U.S. Securities and Exchange Commission
Washington, D.C. 20549
FORM 10-QSB
(Mark One)
/X/ QUARTERLY REPORT UNDER SECTION 13 OR 15(D) OF THE
SECURITIES EXCHANGE ACT OF 1934
For the quarterly period ended JUNE 30, 2001
/ / TRANSITION REPORT PURSUANT SECTION 13 OR 15(D) OF THE
SECURITIES EXCHANGE ACT OF 1934
Commission file number 000-30497
CORNERSTONE BANCSHARES, INC.
(Exact name of small business issuer as specified in its charter)
TENNESSEE 62-1175427
(State of other jurisdiction of (IRS Employer
incorporation or organization) Identification No.)
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5319 HIGHWAY 153
CHATTANOOGA, TENNESSEE 37343
(Address of principal executive offices)
(423) 385-3000
(Issuer's telephone number)
The aggregate market value of the Registrant's outstanding Common Stock held by nonaffiliates of the Registrant on June 30, 2001 was approximately $15,972,671. There were 1,228,667 shares of Common Stock outstanding as of June 30, 2001.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
CORNERSTONE BANCSHARES
PRESENTATION OF FINANCIAL INFORMATION
The 2001 financial information in this report has not been audited. The information included herein should be read in conjunction with the notes to consolidated financial statements included in the 2000 Annual Report to Shareholders which was furnished to each shareholder of the Company in March 2001. The consolidated financial statements presented herein conform to generally accepted accounting principles and to general industry practices.
CONSOLIDATION
The accompanying consolidated financial statements include the accounts of Cornerstone Bancshares Inc. and its sole subsidiary Cornerstone Community Bank.
Substantially all intercompany transactions, profits and balances have been eliminated.
ACCOUNTING POLICIES
During interim periods, Cornerstone Bancshares follows the accounting policies set forth in its 10-KSB for the year ended December 31, 2000, as filed with the Securities and Exchange Commission. Since December 31, 2000, there have been no changes in any accounting principles or practices, or in the method of applying any such principles or practices.
INTERIM FINANCIAL DATA (UNAUDITED)
In the opinion of Cornerstone management, the accompanying interim financial statements contain all material adjustments, consisting only of normal recurring adjustments necessary to present fairly the financial condition, the results of operations, and cash flows for the interim period. Results for interim periods are not necessarily indicative of the results to be expected for a full year.
EARNINGS PER COMMON SHARE
Basic earnings per share ("EPS") is computed by dividing income available to common shareholders (numerator) by the number of common shares outstanding (denominator). Diluted EPS is computed by dividing income available to common shareholders (numerator) by the adjusted number of shares outstanding (denominator). The adjusted number of shares outstanding reflects the potential dilution occurring if securities or other contracts to issue common stock were exercised or converted into common stock resulting in the issuance of common stock that share in the earnings of the entity.
FORWARD-LOOKING STATEMENTS
Certain written and oral statements made by or with the approval of an authorized executive officer of the Company may constitute "forward-looking statements" as defined under the Private Securities Litigation Reform Act of 1995. Words or phrases such as "should result, are expected to, we anticipate, we estimate, we project" or similar expressions are intended to identify forward-looking statements. These statements are subject to certain risks and uncertainties that could cause actual results to differ materially from Cornerstone's historical experience and its present expectations or projections. These risks and uncertainties include, but are not limited to, unanticipated economic changes, interest rate movements and the impact of competition. Caution should be taken not to place undue reliance on any such forward-looking statements since such statements speak only as of the date of making such statements.
PART I FINANCIAL INFORMATION
Item 1. Financial Statements
CONSOLIDATED BALANCE SHEETS Unaudited Unaudited
June 30, December 31, June 30,
---------------- ----------------- ----------------
ASSETS 2001 2000 2000
---------------- ----------------- ----------------
Cash and due from banks $ 4,722,868 4,633,514 $ 9,857,546
Due from banks time deposits 1,842,687 - -
Federal funds sold 6,900,000 2,400,000 -
Investment securities available for sale 13,921,207 16,047,715 17,008,300
Investment securities held to maturity 2,964,373 4,012,414 4,938,914
Loans, less allowance for loan loss 85,878,378 83,431,776 81,247,022
Premises and equipment, net 3,836,972 3,391,138 2,247,022
Accrued interest receivable 696,888 849,142 717,828
Excess cost over fair value of assets acquired 2,601,988 2,662,499 2,665,275
Other assets 2,005,909 1,950,557 2,040,660
---------------- ----------------- ----------------
Total assets $ 125,371,271 119,378,755 $ 120,722,567
================ ================= ================
LIABILITIES AND STOCKHOLDERS' EQUITY
Deposits
Noninterest-bearing $ 13,317,226 11,924,140 $ 13,593,950
NOW accounts 16,656,522 13,687,959 21,932,543
Savings deposits and money market accounts 12,829,439 10,459,568 11,132,449
Time deposits of $100,000 or more 18,468,971 16,911,729 16,973,270
Time deposits of less than $100,000 46,847,566 48,266,503 42,241,131
---------------- ----------------- ----------------
Total deposits 108,119,723 101,249,899 105,873,344
Federal funds purchased and securites sold under
agreement to repurchase 1,111,974 3,144,291 2,506,094
Federal Home Loan Bank Advance 2,000,000 2,000,000 -
Accrued interest payable 168,169 183,834 190,035
Other liabilities 434,824 282,570 211,509
---------------- ----------------- ----------------
Total Liabilities 111,834,690 106,860,594 108,780,982
---------------- ----------------- ----------------
Redeemable common stock - - -
Stockholders' Equity
Common stock 1,228,667 1,166,129 1,166,129
Additional paid-in capital 12,039,867 11,322,276 11,322,276
Retained Earnings (deficit) 25,561 (92,694) (357,700)
Accumulated other comprehensive income 242,485 122,450 (189,120)
---------------- ----------------- ----------------
Total Stockholders' Equity 13,536,580 12,518,161 11,941,585
---------------- ----------------- ----------------
Total liabilities and stockholders equity $ 125,371,271 119,378,755 $ 120,722,567
================ ================= ================
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CONSOLIDATED STATEMENTS OF INCOME
Unaudited Unaudited
Three months ended Six months ended
June 30, June 30,
---------------- ----------------- ---------------- -----------------
2001 2000 2001 2000
---------------- ----------------- ---------------- -----------------
INTEREST INCOME
Interest and fees on loans $ 2,003,190 $ 1,978,042 $ 4,020,657 $ 3,822,591
Interest on investment securities 267,847 359,024 565,728 688,169
Interest on federal funds sold 44,989 17,364 100,161 19,882
Interest on due from banks time deposits 29,700 57,498 -
Interest on other earning aseets 6,732 10 13,171 263
---------------- ----------------- ---------------- -----------------
Total interest income 2,352,459 2,354,441 4,757,216 4,530,905
---------------- ----------------- ---------------- -----------------
INTEREST EXPENSE
Interest bearing demand accounts 69,812 75,010 130,254 137,597
Money market accounts 57,412 68,693 122,365 128,791
Savings accounts 28,266 28,981 57,658 58,930
Time deposits of less than $100,000 698,488 595,892 1,440,657 1,144,747
Time deposits of $100,000 or more 288,135 235,379 591,249 440,681
Federal funds purchased 82 7,673 82 29,259
Securities sold under agreements to repurchase 13,350 36,557 40,896 57,648
Other borrowings 24,932 - 49,589 -
---------------- ----------------- ---------------- -----------------
Total interest expense 1,180,476 1,048,185 2,432,750 1,997,653
---------------- ----------------- ---------------- -----------------
Net interest income 1,171,983 1,306,255 2,324,465 2,533,253
Provision for loan losses 104,500 256,000 270,000 414,500
---------------- ----------------- ---------------- -----------------
Net interest income after the provision for loan
losses 1,067,483 1,050,255 2,054,465 2,118,752
---------------- ----------------- ---------------- -----------------
NONINTEREST INCOME
Service charges on deposit accounts 116,399 94,087 222,797 187,104
Net securities gains (losses) - - 83,705 -
Other income 104,808 43,600 180,040 110,174
---------------- ----------------- ---------------- -----------------
Total noninterest income 221,206 137,687 486,542 297,278
---------------- ----------------- ---------------- -----------------
NONINTEREST EXPENSE
Salaries and employee benefits 555,128 570,077 1,108,646 1,129,714
Occupancy and equipment expense 150,576 138,768 282,813 264,237
Other operating expense 486,067 464,799 980,997 882,584
---------------- ----------------- ---------------- -----------------
Total noninterest expense 1,191,771 1,173,644 2,372,456 2,276,535
---------------- ----------------- ---------------- -----------------
Income before provision for income taxes 96,918 14,298 168,551 139,496
Provision for income taxes 12,046 18,154 50,296 42,378
---------------- ----------------- ---------------- -----------------
NET INCOME $ 84,872 $ (3,856) $ 118,255 $ 97,118
================ ================= ================ =================
Basic net income per common share 0.07 (0.00) 0.10 0.08
Diluted net income per common share 0.07 (0.00) 0.09 0.08
Dividends declared per common share - - - -
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CONSOLIDATED STATEMENTS OF CASH FLOWS
For the Six Months Ended June 30
Unaudited Unaudited
2001 2000
----------------- ----------------
Cash flows from operating activities:
Net income 118,255 97,118
Adjustments to reconcile net income (loss)
to net cash provided by operating actvities:
Provision for possible loan losses 270,000 414,500
Net Charge-offs (226,624) (330,255)
Provision for depreciation and amortization 209,067 174,097
Accrued interest receivable 152,254 (61,669)
Accrued interest payable (15,665) 165
Changes in other assets and liabilities: 96,902 61,774
----------------- ----------------
Net cash provided by (used in) operating activities 604,189 355,729
----------------- ----------------
Cash flows from investing activities:
Purchase of investment securities: AFS (3,645,237) (4,053,044)
Purchase of investment securities: HTM - -
Purchase of Bank due from time (1,842,687)
Proceeds from security transactions: AFS 5,770,419 368,362
Proceeds from security transactions: HTM 1,100,996 793,762
Net increase in loans (2,472,169) (10,007,388)
Purchase of bank premises and equipment (543,792) (132,563)
----------------- ----------------
Net cash provided by (used in) investing activities (1,632,471) (13,030,871)
----------------- ----------------
Cash flows from financing activities:
Net increase in deposits 6,869,824 14,527,717
Net increase in repurchase agreements (2,032,317) 326,731
Net increase of other borrowings - -
Issuance of common stock 780,129 (43,462)
----------------- ----------------
Net cash provided by (used in) finanacing activities 5,617,636 14,810,986
----------------- ----------------
Net increase (decrease) in cash and cash equivalents 4,589,354 2,135,844
Cash and cash equivalents beginning of period 7,033,514 7,721,701
----------------- ----------------
Cash and cash equivalents end of period $ 11,622,868 $ 9,857,546
================= ================
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Cornerstone Bancshares, Inc and Subsidiary
Changes in Stockholders' Equity
June 30, 2001
Accumulated
Additional Retained Other Total
Comprehensive Common Paid-in Earnings Comprehensive Stockholders'
Income Stock Capital (Deficit) Income Equity
------------- ------------- -------------- ---------------- ----------------- --------------
BALANCE, December 31, 2000 $ 1,166,129 $11,322,276 $ (92,694) $ 122,450 $ 12,518,161
Issuance of Common Stock 62,538 717,591 780,129
Comprehensive Income:
Net Income $ 118,255 118,255 118,255
Other comprehensive
income, net of tax:
Unrealized holding gains
(losses) on securities
available for sale, net
of reclassification
adjustment 120,036 120,036 120,036
-------------- ------------- -------------- ---------------- ----------------- --------------
Total comprehensive income $ 238,291
--------------
BALANCE, June 30, 2000 (Unaudited) $ 1,228,667 $12,039,867 $ 25,561 $ 242,485 $ 13,536,580
============= ============== ================ ================= ==============
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ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OR PLAN OF OPERATION.
OVERVIEW
Cornerstone Bancshares, Inc. ("Cornerstone") ended the first six months of 2001 with total assets of $125 million, a 5.0% increase from December 31, 2000, and a 3.9% increase from June 30, 2000. Cornerstone reported net income for the first six months ending June 30, 2001 of $118,255, or $0.10 basic earnings per share, compared to $97,118 or $0.08 basic earnings per share, for the same period in 2000. The increase in earnings represents a 21.8% increase from the first six months of 2000 compared to the first six months of 2001.
The increase in net income from the first half 2000 to the first half 2001 is due to several factors. The Bank's non-interest income not including securities gains increased $106 thousand or 35.5% over the same period in 2000 and had a security gain of $84 thousand. The increase in non-interest income can mostly be attributed to an increase in secondary mortgage sales. The loan loss provision decreased $145 thousand, which is an expense reduction of 35% over the same period in 2000. The Bank experienced a decrease in the Bank's net interest income, of $209 thousand or 8.2%, when compared to the same period in 2000. This decrease was due to the dramatic 275 basis point decrease in interest rates implemented by the Federal Reserve during the first half of 2001. Cornerstone was and still is positioned to reprice assets quicker than liabilities during the three months following an interest rate move. Therefore, which the Bank's deposits will reprice faster than its loans and securities and the net interest income will return to a targeted level of 4.75%. The net result was a 21.8% increase in net income and the expectation that the Bank's future earnings during the remaining six months of 2001 will meet management's expectations unless the economy falls into a recession and the Federal Reserve continues to cut interest rates. The management of the Bank believes strongly that, at the end of 2001, it will have the amount of its substandard loans returned to, or below, peer bank standards and as a result, expects a lower provision to the loan loss allowance. Core customer relationships, which bring low cost deposits and quality loans to the balance sheet, remain a top priority for the Bank. Cornerstone also plans to continue to focus its efforts on small business relationships in the future.
The Strategic plan of Cornerstone entails providing a competitive footprint (convenient branches) to the Chattanooga Metropolitan Statistical Area allowing Cornerstone to compete with the three major regional banks located in the area. Cornerstone will focus its efforts in the suburb branch network and not on a central Hub Bank located in downtown Chattanooga. The customer base will consist of small businesses and individual consumers.
Cornerstone Community Bank is operating under a Memorandum of Understanding with the Tennessee Department of Financial Institutions and the Federal Deposit Insurance Corporation. Among other things, the Memorandum provides the following:
- The Board of Directors must develop a written management plan that addresses Cornerstone Community Bank's plans for size, structure, growth, earnings, services, information systems, personnel, accounting, financial reporting and operating matters;
- Cornerstone Community Bank must maintain a Tier I leverage capital ratio of equal to or greater than eight percent (8%);
- Cornerstone Community Bank may not pay dividends without the prior approval of the FDIC; and
- Cornerstone Community Bank must report its progress on the actions required by the Memorandum to the FDIC on specific dates.
As of June 30, 2001, the FDIC Field Examination Team reported that Cornerstone Community Bank was in compliance with all provisions of the Memorandum and recommended the Memorandum be terminated to the Regional Director of the FDIC.
FINANCIAL CONDITION
EARNING ASSETS. Average earning assets for the six months ending June 30, 2001, increased $11.2 million, or 11.2%, above the six months ending June 30, 2000, while actual earning assets increased $8.4 million or 8.1% during the same time period. The average balance increase was due to strong loan demand in the second half of 2000 and a steady growth in core deposits during the current reporting period. Management expects average earning assets to steadily increase during the rest of 2001 and anticipates similar growth in 2002.
LOAN PORTFOLIO. Cornerstone's average loans for the first six months of 2001 were $86.3 million, an increase of $8.5 million or 10.9% from the first half of 2000, while actual balances increased to $87.0 million, an increase of 5.7% above $82.3 million in loans in the first half of 2000. Management is anticipating increased loan growth for the remainder of the year in both average and actual balances.
INVESTMENT PORTFOLIO. Cornerstone's average investment securities portfolio and Federal Funds sold increased by 10.8% or $2.3 million for the six months ending June 30, 2000 compared to the six months ending June 30, 2001, while actual balances increased $3.7 million, an increase of 16.8%. The growth is the direct result of deposit growth. The majority of the proceeds from this deposit growth were placed in Federal Funds ($6.9 million) as management allowed expensive deposits to terminate while waiting for loan growth to revive and an appropriate investment environment to grow the investment portfolio. Cornerstone maintains an investment strategy of making prudent investment decisions with active management of the portfolio to optimize, within the constraints of established policies, an adequate return and value. Investment objectives include, in order of priority, Gap Management, Liquidity, Pledging, Return, and Local Community Support. Cornerstone maintains two classifications of investment securities: "Held to Maturity" (HTM) and "Available for Sale" (AFS). The "Available for Sale" securities are carried at fair market value, whereas "Held to Maturity" securities are carried at book value. As of June 30, 2001, net unrealized gains in the "Available for Sale" portfolio amounted to $367,402, a 2.72% increase in value.
DEPOSITS. Cornerstone's average deposits increased $9.1 million or 9.5% for the six month period ending June 30, 2000 compared to the same period ending June 30, 2001, while actual deposit balances increased $2.2 million or 2.1%. The actual deposit growth was concentrated in certificates of deposit, which increased 17.4% during the same time period. Management will
continue to focus its efforts on attracting core deposits and expects certificates of deposit to decrease over the remainder of 2001 while deposits in general increase in the 10% level for the next several quarters. Transaction accounts will be continuously solicited from new customers and existing customers, and represent one of Cornerstone's highest priorities and should provide Cornerstone with an increased net interest margin.
OTHER LIABILITIES. During the last quarter of 2000, Cornerstone acquired an advance from the Federal Home Loan Bank of Cincinnati (FHLB). The advance was in the amount of $2,000,000 and had a maturity of 10 years with call and put options after two years. Management of the Cornerstone believes the FHLB provides an inexpensive method to reduce interest rate risk by obtaining longer term liabilities to match the typically longer termed assets the Bank has on its Balance sheet and usually below the cost of certificates of deposit.
CAPITAL RESOURCES. Stockholders' average equity increased $1.3 million or 10.7% to $13.2 million for the six months ending June 30, 2001, compared with $11.9 million during the same six months ending June 30, 2000. Actual equity increased $1.6 million or 13.4% from June 30, 2000 to June 30, 2001. This increase was primarily due to a registered stock offering with net proceeds of approximately $.8 million. The balance represents current year earnings from operations and net unrealized gains in available for sale investment securities.
CONSOLIDATED AVERAGE BALANCE SHEET
INTEREST INCOME / EXPENSE AND YIELD / RATES
Taxable equivalent basis
(in thousands)
Six months ended
June 30,
-----------------------------------------------------------------------------------
2001 2000
-----------------------------------------------------------------------------------
Assets Average Income / Yield/ Average Income / Yield /
Balance Expense Rate Balance Expense Rate
-----------------------------------------------------------------------------------
Earning Assets:
Loans, net of unearned income 86,331 4,021 9.39% 77,838 3,823 9.88%
Due from banks time deposits 1,780 57 6.51% - - 0.00%
Federal Funds Sold 4,132 100 4.89% 673 20 5.94%
Investment securities 17,967 566 6.35% 20,878 688 6.63%
Other earning assets 357 13 7.45% - - 0.00%
---------------------------- ---------------------------
Total earning assets 110,567 4,757 8.68% 99,389 4,531 9.17%
Allowance for loan losses (1,160) (1,003)
Cash and other assets 13,237 12,857
------------ ------------
TOTAL ASSETS 122,643 111,243
============ ============
Liabilities and Stockholders' Equity
Interest bearing liabilities:
Interest bearing demand deposits 15,214 130 1.73% 16,169 138 1.71%
Savings deposits 10,483 180 3.46% 11,073 188 3.41%
Time deposits 47,472 1,441 6.12% 41,337 1,145 5.57%
Time deposits of $100,000 or more 19,270 591 6.19% 15,486 441 5.72%
Federal funds and securities sold under
Agreement to repurchase 2,122 41 3.89% 3,294 87 5.31%
Other borrowings 2,000 50 5.00% - - 0.00%
---------------------------- ---------------------------
Total interest bearing liabilities 96,561 2,433 5.08% 87.359 1,998 4.60%
------------- ------------
Net interest spread 2,324 2,533
============= ============
Noninterest bearing demand deposits 12,038 11,358
Accrued expenses and other liabilities 853 610
Stockholders' equity 13,191 11,916
------------ ------------
TOTAL LIABILITIES AND
STOCKHOLDERS' EQUITY 122,643 111,243
============ ============
Net interest margin on earning assets 4.24% 5.14%
========= ==========
Net interest spread on earning assets 3.60% 4.57%
========= ==========
Taxable equivalent adjustment:
Loans - -
Investment Securities 2 0
------------- ------------
Total adjustment 2 0
============= ============
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RESULTS OF OPERATIONS - SIX MONTHS ENDED JUNE 30, 2001 COMPARED TO SIX MONTHS ENDED JUNE 30, 2000
NET INTEREST INCOME. Net interest income is the principal component of a financial institution's income stream and represents the spread between interest and fee income generated from earning assets and the interest expense paid on deposits. The following discussion is on a fully taxable equivalent basis.
Net interest income before loan loss provision for the first six months of 2001 decreased $208,788 or 8.24% below net interest income before loan loss provision as of first six months of 2000. The decrease in net interest income as of June 30, 2001 is primarily due to a sharp change in policy of the Federal Reserve who decreased the Fed Discount rate 275 basis points during the first six months of 2001. Compounding the compression of the net interest margin was the shift in liability mix to a larger concentration of certificates of deposit. One hundred percent (100%) of the net growth in average liabilities came from certificates of deposit which are the most expensive deposits of the Bank. The decrease in net interest margin was above Cornerstone's management's expectation and management anticipates the possibility of further cuts by the Federal Reserve if the economy slips into a recession. Management foresees the margin returning to the budgeted 4.75% by the end of the fourth quarter. Three factors contribute to this net interest margin forecast: First, Cornerstone anticipates that certificates of deposit will reprice rapidly during the second and third quarter from an average 6.50% to average 4.75%; Second, Cornerstone will continue to solicit transaction accounts from small businesses and reduce Cornerstone's percentage of certificates of deposit to total deposits; and Third, Cornerstone plans to continue to grow Cornerstone's earning assets as a percentage of total assets.
Interest income increased $226,311 or 5.0% for the period ended June 30, 2001 compared the same period ended June 30, 2000. Interest income produced by the loan portfolio increased $198,066 or 5.2% for the six month period ended June 30, 2000 compared to six month period ended June 30, 2001 due to the increase in average loans outstanding and origination fees associated with loan growth for the period. The increase of loan interest income was partially offset by the sharp decrease in interest rates on the Bank's variable rate loans. Management estimates the average balances will continue to increase but will restrain origination of these loans to insure quality standards and documentation are maintained. Interest income on investment securities, federal funds and other investments increased $28,244 or 4.0% for the six month period ending June 30, 2000 compared to the six month period ended June 30, 2001, due primarily to an increase in the average balance of Federal Funds sold raised to fund loan growth for the third and fourth quarter of 2001.
Total interest expense increased $435,097 or 21.8% from June 30, 2000 to June 30, 2001. The interest expense increase from the first six months of 2000 to the first six months of 2001 is primarily due to an increase in the rates for certificates of deposit during the fourth quarter of 2000 and the first quarter of 2001. In addition the Bank grew the average balance of deposits 9.9% during the first half of 2001 compared with the first half of 2000.
The trend in net interest income is commonly evaluated in terms of average rates using the net interest margin and the interest rate spread. The net interest margin, or the net yield on earning assets, is computed by dividing fully taxable equivalent net interest income by average earning assets. This ratio represents the difference between the average yield on average earning
assets and the average rate paid for all funds used to support those earning assets. The net interest margin for the first six months of 2001 was 4.24%. The yield on earning assets decreased 49 basis points to 8.68% for the period ended June 30, 2001 compared to 9.17% for the period ended June 30, 2000.
The interest rate spread measures the difference between the average yield on earning assets and the average rate paid on interest bearing sources of funds. The interest rate spread eliminates the impact of non-interest bearing funds and gives a direct perspective on the effect of market interest rate movements. As a result of fluctuations of interest rates during the early part od 2001 and an asset sensitivity during the first six months of an interest rate movement, the interest rate spread was 3.60% for the six month period ending June 30, compared to 4.57% for the same period ending June 30, 2000, a decrease of 97 basis points.
ALLOWANCE FOR LOAN LOSSES. The allowance for possible loan losses represents management's assessment of the risks associated with extending credit and its evaluation of the quality of the loan portfolio. Management analyzes the loan portfolio to determine the adequacy of the allowance for possible loan losses and the appropriate provisions required to maintain a level considered adequate to absorb anticipated loan losses. Management believes that the $1.2 million in the allowance for loan loss account at June 30, 2001 reflects the full known extent of credit exposure. Cornerstone made a $270,000 provision during the second half of 2001 and anticipates similar provisions in the future as the loan portfolio grows and unanticipated loan losses occur. No assurances can be given, however, that adverse economic circumstances will not result in increased losses in the loan portfolio, and require greater provisions for possible loan losses in the future.
NON-PERFORMING ASSETS. Non-performing assets include non-performing loans and foreclosed real estate held for sale. Non-performing loans include loans classified as non-accrual or renegotiated. Cornerstone's policy is to place a loan on non-accrual status when payment of principal or interest is contractually 90 or more days past due. At the time a loan is placed on non-accrual status, interest previously accrued but not collected may be reversed and charged against current earnings. As of June 30, 2001 Cornerstone had $66,235 in non-accrual loans and $553,254 in non-performing assets.
NON-INTEREST INCOME. Non-interest income consists of revenues generated from a broad range of financial services and activities, including fee-based services and profits, commissions earned through credit life insurance sales and other activities. In addition, gains or losses realized from the sale of loans are included in non-interest income. Total non-interest income increased by $189,264 or 63.7% from the first half of 2000 compared with the first half of 2001. The gain in non-interest income was broad based in almost every category, but was especially strong in secondary market mortgage lending, which was benefited by a low interest rate environment and strong consumer confidence. Included in this increase was a security gain taken in January of 2001 in the amount of $83,705.
NON-INTEREST EXPENSE. Non-interest expense for the first six months of 2001 increased by $95,921 or 4.2% as compared to the first six months in 2000. Salaries and employee benefits decreased by $21,068 or 1.9% for the six months ending June 30, 2001 over the same period ending June 30, 2000. Occupancy expense as of June 30, 2001 increased by $18,576 or 7.0% over the same period in 2000. All other non-interest expenses for the six month period ended June 30, 2001 increased $98,413 or 11.2% over the non-interest expenses for the same period ended June 30, 2000.
CONSOLIDATED AVERAGE BALANCE SHEET
INTEREST INCOME / EXPENSE AND YIELD / RATES
Taxable equivalent basis
(in thousands)
Three months ended
June 30,
-----------------------------------------------------------------------------------
2001 2000
-----------------------------------------------------------------------------------
Assets Average Income / Yield/ Average Income / Yield /
Balance Expense Rate Balance Expense Rate
-----------------------------------------------------------------------------------
Earning Assets:
Loans, net of unearned income 87,180 2,003 9.24% 79,974 1,978 9.92%
Due from banks time deposits 1,833 30 6.52% - - 0.00%
Investment securities 21,771 314 5.80% 22,699 377 6.66%
Other earning assets 360 7 7.52% - - 0.00%
---------------------------- ---------------------------
Total earning assets 111,144 2,354 8.52% 102,673 2,355 9.20%
Allowance for loan losses (1,162) (1,021)
Cash and other assets 13,436 12,761
--------------- ---------------
TOTAL ASSETS 123,418 114,413
============ ============
Liabilities and Stockholders' Equity
Interest bearing liabilities:
Interest bearing demand deposits 16,234 70 1.73% 17,272 75 1.74%
Savings deposits 10,544 86 3.27% 11,453 98 3.42%
Time deposits 46,930 698 5.99% 42,827 596 5.58%
Time deposits of $100,000 or more 19,062 288 6.08% 15,731 235 6.00%
Federal funds and securities sold under
Agreement to repurchase 1,744 13 3.10% 3,353 44 5.29%
Other borrowings 2,000 25 5.01% - - 0.00%
---------------------------- ---------------------------
Total interest bearing liabilities 96,513 1,180 4.92% 90,635 1,048 4.64%
------------- ------------
Net interest spread 1,173 1,307
============= ============
Noninterest bearing demand deposits 12,549 11,191
Accrued expenses and other liabilities 889 668
Stockholders' equity 13,466 11,919
------------ ------------
TOTAL LIABILITIES AND
STOCKHOLDERS' EQUITY 123,418 114,413
============ ============
Net interest margin on earning aseets 4.24% 5.10%
========= ==========
Net interest spread on earning assets 3.60% 4.56%
========= ==========
Taxable equivalent adjustment:
Loans - -
Investment Securities 1 0
------------- ------------
Total adjustment 1 0
============= ============
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RESULTS OF OPERATIONS - QUARTER ENDED JUNE 30, 2001 COMPARED TO QUARTER ENDED
JUNE 30, 2000
NET INTEREST INCOME. Net interest income is the principal component of a financial institution's income stream and represents the spread between interest and fee income generated from earning assets and the interest expense paid on deposits. The following discussion is on a fully taxable equivalent basis.
Net interest income before provision for loan loss for the second three months of 2001 decreased $134,272 or 10.3% below net interest income before provision for loan loss for second three months of 2000. The decrease in net interest income for the second quarter of 2001 is primarily due to a continued sharp decrease of the target Federal Funds rate of 275 basis points during 2001. This fact coupled with certificates of deposit retaining the large percentage of total average deposits, allowed cost of funds to drop only to 4.92% from 5.26% during the first quarter of 2001. While yield on earning assets decreased sharply from 9.20% to 8.52% over the same time period. These two facts contributed to a sharp decrease in Cornerstone's net interest margin from 5.10% to 4.24% in the second three months of 2000 as compared to the second three months of 2001, while decreasing one base point from the first quarter of 2001. The decrease was above Cornerstone management's expectation and management anticipates the possibility of further cuts by the Federal Reserve if the US economy slips into a recession. Management foresees the margin returning to budgeted 4.75% by the end of the fourth quarter.
Interest income decreased $1,982 or 0.1% for the second quarter of 2001 compared to the second quarter of 2000. Interest income produced by the loan portfolio increased $25,148 or 1.3% from the second quarter 2000 to the second quarter 2001, due to the increase in average loans, outstanding for the period and loan fees for loan origination. Management estimates the average balances will increase, but will closely monitor origination of these loans to insure quality standards and documentation are maintained. Interest income on investment securities and Federal Funds Sold decreased $27,000 or 7.2% from second quarter 2000 to second quarter 2001, due to increase in the amount of average Federal Funds Sold and a rapid decrease in the interest paid for these balances.
Total interest expense increased $132,291 or 12.6% from the second quarter of 2000 to the second quarter of 2001. From the second quarter of 2000 to the second quarter of 2001, the interest expense increase is primarily due to growth of average deposits, which were mostly concentrated in certificates of deposit. Management is actively pursuing customer relationships with small business and municipalities to obtain lower cost deposits and reduce Cornerstone's exposure to certificates of deposit. Management anticipates total interest expense to drop during the third and fourth quarter of 2001.
The trend in net interest income is commonly evaluated in terms of average rates, using the net interest margin and the interest rate spread. The net interest margin, or the net yield on earning assets, is computed by dividing the fully taxable equivalent net interest income by the average earning assets. This ratio represents the difference between the average yield on average earning assets and the average rate paid for all funds used to support those earning assets. The net interest margin for the second quarter of 2001 was 4.24%. The yield on earning assets decreased 49 basis points to 8.52% for the three month period ended June 30, 2001 from 9.20% for the same period ended June 30, 2000.
The interest rate spread measures the difference between the average yield on earning assets and the average rate paid on interest bearing sources of funds. The interest rate spread eliminates the impact of noninterest bearing funds and gives a direct perspective on the effect of market interest rate movements. As a result of changes in the asset and liability mix during late 2000 and reduced loan rates during the current period, the interest rate spread was 3.60%, a decrease of 97 basis points for the three month period ending June 30, 2000 compared to the same period ending June 30, 2001.
ALLOWANCE FOR LOAN LOSSES. The allowance for possible loan losses represents management's assessment of the risks associated with extending credit and its evaluation of the quality of the loan portfolio. Management analyzes the loan portfolio to determine the adequacy of the allowance for possible loan losses and the appropriate provisions required to maintain a level considered adequate to absorb anticipated loan losses. Management believes that the $1.2 million for the second quarter ended June 30, 2001 in the allowance for loan loss account reflects the full known extent of credit exposure. Cornerstone made a $104,500 provision during the second quarter of 2001 and anticipates similar provisions in the future as the loan portfolio grows and unanticipated loan losses occur. No assurances can be given, however, that adverse economic circumstances will not result in increased losses in the loan portfolio, and require greater provisions for possible loan losses in the future.
NON-PERFORMING ASSETS. Non-performing assets include non-performing loans and foreclosed real estate held for sale. Non-performing loans include loans classified as non-accrual or renegotiated. Cornerstone's policy is to place a loan on non-accrual status when payment of principal or interest is contractually 90 or more days past due. At the time a loan is placed on non-accrual status, interest previously accrued but not collected may be reversed and charged against current earnings. As of June 30, 2001 Cornerstone had $66,235 in non-accrual loans and $553,254 in non-performing assets.
NON-INTEREST INCOME. Non-interest income consists of revenues generated from a broad range of financial services and activities, including fee-based services and profits, commissions earned through credit life insurance sales and other activities. In addition, gains or losses realized from the sale of loans are included in non-interest income. Total non-interest income increased by $83,519 or 60.7% from the second quarter of 2000 compared with the second quarter 2001. The gain in non-interest income was broad based in almost every category, but was especially strong in secondary market mortgage lending, which was benefited by a low interest rate environment and strong consumer confidence.
NON-INTEREST EXPENSE. Non-interest expense for the second three months of 2001 increased by $17,228 or 1.6% as compared to the second three months in 2000. Salaries and employee benefits decreased by $14,949 or 2.6% in second quarter of 2001 compared with the second quarter of 2000. Occupancy expense as of for the second quarter of 2001 increased by $11,808 or 8.5% over the same period in 2000. All other non-interest expenses for the second quarter of 2001 increased $21,268 or 4.6% over the non-interest expenses for the second quarter of 2000.
ALLOWANCE FOR LOAN LOSSES
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2001 2000
--------------------------- ------------------------------------------------------------
Quarter Ending June 30 March 31 December 31, September 30 June 30 March 31
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Balance at beginning of period 1,204,491 1,141,869 1,155,233 1,086,054 1,028,838 1,001,809
Loans charged-off (184,858) (115,132) (159,494) (72,003) (259,543) (170,891)
Loans recovered 43,303 12,254 90,929 51,183 60,758 39,420
----------- ----------- ------------ ------------ ---------- -----------
Net charge-offs (recoveries) (141,555) (102,878) (68,564) (20,820) (198,784) (131,471)
Provision for loan losses charged
to expense 104,500 165,500 55,200 90,000 256,000 158,500
----------- ----------- ------------ ------------ ---------- -----------
Balance at end of period 1,167,436 1,204,491 1,141,869 1,155,233 1,086,054 1,028,838
=========== =========== ============ ============ ========== ===========
Allowance for loan losses as a
percentage of average loans
outstanding for the period 1.339% 1.409% 1.360% 1.402% 1.358% 1.358%
Allowance for loan losses as a
percentage of nonperforming assets
and loans 90 days past due
outstanding for the period 211.013% 100.959% 142.709% 164.388% 136.980% 83.251%
Annualized QTD net charge-offs as
a percentage of average loans
outstanding for the period -0.649% -0.481% -0.327% -0.101% -0.994% -0.694%
Annualized YTD net charge-offs as -0.566% -0.481% -0.521% -0.590% -0.849% -0.694%
a percentage of average loans
outstanding for the period
YTD Average Outstanding Loans 86,384,793 85,465,574 80,525,815 79,399,688 77,837,484 75,760,000
QTD Average Outstanding Loans 87,179,692 85,465,574 83,980,913 82,375,120 79,974,088 75,760,000
Nonperforming assets and 553,254 1,193,044 800,137 702,746 792,858 1,235,826
loans 90 days past due
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PART II - OTHER INFORMATION
Item 1. Legal Proceedings
There are various claims and lawsuits in which the Bank is periodically involved incidental to the Bank's business. In the opinion of management, no material loss is expected from any of such pending claims or lawsuits.
Item 2. Changes in Securities
On February 4, 2000 the Company filed a registration statement on Form S-1 (SEC File Number 333-96185) to issue 150,000 shares of common stock at $13.00 a share. The Company terminated the offering on December 31, 2000 and has received commitments for approximately 70,000 shares. The Company is in the process of collecting the proceeds and will ultimately purchase Bank stock with the majority of the funds. The Company will retain the balance for working capital.
Item 3. Defaults on Senior Securities
N/A
Item 4. Submission of Matters to a Vote of Security Holders
A. The annual meeting of shareholders was held on April 19, 2001.
B. The following directors were elected to the board of directors:
Ramesh V. Amin James H. Large Turner Smith Randy Brooks Lawrence D. Levine Bill O. Wiggins B. Kenneth Driver Russell W. Lloyd Marsha Yessick Karl Fillauer Earl A. Marler, Jr.
Gregory B. Jones
Doyce G. Payne, M.D.
C. The following matters were voted upon at the annual meeting:
FOR AGAINST ABSTAIN
--- ------- -------
1. To elect the
following directors
to serve for the
ensuing year:
Ramesh V. Amin 96.0% 4.0% 0%
James H. Large 99.0% 1.0% 0%
Turner Smith 99.5% 0.5% 0%
Randy Brooks 99.5% 0.5% 0%
Lawrence D. Levine 99.0% 1.0% 0%
Bill O. Wiggins 94.0% 6.0% 0%
B. Kenneth Driver 96.5% 3.5% 0%
Russell W. Lloyd 99.0% 1.0% 0%
Marsha Yessick 98.5% 1.5% 0%
Karl Fillauer 99.5% 0.5% 0%
Earl A. Marler, Jr. 99.5% 0.5% 0%
Gregory B. Jones 99.5% 0.5% 0%
Doyce G. Payne, M.D. 99.0% 1.0% 0%
2 To ratify the 100% 0% 0%
appointment of
Hazlett, Lewis & Bieter,
PLL as independent auditors
for the fiscal year ending
December 31, 2001.
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Item 5. Other Information
None
Item 6. Exhibits and reports on Form 8-K
None
SIGNATURES
In accordance with the requirements of the Exchange Act, the registrant caused this report to be signed on its behalf by the undersigned, thereunto duly authorized.
Date: August 13, 2001
Gregory B. Jones, President & CEO
Date: August 13, 2001
Nathaniel F. Hughes, EVP & CFO