-----BEGIN PRIVACY-ENHANCED MESSAGE----- Proc-Type: 2001,MIC-CLEAR Originator-Name: webmaster@www.sec.gov Originator-Key-Asymmetric: MFgwCgYEVQgBAQICAf8DSgAwRwJAW2sNKK9AVtBzYZmr6aGjlWyK3XmZv3dTINen TWSM7vrzLADbmYQaionwg5sDW3P6oaM5D3tdezXMm7z1T+B+twIDAQAB MIC-Info: RSA-MD5,RSA, L7Pr0EPd8KGWA3ifbLU7qSOhMOn3w5k3DZanLya7sujrLkfA7IdYyZdHgCUDQvdf xUkaoDdbLNnJeDq7YzllJA== 0000948520-10-000041.txt : 20100511 0000948520-10-000041.hdr.sgml : 20100511 20100511153128 ACCESSION NUMBER: 0000948520-10-000041 CONFORMED SUBMISSION TYPE: 10-Q PUBLIC DOCUMENT COUNT: 4 CONFORMED PERIOD OF REPORT: 20100331 FILED AS OF DATE: 20100511 DATE AS OF CHANGE: 20100511 FILER: COMPANY DATA: COMPANY CONFORMED NAME: CORNERSTONE BANCORP/SC CENTRAL INDEX KEY: 0001087455 STANDARD INDUSTRIAL CLASSIFICATION: NATIONAL COMMERCIAL BANKS [6021] IRS NUMBER: 571077978 STATE OF INCORPORATION: SC FISCAL YEAR END: 1231 FILING VALUES: FORM TYPE: 10-Q SEC ACT: 1934 Act SEC FILE NUMBER: 000-51950 FILM NUMBER: 10820803 BUSINESS ADDRESS: STREET 1: PO BOX 428 CITY: EASLEY STATE: SC ZIP: 29641 BUSINESS PHONE: 8643061444 10-Q 1 cstn10q1-10.txt UNITED STATES SECURITIES AND EXCHANGE COMMISSION Washington, D.C. 20549 FORM 10-Q [ X ] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15 (d) OF THE SECURITIES EXCHANGE ACT OF 1934 For The Quarterly Period Ended March 31, 2010 OR [ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15 (d) OF THE SECURITIES EXCHANGE ACT OF 1934 For The Transition Period From _______________ To _________________. Commission File Number 000-51950 CORNERSTONE BANCORP - -------------------------------------------------------------------------------- (Exact name of registrant as specified in its charter) South Carolina 57-1077978 -------------- ---------- (State or other jurisdiction of (I.R.S. Employer Identification Number) incorporation or organization) 1670 East Main Street, Easley, South Carolina 29640 (Address of principal executive offices) (864) 306-1444 (Registrant's telephone number, including Area Code) Not Applicable (Former name, former address, and former fiscal year, if changed since last report) Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. [X] Yes [ ] No Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files). Yes [ ] No [ ] (Not yet applicable to the Registrant) Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, or a smaller reporting company. See definition of "large accelerated filer," "accelerated filer," and "smaller reporting company" in Rule 12b-2 of the Exchange Act. Large accelerated filer [ ] Accelerated filer [ ] Non-accelerated filer [ ] Smaller reporting company [X] (Do not check if a smaller reporting company) Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act). [ ] Yes [X] No Indicate the number of shares outstanding of each of the issuer's classes of common equity, as of the latest practicable date: Common Stock - No Par Value, 2,105,738 shares outstanding on May 1, 2010 PART I FINANCIAL INFORMATION Item 1. Financial Statements CORNERSTONE BANCORP AND SUBSIDIARY CONSOLIDATED BALANCE SHEETS
March 31, December 31, 2010 2009 ---- ---- Assets (Unaudited) Cash and due from banks .................................................................... $ 9,602,478 $ 4,369,596 Federal funds sold ......................................................................... 3,640,000 1,670,000 ------------- ------------- Cash and cash equivalents ........................................................... 13,242,478 6,039,596 Investment securities Available-for-sale ...................................................................... 26,169,183 28,902,143 Other investments ....................................................................... 1,142,050 1,142,050 Loans, net ................................................................................. 130,622,834 135,067,914 Property and equipment, net ................................................................ 5,253,817 5,291,203 Cash surrender value of life insurance policies ............................................ 1,855,663 1,838,663 Other real estate owned .................................................................... 7,254,388 6,712,948 Other assets ............................................................................... 3,535,501 3,975,813 ------------- ------------- Total assets ................................................................. $ 189,075,914 $ 188,970,330 ============= ============= Liabilities And Shareholders' Equity Liabilities Deposits Noninterest bearing ................................................................... $ 11,700,310 $ 11,234,486 Interest bearing ...................................................................... 142,605,825 141,146,788 ------------- ------------- Total deposits ........................................................................ 154,306,135 152,381,274 Customer repurchase agreements .......................................................... 3,184,245 3,257,002 Borrowings from Federal Home Loan Bank of Atlanta ....................................... 8,205,463 9,743,172 Broker repurchase agreements ............................................................ 5,000,000 5,000,000 Other liabilities ....................................................................... 458,427 549,477 ------------- ------------- Total liabilities ..................................................................... 171,154,270 170,930,925 Shareholders' equity Preferred stock, 10,000,000 shares authorized, no shares issued ......................... - - Common stock, no par value, 20,000,000 shares authorized, 2,211,025 shares at March 31, 2010 and 2,105,738 at December 31, 2009 ................................... 18,815,503 18,799,728 Retained earnings (deficit) ............................................................. (1,161,589) (921,014) Accumulated other comprehensive income .................................................. 267,730 160,691 ------------- ------------- Total shareholders' equity ............................................................ 17,921,644 18,039,405 ------------- ------------- Total liabilities and shareholders' equity ............................................ $ 189,075,914 $ 188,970,330 ============= =============
The accompanying notes are an integral part of these consolidated financial statements. 2 CORNERSTONE BANCORP AND SUBSIDIARY CONSOLIDATED STATEMENTS OF INCOME (Unaudited)
For the three months ended March 31, --------- 2010 2009 ---- ---- Interest and Dividend Income Interest and fees on loans ............................................... $ 1,769,282 $ 1,738,030 Investment securities .................................................... 268,242 251,788 Federal funds sold and interest bearing balances ............................................................... 2,380 2,556 ----------- ----------- Total interest income ................................................ 2,039,904 1,992,374 ----------- ----------- Interest Expense Deposits ................................................................. 652,005 771,498 Borrowings ............................................................... 116,374 127,684 ----------- ----------- Total interest expense ................................................ 768,379 899,182 ----------- ----------- Net Interest Income ........................................................ 1,271,525 1,093,192 Provision for Loan Losses .................................................. 620,000 160,000 ----------- ----------- Net interest income after provision for loan losses ..................................................... 651,525 933,192 ----------- ----------- Noninterest Income Service charges on deposit accounts ...................................... 126,404 132,891 Mortgage loan origination fees ........................................... - 54,518 Gain on sale of security ................................................. - 52,300 Loss on sale of repossessed collateral ................................... (4,187) (24,753) Other .................................................................... 45,799 37,962 ----------- ----------- Total noninterest income .............................................. 168,016 252,918 ----------- ----------- Noninterest Expense Salaries and employee benefits ........................................... 565,109 602,041 Premises and equipment ................................................... 145,921 147,990 Data processing .......................................................... 54,845 57,186 Professional and regulatory fees ......................................... 128,058 129,498 Supplies ................................................................. 17,178 14,963 Advertising .............................................................. 5,738 13,600 Other .................................................................... 301,666 185,606 ----------- ----------- Total noninterest expense ............................................. 1,218,515 1,150,884 ----------- ----------- Net income (loss) before taxes ........................................ (398,974) 35,226 Income tax benefit ......................................................... (158,399) (6,670) ----------- ----------- Net income (loss) ..................................................... $ (240,575) $ 41,896 =========== =========== Earnings (Loss) Per Share Basic .................................................................... $ (.11) $ .02 Diluted .................................................................. $ (.11) $ .02 Weighted Average Shares Outstanding Basic .................................................................... 2,211,025 2,199,259 Diluted .................................................................. 2,211,025 2,208,297
The accompanying notes are an integral part of these consolidated financial statements. 3 CORNERSTONE BANCORP AND SUBSIDIARY CONSOLIDATED STATEMENTS OF SHAREHOLDERS' EQUITY AND COMPREHENSIVE INCOME For the three months ended March 31, 2010 and 2009 (Unaudited)
Accumulated Common stock Retained other Total ------------ earnings comprehensive shareholders' Shares Amount (deficit) income (loss) equity ------ ------ --------- ------------- ------ Balance, December 31, 2008 ................. 1,991,565 $ 18,323,333 $ 765,906 $ 47,708 $ 19,136,947 Net income ................................. - - 41,896 - 41,896 Other comprehensive income, net of income taxes Unrealized gain on investment securities, net ......................... - - - 184,401 184,401 ------------ Comprehensive income ....................... 226,297 Stock based compensation ................... - 18,586 - - 18,586 Options exercised .......................... 14,172 80,000 - 80,000 Stock dividend declared (5%) ............... 100,286 601,721 (601,721) - - ------------ ------------ ------------ ------------ ------------ Balance, March 31, 2009 .................... 2,106,023 $ 19,023,640 $ 206,081 $ 232,109 $ 19,461,830 ============ ============ ============ ============ ============ Balance, December 31, 2009 ................. 2,105,738 $ 18,799,728 $ (921,014) $ 160,691 $ 18,039,405 Net loss ................................... - - (240,575) - (240,575) Other comprehensive loss, net of income taxes Unrealized gain on investment securities, net ......................... - - - 107,039 107,039 ------------ Comprehensive loss ......................... (133,536) Stock based compensation ................... - 15,775 - - 15,775 Stock dividend declared (5%), recorded as a stock split ................ 105,287 - - - - ------------ ------------ ------------ ------------ ------------ Balance, March 31, 2010 .................... 2,211,025 $ 18,815,503 $ (1,161,589) $ 267,730 $ 17,921,644 ============ ============ ============ ============ ============
The accompanying notes are an integral part of these consolidated financial statements. 4 CORNERSTONE BANCORP AND SUBSIDIARY CONSOLIDATED STATEMENTS OF CASH FLOWS (Unaudited)
For the three months ended March 31, ------------------------------------ 2010 2009 ---- ---- Operating Activities Net income (loss) ..................................................................... $ (240,575) $ 41,896 Adjustments to reconcile net income (loss) to net cash provided by operating activities Depreciation and amortization ...................................................... 112,598 73,168 Provision for loan losses .......................................................... 620,000 160,000 Non-cash option expense ............................................................ 15,775 18,586 Gain on sale of property and equipment ................................................ - (625) Loss on sale of property acquired in foreclosure ...................................... 4,187 24,753 Gain on sale of security available for sale ........................................... - (52,300) Changes in operating assets and liabilities Change in interest receivable ...................................................... (16,632) 55,380 Change in other assets ............................................................. 439,944 (122,425) Change in other liabilities ........................................................ (146,191) 20,098 ------------ ------------ Net cash provided by operating activities ....................................... 789,106 218,531 ------------ ------------ Investing Activities Proceeds from maturities and principal repayments of available for sale securities ...................................................................... 2,844,144 2,375,939 Redemption of FHLB and Federal Reserve stock .......................................... - 116,500 Purchase of investment securities available for sale .................................. - (3,052,041) Purchase of property and equipment .................................................... (24,216) (395) Proceeds from sale of property acquired in foreclosure ................................ 1,897,985 550,247 Capitalization of improvements to foreclosed property ................................. (50,116) - Proceeds from sale of property and equipment .......................................... - 625 Net (increase) decrease in loans to customers ......................................... 1,431,584 (6,131,795) ------------ ------------ Net cash provided by (used for) investing activities ............................ 6,099,381 (6,140,920) ------------ ------------ Financing Activities Net increase in demand, savings and time deposits ..................................... 1,924,861 22,168,024 Net decrease in customer repurchase agreements ........................................ (72,757) (88,539) Decrease in federal funds purchased ................................................... - (1,810,000) Repayment of FHLB advances ............................................................ (1,537,709) (5,037,708) Borrowings from FHLB .................................................................. - 1,500,000 Proceeds from exercise of stock options ............................................... - 80,000 ------------ ------------ Net cash provided by financing activities ....................................... 314,395 16,811,777 ------------ ------------ Net increase in cash and cash equivalents ....................................... 7,202,882 10,889,388 Cash and Cash Equivalents, Beginning of Period ............................................. 6,039,596 3,960,227 ------------ ------------ Cash and Cash Equivalents, End of Period ................................................... $ 13,242,478 $ 14,849,615 ============ ============ Supplemental Information Cash paid for interest ................................................................. $ 776,271 $ 896,910 Cash paid for income taxes ............................................................. $ - $ 5,181 Non-cash Supplemental information Loans transferred to other real estate owned ........................................... $ 2,393,496 $ 219,200 Loans charged-off, net ................................................................. $ 269,969 $ 157,406
The accompanying notes are an integral part of these consolidated financial statements. 5 CORNERSTONE BANCORP AND SUBSIDIARY NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS Note 1. Nature of Business and Basis of Presentation Summary of Significant Accounting Principles A summary of significant accounting policies is included in the Cornerstone Bancorp (the "Company") 2009 Annual Report to Shareholders, which also contains the Company's audited financial statements for 2009 and is also included in the Form 10-K for the year ended December 31, 2009. Principles of Consolidation The consolidated financial statements include the accounts of Cornerstone Bancorp, the parent company, and Cornerstone National Bank (the "Bank"), its wholly owned subsidiary, and Crescent Financial Services, Inc., a wholly owned subsidiary of the Bank. All significant intercompany items have been eliminated in the consolidated statements. Certain amounts have been reclassified to conform to current year presentation. Management Opinion The accompanying consolidated financial statements have been prepared in accordance with generally accepted accounting principles for interim financial information and with the instructions for Form 10-Q. Accordingly they do not contain all the information and footnotes required by accounting principles generally accepted in the United States of America for complete financial statements. The financial statements in this report are unaudited. In the opinion of management, all adjustments necessary to present a fair statement of the results for the interim period have been made. Such adjustments are of a normal and recurring nature. The results of operations for any interim period are not necessarily indicative of the results to be expected for an entire year. These interim financial statements should be read in conjunction with the annual financial statements and notes thereto contained in the 2009 Annual Report on Form 10-K. Note 2. Earnings per Share FASB ASC 260, "Earnings per Share," requires that the Company present basic and diluted net income (loss) per common share. The assumed conversion of stock options creates the difference between basic and diluted net income per share. Income per share is calculated by dividing net income by the weighted average number of common shares outstanding for each period presented. The weighted average number of common shares outstanding for basic and diluted net loss per common share for the three month period ended March 31, 2010 was 2,213,274 shares. Outstanding options were excluded from the loss per share calculation as they are anti-dilutive as of March 31, 2010. The calculation of earnings per share includes the effect of the 5% stock dividend declared on April 13, 2010 as if it had been declared on January 1, 2010. Note 3. Stock Based Compensation As described in Notes 1 and 18 to the financial statements in the Company's Annual Report on Form 10-K for the year ended December 31, 2009, the Company has a stock-based employee and director compensation plan, which was approved by shareholders in 2003 (the "2003 Plan"). There have been no options granted in 2010 under the 2003 Plan. Refer to the notes to the financial statements in the Company's Annual Report on Form 10-K for the year ended December 31, 2009 for further information. For the three months ended March 31, 2010, the Company expensed $4,543 related to options granted in 2009, $4,297 related to options granted in 2008, $4,297 related to options granted in 2007, and $2,638, related to options granted in 2006. The expense is included in salaries and employee benefits in the accompanying consolidated statements of income. Prior to adopting the provisions of FASB ASC 718 the Company accounted for stock option awards under Accounting Principles Board Opinion No. 25, "Accounting for Stock Issued to Employees," and related interpretations. These awards are fully vested, and no compensation expense has been recognized related to these option awards. Following the 5% stock dividend declared on April 13, 2010, the adjusted total number of options outstanding was approximately 111,565 and the weighted average exercise price was $9.99 per share, all in accordance with the 2003 Plan. 6 Note 4. Estimates The preparation of consolidated financial statements in conformity with accounting principles generally accepted in the United States of America requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of interest and noninterest income and expenses during the reporting period. Actual results could differ from those estimates. The primary significant estimate in the accompanying consolidated financial statements is the allowance for loan losses. A discussion of the significant factors involved in estimating the allowance for loan losses is included in this Form 10-Q in "Management's Discussion and Analysis of Financial Condition and Results of Operations" in the section titled "Results of Operations" and in the Company's 2009 Form 10-K. The provision for income taxes and the valuation of other real estate owned are also considered significant estimates. Note 5. Concentrations of credit risk The Bank makes loans to individuals and small businesses located primarily in upstate South Carolina for various personal and commercial purposes. The Bank monitors the portfolio for concentrations of credit on a quarterly basis using North American Industry Codes ("NAIC") and using definitions required by regulatory agencies. The Bank has loans in two NAIC categories that each represents more than 10% of the portfolio. The NAIC concentrations are 20.5% in Residential Building Construction and 22.4% in Real Estate Rental and Leasing. The portfolio also has loans representing 21 other NAIC categories. The Bank has concentrations in loans collateralized by real estate according to the regulatory definition. Included in this segment of the portfolio is the category for construction and development loans. While the Bank does have a concentration of loans in this category, the Bank's business is managed in specific ways with the intention of helping to reduce the risks normally associated with construction lending. Management requires lending personnel to visit job sites, maintain frequent contact with borrowers and perform or commission inspections of completed work prior to issuing additional construction loan draws. Under current policy, loans are limited to 80% of cost of construction projects, and borrowers are required to meet minimum net worth requirements and debt service coverage ratios. Projects for construction of single family homes are generally limited to those projects with contracts for sale where the ultimate owner has a significant investment in the contract. These policies may be considered stricter than policies in place when some of the Bank's currently outstanding loans were originated. However, as loans mature or as new loans are made, the current guidelines described above would be used to underwrite construction loans. The Bank does not make long term (more than 15 years) mortgage loans to be held in its portfolio, does not offer loans with negative amortization features or long-term interest only features, or loans with loan to collateral value ratios in excess of 100% at the time the loan is made. The Bank does offer loan products with features that can increase credit risk during periods of declining economic conditions, such as adjustable rate loans, short-term interest-only loans, and loans with amortization periods that differ from the maturity date (i.e., balloon payment loans). However, the Bank evaluates each customer's creditworthiness based on the customer's individual circumstances, and current and expected economic conditions, and underwrites and monitors each loan for associated risks. Loans made with exceptions to internal loan guidelines and those with loan-to-value ratios in excess of regulatory loan-to-value guidelines are monitored and reported to the Board of Directors on a monthly basis. The regulatory loan-to-value guidelines permit exceptions to the guidelines up to a maximum of 30% of total capital for commercial loans and exceptions for all types of real estate loans up to a maximum of 100% of total capital. As of March 31, 2010, the Bank has $7.5 million of loans which exceed the regulatory loan to value guidelines. This amount is within the maximum allowable exceptions to the guidelines. Of the $7.5 million of loans with exceptions to the regulatory loan to value guidelines, $5.8 million were not exceptions at the time the loans were made, but became exceptions upon reappraisal. Management routinely reappraises real estate collateral based on specific criteria and circumstances. If additional collateral is available, the Bank may require the borrower to commit additional collateral to the loan or take other actions to mitigate the Bank's risk. Note 6. Income taxes The Company accounts for income taxes using a method whereby certain items of income and expense (principally provision for loan losses, depreciation, and prepaid expenses) are included in one reporting period for financial accounting purposes and another for income tax purposes. Refer to the notes to the Company's consolidated financial statements for the year ended December 31, 2009 for more information. To date in 2010, the Company recorded an income tax benefit of $158,399 compared to tax benefit of $6,670 in 2009. The primary reasons for the benefit in 2010 are the exclusion of nontaxable municipal bond 7 income and the net tax effect of loan charge-offs. In 2009, taxable income was primarily affected by the exclusion of nontaxable municipal bond income. As of March 31, 2010 management has evaluated its deferred tax items and does not believe that any require reserves as of March 31, 2010. The Company also believes that its income tax filing positions taken or expected to be taken in its tax returns will more likely than not be sustained upon audit by the taxing authorities, and does not anticipate any adjustments that will result in a material adverse impact on the Company's financial condition, results of operations, or cash flows. Therefore, no reserves for uncertain income tax positions have been recorded pursuant to ASC 740, "Income Taxes". Note 7. Fair Value Accounting Effective January 1, 2008, the Company adopted an accounting standard which expands disclosures about fair value measurements used in the financial statements. The standard defines fair value as the exchange price that would be received for an asset or paid to transfer a liability (an exit price) in the principal or most advantageous market for the asset or liability in an orderly transaction between market participants on the measurement date. The standard also establishes a fair value hierarchy which requires an entity to maximize the use of observable inputs and minimize the use of unobservable inputs when measuring fair value. The standard describes three levels of inputs that may be used to measure fair value: Level 1-Quoted prices in active markets for identical assets or liabilities. Level 1 assets and liabilities include debt and equity securities and derivative contracts that are traded in an active exchange market, as well as U.S. Treasuries and money market funds. Level 2-Observable inputs other than Level 1 prices such as quoted prices for similar assets or liabilities; quoted prices in markets that are not active; or other inputs that are observable or can be corroborated by observable market data for substantially the full term of the assets or liabilities. Level 2 assets and liabilities include debt with quoted prices that are traded less frequently than exchange-traded instruments, mortgage-backed securities, municipal bonds, corporate debt securities, and derivative contracts whose value is determined using a pricing model with inputs that are observable in the market or can be derived principally from or corroborated by observable market data. This category generally includes certain derivative contracts and impaired loans. Level 3-Unobservable inputs that are supported by little or no market activity and that are significant to the fair value of the assets or liabilities. Level 3 assets and liabilities include financial instruments whose value is determined using pricing models, discounted cash flow methodologies, or similar techniques, as well as instruments for which the determination of fair value requires significant management judgment or estimation. For example, this category generally includes certain private equity investments, retained residual interests in securitizations, residential mortgage servicing rights, and highly-structured or long-term derivative contracts. During the quarter ended March 31, 2010, there were no significant transfers of assets between categories. Note 8. Evaluation of subsequent events In accordance with the accounting standard regarding subsequent events, management performed an evaluation to determine whether or not there have been any subsequent events since the balance sheet date. Note 9. Recently issued accounting standards The following is a summary of recent authoritative pronouncements that may affect accounting, reporting, and disclosure of financial information by the Company: The FASB issued ASU 2009-05, "Fair Value Measurements and Disclosures (Topic 820) - Measuring Liabilities at Fair Value" in August, 2009 to provide guidance when estimating the fair value of a liability. When a quoted price in an active market for the identical liability is not available, fair value should be measured using (a) the quoted price of an identical liability when traded as an asset; (b) quoted prices for similar liabilities or similar liabilities when traded as assets; or (c) another valuation technique consistent with the principles of Topic 820 such as an income approach or a market approach. If a restriction exists that prevents the transfer of the liability, a separate adjustment related to the restriction is not required when estimating fair value. The ASU was effective October 1, 2009 for the Company and had no impact on financial position or operations. In January 2010, fair value guidance was amended to require disclosures for significant amounts transferred in and out of Levels 1 and 2 and the reasons for 8 such transfers and to require that gross amounts of purchases, sales, issuances and settlements be provided in the Level 3 reconciliation. The new disclosures are effective for the Company for the current quarter and have been reflected in the Note 7 above. Guidance related to subsequent events was amended in February 2010 to remove the requirement for an SEC filer to disclose the date through which subsequent events were evaluated. The amendments were effective upon issuance and had no significant impact on the Company's financial statements. Accounting standards that have been issued or proposed by the FASB that do not require adoption until a future date are not expected to have a material impact on the consolidated financial statements upon adoption. CAUTIONARY NOTICE WITH RESPECT TO FORWARD LOOKING STATEMENTS Statements included in this report which are not historical in nature are intended to be, and are hereby identified as "forward looking statements" for purposes of the safe harbor provided by Section 21E of the Securities Exchange Act of 1934, as amended. Words such as "estimate," "project," "intend," "expect," "believe," "anticipate," "plan," "may," "will," "should," "could," "would," "assume," "indicate," "contemplate," "seek," "target," "potential," and similar expressions identify forward-looking statements. The Company cautions readers that forward looking statements including without limitation, those relating to the Company's new offices, future business prospects, revenues, working capital, adequacy of the allowance for loan losses, liquidity, capital needs, interest costs, and income, are subject to certain risks and uncertainties that could cause actual results to differ from those indicated in the forward looking statements, due to several important factors identified in this report, among others, and other risks and factors identified from time to time in the Company's other reports filed with the Securities and Exchange Commission. These forward-looking statements are based on our current expectations, estimates and projections about our industry, management's beliefs, and assumptions made by management. Such information includes, without limitation, discussions as to estimates, expectations, beliefs, plans, strategies, and objectives concerning the Company's future financial and operating performance. These statements are not guarantees of future performance and are subject to risks, uncertainties and assumptions that are difficult to predict, particularly in light of the fact that the Company is a relatively new company with limited operating history. Therefore, actual results may differ materially from those expressed or forecasted in such forward-looking statements. The risks and uncertainties include, but are not limited to: o future economic and business conditions; o the Company's growth and ability to maintain growth; o governmental monetary and fiscal policies; o legislative and regulatory changes; o actions taken by regulatory authorities; o the effect of interest rate changes on our level, costs and composition of deposits, loan demand, and the values of our loan collateral, securities, and interest sensitive assets and liabilities; o the indirect effects on demand for the Company's mortgage loan products arising from effects on the overall market of the subprime mortgage loan situation and government programs; o the effects of competition from a wide variety of local, regional, national and other providers of financial, investment and insurance services, as well as competitors that offer banking products and services by mail, telephone, computer, and/or the Internet; o credit risks; o higher than anticipated levels of defaults on loans; o perceptions by depositors about the safety of deposits; o failure of our customers to repay loans; o failure of assumptions underlying the establishment of the allowance for loan losses, including the value of collateral securing loans; 9 o the risks of opening new offices, including, without limitation, the related costs and time of building customer relationships and integrating operations, and the risk of failure to achieve expected gains, revenue growth and/or expense savings; o changes in accounting policies, rules, and practices; o cost and difficulty of implementing changes in technology or products; o loss of consumer confidence and economic disruptions resulting from terrorist activities; o ability to weather the current economic downturn; o loss of consumer or investor confidence; and o other factors and information described in this report and in any of the other reports we file with the Securities and Exchange Commission under the Securities Act of 1934. All forward-looking statements are expressly qualified in their entirety by this cautionary notice. The Company undertakes no obligation to publicly update or revise any forward-looking statements, whether as a result of new information, future events or otherwise. In light of these risks, uncertainties, and assumptions, the forward-looking events discussed in this report might not occur. Website References References to the Bank's website included in, or incorporated by reference into, this report are for information purposes only, and are not intended to incorporate the website by reference into this report. Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operation General Cornerstone Bancorp, (the "Company") is a bank holding company and has no operations other than those carried on by its wholly owned subsidiary, Cornerstone National Bank (the "Bank"). The Bank commenced business in 1999, and conducts a general banking business from three offices in the Easley area of Pickens County, in the Berea area of Greenville County, and in the Powdersville area of Anderson County, South Carolina. In 2004, the Bank established a wholly owned subsidiary, Crescent Financial Services, Inc. ("Crescent"), which is an insurance agency that has not yet engaged in any significant operations. Effect of Economic Trends During 2008 and 2009, the Federal Deposit Insurance Corporation ("FDIC"), the Federal Reserve, the Department of the Treasury and Congress have taken a number of actions designed to alleviate or correct problems in the financial services industry. A number of these initiatives were directly applicable to community banks. Congress enacted the Emergency Economic Stabilization Act of 2008 which, among other things, temporarily increased the maximum amount of FDIC deposit insurance from $100,000 to $250,000 and created a Troubled Assets Relief Program ("TARP") administered by Treasury. In October, 2008, Treasury announced a Capital Purchase Program ("CPP") under TARP to increase the capital of healthy banks. Under the CPP, Treasury would purchase preferred stock with warrants from qualified banks and bank holding companies in an amount up to 3% of the seller's risk-weighted assets as of September 30, 2008. Institutions wishing to participate in the CPP were required to file an application with their principal federal regulators. The Company filed such an application and received preliminary approval to sell preferred stock to the Treasury, but ultimately elected not to participate in the CPP because of (i) the cost of the preferred stock, (ii) the open-ended administrative burdens associated with the preferred stock, including having to agree to allow Treasury to amend unilaterally the stock purchase agreement to comply with subsequent changes in applicable federal statutes, (iii) the fact that the Company and the Bank were already well capitalized under regulatory guidelines and expected to continue to be so, and (iv) management's belief that other sources of capital were, and would continue to be, available should additional capital be needed. The FDIC also implemented in October, 2008, a Temporary Liquidity Guarantee Program consisting of a deposit insurance component pursuant to which it undertook to provide deposit insurance in an unlimited amount for non-interest bearing transaction accounts, and a debt guarantee component pursuant to which it undertook to fully guarantee senior, unsecured debt issued by banks or bank holding companies. Coverage of both components was automatic until December 5, 2008, at which time covered institutions could opt out of one or both of the components. Institutions not opting out would be charged fees for their 10 participation in the components. The Bank did not opt out of either component. The deposit insurance component expires June 30, 2010. An unfortunate consequence of the difficulties that have beset the banking industry in the last two years has been a large increase in bank failures, which has led to substantial claims being made against the FDIC's Deposit Insurance Fund. In order to increase the amount in the Deposit Insurance Fund to reflect the increased risk of additional bank failures and insurance claims, the FDIC has raised its assessments on banks. The FDIC also voted to require FDIC insured institutions to prepay the premiums for the years 2010, 2011, and 2012 on December 30, 2009. Further, there can be no assurance that additional payments in the form of special assessments or higher premiums will not be required in the future as the FDIC's Deposit Insurance Fund absorbs losses resulting from failed institutions. The Bank expensed $62,917 of the prepaid premium during the first quarter of 2010. Additional governmental efforts to ameliorate the problems afflicting the banking industry have been adopted or proposed, or are being considered by Congress and various governmental entities. On June 17, 2009, the Obama Administration unveiled its plans for reorganizing the regulatory system for financial institutions and Congressional action is pending. The proposal raises many issues for banks and savings associations. The Company is presently unable to predict the impact of any such changes, although it appears that they are likely to increase operating expenses in the near term without creating completely offsetting benefits for community banks. Throughout 2008, 2009 and 2010, the Federal Open Market Committee of the Federal Reserve ("FOMC") has held its target short-term interest rates at very low levels by historical standards. The FOMC has done this as part of its response to the economic turmoil currently dominating the U.S. economy. As a result of the levels of short-term interest rates, the Bank's net interest margin has been adversely impacted. Nevertheless, management expects that the net interest margin will improve over the remainder of 2010. However, the Company and the Bank may be exposed to interest rate risk if market interest rates move significantly in a short period of time. Management monitors interest rate risk, but if one or more of its assumptions regarding the timing or magnitude of changes in balances or interest rates proves to be incorrect, the Company's interest margin, and its profitability could be impacted. Additionally, if the real estate markets and unemployment levels in South Carolina do not improve in the near future, the Company could face additional nonperforming assets. The current outlook for the national economy in the United States remains cautiously positive. Even so, management expects that economic conditions will continue to affect financial companies throughout the remainder of 2010. Specifically, unemployment is expected to remain high in the near term, and the real estate markets will only improve slowly. We will continue to monitor both the local and national economic conditions in an effort to minimize any negative impact on the Company. Results of Operations for the Three Months Ended March 31, 2010 and 2009 Summary The Company recorded a loss of $240,575 during the first quarter of 2010 or $ (.11) per share compared to income of $41,896 during the first quarter of 2009 or $.02 per share, after giving effect to the five percent stock dividend declared in 2010. The primary reason for the decline in earnings is an increase in the provision for loan losses. Due to the closure of the Bank's mortgage loan origination department, the Company also experienced a decrease in mortgage loan origination fees in 2010 compared to the first quarter of 2009. However, the closure of the mortgage department also decreased general and administrative costs, offsetting the loss of income. The increase in the net interest margin partially offset the increased provision for loan losses in 2010. The Bank also experienced an increase in other expense in 2010 compared to 2009, primarily due to foreclosure costs and carrying costs for real estate acquired in foreclosure. Net Interest Income Net interest income is the primary driver of net income for the Company. Net interest income is equal to the difference between interest income earned on the Company's interest earning assets and the interest paid on its interest bearing liabilities. The Company's net interest margin increased to 3.13% in the first quarter of 2010 from 2.76% in the first quarter of 2009. The primary reason for the increase was a decrease in the average rate paid on interest bearing liabilities. For the quarter ended March 31, 2010 the Bank paid an average of 1.95% on interest bearing liabilities, compared with an average of 2.53% on interest bearing liabilities in the 2009 quarter. 11 The table below illustrates the average balances of interest earning assets and interest bearing liabilities and the resulting annualized yields and costs for the three month periods ended March 31, 2010 and 2009.
March 31, 2010 March 31, 2009 -------------- -------------- Average Average Average Average Balance Interest Yield/ Cost Balance Interest Yield/ Cost ------- -------- ----------- ------- -------- ----------- Investments ............................ $ 28,789,515 $ 268,242 3.78% $ 21,157,694 $ 251,788 4.83% Federal Funds Sold ..................... 2,239,000 315 .06% 342,700 165 .20% Loans, excluding nonaccruals ........... 127,442,354 1,769,282 5.63% 130,580,290 1,738,030 5.40% Other interest earning assets .......... 6,459,977 2,065 .13% 8,791,938 2,391 .11% ------------ ---------- ------------ ---------- Total interest earning assets ....... 164,930,846 2,039,904 5.02% 160,872,622 1,992,374 5.02% ============ ---------- ============ ---------- Interest bearing transaction accounts .. 12,823,905 15,092 .48% 12,797,308 21,330 .68% Savings and money market ............... 49,075,728 214,027 1.77% 24,633,537 118,960 1.96% Time deposits .......................... 80,464,063 422,886 2.13% 89,204,351 631,209 2.87% ------------ ---------- ------------ ---------- Total interest bearing deposits ..... 142,363,696 652,005 1.86% 126,635,196 771,499 2.47% Customer repurchase agreements and Federal Funds purchased ............ 3,081,333 12,662 1.67% 4,474,792 27,388 2.48% Borrowings from FHLB Atlanta ........... 9,459,051 59,678 2.56% 8,098,112 56,745 2.84% Broker repurchase agreements ........... 5,000,000 44,034 3.57% 5,000,000 43,550 3.53% ------------ ---------- ------------ ---------- Total interest bearing liabilities .. $159,904,080 768,379 1.95% $144,208,100 899,182 2.53% ============ ---------- ============ ---------- Net interest income .................... $1,271,525 $1,093,192 ========== ========== Interest rate spread ................... 3.07% 2.49% Interest margin ........................ 3.13% 2.76%
The Bank, which accounts for all of the Company's sensitivity to changes in interest rates, measures interest sensitivity using various methods. Using a static GAP measurement, which compares the amount of interest sensitive assets repricing within a one year time period as compared to the amount of interest sensitive liabilities repricing within the same time frame, the Bank's sensitivity to changes in interest rates can be analyzed. This method does not take into account loan prepayments and other non-contractual changes in balances and the applicable interest rates, but it does give some information as to possible changes in net interest income that could be expected simply as a result of changes in interest rates. As of March 31, 2010, the Bank's cumulative static GAP ratio was .68 through 12 months assuming all non-maturing deposits reprice immediately. This indicates a liability-sensitive position as of March 31, 2010. However, this measurement is based on assumptions about the repricing of various accounts, which may not occur as they have been modeled. Based on a static GAP measurement, in a period of rising interest rates, asset-sensitive balance sheets would normally be expected to experience a widening of the net interest margin, while liability-sensitive balance sheets would normally be expected to experience pressure on the net interest margin. In a period of decreasing interest rates, liability-sensitive balance sheets would normally be expected to experience a widening of the net interest margin and asset-sensitive balance sheets would normally be expected to experience the opposite effect. Various market factors can, however, affect the net interest margin and cause it to react differently to changes in interest rates than would normally be expected under the static GAP model. For example, although the Bank has the contractual right to decrease rates on its liabilities as the Federal Reserve lowers rates, in 2008 and 2009, the Bank experienced difficulty in lowering rates on its liabilities because it was competing for funds with many other entities, some of which faced significant liquidity needs. This competition for funds resulted in an increase in rates or a lack of decreases in rates by many of the sources the Bank ordinarily uses for funding. This illustrates the difficulty in predicting changes in interest income using various analytical tools such as the static GAP measurement. 12 Provision for loan losses For the quarter ended March 31, 2010, the Company expensed $620,000 to the provision for loan losses. The Bank sets the allowance for loan loss levels in response to trends in the portfolio and the level of potential problem loans. During the quarter, charge-offs totaled $269,969 and there were no recoveries. During the quarter three loans became past due which were dependent on sales of real estate for repayment. For various reasons the sales did not occur during the quarter, and additional allowance for loan losses was provided for these loans in the event that the expected transactions do not occur in a timely manner. Management has sought to provide the amount estimated to be necessary to maintain an allowance for loan losses that is adequate to cover the level of loss that management believed to be inherent in the portfolio as a whole, taking into account the Company's experience, economic conditions and information about borrowers available at the time of the analysis. However, management expects further deterioration of economic conditions in the Company's market areas in the short-term is possible, especially with respect to real estate related activities and real property values. Consequently, management expects that further increases in provisions for loan losses could be needed in the future. See "Balance Sheet Review- Loans" for additional information on the Company's loan portfolio and allowance for loan losses. Noninterest income The primary recurring drivers of noninterest income for the Company and the Bank are service charges on deposit accounts. Prior to the third quarter of 2009, mortgage loan origination fees also played an important role. For the three months ended March 31, 2010, the Company earned $126,404 in service charges on deposit accounts compared to $132,891 for the same period in 2009. During the turmoil in the residential mortgage markets over the last 18 months when national mortgage lenders changed or deleted programs and tightened credit standards and when the appraisal process became time-consuming and difficult, mortgage origination fees declined. The Company temporarily suspended its conventional mortgage origination department in the fourth quarter of 2009. When the market for conventional mortgages returns, management plans to reevaluate the possibility of offering long-term mortgage loans to its customers. Mortgage loan origination fees in the first quarter of 2009 were $54,518. Other noninterest income increased to $45,799 in the first quarter of 2010 from $37,962 for the first quarter of 2009 due to an increase in brokerage fee income. The increase in brokerage income partially offset the decreases in mortgage origination income. In 2009 the Bank recorded a gain on the sale of a security in the amount of $52,300. There were no such sales of securities in 2010. Noninterest expense Noninterest expense totaled $1.2 million for the three months ended March 31, 2010 and $1.15 million for the three months ended March 31, 2009. Other expense increased $116,060 or 62.5% in 2010 over 2009 levels primarily due to increases in expenses related to other real estate owned. As other real estate is sold these expenses are expected to decline. The increase was partially offset by the $36,932 decrease in salaries and employee benefits resulting primarily from the suspension of the conventional mortgage origination department. Balance Sheet Review Investments At March 31, 2010, the Bank held available for sale securities with a fair value of $26.2 million and other investments with an amortized cost of $1.14 million. Available for sale securities include government sponsored enterprise bonds, mortgage-backed securities, and municipal bonds. The fair values of the Company's available for sale investments, other than municipal bonds, are measured on a recurring basis using quoted market prices in active markets for identical assets and liabilities ("Level 1 inputs" under FASB ASC 820). Due to the lower level of trading activity in municipal bonds, the fair market values of these investments are measured based on other inputs such as inputs that are observable or can be corroborated by observable market data for similar assets with substantially the same terms ("Level 2 inputs" under FASB ASC 820). We obtain our fair value information via our bond accounting vendor. This vendor obtains municipal bond market pricing from Interactive Data, a provider of third-party financial market data. The Company does not adjust market pricing received from this vendor, but we do request that a qualified analyst review each municipal bond in the portfolio to determine if any other information is available that would call into question the market values used. 13 Other investments include stock in the Federal Home Loan Bank of Atlanta and the Federal Reserve Bank. These stocks are held at amortized cost because they have no quoted market value and have historically been redeemed at par value. However, there can be no assurance that these stocks will, in fact, be redeemed at cost in the future. As of March 31, 2010, investments available for sale had a net unrealized gain of $405,530. As of March 31, 2010, we held seven investments that are in an unrealized loss position. None had been in an unrealized loss position for more than 12 months. The amount of the total unrealized loss in the portfolio is $60,449. Four of the seven securities are government sponsored agency bonds and three are government-sponsored mortgage backed securities. The Bank has historically had the intent and ability to hold investments until maturity, and expects to be able to continue to do so. Based on our review of these securities, we do not currently expect that these losses are other than temporary. Loans The following table summarizes the composition of our loan portfolio.
March 31, 2010 December 31, 2009 -------------- ----------------- % of % of Amount Loans Amount Loans ------ ----- ------ ----- Commercial and industrial ...................... $ 12,778,871 9.6% $ 13,418,581 9.8% Real Estate - construction ..................... 50,981,978 38.1 53,827,245 39.1 Real Estate - mortgage 1-4 family residential .................. 21,623,663 16.2 23,284,692 16.9 Nonfarm, nonresidential ................. 43,106,752 32.2 41,810,020 30.3 Multifamily residential ................. 2,386,054 1.8 2,520,201 1.8 Consumer installment ........................... 1,192,649 .9 1,346,807 1.0 Other Loans .................................... 1,598,235 1.2 1,555,705 1.1 ------------ ----- ------------ ----- Total Loans ............................. 133,668,202 100.0% 137,763,251 100.0% ===== ===== Less allowance for loan losses ......... (3,045,368) (2,695,337) ------------ ------------ Net Loans ........................... $130,622,834 $135,067,914 ============ ============
Activity in the allowance for loan losses for the first three months of 2010 and 2009 is presented below.
Three months ended Three months ended March 31, 2010 March 31, 2009 -------------- -------------- Allowance for loan losses, beginning of year ................................. $ 2,695,337 $ 1,698,563 Provision for losses ......................................................... 620,000 160,000 Charge-offs .................................................................. (269,969) (157,906) Recoveries ................................................................... - 500 ----------- ----------- Allowance for loan losses, end of period ............................... $ 3,045,368 $ 1,701,157 =========== ===========
Ratios As of or for the As of or for the three three months ended months ended March 31, 2010 March 31, 2009 -------------- -------------- Nonperforming loans to loans at end of period .................................. 5.98% 3.44% Net charge-offs to average loans outstanding ................................... (.20%) (.12%) Net charge-offs to loans at end of period ...................................... (.20%) (.11%) Allowance for loan losses to average loans ..................................... 2.24% 1.27% Allowance for loan losses to loans at end of period ............................ 2.28% 1.24% Net charge-offs to allowance for loan losses ................................... (8.87%) (9.25%) Net charge-offs to provision for loan losses ................................... (43.5%) (98.4%)
14 Charge-offs totaled $269,969 for the first three months of 2010. Of the total net charge-offs in 2010, 65.9% related to construction loans, and 34.1% related to loans secured by residential real estate. Loans which management identifies as impaired generally will be nonperforming loans or restructured loans. Nonperforming loans include nonaccrual loans or loans which are 90 days or more delinquent as to principal or interest payments. As of March 31, 2010, the Bank had nonaccrual loans of $8.0 million representing 21 loans, a decrease of $1.7 million or 17.5% from December 31, 2009. With the exception of one loan, these loans are secured by real estate. In addition to loans on nonaccrual, as of March 31, 2010, management considers another $5.5 million of loans impaired. Of that amount, $3.7 million have been restructured and are in compliance with restructured terms. The remaining $1.8 million are currently past due, but not on nonaccrual. Management is currently assessing the collateral and other circumstances associated with these additional impaired loans in an effort to determine the amount of potential impairment. These loans are currently being carried at management's best estimate of net realizable value, although no assurance can be given that no further losses will be incurred on these loans until the collateral has been acquired and liquidated or other arrangements can be made. The foreclosure process is lengthy (generally a minimum of six months and often much longer), so loans may be on nonaccrual status for a significant time period prior to moving to other real estate owned and sold. As soon as the amount of impairment is estimable, the amount of impairment is generally charged against the allowance for loan losses. However, until losses can be estimated via appraisal or other means, a portion of the allowance may be allocated to specific impaired loans. The timing of the appraisal varies from loan to loan depending on the Bank's ability to access the property. As of March 31, 2010 the allowance for loan losses included approximately $331,000 of reserves specifically related to impaired loans. Management's estimates of net realizable, or fair value, of real estate collateral are obtained (on a nonrecurring basis) using independent appraisals, less estimated selling costs. Estimates of net realizable value for equipment and other types of collateral are estimated based on input from equipment dealers and other professionals. If an appraisal is not available or management determines that fair value of the collateral is further impaired below the appraised value and there is not observable market price, the Company records the impaired loan as determined by Level 3 inputs as defined by FASB ASC 820, "Fair Value Measurements and Disclosures". Management identifies and maintains a list of potential problem loans. These are loans that are not included in nonaccrual status or loans that are past due 90 days or more and still accruing interest. A loan is added to the potential problem list when management becomes aware of information about possible credit problems of borrowers that causes serious doubts as to the ability of such borrowers to comply with the current loan repayment terms. These loans are designated as such in order to be monitored more closely than other credits in the Bank's portfolio. There were loans in the amount of $1.1 million that have been determined by management to be potential problem loans at March 31, 2010. These loans are generally secured by real estate, and in many cases have been reappraised. Should potential problem loans become impaired, management will charge-off any impairment amount as soon as the amount of impairment can be determined. Other real estate owned As of March 31, 2010 the Company held other real estate owned as a result of foreclosures totaling $7.3 million representing 38 properties. Of the total recorded amount, $1.7 million relates to five commercial properties or commercial lots. The remainder represents 33 residential properties or lots. If, at the time of foreclosure, the fair value is determined to be lower than the Company's recorded investment, a charge-off is recorded at that time. If an appraisal is available, the appraisal will be used to estimate fair value. If an appraisal is not available or management determines that fair value of the collateral is further impaired below the appraised value and there is not an observable market price, the Company records the impaired loan as determined by Level 3 inputs as defined by FASB ASC 820. Other assets As of March 31, 2010 other assets included accrued interest receivable on loans and investment securities available for sale totaling over $700,000, receivables related to income taxes over $800,000, deferred tax assets over $800,000 prepaid expenses over $1.1 million and several miscellaneous items. Prepaid expenses include $856,000 of FDIC premiums for 2010 through 2012 that were required to be prepaid to the FDIC in December 2009. See Note 6 to the unaudited consolidated financial statements above for additional information related to income taxes. 15 Deposits The following table shows the average balance amounts and the average rates we paid on deposits for the three months ended March 31, 2010 and 2009.
Average Deposits ---------------- Three months ended Three months ended March 31, 2010 March 31, 2009 -------------- -------------- Amount Rate Amount Rate ------ ---- ------ ---- Noninterest bearing demand ................................... $ 11,226,243 -% $ 9,964,060 -% Interest bearing transaction accounts ........................ 12,823,905 .48% 12,797,308 .68% Savings and money market ..................................... 49,075,728 1.77% 24,633,537 1.96% Time deposits ................................................ 80,464,063 2.13% 89,204,351 2.87% ------------- ------------- Total average deposits ................................. $ 153,589,939 $ 136,599,256 ============= =============
Included in total deposits as of March 31, 2010 were $35.8 million of deposits considered to be brokered deposits based on regulatory definitions. These deposits come from a variety of sources, and are generally fully insured by FDIC. The Company uses brokered deposits to fund various maturities that may not be attractive to customers in the local market area or to supplement local time deposits when interest rates offered locally are higher than interest rates on similar products in other markets. Borrowings The Bank's outstanding borrowings are described in the following table. The amounts listed as broker repurchase agreements are collateralized borrowings from other institutions. Retail repurchase agreements with the Bank's customers are not included in the table below. Borrowings at or for the three months ended March 31, 2010
Maximum Weighted Period- Month-end Average Ending Balance End Rate Balance Average Balance Rate Paid -------------- -------- ------- --------------- --------- Federal Home Loan Bank advances ........ $ 8,205,463 2.51% $9,730,602 $ 9,459,051 2.56% Broker repurchase agreements ........... $ 5,000,000 3.48% $ 5,000,000 $ 5,000,000 3.57%
Estimated Fair Value of Financial Instruments The estimated fair values of the Company's financial instruments were as follows:
March 31, 2010 -------------- Carrying Fair Amount Value ------ ----- Financial Assets Cash and due from banks ........................................ $ 9,602,478 $ 9,602,478 Federal funds sold ............................................. 3,640,000 3,640,000 Investment securities .......................................... 27,311,233 27,311,233 Loans, gross ................................................... 133,668,202 135,173,390 Cash surrender value of life insurance policies ................. 1,855,663 1,855,663 Financial Liabilities Deposits ....................................................... 154,306,135 152,594,211 Customer repurchase agreements ................................. 3,184,245 3,184,245 Borrowings from FHLB ........................................... 8,205,463 8,270,471 Broker repurchase agreements ................................... 5,000,000 5,263,387
16 The Company adopted a new accounting standard on January 1, 2008 which requires disclosure of the levels of inputs used in determining fair value of the Company's assets measured at fair value, including available for sale securities and other real estate owned. The table below presents the balances of assets measured at fair value on a recurring or nonrecurring basis by level within the hierarchy of inputs that may be used to measure fair value.
March 31, 2010 -------------- Total Level 1 Level 2 Level 3 ----- ------- ------- ------- Investment securities, recurring .................... $27,311,233 $19,833,370 $6,335,813 $ 1,142,050 Other real estate owned, nonrecurring ............... $ 7,254,388 $ - $ - $ 7,254,388 Impaired loans, nonrecurring ........................ $13,487,442 $ - $ - $13,487,442 March 31, 2009 -------------- Total Level 1 Level 2 Level 3 ----- ------- ------- ------- Investment securities, recurring .................... $28,902,143 $21,336,460 $6,423,633 $1,142,050 Other real estate owned, nonrecurring ............... $ 6,712,948 $ - $ - $6,712,948 Impaired loans, nonrecurring ........................ $ 5,619,604 $ - $ - $5,619,604
Liquidity Liquidity is the ability to meet current and future obligations through liquidation or maturity of existing assets or the acquisition of liabilities. The Company manages both assets and liabilities to achieve appropriate levels of liquidity. Cash and short-term investments are the Company's primary sources of asset liquidity. These funds provide a cushion against short-term fluctuations in cash flow from both deposits and loans. The investment portfolio is the Company's principal source of secondary asset liquidity. However, the availability of this source of funds is influenced by market conditions. Individual and commercial deposits and borrowings are the Company's primary source of funding for credit activities. The Company has lines of credit with unrelated banks and with the FHLB of Atlanta. The bank lines total $4.1 million and are available on a one to fourteen day basis for general corporate purposes of the Bank. Of these lines, $2.1 million will only be available if eligible collateral is pledged. Currently no collateral is pledged, nor are there any borrowings under the line. The FHLB line is based on the availability of eligible collateral, with a maximum borrowing capacity of 10% of Bank assets. The Bank currently has $8.2 million borrowed under the FHLB line. Approximately $10.7 million is available under the FHLB line, assuming adequate collateral is available for pledging. Management believes that the Company's liquidity sources are adequate to meet its operating needs. Off Balance Sheet Risk Through the operations of the Bank, the Company has contractual commitments to extend credit in the ordinary course of its business activities. These commitments are legally binding agreements to lend money to the Bank's customers at predetermined interest rates for a specified period of time. Commitments are subject to various conditions which are expected to reduce the credit risk to the Company. The Bank's management evaluates each customer's creditworthiness on a case-by-case basis. The amount of collateral obtained, if deemed necessary by management upon extension of credit, is based on a credit evaluation of the borrower. Collateral varies but may include accounts receivable, inventory, property, plant and equipment, and commercial or residential real estate. Management manages the credit risk on these commitments by subjecting them to normal underwriting and risk management processes. At March 31, 2010, the Bank had issued commitments to extend credit of $16.5 million through various types of lending arrangements and overdraft protection arrangements. Of that amount, approximately $9.4 million was undisbursed amounts of closed-end loans, $1.2 million was related to unused overdraft protection, and approximately $5.9 million was related to lines of credit. The Bank also had standby letters of credit outstanding of approximately $658,186 at March 31, 2010. An immaterial amount of fees were collected related to these commitments and letters of credit during the three-month period ended March 31, 2010. Historically many of these commitments and letters of credit expire unused, and the total amount committed as of March 31, 2010 is not necessarily expected to be funded. 17 The Bank offers an automatic overdraft protection product to checking account customers. Each qualified account with the automatic overdraft protection feature can have up to $500 of paid overdrafts. Unused overdraft protection was $1.2 million as of March 31, 2010, the majority of which is not expected to be utilized. As of March 31, 2010, accounts in overdraft status totaled $13,711. Capital Resources The capital base for the Company decreased by $117,761 for the first three months of 2010, due to net losses, offset by stock based compensation activity and increases in accumulated other comprehensive income. Stock based compensation activity includes the impact of accounting requirements on unexercised options. The Company's ending equity to asset ratio was 9.48% as of March 31, 2010. The Company average equity to assets ratio was 9.51% for the quarter ended March 31, 2010. The following table details return on average assets (net income divided by average total assets, annualized in 2010), return on average equity (net income divided by average total equity, annualized if necessary), the ratio of average equity to average assets and the Dividend Payout Ratio (dividends paid divided by net income) as of and for the three months ended March 31, 2010 and as of and for the year ended December 31, 2009. The annualized return on assets and return on equity for the first three months of 2010 have increased compared to return on assets and return on equity for the year ended December 31, 2009 due to improvements in our net interest margin. However, annualized results for the first quarter of 2010 may not be indicative of actual annual results for 2010.
Three- month period ended Year ended March 31, 2010 December 31, 2009 -------------- ----------------- (annualized) Return on average assets .......................... (.51%) (.75%) Return on average equity .......................... (5.35%) (7.21%) Ratio of average equity to average assets ......... 9.51% 10.42% Dividend payout ratio ............................. -% -%
The FDIC has established guidelines for capital requirements for banks. As of March 31, 2010, the Bank is considered well capitalized based on the capital levels that are required to be maintained according to FDIC guidelines as shown in the following table.
Capital Ratios Adequately Well Capitalized Capitalized Actual Requirement Requirement ------ ----------- ----------- Amount Ratio Amount Ratio Amount Ratio ------ ----- ------ ----- ------ ----- Total capital to risk weighted assets ................... $19,479 12.99% $14,993 10.0% $11,994 8.0% Tier 1 capital to risk weighted assets .................. $17,581 11.73% $ 8,996 6.0% $ 5,997 4.0% Tier 1 capital to average assets ........................ $17,581 9.27% $ 9,480 5.0% $ 7,584 4.0%
The Federal Reserve has also established guidelines for capital requirements for bank holding companies that are similar to the FDIC's guidelines for banks. At March 31, 2010 the Company exceeded all of the minimum requirements of the Federal Reserve guidelines. Because the Bank had a relatively high level of nonperforming assets at March 31, 2010 and recorded a loss for the year ended December 31, 2009 and for the first quarter of 2010, the Bank expects the OCC to require the Bank to maintain capital ratios in excess of those required to be well capitalized as shown in the table above, but less than the Bank's actual ratios as of March 31, 2010. The Bank also expects to enter into an agreement with the OCC to take other specified actions intended to reduce the risks faced by the Bank. The OCC will have the authority to enforce such an agreement with various regulatory actions. 18 Impact of Inflation Unlike most industrial companies, the assets and liabilities of financial institutions such as the Company are primarily monetary in nature. Therefore, interest rates have a more significant impact on the Company's performance than do the effects of changes in the general rate of inflation and changes in prices. In addition, interest rates do not necessarily move in the same magnitude as the prices of goods and services. As discussed previously, management seeks to manage the relationships between interest sensitive assets and liabilities in order to protect against wide rate fluctuations, including those resulting from inflation. Item 3. Quantitative and Qualitative Disclosures about Market Risk Market risk is the risk of loss from adverse changes in market prices and rates, which principally arises from liquidity risk and interest rate risk inherent in the Bank's lending, deposit gathering, and borrowing activities. Other types of market risks such as foreign currency exchange risk and commodity price risk do not normally arise in the ordinary course of our business. The Funds Management Committee of our Board of Directors, which meets quarterly, monitors and considers methods of managing exposure to liquidity and interest rate risk. Our Management monitors liquidity and interest rate risk on an on-going basis. Management is responsible for maintaining the level of interest rate sensitivity of our interest sensitive assets and liabilities and managing our liquidity within board-approved limits. Interest rate sensitivity "GAP" analysis measures the timing and magnitude of the repricing of assets compared with the repricing of liabilities and is an important part of asset/liability management. The objective of interest rate sensitivity management is to generate stable growth in net interest income, and to control the risks associated with interest rate movements. Management constantly reviews interest rate risk exposure and the expected interest rate environment so that adjustments in interest rate sensitivity can be made in a timely manner. ITEM 4T. Controls and Procedures. Based on the evaluation required by 17 C.F.R. Section 240.13a-15(b) or 240.15d-15(b) of the Company's disclosure controls and procedures (as defined in 17 C.F.R. Sections 240.13a-15(e) and 240.15d-15(e)), the Company's chief executive officer and chief financial officer concluded that such controls and procedures, as of the end of the period covered by this report, were effective. There has been no change in the Company's internal control over financial reporting during the most recent fiscal quarter that has materially affected, or is reasonably likely to materially affect, the Company's internal control over financial reporting. 19 Part II - Other Information ITEM 6. Exhibits Exhibits: 31-1 Rule 13a-14(a)/ 15d-14(a) Certifications of Chief Executive Officer 31-2 Rule 13a-14(a)/Rule 15d-14(a) Certifications of Chief Financial Officer 32 18 U.S.C. Section 1350 Certifications SIGNATURES Pursuant to the requirements of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned, thereunto duly authorized. Cornerstone Bancorp (Registrant) By: s/J. Rodger Anthony Date: May 11, 2010 ------------------------------------------------------- J. Rodger Anthony Chief Executive Officer By: s/Jennifer M. Champagne Date: May 11, 2010 ------------------------------------------------------- Jennifer M. Champagne Senior Vice President and Chief Financial Officer (Principal Financial Officer) 20 EX-31.1 2 cstn10q1-10ex31_1.txt Exhibit 31-1 CERTIFICATIONS I, J. Rodger Anthony, certify that: 1. I have reviewed this quarterly report on Form 10-Q of Cornerstone Bancorp; 2. Based on my knowledge, this report does not contain any untrue statement of a material fact or omit to state a material fact necessary to make the statements made, in light of the circumstances under which such statements were made, not misleading with respect to the period covered by this report; 3. Based on my knowledge, the financial statements, and other financial information included in this report, fairly present in all material respects the financial condition, results of operations and cash flows of the registrant as of, and for, the periods presented in this report; 4. The registrant's other certifying officer and I are responsible for establishing and maintaining disclosure controls and procedures (as defined in Exchange Act Rules 13a-15(e) and 15d-15(e)) and internal control over financial reporting (as defined in Exchange Act Rules 13a-15(f) and 15d-15(f)) for the registrant and have: a) Designed such disclosure controls and procedures, or caused such disclosure controls and procedures to be designed under our supervision, to ensure that material information relating to the registrant, including its consolidated subsidiaries, is made known to us by others within those entities, particularly during the period in which this report is being prepared; b) Designed such internal control over financial reporting, or caused such internal control over financial reporting to be designed under our supervision, to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements for external purposes in accordance with generally accepted accounting principles; c) Evaluated the effectiveness of the registrant's disclosure controls and procedures and presented in this report our conclusions about the effectiveness of the disclosure controls and procedures, as of the end of the period covered by this report based on such evaluation; and d) Disclosed in this report any change in the registrant's internal control over financial reporting that occurred during the registrant's most recent fiscal quarter (the registrant's fourth fiscal quarter in the case of an annual report) that has materially affected, or is reasonably likely to materially affect, the registrant's internal control over financial reporting; and 5. The registrant's other certifying officer and I have disclosed, based on our most recent evaluation of internal control over financial reporting, to the registrant's auditors and the audit committee of the registrant's board of directors (or persons performing the equivalent functions): a) All significant deficiencies and material weaknesses in the design or operation of internal control over financial reporting which are reasonably likely to adversely affect the registrant's ability to record, process, summarize and report financial information; and b) Any fraud, whether or not material, that involves management or other employees who have a significant role in the registrant's internal control over financial reporting. Date: May 11, 2010 s/J. Rodger Anthony --------------------------------- J. Rodger Anthony Chief Executive Officer EX-31.2 3 cstn10q1-10ex31_2.txt Exhibit 31-2 CERTIFICATIONS I, Jennifer M. Champagne, certify that: 1. I have reviewed this quarterly report on Form 10-Q of Cornerstone Bancorp; 2. Based on my knowledge, this report does not contain any untrue statement of a material fact or omit to state a material fact necessary to make the statements made, in light of the circumstances under which such statements were made, not misleading with respect to the period covered by this report; 3. Based on my knowledge, the financial statements, and other financial information included in this report, fairly present in all material respects the financial condition, results of operations and cash flows of the registrant as of, and for, the periods presented in this report; 4. The registrant's other certifying officer and I are responsible for establishing and maintaining disclosure controls and procedures (as defined in Exchange Act Rules 13a-15(e) and 15d-15(e)) and internal control over financial reporting (as defined in Exchange Act Rules 13a-15(f) and 15d-15(f)) for the registrant and have: a) Designed such disclosure controls and procedures, or caused such disclosure controls and procedures to be designed under our supervision, to ensure that material information relating to the registrant, including its consolidated subsidiaries, is made known to us by others within those entities, particularly during the period in which this report is being prepared; b) Designed such internal control over financial reporting, or caused such internal control over financial reporting to be designed under our supervision, to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements for external purposes in accordance with generally accepted accounting principles; c) Evaluated the effectiveness of the registrant's disclosure controls and procedures and presented in this report our conclusions about the effectiveness of the disclosure controls and procedures, as of the end of the period covered by this report based on such evaluation; and d) Disclosed in this report any change in the registrant's internal control over financial reporting that occurred during the registrant's most recent fiscal quarter (the registrant's fourth fiscal quarter in the case of an annual report) that has materially affected, or is reasonably likely to materially affect, the registrant's internal control over financial reporting; and 5. The registrant's other certifying officer and I have disclosed, based on our most recent evaluation of internal control over financial reporting, to the registrant's auditors and the audit committee of the registrant's board of directors (or persons performing the equivalent functions): a) All significant deficiencies and material weaknesses in the design or operation of internal control over financial reporting which are reasonably likely to adversely affect the registrant's ability to record, process, summarize and report financial information; and b) Any fraud, whether or not material, that involves management or other employees who have a significant role in the registrant's internal control over financial reporting. Date: May 11, 2010 s/Jennifer M. Champagne --------------------------- Jennifer M. Champagne Chief Financial Officer EX-32 4 cstn10q1-10ex32.txt Exhibit 32 Certifications Pursuant to 18 U.S.C. Section 1350 The undersigned, who are the chief executive officer and the chief financial officer of Cornerstone Bancorp, each hereby certifies that, to the best of his/her knowledge, the accompanying Form 10-Q of the issuer fully complies with the requirements of Section 13(a) or 15(d) of the Securities Exchange Act of 1934, and that information contained in the report fairly presents, in all material respects, the financial condition and results of operations of the issuer. May 11, 2010 s/J. Rodger Anthony ---------------------------- J. Rodger Anthony Chief Executive Officer s/Jennifer M. Champagne ---------------------------- Jennifer M. Champagne Chief Financial Officer -----END PRIVACY-ENHANCED MESSAGE-----