Item 1. Business
GENERAL
COMMUNITY BANKSHARES INCORPORATED (CBI), THE COMMUNITY BANK, COMMERCE BANK OF VIRGINIA AND COUNTY BANK OF CHESTERFIELD. Community Bankshares Incorporated is a registered bank holding company headquartered in Petersburg, Virginia, with assets of $329,912,000 at December 31, 1998. CBI's sole business is to serve as a multi-bank holding company for its wholly-owned subsidiaries. The Community Bank, Commerce Bank of Virginia and County Bank of Chesterfield. CBI was incorporated as a Virginia corporation on January 24, 1984, and on January 1, 1985, it acquired all of the issued and outstanding shares of The Community Bank's capital stock. CBI acquired all of the outstanding stock of Commerce Bank of Virginia through a share exchange agreement effective July 1, 1996. CBI acquired all of the outstanding stock of County Bank of Chesterfield through a share exchange agreement effective July 1, 1997.
The Community Bank was incorporated in 1973 under the laws of the Commonwealth of Virginia. Since The Community Bank opened for business on June 10, 1974, its main banking and administrative office has been located at 200 North Sycamore Street, Petersburg, Virginia.
The Community Bank operates branch offices in Colonial Heights, Virginia and in the village of Chester in Chesterfield County, Virginia. Its primary service area consisting of the Cities of Petersburg and Colonial Heights and Chesterfield County. The bank is insured by the FDIC and is supervised and examined by the Federal Reserve and the Virginia State Corporation Commission. It engages in general commercial banking business and offers a range of banking services that can be expected of a banking organization of its size. Total assets of the bank were $104.016 million at December 31, 1998.
Commerce Bank of Virginia was incorporated in 1984 under the laws of the Commonwealth of Virginia. Since Commerce Bank of Virginia opened for business on August 28, 1984, its main banking and administrative office has been located at 11500 West Broad Street, Richmond, Virginia (Henrico County).
Commerce Bank of Virginia operates branch offices in the City of Richmond and Hanover and Goochland Counties. The bank is insured by the FDIC and is supervised and examined by the Federal Reserve and the Virginia State Corporation Commission. It engages in general commercial banking business and offers a range of banking services that can be expected of a banking organization of its size. Total assets of the bank were $108.495 million at December 31, 1998.
County Bank of Chesterfield was incorporated in 1985 under the laws of the Commonwealth of Virginia. Since County Bank of Chesterfield opened for business in September 1986, its main banking and administrative office has been located at 10400 Hull Street Road, Richmond, Virginia (Chesterfield County).
County Bank of Chesterfield operates branch offices in Chesterfield County. The bank is insured by the FDIC and is supervised and examined by the Federal Reserve and the Virginia State Corporation Commission. It engages in general commercial banking business and offers a range of banking services that can be expected of a banking organization of its size. Total assets of the bank were $117.318 million at December 31, 1998.
BANKING SERVICES. Through its network of banking facilities CBI provides a wide range of commercial banking services to individuals and small and medium-sized businesses. CBI conducts substantially all of the business operations of a typical independent, commercial bank, including the acceptance of checking and savings deposits, and the making of commercial real estate, personal, home improvement, automobile, and other installment and term loans. CBI also offers other related services, such as traveler's checks, safe deposit boxes, lock box, depositor transfer, customer note payment, collection, notary public, escrow, drive-in facilities and other customary banking services. Trust services are not offered by CBI.
The accounts of CBI's depositors are insured up to $100,000 for each account holder by the Federal Deposit Insurance Corporation, an instrumentality of the United States Government. Insurance of accounts is subject to the statutes and regulations governing insured banks, to examination by the FDIC, and to certain limitations and restrictions imposed by that agency.
LENDING ACTIVITIES
LOAN PORTFOLIOS. CBI is a residential mortgage and residential construction lender and also extends commercial loans to small and medium-sized businesses within its primary service area. Consistent with its focus on providing community-based financial services, CBI does not attempt to diversify its loan portfolio geographically by making significant amounts of loans to borrowers outside of its primary service area.
The primary economic risk associated with each of the categories of loans in CBI's portfolio is the creditworthiness of its borrowers. Within each category, such risk is increased or decreased depending on prevailing economic conditions. In an effort to manage the risk, CBI's policy gives loan amount approval limits to individual loan officers based on their level of experience. The risk associated with real estate mortgage loans and installment loans to individuals varies based upon employment levels, consumer confidence, fluctuations and value of residential real estate and other conditions that affect the ability of consumers to repay indebtedness. The risk associated with commercial loans varies based upon the strength and activity o the local economy. The risk associated with real estate construction loans varies based upon the supply and demand for the type of real estate under construction. Most of CBI's residential real estate construction loans are for pre-sold and contract homes.
RESIDENTIAL MORTGAGE LENDING. CBI originates conventional fixed rate and adjustable rate residential mortgage loans. All fixed rate loans are short term usually three years or less, unless the loan is to be fully amortized over 60 monthly payments. In addition, CBI, through its subsidiary Commerce Bank of Virginia, offers both conventional and government fixed rate and adjustable rate residential mortgage loans primarily for resale in the secondary market. Commerce Bank of Virginia is an approved seller/servicer for the Federal Home Loan Mortgage Corporation(FHLMC) and the Federal National Mortgage Association (FNMA).
RESIDENTIAL CONSTRUCTION LENDING. Because of attractive adjustable rates available, CBI makes construction loans for residential purposes. These include both construction loans to experienced builders and loans to consumers for owner-occupied residences. BCI does not actively solicit loans to builders for homes that are not pre-sold. Construction lending entails significant additional risk as compared with residential mortgage lending. Construction loans to builders can involve larger loan balances concentrated with single borrowers or groups of related borrowers. Also, with construction loans, funds are advanced upon the security of the home under construction, which is of uncertain value prior to the completion of construction. Thus, it is more difficult to evaluate accurately the total loan funds required to complete a project and related loan-to-value ratios. Residential construction loans to customers, for which a permanent loan commitment from another lender approved prior to loan closing is required, are subject to the additional risk of the permanent lender failing to provide the necessary funds at closing, either due to the borrower's inability to fulfill the terms of the commitment or due to the permanent lender's inability to meet its funding commitments. In addition to its usual credit analysis of the borrowers, CBI seeks to obtain a first lien on the property as security for its construction loans.
COMMERCIAL REAL ESTATE LENDING. CBI provides permanent mortgage financing for a variety of commercial projects. In the normal course of business, CBI will provide financing for owner occupied properties and for income producing, non-owner occupied projects which meet all of the guidelines established by loan policy. These loans generally do not exceed 65% of current appraised or market value, whichever is lower, for unimproved land and 75% for improved commercial real estate. Such loans are written on terms which provide for a maturity of one to three years.
Construction loans for the purpose of constructing commercial projects are provided for periods of not greater than one year, at floating rates of interest and are convertible to permanent financing consistent with terms outlined in CBI loan policy. When a construction loan agreement is entered into, particular care is taken to govern the process of the loan and, both initial project review and periodic inspections are conducted by competent personnel who are independent o CBI. Advance ratios are closely monitored and appropriate construction reserves are established.
CONSUMER LENDING. CBI currently offers most types of consumer demand, time, and installment loans, including automobile loans.
COMMERCIAL BUSINESS LENDING. As a full service community bank, CBI makes commercial loans to qualified small businesses in CBI' market area. Commercial business loans generally have a higher degree of risk than residential mortgage loans but have commensurately higher yields. To manage these risks, CBI generally secures appropriate collateral and carefully monitors the financial condition of it business borrowers and the concentration of such loans in the portfolio. Most of CBI commercial loans are secured by real estate , which is viewed by CBI as the principal collateral securing such loans. Residential mortgage loans generally are made on the basis of the borrower's ability to make repayment from his employment and other income and are secured by real estate whose value tends to be easily ascertainable. In contrast, commercial business loans typically are made on the basis of the borrower's ability to make repayment from cash flow from its business and are either unsecured or secured by business assets, such as real estate, accounts receivable, equipment and inventory. As a result, the availability of funds for the repayment of commercial business loans may be substantially dependent on the success of the business itself. Further, the collateral for secured commercial business loans may depreciate over time and cannot be appraised with as much precision as residential real estate.
COLLECTION PRACTICES. Often CBI will not immediately proceed to foreclose on real estate loans that become more than 90 days past due. Instead, CBI will permit the borrower to market and sell the collateral in an orderly manner. If the borrower does not sell the collateral within a reasonable time, CBI will foreclose and sell the collateral. CBI's experience has been that losses on well collateralized real estate loans are minimized when it works with borrowers in this manner, although its practice of working with borrowers at times results in relatively high balances of past due loans. CBI has also found that its loan collection practices enable it to compete with larger and less flexible institutions that are not based in the community. See "Management's Discussion and Analysis of Financial Condition and Results of Operations - Nonperforming Assets".
COMPETITION
CBI encounters strong competition for its banking services within its primary market area. There are approximately 15 commercial banks actively engaged in business in its market area, including major statewide and regional banking organizations. Finance companies, credit unions, savings and loan associations compete for loans and deposits. In addition, in some instances, CBI must compete for deposits with money market funds that are marketed by brokerage firms on a local and national level. CBI's competitors generally have substantially greater resources than CBI.
EMPLOYEES
As of December 31, 1998, CBI had 137 full time equivalent employees. Management considers its relations with employees to be excellent. No employees are represented by a union or any similar group and CBI has never experienced any strike or labor disputes.
SUPERVISION AND REGULATION
Banks and their holding companies are extensively regulated entities. CBI is currently a holding company subject to supervision and regulation by the Board of Governors of The Federal Reserve System (the Federal Reserve). CBI's subsidiary banks are subject to supervision and regulation by the Federal Reserve and the Bureau of Financial Institutions of the State Corporation Commission of the Commonwealth of Virginia (the SCC).
The regulatory discussion is divided into two major subject areas. First, the discussion addresses the general regulatory considerations governing bank holding companies. This focuses on the primary regulatory considerations applicable to CBI as a bank holding company. Second, the discussion addresses the general regulatory provisions governing depository institutions. This focuses on the regulatory considerations of The Community Bank, Commerce Bank of Virginia and County Bank of Chesterfield.
This discussion is only a summary of the principal laws and regulations that comprise the regulatory framework. The descriptions of these laws and regulations, as well as descriptions of laws and regulations contained elsewhere herein, do not purport to be complete and are qualified in their entirety by reference to applicable laws and regulations.
BANK HOLDING COMPANIES
The Bank Holding Company Act (BHC Act) generally limits the activities of the bank holding company and its subsidiaries to that of banking managing or controlling banks, or any other activity which is so closely related to banking or to managing or controlling banks as to be a proper incident thereto.
Formerly the BHC Act prohibited the Federal Reserve from approving an application from a bank holding company to acquire shares of a bank located outside the state in which the operations of the bank holding company's banking subsidiaries are principally conducted, unless such an acquisition was authorized by statute of the state where the bank whose shares were to be acquired was located. However, under federal legislation enacted in 1994, the restriction on interstate acquisitions was abolished, effective September 1995. A bank holding company from any state now may acquire banks and bank holding companies located in any other state, subject to certain conditions, including nationwide and state imposed concentration limits. Banks also are able to branch across state lines by acquisition, merger or de novo, provided certain conditions are met, including that applicable state law must expressly permit such interstate branching.
There are a number of obligations and restrictions imposed on bank holding companies and their depository institution subsidiaries that are designed to reduce potential loss exposure to the depositors of the depository institutions and to the FDIC insurance fund. For example, under a policy of the Federal Reserve with respect to bank holding company operations, a bank holding company is required to serve as a source of financial strength to its subsidiary depository institutions and to commit resources to support such institutions in circumstances where it might not do so absent such policy. In addition, the "cross-guarantee" provisions of federal law require insured depository institutions under common control to reimburse the FDIC for any loss suffered or reasonably anticipated by the FDIC as a result of a default of a commonly controlled insured depository or for any assistance provided by the FDIC to a commonly controlled depository institution in danger of default. The FDIC may decline to enforce the cross-guarantee provisions if it determines that a waiver is in the best interest of the Bank Insurance Fund (BIF). The FDIC's claim for damages is superior to claims of stockholders of the insured depository institution or its holding company but is subordinate to claims of depositors, secured creditors and holders of subordinated debt (other than affiliates) of the commonly controlled insured depository institutions.
Banking laws also provide that amounts received from the liquidation or other resolution of any insured depository institution by any receiver must be distributed (after payment of secured claims) to pay the deposit liabilities of the institution prior to payment of any other general or unsecured senior liability, subordinated liability, general creditor or stockholder. This provision would give depositors a preference over general and subordinated creditors and stockholders in the event a receiver is appointed to distribute assets of any bank subsidiaries.
CERTAIN REGULATORY CONSIDERATIONS
REGULATORY CAPITAL REQUIREMENTS. All financial institutions are required to maintain minimum levels of regulatory capital. The federal bank regulatory agencies have established substantially similar risk based and leverage capital standards for financial institutions they regulate. These regulatory agencies also may impose capital requirements in excess of these standards on a case by case basis for various reasons, including financial condition or actual or anticipated growth. Under the risk based capital requirements of these regulatory agencies, The Community Bank, Commerce Bank of Virginia and County Bank of Chesterfield are required to maintain a minimum ratio of total capital to risk weighted assets of at least 8%. At least half of the total capital is required to be "Tier 1 capital", which consists principally of common and
certain qualifying preferred shareholders' equity, less certain intangibles and other adjustments. The remainder ("Tier 2 capital") consists of a limited amount of subordinated and other qualifying debt (including certain hybrid capital instruments) and a limited amount of the general loan loss allowance. The Tier 1 and total capital to risk weighted asset ratios of The Community Bank as of December 31, 1998 were 19.09% and 20.27%, exceeding the minimum required. The Tier 1 and total capital to risk weighted asset ratios of Commerce Bank of Virginia as of December 31, 1998 were 12.01% and 12.81%, exceeding the minimum required. . The Tier 1 and total capital to risk weighted asset ratios of County Bank of Chesterfield as of December 31, 1998 were 10.63% and 11.66%, exceeding the minimum required. Based upon the applicable Federal Reserve regulations, at December 31, 1997, all three banks would be considered "well capitalized".
In addition, the federal regulatory agency is required to revise its risk capital standards to ensure that those standards take adequate amount of interest rate risk, concentration of credit risk and the risks of nontraditional activities, as well as the actual performance and expected risk of on multifamily mortgages. The Federal Reserve and FDIC have jointly solicited comments on a proposed framework for implementing the interest rate risk component of the risk based capital guidelines. Under the proposal, an institutions assets, liabilities, and off-balance sheet positions would be weighted by risk factors that approximate the instruments' price sensitivity to a 100 basis point change in interest rates. Institutions with an interest rate risk exposure in excess of a threshold level would be required to hold additional capital proportional to that risk. In 1994 the, the federal bank regulatory agencies solicited comments on a proposed revision to the risk based capital guidelines to take account of concentration of credit and the risk of nontraditional activities. The revision proposed to amend each agency's risk based capital standards by explicitly identifying concentration of credit risk and the risk arising from nontraditional activities, as well as an institutions ability to manage those risks, as important factors to be taken into account by the agency in assessing an institution's overall capital adequacy. The proposal was adopted as a final rule by the federal bank regulatory agencies and subsequently became effective on January 17, 1995. CBI does not expect the final rule to have a material impact on its capital requirements; however, the federal regulatory agencies may, as an integral part of their examination process, require CBI to provide additional capital based on such agency's judgments of information available at the time of examination.
The following table summarizes the minimum regulatory and current capital ratios for CBI on a consolidated basis, at December 31, 1998.
CAPITAL RATIOS
Regulatory CBI Minimum Current ---------- ------- Risk-based capital Tier 1 (2) 4.00% 14.17% Total (2) 8.00% 15.15% Leverage (1) (2) 4.00% 11.52% Total shareholder's equity to total assets N/A 10.34%
- ---------------------- (1) Leverage ratio is calculated by Tier 1 capital as a percentage of quarterly period end assets (2) Calculated in accordance with the Federal Reserve's capital rules, with adjustments for net unrealized depreciation on securities available for sale
LIMITS ON DIVIDENDS AND OTHER PAYMENTS. Certain state law restrictions are imposed on distributions of dividends to shareholders of CBI. CBI shareholders are entitled to receive dividends as declared by the CBI Board of Directors. However, no such distribution may be made if, after giving effect to the distribution, it would not be able to pay its debts as they become due in the normal course of business or its total assets would be less than its total liabilities. There are similar restrictions with respect to stock repurchases ad redemption's.
The Community Bank, Commerce Bank of Virginia and County Bank of Chesterfield are subject to legal limitations on capital distributions including payment of dividends, if after making such distribution, the institution would become undercapitalized (as such term is used in the statute). For all state member banks of the Federal Reserve seeking to pay dividends, the prior approval
of the applicable Federal Reserve Bank is required if the total of all dividends in any calendar year will exceed the sum of the bank's net profits for that year and its retained net profits for the preceding two calendar years. Federal law also generally prohibits a depository institution from any capital distribution (including payment of a dividend or payment of a management fee to its holding company) if the depository institution would thereafter fail to maintain capital above regulatory minimums. Federal Reserve Banks are also authorized to limit the payment of dividends by any state member bank if such payment may be deemed to constitute an unsafe or unsound practice. In addition, under Virginia law no dividend may be declared or paid that would impair a Virginia chartered bank's paid-in capital. The Virginia SCC has general authority to prohibit payment of dividends by a Virginia chartered bank if it determines that the limitation is in the public interest and is necessary to ensure the banks financial soundness.
Most of the revenues of CBI and CBI's ability to pay dividends to its shareholders will depend on the dividends paid to it by it's subsidiary banks, The Community Bank, Commerce Bank of Virginia and County Bank of Chesterfield. Based on the subsidiary banks' current financial condition, CBI expects that the above-described provisions will have no impact on its ability to obtain dividends from the subsidiary banks or on CBI's ability to pay dividends to its shareholders. At December 31, 1998, the subsidiary banks had $10.569 million of retained earnings legally available for the payment of dividends to CBI.
In addition to the regulatory provisions regarding holding companies addressed above, The Community Bank, Commerce Bank of Virginia and County Bank of Chesterfield are subject to extensive regulation as well. The following discussion addresses certain primary regulatory considerations affecting the subsidiary banks.
The banks are regulated extensively under both federal and state laws. The banks are organized as Virginia chartered banking corporations and are regulated and supervised by the Bureau of Financial Institutions of the Virginia SCC. As members of the Federal Reserve System as well, the banks are regulated and supervised by the Federal Reserve Bank of Richmond. The Virginia SCC and the Federal Reserve Bank of Richmond conduct regular examinations of the banks, reviewing such matters as the adequacy of loan loss reserves, quality of loans and investments, management practices, compliance with laws, and other aspects of their operations. In addition to these regular examinations, the banks must furnish the SCC and the Federal Reserve with periodic reports containing a full and accurate statement of its affairs. Supervision, regulation and examination of banks by these agencies are intended primarily for the protection of depositors, rather than shareholders.
INSURANCE OF ACCOUNTS, ASSESSMENTS AND REGULATION BY THE FDIC. The Community Bank, Commerce Bank of Virginia and County Bank of Chesterfield are insured up to $100,000 per insured depositor (as defined by law and regulation) through the BIF, which is administered and managed by the FDIC. As insurer, the FDIC is authorized to conduct examinations of and to require reporting by BIF insured institutions. The actual assessment to be paid by each BIF member is based on the institution's assessment risk classification and whether the institution is considered by its supervisory agency to be financially sound or to have supervisory concerns.
The FDIC is authorized to prohibit any BIF insured institution from engaging in any activity that the FDIC determines by regulation or order to pose a serious threat to the respective insurance fund. Also, the FDIC may initiate enforcement actions against banks, after first giving the institution's primary regulatory authority an opportunity to take such action. The FDIC my terminate the deposit insurance of any institution if it determines, after a hearing, that the institution has engaged or is engaging in unsafe or unsound practices, is in an unsafe or unsound condition to continue operations, or has violated any applicable law, regulation, order or any condition imposed in writing by the FDIC. It may also suspend deposit insurance temporarily during the hearing process for the permanent termination of insurance, if the institution has no tangible capital. If deposit insurance is terminated, the deposits at the institution at the time of termination, less subsequent withdrawals, shall continue to be insured for a period of six months to two years, as determined by the FDIC. Management is aware of no existing circumstances that could result in the termination of any of the bank's deposit insurance.
OTHER SAFETY AND SOUNDNESS REGULATIONS. The Federal banking agencies have broad powers under federal law to take prompt corrective action to resolve problems of insured depository institutions. The extent of these powers depends upon whether the institutions in question are well capitalized, adequately capitalized, undercapitalized, significantly undercapitalized or critically undercapitalized, as such terms are defined under uniform regulations defining such capital levels issued by each of the federal banking agencies.
In addition, FDIC regulations require that management report on the institution's responsibility to prepare financial statements, and to establish and maintain an internal control structure and procedures for financial reporting and compliance with designated laws and regulations concerning safety and soundness; and that independent auditors attest to and report separately on assertions in management's reports concerning compliance with such laws and regulations, using FDIC approved audit procedures.
Each of the federal banking agencies also must develop regulations addressing certain safety and soundness standards for insured depository institutions and depository institutions holding companies, including compensation standards, operational and managerial standards, asset quality, earnings and stock valuation. The federal banking agencies have issued a joint notice of proposed rule making,, which requested comment on the implementation of these standards. The proposed rule sets forth general operational and management standards in the areas of internal control, information systems and internal audit systems, loan documentation, credit underwriting interest rate exposure, asset growth and compensation, fees, and benefits. The proposal contemplates that each federal agency would determine compliance with these standards through the examination process and, if necessary to correct weaknesses, require an institution to file a written safety and soundness compliance plan. CBI has not yet determined the effect that the proposed rule would have on its depository institution subsidiaries if it is enacted substantially as proposed.
COMMUNITY REINVESTMENT. The requirements of the Community Reinvestment Act (CRA) affect the subsidiary banks. The CRA imposes on financial institutions an affirmative and ongoing obligation to meet the credit needs of their local communities, including low and moderate income neighborhoods, consistent with the safe and sound operation of those institutions. Each financial institution's efforts in meeting community credit needs currently are evaluated as part of the examination process pursuant to twelve assessment factors. These factors also are considered in evaluating mergers, acquisitions and applications to open a branch or facility. Each of the subsidiary banks maintains a satisfactory rating in meeting its obligations under CRA.
Item 2.
Item 2. Properties
CBI's offices and The Community Bank's main office are located in two 3,500 square foot condominiums in a seven story masonry building located at 200 North Sycamore Street, Petersburg, Virginia. The Community Bank's branch office at 2618 South Crater Road in Petersburg was opened in 1979. The branch office at 2000 Snead Avenue, Colonial Heights, was opened in 1984. The branch office at 4203 West Hundred Road, Chester was opened in 1985. The Community Bank owns the land and buildings in which the Sycamore Street, South Crater Road and West Hundred Road branches operate and leases the Snead Avenue facility.
The Community Bank's facilities and equipment are considered adequate for its immediate needs and for foreseeable expansion.
Commerce Bank of Virginia's principal office is located at 11500 West Broad Street in Henrico County, Virginia. The Hanover branch office at 10035 Sliding Hill Road, Ashland (Hanover County) opened in 1988 The Riverfront Tower branch office at 901 East Byrd Street, Richmond, opened in 1992. The Goochland Courthouse branch office at 3018 River Road West, Goochland County opened in 1993. The Centerville branch office at 27 Broad Street Road, Goochland County opened in 1993.
Commerce Bank of Virginia holds the real property at its principal office pursuant to a ground lease and owns the improvements that have been constructed thereon. The Hanover branch is owned by the Atlee Station Co., of which Sam T. Beale, a Director of CBI, is the principal shareholder. The bank also leases the space where the Riverfront Towers branch is located. Commerce Bank of Virginia owns the property for its two Goochland County branches.
Commerce Bank of Virginia's facilities and equipment are considered adequate for its immediate needs and for foreseeable expansion.
County Bank of Chesterfield's principal office is located at 10400 Hull Street Road, Midlothian (Chesterfield County). In 1988 the bank opened its
branch office at 6435 Ironbridge Road in Chesterfield County. A third branch office located at 13241 River's Bend Blvd, Chesterfield County, was opened in 1997. The bank owns all three locations.
County Bank of Chesterfield's facilities and equipment are considered adequate for its immediate needs and for foreseeable expansion.
Item 3.
Item 3. Legal Proceedings.
None
Item 4.
Item 4. Submission of Matters to Vote of Security Holders.
None
Item 5.
Item 5. Market for Company's Common Stock and Related Stockholder Matters.
As of December 31, 1998 CBI had 1644 shareholders of record of its Common Stock.
The following table sets forth, for the quarters indicated, the high and low sale prices for CBI Common Stock. The company's common stock trades on The Nasdaq Stock Market under the symbol CBIV. The stock began trading on Nasdaq on July 1, 1997. Prior to that date the stock was traded on the OTC Bulletin Board.
CBI MARKET PRICE AND DIVIDENDS
Sales Price (1) Dividends (1) --------------- ------------- High Low ---- --- 1st quarter 15.500 12.250 12 2nd quarter 17.000 14.000 3rd quarter 18.500 15.500 4th quarter 19.500 17.000
1st quarter 19.500 17.250 2nd quarter 19.000 16.250 .20 3rd quarter 22.250 17.750 4th quarter 28.000 21.750 .15
1st quarter 30.000 25.000 .12 2nd quarter 31.000 27.250 .12 3rd quarter 28.750 24.500 .13 4th quarter 28.000 23.000 .15
- ----------- (1) All prices and dividends are adjusted for a 100% stock dividend paid on August 31, 1995.
The Community Bank acts as the Transfer/Dividend Disbursing Agent for Community Bankshares Incorporated.
DIVIDENDS
The Company declared total dividends of $1,444,000, $859,000 and $279,000 on its Common Stock during 1998, 1997 and 1996, respectively.
LIMITS ON DIVIDENDS AND OTHER PAYMENTS
As noted in Item 1., Business, The Community Bank, Commerce Bank of Virginia and County Bank of Chesterfield are limited in the amount of dividends it may pay to CBI in any given year. At December 31, 1998, the subsidiary banks had $10.569 million of retained earnings legally available for the payment of dividends to CBI.
Item 6.
Item 6. Selected Financial Data.
The following table presents a Comparative Summary of Earnings of the Company for the five years ended December 31, 1998. These statements should be read in conjunction with the Consolidated Financial Statements and Related Notes appearing in Item 8 of this filing.
COMMUNITY BANKSHARES INCORPORATED SELECTED HISTORICAL FINANCIAL INFORMATION
- ----------------------------------- (1) All per share information has been restated to reflect a 2 for 1 stock split effected in the form of a 100% stock dividend paid August 31, 1995. (2) Net interest margin is calculated as tax-equivalent net interest income divided by average earning assets and represents the net yield on its earning assets.
Item 7.
Item 7. Management's Discussion and Analysis of Financial Condition and Results of Operations
The following discussion provides information about the major components of the results of operations and financial condition, liquidity and capital resources of Community Bankshares Incorporated. This discussion and analysis should be read in conjunction with the Consolidated Financial Statements and the Notes to Consolidated Financial Statements.
OVERVIEW. Net income for the year ended December 31, 1998 of $4.992 million was an increase of 16.9%, or $0.720 million over the year ended December 31, 1997. The increase in net income during 1998 reflects primarily an increase in the lending volume, as total net loans increased by $24.567 million. Earnings per share for the year ended December 31, 1998 was $1.80 up from $1.54 for the year ended December 31, 1997. CBI has shown an increase of 116% in net income over the five years ended December 31, 1998, from $2.313 million in 1994 to $4.992 million during 1998. The increase in income over the past five years is attributable to the 45% growth in the loan portfolio. As total assets grew from $202.426 million in 1994 to $329,912 million as of December 31, 1998, net loans grew from $137.462 million to $200.558 million.
The Company increased net income 9.01% or $0.385 million during 1997 over 1996. This increase was attributable to an increase in the net interest income. Net income during 1996 of $3.887 million was a 30.4% increase over 1995. On a per share basis, net income was $1.42 in 1996.
The Company's return on average equity has increased while the return on average assets has remained fairly constant over the past three years. The return on average equity was 15.32% for the year ended December 31, 1998. The return on average equity was 14.62% in 1997, compared to 14.94% for 1996. The return on average assets amounted to 1.69%, 1.66% and 1.63% for the three years ended December 31, 1998, 1997, and 1996, respectively.
NET INTEREST INCOME. Net interest income represents the principal source of earnings for Community Bankshares, Inc. Net interest income equals the amount by which interest income exceeds interest expense. Changes in the volume and mix of interest-earning assets and interest-bearing liabilities, as well as their respective yields and rates, have a significant impact on the level of net interest income.
Net interest income increased 12.26% to $14.165 million in 1998. This increase was attributable to an 15.43% growth in average earning assets. The increase in interest-earning assets was due primarily to increases in the securities and lending volume. During the five years ended December 31, 1998, the Company has had a consistent increase in loan demand. It is management's belief that the increase in the lending volume is a result of competitive pricing and, most importantly, responsiveness to loan demands. The ability to make a timely loan decision is an operating characteristic that often allows CBI the opportunity to meet the needs of borrowers before their competitors. Rates earned on average earning assets were 8.73% during 1998 as compared to8.98% one year earlier. The Company is competitive with rates and origination fees charged on loans. However, since 66.79% of the Company's loan portfolio may be repriced in one year or less, the Company may respond quickly to market changes in rates.
Interest expense for the year ended December 31, 1998 increased by 11.64%, to $9.657 million from $8.650 million for the year ended December 31, 1997. This increase was due to an increase of 17.89% in average interest bearing liabilities from $182.472 million during 1976 to $215.125 million in 1998. The interest rate paid on interest-bearing liabilities declined for the year, to 4.49% for 1998 compared to 4.74% in 1997.
Net interest income was $12.618 million for the year ended December 31, 1997, an increase of 7.74% over the $11.712 million reported in 1996. This increase was partially due to the 6.04% increase in average interest-earning assets. Again, the increase in the lending volume was the most significant portion of the increase in average interest earning assets with a 8.33% increase. During 1997 interest expense increased by $0.302 million to $8.650 million. This increase was a result of an increase deposit volume.
The following table sets forth CBI's average interest-earning assets (on a tax equivalent basis) and average interest-bearing liabilities, the average yields earned on such assets and rates paid on such liabilities, and the net interest margin, for the periods indicated:
AVERAGE BALANCE SHEETS, INTEREST INCOME AND EXPENSE, YIELDS AND RATES
- ---------------
(1) Computed on an annualized fully taxable equivalent basis. (2) Net interest income is the difference between income from earning assets and interest expense. (3) Net interest yield is net interest income divided by total average earning assets. (4) Interest spread is the difference between the average interest rate received on earning assets and the average interest rate paid for interest-bearing liabilities. (5) Average loan balances include non-accrual loans. (6) Average balances are computed on monthly balances and management believes such balances are representative of the operations of the Bank.
Interest income and interest expense are affected by changes in both average interest rates and average volumes of interest-earning assets and interest-bearing liabilities. The following table analyzes changes in net interest income attributable to changes in the volume of interest-bearing assets and liabilities compared to changes in interest rates. Nonaccruing loans are included in average loans outstanding. The change in interest due to both rate and volume has been allocated to change due to volume and change due to rate in proportion to the relationship of the absolute dollar amounts of the change in each.
VOLUME AND RATE ANALYSIS
(1) Computed on an annualized fully taxable equivalent basis.
INTEREST SENSITIVITY. An important element of both earnings performance and the maintenance of sufficient liquidity is management of the interest sensitivity gap. The interest sensitivity gap is the difference between interest-sensitive assets and interest-sensitive liabilities in a specific time interval. The gap can be managed by repricing assets or liabilities, by replacing an asset or liability at maturity or by adjusting the interest rate during the life of an asset or liability. Matching the amounts of assets and liabilities repricing in the same interval helps to hedge the risk and minimize the impact on net interest income in periods of rising or falling interest rates.
The objective of interest sensitivity management is to provide flexibility in controlling the response of both rate-sensitive assets and liabilities to wide and frequent fluctuations in market rates of interest so that the effect of such swings on net interest income is minimized. The most important part of this objective is to maximize earnings while keeping risks within defined limits. To reduce the impact of changing interest rates as much as possible, CBI attempts to keep a large portion of its interest-sensitive assets and liabilities in generally shorter maturities, usually one year or less. This allows CBI the opportunity to adjust interest rates as needed to react to the loan and deposit market conditions.
Management evaluates interest sensitivity through the use of a static gap model on a monthly basis and then formulates strategies regarding asset generation and pricing, funding sources and pricing, and off-balance sheet commitments in order to decrease sensitivity risk. These strategies are based on management's outlook regarding interest rate movements, the state of the
regional and national economies and other financial and business risk factors. In addition, the Company establishes prices for deposits and loans based on local market conditions and manages its securities portfolio with policies set by itself.
The following tables present CBI's Interest Rate Sensitivity Analysis as of December 31, 1998:
INTEREST RATE SENSITIVITY ANALYSIS
The December 31, 1998 results of the rate sensitivity analysis show CBI had $45.130 million more in liabilities than assets subject to repricing within three months or less and was, therefore, in a liability-sensitive position. The cumulative gap at the end of one year was a negative $27.493 million, and, therefore is a liability-sensitive position. The one year negative gap position reflects a loan portfolio that is weighted predominantly in shorter maturities. Approximately $135.524 million, or 66.79% of the total loan portfolio, matures or reprices within one year or less. An asset-sensitive institution's net interest margin and net interest income generally will be impacted favorably by rising interest rates, while that of a liability-sensitive institution generally will be impacted favorably by declining rates.
NONINTEREST INCOME. For the year ended December 31, 1998 noninterest income increased by $0.607 million, or 36.43% to $2.273 million. This increase was attributed mainly to an increase in service charges of $181,000 and gains on the sale of securities of $164,000. Noninterest income for the year ended December 31, 1997 was $1.666 million, an decrease of $17,000 from 1996. This decrease is primarily attributable to a "one time" loss on the sale of other real estate in the amount of $32,000.
Noninterest income for 1996 increased 4.9% or $80,000 from 1995. This increase is primarily attributable to a "one time" gain on the sale of other real estate in the amount of $55,000.
NONINTEREST EXPENSE. Noninterest expense of $8.840 million for the year ended December 31, 1998 was an increase of 10.61%. Salaries and employee benefits, the largest single component of noninterest expense, had an increase of 15.23% for the year
For 1997, noninterest expense increased by $0.728 million or 10.02% over 1996. Salaries and employee benefits increased by $0.447 million or 11.31%.
During the year ended December 1996, noninterest expenses increased by 3.92% or $0.274 million from $6.990 million during 1995 to $7.264 million in 1996. The majority of the increase was due to an increase in salaries and employee benefits of 8.27% or $0.302 million from $3.651 million to $3.953 million. This increase was largely associated with the continuation of various incentive and bonus plans adopted by the Company during prior years.
INCOME TAXES. The provision for income taxes for the year ended December 31, 1998 was $2.153 million a 9.40% increase from the previous year. The increase in the provision was due to the increase in taxable income.
The income tax provision for the year ended December 31, 1997 was $1.968 million, up from $1.712 million for the year ended December 31, 1996.
LOAN PORTFOLIO. CBI's loan portfolio is comprised of commercial loans, real estate loans, home equity loans, consumer loans, participation loans with other financial institutions, and other miscellaneous types of credit. The primary markets in which CBI makes loans are generally in areas contiguous to its branch locations in the Cities of Petersburg and Colonial Heights, and Chesterfield County. The philosophy is consistent with CBI's focus on providing community-based financial services.
LOAN PORTFOLIO
The following table shows the maturity of loans, net of unearned income, outstanding as of December 31, 1998. Also provided are the amounts due after one year classified according to the sensitivity to changes in interest rates. Loans are classified based upon the period in which the payments are due.
LOAN MATURITY SCHEDULE
As of December 31, 1998, the loan portfolio was $202.903 million, net of unearned income, an increase from the prior year of 14.00% or $24.921 million. Real estate lending continues to be the bulk of the portfolio with loans secured by real estate comprising 55.89% of total loans. Commercial loans comprise 30.61% of total loans.
Loans, net of unearned income, were $177.982 million at December 31, 1997, up $13.121 million or 7.96% from $164.861 million at December 31, 1996. The growth in commercial loans of $5.604 million and in real estate loans, which increased $4.141 million accounted for 74.27% of the growth.
Loans secured by real estate comprise 59.70% of total loans at December 31, 1997 and 61.81% at December 31, 1996.
The Company's unfunded loan commitments amounted to $34.553 million as of December 31, 1998, down from $36.775 million at December 31, 1997.. Fixed rate committments were $9.964 million and $11.192 million as of December 31, 1998 and 1997, respectively. The average rates charged on the fixed rate committments were 8.0% - 10.5% for the years then ended.
ANALYSIS OF THE ALLOWANCE FOR LOAN LOSSES. The allowance for loan losses is an estimate of an amount adequate to provide for potential losses in the loan portfolio of the Bank. The level of loan losses is affected by general economic trends, as well as conditions affecting individual borrowers. The allowance is also subject to regulatory examinations and determinations as to adequacy, which may take into account such factors as the methodology used to calculate the allowance and the size of the allowance in comparison to peer companies identified by regulatory agencies.
The provision for loan losses for the year ended December 31, 1998 was $453,000, an increase of $401,000 over the previous year. Management charged income for the provision deemed necessary based on its analysis of the loan portfolio. After reviewing the nonperforming loans and specifically nonaccrual loans, management feels the current year provision increases the allowance for loan losses to the desired level to cover potential losses. The Company had charge-offs, net of recoveries, of $99,000 during 1998, an increase of $38,000 over the previous year. This increase was the result of normal changes in the loan portfolio and local economic conditions. Management does not anticipate any abnormal changes in the delinquency rates or charge-offs and recoveries in connection with it's normal loan operations procedures. It is management's opinion that the allowance for loan losses is adequate to absorb any future losses that may occur.
The provision for loan losses totaled $52,000 for the year ended December 31, 1997, a decrease of $480,000 from the previous year. The Company had charge-offs, net of recoveries, of $61,000 during 1997, a decrease of $321,000 over the previous year. After consideration of these factors, management recorded a provision for loan losses that would provide coverage for potential losses.
The provision in 1996 increased to $532,000 as compared to $492,000 in 1995. This increase of $40,000 reflected management's review of the loan portfolio and the amount needed to maintain the reserve at acceptable levels to cover potential losses.
As of December 31, 1998, the allowance for loan losses was $2.345 million up from $1.991 million at December 31, 1997 The allowance as of December 31, 1997 was down $9,000 from the $2.000 million at December 31, 1996. The ratio of the allowance for loan loss to total loans, net of unearned income, has remained relatively constant over the last three years; 1.16% at December 31, 1998, 1.12% at December 31, 1997, and 1.21% at December 31, 1996.
The multiple of the allowance for loan losses to nonperforming assets was .69x at December 31, 1998, .48x at December 31, 1997 and .55x at December 31, 1996. Management continually evaluates nonperforming loans relative to their collateral value and makes appropriate reductions in the carrying value of those loans based on that review.
The allowance for loan losses related to loans identified as impaired is primarily based on the excess of the loan's current outstanding principal balance over the estimated fair market value of the related collateral. For a loan that is not collateral-dependent, the allowance is recorded at the amount by which the outstanding principal balance exceeds the current best estimate of the future cash flows on the loan discounted at the loan's effective interest rate. At December 31, 1998 and 1997, the Corporation had loans totaling approximately $1.104 million and $0.883 million, respectively, for which impairment had been recognized. Of the total loans impaired, $37,215 and $79,000, respectively, were valued on the present value of future cash flows and $1.067 million and $0.754 million, respectively, were valued according to the underlying collateral. The average balance of the impaired loans amounted to approximately $1.274 million and $1.122 million for the years ended December 31, 1998 and 1997, respectively. The allowance for loan losses related to these loans totaled approximately $372,000 and $225,000 at December 31, 1998 and 1997, respectively.
The following table summarizes changes in the allowance for loan losses:
SUMMARY OF LOAN LOSS EXPERIENCE
A breakdown of the allowance for loan losses is provided in the following table; however, such a breakdown has not historically been maintained by the Bank and management does not believe that the allowance can be fragmented by category with any precision that would be useful to investors. The entire amount of the allowance is available to absorb losses occurring in any category. The allowance is allocated below based on the relative percentage in each category to total loans.
COMPOSITION OF ALLOWANCE FOR LOAN LOSSES
Management has allocated the allowance according to the amount deemed to be reasonably necessary to provide for the possibility of losses being incurred. The allocation of the allowance as shown in the table above should not be interpreted as an indication that loan losses in future years will occur in the same proportions or that the allocation indicates future loan loss trends. Furthermore, the portion allocated to each loan category is not the total amount available for future losses that might occur within such categories since the total allowance is a general allowance applicable to the entire portfolio.
NONPERFORMING ASSETS. Total nonperforming assets, which consist of nonaccrual loans, restructured loans, loans 90 days or more past due, and other real estate owned were $3.392 million at December 31, 1998 a decrease of $0.734 million from one year earlier. Total nonperforming assets were $4.126 million at December 31, 1997, an increase of $0.476 million over December 31, 1996.
NONPERFORMING ASSETS
The following table summarizes all nonperforming loans, by loan type as of December 31, 1998:
Number of Principal (Dollars in thousands) Loans Balance - -------------------------------------------------------------- Residential mortgage 26 $1,802 Installment loans 19 200 Commercial loans 13 399 Credit cards - - ----------------- 58 $ 2,401 =================
Loans, including impaired loans, are generally placed in nonaccrual status when loans are delinquent in principal and interest payments greater than 90 days and the loan is not well secured and in process of collection. Accruals of interest are discontinued until it becomes certain that both principal and interest can be repaid. As shown in the above table, the Company does have loans that are contractually past due greater than 90 days that are not in nonaccrual status, however, those loans are still accruing because they are well secured and in the process of collection. A loan is well secured if collateralized by liens on real or personal property, including securities, that have a realizable value sufficient to discharge the debt in full or by the guarantee of a financially responsible party.
As of December 31, 1998, total nonperforming loans have decreased by $0.512 million, to $2.401 million from $2.913 million on December 31, 1997.
If foreclosure of property is required, the property is generally sold at a public auction in which CBI may participate as a bidder. If the CBI is the successful bidder, the acquired real estate property is then included in the CBI's real estate owned account until it is sold.
INVESTMENT SECURITIES. The securities portfolio is maintained to manage excess funds in order to provide diversification and liquidity in the overall asset management policy. The maturity of securities purchased are based on the needs of the Company and current yields and other market conditions.
Securities are classified as held-to-maturity when management has the positive intent and the CBI has the ability at the time of purchase to hold them until maturity. These securities are carried at, cost adjusted for amortization of premium and accretion of discount.
Securities to be held for indefinite periods of time and not intended to be held-to-maturity or on a long-term basis are classified as available-for-sale and accounted for at fair market value on an aggregate basis. Unrealized gains or losses are reported as increases or decreases in stockholders' equity, net of the related deferred tax effect. CBI does not buy with the intent of trading and, accordingly, does not maintain a Trading Account. Gains and losses on the sale of securities are determined by the specific identification method.
The book value of the investment portfolio as of December 31, 1998 was $71.734 million compared to $57.508 million at December 31, 1997.
The following tables show the amortized cost, fair market value, maturity distribution, and yield of the investment portfolio as of December 31,1998 and 1997: SECURITIES PORTFOLIO
The maturity distribution, book value, market value, and yield of the total investment securities portfolio at December 31, 1998 and 1997 are presented as follows:
DEPOSITS. Deposits at December 31, 1998 were $294.002 million, up $56.473 million from 1997, an increase of 23.78%. The growth in deposits was led by the 21.89% increase in interest-bearing deposits, which increased from $196.615 million at December 31, 1997 to $239.645 million at December 31, 1998. Noninterest-bearing deposits were 18.49% of total deposits at December 31, 1998. At December 31, 1998, savings deposits had grown by $14.335 million, an increase of 41.39% over December 31, 1997 levels.
Deposits at December 31,1997 were $237.529 million, a7.04% increase from 1996. Noninterest-bearing deposits were 17.22% of total deposits at December 31, 1997 compared to 17.62% at December 31, 1996.
DEPOSITS ANALYSIS
MATURITY OF CDS OF $100,000 AND OVER
CAPITAL RESOURCES. The adequacy of the CBI's capital is reviewed by management on an ongoing basis with reference to the size, composition and quality of the Company's asset and liability levels and consistency with regulatory requirements and industry standards. Management seeks to maintain a capital structure that will assure an adequate level of capital to support anticipated asset growth and absorb potential losses.
The primary source of capital for CBI is internally generated retained earnings. Stockholders' equity increased 9.96% in 1998 over 1997. Similarly, stockholders' equity increased 12.09% in 1997 over 1996. The following table highlights certain ratios for the periods indicated:
RETURN ON EQUITY AND ASSETS
The FDIC has adopted capital guidelines to supplement the existing definitions of capital for regulatory purposes and to establish minimum capital standards. Specifically, the guidelines categorize assets and off-balance sheet items into four risk-weighted categories. The minimum ratio of qualifying total capital to risk-weighted assets is 8.0% of which at least 4.0% must be Tier 1 capital, composed of common equity, retained earnings and a limited amount of perpetual preferred stock, less certain goodwill items. CBI had a ratio of total capital to risk-weighted assets of 15.15% at December 31, 1998 and a ratio of Tier 1 capital to risk-weighted assets of 14.17%. Both of these exceed the capital requirements adopted by the federal regulatory agencies.
ANALYSIS OF CAPITAL
LIQUIDITY. Liquidity represents an institution's ability to meet present and future financial obligations through either the sale or maturity of existing assets or the acquisition of additional funds through liability management. Liquid assets include cash, interest-bearing deposits with banks, federal funds sold, investment in Treasury securities, and loans maturing within one year. As a result of the Company's management of liquid assets and the ability to generate liquidity through liability funding, management believes that the Company maintains overall liquidity sufficient to satisfy its depositors' requirements and meet its customers' credit needs.
For the year ended December 31, 1998 the Company provided cash or liquidity from operations in the amount of $5.398 million. This increase in funds in addition to a $56.473 million increase in deposits has given the Company approximately $61.941 million in funds available for investment during 1998. In determining investment strategies management considers objectives for the composition of the loan and investment portfolio, such as type, maturity distribution, and fixed or variable interest rate characteristics of investment opportunities. Management's use of funds has included the funding of a $25.092 million increase in net loans and the net purchase of $14.055 million of securities. With 66.79% of the loan portfolio repricing or maturing in the next twelve months the Company has enough asset liquidity to meet the needs of maturing deposits.
IMPACT OF INFLATION AND CHANGING PRICES. The consolidated financial statements and related data presented have been prepared in accordance with generally accepted accounting principles, which require the measurement of the financial position and operating results of CBI in terms of historical dollars, without considering changes in the relative purchasing power of money over time due to inflation.
Virtually all of the assets of CBI are monetary in nature. As a result, interest rates have a more significant impact on a financial institution's performance than the effects of general levels of inflation. Interest rates do not necessarily move in the same direction or with the same magnitude as prices of goods and services.
CURRENT ACCOUNTING DEVELOPMENTS. In June 1998, FASB issued Statement No. 133, "Accounting for Derivative Instruments and Hedging Activities". The Statement establishes accounting and reporting standards requiring that derivative instruments (including certain derivative instruments embedded in other contracts) be recorded on the balance sheet as either assets or liabilities measured at fair value. FASB No. 133 requires that changes in the derivative's fair value be recognized currently in earnings unless specfic hedge accounting criteria are met. Special accounting for qualifying hedges allows a derivative's gains or losses to offset related changes in value of the hedged item in the income statment and requires that a company document, designate, and assess the effectiveness of transactions that qualify for hedge accounting. FASB No. 133 is effective for fiscal years beginning after June 15, 1999. A company may also implement the Statement as of the beginning of any fiscal quarter after its issuance (thet is, fiscal quarters beginning June 16, 1998 and thereafter). FASB No. 133 cannot be applied retroactively; it must be applied to (a) derivative instruments and (b) certain derivative instruments embedded in hybrid contracts that were issued, acquired, or substantively modified after December 31, 1997 (and, at the company's election, before January 1, 1998). CBI has not yet quantified nor determined the extent to which the Statement will alter its use of certain derivatives in the future and the impact on its financial position or results of operations.
YEAR 2000 ISSUES. The Year 2000 Issue (commonly referred to as "Y2K") is the result of computer programs being written using two digits, rather than four digits, to define the applicable year. The Y2K issue, which is common to most corporations, including banks, concerns the inability of information systems, primarily (but not exclusively) computer software programs, to properly recognize and process date-sensitive information as the Year 2000 approaches and beyond. The following constitutes CBI's Y2K readiness disclosure under the Year 2000 Information and Readiness Disclosure Act.
Since CBI's subsidiary bank's information systems functions are either outsourced to service providers or processed on in-house computer systems using programs developed by third-party vendors, the direct effort to correct Y2K issues will be undertaken largely by third parties and will therefore not be totally within CBI's direct control. CBI expects to bring all of its mission critical operating systems into compliance with Y2K requirements through the installation of updated or replacement programs developed by third parties.
CBI began addressing the Y2K issue in the fall of 1997 when its subsidiary banks formed Y2K project teams comprised of financial, operations, data processing and loan servicing personnel. A Y2K Plan of Action was developed by each bank and approved by the respective Boards of Directors and by the Board of Directors of CBI in 1997. The Board of Directors receive quarterly Year 2000 status reports on all mission critical systems and their related testing details.
The Y2K Project Teams have completed an assessment, identified all mission critical systems and created a tracking system which identifies all third party vendors and their Y2K compliance status and their Y2K compliant version of all bank installed systems. Mission critical systems include hardware, software programs, program interfaces, operating systems along with other mechanical or computer-generated requirements that are beyond CBI's main central processing systems. Based on the results of the assessments, CBI's subsidiary banks have established internal time frames to upgrade or replace its existing hardware and software systems. The subsidiary banks will utilize internal and external resources to test the software and systems for Year 2000 modifications and compliance. CBI has completed approximately 75% of the planned upgrades as of December 31, 1998, and expects to be 100% complete by March 31, 1999. All of CBI's subsidiary banks expect to be fully Y2K compliant before September 31, 1999.
CBI's plan to resolve the Y2K issue was developed along the five phase project management process outlined in the Federal Financial Institutions Examination Council (FFIEC) Year 2000 statement dated May 5, 1997 which consisted of:
1. Awareness. This phase defined the Y2K issue for all CBI Directors, Officers and employees and made them aware of the potential challenges associated with the century date change. This phase has been completed.
2. Assessment. This phase consisted of an extensive evaluation of the size and complexity of the Y2K issue and an identification of all systems software and hardware that had Y2K implications on continuing operations. During this phase all mission critical vendors were identified and an ongoing monitoring process was initiated. This phase has been completed and the vendor monitoring process is ongoing.
3. Renovation. This phase consisted of upgrading, repairing or replacing all mission critical systems and hardware, along with the installation of upgraded and enhanced computer software provided by third party vendors. All
mission critical third party systems have either been replaced or upgraded with a Y2K compliant product or are scheduled for completion by March 31, 1999. All non critical software applications that are effected by the Y2K problem have been identified and will be upgraded to compliant systems by June 30, 1999. 4. Validation. This is the testing phase of the Y2K project. The Y2K Project Teams have developed and implemented test plans for all mission critical systems and will document the test results for review and certification before any new or upgraded system will be released into daily operations. This phase of the plan will be completed by June 30, 1999. 5. Implementation. This is the phase that involves incorporating all Y2K compliant systems into the daily operating environment and is ongoing.
CBI's subsidiary banks have also developed contingency plans that outline emergency response procedures that meet federal guidelines and protect the company's ability to continue to operate. Existing contingency procedures attempt to cover every aspect of the date change transition. The goal of contingency planning is to facilitate the resumption of business in the event there is a disruption of critical systems necessary for regular operations.
Although CBI' Project Teams are monitoring the progress of the Y2K Plan, outside regulators and auditors continue to examine our Year 2000 readiness programs.
The chief components of CBI's expense related to the Y2K issue are currently believed to be the replacement of personal computer equipment and the purchase or upgrade of third party software. External maintenance and internal modification costs will be expensed as incurred. Costs of new hardware and software will be capitalized and depreciated in accordance with existing policies. Management expects to incur costs in the range of $75,000 to $150,000 on its Y2K readiness effort. Through December 31, 1998, CBI has expended approximately $55,000. Costs of the Y2K project are based on current estimates and actual results could vary significantly once detailed testing is completed. If the Y2k Plan is unsuccessful, it may have a material, adverse effect on CBI's future operating results and financial condition.
Recognizing the importance of customer awareness, CBI's subsidiary banks have undertaken communications projects with all of its deposit and loan customers by including information about the Year 2000 issues in regular statement mailings. Also, letters have been sent to major commercial loan customers informing them of the Year 2000 issue and how it can impact businesses. An overall assessment of Y2K readiness of CBI's commercial loan customers has been completed, with an overall assessment of low risk. CBI will continue to monitor its large commercial loan relationships through assigned account officers. Also, new and renewed commercial credits greater than $100,000 include a Y2K analysis as part of the normal underwriting decision process.
To date, CBI has not identified any system which presents a material risk of not being Year 2000 ready in a timely fashion or for which a suitable alternative cannot be implemented. However, as the company progresses with its Y2K Plan, it may identify systems which do present a material risk of Year 2000 disruption. Such disruption could include, among other things, the inability to process and underwrite loan applications, to credit deposits and withdrawals from customer accounts, to credit loan payments or track delinquencies, to properly reconcile and record daily activity or to engage in normal banking activities. Additionally, if CBI's commercial customers are not Year 2000 compliant and suffer adverse effects on their operations, their ability to meet their obligations to CBI could be adversely affected. The failure of CBI to identify systems which require Year 2000 hardware or software upgrades that are critical to ongoing operations or the failure of CBI or others with which CBI does business to become Year 2000 ready in a timely manner could have a material adverse impact on CBI's financial condition and results of operations. In addition, to the extent that the risks poised by the Year 2000 problem are pervasive in data processing and transmission and communications services worldwide, CBI cannot predict with any certainty that its operations will remain materially unaffected after January 1, 2000.
FORWARD LOOKING STATEMENTS
The preceding "Business", "Legal Proceeding" and "Management's Discussion and Analysis of Financial Condition and Results of Operations" sections of this Form 10-K contain various "forward looking statements" within the meaning of Section 27A of the Securities Act of 1933, as amended, and Section 21E of the Securities Exchange Act of 1934, as amended, which represents CBI's expectations and beliefs concerning future events including, without limitation, the following: the Company's efforts in retaining and expanding its customer base and differentiating it from its competition; the FDIC insurance premium assessments for 1999; the impact from liabilities arising from legal proceedings on its financial condition; the impact of certain securities sales, and interest rates in general, on the volatility of its net interest income; the impact of policy guidelines and strategies on net interest income based on future interest rate projections; the ability to provide funding sources for both the Bank and the Parent Company; the benefits of 1998 merger activity on future years' overhead expense; the impact of portfolio diversification and the outplacement of high risk loans on future levels on loan losses; the reversal in the trend of competition for real estate-commercial loans and the effect of loan growth generally on the improvement in net interest income; the assessment of its provision and reserve for loan loss levels based upon future changes in the composition of its loan portfolio, loan losses, collateral value and economic conditions; and Management's assessment of the impact of the Year 2000 on the financial condition, results of operations and liquidity of the Company.
The Company cautions that these statements are further qualified by important factors that could cause actual results to differ materially from those set forth in the forward looking statements due to market, economic and other business-related risks and uncertainties affecting the realization of such statements. Certain of these risks and uncertainties included in such forward looking statements include, without limitations, the following: dynamics of the markets served in terms of competition from traditional and nontraditional financial service providers can affect both the funding capabilities of the Company in terms of deposit garnering as well as the ability to compete for loans and generate the higher yielding assets necessary to improve net interest income; future legislation and actions by the Federal Reserve Board may result in the imposition of costs and constraints on the Company through higher FDIC insurance premiums, significant fluctuations in market interest rates and operational limitations; significant fluctuations in market interest rates may affect the ability to reinvest proceeds from the maturities and prepayments on certain categories of securities and affect the overall yield of the portfolio; business expansion activities and other efforts to retain customers may increase the need for staffing and the resulting personnel expense in future periods; deviations from the assumptions used to evaluate the appropriate level of the reserve for loan losses as well as future purchases and sales of loans may affect the appropriate level of the reserve for loan losses and thereby affect the future levels of provisioning; the steps necessary to address the Year 2000 Issue include ensuring that not only CBI's automated systems, but also those of vendors and customers, can become Year 2000 compliant.
Accordingly, results actually achieved may differ materially from expected results in these statements. CBI does not undertake, and specifically disclaims, any obligation to update any forward looking statements to reflect events or circumstances occurring after the date of such statements.
Item 8.
Item 8. Financial Statements and Supplementary Data.
COMMUNITY BANKSHARES INCORPORATED
CONSOLIDATED FINANCIAL REPORT
DECEMBER 31, 1998
INDEPENDENT AUDITORS' REPORT
Board of Directors Community Bankshares Incorporated Petersburg, Virginia
We have audited the accompanying consolidated balance sheets of Community Bankshares Incorporated and subsidiaries as of December 31, 1998 and 1997, and the related consolidated statements of income, stockholders' equity, and cash flows for each of the three years in the period ended December 31, 1998. These consolidated financial statements are the responsibility of the Corporation's management. Our responsibility is to express an opinion on these consolidated financial statements based on our audits. We did not audit the 1996 financial statements of Commerce Bank of Virginia or County Bank of Chesterfield, wholly-owned subsidiaries of Community Bankshares Incorporated. Those statements were audited by other auditors whose reports have been furnished to us, and our opinion, insofar as it relates to the amounts included for Commerce Bank of Virginia and County Bank of Chesterfield as of December 31, 1996, and for the two years then ended, is based solely on the reports of the other auditors.
We conducted our audits in accordance with generally accepted auditing standards. Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the consolidated financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the consolidated financial statements. An audit also includes assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall financial statement presentation. We believe that our audits and the report of other auditors provide a reasonable basis for our opinion.
In our opinion, based on our audits and the report of other auditors, the consolidated financial statements referred to in the first paragraph present fairly, in all material respects, the financial position of Community Bankshares Incorporated and subsidiaries as of December 31, 1998 and 1997, and the results of their operations and their cash flows for each of the three years in the period ended December 31, 1998, in conformity with generally accepted accounting principles.
Mitchell, Wiggins & Company, LLP Certified Public Accountants Petersburg, Virginia January 15, 1999
COMMUNITY BANKSHARES INCORPORATED
CONSOLIDATED BALANCE SHEETS DECEMBER 31, 1998 AND 1997 (DOLLARS IN THOUSANDS)
See Notes to Consolidated Financial Statements.
COMMUNITY BANKSHARES INCORPORATED
CONSOLIDATED STATEMENTS OF INCOME YEARS ENDED DECEMBER 31, 1998, 1997 AND 1996 (DOLLARS IN THOUSANDS, EXCEPT PER-SHARE INFORMATION)
See Notes to Consolidated Financial Statements.
COMMUNITY BANKSHARES INCORPORATED
CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY YEARS ENDED DECEMBER 31, 1998, 1997 AND 1996 (DOLLARS IN THOUSANDS)
See Notes to Consolidated Financial Statements.
COMMUNITY BANKSHARES INCORPORATED
CONSOLIDATED STATEMENTS OF CASH FLOWS YEARS ENDED DECEMBER 31, 1998, 1997 AND 1996 (DOLLARS IN THOUSANDS)
(Continued)
COMMUNITY BANKSHARES INCORPORATED
CONSOLIDATED STATEMENTS OF CASH FLOWS (CONTINUED) YEARS ENDED DECEMBER 31, 1998, 1997 AND 1996 (DOLLARS IN THOUSANDS)
See Notes to Consolidated Financial Statements.
COMMUNITY BANKSHARES INCORPORATED
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE 1. SIGNIFICANT ACCOUNTING POLICIES
Nature of operations: Community Bankshares Incorporated is a bank holding company headquartered in Petersburg, Virginia. The Corporation's subsidiaries, The Community Bank, Commerce Bank of Virginia, and County Bank of Chesterfield, provide a variety of financial services to individuals and corporate customers from its branches located throughout the Richmond Metropolitan Area and Southside Virginia.
Consolidation and basis of financial statement presentation: The accompanying consolidated financial statements include the accounts of Community Bankshares Incorporated, and its subsidiaries, The Community Bank, Commerce Bank of Virginia, and County Bank of Chesterfield. All significant intercompany transactions and balances have been eliminated in consolidation.
The consolidated financial statements have been prepared in conformity with generally accepted accounting principles. In preparing the consolidated financial statements, management uses estimates and assumptions. Those estimates and assumptions affect the reported amounts of assets and liabilities, the disclosure of contingent assets and liabilities, and the reported revenues and expenses.
Material estimates that are particularly susceptible to significant change relate to the determination of the allowance for losses on loans and the valuation of real estate acquired in connection with foreclosures or in satisfaction of loans. A substantial portion of the Corporation's loans is secured by real estate in local markets. In addition, foreclosed real estate is located in this same market. Accordingly, the ultimate collectibility of a substantial portion of the Corporation's loan portfolio and the recovery of a substantial portion of the carrying amount of foreclosed real estate are susceptible to changes in local market conditions.
While management uses available information to recognize losses on loans and foreclosed real estate, future additions to the allowances may be necessary based on changes in local economic conditions. In addition, regulatory agencies, as an integral part of their examination process, periodically review the Corporation's allowances for losses on loans and foreclosed real estate. Such agencies may require the Corporation to recognize additions to the allowances based on their judgments about information available to them at the time of their examination.
Cash and cash equivalents: For purposes of reporting the consolidated statements of cash flows, the Corporation includes cash on hand, amounts due from banks, federal funds sold and all highly liquid debt instruments purchased with a maturity of three months or less as cash and cash equivalents on the accompanying consolidated balance sheets. Cash flows from deposits and loans are reported net.
The Corporation maintains amounts due from banks which, at times, may exceed federally insured limits. The Corporation has not experienced any losses in such accounts.
The Corporation is required to maintain reserve funds in cash or on deposit with the Federal Reserve Bank. The required reserve at December 31, 1998 was $2,201,000.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE 1. SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)
Investment securities: Securities are classified as held to maturity when management has the positive intent and the Corporation has the ability at the time of purchase to hold them until maturity. These securities are carried at cost adjusted for amortization of premium and accretion of discount, computed by the interest method over their contractual lives. Gains and losses on the sale of such securities are determined by the specific identification method.
Securities to be held for indefinite periods of time and not intended to be held to maturity or on a long-term basis are classified as available for sale and accounted for at market value on an aggregate basis. These include securities used as part of the Corporation's asset/liability management strategy and may be sold in response to changes in interest rates, prepayment risk, the need or desire to increase capital, to satisfy regulatory requirements and other similar factors. Unrealized gains or losses are reported as increases or decreases in stockholders' equity, net of the related deferred tax effect. Realized gains and losses of securities available for sale are included in net securities gains (losses) based on the specific identification method.
Trading securities, which are generally held for the short term in anticipation of market gains, are carried at fair value. Realized and unrealized gains and losses on trading account assets are included in interest income on trading account securities. The Corporation held no trading securities during the years ended December 31, 1998, 1997, and 1996.
Loans and allowance for loan losses: Loans are stated at the amount of unpaid principal, reduced by unearned discount and fees and an allowance for possible loan losses.
Unearned interest on discounted loans is amortized to income over the life of the loans, using the interest method. For all other loans, interest is accrued daily on the outstanding balances.
The allowance for loan losses is maintained at a level considered adequate to provide for losses that can be reasonably anticipated. The allowance is increased by provisions charged to operating expense and reduced by net charge-offs. The Corporation makes periodic credit reviews of the loan portfolio and considers current economic conditions, historical loss experience, review of specific problem loans and other factors in determining the adequacy of the allowance balance.
Loan origination and commitment fees and certain direct loan origination costs are being deferred and the net amount amortized as an adjustment of the related loan's yield. The Corporation is generally amortizing these amounts over the average contractual life of the related loans.
Impaired loans are measured on the present value of expected future cash flows discounted at the loan's effective interest rate or as an expedient, at the loan's observable market price or the fair value of the collateral if the loan is collateral dependent. A loan is impaired when it is probable the creditor will be unable to collect all contractual principal and interest payments due in accordance with the terms of the loan agreement.
Loans, including impaired loans, are generally classified as nonaccrual if they are past due as to maturity or payment of principal or interest for a period of more than 90 days, unless such loans are well secured and in the process of collection. Loans that are on a current payment status or past due less than 90 days may also be classified as nonaccrual if repayment in full of principal and/or interest is in doubt. Loans may be returned to accrual status when all principal and interest amounts contractually due are reasonably assured of repayment.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE 1. SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)
When a loan is classified as nonaccrual, all interest receivable on that particular loan is charged back to income at that time. When the future collectibility of the recorded loan balance is expected, interest income may be recognized on a cash basis. On charged-off loans, cash receipts in excess of the amount charged to the allowance for loan losses are recognized as income on the cash basis.
Bank premises and equipment: Bank premises and equipment are stated at cost less accumulated depreciation. Depreciation is computed using the straight-line method over the estimated useful lives of the assets. Expenditures for betterments and major renewals are capitalized and ordinary maintenance and repairs are charged to operations as incurred.
Foreclosed properties: Foreclosed properties represent real estate held for resale acquired through foreclosure or other proceedings. Foreclosed properties are held for sale and are recorded at the lower of the recorded amount of the loan or fair value of the properties less estimated costs of disposal. Any write-down to fair value at the time of foreclosure is charged to the allowance for loan losses. Property is evaluated regularly to ensure the recorded amount is supported by its current fair value and valuation allowances to reduce the carrying amount to fair value less estimated costs to dispose are recorded as necessary and are charged to expense.
Income taxes: The provision for income taxes relates to items of revenue and expenses recognized for financial accounting purposes during each of the years. The actual current tax liability may be more or less than the charge against earnings due to the effect of deferred income taxes.
Deferred taxes are provided on a liability method whereby deferred tax assets are recognized for deductible temporary differences and operating loss and tax credit carryforwards and deferred tax liabilities are recognized for taxable temporary differences. Temporary differences are the differences between the reported amounts of assets and liabilities and their tax bases. Deferred tax assets are reduced by a valuation allowance when, in the opinion of management, it is more likely than not that some portion or all of the deferred tax assets will not be realized. Deferred tax assets and liabilities are adjusted for the effects of changes in tax laws and rates on the date of enactment.
Earnings per share: In February 1997, the Financial Accounting Standards Board issued its Statement of Financial Accounting Standards No. 128 (SFAS 128) "Earnings per Share". This Statement specifies the computation, presentation and disclosure requirements for earnings per share for entities with publicly held common stock or potential common stock. The Statement's objective is to simplify the computation of earnings per share and to make the U. S. standard for computing earnings per share more compatible with the EPS Standards of other countries and with that of the International Accounting Standards Committee. SFAS 128 is effective for financial statements for both interim and annual periods ending after December 15, 1997. After the effective date, all prior period EPS data presented has been restated to conform with the provisions of this Statement.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE 1. SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)
The following data show the amounts used in computing earnings per share and the effect on income and the weighted average number of shares of dilutive potential common stock.
Comprehensive income: In June 1997, the Financial Accounting Standards Board issued its Statement of Financial Accounting Standards No. 130 (SFAS 130), "Reporting Comprehensive Income". This Statement defines comprehensive income as the change in an institution's equity during a period from transactions and other events, except those resulting from investments by investors and distributions to those investors. Comprehensive income includes net income and other changes in assets and liabilities that are not reported in net income, but instead reported as a separate component of stockholders' equity. SFAS 130 is effective for financial statements for both interim and annual periods beginning after December 15, 1997.
Reclassifications: Various items in the consolidated statements of income and cash flows for the years ended December 31, 1997 and 1996 have been reclassified to conform to the classifications used at December 31, 1998. These reclassifications have no effect on net income.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE 2. SECURITIES
A summary of the amortized cost and estimated market values of investment securities is as follows:
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE 2. SECURITIES (CONTINUED)
The amortized cost and fair market value of mortgage-backed securities are presented in the available-for-sale and held-to-maturity categories by contractual maturity in the preceding table. Expected maturities will differ from contractual maturities because borrowers may have the right to call or repay obligations without call or prepayment penalties.
A summary of the amortized cost and estimated market values of investment securities is as follows:
Proceeds from sales of securities available for sale were $21,130,319, $8,070,865 and $7,119,663 during 1998, 1997 and 1996, respectively, resulting in gross gains of $169,365, $6,251 and $51,231 and gross losses of $5,268, $6,105 and $42,206 in 1998, 1997 and 1996, respectively.
Securities with an amortized cost of $10,429,255 and $6,128,223 and a market value of $10,440,782 and $6,063,779 as of December 31, 1998 and 1997, respectively, were pledged as collateral to secure public funds as required by law.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE 3. LOANS
Major classifications of loans are summarized as follows:
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE 3. LOANS (CONTINUED)
At December 31, 1998 and 1997, the Corporation had nonaccrual loans of $752,495 and $736,874, respectively. If interest on these loans had been recognized at the original interest rates, interest income would have increased approximately $95,000 and $65,000 in 1998 and 1997, respectively.
NOTE 4. BANK PREMISES AND EQUIPMENT
Major classifications of bank premises and equipment are summarized as follows:
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE 6. INCOME TAXES (CONTINUED)
A reconciliation of the expected income tax expense computed at 34 percent to the income tax expense included in the consolidated statements of income is as follows:
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE 6. INCOME TAXES (CONTINUED)
Net deferred tax assets consist of the following components as of December 31:
1998 1997 ---------------- ------------------- (Dollars in thousands) Deferred tax assets: Allowance for loan losses $ 549 $ 439 Deferred compensation 132 95 Property and equipment 1 - Interest on non-accrual loans 71 50 Debt cancellation reserve 11 9 Other 2 - ---------------- ------------------- $ 766 $ 593 ---------------- -------------------
Deferred tax liabilities: Accrual to cash basis adjustment $ 46 $ 92 Unrealized gain on available-for-sale securities 50 52 Investment securities 7 7 ---------------- ------------------- $ 103 $ 151 ---------------- -------------------
Deferred tax assets, net $ 663 $ 442 ---------------- -------------------
NOTE 7. DEFERRED COMPENSATION AGREEMENTS
The Corporation has a Deferred Compensation Plan for the benefit of certain directors. Contributions amounted to approximately $13,400, $13,400 and $23,700 for the years ended December 31, 1998, 1997 and 1996, respectively. The Plan provides each director with an annual benefit payment upon attaining 70 years of age. In addition, benefit payments are available upon early retirement, termination and death as defined by the Plan document.
The Corporation has Deferred Compensation Plans for the benefit of certain officers. Benefits will be funded by the Corporation. The cost of these benefits is being charged to expense and accrued using a present value method over the expected term of employment. The Plan provides each covered officer an annual benefit payment upon retirement. Contributions were approximately $55,700, $45,600 and $45,200 for the years ended December 31, 1998, 1997 and 1996, respectively.
The lives of the officers and directors for which deferred compensation agreements have been adopted have been insured for amounts sufficient to discharge the obligations thereunder.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE 8. EMPLOYEE BENEFIT PLANS
Effective January 1, 1993, the Corporation through its subsidiary, The Community Bank, established an Employee Stock Ownership Plan with 401(k) provisions by restating, amending and consolidating the Employee Stock Ownership Plan originally effective January 1, 1987, and the Profit-Sharing and Thrift Plan originally effective December 31, 1981. All participants of the pension plans are eligible to participate. Thereafter, each employee will become eligible to participate in the plan on the first anniversary date, December 31, following their initial date of service. The employee must be at least 18 years old and be employed in a full-time position requiring at least 1,000 hours of service for the plan year ending on that anniversary date. The Corporation matches 75% of employee contributions up to 5% of the participant's compensation. Annual contributions to the ESOP are made at the discretion of the Board of Directors.
During the year ended December 31, 1995, the ESOP purchased additional shares through the proceeds of a $365,500 direct bank loan. The shares purchased were pledged as collateral for its debt. As the debt is repaid, shares are released and allocated to participants. The Company accounts for its ESOP in accordance with Statement of Position 93-6. Accordingly, the shares pledged are reported as unearned ESOP shares in the balance sheet. As shares are released, the Company reports compensation expense equal to the current market price of the shares, and the shares then become outstanding for earnings per share (EPS) computation. Dividends on allocated ESOP shares are recorded as a reduction of retained earnings. Dividends on unallocated ESOP shares are recorded as a reduction of debt and interest.
Compensation expense for the 401(k) match and the ESOP was $182,992, $261,236 and $143,600 for the three years ended December 31, 1998, 1997 and 1996, respectively. The ESOP shares as of December 31 were as follows:
1998 1997 ----------------------------
Allocated shares 171,538 165,216 Unreleased shares - 8,045 ---------------------------- 171,538 173,261 ============================
Fair value of unreleased shares $ - $ 223,249 ============================
In addition, the Corporation through its subsidiary, Commerce Bank of Virginia, sponsors a non-contributory Employee Stock Ownership Plan (ESOP) covering substantially all employees. Contributions to the ESOP, which are recorded as compensation expense and can be cash or stock at fair value, are at the discretion of the Board of Directors and amounted to $66,800, $60,000 and $50,000 for the years ended December 31, 1998, 1997 and 1996, respectively. At December 31, 1998, there were 21,817 shares allocated to participants which are considered outstanding for purposes of computation of earnings per share.
Effective June 1, 1992, the Commerce Bank of Virginia adopted a 401(k) profit-sharing plan (the Plan) covering substantially all employees. Participants may contribute up to 15% of their compensation to the Plan. The Bank contributes 50% of the participant's contribution, up to 6% of the participant's compensation, as a matching contribution. Contributions to the Plan by the Bank were approximately $40,500, $22,500 and $23,500 for the years ended December 31, 1998, 1997 and 1996, respectively.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE 9. EMPLOYMENT AGREEMENTS
The Corporation has entered into employment agreements with certain officers which expire at dates through June 30, 1999. These agreements, which contain continual self-renewing terms of one year subject to cancellation by the Corporation, provide minimum salaries during the terms of the agreements and certain severance benefits if a change of control and termination occurs as defined in the agreements. The maximum severance benefits payable, if such a termination upon change in control occurred at December 31, 1998, would have been approximately $1,775,811.
NOTE 10. INCENTIVE COMPENSATION PLANS
The Corporation, through its subsidiaries, maintains various cash incentive and bonus plans for certain employees and directors of the individual subsidiaries. Awards through the various plans are determined based on management discretion or through predetermined award criteria for each group of participants. The level of the bonus or award is based on management discretion or the subsidiary attaining certain returns on average assets, or attaining targeted income levels for the year. The amounts awarded under the plans for the years ended December 31, 1998, 1997 and 1996 were $318,498, $213,616 and $294,594, respectively.
NOTE 11. INCENTIVE STOCK OPTION AND NONSTATUTORY STOCK OPTION PLAN
The Corporation has a Stock Plan that provides for the grant of Incentive Stock Options and the grant of Nonstatutory Stock Options and Stock Appreciation Rights. This Plan was adopted to encourage key officers and directors to acquire or to increase their acquisition of the Corporation's common stock, thus increasing their personal and proprietary interest in the Corporation's continued success. The options were granted at the market value on the date of each grant. Options may be exercised from date of grant through periods ending July 20, 2003 through October 18, 2004.
The following table presents a summary of options under the Plan at December 31:
The Corporation applies APB Opinion 25 and related interpretations in accounting for its plan. Accordingly, no compensation cost has been recognized. Had compensation cost for the Corporation's stock option plan been determined based on the fair value at the grant date consistent with the methods of FASB Statement 123, the Corporation's net income and net income per share would have been reduced to the pro forma amounts indicated below. In accordance with the transition provisions of FASB Statement 123, the pro forma amounts reflect options with grant dates subsequent to January 1, 1995. There were no options granted during the years ended December 31, 1997 or December 31, 1998.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE 11. INCENTIVE STOCK OPTION AND NONSTATUTORY STOCK OPTION PLAN (CONTINUED)
Year Ended December 31, 1996 --------------------------------- (Dollars in thousands, except per-share information) Net income: As reported $3,887 Pro forma 3,839
Net income per share: As reported 1.36 Pro forma 1.35
For purposes of computing the pro forma amounts indicated above, the fair value of each option on the date of grant is estimated using the Black-Scholes option-pricing model with the following assumptions for the grant in 1996: dividend yield of 2%, expected volatility of 30%, risk-free interest rate of 5.8% and an expected option life of 5 years. The fair value of each option granted during 1996 was $3.62.
NOTE 12. LIFE INSURANCE
The Corporation is owner and designated beneficiary on life insurance in the face amount of $4,324,000 maintained on certain of its officers and directors. At December 31, 1998 and 1997, the cash surrender value of these policies was $637,000and $635,000, respectively, which is included in other assets.
NOTE 13. FAIR VALUE OF FINANCIAL INSTRUMENTS
SFAS No. 107, "Disclosures about Fair Value of Financial Instruments", requires corporations to disclose the fair value of its financial instruments, whether or not recognized in the balance sheet, where it is practical to estimate that value.
Fair value estimates made as of December 31, 1998 are based on relevant market information about the financial instruments. These estimates do not reflect any premium or discount that could result from offering for sale at one time the Corporation's entire holding of a particular financial instrument. In cases where quoted market prices are not available, fair value estimates are based on judgments regarding future expected loss experience, current economic conditions, risk characteristics of various financial instruments, and other factors. These estimates are subjective in nature and involve uncertainties and matters of significant judgment and, therefore, cannot be determined with precision. Changes in assumptions could significantly affect the estimates. In addition, the tax ramifications related to the realization of the unrealized gains and losses can have a significant effect on fair value estimates and have not been considered in the estimates.
The following methods and assumptions were used by the Corporation in estimating its fair value disclosures for financial instruments:
Cash and cash equivalents: The carrying amounts reported in the consolidated balance sheets for cash and short-term instruments approximate those assets' fair values.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE 13. FAIR VALUE OF FINANCIAL INSTRUMENTS (CONTINUED)
Securities available for sale and investment securities: Fair values were based on quoted market prices, where available. If quoted market prices were not available, fair values were based on quoted market prices of comparable instruments.
Loans: The carrying values, reduced by estimated inherent credit losses, of variable-rate loans and other loans with short-term characteristics were considered fair values. For other loans, the fair market values were calculated by discounting scheduled future cash flows using current interest rates offered on loans with similar terms adjusted to reflect the estimated credit losses inherent in the portfolio.
Accrued interest receivable and accrued interest payable: The carrying amounts reported in the consolidated balance sheets for accrued interest receivable and accrued interest payable approximate their fair values.
Deposit liabilities: The fair value of deposits with no stated maturity, such as noninterest-bearing demand deposits, NOW, savings, and money market deposits, was, by definition, equal to the amount payable on demand as of December 31, 1998. The fair value of certificates of deposit was based on the discounted value of contractual cash flows, calculated using the discount rates that equaled the interest rates offered at the valuation date for deposits of similar remaining maturities.
The following is a summary of the carrying amounts and estimated fair values of the Corporation's financial assets and liabilities to include off-balance sheet financial instruments as December 31:
At December 31, 1998, the Corporation had outstanding standby letters of credit and fixed and variable rate commitments to extend credit. For fair value, the fixed rate loan commitments were considered based on committed rates versus market rates for similar transactions. Due to market constraints, rates have remained relatively unchanged on these products, therefore, management has determined fair value to be the same as the committed value. Standby letters of credit and variable rate commitments are generally exercisable at the market rate prevailing at the date the underlying transaction will be completed, and therefore, they were deemed to have no current fair market value.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE 14. COMMITMENTS AND CONTINGENCIES
Financial instruments with off-balance-sheet risk:
The Corporation is party to financial instruments with off-balance-sheet risk in the normal course of business to meet the financing needs of its customers. These financial instruments include commitments to extend credit and standby letters of credit. These instruments involve, to varying degrees, elements of credit risk in excess of the amount recognized in the consolidated balance sheets.
The Corporation's exposure to credit loss in the event of nonperformance by the other party to the financial instrument for commitments to extend credit and standby letters of credit is represented by the contractual amount of those instruments. The Corporation uses the same credit policies in making commitments and conditional obligations as they do for on-balance-sheet instruments. A summary of the Corporation's commitments at December 31, 1998 and 1997 is as follows:
1998 1997 --------------------------- (Dollars in thousands)
Commitments to extend credit $ 30,409 $ 33,185 Standby letters of credit 4,144 3,590 --------------------------- $ 34,553 $ 36,775 ===========================
Commitments to extend credit are agreements to lend to a customer as long as there is no violation of any condition established in the contract. The Corporation evaluates each customer's credit-worthiness on a case-by-case basis. The amount of collateral obtained, if deemed necessary by the Corporation upon extension of credit, is based on management's credit evaluation of the party. Collateral held varies, but may include accounts receivable, inventory, property and equipment, and residential and commercial real estate.
Standby letters of credit are conditional commitments issued by the Corporation to guarantee the performance of a customer to a third party. Those guarantees are primarily issued to support public and private borrowing arrangements. Since many of the commitments are expected to expire without being drawn upon, the total commitment amounts do not necessarily represent future cash requirements. The credit risk involved in issuing letters of credit is essentially the same as that involved in extending loan facilities to customers. Collateral held varies as specified above and is required in instances which the Corporation deems necessary.
Fixed-rate commitments were $9,964,000 and $11,192,000 as of December 31, 1998 and 1997, respectively. The average rates charged on the fixed-rate commitments were 8.0% - 10.5% for the years then ended.
All of the Corporation's loans, commitments to extend credit, and standby letters of credit have been granted to customers within the state and, more specifically, its local geographic area of Virginia. The concentrations of credit by type of loan are set forth in Note 3.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE 14. COMMITMENTS AND CONTINGENCIES (CONTINUED)
Lease commitments:
The Corporation leases land, tenant space and certain equipment under operating leases expiring at various dates to 2008. Total rental expense amounted to approximately $103,000, $108,000 and $101,300 for the years ended December 31, 1998, 1997 and 1996, respectively. At December 31, 1998, minimum annual lease payments in the aggregate were as follows:
Year Ended December 31, - ------------------------------ (Dollars in thousands)
1999 $ 214 2000 167 2001 163 2002 166 2003 168 Thereafter 561 ----------------- $ 1,439 -----------------
The Hanover branch facility is owned by a company whose principal shareholder is the Corporation's Chairman. The base annual rent as of December 31, 1998 is $40,800 per year through 2005 and increases three percent annually.
NOTE 15. RELATED PARTY TRANSACTIONS
At December 31, 1998, loans to officers and directors and corporations in which officers and directors own a significant interest totaled $12,102,154. All such loans were made in the normal course of business on substantially the same terms, including interest and collateral, as those prevailing at the time for comparable transactions.
An analysis of these related party transactions is as follows:
NOTE 16. CAPITAL STOCK
On June 11, 1998, the Corporation changed its authorized capital from 4,000,000 shares of $3 par value stock to 20,000,000 shares of $3 par value common stock.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE 17. REGULATORY MATTERS
The Corporation is subject to various regulatory capital requirements administered by its primary federal regulator, the Federal Reserve Bank. Failure to meet minimum capital requirements can initiate certain mandatory -- and possibly additional discretionary -- actions by regulators that, if undertaken, could have a direct material effect on the Corporation's financial statements. Under capital adequacy guidelines and the regulatory framework for prompt corrective action, the Corporation must meet specific capital guidelines that involve quantitative measures of the Corporation's assets, liabilities, and certain off-balance sheet items as calculated under regulatory accounting practices. The Corporation's capital amounts and classification are also subject to qualitative judgments by the regulators about components, risk weightings, and other factors.
Quantitative measures established by regulation to ensure capital adequacy require the Corporation to maintain minimum amounts and ratios as set forth in the table below of total and Tier I capital as defined in the regulations to risk-weighted assets as defined, and of Tier I capital as defined to average assets as defined. Management believes, as of December 31, 1998, that the Corporation meets all capital
As of December 31, 1998, the most recent notification from the Federal Reserve Bank categorized the Bank as well capitalized under the regulatory framework for prompt corrective action. To be categorized as well capitalized, the Corporation must maintain minimum total risk-based, Tier I risk-based, and Tier I leverage ratios as set forth in the table. There are no conditions or events since that notification that management believes have changed the institution's category.
The Bank's actual capital amounts and ratios are also presented in the table.
Banking laws and regulations limit the amount of dividends that may be paid without prior approval of the Corporation's regulatory agency. Under that limitation, the Corporation's subsidiaries could have declared additional dividends of approximately $10,569,000 in 1998 without regulatory approval.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE 18. QUARTERLY FINANCIAL DATA (UNAUDITED)
The following is a summary of selected quarterly operating results for each of the four quarters in fiscal years 1998 and 1997:
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE 19. PARENT CORPORATION
Financial statements for Community Bankshares Incorporated (not consolidated) are presented below.
COMMUNITY BANKSHARES INCORPORATED (Parent Corporation Only) Balance Sheets December 31, 1998 and 1997 (Dollars in thousands)
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE 19. PARENT CORPORATION (CONTINUED)
COMMUNITY BANKSHARES INCORPORATED (Parent Corporation Only) Statements of Income Years Ended December 31, 1998, 1997 and 1996 (Dollars in thousands)
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE 19. PARENT CORPORATION (CONTINUED)
COMMUNITY BANKSHARES INCORPORATED (Parent Corporation Only) Statements of Changes in Stockholders' Equity Years Ended December 31, 1998, 1997 and 1996 (Dollars in thousands)
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE 19. PARENT CORPORATION (CONTINUED)
COMMUNITY BANKSHARES INCORPORATED (Parent Corporation Only) Statements of Cash Flows Years Ended December 31, 1998, 1997 and 1996 (Dollars in thousands)
Item 9.
Item 9. Disagreements on Accounting and Financial Disclosure.
None
Item 10.
Item 10. Directors and Executive Officers of The Company.
The information required by Item 10 of Form 10-K appears in the Company's Proxy Statement for the 1999 Annual Meeting and is incorporated herein by reference.
Item 11.
Item 11. Executive Compensation.
The information required by Item 11 of Form 10-K appears in the Company's Proxy Statement for the 1999 Annual Meeting and is incorporated herein by reference.
Item 12.
Item 12. Security Ownership of Certain Beneficial Owners and Management.
The information required by Item 12 of Form 10-K appears in the Company's Proxy Statement for the 1999 Annual Meeting and is incorporated herein by reference.
Item 13.
Item 13. Certain Relationships and Related Transactions.
The information required by Item 13 of Form 10-K appears in the Company's Proxy Statement for the 1999 Annual Meeting and is incorporated herein by reference.
Item 14.
Item 14. Exhibits, Financial Statement Schedules and Reports on Form 8-K.
(a) (1) None
(a) (2) None
(a) (3) Exhibits included herein: 21 - Subsidiaries of the Registrant
(b) Reports on Form 8-K: None
Exhibit 21
Subsidiaries of the Registrant
The Community Bank 200 North Sycamore Street P .O. Box 2166 Petersburg, Virginia 23804
Commerce Bank of Virginia 11500 West Broad Street P. O. Box 29569 Richmond, Virginia 23242
County Bank of Chesterfield 10400 Hull Street Road Midlothian, Virginia 23112
SIGNATURES Pursuant to the requirements of Section 13 or 15 (d) Of the Securities Exchange Act of 1934, COMMUNITY BANKSHARES INCORPORATED has duly caused this report to be signed on its behalf by the undersigned, thereunto duly authorized:
COMMUNITY BANKSHARES INCORPORATED
Pursuant to the requirements of the Securities Exchange Act of 1934, this report has been signed below by the following persons on behalf of COMMUNITY BANKSHARES INCORPORATED and in the capacities and on the date indicated:
s/ Sam T. Beale Date: March 30, 1999 - -------------------------------------- ------------------------ Sam T. Beale, Director
s/ David E. Hudgins Date: March 30, 1999 - -------------------------------------- ------------------------ David E. Hudgins, Director
s/ Richard C. Huffman Date: March 30, 1999 - -------------------------------------- ------------------------ Richard C. Huffman, Director
s/ Nathan S. Jones, 3rd Date: March 30, 1999 - -------------------------------------- ------------------------ Nathan S. Jones, 3rd, Director
s/ Vernon E. LaPrade, Jr. Date: March 30, 1999 - -------------------------------------- ------------------------ Vernon E. LaPrade, Jr., Director
s/ Elinor B. Marshall Date: March 30, 1999 - -------------------------------------- ------------------------ Elinor B. Marshall, Director
s/ Jack W. Miller, Jr. Date: March 30, 1999 - -------------------------------------- ------------------------ Jack W. Miller, Jr., Director
s/ H. E. Richeson Date: March 30, 1999 - -------------------------------------- ------------------------ H. E. Richeson, Director
s/ Alvin L. Sheffield Date: March 30, 1999 - -------------------------------------- ------------------------ Alvin L. Sheffield, Director
s/ Harold L. Vaughan Date: March 30, 1999 - -------------------------------------- ------------------------ Harold L. Vaughan, Director