Item 1. Description of Business
General
Highlands Bankshares, Inc. (hereinafter referred to as "Highlands"), incorporated under the laws of West Virginia in 1985, is a multi-bank holding company subject to the provisions of the Bank Holding Company Act of 1956, as amended, and owns 100% of the outstanding stock of its subsidiary banks, The Grant County Bank and Capon Valley Bank (hereinafter referred to as the "Banks"), its life insurance subsidiary, HBI Life Insurance Company (hereinafter referred to as "HBI Life") and its trust subsidiary, Highlands Bankshares Trust Company (hereinafter referred to as "HBTC").
The Grant County Bank was chartered on August 6, 1902, and Capon Valley Bank was chartered on July 1, 1918. Both are state banks chartered under the laws of the State of West Virginia. HBI Life was chartered in April 1988 under the laws of the State of Arizona. HBTC was chartered in December 2000 under the laws of the state of West Virginia.
Services Offered by the Banks
The Banks offer all services normally offered by a full service commercial bank, including commercial and individual demand and time deposit accounts, commercial and individual loans, drive-in banking services and automated teller machines. No material portion of the banks' deposits have been obtained from a single or small group of customers and the loss of the deposits of any one customer or of a small group of customers would not have a material adverse effect on the business of the banks. Credit life accident and health insurance are sold to customers of the subsidiary banks through HBI Life. Trust services are offered through HBTC.
Employees
As of December 31, 2000, The Grant County Bank had 55 full time equivalent employees and Capon Valley Bank had 36 full time equivalent employees. No person is employed by Highlands or HBI Life on a full time basis. HBTC uses employees of the Banks and reimburses them for the cost of these services.
Competition
The banks' primary trade area is generally defined as Grant County, Hardy County, Mineral County, Randolph County and the northern part of Pendleton County. This area includes the cities of Petersburg, Wardensville, Moorefield and Keyser and several rural towns. The banks compete with four state chartered banks and six national banks. No financial institution has been chartered in the area within the last five years although branches of state and nationally chartered banks have located in this area within this time period. Competition for new loans and deposits in the banks' service area is quite intense and all banks have been forced to pay rates on deposits which exceed the national averages.
The banks' secondary trade area includes portions of Hampshire County in West Virginia and Frederick County in Virginia. In addition, the banks compete with money market mutual funds and investment brokerage firms for deposits in their service area.
Regulation and Supervision
Highlands is subject to the periodic reporting requirements of the Securities Exchange Act of 1934. These include, but are not limited to, the filing of annual, quarterly and other current reports with the Securities and Exchange Commission.
Regulation and Supervision (Continued)
Highlands, as a bank holding company, is subject to the provisions of the Bank Holding Company Act of 1956, as amended (the "Act"). It is registered as such and is supervised by the Federal Reserve Board. The Act requires Highlands to secure the prior approval of the Federal Reserve Board before Highlands acquires ownership or control of more than five percent of the voting shares, or substantially all of the assets of any institution, including another bank.
As a bank holding company, Highlands is required to file with the Federal Reserve Board an annual report and such additional information as it may require pursuant to the Act. The Federal Reserve Board may also conduct examinations of Highlands and any or all of its subsidiaries. Under Section 106 of the 1970 Amendments to the Act and the regulations of the Federal Reserve Board, a bank holding company and its subsidiaries are prohibited from engaging in certain tie-in arrangements in connection with an extension of credit, provision of credit, sale, or lease of property or furnishing of services.
Federal Reserve Bank regulations permit bank holding companies to engage in nonbanking activities closely related to banking or to managing or controlling banks. These activities include the making or servicing of loans, trust services, performing certain data processing services, and certain leasing and insurance agency activities. HBI Life acts as reinsurer of the credit life insurance coverage sold by the Banks to bank customers. HBTC provides trust services to customers of the Banks. Approval of the Federal Reserve Board is necessary to engage in any of these activities or to acquire corporations engaging in these activities.
The operations of the Banks are subject to federal and state statutes which apply to state chartered banks. Bank operations are also subject to the regulations of the Federal Deposit Insurance Corporation (the "FDIC"), which insures the banks' deposits. In addition, the Capon Valley Bank is a member of the Federal Reserve Bank System and is subject to the regulations of the Federal Reserve Bank Board.
The supervisory authorities regularly examine such areas as reserves, loans, investments, management practices, and other aspects of the banks' operations. These examinations are designed primarily for the protection of depositors. In addition to these regular examinations, the banks must furnish the various regulatory authorities quarterly reports containing a full and accurate statement of its affairs.
The operations of the insurance subsidiary are subject to the oversight and review of State of Arizona Department of Insurance.
The operations of the trust company are subject to the oversight and review of the State of West Virginia and the Federal Reserve Bank.
Item 2.
Item 2. Description of Properties
The Grant County Bank's main office is located on Main Street in Petersburg, West Virginia. In July 2000, the Bank acquired a full service branch in Harman through the purchase of the Stockmans' Bank of Harman. This location will primarily serve Randolph County. The Bank also has branch facilities in Moorefield, Keyser and Riverton, West Virginia which provide banking services in Hardy County, Mineral County, and northwest Pendleton County, respectively. The Riverton branch building is leased while all other locations are owned by the Bank.
Capon Valley Bank has its main office in Wardensville, West Virginia and branch offices located in Moorefield and Baker, West Virginia. The Wardensville location was substantially renovated and expanded in 2000 to enhance customer service. Capon's offices serve mainly Hardy County and Hampshire County, West Virginia. All facilities include state-of-the-art drive in and automated teller operations. All facilities are owned by the Bank and considered adequate for current operations.
Item 3.
Item 3. Legal Proceedings
Management is not aware of any material pending or threatened litigation in which Highlands or its subsidiaries may be involved as a defendant. In the normal course of business, the banks periodically must initiate suits against borrowers as a final course of action in collecting past due loans.
Item 4.
Item 4. Submission of Matters to a Vote of Security Holders
Highlands has not submitted any matters to the vote of security holders for the quarter ending December 31, 2000.
Part II
Item 5.
Item 5. Market for Common Equity and Related Stockholder Matters
The Company had approximately 850 stockholders of record as of March 1, 2001. The Company's stock is not traded on any national or regional stock exchange although brokers in Cumberland, Maryland or Winchester and Harrisonburg, Virginia may occasionally initiate or be a participant in a trade. Terms of an exchange between individual parties may not be known to the Company. The following outlines the dividends paid and market prices of the Company's stock based on prices disclosed to management. Such prices may not include retail mark-ups, mark-downs or commissions.
Dividends Market Price Range 2000 Per Share High Low ---- --------- ---- ---
First Quarter $.31 $59.00 $57.00 Second Quarter .31 58.50 50.13 Third Quarter .31 55.00 51.00 Fourth Quarter .31 51.00 48.00
First Quarter $.29 $62.50 $62.50 Second Quarter .29 59.00 59.00 Third Quarter .29 60.00 57.00 Fourth Quarter .29 60.00 58.00
First Quarter $.27 $63.00 $50.00 Second Quarter .27 62.75 58.25 Third Quarter .27 69.00 63.00 Fourth Quarter .27 63.25 62.25
Item 6.
Item 6. Management's Discussion and Analysis of Financial Condition and Results of Operations
Overview
The Company's 2000 net income of $2,380,911 represents a 2.39% increase in net income and earnings per share compared to 1999. This represented a return on average equity of 9.40% for 2000 compared to 9.94% for 1999. Returns on average assets for 2000 and 1999 were 1.03% and 1.08%, respectively. The increase in earnings was due to an increase in the volume of earning assets, a stable net interest margin and increased service charges on deposit accounts.
The tax equivalent interest income increased by $1,926,000 in 2000 to $18,305,000 as compared to 1999. A 7.11% increase in the level of earning assets and an increase in yields resulted in the earnings improvement. A 13.48% increase in average loans outstanding was the result of a good local economy that was spread across all types of loans. The increase was also partly attributable to the acquisition of the branch at Harman. The funding of the asset growth was from deposits of local customers (primarily time deposits) and declines in securities available for sale. Also, contributing to the asset funding was approximately $9.0 million in deposits acquired in the Harman purchase.
Noninterest income increased 23.03% in 2000 compared to 1999 due to increases in service charge income and profits from the sale of bonds acquired in the Harman acquisition. Noninterest expenses increased 12.15% in 2000 due mainly to the higher personnel and equipment expenses.
Net Interest Margin
2000 compared to 1999
The Company's net interest margin on a tax equivalent basis was $9,515,000 for 2000 compared to $8,716,000 for 1999. The increase was due to an increase in average earning assets (7.11%) and a consistent spread (the difference in rates earned on assets and paid on liabilities) of 3.69% in 2000 compared to 3.70% in 1999. Average loans outstanding grew by 13.48% from 1999 to 2000. This growth reflected good local and national economic conditions, stable interest rates and additional banking facilities acquired by an acquisition. The overall cost of funds reflected the high level of competition for deposits in the Company's service area which has traditionally paid higher rates on deposits than larger, statewide financial institutions. The deposit increase was the result of growth in the area of time deposit accounts and were obtained primarily from customers in the immediate service areas.
Loans outstanding at December 31, 2000 increased 13.60% over amounts at December 31, 1999. The loan increase was the result of acquiring a branch in a new market area and continued efforts to increase lending in existing markets. Loan growth was funded primarily by deposit growth and a decline in the level of investments. The increase in the dollar amount of tax equivalent net interest margin for 2000 over the 1999 amounts is the result of an annualized growth in earning assets of 7.11%. The Company anticipates its net interest margin remaining stable in view of recent declines in interest rates targeted by the Federal Reserve Bank. Rates paid on deposits are expected to decline over the next twelve months as the result of recent Federal Reserve Bank's rate cuts. Returns on most loans have repricing opportunities within the next twelve months and the Company should be able to maintain or slightly improve its net interest margin in a declining rate environment.
A summary of the net interest margin analysis is shown as Table II on page 20.
Net Interest Margin (Continued)
1999 Compared to 1998
The Company's net interest margin on a tax equivalent basis was $8,716,000 for 1999 compared to $8,144,000 for 1998. The increase was due to an increase in average earning assets (6.95%) and an increased spread (the difference in rates earned on assets and paid on liabilities) from 3.60% in 1998 to 3.70% in 1999. Average loans outstanding grew by 8.31% from 1998 to 1999. This growth reflected good local and national economic conditions, slightly increasing interest rates and expanded banking facilities. The deposit increase represented growth in money market savings and time deposit accounts and was obtained primarily from customers in the immediate service areas.
Loans outstanding at December 31, 1999 increased 12.29% over amounts at December 31, 1998. The loan increase was the result of opening branches in new market areas and continued efforts to increase lending in existing markets. Loan growth was funded primarily by deposit growth with declines in the level of security investments. The net interest margin for 1999 and 1998 was 4.35% and was the result of declines in the rates of all types of earning assets and all types of deposit accounts.
A summary of the net interest margin analysis is shown as Table II on Page 20.
Provision for Loan Losses
The Company's provision for loan losses were $500,000 for 2000, $320,000 for 1999 and $355,000 for 1998. Net loan losses were $412,000 in 2000 compared to $357,000 in 1999 and $369,000 in 1998. The Company's three year charge off rate of .24% of average loans outstanding compares closely with its peer group. The 2000 charge off percentage of .23% of average loans was slightly above the peer group average for the year and reflects some charged off loans acquired from Harman. (See the following discussion relating to the allowance for loan losses.)
Noninterest Income
2000 Compared to 1999
Overall noninterest income increased in 2000 by 23.03% when compared with 1999 operations. Increases in service charge income was the result of volume increases and increased rates for not sufficient funds (NSF) checks. Other operating income declined due to a $165,000 gain from the demutualization of an insurance company in 1999 which was not repeated in 2000. The Company did recognize greater income from investments in insurance contracts due to a complete year of investing in these assets. Gains of $104,000 from the sale of investments in 2000 compared to losses from the sale of investments in 1999 of $65,000 added $169,000 to total noninterest income.
1999 Compared to 1998
Noninterest income for 1999 increased 39.70% from 1998. Increases in service charge income of 20.56% and other operating income of 96.02% were the result of an increase in volume of transactions and the gain from an insurance company demutualization, respectively. The Company also recognized greater income from investments in insurance contracts due to a larger volume of such investments. Losses on security transactions increased from $2,000 in 1998 to $64,000 in 1999 as the Company sold investments in mutual funds that were not meeting expectations.
Noninterest Expenses
2000 Compared to 1999
Total noninterest expenses increased 12.15% in 2000 when compared with 1999 operations. Salaries and benefits increased 12.34% due to the increase in staff at the new branch, merit and inflationary raises and higher benefit costs. Average full time equivalent employees increased 6.67% in 2000 due mainly to staffing the new branches in Moorefield and Harman. The costs of occupancy and equipment increased 14.78% due to a full year of costs in the Moorefield branch and depreciation associated with the new facility and equipment upgrades. Data processing expenses increased by 3.45% due to general asset growth and expanded locations. Other operating expenses increased 13.22% for all of the reasons cited above. Noninterest expense as a percentage of average assets was 2.86% in 2000 compared to 2.74% in 1999 and 2.69% in 1998. These ratios compare favorably to the Company's peer group. The overall increase in noninterest expenses is a reflection of additional locations which generally take one to three years to become profitable.
1999 Compared to 1998
Overall, noninterest expense increased 9.96% in 1999 when compared to 1998. Personnel expenses increased 10.76% as the result of additional locations. Occupancy and equipment expenses increased 8.93% as the result of asset growth and inflation year 2000 preparedness. Data processing expenses increased by 3.65% as a result of volume growth. Other noninterest expenses increased by 10.91% due to asset growth and costs in preparing for the year 2000.
Financial Condition
Loan Portfolio
The Company is an active residential mortgage and construction lender and generally extends commercial loans to small and medium sized businesses within its primary service area. The Company's commercial lending activity extends across its primary service areas of Grant, Hardy, Hampshire, Mineral, Randolph and northern Pendleton counties. Consistent with its focus on providing community-based financial services, the Company does not attempt to diversify its loan portfolio geographically by making significant amounts of loans to borrowers outside of its primary service area.
The principal economic risk associated with each of the categories of loans in the Company's portfolio is the creditworthiness of its borrowers. Within each category, such risk is increased or decreased depending on prevailing economic conditions. The risk associated with the real estate mortgage loans and installment loans to individuals varies based upon employment levels, consumer confidence, fluctuations in value of residential real estate and other conditions that affect the ability of consumers to repay indebtedness. The risk associated with commercial, financial and agricultural loans varies based upon the strength and activity of the local economies of the Company's market areas. The risk associated with real estate construction loans varies based upon the supply of and demand for the type of real estate under construction.
Loans outstanding increased $22,654,000 or 13.60% in 2000. All loan types recognized significant growth. The loan to deposit ratio was 87.39% at December 31, 2000 compared to 86.62% at December 31, 1999. Management believes this level of lending activity is satisfactory to generate adequate earnings without undue credit risk. Loan demand is expected to remain satisfactory in the near future with any growth a function of local and national economic conditions.
Financial Condition (Continued)
Loan Portfolio (Continued)
The following table summarizes the Company's loan portfolio, net of unearned income:
At December 31, -------------------------- 2000 1999 1998 ---- ---- ---- (In Thousands of Dollars) Real Estate: Mortgage $ 101,890 $ 93,391 $ 83,446 Construction 4,061 3,296 2,969 Commercial 37,681 31,567 30,718 Installment 46,191 39,994 33,464 -------- -------- --------
189,823 168,248 150,597 Less unearned discount (555) (1,634) (2,213) -------- -------- --------
189,268 166,614 148,384 Allowance for loan losses (1,493) (1,318) (1,355) -------- -------- --------
Loans, net $ 187,775 $ 165,296 $ 147,029 ======== ======== ========
The following table shows the maturity of loans outstanding (in thousands of dollars) as of December 31, 2000, 1999 and 1998.
Maturity Range 2000 1999 1998 -------------- ---- ---- ----
Predetermined Rates: 0 - 12 months $ 105,054 $ 91,080 $ 73,878 13 - 60 months 75,918 61,193 53,765 More than 60 months 8,264 14,147 20,702 Nonaccrual Loans 32 194 39 -------- -------- --------
Total Loans $ 189,268 $ 166,614 $ 148,384 ======== ======== ========
The following table shows the Company's loan maturity distribution (in thousands of dollars) as of December 31, 2000:
Maturity Range Less Than 1-5 Over
Loan Type 1 Year Years 5 Years Total --------- ------- ----- ------- -----
Commercial and
Agricultural Loans $ 29,333 $ 5,039 $ 3,309 $ 37,681 Real Estate - mortgage 63,383 34,895 3,612 101,890 Real Estate - construction 4,061 4,061 Consumer - installment 8,277 36,016 1,343 45,636 -------- -------- -------- --------
Total $ 105,054 $ 75,950 $ 8,264 $ 189,268 ======== ======== ======== ========
Financial Condition (Continued)
Loan Portfolio (Continued)
Nonperforming loans include nonaccrual loans, loans 90 days or more past due and restructured loans. Nonaccrual loans are loans on which interest accruals have been discontinued. Loans which reach nonaccrual status may not be restored to accrual status until all delinquent principal and interest has been paid or the loan becomes both well secured and in the process of collection. Restructured loans are loans with respect to which a borrower has been granted a concession on the interest rate or the original repayment terms because of financial difficulties. Nonperforming loans do not represent or result from trends or uncertainties which management reasonably expects will materially impact future operating results, liquidity, or capital resources. Nonperforming loans are listed in the table below.
Real estate acquired through foreclosure was $111,000 at December 31, 2000, $121,000 at December 31, 1999 and $95,000 at December 31, 1998. All foreclosed property held at December 31, 2000 was in the Company's primary service area. The Company's practice is to value real estate acquired through foreclosure at the lower of (i) an independent current appraisal or market analysis less anticipated costs of disposal, or (ii) the existing loan balance. The Company is actively marketing all foreclosed real estate and does not anticipate material write-downs in value before disposition.
Nonperforming loans increased 25.69% at December 31, 2000 compared to 1999. Nonaccrual loans declined as the result of a few workout situations. Loans 90 and more days past due increased 38.19% compared to a 13.60% increase in total loans outstanding. The increase in delinquent loans includes a large amount of loans acquired in the Harman acquisition that were nonperforming when acquired. Management does not anticipate any material losses from the current level of nonperforming assets.
The following table summarizes the nonperforming loans:
At December 31, ----------------------- 2000 1999 1998 ---- ---- ---- (Dollars in Thousands)
Loans accounted for on a nonaccrual basis $ 32 $ 194 $ 39 ------ ----- ------
Loans contractually past due 90 days or more as to interest or principal payments (not included in nonaccrual loans above)
Commercial 60 89 41 Real estate 1,984 1,465 1,339 Installments 297 140 142 ------ ----- ------
Total Delinquent Loans 2,341 1,694 1,522 ------ ----- ------
Total Nonperforming Loans $ 2,373 $1,888 $ 1,561 ====== ===== ======
Financial Condition (Continued)
Loan Portfolio (Continued)
An inherent risk in the lending of money is that the borrower will not be able to repay the loan under the terms of the original agreement. The allowance for loan losses (see subsequent section) provides for this risk and is reviewed periodically for adequacy. This review also considers concentrations of loans in terms of geography, business type or level of risk. While lending is geographically diversified within the service area, the Company does have some concentration of loans in the area of agriculture (primarily poultry farming), timber and related industries. Management recognizes these concentrations and considers them when structuring its loan portfolio. As of December 31, 2000, management is not aware of any significant potential problem loans for which the debtor is currently meeting their obligations as stated in the loan agreement but which may change in future periods.
As of December 31, 2000, the Company did not have any potential problem loans as defined in Guide 3 that would require disclosure.
Allowance for Loan Losses
Management has analyzed the potential risk of loss on the Company's loan portfolio given the loan balances and the value of the underlying collateral and has recognized losses where appropriate. Nonperforming loans are closely monitored on an ongoing basis as part of the Company's loan review process. Management reviews the loan loss allowance at the end of each quarter. Based primarily on the Company's loan classification system, which classifies problem credits as substandard, doubtful or loss, additional provisions for losses are made monthly. The ratio of the allowance for loan losses to total loans outstanding was .79% at December 31, 2000 and December 31, 1999 compared to .91% at December 31, 1998. At December 31, 2000, the ratio of the allowance for loan losses to nonperforming loans was 62.92% compared to 69.83% at December 31, 1999 and 86.83% at December 31, 1998.
Charge offs for 2000 were .23% of average loans outstanding and about the same as the Company's peer group over the last three years. Losses on commercial lending were higher in 2000 due to an individual loss involving the inability of a guarantor to pay the indebtedness. The Company anticipates some recoveries due to pending legal actions but reflects these only when the recovery is actually realized.
Management continues to monitor the economic health of the poultry industry. The Company has direct loans to poultry growers and the industry is a large employer in the Company's trade area. Operating results for the industry have improved due to moderating grain prices and better turkey pricing. However, the industry has not fully recovered due to a decline in chicken prices and profitability in this industry is still quite volatile. The area's large employer in the poultry industry, WLR Foods, Inc., was recently sold to a Texas poultry producer, Pilgrim's Pride, Inc. While some management jobs may be eliminated, the overall effect on the poultry industry of this event should be negligible.
Allowance for Loan Losses (Continued)
The following table summarizes changes in the allowance for loan losses:
Year Ending December 31, ----------------------------- 2000 1999 1998 ---- ---- ---- (In Thousands of Dollars)
Balance at beginning of period $1,318 $1,355 $1,370 ----- ----- -----
Allowance relating to loans acquired in purchase 87 ----- ----- -----
Loan Losses: Commercial and agricultural 172 107 135 Real estate - mortgage 128 87 53 Installment loans to individuals 215 254 289 ----- ----- -----
Total loan losses 515 448 477 ----- ----- -----
Recoveries: Commercial and agricultural 2 16 6 Real estate - mortgage 30 1 1 Installment loans to individuals 71 74 100 ----- ----- -----
Total recoveries 103 91 107 ----- ----- -----
Net loan losses 412 357 370 ----- ----- -----
Additions charged to operations 500 320 355 ----- ----- -----
Balance at end of period $1,493 $1,318 $1,355 ===== ===== =====
The Company has allocated the allowance for loan losses according to the amounts deemed to be reasonably necessary to provide for the possibility of losses incurred within each of the above categories of loans. The allocation of the allowance as shown in the table below 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.
The following table shows the balance and percentage of the Company's allowance for loan losses allocated to each major category of loans:
At December 31, ------------------------------------- 2000 1999 1998 --------------- ---------------- ---------------
Percent Percent Percent of of of Loans Loans Loans Percent in Percent in Percent in of Category of Category of Category Allow- to Total Allow- to Total Allow- to Total Amount ance Loans Amount ance Loans Amount ance Loans ------ ------------- ------------ ------- ------ ------------ (Dollars in Thousands)
Commercial $ 507 34% 20% $ 395 30% 19% $ 379 28% 23% Real estate mortgage 239 16 56 211 16 58 434 32 56 Installment 598 40 24 580 44 23 406 30 21 Unallocated 149 10 132 10 136 10 ----- ---- ---- ----- --- --- ----- --- --
$1,493 100% 100% $1,318 100% 100% $1,355 100% 100% ===== === === ===== === === ===== === ===
Allowance for Loan Losses (Continued)
For each period presented, the provision for loan losses charged to operations is based on management's judgment after taking into consideration all factors connected with the collectibility of the existing portfolio. Management evaluates the loan portfolio in light of economic conditions, changes in the nature and value of the portfolio, industry standards and other relevant factors. Specific factors considered by management in determining the amounts charged to operations include internally generated loan review reports, previous loan loss experience with the borrower, the status of past due interest and principal payments on the loan, the quality of financial information supplied by the borrower and the general financial condition of the borrower.
The provision for loan losses charged to operations was $500,000 for 2000, $320,000 for 1999 and $355,000 for 1998. In the opinion of management, the provision charged to operations over this three year period has been sufficient to maintain an adequate allowance for loan losses.
Securities
The Company's securities portfolio serves several purposes. Portions of the portfolio are used to secure certain public and trust deposits. The remaining portfolio is held as investments or used to assist the Company in liquidity and asset liability management. During 2000, total securities decreased to $25.8 million or 10.39% of total assets at December 31, 2000. Total securities were $29.8 million or 13.52% of total assets at December 31, 1999.
The securities portfolio consists of three components: securities held to maturity, securities available for sale and restricted securities. Securities are classified as held to maturity when management has the intent and the Company has the ability at the time of purchase to hold the securities to maturity. Held to maturity securities are carried at cost, adjusted for amortization of premiums and accretion of discounts. Securities to be held for indefinite periods of time are classified as available for sale and accounted for at market value. Securities available for sale include securities that may be sold in response to changes in market interest rates, changes in the security's prepayment risk, increases in loan demand, general liquidity needs and other similar factors. Restricted securities are those investments purchased as a requirement of membership in certain loan banks and cannot be transferred without the issuer's permission. The Company's purchases of securities have generally been limited to securities of high credit quality with short to medium term maturities.
The Company identifies at the time of acquisition those securities that are available for sale. These securities are valued at their market value with any difference in market value and amortized cost shown as an adjustment in stockholders' equity. Changes within the year in market values are reflected as changes in stockholders' equity, net of the deferred tax effect. As of December 31, 2000, the fair value of the securities available for sale exceeded their cost basis by $62,000 ($39,000 after the related tax effect).
Securities (Continued)
The following table summarizes the carrying value of the Company's securities at the dates indicated:
Held to Maturity Available for Sale Carrying Value Carrying Value ------------------------- ---------------- December 31, December 31, 2000 1999 1998 2000 1999 1998 ---- ---- ---- ---- ---- ---- (In Thousands of Dollars)(In Thousands of Dollars)
U.S. treasuries, agencies and corporations $ 88 $ $ $18,719 $21,160 $22,129 Obligations of states and political subdivisions 2,131 2,837 2,987 789 243 262 Mortgage-backed securities 9 340 517 3,275 4,339 6,821 ------ ------ ----- ------ ------ ------
Total Debt Securities 2,228 3,177 3,504 22,783 25,742 29,212
Other securities 52 151 546 ------ ------ ----- ------ ------ ------
Total $ 2,228 $ 3,177 $3,504 $22,835 $25,893 $29,758 ====== ====== ===== ====== ====== ======
The carrying amount and estimated market value of debt securities (in thousands of dollars) at December 31, 2000 by contractual maturity are shown below. Expected maturities will differ from contractual maturities because borrowers may have the right to call or prepay obligations with or without call or prepayment penalties.
Securities Held to Maturity Amortized Fair Average --------------------------- Cost Value Yield
Due in one year or less $ 531 $ 532 6.18% Due after one year through five years 1,108 1,104 7.01% Due after five years through ten years 500 510 7.01% Due after ten years 89 88 5.20% -------- --------- -----
Total Held to Maturity $ 2,228 $ 2,234 6.74% ======== ========= =====
Securities Available for Sale Amortized Fair Average ----------------------------- Cost Value Yield
Due in one year or less $ 7,855 $ 7,838 5.47% Due after one year through five years 10,874 10,929 6.31% Due after five years through ten years 2,800 2,819 6.81% Due after ten years 1,187 1,197 7.77% -------- --------- -----
Total Fixed Rate Securities 22,716 22,783 6.16%
Equities 58 52 5.18% -------- --------- -----
Total Available for Sale $ 22,774 $ 22,835 6.16% ======== ========= =====
Yields on tax exempt securities are stated at tax equivalent yields.
Management has generally kept the maturities of investments relatively short providing for flexibility in investing. Such a philosophy allows the Company to better match deposit maturities with investment maturities and thus react more quickly to interest rate changes.
Deposits
The Company's predominant source of funds is local deposits. The Company's deposit base is comprised of demand deposits, savings and money market accounts and other time deposits. The Company's deposits are provided by individuals and businesses located within the communities served.
The average balance of interest bearing deposits increased by 5.32% in 2000 over average levels in 1999. The average rate paid on deposits increased to 4.82% in 2000 from 4.46% in 1999 and 4.88% in 1998. The majority of the Company's deposits are higher yielding time deposits as most of its customers are individuals who seek higher yields than savings accounts or don't wish to accept the risks of the stock market.
The Company does not actively solicit large certificates of deposit (those more than $100,000) due to the unstable nature of these deposits. Increases in 2000 are the result of overall deposit growth and higher than average rates offered by the Company. A summary of the maturity of large deposits is as follows:
December 31, -------------------- Maturity Range 2000 1999 1998 -------------- ---- ---- ---- (In Thousands of Dollars)
Three months or less $ 4,172 $ 6,341 $ 5,883 Four to twelve months 14,336 12,342 11,391 One year to five years 16,376 9,846 8,449 ------- ------- --------
Total $ 34,884 $ 28,529 $ 25,723 ======= ======= ========
Borrowed Money
The Company occasionally borrows funds from the Federal Home Loan Bank to reduce market rate risks. Such borrowings have fixed repayment terms and are amortized over a ten to twenty year life. Borrowings from this institution allows the banks to offer long-term, fixed rate loans to their customers and match the interest rate exposure of the receivable and the liability. The Company had additional borrowings in 2000 of $1,732,000 and repayments within the year of $290,000.
Capital Resources
The assessment of capital adequacy depends on a number of factors such as asset quality, liquidity, earnings performance and changing competitive conditions and economic forces. The Company seeks to maintain a strong capital base to support its growth and expansion activities, to provide stability to current operations and to promote public confidence.
The Company's capital position continues to exceed regulatory minimums. The primary indicators relied on by the Federal Reserve Board and other bank regulators in measuring strength of capital position are the Tier 1 Capital, Total Capital and Leverage ratios. Tier 1 Capital consists of common stockholders' equity. Total Capital consists of Tier 1 Capital and a portion of the allowance for loan losses. Risk-based capital ratios are calculated with reference to risk-weighted assets which consist of both on and off-balance sheet risks.
The following table shows risk-based capital ratios and stockholders' equity to total assets:
Regulatory December 31, Minimum 2000 1999 ----------- ---- ----
Capital Ratios
Risk-based capital to risk-weighted assets Tier 1 8.00% 15.17% 16.60% Total 4.00% 16.03% 17.35% Stockholders' equity to total assets 5.00% 10.57% 10.99%
Capital Resources (Continued)
The capital management function is an ongoing process. Central to this process is internal equity generation accomplished by earnings retention. During 2000, 1999, and 1998, total stockholders' equity increased by $2,044,000, $1,378,000 and $1,550,000, respectively, as a result of earnings retention and changes in the unrealized gains (losses) on securities available for sale. The return on average equity was 9.40% in 2000 compared to 9.94% for 1999 and 9.12% for 1998. Total cash dividends declared represent 26.14% of net income for 2000 compared to 25.04% of net income for 1999 and 26.94% for 1998. Book value per share was $52.34 at December 31, 2000 compared to $48.26 at December 31, 1999 and $45.52 at December 31, 1998.
The Company's principal source of cash income is dividend payments from the Banks and insurance subsidiary. Certain limitations exist under applicable law and regulation by regulatory agencies regarding dividend payments to a parent by its subsidiaries. As of January 1, 2001, the Banks had $3,441,000 of retained earnings available for distribution to the Company as dividends without prior regulatory approval.
Liquidity and Interest Rate Sensitivity
Liquidity. Liquidity is the 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, investments and loans maturing within one year. The Company's ability to obtain deposits and purchase funds at favorable rates determines its liability liquidity. 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.
Additional sources of liquidity available to the Company include, but are not limited to, loan repayments, the ability to obtain deposits through the adjustment of interest rates and the purchasing of federal funds. To further meet its liquidity needs, the Company also maintains lines of credit with correspondent financial institutions, the Federal Reserve Bank of Richmond and the Federal Home Loan Bank of Pittsburgh. In the past, growth in deposits and proceeds from the maturity of investment securities have been sufficient to fund the net increase in loans.
The investing activity saw a net increase in loans of $17,279,000, an increase in interest bearing deposits of $3,925,000 and an increase in fed funds sold of $2,737,000. New equipment and facility additions were $1,288,000 in 2000 compared with $1,338,000 in 1999. The net cost of the branch acquisition was $1,220,000 after reducing the purchase price by the cash owned by the acquired institution. Funding these investments was an increase in deposits of $15,418,000, a decline in investments of $6,662,000 and retained operating income of $1,759,000.
In the year ending December 31, 2000, cash and due from banks decreased $250,000 as cash provided by operations and financing activities was less than cash used in investing activities. The Banks increased currency reserves at all branches at the end of 1999 in anticipation of larger cash requirements resulting from the year 2000 changeover. Cash provided by operations consists primarily of earnings from operations and noncash expenses such as the provision for loan losses, deferred income taxes and depreciation. The dividends paid of $622,000 in 2000 was an increase of 6.90 percent over 1999 amounts.
Liquidity and Interest Rate Sensitivity (Continued)
The Company is not aware of any trends, events or uncertainties that will have or that are reasonably likely to have a material effect on the Company's liquidity, capital resources or operations. The Company is not aware of any proposals from any regulatory authority which, if implemented, would have such an effect.
Interest Rate Sensitivity. In conjunction with maintaining a satisfactory level of liquidity, management must also control the degree of interest rate risk assumed on the balance sheet. Managing this risk involves regular monitoring of the interest sensitive assets relative to interest sensitive liabilities over specific time intervals.
At December 31, 2000, the Company had a neutral gap position as of twelve months into the future. This position allows the Company to react quickly to rate changes by the Federal Reserve Bank. The Company expects a decrease in the overall cost of money in 2000 due to the maturity of certificates issued at higher rates and a slight decrease in other deposit rates.
With the largest amount of interest sensitive assets and liabilities repricing within one year, the Company monitors this position closely. Early withdrawal of deposits, prepayments of loans and loan delinquencies are some of the factors that could affect actual versus expected cash flows. In addition, changes in rates on interest sensitive assets and liabilities may not be equal, which could result in a change in the net interest margin. While the Company does not match each of its interest sensitive assets against specific interest sensitive liabilities, it does periodically review its cumulative position of interest sensitive assets and liabilities.
The majority of the Company's commercial and real estate loans are made with repricing frequencies of three months to three years. For this reason, 80% of all loans will reprice within three years of December 31, 2000. Installment loans generally have a fixed rate of interest but have limited amortization periods. These loans have an average life to maturity of less than two years. Management believes that its philosophy of requiring loan repricing within a three to five year period to be the most prudent approach to asset/liability management.
In the area of investments, the Company employs a management technique known as "laddering" to minimize interest rate exposures and provide a constant flow of maturities subject to repricing at current market rates. To assist in the management of investments, the Company employs an independent investment counsel that advises it in planning and risk diversification. The Company utilizes many forms of investments with a significant use of mortgage-backed securities issued by federally chartered institutions. The Company does not employ the use of derivatives in its approach to controlling market risk. Although the majority of its investments are classified as available for sale, the Company rarely sells securities except in unusual circumstances.
Table IV (page 22) shows the maturity of liabilities and assets in future periods. Table III (page 21) shows the effects of rate and volume changes on the net interest margin for the past three year period.
Effects of Inflation
Inflation significantly affects industries having high levels of property, plant and equipment or inventories. Although the Company is not significantly affected in these areas, inflation does have an impact on the growth of assets. As assets grow rapidly, it becomes necessary to increase equity capital at proportionate levels to maintain the appropriate equity to asset ratios. Traditionally, the Company's earnings and high capital retention levels have enabled the Company to meet these needs.
The Company's reported earnings results have been affected by inflation, but isolating the effect is difficult. The different types of income and expense are affected in various ways. Interest rates are affected by inflation, but the timing and magnitude of the changes may not coincide with changes in the consumer price index. Management actively monitors interest rate sensitivity, as illustrated by the Gap Analysis (Table IV, page 22) in order to minimize the effects of inflationary trends on interest rates. Other areas of noninterest expenses may be more directly affected by inflation.
Year 2000 Discussion
The Company and its subsidiary banks began preparing for the year 2000 changeover in 1997. Plans were developed to update equipment and software and contingency plans were instituted to address problems that may have occurred due to suppliers inability to perform as expected. Some of the equipment purchases replaced outdated property and would have been made in the normal course of business. All phases of the Company's major operations were addressed and the plans were heavily reviewed by federal and state regulators. The result of this effort was that all aspects of the Bank's operations performed without major interruption in 2000 and entering the new millennium had a negligible impact on customer service, correspondent banking or profitability.
Securities and Exchange Commission WEB Site
The Securities and Exchange Commission maintains a WEB site that contains reports, proxy and information statements and other information regarding registrants (including the Company) that file electronically with the Commission. That address is (http: //www.sec.gov)
TABLE I
SUMMARY OF OPERATIONS
- - - - - - - Years Ending December 31, - - - - (In Thousands Except for Share Amounts)
2000 1999 1998 1997 1996
Total Interest Income $ 18,207 $ 16,243 $ 15,772 $ 15,084 $ 14,182 Total Interest Expense (8,790) (7,663) (7,745) (7,474) (7,103) -------- ------- ------- ------- -------
Net Interest Income 9,417 8,580 8,027 7,610 7,079 Provision for Loan Losses 500 320 355 190 135 ------- ------- -------- ------- -------
Net Interest Income after
Provision for Loan Losses 8,917 8,260 7,672 7,420 6,944 Other Income 1,263 1,026 735 571 592 Other Expenses 6,631 5,912 5,377 5,115 4,570 ------- ------- -------- ------- -------
Income before Income Taxes 3,549 3,374 3,030 2,876 2,966 Income Tax Expense 1,168 1,049 1,018 996 953 ------- ------- -------- ------- -------
Net Income $ 2,381 $ 2,325 $ 2,012 $ 1,880 $ 2,013 ======= ======= ======== ======= =======
Net Income Per Share $ 4.74 $ 4.63 $ 4.01 $ 3.73 $ 3.92 Dividends Per Share $ 1.24 $ 1.16 $ 1.08 $ 1.00 $ .94
Total Assets at Year End $248,600 $220,481 $ 210,981 $190,770 $178,847 ======= ======= ======== ======= =======
Return on Average Assets 1.03% 1.08% 1.01% 1.00% 1.15% Return on Average Equity 9.40% 9.94% 9.12% 8.80% 9.99% Dividend Payout Ratio 26.14% 25.04% 26.94% 26.80% 24.00% Year End Equity to Assets Ratio 10.57% 10.99% 10.83% 11.16% 11.31%
TABLE II
1 Yields are computed on a taxable equivalent basis using a 37% income tax rate. 2 Average balances are based on daily balances. 3 Includes loans in nonaccrual status. 4 Average balances for securities available for sale are based on amortized carrying values and do not reflect changes in market values.
TABLE III
EFFECT OF RATE-VOLUME CHANGES ON NET INTEREST INCOME (On a fully taxable equivalent basis) (In thousands of dollars)
2000 Compared to 1999 1999 Compared to 1998 -------------------------- --------------------- Increase (Decrease) Increase (Decrease)
Due to Change in: Total Due to Change in: Total Average Average Increase Average Average Increase Volume Rate (Decrease) Volume Rate (Decrease) ------- -------- ---------- ------- ------ ---------
Interest Income:
Loans 2 $1,841 $ 353 $2,194 $1,093 $(557) $ 536
Investment Securities: Taxable (159) 45 (114) (135) (62) (197) Nontaxable 8 (17) (9) (10) 11 1 ----- ---- ---- ---- ---- ----
Total Investment Securities (151) 28 (123) (145) (51) (196)
Interest bearing deposits in banks (37) (6) (43) 155 3 158 Federal funds sold (169) 67 (102) 25 (33) (8) ----- ---- ---- ---- ---- ----
Total Interest Income 1,484 442 1,926 1,128 (638) 490 ----- ---- ----- ----- ---- ----
Interest Expense:
Deposits: Demand (72) 130 58 105 (104) 1 Savings 15 52 67 37 (125) (88) All other time deposits 610 318 928 358 (438) (80) Other borrowed money 65 9 74 86 (1) 85 ----- ---- ---- ---- ---- ----
Total Interest Expense 618 509 1,127 586 (668) (82) ----- ---- ----- ---- ---- ----
Net Interest Income $ 866 $ (67) $ 799 $ 542 $ 30 $ 572 ===== ==== ==== ==== ==== ====
1 Changes in volume are calculated based on the difference in average balance multiplied by the prior year average rate. Rate change differences are the difference in the volume changes and the actual dollar amount of interest income or expense changes.
2 Nonaccrual loans have been included in average asset balances.
TABLE IV
INTEREST RATE SENSITIVITY ANALYSIS (In thousands of dollars) DECEMBER 31, 2000
More than 5 Years 1 - 90 91 - 365 1 to 3 3 to 5 or Without Days Days Years Years Maturity Total
EARNINGS ASSETS
Loans $23,758 $81,296 $46,202 $29,748 $8,263 $189,267 Fed funds sold 7,040 7,040 Securities 2,717 9,299 7,647 2,703 3,461 25,827 Interest bearing time deposits 4,853 200 1,308 6,361 ------ ------ ------ ------ ----- -------
Total 38,368 90,795 55,157 32,451 11,724 228,495 ------ ------ ------ ------ ------ -------
INTEREST BEARING LIABILITIES
Transaction accounts 17,679 17,679 Money market accounts 12,281 12,281 Savings accounts 23,334 23,334 Time deposits more than $100,000 4,172 14,335 13,754 2,623 34,884 Time deposits less than $100,000 15,745 40,408 38,912 6,883 76 102,024 Other borrowed money 1,172 462 66 2,309 4,009 ------ ------ ------ ------ ----- -------
Total 73,211 55,915 53,128 9,572 2,385 194,211 ------ ------ ------ ------ ----- -------
Discrete interest
sensitivity GAP (34,843) 34,880 2,029 22,879 9,339 34,284
Cumulative interest
sensitivity GAP (34,843) 37 2,066 24,945 34,284
Ratio of cumulative Interest sensitive assets to cumulative interest sensitive liabilities 52.41% 100.03% 101.13% 113.00% 117.65%
Assumes all transaction, money market and savings deposit accounts reprice within 90 days.
Item 7.
Item 7. Financial Statements
Page
Consolidated Balance Sheets as of December 31, 2000 and 1999 24
Consolidated Statements of Income for the Years Ended December 31, 2000, 1999 and 1998 25
Consolidated Statements of Changes in Stockholders' Equity for the Years Ended December 31, 2000, 1999 and 1998 26
Consolidated Statements of Cash Flows for the Years Ended December 31, 2000, 1999 and 1998 27
Notes to Consolidated Financial Statements 28
Independent Auditors' Report 46
CONSOLIDATED BALANCE SHEETS
HIGHLANDS BANKSHARES, INC.
December 31, ASSETS 2000 1999 ------------ ------------
Cash and due from banks (notes 2, 3 and 16) $ 7,061,961 $ 7,312,241 Interest bearing deposits in banks 6,360,931 2,436,271 Federal funds sold 7,039,508 2,702,633 Investments: Securities held to maturity (note 4) 2,228,390 3,176,547 (fair value of $2,233,856 and $3,175,918 at December 31, 2000 and 1999, respectively) Securities available for sale (note 4) 22,835,324 25,892,783 Other investments 763,050 745,550
Loans (notes 5, 14, 15 and 16) 189,267,688 166,614,055 Less allowance for loan losses (note 6) (1,492,936) (1,318,332) ----------- -----------
Net Loans 187,774,752 165,295,723
Bank premises and equipment (note 7) 6,809,453 5,690,860 Interest receivable 1,901,296 1,627,874 Investment in insurance contracts 4,854,304 4,661,662 Other assets 971,124 938,901 ----------- -----------
Total Assets $248,600,093 $220,481,045 =========== ===========
LIABILITIES
Deposits: Noninterest bearing $ 26,369,759 $ 21,085,145 Interest bearing Money market and interest checking 17,678,521 18,101,823 Money market savings 12,281,053 13,391,006 Savings accounts 23,333,958 21,330,208 Certificates of deposit over $100,000 (note 8) 34,884,029 28,528,959 All other time deposits (note 8) 102,023,919 89,907,847 ----------- -----------
Total Deposits 216,571,239 192,344,988
Accrued expenses and other liabilities 1,751,921 1,344,052 Long-term debt (note 9) 4,009,319 2,567,958 ----------- -----------
Total Liabilities 222,332,479 196,256,998 ----------- -----------
STOCKHOLDERS' EQUITY
Common stock, $5 par value, 3,000,000 and 1,000,000 shares authorized at December 31, 2000 and 1999, respectively, 546,764 shares issued 2,733,820 2,733,820 Surplus 1,661,987 1,661,987 Retained earnings (note 12) 22,825,747 21,067,191 Other accumulated comprehensive income (loss) 38,761 (246,250) ----------- -----------
27,260,315 25,216,748 Treasury stock (at cost, 44,866 shares in 2000 and 1999) (992,701) (992,701) ----------- -----------
Total Stockholders' Equity 26,267,614 24,224,047 ----------- -----------
Total Liabilities and Stockholders' Equity $248,600,093 $220,481,045 =========== ===========
The accompanying notes are an integral part of this statement.
CONSOLIDATED STATEMENTS OF INCOME
HIGHLANDS BANKSHARES, INC.
Years Ended December 31, ------------------------------ 2000 1999 1998 INTEREST INCOME:
Loans, including fees $15,891,868 $13,663,857 $13,144,542 Federal funds sold 330,761 431,670 440,293 Interest bearing deposits 179,100 221,724 64,230 Investment securities - taxable 1,641,057 1,754,509 1,952,454 Investment securities - nontaxable 164,486 171,192 170,115 ---------- ---------- ----------
Total Interest Income 18,207,272 16,242,952 15,771,634 ---------- ---------- ----------
INTEREST EXPENSE:
Time deposits over $100,000 1,865,498 1,524,334 1,428,100 Other deposits 6,712,478 6,000,044 6,263,489 ---------- ---------- ----------
Total Interest on Deposits 8,577,976 7,524,378 7,691,589
Borrowed money 212,054 138,313 52,937 ---------- ---------- ----------
Total Interest Expense 8,790,030 7,662,691 7,744,526 ---------- ---------- ----------
NET INTEREST INCOME 9,417,242 8,580,261 8,027,108
PROVISION FOR LOAN LOSSES (note 6) 500,000 320,000 355,000 ---------- ---------- ----------
Net Interest Income after Provision for Loan Losses 8,917,242 8,260,261 7,672,108 ---------- ---------- ----------
NONINTEREST INCOME:
Service charges 591,614 409,052 339,289 Insurance commissions and income 132,105 112,339 107,482 Other operating income 435,534 568,903 290,221 Gain (loss) on security transactions (note 4) 103,870 (63,590) (2,071) -------- ------- -------
Total Noninterest Income 1,263,123 1,026,704 734,921 ---------- ---------- ----------
NONINTEREST EXPENSES:
Salaries and benefits (note 11) 3,629,664 3,230,973 2,916,970 Occupancy expense 302,738 269,483 269,469 Equipment expense 548,850 472,441 411,660 Data processing expense 489,744 473,392 456,740 Other operating expenses 1,659,834 1,466,016 1,321,750 ---------- ---------- ----------
Total Noninterest Expenses 6,630,830 5,912,305 5,376,589 ---------- ---------- ----------
Income before Income Tax Expense 3,549,535 3,374,660 3,030,440
INCOME TAX EXPENSE (note 10) 1,168,624 1,049,291 1,018,558 ---------- ---------- ----------
NET INCOME $ 2,380,911 $ 2,325,369 $ 2,011,882 ========== ========== ==========
Earnings Per Share $ 4.74 $ 4.63 $ 4.01 ========== ========== ==========
Cash Dividends Paid Per Share $ 1.24 $ 1.16 $ 1.08 ========== ========== ==========
Weighted Average Shares Outstanding 501,898 501,898 501,898 ========== ========== ==========
The accompanying notes are an integral part of this statement.
The accompanying notes are an integral part of this statement.
CONSOLIDATED STATEMENTS OF CASH FLOWS
HIGHLANDS BANKSHARES, INC.
Years Ended December 31, 2000 1999 1998 -------------- --------- -------- CASH FLOWS FROM OPERATING ACTIVITIES:
Net income $ 2,380,911 $ 2,325,369 $ 2,011,882 Adjustments to reconcile net income to net cash provided by operating activities: (Gain) loss on sale of securities (103,870) 63,590 2,071 Gain on sale of property and equipment (237) Depreciation 447,697 407,147 350,429 Increase in insurance contracts (192,642) (139,230) (52,432) Net amortization of security premiums 2,171 151,150 15,062 Provision for loan losses 500,000 320,000 355,000 Deferred income tax expense 18,010 (15,192) (6,441) Change in other assets and liabilities: Interest receivable (158,422) (71,527) (8,743) Other assets 86,378 (105,451) 127,550 Accrued expenses 315,869 116,566 (83,512) ---------- ---------- ----------
Net Cash Provided by Operating Activities 3,295,865 3,052,422 2,710,866 ---------- ---------- ----------
CASH FLOWS FROM INVESTING ACTIVITIES: Purchase of branch, net of cash acquired (1,220,000) Proceeds from maturity of securities held to maturity 952,376 332,027 1,068,833 Proceeds from maturities of securities available for sale 7,590,970 15,000,285 12,719,231 Proceeds from sales of securities available for sale 2,115,255 377,499 Purchases of securities available for sale (3,978,886)(12,312,504)(10,681,150) Net change in other investments (17,500) (14,600) (15,700) Net change in deposits in other banks (3,924,660) 995,252 (2,604,887) Net increase in loans (17,279,029)(18,587,196)(11,647,875) Change in federal funds sold (2,736,875) 9,671,650 (5,479,168) Purchase of property and equipment (1,287,893) (1,338,297) (337,341) Proceeds from sale of property and equipment 2,840 Investment in insurance contracts (2,400,000) (2,070,000) ----------- ---------- -----------
Net Cash Used in Investing Activities (19,783,402) (8,275,884)(19,048,057) ---------- ---------- -----------
CASH FLOWS FROM FINANCING ACTIVITIES: Net change in time deposits 14,050,142 6,489,323 7,306,146 Net change in other deposit accounts 1,368,109 1,268,300 9,345,508 Additional long-term debt 1,731,532 394,922 2,145,532 Repayment of long-term debt (290,171) (146,508) (52,140) Dividends paid in cash (622,355) (582,197) (542,048) -------- -------- ---------
Net Cash Provided by Financing Activities 16,237,257 7,423,840 18,202,998 ---------- ---------- ----------
CASH AND CASH EQUIVALENTS: Net (decrease) increase in cash and due from banks (250,280) 2,200,378 1,865,807 Cash and due from banks, beginning of year 7,312,241 5,111,863 3,246,056 ---------- ---------- ----------
Cash and Due from Banks, End of Year $ 7,061,961 $ 7,312,241 $ 5,111,863 ========== ========== ==========
Supplemental Disclosures: Cash paid for:
Interest expense $ 8,610,571 $ 7,688,056 $ 7,798,847 Income taxes 1,203,000 1,152,533 1,013,250
The accompanying notes are an integral part of this statement.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
HIGHLANDS BANKSHARES, INC.
NOTE 1 NATURE OF OPERATIONS:
Highlands Bankshares, Inc. (the "Company") is a bank holding company and operates under a charter issued by the state of West Virginia. The Company owns all of the outstanding stock of The Grant County Bank, the Capon Valley Bank and HBI Life Insurance Company, Inc. which operate under charters issued in West Virginia and Arizona. State chartered banks are subject to regulation by the West Virginia Division of Banking, Federal Reserve Bank and the Federal Deposit Insurance Corporation while the insurance company is regulated by the Arizona Department of Insurance. The Banks provide services to customers located mainly in Grant, Hardy, Hampshire, Mineral, Pendleton and Randolph counties of West Virginia, including the towns of Petersburg, Keyser, Moorefield and Wardensville through seven branch offices. The insurance company sells life and accident coverage exclusively through the Company's subsidiary banks.
NOTE 2 SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES:
The accounting and reporting policies of Highlands Bankshares, Inc. ("Company") and its subsidiaries conform to generally accepted accounting principles and to accepted practice within the banking industry.
(a) Principles of Consolidation
The consolidated financial statements include the accounts of The Grant County Bank, the Capon Valley Bank and HBI Life Insurance Company. All significant intercompany accounts and transactions have been eliminated.
(b) Use of Estimates in the Preparation of Financial Statements
In preparing the financial statements, management is required to make estimates and assumptions that affect the reported amounts in those statements; actual results could differ significantly from those estimates. A material estimate that is particularly susceptible to significant changes is the determination of the allowance for loan losses, which is sensitive to changes in local economic conditions.
(c) Cash and Cash Equivalents
Cash and cash equivalents include cash on hand and noninterest bearing funds at correspondent institutions.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
HIGHLANDS BANKSHARES, INC.
NOTE 2 SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED):
(d) Securities
Securities that the Company has both the positive intent and ability to hold to maturity (at time of purchase) are classified as held to maturity securities. All other securities are classified as available for sale. Securities held to maturity are carried at historical cost and adjusted for amortization of premiums and accretion of discounts, using the effective interest method. Securities available for sale are carried at fair value with any valuation adjustments reported, net of deferred taxes, as other accumulated comprehensive income. Also included in securities available for sale are marketable equity securities.
Other investments consist of investments in the Federal Home Loan Bank of Pittsburgh and the Federal Reserve Bank of Richmond. Such investments are required as members of these institutions and these investments cannot be sold without a change in the members' borrowing or service levels.
Interest and dividends on securities and amortization of premiums and discounts on securities are reported as interest income using the effective interest method. Gains (losses) realized on sales and calls of securities are determined using the specific identification method.
(e) Loans
Loans are carried on the balance sheet net of any unearned interest and the allowance for loan losses. Interest income on loans is determined using the effective interest method on the daily amount of principal outstanding except where serious doubt exists as to collectibility of the loan, in which case the accrual of income is discontinued.
(f) Allowance For Loan Losses
The allowance for loan losses is based upon management's knowledge and review of the loan portfolio. Estimation of an adequate allowance for loan losses involves the exercise of judgement, the use of assumptions with respect to present economic conditions and knowledge of the environment in which the Banks operate. Among the factors considered in determining the level of the allowance are the changes in composition of the loan portfolio, the amount of delinquent and nonaccrual loans, past loan loss experience and the value of collateral securing the loans.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
HIGHLANDS BANKSHARES, INC.
NOTE 2 SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED):
(g) Impaired Loans
Accounting standards require that impaired loans be presented in the financial statements at the present value of expected future cash flows or at the fair value of the loan's collateral. A valuation allowance is required to the extent that such measurement is less than the recorded investment. Under this standard a loan is considered impaired based on current information and events, if it is probable that the Company will be unable to collect the scheduled payments of principal and interest when due under the contractual terms of the loan agreement. Charge-offs for impaired loans occur when the loan, or portion of the loan, is determined to be uncollectible.
(h) Bank Premises and Equipment
Bank premises and equipment are stated at cost less accumulated depreciation. Depreciation is charged to income over the estimated useful lives of the assets using a combination of the straight-line and accelerated methods. The ranges of the useful lives of bank premises and equipment are as follows:
Buildings and Improvements 15 - 40 years Furniture and fixtures 5 - 15 years
Maintenance, repairs, renewals, and minor improvements are charged to operations as incurred. Gains and losses on routine dispositions are reflected in other income or expense.
(i) Income Taxes
Amounts provided for income tax expense are based on income reported for financial statement purposes rather than amounts currently payable under federal and state tax laws. Deferred taxes, which arise principally from differences between the period in which certain income and expenses are recognized for financial accounting purposes and the period in which they affect taxable income, are included in the amounts provided for income taxes.
(j) Earnings Per Share
Earnings per share are based on the weighted average number of shares outstanding.
(k) Foreclosed Real Estate
The components of foreclosed real estate are adjusted to the lower of cost or fair value less estimated costs of disposal. The current year provision for a valuation allowance has been recorded as an expense to current operations.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
HIGHLANDS BANKSHARES, INC.
NOTE 2 SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED):
(l) Comprehensive Income
The Corporation adopted SFAS 130, Reporting Comprehensive Income, as of January 1, 1998. Accounting principles generally require that recognized revenue, expenses, gains and losses be included in net income. Certain changes in assets and liabilities, such as unrealized gains and losses on available-for-sale securities, are reported as a separate component of the equity section of the balance sheet. Such items, along with net income, are components of comprehensive income. The adoption of SFAS 130 had no effect on the Corporation's net income or shareholders' equity.
The components of other comprehensive income and related tax effects are as follows:
Years Ended December 31, ------------------------ 2000 1999 1998 ---- ---- ---- (In thousands)
Unrealized holding gains (losses) on available-for-sale securities $ 556,267 $(644,019) $ 124,455 Reclassification adjustment for (gains) losses realized in income (103,870) 63,590 2,071 -------- -------- --------
Net Unrealized Gains (Losses) 452,397 (580,429) 126,526 Tax effect (167,386) 214,757 (46,814) -------- -------- --------
Net Change $ 285,011 $(365,672) $ 79,712 ======== ======== ========
NOTE 3 CASH AND DUE FROM BANKS:
The Banks are required to maintain average reserve balances based on a percentage of deposits. The Banks have generally met this requirement through average cash on hand and balances with their correspondent institutions.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
HIGHLANDS BANKSHARES, INC.
NOTE 4 SECURITIES:
The carrying amount and estimated fair value of securities are as follows:
Carrying Unrealized Unrealized Fair Amount Gains Losses Value
Held to Maturity
December 31, 2000
U.S. Agencies $ 88,609 $ $ 319 $ 88,290 Mortgage-backed 8,893 298 9,191 State and municipals 2,130,888 13,042 7,555 2,136,375 ---------- --------- --------- ---------
Total Securities
Held to Maturity $ 2,228,390 $ 13,340 $ 7,874 $2 ,233,856 ========== ========= ========= =========
December 31, 1999
Mortgage-backed $ 339,877 $ 406 $ 590 $ 339,693 State and municipals 2,836,670 21,575 22,020 2,836,225 ---------- --------- --------- ---------
Total Securities
Held to Maturity $ 3,176,547 $ 21,981 $ 22,610 $ 3,175,918 ========== ========= ========= =========
Available for Sale
December 31, 2000
U. S. Treasuries and Agencies $18,178,632 $ 79,250 $ 38,211 $18,219,671 Mortgage-backed 3,257,381 24,107 6,402 3,275,086 State and municipals 771,710 19,146 1,539 789,317 Marketable equities 58,274 6,574 51,700 Corporate obligations 507,796 8,246 499,550 ---------- --------- --------- ---------
Total Securities
Available for Sale $22,773,793 $ 122,503 $ 60,972 $22,835,324 ========== ========= ========= ==========
December 31, 1999
U. S. Treasuries and Agencies $20,923,302 $ 6,971 $ 260,709 $20,669,564 Mortgage-backed 4,426,672 5,988 93,779 4,338,881 State and municipals 255,000 12,112 242,888 Marketable equities 167,211 15,711 151,500 Corporate obligations 511,466 21,516 489,950 ---------- --------- --------- ---------
Total Securities
Available for Sale $26,283,651 $ 12,959 $ 403,827 $25,892,783 ========== ========= ========= ==========
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
HIGHLANDS BANKSHARES, INC.
NOTE 4 SECURITIES (CONTINUED):
The carrying amount and fair value of debt securities at December 31, 2000, by contractual maturity, are shown below. Expected maturities will differ from contractual maturities because borrowers may have the right to call or prepay obligations with or without call or prepayment penalties.
Securities Held to Maturity Fair Cost Value
Due in one year or less $ 531,435 $ 531,986 Due after one year through five years 1,108,326 1,104,174 Due after five years through ten years 491,127 500,215 Due after ten years 88,609 88,290 Mortgage-backed securities 8,893 9,191 --------- ---------
Total Held to Maturity $2,228,390 $ 2,233,856 ========= ==========
Securities Available for Sale Fair Cost Value
Due in one year or less $7,034,645 $ 7,018,526 Due after one year through five years 10,745,968 10,801,394 Due after five years through ten years 1,355,000 1,357,305 Due after ten years 322,525 331,313 Mortgage-backed securities 3,257,381 3,275,086 --------- ---------
Total Fixed Rate Securities 22,715,519 22,783,624 Equities 58,274 51,700 --------- ---------
Total Available for Sale $22,773,793 $ 22,835,324 ========== ===========
The carrying amount (which approximates market value) of securities pledged by the banks to primarily secure deposits amounted to $10,786,000 at December 31, 2000 and $10,326,000 at December 31, 1999.
There were no holdings totaling more than 10% of stockholders' equity with any issuer as of December 31, 2000 and 1999.
All gains or losses in 1998 are from calls or early payoffs of securities designated as held to maturity. Losses in 1999 and gains in 2000 arose from the sale of securities available for sale. Realized gains or losses for the years ending December 31 are as follows:
2000 1999 1998 ------------ ------------ --------
Gains $ 103,870 $ 4,259 $ 9,438 Losses (67,849) (11,509) -------- --------- ---------
Total $ 103,870 $ (63,590) $ (2,071) ======== ========= =========
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
HIGHLANDS BANKSHARES, INC.
NOTE 5 LOANS:
Loans outstanding as of December 31 are summarized as follows:
2000 1999 -------------- ------
Commercial $ 37,681,492 $ 31,566,793 Real estate construction 4,061,000 3,296,000 Real estate mortgages 101,889,826 93,391,419 Consumer installment 46,191,314 39,993,963 ----------- -----------
Subtotal 189,823,632 168,248,175 Unearned interest (555,944) (1,634,120) ----------- -----------
Total Loans $189,267,688 $166,614,055 =========== ===========
NOTE 6 ALLOWANCE FOR LOAN LOSSES:
A summary of changes in the allowance for loan losses for the years ended December 31 is shown in the following schedule:
2000 1999 1998 ------------------------- ------
Balance at beginning of year $ 1,318,332 $ 1,355,377 $ 1,369,566
Allowance relating to loans acquired in purchase 86,873 Provision charged to operating expenses 500,000 320,000 355,000 Loan recoveries 102,873 90,544 107,051 Loans charged off (515,142) (447,589) (476,240) ---------- ---------- -----------
Balance at end of year $ 1,492,936 $ 1,318,332 $ 1,355,377 ========== ========== ===========
Percentage of outstanding loans .79% .79% .91%
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
HIGHLANDS BANKSHARES, INC.
NOTE 7 BANK PREMISES AND EQUIPMENT:
Bank premises and equipment as of December 31 are summarized as follows:
2000 1999 ------------ ----------
Land $ 1,017,103 $ 917,139 Buildings and improvements 6,087,509 5,019,994 Furniture and equipment 3,322,481 2,925,284 ---------- ----------
Total cost 10,427,093 8,862,417 Less - accumulated depreciation (3,617,640) (3,171,557) ---------- -----------
Net Book Value $ 6,809,453 $ 5,690,860 ========== ==========
Provisions for depreciation of $447,697 in 2000, $407,147 in 1999 and $350,429 in 1998 were charged to operations.
NOTE 8 DEPOSITS:
At December 31, 2000, the scheduled maturities of certificates of deposit are as follows:
2001 $ 75,987,325 2002 43,890,585 2003 7,448,992 2004 3,238,955 2005 6,342,091 -----------
Total $136,907,948 ===========
NOTE 9 LONG-TERM DEBT:
The Company has borrowed money from the Federal Home Loan Bank of Pittsburgh (FHLB). The interest rates on most of the notes payable were fixed at the time of the advance and range from 2.50% to 6.85%; the weighted average interest rate is 5.78% at December 31, 2000. The debt is secured by the assets of the Banks.
Repayments of long-term debt are due either monthly or quarterly. Interest expense of $212,054, $138,313, and $52,937 was incurred on these debts in 2000, 1999, and 1998, respectively. The maturities of long-term debt as of December 31, 2000 are as follows:
2001 $ 1,363,977 2002 202,845 2003 672,157 2004 199,555 2005 210,578 Thereafter 1,360,207 -----------
Total $ 4,009,319 ===========
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
HIGHLANDS BANKSHARES, INC.
NOTE 10 INCOME TAX EXPENSE:
The components of income tax expense for the years ended December 31, are summarized as follows:
2000 1999 1998 ------------ ----------- --------
Current Expense
Federal $ 953,961 $ 930,223 $ 899,787 State 196,653 134,260 125,212 --------- -------- --------
Total Current Expense 1,150,614 1,064,483 1,024,999 --------- --------- ---------
Deferred Expense
Federal 16,431 (13,961) (5,919) State 1,579 (1,231) (522) --------- -------- --------
Total Deferred Expense 18,010 (15,192) (6,441) --------- -------- --------
Income Tax Expense $1,168,624 $1,049,291 $1,018,558 ========= ========= =========
Income expense (benefits) relating to security transactions are as follows: $ 38,432 $ ( 23,528) $ (766)
The deferred tax effects of temporary differences for the years ended December 31 as follows:
2000 1999 1998 ------------ -------------------
Tax effect of temporary differences:
Provision for loan losses $ (12,874) $ (10,937) $ (24,887) Sale of loans 3,693 7,192 32,612 Pension expense (24,694) (26,626) (18,030) Depreciation 52,928 23,945 30,497 Deferred compensation (38,471) (24,797) Basis of securities sold 75,369 Miscellaneous (37,941) 16,031 (26,633) ------- ------- -------
Net (increase) decrease in Deferred income tax benefit $ 18,010 $ (15,192) $ (6,441) ======== ======= =======
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
HIGHLANDS BANKSHARES, INC.
NOTE 10 INCOME TAX EXPENSE (CONTINUED):
The net deferred tax assets arising from temporary differences as of December 31 are summarized as follows:
2000 1999 ------------ -------
Deferred Tax Assets:
Provision for loan losses $ 382,072 $ 316,232 Insurance commissions 32,181 30,663 Unrealized loss on securities available for sale 144,618 Deferred compensation 89,319 50,860 Accrued pension expense 23,965 Other 25,310 10,796 -------- --------
Total Assets 552,847 553,169 -------- --------
Deferred Tax Liabilities: ------------------------- Unrealized gain on securities available for sale 22,769 Accretion income 22,914 41,840 Property basis differences 299,745 156,768 -------- --------
Total Liabilities 345,428 198,608 -------- --------
Net Tax Asset $ 207,419 $ 354,561 ======== ========
The following table summarizes the difference between income tax expense and the amount computed by applying the federal statutory income tax rate for the years ended December 31:
2000 1999 1998 ------------ ------------- ------
Amounts at federal statutory rates $ 1,206,848 $1,147,384 $1,030,351 Additions (reductions) Resulting from: Tax-exempt income (82,259) (71,484) (61,331) Partially exempt income (36,606) (30,125) (27,497) State income taxes, net 115,964 100,227 90,004 Income from life insurance contracts (71,798) (51,515) (15,096) Capital losses incurred (utilized) (53,346) State income tax adjustment 30,000 Other 6,475 8,150 2,127 ---------- --------- ---------
Income tax expense $ 1,168,624 $1,049,291 $1,018,558 ========== ========= =========
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
HIGHLANDS BANKSHARES, INC.
NOTE 11 EMPLOYEE BENEFITS:
The Company's two subsidiary banks each have separate retirement and profit sharing plans which cover substantially all full time employees at each bank. The Capon Valley Bank has a defined contribution pension plan with 401(k) features that is funded with discretionary contributions by the Company. The Company matches on a limited basis the contributions of the employees. Investment of employee balances is done through the direction of each employee.
The Grant County Bank is a member of the West Virginia Bankers' Association Retirement Plan. Benefits under the plan are based on compensation and years of service with 100% vesting after seven years of service. The Plan's assets are in excess of the projected benefit obligations and thus the Bank was not required to make contributions to the Plan in 2000, 1999 or 1998. The amounts of the accrued liability and the net pension expense reflected in operations are insignificant. In addition, The Grant County Bank also maintains a profit sharing plan covering substantially all employees to which contributions are made at the discretion of the Board of Directors.
The Company has established an employee stock ownership plan which will provide stock ownership to all employees of the Company. The Plan provides total vesting upon the attainment of seven years of service. Contributions to the plan are made at the discretion of the Board of Directors and are allocated based on the compensation of each employee relative to total compensation paid by the Company. All shares held by the Plan will be considered outstanding in the computation of earnings per share. Shares of Company stock when distributed will have restrictions on transferability.
Expenses related to the above benefit plans charged to operations totaled $266,601 in 2000, $266,704 in 1999 and $197,386 in 1998.
NOTE 12 RESTRICTIONS ON DIVIDENDS OF SUBSIDIARY BANKS:
The principal source of funds of Highlands Bankshares, Inc. is dividends paid by subsidiary banks. The various regulatory authorities impose restrictions on dividends paid by a state bank. A state bank cannot pay dividends (without the consent of state banking authorities) in excess of the total net profits of the current year and the combined retained profits of the previous two years. As of January 1, 2001, the banks could pay dividends to the Company of approximately $3,441,000 without permission of the regulatory authorities.
NOTE 13 ACQUISITION OF THE STOCKMANS BANK OF HARMAN
On July 27, 2000, The Grant County Bank acquired the remaining stock not already owned by Highlands Bankshares from the stockholders of the Stockmans Bank of Harman (hereinafter referred to as "Harman"). Stockmans was a single branch bank serving Randolph County in West Virginia. The acquisition has been accounted for as purchase under generally accepted accounting principles and operations subsequent to July 26, 2000 have been included as part of the operations of the Company for the year 2000. Grant purchased the 229 shares not already owned by Highlands from unrelated shareholders and Highlands contributed the 21 shares it owned to Grant as a capital contribution. Unrelated shareholders were paid $7,850 per share in cash for their shares at closing. The total acquisition cost, including shares acquired in previous years, was $1,878,000 plus expenses. The total purchase price was allocated as follows:
Cash and Due From Banks $ .7 million Loans Receivable 5.7 million Securities 2.2 million Fed Funds Sold 1.6 million Other Assets .7 million Deposits Assumed (8.7) million Other Liabilities (.3) million Cash Paid and Expenses of Purchase (1.9) million
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
HIGHLANDS BANKSHARES, INC.
NOTE 13 ACQUISITION OF THE STOCKMANS BANK OF HARMAN (CONTINUED)
As part of the accounting for this transaction, the Company acquired goodwill totaling $219,000 which is being amortized on a straight line basis over a period of ten years.
Proforma operations for 2000 and 1999, as if the companies had been combined from the beginning of each year, are shown below (in thousands of dollars):
2000 1999
Interest Income $ 18,596 $ 16,952 Interest Expense (8,951) (7,960) --------- --------- Net Interest Income 9,645 8,992 Provision for Loan Losses (500) (347) --------- --------- Net 9,145 8,645 Noninterest Income 1,275 1,055 Noninterest Expense (6,899) (6,364) --------- --------- Income before Income Taxes 3,521 3,336 Provision for Income Taxes (1,152) (1,026) --------- ---------
Net Income $ 2,369 $ 2,310 ========= =========
NOTE 14 TRANSACTIONS WITH RELATED PARTIES:
During the year, officers and directors (and companies controlled by them) were customers of and had transactions with the subsidiary Banks in the normal course of business. These transactions were made on substantially the same terms as those prevailing for other customers and did not involve any abnormal risk. The aggregate amount of loans to related parties of $2,443,788 at December 31, 1999 was increased $859,495 by new loans and reduced $882,922 by payments resulting in an ending balance of $2,420,361 at December 31, 2000.
NOTE 15 COMMITMENTS AND GUARANTEES:
The Banks make commitments to extend credit in the normal course of business and issued standby letters of credit to meet the financing needs of their customers. The amount of the commitments represents the Banks' exposure to credit loss that is not included in the balance sheet. As of the balance sheet dates, the Banks had outstanding the following commitments:
2000 1999
Commitments to extend credit $11,517,000 $ 6,212,000 Standby letters of credit 438,000 215,000
The Banks use the same credit policies in making commitments and issuing letters of credit as it does for the loans reflected in the balance sheet.
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. Commitments generally have fixed expiration dates or other termination clauses and may require payment of a fee. Since many of the commitments are expected to expire without being drawn upon, the total commitment amounts do not necessarily represent future cash requirements. The Banks evaluate each customer's creditworthiness on a case-by-case basis. The amount of collateral obtained, if deemed necessary by the Banks upon extension of credit, is based on management's credit evaluation of the borrower. Collateral held varies but may include accounts receivable, inventory, property, plant and equipment.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
HIGHLANDS BANKSHARES, INC.
NOTE 16 CONCENTRATIONS:
The Banks grant commercial, residential real estate and consumer loans to customers located primarily in the eastern portion of the State of West Virginia. Although the Banks have a diversified loan portfolio, a substantial portion of the debtors' ability to honor their contracts is dependent upon the agribusiness economic sector. Collateral required by the Banks is determined on an individual basis depending on the purpose of the loan and the financial condition of the borrower. The ultimate collectibility of the loan portfolios is susceptible to changes in local economic conditions. Approximately 56% of the loan portfolio is secured by real estate. See note 5 for a complete breakdown of loans by type.
The Bank has cash deposited in and federal funds sold to other commercial banks totaling $6,809,453 and $6,669,749 at December 31, 2000 and 1999, respectively.
NOTE 17 DISCLOSURES ABOUT FAIR VALUE OF FINANCIAL INSTRUMENTS:
The fair value of the Company's assets and liabilities is influenced heavily by market conditions. Fair value applies to both assets and liabilities, either on or off the balance sheet. Fair value is defined as the amount at which a financial instrument could be exchanged in a current transaction between willing parties, other than in a forced or liquidation sale.
The following methods and assumptions were used to estimate the fair value of each class of financial instruments for which it is practicable to estimate that value:
Cash, Due from Banks and Money Market Investments
The carrying amount of cash, due from bank balances, interest bearing deposits and federal funds sold is a reasonable estimate of fair value.
Securities
Fair values of securities are based on quoted market prices or dealer quotes. If a quoted market price is not available, fair value is estimated using quoted market prices for similar securities.
Loans
The fair value of loans is estimated by discounting the future cash flows using the current rates at which similar loans would be made to borrowers with similar credit ratings and for the same remaining maturities, taking into consideration the credit risk in various loan categories.
Deposits
The fair value of demand, interest checking, regular savings and money market deposits is the amount payable on demand at the reporting date. The fair value of fixed maturity certificates of deposit is estimated using the rates currently offered for deposits of similar remaining maturities.
Long Term Debt
The fair value of fixed rate loans is estimated using the rates currently offered by the Federal Intermediate Credit Bank for indebtedness with similar maturities.
Interest Payable and Receivable
The carrying value of amounts of interest receivable and payable is a reasonable estimate of fair value.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
HIGHLANDS BANKSHARES, INC.
NOTE 17 DISCLOSURES ABOUT FAIR VALUE OF FINANCIAL INSTRUMENTS (CONTINUED):
Off-Balance-Sheet Items
The carrying amount and estimated fair value of off-balance-sheet items were not material at December 31, 2000.
The carrying amount and estimated fair values of financial instruments as of December 31 are as follows:
2000 1999 Estimated Estimated Carrying Fair Carrying Fair Amount Value Amount Value
Financial Assets: Cash and due from banks $ 7,061,961 $ 7,061,961 $ 7,312,241 $7,312,241 Interest bearing deposits 6,360,931 6,360,931 2,436,271 2,436,271 Federal funds sold 7,039,508 7,039,508 2,702,633 2,702,633 Securities held to maturity 2,228,390 2,233,856 3,176,547 3,175,918 Securities available for sale 22,835,324 22,835,324 25,892,783 25,892,783 Other investments 763,050 763,050 745,550 745,550 Loans, net 187,774,752 187,498,412 165,295,723 164,368,631 Interest receivable 1,901,296 1,901,296 1,627,874 1,627,874
Financial Liabilities: Demand and savings deposits 79,663,291 79,663,291 73,908,182 73,908,182 Term deposits 136,907,948 137,101,109 118,436,806 117,846,983 Borrowed money 4,009,319 3,964,810 2,567,958 2,346,150 Interest payable 842,979 842,979 663,522 663,522
NOTE 18 REGULATORY MATTERS:
The Company is subject to various regulatory capital requirements administered by the federal banking agencies. 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 Company's financial statements. Under capital adequacy guidelines and the regulatory framework for prompt corrective action, the Company must meet specific capital guidelines that involve quantitative measures of the Company's assets, liabilities, and certain off-balance-sheet items as calculated under regulatory accounting practices. The Company'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 Company to maintain minimum amounts and ratios (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, 2000, that the Company meets all capital adequacy requirements to which it is subject.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
HIGHLANDS BANKSHARES, INC.
NOTE 18 REGULATORY MATTERS (CONTINUED):
To be categorized as well capitalized the Company 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 that management believes have changed the Company's category from a well capitalized status.
The Company's actual capital ratios are presented in the following table:
Actual Regulatory Requirements ------- ----------------------- December Adequately Well 2000 1999 Capitalized Capitalized Total risk-based ratio 16.03% 17.35% 8.00% 10.00% Tier 1 risk-based ratio 15.17% 16.60% 4.00% 6.00% Total assets leverage ratio 10.57% 10.99% 4.00% 5.00%
Capital ratios and amounts are applicable both at the individual bank level and on a consolidated basis. At December 31, 2000, both subsidiary banks had capital levels in excess of minimum requirements. As such, both banks qualified as "well capitalized banks" for FDIC insurance purposes and thus were charged the minimum rate for insurance coverage.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
HIGHLANDS BANKSHARES, INC.
NOTE 19 PARENT CORPORATION ONLY FINANCIAL STATEMENTS:
BALANCE SHEETS
Assets December 31, ---------------- 2000 1999 ------------- ------
Cash $ 81,062 $ 34,476 Investment in subsidiaries 26,121,840 24,028,470 Other investments 32,584 100,000 Other assets 671 1,115 Income taxes receivable 237,959 113,268 ---------- -----------
Total Assets $26,474,116 $ 24,277,329 ========== ===========
Liabilities
Due to subsidiaries $ 206,502 $ 53,282 ---------- -----------
Total Liabilities 206,502 53,282 ---------- -----------
Stockholders' Equity
Common stock, par value $5 per share 3,000,000 and 1,000,000 shares authorized at December 31, 2000 and 1999, respectively; 546,764 shares issued $ 2,733,820 $ 2,733,820 Surplus 1,661,987 1,661,987 Retained earnings 22,825,747 21,067,191 Other accumulated comprehensive income 38,761 (246,250) ---------- -----------
27,260,315 25,216,748 Less treasury stock (at cost, 44,866 Shares in 2000 and 1999) (992,701) (992,701) ---------- -----------
Total Stockholders' Equity 26,267,614 24,224,047 ---------- -----------
Total Liabilities and Stockholders'
Equity $26,474,116 $ 24,277,329 ========== ===========
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
HIGHLANDS BANKSHARES, INC.
NOTE 19 PARENT CORPORATION ONLY FINANCIAL STATEMENTS (CONTINUED):
STATEMENTS OF INCOME AND RETAINED EARNINGS
Years Ended December 31, ------------------------------ 2000 1999 1998 --------------------------------
Income
Dividends from subsidiaries$ 722,354 $ 666,652 $ 623,525 Other dividends 1,680 735 ----------- ---------- ----------
Total 722,354 668,332 624,260 ----------- ---------- ----------
Expenses
Professional fees 48,988 34,056 27,032 Directors' fees 32,650 25,500 24,050 Other expenses 31,172 33,905 36,749 ----------- ---------- ----------
Total 112,810 93,461 87,831 ----------- ---------- ----------
Net income before income tax benefit and undistributed income of subsidiaries 609,544 574,871 536,429
Income tax benefit 43,006 37,866 29,360 ----------- ---------- ----------
Income before undistributed income of subsidiaries 652,550 612,737 565,789
Undistributed income of subsidiaries 1,728,361 1,712,632 1,446,093 ----------- ---------- ----------
Net Income 2,380,911 2,325,369 2,011,882
Retained earnings, Beginning of period 21,067,191 19,324,019 17,854,185 Dividends paid (622,355) (582,197) (542,048) ---------- ----------- ---------
Retained Earnings, End of Period $ 22,825,747 $21,067,191 $19,324,019 =========== ========== ==========
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
HIGHLANDS BANKSHARES, INC.
NOTE 19 PARENT CORPORATION ONLY FINANCIAL STATEMENTS (CONTINUED):
STATEMENTS OF CASH FLOWS
Years Ended December 31, --------------------------- 2000 1999 1998 ------------------------------
Cash Flows from Operating Activities:
Net income $ 2,380,911 $2,325,369 $ 2,011,882 Adjustments Undistributed subsidiary income (1,728,361) (1,712,632) (1,446,093) Depreciation 446 624 583 Increase in other investments (12,584) Increase in payables 153,220 52,809 473 Increase in receivables (124,691) (65,251) (25,413) Increase in other assets (2,325) ---------- --------- ----------
Net Cash Provided by Operating Activities 668,941 600,919 539,107 ---------- --------- ----------
Cash Flows from Financing Activities: Dividends paid (622,355) (582,197) (542,048) ---------- --------- ----------
Net Cash Used in Financing Activities (622,355) (582,197) (542,048) ---------- --------- ----------
Net Increase (Decrease) in Cash 46,586 18,722 (2,941)
Cash, Beginning of Year 34,476 15,754 18,695 ---------- --------- ----------
Cash, End of Year $ 81,062 $ 34,476 $ 15,754 ========== ========= ==========
INDEPENDENT AUDITORS' REPORT
The Stockholders and Board of Directors Highlands Bankshares, Inc. Petersburg, West Virginia
We have audited the accompanying consolidated balance sheets of Highlands Bankshares, Inc. and subsidiaries as of December 31, 2000 and 1999, and the related consolidated statements of income, changes in stockholders' equity and cash flows for each of the years in the three year period ended December 31, 2000. These financial statements are the responsibility of the Company's management. Our responsibility is to express an opinion on these financial statements based on our audits.
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 financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the 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 provide a reasonable basis for our opinion.
In our opinion, the financial statements referred to above present fairly, in all material respects, the consolidated financial position of Highlands Bankshares, Inc. and subsidiaries as of December 31, 2000 and 1999, and the consolidated results of their operations and their cash flows for each of the years in the three year period ended December 31, 2000, in conformity with generally accepted accounting principles.
S. B. Hoover & Company, L.L.P.
January 19, 2001 Harrisonburg, Virginia
Item 8.
Item 8. Changes in and Disagreements with Accountants on Accounting and Financial Disclosure
None
Part III
Item 9.
Item 9. Directors, Executive Officers, Promoters and Control Persons; Compliance with Section 16(a) of the Exchange Act
We are incorporating the Proxy Statement of Highlands Bankshares, Inc. via Form DEF 14A filed March 20, 2001.
Item 10.
Item 10. Executive Compensation
We are incorporating the Proxy Statement of Highlands Bankshares, Inc. via Form DEF 14A filed March 20, 2001.
Item 11.
Item 11. Security Ownership of Certain Beneficial Owners and Management
We are incorporating the Proxy Statement of Highlands Bankshares, Inc. via Form DEF 14A filed March 20, 2001.
Item 12.
Item 12. Certain Relationships and Related Transactions
We are incorporating the Proxy Statement of Highlands Bankshares, Inc. via Form DEF 14A filed March 20, 2001.
Most of the directors, partnerships of which they may be general partners and corporations of which they are officers or directors, maintain normal banking relationships with the Bank. Loans made by the Bank to such persons or other entities were made only in the ordinary course of business, were made on substantially the same terms, including interest rates and collateral, as those prevailing at the time for comparable transactions with other persons, and did not involve more than normal risk of collectibility or present other unfavorable features. See Note 14 of the consolidated financial statements.
John VanMeter is a partner with the law firm of VanMeter and VanMeter, which has been retained by the Company as legal counsel and it is anticipated that the relationship will continue. Jack H. Walters is a partner with the law firm of Walters, Krauskopf & Roth, which provides legal counsel to the Company and it is anticipated that the relationship will continue.
Part IV
Item 13.
Item 13. Exhibits and Reports on Form 8-K
a) Exhibits
Exhibit No. Description
2 Not applicable
3 (i) Articles of Incorporation of Highlands Bankshares, Inc. are incorporated by reference to Appendix C to Highlands Bankshares, Inc.'s Form S-4 filed October 20, 1986.
Amendments to the original Articles of Incorporation are incorporated by reference; filed as Exhibit 3(i) with 1997 10KSB.
Item 13. Exhibits and Reports on Form 8-K (Continued)
a) Exhibits (Continued) --------------------
Exhibit No. Description
3 (ii) Bylaws of Highlands Bankshares, Inc. are incorporated by reference to Appendix D to Highland Bankshares, Inc.'s Form S-4 filed October 20, 1986.
Amendments to the original Bylaws are incorporated by reference; filed as Exhibit 3(ii) with 1997 10KSB
4 Not applicable
9 Not applicable
10 Not applicable
11 Not applicable
12 Not applicable
16 Not applicable
18 Not applicable
21 Subsidiary listing of the Registrant is attached on Page 50
22 Not applicable
23 Consent of Certified Public Accountant attached on Page 51
24 Not applicable
27 Financial Data Schedule attached
28 Not applicable
b) Reports on Form 8-K
No reports on Form 8-K were filed in the fourth quarter of 2000.
SIGNATURES
Pursuant to the requirements of Section 13 or 15(d) of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned, thereunto duly authorized.
HIGHLANDS BANKSHARES, INC.
By LESLIE A. BARR -------------- Leslie A. Barr President, Chief Executive Officer
Date March 27, 2001 --------------
By CLARENCE E. PORTER ------------------ Clarence E. Porter Secretary/Treasurer
Date March 27, 2001 --------------
Pursuant to the requirements of the Securities Exchange Act of 1934, this report has been signed below by the following persons on behalf of the registrant and in the capacities and as of the date indicated.
Signature Title Date
LESLIE A. BARR March 27, 2001 - --------------------------- -------------- Leslie A. Barr President & Chief Executive Officer Director
THOMAS B. MCNEIL, SR. March 27, 2001 - --------------------------- -------------- Thomas B. McNeil, Sr. Director
George B. Moomau Director
CLARENCE E. PORTER March 27, 2001 - --------------------------- -------------- Clarence E. Porter Secretary/Treasurer
Courtney R. Tusing Director
JOHN G. VANMETER March 27, 2001 - --------------------------- -------------- John G. VanMeter Chairman of the Board Director
Jack H. Walters Director
L. KEITH WOLFE March 27, 2001 - --------------------------- -------------- L. Keith Wolfe Director