-----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, PiGhR7F503rgkTUgSUqaNejrPXT21ws5tbyuOXNoAdr+GieRhaJKkcMb7aHaWPiO gbKqtAcxD+jgoO9Jp3lOEw== 0000796534-01-500004.txt : 20010402 0000796534-01-500004.hdr.sgml : 20010402 ACCESSION NUMBER: 0000796534-01-500004 CONFORMED SUBMISSION TYPE: 10-K PUBLIC DOCUMENT COUNT: 4 CONFORMED PERIOD OF REPORT: 20001231 FILED AS OF DATE: 20010330 FILER: COMPANY DATA: COMPANY CONFORMED NAME: NATIONAL BANKSHARES INC CENTRAL INDEX KEY: 0000796534 STANDARD INDUSTRIAL CLASSIFICATION: NATIONAL COMMERCIAL BANKS [6021] IRS NUMBER: 541375874 STATE OF INCORPORATION: VA FISCAL YEAR END: 1231 FILING VALUES: FORM TYPE: 10-K SEC ACT: SEC FILE NUMBER: 000-15204 FILM NUMBER: 1586618 BUSINESS ADDRESS: STREET 1: PO BOX 90002 CITY: BLACKSBURG STATE: VA ZIP: 24062-9002 BUSINESS PHONE: 5405522011 MAIL ADDRESS: STREET 1: 100 SOUTH MAIN STREET STREET 2: PO BOX 90002 CITY: BLACKSBURG STATE: VA ZIP: 24062-9002 10-K 1 form-10k.txt FORM 10K FOR YEAR-ENDED 2000 UNITED STATES SECURITIES AND EXCHANGE COMMISSION Washington, D.C. 20549 Form 10-K Annual Report Pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934 For the fiscal year ended Commission file number December 31, 2000 O-15204 National Bankshares, Incorporated - -------------------------------------------------------------------------------- (Exact name of Registrant as specified in its charter) Virginia 54-1375874 - ------------------------------- ------------------------------------ (State or other jurisdiction of (I.R.S. Employer Identification No.) incorporation or organization) 101 Hubbard Street Blacksburg, Virginia 24060 - ---------------------------------------- -------------------- (Address of principal executive offices) Zip Code Registrant's telephone number, including area code (540) 951-6300 -------------------- Securities registered pursuant to Section 12(b) of the Act: None Securities registered pursuant to Section 12(g) of the Act: Common Stock, Par Value $2.50 per Share - -------------------------------------------------------------------------------- (Title of Class) Indicate by a check mark whether the Registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the Registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes X No ----- ----- Indicate by check mark if disclosure of delinquent filers pursuant to Item 405 of Regulation S-K is not contained herein, and will not be contained, to the best of Registrant's knowledge, in definitive proxy or information statements incorporated by reference in Part III of this Form 10-K or any amendment to this Form 10-K. X The aggregate market value of voting stock held by nonaffiliates of the Registrant as of March 7, 2001 was $63,550,526. (In determining this amount, the registrant assumes that all of its Directors and principal Officers are affiliates. Such assumption shall not be deemed conclusive for any other purposes.) Indicate the number of shares outstanding of each of the Registrant's classes of common stock, as of the latest practicable date. Class Outstanding at March 7, 2001 - ------------------------------ ------------------------------ Common Stock, $2.50 Par Value 3,511,377 DOCUMENTS INCORPORATED BY REFERENCE Selected information from the Registrants' Annual Report to Stockholders for the year ended December 31, 2000, is incorporated by reference into Parts I and II of this report. Selected information from the Registrant's Proxy Statement for the Annual Meeting to be held March 14, 2001 and filed with the Securities and Exchange Commission pursuant to Regulation 14A, is incorporated by reference into Part III of this report. (This report contains 43 pages.) (The Index of Exhibits are on pages 42 & 43.) Table of Contents Page Part I Item 1. Business 3 Item 2. Properties 31 Item 3. Legal Proceedings 31 Item 4. Submission of Matters to a Vote of Security Holders 31 Executive Officers of the Registrant 32 Part II Item 5. Market for Registrant's Common Equity and Related Stockholder Matters 33 Item 6. Selected Financial Data 33 Item 7. Management's Discussion and Analysis of Financial Condition and Results of Operations 33 Item 7A. Quantitative and Qualitative Disclosures About Market Risk 33 Item 8. Financial Statements and Supplementary Data 36 Item 9. Changes in and Disagreements with Accountants on Accounting and Financial Disclosure 36 Part III Item 10. Directors and Executive Officers of the Registrant 36 Item 11. Executive Compensation 36 Item 12. Security Ownership of Certain Beneficial Owners and Management 37 Item 13. Certain Relationships and Related Transactions 37 Part IV Item 14. Exhibits, Financial Statement Schedules, and Reports on Form 8-K 37 Signatures 41 Index to Exhibits 42-43 2 Part I ($ In Thousands Except Per Share Data) Item 1. Business. - ----------------- History and Business National Bankshares, Inc. (Bankshares) is a bank holding company organized under the laws of Virginia in 1986 and registered under the Bank Holding Company Act (BHCA). Except for a separate investment portfolio, Bankshares conducts all of its business operations through its two wholly-owned subsidiaries, The National Bank of Blacksburg (NBB) and Bank of Tazewell County (BTC), collectively referred to as "the Company". There are future plans to enter the insurance and investments sales business through a separate subsidiary. The National Bank of Blacksburg The National Bank of Blacksburg was originally chartered as the Bank of Blacksburg in 1891. Its state charter was converted to a national charter in 1922 and it became The National Bank of Blacksburg. NBB operates a full-service banking business from its headquarters in Blacksburg, Virginia, and its twelve area branch offices. NBB offers general retail and commercial banking services to individuals, businesses, local government units and institutional customers. These products and services include accepting deposits in the form of checking accounts, money market deposit accounts, interest-bearing demand deposit accounts, savings accounts and time deposits; making real estate, commercial, revolving, consumer and agricultural loans; offering letters of credit; providing other consumer financial services, such as automatic funds transfer, collections, night depository, safe deposit, travelers checks, savings bond sales and utility payment services; and providing other miscellaneous services normally offered by commercial banks. NBB also conducts a general trust business. Through its trust operation, NBB offers a variety of personal and corporate trust services. NBB makes loans in all major loan categories, including commercial, commercial and residential real estate, construction and consumer loans. At December 31, 2000, NBB had total assets of $339,357. Total deposits at this date were $306,827. NBB's net income for 2000 was $4,562 which produced a return on average assets of 1.55% and a return on average stockholders' equity of 16.02%. Refer to footnote 11 of the Company's 2000 Annual Report to Stockholders for NBB's risk-based capital ratios. Bank of Tazewell County The antecedents of BTC are in a charter issued on September 28, 1889 for Clinch Valley Bank. On December 22, 1893, a second charter was issued in substantially the same form for Bank of Clinch Valley. In 1929, Bank of Clinch Valley merged with Farmers Bank under the charter of the former, and the name of the new institution became Farmers Bank of Clinch Valley. Bank of Tazewell County resulted from the 1964 merger of Bank of Graham, Bluefield, Virginia with Farmers Bank of Clinch Valley. BTC provides general retail and commercial banking services to individuals, businesses and local government units. These services include commercial, real estate and consumer loans. Deposit accounts offered include demand deposit accounts, interest-bearing demand deposit accounts, money market deposit accounts, savings accounts and certificates of deposit. Other services include automatic funds transfer, collections, night depository, safe deposit, travelers checks, savings bond sales and utility payment services; and providing other miscellaneous services normally offered by commercial banks. BTC also conducts a general trust business. 3 At December 31, 2000 BTC had total assets of $251,786. Total deposits at this same date were $223,911. BTC's net income for 2000 was $2,721 which produced a return on average assets of 1.32% and a return on average stockholders' equity of 10.92%. Refer to footnote 11 of the Company's 2000 Annual Report to Stockholders for BTC's risk-based capital ratios. Commercial Loans NBB and BTC make both secured and unsecured loans to businesses and to individuals for business purposes. Loan requests are granted based upon several factors including credit history, past and present relationships with the bank and marketability of collateral. Unsecured commercial loans must be supported by a satisfactory balance sheet and income statement. Collateralized business loans may be secured by a security interest in marketable equipment, accounts receivable, business equipment and/or general intangibles of the business. In addition, or as an alternative, the loan may be secured by a deed of trust lien on business real estate. The risks associated with commercial loans are related to the strength of the individual business, the value of loan collateral and the general health of the economy. Residential Real Estate Loans Loans secured by residential real estate are originated by both bank subsidiaries. NBB sells a substantial percentage of the residential real estate loans it originates in the secondary market on a servicing released basis. There are occasions when a borrower or the real estate do not qualify under secondary market criteria, but the loan request represents a reasonable credit risk. Also, an otherwise qualified borrower may choose not to have their mortgage loan sold. On these occasions, if the loan meets NBB's internal underwriting criteria, the loan will be closed and placed in NBB's portfolio. Some residential loans originated by BTC are held in the bank's loan portfolio and others are sold in the secondary market. In their secondary market operations, NBB and BTC participate in insured loan programs sponsored by the Department of Housing and Urban Development, the Veterans Administration and the Virginia Housing Development Authority. Residential real estate loans carry risk associated with the continued credit-worthiness of the borrower and changes in the value of the collateral. Construction Loans NBB makes loans for the purpose of financing the construction of business and residential structures to financially responsibly business entities and individuals. These loans are subject to the same credit criteria as commercial and residential real estate loans. Although BTC offers construction loans, its involvement in this area of lending is more limited than NBB's due to the nature of its market area. 4 In addition to the risks associated with all real estate loans, construction loans bear the risks that the project will not be finished according to schedule, the project will not be finished according to budget and the value of the collateral may at any point in time be less than the principal amount of the loan. Construction loans also bear the risk that the general contractor, who may or may not be the bank's loan customer, is unable to finish the construction project as planned because of financial pressures unrelated to the project. Loans to customers that are made as permanent financing of construction loans may likewise under certain circumstances be affected by external financial pressures. Consumer Loans NBB and BTC routinely make consumer loans, both secured and unsecured. The credit history and character of individual borrowers is evaluated as a part of the credit decision. Loans used to purchase vehicles or other specific personal property and loans associated with real estate are usually secured with a lien on the subject vehicle or property. Negative changes in a customer's financial circumstances due to a large number of factors, such as illness or loss of employment, can place the repayment of a consumer loan at risk. In addition, deterioration in collateral value can add risk to consumer loans. Sales and Purchases of Loans NBB and BTC will occasionally buy or sell all or a portion of a loan. These purchases and sales are in addition to the secondary market residential mortgage loans regularly sold by NBB. Because the demand for loans, particularly for commercial loans, is greater in NBB's market area than in BTC's market area, NBB regularly sells loans and participations in loans to BTC. Both banks will consider selling a loan or a participation in a loan, if: (i) the full amount of the loan will exceed the bank's legal lending limit to a single borrower; (ii) the full amount of the loan, when combined with a borrower's previously outstanding loans, will exceed the bank's legal lending limit to a single borrower; (iii) the Board of Directors or an internal Loan Committee believes that a particular borrower has a sufficient level of debt with the bank; (iv) the borrower requests the sale; (v) the loan to deposit ratio is at or above the optimal level as determined by bank management; and/or (vi) the loan may create too great a concentration of loans in one particular location or in one particular type of loan. The banks will consider purchasing a loan, or a participation in a loan, from another financial institution (including from another subsidiary of the Company) if the loan meets all applicable credit quality standards and (i) the bank's loan to deposit ratio is at a level where additional loans would be desirable; and/or (ii) a common customer requests the purchase. 5 The following table sets forth, for the three fiscal years ended December 31, 2000, 1999 and 1998 the percentage of total operating revenue contributed by each class of similar services which contributed 15% or more of total operating revenues of the Company during such periods. Percentage of Period Class of Service Total Revenues - ------ ---------------- -------------- December 31, 2000 Interest and Fees on Loans 66.74% Interest on Investments 21.22% December 31, 1999 Interest and Fees on Loans 64.95% Interest on Investments 24.41% December 31, 1998 Interest and Fees on Loans 61.97% Interest on Investments 25.99% Market Area The National Bank of Blacksburg Market Area NBB's primary market area consists of the northern portion of Montgomery County, all of Giles County, all of Pulaski County, the City of Radford, the City of Galax and adjacent portions of Carroll and Grayson Counties, Virginia. This area includes the towns of Blacksburg and Christiansburg in Montgomery County, the towns of Pearisburg, Pembroke and Rich Creek, in Giles County, and the towns of Dublin and Pulaski in Pulaski County. The local economy is diverse and is oriented toward higher education, retail and service, light manufacturing and agriculture. Montgomery County's largest employer is Virginia Polytechnic Institute and State University (VPI & SU) located in Blacksburg. VPI & SU is the Commonwealth's land grant college and also its largest university. Employment at VPI & SU has remained stable over the past three years, and it is not expected to change materially in the next few years. A second state supported university, Radford University, is located in NBB's service area. It too has provided stable employment opportunities in the region. Giles County's primary employer is the Celanese Corp. plant, a manufacturer of the material from which cigarette filters are made. In late 1997 temporary employee furloughs were announced, and a small number of these temporary layoffs have become permanent. Pulaski County's major employer is the Volvo Heavy Trucks production facility. During 2000, the Volvo company laid off a significant number of workers, and the trend is likely to continue in the near term as the demand for heavy trucks nationwide is very low. The county also has several large furniture plants, most notably Pulaski Furniture and Ethan Allen. Pulaski Furniture recently announced a small work force reduction. The City of Galax is located in the Virginia-North Carolina furniture-manufacturing region. Three furniture companies, Vaughan Bassett Furniture Company, Vaughan Furniture Company, Inc. and Webb Furniture Company together employ the largest percentage of the area's work force. The Galax economy is stable, but furniture manufacturing is often affected early in an economic downturn. 6 Several other small manufacturing concerns are located in Montgomery, Giles and Pulaski Counties and in the City of Galax. These concerns manufacture diverse products and are not dependent on one sector of the economy. Agriculture and tourism are also important to the region, especially in Giles County and in the area near Galax. Since 1988, Montgomery County has developed into a regional retail center, with the construction of two large shopping areas. Two area hospitals, each of which are affiliated with different large health care systems, have constructed additional facilities attracting health care providers to Montgomery County, making it a center for basic health care services. VPI & SU's Corporate Research Center has brought several small high tech companies to Blacksburg, and further expansion is planned. Montgomery County, with an approximate population of 77,000, has experienced moderate population growth and this trend is predicted to continue. Neighboring Giles County is more rural, with a total population of approximately 16,500. The population of Giles County is expected to slowly decline over the next few years. It is not anticipated that this decline will materially impact NBB's business in Giles County. Pulaski County has a total population of 34,000 and is relatively stable. The City of Galax has a population of approximately 7,000, and the neighboring, mostly rural, counties of Carroll and Grayson have a total of approximately 50,000 inhabitants. The area's population is stable, and no dramatic changes are predicted. NBB's primary market area offers the advantages of a good quality of life, scenic beauty, moderate climate and the cultural attractions of two major universities. The region has marketed itself as a retirement destination, and it has had some recent success attracting retirees, particularly from the Northeast and urban Northern Virginia. These marketing efforts are expected to continue. Bank of Tazewell County Market Area Most of BTC's business originates from Tazewell County, Virginia and Mercer County, West Virginia. This includes the towns of Tazewell, Richlands and Bluefield, Virginia and Bluefield, West Virginia. BTC also has also recently added offices located in the Towns of Wytheville, Marion and Abingdon located in Wythe, Smyth and Washington Counties, Virginia, respectively. BTC's primary market area has largely depended on the coal mining industry and farming for its economic base. In recent years, coal companies have mechanized reducing the number of individuals required for the production of coal. However, there are still a number of support industries for the coal mining business that continue to provide employment in the area. Additionally, several new businesses have been established in the area, and Bluefield, West Virginia has begun to emerge as a regional medical center. Unemployment has stabilized, and real estate values remain stable and comparable to other areas in southwest Virginia. BTC's expanded market areas in Wythe, Smyth and Washington Counties have a diverse economic base, with manufacturing, agriculture, education and service industries all represented. 7 Competition The banking and financial service business in Virginia, generally, and in NBB's and BTC's market areas specifically, is highly competitive. The increasingly competitive environment is a result of changes in regulation, changes in technology and product delivery systems and new competition from non-traditional financial services. The Company's bank subsidiaries compete for loans and deposits with other commercial banks, savings and loan associations, securities and brokerage companies, mortgage companies, money market funds, credit unions and other nonbank financial service providers. Many of these competitors are much larger in total assets and capitalization, have greater access to capital markets and offer a broader array of financial services than NBB and BTC. In order to compete with these other financial service providers, NBB and BTC rely upon service-based business philosophies, personal relationships with customers, specialized services tailored to meet customers' needs and the convenience of office locations. In addition, the banks are generally competitive with other financial institutions in their market areas with respect to interest rates paid on deposit accounts, interest rates charged on loans and other service charges on loans and deposit accounts. Registrant's Organization and Employment Bankshares, NBB and BTC are organized in a holding company/subsidiary bank structure. Bankshares has no employees, except for officers, and conducts substantially all of its operations through its subsidiaries. All compensation paid to officers and employees is paid by NBB, except for fees paid by Bankshares to President and Chief Executive Officer James G. Rakes for his service as a director of the Company. At December 31, 2000, NBB employed 138 full time equivalent employees at its main office, operations center and branch offices. BTC at December 31, 2000 employed 81 full time equivalent employees in its various offices and operational areas. Certain Regulatory Considerations Bankshares, NBB and BTC are subject to various state and federal banking laws and regulations which impose specific requirements or restrictions on and provide for general regulatory oversight with respect to virtually all aspects of operations. As a result of the substantial regulatory burdens on banking, financial institutions, including Bankshares, NBB and BTC, are disadvantaged relative to other competitors who are not as highly regulated, and their costs of doing business are much higher. The following is a brief summary of the material provisions of certain statutes, rules and regulations which affect Bankshares, NBB and/or BTC. This summary is qualified in its entirety by reference to the particular statutory and regulatory provisions referred to below and is not intended to be an exhaustive description of the statutes or regulations which are applicable to the businesses of Bankshares, NBB and/or BTC. Any change in applicable laws or regulations may have a material adverse effect on the business and prospects of Bankshares, NBB and/or BTC. 8 National Bankshares, Inc. Bankshares is a bank holding company within the meaning of the BHCA and Chapter 13 of the Virginia Banking Act, as amended (the Virginia Banking Act). The activities of Bankshares also are governed by the Gramm-Leach-Bliley Act of 1999. The Bank Holding Company Act. The BHCA is administered by the Federal Reserve Board, and Bankshares is required to file with the Federal Reserve Board an annual report and any additional information the Federal Reserve Board may require under the BHCA. The Federal Reserve Board also is authorized to examine Bankshares and its subsidiaries. The BHCA requires every bank holding company to obtain the approval of the Federal Reserve Board before (i) it or any of its subsidiaries (other than a bank) acquires substantially all the assets of any bank; (ii) it acquires ownership or control of any voting shares of any bank if after the acquisition it would own or control, directly or indirectly, more than 5% of the voting shares of the bank; or (iii) it merges or consolidates with any other bank holding company. The BHCA and the Change in Bank Control Act, together with regulations promulgated by the Federal Reserve Board, require that, depending on the particular circumstances, either Federal Reserve Board approval must be obtained or notice must be furnished to the Federal Reserve Board and not disapproved prior to any person or company acquiring "control" of a bank holding company, such as Bankshares, subject to certain exemptions. Control is conclusively presumed to exist if an individual or company acquires 25% or more of any class of voting securities of Bankshares. Control is rebuttably presumed to exist if a person acquires 10% or more, but less than 25%, of any class of voting securities of Bankshares. The regulations provide a procedure for challenging the rebuttable control presumption. Under the BHCA, a bank holding company is generally prohibited from engaging in, or acquiring direct or indirect control of more than 5% of the voting shares of any company engaged in nonbanking activities, unless the Federal Reserve Board, by order or regulation, has found those activities to be so closely related to banking or managing or controlling banks as to be incident to banking. Under recent amendments to the BHCA, included in the Gramm-Leach-Bliley Act of 1999 (see below), any bank holding company, all the depository institution subsidiaries of which are well-capitalized, well managed (as those terms are defined in the BHCA) and have a satisfactory or better rating under the Community Reinvestment Act as of their last examination, may file an election with the Federal Reserve Board to become a Financial Holding Company. A Financial Holding Company may engage in any activity that is (i) financial in nature (ii) incidental to a financial activity or (iii) complementary to a financial activity. The BHCA provides a long list of "financial activities", including: insurance underwriting; securities dealing and underwriting; providing financial, investment or economic arising services; and merchant banking activities. Financial Holding Companies may also engage in other activities that the Federal Reserve Board has determined are permissible under the BHCA, by regulation or order. 9 The Federal Reserve Board imposes certain capital requirements on Bankshares under the BHCA, including a minimum leverage ratio and a minimum ratio of "qualifying" capital to risk-weighted assets. Subject to its capital requirements and certain other restrictions, Bankshares can borrow money to make a capital contribution to NBB or BTC, and these loans may be repaid from dividends paid from NBB or BTC to Bankshares (although the ability of NBB or BTC to pay dividends are subject to regulatory restrictions). Bankshares can raise capital for contribution to NBB and BTC by issuing securities without having to receive regulatory approval, subject to compliance with federal and state securities laws. The Gramm-Leach-Bliley Act. The Gramm-Leach-Bliley Act (the GLBA), enacted on November 12, 1999, was a broad rewrite of financial services legislation. The GLBA permits significant combinations among different sectors of the financial services industry; allows for significant expansion of financial service activities by Bank holding companies and provides for a regulatory framework by various governmental authorities responsible for different financial activities; and offers certain financial privacy protections to consumers. The GLBA repealed affiliation and management interlock prohibitions of the Depression-era Glass-Steagall Act and, by amending the Bank Holding Companies, the GLBA added new substantive provisions to the non-banking activities permitted under the BHCA with the creation of the financial holding company. The GLBA preempts most state laws that prohibit financial holding companies from engaging in insurance activities. The GLBA permits affiliations between banks and securities firms within the same holding company structure, and the Act permits financial holding companies to directly engage in a broad range of securities and merchant banking activities. The Gramm-Leach-Bliley Act will lead to important changes in the manner in which financial services are delivered in the United States. Bank holding companies and their subsidiary banks will be able to offer a much broader array of financial services; however, there will be greater competition in all sectors of the financial services market. The Virginia Banking Act. All Virginia bank holding companies must register with the Virginia State Corporation Commission (the Commission) under the Virginia Banking Act. A registered bank holding company must provide the Commission with information with respect to the financial condition, operations, management and intercompany relationships of the holding company and its subsidiaries. The Commission also may require such other information as is necessary to keep itself informed about whether the provisions of Virginia law and the regulations and orders issued under Virginia law by the Commission have been complied with, and may make examinations of any bank holding company and its subsidiaries. The Virginia Banking Act allows bank holding companies located in any state to acquire a Virginia bank or bank holding company if the Virginia bank or bank holding company could acquire a bank holding company in their state and the Virginia bank or bank holding company to be acquired has been in existence and continuously operated for more than two years. The Virginia Banking Act permits bank holding companies from throughout the United States to enter the Virginia market, subject to federal and state approval. 10 NBB and BTC General. NBB is a national banking association incorporated under the laws of the United States and is subject to examination by the Office of the Comptroller of the Currency (the OCC). Deposits in NBB are insured by the FDIC up to a maximum amount (generally $100,000 per depositor, subject to aggregation rules). The OCC and the FDIC regulate or monitor all areas of NBB's operations, including security devices and procedures, adequacy of capitalization and loss reserves, loans, investments, borrowings, deposits, mergers, issuances of securities, payment of dividends, interest rates payable on deposits, interest rates or fees chargeable on loans, establishment of branches, corporate reorganizations and maintenance of books and records. The OCC requires NBB to maintain certain capital ratios. NBB is required by the OCC to prepare quarterly reports on NBB's financial condition and to conduct an annual audit of its financial affairs in compliance with minimum standards and procedures prescribed by the OCC. NBB also is required by the OCC to adopt internal control structures and procedures in order to safeguard assets and monitor and reduce risk exposure. While appropriate for safety and soundness of banks, these requirements impact banking overhead costs. BTC is organized as a Virginia-chartered banking corporation and is regulated and supervised by the Bureau of Financial Institutions (BFI) of the Virginia State Corporation Commission. In addition, as a federally insured bank, BTC is regulated and supervised by the Federal Reserve Board, which serves as its primary federal regulator and is subject to certain regulations promulgated by the FDIC. Under the provisions of federal law, federally insured banks are subject, with certain exceptions, to certain restrictions on extensions of credit to their affiliates, on investments in the stock or other securities of affiliates and on the taking of such stock or securities as collateral from any borrower. In addition, these banks are prohibited from engaging in certain tie-in-arrangements in connection with any extension of credit or the providing of any property of service. The Virginia State Corporation Commission and the Federal Reserve Board conduct regular examinations of BTC reviewing the adequacy of the loan loss reserves, quality of the loans and investments, propriety of management practices, compliance with laws and regulations and other aspects of the bank's operations. In addition to these regular examinations, Virginia chartered banks must furnish to the Federal Reserve Board quarterly reports containing detailed financial statements and schedules. Community Reinvestment Act. NBB and BTC are subject to the provisions of the Community Reinvestment Act of 1977 (the CRA), which requires the appropriate federal bank regulatory agency, in connection with its regular examination of a bank, to assess the bank's record in meeting the credit needs of the community served by the bank, including low and moderate-income neighborhoods. Under the implementing CRA regulations, banks have the option of being assessed for CRA compliance under one of several methods. Small banks are evaluated differently than larger banks and technically are not subject to some data collection requirements. The focus of the regulations is on the volume and distribution of a bank's loans, with particular emphasis on lending activity in low and moderate-income areas and to low and moderate-income persons. The regulations place substantial importance on a bank's product delivery system, particularly branch locations. The regulations require banks, other than small banks, to comply with significant data collection requirements. The regulatory agency's assessment of the bank's record is made available to the public. Further, this assessment is required for any bank which has applied to, among other things, establish a new branch office that will accept deposits, relocate an existing office, or merge, consolidate with or acquire the assets or assume the liabilities of a federally regulated financial institution. It is likely that banks' compliance with the CRA, as well as other so-called fair lending laws, will face ongoing government scrutiny and that costs associated with compliance will continue to increase. 11 NBB has received a CRA rating of "Outstanding" in its last examination by federal bank regulators. BTC was rated as "Satisfactory". Federal Deposit Insurance Corporation Improvement Act of 1991. The difficulties encountered nationwide by financial institutions during 1990 and 1991 prompted federal legislation designed to reform the banking industry and to promote the viability of the industry and of the deposit insurance system. FDICIA, which became effective on December 19, 1991, bolsters the deposit insurance fund, tightens bank regulation and trims the scope of federal deposit insurance. The legislation bolsters the bank deposit insurance fund with $70 billion in borrowing authority and increases to $30 billion from $5 billion the amount the FDIC can borrow from the U.S. Treasury to cover the cost of bank failures. The loans, plus interest, would be repaid by premiums that banks pay on domestic deposits over the next fifteen years. Among other things, FDICIA requires the federal banking agencies to take "prompt corrective action" in respect to banks that do not meet minimum capital requirements. FDICIA establishes five capital tiers: "well capitalized," "adequately capitalized," "undercapitalized," "significantly undercapitalized" and "critically undercapitalized." If a depository institution's principal federal regulator determines that an otherwise adequately capitalized institution is in an unsafe or unsound condition or is engaging in an unsafe or unsound practice, it may require the institution to submit a corrective action plan, restrict its asset growth and prohibit branching, new acquisitions and new lines of business. An institution's principal federal regulator may deem the institution to be engaging in an unsafe or unsound practice if it receives a less than satisfactory rating for asset quality, management, earnings or liquidity in its most recent examination. Among other possible sanctions, an undercapitalized depository institution may not pay dividends and is required to submit a capital restoration plan to its principal federal regulator. In addition, its holding company may be required to guarantee compliance with the capital restoration plan under certain circumstances. If an undercapitalized depository institution fails to submit or implement an acceptable capital restoration plan, it can be subject to more severe sanctions, including an order to sell sufficient voting stock to become adequately capitalized. More severe sanctions and remedial actions can be mandated by the regulators if an institution is considered significantly or critically undercapitalized. 12 In addition, FDICIA requires regulators to draft a new set of non-capital measures of bank safety, such as loan underwriting standards and minimum earnings levels. The legislation also requires regulators to perform annual on-site bank examinations, places limits on real estate lending by banks and tightens auditing requirements. In April 1995, the regulators adopted safety and soundness standards as required by FDICIA in the following areas: (i) operational and managerial; (ii) asset quality earnings and stock valuation; and (iii) employee compensation. FDICIA reduces the scope of federal deposit insurance. The most significant change ended the "too big to fail" doctrine, under which the government protects all deposits in most banks, including those exceeding the $100,000 insurance limit. The FDIC's ability to reimburse uninsured deposits--those over $100,000 and foreign deposits--has been sharply limited. Since December 1993, the Federal Reserve Board's ability to finance undercapitalized banks with extended loans from its discount window has been restricted. In addition, only the best capitalized banks will be able to offer insured brokered deposits without FDIC permission or to insure accounts established under employee pension plans. Branching. In 1986, the Virginia Banking Act was amended to remove the geographic restrictions governing the establishment of branch banking offices. Subject to the approval of the appropriate federal and state bank regulatory authorities, BTC as a state bank, may establish a branch office anywhere in Virginia. National banks, like NBB, are required by the National Bank Act to adhere to branch banking laws applicable to state banks in the states in which they are located. Under current Virginia law, NBB may open branch offices throughout Virginia with the prior approval of the OCC. In addition, with prior approval of one or more of the OCC, NBB will be able to acquire existing banking operations in Virginia. As a state bank, BTC is subject to Virginia state branching laws with BFI and Federal Reserve Bank approval, BTC is able to acquire existing banking operations in the state. The Riegle-Neal Interstate Banking and Branching Efficiency Act of 1994 (the Interstate Act) allows bank holding companies to acquire banks in any state, without regard to state law, except that if the state has a minimum requirement for the amount of time a bank must be in existence, that law must be preserved. Under the Virginia Banking Act, a Virginia bank or all of the subsidiaries of Virginia holding companies sought to be acquired must have been in continuous operation for more than two years before the date of such proposed acquisition. The Interstate Act also permits banks to acquire out-of-state branches through interstate mergers, if the state has not opted out of interstate branching. De novo branching, where an out-of-state bank holding company sets up a new branch in another state, requires a state's specific approval. An acquisition or merger is not permitted under the Interstate Act if the bank, including its insured depository affiliates, will control more than 10% of the total amount of deposits of insured depository institutions in the United States, or will control 30% or more of the total amount of deposits of insured depository institutions in any state. 13 Virginia has, by statute, elected to opt-in fully to interstate branching under the Interstate Act. Under the Virginia statute, Virginia state banks may, with the approval of the Virginia State Corporation Commission, establish and maintain a de novo branch or acquire one or more branches in a state other than Virginia, either separately or as part of a merger. Procedures also are established to allow out-of-state domiciled banks to establish or acquire branches in Virginia, provided the "home" state of the bank permits Virginia banks to establish or acquire branches within its borders. The activities of these branches are subject to the same laws as Virginia domiciled banks, unless such activities are prohibited by the law of the state where the bank is organized. The Virginia State Corporation Commission has the authority to examine and supervise out-of-state state banks to ensure that the branch is operating in a safe and sound manner and in compliance with the laws of Virginia. The Virginia statute authorizes the Bureau of Financial Institutions to enter into cooperative agreements with other state and federal regulators for the examination and supervision of out-of-state banks with Virginia operations, or Virginia domiciled banks with operations in other states. Likewise, national banks, with the approval of the OCC, may branch into and out of the state of Virginia. Any Virginia branch of an out-of-state national bank is subject to Virginia law (enforced by the OCC) with respect to intrastate branching, consumer protection, fair lending and community reinvestment as if it were a branch of a Virginia bank, unless preempted by federal law. The Interstate Act permits banks and bank holding companies from throughout the United States to enter Virginia markets through the acquisition of Virginia institutions and makes it easier for Virginia bank holding companies and Virginia state and national banks to acquire institutions and to establish branches in other states. Competition in market areas served by the Company has increased as a result of the Interstate Act and the Virginia interstate banking statutes. Deposit Insurance. The FDIC establishes rates for the payment of premiums by federally insured financial institutions. A Bank Insurance Fund (the BIF) is maintained for commercial banks, with insurance premiums from the industry used to offset losses from insurance payouts when banks fail. Beginning in 1993, insured depository institutions like NBB and BTC paid for deposit insurance under a risk-based premium system. Beginning in 1997, all banks, including NBB and BTC, were subject to an additional FDIC assessment which funds interest payments for bank issues to resolve problems associated with the savings and loan industry. This assessment will continue until 2018-2019. The assessment will vary over the period from 1.29 cents to 2.43 cents per $100 of deposits. Gramm-Leach-Bliley Act. The Gramm-Leach-Bliley Act of 1999 (the GLBA) allows national banks, with OCC approval, to acquire financial subsidiaries to engage in any activity that is financial in nature or incidental to a financial activity, as defined in the Bank Holding Act, except (i) insurance underwriting, (ii) merchant or insurance portfolio investments, and (iii) real estate development or investment. Well-capitalized national banks are also given the authority to engage in municipal bond underwriting. 14 To establish or acquire a financial subsidiary, a national bank must be well-managed, and the consolidated assets of its financial subsidiary must not exceed the lesser of 45% of the consolidated total assets of the bank or $50 billion. The relationship between a national bank and a financial subsidiary are subject to a variety of supervisory enhancements from regulators. The GLBA also provides that state banks that establish or acquire financial subsidiaries are required to comply with the same safeguards imposed on the financial subsidiaries of national banks. Government Policies. The operations of NBB and BTC are affected not only by general economic conditions, but also by the policies of various regulatory authorities. In particular, the Federal Reserve Board regulates money and credit and interest rates in order to influence general economic conditions. These policies have a significant influence on overall growth and distribution of loans, investments and deposits and affect interest rates charged on loans or paid for time and savings deposits. Federal Reserve Board monetary policies have had a significant effect on the operating results of commercial banks in the past and are expected to continue to do so in the future. Limits on Dividends and Other Payments. As a national bank, NBB, may not pay dividends from its capital; all dividends must be paid out of net profits then on hand, after deducting expenses, losses, bad debts, accrued dividends on preferred stock, if any, and taxes. In addition, a national bank is prohibited from declaring a dividend on its shares of common stock until its surplus equals its stated capital, unless there has been transferred to surplus no less than one-tenth of the bank's net profits of (i) the preceding two consecutive half-year periods (in the case of an annual dividend) or (ii) the preceding half-year period (in the case of a quarterly or semi-annual dividend). The approval of the OCC is required if the total of all dividends declared by a national bank in any calendar year exceeds the total of its net profits for that year combined with its retained net profits for the preceding two years, less any required transfers to surplus or to fund the retirement of preferred stock. The OCC has promulgated regulations that became effective on December 13, 1990, which significantly affect the level of allowable dividend payments for national banks. The effect is to make the calculation of national banks' dividend-paying capacity consistent with generally accepted accounting principles. The allowance for loan and lease losses will not be considered an element of "undivided profits then on hand" and provisions to the allowance are treated as expenses and therefore not part of "net profits." Accordingly, a national bank with an allowance greater than its statutory bad debts may not include the excess in calculating undivided profits for dividend purposes. Further, a national bank may be able to use a portion of its earned capital surplus account as "undivided profits then on hand," depending on the composition of that account. As a state member bank subject to the regulations of the Federal Reserve Board, BTC must obtain the approval of the Federal Reserve Board for any dividend if the total of all dividends declared in any calendar year would exceed the total of its net profits, as defined by the Federal Reserve Board, for that year, combined with its retained net profits for the preceding two years. In addition, a state member bank may not pay a dividend in an amount greater than its undivided profits then on hand after deducting its losses and bad debts. For this purpose, bad debts are generally defined to include the 15 principal amount of loans which are in arrears with respect to interest by six months or more, unless such loans are fully secured and in the process of collection. Moreover, for purposes of this limitation, a state member bank is not permitted to add the balance in its allowance for loan losses account to its undivided profits then on hand; however, it may net the sum of its bad debts as so defined against the balance in its allowance for loan losses account and deduct from undivided profits only bad debts as so defined in excess of that account. In addition, the Federal Reserve Board is authorized to determine, under certain circumstances relating to the financial condition of a state member bank, that the payment of dividends would be an unsafe or unsound practice and to prohibit payment thereof. The payment of dividends that depletes a bank's capital base could be deemed to constitute such an unsafe or unsound practice. The Federal Reserve Board has indicated that banking organizations should generally pay dividends only out of current operating earnings. Virginia law also imposes restrictions on the ability of BTC to pay dividends. A Virginia state bank is permitted to declare a dividend out of its "net undivided profits", after providing for all expenses, losses, interest and taxes accrued or due by the bank. In addition, a deficit in capital originally paid in must be restored to its initial level, and no dividend can be paid which could impair the bank's paid in capital. The Bureau of Financial Institutions further has authority to limit the payment of dividends by a Virginia bank if it determines the limitation is in the public interest and is necessary to ensure the bank's financial soundness. The Federal Deposit Insurance Corporation Improvement Act of 1991 (FDICIA) provides that no insured depository institution may make any capital distribution (which would include a cash dividend) if, after making the distribution, the institution would not satisfy one or more of its minimum capital requirements. Capital Requirements. The Federal Reserve Board has adopted risk-based capital guidelines which are applicable to Bankshares and BTC. The Federal Reserve Board guidelines redefine the components of capital, categorize assets into different risk classes and include certain off-balance sheet items in the calculation of risk-weighted assets. The minimum ratio of qualified total capital to risk-weighted assets (including certain off-balance sheet items, such as standby letters of credit) is 8.0%. At least half of the total capital must be comprised of Tier 1 capital for a minimum ratio of Tier 1 Capital to risk-weighted assets of 4.0%. The remainder may consist of a limited amount of subordinated debt, other preferred stock, certain other instruments and a limited amount of loan and lease loss reserves. The OCC has adopted similar regulations applicable to NBB. In addition, the Federal Reserve Board has established minimum leverage ratio (Tier 1 capital to total assets less intangibles) guidelines that are applicable to Bankshares and BTC. The OCC has adopted similar regulations applicable to NBB. These guidelines provide for a minimum ratio of 4.0% for banks that meet certain specified criteria, including that they have the highest regulatory CAMELS rating and are not anticipating or experiencing significant growth and have well-diversified risk. All other banks will be required to maintain an additional cushion of at least 100 to 200 basis points, based upon their particular circumstances and risk profiles. The guidelines also provide that banks experiencing internal growth or making acquisitions will be expected to maintain strong capital positions substantially above the minimum supervisory levels, without significant reliance on intangible assets. 16 Bank regulators from time to time have indicated a desire to raise capital requirements applicable to banking organizations beyond current levels. In addition, the number of risks which may be included in risk-based capital restrictions, as well as the measurement of these risks, is likely to change, resulting in increased capital requirements for banks. Bankshares, NBB and BTC are unable to predict whether higher capital ratios would be imposed and, if so, at what levels and on what schedule. Other Legislative and Regulatory Concerns Other legislative and regulatory proposals regarding changes in banking and the regulation of banks, thrifts and other financial institutions are periodically considered by the executive branch of the federal government, Congress and various state governments, including Virginia. New proposals could significantly change the regulation of banks and the financial services industry. It cannot be predicted what might be proposed or adopted or how these proposals would affect the Company. Other Business Concerns The banking industry is particularly sensitive to interest rate fluctuations, as the spread between the rates which must be paid on deposits and those which may be charged on loans is an important component of profit. In addition, the interest which can be earned on a bank's invested funds has a significant effect on profits. Rising interest rates typically reduce the demand for new loans, particularly the real estate loans which represent a significant portion of NBB's and BTC's loan demand, as well as certain NBB loans in which BTC participates. 17 Statistical Disclosure by National Bankshares, Inc. and Subsidiaries (The Company) I. Distribution of Assets, Liabilities and Stockholders' Equity; Interest Rates and Interest Differential ------------------------------------------------------------------------ A. Average Balance Sheets The following table presents, for the years indicated, condensed daily average balance sheet information. ($ in thousands) =============================================================================== December 31, ------------------------------------------ Assets 2000 1999 1998 =============================================================================== Cash and due from banks $11,355 12,820 10,281 Interest bearing deposits 10,683 5,263 12,889 Federal funds sold 6,149 2,926 6,389 Securities available for sale: Taxable 87,813 95,979 94,247 Nontaxable 31,302 29,286 29,284 Securities held to maturity: Taxable 9,029 8,940 9,972 Nontaxable 14,542 17,219 18,929 Mortgage loans held for sale 519 709 1,017 Loans, net 310,624 266,431 225,613 Other assets 18,365 14,616 12,367 ------------------------------------------ Total assets $500,381 454,189 420,988 =============================================================================== - ------------------------------------------------------------------------------- Liabilities and Stockholders' Equity =============================================================================== - ------------------------------------------------------------------------------- Noninterest-bearing demand Deposits $56,709 55,700 49,552 Interest-bearing demand deposits 85,713 85,284 77,842 Savings deposits 43,138 46,792 47,475 Time deposits 248,113 203,807 185,101 ------------------------------------------ Total deposits 433,673 391,583 359,970 Short-term borrowings 1,727 4,228 216 Long-term borrowings 7,284 --- --- ------------------------------------------ Other liabilities 2,015 2,182 2,520 ------------------------------------------ Total liabilities 444,699 397,993 362,706 Stockholders' equity 55,682 56,196 58,282 ------------------------------------------ Total liabilities and Stockholders' equity $500,381 454,189 420,988 =============================================================================== 18 B. Analysis of Net Interest Earnings The following table shows the major categories of interest-earning assets and interest-bearing liabilities, the interest earned or paid, the average yield or rate on the daily average balance outstanding, net interest income and net yield on average interest-earning assets for the years indicated.
--------------------------------------------------------------------------------------------------------------- December 31, 2000 December 31, 1999 December 31, 1998 --------------------------------------------------------------------------------------------------------------- Average Average Average Average Yield/ Average Yield/ Average Yield/ ($ in thousands) Balance Interest Rate Balance Interest Rate Balance Interest Rate --------------------------------------------------------------------------------------------------------------- --------------------------------------------------------------------------------------------------------------- Interest-earning Assets: Loans, net (1)(2)(3) $314,685 28,454 9.04% 267,140 24,244 9.08% 226,630 21,726 9.59% Taxable securities 96,842 6,760 6.98% 104,919 6,820 6.50% 104,219 7,201 6.91% Nontaxable Securities (1) 45,844 3,420 7.46% 46,505 3,414 7.34% 48,213 2,899 6.01% Federal funds sold 6,149 338 5.50% 2,926 170 5.81% 6,389 345 5.40% Interest bearing Deposits 10,683 689 6.45% 5,263 269 5.11% 12,889 696 5.40% --------------------------------------------------------------------------------------------------------------- Total interest- Earning assets 474,203 39,661 8.36% 426,753 34,917 8.18% 398,340 32,867 8.25% =============================================================================================================== Interest-bearing Liabilities: Interest-bearing Demand deposits $85,713 2,243 2.62% 85,284 2,129 2.50% 77,842 2,203 2.83% Savings deposits 43,138 1,135 2.63% 46,792 1,212 2.59% 47,475 1,511 3.18% Time deposits 248,113 14,157 5.71% 203,807 10,630 5.22% 185,101 10,203 5.51% Short-term Borrowings 1,727 118 6.83% 4,228 232 5.49% 216 11 5.09% Long-term debt 7,284 510 7.00% --- --- --- --- --- --- --------------------------------------------------------------------------------------------------------------- Total interest- Bearing liabilities $385,975 18,163 4.71% 340,111 14,203 4.18% 310,634 13,928 4.48% =============================================================================================================== Net interest income and interest rate spread 21,498 3.65% 20,714 4.00% 18,939 3.77% =============================================================================================================== Net yield on average Interest-earning Assets 4.53% 4.85% 4.75% ===============================================================================================================
(1) Interest on nontaxable loans and securities is computed on a fully taxable equivalent basis using a Federal income tax rate of 34%. (2) Loan fees of $381 in 2000, $680 in 1999 and $414 in 1998 are included in total interest income. (3) Nonaccrual loans are included in average balances for yield computations. 19 C. Analysis of Changes in Interest Income and Interest Expense The Company's primary source of revenue is net interest income, which is the difference between the interest and fees earned on loans and investments and the interest paid on deposits and other funds. The Company's net interest income is affected by changes in the amount and mix of interest-earning assets and interest-bearing liabilities and by changes in yields earned on interest-earning assets and rates paid on interest-bearing liabilities. The following table sets forth, for the years indicated, a summary of the changes in interest income and interest expense resulting from changes in average asset and liability balances (volume) and changes in average interest rates (rate).
============================================================================================== 2000 Over 1999 1999 Over 1998 ---------------------------------------------------------------------------------------------- Changes Due To Changes Due To ------------------------------- ------------------------------- Net Dollar Net Dollar ($ in thousands) Rates(2) Volume(2) Change Rates(2) Volume(2) Change ============================================================================================================================= Interest income:(1) Loans $ (89) 4,299 4,210 (1,206) 3,724 2,518 Taxable securities 485 (545) (60) (429) 48 (381) Nontaxable securities 55 (49) 6 621 (106) 515 Federal funds sold (10) 178 168 24 (199) (175) Interest bearing deposits 85 335 420 (35) (392) (427) - ------------------------------------------------------------------------------------------------------------------------- Increase(decrease) in income on interest- earning assets 526 4,218 4,744 (1,025) 3,075 2,050 - ------------------------------------------------------------------------------------------------------------------------- Interest expense: Interest-bearing demand deposits $ 103 11 114 (273) 199 (74) Savings deposits 19 (96) (77) (278) (21) (299) Time deposits 1,065 2,462 3,527 (568) 995 427 Short-term borrowings 47 (161) (114) 1 220 221 Long-Term Borrowings --- 510 510 --- --- --- - ------------------------------------------------------------------------------------------------------------------------- Increase(decrease) in expense of interest- bearing liabilities $1,234 2,726 3,960 (1,118) 1,393 275 - ------------------------------------------------------------------------------------------------------------------------- Increase (decrease) in net interest income $ (708) 1,492 784 93 1,682 1,775 =========================================================================================================================
(1) Taxable equivalent basis using a Federal income tax rate of 34%. (2) Variances caused by the change in rate times the change in volume have been allocated to rate and volume changes proportional to the relationship of the absolute dollar amounts of the change in each. 20 II. Investment Portfolio A. Book Value of Investments The amortized costs and fair values of securities available for sale as of December 31, 2000, 1999 and 1998 were as follows:
============================================================================== December 31, ------------------------------------------------------------------------------ ------------------------------------------------------------------------------ 2000 1999 1998 ------------------------------------------------------------------------------ Amortized Fair Amortized Fair Amortized Fair ($ in thousands) Costs Values Costs Values Costs Values ============================================================================================================================ Available for sale: U.S. Treasury $ 6,246 6,331 6,244 6,164 9,253 9,671 U.S. Government agencies and corporations 54,815 54,034 50,373 47,498 59,365 59,595 States and political subdivisions 35,456 35,606 32,903 31,617 32,183 32,865 Mortgage-backed securities (1) 11,818 11,776 13,464 13,176 17,282 17,200 Corporate debt securities 14,341 14,058 14,349 13,646 14,528 14,824 Federal Home Loan Bank stock 1,329 1,329 1,329 1,329 1,214 1,214 Federal Reserve Bank stock 209 209 247 247 247 247 Other securities 442 442 168 168 462 462 --------------------------------------------------------------------------- Total securities available for sale $124,656 123,785 119,077 113,845 134,534 136,078 =========================================================================================================================
The amortized costs of securities held to maturity as of December 31, 2000, 1999 and 1998 were as follows:
========================================================= December 31, --------------------------------------------------------- --------------------------------------------------------- ($ in thousands) 2000 1999 1998 ====================================================================================================================== Held to maturity: U.S. Treasury $ --- 500 1,006 U.S. Government agencies and corporations 8,500 5,500 7,497 States and political subdivisions 17,288 17,283 21,160 Mortgage-backed securities (1) 288 364 513 Corporate 6,483 --- 500 --------------------------------------------------------- Total securities held to maturity $ 32,559 23,647 30,676 ======================================================================================================================
(1) The majority of mortgage-backed securities and collateralized mortgage obligations held at December 31, 2000 were backed by U.S. agencies. Certain holdings are required to be periodically subjected to the Financial Institution Examination Council's (FFIEC) high risk mortgage security test. These tests address possible fluctuations in the average life and price sensitivity which are the primary risks associated with this type of security. Such tests are usually subject to regulatory review. Except for U.S. Government securities, the Company has no securities with any issuer that exceeds 10% of stockholders' equity. 21 B. Maturities and Associated Yields The following table presents the maturities for those securities available for sale and held to maturity as of December 31, 2000 and weighted average yield for each range of maturities.
======================================================================================= Maturities and Yields December 31, 2000 --------------------------------------------------------------------------------------- ($ in thousands except for % data) < 1 Year 1-5 Years 5-10 Years > 10 Years None Total ================================================================================================================================ Available for Sale $ --- 5,312 1,018 --- --- 6,330 - ------------------ U.S. Treasury --- 6.02% 5.66% --- --- 5.96% - ---------------------------------------------------------------------------------------------------------------------------- U.S. Government agencies --- 14,496 24,199 15,338 --- 54,033 --- 6.56% 6.76% 6.67% --- 6.68% - ---------------------------------------------------------------------------------------------------------------------------- Mortgage-backed securities --- --- 2,155 9,621 --- 11,776 --- --- 6.32% 7.39% --- 7.20% - ---------------------------------------------------------------------------------------------------------------------------- States and Political --- 1,150 510 1,309 --- 2,969 Subdivision - taxable --- 7.06% 7.40% 7.80% --- 7.44% - ---------------------------------------------------------------------------------------------------------------------------- States and Political Subdivision 211 7,175 10,745 14,507 --- 32,638 - nontaxable(1) 7.59% 6.89% 6.75% 6.60% --- 6.72% - ---------------------------------------------------------------------------------------------------------------------------- Corporate 987 3,498 4,440 5,133 --- 14,058 5.57% 6.98% 6.64% 6.85% --- 6.73% - ---------------------------------------------------------------------------------------------------------------------------- Federal Home Loan Bank stock --- --- --- --- 1,329 1,329 --- --- --- --- 7.75 7.75% - ---------------------------------------------------------------------------------------------------------------------------- Federal Reserve Bank stock --- --- --- --- 209 209 --- --- --- --- 6.00 6.00% - ---------------------------------------------------------------------------------------------------------------------------- Other securities 3 --- --- --- 440 443 6.51% --- --- --- 7.75% 7.74% - ---------------------------------------------------------------------------------------------------------------------------- Total 1,201 31,631 43,067 45,908 1,978 123,785 5.93% 6.61% 6.71% 6.85% 7.57% 6.74% - ---------------------------------------------------------------------------------------------------------------------------- Held to Maturity --- --- --- --- --- --- - ---------------- U.S. Treasury --- --- --- --- --- --- - ---------------------------------------------------------------------------------------------------------------------------- U.S. Government agencies 2,500 5,000 1,000 --- --- 8,500 6.01% 5.37% 7.38% --- --- 5.79% - ---------------------------------------------------------------------------------------------------------------------------- Mortgage-backed securities --- 35 61 192 --- 288 --- 7.79% 7.84% 7.88% --- 7.86% - ---------------------------------------------------------------------------------------------------------------------------- States and Political 205 1,224 --- 200 --- 1,629 Subdivision - taxable 6.65% 7.03% --- 9.00% --- 7.23% - ---------------------------------------------------------------------------------------------------------------------------- States and Political 4,009 7,737 2,194 1,720 --- 15,660 Subdivision - nontaxable 6.76% 7.00% 7.00% 6.91% --- 6.93% - ---------------------------------------------------------------------------------------------------------------------------- Corporate 3,746 2,736 --- --- --- 6,482 7.01% 7.04% --- --- --- 7.02% - ---------------------------------------------------------------------------------------------------------------------------- Other securities --- --- --- --- --- --- --- --- --- --- --- --- - ---------------------------------------------------------------------------------------------------------------------------- Total $10,460 16,732 3,255 2,112 --- 32,559 6.67% 6.52% 7.13% 7.20% --- 6.67% ============================================================================================================================
(1) Rates shown represent weighted average yield on a fully taxable basis. 22 III. Loan Portfolio The Company concentrates its lending activities in commercial and industrial loans, real estate mortgage loans both residential and business, and loans to individuals. The following tables set forth (i) a comparison of the Company's loan portfolio by major category of loans as of the dates indicated and (ii) the maturities and interest rate sensitivity of the loan portfolio at December 31, 2000. A. Types of Loans ===================================================== December 31, ----------------------------------------------------- ($ in thousands) 2000 1999 1998 1997 1996 ================================================================================ Commercial and industrial loans $163,929 149,386 110,509 101,379 87,519 Real estate mortgage loans 71,163 58,829 48,724 42,969 43,917 Real estate construction loans 16,726 14,669 12,827 8,510 6,295 Loans to individuals 110,176 73,825 69,493 66,635 60,991 ----------------------------------------------------- Total loans 361,994 296,709 241,553 219,493 198,722 Less unearned income and deferred fees (2,313) (1,916) (2,296) (2,503) (2,549) ----------------------------------------------------- Total loans, net of unearned income 359,681 294,793 239,257 216,990 196,173 Less allowance for loans losses (3,886) (3,231) (2,679) (2,438) (2,575) ----------------------------------------------------- Total loans, net $355,795 291,562 236,578 214,552 193,598 ================================================================================ B. Maturities and Interest Rate Sensitivities ====================================================== December 31, 2000 ------------ --------------- ------------ ------------ After ($ in thousands) <1 Year 1-5 Years 5 Years Total ========================= ============ =============== ============ ============ Commercial and industrial $47,264 66,183 50,482 163,929 Real estate construction 16,726 --- --- 16,726 Less loans with predetermined interest 23,208 38,144 50,007 111,359 rates ------------ --------------- ------------ ------------ Loans with adjustable rates $40,782 28,039 475 69,296 ========================= ============ =============== ============ ============ 23 C. Risk Elements 1. Nonaccrual, Past Due and Restructured Loans The following table presents aggregate amounts for nonaccrual loans, restructured loans, other real estate owned, net and accruing loans which are contractually past due ninety days or more as to interest or principal payments. ======================================= December 31, --------------------------------------- ($ in thousands) 2000 1999 1998 1997 1996 - -------------------------------------------------------------------------------- Nonaccrual loans: Commercial and industrial $ 65 65 --- 55 121 Real estate mortgage 5 33 28 32 495 Real estate construction --- --- --- --- --- Loans to individuals 18 53 --- --- --- - -------------------------------------------------------------------------------- $ 88 151 28 87 616 - -------------------------------------------------------------------------------- Restructured loans: Commercial and industrial --- 40 --- --- --- - -------------------------------------------------------------------------------- Total nonperforming loans 191 28 87 616 Other real estate owned, net 540 447 628 421 474 - -------------------------------------------------------------------------------- Total nonperforming assets 628 638 656 508 1,090 ======================================= - -------------------------------------------------------------------------------- Accruing loans past due 90 days or more: Commercial and industrial Real estate mortgage $ 242 99 186 82 14 Real estate construction 664 704 160 358 252 Loans to individuals --- --- --- --- --- 415 274 204 232 192 - -------------------------------------------------------------------------------- $1,321 1,077 550 672 458 ================================================================================ The effect of nonaccrual and restructured loans on interest income is presented below: ======================================= ($ in thousands) 2000 1999 1998 ============================================================================= Scheduled interest: Nonaccrual loans $11 13 4 Restructured loans --- --- --- --------------------------------------- Total scheduled interest $11 13 4 --------------------------------------- Recorded interest: Nonaccrual loans --- --- --- Restructured loans --- --- --- --------------------------------------- Total recorded interest --- --- --- ============================================================================= Interest is recognized on the cash basis for all loans carried in nonaccrual status. Loans generally are placed in nonaccrual status when the collection of principal or interest is ninety days or more past due, unless the obligation is both well-secured and in the process of collection. 24 2. Potential Problem Loans At December 31, 2000, the recorded investment in loans which have been identified as impaired loans totaled $456. Of this amount, $321 related to loans with no valuation allowance and $135 related to loans with a corresponding valuation allowance of $135. For the year-ended December 31, 2000, the average recorded investment in impaired loans was approximately $657 and the total interest income recognized on impaired loans was $43 of $0 which was recognized on a cash basis. At December 31, 1999, the recorded investment in loans which have been identified as impaired loans totaled $317,000. Of this amount, $95,000 related to loans with no valuation allowance and $222,000 related to loans with a corresponding valuation allowance of $154,000. For the year ended December 31, 1999, the average recorded investment in impaired loans was approximately $292,000, and the total interest income recognized on impaired loans was $13,000 of which $0 was recognized on a cash basis. 3. Foreign Outstandings At December 31, 2000, 1999 and 1998, there were no foreign outstandings. 4. Loan Concentrations The Company does a general banking business, serving the commercial, agricultural and personal banking needs of its customers. NBB's trade territory, consists of Montgomery and Giles Counties, and the City of Galax, Virginia and portions of adjacent counties. NBB's operating results are closely correlated with the economic trends within this area which are, in turn, influenced by the area's three largest employers, Virginia Polytechnic Institute and State University, Montgomery County Schools and Celco. Other industries include a wide variety of manufacturing, retail and service concerns. Most of BTC's business originates from the communities of Tazewell and Bluefield and other communities in Tazewell County, Virginia and in Mercer County, West Virginia. BTC's service area has largely depended on the coal mining industry and farming for its economic base. In recent years, coal companies have mechanized and reduced the number of persons engaged in the production of coal. There are still a number of support industries for the coal mining business that continue to provide employment in the area. Additionally, several new businesses have been established in the area and Bluefield, West Virginia has begun to emerge as a regional medical 25 center. The ultimate collectibility of the loan portfolios and the recovery of the carrying amounts of repossessed property are susceptible to changes in the market conditions of these areas. At December 31, 2000 and 1999, approximately $151 million and $130 million, respectively, of the loan portfolio were concentrated in commercial real estate. This represents approximately 42% and 44% of the loan portfolio at December 31, 2000 and 1999, respectively. Included in commercial real estate at December 31, 2000 and 1999 was approximately $84 million and $85 million, respectively, in loans for college housing and professional office buildings. Loans secured by residential real estate were approximately $110 million and $74 million at December 31, 2000 and 1999, respectively. This represents approximately 31% and 25% of the loan portfolio at December 31, 2000 and 1999, respectively. Loans secured by automobiles were approximately $36 million and $33 million at December 31, 2000 and 1999, respectively. This represents approximately 10% of the loan portfolio at December 31, 2000 and 11% at December 31, 1999. The Company has established operating policies relating to the credit process and collateral requirements in loan originations. Loans to purchase real and personal property are generally collateralized by the related property and with loan amounts established based on certain percentage limitations of the property's total stated or appraised value. Credit approval is primarily a function of collateral and the evaluation of the creditworthiness of the individual borrower or project based on available financial information. 26 IV. Summary of Loan Loss Experience A. Analysis of the Allowance for Loan Losses The following tabulation shows average loan balances at the end of each period; changes in the allowance for loan losses arising from loans charged off and recoveries on loans previously charged off by loan category; and additions to the allowance which have been charged to operating expense:
============================================================================ December 31, ---------------------------------------------------------------------------- ($ in thousands) 2000 1999 1998 1997 1996 ============================================================================================================================== Average loans outstanding $310,624 266,431 225,613 204,540 177,419 ============================================================================ - ------------------------------------------------------------------------------------------------------------------------------ Balance at beginning of year 3,231 2,679 2,438 2,575 2,625 Charge-offs: Commercial and industrial loans 55 185 32 257 95 Real estate mortgage loans --- 33 80 --- 11 Real estate construction loans --- --- --- --- --- Loans to individuals 715 760 526 422 400 ---------------------------------------------------------------------------- Total loans charged off 770 978 638 679 506 ---------------------------------------------------------------------------- Recoveries: Commercial and industrial loans 3 51 --- 70 4 Real estate mortgage loans --- 1 2 --- 64 Real estate construction loans --- --- 190 --- --- Loans to individuals 93 78 63 37 57 ---------------------------------------------------------------------------- Total recoveries 96 130 255 107 125 ---------------------------------------------------------------------------- Net loans charged off 674 848 383 572 381 ---------------------------------------------------------------------------- Additions charged to operations 1,329 1,400 624 435 331 ---------------------------------------------------------------------------- Balance at end of year $ 3,886 3,231 2,679 2,438 2,575 ============================================================================ - ------------------------------------------------------------------------------------------------------------------------------ Net charge-offs to average net loans Outstanding 0.21% 0.32% 0.17% 0.28% 0.21% ==============================================================================================================================
Factors influencing management's judgment in determining the amount of the loan loss provision charged to operating expense include the quality of the loan portfolio as determined by management, the historical loan loss experience, diversification as to type of loans in the portfolio, the amount of secured as compared with unsecured loans and the value of underlying collateral, banking industry standards and averages, and general economic conditions. 27 B. Allocation of the Allowance for Loan Losses The allowance for loan losses has been allocated according to the amount deemed necessary to provide for anticipated losses within the categories of loans for the years indicated as follows:
======================================================================================================================= December 31, ----------------------------------------------------------------------------------------------------------------------- 2000 1999 1998 1997 1996 ----------------------------------------------------------------------------------------------------------------------- Percent Percent Percent Percent Percent of of of of of Loans in Loans in Loans in Loans in Loans in Each Each Each Each Each ($ in Allowance Category to Allowance Category to Allowance Category to Allowance Category to Allowance Category to thousands) Amount Total Loans Amount Total Loans Amount Total Loans Amount Total Loans Amount Total Loans ==================================================================================================================================== Commercial and industrial loans $ 255 45.29% 555 50.35% 222 45.75% 213 46.18% 403 44.04% - ------------------------------------------------------------------------------------------------------------------------------------ Real estate mortgage loans 120 19.66% 119 19.83% 73 20.17% 67 19.58% 305 22.10% - ------------------------------------------------------------------------------------------------------------------------------------ Real estate construction loans --- 4.62% --- 4.94% --- 5.31% --- 3.88% 51 3.17% - ------------------------------------------------------------------------------------------------------------------------------------ Loans to individuals 1,709 30.43% 978 24.88% 497 28.77% 416 30.36% 504 30.69% - ------------------------------------------------------------------------------------------------------------------------------------ Unallocated 1,802 1,579 1,887 1,742 1,312 - ------------------------------------------------------------------------------------------------------------------------------------ $3,886 100.00% 3,231 100.00% 2,679 100.00% 2,438 100.00% 2,575 100.00% =======================================================================================================================
28 Loan Loss Allowance The adequacy of the allowance for loan losses is based on management's judgement and analysis of current and historical loss experience, risk characteristics of the loan portfolio, concentrations of credit as well as other internal and external factors such as general economic conditions. The evaluation of the allowance for loan losses is performed by the internal credit review department. Guidance for the evaluations performed are established by the regulatory authorities who periodically review the results for compliance. As a part of this process, loans are grouped into principally two classes. The first involves loans that are individually reviewed and direct allocations made based on collateral values, financial statements of the borrower and other documentation. In addition, an estimate is made for losses inherent to this portfolio. The second class includes pools of loans. Allocations from this analysis are derived and based on historical loss averages. The unallocated portion of the allowance for loan losses is the residual amount after allocation to the above classes. As previously stated, adequacy of the allowance for loan losses is subject to periodic regulatory review. These reviews cover the allocation process and overall adequacy of the allowance for loan losses. Regulatory authorities at their discretion may set minimum levels for the allowance and/or require the charge-off of loans as a result of their examination. This independent grading process by regulators serves as a standard to gage the effectiveness of the internal credit review. 29 V. Deposits A. Average Amounts of Deposits and Average Rates Paid Average amounts and average rates paid on deposit categories in excess of 10% of average total deposits are presented below: ========================================================== December 31, ---------------------------------------------------------- 2000 1999 1998 ---------------------------------------------------------- Average Average Average Average Rates Average Rates Average Rates ($ in thousands) Amounts Paid Amounts Paid Amounts Paid - -------------------------------------------------------------------------------- Noninterest-bearing demand deposits $ 56,709 --- 55,700 --- 49,552 --- Interest-bearing demand deposits 85,713 2.62% 85,284 2.50% 77,842 2.83% Savings deposits 43,138 2.63% 46,792 2.59% 47,475 3.18% Time deposits 248,113 5.71% 203,807 5.22% 185,101 5.51% - -------------------------------------------------------------------------------- Average total deposits $433,673 4.64% 391,583 4.16% 359,970 4.48% ================================================================================ B. Time Deposits of $100,000 or More The following table sets forth time certificates of deposit and other time deposits of $100,000 or more: =========================================================== December 31, 2000 =========================================================== Over 3 Months Over 6 Months 3 Months Through 6 Through 12 Over 12 ($ in thousands) or Less Months Months Months Total ================================================================================ Certificates of deposit $68,699 45,294 101,249 111,424 326,666 - -------------------------------------------------------------------------------- Other time deposits 48,526 35,941 78,595 91,297 254,359 - -------------------------------------------------------------------------------- Total time deposits of $100,000 or more $20,173 9,353 22,654 20,127 72,307 ================================================================================ 30 VI. Return on Equity and Assets The ratio of net income to average stockholders' equity and to average total assets, and certain other ratios are presented below: ======================================== December 31, ---------------------------------------- 2000 1999 1998 ============================================================================== Return on average assets 1.46% 1.56% 1.61% - ------------------------------------------------------------------------------ Return on average equity(1) 13.13% 12.61% 11.66% - ------------------------------------------------------------------------------ Dividend payout ratio 40.87% 39.70% 41.29% - ------------------------------------------------------------------------------ Average equity to average assets(1) 11.13% 12.37% 13.84% ============================================================================== (1) Includes amount related to common stock subject to ESOP put option excluded from stockholders' equity on the Consolidated Balance Sheets for 1999. Item 2. Properties Bankshares' headquarters and one branch office of NBB is located at 101 Hubbard Street, Blacksburg, Virginia. NBB's Main Office is at 100 South Main Street, Blacksburg, Virginia. In addition to the Bank's Main Office location and the Hubbard Street branch office, NBB owns eleven branch offices: three in the Town of Blacksburg; one in the Town of Christiansburg; one in Montgomery County; and three in the County of Giles, two in Pulaski County, one in the City of Radford and one in the City of Galax. An additional tract of land has been acquired for the construction of a fourteenth branch. Bank of Tazewell County owns the land and building of eight of its ten offices. The bank leases the land and building for two offices. The Main Office is located at Main Street, Tazewell, Virginia. Three additional branches are located in Tazewell, one is located in Richlands, two are located in Bluefield, Virginia, one is in Wytheville, Virginia, one in Marion, Virginia, and one in Abingdon, Virginia. Management believes that its existing facilities are adequate to meet present needs and any anticipated growth. NBB owns all its computer and data processing hardware and is a licensee of the software it utilizes. BTC utilizes this same system for data processing. Item 3. Legal Proceedings - -------------------------- Bankshares, NBB nor BTC are not currently involved in any material pending legal proceedings, other than routine litigation incidental to NBB's and BTC's banking business. Item 4. Submission of Matters to a Vote of Security Holders - ------------------------------------------------------------ None 31 Executive Officers of the Registrant Pursuant to General Instruction G(3) of Form 10-K, the following list is included as an unnumbered item in Part I of this report in lieu of being included in the Proxy Statement for the Annual Meeting of Stockholders to be held on. The following is a list of names and ages of all executive officers of Bankshares; their terms of office as officers; the positions and offices within Bankshares held by each officer; and each person's principal occupation or employment during the past five years. ================================================================================ Year Elected an Name Age Offices and Positions Held Officer/Director ================================================================================ James G. Rakes 56 Chairman, President and Chief Executive 1986 Officer, National Bankshares, Inc.; and President and Chief Executive Officer of The National Bank of Blacksburg since 1983. - -------------------------------------------------------------------------------- J. Robert Buchanan 49 Treasurer, National Bankshares, Inc.; 1998 Senior Vice President/Chief Financial Officer of The National Bank of Blacksburg, since January 1, 1998; prior thereto Senior Vice President, Treasurer and Chief Financial Officer, Premier Bankshares Corporation since 1991. - -------------------------------------------------------------------------------- Marilyn B. Buhyoff 52 Secretary & Counsel, National 1989 Bankshares, Inc.; and Senior Vice President/ Administration since 1992, of The National Bank of Blacksburg. - -------------------------------------------------------------------------------- F. Brad Denardo 48 Corporate Officer, National Bankshares, 1989 Inc.; and Executive Vice President/ Loans since 1989 of The National Bank of Blacksburg. ================================================================================ Except for J. Robert Buchanan, each of the executive officers listed above have served Bankshares and/or its subsidiaries in the aforementioned executive capacity for the past five years. 32 Part II Item 5. Market for Registrant's Common Equity and Related Stockholder Matters - ---------------------------------------------------------- Effective December 1, 1999, National Bankshares, Inc.'s common stock began trading on the Nasdaq SmallCap Market under the symbol "NKSH". Prior to December 1, 1999, National Bankshares, Inc.'s common stock was traded on a limited basis in the over-the-counter market and was not listed on any exchange or quoted on Nasdaq. As of December 31, 2000 there were 1,076 stockholders of Bankshares common stock. The following is a summary of the market price per share and cash dividend per share of the common stock of National Bankshares, Inc. for 2000 and 1999. Prices prior to December 1, 1999 do not necessarily reflect the prices which would have prevailed had there been an active trading market, nor do they reflect unreported trades, which may have been at lower or higher prices. Information concerning Market Price and Dividend Data is set forth under "Common Stock Information and Dividends" on page 11 of Bankshares' 2000 Annual Report to Stockholders and is incorporated herein by reference. Item 6. Selected Financial Data - -------------------------------- The table entitled "Selected Consolidated Financial Data" on page 4 of Bankshares' 2000 Annual Report to Stockholders is incorporated herein by reference. Item 7. Management's Discussion and Analysis of Financial Condition and Results of Operations - -------------------------------------------------------------------------------- The information contained under "Management's Discussion and Analysis" on pages 5 through 11 of Bankshares' 2000 Annual Report to Stockholders is incorporated herein by reference. Item 7A. Quantitative and Qualitative Disclosures About Market Risk - ------------------------------------------------------------------- See "Analysis of Interest Rate Sensitivity" set forth below. Additional information is set forth under the section "Interest Rate Sensitivity" on page 6 and the section "Derivatives and Market Risk Exposure" on page 10 of Bankshares' 2000 Annual Report to Stockholders and is incorporated herein by reference. 33 Analysis of Interest Rate Sensitivity The following discussion of interest rate sensitivity contains forward-looking statements within the meaning of Section 27A of the Securities Act of 1933 and Section 21E of the Securities Exchange Act of 1934. The Company's actual results could differ materially from those set forth in the forward-looking statements. The table below sets forth, as of December 31, 2000, the distribution of repricing opportunities of the Company's interest-earning assets and interest-bearing liabilities, the interest rate sensitivity gap (i.e., interest rate sensitive assets less interest rate sensitive liabilities), and the cumulative interest rate sensitivity gap ratio. The table sets forth the time periods during which interest-earning assets and interest-bearing liabilities will mature or may reprice in accordance with their contracted terms. Certain shortcomings are inherent in the method of analysis presented in the following table. For example, although certain assets and liabilities may have similar maturities or periods of repricing, they may react in different degrees and at different times to changes in market interest rates. Also, loan prepayments and early withdrawals of certificates of deposit could cause the interest sensitivities to vary from those which appear in the table. An interest rate sensitivity gap is considered positive when the amount of interest rate sensitive assets exceeds the amount of interest rate sensitive liabilities. A gap is considered negative when the amount of interest rate sensitive liabilities exceeds the amount of interest rate sensitive assets. During a period of rising interest rates, a negative gap would generally tend to affect adversely net interest income while a positive gap would generally tend to result in an increase in net interest income. During a period of declining interest rates, a negative gap would generally tend to result in increased net interest income, while a positive gap would generally tend to affect adversely net interest income. The Company's future earnings may be adversely affected by a sharp upturn in interest rates as the Company is liability sensitive for a period extending through five years. In a falling rate environment, earnings might benefit to a certain degree from this position, because assets at higher rate levels would reprice downward at a slower rate than interest sensitive liabilities. In prior years, the Company has used its securities available for sale as a primary means to counter movements in interest rates. At December 31, 2000, this portfolio contained a substantial amount of longer term securities with call features. Due to overall increases in interest rate levels these securities have not been called as originally anticipated. The rising interest rate levels also resulted in a substantial increase in net unrealized losses making the sale of these securities impractical. At present and for an indeterminate amount of time in the future, the Company will not be able to use the securities available for sale portfolio to respond to interest rate movements to the extent possible in recent years. This risk can be mitigated, however, by funds management, specifically through use of credit instruments offered by the Federal Home Loan Bank. Accordingly, the Company's vulnerability to upward movements of interest rates has increased. 34 An interest-sensitivity table showing all major interest sensitive asset and liability categories for the time intervals indicated and cumulative "gaps" for each interval is set forth on the following table.
=================================================================================== Interest Rate December 31, 2000 ----------------------------------------------------------------------------------- Sensitivity Table (1) Interest-sensitive (days) ------------------------------------------- 1-5 >5 ($ in thousands) 1-90 91-180 181-365 Years Years Total ==================================================================================================================================== Interest-earning assets: Commercial and industrial loans $ 23,206 5,191 8,542 74,384 52,541 163,864 Real estate mortgage loans 11,486 1,399 3,128 37,519 17,329 70,861 Real estate construction loans 13,534 106 1,566 622 883 16,711 Loans to individuals 22,390 6,262 11,095 51,325 17,085 108,157 ----------------------------------------------------------------------------------- Total loans, net of unearned income (2) 70,616 12,958 24,331 163,850 87,838 359,593 ----------------------------------------------------------------------------------- Federal funds sold 29,090 --- --- --- --- 29,090 Interest bearing deposits 13,579 --- --- --- --- 13,579 Securities available for sale (3) 9,475 1,958 11,202 42,128 59,892 124,655 Securities held to maturity (3) 6,141 1,348 4,767 17,149 3,154 32,559 Mortgage loans held for sale --- --- --- --- --- --- ----------------------------------------------------------------------------------- Total interest-earning assets 128,910 16,264 40,300 223,127 150,884 559,486 ==================================================================================================================================== ==================================================================================================================================== Interest-bearing liabilities: Interest-bearing demand deposits 101,257 --- --- --- --- 101,257 Savings deposits 42,560 --- --- --- --- 42,560 Time deposits 67,577 45,294 101,250 111,833 712 326,666 Other borrowings 270 --- --- --- --- 270 ----------------------------------------------------------------------------------- Total interest-bearing liabilities 211,664 45,294 101,250 111,833 712 470,753 - -------------------------------------------------=================================================================================== Cumulative ratio of interest- sensitive assets to interest- sensitive liabilities .61 .56 .52 .87 1.19 1.19 - -------------------------------------------------=================================================================================== Cumulative interest-sensitivity gap $(82,762) (111,792) (172,742) (61,448) 88,724 88,724 ====================================================================================================================================
(1) The Company is sensitive to interest rate changes, as liabilities generally reprice or mature before interest-earning assets. The above gap table reflects the Company's rate-sensitive position at December 31, 2000, and is not necessarily reflective of its position throughout the year. The carrying amounts of interest-rate sensitive assets and liabilities are presented in the periods in which they reprice to market rates or mature and are summed to show the interest-rate sensitivity gap. (2) Excludes nonaccrual loans. Each category is shown net of unearned income and deferred fees. (3) Call features on certain securities, if exercised, could have the effect of materially shortening the average life of the investment portfolio. The exercise of a call feature is dependent upon the rate environment. The call decision is at the issuers discretion and ultimate benefit. (4) Available for sale securities and scheduled using amortized cost. 35 Item 8. Financial Statements and Supplementary Data - ---------------------------------------------------- The following consolidated financial statements of the Registrant and the Independent Auditors' Report set forth on pages 12 through 35 of Bankshares' 2000 Annual Report to Stockholders are incorporated herein by reference: 1. Independent Auditors' Report 2. Consolidated Balance Sheets - December 31, 2000 and 1999 3. Consolidated Statements of Income and Comprehensive Income - Years ended December 31, 2000, 1999 and 1998 4. Consolidated Statements of Changes in Stockholders' Equity - Years ended December 31, 2000, 1999 and 1998 5. Consolidated Statements of Cash Flows - Years ended December 31, 2000, 1999 and 1998 6. Notes to Consolidated Financial Statements - December 31, 2000, 1999 and 1998 Item 9. Changes In and Disagreements With Accountants on Accounting and Financial Disclosure - -------------------------------------------------------------------------------- Changes in and disagreement with Accountants on Accounting and Financial Disclosure is set out under the caption "Change in Selection of Auditors" on page 13 of Bankshares's Proxy Statement dated March 14, 2001 which information is incorporated herein. Part III Item 10. Directors and Executive Officers of the Registrant - ------------------------------------------------------------ Executive Officers of Bankshares as of December 31, 2000 are listed on page 32 herein. Information with respect to the directors of Bankshares is set out under the caption "Election of Directors" on pages 2 through 4 of Bankshares' Proxy Statement dated March 14, 2001 which information is incorporated herein by reference. Item 11. Executive Compensation - -------------------------------- The information set forth under "Executive Compensation" on pages 5 through 6 of Bankshares' Proxy Statement dated March 14, 2001 is incorporated herein by reference. 36 Item 12. Security Ownership of Certain Beneficial Owners and Management - ----------------------------------------------------------------------- The information set forth under "Voting Securities and Stock Ownership" on page 1 and under "Stock Ownership of Certain Beneficial Owners" and "Stock Ownership of Directors and Executive Officers" on pages 1 and 2 of Bankshares' Proxy Statement dated March 14, 2001 is incorporated herein by reference. Item 13. Certain Relationships and Related Transactions - -------------------------------------------------------- The information contained under "Certain Transactions With Officers and Directors" on page 13 of Bankshares' Proxy Statement dated March 14, 2001 is incorporated herein by reference. Part IV Item 14. Exhibits, Financial Statement Schedules and Reports on Form 8-K - ------------------------------------------------------------------------- (a) The following documents are filed as part of this report: 2000 Annual Report To Stockholders Page(s)* ------------------------ 1. Financial Statements: -------------------- Independent Auditors' Report 12 Consolidated Balance Sheets - 13 December 31, 2000 and 1999 Consolidated Statements of 14 Income and Comprehensive Income - Years ended December 31, 2000, 1999 and 1998 Consolidated Statements of Changes 15 in Stockholders' Equity - Years ended December 31, 2000, 1999 and 1998 Consolidated Statements of Cash 16 Flows - Years ended December 31, 2000, 1999 and 1998 Notes to Consolidated 17-35 Financial Statements - December 31, 2000, 1999 and 1998 2. Financial Statement Schedules: ----------------------------- None *Incorporated by reference from the indicated pages of the 2000 Annual Report to Stockholders. 37 3. Exhibits: -------- Page No. in Exhibit No. Description Sequential System - ---------- ----------- ----------------- 3(i) Articles of Incorporation, as amended, of (incorporated National Bankshares, Inc. herein by reference to Exhibit 3(a) of the Annual Report on Form 10K for Fiscal year ended December 31, 1993) 4(i) Specimen copy of certificate for National (incorporated Bankshares, Inc. common stock, $2.50 par herein by value reference to Exhibit 4(a) of the Annual Report on Form 10K for Fiscal year ended December 31, 1993) 4(i) Article Four of the Articles of (incorporated Incorporation of National Bankshares, Inc. herein by included in Exhibit No. 3(a)) reference to Exhibit 4(b) of the Annual Report on Form 10K for Fiscal year ended December 31, 1993) 10(ii)(B) Computer software license agreement dated (incorporated June 18, 1990, by and between Information herein by Technology, Inc. and The National Bank of reference to Blacksburg Exhibit 10(e) of the Annual Report on Form 10K for Fiscal year ended December 31, 1992) *10(iii)(A) Employment Agreement dated January 1, 1992, (incorporated by and between National Bankshares, Inc. and herein by James G. Rakes reference to Exhibit 10(a) of the Annual Report on Form 10K for Fiscal year ended December 31, 1992) *10(iii)(A) Capital Accumulation Plan (included in (incorporated Exhibit No. 10(a)) herein by reference to Exhibit 10(b) of the Annual Report on Form 10K for Fiscal year ended December 31, 1992) *10(iii)(A) Employee Lease Agreement dated May 7, 1992, (incorporated by and between National Bankshares, Inc. and herein by 38 The National Bank of Blacksburg reference to Exhibit 10(c) of the Annual Report on Form 10K for Fiscal year ended December 31, 1992) *10(iii)(A) National Bankshares, Inc. 1999 Stock Option (incorporated herein Plan by reference to Exhibit 4.3 of the Form S-8, filed as Registration No. 333-79979 with the Commission on June 4, 1999) 13(i) 2000 Annual Report to Stockholders (such Report, except to the extent incorporated herein by reference, is being furnished for the information of the Commission only and is not deemed to be filed as part of this Report on Form 10-K) 21(i) Subsidiaries of National Bankshares, Inc. 23 Consent of KPMG LLP to incorporation by reference of independent auditors' report included in this Form 10-K, into registrant's registration statement on Form S-8. 99 Independent Auditors' Report of KPMG LLP on consolidated financial statements of National Bankshares, Inc. and subsidiaries as of December 31, 1999 and for the years ended December 31, 1999 and 1998. *Indicates a management contract or compensatory plan required to be filed herein. 39 (b) Reports on Form 8-K filed during the last quarter of the period covered by this report: -------------------------------------------------------------------------- 1. Form 8-K dated November 9, 2000 annoucing the acquistion of six AmSouth of Birmingham, Alabama branches. 2. Form 8 K/A dated November 9, 2000 provides financial statements for the Acquisition of six AmSouth of Birmingham branches. (c) Exhibits required by Item 601 of Regulation S-K: ----------------------------------------------- See Item 14(a)3 above. (d) Financial Statement Schedules required by Regulation S-X: -------------------------------------------------------- See Item 14(a)2 above. 40 Signatures Pursuant to the requirements of Section 13 or 15(d) of the Securities Exchange Act of 1934, National Bankshares, Inc. has duly caused this report to be signed on its behalf by the undersigned, thereunto duly authorized. National Bankshares, Inc. BY: /s/James G. Rakes -------------------------------------- James G. Rakes, Chairman, President and Chief Executive Officer DATE: March 14, 2001 ------------------------------------- BY: /s/J. Robert Buchanan ------------------------------------- J. Robert Buchanan Treasurer (Principal Financial Officer) DATE: March 14, 2001 ------------------------------------- Pursuant to the requirements of the Securities Exchange Act of 1934, this report has been signed by the following persons on behalf of the Registrant and in the capacities and on the date indicated. Name Date Title - ---- ---- ----- /s/C. L. Boatwright March 14, 2001 Director and Vice - ------------------------ -------------- Chairman of the Board C. L. Boatwright /s/L.A. Bowman March 14, 2001 Director - ----------------------- -------------- L. A. Bowman /s/A. A. Crouse March 14, 2001 Director - ----------------------- -------------- A. A. Crouse /s/J. A. Deskins, Sr. March 14, 2001 Director - ----------------------- -------------- J. A. Deskins, Sr. Director - ----------------------- -------------- P. A. Duncan /s/C. L. Forrester March 14, 2001 Director - ----------------------- -------------- C. L. Forrester /s/W. T. Peery March 14, 2001 Director - ----------------------- -------------- W. T. Peery /s/J. G. Rakes March 14, 2001 Chairman of the Board - ----------------------- -------------- President and Chief J. G. Rakes Executive Officer - National Bankshares, Inc., Director /s/J. R. Stewart March 14, 2001 - ----------------------- -------------- J. R. Stewart 41 Index to Exhibits ----------------- Page No. in Exhibit No. Description Sequential System - ----------- ----------- ----------------- 3(i) Articles of Incorporation, as amended, of (incorporated National Bankshares, Inc. herein by reference to Exhibit 3(a) of the Annual Report on Form 10K for fiscal year ended December 31, 1993) 4(i) Specimen copy of certificate for National (incorporated Bankshares, Inc. common stock, $2.50 par value herein by reference to Exhibit 4(a) of the Annual Report on Form 10K for fiscal year ended December 31, 1993) 4(i) Article Fourth of the Articles of (incorporated Incorporation of National Bankshares, Inc. herein by included in Exhibit No. 3(a)) reference to Exhibit 4(b) of the Annual Report on Form 10K for fiscal year ended December 31, 1993) 10(ii)(B) Computer software license agreement dated (incorporated June 18, 1990, by and between Information herein by Technology, Inc. and The National Bank of reference to Blacksburg Exhibit 10(e) of the Annual Report on Form 10K for fiscal year ended December 31, 1992) *10(iii)(A) Employment Agreement dated January 1, 1992, (incorporated by and between National Bankshares, Inc. and herein by James G. Rakes reference to Exhibit 10(a) of the Annual Report on Form 10K for fiscal year ended December 31, 1992) *10(iii)(A) Capital Accumulation Plan (included in (incorporated Exhibit No. 10(a)) herein by reference to Exhibit 10(b) of the Annual Report on Form 10K for fiscal year ended December 31, 1992) 42 *10(iii)(A) Employee Lease Agreement dated May 7, 1992, (incorporated by and between National Bankshares, Inc. and herein by The National Bank of Blacksburg reference to Exhibit 10(c) of the Annual Report on Form 10K for fiscal year ended December 31, 1992) *10(iii)(A) National Bankshares, Inc. 1999 Stock Option (incorporated herein Plan by reference to Exhibit 4.3 of the Form S-8, filed as Registration No. 333-79979 with the Commission on June 4, 1999) 13(i) 2000 Annual Report to Stockholders (such Report, except to the extent incorporated herein by reference, is being furnished for the information of the Commission only and is not deemed to be filed as part of this Report on Form 10-K) 21(i) Subsidiaries of National Bankshares, Inc. 23 Consent of KPMG LLP to incorporation by reference of independent auditors' report included in this Form 10-K, into registrant's registration statement on Form S-8. 99 Independent Auditors' Report of KPMG LLP on consolidated financial statements of National Bankshares, Inc. and subsidiaries as of December 31, 1999, and for the years ended 1999 and 1998 * Indicates a management contract or compensatory plan required to be filed herein. 43 EX-13 2 annual2000.txt 2000 ANNUAL REPORT TO SHAREHOLDERS National Bankshares 2000 Annual Report Financial Highlights $ In thousands, except per share data 2000 1999 1998 - -------------------------------------------------------------------------------- Net income $ 7,309 7,088 6,798 Basic and diluted net income per share 2.08 1.96 1.79 Cash dividends per share 0.85 0.80 0.74 Book value per share 17.04 14.99 16.00 Loans, net $ 355,795 291,562 236,578 Total securities 156,344 137,492 166,754 Total assets 593,497 472,134 445,166 Total deposits 530,648 407,187 382,696 Stockholders' equity 59,834 52,723 58,503 Contents To Our Stockholders............................................................2 Selected Consolidated Financial Data...........................................4 Management's Discussion and Analysis...........................................5 Independent Auditors' Report..................................................12 Consolidated Financial Statements.............................................13 Notes to Consolidated Financial Statements....................................17 Selected Quarterly Data.......................................................36 Boards of Directors...........................................................38 Corporate Information.........................................................40 1 To Our Stockholders Photograph of "Radford Branch Office" When I look back on the year 2000 at National Bankshares, Inc., I will remember it as a year in which your company was presented with an opportunity that was too promising to be ignored. In mid-Summer of 2000 we learned that AmSouth Bank of Birmingham, Alabama was interested in selling six of its Virginia branch offices. These offices are located along the Interstate 81 corridor, from Radford to Abingdon. Although the simultaneous acquisition of six new offices is logistically challenging for a company of our size, our Board of Directors and employees unanimously agreed that this was a challenge that we definitely should accept. In late August we formally agreed to purchase the loans and deposits and take over the office locations of the six AmSouth offices. We decided that the offices in Radford, Dublin and Pulaski should be operated by The National Bank and that the Wytheville, Marion and Abingdon offices would be managed by Bank of Tazewell County. Photograph of "Ribbon Cutting at new Radford branch location" There are many factors that made the AmSouth transaction attractive to National Bankshares. Among these is the fact that the experienced bankers who had been with AmSouth would join our banks and become our employees. Also, most of the AmSouth offices are in localities that are expansion targets in our long-range plans. When the transaction closed on November 8, the execution of those long-range plans advanced considerably. On Friday November 9, NBB and BTC opened for business in six new communities. We now have 23 total office locations throughout Southwest Virginia. The hard work of employees and the goodwill of our new customers allowed us to meet the logistical challenges of the acquisition. The greater challenge still remains of maximizing the potential of the purchase over the long term. We are confident that our style of community banking and our friendly, knowledgeable employees will help us meet that challenge as well. Photograph of "Lobby of new BTC Wytheville Office" 2 Photograph of "Ribbon cutting of new BTC Wytheville Office" The past year's emphasis on the AmSouth acquisition did not keep us from completing several other important projects. The National Bank added a useful software enhancement to the host computer that serves both subsidiary banks. In August, Bank of Tazewell County opened a new office in Richlands, Virginia, thereby expanding market coverage in its home county. Finally, in September, BTC entered into an agreement to purchase the deposits and consumer loans of the Bluefield, Virginia office of First Union National Bank. This purchase is scheduled to close in the first quarter of 2001. Quote "At National Bankshares, Inc. we respect our heritage while focusing intently on the future" When I think back on 2000, I am also likely to remember the unsettled financial environment. Even with economic uncertainty, we are pleased to report that National Bankshares enjoyed yet another record year for profits. Net income for 2000 was nearly $7.31 million, up by 3.12% when compared with 1999. Basic net income per share ended the year at $2.08, versus $1.96 for 1999. We recognized the importance of our stockholders' investment by increasing cash dividends per share from $0.80 per share last year to $0.85 in 2000. Partly reflecting the effects of the AmSouth acquisition, National Bankshares ended 2000 with over $593 million in total assets and nearly $356 in net loans. If the year just past offered National Bankshares future opportunities, the years ahead are sure to offer many challenges. Your company, through The National Bank and Bank of Tazewell County, will continue to focus on providing exceptional customer service, while being alert to advances in technology. We understand that we must be large enough to meet our customers' changing financial needs, without losing the personal service advantages of real community banking. At National Bankshares, Inc. we respect our heritage while focusing intently on the future. I want to thank our stockholders, directors and employees for their many contributions to the success of our company. Picture of /s/James G. Rakes "James G. Rakes" James G. Rakes Chairman of the Board President and Chief Executive Officer 3 National Bankshares, Inc. and Subsidiaries Selected Consolidated Financial Data $ In thousands, except per share data. Years ended December 31,
2000 1999 1998 1997 1996 - ----------------------------------------------------------------------------------------------- Selected Interest income $ 38,358 33,603 31,828 29,797 28,647 Income Interest expense 18,163 14,203 13,928 13,106 13,036 Statement Net interest income 20,195 19,400 17,900 16,691 15,611 Data: Provision for loan losses 1,329 1,400 624 435 331 Noninterest income 4,082 3,512 3,174 2,834 2,693 Noninterest expense 12,876 11,868 11,061 10,031 9,515 Income taxes 2,763 2,556 2,591 2,499 2,341 Net income 7,309 7,088 6,798 6,560 6,117 Per Share Basic and diluted net income $ 2.08 1.96 1.79 1.73 1.61 Data: Cash dividends declared 0.85 0.80 0.74 0.68 0.62 Book value per share (1) 17.04 14.99 16.00 14.73 13.56 Selected Loans, net $ 355,795 291,562 236,578 214,552 193,598 Balance Sheet Total securities 156,344 137,492 166,754 149,974 171,244 Data at End Total assets 593,497 472,134 445,166 402,907 388,850 of Year: Total deposits 530,648 407,187 382,696 344,867 334,584 Stockholders' equity 59,834 52,723 58,503 54,029 49,801 Selected Loans, net $ 310,624 266,431 225,613 204,540 177,419 Balance Sheet Total securities 142,686 151,424 152,432 157,179 177,403 Daily Total assets 500,381 454,189 420,988 395,932 388,045 Averages: Total deposits 433,673 391,583 359,970 339,439 335,938 Stockholders' equity (1) 55,682 56,196 58,282 53,712 49,459 Selected Return on average assets 1.46 1.56 1.61 1.66 1.58 Ratios Return on average equity (1) 13.13 12.61 11.66 12.21 12.37 Dividend payout ratio 40.87 39.70 41.29 39.31 37.55 Average equity to average assets(1) 11.13 12.37 13.84 13.57 12.75
(1) Includes the amount related to common stock subject to ESOP put option excluded from stockholders' equity on the Consolidated Balance Sheets in 1998, 1997 and 1996. Graph of "Cash Dividends Per Share" 2000 1999 1998 1997 1996 - ---------------- --------------- --------------- --------------- --------------- .85 .80 .74 .68 .62 4 Management's Discussion and Analysis ($ In Thousands, except per share data) Performance Summary Net income in 2000 for National Bankshares, Inc. (Bankshares) and its wholly-owned subsidiaries, The National Bank of Blacksburg (NBB) and Bank of Tazewell County (BTC), (the Company), was $7,309, an increase of $221 or 3.12% over the previous year. This produced a return on average assets and a return on average equity of 1.46% and 13.13%, respectively. Net income for the Company for 1999 was $7,088, an increase of $290 or 4.27% over 1998. The return on average assets and return on average equity for 1999 were 1.56% and 12.61%, respectively. The Company's net income for 1998 was $6,798 which produced a return on average assets of 1.61% and a return on average equity of 11.66%. Net income per share increased steadily over the three-year period rising from $1.79 per share in 1998 to $1.96 in 1999 and $2.08 in 2000. While net income increased by $221 in 2000, the return on average assets declined by 10 basis points. This decrease was primarily due to a substantial increase in assets. Asset growth was the result of aggressive marketing efforts for deposits combined with the purchase of six branches from AmSouth Bank of Birmingham, Alabama (AmSouth). The return on equity, however, rose in part due to the increased level of earnings and in part due to a decline in average equity that had its origins in a 1999 stock repurchase. Graph of "Net Income" (In Millions) 2000 1999 1998 1997 1996 - ---------------- ------------- ------------- ------------- -------------- $7.3 7.1 6.8 6.6 6.1 Net income for 2000 increased 3.12% over 1999; however, total asset growth increased at a rate of approximately 26%, resulting in a 6.41% decline in the return on average assets. The increase in the return on average equity for 1999 was the result of increased earnings and a decline in stockholders' equity. This decline in stockholders' equity in 1999 was due to a combination of a stock repurchase that occurred in the second quarter of 1999, cash dividends and a substantial decline in accumulated other comprehensive income. The dividend payout ratio for 2000 was 40.87%, which compares to 39.70% in 1999 and 41.29% in 1998. Net Interest Income Net interest income for 2000 was $20,195, an increase of $795 or 4.10% over 1999. In 1999, net interest income was $19,400, up $1,500 or 8.38% from 1998 net interest income of $17,900. The net yield on earning assets for 2000 was 4.53%. In 1999 and 1998, the net yield on earning assets was 4.82% and 4.77%, respectively. The yield on earning assets for 2000 was 8.36%, down 18 basis points from the previous year. At the same time the cost to fund earning assets, which was 3.83%, increased 50 basis points. This produced a net decrease in the net interest margin of 32 basis points. This decrease was due primarily to the rising interest rate environment that occured in 2000. In January 2001, the Federal Reserve Bank announced a 100 basis point cut in the discount rate. Given national economic conditions, management anticipates further interest rate reductions, which will eventually translate into reduced funding costs for the Company. Hence, management expects a gradual improvement in the net yield on earning assets to begin in 2001. In 1999, the Company for the year experienced substantial loan growth, which in turn contributed significantly to the increase in net interest income for the year. The improvement in the net interest margin of 5 basis points was the result of a 14 basis point decline in the yield on earning assets combined with a 19 basis point decline in the cost to fund earning assets. In the fourth quarter of 1999, the Company changed its method of accounting for loan late fees from cash to accrual basis. As a result of this change, net interest income increased by $266. This change was not deemed to be material. The Company experienced a higher level of deposit growth in 1998 relative to the preceding year. This allowed loan growth to be funded by deposits. The investment portfolio grew as well. Interest Rate Sensitivity The Company considers interest rate risk to be a significant market risk and has systems in place to measure the exposure of net interest income and fair market values to adverse movement in interest rates. Interest rate sensitivity analyses indicate repricing opportunities, and interest rate shock simulations indicate potential economic loss due to future interest rate changes. Management realizes certain risks are inherent and minimizes these by adjusting asset/liability management responses to changing economic conditions. The Company reduces the volatility of its net interest income by managing the relationship of interest rate sensitive assets to interest rate sensitive liabilities. 5 At December 31, 2000, the Company's investment portfolio contained a substantial amount of longer term securities with call features. Due to the higher interest rate level that existed in 1999 and 2000 the securities were not called as anticipated. At the time, the net unrealized losses made the sale of the securities impractical. This problem has to a large extent abated as there has been substantial improvement in market values. With the lower interest rate environment that management anticipates, the market value should continue to improve, allowing more flexibility to manage the Company's asset and liability position through use of the available for sale portfolio. Another advantage for the Company can be found in its overall liability sensitive position. Providing that the expected period of declining rates in 2001 occurs, the Company's interest bearing liabilities will reprice downward at a faster rate than earning assets, producing additional net interest income. The Company uses simulation analysis to forecast its balance sheet and monitor interest rate sensitivity. One test is a shock analysis that measures the effect of a hypothetical, immediate and parallel shift in interest rates. The following table shows the results of a rate shock of 100, 200, and 300 basis points and the effects on net income and return on average assets and return on average equity at December 31, 2000. Simulation analysis allows the Company to test asset and liability management strategies under rising and falling rate conditions. As a part of the simulation process, certain estimates and assumptions must be made. These include, but are not limited to, asset growth, the mix of assets and liabilities, rate environment, local and national economic conditions. Asset growth and the mix of assets can to a degree be influenced by management. Other areas such as the rate environment and economic factors cannot be controlled. For this reason actual results may vary materially from any particular forecast or shock analysis. This shortcoming is offset to a degree by the periodic re-forecasting of the balance sheet to reflect current trends and economic conditions. Shock analysis must also be updated periodically as a part of the asset and liability management process. ($ in thousands, except for percent data) Rate Net Return on Return on Shift Income Average Equity Average Assets - ------------------------------------------------------------------------------ 300 $ 6,541 10.38% 1.10% 200 7,248 11.44% 1.21% 100 7,951 12.48% 1.33% (-) 100 9,347 14.52% 1.56% (-) 200 10,039 15.52% 1.68% (-) 300 10,359 15.97% 1.73% Provision and Allowance for Loan Losses The adequacy of the allowance for loan losses is based on management's judgement and analysis of current and historical loss experience, risk characteristics of the loan portfolio, concentrations of credit and asset quality, as well as other internal and external factors such as general economic conditions. An internal credit review department performs pre-credit analyses of large credits and also conducts credit review activities that provide management with an early warning of asset quality deterioration. Changing trends in the loan mix are also evaluated in determining the adequacy of the allowance for loan losses. Loan loss and other industry indicators related to asset quality are presented in the Loan Loss Data table (following page). Nonperforming loans include nonaccrual loans and restructured loans, but do not include accruing loans past due 90 days or more. Nonperforming assets for 2000 have decreased $10 from 1999. Nonperforming assets for 1999 decreased by $18 or 2.74% from the 1998 total of $656. Net charge-offs to average net loans for the year 2000 were 0.21%, down from 0.31% 1999. Overall asset quality continued to be satisfactory. The provision for loan losses for 2000 declined by $71 or 5.07% from 1999. Overall nonperforming assets remained approximately at 1999 levels. Net charge-offs to average net loans for 1999 were 0.31%, up from 0.17% in 1998. The provision for loan loss for 1999 increased by $776 or 124.36% from 1998. This increased level of bad debt expense was primarily in response to the growth in the loan portfolio, but also provided for additional losses. Charge-offs in the commercial loan category increased by $153, while charge-offs on loans to individuals increased by $234. A majority of the charge-offs in the commercial loan area was due to a single credit, while charge-offs on loans to individuals consisted of numerous smaller credits. While past efforts directed at improving asset quality have been largely successful, management is unable to estimate when and under what exact terms problem assets will be resolved. Changing economic conditions, the timing and extent of changes and the ultimate impact on the Company's asset quality is not within management's ability to predict with any degree of precision. In addition, precise loss predictions may be difficult to determine because of the complex circumstances that surround troubled debts. 6 Loan Loss Data Table ($ In thousands) 2000 1999 1998 ------------- -------------- -------------- Provision for loan losses $ 1,329 1,400 624 Net charge-offs to average net loans 0.21% 0.31% 0.17% Allowance for loan losses to loans, net of unearned income and deferred fees 1.08% 1.10% 1.12% Allowance for loan losses to nonperforming loans 4,415.91% 1,691.62% 9,567.86% Allowance for loan losses to nonperforming assets 618.79% 506.43% 408.38% Nonperforming assets to loans, net of unearned income and deferred fees, plus other real estate owned 0.17% 0.22% 0.27% Nonaccrual loans $ 88 151 28 Restructured loans --- 40 --- Other real estate owned, net 540 447 628 ------------- -------------- -------------- Total nonperforming assets $ 628 638 656 ============= ============== ============== Accruing loans past due 90 days or more $ 1,321 1,077 550 ============= ============== ============== Noninterest Income Noninterest income for 2000 was $4,082, an increase of $570 or 16.23% over 1999. Noninterest income for 1999 was $3,512, up $338 or 10.65% from 1998. Service charges on deposits for 2000 totaled $1,683, an increase of $288 or 20.65% from 1999. This increase was due primarily to volume, a portion of which was due to the purchase of six AmSouth Bank branches. Service charges on deposit accounts in 1999 were up $230 or 19.74% from the previous year. The level of these charges is driven by demand deposit volume, types of accounts opened, service charge rates in effect, the level of charges such as overdraft fees and the waiver policy concerning these fees. Other service charges and fees are composed of safe deposit box rent, charges associated with letters of credit and other miscellaneous items. In 2000, these charges were $348, an increase of $69 or 24.73% from 1999. For 1999, these charges totaled $279, an increase of $48 or 20.78% from 1998. Trust income for 2000 was $885 which represents a decrease of $42 or 4.53% over 1999. In 1999, trust income was $927, an increase of $153 or 19.77% over 1998. Factors affecting trust income include the number of accounts managed, the average value of the accounts managed, and the types of trust accounts. Trust income declined in 2000 because fewer estates were settled than in the prior year. Due to its nature, estate business volume and the related income is not within management's ability to predict. Credit card income is composed of several types of fees and charges, including transaction or interchange fees, merchant discount fees and overlimit charges. In 2000, credit card income totaled $1,012, an increase of $210 or 26.18% over 1999. The increase in this category was attributable to an increase in debit card activity. Credit card income for 1999 was $802, up $149 or 22.82% over 1998. The increase in 1999 was attributable to increases in merchant income and debit card processing fees. Given the highly competitive market which limits the amount of set charges, revenue increases result from growth in the number of merchant accounts processed and increases in the number of customer credit and debit card accounts. These increases result in higher transaction volume. Net realized securities gains were $9 in 2000, down $15 from 1999. In 1999, net securities gains were $24, down $164 or 87.23% from 1998. Gains and losses can occur as a result of portfolio restructuring, securities called before maturity and certain market adjustments. Noninterest Expense Noninterest expense in 2000 totaled $12,876, an increase of $1,008 or 8.49% from 1999. In 1999, noninterest expense was $11,868, an increase of $807 or 7.30% from 1998. In November of 2000 the Company acquired six AmSouth Bank branches. This acquisition affected salaries and benefits, occupancy and data processing expenses in 2000. These categories are expected to increase significantly in 2001 as the AmSouth transaction was only in effect for two months of 2000. Salaries and benefits in 2000 increased $312 or 5.16% from 1999. In 1999, salaries and benefits expense totaled $6,048, up $224 or 3.85% from 1998. As stated above, largely because of the addition of the six AmSouth Bank branches late in 2000, occupancy and furniture and fixtures expense increased $163 or 14.15% for 2000 when compared to 1999. 7 Occupancy and furniture and fixtures expense increased $154 or 15.43% for 1999 when compared to 1998. This increase was due to higher costs associated with the Galax office acquired by NBB in the second quarter of 1998 and also to regular planned maintenance of facilities. The increase was also due to the addition of the Company's new Hubbard Street corporate office building placed into service in the third quarter of 1999. "Total Assets" Graph (In Millions) 2000 1999 1998 1997 1996 - ---------------- ------------- ------------ -------------- --------------- $593.5 472.1 445.2 402.9 388.9 Data processing and ATM expense was $931 for 2000, an increase over 1999 of $42 or 4.72%. This increase is mostly attributable to a host computer software upgrade and to the costs associated with the AmSouth acquisition. Data processing and ATM expense was $889 for 1999, an increase of $118 or 15.30%. This increase was due to costs associated with the upgrade of information system hardware and software and costs related to an expanded microcomputer network. The cost of Federal Deposit Insurance was $86 in 2000, an increase of $39 from 1999. While the banks' base premiums remain at the minimum required by law, legislation enacted in late 1996 levied an assessment on banks for the purpose of financing certain costs associated with the resolution of the savings and loan crisis. This additional levy is expected to remain in effect until 2018-2019. In 1999, the Company's affiliates paid a premium of $47, an increase of $10 over 1998. Credit card processing expense for 2000 was $1,025, an increase of $313 or 43.96% over 1999. Included in credit card expenses is approximately $192 in losses incurred by the Company's NBB affiliate. The loss was the result of charged-back items from a single merchant. The remainder of the increase was attributable to volume. In 1999, credit card processing expense was $712, an increase of $113 or 18.86% over 1998. This increase reflects additional expense due to the introduction of a debit card product, higher merchant processing costs and an overall increase in business activity. Net costs of other real estate owned for 2000 were $83, an increase of $57 from 1999. In 1999, net costs of other real estate owned were $26, decreasing $11 or 29.73% from 1998. Other operating expenses were $3,038 in 2000, up $82 or 2.77% from 1999, which was primarily the result of increases in stationery and supplies, telephone and state franchise tax expense at BTC. The other operating expense category in 1999 was $2,956, increasing $197 or 7.14% from 1998. Income Taxes With higher pre-tax income in 2000, a $207 increase in income tax expense resulted when compared to 1999. Tax exempt interest income continues to be the primary difference between the "expected" and reported income tax expense. The Company's effective tax rates for 2000, 1999 and 1998 were 27.43%, 26.50% and 27.60%, respectively. See note 10 of Notes to Consolidated Financial Statements for additional information relating to income taxes. Effects of Inflation The Company's consolidated statements of income and comprehensive income generally reflect the effects of inflation. Since interest rates, loan demand and deposit levels are related to inflation, the resulting changes are included in net income. The most significant item which does not reflect the effects of inflation is depreciation expense, because historical dollar values used to determine this expense do not reflect the effect of inflation on the market value of depreciable assets after their acquisition. Balance Sheet Total assets at year-end 2000 were $593,497 which represents an increase of $121,363 or 25.71% over the previous year. The Company's primary methods of achieving growth are to seek increases in deposits at its bank subsidiaries and to grow through corporate acquisitions and mergers. In late 2000 the Company acquired six AmSouth Bank branches. The transaction resulted in an increase of approximately $94,000 in deposits and $42,000 in loans. The additional liquidity provided by the acquisition allowed the Company to repay $10,000 in funds borrowed from the Federal Home Loan Bank referred to in the 1999 discussion. At year-end 2000 the Company had a total of $42,669 in federal funds sold and deposits in the Federal Home Loan Bank. While deposit growth was strong in 1999, it was not sufficient to fund all of the Company's investing and financing activities. Deposit growth was supplemented in the fourth quarter of 1999 by borrowing approximately $10,000 from the Federal Home Loan Bank. Loans Loans, net of unearned income and deferred fees, grew by $64,888 or 22.01% in 2000. Commercial loans grew by $14,543 or 9.74%, with loans to individuals increasing by $36,351 or 49.24%. Real estate mortgage loans grew by $12,334, an increase of 20.97%. Real estate construction loans grew by 14.02%. This growth was largely attributable to the AmSouth Bank acquisition, which added approximately $42,000 to the loan portfolio. 8 "Net Loans" Graph 2000 1999 1998 1997 1996 - ---------------- ------------- ------------- -------------- --------------- $355.8 291.6 236.6 214.6 193.6 In another transaction planned for the first quarter of 2001, the Company will acquire approximately $11,000 in loans in connection with the purchase of a branch office in Bluefield, Virginia from First Union National Bank. In 1999, loans, net of unearned income and deferred fees, grew by $55,536 or 23.21%. Commercial loans, which grew by $38,877 or 35.18%, accounted for the largest portion of the increase. The Company engages in the origination and sale of mortgage loans in the secondary market. In 2000 and 1999, the Company originated $20,129 and $31,538, respectively, and sold $20,358 and $33,489 in 2000 and 1999, respectively, of mortgage loans. Securities With the completion of the AmSouth transaction and because of aggressive deposit procurement efforts, the Company generated excess liquidity in 2000. A portion of these excess funds was invested in the available for sale portfolio, which increased by $9,940 or 8.73%, and a portion was invested in the held to maturity category, which increased by $8,912 or 37.69%. As previously mentioned the net unrealized loss in the available for sale portfolio decreased significantly in 2000. At December 31, 2000, net securities loss, net of deferred tax benefit, was approximately ($575) compared to ($3,453) at December 31, 1999. Further improvement is expected due to the declining rate environment anticipated by management in 2001. In 1999, total bank-owned securities decreased by $29,262 or 17.55% compared to 1998. Securities available for sale declined by $22,233 or 16.34%, while securities held to maturity declined by $7,029 or 22.91%. (See comments in the Interest Rate Sensitivity section.) The Company's investment policy stresses safety, with a program of purchasing high quality securities such as U.S. Treasury and U.S. Government agency issues, state, county, and municipal bonds, corporate bonds, mortgage-backed securities and other bank qualified investments. The Company has classified all of its investment securities as either held to maturity or available for sale, as the Company does not engage in trading activities. At December 31, 2000 and 1999, the Company had no investment concentrations in any single issues (excluding U.S. Government) that exceeded ten percent of capital. Deposits As a result of aggressive marketing efforts and the acquisition of six AmSouth Bank branches, total deposits grew by $123,461 or 30.32% in 2000. The AmSouth purchase accounted for approximately $94,000 of the increase. The planned first quarter of 2001 acquisition of the First Union National Bank branch in Bluefield, Virginia will add approximately $39,000 to deposits. (See Business Combination for more information). At year-end 1999, total deposits were $407,187, which represented a $24,491 or 6.40% increase over 1998. In the third quarter of 1999, the Office of the Comptroller of Currency announced the closure of a banking institution in Keystone, West Virginia. As a result of the closure, depositors in that area were forced to seek banking relationships with other institutions in the general area. The Company's BTC affiliate benefited from the event, acquiring new deposits in excess of $20,000. This event accounted for the majority of the Company's deposit growth in 1999. Derivatives and Market Risk Exposures The Company is not a party to derivative financial instruments with off-balance sheet risks such as futures, forwards, swaps and options. The Company is a party to financial instruments with off-balance sheet risks such as commitments to extend credit, standby letters of credit, and recourse obligations in the normal course of business to meet the financing needs of its customers. See note 14 of Notes to Consolidated Financial Statements for additional information relating to financial instruments with off-balance sheet risk. Management does not plan any future involvement in high risk derivative products. The Company has investments in mortgage-backed securities, principally GNMA's, with a fair value of approximately $12,068, which includes $2,156 of structured notes. In addition, the Company has investments in nonmortgage-backed structured notes with fair value of approximately $1,808. See note 3 of Notes to Consolidated Financial Statements for additional information relating to securities. The Company's securities and loans are subject to credit and interest rate risk, and its deposits are subject to interest rate risk. Management considers credit risk when a loan is granted and monitors credit risk after the loan is granted. The Company maintains an allowance for loan losses to absorb losses in the collection of its loans. See note 5 of Notes to Consolidated Financial Statements for information relating to the allowance for loan losses. See note 15 of Notes to Consolidated Financial Statements for information relating to concentrations of credit risk. The Company has an asset/liability program to manage its interest rate risk. This program provides management with information related to the rate sensitivity of certain assets and liabilities and the effect of changing rates on profitability and capital accounts. While this planning process is designed to protect the Company over the long term, it does not provide near term protection from interest rate shocks, as interest rate sensitive assets and liabilities do not, by their nature, move up or down in tandem in response to changes in the overall rate environment. The Company's profitability in the near term may be temporarily affected either positively by a falling interest rate scenario or negatively by a period of rising rates. See note 16 of Notes to Consolidated Financial Statements for information relating to fair value of financial instruments and comments concerning interest rate sensitivity. 9 Liquidity Liquidity is the ability to provide sufficient cash flow to meet financial commitments and to fund additional loan demand or withdrawal of existing deposits. Sources of liquidity include deposits, loan principal and interest repayments, sales, calls and maturities of securities and short-term borrowings. The Company maintained an adequate liquidity level during 2000 and 1999. In 2000, the Company's liquidity greatly improved. In the first half of 2000 the Company aggressively marketed its deposit products. In the fourth quarter it acquired six AmSouth Bank branches. The result of these efforts allowed the Company to repay a $10,000 advance from the Federal Home Loan Bank and to end 2000 with $42,669 in federal funds sold and deposits in the Federal Home Loan Bank. Continued improvement in the level of net unrealized gains/losses in the available for sale securities portfolio due to the previously discussed falling interest rate environment will provide additional liquidity, though the exact timing is not known. In 1999, the Company's liquidity was materially affected by several events. As previously discussed, the Company's available for sale securities portfolio experienced a significant level of net unrealized losses through much of 1999 and at December 31, 1999, which limited, in the near term, its use as a source of liquidity. Deposit growth, however, during 1999 was strong, reducing the effect of the lack of liquidity found in the securities portfolio. (See comments in the deposit section related to the Keystone matter.) Loan growth and other cash needs did however remain strong and resulted in the Company borrowing $10,000 from the Federal Home Loan Bank on a short term basis at its NBB subsidiary. Liquidity was also affected by a stock repurchase that used cash totaling $7,762 and by the building of a new corporate headquarters. Other needs for cash include the planned building of a new branch by the Company's NBB subsidiary late in 2001. Management is not aware of any other commitments or events that will result in or are reasonably likely to result in a material and adverse decrease in liquidity. Net cash from operating activities of $9,691 in 2000, decreased by $1,757 from 1999 primarily due to the decrease in accrued interest receivable and the decrease in mortgage loans held for sale. Net cash flows provided by operating activities and financing activities for 2000 of $9,691 and $101,902 respectively, were used primarily to fund loan growth. Net cash from operating activities of $11,448 in 1999 increased by $6,201 from 1998 primarily due to the increase in the provision for loan losses and the decrease in mortgage loans held for sale. Net cash flows provided by operating activities and financing activities for 1999 of $11,448 and $24,161, respectively, were used primarily to fund loan growth. Capital Resources Total stockholders' equity increased by $7,111 or 13.49% in the year 2000. Growth was the result of net income of $7,309, offset by dividends to shareholders of $2,987. Accumulated comprehensive income increased by $2,878. Stock in the amount of $89 was repurchased. Total stockholders' equity decreased $7,986 from 1998 to 1999. Cash dividends on common stock of $2,814 and the repurchase of common stock of $7,762, offset by net income, contributed to the decrease in 1999. In addition, net unrealized gains (losses) on securities available for sale, net of deferred income taxes, were ($3,453) at December 31, 1999 and $1,019 at December 31, 1998. These unrealized net gains and losses are recorded as accumulated other comprehensive income (loss), a separate component of stockholders' equity, and will continue to be subject to change in future years due to fluctuations in fair values, sales, purchases, maturities and calls of securities classified as available for sale. In the second quarter of 1999, the Company repurchased 275,856 of its common shares at $28.00 per share. This reduced stockholders' equity by $7,762. Banks are required to apply percentages to various assets, including off-balance sheet assets, to reflect their perceived risk. Regulatory defined capital is divided by risk weighted assets in determining the banks' risk-based capital ratios. No regulatory authorities have advised National Bankshares, Inc., the National Bank of Blacksburg or Bank of Tazewell County of any specific leverage ratios applicable to them. National Bankshares, Inc., the National Bank of Blacksburg and Bank of Tazewell County's capital adequacy ratios exceed regulatory requirements and provide added flexibility to take advantage of business opportunities as they arise. See note 11 of Notes to Consolidated Financial Statements for additional information. Recent Accounting Pronouncements See note 1 of Notes to Consolidated Financial Statements for information relating to recent accounting pronouncements. Branch Acquisitions On November 8, 2000 the Company acquired six branches of AmSouth Bank of Birmingham, Alabama (AmSouth). Approximately $42,000 in loans and $94,000 in deposits were acquired. Three of the six branches, located in Radford, Pulaski, and Dublin, Virginia, are being operated by the Company's NBB affiliate. The remaining three, located at Wytheville, Abingdon, and Marion, Virginia, are being operated by the Company's BTC affiliate. In another move to improve the Company's competitive position, BTC announced on September 15, 2000 that it will acquire a branch in Bluefield, Virginia from First Union National Bank. The acquisition will involve the purchase of approximately $39,000 in deposits and $11,000 in loans. Plans call for the acquisition to be completed in the first quarter of 2001. 10 Common Stock Information and Dividends Effective December 1, 1999, National Bankshares, Inc.'s common stock began trading on the Nasdaq SmallCap Market under the symbol "NKSH". Prior to December 1, 1999, National Bankshares, Inc.'s common stock was traded on a limited basis in the over-the-counter market and was not listed on any exchange or quoted on Nasdaq. As of December 31, 2000, there were 1,076 stockholders of Bankshares common stock. The following is a summary of the market price per share and cash dividend per share of the common stock of National Bankshares, Inc. for 2000 and 1999. Bankshares' primary source of funds for dividend payments is dividends from its subsidiaries, The National Bank of Blacksburg and Bank of Tazewell County. Bank regulatory agencies restrict dividend payments of the subsidiaries as more fully disclosed in note 11 of Notes to Consolidated Financial Statements. Common Stock Market Prices 2000 1999 Dividends per share ---------- --------- ------------ --------- -------- ---------- High Low High Low 2000 1999 ---------- --------- ------------ --------- -------- ---------- First Quarter $ 20.50 18.75 $ 26.00 22.00 --- --- Second Quarter 19.00 15.50 27.50 34.00 0.42 .039 Third Quarter 17.50 16.06 25.00 22.00 --- --- Fourth Quarter 18.75 15.125 23.50 19.75 0.43 0.41 11 Independent Auditors' Report The Board of Directors and Stockholders National Bankshares, Inc. Blacksburg, Virginia We have audited the accompanying consolidated balance sheet of National Bankshares, Inc. and subsidiaries as of December 31, 2000, and the related consolidated statements of income and comprehensive income, changes in stockholders' equity and cash flows for the year then ended. These financial statements are the responsibility of the Company's management. Our responsibility is to express an opinion on these financial statements based on our audit. The financial statements of National Bankshares, Inc. for the years ended December 31, 1999 and 1998 were audited by other auditors whose report, dated February 11, 2000, expressed an unqualified opinion on those statements. We conducted our audit 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 the 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 audit provides a reasonable basis for our opinion. In our opinion, the 2000 consolidated financial statements referred to above present fairly, in all material respects, the financial position of National Bankshares, Inc. and subsidiaries as of December 31, 2000, and the results of its operations and its cash flows for the year then ended in conformity with generally accepted accounting principles. /s/Yount, Hyde & Barbour, P.C. Winchester, Virginia February 2, 2001 12 National Bankshares, Inc. and Subsidiaries Consolidated Balance Sheets $ In thousands, except per share data. December 31, 2000 and 1999.
2000 1999 -------------- ------------- Assets Cash and due from banks $ 11,130 13,311 Interest-bearing deposits 13,579 9,219 Federal funds sold 29,090 2,800 Securities available for sale 123,785 113,845 Securities held to maturity (fair value $32,602 in 2000 and $23,496 in 1999) 32,559 23,647 Mortgage loans held for sale --- 229 Loans: Real estate construction loans 16,726 14,669 Real estate mortgage loans 71,163 58,829 Commercial and industrial loans 163,929 149,386 Loans to individuals 110,176 73,825 --------- --------- Total loans 361,994 296,709 Less unearned income and deferred fees (2,313) (1,916) --------- --------- Loans, net of unearned income and deferred fees 359,681 294,793 Less allowance for loan losses (3,886) (3,231) --------- --------- Loans, net 355,795 291,562 --------- --------- Bank premises and equipment, net 10,324 8,506 Accrued interest receivable 5,049 4,014 Other real estate owned, net 540 447 Other assets 11,646 4,554 --------- --------- Total Assets $593,497 472,134 ========= ========= Liabilities and Noninterest-bearing demand deposits $ 60,165 54,748 Stockholders' Interest-bearing demand deposits 101,257 88,385 Equity Savings deposits 42,560 44,834 Time deposits 326,666 219,220 --------- --------- Total deposits 530,648 407,187 --------- --------- Other borrowed funds 270 10,460 Accrued interest payable 1,538 651 Other liabilities 1,207 1,113 --------- --------- Total liabilities 533,663 419,411 --------- --------- Stockholders' equity: Preferred stock of no par value. Authorized 5,000,000 shares; none issued and outstanding --- --- Common stock of $2.50 par value. Authorized 5,000,000 shares; issued and outstanding 3,511,877 in 2000 and 3,516,977 shares in 1999 8,780 8,792 Retained earnings 51,629 47,384 Accumulated other comprehensive loss (575) (3,453) --------- --------- Total stockholders' equity 59,834 52,723 Commitments and contingent liabilities --------- --------- Total liabilities and stockholders'equity $593,497 472,134 ========= ========= See accompanying notes to consolidated financial statements.
13 National Bankshares, Inc. and Subsidiaries Consolidated Statements of Income and Comprehensive Income $ In thousands, except per share data. Years ended December 31, 2000, 1999 and 1998.
2000 1999 1998 -------------- ------------- ------------- Interest Interest and fees on loans $ 28,326 24,105 21,691 Income Interest on federal funds sold 338 170 345 Interest on interest-bearing deposits 689 269 696 Interest on securities - taxable 6,760 6,820 7,201 Interest on securities - nontaxable 2,245 2,239 1,895 ------------ ----------- ------------ Total interest income 38,358 33,603 31,828 ------------ ----------- ------------ Interest Interest on time deposits of $100,000 or more 3,455 2,487 2,457 Expense Interest on other deposits 14,080 11,484 11,460 Interest on borrowed funds 628 232 11 ------------ ----------- ------------ Total interest expense 18,163 14,203 13,928 ------------ ----------- ------------ Net interest income 20,195 19,400 17,900 Provision for loan losses 1,329 1,400 624 ------------ ----------- ------------ Net interest income after provision for loan losses 18,866 18,000 17,276 ------------ ----------- ------------ Noninterest Service charges on deposit accounts 1,683 1,395 1,165 Income Other service charges and fees 348 279 231 Credit card fees 1,012 802 653 Trust income 885 927 774 Other income 145 85 163 Realized securities gains, net 9 24 188 ------------ ----------- ------------ Total noninterest income 4,082 3,512 3,174 ------------ ----------- ------------ Noninterest Salaries and employee benefits 6,360 6,048 5,824 Expense Occupancy and furniture and fixtures 1,315 1,152 998 Data processing and ATM 931 889 771 FDIC assessment 86 47 37 Credit card processing 1,025 712 599 Goodwill amortization 38 38 36 Net costs of other real estate owned 83 26 37 Other operating expenses 3,038 2,956 2,759 ------------ ----------- ------------ Total noninterest expense 12,876 11,868 11,061 ------------ ----------- ------------ Income before income tax expense 10,072 9,644 9,389 Income tax expense 2,763 2,556 2,591 ------------ ----------- ------------ Net income 7,309 7,088 6,798 ------------ ----------- ------------ Other comprehensive income (loss), net of income taxes: Net unrealized gains (losses) on securities available for sale: Arising during the year 2,878 (4,472) 356 Cumulative accounting change --- --- 469 ------------ ----------- ------------ Total other comprehensive income (loss) 2,878 (4,472) 825 ------------ ----------- ------------ Comprehensive income $ 10,187 2,616 7,623 ============ =========== ============ Basic and diluted net income per share $ 2.08 1.96 1.79 ============ =========== ============ See accompanying notes to consolidated financial statements.
14 National Bankshares, Inc. and Subsidiaries Consolidated Statements of Changes in Stockholders' Equity $ In thousands, except per share data. Years ended December 31, 2000, 1999 and 1998.
Accumulated Common Other Stock Comprehensive Subject to Common Retained Income ESOP Put Stock Earnings (Loss) Option Total ------------- ------------- ------------ ------------- ------------- Balances, December 31, 1997 $ 9,482 46,191 194 (1,838) 54,029 Net income --- 6,798 --- --- 6,798 Cash dividends ($0.74 per share) --- (2,807) --- --- (2,807) Change in net unrealized gains (losses) on securities available for sale, net of income tax expense of $425 Arising during the year, net of income tax expense of $183 --- --- 356 --- 356 Cumulative accounting change, net of income tax expense of $242 --- --- 469 --- 469 ------------- ------------- ------------ ------------- ------------- Total --- --- 825 --- 825 ------------- ------------- ------------ ------------- ------------- Change in common stock subject to ESOP put option --- --- --- (342) (342) ------------- ------------- ------------ ------------- ------------- Balances, December 31, 1998 9,482 50,182 1,019 (2,180) 58,503 Net income --- 7,088 --- --- 7,088 Cash dividends ($0.80 per share) --- (2,814) --- --- (2,814) Change in net unrealized gains (losses) on securities available for sale, net of income tax benefit of $2,304 --- --- (4,472) --- (4,472) Common stock repurchase (690) (7,072) --- --- (7,762) Change in common stock subject to ESOP put option --- --- --- 2,180 2,180 ------------- ------------- ------------ ------------- ------------- Balances, December 31, 1999 8,792 47,384 (3,453) --- 52,723 Net income --- 7,309 --- --- 7,309 Cash dividends ($0.85 per share) --- (2,987) --- --- (2,987) Change in net unrealized gains (losses) on securities available for sale, net of income tax expense of $1,483 --- --- 2,878 --- 2,878 Common stock repurchase (12) (77) --- --- (89) ------------- ------------- ------------ ------------- ------------- Balances, December 31, 2000 $ 8,780 51,629 (575) --- 59,834 ============= ============= ============ ============= ============= See accompanying notes to consolidated financial statements.
15 National Bankshares, Inc. and Subsidiaries Consolidated Statements of Cash Flows $ In thousands. Years ended December 31, 2000, 1999 and 1998.
2000 1999 1998 ------------- ------------- ------------ Cash Flows Net income $ 7,309 7,088 6,798 from Adjustments to reconcile net income to net cash Operating provided by operating activities: Activities Provision for loan losses 1,329 1,400 624 Provision for deferred income taxes (253) (214) (135) Depreciation of bank premises and equipment 1,015 903 811 Amortization of intangibles 229 152 144 Amortization of premiums and accretion of discounts, net 132 350 87 (Gains) losses on sales and calls of securities available for sale, net 4 (20) (145) Gains on calls of securities held to maturity, net (13) (4) --- Losses and writedowns on other real estate owned 26 --- --- Other (4) 22 (135) (Increase) decrease in: Mortgage loans held for sale 229 1,951 (1,775) Accrued interest receivable (1,035) (237) (332) Other assets (258) (134) (580) Increase (decrease) in: Accrued interest payable 887 4 (75) Other liabilities 94 187 (40) ------------- ------------- ------------ Net cash provided by operating activities 9,691 11,448 5,247 ------------- ------------- ------------ Cash Flows Net (increase) decrease in federal funds sold (26,290) 2,290 (790) from Net (increase) decrease in interest-bearing deposits (4,360) (2,192) 2,701 Investing Proceeds from repayments of mortgage-backed Activities securities available for sale 1,558 4,558 1,065 Proceeds from sales of other securities available for sale 935 1,300 2,999 Proceeds from calls and maturities of other securities available for sale 7,732 21,495 35,180 Proceeds from calls and maturities of securities held to maturity 3,192 6,997 34,187 Purchases of mortgage-backed securities available for sale --- --- (14,175) Purchases of other securities available for sale (15,914) (12,190) (73,685) Purchases of securities held to maturity (12,117) --- (1,000) Purchases of loan participations (2,759) (5,643) (4,635) Collections of loan participations 3,768 3,408 4,074 Loans purchased, including premium (42,187) --- (4,051) Net increase in loans made to customers (24,869) (54,456) (18,675) Proceeds from disposal of other real estate owned 271 336 194 Recoveries on loans charged off 95 130 255 Bank premises and equipment expenditures (2,839) (2,757) (1,770) Proceeds from sale of bank premises and equipment 10 5 114 ------------- ------------- ------------ Net cash used in investing activities (113,774) (36,719) (38,012) Cash Flows Deposits acquired, net of premium 85,944 --- 7,016 from Net increase in time deposits 40,031 22,709 14,357 Financing Net increase (decrease) in other deposits (10,807) 1,782 16,456 Activities Net increase (decrease) in other borrowed funds (10,190) 10,246 (271) Cash dividends paid (2,987) (2,814) (2,807) Common stock repurchase (89) (7,762) --- ------------- ------------- ------------ Net cash provided by financing activities 101,902 24,161 34,751 ------------- ------------- ------------ Net increase (decrease) in cash and due from banks (2,181) (1,110) 1,986 Cash and due from banks at beginning of year 13,311 14,421 12,435 ------------- ------------- ------------ Cash and due from banks at end of year $ 11,130 13,311 14,421 ============= ============= ============ See accompanying notes to consolidated financial statements.
16 Notes to Consolidated Financial Statements $ In thousands, except share data and per share data. December 31, 2000, 1999 and 1998. Note 1: Summary of Significant Accounting Policies The accounting and reporting policies of National Bankshares, Inc. (Bankshares) and its wholly-owned subsidiaries, the National Bank of Blacksburg (NBB) and Bank of Tazewell County (BTC), conform to generally accepted accounting principles and general practices within the banking industry. The following is a summary of the more significant accounting policies. (A) Consolidation The consolidated financial statements include the accounts of National Bankshares, Inc. and its wholly-owned subsidiaries (the Company). All significant intercompany balances and transactions have been eliminated. (B) Cash and Cash Equivalents For purposes of reporting cash flows, cash and cash equivalents include cash on hand and due from banks. (C) Securities Debt securities that management has the positive intent and ability to hold to maturity are classified as "held to maturity" and recorded at amortized cost. Securities not classified as held to maturity or trading, including equity securities with readily determinable fair values, are classified as "available for sale" and recorded at fair value, with unrealized gains and losses excluded from earnings and reported in other comprehensive income. Purchase premiums and discounts are recognized in interest income using the interest method over the terms of the securities. Declines in the fair value of held to maturity and available for sale securities below their cost that are deemed to be other than temporary are reflected in earnings as realized losses. Gains and losses on the sale of securities are recorded on the trade date and are determined using the specific identification method. (D) Loans Held for Sale Loans originated and intended for sale in the secondary market are carried at the lower of cost or estimated fair value on an individual loan basis. Net unrealized losses, if any, are recognized through a valuation allowance by charges to income. (E) Loans The Company grants mortgage, commercial and consumer loans to customers. A substantial portion of the loan portfolio is represented by mortgage loans. The ability of the Company's debtors to honor their contracts is dependent upon the real estate and general economic conditions in the Company's market area. Loans that management has the intent and ability to hold for the foreseeable future or until maturity or pay-off generally are reported at their outstanding unpaid principal balances less the allowance for loan losses, and any deferred fees or costs on originated loans. Interest income is accrued on the unpaid principal balance. Loan origination fees, net of certain direct origination costs, are deferred and recognized as an adjustment of the related loan yield using the interest method. The accrual of interest on mortgage and commercial loans is discontinued at the time the loan is 90 days delinquent unless the credit is well-secured and in process of collection. Credit card loans and other personal loans are typically charged off no later than 180 days past due. In all cases, loans are placed on nonaccrual or charged-off at an earlier date if collection of principal or interest is considered doubtful. All interest accrued but not collected for loans that are placed on nonaccrual or charged off is reversed against interest income. The interest on these loans is accounted for on the cash-basis or cost-recovery method, until qualifying for return to accrual. Loans are returned to accrual status when all the principal and interest amounts contractually due are brought current and future payments are reasonably assured. (F) Allowance for Loan Losses The allowance for loan losses is established based upon various estimates of losses through a provision for loan losses charged to earnings. Loan losses are charged against the allowance when management believes the uncollectibility of a loan balance is confirmed. Subsequent recoveries, if any, are credited to the allowance. 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 Company 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 17 Notes to Consolidated Financial Statements National Bankshares, Inc. and Subsidiaries 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 Company does not separately identify individual consumer and residential loans for impairment disclosures. (G) Bank Premises and Equipment Bank premises and equipment are stated at cost, net of accumulated depreciation. Depreciation is charged to expense over the estimated useful lives of the assets on the straight-line basis. Depreciable lives include 40 years for premises, 3-10 years for furniture and equipment, and 5 years for computer software. Costs of maintenance and repairs are charged to expense as incurred and improvements are capitalized. (H) Other Real Estate Real estate acquired through, or in lieu of, foreclosure is held for sale and is initially recorded at fair value at the date of foreclosure, establishing a new cost basis. Subsequent to foreclosure, valuations are periodically performed by management and the assets are carried at the lower of carrying amount or fair value less cost to sell. Revenues and expenses from operations and changes in the valuation are included in other operating expenses. (I) Intangible Assets Included in other assets are deposit intangibles of $8,693 and $592 at December 31, 2000 and 1999, respectively, and goodwill of $345 and $382 at December 31, 2000 and 1999, respectively. Deposit intangibles are being amortized on a straight-line basis over a ten-year period and goodwill is being amortized on a straight-line basis over a fifteen-year period. (J) Stock Option Plan Effective March 10, 1999, the Company adopted the National Bankshares, Inc. 1999 Stock Option Plan. The Company applies the intrinsic value-based method of accounting prescribed by Accounting Principles Board (APB) Opinion No. 25, "Accounting for Stock Issued to Employees," and related interpretations, in accounting for its fixed plan stock options. As such, compensation expense would be recorded on the date of grant only if the current market price of the underlying stock exceeded the exercise price. Statement of Financial Accounting Standards No. 123, "Accounting for Stock-Based Compensation," established accounting and disclosure requirements using a fair value-based method of accounting for stock-based employee compensation plans. As allowed by Statement 123, the Company has elected to continue to apply the intrinsic value-based method of accounting described above, and has adopted the disclosure requirements of Statement 123. (K) Impairment of Long-Lived Assets and Long-Lived Assets to be Disposed of Long-lived assets and certain identifiable intangibles are reviewed for impairment whenever events or changes in circumstances indicate that the carrying amount of an asset may not be recoverable. Recoverability of assets to be held and used is measured by a comparison of carrying amount of an asset to future undiscounted net cash flows expected to be generated by the asset. If such assets are considered to be impaired, the impairment to be recognized is measured by the amount by which the carrying amount of the assets exceed the fair value of the assets. Assets to be disposed of are reported at the lower of the carrying amount of fair value less costs to sell. (L) Pension Plans The Company sponsors two separate defined benefit pension plans which cover substantially all full-time officers and employees. The benefits are based upon length of service and a percentage of the employee's compensation during the final years of employment. Pension costs are computed based upon the provisions of Statement 87. The Company contributes to the pension plans amounts deductible for federal income tax purposes. (M) Income Taxes Deferred income tax assets and liabilities are determined using the balance sheet method. Under this method, the net deferred tax asset or liability is determined based on the tax effects of the temporary differences between the book and tax bases of the various balance sheet assets and liabilities and gives current recognition to changes in tax rates and laws. (N) Trust Assets and Income Assets (other than cash deposits) held by the Trust Departments in a fiduciary or agency capacity for customers are not included in the consolidated financial statements since such items are not assets of the Company. Trust income is recognized on the accrual basis. (O) Net Income Per Share Basic earnings per share (EPS) excludes dilution and is computed by dividing income available to common stockholders by the weighted-average number of common shares outstanding for the period. Diluted EPS reflects the potential dilution that could occur if securities or other contracts to issue common stock were exercised or converted into common stock or resulted in the issuance of common stock that then shared in the earnings of the entity. Basic net income per share is based upon the weighted average number of common shares outstanding (3,514,586 shares in 2000, 3,607,669 in 1999 and 3,792,833 in 1998). Stock options totaled 18,000 and 5,500 shares at December 31, 2000 and 1999, respectively (see note 9). Options that could potentially dilute basic net income per share in the future were not included in the computation of diluted net income per share because to do so would have been antidilutive . 18 (P) Off-Balance Sheet Financial Instruments In the ordinary course of business, the Company has entered into off-balance sheet financial instruments consisting of commitments to extend credit and standby letters of credit. Such financial instruments are recorded in the financial statements when they become payable. (Q) Fair Value of Financial Instruments The following methods and assumptions were used by the Company in estimating disclosure for financial instruments: (1)Cash and Due from Banks, Interest-Bearing Deposits and Federal Funds Sold The carrying amounts approximate fair value. (2)Securities The fair values of securities are determined by quoted market prices or dealer quotes. The fair value of certain state and municipal securities is not readily available through market sources other than dealer quotations, so fair value estimates are based on quoted market prices of similar instruments, adjusted for differences between the quoted instruments and the instruments being valued. (3)Loans Held for Sale Fair values of loans held for sale are based on commitments on hand from investors or prevailing market prices. (4)Loans Fair values are estimated for portfolios of loans with similar financial characteristics. Loans are segregated by type such as mortgage loans held for sale, commercial, real estate - commercial, real estate - construction, real estate - mortgage, credit card and other consumer loans. Each loan category is further segmented into fixed and adjustable rate interest terms and by performing and nonperforming categories. The fair value of performing loans is calculated by discounting scheduled cash flows through the estimated maturity using estimated market discount rates that reflect the credit and interest rate risk inherent in the loan, as well as estimates for prepayments. The estimate of maturity is based on the Company's historical experience with repayments for loan classification, modified, as required, by an estimate of the effect of economic conditions on lending. Fair value for significant nonperforming loans is based on estimated cash flows which are discounted using a rate commensurate with the risk associated with the estimated cash flows. Assumptions regarding credit risk, cash flows and discount rates are judgmentally determined using available market information and specific borrower information. (5)Deposits The fair value of demand and savings deposits is the amount payable on demand. The fair value of fixed maturity term deposits and certificates of deposit is estimated using the rates currently offered for deposits with similar remaining maturities. (6)Accrued Interest The carrying amounts of accrued interest approximate fair value. (7)Other Borrowed Funds Other borrowed funds represents treasury tax and loan deposits, and short-term borrowings from the Federal Home Loan Bank. The carrying amount is a reasonable estimate of fair value because the deposits are generally repaid within 1 to 120 days from the transaction date. (8)Commitments to Extend Credit and Standby Letters of Credit The only amounts recorded for commitments to extend credit, standby letters of credit and financial guarantees written are the deferred fees arising from these unrecognized financial instruments. These deferred fees are not deemed significant at December 31, 2000 and 1999, and as such, the related fair values have not been estimated. (R) Advertising The Company practices the policy of charging advertising costs to expenses as incurred. (S) Comprehensive Income On January 1, 1998, the Company adopted Statement of Financial Accounting Standards No. 130, "Reporting Comprehensive Income." Statement 130 establishes standards for reporting and presentation of comprehensive income and its components in a full set of general purpose financial statements. Statement 130 was issued to address concerns over the practice of reporting elements of comprehensive income directly in equity. The Company is required to classify items of "Other Comprehensive Income" [such as net unrealized gains (losses) on securities available for sale] by their nature in a financial statement and present the accumulated balance of other comprehensive income separately from retained earnings and additional paid-in-capital in the equity section of a statement of financial position. It does not require per share amounts of comprehensive income to be disclosed. In accordance with the provisions of the Statement, the Company has included Consolidated Statements of Income and Comprehensive Income in the accompanying consolidated financial statements. Comprehensive income consists of net income and net unrealized gains (losses) on securities available for sale. Also, accumulated other comprehensive income (loss) is included as a separate disclosure within the Consolidated Statements of Changes in Stockholders' Equity in the accompanying consolidated financial statements. The adoption of Statement 130 did not have any effect on the Company's consolidated financial position, results of operations or liquidity. 19 (T) Derivatives In June 1998, the Financial Accounting Standards Board issued Statement of Financial Accounting Standards No. 133, "Accounting for Derivative Instruments and Hedging Activities." The Company adopted Statement 133 as of October 1, 1998. In connection with the adoption of Statement 133, the Company transferred securities with a carrying value of approximately $20,516 from held to maturity to available for sale. This transfer of securities resulted in an increase in unrealized gains on securities available for sale, comprehensive income, accumulated other comprehensive income and stockholders' equity of approximately $469, net of income taxes of $242, as of October 1, 1998, which is reported as a cumulative effect of an accounting change. Except as discussed above, the adoption of Statement 133 did not have a material effect on the consolidated financial position, results of operations or liquidity of the Company. (U) Use of Estimates In preparing consolidated financial statements in conformity with generally accepted accounting principles, management is required to make estimates and assumptions that affect the reported amounts of assets and liabilities as of the date of the balance sheet and 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 in the near term relate to the determination of the allowance for loan losses, valuation of foreclosed real estate and deferred tax assets. Changing economic conditions, adverse economic prospects for borrowers, as well as regulatory agency action as a result of examination, could cause NBB and BTC to recognize additions to the allowance for loan losses and may also affect the valuation of real estate acquired in connection with foreclosures or in satisfaction of loans. Note 2: Restriction on Cash To comply with Federal Reserve regulations, the Company is required to maintain certain average reserve balances. The daily average reserve requirements were $1,523 and $5,285 for the weeks including December 31, 2000 and 1999, respectively. Note 3: Securities The amortized costs, gross unrealized gains, gross unrealized losses and fair values for securities available for sale by major security type as of December 31, 2000 and 1999 are as follows (tables next page):
December 31, 2000 ($ In thousands) Gross Gross Amortized Unrealized Unrealized Available for sale: Costs Gains Losses Fair Value ----------- ----------- ------------ ------------ U.S. Treasury $ 6,246 85 --- 6,331 U.S. Government agencies and corporations 54,815 87 868 54,034 States and political subdivisions 35,456 395 245 35,606 Mortgage-backed securities 11,818 18 60 11,776 Corporate debt securities 14,341 63 346 14,058 Federal Home Loan Bank stock 1,329 --- --- 1,329 Federal Reserve Bank stock 209 --- --- 209 Other securities 442 --- --- 442 --------- ---------- ------------ ----------- Total securities available for sale $ 124,656 648 1,519 123,785 ========= ========== ============ =========== December 31, 1999 ($ In thousands) Gross Gross Amortized Unrealized Unrealized Available for sale: Costs Gains Losses Fair Value ----------- ----------- ------------ ------------ U.S. Treasury $ 6,244 7 87 6,164 U.S. Government agencies and corporations 50,373 7 2,882 47,498 States and political subdivisions 32,903 112 1,398 31,617 Mortgage-backed securities 13,464 8 296 13,176 Corporate debt securities 14,349 --- 703 13,646 Federal Home Loan Bank stock 1,329 --- --- 1,329 Federal Reserve Bank stock 247 --- --- 247 Other securities 168 --- --- 168 ---------- ----------- ------------ ------------ Total securities available for sale $119,077 134 5,366 113,845 ========== =========== ============ ============
20 The amortized costs and fair values of single maturity securities available for sale at December 31, 2000, by contractual maturity, are shown below. Expected maturities may differ from contractual maturities because borrowers may have the right to call or prepay obligations with or without call or prepayment penalties. Mortgage-backed securities included in these totals are categorized by final maturity at December 31, 2000. December 31, 2000 Amortized ($ In thousands) Costs Fair Values --------------- ------------- Due in one year or less $ 1,217 1,201 Due after one year through five years 31,434 31,632 Due after five years through ten years 43,231 43,067 Due after ten years 46,797 45,908 No maturity 1,977 1,977 --------------- ------------- $ 124,656 123,785 =============== ============= The amortized costs, gross unrealized gains, gross unrealized losses and fair values for securities held to maturity by major security type as of December 31, 2000 and 1999 are as follows:
December 31, 2000 ($ In thousands) Gross Gross Amortized Unrealized Unrealized Fair Held to maturity: Costs Gains Losses Value ----------- ----------- ----------- ---------- U.S. Government agencies and corporations $ 8,500 8 195 8,313 States and political subdivisions 17,288 207 4 17,491 Mortgage-backed securities 288 5 --- 293 Corporate debt securities 6,483 29 7 6,505 ---------- ---------- ---------- ---------- Total securities held to maturity $ 32,559 249 206 32,602 ========== ========== ========== ========== December 31, 1999 ($ In thousands) Gross Gross Amortized Unrealized Unrealized Fair Held to maturity: Costs Gains Losses Value ----------- ----------- ----------- ---------- U.S. Government agencies and corporations $ 500 --- --- 500 States and political subdivisions 5,500 --- 230 5,270 Mortgage-backed securities 17,283 117 45 17,355 Corporate debt securities 364 7 --- 371 ----------- ----------- ----------- ---------- Total securities held to maturity $ 23,647 124 275 23,496 =========== =========== =========== ==========
21 The amortized costs and fair values of single maturity securities held to maturity at December 31, 2000, by contractual maturity, are shown below. Expected maturities may differ from contractual maturities because borrowers may have the right to call or prepay obligations with or without call or prepayment penalties. Mortgage-backed securities included in these totals are categorized by final maturity at December 31, 2000. December 31, 2000 Amortized ($ In thousands) Costs Fair Values --------------- ------------- Due in one year or less $ 6,715 6,721 Due after one year through five years 20,479 20,431 Due after five years through ten years 3,254 3,314 Due after ten years 2,111 2,136 --------------- ------------ $ 32,559 32,602 ============== ============ There were no sales of securities held to maturity during 2000, 1999 or 1998. The carrying value of securities pledged to secure public and trust deposits, and for other purposes as required or permitted by law, was $48,810 at December 31, 2000 and $46,937 at December 31, 1999. As members of the Federal Reserve and the Federal Home Loan Bank (FHLB) of Atlanta, NBB and BTC are required to maintain certain minimum investments in the common stock of those entities. Required levels of investment are based upon NBB and BTC's capital and a percentage of qualifying assets. In addition, NBB and BTC are eligible to borrow from the FHLB with borrowings collateralized by qualifying assets, primarily residential mortgage loans, and NBB and BTC's capital stock investment in the FHLB. At December 31, 2000, the available borrowing limit was approximately $65,000. Note 4: Loans to Officers and Directors In the normal course of business loans have been granted to executive officers and directors of Bankshares and its subsidiaries amounting to $2,084 at December 31, 2000 and $1,923 at December 31, 1999. During the year ended December 31, 2000, total principal additions were $1,620 and principal payments were $1,459. The following schedule summarizes amounts receivable from executive officers and directors of Bankshares and its subsidiaries, and their immediate families or associates: Year ended ($ In thousands) December 31, 2000 ------------------ Aggregate balance, beginning of year $ 1,923 Additions 1,620 Collections (1,459) ------------------ Aggregate balance, end of year $ 2,084 ================== Note 5: Allowance for Loan Losses An analysis of the allowance for loan losses follows: Years ended December 31, ($ In thousands) 2000 1999 1998 ------------ ------------ ------------- Balance at beginning of year $ 3,231 2,679 2,438 Provision for loan losses 1,329 1,400 624 Loans charged off (770) (978) (638) Recoveries of loans previously charged off 96 130 255 ------------ ------------ ------------- Balance at end of year $ 3,886 3,231 2,679 ============ ============ ============= 22 The following is a summary of information pertaining to impaired loans: December 31, ($ In thousands) 2000 1999 ---------- ---------- Impaired loans without a valuation allowance $ 321 95 Impaired loans with a valuation allowance 135 222 ---------- ---------- Total impaired loans $ 456 317 ========== ========== Valuation allowance related to impaired loans $ 135 154 ========== ========== December 31, ($ In thousands) 2000 1999 1998 --------- ---------- ---------- Average investment in impaired loans $ 657 292 387 Interest income recognized on impaired loans 43 13 32 Interest income recognized on a cash basis on impaired loans --- --- --- --------- ---------- ---------- No additional funds are committed to be advanced in connection with impaired loans. No nonaccrual loans were excluded from impaired loan disclosure under FASB 114 at December 31, 2000 and 1999. Note 6: Bank Premises and Equipment Bank premises and equipment stated at cost, less accumulated depreciation, are as follows: December 31, ($ In thousands) 2000 1999 -------------- -------------- Premises $ 10,413 8,818 Furniture and equipment 7,040 6,140 Construction-in-progress 141 21 -------------- -------------- 17,594 14,979 Less accumulated depreciation (7,270) (6,473) -------------- -------------- Bank premises and equipment, net $ 10,324 8,506 ============== ============== The Company leases three branch facilities under noncancellable operating leases. The future minimum lease payments under these leases (with initial or remaining lease terms in excess of one year) as of December 31, 2000 are as follows: $135 in 2001, $133 in 2002, $131 in 2003, $123 in 2004 and $125 in 2005. Note 7: Time Deposits Included in time deposits are certificates of deposit and other time deposits of $100 or more in the aggregate amounts of $72,307 at December 31, 2000 and $46,172 at December 31, 1999. At December 31, 2000, the scheduled maturities of time deposits are as follows: $214,925 in 2001, $60,591 in 2002, $33,109 in 2003, $7,378 in 2004 and $10,663 in 2005. Note 8: Employee Benefit Plans The Company has a Retirement Accumulation Plan qualifying under IRS Code Section 401(k), in which NBB and BTC are participating employers. Eligible participants in the plan can contribute up to 10% of their total annual compensation to the plan. Employee contributions are matched by NBB and BTC based on a percentage of an employee's total annual compensation contributed to the plan. Prior to 2000, NBB was the only participating employer in the plan. For the year ended December 31, 2000, NBB and BTC contributed $156 to the plan. For the years ended December 31, 1999 and 1998, NBB contributed $102 and $91, respectively. 23 Bankshares has a nonleveraged Employee Stock Ownership Plan (ESOP) which enables employees who have one year of service and who have attained the age of 21 prior to the plan's January 1 and July 1 enrollment dates to own Bankshares common stock. Contributions to the ESOP are determined annually by the Board of Directors. Contribution expense amounted to $162, $162 and $0 for the years ended December 31, 2000, 1999 and 1998, respectively. Dividends on ESOP shares are charged to retained earnings. As of December 31, 2000, the number of allocated shares held by the ESOP was 76,489 and the number of unallocated shares was 6,180. All shares held by the ESOP are treated as outstanding in computing the Company's basic net income per share. Upon reaching age 55 with ten years of plan participation, a vested participant has the right to diversify 50% of his or her allocated ESOP shares and Bankshares or the ESOP, with the agreement of the Trustee, would be obligated to purchase those shares. The ESOP contained a put option which allows a withdrawing participant to require Bankshares or the ESOP, if the plan administrator agrees, to purchase his or her allocated shares if the shares are not readily tradeable on an established market at the time of its distribution. Since the shares were not readily tradeable at December 31, 1998, 77,301 shares of stock held by the ESOP, at their estimated fair value, which was based on the most recent available independent valuation, is recorded outside of stockholders' equity as of December 31, 1998. Effective December 1, 1999, Bankshares' common stock began trading on the Nasdaq SmallCap Market. As a result of being listed on an established national exchange, presentation of the fair value of the shares of common stock held by the ESOP outside of stockholders' equity is no longer required at December 31, 1999. The Company also sponsors two separate noncontributory defined benefit pension plans which cover substantially all of its employees. The pension plans' benefit formulas generally base payments to retired employees upon their length of service and a percentage of qualifying compensation during their final years of employment. The NBB pension plan's assets are invested principally in U.S. Government agency obligations (33%), mutual funds (31%), corporate bonds (4%), equity securities (29%) and cash (3%). BTC's pension plan's assets are invested principally in corporate bonds (3%), U.S. Government agency obligations (81%) and equity securities (16%). Pension Benefits December 31, ($ In thousands) 2000 1999 1998 ----------- ----------- --------- Change in benefit obligation Benefit obligation at beginning of year $ 5,694 5,995 4,967 Service cost 354 398 331 Interest cost 425 415 367 Actuarial gain (142) (749) 491 Benefits paid (633) (365) (161) ----------- ----------- --------- Benefit obligation at end of year 5,668 5,694 5,995 ----------- ----------- --------- Change in plan assets Fair value of plan assets at beginning of year 4,877 4,971 4,337 Actual return on plan assets 202 85 430 Employer contribution 276 186 365 Benefits paid (663) (365) (161) ----------- ----------- --------- Fair value of plan assets at end of year 4,692 4,877 4,971 ----------- ----------- --------- Funded status (976) (817) (1,024) Unrecognized net actuarial loss 610 522 917 Unrecognized prior service cost 186 201 216 Unrecognized transition asset (137) (160) (183) ----------- ----------- --------- Net accrued pension cost (includes accrued pension cost of $500, $414 and $363 in 2000, 1999 and 1998, respectively, included in other liabilities, and prepaid pension cost of $141, $160 and $289 in 2000, 1999 and 1998, respectively, included in other assets). $ (317) (254) (74) =========== =========== ========= 24 Pension Benefits NBB BTC ($ In thousands) 2000 1999 1998 2000 1999 1998 ------- ------- -------- ------- ------- ------ Weighted average assumptions as of December 31 Weighted average discount rate 7.50% 7.50% 7.00% 7.50% 7.50% 7.00% Expected return on plan assets 9.00% 9.00% 9.00% 9.00% 9.00% 9.00% Rate of compensation increase 5.00% 5.00% 5.00% 5.00% 5.00% 5.00% =============================================== Pension Benefits Years ended December 31, ($ In thousands) 2000 1999 1998 ---------- ------------ ----------- Components of net periodic benefit cost Service cost $ 354 398 331 Interest cost 424 415 367 Expected return on plan assets (441) (457) (400) Amortization of prior service cost 15 15 15 Recognized net actuarial loss 8 18 3 Amortization of transition asset (23) (23) (22) ---------- ------------ ----------- Net periodic benefit cost $ 337 366 294 ========== ============ =========== Note 9: Stock Option Plan Effective March 10, 1999, the Company adopted the National Bankshares, Inc. 1999 Stock Option Plan to give key employees of Bankshares and its subsidiaries an opportunity to acquire shares of National Bankshares, Inc. common stock. The purpose of the 1999 Stock Option Plan is to promote the success of Bankshares and its subsidiaries by providing an incentive to key employees that enhances the identification of their personal interest with the long term financial success of the Company and with growth in stockholder value. Under the 1999 Stock Option Plan, up to 250,000 shares of Bankshares common stock may be granted. The 1999 Stock Option Plan is administered by the Stock Option Committee, which is made up of all of the non-employee, outside directors of National Bankshares, Inc. The Stock Option Committee may determine whether options are incentive stock options or nonqualified stock options and may determine the other terms of grants, such as number of shares, term, a vesting schedule and the exercise price. The 1999 Stock Option Plan limits the maximum term of any option granted to ten years, states that options may be granted at not less than fair market value on the date of the grant and contains certain other limitations on the exercisability of incentive stock options. The options vest 25% after one year, 50% after two years, 75% after three years and 100% after four years. At the discretion of the Stock Option Committee, options may be awarded with the provision that they may be accelerated upon a change of control, merger, consolidation, sale or dissolution of National Bankshares, Inc. At December 31, 2000, there were 232,000 additional shares available for grant under the Plan. The per share weighted-average estimated fair value of stock options granted during 2000 was $0.72 and $2.38 during 1999, based on the date of grant using the Black Scholes option-pricing model with the following weighted-average assumptions: 2000 - expected cash dividend yield of 4.85%, risk-free interest rate of 5.12%, expected volatility of 19.52% and an expected life of ten years. 1999 assumptions were: expected cash dividend yield of 3.41%, risk-free interest rate of 6.38%, expected volatility of 18.60% and an expected life of ten years. The Company applies APB Opinion No. 25 in accounting for its Plan and, accordingly, no compensation cost has been recognized for its stock options in the consolidated financial statements. Proforma compensation cost determined in accordance with Statement 123 was not material and had no impact on net income per share presented. 25 Stock option activity during the periods indicated is as follows: 2000 1999 Weighted Weighted Average Average Number of Exercise Number of Exercise Shares Price Shares Price --------------- ------------- ------------- ---------- Outstanding, beginning of year 5,500 $ 22.00 --- $ --- Granted 12,500 18.50 5,500 22.00 Exercised --- --- --- --- Forfeited --- --- --- --- Expired --- --- --- --- --------------- ------------- ------------- ---------- Balance, end of year 18,000 $ 19.57 5,500 $ 22.00 =============== ============= ============= ========== At December 31, 2000, the remaining contractual life of outstanding options was 9.52 years. The exercise price of options issued in 2000 was $18.50, and for options issued in 1999 the exercise price was $22.00. Exercisable options totaled 1,387 at December 31, 2000. Note 10: Income Taxes Total income taxes were allocated as follows: Years ended December 31, ($ In thousands) 2000 1999 1998 ---------- ---------- ----------- Income $ 2,763 2,556 2,591 Stockholders' equity, for net unrealized gains (losses) on securities available for sale recognized for financial reporting purposes 1,483 (2,304) 425 ---------- ---------- ----------- Total income taxes $ 4,246 252 3,016 ========== ========== =========== Allocations of income tax expense between current and deferred portions is as follows: Years ended December 31, ($ In thousands) 2000 1999 1998 ----------- ----------- ----------- Current $ 3,016 2,770 2,726 Deferred (253) (214) (135) ----------- ----------- ----------- Total income tax expense $ 2,763 2,556 2,591 =========== =========== =========== Taxes resulting from securities transactions amounted to a tax expense of $3 for the year ended December 31, 2000, $8 for the year ended December 31, 1999 and $64 for the year ended December 31, 1998. 26 The following is a reconciliation of the "expected" income tax expense, computed by applying the U.S. Federal income tax rate of 34% to income before income tax expense, with the reported income tax expense: Years ended December 31, ($ In thousands) 2000 1999 1998 ------------ ---------- ---------- Expected income tax expense (34%) $3,424 3,279 3,192 Tax-exempt interest income (862) (866) (742) Nondeductible interest expense 168 109 97 Other, net 33 34 44 ------------ ---------- ---------- Reported income tax expense $2,763 2,556 2,591 ============ ========== ========== The tax effects of temporary differences that give rise to significant portions of the deferred tax assets and deferred tax liabilities at December 31, 2000 and 1999 are presented below:
December 31, ($ In thousands) 2000 1999 -------------- -------------- Deferred tax assets: Loans, principally due to allowance for loan losses and unearned fee income $ 995 786 Other real estate owned, principally due to valuation allowance 21 32 Deferred compensation and other liabilities, due to accrual for financial reporting purposes 143 124 Deposit intangibles and goodwill 68 59 Community development corporation related tax credit 15 19 Other 36 36 Net unrealized losses on securities available for sale 296 1,779 -------------- -------------- Total gross deferred tax assets 1,574 2,835 Deferred tax liabilities: Bank premises and equipment, principally due to differences in depreciation (93) (121) Securities, due to differences in discount accretion (74) (58) Accrued late fee income (48) (72) Other assets (67) (62) -------------- -------------- Total gross deferred tax liabilities (282) (313) -------------- -------------- Net deferred tax asset included in other assets $ 1,292 2,522 ============== ==============
The Company has determined that a valuation allowance for the gross deferred tax assets is not necessary at December 31, 2000 and 1999 due to the fact that the realization of the entire gross deferred tax assets can be supported by the amount of taxes paid during the carryback period available under current tax laws. 27 Note 11: Restrictions on Payments of Dividends and Capital Requirements Bankshares' principal source of funds for dividend payments is dividends received from its subsidiary banks. For the years ended December 31, 2000, 1999 and 1998, dividends received from subsidiary banks were $2,987, $10,538 and $5,341, respectively. Additional funds paid to the parents as dividends in 1999 were used primarily for a common stock repurchase. Substantially all of Bankshares' retained earnings are undistributed earnings of its banking subsidiaries, which are restricted by various regulations administered by federal and state bank regulatory agencies. Bank regulatory agencies restrict, without prior approval, the total dividend payments of a bank in any calendar year to the bank's retained net income of that year to date, as defined, combined with its retained net income of the preceding two years, less any required transfers to surplus. At December 31, 2000, retained net income which was free of such restriction at NBB amounted to approximately $1,360. There was no retained income free of this restriction at BTC at December 31, 2000. Bankshares and its subsidiaries are subject to various regulatory capital requirements administered by the bank regulatory agencies. Failure to meet minimum capital requirements can initiate certain mandatory, and possibly additional discretionary actions by regulators that, if undertaken, could have a direct material effect on the Company's consolidated financial statements. Under capital adequacy guidelines and the regulatory framework for prompt corrective action, Bankshares and its subsidiaries must meet specific capital guidelines that involve quantitative measures of their assets, liabilities and certain off-balance-sheet items as calculated under regulatory accounting practices. The capital amounts and classification are also subject to qualitative judgments by regulators about components, risk weightings and other factors. Prompt corrective provisions are not applicable to Bank holding companies. Quantitative measures established by regulation to ensure capital adequacy require Bankshares and its subsidiaries to maintain minimum amounts and ratios (set forth in the table below) of total and Tier I capital (as defined in the regulations) to risk weighted assets (as defined), and of Tier I capital (as defined) to average assets (as defined). Management believes, as of December 31, 2000, that Bankshares and its subsidiaries meet all capital adequacy requirements to which they are subject. Bankshares' and its subsidiaries' actual regulatory capital amounts and ratios are also presented in the following tables.
To Be Well Capitalized Under For Capital Prompt Corrective Actual Adequacy Purposes Action Provisions ----------- ---------- ---------- ---------- ----------- ---------- ($ In thousands) Amount Ratio Amount Ratio Amount Ratio ----------- ---------- ---------- ---------- ----------- ---------- December 31, 2000 Total capital (to risk weighted assets) Bankshares consolidated $55,256 14.2% 31,073 8.0% N/A N/A NBB 28,234 11.6% 19,531 8.0% 24,414 10.0% BTC 24,601 17.3% 11,383 8.0% 14,228 10.0% Tier I capital (to risk weighted assets) Bankshares consolidated $51,371 13.2% 15,536 4.0% N/A N/A NBB 25,834 10.6% 9,765 4.0% 14,648 6.0% BTC 23,116 16.3% 5,691 4.0% 8,537 6.0% Tier I capital (to average assets) Bankshares consolidated $51,371 9.5% 21,721 4.0% N/A N/A NBB 25,834 8.2% 12,648 4.0% 15,810 5.0% BTC 23,116 10.2% 9,072 4.0% 11,340 5.0%
28
To Be Well Capitalized Under For Capital Prompt Corrective Actual Adequacy Purposes Action Provisions ----------- ---------- ---------- ---------- ----------- ---------- ($ In thousands) Amount Ratio Amount Ratio Amount Ratio ----------- ---------- ---------- ---------- ----------- ---------- December 31, 1999 Total capital (to risk weighted assets) Bankshares consolidated $58,433 18.3% 25,552 8.0% N/A N/A NBB 29,320 14.1% 16,682 8.0% 20,853 10.0% BTC 26,630 23.7% 8,998 8.0% 11,247 10.0% Tier I capital (to risk weighted assets) Bankshares consolidated $55,202 17.3% 12,776 4.0% N/A N/A NBB 27,222 13.1% 8,341 4.0% 12,512 6.0% BTC 25,497 22.7% 4,499 4.0% 6,748 6.0% Tier I capital (to average assets) Bankshares consolidated $55,202 11.7% 18,957 4.0% N/A N/A NBB 27,222 9.8% 11,135 4.0% 13,919 5.0% BTC 25,497 12.7% 8,019 4.0% 10,023 5.0%
29 As of December 31, 2000, the most recent notifications from the appropriate regulatory authorities categorized Bankshares and its subsidiaries as adequately capitalized under the regulatory framework for prompt corrective action. To be categorized as adequately capitalized, an institution must maintain minimum total risk-based, Tier I risk-based, and Tier I leverage ratios as set forth in the table. There are no conditions or events since those notifications that management believes have changed Bankshares' and its subsidiaries' category. Note 12: Parent Company Financial Information Condensed financial information of Bankshares (Parent) is presented below: Consolidated Balance Sheets
December 31, ($ In thousands, except share and per share data) 2000 1999 ------------------ ------------- Assets Cash due from subsidiaries $ 38 5 Securities available for sale 2,365 2,292 Investment in subsidiaries, at equity 57,405 50,302 Refundable income taxes due from subsidiaries 11 59 Other assets 46 ------------------ ------------- Total assets $ 59,865 52,743 ================== ============= Liabilities Other liabilities $ 31 20 and ------------------ ------------- Stockholders' Stockholders' equity: Equity Preferred stock of no par value. Authorized 5,000,000 shares; none issued and outstanding --- --- Common stock of $2.50 par value. Authorized 5,000,000 shares; issued and outstanding 3,511,877 shares in 2000 and 3,516,977 in 1999 8,780 8,792 Retained earnings 51,629 47,384 Accumulated other comprehensive income (loss) (575) (3,453) ------------------ ------------- Total stockholders' equity 59,834 52,723 Commitments and contingent liabilities ------------------ ------------- Total liabilities and stockholders' equity $ 59,865 52,743 ================== =============
30
Condensed Statements of Income and Comprehensive Income Years Ended December 31, ($ In thousands) 2000 1999 1998 ------------- ----------- ------------ Income Dividends from subsidiaries $ 2,987 10,538 5,341 Interest on securities - taxable 11 17 29 Interest on securities - nontaxable 99 118 24 Other income 40 --- --- Realized securities losses (3) --- --- ------------- ----------- ------------ 3,134 10,673 5,394 Expenses Other expenses 157 194 173 ------------- ----------- ------------ Income before income tax benefit and equity in undistributed net income (distributions in excess of equity in net income) of subsidiaries 2,977 10,479 5,221 Applicable income tax benefit 36 59 47 ------------- ----------- ------------ Income before equity in undistributed net income (distributions in excess of equity in net income) of subsidiaries 3,013 10,538 5,268 Equity in undistributed net income (distributions in excess of equity in net income) of subsidiaries 4,296 (3,450) 1,530 ------------- ----------- ------------ Net income 7,309 7,088 6,798 ------------- ----------- ------------ Other comprehensive income (loss), net of income taxes: Net unrealized gains (losses) on securities available for sale: Arising during the year 2,878 (4,472) 356 Cumulative accounting change --- --- 469 ------------- ----------- ------------ Total other comprehensive income (loss) 2,878 (4,472) 825 ------------- ----------- ------------ Comprehensive income $ 10,187 2,616 7,623 ============= =========== ============
31 Condensed Statements of Cash Flows
Years ended December 31, ($ In thousands) 2000 1999 1998 --------------- ------------- -------------- Cash Flows Net income $ 7,309 7,088 6,798 from Operating Adjustments to reconcile net income to net cash Activities provided by operating activities: (Equity in undistributed net income) distributions in excess of equity in net income of subsidiaries (4,296) 3,450 (1,530) Amortization of premiums and accretion of discounts, net 6 7 4 (Increase) decrease in refundable income taxes due from subsidiaries 48 (29) (8) Increase in other assets (31) (10) (30) Increase (decrease) in other liabilities 10 (45) 22 --------------- ------------- -------------- Net cash provided by operating activities 3,046 10,461 5,256 --------------- ------------- -------------- Cash Flows Purchases of securities available for sale (529) (207) (4,534) from Maturities of securities available for sale 30 299 2,044 Investing Sales of securities available for sale 562 --- --- Activities --------------- ------------- -------------- Net cash provided by (used in) investing activities 63 92 (2,490) --------------- ------------- -------------- Cash Flows Cash dividends paid (2,987) (2,814) (2,807) from Common stock repurchase (89) (7,762) --- Financing --------------- ------------- -------------- Net cash used in financing activities (3,076) (10,576) (2,807) --------------- ------------- -------------- Net increase (decrease) in cash 33 (23) (41) Cash due from subsidiary at beginning of year 5 28 69 --------------- ------------- -------------- Cash due from subsidiary at end of year $ 38 5 28 =============== ============= ==============
Note 13: Supplemental Cash Flow Information The Company paid $17,276, $14,199 and $14,003 for interest and $2,958, $2,941 and $2,631 for income taxes, net of refunds, in 2000, 1999 and 1998, respectively. Noncash investing activities consisted of $770, $978 and $638 of loans charged against the allowance for loan losses in 2000, 1999 and 1998, respectively. Noncash investing activities also included $390 in 2000, $177 in 1999 and $382 in 1998 of loans transferred to other real estate owned. In addition, for the years ended December 31, 2000, 1999 and 1998, noncash investing activities included changes in net unrealized gains (losses) on securities available for sale of $4,361, ($6,776) and $1,250, respectively, changes in deferred tax assets included in other assets of ($1,483), $2,304 and ($425), respectively, and changes in net unrealized gains (losses) on securities available for sale included in stockholders' equity of $2,878, ($4,472) and $825, respectively. Securities, classified as held to maturity, totaling approximately $20,516, were transferred to securities available for sale in 1998. This was in accordance with the reassessment of the classification of securities allowed by Statement No. 133, "Accounting for Derivative Instruments and Hedging Activities," which was adopted by the Company on October 1, 1998. Note 14: Financial Instruments with Off-Balance Sheet Risk The Company is a party to financial instruments with off-balance sheet risk in the normal course of business to meet the financing needs of its customers. These financial instruments include commitments to extend credit and standby letters of credit. Those instruments involve, to varying degrees, elements of credit risk in excess of the amount recognized in the consolidated balance sheets. The contract amounts of those instruments reflect the extent of involvement the Company has in particular classes of financial instruments. The Company's exposure to credit loss, in the event of nonperformance by the other party to the financial instrument for commitments to extend credit and standby letters of credit, is represented by the contractual amount of those instruments. The Company uses the same credit policies in making commitments and conditional obligations as it does for on-balance sheet instruments. 32 The Company may require collateral or other security to support the following financial instruments with credit risk: December 31, ($ In thousands) 2000 1999 ------------- ------------- Financial instruments whose contract amounts represent credit risk: Commitments to extend credit $ 60,614 52,932 ======== ====== Standby letters of credit $ 4,269 5,109 ======== ====== Mortgage loans sold with potential recourse $ 20,358 33,489 ======== ====== 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. The commitments for equity lines of credit may expire without being drawn upon. Therefore, the total commitment amounts do not necessarily represent future cash requirements. The amount of collateral obtained, if it is deemed necessary by the Company, is based on management's credit evaluation of the customer. Unfunded commitments under commercial lines of credit, revolving credit lines and overdraft protection are commitments for possible future extensions of credit. Some of these commitments are uncollateralized and do not contain a specified maturity date and may not be drawn upon to the total extent to which the Company is committed. Standby letters of credit are conditional commitments issued by the Company to guarantee the performance of a customer to a third party. The credit risk involved in issuing letters of credit is essentially the same as that involved in extending loans to customers. Collateral held varies but may include accounts receivable, inventory, property, plant and equipment and income-producing commercial properties. The Company originates mortgage loans for sale to secondary market investors subject to contractually specified and limited recourse provisions. In 2000, the Company originated $20,129 and sold $20,358 to investors, compared to $31,538 originated and $33,489 sold in 1999. Every contract with each investor contains certain recourse language. In general, the Company may be required to repurchase a previously sold mortgage loan if there is major noncompliance with defined loan origination or documentation standards, including fraud, negligence or material misstatement in the loan documents. Repurchase may also be required if necessary governmental loan guarantees are canceled or never issued, or if an investor is forced to buy back a loan after it has been resold as a part of a loan pool. In addition, the Company may have an obligation to repurchase a loan if the mortgagor has defaulted early in the loan term. This potential default period is approximately twelve months after sale of a loan to the investor. The Company maintains cash accounts in other commercial banks. The amount on deposit with correspondent institutions at December 31, 2000, exceeded the insurance limits of the Federal Deposit Insurance Corporation by $929. Note 15: Concentrations of Credit Risk The Company does a general banking business, serving the commercial and personal banking needs of its customers. NBB's market area, commonly referred to as Virginia's New River Valley and Mountain Empire, consists of Montgomery, Giles and Pulaski Counties and the cities of Radford and Galax, together with portions of adjacent counties. BTC's market area adjoins NBB's and includes the counties of Tazewell, Wythe, Smyth and Washington in Virginia, as well as contiguous portions of McDowell and Mercer Counties in West Virginia. Substantially all of NBB's and BTC's loans are made within their market area. The ultimate collectibility of the banks' loan portfolios and the ability to realize the value of any underlying collateral, if needed, are influenced by the economic conditions of the market area. The Company's operating results are therefore closely correlated with the economic trends within this area. At December 31, 2000 and 1999, approximately $151,000 and $130,000, respectively, of the loan portfolio was concentrated in commercial real estate. This represents approximately 42% and 44% of the loan portfolio at December 31, 2000 and 1999, respectively. Included in commercial real estate at December 31, 2000 and 1999 was approximately $84,000 and $85,000, respectively, in loans for college housing and professional office buildings. Loans secured by residential real estate were approximately $110,000 and $74,000 at December 31, 2000 and 1999, respectively. This represents approximately 31% and 25% of the loan portfolio at December 31, 2000 and 1999 respectively. Loans secured by automobiles were approximately $36,000 and $33,000 at December 31, 2000 and 1999, respectively. This represents approximately 10% of the loan portfolio at December 31, 2000 and 11% at December 31, 1999. The Company has established operating policies relating to the credit process and collateral in loan originations. Loans to purchase real and personal property are generally collateralized by the related property and with loan amounts established based on certain percentage limitations of the property's total stated or appraised value. Credit approval is primarily a function of collateral and the evaluation of the creditworthiness of the individual borrower or project based on available financial information. Management considers the concentration of credit risk to be minimal. 33 Note 16: Fair Value of Financial Instruments and Interest Rate Risk The estimated fair values of the Company's financial instruments at December 31, 2000 and 1999 are as follows:
December 31, 2000 1999 ------------------------------ ---------------------------- ($ In thousands) Carrying Estimated Carrying Estimated Amount Fair Value Amount Fair Value -------------- --------------- ------------- -------------- Financial assets: Cash and due from banks $ 11,130 11,130 13,311 13,311 Interest-bearing deposits 13,579 13,579 9,219 9,219 Federal funds sold 29,090 29,090 2,800 2,800 Securities 156,344 156,387 137,492 137,341 Mortgage loans held for sale --- --- 229 229 Loans, net 355,795 348,753 291,562 287,504 Accrued interest receivable 5,049 5,049 4,014 4,014 -------------- --------------- ------------- -------------- Total financial assets $570,987 563,988 458,627 454,418 ============== =============== ============= ============== Financial liabilities: Deposits $530,648 531,829 407,187 407,328 Other borrowed funds 270 270 10,460 10,460 Accrued interest payable 1,538 1,538 651 651 -------------- --------------- ------------- -------------- Total financial Liabilities $532,456 533,637 418,298 418,439 ============== =============== ============= ==============
The fair value of a financial instrument is the current amount that would be exchanged between willing parties, other than in a forced liquidation. Fair value is best determined based upon quoted market prices. However, in many instances, there are no quoted market prices for the Company's various financial instruments. 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 fair discount rate and estimates of future cash flows. Accordingly, the fair value estimates may not be realized in an immediate settlement of the instrument. SFAS 107 excludes certain financial instruments and all nonfinancial instruments from its disclosure requirements. Accordingly, the aggregate fair value amounts presented may not necessarily represent the underlying fair value of the Company. Loan commitments on which the committed interest rate is less than the current market rate are insignificant at December 31, 2000 and 1999. The Company assumes interest rate risk (the risk that general interest rate levels will change) as a result of its normal operations. As a result, the fair values of the Company's financial instruments will change when interest rate levels change and that change may be either favorable or unfavorable to the Company. Management attempts to match maturities of assets and liabilities to the extent believed necessary to minimize interest rate risk. However, borrowers with fixed rate obligations are less likely to prepay in a rising rate environment. Conversely, depositors who are receiving fixed rates are more likely to withdraw funds before maturity in a rising rate environment and less likely to do so in a falling rate environment. Management monitors rates and maturities of assets and liabilities and attempts to minimize interest rate risk by adjusting terms of new loans and deposits and by investing in securities with terms that mitigate the Company's overall interest rate risk. Note 17: Branch Acquisitions On August 17, 2000, the Company entered into an agreement to purchase six branches from AmSouth Bank of Birmingham, Alabama. The acquisitions involved approximately $94,000 in deposits and $42,000 in loans. Three of the branches, Radford, Dublin and Pulaski, Virginia were acquired by the Company's NBB affiliate, with the remaining offices located in Wytheville, Abingdon and Marion, Virginia acquired by the Company's BTC affiliate. The acquisition was completed in November of 2000. In another move to improve the Company's competitive position, BTC announced on September 15, 2000 that it will acquire a branch in Bluefield, Virginia from First Union National Bank. The acquisition will involve the purchase of approximately $39,000 in deposits and $11,000 in loans. Plans call for the acquisition to be completed in the first quarter of 2001. 34 Note 18: Other Comprehensive Income (Loss) Other comprehensive income (loss) net of income taxes and net of reclassification adjustments between net income and other comprehensive income (loss) relating to securities available for sale are reported in the Consolidated Statements of Income and Comprehensive Income. The information that follows discloses the reclassification adjustments and the income taxes related to securities available for sale that are included in other comprehensive income, net of income taxes.
2000 1999 1998 ($ In thousands) ------------- ----------- ----------- Net unrealized gains (losses) on securities available for sale: Net unrealized holding gains (losses) during the year $ 4,359 (6,756) 1,282 Less reclassification adjustments for gains included in net income 2 (20) (32) Income tax (expense) benefit (1,483) 2,304 (425) ------------- ----------- ----------- Total other comprehensive income (loss) $ 2,878 (4,472) 825 ============= =========== ===========
35 Selected Quarterly Data (Unaudited) The following is a summary of the unaudited quarterly results of operations for the years ended December 31, 2000 and 1999:
($ In thousands, except per share 2000 data) First Third Fourth Quarter Second Quarter Quarter Quarter --------------- --------------- -------------- ------------- Income Statement Data: - --------------------- Interest income $ 8,844 9,286 9,586 10,642 Interest expense 3,886 4,274 4,550 5,453 --------------- --------------- -------------- ------------- Net interest income 4,958 5,012 5,036 5,189 Provision for loan losses 353 313 331 332 Noninterest income 925 962 976 1,219 Noninterest expense 2,991 3,094 3,291 3,500 Income taxes 687 698 639 739 --------------- --------------- -------------- ------------- Net income $ 1,852 1,869 1,751 1,837 =============== =============== ============== ============= Per Share Data: - -------------- Basic net income per share $ 0.53 0.53 0.50 0.52 Cash dividends per share --- 0.42 --- 0.43 Book value per share $ 15.54 15.64 16.39 17.04 Selected Ratios: - --------------- Return on average assets 1.58% 1.54% 1.42% 1.33% Return on average equity 13.98% 13.94% 12.42% 12.52% Average equity to average assets 11.30% 11.05% 11.46% 10.62% ($ In thousands, except per share 1999 data) First Third Fourth Quarter Second Quarter Quarter Quarter --------------- --------------- -------------- ------------- Income Statement Data: - --------------------- Interest income $ 8,089 8,170 8,416 8,928 Interest expense 3,436 3,392 3,506 3,869 --------------- --------------- -------------- ------------- Net interest income 4,653 4,778 4,910 5,059 Provision for loan losses 232 237 371 560 Noninterest income 766 856 956 934 Noninterest expense 2,926 2,946 3,025 2,971 Income taxes 582 651 666 657 --------------- --------------- -------------- ------------- Net income $ 1,679 1,800 1,804 1,805 =============== =============== ============== ============= Per Share Data: - -------------- Basic net income per share $ 0.44 0.50 0.51 0.51 Cash dividends per share --- 0.39 --- 0.41 Book value per share $ 16.21 14.80 15.16 14.99 Selected Ratios: - --------------- Return on average assets 1.54% 1.61% 1.60% 1.53% Return on average equity 11.12% 12.55% 13.64% 13.50% Average equity to average assets 13.82% 12.81% 11.70% 11.37%
36 National Bankshares Mission Statement National Bankshares, Inc. strives to be an exceptional community bank holding company dedicated to providing shareholder value by offering financial services to customers through subsidiary financial institutions and affiliated companies in an efficient, friendly, personalized and cost-effective manner. We recognize that to do this, our financial institutions must retain the ability to make decisions locally and must actively participate in the communities they serve. We are committed to offering competitive and fair employment opportunities and to maintaining the highest standards in all aspects of our business. The National Bank Advisory Boards Montgomery County Advisory Board Dan A. Dodson, W. Clinton Graves, James J. Owen, Arlene A. Saari, James C. Stewart, T. Cooper Via Giles County Advisory Board Paul B. Collins, John H. Givens, Jr., Ross E. Martin, Kenneth L. Rakes, Scarlet B. Ratcliffe, Morris D. Reece, H. M. Scanland, Jr., Buford Steele Galax Advisory Board Charles L. Cox, Willie T. Greene, Sr., Jerry R. Mink, James A. Williams, Jr. Radford/Pulaski County Advisory Board Jack M. Lewis, Jack Nunley 37 National Bankshares, Inc. Board of Directors Photograph of "NBI Board Members" Foreground, from left: William T. Peery, President, Cargo Oil Inc; James G. Rakes, Chairman of the Board, President, Chief Executive Officer, National Bankshares, Inc., President and Chief Executive Officer, The National Bank; L. Allen Bowman, Retired; Charles L. Boatwright, Vice Chairman of the Board, Physician; Jeffrey R. Stewart, Educational Consultant. Stairs, from left: Alonzo A. Crouse, Executive Vice President, Secretary, Bank of Tazewell County; James A. Deskins, Sr., Retired; Cameron L. Forrester, President and Chief Executive Officer, Bank of Tazewell County; Paul A. Duncan, President, Holiday Motor Corp. 38 The National Bank Board of Directors Photograph of "NBB Board Members" From left: J. Louis Webb, Jr., Dentist; Jeffrey R. Stewart, Chairman of the Board, Educational Consultant; L. Allen Bowman, Vice-Chairman of the Board, Retired; Paul P. Wisman, Vice President of Investments, Grundy National Bank, Manager of Assets, Nicewonder Investments; James G. Rakes, Chairman, President and Chief Executive Officer, National Bankshares, Inc., President and Chief Executive Officer, The National Bank; Charles L. Boatwright, Physician; James M. Shuler, Delegate, Virginia House of Delegates; Ellen G. Burnop, Co-Owner, New River Office Supply; Paul A. Duncan, President, Holiday Motor Corp. Bank of Tazewell County Board of Directors Photograph of "BTC Board Members" Seated, from left: E.P. Greever, Retired; Cameron L. Forrester, President and Chief Executive Officer, Bank of Tazewell County; William T. Peery, Chairman of the Board, President, Cargo Oil, Inc.; James G. Rakes, Chairman, President and Chief Executive Officer, National Bankshares, Inc., President and Chief Executive Officer, The National Bank; William H. VanDyke, Vice President, Candlewax Smokeless Fuel Co. Standing, from left: J.M. Pope, Retired; Alonzo A. Crouse, Executive Vice President, Secretary, Bank of Tazewell County; James A. Deskins, Retired; James S. Gillespie, Jr., President, Jim Sam Gillespie Farm. Not pictured: Charles E. Green, III, Financial Planner, AXA Advisors, LLC; Jack Harry, President, Harry's Enterprises, Inc. 39 Corporate Information NATIONAL BANKSHARES, INC. OFFICERS James G. Rakes, Chairman F. Brad Denardo President and Chief Executive Officer Corporate Officer J. Robert Buchanan Shelby M. Evans Treasurer Corporate Compliance Officer Marilyn B. Buhyoff David K. Skeens Secretary and Counsel Corporate Auditor ANNUAL MEETING The Annual Meeting of Stockholders will be held on Tuesday, April 10, 2001 at 3:00 p.m. at the Best Western Red Lion Inn, 900 Plantation Road, Blacksburg, Virginia. CORPORATE STOCK National Bankshares, Inc. common stock trades on the Nasdaq Stock Market under the symbol "NKSH". FINANCIAL INFORMATION Investors and analysts seeking financial information about National Bankshares, Inc. should contact: James G. Rakes, Chairman or J. Robert Buchanan President and Chief Executive Officer Treasurer (540) 951-6300 or (800) 552-4123 (540) 951-6300 or (800) 552-4123 jrakes@nbbank.com bbuchanan@nbbank.com Written requests may be directed to: National Bankshares, Inc. P.O. Box 90002, Blacksburg, VA 24062-9002 STOCKHOLDER SERVICES AND STOCK TRANSFER AGENT Stockholders seeking information about National Bankshares, Inc. stock accounts should contact: Marilyn B. Buhyoff Secretary and Counsel (540) 951-6300 or (800) 552-4123 mbuhyoff@nbbank.com The National Bank of Blacksburg serves as transfer agent for National Bankshares, Inc. stock. Written requests and requests for stock transfers may be directed to: National Bankshares, Inc., P.O. Box 90002, Blacksburg, VA 24062-9002. A copy of National Bankshares, Inc.'s annual report to the Securities and Exchange Commission on Form 10-K will be furnished without charge to any stockholder upon written request. CORPORATE OFFICE National Bankshares, Inc. 101 Hubbard Street Blacksburg, Virginia 24060 P.O. Box 90002 Blacksburg, Virginia 24062-9002 www.nationalbankshares.com 40 EX-23 3 ex23.txt CONSENT OF INDEPENDENT AUDITORS Exhibit 23 Consent of Independent Auditors The Board of Directors National Bankshares, Inc.: We consent to incorporation by reference in Registration Statement No. 333-79979 on Form S-8 of National Bankshares, Inc. of our report dated February 11, 2000, relating to the consolidated balance sheet of National Bankshares, Inc. and subsidiaries as of December 31, 1999, and the related consolidated statements of income and comprehensive income, changes in stockholders' equity, and cash flows for the years ended December 31, 1999 and 1998, which report is included in the December 31, 2000 Annual Report on Form 10-K of National Bankshares, Inc. KPMG LLP Roanoke, Virginia March 30, 2001 EX-99 4 ex99.txt INDEPENDENT AUDITORS' REPORT Exhibit 99 Independent Auditors' Report The Board of Directors and Stockholders National Bankshares, Inc.: We have audited the accompanying consolidated balance sheet of National Bankshares, Inc. and subsidiaries as of December 31, 1999, and the related consolidated statements of income and comprehensive income, changes in stockholders' equity, and cash flows for the years ended December 31, 1999 and 1998. These consolidated financial statements are the responsibility of the Company's management. Our responsibility is to express an opinion on these consolidated financial statements based on our audits. We conducted our audits in accordance with auditing standards generally accepted in the United States of America. Those standards require that we plan and perform the 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 the 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 National Bankshares, Inc. and subsidiaries as of December 31, 1999, and the results of their operations and their cash flows for the years ended December 31, 1999 and 1998, in conformity with accounting principles generally accepted in the United States of America. As discussed in note 1(T) to the consolidated financial statements, the Company adopted the provisions of Statement of Financial Accounting Standards No. 133, Accounting for Derivative Instruments and Hedging Activities, as of October 1, 1998. KPMG LLP Roanoke, Virginia February 11, 2000 -----END PRIVACY-ENHANCED MESSAGE-----