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, 2001
TRANSACTION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934 FOR THE TRANSITION PERIOD FROM TO
----- ------
Commission file number 0-15083
THE SOUTH FINANCIAL GROUP, INC.
(Exact name of registrant as specified in its charter)
SOUTH CAROLINA 57-0824914
(State or other jurisdiction of (IRS Employer
incorporation or organization) Identification No.)
102 SOUTH MAIN STREET, GREENVILLE, SOUTH CAROLINA 29601
(Address of principal executive offices) (ZIP Code)
Registrant's telephone number, including area code (864) 255-7900
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 ____
The number of outstanding shares of the issuer's $1.00 par value common stock as
of August 10, 2001 was 42,656,377.
PART I. FINANCIAL INFORMATION
ITEM 1. FINANCIAL STATEMENTS
THE SOUTH FINANCIAL GROUP AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
(dollars in thousands, except share data)
June 30,
----------------------------
2001 2000 December 31,
(Unaudited) (Unaudited) 2000
----------- ----------- ----------
Assets
Cash and due from banks $ 127,036 $ 194,675 $ 156,711
Interest-bearing bank balances 28,511 40,116 26,721
Federal funds sold - 400 475
Securities
Trading 4,622 3,704 5,004
Available for sale 1,044,116 846,491 816,773
Held for investment (market value $70,927, $67,472 and
$78,376, respectively) 70,255 67,919 77,767
----------- ---------- ----------
Total securities 1,118,993 918,114 899,544
----------- ---------- ----------
Loans
Loans held for sale 85,416 11,957 12,630
Loans held for investment 3,717,794 3,575,915 3,724,088
Less unearned income 765 3,170 1,536
Less allowance for loan losses 43,765 41,742 43,024
----------- ---------- -----------
Net loans 3,758,680 3,542,960 3,692,158
----------- ---------- -----------
Premises and equipment, net 109,659 108,725 112,863
Accrued interest receivable 34,417 35,426 36,879
Intangible assets 104,455 110,675 107,254
Other assets 211,816 135,041 187,949
$ 5,493,567 $ 5,086,132 $ 5,220,554
=========== =========== ===========
Liabilities and Shareholders' Equity
Liabilities
Deposits
Noninterest-bearing $ 503,776 $ 572,395 $ 491,109
Interest-bearing 3,152,640 3,132,901 3,403,553
----------- ----------- ----------
Total deposits 3,656,416 3,705,296 3,894,662
Borrowed funds 1,183,666 812,695 748,715
Subordinated notes 36,806 36,750 36,728
Accrued interest payable 37,201 30,469 35,168
Other liabilities 56,656 27,786 36,628
----------- ----------- ----------
Total liabilities 4,970,745 4,612,996 4,751,901
----------- ----------- ----------
Minority Interest in Consolidated Subsidiary 37,034 - -
----------- ----------- ----------
Shareholders' Equity
Preferred stock-no par value; authorized 10,000,000 shares;
issued and outstanding none - - -
Common stock-par value $1 per share; authorized 100,000,000
shares; issued and outstanding 42,598,944, 43,056,873
and 42,460,358 shares, respectively 42,599 43,057 42,460
Surplus 331,733 340,058 332,095
Retained earnings 99,135 93,626 90,131
Guarantee of employee stock ownership plan debt and nonvested
restricted stock (2,029) (4,316) (2,593)
Accumulated other comprehensive income, net of tax 14,350 711 6,560
----------- ----------- -----------
Total shareholders' equity 485,788 473,136 468,653
----------- ----------- -----------
$ 5,493,567 $ 5,086,132 $ 5,220,554
=========== =========== ===========
See accompanying notes to consolidated financial statements.
1
THE SOUTH FINANCIAL GROUP AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF INCOME
(dollars in thousands, except share data) (Unaudited)
Three Months Ended Six Months Ended
June 30, June 30,
2001 2000 2001 2000
---- ---- ---- ----
Interest Income
Interest and fees on loans $ 80,415 $ 81,019 $165,821 $156,653
Interest and dividends on securities:
Taxable 15,670 13,727 29,167 27,130
Exempt from Federal income taxes 954 751 1,964 1,917
------------ ------------ ------------ ------------
Total interest and dividends on securities 16,624 14,478 31,131 29,047
Interest on short-term investments 360 524 968 1,032
------------- ------------- ------------- -------------
Total interest income 97,399 96,021 197,920 186,732
------------- ------------- ------------- -------------
Interest Expense
Interest on deposits 40,082 37,786 84,988 73,410
Interest on borrowed funds 13,356 12,880 26,025 23,547
------------- ------------- ------------- -------------
Total interest expense 53,438 50,666 111,013 96,957
------------- ------------- ------------- -------------
Net interest income 43,961 45,355 86,907 89,775
Provision for Loan Losses 5,600 8,482 10,108 12,427
------------- ------------- ------------- -------------
Net interest income after provision for loan losses 38,361 36,873 76,799 77,348
------------- ------------- ------------- -------------
Noninterest Income
Service charges on deposit accounts 4,812 4,078 9,180 8,339
Other 8,313 6,552 16,860 15,005
------------- ------------- ------------- -------------
Total noninterest income 13,125 10,630 26,040 23,344
------------- ------------- ------------- -------------
Noninterest Expenses
Personnel expense 17,807 18,942 36,501 38,000
Restructuring and merger-related costs (recoveries) - 19,924 (413) 19,924
Other 18,486 18,482 38,363 37,093
------------- ------------- ------------- -------------
Total noninterest expenses 36,293 57,348 74,451 95,017
------------- ------------- ------------- -------------
Income (loss) before income taxes, minority interest and
cumulative effect of change in accounting principle 15,193 (9,845) 28,388 5,675
Income tax expense (benefit) 5,242 (896) 9,992 4,221
------------- ------------- ------------- -------------
Income (loss) before minority interest and cumulative effect
of change in accounting principle 9,951 (8,949) 18,396 1,454
Minority interest in consolidated subsidiary, net of tax (307) - (402) -
------------- ------------- ------------- -------------
Income (loss) before cumulative effect of change in
in accounting principle 9,644 (8,949) 17,994 1,454
Cumulative effect of change in accounting principle,
net of tax - - 282 -
------------- ------------- ------------- -------------
Net income (loss) $ 9,644 $ (8,949) $ 18,276 $ 1,454
============= ============= ============= =============
Average Common Shares Outstanding, Basic 42,458,303 42,842,124 42,441,246 42,893,484
Average Common Shares Outstanding, Diluted 43,179,212 43,530,646 43,148,241 43,579,836
Per Common Share - Basic:
Net income (loss) before cumulative effect of change in
accounting principle $ 0.23 $ (0.21) $ 0.42 $ 0.03
Cumulative effect of change in accounting principle - - 0.01 -
------------- ------------- ------------- -------------
Net income (loss) $ 0.23 $ (0.21) $ 0.43 $ 0.03
============= ============= ============= =============
Per Common Share - Diluted:
Net income (loss) before cumulative effect of change in
accounting principle $ 0.22 $ (0.21) $ 0.41 $ 0.03
Cumulative effect of change in accounting principle - - 0.01 -
------------- ------------- ------------- -------------
Net income (loss) $ 0.22 $ (0.21) $ 0.42 $ 0.03
============= ============= ============= =============
Cash dividends declared per common share $ 0.11 $ 0.10 $ 0.22 $ 0.20
============= ============= ============= =============
See accompanying notes to consolidated financial statements.
2
THE SOUTH FINANCIAL GROUP AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CHANGES
IN SHAREHOLDERS' EQUITY AND COMPREHENSIVE INCOME
(dollars in thousands, except share data) (Unaudited)
Retained Accumulated
Shares of Earnings Other
Common Common and Comprehensive
Stock Stock Surplus Other* Income Total
Balance, December 31, 1999 43,326,754 $ 43,327 $ 345,309 $ 95,853 $ 16,101 $ 500,590
Net income - - - 1,454 - 1,454
Other comprehensive loss, net of
tax of $8,481 - - - - (15,390) (15,390)
-------------
Comprehensive loss - - - - - (13,936)
-------------
Cash dividends declared
($0.20 per common share) - - - (8,145) - (8,145)
Common stock activity:
Repurchase of stock (524,600) (525) (7,783) - - (8,308)
Dividend reinvestment plan 61,601 62 810 - - 872
Employee stock purchase plan 9,203 9 119 - - 128
Restricted stock plan 89,792 90 1,269 (1,359) - -
Exercise of stock options and
stock warrants 94,123 94 291 - - 385
Miscellaneous - - 43 1,507 - 1,550
--------------- ------------ ------------- ----------- --------------- -------------
Balance, June 30, 2000 43,056,873 $ 43,057 $ 340,058 $ 89,310 $ 711 $ 473,136
=============== ============ ============= =========== =============== =============
Balance, December 31, 2000 42,460,358 $ 42,460 $ 332,095 $ 87,538 $ 6,560 $ 468,653
Net income - - - 18,276 - 18,276
Other comprehensive income,
net of tax of $3,769 - - - - 7,790 7,790
-------------
Comprehensive income - - - - - 26,066
-------------
Cash dividends declared ($0.22 Per
common share) - - - (9,273) - (9,273)
Common stock activity:
Repurchase of stock (60,000) (60) (1,872) - - (1,932)
Acquistions 15,270 15 135 150
Dividend reinvestment plan 81,350 81 1,037 - - 1,118
Employee stock purchase plan 8,078 8 107 - - 115
Restricted stock plan (2,711) (2) (37) 394 - 355
Exercise of stock options 96,599 97 285 - - 382
Miscellaneous - - (17) 171 - 154
--------------- ------------ ------------- ----------- --------------- -------------
Balance, June 30, 2001 42,598,944 $ 42,599 $ 331,733 $ 97,106 $ 14,350 $ 485,788
=============== ============ ============= =========== =============== =============
* Other includes guarantee of employee stock ownership plan debt and nonvested restricted stock.
See accompanying notes to consolidated financial statements.
3
THE SOUTH FINANCIAL GROUP AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
(in thousands) (Unaudited)
Six Months Ended
June 30,
-------------------------
2001 2000
Cash Flows From Operating Activities
Net income $18,276 $ 1,454
Adjustments to reconcile net income to net cash provided by operating activities
Depreciation 3,401 3,877
Amortization of intangibles 3,002 3,224
Amortization of debt issuance costs 78 78
Provision for loan losses 10,108 12,427
Impairment loss from write-down of assets 215 -
Loss on changes in fair value of hedges 98 -
Loss on disposition of assets and liabilities 1,232 (106)
Gain on sale of securities (545) (163)
Gain on equity investments (1,002) (2,465)
Gain on sale of mortgage loans (1,998) (186)
Gain on sale of premises and equipment (70) 16
Minority interest in consolidated subsidiary 402 -
Cumulative effect of change in accounting principle (282) -
Trading account assets, net 523 1,131
Originations of mortgage loans held for sale (206,119) (127,026)
Sale of mortgage loans held for sale 209,156 160,846
Other assets, net (18,905) 4,416
Other liabilities, net 16,732 9,672
----------- -----------
Net cash provided by operating activities 34,302 67,195
----------- -----------
Cash Flow From Investing Activities
Increase (decrease) in cash realized from
Sale of securities available for sale 136,742 3,498
Maturity or call of securities available for sale 215,602 29,178
Maturity or call of securities held for investment 11,201 10,334
Purchase of securities available for sale (454,806) (14,781)
Purchase of securities held for investment (3,689) (6,793)
Origination of loans, net (193,379) (333,589)
Disposition of equity investments 1,251 4,255
Proceeds on sale of premises and equipment 1,244 43
Capital expenditures (1,653) (30,434)
----------- -----------
Net cash used for investing activities (287,487) (338,289)
----------- -----------
Cash Flow From Financing Activities
Increase (decrease) in cash realized from
Deposits, net (238,070) 230,895
Borrowed funds, net 434,951 116,427
Net proceeds from issuance of minority interest stock 37,034 -
Cash dividends paid (9,349) (6,411)
Cash dividends paid on minority interest (83) -
Repurchase of common stock (1,932) (8,308)
Issuance of common stock 150 -
Other common stock activity 2,124 2,256
----------- -----------
Net cash provided by financing activities 224,825 334,859
----------- -----------
Net change in cash and due from banks (28,360) 63,765
Cash and cash equivalents at beginning of year 183,907 171,426
----------- -----------
Cash and cash equivalents at end of period $155,547 $235,191
=========== ===========
See accompanying notes to consolidated financial statements.
4
THE SOUTH FINANCIAL GROUP AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(1) GENERAL
The foregoing unaudited consolidated financial statements include the accounts
of The South Financial Group, Inc. ("The South Group") and all of its
subsidiaries. All significant intercompany accounts and transactions are
eliminated in consolidation, and all adjustments considered necessary for a fair
presentation of the results for interim periods presented have been included
(such adjustments are normal and recurring in nature). All prior period
financial information has been restated to include historical information for
companies acquired in transactions accounted for as poolings-of-interest.
Certain prior year amounts have been reclassified to conform to 2001
presentations.
These consolidated financial statements should be read in conjunction with the
audited consolidated financial statements and notes thereto included in The
South Group's Annual Report on Form 10-K for the year ended December 31, 2000.
(2) COMPREHENSIVE INCOME
Comprehensive income is the change in The South Group's equity during the period
from transactions and other events and circumstances from non-owner sources.
Total comprehensive income consists of net income and other comprehensive
income. The South Group's other comprehensive income and accumulated other
comprehensive income are comprised of unrealized gains and losses on certain
investments in debt, equity securities, and derivatives that qualify as cash
flow hedges to the extent that the hedge is effective.
The following summarizes other comprehensive income (loss), net of tax (in
thousands) for the periods indicated:
Six Months Ended June 30,
------------------------------------
2001 2000
Unrealized gains (losses) on securities:
Unrealized holding gains (losses) arising during the year $ 12,907 $ (19,710)
Income tax (expense) benefit (4,253) 7,149
Less: reclassification adjustment for gains included in net income (848) (4,161)
Income tax benefit 299 1,332
Unrealized losses on cash flow hedges:
Cumulative effect of change in accounting principle (70) -
Income tax benefit 26 -
Unrealized loss on change in fair values (430) -
Income tax benefit 159 -
-------------- ---------------
$ 7,790 $ (15,390)
============== ===============
5
(3) SUPPLEMENTAL FINANCIAL INFORMATION
CONSOLIDATED STATEMENTS OF INCOME
The following presents the details for other noninterest income and other
noninterest expense (in thousands):
Three Months Ended Six Months Ended
June 30, June 30,
---------------------------- ----------------------------
2001 2000 2001 2000
---- ---- ---- ----
Other noninterest income:
Mortgage banking income $ 1,904 $ 1,668 $ 4,323 $ 3,012
Fees for investment services 1,499 1,508 2,742 2,866
Gain on sale of securities 63 92 545 163
Gain (loss) on disposition of assets and liabilities (970) 106 (1,232) 106
Gain on equity investments 181 187 1,002 2,465
Other 5,636 2,991 9,480 6,393
------------ ------------ ------------ ------------
Total other noninterest income $ 8,313 $ 6,552 $ 16,860 $ 15,005
============ ============ ============ ============
Other noninterest expenses:
Occupancy $ 3,541 $ 3,797 $ 7,204 $ 7,435
Furniture and equipment 3,333 2,637 6,731 5,318
Amortization of intangibles 1,432 1,616 3,002 3,224
System conversion costs - 459 - 839
Impairment loss from write-down of assets - - 215 -
Other 10,180 9,973 21,211 20,277
------------ ------------ ------------ ------------
Total other noninterest expenses $ 18,486 $ 18,482 $ 38,363 $ 37,093
============ ============ ============ ============
CONSOLIDATED STATEMENTS OF CASH FLOW
For purposes of reporting cash flows, cash equivalents include due from banks,
interest-bearing bank balances and Federal funds sold.
The following summarizes supplemental cash flow data (in thousands) for the
periods indicated:
Six Months Ended June 30,
----------------------------------
2001 2000
---- ----
Interest paid $ 108,980 $89,600
Income taxes paid (refunded) (9,153) 10,600
Significant non-cash transactions are summarized as follows:
Securitization of mortgage loans 112,174 -
Loans held for investment transferred to loans held for sale 75,000 -
Loans transferred to other real estate owned 3,192 832
6
(4) MINORITY INTEREST IN CONSOLIDATED SUBSIDIARY
Carolina First Mortgage Loan Trust (the "REIT) is a majority-owned subsidiary of
Carolina First Bank that holds real estate-related assets, including mortgage
loans. Carolina First Bank is a wholly-owned banking subsidiary of The South
Group. Carolina First Bank's ownership in the REIT is evidenced by common and
preferred equity. On February 22, 2001, Carolina First Bank sold 132 shares of
the REIT's Series 2000A Cumulative Fixed Rate Preferred Shares (the "Series A
Trust Preferred Stock") to an institutional buyer. On June 8, 2001, Carolina
First Bank sold 250 shares of the REIT's Series 2000B Cumulative Floating Rate
Preferred Shares (the "Series B Trust Preferred Stock") to an institutional
buyer. The Series A Trust Preferred Stock and Series B Trust Preferred Stock
have a stated value of $100,000 per share. Proceeds to Carolina First Bank from
these sales totaled approximately $37.0 million, net of issuance costs. This net
amount is reported as minority interest in consolidated subsidiary on the
consolidated balance sheet.
Dividends on the Series A Trust Preferred Stock and Series B Trust Preferred
Stock are cumulative, and will accrue whether or not the Carolina First Mortgage
Loan Trust has earnings, whether or not there are funds legally available for
the payment of such dividends, and whether or not such dividends are declared.
The dividends for the Series A Trust Preferred Stock are computed at a rate per
annum equal to 11.125% of the stated value and are payable quarterly. The
dividends for the Series B Trust Preferred Stock are computed at a rate per
annum equal to three month LIBOR plus 300 basis points of the stated value and
are payable quarterly.
The dividends earned by holders of the Series A Trust Preferred and the Series B
Trust Preferred from February 22, 2001 to June 30, 2001 amounted to $402,000
(net of related income taxes of $241,000) and have been expensed on The South
Group's consolidated statement of income.
(5) COMMITMENTS AND CONTINGENT LIABILITIES
The South Group is subject to various legal proceedings and claims, which arise
in the ordinary course of its business. Any litigation is vigorously defended by
The South Group and, in the opinion of management based on consultation with
external legal counsel, any outcome of such current litigation would not
materially affect The South Group's consolidated financial position or results
of operations.
On May 2, 2001, plaintiff Traci B. Worley filed a lawsuit against Carolina First
Bank in the United States District Court for the District of South Carolina,
Florence Division. The plaintiff claims that when she worked for Anchor
Financial she was the victim of sexual harassment, intentional infliction of
emotional distress, and negligence related to the alleged actions of a former
branch manager. The plaintiff is seeking compensatory and punitive damages in an
unspecified amount. Carolina First Bank filed its Answer on May 21, 2001, citing
the claims as baseless because of an effective anti-harassment policy in place
and prompt action after learning of the alleged behavior. The case is still in
the discovery phase and has not been set for trial. A mediator will attempt to
resolve the issues in September 2001.
On February 28, 2000, plaintiff John W. Dickens filed a breach of contract
lawsuit against Anchor Financial, subsequently acquired by The South Group, in
the Court of Common Pleas for the Fifth Judicial Circuit. The plaintiff's
amended complaint based primarily on an employment agreement sought
compensation, other benefits, and actual and punitive damages for defamation,
fraud in the inducement, negligent representation, detrimental reliance, and
alleged violations of the South Carolina Payment of Wages Act in excess of $5
million. The plaintiff was an employee of Bailey Financial Corporation, which
7
merged with Anchor Financial on April 9, 1999. Following the merger, the
plaintiff worked for Anchor Financial until the termination of his employment on
December 16, 1999. The South Group has filed counterclaims denying the
allegations and citing parachute payment limitations as specified in Section
280G of the Internal Revenue Code. The parties participated in mediation on
December 22, 2000. At the mediation, The South Group's position was that The
South Group's exposure should be limited to the largest severance payment
permitted under Internal Revenue Code Section 280G. The mediation did not
produce an agreement among parties. The South Group does not expect any
settlement or verdict to be material. The case is expected to be tried in 2002;
however, discovery has not yet been completed.
On March 2, 1998, plaintiff Charlesetta Crockett filed a lawsuit in the South
Carolina Circuit Court for Saluda County, alleging that her son and two former
officers of Midlands National Bank, prior to its merger with Carolina First
Bank, placed mortgages on her property without her knowledge or consent. The
plaintiff complains that Carolina First Bank later learned that the mortgages
were forged but did not cancel the mortgages, and instead conveyed them to the
two former Midlands National Bank officers. The plaintiff seeks to have the
mortgages set aside and to quiet her title to the property; she also seeks
actual and punitive damages and statutory penalties in unspecified amounts.
Carolina First Bank filed its Answer on October 30, 1998, denying any liability
to the plaintiff, and has defended the suit vigorously. The case is still in the
discovery phase and has not been set for trial.
On November 4, 1996, a derivative shareholder action was filed in the South
Carolina Circuit Court for Greenville County against The South Group and several
of its officers. The complaint was subsequently amended several times. The
amended complaint names as additional defendants the majority of the directors
of The South Group and Carolina First Bank. The named plaintiffs in the amended
complaints are The South Group, pursuant to Section 33-7-400 of the South
Carolina Code of Laws, by and through several named minority shareholders.
Plaintiffs allege four causes of action based generally on the payment to the
defendant officers of a bonus in stock held by The South Group in Affinity
Technology Group, Inc. ("Affinity") as a reward for their efforts in connection
with the Affinity investment, and other matters. The complaint seeks damages for
the benefit of The South Group in the amount of $32 million. The South Group
believes that this lawsuit is without merit and has defended it vigorously. The
trial court granted the Company's motion to dismiss the lawsuit on November 26,
1997. The plaintiffs appealed. On November 1, 2000, the South Carolina Court of
Appeals affirmed the dismissal of the lawsuit. The plaintiffs have sought
further review by the South Carolina Supreme Court.
(6) IMPAIRMENT OF ASSETS
Based on The South Group's acquisition activity, internal growth, and
realignment plans, certain properties will not be used for future growth.
Accordingly, The South Group reviewed for impairment long-lived assets related
to abandoned properties at Carolina First Bank. As a result of this review, in
the third quarter of 2000, The South Group recorded a pre-tax impairment loss
from the write-down of assets totaling $3,869,000. The impaired assets, which
were not sold as of June 30, 2001, were written down to their net realizable
value and classified as assets held for disposal. During the six months ended
June 30, 2001, The South Group recorded an additional impairment loss of
$215,000 to update the estimated net realizable value for the impaired assets.
The impairment loss included $82,000 for the write-down of land to fair value
and $133,000 for adjustments related to lease termination fees for four
abandoned locations. As of June 30, 2001, assets held for disposal totaled
$1,270,000.
8
(7) PER SHARE INFORMATION
Basic and diluted earnings per share have been computed based upon net income in
the accompanying consolidated statements of income divided by the weighted
average common shares outstanding or assumed to be outstanding as summarized
below:
Three Months Ended June 30,
---------------------------
2001 2000
---- ----
Basic:
Average common shares outstanding (denominator) 42,458,303 42,842,124
=============== ===============
Diluted:
Average common shares outstanding (denominator) 42,458,303 42,842,124
Dilutive common stock options and warrants 720,909 688,522
--------------- ---------------
Average diluted shares outstanding 43,179,212 43,530,646
=============== ===============
Six Months Ended June 30,
-------------------------
2001 2000
---- ----
Basic:
Average common shares outstanding (denominator) 42,441,246 42,893,484
=============== ===============
Diluted:
Average common shares outstanding (denominator) 42,441,246 42,893,484
Dilutive common stock options and warrants 706,995 686,352
--------------- ---------------
Average diluted shares outstanding 43,148,241 43,579,836
=============== ===============
(8) NEW ACCOUNTING PRONOUNCEMENTS
Effective January 1, 2001, The South Group adopted the provisions of Statement
of Financial Accounting Standards No. 133, "Accounting for Derivative
Instruments and Hedging Activities" ("SFAS 133") as amended by SFAS No. 137 and
138, which establishes accounting and reporting standards for derivatives and
hedging activities. It requires an entity to recognize all derivatives as either
assets or liabilities in the balance sheet, and measure those instruments at
fair value. Changes in the fair value of those derivatives are reported in
current earnings or other comprehensive income depending on the purpose for
which the derivative is held and whether the derivative qualifies for hedge
accounting.
At January 1, 2001, upon the adoption of SFAS 133, The South Group had the
following derivative instruments which were recorded on The South Group's
consolidated balance sheet: a warrant to purchase shares of common stock of
Affinity Technology Group, Inc. ("Affinity Warrant"), interest rate swap
agreements and fixed rate conforming residential mortgage loan commitments. The
South Group identified no embedded derivative instruments requiring separate
accounting treatment.
The cumulative effect of adopting SFAS 133 resulted in a gain of $282,000 (net
of related income taxes of $152,000) reported in the consolidated statement of
income. This gain was associated with recording the Affinity Warrant on the
consolidated balance sheet at its fair value of $434,000 on January 1, 2001. The
fair value of interest rate swap agreements that qualify as cash flow hedges,
which amounted to a loss of $70,000 as of January 1, 2001, was recorded on the
consolidated balance sheet as a charge of $44,000 (net of related taxes of
9
$26,000) to other comprehensive income. The fair value of interest rate swap
agreements that qualify as fair value hedges, which totaled $101,000 as of
January 1, 2001, was recorded on the consolidated balance sheet as a derivative
asset, included in other assets, with a corresponding adjustment to deposits.
The fair value of loan commitments was immaterial at January 1, 2001. See Note 9
herein for additional disclosures related to derivative financial instruments
and hedging activities.
(9) DERIVATIVE FINANCIAL INSTRUMENTS AND HEDGING ACTIVITIES
The South Group uses derivatives, classified as fair value hedges or cash flow
hedges, as part of its interest rate management activities. It also engages in
mortgage loan commitments as part of its mortgage banking business. Fair value
hedges are associated with a recognized fixed rate asset or liability. Cash flow
hedges hedge the variability of forecasted transactions or future cash flows of
a recognized variable rate asset or liability.
All derivatives are recognized on the consolidated balance sheet at their fair
value. On the date the derivative contract is entered into, The South Group
designates the derivative as (1) a hedge of the fair value of a recognized asset
or liability or of an unrecognized firm commitment ("fair value hedge"), (2) a
hedge of a forecasted transaction or of the variability of cash flows to be
received or paid related to a recognized asset or liability ("cash flow hedge"),
or (3) an instrument with no hedging designation. Changes in fair value for
derivatives that qualify as fair value hedges are recorded through the
consolidated statements of income. Changes in fair value for derivatives that
qualify as cash flow hedges are recorded through other comprehensive income (net
of tax) in shareholders' equity to the extent that the hedge is effective. Any
ineffective portion of the cash flow hedges is recorded through the consolidated
statements of income. Changes in the fair value of derivative instruments with
no hedging designation are recorded through the consolidated statements of
income.
At the inception of a hedge transaction, The South Group formally documents all
relationships between hedging instruments and hedged items, as well as its
risk-management objective and strategy for undertaking the hedge. This process
includes identification of the hedging instrument, hedged item, risk being
hedged and the methodology for measuring both effectiveness and ineffectiveness.
In addition, The South Group assesses, both at the inception of the hedge and on
an ongoing quarterly basis, whether the derivative used in the hedging
transaction is highly effective in offsetting changes in fair value or cash
flows of the hedged item.
The South Group discontinues hedge accounting in accordance with SFAS 133 when:
the derivative is no longer effective in offsetting changes in the fair value or
cash flows of a hedged item; the derivative expires or is sold, terminated or
exercised; the derivative is dedesignated as a hedge instrument, because it is
unlikely that a forecasted transaction will occur; or management determines that
designation of the derivative as a hedge instrument is no longer appropriate.
On February 27, 2001, The South Group exercised the Affinity Warrant and
reclassified the derivative asset as securities available for sale based on the
fair value as of the exercise date. For the three and six months ended June 30,
2001, losses of $1,000 and $98,000, respectively, were recognized in noninterest
expenses for changes in fair value related to the Affinity Warrant and
derivatives with no hedging designation.
For the three and six months ended June 30, 2001, changes in the fair value for
interest rate swaps that qualify as cash flow hedges totaled a loss of $25,000
(net of related income tax benefit of $15,000) and $271,000 (net of related
income tax benefit of $159,000), respectively, which were recorded through other
10
comprehensive income. The ineffective portion was not significant for the three
and six months ended June 30, 2001.
At June 30, 2001, the fair value of derivative assets totaled $186,000 and was
related to derivatives with no hedging designation. At June 30, 2001, the fair
value of derivative liabilities totaled $675,000 and was attributable to cash
flow hedges and fair value hedges. Loan commitments to originate fixed rate
conforming loans totaled $1.8 million at June 30, 2001, and the fair value of
these commitments was not significant. At June 30, 2001, there were no
commitments to sell fixed rate conforming loans.
(10) BUSINESS SEGMENTS
The South Group has four wholly-owned operating subsidiaries, which are
evaluated regularly by the chief operating decision maker in deciding how to
allocate resources and assess performance. Two of these subsidiaries, by virtue
of exceeding certain quantitative thresholds, are reportable segments. The
reportable segments, Carolina First Bank and Citrus Bank, engage in general
banking business focusing on commercial, consumer and mortgage lending to small
and middle market businesses and consumers in their market areas. The reportable
segments also provide demand transaction accounts and time deposit accounts to
businesses and individuals. Carolina First Bank offers products and services
primarily to customers in South Carolina, coastal North Carolina and on the
Internet. Citrus Bank offers products and services primarily to customers in its
market areas in northern and central Florida. Revenues for Carolina First Bank
and Citrus Bank are derived primarily from interest and fees on loans, interest
on investment securities and service charges on deposits. No single customer
accounts for a significant amount of the revenues of either reportable segment.
The South Group evaluates performance based on budget to actual comparisons and
segment profits. The accounting policies of the reportable segments are the same
as those described in The South Group's Annual Report on Form 10-K for the year
ended December 31, 2000.
Segment information is shown in the tables below. The "Other" column includes
all other business activities that did not meet the quantitative thresholds and
therefore are not shown as a reportable segment.
11
INCOME STATEMENT SEGMENT DATA (IN THOUSANDS)
Carolina Citrus Eliminating
First Bank Bank Other Entries Total
---------- ---- ----- ------- -----
Three Months Ended June 30, 2001:
Net interest income $ 38,739 $ 5,979 $ (757) $ - $ 43,961
Provision for loan losses 3,503 1,984 113 - 5,600
Noninterest income 9,488 874 15,266 (12,503) 13,125
Noninterest expense 31,157 4,763 12,851 (12,478) 36,293
Amortization 1,380 - 52 - 1,432
Income tax expense 5,337 38 (133) - 5,242
Minority interest in consolidated
subsidiary, net of tax (307) - - - (307)
Net income 7,923 69 1,677 (25) 9,644
Three Months Ended June 30, 2000:
Net interest income $ 39,923 $ 5,727 $ (263) $ (32) $ 45,355
Provision for loan losses 7,185 700 597 - 8,482
Noninterest income 7,676 342 11,383 (8,771) 10,630
Noninterest expense 50,572 4,902 10,748 (8,874) 57,348
Amortization 1,554 - 62 - 1,616
Income tax expense (benefit) (1,551) 165 490 - (896)
Net income (loss) (8,002) 301 (1,320) 72 (8,949)
Six Months Ended June 30, 2001:
Net interest income $ 77,087 $11,385 $ (1,565) $ - $ 86,907
Provision for loan losses 6,939 2,944 225 - 10,108
Noninterest income 18,978 1,408 32,009 (26,355) 26,040
Noninterest expense 64,001 9,410 27,352 (26,312) 74,451
Amortization 2,897 - 105 - 3,002
Income tax expense 9,368 156 468 - 9,992
Minority interest in consolidated
subsidiary, net of tax (402) - - - (402)
Cumulative effect of change in
accounting principal, net of tax - - 282 - 282
Net income 15,354 283 2,682 (43) 18,276
12
Carolina Citrus Eliminating
First Bank Bank Other Entries Total
---------- ---- ----- ------- -----
Six Months Ended June 30, 2000:
Net interest income $ 79,019 $10,781 $ 7 $ (32) $ 89,775
Provision for loan losses 10,165 1,230 1,032 - 12,427
Noninterest income 16,048 842 24,358 (17,904) 23,344
Noninterest expense 82,234 9,237 21,481 (17,935) 95,017
Amortization 3,109 - 115 - 3,224
Income tax expense 2,494 408 1,319 - 4,221
Net income (23) 747 730 - 1,454
BALANCE SHEET SEGMENT DATA (IN THOUSANDS)
Carolina Citrus Eliminating
First Bank Bank Other Entries Total
---------- ---- ----- -------
June 30, 2001:
Total assets $ 4,880,808 $ 701,888 $ 601,089 $ (690,218) $ 5,493,567
Loans - net of unearned income 3,214,070 582,562 5,813 - 3,802,445
Deposits 3,184,203 495,737 - (23,524) 3,656,416
June 30, 2000:
Total assets $ 4,640,184 $ 459,262 $ 572,894 $ (586,208) $ 5,086,132
Loans - net of unearned income 3,186,035 385,344 13,323 - 3,584,702
Deposits 3,375,131 344,666 - (14,501) 3,705,296
(11) MANAGEMENT'S OPINION
The financial statements in this report are unaudited, except for the
consolidated balance sheet at December 31, 2000. In the opinion of management,
all adjustments necessary to present a fair statement of the results for the
interim periods have been made. All such adjustments are of a normal, recurring
nature.
13
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS
The following discussion and analysis should be read in conjunction with the
consolidated financial statements and related notes and with the statistical
information and financial data appearing in this report as well as the Annual
Report of The South Financial Group, Inc. ("The South Group", "we", "us", or
"our") on Form 10-K for the year ended December 31, 2000. Results of operations
for the three and six month periods ended June 30, 2001 are not necessarily
indicative of results that may be attained for any other period.
The South Group, a South Carolina corporation headquartered in Greenville, South
Carolina, is a financial institution holding company, which commenced banking
operations in December 1986, and conducted business through 74 locations in
South Carolina, 5 locations in North Carolina and 15 locations in northern and
central Florida as of June 30, 2001. The South Group operates through the
following principal subsidiaries: Carolina First Bank, a South Carolina
state-chartered commercial bank; Citrus Bank, a Florida state-chartered
commercial bank; and Carolina First Mortgage Company ("CF Mortgage"), a mortgage
banking company. Through our subsidiaries, we provide a full range of banking
services, including mortgage, trust and investment services, designed to meet
substantially all of the financial needs of our customers.
Prior year amounts, except cash dividends declared per common share, have been
restated to reflect prior acquisitions, including the June 6, 2000 merger with
Anchor Financial Corporation ("Anchor Financial"), the largest merger in our
history. The merger was accounted for as a pooling-of-interests. Percentage
calculations contained herein have been calculated based upon actual, not
rounded, results.
FORWARD-LOOKING STATEMENTS
This report contains certain forward-looking statements (as defined in the
Private Securities Litigation Reform Act of 1995) to assist in the understanding
of anticipated future operating and financial performance, growth opportunities,
growth rates, and other similar forecasts and statements of expectations. These
forward-looking statements reflect current views, but are based on assumptions
and are subject to risks, uncertainties and other factors, which may cause
actual results to differ materially from those in such statements. These factors
include, but are not limited to, the following: risks from changes in economic,
monetary policy and industry conditions; changes in interest rates, deposit
rates, the net interest margin and funding sources; market risk; inflation;
risks inherent in making loans including repayment risks and value of
collateral; loan growth; adequacy of the allowance for loan losses and the
assessment of problem loans; fluctuations in consumer spending; the demand for
our products and services; dependence on senior management; technological
changes; ability to increase market share; expense projections; estimates of
impairment loss; acquisitions; risks, realization of costs savings and total
financial performance associated with our merger with Anchor Financial; changes
in accounting policies and practices; costs and effects of litigation; and
recently-enacted or proposed legislation.
Such forward-looking statements speak only as of the date on which such
statements are made. We undertake no obligation to update any forward-looking
statement to reflect events or circumstances after the date on which such
statement is made to reflect the occurrence of unanticipated events. In
addition, certain statements in future filings by us with the Securities and
Exchange Commission, in press releases and in oral and written statements made
by or with the approval of The South Group which are not statements of
historical fact constitute forward-looking statements.
14
EARNINGS REVIEW
OVERVIEW
Net income for the six months ended June 30, 2001 was $18.3 million, or $0.42
per diluted share. For the six months ended June 30, 2000, net income totaled
$1.5 million, or $0.03 per diluted share, which included $22.9 million for
pre-tax merger-related charges (which included an additional loss provision to
apply the reserve analysis methodology to Anchor Financial's loan portfolio).
Net income for the six months ended June 30, 2001 included the following pre-tax
other items: $1.2 million loss on disposition of assets and liabilities, $1.0
million gain on equity investments, $413,000 recovery of merger-related costs
related to the sale of real estate, $403,000 gain on sale of available for sale
securities and $215,000 impairment loss from write-down of assets. For the first
six months of 2000, net income included the following pre-tax other items: $19.9
million for restructuring and merger-related costs, $3.0 million loan loss
provision to apply the reserve analysis methodology to Anchor Financial's loan
portfolio, $2.5 million gain associated with the sale of equity investments,
$839,000 for system conversion costs and $106,000 gain on disposition of assets
and liabilities. Other key factors responsible for The South Group's results of
operations are discussed throughout Management's Discussion and Analysis below.
At June 30, 2001, The South Group had approximately $5.5 billion in assets, $3.8
billion in loans, $3.7 billion in deposits and $485.8 million in shareholders'
equity. At June 30, 2001, our ratio of nonperforming assets to loans and other
real estate owned was 1.08%.
NET INTEREST INCOME
Net interest income is the difference between the interest earned on assets and
the interest paid for the liabilities to support such assets as well as such
items as loan fees and dividend income. The net interest margin measures how
effectively a company manages the difference between the yield on earning assets
and the rate paid on funds to support those assets. Fully tax-equivalent net
interest income adjusts the yield for assets earning tax-exempt income to a
comparable yield on a taxable basis. Table 1 presents average balance sheets and
a net interest income analysis on a tax equivalent basis for the three and six
months ended June 30, 2001 and 2000.
15
Table 1
- ------------------------------------------------------------------------------------------------------
COMPARATIVE AVERAGE BALANCES - YIELDS AND COSTS
- ------------------------------------------------------------------------------------------------------
(dollars in thousands)
Three Months Ended June 30,
-------------------------------------------------------------------
2001 2000
----------------------------------- -----------------------------
Average/ Income/ Yield/ Average/ Income/ Yield/
Balance Expense Rate Balance Expense Rate
------- ------- ---- ------- ------- ----
ASSETS
Earning assets
Loans (net of unearned income(1) $ 3,772,618 $80,415 8.55% $ 3,507,547 $81,019 9.29 %
Investment securities (taxable) 978,738 15,670 6.42 796,495 13,727 6.93
Investment securities
(nontaxable)(2) 79,644 1,468 7.39 88,745 1,736 7.87
Federal funds sold - - - 10,316 131 5.11
Interest-bearing bank balances 24,174 360 5.97 18,435 393 8.57
------------ ------- ----------- -------
Total earning assets 4,855,174 97,913 8.09 4,421,538 97,006 8.82
------- -------
Non-earning assets 522,837 514,355
------------ -----------
Total assets $ 5,378,011 $ 4,935,893
============ ===========
LIABILITIES AND SHAREHOLDERS' EQUITY
Liabilities
Interest-bearing liabilities
Interest-bearing deposits
Interest checking $ 586,567 3,831 2.62 $ 587,277 4,113 2.82
Savings 114,033 629 2.21 144,526 944 2.63
Money market 726,923 7,083 3.91 662,809 8,534 5.18
Time deposits 1,833,601 28,539 6.24 1,680,130 24,195 5.79
------------ ------- ----------- -------
Total interest-bearing deposits 3,261,124 40,082 4.93 3,074,742 37,786 4.94
Borrowings 1,054,261 13,356 5.08 802,943 12,880 6.45
------------ ------- ----------- -------
Total interest-bearing 4,315,385 53,438 4.97 3,877,685 50,666 5.26
liabilities ------- -------
Noninterest-bearing liabilities
Noninterest-bearing deposits 471,633 539,009
Other noninterest liabilities 108,338 37,322
------------ -----------
Total liabilities 4,895,356 4,454,016
Shareholders' equity 482,655 481,877
------------ -----------
Total liabilities and $ 5,378,011 $ 4,935,893
shareholders' equity ============ ===========
Net interest margin $44,475 3.67% $46,340 4.22 %
======= =======
Tax equivalent adjustment (2) $ 514 $ 985
======= =======
(1) Nonaccrual loans are included in average balances for yield computations.
(2) The tax equivalent adjustment to net interest income adjusts the yield for assets earning tax-exempt income to a
comparable yield on a taxable basis.
Note: Average balances are derived from daily balances.
16
Table 1 (Continued)
COMPARATIVE AVERAGE BALANCES - YIELDS AND COSTS
(dollars in thousands)
Six Months Ended June 30,
---------------------------------------------------------------
2001 2000
------------------------------- ---------------------------
Average/ Income/ Yield/ Average/ Income/ Yield/
Balance Expense Rate Balance Expense Rate
------- ------- ----- ------- ------- ----
ASSETS
Earning assets
Loans (net of unearned income)(1) $ 3,760,969 $165,821 8.89 % $ 3,421,925 $156,653 9.21 %
Investment securities (taxable) 900,545 29,167 6.53 803,864 27,130 6.79
Investment securities (nontaxable)(2) 82,127 3,022 7.42 91,262 3,229 7.12
Federal funds sold 185 5 5.25 11,820 281 4.78
Interest-bearing bank balances 31,778 963 6.11 19,537 751 7.73
------------ ------- ----------- --------
Total earning assets 4,775,604 198,978 8.40 4,348,408 188,044 8.70
------- --------
Non-earning assets 522,143 526,275
------------ -----------
Total assets $ 5,297,747 $ 4,874,683
============ ===========
LIABILITIES AND SHAREHOLDERS' EQUITY
Liabilities
Interest-bearing liabilities
Interest-bearing deposits
Interest checking $ 578,925 8,214 2.86 $ 591,986 8,423 2.86
Savings 114,624 1,317 2.32 145,494 1,898 2.62
Money market 730,996 15,504 4.28 650,954 16,119 4.98
Time deposits 1,889,093 59,953 6.40 1,661,282 46,970 5.69
------------ ------- ---------- --------
Total interest-bearing deposits 3,313,638 84,988 5.17 3,049,716 73,410 4.84
Borrowings 956,513 26,025 5.49 765,338 23,547 6.19
------------ ------- ---------- -------
Total interest-bearing liabilities 4,270,151 111,013 5.24 3,815,054 96,957 5.11
------- -------
Noninterest-bearing liabilities
Noninterest-bearing deposits 453,971 530,030
Other noninterest liabilities 91,722 47,870
------------ -----------
Total liabilities 4,815,844 4,392,954
------------
Shareholders' equity 481,903 481,729
------------ -----------
Total liabilities and shareholders' $'5,297,747 $ 4,874,683
equity ============ ===========
Net interest margin $87,965 3.71 % $91,087 4.21 %
======= ========
Tax equivalent adjustment (2) $ 1,058 $ 1,312
======= ========
(1) Nonaccrual loans are included in average balances for yield computations.
(2) The tax equivalent adjustment to net interest income adjusts the yield for assets earning tax-exempt income to a
comparable yield on a taxable basis.
Note: Average balances are derived from daily balances.
17
Tax equivalent net interest income decreased $3.1 million, or 3.4%, to $88.0
million in the first six months of 2001 from $91.1 million in the first six
months of 2000. This decrease was due to increased interest expense related to
higher deposit and borrowing costs. This decrease was partially offset by a
higher level of average earning assets in the first six months of 2001. The
growth in average earning assets, which increased $427.2 million, or 9.8%, to
$4.8 billion in the first six months of 2001 from $4.3 billion in the first six
months of 2000, resulted primarily from internally generated loan growth.
Average loans, net of unearned income, were $3.8 billion in the first six months
of 2001 compared with $3.4 billion in the first six months of 2000.
The net interest margin of 3.71% for the first half of 2001 was lower than the
margin of 4.21% for the first half of 2000. The decline in the net interest
margin was due to a decline in the earning asset yield, more expensive funding
sources and lower noninterest-bearing deposit balances. The earning asset yield
declined to 8.40% in the first half of 2001 from 8.70% in the first half of
2000. This decline was largely due to rate reductions in the first six months of
2001 by the Federal Reserve, which totaled 275 basis points. Despite the falling
rate environment in 2001, the overall funding source rate increased to 5.24% for
the first six months of 2001 from 5.11% in the first six months of 2000. The
increase in the funding source rate resulted principally from increased reliance
on borrowings to fund earning asset growth and targeted deposit promotions to
attract and retain customers. The deposit markets were very competitive and are
expected to remain so going forward.
During 2000, Carolina First Bank and Citrus Bank held certificate of deposit
promotions designed to build customer loyalty and expand our customer base.
Also, in the fall of 2000, Carolina First Bank held a deposit promotion in its
coastal markets to ensure retention of customers following the Anchor Financial
merger. This promotion generated approximately $200 million of one-year
certificates of deposit with an annualized percentage yield of 7.50%. Citrus
Bank's promotions generated approximately $80 million in certificates of deposit
with an average annualized percentage yield of 7.44%. As a result of the 275
basis point decline in interest rates in the first half of 2001, the current
market rates for similar certificates of deposits are significantly lower than
these promotional rates. Accordingly, we expect our net interest margin to
benefit from the maturity of these certificates of deposit, which is
concentrated in the fourth quarter of 2001.
Deposits generated through Bank CaroLine, an Internet bank, generally pay higher
rates than those offered by our branch locations. During the first half of 2001,
The South Group priced the Bank CaroLine deposits less aggressively than it did
in 2000 in an effort to lower the overall cost of funds. Bank CaroLine deposits
totaled $155.1 million as of June 30, 2001 compared with $221.2 million and
$138.5 million as of December 31, 2000 and June 30, 2000, respectively.
The net interest margin declined slightly from the first quarter of 2001 to the
second quarter of 2001 with margins of 3.76% and 3.67%, respectively. The
decline in the net interest margin reflected the impact of continued rate cuts
by the Federal Reserve and the reversal of accrued interest income related to an
increase in nonaccrual loans. See "Credit Quality." When loans are placed in
nonaccrual status, the interest income, which has accrued up to that date, is
reversed out of loan income.
As the Federal Reserve continued to lower interest rates during the second
quarter of 2001, the majority of our variable rate loans, which constitute
approximately 46% of the loan portfolio, repriced downward immediately. While we
continued with our prompt downward repricing of interest-bearing deposits, the
magnitude of the repricing did not completely compensate for the declines in the
earning asset yield. Continued declines in interest rates would put pressure on
The South Group's net interest margin due to the competitive deposit markets and
deposit pricing levels.
18
PROVISION FOR LOAN LOSSES
The provision for loan losses was $10.1 million for the first six months of
2001, a decrease of $2.3 million from the $12.4 million recorded for the first
six months of 2000. The provision for loan losses in 2000 included $3.0 million
made during the second quarter when The South Group's reserve analysis
methodology was employed to determine reserve requirements for Anchor
Financial's loan portfolio.
Based on management's analysis of reserve adequacy, the allowance for loan and
lease losses (the "Allowance") as a percentage of loans held for investment
totaled 1.18% and 1.17% as of June 30, 2001 and 2000, respectively. During this
period, nonperforming loans increased by $16.8 million, or 92%. While
nonperforming loans increased significantly, specific reserves allocated to
commercial nonaccrual loans, based upon management's estimation of the
impairment calculated pursuant to SFAS 114, did not increase proportionately.
Specific reserves allocated to commercial nonaccrual loans totaled $6.8 million,
20.7% of the total, and $4.4 million, 26.4% of the total, as of June 30, 2001
and 2000, respectively.
Net charge-offs for the first half of 2001, which totaled $9.3 million, were
$4.9 million higher than the $4.4 million charged off during the first half of
2000. As a percentage of average loans, the net charge-off ratio was 0.49% for
the first six months of 2001 compared with 0.26% for the same period last year.
Net loan charge-offs during the second quarter of 2001 included higher than
normal losses in the consumer loan portfolio.
NONINTEREST INCOME
Noninterest income increased to $26.0 million in the first six months of 2001
from $23.3 million in the first six months of 2000. Noninterest income included
net gains on asset sales in the first half of 2001 and 2000. During the six
months ended June 30, 2001, noninterest income included a $1.2 million loss on
disposition of assets and liabilities, $1.0 million gain on equity investments
and $403,000 gain on sale of available for sale securities. The loss on the
disposition of assets and liabilities related to a $970,000 loss associated with
the sale of four branch office locations, which closed in July 2001, and a
$262,000 loss associated with the sale-leaseback of a branch office. The gain on
equity investments included $1.1 million from the marking to estimated fair
value and subsequent sale of an investment in Concord EFS Inc. and $63,000 gain
from the sale of Affinity Technology Group, Inc. ("Affinity") common stock.
These gains were partially offset by a $200,000 loss associated with the
write-down of an Internet-related investment. In the first six months of 2000,
we recognized a $2.5 million net gain from equity investments and sold a branch
office for a $106,000 gain. Excluding these net gains on asset sales from both
periods, noninterest income increased $5.1 million, or 25%, to $25.9 million for
the first six months of 2001 from $20.8 million for the first six months of
2000.
Service charges on deposit accounts, the largest contributor to noninterest
income, rose 10% to $9.2 million in the first six months of 2001 from $8.3
million for the same period in 2000. Average deposits, which impact service
charges, increased approximately 5% for the same period. The increase in service
charges was attributable to attracting new transaction accounts and improved
collection of fees. In addition, effective July 1, 2000, we increased certain
deposit service charges to reflect competitive pricing.
Mortgage banking income includes origination fees, gains from the sale or
securitization of loans, losses from the sale and valuation of mortgage
servicing rights and servicing fees (net of the related amortization for the
mortgage servicing rights and subservicing payments). Mortgage banking income in
the first six months of 2001 increased $1.3 million to $4.3 million from $3.0
million in the first six months of 2000. The increase in the first six months of
19
2001 was primarily related to a gain from the securitization of mortgage loans,
which was partially offset by a loss from the sale of mortgage servicing rights
and a write-down in the value of servicing rights.
The South Group continued its efforts to realign its mortgage banking strategy
to place more emphasis on mortgage originations. In connection with these
on-going efforts, we securitized mortgage loans, sold mortgage loans and sold
mortgage-servicing rights. In March 2001, we securitized approximately $112.2
million of mortgage portfolio loans and subsequently sold $80.4 million of these
mortgage-backed securities. This transaction resulted in a $1.6 million gain,
which included $634,000 associated with recording the related mortgage-servicing
asset. In July 2001, we sold approximately $71.6 million of mortgage loans,
which were included in loans available for sale as of June 30, 2001, for a
nominal gain. In the first half of 2001, The South Group recorded $546,000 in
losses from the March 2001 sale of mortgage servicing rights related to
approximately $949 million in mortgage loans. The South Group also recorded a
$280,000 charge for the write-down in the value of capitalized mortgage
servicing rights due to falling interest rates.
Mortgage originations totaled approximately $186 million and $157 million in the
first six months of 2001 and 2000, respectively. Mortgage originations are net
of mortgage loans acquired through acquisition. Mortgage origination volumes
increased in the first half of 2001 due to lower mortgage loan rates and the
hiring of additional mortgage originators.
The servicing operations of CF Mortgage consist of servicing mortgage loans that
are owned by Carolina First Bank and subservicing loans, to which the rights to
service are owned by Carolina First Bank or other non-affiliated financial
institutions. At June 30, 2001, CF Mortgage was servicing or subservicing 20,688
loans having an aggregate principal balance of approximately $1.9 billion. This
balance included approximately $895 million for which the related mortgage
servicing rights were sold in March 2001, which CF Mortgage continued to
subservice until July 2001. Fees related to the servicing portfolio from
non-affiliated companies are offset by the related amortization for the mortgage
servicing rights and subservicing payments. Servicing income does not include
the benefit of interest-free escrow balances related to mortgage loan-servicing
activities.
Fees for investment services, which include trust and brokerage income, in the
first six months of 2001 and 2000 were approximately $2.8 million and $2.9
million, respectively. During this period, trust income declined approximately
$222,000, and brokerage income increased approximately $98,000. At June 30, 2001
and 2000, the market value of assets administered by the trust department
totaled approximately $769 million and $735 million, respectively. The decline
in trust income was largely related to slower new fee production from vacancies
in salesperson positions, which we recently filled.
Other noninterest income totaled $9.5 million in the first six months of 2001,
compared with $6.4 million in the first six months of 2000. Other noninterest
income included income related to credit and debit cards, merchant banking,
insurance commissions, increases in cash value of bank-owned life insurance
policies, international banking services and other fee-based services. The
increase in other noninterest income was largely due to increases in merchant
processing fees and increases in cash value related to bank-owned life
insurance.
In the first quarter of 2001, Carolina First Bank entered into an agreement to
sell branch offices in Bennettsville, Lugoff, Liberty and McColl, South
Carolina. This transaction closed in July 2001, and a loss of $970,000 was
recognized during the second quarter 2001 to record the assets at their net
realizable value. The loss was related to the write-off of intangible assets
associated with the branches sold. The sale of branch offices in less populated
and slower-growing markets is part of The South Group's goal to increase the
average deposits per branch to $40 million.
20
NONINTEREST EXPENSES
Noninterest expenses decreased to $74.5 million in the first six months of 2001
from $95.0 million in the first six months of 2000. Noninterest expenses in the
first half of 2001 included $413,000 in restructuring and merger-related
recoveries, which related to the sale of real estate at prices higher than
estimated, and a $215,000 impairment loss from the write-down of assets, which
was primarily related to lease termination fees for abandoned locations.
Noninterest expenses in the first half of 2000 included $19.9 million in
restructuring and merger-related costs and $839,000 in system conversion costs.
Excluding these other items, noninterest expenses were basically unchanged at
$74.6 million and $74.3 million for the first six months of 2001 and 2000,
respectively.
Personnel expense decreased to $36.5 million in the first six months of 2001
from $38.0 million in the first six months of 2000. Full-time equivalent
employees decreased to 1,381 at June 30, 2001 from 1,481 at June 30, 2000. The
number of full-time equivalent employees declined 100 primarily from the
elimination of redundant positions associated with the Anchor Financial merger.
Occupancy and furniture and equipment expenses increased $1.1 million to $13.9
million in the first six months of 2001 from $12.8 million in the first six
months of 2000. This increase resulted principally from higher computer
equipment fees and capitalized software amortization associated with the new
core operating system. The South Group continues to dispose of real estate in
connection with the Anchor Financial merger. Occupancy expenses have declined
primarily from the elimination of rent and maintenance agreements associated
with disposed properties.
Other noninterest expenses increased $934,000 to $21.2 million in the first half
of 2001 from $20.3 million in the first half of 2000. The overall increase in
other noninterest expenses was principally attributable to the overhead and
operating expenses associated with increased lending and deposit activities. The
largest items of other noninterest expense were telecommunications, advertising,
professional and outside servicing fees, stationery, supplies and printing.
SYSTEM CONVERSION COSTS
From March 2000 to July 2000, The South Group and its subsidiaries converted
their operating systems to the Fiserv Comprehensive Banking System.
During 2000, as a result of the system conversion process, and the related
training involved with learning a new system, certain outstanding items on the
general ledger, including loan funding and demand deposit account
reconciliations, were not resolved in a timely manner. While the majority of the
outstanding items have been resolved, The South Group has $160,000 remaining as
of June 30, 2001 from the accrual to cover estimated potential charge-offs
associated with the remaining outstanding items. At this time, we do not
anticipate any further material changes to our consolidated financial position
or results of operations related to these reconciliations.
During the first six months of 2001, The South Group charged $540,000, against
the $700,000 accrual, related to reconciliations associated with the system
conversion. The South Group expects the remaining $160,000 of accrued expenses
to be sufficient to cover any additional charge-offs in 2001.
21
SECOND QUARTER RESULTS
Net income for the three months ended June 30, 2001 was $9.6 million, or $0.22
per diluted share. For the three months ended June 30, 2000, The South Group
reported a net loss of $8.9 million, or $0.21 per diluted share, which included
$22.9 million for pre-tax merger-related charges (which included an additional
loan loss provision to apply the reserve analysis methodology to Anchor
Financial's loan portfolio).
Net income for the three months ended June 30, 2001 included a $970,000 pre-tax
loss associated with the July 2001 sale of four branch offices and a $181,000
pre-tax net gain on equity investments. For the three months ended June 30,
2000, the net loss included the following pre-tax other items: $19.9 million for
restructuring and merger-related costs, $3.0 million loan loss provision to
apply the reserve analysis methodology to Anchor Financial's loan portfolio,
$459,000 in system conversion costs, $187,000 net gain on equity investments and
$106,000 gain on the sale of a branch office.
Net interest income decreased $1.4 million to $44.0 million for the three months
ended June 30, 2001 from $45.4 million for the comparable period in 2000. The
second quarter 2001 net interest margin decreased to 3.67% compared with 4.22%
for the second quarter of 2000. The decline was related to higher rates paid on
certificates of deposit from targeted deposit promotions, increased reliance on
borrowings to fund earning asset growth and lower noninterest-bearing deposit
balances. A higher level of average earning assets, which increased 10% to $4.9
billion for the second quarter of 2001 from $4.4 billion for the second quarter
of 2000, partially offset the decline.
Noninterest income, excluding the net gains on asset sales described above,
increased 35% to $13.9 million for the second quarter of 2001 compared with
$10.3 million for the second quarter of 2000. Service charges on deposit
accounts, mortgage banking income, merchant processing fees and increases in
cash value related to bank-owned life insurance contributed to this increase.
Noninterest expenses, excluding the other items described above, declined 2% to
$36.3 million for the second quarter of 2001 from $37.0 million for the second
quarter 2000. This decline reflected on-going efforts to control expenses and
the achievement of cost savings, particularly related to personnel expenses and
occupancy, from the June 2000 merger with Anchor Financial.
BALANCE SHEET REVIEW
LOANS
At June 30, 2001, The South Group had total loans outstanding of $3.8 billion,
which equaled 104% of our total deposits and 69% of our total assets. Loans are
the largest category of earning assets and produce the highest yields. The loan
portfolio consists principally of commercial real estate loans, commercial
loans, consumer loans (including both direct and indirect loans) and one-to-four
family residential mortgage loans. Substantially all loans are to borrowers
domiciled in our market areas in South Carolina, Florida and North Carolina. The
portfolio does not contain any foreign loans or any Highly Leveraged
Transactions, as defined by regulatory authorities.
Table 2 summarizes loans outstanding and percentage of loans in each category,
showing the composition sorted by collateral type.
22
Table 2
- -------------------------------------------------------------------------------------------------------------------
LOAN PORTFOLIO COMPOSITION
- -------------------------------------------------------------------------------------------------------------------
(dollars in thousands)
June 30, December 31,
----------------------------------------
2001 2000 2000
---- ---- ----
Commercial, financial and agricultural $ 675,906 $ 560,217 $ 561,360
Real estate - construction 485,928 432,424 458,577
Real estate - residential mortgages
(1-4 family) 725,052 912,588 890,693
Commercial secured by real estate (1) 1,320,084 1,216,881 1,348,604
Consumer 509,138 445,455 460,668
Lease financing receivables 1,686 8,350 4,186
------------------ ----------------- -----------------
Loans held for investment 3,717,794 3,575,915 3,724,088
Loans held for sale 85,416 11,957 12,630
------------------ ----------------- -----------------
Total gross loans 3,803,210 3,587,872 3,736,718
Unearned income 765 3,170 1,536
Allowance for loan losses 43,765 41,742 43,024
------------------ ----------------- -----------------
Total net loans $ 3,758,680 $ 3,542,960 $ 3,692,158
================== ================= =================
- -------------------------------------------------------------------------------------------------------------------
PERCENTAGE OF LOANS HELD FOR INVESTMENT IN CATEGORY
- -------------------------------------------------------------------------------------------------------------------
June 30, December 31,
----------------------------------------
2001 2000 2000
---- ---- ----
Commercial, financial and agricultural 18.18 % 15.67 % 15.07 %
Real estate - construction 13.07 12.09 12.31
Real estate - residential mortgages
(1-4 family) 19.50 25.52 23.92
Commercial secured by real estate (1) 35.51 34.03 36.22
Consumer 13.69 12.46 12.37
Lease financing receivables 0.05 0.23 0.11
------------------ ----------------- -----------------
Total 100.00 % 100.00 % 100.00 %
================== ================= =================
(1) This category includes loans to businesses other than real estate companies where owner-occupied
real estate is pledged on loans to finance operations, equipment and facilities. At June 30, 2001,
such loans were approximately half of the category total.
From December 31, 2000 to June 30, 2001, commercial, financial and agricultural
loans grew 20.4%, primarily from diversification strategies designed to reduce
the relative portfolio concentration in real estate secured commercial loans.
The consumer loan growth of 10.5% was primarily in indirect auto loans (loans
purchased from car dealers) at Citrus Bank. The construction growth of 6.0% was
primarily composed of single-family residential development and construction
loans at Citrus Bank.
23
In March 2001, The South Group securitized approximately $112.2 million of
residential mortgage loans from the held for investment portfolio and
subsequently sold $80.4 million of these mortgage-backed securities. The
remaining $31.8 million of mortgage-backed securities was included in our
securities available for sale. In connection with this transaction, we recorded
a $1.6 million gain, which was included in mortgage banking income. In June
2001, The South Group transferred approximately $75.0 million of residential
mortgage loans from the held for investment portfolio to loans held for sale. In
July 2001, we sold $71.6 million of these residential mortgage loans for a
nominal gain.
The South Group's loans held for investment, net of unearned income increased
$144.0 million, or 4.0%, to approximately $3.7 billion at June 30, 2001 from
$3.6 billion at June 30, 2000. Loans held for investment, net of unearned income
declined slightly from December 31, 2000 due to the March 2001 securitization of
approximately $112.2 million of residential mortgage loans and the June 2001
transfer of approximately $75.0 million of residential mortgage loans to loans
held for sale. Adjusting for the mortgage loan securitization and transfer to
loans held for sale, loans held for investment, net of unearned income increased
approximately $181.7 million, or an annualized rate of 10.3%, for the first six
months of 2001. The majority of the loan growth was from commercial loans.
For the first half of 2001, loans averaged $3.8 billion with a yield of 8.89%
compared with $3.4 billion and a yield of 9.21% for the same period in 2000. The
interest rates charged on loans vary with the degree of risk, maturity and
amount of the loan. Competitive pressures, money market rates, availability of
funds and government regulations also influence interest rates.
ALLOWANCE FOR LOAN LOSSES
The adequacy of the Allowance is analyzed on a quarterly basis. For purposes of
this analysis, adequacy is defined as a level sufficient to absorb probable
losses in the portfolio. The methodology employed for this analysis is as
follows.
The portfolio is segregated into risk-similar segments for which historical loss
ratios are calculated and adjusted for identified changes in current portfolio
characteristics. Loss ratios are calculated by product type for consumer loans
and by risk grade for commercial loans. Large problem commercial loans are
individually assessed for impairment under SFAS 114. To allow for modeling
error, a range of probable loss ratios is then derived for each segment at plus
and minus five percent of the adjusted historical loss ratio. The resulting
percentages are then applied to the dollar amounts of loans in each segment to
arrive at each segment's range of probable loss levels.
The Allowance for each portfolio segment is set at an amount within its range
that reflects management's best judgment of the extent to which historical loss
levels are more or less accurate indicators of current losses in the portfolio.
Management's judgments evolve from an assessment of various issues, including
but not limited to the pace of loan growth, emerging portfolio concentrations,
risk management system changes, entry into new markets, new product offerings,
loan portfolio quality trends, and uncertainty in current economic and business
conditions.
Assessing the adequacy of the Allowance is a process that requires considerable
judgment. Management's judgments are based on numerous assumptions about current
events, which it believes to be reasonable, but which may or may not be valid.
Thus, there can be no assurance that loan losses in future periods will not
exceed the Allowance or that future increases in the Allowance will not be
required. No assurance can be given that management's ongoing evaluation of the
loan portfolio in light of changing economic conditions and other relevant
circumstances will not require significant future additions to the Allowance,
thus adversely affecting the operating results of The South Group.
24
The Allowance is also subject to examination and adequacy testing by regulatory
agencies, which may consider such factors as the methodology used to determine
the adequacy and the size of the Allowance relative to that of peer
institutions, and other adequacy tests. In addition, such regulatory agencies
could require us to adjust our Allowance based on information available to them
at the time of their examination.
As of June 30, 2001 and December 31, 2000, the Allowance totaled $43.8 million
and $43.0 million, respectively, or 1.18% and 1.16%, respectively, of loans held
for investment net of unearned income. During the first quarter of 2001, the
Allowance was reduced $101,000 as a consequence of the sale of residential
mortgage loans. The Allowance to nonperforming loans ratio was 1.24 times and
2.34 times at June 30, 2001 and December 31, 2000, respectively. Nonperforming
loans increased to $35.2 million as of June 30, 2001 from $18.4 million as of
December 31, 2000. See "Credit Quality." Our analysis of Allowance adequacy
includes an impairment analysis for each nonperforming commercial loan.
Table 3 summarizes the changes in the Allowance.
Table 3
- ---------------------------------------------------------------------------------------------------------------------
SUMMARY OF LOAN LOSS EXPERIENCE
- ---------------------------------------------------------------------------------------------------------------------
(dollars in thousands)
At and for At and for
the six months the year ended
ended June 30, December 31,
-------------------------------------
2001 2000 2000
---- ---- ----
Loan loss reserve at beginning of year $ 43,024 $ 33,756 $ 33,756
Allowance adjustment for loans sold (101) - (252)
Net charge-offs:
Loans charged-off (10,813) (5,638) (16,073)
Loans recovered 1,547 1,197 2,215
--------------- --------------- --------------------
(9,266) (4,441) (13,858)
Additions to reserve through provision
expense 10,108 12,427 23,378
--------------- --------------- --------------------
Loan loss reserve at end of period $ 43,765 $ 41,742 $ 43,024
=============== =============== ====================
Average loans $ 3,760,969 $ 3,421,925 $ 3,545,336
Loans held for investment, net of
unearned income (period end) 3,717,029 3,572,745 3,722,552
Net charge-offs as a percentage of
average loans (annualized) 0.49 % 0.26 % 0.39
Allowance for loan losses as a percentage
of loans excluding loans held for sale 1.18 1.17 1.16
25
The following summarizes impaired loan information (in thousands), all of which
are on nonaccrual, at and for the six months ended June 30:
2001 2000
---- ----
Impaired loans $32,837 $ 16,763
Average investment in impaired loans 22,405 13,656
Related allowance 6,806 4,424
Recognized interest income 236 170
Foregone interest 1,491 483
Nonaccrual loans were $35.2 million and $18.3 million as of June 30, 2001 and
2000, respectively. Interest income recognized on nonaccrual loans totaled
approximately $236,000 and $185,000 for the six months ended June 30, 2001 and
2000, respectively.
SECURITIES
At June 30, 2001, The South Group's investment portfolio totaled $1.1 billion,
up $200.9 million from the $918.1 million invested as of June 30, 2000 and up
$219.5 million from the $899.5 million invested as of December 31, 2000.
Securities (i.e., securities held for investment, securities available for sale,
and trading securities) averaged $982.7 million in the first half of 2001, up
10% from the $895.1 million average in the first half of 2000. A significant
portion of the increase was attributable to the purchase of securities to match
fund against additional borrowings.
The average portfolio yield decreased in the first six months of 2001 to 6.61%
from 6.82% in the first six months of 2000. The securities yield decreased due
to a lower level of general interest rates. During the first half of 2001, due
to the declining interest rate environment, U.S. government agencies were called
prior to the stated maturities, and prepayments associated with mortgage-backed
securities accelerated. The agency securities, which were called during the
first six months of 2001, were replaced primarily with mortgage-backed
securities to further enhance portfolio yields. The composition of the
investment portfolio as of June 30, 2001 follows: mortgage-backed securities
76%, treasuries and agencies 7%, state and municipalities 7%, and other
securities 10% (which included equity investments described below).
EQUITY INVESTMENTS
Investment in Net.B@nk, Inc. At June 30, 2001, The South Group owned 1,175,000
shares of Net.B@nk, Inc. ("Net.B@nk") common stock, or approximately 4% of the
outstanding shares. Net.B@nk owns and operates Net.B@nk, F.S.B., an FDIC-insured
federal savings bank that provides banking services to consumers utilizing the
Internet. The South Group's investment in Net.B@nk, which is included in
securities available for sale and has a basis of approximately $326,000, had a
pre-tax market value of approximately $13.3 million as of June 30, 2001. The
South Group's shares of Net.B@nk common stock are "restricted" securities, as
that term is defined in federal securities law.
Investment in Affinity Technology Group, Inc. At June 30, 2001, The South Group,
through its subsidiary Blue Ridge Finance Company, Inc. ("Blue Ridge"), owned
4,876,340 shares of common stock of Affinity, or approximately 12% of the
outstanding shares. The South Group's investment in Affinity, which is included
in securities available for sale and has a basis of approximately $433,000, had
a pre-tax market value of approximately $341,000 as of June 30, 2001. During the
first half of 2001, we sold approximately 348,000 shares of Affinity common
stock for a pre-tax gain of $63,000. The South Group's shares in Affinity are
"restricted" securities, as that term is defined in federal securities law.
26
At December 31, 2000, The South Group owned a warrant to purchase 3,471,340
shares of Affinity common stock for approximately $0.0001 per share ("Affinity
Warrant"). On January 1, 2001, effective with the adoption of SFAS 133 for
derivative activities, The South Group recorded the Affinity Warrant on the
consolidated balance sheet at its fair value of $434,000. Under accounting
principles as of December 31, 2000, the Affinity Warrant was not recorded on the
consolidated balance sheet. On February 27, 2001, we exercised the Affinity
Warrant and reclassified the asset as securities available for sale based on the
fair value as of the exercise date.
Investments in Banks and Transaction Processing Company. As of June 30, 2001,
The South Group had equity investments in fourteen community banks located in
the Southeast. In each case, we own less than 5% of the community bank's
outstanding common stock. The South Group has made these investments to develop
correspondent banking relationships and to promote community banking in the
Southeast. As of June 30, 2001, equity investments in the community banks,
included in securities available for sale with a basis of approximately $9.2
million, were recorded at their pre-tax market value of approximately $8.7
million.
As a result of our merger with Anchor Financial, we have an investment in Rock
Hill Bank & Trust. The investment, which is included in securities available for
sale and has a basis of approximately $3.1 million, had a pre-tax market value
of approximately $4.6 million as of June 30, 2001. The South Group also has an
investment in Nexity Financial Corporation, an Internet bank, which is recorded
at its basis of $500,000.
The South Group owned 24,103 shares of Concord EFS Inc., a transaction
processing company, following its February 2001 acquisition of Star Systems,
Inc., an electronic payment network. During the first quarter 2001, we
recognized a $758,000 gain associated with marking our investment to estimated
fair value as of the Concord EPS inc. acquisition date. In June 2001, we sold
all 24,103 shares of Concord EFS Inc. for an additional $360,000 gain.
CF Investment Company. CF Investment Company is a Small Business Investment
Company, licensed through the Small Business Administration. Its principal focus
is to invest in companies that have a bank-related technology or service The
South Group and its subsidiaries can use. As of June 30, 2001, CF Investment
Company had invested approximately $1.5 million (principally in the form of
loans) in companies specializing in electronic document management and
Internet-related services.
CF Investment Company's loans represent a higher credit risk to us due to the
start-up nature of these companies. During the second quarter of 2001, The South
Group incurred a $200,000 loss related to the write-down of an investment in an
Internet-related company.
INTANGIBLE ASSETS AND OTHER ASSETS
The intangible assets balance at June 30, 2001 of $104.5 million consisted of
goodwill of $98.0 million and core deposit balance premiums of $6.5 million. The
intangible assets balance at June 30, 2000 of $110.7 million consisted of
goodwill of $102.8 million and core deposit balance premiums of $7.9 million.
The decline in the intangible assets balances was attributable to the
amortization of intangibles. Mortgage servicing rights totaled $11.1 million and
$26.7 million at June 30, 2001 and 2000, respectively. The balance for mortgage
servicing rights declined primarily due to the fourth quarter 2000 and first
quarter 2001 sales of rights.
27
Other assets increased $76.8 million to $211.8 million at June 30, 2001 from
$135.0 million at June 30, 2000. This increase was largely attributable to
balances for bank-owned life insurance, which increased $53.2 million to $106.1
million at June 30, 2001. Capitalized software net of related amortization,
which is included in other assets, was approximately $7.0 million and $7.9
million as of June 30, 2001 and 2000, respectively.
DEPOSITS
The South Group's primary source of funds for loans and investments is its
deposits that are gathered through the branch networks of Carolina First Bank
and Citrus Bank and on the Internet through Bank CaroLine. Deposits provided
funding for 79% and 82% of average earning assets for the six months ended June
30, 2001 and 2000, respectively. Carolina First Bank and Citrus Bank face stiff
competition from other banking and financial services companies in gathering
deposits. The percentage of funding provided by deposits has declined, and
accordingly, we have developed other sources, such as FHLB advances, to fund
loan demand.
At June 30, 2001, deposits totaled $3.7 billion, down 1% from the prior year
balance and 6% from December 31, 2000. Average deposits increased 5% to $3.8
billion for the six months ended June 30, 2001 from $3.6 billion for the six
months ended June 30, 2000. During the six months ended June 30, 2001, total
interest-bearing deposits averaged $3.3 billion with a rate of 5.17%, compared
with $3.0 billion with a rate of 4.84% for the corresponding period in 2000.
Deposit pricing remains very competitive, and we expect this pricing environment
to continue. In addition, we have experienced higher deposit costs associated
with targeted deposit promotions to attract and retain customers in connection
with mergers, new markets and new products. With the maturity of higher rate
certificates of deposit, The South Group may elect to rechannel some of these
balances to lower cost funding sources, thereby decreasing deposits and
increasing borrowings.
Table 1 in "EARNINGS REVIEW--Net Interest Income" details average balances for
the deposit portfolio for the six months ended June 30, 2001 and 2000. On
average, time deposits grew $227.8 million, or 14%, and money market accounts
increased $80.0 million, or 12%. This growth was due to certificates of deposit
and money market promotions in select markets and increases in Internet banking
deposits and brokered certificates of deposit. The growth in time deposits and
money market accounts was partially offset by declines in interest checking
accounts of $13.1 million, savings accounts of $30.9 million and
noninterest-bearing deposits of $76.1 million.
At June 30, 2001, total deposits for Bank CaroLine, an Internet bank, totaled
$155.1 million, up from $138.5 million as of June 30, 2000. From the December
31, 2001 balance of $221.2 million, however, deposits for Bank CaroLine declined
significantly, due to offering less aggressive interest rates in an effort to
lower the overall cost of funds. At June 30, 2001, The South Group had $89.2
million in brokered certificates of deposit under $100,000, compared with $97.2
million at June 30, 2000. We consider these funds as an alternative funding
source available to use while continuing to maintain and grow our local deposit
base.
Time deposits of $100,000 or more represented 14% and 16% of total deposits at
June 30, 2001 and 2000, respectively. Our large denomination time deposits are
generally from customers within the local market areas of its banks and,
therefore, have a greater degree of stability than is typically associated with
this source of funds.
28
BORROWED FUNDS
The South Group's short-term borrowings consist of federal funds purchased and
repurchase agreements, FHLB advances, commercial paper and other short-term
borrowings. The long-term borrowings consist primarily of subordinated notes,
FHLB borrowings, an employee stock ownership plan note payable and a mortgage
note payable. In the first six months of 2001, average borrowings totaled $956.5
million compared with $765.3 million for the same period in 2000. This increase
was primarily attributable to an increased reliance on short-term borrowings,
including FHLB advances, to support earning asset growth and to match fund
increases in investment securities.
Federal funds purchased and repurchase agreements are used to satisfy daily
funding needs and, when advantageous, for rate arbitrage. Federal funds
purchased and repurchase agreements totaled $633.9 million and $232.8 million at
June 30, 2001 and 2000, respectively. Balances in these accounts can fluctuate
on a day-to-day basis. At June 30, 2001 and 2000, FHLB advances totaled $504.6
million and $564.6 million, respectively. FHLB advances are a source of funding
which The South Group uses depending on the current level of deposits and
management's willingness to raise deposits through market promotions.
CAPITAL RESOURCES AND DIVIDENDS
Total shareholders' equity amounted to $485.8 million, or 8.8% of total assets,
at June 30, 2001, compared with $473.1 million, or 9.3% of total assets, at June
30, 2000. At December 31, 2000, total shareholders' equity was $468.7 million,
or 9.0% of total assets. The increase in total shareholders' equity since
December 31, 2000 resulted principally from the retention of earnings and an
increase in the net unrealized gain on securities. Cash dividends paid and the
stock repurchase program partially offset these increases.
In December 2000, we initiated a stock repurchase program for up to two million
shares, or approximately 5% of our outstanding shares. In connection with the
program, The South Group has repurchased 907,376 shares, including 60,000 shares
purchased during the first half 2001. We may continue to repurchase shares
depending upon current market conditions and available cash.
Book value per share at June 30, 2001 and 2000 was $11.40 and $10.99,
respectively. Tangible book value per share at June 30, 2001 and 2000 was $8.95
and $8.42, respectively. Tangible book value was below book value as a result of
the purchase premiums associated with branch purchases and acquisitions
accounted for as purchases.
The South Group and its banking subsidiaries exceeded the well-capitalized
requirements at June 30, 2001. Table 4 sets forth various capital ratios for The
South Group and its banking subsidiaries.
29
Table 4
- -------------------------------------------------------------------------------------------------------------------------
CAPITAL RATIOS
- -------------------------------------------------------------------------------------------------------------------------
Well Adequately
June 30, Capitalized Capitalized
2001 Requirement Requirement
---- ----------- -----------
THE SOUTH GROUP:
Total risk-based capital 11.00 % n/a n/a
Tier 1 risk-based capital 8.76 n/a n/a
Leverage ratio 7.04 n/a n/a
CAROLINA FIRST BANK:
Total risk-based capital 10.98 % 10.00 % 8.00 %
Tier 1 risk-based capital 8.86 6.00 4.00
Leverage ratio 6.96 5.00 4.00
CITRUS BANK:
Total risk-based capital 10.32 % 10.00 % 8.00 %
Tier 1 risk-based capital 9.16 6.00 4.00
Leverage ratio 8.42 5.00 4.00
The South Group and its subsidiaries are subject to certain regulatory
restrictions on the amount of dividends they are permitted to pay. We have paid
a cash dividend each quarter since the initiation of cash dividends on February
1, 1994. The South Group presently intends to pay a quarterly cash dividend on
its Common Stock; however, future dividends will depend upon our financial
performance and capital requirements.
Carolina First Mortgage Loan Trust (the "REIT") is a majority-owned subsidiary
of Carolina First Bank that holds real estate-related assets, including mortgage
loans. Carolina First Bank's ownership in the REIT is evidenced by common and
preferred equity. On February 22, 2001, Carolina First Bank sold 132 shares of
the REIT's Series 2000A Cumulative Fixed Rate Preferred Shares to an
institutional buyer. On June 8, 2001, Carolina First Bank sold 250 shares of the
REIT's Series 2000B Cumulative Floating Rate Preferred Shares to an
institutional buyer. Proceeds to Carolina First Bank from these sales totaled
approximately $37.0 million, net of issuance costs.
MARKET RISK AND ASSET/LIABILITY MANAGEMENT
Market risk is the risk of loss from adverse changes in market prices and rates.
Our market risk arises principally from interest rate risk inherent in our
lending, deposit and borrowing activities. Management actively monitors and
manages its interest rate risk exposure. Although we manage other risks, such as
credit quality and liquidity risk, in the normal course of business, management
considers interest rate risk to be its most significant market risk and could
potentially have the largest material effect on The South Group's financial
condition and results of operations. Other types of market risks, such as
commodity price risk, do not arise in the normal course of our business
activities.
30
We attempt to manage exposure to fluctuations in interest rates through policies
established by our Asset/Liability Committee ("ALCO"). The primary goal of The
South Group's ALCO is to achieve consistent growth in net interest income while
managing our interest rate risk. We attempt to control the mix and maturities of
assets and liabilities to achieve consistent growth in net interest income
despite changes in market interest rates. We seek to accomplish this goal while
maintaining adequate liquidity and capital. Our asset/liability mix is
sufficiently balanced so that the effect of interest rates moving in either
direction is not expected to have a significant impact on net interest income
over time.
The South Group's ALCO uses several tools to monitor and manage interest rate
risk. One of the primary tools is a simulation model which is used to analyze
earnings at risk and interest sensitivity gap (the difference between the amount
of rate sensitive assets maturing or repricing within a specific time period and
the amount of rate sensitive liabilities maturing or repricing within the same
time period). The model takes into account interest rate changes as well as
changes in the mix and volume of assets and liabilities. The model's inputs
(such as interest rates and levels of loans and deposits) are updated on a
regular basis.
The forecast used for earnings at risk analysis simulates our consolidated
balance sheet and consolidated statements of income under several different rate
scenarios over a twelve-month period. It reports a case in which interest rates
remain flat and reports variations that occur when rates gradually increase and
decrease 200 basis points over the next twelve-month period. Computation of
prospective effects of hypothetical interest rate changes are based on numerous
assumptions, including relative levels of market interest rates and loan
prepayments, and should not be relied upon as indicative of actual results.
Further, the computations do not contemplate any actions The South Group could
undertake in response to changes in interest rates.
Beginning in the first quarter of 2001, we began modeling a gradual
increase/decrease in rates rather than an immediate change. This change was made
because rates typically change gradually over time rather than abruptly, and
thus, the information provided is more meaningful. According to the model as of
June 30, 2001, The South Group is positioned so that net interest income will
increase $2.1 million in the next twelve months if interest rates rise 200 basis
points and will decrease $2.5 million in the next twelve months if interest
rates decline 200 basis points. The smaller increase in net interest income when
interest rates are increased is due to the assumptions related to deposit
repricings. In both the increasing and decreasing rate scenarios, we assume that
deposit rates will not change by the full 200 basis points. However, deposit
rates are modeled so that they will change a greater percentage in the
increasing rate scenario than in the declining rate scenario. Due to the
interest rate cuts that occurred during the first half of 2001 and the prompt
repricing of interest-bearing deposits, some of our deposit rates are nearing
what management considers to be an acceptable lower limit. Accordingly, in the
declining rate scenario, the model assumes that certificate of deposit rates
will not decline below 2.00% thus limiting the interest expense reduction from
repricing certificates of deposit by the entire 200 basis points.
In addition to the standard scenarios used to analyze earnings at risk, The
South Group's ALCO analyzes the potential impact of other scenarios. The
starting point for these "what-if" scenarios is our base forecast. This base
forecast consolidates all balance sheet information that we are presently aware
of with our "most likely" interest rate projections. The "what-if" scenarios are
then used to gauge the impact of changes in interest rates and/or balance sheet
items on the earnings of The South Group compared to the base forecast.
Strategies can be formulated based on the information provided by the earnings
simulation if a scenario either seems likely to occur or we choose to undertake
the proposed transaction. The South Group updates its base forecast quarterly
based on economic changes that occurred during the past quarter as well as
changes in the economic outlook for the coming year.
31
Table 5 shows The South Group's financial instruments that are sensitive to
changes in interest rates as well as The South Group's interest sensitivity gap
at June 30, 2001. We use certain assumptions to estimate fair values and
expected maturities. For assets, expected maturities are based upon contractual
maturity, projected repayments, prepayment of principal and potential calls. For
core deposits without contractual maturity (i.e., interest checking, savings and
money market accounts), the table presents principal cash flows based on
management's judgement concerning their most likely runoff. The actual
maturities and runoff could vary substantially if future prepayments, runoff and
calls differ from our historical experience and management's judgement. We use
interest sensitivity gap ("GAP position") analysis to monitor the relationship
between the maturity and repricing of rate sensitive assets and rate sensitive
liabilities during a given time frame. Our GAP position, while not a complete
measure of interest sensitivity, is reviewed periodically to provide insights
related to the static repricing structure of assets and liabilities. At June 30,
2001, on a cumulative basis through twelve months, rate-sensitive liabilities
exceeded rate-sensitive assets, resulting in a liability sensitive position of
$8.5 million. The GAP position is based on The South Group's forecast which
holds interest rates at their current levels for the entire twelve-month period.
Presented below is the tabular presentation of The South Group's interest rate
sensitivity.
32
Table 5
- ------------------------------------------------------------------------------------------------------------------------------------
INTEREST RATE SENSITIVITY ANALYSIS
- ------------------------------------------------------------------------------------------------------------------------------------
(dollars in thousands)
YTD Six Months
Average Three Months Ended Ended Twelve Months Ended
------------------------- ----------------------------------------------
Yield 9/30/01 12/31/01 6/30/02 6/30/03 6/30/04 6/30/05 6/30/06
----- ------- -------- ------- ------- ------- ------- -------
Interest-Sensitive Assets
Earning assets
Loans, net of unearned income 8.89 % $ 836,625 $ 376,752 $ 667,711 $ 722,604 $491,336 $262,864 $ 98,184
Investment securities (1) 6.61 33,888 31,064 58,726 103,802 85,813 81,721 64,104
Federal funds sold 5.25 - - - - - - -
Interest bearing balances with other 6.11 - - 750 250 - - -
------------ ------------ ----------- ---------- ---------- ---------- -----------
Total earning assets 8.40 % $ 870,513 $ 407,816 $ 727,187 $ 826,656 $577,149 $344,585 $162,288
============ ============ =========== ========== ========== ========== ===========
Interest-Sensitive Liabilities
Interest-sensitive liabilities
Interest-bearing deposits
Interest checking 2.86 % $ - $ 58,781 $ 117,563 $ - $205,735 $205,735 $ -
Savings 2.32 - 2,290 9,162 11,452 45,808 45,808 -
Money market 4.28 111,301 111,301 148,402 - 185,502 185,502 -
Certificates of deposit 6.40 556,787 478,683 256,665 325,799 52,432 2,340 2,002
------------ ------------ ----------- ---------- ---------- ---------- -----------
Total interest-bearing deposits 5.17 668,088 651,055 531,792 337,251 489,477 439,385 2,002
Other Deposits (2) - - - 50,551 50,551 202,204 200,470 -
Borrowings 5.49 764,472 54,265 51,632 19,248 15,346 76,373 33
------------ ------------ ----------- ---------- ---------- ---------- -----------
Total interest-sensitive
liabilities 5.24 % 1,432,560 705,320 633,975 407,050 707,027 716,228 2,035
Notional amount of interest rate swaps 15,599 304 (24,381) 18,478 - - -
------------ ------------ ----------- ---------- ---------- ---------- -----------
Total interest-sensitive liabilities and
off-balance sheet derivative
financial instruments $ 1,448,159 $ 705,624 $ 609,594 $ 425,528 $707,027 $716,228 $ 2,035
============ ============ =========== ========== ========== ========== ===========
Net contractual interest sensitive
position (577,646) (297,808) 117,593 401,128 (129,878) (371,643) 160,253
Adjustments for repricing
characteristics of variable
rate products (3) 1,046,561 (88,177) (209,035) (182,602) (138,319) (136,162) (86,547)
------------ ------------ ----------- ---------- ---------- ---------- -----------
Interest-sensitive gap $ 468,915 $ (385,985) $ (91,442) $ 218,526 $ (268,197) $ (507,805) $ 73,706
============ ============ =========== ========== ========== ========== ===========
Cumulative interest-sensitive gap $ 468,915 $ 82,930 $ (8,512) $ 210,014 $ (58,183) $ (565,988) $(492,282)
============ ============ =========== ========== ========== ========== ===========
Table 5 (Continued)
- -------------------------------------
After Carrying Fair
6/30/06 Value Value
------- ----- -----
Interest-Sensitive Assets
Earning assets $ 346,369 $ 3,802,445 $3,842,662
Loans, net of unearned income 637,701 1,096,819 1,119,665
Investment securities (1) - - -
Federal funds sold - - -
Interest bearing balance with
other banks 27,511 28,511 28,528
-------------- ------------ -------------
Total earning assets $ 1,011,581 $ 4,927,775 $4,990,855
============== ============ =============
Interest-Sensitive Liabilities
Interest-sensitive liabilities
Interest-bearing deposits
Interest checking $ - $ 587,814 $ 587,814
Savings - 114,520 114,520
Money market - 742,008 742,008
Certificates of deposit 33,590 1,708,298 1,735,467
-------------- ------------ -------------
Total interest-bearing deposits 33,590 3,152,640 3,179,809
Other deposits - 503,776 503,776
Borrowings 239,103 1,220,472 1,237,870
-------------- ------------ -------------
Total interest-sensitive liabilities 272,693 4,876,888 $4,921,455
=============
Notional amount of interest rate swaps (10,000) -
-------------- ------------
Total interest-sentitive liabilities
and off-balance sheet derivative
financial instruments $ 262,693 $ 4,876,888
============== ============
Net contractural interest sensitive
position 748,888 50,887
Adjustments fo repricing
characteristics of variable
rate products (3) (205,719) -
-------------- ------------
Interest-sensitive gap $ 543,169 $ 50,887
============== ============
Cumulative interest-sensitive gap $ 50,887 $ -
============== ============
(1) Investment securities exclude the unrealized gain on the sale of securities of $22.2 million.
(2) Other deposits consist of noninterest-bearing deposits which respond in part to changes in interest rates.
(3) The adjustment for repricing characteristics of variable rate products adjusts the net contractual interest sensitive position
for the immediate repricing of variable rate products. The contractual maturities are used for the net contractual interest-
sensitive position.
33
Derivatives and Hedging Activities. The South Group uses derivative instruments
as part of its interest rate management activities to reduce risks associated
with its lending, deposit taking and borrowing activities. CF Mortgage enters
into loan sale commitments in connection with its mortgage banking business and
issues commitments to borrowers to lend funds in a secured mortgage transaction.
Effective January 1, 2001, with the adoption of SFAS 133, we began recognizing
all derivatives as either assets or liabilities on the consolidated balance
sheet and reporting these instruments at fair value.
The South Group has interest rate swap agreements that qualify as fair value
hedges and those that qualify as cash flow hedges. Fair value hedges are used to
hedge fixed rate deposits. The South Group uses cash flow hedges to hedge
interest rate risk associated with variable rate borrowings.
By using derivative instruments, The South Group is exposed to credit and market
risk. Credit risk, which is the risk that a counterparty to a derivative
instrument will fail to perform, is equal to the extent of the fair value gain
in a derivative. Credit risk is created when the fair value of a derivative
contract is positive, since this generally indicates that the counterparty owes
us. When the fair value of a derivative is negative, no credit risk exists since
we would owe the counterparty. The South Group minimizes the credit risk in
derivative instruments by entering into transactions with high-quality
counterparties as evaluated by our management. Market risk is the adverse effect
on the value of a financial instrument from a change in interest rates or
implied volatility of rates. We manage the market risk associated with interest
rate contracts by establishing and monitoring limits as to the types and degree
of risk that may be undertaken.
At June 30, 2001, the fair value of derivative assets totaled $186,000 and was
related to derivatives with no hedging designation. At June 30, 2001, the fair
value of derivative liabilities totaled $675,000 and was attributable to cash
flow hedges and fair value hedges. The South Group's derivative and hedging
activities are discussed in further detail in Notes 8 and 9 of the Consolidated
Financial Statements.
LIQUIDITY
Liquidity management ensures that adequate funds are available to meet deposit
withdrawals, fund loan and capital expenditure commitments, maintain reserve
requirements, pay operating expenses, provide funds for dividends and debt
service, and manage operations on an ongoing basis. Funds are primarily provided
by Carolina First Bank and Citrus Bank through customers' deposits, principal
and interest payments on loans, loan sales or securitizations, securities
available for sale, maturities of securities, temporary investments and
earnings. Proper liquidity management is crucial to ensure that The South Group
is able to take advantage of new business opportunities as well as meet the
demands of its customers.
Investment securities are an important tool to our liquidity management.
Securities classified as available for sale may be sold in response to changes
in interest rates, liquidity needs and/or significant prepayment risk.
Net cash provided by operations and deposits from customers have been the
primary sources of liquidity for us. Liquidity is also enhanced by the ability
to acquire new deposits through Carolina First Bank's and Citrus Bank's
established branch network of more than 90 branches in South Carolina, North
Carolina and Florida. In addition, we can raise deposits on the Internet through
Bank CaroLine. The liquidity needs of Carolina First Bank and Citrus Bank are a
factor in developing their deposit pricing structure; deposit pricing may be
altered to retain or grow deposits if deemed necessary.
34
Carolina First Bank and Citrus Bank have access to borrowing from the FHLB and
maintain short-term lines of credit from unrelated banks. At June 30, 2001,
unused borrowing capacity from the FHLB totaled approximately $41.2 million with
an outstanding balance of $504.6 million. The unused borrowing capacity from the
FHLB could increase due to the ability to borrow against commercial real estate
loans. At June 30, 2001, Carolina First Bank and Citrus Bank had unused
short-term lines of credit totaling approximately $276.3 million (which are
withdrawable at the lender's option). Management believes that these sources are
adequate to meet its liquidity needs.
Liquidity at the parent company level is provided through cash dividends from
the subsidiary banks and the capacity of the parent company to raise additional
borrowed funds as needed. If The South Group elects to repurchase additional
shares through its share repurchase program, such purchases will reduce
liquidity at the parent company level.
CREDIT QUALITY
A willingness to take credit risk is inherent in the decision to grant credit.
Prudent risk-taking requires a credit risk management system based on sound
policies and control processes that ensure compliance with those policies. The
South Group's credit risk management system is defined by policies approved by
the Board of Directors that govern the risk underwriting, portfolio monitoring,
and problem loan administration processes. Adherence to underwriting standards
is managed through a multi-layered credit approval process and immediate
after-the-fact review by credit risk management of loans approved by lenders.
Through daily review by credit risk managers, monthly reviews of exception
reports, and ongoing analysis of asset quality trends, compliance with loan
monitoring policies is managed. The administration of problem loans is driven by
policies that require written plans for resolution and quarterly meetings with
credit risk management to review progress. Credit risk management activities,
including specific reviews of new large credits, are reviewed by the Directors'
Credit Committee of each banking subsidiary, which meet monthly.
Table 6 presents information pertaining to nonperforming assets.
35
Table 6
- -----------------------------------------------------------------------------------------------------------------------
NONPERFORMING ASSETS AND PAST DUE LOANS
- -----------------------------------------------------------------------------------------------------------------------
(dollars in thousands)
June 30, December 31,
--------------------------------------
2001 2000 2000
---- ---- ----
Nonaccrual loans $ 35,166 $ 18,341 $ 18,413
Restructured loans - - -
---------------- ---------------- ----------------
Total nonperforming loans 35,166 18,341 18,413
Other real estate owned 4,950 3,390 3,101
---------------- ---------------- ----------------
Total nonperforming assets $ 40,116 $ 21,731 $ 21,514
================ ================ ================
Nonperforming assets as a percentage
of loans and other real estate owned (1) 1.08 % 0.61 % 0.58 %
================ ================ ================
Net loan charge-offs as a percentage
of average loans (annualized) 0.49 0.26 0.42
================ ================ ================
Loans past due 90 days still accruing
interest (2) $ 13,167 $ 7,789 $ 10,682
================ ================ ================
Allowance for loan losses as a
percentage of nonperforming loans 1.24 x 2.28 x 2.34 x
================ ================ ================
(1) Calculated using loans held for investment, net of unearned income.
(2) Substantially all of these loans are consumer and residential mortgage loans.
As a percentage of loans and other real estate owned,
nonperforming assets were 1.08% at June 30, 2001, compared with 0.58% as of
December 31, 2000 and 0.61% as of June 30, 2000. As a result of the weakening
economy, nonaccrual loans increased $15.0 million to $35.2 million as of June
30, 2001 from $20.2 million as of March 31, 2001. This increase was centered in
four relatively large local commercial relationships totaling $14.4 million, all
of which are secured and currently believed to have limited loss exposure.
In addition to nonperforming assets and past due loans shown in Table 6,
subsequent to June 30, 2001, management has identified two relationships with
balances in excess of $1 million, totaling $6.6 million in aggregate, that cause
management to have serious doubts about the ability of these borrowers to comply
with the present loan repayment terms.
Net loan charge-offs totaled $9.3 million and $4.4 million in the first six
months of 2001 and 2000, respectively, or 0.49% and 0.26%, respectively, as an
annualized percentage of average loans. Uncertainty in the economic outlook has
increased, making charge-off levels in future periods less predictable. In
addition, as the economic climate softens, the flow of loans into nonaccrual
status and other real estate loans increases. However, loss exposure in the
portfolio is identified, reserved, and closely monitored to ensure that changes
are promptly addressed in the analysis of reserve adequacy.
36
CURRENT ACCOUNTING ISSUES
Statement of Financial Accounting Standards ("SFAS") No. 140, "Accounting for
Transfers and Servicing of Financial Assets and Extinguishments of Liabilities"
- - a replacement of FASB No. 125, was issued in September 2000. It revises the
standards for accounting for securitizations and other transfers of financial
assets and collateral and requires certain disclosures but will carry over most
of SFAS 125's provisions without reconsideration. SFAS 140 is effective for
transfers and servicing of financial assets and extinguishment of liabilities
occurring after March 31, 2001. This statement is effective for recognition and
reclassification of collateral and for disclosures related to securitization
transactions and collateral for fiscal years ending after December 15, 2000. The
South Group adopted the provisions of SFAS 140 effective April 1, 2001 with no
material impact.
In July 2001, the Financial Accounting Standards Board issued SFAS 141,
"Business Combinations," and SFAS 142, "Goodwill and Other Intangible Assets."
SFAS 141 requires that the purchase method of accounting be used for all
business combinations initiated after June 30, 2001 as well as all purchase
method business combinations completed after June 30, 2001. SFAS 141 also
specifies criteria intangible assets acquired in a purchase method business
combination must meet to be recognized and reported apart from goodwill. SFAS
142 will require that goodwill and intangible assets with indefinite useful
lives no longer be amortized, but instead tested for impairment at least
annually in accordance with the provisions of SFAS 142. SFAS 142 will also
require that intangible assets with definite useful lives be amortized over
their respective estimated useful lives to their estimated residual values, and
reviewed for impairment in accordance with SFAS 121, "Accounting for the
Impairment of Long-Lived Assets and for Long-Lived Assets to Be Disposed Of."
The South Group is required to adopt the provisions of SFAS 141 immediately, and
SFAS 142 effective January 1, 2002. Goodwill and intangible assets acquired in
business combinations completed before July 1, 2001 will continue to be
amortized prior to the adoption of SFAS 142.
SFAS 141 will require upon adoption of SFAS 142, that The South Group evaluate
its existing intangible assets and goodwill that were acquired in prior purchase
business combinations, and make any necessary reclassifications in order to
conform with the new criteria in SFAS 141 for recognition apart from goodwill.
Upon adoption of SFAS 142, The South Group will be required to reassess the
useful lives and residual values of all intangible assets acquired in purchase
business combinations, and make any necessary amortization period adjustments by
the end of the first interim period after adoption. In addition, to the extent
an intangible asset is identified as having an indefinite useful life, The South
Group will be required to test the intangible asset for impairment in accordance
with the provisions of SFAS 142 within the first interim period. Any impairment
loss will be measured as of the date of adoption and recognized as the
cumulative effect of a change in accounting principle in the first interim
period.
In connection with the transitional goodwill impairment evaluation, SFAS 142
will require us to perform an assessment of whether there is an indication that
goodwill is impaired as of the date of adoption. To accomplish this, The South
Group must identify its reporting units and determine the carrying value of each
reporting unit by assigning the assets and liabilities, including the existing
goodwill and intangible assets, to those reporting units as of the date of
adoption. We will then have up to six months from the date of adoption to
determine the fair value of each reporting unit and compare it to the reporting
unit's carrying amount. To the extent a reporting unit's carrying amount exceeds
its fair value, an indication exists that the reporting unit's goodwill may be
impaired and the second step of the transitional impairment test must be
performed. In the second step, the implied fair value of the reporting unit's
goodwill, determined by allocating the reporting unit's fair value to all of it
assets (recognized and unrecognized) and liabilities in a manner similar to a
purchase price allocation in accordance with SFAS 141, is compared to its
carrying amount, both of which would be measured as of the date of adoption.
37
This second step is required to be completed as soon as possible, but no later
than the end of the year of adoption. Any transitional impairment loss will be
recognized as the cumulative effect of a change in accounting principle in our
consolidated statements of income.
As of the date of adoption, The South Group expects to have unamortized goodwill
in the amount of $95.8 million and unamortized identifiable intangible assets in
the amount of $5.8 million, which will be subject to the transition provisions
of SFAS 141 and 142. Amortization expense related to goodwill was $4.8 million
pre-tax (or $4.7 million after-tax) and $2.3 million pre-tax (or $2.2 million
after-tax) for the year ended December 31, 2000 and the six months ended June
30, 2001, respectively. Because of the extensive effort needed to comply with
adopting SFAS 141 and 142, it is not practicable to reasonably estimate the
impact of adopting these Statements on our financial statements at the date of
this report, including whether any transitional impairment losses will be
required to be recognized as the cumulative effect of a change in accounting
principle.
38
PART II. OTHER INFORMATION
ITEM 1 LEGAL PROCEEDINGS
See Note 5 to the Consolidated Financial Statements for a discussion of
legal proceedings.
ITEM 2 CHANGE IN SECURITIES
None.
ITEM 3 DEFAULTS UPON SENIOR SECURITIES
None.
ITEM 4 SUBMISSION OF MATTERS TO A VOTE OF SECURITIES HOLDERS
Annual Meeting of Shareholders
On April 18, 2001, the Company held its 2001 Annual Meeting of
Shareholders. The results of the 2001 Annual Meeting of Shareholders
follow.
PROPOSAL #1 - ELECTION OF DIRECTORS
The shareholders approved setting the number of Company directors at 18
persons. The following persons were elected as Directors with the votes
indicated.
Voting shares in favor
---------------------- Withheld
# % Authority
--- --- ---------
William P. Brant 32,625,631 97.6% 811,187
Mason A. Chrisman 33,099,282 99.0% 337,536
Stephen L. Chryst 33,068,934 98.9% 367,884
Judd B. Farr 33,065,230 98.9% 371,587
C. Claymon Grimes, Jr. 33,065,230 98.9% 371,587
W. Gairy Nichols, III 33,099,837 99.0% 336,981
Thomas J. Rogers 33,099,265 99.0% 337,553
John C.B. Smith, Jr. 33,096,571 99.0% 340,247
Albert A. Springs, III 33,099,282 99.0% 337,536
David C. Wakefield, III 32,559,978 97.4% 876,839
M. Dexter Hagy, William S. Hummers III, H. Earle Russell, Jr., Charles B.
Schooler, Eugene E. Stone IV, William R. Timmons, Jr., Samuel H. Vickers,
and Mack I. Whittle, Jr. continued in their present terms as directors.
ITEM 5 OTHER INFORMATION
None.
39
PART II
(CONTINUED)
ITEM 6 EXHIBITS AND REPORTS ON FORM 8-K
(a) Exhibits
None.
(b) Reports on Form 8-K
The South Group filed Current Reports on Form 8-K dated May 11, 2001
and June 6, 2001.
40
SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934, The South
Group has duly caused this report to be signed on its behalf by the undersigned
thereunto duly authorized.
The South Financial Group, Inc.
/s/ William S. Hummers III
---------------------------------
William S. Hummers III
Executive Vice President
41