UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-Q
[X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(D)
OF THE SECURITIES EXCHANGE ACT OF 1934
FOR THE QUARTERLY PERIOD ENDED SEPTEMBER 30, 2005
[ ] Transition Report Pursuant to Section 13 or 15(d)
of the Securities Exchange Act of 1934
For the transition period from ____________ to _____________
Commission File Number: 0-30535
GRAYSON BANKSHARES, INC.
(Exact name of registrant as specified in its charter)
VIRGINIA 54-1647596
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification No.)
113 WEST MAIN STREET
INDEPENDENCE, VIRGINIA 24348
(Address of principal executive offices) (Zip Code)
(276) 773-2811
(Registrant's telephone number, including area code)
Indicate by check mark whether the registrant (1) has filed all reports
required to be filed by Section 13 or 15(d) of the Securities Exchange Act of
1934 during the preceding 12 months (or for such shorter period that the
registrant was required to file such reports), and (2) has been subject to such
filing requirements for the past 90 days. Yes __X__ No _____
Indicate by check mark whether the registrant is an accelerated filer (as
defined in Rule 12b-2 of the Exchange Act). Yes _____ No __X__
Indicate by check mark whether the registrant is a shell company (as
defined in Rule 12b-2 of the Exchange Act). Yes _____ No __X__
Indicate the number of shares outstanding of each of the issuer's classes
of common stock, as of the latest practicable date:
1,718,968 shares of Common Stock, par value
$1.25 per share, outstanding as of November 11, 2005.
<page>
PART I FINANCIAL INFORMATION
Item 1. Financial Statements
Consolidated Balance Sheets-September 30, 2005
and December 31, 2004.........................................3
Consolidated Statements of Income-Nine Months Ended
September 30, 2005 and September 30, 2004 ....................4
Consolidated Statements of Income-Three Months Ended
September 30, 2005 and September 30, 2004 ....................5
Consolidated Statements of Stockholders' Equity-Nine Months
Ended September 30, 2005 and Year Ended December 31, 2004.....6
Consolidated Statements of Cash Flows-Nine Months Ended
September 30, 2005 and September 30, 2004.....................7
Notes to Consolidated Financial Statements...........................8
Item 2. Management's Discussion and Analysis of Financial Condition
and Results of Operations....................................10
Item 3. Quantitative and Qualitative Disclosures about Market Risk..........13
Item 4. Controls and Procedures.............................................14
PART II OTHER INFORMATION
Item 1. Legal Proceedings...................................................15
Item 2. Unregistered Sales of Equity Securities and Use of Proceeds.........15
Item 3. Defaults Upon Senior Securities.....................................15
Item 4. Submission of Matters to a Vote of Security Holders.................15
Item 5. Other Information...................................................15
Item 6. Exhibits............................................................15
Signatures...................................................................16
2
<page>
PART I. FINANCIAL INFORMATION
Item 1. Financial Statements
GRAYSON BANKSHARES, INC. AND SUBSIDIARY
CONSOLIDATED BALANCE SHEETS
SEPTEMBER 30, 2005 AND DECEMBER 31, 2004
SEPTEMBER 30, DECEMBER 31,
ASSETS 2005 2004
---- ----
(Unaudited) (Audited)
Cash and due from banks $8,897,439 $10,032,399
Federal funds sold 13,343,730 8,833,069
Investment securities available for sale 33,810,545 33,786,785
Investment securities held to maturity 2,965,344 2,975,455
Restricted equity securities 1,519,650 1,147,050
Loans, net of allowance for loan losses of $2,745,682
at September 30, 2005 and $2,609,759 at
December 31, 2004 215,964,145 196,911,871
Cash value of life insurance 5,096,722 4,925,722
Foreclosed assets 400,000 65,000
Property and equipment, net 7,092,500 7,316,750
Accrued income 2,289,884 1,833,728
Other assets 2,557,310 2,387,052
--------- ---------
$293,937,269 $270,214,881
============ ============
LIABILITIES AND STOCKHOLDERS' EQUITY
LIABILITIES
Noninterest-bearing demand deposits $35,195,751 $31,569,179
Interest-bearing demand deposits 21,527,246 21,352,601
Savings deposits 48,084,896 51,489,408
Large denomination time deposits 43,898,329 36,668,682
Other time deposits 96,284,060 89,979,474
---------- ----------
Total deposits 244,990,282 231,059,344
FHLB advances 20,000,000 12,000,000
Accrued interest payable 697,899 253,652
Other liabilities 745,026 724,839
------- -------
266,433,207 244,037,835
----------- -----------
Commitments and contingencies - -
STOCKHOLDERS' EQUITY
Preferred stock, $25 par value; 500,000
shares authorized; none issued - -
Common stock, $1.25 par value; 5,000,000 shares
authorized; 1,718,968 shares issued and
outstanding 2,148,710 2,148,710
Surplus 521,625 521,625
Retained earnings 25,289,572 23,797,289
Accumulated other comprehensive income (loss) (455,845) (290,578)
-------- --------
27,504,062 26,177,046
---------- ----------
$293,937,269 $270,214,881
============ ============
SEE NOTES TO CONSOLIDATED FINANCIAL STATEMENTS.
3
<page>
GRAYSON BANKSHARES, INC. AND SUBSIDIARY
CONSOLIDATED STATEMENTS OF INCOME
FOR THE NINE MONTHS ENDED SEPTEMBER 30, 2005 AND 2004
NINE MONTHS ENDED
SEPTEMBER 30,
2005 2004
---- ----
INTEREST INCOME: (Unaudited)
(Unaudited)
Loans and fees on loans $11,199,763 $9,544,459
Federal funds sold 232,080 92,823
Investment securities:
Taxable 900,982 993,895
Exempt from federal income tax 301,995 340,204
------- -------
12,634,820 10,971,381
---------- ----------
INTEREST EXPENSE:
Deposits 3,463,329 2,967,691
Interest on borrowings 583,500 394,219
------- -------
4,046,829 3,361,910
--------- ---------
Net interest income 8,587,991 7,609,471
PROVISION FOR LOAN LOSSES 399,468 285,000
------- -------
Net interest income after
provision for loan losses 8,188,523 7,324,471
--------- ---------
NONINTEREST INCOME:
Service charges on deposit accounts 387,028 409,222
Increase in cash value of life insurance 171,000 180,000
Net realized gains (losses) on securities (3,763) 38,643
Other income 354,858 482,775
------- -------
909,123 1,110,640
------- ---------
NONINTEREST EXPENSE:
Salaries and employee benefits 3,690,646 3,220,325
Occupancy expense 217,062 162,394
Equipment expense 580,854 464,886
Other expense 1,471,266 1,206,855
--------- ---------
5,959,828 5,054,460
--------- ---------
Income before income taxes 3,137,818 3,380,651
INCOME TAX EXPENSE 872,000 906,000
------- -------
Net income $2,265,818 $2,474,651
========== ==========
BASIC EARNINGS PER SHARE $ 1.32 $ 1.44
========= =========
WEIGHTED AVERAGE SHARES OUTSTANDING 1,718,968 1,718,968
========= =========
SEE NOTES TO CONSOLIDATED FINANCIAL STATEMENTS.
4
<page>
GRAYSON BANKSHARES, INC. AND SUBSIDIARY
CONSOLIDATED STATEMENTS OF INCOME
FOR THE THREE MONTHS ENDED SEPTEMBER 30, 2005 AND 2004
THREE MONTHS ENDED
SEPTEMBER 30,
2005 2004
---- ----
INTEREST INCOME: (Unaudited)
(Unaudited)
Loans and fees on loans $4,019,709 $3,322,166
Federal funds sold 116,584 33,056
Investment securities:
Taxable 300,426 297,262
Exempt from federal income tax 97,065 106,308
------ -------
4,533,784 3,758,792
--------- ---------
INTEREST EXPENSE:
Deposits 1,323,654 967,636
Interest on borrowings 241,500 133,334
------- -------
1,565,154 1,100,970
--------- ---------
Net interest income 2,968,630 2,657,822
PROVISION FOR LOAN LOSSES 189,468 105,000
------- -------
Net interest income after
provision for loan losses 2,779,162 2,552,822
--------- ---------
NONINTEREST INCOME:
Service charges on deposit accounts 146,974 156,518
Increase in cash value of life insurance 57,000 60,000
Net realized gains (losses) on securities - (21,486)
Other income 118,189 108,030
------- -------
322,163 303,062
------- -------
NONINTEREST EXPENSE:
Salaries and employee benefits 1,224,777 1,095,805
Occupancy expense 80,292 52,660
Equipment expense 188,117 159,726
Other expense 518,347 424,839
------- -------
2,011,533 1,733,030
--------- ---------
Income before income taxes 1,089,792 1,122,854
INCOME TAX EXPENSE 306,000 297,000
------- -------
Net income $ 783,792 $ 825,854
========= =========
BASIC EARNINGS PER SHARE $ .46 $ .48
========= =========
WEIGHTED AVERAGE SHARES OUTSTANDING 1,718,968 1,718,968
========= =========
SEE NOTES TO CONSOLIDATED FINANCIAL STATEMENTS.
5
<page>
GRAYSON BANKSHARES, INC. AND SUBSIDIARY
CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY
FOR THE NINE MONTHS ENDED SEPTEMBER 30, 2005 (UNAUDITED) AND THE YEAR ENDED
DECEMBER 31, 2004 (AUDITED)
ACCUMULATED
OTHER
COMMON STOCK RETAINED COMPREHENSIVE
SHARES AMOUNT SURPLUS EARNINGS INCOME (LOSS) TOTAL
------ ------ ------- -------- ------------- -----
BALANCE, DECEMBER 31, 2003 1,718,968 $2,148,710 $521,625 $21,587,202 $343,259 $24,600,796
COMPREHENSIVE INCOME
Net income - - - 3,241,468 - 3,241,468
Net change in unrealized
appreciation on investment
securities available for
sale, net of taxes of $(305,101) - - - - (592,254) (592,254)
Reclassification adjustment,
net of taxes of $(21,421) - - - - (41,583) (41,583)
--------
TOTAL COMPREHENSIVE INCOME 2,607,631
Dividends paid
($.60 per share) - - - (1,031,381) - (1,031,381)
------- ---------- ------- ---------- ------- ----------
BALANCE, DECEMBER 31, 2004 1,718,968 2,148,710 521,625 23,797,289 (290,578) 26,177,046
COMPREHENSIVE INCOME
Net income - - - 2,265,818 - 2,265,818
Net change in unrealized
appreciation on investment
securities available for
sale, net of taxes of $(51,833) - - - - (100,617) (100,617)
Reclassification adjustment,
net of taxes of $1,279 - - - - 2,484 2,484
Unrealized loss on interest
rate swap, net of taxes
of $(34,584) - - - - (67,134) (67,134)
--------
TOTAL COMPREHENSIVE INCOME 2,100,551
Dividends paid
($.45 per share) - - - (773,535) - (773,535)
------- ---------- ------- ---------- ------- -----------
BALANCE, SEPTEMBER 30, 2005 1,718,968 $2,148,710 $ 521,625 $25,289,572 $(455,845) $27,504,062
========= ========== ========= =========== ========= ===========
</table>
SEE NOTES TO CONSOLIDATED FINANCIAL STATEMENTS.
6
<page>
GRAYSON BANKSHARES, INC. AND SUBSIDIARY
CONSOLIDATED STATEMENTS OF CASH FLOWS
FOR THE NINE MONTHS ENDED JUNE 30, 2005 AND 2004
NINE MONTHS ENDED
SEPTEMBER 30,
2005 2004
---- ----
(Unaudited) (Unaudited)
CASH FLOWS FROM OPERATING ACTIVITIES:
Net income $2,265,818 $2,474,651
Adjustments to reconcile net income
to net cash provided by operations:
Depreciation and amortization 522,000 412,500
Provision for loan losses 399,468 285,000
Deferred income taxes (29,000) 207,000
Net realized (gains) losses on securities 3,763 (38,643)
Accretion of discount on securities, net of
amortization of premiums 63,005 182,101
Deferred compensation 4,871 5,513
Changes in assets and liabilities:
Cash value of life insurance (171,000) (180,000)
Accrued income (456,156) (6,445)
Other assets (56,121) (756,269)
Accrued interest payable 444,247 268,469
Other liabilities (86,402) (133,845)
------- --------
Net cash provided by operating activities 2,904,493 2,720,032
--------- ---------
CASH FLOWS FROM INVESTING ACTIVITIES:
Net (increase) decrease in federal funds sold (4,510,661) 6,925,180
Purchases of investment securities (5,976,589)(14,020,765)
Sales of investment securities 1,932,481 16,787,021
Maturities of investment securities 3,815,005 4,369,127
Sales (purchases) of restricted equity securities (372,600) 129,600
Net increase in loans (19,786,742)(18,265,685)
Purchases of property and equipment, net of sales (297,750) (904,514)
-------- --------
Net cash used in investing activities (25,196,856) (4,980,036)
----------- ----------
CASH FLOWS FROM FINANCING ACTIVITIES:
Net increase in noninterest-bearing deposits 3,626,572 1,904,224
Net increase (decrease) in interest-bearing deposits 10,304,366 (3,585,633)
Dividends paid (773,535) (670,398)
Net increase in other borrowings 8,000,000 2,000,000
--------- ---------
Net cash provided by (used in) financing activities 21,157,403 (351,807)
---------- --------
Net (decrease) in cash and cash equivalents (1,134,960) (2,611,811)
CASH AND CASH EQUIVALENTS, BEGINNING 10,032,399 11,748,140
---------- ----------
CASH AND CASH EQUIVALENTS, ENDING $8,897,439 $9,136,329
========== ==========
SUPPLEMENTAL DISCLOSURE OF CASH FLOW INFORMATION:
Interest paid $3,602,582 $3,093,441
========== ==========
Taxes paid $ 944,000 $ 638,995
========= =========
Loans transferred to foreclosed assets $ 335,000 $ -
========= =========
</table>
SEE NOTES TO CONSOLIDATED FINANCIAL STATEMENTS.
7
<page>
GRAYSON BANKSHARES, INC. AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE 1. ORGANIZATION AND SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
ORGANIZATION
Grayson Bankshares, Inc. (the "Company") was incorporated as a Virginia
corporation on February 3, 1992 to acquire the stock of The Grayson National
Bank (the "Bank") in a bank holding company reorganization. The Bank was
acquired by the Company on July 1, 1992.
The Bank was organized under the laws of the United States in 1900 and
currently serves Grayson County, Virginia and surrounding areas through eight
banking offices. As an FDIC-insured National Banking Association, the Bank is
subject to regulation by the Comptroller of the Currency. The Company is
regulated by the Board of Governors of the Federal Reserve System.
The consolidated financial statements as of September 30, 2005 and for the
periods ended September 30, 2005 and 2004 included herein have been prepared by
the Company without audit, pursuant to the rules and regulations of the
Securities and Exchange Commission. In the opinion of management, the
information furnished in the interim consolidated financial statements reflects
all adjustments necessary to present fairly the Company's consolidated
financial position, results of operations, changes in stockholders' equity and
cash flows for such interim periods. Management believes that all interim
period adjustments are of a normal recurring nature. These consolidated
financial statements should be read in conjunction with the Company's audited
financial statements and the notes thereto as of December 31, 2004, included in
the Company's Annual Report on Form 10-K for the fiscal year ended December 31,
2004 as filed with the Securities and Exchange Commission. The results of
operations for the three-month and nine-month periods ended September 30, 2005
and 2004 are not necessarily indicative of the results to be expected for the
full year.
The accounting and reporting policies of the Company and the Bank follow
generally accepted accounting principles and general practices within the
financial services industry.
PRINCIPLES OF CONSOLIDATION
The consolidated financial statements include the accounts of the Company and
the Bank, which is wholly owned. All significant intercompany transactions and
balances have been eliminated in consolidation.
NOTE 2. ALLOWANCE FOR LOAN LOSSES
The following is an analysis of the allowance for loan losses for the nine
months ended September 30, 2005 and 2004.
2005 2004
---- ----
Balance, beginning $2,609,759 $2,395,387
Provision charged to expense 399,468 285,000
Recoveries of amounts charged off 23,527 83,600
Amounts charged off (287,072) (224,335)
-------- --------
Balance, ending $2,745,682 $2,539,652
========== ==========
NOTE 3. INCOME TAXES
A reconciliation of income tax expense computed at the statutory federal income
tax rate to income tax expense included in the statements of income for the
nine months ended September 30, 2005 and 2004 follows:
2005 2004
---- ----
Tax at statutory federal rate $1,066,858 $1,149,421
Tax exempt interest income (120,607) (134,668)
Other tax exempt income (105,382) (121,839)
Other 31,131 13,086
------ ------
$ 872,000 $ 906,000
========= =========
8
<page>
GRAYSON BANKSHARES, INC. AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE 3. EMPLOYEE BENEFIT PLAN
The Bank has a qualified noncontributory defined benefit pension plan that
covers substantially all of its employees. The benefits are primarily based on
years of service and earnings. The following is a summary of net periodic
pension costs for the nine-month periods ended September 30, 2005 and 2004.
2005 2004
---- ----
Service cost $ 224,517 $ 165,879
Interest cost 212,073 180,804
Expected return on plan assets (204,291) (138,582)
Amortization of net obligation at transition (27) (27)
Amortization of prior service cost 7,548 7,548
Amortization of net (gain) or loss 64,524 45,069
------ ------
Net periodic benefit cost $ 304,344 $ 260,691
========= =========
NOTE 4. COMMITMENTS AND CONTINGENCIES
FINANCIAL INSTRUMENTS WITH OFF-BALANCE-SHEET RISK
The Bank is party to financial instruments with off-balance-sheet risk in the
normal course of business to meet the financing needs of its customers. These
financial instruments include commitments to extend credit and standby letters
of credit. These instruments involve, to varying degrees, credit risk in
excess of the amount recognized in the consolidated balance sheets.
The Bank's exposure to credit loss in the event of nonperformance by the other
party to the financial instrument for commitments to extend credit and standby
letters of credit is represented by the contractual amount of those
instruments. The Bank uses the same credit policies in making commitments and
conditional obligations as for on-balance-sheet instruments. A summary of the
Bank's commitments at September 30, 2005 and 2004 is as follows:
2005 2004
---- ----
Commitments to extend credit $15,441,784 $9,224,530
Standby letters of credit - -
----------- ----------
$15,441,784 $9,224,530
=========== ==========
Commitments to extend credit are agreements to lend to a customer, at a fixed
or variable interest rate, as long as there is no violation of any condition
established in the contract. 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 drawn upon, the total
commitment amounts do not necessarily represent future cash requirements. The
Bank evaluates each customer's creditworthiness on a case-by-case basis. The
amount of collateral obtained, if deemed necessary by the Bank upon extension
of credit, is based on management's credit evaluation of the party. Collateral
held varies, but may include accounts receivable, inventory, property and
equipment, residential real estate and income-producing commercial properties.
Standby letters of credit are conditional commitments issued by the Bank to
guarantee the performance of a customer to a third party. Those guarantees are
primarily issued to support public and private borrowing arrangements. The
credit risk involved in issuing letters of credit is essentially the same as
that involved in extending loan facilities to customers. Collateral held varies
as specified above and is required in instances that the Bank deems necessary.
9
<page>
PART I. FINANCIAL INFORMATION
Item 2. Management's Discussion and Analysis of Financial Condition and
Results of Operations
GENERAL
The following discussion provides information about the major components of the
results of operations and financial condition of the Company. This discussion
and analysis should be read in conjunction with the Consolidated Financial
Statements and Notes to Consolidated Financial Statements included in this
report.
The Bank operates for the primary purpose of meeting the banking needs of
individuals and small to medium sized businesses in the Bank's service area,
while developing personal, hometown associations with these customers. The
Bank offers a wide range of banking services including checking and savings
accounts; commercial, installment, mortgage and personal loans; safe deposit
boxes; and other associated services. The Bank's primary sources of revenue
are interest income from its lending activities, and, to a lesser extent, from
its investment portfolio. The Bank also earns fees from lending and deposit
activities. The major expenses of the Bank are interest on deposit accounts and
general and administrative expenses, such as salaries, occupancy and related
expenses.
CRITICAL ACCOUNTING POLICIES
For a discussion of the Company's critical accounting policies, including its
allowance for loan losses, see the Company's Annual Report on Form 10-K for the
year ended December 31, 2004.
RESULTS OF OPERATIONS
Total interest income increased by $774,992 for the quarter ended September 30,
2005 compared to the quarter ended September 30, 2004, while interest expense
on deposits and other borrowings increased by $464,184 over the same period.
The increase in interest income is attributable to increases in the prime
lending rate and to an increase in average loans outstanding while the increase
in interest expense came primarily as a result of the increases in short-term
interest rates that have been implemented by the Federal Reserve over the past
year. The result was an increase in net interest income of $310,808 or 11.69%.
The provision for credit losses was $189,468 for the quarter ended September
30, 2005 and $105,000 for the quarter ended September 30, 2004. The increase
was due to the addition of a specific reserve of $84,468 for a loan that was
identified as being impaired during the third quarter of 2005. The reserve for
loan losses at September 30, 2005 was approximately 1.26% of total loans.
Management believes the provision and the resulting allowance for loan losses
are adequate.
Non-interest income was up $19,101 in the third quarter of 2005 compared to the
third quarter of 2004. A slight decrease in service charge income was offset
by an increase in mortgage origination fees and a decrease in losses on the
sale of investment securities.
Non-interest expense increased by $278,503, or 16.07%, for the quarter ended
September 30, 2005 compared to the quarter ended September 30, 2004. Increases
in salaries and employee benefits came as a result of employee additions as
well as cost increases for employee medical benefits and defined-benefit
retirement plans. Increases in occupancy, equipment and other expenses came as
a result of branching activity in 2004.
As the increase in net interest income was offset by the increase in non-
interest expense, net income before taxes decreased by $33,062 for the third
quarter of 2005 compared to the same period in 2004. Income tax expense
increased slightly to $306,000 for the quarter ended September 30, 2005
compared to $297,000 for the same period in 2004. The increase in tax expense
was due to a decrease in the average balance of tax-exempt investments. As a
result, net income for the quarter decreased by $42,062 or 5.09%, to $783,792
compared to net income of $825,854 for the same period in 2004.
10
<page>
PART I. FINANCIAL INFORMATION
Item 2. Management's Discussion and Analysis of Financial Condition and
Results of Operations
For the nine months ended September 30, 2005, total interest income increased
by $1,663,439 compared to the nine-month period ended September 30, 2004, while
interest expense increased by $684,919 over the same period. This resulted in
an increase in net interest income of $978,520, or 12.86%. As stated above,
the increase in interest income was the result of increases in the prime
lending rate and an increase in average loans outstanding while the increase in
interest expense came primarily as a result of increases in short-term interest
rates.
Non-interest income was down $201,517 for the nine-month period ended September
30, 2005 compared to the same period in 2004. The decrease in other income was
due to a gain that was realized upon the termination of an interest rate swap
in the second quarter of 2004.
Normal cost increases, combined with the aforementioned costs of salaries,
benefits, and branching activities resulted in an increase in non-interest
expense of $905,368 for the first nine months of 2005 compared to the first
nine months of 2004. Overall, the increase in net interest income was offset
by the decrease in other income and the increase in other expenses to result in
a decrease in net income of $208,833, or 8.44%, for the nine-month period ended
September 30, 2005 compared to the nine-month period ended September 30, 2004.
FINANCIAL CONDITION
Total assets increased by $23,722,388, or 8.78% from December 31, 2004 to
September 30, 2005. Net loans increased by $19,052,274, federal funds sold
increased by $4,510,661 and investment securities increased by $13,649.
Total deposits increased by $13,930,938, or 6.03% from December 31, 2004 to
September 30, 2005 as deposit growth picked up slightly in the third quarter of
2005 as compared to previous quarters. Federal Home Loan Bank advances
increased by $8,000,000 from December 31, 2004 to September 30, 2005 as
additional borrowings were necessary to help fund the increased loan demand.
Shareholders' equity totaled $27,504,062 at September 30, 2005 compared to
$26,177,046 at December 31, 2004. The $1,327,016 increase was the result of
earnings for the nine months combined with a decrease in the market value of
securities classified as available for sale of $98,133, a decrease in the
market value of interest rate swaps of $67,134, and the payment of dividends of
$773,535.
Regulatory guidelines relating to capital adequacy provide minimum risk-based
ratios at the Bank level which assess capital adequacy while encompassing all
credit risks, including those related to off-balance sheet activities. The
Bank exceeds all regulatory capital guidelines and is considered to be well
capitalized.
LIQUIDITY AND CAPITAL RESOURCES
Liquidity is the ability to convert assets to cash to fund depositors'
withdrawals or borrowers' loans without significant loss. Federal fund lines
available from correspondent banks totaled approximately $14,000,000 at
September 30, 2005. No balances were outstanding on these lines at September 30,
2005 or December 31, 2004. Borrowings from the Federal Home Loan Bank totaled
$12,000,000 at December 31, 2004 and $20,000,000 at September 30, 2005. The
remaining unused credit line from the Federal Home Loan Bank as of September 30,
2005 was approximately $23,900,000. The Federal Home Loan Bank advances are
secured by a blanket collateral agreement on the Bank's 1-4 family residential
real estate loans.
The Bank uses cash and federal funds sold to meet its daily funding needs. If
funding needs are met through holdings of excess cash and federal funds, then
profits might be sacrificed as higher-yielding investments are foregone in the
interest of liquidity. Therefore management determines, based on such items as
loan demand and deposit activity, an appropriate level of cash and federal
funds and seeks to maintain that level.
11
<page>
PART I. FINANCIAL INFORMATION
Item 2. Management's Discussion and Analysis of Financial Condition and
Results of Operations
The Bank's investment security portfolio also serves as a source of liquidity.
The primary goals of the investment portfolio are liquidity management and
maturity gap management. As investment securities mature, the proceeds are
reinvested in federal funds sold if the federal funds level needs to be
increased; otherwise the proceeds are reinvested in similar investment
securities. The majority of investment securities transactions consist of
replacing securities that have been called or matured. The Bank keeps a
significant portion of its investment portfolio in unpledged assets that are
less than 24 months to maturity. These investments are a preferred source of
funds in that they can be disposed of in any interest rate environment without
causing significant damage to that quarter's profits.
As a result of the steps described above, management believes that the Company
maintains overall liquidity sufficient to satisfy its depositors' requirements
and meet its customers' credit needs.
FORWARD-LOOKING STATEMENTS
Certain information contained in this discussion may include "forward-looking
statements" within the meaning of Section 27A of the Securities Act of 1933, as
amended, and Section 21E of the Securities Exchange Act of 1934, as amended.
These forward-looking statements are generally identified by phrases such as
"the Company expects," "the Company believes" or words of similar import. Such
forward-looking statements involve known and unknown risks including, but not
limited to, changes in general economic and business conditions, interest rate
fluctuations, competition within and from outside the banking industry, new
products and services in the banking industry, risk inherent in making loans
such as repayment risks and fluctuating collateral values, problems with
technology utilized by the Company, changing trends in customer profiles and
changes in laws and regulations applicable to the Company. Although the
Company believes that its expectations with respect to the forward-looking
statements are based upon reliable assumptions within the bounds of its
knowledge of its business and operations, there can be no assurance that actual
results, performance or achievements of the Company will not differ materially
from any future results, performance or achievements expressed or implied by
such forward-looking statements. For additional information on known and
unknown risks, see the "Caution About Forward Looking Statements" section in
the Company's Annual Report on Form 10-K for the year ended December 31, 2004.
12
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PART I. FINANCIAL INFORMATION
Item 3. Quantitative and Qualitative Disclosures about Market Risk
The principal goals of the Bank's asset and liability management strategy are
the maintenance of adequate liquidity and the management of interest rate risk.
Interest rate risk management balances the effects of interest rate changes on
assets that earn interest or liabilities on which interest is paid, to protect
the Bank from wide fluctuations in its net interest income that could result
from interest rate changes.
Management must ensure that adequate funds are available at all times to meet
the needs of its customers. On the asset side of the balance sheet, maturing
investments, loan payments, maturing loans, federal funds sold, and unpledged
investment securities are principal sources of liquidity. On the liability
side of the balance sheet, liquidity sources include core deposits, the ability
to increase large denomination certificates, federal fund lines from
correspondent banks, borrowings from the Federal Home Loan Bank and the Federal
Reserve Bank, as well as the ability to generate funds through the issuance of
long-term debt and equity.
Interest rate risk is the effect that changes in interest rates would have on
interest income and interest expense as interest-sensitive assets and interest-
sensitive liabilities either reprice or mature. Management attempts to
maintain the portfolios of interest-earning assets and interest-bearing
liabilities with maturities or repricing opportunities at levels that will
afford protection from erosion of net interest margin, to the extent practical,
from changes in interest rates.
The Bank uses a number of tools to manage its interest rate risk, including
simulating net interest income under various scenarios, monitoring the present
value change in equity under the same scenarios, and monitoring the difference
or gap between rate sensitive assets and rate sensitive liabilities over
various time periods.
The earnings simulation model forecasts annual net income under a variety of
scenarios that incorporate changes in the absolute level of interest rates,
changes in the shape of the yield curve and changes in interest rate
relationships. Management evaluates the effect on net interest income from
gradual changes in the Prime Rate of up to 300 basis points up or down over a
12-month period. The current model indicates that an increase in rates of 300
basis points over the next twelve months would result in a decrease in net
interest income of $564,000, or 4.76%, while a similar decrease in rates would
result in an increase in net interest income of $87,000, or 0.74%. The model
also incorporates management's forecasts for balance sheet growth, noninterest
income and noninterest expense. The interest rate scenarios are used for
analytical purposes and do not represent management's view of future market
movements. Rather, these are intended to provide a measure of the degree of
volatility interest rate movements may apply to the earnings of the Company.
Modeling the sensitivity of earnings to interest rate risk is highly dependent
on numerous assumptions embedded in the simulation model. While the earnings
sensitivity analysis incorporates management's best estimate of interest rate
and balance sheet dynamics under various market rate movements, the actual
behavior and resulting earnings impact likely will differ from that projected.
13
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PART I. FINANCIAL INFORMATION
Item 4. Controls and Procedures
As of the end of the period covered by this report, we carried out an
evaluation, under the supervision and with the participation of the Company's
management, including the Company's President and Chief Executive Officer and
Chief Financial Officer, of the effectiveness of the design and operation of
our disclosure controls and procedures pursuant to Rule 13a-15 under the
Securities Exchange Act of 1934. Based upon that evaluation, the Company's
President and Chief Executive Officer and Chief Financial Officer concluded
that its disclosure controls and procedures are effective in timely alerting
them to material information relating to the Company (including its
consolidated subsidiaries) required to be included in its periodic filings with
the Securities and Exchange Commission.
The Company's management is also responsible for establishing and maintaining
adequate internal control over financial reporting. There were no changes in
the Company's internal control over financial reporting identified in
connection with the evaluation of it that occurred during the Company's last
fiscal quarter that materially affected, or are reasonably likely to materially
affect, internal control over financial reporting.
14
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PART II. OTHER INFORMATION
GRAYSON BANKSHARES, INC. AND SUBSIDIARY
ITEM 1.LEGAL PROCEEDINGS
There are no pending legal proceedings to which the Company or the Bank is a
party or of which any of their property is subject.
ITEM 2.UNREGISTERED SALES OF EQUITY SECURITIES AND USE OF PROCEEDS
Not applicable
ITEM 3. DEFAULTS UPON SENIOR SECURITIES
Not applicable
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
None
ITEM 5. OTHER INFORMATION
None
ITEM 6. EXHIBITS
31.1 Rule 13(a)-14(a) Certification of Chief Executive Officer.
31.2 Rule 13(a)-14(a) Certification of Chief Financial Officer.
32.1 Statement of Chief Executive Officer and Chief Financial Officer
Pursuant to 18 U.S.C. Section 1350.
15
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SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934, the
registrant has duly caused this report to be signed on its behalf by the
undersigned thereunto duly authorized.
GRAYSON BANKSHARES, INC.
Date: November 14, 2005 By: /s/ Jacky K. Anderson
---------------------
Jacky K. Anderson
President and CEO
By: /s/ Blake M. Edwards
---------------------
Blake M. Edwards
Chief Financial Officer
16
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EXHIBIT INDEX
Exhibit No. Description
31.1 Rule 13(a)-14(a) Certification of Chief Executive Officer.
31.2 Rule 13(a)-14(a) Certification of Chief Financial Officer.
32.1 Statement of Chief Executive Officer and Chief Financial
Officer Pursuant to 18 U.S.C. Section 1350.