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, 2008
[ ] 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, a non-accelerated filer or a smaller reporting company.
See definition of "large accelerated filer," "accelerated filer" and "smaller
reporting company" in Rule 12b-2 of the Exchange Act.
Large accelerated filer [ ] Accelerated filer [ ]
Non-accelerated filer [ ] Smaller reporting company |X|
(Do not check if smaller reporting company)
Indicate by check mark whether the registrant is a shell company (as
defined in Rule 12b-2 of the 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 13, 2008.
TABLE OF CONTENTS
PART I FINANCIAL INFORMATION
Item 1. Financial Statements
Consolidated Balance Sheets--September 30, 2008 (Unaudited)
and December 31, 2007 (Audited).....................................3
Unaudited Consolidated Statements of Income--Nine Months Ended
September 30, 2008 and September 30, 2007...........................4
Unaudited Consolidated Statements of Income--Three Months Ended
September 30, 2008 and September 30, 2007..........................5
Consolidated Statements of Changes in Stockholders' Equity--Nine
Months Ended September 30, 2008 (Unaudited) and Year Ended
December 31, 2007 (Audited)........................................6
Unaudited Consolidated Statements of Cash Flows--Nine Months Ended
September 30, 2008 and September 30, 2007...........................7
Notes to Consolidated Financial Statements...........................8
Item 2. Management's Discussion and Analysis of Financial Condition
and Results of Operations..........................................13
Item 3. Quantitative and Qualitative Disclosures about Market Risk..........16
Item 4. Controls and Procedures.............................................16
PART II OTHER INFORMATION
Item 1. Legal Proceedings...................................................17
Item 1A. Risk Factors........................................................17
Item 2. Unregistered Sales of Equity Securities and Use of Proceeds.........17
Item 3. Defaults Upon Senior Securities.....................................17
Item 4. Submission of Matters to a Vote of Security Holders.................17
Item 5. Other Information...................................................17
Item 6. Exhibits............................................................17
Signatures...................................................................18
2
Part I. Financial Information
Item 1. Financial Statements
Grayson Bankshares, Inc. and Subsidiary
Consolidated Balance Sheets
Septermber 30, 2008 and December 31, 2007
- --------------------------------------------------------------------------------
September 30, December 31,
Assets 2008 2007
--------------- ----------------
(Unaudited) (Audited)
Cash and due from banks $ 9,776,329 $ 10,746,139
Federal funds sold 10,009,532 24,637,131
Investment securities available for sale 47,086,221 38,429,328
Investment securities held to maturity
(fair value approximately $3,031,965 at Septermber 30, 2008,
and $3,064,241 at December 31, 2007) 3,031,546 3,014,048
Restricted equity securities 1,629,750 1,129,850
Loans, net of allowance for loan losses of $2,870,662
at September 30, 2008 and $2,757,745 at December 31, 2007 271,893,315 263,729,116
Cash value of life insurance 7,658,952 5,598,853
Foreclosed assets 100,000 160,000
Property and equipment, net 10,811,825 8,485,058
Accrued income 3,192,417 2,996,261
Other assets 2,454,847 2,560,615
--------------- ----------------
$ 367,644,734 $ 361,486,399
=============== ================
Liabilities and Stockholders' Equity
Liabilities
Deposits
Noninterest-bearing $ 44,166,698 $ 44,630,854
Interest-bearing 262,177,956 264,542,840
--------------- ----------------
Total deposits 306,344,654 309,173,694
Long-term debt 30,000,000 20,000,000
Accrued interest payable 982,721 536,393
Other liabilities 129,832 1,485,439
--------------- ----------------
337,457,207 331,195,526
--------------- ----------------
Commitments and contingencies - -
Stockholders' equity
Preferred stock, $25 par value; 500,000
shares authorized; none issued - -
Common stock, $1.25 par value; 2,000,000 shares
authorized; 1,718,968 shares issued and
outstanding 2,148,710 2,148,710
Surplus 521,625 521,625
Retained earnings 28,916,418 29,026,036
Accumulated other comprehensive loss (1,399,226) (1,405,498)
--------------- ----------------
30,187,527 30,290,873
--------------- ----------------
$ 367,644,734 $ 361,486,399
=============== ================
See Notes to Consolidated Financial Statements.
3
Grayson Bankshares, Inc. and Subsidiary
Consolidated Statements of Income
For the Nine Months ended September 30, 2008 and 2007
- -------------------------------------------------------------------------------
Nine Months Ended
September 30,
2008 2007
-------------- ---------------
Interest income: (Unaudited) (Unaudited)
Loans and fees on loans $ 14,790,512 $ 15,119,606
Federal funds sold 306,840 531,786
Investment securities:
Taxable 1,350,109 971,608
Exempt from federal income tax 363,191 324,627
-------------- ---------------
16,810,652 16,947,627
-------------- ---------------
Interest expense:
Deposits 7,271,436 7,678,667
Interest on borrowings 731,964 358,784
-------------- ---------------
8,003,400 8,037,451
-------------- ---------------
Net interest income 8,807,252 8,910,176
Provision for loan losses 293,397 273,588
-------------- ---------------
Net interest income after
provision for loan losses 8,513,855 8,636,588
-------------- ---------------
Noninterest income:
Service charges on deposit accounts 705,064 582,333
Increase in cash value of life insurance 231,000 166,500
Net realized gains (losses) on securities (1,645,083) (11,742)
Other income 619,047 826,281
-------------- ---------------
(89,972) 1,563,372
-------------- ---------------
Noninterest expense:
Salaries and employee benefits 4,400,803 4,210,253
Occupancy expense 270,693 255,155
Equipment expense 664,185 616,214
Other expense 1,904,629 1,687,504
-------------- ---------------
7,240,310 6,769,126
-------------- ---------------
Income before income taxes 1,183,573 3,430,834
Income tax expense 210,241 1,003,000
-------------- ---------------
Net income $ 973,332 $ 2,427,834
============== ==============
Basic earnings per share $ 0.57 $ 1.41
============== ==============
Weighted average shares outstanding 1,718,968 1,718,968
============== ==============
Dividends declared per share $ 0.63 $ 0.60
============== ==============
See Notes to Consolidated Financial Statements.
4
Grayson Bankshares, Inc. and Subsidiary
Consolidated Statements of Income
For the Three Months ended September 30, 2008 and 2007
- --------------------------------------------------------------------------------
Three Months Ended
September 30,
2008 2007
--------------- ---------------
Interest income: (Unaudited) (Unaudited)
Loans and fees on loans $ 4,908,012 $ 5,054,489
Federal funds sold 48,082 182,011
Investment securities:
Taxable 517,060 317,933
Exempt from federal income tax 120,287 118,519
------------- ---------------
5,593,441 5,672,952
------------- ---------------
Interest expense:
Deposits 2,224,870 2,616,353
Interest on borrowings 268,964 102,222
------------- ---------------
2,493,834 2,718,575
------------- ---------------
Net interest income 3,099,607 2,954,377
Provision for loan losses 93,397 138,588
------------- ---------------
Net interest income after
provision for loan losses 3,006,210 2,815,789
------------- ---------------
Noninterest income:
Service charges on deposit accounts 245,581 239,571
Increase in cash value of life insurance 75,000 55,500
Net realized gains (losses) on securities (1,660,800) (1,760)
Other income 167,390 262,566
------------- ---------------
(1,172,829) 555,877
------------- ---------------
Noninterest expense:
Salaries and employee benefits 1,475,083 1,409,159
Occupancy expense 89,658 77,717
Equipment expense 212,845 196,107
Other expense 682,527 584,741
------------- ---------------
2,460,113 2,267,724
------------- ---------------
Income before income taxes (626,732) 1,103,942
Income tax expense (256,759) 307,000
------------- ---------------
Net income $ (369,973) $ 796,942
============== ===============
Basic earnings per share $ (0.22) $ 0.46
============== ===============
Weighted average shares outstanding 1,718,968 1,718,968
============== ===============
Dividends declared per share $ 0.21 $ 0.20
============== ===============
See Notes to Consolidated Financial Statements.
5
Grayson Bankshares, Inc. and Subsidiary
Consolidated Statements of Changes in Stockholders' Equity
For the Nine Months ended September 30, 2008 (unaudited) and
the Year ended December 31, 2007 (audited)
- -------------------------------------------------------------------------------
Accumulated
Other
Common Stock Retained Comprehensive
Shares Amount Surplus Earnings Income (Loss) Total
----------- ----------- ---------- ------------- ----------------- -------------
Balance, December 31, 2006 1,718,968 $ 2,148,710 $ 521,625 $ 27,336,848 $ (1,703,014) $ 28,304,169
Comprehensive income
Net income - - - 3,167,501 - 3,167,501
Net change in pension reserve
net of income taxes of $156,273 - - - - 303,354 303,354
Net change in unrealized
gain (loss) on investment
securities available for
sale, net of taxes of ($6,191) - - - - (12,018) (12,018)
Reclassification adjustment,
net of income taxes of $3,184 - - - - 6,180 6,180
---------------- -------------
Total comprehensive income 3,465,017
Dividends paid
($.86 per share) - - - (1,478,313) - (1,478,313)
----------- ----------- ---------- ------------- ----------------- -------------
Balance, December 31, 2007 1,718,968 $ 2,148,710 $ 521,625 $ 29,026,036 $ (1,405,498)
$ 30,290,873
Comprehensive income
Net income - - - 973,332 - 973,332
Net change in unrealized
gain (loss) on investment
securities available for
sale, net of taxes of $562,559 - - - -
1,092,027 1,092,027
Reclassification adjustment,
net of income taxes of ($559,328) - - - - (1,085,755) (1,085,755)
---------------- -------------
Total comprehensive income 979,604
Dividends paid
($.63 per share) - - - (1,082,950) - (1,082,950)
----------- ----------- ---------- ------------- ----------------- -------------
Balance, September 30, 2008 1,718,968 $ 2,148,710 $ 521,625 $ 28,916,418 $ (1,399,226) $ 30,187,527
See Notes to Consolidated Financial Statements.
6
Grayson Bankshares, Inc. and Subsidiary
Consolidated Statements of Cash Flows
For the Nine Months ended September 30, 2008 and 2007
- -------------------------------------------------------------------------------
Nine Months Ended
September 30,
2008 2007
---------------- ---------------
(Unaudited) (Unaudited)
Cash flows from operating activities:
Net income $ 973,332 $ 2,427,834
Adjustments to reconcile net income
to net cash provided by operations:
Depreciation and amortization 580,500 562,500
Provision for loan losses 293,397 273,588
Deferred income taxes 221,000 281,000
Net realized losses on securities 1,645,083 11,742
Accretion of discount on securities, net of
amortization of premiums (1,676) (41,855)
Deferred compensation (37,179) (6,804)
Net realized gain on foreclosed assets (21,926) (48,722)
Life insurance income (119,902) -
Changes in assets and liabilities:
Cash value of life insurance (231,000) (166,500)
Accrued income (196,156) (327,921)
Other assets (118,463) (162,876)
Accrued interest payable 446,328 369,074
Other liabilities (1,318,428) (819,962)
---------------- ---------------
Net cash provided by operating activities 2,114,910 2,351,098
---------------- ---------------
Cash flows from investing activities:
Net (increase) decrease in federal funds sold 14,627,599 (493,207)
Purchases of investment securities (28,736,274) (8,742,750)
Sales of investment securities - 1,982,500
Maturities of investment securities 18,427,979 9,961,103
(Purchases) sales of restricted equity securities( 499,900) 458,552
Net increase in loans (8,632,596) (14,820,298)
Purchases of bank-owned life insurance (2,000,000) -
Proceeds from life insurance contracts 290,803 -
Proceeds from the sale of foreclosed assets 256,926 108,722
Purchases of property and equipment, net of sales (2,907,267) (286,045)
---------------- ---------------
Net cash used in investing activities (9,172,730) (11,831,423)
---------------- ---------------
Cash flows from financing activities:
Net increase (decrease) in deposits (2,829,040) 19,729,215
Dividends paid (1,082,950) (1,031,381)
Net increase (decrease) in long-term debt 10,000,000 (10,000,000)
---------------- ---------------
Net cash provided by financing activities 6,088,010 8,697,834
---------------- ---------------
Net decrease in cash and cash equivalents (969,810) (782,491)
Cash and cash equivalents, beginning 10,746,139 10,120,984
---------------- ---------------
Cash and cash equivalents, ending $ 9,776,329 $ 9,338,493
================ ===============
Supplemental disclosure of cash flow information:
Interest paid $ 7,557,072 $ 7,668,377
================ ===============
Taxes paid $ 529,241 $ 595,901
================ ===============
Transfers of loans to foreclosed properties $ 175,000 $ 160,000
================ ===============
See Notes to Consolidated Financial Statements.
7
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 nine 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, 2008 and for the
periods ended September 30, 2008 and 2007 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, 2007, included in the
Company's Annual Report on Form 10-K for the fiscal year ended December 31,
2007. The results of operations for the three-month and nine-month periods ended
September 30, 2008 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 $2,878,000 and $2,775,000 for the periods including September 30,
2008 and December 31, 2007, respectively.
Note 3. Allowance for Loan Losses
The following is an analysis of the allowance for loan losses for the nine
months ended September 30, 2008 and 2007.
2008 2007
----------- -----------
Balance, beginning $ 2,757,745 $ 2,901,997
Provision charged to expense 293,397 273,588
Recoveries of amounts charged off 211,741 59,348
Amounts charged off (392,221) (447,538)
----------- -----------
Balance, ending $ 2,870,662 $ 2,787,395
=========== ===========
8
Grayson Bankshares, Inc. and Subsidiary
Notes to Consolidated Financial Statements
- --------------------------------------------------------------------------------
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 nine
months ended September 30, 2008 and 2007 follows:
2008 2007
------------ --------------
Tax at statutory federal rate $ 402,415 $ 1,166,483
Tax exempt interest income (136,752) (132,193)
Other tax exempt income (126,677) (67,665)
Other 71,255 36,375
------------- - --------------
$ 210,241 $ 1,003,000
============= ==============
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 nine-month periods ended September 30, 2008 and 2007.
2008 2007
-------------- -------------
Service cost $ 293,685 $ 290,742
Interest cost 275,922 268,374
Expected return on plan assets (331,827) (275,316)
Amortization of net obligation at transition (27) (27)
Amortization of prior service cost 7,548 7,548
Amortization of net (gain) or loss 38,796 58,329
-------------- ------------
Net periodic benefit cost $ 284,097 $ 349,650
============== ============
Note 6. Commitments and Contingencies
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, 2008 and 2007 is as follows: 2008 2007
Commitments to extend credit $ 19,590,442 $ 22,309,875
Standby letters of credit - -
------------- ---------------
$ 19,590,442 $ 22,309,875
============= ===============
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.
9
Grayson Bankshares, Inc. and Subsidiary
Notes to Consolidated Financial Statements
- --------------------------------------------------------------------------------
Note 6. Commitments and Contingencies, continued
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.
Note 7. Fair Value
The Company uses fair value measurements to record fair value adjustments to
certain assets and liabilities and to determine fair value disclosures.
Securities available for sale, and derivatives are recorded at fair value on a
recurring basis. Additionally, from time to time, the Company may be required to
record at fair value other assets on a nonrecurring basis, such as loans and
foreclosed assets. These nonrecurring fair value adjustments typically involve
application of lower of cost or market accounting or write-downs of individual
assets.
Fair Value Hierarchy
Under SFAS 157, the Company groups assets and liabilities at fair value in three
levels, based on the markets in which the assets and liabilities are traded and
the reliability of the assumptions used to determine fair value. These levels
are:
Level 1 - Valuation is based upon quoted prices for identical
instruments traded in active markets.
Level 2 - Valuation is based upon quoted prices for similar
instruments in active markets, quoted prices for identical or similar
instruments in markets that are not active, and model-based valuation
techniques for which all significant assumptions are observable in the
market.
Level 3 - Valuation is generated from model-based techniques that use
at least one significant assumption not observable in the market.
These unobservable assumptions reflect estimates of assumptions that
market participants would use in pricing the asset or liability.
Valuation techniques may include the use of option pricing models,
discounted cash flow models and similar techniques.
Following is a description of valuation methodologies used for assets and
liabilities recorded at fair value.
Investment Securities Available for Sale
Investment securities available for sale are recorded at fair value on a
recurring basis. Fair value measurement is based upon quoted prices, if
available. If quoted prices are not available, fair values are measured using
independent pricing models or other model-based valuation techniques such as the
present value of future cash flows, adjusted for the security's credit rating,
prepayment assumptions and other factors such as credit loss assumptions. Level
1 securities include those traded on an active exchange, such as the New York
Stock Exchange, U.S. Treasury securities that are traded by dealers or brokers
in active over-the-counter markets and money market funds. Level 2 securities
include mortgage-backed securities issued by government sponsored entities,
municipal bonds and corporate debt securities. Securities classified as Level 3
include asset-backed securities in less liquid markets.
10
Grayson Bankshares, Inc. and Subsidiary
Notes to Consolidated Financial Statements
- --------------------------------------------------------------------------------
Note 7. Fair Value, continued
Loans
The Company does not record loans at fair value on a recurring basis. However,
from time to time, a loan is considered impaired and an allowance for loan
losses is established. Loans for which it is probable that payment of interest
and principal will not be made in accordance with the contractual terms of the
loan agreement are considered impaired. Once a loan is identified as
individually impaired, management measures impairment in accordance with SFAS
114, "Accounting by Creditors for Impairment of a Loan, " (SFAS 114). The fair
value of impaired loans is estimated using one of several methods, including
collateral value, market value of similar debt, enterprise value, liquidation
value and discounted cash flows. Those impaired loans not requiring an allowance
represent loans for which the fair value of the expected repayments or
collateral exceed the recorded investments in such loans. At September 30, 2008,
substantially all of the total impaired loans were evaluated based on the fair
value of the collateral. In accordance with SFAS 157, impaired loans where an
allowance is established based on the fair value of collateral require
classification in the fair value hierarchy. When the fair value of the
collateral is based on an observable market price or a current appraised value,
the Company records the impaired loan as nonrecurring Level 2. When an appraised
value is not available or management determines the fair value of the collateral
is further impaired below the appraised value and there is no observable market
price, the Company records the impaired loan as nonrecurring Level 3.
Derivative Assets and Liabilities
Derivative instruments held or issued by the Company for risk management
purposes are traded in over-the-counter markets where quoted market prices are
not readily available. Management engages third-party intermediaries to
determine the fair market value of these derivative instruments and classifies
these instruments as Level 2. Examples of Level 2 derivatives are interest rate
swaps, caps and floors. No derivative instruments were held as of September 30,
2008, or December 31, 2007.
Foreclosed Assets
Foreclosed assets are adjusted to fair value upon transfer of the loans to
foreclosed assets. Subsequently, foreclosed assets are carried at the lower of
carrying value or fair value. Fair value is based upon independent market
prices, appraised values of the collateral or management's estimation of the
value of the collateral. When the fair value of the collateral is based on an
observable market price or a current appraised value, the Company records the
foreclosed asset as nonrecurring Level 2. When an appraised value is not
available or management determines the fair value of the collateral is further
impaired below the appraised value and there is no observable market price, the
Company records the foreclosed asset as nonrecurring Level 3.
Assets and Liabilities Recorded at Fair Value on a Recurring Basis
September 30, 2008 Total Level 1 Level 2 Level 3
================= ============= ============= ============== =============
Investment securities available for sale $ 47,086,221 $ - $ 47,086,221 $ -
Derivative assets - - - -
============= ============= ============== =============
Total assets at fair value $ 47,086,221 $ - $ 47,086,221 $ -
============= ============= ============== =============
Derivative liabilities - - - -
------------- ------------- -------------- -------------
Total liabilities at fair value $ - $ - $ - $ -
============= ============= ============== =============
11
Grayson Bankshares, Inc. and Subsidiary
Notes to Consolidated Financial Statements
- --------------------------------------------------------------------------------
Note 7. Fair Value, continued
Assets and Liabilities Recorded at Fair Value on a Nonrecurring Basis
The Company may be required, from time to time, to measure certain assets and
liabilities at fair value on a nonrecurring basis in accordance with U.S.
generally accepted accounting principals. These include assets and liabilities
that are measured at the lower of cost or market that were recognized at fair
value below cost at the end of the period. Assets and liabilities measured at
fair value on a nonrecurring basis are included in the table below.
September 30, 2008 Total Level 1 Level 2 Level 3
- ------------------- -------- ----------- -------- -----------
Loans $496,897 $ - $496,897 $ -
Foreclosed assets 100,000 - 100,000 -
-------- ---------- -------- -----------
Total assets at fair value $596,897 $ - $596,897 $ -
======== =========== ======== ===========
Total liabilities at fair value $ - $ - $ - $ -
======== =========== ======== ===========
Note 8. Emerging Issues Task Force (EITF) 06-10
In March 2007, the FASB ratified the consensuses reached by the Financial
Accounting Standards Board's (FASB's) Emerging Issues Task Force relating to
EITF 06-10, "Accounting for Collateral Assignment Split-Dollar Life Insurance
Arrangements" (EITF 06-10). EITF 06-10 states that entities with collateral
split-dollar life insurance arrangements that provide a benefit to an employee
that extends to postretirement periods should recognize a liability for future
benefits in accordance with SFAS No. 106, "Employers' Accounting for
Postretirement Benefits Other Than Pensions", (if in substance a postretirement
benefit plan exists). The Company evaluated the impact of applying this issue as
a change in accounting principle through a cumulative-effect adjustment to
retained earnings. Because the Bank has a limited number of split-dollar life
insurance arrangements in effect, all of which are term-based arrangements
expiring between the years 2009 and 2013, the Company determined that the
liability for future benefits was not significant.
12
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.
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, 2007.
Results of Operations
Total interest income decreased by $79,511 for the quarter ended September 30,
2008 compared to the quarter ended September 30, 2007, while interest expense on
deposits and other borrowings decreased by $224,741 over the same period. The
decrease in interest income was attributable primarily to decreases in interest
rates. From September 2007 to September 2008, the Federal Reserve has lowered
its target overnight borrowing rate by 3.25%, resulting in immediate reductions
in federal funds interest as well as interest on loans indexed to the prime
lending rate. Increased earnings from growth in the loan portfolio were offset
by the decreases in interest rates. Recent actions by the Treasury and Federal
Reserve to increase liquidity within the financial markets has also driven the
rate earned on overnight federal funds sold below the actual target rate on many
occasions, thus further decreasing interest earned on federal funds sold. The
increase in interest income on investment securities was primarily due to
increases in the investment portfolio as assets were shifted from federal funds
sold to investment securities. The decrease in interest expense on deposits came
as a result of decreases in interest rates, primarily in certificates of
deposit. An increase in borrowings from the Federal Home Loan Bank led to the
increase in interest expense on borrowings. The result was an increase in net
interest income of $145,230, or 4.92% for the quarter ended September 30, 2008,
compared to the quarter ended September 30, 2007.
The provision for loan losses was $93,397 for the quarter ended September 30,
2008 and $138,588 for the same period in 2007. The reserve for loan losses at
September 30, 2008 was approximately 1.06% of total loans. Management believes
the provision and the resulting allowance for loan losses are adequate. The
higher provision in 2007 was due to an impairment charge on a specific loan.
The decrease in noninterest income was due primarily to a loss on investment
securities. During the quarter ended September 30, 2008, the Bank recorded an
other-than-temporary impairment charge on FHLMC (Freddie Mac) preferred stock of
$1,660,800. The preferred stock, which was originally valued at $1,730,000, is
now carried at a value of $69,200. Neither the Company nor the Bank owns any
other preferred or common equity investments in Fannie Mae or Freddie Mac. Other
income decreased due to earnings in 2007 from an investment in a Small Business
Investment Company that did not recur in 2008.
Noninterest expenses increased by $192,389, or 8.48%, for the quarter ended
September 30, 2008 compared to the quarter ended September 30, 2007. Normal
increases in salary and benefit costs accounted for $65,924 of this increase.
Other cost increases resulted from the recent opening of a new operations
center.
The decrease in net interest income combined with the aforementioned
other-than-temporary impairment charge on investment securities resulted in a
net loss of $369,973 for the quarter ended September 30, 2008 compared to
earnings of $796,942 for the same period last year. The net, after tax impact of
the impairment charge was $1,096,128, therefore earnings, without the impairment
charge, would have been approximately $726,155 for the third quarter of 2008.
For the nine months ended September 30, 2008, total interest income decreased by
$136,975 compared to the nine-month period ended September 30, 2007, while
interest expense decreased by $34,051 over the same period. This resulted in a
decrease in net interest income of $102,924, or 1.16%. As stated above, the
decrease in interest income
13
Part I. Financial Information
Item 2. Management's Discussion and Analysis of Financial Condition and Results
of Operations
- --------------------------------------------------------------------------------
was primarily the result of decreases in interest rates. The decrease in
interest expense on deposits was the result of decreases in rates on
certificates of deposit while the increase in interest on borrowings was due to
increased borrowings from the Federal Home Loan Bank.
Noninterest income decreased by $1,653,344 for the nine-month period ended
September 30, 2008 compared to the same period in 2007. This was due mainly to
the impairment charges discussed above. Service charges on deposit accounts
increased due to the implementation of an overdraft privilege program in the
second quarter of 2007. Other income decreased due to earnings recognized in the
first quarter of 2007 from the Bank's investment in a Small Business Investment
Company that did not recur in 2008.
Increases in salaries, benefits and other normal operating costs, combined with
costs associated with the opening of a new operations center, resulted in an
increase in noninterest expense of $471,184, or 6.96%, for the first nine months
of 2008 compared to the first nine months of 2007. Overall, the decrease in net
interest income combined with the securities impairment charge and the increase
in noninterest expense led to a decrease in net income of $1,454,502 for the
nine-month period ended September 30, 2008 compared to the nine-month period
ended September 30, 2007.
Financial Condition
Total assets increased by $6,158,335, or 1.70%, from December 31, 2007 to
September 30, 2008. Net loans increased by $8,164,199, federal funds sold
decreased by $14,627,599 and investment securities increased by $8,674,391. The
decrease in federal funds sold came as balances were used to fund the increases
in loans and investment securities. The cash value of life insurance increased
as the Bank made an additional investment of $2,000,000 in bank-owned life
insurance during the first quarter of 2008.
Total deposits decreased by $2,829,040, or 0.92%, from December 31, 2007 to
September 30, 2008. The decrease in deposits came as management moved to lower
deposit rates in conjunction with the decreases in rates on loans and federal
funds sold. Long-term debt increased from $20,000,000 at December 31, 2007, to
$30,000,000 at September 30, 2008 as the Bank sought to lock in lower-rate
funding from the Federal Home Loan Bank. Other liabilities decreased from
$1,485,439 at December 31, 2007 to $129,832 at September 30, 2008 due to a
contribution of $949,743 to the employee defined benefit pension plan as well as
a decrease in federal income taxes payable.
Shareholders' equity totaled $30,187,527 at December 30, 2008 compared to
$30,290,873 at December 31, 2007. The $103,346 decrease was the result of
earnings for the nine months combined with the change in market value of
securities classified as available for sale, and the payment of dividends of
$1,082,950.
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 $18,400,000 at September 30, 2008. No
balances were outstanding on these lines at September 30, 2008 or December 31,
2007. Long-term debt consists of borrowings from the Federal Home Loan Bank and
Deutsche Bank. 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 September 30, 2008 and $10,000,000 at
December 31, 2007. Borrowings from Deutsche Bank, which are secured by the
pledging of specific investment securities, totaled $10,000,000 at each of
September 30, 2008, and December 31, 2007. The unused credit line from the
Federal Home Loan Bank as of September 30, 2008 is approximately $35,000,000.
14
Part I. Financial Information
Item 2. Management's Discussion and Analysis of Financial Condition and
Results of Operations
- --------------------------------------------------------------------------------
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. If federal funds sold levels are higher than management considers
necessary then excess funds may be invested to increase earnings. The majority
of investment securities 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 or repricing. These
investments are a preferred source of funds in that they can generally be
disposed of in any interest rate environment with less damage to that quarter's
profits than longer-term investments.
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, 2007.
15
Part I. Financial Information
Item 3. Quantitative and Qualitative Disclosures about Market Risk
- -------------------------------------------------------------------------------
Not applicable to smaller reporting companies.
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
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.
16
Part II. Other Information
- -------------------------------------------------------------------------------
Item 1. Legal Proceedings
There are no material pending legal proceedings other than ordinary
routine litigation incidental to the business to which the Company or
the Bank is a party or of which any of their property is subject.
Item 1A. Risk Factors
Not applicable to smaller reporting companies.
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.
17
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 13, 2008 By: /s/ Jacky K. Anderson
----------------------------
Jacky K. Anderson
President and Chief Executive Officer
By: /s/ Blake M. Edwards
-----------------------------
Blake M. Edwards
Chief Financial Officer
18
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.