ITEM 1. BUSINESS
The Company
Peoples Bancorporation, Inc. (the "Company") was incorporated under South Carolina law on March 6, 1992, for the purpose of becoming a bank holding company by acquiring all of the common stock of The Peoples National Bank, Easley, South Carolina. The Company commenced operations on July 1, 1992 upon effectiveness of the acquisition of The Peoples National Bank. In 2000, the
Company elected to become a financial holding company, but it has not yet engaged in any activities permitted to financial holding companies that are impermissible for bank holding companies. The Company has three wholly-owned subsidiaries: The Peoples National Bank, Easley, South Carolina, a national bank which commenced business operations in August 1986; Bank of Anderson, National Association, Anderson, South Carolina, a national bank which commenced business operations in September 1998; and, Seneca National Bank, Seneca, South Carolina, a national bank which commenced business operations in February 1999 (sometimes referred to herein as "the Banks").
The Company engages in no significant operations other than the ownership of its three subsidiaries and the support thereof. The Company conducts its business from seven banking offices located in the Upstate Area of South Carolina.
The principal offices of the Company are located at 1818 East Main Street, Easley, South Carolina 29640. The Company's telephone number is (864) 859-2265. The principal office of The Peoples National Bank is located at 1800 East Main Street, Easley, South Carolina 29640. The principal office of Bank of Anderson, National Association is located at 201 East Greenville Street, Anderson, South Carolina 29621, and the principal office of Seneca National Bank is located at 201 Bypass 123, Seneca, South Carolina 29678.
General Business
Some of the major services which the Company provides through its banking subsidiaries include checking accounts; NOW accounts; savings and other time deposits of various types; daily repurchase agreements; alternative investment products such as annuities, mutual funds, stocks and bonds; loans for business, agriculture, real estate, personal uses, home improvement and automobiles; credit cards; letters of credit; home equity lines of credit; an accounts receivable financing program; a wholesale mortgage lending program; safe deposit boxes; bank money orders; wire transfer services; Internet banking and use of ATM facilities. The Banks do not have trust powers. The Company has no material concentration of deposits from any single customer or group of customers. No significant portion of its loans is concentrated within a single industry or group of related industries and the Company does not have any foreign loans. There are no material seasonal factors that would have an adverse effect on the Company.
As a financial holding company, the Company is a legal entity separate and distinct from its subsidiaries. The Company coordinates the financial resources of the consolidated enterprises and maintains financial, operational and administrative systems that allow centralized evaluation of subsidiary operations and coordination of selected policies and activities. The Company's operating revenues and net income are derived primarily from its subsidiaries through dividends and fees for services performed.
Territory Served and Competition
The Peoples National Bank serves its customers from four locations; two offices in the city of Easley and one office in the city of Pickens, South Carolina, which are located in Pickens County, and one office in the unincorporated community of Powdersville, South Carolina, which is located in the northeast section of Anderson County, South Carolina. Easley, South Carolina is located approximately 10 miles west of Greenville, South Carolina. Pickens, South Carolina is located approximately 8 miles north of Easley, and Powdersville, South Carolina is located approximately 12 miles southeast of Easley.
Bank of Anderson, National Association, serves its customers from one location in the City of Anderson and another location in Anderson County, South Carolina. Anderson is located approximately 25 miles southwest of Greenville, South Carolina and approximately 25 miles south of Easley in Anderson County, South Carolina.
Seneca National Bank serves its customers from one location in the City of Seneca, South Carolina. Seneca is located approximately 30 miles northwest of Easley, South Carolina in Oconee County, South Carolina.
Each subsidiary bank of the Company is an independent bank, and, therefore, each bank is responsible for developing and maintaining its own customers and accounts. Located in Easley, South Carolina, The Peoples National Bank's customer base has been primarily derived from Pickens County, South Carolina and the northwest section of Anderson County, South Carolina. Bank of Anderson's primary service area is Anderson County, South Carolina, more particularly, the City of Anderson. Seneca National Bank derives most of its customer base from the City of Seneca and surrounding Oconee County, South Carolina.
The Banks compete with several major banks, which dominate the commercial banking industry in their service areas and in South Carolina generally. In addition, the Banks compete with other community banks, savings institutions and credit unions. In Pickens County, there are thirty (30) competitor bank branches, one (1) savings institution branch, and two (2) credit union branches. In Anderson County there are fifty-eight (58) competitor bank branches and five (5) credit union branches. In Oconee County, there are fifteen (15) competitor bank branches, four (4) savings institution branches, and one (1) credit union branch. The Peoples National Bank has approximately 15.97% of the deposits of FDIC insured institutions in Pickens County. The Peoples National Bank and Bank of Anderson, combined, have approximately 7.90% of the deposits of FDIC insured institutions in Anderson County. Seneca National Bank has approximately 5.25% of the deposits of FDIC insured institutions in Oconee County.
Many competitor institutions have substantially greater resources and higher lending limits than the Banks, and they perform certain functions for their customers, including trust services and investment banking services, which none of the Banks is equipped to offer directly. However, the Banks do offer
some of these services through correspondent banks. In addition to commercial banks, savings institutions and credit unions, the Banks compete for deposits and loans with other financial intermediaries and investment alternatives, including, but not limited to, mortgage companies, captive finance companies, money market mutual funds, brokerage firms, insurance companies, governmental and corporation bonds and other securities. Several of these non-bank competitors are not subject to the same regulatory restrictions as the Company and its subsidiaries and many have substantially greater resources than the Company.
The extent to which other types of financial institutions compete with commercial banks has increased significantly within the past few years as a result of federal and state legislation that has, in several respects, deregulated financial institutions. The full impact of existing legislation and subsequent laws that deregulate the financial services industry cannot be fully assessed or predicted.
DISTRIBUTION OF ASSETS, LIABILITIES AND SHAREHOLDER'S EQUITY; INTEREST RATES AND INTEREST DIFFERENTIAL
The following is a presentation of the average consolidated balance sheets of the Company for the years ended December 31, 2003, 2002 and 2001. This presentation includes all major categories of interest-earning assets and interest-bearing liabilities:
The following is a presentation of an analysis of the net interest income of the Company for the years ended December 31, 2003, 2002 and 2001 with respect to each major category of interest-earning assets and each major category of interest-bearing liabilities:
* Calculated on a fully taxable equivalent basis using a federal tax rate of 34%.
For purposes of these analyses, non-accruing loans are included in the average balances. Loan fees included in interest earned are not material to the presentation. Net yield on interest earning assets is calculated by dividing net interest earnings by total interest earning assets.
* Calculated on a fully taxable equivalent basis using a federal tax rate of 34%.
For purposes of these analyses, non-accruing loans are included in the average balances. Loan fees included in interest earned are not material to the presentation. Net yield on interest earning assets is calculated by dividing net interest earnings by total interest earning assets.
* Calculated on a fully taxable equivalent basis using a federal tax rate of 34%.
For purposes of these analyses, non-accruing loans are included in the average balances. Loan fees included in interest earned are not material to the presentation. Net yield on interest earning assets is calculated by dividing net interest earnings by total interest earning assets.
RATE/VOLUME ANALYSIS OF NET INTEREST INCOME
The effect of changes in average balances (volume) and rates on interest income, interest expense and net interest income, for the periods indicated, is shown below. The effect of a change in average balance has been determined by applying the average rate in the earlier period to the change in average balance in the later period, as compared with the earlier period. The effect of a change in the average rate has been determined by applying the average balance in the earlier period to the change in the average rate in the later period, as compared with the earlier period.
Note: Changes that are not solely attributable to volume or rate have been allocated to volume and rate on a pro-rata basis.
As reflected in the table above, most of the increase in 2003 net interest income of $773,000 was primarily due to the change in volume. Substantially all the $302,000 increase in interest income was related to the volume growth in the loan portfolios. In reviewing the Company's deposits, substantially all the $471,000 decrease in interest expense was due to the decreases in the rates paid on Money Market accounts and Certificates of Deposit.
Note: Changes that are not solely attributable to volume or rate have been allocated to volume and rate on a pro-rata basis.
As reflected in the table above, most of the increase in 2002 net interest income of $2,709,000 was primarily due to the change in volume. Substantially all the $392,000 increase in interest income was related to the volume growth in the loan portfolios. In reviewing the Company's deposits, substantially all the $2,317,000 decrease in interest expense was due to the decrease in rates paid on Certificates of Deposit.
LOAN PORTFOLIO
The Company engages, through the Banks, in a full complement of lending activities, including commercial, consumer, installment and real estate loans.
Commercial lending is directed principally towards businesses whose demands for funds fall within each Bank's legal lending limits and which are potential deposit customers of the Banks. This category of loans includes loans made to individuals, partnerships or corporate borrowers, and which are obtained for a variety of business purposes. Particular emphasis is placed on loans to small and medium-sized businesses. The Company's commercial loans are spread throughout a variety of industries, with no industry or group of related industries accounting for a significant portion of the commercial loan portfolio. Commercial loans are made on either a secured or unsecured basis.
When taken, security usually consists of liens on inventories, receivables, equipment, and furniture and fixtures. Unsecured commercial loans are generally short-term with emphasis on repayment strengths and low debt to worth ratios. At December 31, 2003, approximately $14,878,000, or 34%, of commercial loans were unsecured compared to approximately $16,225,000 or 46% at December 31, 2002.
The Company's real estate loans are primarily construction loans and loans secured by real estate, both commercial and residential, located within the Company's trade areas. The Company does not actively pursue long-term, fixed rate mortgage loans for retention in its loan portfolio. The Banks have mortgage loan originators who originate and package loans that are pre-sold at origination to third parties. The Company also purchases mortgage loans through a wholesale mortgage loan division of The Peoples National Bank that are also pre-sold at origination to third parties. These loans are classified as loans held for sale for reporting purposes. In 2003, the Company originated $417,808,000, and sold $475,416,000 in mortgage loans held for sale.
The Banks' direct consumer loans consist primarily of secured installment loans to individuals for personal, family and household purposes, including automobile loans to individuals, and pre-approved lines of credit.
Management believes the loan portfolio is adequately diversified. Real estate lending (both mortgage and construction loans) continues to be the largest component of the loan portfolio, representing $230,243,000 or 76% of total loans at December 31, 2003, compared to $190,631,000 or 62% at year end 2002. There are no foreign loans and few agricultural loans. The following table presents various categories of loans contained in the Company's loan portfolio and the total amount of all loans at December 31, 2003, 2002, 2001, 2000 and 1999.
The following is a presentation of an analysis of maturities of loans as of December 31, 2003:
All loans are recorded according to original terms, and demand loans, overdrafts, mortgage loans held for sale and loans having no stated repayment terms or maturity are reported as due in one year or less.
At December 31, 2003, the amount of loans due after one year with predetermined interest rates totaled approximately $68,138,000 while the amount of loans due after one year with floating interest rates totaled approximately $109,825,000.
The following table presents information on non-performing loans and real estate acquired in settlement of loans:
In an effort to more accurately reflect the status of the Company's loan portfolio, accrual of interest is discontinued on a loan that displays certain problem indications which might jeopardize full and timely collection of principal and/or interest. The Company's Loan Policy drives the administration of problem loans. Through constant review by credit managers, monthly reviews of exception reports, and ongoing analysis of asset quality trends, economic and
business factors, loan monitoring is managed. Credit management activities, including specific reviews of new large credits, are reviewed by the Directors' Loan Committees of each banking subsidiary, which meet monthly.
With respect to the loans accounted for on a non-accrual basis and restructured loans, the gross interest income that would have been recorded if the loans had been current in accordance with their original terms and outstanding throughout the period or since origination amounts to $101,000 for the year ended December 31, 2003. The interest on those loans that was included in net income for 2003 amounts to $26,000.
As of December 31, 2003, there were no potential problem loans classified for regulatory purposes as doubtful, substandard or special mention that have not been disclosed above, which (i) represent or result from trends or uncertainties which management reasonably expects will materially impact future operating results, liquidity, or capital resources of the Company, or (ii) represent material credits about which management is aware of any information which causes management to have serious doubts as to the ability of such borrowers to comply with the loan repayment terms.
The Company accounts for impaired loans in accordance with SFAS No. 114 "Accounting by Creditors for Impairment of a Loan." SFAS No. 114, as amended by SFAS No. 118, requires that impaired loans be measured based on the present value of expected future cash flows or the underlying collateral values as defined in the pronouncement. The Company complies with the provisions of SFAS No.114, as necessary, when determining the adequacy of the allowance for loan losses. When the ultimate collectability of an impaired loan's principal is in doubt, wholly or partially, all cash receipts are applied to principal. When this doubt does not exist, cash receipts are applied under the contractual terms of the loan agreement. Once the recorded principal balance has been reduced to zero, future cash receipts are applied to interest income, to the extent that any interest has been foregone. Further cash receipts are recorded as recoveries on any amounts previously charged off. There were no impaired loans at December 31, 2003 and December 31, 2002.
PROVISION AND ALLOWANCE FOR LOAN LOSSES, LOAN LOSS EXPERIENCE
The purpose of the Company's allowance for loan losses is to absorb loan losses that occur in the loan portfolios of its bank subsidiaries. Management determines the adequacy of the allowance quarterly and considers a variety of factors in establishing a level of the allowance for losses and the related provision, which is charged to expense. Factors considered in determining the adequacy of the allowance for loan losses include: historical loan losses experienced by the Company, current economic conditions affecting a borrower's ability to repay, the volume of outstanding loans, the trends in delinquent, non-accruing and potential problem loans, and the quality of collateral securing non-performing and problem loans. By considering the above factors, management attempts to determine the amount of reserves necessary to provide for inherent losses in the loan portfolios of its subsidiaries. However, the amount of reserves may change in response to changes in the financial condition of larger borrowers, changes in the Company's local economies and expected industry trends.
The allowance for loan losses for each portfolio segment is set at an amount that reflects management's best judgment of the extent to which historical loss levels are more or less accurate indicators of current losses in the loan portfolios of its bank subsidiaries. While it is the Company's policy to charge-off in the current period loans in which a loss is considered probable, there are inherent losses that cannot be quantified precisely or attributed to particular loans or classes of loans. Because the state of the economy, industry trends, and conditions affecting individual borrowers may affect the amount of such losses, management's estimate of the appropriate amount of the allowance is necessarily approximate and imprecise. The Company and its bank subsidiaries are also subject to regulatory examinations and determinations as to adequacy of the allowance for loan losses, which may take into account such factors as the methodology used to calculate the allowance for loan losses and the size of the allowance for loan losses in comparison to a group of peer companies identified by the regulatory agencies.
In assessing the adequacy of the allowance, management relies predominantly on its ongoing review of the loan portfolio, including historical charge-offs, which is undertaken both to ascertain whether there are probable losses that must be charged off and to assess the risk characteristics of the portfolio in the aggregate. The Company utilizes the services of an outside consultant to perform quality reviews of its loan portfolio. The review considers the judgments and estimates of management and also those of bank regulatory agencies that review the loan portfolio as part of their regular examination process. The Comptroller of the Currency, as part of its routine examination process of various national banks, including the Banks, may require additions to the allowance for loan losses based upon the regulators' credit evaluations differing from those of management. The Company's management believes they have in place the controls and personnel to adequately monitor its loan portfolios and the adequacy of the allowance for loan losses.
Management does not segregate the allowance by loan category and the entire allowance is available to absorb losses from all loan categories.
At December 31, 2003 the allowance for loan losses was $3,438,000, or 1.16% of gross outstanding loans (excluding mortgage loans held for sale), compared to $2,850,000, or 1.14% of gross outstanding loans (excluding mortgage loans held for sale), at December 31, 2002. During fiscal 2003, the Company experienced net charge-offs of $518,000, or 0.19% of average loans, compared to net charge-offs of $382,000, or 0.15% of average loans in fiscal 2002. Consumer loan net charge-offs were $110,000 in 2003 compared to net charge-offs of $69,000 in 2002. Commercial loan net charge-offs were $229,000 in 2003 compared to net charge-offs of $272,000 in 2002. Mortgage loan net charge-offs were $179,000 in 2003 compared to net charge-offs of $41,000 in 2002.
The Company made provisions for loan losses of $1,106,000 in fiscal 2003 compared to $944,000 for fiscal 2002.
In fiscal 2003 and 2002, The Peoples National Bank made provisions for loan losses of $775,000 and $550,000, respectively. In fiscal 2003 and 2002, The Peoples National Bank recorded net charge-offs of $469,000 and $97,000, respectively. In fiscal 2003, Bank of Anderson made provisions for loan losses of $200,000 compared to $130,000 in 2002. In fiscal 2003 and 2002, Bank of Anderson recorded net charge-offs of $18,000 and $12,000, respectively. Seneca National Bank made provisions for loan losses of $131,000 in fiscal 2003 compared to $264,000 in 2002. In fiscal 2003 and 2002 Seneca National Bank recorded net charge-offs of $31,000 and $273,000 respectively. The substantial increase in charge-offs at Peoples National Bank was primarily due to management's assessment of the ultimate collectibility of certain loans in the portfolio resulting from the individual circumstances of the borrowers involved.
Management continues to closely monitor the levels of non-performing and potential problem loans and will address the weaknesses in these credits to enhance the amount of ultimate collection or recovery on these assets. Should increases in the overall level of non-performing and potential problem loans accelerate from the current trend, management will adjust the methodology for determining the allowance for loan losses and will increase the provision and allowance for loan losses. This would likely decrease net income.
The following table summarizes the allowance for loan loss balances of the Company at the beginning and end of each period, changes in the allowance arising from charge-offs and recoveries by category and additions to the allowance, which have been charged to expense.
The following table sets forth ratios of net charge-offs or the allowance for loan losses to the items stated:
Asset Quality Ratios:
The allowance for loan losses is increased by direct charges to operating expense, the provision for loan losses. Losses on loans are charged against the allowance in the period in which management determines it is more likely than not that the full amounts of such loans have become uncollectable. Recoveries of previously charged-off loans are credited to the allowance.
Management considers the allowance for loan losses adequate to cover inherent losses on the loans outstanding at December 31, 2003. In the opinion of management, there are no material risks or significant loan concentrations in the present portfolio. It must be emphasized, however, that the determination of the allowance for loan losses using the Company's procedures and methods rests upon various judgments, estimates and assumptions about present and future economic conditions and other factors affecting loans. No assurance can be given that the Company will not sustain loan losses in any particular period which are sizable in relation to the amount reserved or that subsequent evaluation of the loan portfolio, in light of conditions and factors then prevailing, will not require significant changes in the allowance for loan losses or future charges to earnings. The allowance for loan losses is also subject to review and approval by various regulatory agencies through their periodic examinations of the Company's subsidiaries. Such examinations could result in required changes to the allowance for loan losses.
INVESTMENTS
The Company invests primarily in obligations of the United States or obligations guaranteed as to principal and interest by the United States, other taxable securities and in certain obligations of states and municipalities. The
Banks enter into Federal funds transactions with their principal correspondent banks and usually act as net sellers of such funds. The sale of Federal funds amounts to a short-term loan from one bank to another bank.
The following table summarizes the book and market values of investment securities held by the Company at December 31, 2003, 2002 and 2001.
The Company accounts for investments in accordance with Statement of Financial Accounting Standards (SFAS) No. 115, "Accounting for Certain Investments in Debt and Equity Securities." Investments classified as available for sale are carried at market value. Unrealized holding gains or losses are reported as a component of shareholder's equity net of deferred income taxes in comprehensive income. Securities classified as held for investment are carried at cost, adjusted for the amortization of premiums and the accretion of discounts. In order to qualify as held for investment, the Company must have the ability and intent to hold the securities to maturity. The Company has no trading securities.
At December 31, 2003 the Company's total investment portfolio classified as available for sale had a book value of $78,620,000 and a market value of $78,714,000 for an unrealized net gain of $94,000.
The following table indicates the respective maturities and weighted average yields of securities as of December 31, 2003:
* Calculated on a fully taxable equivalent basis using a federal tax rate of 34%. ** Weighted average yields on available for sale securities are based on amortized cost.
DEPOSITS
The Company offers a full range of interest-bearing and noninterest-bearing accounts, including commercial and retail checking accounts, negotiable orders of withdrawal ("NOW") accounts, public funds accounts, money market accounts, individual retirement accounts, including Keogh plans with stated maturities, regular interest-bearing statement savings accounts and certificates of deposit with fixed rates and a range of maturity date options. The sources of deposits are residents, businesses and employees of businesses within the Company's market areas obtained through the personal solicitation of the Company's officers and directors, direct mail solicitations and advertisements published in the local media. From time to time the Company garners deposits from sources outside of its normal trade areas through the Internet or through brokers. These deposits are short-term in nature and are used to manage the Company's short-term liquidity position. These brokered deposits are generally more volatile than deposits acquired in the local market areas. There were no Internet deposits at December 31, 2003 and Internet deposits totaled approximately $990,000 at December 31, 2002. There were no brokered deposits at December 31, 2003 and December 31, 2002. During 2003 and 2002 the Company reduced its dependence on these nontraditional deposits replacing them with core deposits obtained through several deposit gathering campaigns. The Company pays competitive interest rates on interest checking, savings, money market, time and individual retirement accounts. In addition, the Banks have implemented a service charge fee schedule competitive with other financial institutions in the Banks' market areas, covering such matters as maintenance fees on checking accounts, per item processing fees on checking accounts, returned check charges and the like.
The Company's average deposits in 2003 were $353,218,000 compared to $297,281,000 the prior year, an increase of $55,937,000 or 19%. The increase in average deposits in 2003 is attributable to new deposits generated by the Banks.
In 2003 the average noninterest-bearing deposits increased approximately $9,574,000 or 23%, average interest-bearing checking accounts increased $4,993,000 or 15%, average savings accounts increased $2,026,000 or 27%, average money market accounts increased $3,151,000 or 5%, average certificates of deposit increased $30,425,000 or 22%, and individual retirement accounts increased $5,768,000 or 33%. The growth in deposits is attributable to new deposits generated at each of the Banks. Competition for deposit accounts is primarily based on the interest rates paid, service charge structure, location convenience and other services offered.
The following table presents, for the years ended December 31, 2003, 2002 and 2001, the average amount of and average rate paid on each of the following deposit categories:
The Company's core deposit base consists of consumer time deposits less than $100,000, savings accounts, NOW accounts, money market accounts and checking accounts. Although such core deposits are becoming increasingly interest-sensitive for both the Company and the industry as a whole, such core deposits continue to provide the Company with a large and stable source of funds. Core deposits as a percentage of average total deposits averaged approximately 77% in 2003 compared to approximately 78% in 2002. The Company closely monitors its reliance on certificates of deposits greater than $100,000, which are generally considered less stable and less reliable than core deposits. Virtually all of the certificates of deposit over $100,000 are held by local customers. In 2001 the Company had $5,100,000 in brokered deposits included in total certificates of deposits. There were no brokered deposits at December 31, 2002 and 2003.
The following table indicates amounts outstanding of time certificates of deposit of $100,000 or more and respective maturities as of December 31, 2003:
Time Certificates of Deposit ---------------------------- (dollars in thousands) 3 months or less ................... $ 30,767 4-6 months ......................... 8,871 7-12 months ........................ 21,406 Over 12 months ..................... 30,885 ------------- Total ..................... $ 91,929 =============
RETURN ON EQUITY AND ASSETS
Returns on average consolidated assets and average consolidated equity for the years ended December 31, 2003, 2002 and 2001 are as follows:
2003 2002 2001 ---- ---- ---- Return on average assets ...................... 1.18% 1.21% 1.07% Return on average equity ...................... 14.52% 14.49% 11.31% Average equity to average assets ratio ........ 8.13% 8.34% 9.45% Dividend payout ratio (1) ..................... 19.96% 17.98% 18.89%
(1) Includes cash-in-lieu of fractional shares paid on 5% stock dividend.
SHORT-TERM BORROWINGS
The following table summarizes the Company's short-term borrowings for the years ended December 31, 2003, 2002 and 2001. These borrowings consist of federal funds purchased and securities sold under agreements to repurchase, which generally mature on a one-business-day basis.
MARKET RISK - INTEREST RATE SENSITIVITY
Market risk is the risk of loss arising from adverse changes in the fair value of financial instruments due to a change in interest rates, exchange rate and equity prices. The Company's primary risk is interest rate risk. The primary objective of Asset/Liability Management at the Company is to manage interest rate risk and achieve reasonable stability in net interest income throughout interest rate cycles in order to maintain adequate liquidity. This is achieved by maintaining the proper balance of rate-sensitive earning assets and rate-sensitive earning liabilities. The relationship of rate-sensitive earning assets to rate-sensitive liabilities is the principal factor in projecting the effect that fluctuating interest rates will have on future net interest income. Rate-sensitive assets and interest-bearing liabilities are those that can be repriced to current market rates within a relatively short time period. Management monitors the rate sensitivity of earning assets and interest-bearing liabilities over the entire life of these instruments, but places particular emphasis on the first year. At December 31, 2003, approximately 40% of the Company's interest-earning assets were scheduled to reprice or to mature within one year compared to approximately 82% of interest-bearing liabilities.
The following table shows the Company's rate-sensitive position at December 31, 2003 as measured by gap analysis (the difference between the interest-earning asset and interest-bearing liability amounts scheduled to be repriced to current market rates in subsequent periods). Over the next 12 months approximately $129.6 million more interest-bearing liabilities than interest-earning assets can be repriced to current market rates at least once. As a result, at December 31, 2003 the ratio of rate-sensitive assets to rate-sensitive liabilities within the one-year time frame was 51%, indicating a "liability-sensitive" position. Companies in a liability sensitive position would expect rising interest rates to have a negative impact on net interest income and falling interest rates to have a positive impact.
The following table sets forth the Company's interest sensitivity position as of December 31, 2003.
Interest Sensitivity Analysis (dollars in thousands)
RSA - rate sensitive assets; RSL - rate sensitive liabilities
It is the overall philosophy of management to support asset growth primarily through growth of core deposits, which include deposits of all categories made by individuals, partnerships and corporations. Management of the Company seeks to invest the largest portion of its assets in commercial, consumer and real estate loans.
Each of the Company's banking subsidiaries has established an Asset/Liability Management Committee. These committees use a variety of tools to analyze interest rate sensitivity, including a static gap presentation and a simulation model. A "static gap" presentation reflects the difference between total interest-sensitive assets and liabilities within certain time periods. While the static gap is a widely used measure of interest rate sensitivity, it is not, in management's opinion, the best indicator of a company's true sensitivity position. Accordingly, the Company's banking subsidiaries also use an earnings simulation model that estimates the variations in interest income under different interest rate environments to measure and manage the bank's short-term interest rate risk. Additionally, each of the Company's banking subsidiaries measures anticipated changes in its economic value of equity, in order to ascertain its long-term interest rate risk. This is done by calculating the difference between the theoretical market value of the bank's assets and liabilities and subjecting the balance sheet to different interest rate environments to measure and manage long-term interest rate risk.
It is the responsibility of the Committees to establish parameters for various interest risk measures, to set strategies to control interest rate risk within those parameters, to maintain adequate and stable net interest income, and to direct the implementation of tactics to facilitate achieving their objectives.
Management is not aware of any known events or uncertainties that will have or are reasonably likely to have a material effect on the Company's liquidity, capital resources or results of operations. Management is not aware of any current recommendations by the regulatory authorities, which if they were to be implemented, would have a material effect on the Company's liquidity, capital resources or results of operations.
LIQUIDITY
Liquidity management involves meeting the cash flow requirements of the Company. The Company's liquidity position is primarily dependent upon its need to respond to short-term demand for funds caused by withdrawals from deposit accounts and upon the liquidity of its assets. The Company's primary liquidity sources include cash and due from banks, federal funds sold and "securities available for sale". In addition, the Company (through the Banks) has the ability, on a short-term basis, to borrow funds from the Federal Reserve System and to purchase federal funds from other financial institutions. At December 31, 2003 the Banks, in aggregate, had unused federal funds lines of credit totaling $22,450,000 with correspondent banks. The Banks are also members of the Federal Home Loan Bank System and have the ability to borrow both short- and long-term funds on a secured basis. At December 31, 2003 The Peoples National Bank had $5,000,000 in long-term borrowings and no short-term borrowings from the Federal Home Loan Bank of Atlanta. At December 31, 2003, The Peoples National Bank had unused borrowing capacity from the Federal Home Loan Bank of Atlanta of $34,968,000. At December 31, 2003, Bank of Anderson, N. A. had unused borrowing capacity from the Federal Home Loan Bank of Atlanta of $15,688,000. Seneca National Bank had unused borrowing capacity from the Federal Home Loan Bank of Atlanta of $4,327,000 at December 31, 2003. The Federal Home Loan Bank requires that investment securities, qualifying single-family mortgage loans and stock of the Federal Home Loan Bank owned by the Banks be pledged to secure any advances from the Federal Home Loan Bank. The unused borrowing capacity currently available assumes that the Banks' $1,606,200 investment in Federal Home Loan Bank stock as well as certain securities and qualifying mortgages would be pledged to secure future borrowings. Management believes that it could obtain additional borrowing capacity from the Federal Home Loan Bank by identifying additional qualifying collateral that could be pledged.
Peoples Bancorporation, Inc., the parent holding company, has limited liquidity needs outside of those of its subsidiaries. Peoples Bancorporation requires liquidity to pay limited operating expenses and dividends. The parent company's liquidity needs are fulfilled through management fees assessed each subsidiary bank and from dividends passed up to the parent company from The Peoples National Bank.
The Company plans to meet its future cash needs through the liquidation of temporary investments, maturities or sales of loans and investment securities, generation of deposits and Federal Home Loan Bank advances. Company management believes its liquidity sources are adequate to meet its operating needs and does not know of any trends that may result in the Company's liquidity materially increasing or decreasing.
OFF-BALANCE SHEET ARRANGEMENTS AND DERIVATIVE FINANCIAL INSTRUMENTS
The Company, through the operations of the Banks, makes contractual commitments to extend credit in the ordinary course of its business activities. These commitments are legally binding agreements to lend money to customers of the Banks at predetermined interest rates for a specified period of time. At December 31, 2003 the Banks had issued commitments to extend credit (excluding commitments for residential mortgage loans designated for sale) of $84,377,000 through various types of arrangements, described further in the table on the following page.
The commitments generally expire in one year. Past experience indicates that many of these commitments to extend credit will expire not fully used. However, as described under Liquidity, the Company believes that it has adequate sources of liquidity to fund commitments that are drawn upon by the borrower.
December 31, 2003 ----------------- (dollars in thousands) Unused Commitments Lines of credit secured by residential properties .... $ 33,352 Lines of credit secured by commercial properties ..... 22,403 Other unused commitments ............................. 28,622 ------------- Total ............................................. $ 84,377 =============
In addition to commitments to extend credit, the Banks also issue standby letters of credit which are assurances to a third party that it will not suffer a loss if the bank's customer fails to meet its contractual obligation to the third party. Standby letters of credit totaled $4,633,000 at December 31, 2003. Past experience indicates that many of these standby letters of credit will expire unused. However, through its various sources of liquidity, the Company believes that it will have the necessary resources to meet these obligations should the need arise. Various types of collateral secure most of the standby letters of credit. The Company believes that the risk of loss associated with standby letters of credit is comparable to the risk of loss associated with its loan portfolio. Moreover, the fair value associated with any standby letters of credit issued by the Company is immaterial to the Company.
According to SFAS No. 133, "Accounting for Derivative Instruments and Hedging Activities," loan commitments that relate to the origination or purchase of mortgage loans that will be held for sale must be accounted for as derivative instruments. Therefore, such commitments are recorded at fair value in derivative assets or liabilities with changes in fair value recorded in the net gain or loss on sale of mortgage loans. The Company engages in the origination and sale of residential mortgage loans and enters into commitments on an individual loan basis to both originate and sell residential mortgage loans whereby the interest rate on the loan to the borrower and to the end purchaser of the loan is determined prior to funding (rate lock commitments). At December 31, 2003 the Company had commitments outstanding to originate residential mortgage loans under rate lock commitments from borrowers totaling $10,754,000. Simultaneously, the Company had commitments to sell these loans to third parties under rate lock commitments. The Company does not collect any upfront fees when issuing a mortgage loan commitment to a potential borrower and mortgages are sold to third parties at par value. The cumulative effect under SFAS No. 133 for rate lock commitments as of December 31, 2003 for the Company was immaterial.
Neither the Company nor its subsidiaries are involved in other off-balance sheet arrangements or transactions that could result in liquidity needs or other commitments or significantly impact earnings. The Company did not maintain any obligations under non-cancelable operating lease agreements at December 31, 2003. Refer to Note 11 and Note 12 of the Company's consolidated financial statements for discussion on commitments and contingencies and financial instruments with off-balance sheet risk.
CAPITAL ADEQUACY AND RESOURCES
The capital needs of the Company have been met through the retention of earnings and from the proceeds of prior public stock offerings.
For bank holding companies with total assets of more than $150 million, such as the Company, capital adequacy is evaluated on a consolidated basis. The Company's banking subsidiaries must separately meet regulatory capital requirements. Generally, the Board of Governors of the Federal Reserve System (the "Federal Reserve Board") expects bank holding companies to operate above minimum capital levels. The Office of the Comptroller of the Currency ("Comptroller") regulations establish the minimum leverage capital ratio requirement for national banks at 3% in the case of a national bank that has the highest regulatory examination rating and is not contemplating significant growth or expansion. All other national banks are expected to maintain a ratio of at least 1% to 2% above the stated minimum. Furthermore, the Comptroller reserves the right to require higher capital ratios in individual banks on a case-by-case basis when, in its judgment, additional capital is warranted by a deterioration of financial condition or when high levels of risk otherwise exist. The Banks have not been notified that they must maintain capital levels above regulatory minimums. The Company's leverage capital ratio was 8.46% at December 31, 2003 compared to 7.93% at December 31, 2002. The leverage capital
ratio for The Peoples National Bank was 8.47% at December 31, 2003 compared to 7.73% at December 31, 2002. Bank of Anderson's leverage capital ratio was 7.17% at December 31, 2003 compared to 6.43% at December 31, 2002. Seneca National Bank's leverage capital ratio was 7.92% at December 31, 2003 compared to 7.90% at December 31, 2002. The increases in the Company's and Banks' leverage capital ratios resulted primarily from the retention of earnings net of dividends paid during 2003.
The Federal Reserve Board has adopted a risk-based capital rule that requires bank holding companies to have qualifying capital to risk-weighted assets of at least 8%, with at least 4% being "Tier 1" capital. Tier 1 capital consists principally of common stockholders' equity, non-cumulative preferred stock, qualifying perpetual preferred stock, and minority interests in equity accounts of consolidated subsidiaries, less goodwill and certain intangible assets. "Tier 2" (or supplementary) capital consists of general loan loss reserves (subject to certain limitations), certain types of preferred stock and subordinated debt, and certain hybrid capital instruments and other debt securities such as equity commitment notes. A bank holding company's qualifying capital base for purposes of its risk-based capital ratio consists of the sum of its Tier 1 and Tier 2 capital components, provided that the maximum amount of Tier 2 capital that may be treated as qualifying capital is limited to 100% of Tier 1 capital. The Comptroller imposes a similar standard on national banks. The regulatory agencies expect national banks and bank holding companies to operate above minimum risk-based capital levels. The Company's risk-based capital ratio was 12.37% and its Tier 1 capital to risk weighted assets ratio was 11.30% at December 31, 2003, compared to 11.96% and 10.98%, respectively, at December 31, 2002. The Peoples National Bank's risk-based capital ratio was 12.58% and its Tier 1 capital to risk weighted assets ratio was 11.47% at December 31, 2003, compared to 10.97% and 10.02%, respectively, at December 31, 2002. Bank of Anderson's risk-based capital ratio was 10.61% and its Tier 1 capital to risk weighted assets ratio was 9.63% at December 31, 2003 compared to 11.69% and 10.70%, respectively at December 31, 2002. Seneca National Bank's risk-based capital ratio was 11.79% and its Tier 1 capital to risk weighted assets ratio was 10.64% at December 31, 2003 compared to 12.18% and 11.16%, respectively at December 31, 2002. The increases in the Company's and The Peoples National Bank's risk-based capital ratios and their Tier 1 capital to risk-weighted assets ratios in 2003 resulted from the fact that net income increased capital more than growth and changes in asset mix changed risk weighted assets while Bank of Anderson, N. A. and Seneca National Bank experienced decreases in those ratios because their growth in assets experienced during 2003 exceeded their growth in net income. (See "Item 7, Management's Discussion and Analysis of Financial Condition and Results of Operation).
During 2003 and 2002, the retention of earnings net of dividends paid increased the Company's capital by $4,037,000 and $3,595,000 respectively. Capital expenditures in the near future are expected to be funded by internally generated funds.
PAYMENT OF DIVIDENDS
If a national bank's surplus fund equals the amount of its capital stock, the directors may declare quarterly, semi-annual or annual dividends out
of the bank's net profits, after deduction of losses and bad debts. If the surplus fund does not equal the amount of capital stock, a dividend may not be paid until one-tenth of the bank's net profits of the preceding half year, in the case of quarterly or semi-annual dividends, or the preceding two years, in the case of an annual dividend, are transferred to the surplus fund.
The approval of the Comptroller is required if the total of all dividends declared by a national bank in any calendar year will exceed the total of its retained net profits of that year combined with its retained net profits for the preceding two years, less any required transfers to surplus or a fund for the retirement of any preferred stock. The Comptroller's regulations provide that provisions for possible credit losses cannot be added back to net income and charge-offs cannot be deducted from net income in calculating the level of net profits available for the payment of dividends.
The payment of dividends by the Banks may also be affected or limited by other factors, such as the requirements to maintain adequate capital above regulatory guidelines. If, in the opinion of the Comptroller, a bank under its jurisdiction is engaged in or is about to engage in an unsafe or unsound practice (which, depending on the financial condition of the bank, could include the payment of dividends), the Comptroller may require, after notice and hearing, that such bank cease and desist from such practice. The Comptroller has indicated that paying dividends that deplete a national bank's capital base to an inadequate level would be an unsafe and unsound banking practice. The Federal Reserve, the Comptroller and the FDIC have issued policy statements that provide that bank holding companies and insured banks should generally only pay dividends out of current operating earnings.
The Company's primary sources of funds with which to pay dividends to shareholders are the dividends it receives from its subsidiary banks. In 2003 The Peoples National Bank paid dividends of $994,454 to the Company, which in turn paid those dividends to its shareholders, compared to $777,869 in 2002. Bank of Anderson and Seneca National Bank paid no dividends to the Company in 2003 or 2002.
MONETARY POLICIES AND EFFECT OF INFLATION
The earnings of bank holding companies are affected by the policies of regulatory authorities, including the Federal Reserve Board, in connection with its regulation of the money supply. Various methods employed by the Federal Reserve Board include open market operations in U. S. Government securities, changes in the discount rate on member bank borrowings and changes in reserve requirements against member bank deposits. These methods are used in varying combinations to influence overall growth and distribution of bank loans, investments and deposits, and their use may also affect interest rates charged on loans or paid on deposits. The monetary policies of the Federal Reserve Board have had a significant effect on the operating results of commercial banks in the past and are expected to continue to do so in the future.
The consolidated financial statements have been prepared in accordance with accounting principals generally accepted in the United States of America
which require the measurement of financial position and results of operations in terms of historical dollars, without consideration of changes in the relative purchasing power over time due to inflation. Unlike companies in most other industries, virtually all of the assets and liabilities of financial institutions are monetary in nature. As a result, interest rates generally have a more significant effect on a financial institution's performance than does the effect of inflation. Interest rates do not necessarily change in the same magnitude as do the prices of goods and services.
While the effect of inflation on banks is normally not as significant as is its influence on those businesses that have large investments in plant and inventories, it does have some effect. During periods of high inflation, there are normally corresponding increases in the money supply, and banks will normally experience above-average growth in assets, loans and deposits. Also, general increases in the prices of goods and services will result in increased operating expenses. Inflation that affects the Banks' customers may also have an indirect affect on the Banks.
CORRESPONDENT BANKING
Correspondent banking involves the provision of services by one bank to another bank, which cannot provide that service for itself, or chooses not to, from an economic, regulatory or practical standpoint. The Banks purchase correspondent services offered by larger banks, including check collections, the sale and purchase of federal funds, security safekeeping, investment services, over-line and liquidity loan participations and sales of loans to or participations with correspondent banks.
The Banks have the option to sell loan participations to correspondent banks with respect to loans that exceed the Banks' lending limits. Management of the Banks has established correspondent relationships with Wachovia Bank, N. A., Charlotte, North Carolina, The Bankers Bank, Atlanta, Georgia and Community Bankers Bank, Midlothian,Virginia. As compensation for services provided by correspondents, the Banks maintain certain balances with such correspondents in non-interest bearing accounts.
DATA PROCESSING
The Company has a data-processing department, which performs a full range of data-processing services for the Banks. Such services include an automated general ledger, deposit accounting, loan accounting and data processing. In February of 2002 the Company made a decision to replace its data processing system with a new system. The new system was installed during the third quarter of 2002 at a cost of approximately $1,250,000.
SUPERVISION AND REGULATION
The Company and the Banks operate in a highly regulated environment, and their business activities are governed by statute, regulation and administrative policies. To the extent that the following information describes statutory and regulatory provisions, it is qualified in its entirety by reference to such statutes and regulations. Any change in applicable law or regulation may have a material effect on the business of the Company and the Banks.
General
The business activities of the Company and Banks are closely supervised by a number of federal regulatory agencies, including the Board of Governors of the Federal Reserve System (the "Federal Reserve Board"), the Comptroller of the Currency (the "Comptroller") and the Federal Deposit Insurance Corporation (the "FDIC"). As a bank holding company, the Company is required to file with the Federal Reserve Board an annual report of its operations at the end of each fiscal year and such additional information as the Federal Reserve Board may require pursuant to the Bank Holding Company Act. The Federal Reserve Board may also make examination of the Company and any subsidiaries.
The Company is regulated by the Federal Reserve Board under the Federal Bank Holding Company Act of 1956, as amended (the "BHCA"). Under the BHCA, a bank holding company is generally prohibited from acquiring control of any company that is not a bank and from engaging in any business other than the business of banking or managing and controlling banks. However, there are certain activities which have been identified by the Federal Reserve Board to be so closely related to banking as to be a proper incident thereto, and are thus permissible for bank holding companies, including the following activities: acting as an investment or financial advisor to subsidiaries and certain outside companies; leasing personal and real property or acting as a broker with respect thereto; providing management consulting advice to nonaffiliated banks and non-bank depository institutions; operating collection agencies and credit bureaus; acting as a futures commission merchant; providing data processing and data transmission services; acting as an insurance agent or underwriter with respect to limited types of insurance; performing real estate appraisals; arranging commercial real estate equity financing; providing securities brokerage services; and underwriting and dealing in obligations of the United States, the states and their political subdivisions. The BHCA also requires every bank holding company to obtain the prior approval of the Federal Reserve Board before acquiring more than 5% of the voting shares of any bank or all or substantially all of the assets of a bank, and before merging or consolidating with another bank holding company.
As discussed below under the caption "Gramm-Leach-Bliley Act," Congress has adopted extensive changes in the laws governing the financial services industry. Among the changes adopted are creation of the financial holding company, a new type of bank holding company with powers that greatly exceed those of standard holding companies, and creation of the financial subsidiary, a
subsidiary that can be used by national banks to engage in many, though not all, of the same activities in which a financial holding company may engage. Although the Company elected to become a financial holding company as of June 23, 2000, neither the Company nor the Banks has yet made a decision as to how to adapt the new legislation to their use. Accordingly, the following discussion relates to the supervisory and regulatory provisions that apply to the Company and the Banks as they currently operate.
The Company also is subject to limited regulation by the South Carolina State Board of Financial Institutions (the "State Board"). Consequently, the Company must give notice to, or receive the approval of, the State Board pursuant to applicable law and regulations prior to engaging in the acquisition of South Carolina banking institutions or holding companies. The Company also may be required to file with the State Board periodic reports with respect to its financial condition and operation, management and inter-company relations between the Company and its subsidiaries.
Obligations of the Company to its Subsidiary Banks
A number of obligations and restrictions are imposed on bank holding companies and their depository institution subsidiaries by Federal law and regulatory policy that are designed to reduce potential loss exposure to the depositors of such depository institutions and to the FDIC insurance funds in the event the depository institution is in danger of becoming insolvent or is insolvent. For example, under the policy of the Federal Reserve, a bank holding company is required to serve as a source of financial strength to its subsidiary depository institutions and to commit resources to support such institutions in circumstances where it might not do so absent such policy. In addition, the "cross-guarantee" provisions of the Federal Deposit Insurance Act, as amended ("FDIA"), require insured depository institutions under common control to reimburse the FDIC for any loss suffered or reasonably anticipated by either the Savings Association Insurance Fund ("SAIF") or the Bank Insurance Fund ("BIF") of the FDIC as a result of the default of a commonly controlled insured depository institution or for any assistance provided by the FDIC to a commonly controlled insured depository institution in danger of default. The FDIC may decline to enforce the cross-guarantee provisions if it determines that a waiver is in the best interest of the SAIF or the BIF or both. The FDIC's claim for damages is superior to claims of shareholders of the insured depository institution or its holding company but is subordinate to claims of depositors, secured creditors and holders of subordinated debt (other than affiliates) of the commonly controlled insured depository institutions.
The FDIA also provides that amounts received from the liquidation or other resolution of any insured depository institution by any receiver must be distributed (after payment of secured claims) to pay the deposit liabilities of the institution prior to payment of any other general or unsecured senior liability, subordinated liability, general creditor or shareholder. This provision gives depositors a preference over general and subordinated creditors and shareholders in the event a receiver is appointed to distribute the assets of any of the Banks.
Any capital loans by a bank holding company to any of its subsidiary banks are subordinate in right of payment to deposits and to certain other indebtedness of such subsidiary bank. In the event of a bank holding company's bankruptcy, any commitment by the bank holding company to a federal bank regulatory agency to maintain the capital of a subsidiary bank will be assumed by the bankruptcy trustee and entitled to a priority of payment.
Certain Transactions by the Company with its Affiliates
Federal law regulates transactions among the Company and its affiliates, including the amount of the Banks' loans to or investments in nonbank affiliates and the amount of advances to third parties collateralized by securities of an affiliate. Further, a bank holding company and its affiliates are prohibited from engaging in certain tie-in arrangements in connection with any extension of credit, lease or sale of property or furnishing of services.
Capital Adequacy Guidelines for Bank Holding Companies and National Banks
Both the Company and the Banks are subject to regulatory capital requirements imposed by the Federal Reserve Board and the Comptroller (see "CAPITAL ADEQUACY AND RESOURCES"). Failure to meet capital guidelines could subject the Banks to a variety of enforcement remedies, including the termination of deposit insurance by the FDIC and placing the Banks in receivership.
A joint rule promulgated by the Federal Reserve Board, the FDIC and the Comptroller provides that the banking agencies must include in their evaluations of a bank's capital adequacy an assessment of the exposure to declines in the economic value of the bank's capital due to changes in interest rates. The agencies have issued statements that describe the process the banking agencies will use to measure and assess the exposure of a bank's net economic value to changes in interest rates. Another joint rule promulgated by the financial institution regulators further provides that the risk-based capital guidelines must take account of concentration of credit risk and the risk of non-traditional activities. The rule explicitly identifies concentration of credit risk and the risk arising from other sources, as well as an institution's overall capital adequacy.
Bank regulators continue to indicate their desire to raise capital requirements applicable to banking organizations beyond their current levels. However, management of the Company is unable to predict whether and when higher capital requirements would be imposed and, if so, at what levels and on what schedule.
The Company and each of the Banks exceeded all applicable capital requirements at December 31, 2003.
Payment of Dividends
The Company is a legal entity separate and distinct from the Banks. Most of the revenues of the Company are expected to continue to result from dividends paid to the Company by the Banks. There are statutory and regulatory requirements applicable to the payment of dividends by subsidiary banks as well as by the Company to its shareholders. See "PAYMENT OF DIVIDENDS."
Regulation of the Banks
As national banks, the Banks are subject to supervision by the Comptroller and, to a limited extent, the FDIC and the Federal Reserve Board. With respect to expansion, the Banks may establish branch offices anywhere within the State of South Carolina. In addition, the Banks are subject to various other state and federal laws and regulations, including state usury laws, laws relating to fiduciaries, consumer credit and laws relating to branch banking. The Banks' loan operations are subject to certain federal consumer credit laws and regulations promulgated thereunder, including, but not limited to; the federal Truth-In-Lending Act, governing disclosures of credit terms to consumer borrowers; the Home Mortgage Disclosure Act, requiring financial institutions to provide certain information concerning their mortgage lending; the Equal Credit Opportunity Act and the Fair Housing Act, prohibiting discrimination on the basis of certain prohibited factors in extending credit; the Fair Credit Reporting Act, governing the use and provision of information to credit reporting agencies; the Bank Secrecy Act, dealing with, among other things, the reporting of certain currency transactions; and the Fair Debt Collection Act, governing the manner in which consumer debts may be collected by collection agencies. The deposit operations of the Banks are subject to the Truth in Savings Act, requiring certain disclosures about rates paid on savings accounts; the Expedited Funds Availability Act, which deals with disclosure of the availability of funds deposited in accounts and the collection and return of checks by banks; the Right to Financial Privacy Act, which imposes a duty to maintain certain confidentiality of consumer financial records and the Electronic Funds Transfer Act and regulations promulgated thereunder, which govern automatic deposits to and withdrawals from deposit accounts and customers' rights and liabilities arising from the use of automated teller machines and other electronic banking services.
The Banks are also subject to the requirements of the Community Reinvestment Act (the "CRA"). The CRA imposes on financial institutions an affirmative and ongoing obligation to meet the credit needs of their local communities, including low- and moderate-income neighborhoods, consistent with the safe and sound operation of those institutions. Each financial institution's actual performance in meeting community credit needs is evaluated as part of the examination process, and also is considered in evaluating mergers, acquisitions and applications to open a branch or facility.
Loans and extensions of credit by national banks are subject to legal lending limitations. Under federal law, a national bank may grant unsecured loans and extensions of credit in an amount up to 15% of its unimpaired capital,
surplus and allowance for loan losses to any person or entity. In addition, a national bank may grant loans and extensions of credit to a single person up to 10% of its unimpaired capital, surplus and allowance for loan losses, provided that the transactions are fully secured by readily marketable collateral having a market value determined by reliable and continuously available price quotations. This 10% limitation is separate from, and in addition to, the 15% limitation for unsecured loans. Loans and extensions of credit may exceed the general lending limits if they qualify under one of several exceptions. Such exceptions include, among others, certain loans or extensions of credit arising from the discount of commercial or business paper, the purchase of banker's acceptances, loans secured by documents of title, loans secured by U. S. obligations and loans to or guaranteed by the federal government.
As national banks, the Banks are subject to examinations and reviews by the Comptroller. The examinations are typically completed on-site and are subject to off-site review as well. The Banks also submit to the FDIC quarterly reports of condition, as well as such additional reports as may be required by the national banking laws.
FDIC Insurance Assessments
The Banks are required to pay semiannual assessments to the FDIC. Since January 1997, the assessments imposed on all FDIC deposits for deposit insurance has an effective rate ranging from 0 to 27 basis points per $100 of insured deposits, depending on the institution's capital position and other supervisory factors. Legislation enacted in 1996 also requires that both SAIF-insured and BIF-insured deposits pay a pro rata portion of the interest due on the obligations issued by the Financing Corporation ("FICO"). The FICO assessment is adjusted quarterly to reflect changes in the assessment bases of the respective funds based on quarterly Call Report and Thrift Financial Report submissions.
Other Safety and Soundness Regulations
Prompt Corrective Action. The federal banking agencies have broad powers under current federal law to take prompt corrective action to resolve problems of insured depository institutions. The extent of these powers depends upon whether the institutions in question are "well capitalized," "adequately capitalized," "undercapitalized," "significantly undercapitalized" or "critically undercapitalized."
A bank that is "undercapitalized" becomes subject to provisions of the FDIA: restricting payment of capital distributions and management fees; requiring the FDIC to monitor the condition of the bank; requiring submission by the bank of a capital restoration plan; restricting the growth of the bank's assets and requiring prior approval of certain expansion proposals. A bank that is "significantly undercapitalized" is also subject to restrictions on compensation paid to senior management of the bank, and a bank that is "critically undercapitalized" is further subject to restrictions on the activities of the bank and restrictions on payments of subordinated debt of the
bank. The purpose of these provisions is to require banks with less than adequate capital to act quickly to restore their capital and to have the FDIC move promptly to take over banks that are unwilling or unable to take such steps.
Brokered Deposits. Under current FDIC regulations, "well capitalized" banks may accept brokered deposits without restriction, "adequately capitalized" banks may accept brokered deposits with a waiver from the FDIC (subject to certain restrictions on payment of rates), while "undercapitalized" banks may not accept brokered deposits. The regulations provide that the definitions of "well capitalized", "adequately capitalized" and "undercapitalized" are the same as the definitions adopted by the agencies to implement the prompt corrective action provisions described in the previous paragraph.
Interstate Banking
Under the Riegel-Neal Interstate Banking and Branching Efficiency Act of 1994, the Company, and any other adequately capitalized bank holding company located in South Carolina can acquire a bank located in any other state, and a bank holding company located outside South Carolina can acquire any South Carolina-based bank, in either case subject to certain deposit percentages and other restrictions. The legislation also provides that in any state that has not previously elected to prohibit out-of-state banks from operating interstate branches within its territory, adequately capitalized and managed bank holding companies can consolidate their multi-state bank operations into a single bank subsidiary and branch interstate through acquisitions. De novo branching by an out-of-state bank is permitted only if the laws of the host state expressly permit it. The authority of a bank to establish, and operate branches within a state continue to be subject to applicable state branching laws. South Carolina law was amended effective July 1, 1996, to permit such interstate branching, but not de novo branching by an out-of-state bank.
The Riegel-Neal Act, together with legislation adopted in South Carolina, resulted in a number of South Carolina banks being acquired by large out-of-state bank holding companies. Size gives the larger banks certain advantages in competing for business from larger customers. These advantages include higher lending limits and the ability to offer services in other areas of South Carolina and the region. As a result, the Company does not generally attempt to compete for the banking relationships of large corporations and businesses, but concentrates its efforts on small to medium-sized businesses and on individuals. The Company believes it has competed effectively in this market segment by offering quality, personal service.
Gramm-Leach-Bliley Act
The Gramm-Leach-Bliley Act (the "Act"), which makes it easier for affiliations between banks, securities firms and insurance companies to take place, became effective in March 2000. The Act removes Depression-era barriers that had separated banks and securities firms, and seeks to protect the privacy of consumers' financial information.
Under provisions of the legislation and regulations adopted by the appropriate regulators, banks, securities firms and insurance companies are able to structure new affiliations through a holding company structure or through a financial subsidiary. The legislation created a new type of bank holding company called a "financial holding company" which has powers much more extensive than those of standard holding companies. These expanded powers include authority to engage in "financial activities," which are activities that are (1) financial in nature; (2) incidental to activities that are financial in nature; or (3) complementary to a financial activity and that do not impose a safety and soundness risk. Significantly, the permitted financial activities for financial holding companies include authority to engage in merchant banking and insurance activities, including insurance portfolio investing. A bank holding company can qualify as a financial holding company and expand the services it offers only if all of its subsidiary depository institutions are well-managed, well-capitalized and have received a rating of "satisfactory" on their last Community Reinvestment Act examination.
The legislation also created another new type of entity called a "financial subsidiary." A financial subsidiary may be used by a national bank or a group of national banks to engage in many of the same activities permitted for a financial holding company, though several of these activities, including real estate development or investment, insurance or annuity underwriting, insurance portfolio investing and merchant banking, are reserved for financial holding companies. A bank's investment in a financial subsidiary affects the way in which the bank calculates its regulatory capital, and the assets and liabilities of financial subsidiaries may not be consolidated with those of the bank. The bank must also be certain that its risk management procedures are adequate to protect it from financial and operational risks created both by itself and by any financial subsidiary. Further, the bank must establish policies to maintain the separate corporate identities of the bank and its financial subsidiary and to prevent each from becoming liable for the obligations of the other.
The Act also established the concept of "functional supervision," meaning that similar activities should be regulated by the same regulator. Accordingly, the Act spells out the regulatory authority of the bank regulatory agencies, the Securities and Exchange Commission and state insurance regulators so that each type of activity is supervised by a regulator with corresponding expertise. The Federal Reserve Board is intended to be an umbrella supervisor with the authority to require a bank holding company or financial holding company or any subsidiary of either to file reports as to its financial condition, risk management systems, transactions with depository institution subsidiaries and affiliates, and compliance with any federal law that it has authority to enforce.
Although the Act reaffirmed that states are the regulators for insurance activities of all persons, including federally chartered banks, the Act prohibits states from preventing depository institutions and their affiliates from conducting insurance activities.
The Act also established a minimum federal standard of privacy to protect the confidentiality of a consumer's personal financial information and gives the consumer the power to choose how financial institutions may use
personal financial information. The privacy provisions of the Act have been implemented by regulations of various federal agencies.
The Act and the regulations adopted pursuant to the Act create new opportunities for the Company to offer expanded services to customers in the future. The Company elected to become a financial holding company effective June 23, 2000, but it has not yet used that status to engage in any activities that are not also permissible for bank holding companies. Furthermore, the Company has not yet determined what the nature of the expanded services it could offer might be or when the Company might find it feasible to offer them. The Act has increased competition from larger financial institutions that are currently more capable than the Company of taking advantage of the opportunity to provide a broader range of services. However, the Company continues to believe that its commitment to providing high quality, personalized service to customers will permit it to remain competitive in its market area.
Sarbanes-Oxley Act of 2002
The Sarbanes-Oxley Act was signed into law on July 30, 2002, and mandated extensive reforms and requirements for public companies. The SEC has adopted extensive new regulations pursuant to the requirements of the Sarbanes-Oxley Act. The Sarbanes-Oxley Act and the SEC's new regulations have increased the Company's cost of doing business, particularly its fees for internal and external audit services and legal services, and the law and regulations are expected to continue to do so. However, the Company does not believe that it will be affected by Sarbanes-Oxley and the new SEC regulations in ways that are materially different or more onerous than those of other public companies of similar size and in similar businesses.
Legislative Proposals
Proposed legislation which could significantly affect the business of banking is introduced in Congress and the General Assembly of South Carolina from time to time. Management of the Company cannot predict the future course of such legislative proposals or their impact on the Company and the Banks should they be adopted.
EMPLOYEES
The Company and the Banks presently employ one hundred forty-eight (148) full-time and twenty-seven (27) part-time persons. Management believes that its employee relations are good.
EXECUTIVE OFFICERS
The executive officers of the Company are Robert E. Dye, Sr., Chairman, President and Chief Executive Officer; R. Riggie Ridgeway, Executive Vice President, Secretary and Treasurer; William B. West, Senior Vice President and Chief Financial Officer; and Patricia A. Jensen, Senior Vice President. Information about all of the executive officers except Patricia A. Jensen is set forth in Item 10, part III of this report on Form 10-K.
Patricia A. Jensen, age 50, was promoted to Senior Vice President during 2004. Prior to that time, she served as Vice President of the Company since its formation in 1992. Mrs. Jensen has served as Vice President and Cashier of The Peoples National Bank since August 1986. Prior to joining The Peoples National Bank, Mrs. Jensen served as Vice President of First Union National Bank.
ITEM 2.
ITEM 2. PROPERTIES
The Company's corporate office is located at 1818 East Main Street in Easley, South Carolina. The property consists of a three-story brick building containing approximately 10,670 square feet on 0.665 acres of land owned by The Peoples National Bank. This building houses some of the Company's support functions, including administration, accounting, financial reporting, human resources, training, marketing, internal audit, compliance, and purchasing. It also houses the residential mortgage department of The Peoples National Bank. The Company also utilizes an adjacent office building located at 1814 East Main Street in Easley, South Carolina. The property consists of a two-story brick building containing approximately 6,624 square feet on 0.566 acres of land owned by The Peoples National Bank. This building houses some of the Company's support functions including operations, data processing, and information technology. The Peoples National Bank also owns several portions of an adjacent office building located at 1824 East Main Street in Easley, South Carolina. The property consists of approximately 6,600 square feet of office space located in a one-story brick building containing approximately 9,000 square feet on 0.704 acres of land. This facility is used by the residential mortgage department of Peoples National Bank.
The main office of The Peoples National Bank is located at 1800 East Main Street in Easley, South Carolina. The property consists of a two-story brick building of approximately 10,412 square feet, which is constructed on 1.75 acres of land owned by The Peoples National Bank. Improvements include a three-lane drive-through teller installation, vault, night depository, safe-deposit facilities, and a drive-through automated teller machine.
The Peoples National Bank owns and operates three branch facilities: one in Powdersville, South Carolina located approximately seven miles east of the Bank's main office containing approximately 3,158 square feet in a one-story brick building situated on 0.812 acres of land; a second branch office in Pickens, South Carolina located approximately ten miles west of the Bank's main office containing approximately 6,688 square feet in a two-story building on 0.925 acres of land; and a third branch office in Easley located approximately 2 miles west of the Bank's main office containing approximately 3,523 square feet in a one and one-half story building situated on l.077 acres of land. All branch facilities have improvements including drive-through teller installations, drive-through automated teller machines, vault, night depository, and safe deposit facilities.
The main office of Bank of Anderson, National Association is located at 201 East Greenville Street in Anderson, South Carolina. The property consists of a two-story brick building with approximately 11,696 square feet, which is constructed on 1.935 acres of land owned by Bank of Anderson. Improvements include a three-lane drive-through teller installation, vault, night depository, safe-deposit facilities, and a drive-through automated teller machine. Approximately 4,704 square feet off the office space located in this building is currently still under construction.
Bank of Anderson owns and operates one branch facility in Anderson County, South Carolina located approximately five miles northwest of the Bank's main office containing approximately 3,036 square feet in a one-story brick building situated on 0.86 acres of land. The branch facility has improvements including a drive-through teller installation, drive-through automated teller machine, vault, night depository, and safe deposit box facilities.
Seneca National Bank, located at 201 By-Pass 123, Seneca, South Carolina, operates out of a two-story brick building containing approximately 6,688 square feet situated on 1.097 acres of land in Seneca, South Carolina, which is owned by Seneca National Bank.
All locations of the Company and the Banks are considered suitable and adequate for their intended purposes. Management believes that insurance coverage on the foregoing properties is adequate.
ITEM 3.
ITEM 3. LEGAL PROCEEDINGS
The Company is subject to various legal proceedings and claims that arise in the ordinary course of its business. In the opinion of management based on consultation with external legal counsel, the outcome of any currently pending litigation is not expected to materially affect the Company's consolidated financial position or results of operations.
ITEM 4.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
No matter was submitted during the fourth quarter of 2003 to a vote of security holders of the Company.
PART II
ITEM 5.
ITEM 5. MARKET FOR COMMON EQUITY, RELATED STOCKHOLDER MATTERS AND ISSUER PURCHASES OF EQUITY SECURITIES
The common stock of the Company is traded over-the-counter. Quotations of bid and ask information are provided electronically by the National Association of Securities Dealers, Inc.'s Over The Counter Bulletin Board under the symbol PBCE.OB. The reported high and low bid prices for each quarter of 2003 and 2002 are shown in the following table. The quotations reflect inter-dealer prices, without retail mark-up, mark-down or commission and may not necessarily represent actual transactions.
Sales Price of the Company's Common Stock Quarter Ended Low High ------------- --- ---- March 31, 2002 $ 14.23 $ 17.50 June 30, 2002 $ 14.50 $ 18.75 September 30, 2002 $ 14.75 $ 19.25 December 31, 2002 $ 17.25 $ 19.50 March 31, 2003 $ 19.20 $ 20.00 June 30, 2003 $ 19.75 $ 20.40 September 30, 2003 $ 20.10 $ 22.25 December 31, 2003 $ 21.50 $ 28.00
As of March 1, 2004, the number of holders of record of the Company's common stock was 1,094 and the number of issued and outstanding shares was 3,682,754.
During 2003 the Company paid four quarterly cash dividends. A cash dividend of $0.07 per common share was declared by the Company's Board of Directors to shareholders of record on each of March 21st, June 20th, September 19th and December 12th. In addition, on each of July 13, 1992, July 12, 1993, December 12, 1994, November 30, 1995, November 8, 1996, October 31, 1997, December 7, 1998, January 14, 2000, January 5, 2001, January 4, 2002, November 18, 2002 and November 17, 2003 the Company paid 5% stock dividends to
shareholders (historical prices have not been adjusted for stock dividends). It is the policy of the Board of Directors of the Company to reinvest earnings for such periods of time as is necessary to the successful operations of the Company and of the Banks. Future dividends will depend on the Company's earnings, capital requirements, financial condition and other factors considered relevant by the Board of Directors of the Company. Payment of dividends is also subject to regulatory restrictions (see Item 1, "PAYMENT OF DIVIDENDS").
The information required by Item 201(d) of Regulation S-K is set forth under Item 12 of this Form 10-K.
Purchases of Equity Securities by the Company and Affiliated Purchasers
Neither the Company nor any "affiliated purchaser" as defined in 17 C.F.R. 240.10b-18(a)(3) purchased any shares or units of any class of the Company's equity securities that is registered pursuant to Section 12 of the Exchange Act during the fourth quarter of 2003. Accordingly, no disclosure is required pursuant to 17 C.F.R. ss.229.703.
ITEM 6.
ITEM 6. SELECTED FINANCIAL DATA
(1) Seneca National Bank opened for business in February 1999. (2) Per share data has been restated to reflect 5% stock dividends in 1999, 2000, 2001, 2002 and 2003.
ITEM 7.
ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATION
The following discussion is intended to assist in understanding the financial condition and results of operations of the Company and should be read in conjunction with the consolidated financial statements of the Company included herein.
CRITICAL ACCOUNTING POLICIES
The Company has adopted various accounting policies, which govern the application of accounting principles generally accepted in the United States in the preparation of the Company's financial statements. The significant accounting policies of the Company are described in Item 8, Note 1 to the consolidated financial statements.
Certain accounting policies involve significant judgments and assumptions by management, which have a material impact on the carrying value of certain assets and liabilities; management considers such accounting policies to be critical accounting policies. The judgments and assumptions used by management are based on historical experience and other factors, which are believed to be reasonable under the circumstances. Because of the nature of the judgments and assumptions made by management, actual results could differ from these judgments and estimates that could have a material impact on the carrying values of assets and liabilities and the results of operations of the Company.
Of these significant accounting policies, the Company considers its policies regarding the allowance for loan losses (the "Allowance") to be its most critical accounting policy due to the significant degree of management judgment involved in determining the amount of Allowance. The Company has developed policies and procedures for assessing the adequacy of the Allowance, recognizing that this process requires a number of assumptions and estimates with respect to its loan portfolio. The Company's assessments may be impacted in future periods by changes in economic conditions, the impact of regulatory examinations, and the discovery of information with respect to borrowers, which is not known to management at the time of the issuance of the consolidated financial statements. Refer to the discussion under "Provision and Allowance for Loan Losses, Loan Loss Experience" in Part I, Item 1 for a detailed description of the Company's estimation process and methodology related to the allowance for loan losses.
DISCUSSION OF CHANGES IN FINANCIAL CONDITION
Total assets increased $5,634,000 or 1.4% from $416,122,000 at December 31, 2002 to $421,756,000 at December 31, 2003.
The Company experienced significant loan growth during 2003 as the total outstanding loans (excluding mortgage loans held for sale), the largest single category of assets, increased $45,765,000 or 18.3% from $250,487,000 at
December 31, 2002 to $296,252,000 at December 31, 2003, as a result of an increase in the amount of outstanding loans at the Company's three bank subsidiaries. Total loans outstanding at December 31, 2003 for The Peoples National Bank amounted to $171,526,000, a $21,148,000 or 14.1% increase over the $150,378,000 held at December 31, 2002. Total loans outstanding at December 31, 2003 for Bank of Anderson amounted to $90,295,000, a $21,997,000 or 32.2% increase over the $68,298,000 reported at December 31, 2002. Total loans outstanding at December 31, 2003 for Seneca National Bank amounted to $34,431,000; a $2,620,000 or 8.2% increase over the $31,811,000 reported at December 31, 2002. A significant portion of the loan growth at Bank of Anderson and Seneca National Bank is attributable to the fact that each commenced business relatively recently (September 1998 and February 1999, respectively).
The Company experienced a significant decline in the pool of mortgage loans held for sale. Mortgage loans held for sale decreased $49,925,000 or 90.7% from $55,026,000 at December 31, 2002 to $5,101,000 at December 31, 2003, primarily as the result of the decrease in volume in the residential mortgage department. During the first part of 2003, the recovery in the U. S. economy pressured home loan mortgage lending rates to historical lows. This, in turn, fueled an industry-wide mortgage refinance boom, and led to extremely high loan volume. Refinancing activity decreased in the third quarter of 2003 as interest rates increased. Refinancing activities diminished further in the in the fourth quarter of 2003 as mortgage rates remained above their historical lows. All of the Company's mortgage loans held for sale are at The Peoples National Bank.
The Company's securities portfolio collectively, at amortized cost, increased $1,267,000 or 1.5% from $85,132,000 at December 31, 2002 to $86,399,000 at December 31, 2003. The majority of this increase was attributable to the purchase of U.S. Government agencies and mortgage-backed securities in the available-for-sale portfolio amounting to approximately $83,094,000. Maturities, calls and principal pay-downs amounted to $76,044,000. Sales of $6,999,000 in available-for-sale securities resulted in a realized gain of $13,000. The Company does not engage in, and does not expect to engage in, hedging activities.
Cash and due from banks balances decreased $310,000 or 3.3% from $9,474,000 at December 31, 2002 to $9,164,000 at December 31, 2003. The amount of federal funds sold as of December 31, 2003 was $11,865,000, an increase of $9,230,000 or 350.3% from the $2,635,000 of federal funds sold as of December 31, 2002. This increase in federal funds sold is largely due to a marked increase in a surplus of funds from deposits and excess liquidity.
Other assets, comprised largely of cash surrender value on life insurance policies on key executives, prepaid expenses, other real estate owned, and deferred income taxes, increased $421,000 or 11.6% to $4,053,000 at December 31, 2003 from $3,632,000 at December 31, 2002. This increase is largely attributable to an increase of $324,000 or 167.9% in other real estate owned to $517,000 at December 31, 2003 from $193,000 at December 31, 2002, and an increase in prepaid expenses of $92,000 or 58.6% to $249,000 at December 31, 2003 from $157,000 at December 31, 2002.
Total liabilities increased $2,220,000 or 0.6% from $383,375,000 at December 31, 2002 to $385,595,000 at December 31, 2003. Total deposits increased $25,155,000 or 7.7% to $353,329,000 at December 31, 2003 from $328,174,000 at December 31, 2002. Of the $25,155,000 increase in total deposits, $23,480,000 or 93.3% is attributable to growth in interest-bearing deposits, largely certificates of deposit and interest-bearing transaction accounts, while the remaining $1,675,000 or 6.7% is due to growth in noninterest-bearing deposits. Securities sold under repurchase agreements decreased $10,941,000 or 31.0% from $35,331,000 at December 31, 2002 to $24,390,000 at December 31, 2003. Federal Home Loan Bank advances also decreased $12,000,000 or 70.6% from $17,000,000 at December 31, 2002 to $5,000,000 at December 31, 2003. At both December 31, 2003 and December 31, 2002, $5,000,000 represents a long-term advance purchased in August 1999, which will mature in August 2009. The overall decrease in these other interest-bearing liabilities is largely attributable to the $49,925,000 decrease in mortgage loans held for sale at Peoples National Bank.
Shareholders' equity increased $3,414,000 or 10.4% from $32,747,000 at December 31, 2002 to $36,161,000 at December 31, 2003. This increase comes primarily as a result of net earnings for the period of $5,044,000, which was partially offset by the declaration and payment of $994,000 in cash dividends and the payment of $13,000 of cash in lieu of fractional shares for a stock dividend during 2003.
EARNINGS PERFORMANCE
2003 Compared to 2002
Overview
The consolidated Company's operations for the twelve months ended December 31, 2003 resulted in net income of $5,044,000 or $1.37 per basic share ($1.32 per diluted share), compared to $4,383,000 or $1.19 per basic share ($1.15 per diluted share) for the twelve months ended December 31, 2002. The increase in the Company's net income of $661,000 or 15.1% for 2003 resulted largely from a significant increase in non-interest income during 2003, primarily from the Company's mortgage lending activities. Both Bank of Anderson and Seneca National Bank experienced significant increases in net income as both of these relatively new banks continued to develop their businesses. For the twelve months ended December 31, 2003, Peoples National Bank recorded net income of $3,688,000, an increase of $270,000 or 7.9% over net income of $3,418,000 in 2002. For the twelve months ended December 31, 2003, Bank of Anderson recorded net income of $1,030,000, an increase of $221,000 or 27.3% over the $809,000 recorded in 2002. For the twelve months ended December 31, 2003, Seneca National Bank recorded net income of $368,000, an increase of $134,000 or 57.3% over the $234,000 recorded in 2002.
Interest Income, Interest Expense and Net Interest Income
The Company's net interest income increased $772,000 or 6.1% to $13,381,000 for the year ended December 31, 2003 compared to $12,609,000 for the year ended December 31, 2002.
The Company's total interest income increased $301,000 or 1.5% to $20,907,000 in 2003 compared to $20,606,000 for 2002. This increase is largely attributable to an increase in interest income on loans of $722,000 resulting from an increase in outstanding loans at the Company's three bank subsidiaries. This increase is partially offset by a decrease in interest income on taxable investments of $251,000 or 9.5% resulting from lower market rates experienced at the Company's three bank subsidiaries during 2003 when compared to 2002. The increase is also partially offset by a decrease in interest income on federal funds sold of $199,000 or 53.1% resulting from lower average balances of this account.
Total interest expense decreased $471,000 or 5.9% to $7,526,000 in 2003 compared to $7,997,000 for 2002. The decreases in the amount of interest paid on the various categories of interest-bearing liability accounts in 2003 are largely attributable to lower market interest rates experienced at the Company's three bank subsidiaries during 2003 when compared to 2002, and were partially offset by higher average balances in those types of accounts.
Provision and Allowance for Loan Losses
The Company's provision for loan losses was $1,106,000 in 2003 compared to $944,000 for 2002, a $162,000 or 17.2% increase. This increase is largely attributable to the increase in the amount of loan growth during 2003 when compared to 2002, coupled with a $136,000 increase in net charged-off loans. The Peoples National Bank made provisions for loan losses of $775,000 in 2003 compared to $550,000 in 2002. Bank of Anderson made provisions for loan losses of $200,000 in 2003 compared to $130,000 in 2002. Seneca National Bank made provisions for loan losses of $131,000 in 2003 compared to $264,000 in 2002. During fiscal year 2003 the Company experienced net charge-offs of $518,000, or 0.19% of average outstanding loans (excluding loans held for sale), compared to net charge-offs of $382,000, or 0.17% of average outstanding loans in fiscal year 2002. The net charge-offs are attributable to as $469,000 in net charge-offs at The Peoples National Bank, $18,000 in net charge-offs at Bank of Anderson, N.A., and $31,000 in net charge-offs at Seneca National Bank. At December 31, 2003 the allowance for loan losses was 1.16% as a percentage of outstanding loans (excluding loans held for sale) compared to 1.14% at December 31, 2002.
At December 31, 2003 the Company had $829,000 in non-accrual loans, no restructured loans, $122,000 in loans past due 90 days or more but still accruing interest, and $517,000 in real estate acquired in settlement of loans, compared to $926,000, $0, $5,000, and $193,000 respectively at December 31, 2002. Non-performing assets as a percentage of all loans and other real estate owned were 0.49% and 0.37% at December 31, 2003 and 2002, respectively.
In the cases of non-performing loans, management of the Company has reviewed the carrying value of any underlying collateral. In those cases where the collateral value may be less than the carrying value of the loan the Company has taken specific write-downs to the loan, even though such loan may still be performing. Management of the Company does not believe it has any non-accrual loan that individually could materially impact the allowance for loan losses or long-term future operating results of the Company.
The Company records real estate acquired through foreclosure at the lower of cost or estimated market value less estimated selling costs. Estimated market value is based upon the assumption of a sale in the normal course of business and not on a quick liquidation or distressed basis. Estimated market value is established by independent appraisal at the time of foreclosure. Management believes that other real estate owned at December 31, 2003 will not require significant write-downs in future accounting periods, and therefore will not have a significant effect on the Company's future operations.
Other Income
Total consolidated other income, including securities transactions, increased $3,738,000, or 56.9% from $6,564,000 in 2002 to $10,302,000 in 2003. This increase is largely attributable to an increase of $3,422,000, or 81.1%, from the gain on sale of residential mortgage loans from $4,221,000 in 2002 to
$7,643,000 in 2003; an increase of $221,000, or 12.9%, in services charges on deposit accounts from $1,702,000 in 2002 to 1,923,000 in 2003; and an increase of $123,000, or 20.5%, in other miscellaneous income from $600,000 in 2002 to $723,000 in 2003. The Company recorded a $13,000 gain on the sale of securities in 2003, a decrease of $28,000 or 68.3% from the gain of $41,000 recorded in 2002.
Other Expenses
Total consolidated other expenses increased $3,285,000 or 28.9% to $14,665,000 in 2003 compared to $11,380,000 in 2002. The increase in overall non-interest expense is indicative of the Company's continued growth and normal expense increases throughout the Company. Salaries and benefits, the largest component of non-interest expense, increased $2,176,000 or 32.1% to $8,944,000 in 2003 compared to $6,768,000 in 2002. The increase in salaries and benefits for the comparative periods is primarily attributable to the additional staffing associated with the Company and its subsidiary banks, higher levels of incentive pay for residential mortgage lending personnel, and normal salary increases throughout the Company during 2003.
Occupancy expense increased $61,000 or 11.1% to $609,000 in 2003 compared to $548,000 in 2002. The increase in occupancy expense for the two comparative periods is attributable to the addition of a leased office in September 2002 that was used for the origination of residential mortgages and the opening of a new branch office of Bank of Anderson, N.A. in August 2003. Equipment expense increased $331,000 or 40.4% to $1,151,000 in 2003 compared to $820,000 in 2002. The increase for the comparative periods is partially attributable to the new branch office of Bank of Anderson, N.A. and a full year of depreciation and other expenses associated with the conversion to a new data processing system during the third quarter of 2002.
Miscellaneous other operating expenses increased $717,000 or 22.1% to $3,961,000 in 2003 compared to $3,244,000 in 2002. Marketing and advertising expense increased $59,000 or 17.8% to $392,000 in 2003 compared to $333,000 in 2002. This increase is largely attributable to advertising associated with the Company's mortgage lending activities as well as the promotion of some new bank products. Communications expenses increased $37,000 or 15.7% to $272,000 in 2003 compared to $235,000 in 2002. This increase is largely attributable to telecommunication improvements and costs associated with the operations of additional facilities in 2003. Bank paid loan costs decreased $163,000 or 26.3% to $457,000 in 2003 compared to $620,000 in 2002. This decrease is largely the result of the Company's underwriting its mortgage loans in-house versus outsourcing this service as in prior years.
Other operating expenses increased $784,000 or 44.0% to $2,565,000 in 2003, compared to $1,781,000 in 2002. This increase is attributable to increases in legal and professional fees; bank-owned life insurance expense; Internet expense; ATM and debit card expense; director fees and other sundry expenses. Legal and professional fees increased $112,000 or 115.5% to $209,000 in 2003
compared to $97,000 in 2002 largely due to increased oversight and consultation over the residential mortgage area. Bank-owned life insurance expense increased $119,000 or 216.4% to $174,000 in 2003 compared to $55,000 in 2002 primarily due to the additional purchase of life insurance on key executives in December 2002. Internet expense increased $78,000 or 156.0% to $128,000 in 2003 from $50,000 in 2002 in part due to the timing of actual payments to the Internet banking vendor. ATM and debit card expense increased $76,000 or 56.7% to $210,000 in 2003 compared to $134,000 in 2002. This increase is largely attributable to growth in the number of transactions and vendor fee increases that occurred late in 2002. Director's fees increased $62,000 or 28.7% to $278,000 in 2003 compared to $216,000 in 2002 as the result of increased fees paid to the directors of the Company's bank subsidiaries and the addition of fees paid for attendance at committee meetings to outside directors only. Expenses of $255,000 associated with residential mortgage lending activity were incurred in 2003 due to management's assessment of the collectibility of certain items and additional potential miscellaneous charges associated with the residential mortgage lending function.
2002 Compared to 2001
Overview
The consolidated Company's operations for the twelve months ended December 31, 2002 resulted in net income of $4,383,000 or $1.19 per basic share ($1.15 per diluted share), compared to $3,069,000 or $0.84 per basic share ($0.82 per diluted share) for the twelve months ended December 31, 2001. The increase in the Company's net income of $1,314,000 or 42.8% for 2002 resulted largely from a significant decrease in total interest expense, largely from deposits, coupled with a significant increase in non-interest income during 2002. This was partially offset by a corresponding decrease in interest income on loans as well as increases in non-interest expense and the provision for loan losses. In particular, both Bank of Anderson and Seneca National Bank experienced significant increases in net income as both of these relatively new banks continued to develop their businesses. For the twelve months ended December 31, 2002, Peoples National Bank recorded net income of $3,418,000, an increase of $772,000 or 29.2% over net income of $2,646,000 in 2001. For the twelve months ended December 31, 2002, Bank of Anderson recorded net income of $809,000, an increase of $425,000 or 110.7% over the $384,000 recorded in 2001. For the twelve months ended December 31, 2002, Seneca National Bank recorded net income of $234,000, an increase of $144,000 or 160.0% over the $90,000 recorded in 2001.
Interest Income, Interest Expense and Net Interest Income
The Company's net interest income increased $2,710,000 or 27.4% to $12,609,000 for the year ended December 31, 2002 compared to $9,899,000 for the year ended December 31, 2001.
The Company's total interest income increased $393,000 or 1.9% to $20,606,000 in 2002 compared to $20,213,000 for 2001. This increase is largely attributable to an increase in interest income on taxable securities of $729,000 resulting from an increase in the average balances of those types of securities, partially offset by a decrease in interest income on loans of $275,000 resulting from lower market interest rates experienced at the Company's three bank subsidiaries during 2002 when compared to 2001.
Total interest expense decreased $2,317,000 or 22.5% to $7,997,000 in 2002 compared to $10,314,000 for 2001. The decreases in the amount of interest paid on the various categories of interest-bearing liability accounts in 2002 are largely attributable to lower market interest rates experienced at the Company's three bank subsidiaries during 2002 when compared to 2001, partially offset by higher average balances in those types of accounts.
Provision and Allowance for Loan Losses
The Company's provision for loan losses was $944,000 in 2002 compared to $892,000 for 2001, a $52,000 or 5.8% increase. This increase is largely attributable to the increase in the volume of outstanding loans during 2002 when compared to 2001, coupled with a $245,000 decrease in net charged-off loans. The
Peoples National Bank made provisions for loan losses of $550,000 in 2002 compared to $621,000 in 2001. Bank of Anderson made provisions for loan losses of $130,000 in 2002 compared to $150,000 in 2001. Seneca National Bank made provisions for loan losses of $264,000 in 2002 compared to $121,000 in 2001. During fiscal year 2002 the Company experienced net charge-offs of $382,000, or 0.17% of average outstanding loans (excluding loans held for sale), compared to net charge-offs of $627,000, or 0.32% of average outstanding loans in fiscal year 2001. The net charge-offs are attributable to $97,000 in net charge-offs at The Peoples National Bank, $12,000 in net charge-offs at Bank of Anderson, N. A., and $273,000 in net charge-offs at Seneca National Bank. At December 31, 2002 the allowance for loan losses was 1.14% as a percentage of outstanding loans compared to 1.08% at December 31, 2001.
At December 31, 2002 the Company had $926,000 in non-accrual loans, no restructured loans, $5,000 in loans past due 90 days or more but still accruing interest, and $193,000 in real estate acquired in settlement of loans, compared to $993,000, $8,000, $0, and $950,000 respectively at December 31, 2001. Non-performing assets as a percentage of all loans and other real estate owned were 0.37% and 0.77% at December 31, 2002 and 2001, respectively.
In the cases of non-performing loans, management of the Company has reviewed the carrying value of any underlying collateral. In those cases where the collateral value may be less than the carrying value of the loan the Company has taken specific write-downs to the loan, even though such loan may still be performing. Management of the Company does not believe it has any non-accrual loan that individually could materially impact the allowance for loan losses or long-term future operating results of the Company.
The Company records real estate acquired through foreclosure at the lower of cost or estimated market value less estimated selling costs. Estimated market value is based upon the assumption of a sale in the normal course of business and not on a quick liquidation or distressed basis. Estimated market value is established by independent appraisal at the time of foreclosure. Management believes that other real estate owned at December 31, 2002 will not require significant write-downs in future accounting periods, and therefore will not have a significant effect on the Company's future operations.
Other Income
Total consolidated other income, including securities transactions, increased $1,297,000, or 24.6% from $5,267,000 in 2001 to $6,564,000 in 2002. This increase is largely attributable to an increase of $926,000, or 28.1%, from the gain on sale of residential mortgage loans from $3,295,000 in 2001 to $4,221,000 in 2002; an increase of $321,000, or 23.2%, in services charges on deposit accounts from $1,381,000 in 2001 to $1,702,000 in 2002; and an increase of $9,000, or 1.5%, in other miscellaneous income from $591,000 in 2001 to $600,000 in 2002. The Company recorded a $41,000 gain on the sale of securities in 2002 and no gain or loss on the sale of securities in 2001.
Other Expenses
Total consolidated other expenses increased $1,813,000 or 19.0% to $11,380,000 in 2002 compared to $9,567,000 in 2001. The increase in overall non-interest expense is indicative of the Company's continued growth and normal expense increases throughout the Company. Salaries and benefits, the largest component of non-interest expense, increased $1,190,000 or 21.3% to $6,768,000 in 2002 compared to $5,578,000 in 2001. The increase in salaries and benefits for the comparative periods is primarily attributable to the additional staffing associated with the Company's subsidiary banks during 2002, and normal additional staffing and salary increases throughout the Company.
Occupancy expense increased $34,000 or 6.61% to $548,000 in 2002 compared to $514,000 in 2001. The increase in occupancy expense for the two comparative periods is partially attributable to the fact that the Company occupied some additional office space that it already owned during 2002. Equipment expense increased $177,000 or 27.5% to $820,000 in 2002 compared to $643,000 in 2001. The increase for the comparative periods is partially attributable to depreciation and other expenses associated with the conversion to a new data processing system during 2002.
Miscellaneous other operating expenses increased $412,000 or 14.5% to $3,244,000 in 2002 compared to $2,832,000 in 2001. The increase in miscellaneous other operating expenses is attributable to the overall continued growth of the Company and its three subsidiary banks.
LIQUIDITY AND CAPITAL RESOURCES
Reference is made to the sections "Liquidity" and "Capital Adequacy and Resources" included in "Business" under Item 1 of this Annual Report on Form 10-K.
OFF-BALANCE SHEET ARRANGEMENTS AND CONTRACTUAL OBLIGATIONS
Reference is made to the section "Off-Balance Sheet Risk and Derivative Financial Instruments" included in "Business" under Item 1 of this Annual Report on Form 10-K.
The following table summarizes the Company's contractual obligations as of December 31, 2003.
The Peoples National Bank has a $5,000,000 advance from the Federal Home Loan Bank of Atlanta at a 4.82 percent interest rate that matures in December 2010.
This obligation was entered into in December 2000 to provide liquidity to meet the needs of its customers.
ITEM 7A
ITEM 7A QUALITATIVE AND QUANTITATIVE DISCLUSURES ABOUT MARKET RISK
Reference is made to the section "Market Risk - Interest Rate Sensitivity" included in "Business" under Item 1 of this Annual Report on Form 10-K.
ITEM 8.
ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA
The following financial statements are filed with this report:
- - Independent Auditor's Report.
- - Consolidated Balance Sheets as of December 31, 2003 and 2002.
- - Consolidated Statements of Income for the years ended December 31, 2003, 2002 and 2001.
- - Consolidated Statements of Shareholders' Equity and Comprehensive Income for the years ended December 31, 2003, 2002 and 2001.
- - Consolidated Statements of Cash Flows for the years ended December 31, 2003, 2002 and 2001.
- - Notes to Consolidated Financial Statements.
PEOPLES BANCORPORATION, INC. AND SUBSIDIARIES
REPORT ON CONSOLIDATED FINANCIAL STATEMENTS
FOR THE YEARS ENDED DECEMBER 31, 2003, 2002 AND 2001
REPORT OF INDEPENDENT CERTIFIED PUBLIC ACCOUNTANTS
To the Shareholders and Board of Directors Peoples Bancorporation, Inc. Easley, South Carolina
We have audited the accompanying consolidated balance sheets of Peoples Bancorporation, Inc. and Subsidiaries as of December 31, 2003 and 2002, and the related consolidated statements of income, shareholders' equity and comprehensive income, and cash flows for each of the years in the three year period ended December 31, 2003. These consolidated financial statements are the responsibility of the Company's management. Our responsibility is to express an opinion on these consolidated financial statements based on our audits.
We conducted our audits in accordance with auditing standards generally accepted in the United States of America. Those standards require that we plan and perform the audits to obtain reasonable assurance about whether the consolidated financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the consolidated financial statements. An audit also includes assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall consolidated financial statement presentation. We believe that our audits provide a reasonable basis for our opinion.
In our opinion, the consolidated financial statements referred to above present fairly, in all material respects, the financial position of Peoples Bancorporation, Inc. and Subsidiaries as of December 31, 2003 and 2002 and the results of their operations and their cash flows for each of the years in the three year period ended December 31, 2003, in conformity with accounting principles generally accepted in the United States of America.
S/Elliott Davis, LLC
Greenville, South Carolina January 29, 2004
PEOPLES BANCORPORATION, INC. AND SUBSIDIARIES CONSOLIDATED BALANCE SHEETS (Dollars in thousands except per share information)
The accompanying notes are an integral part of these consolidated financial statements.
PEOPLES BANCORPORATION, INC. AND SUBSIDIARIES CONSOLIDATED STATEMENTS OF INCOME (Amounts in thousands except per share information)
The accompanying notes are an integral part of these consolidated financial statements.
PEOPLES BANCORPORATION, INC. AND SUBSIDIARIES CONSOLIDATED STATEMENTS OF SHAREHOLDERS' EQUITY AND COMPREHENSIVE INCOME For the years ended December 31, 2003, 2002 and 2001 (Amounts in thousands except share and per share information)
The accompanying notes are an integral part of these consolidated financial statements.
PEOPLES BANCORPORATION, INC. AND SUBSIDIARIES CONSOLIDATED STATEMENTS OF CASH FLOWS (Amounts in thousands)
The accompanying notes are an integral part of these consolidated financial statements.
PEOPLES BANCORPORATION, INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE 1 - SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES AND ACTIVITIES
Principles of consolidation and nature of operations The consolidated financial statements include the accounts of Peoples Bancorporation, Inc. (the "Company") and its wholly-owned subsidiaries, The Peoples National Bank, Bank of Anderson, N.A., and Seneca National Bank (collectively referred to as the "Banks"). Bank of Anderson, N. A. and Seneca National Bank commenced operations in the third quarter of 1998 and the first quarter of 1999, respectively. All significant intercompany balances and transactions have been eliminated. The Banks operate under national bank charters and provide full banking services to customers. The Banks are subject to regulation by the Office of the Comptroller of the Currency. The Company is subject to regulation by the Federal Reserve Board.
Estimates The preparation of consolidated financial statements in conformity with accounting principles generally accepted in the United States of America requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of interest and noninterest income and expenses during the reporting period. Actual results could differ from those estimates.
Concentrations of credit risk The Banks make loans to individuals and small businesses located primarily in upstate South Carolina for various personal and commercial purposes. The Banks have diversified loan portfolios and borrowers' abilities to repay loans is not dependent upon any specific economic sector.
Securities The Company accounts for securities in accordance with Statement of Financial Accounting Standards ("SFAS") No. 115 Accounting for Certain Investments in Debt and Equity Securities. Debt securities are classified upon purchase as available for sale, held for investment, or trading. Such assets classified as available for sale are carried at fair value. Unrealized holding gains or losses are reported as a component of shareholders' equity (accumulated other comprehensive income (loss)) net of deferred income taxes. Securities classified as held for investment are carried at cost, adjusted for the amortization of premiums and the accretion of discounts into interest income using a methodology which approximates a level yield of interest over the estimated remaining period until maturity. To qualify as held for investment, the Company must have the ability and intent to hold the securities to maturity. Trading securities are carried at market value. The Company has no trading securities. Gains or losses on dispositions of securities are based on the difference between the net proceeds and the adjusted carrying amount of the securities sold, using the specific identification method.
Loans and allowance for loan losses Loans are stated at the amount of unpaid principal reduced by an allowance for loan losses. Interest is calculated using the simple interest method on daily balances of the principal amounts outstanding. An allowance for loan losses is established through a provision for loan losses charged to operations. Loans are charged against the allowance when management believes that the collectibility of the principal is unlikely. The allowance is an amount that management believes will be adequate to absorb probable losses on existing loans that may become uncollectible based on evaluations of the collectibility of loans and prior loan loss experience; however, management's judgment is based upon a number of assumptions about future events, which are believed to be reasonable, but which may or may not prove valid. Thus, there can be no assurance that charge-offs in future periods will not exceed the allowance for loan losses or that additional increases in the allowance for loan losses will not be required. Accrual of interest is discontinued on a loan when management believes, after considering economic and business conditions and collection efforts, that the borrower's financial condition is such that collection of interest is doubtful.
(Continued)
NOTE 1 - SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES AND ACTIVITIES, Continued
Loans and allowance for loan losses, continued The Company accounts for impaired loans in accordance with SFAS No. 114, Accounting by Creditors for Impairment of a Loan. This standard requires that all creditors value loans at the loan's fair value if it is probable that the creditor will be unable to collect all amounts due according to the terms of the loan agreement. Fair value may be determined based upon the present value of expected cash flows, market price of the loan, if available, or value of the underlying collateral. Expected cash flows are required to be discounted at the loan's effective interest rate. SFAS No. 114 was amended by SFAS No. 118 to allow a creditor to use existing methods for recognizing interest income on an impaired loan and by requiring additional disclosures about how a creditor recognizes interest income on an impaired loan.
Under SFAS No. 114, when the ultimate collectibility of an impaired loan's principal is in doubt, wholly or partially, all cash receipts are applied to principal. Once the reported principal balance has been reduced to zero, future cash receipts are applied to interest income, to the extent that any interest has been foregone. Further cash receipts are recorded as recoveries of any amounts previously charged off.
A loan is also considered impaired if its terms are modified in a troubled debt restructuring. For these accruing impaired loans, cash receipts are typically applied to principal and interest receivable in accordance with the terms of the restructured loan agreement. Interest income is recognized on these loans using the accrual method of accounting.
The Company determines a loan to be delinquent when payments have not been made according to contractual terms, typically evidenced by nonpayment of a monthly installment by the due date. The accrual of interest ceases on a loan that is 90 days delinquent.
Mortgage loans held for sale Mortgage loans originated and intended for sale in the secondary market are carried at the lower of cost or estimated market value in the aggregate. Net unrealized losses are provided for in a valuation allowance by charges to operations. Gains and losses on sales of loans are recognized when the loans are sold to secondary market investors.
Premises and equipment Premises and equipment are stated at cost less accumulated depreciation. Depreciation is calculated using the straight-line method over the estimated useful lives of the assets. Additions to premises and equipment and major replacements or betterments are added at cost. Maintenance, repairs, and minor replacements are charged to expense when incurred. When assets are retired or otherwise disposed of, the cost and accumulated depreciation are removed from the accounts and any gain or loss is reflected in income.
Non-performing assets Loans are placed in a non-accrual status when, in the opinion of management, the collection of additional interest is questionable. Thereafter, no interest is taken into income unless received in cash or until such time as the borrower demonstrates the ability to pay principal and interest.
Other real estate owned Other real estate owned represents properties acquired through foreclosure and is carried at the lower of cost or fair value, adjusted for net selling costs. Fair values of real estate owned are reviewed regularly and writedowns are recorded when it is determined that the carrying value of real estate exceeds the fair value less estimated costs to sell. Costs relating to the development and improvement of such property are capitalized, whereas those costs relating to holding the property are charged to expense. At December 31, 2003 and 2002 real estate owned by the Company totaled $517,000 and $193,000, respectively, and is included in other assets. During 2003 and 2002, the Company transferred loans to real estate acquired in foreclosure of $450,000 and $146,000, respectively. At December 31, 2003 and 2002, the Company recorded no allowance related to its other real estate owned. (Continued)
NOTE 1 - SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES AND ACTIVITIES, Continued
Advertising and public relations expense Advertising, promotional and other business development costs are generally expensed as incurred. External costs incurred in producing media advertising are expensed the first time the advertising takes place. External costs relating to direct mailing costs are expensed in the period in which the direct mailings are sent.
Income taxes The provision for income taxes includes deferred taxes on temporary differences between the recognition of certain income and expense items for tax and financial statement purposes. Income taxes are computed on the liability method as described in SFAS No. 109, Accounting for Income Taxes.
Statements of cash flows For the purposes of reporting cash flows, the Company considers cash and cash equivalents to be those amounts included in the balance sheet captions "Cash and Due From Banks", "Interest-bearing Deposits in Other Banks" and "Federal Funds Sold". Cash and cash equivalents have an original maturity of three months or less.
SReclassifications Certain prior year amounts have been reclassified to conform with the current presentation. These reclassifications have no effect on previously reported net income.
Risk and uncertainties In the normal course of its business the Company encounters two significant types of risk: economic and regulatory. There are three main components of economic risk: interest rate risk, credit risk, and market risk. The Company is subject to interest rate risk to the degree that its interest-bearing liabilities mature or reprice at different speeds, or on different bases, than its interest-earning assets. Credit risk is the risk of default on the Company's loan and investment securities portfolios that results from borrowers' inability or unwillingness to make contractually required payments. Market risk reflects changes in the value of collateral underlying loans receivable, the valuation of real estate held by the Company, and the valuation of loans held for sale and mortgage-backed securities available for sale.
The Company is subject to the regulations of various government agencies. These regulations can and do change significantly from period to period. The Company also undergoes periodic examinations by the regulatory agencies, which may subject it to further changes with respect to asset valuations, amounts of required loss allowances, and operating restrictions, resulting from the regulators' judgments based on information available to them at the time of their examination.
Stock option compensation plans The Company has a stock option compensation plan through which the Board of Directors may grant stock options to officers and employees to purchase common stock of the Company at prices not less than 100 percent of the fair value of the stock on the date of grant. The outstanding options become exercisable in various increments beginning on the date of grant and expiring five to ten years from the date of grant. The Company also has a directors' stock option plan through which non-employee directors of the Company shall be granted options to purchase 500 shares of common stock for each year served on the board to a maximum of 5,000 options per director. The option price shall not be less than 100 percent of the fair value of the stock on the grant date. The outstanding options become exercisable on the grant date and expire at the earlier of the end of the director's term or ten years from the grant date.
The Company accounts for the plans under the recognition and measurement principles of Accounting Principles Board ("APB") Opinion No. 25, Accounting for Stock Issued to Employees, and related Interpretations. No stock-based employee compensation cost is reflected in net income, as all stock options granted under these plans had an exercise price equal to the market value of the underlying common stock on the date of grant. The following table illustrates the effect on net income and earnings per share if the Company had applied the fair value recognition provisions of Financial Accounting Standards Board ("FASB") SFAS No. 123, Accounting for Stock-Based Compensation, to stock-based employee compensation.
(Continued)
NOTE 1 - SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES AND ACTIVITIES, Continued
The fair value of each option grant is estimated on the date of grant using the Black-Scholes option pricing model with the following weighted average assumptions for grants in 2003, 2002 and 2001: dividend yields from $.15 to $.25 per share, expected volatility from 5 to 27 percent, risk-free interest rates from 4.50 to 6.50 percent and expected life of 10 years.
Recently issued accounting pronouncements The following is a summary of recent authoritative pronouncements that affect accounting, reporting, and disclosure of financial information by the Company:
In December 2002, the Financial Accounting Standards Board ("FASB") issued SFAS No. 148, Accounting for Stock-Based Compensation-Transition and Disclosure, an amendment of FASB Statement No. 123, "Accounting for Stock-Based Compensation", to provide alternative methods of transition for a voluntary change to the fair value based method of accounting for stock-based employee compensation. SFAS No. 148 also amends the disclosure provisions of SFAS No. 123 and Accounting Principles Board ("APB") Opinion No. 28, Interim Financial Reporting, to require disclosure in the summary of significant accounting policies of the effects of an entity's accounting policy with respect to stock-based employee compensation on reported net income and earnings per share in annual and interim financial statements. While SFAS No. 148 does not amend SFAS No. 123 to require companies to account for employee stock options using the fair value method, the disclosure provisions of SFAS No. 148 are applicable to all companies with stock-based employee compensation, regardless of whether they account for that compensation using the fair value method of SFAS No. 123 or the intrinsic value method of APB Opinion No. 25. The provisions of SFAS No. 148 were effective for annual financial statements for fiscal years ending after December 15, 2002, and for financial reports containing condensed financial statements for interim periods beginning after December 15, 2002. The Company has adopted the disclosure provisions of SFAS No. 148 and continues to account for its stock-based compensation using the intrinsic value method of APB Opinion No. 25.
In April 2003, the FASB issued SFAS No. 149, Amendment of Statement 133 on Derivative Instruments and Hedging Activities, which amends and clarifies accounting for derivative instruments, including certain derivative instruments embedded in other contracts and loan commitments that relate to the origination of mortgage loans held for sale, and for hedging activities under SFAS No. 133. SFAS No. 149 was generally effective for contracts entered into or modified after June 30, 2003. The adoption of SFAS No. 149 did not have a material impact on the financial condition or operating results of the Company.
(Continued)
NOTE 1 - SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES AND ACTIVITIES, Continued
In May 2003, the FASB issued SFAS No. 150, Accounting for Certain Financial Instruments with Characteristics of both Liabilities and Equity. SFAS No. 150 establishes standards for how an issuer classifies and measures certain financial instruments with characteristics of both liabilities and equity. It requires that an issuer classify a financial instrument that is within its scope as a liability (or an asset in some circumstances). Many of those instruments were previously classified as equity. SFAS No. 150 was generally effective for financial instruments entered into or modified after May 31, 2003, and otherwise was effective at the beginning of the first interim period beginning after June 15, 2003. The adoption of SFAS No. 150 did not have a material impact on the financial condition or operating results of the Company.
In November 2002, the FASB issued FASB Interpretation ("FIN") No. 45, Guarantor's Accounting and Disclosure Requirements for Guarantees, Including Indirect Guarantees of Indebtedness of Others. FIN No. 45 requires a company, at the time it issues a guarantee, to recognize an initial liability for the fair value of obligations assumed under the guarantee and elaborates on existing disclosure requirements related to guarantees and warranties. The initial recognition requirements of FIN No. 45 were effective for guarantees issued or modified after December 31, 2002. The disclosure requirements were effective for financial statements of periods ending after December 15, 2002. The adoption of FIN No. 45 did not have a material effect on the Company's financial position or results of operations.
In January 2003, the FASB issued FIN No. 46, Consolidation of Variable Interest Entities. FIN No. 46 requires a variable interest entity to be consolidated by a company if that company is subject to a majority of the risk of loss from the variable interest entity's activities or entitled to receive a majority of the entity's residual returns, or both. FIN No. 46 also requires disclosures about variable interest entities that a company is not required to consolidate, but in which it has a significant variable interest. FIN No. 46 provides guidance for determining whether an entity qualifies as a variable interest entity by considering, among other considerations, whether the entity lacks sufficient equity or its equity holders lack adequate decision-making ability. The consolidation requirements of FIN No. 46 applied immediately to variable interest entities created after January 31, 2003. The consolidation requirements applied to existing entities in the first fiscal year or interim period beginning after June 15, 2003. Certain of the disclosure requirements applied to all financial statements issued after January 31, 2003, regardless of when the variable interest entity was established. The adoption of FIN No. 46 did not have a material effect on the Company's financial position or results of operations.
In November 2003, the Emerging Issues Task Force ("EITF") reached a consensus that certain quantitative and qualitative disclosures should be required for debt and marketable equity securities classified as available for sale or held to maturity under SFAS No. 115 and SFAS No. 124 that are impaired at the balance sheet date but for which an other-than-temporary impairment has not been recognized. Accordingly the EITF issued EITF No. 03-1, The Meaning of Other-Than-Temporary Impairment and Its Application to Certain Investments. This issue addresses the meaning of other-than-temporary impairment and its application to investments classified as either available for sale or held to maturity under SFAS No. 115 and provides guidance on quantitative and qualitative disclosures. EITF No. 03-1 is effective for fiscal years ending after December 15, 2003. Adopting the disclosure provisions of EITF No. 03-1 did not have a material effect on the Company's financial position or results of operations.
Other accounting standards that have been issued or proposed by the FASB or other standards-setting bodies that do not require adoption until a future date are not expected to have a material impact on the consolidated financial statements upon adoption.
NOTE 2 - RESTRICTIONS ON CASH AND DUE FROM BANKS
The Banks are required to maintain average reserve balances with the Federal Reserve Bank based upon a percentage of deposits. The average amounts of these reserve balances at December 31, 2003 and 2002 were approximately $3,533,000 and $2,281,000, respectively.
NOTE 3 - SECURITIES
Securities are summarized as follows as of December 31 (tabular amounts in thousands):
NOTE 3 - SECURITIES, Continued
The following table shows gross unrealized losses and fair value, aggregated by investment category, and length of time that individual securities have been in a continuous unrealized loss position, at December 31, 2003.
Securities Available for Sale (tabular amounts in thousands):
No individual securities were in a continuous loss position for twelve months or more. The Company has the ability and intent to hold these securities until such time as the value recovers or the securities mature. The Company believes, based on industry analyst reports and credit ratings, that the deterioration in value is attributable to changes in market interest rates and not in the credit quality of the issuer and therefore, these losses are not considered other-than-temporary.
Securities Held to Maturity (tabular amounts in thousands):
No individual securities were in a continuous loss position for twelve months or more. The Company has the ability and intends to hold these securities to maturity. The Company believes, based on industry analyst reports and credit ratings, that the deterioration in value is attributable to changes in market interest rates and not in the credit quality of the issuer and therefore, these losses are not considered other-than-temporary,
(Continued)
NOTE 3 - SECURITIES, Continued
OTHER INVESTMENTS, AT COST The Banks, as member institutions, are required to own certain stock investments in the Federal Home Loan Bank of Atlanta ("FHLB"), the Federal Reserve Bank, and the Bankers Bank. The stock is generally pledged against any borrowings from these institutions (see Note 8). No ready market exists for the stock and it has no quoted market value. However, redemption of these stocks has historically been at par value. The Company's investments in stock are carried at par value and are summarized below (tabular amounts in thousands):
December 31, ------------ 2003 2002 ---- ----
Federal Reserve Bank ....................... $ 396 $ 396 FHLB ....................................... 1,607 1,433 Bankers Bank ............................... 144 55 ------ ------
$2,147 $1,884 ====== ======
Securities with carrying amounts of $48,851,000 and $54,048,000 at December 31, 2003 and 2002, respectively, were pledged to secure public deposits and for other purposes required or permitted by law.
NOTE 4 - LOANS AND ALLOWANCE FOR LOAN LOSSES
Loans are summarized as follows (tabular amounts in thousands):
December 31, ------------ 2003 2002 ---- ---- Commercial and industrial - not secured by real estate ... $ 44,306 $ 35,548 Commercial and industrial - secured by real estate ....... 84,805 72,600 Residential real estate - mortgage ....................... 90,299 69,579 Residential real estate - construction ................... 55,139 48,452 Loans to individuals for household, family and other personal expenditures ....................... 21,703 24,308 -------- -------- 296,252 250,487 Less allowance for loan losses ........................... 3,438 2,850 -------- --------
$292,814 $247,637 ======== ========
The composition of gross loans by rate type is as follows (tabular amounts in thousands):
December 31, ------------ 2003 2002 ---- ----
Variable rate loans ...................... $153,541 $109,998 Fixed rate loans ......................... 142,711 140,489 -------- --------
$296,252 $250,487 ======== ========
Changes in the allowance for loan losses were as follows (tabular amounts in thousands):
For the years ended December 31, -------------------------------- 2003 2002 2001 ---- ---- ----
BALANCE, BEGINNING OF YEAR ................. $2,850 $2,288 $2,023 Provision for loan losses ............. 1,106 944 892 Loans charged off ..................... 565 410 655 Loans recovered ....................... 47 28 28 ------ ------ ------
BALANCE, END OF YEAR ....................... $3,438 $2,850 $2,228 ====== ====== ====== (Continued)
NOTE 4 - LOANS AND ALLOWANCE FOR LOAN LOSSES, Continued
At December 31, 2003 and 2002 nonaccrual loans amounted to $829,000 and $926,000, respectively. Foregone interest income was approximately $101,000, $76,000 and $85,000 on nonaccrual loans for 2003, 2002 and 2001, respectively. At December 31, 2003 and 2002, there were no impaired loans.
NOTE 5 - PREMISES AND EQUIPMENT
The principal categories and estimated useful lives of premises and equipment are summarized below (tabular amounts in thousands):
December 31, Estimated ------------ useful lives 2003 2002 ------------ ---- ----
Land $ 2,122 $ 2,122 Building and improvements 15 - 40 years 6,262 5,555 Furniture, fixtures and equipment 3 - 10 years 6,365 5,479 -------- -------
14,749 13,156 Less accumulated depreciation 4,518 3,617 -------- -------
$ 10,231 $ 9,539 ======== =======
Depreciation expense of approximately $967,000, $614,000 and $564,000 for 2003, 2002 and 2001, respectively, is included in occupancy and equipment expenses in the accompanying consolidated statements of income.
NOTE 6 - DEPOSITS
The composition of deposits is as follows (tabular amounts in thousands):
December 31, ------------ 2003 2002 ---- ----
Demand deposits, noninterest bearing ............. $ 42,288 $ 40,614 NOW and money market accounts .................... 94,812 101,634 Savings deposits ................................. 10,377 8,800 Time certificates, $100,000 or more .............. 114,075 79,399 Other time certificates .......................... 91,777 97,727 -------- --------
Total ................................... $353,329 $328,174 ======== ========
The amounts and scheduled maturities of deposits are as follows (tabular amounts in thousands):
December 31, ------------ 2003 2002 ---- ---- Time certificates maturing Within one year ............................. $135,318 $121,115 After one but within two years .............. 37,734 35,522 After two but within three years ............ 25,119 13,768 After three but within four years ........... 5,737 1,998 After four years ............................ 1,944 4,723 -------- --------
205,852 177,126
Transaction and savings accounts ................. 147,477 151,048 -------- --------
$353,329 $328,174 ======== ========
NOTE 6 - DEPOSITS, Continued
Certificates of deposit in excess of $100,000 totaled approximately $114,075,000 and $79,399,000 at December 31, 2003 and 2002, respectively. Interest expense on certificates of deposit in excess of $100,000 was approximately, $2,247,000 in 2003, $2,197,000 in 2002 and $3,066,000 in 2001.
The Bank had approximately $-0- and $990,000 in time certificates from customers outside their market area, at December 31, 2003 and 2002, respectively.
NOTE 7 - SECURITIES SOLD UNDER REPURCHASE AGREEMENTS
Securities sold under repurchase agreements are summarized as follows (tabular amounts in thousands):
The Banks enter into sales of securities under agreements to repurchase. These obligations to repurchase securities sold are reflected as liabilities in the consolidated balance sheets. The dollar amount of securities underlying the agreements remains in the asset accounts. The securities underlying the agreements are book entry securities maintained by a safekeeping agent. The weighted average interest rate of these agreements was 1.34 percent and 2.44 percent at December 31, 2003 and 2002, respectively. The agreements mature daily. Securities sold under agreements to repurchase averaged $28,783,000, $25,597,000, during 2003 and 2002, respectively. The maximum amounts outstanding at any month-end were $33,035,000 and $35,331,000 during 2003 and 2002, respectively.
NOTE 8 - ADVANCES FROM FEDERAL HOME LOAN BANK
The Banks had advances aggregating $5,000,000 and $17,000,000 at December 31, 2003 and 2002, respectively. At December 31, 2002, the Banks had $12,000,000 of advances at interest rates of 1.30 percent and which matured daily. At December 31, 2003 and 2002, $5,000,000 of the advances bear interest at 4.82 percent and mature in December 2010. An advance at December 31, 2002 was called by the FHLB in the first quarter of 2003. At December 31, 2003 and 2002, the advances were collateralized by one to four family residential mortgage loans aggregating approximately $59,983,000 and $34,664,000, respectively, and by FHLB stock owned by all three Banks. Additional borrowings under similar terms are available by pledging additional collateral and purchasing additional stock in the FHLB.
NOTE 9 - UNUSED LINES OF CREDIT
The Banks have unused short-term lines of credit to purchase federal funds from unrelated banks totaling $22,450,000 at December 31, 2003. These lines of credit are available on a one to seven day basis for general corporate purposes.
The Peoples National Bank has the ability to borrow an additional $34,968,000 or 14.6 percent of total assets from the FHLB as of December 31, 2003. The Bank of Anderson, N.A. has the ability to borrow an additional $15,688,000 or 12 percent of total assets, and the Seneca National Bank has the ability to borrow an additional $4,327,000 or 8.6 percent of total assets. The borrowings are available by pledging collateral and purchasing additional stock in the FHLB.
NOTE 10 - INCOME TAXES
Provision for income taxes consists of the following (tabular amounts in thousands):
For the years ended December 31, -------------------------------- 2003 2002 2001 ---- ---- ---- Current tax provision Federal ............................. $ 2,736 $ 2,299 $ 1,531 State ............................... 229 201 217 ------- ------- -------
Total current taxes .......... 2,965 2,500 1,748 Deferred tax expense (benefit) ...... (97) (34) (110) ------- ------- -------
$ 2,868 $ 2,466 $ 1,638 ======= ======= =======
Income taxes differ from the tax expense computed by applying the statutory federal income tax rate of 34 percent to income before income taxes. The reasons for these differences are as follows:
Deferred tax assets (liabilities) result from temporary differences in the recognition of revenue and expenses for tax and financial statement purposes. The sources and the cumulative tax effect of temporary differences are as follows (tabular amounts in thousands):
December 31, ------------ 2003 2002 ---- ---- Deferred tax assets Allowance for loan losses .................... $ 1,238 $ 1,072 Deferred compensation ........................ 131 78 Business start-up costs ...................... - 13 Other ........................................ 28 16 ------- ------- 1,397 1,179 Less valuation allowance ......................... (264) (223) ------- ------- 1,133 956 ------- ------- Deferred tax liabilities Depreciation ................................. (545) (424) Unrealized holding gains on securities available for sale .............. (32) (353) ------- ------- (557) (777) ------- ------- Net deferred tax assets included in other assets and liabilities .................. $ 556 $ 179 ======= =======
NOTE 11 - FINANCIAL INSTRUMENTS WITH OFF-BALANCE SHEET RISK
The Banks are parties to financial instruments with off-balance sheet risk in the normal course of business to meet the financing needs of their customers. These financial instruments include commitments to extend credit and standby letters of credit. They involve, to varying degrees, elements of credit and interest rate risk in excess of the amounts recognized in the balance sheets.
The Company's exposure to credit loss in the event of nonperformance by the other party to the financial instrument for commitments to extend credit and standby letters of credit is represented by the contractual amounts of those instruments. The Company uses the same credit policies in making commitments and conditional obligations as it does for on-balance sheet instruments.
Commitments to extend credit are agreements to lend to a customer as long as there is no violation of any material condition established in the contract. Commitments generally have fixed expiration dates or other termination clauses and may require the payment of a fee. At December 31, 2003, unfunded commitments to extend credit were $84,377,000. The Company evaluates each customer's credit worthiness on a case-by-case basis. The amount of collateral obtained, if deemed necessary by the Company upon extension of credit, is based on management's credit evaluation of the borrower. Collateral varies but may include accounts receivable, inventory, property, plant and equipment, commercial and residential real estate.
At December 31, 2003, there were $4,633,000 committed under letters of credit. The credit risk involved in issuing letters of credit is essentially the same as that involved in extending loan facilities to customers. Collateral varies but may include accounts receivable, inventory, equipment, marketable securities and property. Since most of the letters of credit are expected to expire without being drawn upon, they do not necessarily represent future cash requirements.
NOTE 12 - LEGAL CONTINGENCIES
The Company has, from time to time, various lawsuits and claims arising from the conduct of its business. Such items are not expected to have any material adverse effect on the financial position or results of operations of the Company.
NOTE 13 - RELATED PARTY TRANSACTIONS
At December 31, 2003 and 2002, certain officers, directors, employees, related parties and companies in which they have 10 percent or more beneficial ownership, were indebted to the Banks in the aggregate amount of $7,375,000 and $8,261,000, respectively. During 2003, $2,206,000 of new loans were made to this group and repayments of $3,092,000 were received. This same group had deposits in the banks of $7,033,000.
NOTE 14 - COMMON STOCK AND EARNINGS PER SHARE
SFAS No. 128, Earnings per Share requires that the Company present basic and diluted net income per common share. The assumed conversion of stock options creates the difference between basic and diluted net income per common share. Income per share is calculated by dividing net income by the weighted average number of common shares outstanding for each period presented. The weighted average number of common shares outstanding for basic net income per common share was $3,682,754, 3,676,608 in 2002 and 3,667,806 in 2001. The weighted average number of common shares outstanding for diluted net income per common share was 3,819,576 in 2003, 3,790,319 in 2002 and 3,763,507 in 2001.
The Company declared or issued five percent common stock dividends in 2003, 2002, and 2001. Net income per common share in prior years has been restated to reflect these transactions.
NOTE 15 - RESTRICTIONS ON DIVIDENDS
The ability of the Company to pay cash dividends is dependent upon receiving cash in the form of dividends from the Banks. Federal banking regulations restrict the amount of dividends that can be paid and such dividends are payable only from the retained earnings of the Banks. At December 31, 2003 the Banks' retained earnings were approximately $34,570,000.
NOTE 16 - STOCK OPTION COMPENSATION PLANS
A summary of the status of the plans as of December 31, 2003, 2002 and 2001, and changes during the years ending on those dates is presented below (all shares have been adjusted for stock dividends):
The following table summarizes information at December 31, 2003:
(Continued)
NOTE 16 - STOCK OPTION COMPENSATION PLANS, Continued
The fair value of each option grant is estimated on the date of grant using the Black-Scholes option pricing model with the following weighted average assumptions for grants in 2003, 2002 and 2001: dividend yields from $.15 to $.25 per share, expected volatility from 5 to 27 percent, risk-free interest rates from 4.50 to 6.50 percent and expected life of 10 years.
The plans are administered by the Board of Directors or by a committee designated by the Board. The plans provide that if the shares of common stock shall be subdivided or combined into a greater or smaller number of shares or if the Company shall issue any shares of common stock as a stock dividend on its outstanding common stock, the number of shares of common stock deliverable upon the exercise of options shall be increased or decreased proportionately, and appropriate adjustments shall be made in the purchase price per share to reflect such subdivision, combination or stock dividend.
NOTE 17 - EMPLOYEE BENEFIT PLANS
The Company maintains a 401(k) retirement plan for all eligible employees. Upon ongoing approval of the Board of Directors, the Company matches employee contributions equal to fifty percent of the first six percent of such contributions, subject to certain adjustments and limitations. Contributions to the plan of $135,619, $111,207 and $85,089 were charged to operations during 2003, 2002 and 2001, respectively.
Supplemental benefits have been approved by the Board of Directors for certain executive officers of The Peoples National Bank. These benefits are not qualified under the Internal Revenue Code and they are not funded. However, certain funding is provided informally and indirectly by life insurance policies. The Company recorded expense related to these benefits of $157,029, $42,706 and $42,705 in 2003, 2002, and 2001, respectively.
NOTE 18 - REGULATORY MATTERS
The Company and the Banks are subject to various regulatory capital requirements administered by the federal banking agencies. Failure to meet minimum capital requirements for the Banks can initiate certain mandatory, and possibly additional discretionary, actions by regulators that, if undertaken, could have a direct material effect on the Banks' financial statements. Under capital adequacy guidelines and the regulatory framework for prompt corrective action, the Banks must meet specific capital guidelines that involve quantitative measures of the Banks' assets, liabilities, and certain off-balance sheet items as calculated under regulatory accounting practices. The Banks' capital amounts and classification are also subject to qualitative judgments by the regulators about components, risk weighting, and other factors.
Quantitative measures established by regulation to ensure capital adequacy require the Banks to maintain minimum amounts and ratios (set forth in the table below) of total and Tier I capital to risk-weighted assets, and of Tier I capital to average assets. Management believes, as of December 31, 2003, that the Banks meet all capital adequacy requirements to which they are subject.
As of December 31, 2003, the most recent notification from the Office of the Comptroller of the Currency categorized the Banks as well capitalized under the regulatory framework for prompt corrective action. There are no conditions or events since that notification that management believes have changed the Banks' categories. The Banks' actual capital amounts and ratios and minimum regulatory amounts and ratios are presented as follows:
(Continued)
NOTE 18 - REGULATORY MATTERS, Continued
NOTE 19 - FAIR VALUE OF FINANCIAL INSTRUMENTS
SFAS No. 107, Disclosures about Fair Value of Financial Instruments requires disclosure of fair value information, whether or not recognized in the balance sheets, when it is practical to estimate the fair value. SFAS No. 107 defines a financial instrument as cash, evidence of an ownership interest in an entity or contractual obligations which require the exchange of cash or other financial instruments. Certain items are specifically excluded from the disclosure requirements, including the Company's common stock, premises and equipment and other assets and liabilities.
Fair value approximates carrying value for the following financial instruments due to the short-term nature of the instrument: cash and due from banks, interest-bearing deposits in other banks and federal funds sold and purchased.
Securities are valued using quoted fair market prices. Fair value for the Company's off-balance sheet financial instruments is based on the discounted present value of the estimated future cash flows.
Fair value for variable rate loans that reprice frequently, loans held for sale, and for loans that mature in less than three months is based on the carrying value. Fair value for fixed rate mortgage loans, personal loans, and all other loans (primarily commercial) maturing after three months is based on the discounted present value of the estimated future cash flows. Discount rates used in these computations approximate the rates currently offered for similar loans of comparable terms and credit quality.
Fair value for demand deposit accounts and interest-bearing accounts with no fixed maturity date is equal to the carrying value. Certificate of deposit accounts and securities sold under repurchase agreements maturing within one year are valued at their carrying value. The fair value of certificate of deposit accounts and securities sold under repurchase agreements maturing after one year are estimated by discounting cash flows from expected maturities using current interest rates on similar instruments.
Fair value for long-term FHLB advances is based on discounted cash flows using the Company's current incremental borrowing rate. Discount rates used in these computations approximate rates currently offered for similar borrowings of comparable terms and credit quality.
Fair value of off-balance sheet instruments are based on fees currently charged to enter into similar arrangements; taking into account the remaining terms of the agreement and the counterparties' credit standing.
The Company has used management's best estimate of fair value based on the above assumptions. Thus, the fair values presented may not be the amounts which could be realized in an immediate sale or settlement of the instrument. In addition, any income taxes or other expenses which would be incurred in an actual sale or settlement are not taken into consideration in the fair value presented.
The estimated fair values of the Company's financial instruments are as follows (amounts in thousands):
(Continued)
NOTE 19 - FAIR VALUE OF FINANCIAL INSTRUMENTS, Continued
NOTE 20 - CONDENSED FINANCIAL INFORMATION
Following is condensed financial information of Peoples Bancorporation, Inc. (parent company only) (amounts in thousands):
CONDENSED BALANCE SHEETS
NOTE 20 - CONDENSED FINANCIAL INFORMATION, Continued
CONDENSED STATEMENTS OF INCOME
CONDENSED STATEMENTS OF CASH FLOWS
NOTE 21 - QUARTERLY FINANCIAL DATA (UNAUDITED)
Unaudited condensed financial data by quarter for 2003 and 2002 is as follows (amounts, except per share data, in thousands):
(1) Per share data has been restated to reflect 5 percent stock dividends.
ITEM 9.
ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND FINANCIAL DISCLOSURE
There has been no occurrence requiring a response to this item.
ITEM 9A.
ITEM 9A. CONTROLS AND PROCEDURES
Based on the evaluation required by 17 C.F.R. Section 240.13a-15(b) or 240.15d-15(b) of the Company's disclosure controls and procedures (as defined in 17 C.F.R. Sections 240.13a-15(e) and 240.15d-15(e))), the Company's chief executive officer and chief financial officer concluded that the effectiveness of such controls and procedures, as of the end of the year covered by this annual report, was adequate.
No disclosure is required under 17 C.F.R. Section 229.308.
PART III
ITEM 10.
ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT
The information set forth under the caption "EXECUTIVE OFFICERS" under Part I, Item 1 of this report on Form 10-K, and the information set forth under the captions "ELECTION OF DIRECTORS" and "SECTION 16(a) BENEFICIAL OWNERSHIP REPORTING COMPLIANCE" in the Proxy Statement to be used in conjunction with the 2004 Annual Meeting of Shareholders (the "Proxy Statement"), which will be filed within 120 days of the Company's fiscal year end, is incorporated herein by reference.
Audit Committee Financial Expert
The Company's board of directors has determined that the Company does not have an "audit committee financial expert," as that term is defined by Item 401(h) of Regulation S-K promulgated by the Securities and Exchange Commission, serving on its audit committee. The Company's audit committee is a committee of directors who are elected by the shareholders and who are independent of the Company and its management. After reviewing the experience and training of all of the Company's independent directors, the board of directors has concluded that no independent director meets the SEC's very demanding definition. Therefore, it would be necessary to find a qualified individual willing to serve as both a director and member of the audit committee and have that person elected by the shareholders in order to have an "audit committee financial expert" serving on the Company's audit committee. The Company's audit committee is, however, authorized to use consultants to provide financial accounting expertise in any instance where members of the committee believe such assistance would be useful. Accordingly, the Company does not believe that it needs to have an "audit committee financial expert" on its audit committee.
Code of Ethics
The Company has adopted a code of ethics that applies to the Company's principal executive officer, principal financial officer, principal accounting officer, controller, or persons serving in equivalent positions regardless of whether they are designated executive officers. The Company will provide a copy of the Code of Ethics to any person, without charge, upon written request to the Corporate Secretary, Peoples Bancorporation, Inc, 1818 East Main Street, Easley, South Carolina 29640.
ITEM 11.
ITEM 11. EXECUTIVE COMPENSATION
With the exception of information set forth under the captions "Board Compensation Committee Report on Executive Compensation" and "Performance Graph," which sub-sections are not incorporated herein by reference, the information set forth under the caption "EXECUTIVE COMPENSATION" in the Proxy Statement is incorporated herein by reference.
ITEM 12.
ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENTAND RELATED STOCKHOLDER MATTERS
The information set forth under the caption "SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT" in the Proxy Statement is incorporated herein by reference.
The following table sets forth aggregated information as of December 31, 2003 about all of the Company's compensation plans (including individual compensation arrangements) under which equity securities of the Company are authorized for issuance:
For further information about the Company's plans as set forth in the above table, see Note 16 of the consolidated financial statements set forth in Item 8 of this Form 10-K.
ITEM 13.
ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS
The information set forth under the caption "CERTAIN TRANSACTIONS" in the Proxy Statement is incorporated herein by reference.
ITEM 14.
ITEM 14. PRINCIPAL ACCOUNTANT FEES AND SERVICES
The information set forth under the caption "Independent Public Accountants" in the Proxy Statement is incorporated herein by reference.
PART IV
ITEM 15.
ITEM 15. EXHIBITS, FINANCIAL STATEMENT SCHEDULES AND REPORTS ON FORM 8-K
(a) (1) and (2) Financial Statements and Financial Schedules
The following consolidated financial statements and report of independent auditors of Peoples Bancorporation, Inc. and subsidiaries are included in Item 8 of this Annual Report on Form 10-K:
Report of Independent Auditors
Consolidated Statements of Condition - December 31, 2003 and 2002
Consolidated Statements of Income - Years ended December 31, 2003, 2002 and 2001
Consolidated Statements of Cash Flows - Years ended December 31, 2003, 2002 and 2001
Consolidated Statements of Shareholders' Equity and Comprehensive Income - Years ended December 31, 2003, 2002 and 2001
Notes to Consolidated Financial Statements - December 31, 2003
(a) (3) Listing of Exhibits:
Exhibit No. Description of Exhibit
3(i) Articles of Incorporation as amended (incorporated by reference to exhibits to Registrant's Registration Statement on Form 8-A). 3(ii) Bylaws (incorporated by reference to exhibits to Registrant's Registration Statement on Form 8-A). 4.1 Specimen Common Stock Certificate (incorporated by reference to exhibits to Registrant's Registration Statement on Form S-4 (Number 33-46649)). 10.2 Peoples Bancorporation, Inc. 1993 Incentive Stock Option Plan (incorporated by reference to exhibits to Registrant's Registration Statement on Form SB-1 (Number 33-78602)). 10.3 Non-competition, Severance and Employment Agreement entered into between the Company and Robert E. Dye, Sr. (incorporated by reference to exhibits to Registrant's Annual Report on Form 10-KSB for the year ended December 31, 1995). 10.4 Non-competition, Severance and Employment Agreement entered into between the Company and R. Riggie Ridgeway (incorporated by reference to exhibits to Registrant's Annual Report on Form 10-KSB for the year ended December 31, 1995). 10.5 Peoples Bancorporation, Inc 1997 Non-Employee Director Stock Option Plan (incorporated by reference to exhibits to Registrant's Form 10-KSB for the year ended December 31, 1997). 10.6 Salary Continuation Agreement between The Peoples National Bank and Robert E. Dye, Sr., dated July 7, 1998, as amended (incorporated by reference to exhibits to Registrant's Form 10-K for the year ended December 31, 2002). 10.7 Salary Continuation Agreement between The Peoples National Bank and Ralph R. Ridgeway, dated July 7, 1998, as amended (incorporated by reference to exhibits to Registrant's Form 10-K for the year ended December 31, 2002). 10.8 Non-competition, Severance and Employment Agreement entered into between the Company and each of William B. West, David C. King and F. Davis Arnette, Jr. (incorporated by reference to exhibits to Registrant's Form 10-K for the year ended December 31, 1999). 10.9 Split Dollar Agreement between the Company and Robert E. Dye (incorporated by reference to exhibits to Registrant's Form 10-K for the year ended December 31, 2002). 10.10 Spit Dollar Agreement between the Company and Ralph R. Ridgeway (incorporated by reference to exhibits to Registrant's Form 10-K for the year ended December 31, 2002). 21. Subsidiaries of the Registrant 31.1 Rule 13a-14(a) / 15d-14(a) Certifications 31.2 Rule 13a-14(a) / 15d-14(a) Certifications 32 Section 1350 Certifications
(b) Reports on Form 8-K
Form 8-K filed October 20, 2003 pursuant to Item 12 of that form.
SIGNATURES
Pursuant to the requirements of Section 13 or 15(d) of the Securities Exchange Act of 1934, the Registrant has caused this Report to be signed on its behalf by the undersigned, thereunto duly authorized.
Peoples Bancorporation, Inc.
Dated: March 25, 2004 By: s/Robert E. Dye ------------------------------------ Robert E. Dye Chairman of the Board, President and Chief Executive Officer
Dated: March 19, 2004 By: s/William B. West ------------------------------------ William B. West Senior Vice President (Principal Financial and Principal Accounting Officer)
Pursuant to the requirements of the Securities Exchange Act of 1934, this Report has been signed below by the following persons on behalf of the Registrant and in the capacities and on the dates indicated:
Signature Title Date
s/ F. Davis Arnette, Jr. Director March 22, 2004 - ------------------------------------- F. Davis Arnette, Jr.
s/ Garnet A. Barnes Director March 25, 2004 - ------------------------------------- Garnet A. Barnes
s/ James A. Black, Jr. Director March 25, 2004 - ------------------------------------- James A. Black, Jr.
s/ William A. Carr Director March 20, 2004 - ------------------------------------- William A. Carr
s/ Charles E. Dalton Director March 25, 2004 - ------------------------------------- Charles E. Dalton
s/ Robert E. Dye President, Chief March 25, 2004 - ------------------------------------- Executive Officer Robert E. Dye and Director
s/ Robert E. Dye, Jr. Director March 23, 2004 - ------------------------------------- Robert E. Dye, Jr.
s/ W. Rutledge Galloway Director March 26, 2004 - ------------------------------------- W. Rutledge Galloway
s/ David C. King Director March 22, 2004 - ------------------------------------- David C. King
s/ Andrew M. McFall, III Director March 22, 2004 - ------------------------------------- Andrew M. McFall, III
s/ E. Smyth McKissick, III Director March 26, 2004 - ------------------------------------- E. Smyth McKissick, III
s/ Eugene W. Merritt, Jr. Director March 20, 2004 - ------------------------------------- Eugene W. Merritt, Jr.
s/ George B. Nalley, Jr. Director March 26, 2004 - ------------------------------------- George B. Nalley, Jr.
s/ Larry D. Reeves Director March 19, 2004 - ------------------------------------- Larry D. Reeves
s/ R. Riggie Ridgeway Secretary, March 19, 2004 - ------------------------------------- R. Riggie Ridgeway Treasurer and Director
s/ Nell W. Smith Director March 23, 2004 - ------------------------------------- Nell W. Smith
s/ A. J. Thompson, Jr., M.D. Director March 22, 2004 - ------------------------------------- A. J. Thompson, Jr., M. D.
s/ William B. West Director March 19, 2004 - ------------------------------------- William B. West
EXHIBIT INDEX
Exhibit No. Description of Exhibit
3(i) Articles of Incorporation as amended (incorporated by reference to exhibits to Registrant's Registration Statement on Form 8-A).
3(ii) Bylaws (incorporated by reference to exhibits to Registrant's Registration Statement on Form 8-A).
4.1 Specimen Common Stock Certificate (incorporated by reference to exhibits to Registrant's Registration Statement on Form S-4 (Number 33-46649)).
10.2 Peoples Bancorporation, Inc. 1993 Incentive Stock Option Plan (incorporated by reference to exhibits to Registrant's Registration Statement on Form SB-1 (Number 33-78602)).
10.3 Non-competition, Severance and Employment Agreement entered into between the Company and Robert E. Dye, Sr. (incorporated by reference to exhibits to Registrant's Annual Report on Form 10-KSB for the year ended December 31, 1995).
10.4 Non-competition, Severance and Employment Agreement entered into between the Company and R. Riggie Ridgeway (incorporated by reference to exhibits to Registrant's Annual Report on Form 10-KSB for the year ended December 31, 1995).
10.5 Peoples Bancorporation, Inc 1997 Non-Employee Director Stock Option Plan (incorporated by reference to exhibits to Registrant's Form 10-KSB for the year ended December 31, 1997).
10.6 Salary Continuation Agreement between The Peoples National Bank and Robert E. Dye, Sr., dated July 7, 1998, as amended (incorporated by reference to exhibits to Registrant's Form 10-K for the year ended December 31, 2002).
10.7 Salary Continuation Agreement between The Peoples National Bank and Ralph R. Ridgeway, dated July 7, 1998, as amended (incorporated by reference to exhibits to Registrant's Form 10-K for the year ended December 31, 2002).
10.8 Non-competition, Severance and Employment Agreement entered into between the Company and each of William B. West, David C. King and F. Davis Arnette, Jr. (incorporated by reference to exhibits to Registrant's Form 10-K for the year ended December 31, 1999).
10.9 Split Dollar Agreement between the Company and Robert E. Dye (incorporated by reference to exhibits to Registrant's Form 10-K for the year ended December 31, 2002).
10.10 Spit Dollar Agreement between the Company and Ralph R. Ridgeway (incorporated by reference to exhibits to Registrant's Form 10-K for the year ended December 31, 2002).
21. Subsidiaries of the Registrant
31.1 Rule 13a-14(a) / 15d-14(a) Certifications
31.2 Rule 13a-14(a) / 15d-14(a) Certifications
32 Section 1350 Certifications