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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 JUNE 30, 2006
[ ] 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 a large accelerated
filer, an accelerated filer, or a non-accelerated filer. See definition of
"accelerated filer and large accelerated filer" in Rule 12b-2 of the Exchange
Act) (Check one):
Large accelerated filer _____Accelerated filer _____Non-accelerated filer__X__
Indicate by check mark whether the registrant is a shell company (as
defined in Rule 12b-2 of the Exchange Act).
Yes _____ 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 August 11, 2006.
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PART I FINANCIAL INFORMATION
Item 1. Financial Statements
Consolidated Balance Sheets-June 30, 2006
and December 31, 2005.................................................3
Consolidated Statements of Income-Six Months Ended
June 30, 2006 and June 30, 2005.......................................4
Consolidated Statements of Income-Three Months Ended
June 30, 2006 and June 30, 2005.......................................5
Consolidated Statements of Stockholders' Equity-Six Months
Ended June 30, 2006 and Year Ended December 31, 2005..................6
Consolidated Statements of Cash Flows-Six Months Ended
June 30, 2006 and June 30, 2005.......................................7
Notes to Consolidated Financial Statements............................8
Item 2. Management's Discussion and Analysis of Financial Condition
and Results of Operations............................................11
Item 3. Quantitative and Qualitative Disclosures about Market Risk...........14
Item 4. Controls and Procedures..............................................15
PART II OTHER INFORMATION
Item 1. Legal Proceedings....................................................16
Item 1A. Risk Factors.........................................................16
Item 2. Unregistered Sales of Equity Securities and Use of Proceeds..........16
Item 3. Defaults Upon Senior Securities......................................16
Item 4. Submission of Matters to a Vote of Security Holders..................16
Item 5. Other Information....................................................16
Item 6. Exhibits.............................................................16
Signatures....................................................................17
2
PART I. FINANCIAL INFORMATION
ITEM 1. FINANCIAL STATEMENTS
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GRAYSON BANKSHARES, INC. AND SUBSIDIARY
CONSOLIDATED BALANCE SHEETS
JUNE 30, 2006 AND DECEMBER 31, 2005
- --------------------------------------------------------------------------------
JUNE 30, DECEMBER 31,
2006 2005
---- ----
(Unaudited) (Audited)
ASSETS
- ------
Cash and due from banks $ 6,853,268 $ 8,394,366
Federal funds sold 9,993,211 21,914,513
Investment securities available for sale 34,164,086 33,795,911
Investment securities held to maturity
(fair value approximately $3,935,426 at June 30,
2006, and $3,955,524 at December 31, 2005) 3,977,376 3,963,847
Restricted equity securities 1,137,450 1,519,650
Loans, net of allowance for loan losses of $2,725,424
at June 30, 2006 and $2,678,055 at December 31, 2005 232,649,687 217,091,067
Cash value of life insurance 5,253,680 5,148,180
Foreclosed assets 487,282 400,000
Property and equipment, net 7,204,047 7,249,704
Accrued income 2,588,415 2,177,475
Other assets 2,799,083 2,510,504
----------- ----------
$307,107,585 $304,165,217
============ ============
LIABILITIES AND STOCKHOLDERS' EQUITY
LIABILITIES
Demand deposits $38,785,015 $36,242,161
Interest-bearing demand deposits 20,823,850 22,975,642
Savings deposits 40,773,161 46,569,058
Large denomination time deposits 51,643,951 46,132,454
Other time deposits 110,533,116 98,480,204
----------- ----------
Total deposits 262,559,093 250,399,519
Long-term debt 15,000,000 25,000,000
Accrued interest payable 395,622 467,686
Other liabilities 590,121 544,670
----------- -----------
278,544,836 276,411,875
----------- -----------
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 26,759,228 25,736,698
Accumulated other comprehensive income (loss) (866,814) (653,691)
----------- ----------
28,562,749 27,753,342
----------- ----------
$307,107,585 $304,165,217
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SEE NOTES TO CONSOLIDATED FINANCIAL STATEMENTS.
3
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GRAYSON BANKSHARES, INC. AND SUBSIDIARY
CONSOLIDATED STATEMENTS OF INCOME
FOR THE SIX MONTHS ENDED JUNE 30, 2006 AND 2005
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SIX MONTHS ENDED
JUNE 30,
2006 2005
---- ----
INTEREST INCOME: (Unaudited) (Unaudited)
Loans and fees on loans $8,617,793 $7,180,054
Federal funds sold 344,601 115,496
Investment securities:
Taxable 730,078 600,556
Exempt from federal income tax 151,725 204,930
--------- ---------
9,844,197 8,101,036
--------- ---------
INTEREST EXPENSE:
Deposits 3,374,458 2,139,675
Interest on borrowings 432,000 342,000
--------- ---------
3,806,458 2,481,675
--------- ---------
Net interest income 6,037,739 5,619,361
--------- ---------
PROVISION FOR LOAN LOSSES 250,000 210,000
--------- ---------
Net interest income after
provision for loan losses 5,787,739 5,409,361
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NONINTEREST INCOME:
Service charges on deposit accounts 278,451 240,054
Increase in cash value of life insurance 105,500 114,000
Net realized gains (losses) on securities 11,969 (3,763)
Other income 416,673 236,669
--------- ---------
812,593 586,960
--------- ---------
NONINTEREST EXPENSE:
Salaries and employee benefits 2,585,776 2,465,869
Occupancy expense 144,834 136,770
Equipment expense 407,786 392,737
Other expense 1,015,819 952,919
--------- ---------
4,154,215 3,948,295
--------- ---------
Income before income taxes 2,446,117 2,048,026
INCOME TAX EXPENSE 736,000 566,000
--------- ---------
Net income $1,710,117 $1,482,026
========== ==========
BASIC EARNINGS PER SHARE $ .99 $ .86
========== ==========
WEIGHTED AVERAGE SHARES OUTSTANDING 1,718,968 1,718,968
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SEE NOTES TO CONSOLIDATED FINANCIAL STATEMENTS.
4
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GRAYSON BANKSHARES, INC. AND SUBSIDIARY
CONSOLIDATED STATEMENTS OF INCOME
FOR THE THREE MONTHS ENDED JUNE 30, 2006 AND 2005
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THREE MONTHS ENDED
JUNE 30,
2006 2005
---- ----
INTEREST INCOME: (Unaudited) (Unaudited)
Loans and fees on loans $4,488,840 $3,685,617
Federal funds sold 140,554 65,336
Investment securities:
Taxable 375,592 300,244
Exempt from federal income tax 76,194 104,573
--------- ---------
5,081,180 4,155,770
--------- ---------
INTEREST EXPENSE:
Deposits 1,776,990 1,113,627
Interest on borrowings 192,000 218,000
--------- ---------
1,968,990 1,331,627
--------- ---------
Net interest income 3,112,190 2,824,143
PROVISION FOR LOAN LOSSES 137,500 105,000
--------- ---------
Net interest income after
provision for loan losses 2,974,690 2,719,143
--------- ---------
NONINTEREST INCOME:
Service charges on deposit accounts 142,859 134,014
Increase in cash value of life insurance 51,000 57,000
Net realized gains (losses) on securities - (3,763)
Other income 213,874 114,473
--------- ---------
407,733 301,724
--------- ---------
NONINTEREST EXPENSE:
Salaries and employee benefits 1,327,264 1,250,897
Occupancy expense 74,921 67,280
Equipment expense 204,756 200,340
Other expense 531,801 486,446
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2,138,742 2,004,963
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Income before income taxes 1,243,681 1,015,904
INCOME TAX EXPENSE 372,000 286,000
--------- ---------
Net income $ 871,681 $ 729,904
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BASIC EARNINGS PER SHARE $ .51 $ .42
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WEIGHTED AVERAGE SHARES OUTSTANDING 1,718,968 1,718,968
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SEE NOTES TO CONSOLIDATED FINANCIAL STATEMENTS.
5
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GRAYSON BANKSHARES, INC. AND SUBSIDIARY
CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY
FOR THE SIX MONTHS ENDED JUNE 30, 2006 (UNAUDITED) AND
THE YEAR ENDED DECEMBER 31, 2005 (AUDITED)
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ACCUMULATED
OTHER
COMMON STOCK RETAINED COMPREHENSIVE
SHARES AMOUNT SURPLUS EARNINGS INCOME (LOSS) TOTAL
------ ------ ------- -------- ------------- -----
BALANCE, DECEMBER 31, 2004 1,718,968 $2,148,710 $521,625 $23,797,289 $(290,578) $26,177,046
COMPREHENSIVE INCOME
Net income - - - 3,108,307 - 3,108,307
Net change in unrealized
depreciation on investment
securities available for
sale, net of taxes of $(185,666) - - - - (360,411) (360,411)
Reclassification adjustment,
net of taxes of $(1,392) - - - - (2,702) (2,702)
----------
TOTAL COMPREHENSIVE INCOME 2,745,194
Dividends paid
($.68 per share) - - - (1,168,898) - (1,168,898)
--------- ---------- --------- ----------- --------- -----------
BALANCE, DECEMBER 31, 2005 1,718,968 2,148,710 521,625 25,736,698 (653,691) 27,753,342
COMPREHENSIVE INCOME
Net income - - - 1,710,117 - 1,710,117
Net change in unrealized
depreciation on investment
securities available for
sale, net of taxes of $(81,878) - - - - (158,941) (158,941)
Reclassification adjustment,
net of taxes of $(4,069) - - - - (7,900) (7,900)
Unrealized loss on interest rate
swap, net of taxes of $(23,843) - - - - (46,282) (46,282)
---------
TOTAL COMPREHENSIVE INCOME 1,496,994
Dividends paid
($.40 per share) - - - (687,587) - (687,587)
--------- ---------- --------- ----------- --------- -----------
BALANCE, JUNE 30, 2006 1,718,968 $2,148,710 $ 521,625 $26,759,228 $(866,814) $28,562,749
========= ========== ========= =========== ========= ===========
SEE NOTES TO CONSOLIDATED FINANCIAL STATEMENTS.
6
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GRAYSON BANKSHARES, INC. AND SUBSIDIARY
CONSOLIDATED STATEMENTS OF CASH FLOWS
FOR THE SIX MONTHS ENDED JUNE 30, 2006 AND 2005
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SIX MONTHS ENDED
JUNE 30,
2006 2005
---- ----
(Unaudited (Unaudited)
CASH FLOWS FROM OPERATING ACTIVITIES:
Net income $1,710,117 $1,482,026
Adjustments to reconcile net income
to net cash provided by operations:
Depreciation and amortization 366,000 348,000
Provision for loan losses 250,000 210,000
Deferred income taxes (31,843) 29,000
Net realized (gains) losses on securities (11,969) 3,763
Accretion of discount on securities, net of
amortization of premiums (22,748) 40,448
Deferred compensation 1,318 2,770
Changes in assets and liabilities:
Cash value of life insurance (105,500) (114,000)
Accrued income (410,940) (372,700)
Other assets (146,946) (214,561)
Accrued interest payable (72,064) 119,784
Other liabilities (25,992) (106,188)
--------- ---------
Net cash provided by operating activities 1,499,433 1,428,342
--------- ---------
CASH FLOWS FROM INVESTING ACTIVITIES:
Net (increase) decrease in federal funds sold 11,921,302 (593,813)
Purchases of investment securities (5,244,155) (2,992,249)
Sales of investment securities 4,012,000 1,932,481
Maturities of investment securities 632,380 1,877,601
(Purchases) sales of restricted equity securities 382,200 (372,600)
Net increase in loans (15,895,902) (14,452,755)
Proceeds from the sale of foreclosed assets - 65,000
Purchases of property and equipment, net of sales (320,343) (152,819)
Net cash used in investing activities (4,512,518) (14,689,154)
CASH FLOWS FROM FINANCING ACTIVITIES:
Net increase in deposits 12,159,574 4,330,729
Dividends paid (687,587) (515,690)
Net increase (decrease) in other borrowings (10,000,000) 8,000,000
--------- ---------
Net cash provided by financing activities 1,471,987 11,815,039
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Net increase (decrease) in cash and cash equivalents (1,541,098) (1,445,773)
CASH AND CASH EQUIVALENTS, BEGINNING 8,394,366 10,032,399
--------- ---------
CASH AND CASH EQUIVALENTS, ENDING $6,853,268 $8,586,626
========== ==========
SUPPLEMENTAL DISCLOSURE OF CASH FLOW INFORMATION:
Interest paid $3,878,522 $2,361,891
========== ==========
Taxes paid $ 567,000 $ 484,000
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Transfers of loans to foreclosed properties $ 87,282 $ -
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SEE NOTES TO CONSOLIDATED FINANCIAL STATEMENTS.
7
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GRAYSON BANKSHARES, INC. AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
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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 June 30, 2006 and for the periods
ended June 30, 2006 and 2005 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, 2005, included in the Company's Annual Report on Form
10-K for the fiscal year ended December 31, 2005. The results of operations for
the three-month and six-month periods ended June 30, 2006 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. RESTRICTIONS ON CASH
To comply with banking regulations, the Bank is required to maintain certain
average cash reserve balances. The daily average cash reserve requirement was
approximately $2,054,000 and $2,162,000 for the periods including June 30, 2006
and December 31, 2005, respectively.
NOTE 3. ALLOWANCE FOR LOAN LOSSES
The following is an analysis of the allowance for loan losses for the six months
ended June 30, 2006 and 2005.
2006 2005
---- ----
Balance, beginning $2,678,055 $2,609,759
Provision charged to expense 250,000 210,000
Recoveries of amounts charged off 63,318 21,472
Amounts charged off (265,949) (161,095)
-------- --------
Balance, ending $2,725,424 $2,680,136
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8
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GRAYSON BANKSHARES, INC. AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
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NOTE 4. 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 six
months ended June 30, 2006 and 2005 follows:
2006 2005
---- ----
Tax at statutory federal rate $ 831,679 $ 696,329
Tax exempt interest income (63,831) (81,471)
Other tax exempt income (50,219) (69,985)
Other 18,371 21,127
------ ------
$ 736,000 $ 566,000
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NOTE 5. 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 six-month periods ended June 30, 2006 and 2005.
2006 2005
---- ----
Service cost $ 194,810 $ 149,678
Interest cost 163,692 141,382
Expected return on plan assets (168,206) (136,194)
Amortization of net obligation at transition (18) (18)
Amortization of prior service cost 5,032 5,032
Amortization of net (gain) or loss 45,946 43,016
------ ------
Net periodic benefit cost $ 241,256 $ 202,896
========== =========
NOTE 6. 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 June 30, 2006 and 2005 is as follows:
2006 2005
---- ----
Commitments to extend credit $17,804,593 $14,265,127
Standby letters of credit - -
----------- ------------
$17,804,593 $14,265,127
=========== ===========
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
9
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GRAYSON BANKSHARES, INC. AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
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NOTE 6. COMMITMENTS AND CONTINGENCIES, CONTINUED
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.
10
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PART I. FINANCIAL INFORMATION
Item 2. Management's Discussion and Analysis of Financial Condition and Results
of Operations
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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.
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, 2005.
RESULTS OF OPERATIONS
Total interest income increased by $925,410 for the quarter ended June 30, 2006
compared to the quarter ended June 30, 2005, while interest expense on deposits
and other borrowings increased by $637,363 over the same period. The increase
in interest income was attributable to an increase in average loans outstanding
combined with recent increases in interest rates. The increase in interest
expense was due to increases in interest rates and to the migration of funds
from lower-yielding transaction accounts to higher-yielding time deposits. The
result was an increase in net interest income of $288,047 or 10.20% in the
second quarter of 2006 compared to the same period last year.
The provision for loan losses was $137,500 for the quarter ended June 30, 2006
and $105,000 for the same period in 2005. The increase was due primarily to the
increase in total loans outstanding. The reserve for loan losses at June 30,
2006 was approximately 1.16% of total loans. Management believes the provision
and the resulting allowance for loan losses are adequate.
Noninterest income was $407,733 in the second quarter of 2006 compared to
$301,724 in the second quarter of 2005. The increase was due primarily to a
$100,000 gain that was realized in the second quarter of 2006 upon termination
of an investment repurchase agreement.
Noninterest expenses increased by $133,779, or 6.67%, for the quarter ended June
30, 2006 compared to the quarter ended June 30, 2005. The increase came as a
result of normal increases in salaries, benefits and other expenses.
The increases in net interest income and noninterest income, combined with the
increase in noninterest expenses, resulted in an increase in net income before
taxes of $227,777, for the quarter ended June 30, 2006, compared to the same
quarter in 2005. Income tax expense increased from $286,000 to $372,000 due to
the increase in taxable income combined with an increase in the Company's
effective tax rate that resulted from decreases in the average balance of tax-
exempt investments. Net income increased by $141,777, or 19.42%, to $871,681
compared to $729,904 last year.
For the six months ended June 30, 2006, total interest income increased by
$1,743,161 compared to the six-month period ended June 30, 2005, while interest
expense increased by $1,324,783 over the same period. This resulted in an
increase in net interest income of $418,378, or 7.45%. 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 as a result of increases in short-term interest rates and the
migration of funds from lower-yielding transaction accounts to higher-yielding
time deposits.
Non-interest income increased by $225,633 for the six-month period ended June
30, 2006 compared to the same period in 2005. The majority of the increase was
due to a gain of $60,000 that was realized upon the termination of an interest
rate swap in the first quarter of 2006 combined with the aforementioned gain of
$100,000 realized in the second quarter of 2006 upon termination of an
investment repurchase agreement.
Normal operating cost increases resulted in an overall increase in non-interest
expense of $205,920, or 5.22% for the first six months of 2006 compared to the
first six months of 2005. Overall, the increases in net interest income and
11
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PART I. FINANCIAL INFORMATION
Item 2. Management's Discussion and Analysis of Financial Condition and Results
of Operations
- --------------------------------------------------------------------------------
other income led to an increase in net income of $228,091, or 15.39%, for the
six-month period ended June 30, 2006 compared to the six-month period ended June
30, 2005.
FINANCIAL CONDITION
Total assets increased by $2,942,368, or 0.97%, from December 31, 2005 to June
30, 2006. Net loans increased by $15,558,620, federal funds sold decreased by
$11,921,302 and investment securities increased by $381,704. The decrease in
federal funds sold came as balances were used to retire long-term debt and to
fund a portion of the increase in loans.
Total deposits increased by $12,159,574, or 4.86%, from December 31, 2005 to
June 30, 2006. Most of the growth in deposits came from increases in time
deposits, or certificates of deposit, as noted above in the comments on net
interest income. Long-term debt decreased from $25,000,000 at December 31,
2005, to $15,000,000 at June 30, 2006.
Shareholders' equity totaled $28,562,749 at June 30, 2006 compared to
$27,753,342 at December 31, 2005. The $809,407 increase was the result of
earnings for the six months combined with a decrease in the market value of
securities classified as available for sale, and the payment of dividends of
$687,587.
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 $14,000,000 at June 30, 2006. No
balances were outstanding on these lines at June 30, 2006 or December 31, 2005.
Long-term debt consists of borrowings from the Federal Home Loan Bank and BNP
Paribas. Borrowings from the Federal Home Loan Bank, which are secured by a
blanket collateral agreement on the Bank's 1 to 4 family residential real estate
loans, totaled $20,000,000 at December 31, 2005 and $10,000,000 at June 30,
2006. Borrowings from BNP Paribas, which are secured by the pledging of
specific investment securities, totaled $5,000,000 at December 31, 2005 and June
30, 2006. The remaining unused credit line from the Federal Home Loan Bank as
of June 30, 2006 is approximately $35,900,000.
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.
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 security transactions consist of
replacing securities that have been called or matured. The Bank keeps a 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.
12
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PART I. FINANCIAL INFORMATION
Item 2. Management's Discussion and Analysis of Financial Condition and Results
of Operations
- --------------------------------------------------------------------------------
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, 2005.
13
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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 12 months would result in an increase in net interest
income of $1,205,000, or 10.00%, while a similar decrease in rates would result
in a decrease in net interest income of $792,000, or 6.58%. 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.
14
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PART I. FINANCIAL INFORMATION
Item 4. Controls and Procedures
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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
subsidiary) 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.
15
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PART II. OTHER INFORMATION
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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 1A. RISK FACTORS
There are no material changes to the risk factors previously disclosed in
the Company's Annual Report on Form 10-K for the year ended December 31,
2005.
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
(a) The Company's Annual Meeting of Shareholders was held on April 11,
2005.
(b) Not applicable
(c) At the Annual Meeting of Shareholders, the shareholders of the
Company were asked to vote on the election of four of the Company's directors to
serve until the third annual meeting following their election or until their
successors have been elected and qualified.
The votes cast for or withheld for the election of directors were as
follows:
Name Votes For Votes Withheld
---- --------- --------------
Bryan L. Edwards 1,290,446 24,787
Dennis B. Gambill 1,187,466 127,767
Jack E. Guynn, Jr. 1,295,669 19,564
Charles T. Sturgill 1,295,591 19,642
(d) Not applicable
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.
16
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: August 14, 2006 By: /s/ Jacky K. Anderson
----------------------
Jacky K. Anderson
President and CEO
By: /s/ Blake M. Edwards
----------------------
Blake M. Edwards
Chief Financial Officer
17
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.