U.S. Securities and Exchange Commission
Washington, D.C. 20549
Form 10-Q
| [ ü ] | Quarterly Report Under Section 13 or 15(d) of the Securities Exchange Act of 1934 |
For the quarterly period ended September 30, 2002
| [ ] | Transition Report Under Section 13 or 15(d) of the Securities Exchange Act of 1934 |
For the transition period ended
Commission File Number 000-33227
Southern Community Financial Corporation
|
North Carolina
(State or other jurisdiction of incorporation or organization) |
56-2270620
(I.R.S. Employer Identification No.) |
|
4701 Country Club Road
Winston-Salem, North Carolina (Address of principal executive offices) |
27104
(Zip Code) |
Registrant’s telephone number, including area code (336) 768-8500
Securities Registered Pursuant to Section 12(g) of the Exchange Act:
Common Stock, No Par Value
7.25% Convertible Junior Subordinated Debentures
Guarantee with respect to 7.25% Convertible Trust Preferred Securities
Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes [ ü ] No [ ]
As of September 30, 2002, (the most recent practicable date), the registrant had outstanding 8,375,082 shares of Common Stock, no par value.
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Part I. FINANCIAL INFORMATION
Item 1 — Financial Statements
SOUTHERN COMMUNITY FINANCIAL CORPORATION
• Derived from audited financial statements
See accompanying notes.
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SOUTHERN COMMUNITY FINANCIAL CORPORATION
See accompanying notes.
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SOUTHERN COMMUNITY FINANCIAL CORPORATION
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See accompanying notes.
SOUTHERN COMMUNITY FINANCIAL CORPORATION
See accompanying notes.
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SOUTHERN COMMUNITY FINANCIAL CORPORATION
Note 1 — Basis of Presentation
The consolidated financial statements include the accounts of Southern
Community Financial Corporation and its subsidiaries, Southern Community
Capital Trust I, an issuer of the Company’s Convertible Trust Preferred
Securities, and Southern Community Bank and Trust and its wholly owned
subsidiaries, Southern Credit Services, Inc., which is engaged in the business
of accounts receivable financing, Southeastern Acceptance Corporation, a
consumer finance company, and VCS Management, LLC, the managing general partner
for Venture Capital Solutions L.P., a Small Business Investment Company. All
intercompany transactions and balances have been eliminated in consolidation.
In management’s opinion, the financial information, which is unaudited,
reflects all adjustments (consisting solely of normal recurring adjustments)
necessary for a fair presentation of the financial information as of and for
the three and nine month periods ended September 30, 2002 and 2001, in
conformity with accounting principles generally accepted in the United States
of America.
The preparation of financial statements requires management to make estimates
and assumptions that affect reported amounts of assets and liabilities at the
date of the financial statements, as well as the amounts of income and expense
during the reporting period. Actual results could differ from those estimates.
Operating results for the three and nine month periods ended September 30, 2002
are not necessarily indicative of the results that may be expected for the
fiscal year ending December 31, 2002.
The organization and business of Southern Community Financial Corporation (the
“Company”), accounting policies followed by the Company and other relevant
information are contained in the notes to the consolidated financial statements
filed as part of the Company’s 2001 annual report on Form 10-K. This quarterly
report should be read in conjunction with such annual report.
Note 2 — Comprehensive Income
Accounting principles generally require that recognized revenue, expenses,
gains and losses be included in net income. Although certain changes in assets
and liabilities, such as unrealized gains and losses on available for sale
securities, are reported as a separate component of the equity section of the
balance sheet, such items, along with net income, are components of
comprehensive income.
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SOUTHERN COMMUNITY FINANCIAL CORPORATION
Note 2 — Comprehensive Income (Continued)
The components of comprehensive income and related tax effects are as follows:
Note 3 — Investment Securities
The following table summarizes the amortized cost, gross unrealized gains and
losses and the resulting market value of securities at the dates indicated:
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SOUTHERN COMMUNITY FINANCIAL CORPORATION
Note 3 — Investment Securities (Continued)
Note 4 — Loans
Following is a summary of loans at each of the balance sheet dates presented:
Loan commitments at September 30, 2002 include commitments to extend credit of
$36.3 million and amounts available under home equity credit lines, other
credit lines and standby letters of credit of $34.6 million, $33.0 million and
$11.5 million, respectively.
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SOUTHERN COMMUNITY FINANCIAL CORPORATION
Note 4 — Loans (Continued)
An analysis of the allowance for loan losses is as follows:
Note 5 — Commitments to Acquire Property and Equipment
The Company has committed to the construction of a new corporate headquarters.
The new headquarters will be a 27,000 square foot facility to be built at a
construction cost to the Company of approximately $2.8 million on land for
which the Company paid $400,000, and will be located at 4605 Country Club Road,
Winston-Salem, North Carolina. As of September 30, 2002, the Company has paid
$2.0 million of this contract with estimated completion in the first quarter of
2003.
Note 6 — Time Deposits
Time deposits in denominations of $100,000 or more were approximately $132.3
million and $111.5 million at
September 30, 2002 and December 31, 2001, respectively.
Note 7 — Borrowings
Advances from the Federal Home Loan Bank of Atlanta outstanding at September 30, 2002 are as follows:
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SOUTHERN COMMUNITY FINANCIAL CORPORATION
Note 7 — Borrowings (Continued)
At December 31, 2001, FHLB advances with original maturities of one year or
more amounted to $25.0 million and have interest rates ranging from 4.43% to
5.35%.
In addition to the above advances, the Bank has lines of credit of $27.0
million from various correspondent banks to purchase federal funds sold on a
short-term basis, with no outstanding balance at September 30, 2002, and $100.0
million in available lines of credit under repurchase agreements, with $15.0
million outstanding at September 30, 2002.
Aggregate borrowings at September 30, 2002 amounted to $80.0 million, including
$25.0 million that is due within one year and classified as short-term
borrowings and $55.0 million due after one year that is classified as long-term
debt in the accompanying balance sheet.
Under collateral agreements with the Federal Home Loan Bank at September 30,
2002, advances are secured both by loans with a market value of $51.2 million
and pledged investment securities with a market value of $63.0 million.
In February of 2002, the Company issued 1,725,000 shares of Cumulative
Convertible Junior Subordinated Debentures, generating total proceeds of $17.3
million. These debentures have a distribution rate of 7.25% per annum payable
at the end of each calendar quarter.
Note 8 — Non-Interest Income and Other Non-Interest Expense
The major components of non-interest income are as follows:
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SOUTHERN COMMUNITY FINANCIAL CORPORATION
Note 8 — Non-Interest Income and Other Non-Interest Expense (Continued)
The major components of other non-interest expense are as follows:
Note 9 — Nonperforming Assets
The table sets forth, for the dates indicated, information with respect to
nonaccrual loans, restructured loans, total nonperforming loans (nonaccrual
loans plus restructured loans), and total nonperforming assets.
Note 10 — Net Income Per Share
Basic and diluted net income per share is computed based on the weighted
average number of shares outstanding during each period after retroactively
adjusting for a 5% stock dividend declared September 19, 2002, which was
distributed on October 15, 2002. Diluted net income per share reflects the
potential dilution that could occur if securities or other contracts to issue
common stock were exercised or converted into common stock or resulted in the
issuance of common stock that then shared in the net income of the Company.
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SOUTHERN COMMUNITY FINANCIAL CORPORATION
Note 10 — Net Income Per Share (Continued)
Basic and diluted net income per share have been computed based upon net income
as presented in the accompanying consolidated statements of operations divided
by the weighted average number of common shares outstanding or assumed to be
outstanding as summarized below:
Note 11 — Derivatives
The Company utilizes interest rate swaps in the management of interest rate
risk. Interest rate swaps are contractual agreements between two parties to
exchange a series of cash flows representing interest payments. A swap allows
both parties to alter the repricing characteristics of assets or liabilities
without affecting the underlying principal positions. Through the use of a
swap, assets and liabilities may be transformed from fixed to floating rates,
from floating rates to fixed rates, or from one type of floating rate to
another. Swap terms generally range from one year to ten years depending on
the need. At September 30, 2002, derivatives with a total notional value of
$35.0 million, with terms ranging up to three years, were outstanding.
The net interest payable or receivable on interest rate swaps that are
designated as hedges is accrued and recognized as an adjustment to the interest
income or expense of the related asset or liability. Gains and losses from
early terminations of derivatives are deferred and amortized as yield
adjustments over the shorter of the remaining term of the hedged asset or
liability or the remaining term of the derivative instrument. Upon disposition
or settlement of the asset or liability being hedged, deferral accounting is
discontinued and any gains or losses are recognized in income. Derivative
financial instruments that fail to qualify as a hedge are carried at fair value
with gains and losses recognized in current earnings.
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SOUTHERN COMMUNITY FINANCIAL CORPORATION
Note 11 — Derivatives (Continued)
The following table sets forth certain information concerning the Company’s
interest rate swaps at September 30, 2002:
The $35.0 million notional amount of derivatives used in interest rate risk
management are used to hedge prime-rate based commercial loans. The Company
does not utilize derivatives for trading purposes.
Although off-balance sheet derivative financial instruments do not expose the
Company to credit risk equal to the notional amount, such agreements generate
credit risk to the extent of the fair value gain in an off-balance sheet
derivative financial instrument if the counterparty fails to perform. Such
risk is minimized through the creditworthiness of the counterparties and the
consistent monitoring of these agreements. The counterparties to these
arrangements were primarily large commercial banks and investment banks. Where
appropriate, master netting agreements are arranged or collateral is obtained
in the form of rights to securities. At September 30, 2002, the Company’s
interest rate swaps reflected an unrealized gain of $1.3 million, which
included unrealized gains from the early termination of derivatives in the
amount of $189,000. This gain is being amortized into income over the life of
the original contract term.
Other risks associated with interest-sensitive derivatives include the effect
on fixed rate positions during periods of changing interest rates. Indexed
amortizing swaps’ notional amounts and maturities change based on certain
interest rates indices. Generally, as rates fall the notional amounts decline
more rapidly, and as rates increase notional amounts decline more slowly. At
September 30, 2002, the Company had no indexed amortizing swaps outstanding.
Under unusual circumstances, financial derivatives also increase liquidity
risk, which could result from an environment of rising interest rates in which
derivatives produce negative cash flows while being offset by increased cash
flows from variable rate loans. Such risk is considered insignificant due to
the relatively small derivative positions held by the Company.
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Item 2. Management’s Discussion and Analysis of Financial Condition and
Results of Operations
This Quarterly Report on Form 10-Q may contain certain forward-looking
statements consisting of estimates with respect to our financial condition,
results of operations and business that are subject to various factors which
could cause actual results to differ materially from these estimates. These
factors include, but are not limited to, general economic conditions, changes
in interest rates, deposit flows, loan demand, real estate values, and
competition; changes in accounting principles, policies, or guidelines; changes
in legislation or regulation; and other economic, competitive, governmental,
regulatory, and technological factors affecting our operations, pricing,
products and services.
Financial Condition at September 30, 2002 and December 31, 2001
During the nine-month period ending September 30, 2002, our total assets
increased by $113.9 million, or 23.7%, to $595.1 million. This asset growth
was funded by increases in various liabilities. Deposits increased $55.4
million, or 14.1%. In addition, during the nine-month period ending September
30, 2002, we successfully completed a public offering of trust preferred
securities, generating $17.3 million in the form of Convertible Junior
Subordinated Debentures. Short-term borrowings and long-term debt combined
rose $35.0 million to a total of $80.0 million at period end.
Consistent with prior periods, a substantial portion of our growth resulted
from strong loan demand. At September 30, 2002, loans totaled $410.6 million,
an increase of $50.3 million or 14.0% during the nine months. This growth was
spread primarily to our commercial mortgage loans, which increased by $46.8
million, or 52.4%. We also generated growth of $1.5 million and $3.2 million,
respectively, in construction loans and consumer loans. Offsetting this growth
was a moderate decrease among our commercial and industrial loans, which
decreased $1.8 million, or 2.3%.
Our total liquid assets, defined as cash and due from banks, federal funds sold
and investment securities, increased by $57.3 million during the nine months,
to $164.3 million at September 30, 2002 versus $107.0 million at the beginning
of the period. Our composition of liquid assets has shifted to take advantage
of the more favorable interest rates that are being paid on investment
securities as compared to overnight investments. We decreased our investment in
federal funds sold from $22.9 million at December 31, 2001 to $10.9 million at
September 30, 2002. We have chosen to invest more heavily in investment
securities available for sale, which we increased by $75.2 million to $105.9
million at September 30, 2002 versus $30.7 million at December 31, 2001. As a
result of the activity during the period, our portfolio of held to maturity
investments declined from $34.5 million to $31.8 million.
Customer deposits continue to be our primary funding source. At September 30,
2002, deposits totaled $448.2 million, an increase of $55.4 million or 14.1%
from year-end 2001. In February of 2002, we completed our trust preferred
securities offering which provided $17.3 million of additional funding in the
form of Convertible Junior Subordinated Debentures. We increased our
short-term borrowings through an increase in repurchase lines of credit in the
amount of $5.0 million. We have also increased long-term debt by $30.0
million, utilizing the lower interest rates being offered by the Federal Home
Loan Bank of Atlanta. We will utilize various funding sources, as necessary,
to support balance sheet management and growth. However, we believe that as
our branch network grows and matures, the volume of core deposits will become a
relatively larger portion of our funding mix, which should contribute to a
reduction in our overall funding cost.
Our capital position remains strong, with all of our regulatory capital ratios
at levels that make us “well capitalized” under federal bank regulatory capital
guidelines. At September 30, 2002, our stockholders’ equity totaled $46.6
million, an increase of $4.1 million from the December 31, 2001 balance.
Increases included net income from operations during the period of $2.1
million, proceeds from the issuance of common stock in the amount of $82,000,
net unrealized gains on investment securities available for sale of $1.0
million, net of tax, and unrealized gains on cash flow hedging activities in
the amount of $864,000, net of tax. Our regulatory capital was supplemented
during the period by issuance of the Convertible Junior Subordinated Debentures
discussed above.
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Results of Operations for the Three Months Ended September 30, 2002 and 2001
Net Income.
Our net income for the three months ended September 30, 2002 was
$936,000, an increase of $429,000 from the same three-month period in 2001. Net
income per share was $.11 basic and $.10 diluted for the three months ended
September 30, 2002, as compared with $.06 basic and diluted for the same period
in 2001. We have continued to experience strong growth, with total assets
averaging $558.9 million during the current three-month period as compared to
$443.4 million in the prior period, an increase of 26.0%. Our interest rate
spread and net yield on average interest-earning assets increased 48 basis
points and 23 basis points, respectively. Our growth in net interest income of
33.7%, as compared with the same period in 2001, a decrease in our loan loss
provision in the amount of $225,000 and an increase in our non-interest income
in the amount of $225,000 were partially offset by an increase in non-interest
expenses of 33.9%. Our expense growth included the costs of new branches,
additional branch personnel, and personnel costs associated with expansion of
our business. While these expenses represent investments in building our
franchise, they initially create a drag on earnings.
Net Interest Income.
During the three months ended September 30, 2002, our net
interest income increased by $1.2 million or 33.7% to $4.7 million. Our total
interest income benefited from strong growth in the level of average earning
assets, which offset lower asset yields caused by the decline in interest rates
from period to period. The rates earned on a significant portion of our loans
adjust immediately when index rates such as our prime rate change. Conversely,
most of our interest-bearing liabilities, including certificates of deposit and
borrowings, have rates fixed until maturity. As a result, interest rate
reductions will generally result in an immediate drop in our interest income on
loans, with a delayed impact on interest expense because reductions in interest
costs will only occur upon renewals of certificates of deposit or borrowings.
Because rates have stabilized at a lower level during 2002, downward repricings
of our interest-bearing liabilities have been larger than our downward
repricings of our interest-earning assets. Average total interest-earning
assets increased $104.5 million, or 25.1%, during the three months ended
September 30, 2002 as compared to the same period in 2001. Our average yields
on total interest-earning assets decreased by 111 basis points from 7.70% to
6.59%. Our average total interest-bearing liabilities increased by $105.7
million, or 28.4%, consistent with the increase in interest-earning assets.
Our average cost of total interest-bearing liabilities decreased by 158 basis
points from 4.86% to 3.28%. For the three months ended September 30, 2002, our
net interest spread was 3.32% and our net interest margin was 3.58%. For the
three months ended September 30, 2001, our net interest spread was 2.84% and
our net interest margin was 3.35%.
Provision for Loan Losses.
Our provision for loan losses for the three months
ended September 30, 2002 was $400,000, representing a decrease of $225,000 from
the $625,000 provision we made for the three months ended September 30, 2001.
We have continued to increase the level of our allowance for loan losses in
response to the growth in our loan portfolio. In evaluating the allowance for
loan losses, we consider factors that include growth, composition and industry
diversification of the portfolio, historical loan loss experience, current
delinquency levels, adverse situations that may affect a borrower’s ability to
repay, estimated value of any underlying collateral, prevailing economic
conditions and other relevant factors. We have decreased our provision during
the current three-month period in part because of the lower level of net loan
charge-offs, which totaled $247,000 during the three months ended September 30,
2002, down from $407,000 during the three months ended September 30, 2001. On
an annualized basis, our percentage of net loan charge-offs to average loans
outstanding was .25% and .50% for the three months ended September 30, 2002 and
2001, respectively. Non-performing assets increased to $2.4 million, or 0.41%
of total assets at September 30, 2002 from $1.3 million, or 0.27% of total
assets at December 31, 2001. The increase is primarily the result of a single
relationship with which the bank has a secured position. At September 30, 2002,
the allowance for loan losses stood at $6.1 million. We believe that the
allowance is adequate to absorb losses inherent in our loan portfolio.
Non-Interest Income.
For the three months ended September 30, 2002,
non-interest income increased by $225,000 or 28.7% to $1.0 million from
$784,000 for the same period the prior year. Increases for the three months
ended September 30, 2002 include an increase of $52,000, or 23.1%, in service
charges and fees on deposit accounts as a result of deposit growth, increases
of $131,000, or 55.7%, in mortgage origination operations as the level of
mortgage refinancings has increased due to the favorable interest rate market
for such loans. Other operational income increased by $42,000, or 13.0%.
Non-Interest Expense
. We strive to maintain non-interest expenses at levels
that we believe are appropriate given the nature of our operations and the
investments in personnel and facilities that have been necessary to support and
service
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our growth. From 1998 forward through the current three-month period, we have
consistently maintained our ratio of non-interest expenses to average total
assets below 3%. Because of our growth we have consistently seen increases in
every major component of our non-interest expenses. For the three months ended
September 30, 2002, our non-interest expense increased $981,000, or 33.9% over
the same period in 2001. Salaries and employee benefit expense increased
$609,000, or 40.8%, and reflects the addition of personnel in our new branches
as well as additions of personnel to expand our business, and, to a lesser
degree, normal salary increases. Occupancy and equipment expense increased
$107,000, or 20.2%. Other expenses increased $265,000, or 30.5%, reflecting
the increased volume of business activity, principally increases in lending and
growth in deposit accounts. For the three months ended September 30, 2002, on
an annualized basis, our ratio of non-interest expenses to average total assets
increased to 2.77% as compared with 2.61% for the same three months in 2001.
Provision for Income Taxes.
Our provision for income taxes, as a percentage of
income before income taxes, was 35.0% and 35.4%, respectively, for the three
months ended September 30, 2002 and 2001.
Results of Operations for the Nine Months Ended September 30, 2002 and 2001
Net Income.
Our net income for the nine-months ended September 30, 2002 was
$2.2 million, an increase of $462,000 from the same nine-month period in 2001.
Net income per share was $.25 basic and $.24 diluted for the nine months ended
September 30, 2002, as compared with $.20 basic and $.19 diluted for the same
period in 2001.
We have continued to experience strong growth, with total assets averaging
$537.2 million during the current nine-month period as compared to $414.6
million in the prior period, an increase of 29.6%. Because of the downward
trend in interest rates from period to period, resulting in dramatically lower
yields during the current nine month period as compared with the same period in
2001, our increase in net interest income over the nine month period was
slightly lower in comparison with our average asset growth. Our growth in net
interest income of 26.8%, as compared with the same period in 2001, and a
decrease in our loan loss provision in the amount of $320,000 were primarily
offset by an increase in non-interest expenses of 27.5%. Our expense growth
included the costs of new branches, additional branch personnel, as well as
personnel costs associated with expansion of our business. While these
expenses represent investments in building our franchise, they initially create
a drag on earnings.
Net Interest Income.
During the nine months ended September 30, 2002, our net
interest income increased by $2.6 million or 26.8% to $12.4 million. Our total
interest income benefited from strong growth in the level of average earning
assets, which offset lower asset yields caused by the decline in interest rates
that occurred from period to period. The rates earned on a significant portion
of our loans adjust immediately when index rates such as our prime rate change.
Conversely, most of our interest-bearing liabilities, including certificates
of deposit and borrowings, have rates fixed until maturity. As a result,
interest rate reductions will generally result in an immediate drop in our
interest income on loans, with a delayed impact on interest expense because
reductions in interest costs will only occur upon renewals of certificates of
deposit or borrowings. Because rates have stabilized at a lower level during
2002, downward repricings of our interest-bearing liabilities have been larger
than our downward repricings of our interest-earning assets. Average total
interest-earning assets increased $114.9 million, or 29.4%, during the first
nine months of 2002 as compared to the same period in 2001. Our average yield
on total interest-earning assets decreased by 175 basis points from 8.19% to
6.44%. Our average total interest-bearing liabilities increased by $111.4
million, or 32.1%, consistent with the increase in interest-earning assets.
Our average cost of total interest-bearing liabilities decreased by 198 basis
points from 5.46% to 3.48%. For the nine months ended September 30, 2002, our
net interest spread was 2.96% and our net interest margin was 3.29%. For the
nine months ended September 30, 2001, our net interest spread was 2.74% and our
net interest margin was 3.35%.
Provision for Loan Losses.
Our provision for loan losses for the nine months
ended September 30, 2002 was $1.2 million, representing a decrease of $320,000
from the $1.5 million provision we made for the nine months ended September 30,
2001. We have continued to increase the level of our allowance for loan losses
in response to the growth in our loan portfolio. In evaluating the allowance
for loan losses, we consider factors that include growth, composition and
industry diversification of the portfolio, historical loan loss experience,
current delinquency levels, adverse situations that may affect a borrower’s
ability to repay, estimated value of any underlying collateral, prevailing
economic conditions and other relevant factors. We have decreased our
provision during the current nine-month period in part because of the lower
level of net loan charge-offs, which totaled $451,000 during the nine months
ended September 30,
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2002, down from $804,000 during the nine months ended September 30, 2001. On an
annualized basis, our percentage of net loan charge-offs to average loans
outstanding was .16% and .35% for the nine months ended September 30, 2002 and
2001, respectively. Non-performing assets increased to $2.4 million, or 0.41%
of total assets at September 30, 2002 from $1.3 million, or 0.27% of total
assets at December 31, 2001. The increase is primarily the result of a single
relationship with which the bank has a secured position. We consistently
provide for our allowance for loan losses. Loss reserves of $6.1 million and
$5.4 million represented 1.49% and 1.50% of total loans as of September 30,
2002, and December 31, 2001, respectively. We believe that the allowance is
adequate to absorb losses inherent in our loan portfolio.
Non-Interest Income.
For the nine months ended September 30, 2002,
non-interest income increased by $37,000, or 1.4%, to $2.7 million. Although
the core non-interest income components increased $226,000 and there were gains
on sales of investment securities of $69,000 during the nine months ended
September 30, 2002, the same period in 2001 included non-recurring income of
$383,000 from an interest rate floor contract. Increases for the nine months
ended September 30, 2002 include an increase of $180,000, or 28.6%, in service
charges and fees on deposit accounts as a result of deposit growth, and an
increase of $46,000 in other operational income.
Non-Interest Expense
. We strive to maintain non-interest expenses at levels
that we believe are appropriate given the nature of our operations and the
investments in personnel and facilities that have been necessary to support and
service our growth. From 1998 forward through the current nine-month period,
we have consistently maintained our ratio of non-interest expenses to average
total assets below 3%. Because of our growth, we have consistently seen
increases in every major component of our non-interest expenses. For the nine
months ended September 30, 2002, our non-interest expense increased $2.3
million, or 27.5% over the same period in 2001. Salaries and employee benefit
expense increased $1.3 million, or 31.2%, and reflects the addition of
personnel in our new branches as well as additions of personnel to expand our
business, and, to a lesser degree, normal salary increases. Occupancy and
equipment expense increased $317,000, or 20.8%. Other expenses increased
$667,000, or 25.6%, reflecting the increased volume of business activity,
principally increases in lending and growth in deposit accounts. For the nine
months ended September 30, 2002, on an annualized basis, our ratio of
non-interest expenses to average total assets improved to 2.63% as compared
with 2.67% for the same nine months in 2001.
Provision for Income Taxes.
Our provision for income taxes, as a percentage of
income before income taxes, was 34.9% and 35.1%, respectively, for the nine
months ended September 30, 2002 and 2001.
Liquidity and Capital Resources
Market and public confidence in our financial strength and in the strength of
financial institutions in general will largely determine our access to
appropriate levels of liquidity. This confidence is significantly dependent on
our ability to maintain sound asset quality and appropriate levels of capital
resources.
Liquidity is defined as our ability to meet anticipated customer demands for
funds under credit commitments and deposit withdrawals at a reasonable cost and
on a timely basis. Management measures our liquidity position by giving
consideration to both on- and off-balance sheet sources of, and demands for,
funds on a daily and weekly basis.
Sources of liquidity include cash and cash equivalents, net of federal
requirements to maintain reserves against deposit liabilities; investment
securities eligible for pledging to secure borrowings from dealers and
customers pursuant to securities sold under repurchase agreements, investments
available for sale, loan repayments, loan sales, deposits, and borrowings from
the Federal Home Loan Bank and from correspondent banks under overnight federal
funds credit lines. In addition to interest rate-sensitive deposits, the
Company’s primary demand for liquidity is anticipated fundings under credit
commitments to customers.
Because of our continued growth, we have maintained a relatively high position
of liquidity in the form of interest-bearing bank deposits, federal funds sold,
and investment securities. These aggregated $164.3 million at September 30,
2002 compared to $107.0 million at December 31, 2001. Supplementing customer
deposits as a source of funding, we have available lines of credit in the
amounts of $27.0 million and $100.0 million from various correspondent banks to
purchase federal funds and repurchase agreements, respectively, on a short-term
basis. We also have the ability to
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borrow up to $114.2 million from the Federal Home Loan Bank of Atlanta, with
$65.0 million outstanding at September 30, 2002 and the ability to borrow up to
$107.9 million from the Federal Reserve Bank of Richmond, with no outstanding
balances at September 30, 2002. During the first quarter of 2002 we
successfully completed a trust preferred securities offering which provided
$17.3 million of additional funding in the form of Convertible Junior
Subordinated Debentures. This subordinated debt obligation also supplements
our regulatory capital. At September 30, 2002, our outstanding commitments to
extend credit consisted of loan commitments of $36.3 million and amounts
available under home equity credit lines, other credit lines and standby
letters of credit of $34.6 million, $33.0 million and $11.5 million,
respectively. We believe that our combined aggregate liquidity position is
sufficient to meet the funding requirements of loan demand and deposit
maturities and withdrawals in the near term.
We have committed to the construction of a new corporate headquarters. The new
headquarters will be built at a construction cost of approximately $2.8 million
on land for which we paid $400,000, and will be located at 4605 Country Club
Road, Winston Salem, North Carolina. As of September 30, 2002, we had paid
$2.0 million in construction costs with estimated completion in the first
quarter of 2003.
Throughout our six-year history, our loan demand has exceeded our growth in
core deposits. We have therefore relied heavily on time deposits as a source
of funds. Time deposits represented 67% of our total deposits at September 30,
2002, as compared with 66% at December 31, 2001. Certificates of deposit of
$100,000 or more represented 30% of our total deposits at September 30, 2002
and 28% at December 31, 2001. A portion of these deposits is controlled by
members of our Board of Directors and Advisory Board members, or otherwise come
from customers considered to have long-standing relationships with our
management. Based upon the nature of these relationships, management does not
believe we are subject to significant liquidity risk related to these deposits.
The Bank also utilizes brokered and
out-of-market deposits which amounted to $116.5 million at September 30, 2002.
Large time deposits are generally considered rate sensitive, however, we
believe a portion of our large time deposits are relationship-oriented, and
while we will need to pay competitive rates to retain these deposits at their
maturities, there are other subjective factors that will determine their
continued retention.
At September 30, 2002, our Tier I capital to average quarterly asset ratio was
9.4%, and all of our capital ratios exceeded the minimums established for a
well-capitalized bank by regulatory measures. Our Tier I risk-based capital
ratio at September 30, 2002 was 11.2%.
Item 3. Quantitative and Qualitative Disclosures about Market Risk
Market risk reflects the risk of economic loss resulting from adverse changes
in market price and interest rates. This risk of loss can be reflected in
diminished current market values and/or reduced potential net interest income
in future periods.
The Company’s market risk arises primarily from interest rate risk inherent in
its lending and deposit-taking and borrowing activities. The structure of the
Company’s loan and liability portfolios is such that a significant decline in
interest rates may adversely impact net market values and net interest income.
The Company does not maintain a trading account nor is the Company subject to
currency exchange risk or commodity price risk.
Management believes there has not been any significant change in the overall
analysis of financial instruments considered market risk sensitive, as measured
by the factors of contractual maturities, average interest rates and estimated
fair values, since the analysis prepared and presented in conjunction with the
Form 10-K Annual Report for the fiscal year ended December 31, 2001.
Item 4. Controls and Procedures
The Company’s management, including the Chief Executive Officer and Chief
Financial Officer, has evaluated the effectiveness of the design and operation
of the Company’s disclosure controls and procedures within 90 days prior to the
filing of this quarterly report, and, based on their evaluation, the Chief
Executive Officer and Chief Financial Officer have concluded that these
disclosure controls and procedures are effective. There were no significant
- 19 -
changes in the Company’s internal controls or in other factors that could
significantly affect these controls subsequent to the date of their evaluation.
Part II. OTHER INFORMATION
Item 6. Exhibits and Reports on Form 8-K
- 20 -
CONSOLIDATED BALANCE SHEETS
September 30, 2002
December 31, 2001*
(Unaudited)
(Amounts in thousands,
except share data)
$
15,758
$
18,878
10,883
22,926
105,864
30,678
31,776
34,529
410,578
360,288
(6,129
)
(5,400
)
404,449
354,888
15,127
12,111
11,221
7,210
$
595,078
$
481,220
$
40,619
$
36,202
106,460
95,904
301,129
260,745
448,208
392,851
25,000
19,980
55,000
25,000
17,250
—
3,027
938
548,485
438,769
40,367
40,285
3,526
1,362
2,700
804
46,593
42,451
$
595,078
$
481,220
CONSOLIDATED STATEMENTS OF OPERATIONS (Unaudited)
Three Months Ended
Nine Months Ended
September 30,
September 30,
2002
2001
2002
2001
(Amounts in thousands, except per share data)
$
6,757
$
6,617
$
18,978
$
20,125
1,431
625
3,437
1,805
436
762
1,847
1,497
32
76
102
540
8,656
8,080
24,364
23,967
370
636
1,061
1,752
2,565
3,567
8,349
11,826
1,020
361
2,514
581
3,955
4,564
11,924
14,159
4,701
3,516
12,440
9,808
400
625
1,180
1,500
4,301
2,891
11,260
8,308
1,009
784
2,654
2,617
2,102
1,493
5,469
4,168
636
529
1,842
1,525
1,133
868
3,278
2,611
3,871
2,890
10,589
8,304
1,439
785
3,325
2,621
503
278
1,161
919
$
936
$
507
$
2,164
$
1,702
$
.11
$
.06
$
.25
$
.20
.10
.06
.24
.19
8,793,836
8,761,508
8,789,307
8,687,026
9,069,622
9,038,393
9,070,110
8,965,797
CONSOLIDATED STATEMENTS OF STOCKHOLDERS’ EQUITY (Unaudited)
Accumulated
Common Stock
Additional
Other
Total
Paid-in
Retained
Comprehensive
Stockholders'
Shares
Amount
Capital
Earnings
Income
Equity
(Amounts in thousands, except share data)
8,354,990
$
40,285
$
—
$
1,362
$
804
$
42,451
—
—
—
2,164
—
2,164
—
—
—
—
1,032
1,032
—
—
—
—
864
864
4,060
20,092
82
—
—
—
82
8,375,082
$
40,367
$
—
$
3,526
$
2,700
$
46,593
7,595,979
$
18,990
$
15,766
$
1,883
$
311
$
36,950
—
—
—
1,702
—
1,702
—
—
—
—
693
693
2,395
344,118
860
1,951
—
—
2,811
18,191
46
35
—
—
81
7,958,288
$
19,896
$
17,752
$
3,585
$
1,004
$
42,237
CONSOLIDATED STATEMENTS OF CASH FLOWS (Unaudited)
Nine Months Ended
September 30,
2002
2001
(Amounts in thousands)
$
2,164
$
1,702
956
737
1,180
1,500
(69
)
—
(3
)
—
(19
)
—
(3,452
)
(2,186
)
2,089
(133
)
2,846
1,620
12,043
17,916
(111,771
)
(2,061
)
(23,251
)
(35,000
)
17,054
7,622
26,000
11,996
21,220
—
(50,910
)
(50,350
)
208
—
(3,922
)
(2,158
)
3
—
292
—
(641
)
(2,000
)
(113,675
)
(54,035
)
55,357
20,331
5,020
1,000
30,000
29,000
17,250
—
82
2,892
107,709
53,223
(3,120
)
808
18,878
11,197
$
15,758
$
12,005
Notes to Consolidated Financial Statements
Three Months Ended
Nine Months Ended
September 30,
September 30,
2002
2001
2002
2001
(Amounts in thousands)
$
936
$
507
$
2,164
$
1,702
—
—
(70
)
—
1,258
780
1,760
1,130
(484
)
(302
)
(658
)
(437
)
774
478
1,032
693
1,085
—
1,311
—
(19
)
—
(19
)
—
(341
)
—
(428
)
—
725
—
864
—
1,499
478
1,896
693
$
2,435
$
985
$
4,060
$
2,395
Gross
Gross
Amortized
Unrealized
Unrealized
Market
Cost
Gains
Losses
Value
September 30, 2002
(Amounts in thousands)
$
26,436
$
904
$
—
$
27,340
71,600
2,095
—
73,695
4,829
—
—
4,829
$
102,865
$
2,999
$
—
$
105,864
$
31,000
$
332
$
51
$
31,281
525
21
—
546
251
11
—
262
$
31,776
$
364
$
51
$
32,089
Notes to Consolidated Financial Statements
Gross
Gross
Amortized
Unrealized
Unrealized
Market
Cost
Gains
Losses
Value
December 31, 2001
(Amounts in thousands)
$
22,172
$
1,162
$
—
$
23,334
4,271
147
—
4,418
2,926
—
—
2,926
$
29,369
$
1,309
$
—
$
30,678
$
33,500
$
664
$
2
$
34,162
1,029
34
—
1,063
$
34,529
$
698
$
2
$
35,225
September 30, 2002
December 31, 2001
Percent
Percent
Amount
of Total
Amount
of Total
(Amounts in thousands)
$
105,946
25.8
%
$
105,357
29.2
%
136,158
33.1
%
89,354
24.8
%
63,081
15.4
%
61,558
17.1
%
76,022
18.5
%
77,820
21.6
%
29,371
7.2
%
26,199
7.3
%
410,578
100.0
%
360,288
100.0
%
6,129
5,400
$
404,449
$
354,888
Notes to Consolidated Financial Statements
Three Months Ended
Nine Months Ended
September 30,
September 30,
2002
2001
2002
2001
(Amounts in thousands)
$
5,976
$
4,761
$
5,400
$
4,283
400
625
1,180
1,500
(249
)
(409
)
(494
)
(832
)
2
2
43
28
(247
)
(407
)
(451
)
(804
)
$
6,129
$
4,979
$
6,129
$
4,979
Interest
December 31,
Maturity
Rate
2001
(Amounts in thousands)
4.84
%
$
10,000
5.35
%
10,000
3.74
%
5,000
—
—
2.15% to 4.09%
20,000
3.24% to 4.43%
20,000
$
65,000
Notes to Consolidated Financial Statements
Three Months Ended
Nine Months Ended
September 30,
September 30,
2002
2001
2002
2001
(Amounts in thousands)
$
277
$
225
$
810
$
630
366
235
781
764
102
77
185
144
138
139
414
426
—
—
—
383
126
108
464
270
$
1,009
$
784
$
2,654
$
2,617
Notes to Consolidated Financial Statements
Three Months Ended
Nine Months Ended
September 30,
September 30,
2002
2001
2002
2001
(Amounts in thousands)
$
85
$
74
$
243
$
258
144
110
419
367
350
186
954
677
46
70
164
208
508
428
1,498
1,101
$
1,133
$
868
$
3,278
$
2,611
September 30,
December 31,
2002
2001
(Amounts in thousands)
$
2,185
$
894
—
—
2,185
894
248
347
$
2,433
$
1,241
$
236
$
—
6,129
5,400
.59
%
.25
%
1.49
%
1.50
%
.41
%
.26
%
Notes to Consolidated Financial Statements
Three Months Ended
Nine Months Ended
September 30,
September 30,
2002
2001
2002
2001
8,793,836
8,761,508
8,789,307
8,687,026
275,786
276,885
280,803
278,771
9,069,622
9,038,393
9,070,110
8,965,797
Notes to Consolidated Financial Statements
Notional Amount
(Amounts in thousands)
$
35,000
6.44
%
4.75
%
$
1,108
$
—
50,000
—
(15,000
)
$
35,000
$
35,000
(a)
Exhibits.
99.1
Certification Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002
(b)
Reports on Form 8-K.
Two reports on Form 8-K were filed by the Company during the quarter
ended September 30, 2002. One report was filed on July 24, 2002 to
report financial results for the second quarter and six months ended
June 30, 2002.
Another report was filed on September 27, 2002 to announce that the
Board of Directors had declared a five percent stock dividend to
common stock shareholders. The dividend was paid October 15, 2002
to shareholders of record on October 1, 2002.
SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934, the
Company has duly caused this report to be signed on its behalf by the
undersigned thereunto duly authorized.
- 21 -
SOUTHERN COMMUNITY FINANCIAL CORPORATION
Date:
November 13, 2002
By:
/s/ F. Scott Bauer
F. Scott Bauer
Chairman and Chief Executive Officer
Date:
November 13, 2002
By:
/s/ Richard M. Cobb
Richard M. Cobb
Executive Vice President, Chief Operating Officer
and Chief Financial Officer
CERTIFICATION OF PRINCIPAL EXECUTIVE OFFICER
Pursuant to Section 302 of the Sarbanes-Oxley Act of 2002
I, F. Scott Bauer, certify that:
- 22 -
(1)
I have reviewed this quarterly report on Form 10-Q of Southern Community
Financial Corporation, a North Carolina holding company (the
“registrant”);
(2)
Based on my knowledge, this quarterly report does not contain any untrue
statement of a material fact or omit to state a material fact necessary to
make the statements made, in light of the circumstances under which such
statements were made, not misleading with respect to the periods covered
by this quarterly report;
(3)
Based on my knowledge, the financial statements, and other financial
information included in this quarterly report, fairly present in all
material respects the financial condition, results of operations and cash
flows of the registrant as of, and for, the periods presented in this
quarterly report;
(4)
The registrant’s other certifying officer and I are responsible for
establishing and maintaining disclosure controls and procedures (as
defined in Exchange Act Rules 13a-14 and 15d-14) for the registrant and
have:
(a)
designed such disclosure controls and procedures to ensure that
material information relating to the registrant, including its
consolidated subsidiaries, is made known to us by others within those
entities, particularly during the period in which this quarterly report
is being prepared;
(b)
evaluated the effectiveness of the registrant’s disclosure controls
and procedures as of a date within 90 days prior to the filing date of
this quarterly report (the “Evaluation Date”); and
(c)
presented in this quarterly report our conclusions about the
effectiveness of the disclosure controls and procedures based on our
evaluation as of the Evaluation Date;
(5)
The registrant’s other certifying officer and I have disclosed, based on
our most recent evaluation, to the registrant’s auditors and the audit
committee of the registrant’s board of directors:
(a)
all significant deficiencies in the design or operation of internal
controls which could adversely affect the registrant’s ability to
record, process, summarize and report financial data and have
identified for the registrant’s auditors any material weaknesses in
internal controls; and
(b)
any fraud, whether or not material, that involves management or
other employees who have a significant role in the registrant’s
internal controls;
(6)
The registrant’s other certifying officer and I have indicated in this
quarterly report whether or not there were significant changes in internal
controls or in other factors that could significantly affect internal
controls subsequent to the date of our most recent evaluation, including
any corrective actions with regard to significant deficiencies and
material weaknesses.
Date: November 13, 2002
By:
/s/ F. Scott Bauer
F. Scott Bauer
Chairman and Chief Executive Officer
CERTIFICATION OF PRINCIPAL FINANCIAL OFFICER
Pursuant to Section 302 of the Sarbanes-Oxley Act of 2002
I, Richard M. Cobb, certify that:
(1)
I have reviewed this quarterly report on Form 10-Q of Southern Community
Financial Corporation, a North Carolina holding company (the
“registrant”);
(2)
Based on my knowledge, this quarterly report does not contain any untrue
statement of a material fact or omit to state a material fact necessary to
make the statements made, in light of the circumstances under which such
statements were made, not misleading with respect to the periods covered
by this quarterly report;
(3)
Based on my knowledge, the financial statements, and other financial
information included in this quarterly report, fairly present in all
material respects the financial condition, results of operations and cash
flows of the registrant as of, and for, the periods presented in this
quarterly report;
(4)
The registrant’s other certifying officer and I are responsible for
establishing and maintaining disclosure controls and procedures (as
defined in Exchange Act Rules 13a-14 and 15d-14) for the registrant and
have:
(a)
designed such disclosure controls and procedures to ensure that
material information relating to the registrant, including its
consolidated subsidiaries, is made known to us by others within those
entities, particularly during the period in which this quarterly report
is being prepared;
(b)
evaluated the effectiveness of the registrant’s disclosure controls
and procedures as of a date within 90 days prior to the filing date of
this quarterly report (the “Evaluation Date”); and
(c)
presented in this quarterly report our conclusions about the
effectiveness of the disclosure controls and procedures based on our
evaluation as of the Evaluation Date;
(5)
The registrant’s other certifying officer and I have disclosed, based on
our most recent evaluation, to the registrant’s auditors and the audit
committee of the registrant’s board of directors:
(a)
all significant deficiencies in the design or operation of internal
controls which could adversely affect the registrant’s ability to
record, process, summarize and report financial data and have
identified for the registrant’s auditors any material weaknesses in
internal controls; and
(b)
any fraud, whether or not material, that involves management or
other employees who have a significant role in the registrant’s
internal controls;
(6)
The registrant’s other certifying officer and I have indicated in this
quarterly report whether or not there were significant changes in internal
controls or in other factors that could significantly affect internal
controls subsequent to the date of our most recent evaluation, including
any corrective actions with regard to significant deficiencies and
material weaknesses.
Date: November 13, 2002
By:
/s/ Richard M. Cobb
Richard M. Cobb
Executive Vice President, Chief Operating Officer
and Chief Financial Officer
- 23 -
Exhibit 99.1
Certification Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002
The undersigned hereby certifies that, to his knowledge, (i) the Form 10-Q filed by Southern Community Financial Corporation (the “Issuer”) for the quarter ended September 30, 2002, fully complies with the requirements of Section 13(a) or 15(d) of the Securities Exchange Act of 1934, and (ii) the information contained in that report fairly presents, in all material respects, the financial condition and results of operations of the Issuer on the dates and for the periods presented therein.
| SOUTHERN COMMUNITY FINANCIAL CORPORATION | ||||
| Date: November 13, 2002 | By: | /s/ F. Scott Bauer | ||
|
|
||||
|
F. Scott Bauer
Chairman and Chief Executive Officer |
||||
| Date: November 13, 2002 | By: | /s/ Richard M. Cobb | ||
|
|
||||
|
Richard M. Cobb
Executive Vice President, Chief Operating Officer and Chief Financial Officer |
||||