|
Management’s
Discussion and Analysis of Financial Condition and Results of
Operations
|
Forward Looking
Statements
Certain
statements in this report may constitute “forward-looking statements” within the
meaning of the Private Securities Litigation Reform Act of
1995. Forward-looking statements are statements that include
projections, predictions, expectations or beliefs about future events or results
or otherwise are not statements of historical fact. Such statements
are often characterized by the use of qualified words (and their derivatives)
such as “expect,” “believe,” “estimate,” “plan,” “project,” “anticipate” or
other similar words. Although the Company believes that its
expectations with respect to certain forward-looking statements are based upon
reasonable assumptions within the bounds of its existing knowledge of its
business and operations, there can be no assurance that actual results,
performance or achievements of the Company will not differ materially from any
future results, performance or achievements expressed or implied by such
forward-looking statements. Actual future results and trends may
differ materially from historical results or those anticipated depending on a
variety of factors, including, but not limited to, those factors set forth in
“Risk Factors” and the effects of and changes in: general economic
conditions, the interest rate environment, legislative and regulatory
requirements, competitive pressures, new products and delivery systems,
inflation, changes in the stock and bond markets, technology, downturns in the
trucking and timber industries, effects of mergers and/or downsizing in the
poultry industry in Hardy County, and consumer spending and savings
habits. Additionally, actual future results and trends may differ
from historical or anticipated results to the extent: (1) any significant
downturn in certain industries, particularly the trucking and timber and coal
extraction industries are experienced; (2) loan demand decreases from prior
periods; (3) the Company may make additional loan loss provisions due to
negative credit quality trends in the future that may lead to a deterioration of
asset quality; (4) the Company may not continue to experience significant
recoveries of previously charged-off loans or loans resulting in foreclosure;
(5) increased liquidity needs may cause an increase in funding costs; and, (6)
the Company is unable to control costs and expenses as anticipated. The Company
does not update any forward-looking statements that may be made from time to
time by or on behalf of the Company.
Introduction
The
following discussion focuses on significant results of the Company’s operations
and significant changes in our financial condition or results of operations for
the periods indicated in the discussion. This discussion should be read in
conjunction with the preceding financial statements and related notes. Current
performance does not guarantee, and may not be indicative of, similar
performance in the future.
Critical Accounting
Policies
The Company’s financial statements are
prepared in accordance with accounting principles generally accepted in the
United States (“GAAP”). The financial statements contained within these
statements are, to a significant extent, financial information that is based on
measures of the financial effects of transactions and events that have already
occurred. A variety of factors could affect the ultimate value that is obtained
either when earning income, recognizing an expense, recovering an asset or
relieving a liability. In addition, GAAP itself may change from one previously
acceptable method to another method. Although the economics of these
transactions would be the same, the timing of events that would impact these
transactions could change
.
Allowance for Loan
Losses
The
allowance for loan losses is an estimate of the losses in the loan portfolio.
The allowance is based on two basic principles of accounting: (i) SFAS No. 5,
Accounting for Contingencies, which requires that losses be accrued when they
are probable of occurring and estimable and (ii) SFAS No. 114, Accounting by
Creditors for Impairment of a Loan, which requires that losses be accrued based
on the differences between the value of collateral, present value of future cash
flows or values that are observable in the secondary market and the loan
balance.
Page
Eleven
The
Company’s allowance for loan losses is the accumulation of various components
that are calculated based on independent methodologies. All
components of the allowance represent an estimation performed pursuant to either
SFAS No. 5 or SFAS No. 114. Management’s estimate of each SFAS No. 5
component is based on certain observable data that management believes are most
reflective of the underlying credit losses being estimated. This
evaluation includes credit quality trends; collateral values; loan volumes;
geographic, borrower and industry concentrations; seasoning of the loan
portfolio; the findings of internal credit quality assessments and results from
external bank regulatory examinations. These factors, as well as
historical losses and current economic and business conditions, are used in
developing estimated loss factors used in the calculations.
Reserves
for commercial loans are determined by applying estimated loss factors to the
portfolio based on management’s evaluation and “risk grading” of the commercial
loan portfolio. Reserves are provided for noncommercial loan
categories using estimated loss factors applied to the total outstanding loan
balance of each loan category. Specific reserves are typically
provided on all impaired commercial loans in excess of a defined threshold that
are classified in the Special Mention, Substandard or Doubtful risk
grades. The specific reserves are determined on a loan-by-loan basis
based on management’s evaluation the Company’s exposure for each credit, given
the current payment status of the loan and the value of any underlying
collateral.
While
management uses the best information available to establish the allowance for
loan and lease losses, future adjustments to the allowance may be necessary if
economic conditions differ substantially from the assumptions used in making the
valuations or, if required by regulators, based upon information available to
them at the time of their examinations. Such adjustments to original
estimates, as necessary, are made in the period in which these factors and other
relevant considerations indicate that loss levels may vary from previous
estimates.
Post Retirement Benefits and
Life Insurance Investments
The
Company has invested in and owns life insurance polices on key officers. The
policies are designed so that the company recovers the interest expenses
associated with carrying the policies and the officer will, at the time of
retirement, receive any earnings in excess of the amounts earned by the Company.
The Company recognizes as an asset the net amount that could be realized under
the insurance contract as of the balance sheet date. This amount represents the
cash surrender value of the policies less applicable surrender charges. The
portion of the benefits, which will be received by the executives at the time of
their retirement, is considered, when taken collectively, to constitute a
retirement plan. Therefore the Company accounts for these policies using
guidance found in Statement of Financial Accounting Standards No. 106,
"Employers' Accounting for Post Retirement Benefits Other Than Pensions.” SFAS
No. 106 requires that an employers' obligation under a deferred compensation
agreement be accrued over the expected service life of the employee through
their normal retirement date.
Assumptions
are used in estimating the present value of amounts due officers after their
normal retirement date. These assumptions include the estimated
income to be derived from the investments and an estimate of the Company’s cost
of funds in these future periods. In addition, the discount rate used
in the present value calculation will change in future years based on market
conditions.
Intangible
Assets
Generally
accepted accounting principles were applied to allocate the intangible
components of the purchase of the National Bank of Davis in November 2005. This
excess was allocated between identifiable intangibles (i.e. core deposit
intangibles) and unidentified intangibles (i.e. goodwill). Goodwill is required
to be evaluated for impairment on an annual basis, and the value of the goodwill
adjusted accordingly, should impairment be found. As of December 31,
2007, the Company did not identify an impairment of this
intangible.
In
addition to the intangible assets associated with the purchase of the National
Bank of Davis, the company also carries intangible assets related to the
Stockmans Bank and advertising intangibles relating to the purchase of naming
rights to a performing arts center currently under construction in Petersburg,
WV. The naming rights to this performing arts center were purchased on December
31, 2007 for $250,000 and will be amortized over a ten-year period beginning in
2008. The advertising intangible, in addition to the amortization, will be
evaluated for impairment on an annual basis.
A summary
of the change in balances of intangible assets can be found in Note Nineteen to
the Financial Statements.
Page
Twelve
Recent Accounting
Pronouncements
In
September 2006, the FASB issued Statement of Financial Accounting Standards No.
158, “Employers Accounting for Defined Benefit Pension and Other Postretirement
Plans—an amendment of FASB Statements No. 87, 88, 106 and 132R” (SFAS 158). SFAS
158 requires an employer to recognize the over-funded or under-funded status of
a defined benefit postretirement plan as an asset or liability in its statement
of financial position and to recognize changes in that funded status, through
comprehensive income, in the year in which the changes occur. The funded status
of a benefit plan will be measured as the difference between plan assets at fair
value and benefit obligation. For any other postretirement plan, the benefit
obligation is the accumulated postretirement benefit obligation. SFAS 158 also
requires an employer to measure the funded status of a plan as of the date of
its year-end statement of financial position. The Statement also requires
additional disclosures in the notes to financial statements about certain
effects on net periodic benefit cost for the next fiscal year that arise from
delayed recognition of the gains or losses, prior service costs or credits, and
transition asset or obligation. Under SFAS 158 a company is required to
initially recognize the funded status of a defined benefit postretirement plan
to provide the required disclosures as of the end of the fiscal year ending
after December 15, 2006. The requirement to measure plan assets and benefit
obligations as of the date of the employer’s fiscal year end statement of
financial position is effective for fiscal years ending after December 15, 2008.
The Grant County Bank is a member of the West Virginia Bankers' Association
Retirement Plan, a defined benefit plan under SFAS 158.
No other
recent accounting pronouncements had a material impact on the Company’s
consolidated financial statements.
In 2006,
the FASB issued EITF 06-04 and 06-10. This EITF requires that companies which
own life insurance policies insuring employees and for which the employees
receive a portion of the death benefits of the policies (commonly referred to as
“split dollar” policies) and for which these death benefits to the employee
continue post retirement record a liability for the present value of the cost of
these post retirement death benefits. These EITF pronouncements become effective
for Highlands Bankshares on January 1, 2008. The effects on Highlands’ financial
statements as of January 1, 2008 will be to reduce shareholders’ equity by
approximately $330,000 and increase liabilities by the same amount.
Overview
of 2007 Results
The
Company’s net income for 2007 increased 3.06% over income for 2006.
Net
interest income grew by $976,000 as the company’s average earning assets for the
year increased by 9.72% from 2006 to 2007. Loan balances continued to increase
as the balance of loans grew $17,383,000 from December 31, 2006 to December 31,
2007. The impact of the increase in earning assets on net interest income was
offset by a 10.67% increase in average balances of interest bearing liabilities.
Highlands continued to see increases in the rates earned on average assets and
paid on interest bearing liabilities as both assets and liabilities continued to
reprice upward as a result of Federal Reserve Board (the “Fed”) increases in the
target rates for federal funds sold during 2006.
The
Company’s provision for loan losses was $155,000 greater in 2007 than in 2006.
This was the result of both an increase in the balances of loans and an increase
in 2007 of net charge-offs as compared to recent years. At December 31, 2007 the
Company’s ratio of allowance for loan losses to gross loans was 1.15% as
compared to 1.19% at December 31, 2006.
Non-interest
income increased $83,000 from 2006 to 2007. During 2006, the Company recorded a
one time gain of $155,000 on an insurance settlement.
Non-interest
expense increased 5.37% during 2007 as compared to 2006. The largest increase
was in salary and benefit expense largely due to customary pay increases and an
increase in the costs of health insurance benefits provided to the employees of
the Company and the subsidiary banks. Legal and professional fees increased
9.76% due largely to costs associated with Sarbanes Oxley Rule 404
compliance.
The
Company’s balance sheet continued to grow in 2007 as asset balances increased
6.61% from December 31, 2006 to December 31, 2007. Balances of liabilities,
particularly deposits, also grew during 2007 with balances of deposits being
7.74% greater at December 31, 2007 than at December 31, 2006.
Highlands'
results of operations are discussed in greater detail following this
overview.
Page
Thirteen
Quarterly
Financial Results
The
following table illustrates Highlands’ quarterly financial results for the year
ended December 31, 2007 (in thousands of dollars):
Quarterly
Financial Results
|
|
For
The Year Ended December 31, 2007
|
|
(in
thousands, except per share amounts)
|
|
|
|
|
|
Fourth
Quarter
|
|
|
Third
Quarter
|
|
|
Second
Quarter
|
|
|
First
Quarter
|
|
Total
Interest Income
|
|
$
|
7,102
|
|
|
$
|
7,079
|
|
|
$
|
6,917
|
|
|
$
|
6,566
|
|
Total
Interest Expense
|
|
|
2,799
|
|
|
|
2,796
|
|
|
|
2,660
|
|
|
|
2,448
|
|
Net
Interest Income
|
|
|
4,303
|
|
|
|
4,283
|
|
|
|
4,257
|
|
|
|
4,118
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Provision
for Loan Losses
|
|
|
351
|
|
|
|
145
|
|
|
|
168
|
|
|
|
173
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net
Interest Income After Provision for Loan Losses
|
|
|
3,952
|
|
|
|
4,138
|
|
|
|
4,089
|
|
|
|
3,945
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Other
Income
|
|
|
572
|
|
|
|
542
|
|
|
|
495
|
|
|
|
471
|
|
Other
Expenses
|
|
|
2,634
|
|
|
|
2,857
|
|
|
|
2,803
|
|
|
|
2,658
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Income
Before Income Taxes
|
|
|
1,890
|
|
|
|
1,823
|
|
|
|
1,781
|
|
|
|
1,758
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Income
Tax Expense
|
|
|
614
|
|
|
|
690
|
|
|
|
658
|
|
|
|
637
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net
Income
|
|
$
|
1,276
|
|
|
$
|
1,133
|
|
|
$
|
1,123
|
|
|
$
|
1,121
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net
Income Per Share of Common Stock
|
|
$
|
.89
|
|
|
$
|
.79
|
|
|
$
|
.78
|
|
|
$
|
.78
|
|
Dividends
Per Share of Common Stock
|
|
$
|
.25
|
|
|
$
|
.25
|
|
|
$
|
.25
|
|
|
$
|
.25
|
|
Page
Fourteen
The
following table illustrates Highlands’ quarterly financial results for the year
ended December 31, 2006 (in thousands of dollars):
Quarterly
Financial Results
|
|
For
The Year Ended December 31, 2006
|
|
(in
thousands, except per share amounts)
|
|
|
|
|
|
Fourth
Quarter
|
|
|
Third
Quarter
|
|
|
Second
Quarter
|
|
|
First
Quarter
|
|
Total
Interest Income
|
|
$
|
6,477
|
|
|
$
|
6,140
|
|
|
$
|
5,735
|
|
|
$
|
5,542
|
|
Total
Interest Expense
|
|
|
2,338
|
|
|
|
2,047
|
|
|
|
1,831
|
|
|
|
1,693
|
|
Net
Interest Income
|
|
|
4,139
|
|
|
|
4,093
|
|
|
|
3,904
|
|
|
|
3,849
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Provision
for Loan Losses
|
|
|
173
|
|
|
|
155
|
|
|
|
176
|
|
|
|
177
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net
Interest Income After Provision for Loan Losses
|
|
|
3,966
|
|
|
|
3,938
|
|
|
|
3,728
|
|
|
|
3,671
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Other
Income
|
|
|
442
|
|
|
|
469
|
|
|
|
647
|
|
|
|
439
|
|
Other
Expenses
|
|
|
2,619
|
|
|
|
2,619
|
|
|
|
2,615
|
|
|
|
2,541
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Income
Before Income Taxes
|
|
|
1,789
|
|
|
|
1,788
|
|
|
|
1,760
|
|
|
|
1,569
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Income
Tax Expense
|
|
|
635
|
|
|
|
632
|
|
|
|
559
|
|
|
|
565
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net
Income
|
|
$
|
1,154
|
|
|
$
|
1,156
|
|
|
$
|
1,201
|
|
|
$
|
1,004
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net
Income Per Share of Common Stock
|
|
$
|
.80
|
|
|
$
|
.80
|
|
|
$
|
.84
|
|
|
$
|
.70
|
|
Dividends
Per Share of Common Stock
|
|
$
|
.25
|
|
|
$
|
.23
|
|
|
$
|
.23
|
|
|
$
|
.23
|
|
Net Interest
Income
2007 Compared to
2006
Net
interest income, on a fully taxable equivalent basis, increased 6.09% from 2006
to 2007.
Although
the Company experienced an increase in income, margins shrank from 2006 to 2007.
This shrinking of the Company’s net interest margin occurred for multiple
reasons, included in which are the effect of the Fed’s decrease in the target
rate for fed funds sold during the later months of 2007, the relative repricing
of deposits as compared to earning assets and both the ratio of earning assets
to interest bearing deposits and the ratio of loans, a comparatively higher
earning asset, to other types of earning assets.
Although
the Company experienced an increase in loan balances from December 31, 2006 to
December 31, 2007 and a 9.01% increase in the average balances of loans for 2007
as compared to 2006, balances of deposits increased at a greater rate. Loan
balances increased $17,383,000 from December 31, 2006 to December 31, 2007 while
deposit balances increased $23,254,000 over the same time period, resulting in
an increase in federal funds sold during the last half of 2007. The relative
difference in these balances caused the Company’s average balances of federal
funds sold to be greater during 2007 than in 2006 and the decreases by the Fed
for the target rate for federal funds sold late in the year caused a significant
impact on the Company’s interest earnings.
Page
Fifteen
Additionally,
although earning assets continued to reprice upward in 2007 as a result of the
increases in rates during 2006, the relative increase in rates paid on deposits,
particularly time deposits, was greater than the increase in average rates
earned on earning assets. Average rates earned on loans during 2007 were 39
basis points higher than in 2006 while the average rates paid on time deposits
were 76 basis points higher in 2007 than in 2006.
The table
below sets forth an analysis of net interest income for the years ended December
31, 2007 and 2006 (average balances and interest income/expense shown in
thousands of dollars):
|
|
2007
|
|
|
2006
|
|
|
|
Average
Balance
|
|
|
Income
/Expense
|
|
|
Yield
/Rate
|
|
|
Average
Balance
|
|
|
Income
/Expense
|
|
|
Yield
/Rate
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Earning
Assets
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Loans
|
|
$
|
302,906
|
|
|
$
|
25,295
|
|
|
|
8.35
|
%
|
|
$
|
277,871
|
|
|
$
|
22,118
|
|
|
|
7.96
|
%
|
Taxable
investment securities
|
|
|
24,104
|
|
|
|
1,314
|
|
|
|
5.45
|
%
|
|
|
24,970
|
|
|
|
1,095
|
|
|
|
4.39
|
%
|
Nontaxable
investment securities
|
|
|
2,929
|
|
|
|
178
|
|
|
|
6.06
|
%
|
|
|
2,987
|
|
|
|
173
|
|
|
|
5.79
|
%
|
Interest
bearing deposits
|
|
|
2,610
|
|
|
|
142
|
|
|
|
5.44
|
%
|
|
|
1,576
|
|
|
|
72
|
|
|
|
4.57
|
%
|
Federal
funds sold
|
|
|
16,006
|
|
|
|
801
|
|
|
|
5.00
|
%
|
|
|
10,287
|
|
|
|
500
|
|
|
|
4.87
|
%
|
Total
Earning Assets
|
|
|
348,555
|
|
|
|
27,730
|
|
|
|
7.96
|
%
|
|
|
317,691
|
|
|
|
23,958
|
|
|
|
7.54
|
%
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Allowance
for loan losses
|
|
|
(3,589
|
)
|
|
|
|
|
|
|
|
|
|
|
(3,283
|
)
|
|
|
|
|
|
|
|
|
Other
non-earning assets
|
|
|
29,504
|
|
|
|
|
|
|
|
|
|
|
|
28,648
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total
Assets
|
|
$
|
374,470
|
|
|
|
|
|
|
|
|
|
|
$
|
343,056
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Interest
Bearing Liabilities
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Demand
deposits
|
|
$
|
25,363
|
|
|
$
|
217
|
|
|
|
.86
|
%
|
|
$
|
25,658
|
|
|
$
|
224
|
|
|
|
.87
|
%
|
Savings
deposits
|
|
|
48,181
|
|
|
|
685
|
|
|
|
1.42
|
%
|
|
|
50,235
|
|
|
|
549
|
|
|
|
1.09
|
%
|
Time
deposits
|
|
|
196,648
|
|
|
|
9,205
|
|
|
|
4.68
|
%
|
|
|
164,005
|
|
|
|
6,429
|
|
|
|
3.92
|
%
|
Borrowed
money
|
|
|
12,613
|
|
|
|
596
|
|
|
|
4.73
|
%
|
|
|
15,643
|
|
|
|
707
|
|
|
|
4.52
|
%
|
Total
Interest Bearing Liabilities
|
|
|
282,805
|
|
|
|
10,703
|
|
|
|
3.78
|
%
|
|
|
255,541
|
|
|
|
7,909
|
|
|
|
3.10
|
%
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Demand
deposits
|
|
|
48,101
|
|
|
|
|
|
|
|
|
|
|
|
48,056
|
|
|
|
|
|
|
|
|
|
Other
liabilities
|
|
|
4,886
|
|
|
|
|
|
|
|
|
|
|
|
3,810
|
|
|
|
|
|
|
|
|
|
Stockholders’
equity
|
|
|
38,678
|
|
|
|
|
|
|
|
|
|
|
|
35,649
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total
Liabilities and Stockholders’ Equity
|
|
$
|
374,470
|
|
|
|
|
|
|
|
|
|
|
$
|
343,056
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net
Interest Income
|
|
|
|
|
|
$
|
17,027
|
|
|
|
|
|
|
|
|
|
|
$
|
16,049
|
|
|
|
|
|
Net
Yield on Earning Assets
|
|
|
|
|
|
|
|
|
|
|
4.89
|
%
|
|
|
|
|
|
|
|
|
|
|
5.05
|
%
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Notes:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
(1)
Yields are computed on a taxable equivalent basis using a 37% tax
rate
|
|
(2)
Average balances are based upon daily balances
|
|
(3)
Includes loans in non-accrual status
|
|
(4)
Income on loans includes fees
|
|
Page
Sixteen
The table
below illustrates the effects on net interest income of changes in average
volumes of interest bearing liabilities and earning assets from 2006 to 2007 and
changes in average rates on interest bearing liabilities and earning assets from
2006 to 2007 (in thousands of dollars):
EFFECT
OF RATE-VOLUME CHANGES ON NET INTEREST INCOME
|
|
(On
a fully taxable equivalent basis)
|
|
(In
thousands of dollars)
|
|
|
|
|
|
|
|
|
|
|
|
Increase
(Decrease) 2007 Compared to 2006
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Due
to change in:
|
|
|
|
|
|
|
Average Volume
|
|
|
Average Rate
|
|
|
Total Change
|
|
Interest
Income
|
|
|
|
|
|
|
|
|
|
Loans
|
|
$
|
1,993
|
|
|
$
|
1,184
|
|
|
$
|
3,177
|
|
Taxable
investment securities
|
|
|
(38
|
)
|
|
|
257
|
|
|
|
219
|
|
Nontaxable
investment securities
|
|
|
(3
|
)
|
|
|
8
|
|
|
|
5
|
|
Interest
bearing deposits
|
|
|
46
|
|
|
|
23
|
|
|
|
69
|
|
Federal
funds sold
|
|
|
279
|
|
|
|
22
|
|
|
|
301
|
|
Total
Interest Income
|
|
|
2,277
|
|
|
|
1,494
|
|
|
|
3,771
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Interest
Expense
|
|
|
|
|
|
|
|
|
|
|
|
|
Demand
deposits
|
|
|
(3
|
)
|
|
|
(5
|
)
|
|
|
(8
|
)
|
Savings
deposits
|
|
|
(22
|
)
|
|
|
159
|
|
|
|
137
|
|
Time
deposits
|
|
|
1,280
|
|
|
|
1,496
|
|
|
|
2,776
|
|
Borrowed
money
|
|
|
(137
|
)
|
|
|
27
|
|
|
|
(110
|
)
|
Total
Interest Expense
|
|
|
1,118
|
|
|
|
1,677
|
|
|
|
2,795
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net
Interest Income
|
|
$
|
1,159
|
|
|
$
|
(183
|
)
|
|
$
|
976
|
|
Changes
in volume are calculated based on the difference in average balance multiplied
by the prior year average rate. Changes due to rate changes are calculated by
subtracting the change due to volume from the total change.
2006 Compared to
2005
The
acquisition of two branches had significant impact on the Company’s net interest
income. The following discussion highlights recent trends in the Company’s
management of its net interest margin. The comparison of net interest income in
2006 as compared to 2005, as discussed below, should be considered in
conjunction with the comments relating to the impact on net interest income of
the acquisition of the National Bank of Davis, found earlier in Management’s
Discussion and Analysis under the heading of “Impact of Acquisition on
Operational Results” found in the Company’s 2006 Annual Report on Form
10-K.
Net
interest income, on a fully taxable equivalent basis, increased 13.73% from 2005
to 2006. This increase is both attributable to a general growth in the Company’s
net interest balance sheet and also to increases in rates. Though the relative
mix of earning assets and earning liabilities and also the ratio of earning
assets to earning liabilities was roughly similar from 2005 to 2006 and
therefore changes in the mix of these assets and liabilities or the ratio of the
same did not contribute greatly to the increase in net interest income, the
ratio of assets to liabilities and the percentage of earning assets made up of
higher earning loan balances continues to be favorable to the Company’s net
interest income and also its net interest margin.
Average
balances of earning assets increased 8.72% from 2005 to 2006 and the ratio of
earning assets to earning liabilities remained steady: 1.24 in 2006 and 1.25 in
2005. Average balances of interest bearing liabilities increased
9.26%.
Page
Seventeen
As the
Federal Reserve Board (“the Fed”) continued to increase rates into the early
portions of 2006, the Company continued to experience average rate increases on
both earnings of assets and on the costs of interest bearing liabilities. The
increase in the average rates earned on interest earning assets of 74 basis
points outpaced the average rates paid on interest bearing liabilities, which
experienced a 64 basis point increase. Due to the rate increases by the Fed,
rates earned on new loan balances continue to increase and due to the volume of
adjustable rate mortgages in the Company’s portfolio, a significant portion of
existing loan balances continue to reprice upward. This increase in rates earned
on loans has been offset to some extent by higher rates paid on new time
deposits, and as older time deposits mature and are renewed, higher rates are
paid on the renewed balances.
During
the later portions of 2006, the Fed halted its increases in the target rate for
Federal Funds and rates have flattened as a result. If the Fed continues its
pattern into the coming periods of holding rates constant, the Company expects
average rates on loans and deposits to continue to increase as new loans and
deposits are made and older loans and deposits mature or are repriced at higher
rates. However, management anticipates that a Fed pattern of constant rates will
cause the increase in average rates to slow somewhat.
The table
below sets forth an analysis of net interest income for the years ended December
31, 2006 and 2005 (average balances and interest income/expense shown in
thousands of dollars):
|
|
2006
|
|
|
2005
|
|
|
|
Average
Balance
|
|
|
Income
/Expense
|
|
|
Yield
/Rate
|
|
|
Average
Balance
|
|
|
Income
/Expense
|
|
|
Yield
/Rate
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Earning
Assets
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Loans
|
|
$
|
277,871
|
|
|
$
|
22,118
|
|
|
|
7.96
|
%
|
|
$
|
254,700
|
|
|
$
|
18,622
|
|
|
|
7.31
|
%
|
Taxable
investment securities
|
|
|
24,970
|
|
|
|
1,095
|
|
|
|
4.39
|
%
|
|
|
23,313
|
|
|
|
707
|
|
|
|
3.03
|
%
|
Nontaxable
investment securities
|
|
|
2,987
|
|
|
|
173
|
|
|
|
5.79
|
%
|
|
|
2,951
|
|
|
|
163
|
|
|
|
5.52
|
%
|
Interest
bearing deposits
|
|
|
1,576
|
|
|
|
72
|
|
|
|
4.57
|
%
|
|
|
1,268
|
|
|
|
38
|
|
|
|
3.00
|
%
|
Federal
funds sold
|
|
|
10,287
|
|
|
|
500
|
|
|
|
4.87
|
%
|
|
|
9,970
|
|
|
|
343
|
|
|
|
3.44
|
%
|
Total
Earning Assets
|
|
|
317,691
|
|
|
|
23,958
|
|
|
|
7.54
|
%
|
|
|
292,202
|
|
|
|
19,873
|
|
|
|
6.80
|
%
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Allowance
for loan losses
|
|
|
(3,283
|
)
|
|
|
|
|
|
|
|
|
|
|
(2,807
|
)
|
|
|
|
|
|
|
|
|
Other
non-earning assets
|
|
|
28,648
|
|
|
|
|
|
|
|
|
|
|
|
25,291
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total
Assets
|
|
$
|
343,056
|
|
|
|
|
|
|
|
|
|
|
$
|
314,868
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Interest
Bearing Liabilities
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Demand
deposits
|
|
$
|
25,658
|
|
|
$
|
224
|
|
|
|
.87
|
%
|
|
$
|
23,554
|
|
|
$
|
189
|
|
|
|
.80
|
%
|
Savings
deposits
|
|
|
50,235
|
|
|
|
549
|
|
|
|
1.09
|
%
|
|
|
49,391
|
|
|
|
437
|
|
|
|
.88
|
%
|
Time
deposits
|
|
|
164,005
|
|
|
|
6,429
|
|
|
|
3.92
|
%
|
|
|
146,211
|
|
|
|
4,504
|
|
|
|
3.08
|
%
|
Borrowed
money
|
|
|
15,643
|
|
|
|
707
|
|
|
|
4.52
|
%
|
|
|
14,728
|
|
|
|
631
|
|
|
|
4.28
|
%
|
Total
Interest Bearing Liabilities
|
|
|
255,541
|
|
|
|
7,909
|
|
|
|
3.10
|
%
|
|
|
233,884
|
|
|
|
5,761
|
|
|
|
2.46
|
%
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Demand
deposits
|
|
|
48,056
|
|
|
|
|
|
|
|
|
|
|
|
41,360
|
|
|
|
|
|
|
|
|
|
Other
liabilities
|
|
|
3,810
|
|
|
|
|
|
|
|
|
|
|
|
6,459
|
|
|
|
|
|
|
|
|
|
Stockholders’
equity
|
|
|
35,649
|
|
|
|
|
|
|
|
|
|
|
|
32,983
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total
Liabilities and Stockholders’ Equity
|
|
$
|
343,056
|
|
|
|
|
|
|
|
|
|
|
$
|
314,686
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net
Interest Income
|
|
|
|
|
|
$
|
16,049
|
|
|
|
|
|
|
|
|
|
|
$
|
14,112
|
|
|
|
|
|
Net
Yield on Earning Assets
|
|
|
|
|
|
|
|
|
|
|
5.05
|
%
|
|
|
|
|
|
|
|
|
|
|
4.83
|
%
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Notes:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
(1)
Yields are computed on a taxable equivalent basis using a 37% tax
rate
|
|
(2)
Average balances are based upon daily balances
|
|
(3)
Includes loans in non-accrual status
|
|
(4)
Income on loans includes fees
|
|
Page
Eighteen
The table
below illustrates the effects on net interest income of changes in average
volumes of interest bearing liabilities and earning assets from 2005 to 2006 and
changes in average rates on interest bearing liabilities and earning assets from
2005 to 2006 (in thousands of dollars):
EFFECT
OF RATE-VOLUME CHANGES ON NET INTEREST INCOME
|
|
(On
a fully taxable equivalent basis)
|
|
(In
thousands of dollars)
|
|
|
|
Increase
(Decrease) 2006 Compared to 2005
|
|
|
|
|
|
Due
to change in:
|
|
|
|
|
|
|
Average Volume
|
|
|
Average Rate
|
|
|
Total Change
|
|
Interest
Income
|
|
|
|
|
|
|
|
|
|
Loans
|
|
$
|
1,694
|
|
|
$
|
1,802
|
|
|
$
|
3,496
|
|
Taxable
investment securities
|
|
|
50
|
|
|
|
338
|
|
|
|
388
|
|
Nontaxable
investment securities
|
|
|
2
|
|
|
|
8
|
|
|
|
10
|
|
Interest
bearing deposits
|
|
|
9
|
|
|
|
25
|
|
|
|
34
|
|
Federal
funds sold
|
|
|
11
|
|
|
|
146
|
|
|
|
157
|
|
Total
Interest Income
|
|
|
1,766
|
|
|
|
2,319
|
|
|
|
4,085
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Interest
Expense
|
|
|
|
|
|
|
|
|
|
|
|
|
Demand
deposits
|
|
|
17
|
|
|
|
18
|
|
|
|
35
|
|
Savings
deposits
|
|
|
7
|
|
|
|
105
|
|
|
|
112
|
|
Time
deposits
|
|
|
548
|
|
|
|
1,377
|
|
|
|
1,925
|
|
Borrowed
money
|
|
|
39
|
|
|
|
37
|
|
|
|
76
|
|
Total
Interest Expense
|
|
|
611
|
|
|
|
1,537
|
|
|
|
2,148
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net
Interest Income
|
|
$
|
1,155
|
|
|
$
|
782
|
|
|
$
|
1,937
|
|
Changes
in volume are calculated based on the difference in average balance multiplied
by the prior year average rate. Changes due to rate changes are calculated by
subtracting the change due to volume from the total change.
Loan
Portfolio
The
Company is an active residential mortgage and construction lender and extends
commercial loans to small and medium sized businesses within its primary service
area. The Company’s commercial lending activity extends across its
primary service areas of Grant, Hardy, Hampshire, Mineral, Randolph, Tucker and
Pendleton counties in West Virginia and Frederick County,
Virginia. Consistent with its focus on providing community-based
financial services, the Company does not attempt to diversify its loan portfolio
geographically by making significant amounts of loans to borrowers outside of
its primary service area.
Page
Nineteen
The
following table summarizes the Company’s loan portfolio at December 31, 2007,
2006, 2005, 2004 and 2003 (in thousands of dollars):
|
|
At
December 31,
|
|
|
|
2007
|
|
|
2006
|
|
|
2005
|
|
|
2004
|
|
|
2003
|
|
Real
estate mortgage
|
|
$
|
169,122
|
|
|
$
|
164,243
|
|
|
$
|
153,646
|
|
|
$
|
140,762
|
|
|
$
|
129,671
|
|
Real
estate construction
|
|
|
15,560
|
|
|
|
14,828
|
|
|
|
12,201
|
|
|
|
8,850
|
|
|
|
7,552
|
|
Commercial
|
|
|
79,892
|
|
|
|
70,408
|
|
|
|
57,908
|
|
|
|
52,813
|
|
|
|
42,911
|
|
Installment
|
|
|
45,625
|
|
|
|
43,337
|
|
|
|
46,265
|
|
|
|
46,092
|
|
|
|
46,501
|
|
Total
Loans
|
|
|
310,199
|
|
|
|
292,816
|
|
|
|
270,020
|
|
|
|
248,517
|
|
|
|
226,635
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Allowance
for loan losses
|
|
|
(3,577
|
)
|
|
|
(3,482
|
)
|
|
|
(3,129
|
)
|
|
|
(2,530
|
)
|
|
|
(2,463
|
)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net
Loans
|
|
$
|
306,622
|
|
|
$
|
289,334
|
|
|
$
|
266,891
|
|
|
$
|
245,987
|
|
|
$
|
224,172
|
|
Commercial
loan balances include certain loans secured by commercial real estate. As of
December 31, 2007 the Company maintained balances of loans secured by real
estate of $240,208,000.
There
were no foreign loans outstanding during any of the above periods.
The
following table illustrates the Company’s loan maturity distribution as of
December 31, 2007 (in thousands of dollars):
|
|
Maturity
Range
|
|
|
|
Less than 1 Year
|
|
|
1-5 Years
|
|
|
Over 5 Years
|
|
|
Total
|
|
Loan
Type
|
|
|
|
|
|
|
|
|
|
|
|
|
Commercial
|
|
$
|
58,094
|
|
|
$
|
8,043
|
|
|
$
|
13,755
|
|
|
$
|
79,892
|
|
Real
estate mortgage and construction
|
|
|
59,129
|
|
|
|
56,430
|
|
|
|
69,123
|
|
|
|
184,682
|
|
Installment
|
|
|
15,991
|
|
|
|
28,286
|
|
|
|
1,348
|
|
|
|
45,625
|
|
Total
Loans
|
|
$
|
133,214
|
|
|
$
|
92,759
|
|
|
$
|
84,226
|
|
|
$
|
310,199
|
|
Credit
Quality
The
principal economic risk associated with each of the categories of loans in the
Company’s portfolio is the creditworthiness of its borrowers. Within
each category, such risk is increased or decreased depending on prevailing
economic conditions. The risk associated with the real estate
mortgage loans and installment loans to individuals varies based upon employment
levels, consumer confidence, fluctuations in value of residential real estate
and other conditions that affect the ability of consumers to repay
indebtedness. The risk associated with commercial, financial and
agricultural loans varies based upon the strength and activity of the local
economies of the Company’s market areas. The risk associated with
real estate construction loans vary based upon the supply of and demand for the
type of real estate under construction.
An
inherent risk in the lending of money is that the borrower will not be able to
repay the loan under the terms of the original agreement. The
allowance for loan losses (see subsequent section) provides for this risk and is
reviewed periodically for adequacy. This review also considers
concentrations of loans in terms of geography, business type or level of
risk. While lending is geographically diversified within the service
area, the Company does have some concentration of loans in the area of
agriculture (primarily poultry farming), and the timber and coal extraction
industries. Management recognizes these concentrations and considers them when
structuring its loan portfolio.
Page
Twenty
Non-performing
loans include non-accrual loans, loans 90 days or more past due and restructured
loans. Non-accrual loans are loans on which interest accruals have been
discontinued. Loans are typically placed in non-accrual status when
the collection of principal or interest is 90 days past due and collection is
uncertain based on the net realizable value of the collateral and/or the
financial strength of the borrower. Also, the existence of any guaranties by
federal or state agencies is given consideration in this
decision. The policy is the same for all types of
loans. Restructured loans are loans for which a borrower has been
granted a concession on the interest rate or the original repayment terms
because of financial difficulties. Non-performing loans do not represent or
result from trends or uncertainties which management reasonably expects will
materially impact future operating results, liquidity, or capital resources.
Non-performing loans are listed in the table below.
Non-performing
loans increased 97.41% from December 31, 2006 to December 31, 2007. At December
31, 2007, non-performing loans represented 1.08% of the Company’s balances of
gross loans as compared to .58% at December 31, 2006.
The
following table summarizes the Company’s non-performing loans (in thousands of
dollars):
|
|
At
December 31,
|
|
|
|
2007
|
|
|
2006
|
|
|
2005
|
|
|
2004
|
|
|
2003
|
|
Loans
accounted for on a non-accrual basis
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Consumer
|
|
$
|
71
|
|
|
$
|
83
|
|
|
$
|
124
|
|
|
$
|
252
|
|
|
$
|
228
|
|
Real
estate
|
|
|
845
|
|
|
|
161
|
|
|
|
619
|
|
|
|
278
|
|
|
|
1,436
|
|
Total
Non-accrual Loans
|
|
|
916
|
|
|
|
244
|
|
|
|
743
|
|
|
|
530
|
|
|
|
1,664
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Restructured
Loans
|
|
|
198
|
|
|
|
0
|
|
|
|
0
|
|
|
|
0
|
|
|
|
631
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Loans
delinquent 90 days or more
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Consumer
|
|
|
497
|
|
|
|
122
|
|
|
|
74
|
|
|
|
140
|
|
|
|
25
|
|
Commercial
|
|
|
3
|
|
|
|
0
|
|
|
|
966
|
|
|
|
355
|
|
|
|
1,255
|
|
Real
estate
|
|
|
1,744
|
|
|
|
1,335
|
|
|
|
149
|
|
|
|
40
|
|
|
|
318
|
|
Total
delinquent loans
|
|
|
2,244
|
|
|
|
1,457
|
|
|
|
1,189
|
|
|
|
535
|
|
|
|
1,598
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total
Non-performing Loans
|
|
$
|
3,358
|
|
|
$
|
1,701
|
|
|
$
|
1,932
|
|
|
$
|
1,065
|
|
|
$
|
3,893
|
|
The
carrying value of real estate acquired through foreclosure was $336,000 at
December 31, 2007. The Company held no real estate acquired
through foreclosure at December 31, 2006. The Company's practice is
to value real estate acquired through foreclosure at the lower of (i) an
independent current appraisal or market analysis less anticipated costs of
disposal, or (ii) the existing loan balance.
Because
of its large impact on the local economy, management continues to monitor the
economic health of the poultry industry. The Company has direct loans
to poultry growers and the industry is a large employer in the Company’s trade
area. In recent periods, the Company’s loan portfolio has also begun to reflect
a concentration in loans collateralized by heavy equipment, particularly in the
trucking, mining and timber industries. In part because of rising fuel costs,
the trucking sector has experienced a recent downturn. However, the Company has
experienced no material losses related to foreclosures of loans collateralized
by heavy equipment. While close monitoring of this sector is necessary,
management expects no significant losses in the foreseeable future.
Page
Twenty One
Allowance For Loan
Losses
The
allowance for loan losses is an estimate of the losses in the current loan
portfolio. The allowance is based on two principles of
accounting: (i) SFAS No. 5, Accounting for Contingencies which
requires that losses be accrued when they are probable of occurring and
estimable and (ii) SFAS No. 114, Accounting by Creditors for Impairment of a
Loan, which requires that loans be identified which have characteristics of
impairment as individual risks, (e.g. the collateral, present value of cash
flows or observable market values are less than the loan balance).
Each of
the Company's banking subsidiaries, Capon Valley Bank and The Grant County Bank,
determines the adequacy of its allowance for loan losses independently. Although
the loan portfolios of the two Banks are similar to each other, some differences
exist which result in divergent risk patterns and different charge-off rates
amongst the functional areas of the Banks’ portfolios. Each Bank pays
particular attention to individual loan performance, collateral values, borrower
financial condition and economic conditions. The determination of an
adequate allowance at each Bank is done in a three-step process. The
first step is to identify impaired loans. Impaired loans are problem loans above
a certain threshold, which have estimated losses, calculated based on the fair
value of the collateral with which the loan is secured.
A summary
of the loans, which the Company has identified as impaired, follows (in
thousands of dollars):
December
31, 2007
|
|
|
|
|
|
|
Identified
|
|
Loan
Type
|
|
Balance
|
|
|
Impairment
|
|
Mortgage
|
|
$
|
741
|
|
|
$
|
77
|
|
Commercial
|
|
|
385
|
|
|
|
108
|
|
Installment
|
|
|
90
|
|
|
|
58
|
|
The
second step is to identify loans above a certain threshold, which are problem
loans due to the borrowers' payment history or deteriorating financial
condition. Losses in this category are determined based on historical
loss rates adjusted for current economic conditions. The final step
is to calculate a loss for the remainder of the portfolio using historical loss
information for each type of loan classification. The determination of specific
allowances and weighting is somewhat subjective and actual losses may be greater
or less than the amount of the allowance. However, management
believes that the allowance represents a fair assessment of the losses that
exist in the current loan portfolio.
The
required level of the allowance for loan losses is computed quarterly and the
allowance adjusted prior to the issuance of the quarterly financial
statements. All loan losses charged to the allowance are approved by
the boards of directors of each Bank at their regular meetings. The
allowance is reviewed for adequacy after considering historical loss rates,
current economic conditions (both locally and nationally) and any known credit
problems that have not been considered under the above formula.
Management
has analyzed the potential risk of loss on the Company's loan portfolio given
the loan balances and the value of the underlying collateral and has recognized
losses where appropriate. Non-performing loans are closely monitored on an
ongoing basis as part of the Company's loan review process.
During
2007 the Company experienced a higher level of net charge-offs, as compared to
gross loan balances, than what had been experienced during 2005 and 2006. As a
result, and in addition to continued increases in loan balances, the Company’s
provision for loan losses during 2007 was $155,000 greater than in 2006. The
Company’s ratio of allowance for loan losses to gross loans fell from 1.19% at
December 31, 2006 to 1.15% at December 31, 2007. At December 31,
2007, the ratio of the allowance for loan losses to non-performing loans was
106.52% compared to 204.70% at December 31, 2006 and 161.96% at December 31,
2005.
Page
Twenty Two
An
analysis of the changes in the allowance for loan losses is set forth in the
following table (in thousands of dollars):
|
|
2007
|
|
|
2006
|
|
|
2005
|
|
|
2004
|
|
|
2003
|
|
Balance
at beginning of period
|
|
$
|
3,482
|
|
|
$
|
3,129
|
|
|
$
|
2,530
|
|
|
$
|
2,463
|
|
|
$
|
1,793
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Charge-offs:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Commercial
loans
|
|
|
540
|
|
|
|
27
|
|
|
|
45
|
|
|
|
97
|
|
|
|
557
|
|
Real
estate loans
|
|
|
47
|
|
|
|
1
|
|
|
|
8
|
|
|
|
422
|
|
|
|
65
|
|
Consumer
loans
|
|
|
494
|
|
|
|
551
|
|
|
|
567
|
|
|
|
642
|
|
|
|
839
|
|
Total
Charge-offs:
|
|
|
1,081
|
|
|
|
579
|
|
|
|
620
|
|
|
|
1,161
|
|
|
|
1,461
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Recoveries:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Commercial
loans
|
|
|
59
|
|
|
|
5
|
|
|
|
28
|
|
|
|
37
|
|
|
|
75
|
|
Real
estate loans
|
|
|
4
|
|
|
|
20
|
|
|
|
0
|
|
|
|
36
|
|
|
|
54
|
|
Consumer
loans
|
|
|
276
|
|
|
|
225
|
|
|
|
150
|
|
|
|
235
|
|
|
|
182
|
|
Total
Recoveries
|
|
|
339
|
|
|
|
250
|
|
|
|
178
|
|
|
|
308
|
|
|
|
311
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net
Charge-offs
|
|
|
742
|
|
|
|
329
|
|
|
|
442
|
|
|
|
853
|
|
|
|
1,150
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Provision
for loan losses
|
|
|
837
|
|
|
|
682
|
|
|
|
875
|
|
|
|
920
|
|
|
|
1,820
|
|
Other
additions
|
|
|
|
|
|
|
|
|
|
|
166
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Balance
at end of period
|
|
$
|
3,577
|
|
|
$
|
3,482
|
|
|
$
|
3,129
|
|
|
$
|
2,530
|
|
|
$
|
2,463
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Percent
of net charge-offs to average net loans outstanding during the
period
|
|
|
.24
|
%
|
|
|
.11
|
%
|
|
|
.17
|
%
|
|
|
.51
|
%
|
|
|
.29
|
%
|
Cumulative
net loan losses, after recoveries, for the five-year period ending December 31,
2007 are as follows (in thousands of dollars):
|
|
Dollars
|
|
|
Percent of Total
|
|
Commercial
|
|
$
|
1,062
|
|
|
|
30
|
%
|
Real
Estate
|
|
|
429
|
|
|
|
12
|
%
|
Consumer
|
|
|
2,025
|
|
|
|
58
|
%
|
Total
|
|
$
|
3,516
|
|
|
|
|
|
Page
Twenty Three
The
following table shows the allocation of loans in the loan portfolio and the
corresponding amounts of the allowance allocated by loan type (dollar amounts in
thousands of dollars):
|
|
At
December 31,
|
|
|
|
2007
|
|
|
2006
|
|
|
2005
|
|
|
2004
|
|
|
2003
|
|
|
|
Amount
|
|
|
Percent
of
Loans
|
|
|
Amount
|
|
|
Percent
of
Loans
|
|
|
Amount
|
|
|
Percent
of
Loans
|
|
|
Amount
|
|
|
Percent
of
Loans
|
|
|
Amount
|
|
|
Percent
of
Loans
|
|
Commercial
|
|
$
|
1,140
|
|
|
|
26
|
%
|
|
$
|
1,492
|
|
|
|
24
|
%
|
|
$
|
900
|
|
|
|
21
|
%
|
|
$
|
697
|
|
|
|
21
|
%
|
|
$
|
779
|
|
|
|
19
|
%
|
Mortgage
|
|
|
1,200
|
|
|
|
59
|
%
|
|
|
996
|
|
|
|
61
|
%
|
|
|
1,139
|
|
|
|
62
|
%
|
|
|
853
|
|
|
|
60
|
%
|
|
|
725
|
|
|
|
61
|
%
|
Consumer
|
|
|
1,172
|
|
|
|
15
|
%
|
|
|
967
|
|
|
|
15
|
%
|
|
|
1,082
|
|
|
|
17
|
%
|
|
|
970
|
|
|
|
19
|
%
|
|
|
819
|
|
|
|
20
|
%
|
Unallocated
|
|
|
65
|
|
|
|
|
|
|
|
27
|
|
|
|
|
|
|
|
8
|
|
|
|
|
|
|
|
10
|
|
|
|
|
|
|
|
140
|
|
|
|
|
|
Totals
|
|
$
|
3,577
|
|
|
|
100
|
%
|
|
$
|
3,482
|
|
|
|
100
|
%
|
|
$
|
3,129
|
|
|
|
100
|
%
|
|
$
|
2,530
|
|
|
|
100
|
%
|
|
$
|
2,463
|
|
|
|
100
|
%
|
As
certain loans identified as impaired are paid current, collateral values
increase or loans are removed from watch lists for other reasons, and as other
loans become identified as impaired, and because delinquency levels within each
of the portfolios change, the allocation of the allowance among the loan types
may change. Management feels that the allowance is a fair representation of the
losses present in the portfolio given historical loss trends, economic
conditions and any known credit problems as of any quarter's end. Management
believes that the allowance is to be taken as a whole, and allocation between
loan types is an estimation of potential losses within each type given
information known at the time.
The above
figures act as the beginning for the allocation of overall
allowances. Additional changes have been made in the allocation of
the allowance to address unknowns and contingent items. The unallocated portion
is not computed using a specific formula and is management’s best estimate of
what should be allocated for contingencies in the current
portfolio.
Non-interest
Income
2007 compared to
2006
Non
interest income increased $83,000 from 2006 to 2007. During 2006, the Company
recorded a one time gain of $155,000 on an insurance settlement.
Largely
because of continued increases in non-sufficient funds fees, as a result of
implementation of what is commonly referred to as a “courtesy overdraft” program
by Capon Valley Bank in late 2005, deposit account fees increased 14.67% from
2006 to 2007. The impact on non-interest income resulting from this program
continued to increase during 2007. During late 2007, The Grant County Bank
implemented a similar “courtesy overdraft” program, although the impact of
Grant’s program on 2007 non interest income was not significant.
Income
from investments in life insurance policies decreased $145,000 from 2006 to
2007. The decrease was largely the result of the non-recurring income recorded
during 2006 from the settlement of a bank owned life insurance
policy.
Insurance
commissions and insurance earnings generated by HBI Life Insurance Company
remained relatively steady from 2006 to 2007. The largest market for the
products offered, credit life and accident and health insurance, is installment
loan customers for the banks. From 2002 to 2006, as the number of installment
loan customers for the banks dropped significantly, insurance earnings for the
Company fell accordingly. The numbers of new installment loan customers have
begun to stabilize and as a result, the Company’s insurance income has also
stabilized.
Page
Twenty Four
2006 compared to
2005
Non-interest
income increased 19.65% from 2005 to 2006.
Contributing
heavily to this increase was a $337,000 increase in deposit service charges,
mainly resulting from a rise in insufficient fund charges to demand deposit
customers. This rise in insufficient funds charges was the result of
both an increase in average balances of demand deposits and also the
implementation in late 2005 by Capon Valley Bank of a courtesy overdraft
program. .
Also
contributing to the growth in non-interest income was an increase in earnings on
investments in life insurance contracts brought about by the settlement of two
policies due to the death of an insured (see Note Twenty).
These
increases were offset by a decline in insurance earnings. Insurance income
continues to decrease due to the fact that the volume of new installment loans,
the primary market for credit life and accident and health insurance, continues
to fall.
Non-interest
Expense
2007 compared to
2006
Non-interest
expense increased 5.37% from 2006 to 2007.
Employee
salary and benefits expense increased 4.96%. The table below summarizes the
changes in salaries and benefits expense (all dollar amounts expressed in
thousands of dollars):
|
|
Increase
|
|
|
Percent
|
|
Increases
in salary expense and related payroll tax due to changes in average number
of full time equivalent employees
|
|
$
|
155
|
|
|
|
|
Increases
in salary expense and related payroll tax due to average pay rate
increases
|
|
|
100
|
|
|
|
|
Total
increase in salary expense and related payroll tax
|
|
|
255
|
|
|
|
6.22
|
%
|
|
|
|
|
|
|
|
|
|
Increase
in the cost of employee insurance benefits
|
|
|
95
|
|
|
|
12.91
|
%
|
Increase
in the cost of executive retirement benefits related to investments in
insurance contracts
|
|
|
(89
|
)
|
|
|
(37.25
|
%)
|
Increase
in the cost of employee post retirement benefit plans
|
|
|
20
|
|
|
|
3.33
|
%
|
The
Company’s physical plant remained relatively unchanged from 2006 to 2007 other
than normal and customary upgrades of equipment and technology. As a result,
occupancy and equipment expense remained relatively flat from 2006 to
2007.
Data
processing increased 5.30% as the volume of accounts, both loan and deposit,
increased.
Legal and
professional fees increased 9.76% from 2006 to 2007 largely as a result of
increases in consulting engagements relating to regulatory compliance issues,
most notably Sarbanes Oxley Rule 404.
Page
Twenty Five
2006 compared to
2005
Non-interest
expense increased 13.87% from 2005 to 2006.
Employee
salary and benefits expense increased 14.02%. The table below summarizes the
changes in salaries and benefits expense (all dollar amounts expressed in
thousands of dollars):
|
|
Increase
|
|
|
Percent
|
|
Increases
in salary expense and related payroll tax due to changes in average number
of full time equivalent employees
|
|
$
|
290
|
|
|
|
|
Increases
in salary expense and related payroll tax due to average pay rate
increases
|
|
|
176
|
|
|
|
|
Total
increase in salary expense and related payroll tax
|
|
|
466
|
|
|
|
12.80
|
%
|
|
|
|
|
|
|
|
|
|
Increase
in the cost of employee insurance benefits
|
|
|
97
|
|
|
|
15.22
|
%
|
Increase
in the cost of executive retirement benefits related to investments in
insurance contracts
|
|
|
49
|
|
|
|
26.01
|
%
|
Increase
in the cost of employee post retirement benefit plans
|
|
|
86
|
|
|
|
17.21
|
%
|
Occupancy
and equipment expense increased largely because of an increase in the number of
physical structures owned by the Company as a result of the acquisition of two
branches in late 2005. Data processing increased 28.20% as the volume
of accounts, both loan and deposit, increased. This increase in customer volume
was both the result of the additional customers acquired with the branches
purchase and also continued endogenous growth of legacy operations.
The
amortization of core deposit intangibles increased $137,000 from 2005 to
2006.
Legal and
professional fees fell slightly from 2005 to 2006 as a result of lessened
consulting engagements relating to regulatory compliance issues.
Securities
The
Company's securities portfolio serves several purposes. Portions of
the portfolio are used to secure certain public and trust
deposits. The remaining portfolio is held as investments or used to
assist the Company in liquidity and asset liability management. Total
securities, including restricted securities, represented 7.24% of total assets
at December 31, 2007.
The
securities portfolio consists of three components: securities held to
maturity, securities available for sale and restricted
securities. Securities are classified as held to maturity when
management has the intent and the Company has the ability at the time of
purchase to hold the securities to maturity. Held to maturity
securities are carried at cost, adjusted for amortization of premiums and
accretion of discounts. Securities to be held for indefinite periods of time are
classified as available for sale and accounted for at market
value. Securities available for sale include securities that may be
sold in response to changes in market interest rates, changes in the security's
prepayment risk, increases in loan demand, general liquidity needs and other
similar factors. Restricted securities are those investments
purchased as a requirement of membership in certain governmental lending
institutions and cannot be transferred without the issuer’s
permission. The Company's purchases of securities have generally been
limited to securities of high credit quality with short to medium term
maturities.
The
Company identifies at the time of acquisition those securities that are
available for sale. These securities are valued at their market value with any
difference in market value and amortized cost shown as an adjustment in
stockholders' equity. Changes within the year in market values are
reflected as changes in other comprehensive income, net of the deferred tax
effect. As of December 31, 2007, the faire value of the securities
available for sale exceeded their cost basis by $270,000 ($169,000 after tax
effect of $101,000).
Page
Twenty Six
The
following table summarizes the carrying value of the Company’s securities at
December 31, 2007, 2006 and 2005 (in thousands of dollars):
|
|
Held
to Maturity
|
|
|
Available
for Sale
|
|
|
|
Carrying
Value
|
|
|
Carrying
Value
|
|
|
|
December
31,
|
|
|
December
31,
|
|
|
|
2007
|
|
|
2006
|
|
|
2005
|
|
|
2007
|
|
|
2006
|
|
|
2005
|
|
U.S.
Treasuries and Agencies
|
|
$
|
0
|
|
|
$
|
0
|
|
|
$
|
0
|
|
|
$
|
15,245
|
|
|
$
|
14,403
|
|
|
$
|
17,234
|
|
Obligations
of states and political subdivisions
|
|
|
0
|
|
|
|
170
|
|
|
|
491
|
|
|
|
3,039
|
|
|
|
2,744
|
|
|
|
2,705
|
|
Mortgage
backed securities
|
|
|
0
|
|
|
|
0
|
|
|
|
0
|
|
|
|
7,784
|
|
|
|
6,554
|
|
|
|
7,163
|
|
Marketable
equities
|
|
|
0
|
|
|
|
0
|
|
|
|
0
|
|
|
|
22
|
|
|
|
28
|
|
|
|
28
|
|
Total
|
|
$
|
0
|
|
|
$
|
170
|
|
|
$
|
491
|
|
|
$
|
26,090
|
|
|
$
|
23,729
|
|
|
$
|
27,130
|
|
The
carrying amount and estimated market value of debt securities (in thousands of
dollars) at December 31, 2007 by contractual maturity are shown
below. Expected maturities will differ from contractual maturities
because borrowers may have the right to call or prepay obligations with or
without call or prepayment penalties.
|
|
Amortized Cost
|
|
|
Fair Value
|
|
|
Equivalent Average Yield
|
|
|
|
|
|
|
|
|
|
|
|
Securities
Available for Sale
|
|
|
|
|
|
|
|
|
|
Due
in 3 months or less
|
|
$
|
2,309
|
|
|
$
|
2,312
|
|
|
|
5.04
|
%
|
Due
in 3 months through one year
|
|
|
6,825
|
|
|
|
6,842
|
|
|
|
4.90
|
%
|
Due
after one year through five years
|
|
|
15,782
|
|
|
|
16,035
|
|
|
|
5.22
|
%
|
Due
after five years through ten years
|
|
|
838
|
|
|
|
840
|
|
|
|
4.15
|
%
|
Due
after ten years
|
|
|
38
|
|
|
|
39
|
|
|
|
5.56
|
%
|
Equity
securities with no maturity
|
|
|
28
|
|
|
|
22
|
|
|
|
8.40
|
%
|
Total
Available For Sale
|
|
$
|
25,820
|
|
|
$
|
26,090
|
|
|
|
5.08
|
%
|
Yields on
tax exempt securities are stated at actual yields.
Management
has generally kept the maturities of investments relatively short providing for
flexibility in investing. Such a philosophy allows the Company to
better match deposit maturities with investment maturities, and
thus,
react more
quickly to interest rate changes.
Deposits
The
Company's primary source of funds is local deposits. The Company's
deposit base is comprised of demand deposits, savings and money market accounts
and other time deposits. The majority of the Company's deposits are provided by
individuals and businesses located within the communities served.
Total
balances of deposits increased 7.74% from December 31, 2006 to December 31,
2007.
Although
the Company does not actively solicit large certificates of deposit (those more
than $100,000) due to the unstable nature of these deposits, the balances of
such deposits increased 19.35% from December 31, 2006 to December 31, 2007. This
increase is, in part, attributable to rate specials offered by the subsidiary
Banks during the year.
A summary
of the maturity range of deposits over $100,000 is as follows (in thousands of
dollars):
|
|
At
December 31,
|
|
|
|
2007
|
|
|
2006
|
|
|
2005
|
|
Three
months or less
|
|
$
|
19,609
|
|
|
$
|
9,533
|
|
|
$
|
7,662
|
|
Four
to twelve months
|
|
|
30,204
|
|
|
|
30,810
|
|
|
|
14,835
|
|
One
year to three years
|
|
|
10,067
|
|
|
|
8,156
|
|
|
|
17,736
|
|
Four
years to five years
|
|
|
5,606
|
|
|
|
6,368
|
|
|
|
5,222
|
|
Total
|
|
$
|
65,486
|
|
|
$
|
54,867
|
|
|
$
|
45,455
|
|
Page
Twenty Seven
Borrowed
Money
Long Term
Borrowings
The
Company borrows funds from the Federal Home Loan Bank (“FHLB”) to reduce market
rate risks, provide liquidity, and to fund capital additions. These
borrowings may have fixed or variable interest rates and are amortized over a
period of one to twenty years, or may be comprised of single payment borrowings
with periodic interest payments and principal amounts due at maturity.
Borrowings from this institution allow the Banks to offer long-term, fixed rate
loans to their customers and match the interest rate exposure of the receivable
and the liability and to meet liquidity needs and to manage interest rate risk
through the use of long-term fixed rate borrowings. During 2007, the
Company borrowed an additional $1,000,000 from the FHLB and made payments of $
4,173,000 on outstanding balances.
Short Term
Borrowings
At either
December 31, 2006 or 2007, the Company had no balances of short-term borrowings.
Though this funding tool may be required in coming periods, Management prefers
to fund growth through longer-term vehicles and expects instances of overnight
borrowings to be limited.
Capital
Resources
The
assessment of capital adequacy depends on a number of factors such as asset
quality, liquidity, earnings performance and changing competitive conditions and
economic forces. The Company seeks to maintain a strong capital base
to support its growth and expansion activities, to provide stability to current
operations and to promote public confidence.
The
Company's capital position continues to exceed regulatory
minimums. The primary indicators relied on by the Federal Reserve
Board and other bank regulators in measuring strength of capital position are
the Tier 1 Capital, Total Capital and Leverage ratios. Tier 1 Capital
consists of common stockholders' equity adjusted for unrealized gains and losses
on securities. Total Capital consists of Tier 1 Capital and a portion
of the allowance for loan losses. Risk-based capital ratios are
calculated with reference to risk-weighted assets, which consist of both on and
off-balance sheet risks.
The
capital management function is an ongoing process. Central to this
process is internal equity generation accomplished by earnings
retention. During 2007, 2006, and 2005, total stockholders' equity
increased by $3,517,000, $3,084,000 and $2,337,000, respectively, as a result of
earnings retention and changes in the other comprehensive income. The
return on average equity was 12.03% in 2007 compared to 12.67% for 2006 and
11.53% for 2005. Total cash dividends declared represent 30.88% of
net income for 2007 compared to 29.91% of net income for 2006 and 30.99% for
2005. Book value per share was $28.25 at December 31, 2007 compared
to $25.80 at December 31, 2006.
Page
Twenty Eight
Liquidity
Operating
liquidity is the ability to meet present and future financial obligations.
Short-term liquidity is provided primarily through cash balances, deposits with
other financial institutions, federal funds sold, non-pledged securities and
loans maturing within one year. Additional sources of liquidity available to the
Company include, but are not limited to, loan repayments, the ability to obtain
deposits through the adjustment of interest rates and the purchasing of federal
funds. To further meet its liquidity needs, the Company also
maintains lines of credit with correspondent financial institutions, the Federal
Reserve Bank of Richmond and the Federal Home Loan Bank of
Pittsburgh.
Historically,
the Company’s primary need for additional levels of operational liquidity has
been to fund increases in loan balances. The Company has normally funded
increases in loans by increasing deposits and decreases in secondary liquidity
sources such as balances of federal funds sold and balances of securities.
Although total deposit balances have decreased and increased slightly in the
last two years, the Company has maintained or increased levels of secondary
liquidity resources and does not anticipate that an unexpectedly high level of
loan demand in coming periods would impact liquidity to the extent that the
Company would be required to pay above market rates to obtain
deposits.
The
parent Company’s operating funds, funds with which to pay shareholder dividends
and funds for the exploration of new business ventures have been supplied
primarily through dividends paid by the Company’s two subsidiary Banks, Capon
Valley Bank and The Grant County Bank. The various regulatory
authorities impose restrictions on dividends paid by a state bank. A
state bank cannot pay dividends without the consent of the relevant banking
authorities in excess of the total net profits of the current year and the
combined retained profits of the previous two years. As of January 1,
2008, the subsidiary Banks could pay dividends to Highlands Bankshares, Inc. of
approximately $6,505,000 without permission of the regulatory authorities. The
special dividend in October 2005 from The Grant County Bank to Highlands
Bankshares to fund the acquisition of The National Bank of Davis exceeded
Grant’s dividend limit as of the date of the dividend. As part of the regulatory
application process for the acquisition, the applicable banking authorities
approved this dividend and the Company believes that the special, one time,
dividend will not restrict Grant’s ability to pay dividends to the parent
company in the coming periods.
Effects of
Inflation
Inflation
primarily affects industries having high levels of property, plant and equipment
or inventories. Although the Company is not significantly affected in these
areas, inflation does have an impact on the growth of assets. As
assets grow rapidly, it becomes necessary to increase equity capital at
proportionate levels to maintain the appropriate equity to asset
ratios. Traditionally, the Company's earnings and high capital
retention levels have enabled the Company to meet these needs.
The
Company's reported earnings results have been minimally affected by
inflation. The different types of income and expense are affected in
various ways. Interest rates are affected by inflation, but the
timing and magnitude of the changes may not coincide with changes in the
consumer price index. Management actively monitors interest rate
sensitivity, as illustrated by the gap analysis shown under the section titled
Interest Rate Sensitivity, in order to minimize the effects of inflationary
trends on interest rates. Other areas of non-interest expenses may be more
directly affected by inflation.
Page
Twenty Nine
|
Financial
Statements and Supplementary Data
|
HIGHLANDS
BANKSHARES, INC.
|
|
CONSOLIDATED
BALANCE SHEETS
|
|
December
31, 2007 and 2006
|
|
(In
thousands of dollars)
|
|
|
|
2007
|
|
|
2006
|
|
ASSETS
|
|
|
|
|
|
|
Cash
and due from banks
|
|
$
|
7,935
|
|
|
$
|
7,111
|
|
Interest
bearing deposits in banks
|
|
|
1,853
|
|
|
|
1,624
|
|
Federal
funds sold
|
|
|
14,246
|
|
|
|
12,210
|
|
Investment
securities held to maturity
|
|
|
0
|
|
|
|
170
|
|
Investment
securities available for sale
|
|
|
26,090
|
|
|
|
23,729
|
|
Restricted
investments
|
|
|
1,498
|
|
|
|
1,570
|
|
Loans
|
|
|
310,199
|
|
|
|
292,816
|
|
Allowance
for loan losses
|
|
|
(3,577
|
)
|
|
|
(3,482
|
)
|
Bank
premises and equipment
|
|
|
8,104
|
|
|
|
8,131
|
|
Interest
receivable
|
|
|
2,273
|
|
|
|
2,173
|
|
Investment
in life insurance contracts
|
|
|
6,300
|
|
|
|
6,066
|
|
Goodwill
|
|
|
1,534
|
|
|
|
1,534
|
|
Other
intangible assets
|
|
|
1,572
|
|
|
|
1,498
|
|
Other
assets
|
|
|
2,909
|
|
|
|
2,166
|
|
Total
Assets
|
|
$
|
380,936
|
|
|
$
|
357,316
|
|
|
|
|
|
|
|
|
|
|
LIABILITIES
|
|
|
|
|
|
|
|
|
Deposits
|
|
|
|
|
|
|
|
|
Non-interest
bearing deposits
|
|
|
48,605
|
|
|
$
|
46,726
|
|
Interest
bearing transaction and savings accounts
|
|
|
73,736
|
|
|
|
71,590
|
|
Time
deposits over $100,000
|
|
|
65,486
|
|
|
|
54,867
|
|
All
other time deposits
|
|
|
135,911
|
|
|
|
127,301
|
|
Total
Deposits
|
|
|
323,738
|
|
|
|
300,484
|
|
|
|
|
|
|
|
|
|
|
Long
term debt
|
|
|
11,819
|
|
|
|
14,992
|
|
Accrued
expenses and other liabilities
|
|
|
4,786
|
|
|
|
4,764
|
|
Total
Liabilities
|
|
|
340,343
|
|
|
|
320,240
|
|
|
|
|
|
|
|
|
|
|
STOCKHOLDERS’
EQUITY
|
|
|
|
|
|
|
|
|
Common
Stock, $5 par value, 3,000,000 shares authorized, 1,436,874 shares issued
and outstanding
|
|
|
7,184
|
|
|
|
7,184
|
|
Surplus
|
|
|
1,662
|
|
|
|
1,662
|
|
Retained
earnings
|
|
|
32,032
|
|
|
|
28,816
|
|
Other
accumulated comprehensive loss
|
|
|
(285
|
)
|
|
|
(586
|
)
|
Total
Stockholders’ Equity
|
|
|
40,593
|
|
|
|
37,076
|
|
|
|
|
|
|
|
|
|
|
Total
Liabilities and Stockholders’ Equity
|
|
$
|
380,936
|
|
|
$
|
357,316
|
|
The
accompanying notes are an integral part of these statements
Page
Thirty Two
HIGHLANDS
BANKSHARES, INC.
|
|
CONSOLIDATED
STATEMENTS OF INCOME
|
|
FOR
THE YEARS ENDED DECEMBER 31, 2007, 2006 and 2005
|
|
(in
thousands of dollars, except per share data)
|
|
|
|
2007
|
|
|
2006
|
|
|
2005
|
|
Interest
and Dividend Income
|
|
|
|
|
|
|
|
|
|
Loans,
including fees
|
|
$
|
25,295
|
|
|
$
|
22,118
|
|
|
$
|
18,622
|
|
Federal
funds sold
|
|
|
801
|
|
|
|
500
|
|
|
|
343
|
|
Interest
bearing deposits
|
|
|
142
|
|
|
|
72
|
|
|
|
38
|
|
Investment
securities
|
|
|
1,426
|
|
|
|
1,204
|
|
|
|
810
|
|
Total
Interest Income
|
|
|
27,664
|
|
|
|
23,894
|
|
|
|
19,813
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Interest
Expense
|
|
|
|
|
|
|
|
|
|
|
|
|
Interest
on deposits
|
|
|
10,107
|
|
|
|
7,202
|
|
|
|
5,130
|
|
Interest
on borrowed money
|
|
|
596
|
|
|
|
707
|
|
|
|
631
|
|
Total
Interest Expense
|
|
|
10,703
|
|
|
|
7,909
|
|
|
|
5,761
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net
Interest Income
|
|
|
16,961
|
|
|
|
15,985
|
|
|
|
14,052
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Provision
for Loan Losses
|
|
|
837
|
|
|
|
682
|
|
|
|
875
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net
Interest Income after Provision for Loan Losses
|
|
|
16,124
|
|
|
|
15,303
|
|
|
|
13,177
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Non-interest
Income
|
|
|
|
|
|
|
|
|
|
|
|
|
Service
charges
|
|
|
1,391
|
|
|
|
1,213
|
|
|
|
876
|
|
Insurance
commissions and income
|
|
|
132
|
|
|
|
126
|
|
|
|
227
|
|
Life
insurance investment income
|
|
|
235
|
|
|
|
380
|
|
|
|
234
|
|
Gain
on securities transactions
|
|
|
1
|
|
|
|
0
|
|
|
|
6
|
|
Other
operating income
|
|
|
321
|
|
|
|
278
|
|
|
|
326
|
|
Total
Non-interest Income
|
|
|
2,080
|
|
|
|
1,997
|
|
|
|
1,669
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Non-interest
Expenses
|
|
|
|
|
|
|
|
|
|
|
|
|
Salaries
and benefits
|
|
|
5,952
|
|
|
|
5,671
|
|
|
|
4,973
|
|
Occupancy
expense
|
|
|
517
|
|
|
|
467
|
|
|
|
412
|
|
Equipment
expense
|
|
|
867
|
|
|
|
879
|
|
|
|
836
|
|
Data
processing expense
|
|
|
854
|
|
|
|
811
|
|
|
|
632
|
|
Legal
and professional fees
|
|
|
461
|
|
|
|
420
|
|
|
|
440
|
|
Directors
fees
|
|
|
371
|
|
|
|
392
|
|
|
|
341
|
|
Other
operating expenses
|
|
|
1,930
|
|
|
|
1,754
|
|
|
|
1,494
|
|
Total
Non-interest Expenses
|
|
|
10,952
|
|
|
|
10,394
|
|
|
|
9,128
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Income
Before Income Tax Expense
|
|
|
7,252
|
|
|
|
6,906
|
|
|
|
5,718
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Income
Tax Expense
|
|
|
2,599
|
|
|
|
2,391
|
|
|
|
1,916
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net
Income
|
|
$
|
4,653
|
|
|
$
|
4,515
|
|
|
$
|
3,802
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Earnings
Per Share
|
|
$
|
3.24
|
|
|
$
|
3.14
|
|
|
$
|
2.65
|
|
Dividends
Per Share
|
|
|
1.00
|
|
|
|
.94
|
|
|
|
.82
|
|
Weighted
Average Shares Outstanding
|
|
|
1,436,874
|
|
|
|
1,436,874
|
|
|
|
1,436,874
|
|
The
accompanying notes are an integral part of these statements
Page
Thirty Three
HIGHLANDS
BANKSHARES, INC.
|
|
CONSOLIDATED
STATEMENTS OF STOCKHOLDERS’ EQUITY
|
|
(in
thousands of dollars)
|
|
|
|
Common
Stock
|
|
|
Surplus
|
|
|
Retained
Earnings
|
|
|
Accumulated
Other Comprehensive Income (Loss)
|
|
|
Total
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Balances
January 1, 2005
|
|
$
|
7,184
|
|
|
$
|
1,662
|
|
|
$
|
23,028
|
|
|
$
|
(219
|
)
|
|
$
|
31,655
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Comprehensive
Income:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net
income
|
|
|
|
|
|
|
|
|
|
|
3,802
|
|
|
|
|
|
|
|
3,802
|
|
Change
in other comprehensive income
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
(286
|
)
|
|
|
(286
|
)
|
Total
Comprehensive Income
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
3,516
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Cash
Dividends
|
|
|
|
|
|
|
|
|
|
|
(1,179
|
)
|
|
|
|
|
|
|
(1,
179
|
)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Balances
December 31, 2005
|
|
|
7,184
|
|
|
|
1,662
|
|
|
|
25,651
|
|
|
|
(505
|
)
|
|
|
33,992
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Comprehensive
Income:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net
income
|
|
|
|
|
|
|
|
|
|
|
4,515
|
|
|
|
|
|
|
|
4,515
|
|
Change
in other comprehensive income
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
(81
|
)
|
|
|
(81
|
)
|
Total
Comprehensive Income
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
4,434
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Cash
Dividends
|
|
|
|
|
|
|
|
|
|
|
(1,350
|
)
|
|
|
|
|
|
|
(1,350
|
)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Balances
December 31, 2006
|
|
|
7,184
|
|
|
|
1,662
|
|
|
|
28,816
|
|
|
|
(586
|
)
|
|
|
37,076
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Comprehensive
Income:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net
income
|
|
|
|
|
|
|
|
|
|
|
4,653
|
|
|
|
|
|
|
|
4,653
|
|
Change
in other comprehensive income
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
301
|
|
|
|
301
|
|
Total
Comprehensive Income
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
4,954
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Cash
Dividends
|
|
|
|
|
|
|
|
|
|
|
(1,437
|
)
|
|
|
|
|
|
|
(1,437
|
)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Balances
December 31, 2007
|
|
$
|
7,184
|
|
|
$
|
1,662
|
|
|
$
|
32,032
|
|
|
$
|
(285
|
)
|
|
$
|
40,593
|
|
The
accompanying notes are an integral part of these statements
Page
Thirty Four
HIGHLANDS
BANKSHARES, INC.
|
|
CONSOLIDATED
STATEMENTS OF CASH FLOWS
|
|
FOR
THE YEARS ENDED DECEMBER 31, 2007, 2006 and 2005
|
|
(In
thousands of dollars)
|
|
|
|
Years
Ended December 31,
|
|
|
|
2007
|
|
|
2006
|
|
|
2005
|
|
CASH
FLOWS FROM OPERATING ACTIVITIES
|
|
|
|
|
|
|
|
|
|
Net
Income
|
|
$
|
4,653
|
|
|
$
|
4,515
|
|
|
$
|
3,802
|
|
Adjustments
to reconcile net income to net cash provided by operating
activities
|
|
|
|
|
|
|
|
|
|
|
|
|
Gain
on securities transactions
|
|
|
(1
|
)
|
|
|
0
|
|
|
|
(6
|
)
|
(Gain)
loss on sale of property
|
|
|
38
|
|
|
|
(7
|
)
|
|
|
(19
|
)
|
Depreciation
|
|
|
704
|
|
|
|
691
|
|
|
|
692
|
|
Income
from life insurance contracts
|
|
|
(234
|
)
|
|
|
(380
|
)
|
|
|
(234
|
)
|
Net
amortization of securities premiums
|
|
|
(142
|
)
|
|
|
(182
|
)
|
|
|
39
|
|
Provision
for loan losses
|
|
|
837
|
|
|
|
682
|
|
|
|
875
|
|
Deferred
income tax benefit
|
|
|
(131
|
)
|
|
|
(115
|
)
|
|
|
(170
|
)
|
Amortization
of intangibles
|
|
|
176
|
|
|
|
176
|
|
|
|
38
|
|
Decrease
(Increase) in interest receivable
|
|
|
(100
|
)
|
|
|
(355
|
)
|
|
|
(294
|
)
|
Decrease
(Increase) in other assets
|
|
|
(585
|
)
|
|
|
1
|
|
|
|
95
|
|
Increase
(Decrease) in accrued expenses
|
|
|
22
|
|
|
|
938
|
|
|
|
207
|
|
Purchase
of Intangibles
|
|
|
(250
|
)
|
|
|
0
|
|
|
|
0
|
|
Net
Cash Provided by Operating Activities
|
|
|
4,987
|
|
|
|
5,964
|
|
|
|
5,025
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
CASH
FLOWS FROM INVESTING ACTIVITIES
|
|
|
|
|
|
|
|
|
|
|
|
|
Sale
of property
|
|
|
0
|
|
|
|
7
|
|
|
|
19
|
|
Proceeds
from maturity of securities held to maturity
|
|
|
170
|
|
|
|
320
|
|
|
|
670
|
|
Proceeds
from maturity of securities available for sale
|
|
|
10,918
|
|
|
|
11,539
|
|
|
|
12,654
|
|
Purchase
of securities available for sale
|
|
|
(12,862
|
)
|
|
|
(7,870
|
)
|
|
|
(8,083
|
)
|
Net
change in other investments
|
|
|
72
|
|
|
|
(320
|
)
|
|
|
(77
|
)
|
Net
change in interest bearing deposits in other banks
|
|
|
(229
|
)
|
|
|
(661
|
)
|
|
|
(312
|
)
|
Net
increase in loans
|
|
|
(18,125
|
)
|
|
|
(23,125
|
)
|
|
|
(13,442
|
)
|
Settlement
on insurance contract, net of gain
|
|
|
0
|
|
|
|
555
|
|
|
|
0
|
|
Net
change in federal funds sold
|
|
|
(2,036
|
)
|
|
|
(1,402
|
)
|
|
|
(768
|
)
|
Purchase
of property and equipment
|
|
|
(715
|
)
|
|
|
(1,117
|
)
|
|
|
(281
|
)
|
Purchase
of branch operations, net of cash received
|
|
|
0
|
|
|
|
0
|
|
|
|
(893
|
)
|
Net
Cash Provided by (Used in) Investing Activities
|
|
|
(22,807
|
)
|
|
|
(22,074
|
)
|
|
|
(10,513
|
)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
CASH
FLOWS FROM FINANCING ACTIVITIES
|
|
|
|
|
|
|
|
|
|
|
|
|
Net
change in time deposits
|
|
|
19,229
|
|
|
|
25,826
|
|
|
|
5,793
|
|
Net
change in other deposit accounts
|
|
|
4,025
|
|
|
|
(10,034
|
)
|
|
|
(1,150
|
)
|
Additional
long term debt
|
|
|
1,000
|
|
|
|
2,300
|
|
|
|
8,200
|
|
Repayment
of long term debt
|
|
|
(4,173
|
)
|
|
|
(2,371
|
)
|
|
|
(1,513
|
)
|
Additional
(repayment of) short term borrowings
|
|
|
0
|
|
|
|
0
|
|
|
|
(2,000
|
)
|
Dividends
paid in cash
|
|
|
(1,437
|
)
|
|
|
(1,350
|
)
|
|
|
(1,179
|
)
|
Net
Cash Provided by (Used in) Financing Activities
|
|
|
18,644
|
|
|
|
14,371
|
|
|
|
8,151
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
CASH
AND CASH EQUIVALENTS
|
|
|
|
|
|
|
|
|
|
|
|
|
Net
increase (decrease) in cash and due from banks
|
|
|
824
|
|
|
|
(1,739
|
)
|
|
|
2,663
|
|
Cash
and due from banks, beginning of year
|
|
|
7,111
|
|
|
|
8,850
|
|
|
|
6,187
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Cash
and due from banks, end of year
|
|
$
|
7,935
|
|
|
$
|
7,111
|
|
|
$
|
8,850
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Supplemental
Disclosures, Cash Paid For:
|
|
|
|
|
|
|
|
|
|
|
|
|
Interest
Expense
|
|
$
|
10,141
|
|
|
$
|
7,529
|
|
|
$
|
5,523
|
|
Income
Taxes
|
|
$
|
3,085
|
|
|
$
|
2,381
|
|
|
$
|
1,984
|
|
The
accompanying notes are an integral part of these statements
Page
Thirty Five
Note
One: Summary of Operations
Highlands
Bankshares, Inc. (the "Company") is a bank holding company and operates under a
charter issued by the state of West Virginia. The Company owns all of
the outstanding stock of The Grant County Bank ("Grant") and Capon Valley Bank
("Capon"), which operate under charters issued by the state of West Virginia.
The Company also owns all of the outstanding stock of HBI Life Insurance
Company, Inc. ("HBI Life"), which operates under a charter issued in
Arizona. State chartered banks are subject to regulation by the West
Virginia Division of Banking, The Federal Reserve Bank and the Federal Deposit
Insurance Corporation, while the insurance company is regulated by the Arizona
Department of Insurance. The Banks provide services to customers
located mainly in Grant, Hardy, Hampshire, Mineral, Pendleton, Randolph and
Tucker counties of West Virginia, including the towns of Petersburg, Keyser,
Moorefield, Davis and Wardensville through ten locations and the county of
Frederick in Virginia through a single location. The insurance
company sells life and accident coverage exclusively through the Company's
subsidiary Banks.
Note
Two: Summary of Significant Accounting Policies
The
accounting and reporting policies of Highlands Bankshares, Inc. and its
subsidiaries conform to accounting principles generally accepted in the United
States of America and to accepted practice within the banking
industry.
(a)
|
Principles
of Consolidation
|
The
consolidated financial statements include the accounts of The Grant County Bank,
Capon Valley Bank and HBI Life Insurance Company. During 2005, the Company
purchased all of the outstanding shares of The National Bank of Davis (“Davis”)
(see Note Nineteen) and these operations are included subsequent to the
purchase. All significant inter-company accounts and transactions have been
eliminated.
(b)
|
Use
of Estimates in the Preparation of Financial
Statements
|
In
preparing the financial statements and related disclosures, management is
required to make estimates and assumptions that affect the reported amounts in
those statements and disclosures; actual results could differ significantly from
those estimates. A material estimate that is particularly susceptible
to significant changes in the near term is the determination of the allowance
for loan losses, which is sensitive to changes in local economic
conditions.
(c)
|
Cash
and Cash Equivalents
|
For
purposes of the statements of cash flows, cash and cash equivalents include cash
on hand and non-interest bearing funds at correspondent
institutions.
(d)
|
Foreclosed
Real Estate
|
The
components of foreclosed real estate are adjusted to the fair value of the
property at the time of acquisition, less estimated costs of
disposal. The current year provision for a valuation allowance has
been recorded as an expense to current operations.
Loans are
carried on the balance sheet net of unearned interest and allowance for loan
losses. Interest income on loans is determined using the effective
interest method based on the daily amount of principal outstanding except where
serious doubt exists as to collectibility of the loan, in which case the accrual
of income is discontinued. Loans are placed on non-accrual status or charged off
if collection of principal or interest becomes doubtful. The interest on these
loans is accounted for on a cash-basis or cost-recovery method until qualifying
for return to accrual status. Loans are returned to accrual status when all the
principal and interest amounts contractually due are brought current and the
loan is performing as agreed.
Page
Thirty Six
Securities
that the Company has both the positive intent and ability to hold to maturity
(at time of purchase) are classified as held to maturity
securities. All other securities are classified as available for
sale. Securities held to maturity are carried at historical cost and
adjusted for amortization of premiums and accretion of discounts, using the
effective interest method. Securities available for sale are carried
at fair value with any valuation adjustments reported, net of deferred taxes, as
other accumulated comprehensive income.
Restricted
investments consist of investments in the Federal Home Loan Bank of Pittsburgh,
the Federal Reserve Bank of Richmond and West Virginia Bankers’ Title Insurance
Company. Such investments are required as members of these
institutions and these investments cannot be sold without a change in the
members' borrowing or service levels. Because there is no readily determinable
market value for these investments, restricted investments are carried at cost
on the Company’s balance sheet.
Interest
and dividends on securities and amortization of premiums and discounts on
securities are reported as interest income using the effective interest
method. Gains (losses) realized on sales and calls of securities are
determined using the specific identification method.
(g)
|
Allowance
For Loan Losses
|
The
allowance for loan losses is established as losses are estimated to have
occurred through a provision for loan losses charged to
earnings. Loan losses are charged against the allowance when
management believes the 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.
The
impairment of loans that have been separately identified for evaluation is
measured based on the present value of expected future cash flows or,
alternatively, the observable market price of the loans or the fair value of the
collateral. However, for those loans that are collateral dependent
(that is, if repayment of those loans is expected to be provided solely by the
underlying collateral) and for which management has determined foreclosure is
possible, the measure of impairment of those loans is to be based on the fair
value of the collateral. Large groups of smaller balance homogenous
loans are collectively evaluated for impairment. Accordingly, the
Company does not separately identify individual consumer and residential loans
for impairment disclosures.
(h)
|
Per
Share Calculations
|
Earnings
per share are based on the weighted average number of shares
outstanding.
(i)
|
Bank
Premises and Equipment
|
Bank
premises and equipment are stated at cost less accumulated depreciation. Assets
acquired in the acquisition of Davis have been recorded at their fair
value. Depreciation is charged to income over the estimated useful
lives of the assets using a combination of the straight line and accelerated
methods. The costs of maintenance, repairs, renewals, and improvements to
buildings, equipment and furniture and fixtures are charged to operations as
incurred. Gains and losses on routine dispositions are reflected in
other income or expense.
Accounting
principles generally require that recognized revenue, expenses, gains and losses
be included in net income. Certain changes in assets and liabilities,
such as unrealized gains and losses on available-for-sale securities and accrued
pension liabilities, are reported along with net income as the components of
comprehensive income.
Page
Thirty Seven
(k)
|
Recent
Accounting Standards
|
In
September 2006, the FASB issued Statement of Financial Accounting Standards No.
158, “Employers Accounting for Defined Benefit Pension and Other Postretirement
Plans—an amendment of FASB Statements No. 87, 88, 106 and 132R” (SFAS 158). SFAS
158 requires an employer to recognize the over-funded or under-funded status of
a defined benefit postretirement plan as an asset or liability in its statement
of financial position and to recognize changes in that funded status, through
comprehensive income, in the year in which the changes occur. The funded status
of a benefit plan will be measured as the difference between plan assets at fair
value and benefit obligation. For any other postretirement plan, the benefit
obligation is the accumulated postretirement benefit obligation. SFAS 158 also
requires an employer to measure the funded status of a plan as of the date of
its year-end statement of financial position. The Statement also requires
additional disclosures in the notes to financial statements about certain
effects on net periodic benefit cost for the next fiscal year that arise from
delayed recognition of the gains or losses, prior service costs or credits, and
transition asset or obligation. Under SFAS 158 a company is required to
initially recognize the funded status of a defined benefit postretirement plan
to provide the required disclosures as of the end of the fiscal year ending
after December 15, 2006. The requirement to measure plan assets and benefit
obligations as of the date of the employer’s fiscal year end statement of
financial position is effective for fiscal years ending after December 15, 2008.
The Grant County Bank is a member of the West Virginia Bankers' Association
Retirement Plan, a defined benefit plan under SFAS 158.
No other
recent accounting pronouncements had a material impact on the Company’s
consolidated financial statements, and it is believed that none will have a
material impact on the Company’s operations in future years.
In 2006,
the FASB issued EITF 06-04 and 06-10. This EITF requires that companies which
own life insurance policies insuring employees and for which the employees
receive a portion of the death benefits of the policies (commonly referred to as
“split dollar” policies) and for which these death benefits to the employee
continue post retirement record a liability for the present value of the cost of
these post retirement death benefits. These EITF pronouncements become effective
for Highlands Bankshares on January 1, 2008. The effects on Highlands’ financial
statements as of January 1, 2008 will be to reduce shareholders’ equity by
approximately $330,000 and increase liabilities by the same amount.
Amounts
provided for income tax expense are based on income reported for financial
statement purposes rather than amounts currently payable under federal and state
tax laws. Deferred taxes, which arise principally from differences
between the period in which certain income and expenses are recognized for
financial accounting purposes and the period in which they affect taxable
income, are included in the amounts provided for income taxes.
When tax
returns are filed, it is highly certain that some positions taken would be
sustained upon examination by the taxing authorities, while others are subject
to uncertainty about the merits of the position taken or the amount of the
position that would be ultimately sustained. The benefit of a tax
position is recognized in the financial statements in the period during which,
based on all available evidence, management believes it is more likely than not
that the position will be sustained upon examination, including the resolution
of appeals or litigation processes, if any. Tax positions taken are
not offset or aggregated with other positions. Tax positions that
meet the more-likely-than-not recognition threshold are measured as the largest
amount of tax benefit that is more than 50 percent likely of being realized upon
settlement with the applicable taxing authority. The portion of the
benefits associated with tax positions taken that exceeds the amount measured as
described above would be reflected as a liability for unrecognized tax benefits
in the accompanying balance sheet along with any associated interest and
penalties that would be payable to the taxing authorities upon
examination.
Interest
and penalties associated with unrecognized tax benefits would be classified as
additional income taxes in the statement of income.
At December 31, 2007 there was no
liability for unrecognized tax benefits
.
Advertising costs are expensed as they
are incurred. Advertising expense for the years ended December 31,
2007, 2006 and 2005 was $ 193,000, $198,000 and $158,000
respectively
.
Page
Thirty Eight
(n)
|
Bank
Owned Life Insurance Contracts
|
The
Company has invested in and owns life insurance polices on key officers. The
policies are designed so that the Company recovers the interest expenses
associated with carrying the policies and the officer will, at the time of
retirement, receive any earnings in excess of the amounts earned by the
Company.
The
Company recognizes as an asset the net amount that could be realized under the
insurance contract as of the balance sheet date. This amount represents the cash
surrender value of the policies less applicable surrender charges.
The
portion of the benefits, which will be received by the executives at the time of
their retirement, is considered, when taken collectively, to constitute a
retirement plan. Therefore the Company accounts for these policies using
guidance found in Statement of Financial Accounting Standards No. 106,
"Employers' Accounting for Post Retirement Benefits Other Than Pensions.” SFAS
No. 106 requires that an employers' obligation under a deferred compensation
agreement be accrued over the expected service life of the employee through
their normal retirement date.
(o)
|
Goodwill
and Other Intangible Assets
|
Goodwill
represents the cost in excess of the fair value of net assets acquired
(including identifiable intangibles) in transactions accounted for as
purchases. In accordance with provisions of SFAS No. 142, "Goodwill
and Other Intangible Assets", goodwill is not amortized over an estimated useful
life, but rather will be tested at least annually for impairment. As
of December 31, 2007, the Company found the goodwill acquired in the Davis
acquisition to not be impaired.
Core
deposit and other intangible assets include premiums paid for acquisitions of
core deposits (core deposit intangibles) and other identifiable intangible
assets related to business acquisitions. In addition to the intangible assets
associated with the purchase of banking organizations, the company also carries
intangible assets related to the relating to the purchase of naming rights to a
performing arts center currently under construction in Petersburg, WV. The
naming rights to this performing arts center were purchased on December 31, 2007
for $250,000 and will be amortized over a ten-year period beginning in
2008.
Intangible
assets other than goodwill, which are determined to have finite lives, are
amortized based upon the estimated economic benefits received, which is ten
years for the core deposit intangibles.
Certain
reclassifications have been made to prior period balances to conform with the
current years’ presentation format.
Note
Three: Securities
The
income derived from taxable and non-taxable securities for the years ended
December 31, 2007, 2006 and 2005 is shown below (in thousands of
dollars):
|
|
Year
Ended December 31,
|
|
|
|
2007
|
|
|
2006
|
|
|
2005
|
|
Investment
securities, taxable
|
|
$
|
1,314
|
|
|
$
|
1,095
|
|
|
$
|
707
|
|
Investment
securities, nontaxable
|
|
|
112
|
|
|
|
109
|
|
|
|
103
|
|
Page
Thirty Nine
The
Company’s balance sheet included no securities classified as Held to Maturity at
December 31, 2007. The carrying amount and estimated fair value of securities
held to maturity at December 31, 2006 is as follows (in thousands of
dollars):
Held
to Maturity Securities
|
|
|
|
Amortized
Cost
|
|
|
Unrealized
Gains
|
|
|
Unrealized
Losses
|
|
|
Fair Value
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
December
31, 2006
|
|
|
|
|
|
|
|
|
|
|
|
|
State
and municipals
|
|
$
|
170
|
|
|
$
|
--
|
|
|
$
|
--
|
|
|
$
|
170
|
|
Total
Securities Held to Maturity
|
|
$
|
170
|
|
|
$
|
--
|
|
|
$
|
--
|
|
|
$
|
170
|
|
Securities
having a carrying value of $6,859,000 at December 31, 2007 and $7,273,000 at
December 31, 2006 were pledged to secure public deposits and for other purposes
required by law.
The
carrying amount and estimated fair value of securities available for sale at
December 31, 2007 and 2006 are as follows (in thousands of
dollars):
Available
for Sale Securities
|
|
|
|
Amortized
Cost
|
|
|
Unrealized
Gains
|
|
|
Unrealized
Losses
|
|
|
Fair Value
|
|
December
31, 2007
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
U.S.
Treasuries and Agencies
|
|
$
|
15,040
|
|
|
$
|
207
|
|
|
$
|
2
|
|
|
$
|
15,245
|
|
Mortgage
backed securities
|
|
|
7,718
|
|
|
|
74
|
|
|
|
8
|
|
|
|
7,784
|
|
State
and municipals
|
|
|
3,034
|
|
|
|
8
|
|
|
|
3
|
|
|
|
3,039
|
|
Marketable
equities
|
|
|
28
|
|
|
|
---
|
|
|
|
6
|
|
|
|
22
|
|
Total
Securities Available for Sale
|
|
$
|
25,820
|
|
|
$
|
289
|
|
|
$
|
19
|
|
|
$
|
26,090
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
December
31, 2006
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
U.S.
Treasuries and Agencies
|
|
$
|
14,397
|
|
|
$
|
46
|
|
|
$
|
40
|
|
|
$
|
14,403
|
|
Mortgage
backed securities
|
|
|
6,547
|
|
|
|
32
|
|
|
|
25
|
|
|
|
6,554
|
|
State
and municipals
|
|
|
2,763
|
|
|
|
3
|
|
|
|
22
|
|
|
|
2,744
|
|
Marketable
equities
|
|
|
28
|
|
|
|
---
|
|
|
|
---
|
|
|
|
28
|
|
Total
Securities Available for Sale
|
|
$
|
23,735
|
|
|
$
|
81
|
|
|
$
|
87
|
|
|
$
|
23,729
|
|
The
carrying amount and fair value of debt securities at December 31, 2007, by
contractual maturity are shown below (in thousands of dollars). Expected
maturities will differ from contractual maturities because borrowers may have
the right to call or prepay obligations with or without call or prepayment
penalties.
Securities
Available for Sale
|
|
|
|
Amortized Cost
|
|
|
Fair Value
|
|
Due
in one year or less
|
|
$
|
7,705
|
|
|
$
|
7,583
|
|
Due
after one year through five years
|
|
|
9,839
|
|
|
|
10,169
|
|
Due
after five years through ten years
|
|
|
530
|
|
|
|
532
|
|
Mortgage
backed securities
|
|
|
7,718
|
|
|
|
7,784
|
|
Equity
securities with no maturity
|
|
|
28
|
|
|
|
22
|
|
|
|
|
|
|
|
|
|
|
Total
Securities Available for Sale
|
|
$
|
25,820
|
|
|
$
|
26,090
|
|
Information
pertaining to securities with gross unrealized losses at December 31, 2007 and
2006, aggregated by investment category and length of time that individual
securities have been in a continuous loss position is shown in the table below
(in thousands of dollars):
|
|
Total
|
|
|
Less
than 12 Months
|
|
|
12
Months or Greater
|
|
|
|
Fair
Value
|
|
|
Gross
Unrealized
Losses
|
|
|
Fair
Value
|
|
|
Gross
Unrealized
Losses
|
|
|
Fair
Value
|
|
|
Gross
Unrealized
Losses
|
|
December
31, 2007
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Investment
Category
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
U.S.
Treasury and Agency
|
|
$
|
1,497
|
|
|
$
|
(2
|
)
|
|
$
|
0
|
|
|
$
|
0
|
|
|
$
|
1,497
|
|
|
$
|
(2
|
)
|
Mortgage
backed securities
|
|
|
2,574
|
|
|
|
(8
|
)
|
|
|
1,005
|
|
|
|
(1
|
)
|
|
|
1,569
|
|
|
|
(7
|
)
|
State
and municipals
|
|
|
575
|
|
|
|
(3
|
)
|
|
|
0
|
|
|
|
0
|
|
|
|
575
|
|
|
|
(3
|
)
|
Other
equity securities
|
|
|
22
|
|
|
|
(6
|
)
|
|
|
22
|
|
|
|
(6
|
)
|
|
|
0
|
|
|
|
0
|
|
Total
|
|
$
|
4,668
|
|
|
$
|
(19
|
)
|
|
$
|
1,027
|
|
|
$
|
(7
|
)
|
|
$
|
3,641
|
|
|
$
|
(12
|
)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
December
31, 2006
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Investment
Category
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
U.S.
Treasury and Agency
|
|
$
|
9,635
|
|
|
$
|
(40
|
)
|
|
$
|
3,426
|
|
|
$
|
(6
|
)
|
|
$
|
6,209
|
|
|
$
|
(34
|
)
|
Mortgage
backed securities
|
|
|
3,233
|
|
|
|
(25
|
)
|
|
|
34
|
|
|
|
(1
|
)
|
|
|
3,199
|
|
|
|
(24
|
)
|
State
and municipals
|
|
|
2,106
|
|
|
|
(22
|
)
|
|
|
891
|
|
|
|
(7
|
)
|
|
|
1,215
|
|
|
|
(15
|
)
|
Total
|
|
$
|
14,974
|
|
|
$
|
(87
|
)
|
|
$
|
4,351
|
|
|
$
|
(14
|
)
|
|
$
|
10,623
|
|
|
$
|
(73
|
)
|
The
number of securities available for sale that were in an unrealized loss position
at December 31, 2007 is summarized in the table below:
|
|
Total
|
|
|
Loss
Position less than 12
Months
|
|
|
Loss
Position greater than 12
Months
|
|
U.S.
Treasuries and Agencies
|
|
|
3
|
|
|
|
0
|
|
|
|
3
|
|
Mortgage
backed securities
|
|
|
9
|
|
|
|
2
|
|
|
|
7
|
|
States
and municipals
|
|
|
3
|
|
|
|
0
|
|
|
|
3
|
|
Other
equity securities
|
|
|
1
|
|
|
|
1
|
|
|
|
0
|
|
Total
|
|
|
16
|
|
|
|
3
|
|
|
|
13
|
|
It is
management’s determination that all securities held at December 31, 2007, which
have fair values less than the amortized cost, have gross unrealized losses
related to increases in the current interest rates for similar issues of
securities, and that no material impairment for any securities in the portfolio
exists because of downgrades of the securities or as a result of a change in the
financial condition of any of the issuers.
Page
Forty One
Note
Four: Restricted Investments
Restricted
investments at December 31, 2007 consist of investments in the Federal Reserve
Bank (FRB), Federal Home Loan Bank (FHLB) and West Virginia Bankers’ Title
Insurance Company. These investments are carried at face value. The level of
investments in the FRB and FHLB is dictated by the level of participation with
each institution. All of these investments are restricted as to transferability.
Investments in the FHLB act as a collateral against the outstanding borrowings
from that institution.
Note
Five: Loans
Loans
outstanding as of December 31, 2007 and 2006 are summarized as follows (in
thousands of dollars):
|
|
2007
|
|
|
2006
|
|
Commercial
|
|
$
|
79,892
|
|
|
$
|
70,408
|
|
Real
Estate Construction
|
|
|
15,560
|
|
|
|
14,828
|
|
Real
Estate Mortgage
|
|
|
169,122
|
|
|
|
164,243
|
|
Consumer
Installment
|
|
|
45,625
|
|
|
|
43,337
|
|
Total
Loans
|
|
$
|
310,199
|
|
|
$
|
292,816
|
|
The
following is a summary of information pertaining to impaired and non accrual
loans at December 31, 2007, 2006 and 2005 (in thousands of
dollars):
|
|
2007
|
|
|
2006
|
|
|
2005
|
|
Year
end balance, impaired loans
|
|
$
|
1,216
|
|
|
$
|
1,895
|
|
|
$
|
1,494
|
|
Allowance
for impairments, year end
|
|
|
243
|
|
|
|
720
|
|
|
|
353
|
|
Average
balance impaired loans, year ended December 31
|
|
|
1,995
|
|
|
|
1,773
|
|
|
|
1,576
|
|
Income
recorded on impaired loans, year ended December 31
|
|
|
160
|
|
|
|
131
|
|
|
|
104
|
|
No loans
were identified as impaired as of December 31 2007 or 2006 for which an
allowance was not provided.
Certain
loans identified as impaired are placed into non-accrual status, based upon the
loans’ performance compared with contractual terms. Not all loans identified as
impaired are placed upon non-accrual status. The interest on loans identified as
impaired and also placed in non-accrual status and not recognized as income
throughout the year was of an immaterial amount in both 2007 and
2006.
Balances
of non-accrual loans and loans past due ninety days or greater and still
accruing interest at December 31, 2007 and 2006 are shown below (in thousands of
dollars):
|
|
2007
|
|
|
2006
|
|
Non-accrual
loans at year end
|
|
$
|
916
|
|
|
$
|
244
|
|
Loans
past due ninety days or greater and still accruing interest at year
end
|
|
|
2,244
|
|
|
|
1,457
|
|
Page
Forty Two
Note
Six: Allowance For Loan Losses
A summary
of the changes in the allowance for loan losses for the years ended December 31,
2007, 2006 and 2005 is show below (in thousands of dollars):
|
|
2007
|
|
|
2006
|
|
|
2005
|
|
Balance
at beginning of year
|
|
$
|
3,482
|
|
|
$
|
3,129
|
|
|
$
|
2,530
|
|
Provision
charged to operating expenses
|
|
|
837
|
|
|
|
682
|
|
|
|
875
|
|
Other
additions
|
|
|
0
|
|
|
|
0
|
|
|
|
166
|
|
Loan
recoveries
|
|
|
339
|
|
|
|
250
|
|
|
|
178
|
|
Loans
charged off
|
|
|
(1,081
|
)
|
|
|
(579
|
)
|
|
|
(620
|
)
|
Balance
at end of year
|
|
$
|
3,577
|
|
|
$
|
3,482
|
|
|
$
|
3,129
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Allowance
for Loan Losses as percentage of outstanding loans at year
end
|
|
|
1.15
|
%
|
|
|
1.19
|
%
|
|
|
1.16
|
%
|
Note
Seven: Bank Premises and Equipment
Bank
premises and equipment as of December 31, 2007 and 2006 are summarized as
follows (in thousands of dollars):
|
|
2007
|
|
|
2006
|
|
Land
|
|
$
|
1,549
|
|
|
$
|
1,398
|
|
Buildings
and improvements
|
|
|
7,963
|
|
|
|
7,897
|
|
Furniture
and equipment
|
|
|
4,789
|
|
|
|
5,415
|
|
|
|
|
|
|
|
|
|
|
Total
Cost
|
|
|
14,301
|
|
|
|
14,710
|
|
Less
accumulated depreciation
|
|
|
(6,197
|
)
|
|
|
(6,579
|
)
|
|
|
|
|
|
|
|
|
|
Net
Book Value
|
|
$
|
8,104
|
|
|
$
|
8,131
|
|
Provisions
for depreciation charged to operations during 2007, 2006 and 2005 were as
follows (in thousands of dollars):
Year
|
|
Provision
for
Depreciation
|
|
2007
|
|
$
|
704
|
|
2006
|
|
|
691
|
|
2005
|
|
|
692
|
|
Page
Forty Three
Note
Eight: Deposits
At
December 31, 2007, the scheduled maturities of time deposits were as follows (in
thousands of dollars):
Year
|
|
Amount Maturing
|
|
2008
|
|
$
|
148,618
|
|
2009
|
|
|
24,968
|
|
2010
|
|
|
10,219
|
|
2011
|
|
|
10,133
|
|
2012
|
|
|
7,459
|
|
Total
|
|
$
|
201,397
|
|
Interest
expense on time deposits of $100,000 and over aggregated $3,078,000, $2,042,000
and $1,453,000 for 2007, 2006 and 2005, respectively.
The
aggregate amount of demand deposit overdrafts reclassified as loan balances were
$285,000 and $138,000 at December 31, 2007 and 2006, respectively.
Note
Nine: Borrowed Money
The
Company has borrowed money from the Federal Home Loan Bank of Pittsburgh (FHLB).
These borrowings have typically been for maturities of six months or longer. The
various borrowings mature from 2008 to 2020. The interest rates on
the various borrowings at December 31, 2007 range from 3.80% to 6.12%. The
weighted average interest rate on the borrowings at December 31, 2007 was 4.54%.
The Company has total borrowing capacity from the FHLB of $181,099,000. The
Banks have pledged certain investments and mortgage loans as collateral on the
FHLB borrowings in the approximate amount of $ 181,224,000 at December 31,
2007.
The
subsidiary Banks also have short term borrowing capacity from each of their
respective correspondent banks. As of December 31, 2007 the Company has total
borrowing capacity from its correspondent banks of $31,200,000. The interest
rates on these lines are variable and are subject to change daily based on
current market conditions.
Repayments
of long-term debt are due monthly, quarterly or in a single payment at maturity.
The maturities of long-term debt as of December 31, 2007 are as follows (in
thousands of dollars):
Year
|
|
Balance
|
|
2008
|
|
$
|
580
|
|
2009
|
|
|
460
|
|
2010
|
|
|
1,481
|
|
2011
|
|
|
1,263
|
|
2012
|
|
|
5,703
|
|
Thereafter
|
|
|
2,332
|
|
Total
|
|
$
|
11,819
|
|
Page
Forty Four
Note
Ten: Restrictions on Dividends of Subsidiary Banks
The
principal source of funds of Highlands Bankshares, Inc. is dividends paid by its
subsidiary Banks. The various regulatory authorities impose
restrictions on dividends paid by a state bank. A state bank cannot
pay dividends (without the consent of state banking authorities) in excess of
the total net profits (net income less dividends paid) of the current year to
date and the combined retained profits of the previous two years. As of January
1, 2008, the Banks could pay dividends to Highlands Bankshares, Inc. of
approximately $6,505,000 without permission of the regulatory
authorities.
Note
Eleven: Income Tax Expense
Highlands
files an income tax return in the U.S. federal jurisdiction and an income tax
return in the State of West Virginia. With few exceptions, the Company is no
longer subject to U.S. federal, state or local income tax examinations by tax
authorities for years before 2004.
The
Company adopted the provisions of FASB Interpretations No. 48,
Accounting for Uncertainty in Income
Taxes
, on January 1, 2007 with no impact on the financial
statements.
Included
in the balance sheet at December 31, 2007 are tax positions related to loan
charge offs for which the ultimate deductibility is highly certain but for which
there is uncertainty about the timing of such deductibility. Because
of the impact of deferred tax accounting, other than interest and penalties, the
disallowance of the shorter deductibility period would not affect the annual
effective tax rate but would accelerate the payment of cash to the taxing
authority to an earlier period.
The
components of income tax expense for the years ended December 31, 2007, 2006 and
2005 are summarized in the table below (in thousands of dollars):
|
|
2007
|
|
|
2006
|
|
|
2005
|
|
Current
Expense
|
|
|
|
|
|
|
|
|
|
Federal
|
|
$
|
2,400
|
|
|
$
|
2,154
|
|
|
$
|
1,814
|
|
State
|
|
|
330
|
|
|
|
352
|
|
|
|
272
|
|
Total
Current Expense
|
|
|
2,730
|
|
|
|
2,506
|
|
|
|
2,086
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Deferred
Expense (Benefit)
|
|
|
|
|
|
|
|
|
|
|
|
|
Federal
|
|
|
(121
|
)
|
|
|
(107
|
)
|
|
|
(149
|
)
|
State
|
|
|
(10
|
)
|
|
|
(8
|
)
|
|
|
(21
|
)
|
Total
Current Expense (Benefit)
|
|
|
(131
|
)
|
|
|
(115
|
)
|
|
|
(170
|
)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Income
Tax Expense
|
|
$
|
2,599
|
|
|
$
|
2,391
|
|
|
$
|
1,916
|
|
The
deferred tax effects of temporary differences for the years ended December 31,
2007, 2006 and 2005 are as follows (in thousands of dollars):
|
|
2007
|
|
|
2006
|
|
|
2005
|
|
Provision
for loan losses
|
|
$
|
(18
|
)
|
|
$
|
(140
|
)
|
|
$
|
(193
|
)
|
Depreciation
|
|
|
(45
|
)
|
|
|
(45
|
)
|
|
|
(45
|
)
|
Deferred
compensation
|
|
|
(59
|
)
|
|
|
(39
|
)
|
|
|
59
|
|
Loss
carry forward
|
|
|
0
|
|
|
|
71
|
|
|
|
0
|
|
Miscellaneous
|
|
|
(9
|
)
|
|
|
38
|
|
|
|
9
|
|
Net
(increase) decrease in deferred income tax benefit
|
|
$
|
(131
|
)
|
|
$
|
(115
|
)
|
|
$
|
(170
|
)
|
Page
Forty Five
The net
deferred tax assets arising from temporary differences as of December 31, 2007
and 2006 are as follows (in thousands of dollars):
|
|
2007
|
|
|
2006
|
|
Deferred
Tax Assets
|
|
|
|
|
|
|
Provision
for loan losses
|
|
$
|
1,022
|
|
|
$
|
1,008
|
|
Insurance
commissions
|
|
|
41
|
|
|
|
39
|
|
Deferred
compensation
|
|
|
870
|
|
|
|
817
|
|
Pension
obligation
|
|
|
175
|
|
|
|
244
|
|
Unrealized
loss on securities available for sale
|
|
|
|
|
|
|
1
|
|
Other
|
|
|
16
|
|
|
|
4
|
|
Total
Assets
|
|
|
2,124
|
|
|
|
2,113
|
|
|
|
|
|
|
|
|
|
|
Deferred
Tax Liabilities
|
|
|
|
|
|
|
|
|
Accretion
income
|
|
|
70
|
|
|
|
69
|
|
Unrealized
gain on securities available for sale
|
|
|
101
|
|
|
|
0
|
|
Depreciation
|
|
|
352
|
|
|
|
397
|
|
Total
Liabilities
|
|
|
523
|
|
|
|
466
|
|
|
|
|
|
|
|
|
|
|
Net
Deferred Tax Asset
|
|
$
|
1,601
|
|
|
$
|
1,647
|
|
The
following table summarizes the differences between income tax expense and the
amount computed by applying the federal statutory rate for the three years ended
December 31, 2007, 2006 and 2005 (in thousands of dollars):
|
|
2007
|
|
|
2006
|
|
|
2005
|
|
Amounts
at federal statutory rates
|
|
$
|
2,466
|
|
|
$
|
2,348
|
|
|
$
|
1,944
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Additions
(reductions) resulting from:
|
|
|
|
|
|
|
|
|
|
|
|
|
Tax
exempt income
|
|
|
(38
|
)
|
|
|
(63
|
)
|
|
|
(50
|
)
|
Partially
exempt income
|
|
|
(26
|
)
|
|
|
(25
|
)
|
|
|
(40
|
)
|
State
income taxes, net
|
|
|
208
|
|
|
|
222
|
|
|
|
178
|
|
Income
from life insurance contracts
|
|
|
(89
|
)
|
|
|
(143
|
)
|
|
|
(91
|
)
|
Non
deductible income related to branch acquisitions
|
|
|
68
|
|
|
|
68
|
|
|
|
3
|
|
Other
|
|
|
10
|
|
|
|
(16
|
)
|
|
|
(22
|
)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Income
tax expense
|
|
$
|
2,599
|
|
|
$
|
2,391
|
|
|
$
|
1,916
|
|
Page
Forty Six
Note
Twelve: Transactions with Related Parties
During
the year, officers and directors (and companies controlled by them) of the
Company and subsidiary Banks were customers of and had transactions with the
subsidiary Banks in the normal course of business. These transactions
were made on substantially the same terms as those prevailing for other
customers and did not involve any abnormal risk. Aggregate loan balances include
open lines of credit, which are included in the balances above inclusive of
unused amounts. The table below summarizes changes to balances of loans made to
related parties during the years ended December 31, 2007 and 2006 (in thousands
of dollars):
|
|
2007
|
|
|
2006
|
|
Loans
to related parties, beginning of year
|
|
$
|
5,143
|
|
|
$
|
5,065
|
|
New
loans
|
|
|
719
|
|
|
|
549
|
|
Repayments
|
|
|
(679
|
)
|
|
|
(558
|
)
|
Other
changes related to changes in executive officer or director
status
|
|
|
0
|
|
|
|
87
|
|
Loans
to related parties, end of year
|
|
$
|
5,183
|
|
|
$
|
5,143
|
|
At
December 31, 2007, deposits of related parties including directors, executive
officers, and their related interests of Highlands Bankshares, Inc. and
subsidiaries approximated $7,465,000, and at December 31, 2006, deposits of
related parties including directors, executive officers, and their related
interests of Highlands Bankshares, Inc. and subsidiaries approximated
$6,665,000.
Note
Thirteen: Concentrations
The Banks
grant commercial, residential real estate and consumer loans to customers
located primarily in the eastern portion of the State of West
Virginia. Although the Banks have a diversified loan portfolio, a
substantial portion of the debtors' ability to honor their contracts is
dependent upon the agribusiness, mining, trucking and logging
sectors. Collateral required by the Banks is determined on an
individual basis depending on the purpose of the loan and the financial
condition of the borrower. The ultimate collectibility of the loan
portfolios is susceptible to changes in local economic conditions. Of
the $310,199,000 and $292,816,000 loans held by the Company at December 31, 2007
and 2006, respectively, $240,208,000 and $226,313,000 are secured by real
estate.
The
Company’s subsidiaries had cash deposited in and federal funds sold to other
commercial banks totaling $16,599,000 and $14,192,000 at December 31, 2007 and
2006, respectively. Deposits with other correspondent banks are generally
unsecured and have limited insurance under current banking insurance
regulations, which management considers to be a normal business
risk.
Note
Fourteen: Employee Benefits
In
addition to an Employee Stock Ownership Plan (ESOP), which provides stock
ownership to all employees of the Company, the Company’s two subsidiary Banks,
The Grant County Bank (Grant) and Capon Valley Bank (Capon) have separate
retirement and profit sharing plans which cover substantially all full time
employees at each Bank. A summary of the employee benefits provided by each Bank
is provided below.
The
Company’s ESOP plan provides stock ownership to all employees of the
Company. The Plan provides total vesting upon the attainment of seven
years of service. Contributions to the plan are made at the
discretion of the board of directors and are allocated based on the compensation
of each employee relative to total compensation paid by the
Company. All shares held by the Plan are considered outstanding in
the computation of earnings per share. Shares of Company stock, when
distributed, will have restrictions on transferability.
Certain
executives of both Grant and Capon have post retirement benefits related to the
Banks’ investment in life insurance policies (see Note Twenty).
Expenses
related to all retirement benefit plans charged to operations totaled $762,000
in 2007, $832,000 in 2006 and $505,000 in 2005.
Page
Forty Seven
Capon Valley
Bank
Capon has
a defined contribution pension plan with 401(k) features that is funded with
discretionary contributions. Capon matches on a limited basis the contributions
of the employees. Investment of employee balances is done through the direction
of each employee. Employer contributions are vested over a six-year
period.
The Grant County
Bank
Grant is
a member of the West Virginia Bankers’ Association Retirement Plan (“the Plan”).
This plan is a defined benefit plan with benefits under the plan based on
compensation and years of service with full vesting after seven years of
service. Prior to 2002, the Plan’s assets were in excess of the projected
benefit obligations and thus Grant was not required to make contributions to the
Plan. Since 2004, Grant has been required to make contributions and expects to
be required to make contributions in 2008. At December 31, 2007, Grant has
recognized liabilities of $481,000 relating to unfunded pension liabilities.
As a result of the Plan’s inability to meet expected returns in
recent years, a portion of this liability is reflected as a decrease in other
comprehensive income of $456,000 (net of $267,000 tax benefit).
The
following table provides a reconciliation of the changes in the Plan’s
obligations and fair value of assets as of December 31, 2007 and 2006 using a
measurement date of November 1, 2007 (in thousands of dollars):
|
|
2007
|
|
|
2006
|
|
Change in Benefit
Obligation
|
|
|
|
|
|
|
Benefit
obligation, beginning
|
|
$
|
3,527
|
|
|
$
|
3,310
|
|
Service
Cost
|
|
|
139
|
|
|
|
131
|
|
Interest
Cost
|
|
|
222
|
|
|
|
192
|
|
Actuarial
Loss (Gain)
|
|
|
70
|
|
|
|
(52
|
)
|
Benefits
Paid
|
|
|
(99
|
)
|
|
|
(54
|
)
|
Benefit
obligation, ending
|
|
$
|
3,859
|
|
|
$
|
3,527
|
|
|
|
|
|
|
|
|
|
|
Accumulated
Benefit Obligation
|
|
$
|
3,310
|
|
|
$
|
3,088
|
|
|
|
|
|
|
|
|
|
|
Change in Plan
Assets
|
|
|
|
|
|
|
|
|
Fair
value of assets, beginning
|
|
$
|
2,861
|
|
|
$
|
2,422
|
|
Actual
return on assets, net of administrative expenses
|
|
|
433
|
|
|
|
307
|
|
Employer
contributions
|
|
|
186
|
|
|
|
186
|
|
Benefits
paid
|
|
|
(99
|
)
|
|
|
(54
|
)
|
Fair
value of assets, ending
|
|
$
|
3,381
|
|
|
$
|
2,861
|
|
|
|
|
|
|
|
|
|
|
Funded
Status
|
|
|
|
|
|
|
|
|
Fair
value of plan assets
|
|
$
|
3,381
|
|
|
$
|
2,861
|
|
Projected
benefit obligation
|
|
|
3,859
|
|
|
|
3,527
|
|
Funded
status
|
|
|
(478
|
)
|
|
|
(666
|
)
|
|
|
|
|
|
|
|
|
|
Liabilities
Recognized in the Statement of Financial Position
|
|
$
|
(478
|
)
|
|
$
|
(666
|
)
|
|
|
|
|
|
|
|
|
|
Amounts
Recognized in Accumulated Other Comprehensive Income
|
|
|
|
|
|
|
|
|
Transition
Obligation (Asset)
|
|
|
|
|
|
|
|
|
Prior
Service Cost
|
|
$
|
3
|
|
|
$
|
14
|
|
Net
(Gain)/Loss
|
|
|
720
|
|
|
|
914
|
|
Total
|
|
$
|
723
|
|
|
$
|
928
|
|
Page
Forty Eight
The
following table provides the components of the net periodic pension expense for
the Plan for the years ended December 31, 2007, 2006 and 2005 (in thousands of
dollars):
|
|
2007
|
|
|
2006
|
|
|
2005
|
|
Service
cost
|
|
$
|
139
|
|
|
$
|
131
|
|
|
$
|
123
|
|
Interest
cost
|
|
|
221
|
|
|
|
192
|
|
|
|
179
|
|
Expected
return on plan assets
|
|
|
(235
|
)
|
|
|
(212
|
)
|
|
|
(176
|
)
|
Amortization
of net obligation at transition
|
|
|
|
|
|
|
|
|
|
|
|
|
Recognized
net actuarial loss
|
|
|
66
|
|
|
|
61
|
|
|
|
27
|
|
Amortization
of prior service cost
|
|
|
11
|
|
|
|
11
|
|
|
|
11
|
|
Net
Periodic Pension Expense
|
|
$
|
202
|
|
|
$
|
183
|
|
|
$
|
164
|
|
The
expected pension expense for 2008 is $153,000. The amount of the Company’s
minimum contribution for 2008 is $250,000.
The table
below summarizes the benefits expected to be paid to participants in the plan
(in thousands of dollars):
Year
|
|
Expected
Benefit
Payments
|
2008
|
|
$111
|
2009
|
|
144
|
2010
|
|
149
|
2011
|
|
167
|
2012
|
|
181
|
Years
2013 - 2017
|
|
1,388
|
The
weighted average assumption used in the measurement of Grant’s benefit
obligation and net periodic pension expense is as follows:
|
|
2007
|
|
|
2006
|
|
|
2005
|
|
Discount
rate
|
|
|
6.00
|
%
|
|
|
5.75
|
%
|
|
|
6.5
|
%
|
Expected
return on plan assets
|
|
|
8.50
|
%
|
|
|
8.50
|
%
|
|
|
8.50
|
%
|
Rate
of compensation increase
|
|
|
3.00
|
%
|
|
|
3.00
|
%
|
|
|
3.50
|
%
|
The plan
sponsor estimates the expected long-term rate of return on assets in
consultation with their advisors and the plan actuary. This rate is
intended to reflect the average rate of earnings expected to be earned on the
funds invested or to be invested to provide plan benefits. Historical
performance is reviewed, especially with respect to real rate of return (net of
inflation) for the major asset classes held or anticipated to be held by the
trust. Undue weight is not given to recent experience, which may not
continue over the measurement period, with higher significance placed on current
forecasts of future long-term economic conditions.
Page
Forty Nine
The
following table provides the pension plan’s asset allocation as of December 31,
2007 and 2006:
|
|
2007
|
|
|
2006
|
|
Equity
Securities
|
|
|
68
|
%
|
|
|
74
|
%
|
Debt
Securities
|
|
|
27
|
%
|
|
|
20
|
%
|
Other
|
|
|
5
|
%
|
|
|
6
|
%
|
The trust
fund is sufficiently diversified to maintain a reasonable level of risk without
imprudently sacrificing return. The targeted asset allocation and allowable
range of allocation is set forth in the table below:
|
|
Target Allocation
|
|
Allowable Allocation
Range
|
Equity
Securities
|
|
70%
|
|
40%-80%
|
Debt
Securities
|
|
25%
|
|
20%-40%
|
Other
|
|
5%
|
|
3%-10%
|
The
Investment Manager selects investment fund managers with demonstrated experience
and expertise, and funds with demonstrated historical performance, for the
implementation of the Plan’s investment strategy. The Investment
Manager will consider both actively and passively managed investment strategies
and will allocate funds across the asset classes to develop an efficient
investment structure.
The Grant
County Bank also maintains a profit sharing plan covering substantially all
employees to which contributions are made at the discretion of the board of
directors. Portions of employer contributions to this plan are, at
individual employees’ discretion, available to employees as immediate cash
payment while portions are allocated for deferred payment to the employee. The
portions of the plan contribution by the employer which are allocated for
deferred payment to the employee are vested over a five year
period.
Note
Fifteen: Commitments and Guarantees
The Banks
make commitments to extend credit in the normal course of business and issue
standby letters of credit to meet the financing needs of their
customers. The amount of the commitments represents the Banks'
exposure to credit loss that is not included in the balance sheet.
The Banks
use the same credit policies in making commitments and issuing letters of credit
as used for the loans reflected in the balance sheet. Commitments to extend
credit are agreements to lend to a customer as long as there is no violation of
any condition established in the contract. Commitments generally have
fixed expiration dates or other termination clauses and may require payment of a
fee. Since many of the commitments are expected to expire without
being drawn upon, the total commitment amounts do not necessarily represent
future cash requirements. The Banks evaluate each customer's
creditworthiness on a case-by-case basis. The amount of collateral
obtained, if deemed necessary by the Banks upon the extension of credit, is
based on management's credit evaluation of the borrower. Collateral
held varies but may include accounts receivable, inventory, property, plant and
equipment.
As of
December 31, 2007 and 2006, the Banks had outstanding the following commitments
(in thousands of dollars):
|
|
2007
|
|
|
2006
|
|
Commitments
to extend credit
|
|
$
|
20,536
|
|
|
$
|
18,933
|
|
Standby
letter of credit
|
|
|
709
|
|
|
|
957
|
|
Page
Fifty
Note
Sixteen: Disclosures About Fair Value of Financial
Instruments
The fair
value of the Company's assets and liabilities is influenced heavily by market
conditions. Fair value applies to both assets and liabilities, either
on or off the balance sheet. Fair value is defined as the amount at
which a financial instrument could be exchanged in a current transaction between
willing parties, other than in a forced or liquidation sale.
The
following methods and assumptions were used to estimate the fair value of each
class of financial instruments for which it is practicable to estimate that
value:
Cash, Due from Banks and
Money Market Investments
The
carrying amount of cash, due from bank balances, interest bearing deposits and
federal funds sold is a reasonable estimate of fair value.
Securities
Fair
values of securities are based on quoted market prices or dealer
quotes. If a quoted market price is not available, fair value is
estimated using quoted market prices for similar securities.
Restricted
Investments
The
carrying amount of restricted investments is a reasonable estimate of fair
value.
Loans
The fair
value of loans is estimated by discounting the future cash flows using the
current rates at which similar loans would be made to borrowers with similar
credit ratings and for the same remaining maturities, taking into consideration
the credit risk in various loan categories.
Deposits
The fair
value of demand, interest checking, regular savings and money market deposits is
the amount payable on demand at the reporting date. The fair value of
fixed maturity certificates of deposit is estimated using the rates currently
offered for deposits of similar remaining maturities.
Long Term
Debt
The fair
value of fixed rate loans is estimated using the rates currently offered by the
Federal Home Loan Bank for indebtedness with similar maturities.
Short Term
Debt
The fair
value of short-term variable rate debt is deemed to be equal to the carrying
value.
Interest Payable and
Receivable
The
carrying value of amounts of interest receivable and payable is a reasonable
estimate of fair value.
Life
Insurance
The
carrying amount of life insurance contracts is assumed to be a reasonable fair
value. Life insurance contracts are carried on the balance sheet at their
redemption value as of December 31, 2007. This redemption value is
based on existing market conditions and therefore represents the fair value of
the contract.
Off-Balance-Sheet
Items
The
carrying amount and estimated fair value of off-balance-sheet items were not
material at December 31, 2007 or 2006.
Page
Fifty One
The
carrying amount and estimated fair values of financial instruments as of
December 31, 2007 and 2006 are as follows (in thousands of
dollars):
|
|
2007
|
|
|
2006
|
|
|
|
Carrying
Amount
|
|
|
Estimated
Fair Value
|
|
|
Carrying
Amount
|
|
|
Estimated
Fair Value
|
|
Financial
Assets:
|
|
|
|
|
|
|
|
|
|
|
|
|
Cash
and due from banks
|
|
$
|
7,935
|
|
|
$
|
7,935
|
|
|
$
|
7,111
|
|
|
$
|
7,111
|
|
Interest
bearing deposits
|
|
|
1,853
|
|
|
|
1,853
|
|
|
|
1,624
|
|
|
|
1,624
|
|
Federal
funds sold
|
|
|
14,246
|
|
|
|
14,246
|
|
|
|
12,210
|
|
|
|
12,210
|
|
Securities
held to maturity
|
|
|
0
|
|
|
|
0
|
|
|
|
170
|
|
|
|
170
|
|
Securities
available for sale
|
|
|
26,090
|
|
|
|
26,090
|
|
|
|
23,729
|
|
|
|
23,729
|
|
Restricted
investments
|
|
|
1,498
|
|
|
|
1,498
|
|
|
|
1,570
|
|
|
|
1,570
|
|
Loans,
net
|
|
|
310,199
|
|
|
|
311,217
|
|
|
|
292,816
|
|
|
|
293,661
|
|
Interest
receivable
|
|
|
2,273
|
|
|
|
2,273
|
|
|
|
2,173
|
|
|
|
2,173
|
|
Life
insurance contracts
|
|
|
6,300
|
|
|
|
6,300
|
|
|
|
6,066
|
|
|
|
6,066
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Financial
Liabilities:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Demand
and savings deposits
|
|
|
122,341
|
|
|
|
122,341
|
|
|
|
118,316
|
|
|
|
118,316
|
|
Time
deposits
|
|
|
201,397
|
|
|
|
203,414
|
|
|
|
182,168
|
|
|
|
183,505
|
|
Long
term debt
|
|
|
11,819
|
|
|
|
11,921
|
|
|
|
14,992
|
|
|
|
14,641
|
|
Interest
payable
|
|
|
1,132
|
|
|
|
1,132
|
|
|
|
1,014
|
|
|
|
1,014
|
|
Note
Seventeen: Regulatory Matters
The
Company is subject to various regulatory capital requirements administered by
the federal banking agencies. Failure to meet minimum capital
requirements can initiate certain mandatory - and possibly additional
discretionary - actions by regulators that, if undertaken, could have a direct
material effect on the Company's financial statements. Under capital adequacy
guidelines and the regulatory framework for prompt corrective action, the
Company must meet specific capital guidelines that involve quantitative measures
of the Company's assets, liabilities, and certain off-balance-sheet items as
calculated under regulatory accounting practices. The Company's
capital amounts and classification are also subject to qualitative judgments by
the regulators about components, risk weightings and other factors.
Quantitative
measures established by regulation to ensure capital adequacy require the
Company 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). The Company meets all capital adequacy requirements to
which it is subject and as of the most recent examination, the Company was
classified as well capitalized.
To be
categorized as well capitalized the Company 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 that management believes
have changed the Company's category from a well-capitalized status.
Page
Fifty Two
The
Company’s actual and required capital amounts and ratios at December 31, 2007is
presented in the following table (in thousands of dollars):
|
|
December
31, 2007
|
|
|
|
|
|
|
|
|
|
Regulatory
Requirements
|
|
|
|
Actual
|
|
|
Adequately
Capitalized
|
|
|
Well
Capitalized
|
|
|
|
Amount
|
|
|
Percentage
|
|
|
Amount
|
|
|
Percentage
|
|
|
Amount
|
|
|
Percentage
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total Risk Based Capital
Ratio
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Highlands
Bankshares
|
|
$
|
41,329
|
|
|
|
14.53
|
%
|
|
$
|
22,754
|
|
|
|
8.00
|
%
|
|
|
|
|
|
|
Capon
Valley Bank
|
|
|
15,334
|
|
|
|
14.78
|
%
|
|
|
8,299
|
|
|
|
8.00
|
%
|
|
$
|
10,374
|
|
|
|
10.00
|
%
|
The
Grant County Bank
|
|
|
23,877
|
|
|
|
13.23
|
%
|
|
|
14,437
|
|
|
|
8.00
|
%
|
|
|
18,047
|
|
|
|
10.00
|
%
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Tier 1 Leverage Ratio
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Highlands
Bankshares
|
|
|
37,773
|
|
|
|
9.95
|
%
|
|
|
15,185
|
|
|
|
4.00
|
%
|
|
|
|
|
|
|
|
|
Capon
Valley Bank
|
|
|
14,035
|
|
|
|
10.00
|
%
|
|
|
5,611
|
|
|
|
4.00
|
%
|
|
|
7,014
|
|
|
|
5.00
|
%
|
The
Grant County Bank
|
|
|
21,816
|
|
|
|
9.09
|
%
|
|
|
9,598
|
|
|
|
4.00
|
%
|
|
|
11,997
|
|
|
|
5.00
|
%
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Tier 1 Risk Based Capital
Ratio
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Highlands
Bankshares
|
|
|
37,773
|
|
|
|
13.28
|
%
|
|
|
11,377
|
|
|
|
4.00
|
%
|
|
|
|
|
|
|
|
|
Capon
Valley Bank
|
|
|
14,035
|
|
|
|
13.53
|
%
|
|
|
4,150
|
|
|
|
4.00
|
%
|
|
|
6,225
|
|
|
|
6.00
|
%
|
The
Grant County Bank
|
|
|
21,816
|
|
|
|
12.09
|
%
|
|
|
7,219
|
|
|
|
4.00
|
%
|
|
|
10,828
|
|
|
|
6.00
|
%
|
The
Company’s actual and required capital amounts and ratios at December 31, 2006 is
presented in the following table (in thousands of dollars):
|
|
December
31, 2006
|
|
|
|
|
|
|
|
|
|
Regulatory
Requirements
|
|
|
|
Actual
|
|
|
Adequately
Capitalized
|
|
|
Well
Capitalized
|
|
`
|
|
Amount
|
|
|
Percentage
|
|
|
Amount
|
|
|
Percentage
|
|
|
Amount
|
|
|
Percentage
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total
Risk Based Capital Ratio
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Highlands
Bankshares
|
|
$
|
35,692
|
|
|
|
13.45
|
%
|
|
$
|
21,231
|
|
|
|
8.00
|
%
|
|
|
|
|
|
|
Capon
Valley Bank
|
|
|
14,237
|
|
|
|
14.56
|
%
|
|
|
7,825
|
|
|
|
8.00
|
%
|
|
$
|
9,781
|
|
|
|
10.00
|
%
|
The
Grant County Bank
|
|
|
21,151
|
|
|
|
12.63
|
%
|
|
|
13,395
|
|
|
|
8.00
|
%
|
|
|
16,744
|
|
|
|
10.00
|
%
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Tier
1 Leverage Ratio
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Highlands
Bankshares
|
|
|
32,392
|
|
|
|
9.26
|
%
|
|
|
13,998
|
|
|
|
4.00
|
%
|
|
|
|
|
|
|
|
|
Capon
Valley Bank
|
|
|
13,011
|
|
|
|
9.53
|
%
|
|
|
5,463
|
|
|
|
4.00
|
%
|
|
|
6,829
|
|
|
|
5.00
|
%
|
The
Grant County Bank
|
|
|
19,076
|
|
|
|
8.85
|
%
|
|
|
8,624
|
|
|
|
4.00
|
%
|
|
|
10,780
|
|
|
|
5.00
|
%
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Tier
1 Risk Based Capital Ratio
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Highlands
Bankshares
|
|
|
32,392
|
|
|
|
12.21
|
%
|
|
|
10,616
|
|
|
|
4.00
|
%
|
|
|
|
|
|
|
|
|
Capon
Valley Bank
|
|
|
13,011
|
|
|
|
13.30
|
%
|
|
|
3,912
|
|
|
|
4.00
|
%
|
|
|
5,869
|
|
|
|
6.00
|
%
|
The
Grant County Bank
|
|
|
19,076
|
|
|
|
11.39
|
%
|
|
|
6,697
|
|
|
|
4.00
|
%
|
|
|
10,046
|
|
|
|
6.00
|
%
|
Capital
ratios and amounts are applicable both at the individual Bank level and on a
consolidated basis. At December 31, 2007 both subsidiary Banks had
capital levels in excess of minimum requirements.
In
addition, HBI Life Insurance Company is subject to certain capital requirements
and dividend restrictions. At present, HBI Life is well within any capital
limitations and no conditions or events have occurred to change this capital
status, nor does management expect any such occurrence in the foreseeable
future.
Page
Fifty Three
Note
Eighteen: Changes in Other Comprehensive Income
The
components of changes in other comprehensive income and related tax effects for
the years ended December 31, 2007, 2006 and 2005 are as follows (in thousands of
dollars):
|
|
2007
|
|
|
2006
|
|
|
2005
|
|
Balance
January 1
|
|
$
|
(586
|
)
|
|
$
|
(505
|
)
|
|
$
|
(219
|
)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Unrealized
holding gains (losses) on available for sale securities net of income
taxes of $101,000 for 2007, $50,000 for 2006 and $27,000 for
2005
|
|
|
173
|
|
|
|
86
|
|
|
|
46
|
)
|
Accrued
pension obligation net of income taxes of $(76,000) for 2007, $97,000 for
2006 and $141,000 for 2005
|
|
|
128
|
|
|
|
(167
|
)
|
|
|
(240
|
)
|
Net
change for the year
|
|
|
301
|
|
|
|
(81
|
)
|
|
|
(286
|
)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Balance
December 31
|
|
$
|
(285
|
)
|
|
$
|
(586
|
)
|
|
$
|
(505
|
)
|
Note
Nineteen: Intangible Assets
On August
22, 2005, Highlands Bankshares entered into an agreement to purchase all of the
outstanding shares of common stock of the National Bank of Davis (“Davis”),
located in Davis, West Virginia. Davis is located in Tucker County and is
contiguous to other counties that have Company branches. The Agreement can be
found by accessing the website of the Securities and Exchange Commission under
the filings of Highlands Bankshares, Inc. and as part of the Current Report on
Form 8-K filed August, 23, 2005.
The
Agreement was consummated on October 31, 2005 and the shareholders of Davis were
paid a cash purchase price of $5,200,000. In addition to this amount, Highlands
incurred additional expenses of $56,000 related to the purchase. Shortly after
the purchase, Davis offices became branches of The Grant County Bank. Funding
for the purchase was provided by a special, one time dividend from The Grant
County Bank to Highlands Bankshares. The purchase of Davis added two banking
locations and 11 full time equivalent employees to the operations of Highlands.
All operations of Davis subsequent to October 31, 2005 are reflected in the
operations of the Company.
Upon
acquisition, the net assets of Davis were recorded at fair value. Portions of
the cost of acquisition, including expenses incurred relating to the purchase,
were allocated as intangible assets. These intangible assets are comprised of
both core deposit intangibles and goodwill. The amount of core deposit
intangibles was valued based on comparable premiums paid on deposits for
purchases of banking branches by other financial institutions in Virginia, West
Virginia, and the entire Southeast region of the United States. After
tangible assets were valued at fair value and the allocation made to core
deposit intangibles, the remainder of the purchase price was allocated to
goodwill. The amount of core deposit intangibles will be amortized over a
ten-year period. Goodwill will not be amortized and will be tested for
impairment on an annual basis. The goodwill acquired in the acquisition of Davis
was not deemed to be impaired at December 31, 2007, 2006 nor 2005.
Amortization
of intangibles charged to operations was $176,000 in 2007, $176,000 in 2006 and
$38,000 in 2005.
In
addition to the intangible assets acquired with the Davis purchase, the Company,
at December 31, 2007 has a core deposit intangible of $28,000 (net of
accumulated amortization) related to a branch acquisition in the year
2000.
During
the fourth quarter of 2007, The Grant County Bank entered into an agreement to
contribute $250,000 toward the erection of a performing arts center located
within the Company’s primary business area. In return, the bank has been granted
naming rights for this performing arts center. The bank is treating this
contribution as an intangible asset and is amortizing over a ten year period,
beginning in 2008, with a 10% residual asset to remain at the end of the
amortization period.
Page
Fifty Four
A summary
of the Company’s intangible assets at December 31, 2007 and 2006 is shown in the
table below (in thousands of dollars):
|
|
Core
deposit intangible
associated
with purchase of
Stockman’s Bank
|
|
|
Core
deposit intangible
associated
with purchase of
National
Bank of
Davis
|
|
|
Goodwill
associated with
purchase
of National Bank of
Davis
|
|
|
Advertising
intangible
associated
with purchased
naming
rights
|
|
|
Total
|
|
Balance
at 12/31/06
|
|
$
|
39
|
|
|
$
|
1,459
|
|
|
$
|
1,534
|
|
|
$
|
0
|
|
|
$
|
3,032
|
|
Amortization
|
|
|
(11
|
)
|
|
|
(165
|
)
|
|
|
0
|
|
|
|
0
|
|
|
|
(176
|
)
|
Impairment
allowance
|
|
|
0
|
|
|
|
0
|
|
|
|
0
|
|
|
|
0
|
|
|
|
0
|
|
Purchase
|
|
|
0
|
|
|
|
0
|
|
|
|
0
|
|
|
|
250
|
|
|
|
250
|
|
Balance
at 12/31/07
|
|
$
|
28
|
|
|
$
|
1,294
|
|
|
$
|
1,534
|
|
|
$
|
250
|
|
|
$
|
3,106
|
|
The
expected amortization of the intangible balances at December 31, 2007 for the
next five years is summarized in the table below (in thousands of
dollars):
Year
|
|
Expected Expense
|
|
2008
|
|
$
|
198
|
|
2009
|
|
|
198
|
|
2010
|
|
|
194
|
|
2011
|
|
|
188
|
|
2012
|
|
|
188
|
|
Total
|
|
$
|
966
|
|
Note
Twenty: Investment in Life Insurance Contracts
Investments
in insurance contracts consist of single premium insurance contracts, which have
the purpose of providing a rate of return to the Company and of providing life
insurance and retirement benefits to certain executives.
During
the second quarter of 2006, the Company received payment in settlement relating
to two of these policies. This payment related to the death of an insured and
resulted in a one-time, non-recurring income of $155,000.
A summary
of the changes to the balance of investments in insurance contracts for the
twelve month periods ended December 31, 2006 and December 31, 2007 are shown in
the table below (in thousands of dollars):
|
|
2007
|
|
|
2006
|
|
Balance,
beginning of period
|
|
$
|
6,066
|
|
|
$
|
6,396
|
|
Increases
in value of policies
|
|
|
234
|
|
|
|
225
|
|
Settlement
payout
|
|
|
0
|
|
|
|
(555
|
)
|
Balance,
end of period
|
|
$
|
6,300
|
|
|
$
|
6,066
|
|
Page
Fifty Five
Note
Twenty One: Parent Corporation Only Financial
Statements
Balance
Sheets
|
|
(in
thousands of dollars)
|
|
|
|
December
31,
|
|
|
|
2007
|
|
|
2006
|
|
Assets
|
|
|
|
|
|
|
Cash
|
|
$
|
112
|
|
|
$
|
187
|
|
Investment
in subsidiaries
|
|
|
40,142
|
|
|
|
37,025
|
|
Income
taxes receivable
|
|
|
276
|
|
|
|
0
|
|
Other
assets
|
|
|
63
|
|
|
|
40
|
|
Total
Assets
|
|
$
|
40,593
|
|
|
$
|
37,252
|
|
|
|
|
|
|
|
|
|
|
Liabilities
|
|
|
|
|
|
|
|
|
Accrued
expenses
|
|
$
|
0
|
|
|
$
|
71
|
|
Income
taxes payable
|
|
|
0
|
|
|
|
105
|
|
Other
liabilities
|
|
|
0
|
|
|
|
0
|
|
Total
Liabilities
|
|
|
0
|
|
|
|
176
|
|
|
|
|
|
|
|
|
|
|
Stockholders’
Equity
|
|
|
|
|
|
|
|
|
Common
stock, par value $5 per share, 3,000,000 shares authorized, 1,436,874
issued and outstanding
|
|
|
7,184
|
|
|
|
7,184
|
|
Surplus
|
|
|
1,662
|
|
|
|
1,662
|
|
Retained
earnings
|
|
|
32,032
|
|
|
|
28,816
|
|
Other
accumulated comprehensive income
|
|
|
(285
|
)
|
|
|
(586
|
)
|
Total
Stockholders’ Equity
|
|
|
40,593
|
|
|
|
37,076
|
|
|
|
|
|
|
|
|
|
|
Total
Liabilities and Stockholders’ Equity
|
|
$
|
40,593
|
|
|
$
|
37,252
|
|
Page
Fifty Six
Statements
of Income and Retained Earnings
|
|
(in
thousands of dollars)
|
|
|
|
2007
|
|
|
2006
|
|
|
2005
|
|
Income
|
|
|
|
|
|
|
|
|
|
Dividends
from subsidiaries
|
|
$
|
1,637
|
|
|
$
|
1,651
|
|
|
$
|
1,528
|
|
Management
fees from subsidiaries
|
|
|
204
|
|
|
|
240
|
|
|
|
63
|
|
Total
Income
|
|
|
1,841
|
|
|
|
1,891
|
|
|
|
1,591
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Expenses
|
|
|
|
|
|
|
|
|
|
|
|
|
Salary
and benefits expense
|
|
|
358
|
|
|
|
302
|
|
|
|
203
|
|
Professional
fees
|
|
|
175
|
|
|
|
191
|
|
|
|
231
|
|
Directors
fees
|
|
|
73
|
|
|
|
74
|
|
|
|
65
|
|
Other
expenses
|
|
|
131
|
|
|
|
70
|
|
|
|
106
|
|
Total
Expenses
|
|
|
737
|
|
|
|
637
|
|
|
|
605
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net
income before income tax benefit and undistributed subsidiary net
income
|
|
|
1,104
|
|
|
|
1,254
|
|
|
|
986
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Income
tax benefit
|
|
|
211
|
|
|
|
162
|
|
|
|
214
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Income
before undistributed subsidiary net income
|
|
|
1,315
|
|
|
|
1,416
|
|
|
|
1,200
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Undistributed
subsidiary net income
|
|
|
3,338
|
|
|
|
3,099
|
|
|
|
2,602
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net
Income
|
|
$
|
4,653
|
|
|
$
|
4,515
|
|
|
$
|
3,802
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Retained
earnings, beginning of period
|
|
$
|
28,816
|
|
|
$
|
25,651
|
|
|
$
|
23,028
|
|
Dividends
paid in cash
|
|
|
(1,437
|
)
|
|
|
(1,350
|
)
|
|
|
(1,179
|
)
|
Net
income
|
|
|
4,653
|
|
|
|
4,515
|
|
|
|
3,802
|
|
Retained
earnings, end of period
|
|
$
|
32,032
|
|
|
$
|
28,816
|
|
|
$
|
25,651
|
|
Page
Fifty Seven
Statements
of Cash Flows
|
|
(in
thousands of dollars)
|
|
|
|
|
|
|
|
Years
Ended December 31,
|
|
|
|
2007
|
|
|
2006
|
|
|
2005
|
|
Cash
Flows From Operating Activities
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net
Income
|
|
$
|
4,653
|
|
|
$
|
4,515
|
|
|
$
|
3,802
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Adjustments
to net income
|
|
|
|
|
|
|
|
|
|
|
|
|
Undistributed
subsidiary income
|
|
|
(3,338
|
)
|
|
|
(3,099
|
)
|
|
|
(2,602
|
)
|
Depreciation
and amortization
|
|
|
8
|
|
|
|
7
|
|
|
|
6
|
|
Increase
(decrease) in payables
|
|
|
(176
|
)
|
|
|
126
|
|
|
|
(24
|
)
|
(Increase)
decrease in receivables
|
|
|
(271
|
)
|
|
|
24
|
|
|
|
33
|
|
(Increase)
decrease in other assets
|
|
|
(36
|
)
|
|
|
(1
|
)
|
|
|
5
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net
Cash Provided by Operating Activities
|
|
|
840
|
|
|
|
1,572
|
|
|
|
1,220
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Cash
Flows From Investing Activities
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Advances
from (payments to) subsidiaries
|
|
|
(777
|
)
|
|
|
(417
|
)
|
|
|
(199
|
)
|
Received
from subsidiaries
|
|
|
1,300
|
|
|
|
229
|
|
|
|
177
|
|
Purchase
of property and equipment
|
|
|
(1
|
)
|
|
|
(1
|
)
|
|
|
(21
|
)
|
Special
dividend from subsidiary
|
|
|
0
|
|
|
|
0
|
|
|
|
5,200
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net
Cash Provided by (used in) Investing Activities
|
|
|
522
|
|
|
|
(189
|
)
|
|
|
5,157
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Cash
Flows From Financing Activities
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Purchase
of branch operations
|
|
|
0
|
|
|
|
0
|
|
|
|
(5,200
|
)
|
Dividends
paid in cash
|
|
|
(1,437
|
)
|
|
|
(1,350
|
)
|
|
|
(1,179
|
)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net
Cash Used in Financing Activities
|
|
|
(1,437
|
)
|
|
|
(1,350
|
)
|
|
|
(6,379
|
)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net
Increase (Decrease) in Cash
|
|
|
(75
|
)
|
|
|
33
|
|
|
|
(2
|
)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Cash,
beginning of year
|
|
|
187
|
|
|
|
154
|
|
|
|
156
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Cash,
end of year
|
|
$
|
112
|
|
|
$
|
187
|
|
|
$
|
154
|
|
Page
Fifty Eight
REPORT OF
INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM
Board of
Directors
Highlands
Bankshares, Inc.
Petersburg,
West Virginia
We have
audited the accompanying consolidated statements of income, stockholders’
equity, and cash flows for the year ended December 31,
2005. 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.
We
conducted our audit in accordance with standards of the Public Company
Accounting Oversight Board (United States). Those standards require
that we plan and perform the audit to obtain reasonable assurance about whether
the financial statements are free of material misstatement. The
company is not required to have, nor were we engaged to perform, an audit of its
internal control over financial reporting. Our audit included
consideration of internal control over financial reporting as a basis for
designing audit procedures that are appropriate in the circumstances, but not
for the purpose of expressing an opinion on the effectiveness of the company's
internal control over financial reporting. Accordingly, we express no
such opinion. An audit includes examining, on a test basis, evidence
supporting the amounts and disclosures in the financial statements, 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 consolidated financial statements referred to above present fairly,
in all material respects, the results of Highlands Bankhares, Inc.’s operations
and its cash flows for the year ended December 31, 2005 in conformity with U.S.
generally accepted accounting principles.
|
/s/
S. B. Hoover & Company, L.L.P.
|
|
|
|
|
February
28, 2006
|
|
Harrisonburg,
VA
|
|
Page
Fifty Nine
REPORT OF
INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM
To the
Shareholders and Board of Directors of
Highlands
Bankshares, Inc.
Petersburg,
West Virginia
We have
audited the accompanying consolidated balance sheets of Highlands Bankshares,
Inc. and subsidiaries as of December 31, 2007and 2006, and the related
consolidated statements of income, stockholders' equity and cash flows for the
years then ended. These consolidated financial statements are the
responsibility of the corporation's management. Our responsibility is
to express an opinion on these consolidated financial statements based on our
audits. The consolidated financial statements of Highlands Bankshares, Inc. for
the period ended December 31, 2005, were audited by other auditors whose report
dated February 28, 2006, expressed an unqualified opinion on those financial
statements.
We
conducted our audits in accordance with the standards of the Public Company
Accounting Oversight Board (United States). Those standards require
that we plan and perform the audit to obtain reasonable assurance about whether
the consolidated financial statements are free of material misstatement. The
corporation is not required to have, nor were we engaged to perform, an audit of
its internal control over financial reporting. Our audit included consideration
of internal control over financial reporting as a basis for designing audit
procedures that are appropriate in the circumstances, but not for the purpose of
expressing an opinion on the effectiveness of the corporation’s internal control
over financial reporting. Accordingly, we express no such opinion. An
audit also includes examining, on a test basis, evidence supporting the amounts
and disclosures in the consolidated financial statements, 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 2007 and 2006 consolidated financial statements referred to above
present fairly, in all material respects, the financial position of Highlands
Bankshares, Inc. and subsidiaries as of December 31, 2007 and 2006, and the
results of their operations and their cash flows for the years then ended in
conformity with accounting principles generally accepted in the United States of
America.
As
discussed in Notes 2 and 14 to the financial statements, Highlands Bankshares,
Inc. changed its policy for accounting for its defined benefit pension plan in
2006 to conform with Statement of Financial Accounting Standards No.
158.
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/s/
SMITH ELLIOTT KEARNS & COMPANY, LLC
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Chambersburg,
Pennsylvania
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March
27, 2008
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Page
Sixty
MANAGEMENT’S
REPORT ON INTERNAL CONTROLS
Highlands
Bankshares, Inc. is responsible for the preparation, integrity, and fair
presentation of the consolidated financial statements included in this annual
report. The consolidated financial statements and notes included in this annual
report have been prepared in conformity with United States generally accepted
accounting principles and necessarily include some amounts that are based on
management’s best estimates and judgments.
The
management of Highland’s Bankshares, Inc. and its wholly owned subsidiaries is
responsible for establishing and maintaining adequate internal control over
financial reporting as defined in Rule 13a-15(f) of the Exchange Act. Because of
its inherent limitations, internal control over financial reporting may not
prevent or detect misstatements or may not prevent the possibility that a
control can be circumvented or overridden
Also,
projections of any evaluation of effectiveness to future periods are subject to
the risk that controls may become inadequate because of changes in conditions,
or that the degree of compliance with the policies or procedures may
deteriorate.
Management
assessed the effectiveness of the Company’s internal control over financial
reporting as of December 31, 2007. In making this assessment, management
used the criteria set forth by the Committee of Sponsoring Organizations of the
Treadway Commission (“COSO”) in Internal Control-Integrated Framework. Based on
the assessment using those criteria, management concluded that the internal
control over financial reporting was effective as of December 31,
2007.
/s/ C.E. Porter
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C.E.
Porter
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Chief
Executive Officer
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March
27, 2008
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/s/ R. Alan Miller
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R.
Alan Miller
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Chief
Financial Officer
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March
27, 2008
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Page
Sixty One