10-Q 1 q022.txt UNITED STATES SECURITIES AND EXCHANGE COMMISSION Washington, D.C. 20549 FORM 10-Q (Mark One) [ X ] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 For the quarterly period ended June 30, 2002 or [ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 For the transition period from ____________________ to ___________________ Commission File Number: 33-96358 BOURBON BANCSHARES, INC. (Exact name of registrant as specified in its charter) Kentucky 61-0993464 (State or other jurisdiction of (I.R.S. Employer Identification No.) incorporation or organization) P.O. Box 157, Paris, Kentucky 40362-0157 (Address of principal executive offices) (Zip Code) Registrant's telephone number, including area code: (859)987-1795 Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes X No _____ Number of shares of Common Stock outstanding as of July 31, 2002: 2,775,935. BOURBON BANCSHARES, INC. Table of Contents Part I - Financial Information Item 1. Financial Statements Consolidated Balance Sheets 3 Consolidated Statements of Income and Comprehensive Income 4 Consolidated Statements of Changes in Stockholders' Equity 6 Consolidated Statements of Cash Flows 7 Notes to Consolidated Financial Statements 9 Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations 12 Item 3. Quantitative and Qualitative Disclosures About Market Risk 19 Part II - Other Information 21 Signatures 22 Exhibits 11 Earnings Per Share Calculation 23 99.1 Certification of Chief Executive Officer pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002. 24 99.2 Certification of Chief Financial Officer pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002. 25 Item 1 - Financial Statements BOURBON BANCSHARES, INC. CONSOLIDATED BALANCE SHEETS (unaudited) (thousands) 6/30/2002 12/31/2001 Assets Cash and due from banks $ 9,468 $ 15,229 Federal funds sold 212 14,409 Cash and cash equivalents 9,680 29,638 Investment securities: Available for sale 86,265 75,608 Held to maturity - Mortgage loans held for sale 531 2,343 Loans 282,731 273,173 Allowance for loan losses (3,840) (3,386) Net loans 278,891 269,787 Federal Home Loan Bank stock 3,935 3,846 Bank premises and equipment, net 10,187 10,505 Interest receivable 3,312 3,507 Intangible assets 1,264 1,406 Other assets 800 617 Total assets $ 394,865 $ 397,257 Liabilities and Stockholders' Equity Deposits Non-interest bearing $ 50,527 $ 47,623 Time deposits, $100,000 and over 36,958 41,672 Other interest bearing 213,846 219,620 Total deposits 301,331 308,915 Securities sold under agreements to repurchase 2,067 683 Federal Funds Purchased - - Other borrowed funds 4,322 919 Federal Home Loan Bank advances 42,452 43,598 Interest payable 1,894 2,815 Other liabilities 1,503 1,227 Total liabilities 353,569 358,157 Stockholders' equity Common stock 6,775 6,649 Retained earnings 33,203 31,703 Accumulated other comprehensive income 1,318 748 Total stockholders' equity 41,296 39,100 Total liabilities & stockholders' equity $ 394,865 $ 397,257 BOURBON BANCSHARES, INC. CONSOLIDATED STATEMENT OF INCOME AND COMPREHENSIVE INCOME (unaudited) (thousands, except per share amounts) Six Months Ending 6/30/2002 6/30/2001 INTEREST INCOME: Loans, including fees $ 10,369 $ 12,181 Investment securities 1,909 1,939 Other 102 220 Total interest income 12,380 14,340 INTEREST EXPENSE: Deposits 3,825 6,137 Other 1,191 994 Total interest expense 5,016 7,131 Net interest income 7,364 7,209 Loan loss provision 702 384 Net interest income after provision 6,662 6,825 OTHER INCOME: Service charges 1,913 1,852 Loan service fee income 112 134 Trust department income 177 182 Investment securities gains (losses), net 181 75 Gain on sale of mortgage loans 169 156 Other 474 352 Total other income 3,026 2,751 OTHER EXPENSES: Salaries and employee benefits 3,323 2,973 Occupancy expenses 943 904 Amortization of intangibles 205 208 Advertising and marketing 150 215 Taxes other than payroll, property and income 200 175 Other 1,255 1,231 Total other expenses 6,076 5,706 Income before taxes 3,612 3,870 Income taxes 1,095 1,151 Net income $ 2,517 $ 2,719 Other Comprehensive Income, net of tax: Change in Unrealized Gains on Securities 570 638 Comprehensive Income $ 3,087 $ 3,357 Earnings per share Basic $ 0.91 $ 0.97 Diluted 0.90 0.95 BOURBON BANCSHARES, INC. CONSOLIDATED STATEMENT OF INCOME AND COMPREHENSIVE INCOME (unaudited) (thousands, except per share amounts) Three Months Ending 6/30/2002 6/30/2001 INTEREST INCOME: Loans, including fees $ 5,133 $ 6,054 Investment securities 985 952 Other (14) (23) Total interest income 6,104 6,983 INTEREST EXPENSE: Deposits 1,816 2,949 Other 593 520 Total interest expense 2,409 3,469 Net interest income 3,695 3,514 Loan loss provision 501 192 Net interest income after provision 3,194 3,322 OTHER INCOME: Service charges 1,010 1,032 Loan service fee income 55 66 Trust department income 79 81 Investment securities gains (losses), net 142 57 Gain on sale of mortgage loans 87 81 Other 275 300 Total other income 1,648 1,617 OTHER EXPENSES: Salaries and employee benefits 1,686 1,499 Occupancy expenses 462 451 Amortization of intangibles 104 104 Advertising and marketing 75 108 Taxes other than payroll, property and income 101 87 Other 660 631 Total other expenses 3,088 2,880 Income before taxes 1,754 2,059 Income taxes 533 621 Net income $ 1,221 $ 1,438 Other Comprehensive Income, net of tax: Change in Unrealized Gains on Securities 558 (11) Comprehensive Income $ 1,779 $ 1,427 Earnings per share Basic $ 0.44 $ 0.51 Diluted 0.44 0.50 BOURBON BANCSHARES, INC.
CONSOLIDATED STATEMENTS OF CHANGES IN STOCKHOLDERS' EQUITY (unaudited) (thousands, except number of shares) Accumulated Other Total ----Common Stock---- Retained Comprehensive Stockholders' Shares Amount Earnings Income Equity Balances, December 31, 2001 2,766,917 $ 6,649 $ 31,703 $ 748 $ 39,100 Common stock issued 12,194 135 - - 135 Common stock purchased (5,016) (9) (75) - (84) Net change in unrealized gain (loss) on securities available for sale, net of tax - - - 570 570 Net income - - 2,517 - 2,517 Dividends declared - $0.34 per share - - (942) - (942) Balances, June 30, 2002 2,774,095 $ 6,775 $ 33,203 $ 1,318 $ 41,296
BOURBON BANCSHARES, INC. CONSOLIDATED STATEMENTS OF CASH FLOWS (unaudited) (thousands) Six Months Ending 6/30/2002 6/30/2001 Cash Flows From Operating Activities Net Income $ 2,517 $ 2,719 Adjustments to reconcile net income to net cash provided by operating activities: Depreciation 503 482 Amortization 205 208 Investment securities amortization (accretion), net 192 (14) Provision for loan losses 702 384 Investment securities gains (losses), net (181) (76) Originations of loans held for sale (9,898) (12,226) Proceeds from sale of loans 11,879 11,178 Federal Home Loan Bank Stock Dividends (89) (130) Gain on sale of mortgage loans (169) (156) Losses (gains), including write-downs, on real estate acquired through foreclosure, net (5) (10) Changes in: Interest receivable 195 389 Other assets (619) 98 Interest payable (921) (1,126) Other liabilities 41 (335) Net cash from operating activities 4,352 1,385 Cash Flows From Investing Activities Purchases of securities available for sale (29,959) (28,513) Proceeds from sales of securities available for sale 12,348 6,239 Proceeds from principal payments, maturities and calls of securities available for sale 7,807 21,539 Net change in loans (9,806) (1,549) Purchases of bank premises and equipment, net (185) (1,407) Proceeds from the sale of bank premises and equipment Proceeds from real estate acquired through foreclosure 319 - Net cash from investing activities (19,476) (3,691) Cash Flows From Financing Activities: Net change in deposits (7,584) (8,193) Net change in securities sold under agreements to repurchase and other borrowings 4,787 (4,566) Advances from Federal Home Loan Bank 4,250 15,000 Payments on Federal Home Loan Bank advances (5,396) (127) Proceeds from issuance of common stock 135 39 Purchase of common stock (84) (555) Dividends paid (942) (839) Net cash from financing activities (4,834) 759 Net change in cash and cash equivalents (19,958) (1,547) Cash and cash equivalents at beginning of period 29,638 15,345 Cash and cash equivalents at end of period $ 9,680 $ 13,798 BOURBON BANCSHARES, INC. CONSOLIDATED STATEMENTS OF CASH FLOWS (unaudited) (thousands) Three Months Ending 6/30/2002 6/30/2001 Cash Flows From Operating Activities Net Income $ 1,221 $ 1,438 Adjustments to reconcile net income to net cash provided by operating activities: Depreciation 247 240 Amortization 104 104 Investment securities amortization (accretion), net 89 4 Provision for loan losses 501 192 Investment securities gains (losses), net (142) (57) Originations of loans held for sale (4,566) (7,191) Proceeds from sale of loans 5,252 5,668 Federal Home Loan Bank Stock Dividends (46) (66) Gain on sale of mortgage loans (87) (81) Losses (gains), including write-downs, on real estate acquired through foreclosure, net - (14) Changes in: Interest receivable (139) 69 Other assets (291) (113) Interest payable (387) (874) Other liabilities (257) (180) Net cash from operating activities 1,499 (861) Cash Flows From Investing Activities Purchases of securities available for sale (9,718) (25,258) Proceeds from sales of securities available for sale 10,297 6,131 Proceeds from principal payments, maturities and calls of securities available for sale 2,010 13,201 Net change in loans (10,276) (3,141) Purchases of bank premises and equipment, net (96) (706) Proceeds from real estate acquired through foreclosure 247 - Net cash from investing activities (7,536) (9,773) Cash Flows From Financing Activities: Net change in deposits (2,503) (4,958) Net change in securities sold under agreements to repurchase and other borrowings 3,231 1,092 Advances from Federal Home Loan Bank 4,250 10,000 Payments on Federal Home Loan Bank advances (4,811) (58) Proceeds from issuance of common stock 106 9 Purchase of common stock - (271) Dividends paid (472) (418) Net cash from financing activities (199) 5,396 Net change in cash and cash equivalents (6,236) (5,238) Cash and cash equivalents at beginning of period 15,916 19,036 Cash and cash equivalents at end of period $ 9,680 $ 13,798 BOURBON BANCSHARES, INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS 1. In Management's opinion, the financial information, which is unaudited, reflects all adjustments, (consisting solely of normal recurring adjustments) necessary for a fair presentation of the financial information as of June 30, 2002 and December 31, 2001, and for the six and three month periods ended June 30, 2002 and June 30, 2001 in conformity with accounting principles generally accepted in the United States of America. These financial statements should be read in conjunction with Bourbon Bancshares, Inc. (Company) Annual Report on Form 10-K. 2. GOODWILL AND OTHER INTANGIBLE ASSETS Original Accumulated Amount Amortization Core deposit intangible $2,890,404 $2,087,287 Amortization expense for the first six months of 2002 was $139,734. Estimated amortization expense for the next five years is: 2002 - $279,468; 2003 - $279,468; 2004 - $198,895; 2005 - $19,140; and 2006 - $19,140. There are no Intangible assets not subject to amortization. 3. INVESTMENT SECURITIES Period-end securities are as follows: (in thousands) Amortized Unrealized Unrealized Fair Cost Gains Losses Value Available for Sale June 30, 2002 U.S. Treasury $ 5,035 $ 86 $ - $ 5,121 U.S. government agencies 6,983 100 - 7,083 States and political subdivisions 28,746 774 (125) 29,395 Mortgage-backed 33,854 681 (3) 34,532 Equity securities 6,607 385 (4) 6,988 Other 3,043 103 - 3,146 Total 84,268 2,129 (132) 86,265 December 31, 2001 U.S. Treasury $ 7,079 $ 139 $ (1) $ 7,217 U.S. government agencies 5,999 119 - 6,118 States and political subdivisions 19,067 574 (171) 19,470 Mortgage-backed 28,818 351 (112) 29,057 Equity securities 10,463 255 (25) 10,693 Other 3,048 33 (28) 3,053 Total 74,474 1,471 (337) 75,608 4. LOANS Loans at period-end are as follows: (in thousands) 6/30/2002 12/31/2001 Commercial $ 17,137 $ 18,618 Real estate construction 13,349 12,302 Real estate mortgage 176,955 166,323 Agricultural 56,260 53,640 Consumer 19,030 22,290 Total 282,731 273,173 5. Basic earnings per common share is net income divided by the weighted average number of common shares outstanding during the period. Diluted earnings per common share includes the dilutive effect of additional potential common shares issuable under stock options. The factors used in the earnings per share computation follow: Six Months Ended June 30 2002 2001 (in thousands) Basic Earnings Per Share Net Income $2,517 $2,719 Weighted average common shares outstanding 2,767 2,800 Basic earnings per share $ 0.91 $ 0.97 Diluted Earnings Per Share Net Income $2,517 $2,719 Weighted average common shares outstanding 2,767 2,800 Add dilutive effects of assumed exercise of stock options 39 49 Weighted average common and dilutive Potential common shares outstanding 2,806 2,849 Diluted earnings per share $ 0.90 $ 0.95 Stock options for 4,720 shares (for the period ended June 30, 2002) and 600 shares (for the period ended June 30, 2001) of common stock were not considered in computing earnings per share because they were antidilutive. Three Months Ended June 30 2002 2001 (in thousands) Basic Earnings Per Share Net Income $1,221 $1,438 Weighted average common shares outstanding 2,767 2,796 Basic earnings per share $ 0.44 $ 0.51 Diluted Earnings Per Share Net Income $1,221 $1,438 Weighted average common shares outstanding 2,767 2,796 Add dilutive effects of assumed exercise of stock options 40 49 Weighted average common and dilutive Potential common shares outstanding 2,807 2,845 Diluted earnings per share $ 0.44 $ 0.50 Stock options for 600 shares (for the quarter ended June 30, 2001) of common stock were not considered in computing earnings per share because they were antidilutive. 6. Dividends per share paid for the quarter ended June 30, 2002 were $0.17 compared to $0.15 for June 30, 2001. This is the same rate of dividend paid for the first quarters of the respective years. 7. Beginning January 1, 2001, a new accounting standard requires all derivatives to be recorded at fair value. Unless designated as hedges, changes in these fair values will be recorded in the income statement. Fair value changes involving hedges will generally be recorded by offsetting gains and losses on the hedge and on the hedged item, even if the fair value of the hedged item is not otherwise recorded. The Company periodically enters into non-exchange traded mandatory forward sales contracts in conjunction with its mortgage banking operation. These contracts, considered derivatives, typically last 90 days and are used to hedge the risk of interest rate changes between the time of the commitment to make a loan to a borrower at a stated rate and when the loan is sold. The Company did not have any mandatory forward sales contracts at June 30, 2002. As allowed in conjunction with the adoption of this standard, the Company transferred its entire securities held to maturity portfolio to available for sale. As a result of this transfer and the corresponding adjustment to fair value, on January 1, 2001 securities increased $407,000, other assets decreased $138,000, and accumulated other comprehensive income increased $269,000. A new accounting standard requires all business combinations to be recorded using the purchase method of accounting for any transaction initiated after June 30, 2001. Under the purchase method, all identifiable tangible and intangible assets and liabilities of the acquired company must be recorded at fair value at date of acquisition, and the excess of cost over fair value of net assets acquired is recorded as goodwill. Identifiable intangible assets must be separated from goodwill. Identifiable intangible assets with finite useful lives will be amortized under the new standard, whereas goodwill, both amounts previously recorded and future amounts purchased, will cease being amortized starting in 2002. Annual impairment testing will be required for goodwill with impairment being recorded if the carrying amount of goodwill exceeds its implied fair value. All recorded acquistion intangibles are identified with specific assets. There are no intangible assets identified as goodwill. Adoption of this standard on January 1, 2002 did not have a material effect on the Company's financial statements. Item 2 - MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS Forward-Looking Statements This discussion contains forward-looking statements under the Private Securities Litigation Reform Act of 1995 that involve risks and uncertainties. Words such as "believes," "anticipates," "expects," "intends," "plans," "targeted," and similar expressions are intended to identify forward-looking statements but are not the exclusive means of identifying such statements. Although the Company believes that the assumptions underlying the forward-looking statements contained herein are reasonable, any of the assumptions could be inaccurate, and therefore, there can be no assurance that the forward-looking statements included herein will prove to be accurate. Factors that could cause actual results to differ from the results discussed in the forward-looking statements include, but are not limited to: economic conditions (both generally and more specifically in the markets, including the tobacco market, in which the Company and its bank operate); competition for the Company's customers from other providers of financial and mortgage services; government legislation and regulation (which changes from time to time and over which the Company has no control); changes in interest rates (both generally and more specifically mortgage interest rates); material unforeseen changes in the liquidity, results of operations, or financial condition of the Company's customers; and other risks detailed in the Company's filings with the Securities and Exchange Commission, all of which are difficult to predict and many of which are beyond the control of the Company. The Company undertakes no obligation to republish revised forward-looking statements to reflect events or circumstances after the date hereof or to reflect the occurrence of unanticipated events. Summary Bourbon Bancshares, Inc. recorded net income of $2.5 million, or $0.91 basic earnings per share and $0.90 diluted earnings per share for the first six months ended June 30, 2002 compared to $2.7 million, or $0.97 basic earnings per share and $0.95 diluted earnings per share for the six month period ending June 30, 2001. The first six months reflects a decrease in net income of 7.4%. For the three month period ending June 30, 2002, net income was $1.2 million ($0.44 basic earnings and diluted earnings per share) compared to $1.4 million ($0.51 basic earnings per share and $0.50 diluted earnings per share) for the same period in 2001. This was a decrease in net income of 15.1%. Return on average assets was 1.27% for the six months ending June 30, 2002 and 1.44% for the same time period in 2001, a decrease of 12%. Return on average assets was 1.22% for the three months ended June 30, 2002 compared to 1.51% for the same time period in 2001, a decrease of 19%. Return on average equity was 12.6% for the six month period ended June 30, 2002 and 14.7% for the same period in 2001 (a decrease of 14%). Return on average equity was 12.1% and 15.4% for the three months ended June 30, 2002 and 2001, respectively, a decrease of 21%. Loans increased $9.5 million from $273.2 million on December 31, 2001 to $282.7 million on June 30, 2002. An increase of $10.6 million in real estate mortgage loans, and a smaller increase in real estate construction and agricultural loans were offset by a decrease in commercial and consumer loans. Management attributes the continued increase in loans primarily to low interest rates. The increased loan demand and leveling of interest rates have contributed to increases in net interest income. Total deposits decreased from $308.9 million on December 31, 2001 to $301.3 million on June 30, 2002, a decrease of $7.6 million. The decrease is mainly attributable to time deposits of $100,000 and more decreasing $4.7 million and other interest bearing deposits decreasing $5.8 million. This was partially offset by an increase in non-interest bearing deposits of $2.9 million. The decline in total deposits is primarily attributable to our decision to be less aggressive in our deposit gathering activities. Net Interest Income Net interest income was $7.4 million for the six months ending June 30, 2002 and $7.2 million for the six months ending June 30, 2001, resulting in an increase of $155 thousand. Net interest income was $3.7 million for the three months ending June 30, 2002 and $3.5 million for the three months ending June 30, 2001, resulting in an increase of $181 thousand or 5%. The interest spread was 3.89% for the first six months of 2002 compared to 4.01% for the same period in 2001, a decrease of 13 basis points. The Federal Reserve has dropped the discount rate from 6% at December 31, 2000 to the current rate of 1.25% (last changed December, 2001). These decreases have had a short term effect on net interest income. However, as our interest rate shock simulation model that follows shows, changes in interest rates are expected to have a minor effect on net interest income. Therefore the decline in net interest margin is believed to be temporary. In the short-term, increases in rates should have a positive effect on net interest income For the first six months, the yield on assets decreased from 8.30% in 2001 to 6.72% in 2002. The cost of liabilities decreased from 4.29% in 2001 to 2.84% in 2002. Rates have leveled during the first six months of 2002 and have caused the yield on assets and the cost of liabilities to also level during 2002. Year to date average loans are up $3.4 million, or 1.3% from June 30, 2001 to June 30, 2002, and loan interest income has decreased $1.8 million for the first six months of 2002 compared to the first six months of 2001. Year to date average deposits also increased from June 30, 2001 to June 30, 2002, up $10.1 million, or 3.4%. Deposit interest expense has decreased $2.3 million for the first six months of 2002 compared to the same period in 2001. For the three months ending June 30, the yield on assets decreased from 8.16% in 2001 to 6.65% in 2002. The cost of liabilities decreased from 4.12% in 2001 to 2.71% in 2002, primarily due to the decrease in rates in 2001. Loan interest income has decreased $921 thousand for the first six months of 2002 compared to the first six months of 2001. Deposit interest expense has decreased $1.1 million for the first six months of 2002 compared to the same period in 2001. Declining rates in 2001 have resulted in tighter margins in 2002. However, the balance sheet growth has resulted in net interest income increasing $155 thousand for the first six months of 2002 compared to the same period in 2001, and increasing $181 thousand for the three months ending June 30, 2002 compared to June 30, 2001. Increasing loan demand and the widening on net interest margins are both factors contributing to an increase in net interest income during the second quarter. The banking industry continues to battle competition for loan and deposit dollars, and this trend is expected to continue. Non-Interest Income Non-interest income increased $275 thousand for the six month period ended June 30, 2002 from $2.7 million to $3.0 million. An increase of $61 thousand in service charges from the first six months of 2001 to the comparable 2002 period is mainly attributable to an increase in checking overdraft charges of $72 thousand and net proceeds from title insurance of $55 thousand. Title insurance sales began in April 2001. Checking account service charges decreased $50 thousand, mainly a result of the "free" checking product. Overdraft income increased principally due to the implementation of a new "Kentucky Courtesy" overdraft program. "Kentucky Courtesy" is available to qualified customers, and is an overdraft protection service that pays checks up to the "Kentucky Courtesy" limit. Investment securities net gains were $106 thousand greater for the first six months of 2002 compared to the same period in 2001. Net gains from sale of securities were mainly attributable to municipal securities being called at premiums before their maturity, the sale of U.S. Treasury Notes, and the sale of various stocks. U.S. Treasury Notes are sold before maturity when the total return (gain and net interest) can be improved. Non-interest income increased $31 thousand for the three month period ended June 30 to $1.6 million in 2002. This was mainly attributable to an increase in net security gains of $85 thousand. The gain on sale of mortgage loans increased $13 thousand during the first six months of 2002 compared to the same 2001 period. The increase for the three months ending June 30, 2002 compared to 2001 was $6 thousand. Decreasing rates result in an increase in loan originations and refinances. Volume of loan originations and sales are inverse to rate changes. Rates fell during 2001 and as a result, had a favorable impact on our loan sales in 2001. Due to the stabilizing of interest rates, income from the sale of loans may be lower in 2002 compared to 2001. The increase in other income of $122 thousand in the first six months of 2002 as compared to the same time period in 2001 is primarily a result of an increase in brokerage fee income of $110 thousand. The increase in other income for the three month period ended June 30, 2002 was $31 thousand. We continue to promote the use of our brokerage services to better serve our customers' financial needs. Non-Interest Expense The increase of $370 thousand in non-interest expenses from $5.7 million for the six months ended June 30, 2001 to $6.1 million for the same period in 2002 was a result of several factors. Salaries and benefits increased $350 thousand for the first six months of 2002 compared to 2001, an increase of 12%. For the three months ended June 30, 2002, salaries and benefits increased $187 thousand. The increase is due to annual salary increases and increased staffing. Staffing has mainly been increased in branches to better serve our customers, and more specifically the opening of a full service branch in Cynthiana, Kentucky in October 2001. Salaries, excluding bonuses and incentives, increased 9% from the first six months of 2001 to the first six months of 2002. Employee benefits increased $88 thousand and incentives increased $63 thousand during these comparable periods. Occupancy expense increased $39 thousand to $943 thousand for the first six months of 2002 compared to first six months of 2001. The increase for the three months ended June 30, 2002 over the same period in 2001 was $11 thousand. Depreciation increased $21 thousand during for the first six months ending June 30, 2002 compared to same period in 2001. Renovation of existing facilities and the purchase of hardware and software for recent technological advances have added to the depreciation expense. The construction of a new full service facility in Cynthiana was completed and opened for business on October 1, 2001. Construction is planned on a new full service branch in Georgetown, and is expected to begin in the third quarter of 2002. This facility will replace the Paris Pike Branch, and is expected to be complete in the first half of 2003. These increases are a result of the Company's continued emphasis on improving and maintaining its facilities, and to stay current with our technology. Advertising and marketing costs decreased $65 thousand to $150 thousand for the first six months of 2002 as compared to the same period in 2001. Although the costs are lower this year, continued efforts have been made by the Company to promote the name and the products of Kentucky Bank using various forms of promotional materials and selected types of media, including television. Income Taxes The tax equivalent rate for the six months ended June 30 was 30% for 2002 and for 2001. The tax equivalent rate for the three months ended June 30 was 30% for 2002 and for 2001. These rates are less than the statutory rate as a result of the tax-free securities and loans held by the Company. Stock Repurchase Program On October 25, 2000, the Company announced that its Board of Directors approved a stock repurchase program. The Company is authorized to purchase up to 100,000 shares of its outstanding common stock. Shares will be purchased from time to time in the open market depending on market prices and other considerations. Through June 30, 2002, 75,023 shares have been purchased. The repurchase program has had a positive effect on earnings per share calculations. Liquidity and Funding Liquidity risk is the possibility that the Company may not be able to meet its cash requirements. Management of liquidity risk includes maintenance of adequate cash and sources of cash to fund operations and meeting the needs of borrowers, depositors and creditors. Excess liquidity has a negative impact on earnings as a result of the lower yields on short-term assets. Cash and cash equivalents were $9.7 million as of June 30, 2002 compared to $29.6 million at December 31, 2001. The decrease in cash and cash equivalents is mainly attributable to a decrease in federal funds sold. The balance decreased $20 million since the end of the year, mainly attributable to this money being used to purchase investment securities. In addition to cash and cash equivalents, the securities portfolio provides an important source of liquidity. Total investment securities available for sale totaled $86.3 million at June 30, 2002. The available for sale securities are available to meet liquidity needs on a continuing basis. The Company maintains a relatively stable base of customer deposits, which is expected to be adequate to meet its funding demands. In addition, management believes the majority of its $100,000 or more certificates of deposit are no more volatile than its core deposits. Generally, the Company relies upon net cash inflows from financing activities, supplemented by net cash inflows from operating activities, to provide cash used in its investing activities. As is typical of many financial institutions, significant financing activities include deposit gathering, and the use of short-term borrowings, such as federal funds purchased and securities sold under repurchase agreements along with long-term debt. The Company's primary investing activities include purchasing investment securities and loan originations. Management believes there is sufficient cash flow from operations to meet investing and liquidity needs related to reasonable borrower, depositor and creditor needs in the present economic environment. Management is aware of the potential problem of funding sustained loan growth. Therefore, in addition to deposits, other sources of funds, such as Federal Home Loan Bank (FHLB) advances may be used. The Company relies on FHLB advances for both liquidity and asset/liability management purposes. These advances are used primarily to fund long-term fixed rate residential mortgage loans. As of June 30, 2002, we have sufficient collateral to borrow an additional $32 million from the FHLB. In addition, as of June 30, 2002 over $57 million is available in overnight borrowing through various correspondent banks. In light of this, management believes there is sufficient liquidity to meet all reasonable borrower, depositor and creditor needs in the present economic environment. Non-Performing Assets As of June 30, 2002, the Company's non-performing assets totaled $2.8 million or 1.0% of loans compared to $2.2 million or 0.8% of loans at December 31, 2001. (See table below) The increase in non-accrual loans is mainly attributable to a large commercial loan customer with indebtedness of $1.2 million. Additional loan loss provisions were made to include the potential loss on this loan. Real estate loans composed 43% and 75% of the non- performing loans as of June 30, 2002 and December 31, 2001, respectively. Forgone interest income on the non-accrual loans for both 2002 and 2001 is immaterial. Nonperforming Assets 6/30/02 12/31/01 (in thousands) Non-accrual Loans $ 1,958 $ 935 Accruing Loans which are Contractually past due 90 days or more 830 1,228 Restructured Loans - - Total Nonperforming and Restructured 2,788 2,163 Other Real Estate 227 212 Total Nonperforming and Restructured Loans and Other Real Estate $ 3,015 $ 2,375 Nonperforming and Restructured Loans as a Percentage of Loans 0.99% 0.79% Nonperforming and Restructured Loans and Other Real Estate as a Percentage of Total Assets 0.76% 0.60% Provision for Loan Losses The first six months 2002 provision for loan losses of $702 thousand is higher than the comparable 2001 period by $318 thousand. The June 30, 2002 three month provision for loan losses of $501 thousand is higher than the comparable 2001 period by $309 thousand. An increase in nonperforming loans has required management to increase the provision in order to maintain a reserve for loan losses that is representative of the risk of loss based on the quality of loans currently in the portfolio. Net charge-offs for the six month period ending June 30, 2002 were $248 thousand compared to $406 thousand for the same period in 2001. Net charge-offs for the three month period ending June 30, 2002 were $129 thousand compared to $250 thousand for the same period in 2001. These losses are mainly attributable to several small consumer loans. Future levels of charge-offs will be determined by the economic environment surrounding individual loans. Management feels the current loan loss reserve is sufficient to meet expected loan losses. Loan Losses Six Months Ended June 30 (in thousands) 2002 2001 Balance at Beginning of Period $ 3,386 $ 3,388 Amounts Charged-off: Commercial 48 63 Real Estate Construction 18 - Real Estate Mortgage 8 30 Agricultural - 8 Consumer 262 349 Total Charged-off Loans 336 450 Recoveries on Amounts Previously Charged-off: Commercial 15 2 Real Estate Construction - - Real Estate Mortgage 20 2 Agricultural 8 1 Consumer 45 39 Total Recoveries 88 44 Net Charge-offs 248 406 Provision for Loan Losses 702 384 Balance at End of Period 3,840 3,366 Loans Average 275,226 271,836 At June 30 282,731 273,420 As a Percentage of Average Loans: Net Charge-offs 0.09% 0.15% Provision for Loan Losses 0.26% 0.14% Allowance as a Percentage of Period-end Loans 1.36% 1.23% Allowance as a Multiple of Net Charge-offs 15.5 8.3 Allowance as a Percentage of Non-performing and Restructured Loans 138% 319% Loan Losses Quarter Ended June 30 (in thousands) 2002 2001 Balance at Beginning of Period $ 3,468 $ 3,424 Amounts Charged-off: Commercial 25 60 Real Estate Construction 18 - Real Estate Mortgage - 27 Agricultural - 8 Consumer 132 181 Total Charged-off Loans 175 276 Recoveries on Amounts Previously Charged-off: Commercial 1 1 Real Estate Construction - - Real Estate Mortgage 20 1 Agricultural 1 1 Consumer 24 23 Total Recoveries 46 26 Net Charge-offs 129 250 Provision for Loan Losses 501 192 Balance at End of Period 3,840 3,366 Loans Average 278,096 272,007 At June 30 282,731 273,420 As a Percentage of Average Loans: Net Charge-offs 0.05% 0.09% Provision for Loan Losses 0.18% 0.07% Allowance as a Multiple of Net Charge-offs 29.8 13.5 Item 3 - QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK Asset/Liability management control is designed to ensure safety and soundness, maintain liquidity and regulatory capital standards, and achieve acceptable net interest income. Management considers interest rate risk to be the most significant market risk. The Company's exposure to market risk is reviewed on a regular basis by the Asset/Liability Committee. Interest rate risk is the potential of economic losses due to future interest rate changes. These economic losses can be reflected as a loss of future net interest income and/or a loss of current fair market values. The objective is to measure the effect on net interest income and to adjust the balance sheet to minimize the inherent risk while at the same time maximize income. Management realizes certain risks are inherent and that the goal is to identify and minimize the risks. The primary tool used by management is an interest rate shock simulation model. The Bank has no market risk sensitive instruments held for trading purposes. The following table depicts the change in net interest income resulting from 100 and 300 basis point changes in rates. The projections are based on balance sheet growth assumptions and repricing opportunities for new, maturing and adjustable rate amounts. As of June 30, 2002 the projected percentage changes are within the Board approved limits and the Company's interest rate risk is also within Board approved limits. The projected net interest income report summarizing the Company's interest rate sensitivity as of June 30, 2002 is as follows: (dollars in thousands) PROJECTED NET INTEREST INCOME Level Change in basis points: - 300 - 100 Rates + 100 + 300 Year One (7/1/02 - 6/30/03) Interest Income $21,518 $23,957 $25,251 $26,552 $29,157 Interest Expense 6,350 8,099 9,209 10,317 12,536 Net Interest Income 15,168 15,858 16,042 16,235 16,621 PROJECTED DOLLAR INCREASE (DECREASE) FROM "LEVEL RATES" Year One (7/1/02 - 6/30/03) Interest Income $(3,733) $(1,294) N/A $ 1,301 $ 3,906 Interest Expense (2,859) (1,110) N/A 1,108 3,327 Net Interest Income (874) (184) N/A 193 579 PROJECTED PERCENTAGE INCREASE (DECREASE) FROM "LEVEL RATES" Year One (7/1/02 - 6/30/03) Interest Income -14.8% -5.1% N/A 5.2% 15.5% Interest Expense -31.0% -12.1% N/A 12.0% 36.1% Net Interest Income -5.4% -1.1% N/A 1.2% 3.6% Board approved limit >-10.0% >-4.0% N/A >-4.0% >-10.0% The projected net interest income report summarizing the Company's interest rate sensitivity as of June 30, 2001 is as follows: (dollars in thousands) PROJECTED NET INTEREST INCOME Level Change in basis points: - 300 - 100 Rates + 100 + 300 Year One (7/1/01 - 6/30/02) Interest Income $ 24,491 $ 26,698 $ 27,804 $ 28,917 $ 31,142 Interest Expense 9,691 11,473 12,525 13,508 15,464 Net Interest Income 14,800 15,225 15,279 15,409 15,678 PROJECTED DOLLAR INCREASE (DECREASE) FROM "LEVEL RATES" Year One (7/1/01 - 6/30/02) Interest Income $ (3,313) $ (1,106) N/A $ 1,113 $ 3,338 Interest Expense (2,834) (1,052) N/A 984 2,940 Net Interest Income (479) (54) N/A 129 398 PROJECTED PERCENTAGE INCREASE (DECREASE) FROM "LEVEL RATES" Year One (7/1/01 - 6/30/02) Interest Income -11.9% -4.0% N/A 4.0% 12.0% Interest Expense -22.6% -8.4% N/A 7.9% 23.5% Net Interest Income -3.1% -0.4% N/A 0.8% 2.6% Board approved limit >-10.0% >-4.0% N/A >-4.0% >-10.0% These projected changes in net interest income as of June 30, 2002 are slightly greater when compared to the projected changes in net interest income as of June 30, 2001. Projections from June 30, 2002, year one reflected a decline in net interest income of 5.4% with a 300 basis point decline compared to the 3.1% decline in 2001. The 300 basis point increase in rates reflected a 3.6% increase in net interest income in 2002 compared to 2.6% in 2001. Percentage changes in 2002 are greater when compared to 2001. Therefore, changes in interest rates should have a larger effect on net interest income. With the current lower level of interest rates, management has positioned the Company to be slightly more sensitive to rising rates, and net interest income should increase with these rising rates. Part II - Other Information Item 1. Legal Proceedings The Company is not a party to any material legal proceedings. Item 2. Changes in Securities None Item 3. Defaults upon Senior Securities None Item 4. Submission of Matters to a Vote of Security Holders The registrant's 2002 Annual Meeting of Shareholders was held May 1, 2002. Proxies were solicited by the registrant's Board of Directors. There was no solicitation in opposition to the board's nominees as listed in the proxy statement, and all of the nominees were elected by vote of the shareholders. Voting results for each nominee were as follows: Votes For Votes Withheld Henry Hinkle 2,236,891 12,720 Theodore Kuster 2,236,891 12,720 Robert G. Thompson 2,236,891 12,720 The following directors have a term of office that will continue following the Annual Meeting: William M. Arvin, James L. Ferrell, William R. Stamler and Buckner Woodford. The total number of Common Shares outstanding as of March 25, 2002, the record date for the Annual Meeting of Shareholders was 2,767,141. Item 5. Other Information None Item 6. Exhibits and Reports on Form 8-K 1. Exhibits as required by Item 601 of Regulation S-K. 11 Earnings Per Share Calculation 99.1 Certification of Chief Executive Officer pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002. 99.2 Certification of Chief Financial Officer pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002. 2. No reports on Form 8-K have been filed during the quarter for which this report is filed. SIGNATURES In accordance with the requirements of the Exchange Act, the registrant caused the report to be signed on its behalf by the undersigned, thereunto duly authorized. Bourbon Bancshares, Inc. Date ___8/12/02_________ __/s/Buckner Woodford____________ Buckner Woodford, President and C.E.O. Date ___8/12/02_________ __/s/Gregory J. Dawson___________ Gregory J. Dawson, Chief Financial Officer Exhibit 11 Earnings Per Share See Note 4 in Notes to Consolidated Financial Statements for computation of per share earnings. Exhibit 99.1 CERTIFICATION PURSUANT TO 18 U.S.C. SECTION 1350, AS ADOPTED PURSUANT TO SECTION 906 OF THE SARBANES-OXLEY ACT OF 2002 In connection with the Quarterly Report of Bourbon Bancshares, Inc. (the "Company") on Form 10-Q for the period ended June 30, 2002 as filed with the Securities and Exchange Commission on the date hereof (the "Report"), I, Buckner Woodford, Chief Executive Officer of the Company, certify, pursuant to 18 U.S.C. Section 1350, as adopted pursuant to section 906 of the Sarbanes- Oxley Act of 2002, that to the best of my knowledge: (1) The Report fully complies with the requirements of section 13(a) or 15(d) of the Securities Exchange Act of 1934; and (2) The information contained in the Report fairly presents, in all material respects, the financial condition and result of operations of the Company. ___/s/ Buckner Woodford_____ Chief Executive Officer August 12, 2002 Exhibit 99.2 CERTIFICATION PURSUANT TO 18 U.S.C. SECTION 1350, AS ADOPTED PURSUANT TO SECTION 906 OF THE SARBANES-OXLEY ACT OF 2002 In connection with the Quarterly Report of Bourbon Bancshares, Inc. (the "Company") on Form 10-Q for the period ended June 30, 2002 as filed with the Securities and Exchange Commission on the date hereof (the "Report"), I, Gregory J. Dawson, Chief Financial Officer of the Company, certify, pursuant to 18 U.S.C. Section 1350, as adopted pursuant to section 906 of the Sarbanes- Oxley Act of 2002, that to the best of my knowledge: (1) The Report fully complies with the requirements of section 13(a) or 15(d) of the Securities Exchange Act of 1934; and (2) The information contained in the Report fairly presents, in all material respects, the financial condition and result of operations of the Company. ___/s/ Gregory J. Dawson____ Chief Financial Officer August 12, 2002 2