EX-13 2 0002.txt 2000 ANNUAL REPORT ================================================================================ 2000 Annual Report -------------------------------------------------------------------------------- Table of Contents Farewell to Dr. Joe H. Conduff................................................1 Financial Highlights Summary..................................................3 Letter to Stockholders........................................................4 Independent Auditor's Report..................................................5 Consolidated Balance Sheets...................................................6 Consolidated Statements of Income.............................................7 Consolidated Statements of Changes in Stockholders' Equity....................8 Consolidated Statements of Cash Flows.........................................9 Notes to Consolidated Financial Statements...................................10 Management's Discussion of Financial Condition and Results of Operations.....26 Staff........................................................................42 Directors and Officers.......................................................43 Stockholder Information......................................................44 Market for the Common Stock, Stock Prices and Dividends -------------------------------------------------------------------------------- The Bank's common stock is listed with the NASDAQ Bulletin Board under the symbol CDBK. As of December 31, 2000, the Bank had issued and outstanding 511,911 shares of common stock which were held by approximately 614 stockholders of record. Set forth below are the approximate high and low (bid quotations/sales price), known to the management of the Bank, for each quarter in the last three fiscal years. 2000 1999 1998 ----------------- ------------- ----------------- High Low High Low High Low First Quarter 36 3/4 36 3/4 51 48 48 1/2 48 1/2 Second Quarter 31 31 49 43 54 50 Third Quarter 31 1/2 31 1/2 40 40 52 52 Fourth Quarter 34 34 45 44 54 51 Cash dividends paid in 2000, 1999 and 1998, were $582,014, $568,147, and $542,625, respectively. 1 ================================================================================ Farewell to Dr. Joseph H. Conduff -------------------------------------------------------------------------------- Dr. Joseph H. Conduff retired from the Board of Directors of Bank of Floyd on December 31, 2000, following 33 years of dedicated service to this community based financial institution. Dr. Conduff was elected to the Board of Directors in 1967; Vice President in 1974; President in 1988, Chairman of the Board. A lifelong resident of Floyd County, Dr. Conduff attended Roanoke College, Virginia Military Institute, the University of Richmond and graduated from the Medical College of Virginia School of Dentistry. During World War II, he served as a naval dental officer on board ship in the southwest Pacific. After returning from military service, Dr. Conduff joined his father's practice in Floyd where he had practiced dentistry for more than fifty years. He has served in various professional and civic activities in Floyd County and Southwest Virginia. Dr. Conduff and his wife Kitty are members of the Presbyterian Church of Floyd. We extend our appreciation and deepest thanks to Dr. Conduff for his many years of loyal service to our financial institution. 2 ================================================================================ Financial Highlights Summary(1) --------------------------------------------------------------------------------
2000 1999 1998 1997 1996 ----------- ----------- ----------- ----------- ----------- Summary of Operations(2) Interest income $ 11,665 $ 11,060 $ 11,269 $ 11,078 $ 10,289 Interest expense 5,982 5,603 5,797 5,681 5,307 ----------- ----------- ----------- ----------- ----------- Net interest income 5,683 5,457 5,472 5,397 4,982 Provision for loan losses 500 142 175 500 325 Other income 449 376 393 543 343 Other expense 3,307 3,076 2,970 2,934 2,823 Income taxes 499 650 781 652 594 ----------- ----------- ----------- ----------- ----------- Net income $ 1,826 $ 1,965 $ 1,939 $ 1,854 $ 1,583 =========== =========== =========== =========== =========== Per Share Data(3) Basic earnings per share $ 3.65 $ 3.84 $ 3.79 $ 3.62 $ 3.09 Cash dividends declared 1.18 1.11 1.06 1.00 .94 Book value 38.44 34.70 33.84 31.22 28.38 Year-end Balance Sheet Summary Loans, net $ 92,602 $ 87,685 $ 85,810 $ 85,305 $ 85,372 Securities 57,303 52,383 41,329 45,094 43,722 Total assets 163,240 158,140 153,410 145,072 136,422 Deposits 143,033 139,808 135,211 128,189 118,424 Stockholders' equity 19,678 17,758 17,321 15,984 14,535 Interest earning assets $ 154,883 $ 148,878 $ 147,666 $ 140,397 $ 130,458 Interest bearing liabilities 124,687 123,024 119,657 115,960 108,639 Selected Ratios Return on average assets 1.1% 1.3% 1.3% 1.3% 1.2% Return on average equity 9.8% 11.1% 11.5% 12.0% 11.6% Dividends declared as percent of net income 31.9% 28.9% 28.0% 27.7% 30.3% ----------------- (1) In thousands of dollars, except per share data. (2) Reflects Bank of Floyd operations prior to formation of Cardinal Bankshares Corporation on March 12, 1996. (3) Adjusted for the effects of a four for one stock split in 1995 and a 10% stock dividend in 1997.
3 March 23, 2001 Dear Shareholders: We are pleased to present our 2000 Annual Report to Shareholders, which reflects another good year for Cardinal Bankshares Corporation. The Cardinal Bankshares Corporation report is certified by Larrowe & Company, PLC. Net loans increased by $4,917,000 to $92,602,000. Deposit growth was also good. Total deposits reached $143,033,000, total assets exceeded $163,700,000. Net income was off slightly from 1999, however, we are still in line with peer banks. Net income amounted to $1,826,000 with a return of average assets of 1.15%. This marked the ninth year in succession we were able to increase cash dividends. Our regular dividend was increased by $.03 per share and a one-time special cash dividend of $.04 per share brought the total paid to over $604,000. During the year, we opened our fourth branch on Roanoke Street in Christiansburg, Virginia. In December 2000, we marked the retirement of Dr. J. H. Conduff. Dr. Conduff has served the Bank of Floyd and Cardinal Bankshares Corporation for thirty-three years. Our thanks and appreciation goes to Dr. Conduff for such dedication. During 2001 we will mark the 50th Anniversary of Bank of Floyd. We thank you for the support you have shown your organization over the last 50 years and ask that you continue to make Cardinal Bankshares Corporation your financial institution of choice. Leon Moore Chairman of the Board, President and Chief Executive Officer 4 Independent Auditor's Report Board of Directors and Stockholders Cardinal Bankshares Corporation Floyd, Virginia We have audited the consolidated balance sheets of Cardinal Bankshares Corporation and subsidiaries as of December 31, 2000 and 1999 and the related consolidated statements of income, changes in stockholders' equity and cash flows for each of the three years in the period ended December 31, 2000. These consolidated financial statements are the responsibility of the Company's management. Our responsibility is to express an opinion on these financial statements based on our audits. We conducted our audits in accordance with generally accepted auditing standards. Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting amounts and disclosures in the financial statements. An audit also includes assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall financial statement presentation. We believe that our audits provide a reasonable basis for our opinion. In our opinion, the consolidated financial statements referred to above present fairly, in all material respects, the financial position of Cardinal Bankshares Corporation and subsidiaries at December 31, 2000 and 1999, and the results of their operations and their cash flows for each of the three years in the period ended December 31, 2000, in conformity with generally accepted accounting principles. Galax, Virginia January 9, 2001 5 ================================================================================ Consolidated Balance Sheets December 31, 2000 and 1999 --------------------------------------------------------------------------------
Assets 2000 1999 --------------- ---------------- Cash and due from banks $ 2,631,298 $ 3,775,280 Interest-bearing deposits with banks - 2,000,000 Federal funds sold 4,475,000 6,975,000 Investment securities available for sale 37,320,415 33,213,933 Investment securities held to maturity 19,351,824 18,488,624 Restricted equity securities 630,700 630,700 Loans, net of allowance for loan losses $1,133,993 in 2000 and $1,661,521 in 1999 92,601,863 87,684,925 Property and equipment, net 2,486,648 2,444,355 Accrued income 1,288,241 1,173,115 Foreclosed assets 428,151 183,349 Other assets 2,025,775 1,571,204 --------------- ---------------- Total assets $ 163,239,915 $ 158,140,485 =============== ================ Liabilities and Stockholders' Equity Liabilities Noninterest-bearing deposits $ 18,346,247 $ 16,783,239 Interest-bearing deposits 124,687,105 123,024,425 --------------- ---------------- Total deposits 143,033,352 139,807,664 Accrued interest payable 272,507 237,075 Other liabilities 255,968 338,149 --------------- ---------------- Total liabilities 143,561,827 140,382,888 --------------- ---------------- Commitments and contingencies Stockholders' equity Common stock, $10 par value; 5,000,000 shares authorized; 511,911 and 511,771 shares issued in 2000 and 1999, respectively 5,119,110 5,117,710 Surplus 2,925,150 2,925,150 Retained earnings 11,764,483 10,514,759 Accumulated other comprehensive income (130,655) (800,022) --------------- ---------------- Total stockholders' equity 19,678,088 17,757,597 --------------- ---------------- Total liabilities and stockholders' equity $ 163,239,915 $ 158,140,485 =============== ================
See Notes to Consolidated Financial Statements 6 ================================================================================ Consolidated Statements of Income Years ended December 31, 2000, 1999, and 1998 --------------------------------------------------------------------------------
2000 1999 1998 --------------- --------------- ---------------- Interest income Loans and fees on loans $ 8,006,427 $ 7,706,722 $ 8,034,738 Federal funds sold and securities purchased under agreements to resell 275,431 479,205 476,913 Investment securities: Taxable 2,399,775 1,903,517 1,843,843 Exempt from federal income tax 959,891 773,233 625,769 Deposits with banks 23,866 197,294 288,227 --------------- --------------- ---------------- Total interest income 11,665,390 11,059,971 11,269,490 --------------- --------------- ---------------- Interest expense Deposits 5,982,589 5,603,020 5,797,887 Borrowings - - - --------------- --------------- ---------------- Total interest expense 5,982,589 5,603,020 5,797,887 --------------- --------------- ---------------- Net interest income 5,682,801 5,456,951 5,471,603 Provision for loan losses 500,000 141,721 175,000 --------------- --------------- ---------------- Net interest income after provision for loan losses 5,182,801 5,315,230 5,296,603 --------------- --------------- ---------------- Noninterest income Service charges on deposit accounts 232,631 199,928 152,001 Other service charges and fees 58,655 47,445 37,977 Net realized gains on sales of securities - 4,768 27,315 Other income 157,268 123,814 176,435 --------------- --------------- ---------------- Total noninterest income 448,554 375,955 393,728 --------------- --------------- ---------------- Noninterest expense Salaries and employee benefits 2,023,207 1,913,979 1,871,271 Occupancy 196,274 162,744 136,641 Equipment 314,546 282,646 274,861 Foreclosed assets, net 1,198 (8,928) (86,030) Other general and administrative 771,657 725,891 773,368 --------------- --------------- ---------------- Total noninterest expense 3,306,882 3,076,332 2,970,111 --------------- --------------- ---------------- Income before income taxes 2,324,473 2,614,853 2,720,220 Income tax expense 498,535 649,720 781,368 --------------- --------------- ---------------- Net income $ 1,825,938 $ 1,965,133 $ 1,938,852 =============== =============== ================ Basic earnings per share $ 3.65 $ 3.84 $ 3.79 =============== =============== ================ Weighted average shares outstanding 500,309 511,801 511,904 =============== =============== ================
See Notes to Consolidated Financial Statements 7 ================================================================================ Consolidated Statements of Changes in Stockholders' Equity Years ended December 31, 2000, 1999 and 1998 --------------------------------------------------------------------------------
Accumulated Other Common Retained Comprehensive Stock Surplus Earnings Income (Loss) Total ----- ------- -------- ------------- ----- Balance, December 31, 1997 $ 5,119,110 $ 2,925,150 $ 7,727,506 $ 212,385 $ 15,984,151 Comprehensive income Net income - - 1,938,852 - 1,938,852 Net change in unrealized appreciation on investment securities available for sale, net of taxes of $(30,525) - - - (31,938) (31,938) Reclassification adjustment - - - (27,315) (27,315) -------------- Total comprehensive income 1,879,599 Dividends paid ($1.06 per share) - - (542,625) - (542,625) Common stock purchased (2,500) - (11,000) - (13,500) Common stock reissued 2,500 - 11,000 - 13,500 ------------- ------------- -------------- ------------- -------------- Balance, December 31, 1998 5,119,110 2,925,150 9,123,733 153,132 17,321,125 Comprehensive income Net income - - 1,965,133 - 1,965,133 Net change in unrealized appreciation on investment securities available for sale, net of taxes of $(491,019) - - - (953,154) (953,154) -------------- Total comprehensive income 1,011,979 Dividends paid ($1.11 per share) - - (568,147) - (568,147) Common stock purchased (4,300) - (18,385) - (22,685) Common stock reissued 2,900 - 12,425 - 15,325 ------------- ------------- -------------- ------------- -------------- Balance, December 31, 1999 5,117,710 2,925,150 10,514,759 (800,022) 17,757,597 Comprehensive income Net income - - 1,825,938 - 1,825,938 Net change in unrealized appreciation on investment securities available for sale, net of taxes of $344,826 - - - 669,367 669,367 -------------- Total comprehensive income 2,495,305 Dividends paid ($1.18 per share) - - (582,014) - (582,014) Common stock purchased (200,640) - (584,763) - (785,403) Common stock reissued 202,040 - 590,563 - 792,603 ------------- ------------- -------------- ------------- -------------- Balance, December 31, 2000 $ 5,119,110 $ 2,925,150 $ 11,764,483 $ (130,655) $ 19,678,088 ============= ============= ============== ============= ==============
See Notes to Consolidated Financial Statements 8 ================================================================================ Consolidated Statements of Cash Flows Years ended December 31, 2000, 1999, and 1998 --------------------------------------------------------------------------------
2000 1999 1998 --------------- --------------- ---------------- Cash flows from operating activities Net income $ 1,825,938 $ 1,965,133 $ 1,938,852 Adjustments to reconcile net income to net cash provided by operations: Depreciation and amortization 240,968 190,905 176,587 Accretion of discount on securities, net of amortization of premiums 42,974 55,795 68,587 Provision for loan losses 500,000 141,721 175,000 Deferred income taxes 211,026 15,762 (82,635) Net realized (gains) losses on securities - (4,768) (27,315) Deferred compensation and pension expense (7,740) (154,782) 65,599 Changes in assets and liabilities: Accrued income (115,126) (188,658) 108,606 Other assets (998,809) (26,954) 37,336 Accrued interest payable 35,432 (3,634) (28,323) Other liabilities (74,441) (143,878) (59,198) --------------- --------------- ---------------- Net cash provided by operating activities 1,660,222 1,846,642 2,373,096 --------------- --------------- ---------------- Cash flows from investing activities Net (increase) decrease in interest-bearing deposits 2,000,000 5,100,000 (2,100,000) Net (increase) decrease in federal funds sold 2,500,000 4,850,000 (8,000,000) Purchases of investment securities (11,236,812) (27,768,647) (19,326,465) Sales of available for sale securities - 493,672 12,125 Maturities of investment securities 7,237,933 14,725,892 22,947,560 Net (increase) decrease in loans (5,672,938) (2,017,140) (679,767) Purchases of property and equipment (290,192) (721,860) (922,050) Sales of property and equipment 6,931 260,293 259,629 --------------- --------------- ---------------- Net cash used in investing activities (5,455,078) (5,077,790) (7,808,968) --------------- --------------- ---------------- Cash flows from financing activities Net increase (decrease) in noninterest-bearing deposits 1,563,008 1,229,371 3,324,701 Net increase in interest-bearing deposits 1,662,680 3,367,233 3,697,633 Dividends paid (582,014) (568,147) (542,625) Common stock purchased (785,403) (22,685) (13,500) Common stock reissued 792,603 15,325 13,500 --------------- --------------- ---------------- Net cash provided by financing activities 2,650,874 4,021,097 6,479,709 --------------- --------------- ---------------- Net increase (decrease) in cash and cash equivalents (1,143,982) 789,949 1,043,837 Cash and cash equivalents, beginning 3,775,280 2,985,331 1,941,494 --------------- --------------- ---------------- Cash and cash equivalents, ending $ 2,631,298 $ 3,775,280 $ 2,985,331 =============== =============== ================ Supplemental disclosures of cash flow information Interest paid $ 5,947,157 $ 5,606,654 $ 5,826,210 =============== =============== ================ Income taxes paid $ 389,838 $ 639,555 $ 874,869 =============== =============== ================ Supplemental disclosure of noncash investing activities Other real estate acquired in settlement of loans $ 256,000 $ - $ - =============== =============== ================
See Notes to Consolidated Financial Statements 9 ================================================================================ Notes to Consolidated Financial Statements -------------------------------------------------------------------------------- Note 1. Organization and Summary of Significant Accounting Policies Organization Cardinal Bankshares Corporation (the Company) was incorporated as a Virginia corporation on March 12, 1996 to acquire the stock of The Bank of Floyd (the Bank). The Bank was acquired by the Company on June 30, 1996. The Bank of Floyd and its wholly-owned subsidiary, FBC, Inc., are incorporated and operate under the laws of the Commonwealth of Virginia. As a state chartered Federal Reserve member, the Bank is subject to regulation by the Virginia Bureau of Financial Institutions and the Federal Reserve. The Bank serves the counties of Floyd, Carroll, Montgomery, and Roanoke, Virginia and the City of Roanoke, Virginia, through five banking offices. FBC, Inc.'s assets and operations consist primarily of annuity sales and minority interests in an insurance company and a title insurance company. The accounting and reporting policies of the Company, the Bank and FBC, Inc. follow generally accepted accounting principles and general practices within the financial services industry. Following is a summary of the more significant policies. Principles of Consolidation The consolidated financial statements include the accounts of the Company, the Bank and FBC, Inc. All material intercompany accounts and transactions are eliminated in consolidation. Business Segments The Company reports its activities as a single business segment. In determining the appropriateness of segment definition, the Company considers the materiality of the potential segment and components of the business about which financial information is available and regularly evaluated relative to resource allocation and performance assessment. Use of Estimates The preparation of financial statements in conformity with generally accepted accounting principles requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities, disclosure of contingent assets and liabilities at the date of the financial statements, and the reported amounts of revenues and expenses during the reporting period. Actual results could differ from those estimates. Material estimates that are particularly susceptible to significant change relate to the determination of the allowance for loan losses and the valuation of real estate acquired in connection with foreclosures or in satisfaction of loans. In connection with the determination of the allowances for loan and foreclosed real estate losses, management obtains independent appraisals for significant properties. The majority of the Company's loan portfolio consists of loans in Southwest Virginia. Accordingly, the ultimate collectibility of a substantial portion of the Company's loan portfolio and the recovery of a substantial portion of the carrying amount of foreclosed real estate are susceptible to changes in local market conditions. The regional economy is diverse, but is influenced by the agricultural, textile and governmental segments. While management uses available information to recognize loan and foreclosed real estate losses, future additions to the allowances may be necessary based on changes in local economic conditions. In addition, regulatory agencies, as a part of their routine examination process, periodically review the Company's allowances for loan and foreclosed real estate losses. Such agencies may require the Bank to recognize additions to the allowances based on their judgments about information available to them at the time of their examinations. Because of these factors, it is reasonably possible that the allowances for loan and foreclosed real estate losses may change materially in the near term. Cash and Cash Equivalents For purpose of presentation in the consolidated statements of cash flows, cash and cash equivalents are defined as those amounts included in the balance sheet caption "cash and due from banks." 10 ================================================================================ Notes to Consolidated Financial Statements -------------------------------------------------------------------------------- Note 1. Organization and Summary of Significant Accounting Policies, continued Trading Securities The Company does not hold securities for short-term resale and therefore does not maintain a trading securities portfolio. Securities Held to Maturity Bonds, notes, and debentures for which the Company has the positive intent and ability to hold to maturity are reported at cost, adjusted for premiums and discounts that are recognized in interest income using the interest method over the period to maturity or to call dates. Securities Available for Sale Available-for-sale securities are reported at fair value and consist of bonds, notes, debentures, and certain equity securities not classified as trading securities or as held-to-maturity securities. Unrealized holding gains and losses, net of tax, on available-for-sale securities are reported as a net amount in a separate component of stockholders' equity. Realized gains and losses on the sale of available-for-sale securities are determined using the specific-identification method. Premiums and discounts are recognized in interest income using the interest method over the period to maturity or to call dates. Declines in the fair value of individual held-to-maturity and available-for-sale securities below cost that are other than temporary are reflected as write-downs of the individual securities to fair value. Related write-downs are included in earnings as realized losses. Loans Receivable Loans receivable that management has the intent and ability to hold for the foreseeable future or until maturity or pay-off are reported at their outstanding principal amount adjusted for any charge-offs, the allowance for loan losses, and any deferred fees or costs on originated loans and unamortized premiums or discounts on purchased loans. Loan origination fees and certain direct origination costs are capitalized and recognized as an adjustment of the yield of the related loan. Discounts and premiums on any purchased residential real estate loans are amortized to income using the interest method over the remaining period to contractual maturity, adjusted for anticipated prepayments. Discounts and premiums on any purchased consumer loans are recognized over the expected lives of the loans using methods that approximate the interest method. Interest is accrued and credited to income based on the principal amount outstanding. The accrual of interest on impaired loans is discontinued when, in management's opinion, the borrower may be unable to meet payments as they become due. When interest accrual is discontinued, all unpaid accrued interest is reversed. Interest income is subsequently recognized only to the extent cash payments are received. Allowance for Loan Losses The allowance for loan losses is established as losses are estimated to have occurred through a provision for loan losses charged to earnings. Loan losses are charged against the allowance when management believes the uncollectability of a loan balance is confirmed. Subsequent recoveries, if any, are credited to the allowance. 11 ================================================================================ Notes to Consolidated Financial Statements -------------------------------------------------------------------------------- Note 1. Organization and Summary of Significant Accounting Policies, continued Allowance for Loan Losses, continued The allowance for loan losses is evaluated on a regular basis by management and is based upon management's periodic review of the collectibility of the loans in light of historical experience, the nature and volume of the loan portfolio, adverse situations that may affect the borrower's ability to repay, estimated value of any underlying collateral and prevailing economic conditions. This evaluation is inherently subjective as it requires estimates that are susceptible to significant revision as more information becomes available. A loan is considered impaired when, based on current information and events, it is probable that the Corporation will be unable to collect the scheduled payments of principal or interest when due according to the contractual terms of the loan agreement. Factors considered by management in determining impairment include payment status, collateral value, and the probability of collecting scheduled principal and interest payments when due. Loans that experience insignificant payment delays and payment shortfalls generally are not classified as impaired. Management determines the significance of payment delays and payment shortfalls on a case-by-case basis, taking into consideration all of the circumstances surrounding the loan and the borrower, including the length of the delay, the reasons for the delay, the borrower's prior payment record, and the amount of the shortfall in relation to the principal and interest owed. Impairment is measured on a loan by loan basis for commercial and construction loans by either the present value of expected future cash flows discounted at the loan's effective interest rate, the loan's obtainable market price, or the fair value of the collateral if the loan is collateral dependent. Large groups of smaller balance homogeneous loans are collectively evaluated for impairment. Accordingly, the Bank does not separately identify individual consumer and residential loans for impairment disclosures. Property and Equipment Land is carried at cost. Bank premises, furniture and equipment are carried at cost, less accumulated depreciation and amortization computed principally by the straight-line method over the following estimate useful lives: Years ----- Buildings and improvements 20-40 Furniture and equipment 5-20 Foreclosed Properties Real estate properties acquired through, or in lieu of, loan foreclosure are to be sold and are initially recorded at fair value less cost to sell at the date of foreclosure establishing a new cost basis. After foreclosure, valuations are periodically performed by management and the real estate is carried at the lower of carrying amount or fair value less cost to sell. Revenue and expenses from operations and changes in the valuation allowance are included in loss on foreclosed real estate. The historical average holding period for such properties is in excess of 36 months. Pension Plan The Bank maintains a noncontributory defined benefit pension plan covering all employees who meet eligibility requirements. To be eligible, an employee must be 21 years of age and have completed one year of service. Plan benefits are based on final average compensation and years of service. The funding policy is to contribute the maximum deductible for Federal income tax purposes. Transfers of Financial Assets Transfers of financial assets are accounted for as sales, when control over the assets has been surrendered. Control over transferred assets is deemed to be surrendered when (1) the assets have been isolated from the Bank, (2) the transferee obtains the right (free of conditions that constrain it from taking advantage of that right) to pledge or exchange the transferred assets, and (3) the Bank does not maintain effective control over the transferred assets through an agreement to repurchase them before their maturity. 12 ================================================================================ Notes to Consolidated Financial Statements -------------------------------------------------------------------------------- Note 1. Organization and Summary of Significant Accounting Policies, continued Income Taxes Provision for income taxes is based on amounts reported in the statements of income (after exclusion of non-taxable income such as interest on state and municipal securities) and consists of taxes currently due plus deferred taxes on temporary differences in the recognition of income and expense for tax and financial statement purposes. Deferred tax assets and liabilities are included in the financial statements at currently enacted income tax rates applicable to the period in which the deferred tax assets or liabilities are expected to be realized or settled. As changes in tax laws or rates are enacted, deferred taxes assets and liabilities are adjusted through the provision for income taxes. Deferred income tax liability relating to unrealized appreciation (or the deferred tax asset in the case of unrealized depreciation) on investment securities available for sale is recorded in other liabilities (assets). Such unrealized appreciation or depreciation is recorded as an adjustment to equity in the financial statements and not included in income determination until realized. Accordingly, the resulting deferred income tax liability or asset is also recorded as an adjustment to equity. Basic Earnings per Share Basic earnings per share is computed by dividing income available to common stockholders by the weighted average number of common shares outstanding during the period, after giving retroactive effect to stock splits and dividends. Diluted Earning per Share The computation of diluted earnings per share is similar to the computation of basic earnings per share except that the denominator is increased to include the number of additional common shares that would have been outstanding if dilutive potential common shares had been issued. The numerator is adjusted for any changes in income or loss that would result from the assumed conversion of those potential common shares. For the years presented, the Company has no potentially dilutive securities outstanding. Comprehensive Income Annual comprehensive income reflects the change in the Company's equity during the year arising from transactions and events other than investments by and distributions to stockholders. It consists of net income plus certain other changes in assets and liabilities that are reported as separate components of stockholders' equity rather than as income or expense. Financial Instruments All derivative financial instruments held or issued by the Company are held or issued for purposes other than trading. In the ordinary course of business the Company has entered into off-balance-sheet financial instruments consisting of commitments to extend credit and commercial and standby letters of credit. Such financial instruments are recorded in the financial statements when they are funded or related fees are incurred or received. The Bank does not utilize interest-rate exchange agreements or interest-rate futures contracts. 13 ================================================================================ Notes to Consolidated Financial Statements -------------------------------------------------------------------------------- Note 1. Organization and Summary of Significant Accounting Policies, continued Fair Value of Financial Instruments Statement of Financial Accounting Standards No. 107, Disclosures about Fair Value of Financial Instruments, requires disclosure of fair value information about financial instruments, whether or not recognized in the balance sheet. In cases where quoted market prices are not available, fair values are based on estimates using present value or other valuation techniques. Those techniques are significantly affected by the assumptions used, including the discount rate and estimates of future cash flows. In that regard, the derived fair value estimates cannot be substantiated by comparison to independent markets and, in many cases, could not be realized in immediate settlement of the instruments. Statement No. 107 excludes certain financial instruments and all nonfinancial instruments from its disclosure requirements. Accordingly, the aggregate fair value amounts presented do not represent the underlying value of the Company. The following methods and assumptions were used by the Company in estimating its fair value disclosures for financial instruments: Cash and cash equivalents: The carrying amounts reported in the balance sheet for cash and cash equivalents approximate their fair values. Interest-bearing deposits with banks: Fair values for time deposits are estimated using a discounted cash flow analysis that applies interest rates currently offered on certificates to a schedule of aggregated contractual maturities on such time deposits. Available-for-sale and held-to-maturity securities: Fair values for securities, excluding restricted equity securities, are based on quoted market prices, where available. If quoted market prices are not available, fair values are based on quoted market prices of comparable instruments. The carrying values of restricted equity securities approximate fair values. Loans receivable: For variable-rate loans that reprice frequently and with no significant change in credit risk, fair values are based on carrying amounts. The fair values for other loans are estimated using discounted cash flow analysis, based on interest rates currently being offered for loans with similar terms to borrowers of similar credit quality. Loan fair value estimates include judgments regarding future expected loss experience and risk characteristics. Fair values for impaired loans are estimated using discounted cash flow analysis or underlying collateral values, where applicable. The carrying amount of accrued interest receivable approximates its fair value. Deposit liabilities: The fair values disclosed for demand and savings deposits are, by definition, equal to the amount payable on demand at the reporting date. The fair values for certificates of deposit are estimated using a discounted cash flow calculation that applies interest rates currently being offered on certificates to a schedule of aggregated contractual maturities on such time deposits. The carrying amount of accrued interest payable approximates fair value. Short-term and long-term debt: The carrying amounts of short-term debt approximate their fair values. The fair values for long-term debt are estimated using discounted cash flow analysis, based on interest rates currently being offered for loans with similar terms. Other liabilities: For fixed-rate loan commitments, fair value considers the difference between current levels of interest rates and the committed rates. The carrying amounts of other liabilities approximates fair value. Reclassification Certain reclassifications have been made to the prior years' financial statements to place them on a comparable basis with the current year. Net income and stockholders' equity previously reported were not affected by these reclassifications. 14 ================================================================================ Notes to Consolidated Financial Statements -------------------------------------------------------------------------------- Note 2. Restrictions on Cash and Due from Banks To comply with banking regulations, the Company is required to maintain certain average cash reserve balances. The daily average cash reserve requirement was approximately $786,000 and $762,000 for the two week periods including December 31, 2000 and 1999, respectively. Note 3. Securities Debt and equity securities have been classified in the consolidated balance sheets according to management's intent. The carrying amount of securities and their approximate fair values at December 31 follow:
Amortized Unrealized Unrealized Fair 2000 Cost Gains Losses Value ---- ------------- -------------- ------------- -------------- Available for sale U.S. Government agency securities $ 16,049,846 $ 46,039 $ 92,548 $ 16,003,337 State and municipal securities 1,220,166 12,966 - 1,233,132 Mortgage-backed securities 18,760,636 130,225 290,272 18,600,589 Other securities 1,487,729 8,451 12,823 1,483,357 ------------- -------------- ------------- -------------- $ 37,518,377 $ 197,681 $ 395,643 $ 37,320,415 ============= ============== ============= ============== Held to maturity State and municipal securities $ 18,979,534 $ 268,037 $ 87,237 $ 19,160,334 Mortgaged-backed securities 372,290 2,084 - 374,374 ------------- -------------- ------------- -------------- $ 19,351,824 $ 270,121 $ 87,237 $ 19,534,708 ============= ============== ============= ============== Restricted equity securities $ 630,700 $ - $ - $ 630,700 ============= ============== ============= ============== Amortized Unrealized Unrealized Fair 1999 Cost Gains Losses Value ---- ------------- -------------- ------------- -------------- Available for sale U.S. Government agency securities $ 13,248,125 $ 2,524 $ 343,902 $ 12,906,747 State and municipal securities 559,675 - 6,350 553,325 Mortgage-backed securities 19,042,333 61,724 898,960 18,205,097 Other securities 1,575,539 3,008 29,783 1,548,764 ------------- -------------- ------------- -------------- $ 34,425,672 $ 67,256 $ 1,278,995 $ 33,213,933 ============= ============== ============= ============== Held to maturity State and municipal securities $ 18,000,647 $ 30,135 $ 383,523 $ 17,647,259 Mortgaged-backed securities 487,977 1,577 1,937 487,617 ------------- -------------- ------------- -------------- $ 18,488,624 $ 31,712 $ 385,460 $ 18,134,876 ============= ============== ============= ============== Restricted equity securities $ 630,700 $ - $ - $ 630,700 ============= ============== ============= ==============
Investment securities with amortized cost of approximately $8,500,000 and $4,700,000 at December 31, 2000 and 1999, respectively, were pledged as collateral on public deposits and for other purposes as required or permitted by law. Gross realized gains and losses for the years ended December 31, 2000, 1999 and 1998 are as follows:
2000 1999 1998 -------------- ------------- -------------- Realized gains, available for sale securities $ - $ 4,768 $ 27,358 Realized losses, available for sale securities - - (43) -------------- ------------- -------------- $ - $ 4,768 $ 27,315 ============== ============= ==============
15 ================================================================================ Notes to Consolidated Financial Statements -------------------------------------------------------------------------------- Note 3. Securities, continued The scheduled maturities of debt securities available for sale and held to maturity at December 31, 2000, were as follows:
Available for Sale Held to Maturity ------------------------------- ------------------------------- Amortized Fair Amortized Fair Cost Value Cost Value ------------- -------------- ------------- -------------- Due in one year or less $ 1,577,767 $ 1,573,850 $ 1,070,413 $ 1,070,779 Due after one year through five years 16,223,350 16,225,603 6,595,578 6,621,618 Due after five years through ten years 1,455,450 1,465,021 7,299,081 7,382,896 Due after ten years 18,261,810 18,055,941 4,386,752 4,459,415 ------------- -------------- ------------- -------------- $ 37,518,377 $ 37,320,415 $ 19,351,824 $ 19,534,708 ============= ============== ============= ==============
Note 4. Loans Receivable The major components of loans in the consolidated balance sheets at December 31, 2000 and 1999 are as follows (in thousands):
2000 1999 ------------- -------------- Commercial $ 3,250 $ 4,326 Real estate: Construction and land development 7,621 3,420 Residential, 1-4 families 29,095 24,664 Residential, 5 or more families 829 1,763 Farmland 3,877 3,767 Nonfarm, nonresidential 40,807 40,117 Agricultural 964 1,133 Consumer 5,802 6,004 Other 1,821 4,436 ------------- -------------- 94,066 89,630 Unearned net loan origination costs, net of fees (330) (283) ------------- -------------- 93,736 89,347 Allowance for loan losses (1,134) (1,662) ------------- -------------- $ 92,602 $ 87,685 ============= ==============
Note 5. Allowance for Loan Losses Changes in the allowance for loan losses are as follows:
2000 1999 1998 ------------- ------------- -------------- Balance, beginning $ 1,661,521 $ 1,668,201 $ 1,452,126 Provision charged to expense 500,000 141,721 175,000 Recoveries of amounts charged off 57,972 13,472 117,917 Amounts charged off (1,085,500) (161,873) (76,842) ------------- ------------- -------------- Balance, ending $ 1,133,993 $ 1,661,521 $ 1,668,201 ============= ============= ==============
16 ================================================================================ Notes to Consolidated Financial Statements -------------------------------------------------------------------------------- Note 5. Allowance for Loan Losses, continued The following is a summary of information pertaining to impaired loans at December 31:
2000 1999 --------------- ---------------- Impaired loans without a valuation allowance $ 31,388 $ - Impaired loans with a valuation allowance 1,198,067 3,105,966 --------------- ---------------- Total impaired loans $ 1,229,455 $ 3,105,966 =============== ================ Valuation allowance related to impaired loans $ 448,119 $ 664,287 =============== ================ 2000 1999 1998 ---------------- --------------- ---------------- Average investment in impaired loans $ 1,100,376 $ 1,130,732 $ 847,271 ================ =============== ================ Interest income recognized for the year $ 97,728 $ 204,905 $ 103,056 ================ =============== ================ Interest income recognized on a cash basis for the year $ 98,925 $ 170,798 $ 87,764 ================ =============== ================
The Company is not committed to lend additional funds to debtors whose loans have been modified. Note 6. Property and Equipment Components of property and equipment and total accumulated depreciation at December 31, 2000 and 1999, are as follows:
2000 1999 ------------- -------------- Land $ 377,612 $ 377,612 Bank premises 2,654,830 2,630,155 Furniture and equipment 1,998,186 1,739,600 ------------- -------------- 5,030,628 4,747,367 Less accumulated depreciation (2,543,980) (2,303,012) ------------- -------------- $ 2,486,648 $ 2,444,355 ============= ==============
The Bank is currently leasing two of its branch banking facilities under agreements accounted for as operating leases. These leases commenced April 1, 1997 and February 1, 2000, will expire March 31, 2003 and February 28, 2002, and call for monthly lease payments of $125 and $625, respectively. Rental expense for 2000, 1999 and 1998 was $8,375, $1,500 and $1,500, respectively. Note 7. Deposits The aggregate amount of time deposits in denominations of $100,000 or more at December 31, 2000 and 1999 was $19,326,898 and $18,142,525, respectively. At December 31, 2000, the scheduled maturities of time deposits are as follows: 2001 $ 59,059,052 2002 11,614,336 2003 12,582,197 2004 7,018,863 2005 3,779,388 thereafter - -------------- $ 94,053,836 17 ================================================================================ Notes to Consolidated Financial Statements -------------------------------------------------------------------------------- Note 8. Debt The Bank has established various credit facilities to provide additional liquidity if and as needed. These include unsecured lines of credit with correspondent banks totaling $7,250,000 and a secured line of credit with the Federal Home Loan Bank of Atlanta of approximately $19,000,000. Additional amounts are available from the Federal Home Loan Bank, with additional collateral. At December 31, 2000 and 1999, there were no amounts outstanding under these agreements. Note 9. Employee Benefit Plan The Bank has a qualified noncontributory, defined benefit pension plan which covers substantially all of its employees. The benefits are primarily based on years of service and earnings. The following is a summary of the plan's funded status as of December 31, 2000 and 1999.
2000 1999 ------------- -------------- Change in benefit obligation Benefit obligation at beginning of year $ 1,385,807 $ 1,280,322 Service cost 101,451 101,604 Interest cost 103,498 95,711 Plan participants' contributions - - Amendments - - Actuarial (gain) loss (3,457) (4,432) Acquisition - - Benefits paid (46,337) (87,398) ------------- -------------- Benefit obligation at end of year $ 1,540,962 $ 1,385,807 ============= ============== Change in plan assets Fair value of plan assets at beginning of year $ 1,234,391 $ 1,022,036 Actual return on plan assets 185,534 145,755 Acquisition - - Employer contribution 211,253 153,998 Plan participants' contributions - - Benefits paid (46,337) (87,398) ------------- -------------- Fair value of plan assets at end of year $ 1,584,841 $ 1,234,391 ============= ============== Change in prepaid (accrued) benefit cost Prepaid (accrued) benefit cost, beginning $ (286,029) $ (332,368) Contributions 211,253 153,998 Pension cost (94,953) (107,659) ------------- -------------- Prepaid (accrued) benefit cost, ending $ (169,729) $ (286,029) ============= ============== Funded status $ 43,879 $ (151,416) Unrecognized transitional net assets (36,257) (40,285) Unrecognized prior service cost 65,771 71,750 Unrecognized net actuarial (gain) loss (243,122) (166,078) ------------- -------------- Prepaid (accrued) benefit cost $ (169,729) $ (286,029) ============= ============== Weighted-average assumptions as of December 31 Discount rate 7.5% 7.5% Expected return on plan assets 9.0% 9.0% Rate of compensation increase 5.0% 5.0%
18 ================================================================================ Notes to Consolidated Financial Statements -------------------------------------------------------------------------------- Note 9. Employee Benefit Plan, continued
2000 1999 1998 -------------- ------------- -------------- Components of net periodic benefit cost Service cost $ 101,451 $ 101,604 $ 88,222 Interest cost 103,498 95,711 87,570 Return on plan assets (185,534) (145,755) (5,294) Originating unrecognized asset gain (loss) 74,962 54,148 (98,769) Amortization 1,951 1,951 (6,345) Recognized net actuarial (gain) loss (1,375) - - -------------- ------------- -------------- Net periodic benefit cost $ 94,953 $ 107,659 $ 65,384 ============== ============= ==============
Note 10. Deferred Compensation and Life Insurance Deferred compensation plans have been adopted for certain members of the Board of Directors for future compensation upon retirement. Under plan provisions aggregate annual payments ranging from $1,568 to $8,482 are payable for ten years certain, generally beginning at age 65. Liability accrued for compensation deferred under the plan amounts to $117,742 and $117,681 at December 31, 2000 and 1999, respectively. Charges to income are based on present value of future cash payments, discounted at 8%, and amounted to $9,417, $9,412 and $9,572 for 2000, 1999 and 1998, respectively. The Bank is owner and beneficiary of life insurance policies on these directors. Policy cash values, net of policy loans, totaled $44,451 and $35,093 at December 31, 2000 and 1999, respectively. Note 11. Fair Value of Financial Instruments The estimated fair values of the Company's financial instruments are as follows (dollars in thousands):
December 31, 2000 December 31, 1999 ------------------------------- ------------------------------- Carrying Fair Carrying Fair Amount Value Amount Value ------ ----- ------ ----- Financial assets Cash and cash equivalents $ 2,631 $ 2,631 $ 3,775 3,775 Interest-bearing deposits with banks - - 2,000 2,000 Federal funds sold 4,475 4,475 6,975 6,975 Securities, available-for-sale 37,320 37,320 33,214 33,214 Securities, held to maturity 19,351 19,535 18,489 18,135 Restricted equity securities 631 631 631 631 Loans, net of allowance for loan losses 92,602 92,889 87,685 86,180 Financial liabilities Deposits 143,033 143,159 139,808 139,451 Off-balance-sheet assets (liabilities) Commitments to extend credit and standby letters of credit - - - - Commercial letters of credit - - - -
19 ================================================================================ Notes to Consolidated Financial Statements -------------------------------------------------------------------------------- Note 12. Income Taxes Current and Deferred Income Tax Components The components of income tax expense (substantially all Federal) are as follows:
2000 1999 1998 -------------- ------------- -------------- Current $ 287,509 $ 633,958 $ 864,003 Deferred 211,026 15,762 (82,635) -------------- ------------- -------------- $ 498,535 $ 649,720 $ 781,368 ============== ============= ==============
Rate Reconciliation A reconciliation of the expected income tax expense computed at 34% to income tax expense included in the statements of income is as follows:
2000 1999 1998 -------------- ------------- -------------- Expected tax expense $ 790,321 $ 889,050 $ 924,875 Tax exempt interest (341,232) (280,737) (233,669) Other 49,446 41,407 90,162 -------------- ------------- -------------- $ 498,535 $ 649,720 $ 781,368 ============== ============= ==============
Deferred Tax Analysis The components of net deferred tax assets (substantially all Federal) at December 31, 2000 and 1999 are summarized as follows:
2000 1999 ------------- -------------- Deferred tax assets $ 612,084 $ 1,140,978 Deferred tax liabilities (102,720) (75,904) ------------- -------------- $ 509,364 $ 1,065,074 ============= ==============
The tax effects of each significant item creating deferred taxes are summarized below:
2000 1999 ------------- -------------- Net unrealized appreciation on securities available for sale $ 67,307 $ 411,991 Allowance for loan losses 266,334 440,684 Other valuation reserves 68,405 91,671 Deferred compensation and accrued pension costs 97,740 100,372 Deferred loan fees 112,298 96,260 Depreciation (78,739) (66,976) Accretion of discount on investment securities (23,981) (8,928) ------------- -------------- $ 509,364 $ 1,065,074 ============= ==============
Note 13. Commitments and Contingencies Litigation In the normal course of business, the Company is involved in various legal proceedings. After consultation with legal counsel, management believes that any liability resulting from such proceedings will not be material to the consolidated financial statements. 20 ================================================================================ Notes to Consolidated Financial Statements -------------------------------------------------------------------------------- Note 13. Commitments and Contingencies, continued Financial Instruments with Off-Balance-Sheet Risk The Bank is party to financial instruments with off-balance-sheet risk in the normal course of business to meet the financing needs of its customers. These financial instruments include commitments to extend credit and standby letters of credit. These instruments involve, to varying degrees, credit risk in excess of the amount recognized in the consolidated balance sheets. Financial Instruments with Off-Balance-Sheet Risk, continued The Bank's exposure to loan 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 amount of those instruments. The Bank uses the same credit policies in making commitments and conditional obligations as for on-balance-sheet instruments. A summary of the Bank's commitments at December 31, 2000 and 1999, is as follows:
2000 1999 ------------- -------------- Commitments to extend credit $ 14,033,000 $ 13,647,000 Standby letters of credit 879,000 30,000 ------------- -------------- $ 14,912,000 $ 13,677,000 ============= ==============
Commitments to extend credit are agreements to lend to a customer as long as there is no violation of any condition established in the contract. Commitments generally have fixed expiration dates or other termination clauses and may require payment of a fee. Since many of the commitments are expected to expire without being drawn upon, the total commitment amounts do not necessarily represent future cash requirements. The Bank evaluates each customer's creditworthiness on a case-by-case basis. The amount of collateral obtained, if deemed necessary by the Bank upon extension of credit, is based on management's credit evaluation of the party. Collateral held varies, but may include accounts receivable, crops, livestock, inventory, property and equipment, residential real estate and income producing commercial properties. Standby letters of credit are conditional commitments issued by the Bank to guarantee the performance of a customer to a third party. Those guarantees are primarily issued to support public and private borrowing arrangements. The credit risk involved in issuing letters of credit is essentially the same as that involved in extending loan facilities to customers. Collateral held varies as specified above and is required in instances which the Bank deems necessary. Concentrations of Credit Risk The majority of the Company's loans, commitments to extend credit, and standby letters of credit have been granted to customers in the Company's market area. The majority of such customers are depositors of the Bank. Investments in state and municipal securities involve governmental entities within and outside the Company's market area. The concentrations of credit by type of loan are set forth in Note 4. The distribution of commitments to extend credit approximates the distribution of loans outstanding. Standby letters of credit are granted primarily to commercial borrowers. The Company, as a matter of policy, does not extend credit to any single borrower or group of related borrowers in excess of approximately $2,000,000. Although the Bank has a reasonably diversified loan portfolio, a substantial portion of its debtors' ability to honor their contracts is dependent upon economic conditions in and around Floyd, Carroll, Montgomery, and Roanoke Counties and the City of Roanoke, Virginia. A significant amount of the real estate loans set forth in Note 4 are secured by commercial real estate. In addition, the Company has a loan concentration relating to customers who are motel and bed-and-breakfast owners and operators. Total loans and loan commitments to this industrial group amounted to approximately $13,200,000 and $10,800,000 at December 31, 2000 and 1999, respectively. The Company has cash and cash equivalents on deposit with financial institutions which exceed federally-insured limits. 21 ================================================================================ Notes to Consolidated Financial Statements -------------------------------------------------------------------------------- Note 14. Regulatory Restrictions Dividends The Company's dividend payments are made from dividends received from the Bank. The Bank, as a Virginia banking corporation, may pay dividends only out of its retained earnings. However, regulatory authorities may limit payment of dividends by any bank when it is determined that such a limitation is in the public interest and is necessary to ensure financial soundness of the Bank. Intercompany Transactions The Bank's legal lending limit on loans to the Company are governed by Federal Reserve Act 23A, and differ from legal lending limits on loans to external customers. Generally, a bank may lend up to 10% of its capital and surplus to its Parent, if the loan is secured. If collateral is in the form of stocks, bonds, debentures or similar obligations, it must have a market value when the loan is made of at least 20% more than the amount of the loan, and if obligations of a state or political subdivision or agency thereof, it must have a market value of at least 10% more than the amount of the loan. If such loans are secured by obligations of the United States or agencies thereof, or by notes, drafts, bills of exchange or bankers' acceptances eligible for rediscount or purchase by a Federal Reserve Bank, requirements for collateral in excess of the loan amount do not apply. Under this definition, the legal lending limit for the Bank on loans to the Company was approximately $1,400,000 at December 31, 2000. No 23A transactions were deemed to exist between the Company and the Bank at December 31, 2000. Capital Requirements The Company is subject to various regulatory capital requirements administered by federal banking agencies. Failure to meet minimum capital requirements can initiate certain mandatory (and possibly additional discretionary) actions by regulators that, if undertaken, could have a direct material effect on the Company's consolidated financial statements. Under capital adequacy guidelines and the regulatory framework for prompt corrective action, the Bank must meet specific capital guidelines that involve quantitative measures of the Bank's assets, liabilities, and certain off-balance-sheet items as calculated under regulatory accounting practices. The Bank's capital amounts and classification are also subject to qualitative judgments by the regulators about components, risk weightings, and other factors. Quantitative measures established by regulation to ensure capital adequacy require the Bank 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, as all those terms are defined in the regulations. Management believes, as of December 31, 2000, that the Bank meets all capital adequacy requirements to which it is subject. As of December 31, 2000, the most recent notification from the Federal Reserve categorized the Bank as well capitalized under the regulatory framework for prompt corrective action. To be categorized as well capitalized the Bank must maintain minimum total risk-based, Tier I risk-based, and Tier I leverage ratios as set forth in the table. There are no conditions or events since that notification that management believes have changed the institution's category. 22 ================================================================================ Notes to Consolidated Financial Statements -------------------------------------------------------------------------------- Note 14. Regulatory Restrictions, continued Capital Requirements, continued The Bank's actual capital amounts and ratios are also presented in the table (in thousands).
To Be Well Required Capitalized Under For Capital Prompt Corrective Actual Adequacy Purposes Action Provisions ------ ----------------- ----------------- Amount Ratio Amount Ratio Amount Ratio ------ ----- ------ ----- ------ ----- December 31, 2000: Total Capital (to Risk-Weighted Assets) $ 14,922 14.5% >$ 8,249 >8.0% >$ 10,312 >10.0% - - - - Tier I Capital (to Risk-Weighted Assets) $ 13,813 13.4% >$ 4,125 >4.0% >$ 6,187 > 6.0% - - - - Tier I Capital (to Average Assets) $ 13,813 8.7% >$ 6,338 >4.0% >$ 7,922 > 5.0% - - - - December 31, 1999: Total Capital (to Risk-Weighted Assets) $ 14,100 14.5% >$ 7,765 >8.0% >$ 9,706 >10.0% - - - - Tier I Capital (to Risk-Weighted Assets) $ 12,881 13.3% >$ 3,882 >4.0% >$ 5,824 > 6.0% - - - - Tier I Capital (to Average Assets) $ 12,881 8.4% >$ 6,172 >4.0% >$ 7,716 > 5.0% - - - -
Note 15. Transactions with Related Parties The Bank has entered into transactions with its directors, significant shareholders and their affiliates (related parties). Such transactions were made in the ordinary course of business on substantially the same terms and conditions, including interest rates and collateral, as those prevailing at the same time for comparable transactions with other customers, and did not, in the opinion of management, involve more than normal credit risk or present other unfavorable features. Aggregate 2000 and 1999 loan transactions with related parties were as follows:
2000 1999 ------------- -------------- Balance, beginning $ 755,333 $ 772,353 New loans 1,328,296 40,966 Repayments (1,210,828) (57,986) Relationship changes - - ------------- -------------- Balance, ending $ 872,801 $ 755,333 ============= ==============
23 ================================================================================ Notes to Consolidated Financial Statements -------------------------------------------------------------------------------- Note 16. Parent Company Financial Information Condensed financial information of Cardinal Bankshares Corporation is presented as follows: Balance Sheets December 31, 2000 and 1999
2000 1999 ------------- -------------- Assets Cash due from banks $ 3,158,522 $ 2,999,652 Loans, net of allowance for loan losses of $25,000 in 2000 and 1999 2,019,918 2,622,629 Investment in affiliate bank at equity 13,681,894 12,081,254 Other assets 817,754 71,164 ------------- -------------- $ 19,678,088 $ 17,774,699 ============= ============== Liabilities Accounts payable and other liabilities $ - $ 17,102 ------------- -------------- Shareholders' equity Common stock 5,119,110 5,117,710 Surplus 2,925,150 2,925,150 Retained earnings 11,764,483 10,514,759 Accumulated other comprehensive income (130,655) (800,022) ------------- -------------- 19,678,088 17,757,597 ------------- -------------- $ 19,678,088 $ 17,774,699 ============= ==============
Statements of Income For the years ended December 31, 2000, 1999 and 1998
2000 1999 1998 -------------- ------------- -------------- Income: Dividends from affiliate bank $ 950,000 $ 1,500,000 $ 1,500,000 Interest on taxable securities 179,036 121,032 160,679 Other income - - 1,429 -------------- ------------- -------------- 1,129,036 1,621,032 1,662,108 -------------- ------------- -------------- Expenses: Salaries 175,898 98,232 88,078 Management and professional fees 52,515 65,835 37,692 Other expenses 39,930 24,088 34,443 -------------- ------------- -------------- 268,343 188,155 160,213 -------------- ------------- -------------- Income before tax benefit and equity in undistributed income of affiliate 860,693 1,432,877 1,501,895 Income tax (expense) benefit 33,973 26,754 (720) -------------- ------------- -------------- Income before equity in undistributed income of affiliate 894,666 1,459,631 1,501,175 Equity in undistributed income of affiliate 931,272 505,502 437,677 -------------- ------------- -------------- Net income $ 1,825,938 $ 1,965,133 $ 1,938,852 ============== ============= ==============
24 ================================================================================ Notes to Consolidated Financial Statements -------------------------------------------------------------------------------- Note 16. Parent Company Financial Information, continued Statements of Cash Flows For the years ended December 31, 2000, 1999 and 1998
2000 1999 1998 -------------- ------------- -------------- Cash flows from operating activities Net income $ 1,825,938 $ 1,965,133 $ 1,938,852 Adjustments to reconcile net income to net cash provided by operating activities: Amortization 5,929 5,929 5,929 Provision for loan losses - - - Increase (decrease) in equity in undistributed income of affiliate (931,272) (505,502) (437,677) Deferred income taxes - - - Net change in other assets (752,520) (18,525) (16,323) Net change in other liabilities (17,102) 16,888 (7,454) -------------- ------------- -------------- Net cash provided by operating activities 130,973 1,463,923 1,483,327 -------------- ------------- -------------- Cash flows from investing activities, net (increase) decrease in loans 602,711 (900,565) 75,023 -------------- ------------- -------------- Cash flows from financing activities Dividends paid (582,014) (568,147) (542,625) Common stock purchased (785,403) (22,685) (13,500) Common stock reissued 792,603 15,325 13,500 -------------- ------------- -------------- Net cash used by financing activities (574,814) (575,507) (542,625) -------------- ------------- -------------- Net increase in cash and cash equivalents 158,870 (12,149) 1,015,725 Cash and cash equivalents, beginning 2,999,652 3,011,801 1,996,076 -------------- ------------- -------------- Cash and cash equivalents, ending $ 3,158,522 $ 2,999,652 $ 3,011,801 ============== ============= ==============
25 ================================================================================ Management's Discussion and Analysis -------------------------------------------------------------------------------- Management's Discussion and Analysis of Operations Overview Management's Discussion and Analysis is provided to assist in the understanding and evaluation of Cardinal Bankshares Corporation's financial condition and its results of operations. The following discussion should be read in conjunction with the Corporation's consolidated financial statements. Cardinal Bankshares Corporation, the parent company of The Bank of Floyd, currently operates five offices in Floyd, Montgomery, Roanoke and Carroll Counties of Virginia. The main office is in Floyd with a limited service office in Willis. The Roanoke office is in the Cave Spring area of Roanoke County. The Hillsville office is located in Carroll County on Route 52 in Hillsville, Virginia. A new office opened this year in Christiansburg, Virginia which serves Montgomery County. The individual market conditions of each county vary from rural to urban with Floyd County being the most rural and Roanoke the most urban. Each has its own growth pattern which varies in intensity. The Bank of Floyd and bank personnel work with local government leaders in an effort to attract industry to Floyd County. Earnings declined slightly in 2000, $1.8 million compared to $2.0 million for 1999 and $1.9 million in 1998. Return on average assets fell to 1.1% in 2000 from 1.3% in 1999 and 1998. During 2000, 1999 and 1998, revenues from the Bank of Floyd represent over 95% of Cardinal Bankshares Corporation's total revenues. All of these ratios compare favorably to members of our peer group. Average equity to average assets shows the Bank with a strong capital position with a ratio of 11.7%. Our capital position continues to be above our peer group's average. The total assets of Cardinal Bankshares Corporation grew to $163 million from $158 million, a 3.2% increase, continuing our strategy to grow the Company. Due to actions taken to correct some leases on nonaccrual, foreclosed properties were increased to $428,00 at year end. In 1999, a package of financial modernization laws was passed by the United States Congress that was the most sweeping change in the history of U.S. financial instiutions. This package, known as the Graham-Leach-Bliley Act, opened many doors of opportuity and challenges to the financial services industry. In the year 2001, we will continue to take advantage of these opportunities. Management plans to continue increasing market share by expanding to contiguous markets using earnings from operations to fund the Company's growth. Currently, management of Cardinal Bankshares Corporation has no plans to raise capital for its expansion through external sources. 26 ================================================================================ Management's Discussion and Analysis -------------------------------------------------------------------------------- Table 1. Net Interest Income and Average Balances (thousands)
2000 1999 1998 -------------------------- ---------------------------- --------------------------- Interest Interest Interest Average Income/ Yield/ Average Income/ Yield/ Average Income/ Yield/ Balance Expense Cost Balance Expense Cost Balance Expense Cost ------- ------- ---- ------- ------- ---- ------- ------- ---- Interest earning assets: Deposit in other banks $ 394 $ 24 6.09% $ 3,944 $ 197 4.99% $ 5,278 $ 288 5.46% Taxable investment securities 35,992 2,400 6.67% 30,676 1,904 6.21% 28,845 1,844 6.39% Nontaxable investment securities 20,139 960 4.77% 16,848 773 4.59% 13,331 626 4.70% Federal funds sold 4,503 275 6.11% 9,633 479 4.97% 9,040 477 5.28% Loans, net 86,386 8,006 9.27% 84,920 7,707 9.08% 83,611 8,035 9.61% ------- ------ ------- ------ ------- ------ Total interest-earning assets 147,414 11,665 146,021 11,060 140,105 11,270 ------- ------ ------- ------ ------- ------ Yield on average interest-earning assets 7.91% 7.57% 8.04% ==== ==== ==== Noninterest-earning assets: Cash and due from banks 2,472 2,579 2,150 Premises and equipment 2,513 2,398 2,020 Interest receivable and other 7,299 5,629 4,473 -------- -------- -------- Total noninterest-earning assets 12,284 10,606 8,643 -------- -------- -------- Total assets $159,698 $156,627 $148,748 ======== ======== ======== Interest-bearing liabilities: Demand deposits $ 10,673 249 2.33% $ 10,180 240 2.36% $8,892 250 2.81% Savings deposits 20,614 688 3.34% 18,945 569 3.00% 18,055 582 3.22% Time deposits 90,912 5,045 5.55% 89,764 4,794 5.34% 88,100 4,966 5.64% Other borrowings - - 0.00% - - 0.00% - - 0.00% ------- ------ ------- ------ ------- ------ Total interest-bearing liabilities 122,199 5,982 118,889 5,603 115,047 5,798 ------- ------ ------- ------ ------- ------ Cost on average interest- bearing liabilities 4.90% 4.71% 5.04% ==== ==== ==== Noninterest-bearing liabilities Demand deposits 17,518 18,669 15,537 Interest payable and other 1,372 1,269 1,272 -------- -------- -------- Total noninterest-bearing liabilities 18,890 19,938 16,809 -------- -------- -------- Total liabilities 141,089 138,827 131,856 Stockholders' equity 18,609 17,800 16,892 -------- -------- -------- Total liabilities and stockholders' equity $159,698 $156,627 $148,748 ======== ======== ======== Net interest income $ 5,683 $ 5,457 $ 5,472 ========= ========= ======= Net yield on interest-earning assets 3.86% 3.74% 3.91% ==== ==== ====
27 ================================================================================ Management's Discussion and Analysis -------------------------------------------------------------------------------- Net Interest Income Net interest income, the principal source of bank earnings, is the amount of income generated by earning assets (primarily loans and investment securities) less the interest expense incurred on interest-bearing liabilities (primarily deposits used to fund earning assets). Table 1 summarizes the major components of net interest income for the past three years and also provides yields and average balances. Net interest income increased in 2000 to $5.7 million compared to $5.5 million in 1999 and 1998. Although income earned on deposits in other banks decreased significantly, the increased yields on loans resulted in the net increase. Competition for deposits and loans continue to be a major factor in net margins as does predatory pricing and competition from unregulated organizations. The net interest margin for 2000 increased by 12 basis points to 3.86% compared to 3.74% for 1999 and 3.91% for 1998. The effects of changes in volumes and rates on net interest income in 2000 compared to 1999, and 1999 compared to 1998 are shown in Table 2. Interest income for 2000 increased $605,000 to $11.7 million from $11.1 million in 1999. Interest income in 1998 totaled $11.3 million. The increase in interest income in 2000 from 1999 was the result of higher interest rates. The decrease in interest income in 1999 from 1998 was the result of lower rates. Interest expense increased by $380,000 in 2000 to $6.0 million from $5.6 million in 1999 and $5.8 million in 1998. The increase in 2000 from 1999 was due primarily to higher rates paid on deposits. Interest expense decreased by $195,000 in 1999 from 1998 which was a result of lower rates. Interest paid on time deposits, which make up the largest portion of interest-bearing deposits, increased $251,000, or 5.2% from 1999 to 2000. This increase is due primarily to higher rates in the market place. The average rate paid on time deposits increased 21 basis points to 5.55% in 2000 from 5.34% in 1999 and 5.64% in 1998. Table 2. Rate/Volume Variance Analysis (thousands)
2000 Compared to 1999 1999 Compared to 1998 --------------------- --------------------- Interest Variance Interest Variance Income/ Attributed To Income/ Attributed To Expense --------------- Expense -------------- Variance Rate Volume Variance Rate Volume -------- ---- ------ -------- ---- ------ Interest-earning assets: Deposits in other banks $ (173) $ 4 $ (177) $ (91) $ (18) $ (73) Taxable investment securities 496 166 330 60 (57) 117 Nontaxable investment securities 187 36 151 147 (18) 165 Federal funds sold (204) 52 (256) 2 (29) 31 Loans 299 166 133 (328) (454) 126 ------- ----- ------ -------- ------ ------- Total 605 424 181 (210) (576) 366 ------- ----- ------ -------- ------ ------- Interest-bearing liabilities: Demand deposits 9 (3) 12 (10) (46) 36 Savings deposits 119 69 50 (13) (42) 29 Time deposits 251 190 61 (172) (266) 94 Other borrowings - - - - - - ------- ----- ------ -------- ------ ------- Total 379 256 123 (195) (354) 159 ------- ----- ------ -------- ------ ------- Net interest income $ 226 $ 168 $ 58 $ (15) $ (222) $ 207 ======= ===== ====== ======== ====== =======
28 ================================================================================ Management's Discussion and Analysis -------------------------------------------------------------------------------- Provision for Loan Losses The allowance for loan losses is established to provide for potential losses in the Company's loan portfolio. Loan losses and recoveries are charged or credited directly to the allowance. Management determines the provision for loan losses required to maintain an allowance adequate to provide for any potential losses. The factors considered in making this decision are the collectibility of past due loans, volume of new loans, composition of the loan portfolio, and general economic outlook. In 2000, management increased the provision for loan loss reserve from $141,721 in 1999 to $500,000 in 2000. The provision for loan losses was $175,000 in 1998. The Bank's allowance for loan losses as a percentage of total loans at the end of 2000 was 1.2% as compared to 1.86% in 1999 and 1.91% in 1998. When compared to the most recent available peer bank information as of September 30, 2000 the allowance for loan losses as percentage of total loans at the end of 2000 was in the top 10% of all peer banks. Additional information is contained in Tables 12, 13 and 14, and is discussed in Nonperforming and Problem Assets. Other Income Noninterest income consists of revenues generated from a broad range of financial services and activities. The majority of noninterest income is a result of service charges on deposit accounts including charges for insufficient funds items and fees charged for nondeposit services. Noninterest income totaled $449,000 in 2000, an increase of 19.3% from the $376,000 recorded in 1999. Noninterest income in 1998 totaled $394,000. Noninterest income includes fees charged for services such as safe deposit box rental fees, letters of credit fees, and gains realized on the sale of fixed assets. The primary sources of noninterest income for the past three years are summarized in Table 3. Table 3. Sources of Noninterest Income (thousands) 2000 1999 1998 ---- ---- ---- Service charges on deposit accounts $ 233 $200 $ 152 Other service charges and fees 59 47 38 Safe deposit box rent 35 33 34 Gain on the sale of securities - 5 27 Other income 122 91 143 ----- ---- ----- Total noninterest income $ 449 $376 $ 394 ===== ==== ===== Other Expense Noninterest expense for 2000 increased by $231,000 or 7.5% to $3.3 million. Noninterest expense in 1999 was $3.1 million and $3.0 million in 1998 (see Table 4). The overhead ratio of noninterest expense to adjusted total revenues (net interest income plus noninterest income excluding securities transactions) was 53.9% in 2000, 52.8% in 1999 and 50.9% in 1998. The opening of a new branch in Christiansburg resulted in higher personnel, occupancy, and furniture and equipment expenses. Table 4 provides a further breakdown of noninterest expense for the past three years. 29 ================================================================================ Management's Discussion and Analysis -------------------------------------------------------------------------------- Table 4. Sources on Noninterest Expense (thousands) 2000 1999 1998 ---- ---- ---- Salaries & wages $1,504 $1,340 $1,386 Employee benefits 519 574 485 ------ ------ ------ Total personnel expense 2,023 1,914 1,871 Occupancy expense 196 163 137 Furniture & equipment 315 283 275 Printing & supplies 55 56 55 FDIC deposit insurance 28 16 15 Professional services 113 123 119 Postage 74 78 76 Telephone 47 61 49 Courier fees 45 37 29 Education & seminars 16 7 17 Travel expense 7 9 17 Director fees and expense 45 43 48 Advertising and public relations 34 33 33 Insurance expense 40 30 33 Capital Stock Tax 99 96 97 Outside services 43 30 28 Other real estate expense, net 1 (9) (86) Real estate loan servicing fee 16 13 16 Other operating expense 110 93 141 ------ ------ ------ Total noninterest expense $3,307 $3,076 $2,970 ====== ====== ====== Income Taxes Income tax expense is based on amounts reported in the statements of income (after adjustments for non-taxable income and non-deductible expenses) and consists of taxes currently due plus deferred taxes on temporary differences in the recognition of income and expense for tax and financial statement purposes. The deferred tax assets and liabilities represent the future Federal income tax return consequences of those differences, which will either be taxable or deductible when the assets and liabilities are recovered or settled. Income tax expense (substantially all Federal) was $499,000 in 2000, $650,000 in 1999 and $781,000 for 1998 representing 21.4%, 24.8% and 28.7% of income before income taxes, respectively. Tax expense decreased $151,000 or 23.3% from 1999 to 2000. The Bank's deferred income tax benefits and liabilities result primarily from temporary differences (discussed above) in provisions for credit losses, valuation reserves, depreciation, deferred compensation, deferred income, pension expense, and investment security discount accretion. Net deferred income tax benefits of approximately $509,000 and $1,065,000 at December 31, 2000 and 1999, respectively, are included in other assets. At December 31, 2000, $67,000 of the total deferred tax asset is applicable to unrealized depreciation on investment securities available for sale. 30 ================================================================================ Management's Discussion and Analysis -------------------------------------------------------------------------------- Earning Assets Average earning assets increased $1.4 million from 1999 average of $146.0 million. Total average earning assets represented 92.3% of total average assets in 2000 compared to 93.2% in 1999. The mix of average earning assets changed in 2000 with signifcant decreases in average interest-bearing deposits with banks and average federal funds sold. Increases in average loans and average investment securities accounted for the overall increase in total average earning assets of 1.0%. Average federal funds sold accounted for 2.8% of total average assets compared to 6.2% in 1999. Average interest bearing bank balances accounted for 0.2% of total average assets compared to 2.5% in 1999. Average loans accounted for 54.1% of total average assets in 2000 compared to 54.2% in 1999. For 1998, average net loans represented 56.2% of average assets. A summary of average assets for the past three years is shown in Table 5. Table 5. Average Asset Mix (thousands)
2000 1999 1998 -------------------- -------------------- -------------------- Average Average Average Balance % Balance % Balance % ---------- ------ ---------- ------ ---------- ------ Earning assets: Loans, net $ 86,386 54.09 $ 84,920 54.22 $ 83,611 56.21 Investment securities 56,131 35.15 47,524 30.34 42,176 28.35 Federal funds sold 4,503 2.82 9,633 6.15 9,040 6.08 Interest-bearing bank balances 394 0.25 3,944 2.52 5,278 3.55 ---------- ------ ---------- ------ ---------- ------ Total earning assets 147,414 92.31 146,021 93.23 140,105 94.19 ---------- ------ ---------- ------ ---------- ------ Nonearning assets: Cash and due from banks 2,472 1.55 2,579 1.65 2,150 1.44 Premises and equipment 2,513 1.57 2,398 1.53 2,020 1.36 Other assets 7,299 4.57 5,629 3.59 4,473 3.01 ---------- ------ ---------- ------ ---------- ------ Total nonearning assets 12,284 7.69 10,606 6.77 8,643 5.81 ---------- ------ ---------- ------ ---------- ------ Total assets $ 159,698 100.00 $ 156,627 100.00 $ 148,748 100.00 ========== ====== ========== ====== ========== ======
Loans Average net loans totaled $86.4 million during 2000, an increase of $1.5 million or 1.7% more than 1999. A significant portion of the loan portfolio, $82.2 million or 87.4%, is made up of loans secured by various types of real estate. Total loans secured by 1-4 family residential properties represented 30.9% of total loans at the end of 2000 while nonfarm/nonresidential properties make up 43.4%. 31 ================================================================================ Management's Discussion and Analysis -------------------------------------------------------------------------------- The Bank makes both consumer and commercial loans to all neighborhoods within its market area, including the low- and moderate-income areas. The market area is generally defined to be all or portions of the Floyd, Roanoke, Montgomery and Carroll Counties of Virginia and the Cities of Roanoke and Radford, Virginia. The Bank places emphasis on consumer based installment loans and commercial loans to small and medium sized businesses. Predatory pricing and competition from unregulated organizations have also been a factor when generating new loans. The amounts of loans outstanding by type at year-end 2000 and 1999, and the maturity distribution of variable and fixed rate loans as of year-end 2000 are presented in Table 6 and Table 7, respectively. Table 6. Loan Portfolio Summary (thousands) December 31, 2000 December 31, 1999 ----------------- ----------------- Amount % Amount % -------- ------ -------- ------ Construction and development $ 7,621 8.10 $ 3,420 3.82 Farmland 3,877 4.12 3,767 4.20 1-4 family residential 29,095 30.93 24,664 27.52 Multifamily residential 829 0.89 1,763 1.97 Nonfarm, nonresidential 40,807 43.38 40,117 44.75 Total real estate 82,229 87.42 73,731 82.26 Agricultural 964 1.02 1,133 1.26 Commercial and industrial 3,250 3.46 4,326 4.83 Consumer 5,802 6.17 6,004 6.70 Other 550 0.58 688 0.77 Leases 1,271 1.35 3,748 4.18 Total $ 94,066 100.00 $ 89,630 100.00 Interest rates charged on loans vary with the degree of risk, maturity and amount of the loan. Competitive pressures, money market rates, availability of funds, and government regulation also influence interest rates. On average, loans yielded 9.3% in 2000 compared to an average yield of 9.1% in 1999. 32 ================================================================================ Management's Discussion and Analysis -------------------------------------------------------------------------------- Table 7. Maturity Schedule of Loans (thousands)
2000 ----------------------------------------------------------------- Commercial Construction Total Finanical and and ------------------------- Agricultural Development Others Amount % ----------- ----------- ----------- ----------- ------ Fixed rate loans: Three months or less $ 239 $ 343 $ 749 $ 1,331 1.42% Over three months to twelve months 517 1,500 2,612 4,629 4.92% Over twelve months to three years 2,974 77 4,795 7,846 8.34% Over three years to five years 2,664 - 3,080 5,744 6.11% Over five years to fifteen years 3,286 59 4,490 7,835 8.33% Over fifteen years 248 - 424 672 0.71% ----------- ----------- ----------- ----------- ------ Total fixed rate loans 9,928 1,979 16,150 28,057 29.83% ----------- ----------- ----------- ----------- ------ Variable rate loans: Three months or less 7,280 959 4,814 13,053 13.88% Over three months to twelve months 5,610 - 5,783 11,393 12.11% Over twelve months to three years 16,927 1,120 6,157 24,204 25.73% Over three years to five years 6,885 3,055 5,394 15,334 16.30% Over five years to fifteen years 1,304 508 213 2,025 2.15% Over fifteen years - - - - 0.00% ----------- ----------- ----------- ----------- ------ Total variable rate loans 38,006 5,642 22,361 66,009 70.17% ----------- ----------- ----------- ----------- ------ Total loans: Three months or less 7,519 1,302 5,563 14,384 15.30% Over three months to twelve months 6,127 1,500 8,395 16,022 17.03% Over twelve months to three years 19,901 1,197 10,952 32,050 34.07% Over three years to five years 9,549 3,055 8,474 21,078 22.41% Over five years to fifteen years 4,590 567 4,703 9,860 10.48% Over fifteen years 248 - 424 672 0.71% ----------- ----------- ----------- ----------- ------ Total loans $ 47,934 $ 7,621 $ 38,511 $ 94,066 100.00% =========== =========== =========== =========== ======
Investment Securities The Bank uses its investment portfolio to provide liquidity for unexpected deposit decreases or increased loan generation, to meet the Bank's interest rate sensitivity goals, and to generate income. Management of the investment portfolio has always been conservative with virtually all investments taking the form of purchases of U.S. Treasury, U.S. Government agencies, Mortgage Backed Securities and State and local bond issues. All securities are high quality and high grade. Management views the investment portfolio as a source of income, and purchases securities with the intent of retaining them until maturity. However, adjustments are necessary in the portfolio to provide an adequate source of liquidity which can be used to meet funding requirements for loan demand and deposit fluctuations and to control interest rate risk. Therefore, from time to time, management may sell certain securities prior to their maturity. Table 8 presents the investment portfolio at the end of 2000 by major types of investments and maturity ranges. Maturities may differ from scheduled maturities in mortgage-backed securities because the mortgages underlying the securities may be called 33 ================================================================================ Management's Discussion and Analysis -------------------------------------------------------------------------------- or repaid prior to the scheduled maturity date. Maturities on all other securities are based on the earlier of the contractual maturity or the call date, if any. At December 31, 2000, the market value of the investment portfolio was $57.5 million, representing a $15,000 unrealized depreciation below amortized cost. This compared to a market value of $52.0 million and a $1.6 million depreciation below amortized cost a year earlier. Table 8. Investment Securities (thousands)
December 31, 2000 Amortized Cost Due --------------------------------------- In One After One After Five After Restricted Year or Through Through Ten Equity Market Less Five Yrs. Ten Yrs. Years Securities Total Value ---- --------- -------- ----- ---------- ----- ----- Investment securities: US Government Agencies and Mortgage Backed Securities $ 1,017 $ 15,547 $ 897 $ 17,721 $ - $ 35,182 $ 34,978 State and political subs. 1,631 6,263 7,857 4,449 - 20,200 20,394 Other - 1,010 - 478 - 1,488 1,483 Restricted Equity Securities - - - - 631 631 631 ------- -------- ------ --------- ------- ------- -------- Total $ 2,648 $ 22,820 $8,754 $ 22,648 $ 631 $57,501 $ 57,486 ======= ======== ====== ========= ======= ======= ======== Weighted average yields: U.S. Government agencies and Mortgage Backed Securities 5.33% 6.50% 6.20% 6.57% - States and political subs. 5.01% 4.59% 4.74% 5.34% - Other - 6.87% - 6.74% - Restricted Equity Securities - - - - 7.21% Consolidated 5.13% 5.99% 4.89% 6.33% 7.21% 5.93% December 31, 1999 Book Market Value Value ----- ----- Investment securities: U.S. Government agencies and Mortgage Backed Securities $32,778 $31,599 States and political subdivisions 18,560 18,201 Other 1,576 1,549 Restricted Equity Securities 680 680 ------- ------- Total $53,594 $52,029 ======= =======
34 ================================================================================ Management's Discussion and Analysis -------------------------------------------------------------------------------- Deposits The Bank relies on deposits generated in its market area to provide the majority of funds needed to support lending activities and for investments in liquid assets. More specifically, core deposits (total deposits less certificates of deposits in denominations of $100,000 or more) are the primary funding source. The Bank's balance sheet growth is largely determined by the availability of deposits in its markets, the cost of attracting the deposits, and the prospects of profitably utilizing the available deposits by increasing the loan or investment portfolios. Market conditions have resulted in depositors shopping for deposit rates more than in the past. An increased customer awareness of interest rates adds to the importance of rate management. The Bank's management must continuously monitor market pricing, competitor's rates, and internal interest rate spreads to maintain the Bank's growth and profitability. The Bank attempts to structure rates so as to promote deposit and asset growth while at the same time increasing overall profitability of the Bank. Average total deposits for the year ended December 31, 2000 amounted to $139.7 million which was an increase of $2.2 million, or 1.6% over 1999. The percentage of the Bank's average deposits that are interest-bearing decreased to 86.0% in 2000 from 86.4% in 1999. Average demand deposits which earn no interest increased to $17.5 million in 2000 from $18.7 million in 1999 and $15.5 million in 1998. Average deposits for the past three years are summarized in Table 9. Table 9. Deposit Mix (thousands)
2000 1999 1998 ------------------- --------------------- --------------------- Average Average Average Balance % Balance % Balance % -------- ------ -------- ------ --------- ------ Interest-bearing deposits: NOW accounts $10,673 7.64 $ 10,180 7.40 $ 8,892 6.81 Money Market 5,842 4.18 3,323 2.42 3,365 2.58 Savings 14,772 10.57 15,622 11.36 14,690 11.25 Small denomination certificates 73,696 52.75 73,980 53.78 73,755 56.48 Large denomination certificates 17,216 12.32 15,784 11.47 14,345 10.98 -------- ------ -------- ------ --------- ------ Total interest-bearing deposits 122,199 87.46 118,889 86.43 115,047 88.10 Noninteresting-bearing deposits 17,518 12.54 18,669 13.57 15,537 11.90 -------- ------ -------- ------ --------- ------ Total deposits $139,717 100.00 $137,558 100.00 $ 130,584 100.00 ======== ====== ======== ====== ========= ======
The average balance of certificates of deposit issued in denominations of $100,000 or more increased by $1.4 million or 9.07%, in 2000. Much of the increase in large certificates of deposit is from local government funds. The strategy of management has been to support loan and investment growth with core deposits and not to aggressively solicit the more volatile, large denomination certificates of deposit. Table 10 provides maturity information relating to Certificate of Deposits of $100,000 or more at December 31, 2000. 35 ================================================================================ Management's Discussion and Analysis -------------------------------------------------------------------------------- Table 10. Large Time Deposit Maturities (thousands) Analysis of time deposits of $100,000 or more at December 31, 2000: Remaining maturity of three months or less $ 2,300 Remaining maturity over three through twelve month 10,876 Remaining maturity over twelve months 6,151 ------- Total time deposits of $100,000 or more $19,327 ======= Capital Adequacy Shareholder's equity is $19.7 million at December 31, 2000, a 10.8% increase over the 1999 year-end total of $17.8 million. The increase was primarily a result of earnings partially offset by dividends and a decrease in the market value of available for sale securites. Average shareholders' equity as a percentage of average total assets amounted to 11.7% in 2000 and 11.4% in 1999. Regulatory guidelines relating to capital adequacy provide minimum risk-based ratios which assess capital adequacy while encompassing all credit risks, including those related to off-balance sheet activities. Capital ratios under these guidelines are computed by weighing the relative risk of each asset category to derive risk-adjusted assets. The risk-based capital guidelines require minimum ratios of core (Tier 1) capital (common shareholders' equity) to risk-weighted assets of 4.0% and total regulatory capital (core capital plus allowance for loan losses up to 1.25% of risk-weighted assets) to risk-weighted assets of 8%. As of December 31, 2000 the Bank has a ratio of Tier 1 capital to risk-weighted assets of 13.4% and a ratio of total capital to risk-weighted assets of 14.5%. These ratios continue to be equal to or above most of our peer group. 36 ================================================================================ Management's Discussion and Analysis -------------------------------------------------------------------------------- Table 11. Year-End Risk-Based Capital (thousands) 2000 1999 ----------- ----------- Tier I capital $ 13,813 $ 12,881 Qualifying allowance for loan losses (limited to 1.25% of risk-weighted assets) 1,109 1,219 ----------- ----------- Total regulatory capital $ 14,922 $ 14,100 =========== =========== Total risk-weighted assets $ 103,116 $ 97,062 =========== =========== Tier I as a percent of risk-weighted assets 13.4% 13.3% Total regulatory capital as a percent of risk- weighted assets 14.5% 14.5% Leverage Ratio* 8.7% 8.4% * Tier I capital divided by average total assets for the quarter ended December 31. In addition, a minimum leverage ratio of Tier I capital to average total assets for the previous quarter is required by federal bank regulators, ranging from 3% to 5%, subject to the regulator's evaluation of the Bank's overall safety and soundness. As of December 31, 2000, the Bank had a ratio of year-end Tier I capital to average total assets for the fourth quarter of 2000 of 8.7%. Table 11 sets forth summary information with respect to the Bank's capital ratios at December 31, 2000. All capital ratio levels indicate that the Bank is well capitalized. At December 31, 2000 the Company had 511,911 shares of common stock outstanding which were held by approximately 614 shareholders of record. Nonperforming and Problem Assets Certain credit risks are inherent in making loans, particularly commercial and consumer loans. Management prudently assesses these risks and attempts to manage them effectively. The Bank attempts to use shorter-term loans and, although a portion of the loans have been made based upon the value of collateral, it tries to rely primarily on the cash flow of the borrower as the source of repayment rather than the value of the collateral. The Bank also attempts to reduce repayment risks by adhering to internal credit policies and procedures. These policies and procedures include officer and customer limits, periodic loan documentation review and follow up on exceptions to credit policies. Nonperforming assets at December 31, 2000 and 1999 are analyzed in Table 12. 37 ================================================================================ Management's Discussion and Analysis -------------------------------------------------------------------------------- Table 12. Nonperforming Assets 2000 1999 ---------- ---------- Non-accrual loans $ 216,551 $1,826,688 Loans past due 90 days or more 333,931 975,373 Foreclosed properties 293,651 97,256 ---------- ---------- $ 844,133 $2,899,317 ========== ========== Nonperforming assets at year-end 2000 were 0.9% of loans outstanding and 3.2% at year-end 1999. Leases receivable of approximately $1,021,000 are included in nonaccural loans and leases at December 31, 1999. The Bank discontinued this program in 1999 and provided for estimated losses under these contracts in the allowance for loan losses account. Most of these leases were charged off in 2000. The allowance for loan losses is maintained at a level adequate to absorb potential losses. Some of the factors which management considers in determining the appropriate level of the allowance for loan losses are: past loss experience, an evaluation of the current loan portfolio, identified loan problems, the loan volume outstanding, the present and expected economic conditions in general, and in particular, how such conditions relate to the market areas that the Bank serves. Bank regulators also periodically review the Bank's loans and other assets to assess their quality. Credits deemed uncollectible are charged to the allowance. Provisions for loan losses and recoveries on loans previously charged off are added to the allowance. The accrual of interest on loans is discontinued on a loan when, in the opinion of management, there is an indication that the borrower may be unable to meet payments as they become due. The provision for loan losses, net charge-offs and the activity in the allowance for loan losses is detailed in Table 13. Table 13. Loan Losses
2000 1999 1998 ------------ ------------- ----------- Allowance for loan losses, beginning $ 1,661,521 $ 1,668,201 $ 1,452,126 Provision for loan losses, added 500,000 141,721 175,000 Loans charged off (1,085,500) (161,873) (76,842) Recoveries of loans previously charged off 57,972 13,472 117,917 ------------ ------------- ----------- Net charge-offs (1,027,528) (148,401) 41,075 ------------ ------------- ----------- Allowance for loan losses, ending $ 1,133,993 $ 1,661,521 $ 1,668,201 ============ ============= ===========
38 ================================================================================ Management's Discussion and Analysis -------------------------------------------------------------------------------- Net loan charge-offs as a percentage of average loans were 1.2% in 2000. Net loan charge-offs as a percentage of average loans were 0.2% in 1999 and net loan charge-offs as a percentage of average loans were 0.1% in 1998. Gross charge-offs during 2000 totaled $1,085,500 and consisted mostly of leases. Recoveries during 2000 totaled $58,000. The loan portfolio also included loans to various borrowers (watch loans) at year-end for which management had concerns about the ability of the borrowers to continue to comply with present loan repayment terms, and which could result in some or all of these loans being uncollectible. Management monitors these loans carefully and has provided for these loans in the allowance for loan losses. The allowance for loan losses was approximately $1.1 million, or 1.2% of gross loans outstanding at December 31, 2000, an decrease of $528,000 below the 1.9% reserve at December 31, 1999. Management realizes that general economic trends greatly affect loan losses and no assurances can be made about future losses. Management does, however, consider the allowance for loan losses to be adequate at December 31, 2000. The allocation of the reserve for loan losses is detailed in Table 14 below: Table 14. Allocation of the Reserve for Loan Losses
2000 1999 1998 ------------------- -------------------- ------------------- Balance at end of period applicable to Amount Percent(1) Amount Percent(1) Amount Percent(1) ------ --------- ------ --------- ------ --------- Commercial, financial and agricultural $ 358 8.0 $ 427 10.29 $ 502 12.42 Real estate, construction - 8.10 - 3.82 - 4.59 Real estate, mortgage 475 75.20 681 74.24 657 67.84 Installment loans to individuals, other 44 6.75 113 7.47 120 8.25 Leases 257 1.35 441 4.18 389 6.90 ------ ------ ------ ------ ------- ------ Total $1,134 100.00 $1,662 100.00 $ 1,668 100.00 ====== ====== ====== ====== ======= ====== (1) Represents the percentage of loans in each category to the total loans outstanding.
Liquidity and Interest Rate Sensitivity The principal goals of the Bank's asset and liability management strategy are the maintenance of adequate liquidity and the management of interest rate risk. Liquidity is the ability to convert assets to cash to fund depositors' withdrawals or borrowers' loans without significant loss. Interest rate risk management balances the effects of interest rate changes on assets that earn interest or liabilities on which interest is paid, to protect the Bank from wide fluctuations in its net interest income which could result from interest rates changes. Management must insure that adequate funds are available at all times to meet the needs of its customers. On the asset side of the balance sheet, maturing investments, loan payments, maturing loans, federal funds sold, and unpledged investment securities are principal sources of liquidity. On the liability side of the balance sheet, liquidity sources include core deposits, the ability to increase large denomination certificates, federal funds lines from correspondent banks, borrowings from the Federal Reserve Bank and the Federal Home Loan Bank, as well as the ability to generate funds through the issuance of long-term debt and equity. The liquidity ratio (the level of liquid assets divided by total deposits plus short-term liabilities) is considered to be adequate by management. 39 ================================================================================ Management's Discussion and Analysis -------------------------------------------------------------------------------- Table 15. Interest Rate Sensitivity (thousands)
December 31, 2000 Maturities/Repricing ------------------------------------------------- 1-3 4-12 13-60 Over 60 Months Months Months Months Total ------ ------ ------ ------ ----- Earnings Assets: Loans $ 13,214 $ 21,936 $53,291 $ 6,122 $ 94,564 Investments 560 1,845 23,654 30,304 56,363 Interest-bearing deposits with other banks 394 - - - 394 Federal Funds Sold 4,475 - - - 4,475 -------- -------- ------- ------- -------- Total $ 18,643 $ 23,781 $76,946 $36,426 $155,796 ======== ======== ======= ======= ======== Interest-bearing deposits: NOW accounts $ 10,882 $ - $ - $ - $ 10,882 Money market 5,968 - - - 5,968 Savings 13,908 - - - 13,908 Certificates of Deposit 18,566 40,061 39,881 - 98,508 -------- -------- ------- ------- -------- Total $ 49,324 $ 40,061 $39,881 $ - $129,266 ======== ======== ======= ======= ======== Interest sensitivity gap $(30,681) $(16,280) $37,065 $ 36,426 $ - Cumulative interest sensitivity gap $(30,681) $(46,961) $(9,896) $ 26,530 $ 26,530 Ratio of sensitivity gap to total earning assets (19.7%) (10.4%) 23.8% 23.4% - Cumulative ratio of sensitivity gap to total earning assets (19.7%) (30.1%) (6.4%) 17.0% 17.0%
Interest rate risk is the effect that changes in interest rates would have on interest income and interest expense as interest-sensitive assets and interest-sensitive liabilities either reprice or mature. Management attempts to maintain the portfolios of earning assets and interest-bearing liabilities with maturities or repricing opportunities at levels that will afford protection from erosion of net interest margin, to the extent practical, from changes in interest rates. Table 15 shows the sensitivity of the Bank's balance sheet on December 31, 2000. This table reflects the sensitivity of the balance sheet as of that specific date and is not necessarily indicative of the position on other dates. At December 31, 2000, the Bank appeared to be liability-sensitive with interest-bearing liabilities exceeding earning assets, subject to changes in interest rates, for the first twelve months. Included in the interest-bearing liabilities subject to interest rate changes within three months are NOW accounts and savings accounts which historically have not been as interest-sensitive as other types of interest-bearing deposits. The Bank appears to be asset-sensitive after the first twelve months. Matching sensitive positions alone does not ensure that the Bank has no interest rate risk. The repricing characteristics of assets are different from the repricing characteristics of funding sources. Thus, net interest income can be impacted by changes in interest rates even if the repricing opportunities of assets and liabilities are perfectly matched. 40 ================================================================================ Management's Discussion and Analysis -------------------------------------------------------------------------------- Table 16. Key Financial Ratios 2000 1999 1998 ---- ---- ---- Return on average assets 1.1% 1.3% 1.3% Return on average equity 9.8% 11.1% 11.5% Average equity to average assets 11.7% 11.4% 11.4% 41 ================================================================================ Staff -------------------------------------------------------------------------------- Main Office ----------- Customer Service Loan Operations Secretaries ---------------- --------------- ----------- Diane Bishop Renee Akers Beulah Correll Betty Moran Gail Phillips Michelle Harris Lynda Snavely Jan Rorrer Shelly Millirons Gina West Data Processing Center Paying and Receiving Tellers ---------------------- ---------------------------- Collections ----------- Leslie Cox Jamie Belcher Ralph Edwards Gail Goad Jessica Bower Gay Grim Regina Compton Credit Cards ------------ Donald Peters Regena Gibson Shelia DeHart Janet Roberson Kay King Accounting Lisa Thomas Leslie Tawney ---------- Wendy Taylor Yara Middleton Custodians ---------- Patsy Wallace Roger Dickerson Lucy Harris Cave Spring Office Willis Office Hillsville Office ------------------ ------------- ----------------- Patricia Bower Karen Sutphin Rebecca Adams Margaret Caldwell Karen Arnold Jessica Flinchum Christiansburg Louise Goad -------------- Frances Sharpe Karen Bowman Stacey DeBrueler Sharon Zeman 42 ================================================================================ Board of Directors of Cardinal Bankshares and The Bank of Floyd -------------------------------------------------------------------------------- K. Venson Bolt C. W. Harman Leon Moore J. H. Conduff Kevin D. Mitchell Dorsey H. Thompson William R. Gardner, Jr. Officers of Cardinal Bankshares -------------------------------------------------------------------------------- Leon Moore...........................Chairman of the Board, President, and Chief Executive Officer David E. Welch..............Assistant Vice President and Chief Financial Officer Wanda M. Gardner.............................Vice President and Internal Auditor Annette V. Battle.................Executive Secretary and Secretary to the Board Officers of The Bank of Floyd -------------------------------------------------------------------------------- Executive --------- Leon Moore..................................Chairman of the Board, President and Chief Executive Officer J. H. Conduff.........................................Vice Chairman of the Board K. Venson Bolt........................................Vice Chairman of the Board Fred L. Newhouse, Jr....................................Executive Vice President David E. Welch..............Assistant Vice President and Chief Financial Officer Lee Naff................................................Assistant Vice President C. W. Harman...........................................................Secretary Sunny K. Cornwell.....................Assistant Vice President and Credit Review Main Office ----------- Lois A. Bond............................................Assistant Vice President Patricia B. Spangler.........................Assistant Cashier and Funds Manager Patricia K. Harris.............................................Assistant Cashier Carolyn W. Reed................................................Assistant Cashier Cave Spring Office ------------------ Dennis D. McDaniel...................Assistant Vice President and Branch Manager Christiansburg Office --------------------- Will G. Hoover.......................Assistant Vice President and Branch Manager Hillsville Office ----------------- Eugene G. Shockley...................Assistant Vice President and Branch Manager Administrative -------------- Marie V. Thomas...............................Vice President and Human Resources Mary Ann Cox........................Assistant Vice President, Financial Products and Marketing Annette V. Battle.......Assistant Secretary to the Board and Recording Secretary Shelby L. Rutherford....................................Administrative Assistant Lending ------- Dianne H. Hamm.............................Vice President and Compliance Officer Ola Lee Driskell..............................Assistant Cashier and Loan Officer Operations ---------- Betty A. Whitlock...............Assistant Cashier and Manager of Data Processing Audit ----- Wanda M. Gardner.............................Vice President and Internal Auditor 43 ================================================================================ Stockholder Information -------------------------------------------------------------------------------- Annual Meeting -------------- The annual meeting of shareholders will be held Wednesday, April 25, 2001, at 2:00 p.m. in the Bank of Floyd's conference room, 101 Jacksonville Circle, Floyd, Virginia. Requests for Information ------------------------ Requests for information should be directed to Mrs. Annette Battle, Recording Secretary, at The Bank of Floyd, Post Office Box 215, Floyd, Virginia, 24091; telephone (540) 745-4191. A copy of the Company's Form 10-KSB for 2000 will be furnished, without charge, after March 31, 2001 upon written request. Independent Auditors Stock Transfer Agent -------------------- -------------------- Larrowe & Company, PLC Bank of Floyd Certified Public Accountants Post Office Box 215 Post Office Box 760 Floyd, Virginia 24091 Galax, Virginia 24333 Federal Deposit Insurance Corporation ------------------------------------- The Bank is a member of the FDIC. This statement has not been reviewed, or confirmed for accuracy or relevance by the Federal Deposit Insurance Corporation. Member of Federal Reserve Bank of Richmond. -------------- Member of Federal Home Loan Bank of Atlanta. -------------- Banking Offices --------------- Floyd Office Roanoke Office 101 Jacksonville Circle 4094 Postal Drive Floyd, Virginia 24091 Roanoke, Virginia 24018 (540) 745-4191 (540) 774-1111 ATM location ATM location Christiansburg Office Post Office Box 6113 Christiansburg, Virginia 24068 Hillsville Office Willis Office (540) 381-8121 185 South Main Street Floyd Highway South (540) 728-2341 Willis, Virginia 24380 ATM location (540) 745-4191 44