SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
Form 10-Q
|X| QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF
THE SECURITIES EXCHANGE ACT OF 1934
For the quarterly period ended September 30, 2002
OR
|_| TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF
THE SECURITIES EXCHANGE ACT OF 1934
Commission File No. 000-16461
COMMUNITY BANCSHARES, INC.
(Exact name of registrant as specified in its charter)
Delaware 63-0868361
(State or other jurisdiction of (I.R.S. Employer Identification No.)
incorporation or organization)
68149 Main Street
Blountsville, Alabama 35031
(Address of principal executive offices)
(205) 429-1000
(Registrant's telephone number)
Indicate by check mark whether the registrant (1) has filed all reports
required to be filed by Section 13 or 15(d) of the Securities Exchange Act of
1934 during the preceding 12 months (or for such shorter period that the
registrant was required to file such reports), and (2) has been subject to such
filing requirements for the past 90 days: |X| yes |_| no
Indicate by check mark whether the registrant is an accelerated filer (as
defined in Rule 12b-2 of the Exchange Act)
|_|yes |X|no
APPLICABLE ONLY TO CORPORATE ISSUERS:
As of October 31, 2002, there were 4,651,912 shares of the registrant's
common stock, $.10 par value shares, outstanding.
FORM 10-Q
COMMUNITY BANCSHARES, INC.
SEPTEMBER 30, 2002
Table of Contents Page No.
Part 1 - Financial Information
Item 1 - Consolidated Financial Statements (Unaudited)
Consolidated Statements of Financial Condition as of
September 30, 2002 and December 31, 2001................................... 3
Consolidated Statements of Income and Consolidated Statements of Comprehensive
Income for the Three Months Ended September 30, 2002 and 2001.............. 4 - 6
Consolidated Statements of Income and Consolidated Statements of Comprehensive
Income for the Nine Months Ended September 30, 2002 and 2001............... 7 - 9
Consolidated Statements of Cash Flows for the Nine Months Ended
September 30, 2002 and 2001................................................ 10 - 11
Notes to Consolidated Financial Statements..................................... 12 - 21
Item 2 - Management's Discussion and Analysis of
Financial Condition and Results of Operations.............................. 22 - 28
Item 3 - Quantitative and Qualitative Disclosures About Market Risk..................... 29
Item 4 - Controls and Procedures........................................................ 30
Part 2 - Other Information
Item 1 - Legal Proceedings.............................................................. 31
Item 6 - Exhibits and Reports on Form 8-K............................................... 31
Forward looking information
Certain statements in this Report are "forward-looking statements" within
the meaning of Section 27A of the Securities Act of 1933, as amended, and
Section 21E of the Securities Exchange Act of 1934, as amended. These
forward-looking statements are not based on historical facts and may be
identified by their reference to a future period or by the use of
forward-looking terminology, such as "anticipate," "estimate," "expect," "may"
and "should." These forward-looking statements include, without limitation,
those relating to the Company's future growth and profitability, economic
prospects of market areas, dividends, pending litigation, branch office
divestitures, non-compliant or impaired loans, capital requirements, operating
strategy, deposits, consumer base, allowance for loan losses, non-performing
assets, interest rate sensitivity, market risk and impact of inflation. We
caution you not to place undue reliance on these forward-looking statements.
Actual results could differ materially from those indicated in such
forward-looking statements due to a variety of factors. These factors include,
but are not limited to, changes in economic conditions and government fiscal and
monetary policies, changes in prevailing interest rates and effectiveness of the
Company's interest rate strategies, laws, regulations and regulatory authorities
affecting financial institutions, changes in and effectiveness of the Company's
operating or expansion strategies, geographic concentration of the Company's
assets and operations, including, but not limited to consummation of proposed
settlements, competition from other financial services companies, unexpected
financial results or outcomes of legal proceedings, the effects of recent bank
sales, changes in accounting rules and securities laws and other risks detailed
from time to time in the Company's press releases and filings with the
Securities and Exchange Commission. We undertake no obligation to update these
forward-looking statements to reflect events or circumstances occurring after
the date of this Report.
2
PART 1
Item 1 - Financial Statements
CONSOLIDATED STATEMENTS OF FINANCIAL CONDITION
COMMUNITY BANCSHARES, INC. AND SUBSIDIARIES
September 30, 2002
(Unaudited) December 31, 2001
Assets ------------------ -----------------
Cash ................................................................ $ 6,128,607 $ 8,312,263
Due from banks ....................................................... 16,147,574 14,724,745
Interest-bearing deposits with banks. ................................ 200,000 200,000
Federal funds sold ................................................... 18,210,000 30,000,000
Securities available for sale ........................................ 122,717,263 121,679,303
Capitalized lease receivable.......................................... 3,076,614 -
Loans ................................................................ 372,618,680 501,583,650
Less: Unearned income. ............................................... 47,582 63,991
Allowance for loan losses ......................................... 8,637,875 7,292,370
----------- -----------
Net Loans ......................................................... 363,933,223 494,227,289
Premises and equipment, net .......................................... 26,598,943 39,626,868
Accrued interest. .................................................... 4,527,400 7,061,043
Intangibles, net. .................................................... 2,544,793 2,629,682
Other real estate .................................................... 7,793,862 4,287,273
Other assets ......................................................... 7,956,812 6,751,759
Total Assets....................................................... $ 579,835,091 $ 729,500,225
=========== ===========
Liabilities and Shareholders' Equity
Deposits:
Noninterest-bearing................................................ $ 56,751,713 $ 67,695,615
Interest-bearing................................................... 412,811,259 550,010,415
----------- ===========
Total Deposits ................................................. 469,562,972 617,706,030
Other short-term borrowings .......................................... 1,481,886 4,359,927
Accrued interest. .................................................... 3,449,019 4,400,000
FHLB borrowing ....................................................... 38,000,000 38,000,000
Capitalized lease obligations ........................................ 4,076,363 5,766,076
Long-term debt ....................................................... 3,852,550 4,666,599
Guaranteed preferred beneficial interest in the
Company's junior subordinated deferrable interest debentures ...... 10,000,000 10,000,000
Other liabilities .................................................... 5,772,067 4,297,542
----------- -----------
Total Liabilities ................................................. 536,194,857 689,196,174
Shareholders' Equity
Preferred stock, par value $.01 per share, 200,000 shares
authorized, no shares issued ...................................... - -
Common stock, par value $.10 per share, 20,000,000
shares authorized, 4,828,011 and 4,808,331 shares issued, as of
September 30, 2002 and December 31 2001, respectively.............. 482,801 480,833
Capital surplus ...................................................... 30,825,834 30,753,008
Retained earnings .................................................... 13,585,083 12,028,982
Treasury Stock, 20,803 shares ........................................ (396,768) (396,768)
Unearned ESOP shares - 155,296 and 174,267 shares
as of September 30, 2002 and December 31, 2001, respectively ...... (2,063,098) (2,317,902)
Accumulated other comprehensive income (loss)......................... 1,206,382 (244,102)
----------- -----------
Total Shareholders' Equity ........................................ 43,640,234 40,304,051
----------- -----------
Total Liabilities and Shareholders' Equity............................... $ 579,835,091 $ 729,500,225
=========== ===========
See notes to consolidated financial statements
3
CONSOLIDATED STATEMENTS OF INCOME
COMMUNITY BANCSHARES, INC. AND SUBSIDIARIES
(UNAUDITED)
For the Three Months Ended September 30,
----------------------------------------
2002 2001
Interest Income ------------ -------------
Interest and fees on loans............................................ $ 8,248,749 $ 12,440,605
Interest on investment securities:
Taxable securities................................................. 1,599,851 1,690,510
Securities exempt from federal income taxes ....................... 94,881 165,728
Interest on federal funds sold ....................................... 76,313 183,228
Interest on deposits in other banks .................................. 9,087 7,670
------------ -------------
Total Interest Income ............................................. 10,028,881 14,487,741
------------ -------------
Interest Expense
Interest on deposits ................................................. 3,290,504 6,741,849
Interest on other short-term borrowings .............................. 2,601 30,397
Interest on capitalized lease obligations. ........................... 48,940 93,766
FHLB borrowings ...................................................... 575,868 659,790
Interest on long-term debt. .......................................... 48,073 81,186
Interest on guaranteed preferred
beneficial interest in the
Company's junior subordinated
deferrable interest debentures .................................... 313,331 280,303
------------ -------------
Total Interest Expense ......................................... 4,279,317 7,887,291
------------ -------------
Net Interest Income. .................................................... 5,749,564 6,600,450
Provision for loan losses ............................................ 2,389,403 2,448,577
------------ -------------
Net Interest Income After Provision For Loan Losses...................... 3,360,161 4,151,873
Noninterest Income
Service charges on deposits .......................................... 777,935 996,401
Insurance commissions. ............................................... 500,392 483,932
Bank club dues ....................................................... 112,239 164,153
Debt cancellation fees ............................................... 65,585 129,803
Gain on sale of branches.............................................. - -
Other operating income ............................................... 245,228 230,683
Investment securities gains .......................................... 305,180 155,113
------------ -------------
Total Noninterest Income........................................... 2,006,559 2,160,085
------------ -------------
Noninterest Expenses
Salaries and employee benefits ....................................... 3,579,141 3,897,369
Occupancy expense .................................................... 579,363 748,007
Furniture and equipment expense. ..................................... 417,435 476,655
Director and committee fees .......................................... 113,750 116,818
Net loss on sale or writedown of other real estate owned.............. 1,359,597 -
Net (gain) loss on disposal of assets................................. 18,760 -
Other operating expenses ............................................. 3,626,615 2,082,597
------------ -------------
Total Noninterest Expenses ........................................ 9,694,661 7,321,446
------------ -------------
Income (loss) from continuing operations before income taxes ............ (4,327,941) (1,009,488)
Income tax expense (benefit)............................................. (1,824,406) 23,802
------------ -------------
Income (Loss) from continuing operations........................... (2,503,535) (1,033,290)
------------ -------------
See notes to consolidated financial statements
4
CONSOLIDATED STATEMENTS OF INCOME - CONTINUED
COMMUNITY BANCSHARES, INC. AND SUBSIDIARIES
(UNAUDITED)
For the Three Months Ended September 30,
----------------------------------------
2002 2001
------------- --------------
Discontinued Operations (Note - 2)
Income from operations of divested branches .......................... - -
Income tax expense.................................................... - -
------------- --------------
Gain from discontinued operations........................................ - -
------------- --------------
Net Income (Loss)............................................... $ (2,503,535) $ (1,033,290)
============= ==============
Earnings (loss) from continuing operations per common share - basic...... $ (0.54) $ (0.22)
Earnings (loss) from continuing operations per common share - diluted.... $ (0.54) $ (0.22)
Earnings (loss) from discontinued operations per common share - basic.... $ - $ -
Earnings (loss) from discontinued operations per common share - diluted.. $ - $ -
Earnings (loss) per common share - basic................................. $ (0.54) $ (0.22)
Earnings (loss) per common share - diluted............................... $ (0.54) $ (0.22)
Dividends per share...................................................... $ - $ -
See notes to consolidated financial statements
5
CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME
COMMUNITY BANCSHARES, INC. AND SUBSIDIARIES
(UNAUDITED)
For the Three Months Ended September 30,
----------------------------------------
2002 2001
------------- --------------
Net Income (loss)......................................................... $ (2,503,535) $ (1,033,290)
Components of other comprehensive income:
Unrealized holding gains arising during the period
before income tax and reclassification adjustments ................. 2,515,058 1,664,411
Reclassification adjustments for net (gains) included in net income ... (305,180) (155,113)
------------- --------------
Other comprehensive gains (losses), before income taxes ............... 2,209,878 1,509,298
Income tax (expense) benefit related to other comprehensive income..... 319,861 603,719
------------- --------------
Total other comprehensive income (loss), net of income tax............. 1,890,017 905,579
------------- --------------
Comprehensive income (loss).............................................. $ (613,518) $ (127,711)
============= ==============
See notes to consolidated financial statements
6
CONSOLIDATED STATEMENTS OF INCOME
COMMUNITY BANCSHARES, INC. AND SUBSIDIARIES
(UNAUDITED)
For the Nine Months Ended September 30,
---------------------------------------
2002 2001
Interest Income ------------ -------------
Interest and fees on loans............................................ $ 25,540,746 $ 30,435,613
Interest on investment securities:
Taxable securities................................................. 4,745,144 4,550,408
Securities exempt from federal income taxes ....................... 364,377 526,906
Interest on federal funds sold ....................................... 302,503 453,562
Interest on deposits in other banks .................................. 23,511 36,374
------------ -------------
Total Interest Income ............................................. 30,976,281 36,002,863
------------ -------------
Interest Expense
Interest on deposits ................................................. 10,232,158 16,112,454
Interest on other short-term borrowings .............................. 34,814 30,252
Interest on capitalized lease obligations. ........................... 179,125 325,846
FHLB borrowings ...................................................... 1,708,827 1,826,871
Interest on long-term debt. .......................................... 153,108 273,619
Interest on guaranteed preferred
beneficial interest in the
Company's junior subordinated
deferrable interest debentures .................................... 873,937 840,909
------------ -------------
Total Interest Expense. ........................................ 13,181,969 19,409,951
------------ -------------
Net Interest Income. .................................................... 17,794,312 16,592,912
Provision for loan losses ............................................ 6,443,255 4,548,481
------------ -------------
Net Interest Income After Provision For Loan Losses...................... 11,351,057 12,044,431
Noninterest Income
Service charges on deposits .......................................... 2,314,086 2,374,680
Insurance commissions. ............................................... 1,593,052 1,436,982
Bank club dues ....................................................... 329,009 351,885
Debt cancellation fees ............................................... 204,439 312,709
Other operating income ............................................... 872,623 884,706
Investment securities gains .......................................... 429,121 533,134
------------ -------------
Total Noninterest Income........................................... 5,742,330 5,894,096
------------ -------------
Noninterest Expenses
Salaries and employee benefits ....................................... 10,789,335 10,284,199
Occupancy expense .................................................... 1,731,289 1,676,266
Furniture and equipment expense. ..................................... 1,243,194 1,232,433
Director and committee fees .......................................... 315,750 335,799
Net loss on sale or writedown of other real estate owned.............. 1,563,201 -
Net loss on disposal of assets........................................ 334,185 -
Other operating expenses ............................................. 7,520,668 5,540,358
------------ -------------
Total Noninterest Expenses ........................................ 23,497,622 19,069,055
------------ -------------
Income (loss) from continuing operations before income taxes ............ (6,404,235) (1,130,528)
Income tax expense (benefit)............................................. (2,033,004) (119,393)
------------ -------------
Income (Loss) from continuing operations........................... (4,371,231) (1,011,135)
------------ -------------
See notes to consolidated financial statements
7
CONSOLIDATED STATEMENTS OF INCOME - CONTINUED
COMMUNITY BANCSHARES, INC. AND SUBSIDIARIES
(UNAUDITED)
For the Nine Months Ended September 30,
---------------------------------------
2002 2001
------------ -------------
Discontinued Operations (Note - 2)
Income from operations of divested branches
(includes gain on disposal of $8,071,985).......................... 8,504,062 898,955
Income tax expense.................................................... 2,576,731 272,383
------------ -------------
Gain from discontinued operations........................................ 5,927,331 626,572
------------ -------------
Net Income (Loss)............................................... $ 1,556,100 $ (384,563)
============ =============
Earnings (loss) from continuing operations per common share - basic...... $ (0.94) $ (0.22)
Earnings (loss) from continuing operations per common share - diluted.... $ (0.94) $ (0.22)
Earnings (loss) from discontinued operations per common share - basic.... $ 1.28 $ 0.14
Earnings (loss) from discontinued operations per common share - diluted.. $ 1.28 $ 0.14
Earnings (loss) per common share - basic................................. $ 0.34 $ (0.08)
Earnings (loss) per common share - diluted............................... $ 0.34 $ (0.08)
Dividends per share...................................................... $ - $ -
See notes to consolidated financial statements
8
CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME
COMMUNITY BANCSHARES, INC. AND SUBSIDIARIES
(UNAUDITED)
For the Nine Months Ended September 30,
---------------------------------------
2002 2001
------------ -------------
Net Income (loss)......................................................... $ 1,556,100 $ (384,563)
Components of other comprehensive income:
Unrealized holding gains arising during the period
before income tax and reclassification adjustments ................. 4,256,821 2,550,800
Reclassification adjustments for net (gains) included in net income ... (429,121) (533,134)
------------ -------------
Other comprehensive gains, before income taxes ........................ 3,827,700 2,017,666
Income tax expense related to other comprehensive income............... 966,990 807,066
------------ -------------
Total other comprehensive income, net of income tax................... 2,860,710 1,210,600
------------ -------------
Comprehensive income..................................................... $ 4,416,810 $ 826,037
============ =============
See notes to consolidated financial statements
9
CONSOLIDATED STATEMENTS OF CASH FLOWS
COMMUNITY BANCSHARES, INC. AND SUBSIDIARIES
(UNAUDITED)
Nine Months Ended September 30,
--------------------------------
2002 2001
------------- -------------
Operating Activities:
Net income (loss).................................................... $ 1,556,100 $ (384,563)
Adjustments to reconcile net income to net cash
provided by operating activities:
Provision for loan losses ........................................... 6,518,381 4,780,856
Provision for depreciation and amortization ......................... 1,545,833 1,939,704
Amortization of investment security premiums
and accretion of discounts. ...................................... 213,157 76,189
Deferred tax expense (benefit) ...................................... (189,543) 949,850
Realized investment security gains. ................................. (429,121) (533,134)
Gain on sale of branches............................................. (8,071,985) -
Loss on sale of premises and equipment .............................. 334,185 47,527
Net loss on sale of other real estate owned ......................... 1,563,201 -
Decrease in accrued interest receivable. ............................ 1,880,377 1,002,716
Decrease in accrued interest payable ................................ (294,940) (626,493)
Other ............................................................... (354,643) 733,967
------------- -------------
Net cash provided by operating activities ........................ 4,271,002 7,986,619
------------- -------------
Investing Activities:
Proceeds from sales of securities available for sale ................ 65,081,103 49,474,247
Proceeds from maturity of securities available for sale ............. 15,000,000 2,500,000
Purchase of securities available for sale .......................... (78,485,625) (75,612,731)
Decrease in interest-bearing deposit with other banks................ - 500,000
Net decrease in loans to customers .................................. 26,111,889 10,022,466
Proceeds from sale of assets. ....................................... 60,350 108,074
Capital expenditures ................................................ (463,139) (2,201,300)
Net proceeds from sale of other real estate ......................... 625,870 250,213
Cash disbursed in settlement of branch sale.......................... (32,054,765) -
------------- -------------
Net cash used in investing activities ............................ (4,124,317) (14,959,031)
------------- -------------
Financing Activities:
Net increase in demand deposits, NOW accounts,
savings and time open deposit accounts............................ (906,019) 13,943,584
Net (decrease) increase in certificates of deposit .................. (8,156,804) 4,206,715
Net (decrease) increase in short-term borrowings .................... (2,878,041) 2,012,116
Net increase in FHLB borrowings...................................... - 8,000,000
Net decrease in capitalized lease obligations ....................... (75,395) (57,675)
Repayment of long-term debt, net .................................... (681,253) (741,988)
Issuance of common stock. ........................................... - 209,865
------------- -------------
Net cash (used) provided by financing activities ................. (12,697,512) 27,572,617
------------- -------------
Net (decrease) increase in cash and cash equivalents ................... (12,550,827) 20,600,205
Cash and cash equivalents at beginning of year ......................... 53,037,008 29,006,611
------------- -------------
Cash and cash equivalents at end of period.............................. $ 40,486,181 $ 49,606,816
============= =============
See notes to consolidated financial statements
10
CONSOLIDATED STATEMENTS OF CASH FLOWS - (Continued)
COMMUNITY BANCSHARES, INC. AND SUBSIDIARIES
(UNAUDITED)
Nine Months Ended September 30,
-------------------------------
2002 2001
------------- -------------
Supplemental disclosures of cash flow information:
Cash paid (received) during the period for:
Interest expense..................................................... $ 15,907,788 $ 25,593,222
Income taxes......................................................... 1,650,484 (1,082,900)
Supplemental schedule of non-cash investing and financing activities:
Real estate acquired through foreclosure............................. $ 4,001,499 $ 2,975,580
Assets (except cash) disposed of in branch sale...................... 104,262,635 -
Deposit liabilities including accrued interest released in branch sale 139,736,275 -
Capitalized lease receivable recorded as a result of branch sale..... 3,107,157 -
[The remainder of this page intentionally left blank]
See notes to consolidated financial statements
11
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
COMMUNITY BANCSHARES, INC. AND SUBSIDIARIES
(UNAUDITED)
NOTE 1 - GENERAL
The consolidated financial statements include the accounts of Community
Bancshares, Inc. and its wholly-owned subsidiaries, collectively, hereinafter
referred to as the "Company". The accompanying unaudited consolidated financial
statements have been prepared in accordance with accounting principles generally
accepted in the United States for interim financial information and with the
instructions to Form 10-Q and Article 10 of Regulation S-X. Accordingly, they do
not include all of the information and footnotes required by accounting
principles generally accepted in the United States for complete financial
statements. In the opinion of management, all adjustments (consisting of normal
recurring accruals) considered necessary for a fair presentation have been
included. Operating results for the nine month period ending September 30, 2002
are not necessarily indicative of the results that may be expected for the year
ending December 31, 2002. The consolidated statement of financial condition at
December 31, 2001 has been derived from the audited consolidated financial
statements at that date and adjusted for prior period adjustments (See Note 10 -
Prior Period Adjustment), but does not include all of the information and
footnotes required by generally accepted accounting principles for complete
financial statements. For further information, refer to the consolidated
financial statements and footnotes thereto included in the Company's Annual
Report on Form 10-K for the year ended December 31, 2001 and Note 10 - Prior
Period Adjustment included in this report.
Certain reclassifications of prior years' amounts have been made to conform
to current year presentation. These reclassifications had no effect on net
income, total assets, total liabilities, or shareholders' equity.
NOTE 2 - DISCONTINUED OPERATIONS
During 2002, Community Bank consummated the sale of the following branch
offices: two Pulaski, Tennessee locations on March 31, 2002, two DeKalb County,
Alabama locations on May 3, 2002 and six Marshall County, Alabama locations on
May 31, 2002. The following outlines the total assets sold and total liabilities
released on the transactions.
Loans................................................ $ 95,130,132
Less: Allowance for loan losses................... 752,193
-----------
Loans, net........................................ 94,377,939
Premises and equipment, net......................... 8,686,603
Accrued interest receivable.......................... 653,266
Other real estate owned.............................. 451,280
Other assets......................................... 93,547
-----------
Total assets...................................... $ 104,262,635
===========
Deposits............................................. $ 139,080,234
Accrued interest payable............................. 656,041
Capitalized lease obligation......................... 1,614,318
Other liabilities.................................... 19,036
-----------
Total liabilities................................. $ 141,369,629
===========
The Company paid $32,054,765 in cash on the transactions and recorded a
capitalized lease receivable of $3,107,157. The Company recognized total gains
of $8,071,985 representing the premium received on core deposits less discounts
on loans and fixed assets. The Company also recognized a gain of $87,400 on the
assignment of the capitalized lease on the Boaz, Alabama location. See also Note
12
6 - Capitalized Leases.
NOTE 3 - CAPITAL SECURITIES
In March 2000, the Company formed a wholly-owned Delaware statutory
business trust, Community (AL) Capital Trust I (the "Trust"), which issued
$10,000,000 of guaranteed preferred securities representing undivided beneficial
interests in the assets of the Trust ("Capital Securities"). All of the common
securities of the Trust are owned by the Company. The proceeds from the issuance
of the Capital Securities ($10,000,000) and common securities ($310,000) were
used by the Trust to purchase $10,310,000 of junior subordinated deferrable
interest debentures of the Company, which carry an annual interest rate of
10.875%. Under the terms of the indenture, the Company may elect to defer
payments of interest for up to ten semiannual payment periods. The Company
elected to defer its March and September 2002 interest payment and may elect to
do so again based on the liquidity needs of the Company when future payments
become due. For the duration of such deferral period, the Company is restricted
from paying dividends to shareholders or paying debt that is junior to the
debenture. The debentures represent the sole asset of the Trust. The debentures
and related income statement effects are eliminated in the Company's
consolidated financial statements. The Company is entitled to treat the
aggregate liquidation amount of the debentures as Tier I capital under Federal
Reserve guidelines.
The Capital Securities accrue and pay distributions semiannually at a rate
of 10.875% per annum of the stated liquidation value of $1,000 per capital
security. The Company has entered into an agreement which fully and
unconditionally guarantees payment of: (i) accrued and unpaid distributions
required to be paid on the Capital Securities; (ii) the redemption price with
respect to any Capital Securities called for redemption by the Trust; and (iii)
payments due upon a voluntary or involuntary liquidation, winding up or
termination of the Trust.
The Capital Securities are mandatorily redeemable upon the maturity of the
debentures on March 8, 2030, or upon earlier redemption as provided in the
indenture pursuant to which the debentures were issued. The Company has the
right to redeem the debentures purchased by the Trust: (i) in whole or in part,
on or after March 8, 2010; and (ii) in whole (but not in part) at any time
within 90 days following the occurrence and during the continuation of a tax
event, capital treatment event or investment company event (each as defined in
the indenture). As specified in the indenture, if the debentures are redeemed
prior to maturity, the redemption price will be a percentage of the principal
amount, ranging from 105.438% in 2010 to 100.00% in and after 2020, plus accrued
but unpaid interest.
NOTE 4 - OTHER REAL ESTATE OWNED
As discussed in Note 2, the Company consummated the sale of six branch
locations in Marshall County, Alabama on May 31, 2002. The Company retained
ownership of a partially developed parcel of land in Marshall County that was
originally intended for branch expansion. The total investment in the property
was $2,702,907, which included $252,631 of capitalized interest.
Subsequent to the sale of the Marshall County branches, the Company had
continued to formally assess potential uses for the property. As part of this
assessment, management requested and obtained an appraisal of the property in
late September 2002. Upon review of the appraisal, the Company decided to
abandon any future plans of enhancing the property and recorded the property at
the appraised value of $1,508,000. This amount was transferred into Other Real
Estate Owned as of September 30, 2002, resulting in an after tax loss of
$756,734 related to this transaction.
13
NOTE 5 - CONTINGENCIES
Background
At a meeting of Community Bank's Board of Directors on June 20, 2000, a
director brought to the attention of the Board the total amount of money
Community Bank had paid subcontractors in connection with the construction of a
new Community Bank office. Management of the Company commenced an investigation
of the expenditures. At the request of management, the architects and
subcontractors involved in the construction project made presentations to the
Boards of Directors of the Company and Community Bank on July 15 and July 18,
2000, respectively. At the July 18, 2000 meeting of the Board of Directors of
Community Bank, another director made a presentation alleging that Community
Bank had been overcharged by subcontractors on that construction project and
another ongoing construction project. On July 18, 2000, the Boards of Directors
of the Company and Community Bank appointed a joint committee comprised of
independent directors of the Company and of Community Bank to investigate the
alleged overcharges. Upon completion of its investigation, the joint committee
was to inform the Boards of Directors of the Company and Community Bank of its
findings and recommendations. The joint committee retained legal counsel and an
independent accounting firm to assist the committee in its investigation.
Management was also informed that the directors of Community Bank who alleged
the construction overcharges have contacted bank regulatory agencies and law
enforcement authorities. Management believes that these agencies and authorities
either have conducted or are currently conducting investigations regarding this
matter.
Benson Litigation
On July 21, 2000, three shareholders of the Company, M. Lewis Benson, Doris
E. Benson and John M. Packard, Jr., filed a lawsuit in the state Circuit Court
of Marshall County, Alabama against the Company, Community Bank, certain
directors and officers of the Company and Community Bank, an employee of
Community Bank and two construction subcontractors. The plaintiffs purported to
file the lawsuit as a shareholder derivative action, which relates to the
alleged construction overcharges being investigated by the joint committee of
the Boards of Directors of the Company and Community Bank. The complaint alleges
that the directors, officers and employees named as defendants in the complaint
breached their fiduciary duties, failed to properly supervise officers and
agents of the Company and Community Bank, and permitted waste of corporate
assets by allegedly permitting the subcontractor defendants to overcharge
Community Bank in connection with the construction of two new Community Bank
offices, and to perform the construction work without written contracts,
budgets, performance guarantees and assurances of indemnification. In addition,
the complaint alleges that Kennon R. Patterson, Sr., the Chairman, President and
Chief Executive Officer of the Company, breached his fiduciary duties by
allegedly permitting the two named subcontractors to overcharge for work
performed on the two construction projects in exchange for allegedly discounted
charges for work these subcontractors performed in connection with the
construction of Mr. Patterson's residence. The complaint further alleges that
the director defendants knew or should have known of this alleged arrangement
between Mr. Patterson and the subcontractors. The complaint also alleges that
Mr. Patterson, the Community Bank employee and the two subcontractor defendants
made false representations and suppressed information about the alleged
overcharges and arrangement between Mr. Patterson and the subcontractors.
On August 15, 2000, the plaintiffs filed an amended complaint adding Andy
C. Mann, a shareholder of the Company, as a plaintiff and adding a former
director of the Company and Community Bank as a defendant. The amended complaint
generally reiterates the allegations of the original complaint. In addition, the
amended complaint alleges that Community Bank was overcharged on all
construction projects from January 1997 to the August 2000. The amended
complaint also alleges that the defendants breached their fiduciary duties and
were guilty of gross financial mismanagement, including allegations concerning
the making or approval of certain loans and taking allegedly improper actions to
conceal the fact that certain loans were uncollectible. On September 18, 2000
the plaintiffs filed a second amended complaint. The second amended complaint
generally reiterates the allegations of the original and first amended
14
complaints. In addition, the second amended complaint alleges that the
plaintiffs were improperly denied their rights to inspect and copy certain
records of the Company and Community Bank. The second amended complaint also
alleges that the directors of the Company abdicated their roles as directors
either by express agreement or as a result of wantonness and gross negligence.
The second amended complaint asserts that the counts involving inspection of
corporate records and director abdication are individual, nonderivative claims.
The second amended complaint seeks, on behalf of the Company, an unspecified
amount of compensatory damages in excess of $1 million, punitive damages,
disgorgement of allegedly improperly paid profits and appropriate equitable
relief. Upon motion of the defendants, the case was transferred to the state
Circuit Court in Blount County, Alabama by order dated September 21, 2000, as
amended on October 12, 2000.
On August 24, 2000, the Board of Directors of the Company designated the
directors of the Company who serve on the joint investigative committee as a
special litigation committee to investigate and evaluate the allegations and
issues raised in this lawsuit and to arrive at such decisions and take such
action as the special litigation committee deems appropriate. On June 8, 2001,
the special litigation committee filed its report under seal with the court. On
June 18, 2001, the court entered an order affirming the confidentiality of the
special committee's report. On June 28, 2001, the Company, Community Bank and
various other defendants filed a motion with the court to adopt the report of
the special committee, for partial summary judgment and to realign the Company
and Community Bank as plaintiffs in the lawsuit. Following a hearing on August
29, 2001, the court denied these motions on November 8, 2001. The court also
ruled that the plaintiffs were entitled to conduct discovery except as it
related to one of the subcontractor defendants and granted the plaintiffs'
motion to unseal the report of the special litigation committee. Thereafter,
discovery commenced.
In November, 2002, the parties entered into meaningful settlement
negotiations and on November 15, 2002, reached a provisional agreement to settle
all claims in this lawsuit. The terms of the settlement are subject to the
negotiation and execution of a definitive agreement and approvals of the court.
Depending on its final terms, any agreement may be subject to regulatory
approval. Although the Company anticipates that a settlement may be consummated
in the fourth quarter of 2002, it cannot predict with certainty that the
consummation will occur and, if it does, what its effect may be on the Company's
financial condition and results of operations.
Towns Derivative Litigation
On November 19, 1998, Mr. William Towns, a shareholder of the Company,
filed a shareholder derivative action against the directors of the Company in
the state Circuit Court of Blount County, Alabama. Mr. Towns amended his
complaint on January 14, 1999 to add the Company and Community Bank as
defendants in the action. On February 11, 1999, the complaint was again amended
to add Mr. Pat Bellew and Mrs. Mary Bellew, who are also shareholders of the
Company, as additional plaintiffs. The complaint alleged that the directors of
the Company breached their fiduciary duty to the Company and its shareholders,
engaged in fraud, fraudulent concealment, suppression of material fact and
suppression of the plaintiff shareholders, failed to supervise management, and
conspired to conceal wrongful acts from the Company's shareholders and paid
themselves excessive director fees. The complaint also alleged that the Board of
Directors acquiesced in mismanagement and misconduct by Kennon R. Patterson,
Sr., the Chairman of the Board, Chief Executive Officer and President of the
Company, including alleged self dealing, payment of excessive compensation,
misappropriation of corporate opportunities and misappropriation of funds. The
complaint sought an unspecified amount of compensatory and punitive damages,
removal of the current directors, appointment of a new Board of Directors, and
attorneys fees and cost.
On December 21, 1998, the Company and its directors filed a motion with the
court seeking to have the complaint dismissed. On March 1, 1999, the Company's
Board of Directors appointed a special Board committee comprised of non-employee
directors of the Company, to review the plaintiffs' allegations in accordance
with Delaware law. On April 6, 1999, each of the parties to the action requested
that the court stay the litigation and related discovery, motions and hearings,
pending completion of the special committee's review. On April 30, 1999, the
court entered an order staying the litigation and related discovery, motions and
hearing in accordance with the parties' request. On October 15, 1999, the
special committee filed its final report with the court. On October 21,
15
1999, the parties forwarded to the court an agreed-upon order governing the
confidentiality of the special committee's report, which the court entered on
January 2, 2000. On August 3, 2000, the Company, Community Bank and the
Company's directors filed a motion to stay the proceedings until the Company's
and Community Bank's joint investigative committee had completed its
investigation of the alleged construction overcharges discussed above. At the
request of the Company and the other defendants in the action, the court
continued a hearing on the motion to dismiss.
On August 9, 2002, the court found that the joint investigative committee's
recommendation that the claims be dismissed was the result of informed,
reasonable business judgment. Accordingly, the court dismissed the Town
Derivative Litigation with prejudice, with counsel for the shareholder
plaintiffs concurring in the findings.
Corr Family Litigation
On September 14, 2000, another action was filed in the state Circuit Court
of Blount County, Alabama, against the Company, Community Bank and certain
directors and officers of the Company and Community Bank by Bryan A. Corr and
six other related shareholders of the Company alleging that the directors
actively participated in or ratified the misappropriation of corporate income.
The action was not styled as a shareholder derivative action. On January 3,
2001, the defendants filed a motion for summary judgment on the basis that these
claims are derivative in nature and cannot be brought on behalf of individual
shareholders. The court has not ruled on the motion. The Company and its
directors believe that this lawsuit is without merit and intend to defend the
action vigorously. Although management currently believes that this action will
not have a material adverse effect on the Company's financial condition or
results of operations, regardless of the outcome, the action could be costly,
time consuming and a diversion of management's attention.
Auto Loan Litigation
On June 28, 2000, Community Bank filed an action in the United States
District Court for the Northern District of Alabama against Carl Gregory Ford
L-M, Inc., an automobile dealership located in Ft. Payne, Alabama, Carl Gregory
and Doug Broaddus, the owners of the dealership, several employees and former
employees of the dealership and Gerald Scot Parrish, a former employee of
Community Bank, with respect to certain loans originated during 1998 in
Community Bank's Wal-Mart office in Ft. Payne, Alabama. In the complaint
Community Bank alleged that the defendants willingly and knowingly conducted,
participated in, were employed by or associated with, or aided and abetted an
enterprise within the meaning of the Racketeer Influenced and Corrupt
Organizations Act (RICO) for the purpose of defrauding Community Bank. The
complaint also asserted that the defendants committed fraud, misrepresentation
and deceit by submitting to Community Bank and/or approving applications for
automobile loans which contained false and/or fraudulent information for the
purpose of deceiving, influencing and persuading Community Bank to provide loans
to customers of the automobile dealership who were otherwise not qualified to
receive such loans, and suppressed material facts regarding the veracity of
information contained in loan applications and the ability of persons seeking
the loans to repay them. Community Bank also alleged in the complaint that the
automobile dealership is responsible for the acts of its officers, agents and
employees, and that the dealership and its management failed to adequately train
and/or supervise its employees. The complaint stated that the defendants
participated in a conspiracy to violate RICO and Alabama statutes dealing with
fraud, misrepresentation and suppression of material facts, and asserted civil
liability under Alabama law for violation of federal statutes dealing with
financial institution fraud, mail and wire fraud and making false statements for
the purpose of influencing the actions of a financial institution upon an
application or loan.
On June 29, 2000 and August 31, 2000, the court granted Community Bank's
motions to dismiss without prejudice two of the employees of the automobile
dealership as defendants in the action. On September 13, 2000, the court granted
Mr. Parrish's action to dismiss the complaint, but granted Community Bank 15
days to amend the complaint. On September 27, 2000, Community Bank filed an
amended complaint which generally reiterated the allegations of the original
complaint and added specific information concerning the allegedly fraudulent
activity and the
16
use of the United States mail, telephone and other wire transmissions in the
conduct of such activity. On December 1, 2000, the court dismissed Community
Bank's claims based upon mail and wire fraud in the amended complaint but
otherwise denied Mr. Parrish's motion to dismiss the complaint. On October 10,
2001, the court granted a joint motion to bifurcate the trial into separate
stages of liability and damages. On October 23 and November 19, 2001, the court
granted Community Bank's motion to dismiss without prejudice three of the
employees of the automobile dealership as defendants in the action.
The defendants have filed answers to the amended complaint which generally
deny the material allegations in the complaint and allege that any injury
suffered by Community Bank was the result of the contributory negligence of
Community Bank, its officers, employees and agents. In the lawsuit, Community
Bank seeks damages of an unspecified amount to recover losses incurred in
connection with the loans made at Community Bank's Wal-Mart office in Ft. Payne,
Alabama, along with all costs associated with the lawsuit.
On November 4, 2002, mediation was conducted in the matter with the result
that the lawsuit was settled, conditionally as to all defendants other than
Gerald Scot Parrish. The condition was approved by the Bank's board of
directors. The settlement was approved by the Bank's board of directors on
November 12, 2002, and, as a result of the settlement, the Bank will be paid
$500,000 on or before December 15, 2002. Other terms of the settlement are
confidential. As a result of the settlement, all claims and all defendants will
be dismissed with the exception of the claims against Mr. Parrish, which are
scheduled to go to trial on January 6, 2003. The Bank is receiving mutual
releases with respect to the settling defendants. This amount is reflected as a
receivable and is included in other assets on the Company's Statement of
Financial Condition as of September 30, 2002 and as a reduction of legal fees
included in other operating expenses on the Company's Consolidated Statement of
Income for the three and nine month periods ended September 30, 2002. The effect
on net income is $307,500 after applicable income tax expense.
Employee Litigation
On November 15, 2000, Michael W. Alred and Michael A. Bean, two former
directors and executive officers of Community Bank, filed suit against Community
Bank in the United States District Court for the Northern District of Alabama
alleging that their employment was wrongfully terminated for allegedly providing
information to bank regulatory and law enforcement authorities concerning
possible violations of laws and regulations, gross mismanagement, gross waste of
funds and abuse of authority by Community Bank, its directors, officers and
employees. According to the complaint, the information which these two
individuals provided to authorities concerned certain bank construction
projects, specific loans, charge-offs, expenses and past due accounts. The
complaint seeks reinstatement of the plaintiffs to their former positions as
officers and directors of Community Bank as well as compensatory and punitive
damages.
The Bank considers its defenses to these claims to be meritorious.
Nevertheless, the Bank and its insurers have entered into settlement
negotiations with the plaintiffs in order to avoid the uncertainty and costs of
litigation. As of the date of this report, the parties have entered into a
provisional settlement of the litigation. The Company anticipates that a final
settlement will be reached in the fourth quarter of 2002. As a result, the
Company has estimated the settlement will result in an increase in other
operating expenses of $1,630,000 and will decrease net income by $1,002,450, net
of applicable income taxes for the three and nine month periods ended September
30, 2002. The Company cannot predict with certainty if the settlement will be
consummated nor can it assure that its current estimate of the effect of the
cost of settlement on operating expenses will be borne out.
Consumer Automobile Financing
On October 11, 2002, William Alston, Murphy Howard, and Jason Tittle filed
an action in the United States District Court for the Northern District of
Alabama purporting to be a class action against Community Bank, Community
Bancshares, Inc., certain of their officers and others. The suit alleges that
certain of the defendants engaged in various purported tortious practices
related to consumer automobile financing. The Company believes
17
the lawsuit is without merit and intends to defend it vigorously. Because the
case is in its very initial stages, it is impossible now to predict the outcome
of the suit and its effect on the Company's financial condition and result of
operations.
General
The Company and its subsidiaries are from time to time also parties to
other legal proceedings arising in the ordinary course of business. Management
believes, after consultation with legal counsel, that no such proceedings, if
resulting in an outcome unfavorable to the Company, will, individually or in the
aggregate, have a material adverse effect on the Company's financial condition
or results of operations.
The Company's Certificate of Incorporation provides that, in certain
circumstances, the Company will indemnify and advance expenses to its directors
and officers for judgments, settlements and legal expenses incurred as a result
of their service as officers and directors of the Company. Community Bank's
Bylaws contain a similar provision for indemnification of directors and officers
of Community Bank.
NOTE 6 - CAPITALIZED LEASES
On May 31, 2002, the purchaser of Community Bank's Marshall County branch
offices assumed the Company's lease on the Boaz, Alabama location. This lease
had been accounted for under capitalized lease rules. The balances of the
capitalized lease asset and capitalized lease obligation on May 31, 2002 were as
follows:
Capitalized lease asset.............................. $ 1,696,576
Less: Accumulated depreciation.................... 169,658
----------
Net capitalized lease asset.......................... $ 1,526,918
==========
Capitalized lease obligation......................... $ 1,614,318
==========
A gain of $87,400 was recognized to account for the sale of the asset and
the release of the obligation and is included in "net loss on disposal of
assets" on the Consolidated Statements of Income.
The purchaser also acquired the land, building and land improvements
located in Albertville, Alabama under a sales type lease. The lease agreement
calls for 60 payments of $14,000 per month beginning June 1, 2002. The lease
ends on May 31, 2007 and is subject to options which give the right for the
seller to require the purchaser to purchase the property and gives the right to
the purchaser to require the seller to sell the property. The purchase price
upon option by either party is $2,621,544. This lease/sale qualifies and is
accounted for under capitalized lease rules.
The following is a schedule by year of the future minimum lease payments to
be received together with the present value of the net minimum lease payments as
of September 30, 2002.
Years ending December 31,
2002............................................... $ 42,000
2003............................................... 168,000
2004............................................... 168,000
2005............................................... 168,000
2006............................................... 168,000
2007............................................... 2,691,591
----------
Total minimum lease payments......................... 3,405,591
Less: Amount representing interest................. 328,977
----------
Present value of net minimum lease payments.......... $ 3,076,614
==========
18
NOTE 7 - INTANGIBLE ASSETS
In June 2001, the FASB issued Statement No. 142, Goodwill and Other
Intangible Assets. The statement requires that goodwill and other intangible
assets with indefinite useful lives no longer be amortized, but instead an
entity must perform an assessment of whether these assets are impaired as of the
date of adoption and test for impairment at least annually in accordance with
the provisions of the statement. The statement also required that intangible
assets with determinable lives be amortized. The Company adopted Statement No.
142 on January 1, 2002. Acquired goodwill and other intangible assets at
September 30, 2002, are detailed as follows:
As of September 30, 2002
----------------------------------------------
Gross Net
Carrying Accumulated Carrying
Amount Amortization Amount
----------- ------------- -------------
Identifiable amortizing assets................................. $ 2,063,311 $ 1,311,325 $ 751,986
Nonamortizing goodwill......................................... 2,851,372 1,058,565 1,792,807
----------- ------------- -------------
Total acquired intangible asset................................ $ 4,914,683 $ 2,369,890 $ 2,544,793
=========== ============= =============
Aggregate amortization expense for the period ended September 30, 2002, was
$84,879. Aggregate amortization expense of $104,733 and $79,415 is estimated for
the years ending December 31, 2002 and 2003, respectively.
The following table presents net income and earnings per share as reported
and adjusted to exclude tax effected amortization of goodwill that is no longer
being amortized.
Three Months Ended Nine Months Ended
September 30, September 30,
--------------------------- ------------------------------
2002 2001 2002 2001
------------ ------------- -------------- -------------
Reported net income (loss)..................... $ (2,503,535) $ (1,033,290) $ 1,556,100 $ (384,563)
Add back: Goodwill amortization................ - 27,859 - 83,578
------------ ------------- -------------- -------------
Adjusted net income (loss)..................... $ (2,503,535) $ (1,005,431) $ 1,556,100 $ (300,985)
============ ============= ============== =============
Basic earnings per share:
Reported net income (loss).................. $ (0.54) $ (0.22) $ 0.34 $ (0.08)
Add back: Goodwill amortization............. - 0.01 - 0.02
------------ ------------- -------------- -------------
Adjusted net income (loss)..................... $ (0.54) $ (0.21) $ 0.34 $ (0.06)
============ ============= ============== =============
Diluted earnings per share:
Reported net income (loss).................. $ (0.54) $ (0.22) $ 0.34 $ (0.08)
Add back: Goodwill amortization............. - 0.01 - 0.02
------------ ------------- -------------- -------------
Adjusted net income (loss)..................... $ (0.54) $ (0.21) $ 0.34 $ (0.06)
============ ============= ============== =============
19
NOTE 8 - RECENTLY ISSUED ACCOUNTING STANDARDS
On June 29, 2001, the Financial Accounting Standards Board issued SFAS No.
141, "Business Combinations". This statement is effective for all combinations
initiated after June 30, 2001. This statement supersedes Accounting Principles
Board Opinion No. 16, "Business Combinations". SFAS No. 141 requires the
purchase method of accounting be used for all business combinations initiated
after June 30, 2001, establishes specific criteria for the recognition of
intangible assets separately from goodwill, and requires unallocated negative
goodwill to be written off immediately as an extraordinary gain instead of being
deferred and amortized.
On June 29, 2001, the Financial Accounting Standards Board issued SFAS No.
142, "Intangible Assets". This statement is effective for fiscal years beginning
after December 15, 2001. SFAS No. 142 requires that goodwill and indefinite
lived intangible assets no longer be amortized, that goodwill will be tested for
impairment at least annually, that intangible assets deemed to have an
indefinite life will be tested for impairment at least annually, and that the
amortization period of intangible assets with finite lives will no longer be
limited to forty years. The Company adopted SFAS 142 on January 1, 2002.
In June 2001, the Financial Accounting Standards Board issued SFAS No. 143,
"Accounting for Asset Retirement Obligations". This statement is effective for
fiscal years beginning after June 15, 2002, with early adoption permitted. SFAS
No. 143 addresses the recognition and measurement of obligations associated with
the retirement of tangible long-lived assets resulting from acquisition,
construction, development, or the normal operation of a long-lived asset. SFAS
No. 143 requires that the fair value of an asset retirement obligation be
recognized as a liability in the period in which it is incurred. The asset
retirement obligation is to be capitalized as part of the carrying amount of the
long-lived asset and the expense is to be recognized over the useful life of the
long-lived asset. Management is currently evaluating the impact that SFAS No.
143 will have on the Company's financials, but does not expect the adoption will
have a material effect.
In August 2001, the Financial Accounting Standards Board issued SFAS No.
144, "Accounting for the Impairment or Disposal of Long-Lived Assets". The
effective date for this statement was January 1, 2002 and superseded SFAS No.
121. SFAS No. 144 carries forward from SFAS No. 121 the fundamental guidance
related to the recognition and measurement of an impairment loss related to
assets to be held and used and provides guidance related to the disposal of
long-lived assets to be abandoned or disposal by sale. The Company adopted SFAS
No. 144 on January 1, 2002. The implementation of SFAS No. 144 did not have a
material effect on the Company's financials.
In April 2002, the Financial Accounting Standards Board issued SFAS No.
145, "Rescission of FASB Statements No. 4, 44, and 64, Amendment of FASB
Statement No. 13, and Technical Corrections". Management is currently evaluating
the impact that SFAS No. 145 will have on the Company's financials, but as a
result of very limited applicability, does not expect the adoption will have a
material effect.
In June 2002, the Financial Accounting Standards Board issued SFAS No. 146,
"Accounting for Costs Associated with Exit or Disposal Activities". The
statement addresses financial reporting and accounting for costs associated with
exit or disposal activities and nullifies Emerging Issues Task Force Issue No.
94-3, "Liability Recognition for Certain Employee Termination Benefits and Other
Costs to Exit an Activity (including Certain Costs Incurred in a
Restructuring)." The primary difference between SFAS No. 146 and Issue 94-3
relates to the requirement for recognition of a liability related to the cost of
an exit or disposal activity when the liability is incurred. Under 94-3, such
liability would be recognized at the date of an entity's commitment to an exit
plan. SFAS No. 146 is effective for exit or disposal activities initiated after
December 31, 2002, with early application encouraged. Management does not
believe the adoption of SFAS No. 146 will have a material impact on the
Company's financials.
20
In October 2002, the Financial Accounting Standards Board issued SFAS No.
147, "Acquisitions of Certain Financial Institutions", an amendment of SFAS No.
72 and 144 and FASB Interpretation No. 9. Except for transactions between two or
more mutual enterprises, SFAS No. 147 removes acquisitions of financial
institutions from the scope of SFAS No. 72 and Interpretation 9 and requires
those transactions be accounted for in accordance with SFAS No. 141 and 142.
SFAS No. 147 also amends SFAS No. 144 to include in its scope long-term
customer-relationship intangible assets of financial institutions such as
depositor and borrower relationship intangible assets and credit cardholder
intangible assets. Consequently, those intangible assets are subject to the same
undiscounted cash flow recoverability test and impairment loss recognition and
measurement provisions that SFAS No. 144 requires for other long-lived assets
that are held and used. SFAS No. 147 is essentially effective as of October 1,
2002. As a result, the Company adopted SFAS No. 147 on October 1, 2002 with no
material impact on the Company's financials.
Note 9 - Recently Passed Legislation
On July 30, 2002, President Bush signed into law the Sarbanes-Oxley Act of
2002 ("the Act"), which immediately impacts Securities and Exchange Commission
registrants, public accounting firms, lawyers and securities analysts. This
legislation is the most comprehensive since the passage of the Securities Acts
of 1933 and 1934. It has far reaching effects on the standards of integrity for
corporate management, board of directors, and executive management. Additional
disclosures, certifications and procedures will be required of our Company. We
do not expect any material adverse effect on our Company as a result of the
passage of this legislation; however, the full scope of the Act has not been
determined. The Act provides for additional regulations and requirements of
publicly-traded companies which have yet to be issued.
NOTE 10 - PRIOR PERIOD ADJUSTMENT
During the quarter ended September 30, 2002, it was determined that certain
items related to the fourth quarter of the year ended December 31, 2001 had not
been properly recorded in that period. The items related to unrecorded
liabilities, valuation of repossessed assets and accounts receivable.
Accordingly, the December 31, 2001 Consolidated Statement of Financial Condition
has been adjusted and restated as follows:
Retained Earnings, December 31, 2001, as previously reported............... $ 12,390,300
Adjustments:
Unrecorded liabilities................................................ (227,985)
Valuation of repossessed assets....................................... (85,986)
Accounts Receivable................................................... (47,347)
-----------
Retained Earnings, December 31, 2001, as restated.......................... $ 12,028,982
===========
NOTE 11 - SUBSEQUENT EVENTS
On November 15, 2002, the Company filed Form 12B-25 (Notification of Late
Filing) with the Securities and Exchange Commission due to the fact that during
the third quarter, the Company changed external auditors and the new independent
auditors needed additional time to review the 10Q. In that filing, the Company
reported for the three month and nine month period ended September 30, 2002 a
net loss of $1,809,000 and net income of $2,251,000, respectively. That same
day, after filing the 12B-25, management became aware that provisional
settlements had been reached in certain lawsuits in which the Company is
involved (See Note 5 - Contingencies). Management determined that the outcome of
certain of these lawsuits are now estimable and probable and, therefore, have
now been reflected in the Company's financial statements as of September 30,
2002.
21
Item 2 - Management's Discussion and Analysis of Financial Condition and Results
of Operations
This discussion is intended to assist in an understanding of the financial
condition and results of operations of Community Bancshares, Inc. (the
"Company") and its subsidiaries. Unless the context otherwise indicates, the
Company shall include the Company and its subsidiaries. All dollar amounts are
rounded to the nearest thousand. This analysis should be read in conjunction
with the financial statements and related notes appearing in Item 1 of this
Report and Management's Discussion and Analysis of Financial Condition and
Results of Operations appearing in the Company's Annual Report on Form 10-K for
the year ended December 31, 2001.
Critical Accounting Policies
Accounting policies involving significant estimates and assumptions by
management, which have, or could have, a material impact on the carrying value
of certain assets and impact comprehensive income, are considered critical
accounting policies. Community Bancshares, Inc. recognizes the following as
critical accounting policies: Accounting for Allowance for Loan Losses and
Accounting for Income Taxes.
Accounting for Allowance for Loan Losses. Management's ongoing evaluation
of the adequacy and allocation of the allowance considers both impaired and
unimpaired loans and takes into consideration the Bank's past loan loss
experience, known and inherent risks in the portfolio, adverse situations that
may affect the borrowers' ability to repay, estimated value of any underlying
collateral, the reviews of regulators, and an analysis of current economic
conditions. While management believes that it has exercised prudent judgment and
applied reasonable assumptions which have resulted in an allowance presented in
accordance with generally accepted accounting principles, there can be no
assurance that in the future, adverse economic conditions, increased
nonperforming loans, regulatory concerns, or other factors will not require
further increases in, or re-allocation of the allowance. See "Provisions for
Loan Losses and Allowance for Loan Losses."
Accounting for Income Taxes. Community Bancshares, Inc. uses the asset and
liability method of accounting for income taxes. Determination of the deferred
and current provision requires analysis by management of certain transaction and
the related tax laws and regulations. Management exercises significant judgment
in evaluating the amount and timing of recognition of the resulting tax
liabilities and assets. Those judgments and estimates are re-evaluated on a
continual basis as regulatory and business factors change.
FINANCIAL CONDITION
September 30, 2002 compared to December 31, 2001
Summary
Total assets at September 30, 2002 were $579,835,000, down from
$729,500,000 at December 31, 2001. The decrease in total assets was mainly
attributable to Community Bank branch divestitures as well as an overall
decrease in loan volume. Refer to "Notes to Consolidated Financial Statements,
Note 2 - Branch Divestitures" throughout the discussion of financial condition.
Earning Assets
The earning assets of the Company are mainly composed of investment
securities, federal funds sold and loans. Investment securities increased
$1,038,000, or 0.9%, to $122,717,000 at September 30, 2002 from $121,679,000 at
December 31, 2001. The investment securities portfolio is used to make various
term investments, to provide a source of liquidity and to serve as collateral to
secure certain government deposits. Short-term investments in the form of
interest-bearing deposits with banks were $200,000 at both September 30, 2002
and December 31, 2001. The Company had $18,210,000 in federal funds sold at
September 30, 2002, compared to $30,000,000 at December 31, 2001, representing a
decrease of $11,790,000, or 39.3%. The decrease in federal funds
22
sold was primarily due to the cash outlay used in the branch divestiture
transactions. Management had kept federal funds sold balances at high levels in
anticipation of funding necessary to consummate the sale of its branch offices
and depleted those funds upon the aforementioned consumation.
Loans comprise the largest single category of the Company's earning assets.
Loans, net of unearned income, were $372,571,000 at September 30, 2002 down
$128,949,000, or 25.7%, from $501,520,000 at December 31, 2001. This decrease is
partly attributable to the sale of the loan portfolio in the branch
divestitures, but the Company continues to experience a decline in total loans
because of economic downturns, the tightening of the Company's credit standards,
and increased loan charge-offs.
Non-performing Assets and Past Due Loans
Total delinquent and non-performing loans reflect some improvement over
second quarter numbers. Weak economic growth and the lack of new job creation
continue to hamper several of the Bank's lending areas. However, the recently
implemented procedures for timely identification of potential repayment problems
coupled with aggressive collection efforts have resulted in slowing the growth
in the 30-89 day delinquency totals as well as providing for a substantial
reduction in loans that are over 90 days past due. Still, nonperforming assets
currently exceed the level of the reserve for loan losses, but while the overall
level of delinquent and non-performing loans remains excessive, management
remains committed to effecting improvement in these areas.
Between December 31, 2001 and September 30, 2002, the ratio of the
allowance for loan losses to total nonperforming assets declined from 58.37% at
year-end 2001 to 47.50% at September 30, 2002. The ratio of total nonperforming
assets to total assets increased to 3.14% at September 30, 2002 from 1.71% at
year-end 2001, while the ratio of nonperforming loans to total loans, net of
unearned income, increased to 2.79% at September 30, 2002 from 1.64% at December
31, 2001. These changes were primarily due to an increase in nonaccruing loans
of $2,334,000, or 39.8%, to $8,193,000 at September 30, 2002 from $5,859,000 at
December 31, 2001 and an increase in other real estate of $3,507,000, or 81.8%,
to $7,794,000 at September 30, 2002 from $4,287,000 at December 31, 2001. This
increase is partly attributable to the Guntersville property located in Marshall
County, Alabama as discussed in Note 4 - Other Real Estate Owned in the Notes to
Consolidated Financial Statements. The Company experienced a decrease in loans
past due 90 days or more of $1,301,000, or 55.5%, to $1,045,000 at September 30,
2002 from $2,346,000 at December 31, 2001. Total nonperforming assets increased
$5,695,000, or 45.6%, to $18,187,000 at September 30, 2002 from $12,492,000 at
December 31, 2001. The overall level of delinquent and non-performing assets
remains excessive. The trend for loans past due 90 days or more appears to be
for these loans to then be placed on non-accrual status as evidenced by the
large increase in non-accrual loans. The Company will continue this recognition
process and identify non-performing assets through its loan review process. This
process has been fully implemented for less than one year and as the loan
reviews have been completed the Company has seen substantial increases in
non-performing assets. The Company has also, however, experienced an improvement
in loans 90 days or more past due since December 31, 2001. We believe this is
attributable to recognizing problem credits more timely as well as more
aggressive collection efforts. The Company does expect a further increase in
non-performing assets during the fourth quarter of 2002.
Funding
The Company's primary sources of funding are from deposits from the
customers of Community Bank and from other short-term and long-term borrowings.
Total deposits of $469,563,000 at September 30, 2002 reflected a decrease of
$148,143,000, or 24.0%, from $617,706,000 at year-end 2001. Deposits are
Community Bank's primary source of funds. Noninterest-bearing deposits decreased
$10,944,000, or 16.2%, to $56,752,000 at September 30, 2002 from $67,696,000 at
December 31, 2001, while interest-bearing deposits decreased $137,199,000, or
24.9%, to $412,811,000 at September 30, 2002 from $550,010,000 at December 31,
2001. Certificates of deposit of $100,000 or more decreased $29,849,000, or
25.0%, to $89,687,000 at September 30, 2002 from $119,536,000 at December 31,
2001. The branch divestitures accounted for $139,080,000 of the decrease in
total deposits.
23
Total short-term borrowings decreased $2,878,000, or 66.0%, to $1,482,000
at September 30, 2002 from $4,360,000 at December 31, 2001. This decrease was
attributable to a commercial account set up as "securities sold under agreements
to repurchase" arrangement that transferred after the Marshall County, Alabama
divestiture. FHLB borrowings remained constant at $38,000,000 for both September
30, 2002 and December 31, 2001, while long-term debt decreased $814,000, or
17.4%, to $3,853,000 at September 30, 2002 from $4,667,000 at December 31, 2001.
In March 2000, the Company formed a wholly-owned Delaware statutory
business trust, Community (AL) Capital Trust I (the "Trust"), which issued
$10,000,000 of guaranteed preferred securities representing undivided beneficial
interests in the assets of the Trust ("Capital Securities"). All of the common
securities of the Trust are owned by the Company. The proceeds from the issuance
of the Capital Securities ($10,000,000) and common securities ($310,000) were
used by the Trust to purchase $10,310,000 of junior subordinated deferrable
interest debentures of the Company which carry an annual interest rate of
10.875%. Under the terms of the indenture, the Company may elect to defer
payments of interest for up to ten semiannual payment periods. The Company
elected to defer its March and September 2002 interest payment and may elect to
do so again based on the liquidity needs of the Company when future payments
become due. For the duration of such deferral period, the Company is restricted
from paying dividends to shareholders or paying debt that is junior to the
debentures. The debentures represent the sole asset of the Trust. The debentures
and related income statement effects are eliminated in the Company's
consolidated financial statements. The Company is entitled to treat the
aggregate liquidation amount of the debentures as Tier I capital under Federal
Reserve guidelines.
The Capital Securities accrue and pay distributions semiannually at a rate
of 10.875% per annum of the stated liquidation value of $1,000 per capital
security. The Company has entered into an agreement which fully and
unconditionally guarantees payment of: (i) accrued and unpaid distributions
required to be paid on the Capital Securities; (ii) the redemption price with
respect to any Capital Securities called for redemption by the Trust; and (iii)
payments due upon a voluntary or involuntary liquidation, winding up or
termination of the Trust.
The Capital Securities are mandatorily redeemable upon the maturity of the
debentures on March 8, 2030, or upon earlier redemption as provided in the
indenture pursuant to which the debentures were issued. The Company has the
right to redeem the debentures purchased by the Trust: (i) in whole or in part,
on or after March 8, 2010; and (ii) in whole (but not in part) at any time
within 90 days following the occurrence and during the continuation of a tax
event, capital treatment event or investment company event (each as defined in
the indenture). As specified in the indenture, if the debentures are redeemed
prior to maturity, the redemption price will be a percentage of the principal
amount, ranging from 105.438% in 2010 to 100.00% in and after 2020, plus accrued
but unpaid interest.
Liquidity
The following is a discussion of cash flows. The Company experienced a
$12,551,000 decrease in cash and cash equivalents during the first nine months
of 2002. Cash provided by operating activities was $4,271,000. Investing
activities used only $4,124,000 despite a cash payment of $32,055,000 in the
divestiture of ten Community Bank branches. This payment was offset by increases
in cash from other investing activities such as proceeds from the sale or calls
of securities and decreases in loans to customers. Financing activities used
$12,698,000 of cash and cash equivalents during the first nine months of 2002.
Certificates of deposits decreased $8,157,000, excluding any decreases for the
divested branches and demand deposits, NOW deposits, and other savings deposits
decreased $906,000 also excluding any decreases due to the branch divestitures.
Dividends paid by Community Bank are the primary source of funds available
to the Company. The Company relies on dividends from Community Bank in order to
pay expenses, service debt and pay dividends to shareholders. Certain
restrictions exist regarding the ability of Community Bank to transfer funds to
the Company in the form of cash dividends, loans or advances. Although dividends
from Community Bank are the primary source of funding, the Company also receives
cash from Community Bank in the form of management fee income and generally
retains cash for its portion of tax benefit on intercompany income tax
settlements. Without dividends or management fee income from Community Bank, the
Company would not be able to pay expenses or service debt. Management fees for
the first
24
nine months of 2002 were $225,000. Community Bank cannot pay a dividend to the
Company without prior approval of the regulatory authorities, nor is the Company
able to increase the management fee charged to Community Bank without the prior
written approval of the Federal Reserve.
Capital Resources
Total shareholders' equity at September 30, 2002 was 7.52% of total assets
as compared to 5.52% at December 31, 2001. The increase experienced during the
first nine months of 2002 is primarily a result of increased retained earnings
from net income of $1,556,000 coupled with an increase in accumulated other
comprehensive income and a decline in total assets attributable to the Community
Bank branch divestitures.
Bank regulatory authorities have issued risk-based capital guidelines that
take into consideration risk factors associated with various categories of
assets, both on and off the balance sheet. Under the guidelines, capital
strength is measured in two tiers, which are used in conjunction with
risk-adjusted assets to determine the risk-based capital ratios. The Company's
Tier I capital, which includes common stock, retained earnings and guaranteed
preferred beneficial interest in the Company's junior subordinate deferrable
interest debentures, amounted to $50,641,000 at September 30, 2002, compared to
$49,118,000 at December 31, 2001. Tier II capital components include
supplemental capital components, such as qualifying allowance for loan losses
and qualifying subordinated debt. Tier I capital plus the Tier II capital
components are referred to as Total Risk-based capital, which was $56,830,000 at
September 30, 2002 as compared to $56,833,000 at year-end 2001. The percentage
ratios, as calculated under the guidelines, for Tier I and Total Risk-based
capital were 13.69% and 15.36%, respectively, at September 30, 2002, compared to
10.02% and 11.59%, respectively, at year-end 2001. At September 30, 2002, both
Tier I and Total Risk-based capital of the Company exceeded the regulatory
minimum ratios of 4% and 8%, respectively.
Another important indicator of capital adequacy in the banking industry is
the leverage ratio. The Tier I Leverage ratio is defined as the ratio that the
Company's Tier I capital bears to total average assets minus goodwill. The
Company's Tier I Leverage ratios were 8.79% and 6.70% at September 30, 2002 and
December 31, 2001, respectively, exceeding the regulatory minimum requirement of
4%.
RESULTS OF OPERATIONS
Three months and nine months ended September 30, 2002 and 2001
--------------------------------------------------------------
Summary
The Company's net loss for the three months ended September 30, 2002 was
$2,504,000, an increase of $1,471,000 from a net loss of $1,033,000 for the same
period in 2001. Both basic and diluted net loss per share was $0.54 for the
three months ended September 30, 2002, as compared to a net loss per share of
$0.22 for the same period in 2001. This increased loss in 2002 is a result of
lower net interest income and increased noninterest expense net of related tax
benefit.
The Company's net loss from continuing operations for the nine months ended
September 30, 2002 was $4,371,000 as compared to a net loss from continuing
operations of $1,011,000 for the same period in 2001. This is in most part due
to increased noninterest expense related to the net loss on other real estate
owned and disposal of assets as well as increased other noninterest expenses due
to legal expenses and settlement of lawsuits.
Discontinued operations provided net income of $5,927,000 for the nine
months ended September 30, 2002 as compared to $627,000 for the same period in
2001. Of the net income from discontinued operations in 2002, $8,072,000
represents the gain on the sale transactions themselves before any reduction for
income taxes.
25
Net Interest Income
The following discussion is on a fully taxable equivalent basis. All
average balances and yield calculations exclude average balances and yields of
discontinued operations. Net interest income, the difference between interest
earned on assets and the cost of interest-bearing liabilities, was $18,087,000
for the nine months ended September 30, 2002. Net interest income, before
provision for loan losses, increased $1,061,000, or 6.23%, from $17,026,000 for
the same period of 2001. Revenues from interest earning assets of the Company
decreased $5,167,000, or 14.2%, to $31,269,000 for the nine months ended
September 30, 2002 from $36,436,000 for the same period in 2001. This decrease
was due to lower yields on interest earning assets as well as lower average
balances of interest earning assets. Average earning assets outstanding during
the first nine months of 2002 were $529,639,000, which represents a decrease of
$1,689,000, or 0.3%, from $531,328,000 for the first nine months of 2001. The
Company's fully taxable equivalent yield on its average earning assets decreased
128 basis points to 7.89% for the first nine months of 2002, compared to 9.17%
for the same period of 2001. This decrease is reflective of the overall decrease
in interest rates experienced during the year 2001. Interest expense for the
nine months ended September 30, 2002 decreased $6,228,000, or 32.1%, to
$13,182,000 from $19,410,000 for the corresponding period of 2001. This decrease
occurred due to a decline in rates paid on interest-bearing liabilities and more
than offset the decline in income on interest-bearing assets. Average
interest-bearing liabilities during the first nine months of 2002 were
$471,358,000, which represents a decrease of $3,184,000, or 6.7%, from
$474,542,000 for the same period of 2001. The rate paid on average
interest-bearing liabilities decreased 173 basis points to 3.74% for the nine
month period ended September 30, 2002, compared to 5.47% for the first nine
months of 2001. This decrease is also attributable to the overall decline in
interest rates during the year 2001.
The Company's net interest margin, on a fully taxable equivalent basis, for
the nine months ended September 30, 2002 increased 29 basis points to 4.57%,
from 4.28% for the nine months ended September 30, 2001, due to the increase in
net interest income, on a fully taxable equivalent basis. Net interest margin is
computed by dividing net interest income, on a fully taxable equivalent basis,
by average interest earning assets. This ratio represents the difference between
the average yield returned on average interest earning assets and the average
rate paid on funds used to support those interest earning assets, including both
interest-bearing and noninterest-bearing sources.
The Company's net interest spread, on a fully taxable equivalent basis, for
the nine months ended September 30, 2002 increased 45 basis points to 4.15%,
from 3.70% for the nine months ended September 30, 2001, as the average cost of
interest-bearing sources of funds decreased 173 basis points while the fully
taxable equivalent average yield on interest earning assets decreased 128 basis
points. Net interest spread measures the difference between the average yield on
interest earning assets and the average rate paid on interest-bearing sources of
funds.
Provision for Loan Losses and Allowance for Loan Losses
At September 30, 2002, the allowance for loan losses was $8,638,000, which
represented an increase of $1,346,000, or 18.5%, from the December 31, 2001
amount of $7,292,000. This increase resulted from management's decision to make
provisions for current losses in the loan portfolio as it continues to recognize
problem credits in the loan portfolio The provision for loan losses was
$6,443,000 and $4,548,000 for the nine months ended September 30, 2002 and 2001,
respectively. The allowance for loan losses account as a percent of loans to
reserve for potential losses in the loan portfolio has increased by virtue of
additional provisions for loan loss expense as well as a reduction in total
loans. As a percentage of total loans, net of unearned income, the allowance for
loan losses increased to 2.32 % at September 30, 2002, compared to 1.45% at
December 31, 2001. Loan charge-offs exceeded recoveries by $4,420,000 during the
first nine months of 2002, which represented a decrease of $930,000, or 17.4%,
from $5,350,000 for the same period during 2001. Provision for loan losses for
the three month period ended September 30, 2002 were $2,389,000 a decrease of
$60,000, or 2.4%, over the same period for 2001. Loan charge-offs exceeded
recoveries by $1,991,000 for the three month period ended September 30, 2002.
26
Management believes that the allowance for loan losses at September 30,
2002 is adequate; however, no assurance can be given that additional losses may
not occur or that additional provisions to the allowance for loan losses will
not be necessary. The amount reserved for loan losses is considered adequate
based on managements the Company's present methodology and the assumptions used
in the methodology. The Company has determined the need to evaluate its current
methodology and to continually revise and document the procedures to address the
dynamic economic situations that face the Company's loan portfolio to
incorporate such issues as higher levels of past due and nonperforming assets,
higher than average regional unemployment issues, declining real estate values,
etc. The Company has also identified a possible need to more specifically
address loans that are not adversely classified.
Noninterest Income
Noninterest income from continuing operations for the nine months ended
September 30, 2002 decreased $152,000 to $5,742,000, from $5,894,000 for the
same period of 2001. Service charges on deposit accounts decreased $61,000, or
2.6%, to $2,314,000 for the first nine months of 2002 from $2,375,000 in the
first nine months of 2001. Debt cancellation fees decreased during the first
nine months of 2002, as compared to the first nine months of 2001, $109,000, or
34.8%, due to decreased volume in debt cancellation coverage associated with the
decline in the Company's loan portfolio. The Company recorded net gains on the
sale of investment securities of $429,000 during the nine months ended September
30, 2002, compared to net gains on the sale of investment securities of $533,000
for the same period of 2001.
For the three month period ended September 30, 2002, noninterest income was
$2,007,000 as compared to $2,160,000 for the same period in 2001. The Company
has experienced increases of $16,000 for the three month period ended September
30, 2002 as compared to the three month period ended September 30, 2001 in its
insurance commissions income due to increased revenues at Community Bank's
subsidiary Community Insurance Corp., but has experienced decreases in service
charges on deposit accounts, bank club dues and debt cancellation fees.
Noninterest Expenses
Noninterest expenses for the nine months ended September 30, 2002 were
$23,498,000, representing a $4,429,000, or 23.2%, increase from $19,069,000 for
the same period of 2001. This increase is due to the loss recognized on the
writedown of the Company's property located in Guntersville, Alabama (see Note 4
- Other Real Estate Owned in the Notes to Consolidated Financial Statements),
the loss recognized on the disposal of one building located in Uniontown,
Alabama and one building located in New Hope, Alabama in the first quarter of
2002 and included in the $334,000 net loss on disposal of assets and an increase
in other operating expenses in most part due to legal expenses incurred as well
as lawsuit settlements. The primary components of noninterest expenses are
salaries and employee benefits, which increased $505,000, or 4.9%, to
$10,789,000 for the nine months ended September 30, 2002 from $10,284,000 for
the same period of 2001. Occupancy costs increased $55,000, or 3.3%, to
$1,731,000 for the first nine months of 2002 from $1,676,000 for the same period
of 2001. Furniture and equipment expenses for the nine month period ended
September 30, 2002 decreased $11,000, or 0.9%, to $1,243,000 from $1,232,000 for
the same period of 2001. Director and committee fees decreased $20,000, or 6.0%,
to $316,000 for the first nine months of 2002 from $336,000 for the first nine
months of 2001. Other operating expenses were $7,521,000 and $5,540,000 for the
nine month periods ended September 30, 2002 and 2001, respectively. This
increase of $1,981,000, or 35.6%, was primarily due to increased expenses,
especially legal fees and lawsuit settlements.
Noninterest expenses for the three month period ended September 30, 2002
increased $2,374,000, or 32.4%, from $7,321,000 for the same period in 2001 to
$9,695,000. All categories of expenses for the three month period ended
September 30, 2002 are down from the same period in 2001 with the exception of
the losses on other real estate owned and disposal of assets as well as other
operating expenses. For the three month period ended September 30, 2002 as
compared to the same period in 2001, occupancy costs decreased $169,000 or
22.6%, furniture, fixtures and equipment costs decreased $60,000 or 12.6%,
directors and committee fees remained relatively even for both nine month
periods ended September 30, 2001 and 2002.
27
Income Taxes
The Company attempts to maximize its net income through active tax
planning. Total provision for income taxes increased $391,000 to $544,000 for
the nine months ended September 30, 2002 from $153,000 for the same period of
2001 due to tax provision recognized on the gain on the sale of branches. The
effective tax rate for the first nine months of 2002 was 25.9%.
28
Item 3 - Quantitative and Qualitative Disclosures About Market Risk
Interest Rate Sensitivity
Community Bank's net interest income, and the fair value of its financial
instruments, are influenced by changes in the level of interest rates. Community
Bank manages its exposure to fluctuations in interest rates through policies
established by its Asset/Liability Committee ("ALCO"). The ALCO meets
periodically to monitor its interest rate risk exposure and implement strategies
that might improve its balance sheet positioning and/or earnings. Management
utilizes an Interest Rate Simulation model to estimate the sensitivity of the
Bank's net interest income and net income to changes in interest rates. Such
estimates are based upon a number of assumptions for each scenario, including
balance sheet growth, deposit repricing characteristics and prepayment rates.
The estimated impact on Community Banks net interest income sensitivity
over a one year time horizon at September 30, 2002 is shown below. Such analysis
assumes an immediate and nonparallel shift in interest rates and the Bank's
estimates of how interest-bearing transaction accounts will reprice.
RATE SHOCK ANALYSIS
-100 +100
Basis Basis
Points Level Points
(Dollars in thousands)
Prime Rate.................................................... 3.75% 4.75% 5.75%
Interest Income............................................... $ 38,461 $ 40,098 $ 41,617
Interest Expense.............................................. 14,680 15,957 17,211
--------- --------- --------
Net Interest Income...................................... $ 23,781 $ 24,141 $ 24,406
========= ========= ========
Dollar change from Level...................................... $ (360) $ 265
Percentage change from Level.................................. -1.49% 1.10%
As shown above, in a 100 basis point rising rate environment, the net
interest margin is projected to increase 1.10% from the level rate scenario and
in a 100 basis point falling rate environment, the net interest margin is
projected to decrease 1.49% from the level rate scenario. These percent changes
fall comfortably within Community Bank's ALCO policy limit of +/-10.00% change
in net interest income from the level rate scenario in a 100 basis point rise
and fall in the prime rate.
29
Item 4 - Controls and Procedures
The Company maintains disclosure controls and procedures, which are
designed to ensure that information required to be disclosed by the Company in
the reports it files or submits under the Securities Exchange Act of 1934, as
amended (the "Exchange Act"), is recorded, processed, summarized and reported
within the time periods specified in the Securities and Exchange Commission's
rules and forms, and that such information is accumulated and communicated to
the Company's management, including its Chief Executive Officer and Chief
Financial Officer, as appropriate to allow timely decisions regarding required
disclosure.
In November 2002, an evaluation of the effectiveness of the Company's
disclosure controls and procedures was conducted under the supervision of, and
reviewed by, the Company's Chief Executive Officer and Chief Financial Officer.
Based on that evaluation, the Company's Chief Executive Officer and Chief
Financial Officer have concluded that the Company's disclosure controls and
procedures were adequate and designed to ensure that material information
relating to the Company would be made known to the Chief Executive Officer and
Chief Financial Officer by others within those entities, particularly during the
periods when periodic reports under the Exchange Act are being prepared.
Furthermore, there have been no significant changes in the Company's internal
controls or in other factors (including any corrective actions with regard to
significant deficiencies or material weaknesses in the Company's internal
controls) that could significantly affect those controls subsequent to the
November 2002 evaluation. Refer to the Certifications by the Company's Chief
Executive Officer and Chief Financial Officer following the signature page of
this report.
30
PART II OTHER INFORMATION
Item 1 - Legal Proceedings
Except as noted below, no reportable events or material developments have
occurred since the filing of the Company's Annual Report on Form 10-K for the
year ended December 31, 2001 and filed on April 16, 2002.
In the case of Community Bancshares, Inc. and Community Bank v. Bryan A.
Corr et al., on May 31, 2002, the court denied defendants' motion to dismiss,
abate or stay the action. The court did dismiss Community Bank's state law
claims against Michael Alred and Michael Bean on the grounds that the claims
were compulsory counterclaims in the suit brought by Messrs. Alred and Bean
against Community Bank alleging wrongful termination of employment. See Note 5 -
Contingencies "Employee Litigation" in the Notes to the Consolidated Financial
Statements.
The Bank has settled the litigation against Carl Gregory Ford L-M, Inc. and
others. Pursuant to the settlement, the Bank will receive a payment of $500,000
on or before December 15, 2002. See Note 5 - Contingencies - "Auto Loan
Litigation" in the Notes to Consolidated Financial Statements.
On August 9, 2002, the court entered an order dismissing the derivative
action filed by William Towns. See Note 5 - "Towns Derivative Litigation" in the
Notes to the Consolidated Financial Statements.
The Company and the Bank have entered into provisional settlements of the
"Benson Litigation" and the "Employee Litigation" See Note 5 - Contingencies -
"Benson Litigation and "Employee Litigation" in the Notes to the Consolidated
Financial Statements.
On October 11, 2002, William Alston, Murphy Howard, and Jason Tittle filed
an action purporting to be a class action against Community Bank, Community
Bancshares, Inc., certain of their officers and others in the United States
District Court for the Northern District of Alabama. The suit alleges that
certain of the defendants engaged in various purported tortious practices
related to consumer automobile financing. The Company believes the lawsuit is
without merit and intends to defend it vigorously. Because the case is in its
very initial stages, it is impossible now to predict the outcome of the suit and
its effect on the Company's financial condition and result of operations.
Item 6 - Exhibits and Reports on Form 8-K
(a) Exhibits
11 Statement of computation of per share earnings
(b) Reports on Form 8-K
The Company did not file any reports on Form 8-K during the quarter ended
September 30, 2002.
31
CERTIFICATION PURSUANT TO
18 U.S.C. SECTION 1350
AS ADOPTED PURSUANT TO
SECTION 906 OF THE SARBANES-OXLEY ACT OF 2002
In connection with Community Bancshares, Inc. ("Company") Quarterly Report
on Form 10-Q for the period ended September 30, 2002 ("Report"), each of the
undersigned certify that:
1. The Report fully complies with the requirements of Section 13(a) or 15(d)
of the Securities Exchange Act of 1934; and
2. The information contained in the Report fairly presents, in all material
respects, the financial condition and results of operations of the Company.
Date: November 19, 2002 By: /s/ Kennon R. Patterson, Sr.
-------------------- ----------------------------------------------
Kennon R. Patterson, Sr.
Chairman, Chief Executive Officer and President
Date: November 19, 2002 By: /s/ Kerri C. Newton
-------------------- -----------------------------------------------
Kerri C. Newton
Chief Financial Officer
32
SIGNATURES
Pursuant to the requirements of Section 13 or 15(d) of the Securities
Exchange Act of 1934, the Registrant has duly caused this report to be signed on
its behalf by the undersigned, hereunto duly authorized, in the city of
Blountsville, State of Alabama, on November 19, 2002.
COMMUNITY BANCSHARES, INC.
By: /s/ KENNON R. PATTERSON, SR.
------------------------------------------------
Kennon R. Patterson, Sr.
Chairman, Chief Executive Officer and President
By: /s/ KERRI C. NEWTON
------------------------------------------------
Kerri C. Newton
Chief Financial Officer
33
CERTIFICATIONS
I, Kennon R. Patterson, Sr., certify that:
1. I have reviewed this quarterly report on Form 10-Q of Community Bancshares,
Inc.;
2. Based on my knowledge, this quarterly report does not contain any untrue
statement of a material fact or omit to state a material fact necessary to
make the statements made, in light of the circumstances under which such
statements were made, not misleading with respect to the period covered by
this quarterly report;
3. Based on my knowledge, the financial statements, and other financial
information included in this quarterly report, fairly present in all
material respects the financial condition, results of operations and cash
flows of the registrant as of, and for, the periods presented in this
quarterly report;
4. The registrant's other certifying officers and I are responsible for
establishing and maintaining disclosure controls and procedures (as defined
in Exchange Act Rules 13a-14 and 15d-14) for the registrant and we have:
a) designed such disclosure controls and procedures to ensure that
material information relating to the registrant, including its
consolidated subsidiaries, is made known to us by others within those
entities, particularly during the period in which this quarterly
report is being prepared;
b) evaluated the effectiveness of the registrant's disclosure controls
and procedures as of a date within 90 days prior to the filing date of
this quarterly report (the "Evaluation Date"); and
c) presented in this quarterly report our conclusions about the
effectiveness of the disclosure controls and procedures based on our
evaluation as of the Evaluation Date;
5. The registrant's other certifying officers and I have disclosed, based on
our most recent evaluation, to the registrant's auditors and the audit
committee of registrant's board of directors (or persons performing the
equivalent function):
a) all significant deficiencies in the design or operation of internal
controls which could adversely affect the registrant's ability to
record, process, summarize and report financial data and have
identified for the registrant's auditors any material weaknesses in
internal controls; and
b) any fraud, whether or not material, that involves management or other
employees who have a significant role in the registrant's internal
controls; and
6. The registrant's other certifying officers and I have indicated in this
quarterly report whether there were significant changes in internal
controls or in other factors that could significantly affect internal
controls subsequent to the date of our most recent evaluation, including
any corrective actions with regard to significant deficiencies and material
weaknesses.
By: /s/ Kennon R. Patterson, Sr.
-------------------------------------
[GRAPHIC OMITTED]
Kennon R. Patterson, Sr.
Chairman, Chief Executive Officer and
President
Date: November 19, 2002
-------------------
34
CERTIFICATIONS
I, Kerri C. Newton, certify that:
1. I have reviewed this quarterly report on Form 10-Q of Community Bancshares,
Inc.;
2. Based on my knowledge, this quarterly report does not contain any untrue
statement of a material fact or omit to state a material fact necessary to
make the statements made, in light of the circumstances under which such
statements were made, not misleading with respect to the period covered by
this quarterly report;
3. Based on my knowledge, the financial statements, and other financial
information included in this quarterly report, fairly present in all
material respects the financial condition, results of operations and cash
flows of the registrant as of, and for, the periods presented in this
quarterly report;
4. The registrant's other certifying officers and I are responsible for
establishing and maintaining disclosure controls and procedures (as defined
in Exchange Act Rules 13a-14 and 15d-14) for the registrant and we have:
a) designed such disclosure controls and procedures to ensure that
material information relating to the registrant, including its
consolidated subsidiaries, is made known to us by others within those
entities, particularly during the period in which this quarterly
report is being prepared;
b) evaluated the effectiveness of the registrant's disclosure controls
and procedures as of a date within 90 days prior to the filing date of
this quarterly report (the "Evaluation Date"); and
c) presented in this quarterly report our conclusions about the
effectiveness of the disclosure controls and procedures based on our
evaluation as of the Evaluation Date;
5. The registrant's other certifying officers and I have disclosed, based on
our most recent evaluation, to the registrant's auditors and the audit
committee of registrant's board of directors (or persons performing the
equivalent function):
a) all significant deficiencies in the design or operation of internal
controls which could adversely affect the registrant's ability to
record, process, summarize and report financial data and have
identified for the registrant's auditors any material weaknesses in
internal controls; and
b) any fraud, whether or not material, that involves management or other
employees who have a significant role in the registrant's internal
controls; and
6. The registrant's other certifying officers and I have indicated in this
quarterly report whether there were significant changes in internal
controls or in other factors that could significantly affect internal
controls subsequent to the date of our most recent evaluation, including
any corrective actions with regard to significant deficiencies and material
weaknesses.
By: /s/ Kerri C. Newton
-------------------------------------
[GRAPHIC OMITTED]
Kerri C. Newton
Chief Financial Officer
Date: November 19, 2002
-------------------
35
Exhibit 11 - Statements Re: Computation of Per Share Earnings
Community Bancshares, Inc.
Computation of Net Income per Common Share
The following tabulation presents the calculation of basic and fully diluted
earnings per common share for the three months and nine months ended September
30, 2002 and 2001.
For the Three Months Ended For the Nine Months Ended
---------------------------- ----------------------------
September 30, September 30,
---------------------------- ----------------------------
2002 2001 2002 2001
------------- ------------ ------------- -------------
Reported income (loss) from continuing operations....... $ (2,503,535) $ (1,033,290) $ (4,371,231) $ (1,011,135)
============= ============ ============= =============
Reported income (loss) from discontinued operations..... $ 0 $ 0 $ 5,927,331 $ 626,572
============= ============ ============= =============
Earnings (losses) on common shares...................... $ (2,503,535) $ (1,033,290) $ 1,556,100 $ (384,563)
============= ============ ============= =============
Weighted average common shares outstanding - basic...... 4,649,782 4,602,569 4,638,801 4,560,172
============= ============ ============= =============
Earnings per common share- basic
Income (loss) from continuing operations............. $ (0.54) $ (0.22) $ (0.94) $ (0.22)
============= ============ ============= =============
Income (loss) from discontinued operations........... $ 0 $ 0 $ 1.28 $ 0.14
============= ============ ============= =============
Net income (loss).................................... $ (0.54) $ (0.22) $ 0.34 $ (0.08)
============= ============ ============= =============
Weighted average common shares outstanding - diluted.... 4,649,782 4,602,569 4,638,801 4,560,172
============= ============ ============= =============
Earnings per common share- diluted
Income (loss) from continuing operations............. $ (0.54) $ (0.22) $ (0.94) $ (0.22)
============= ============ ============= =============
Income (loss) from discontinued operations........... $ 0 $ 0 $ 1.28 $ 0.14
============= ============ ============= =============
Net income (loss).................................... $ (0.54) $ (0.22) $ 0.34 $ (0.08)
============= ============ ============= =============
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