UNITED
STATES
SECURITIES
AND EXCHANGE COMMISSION
WASHINGTON,
D.C. 20549
FORM
10-K
ANNUAL
REPORT PURSUANT TO SECTION 13 OR 15(d)
OF
THE
SECURITIES EXCHANGE ACT OF 1934
For
the
fiscal year ended December 31, 2006
Commission
File Number 0-15572
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FIRST
BANCORP
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(Exact
Name of Registrant as Specified in its Charter)
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North
Carolina
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56-1421916
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(State
of Incorporation)
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(I.R.S.
Employer Identification Number)
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|
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341
North Main Street, Troy, North Carolina
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27371-0508
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(Address
of Principal Executive Offices)
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(Zip
Code)
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Registrant’s
telephone number, including area code:
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(910)
576-6171
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Securities
Registered Pursuant to Section 12(b) of the Act: None
Securities
Registered Pursuant to Section 12(g) of the Act:
COMMON
STOCK, NO PAR VALUE
(Title
of
each class)
Indicate
by check mark if the registrant is a well-known seasoned issuer, as defined
in
Rule 405 of the Securities Act of 1933. ¨
YES ý
NO
Indicate
by check mark if the registrant is not required to file reports pursuant to
Section 13 or Section 15(d) of the Securities Exchange Act of 1934. ¨
YES ý
NO
Indicate
by check mark whether the registrant (1) has filed all reports required to
be
filed by Section 13 or 15(d) of the Exchange Act during the preceding twelve
months (or for such shorter period that the registrant was required to file
such
reports), and (2) has been subject to such filing requirements for the past
90
days. ý
YES ¨
NO
Indicate
by check mark if disclosure of delinquent filers pursuant to Item 405 of
Regulation S-K is not contained herein, and will not be contained, to the best
of the registrant’s knowledge, in definitive proxy or information statements
incorporated by reference in Part III of the Form 10-K or any amendment to
the
Form 10-K. ý
Indicate
by check mark whether the registrant is a large accelerated filer, an
accelerated filer, or a non-accelerated filer. ¨
Large
Accelerated Filer ý
Accelerated Filer ¨
Non-Accelerated Filer
Indicate
by check mark whether the registrant is a shell company (as defined in Rule
12b-2 of the Exchange Act). ¨
YES ý
NO
The
aggregate market value of the Common Stock, no par value, held by non-affiliates
of the registrant, based on the closing price of the Common Stock as of June
30,
2006 as reported by The NASDAQ Global Select Market, was approximately
$248,390,000.
The
number of shares of the registrant’s Common Stock outstanding on February 26,
2007 was 14,362,672.
DOCUMENTS
INCORPORATED BY REFERENCE
Portions
of the Registrant’s Proxy Statement to be filed pursuant to Regulation 14A are
incorporated herein by reference into Part III.
CROSS
REFERENCE INDEX
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Begins
on
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Page
(s)
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Business
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4
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Risk
Factors
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13
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Unresolved
Staff Comments
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15
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Properties
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15
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Legal
Proceedings
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15
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Submission
of Matters to a Vote of Shareholders
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15
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Market
for the Registrant’s Common Stock, Related Shareholder Matters, and Issuer
Purchases of Equity Securities
|
16
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Selected
Consolidated Financial Data
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18,
49
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|
|
Management’s
Discussion and Analysis of Financial Condition and Results of
Operations
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18
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|
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Critical
Accounting Policies
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18
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|
|
Merger
and Acquisition Activity
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21
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|
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Overview
Comparison of 2006 to 2005
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22
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Overview
Comparison of 2005 to 2004
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24
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|
|
Statistical
Information
|
||
|
Net
Interest Income
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26,
50
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|
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Provision
for Loan Losses
|
28,
56
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Noninterest
Income
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28,
51
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Noninterest
Expenses
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30,
51
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Income
Taxes
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31,
52
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Stock-Based
Compensation
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31
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Distribution
of Assets and Liabilities
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34,
52
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Securities
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35,
52
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Loans
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36,
54
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Nonperforming
Assets
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37,
55
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Allowance
for Loan Losses and Loan Loss Experience
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39,
55
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Deposits
and Securities Sold Under Agreements to Repurchase
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40,
56
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Borrowings
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41
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Liquidity,
Commitments, and Contingencies
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42,
58
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|
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Off-Balance
Sheet Arrangements and Derivative Financial Instruments
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43
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|
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Interest
Rate Risk (Including Quantitative and Qualitative Disclosures About
Market Risk)
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44,
59
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|
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Return
on Assets and Equity
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46,
59
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Capital
Resources and Shareholders’ Equity
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46,
60
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Inflation
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47
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|
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Current
Accounting and Regulatory Matters
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48
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Quantitative
and Qualitative Disclosures About Market Risk
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48
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48
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Financial
Statements and Supplementary Data:
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Consolidated
Balance Sheets as of December 31, 2006 and 2005
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62
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Consolidated
Statements of Income for each of the years in the three-year period
ended
December 31, 2006
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63
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Begins
on
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Page
(s)
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Consolidated
Statements of Comprehensive Income for each of the years in the
three-year period ended December 31, 2006
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64
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Consolidated
Statements of Shareholders’ Equity for each of the years in the three-year
period ended December 31, 2006
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65
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Consolidated
Statements of Cash Flows for each of the years in the three-year
period ended December 31, 2006
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66
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Notes
to Consolidated Financial Statements
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67
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Report
of Independent Registered Public Accounting Firm (Current
Firm)
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102
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Report
of Independent Registered Public Accounting Firm (Predecessor
Firm)
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104
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Selected
Consolidated Financial Data
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49
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Quarterly
Financial Summary
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61
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Changes
in and Disagreements with Accountants on Accounting and
Financial Disclosures
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105
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Controls
and Procedures
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105
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Other
Information
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106
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Directors,
Executive Officers and Corporate Governance
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107*
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Executive
Compensation
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107*
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Security
Ownership of Certain Beneficial Owners and Management and
Related Shareholder Matters
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107*
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Certain
Relationships and Related Transactions, and Director
Independence
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108*
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Principal
Accountant Fees and Services
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108*
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Exhibits
and Financial Statement Schedules
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108
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111
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*
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Information
called for by Part III (Items 10 through 14) is incorporated herein
by
reference to the Registrant’s definitive Proxy Statement for the 2007
Annual Meeting of Shareholders to be filed with the Securities and
Exchange Commission.
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PART
I
Item
1. Business
General
Description
The
Company
First
Bancorp (the “Company”) is a bank holding company. The principal activity of the
Company is the ownership and operation of First Bank (the “Bank”), a
state-chartered bank with its main office in Troy, North Carolina. The Company
also owns and operates two nonbank subsidiaries: Montgomery Data Services,
Inc.
(“Montgomery Data”), a data processing company, and First Bancorp Financial
Services, Inc. (“First Bancorp Financial”), which owns and operates various real
estate. Each of these subsidiaries is fully consolidated for financial reporting
purposes. The Company is also the parent to four statutory business trusts
created under the laws of the State of Delaware, which have issued a total
of
$67.0 million in trust preferred debt securities. Under current accounting
requirements, these four statutory business trusts are not consolidated for
financial reporting purposes - see discussion of FIN 46 in Note 1(t) to the
consolidated financial statements under Item 8 below.
The
Company was incorporated in North Carolina on December 8, 1983, as Montgomery
Bancorp, for the purpose of acquiring 100% of the outstanding common stock
of
the Bank through a stock-for-stock exchange. On December 31, 1986, the Company
changed its name to First Bancorp to conform its name to the name of the Bank,
which had changed its name from Bank of Montgomery to First Bank in
1985.
The
Bank
was organized in 1934 and began banking operations in 1935 as the Bank of
Montgomery, named for the county in which it operated. As of December 31, 2006,
the Bank operated in a 26-county area centered in Troy, North Carolina. Troy,
population 3,500, is located in the center of Montgomery County, approximately
60 miles east of Charlotte, 50 miles south of Greensboro, and 80 miles southwest
of Raleigh. The Bank conducts business from 68 branches located within a
120-mile radius of Troy, covering principally a geographical area from Latta,
South Carolina to the southeast, to Wilmington, North Carolina to the east,
to
Radford, Virginia to the north, to Wytheville, Virginia to the northwest, and
to
Harmony, North Carolina to the west. The Bank also has a loan production office
in Blacksburg, which is located in southwestern Virginia and represents the
Bank’s furthest location to the north of Troy. Of the Bank’s 68 branches, 61 are
in North Carolina, with three branches in South Carolina and four braches in
Virginia (where the Bank operates under the name “First Bank of Virginia”).
Ranked by assets, the Bank was the 7th
largest
bank headquartered in North Carolina as of December 31, 2006.
As
of
December 31, 2006, the Bank had one wholly owned subsidiary, First Bank
Insurance Services, Inc. (“First Bank Insurance”). First Bank Insurance was
acquired as an active insurance agency in 1994 in connection with the Company’s
acquisition of a bank that had an insurance subsidiary. On December 29, 1995,
the insurance agency operations of First Bank Insurance were divested. From
December 1995 until October 1999, First Bank Insurance was inactive. In October
1999, First Bank Insurance began operations again as a provider of non-FDIC
insured investments and insurance products. Currently, First Bank Insurance’s
primary business activity is the placement of property and casualty insurance
coverage.
The
Company’s principal executive offices are located at 341 North Main Street,
Troy, North Carolina 27371-0508, and its telephone number is (910) 576-6171.
Unless the context requires otherwise, references to the “Company” in this
annual report on Form 10-K shall mean collectively First Bancorp and its
consolidated subsidiaries.
General
Business
The
Bank
engages in a full range of banking activities, providing such services as
checking, savings, NOW and
money
market accounts and other time deposits of various types including certificates
of deposits (CDs) and individual retirement accounts (IRAs); loans for business,
agriculture, real estate, personal uses, home improvement and automobiles;
credit cards; debit cards; letters of credit; safe deposit box rentals; bank
money orders; and electronic funds transfer services, including wire transfers,
automated teller machines, and bank-by-phone capabilities. In December 2004,
the
Bank also began offering its internet banking product, with on-line bill pay
and
cash management features. In 2005, the Bank began offering repurchase agreements
(also called securities sold under agreement to repurchase), which are similar
to interest-bearing deposits and allows the Bank to pay interest to business
customers without statutory limitations on the number of withdrawals that these
customers can make. Because the majority of the Bank’s customers are individuals
and small to medium-sized businesses located in the counties it serves,
management does not believe that the loss of a single customer or group of
customers would have a material adverse impact on the Bank. There are no
seasonal factors that tend to have any material effect on the Bank’s business,
and the Bank does not rely on foreign sources of funds or income. Because the
Bank operates primarily within the central Piedmont region of North Carolina,
the economic conditions within that area could have a material impact on the
Company. See additional discussion below in the section entitled “Territory
Served and Competition.”
Beginning
in 1999, First Bank Insurance began offering non-FDIC insured investment and
insurance products, including mutual funds, annuities, long-term care insurance,
life insurance, and company retirement plans, as well as financial planning
services (the “investments division”). In May 2001, First Bank Insurance added
to its product line when it acquired two insurance agencies that specialized
in
the placement of property and casualty insurance. In October 2003, the
“investments division” of First Bank Insurance became a part the Bank. The
primary activity of First Bank Insurance is now the placement of property and
casualty insurance products.
Montgomery
Data’s primary business is to provide electronic data processing services for
the Bank. Ownership and operation of Montgomery Data allows the Company to
do
all of its electronic data processing without paying fees for such services
to
an independent provider. Maintaining its own data processing system also allows
the Company to adapt the system to its individual needs and to the services
and
products it offers. Although not a significant source of income, Montgomery
Data
has historically made its excess data processing capabilities available to
area
financial institutions for a fee. For the years ended December 31, 2006, 2005
and 2004, external customers provided gross revenues of $162,000, $279,000
and
$416,000, respectively. During 2005, two of the five customers terminated their
services with Montgomery Data and switched to another provider. During 2006,
one
other customer terminated its service, which left Montgomery Data with two
outside customers as of December 31, 2006. Montgomery Data intends to continue
to market its services to area banks, but does not currently have any near-term
prospects for additional business.
First
Bancorp Financial was organized under the name of First Recovery in September
of
1988 for the purpose of providing a back-up data processing site for Montgomery
Data and other financial and non-financial clients. First Recovery’s back-up
data processing operations were divested in 1994. First Bancorp Financial now
periodically purchases parcels of real estate from the Bank that were acquired
through foreclosure or from branch closings. First Bancorp Financial actively
pursues the sale of these properties.
First
Bancorp Capital Trust I was organized in October 2002 for the purpose of issuing
$20.6 million in debt securities. These borrowings are due on November 7, 2032
and are structured as trust preferred capital securities, which qualify as
capital for regulatory capital adequacy requirements. These debt securities
are
callable by the Company at par on any quarterly interest payment date beginning
on November 7, 2007. The interest rate on these debt securities adjusts on
a
quarterly basis at a rate of three-month LIBOR plus 3.45%. This rate may not
exceed 12.50% through November 2007.
First
Bancorp Capital Trust II and First Bancorp Capital Trust III were organized
in
December 2003 for the purpose of issuing $20.6 million in debt securities ($10.3
million were issued from each trust). These borrowings are due on December
19,
2033 and are also structured as trust preferred capital securities in order
to
qualify as
regulatory
capital. These debt securities are callable by the Company at par on any
quarterly interest payment date beginning on January 23, 2009. The interest
rate
on these debt securities adjusts on a quarterly basis at a weighted average
rate
of three-month LIBOR plus 2.70%.
First
Bancorp Capital Trust IV was organized in April 2006 for the purpose of issuing
$25.8 million in debt securities. These borrowings are due on June 15, 2036
and
are structured as trust preferred capital securities, which qualify as capital
for regulatory capital adequacy requirements. These debt securities are callable
by the Company at par on any quarterly interest payment date beginning on June
15, 2011. The interest rate on these debt securities adjusts on a quarterly
basis at a rate of three-month LIBOR plus 1.39%.
Territory
Served and Competition
The
Company’s headquarters are located in Troy, Montgomery County, North Carolina.
The Company serves primarily the south central area of the Piedmont region
of
North Carolina. The following table presents, for each county where the Company
operates, the number of bank branches operated by the Company within the county
at December 31, 2006, the approximate amount of deposits with the Company in
the
county as of December 31, 2006, the Company’s approximate market share at June
30, 2006, and the number of bank competitors located in the county at June
30,
2006.
|
County
|
No.
of
Branches
|
Deposits
(in
millions)
|
Market
Share
|
Number
of
Competitors
|
|||||||||||
|
Anson,
NC
|
1
|
$
|
12
|
4.5
|
%
|
4
|
|||||||||
|
Brunswick,
NC
|
2
|
4
|
-
|
10
|
|||||||||||
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Cabarrus,
NC
|
2
|
31
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1.9
|
%
|
11
|
||||||||||
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Chatham,
NC
|
2
|
48
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9.7
|
%
|
9
|
||||||||||
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Davidson,
NC
|
3
|
115
|
6.2
|
%
|
10
|
||||||||||
|
Dillon,
SC
|
3
|
68
|
25.5
|
%
|
2
|
||||||||||
|
Duplin,
NC
|
3
|
64
|
11.8
|
%
|
7
|
||||||||||
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Guilford,
NC
|
1
|
47
|
0.4
|
%
|
25
|
||||||||||
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Harnett,
NC
|
3
|
110
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11.8
|
%
|
7
|
||||||||||
|
Iredell,
NC
|
2
|
27
|
1.1
|
%
|
16
|
||||||||||
|
Lee,
NC
|
4
|
171
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21.4
|
%
|
7
|
||||||||||
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Montgomery,
NC
|
5
|
92
|
36.0
|
%
|
4
|
||||||||||
|
Montgomery,
VA
|
1
|
12
|
0.9
|
%
|
10
|
||||||||||
|
Moore,
NC
|
11
|
344
|
25.0
|
%
|
10
|
||||||||||
|
New
Hanover, NC
|
2
|
5
|
-
|
16
|
|||||||||||
|
Pulaski,
VA
|
1
|
19
|
-
|
7
|
|||||||||||
|
Randolph,
NC
|
4
|
58
|
3.6
|
%
|
15
|
||||||||||
|
Richmond,
NC
|
1
|
30
|
7.5
|
%
|
6
|
||||||||||
|
Robeson,
NC
|
5
|
143
|
15.0
|
%
|
10
|
||||||||||
|
Rockingham,
NC
|
1
|
20
|
1.6
|
%
|
10
|
||||||||||
|
Rowan,
NC
|
2
|
46
|
3.1
|
%
|
12
|
||||||||||
|
Scotland,
NC
|
2
|
47
|
15.5
|
%
|
5
|
||||||||||
|
Stanly,
NC
|
4
|
92
|
10.3
|
%
|
6
|
||||||||||
|
Wake,
NC
|
1
|
15
|
0.1
|
%
|
26
|
||||||||||
|
Washington,
VA
|
1
|
35
|
2.8
|
%
|
13
|
||||||||||
|
Wythe,
VA
|
1
|
41
|
8.1
|
%
|
9
|
||||||||||
|
Total
|
68
|
$
|
1,696
|
||||||||||||
The
Company’s 68 branches and facilities are primarily located in small communities
whose economies are based primarily on services, manufacturing and light
industry. Although the Company’s market is predominantly small communities and
rural areas, the market area is not dependent on agriculture. Textiles,
furniture, mobile homes, electronics, plastic and metal fabrication, forest
products, food products, chicken hatcheries, and cigarettes are among the
leading manufacturing industries in the trade area. Leading producers of lumber,
socks, hosiery and area rugs are located in Montgomery County. The Pinehurst
area within Moore County is a widely known golf resort and retirement area.
The
High Point area is widely known for its furniture market. New
Hanover
and Brunswick Counties are in the southeastern coastal region of North Carolina,
which are popular with tourists and have significant retirement populations.
Additionally, several of the communities served by the Company are “bedroom”
communities of large cities like Charlotte, Raleigh and Greensboro, while
several branches are located in medium-sized cities such as Albemarle, Asheboro,
High Point, Southern Pines and Sanford. The Company also has branches in small
communities such as Bennett, Polkton, Vass, and Harmony.
Approximately
20% of the Company’s deposit base is in Moore County, and approximately 10% is
in Lee County, and, accordingly, material changes in competition, the economy
or
population of Moore or Lee counties could materially impact the Company. No
other county comprises more than 10% of the Company’s deposit base.
The
Company competes in its various market areas with, among others, several large
interstate bank holding companies that are headquartered in North Carolina.
These large competitors have substantially greater resources than the Company,
including broader geographic markets, higher lending limits and the ability
to
make greater use of large-scale advertising and promotions. A significant number
of interstate banking acquisitions have taken place in the past decade, thus
further increasing the size and financial resources of some of the Company’s
competitors, three of which are among the largest bank holding companies in
the
nation. In many of the Company’s markets, the Company also competes against
banks that have been organized within the past ten years. These new banks often
focus on loan and deposit balance sheet growth, and not necessarily on earnings
profitability. This strategy often allows them to offer more attractive terms
on
loans and deposits than the Company is able to offer because the Company must
achieve an acceptable level of profitability. Moore County, which as noted
above
comprises a disproportionate share of the Company’s deposits, is a particularly
competitive market, with at least ten other financial institutions having a
physical presence. See “Supervision and Regulation” below for a further
discussion of regulations in the Company’s industry that affect
competition.
The
Company competes not only against banking organizations, but also against a
wide
range of financial service providers, including federally and state-chartered
savings and loan institutions, credit unions, investment and brokerage firms
and
small-loan or consumer finance companies. One of the credit unions in the
Company’s market area is among the largest in the nation. Competition among
financial institutions of all types is virtually unlimited with respect to
legal
ability and authority to provide most financial services. The Company also
experiences competition from internet banks, particularly in the area of time
deposits.
However,
the Company believes it has certain advantages over its competition in the
areas
it serves. The Company seeks to maintain a distinct local identity in each
of
the communities it serves and actively sponsors and participates in local civic
affairs. Most lending and other customer-related business decisions can be
made
without delays often associated with larger systems. Additionally, employment
of
local managers and personnel in various offices and low turnover of personnel
enable the Company to establish and maintain long-term relationships with
individual and corporate customers.
Lending
Policy and Procedures
Conservative
lending policies and procedures and appropriate underwriting standards are
high
priorities of the Bank. Loans are approved under the Bank’s written loan policy,
which provides that lending officers, principally branch managers, have
authority to approve loans of various amounts up to $250,000. Each of the Bank’s
regional senior lending officers has discretion to approve secured loans in
principal amounts up to $350,000 and together can approve loans up to
$3,000,000. Lending limits may vary depending upon whether the loan is secured
or unsecured.
The
Bank’s board of directors reviews and approves loans that exceed management’s
lending authority, loans to executive officers, directors, and their affiliates
and, in certain instances, other types of loans. New credit extensions are
reviewed daily by the Bank’s senior management and at least monthly by its board
of directors.
The
Bank
continually monitors its loan portfolio to identify areas of concern and to
enable management to take corrective action. Lending officers and the board
of
directors meet periodically to review past due loans and portfolio quality,
while assuring that the Bank is appropriately meeting the credit needs of the
communities it serves. Individual lending officers are responsible for pursuing
collection of past-due amounts and monitoring any changes in the financial
status of borrowers.
The
Bank
also contracts with an independent consulting firm to review new loan
originations meeting certain criteria, as well as to assign risk grades to
existing credits meeting certain thresholds. The consulting firm’s observations,
comments, and risk grades, including variances with the Bank’s risk grades, are
shared with the audit committee of the Company’s board of directors, and are
considered by management in setting Bank policy, as well as in evaluating the
adequacy of the allowance for loan losses. The consulting firm also provides
training on a periodic basis to the Company’s loan officers to keep them updated
on current developments in the marketplace. For additional information, see
“Allowance for Loan Losses and Loan Loss Experience” under Item 7
below.
Investment
Policy and Procedures
The
Company has adopted an investment policy designed to optimize the Company’s
income from funds not needed to meet loan demand in a manner consistent with
appropriate liquidity and risk objectives. Pursuant to this policy, the Company
may invest in federal, state and municipal obligations, federal agency
obligations, public housing authority bonds, industrial development revenue
bonds, the Federal Home Loan Bank, Fannie Mae, Government National Mortgage
Association, Freddie Mac, Student Loan Marketing Association securities, and,
to
a limited extent, corporate bonds. Except for corporate bonds, the Company’s
investments must be rated at least Baa by Moody’s or BBB by Standard and Poor’s.
Securities rated below A are periodically reviewed for creditworthiness. The
Company may purchase non-rated municipal bonds only if such bonds are in the
Company’s general market area and determined by the Company to have a credit
risk no greater than the minimum ratings referred to above. Industrial
development authority bonds, which normally are not rated, are purchased only
if
they are judged to possess a high degree of credit soundness to assure
reasonably prompt sale at a fair value. The Company is also authorized by its
board of directors to invest a portion of its security portfolio in high quality
corporate bonds, with the amount of bonds related to any one issuer not to
exceed the Company’s legal lending limit. Prior to purchasing a corporate bond,
the Company’s management performs due diligence on the issuer of the bond, and
the purchase is not made unless the Company believes that the purchase of the
bond bears no more risk to the Company than would an unsecured loan to the
same
company.
The
Company’s investment officer implements the investment policy, monitors the
investment portfolio, recommends portfolio strategies and reports to the
Company’s investment committee. Reports of all purchases, sales, issuer calls,
net profits or losses and market appreciation or depreciation of the bond
portfolio are reviewed by the Company’s board of directors each month. Once a
quarter, the Company’s interest rate risk exposure is evaluated by its board of
directors. Once a year, the written investment policy is reviewed by the board
of directors, and the Company’s portfolio is compared with the portfolios of
other companies of comparable size.
Mergers
and Acquisitions
As
part
of its operations, the Company has pursued an acquisition strategy over the
years to augment its internal growth. The Company regularly evaluates the
potential acquisition of or merger with various financial institutions. The
Company’s acquisitions to date have generally fallen into one of three
categories - 1) an acquisition of a financial institution or branch thereof
within a market in which the Company operates, 2) an acquisition of a financial
institution or branch thereof in a market contiguous or nearly contiguous to
a
market in which the Company operates, or 3) an acquisition of a company that
has
products or services that the Company does not currently offer.
The
Company believes that it can enhance its earnings by pursuing these types of
acquisition opportunities through any combination or all of the following:
1)
achieving cost efficiencies, 2) enhancing the acquiree’s earnings or gaining new
customers by introducing a more successful banking model with more products
and
services to the acquiree’s market base, 3) increasing customer satisfaction or
gaining new customers by providing more locations for the convenience of
customers, and 4) leveraging the Company’s customer base by offering new
products and services.
Since
2000, the Company has completed acquisitions in all three categories described
above. During that time, the Company has 1) completed three whole-bank
acquisitions, with one being in the existing market area and the other two
being
in contiguous markets, with assets totaling approximately $500 million, 2)
purchased ten bank branches from other banks (both in the existing market area
and in contiguous/nearly contiguous markets) with total assets of approximately
$250 million, and 3) acquired two insurance agencies, which provided the Company
with the ability to offer property and casualty insurance coverage.
There
are
many factors that the Company considers when evaluating how much to offer for
potential acquisition candidates - in the form of a purchase price comprised
of
cash and/or stock for a whole company purchase or a deposit premium in a branch
purchase. Most significantly, the Company compares expectations of future
earnings per share on a stand-alone basis with projected future earnings per
share assuming completion of the acquisition under various pricing scenarios.
Significant assumptions that affect this analysis include the estimated future
earnings stream of the acquisition candidate, the amount of cost efficiencies
that can be realized, and the interest rate earned/lost on the cash
received/paid. In addition to the earnings per share comparison, the Company
also considers other factors including (but not limited to): marketplace
acquisition statistics, location of the candidate in relation to the Company’s
expansion strategy, market growth potential, management of the candidate,
potential integration issues (including corporate culture), and the size of
the
acquisition candidate.
The
Company plans to continue to evaluate acquisition opportunities that could
potentially benefit the Company and its shareholders. These opportunities may
include acquisitions that do not fit the categories discussed
above.
For
a
further discussion of recent acquisition activity, see “Merger and Acquisition
Activity” under Item 7 below.
Employees
As
of
December 31, 2006, the Company had 579 full-time and 82 part-time employees.
The
Company is not a party to any collective bargaining agreements and considers
its
employee relations to be good.
Supervision
and Regulation
As
a bank
holding company, the Company is subject to supervision, examination and
regulation by the Board of Governors of the Federal Reserve System (the “Federal
Reserve Board”) and the North Carolina Office of the Commissioner of Banks (the
“Commissioner”). The Bank is subject to supervision and examination by the
Federal Deposit Insurance Corporation (the “FDIC”) and the Commissioner. For
additional information, see also Note 15 to the consolidated financial
statements.
Supervision
and Regulation of the Company
The
Company is a bank holding company within the meaning of the Bank Holding Company
Act of 1956, as amended. The Company is also regulated by the Commissioner
under
the Bank Holding Company Act of 1984.
A
bank
holding company is required to file quarterly reports and other information
regarding its business operations and those of its subsidiaries with the Federal
Reserve Board. It is also subject to examination by the Federal Reserve Board
and is required to obtain Federal Reserve Board approval prior to making certain
acquisitions
of other institutions or voting securities. The Commissioner is empowered to
regulate certain acquisitions of North Carolina banks and bank holding
companies, issue cease and desist orders for violations of North Carolina
banking laws, and promulgate rules necessary to effectuate the purposes of
the
North Carolina Bank Holding Company Act of 1984.
Regulatory
authorities have cease and desist powers over bank holding companies and their
nonbank subsidiaries where their actions would constitute a serious threat
to
the safety, soundness or stability of a subsidiary bank. Those authorities
may
compel holding companies to invest additional capital into banking subsidiaries
upon acquisitions or in the event of significant loan losses or rapid growth
of
loans or deposits.
National
and state banks are also authorized by the Act to engage, through “financial
subsidiaries,” in any activity that is permissible for a financial holding
company (as described below) and any activity that the Secretary of the
Treasury, in consultation with the Federal Reserve Board, determines is
financial in nature or incidental to any such financial activity, except (i)
insurance underwriting, (ii) real estate development or real estate investment
activities (unless otherwise permitted by law), (iii) insurance company
portfolio investments and (iv) merchant banking. The authority of a national
or
state bank to invest in a financial subsidiary is subject to a number of
conditions, including, among other things, requirements that the bank be
well-managed and well-capitalized (after deducting from the bank’s capital
outstanding investments in financial subsidiaries).
The
United States Congress and the North Carolina General Assembly have periodically
considered and adopted legislation that has resulted in, and could result in
further, deregulation of both banks and other financial institutions. Such
legislation could modify or eliminate geographic restrictions on banks and
bank
holding companies and current restrictions on the ability of banks to engage
in
certain nonbanking activities. For example, in 1999, the U.S. enacted
legislation that allowed bank holding companies to engage in a wider range
of
non-banking activities, including greater authority to engage in securities
and
insurance activities. Under the Gramm-Leach-Bliley Act (the “Act”), a bank
holding company that elects to become a financial holding company may engage
in
any activity that the Federal Reserve Board, in consultation with the Secretary
of the Treasury, determines by regulation or order is (i) financial in nature,
(ii) incidental to any such financial activity, or (iii) complementary to any
such financial activity and does not pose a substantial risk to the safety
or
soundness of depository institutions or the financial system generally. The
Act
made significant changes in U.S. banking law, principally by repealing certain
restrictive provisions of the 1933 Glass-Steagall Act. The Act lists certain
activities that are deemed to be financial in nature, including lending,
exchanging, transferring, investing for others, or safeguarding money or
securities; underwriting and selling insurance; providing financial, investment,
or economic advisory services; underwriting, dealing in or making a market
in,
securities; and any activity currently permitted for bank holding companies
by
the Federal Reserve Board under Section 4(c)(8) of the Bank Holding Company
Act.
The Act does not authorize banks or their affiliates to engage in commercial
activities that are not financial in nature. A bank holding company may elect
to
be treated as a financial holding company only if all depository institution
subsidiaries of the holding company are well-capitalized, well-managed and
have
at least a satisfactory rating under the Community Reinvestment Act. At the
present time, the Company does not anticipate applying for status as a financial
holding company under the Act. This and other legislative and regulatory changes
have increased the ability of financial institutions to expand the scope of
their operations, both in terms of services offered and geographic coverage.
Such legislative changes have placed the Company in more direct competition
with
other financial institutions, including mutual funds, securities brokerage
firms, insurance companies, investment banking firms, and internet banks. The
Company cannot predict what other legislation might be enacted or what other
regulations might be adopted or, if enacted or adopted, the effect thereof
on
the Company’s business.
After
the
September 11, 2001 terrorist attacks in New York and Washington, D.C., the
United States government acted in several ways to tighten control on activities
perceived to be connected to money laundering and terrorist funding. A series
of
orders were issued that identify terrorists and terrorist organizations and
require the blocking of property and assets of, as well as prohibiting all
transactions or dealings with, such terrorists, terrorist organizations and
those that assist or sponsor them. The USA Patriot Act substantially broadened
existing
anti-money laundering legislation and the extraterritorial jurisdiction of
the
United States, imposed new compliance and due diligence obligations, created
new
crimes and penalties, compelled the production of documents located both inside
and outside the United States, including those of foreign institutions that
have
a correspondent relationship in the United States, and clarified the safe harbor
from civil liability to customers. In addition, the United States Treasury
Department issued regulations in cooperation with the federal banking agencies,
the Securities and Exchange Commission, the Commodity Futures Trading Commission
and the Department of Justice to require customer identification and
verification, expand the money-laundering program requirement to the major
financial services sectors, including insurance and unregistered investment
companies, such as hedge funds, and facilitate and permit the sharing of
information between law enforcement and financial institutions, as well as
among
financial institutions themselves. The United States Treasury Department also
has created the Treasury USA Patriot Act Task Force to work with other financial
regulators, the regulated community, law enforcement and consumers to
continually improve the regulations. The Company has established policies and
procedures to ensure compliance with the USA Patriot Act.
In
2002,
the Sarbanes-Oxley Act was signed into law. The Sarbanes-Oxley Act represents
a
comprehensive revision of laws affecting corporate governance, accounting
obligations and corporate reporting. The Sarbanes-Oxley Act is applicable to
all
companies with equity or debt securities registered under the Securities
Exchange Act of 1934, as amended. In particular, the Sarbanes-Oxley Act
established: (i) new requirements for audit committees, including independence,
expertise, and responsibilities; (ii) additional responsibilities regarding
financial statements for the Chief Executive Officer and Chief Financial Officer
of the reporting company; (iii) new standards for auditors and regulation of
audits; (iv) increased disclosure and reporting obligations for the reporting
company and their directors and executive officers; and (v) new and increased
civil and criminal penalties for violation of the securities laws. The most
significant expense associated with compliance with the Sarbanes-Oxley Act
has
been the internal control documentation and attestation requirements of Section
404 of the Act. The Company’s incremental external costs associated with
complying with Section 404 of the Sarbanes-Oxley Act amounted to approximately
$305,000, $832,000 and $193,000, for the years ended December 31, 2006, 2005,
and 2004 respectively. The incremental costs relate to higher external audit
fees and outside consultant fees. These amounts do not include the value of
the
significant internal resources devoted to compliance.
Supervision
and Regulation of the Bank
Federal
banking regulations applicable to all depository financial institutions, among
other things: (i) provide federal bank regulatory agencies with powers to
prevent unsafe and unsound banking practices; (ii) restrict preferential loans
by banks to “insiders” of banks; (iii) require banks to keep information on
loans to major shareholders and executive officers and (iv) bar certain director
and officer interlocks between financial institutions.
As
a
state-chartered bank, the Bank is subject to the provisions of the North
Carolina banking statutes and to regulation by the Commissioner. The
Commissioner has a wide range of regulatory authority over the activities and
operations of the Bank, and the Commissioner’s staff conducts periodic
examinations of the Bank and its affiliates to ensure compliance with state
banking regulations. Among other things, the Commissioner regulates the merger
and consolidation of state-chartered banks, the payment of dividends, loans
to
officers and directors, recordkeeping, types and amounts of loans and
investments, and the establishment of branches. The Commissioner also has cease
and desist powers over state-chartered banks for violations of state banking
laws or regulations and for unsafe or unsound conduct that is likely to
jeopardize the interest of depositors.
The
dividends that may be paid by the Bank to the Company are subject to legal
limitations under North Carolina law. In addition, regulatory authorities may
restrict dividends that may be paid by the Bank or the Company’s other
subsidiaries. The ability of the Company to pay dividends to its shareholders
is
largely dependent on the dividends paid to the Company by its
subsidiaries.
The
Bank
is a member of the FDIC, which currently insures the deposits of member banks.
For this protection, each member bank pays a quarterly statutory assessment,
based on its level of deposits, and is subject to the rules and regulations
of
the FDIC. For each of the past three years, due to the funded status of the
insurance fund, the FDIC has not assessed the Bank any insurance premiums.
However,
in late
2006 the FDIC adopted new regulations that will result in all financial
institutions, including the Bank, being assessed deposit insurance premiums
ranging from 5 cents to 43 cents per $100 of assessable deposits beginning
in
2007. The amount of the assessment within that range will be based on risk
factors that have been established by the FDIC. Based on the specified risk
factors, the Bank believes its assessment rate for 2007 will be between 5 cents
and 7 cents per $100 of assessable deposits, which will result in annual
insurance premium expense to the Bank of approximately $800,000 to $1.1 million
based on its current deposit base. However, as part of the 2006 legislation
that
created the new assessment schedule, the rules provide credits to certain
institutions that paid deposit insurance premiums in years prior to 1996. As
a
result, the Bank has received a one-time credit of $833,000 that can be used
to
offset FDIC insurance premiums beginning in 2007. Accordingly, the Company
expects that this one-time credit will substantially offset its FDIC insurance
premiums in 2007, but that there will be little, or no, remaining credit in
2008. Thus, the Company expects that its deposit insurance premium expense
will increase significantly in 2008.
In
addition to deposit insurance assessments, the FDIC is authorized to collect
assessments against insured deposits to be paid to the Finance Corporation
(FICO) to service FICO debt incurred in connection with the resolution of the
thrift industry crisis the 1980s. The FICO assessment rate is adjusted
quarterly. The average annual assessment rate in 2006 was 1.28 cents per $100
for insured deposits, which resulted in approximately $200,000 in expense for
the Bank for 2006. For the first quarter of 2007, the FICO assessment rate
for
such deposits will decrease to 1.22 cents per $100 of assessable
deposits.
The
FDIC
also is authorized to approve conversions, mergers, consolidations and
assumptions of deposit liability transactions between insured banks and
uninsured banks or institutions, and to prevent capital or surplus diminution
in
such transactions where the resulting, continuing, or assumed bank is an insured
nonmember bank. In addition, the FDIC monitors the Bank’s compliance with
several banking statutes, such as the Depository Institution Management
Interlocks Act and the Community Reinvestment Act of 1977. The FDIC also
conducts periodic examinations of the Bank to assess its compliance with banking
laws and regulations, and it has the power to implement changes in or
restrictions on a bank’s operations if it finds that a violation is occurring or
is threatened.
Neither
the Company nor the Bank can predict what other legislation might be enacted
or
what other regulations might be adopted, or if enacted or adopted, the effect
thereof on the Bank’s operations.
See
“Capital Resources and Shareholders’ Equity” under Item 7 below for a discussion
of regulatory capital requirements.
Available
Information
The
Company maintains a corporate Internet site at www.firstbancorp.com, which
contains a link within the “Investor Relations” section of the site to each of
its filings with the Securities and Exchange Commission, including its annual
reports on Form 10-K, its quarterly reports on Form 10-Q, its current reports
on
Form 8-K, and amendments to those reports filed or furnished pursuant to Section
13(a) or 15(d) of the Securities Exchange Act of 1934. These filings are
available, free of charge, as soon as reasonably practicable after the Company
electronically files such material with, or furnishes it to, the Securities
and
Exchange Commission. These filings can also be accessed at the Securities and
Exchange Commission’s website located at www.sec.gov. Information included on
the Company’s Internet site is not incorporated by reference into this annual
report.
Item
1A. Risk Factors
We
are subject to interest rate risk, which could negatively impact
earnings.
Net
interest income is our most significant component of earnings. Our net interest
income results from the difference between the yields we earn on our
interest-earning assets, primarily loans and investments, and the rates that
we
pay on our interest-bearing liabilities, primarily deposits and borrowings.
When
interest rates change, the yields we earn on our interest-earning assets and
the
rates we pay on our interest-bearing liabilities do not necessarily move in
tandem with each other because of the difference between their maturities and
repricing characteristics. This mismatch can negatively impact net interest
income if the margin between yields earned and rates paid narrows, as described
below. Interest rate environment changes can occur at any time and are affected
by many factors that are outside our control, including inflation, recession,
unemployment trends, the Federal Reserve’s monetary policy, domestic and
international disorder and instability in domestic and foreign financial
markets.
Since
mid-2004, the interest rate environment has generally been one in which
short-term interest rates have risen faster than long-term interest rates.
In
2006, this continued disparity resulted in short-term interest rates reaching
the same level as long-term interest rates, which is referred to as a “flat
yield curve.” A flat yield curve is unfavorable for us and many other financial
institutions because our funding costs are generally tied to short-term interest
rates, while our investment rates, in the form of securities and loans, are
more
closely correlated to long-term interest rates prevailing in the marketplace.
The flat yield curve negatively impacted our net interest margin in 2006.
However, strong growth that we achieved in loans and deposits in 2006 more
than
offset its negative impact, resulting in an increase in net interest income
in
2006 compared to 2005. Many economists are predicting a continued flat interest
rate environment in 2007, or one in which short-term interest rates rise higher
than long-term interest rates. If that happens, our net interest margin will
continue to experience negative pressure relative to prior periods when
short-term interest rates were lower than long-term interest rates.
We
face strong competition, which could hurt our business.
Our
business operations are centered primarily in North Carolina, southwestern
Virginia and northeastern South Carolina. Increased competition within this
region may result in reduced loan originations and deposits. Ultimately, we
may
not be able to compete successfully against current and future competitors.
Many
competitors offer the types of loans and banking services that we offer. These
competitors include savings associations, national banks, regional banks and
other community banks. We also face competition from many other types of
financial institutions, including finance companies, internet banks, brokerage
firms, insurance companies, credit unions, mortgage banks and other financial
intermediaries.
We
compete in our market areas with several large interstate bank holding
companies, including three of the largest in the nation, which are headquartered
in North Carolina. These large competitors have substantially greater resources
than we have, including broader geographic markets, more banking locations,
higher lending limits and the ability to make greater use of large-scale
advertising and promotions. Also, these institutions, particularly to the extent
they are more diversified than we are, may be able to offer the same products
and services that we offer at more competitive rates and prices.
We
also
compete in some of our market areas with many banks that have been organized
within the past ten years. These new banks often focus on loan and deposit
balance sheet growth, and not necessarily on earnings profitability. This
strategy often allows them to offer more attractive terms on loans and deposits
than we are able to offer because we must achieve an acceptable level of
profitability.
Moore
County, which comprises a disproportionate share of our deposits, is a
particularly competitive market, with at least ten other financial institutions
having a physical presence, including both large interstate
bank
holding companies and recently organized banks.
Our
allowance for loan losses may not be adequate to cover actual
losses.
Like
all
financial institutions, we maintain an allowance for loan losses to provide
for
probable losses caused by customer loan defaults. The allowance for loan losses
may not be adequate to cover actual loan losses, and in this case additional
and
larger provisions for loan losses would be required to replenish the allowance.
Provisions for loan losses are a direct charge against income.
We
establish the amount of the allowance for loan losses based on historical loss
rates, as well as estimates and assumptions about future events. Because of
the
extensive use of estimates and assumptions, our actual loan losses could differ,
possibly significantly, from our estimate. We believes that our allowance for
loan losses is adequate to provide for probable losses, but it is possible
that
the allowance for loan losses will need to be increased for credit reasons
or
that regulators will require us to increase this allowance. Either of these
occurrences could materially and adversely affect our earnings and
profitability.
We
are vulnerable to the economic conditions within the fairly small geographic
region in which we operate.
Like
many
businesses, our overall success is partially dependent on the economic
conditions in the marketplace where we operate. Our marketplace is predominately
concentrated in the central Piedmont region of North Carolina. An economic
downturn in this fairly small geographic region that negatively impacted our
customers would likely also have an adverse impact on us. For example, an
economic downturn could result in higher loan default rates and reduce the
value
of real estate securing those loans, which would likely increase our loan
losses. At December 31, 2006, approximately 86% of our loans were secured by
real estate collateral, and thus a decrease in real estate values could have
an
adverse impact on our operations.
We
are subject to extensive regulation, which could have an adverse effect on
our
operations.
We
are
subject to extensive regulation and supervision from the North Carolina
Commissioner of Banks, the FDIC, and the Federal Reserve Board. This regulation
and supervision is intended primarily for the protection of the FDIC insurance
fund and our depositors and borrowers, rather than for holders of our common
stock. Regulatory authorities have extensive discretion in their supervisory
and
enforcement activities, including the imposition of restrictions on operations,
the classification of our assets and determination of the level of the allowance
for loan losses. Changes in the regulations that apply to us, or changes in
our
compliance with regulations, could have a material impact on our
operations.
In
the normal course of business, we process large volumes of transactions
involving millions of dollars. If internal controls fail to work as expected,
if
systems are used in an unauthorized manner, or if employees subvert our internal
controls, we could experience significant losses.
We
process large volumes of transactions on a daily basis and are exposed to
numerous types of operational risk. Operational risk includes the risk of fraud
by persons inside or outside the company, the execution of unauthorized
transactions by employees, errors relating to transaction processing and systems
and breaches of the internal control system and compliance requirements. This
risk of loss also includes potential legal actions that could arise as a result
of an operational deficiency or as a result of noncompliance with applicable
regulatory standards.
We
establish and maintain systems of internal operational controls that provide
us
with timely and accurate information about our level of operational risk.
Although not foolproof, these systems have been designed to manage operational
risk at appropriate, cost-effective levels. Procedures exist that are designed
to ensure that policies relating to conduct, ethics, and business practices
are
followed. From time to time, losses from
operational
risk may occur, including the effects of operational errors. We continually
monitor and improve our internal controls, data processing systems, and
corporate-wide processes and procedures, but there can be no assurance that
future losses will not occur.
We
have a risk of loss related to our merchant credit card
activities.
We
process credit card transactions for approximately 575 commercial merchant
clients. As these clients present us with credit card transactions authorized
by
their customers, we deposit funds in their checking accounts and collect the
corresponding amounts due from the credit card issuer. In the event that the
customer disputes the charge, we are contractually liable for any amounts
legally due to the customer in the event our merchant clients do not make
payment. We experienced a $1.9 million loss in 2006 as a result of this
contingent liability. Although we subsequently reviewed the rest of our merchant
relationships, we
cannot
guarantee that a similar loss will not occur again in the future.
Item
1B. Unresolved Staff Comments
None
Item
2. Properties
The
main
offices of the Company, the Bank and First Bancorp Financial are owned by the
Bank and are located in a three-story building in the central business district
of Troy, North Carolina. The building houses administrative and bank teller
facilities. The Bank’s Operations Division, including customer accounting
functions, offices and operations of Montgomery Data, and offices for loan
operations, are housed in two one-story steel frame buildings approximately
one-half mile west of the main office. Both of these buildings are owned by
the
Bank. The Company operates 68 bank branches. The Company owns all its bank
branch premises except 10 branch offices for which the land and buildings are
leased and two branch offices for which the land is leased but the building
is
owned. In addition, the Company leases one loan production office. There are
no
options to purchase or lease additional properties. The Company considers its
facilities adequate to meet current needs and believes that lease renewals
or
replacement properties can be acquired as necessary to meet future
needs.
Item
3. Legal Proceedings
Various
legal proceedings may arise in the ordinary course of business and may be
pending or threatened against the Company and/or its subsidiaries. However,
neither the Company nor any of its subsidiaries is involved in any pending
legal
proceedings that management believes could have a material effect on the
consolidated financial position of the Company.
There
were no tax shelter penalties assessed by the Internal Revenue Service against
the Company during the year ended December 31, 2006.
Item
4. Submission of Matters to a Vote of
Shareholders
No
matters were submitted to a vote of shareholders during the fourth quarter
of
2006.
Item
5. Market for the Registrant’s Common Stock, Related Shareholder
Matters, and Issuer Purchases of Equity Securities
The
Company’s common stock trades on The NASDAQ Global Select Market under the
symbol FBNC. Table 22, included in “Management’s Discussion and Analysis” below,
set forth the high and low market prices of the Company’s common stock as traded
by the brokerage firms that maintain a market in the Company’s common stock and
the dividends declared for the periods indicated. It is the Company’s current
intention to continue to pay cash dividends in the future comparable to those
in
the recent past. See “Business - Supervision and Regulation” above and Note 15
to the consolidated financial statements for a discussion of regulatory
restrictions on the Company’s payment of dividends. As of December 31, 2006,
there were approximately 2,650 shareholders of record and another 3,600
shareholders whose stock is held in “street name.” There were no sales of
unregistered securities during the year ended December 31, 2006.
Performance
Graph
The
performance graph shown below compares the Company’s cumulative total return to
shareholders for the five-year period commencing December 31, 2001 and ending
December 31, 2006, with the cumulative total return of the Russell 2000 Index
(reflecting overall stock market performance of small-capitalization companies),
and an index of banks with between $1 billion and $5 billion in assets, as
constructed by SNL Securities, LP (reflecting changes in banking industry
stocks). The graph and table assume that $100 was invested on December 31,
2001
in each of the Company’s common stock, the Russell 2000 Index, and the SNL Bank
Index, and that all dividends were reinvested.
First
Bancorp
Comparison
of Five-Year Total Return Performances (1)
Five
Years Ending December 31, 2006
|
Total
Return Index Values (1)
December
31,
|
|||||||||||||||||||
|
2001
|
2002
|
2003
|
2004
|
2005
|
2006
|
||||||||||||||
|
First
Bancorp
|
$
|
100.00
|
108.14
|
148.42
|
199.43
|
152.93
|
171.43
|
||||||||||||
|
Russell
2000
|
100.00
|
79.52
|
117.09
|
138.55
|
144.86
|
171.47
|
|||||||||||||
|
SNL
Index-Banks between $1 billion and $5 billion
|
100.00
|
115.44
|
156.98
|
190.74
|
190.43
|
220.36
|
|||||||||||||
Notes:
|
(1)
|
Total
return indices were provided from an independent source, SNL Securities
LP, Charlottesville, Virginia, and assume initial investment of $100
on
December 31, 2001, reinvestment of dividends, and changes in market
values. Total return index numerical values used in this example
are for
illustrative purposes only.
|
Issuer
Purchases of Equity Securities
Pursuant
to authorizations by the Company’s board of directors, the Company has from time
to time repurchased shares of common stock in private transactions and in
open-market purchases. The most recent board authorization was announced on
July
30, 2004 and authorized the repurchase of 375,000 shares of the Company’s stock.
During 2006, the Company repurchased a total of 53,000 shares of its own stock
at an average price of $20.97 per share.
As
shown below, the Company did not repurchase any shares of its common stock
during the three months ended December 31, 2006.
|
Issuer
Purchases of Equity Securities
|
|||||||||||||
|
Period
|
Total
Number of
Shares
Purchased (2)
|
Average
Price Paid per
Share
|
Total
Number of Shares
Purchased
as Part of
Publicly
Announced
Plans
or Programs (1)
|
Maximum
Number of
Shares
that May Yet Be
Purchased
Under the
Plans
or Programs (1)
|
|||||||||
|
Month
#1 (October 1, 2006 to October 31, 2006)
|
–
|
–
|
–
|
262,015
|
|||||||||
|
Month
#2 (November 1, 2006 to November 30, 2006)
|
–
|
–
|
–
|
262,015
|
|||||||||
|
Month
#3 (December 1, 2006 to December 31, 2006)
|
–
|
–
|
–
|
262,015
|
|||||||||
|
Total
|
–
|
–
|
–
|
262,015
|
|||||||||
Footnotes
to the Above Table
(1)
Any
shares repurchased would be pursuant to publicly announced share repurchase
authorizations. On July 30, 2004, the Company announced that its Board of
Directors had approved the repurchase of 375,000 shares of the Company’s common
stock. The repurchase authorization does not have an expiration date. There
are
no plans or programs the issuer has determined to terminate prior to expiration,
or under which the issuer does not intend to make further
purchases.
(2)
The
table
above does not include shares that were used by option holders to satisfy the
exercise price of the Company’s call options issued by the Company to its
employees and directors pursuant to the Company’s stock option plans.
In
November 2006, a total of 2,091 shares of the Company’s common stock, with a
weighted average market price of $22.35 per share, were used to satisfy an
exercise of options.
Item
6. Selected Consolidated Financial Data
Table
1
sets forth selected consolidated financial data for the Company.
Item
7. Management’s Discussion and Analysis of Financial Condition
and Results of Operations
Management’s
Discussion and Analysis is intended to assist readers in understanding the
Company’s results of operations and changes in financial position for the past
three years. This review should be read in conjunction with the consolidated
financial statements and accompanying notes beginning on page 62 of this report
and the supplemental financial data contained in Tables 1 through 22 included
with this discussion and analysis. All share data for periods prior to November
15, 2004 has been adjusted from originally reported amounts to reflect the
3-for-2 stock split paid on November 15, 2004.
CRITICAL
ACCOUNTING POLICIES
The
accounting principles followed by the Company and the methods of applying these
principles conform with accounting principles generally accepted in the United
States of America and with general practices followed by the banking industry.
Certain of these principles involve a significant amount of judgment and/or
use
of
estimates based on the Company’s best assumptions at the time of the estimation.
The Company has identified three policies as being more sensitive in terms
of
judgments and estimates, taking into account their overall potential impact
to
the Company’s consolidated financial statements - 1) the allowance for loan
losses, 2) tax uncertainties, and 3) intangible assets.
Allowance
for Loan Losses
Due
to
the estimation process and the potential materiality of the amounts involved,
the Company has identified the accounting for the allowance for loan losses
and
the related provision for loan losses as an accounting policy critical to the
Company’s consolidated financial statements. The provision for loan losses
charged to operations is an amount sufficient to bring the allowance for loan
losses to an estimated balance considered adequate to absorb losses inherent
in
the portfolio.
Management’s
determination of the adequacy of the allowance is based primarily on a
mathematical model that estimates the appropriate allowance for loan losses.
This model has two components. The first component involves the estimation
of
losses on loans defined as “impaired loans.” A loan is considered to be impaired
when, based on current information and events, it is probable the Company will
be unable to collect all amounts due according to the contractual terms of
the
loan agreement. The estimated valuation allowance is the difference, if any,
between the loan balance outstanding and the value of the impaired loan as
determined by either 1) an estimate of the cash flows that the Company expects
to receive from the borrower discounted at the loan’s effective rate, or 2) in
the case of a collateral-dependent loan, the fair value of the
collateral.
The
second component of the allowance model is to estimate losses for all loans
not
considered to be impaired loans. First, loans that have been risk graded by
the
Company as having more than “standard” risk but are not considered to be
impaired are assigned estimated loss percentages generally accepted in the
banking industry. Loans that are classified by the Company as having normal
credit risk are segregated by loan type, and estimated loss percentages are
assigned to each loan type, based on the historical losses, current economic
conditions, and operational conditions specific to each loan type.
The
reserve estimated for impaired loans is then added to the reserve estimated
for
all other loans. This becomes the Company’s “allocated allowance.” In addition
to the allocated allowance derived from the model, management also evaluates
other data such as the ratio of the allowance for loan losses to total loans,
net loan growth information, nonperforming asset levels and trends in such
data.
Based on this additional analysis, the Company may determine that an additional
amount of allowance for loan losses is necessary to reserve for probable losses.
This additional amount, if any, is the Company’s “unallocated allowance.” The
sum of the allocated allowance and the unallocated allowance is compared to
the
actual allowance for loan losses recorded on the books of the Company and any
adjustment necessary for the recorded allowance to equal the computed allowance
is recorded as a provision for loan losses. The provision for loan losses is
a
direct charge to earnings in the period recorded.
Although
management uses the best information available to make evaluations, future
adjustments may be necessary if economic, operational, or other conditions
change. In addition, various regulatory agencies, as an integral part of their
examination process, periodically review the Company’s allowance for loan
losses. Such agencies may require the Company to recognize additions to the
allowance based on the examiners’ judgment about information available to them
at the time of their examinations.
For
further discussion, see “Nonperforming Assets” and “Allowance for Loan Losses
and Loan Loss Experience” below.
Tax
Uncertainties
The
Company reserves for tax uncertainties in instances when it has taken a position
on a tax return that may differ from the opinion of the applicable taxing
authority. In accounting for tax contingencies, the Company assesses the
relative merits and risks of certain tax transactions, taking into account
statutory, judicial and regulatory guidance in the context of the Company's
tax
position. For those matters where it is probable that the Company will have
to
pay additional taxes, interest or penalties and a loss or range of losses can
be
reasonably estimated, the Company records reserves in the consolidated financial
statements. For those matters where it is reasonably possible but not probable
that the Company will have to pay additional taxes, interest or penalties and
the loss or range of losses can be reasonably estimated, the Company only makes
disclosures in the notes and does not record reserves in the consolidated
financial statements. The process of concluding that a loss is reasonably
possible or probable and estimating the amount of loss or range of losses and
related tax reserves is inherently subjective and future changes to the reserve
may be necessary based on changes in management's intent, tax law or related
interpretations, or other functions.
The
section below entitled “Income Taxes” and Note 12 to the consolidated financial
statements include information related to a tax loss contingency accrual that
was recorded in 2005. For 2004, the Company had determined that this same tax
uncertainty required disclosure, but not loss accrual.
Intangible
Assets
Due
to
the estimation process and the potential materiality of the amounts involved,
the Company has also identified the accounting for intangible assets as an
accounting policy critical to the Company’s consolidated financial
statements.
When
the
Company completes an acquisition transaction, the excess of the purchase price
over the amount by which the fair market value of assets acquired exceeds the
fair market value of liabilities assumed represents an intangible asset. The
Company must then determine the identifiable portions of the intangible asset,
with any remaining amount classified as goodwill. Identifiable intangible assets
associated with these acquisitions are generally amortized over the estimated
life of the related asset, whereas goodwill is tested annually for impairment,
but not systematically amortized. Assuming no goodwill impairment, it is
beneficial to the Company’s future earnings to have a lower amount assigned to
identifiable intangible assets and higher amount of goodwill as opposed to
having a higher amount considered to be identifiable intangible assets and
a
lower amount classified as goodwill.
For
the
Company, the primary identifiable intangible asset typically recorded in
connection with a whole bank or bank branch acquisition is the value of the
core
deposit intangible, whereas when the Company acquires an insurance agency,
the
primary identifiable intangible asset is the value of the acquired customer
list. Determining the amount of identifiable intangible assets and their average
lives involves multiple assumptions and estimates and is typically determined
by
performing a discounted cash flow analysis, which involves a combination of
any
or all of the following assumptions: customer attrition/runoff, alternative
funding costs, deposit servicing costs, and discount rates. The Company
typically engages a third party consultant to assist in each analysis. For
the
whole bank and bank branch transactions recorded to date, the core deposit
intangibles have generally been estimated to have a life ranging from seven
to
ten years, with an accelerated rate of amortization. For insurance agency
acquisitions, the identifiable intangible assets related to the customer lists
were determined to have a life of ten to fifteen years, with amortization
occurring on a straight-line basis.
Subsequent
to the initial recording of the identifiable intangible assets and goodwill,
the
Company amortizes the identifiable intangible assets over their estimated
average lives, as discussed above. In addition, on at least an annual basis,
goodwill is evaluated for impairment by comparing the fair value of the
Company’s reporting units to their related carrying value, including goodwill
(the Company’s community banking operation is its only
material
reporting unit). At its last evaluation, the fair value of the Company’s
community banking operation exceeded its carrying value, including goodwill.
If
the carrying value of a reporting unit were ever to exceed its fair value,
the
Company would determine whether the implied fair value of the goodwill, using
a
discounted cash flow analysis, exceeded the carrying value of the goodwill.
If
the carrying value of the goodwill exceeded the implied fair value of the
goodwill, an impairment loss would be recorded in an amount equal to that
excess. Performing such a discounted cash flow analysis would involve the
significant use of estimates and assumptions.
The
Company reviews identifiable intangible assets for impairment whenever events
or
changes in circumstances indicate that the carrying value may not be
recoverable. The Company’s policy is that an impairment loss is recognized,
equal to the difference between the asset’s carrying amount and its fair value,
if the sum of the expected undiscounted future cash flows is less than the
carrying amount of the asset. Estimating future cash flows involves the use
of
multiple estimates and assumptions, such as those listed above.
MERGER
AND ACQUISITION ACTIVITY
The
Company did not complete any acquisitions in 2004 or 2005. The Company completed
two branch purchases in 2006, as follows:
(a)
On
July 7, 2006, the Company completed the purchase of a branch of First Citizens
Bank located in Dublin, Virginia. The Company assumed the branch’s $21 million
in deposits and did not purchase any loans in this transaction. The primary
reason for this acquisition was to increase the Company’s presence in
southwestern Virginia, a market in which the Company already had three branches
with a large customer base. The Company paid a deposit premium for the branch
of
approximately $994,000, all of which is deductible for tax purposes. The
identifiable intangible asset associated with the fair value of the core deposit
base, as determined by an independent consulting firm, was determined to be
$269,000 and is being amortized as expense on an accelerated basis over an
eight
year period based on an amortization schedule provided by the consulting firm.
The weighted-average amortization period is approximately 2.2 years. The
remaining intangible asset of $725,000 has been classified as goodwill, and
thus
is not being systematically amortized, but rather is subject to an annual
impairment test. The primary factor that contributed to a purchase price that
resulted in recognition of goodwill was the Company’s desire to expand its
presence in southwestern Virginia with facilities, operations and experienced
staff in place. This branch’s operations are included in the accompanying
Consolidated Statements of Income beginning on the acquisition date of July
7,
2006. Historical pro forma information is not presented due to the immateriality
of this transaction to the overall consolidated financial statements of the
Company.
(b)
On
September 1, 2006, the Company completed the purchase of a branch of Bank of
the
Carolinas in Carthage, North Carolina. The Company assumed the branch’s $24
million in deposits and $6 million in loans. The primary reason for this
acquisition was to increase the Company’s presence in Moore County, a market in
which the Company already had ten branches with a large customer base. The
Company paid a deposit premium for the branch of approximately $1,768,000,
all
of which is deductible for tax purposes. The identifiable intangible asset
associated with the fair value of the core deposit base, as determined by an
independent consulting firm, was determined to be approximately $235,000 and
is
being amortized as expense on an accelerated basis over a thirteen year period
based on an amortization schedule provided by the consulting firm. The
weighted-average amortization period is approximately 3.2 years. The remaining
intangible asset of $1,533,000 has been classified as goodwill, and thus is
not
being systematically amortized, but rather is subject to an annual impairment
test. The primary factor that contributed to a purchase price that resulted
in
recognition of goodwill was the Company’s desire to expand in an existing
high-growth market with facilities, operations and experienced staff in place.
This branch’s operations are included in the accompanying Consolidated
Statements of Income beginning on the acquisition date of September 1, 2006.
Historical pro forma information is not presented due to the immateriality
of
this transaction to the overall consolidated financial statements of the
Company.
See
Note
2 and Note 6 to the consolidated financial statements for additional information
regarding intangible assets.
ANALYSIS
OF RESULTS OF OPERATIONS
Net
interest income, the “spread” between earnings on interest-earning assets and
the interest paid on interest-bearing liabilities, constitutes the largest
source of the Company’s earnings. Other factors that significantly affect
operating results are the provision for loan losses, noninterest income such
as
service fees and noninterest expenses such as salaries, occupancy expense,
equipment expense and other overhead costs, as well as the effects of income
taxes.
2006
Compared to 2005
Overview
- Net income was 20.0% higher in 2006 than in 2005. Both years had unusual
items
of expense that negatively impacted earnings. In 2006, a merchant credit card
loss totaling $1.9 million, or $0.08 per diluted share (after-tax) negatively
impacted earnings, while in 2005, the Company recorded a tax loss related to
an
unfavorable state tax audit amounting to $4.3 million, or $0.30 per diluted
share. Excluding those items, net income would have been essentially unchanged
in 2006 compared to 2005. The positive impact on earnings of high growth in
loans and deposits during 2006 was offset by a lower net interest margin and
higher expenses that were associated with the Company’s growth.
|
Financial
Highlights
|
||||||||||
|
($
in thousands except per share data)
|
2006
|
2005
|
Change
|
|||||||
|
Earnings
|
||||||||||
|
Net
interest income
|
$
|
74,536
|
68,591
|
8.7
|
%
|
|||||
|
Provision
for loan losses
|
4,923
|
3,040
|
61.9
|
%
|
||||||
|
Noninterest
income
|
14,310
|
15,004
|
-4.6
|
%
|
||||||
|
Noninterest
expenses
|
53,198
|
47,636
|
11.7
|
%
|
||||||
|
Income
before income taxes
|
30,725
|
32,919
|
-6.7
|
%
|
||||||
|
Income
tax expense
|
11,423
|
16,829
|
-32.1
|
%
|
||||||
|
Net
income
|
$
|
19,302
|
16,090
|
20.0
|
%
|
|||||
|
Net
income per share
|
||||||||||
|
Basic
|
$
|
1.35
|
1.14
|
18.4
|
%
|
|||||
|
Diluted
|
1.34
|
1.12
|
19.6
|
%
|
||||||
|
At
Year End
|
||||||||||
|
Assets
|
$
|
2,136,624
|
1,801,050
|
18.6
|
%
|
|||||
|
Loans
|
1,740,396
|
1,482,611
|
17.4
|
%
|
||||||
|
Deposits
|
1,695,679
|
1,494,577
|
13.5
|
%
|
||||||
|
Ratios
|
||||||||||
|
Return
on average assets
|
1.00
|
%
|
0.94
|
%
|
||||||
|
Return
on average equity
|
11.83
|
%
|
10.39
|
%
|
||||||
|
Net
interest margin (taxable-equivalent)
|
4.18
|
%
|
4.33
|
%
|
||||||
The
following is a more detailed discussion of the Company’s results for 2006
compared to 2005:
Net
income for the year ended December 31, 2006 amounted to $19,302,000, or $1.34
per diluted share, compared to net income of $16,090,000, or $1.12 per diluted
share, reported for 2005. Results for 2006 include the write-off loss during
the
second and third quarters of a merchant credit card receivable amounting to
$1,900,000, which had an after-tax impact of $1,149,000, or $0.08 per diluted
share, on the Company’s earnings for 2006. Results for 2005 include a loss
accrual related to income tax exposure amounting to $4,338,000, or $0.30 per
diluted share. See additional discussion in the section entitled “Income Taxes”
below.
The
Company experienced strong balance sheet growth in 2006. Total assets at
December 31, 2006 amounted to $2.14 billion, 18.6% higher than a year earlier.
Total loans at December 31, 2006 amounted to $1.74 billion, an increase of
$258
million, or 17.4%, from a year earlier. Total deposits amounted to $1.70 billion
at December 31, 2006, an increase of $201 million, or 13.5%, from a year
earlier. Virtually all of the loan growth was internally-generated, whereas
approximately $44 million of the deposit growth was the result of two branch
acquisitions that were completed in the third quarter of 2006. Total
shareholders’ equity amounted to $162.7 million at December 31, 2006, a 4.5%
increase from a year earlier. Shareholders’ equity was negatively impacted at
December 31, 2006 by the Company’s adoption of new pension plan accounting rules
(FASB Statement 158) that resulted in an increase in pension liabilities of
$6.0
million, an increase in assets (primarily deferred tax assets) in the amount
of
$2.2 million, and a reduction to shareholders’ equity of $3.8
million.
The
growth in loans and deposits was the primary reason for increases in the
Company’s net interest income when comparing 2006 to 2005. Net interest income
for the year ended December 31, 2006 amounted to $74.5 million, an 8.7% increase
over the $68.6 million recorded in 2005. The
impact of the growth in loans and deposits on the Company’s net interest income
was partially offset by declines in the Company’s net interest margin
(tax-equivalent net interest income divided by average earning assets). The
Company’s net interest margin for the year ended December 31, 2006 was 4.18%
compared to 4.33% for 2005. The compressing margin was
primarily due to 1) deposit rates paid by the Company rising by more than loan
and investment yields, which is largely associated with the flat interest rate
yield curve currently prevailing in the marketplace, and 2) the negative impact
of the Company having more of its overall funding occurring in its highest
cost
funding sources, which is a result of a need to fund high loan growth, as well
as customers shifting their funds from low cost deposits to higher cost deposits
as interest rates have risen.
The
Company’s provision for loan losses for 2006 was $4,923,000, an increase of
61.9% over the $3,040,000 recorded in 2005. The higher loss provision
was primarily the result of higher loan growth realized in 2006 compared to
2005, and to a lesser extent an increase in the level of the Company’s
nonperforming assets. Net internal loan growth was $252 million for 2006
compared to $116 million for 2005.
The
Company’s ratio of net charge-offs to average loans was 11 basis points in
2006 compared to 14 basis points in 2005. The Company’s level of nonperforming
assets amounted to $8.4 million at December 31, 2006 compared to $3.1 million
at
December 31, 2005. This increase was primarily the result of the December 31,
2005 level of nonperforming assets being unusually low. The low level of
nonperforming assets was the result of several
of the Company's largest nonaccrual loan relationships being reduced to zero
in
the fourth quarter of 2005, either as a result of cash received or the loan
being charged-off. This resulted in the amount of the Company's nonperforming
loans at December 31, 2005 reaching its lowest level in over five years. In
2006, the Company experienced more typical activity within its nonaccrual loan
category, and the amount of nonaccrual loans increased to a more normal level.
The Company’s nonperforming assets to total assets ratio was 0.39% at December
31, 2006 compared to 0.17% at December 31, 2005. This ratio averaged 0.34%
for
each of the five year ends from 2000-2004.
Noninterest
income for 2006 amounted to $14.3 million, a decrease of 4.6% from the $15.0
million recorded in 2005. The decrease in the 2006 amount was caused by a $1.9
million write-off loss of a merchant credit card receivable. See the section
entitled “Noninterest Income” below for a discussion of this
matter.
Noninterest
expenses for 2006 amounted to $53.2 million, an 11.7% increase from the $47.6
million recorded in 2005. The increase in noninterest expenses is primarily
attributable to costs associated with the Company’s overall growth in loans,
deposits and branch network. Since January 1, 2005, the Company’s loans and
deposits have increased by 27% and 22%, respectively, and the Company’s branch
network has increased from 59 branches to 68 branches. Additionally, in
accordance with the new accounting requirements regarding stock-based
compensation (FASB Statement 123(R)) that were effective on January 1, 2006,
the
Company recorded stock option expense of $325,000 ($246,000 after-tax effect)
for the year ended December 31, 2006. As permitted by previous accounting
standards, no stock option expense was recorded by the Company in 2005, or
any
prior periods.
The
Company’s effective tax rate was 37% for the year ended December 31, 2006. As
noted above, the Company’s income tax expense in 2005 was significantly impacted
by a tax loss accrual recorded in the third quarter of 2005 and a partial
reversal of this accrual recorded in the fourth quarter of 2005. See additional
discussion in the section entitled “Income Taxes” below.
2005
Compared to 2004
Overview
- Net income was 20.0% lower in 2005 than in 2004. In 2005, the Company recorded
a tax loss related to an unfavorable state tax audit amounting to $4.3 million,
or $0.30 per diluted share that significantly impacted earnings. Balance sheet
growth was generally in the 7%-10% range, which resulted in an increase in
income before income tax expense of approximately 8%.
|
Financial
Highlights
|
||||||||||
|
($
in thousands except per share data)
|
2005
|
2004
|
Change
|
|||||||
|
Earnings
|
||||||||||
|
Net
interest income
|
$
|
68,591
|
61,290
|
11.9
|
%
|
|||||
|
Provision
for loan losses
|
3,040
|
2,905
|
4.6
|
%
|
||||||
|
Noninterest
income
|
15,004
|
15,864
|
-5.4
|
%
|
||||||
|
Noninterest
expenses
|
47,636
|
43,717
|
9.0
|
%
|
||||||
|
Income
before income taxes
|
32,919
|
30,532
|
7.8
|
%
|
||||||
|
Income
tax expense
|
16,829
|
10,418
|
61.5
|
%
|
||||||
|
Net
income
|
$
|
16,090
|
20,114
|
-20.0
|
%
|
|||||
|
Net
income per share
|
||||||||||
|
Basic
|
$ |
1.14
|
1.42
|
-19.7
|
%
|
|||||
|
Diluted
|
1.12
|
1.40
|
-20.0
|
%
|
||||||
|
At
Year End
|
||||||||||
|
Assets
|
$ |
1,801,050
|
1,638,913
|
9.9
|
%
|
|||||
|
Loans
|
1,482,611
|
1,367,053
|
8.5
|
%
|
||||||
|
Deposits
|
1,494,577
|
1,388,768
|
7.6
|
%
|
||||||
|
Ratios
|
||||||||||
|
Return
on average assets
|
0.94
|
%
|
1.30
|
%
|
||||||
|
Return
on average equity
|
10.39
|
%
|
13.71
|
%
|
||||||
|
Net
interest margin (taxable-equivalent)
|
4.33
|
%
|
4.31
|
%
|
||||||
The
following is a more detailed discussion of the Company’s results for 2005
compared to 2004:
Net
income for the year ended December 31, 2005 amounted to $16,090,000, or $1.12
per diluted share, a 20.0% decrease from the net income of $20,114,000, or
$1.40
per diluted share, reported for 2004. The annual earnings for 2005 were
significantly impacted by a contingency loss accrual related to income tax
exposure amounting to $4,338,000 (after-tax), or $0.30 per diluted share. The
Company originally accrued $6,320,000, or $0.44 per diluted share, related
to
this loss exposure in the third quarter of 2005. In March 2006, prior to filing
its financial statements, the Company reversed $1,982,000, or $0.14 per diluted
share, of this accrual, effective for the fourth quarter of 2005, as a result
of
a change in the loss estimate. See additional discussion in the section entitled
“Income Taxes” below.
Total
assets at December 31, 2005 amounted to $1.80 billion, 9.9% higher than a year
earlier. Total loans at December 31, 2005 amounted to $1.48 billion, an increase
of $116 million, or 8.5%, from a year earlier. Total deposits amounted to $1.49
billion at December 31, 2005, an increase of $106 million, or 7.6%, from a
year
earlier. Deposit growth would have been higher had the Company not paid off,
without renewing, $50 million in brokered deposits that were outstanding at
December 31, 2004 and matured during 2005. The Company had no brokered deposits
outstanding at December 31, 2005.
The
growth in loans and deposits was the primary reason for the increase in the
Company’s net interest income when comparing 2004 to 2005. Net interest income
for the year ended December 31, 2005 amounted to $68.6 million, an 11.9%
increase over the $61.3 million recorded in 2004. The Company’s net interest
margin (tax-equivalent net interest income divided by average earning assets)
realized for 2005 was 4.33% compared to 4.31% for 2004. The rising interest
rate
environment had a positive effect on the Company’s net interest margin, but the
positive effects were largely offset by the mix of the Company’s deposit growth
being more concentrated in the categories of time deposits and time deposits
greater than $100,000. Time deposits are generally a high cost category of
funds
for the Company. However, their increased usage has been necessary in order
to
fund loan growth.
The
Company’s provision for loan losses did not vary significantly in 2005 compared
to 2004, amounting to $3,040,000 in 2005 compared to $2,905,000 in 2004. The
ratio of net-charge offs to average loans for 2005 was 0.14%, which is the
same
as it was for 2004. At December 31, 2005, the Company’s nonperforming assets to
total assets ratio was 0.17% compared to 0.32% at the prior year end, and was
the lowest it has been at any year end since the Company became publicly held
in
1985.
Noninterest
income for 2005 amounted to $15.0 million, a decrease of 5.4% from the $15.9
million recorded in 2004. The decrease in 2005 is partly a result of lower
service charges on deposit accounts. Service charges on deposit accounts
decreased primarily as a result of the negative impact that higher short term
interest rates had on the service charges that the Company earns from its
commercial depositors - in the Company’s commercial account service charge rate
structure, commercial depositors are given “earnings credits” (negatively
impacting service charges) on their average deposit balances that are tied
to
short term interest rates. Also, in 2005 the Company recorded significantly
lower “securities gains” and “other gains” compared to 2004. In 2005, the
Company recorded a combined net loss of $258,000 for these two line items
compared to a net gain of $648,000 in 2004, a negative change of
$906,000.
Noninterest
expenses in 2005 amounted to $47.6 million, a 9.0% increase from the $43.7
million recorded in 2004. The increase in noninterest expenses was primarily
attributable to costs associated with the Company’s overall growth in loans,
deposits and branch network. Also, the Company’s Sarbanes-Oxley compliance costs
amounted to $832,000 in 2005 compared to $193,000 in 2004.
The
Company’s income tax expense for 2005 of $16.8 million includes the previously
discussed contingency tax loss accrual of $4.3 million. During periods that
did
not include this accrual, the Company’s effective tax rate in 2005 was
approximately 38%-39% compared to approximately 34%-35% in 2004. The higher
effective
tax
rate
in 2005 compared to 2004 is the result of the Company discontinuing, effective
January 1, 2005, the operating structure involving a real estate investment
trust (REIT) that gave rise to the 2005 contingency tax loss
accrual.
Net
Interest Income
Net
interest income on a reported basis amounted to $74,536,000 in 2006, $68,591,000
in 2005, and $61,290,000 in 2004. For internal purposes and in the discussion
that follows, the Company evaluates its net interest income on a tax-equivalent
basis by adding the tax benefit realized from tax-exempt securities to reported
interest income. Net interest income on a tax-equivalent basis amounted to
$75,037,000 in 2006, $69,039,000 in 2005, and $61,765,000 in 2004. Management
believes that analysis of net interest income on a tax-equivalent basis is
useful and appropriate because it allows a comparison of net interest amounts
in
different periods without taking into account the different mix of taxable
versus non-taxable investments that may have existed during those periods.
The
following is a reconciliation of reported net interest income to tax-equivalent
net interest income.
|
Year
ended December 31,
|
||||||||||
|
($
in thousands)
|
2006
|
2005
|
2004
|
|||||||
|
Net
interest income, as reported
|
$
|
74,536
|
68,591
|
61,290
|
||||||
|
Tax-equivalent
adjustment
|
501
|
448
|
475
|
|||||||
|
Net
interest income, tax-equivalent
|
$
|
75,037
|
69,039
|
61,765
|
||||||
Table
2
analyzes net interest income on a tax-equivalent basis. The Company’s net
interest income on a taxable-equivalent basis increased by 8.7% in 2006 and
11.8% in 2005. There are two primary factors that cause changes in the amount
of
net interest income recorded by the Company - 1) growth in loans and deposits,
and 2) the Company’s net interest margin (tax-equivalent net interest income
divided by average interest-earning assets). In 2006, growth in loans and
deposits increased net interest income, the positive effects of which were
partially offset by a lower net interest margin. In 2005, growth in loans and
deposits was the primary cause of higher net interest income, as the Company’s
net interest margin did not change significantly.
The
Company’s loans outstanding grew by 17.4% and 8.5% in 2006 and 2005
respectively, while deposits increased 13.5% in 2006 and 7.6% in 2005. As
illustrated in Table 3, in both 2006 and 2005, net interest income was
positively impacted by this growth (increased volume). In both years, the
positive impact on net interest income of growth in interest-earning assets,
primarily loans, more than offset the higher interest expense associated with
funding the asset growth. In 2006, growth in interest-earning asset volumes
resulted in an increase in interest income of $14.1 million, while growth in
interest-bearing liabilities only resulted in $6.9 million in higher interest
expense. In 2005, growth in interest-earning asset volumes resulted in an
increase in interest income of $9.0 million, while growth in interest-bearing
liabilities only resulted in $3.2 million in higher interest expense. As a
result, balance sheet growth resulted in an increase in tax-equivalent net
interest income of $7.2 million in 2006 and $5.8 million in 2005. For analysis
regarding the nature of the Company’s loan and deposit growth, see “Analysis of
Financial Condition and Changes in Financial Condition” below.
Table
3
also illustrates the impact that changes in the rates that the Company
earned/paid had on the Company’s net interest income in 2005 and 2006. Since
July 2004, the Federal Reserve has increased interest rates 17 times totaling
425 basis points. The rising rate environment has resulted in higher levels
of
interest income and interest expense. In 2006, the higher interest rates
resulted in an increase in interest expense of $14.9 million compared to an
increase in interest income of only $13.7 million, which resulted in a reduction
in net interest income by $1.2 million. In 2005, the rising interest rates
resulted in an increase of $10.7 million in interest income, while the impact
on
interest expense was only $9.3 million, which resulted in an increase to net
interest income of $1.5 million.
The
Company measures the spread between the yield on its earning assets and the
cost
of its funding primarily in terms of the ratio entitled “net interest margin”
which is defined as tax-equivalent net interest income divided by average
earning assets. The Company’s net interest margin decreased in 2006 after
increasing slightly in 2005, amounting to 4.18% in 2006, 4.33% in 2005, and
4.31% in 2004.
In
2006,
the Company’s lower net interest margin was primarily due to 1) deposit rates
paid by the Company rising by more than loan and investment yields, which is
largely associated with the flat interest rate yield curve currently prevailing
in the marketplace, and 2) the negative impact of the Company having more of
its
overall funding occurring in its highest cost funding sources, which is a result
of a need to fund high loan growth, as well as customers shifting their funds
from low cost deposits to higher cost deposits as interest rates have risen.
As
derived from Table 2, in 2006, the yield earned on loans, the Company’s primary
earning asset, increased by only 82 basis points (from 6.62% to 7.44%) while
the
average rate paid on other time deposits, the Company’s largest deposit
category, increased by 123 basis points (from 2.86% to 4.09%). The difference
in
these increases negatively impacted the Company’s net interest margin and was
largely a result of short-term interest rates prevailing in the market place
increasing faster than long-term interest rates - with short-term interest
rates
being approximately the same as long-term interest rates at December 31, 2006
(commonly referred to as a “flat yield curve”). A flat yield curve is
unfavorable for the Company because the Company’s funding costs are generally
tied to short-term interest rates, while its investment rates on earning assets,
in the form of securities and loans, are more closely correlated to long-term
interest rates prevailing in the marketplace.
Also,
as
can be derived from Table 2, during 2006, the Company’s highest cost funding
sources (time deposits, borrowings and securities sold under agreements to
repurchase) comprised 60.5% of its total funding (total interest-bearing
liabilities plus non-interest bearing deposits), an increase from 57.6% in
2005.
As noted above, this shift to higher cost funding sources has been partially
a
result of the need to fund high loan growth, as well as it is the Company’s
observation that some customers have shifted their funds from low cost deposits
to higher cost deposits as interest rates have risen. In addition to the
increases in balances experienced in high cost funding sources, the lowest
cost
category of interest-bearing deposits - Savings, NOW and Money Market Deposits
-
experienced more rate sensitivity than it has historically. The average interest
rate paid on this category of deposits rose 61 basis points in 2006 (from 0.86%
to 1.47%) compared to an increase of only 32 basis points in 2005. The 2006
increase is almost entirely due to the Company’s introduction in late 2005 of a
high interest rate money market account (4.25% for most of 2006) that was
created to compete with area competitors. The average balance of this category
of deposits increased $65 million in 2006 compared to a $52 million decrease
in
average balances in the other lower cost accounts in this category of deposits.
The Company believes that a large portion of the $52 million decrease in the
lower cost accounts was the result of a shift to the high rate
account.
In
2005,
the Company’s net interest margin was positively impacted by the rising interest
rate environment, which at that time was still positively sloped - meaning
long-term interest rates where higher than short term interest rates. The
positive effects of the rising interest rates were largely offset by the mix
of
the Company’s deposit growth being more concentrated in the categories of time
deposits and time deposits greater than $100,000. As derived from Table 2,
in
2005 the yield earned on loans, the Company’s primary earning asset, increased
by 75 basis points, from 5.87% to 6.62%, while the average rate paid on savings,
NOW and money market accounts, the Company’s largest deposit category in those
years, increased by only 32 basis points (from 0.54% to 0.86%). The difference
in these increases positively impacted the Company’s net interest margin.
However, 82% of the Company’s average deposit growth in 2005 was comprised of
time deposits, which are a high cost category of funds for the Company and
incrementally result in lower net interest margins for the Company. In addition
to being a high cost source of funds for the Company, this category of deposits
is typically more price-sensitive than the Company’s other deposit categories,
repricing upward by a greater amount in a rising rate environment than the
Company’s other deposits. In 2005, the average rate paid on time deposits
greater than $100,000 increased by 92 basis points, from 2.34% to 3.26%, while
the average rate paid for all other time deposits increased by 82 basis points,
from 2.04% to 2.86%. The higher growth in time deposits was necessary in order
to fund the Company’s loan growth. The positive and negative factors discussed
above mostly offset each other, resulting in a two basis point increase in
net
interest margin for 2005 - from 4.31% in 2004 to 4.33% in 2005.
From
2002
to 2004, the Company gradually positioned itself to be protected in a rising
interest rate environment by originating more variable rate loans than fixed
rate loans - a rising interest rate environment was forecasted by most
economists after the steeply declining interest rate environment that began
in
2001 and concluded with interest rates being at their lowest levels in 40 years
during 2004. This initiative resulted in the Company’s loan mix changing from
57% fixed rate and 43% variable rate at December 31, 2001 to 60% variable rate
and 40% fixed rate at December 31, 2004. In 2005, most economists began to
forecast that the steadily increasing interest rate environment in effect since
mid-2004 would end in 2006. As a result, in 2005 and 2006 the Company began
originating a more even mix of fixed rate loans and variable rate loans, which
resulted in the Company’s fixed/variable mix shifting to 51% variable rate and
49% fixed rate at December 31, 2006.
See
additional information regarding net interest income in the section entitled
“Interest Rate Risk.”
Provision
for Loan Losses
The
provision for loan losses charged to operations is an amount sufficient to
bring
the allowance for loan losses to an estimated balance considered appropriate
to
absorb probable losses inherent in the portfolio. Management’s determination of
the adequacy of the allowance is based on the level of loan growth, an
evaluation of the portfolio, current economic conditions, historical loan loss
experience and other risk factors.
The
provision for loan losses recorded by the Company amounted to $4,923,000 in
2006, compared to $3,040,000 in 2005 and $2,905,000 in 2004. The increase in
the
provision for loan losses in 2006 from 2005 was primarily
the result of higher loan growth realized in 2006 compared to 2005, and to
a
lesser extent an increase in the level of the Company’s nonperforming assets.
The Company’s net internal loan growth was $252 million in 2006, $116 million in
2005, and $148 million in 2004. There
was
no acquired loan growth in 2004 or 2005. In 2006, there was acquired growth
of
$6 million, for which a preexisting allocation for loan losses was already
in
place.
See
the
section entitled “Allowance for Loan Losses and Loan Loss Experience” below for
a more detailed discussion of the allowance for loan losses. The allowance
is
monitored and analyzed regularly in conjunction with the Company’s loan analysis
and grading program, and adjustments are made to maintain an adequate allowance
for loan losses.
Noninterest
Income
Noninterest
income recorded by the Company amounted to $14,310,000 in 2006, $15,004,000
in
2005, and $15,864,000 in 2004.
As
shown
in Table 4, core noninterest income, which excludes gains and losses from sales
of securities, loans, and other assets, amounted to $16,204,000 in 2006, a
6.2%
increase from $15,262,000 in 2005. The 2005 core noninterest income of
$15,262,000 was 0.3% higher than the $15,216,000 recorded in 2004.
See
Table
4 and the following discussion for an understanding of the components of
noninterest income.
Service
charges on deposit accounts in 2006 amounted to $8,968,000, a 5.0% increase
compared to $8,537,000 recorded in 2005. The $8,537,000 recorded in 2005 was
5.8% less than the 2004 amount of $9,064,000. The decrease from 2004 to 2005
was
primarily the result of lower checking account service charge fees that the
Company earned from its commercial customers due to the increase in short term
interest rates. In the Company’s commercial account service charge rate
structure, commercial depositors are given “earnings credits” (negatively
impacting service charges) on their average deposit balances that are tied
to
short term interest rates. Beginning in February 2006, the Company changed
the
index for these credits to one based on a money market rate that
was
lower
than the previous rate and less susceptible to volatile changes, while still
being competitive in the marketplace. This change in the index negated the
impact of rising interest rates in 2006, effectively stabilizing this category
of income for the Company. The 5.0% increase in service charges on deposit
accounts in 2006 is primarily associated with the Company’s overall
growth.
Other
service charges, commissions and fees amounted to $4,578,000 in 2006, a 15.5%
increase from the $3,963,000 earned in 2005. The 2005 amount of $3,963,000
was
17.9% higher than the $3,361,000 recorded in 2004. This category of noninterest
income includes items such as credit card interchange income related to
merchants and customers, debit card interchange income, ATM charges, safety
deposit box rentals, fees from sales of personalized checks, and check cashing
fees. This category of income grew in 2005 and 2006 primarily because of
increases in these activity-related fee services as a result of the increased
acceptance and popularity of debit cards, special credit and debit card
promotions that increased their use, and the overall growth in the Company’s
total customer base, including growth achieved from corporate acquisitions.
The
gross fees that the Company earned from debit card interchange income amounted
to $1,023,000 in 2006, a $326,000, or 47%, increase from the $697,000 earned
in
2005. The 2005 amount was $81,000 higher than the $616,000 earned in
2004.
Fees
from
presold mortgages amounted to $1,062,000 in 2006, $1,176,000 in 2005, and
$969,000 in 2004. Fees from presold mortgages peaked in 2003 ($2,327,000
recorded in 2003) as a result of a high level of mortgage loan refinancings
brought on by low mortgage interest rates. Since that time, the absence of
the
initial wave of refinancing activity and higher adjustable rate mortgage rates
have resulted in the Company’s fees from presold mortgages decreasing from the
2003 level and averaging approximately $200,000-$300,000 per quarter over each
of the past three years.
Commissions
from sales of insurance and financial products have remained steady over the
past three years - amounting to $1,434,000 in 2006, $1,307,000 in 2005, and
$1,406,000 in 2004. This line item includes commissions the Company receives
from three sources - 1) sales of credit life insurance associated with new
loans, 2) commissions from the sales of investment, annuity, and long-term
care
insurance products, and 3) commissions from the sale of property and casualty
insurance. The following table presents the contribution of each of the three
sources to the total amount recognized in this line item:
|
($
in thousands)
|
2006
|
2005
|
2004
|
|||||||
|
Commissions
earned from:
|
||||||||||
|
Sales
of credit life insurance
|
$
|
337
|
308
|
291
|
||||||
|
Sales
of investments, annuities, and long term care insurance
|
266
|
193
|
291
|
|||||||
|
Sales
of property and casualty insurance
|
831
|
806
|
824
|
|||||||
|
Total
|
$
|
1,434
|
1,307
|
1,406
|
||||||
Data
processing fees amounted to $162,000 in 2006, $279,000 in 2005, and $416,000
in
2004. As noted earlier, Montgomery Data makes its excess data processing
capabilities available to area financial institutions for a fee. The decrease
in
data processing fees in 2005 is a result of two of the five customers
terminating their services with Montgomery Data and switching to another
provider. During 2006, one other customer terminated its service, which left
Montgomery Data with two outside customers as of December 31, 2006. Montgomery
Data intends to continue to market this service to area banks, but does not
currently have any near-term prospects for additional business.
Noninterest
income not considered to be “core” amounted to a net loss of $1,894,000 in 2006,
a net loss of $258,000 in 2005, and a net gain of $648,000 in 2004. In Table
4,
the line item entitled “other gains (losses), net” totaling $2,099,000 in 2006
includes a loss of $1,900,000 related to the write-off
loss of a merchant credit card
receivable.
During the second quarter of 2006, the Company discovered that it had liability
associated with a customer that sold furniture over the internet. The furniture
store did not deliver furniture that its customers had ordered and paid for,
and
was unable to immediately refund their credit card purchases. As the furniture
store’s credit card processor, the Company became contractually liable for the
amounts that were required to be refunded. During the second quarter of 2006,
the
furniture store changed management, stated its intention to repay the Company
for all funds advanced, and began making repayments to the Company. At June
30,
2006, the Company recorded a $230,000 loss to reserve for this situation. During
the third quarter of 2006, the furniture store’s financial condition
deteriorated significantly. Accordingly, the Company determined that it should
fully reserve for the entire $1.9 million exposure associated with this
situation, which resulted in recording an additional loss of $1,670,000. The
owners of the furniture store continue to state their intent to repay the
Company, but at this time their ability to do so is uncertain. During the third
quarter of 2006, the Company completed a review of all merchant credit card
customers and concluded that this situation appears to be an isolated event
that
is not likely to recur.
Also
included in “other gains (losses), net” is normal write-downs of tax credit
partnership investments amounting to $295,000, $189,000 and $70,000 in 2006,
2005, and 2004, respectively. The
Company projects $323,000 of tax credit investment write-downs in 2007. Tax
credit write-downs have increased as a result of additional investments made
in
tax credit partnerships. The Company’s total investment in tax credit
partnerships amounted to $1.6 million, $1.1 million and $0.8 million at December
31, 2006, 2005, and 2004, respectively. To date, all tax credit write-downs
have
been exceeded, and are projected to continue to be exceeded, by the amount
of
tax credits realized and recorded as a reduction of income tax
expense.
Miscellaneous
gains (losses) related primarily to property sales are also included in the
“Other gains (losses), net” line item and totaled $96,000, ($83,000), and
$417,000 in 2006, 2005, and 2004, respectively.
The
Company realized net securities gains of $205,000, $5,000, and $299,000 in
2006,
2005 and 2004, respectively. These sales were initiated primarily to realize
current income.
Noninterest
Expenses
Noninterest
expenses for 2006 were $53,198,000, compared to $47,636,000 in 2005 and
$43,717,000 in 2004. Table 5 presents the components of the Company’s
noninterest expense during the past three years.
Based
on
the amounts noted above, noninterest expenses increased 11.7% in 2006 and 9.0%
in 2005. The increases in noninterest expenses over the past three years have
occurred in nearly every line item of expense and have been primarily a result
of the significant growth experienced by the Company. Over the past three years,
the number of the Company’s branches has increased from 57 to 68, and the number
of full time equivalent employees has increased from 550 at December 31, 2003
to
620 at December 31, 2006. Additionally, from December 31, 2003 to December
31,
2006, the amount of loans outstanding increased 42.8% and deposits increased
35.7%. The Company’s noninterest expenses were also impacted by external costs
associated with complying with Section 404 of the Sarbanes-Oxley Act. The
Company’s incremental external costs associated with complying with Section 404
amounted to approximately $305,000, $832,000 and $193,000 for the years ended
December 31, 2006, 2005, and 2004 respectively. The incremental costs relate
to
higher external audit fees and outside consultant fees. These amounts do not
include the value of the significant internal resources devoted to compliance.
From
2004-2006, the Company was not required to pay any FDIC deposit insurance
premiums. As discussed above in “Supervision and Regulation of the Bank”,
in 2006 the FDIC modified its rules relating to the assessment of
deposit insurance premiums, and these changes are expected to significantly
increase the Company’s FDIC deposit insurance expense beginning in
2008.
Income
Taxes
The
provision for income taxes was $11,423,000 in 2006, $16,829,000 in 2005, and
$10,418,000 in 2004.
Table
6
presents the components of tax expense and the related effective tax rates.
The
effective tax rate for 2006 was 37.2% compared to 51.1% in 2005 and 34.1% in
2004. The high effective tax rate of 51.1% in 2005 is primarily a result of
the
contingency loss accrual discussed in the following paragraph. During periods
in
2005 that did not include contingency loss accrual matters, the Company’s
effective tax rate was approximately 38%-39% compared to approximately 34%-35%
in 2004. The higher effective tax rate in 2006 and 2005 (excluding the
contingency accrual) compared to 2004 is the result of the Company
discontinuing, effective January 1, 2005, the operating structure involving
a
real estate investment trust (REIT) that gave rise to the contingency tax
accrual. The Company recorded nonrecurring adjustments in the third quarter
of
2006 and the fourth quarter of 2004 amounting to $182,000 and $89,000,
respectively, that reduced otherwise reported income tax expense. The Company
expects its effective tax rate to be in the 37%-38% range for the foreseeable
future.
In
1999,
in consultation with the Company’s tax advisors, the Company established an
operating structure involving a real estate investment trust (REIT) that
resulted in a reduction in the Company’s state tax liability to the state of
North Carolina. In late 2004, the North Carolina Department of Revenue indicated
that it would challenge taxpayers engaged in activities deemed to be
“income-shifting,” and they indicated that they believed certain REIT operating
structures were a type of “income-shifting.” During 2005, the North Carolina
Department of Revenue began an audit of the Company’s tax returns for 2001-2004,
which represented all years eligible for audit. In the third quarter of 2005,
based on consultations with the Company’s external auditor and legal counsel,
the Company determined that it should record a $6.3 million loss accrual to
reserve for this issue, which was comprised of $8.6 million in estimated
liability related to taxes due, interest and penalty, less $2.3 million in
related federal tax benefit. In February 2006, the North Carolina Department
of
Revenue announced a “Settlement Initiative” that offered companies with certain
transactions, including those with a REIT operating structure, the opportunity
to resolve such matters with reduced penalties by agreeing to participate in
the
initiative by June 15, 2006. Although the Company believes that its tax returns
complied with the relevant statutes, the board of directors of the Company
decided that it was in the best interest of the Company to settle this matter
by
participating in the initiative. Based on the terms of the initiative, the
Company estimated that its total liability to settle the matter would be
approximately $6.4 million, or $4.3 million net of the federal tax benefit,
which was $2.0 million less than the amount that was originally accrued.
Accordingly, in March 2006, the Company retroactively recorded an adjustment
to
its fourth quarter of 2005 earnings to reverse $2.0 million of tax expense.
The
aspects of the REIT structure that gave rise to this issue were discontinued
effective January 1, 2005, and thus the Company does not believe it has any
additional exposure related to this item beyond the amount of the accrual other
than ongoing interest on the unpaid taxes amounting to $100,000 per quarter
($65,000 after-tax). Under the terms of the initiative, March 15, 2007 is the
deadline for payment of the amount due to the North Carolina Department of
Revenue, and the Company expects to pay the state the amount due ($6.9 million,
which includes $0.5 million in interest that has accrued since December 31,
2005) by that date.
Stock-Based
Compensation
For
all
years prior to 2006, the Company was not required to record any expense for
the
value of stock options granted to employees or directors. As discussed in more
detail in Note 1(t) to the consolidated financial statements, a new accounting
standard (“Statement 123(R)”, as defined below) required the Company to record
the value of stock options as an expense in the income statement beginning
January 1, 2006. Based on the requirement of Statement 123(R), the Company
recorded compensation expense of $325,000, or $246,000 net of taxes, in 2006
related to stock option grants. Note 14 to the consolidated financial statements
contains pro forma net income and earnings per share information as if the
Company applied the fair value recognition provisions required by the new
standard in 2004 and 2005. Note 14 indicates that the Company’s stock-based
employee compensation expense would have been $335,000 and $1,291,000, for
the
two years ended December 31, 2005, and 2004, respectively.
The
significantly higher expense in 2004 compared to 2005 is primarily due to the
Company granting 128,000 employee options in April 2004 with immediate vesting
(under the new standard, expense related to the fair market value of options
is
recognized when the options vest). Prior to that grant, all previous employee
option grants had five year vesting periods (20% vesting each year), and thus
the amount of expense related to options was generally spread over the five
year
vesting period. The Compensation Committee of the board of directors of the
Company granted the April 2004 options without any vesting requirements for
two
reasons - 1) the options were granted primarily as a reward for past performance
and therefore had already been “earned” in the view of the Committee, and 2) to
potentially minimize the impact that any change in accounting standards for
stock options could have on future years’ reported net income.
In
2007,
2008, and 2009 the Company’s stock-based compensation expense related to options
currently outstanding will be approximately $47,000, $3,000, and $3,000
respectively. There is no tax benefit related to any of those expenses. New
stock options that are granted and vest after January 1, 2007 will increase
the
amount of stock-based compensation expense recorded by the Company. Except
for
grants to directors (see below), the Company cannot estimate the amount of
future stock option grants at this time. In the past, stock option grants to
employees have been irregular, generally falling into three categories - 1)
to
attract and retain new employees, 2) to recognize changes in responsibilities
of
existing employees, and 3) to periodically reward exemplary performance. The
Company expects to continue to grant 2,250 stock options to each of the
Company’s non-employee directors in June of each year until the 2014 expiration
of the current stock option plan. In 2006, the amount of expense associated
with
the June director grants was $199,000, or $121,000 net of taxes.
ANALYSIS
OF FINANCIAL CONDITION AND CHANGES IN FINANCIAL CONDITION
Overview
Over
the
past two years, the Company has achieved steady increases in its levels of
loans
and deposits, which has resulted in an increase in assets from $1.6 billion
at
December 31, 2004 to $2.1 billion at December 31, 2006. This growth has been
both internally generated and acquired. During the third quarter of 2006, the
Company completed the acquisition of two branches, while the Company did not
complete any acquisitions in 2005. The following table presents detailed
information regarding the nature of the Company’s growth in 2005 and
2006:
|
(in
thousands)
|
Balance
at
beginning
of
period
|
Internal
growth
|
Growth
from
Acquisitions
|
Change
in
brokered
deposits
|
Balance
at
end
of
period
|
Total
percentage
growth
|
Internal
growth
(1)
|
||||||||||||||||
|
2006
|
|||||||||||||||||||||||
|
Loans
|
$
|
1,482,611
|
252,036
|
5,749
|
–
|
1,740,396
|
17.4
|
%
|
17.0
|
%
|
|||||||||||||
|
Deposits
- Noninterest bearing
|
194,051
|
18,266
|
4,974
|
–
|
217,291
|
12.0
|
%
|
9.4
|
%
|
||||||||||||||
|
Deposits
- Savings, NOW, and Money Market
|
458,221
|
32,663
|
11,891
|
–
|
502,775
|
9.7
|
%
|
7.1
|
%
|
||||||||||||||
|
Deposits
- Time>$100,000
|
356,281
|
61,692
|
4,799
|
–
|
422,772
|
18.7
|
%
|
17.3
|
%
|
||||||||||||||
|
Deposits
- Time<$100,000
|
486,024
|
44,504
|
22,313
|
–
|
552,841
|
13.7
|
%
|
9.2
|
%
|
||||||||||||||
|
Total
deposits
|
$
|
1,494,577
|
157,125
|
43,977
|
–
|
1,695,679
|
13.5
|
%
|
10.5
|
%
|
|||||||||||||
|
2005
|
|||||||||||||||||||||||
|
Loans
|
$
|
1,367,053
|
115,558
|
–
|
–
|
1,482,611
|
8.5
|
%
|
8.5
|
%
|
|||||||||||||
|
Deposits
- Noninterest bearing
|
165,778
|
28,273
|
–
|
–
|
194,051
|
17.1
|
%
|
17.1
|
%
|
||||||||||||||
|
Deposits
- Savings, NOW, and Money Market
|
472,811
|
(14,590
|
)
|
–
|
–
|
458,221
|
(3.1
|
%)
|
(3.1
|
%)
|
|||||||||||||
|
Deposits
- Time>$100,000
|
334,756
|
71,398
|
–
|
(49,873
|
)
|
356,281
|
6.4
|
%
|
21.3
|
%
|
|||||||||||||
|
Deposits
- Time<$100,000
|
415,423
|
70,601
|
–
|
–
|
486,024
|
17.0
|
%
|
17.0
|
%
|
||||||||||||||
|
Total
deposits
|
$
|
1,388,768
|
155,682
|
–
|
(49,873
|
)
|
1,494,577
|
7.6
|
%
|
11.2
|
%
|
||||||||||||
|
(1)
Excludes the impact of acquisitions and brokered
deposits.
|
|||||||||||||||||||||||
As
shown
in the table above, the Company experienced internal loan growth of 17.0% and
8.5%, in 2006 and 2005, respectively. The especially strong growth experienced
in 2006 was partially due to the Company’s recent expansion into Mooresville,
North Carolina, a high growth market near Charlotte, and the Company’s expansion
into the coastal North Carolina counties of New Hanover County and Brunswick
County. Loan growth in these markets amounted to $75 million in
2006.
Total
deposits increased 7.6% in 2005 and 13.5% in 2006. Excluding changes in brokered
deposits and acquisitions, the Company’s deposit growth rate was 10%-11% in both
2005 and 2006. The Company had no brokered deposits outstanding at December
31,
2005 or 2006. In both 2005 and 2006, the Company achieved its highest growth
in
time deposits, particularly time deposits in denominations greater than
$100,000. Time deposits, especially time deposits greater than $100,000, are
generally the easiest type of deposit to achieve growth in through the use
of
promotional interest rates. The Company offered promotional interest rates
in
2005 and 2006 in order to help fund the strong loan growth experienced both
years.
Over
the
past few years, including 2005 and 2006, the Company’s loan growth has exceeded
its deposit growth and to a greater extent exceeded its retail deposit growth
(which excludes time deposits greater than $100,000). The Company believes
the
higher internal growth rates for loans compared to retail deposits over the
past
two years is largely attributable to the type of customers the Company has
been
able to attract. Most of the Company’s loan
growth
has come from small-business customers that need loans in order to expand their
business, and have few deposits. Additionally, the Company has found it
difficult to compete for retail deposits in recent years. The Company frequently
competes against banks in the marketplace that either 1) are so large that
they
enjoy better economies of scale over the Company and can thus offer higher
rates, or 2) are recently started banks that are focused on building market
share, and not necessarily on positive earnings, by offering high deposit rates.
The Company believes it enjoys advantages in the loan marketplace by having
seasoned lenders in place that have the experience necessary to oversee the
completion of a loan and the autonomy to be able to make timely
decisions.
The
Company’s liquidity did not change significantly during 2005 or 2006. Higher
loan growth as compared to deposit growth in recent years has resulted in the
Company’s loan to deposit ratio increasing from 98% in 2004 to 99% in 2005 to
103% in 2006. The negative impact on the Company’s liquidity due to the
imbalance in loan and deposit growth has been offset by a higher level of
securities sold under agreements to repurchase and borrowings. The level of
the
Company’s liquid assets (consisting of cash, due from banks, federal funds sold,
presold mortgages in process of settlement and securities) as a percentage
of
deposits, securities sold under agreements to repurchase and borrowings has
grown slightly over the past two years, with this ratio increasing from 13.1%
in
2004 to 14.2% in 2005 to 15.1% in 2006.
In
2006,
the Company’s balance sheet growth exceeded internal capital growth resulting
from earnings. In order to maintain its regulatory capital ratios at internal
targets in 2006, the Company issued an additional $25.8 million in trust
preferred debt securities, which are includable as regulatory capital. All
of
the Company’s capital ratios have significantly exceeded the minimum regulatory
thresholds for all periods covered by this report.
Although
the Company’s primary market area, the central Piedmont region of North
Carolina, has experienced economic difficulties in the past few years as a
result of manufacturing job losses, the Company’s asset quality ratios have
remained fairly stable over the past three years with net charge-offs to average
loans ranging from 11 basis points to 14 basis points and nonperforming assets
to total assets ranging from 17 basis points to 39 basis points.
Distribution
of Assets and Liabilities
Table
7
sets forth the percentage relationships of significant components of the
Company’s balance sheet at December 31, 2006, 2005, and 2004.
The
relative size of the components of the balance sheet has not varied
significantly over the past two years, with loans comprising 80%-82% of total
assets and deposits comprising 79%-85%. The most significant variance in Table
7
is the 2006 increase in the percentage of borrowings, which increased from
5% at
December 31, 2004 and 2005, to 10% at December 31, 2006. The Company has
increasingly relied on borrowings in order to help fund the strong loan growth
that has exceeded deposit growth.
Also
shown in Table 7 is a decrease in the relative percentage of the Company’s
balance sheet comprised of Savings, NOW and Money Market accounts. The decrease
in the percentage from 29% in 2004 to 23% during 2006 is due partially to the
high growth experienced in the other categories of deposits, and was also
impacted by the introduction of a new product in 2005 - Securities Sold Under
Agreements to Repurchase (“repurchase agreements”) - that resulted in a shift of
customers’ money from savings and money market accounts to repurchase
agreements, which are not classified as deposits. Repurchase agreements are
similar to interest-bearing deposits and allow the Company to pay interest
to
business customers without statutory limitations on the number of withdrawals
that these customers can make. Upon the introduction of this product in the
second half of 2005, the growth in repurchase agreements to the December 31,
2005 year end balance of $33.5 million was comprised almost entirely of customer
funds that had previously been held by the Company as savings or money market
deposits. Repurchase agreements increased to $43.3 million as of December 31,
2006.
Securities
Information
regarding the Company’s securities portfolio as of December 31, 2006, 2005, and
2004 is presented in Tables 8 and 9.
The
composition of the investment securities portfolio reflects the Company’s
investment strategy of maintaining an appropriate level of liquidity while
providing a relatively stable source of income. The investment portfolio also
provides a balance to interest rate risk and credit risk in other categories
of
the balance sheet while providing a vehicle for the investment of available
funds, furnishing liquidity, and supplying securities to pledge as required
collateral for certain deposits.
Total
securities amounted to $143.1 million, $125.1 million, and $102.6 million at
December 31, 2006, 2005, and 2004, respectively. The increase in securities
over
the past two years was primarily due to securities purchases that have been
necessary to collateralize higher levels of repurchase agreements and pledged
deposits, as well as to help maintain the Company’s liquidity at targeted
levels. Over the past two years, the Company has elected to primarily purchase
securities issued by the Federal Home Loan Bank, a government-sponsored
enterprise, which, due to their non-amortizing nature, are easier to pledge
than
mortgage-backed securities and can be more easily purchased in shorter maturity
terms than mortgage-backed securities. In recent years the Company has preferred
to invest in short-term investments as a result of the generally rising rate
environment.
The
majority of the Company’s “government-sponsored enterprise” securities are
issued by the Federal Home Loan Bank and carry one maturity date, often with an
issuer call feature. The Company’s mortgage-backed securities have been
primarily issued by Freddie Mac and Fannie Mae, which are government-sponsored
corporations, and vary in their repayment in correlation with the underlying
pools of home mortgage loans. The Company’s investment in corporate bonds is
primarily comprised of trust preferred securities issued by other North Carolina
bank holding companies.
Included
in mortgage-backed securities at December 31, 2006 were collateralized mortgage
obligations (“CMOs”) with an amortized cost of $11,898,000 and a fair value of
$11,517,000. Included in mortgage-backed securities at December 31, 2005 were
CMOs with an amortized cost of $15,810,000 and a fair value of $15,399,000.
Included in mortgage-backed securities at December 31, 2004 were CMOs with
an
amortized cost of $15,928,000 and a fair value of $15,831,000. The CMOs that
the
Company has invested in are substantially all “early tranche” portions of the
CMOs, which minimizes long-term interest rate risk to the Company.
At
December 31, 2006, a net unrealized loss of $860,000 was included in the
carrying value of securities classified as available for sale, compared to
a net
unrealized loss of $1,049,000 at December 31, 2005 and a net unrealized gain
of
$1,186,000 at December 31, 2004. The declining fair market value of securities
available over the past three years was caused by a steadily rising interest
rate environment. Higher interest rates negatively impact the value of fixed
income securities. Management evaluated any unrealized losses on individual
securities at each year end and determined them to be of a temporary nature
and
caused by fluctuations in market interest rates, not by concerns about the
ability of the issuers to meet their obligations. Net unrealized gains (losses),
net of applicable deferred income taxes, of ($524,000), ($639,000), and $723,000
have been reported as part of a separate component of shareholders’ equity
(accumulated other comprehensive income (loss)) as of December 31, 2006, 2005,
and 2004, respectively.
The
fair
value of securities held to maturity, which the Company carries at amortized
cost, was more than the carrying value at December 31, 2006 and 2005 by $46,000
and $149,000, respectively. Management evaluated any unrealized losses on
individual securities at each year end and determined them to be of a temporary
nature and caused by fluctuations in market interest rates, not by concerns
about the ability of the issuers to meet their obligations.
Table
9
provides detail as to scheduled contractual maturities and book yields on
securities available for sale and securities held to maturity at December 31,
2006. Mortgage-backed and other amortizing securities are shown maturing in
the
time periods consistent with their estimated lives based on expected prepayment
speeds.
The
weighted average taxable-equivalent yield for the securities available for
sale
portfolio was 4.94% at December 31, 2006. The expected weighted average life
of
the available for sale portfolio using the call date for above-market callable
bonds, the maturity date for all other non-mortgage-backed securities, and
the
expected life for mortgage-backed securities, was 4.0 years.
The
weighted average taxable-equivalent yield for the securities held to maturity
portfolio was 6.71% at December 31, 2006. The expected weighted average life
of
the held to maturity portfolio using the call date for above-market callable
bonds and the maturity date for all other securities, was 4.7
years.
As
of
December 31, 2006 and 2005, the Company held no investment securities of any
one
issuer, other than government-sponsored enterprises or corporations, in which
aggregate book values and market values exceeded 10% of shareholders’ equity.
Loans
Table
10
provides a summary of the loan portfolio composition at each of the past five
year ends.
The
loan
portfolio is the largest category of the Company’s earning assets and is
comprised of commercial loans, real estate mortgage loans, real estate
construction loans, and consumer loans. The Company restricts virtually all
of
its lending to its 26 county market area, which is located in central and
southeastern North Carolina, three counties in southern Virginia and Dillon
County, South Carolina. The diversity of the region’s economic base has
historically provided a stable lending environment.
In
2006,
loans outstanding increased $257.8 million, or 17.4%, to $1.74 billion. In
2005,
loans outstanding increased $115.6 million, or 8.5%, to $1.48 billion. The
majority of the loan growth in 2006 was internally generated, as the Company
only acquired a total of $6 million in loans from the acquisitions of two bank
branches completed in 2006. All of the loan growth in 2005 was internally
generated, as the Company did not complete any acquisitions during that year.
The majority of the 2006 and 2005 loan growth occurred in loans secured by
real
estate, with approximately $224.8 million, or 87.2%, in 2006, and $94.4 million,
or 81.7%, in 2005, of the net loan growth occurring in real estate mortgage
or
real estate construction loans.
Over
the
years, the Company’s loan mix has remained fairly consistent, with real estate
loans (mortgage and construction) comprising approximately 86% of the loan
portfolio, commercial, financial, and agricultural loans not secured by real
estate comprising 9-10%, and consumer installment loans comprising 4-5% of
the
portfolio. The majority of the Company’s “real estate” loans are primarily
various personal and commercial loans where real estate provides additional
security for the loan.
At
December 31, 2006, $1.500 billion, or 86.2%, of the Company’s loan portfolio was
secured by liens on real property. Included in this total are $718.1 million,
or
41.3% of total loans, in loans secured by liens on 1-4 family residential
properties and $781.9 million, or 44.9% of total loans, in loans secured by
liens on other types of real estate. At December 31, 2005, $1.275 billion,
or
86.0%, of the Company’s loan portfolio was secured by liens on real property.
Included in this total are $668.4 million, or 45.1% of total loans, in loans
secured by liens on 1-4 family residential properties and $606.8 million, or
40.9% of total loans, in loans secured by liens on other types of real estate.
The Company’s $1.500 billion in real estate mortgage loans at December 31, 2006
can be further classified as follows - for comparison purposes, the
classification of the Company’s $1.275 billion real estate loan portfolio at
December 31, 2005 is shown in parenthesis:
|
·
|
$512.8
million, or 29.5% of total loans (vs. $498.4 million, or 33.6%
of total
loans), are secured by first liens on residential homes, in which
the
borrower’s personal income is generally the primary repayment
source.
|
|
·
|
$472.6
million, or 27.2% of total loans (vs. $406.3 million, or 27.4%
of total
loans), are primarily dependent on cash flow from a commercial
business
for repayment.
|
|
·
|
$205.3
million, or 11.8% of total loans (vs. $170.0 million, or 11.5%
of total
loans), are home equity loans (lines-of-credit and term loans)
obtained by
consumers for various purposes.
|
|
·
|
$155.4
million, or 8.9% of total loans (vs. $125.2 million, or 8.4% of
total
loans), are real estate construction
loans.
|
|
·
|
$118.6
million, or 6.8% of total loans (vs. $43.4 million, or 2.9% of
total
loans), are tracts of unimproved
land.
|
|
·
|
$35.3
million, or 2.0% of total loans (vs. $31.9 million, or 2.2% of
total
loans), are primarily dependent on cash flow from agricultural
crop
sales.
|
The
above
information is derived from the Bank’s quarterly regulatory report. The Company
estimates that approximately half of the $75.2 million increase noted above
in
loans on “unimproved land” relates to a different interpretation taken by the
Company in 2006 regarding the classification of loans secured by unimproved
residential real estate. Prior to 2006, the Company classified these types
of
loans as being secured by 1-4 family mortgage loans, while in 2006, the Company
began classifying these types of loans as “unimproved land.”
Table
11
provides a summary of scheduled loan maturities over certain time periods,
with
fixed rate loans and adjustable rate loans shown separately. Approximately
25%
of the Company’s loans outstanding at December 31, 2006 mature within one year
and 78% of total loans mature within five years. The percentages of variable
rate loans and fixed rate loans as compared to total performing loans were
50.6%
and 49.4%, respectively, as of December 31, 2006. The Company intentionally
makes a blend of fixed and variable rate loans so as to reduce interest rate
risk. See discussion regarding fluctuations in the Company’s ratio of fixed rate
loans to variable rate loans in the section above entitled “Net Interest
Income.”
Nonperforming
Assets
Nonperforming
assets include nonaccrual loans, loans past due 90 or more days and still
accruing interest, restructured loans and other real estate. As a matter of
policy the Company places all loans that are past due 90 or more days on
nonaccrual basis, and thus there were no loans at any of the past five year
ends
that were 90 days past due and still accruing interest. Table 12 summarizes
the
Company’s nonperforming assets at the dates indicated.
Nonaccrual
loans are loans on which interest income is no longer being recognized or
accrued because management has determined that the collection of interest is
doubtful. Placing loans on nonaccrual status negatively impacts earnings because
(i) interest accrued but unpaid as of the date a loan is placed on nonaccrual
status is reversed and deducted from interest income, (ii) future accruals
of
interest income are not recognized until
it
becomes probable that both principal and interest will be paid and (iii)
principal charged-off, if appropriate, may necessitate additional provisions
for
loan losses that are charged against earnings. In some cases, where borrowers
are experiencing financial difficulties, loans may be restructured to provide
terms significantly different from the originally contracted terms.
Nonperforming
loans (which includes nonaccrual loans and restructured loans) as of December
31, 2006, 2005, and 2004 totaled $6,862,000, $1,653,000, and $3,724,000,
respectively. Nonperforming loans as a percentage of total loans amounted to
0.39%, 0.11%, and 0.27%, at December 31, 2006, 2005, and 2004, respectively.
The
variances in the dollar amount of nonperforming loans among the periods have
been primarily due to changes in nonaccrual loans, as restructured loans have
not changed significantly. In the fourth quarter of 2005, the collection process
for several of the Company's largest nonaccrual loan relationships reached
a
conclusion and their principal balances were reduced to zero either as a result
of cash received or the loan being charged-off. This resulted in the amount
of
the Company's nonperforming loans at December 31, 2005 reaching its lowest
level
in over five years. In 2006, the Company experienced more typical activity
within its nonaccrual loan category, and the amount of nonaccrual loans
increased to more normal levels as a percentage of the total loan portfolio.
The
Company’s largest nonaccrual relationships at December 31, 2006 and 2005
amounted to $585,000 and $337,000, respectively.
If
the
nonaccrual loans and restructured loans as of December 31, 2006, 2005 and 2004
had been current in accordance with their original terms and had been
outstanding throughout the period (or since origination if held for part of
the
period), gross interest income in the amounts of approximately $510,000,
$123,000 and $247,000 for nonaccrual loans and $1,000, $2,000 and $2,000 for
restructured loans would have been recorded for 2006, 2005 and 2004,
respectively. Interest income on such loans that was actually collected and
included in net income in 2006, 2005 and 2004 amounted to approximately
$179,000, $67,000 and $120,000 for nonaccrual loans (prior to their being placed
on nonaccrual status) and $1,000, $2,000 and $2,000 for restructured loans,
respectively. At December 31, 2006 and 2005, the Company had no commitments
to
lend additional funds to debtors whose loans were nonperforming.
Management
routinely monitors the status of certain large loans that, in management’s
opinion, have credit weaknesses that could cause them to become nonperforming
loans. In addition to the nonperforming loan amounts discussed above, management
believes that an estimated $5.5-$6.0 million of loans that were performing
in
accordance with their contractual terms at December 31, 2006 have the potential
to develop problems depending upon the particular financial situations of the
borrowers and economic conditions in general. Management has taken these
potential problem loans into consideration when evaluating the adequacy of
the
allowance for loan losses at December 31, 2006 (see discussion
below).
Loans
classified for regulatory purposes as loss, doubtful, substandard, or special
mention that have not been disclosed in the problem loan amounts and the
potential problem loan amounts discussed above do not represent or result from
trends or uncertainties that management reasonably expects will materially
impact future operating results, liquidity, or capital resources, or represent
material credits about which management is aware of any information that causes
management to have serious doubts as to the ability of such borrowers to comply
with the loan repayment terms.
Other
real estate includes foreclosed, repossessed, and idled properties. Other real
estate has not varied materially at any of the past three year ends, amounting
to $1,539,000 at December 31, 2006, $1,421,000 at December 31, 2005, and
$1,470,000 at December 31, 2004. Other real estate represented approximately
0.07%-0.09% of total assets at each of the past three year ends.
The
Company’s management believes that the fair values of the items of other real
estate, less estimated costs to sell, equal or exceed their respective carrying
values at the dates presented.
Allowance
for Loan Losses and Loan Loss Experience
The
allowance for loan losses is created by direct charges to operations (known
as a
“provision for loan losses” for the period in which the charge is taken). Losses
on loans are charged against the allowance in the period in which such loans,
in
management’s opinion, become uncollectible. The recoveries realized during the
period are credited to this allowance. The Company considers its procedures
for
recording the amount of the allowance for loan losses and the related provision
for loan losses to be a critical accounting policy. See the heading “Critical
Accounting Policies” above for further discussion.
The
factors that influence management’s judgment in determining the amount charged
to operating expense include past loan loss experience, composition of the
loan
portfolio, evaluation of probable inherent losses and current economic
conditions.
The
Company uses a loan analysis and grading program to facilitate its evaluation
of
probable inherent loan losses and the adequacy of its allowance for loan losses.
In this program, risk grades are assigned by management and tested by an
independent third party consulting firm. The testing program includes an
evaluation of a sample of new loans, loans that management identifies as having
potential credit weaknesses, loans past due 90 days or more, loans originated
by
new loan officers, nonaccrual loans and any other loans identified during
previous regulatory and other examinations.
The
Company strives to maintain its loan portfolio in accordance with what
management believes are conservative loan underwriting policies that result
in
loans specifically tailored to the needs of the Company’s market areas. Every
effort is made to identify and minimize the credit risks associated with such
lending strategies. The Company has no foreign loans, few agricultural loans
and
does not engage in significant lease financing or highly leveraged transactions.
Commercial loans are diversified among a variety of industries. The majority
of
loans captioned in the tables discussed below as “real estate” loans are
primarily various personal and commercial loans where real estate provides
additional security for the loan. Collateral for virtually all of these loans
is
located within the Company’s principal market area.
The
allowance for loan losses amounted to $18,947,000 at December 31, 2006 compared
to $15,716,000 at December 31, 2005 and $14,717,000 at December 31, 2004. This
represented 1.09%, 1.06%, and 1.08%, of loans outstanding as of December 31,
2006, 2005, and 2004, respectively. As
noted
in Table 12, the Company’s allowance for loan losses as a percentage of
nonperforming loans (“coverage ratio”) amounted to 276% at December 31, 2006
compared to 951% at December 31, 2005 and 395% at December 31, 2004. Due to
the
secured nature of virtually all of the Company’s loans that are on nonaccrual
status, the variance in the coverage ratio is not necessarily indicative of
the
relative adequacy of the allowance for loan losses. As noted above in
“Nonperforming Assets”, the level of nonaccrual loans at December 31, 2005 was
at an unusually low level, thus resulting in the higher coverage ratio for
the
2005 year end.
Table
13
sets forth the allocation of the allowance for loan losses at the dates
indicated. The portion of these reserves that was allocated to specific loan
types in the loan portfolio increased to $18,942,000 at December 31, 2006 from
$15,692,000 at December 31, 2005 and $14,643,000 at December 31, 2004. The
20.7%
increase in the amount of the allocated allowance during 2006 is relatively
consistent with the 17.4% increase in total loans outstanding during the year.
Similarly, the 7.2% increase in the amount of the allocated allowance during
2005 is consistent with the 8.5% increase in total loans outstanding during
the
year. In addition to the allocated portion of the allowance for loan losses,
the
Company maintains an unallocated portion that is not assigned to any specific
category of loans, but rather is intended to reserve for the inherent risk
in
the overall portfolio and the intrinsic inaccuracies associated with the
estimation of the allowance for loan losses and its allocation to specific
loan
categories. The amount of the unallocated portion of the allowance for loan
losses did not vary materially at any of the past three year ends. The allowance
for loan losses is available to absorb losses in all
categories.
Management
considers the allowance for loan losses adequate to cover probable loan losses
on the loans outstanding as of each reporting date. It must be emphasized,
however, that the determination of the allowance using the Company’s procedures
and methods rests upon various judgments and assumptions about economic
conditions and other factors affecting loans. No assurance can be given that
the
Company will not in any particular period sustain loan losses that are sizable
in relation to the amount reserved or that subsequent evaluations of the loan
portfolio, in light of conditions and factors then prevailing, will not require
significant changes in the allowance for loan losses or future charges to
earnings.
In
addition, various regulatory agencies, as an integral part of their examination
process, periodically review the allowances for loan losses and losses on
foreclosed real estate. Such agencies may require the Company to recognize
additions to the allowances based on the examiners’ judgments about information
available to them at the time of their examinations.
For
the
years indicated, Table 14 summarizes the Company’s balances of loans
outstanding, average loans outstanding, and a detailed rollforward of the
allowance for loan losses.
In
addition to the increases to the allowance for loan losses related to normal
provisions, the increases in the dollar amounts of the allowance for loan losses
in 2006 was also affected by amounts recorded to provide for loans assumed
in
corporate acquisitions. In 2006, the Company added $52,000 to the allowance
for
loan losses related to approximately $6 million in loans assumed in a branch
acquisition.
The
Company’s net loan charge-offs amounted to $1,744,000 in 2006, $2,041,000 in
2005, and $1,757,000 in 2004. This represents 0.11%, 0.14%, and 0.14% of average
loans during 2006, 2005, and 2004 respectively. In each of the past five years,
the Company’s net charge-off ratio has been in the range of
0.10%-0.14%.
Deposits
and Securities Sold Under Agreements to Repurchase
At
December 31, 2006, deposits outstanding amounted to $1.696 billion, an increase
of $201 million, or 13.5%, from December 31, 2005. Approximately $157 million,
or 78%, of the deposit growth in 2006 was internally generated, while the
remaining $44 million, or 22%, resulted from the acquisitions of two bank
branches completed in 2006. In 2005, deposits grew from $1.389 billion to $1.495
billion, an increase of $106 million, or 7.6% from December 31, 2004. There
were
no deposits assumed in acquisitions in 2005. The Company’s deposit growth in
2005 was negatively impacted by paying back $50 million in brokered deposits
upon their maturity in 2005.
The
nature of the Company’s deposit growth is illustrated in the table on page 33.
The following table reflects the mix of the Company’s deposits at each of the
past three year ends:
|
2006
|
2005
|
2004
|
||||||||
|
Noninterest-bearing
deposits
|
13%
|
|
13%
|
|
12%
|
|
||||
|
Savings,
NOW and Money Market deposits
|
30%
|
|
31%
|
|
34%
|
|
||||
|
Time
deposits > $100,000
|
25%
|
|
24%
|
|
24%
|
|
||||
|
Time
deposits < $100,000
|
32%
|
|
32%
|
|
30%
|
|
||||
|
Total
deposits
|
100%
|
|
100%
|
|
100%
|
|
||||
|
Securities
sold under agreements to repurchase
as
a percent of total deposits
|
3%
|
|
2%
|
|
–
|
|||||
The
deposit mix remained relatively consistent from 2004 to 2006. Since 2004,
the
relative percentage of savings, NOW and money market accounts to total deposits
has been impacted by the introduction of a new product in 2005 - securities
sold
under agreements to repurchase (“repurchase agreements”) - that resulted in a
shift of customer’s money from savings and money market accounts to repurchase
agreements. Repurchase agreements are similar to interest-bearing deposits
and
allow the Company to pay interest to business customers without
statutory
limitations
on the number of withdrawals that these customers can make. Upon the
introduction of this product in the second half of 2005, the growth in
repurchase agreements, which amounted to $33.5 million at December 31, 2005,
and
$43.3 million at December 31, 2006, has been largely comprised of customer
funds
that had previously been held by the Company as savings or money market
deposits.
Table
15
presents the average amounts of deposits of the Company and the average yield
paid for those deposits for the years ended December 31, 2006, 2005, and 2004.
As
of
December 31, 2006, the Company held approximately $422.8 million in time
deposits of $100,000 or more. Table 16 is a maturity schedule of time deposits
of $100,000 or more as of December 31, 2006. This table shows that 89% of the
Company’s time deposits greater than $100,000 mature within one
year.
At
each
of the past three year ends, the Company had no deposits issued through foreign
offices, nor did the Company believe that it held any deposits by foreign
depositors.
Borrowings
The
Company had borrowings outstanding of $210.0 million at December 31, 2006
compared to $100.2 million at December 31, 2005. This increase in period end
borrowings was due to a generally higher use of borrowings in 2006 in order
to
fund loan growth that exceeded deposit growth, and was also a result of
projected temporary period end liquidity needs. As shown in Table 2, average
borrowings have fluctuated over the past three years, amounting to $84.9 million
in 2004, declining slightly in 2005 to $77.1 million, and then increasing to
$113.4 million in 2006. In 2005, growth in average deposits ($154 million)
exceeded growth in average loans ($127 million), which reduced the Company’s
dependency on borrowings, whereas in 2006, the level of growth in average loans
($201 million) exceeded the growth in average deposits ($139 million).
At
December 31, 2006, the Company had three sources of readily available borrowing
capacity - 1) an approximately $362 million line of credit with the Federal
Home
Loan Bank of Atlanta (FHLB), of which $143 million was outstanding at December
31, 2006 and $59 million was outstanding at December 31, 2005, 2) a $50 million
overnight federal funds line of credit with a correspondent bank, none of which
was outstanding at December 31, 2006 or 2005, and 3) an approximately $74
million line of credit through the Federal Reserve Bank of Richmond’s (FRB)
discount window, none of which was outstanding at December 31, 2006 or 2005.
The
Company’s line of credit with the FHLB can be structured as either short-term or
long-term borrowings, depending on the particular funding or liquidity need,
and
is secured by the Company’s FHLB stock and a blanket lien on most of its real
estate loan portfolio. In addition to the outstanding borrowings from the FHLB
that reduce the available borrowing capacity of the line of credit, the
borrowing capacity was further reduced by $40 million at December 31, 2006
and
2005 as a result of the Company pledging letters of credit for public deposits
at each of those dates.
The
Company’s correspondent bank relationship allows the Company to purchase up to
$50 million in federal funds on an overnight, unsecured basis (federal funds
purchased). The Company had no borrowings outstanding under this line at
December 31, 2006 or 2005. This line of credit was not drawn upon during any
of
the past three years.
The
Company also has a line of credit with the FRB discount window. This line is
secured by a blanket lien on a portion of the Company’s commercial and consumer
loan portfolio (excluding real estate loans). Based on the collateral owned
by
the Company as of December 31, 2006, the available line of credit is
approximately $74 million. This line of credit was established primarily in
connection with the Company’s Y2K liquidity contingency plan and has not been
drawn on since inception. The FRB has indicated that it would not expect lines
of credit that have been granted to financial institutions to be a primary
borrowing source. The Company plans to maintain this line of credit, although
it
is not expected that it will be drawn upon except in unusual
circumstances.
In
addition to the lines of credit described above, in which the Company had $143
million outstanding as of December 31, 2006, the Company also had a total of
$67
million in trust preferred security debt outstanding at December 31, 2006.
The
Company issued $20.6 million of this debt on October 29, 2002, an additional
$20.6 million on December 19, 2003, and $25.8 million on April 13, 2006. These
borrowings each have 30 year final maturities and were structured as trust
preferred capital securities that qualify as capital for regulatory capital
adequacy requirements. These debt securities are callable by the Company at
par
on any quarterly interest payment date five years after their issue date. The
interest rate on these debt securities adjusts on a quarterly basis at a rate
of
three-month LIBOR plus 3.45% for the securities issued in 2002, three-month
LIBOR plus 2.70% for the securities issued in 2003, and three-month LIBOR plus
1.39% for the securities issued in 2006. The Company incurred approximately
$1,195,000 in debt issuance costs related to the 2002 and 2003 issuances that
were recorded as prepaid expenses that are being amortized to the earliest
call
dates and are included in the “Other Assets” line item of the consolidated
balance sheet. No debt issuance costs were incurred with the 2006
issuance.
Average
short-term borrowings for each of the past five years were less than 30% of
total shareholders’ equity at all times during each period.
Liquidity,
Commitments, and Contingencies
The
Company’s liquidity is determined by its ability to convert assets to cash or to
acquire alternative sources of funds to meet the needs of its customers who
are
withdrawing or borrowing funds, and its ability to maintain required reserve
levels, pay expenses and operate the Company on an ongoing basis. The Company’s
primary liquidity sources are net income from operations, cash and due from
banks, federal funds sold and other short-term investments. The Company’s
securities portfolio is comprised almost entirely of readily marketable
securities which could also be sold to provide cash.
As
noted
above, in addition to internally generated liquidity sources, the Company has
the ability to obtain borrowings from the following three sources - 1) an
approximately $362 million line of credit with the FHLB, 2) a $50 million
overnight federal funds line of credit with a correspondent bank, and 3) an
approximately $74 million line of credit through the FRB’s discount
window.
The
Company’s liquidity did not change significantly during 2005 or 2006. Higher
loan growth than deposit growth in recent years has resulted in the Company’s
loan to deposit ratio increasing from 98% in 2004 to 99% in 2005 to 103% in
2006. The negative impact on the Company’s liquidity of the imbalance in loan
and deposit growth has been offset by a higher level of securities sold under
agreements to repurchase and borrowings. The level of the Company’s liquid
assets (consisting of cash, due from banks, federal funds sold, presold
mortgages in process of settlement and securities) as a percentage of deposits,
securities sold under agreements to repurchase and borrowings has grown over
the
past two years, with this ratio increasing from 13.1% in 2004 to 14.2% in 2005
to 15.1% in 2006.
The
Company’s management believes its liquidity sources, including unused lines of
credit, are at an acceptable level and remain adequate to meet its operating
needs in the foreseeable future. The Company will continue to monitor its
liquidity position carefully and will explore and implement strategies to
increase liquidity if deemed appropriate.
In
the
normal course of business there are various outstanding contractual obligations
of the Company that will require future cash outflows. In addition, there are
commitments and contingent liabilities, such as commitments to extend credit,
that may or may not require future cash outflows.
Table
18
reflects the contractual obligations and other commercial commitments of the
Company outstanding as of December 31, 2006. Any of the Company’s $143 million
in outstanding borrowings with the FHLB may be accelerated immediately by the
FHLB in certain circumstances, including material adverse changes in the
condition
of the Company or if the Company’s qualifying collateral is less than the amount
required under the terms of the borrowing agreement. As noted in Note 9 to
the
consolidated financial statements, the Company has the ability to call $20.6
million of its outstanding trust preferred security borrowings on November
7,
2007 and quarterly thereafter. The Company expects to substantively refinance
these borrowings on that date by exercising its call option and immediately
issuing $20.6 million in new trust preferred securities at what is expected
to
be a lower interest rate.
In
the
normal course of business there are various outstanding commitments and
contingent liabilities such as commitments to extend credit, which are not
reflected in the financial statements. As of December 31, 2006, the Company
had
outstanding unfunded loan and credit card commitments of $321,131,000, of which
$270,592,000 were at variable rates and $50,539,000 were at fixed rates.
Included in outstanding loan commitments were unfunded commitments of
$168,941,000 on revolving credit plans, of which $142,068,000 were at variable
rates and $26,873,000 were at fixed rates.
At
December 31, 2006 and 2005, the Company had $4,459,000 and $4,283,000,
respectively, in standby letters of credit outstanding. The Company had no
carrying amount for these standby letters of credit at either of those dates.
The nature of the standby letters of credit is a guarantee made on behalf of
the
Company’s customers to suppliers of the customers to guarantee payments owed to
the supplier by the customer. The standby letters of credit are generally for
terms for one year, at which time they may be renewed for another year if both
parties agree. The payment of the guarantees would generally be triggered by
a
continued nonpayment of an obligation owed by the customer to the supplier.
The
maximum potential amount of future payments (undiscounted) the Company could
be
required to make under the guarantees in the event of nonperformance by the
parties to whom credit or financial guarantees have been extended is represented
by the contractual amount of the financial instruments discussed above. In
the
event that the Company is required to honor a standby letter of credit, a note,
already executed with the customer, is triggered which provides repayment terms
and any collateral. Over the past ten years, the Company has had to honor one
standby letter of credit, which was repaid by the borrower without any loss
to
the Company. Management expects any draws under existing commitments to be
funded through normal operations.
It
has
been the experience of the Company that deposit withdrawals are generally
replaced with new deposits, thus not requiring any net cash outflow. Based
on
that assumption, management believes that it can meet its contractual cash
obligations and existing commitments from normal operations.
The
Company is not involved in any legal proceedings that, in management’s opinion,
could have a material effect on the consolidated financial position of the
Company; however, see “Income Taxes” above for discussion of a tax loss
contingency.
The
Company processes credit card transactions for approximately 575 commercial
merchant clients. As these clients present credit card transactions authorized
by their customers to the Company, the Company deposits funds in their checking
accounts and collects the corresponding amounts due from the credit card issuer.
In the event that the customer disputes the charge, the Company is contractually
liable for any amounts legally due to the customer in the event the Company’s
merchant clients do not make payment. This represents a contingent liability
to
the Company that led to a loss in 2006, as discussed in “Noninterest Income”
above.
Off-Balance
Sheet Arrangements and Derivative Financial Instruments
Off-balance
sheet arrangements include transactions, agreements, or other contractual
arrangements in which the Company has obligations or provides guarantees on
behalf of an unconsolidated entity. The Company has no off-balance sheet
arrangements of this kind other than repayment guarantees associated with its
trust preferred securities.
Derivative
financial instruments include futures, forwards, interest rate swaps, options
contracts, and other financial instruments with similar characteristics.
The
Company has not engaged in derivatives activities through December 31, 2006
and
has no current plans to do so.
Interest
Rate Risk (Including Quantitative and Qualitative Disclosures About Market
Risk
- Item 7A.)
Net
interest income is the Company’s most significant component of earnings.
Notwithstanding changes in volumes of loans and deposits, the Company’s level of
net interest income is continually at risk due to the effect that changes in
general market interest rate trends have on interest yields earned and paid
with
respect to the various categories of earning assets and interest-bearing
liabilities. It is the Company’s policy to maintain portfolios of earning assets
and interest-bearing liabilities with maturities and repricing opportunities
that will afford protection, to the extent practical, against wide interest
rate
fluctuations. The Company’s exposure to interest rate risk is analyzed on a
regular basis by management using standard GAP reports, maturity reports, and
an
asset/liability software model that simulates future levels of interest income
and expense based on current interest rates, expected future interest rates,
and
various intervals of “shock” interest rates. Over the years, the Company has
been able to maintain a fairly consistent yield on average earning assets (net
interest margin). Over the past five calendar years, the Company’s net interest
margin has ranged from a low of 4.18% (realized in 2006) to a high of 4.58%
(realized in 2002). During that five year period, the prime rate of interest
has
ranged from a low of 4.00% to a high of 8.25% (which is the current rate at
December 31, 2006).
Table
17
sets forth the Company’s interest rate sensitivity analysis as of December 31,
2006, using stated maturities for all instruments except mortgage-backed
securities (which are allocated in the periods of their expected payback) and
securities and borrowings with call features that are expected to be called
(which are shown in the period of their expected call). As illustrated by this
table, at December 31, 2006, the Company had $484 million more in
interest-bearing liabilities that are subject to interest rate changes within
one year than earning assets. This generally would indicate that net interest
income would experience downward pressure in a rising interest rate environment
and would benefit from a declining interest rate environment. However, this
method of analyzing interest sensitivity only measures the magnitude of the
timing differences and does not address earnings, market value, or management
actions. Also, interest rates on certain types of assets and liabilities may
fluctuate in advance of changes in market interest rates, while interest rates
on other types may lag behind changes in market rates. In addition to the
effects of “when” various rate-sensitive products reprice, market rate changes
may not result in uniform changes in rates among all products. For example,
included in interest-bearing liabilities subject to interest rate changes within
one year at December 31, 2006 are deposits totaling $503 million comprised
of
NOW, savings, and certain types of money market deposits with interest rates
set
by management. These types of deposits historically have not repriced with
or in
the same proportion as general market indicators.
Overall,
the Company believes that in the near term (twelve months), net interest income
would not likely experience significant downward pressure from rising interest
rates. Similarly, management would not expect a significant increase in near
term net interest income from falling interest rates. Generally, when rates
change, the Company’s interest-sensitive assets that are subject to adjustment
reprice immediately at the full amount of the change, while the Company’s
interest-sensitive liabilities that are subject to adjustment reprice at a
lag
to the rate change and typically not to the full extent of the rate change.
The
net effect is that in the twelve month horizon, as rates change, the impact
of
having a higher level of interest-sensitive liabilities is substantially negated
by the later and typically lower proportionate change these liabilities
experience compared to interest sensitive assets. The general discussion in
this
paragraph applies most directly when short-term interest rates and long-term
interest rates change in an equivalent manner and is less applicable when
short-term interest rates and long-term interest rates do not move together,
which has occurred recently and is discussed in the following
paragraph.
Since
the
second half of 2004, the Federal Reserve has increased its discount rate (the
interest rate it charges to commercial banks on loans) 17 times totaling 425
basis points. Changes in the discount rate tend to have a significant effect
on
overall interest rates in the marketplace. However the impact of these rate
increases has not had an equal effect on short-term interest rates and long-term
interest rates. In the marketplace, short-term rates
have
risen by a significantly higher amount than have longer-term interest rates.
For
example, from June 30, 2004 to December 31, 2006, the interest rate on
three-month treasury bills rose by 368 basis points, whereas the interest rate
for seven-year treasury notes increased by just 19 basis points. This has
resulted in what economists refer to as a “flat yield curve”, which means that
short-term interest rates are substantially the same as long-term interest
rates. This is an unfavorable interest rate environment for many banks,
including the Company, as short-term interest rates generally drive the
Company’s deposit pricing and longer-term interest rates generally drive loan
pricing. When these rates converge, as they have recently (particularly in
2006), the “profit” spread the Company realizes between loan yields and deposit
rates narrows, which reduces the Company’s net interest margin.
In
addition to the negative impact of the flat yield curve interest rate
environment, the Company’s net interest margin has also been negatively impacted
by
the
Company having more of its overall funding occurring in its highest cost funding
sources, which is a result of the need fund high loan growth, as well as
customers shifting their funds from low cost deposits to higher cost deposits
as
interest rates have risen.
The
factors just discussed are the primary reasons for the Company experiencing
a
decline in its net interest margin in each successive quarter in 2006. The
Company’s net interest margin was 4.37% in the fourth quarter of 2005, 4.33% in
the first quarter of 2006, 4.22% in the second quarter of 2006, 4.12% in the
third quarter of 2006, and 4.05% in the fourth quarter of 2006. There have
been
no changes to the Federal Reserve discount rate since July 2006. Rate forecasts
reviewed by the Company indicate that some economists are expecting little
change in interest rates in 2007. Assuming rates remain the same in 2007 as
they
were at the end of 2006, the Company believes that its net interest margin
will
be more stable in 2007 than it was in 2006 because most of the Company’s time
deposit portfolio has already repriced to the higher market interest rates
in
effect from July 2006 to December 2006. If market interest rates do not change,
the Company estimates that its net interest margin will be in the range of
3.90%
- 4.05% for 2007. Management’s modeling indicates a slight compression in net
interest margin in the first half of 2007 as the remaining portion of the
Company’s time deposits mature and reprice higher, followed by stable margins
for the remainder of the year. Modest parallel increases or decreases in
interest rates are not projected to materially impact the Company’s net interest
margin, whereas continued inversion of the yield curve would be expected to
negatively impact the margin. In addition to the assumption regarding interest
rates, the aforementioned modeling is dependent on many other assumptions that
could vary significantly from actual developments, including, but not limited
to: loan growth, mix of loan growth, deposit growth, mix of deposit growth,
the
ability of the Company to manage changes in rates earned on loans and paid
on
deposits, which will depend largely on actions taken by the Company’s
competitors.
The
Company has no market risk sensitive instruments held for trading purposes,
nor
does it maintain any foreign currency positions. Table 19 presents the expected
maturities of the Company’s other than trading market risk sensitive financial
instruments. Table 19 also presents the estimated fair values of market risk
sensitive instruments as estimated in accordance with Statement of Financial
Accounting Standards No. 107, “Disclosures About Fair Value of Financial
Instruments.” The Company’s assets have estimated fair values that are less than
their carrying values primarily because of the impact of the rising interest
rate environment on the fair value of fixed rate loans/securities that were
originated/purchased when interest rates were lower, whereas substantially
all
of the Company’s interest-bearing liabilities, which are almost all short-term
in nature, have already repriced into the higher interest rate environment,
and
thus their carrying value approximates fair value.
See
additional discussion regarding net interest income, as well as discussion
of
the changes in the annual net interest margin, in the section entitled “Net
Interest Income” above.
Return
on Assets and Equity
Table
20
shows return on assets (net income divided by average total assets), return
on
equity (net income divided by average shareholders’ equity), dividend payout
ratio (dividends per share divided by net income per share) and shareholders’
equity to assets ratio (average shareholders’ equity divided by average total
assets) for each of the years in the three-year period ended December 31, 2006.
The significant decrease in return on assets and return on equity and the
increase in the dividend payout ratio from 2004 to 2005 were caused primarily
by
the large contingency tax loss accrual that is discussed in the sections
entitled “Income Taxes” above.
Capital
Resources and Shareholders’ Equity
Shareholders’
equity at December 31, 2006 amounted to $162.7 million compared to $155.7
million at December 31, 2005. The two basic components that typically have
the
largest impact on the Company’s shareholders’ equity are net income, which
increases shareholders’ equity, and dividends declared, which decreases
shareholders’ equity.
In
2006,
net income of $19,302,000 increased equity, while dividends declared of
$10,589,000 reduced equity. Other significant items affecting shareholders’
equity in 2006 were 1) proceeds of $1,027,000 received from common stock issued
as a result of stock option exercises, 2) proceeds of $1,557,000 received from
the issuance of stock into the Company’s dividend reinvestment plan, 3)
repurchases of 53,000 shares of the Company’s common stock at an average price
of $20.97, which reduced shareholders’ equity by $1,112,000, and 4) a $3,775,000
negative adjustment to equity related to the Company’s December 31, 2006
adoption of Statement
of Financial Accounting Standards No. 158, “Employers’ Accounting for Defined
Benefit Pension and Other Postretirement Plans” (Statement
158). Statement 158 required the Company to recognize a liability for the
underfunded amount of the Company’s two defined benefit plans. See Notes 1(t)
and 11 to the Company’s consolidated financial statements for additional
discussion of Statement 158.
In
2005,
net income of $16,090,000 increased equity, while dividends declared of
$9,930,000 reduced equity. Other significant items affecting shareholders’
equity in 2005 were 1) proceeds of $785,000 received from common stock issued
as
a result of stock option exercises, 2) proceeds of $1,604,000 received from
the
issuance of stock into the Company’s dividend reinvestment plan, and 3) other
comprehensive loss of $1,417,000, which was primarily comprised of a $1,362,000
decrease in the net unrealized gain, net of taxes, of the Company’s available
for sale securities.
In
2004,
net income of $20,114,000 increased equity, while dividends declared of
$9,269,000 reduced equity. Also, the Company continued to actively manage its
capital and number of common shares outstanding through stock repurchases.
In
2004, the Company repurchased a total of 300,816 shares of its common stock
at
an average price of $21.65, which reduced shareholders’ equity by $6.5
million.
Other
items affecting shareholders’ equity in 2004 were 1) proceeds of $1,081,000
received from common stock issued as a result of stock option exercises, 2)
proceeds of $1,466,000 received from the issuance of stock into the Company’s
dividend reinvestment plan, 3) a $203,000 increase to equity related to the
tax
benefit that the Company realized due to exercises of nonqualified stock
options, and 4) other comprehensive loss of $445,000, which was primarily
comprised of a $417,000 decrease in the net unrealized gain, net of taxes,
of
the Company’s available for sale securities.
The
Company is not aware of any recommendations of regulatory authorities or
otherwise which, if they were to be implemented, would have a material effect
on
its liquidity, capital resources, or operations.
The
Company and the Bank must comply with regulatory capital requirements
established by the FRB and the FDIC. 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 and the Bank 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 and Bank’s capital amounts and
classifications are also subject to qualitative judgments by the regulators
about components, risk weightings, and other factors. These capital standards
require the Company and the Bank to maintain minimum ratios of “Tier 1” capital
to total risk-weighted assets (“Tier I Capital Ratio”) and total capital to
risk-weighted assets (“Total Capital Ratio”) of 4.00% and 8.00%, respectively.
Tier 1 capital is comprised of total shareholders’ equity, excluding unrealized
gains or losses from the securities available for sale, less intangible assets,
and total capital is comprised of Tier 1 capital plus certain adjustments,
the
largest of which for the Company and the Bank is the allowance for loan losses.
Risk-weighted assets refer to the on- and off-balance sheet exposures of the
Company and the Bank, adjusted for their related risk levels using formulas
set
forth in FRB and FDIC regulations.
In
addition to the risk-based capital requirements described above, the Company
and
the Bank are subject to a leverage capital requirement, which calls for a
minimum ratio of Tier 1 capital (as defined above) to quarterly average total
assets (“Leverage Ratio) of 3.00% to 5.00%, depending upon the institution’s
composite ratings as determined by its regulators. The FRB has not advised
the
Company of any requirement specifically applicable to it.
Table
21
presents the Company’s regulatory capital ratios as of December 31, 2006, 2005,
and 2004. In
both
2005 and 2006, the Company’s balance sheet growth outpaced the growth rate of
its capital. In order to maintain regulatory capital ratios at internal targets
in 2006, the Company issued an additional $25.8 million in trust preferred
debt
securities, which are counted as regulatory capital. All of the Company’s
capital ratios have significantly exceeded the minimum regulatory thresholds
for
all periods covered by this report.
In
addition to the minimum capital requirements described above, the regulatory
framework for prompt corrective action also contains specific capital guidelines
for a bank’s classification as “well capitalized.” The specific guidelines are
as follows - Tier I Capital Ratio of at least 6.00%, Total Capital Ratio of
at
least 10.00%, and a Leverage Ratio of at least 5.00%. The
Bank’s regulatory ratios exceeded
the threshold for “well-capitalized” status at December 31, 2006, 2005 and
2004.
The
Company’s goal is to maintain its capital ratios at levels no less than the
“well-capitalized” thresholds set for banks. At December 31, 2006, the Company’s
total risk-based capital ratio was 11.81% compared to the 10.00%
“well-capitalized” threshold. The Company believes it has readily accessible
options to increase capital should the need arise, including perpetual preferred
stock, a secondary common stock offering, or the issuance of additional trust
preferred securities.
See
“Supervision and Regulation” under “Business” above and Note 15 to the
consolidated financial statements for discussion of other matters that may
affect the Company’s capital resources.
Inflation
Because
the assets and liabilities of a bank are primarily monetary in nature (payable
in fixed determinable amounts), the performance of a bank is affected more
by
changes in interest rates than by inflation. Interest rates generally increase
as the rate of inflation increases, but the magnitude of the change in rates
may
not be the same. The effect of inflation on banks is normally not as significant
as its influence on those businesses that have large investments in plant and
inventories. During periods of high inflation, there are normally corresponding
increases in the money supply, and banks will normally experience above average
growth in assets, loans and deposits. Also, general increases in the price
of
goods and services will result in increased operating expenses.
Current
Accounting and Regulatory Matters
The
Company prepares its consolidated financial statements and related disclosures
in conformity with standards established by, among others, the Financial
Accounting Standards Board (the “FASB”). Because the information needed by users
of financial reports is dynamic, the FASB frequently issues new rules and
proposes new rules for companies to apply in reporting their activities. See
Note 1(t) to the Company’s consolidated financial statements for a discussion of
recent rule proposals and changes.
Item
7A. Quantitative and Qualitative Disclosures About Market
Risk.
The
information responsive to this Item is found in Item 7 under the caption
“Interest Rate Risk.”
FORWARD-LOOKING
STATEMENTS
The
discussion in Part I and Part II of this report contains statements that could
be deemed forward-looking statements within the meaning of Section 21E of the
Securities Exchange Act of 1934 and the Private Securities Litigation Reform
Act, which statements are inherently subject to risks and uncertainties.
Forward-looking statements are statements that include projections, predictions,
expectations or beliefs about future events or results or otherwise are not
statements of historical fact. Such statements are often characterized by the
use of qualifying words (and their derivatives) such as “expect,” “believe,”
“estimate,” “plan,” “project,” or other statements concerning opinions or
judgment of the Company and its management about future events. Factors that
could influence the accuracy of such forward-looking statements include, but
are
not limited to, the financial success or changing strategies of the Company’s
customers, the Company’s level of success in integrating acquisitions, actions
of government regulators, the level of market interest rates, and general
economic conditions, and also include the matters discussed under “Risk Factors”
in Item 1A of this report.
| Table 1 Selected Consolidated Financial Data | ||||||||||||||||
|
($
in thousands, except per share
|
Year
Ended December 31,
|
|||||||||||||||
|
and
nonfinancial data)
|
2006
|
2005
|
2004
|
2003
|
2002
|
|||||||||||
|
Income
Statement Data
|
||||||||||||||||
|
Interest
income
|
$
|
129,207
|
101,429
|
81,593
|
74,667
|
73,261
|
||||||||||
|
Interest
expense
|
54,671
|
32,838
|
20,303
|
18,907
|
23,871
|
|||||||||||
|
Net
interest income
|
74,536
|
68,591
|
61,290
|
55,760
|
49,390
|
|||||||||||
|
Provision
for loan losses
|
4,923
|
3,040
|
2,905
|
2,680
|
2,545
|
|||||||||||
|
Net
interest income after provision
|
69,613
|
65,551
|
58,385
|
53,080
|
46,845
|
|||||||||||
|
Noninterest
income
|
14,310
|
15,004
|
15,864
|
14,918
|
11,968
|
|||||||||||
|
Noninterest
expense
|
53,198
|
47,636
|
43,717
|
37,964
|
32,301
|
|||||||||||
|
Income
before income taxes
|
30,725
|
32,919
|
30,532
|
30,034
|
26,512
|
|||||||||||
|
Income
taxes
|
11,423
|
16,829
|
10,418
|
10,617
|
9,282
|
|||||||||||
|
Net
income
|
19,302
|
16,090
|
20,114
|
19,417
|
17,230
|
|||||||||||
|
Earnings
per share - basic
|
1.35
|
1.14
|
1.42
|
1.38
|
1.26
|
|||||||||||
|
Earnings
per share - diluted
|
1.34
|
1.12
|
1.40
|
1.35
|
1.23
|
|||||||||||
|
Per
Share Data
|
||||||||||||||||
|
Cash
dividends declared
|
$
|
0.74
|
0.70
|
0.66
|
0.63
|
0.60
|
||||||||||
|
Market
Price
|
||||||||||||||||
|
High
|
23.90
|
27.88
|
29.73
|
21.49
|
18.35
|
|||||||||||
|
Low
|
19.47
|
19.32
|
18.47
|
15.30
|
13.47
|
|||||||||||
|
Close
|
21.84
|
20.16
|
27.17
|
20.80
|
15.67
|
|||||||||||
|
Book
value - stated
|
11.34
|
10.94
|
10.54
|
10.02
|
9.06
|
|||||||||||
|
Tangible
book value
|
7.76
|
7.48
|
7.04
|
6.44
|
7.22
|
|||||||||||
|
Selected
Balance Sheet Data (at year end)
|
||||||||||||||||
|
Total
assets
|
$
|
2,136,624
|
1,801,050
|
1,638,913
|
1,475,769
|
1,218,146
|
||||||||||
|
Loans
|
1,740,396
|
1,482,611
|
1,367,053
|
1,218,895
|
998,547
|
|||||||||||
|
Allowance
for loan losses
|
18,947
|
15,716
|
14,717
|
13,569
|
10,907
|
|||||||||||
|
Intangible
assets
|
51,394
|
49,227
|
49,330
|
50,701
|
25,169
|
|||||||||||
|
Deposits
|
1,695,679
|
1,494,577
|
1,388,768
|
1,249,364
|
1,055,957
|
|||||||||||
|
Borrowings
|
210,013
|
100,239
|
92,239
|
76,000
|
30,000
|
|||||||||||
|
Total
shareholders’ equity
|
162,705
|
155,728
|
148,478
|
141,856
|
123,985
|
|||||||||||
|
Selected
Average Balances
|
||||||||||||||||
|
Assets
|
$
|
1,922,510
|
1,709,380
|
1,545,332
|
1,339,823
|
1,162,708
|
||||||||||
|
Loans
|
1,623,188
|
1,422,419
|
1,295,682
|
1,113,426
|
954,885
|
|||||||||||
|
Earning
assets
|
1,793,811
|
1,593,554
|
1,434,425
|
1,245,679
|
1,090,666
|
|||||||||||
|
Deposits
|
1,599,575
|
1,460,620
|
1,306,404
|
1,153,385
|
1,010,693
|
|||||||||||
|
Interest-bearing
liabilities
|
1,537,385
|
1,359,744
|
1,232,130
|
1,065,950
|
928,686
|
|||||||||||
|
Shareholders’
equity
|
163,193
|
154,871
|
146,683
|
137,293
|
120,943
|
|||||||||||
|
Ratios
|
||||||||||||||||
|
Return
on average assets
|
1.00
|
%
|
0.94
|
%
|
1.30
|
%
|
1.45
|
%
|
1.48
|
%
|
||||||
|
Return
on average equity
|
11.83
|
%
|
10.39
|
%
|
13.71
|
%
|
14.14
|
%
|
14.25
|
%
|
||||||
|
Net
interest margin (taxable-equivalent basis)
|
4.18
|
%
|
4.33
|
%
|
4.31
|
%
|
4.52
|
%
|
4.58
|
%
|
||||||
|
Shareholders’
equity to assets at year end
|
7.62
|
%
|
8.65
|
%
|
9.06
|
%
|
9.61
|
%
|
10.18
|
%
|
||||||
|
Loans
to deposits at year end
|
102.64
|
%
|
99.20
|
%
|
98.44
|
%
|
97.56
|
%
|
94.56
|
%
|
||||||
|
Allowance
for loan losses to total loans
|
1.09
|
%
|
1.06
|
%
|
1.08
|
%
|
1.11
|
%
|
1.09
|
%
|
||||||
|
Nonperforming
assets to total assets at year end
|
0.39
|
%
|
0.17
|
%
|
0.32
|
%
|
0.39
|
%
|
0.36
|
%
|
||||||
|
Net
charge-offs to average loans
|
0.11
|
%
|
0.14
|
%
|
0.14
|
%
|
0.10
|
%
|
0.11
|
%
|
||||||
|
Efficiency
ratio
|
59.54
|
%
|
56.68
|
%
|
56.32
|
%
|
53.32
|
%
|
52.19
|
%
|
||||||
|
Nonfinancial
Data
|
||||||||||||||||
|
Number
of branches
|
68
|
61
|
59
|
57
|
48
|
|||||||||||
|
Number
of employees - Full time equivalents
|
620
|
578
|
563
|
550
|
447
|
|||||||||||
Per
share amounts for 2002 and 2003 have been restated from their originally
reported amounts to reflect the 3-for-2 stock split paid on November 15,
2004.
| Table 2 Average Balances and Net Interest Income Analysis | ||||||||||||||||||||||||||||
|
Year
Ended December 31,
|
||||||||||||||||||||||||||||
|
2006
|
2005
|
2004
|
||||||||||||||||||||||||||
|
($
in thousands)
|
Average
Volume
|
Avg.
Rate
|
Interest
Earned
or
Paid
|
Average
Volume
|
Avg.
Rate
|
Interest
Earned
or
Paid
|
Average
Volume
|
Avg.
Rate
|
Interest
Earned
or
Paid
|
|||||||||||||||||||
|
Assets
|
||||||||||||||||||||||||||||
|
Loans
(1)
|
$
|
1,623,188
|
7.44%
|
|
$
|
120,694
|
$
|
1,422,419
|
6.62%
|
|
$
|
94,097
|
$
|
1,295,682
|
5.87%
|
|
$
|
76,093
|
||||||||||
|
Taxable
securities
|
118,032
|
4.84%
|
|
5,718
|
114,223
|
4.54%
|
|
5,184
|
98,016
|
4.52%
|
|
4,428
|
||||||||||||||||
|
Non-taxable
securities (2)
|
11,466
|
8.84%
|
|
1,014
|
10,782
|
8.57%
|
|
924
|
12,082
|
8.30%
|
|
1,003
|
||||||||||||||||
|
Short-term
investments, primarily
federal funds
|
41,125
|
5.55%
|
|
2,282
|
46,130
|
3.62%
|
|
1,672
|
28,645
|
1.90%
|
|
544
|
||||||||||||||||
|
Total
interest-earning
assets
|
1,793,811
|
7.23%
|
|
129,708
|
1,593,554
|
6.39%
|
|
101,877
|
1,434,425
|
5.72%
|
|
82,068
|
||||||||||||||||
|
Cash
and due from banks
|
37,872
|
34,574
|
32,594
|
|||||||||||||||||||||||||
|
Bank
premises and equipment,
net
|
38,592
|
32,179
|
25,915
|
|||||||||||||||||||||||||
|
Other
assets
|
52,235
|
49,073
|
52,398
|
|||||||||||||||||||||||||
|
Total
assets
|
$
|
1,922,510
|
$
|
1,709,380
|
$
|
1,545,332
|
||||||||||||||||||||||
|
Liabilities
and Equity
|
||||||||||||||||||||||||||||
|
Savings,
NOW and money market deposits
|
$
|
483,548
|
1.47%
|
|
$
|
7,094
|
$
|
470,648
|
0.86%
|
|
$
|
4,048
|
$
|
468,177
|
0.54%
|
|
$
|
2,530
|
||||||||||
|
Time
deposits >$100,000
|
390,246
|
4.53%
|
|
17,662
|
350,240
|
3.26%
|
|
11,425
|
271,448
|
2.34%
|
|
6,362
|
||||||||||||||||
|
Other
time deposits
|
520,140
|
4.09%
|
|
21,276
|
455,557
|
2.86%
|
|
13,043
|
407,602
|
2.04%
|
|
8,334
|
||||||||||||||||
|
Total
interest-bearing deposits
|
1,393,934
|
3.30%
|
|
46,032
|
1,276,445
|
2.23%
|
|
28,516
|
1,147,227
|
1.50%
|
|
17,226
|
||||||||||||||||
|
Securities
sold under agreements to repurchase
|
30,036
|
3.72%
|
|
1,116
|
6,219
|
2.88%
|
|
179
|
–
|
–
|
–
|
|||||||||||||||||
|
Borrowings
|
113,415
|
6.63%
|
|
7,523
|
77,080
|
5.37%
|
|
4,143
|
84,903
|
3.62%
|
|
3,077
|
||||||||||||||||
|
Total
interest-bearing
liabilities
|
1,537,385
|
3.56%
|
|
54,671
|
1,359,744
|
2.42%
|
|
32,838
|
1,232,130
|
1.65%
|
|
20,303
|
||||||||||||||||
|
Non-interest-bearing
deposits
|
205,641
|
184,175
|
159,177
|
|||||||||||||||||||||||||
|
Other
liabilities
|
16,291
|
10,590
|
7,342
|
|||||||||||||||||||||||||
|
Shareholders’
equity
|
163,193
|
154,871
|
146,683
|
|||||||||||||||||||||||||
|
Total
liabilities and shareholders’
equity
|
$
|
1,922,510
|
$
|
1,709,380
|
$
|
1,545,332
|
||||||||||||||||||||||
|
Net
yield on interest- earning
assets and net interest income
|
4.18%
|
|
$
|
75,037
|
4.33%
|
|
$
|
69,039
|
4.31%
|
|
$
|
61,765
|
||||||||||||||||
|
Interest
rate spread
|
3.67%
|
|
3.97%
|
|
4.07%
|
|
||||||||||||||||||||||
|
Average
prime rate
|
7.96%
|
|
6.19%
|
|
4.34%
|
|
||||||||||||||||||||||
(1)
Average
loans include nonaccruing loans, the effect of which is to lower the average
rate shown. Interest earned includes recognized loan fees in the amounts of
$696,000, $1,037,000, and $1,244,000 for 2006, 2005, and 2004,
respectively.
(2)
Includes
tax-equivalent adjustments of $501,000, $448,000, and $475,000 in 2006, 2005,
and 2004, respectively, to reflect the federal and state benefit of the
tax-exempt securities (using a 39% combined tax rate), reduced by the related
nondeductible portion of interest expense.
| Table 3 Volume and Rate Variance Analysis | |||||||||||||||||||
|
Year
Ended December 31, 2006
|
Year
Ended December 31, 2005
|
||||||||||||||||||
|
Change
Attributable to
|
Change
Attributable to
|
||||||||||||||||||
|
(In
thousands)
|
Changes
in
Volumes
|
Changes
in
Rates
|
Total
Increase
(Decrease)
|
Changes
in
Volumes
|
Changes
in
Rates
|
Total
Increase
(Decrease)
|
|||||||||||||
|
Interest
income (tax-equivalent):
|
|||||||||||||||||||
|
Loans
|
$
|
14,105
|
12,492
|
26,597
|
7,914
|
10,090
|
18,004
|
||||||||||||
|
Taxable
securities
|
179
|
355
|
534
|
734
|
22
|
756
|
|||||||||||||
|
Non-taxable
securities
|
60
|
30
|
90
|
(110
|
)
|
31
|
(79
|
)
|
|||||||||||
|
Short-term
investments, principally federal
funds sold
|
(230
|
)
|
840
|
610
|
483
|
645
|
1,128
|
||||||||||||
|
Total
interest income
|
14,114
|
13,717
|
27,831
|
9,021
|
10,788
|
19,809
|
|||||||||||||
|
Interest
expense:
|
|||||||||||||||||||
|
Savings,
NOW and money market
deposits
|
150
|
2,896
|
3,046
|
17
|
1,501
|
1,518
|
|||||||||||||
|
Time
deposits>$100,000
|
1,558
|
4,679
|
6,237
|
2,208
|
2,855
|
5,063
|
|||||||||||||
|
Other
time deposits
|
2,245
|
5,988
|
8,233
|
1,177
|
3,532
|
4,709
|
|||||||||||||
|
Total
interest-bearing deposits
|
3,953
|
13,563
|
17,516
|
3,402
|
7,888
|
11,290
|
|||||||||||||
|
Securities
sold under agreements to repurchase
|
785
|
152
|
937
|
179
|
–
|
179
|
|||||||||||||
|
Borrowings
|
2,182
|
1,198
|
3,380
|
(352
|
)
|
1,418
|
1,066
|
||||||||||||
|
Total
interest expense
|
6,920
|
14,913
|
21,833
|
3,229
|
9,306
|
12,535
|
|||||||||||||
|
Net
interest income (tax-equivalent)
|
$
|
7,194
|
(1,196
|
)
|
5,998
|
5,792
|
1,482
|
7,274
|
|||||||||||
Changes
attributable to both volume and rate are allocated equally between rate and
volume variances.
| Table 4 Noninterest Income | ||||||||||
|
Year
Ended December 31,
|
||||||||||
|
(In
thousands)
|
2006
|
|
2005
|
2004
|
||||||
|
Service
charges on deposit accounts
|
$
|
8,968
|
8,537
|
9,064
|
||||||
|
Other
service charges, commissions, and fees
|
4,578
|
3,963
|
3,361
|
|||||||
|
Fees
from presold mortgages
|
1,062
|
1,176
|
969
|
|||||||
|
Commissions
from sales of insurance and financial
products
|
1,434
|
1,307
|
1,406
|
|||||||
|
Data
processing fees
|
162
|
279
|
416
|
|||||||
|
Total
core noninterest income
|
16,204
|
15,262
|
15,216
|
|||||||
|
Loan
sale gains
|
–
|
9
|
2
|
|||||||
|
Securities
gains, net
|
205
|
5
|
299
|
|||||||
|
Other
gains (losses), net
|
(2,099
|
)
|
(272
|
)
|
347
|
|||||
|
Total
|
$
|
14,310
|
15,004
|
15,864
|
||||||
| Table 5 Noninterest Expenses | ||||||||||
|
Year
Ended December 31,
|
||||||||||
|
(In
thousands)
|
2006
|
2005
|
2004
|
|||||||
|
Salaries
|
$
|
23,867
|
21,921
|
20,116
|
||||||
|
Employee
benefits
|
6,811
|
6,054
|
5,488
|
|||||||
|
Total
personnel expense
|
30,678
|
27,975
|
25,604
|
|||||||
|
Occupancy
expense
|
3,447
|
3,037
|
2,754
|
|||||||
|
Equipment
related expenses
|
3,419
|
2,965
|
2,956
|
|||||||
|
Amortization
of intangible assets
|
322
|
290
|
378
|
|||||||
|
Stationery
and supplies
|
1,675
|
1,590
|
1,523
|
|||||||
|
Telephone
|
1,273
|
1,260
|
1,345
|
|||||||
|
Non-credit
losses
|
165
|
110
|
187
|
|||||||
|
Other
operating expenses
|
12,219
|
10,409
|
8,970
|
|||||||
|
Total
|
$
|
53,198
|
47,636
|
43,717
|
||||||
| Table 6 Income Taxes | ||||||||||
|
(In
thousands)
|
2006
|
2005
|
2004
|
|||||||
|
Current
- Federal
|
$
|
10,809
|
8,285
|
10,407
|
||||||
|
-
State
|
1,927
|
8,700
|
228
|
|||||||
|
Deferred
- Federal
|
(1,112
|
)
|
(124
|
)
|
(192
|
)
|
||||
|
-
State
|
(201
|
)
|
(32
|
)
|
(25
|
)
|
||||
|
Total
|
$
|
11,423
|
16,829
|
10,418
|
||||||
|
Effective
tax rate
|
37.2
|
%
|
51.1
|
%
|
34.1
|
%
|
||||
| Table 7 Distribution of Assets and Liabilities | ||||||||||
|
As
of December 31,
|
||||||||||
|
2006
|
2005
|
2004
|
||||||||
|
Assets
|
||||||||||
|
Interest-earning
assets
|
||||||||||
|
Net
loans
|
80
|
%
|
81
|
%
|
82
|
%
|
||||
|
Securities
available for sale
|
6
|
6
|
5
|
|||||||
|
Securities
held to maturity
|
1
|
1
|
1
|
|||||||
|
Short
term investments
|
5
|
4
|
4
|
|||||||
|
Total
interest-earning assets
|
92
|
92
|
92
|
|||||||
|
Noninterest-earning
assets
|
||||||||||
|
Cash
and due from banks
|
2
|
2
|
2
|
|||||||
|
Premises
and equipment
|
2
|
2
|
2
|
|||||||
|
Other
assets
|
4
|
4
|
4
|
|||||||
|
Total
assets
|
100
|
%
|
100
|
%
|
100
|
%
|
||||
|
Liabilities
and shareholders’ equity
|
||||||||||
|
Demand
deposits - noninterest bearing
|
10
|
%
|
11
|
%
|
10
|
%
|
||||
|
Savings,
NOW, and money market deposits
|
23
|
25
|
29
|
|||||||
|
Time
deposits of $100,000 or more
|
20
|
20
|
21
|
|||||||
|
Other
time deposits
|
26
|
27
|
25
|
|||||||
|
Total
deposits
|
79
|
83
|
85
|
|||||||
|
Securities
sold under agreements to repurchase
|
2
|
2
|
–
|
|||||||
|
Borrowings
|
10
|
5
|
5
|
|||||||
|
Accrued
expenses and other liabilities
|
1
|
1
|
1
|
|||||||
|
Total
liabilities
|
92
|
91
|
91
|
|||||||
|
Shareholders’
equity
|
8
|
9
|
9
|
|||||||
|
Total
liabilities and shareholders’ equity
|
100
|
%
|
100
|
%
|
100
|
%
|
||||
| Table 8 Securities Portfolio Composition | ||||||||||
|
As
of December 31,
|
||||||||||
|
(In
thousands)
|
2006
|
2005
|
2004
|
|||||||
|
Securities
available for sale:
|
||||||||||
|
Government-sponsored
enterprise securities
|
$
|
62,456
|
44,481
|
29,810
|
||||||
|
Mortgage-backed
securities
|
43,442
|
47,928
|
41,062
|
|||||||
|
Corporate
bonds
|
13,580
|
14,912
|
12,084
|
|||||||
|
Equity
securities
|
10,486
|
6,292
|
5,598
|
|||||||
|
Total
securities available for sale
|
129,964
|
113,613
|
88,554
|
|||||||
|
Securities
held to maturity:
|
||||||||||
|
State
and local governments
|
13,089
|
11,382
|
11,605
|
|||||||
|
Other
|
33
|
66
|
2,420
|
|||||||
|
Total
securities held to maturity
|
13,122
|
11,448
|
14,025
|
|||||||
|
Total
securities
|
$
|
143,086
|
125,061
|
102,579
|
||||||
|
Average
total securities during year
|
$
|
129,498
|
125,005
|
110,098
|
||||||
| Table 9 Securities Portfolio Maturity Schedule | ||||||||||
|
As
of December 31,
|
||||||||||
|
2006
|
||||||||||
|
($
in thousands)
|
Book
Value
|
Fair
Value
|
Book
Yield
(1)
|
|||||||
|
Securities
available for sale:
|
||||||||||
|
Government-sponsored
enterprise securities
|
||||||||||
|
Due
within one year
|
$
|
14,590
|
14,436
|
3.81
|
%
|
|||||
|
Due
after one but within five years
|
46,414
|
46,020
|
4.68
|
%
|
||||||
|
Due
after five but within ten years
|
2,000
|
2,000
|
6.01
|
%
|
||||||
|
Total
|
63,004
|
62,456
|
4.52
|
%
|
||||||
|
Mortgage-backed
securities
|
||||||||||
|
Due
within one year
|
1,129
|
1,118
|
4.95
|
%
|
||||||
|
Due
after one but within five years
|
25,634
|
24,901
|
4.37
|
%
|
||||||
|
Due
after five but within ten years
|
13,544
|
13,179
|
4.74
|
%
|
||||||
|
Due
after ten years
|
4,265
|
4,244
|
5.77
|
%
|
||||||
|
Total
|
44,572
|
43,442
|
4.63
|
%
|
||||||
|
Corporate
debt securities
|
||||||||||
|
Due
after five but within ten years
|
6,092
|
6,009
|
5.91
|
%
|
||||||
|
Due
after ten years
|
6,761
|
7,571
|
8.79
|
%
|
||||||
|
Total
|
12,853
|
13,580
|
7.42
|
%
|
||||||
|
Equity
securities
|
10,395
|
10,486
|
5.75
|
%
|
||||||
|
Total
securities available for sale
|
||||||||||
|
Due
within one year
|
15,719
|
15,554
|
3.89
|
%
|
||||||
|
Due
after one but within five years
|
72,048
|
70,921
|
4.57
|
%
|
||||||
|
Due
after five but within ten years
|
21,636
|
21,188
|
5.19
|
%
|
||||||
|
Due
after ten years
|
11,026
|
11,815
|
7.62
|
%
|
||||||
|
Equity
securities
|
10,395
|
10,486
|
5.75
|
%
|
||||||
|
Total
|
$
|
130,824
|
129,964
|
4.94
|
%
|
|||||
|
Securities
held to maturity:
|
||||||||||
|
State
and local governments
|
||||||||||
|
Due
within one year
|
$
|
1,564
|
1,568
|
6.49
|
%
|
|||||
|
Due
after one but within five years
|
4,736
|
4,771
|
7.31
|
%
|
||||||
|
Due
after five but within ten years
|
2,174
|
2,204
|
6.63
|
%
|
||||||
|
Due
after ten years
|
4,615
|
4,592
|
6.20
|
%
|
||||||
|
Total
|
13,089
|
13,135
|
6.71
|
%
|
||||||
|
Other
|
||||||||||
|
Due
after one but within five years
|
33
|
33
|
9.47
|
%
|
||||||
|
Total
|
33
|
33
|
9.47
|
%
|
||||||
|
Total
securities held to maturity
|
||||||||||
|
Due
within one year
|
1,564
|
1,568
|
6.49
|
%
|
||||||
|
Due
after one but within five years
|
4,769
|
4,804
|
7.32
|
%
|
||||||
|
Due
after five but within ten years
|
2,174
|
2,204
|
6.63
|
%
|
||||||
|
Due
after ten years
|
4,615
|
4,592
|
6.20
|
%
|
||||||
|
Total
|
$
|
13,122
|
13,168
|
6.71
|
%
|
|||||
(1)
Yields on tax-exempt investments have been adjusted to a taxable equivalent
basis using a 39% tax rate.
(2)
Mortgage-backed securities are shown maturing in the periods consistent with
their estimated lives based on expected prepayment speeds.
| Table 10 Loan Portfolio Composition | |||||||||||||||||||||||||||||||
|
As
of December 31,
|
|||||||||||||||||||||||||||||||
|
2006
|
2005
|
2004
|
2003
|
2002
|
|||||||||||||||||||||||||||
|
($
in thousands)
|
Amount
|
%
of
Total
Loans
|
Amount
|
%
of
Total
Loans
|
Amount
|
%
of
Total
Loans
|
Amount
|
%
of
Total
Loans
|
Amount
|
%
of
Total
Loans
|
|||||||||||||||||||||
|
Commercial,
financial, & agricultural
|
$
|
165,214
|
9.49%
|
|
$
|
135,942
|
9.17%
|
|
$
|
122,501
|
8.96%
|
|
$
|
117,287
|
9.62%
|
|
$
|
88,291
|
8.84%
|
|
|||||||||||
|
Real
estate - construction
|
155,440
|
8.93%
|
|
125,158
|
8.44%
|
|
117,158
|
8.57%
|
|
98,189
|
8.05%
|
|
68,162
|
6.82%
|
|
||||||||||||||||
|
Real
estate - mortgage(1)
|
1,344,553
|
77.26%
|
|
1,150,068
|
77.58%
|
|
1,063,694
|
77.80%
|
|
939,578
|
77.05%
|
|
795,148
|
79.57%
|
|
||||||||||||||||
|
Installment
loans to individuals
|
75,162
|
4.32%
|
|
71,259
|
4.81%
|
|
63,913
|
4.67%
|
|
64,444
|
5.28%
|
|
47,648
|
4.77%
|
|
||||||||||||||||
|
Loans,
gross
|
1,740,369
|
100.0%
|
|
1,482,427
|
100.0%
|
|
1,367,266
|
100.0%
|
|
1,219,498
|
100.0%
|
|
999,249
|
100.0%
|
|
||||||||||||||||
|
Unamortized
net deferred loan costs/ (fees)
|
27
|
184
|
(213
|
)
|
(603
|
)
|
(702
|
)
|
|||||||||||||||||||||||
|
Total
loans, net
|
$
|
1,740,396
|
$
|
1,482,611
|
$
|
1,367,053
|
$
|
1,218,895
|
$
|
998,547
|
|||||||||||||||||||||
(1)
The
majority of these loans are various personal and commercial loans where real
estate provides additional security for the loan.
| Table 11 Loan Maturities | |||||||||||||||||||||||||
|
As
of December 31, 2006
|
|||||||||||||||||||||||||
|
Due
within
one
year
|
Due
after one year but
within
five years
|
Due
after five
years
|
Total
|
||||||||||||||||||||||
|
($
in thousands)
|
Amount
|
Yield
|
Amount
|
Yield
|
Amount
|
Yield
|
Amount
|
Yield
|
|||||||||||||||||
|
Variable
Rate Loans:
|
|||||||||||||||||||||||||
|
Commercial,
financial, and agricultural
|
$
|
42,635
|
8.35%
|
|
$
|
20,430
|
8.29%
|
|
$
|
2,289
|
8.31%
|
|
$
|
65,354
|
8.33
|
%
|
|||||||||
|
Real
estate - construction
|
105,789
|
8.63%
|
|
15,282
|
8.00%
|
|
409
|
8.41%
|
|
121,480
|
8.55
|
%
|
|||||||||||||
|
Real
estate - mortgage
|
109,971
|
8.46%
|
|
244,599
|
7.83%
|
|
309,005
|
7.40%
|
|
663,575
|
7.73
|
%
|
|||||||||||||
|
Installment
loans to
individuals
|
11,017
|
8.44%
|
|
10,890
|
8.90%
|
|
5,211
|
8.53%
|
|
27,118
|
8.64
|
%
|
|||||||||||||
|
Total
at variable rates
|
269,412
|
8.51%
|
|
291,201
|
7.91%
|
|
316,914
|
7.43%
|
|
877,527
|
7.92
|
%
|
|||||||||||||
|
Fixed
Rate Loans:
|
|||||||||||||||||||||||||
|
Commercial,
financial, and agricultural
|
18,398
|
7.42%
|
|
49,088
|
7.16%
|
|
5,599
|
6.04%
|
|
73,085
|
7.14
|
%
|
|||||||||||||
|
Real
estate - construction
|
25,033
|
7.51%
|
|
8,815
|
7.36%
|
|
–
|
–
|
33,848
|
7.47
|
%
|
||||||||||||||
|
Real
estate - mortgage
|
104,475
|
7.05%
|
|
493,917
|
6.93%
|
|
60,589
|
6.95%
|
|
658,981
|
6.95
|
%
|
|||||||||||||
|
Installment
loans to
individuals
|
18,107
|
8.20%
|
|
68,765
|
8.68%
|
|
3,231
|
7.56%
|
|
90,103
|
8.54
|
%
|
|||||||||||||
|
Total
at fixed rates
|
166,013
|
7.29%
|
|
620,585
|
7.15%
|
|
69,419
|
6.90%
|
|
856,017
|
7.15
|
%
|
|||||||||||||
|
Subtotal
|
435,425
|
8.04%
|
|
911,786
|
7.39%
|
|
386,333
|
7.33%
|
|
1,733,544
|
7.54
|
%
|
|||||||||||||
|
Nonaccrual
loans
|
6,852
|
–
|
–
|
6,852
|
|||||||||||||||||||||
|
Total
Loans
|
$
|
442,277
|
$
|
911,786
|
$
|
386,333
|
$
|
1,740,396
|
|||||||||||||||||
The
above
table is based on contractual scheduled maturities. Early repayment of loans
or
renewals at maturity are not considered in this table.
| Table 12 Nonperforming Assets | ||||||||||||||||
|
As
of December 31,
|
||||||||||||||||
|
($
in thousands)
|
2006
|
2005
|
2004
|
2003
|
2002
|
|||||||||||
|
Nonaccrual
loans
|
$
|
6,852
|
1,640
|
3,707
|
4,274
|
2,976
|
||||||||||
|
Restructured
loans
|
10
|
13
|
17
|
21
|
41
|
|||||||||||
|
Accruing
loans >90 days past due
|
–
|
–
|
–
|
–
|
–
|
|||||||||||
|
Total
nonperforming loans
|
6,862
|
1,653
|
3,724
|
4,295
|
3,017
|
|||||||||||
|
Other
real estate (included in other assets)
|
1,539
|
1,421
|
1,470
|
1,398
|
1,384
|
|||||||||||
|
Total
nonperforming assets
|
$
|
8,401
|
3,074
|
5,194
|
5,693
|
4,401
|
||||||||||
|
Nonperforming
loans as a percentage of
total loans
|
0.39%
|
|
0.11%
|
|
0.27%
|
|
0.35%
|
|
0.30%
|
|
||||||
|
Nonperforming
assets as a percentage of loans
and other real estate
|
0.48%
|
|
0.21%
|
|
0.38%
|
|
0.47%
|
|
0.44%
|
|
||||||
|
Nonperforming
assets as a percentage of total
assets
|
0.39%
|
|
0.17%
|
|
0.32%
|
|
0.39%
|
|
0.36%
|
|
||||||
|
Allowance
for loan losses as a percentage of
nonperforming loans
|
276.11%
|
|
950.76%
|
|
395.19%
|
|
315.93%
|
|
361.52%
|
|
||||||
| Table 13 Allocation of the Allowance for Loan Losses | ||||||||||||||||
|
As
of December 31,
|
||||||||||||||||
|
($
in thousands)
|
2006
|
2005
|
2004
|
2003
|
2002
|
|||||||||||
|
Commercial,
financial, and agricultural
|
$
|
3,548
|
2,686
|
2,453
|
2,420
|
1,890
|
||||||||||
|
Real
estate - construction
|
1,182
|
798
|
757
|
641
|
483
|
|||||||||||
|
Real
estate - mortgage
|
12,186
|
10,445
|
9,965
|
8,920
|
7,416
|
|||||||||||
|
Installment
loans to individuals
|
2,026
|
1,763
|
1,468
|
1,435
|
1,094
|
|||||||||||
|
Total
allocated
|
18,942
|
15,692
|
14,643
|
13,416
|
10,883
|
|||||||||||
|
Unallocated
|
5
|
24
|
74
|
153
|
24
|
|||||||||||
|
Total
|
$
|
18,947
|
15,716
|
14,717
|
13,569
|
10,907
|
||||||||||
| Table 14 Loan Loss and Recovery Experience | ||||||||||||||||
|
As
of December 31,
|
||||||||||||||||
|
($
in thousands)
|
2006
|
2005
|
2004
|
2003
|
2002
|
|||||||||||
|
Loans
outstanding at end of year
|
$
|
1,740,396
|
1,482,611
|
1,367,053
|
1,218,895
|
998,547
|
||||||||||
|
Average
amount of loans outstanding
|
$
|
1,623,188
|
1,422,419
|
1,295,682
|
1,113,426
|
954,885
|
||||||||||
|
Allowance
for loan losses, at beginning
of year
|
$
|
15,716
|
14,717
|
13,569
|
10,907
|
9,388
|
||||||||||
|
Provision
for loan losses
|
4,923
|
3,040
|
2,905
|
2,680
|
2,545
|
|||||||||||
|
Additions
related to loans assumed in corporate
acquisitions
|
52
|
–
|
–
|
1,083
|
50
|
|||||||||||
|
20,691
|
17,757
|
16,474
|
14,670
|
11,983
|
||||||||||||
|
Loans
charged off:
|
||||||||||||||||
|
Commercial,
financial and agricultural
|
(486
|
)
|
(756
|
)
|
(247
|
)
|
(205
|
)
|
(598
|
)
|
||||||
|
Real
estate - mortgage
|
(510
|
)
|
(1,120
|
)
|
(1,143
|
)
|
(705
|
)
|
(230
|
)
|
||||||
|
Installment
loans to individuals
|
(838
|
)
|
(487
|
)
|
(548
|
)
|
(431
|
)
|
(383
|
)
|
||||||
|
Overdraft
losses (1)
|
(183
|
)
|
–
|
–
|
–
|
–
|
||||||||||
|
Total
charge-offs
|
(2,017
|
)
|
(2,363
|
)
|
(1,938
|
)
|
(1,341
|
)
|
(1,211
|
)
|
||||||
|
Recoveries
of loans previously charged-off:
|
||||||||||||||||
|
Commercial,
financial and agricultural
|
57
|
99
|
45
|
73
|
33
|
|||||||||||
|
Real
estate - mortgage
|
61
|
115
|
63
|
30
|
15
|
|||||||||||
|
Installment
loans to individuals
|
112
|
108
|
73
|
137
|
87
|
|||||||||||
|
Overdraft
recoveries (1)
|
43
|
–
|
–
|
–
|
–
|
|||||||||||
|
Total
recoveries
|
273
|
322
|
181
|
240
|
135
|
|||||||||||
|
Net
charge-offs
|
(1,744
|
)
|
(2,041
|
)
|
(1,757
|
)
|
(1,101
|
)
|
(1,076
|
)
|
||||||
|
Allowance
for loan losses, at end of year
|
$
|
18,947
|
15,716
|
14,717
|
13,569
|
10,907
|
||||||||||
|
Ratios:
|
||||||||||||||||
|
Net
charge-offs as a percent of average loans
|
0.11
|
%
|
0.14
|
%
|
0.14
|
%
|
0.10
|
%
|
0.11
|
%
|
||||||
|
Allowance
for loan losses as a percent
of loans at end of year
|
1.09
|
%
|
1.06
|
%
|
1.08
|
%
|
1.11
|
%
|
1.09
|
%
|
||||||
|
Allowance
for loan losses as a multiple of
net charge-offs
|
10.86
|
x |
7.70
|
x |
8.38
|
x |
12.32
|
x |
10.14
|
x | ||||||
|
Provision
for loan losses as a percent of net charge-offs
|
282.28
|
%
|
148.95
|
%
|
165.33
|
%
|
243.42
|
%
|
236.52
|
%
|
||||||
|
Recoveries
of loans previously charged-off as
a percent of loans charged-off
|
13.53
|
%
|
13.63
|
%
|
9.34
|
%
|
17.90
|
%
|
11.15
|
%
|
||||||
|
(1)
Until July 1, 2006, the Company recorded net overdraft charge-offs
as a
reduction to service charge income.
|
||||||||||||||||
| Table 15 Average Deposits | |||||||||||||||||||
|
Year
Ended December 31,
|
|||||||||||||||||||
|
2006
|
2005
|
2004
|
|||||||||||||||||
|
($
in thousands)
|
Average
Amount
|
Average
Rate
|
Average
Amount
|
Average
Rate
|
Average
Amount
|
Average
Rate
|
|||||||||||||
|
Interest-bearing
demand deposits - NOW & money market
|
$
|
371,639
|
1.52%
|
|
341,370
|
0.81%
|
|
338,831
|
0.47%
|
|
|||||||||
|
Savings
deposits
|
111,909
|
1.29%
|
|
129,278
|
1.00%
|
|
129,346
|
0.73%
|
|
||||||||||
|
Time
deposits
|
520,140
|
4.09%
|
|
455,557
|
2.86%
|
|
407,602
|
2.04%
|
|
||||||||||
|
Time
deposits > $100,000
|
390,246
|
4.53%
|
|
350,240
|
3.26%
|
|
271,448
|
2.34%
|
|
||||||||||
|
Total
interest-bearing deposits
|
1,393,934
|
3.30%
|
|
1,276,445
|
2.23%
|
|
1,147,227
|
1.50%
|
|
||||||||||
|
Noninterest-bearing
deposits
|
205,641
|
–
|
184,175
|
–
|
159,177
|
–
|
|||||||||||||
|
Total
deposits
|
$
|
1,599,575
|
2.88%
|
|
1,460,620
|
1.95%
|
|
1,306,404
|
1.32%
|
|
|||||||||
| Table 16 Maturities of Time Deposits of $100,000 or More | ||||||||||||||||
|
As
of December 31, 2006
|
||||||||||||||||
|
(In
thousands)
|
3
Months
or
Less
|
Over
3 to 6
Months
|
Over
6 to 12
Months
|
Over
12
Months
|
Total
|
|||||||||||
|
Time
deposits of $100,000 or more
|
$
|
124,452
|
101,229
|
149,836
|
47,255
|
422,772
|
||||||||||
| Table 17 Interest Rate Sensitivity Analysis | ||||||||||||||||
|
Repricing
schedule for interest-earning assets and interest-bearing
liabilities
held as of December 31, 2006
|
||||||||||||||||
|
($
in thousands)
|
3
Months
or
Less
|
Over
3 to 12
Months
|
Total
Within
12
Months
|
Over
12
Months
|
Total
|
|||||||||||
|
Earning
assets:
|
||||||||||||||||
|
Loans,
net of deferred fees (1)
|
$
|
842,255
|
141,622
|
983,877
|
756,519
|
1,740,396
|
||||||||||
|
Securities
available for sale
|
4,472
|
21,830
|
26,302
|
103,662
|
129,964
|
|||||||||||
|
Securities
held to maturity
|
616
|
1,271
|
1,887
|
11,235
|
13,122
|
|||||||||||
|
Short-term
investments
|
108,186
|
–
|
108,186
|
–
|
108,186
|
|||||||||||
|
Total
earning assets
|
$
|
955,529
|
164,723
|
1,120,252
|
871,416
|
1,991,668
|
||||||||||
|
Percent
of total earning assets
|
47.98
|
%
|
8.27
|
%
|
56.25
|
%
|
43.75
|
%
|
100.00
|
%
|
||||||
|
Cumulative
percent of total earning assets
|
47.98
|
%
|
56.25
|
%
|
56.25
|
%
|
100.00
|
%
|
100.00
|
%
|
||||||
|
Interest-bearing
liabilities:
|
||||||||||||||||
|
Savings,
NOW and money market deposits
|
$
|
502,775
|
–
|
502,775
|
–
|
502,775
|
||||||||||
|
Time
deposits of $100,000 or more
|
124,452
|
251,065
|
375,517
|
47,255
|
422,772
|
|||||||||||
|
Other
time deposits
|
145,261
|
333,163
|
478,424
|
74,417
|
552,841
|
|||||||||||
|
Securities
sold under agreements
to
repurchase
|
43,276
|
–
|
43,276
|
–
|
43,276
|
|||||||||||
|
Borrowings
|
204,013
|
–
|
204,013
|
6,000
|
210,013
|
|||||||||||
|
Total
interest-bearing liabilities
|
$
|
1,019,777
|
584,228
|
1,604,005
|
127,672
|
1,731,677
|
||||||||||
|
Percent
of total interest-bearing liabilities
|
58.89
|
%
|
33.74
|
%
|
92.63
|
%
|
7.37
|
%
|
100.00
|
%
|
||||||
|
Cumulative
percent of total interest-bearing
liabilities
|
58.89
|
%
|
92.63
|
%
|
92.63
|
%
|
100.00
|
%
|
100.00
|
%
|
||||||
|
Interest
sensitivity gap
|
$
|
(64,248
|
)
|
(419,505
|
)
|
(483,753
|
)
|
743,744
|
259,991
|
|||||||
|
Cumulative
interest sensitivity gap
|
(64,248
|
)
|
(483,753
|
)
|
(483,753
|
)
|
259,991
|
259,991
|
||||||||
|
Cumulative
interest sensitivity gap as
a percent of total earning assets
|
(3.23
|
%)
|
(24.29
|
%)
|
(24.29
|
%)
|
13.05
|
%
|
13.05
|
%
|
||||||
|
Cumulative
ratio of interest-sensitive assets
to interest-sensitive liabilities
|
93.70
|
%
|
69.84
|
%
|
69.84
|
%
|
115.01
|
%
|
115.01
|
%
|
||||||
|
(1)
The three months or less category for loans includes $142,348 in
adjustable rate loans that have reached their contractual rate
caps.
|
||||||||||||||||
| Table 18 Contractual Obligations and Other Commercial Commitments | ||||||||||||||||
|
Payments
Due by Period (in thousands)
|
||||||||||||||||
|
Contractual
Obligations
As
of December 31, 2006
|
Total
|
On
Demand or Less
than
1 Year
|
1-3
Years
|
4-5
Years
|
After
5 Years
|
|||||||||||
|
Securities
sold under agreements to
repurchase
|
$
|
43,276
|
43,276
|
–
|
–
|
–
|
||||||||||
|
Borrowings
|
210,013
|
137,000
|
6,000
|
–
|
67,013
|
|||||||||||
|
Operating
leases
|
2,717
|
494
|
787
|
488
|
948
|
|||||||||||
|
Total
contractual cash obligations, excluding deposits
|
256,006
|
180,770
|
6,787
|
488
|
67,961
|
|||||||||||
|
Deposits
|
1,695,679
|
1,574,007
|
84,668
|
36,777
|
227
|
|||||||||||
|
Total
contractual cash obligations, including deposits
|
$
|
1,951,685
|
1,754,777
|
91,455
|
37,265
|
68,188
|
||||||||||
|
Amount
of Commitment Expiration Per Period (in thousands)
|
||||||||||||||||
|
Other
Commercial
Commitments
As
of December 31, 2006
|
Total
Amounts
Committed
|
Less
than
1 Year
|
1-3
Years
|
4-5
Years
|
After
5 Years
|
|||||||||||
|
Credit
cards
|
$
|
21,005
|
10,503
|
10,502
|
–
|
–
|
||||||||||
|
Lines
of credit and loan commitments
|
300,126
|
147,565
|
20,084
|
8,250
|
124,227
|
|||||||||||
|
Standby
letters of credit
|
4,459
|
4,384
|
61
|
14
|
–
|
|||||||||||
|
Total
commercial commitments
|
$
|
325,590
|
162,452
|
30,647
|
8,264
|
124,227
|
||||||||||
| Table 19 Market Risk Sensitive Instruments | ||||||||||||||||||||||||||||
|
Expected
Maturities of Market Sensitive Instruments Held
at
December 31, 2006 Occurring in Indicated Year
|
||||||||||||||||||||||||||||
|
($
in thousands)
|
2007
|
2008
|
2009
|
2010
|
2011
|
Beyond
|
Total
|
Average
Interest Rate
|
Estimated
Fair
Value
|
|||||||||||||||||||
|
Due
from banks, interest-bearing
|
$
|
83,877
|
–
|
–
|
–
|
–
|
–
|
83,877
|
5.15%
|
|
$
|
83,877
|
||||||||||||||||
|
Federal
funds sold
|
19,543
|
–
|
–
|
–
|
–
|
–
|
19,543
|
5.15%
|
|
19,543
|
||||||||||||||||||
|
Presold
mortgages in process of settlement
|
4,766
|
–
|
–
|
–
|
–
|
–
|
4,766
|
6.00%
|
|
4,766
|
||||||||||||||||||
|
Debt
Securities- at amortized
cost (1) (2)
|
27,009
|
43,054
|
12,495
|
17,779
|
13,018
|
20,196
|
133,551
|
5.05%
|
|
132,646
|
||||||||||||||||||
|
Loans
- fixed (3) (4)
|
169,761
|
134,361
|
200,753
|
118,949
|
162,773
|
69,420
|
856,017
|
7.16%
|
|
844,049
|
||||||||||||||||||
|
Loans
- adjustable (3) (4)
|
310,913
|
134,429
|
117,699
|
103,103
|
74,499
|
136,884
|
877,527
|
7.91%
|
|
874,864
|
||||||||||||||||||
|
Total
|
$
|
615,869
|
311,844
|
330,947
|
239,831
|
250,290
|
226,500
|
1,975,281
|
7.24%
|
|
$
|
1,959,745
|
||||||||||||||||
|
Savings,
NOW, and money market deposits
|
$
|
502,775
|
–
|
–
|
–
|
–
|
–
|
502,775
|
1.71%
|
|
$
|
502,775
|
||||||||||||||||
|
Time
deposits
|
853,941
|
58,546
|
26,122
|
23,597
|
13,180
|
227
|
975,613
|
4.69%
|
|
975,304
|
||||||||||||||||||
|
Securities
sold under agreements to repurchase
|
43,276
|
–
|
–
|
–
|
–
|
–
|
43,276
|
3.78%
|
|
43,276
|
||||||||||||||||||
|
Borrowings
- fixed (2)
|
2,000
|
1,000
|
5,000
|
–
|
–
|
–
|
8,000
|
4.70%
|
|
8,003
|
||||||||||||||||||
|
Borrowings
- adjustable
|
135,000
|
–
|
–
|
–
|
–
|
67,013
|
202,013
|
6.26%
|
|
202,423
|
||||||||||||||||||
|
Total
|
$
|
1,536,992
|
59,546
|
31,122
|
23,597
|
13,180
|
67,240
|
1,731,677
|
4.48%
|
|
$
|
1,731,781
|
||||||||||||||||
|
(1)
Tax-exempt securities are reflected at a tax-equivalent basis using
a 39%
tax rate.
|
||||||||||||||||||||||||||||
|
(2)
Securities and borrowings with call dates within 12 months of December
31,
2006 that have above market interest rates are assumed to mature
at their
call date for purposes of this table. Mortgage securities are assumed
to
mature in the period of their expected repayment based on estimated
prepayment speeds.
|
||||||||||||||||||||||||||||
|
(3)
Excludes nonaccrual loans.
|
||||||||||||||||||||||||||||
|
(4)
Loans are shown in the period of their contractual maturity, except
for
home equity lines of credit loans which are assumed to repay on a
straight-line basis over five
years.
|
||||||||||||||||||||||||||||
| Table 20 Return on Assets and Equity | ||||||||||
|
For
the Year Ended December 31,
|
||||||||||
|
2006
|
2005
|
2004
|
||||||||
|
Return
on assets
|
1.00%
|
|
0.94%
|
|
1.30
|
%
|
||||
|
Return
on equity
|
11.83%
|
|
10.39%
|
|
13.71
|
%
|
||||
|
Dividend
payout ratio
|
54.81%
|
|
61.40%
|
|
46.48
|
%
|
||||
|
Average
shareholders’ equity to average assets
|
8.49%
|
|
9.06%
|
|
9.49
|
%
|
||||
| Table 21 Risk-Based and Leverage Capital Ratios | ||||||||||
|
As
of December 31,
|
||||||||||
|
($
in thousands)
|
2006
|
2005
|
2004
|
|||||||
|
|
||||||||||
|
Risk-Based
and Leverage Capital
|
||||||||||
|
Tier
I capital:
|
||||||||||
|
Common
shareholders’ equity
|
$
|
162,705
|
155,728
|
148,478
|
||||||
|
Trust
preferred securities eligible for Tier I capital treatment
|
54,235
|
40,000
|
40,000
|
|||||||
|
Intangible
assets
|
(51,394
|
)
|
(49,227
|
)
|
(49,330
|
)
|
||||
|
Accumulated
other comprehensive income adjustments
|
4,550
|
639
|
(723
|
) | ||||||
|
Total
Tier I leverage capital
|
170,096
|
147,140
|
138,425
|
|||||||
|
Tier
II capital:
|
||||||||||
|
Remaining
trust preferred securities
|
10,765
|
-
|
-
|
|||||||
|
Allowable
allowance for loan losses
|
18,947
|
15,716
|
14,717
|
|||||||
|
Tier
II capital additions
|
29,712
|
15,716
|
14,717
|
|||||||
|
Total
risk-based capital
|
$
|
199,808
|
162,856
|
153,142
|
||||||
|
Total
risk weighted assets
|
$
|
1,691,666
|
1,402,555
|
1,267,590
|
||||||
|
Adjusted
fourth quarter average assets
|
1,979,333
|
1,711,029
|
1,560,472
|
|||||||
|
Risk-based
capital ratios:
|
||||||||||
|
Tier
I capital to Tier I risk adjusted assets
|
10.05
|
%
|
10.49
|
%
|
10.92
|
%
|
||||
|
Minimum
required Tier I capital
|
4.00
|
%
|
4.00
|
%
|
4.00
|
%
|
||||
|
Total
risk-based capital to Tier
II risk-adjusted assets
|
11.81
|
%
|
11.61
|
%
|
12.08
|
%
|
||||
|
Minimum
required total risk-based capital
|
8.00
|
%
|
8.00
|
%
|
8.00
|
%
|
||||
|
Leverage
capital ratios:
|
||||||||||
|
Tier
I leverage capital to adjusted
fourth quarter average assets
|
8.59
|
%
|
8.60
|
%
|
8.86
|
%
|
||||
|
Minimum
required Tier I leverage capital
|
4.00
|
%
|
4.00
|
%
|
4.00
|
%
|
||||
| Table 22 Quarterly Financial Summary | |||||||||||||||||||||||||
|
2006
|
2005
|
||||||||||||||||||||||||
|
($
in thousands except
per
share data)
|
Fourth
Quarter
|
Third
Quarter
|
Second
Quarter
|
First
Quarter
|
Fourth
Qtr
(1)
|
Third
Qtr
(1)
|
Second
Quarter
|
First
Quarter
|
|||||||||||||||||
|
Income
Statement Data
|
|||||||||||||||||||||||||
|
Interest
income, taxable equivalent
|
$
|
35,387
|
34,040
|
31,440
|
28,841
|
27,853
|
26,178
|
24,818
|
23,028
|
||||||||||||||||
|
Interest
expense
|
16,072
|
14,866
|
12,871
|
10,862
|
9,793
|
8,715
|
7,700
|
6,630
|
|||||||||||||||||
|
Net
interest income, taxable
equivalent
|
19,315
|
19,174
|
18,569
|
17,979
|
18,060
|
17,463
|
17,118
|
16,398
|
|||||||||||||||||
|
Taxable
equivalent, adjustment
|
117
|
133
|
125
|
126
|
113
|
111
|
111
|
113
|
|||||||||||||||||
|
Net
interest income
|
19,198
|
19,041
|
18,444
|
17,853
|
17,947
|
17,352
|
17,007
|
16,285
|
|||||||||||||||||
|
Provision
for loan losses
|
1,293
|
1,215
|
1,400
|
1,015
|
925
|
690
|
845
|
580
|
|||||||||||||||||
|
Net
interest income after provision for losses
|
17,905
|
17,826
|
17,044
|
16,838
|
17,022
|
16,662
|
16,162
|
15,705
|
|||||||||||||||||
|
Noninterest
income
|
4,058
|
2,454
|
3,844
|
3,954
|
3,803
|
3,779
|
3,712
|
3,710
|
|||||||||||||||||
|
Noninterest
expense
|
13,870
|
13,535
|
13,064
|
12,729
|
12,175
|
11,486
|
12,260
|
11,715
|
|||||||||||||||||
|
Income
before income taxes
|
8,093
|
6,745
|
7,824
|
8,063
|
8,650
|
8,955
|
7,614
|
7,700
|
|||||||||||||||||
|
Income
taxes
|
2,949
|
2,373
|
3,029
|
3,072
|
1,237
|
9,646
|
2,962
|
2,984
|
|||||||||||||||||
|
Net
income
|
5,144
|
4,372
|
4,795
|
4,991
|
7,413
|
(691
|
)
|
4,652
|
4,716
|
||||||||||||||||
|
Per
Share Data
|
|||||||||||||||||||||||||
|
Earnings
per share - basic
|
$
|
0.36
|
0.31
|
0.34
|
0.35
|
0.52
|
(0.05
|
)
|
0.33
|
0.33
|
|||||||||||||||
|
Earnings
per share - diluted
|
0.36
|
0.30
|
0.33
|
0.35
|
0.52
|
(0.05
|
)
|
0.32
|
0.33
|
||||||||||||||||
|
Cash
dividends declared
|
0.19
|
0.19
|
0.18
|
0.18
|
0.18
|
0.18
|
0.17
|
0.17
|
|||||||||||||||||
|
Market
Price
|
|||||||||||||||||||||||||
|
High
|
$
|
23.43
|
21.84
|
22.85
|
23.90
|
22.89
|
22.54
|
23.16
|
27.88
|
||||||||||||||||
|
Low
|
20.30
|
19.47
|
19.59
|
20.00
|
19.32
|
19.66
|
19.62
|
21.43
|
|||||||||||||||||
|
Close
|
21.84
|
20.38
|
21.00
|
22.38
|
20.16
|
20.04
|
22.13
|
22.64
|
|||||||||||||||||
|
Book
value
|
11.34
|
11.40
|
11.20
|
11.12
|
10.94
|
10.63
|
10.88
|
10.66
|
|||||||||||||||||
|
Tangible
book value
|
7.76
|
7.78
|
7.76
|
7.69
|
7.48
|
7.16
|
7.40
|
7.17
|
|||||||||||||||||
|
Selected
Average Balances
|
|||||||||||||||||||||||||
|
Assets
|
$
|
2,030,366
|
1,970,128
|
1,886,234
|
1,803,312
|
1,759,279
|
1,720,505
|
1,707,112
|
1,650,624
|
||||||||||||||||
|
Loans
|
1,713,803
|
1,669,423
|
1,593,070
|
1,516,456
|
1,463,468
|
1,433,874
|
1,409,118
|
1,383,216
|
|||||||||||||||||
|
Earning
assets
|
1,893,969
|
1,844,560
|
1,764,227
|
1,682,535
|
1,639,823
|
1,604,383
|
1,592,845
|
1,537,165
|
|||||||||||||||||
|
Deposits
|
1,679,747
|
1,623,605
|
1,569,781
|
1,525,167
|
1,493,683
|
1,467,183
|
1,466,893
|
1,414,721
|
|||||||||||||||||
|
Interest-bearing
liabilities
|
1,632,107
|
1,583,827
|
1,501,670
|
1,431,936
|
1,392,921
|
1,365,959
|
1,361,365
|
1,318,731
|
|||||||||||||||||
|
Shareholders’
equity
|
167,276
|
164,590
|
162,526
|
158,380
|
154,562
|
158,220
|
154,540
|
152,162
|
|||||||||||||||||
|
Ratios
(2)
|
|||||||||||||||||||||||||
|
Return
on average assets
|
1.01
|
%
|
0.88
|
%
|
1.02
|
%
|
1.12
|
%
|
1.67
|
%
|
(0.16
|
%)
|
1.09
|
%
|
1.16
|
%
|
|||||||||
|
Return
on average equity
|
12.20
|
%
|
10.54
|
%
|
11.83
|
%
|
12.78
|
%
|
19.03
|
%
|
(1.73
|
%)
|
12.07
|
%
|
12.57
|
%
|
|||||||||
|
Equity
to assets at end
of period
|
7.62
|
%
|
7.85
|
%
|
8.03
|
%
|
8.33
|
%
|
8.65
|
%
|
8.59
|
%
|
8.87
|
%
|
8.94
|
%
|
|||||||||
|
Tangible
equity to tangible assets at end of period
|
5.34
|
%
|
5.50
|
%
|
5.70
|
%
|
5.91
|
%
|
6.08
|
%
|
5.95
|
%
|
6.21
|
%
|
6.19
|
%
|
|||||||||
|
Average
loans to average deposits
|
102.03
|
%
|
102.82
|
%
|
101.48
|
%
|
99.43
|
%
|
97.98
|
%
|
97.73
|
%
|
96.06
|
%
|
97.77
|
%
|
|||||||||
|
Average
earning assets to interest-bearing
liabilities
|
116.04
|
%
|
116.46
|
%
|
117.48
|
%
|
117.50
|
%
|
117.73
|
%
|
117.45
|
%
|
117.00
|
%
|
116.56
|
%
|
|||||||||
|
Net
interest margin
|
4.05
|
%
|
4.12
|
%
|
4.22
|
%
|
4.33
|
%
|
4.37
|
%
|
4.32
|
%
|
4.31
|
%
|
4.33
|
%
|
|||||||||
|
Allowance
for loan losses to
gross loans
|
1.09
|
%
|
1.09
|
%
|
1.08
|
%
|
1.07
|
%
|
1.06
|
%
|
1.10
|
%
|
1.10
|
%
|
1.08
|
%
|
|||||||||
|
Nonperforming
loans as a percent
of total loans
|
0.39
|
%
|
0.31
|
%
|
0.24
|
%
|
0.21
|
%
|
0.11
|
%
|
0.23
|
%
|
0.27
|
%
|
0.31
|
%
|
|||||||||
|
Nonperforming
assets as a percent
of total assets
|
0.39
|
%
|
0.34
|
%
|
0.30
|
%
|
0.25
|
%
|
0.17
|
%
|
0.31
|
%
|
0.36
|
%
|
0.40
|
%
|
|||||||||
|
Net
charge-offs as a percent of
average loans
|
0.19
|
%
|
0.11
|
%
|
0.09
|
%
|
0.03
|
%
|
0.29
|
%
|
0.12
|
%
|
0.08
|
%
|
0.07
|
%
|
|||||||||
(1)
The
third-quarter of 2005 includes a contingency tax loss accrual of $6,320,000,
or
$0.44 per diluted share. The fourth quarter of 2005 includes a reversal of
$1,982,000, or $0.14 per diluted share, related to this same accrual (which
increased net income) that was recorded because the Company lowered its original
estimate of this loss.
(2)
Annualized
where applicable.
Item
8. Financial Statements and
Supplementary Data
First
Bancorp and Subsidiaries
Consolidated
Balance Sheets
December
31, 2006 and 2005
|
($
in thousands)
|
2006
|
2005
|
|||||
|
ASSETS
|
|||||||
|
Cash
and due from banks, noninterest-bearing
|
$
|
43,248
|
32,985
|
||||
|
Due
from banks, interest-bearing
|
83,877
|
41,655
|
|||||
|
Federal
funds sold
|
19,543
|
28,883
|
|||||
|
Total
cash and cash equivalents
|
146,668
|
103,523
|
|||||
|
Securities
available for sale (costs of
|
|||||||
|
$130,824
in 2006 and $114,662 in 2005)
|
129,964
|
113,613
|
|||||
|
Securities
held to maturity (fair values of
|
|||||||
|
$13,168
in 2006 and $11,597 in 2005)
|
13,122
|
11,448
|
|||||
|
Presold
mortgages in process of settlement
|
4,766
|
3,347
|
|||||
|
Loans
|
1,740,396
|
1,482,611
|
|||||
|
Less:
Allowance for loan losses
|
(18,947
|
)
|
(15,716
|
)
|
|||
|
Net
loans
|
1,721,449
|
1,466,895
|
|||||
|
Premises
and equipment
|
43,540
|
34,840
|
|||||
|
Accrued
interest receivable
|
12,158
|
8,947
|
|||||
|
Goodwill
|
49,505
|
47,247
|
|||||
|
Other
intangible assets
|
1,889
|
1,980
|
|||||
|
Other
assets
|
13,563
|
9,210
|
|||||
|
Total
assets
|
$
|
2,136,624
|
1,801,050
|
||||
|
LIABILITIES
|
|||||||
|
Deposits: Demand
- noninterest-bearing
|
$
|
217,291
|
194,051
|
||||
|
Savings,
NOW, and money market
|
502,775
|
458,221
|
|||||
|
Time
deposits of $100,000 or more
|
422,772
|
356,281
|
|||||
|
Other
time deposits
|
552,841
|
486,024
|
|||||
|
Total
deposits
|
1,695,679
|
1,494,577
|
|||||
|
Securities
sold under agreements to repurchase
|
43,276
|
33,530
|
|||||
|
Borrowings
|
210,013
|
100,239
|
|||||
|
Accrued
interest payable
|
5,649
|
3,835
|
|||||
|
Other
liabilities
|
19,302
|
13,141
|
|||||
|
Total
liabilities
|
1,973,919
|
1,645,322
|
|||||
|
SHAREHOLDERS’
EQUITY
|
|||||||
|
Common
stock, No par value per share
|
|||||||
|
Authorized:
20,000,000 shares
|
|||||||
|
Issued
and outstanding: 14,352,884 shares in 2006 and
14,229,148
shares in 2005
|
56,035
|
54,121
|
|||||
|
Retained
earnings
|
111,220
|
102,507
|
|||||
|
Accumulated
other comprehensive income (loss)
|
(4,550
|
)
|
(900
|
)
|
|||
|
Total
shareholders’ equity
|
162,705
|
155,728
|
|||||
|
Total
liabilities and shareholders’ equity
|
$
|
2,136,624
|
1,801,050
|
||||
See
accompanying notes to consolidated financial statements.
First
Bancorp and Subsidiaries
Consolidated
Statements of Income
Years
Ended December 31, 2006, 2005 and 2004
|
($
in thousands, except per share data)
|
2006
|
2005
|
2004
|
|||||||
|
INTEREST
INCOME
|
||||||||||
|
Interest
and fees on loans
|
$
|
120,694
|
94,097
|
76,093
|
||||||
|
Interest
on investment securities:
|
||||||||||
|
Taxable
interest income
|
5,718
|
5,184
|
4,428
|
|||||||
|
Tax-exempt
interest income
|
513
|
476
|
528
|
|||||||
|
Other,
principally overnight investments
|
2,282
|
1,672
|
544
|
|||||||
|
Total
interest income
|
129,207
|
101,429
|
81,593
|
|||||||
|
INTEREST
EXPENSE
|
||||||||||
|
Savings,
NOW and money market
|
7,094
|
4,048
|
2,530
|
|||||||
|
Time
deposits of $100,000 or more
|
17,662
|
11,425
|
6,362
|
|||||||
|
Other
time deposits
|
21,276
|
13,043
|
8,334
|
|||||||
|
Securities
sold under agreements to repurchase
|
1,116
|
179
|
–
|
|||||||
|
Borrowings
|
7,523
|
4,143
|
3,077
|
|||||||
|
Total
interest expense
|
54,671
|
32,838
|
20,303
|
|||||||
|
Net
interest income
|
74,536
|
68,591
|
61,290
|
|||||||
|
Provision
for loan losses
|
4,923
|
3,040
|
2,905
|
|||||||
|
Net
interest income after provision for loan losses
|
69,613
|
65,551
|
58,385
|
|||||||
|
NONINTEREST
INCOME
|
||||||||||
|
Service
charges on deposit accounts
|
8,968
|
8,537
|
9,064
|
|||||||
|
Other
service charges, commissions and fees
|
4,578
|
3,963
|
3,361
|
|||||||
|
Fees
from presold mortgage loans
|
1,062
|
1,176
|
969
|
|||||||
|
Commissions
from sales of insurance and financial products
|
1,434
|
1,307
|
1,406
|
|||||||
|
Data
processing fees
|
162
|
279
|
416
|
|||||||
|
Securities
gains
|
205
|
5
|
299
|
|||||||
|
Merchant
credit card loss
|
(1,900
|
)
|
–
|
–
|
||||||
|
Other
gains (losses)
|
(199
|
)
|
(263
|
)
|
349
|
|||||
|
Total
noninterest income
|
14,310
|
15,004
|
15,864
|
|||||||
|
NONINTEREST
EXPENSES
|
||||||||||
|
Salaries
|
23,867
|
21,921
|
20,116
|
|||||||
|
Employee
benefits
|
6,811
|
6,054
|
5,488
|
|||||||
|
Total
personnel expense
|
30,678
|
27,975
|
25,604
|
|||||||
|
Occupancy
expense
|
3,447
|
3,037
|
2,754
|
|||||||
|
Equipment
related expenses
|
3,419
|
2,965
|
2,956
|
|||||||
|
Intangibles
amortization
|
322
|
290
|
378
|
|||||||
|
Other
operating expenses
|
15,332
|
13,369
|
12,025
|
|||||||
|
Total
noninterest expenses
|
53,198
|
47,636
|
43,717
|
|||||||
|
Income
before income taxes
|
30,725
|
32,919
|
30,532
|
|||||||
|
Income
taxes
|
11,423
|
16,829
|
10,418
|
|||||||
|
NET
INCOME
|
$
|
19,302
|
16,090
|
20,114
|
||||||
|
Earnings
per share:
|
||||||||||
|
Basic
|
$
|
1.35
|
1.14
|
1.42
|
||||||
|
Diluted
|
1.34
|
1.12
|
1.40
|
|||||||
|
Weighted
average common shares outstanding:
|
||||||||||
|
Basic
|
14,294,753
|
14,165,992
|
14,138,513
|
|||||||
|
Diluted
|
14,435,252
|
14,360,032
|
14,395,152
|
|||||||
See
accompanying notes to consolidated financial statements.
First
Bancorp and Subsidiaries
Consolidated
Statements of Comprehensive Income
Years
Ended December 31, 2006, 2005 and 2004
|
($
in thousands)
|
2006
|
2005
|
2004
|
|||||||
|
Net
income
|
$
|
19,302
|
16,090
|
20,114
|
||||||
|
Other
comprehensive income (loss):
|
||||||||||
|
Unrealized
gains/losses on securities available
for sale:
|
||||||||||
|
Unrealized
holding gains (losses) arising during
the period, pretax
|
394
|
(2,229
|
)
|
(383
|
)
|
|||||
|
Tax
benefit (expense)
|
(154
|
)
|
870
|
148
|
||||||
|
Reclassification
to realized gains
|
(205
|
)
|
(5
|
)
|
(299
|
)
|
||||
|
Tax
expense
|
80
|
2
|
117
|
|||||||
|
Adjustment
for pension liability:
|
||||||||||
|
Pension
benefit (charge) related to unfunded pension liability
|
16
|
(90
|
)
|
(46
|
)
|
|||||
|
Tax
benefit (expense)
|
(6
|
)
|
35
|
18
|
||||||
|
Other
comprehensive income (loss)
|
125
|
(1,417
|
)
|
(445
|
)
|
|||||
|
Comprehensive
income
|
$
|
19,427
|
14,673
|
19,669
|
||||||
See accompanying
notes to consolidated financial statements.
First
Bancorp and Subsidiaries
Consolidated
Statements of Shareholders’ Equity
Years
Ended December 31, 2006, 2005 and 2004
|
Common
Stock
|
Retained
|
Accumulated
Other
Comprehensive
|
Total
Share-
holders’
|
|||||||||||||
|
(In
thousands, except share data)
|
Shares
|
Amount
|
Earnings
|
Income
(Loss)
|
Equity
|
|||||||||||
|
Balances,
January 1, 2004
|
14,153
|
$
|
55,392
|
85,502
|
962
|
141,856
|
||||||||||
|
Net
income
|
20,114
|
20,114
|
||||||||||||||
|
Cash
dividends declared ($0.66 per share)
|
(9,269
|
)
|
(9,269
|
)
|
||||||||||||
|
Common
stock issued under stock
option plans
|
165
|
1,081
|
1,081
|
|||||||||||||
|
Common
stock issued into dividend
reinvestment plan
|
67
|
1,466
|
1,466
|
|||||||||||||
|
Tax
benefit realized from exercise of nonqualified
stock options
|
–
|
203
|
203
|
|||||||||||||
|
Purchases
and retirement of common stock
|
(301
|
)
|
(6,528
|
)
|
(6,528
|
)
|
||||||||||
|
Other
comprehensive loss
|
(445
|
)
|
(445
|
)
|
||||||||||||
|
Balances,
December 31, 2004
|
14,084
|
51,614
|
96,347
|
517
|
148,478
|
|||||||||||
|
Net
income
|
16,090
|
16,090
|
||||||||||||||
|
Cash
dividends declared ($0.70 per share)
|
(9,930
|
)
|
(9,930
|
)
|
||||||||||||
|
Common
stock issued under stock
option plans
|
71
|
785
|
785
|
|||||||||||||
|
Common
stock issued into dividend
reinvestment plan
|
74
|
1,604
|
1,604
|
|||||||||||||
|
Tax
benefit realized from exercise of nonqualified
stock options
|
–
|
118
|
118
|
|||||||||||||
|
Other
comprehensive loss
|
(1,417
|
)
|
(1,417
|
)
|
||||||||||||
|
Balances,
December 31, 2005
|
14,229
|
54,121
|
102,507
|
(900
|
)
|
155,728
|
||||||||||
|
Net
income
|
19,302
|
19,302
|
||||||||||||||
|
Cash
dividends declared ($0.74 per share)
|
(10,589
|
)
|
(10,589
|
)
|
||||||||||||
|
Common
stock issued under stock
option plans
|
105
|
1,027
|
1,027
|
|||||||||||||
|
Common
stock issued into dividend
reinvestment plan
|
72
|
1,557
|
1,557
|
|||||||||||||
|
Purchases
and retirement of common stock
|
(53
|
)
|
(1,112
|
)
|
(1,112
|
)
|
||||||||||
|
Tax
benefit realized from exercise of nonqualified
stock options
|
–
|
117
|
117
|
|||||||||||||
|
Stock-based
compensation
|
–
|
325
|
325
|
|||||||||||||
|
Other
comprehensive income
|
125
|
125
|
||||||||||||||
|
Adoption
of SFAS No. 158
|
(3,775
|
)
|
(3,775
|
)
|
||||||||||||
|
Balances,
December 31, 2006
|
14,353
|
$
|
56,035
|
111,220
|
(4,550
|
)
|
162,705
|
|||||||||
See
accompanying notes to consolidated financial statements.
First
Bancorp and Subsidiaries
Consolidated
Statements of Cash Flows
Years
Ended December 31, 2006, 2005 and 2004
|
($
in thousands)
|
2006
|
2005
|
2004
|
|||||||
|
Cash
Flows From Operating Activities
|
||||||||||
|
Net
income
|
$
|
19,302
|
16,090
|
20,114
|
||||||
|
Reconciliation
of net income to net cash provided by operating
activities:
|
||||||||||
|
Provision
for loan losses
|
4,923
|
3,040
|
2,905
|
|||||||
|
Net
security premium amortization
|
86
|
120
|
152
|
|||||||
|
Gains
on sales of securities available for sale
|
(205
|
)
|
(5
|
)
|
(299
|
)
|
||||
|
Other
losses (gains)
|
281
|
263
|
(349
|
)
|
||||||
|
Loan
fees and costs deferred, net of amortization
|
157
|
(397
|
)
|
(390
|
)
|
|||||
|
Depreciation
of premises and equipment
|
2,873
|
2,675
|
2,553
|
|||||||
|
Tax
benefit realized from exercise of nonqualified stock
options
|
–
|
118
|
203
|
|||||||
|
Stock-based
compensation expense
|
325
|
–
|
–
|
|||||||
|
Amortization
of intangible assets
|
322
|
290
|
378
|
|||||||
|
Deferred
income tax benefit
|
(1,341
|
)
|
(156
|
)
|
(217
|
)
|
||||
|
Increase
in presold mortgages in process of settlement
|
(1,419
|
)
|
(1,576
|
)
|
(464
|
)
|
||||
|
Increase
in accrued interest receivable
|
(3,176
|
)
|
(2,115
|
)
|
(745
|
)
|
||||
|
Decrease
in other assets
|
1,420
|
3,447
|
2,331
|
|||||||
|
Increase
in accrued interest payable
|
1,736
|
1,158
|
539
|
|||||||
|
Increase
(decrease) in other liabilities
|
(226
|
)
|
5,945
|
1,175
|
||||||
|
Net
cash provided by operating activities
|
25,058
|
28,897
|
27,886
|
|||||||
|
Cash
Flows From Investing Activities
|
||||||||||
|
Proceeds
from sales of loans
|
–
|
276
|
49
|
|||||||
|
Purchases
of securities available for sale
|
(62,067
|
)
|
(54,130
|
)
|
(30,354
|
)
|
||||
|
Purchases
of securities held to maturity
|
(5,052
|
)
|
(1,514
|
)
|
(707
|
)
|
||||
|
Proceeds
from sales of securities available for sale
|
1,575
|
17
|
12,060
|
|||||||
|
Proceeds
from maturities/issuer calls of securities available for
sale
|
44,471
|
26,710
|
32,673
|
|||||||
|
Proceeds
from maturities/issuer calls of securities held to
maturity
|
3,355
|
1,176
|
2,033
|
|||||||
|
Net
increase in loans
|
(255,958
|
)
|
(120,065
|
)
|
(151,103
|
)
|
||||
|
Purchases
of premises and equipment
|
(10,867
|
)
|
(7,212
|
)
|
(7,335
|
)
|
||||
|
Net
cash received in purchase of branches
|
34,819
|
–
|
–
|
|||||||
|
Net
cash used by investing activities
|
(249,724
|
)
|
(154,742
|
)
|
(142,684
|
)
|
||||
|
Cash
Flows From Financing Activities
|
||||||||||
|
Net
increase in deposits and repurchase agreements
|
166,871
|
139,339
|
139,404
|
|||||||
|
Proceeds
from borrowings, net
|
109,774
|
8,000
|
15,000
|
|||||||
|
Cash
dividends paid
|
(10,423
|
)
|
(9,761
|
)
|
(9,138
|
)
|
||||
|
Proceeds
from issuance of common stock
|
2,584
|
2,389
|
2,547
|
|||||||
|
Purchases
and retirement of common stock
|
(1,112
|
)
|
–
|
(6,528
|
)
|
|||||
|
Tax
benefit from exercise of nonqualified stock options
|
117
|
–
|
–
|
|||||||
|
Net
cash provided by financing activities
|
267,811
|
139,967
|
141,285
|
|||||||
|
Increase
in Cash and Cash Equivalents
|
43,145
|
14,122
|
26,487
|
|||||||
|
Cash
and Cash Equivalents, Beginning of Year
|
103,523
|
89,401
|
62,914
|
|||||||
|
Cash
and Cash Equivalents, End of Year
|
$
|
146,668
|
103,523
|
89,401
|
||||||
|
Supplemental
Disclosures of Cash Flow Information:
|
||||||||||
|
Cash
paid during the period for:
|
||||||||||
|
Interest
|
$
|
52,857
|
31,680
|
19,764
|
||||||
|
Income
taxes
|
13,993
|
11,925
|
9,738
|
|||||||
|
Non-cash
investing and financing transactions:
|
||||||||||
|
Foreclosed
loans transferred to other real estate
|
2,021
|
2,596
|
1,531
|
|||||||
|
Additions
to held to maturity securities and borrowings related to deconsolidation
of subsidiary trusts
|
–
|
–
|
1,239
|
|||||||
|
Unrealized
gain (loss) on securities available for sale, net of taxes
|
115
|
(1,362
|
)
|
(417
|
)
|
|||||
|
Other
real estate transferred to premises and equipment
|
–
|
–
|
180
|
|||||||
See
accompanying notes to consolidated financial statements.
First
Bancorp and Subsidiaries
Notes
to Consolidated Financial Statements
December
31, 2006
Note
1. Summary of Significant Accounting Policies
(a) Basis
of Presentation -
The
consolidated financial statements include the accounts of First Bancorp (the
Company) and its wholly owned subsidiaries: First Bank (the Bank); Montgomery
Data Services, Inc. (Montgomery Data); and First Bancorp Financial Services,
Inc. (First Bancorp Financial). The Bank has one wholly owned subsidiary: First
Bank Insurance Services, Inc. (First Bank Insurance). All significant
intercompany accounts and transactions have been eliminated.
The
Company is a bank holding company. The principal activity of the Company is
the
ownership and operation of First Bank, a state chartered bank with its main
office in Troy, North Carolina. Other subsidiaries include Montgomery Data,
a
data processing company whose primary client is First Bank, and First Bancorp
Financial, a real estate investment subsidiary, both of which are headquartered
in Troy. The Company is also the parent company for four statutory trusts that
were formed in 2002, 2003, and 2006 for the purpose of issuing a total of $67
million in debt securities. These securities qualify as capital for regulatory
capital adequacy requirements. First Bank Insurance is a provider of non-FDIC
insured investment and insurance products.
The
preparation of financial statements in conformity with accounting principles
generally accepted in the United States of America requires management to make
estimates and assumptions that affect the reported amounts of assets and
liabilities and disclosure of contingent liabilities at the date of the
financial statements and the reported amounts of revenues and expenses during
the reporting period. Actual results could differ from those estimates. The
most
significant estimates made by the Company in the preparation of its consolidated
financial statements are the determination of the allowance for loan losses,
the
valuation of other real estate, and fair value estimates for financial
instruments.
(b)
Cash and Cash Equivalents -
The
Company considers all highly liquid assets such as cash on hand,
noninterest-bearing and interest-bearing amounts due from banks and federal
funds sold to be “cash equivalents.”
(c)
Securities -
Debt
securities that the Company has the positive intent and ability to hold to
maturity are classified as “held to maturity” and carried at amortized cost.
Securities not classified as held to maturity are classified as “available for
sale” and carried at fair value, with unrealized gains and losses being reported
as other comprehensive income and reported as a separate component of
shareholders’ equity.
A
decline
in the market value of any available for sale or held to maturity security
below
cost that is deemed to be other than temporary results in a reduction in
carrying amount to fair value. The impairment is charged to earnings and a
new
cost basis for the security is established. Any equity security that is in
an
unrealized loss position for twelve consecutive months is presumed to be
permanently impaired and an impairment charge is recorded unless the amount
of
the charge is insignificant.
Gains
and
losses on sales of securities are recognized at the time of sale based upon
the
specific identification method. Premiums and discounts are amortized into income
on a level yield basis, with premiums being amortized to the earliest call
date
and discounts being accreted to the stated maturity date.
(d)
Premises and Equipment -
Premises
and equipment are stated at cost less accumulated depreciation. Depreciation,
computed by the straight-line method, is charged to operations over the
estimated useful lives of the properties, which range from 2 to 40 years or,
in
the case of leasehold improvements, over the term of the lease, if shorter.
Maintenance and repairs are charged to operations in the year incurred. Gains
and losses on dispositions are included in current operations.
(e)
Loans - Loans
are
stated at the principal amount outstanding, less unearned income and deferred
nonrefundable loan fees, net of certain origination costs. Interest on loans
is
accrued on the unpaid principal balance outstanding. Net deferred loan
origination costs/fees are capitalized and recognized as a yield adjustment
over
the life of the related loan. Unearned income for each of the reporting periods
was immaterial.
A
loan is
placed on nonaccrual status when, in management’s judgment, the collection of
interest appears doubtful. The accrual of interest is discontinued on all loans
that become 90 days or more past due with respect to principal or interest.
The
past due status of loans is based on the contractual payment terms. While a
loan
is on nonaccrual status, the Company’s policy is that all cash receipts are
applied to principal. Once the recorded principal balance has been reduced
to
zero, future cash receipts are applied to recoveries of any amounts previously
charged off. Further cash receipts are recorded as interest income to the extent
that any interest has been foregone. Loans are removed from nonaccrual status
when they become current as to both principal and interest and when concern
no
longer exists as to the collectibility of principal or interest. In some cases,
where borrowers are experiencing financial difficulties, loans may be
restructured to provide terms significantly different from the originally
contracted terms.
Commercial
loans greater than $100,000 that are on nonaccrual status are evaluated
regularly for impairment. A loan is considered to be impaired when, based on
current information and events, it is probable the Company will be unable to
collect all amounts due according to the contractual terms of the loan
agreement. Impaired loans are measured using either 1) an estimate of the cash
flows that the Company expects to receive from the borrower discounted at the
loan’s effective rate, or 2) in the case of a collateral-dependent loan, the
fair value of the collateral is used to value the loan. While a loan is
considered to be impaired, the Company’s policy is that interest accrual is
discontinued and all cash receipts are applied to principal. Once the recorded
principal balance has been reduced to zero, future cash receipts are applied
to
recoveries of any amounts previously charged off. Further cash receipts are
recorded as interest income to the extent that any interest has been foregone.
(f)
Presold Mortgages in Process of Settlement and Loans Held for Sale
-
As a
part of normal business operations, the Company originates residential mortgage
loans that have been pre-approved by secondary investors. The terms of the
loans
are set by the secondary investors, and the purchase price that the investor
will pay for the loan is agreed to prior to the funding of the loan by the
Company. Generally within three weeks after funding, the loans are transferred
to the investor in accordance with the agreed-upon terms. The Company records
gains from the sale of these loans on the settlement date of the sale equal
to
the difference between the proceeds received and the carrying amount of the
loan. The gain generally represents the portion of the proceeds attributed
to
service release premiums received from the investors and the realization of
origination fees received from borrowers which were deferred as part of the
carrying amount of the loan. Between the initial funding of the loans by the
Company and the subsequent reimbursement by the investors, the Company carries
the loans on its balance sheet at the lower of cost or market. During 2006,
the
Company originated $66,157,000 and received proceeds from sales amounting to
$64,738,000 related to these types of loans. During 2005, the Company originated
$74,569,000 and received proceeds from sales amounting to $72,993,000 related
to
these types of loans.
Periodically,
the Company originates commercial loans that are intended for resale. The
Company carries these loans at the lower of cost or fair value at each reporting
date. There were no such loans held for sale as of December 31, 2006 or
2005.
(g)
Allowance for Loan Losses -
The
allowance for loan losses is established through a provision for loan losses
charged to expense. Loans are charged-off against the allowance for loan losses
when management believes that the collectibility of the principal is unlikely.
The provision for loan losses charged to operations is an amount sufficient
to
bring the allowance for loan losses to an estimated balance considered adequate
to absorb losses inherent in the portfolio. Management’s determination of the
adequacy of the allowance is based on
an
evaluation of the portfolio, current economic conditions, historical loan loss
experience and other risk factors. While management uses the best information
available to make evaluations, future adjustments may be necessary if economic
and other conditions differ substantially from the assumptions
used.
In
addition, various regulatory agencies, as an integral part of their examination
process, periodically review the Bank’s allowance for loan losses. Such agencies
may require the Bank to recognize additions to the allowance based on the
examiners’ judgment about information available to them at the time of their
examinations.
(h)
Other Real Estate -
Other
real estate owned consists primarily of real estate acquired by the Company
through legal foreclosure or deed in lieu of foreclosure. The property is
initially carried at the lower of cost (generally the loan balance plus
additional costs incurred for improvements to the property) or estimated fair
value of the property less estimated selling costs. If there are subsequent
declines in fair value, the property is written down to its fair value through
a
charge to expense. Capital expenditures made to improve the property are
capitalized. Costs of holding real estate, such as property taxes, insurance
and
maintenance, less related revenues during the holding period, are charged to
operations.
(i)
Income Taxes -
Income
taxes are accounted for under the asset and liability method. Deferred tax
assets and liabilities are recognized for the future tax consequences
attributable to differences between the financial statement carrying amounts
of
existing assets and liabilities and their respective tax bases and operating
loss and tax credit carryforwards. Deferred tax assets and liabilities are
measured using enacted tax rates expected to apply to taxable income in the
years in which those temporary differences are expected to be recovered or
settled. The effect on deferred tax assets and liabilities of a change in tax
rates is recognized in income in the period that includes the enactment date.
Deferred tax assets are reduced, if necessary, by the amount of such benefits
that are not expected to be realized based upon available evidence. The
Company’s investment tax credits, which for the Company are low income housing
tax credits and state historic tax credits, are recorded in the period that
they
are affirmed by the tax credit fund.
(j)
Intangible Assets -
Business
combinations are accounted for using the purchase method of accounting.
Identifiable intangible assets are recognized separately and are amortized
over
their estimated useful lives, which for the Company has generally been seven
to
ten years and at an accelerated rate. Goodwill is recognized in business
combinations to the extent that the price paid exceeds the fair value of the
net
assets acquired, including any identifiable intangible assets. Goodwill is
not
amortized, but as discussed in Note 1(o), is subject to fair value impairment
tests on at least an annual basis.
(k) Other
Investments
- The
Company accounts for investments in limited partnerships, limited liability
companies (“LLCs”), and other privately held companies using either the cost or
the equity method of accounting. The accounting treatment depends upon the
Company’s percentage ownership and degree of management influence.
Under
the cost method of accounting, the Company records an investment in stock at
cost and generally recognizes cash dividends received as income. If cash
dividends received exceed the investee’s earnings since the investment date,
these payments are considered a return of investment and reduce the cost of
the
investment.
Under
the equity method of accounting, the Company records its initial investment
at
cost. Subsequently, the carrying amount of the investment is increased or
decreased to reflect the Company’s share of income or loss of the investee. The
Company’s recognition of earnings or losses from an equity method investment is
based on the Company’s ownership percentage in the limited partnership or LLCs
and the investee’s earnings on a quarterly basis. The limited partnerships and
LLCs generally provide their financial information during the quarter following
the end of a given period. The Company’s policy is to record its share of
earnings or losses on equity method investments in the quarter the financial
information is received.
All
of the Company’s investments in limited partnerships and LLCs are privately
held, and their market values are not readily available. The Company’s
management evaluates its investments in limited partnerships and LLCs for
impairment based on the investee’s ability to generate cash through its
operations or obtain alternative financing, and other subjective factors. There
are inherent risks associated with the Company’s investments in limited
partnerships and LLCs, which may result in income statement volatility in future
periods.
At
December 31, 2006 and 2005, the Company’s investments in limited
partnerships, LLCs and other privately held companies totaled $2.2 million
and
$1.5 million respectively, and were included in other assets.
(l)
Stock Option Plan -
At
December 31, 2006, the Company had six stock-based employee compensation plans,
which are described more fully in Note 14. The Company accounts for those plans
under the recognition and measurement principles of Statement of Financial
Accounting Standards No.
123
(revised 2004) (Statement 123(R)), “Share-Based Payment.” Statement 123(R)
replaces FASB Statement No. 123 (Statement 123), “Accounting for Stock-Based
Compensation,” and supersedes Accounting Principles Board Opinion No. 25
(Opinion 25), “Accounting for Stock Issued to Employees.” Prior to January 1,
2006, the Company accounted for the stock option plans under Opinion 25, and
thus, no stock-based employee compensation expense was reflected in net income
prior to January 1, 2006. However, Statement 123(R) requires that the
compensation cost relating to share-based payment transactions be recognized
in
the financial statements, and thus stock-based compensation expense has been
recognized in the financial statements during 2006.
(m)
Per Share Amounts -
Basic
Earnings Per Share is calculated by dividing net income by the weighted average
number of common shares outstanding during the period. Diluted Earnings Per
Share is computed by assuming the issuance of common shares for all dilutive
potential common shares outstanding during the reporting period. Currently,
the
Company’s only potential dilutive common stock issuances relate to options that
have been issued under the Company’s stock option plans. In computing Diluted
Earnings Per Share, it is assumed that all such dilutive stock options are
exercised during the reporting period at their respective exercise prices,
with
the proceeds from the exercises used by the Company to buy back stock in the
open market at the average market price in effect during the reporting period.
The difference between the number of shares assumed to be exercised and the
number of shares bought back is added to the number of weighted average common
shares outstanding during the period. The sum is used as the denominator to
calculate Diluted Earnings Per Share for the Company.
The
following is a reconciliation of the numerators and denominators used in
computing Basic and Diluted Earnings Per Share:
|
For
the Years Ended December 31,
|
||||||||||||||||||||||||||||
|
2006
|
2005
|
2004
|
||||||||||||||||||||||||||
|
($
in thousands,
except
per share
amounts)
|
Income
(Numer-
ator)
|
Shares
(Denom-
inator)
|
Per
Share
Amount
|
Income
(Numer-
ator)
|
Shares
(Denom-
inator)
|
Per
Share
Amount
|
Income
(Numer-
ator)
|
Shares
(Denom-
inator)
|
Per
Share
Amount
|
|||||||||||||||||||
|
Basic
EPS
|
$
|
19,302
|
14,294,753
|
$
|
1.35
|
$
|
16,090
|
14,165,992
|
$
|
1.14
|
$
|
20,114
|
14,138,513
|
$
|
1.42
|
|||||||||||||
|
Effect
of dilutive securities
|
–
|
140,499
|
–
|
194,040
|
–
|
256,639
|
||||||||||||||||||||||
|
Diluted
EPS
|
$
|
19,302
|
14,435,252
|
$
|
1.34
|
$
|
16,090
|
14,360,032
|
$
|
1.12
|
$
|
20,114
|
14,395,152
|
$
|
1.40
|
|||||||||||||
For
the
years ended December 31, 2006 and 2005, there were 214,980 and 34,000 options,
respectively, that were anti-dilutive because the exercise price exceeded the
average market price for the period. For the year ended December 31, 2004,
there
were no anti-dilutive options since the exercise price for each option
outstanding was less that the average market price for the year.
(n)
Fair Value of Financial Instruments -
Statement of Financial Accounting Standards (“SFAS”) No. 107,
“Disclosures About Fair Value of Financial Instruments,” requires that
the Company disclose estimated fair values for its financial instruments. Fair
value methods and assumptions are set forth below for the Company’s financial
instruments.
Cash
and
Due from Banks, Federal Funds Sold, Presold Mortgages in Process of Settlement,
Accrued Interest Receivable, and Accrued Interest Payable -
The
carrying amounts approximate their fair value because of the short maturity
of
these financial instruments.
Available
for Sale and Held to Maturity Securities -
Fair
values are based on quoted market prices, where available. If quoted market
prices are not available, fair values are based on quoted market prices of
comparable instruments.
Loans
-
Fair
values are estimated for portfolios of loans with similar financial
characteristics. Loans are segregated by type such as commercial, financial
and
agricultural, real estate construction, real estate mortgages and installment
loans to individuals. Each loan category is further segmented into fixed and
variable interest rate terms. For variable rate loans, the carrying value is
a
reasonable estimate of the fair value. For fixed rate loans, fair value is
determined by discounting scheduled future cash flows using current interest
rates offered on loans with similar risk characteristics. Fair values for
impaired loans are estimated based on discounted cash flows or underlying
collateral values, where applicable.
Deposits
and Securities Sold Under Agreements to Repurchase -
The fair
value of securities sold under agreements to repurchase and deposits with no
stated maturity, such as non-interest-bearing demand deposits, savings, NOW,
and
money market accounts, is equal to the amount payable on demand as of the
valuation date. The fair value of certificates of deposit is based on the
discounted value of contractual cash flows. The discount rate is estimated
using
the rates currently offered for deposits of similar remaining
maturities.
Borrowings
-
The fair
value of borrowings is based on the discounted value of contractual cash flows.
The discount rate is estimated using the rates currently offered by the
Company’s lenders for debt of similar remaining maturities.
Commitments
to Extend Credit and Standby Letters of Credit -
At
December 31, 2006 and 2005, the Company’s off-balance sheet financial
instruments had no carrying value. The large majority of commitments to extend
credit and standby letters of credit are at variable rates and/or have
relatively short terms to maturity. Therefore, the fair value for these
financial instruments is considered to be immaterial.
(o)
Impairment -
Goodwill
is evaluated for impairment on at least an annual basis by comparing the fair
value of its reporting units to their related carrying value. If the carrying
value of a reporting unit exceeds its fair value, the Company determines whether
the implied fair value of the goodwill, using a discounted cash flow analysis,
exceeds the carrying value of the goodwill. If the carrying value of the
goodwill exceeds the implied fair value of the goodwill, an impairment loss
is
recorded in an amount equal to that excess.
For
all
other long-lived assets, including identifiable intangible assets, the Company
reviews them for impairment whenever events or changes in circumstances indicate
that the carrying value may not be recoverable. The Company’s policy is that an
impairment loss is recognized if the sum of the undiscounted future cash flows
is less than the carrying amount of the asset. Any long-lived assets to be
disposed of are reported at the lower of the carrying amount or fair value,
less
costs to sell.
To
date,
the Company has not had to record any impairment write-downs of its long-lived
assets or goodwill.
(p)
Comprehensive Income - Comprehensive
income is defined as the change in equity during a period for non-owner
transactions and is divided into net income and other comprehensive income.
Other comprehensive income
includes
revenues, expenses, gains, and losses that are excluded from earnings under
current accounting standards. The components of accumulated other comprehensive
income for the Company are as follows:
|
December
31, 2006
|
December
31, 2005
|
December
31, 2004
|
||||||||
|
Unrealized
gain (loss) on securities available for sale
|
$
|
(860
|
)
|
(1,049
|
)
|
1,186
|
||||
|
Deferred
tax asset (liability)
|
336
|
410
|
(463
|
)
|
||||||
|
Net
unrealized gain (loss) on securities available for sale
|
(524
|
)
|
(639
|
)
|
723
|
|||||
|
Additional
pension liability
|
(6,649
|
)
|
(428
|
)
|
(338
|
)
|
||||
|
Deferred
tax asset
|
2,623
|
167
|
132
|
|||||||
|
Net
additional pension liability
|
(4,026
|
)
|
(261
|
)
|
(206
|
)
|
||||
|
Total
accumulated other comprehensive income (loss)
|
$
|
(4,550
|
)
|
(900
|
)
|
517
|
||||
(q)
Segment Reporting -
SFAS No.
131, “Disclosures about Segments of an Enterprise and Related Information”
requires management to report selected financial and descriptive information
about reportable operating segments. It also establishes standards for related
disclosures about products and services, geographic areas, and major customers.
Generally, disclosures are required for segments internally identified to
evaluate performance and resource allocation. The Company’s operations are
primarily within the banking segment, and the financial statements presented
herein reflect the results of that segment. Also, the Company has no foreign
operations or customers.
(r)
Reclassifications -
Certain
amounts for prior years have been reclassified to conform to the 2006
presentation. The reclassifications had no effect on net income or shareholders’
equity as previously presented, nor did they materially impact trends in
financial information.
(s)
Stock Split -
The
Company paid a 3-for-2 stock split on November 15, 2004. All previously reported
share totals and per share amounts have been adjusted to retroactively reflect
the effect of the split.
(t)
Recent Accounting Pronouncements - In
January 2003, the Financial Accounting Standards Board (“FASB”) issued FASB
Interpretation No. 46 (FIN 46), “Consolidation of Variable Interest Entities,”
which was subsequently revised in December 2003. FIN 46 addresses the
consolidation by business enterprises of certain variable interest entities.
The
provisions of this interpretation became effective for the Company on
January 31, 2003 as it relates to variable interest entities created or
purchased after that date. In December 2003, the FASB issued a revision to
FIN
46 (FIN 46R), which clarified and interpreted certain of the provisions of
FIN
46, without changing the basic accounting model in FIN 46. The provisions of
FIN
46R were effective no later than March 31, 2004. The adoption of FIN 46 did
not
have an impact on the Company’s financial position or results of operations, as
the Company had no investments in variable interest entities that required
consolidation under FIN 46. The application of FIN 46R during 2004 resulted
in
the de-consolidation of three trusts that the Company established in order
to
issue $40 million in trust preferred capital securities. The de-consolidation
of
the trusts resulted in the Company recording the amount of the junior
subordinated debentures between the Company and the trust subsidiary in the
amount of $1,239,000. Previously, the junior subordinated debentures were
eliminated in consolidation. The impact of this change was to increase both
other assets and borrowings by $1,239,000 each.
Additional information regarding the Company’s trust preferred securities is
included in Note 9.
From
November 2003 through November 2005, the FASB issued several sets of guidance
relating to the concept of “other-than-temporary impairment” and its
applicability to investments. The final guidance, as stated in Staff Position
FAS 115-1 and FAS 124-1, “The Meaning of Other-Than-Temporary Impairment and Its
Application to
Certain
Investments,” requires the disclosure of information about unrealized losses
associated with debt and equity securities, while affirming the existing
requirements for determining whether impairment is other-than-temporary. The
required disclosures are presented in Note 3.
In
December 2003, the FASB issued SFAS No. 132 (revised 2003) (Statement 132(R)),
“Employers’ Disclosures about Pensions and Other Postretirement Benefits.”
Statement 132(R) revises employers’ disclosures about pension plans and other
postretirement plans, but does not change the measurement or recognition of
those plans. Statement No. 132(R) requires additional disclosures about the
assets, obligations, cash flows, and net periodic pension cost of defined
benefit plans and other defined benefit postretirement plans. Most of the
provisions of Statement 132(R) became effective for financial statements with
fiscal years after December 15, 2003, with certain provisions becoming effective
for fiscal years ending after June 15, 2004. The additional disclosures required
for the Company are included in Note 11.
In
December 2003, the American Institute of Certified Public Accountants issued
Statement of Position 03-3 (SOP 03-3), “Accounting for Certain Loans or Debt
Securities Acquired in a Transfer.” SOP 03-3 provides guidance on the accounting
for differences between contractual and expected cash flows from the purchaser’s
initial investment in loans or debt securities acquired in a transfer, if those
differences are attributable, at least in part, to credit quality. The scope
of
SOP 03-3 includes loans that have shown evidence of deterioration of credit
quality since origination, and includes loans acquired individually, in pools
or
as part of a business combination. Among other things, SOP 03-3: (1) prohibits
the recognition of the excess of contractual cash flows over expected cash
flows
as an adjustment of yield, loss accrual or valuation allowance at the time
of
purchase; (2) requires that subsequent increases in expected cash flows be
recognized prospectively through an adjustment of yield; and (3) requires that
subsequent decreases in expected cash flows be recognized as impairment. In
addition, SOP 03-3 prohibits the creation or carrying over of a valuation
allowance in the initial accounting of all loans within the scope that are
acquired in a transfer. Under SOP 03-3, the difference between expected cash
flows and the purchase price is accreted as an adjustment to yield over the
life
of the loans. For loans acquired in a business combination that have shown
deterioration of credit quality since origination, SOP 03-3 represents a
significant change from the previous purchase accounting practice whereby the
acquiree’s allowance for loan losses is typically added to the acquirer’s
allowance for loan losses. SOP 03-3 became effective for loans or debt
securities acquired by the Company beginning on January 1, 2005. The adoption
of
this statement in the first quarter of 2005 did not have an impact on the
Company’s financial statements; however it will change, on a prospective basis,
the way that the Company accounts for loans and debt securities that it acquires
in the future.
In
March
2004, the Securities and Exchange Commission (the “SEC”) issued Staff Accounting
Bulletin No. 105 (SAB 105), “Application of Accounting Principles to Loan
Commitments.” SAB 105 summarizes the views of the SEC staff regarding the
application of generally accepted accounting principles to loan commitments
accounted for as derivatives, and its provisions were required for such loan
commitments entered into subsequent to March 31, 2004. The adoption of SAB
105
did not have a material impact on the Company’s consolidated financial
statements.
On
January 1, 2006, the Company adopted SFAS No. 123 (revised 2004) (Statement
123(R)), “Share-Based Payment,” which was issued in December 2004. Statement
123(R) replaces FASB Statement No. 123 (Statement 123), “Accounting for
Stock-Based Compensation,” and supersedes Accounting Principles Board Opinion
No. 25 (Opinion 25), “Accounting for Stock Issued to Employees.” Statement
123(R) requires that the compensation cost relating to share-based payment
transactions be recognized in the financial statements. Statement 123(R) permits
public companies to adopt its requirements using one of two methods. The
“modified prospective” method recognizes compensation for all stock options
granted after the date of adoption and for all previously granted stock options
that become vested after the date of adoption. The “modified retrospective”
method includes the requirements of the “modified prospective” method described
above, but also permits entities to restate prior period results based on the
amounts previously presented under Statement 123 for purposes of pro-forma
disclosures. The Company has elected to adopt Statement 123(R) under the
“modified prospective” method and accordingly has not restated prior period
results. See Note 14 for a more detailed description the Company’s adoption of
Statement 123(R).
In
May
2005, the FASB issued SFAS No. 154 (Statement 154), "Accounting Changes and
Error Corrections, a replacement of APB Opinion No. 20 and FASB Statement No.
3." Statement 154 applies to all voluntary changes in accounting principle
as
well as to changes required by an accounting pronouncement that does not include
specific transition provisions. Statement 154 eliminates the previous
requirement that the cumulative effect of changes in accounting principle be
reflected in the income statement in the period of change. Instead, to enhance
the comparability of prior period financial statements, Statement 154 requires
that changes in accounting principle be retrospectively applied. Under
retrospective application, the new accounting principle is applied as of the
beginning of the first period presented, as if that principle had always been
used. Statement 154 carries forward the requirement that an error be reported
by
restating prior period financial statement as of the beginning of the first
period. Statement 154 is effective for accounting changes and corrections of
errors made in fiscal years beginning after December 15, 2005. The initial
adoption of Statement 154 did not have a material impact on the Company's
financial statements; however the adoption of this statement could result in
a
material change to the way the Company reflects future changes in accounting
principles, depending on the nature of future changes in accounting principles
and whether specific transition provisions are included.
In
December 2005, the FASB issued Staff Position SOP 94-6-1, “Terms of Loan
Products that May Give Rise to a Concentration of Credit Risk” (“FSP SOP
94-6-1”). FSP SOP 94-6-1 addresses 1) the circumstances under which the terms of
loan products give rise to a concentration of credit risk, and 2) the
disclosures or other accounting considerations that apply for entities that
originate, hold guarantee, service, or invest in loan products with terms that
may give rise to a concentration of credit risk. The disclosures required by
FSB
SOP 94-6-1 are required for interim and annual periods ending after December
19,
2005. See Note 12 for this discussion as it relates to the Company.
In
July
2006, the FASB released FASB Interpretation No. 48, “Accounting for Uncertainty
in Income Taxes, an interpretation of FASB Statement No. 109” (FIN 48).
FIN 48 clarifies the accounting and reporting for uncertainties in income tax
law. FIN 48 prescribes a comprehensive model for the financial statement
recognition, measurement, presentation and disclosure of uncertain tax positions
taken or expected to be taken in income tax returns. The Company will
adopt FIN 48 in the first quarter of 2007. The cumulative effect of applying
the
provisions of this interpretation is required to be reported separately as
an
adjustment to the opening balance of retained earnings in the year of adoption.
The Company does not expect the adoption of FIN 48 to materially impact the
Company’s consolidated financial statements.
In
September 2006, the SEC issued Staff Accounting Bulletin No. 108 (SAB 108).
SAB
108 provides guidance on the consideration of the effects of prior year
misstatements in quantifying current year misstatements for the purpose of
a
materiality assessment. The bulletin is effective for the first fiscal year
ending after November 15, 2006. The
adoption of SAB 108 did not materially impact the Company’s consolidated
financial statements.
In
September 2006, the FASB issued SFAS No. 157 (Statement 157), “Fair Value
Measurements.” Statement 157 provides enhanced guidance for using fair value to
measure assets and liabilities. The standard also requires expanded disclosures
about the extent to which companies measure assets and liabilities at fair
value, the information used to measure fair value, and the effect of fair value
measurements on earnings. Statement 157 is effective for financial statements
issued for fiscal years beginning after November 15, 2007, and interim periods
within those fiscal years. The Company does not expect the adoption of Statement
157 to materially impact the Company’s consolidated financial
statements.
In
September 2006, the FASB issued SFAS
No.
158 (Statement 158), “Employers’ Accounting for Defined Benefit Pension and
Other Postretirement Plans.”
Statement 158 requires an employer to: (a) recognize in its statement of
financial position an asset for a plan’s overfunded status or a liability for a
plan’s underfunded status (b) measure a plan’s assets and its obligations
that determine its funded status as of the end of the
employer’s
fiscal
year (with limited exceptions) and (c) recognize changes in the funded status
of
a defined benefit postretirement plan in the year in which the changes occur.
Those changes will be reported in comprehensive income. The requirement to
recognize the funded status of a benefit plan and the disclosure requirements
are effective as of the end of the fiscal year ending after December 15, 2006,
whereas the measurement date provisions are effective for fiscal years ending
after December 15, 2008. The Company currently measures its plan assets and
obligations at the end of its fiscal year, and thus the measurement date
requirements will not impact the Company. The Company adopted the funded status
and disclosure requirements of Statement 158 as of December 31, 2006. The impact
of the adoption of Statement 158 is presented in the following table. See Note
11 for additional disclosures required by Statement 158.
|
(In
thousands)
|
Balances
at
December
31,
2006
- Before
Application
of
Statement
158
|
Adjustments
|
Balances
at
December
31,
2006
- After
Application
of
Statement
158
|
|||||||
|
Intangible
pension asset
|
$
|
237
|
(237
|
)
|
–
|
|||||
|
Deferred
income tax asset
|
162
|
2,461
|
2,623
|
|||||||
|
Total
assets
|
2,134,400
|
2,224
|
2,136,624
|
|||||||
|
Liability
for pension benefits
|
650
|
5,999
|
6,649
|
|||||||
|
Total
liabilities
|
1,967,920
|
5,999
|
1,973,919
|
|||||||
|
Accumulated
other comprehensive loss
|
(775
|
)
|
(3,775
|
)
|
(4,550
|
)
|
||||
|
Total
shareholders’ equity
|
166,480
|
(3,775
|
)
|
162,705
|
||||||
In
February 2007, the FASB issued SFAS No. 159, “The Fair Value Option for
Financial Assets and Financial Liabilities - Including an amendment of FASB
Statement No. 115.” This statement permits, but does not require, entities to
measure many financial instruments at fair value. The objective is to provide
entities with an opportunity to mitigate volatility in reported earnings caused
by measuring related assets and liabilities differently without having to apply
complex hedge accounting provisions. Entities electing this option will apply
it
when the entity first recognizes an eligible instrument and will report
unrealized gains and losses on such instruments in current earnings. This
statement 1) applies to all entities, 2) specifies certain election dates,
3)
can be applied on an instrument-by-instrument basis with some exceptions, 4)
is
irrevocable and 5) applies only to entire instruments. One exception is demand
deposit liabilities which are explicitly excluded as qualifying for fair value.
With respect to SFAS 115, available-for-sale and held-to-maturity securities
at
the effective date are eligible for the fair value option at that date. If
the
fair value option is elected for those securities at the effective date,
cumulative unrealized gains and losses at that date shall be included in the
cumulative-effect adjustment and thereafter, such securities will be accounted
for as trading securities. SFAS 159 is effective for the Company on January
1,
2008. Earlier adoption is permitted in 2007 if the Company also elects to apply
the provisions of SFAS 157, “Fair Value Measurement.” The Company is currently
analyzing the fair value option provided under SFAS 159.
Note
2. Completed Acquisitions
There
were no acquisitions during 2004 or 2005. The Company completed two branch
purchases during 2006. The results of each acquired branch are included in
the
Company’s results for the period ended December 31, 2006 beginning on their
respective acquisition dates.
(a)
On
July 7, 2006, the Company completed the purchase of a branch of First Citizens
Bank located in Dublin, Virginia. The Company assumed the branch’s $21 million
in deposits. No loans were acquired in this transaction. The primary reason
for
this acquisition was to increase the Company’s presence in southwestern
Virginia, a market in which the Company already had three branches with a large
customer base. The Company paid a deposit premium for the branch of
approximately $994,000, all of which is deductible for tax purposes. The
identifiable intangible asset associated with the fair value of the core deposit
base, as determined by an independent consulting firm, was determined to be
$269,000 and is being amortized as expense on an accelerated basis over an
eight
year period based on an amortization schedule provided by the consulting firm.
The weighted-average amortization period is approximately 2.2 years. The
remaining intangible asset of $725,000 has been classified as goodwill, and
thus
is not being systematically amortized, but rather is subject to an annual
impairment test. The primary factors that contributed to a purchase price that
resulted in recognition of goodwill were the Company’s desire to expand its
presence in southwestern Virginia with facilities, operations and experienced
staff in place. This branch’s operations are included in the accompanying
Consolidated Statements of Income beginning on the acquisition date of July
7,
2006. Historical pro forma information is not presented due to the immateriality
of this transaction to the overall consolidated financial statements of the
Company.
(b)
On
September 1, 2006, the Company completed the purchase of a branch of Bank of
the
Carolinas in Carthage, North Carolina. The Company assumed the branch’s $24
million in deposits and $6 million in loans. The primary reason for this
acquisition was to increase the Company’s presence in Moore County, a market in
which the Company already had ten branches with a large customer base. The
Company paid a deposit premium for the branch of approximately $1,768,000,
all
of which is deductible for tax purposes. The identifiable intangible asset
associated with the fair value of the core deposit base, as determined by an
independent consulting firm, was determined to be approximately $235,000 and
is
being amortized as expense on an accelerated basis over a thirteen year period
based on an amortization schedule provided by the consulting firm. The
weighed-average amortization period is approximately 3.2 years. The remaining
intangible asset of $1,533,000 has been classified as goodwill, and thus is
not
being systematically amortized, but rather is subject to an annual impairment
test. The primary factors that contributed to a purchase price that resulted
in
recognition of goodwill were the Company’s desire to expand in an existing
high-growth market with facilities, operations and experienced staff in place.
This branch’s operations are included in the accompanying Consolidated
Statements of Income beginning on the acquisition date of September 1, 2006.
Historical pro forma information is not presented due to the immateriality
of
this transaction to the overall consolidated financial statements of the
Company.
Note
3. Securities
The
book
values and approximate fair values of investment securities at December 31,
2006
and 2005 are summarized as follows:
|
2006
|
2005
|
||||||||||||||||||||||||
|
Amortized
|
Fair
|
Unrealized
|
Amortized
|
Fair
|
Unrealized
|
||||||||||||||||||||
|
(In
thousands)
|
Cost
|
Value
|
Gains
|
(Losses)
|
Cost
|
Value
|
Gains
|
(Losses)
|
|||||||||||||||||
|
Securities
available for sale:
|
|||||||||||||||||||||||||
|
Government-sponsored
enterprise securities
|
$
|
63,004
|
62,456
|
16
|
(564
|
)
|
45,258
|
44,481
|
–
|
(777
|
)
|
||||||||||||||
|
Mortgage-backed
securities
|
44,572
|
43,442
|
4
|
(1,134
|
)
|
49,235
|
47,928
|
13
|
(1,320
|
)
|
|||||||||||||||
|
Corporate
bonds
|
12,853
|
13,580
|
810
|
(83
|
)
|
13,929
|
14,912
|
1,067
|
(84
|
)
|
|||||||||||||||
|
Equity
securities
|
10,395
|
10,486
|
97
|
(6
|
)
|
6,240
|
6,292
|
56
|
(4
|
)
|
|||||||||||||||
|
Total
available for sale
|
$
|
130,824
|
129,964
|
927
|
(1,787
|
)
|
114,662
|
113,613
|
1,136
|
(2,185
|
)
|
||||||||||||||
|
Securities
held to maturity:
|
|||||||||||||||||||||||||
|
State
and local governments
|
$
|
13,089
|
13,135
|
98
|
(52
|
)
|
11,382
|
11,531
|
181
|
(32
|
)
|
||||||||||||||
|
Other
|
33
|
33
|
–
|
–
|
66
|
66
|
–
|
–
|
|||||||||||||||||
|
Total
held to maturity
|
$
|
13,122
|
13,168
|
98
|
(52
|
)
|
11,448
|
11,597
|
181
|
(32
|
)
|
||||||||||||||
Included
in mortgage-backed securities at December 31, 2006 were collateralized mortgage
obligations with an amortized cost of $11,898,000 and a fair value of
$11,517,000. Included in mortgage-backed securities at December 31, 2005 were
collateralized mortgage obligations with an amortized cost of $15,810,000 and
a
fair value of $15,399,000.
The
Company owned Federal Home Loan Bank stock with a cost and fair value of
$10,036,000 at December 31, 2006 and $5,930,000 at December 31, 2005, which
is
included in equity securities above and serves as part of the collateral for
the
Company’s line of credit with the Federal Home Loan Bank (see Note 9 for
additional discussion). The investment in this stock is a requirement for
membership in the Federal Home Loan Bank system.
The
following table presents information regarding securities with unrealized losses
at December 31, 2006:
|
Securities
in an Unrealized Loss Position for
Less
than 12 Months
|
Securities
in an Unrealized Loss Position for
More
than 12 Months
|
Total
|
|||||||||||||||||
|
(in
thousands)
|
Fair
Value
|
Unrealized
Losses
|
Fair
Value
|
Unrealized
Losses
|
Fair
Value
|
Unrealized
Losses
|
|||||||||||||
|
Government-sponsored
enterprise securities
|
$
|
7,985
|
15
|
39,465
|
549
|
47,450
|
564
|
||||||||||||
|
Mortgage-backed
securities
|
799
|
1
|
38,985
|
1,133
|
39,784
|
1,134
|
|||||||||||||
|
Corporate
bonds
|
3,249
|
5
|
3,022
|
78
|
6,271
|
83
|
|||||||||||||
|
Equity
securities
|
27
|
5
|
15
|
1
|
42
|
6
|
|||||||||||||
|
State
and local governments
|
2,537
|
26
|
1,050
|
26
|
3,587
|
52
|
|||||||||||||
|
Total
temporarily impaired securities
|
$
|
14,597
|
52
|
82,537
|
1,787
|
97,134
|
1,839
|
||||||||||||
The
following table presents information regarding securities with unrealized losses
at December 31, 2005:
|
(in
thousands)
|
Securities
in an Unrealized Loss Position for
Less
than 12 Months
|
Securities
in an Unrealized Loss Position for
More
than 12 Months
|
Total
|
||||||||||||||||
|
Fair
Value
|
Unrealized
Losses
|
Fair
Value
|
Unrealized
Losses
|
Fair
Value
|
Unrealized
Losses
|
||||||||||||||
|
Government-sponsored
enterprise securities
|
$
|
25,004
|
380
|
16,477
|
397
|
41,481
|
777
|
||||||||||||
|
Mortgage-backed
securities
|
30,729
|
667
|
15,955
|
653
|
46,684
|
1,320
|
|||||||||||||
|
Corporate
bonds
|
–
|
–
|
3,016
|
84
|
3,016
|
84
|
|||||||||||||
|
Equity
securities
|
38
|
4
|
–
|
–
|
38
|
4
|
|||||||||||||
|
State
and local governments
|
1,921
|
15
|
417
|
17
|
2,338
|
32
|
|||||||||||||
|
Total
temporarily impaired securities
|
$
|
57,692
|
1,066
|
35,865
|
1,151
|
93,557
|
2,217
|
||||||||||||
In
the
above tables, all of the non-equity securities that were in an unrealized loss
position at December 31, 2006 and 2005 are bonds that the Company has determined
are in a loss position due to interest rate factors, and not because of credit
quality concerns. The Company has the ability and intent to hold these
investments until maturity with no accounting loss. The Company has concluded
that each of the equity securities in an unrealized loss position at December
31, 2006 and 2005 were in such a position due to minor temporary fluctuations
in
the market prices of the securities. The Company’s policy is to record an
impairment charge for any of these equity securities that remains in an
unrealized loss position for twelve consecutive months unless the amount is
insignificant.
The
aggregate carrying amount of cost-method investments was $10,204,000 and
$6,079,000 at December 31, 2006 and 2005, respectively, which included the
Federal Home Loan Bank stock discussed above. The Company determined that none
of its cost-method investments were impaired at either year end.
The
book
values and approximate fair values of investment securities at December 31,
2006, by contractual maturity, are summarized in the table below. Expected
maturities may differ from contractual maturities because issuers may have
the
right to call or prepay obligations with or without call or prepayment
penalties.
|
Securities
Available for Sale
|
Securities
Held to Maturity
|
||||||||||||
|
Amortized
|
Fair
|
Amortized
|
Fair
|
||||||||||
|
(In
thousands)
|
Cost
|
Value
|
Cost
|
Value
|
|||||||||
|
Debt
securities
|
|||||||||||||
|
Due
within one year
|
$
|
14,590
|
14,436
|
$
|
1,564
|
1,568
|
|||||||
|
Due
after one year but within five years
|
46,414
|
46,020
|
4,769
|
4,804
|
|||||||||
|
Due
after five years but within ten years
|
8,092
|
8,009
|
2,174
|
2,204
|
|||||||||
|
Due
after ten years
|
6,761
|
7,571
|
4,615
|
4,592
|
|||||||||
|
Mortgage-backed
securities
|
44,572
|
43,442
|
–
|
–
|
|||||||||
|
Total
debt securities
|
120,429
|
119,478
|
13,122
|
13,168
|
|||||||||
|
Equity
securities
|
10,395
|
10,486
|
–
|
–
|
|||||||||
|
Total
securities
|
$
|
130,824
|
129,964
|
$
|
13,122
|
13,168
|
|||||||
At
December 31, 2006 and 2005, investment securities with book values of
$92,161,000 and $88,581,000, respectively, were pledged as collateral for public
and private deposits and securities sold under agreements to repurchase.
Sales
of
securities available for sale with aggregate proceeds of $1,575,000 in 2006,
$17,000 in 2005, and $12,060,000 in 2004 resulted in gross gains of $205,000
and
no gross losses in 2006, resulted in gross gains of $5,000 and no gross losses
in 2005, and gross gains of $299,000 and no gross losses in
2004.
Note
4. Loans and Allowance for Loan Losses
Loans
at
December 31, 2006 and 2005 are summarized as follows:
|
(In
thousands)
|
2006
|
2005
|
|||||
|
Commercial,
financial, and agricultural
|
$
|
165,214
|
135,942
|
||||
|
Real
estate - construction
|
155,440
|
125,158
|
|||||
|
Real
estate - mortgage - residential (1-4 family)
|
718,052
|
668,328
|
|||||
|
Real
estate - mortgage - commercial and other
|
626,501
|
481,740
|
|||||
|
Installment
loans to individuals
|
75,162
|
71,259
|
|||||
|
Subtotal
|
1,740,369
|
1,482,427
|
|||||
|
Unamortized
net deferred loan costs (fees)
|
27
|
184
|
|||||
|
Loans,
net of deferred fees
|
$
|
1,740,396
|
1,482,611
|
||||
Loans
in
the amounts of $1,262,729,000 and $1,129,900,000 as of December 31, 2006 and
2005, respectively, are pledged as collateral for certain borrowings (see Note
9). The loans above also include loans to executive officers and directors
and
to their associates totaling approximately $10,296,000 and $12,857,000 at
December 31, 2006 and 2005, respectively. During 2006, additions to such loans
were approximately $3,349,000 and repayments totaled approximately $5,910,000.
These loans were made on substantially the same terms, including interest rates
and collateral, as those prevailing at the time for comparable transactions
with
other non-related borrowers. Management does not believe these loans involve
more than the normal risk of collectibility or present other unfavorable
features.
Nonperforming
assets at December 31, 2006 and 2005 were as follows:
|
(In
thousands)
|
2006
|
2005
|
|||||
|
Loans:
Nonaccrual loans
|
$
|
6,852
|
1,640
|
||||
|
Restructured
loans
|
10
|
13
|
|||||
|
Accruing
loans greater than 90 days past due
|
-
|
-
|
|||||
|
Total
nonperforming loans
|
6,862
|
1,653
|
|||||
|
Other
real estate (included in other assets)
|
1,539
|
1,421
|
|||||
|
Total
nonperforming assets
|
$
|
8,401
|
3,074
|
||||
If
the
nonaccrual loans and restructured loans as of December 31, 2006, 2005 and 2004
had been current in accordance with their original terms and had been
outstanding throughout the period (or since origination if held for part of
the
period), gross interest income in the amounts of approximately $510,000,
$123,000 and $247,000 for nonaccrual loans and $1,000, $2,000 and $2,000 for
restructured loans would have been recorded for 2006, 2005 and 2004,
respectively. Interest income on such loans that was actually collected and
included in net income in 2006, 2005 and 2004 amounted to approximately
$179,000, $67,000 and $120,000 for nonaccrual loans (prior to their being placed
on nonaccrual status) and $1,000, $2,000 and $2,000 for restructured loans,
respectively. At December 31, 2006 and 2005, the Company had no commitments
to
lend additional funds to debtors whose loans were
nonperforming.
Activity
in the allowance for loan losses for the years ended December 31, 2006, 2005
and
2004 was as follows:
|
(In
thousands)
|
2006
|
2005
|
2004
|
|||||||
|
Balance,
beginning of year
|
$
|
15,716
|
14,717
|
13,569
|
||||||
|
Provision
for loan losses
|
4,923
|
3,040
|
2,905
|
|||||||
|
Recoveries
of loans charged-off
|
273
|
322
|
181
|
|||||||
|
Loans
charged-off
|
(2,017
|
)
|
(2,363
|
)
|
(1,938
|
)
|
||||
|
Allowance
recorded related to loans assumed
in corporate acquisitions
|
52
|
–
|
–
|
|||||||
|
Balance,
end of year
|
$
|
18,947
|
15,716
|
14,717
|
||||||
At
December 31, 2006 and 2005, the recorded investment in loans considered to
be
impaired was $2,864,000 and $338,000, respectively, of which all were on a
nonaccrual basis at each year end. The related allowance for loan losses for
the
impaired loans at December 31, 2006 and 2005 was $511,000 and $100,000,
respectively. At December 31, 2006, there was $842,000 in impaired loans that
did not have a related allowance. At December 31, 2005, there were no impaired
loans that did not have a related allowance. The average recorded investments
in
impaired loans during the years ended December 31, 2006, 2005, and 2004 was
approximately $1,445,000, $1,474,000, and $1,317,000, respectively. For the
years ended December 31, 2006, 2005, and 2004, the Company recognized no
interest income on these loans during the period that they were considered
to be
impaired.
Note
5. Premises and Equipment
Premises
and equipment at December 31, 2006 and 2005 consisted of the
following:
|
(In
thousands)
|
2006
|
2005
|
|||||
|
Land
|
$
|
12,547
|
7,819
|
||||
|
Buildings
|
30,735
|
27,097
|
|||||
|
Furniture
and equipment
|
21,674
|
19,118
|
|||||
|
Leasehold
improvements
|
1,305
|
1,204
|
|||||
|
Total
cost
|
66,261
|
55,238
|
|||||
|
Less
accumulated depreciation and amortization
|
(22,721
|
)
|
(20,398
|
)
|
|||
|
Net
book value of premises and equipment
|
$
|
43,540
|
34,840
|
||||
Note
6. Goodwill and Other Intangible Assets
The
following is a summary of the gross carrying amount and accumulated amortization
of amortized intangible assets as of December 31, 2006 and December 31, 2005
and
the carrying amount of unamortized intangible assets as of December 31, 2006
and
December 31, 2005.
|
December
31, 2006
|
December
31, 2005
|
||||||||||||
|
(In
thousands)
|
Gross
Carrying Amount
|
Accumulated
Amortization
|
Gross
Carrying Amount
|
Accumulated
Amortization
|
|||||||||
|
Amortized
intangible assets:
|
|||||||||||||
|
Customer
lists
|
$
|
394
|
148
|
394
|
117
|
||||||||
|
Core
deposit premiums
|
2,945
|
1,302
|
2,441
|
1,011
|
|||||||||
|
Total
|
$
|
3,339
|
1,450
|
2,835
|
1,128
|
||||||||
|
Unamortized
intangible assets:
|
|||||||||||||
|
Goodwill
|
$
|
49,505
|
47,247
|
||||||||||
|
Pension
|
$
|
–
|
273
|
||||||||||
As
a
result of two branch acquisitions (see discussion in Note 2), gross core deposit
premiums increased $504,000 and goodwill increased $2,258,000 during
2006.
The
following table presents the estimated amortization expense for intangible
assets for each of the five calendar years ending December 31, 2011 and the
estimated amount amortizable thereafter. These estimates are subject to change
in future periods to the extent management determines it is necessary to make
adjustments to the carrying value or estimated useful lives of amortized
intangible assets.
|
(In
thousands)
|
Estimated
Amortization
Expense
|
|||
|
2007
|
$
|
374
|
||
|
2008
|
316
|
|||
|
2009
|
279
|
|||
|
2010
|
262
|
|||
|
2011
|
247
|
|||
|
Thereafter
|
411
|
|||
|
Total
|
$
|
1,889
|
||
Note
7. Income Taxes
Total
income taxes for the years ended December 31, 2006, 2005 and 2004 were allocated
as follows:
|
(In
thousands)
|
2006
|
2005
|
2004
|
|||||||
|
Allocated
to net income
|
$
|
11,423
|
16,829
|
10,418
|
||||||
|
Allocated
to stockholders’ equity, for unrealized holding gain/loss on debt
and equity securities for financial reporting purposes
|
74
|
(872
|
)
|
(265
|
)
|
|||||
|
Allocated
to stockholders’ equity, for tax benefit of pension
liabilities
|
(2,456
|
)
|
(35
|
)
|
(18
|
)
|
||||
|
Total
income taxes
|
$
|
9,041
|
15,922
|
10,135
|
||||||
The
components of income tax expense (benefit) for the years ended December 31,
2006, 2005 and 2004 were as follows:
|
(In
thousands)
|
2006
|
2005
|
2004
|
|||||||
|
Current
- Federal
|
$
|
10,809
|
8,285
|
10,407
|
||||||
|
-
State
|
1,927
|
8,700
|
228
|
|||||||
|
Deferred
- Federal
|
(1,112
|
)
|
(124
|
)
|
(192
|
)
|
||||
|
-
State
|
(201
|
)
|
(32
|
)
|
(25
|
)
|
||||
|
Total
|
$
|
11,423
|
16,829
|
10,418
|
||||||
The
sources and tax effects of temporary differences that gave rise to significant
portions of the deferred tax assets (liabilities) at December 31, 2006 and
2005
are presented below:
|
(In
thousands)
|
2006
|
2005
|
|||||
|
Deferred
tax assets:
|
|||||||
|
Allowance
for loan losses
|
$
|
7,436
|
6,075
|
||||
|
Excess
book over tax SERP retirement plan cost
|
989
|
739
|
|||||
|
Basis
of investment in subsidiary
|
69
|
69
|
|||||
|
Reserve
for employee medical expense for financial reporting
purposes
|
20
|
20
|
|||||
|
Deferred
compensation
|
183
|
180
|
|||||
|
State
net operating loss carryforwards
|
230
|
282
|
|||||
|
Trust
preferred security issuance costs
|
284
|
206
|
|||||
|
Accruals,
book versus tax
|
171
|
154
|
|||||
|
Pension
liability adjustments
|
2,623
|
167
|
|||||
|
Unrealized
loss on securities available for sale
|
335
|
409
|
|||||
|
All
other
|
378
|
27
|
|||||
|
Gross
deferred tax assets
|
12,718
|
8,328
|
|||||
|
Less:
Valuation allowance
|
(239
|
)
|
(275
|
)
|
|||
|
Net
deferred tax assets
|
12,479
|
8,053
|
|||||
|
Deferred
tax liabilities:
|
|||||||
|
Loan
fees
|
(1,227
|
)
|
(1,115
|
)
|
|||
|
Excess
tax over book pension cost
|
(545
|
)
|
(603
|
)
|
|||
|
Depreciable
basis of fixed assets
|
(1,610
|
)
|
(1,689
|
)
|
|||
|
Amortizable
basis of intangible assets
|
(3,991
|
)
|
(3,166
|
)
|
|||
|
Net
loan fees recognized for tax reporting purposes
|
(7
|
)
|
(69
|
)
|
|||
|
FHLB
stock dividends
|
(436
|
)
|
(436
|
)
|
|||
|
Book
versus tax basis difference - securities
|
–
|
(7
|
)
|
||||
|
Gross
deferred tax liabilities
|
(7,816
|
)
|
(7,085
|
)
|
|||
|
Net
deferred tax asset - included in other assets
|
$
|
4,663
|
968
|
||||
A
portion
of the annual change in the net deferred tax liability relates to unrealized
gains and losses on securities available for sale. The related 2006 and 2005
deferred tax expense (benefit) of approximately $74,000 and ($872,000),
respectively, has been recorded directly to shareholders’ equity. Additionally,
a portion of the annual change in the net deferred tax liability relates to
pension adjustments. The related 2006 and 2005 deferred
tax
benefit of $2,456,000 and $35,000, respectively, has been recorded directly
to
shareholders’ equity. The balance of the 2006 and 2005 increase in the net
deferred tax asset of $1,313,000 and $156,000, respectively, is reflected as
a
deferred income tax benefit in the consolidated statements of
income.
The
valuation allowances for 2006 and 2005 relate primarily to state net operating
loss carryforwards. It is management’s belief that the realization of the
remaining net deferred tax assets is more likely than not.
See
Note
12 for discussion regarding state taxing authority exposure.
Retained
earnings at December 31, 2006 and 2005 included approximately $6,869,000
representing pre-1988 tax bad debt reserve base year amounts for which no
deferred income tax liability has been provided since these reserves are not
expected to reverse or may never reverse. Circumstances that would require
an
accrual of a portion or all of this unrecorded tax liability are a reduction
in
qualifying loan levels relative to the end of 1987, failure to meet the
definition of a bank, dividend payments in excess of accumulated tax earnings
and profits, or other distributions in dissolution, liquidation or redemption
of
the Bank’s stock.
The
following is a reconcilement of federal income tax expense at the statutory
rate
of 35% to the income tax provision reported in the financial
statements.
|
(In
thousands)
|
2006
|
2005
|
2004
|
|||||||
|
Tax
provision at statutory rate
|
$
|
10,754
|
11,522
|
10,686
|
||||||
|
Increase
(decrease) in income taxes resulting from:
|
||||||||||
|
Tax-exempt
interest income
|
(287
|
)
|
(251
|
)
|
(263
|
)
|
||||
|
Low
income housing tax credits
|
(114
|
)
|
(109
|
)
|
(98
|
)
|
||||
|
Non-deductible
interest expense
|
34
|
20
|
14
|
|||||||
|
State
income taxes, net of federal benefit
|
1,122
|
5,634
|
132
|
|||||||
|
Change
in valuation allowance
|
(36
|
)
|
(92
|
)
|
153
|
|||||
|
Non-deductible
penalty
|
–
|
50
|
–
|
|||||||
|
Other,
net
|
(50
|
)
|
55
|
(206
|
)
|
|||||
|
Total
|
$
|
11,423
|
16,829
|
10,418
|
||||||
Note
8. Time Deposits, Securities Sold Under Agreements to Repurchase, and Related
Party Deposits
At
December 31, 2006, the scheduled maturities of time deposits were as
follows:
|
(In
thousands)
|
||||
|
2007
|
$
|
853,941
|
||
|
2008
|
58,546
|
|||
|
2009
|
26,122
|
|||
|
2010
|
23,597
|
|||
|
2011
|
13,180
|
|||
|
Thereafter
|
227
|
|||
|
$
|
975,613
|
|||
Securities
sold under agreement to repurchase represent short term borrowings by the
Company with maturities less than one year and are collateralized by a portion
of the Company’s securities portfolio, which have been delivered to a third
party custodian for safekeeping. At December 31, 2006, securities with an
amortized cost of $50,970,000 and a market value of $50,013,000 were pledged
to
secure securities sold under agreements to repurchase.
The
following table presents certain information for securities sold under
agreements to repurchase:
|
($
in thousands)
|
2006
|
2005
|
|||||
|
Balance
at December 31
|
$
|
43,276
|
33,530
|
||||
|
Weighted
average interest rate at December 31
|
3.78
|
%
|
3.08
|
%
|
|||
|
Maximum
amount outstanding at any month-end during the year
|
$
|
43,276
|
33,530
|
||||
|
Average
daily balance outstanding during the year
|
$
|
30,036
|
6,219
|
||||
|
Average
annual interest rate paid during the year
|
3.72
|
%
|
2.88
|
%
|
|||
Deposits
received from executive officers and directors and their associates totaled
approximately $11,866,000 at December 31, 2006. These deposit accounts have
substantially the same terms, including interest rates, as those prevailing
at
the time for comparable transactions with other non-related
depositors.
Note
9. Borrowings and Borrowings Availability
The
following table presents information regarding the Company’s outstanding
borrowings at December 31, 2006 and 2005:
|
Description
- 2006
|
Due
date
|
Call
Feature
|
2006
Amount
|
Interest
Rate
|
||||
|
FHLB
Overnight
Borrowings
|
January
1, 2007, renewable daily
|
None
|
$135,000,000
|
5.50%
subject to
change
daily
|
||||
|
FHLB
Term Note
|
Due
March 13, 2007
|
None
|
2,000,000
|
2.91%
fixed
|
||||
|
FHLB
Term Note
|
Due
June 23, 2008
|
None
|
1,000,000
|
5.51%
fixed
|
||||
|
FHLB
Term Note
|
Due
on April 21, 2009
|
Expired
(One time call option in 2004 not exercised by FHLB)
|
5,000,000
|
5.26%
fixed
|
||||
|
Trust
Preferred
Securities
|
Due
on November 7, 2032
|
By
Company on a quarterly basis beginning on November 7, 2007
|
20,619,000
|
8.81%
at Dec. 31, 2006
adjustable
rate
3
month LIBOR + 3.45%
|
||||
|
Trust
Preferred
Securities
|
Due
on January 23, 2034
|
By
Company on a
quarterly
basis beginning
on
January 23, 2009
|
20,620,000
|
8.06%
at Dec. 31, 2006
adjustable
rate
3
month LIBOR + 2.70%
|
||||
|
Trust
Preferred
Securities
|
Due
on June 15, 2036
|
By
Company on a
quarterly
basis beginning
on
June 15, 2011
|
25,774,000
|
6.75%
at Dec. 31, 2006
adjustable
rate
3
month LIBOR + 1.39%
|
||||
|
Total
borrowings/
weighted
average rate
|
$210,013,000
|
6.20%
(7.46% excluding overnight
borrowings)
|
|
Description
- 2005
|
Due
date
|
Call
Feature
|
2005
Amount
|
Interest
Rate
|
||||
|
FHLB
Overnight
Borrowings
|
January
1, 2006, renewable daily
|
None
|
$30,000,000
|
4.49%
subject to
change
daily
|
||||
|
FHLB
Term Note
|
Due
February 15, 2006
|
None
|
6,500,000
|
3.47%
fixed
|
||||
|
FHLB
Term Note
|
Due
March 13, 2006
|
None
|
2,000,000
|
2.44%
fixed
|
||||
|
FHLB
Term Note
|
Due
May 15, 2006
|
None
|
7,500,000
|
3.51%
fixed
|
||||
|
FHLB
Term Note
|
Due
August 10, 2006
|
None
|
5,000,000
|
3.60%
fixed
|
||||
|
FHLB
Term Note
|
Due
March 13, 2007
|
None
|
2,000,000
|
2.91%
fixed
|
||||
|
FHLB
Term Note
|
Due
June 23, 2008
|
None
|
1,000,000
|
5.51%
fixed
|
||||
|
FHLB
Term Note
|
Due
on April 21, 2009
|
Expired
(One time call option in 2004 not exercised by FHLB)
|
5,000,000
|
5.26%
fixed
|
||||
|
Trust
Preferred
Securities
|
Due
on November 7, 2032
|
By
Company on a quarterly basis beginning on November 7, 2007
|
20,619,000
|
7.79%
at Dec. 31, 2005
adjustable
rate
3
month LIBOR + 3.45%
|
||||
|
Trust
Preferred
Securities
|
Due
on January 23, 2034
|
By
Company on a
quarterly
basis beginning
on
January 23, 2009
|
20,620,000
|
6.94%
at Dec. 31, 2005
adjustable
rate
3
month LIBOR + 2.70%
|
||||
|
Total
borrowings/
weighted
average rate
|
$100,239,000
|
5.47%
(5.88% excluding overnight
borrowings)
|
In
the
tables above, only the $5 million due to the FHLB on April 21, 2009 had a lender
call provision, which allowed the FHLB, at its option, to call the bond on
April
21, 2004. The call provision provided interest rate protection to the FHLB
in
the event that prevailing market interest rates were higher than the note rate
on the date of the call. This call option was not exercised by the FHLB at
the
April 21, 2004 call date. In addition to the call option, all outstanding FHLB
borrowings may be accelerated immediately by the FHLB in certain circumstances
including material adverse changes in the condition of the Company or if the
Company’s qualifying collateral amounts to less than that required under the
terms of the borrowing agreement.
In
the
above table, the $20.6 million in borrowings due on November 7, 2032 relate
to
borrowings structured as trust preferred capital securities that were issued
by
First Bancorp Capital Trust I, an unconsolidated subsidiary of the Company,
on
October 29, 2002 and qualify as capital for regulatory capital adequacy
requirements. These debt securities are callable by the Company at par on any
quarterly interest payment date beginning on November 7, 2007. The interest
rate
on these debt securities adjusts on a quarterly basis at a rate of three-month
LIBOR plus 3.45%. This rate may not exceed 12.50% through November 2007. The
Company incurred approximately $615,000 in debt issuance costs related to the
issuance that were recorded as prepaid expenses and are included in the “Other
Assets” line item of the consolidated balance sheet. These debt issuance costs
are being amortized as interest expense until the earliest possible call date
of
November 7, 2007.
In
the
above table, the $20.6 million in borrowings due on January 23, 2034 relate
to
borrowings structured as trust preferred capital securities that were issued
by
First Bancorp Capital Trusts II and III ($10.3 million by each trust),
unconsolidated subsidiaries of the Company, on December 19, 2003 and qualify
as
capital for regulatory capital adequacy requirements. These debt securities
are
callable by the Company at par on any quarterly interest payment date beginning
on January 23, 2009. The interest rate on these debt securities adjusts on
a
quarterly basis at a rate of three-month LIBOR plus 2.70%. The Company incurred
approximately $580,000 of debt issuance costs related to the issuance that
were
recorded as prepaid expenses and are included in the “Other Assets” line item of
the consolidated balance sheet. These debt issuance costs are being amortized
as
interest expense until the earliest possible call date of January 23,
2009.
In
the
above table, the $25.8 million in borrowings due on June 15, 2036 relate to
borrowings structured as trust preferred capital
securities
that were issued by First Bancorp Capital Trust IV, an unconsolidated subsidiary
of the Company, on April 13, 2006 and qualify as capital for regulatory capital
adequacy requirements. These debt securities are callable by the Company at
par
on any quarterly interest payment date beginning on June 15, 2011. The interest
rate on these debt securities adjusts on a quarterly basis at a rate of
three-month LIBOR plus 1.39%. The Company incurred no debt issuance costs
related to the issuance.
At
December 31, 2006, the Company has three sources of readily available borrowing
capacity - 1) an approximately $362 million line of credit with the FHLB, of
which $143 million was outstanding at December 31, 2006 and $59 million was
outstanding at December 31, 2005, 2) a $50 million overnight federal funds
line
of credit with a correspondent bank, none of which was outstanding at December
31, 2006 or 2005, and 3) an approximately $74 million line of credit through
the
Federal Reserve Bank of Richmond’s (FRB) discount window, none of which was
outstanding at December 31, 2006 or 2005.
The
Company’s line of credit with the FHLB totaling approximately $362 million can
be structured as either short-term or long-term borrowings, depending on the
particular funding or liquidity need and is secured by the Company’s FHLB stock
and a blanket lien on most of its real estate loan portfolio. In addition to
the
outstanding borrowings from the FHLB that reduce the available borrowing
capacity of the line of credit, the borrowing capacity was further reduced
by
$40 million at December 31, 2006 and 2005 as a result of the Company pledging
letters of credit for public deposits at each of those dates. Accordingly,
the
Company’s unused FHLB line of credit was $179 million at December 31,
2006.
The
Company’s correspondent bank relationship allows the Company to purchase up to
$50 million in federal funds on an overnight, unsecured basis (federal funds
purchased). The Company had no borrowings outstanding under this line at
December 31, 2006 or 2005. This line of credit was not drawn upon during any
of
the past three years.
The
Company also has a line of credit with the FRB discount window. This line is
secured by a blanket lien on a portion of the Company’s commercial and consumer
loan portfolio (excluding real estate). Based on the collateral owned by the
Company as of December 31, 2006, the available line of credit is approximately
$74 million. This line of credit was established primarily in connection with
the Company’s Y2K liquidity contingency plan and has not been drawn on since
inception. The FRB has indicated that it would not expect lines of credit that
have been granted to financial institutions to be a primary borrowing source.
The Company plans to maintain this line of credit, although it is not expected
that it will be drawn upon except in unusual circumstances.
Note
10. Leases
Certain
bank premises are leased under operating lease agreements. Generally, operating
leases contain renewal options on substantially the same basis as current rental
terms. Rent expense charged to operations under all operating lease agreements
was $560,000 in 2006, $510,000 in 2005, and $452,000 in 2004.
Future
obligations for minimum rentals under noncancelable operating leases at December
31, 2006 are as follows:
|
(In
thousands)
|
||||
|
Year
ending December 31:
|
||||
|
2007
|
$
|
494
|
||
|
2008
|
443
|
|||
|
2009
|
344
|
|||
|
2010
|
266
|
|||
|
2011
|
222
|
|||
|
Later
years
|
948
|
|||
|
Total
|
$
|
2,717
|
||
Note
11. Employee Benefit Plans
401(k)
Plan.
The
Company sponsors a retirement savings plan pursuant to Section 401(k) of the
Internal Revenue Code. Employees who have completed one year of service are
eligible to participate in the plan. An eligible employee may contribute up
to
15% of annual salary to the plan. The Company contributes an amount equal to
75%
of the first 6% of the employee’s salary contributed. Participants vest in
Company contributions at the rate of 20% after one year of service, and 20%
for
each additional year of service, with 100% vesting after five years of service.
The Company’s matching contribution expense was $710,000, $700,000, and
$607,000, for the years ended December 31, 2006, 2005 and 2004, respectively.
Additionally, the Company made additional discretionary matching contributions
to the plan of $122,500 in 2006, $225,000 in 2005, and $175,000 in 2004. The
Company’s matching and discretionary contributions are made in the form of
Company stock. Employees are not permitted to invest their own contributions
in
Company stock.
Pension
Plan.
The
Company sponsors a noncontributory defined benefit retirement plan (the “Pension
Plan”), which is intended to qualify under Section 401(a) of the Internal
Revenue Code. Employees who have attained age 21 and completed one year of
service are eligible to participate in the Pension Plan. The Pension Plan
provides for a monthly payment, at normal retirement age of 65, equal to
one-twelfth of the sum of (i) 0.75% of Final Average Annual Compensation (5
highest consecutive calendar years’ earnings out of the last 10 years of
employment) multiplied by the employee’s years of service not in excess of 40
years, and (ii) 0.65% of Final Average Annual Compensation in excess of “covered
compensation” multiplied by years of service not in excess of 35 years. “Covered
compensation” means the average of the social security taxable wage base during
the 35 year period ending with the year the employee attains social security
retirement age. Early retirement, with reduced monthly benefits, is available
at
age 55 after 15 years of service. The Pension Plan provides for 100% vesting
after 5 years of service, and provides for a death benefit to a vested
participant’s surviving spouse. The costs of benefits under the Pension Plan,
which are borne by the Company and/or its subsidiaries, are computed actuarially
and defrayed by earnings from the Pension Plan’s investments. The compensation
covered by the Pension Plan includes total earnings before reduction for
contributions to a cash or deferred profit-sharing plan (such as the 401(k)
plan
described above) and amounts used to pay group health insurance premiums and
includes bonuses (such as amounts paid under the incentive compensation plan).
Compensation for the purposes of the Pension Plan may not exceed statutory
limits; such limits were $220,000 in 2006, $210,000 in 2005 and $205,000 in
2004.
The
Company’s contributions to the Pension Plan are based on computations by
independent actuarial consultants and are intended to provide the Company with
the maximum deduction for income tax purposes. The
contributions
are invested to provide for benefits under the Pension Plan. The Company
estimates that its contribution to the Pension Plan will be $1,000,000 in
2007.
Funds
in
the Pension Plan are invested in a mix of investment types in accordance with
the Pension Plan’s investment policy, which is intended to provide a reasonable
return while maintaining proper diversification. Except for Company stock,
all
of the Pension Plan’s assets are invested in an unaffiliated bank money market
account or mutual funds. The investment policy of the Pension Plan does not
permit the use of derivatives, except to the extent that derivatives are used
by
any of the mutual funds invested in by the Pension Plan. The following table
presents information regarding the mix of investments of the Pension Plan’s
assets at December 31, 2006 and its targeted mix, as set out by the Plan’s
investment policy:
|
Investment
type
|
Balance
at
December
31, 2006
|
%
of Total Assets at
December
31, 2006
|
Targeted
%
of
Total Assets
|
|||||||
|
(Dollars
in thousands)
|
||||||||||
|
Fixed
income investments
|
||||||||||
|
Cash/money
market account
|
$
|
239
|
2%
|
|
1%-5
|
%
|
||||
|
US
government bond fund
|
1,390
|
10%
|
|
10%-20
|
%
|
|||||
|
US
corporate bond fund
|
1,385
|
10%
|
|
5%-15
|
%
|
|||||
|
US
corporate high yield bond fund
|
709
|
5%
|
|
0%-10
|
%
|
|||||
|
Equity
investments
|
||||||||||
|
Large
cap value fund
|
2,977
|
21%
|
|
20%-30
|
%
|
|||||
|
Large
cap growth fund
|
2,869
|
20%
|
|
20%-30
|
%
|
|||||
|
Mid-small
cap growth fund
|
2,676
|
19%
|
|
15%-25
|
%
|
|||||
|
Foreign
equity fund
|
1,386
|
9%
|
|
5%-15
|
%
|
|||||
|
Company
stock
|
578
|
4%
|
|
0%-10
|
%
|
|||||
|
Total
|
$
|
14,209
|
100%
|
|
||||||
For
the
years ended December 31, 2006, 2005, and 2004, the Company used an expected
long-term rate-of-return-on-assets assumption of 8.75%, 9.00% and 9.00%,
respectively. The Company arrived at this rate based primarily on a third-party
investment consulting firm’s historical analysis of investment returns, which
indicated that the mix of the Pension Plan’s assets (generally 75% equities and
25% fixed income) can be expected to return approximately 8.75% on a long term
basis.
The
following table reconciles the beginning and ending balances of the Pension
Plan’s benefit obligation, as computed by the Company’s independent actuarial
consultants, and its plan assets, with the difference between the two amounts
representing the funded status of the Pension Plan as of the end of the
respective year.
|
(In
thousands)
|
2006
|
2005
|
2004
|
|||||||
|
Change
in benefit obligation
|
||||||||||
|
Projected
benefit obligation at beginning of year
|
$
|
16,093
|
12,445
|
9,892
|
||||||
|
Service
cost
|
1,387
|
1,137
|
955
|
|||||||
|
Interest
cost
|
902
|
766
|
642
|
|||||||
|
Actuarial
(gain) loss
|
(418
|
)
|
1,829
|
1,013
|
||||||
|
Benefits
paid
|
(190
|
)
|
(84
|
)
|
(57
|
)
|
||||
|
Projected
benefit obligation at end of year
|
17,774
|
16,093
|
12,445
|
|||||||
|
Change
in plan assets
|
||||||||||
|
Plan
assets at beginning of year
|
11,603
|
9,907
|
8,498
|
|||||||
|
Actual
return on plan assets
|
1,296
|
361
|
816
|
|||||||
|
Employer
contributions
|
1,500
|
1,419
|
650
|
|||||||
|
Benefits
paid
|
(190
|
)
|
(84
|
)
|
(57
|
)
|
||||
|
Plan
assets at end of year
|
14,209
|
11,603
|
9,907
|
|||||||
|
Funded
status at end of year
|
$
|
(3,565
|
)
|
(4,490
|
)
|
(2,538
|
)
|
|||
The
accumulated benefit obligation related to the Pension Plan was $11,698,000,
$10,284,000, and $7,817,000 at December 31, 2006, 2005, and 2004,
respectively.
The
following table presents information regarding the amounts recognized in the
consolidated balance sheets as it relates to the Pension Plan, excluding the
related deferred tax assets. The amounts for 2005 reflect the accounting
required prior to the December 31, 2006 adoption of Statement 158 - see Note
1(t) for additional discussion.
|
(In
thousands)
|
2006
|
2005
|
|||||
|
Other
assets - prepaid pension asset
|
$
|
1,497
|
1,642
|
||||
|
Other
liabilities
|
(5,062
|
)
|
–
|
||||
|
$
|
(3,565
|
)
|
1,642
|
||||
The
following table presents information regarding the amounts recognized in
accumulated other comprehensive income (AOCI) at December 31, 2006 as it relates
to the Pension Plan. Prior to the adoption of Statement 158 as of December
31,
2006, there were no amounts recognized in AOCI as it relates to the Pension
Plan.
|
(In
thousands)
|
2006
|
|||
|
Net
(gain)/loss
|
$
|
4,910
|
||
|
Net
transition obligation
|
43
|
|||
|
Prior
service cost
|
109
|
|||
|
Amount
recognized in AOCI before tax effect
|
5,062
|
|||
|
Tax
benefit
|
(1,997
|
)
|
||
|
Net
amount recognized as reduction to AOCI
|
$
|
3,065
|
||
The
following table reconciles the beginning and ending balances of the prepaid
pension cost related to the Pension Plan:
|
(In
thousands)
|
2006
|
2005
|
|||||
|
Prepaid
pension cost as of beginning of fiscal year
|
$
|
1,642
|
1,523
|
||||
|
Net
periodic pension cost for fiscal year
|
(1,645
|
)
|
(1,300
|
)
|
|||
|
Actual
employer contributions
|
1,500
|
|
1,419
|
||||
|
Prepaid
pension asset as of end of fiscal year
|
$
|
1,497
|
1,642
|
||||
Net
pension cost for the Pension Plan included the following components for the
years ended December 31, 2006, 2005 and 2004:
|
(In
thousands)
|
2006
|
2005
|
2004
|
|||||||
|
Service
cost - benefits earned during the period
|
$
|
1,387
|
1,137
|
955
|
||||||
|
Interest
cost on projected benefit obligation
|
902
|
766
|
642
|
|||||||
|
Expected
return on plan assets
|
(1,037
|
)
|
(947
|
)
|
(759
|
)
|
||||
|
Net
amortization and deferral
|
393
|
344
|
307
|
|||||||
|
Net
periodic pension cost
|
$
|
1,645
|
1,300
|
1,145
|
||||||
The
estimated net loss, transition obligation, and prior service cost that will
be
amortized from accumulated other comprehensive income into net periodic pension
cost over the next fiscal year are $245,000, $2,000, and $13,000,
respectively.
The
following table is an estimate of the benefits that will be paid in accordance
with the Pension Plan during the indicated time periods:
|
(In
thousands)
|
Estimated
benefit payments
|
|||
|
Year
ending December 31, 2007
|
$
|
229
|
||
|
Year
ending December 31, 2008
|
270
|
|||
|
Year
ending December 31, 2009
|
291
|
|||
|
Year
ending December 31, 2010
|
335
|
|||
|
Year
ending December 31, 2011
|
431
|
|||
|
Years
ending December 31, 2012-2016
|
4,696
|
|||
Supplemental
Executive Retirement Plan.
The
Company sponsors a Supplemental Executive Retirement Plan (the “SERP Plan”) for
the benefit of certain senior management executives of the Company. The purpose
of the SERP Plan is to provide additional monthly pension benefits to ensure
that each such senior management executive would receive lifetime monthly
pension benefits equal to 3% of his or her final average compensation multiplied
by his or her years of service (maximum of 20 years) to the Company or its
subsidiaries, subject to a maximum of 60% of his or her final average
compensation. The amount of a participant’s monthly SERP benefit is reduced by
(i) the amount payable under the Company’s qualified Pension Plan (described
above), and (ii) fifty percent (50%) of the participant’s primary social
security benefit. Final average compensation means the average of the 5 highest
consecutive calendar years of earnings during the last 10 years of service
prior
to termination of employment. The SERP Plan is an unfunded plan. Payments
are made from the general assets of the Company.
The
following table reconciles the beginning and ending balances of the SERP Plan’s
benefit obligation, as computed by the Company’s independent actuarial
consultants:
|
(In
thousands)
|
2006
|
2005
|
2004
|
|||||||
|
Change
in benefit obligation
|
||||||||||
|
Projected
benefit obligation at beginning of year
|
$
|
3,223
|
2,553
|
1,631
|
||||||
|
Service
cost
|
330
|
247
|
242
|
|||||||
|
Interest
cost
|
202
|
154
|
128
|
|||||||
|
Actuarial
loss
|
403
|
269
|
329
|
|||||||
|
Effect
of amendments
|
–
|
–
|
223
|
|||||||
|
Benefits
paid
|
(25
|
)
|
–
|
–
|
||||||
|
Projected
benefit obligation at end of year
|
4,133
|
3,223
|
2,553
|
|||||||
|
Plan
assets
|
–
|
–
|
–
|
|||||||
|
Funded
status at end of year
|
$
|
(4,133
|
)
|
(3,223
|
)
|
(2,553
|
)
|
|||
The
accumulated benefit obligation related to the SERP Plan was $3,279,000,
$2,556,000, and $2,119,000 at December 31, 2006, 2005, and 2004,
respectively.
The
following table presents information regarding the amounts recognized in the
consolidated balance sheets as it relates to the SERP Plan, excluding the
related deferred tax assets. The amounts for 2005 reflect the accounting
required prior to the December 31, 2006 adoption of Statement 158 - see Note
1(t) for additional discussion:
|
(In
thousands)
|
2006
|
2005
|
|||||
|
Intangible
assets
|
$
|
–
|
273
|
||||
|
Other
assets - prepaid pension asset (liability)
|
(2,546
|
)
|
(1,907
|
)
|
|||
|
Other
liabilities
|
(1,587
|
)
|
(701
|
)
|
|||
|
$
|
(4,133
|
)
|
(2,335
|
)
|
|||
The
following table presents information regarding the amounts recognized in
accumulated other comprehensive income (AOCI) at December 31, 2006 and 2005
as
it relates to the SERP plan.
|
(In
thousands)
|
2006
|
2005
|
|||||
|
Net
(gain)/loss
|
$
|
1,386
|
155
|
||||
|
Prior
service cost
|
201
|
|
273
|
||||
|
Amount
recognized in AOCI before tax effect
|
$
|
1,587
|
428
|
||||
|
Tax
benefit
|
(626
|
)
|
(167
|
)
|
|||
|
Net
amount recognized as reduction to AOCI
|
$
|
961
|
261
|
||||
The
following table reconciles the beginning and ending balances of the prepaid
pension cost related to the SERP plan:
|
(In
thousands)
|
2006
|
2005
|
|||||
|
Prepaid
pension cost as of beginning of fiscal year
|
$
|
(1,907
|
)
|
(1,418
|
)
|
||
|
Net
periodic pension cost for fiscal year
|
(664
|
)
|
(489
|
)
|
|||
|
Benefits
paid
|
25
|
|
–
|
||||
|
Prepaid
pension cost as of end of fiscal year
|
$
|
(2,546
|
)
|
(1,907
|
)
|
||
Net
pension cost for the SERP Plan included the following components for the years
ended December 31, 2006, 2005 and 2004:
|
(In
thousands)
|
2006
|
2005
|
2004
|
|||||||
|
Service
cost - benefits earned during the period
|
$
|
329
|
247
|
242
|
||||||
|
Interest
cost on projected benefit obligation
|
202
|
154
|
128
|
|||||||
|
Net
amortization and deferral
|
133
|
88
|
80
|
|||||||
|
Net
periodic pension cost
|
$
|
664
|
489
|
450
|
||||||
The
estimated net loss and prior service cost that will be amortized from
accumulated other comprehensive income into net periodic pension cost over
the
next fiscal year are $75,000 and $36,000, respectively.
The
following table is an estimate of the benefits that will be paid in accordance
with the SERP Plan during the indicated time periods:
|
(In
thousands)
|
Estimated
benefit payments
|
|||
|
Year
ending December 31, 2007
|
$
|
184
|
||
|
Year
ending December 31, 2008
|
174
|
|||
|
Year
ending December 31, 2009
|
164
|
|||
|
Year
ending December 31, 2010
|
184
|
|||
|
Year
ending December 31, 2011
|
226
|
|||
|
Years
ending December 31, 2012-2016
|
1,649
|
|||
The
following assumptions were used in determining the actuarial information for
the
Pension Plan and the SERP Plan for the years ended December 31, 2006, 2005
and
2004:
|
2006
|
2005
|
2004
|
|||||||||||||||||
|
Pension
Plan
|
SERP
Plan
|
Pension
Plan
|
SERP
Plan
|
Pension
Plan
|
SERP
Plan
|
||||||||||||||
|
Discount
rate used to determine net periodic pension cost
|
5.50%
|
|
5.50%
|
|
6.00%
|
|
6.00%
|
|
6.25%
|
|
6.25%
|
|
|||||||
|
Discount
rate used to calculate end of year liability disclosures
|
5.75%
|
|
5.75%
|
|
5.50%
|
|
5.50%
|
|
6.00%
|
|
6.00%
|
|
|||||||
|
Expected
long-term rate of return on assets
|
8.75%
|
|
n/a
|
9.00%
|
|
n/a
|
9.00%
|
|
n/a
|
||||||||||
|
Rate
of compensation increase
|
5.00%
|
|
5.00%
|
|
5.00%
|
|
5.00%
|
|
5.00%
|
|
5.00%
|
|
|||||||
For
the
year ended December 31, 2004, the Company determined the year end discount
rate
based on discussions with the Company’s third-party actuarial consultant, giving
weight to the year end Moody’s corporate Aa rate and its change during the year,
and the expected cash flows associated with the Company’s retirement payment
obligations. During 2005, the Company adopted a policy that the year end
discount rate would be a rate no greater than the Moody’s Aa corporate bond rate
as of December 31 of each year, rounded up to the nearest quarter point. The
Company believes that this policy is appropriate given the Company’s desire that
the discount rate be based on the rate of return of a high-quality fixed-income
security and the expected cash flows of its retirement obligation.
Note
12. Commitments, Contingencies, and Concentrations of Credit
Risk
See
Note
10 with respect to future obligations under noncancelable operating
leases.
In
the
normal course of business there are various outstanding commitments and
contingent liabilities such as commitments to extend credit, which are not
reflected in the financial statements. As of December 31, 2006,
the
Company
had outstanding loan commitments of $321,131,000, of which $270,592,000 were
at
variable rates and $50,539,000 were at fixed rates. Included in outstanding
loan
commitments were unfunded commitments of $168,941,000 on revolving credit plans,
of which $142,068,000 were at variable rates and $26,873,000 were at fixed
rates.
At
December 31, 2006 and 2005, the Company had $4,459,000 and $4,283,000,
respectively in standby letters of credit outstanding. The Company has no
carrying amount for these standby letters of credit at either of those dates.
The nature of the standby letters of credit is a guarantee made on behalf of
the
Company’s customers to suppliers of the customers to guarantee payments owed to
the supplier by the customer. The standby letters of credit are generally for
terms for one year, at which time they may be renewed for another year if both
parties agree. The payment of the guarantees would generally be triggered by
a
continued nonpayment of an obligation owed by the customer to the supplier.
The
maximum potential amount of future payments (undiscounted) the Company could
be
required to make under the guarantees in the event of nonperformance by the
parties to whom credit or financial guarantees have been extended is represented
by the contractual amount of the financial instruments discussed above. In
the
event that the Company is required to honor a standby letter of credit, a note,
already executed with the customer, is triggered which provides repayment terms
and any collateral. Over the past ten years, the Company has had to honor one
standby letter of credit, which was repaid by the borrower without any loss
to
the Company. Management expects any draws under existing commitments to be
funded through normal operations.
The
Company processes credit card transactions for approximately 575 commercial
merchant clients. As these clients present credit card transactions authorized
by their customers to the Company, the Company deposits funds in their checking
accounts and collects the corresponding amounts due from the credit card issuer.
In the event that the customer disputes the charge, the Company is contractually
liable for any amounts legally due to the customer in the event the Company’s
merchant clients do not make payment. This represents a contingent liability
to
the Company that led to a loss in 2006, as discussed in the following
paragraph.
During
2006, the Company discovered that it had liability associated with a commercial
merchant client that sold furniture over the internet. The furniture store
did
not deliver furniture that its customers had ordered and paid for, and was
unable to immediately refund their credit card purchases. As the furniture
store’s credit card processor, the Company became contractually liable for the
amounts that were required to be refunded. During the second quarter of 2006,
the
furniture store changed management, stated its intention to repay the Company
for all funds advanced, and began making repayments to the Company. At June
30,
2006, the Company recorded a $230,000 loss to reserve for this situation. During
the third quarter of 2006, the furniture store’s financial condition
deteriorated significantly. Accordingly, the Company determined that it should
fully reserve for the entire $1.9 million exposure associated with this
situation, which resulted in recording an additional loss of $1,670,000. The
owners of the furniture store continue to state their intent to repay the
Company, but at this time their ability to do so is uncertain. During the third
quarter of 2006, the Company completed a review of all merchant credit card
customers and concluded that this situation appears to be an isolated event
that
is not likely to recur.
In
1999,
in consultation with the Company’s tax advisors, the Company established an
operating structure involving a real estate investment trust (REIT) that
resulted in a reduction in the Company’s state tax liability to the state of
North Carolina. In late 2004, the North Carolina Department of Revenue indicated
that it would challenge taxpayers engaged in activities deemed to be
“income-shifting,” and they indicated that they believed certain REIT operating
structures were a type of “income-shifting.” During 2005, the North Carolina
Department of Revenue began an audit of the Company’s tax returns for 2001-2004,
which represented all years eligible for audit. In the third quarter of 2005,
based on consultations with the Company’s external auditor and legal counsel,
the Company determined that it should record a $6.3 million loss accrual to
reserve for this issue, which was comprised of $8.6 million in estimated
liability related to taxes due, interest and penalty, less $2.3 million in
related federal tax benefit. In February 2006, the North Carolina Department
of
Revenue announced a “Settlement Initiative” that offered companies with certain
transactions, including those with a REIT operating structure, the opportunity
to resolve
such
matters with reduced penalties by agreeing to participate in the initiative
by
June 15, 2006. Although the Company believes that its tax returns complied
with
the relevant statutes, the board of directors of the Company decided that it
was
in the best interest of the Company to settle this matter by participating
in
the initiative. Based on the terms of the initiative, the Company estimated
that
its total liability to settle the matter would be approximately $6.4 million,
or
$4.3 million net of the federal tax benefit, which was $2.0 million less than
the amount that was originally accrued. Accordingly, in March 2006, the Company
retroactively recorded an adjustment to its fourth quarter of 2005 earnings
to
reverse $2.0 million of tax expense. The aspects of the REIT structure that
gave
rise to this issue were discontinued effective January 1, 2005, and thus the
Company does not believe it has any additional exposure related to this item
beyond the amount of the accrual other than ongoing interest on the unpaid
taxes
amounting to $100,000 per quarter ($65,000 after-tax). Under the terms of the
initiative, March 15, 2007 is the deadline for payment of the amount due to
the
North Carolina Department of Revenue.
The
Company is not involved in any legal proceedings which, in management’s opinion,
could have a material effect on the consolidated financial position of the
Company.
The
Bank
grants primarily commercial and installment loans to customers throughout its
market area, which consists of Anson, Brunswick, Cabarrus, Chatham, Davidson,
Duplin, Guilford, Harnett, Iredell, Lee, Montgomery, Moore, New Hanover,
Randolph, Richmond, Robeson, Rockingham, Rowan, Scotland, Stanly and Wake
Counties in North Carolina, Dillon County in South Carolina, and Montgomery,
Pulaski, Washington and Wythe Counties in Virginia. The real estate loan
portfolio can be affected by the condition of the local real estate market.
The
commercial and installment loan portfolios can be affected by local economic
conditions.
The
Company’s loan portfolio is not concentrated in loans to any single borrower or
to a relatively small number of borrowers. Additionally, management is not
aware
of any concentrations of loans to classes of borrowers or industries that would
be similarly affected by economic conditions.
In
addition to monitoring potential concentrations of loans to particular borrowers
or groups of borrowers, industries and geographic regions, the Company monitors
exposure to credit risk that could arise from potential concentrations of
lending products and practices such as loans that subject borrowers to
substantial payment increases (e.g. principal deferral periods, loans with
initial interest-only periods, etc), and loans with high loan-to-value ratios.
Additionally, there are industry practices that could subject the Company to
increased credit risk should economic conditions change over the course of
a
loan’s life. For example, the Company makes variable rate loans and fixed rate
principal-amortizing loans with maturities prior to the loan being fully paid
(i.e. balloon payment loans). These loans are underwritten and monitored to
manage the associated risks. The Company has determined that there is no
concentration of credit risk associated with its lending policies or
practices.
The
Company’s investment portfolio consists principally of obligations of the United
States, its agencies or its corporations and general obligation municipal
securities. In the opinion of the Company, there is no concentration of credit
risk in its investment portfolio. The Company places its deposits and
correspondent accounts with and sells its federal funds to high quality
institutions. The Company believes credit risk associated with correspondent
accounts is not significant.
Note
13. Fair Value of Financial Instruments
Fair
value estimates as of December 31, 2006 and 2005 and limitations thereon are
set
forth below for the Company’s financial instruments. Please see Note 1(n) for a
discussion of fair value methods and assumptions, as well as fair value
information for off-balance sheet financial instruments.
|
December
31, 2006
|
December
31, 2005
|
||||||||||||
|
(In
thousands)
|
Carrying
Amount
|
Estimated
Fair
Value
|
Carrying
Amount
|
Estimated
Fair
Value
|
|||||||||
|
Cash
and due from banks, noninterest-bearing
|
$
|
43,248
|
43,248
|
32,985
|
32,985
|
||||||||
|
Due
from banks, interest-bearing
|
83,877
|
83,877
|
41,655
|
41,655
|
|||||||||
|
Federal
funds sold
|
19,543
|
19,543
|
28,883
|
28,883
|
|||||||||
|
Securities
available for sale
|
129,964
|
129,964
|
113,613
|
113,613
|
|||||||||
|
Securities
held to maturity
|
13,122
|
13,168
|
11,448
|
11,597
|
|||||||||
|
Presold
mortgages in process of
settlement
|
4,766
|
4,766
|
3,347
|
3,347
|
|||||||||
|
Loans,
net of allowance
|
1,721,449
|
1,706,818
|
1,466,895
|
1,460,119
|
|||||||||
|
Accrued
interest receivable
|
12,158
|
12,158
|
8,947
|
8,947
|
|||||||||
|
Deposits
|
1,695,679
|
1,695,370
|
1,494,577
|
1,494,043
|
|||||||||
|
Securities
sold under agreements
to repurchase
|
43,276
|
43,276
|
33,530
|
33,530
|
|||||||||
|
Borrowings
|
210,013
|
210,426
|
100,239
|
101,671
|
|||||||||
|
Accrued
interest payable
|
5,649
|
5,649
|
3,835
|
3,835
|
|||||||||
Limitations
Of Fair Value Estimates.
Fair
value estimates are made at a specific point in time, based on relevant market
information and information about the financial instrument. These estimates
do
not reflect any premium or discount that could result from offering for sale
at
one time the Company’s entire holdings of a particular financial instrument.
Because no highly liquid market exists for a significant portion of the
Company’s financial instruments, fair value estimates are based on judgments
regarding future expected loss experience, current economic conditions, risk
characteristics of various financial instruments, and other factors. These
estimates are subjective in nature and involve uncertainties and matters of
significant judgment and therefore cannot be determined with precision. Changes
in assumptions could significantly affect the estimates.
Fair
value estimates are based on existing on- and off-balance sheet financial
instruments without attempting to estimate the value of anticipated future
business and the value of assets and liabilities that are not considered
financial instruments. Significant assets and liabilities that are not
considered financial assets or liabilities include net premises and equipment,
intangible and other assets such as foreclosed properties, deferred income
taxes, prepaid expense accounts, income taxes currently payable and other
various accrued expenses. In addition, the income tax ramifications related
to
the realization of the unrealized gains and losses can have a significant effect
on fair value estimates and have not been considered in any of the
estimates.
Note
14. Equity-Based Compensation Plans
At
December 31, 2006, the Company had the following equity-based compensation
plans, all of which are stock option plans: the First Bancorp 2004 Stock Option
Plan, the First Bancorp 1994 Stock Option Plan, and four plans that were assumed
from acquired entities, which are all described below. The Company’s
shareholders approved all equity-based compensation plans, except for those
assumed from acquired companies. As of December 31, 2006, the First Bancorp
2004
Stock Option Plan was the only plan that had shares available for future
grants.
The
First
Bancorp 2004 Stock Option Plan and its predecessor plan, the First Bancorp
1994
Stock Option Plan, were intended to serve as a means of attracting, retaining
and motivating key employees and directors and to associate the interests of
the
plans’ participants with those of the Company and its shareholders. Stock
option
grants
to
non-employee directors have historically had no vesting requirements, whereas,
except as discussed below, stock option grants to employees have generally
had
five-year vesting schedules (20% vesting each year). In April 2004, the Company
granted 128,000 options to employees with no vesting requirements. These options
were granted without any vesting requirements for two reasons - 1) the options
were granted primarily as a reward for past performance and therefore had
already been “earned” in the view of the committee, and 2) to potentially
minimize the impact that any change in accounting standards for stock options
could have on future years’ reported net income. Employee stock option grants
since the April 2004 grant have reverted to having five year vesting periods.
The Company’s options provide for immediate vesting if there is a change in
control (as defined in the plans). Under the terms of these two plans, options
can have a term of no longer than ten years, and all options granted thus far
under these plans have had a term of ten years. Except for grants to directors
(see below), the Company cannot estimate the amount of future stock option
grants at this time. In the past, stock option grants to employees have been
irregular, generally falling into three categories - 1) to attract and retain
new employees, 2) to recognize changes in responsibilities of existing
employees, and 3) to periodically reward exemplary performance. As it relates
to
directors, the Company has historically granted 2,250 stock options to each
of
the Company’s non-employee directors in June of each year, and expects to
continue doing so for the foreseeable future. At December 31, 2006, there were
620,233 options outstanding related to these two plans with exercise prices
ranging from $9.75 to $22.12. At December 31, 2006, there were 1,180,250 shares
remaining available for grant under the First Bancorp 2004 Stock Option Plan.
The
Company also has four stock option plans as a result of assuming plans of
acquired companies. At December 31, 2006, there were 35,871 stock options
outstanding in connection with these plans, with option prices ranging from
$10.22 to $11.49.
The
Company issues new shares when options are exercised.
Prior
to
January 1, 2006, the Company accounted for all of these plans using the
intrinsic value method prescribed by Opinion 25 and related interpretations.
Because all of the Company’s stock options had an exercise price equal to the
market value of the underlying common stock on the date of grant, no
compensation cost had ever been recognized. On January 1, 2006, the Company
adopted Statement 123(R). Statement 123(R) supersedes Opinion 25 (and related
interpretations) and requires that the compensation cost relating to share-based
payment transactions be recognized in the financial statements. Statement 123(R)
permits public companies to adopt its requirements using one of two methods.
The
“modified prospective” method recognizes compensation expense for all stock
options granted after the date of adoption and for all previously granted stock
options that become vested after the date of adoption. The “modified
retrospective” method includes the requirements of the “modified prospective”
method described above, but also permits entities to restate prior period
results based on the amounts previously presented under Statement 123 for
purposes of pro-forma disclosures. The Company has elected to adopt Statement
123(R) under the “modified prospective” method and accordingly has not restated
prior period results.
The
Company measures the fair value of each option award on the date of grant using
the Black-Scholes option-pricing model. The Company determines the assumptions
used in the Black-Scholes option pricing model as follows: the risk-free
interest rate is based on the U.S. Treasury yield curve in effect at the time
of
the grant; the dividend yield is based on the Company’s dividend yield at the
time of the grant (subject to adjustment if the dividend yield on the grant
date
is not expected to approximate the dividend yield over the expected life of
the
option); the volatility factor is based on the historical volatility of the
Company’s stock (subject to adjustment if historical volatility is reasonably
expected to differ from the past); the weighted-average expected life is based
on the historical behavior of employees related to exercises, forfeitures and
cancellations.
The
per
share weighted-average fair value of options granted during 2006, 2005, and
2004
was $6.79, $6.68, and $7.07 respectively, on the date of the grant using the
Black-Scholes option pricing model with the following weighted-average
assumptions:
|
2006
|
2005
|
2004
|
|||
|
Expected
dividend yield
|
3.30%
|
3.08%
|
2.97%
|
||
|
Risk-free
interest rate
|
5.05%
|
3.88%
|
3.49%
|
||
|
Expected
life
|
7
years
|
7
years
|
7
years
|
||
|
Expected
volatility
|
32.56%
|
32.97%
|
36.67%
|
As
noted
above, prior to the adoption of Statement 123(R), the Company applied Opinion
25
to account for its stock options. The following table illustrates the effect
on
net income and earnings per share had the Company accounted for share-based
compensation in accordance with Statement 123(R) for the periods
indicated:
|
Year
Ended
December
31,
|
Year
Ended
December
31,
|
Year
Ended
December
31,
|
||||||||
|
(In
thousands except per share data)
|
2006
|
2005
|
2004
|
|||||||
|
Net
income, as reported
|
$
|
19,302
|
16,090
|
20,114
|
||||||
|
Add:
Stock-based employee compensation expense included in reported net
income,
net of related tax effects
|
246
|
—
|
—
|
|||||||
|
Deduct:
Total stock-based employee compensation expense
determined under fair value based method for
all awards, net of related tax effects
|
(246
|
)
|
(335
|
)
|
(1,291
|
)
|
||||
|
Pro
forma net income
|
$
|
19,302
|
15,755
|
18,823
|
||||||
|
Earnings
per share: Basic
- As reported
|
$ |
1.35
|
1.14
|
1.42
|
||||||
|
Basic
- Pro forma
|
1.35
|
1.11
|
1.33
|
|||||||
|
Diluted
- As reported
|
1.34
|
1.12
|
1.40
|
|||||||
|
Diluted
- Pro forma
|
1.34
|
1.10
|
1.31
|
|||||||
For
the
year ended December 31, 2006, the Company recorded stock-based compensation
expense in the income statement of $325,000, which reduced income before income
taxes by that same amount. The Company recognized $79,000 of income tax benefits
in the income statement during 2006. The impact of stock-based compensation
expense on net income for the year ended December 31, 2006 was to reduce it
by
$246,000, or approximately 1.7 cents basic and diluted earnings per share.
The
2006 stock-based compensation expense related to the vesting of several stock
option grants made prior to January 1, 2006, as well as a grant of 29,250
options (2,250 options to each non-employee director of the Company) on June
1,
2006 with no vesting requirements. This compensation expense was reflected
as an
adjustment to cash flows from operating activities on the Company’s Consolidated
Statement of Cash Flows. At December 31, 2006, the Company had $56,000 of
unrecognized compensation costs related to unvested stock options. The cost
is
expected to be amortized over a weighted-average life of 1.7 years, with $47,000
being expensed in 2007 equally distributed among each of the four quarters,
and
$3,000 being expensed in each of 2008, 2009 and 2010, equally distributed among
each of the four quarters of each year. In addition, as discussed above, the
Company granted 2,250 options, without vesting requirements, to each of its
non-employee directors on June 1, 2006 and expects to continue this grant on
June 1 of each year thereafter.
As
noted
above, certain of the Company’s stock option grants contain terms that provide
for a graded vesting schedule whereby portions of the award vest in increments
over the requisite service period. As provided for under Statement 123(R),
the
Company has elected to recognize compensation expense for awards with graded
vesting schedules on a straight-line basis over the requisite service period
for
the entire award. Statement 123(R) requires companies to recognize compensation
expense based on the estimated number of stock options and awards for which
service is to be rendered. Over the past five years, there have only been nine
forfeitures or expirations,
totaling
13,500 options, and therefore the Company assumes that all options granted
will
become vested.
The
following table presents information regarding the activity since December
31,
2003 related to all of the Company’s stock options outstanding:
|
Options
Outstanding
|
|||||||||||||
|
Number
of
Shares
|
Weighted-
Averag
Exercise
Price
|
Weighted-
Average
Contractual
Term
(years)
|
Aggregate
Intrinsic
Value
|
||||||||||
|
Balance
at December 31, 2003
|
777,759
|
$
|
11.85
|
||||||||||
|
Granted
|
183,230
|
21.35
|
|||||||||||
|
Exercised
|
(181,663
|
)
|
7.83
|
$
|
2,605,000
|
||||||||
|
Forfeited
|
(600
|
)
|
15.32
|
||||||||||
|
Expired
|
–
|
–
|
|||||||||||
|
Balance
at December 31, 2004
|
778,726
|
15.01
|
|||||||||||
|
Granted
|
34,000
|
22.11
|
|||||||||||
|
Exercised
|
(65,844
|
)
|
11.41
|
$
|
804,000
|
||||||||
|
Forfeited
|
(600
|
)
|
15.33
|
||||||||||
|
Expired
|
(3,000
|
)
|
21.70
|
||||||||||
|
Balance
at December 31, 2005
|
743,282
|
15.73
|
|||||||||||
|
Granted
|
29,250
|
21.83
|
|||||||||||
|
Exercised
|
(108,628
|
)
|
10.27
|
$
|
1,205,000
|
||||||||
|
Forfeited
|
(300
|
)
|
15.33
|
||||||||||
|
Expired
|
(7,500
|
)
|
12.61
|
||||||||||
|
Outstanding
at December 31, 2006
|
656,104
|
$
|
16.94
|
5.3
|
$
|
3,214,000
|
|||||||
|
Exercisable
at December 31, 2006
|
636,104
|
$
|
16.96
|
5.3
|
$
|
3,104,000
|
|||||||
The
Company received $1,027,000, $785,000, and $1,081,000 as a result of stock
option exercises during the years ended December 31, 2006, 2005, and 2004
respectively. The Company recorded $117,000, $118,000, and $203,000 in
associated tax benefits from the exercise of nonqualified stock options during
the years ended December 31, 2006, 2005, and 2004, respectively. In accordance
with Statement 123(R), this benefit is included as a financing activity in
the
accompanying Statements of Cash Flows for periods subsequent to the adoption
of
Statement 123(R), but continues to be reported as an operating activity in
periods prior to its adoption.
The
following table summarizes information about the stock options outstanding
at
December 31, 2006:
|
Options
Outstanding
|
Options
Exercisable
|
|||||||||
|
Range
of
Exercise
Prices
|
Number
Outstanding
at
12/31/06
|
Weighted-
Average
Remaining
Contractual
Life
|
Weighted-
Average
Exercise
Price
|
Number
Exercisable
at
12/31/06
|
Weighted-
Average
Exercise
Price
|
|||||
|
$8.85
to $11.06
|
55,694
|
2.7
|
$
10.45
|
55,694
|
$
10.45
|
|||||
|
$11.06
to $13.27
|
76,946
|
2.0
|
11.64
|
76,946
|
11.64
|
|||||
|
$13.27
to $15.48
|
178,484
|
4.5
|
15.28
|
178,484
|
15.28
|
|||||
|
$15.48
to $17.70
|
98,500
|
5.6
|
16.31
|
80,500
|
16.45
|
|||||
|
$17.70
to $19.91
|
31,500
|
7.4
|
19.69
|
31,500
|
19.69
|
|||||
|
$19.91
to $22.12
|
214,980
|
7.5
|
21.78
|
212,980
|
21.78
|
|||||
|
656,104
|
5.3
|
$
16.94
|
636,104
|
$
16.96
|
||||||
Note
15. Regulatory Restrictions
The
Company is regulated by the Board of Governors of the Federal Reserve System
(“FED”) and is subject to securities registration and public reporting
regulations of the Securities and Exchange Commission. The Bank is regulated
by
the Federal Deposit Insurance Corporation (“FDIC”) and the North Carolina Office
of the Commissioner of Banks.
The
primary source of funds for the payment of dividends by the Company is dividends
received from its subsidiary, the Bank. The Bank, as a North Carolina banking
corporation, may pay dividends only out of undivided profits as determined
pursuant to North Carolina General Statutes Section 53-87. As of December 31,
2006, the Bank had undivided profits of approximately $132,708,000 which were
available for the payment of dividends. As of December 31, 2006, approximately
$99,505,000 of the Company’s investment in the Bank is restricted as to transfer
to the Company without obtaining prior regulatory approval.
The
average reserve balance maintained by the Bank under the requirements of the
Federal Reserve was approximately $133,000 for the year ended December 31,
2006.
The
Company and the Bank must comply with regulatory capital requirements
established by the FED and FDIC. 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 and the Bank
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 and Bank’s capital amounts
and classification are also subject to qualitative judgments by the regulators
about components, risk weightings, and other factors. These capital standards
require the Company and the Bank to maintain minimum ratios of “Tier 1” capital
to total risk-weighted assets (“Tier I Capital Ratio”) and total capital to
risk-weighted assets of 4.00% and 8.00% (“Total Capital Ratio”), respectively.
Tier 1 capital is comprised of total shareholders’ equity, excluding unrealized
gains or losses from the securities available for sale, less intangible assets,
and total capital is comprised of Tier 1 capital plus certain adjustments,
the
largest of which for the Company and the Bank is the allowance for loan losses.
Risk-weighted assets refer to the on- and off-balance sheet exposures of the
Company and the Bank, adjusted for their related risk levels using formulas
set
forth in FED and FDIC regulations.
In
addition to the risk-based capital requirements described above, the Company
and
the Bank are subject to a leverage capital requirement, which calls for a
minimum ratio of Tier 1 capital (as defined above) to quarterly
average
total assets (“Leverage Ratio) of 3.00% to 5.00%, depending upon the
institution’s composite ratings as determined by its regulators. The FED has not
advised the Company of any requirement specifically applicable to
it.
In
addition to the minimum capital requirements described above, the regulatory
framework for prompt corrective action also contains specific capital guidelines
applicable to banks for classification as “well capitalized,” which are
presented with the minimum ratios, the Company’s ratios and the Bank’s ratios as
of December 31, 2006 and 2005 in the following table. Based on the most recent
notification from its regulators, the Bank is well capitalized under the
framework for prompt corrective action. There are no conditions or events since
that notification that management believes have changed the Company’s
category.
|
Actual
|
For
Capital
Adequacy
Purposes
|
To
Be Well Capitalized
Under
Prompt Corrective
Action
Provisions
|
|||||||||||||||||
|
($
in thousands)
|
Amount
|
Ratio
|
Amount
|
Ratio
|
Amount
|
Ratio
|
|||||||||||||
|
(must
equal or exceed)
|
(must
equal or exceed)
|
||||||||||||||||||
|
As
of December 31, 2006
|
|||||||||||||||||||
|
Total
Capital Ratio
|
|||||||||||||||||||
|
Company
|
$
|
199,808
|
11.81%
|
|
$
|
135,333
|
8.00%
|
|
$
|
N/A
|
N/A
|
||||||||
|
Bank
|
199,767
|
11.83%
|
|
135,081
|
8.00%
|
|
168,852
|
10.00%
|
|
||||||||||
|
Tier
I Capital Ratio
|
|||||||||||||||||||
|
Company
|
170,096
|
10.05%
|
|
67,667
|
4.00%
|
|
N/A
|
N/A
|
|||||||||||
|
Bank
|
180,820
|
10.71%
|
|
67,541
|
4.00%
|
|
101,311
|
6.00%
|
|
||||||||||
|
Leverage
Ratio
|
|||||||||||||||||||
|
Company
|
170,096
|
8.59%
|
|
79,173
|
4.00%
|
|
N/A
|
N/A
|
|||||||||||
|
Bank
|
180,820
|
9.15%
|
|
79,014
|
4.00%
|
|
98,768
|
5.00%
|
|
||||||||||
|
As
of December 31, 2005
|
|||||||||||||||||||
|
Total
Capital Ratio
|
|||||||||||||||||||
|
Company
|
$
|
162,856
|
11.61%
|
|
$
|
112,204
|
8.00%
|
|
$
|
N/A
|
N/A
|
||||||||
|
Bank
|
162,776
|
11.51%
|
|
113,178
|
8.00%
|
|
141,472
|
10.00%
|
|
||||||||||
|
Tier
I Capital Ratio
|
|||||||||||||||||||
|
Company
|
147,140
|
10.49%
|
|
56,102
|
4.00%
|
|
N/A
|
N/A
|
|||||||||||
|
Bank
|
147,060
|
10.51%
|
|
55,960
|
4.00%
|
|
83,940
|
6.00%
|
|
||||||||||
|
Leverage
Ratio
|
|||||||||||||||||||
|
Company
|
147,140
|
8.60%
|
|
68,441
|
4.00%
|
|
N/A
|
N/A
|
|||||||||||
|
Bank
|
147,060
|
8.61%
|
|
68,335
|
4.00%
|
|
85,419
|
5.00%
|
|
||||||||||
Note
16. Supplementary Income Statement Information
Components
of other noninterest income/expense exceeding 1% of total income for any of
the
years ended December 31, 2006, 2005 and 2004 are as follows:
|
(In
thousands)
|
2006
|
2005
|
2004
|
|||||||
|
Other
gains (losses) - merchant credit card loss - see Note 12
|
$
|
(1,900
|
)
|
—
|
—
|
|||||
|
Other
operating expenses - stationery and supplies
|
1,675
|
1,590
|
1,523
|
|||||||
|
Other
operating expenses - telephone
|
1,273
|
1,260
|
1,345
|
|||||||
|
Other
operating expenses - professional fees
|
756
|
1,090
|
989
|
|||||||
Note
17. Condensed Parent Company Information
Condensed
financial data for First Bancorp (parent company only) follows:
|
CONDENSED
BALANCE SHEETS
|
As
of December 31,
|
||||||
|
(In
thousands)
|
2006
|
2005
|
|||||
|
Assets
|
|||||||
|
Cash
on deposit with bank subsidiary
|
$
|
1,878
|
2,000
|
||||
|
Investment
in wholly-owned subsidiaries, at equity
|
228,845
|
196,170
|
|||||
|
Land
|
7
|
7
|
|||||
|
Other
assets
|
2,598
|
1,993
|
|||||
|
Total
assets
|
$
|
233,328
|
200,170
|
||||
|
Liabilities
and shareholders’ equity
|
|||||||
|
Borrowings
|
$
|
67,013
|
41,239
|
||||
|
Other
liabilities
|
3,610
|
3,203
|
|||||
|
Total
liabilities
|
70,623
|
44,442
|
|||||
|
Shareholders’
equity
|
162,705
|
155,728
|
|||||
|
Total
liabilities and shareholders’ equity
|
$
|
233,328
|
200,170
|
||||
|
CONDENSED
STATEMENTS OF INCOME
|
Year
Ended December 31,
|
|||||||||
|
(In
thousands)
|
2006
|
2005
|
2004
|
|||||||
|
Dividends
from wholly-owned subsidiaries
|
$
|
9,500
|
6,050
|
–
|
||||||
|
Undistributed
earnings of wholly-owned subsidiaries
|
13,882
|
13,155
|
22,332
|
|||||||
|
Interest
expense
|
(4,767
|
)
|
(2,846
|
)
|
(2,086
|
)
|
||||
|
All
other income and expenses, net
|
687
|
(269
|
)
|
(132
|
)
|
|||||
|
Net
income
|
$
|
19,302
|
16,090
|
20,114
|
||||||
|
CONDENSED
STATEMENTS OF CASH FLOWS
|
Year
Ended December 31,
|
|||||||||
|
(In
thousands)
|
2006
|
2005
|
2004
|
|||||||
|
Operating
Activities:
|
||||||||||
|
Net
income
|
$
|
19,302
|
16,090
|
20,114
|
||||||
|
Equity
in undistributed earnings of subsidiaries
|
(13,882
|
)
|
(13,155
|
)
|
(22,332
|
)
|
||||
|
Decrease
(increase) in other assets
|
(605
|
)
|
177
|
122
|
||||||
|
Increase
in other liabilities
|
240
|
325
|
356
|
|||||||
|
Total
- operating activities
|
5,055
|
3,437
|
(1,740
|
)
|
||||||
|
Investing
Activities:
|
||||||||||
|
Downstream
cash investment in subsidiary
|
(22,000
|
)
|
–
|
–
|
||||||
|
Total
- investing activities
|
(22,000
|
)
|
–
|
–
|
||||||
|
Financing
Activities:
|
||||||||||
|
Proceeds
from borrowings
|
25,774
|
–
|
–
|
|||||||
|
Payment
of cash dividends
|
(10,423
|
)
|
(9,761
|
)
|
(9,138
|
)
|
||||
|
Proceeds
from issuance of common stock
|
2,584
|
2,389
|
2,547
|
|||||||
|
Purchases
and retirement of common stock
|
(1,112
|
)
|
–
|
(6,528
|
)
|
|||||
|
Total
- financing activities
|
16,823
|
(7,372
|
)
|
(13,119
|
)
|
|||||
|
Net
decrease in cash and cash equivalents
|
(122
|
)
|
(3,935
|
)
|
(14,859
|
)
|
||||
|
Cash
and cash equivalents, beginning of year
|
2,000
|
5,935
|
20,794
|
|||||||
|
Cash
and cash equivalents, end of year
|
$
|
1,878
|
2,000
|
5,935
|
||||||
REPORT
OF
INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM
To
the
Board of Directors and Shareholders
First
Bancorp
Troy,
North Carolina
We
have
audited the accompanying consolidated balance sheets of First Bancorp and
subsidiaries (the “Company”) as of December 31, 2006 and 2005, and the related
consolidated statements of income, comprehensive income, shareholders' equity
and cash flows for each of the years in the two-year period ended December
31,
2006. We also have audited management's assessment, included in the accompanying
Management’s Report on Internal Control Over Financial Reporting, that the
Company maintained effective internal control over financial reporting as of
December 31, 2006, based on criteria established in Internal Control— Integrated
Framework issued by the Committee of Sponsoring Organizations of the Treadway
Commission (“COSO”). The Company's management is responsible for these
consolidated financial statements, for maintaining effective internal control
over financial reporting, and for its assessment of the effectiveness of
internal control over financial reporting. Our responsibility is to express
an
opinion on these consolidated financial statements, an opinion on management's
assessment, and an opinion on the effectiveness of the Company's internal
control over financial reporting based on our audits.
We
conducted our audits in accordance with the standards of the Public Company
Accounting Oversight Board (United States). Those standards require that we
plan
and perform the audits to obtain reasonable assurance about whether the
financial statements are free of material misstatement and whether effective
internal control over financial reporting was maintained in all material
respects. Our audit of financial statements included examining, on a test basis,
evidence supporting the amounts and disclosures in the financial statements,
assessing the accounting principles used and significant estimates made by
management, and evaluating the overall financial statement presentation. Our
audit of internal control over financial reporting included obtaining an
understanding of internal control over financial reporting, evaluating
management's assessment, testing and evaluating the design and operating
effectiveness of internal control, and performing such other procedures as
we
considered necessary in the circumstances. We believe that our audits provide
a
reasonable basis for our opinions.
A
company's internal control over financial reporting is a process designed to
provide reasonable assurance regarding the reliability of financial reporting
and the preparation of financial statements for external purposes in accordance
with generally accepted accounting principles. A company's internal control
over
financial reporting includes those policies and procedures that (1) pertain
to
the maintenance of records that, in reasonable detail, accurately and fairly
reflect the transactions and dispositions of the assets of the company; (2)
provide reasonable assurance that transactions are recorded as necessary to
permit preparation of financial statements in accordance with generally accepted
accounting principles, and that receipts and expenditures of the company are
being made only in accordance with authorizations of management and directors
of
the company; and (3) provide reasonable assurance regarding prevention or timely
detection of unauthorized acquisition, use, or disposition of the company's
assets that could have a material effect on the financial
statements.
Because
of its inherent limitations, internal control over financial reporting may
not
prevent or detect misstatements. Also, projections of any evaluation of
effectiveness to future periods are subject to the risk that controls may become
inadequate because of changes in conditions, or that the degree of compliance
with the policies or procedures may deteriorate.
In
our
opinion, the financial statements referred to above present fairly, in all
material respects, the financial position of First Bancorp and subsidiaries
as
of December 31, 2006 and 2005, and the results of their operations and their
cash flows for each of the years in the two-year period ended December 31,
2006
in conformity with accounting principles generally accepted in the United States
of America. Also in our opinion, management’s assessment that First Bancorp and
subsidiaries maintained effective internal control over financial reporting
as
of December 31, 2006, is fairly stated, in all material respects, based on
criteria established in Internal Control—Integrated Framework issued by COSO.
Furthermore, in our opinion, First Bancorp and subsidiaries maintained, in
all
material respects, effective internal control over financial reporting as of
December 31, 2006, based on criteria established in Internal Control—Integrated
Framework issued by COSO.
 |
Greenville,
South Carolina
March
6,
2007
Report
of Independent Registered Public Accounting Firm
The
Board
of Directors and Shareholders
First
Bancorp:
We
have
audited the accompanying consolidated statements of income, comprehensive
income, shareholders’ equity and cash flows of First Bancorp and subsidiaries
for the year ended December 31, 2004. These consolidated financial statements
are the responsibility of the Company’s management. Our responsibility is to
express an opinion on these consolidated financial statements based on our
audit.
We
conducted our audit in accordance with the standards of the Public Company
Accounting Oversight Board (United States). 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 audit provides a
reasonable basis for our opinion.
In
our
opinion, the consolidated financial statements referred to above present fairly,
in all material respects, the results of operations and the cash flows of First
Bancorp and subsidiaries for the year ended December 31, 2004, in conformity
with U.S. generally accepted accounting principles.
 |
Charlotte,
North Carolina
March
6,
2005
Item
9. Changes in and Disagreements with Accountants on Accounting and
Financial Disclosures
During
the two years ended December 31, 2006, and any subsequent interim periods,
there
were no disagreements on any matters of accounting principles or practices
or
financial statement disclosures.
Item
9A. Controls and Procedures
As
of the
end of the period covered by this report, we carried out an evaluation, under
the supervision and with the participation of our chief executive officer and
chief financial officer, of the effectiveness of the design and operation of
our
disclosure controls and procedures, which are our controls and other procedures
that are designed to ensure that information required to be disclosed in our
periodic reports with the SEC is recorded, processed, summarized and reported
within the required time periods. Disclosure controls and procedures
include, without limitation, controls and procedures designed to ensure that
information required to be disclosed is communicated to our management to allow
timely decisions regarding required disclosure. Based on the evaluation,
our chief executive officer and chief financial officer concluded that our
disclosure controls and procedures are effective in allowing timely decisions
regarding disclosure to be made about material information required to be
included in our periodic reports with the SEC. In addition, no change in our
internal control over financial reporting has occurred during, or subsequent
to,
the period covered by this report that has materially affected, or is reasonably
likely to materially affect, our internal control over financial
reporting.
Management’s
Report On Internal Control Over Financial Reporting
Management
of First Bancorp and its subsidiaries (the “Company”) is responsible for
establishing and maintaining effective internal control over financial
reporting. Internal control over financial reporting is a process designed
to
provide reasonable assurance regarding the reliability of financial reporting
and the preparation of financial statements for external purposes in accordance
with U.S. generally accepted accounting principles.
Under
the
supervision and with the participation of management, including the principal
executive officer and principal financial officer, the Company conducted an
evaluation of the effectiveness of internal control over financial reporting
based on the framework in Internal Control - Integrated Framework issued by
the
Committee of Sponsoring Organizations of the Treadway Commission. Based on
this
evaluation under the framework in Internal Control - Integrated Framework,
management of the Company has concluded the Company maintained effective
internal control over financial reporting, as such term is defined in Securities
Exchange Act of 1934 Rules 13a-15(f), as of December 31, 2006.
Internal
control over financial reporting cannot provide absolute assurance of achieving
financial reporting objectives because of its inherent limitations. Internal
control over financial reporting is a process that involves human diligence
and
compliance and is subject to lapses in judgment and breakdowns resulting from
human failures. Internal control over financial reporting can also be
circumvented by collusion or improper management override. Because of such
limitations, there is a risk that material misstatements may not be prevented
or
detected on a timely basis by internal control over financial reporting.
However, these inherent limitations are known features of the financial
reporting process. Therefore, it is possible to design into the process
safeguards to reduce, though not eliminate, this risk.
Management
is also responsible for the preparation and fair presentation of the
consolidated financial statements and other financial information contained
in
this report. The accompanying consolidated financial statements were prepared
in
conformity with U.S. generally accepted accounting principles and include,
as
necessary, best estimates and judgments by management.
Elliott
Davis, PLLC, an independent, registered public accounting firm, has audited
the
Company’s consolidated financial statements as of and for the year ended
December 31, 2006, and the Company’s assertion as to the effectiveness of
internal control over financial reporting as of December 31, 2006, as
stated in their report, which is included in Item 8 hereof.
|
/s/
Jerry L. Ocheltree
|
|
/s/
Eric P. Credle
|
|
Jerry
L. Ocheltree
|
Eric
P. Credle
|
|
|
President
and
|
|
Senior
Vice President and
|
|
Chief
Executive Officer
|
|
Chief
Financial Officer
|
|
|
|
|
|
March
6, 2007
|
|
|
Item
9B. Other Information
Not
applicable.
PART
III
Item
10. Directors, Executive Officers and Corporate
Governance
Incorporated
herein by reference is the information under the captions “Directors, Nominees
and Executive Officers,” “Section 16(a) Beneficial Ownership Reporting
Compliance,” “Corporate Governance Policies and Practices” and “Board Committees,
Attendance and Compensation” from the
Company’s definitive proxy statement to be filed pursuant to Regulation
14A.
Item
11. Executive Compensation
Incorporated
herein by reference is the information under the captions “Executive
Compensation” and “Board Committees, Attendance and Compensation” from the
Company’s definitive proxy statement to be filed pursuant to Regulation
14A.
Item
12. Security Ownership of Certain Beneficial Owners and
Management and Related Shareholder Matters
Incorporated
herein by reference is the information under the captions “Principal Holders of
First Bancorp Voting Securities” and “Directors, Nominees and Executive
Officers” from the Company’s definitive proxy statement to be filed pursuant to
Regulation 14A.
Additional
Information Regarding the Registrant’s Equity Compensation
Plans
At
December 31, 2006, the Company had six equity compensation plans. Each of these
plans is a stock option plan. Four of the six plans were assumed in corporate
acquisitions. The Company’s 2004 Stock Option Plan is the only one of the six
plans for which new grants of stock options are possible.
The
following table presents information as of December 31, 2006 regarding shares
of
the Company’s stock that may be issued pursuant to the Company’s stock options
plans. The table does not include information with respect to shares subject
to
outstanding options granted under stock incentive plans assumed by the Company
in connection with mergers and acquisitions of companies that originally granted
those options. Footnote (2) to the table indicates the total number of shares
of
common stock issuable upon the exercise of options under the assumed plans
as of
December 31, 2006, and the weighted average exercise price of those options.
No
additional options may be granted under those assumed plans. The Company has
no
warrants or stock appreciation rights outstanding.
|
As
of December 31, 2006
|
||||||
|
(a)
|
(b)
|
(c)
|
||||
|
Plan
category
|
Number
of securities to
be
issued upon exercise
of
outstanding options
|
Weighted-average
exercise
price of
outstanding
options
|
Number
of securities available for
future
issuance under equity
compensation
plans (excluding
securities
reflected in column (a))
|
|||
|
Equity
compensation
plans
approved by
security
holders (1)
|
620,233
|
$
16.96
|
1,193,740
|
|||
|
Equity
compensation
plans
not approved by
security
holders
|
–
|
–
|
–
|
|||
|
Total
|
620,233
|
$
16.96
|
1,193,740
|
|||
(1)
Consists of (A) the Company’s 2004 Stock Option Plan, which is currently in
effect and (B) the Company’s 1994 Option Plan, each of which was approved by
shareholders.
The
table
does not include information for stock incentive plans that the Company assumed
in connection with mergers
and
acquisitions of the companies that originally established those plans. As of
December 31, 2006, a total of 35,871 shares of common stock were issuable upon
exercise under those assumed plans. The weighted average exercise price of
those
outstanding options is $10.88 per share. No additional options may be granted
under those assumed plans.
Item
13. Certain Relationships and Related Transactions, and Director
Independence
Incorporated
herein by reference is the information under the caption “Certain Transactions”
and “Corporate Governance Policies and Practices” from the Company’s definitive
proxy statement to be filed pursuant to Regulation 14A.
Item
14. Principal Accountant Fees and Services
Incorporated
herein by reference is the information under the caption “Audit Committee
Report” from the Company’s definitive proxy statement to be filed pursuant to
Regulation 14A.
Item
15. Exhibits and Financial Statement Schedules
|
(a)
|
1.
|
Financial
Statements - See Item 8 and the Cross Reference Index on page 2
for
information concerning the Company’s consolidated financial statements and
report of independent auditors.
|
|
2.
|
Financial
Statement Schedules - not applicable
|
|
|
3.
|
Exhibits
|
|
|
The
following exhibits are filed with this report or, as noted, are
incorporated by reference. Management contracts, compensatory plans
and
arrangements are marked with an asterisk
(*).
|
|
3.a
|
Copy
of Articles of Incorporation of the Company and amendments thereto
were
filed as Exhibits 3.a.i through 3.a.v to the Company’s Quarterly Report on
Form 10-Q for the period ended June 30, 2002, and are incorporated
herein
by reference.
|
|
3.b
|
Copy
of the Amended and Restated Bylaws of the Company was filed as
Exhibit 3.b
to the Company’s Annual Report on Form 10-K for the year ended December
31, 2003, and is incorporated herein by
reference.
|
|
4
|
Form
of Common Stock Certificate was filed as Exhibit 4 to the Company’s
Quarterly Report on Form 10-Q for the quarter ended June 30, 1999,
and is
incorporated herein by reference.
|
|
10
|
Material
Contracts
|
|
10.a
|
Data
Processing Agreement dated October 1, 1984 by and between Bank
of
Montgomery (First Bank) and Montgomery Data Services, Inc. was
filed as
Exhibit 10(k) to the Registrant's Registration Statement Number
33-12692,
and is incorporated herein by
reference.
|
|
10.b
|
First
Bancorp Annual Incentive Plan was filed as Exhibit 10(a) to the
Form 8-K
filed on February 2, 2007 and is incorporated herein by reference.
The
target awards under this plan for the named executive officers
and the
performance goals established by the Board of Directors for 2007
were also
disclosed in this filing. (*)
|
|
10.c
|
Indemnification
Agreement between the Company and its Directors and Officers was
filed as
Exhibit 10(t) to the Registrant's Registration Statement Number
33-12692,
and is incorporated herein by
reference.
|
|
10.d
|
First
Bancorp Senior Management Supplemental Executive Retirement Plan
was filed
as Exhibit 10.1 to the Company's Form 8-K filed on December 22,
2006, and
is incorporated herein by reference.
(*)
|
|
10.e
|
First
Bancorp 1994 Stock Option Plan was filed as Exhibit 10(f) to the
Company's
Annual Report on Form 10-K for the year ended December 31, 2001,
and is
incorporated herein by reference.
(*)
|
|
10.f
|
First
Bancorp 2004 Stock Option Plan was filed as Exhibit B to the Registrant's
Form Def 14A filed on March 30, 2004 and is incorporated herein
by
reference. (*)
|
| 10.g |
Employment
Agreement between the Company and Anna G. Hollers dated August
17, 1998
was filed as Exhibit 10(m) to the Company's Quarterly
Report on Form 10-Q for the quarter ended September 30, 1998, and
is
incorporated by reference (Commission File Number 000-15572).
(*)
|
|
10.h
|
Employment
Agreement between the Company and Teresa C. Nixon dated August
17, 1998
was filed as Exhibit 10(n) to the Company's Quarterly Report on
Form 10-Q
for the quarter ended September 30, 1998, and is incorporated by
reference
(Commission File Number 000-15572).
(*)
|
|
10.i
|
Employment
Agreement between the Company and Eric P. Credle dated August 17,
1998 was
filed as Exhibit 10(p) to the Company's Annual Report on Form 10-K
for the
year ended December 31, 1998, and is incorporated herein by reference
(Commission File Number
333-71431).(*)
|
|
10.j
|
Employment
Agreement between the Company and John F. Burns dated September
14, 2000
was filed as Exhibit 10.w to the Company's Quarterly Report on
Form 10-Q
for the quarter ended September 30, 2000 and is incorporated herein
by
reference. (*)
|
|
10.k
|
Employment
Agreement between the Company and James G. Hudson, Jr. dated May
17, 2001
was filed as Exhibit 10(p) to the Company's Annual Report on Form
10-K for
the year ended December 31, 2001, and is incorporated herein by
reference.
(*)
|
|
10.l
|
Amendment
to the employment agreement between the Company and James G. Hudson,
Jr.
dated April 26, 2005 was filed as Exhibit 10.a to the Form 8-K
filed on
April 29, 2005 and is incorporated herein by reference.
(*)
|
|
10.m
|
Employment
Agreement between the Company and R. Walton Brown dated January
15, 2003
was filed as Exhibit 10(b) to the Company's Quarterly Report on
Form 10-Q
for the quarter ended June 30, 2003 and is incorporated herein
by
reference. (*)
|
|
10.n
|
Amendment
to the employment agreement between the Company and R. Walton Brown
dated
March 8, 2005 was filed as Exhibit 10.n to the Company's Annual
Report on
Form 10-K for the year ended December 31, 2004 and is incorporated
herein
by reference. (*)
|
|
10.o
|
Employment
Agreement between the Company and Jerry L. Ocheltree was filed
as Exhibit
10.1 to the Form 8-K filed on January 25, 2006, and is incorporated
herein
by reference. (*)
|
|
10.p
|
First
Bancorp Long Term Care Insurance Plan was filed as Exhibit 10(o)
to the
Company's Quarterly Report on Form 10-Q for the quarter ended September
30, 2004, and is incorporated by reference.
(*)
|
|
10.q
|
Description
of Director Compensation pursuant to Item 601(b)(10)(iii)(A) of
Regulation
S-K was filed as Exhibit 10.s to the Company's Annual Report on
Form 10-K
for the year ended December 31, 2005 and is incorporated herein
by
reference.
|
|
10.r
|
Advances
and Security Agreement with the Federal Home Loan Bank of Atlanta
dated
February 15, 2005 was attached as Exhibit 99(a) to the Form 8-K
filed on February 22, 2005, and is incorporated herein by
reference
|
|
10.s
|
The
2007 base salaries for certain of the Company’s executive officers were
disclosed in the Company’s Form 8-K filed on December 22, 2006, and is
incorporated herein by reference.
(*)
|
|
10.t
|
Consulting
Agreement between the Company and James H. Garner dated December
4, 2006
was filed as Exhibit 10.1 to the Company's Form 8-K filed on December
4,
2006, and is incorporated by reference (Commission File Number
000-15572).
|
|
List
of Subsidiaries of Registrant.
|
|
Consent
of Independent Registered Public Accounting Firm, Elliott Davis,
PLLC
|
|
Consent
of Independent Registered Public Accounting Firm, KPMG
LLP
|
|
Certification
Pursuant to 18 U.S.C. Section 1350, as Adopted Pursuant to Section
302(a)
of the Sarbanes-Oxley Act of 2002.
|
|
Certification
Pursuant to 18 U.S.C. Section 1350, as Adopted Pursuant to Section
302(a)
of the Sarbanes-Oxley Act of 2002.
|
|
Chief
Executive Officer Certification Pursuant to 18 U.S.C. Section 1350,
as
Adopted Pursuant to Section 906 of the Sarbanes-Oxley Act of
2002.
|
|
Chief
Financial Officer Certification Pursuant to 18 U.S.C. Section 1350,
as
Adopted Pursuant to Section 906 of the Sarbanes-Oxley Act of
2002
|
| (b) |
Exhibits
- see (a)(3) above
|
| (c) |
No
financial statement schedules are filed
herewith.
|
Copies
of exhibits are available upon written request to: First Bancorp, Anna G.
Hollers, Executive Vice President, P.O. Box 508, Troy, NC
27371
SIGNATURES
Pursuant
to the requirements of Section 13 or 15(d) of the Securities Exchange Act of
1934, FIRST BANCORP has duly caused this Annual Report on Form 10-K to be signed
on its behalf by the undersigned, thereunto duly authorized, in the City of
Troy, and State of North Carolina, on the 12th
day of
March 2007.
First
Bancorp
By:
/s/
Jerry L. Ocheltree
Jerry
L.
Ocheltree
President,
Chief Executive Officer and Treasurer
Pursuant
to the requirements of the Securities Exchange Act of 1934, this report has
been
signed on behalf of the Company by the following persons and in the capacities
and on the dates indicated.
Executive
Officers
/s/
Jerry L. Ocheltree
Jerry
L.
Ocheltree
President,
Chief Executive Officer and Treasurer
|
/s/
Anna G. Hollers
Anna
G. Hollers
Executive
Vice President
Chief
Operating Officer / Secretary
March
12, 2007
|
/s/
Eric P. Credle
Eric
P. Credle
Senior
Vice President
Chief
Financial Officer
(Principal
Accounting Officer)
March
12, 2007
|
|
Board
of Directors
|
|
|
/s/
David L. Burns
David
L. Burns
Chairman
of the Board
Director
March
6, 2007
|
/s/
Thomas F. Phillips
Thomas
F. Phillips
Director
March
6, 2007
|
|
/s/
Jack D. Briggs
Jack
D. Briggs
Director
March
6, 2007
|
/s/
Edward T. Taws, Jr.
Edward
T. Taws, Jr.
Director
March
6, 2007
|
|
/s/
R. Walton Brown
R.
Walton Brown
Director
March
6, 2007
|
/s/
Frederick L. Taylor II
Frederick
L. Taylor II
Director
March
6, 2007
|
|
/s/
H. David Bruton
H.
David Bruton
Director
March
6, 2007
|
/s/
Virginia C. Thomasson
Virginia
C. Thomasson
Director
March
6, 2007
|
|
/s/
John F. Burns
John
F. Burns
Director
March
6, 2007
|
/s/
Goldie H. Wallace
Goldie
H. Wallace
Director
March
6, 2007
|
|
/s/
Mary Clara Capel
Mary
Clara Capel
Director
March
6, 2007
|
/s/
A. Jordan Washburn
A.
Jordan Washburn
Director
March
6, 2007
|
|
/s/
James G. Hudson, Jr.
James
G. Hudson, Jr.
Director
March
6, 2007
|
/s/
Dennis A. Wicker
Dennis
A. Wicker
Director
March
6, 2007
|
|
/s/
Jerry L. Ocheltree
Jerry
L. Ocheltree
Director
March
6, 2007
|
John
C. Willis
Director
March
6, 2007
|
|
/s/
George R. Perkins, Jr.
George
R. Perkins, Jr.
Director
March
6, 2007
|
112