 as compared to $40.4 million in
2003. Management anticipates the volume of mortgage refinancing in 2006 will be
comparable to 2005. In addition to mortgage loans, the Company makes loans for
personal and business use, secured and unsecured, to customers in its service
area. It is the Company's intent to continue to increase both the commercial
mortgage and commercial loan portfolios during 2006.
The Company maintains a conservative loan policy and strict credit underwriting
standards, which reflects highly in its credit quality with a small percent of
total loans as non-performing. All loans are domestic. An annual review of loan
concentrations at December 31, 2005 indicated the pattern of loans in the
portfolio has not changed. There is no individual industry with more than a 10%
concentration, except for all tourism-related businesses which, when combined,
represent 13.6% of total loans.
ALLOWANCE FOR LOAN LOSSES
The allowance for loan losses represents that amount which management estimates
is adequate to provide for probable incurred losses in the loan portfolio.
Management determines the adequacy of the allowance for loan losses by reviewing
selected loans (including large loans, nonaccrual loans, problem loans and
delinquent loans) and establishes specific loss allowances on these loans.
Historical loss information, local economic conditions and other factors are
considered in establishing allowances on the remaining loan portfolio. The
allowance is increased by provisions charged to expense and reduced by
charge-offs, net of recoveries.
The quality of the Company's loan portfolio compares well with its peer group
with non-performing loans at .16% of total loans at December 31, 2005 and 0.47%
at December 31, 2004. Net loans charged off were .01% of total loans during 2005
and .16% in 2004. There were no significant changes in the allowance for loan
losses in 2005 and 2004 due to stable loan quality and a continued modest
identified loss potential for individual loans and groups of loans. A
33
CNB CORPORATION
MANAGEMENT'S DISCUSSION AND ANALYSIS
December 31, 2005, 2004 and 2003
provision expense of $120,000 was recorded during 2005 due primarily to
responding to overall loan growth while no provision expense was recorded in
2004 or 2003.
CREDIT QUALITY
The Company continues to maintain a high level of asset quality as a result of
actively managing delinquencies, nonperforming assets and potential problem
loans. The Company performs an ongoing review of all large credits to watch for
any deterioration in quality. Nonperforming loans are comprised of: (1) loans
accounted for on a nonaccrual basis; (2) loans contractually past due 90 days or
more as to interest or principal payments (but not included in the nonaccrual
loans in (1) above); and (3) other loans whose terms have been renegotiated to
provide a reduction or deferral of interest or principal because of a
deterioration in the financial position of the borrower (exclusive of loans in
(1) or (2) above). The aggregate amount of nonperforming loans is shown in the
table below.
2004 2005
--------- -----------
(Dollars in thousands)
Nonaccrual loans $ - $ -
Loans past due 90 days or 255 674
Troubled debt restructurings - -
--------- -----------
Total nonperforming $ 255 $ 674
========= ===========
Percent of total loans 0.16% 0.47%
========= ===========
DEPOSITS
Deposits decreased $2.0 million or .88% during 2005. This was due to several
factors including a highly competitive rate environment and the withdrawal of
several large deposits by two governmental units to complete building projects.
As the interest rate environment increases the Company will in turn change the
rates it offers its customers.
The majority of the Company's deposits are derived from core customers, as a
result of long-term personal, business and public relationships. Deposit rates
are monitored continually to assure that the Company pays a competitive rate.
As of December 31, 2005, the loan to deposit ratio was 70.0% compared to 64.2%
at December 31, 2004. This ratio increased due to a high increase in the loan
portfolio and a decrease in the deposit portfolio. Management continues to
emphasize loan growth with a targeted loan to deposit ratio at a minimum of
65.0%. A change in asset mix from securities to higher yielding loans provides
an increase in the net interest margin.
As of December 31, 2005, long-term debt obligations consist of the Company's
time deposits which are presented in Note 6 to the consolidated financial
statements.
34
CNB CORPORATION
MANAGEMENT'S DISCUSSION AND ANALYSIS
December 31, 2005, 2004 and 2003
EQUITY
Total equity for the Company at year end 2005 was $24.5 million compared to
$24.2 million in 2004. The Company had a stock repurchase program in place and
during 2005 repurchased $98,000 worth of stock under the plan before the plan
ended. Accumulated other comprehensive income decreased by $177,000 as the
market value of the Company's available for sale securities declined.
LIQUIDITY AND FUNDS MANAGEMENT
Effective liquidity management ensures that the cash flow requirements of the
Company's depositors and borrowers, as well as the operating cash needs of the
Company are met. The Company's primary source of funds is dividends from the
Bank. The Company manages its liquidity position to provide cash necessary to
pay dividends to shareholders and satisfy other operating requirements.
The Company's most readily available sources of liquidity are federal funds
sold, securities classified as available for sale and securities classified as
held to maturity maturing within one year. These sources of liquidity are
supplemented by new deposits and by loan payments received from customers. As of
December 31, 2005, the Company held $5.4 million in federal funds sold, $69.3
million in securities available for sale, and $1.6 million in held to maturity
securities maturing within one year. These short-term assets represent 34.1% of
total deposits as of December 31, 2005. Historically, the Company's security
portfolio has been short term in nature, with the average life of the portfolio
consistently being less than two years. The Company serves a market which is
highly tied to the tourist industry. Consequently, the Company experiences
seasonal swings in liquidity. Deposit growth occurs during July, August, and
September, then may decline through the fall and winter months. The Company does
not anticipate any significant change in its seasonal pattern. In addition to
the above readily available sources of liquidity, the Company has lines of
credit available from other institutions totaling $14 million. There were no
advances outstanding on these lines of credit at December 31, 2005 or 2004.
35
CNB CORPORATION
MANAGEMENT'S DISCUSSION AND ANALYSIS
December 31, 2005, 2004 and 2003
INTEREST RATE SENSITIVITY
The following tables provide information about the Company's financial
instruments that are sensitive to changes in interest rates at December 31, 2005
and 2004. For loans receivable, securities, and liabilities with contractual
maturities, the tables present principal cash flows and related weighted-average
interest rates by contractual maturities, as well as the Company's historical
experience relative to the impact of interest rate fluctuations on the
prepayment of loans. For core deposits (demand deposits, interest-bearing
checking, savings, and money market deposits) that have no contractual maturity,
the tables present principal cash flows and, as applicable, related
weighted-average interest rates based upon the Company's historical experience,
management's judgment, and statistical analysis concerning their most likely
withdrawal behaviors. The current historical interest rates for core deposits
are assumed to apply for future periods in these tables as the actual interest
rates that will need to be paid to maintain these deposits are not currently
known. Weighted-average variable rates are based upon contractual rates existing
at the reporting date.
The primary source of market risk for the financial instruments presented is
interest rate risk, that is, the risk that a change in market rates could
adversely affect the market value of the instruments. Generally, the longer the
maturity, the greater the interest rate risk exposure. While maturity
information does not necessarily present all aspects of exposure, it may provide
an indication of where risks are prevalent.
All financial institutions assume interest rate risk as an integral part of
normal operations. Managing and measuring interest rate risk is a dynamic,
multi-faceted process that ranges from assuring sufficient capital and liquidity
in support of future balance sheet growth to reducing the exposure of the
Company's net interest margin from swings in interest rates. The Company manages
interest rate risk through the Asset/Liability Committee. The Asset/Liability
Committee is comprised of Bank officers from various disciplines. The Committee
establishes policies and rates which lead to the prudent investment of
resources, the effective management of risks associated with changing interest
rates, the maintenance of adequate liquidity and the earning of an adequate
return on shareholders' equity.
The following market risk disclosure tables allow management to measure the
imbalance between the amount of assets and liabilities repricing in the next
five years and thereafter.
36
CNB CORPORATION
MANAGEMENT'S DISCUSSION AND ANALYSIS
December 31, 2005, 2004 and 2003
MARKET RISK DISCLOSURE AT DECEMBER 31, 2004
(Dollars in thousands)
Fair value
2006 2007 2008 2009 2010 Thereafter Total 12/31/2005
-------- ------ ------ ----- ------ ---------- ------- ----------
RATE-SENSITIVE ASSETS
Variable interest rate loans $ 32,436 $ 775 $1,659 $ 51 $ - $ - $34,921 $ 35,109
Average interest rate 7.73% 7.35% 7.34% 6.50% -% -% 7.70%
Fixed interest rate loans 14,769 7,078 9,091 13,187 17,780 59,500 121,405 122,058
Average interest rate 6.84% 7.58% 7.22% 6.93% 6.99% 6.35% 6.71%
Variable interest rate
securities 310 - - - - 1,157 1,467 1,467
Average interest rate 5.36% -% -% -% -% 4.90% 5.00%
Fixed interest rate securities 37,219 22,830 7,529 1,605 680 3,155 73,018 73,029
Average interest rate 2.87% 3.13% 4.18% 3.71% 3.94% 4.26% 3.17%
RATE-SENSITIVE LIABILITIES
Noninterest-bearing deposits 38,943 - - - - - 38,943 38,943
Average interest rate -% -% -% -% -% -% -%
Fixed interest rate
savings and
interest-bearing deposits 114,316 - - - - - 114,316 113,946
Average interest rate 1.18% -% -% -% -% -% 1.18%
Fixed interest rate
time deposits 40,008 24,145 2,884 1,689 1,452 - 70,178 69,951
Average interest rate 2.91% 3.34% 3.33% 3.35% 4.04% -% 3.11%
MARKET RISK DISCLOSURE AT DECEMBER 31, 2004
(Dollars in thousands)
Fair Value
2005 2006 2007 2008 2009 Thereafter Total 12/31/2004
-------- ------ ------ ------ ------ ---------- ------- ----------
RATE-SENSITIVE ASSETS
Variable interest rate loans $ 29,812 $1,410 $1,161 $ 214 $ - $ - $32,597 $ 33,311
Average interest rate 5.67% 6.54% 7.26% 7.10% -% -% 5.77%
Fixed interest rate loans 20,496 12,968 12,198 9,653 13,207 43,500 112,022 114,477
Average interest rate 6.29% 6.13% 5.97% 5.46% 5.61% 5.92% 5.94%
Variable interest rate
securities 515 - - - - 6,259 6,774 6,774
Average interest rate 3.26% -% -% -% -% 2.68% 2.72%
Fixed interest rate securities 18,246 34,702 18,938 1,155 560 8,576 82,177 82,218
Average interest rate 2.99% 2.95% 2.83% 4.04% 3.40% 3.97% 3.06%
RATE-SENSITIVE LIABILITIES
Noninterest-bearing
deposits 37,289 - - - - - 37,289 37,289
Average interest rate -% -% -% -% -% -% -%
Fixed interest rate
savings and
interest-bearing deposits 124,655 - - - - - 124,655 124,655
Average interest rate 0.88% -% -% -% -% -% 0.88%
Fixed interest rate
time deposits 41,596 14,487 3,694 2,180 1,510 - 63,467 63,301
Average interest rate 2.19% 1.98% 3.92% 3.23% 3.34% -% 2.31%
37
CNB CORPORATION
MANAGEMENT'S DISCUSSION AND ANALYSIS
December 31, 2005, 2004 and 2003
CAPITAL RESOURCES
The capital ratios of the Bank exceed the regulatory guidelines for well
capitalized institutions. This strong capital position of the Company provides
the Company with the flexibility to take advantage of expansion opportunities
and to continue with a high dividend payout ratio.
A five percent stock dividend was declared to shareholders in 2003. The stock of
the Company is generally traded locally. Additional information concerning
capital ratios and shareholder return is included in the Financial Highlights on
page 1. The Company maintains a five-year plan and utilizes a formal strategic
planning process. Management and the Board continue to monitor long-term goals,
which include increasing market share and maintaining long-term earnings
sufficient to pay consistent dividends.
RESULTS OF OPERATIONS
NET INCOME
Consolidated net income was $3.3 million for 2005 compared to $3.0 million for
2004. The increase can be attributed to an increase in net interest income from
2004. Noninterest income also increased during 2005 by $198,000 primarily due to
$300,000 of life insurance proceeds received due to the death of a director.
This increase in noninterest income was offset by additional expense of $315,000
to recognize the acceleration of the amount payable to the director's
beneficiaries upon death under the deferred compensation plan. Basic earnings
per share for 2005 was $2.66 compared to $ 2.38 for 2004. Diluted earnings per
share for 2005 was $2.65 compared to $2.37 for 2004.
Consolidated net income was $3.0 million for 2004 compared to $3.9 million for
2003. The decrease can be attributed to a large increase in noninterest expenses
and a decrease in interest income from 2003. Noninterest income also declined
during 2004 due to a significant slow down in residential mortgage loan
refinances and the resulting decline in loans sold to the secondary market
during 2004. These negative trends were offset in part by a decline in interest
expense on deposits due to the interest rate environment remaining flat during
the first part of 2004. Basic earnings per share for 2004 was $2.38 compared to
$ 3.12 for 2003. Diluted earnings per share for 2004 was $2.37 compared to $3.11
for 2003.
NET INTEREST INCOME
Interest income is the total amount earned on funds invested in federal funds
sold, securities and loans. Interest expense is the amount of interest paid on
interest-bearing checking, money market, savings and time deposits accounts. Net
interest income is the difference between interest income and interest expense.
The net margin is the net interest income as a percentage of average
interest-earning assets. Interest spread is the difference between the yield on
average interest-earning assets and the cost of average interest-bearing
liabilities. In 2005, net interest income increased by $522,000, due primarily
to the change in the rate on our interest-earning assets and the change in asset
mix due to the increase in loan volume and decrease in the
38
CNB CORPORATION
MANAGEMENT'S DISCUSSION AND ANALYSIS
December 31, 2005, 2004 and 2003
securities portfolio. Interest expense paid on the Company's deposit accounts
also increased in 2005 due to the rate environment.
The $200,000 decrease in net interest income from 2004 to 2003 was due primarily
to the change in rates from year to year.
The following table shows the daily average consolidated balance sheets, revenue
on average interest-earning assets on a tax-equivalent basis, expense on average
interest-bearing liabilities and the annualized effective yield or rate.
Interest on loans includes loan fees. For the periods ending:
Yield Analysis of Consolidated Average Assets and Liabilities
(Dollars in thousands)
Year Ended Year Ended Year Ended
December 31, 2005 December 31, 2004 December 31, 2003
Average Yield/ Average Yield/ Average Yield/
Balance Int Rate Balance Int Rate Balance Int Rate
------- ------- ------ -------- -------- ------ -------- ------- ------
Interest-earning assets:
Other interest-
earning assets $ 7,460 $ 252 3.38% $10,842 $ 145 1.34% $ 18,101 $ 203 1.12%
Total securities (1) (2) 85,035 2,921 3.44 89,737 2,953 3.29 74,604 3,010 4.03
Loans (2) 149,672 10,473 7.00 143,800 9,711 6.75 146,330 10,489 7.17
------- ------- -------- -------- -------- -------
Total
interest-earning
assets 242,167 13,646 5.63% 244,379 12,809 5.24% 239,035 13,702 5.73%
Cash and due from
banks 6,376 6,181 6,645
Premises and
equipment, net 4,785 4,462 3,407
Allowance for loan
losses (1,412) (1,469) (1,634)
Other assets 5,309 4,759 5,754
-------- -------- --------
Total $257,225 $258,312 $253,207
======== ======== ========
Interest-bearing
liabilities:
Interest-bearing
demand deposits $ 18,145 $ 88 0.48% $ 17,648 $ 87 0.49% $ 16,899 $ 103 0.61%
Savings deposits 104,415 1,345 1.29 105,587 917 0.87 100,979 1,159 1.15
Time deposits 66,300 1,699 2.56 67,282 1,760 2.62 69,851 2,118 3.03
-------- -------- -------- ------- -------- -------
Total
interest-bearing
liabilities 188,860 3,132 1.66% 190,517 2,764 1.45% 187,729 3,380 1.80%
Noninterest-bearing
deposits 39,825 38,888 36,867
Other liabilities 3,702 3,607 2,955
Shareholders' equity 24,838 25,300 25,656
-------- -------- --------
Total $257,225 $258,312 $253,207
======== ======== ========
Net interest income $10,514 $10,045 $10,322
======= ======= =======
Net interest spread (FTE) 3.97% 3.79% 3.93%
====== ====== ======
Net yield on
Interest-earning (FTE)
assets 4.34% 4.11% 4.32%
====== ====== ======
Ratio of interest-
earning assets
to interest-bearing
liabilities 1.28x 1.28x 1.27x
====== ====== ======
- ----------
(1) Yield computed using the average amortized cost for securities available
for sale.
(2) Tax exempt income was converted to a fully taxable equivalent basis at a
34% tax rate. The tax equivalent rate for tax exempt loans and tax exempt
securities acquired after January 1, 1983 included the TEFRA adjustment
applicable to nondeductible interest expenses.
39
CNB CORPORATION
MANAGEMENT'S DISCUSSION AND ANALYSIS
December 31, 2005, 2004 and 2003
The table below shows the effect of volume and rate changes on net interest
income on a pre-tax basis.
2005 Compared to 2004 2004 Compared to 2003
---------------------- -------------------------
Volume Rate Net Volume Rate Net
------ ---- ---- ------ ------ -----
(In thousands)
Other interest-earning assets $ (57) $164 $107 $ (92) $ 34 $ (58)
Total Securities (158) 126 (32) 552 (609) (57)
Loans, net 404 358 762 (179) (599) (778)
------ ---- ---- ------ ------ -----
Total interest-earning assets 189 648 837 281 (1,174) (893)
Interest-bearing demand deposits 2 (1) 1 4 (20) (16)
Savings deposits (10) 438 428 51 (293) (242)
Time deposits (25) (36) (61) (76) (282) (358)
------ ---- ---- ------ ------ -----
Total interest-bearing liabilities (33) 401 368 (21) (595) (616)
------ ---- ---- ------ ------ -----
Net change in net interest
income (a) $ 222 $247 $469 $ 302 $ (579) $(277)
====== ==== ==== ====== ====== =====
- ----------
(a) The net change in interest due to both rate and volume has been allocated
to volume and rate changes in proportion to the relationship of the
absolute dollar amounts of the change in each.
NONINTEREST INCOME
Noninterest income includes fees and service charges on deposit accounts, loan
servicing fees, gains on sales of loans and other income. Noninterest income
increased during 2005 as a result of the life insurance proceeds as mentioned
above. This increase was partially offset by a decrease in the net realized
gains from the sales of loans due to a continued decline in the residential
mortgage refinance boom that had occurred during the lower rate environment of
2003 and 2002. The number of loans processed during 2005 decreased from 2004.
The Company will continue to focus more on commercial lending during 2006 as it
did during 2005.
NONINTEREST EXPENSE
Noninterest expense increased during 2005. During 2004, the Company distributed
a lump sum pension benefit to a highly compensated executive which triggered a
settlement of the Company's pension expense. Accordingly, pension expense for
2004 was $768,000 compared to $370,000 for 2003. The Company continues to fund
100% of the employee hospitalization premium which was $545,000 for 2005
compared to $490,000 and $394,000 for 2004 and 2003 respectively. The deferred
compensation expense for 2005 was $690,000 compared to $315,000 and $436,000 in
2004 and 2003. The deferred compensation expense for 2005 includes an expense of
$315,000 to recognize the accelerated amount payable due to the death of a
director as mentioned above.
40
CNB CORPORATION
MANAGEMENT'S DISCUSSION AND ANALYSIS
December 31, 2005, 2004 and 2003
FEDERAL INCOME TAXES
Income tax expense increased slightly during 2005 to $1.24 million compared to
$1.18 million in 2004. Income before taxes increased from 2004 which resulted in
the increase in income tax expense. The lower effective tax rate in 2005 was due
to the nontaxable income in the form of life insurance proceeds received during
the year which has been previously discussed.
The effective tax rates for 2005, 2004 and 2003 were fairly stable and are shown
in the table below:
2005 2004 2003
------- ------- -------
Income before tax (In thousands) $ 4,528 $ 4,131 $ 5,385
Income tax expense (In thousands) 1,240 1,176 1,500
Effective tax rate 27.4% 28.5% 27.9%
CRITICAL ACCOUNTING POLICIES
Certain of the Company's accounting policies are important to the portrayal of
the Company's financial condition, since they require management to make
difficult, complex or subjective judgments, some of which may relate to matters
that are inherently uncertain. Estimates associated with these policies are
susceptible to material changes as a result of changes in facts and
circumstances. Facts and circumstances which could effect these judgments
include, but without limitation, changes in interest rates, in the performance
of the economy or in the financial condition of borrowers. Management believes
that its critical accounting policies include determining the allowance for loan
losses and determining the fair value of securities.
The Company believes that the allowance for loan losses and related provision
expense are particularly susceptible to material change in the near term. As a
result of strong asset quality and low levels of charge-offs during the past
three years, the Company recorded no provision expense during 2004 and 2003. Due
to overall loan growth, a provision expense of $120,000 was recorded during
2005. In future periods the allowance for loan losses may be dramatically
impacted due to changes in the local economy, increased commercial loans and
individual borrower situations. The Company believes its significant
concentration in residential mortgage loans and the importance of the tourism
industry to the local economy are particularly important factors that could have
a significant impact on the allowance for loan losses and provision for loan
losses if these factors significantly change from current conditions. As of
December 31, 2005, the Company held $63.2 million of commercial and commercial
real estate loans, and the ability of our borrowers to repay such loans may be
significantly impacted by changes in the economy or individual borrower
conditions. Management continues to take steps to help ensure the asset quality
of the loan portfolio; however, the allowance for loan losses and related
provision expense could increase significantly in future periods depending on
changes in the factors discussed above.
Securities available for sale are carried at fair value, with unrealized holding
gains and losses reported separately in accumulated other comprehensive income,
net of tax. As a result of changes in the fair market value of the Company's
available for sale securities portfolio, total comprehensive income decreased by
$492,000, $745,000 and $361,000 for 2005, 2004 and 2003.
41
CNB CORPORATION
MANAGEMENT'S DISCUSSION AND ANALYSIS
December 31, 2005, 2004 and 2003
Additionally, all investment securities are required to be written down to fair
value when a decline in fair value is not temporary; therefore, future changes
in the fair value of securities could have a significant impact on the Company's
operating results.
FORWARD-LOOKING STATEMENTS
When used in this filing and in future filings involving the Company with the
Securities and Exchange Commission, in the Company's press releases or other
public or shareholder communications, or in oral statements made with the
approval of an authorized executive officer, the words or phases, "anticipate,"
"would be," "will allow," "intends to," "will likely result," "are expected to,"
"will continue," "is anticipated," "estimated," "project," or similar
expressions are intended to identify, "forward-looking statements" within the
meaning of the Private Securities Litigation Reform Act of 1995. Such statements
are subject to risks and uncertainties, including but not limited to changes in
economic conditions in the Company's market area and competition, all or some of
which could cause actual results to differ materially from historical earnings
and those presently anticipated or projected.
The Company wishes to caution readers not to place undue reliance on any such
forward-looking statements, which speak only as of the date made, and advises
readers that various factors, including regional and national economic
conditions, substantial changes in levels of market interest rates, credit and
other risks of lending and investing activities, and competitive and regulatory
factors, could affect the Company's financial performance and could cause the
Company's actual results for future periods to differ materially from those
anticipated or projected.
The Company does not undertake, and specifically disclaims any obligation, to
update any forward-looking statements to reflect occurrences or unanticipated
events or circumstances after the date of such statements.
42
CNB CORPORATION
OFFICERS, COMMUNITY ADVISORS AND STAFF
OFFICERS AND COMMUNITY ADVISORS OF
CNB CORPORATION AND CITIZENS NATIONAL BANK
CNB CITIZENS NATIONAL SALLY J. LACROSS MACKINAW CITY
CORPORATION BANK OFFICERS AND ASSISTANT VICE PRESIDENT
OFFICERS COMMUNITY ADVISORS RANDY J. MALTBY SUSAN M. BRANDT
TECHNOLOGY OFFICER BANKING OFFICER &
JOHN P. WARD JOHN P. WARD SUSAN J. CLEARY BRANCH MANAGER
CHAIRMAN CHAIRMAN LOAN OFFICER DEAN SCHEERENS
JAMES C. CONBOY, JR. JAMES C. CONBOY, JR. MICHELLE J. OSTWALD COMMUNITY ADVISOR
PRESIDENT & CHIEF PRESIDENT & CHIEF LOAN OFFICER JAMES E. TAMLYN
EXECUTIVE OFFICER EXECUTIVE OFFICER FLORENCE CASWELL COMMUNITY ADVISOR
SUSAN A. ENO SUSAN A. ENO ASSISTANT LOAN
EXECUTIVE VICE EXECUTIVE VICE PRESIDENT OPERATIONS OFFICER
PRESIDENT & SECRETARY & CASHIER NANCY K. LINDSAY
DOUGLAS W. DAMM DOUGLAS W. DAMM DIRECTOR OF MARKETING & PELLSTON
SENIOR VICE PRESIDENT SENIOR VICE PRESIDENT & COMMUNITY RELATIONS
JEFFREY L. SCHMIDT SENIOR LOAN OFFICER CHRISTINA E. SWEET KELLEY ATKINS
SENIOR VICE PRESIDENT JEFFREY L. SCHMIDT MANAGER OF INTERNAL COMMUNITY ADVISOR
SHANNA L. HANLEY SENIOR VICE PRESIDENT AUDIT RICHARD CONRAD
TREASURER SHANNA L. HANLEY COMMUNITY ADVISOR
VICE PRESIDENT &
SENIOR CONTROLLER
KENNETH N. SHELDON ONAWAY
VICE PRESIDENT
EXAMINATION LAURA L. SHACK
RICHARD L. WINE BANKING OFFICER &
VICE PRESIDENT BRANCH MANAGER
MORTGAGE LOANS
SUSAN L. CASWELL
ASSISTANT VICE PRESIDENT INDIAN RIVER
STEPHEN J. CRUSOE
ASSISTANT VICE PRESIDENT BARBARA J. JOPPICH
IRENE M. ENGLISH ASSISTANT VICE PRESIDENT
ASSISTANT VICE PRESIDENT & BRANCH MANAGER
& CONTROLLER PAUL FISHER
VICTORIA J. HAND COMMUNITY ADVISOR
ASSISTANT VICE PRESIDENT LISA RENAUD-LAPRAIRIE
& COMPLIANCE OFFICER COMMUNITY ADVISOR
MARIAN L. HARRISON JOHN J. OLSZEWSKI
ASSISTANT VICE PRESIDENT COMMUNITY ADVISOR
43
CNB CORPORATION
OFFICERS, COMMUNITY ADVISORS AND STAFF
STAFF OF CITIZENS NATIONAL BANK
MAIN OFFICE DOWNTOWN MACKINAW CITY INDIAN RIVER
DRIVE-IN
Eugene Andrzejewski Penny L. Newman CHEBOYGAN Susan M. Brandt Barbara J. Joppich
Kurt Blaskowski Rudi Raab Deborah L. Closs Jennifer Bartlett
Kathleen A. Charboneau Kelli M. Reimann Deanna Hudson Jennifer M. LaHaie Julie Davis
Joan T. Clarey Katherine H. Rhome Carla Jankoviak Jody L. Jacobs
Patricia K. Comps Ronald D. Rose PELLSTON Amber Perkins
Arlene Daniel Carla Roznowski EAST SIDE Michelle Miller
Trisha M. Dobias Carolyn A. Scheele DRIVE-IN Lora Clouser Helen K. Stumpf
Nicole Drake Nancy Scott CHEBOYGAN Sheri L. Kindell
Mary E. Greenwood Darren Selden Tammy Kirsch
Debra Grice Sandra L. Shawl Tonya Hiller
Susan M. Hansen Lee Sheets Lori Thornton ONAWAY
Helen R. Hart Sally A. Spray
Sherri Kosan Kelisue Stachon SOUTH BRANCH Laura L. Shack
Miranda Lake M. Teresa Sullivan Rachel Bischoff-Peel
Susan Leonardi Kathy S. Swackhamer CHEBOYGAN Pamela A. Kolasa
Betty J. Lewis Megan Tomaski Sara L. LaLonde
Steven R. Luttmann Rebecca Tomaski Karen Barrette Lynn D. Porter
Loretta Merchant Darlene L. Vallance Susan D. Bliss Kathleen T. Robbins
Kathryn Miller Wendelin K. Whippo Sharon Coppernoll Kathleen S. Wilson
Adam Newman Sherry M. Wichlacz Diane S. Mushlock
Diane S. Poirier
44
CNB CORPORATION
DIRECTORS AND DIRECTORS EMERITI
DIRECTORS OF CNB CORPORATION &
CITIZENS NATIONAL BANK
JOHN P. WARD
Chairman
STEVEN J. BAKER, D.V.M.
Indian River Veterinary Clinic
JAMES C. CONBOY, JR.
President & Chief Executive Officer, CNB Corporation
President & Chief Executive Officer, Citizens National Bank
KATHLEEN M. DARROW
President, Darrow Bros. Excavating, Inc.
Retired, formerly Group Sales & Special Events
Coordinator for the Mackinac State Historic Parks
THOMAS J. ELLENBERGER
Vice President & Secretary
Albert Ellenberger Lumber Company
VINCENT J. HILLESHEIM
President, Anchor In Marina
Co-Manager, Crusoe Enterprises, LLC
*KATHLEEN A. LIEDER
Retired Partner, Bodman LLP
Co-Owner, Log Mark Bookstore
JOHN L. ORMSBEE
Owner, Jack's Sales
*R. JEFFERY SWADLING
Vice President, Ken's Village Market
FRANCIS J. VANANTWERP, JR.
Vice President Durocher Marine Division
Kokosing Construction Company, Inc.
*Directors of Citizens National Bank Only
DIRECTORS EMERITI
LYLE MCKINLEY, THOMAS A. ELLENBERGER,
THOMAS J. FISHER
HOW TO ORDER FORM 10-K
Shareholders may obtain, without charge, a copy of Form 10-K or the 2005
Annual Report
Summary & Highlights by writing Susan A. Eno, Secretary, CNB Corporation,
P.O. Box 10,
Cheboygan, Michigan 49721.
45