UNITED
STATES
SECURITIES
AND EXCHANGE COMMISSION
Washington,
D.C. 20549
Form
10-K/A
(Mark
One)
|
x
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ANNUAL
REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE
ACT OF
1934
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For
the fiscal year ended December 31, 2006
or
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o
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TRANSITION
REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE
ACT OF
1934
|
For
the Transition Period From _____ to _____
Commission
file number 0-12247
Southside
Bancshares, Inc.
(Exact
name of registrant as specified in its charter)
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Texas
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75-1848732
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(State
of incorporation)
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(I.R.S.
Employer Identification No.)
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1201
S. Beckham Avenue, Tyler, Texas
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75701
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|
(Address
of Principal Executive Offices)
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(Zip
Code)
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Registrant's
telephone number, including area code: (903) 531-7111
Securities
registered pursuant to Section 12(b) of the Act:
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Title
of each class
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Name
of each exchange on which registered
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|
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COMMON
STOCK, $1.25 PAR VALUE
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NASDAQ
Global Select Market
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Securities
registered pursuant to Section 12(g) of the Act:
NONE
Indicate
by check mark if the registrant is a well-known seasoned issuer, as defined
in
Rule 405 of the Securities Act.
YES o
NO
x
Indicate
by check mark if the registrant is not required to file reports pursuant to
Section 13 or Section 15(d) of the Act. YES o
NO
x
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 x
NO
o
Indicate
by check mark if disclosure of delinquent filers pursuant to Item 405 of
Regulation S-K is not contained herein, and will not be contained, to the best
of registrant's knowledge, in definitive proxy or information statements
incorporated by reference in Part III of this Form 10-K or any amendment to
this
Form 10-K. x
Indicate
by check mark whether the registrant is a large accelerated filer, an
accelerated filer, or a non-accelerated filer. See definition of “accelerated
filer and large accelerated filer” in Rule 12b-2 of the Exchange Act.
(Check
one):
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Large
accelerated filer o
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Accelerated
filer x
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Non-accelerated
filer o
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Indicate
by check mark whether the registrant is a shell company (as defined in Rule
12b-2 of the Act).
YES o
NO
x
The
aggregate market value of the common stock held by non-affiliates of the
registrant as of June 30, 2006 was $224,153,130.
As
of
February 15, 2007, 12,357,516 shares of common stock of Southside Bancshares,
Inc. were outstanding.
DOCUMENTS
INCORPORATED BY REFERENCE
Portions
of the Registrant's Proxy Statement to be filed for the Annual Meeting of
Shareholders to be held April 19, 2007 are incorporated by reference into
Part
III of this Annual Report on Form 10-K/A.
TABLE
OF CONTENTS
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Subsidiaries
of the Registrant
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Consent
of Independent Registered Public Accounting Firm
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|
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Certification
Pursuant to Section 302
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Certification
Pursuant to Section 302
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|
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Certification
Pursuant to Section 906
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EXPLANATORY
NOTE
Southside
Bancshares, Inc. (the “Company”) hereby amends the Company’s Annual Report on
the Form 10-K for the year ended December 31, 2006, originally filed
with the
Securities and Exchange Commission on March 2, 2007.
This
amendment is being filed to reflect the restatement of the Company’s
Consolidated Statement of Cash Flows, as discussed in Note 2 contained
herein,
and other information related to such restated financial
information. Except for Items 8 and 9A of Part II, and Item
15(a)1. of Part IV, no other information included in the original report
on Form
10-K is amended by this Form 10-K/A.
PART
I
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ITEM
1.
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BUSINESS
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FORWARD-LOOKING
INFORMATION
The
disclosures set forth in this item are qualified by the section captioned
“Forward-Looking Information” in “Item 7. Management’s Discussion and Analysis
of Financial Condition and Results of Operations” of this Annual Report on Form
10-K/A and other cautionary statements set forth elsewhere in this
report.
GENERAL
Southside
Bancshares, Inc., incorporated in Texas in 1982, is a bank holding company
for
Southside Bank, a Texas state bank headquartered in Tyler, Texas. Tyler has
a
metropolitan area population of approximately 191,000 and is located
approximately 90 miles east of Dallas, Texas and 90 miles west of Shreveport,
Louisiana. We have the largest deposit base in the Tyler metropolitan area
and
are the largest bank based on asset size headquartered in East Texas.
At
December 31, 2006, our total assets were $1.89 billion, total loans were $759.1
million, deposits were $1.28 billion, and shareholders’ equity was $110.6
million. Our net income was $15.0 million and $14.6 million and fully diluted
earnings per common share were $1.18 and $1.15 for the years ended December
31,
2006 and 2005, respectively. We have paid a cash dividend every year since
1970.
We
are a
community-focused financial institution that offers a full range of financial
services to individuals, businesses, municipal entities, and non-profit
organizations in the communities we serve. These services include consumer
and
commercial loans, deposit accounts, trust services, safe deposit services and
brokerage services.
Our
consumer loan services include 1-4 family residential mortgage loans, home
equity loans, home improvement loans, automobile loans and other installment
loans. Commercial loan services include short-term working capital loans for
inventory and accounts receivable, short and medium-term loans for equipment
or
other business capital expansion, commercial real estate loans and municipal
loans. We also offer construction loans for 1-4 family residential and
commercial real estate.
During
the second quarter ended June 30, 2005, we embarked upon a new regional lending
initiative. The goal of this initiative is to expand the regions in which we
lend. During 2006, we made progress identifying market areas and relationship
managers were hired. Management is continuing to identify market areas to target
and relationship managers to service those regions.
We
offer a
variety of deposit accounts with a wide range of interest rates and terms,
including savings, money market, interest and noninterest bearing checking
accounts and certificates of deposit (“CDs”). Our trust services include
investment, management, administration and advisory services, primarily for
individuals and, to a lesser extent, partnerships and corporations. At December
31, 2006, our trust department managed approximately $564 million of trust
assets. During the first six months of 2006, we sold our interest in BSC
Securities, LC. After the sale, we began offering full retail investment
services to our customers utilizing the services of Raymond James Financial
Services, Inc.
We
are
subject to comprehensive regulation, examination and supervision by the Board
of
Governors of the Federal Reserve System (the “Federal Reserve”), the Texas
Department of Banking (the “TDB”) and the Federal Deposit Insurance Corporation
(the “FDIC”), and are subject to numerous laws and regulations relating to
internal controls, the extension of credit, making of loans to individuals,
deposits, and all other facets of our operations.
Our
administrative offices are located at 1201 S. Beckham Avenue, Tyler, Texas
75701, and our telephone number is 903-531-7111. Our website can be found at
www.southside.com.
Our
public filings with the Securities and Exchange Commission (the “SEC”) may be
obtained free of charge at either our website or the SEC’s website, www.sec.gov,
as
soon
as reasonably practicable after filing with the SEC.
MARKET
AREA
We
consider
our primary market area to be all of Smith, Gregg, Cherokee, Anderson, Kaufman
and Henderson Counties in East Texas, and to a lesser extent, portions of
adjoining counties. During 2006, we opened a traditional branch in Gun Barrel
City and a full service grocery store branch in Athens, both in Henderson
County, as well as a loan production office in Forney, in Kaufman County
approximately 20 miles east of Dallas. During the second quarter of 2007, we
will open our sixth full service grocery store branch in our largest market
area, the city of Tyler, in Smith County. Our expectation is that our presence
in the Gregg, Cherokee, Anderson, Kaufman, and Henderson County market areas
will continue to grow in the future. In addition, we continue to explore new
markets in which we believe we can expand successfully.
The
principal economic activities in our market area include retail, distribution,
manufacturing, medical services, education and oil and gas industries.
Additionally, the industry base includes conventions and tourism, as well as
retirement relocation. These economic activities support a growing regional
system of medical service, retail and education centers. Tyler and Longview
are
home to several nationally recognized health care systems that represent all
major specialties.
We
serve
our markets through 27 branch locations, 16 of which are located in grocery
stores. The branches are located in and around Tyler, Longview, Lindale,
Gresham, Jacksonville, Bullard, Chandler, Seven Points, Palestine, Forney,
Gun
Barrel City, Athens and Whitehouse. Our television and radio advertising has
extended into most of these market areas for several years, providing us name
recognition throughout Smith, Gregg, and Cherokee counties along with portions
of Anderson and Henderson counties. We anticipate that continued advertising
combined with strategically placed branches should expand our name
recognition.
We
also
maintain seven motor bank facilities. Our customers may also access various
banking services through our 40 Automatic Teller Machines (“ATMs”) and ATMs
owned by others, through debit cards, and through our automated telephone,
internet and electronic banking products. These products allow our customers
to
apply for loans from their computers, access account information and conduct
various other transactions from their telephones and computers.
THE
BANKING INDUSTRY IN TEXAS
The
banking industry is affected by general economic conditions such as interest
rates, inflation, recession, unemployment and other factors beyond our control.
During the last ten to fifteen years the East Texas economy has continued to
diversify, decreasing the overall impact of fluctuations in oil and gas prices;
however, the oil and gas industry is still a significant component of the East
Texas economy. During 2006, the economy in our market appeared to reflect
continued stable growth. We cannot predict whether current economic conditions
will improve, remain the same or decline.
COMPETITION
The
activities we are engaged in are highly competitive. Financial institutions
such
as savings and loan associations, credit unions, consumer finance companies,
insurance companies, brokerage companies and other financial institutions with
varying degrees of regulatory restrictions compete vigorously for a share of
the
financial services market. During 2006, the number of financial institutions
in
our market area increased, a trend that we expect will continue. Brokerage
and
insurance companies continue to become more competitive in the financial
services arena and pose an ever increasing challenge to banks. Legislative
changes also greatly affect the level of competition we face. Federal
legislation allows credit unions to use their expanded membership capabilities,
combined with tax-free status, to compete more fiercely for traditional bank
business. The tax-free status granted to credit unions provides them a
significant competitive advantage. Additionally, we must compete against several
institutions located in Texas and elsewhere in our market area which have
capital resources and legal lending limits substantially in excess of those
available to us. We face competition from institutions that offer products
and
services we do not or cannot currently offer. Some institutions we compete
with
offer interest rate levels on loan and deposit products we are unwilling to
offer due to interest rate risk and overall profitability concerns. We expect
the level of competition to increase.
EMPLOYEES
At
February 15, 2007, we employed approximately 460 full time equivalent persons.
None of the employees are represented by any unions or similar groups, and
we
have not experienced any type of strike or labor dispute. We consider the
relationship with our employees to be good.
EXECUTIVE
OFFICERS OF THE REGISTRANT
Our
executive officers as of December 31, 2006, were as follows:
B.
G.
Hartley (Age 77), Chairman of the Board and Chief Executive Officer of Southside
Bancshares, Inc. since 1983. He also serves as Chairman of the Board and Chief
Executive Officer of Southside Bank, having served in these capacities since
Southside Bank's inception in 1960.
Sam
Dawson (Age 59), President, Secretary and Director of Southside Bancshares,
Inc.
since 1998. He also serves as President, Chief Operations Officer and Director
of Southside Bank since 1996. He became an officer of Southside Bancshares,
Inc.
in 1982 and of Southside Bank in 1975.
Robbie
N.
Edmonson (Age 74), Vice Chairman of the Board of Southside Bancshares, Inc.
and
Southside Bank since 1998. He joined Southside Bank as a vice president in
1968.
Jeryl
Story (Age 55), Executive Vice President of Southside Bancshares, Inc. since
2000, and Senior Executive Vice President - Loan Administration, Senior Lending
Officer and Director of Southside Bank, since 1996. He joined Southside Bank
in
1979 as an officer in Loan Documentation.
Lee
R.
Gibson (Age 50), Executive Vice President and Chief Financial Officer of
Southside Bancshares, Inc. and of Southside Bank since 2000. He is also a
Director of Southside Bank. He became an officer of Southside Bancshares, Inc.
in 1985 and of Southside Bank in 1984.
All
the
individuals named above serve in their capacity as officers of Southside
Bancshares, Inc. and Southside Bank and are appointed annually by the board
of
directors of each entity.
SUPERVISION
AND REGULATION
General
Banking
is a complex, highly regulated industry. Consequently, our growth and earnings
performance can be affected not only by decisions of management and national
and
local economic conditions, but also by the statutes administered by, and the
regulations and policies of, various governmental authorities. For bank holding
companies and Texas state-chartered banks, these authorities include, but are
not limited to, the Federal Reserve, the FDIC, the TDB, United States Department
of Treasury (the “Treasury Department”), the Internal Revenue Service and state
taxing authorities.
The
primary goals of the bank regulatory scheme are to maintain a safe and sound
banking system and to facilitate the conduct of sound monetary policy. In
furtherance of these goals, Congress has created several largely autonomous
regulatory agencies and enacted numerous laws that govern banks, bank holding
companies and the banking industry. The system of supervision and regulation
applicable to us establishes a comprehensive framework for our operations and
is
intended primarily for the protection of the FDIC’s deposit insurance funds, our
depositors and the public, rather than our shareholders and creditors. The
following summarizes some of the relevant laws, rules and regulations governing
banks and bank holding companies, but does not purport to be a complete summary
of all applicable laws, rules and regulations governing banks and bank holding
companies. The descriptions are qualified in their entirety by reference to
the
specific statutes and regulations discussed.
Holding
Company Regulation
The
Bank Holding Company Act.
As bank
holding companies under the Bank Holding Company Act of 1956 (“BHCA”), as
amended, Southside Bancshares, Inc. and its wholly-owned subsidiary, Southside
Delaware Financial Corporation (collectively, the “Holding Companies”) are
registered with and subject to regulation by the Federal Reserve. The Holding
Companies are both required to file quarterly and other reports with, and
furnish information to, the Federal Reserve, which makes periodic inspections
of
the Holding Companies.
The
BHCA
provides that a bank holding company must obtain the prior approval of the
Federal Reserve (i) for the acquisition of more than five percent of the voting
stock in any bank or bank holding company, (ii) for the acquisition of
substantially all the assets of any bank or bank holding company or (iii) in
order to merge or consolidate with another bank holding company. The BHCA also
provides that, with certain exceptions, a bank holding company may not engage
in
any activities other than those of banking or managing or controlling banks
and
other authorized subsidiaries engaged in businesses that are closely related
to
banking or own or control more than five percent of the voting shares of any
company that is not a bank or otherwise engaged in businesses that are closely
related to banking. The Federal Reserve has deemed limited activities (such
as
leasing, consumer and commercial finance, certain financial consulting
activities and certain securities brokerage activities) to be closely related
to
banking and therefore permissible for a bank holding company.
The
BHCA
restricts the extension of credit to any bank holding company or non-banking
subsidiary by a subsidiary bank. A bank holding company and its subsidiaries
are
also prohibited from engaging in certain tying arrangements in connection with
any extension of credit, lease or sale of property or furnishing of services.
Bank anti-tying regulations are discussed in greater detail below.
Traditionally,
the activities of bank holding companies had been limited to the business of
banking and activities closely related or incidental to banking. The
Gramm-Leach-Bliley Act of 1999 (“GLBA”), which became effective on March 11,
2000, amended the BHCA and removed certain legal barriers separating the conduct
of various types of financial services businesses. In addition, GLBA
substantially revamped the regulatory scheme within which financial institutions
operate.
Under
GLBA, bank holding companies meeting certain eligibility requirements may elect
to become a “financial holding company.” A financial holding company may engage
in activities that are “financial in nature,” as well as additional activities
that the Federal Reserve or Treasury Department determine are financial in
nature or incidental or complimentary to financial activities. Under GLBA,
“financial activities” specifically include insurance brokerage and
underwriting, securities underwriting and dealing, merchant banking, investment
advisory and lending activities.
A
bank
holding company may become a financial holding company under GLBA if each of
its
subsidiary banks is “well capitalized” under the FDIC Improvement Act prompt
corrective action provisions, is “well managed” and has at least a
“satisfactory” rating under the Community Reinvestment Act. In addition, the
bank holding company must file a declaration with the Federal Reserve that
the
bank holding company elects to become a financial holding company. A bank
holding company that falls out of compliance with these requirements may be
required to cease engaging in some of its activities.
Under
GLBA, the Federal Reserve serves as the primary regulator of financial holding
companies, with supervisory authority over the parent company and limited
authority over its subsidiaries. Expanded financial activities of financial
holding companies generally will be regulated according to the type of such
financial activity: banking activities by banking regulators, securities
activities by securities regulators and insurance activities by insurance
regulators. Neither Southside Bancshares, Inc. nor Southside Delaware Financial
Corporation have elected to become a financial holding company. However, there
can be no assurance that we will not make such an election in the
future.
Interstate
Banking.
Federal
banking law generally provides that a bank holding company may acquire or
establish banks in any state of the United States, subject to certain age and
deposit concentration limits. In approving acquisitions by bank holding
companies of banks and companies engaged in banking-related activities under
Sections 3 and 4 of the BHCA, the Federal Reserve considers a number of factors,
including expected benefits to the public such as greater convenience, increased
competition, or gains in efficiency, as weighed against the risks of possible
adverse effects, such as undue concentration of resources, decreased or unfair
competition, conflicts of interest, or unsound banking practices. In addition,
Texas banking laws permit a bank holding company that owns stock of a bank
located outside the State of Texas to acquire a bank or bank holding company
located in Texas. This type of acquisition may occur only if the Texas bank
to
be directly or indirectly controlled by the out-of-state bank holding company
has existed and continuously operated as a bank for a period of at least five
years. In any event, a bank holding company may not own or control banks in
Texas the deposits of which would exceed 20% of the total deposits of all
federally-insured deposits in Texas. We have no present plans to acquire or
establish banks outside the State of Texas but have not eliminated the
possibility of doing so.
Capital
Adequacy.
Each of
the federal banking agencies, including the Federal Reserve and the FDIC, has
issued substantially similar risk-based and leverage capital guidelines
applicable to banking organizations they supervise, including bank holding
companies and banks. Under the risk-based capital requirements, the Holding
Companies and Southside Bank are each generally required to maintain a minimum
ratio of total capital to risk-weighted assets (including certain off-balance
sheet activities, such as standby letters of credit) of 8%. At least half of
the
total capital must be composed of common shareholders’ equity excluding
unrealized gains or losses on debt securities available for sale, unrealized
gains on equity securities available for sale and unrealized gains or losses
on
cash flow hedges, net of deferred income taxes; plus certain mandatorily
redeemable capital securities; less nonqualifying intangible assets net of
applicable deferred income taxes and certain nonfinancial equity investments.
This is called “Tier 1 capital.” The remainder may consist of qualifying
subordinated debt, certain hybrid capital instruments, qualifying preferred
stock and a limited amount of the allowance for credit losses. This is called
“Tier 2 capital.” Tier 1 capital and Tier 2 capital combined are referred to as
total regulatory capital.
The
Federal Reserve requires bank holding companies that engage in trading
activities to adjust their risk-based capital ratios to take into consideration
market risks that may result from movements in market prices of covered trading
positions in trading accounts, or from foreign exchange or commodity positions,
whether or not in trading accounts, including changes in interest rates, equity
prices, foreign exchange rates or commodity prices. Any capital required to
be
maintained under these provisions may consist of a new “Tier 3 capital”
consisting of forms of short-term subordinated debt.
Each
of
the federal bank regulatory agencies, including the Federal Reserve, also has
established minimum leverage capital requirements for banking organizations.
These requirements provide that banking organizations that meet certain
criteria, including excellent asset quality, high liquidity, low interest rate
exposure and good earnings, and that have received the highest regulatory rating
must maintain a ratio of Tier 1 capital to total adjusted average assets of
at
least 3%. Institutions not meeting these criteria, as well as institutions
with
supervisory, financial or operational weaknesses, are expected to maintain
a
minimum Tier 1 capital to total adjusted average assets ratio equal to 100
to
200 basis points above that stated minimum. Holding companies experiencing
internal growth or making acquisitions are expected to maintain strong capital
positions substantially above the minimum supervisory levels without significant
reliance on intangible assets. The Federal Reserve also continues to consider
a
“tangible Tier 1 capital leverage ratio” (deducting all intangibles) and other
indicators of capital strength in evaluating proposals for expansion or new
activity.
In
addition, both the Federal Reserve and the FDIC have adopted risk-based capital
standards that explicitly identify concentrations of credit risk and the risk
arising from non-traditional activities, as well as an institution’s ability to
manage these risks, as important factors to be taken into account by each agency
in assessing an institution’s overall capital adequacy. The capital guidelines
provide that an institution’s exposure to a decline in the economic value of its
capital due to changes in interest rates be considered by the agency as a factor
in evaluating a banking organization’s capital adequacy. The agencies also
require banks and bank holding companies to adjust their regulatory capital
to
take into consideration the risk associated with certain recourse obligations,
direct credit subsidies, residual interest and other positions in securitized
transactions that expose banking organizations to credit risk.
The
ratios of Tier 1 capital, total capital to risk-adjusted assets, and leverage
capital of the Company and Southside Bank as of December 31, 2006, are
shown in the following table.
|
Capital
Adequacy Ratios of Southside Bancshares, Inc. and Southside
Bank
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|||||||||||||
|
Regulatory
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|||||||||||||
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Minimums
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|||||||||||||
|
Regulatory
|
to
be Well-
|
Southside
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Southside
|
||||||||||
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Minimums
|
Capitalized
|
Bancshares,
Inc.
|
Bank
|
||||||||||
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Risk-based
capital ratios:
|
|
||||||||||||
|
Tier
1 Capital (1)
|
4.0
|
%
|
6.0
|
%
|
16.93
|
%
|
16.26
|
%
|
|||||
|
Total
risk-based capital (2)
|
8.0
|
10.0
|
17.76
|
17.09
|
|||||||||
|
Tier
1 leverage ratio (3)
|
4.0
|
5.0
|
7.68
|
7.37
|
|||||||||
|
(1)
|
Common
shareholders’ equity excluding unrealized gains or losses on debt
securities available for sale, unrealized gains on equity securities
available for sale and unrealized gains or losses on cash flow hedges,
net
of deferred income taxes; plus certain mandatorily redeemable capital
securities, less nonqualifying intangible assets net of applicable
deferred income taxes, and certain nonfinancial equity investments;
computed as a ratio of risk-weighted assets, as defined in the risk-based
capital guidelines.
|
|
(2)
|
The
sum of Tier 1 capital, a qualifying portion of the allowance for
loan
losses, qualifying subordinated debt and qualifying unrealized gains
on
available for sale equity securities; computed as a ratio of risk-weighted
assets, as defined in the risk-based capital
guidelines.
|
|
(3)
|
Tier
1 capital computed as a percentage of fourth quarter average assets
less
nonqualifying intangibles and certain nonfinancial equity
investments.
|
The
federal banking agencies, including the Federal Reserve and the FDIC, are
required to take “prompt corrective action” in respect of depository
institutions and their bank holding companies that do not meet minimum capital
requirements. The law establishes five capital categories for insured depository
institutions for this purpose: “well-capitalized,” “adequately capitalized,”
“undercapitalized,” “significantly undercapitalized” and “critically
undercapitalized.” To be considered “well-capitalized” under these standards, an
institution must maintain a total risk-based capital ratio of 10% or greater;
a
Tier 1 risk-based capital ratio of 6% or greater; a leverage capital ratio
of 5%
or greater; and must not be subject to any order or written directive to meet
and maintain a specific capital level for any capital measure. Southside
Bancshares, Inc. and Southside Bank are classified as “well-capitalized.”
Federal law also requires the bank regulatory agencies to implement systems
for
“prompt corrective action” for institutions that fail to meet minimum capital
requirements within the five capital categories, with progressively more severe
restrictions on operations, management and capital distributions according
to
the category in which an institution is placed. Failure to meet capital
requirements may also cause an institution to be directed to raise additional
capital. Federal law also mandates that the agencies adopt safety and soundness
standards relating generally to operations and management, asset quality and
executive compensation, and authorizes administrative action against an
institution that fails to meet such standards.
In
addition to the “prompt corrective action” directives, failure to meet capital
guidelines may subject a banking organization to a variety of other enforcement
remedies, including additional substantial restrictions on its operations and
activities, termination of deposit insurance by the FDIC and, under certain
conditions, the appointment of a conservator or receiver.
The
regulations also establish procedures for “downgrading” an institution to a
lower capital category based on supervisory factors other than capital.
Specifically, a federal banking agency may, after notice and an opportunity
for
a hearing, reclassify a well-capitalized institution as adequately capitalized
and may require an adequately capitalized institution or an undercapitalized
institution to comply with supervisory actions as if it were in the next lower
category if the institution is operating in an unsafe or unsound condition
or
engaging in an unsafe or unsound practice. (The FDIC may not, however,
reclassify a significantly undercapitalized institution as critically
undercapitalized).
Federal
Reserve policy requires a bank holding company to act as a source of financial
strength and to take measures to preserve and protect bank subsidiaries in
situations where additional investments in a troubled bank may not otherwise
be
warranted. In addition, where a bank holding company has more than one bank
or
thrift subsidiary, each of the bank holding company’s subsidiary depository
institutions are responsible for any losses to the FDIC as a result of an
affiliated depository institution’s failure. As a result, a bank holding company
may be required to loan money to its subsidiaries in the form of capital notes
or other instruments which qualify as capital under regulatory rules. Any such
loans from the holding company to its subsidiary banks likely will be unsecured
and subordinated to the bank’s depositors and perhaps to other creditors of the
bank.
The
regulators are considering modifications to the current regulatory capital
guidelines. It is unclear when or if such modifications will be adopted or
what
the impact on us of such modifications might be.
Dividends.
As bank
holding companies that do not, as entities, currently engage in separate
business activities of a material nature, the Holding Companies’ ability to pay
cash dividends depends upon the cash dividends received from Southside Bank.
We
must pay essentially all of our operating expenses from funds we receive from
Southside Bank. Therefore, shareholders may receive dividends from us only
to
the extent that funds are available after payment of our operating expenses.
In
general, the Federal Reserve discourages bank holding companies from paying
dividends except out of operating earnings, and the prospective rate of earnings
retention appears consistent with the bank holding company’s capital needs,
asset quality and overall financial condition. We are also subject to certain
restrictions on the payment of dividends as a result of the requirement that
we
maintain an adequate level of capital as described above and serve as a source
of strength for our subsidiaries.
Change
in Bank Control Act.
Under
the Change in Bank Control Act (“CBCA”), persons who intend to acquire control
of a bank holding company, either directly or indirectly, must give 60 days
prior notice to the Federal Reserve. “Control” would exist when an acquiring
party directly or indirectly controls at least 25% of the voting securities
or
the power to direct management or policies of the bank holding company. Under
Federal Reserve regulations, a rebuttable presumption of control would arise
with respect to an acquisition where, after the transaction, the acquiring
party
has ownership control or the power to vote at least 10% (but less than 25%)
of
the voting securities.
The
Attorney General of the United States may, within 15 days after approval by
the
Federal Reserve Board of an acquisition under Section 3 of the BHCA, bring
an
action challenging such acquisition under the federal antitrust laws, in which
case the effectiveness of such approval is stayed pending a final ruling by
the
courts. Failure of the Attorney General to challenge a Section 3 acquisition
and
the absence of a specific right of action to challenge Section 4 or CBCA
acquisitions do not, however, exempt the holding company from complying with
both state and federal antitrust laws after the acquisition is consummated
or
immunize the acquisition from future challenge under the anti-monopolization
provisions of the Sherman Act.
The
Federal Reserve has broad authority to prohibit activities of bank holding
companies and their non-bank subsidiaries which represent unsafe and unsound
banking practices or which constitute knowing or reckless violations of laws
or
regulations, if those activities caused a substantial loss to a depository
institution. These penalties can be as high as $1.0 million for each day the
activity continues.
Bank
Regulation
Southside
Bank is chartered under the laws of the State of Texas, is an “insured
institution” and a member of the FDIC’s Deposit Insurance Fund. It is not a
member of the Federal Reserve System. As such, it is subject to various
requirements and restrictions under the laws of the United States and the State
of Texas, and to regulation, supervision and regular examination by the TDB
and
the FDIC. The TDB and the FDIC have the power to enforce compliance with
applicable banking statutes and regulations. These requirements and restrictions
include requirements to maintain reserves against deposits, restrictions on
the
nature and amount of loans that may be made and the interest that may be charged
thereon and restrictions relating to investments and other activities of
Southside Bank.
Deposit
Insurance.
Our
deposits are insured up to $100,000 per depositor by the FDIC’s Deposit
Insurance Fund. As insurer, the FDIC imposes deposit premiums and is authorized
to conduct examinations and to require reporting. The FDIC assesses insurance
premiums on a bank’s deposits at a variable rate depending on the probability
that the deposit insurance fund will incur a loss with respect to the bank.
The
FDIC determines the deposit insurance assessment rates on the basis of the
bank’s capital classification and supervisory evaluations. For 2007, the minimum
assessment rate is 5 basis points on an annualized basis per $100 in assessable
deposits for the institutions the FDIC perceives to pose the least threat to
the
Deposit Insurance Fund, and 43 basis points for the highest risk institutions.
In 2006, the range was from 0 basis points to 27 basis points. In addition
to
the insurance assessment, each insured bank is subject to an assessment on
deposits to service debt issued by the Financing Corporation, a federal agency
established to finance the recapitalization of the former Federal Savings and
Loan Insurance Corporation. Our deposit insurance assessments may increase
or
decrease depending upon the risk assessment classification to which we are
assigned by the FDIC. Any increase in insurance assessments could have an
adverse effect on our earnings.
FDIC
Regulation.
In
addition to its role as insurer, the FDIC is the primary federal regulator
of
state-chartered banks, including Southside Bank, that are not members of a
Federal Reserve Bank. The FDIC issues regulations, conducts examinations,
requires the filing of reports and generally supervises and regulates the
operations of state-chartered nonmember banks. FDIC approval is required prior
to any merger or consolidation involving state, nonmember banks, or the
establishment or relocation of a branch office facility thereof. FDIC
supervision and regulation is intended primarily for the protection of
depositors and the FDIC insurance funds.
Under
the
Financial Institutions Reform, Recovery and Enforcement Act of 1989 (“FIRREA”),
a depository institution insured by the FDIC can be held liable for any loss
incurred by, or reasonably expected to be incurred by, the FDIC after August
9,
1989 in connection with (i) the default of a commonly controlled FDIC insured
depository institution or (ii) any assistance provided by the FDIC to a commonly
controlled FDIC insured depository institution in danger of default. FIRREA
provides that certain types of persons affiliated with financial institutions
can be fined by the federal regulatory agency having jurisdiction over a
depository institution with federal deposit insurance (such as Southside Bank)
up to $1 million per day for each violation of certain regulations related
(primarily) to lending to and transactions with executive officers, directors,
and principal shareholders, including the interests of these individuals. Other
violations may result in civil money penalties of $5,000 to $25,000 per day
or
in criminal fines and penalties. In addition, the FDIC has been granted enhanced
authority to withdraw or to suspend deposit insurance in certain
cases.
Activities
and Investments of Insured State-Chartered Banks.
The
FDIC generally limits the activities and equity investments of state nonmember
banks to those that are permissible for national banks. Under regulations
dealing with equity investments, an insured state bank generally may not
directly or indirectly acquire or retain any equity investment of a type, or
in
an amount, that is not permissible for a national bank. A state nonmember bank
may seek FDIC approval to engage in activities that are not permissible for
a
national bank.
Loans-to-One-Borrower.
The
aggregate amount of loans that Southside Bank will be permitted to make under
applicable FDIC regulations to any one borrower, including related entities,
is
the greater of 25% of unimpaired capital and certified surplus or $500,000.
Southside
Bank's unimpaired capital and certified surplus at December 31, 2006 was $100
million and the aggregate amount of loans that Southside Bank is permitted
to
make to any one borrower, including related entities, is $25
million.
Regulation
of Lending Activities.
Our
loans are subject to numerous federal and state laws and regulations, including
the Truth in Lending Act, the Federal Consumer Credit Protection Act, the Texas
Finance Code, the Texas Deceptive Trade Practices Act, the Equal Credit
Opportunity Act, the Real Estate Settlement Procedures Act, the Home Mortgage
Disclosure Act, the Fair Credit Reporting Act, and the Flood Disaster Protection
Act. Remedies to the borrower or consumer and penalties to us are provided
if we
fail to comply with these laws and regulations. The scope and requirements
of
these laws and regulations have expanded significantly in recent years. The
Fair
and Accurate Credit Transactions Act of 2003 (“FACTA”) substantially amended the
Fair Credit Reporting Act to impose new duties on institutions such as Southside
Bank that furnish or receive information from consumer reporting agencies.
The
new duties relate primarily to situations in which a consumer could become
the
victim of an identity theft. The Federal Trade Commission, the Federal Reserve,
the FDIC and other federal agencies are still in the process of developing
regulations implementing the FACTA provisions.
Brokered
Deposits.
Banks
also may be restricted in their ability to accept brokered deposits, depending
on their capital classification. “Well capitalized” banks are permitted to
accept brokered deposits, but all banks that are not well capitalized are not
permitted to accept such deposits. The FDIC may, on a case-by-case basis, permit
banks that are adequately capitalized to accept brokered deposits if the FDIC
determines that acceptance of such deposits would not constitute an unsafe
or
unsound banking practice with respect to the bank.
Anti-Tying
Regulations.
Under
the BHCA and Federal Reserve regulations, a bank is prohibited from engaging
in
certain tying or reciprocity arrangements with its customers. In general, a
bank
may not extend credit, lease, sell property, or furnish any services or fix
or
vary the consideration for these on the condition that (i) the customer obtain
or provide some additional credit, property, or services from or to the bank,
the bank holding company or subsidiaries thereof or (ii) the customer may not
obtain some other credit, property, or services from a competitor, except to
the
extent reasonable conditions are imposed to assure the soundness of the credit
extended. Certain arrangements are permissible: a bank may offer
combined-balance products and may otherwise offer more favorable terms if a
customer obtains two or more traditional bank products; and certain foreign
transactions are exempt from the general rule. A bank holding company or any
bank affiliate also is subject to anti-tying requirements in connection with
electronic benefit transfer services.
Dividends.
All
dividends paid by Southside Bank are paid to Southside Bancshares, Inc., the
sole indirect shareholder of Southside Bank, through Southside Delaware
Financial Corporation. Our general dividend policy is to pay dividends at levels
consistent with maintaining liquidity and preserving applicable capital ratios
and servicing obligations. The dividend policy of Southside Bank is subject
to
the discretion of the board of directors of Southside Bank and will depend
upon
such factors as future earnings, financial conditions, cash needs, capital
adequacy, compliance with applicable statutory and regulatory requirements
and
general business conditions.
The
ability of Southside Bank, as a Texas banking association, to pay dividends
is
restricted under applicable law and regulations. Southside Bank generally may
not pay a dividend reducing its capital and surplus without the prior approval
of the Texas Banking Commissioner. All dividends must be paid out of net profits
then on hand, after deducting expenses, including losses and provisions for
loan
losses. The FDIC has the right to prohibit the payment of dividends by Southside
Bank where the payment is deemed to be an unsafe and unsound banking practice.
Southside Bank is also prohibited from paying dividends that will
reduce its capital below the “well-capitalized” level as defined by the
FDIC, and as a general matter, it prefers to maintain a strong capital position
which necessarily limits the amount of dividends it is prepared to
declare and pay.
The
exact
amount of future dividends on the stock of Southside Bank will be a function
of
the profitability of Southside Bank in general (which cannot be accurately
estimated or assured), applicable tax rates in effect from year to year and
the
discretion of the board of directors of Southside Bank.
In
addition, FDIC regulations generally prohibits an FDIC-insured depository
institution from making any capital distribution (including payment of
dividends) or paying any management fee to its holding company if the depository
institution would thereafter be undercapitalized. Undercapitalized depository
institutions are subject to restrictions on borrowing from the Federal Reserve,
as well as to potentially onerous conditions under the prompt corrective action
regime, described above.
Various
other legislation, including proposals to revise the bank regulatory system
and
to limit or expand the investments that a depository institution may make with
insured funds, is from time to time introduced in Congress. The TDB and the
FDIC
will examine Southside Bank periodically for compliance with various regulatory
requirements. Such examinations, however, are for the protection of
the Deposit Insurance Fund and for depositors and not for the
protection of investors and shareholders.
Transactions
with Affiliates.
The
Holding Companies are legal entities separate and distinct from Southside Bank
and its other subsidiaries. Various legal limitations restrict Southside Bank
from lending or otherwise supplying funds to the Holding Companies or their
non-bank subsidiaries. The Holding Companies and Southside Bank are subject
to
Sections 23A and 23B of the Federal Reserve Act and Federal Reserve Regulation
W. Generally, Sections 23A and 23B (i) limit the extent to which a bank or
its
subsidiaries may engage in "covered transactions" with any one affiliate to
an
amount equal to 10% of such institution's capital stock and surplus; (ii) limit
such transactions with all affiliates to an aggregate amount equal to 20% of
such capital stock and surplus; and (iii) require that all such transactions
be
on terms that are consistent with safe and sound banking practices. The term
"covered transaction" includes the making of loans to an affiliate, the purchase
of or investment in securities issued by an affiliate, the purchase of assets
from an affiliate, the issuance of a guarantee for the benefit of an affiliate,
and similar transactions. Most loans by a bank to any of its affiliates must
be
secured by collateral in amounts ranging from 100 to 130 percent of the loan
amount, depending on the nature of the collateral. In addition, any covered
transaction by a bank with an affiliate and any sale of assets or provision
of
services to an affiliate must be on terms that are substantially the same,
or at
least as favorable, to the bank as those prevailing at the time for comparable
transactions with nonaffiliated companies. Section 23B also prohibits a bank
from purchasing low-quality assets from the bank’s affiliates, and requires that
all of a bank’s extensions of credit to an affiliate be appropriately secured by
acceptable collateral, generally United States government or agency
securities.
Under
Sections 23A and 23B of the Federal Reserve Act, an affiliate of a bank is
any
company or entity that controls, is controlled by or is under common control
with the bank. A subsidiary of a bank that is not also a depository institution
is not treated as an affiliate of a bank for purposes of Sections 23A and 23B
unless it engages in activities not permissible for a national bank to engage
in
directly.
Insider
Loans.
Under
Regulation O of the Federal Reserve, Southside Bank is restricted in the loans
that it may make to its executive officers and directors, the executive officers
and directors of Southside Bancshares, Inc., any owner of 10% or more of its
stock or the stock of Southside Bancshares, Inc., and certain entities
affiliated with any such person.
Standards
for Safety and Soundness.
The
federal banking agencies have adopted regulations and Interagency Guidelines
Prescribing Standards for Safety and Soundness (“Guidelines”) that set forth
standards for internal controls and information systems, internal audit, loan
documentation, credit underwriting, interest exposure, asset growth, asset
quality, earnings, and compensation, fees, and benefits. The Guidelines set
forth the safety and soundness standards that the federal banking agencies
use
to identify and address problems at insured depository institutions before
capital becomes impaired. Under the regulations, if the FDIC determines that
a
bank fails to meet any standards prescribed by the Guidelines, the agency may
require the bank to submit to the agency an acceptable plan to achieve
compliance with the standard, as required by the FDIC. The final regulations
establish deadlines for the submission and review of such safety and soundness
compliance plans.
Community
Reinvestment Act.
Under
the Community Reinvestment Act (“CRA”),
we have a
continuing and affirmative obligation consistent with safe and sound banking
practices to help meet the needs of our entire community, including low- and
moderate-income neighborhoods. The CRA does not establish specific lending
requirements or programs for financial institutions, nor does it limit our
discretion to develop the types of products and services that we believe are
best suited to our particular community. Current CRA regulations require that
a
bank be rated based on its actual performance in meeting community credit needs.
On a periodic basis, the FDIC is charged with preparing a written evaluation
of
our record of meeting the credit needs of the entire community and assigning
a
rating. Our regulatory agencies will take that record into account in their
evaluation of any application made by us for, among other things, approval
of
the acquisition or establishment of a branch or other deposit facility, an
office relocation, a merger or the acquisition of shares of capital stock of
another financial institution. An “unsatisfactory” CRA rating may be used as the
basis to deny an application to conduct certain business activities or to engage
in transactions with other financial institutions. In addition, as discussed
above, a bank holding company may not become a financial holding company unless
each of its subsidiary banks has a CRA rating of at least satisfactory. We
were
last examined for compliance with the CRA on April 26, 2004 and received a
rating of “outstanding.”
USA
PATRIOT Act.
Following the events of September 11, 2001, President Bush, on October 26,
2001,
signed into law the United and Strengthening America by Providing Appropriate
Tools Required to Intercept and Obstruct Terrorism Act of 2001. Also known
as
the “USA PATRIOT Act,” the law enhances the powers of the federal government and
law enforcement organizations to combat terrorism, organized crime and money
laundering. The USA PATRIOT Act significantly amends and expands the application
of the Bank Secrecy Act, including enhanced measures regarding customer
identity, new suspicious activity reporting rules and enhanced anti-money
laundering programs. Under the Act, each financial institution is required
to
establish and maintain anti-money laundering compliance and due diligence
programs, which include, at a minimum, the development of internal policies,
procedures, and controls; the designation of a compliance officer; an ongoing
employee training program; and an independent audit function to test programs.
In addition, the Act requires the bank regulatory agencies to consider the
record of a bank or bank holding company in combating money laundering
activities in their evaluation of bank and bank holding company merger or
acquisition transactions.
Privacy.
The
Gramm-Leach Bliley Act imposed new requirements on financial institutions with
respect to consumer privacy. The GLB Act generally prohibits disclosure of
consumer information to non-affiliated third parties unless the consumer has
been given the opportunity to object and has not objected to such disclosure.
Financial institutions are further required to disclose their privacy policies
to consumers annually. Financial institutions, however, will be required to
comply with state law if it is more protective of consumer privacy than the
GLB
Act. The GLB Act also directed federal regulators, including the FDIC, to
prescribe standards for the security of consumer information. Southside Bank
is
subject to such standards, as well as standards for notifying consumers in
the
event of a security breach.
Branch
Banking.
Pursuant to the Texas Finance Code, all banks located in Texas are authorized
to
branch statewide. Accordingly, a bank located anywhere in Texas has the ability,
subject to regulatory approval, to establish branch facilities near any of
our
facilities and within our market area. If other banks were to establish branch
facilities near our facilities, it is uncertain whether these branch facilities
would have a material adverse effect on our business.
In
1994,
Congress adopted the Reigle-Neal Interstate Banking and Branching Efficiency
Act
of 1994. That statute provides for nationwide interstate banking and branching,
subject to certain aging and deposit concentration limits that may be imposed
under applicable state laws. Texas law permits interstate branching in two
manners, with certain exceptions. First, a financial institution with its main
office outside of Texas may establish a branch in the State of Texas by
acquiring a financial institution located in Texas that is at least five years
old, so long as the resulting institution and its affiliates would not hold
more
than 20% of the total deposits in the state after the acquisition. In addition,
a financial institution with its main office outside of Texas generally may
establish a branch in the State of Texas on a de novo basis if the financial
institution’s main office is located in a state that would permit Texas
institutions to establish a branch on a de novo basis in that
state.
The
FDIC
has adopted regulations under the Reigle-Neal Act to prohibit an out-of-state
bank from using the interstate branching authority primarily for the purpose
of
deposit production. These regulations include guidelines to insure that
interstate branches operated by an out-of-state bank in a host state are
reasonably helping to meet the credit needs of the communities served by the
out-of-state bank.
Enforcement
Authority.
The
federal banking laws also contain civil and criminal penalties available for
use
by the appropriate regulatory agency against certain “institution-affiliated
parties” primarily including management, employees and agents of a financial
institution, as well as independent contractors such as attorneys and
accountants and others who participate in the conduct of the financial
institution’s affairs and who caused or are likely to cause more than minimum
financial loss to or a significant adverse affect on the institution, who
knowingly or recklessly violate a law or regulation, breach a fiduciary duty
or
engage in unsafe or unsound practices. These practices can include the failure
of an institution to timely file required reports or the submission of
inaccurate reports. These laws authorize the appropriate banking agency to
issue
cease and desist orders that may, among other things, require affirmative action
to correct any harm resulting from a violation or practice, including
restitution, reimbursement, indemnification or guarantees against loss. A
financial institution may also be ordered to restrict its growth, dispose of
certain assets or take other action as determined by the ordering agency to
be
appropriate. The FDIC is the appropriate regulatory agency for Southside Bank;
the Federal Reserve is the appropriate regulatory agency for the Holding
Companies.
Governmental
Monetary Policies.
The
commercial banking business is affected not only by general economic conditions
but also by the monetary policies of the Federal Reserve. Changes in the
discount rate on member bank borrowings, control of borrowings, open market
operations, the imposition of and changes in reserve requirements against member
banks, deposits and assets of foreign branches, the imposition of and changes
in
reserve requirements against certain borrowings by banks and their affiliates
and the placing of limits on interest rates which member banks may pay on time
and savings deposits are some of the instruments of monetary policy available
to
the Federal Reserve. Those monetary policies influence to a significant extent
the overall growth of all bank loans, investments and deposits and the interest
rates charged on loans or paid on time and savings deposits. The nature of
future monetary policies and the effect of such policies on our future business
and earnings, therefore, cannot be predicted accurately.
Annual
Audits.
Every
bank with total assets in excess of $500 million, such as us, must have an
annual independent audit made of the bank’s financial statements by a certified
public accountant to verify that the financial statements of the bank are
presented in accordance with United States generally accepted accounting
principles (“GAAP”) and comply with such other disclosure requirements as
prescribed by the FDIC.
Usury
Laws.
Texas
usury laws limit the rate of interest that may be charged by state banks.
Certain federal laws provide a limited preemption of Texas usury laws. The
maximum rate of interest that we may charge on direct business loans under
Texas
law varies between 18% per annum and (i) 28% per annum for business and
agricultural loans above $250,000 or (ii) 24% per annum for other direct loans.
Texas floating usury ceilings are tied to the 26-week United States Treasury
Bill Auction rate. Other ceilings apply to open-end credit card loans and dealer
paper we purchase. A federal statute removes interest ceilings under usury
laws
for our loans that are secured by first liens on residential real property.
Economic
Environment.
The
monetary policies of regulatory authorities, including the Federal Reserve,
have
a significant effect on the operating results of bank holding companies and
their subsidiaries. The Federal Reserve regulates the national supply of bank
credit. Among the means available to the Federal Reserve are open market
operations in United States Government Securities, changes in the discount
rate
on member bank borrowings, changes in reserve requirements against member and
nonmember bank deposits, and loans and limitations on interest rates which
member banks may pay on time or demand deposits. These methods are used in
varying combinations to influence overall growth and distribution of bank loans,
investments and deposits. Their use may affect interest rates charged on loans
or paid for deposits.
Also
see
discussion of "The Banking Industry in Texas" above.
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ITEM
1A.
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RISK
FACTORS
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An
investment in our common stock is subject to risks inherent to our business.
The
material risks and uncertainties that management believes affect us are
described below. Before making an investment decision, you should carefully
consider the risks and uncertainties described below together with all of the
other information included or incorporated by reference in this report. The
risks and uncertainties described below are not the only ones facing us.
Additional risks and uncertainties that management is not aware of or focused
on
or that management currently deems immaterial may also impair our business
operations. This report is qualified in its entirety by these risk factors.
If
any of
the following risks actually occur, our financial condition and results of
operations could be materially and adversely affected. If this were to happen,
the value of our common stock could decline significantly, and you could lose
all or part of your investment.
RISKS
RELATED TO OUR BUSINESS
We
are subject to interest rate risk.
Our
earnings and cash flows are largely dependent upon our net interest income.
Net
interest income is the difference between interest income earned on
interest-earning assets such as loans and securities and interest expense paid
on interest-bearing liabilities such as deposits and borrowed funds. Interest
rates are highly sensitive to many factors that are beyond our control,
including general economic conditions and policies of various governmental
and
regulatory agencies and, in particular, the Board of Governors of the Federal
Reserve System. Changes in monetary policy, changes in interest rates, changes
in the yield curve, changes in market risk spreads, and a prolonged inverted
yield curve could influence not only the interest we receive on loans and
securities and the amount of interest we pay on deposits and borrowings, but
such changes could also affect:
|
·
|
our
ability to originate loans and obtain deposits;
|
|
·
|
net
interest rate spreads and net interest rate
margins;
|
|
·
|
our
ability to enter into instruments to hedge against interest rate
risk;
|
|
·
|
the
fair value of our financial assets and liabilities; and
|
|
·
|
the
average duration of our loan and mortgage-backed securities portfolio.
|
If
the
interest rates paid on deposits and other borrowings increase at a faster rate
than the interest rates received on loans and other investments, our net
interest income, and therefore earnings, could be adversely affected. Earnings
could also be adversely affected if the interest rates received on loans and
other investments fall more quickly than the interest rates paid on deposits
and
other borrowings.
Although
management believes we have implemented effective asset and liability management
strategies to reduce the potential effects of changes in interest rates on
our
results of operations, any substantial, unexpected, prolonged change in market
interest rates could have a material adverse effect on our financial condition
and results of operations. See the section captioned “Net Interest Income” in
“Item 7. Management’s Discussion and Analysis of Financial Condition and
Results of Operations” for further discussion related to our management of
interest rate risk.
Our
interest rate risk, liquidity, market value of securities and profitability
are
subject to risks associated with the performance of the leverage
strategy.
We
implemented a leverage strategy in 1998 for the purpose of enhancing overall
profitability by maximizing the use of our capital. Risks to our leverage
strategy include reduced net interest margin and spread, adverse market value
changes to the investment and mortgage-backed and related securities, incorrect
modeling results due to the unpredictable nature of mortgage-backed securities
prepayments, the length of interest rate cycles, and the slope of the interest
rate yield curve. In addition, we may not be able to obtain wholesale funding
to
profitably and properly fund the leverage program. If our leverage strategy
is
flawed or poorly implemented, we may incur significant losses. See the section
captioned “Leverage Strategy” in “Item 7. Management’s Discussion and Analysis
of Financial Condition and Results of Operations.”
We
have a high concentration of loans secured by real estate and a downturn in
the
real estate market, for any reason, could result in losses and materially and
adversely affect our business, financial condition, results of operations and
future prospects.
A
significant portion of our loan portfolio is dependent on real estate. In
addition to the financial strength and cash flow characteristics of the borrower
in each case, often loans are secured with real estate collateral. At December
31, 2006, approximately 59.0% of our loans have real estate as a primary or
secondary component of collateral. The real estate in each case provides an
alternate source of repayment in the event of default by the borrower and may
deteriorate in value during the time the credit is extended. An adverse change
in the economy affecting values of real estate generally or in our primary
markets specifically could significantly impair the value of collateral and
ability to sell the collateral upon foreclosure. Furthermore, it is likely
that,
in a decreasing real estate market, we would be required to increase our
allowance for loan losses. If we are required to liquidate the collateral
securing a loan to satisfy the debt during a period of reduced real estate
values or to increase our allowance for loan losses, our profitability and
financial condition could be adversely impacted.
We
have a high concentration of loans directly related to the medical community
in
our market area, primarily in Smith and Gregg counties. A negative change
adversely impacting the medical community, for any reason, could result in
losses and materially and adversely affect our business, financial condition,
results of operations and future prospects.
A
significant portion of our loan portfolio is dependent on the medical community.
The primary source of repayment for loans in the medical community is cash
flow
from continuing operations.
However,
changes in the amount the government pays the medical community through the
various government health insurance programs could adversely impact the medical
community, which in turn could result in higher default rates by borrowers
in
the medical industry. Increased regulation of the medical community could also
negatively impact profitability and cash flow in the medical community.
It
is
likely that, should there be any significant adverse impact to the medical
community, our profitability and financial condition could also be adversely
impacted.
Our
allowance for probable loan losses may be insufficient.
We
maintain an allowance for probable loan losses, which is a reserve established
through a provision for probable loan losses charged to expense. This allowance
represents management’s best estimate of probable losses that have been incurred
within the existing portfolio of loans. The allowance, in the judgment of
management, is necessary to reserve for estimated loan losses and risks inherent
in the loan portfolio. The level of the allowance reflects management’s
continuing evaluation of industry concentrations; specific credit risks; loan
loss experience; current loan portfolio quality; present economic, political
and
regulatory conditions and unidentified losses inherent in the current loan
portfolio. The determination of the appropriate level of the allowance for
probable loan losses inherently involves a high degree of subjectivity and
requires us to make significant estimates and assumptions regarding current
credit risks and future trends, all of which may undergo material changes.
Changes in economic conditions affecting borrowers, new information regarding
existing loans, identification of additional problem loans and other factors,
both within and outside our control, may require an increase in the allowance
for probable loan losses. In addition, bank regulatory agencies periodically
review our allowance for loan losses and may require an increase in the
provision for probable loan losses or the recognition of further loan
charge-offs, based on judgments different than those of management. In addition,
if charge-offs in future periods exceed the allowance for probable loan losses,
we will need additional provisions to increase the allowance for probable loan
losses. Any increases in the allowance for probable loan losses will result
in a
decrease in net income and, possibly, capital, and may have a material adverse
effect on our financial condition and results of operations. See the section
captioned “Loan Loss Experience and Allowance for Loan Losses” in “Item 7.
Management’s Discussion and Analysis of Financial Condition and Results of
Operations” for further discussion related to our process for determining the
appropriate level of the allowance for probable loan losses.
We
are subject to environmental liability risk associated with lending
activities.
A
significant portion of our loan portfolio is secured by real property. During
the ordinary course of business, we may foreclose on and take title to
properties securing certain loans. In doing so, there is a risk that hazardous
or toxic substances could be found on these properties. If hazardous or toxic
substances are found, we may be liable for remediation costs, as well as for
personal injury and property damage. Environmental laws may require us to incur
substantial expenses and may materially reduce the affected property’s value or
limit our ability to use or sell the affected property. In addition, future
laws
or more stringent interpretations or enforcement policies with respect to
existing laws may increase our exposure to environmental liability. Although
we
have policies and procedures to perform an environmental review before
initiating any foreclosure action on nonresidential real property, these reviews
may not be sufficient to detect all potential environmental hazards. The
remediation costs and any other financial liabilities associated with an
environmental hazard could have a material adverse effect on our financial
condition and results of operations.
Our
profitability depends significantly on economic conditions in the State of
Texas.
Our
success depends primarily on the general economic conditions of the State of
Texas and the specific local markets in which we operate. Unlike larger national
or other regional banks that are more geographically diversified, we provide
banking and financial services to customers primarily in the Texas areas of
Tyler, Longview, Lindale, Whitehouse, Chandler, Gresham, Athens, Palestine,
Jacksonville, Bullard, Forney, Seven Points and Gun Barrel City. The local
economic conditions in these areas have a significant impact on the demand
for
our products and services, as well as the ability of our customers to repay
loans, the value of the collateral securing loans and the stability of our
deposit funding sources. A significant decline in general economic conditions,
caused by inflation, recession, acts of terrorism, outbreak of hostilities
or
other international or domestic occurrences, unemployment, changes in securities
markets or other factors could impact these local economic conditions and,
in
turn, have a material adverse effect on our financial condition and results
of
operations.
We
operate in a highly competitive industry and market area.
We
face
substantial competition in all areas of our operations from a variety of
different competitors, many of which are larger and may have more financial
resources. Such competitors primarily include national, regional, and community
banks within the various markets we operate. Additionally, various out-of-state
banks have entered or have announced plans to enter the market areas in which
we
currently operate. We also face competition from many other types of financial
institutions, including, without limitation, savings and loans, credit unions,
finance companies, brokerage firms, insurance companies, factoring companies
and
other financial intermediaries. The financial services industry could become
even more competitive as a result of legislative, regulatory and technological
changes and continued consolidation. Banks, securities firms and insurance
companies can merge under the umbrella of a financial holding company, which
can
offer virtually any type of financial service, including banking, securities
underwriting, insurance (both agency and underwriting) and merchant banking.
Also, technology has lowered barriers to entry and made it possible for
non-banks to offer products and services traditionally provided by banks, such
as automatic transfer and automatic payment systems. Many of our competitors
have fewer regulatory constraints and may have lower cost structures.
Additionally, due to their size, many competitors may be able to achieve
economies of scale and, as a result, may offer a broader range of products
and
services as well as better pricing for those products and services than we
can.
Our
ability to compete successfully depends on a number of factors, including,
among
other things:
|
·
|
The
ability to develop, maintain and build upon long-term customer
relationships based on top quality service, high ethical standards
and
safe, sound assets.
|
|
·
|
The
ability to expand our market
position.
|
|
·
|
The
scope, relevance and pricing of products and services offered to
meet
customer needs and demands.
|
|
·
|
The
rate at which we introduce new products and services relative to
our
competitors.
|
|
·
|
Customer
satisfaction with our level of
service.
|
|
·
|
Industry
and general economic trends.
|
Failure
to perform in any of these areas could significantly weaken our competitive
position, which could adversely affect our growth and profitability, which,
in
turn, could have a material adverse effect on our financial condition and
results of operations.
We
are subject to extensive government regulation and
supervision.
Southside
Bancshares, Inc., primarily through Southside Bank and certain non-bank
subsidiaries, is subject to extensive federal and state regulation and
supervision. Banking regulations are primarily intended to protect depositors’
funds, federal deposit insurance funds and the banking system as a whole,
not
shareholders. These regulations affect our lending practices, capital structure,
investment practices and dividend policy and growth, among other things.
Congress and federal and state regulatory agencies continually review banking
laws, regulations and policies for possible changes. Changes to statutes,
regulations or regulatory policies, including changes in interpretation or
implementation of statutes, regulations or policies, could affect us in
substantial and unpredictable ways. Such changes could subject us to additional
costs, limit the types of financial services and products we may offer and/or
increase the ability of non-banks to offer competing financial services and
products, among other things. Failure to comply with laws, regulations or
policies could result in sanctions by regulatory agencies, civil money penalties
and/or reputation damage, which could have a material adverse effect on our
business, financial condition and results of operations. While our policies
and
procedures are designed to prevent any such violations, there can be no
assurance that such violations will not occur. See the section captioned
“Supervision and Regulation” in “Item 1. Business” and “Note 14
-
Shareholders’ Equity” in the notes to consolidated financial statements included
in “Item 8. Financial Statements and Supplementary Data,” which are located
elsewhere in this report.
Our
controls and procedures may fail or be circumvented.
Management
regularly reviews and updates our internal controls, disclosure controls and
procedures, and corporate governance policies and procedures. Any system of
controls, however well designed and operated, is based in part on certain
assumptions and can provide only reasonable, not absolute, assurances that
the
objectives of the system are met. Any failure or circumvention of our controls
and procedures or failure to comply with regulations related to controls and
procedures could have a material adverse effect on our business, results of
operations and financial condition.
New
lines of business or new products and services may subject us to additional
risks.
From
time
to time, we may implement new delivery systems or offer new products and
services within existing lines of business. There are substantial risks and
uncertainties associated with these efforts, particularly in instances where
the
markets are not fully developed. In developing and marketing new delivery
systems and/or new products and services, we may invest significant time and
resources. Initial timetables for the introduction and development of new lines
of business and/or new products or services may not be achieved and price and
profitability targets may not prove feasible. External factors, such as
compliance with regulations, competitive alternatives, and shifting market
preferences, may also impact the successful implementation of a new line of
business or a new product or service. Furthermore, any new line of business
and/or new product or service could have a significant impact on the
effectiveness of our system of internal controls. Failure to successfully manage
these risks in the development and implementation of new lines of business
or
new products or services could have a material adverse effect on our business,
results of operations and financial condition.
We
rely on dividends from our subsidiaries for most of our
revenue.
Southside
Bancshares, Inc. is a separate and distinct legal entity from our subsidiaries.
We receive substantially all of our revenue from dividends from our
subsidiaries. These dividends are the principal source of funds to pay dividends
on our common stock and interest and principal on our debt. Various federal
and/or state laws and regulations limit the amount of dividends that Southside
Bank and certain non-bank subsidiaries may pay to Southside Bancshares, Inc.
Also, Southside Bancshares, Inc.’s right to participate in a distribution of
assets upon a subsidiary’s liquidation or reorganization is subject to the prior
claims of the subsidiary’s creditors. In the event Southside Bank is unable to
pay dividends to Southside Bancshares, Inc., Southside Bancshares, Inc. may
not
be able to service debt, pay obligations or pay dividends on common stock.
The
inability to receive dividends from Southside Bank could have a material
adverse
effect on Southside Bancshares, Inc.’s business, financial condition and results
of operations. See the section captioned “Supervision and Regulation” in
“Item 1. Business” and “Note 14 -
Shareholders’ Equity” in the notes to consolidated financial statements included
in “Item 8. Financial Statements and Supplementary Data,” which are located
elsewhere in this report.
The
holders of our junior subordinated debentures have rights that are senior to
those of our shareholders.
On
September 4, 2003, we issued $20.6 million of floating rate junior subordinated
debentures in connection with a $20.0 million trust preferred securities
issuance by our subsidiary, Southside Statutory Trust III. Our junior
subordinated debentures mature in September 2033.
We
conditionally guarantee payments of the principal and interest on the trust
preferred securities. Our junior subordinated debentures are senior to our
shares of common stock. As a result, we must make payments on the junior
subordinated debentures (and the related trust preferred securities) before
any
dividends can be paid on our common stock and, in the event of bankruptcy,
dissolution or liquidation, the holders of the debentures must be satisfied
before any distributions can be made to the holders of common stock. We have
the
right to defer distributions on our junior subordinated debentures (and the
related trust preferred securities) for up to five years, during which time
no
dividends may be paid to holders of common stock.
Potential
acquisitions may disrupt our business and dilute stockholder
value.
While
we
have never made an acquisition, we occasionally investigate potential merger
or
acquisition partners that appear to be culturally similar, have experienced
management and possess either significant or attractive market presence or
have
potential for improved profitability through financial management, economies
of
scale or expanded services. Acquiring other banks, businesses, or branches
involves various risks commonly associated with acquisitions, including, among
other things:
|
·
|
potential
exposure to unknown or contingent liabilities of the target
company;
|
|
·
|
exposure
to potential asset quality issues of the target
company;
|
|
·
|
difficulty
and expense of integrating the operations and personnel of the target
company;
|
|
·
|
potential
disruption to our business;
|
|
·
|
potential
diversion of our management’s time and
attention;
|
|
·
|
the
possible loss of key employees and customers of the target
company;
|
|
·
|
difficulty
in estimating the value of the target company;
and
|
|
·
|
potential
changes in banking or tax laws or regulations that may affect the
target
company.
|
We
occasionally evaluate merger and acquisition opportunities and conduct due
diligence activities related to possible transactions with other financial
institutions and financial services companies. As a result, merger or
acquisition discussions and, in some cases, negotiations may take place and
future mergers or acquisitions involving cash, debt or equity securities may
occur at any time. Acquisitions typically involve the payment of a premium
over
book and market values, and, therefore, some dilution of our tangible book
value
and net income per common share may occur in connection with any future
transaction. Furthermore, failure to realize the expected revenue increases,
cost savings, increases in geographic or product presence, and/or other
projected benefits and synergies from an acquisition could have a material
adverse effect on our financial condition and results of operations.
We
may not be able to attract and retain skilled people.
Our
success depends, in large part, on our ability to attract and retain key people.
Competition for the best people in most activities we engage in can be intense
and we may not be able to hire people or to retain them. The unexpected loss
of
services of one or more of our key personnel could have a material adverse
impact on our business because of their skills, knowledge of our market,
relationships in the communities we serve, years of industry experience and
the
difficulty of promptly finding qualified replacement personnel. We do not
currently have employment agreements or non-competition agreements with any
of
our senior officers.
Our
information systems may experience an interruption or breach in
security.
We
rely
heavily on communications and information systems to conduct our business.
Any
failure, interruption or breach in security of these systems could result in
failures or disruptions in our customer relationship management, general ledger,
deposit, loan and other systems. While we have policies and procedures designed
to prevent or limit the effect of the failure, interruption or security breach
of our information systems, there can be no assurance that we can prevent any
such failures, interruptions or security breaches or, if they do occur, that
they will be adequately addressed. The occurrence of any failures, interruptions
or security breaches of our information systems could damage our reputation,
result in a loss of customer business, subject us to additional regulatory
scrutiny, or expose us to civil litigation and possible financial liability,
any
of which could have a material adverse effect on our financial condition and
results of operations.
We
continually encounter technological change.
The
financial services industry is continually undergoing rapid technological change
with frequent introductions of new technology-driven products and services.
The
effective use of technology increases efficiency and enables financial
institutions to better serve customers and to reduce costs. Our future success
depends, in part, upon our ability to address the needs of our customers by
using technology to provide products and services that will satisfy customer
demands, as well as to create additional efficiencies in our operations. Many
of
our competitors have substantially greater resources to invest in technological
improvements. We may not be able to effectively implement new technology-driven
products and services or be successful in marketing these products and services
to our customers and even if we implement such products and services, we may
incur substantial costs in doing so. Failure to successfully keep pace with
technological change affecting the financial services industry could have a
material adverse impact on our business, financial condition and results of
operations.
We
are subject to claims and litigation pertaining to fiduciary
responsibility.
From
time
to time, customers make claims and take legal action pertaining to our
performance of our fiduciary responsibilities. Whether customer claims and
legal
action related to our performance of our fiduciary responsibilities are founded
or unfounded, if such claims and legal actions are not resolved in a manner
favorable to us, they may result in significant financial liability and/or
adversely affect our market perception and products and services as well as
impact customer demand for those products and services. Any financial liability
or reputation damage could have a material adverse effect on our business,
financial condition and results of operations.
Severe
weather, natural disasters, acts of war or terrorism and other external events
could significantly impact our business.
Severe
weather, natural disasters, acts of war or terrorism and other adverse external
events could have a significant impact on our ability to conduct business.
Such
events could affect the stability of our deposit base, impair the ability of
borrowers to repay outstanding loans, impair the value of collateral securing
loans, cause significant property damage, result in loss of revenue and/or
cause
us to incur additional expenses. For example, during 2005, hurricanes Katrina
and Rita caused extensive flooding and destruction along the coastal areas
of
the Gulf of Mexico. While the impact of these hurricanes did not significantly
affect us, other severe weather or natural disasters, acts of war or terrorism
or other adverse external events may occur in the future. Although management
has established disaster recovery policies and procedures, there can be no
assurance of the effectiveness of such policies and procedures, and the
occurrence of any such event could have a material adverse effect on our
business, financial condition and results of operations.
RISKS
ASSOCIATED WITH SOUTHSIDE BANCSHARES, INC. COMMON STOCK
Our
stock price can be volatile.
Stock
price volatility may make it more difficult for you to resell your common stock
when you want and at prices you find attractive. Our stock price can fluctuate
significantly in response to a variety of factors including, among other things:
|
·
|
actual
or anticipated variations in quarterly results of
operations;
|
|
·
|
recommendations
by securities analysts;
|
|
·
|
operating
and stock price performance of other companies that investors deem
comparable to us;
|
|
·
|
news
reports relating to trends, concerns and other issues in the financial
services industry;
|
|
·
|
perceptions
in the marketplace regarding us and/or our
competitors;
|
|
·
|
new
technology used, or services offered, by
competitors;
|
|
·
|
significant
acquisitions or business combinations, strategic partnerships, joint
ventures or capital commitments by or involving us or our
competitors;
|
|
·
|
failure
to integrate acquisitions or realize anticipated benefits from
acquisitions;
|
|
·
|
changes
in government regulations; and
|
|
·
|
geopolitical
conditions such as acts or threats of terrorism or military
conflicts.
|
General
market fluctuations, industry factors and general economic and political
conditions and events, such as economic slowdowns or recessions, interest rate
changes or credit loss trends, could also cause our stock price to decrease
regardless of operating results.
The
trading volume in our common stock is less than that of other larger financial
services companies.
Although
our common stock is listed for trading on the NASDAQ Global Select Market,
the
trading volume is such that you are not assured liquidity with respect to
transactions in our common stock. A public trading market having the desired
characteristics of depth, liquidity and orderliness depends on the presence
in
the marketplace of willing buyers and sellers of our common stock at any given
time. This presence depends on the individual decisions of investors and general
economic and market conditions over which we have no control. Given the lower
trading volume of our common stock, significant sales of our common stock,
or
the expectation of these sales, could cause our stock price to fall.
An
investment in our common stock is not an insured deposit.
Our
common stock is not a bank deposit and, therefore, is not insured against loss
by the FDIC, any other deposit insurance fund or by any other public or private
entity. Investment in our common stock is inherently risky for the reasons
described in this “Risk Factors” section and elsewhere in this report and is
subject to the same market forces that affect the price of common stock in
any
company. As a result, if you acquire our common stock, you may lose some or
all
of your investment.
Provisions
of our amended and restated articles of incorporation and amended and restated
bylaws, as well as state and federal banking regulations, could delay or prevent
a takeover of us by a third party.
Our
amended and restated articles of incorporation and amended and restated bylaws
could delay, defer or prevent a third party from acquiring us, despite the
possible benefit to our shareholders, or otherwise adversely affect the price
of
our common stock. These provisions include, among others, requiring advance
notice for raising business matters or nominating directors at shareholders’
meetings and staggered board elections.
Any
individual, acting alone or with other individuals, who is seeking to acquire,
directly or indirectly, 10.0% or more of our outstanding common stock must
comply with the Change in Bank Control Act, which requires prior notice to
the
Federal Reserve Board for any acquisition. Additionally, any entity that wants
to acquire 5.0% or more of our outstanding common stock, or otherwise control
us, may need to obtain the prior approval of the Federal Reserve under the
Bank
Holding Company Act of 1956, as amended. As a result, prospective investors
in
our common stock need to be aware of and comply with those requirements, to
the
extent applicable.
RISKS
ASSOCIATED WITH SOUTHSIDE BANCSHARES, INC.’S INDUSTRY
The
earnings of financial services companies are significantly affected by general
business and economic conditions.
Our
operations and profitability are impacted by general business and economic
conditions in the United States and abroad. These conditions include short-term
and long-term interest rates, inflation, money supply, political issues,
legislative and regulatory changes, fluctuations in both debt and equity capital
markets, broad trends in industry and finance, and the strength of the
U.S. economy and the local economies in which we operate, all of which are
beyond our control. A deterioration in economic conditions could result in
an
increase in loan delinquencies and non-performing assets, decreases in loan
collateral values and a decrease in demand for our products and services, among
other things, any of which could have a material adverse impact on our financial
condition and results of operations.
Financial
services companies depend on the accuracy and completeness of information about
customers and counterparties.
In
deciding whether to extend credit or enter into other transactions, we may
rely
on information furnished by or on behalf of customers and counterparties,
including financial statements, credit reports and other financial information.
We may also rely on representations of those customers, counterparties or other
third parties, such as independent auditors, as to the accuracy and completeness
of that information. Reliance on inaccurate or misleading financial statements,
credit reports or other financial information could have a material adverse
impact on our business, financial condition and results of operations.
Consumers
may decide not to use banks to complete their financial
transactions.
Technology
and other changes are allowing parties to complete financial transactions that
historically have involved banks through alternative methods. For example,
consumers can now maintain funds that would have historically been held as
bank
deposits in brokerage accounts or mutual funds. Consumers can also complete
transactions such as paying bills and/or transferring funds directly without
the
assistance of banks. The process of eliminating banks as intermediaries could
result in the loss of fee income, as well as the loss of customer deposits
and
the related income generated from those deposits. The loss of these revenue
streams and the lower cost deposits as a source of funds could have a material
adverse effect on our financial condition and results of operations.
|
ITEM 1B.
|
UNRESOLVED
STAFF COMMENTS
|
None
|
ITEM
2.
|
PROPERTIES
|
Southside
Bank owns and operates the following properties:
|
·
|
Southside
Bank main branch at 1201 South Beckham Avenue, Tyler, Texas. The
executive
offices of Southside Bancshares, Inc. are located at this
location;
|
|
·
|
Southside
Bank Annex at 1211 South Beckham Avenue, Tyler, Texas. The Southside
Bank
Annex is directly adjacent to the main bank building. Human Resources,
the
Trust Department and other support areas are located in this
building;
|
|
·
|
Operations
Annex at 1221 South Beckham Avenue, Tyler, Texas. Various back office
lending, training facilities and other support areas are located
in this
building;
|
|
·
|
Southside
main branch motor bank facility at 1010 East First Street, Tyler,
Texas;
|
|
·
|
South
Broadway branch at 6201 South Broadway, Tyler,
Texas;
|
|
·
|
South
Broadway branch motor bank facility at 6019 South Broadway, Tyler,
Texas;
|
|
·
|
Downtown
branch at 113 West Ferguson Street, Tyler,
Texas;
|
|
·
|
Gentry
Parkway branch and motor bank facility at 2121 West Gentry Parkway,
Tyler,
Texas;
|
|
·
|
Longview
main branch and motor bank facility at 2001 Judson Road, Longview,
Texas;
|
|
·
|
Lindale
main branch and motor bank facility at 2510 South Main Street, Lindale,
Texas;
|
|
·
|
Whitehouse
main branch and motor bank facility at 901 Highway 110 North, Whitehouse,
Texas;
|
|
·
|
Jacksonville
main branch and motor bank facility at 1015 South Jackson Street,
Jacksonville, Texas;
|
|
·
|
Gun
Barrel City main branch at 901 West Main, Gun Barrel City, Texas;
and
|
|
·
|
40
ATM’s located throughout Smith, Gregg, Cherokee, Anderson and Henderson
Counties.
|
Southside
Bank currently operates full service banks in leased space in 16 grocery stores
and two lending centers in leased office space in the following
locations:
|
·
|
one
in Bullard, Texas;
|
|
·
|
one
in Lindale, Texas;
|
|
·
|
one
in Flint, Texas;
|
|
·
|
one
in Whitehouse, Texas;
|
|
·
|
one
in Chandler, Texas;
|
|
·
|
one
in Seven Points, Texas;
|
|
·
|
one
in Palestine, Texas;
|
|
·
|
one
in Athens, Texas;
|
|
·
|
three
in Longview, Texas;
|
|
·
|
five
in Tyler, Texas;
|
|
·
|
Gresham
loan production office at 16637 FM 2493, Tyler, Texas;
and
|
|
·
|
Forney
loan production office at 413 North McGraw, Forney,
Texas.
|
All
of
the properties detailed above are suitable and adequate to provide the banking
services intended based on the type of property described. In addition, the
properties for the most part are fully utilized but designed with productivity
in mind and can handle the additional business volume we anticipate they will
generate. As additional potential needs are identified, individual property
enhancements or the need to add properties will be evaluated.
|
ITEM
3.
|
LEGAL
PROCEEDINGS
|
We
are
party to legal proceedings arising in the normal conduct of business. Management
believes that such litigation is not material to our financial position or
results of operations.
|
ITEM
4.
|
SUBMISSION
OF MATTERS TO A VOTE OF SECURITY
HOLDERS
|
During
the three months ended December 31, 2006, there were no meetings, annual or
special, of our shareholders. No matters were submitted to a vote of the
shareholders, nor were proxies solicited by management or any other
person.
PART
II
|
ITEM
5.
|
MARKET
FOR REGISTRANT'S COMMON EQUITY, RELATED STOCKHOLDER MATTERS AND ISSUER
PURCHASES OF EQUITY SECURITIES
|
MARKET
INFORMATION
Our
common stock trades on the NASDAQ Global Select Market (formerly the NASDAQ
National Market) under the symbol "SBSI." The high/low prices shown below
represent the daily weighted average prices on the NASDAQ Global Select Market
for the period from January 1, 2005 to December 31, 2006. During the first
quarter of 2005 and 2006, we declared and paid a 5% stock dividend. Stock prices
listed below have been adjusted to give retroactive recognition to stock splits
and stock dividends.
|
Year
Ended
|
1st
Quarter
|
2nd
Quarter
|
3rd
Quarter
|
4th
Quarter
|
|||||||||
|
December
31, 2006
|
$
|
20.75
- 19.13
|
$
|
22.57
- 19.03
|
$
|
26.82
- 22.67
|
$
|
27.49
- 24.61
|
|||||
|
December
31, 2005
|
$
|
21.12
- 19.03
|
$
|
20.00
- 17.97
|
$
|
20.69
- 18.12
|
$
|
20.04
- 16.81
|
|||||
See
"Item
7. Management’s Discussion and Analysis of Financial Condition and Results of
Operations - Capital Resources" for a discussion of our common stock repurchase
program.
SHAREHOLDERS
There
were approximately 1,100 holders of record of our common stock, the only class
of equity securities currently issued and outstanding, as of February 15,
2007.
DIVIDENDS
Cash
dividends declared and paid were $0.47 and $0.46 per share for the years ended
December 31, 2006 and 2005, respectively. Stock dividends of 5% were also
declared and paid during each of the years ended December 31, 2006, 2005 and
2004. We have paid a cash dividend at least once every year since 1970. Future
dividends will depend on our earnings, financial condition and other factors
that our board of directors considers to be relevant. In addition, we must
make
payments on our junior subordinated debentures before any dividends can be
paid
on the common stock. For additional discussion relating to restrictions that
limit our ability to pay dividends refer to “Supervision and Regulation” in
“Item 1. Business” and in “Item 7. Management’s Discussion and Analysis of
Financial Condition and Results of Operations -Capital Resources.” The cash
dividends were paid quarterly each year as listed below.
Quarterly
Cash Dividends Paid
|
Year
Ended
|
1st
Quarter
|
|
2nd
Quarter
|
|
3rd
Quarter
|
|
4th
Quarter
|
||||||
|
December
31, 2006
|
$
|
0.11
|
$
|
0.11
|
$
|
0.11
|
$
|
0.14
|
|||||
|
December
31, 2005
|
$
|
0.11
|
$
|
0.11
|
$
|
0.11
|
$
|
0.13
|
|||||
STOCK-BASED
COMPENSATION PLANS
Information
regarding stock-based compensation awards outstanding and available for future
grants as of December 31, 2006, is presented in “Item 12. Security
Ownership of Certain Beneficial Owners and Management and Related Stockholder
Matters” of this Annual Report on Form 10-K/A. Additional information regarding
stock-based compensation plans is presented in Note 13 — Employee
Benefits in the notes to consolidated financial statements located elsewhere
in
this report.
UNREGISTERED
SALES OF EQUITY SECURITIES, USE OF PROCEEDS AND ISSUER SECURITY
REPURCHASES
During
2006, we did not approve any additional funding for our stock repurchase plan.
No common stock was purchased during the fourth quarter or twelve months ended
December 31, 2006.
FINANCIAL
PERFORMANCE
The
following performance graph does not constitute soliciting material and should
not be deemed filed incorporated by reference into any other Company under
the
Securities Act of 1933 or the Securities Exchange Act of 1934, except to the
extent the Company specifically incorporates the performance graph by reference
therein.
Southside
Bancshares, Inc.
|
|
Period
Ending
|
||||||||||||||||||
|
Index
|
12/31/01
|
12/31/02
|
12/31/03
|
12/31/04
|
12/31/05
|
12/31/06
|
|||||||||||||
|
Southside
Bancshares, Inc.
|
100.00
|
126.66
|
169.59
|
224.65
|
213.21
|
291.16
|
|||||||||||||
|
Russell
2000
|
100.00
|
79.52
|
117.09
|
138.55
|
144.86
|
171.47
|
|||||||||||||
|
Southside
Bancshares Peer Group*
|
100.00
|
114.30
|
157.02
|
183.04
|
192.93
|
213.66
|
|||||||||||||
*Southside
Bancshares Peer Group contains the following Texas banks: Cullen/Frost
Bancshares, Inc., First Financial Bankshares,
Inc., Guaranty Bancshares, Inc., International Bancshares Corporation, MetroCorp
Bancshares, Inc., Prosperity
Bancshares, Inc., Sterling Bancshares, Inc., Texas Capital Bancshares, Inc.
and
Franklin Bank Corp.
|
Source
: SNL Financial LC, Charlottesville, VA
|
|
(434)
977-1600
|
||||
|
©
2007
|
www.snl.com
|
|||||
|
ITEM
6.
|
SELECTED
FINANCIAL DATA
|
The
following table sets forth selected financial data regarding our results of
operations and financial position for, and as of the end of, each of the fiscal
years in the five-year period ended December 31, 2006. This information should
be read in conjunction with "Item 7. Management's Discussion and Analysis of
Financial Condition and Results of Operations" and “Item 8. Financial Statements
and Supplementary Data,” as set forth in this report.
|
As
of and For the Years Ended December 31,
|
||||||||||||||||
|
2006
|
2005
|
2004
|
2003
|
2002
|
||||||||||||
|
(in
thousands, except per share data)
|
||||||||||||||||
|
Balance
Sheet Data:
|
||||||||||||||||
|
Investment
Securities
|
$
|
100,303
|
$
|
121,240
|
$
|
133,535
|
$
|
144,876
|
$
|
151,509
|
||||||
|
Mortgage-backed
and Related Securities
|
$
|
869,326
|
$
|
821,756
|
$
|
720,533
|
$
|
590,963
|
$
|
489,015
|
||||||
|
Loans,
Net of Allowance for Loan Losses
|
$
|
751,954
|
$
|
673,274
|
$
|
617,077
|
$
|
582,721
|
$
|
564,265
|
||||||
|
Total
Assets
|
$
|
1,890,976
|
$
|
1,783,462
|
$
|
1,619,643
|
$
|
1,454,952
|
$
|
1,349,186
|
||||||
|
Deposits
|
$
|
1,282,475
|
$
|
1,110,813
|
$
|
940,986
|
$
|
872,529
|
$
|
814,486
|
||||||
|
Long-term
Obligations
|
$
|
149,998
|
$
|
229,032
|
$
|
351,287
|
$
|
272,694
|
$
|
265,365
|
||||||
|
Income
Statement Data:
|
||||||||||||||||
|
Interest
& Deposit Service Income
|
$
|
112,434
|
$
|
94,275
|
$
|
80,793
|
$
|
73,958
|
$
|
79,959
|
||||||
|
Net
Income
|
$
|
15,002
|
$
|
14,592
|
$
|
16,099
|
$
|
13,564
|
$
|
13,325
|
||||||
|
Per
Share Data:
|
||||||||||||||||
|
Net
Income Per Common Share:
|
||||||||||||||||
|
Basic
|
$
|
1.22
|
$
|
1.21
|
$
|
1.33
|
$
|
1.30
|
$
|
1.32
|
||||||
|
Diluted
|
$
|
1.18
|
$
|
1.15
|
$
|
1.26
|
$
|
1.10
|
$
|
1.10
|
||||||
|
Cash
Dividends Paid Per Common Share
|
$
|
0.47
|
$
|
0.46
|
$
|
0.42
|
$
|
0.36
|
$
|
0.33
|
||||||
|
ITEM
7.
|
MANAGEMENT'S
DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
|
The
following discussion and analysis provides a comparison of our results of
operations for the years ended December 31, 2006, 2005, and 2004 and financial
condition as of December 31, 2006 and 2005. This discussion should be read
in
conjunction with the financial statements and related notes included elsewhere
in this report. All share data has been adjusted to give retroactive recognition
to stock splits and stock dividends declared and paid.
CAUTIONARY
NOTICE REGARDING FORWARD-LOOKING STATEMENTS
Certain
statements of other than historical fact that are contained in this document
and
in written material, press releases and oral statements issued by or on behalf
of Southside Bancshares, Inc., a bank holding company, may be considered to
be
“forward-looking statements” within the meaning of and subject to the
protections of the Private Securities Litigation Reform Act of 1995. These
forward-looking statements are not guarantees of future performance, nor should
they be relied upon as representing management’s views as of any subsequent
date. These statements may include words such as "expect," "estimate,"
"project," "anticipate," "appear," "believe," "could," "should," "may,"
"intend," "probability," "risk," "target," "objective," "plans," "potential,"
and similar expressions. Forward-looking statements are statements with respect
to our beliefs, plans, expectations, objectives, goals, anticipations,
assumptions, estimates, intentions and future performance, and are subject
to
significant known and unknown risks and uncertainties, which could cause our
actual results to differ materially from the results discussed in the
forward-looking statements. For example, discussions of the effect of our
expansion, trends in asset quality and earnings from growth, and certain market
risk disclosures are based upon information presently available to management
and are dependent on choices about key model characteristics and assumptions
and
are subject to various limitations. See “Item 1. Business” and “Item 7.
Management’s Discussion and Analysis of Financial Condition and Results of
Operations.” By their nature, certain of the market risk disclosures are only
estimates and could be materially different from what actually occurs in the
future. As a result, actual income gains and losses could materially differ
from
those that have been estimated. Other factors that could cause actual results
to
differ materially from forward-looking statements include, but are not limited
to, the following:
|
·
|
general
economic conditions, either globally, nationally, in the State of
Texas,
or in the specific markets in which we
operate;
|
|
·
|
legislation
or regulatory changes that adversely affect the businesses in which
we are
engaged;
|
|
·
|
adverse
changes in Government Sponsored Enterprises (the “GSE”) status or
financial condition impacting the GSE guarantees or ability to pay
or
issue debt;
|
|
·
|
economic
or other disruptions caused by acts of terrorism in the United States,
Europe or other areas;
|
|
·
|
changes
in the interest rate yield curve such as flat, inverted or steep
yield
curves, or changes in the interest rate environment which impact
interest
margins and may impact prepayments on the mortgage-backed securities
portfolio;
|
|
·
|
unexpected
outcomes of existing or new litigation involving
us;
|
|
·
|
changes
impacting the leverage strategy;
|
|
·
|
significant
increases in competition in the banking and financial services
industry;
|
|
·
|
changes
in consumer spending, borrowing and saving
habits;
|
|
·
|
technological
changes;
|
|
·
|
our
ability to increase market share and control
expenses;
|
|
·
|
the
effect of changes in federal or state tax laws;
|
|
·
|
the
effect of compliance with legislation or regulatory
changes;
|
|
·
|
the
effect of changes in accounting policies and practices; and
|
|
·
|
the
costs and effects of unanticipated
litigation.
|
Additional
information concerning us and our business, including additional factors that
could materially affect our financial results, is included in our filings with
the SEC. All written or oral forward-looking statements made by us or
attributable to us are expressly qualified by this cautionary notice. We
disclaim any obligation to update any factors or to announce publicly the result
of revisions to any of the forward-looking statements included herein to reflect
future events or developments.
CRITICAL
ACCOUNTING ESTIMATES
Our
accounting and reporting estimates conform with accounting principles generally
accepted in the United States and general practices within the financial
services industry. The preparation of financial statements in conformity with
GAAP requires management to make estimates and assumptions that affect the
amounts reported in the financial statements and accompanying notes. Actual
results could differ from those estimates. We consider our critical accounting
policies to include the following:
Allowance
for Losses on Loans.
The
allowance for losses on loans represents our best estimate of probable losses
inherent in the existing loan portfolio. The allowance for losses on loans
is
increased by the provision for losses on loans charged to expense and reduced
by
loans charged-off, net of recoveries. The provision for losses on loans is
determined based on our assessment of several factors: reviews and evaluations
of specific loans, changes in the nature and volume of the loan portfolio,
and
current economic conditions and the related impact on specific borrowers and
industry groups, historical loan loss experience, the level of classified and
nonperforming loans and the results of regulatory examinations.
The
loan
loss allowance is based on the most current review of the loan portfolio. The
servicing officer has the primary responsibility for updating significant
changes in a customer's financial position. Each officer prepares status updates
on any credit deemed to be experiencing repayment difficulties which, in the
officer's opinion, would place the collection of principal or interest in doubt.
Our internal loan review department is responsible for an ongoing review of
our
loan portfolio with specific goals set for the loans to be reviewed on an annual
basis.
At
each
review, a subjective analysis methodology is used to grade the respective loan.
Categories of grading vary in severity from loans that do not appear to have
a
significant probability of loss at the time of review to loans that indicate
a
probability that the entire balance of the loan will be uncollectible. If full
collection of the loan balance appears unlikely at the time of review, estimates
or appraisals of the collateral securing the debt are used to allocate the
necessary allowances. The internal loan review department maintains a list
of
all loans or loan relationships that are graded as having more than the normal
degree of risk associated with them. This list for loans or loan relationships
of $50,000 or more is updated on a periodic basis in order to properly allocate
necessary allowance and keep management informed on the status of attempts
to
correct the deficiencies noted with respect to the loan.
Loans
are
considered impaired if, based on current information and events, it is probable
that we will be unable to collect the scheduled payments of principal or
interest when due according to the contractual terms of the loan agreement.
The
measurement of impaired loans is generally based on the present value of
expected future cash flows discounted at the historical effective interest
rate
stipulated in the loan agreement, except that all collateral-dependent loans
are
measured for impairment based on the fair value of the collateral. In measuring
the fair value of the collateral, we use assumptions such as discount rates,
and
methodologies, such as comparison to the recent selling price of similar assets,
consistent with those that would be utilized by unrelated third parties
performing a valuation.
Changes
in the financial condition of individual borrowers, economic conditions,
historical loss experience and the conditions of the various markets in which
collateral may be sold all may affect the required level of the allowance for
losses on loans and the associated provision for loan losses.
As
of
December 31, 2006, our review of the loan portfolio indicated that a loan loss
allowance of $7.2 million was adequate to cover probable losses in the
portfolio.
Refer
to
“Loan Loss Experience and Allowance for Loan Losses” and “Note 1 - Summary of
Significant Accounting and Reporting Policies” to our consolidated financial
statements for a detailed description of our estimation process and methodology
related to the allowance for loan losses.
Estimation
of Fair Value.
The
estimation of fair value is significant to a number of our assets and
liabilities. GAAP requires disclosure of the fair value of financial instruments
as a part of the notes to the consolidated financial statements. Fair values
are
volatile and may be influenced by a number of factors, including market interest
rates, prepayment speeds, discount rates and the shape of yield curves.
Fair
values for most investment and mortgage-backed securities are based on quoted
market prices, where available. If quoted market prices are not available,
fair
values are based on the quoted prices of similar instruments. The fair value
of
fixed rate loans is estimated by discounting the future cash flows using the
current rates at which similar loans would be made to borrowers with similar
credit ratings and for the same remaining maturities. Nonperforming loans are
estimated using discounted cash flow analyses or underlying value of the
collateral where applicable. Fair values for fixed rate CDs are estimated using
a discounted cash flow calculation that applies interest rates currently being
offered for deposits of similar remaining maturities. The fair value of Federal
Home Loan Bank (“FHLB”) advances is estimated by discounting the future cash
flows using rates at which advances would be made to borrowers with similar
credit ratings and for the same remaining maturities. The fair values of other
real estate owned (“OREO”) are typically determined based on appraisals by third
parties, less estimated costs to sell and recorded at the lower of cost or
fair
value.
Defined
Benefit Pension Plan.
The
plan obligations and related assets of the defined benefit pension plan (the
“Plan”) are presented in “Note 13 - Employee Benefits” to our consolidated
financial statements. Plan assets, which consist primarily of marketable
equity
and debt instruments, are valued using market quotations. Plan obligations
and
the annual pension expense are determined by independent actuaries and through
the use of a number of assumptions. Key assumptions in measuring the plan
obligations include the discount rate, the rate of salary increases and the
estimated future return on plan assets. In determining the discount rate,
we
utilized a cash flow matching analysis to determine a range of appropriate
discount rates for our defined benefit pension and restoration plans. In
developing the cash flow matching analysis, we constructed a portfolio of
high
quality non-callable bonds (rated AA- or better) to match as close as possible
the timing of future benefit payments of the plans at December 31, 2006.
Based
on this cash flow matching analysis, we were able to determine an appropriate
discount rate.
Salary
increase assumptions are based upon historical experience and our anticipated
future actions. The expected long-term rate of return assumption reflects the
average return expected based on the investment strategies and asset allocation
on the assets invested to provide for the Plan’s liabilities. We considered
broad equity and bond indices, long-term return projections, and actual
long-term historical Plan performance when evaluating the expected long-term
rate of return assumption. At December 31, 2006, the weighted-average actuarial
assumptions of the Plan were: a discount rate of 6.05%; a long-term rate of
return on plan assets of 7.875%; and assumed salary increases of 4.50%. Material
changes in pension benefit costs may occur in the future due to changes in
these
assumptions. Future annual amounts could be impacted by changes in the number
of
plan participants, changes in the level of benefits provided, changes in the
discount rates, changes in the expected long-term rate of return, changes in
the
level of contributions to the Plan and other factors.
Impairment
of Investment Securities and Mortgage-backed Securities.
Investment and mortgage-backed securities classified as available for sale
(“AFS”) are carried at fair value and the impact of changes in fair value are
recorded on our consolidated balance sheet as an unrealized gain or loss in
“Accumulated other comprehensive income (loss),” a separate component of
shareholders’ equity. Securities classified as AFS or held to maturity (“HTM”)
are subject to our review to identify when a decline in value is other than
temporary. Factors considered in determining whether a decline in value is
other
than temporary include: whether the decline is substantial; the duration of
the
decline; the reasons for the decline in value; whether the decline is related
to
a credit event or to a change in interest rate; our ability and intent to hold
the investment for a period of time that will allow for a recovery of value;
and
the financial condition and near-term prospects of the issuer. When it is
determined that a decline in value is other than temporary, the carrying value
of the security is reduced to its estimated fair value, with a corresponding
charge to earnings.
OVERVIEW
OPERATING
RESULTS
During
the year ended December 31, 2006, our net income increased $410,000, or 2.8%,
to
$15.0 million, from $14.6 million for the same period in 2005. The increase
in
net income was primarily attributable to the increase in noninterest income
and
decrease in the provision for loan losses. This increase in noninterest income
was offset by noninterest expense due primarily to increases in salaries and
employee benefits due to normal payroll increases and staff increases due to
branch expansion and the new regional lending initiative. Earnings per fully
diluted share increased $0.03, or 2.6% to $1.18, for the year ended December
31,
2006, from $1.15 for the same period in 2005.
During
the year ended December 31, 2005, our net income decreased $1.5 million, or
9.4%, to $14.6 million, from $16.1 million for the same period in 2004. The
decrease in net income was primarily attributable to the decrease in gains
on
sale of AFS securities. Noninterest expense also increased due primarily to
increases in salaries and employee benefits due to normal payroll increases,
staff increases due to branch expansion and the new regional lending initiative,
and higher benefit costs. Earnings per fully diluted share were $1.15 and $1.26,
respectively, for the years ended December 31, 2005 and 2004.
FINANCIAL
CONDITION
Our
total
assets increased $107.5 million, or 6.0%, to $1.89 billion at December 31,
2006
from $1.78 billion at December 31, 2005. The increase was primarily attributable
to a $78.7 million increase in our net loans and a $23.5 million increase in
our
securities portfolio. At December 31, 2006, net loans were $752.0 million
compared to $673.3 million at December 31, 2005. The securities portfolio
totaled $996.1 million at December 31, 2006 compared to $972.6 million at
December 31, 2005. Our increase in loans and securities was funded by increases
in deposits.
Our
nonperforming assets at December 31, 2006 decreased to $2.1 million, and
represented 0.11% of total assets, compared to $3.1 million, or 0.17%, of total
assets at December 31, 2005. Nonaccruing loans decreased to $1.3 million and
the
ratio of nonaccruing loans to total loans decreased to 0.18% at December 31,
2006 as compared to $1.7 million and 0.25% at December 31, 2005. Approximately
$560,000 of the nonaccrual loans at December 31, 2006, are loans that have
an
average SBA guarantee of 75% to 85%. OREO increased to $351,000 at December
31,
2006 from $145,000 at December 31, 2005. Loans 90 days past due at December
31,
2006 decreased to $128,000 compared to $945,000 at December 31, 2005.
Repossessed assets increased to $78,000 at December 31, 2006 from $10,000 at
December 31, 2005. Restructured loans at December 31, 2006 decreased slightly
to
$220,000 compared to $226,000 at December 31, 2005.
Our
deposits increased $171.7 million to $1.28 billion at December 31, 2006 from
$1.11 billion at December 31, 2005. During 2006, we issued additional callable
brokered CDs, where we control the call, which represented approximately $104
million of the increase in our deposits. The remaining $67.8 million increase
was primarily due to branch expansion and increased market penetration. Due
to
the increase in deposits during 2006, FHLB advances decreased $69.1 million
to
$451.6 million at December 31, 2006, from $520.7 million at December 31, 2005.
Short-term FHLB advances increased $10.0 million to $322.2 million at December
31, 2006 from $312.3 million at December 31, 2005. Long-term FHLB advances
decreased $79.0 million to $129.4 million at December 31, 2006 from $208.4
million at December 31, 2005. Other borrowings at December 31, 2006 and 2005
totaled $27.9 million and $25.2 million, respectively, and at December 31,
2006
consisted of $7.3 million of short-term borrowings and $20.6 million of
long-term debt.
Shareholders'
equity at December 31, 2006 totaled $110.6 million compared to $109.3 million
at
December 31, 2005. The increase primarily reflects the net income recorded
for
the year ended December 31, 2006, and the increase in the common stock issued
of
$1.8 million as a result of our incentive stock option and dividend reinvestment
plans. These increases more than offset an increase in the accumulated other
comprehensive loss of $10.0 million and the payment of cash dividends to
our
shareholders of $5.7 million. The increase in accumulated other comprehensive
loss is composed of an increase of $8.1 million, net of tax, related to the
change in the unfunded status of our defined benefit plan and a $1.9 million,
net of tax, unrealized loss on securities, net of reclassification adjustment.
See “Note 4 - Comprehensive Income (Loss)” to our consolidated financial
statements.
During
2006 the economy in our market area appeared to reflect continued stable growth.
We cannot predict whether current economic conditions will improve, remain
the
same or decline.
Key
financial indicators management follows include but are not limited to, numerous
interest rate sensitivity and interest rate risk indicators, credit risk,
operations risk, liquidity risk, capital risk, regulatory risk, competition
risk, yield curve risk, and economic risk.
LEVERAGE
STRATEGY
We
utilize wholesale funding and securities to enhance our profitability and
balance sheet composition by determining acceptable levels of credit, interest
rate and liquidity risk consistent with prudent capital management. The leverage
strategy consists of borrowing a combination of long and short-term funds from
the FHLB and, when determined appropriate, issuing brokered CDs. These funds
are
invested primarily in mortgage-backed securities, and to a lesser extent,
long-term municipal securities. Although mortgage-backed securities often carry
lower yields than traditional mortgage loans and other types of loans we make,
these securities generally increase the overall quality of our assets because
of
underlying insurance or guarantees, are more liquid than individual loans and
may be used to collateralize our borrowings or other obligations. While the
strategy of investing a substantial portion of our assets in mortgage-backed
and
municipal securities has resulted in lower interest rate spreads and margins,
we
believe that the lower operating expenses and reduced credit risk combined
with
the managed interest rate risk of this strategy have enhanced our overall
profitability over the last several years. At this time, we utilize the leverage
strategy with the goal of enhancing overall profitability by maximizing the
use
of our capital.
Risks
associated with the asset structure we maintain include a lower net interest
rate spread and margin when compared to our peers, changes in the slope of
the
yield curve, which can reduce our net interest rate spread and margin, increased
interest rate risk, the length of interest rate cycles, and the unpredictable
nature of mortgage-backed securities prepayments. See “Item 1A. Risk Factors -
Risks Related to Our Business.” During 2005, the overnight Fed Funds rate
increased significantly while interest rates on long-term, two to ten year
U.S.
Treasury notes increased less, creating a relatively flat yield curve at the
end
of 2005. During 2006, the interest rate yield curve inverted. An inverted yield
curve is defined as shorter term interest rates at a higher level than longer
term interest rates. The Federal Reserve increased the overnight Fed Funds
rate
by 100 basis points during 2006. Despite that increase, during 2006, the yield
on the two year treasury notes only increased 41 basis points and the yield
on
the 10 year treasury notes only increased 31 basis points. During the second
half of 2006, the inversion in the yield curve became more pronounced as the
overnight Fed Funds rate did not change while the yield on the two year treasury
notes decreased 34 basis points and the yield on the ten year treasury notes
decreased 43 basis points. Should the inverted yield curve continue or should
the yield curve invert more, our net interest margin and spread could continue
to decrease. Our asset structure, net interest spread and net interest margin
requires an increase in the need to monitor our interest rate risk. An
additional risk is the change in market value of the AFS securities portfolio
as
a result of changes in interest rates. Significant increases in interest rates,
especially long-term interest rates, could adversely impact the market value
of
the AFS securities portfolio which could also significantly impact our equity
capital. Due to the unpredictable nature of mortgage-backed securities
prepayments, the length of interest rate cycles, and the slope of the interest
rate yield curve, net interest income could fluctuate more than simulated under
the scenarios modeled by our Asset/Liability Committee (“ALCO”) and described
under “Item 7A. Quantitative and Qualitative Disclosures about Market Risk” in
this report.
In
conjunction with the leverage strategy, we will attempt to manage the securities
portfolio as a percentage of earning assets in combination with adequate quality
loan growth. If adequate quality loan growth is not available to achieve our
goal of enhancing profitability by maximizing the use of capital, as described
above, then we could purchase additional securities, if appropriate, which
could
cause securities as a percentage of earning assets to increase. Should we
determine that increasing the securities portfolio or replacing the current
securities maturities and principal payments is not an efficient use of capital,
we could adjust the level of securities through proceeds from maturities,
principal payments on mortgage-backed securities or sales. During the year
ended
December 31, 2006, our loan growth was sufficient to allow the securities
portfolio as a percentage of total assets to decrease. At December 31, 2006,
the
securities portfolio as a percentage of total assets decreased to 52.7% from
54.5% at December 31, 2005. Due to the current interest rate environment, we
anticipate we will continue to reduce the securities portfolio during the first
quarter of 2007, by reinvesting only a portion of cash flows received. Should
the interest rate environment cause the overall economics associated with
reinvesting to deteriorate, we might accelerate the pace at which we reduce
the
securities portfolio and thereby the leverage. During the fourth quarter of
2006, we reduced our investment and mortgage-backed securities approximately
$8.9 million as investment and mortgage-backed securities not including the
net
unrealized loss on available securities decreased from $985.2 million at
September 30, 2006 to $976.3 million at December 31, 2006. The $976.3 million
at
December 31, 2006 included $13.9 million of short-term U. S. Treasury securities
and GSE debentures we were required to purchase to collateralize year-end public
funds deposits. We do not consider this to be a part of our core securities
portfolio as this increase is temporary and will last less than three months.
Subtracting the $13.9 million temporary increase in securities from the December
31, 2006 total of $976.3 million, during the fourth quarter our core investment
and mortgage-backed securities portfolio decreased approximately $22.8 million.
Our treasury strategy will be reevaluated as market conditions warrant. The
leverage strategy is dynamic and requires ongoing management. As interest rates,
yield curves, mortgage-backed securities prepayments, funding costs and security
spreads change, our determination of the proper types and maturities of
securities to own, proper amount of securities to own and funding needs and
funding sources will continue to be reevaluated.
With
respect to liabilities, we will continue to utilize a combination of FHLB
advances and deposits to achieve our strategy of minimizing cost while achieving
overall interest rate risk objectives as well as the objectives of the ALCO.
Our
FHLB borrowings at December 31, 2006, decreased 13.3%, or $69.1 million, to
$451.6 million from $520.7 million at December 31, 2005. During the year ended
December 31, 2006, we issued an additional $104 million of callable brokered
CDs, net of discount, where we control numerous options to call the CDs before
the final maturity date. At December 31, 2006, our total callable brokered
CDs
were $123.5 million. These brokered CDs have maturities from 1.7 to 5.0 years
and have calls that we control, all of which are currently six months or less.
We are currently utilizing long-term brokered CDs to a greater extent than
long-term FHLB funding because the brokered CDs better match overall ALCO
objectives by utilizing a long-term funding vehicle that assists in protecting
Southside Bank should interest rates increase, but provides Southside Bank
options to call the funding should interest rates decrease. Our wholesale
funding policy currently allows maximum brokered CDs of $150 million; however,
this amount could be increased to match changes in ALCO objectives. The
potential higher interest expense and lack of customer loyalty are risks
associated with the use of brokered CDs. The FHLB funding and the brokered
CDs
represent our wholesale funding sources. Due to the dollar amount of brokered
CDs issued during the year ended December 31, 2006 and the fact that the
increase in brokered CDs exceeded non-brokered deposit growth, our total
wholesale funding as a percentage of deposits, not including brokered CDs,
increased slightly to 49.6% at December 31, 2006, from 49.5% at December 31,
2005.
RESULTS
OF OPERATIONS
Our
results of operations are dependent primarily on net interest income, which
is
the difference between the interest income earned on assets (loans and
investments) and interest expense due on our funding sources (deposits and
borrowings) during a particular period. Results of operations are also affected
by our noninterest income, provision for loan losses, noninterest expenses
and
income tax expense. General economic and competitive conditions, particularly
changes in interest rates, changes in interest rate yield curves, prepayment
rates of mortgage-backed securities and loans, repricing of loan relationships,
government policies and actions of regulatory authorities, also significantly
affect our results of operations. Future changes in applicable law, regulations
or government policies may also have a material impact on us.
COMPARISON
OF OPERATING RESULTS FOR THE YEARS ENDED DECEMBER 31, 2006 COMPARED TO
DECEMBER 31, 2005
NET
INTEREST INCOME
Net
interest income is one of the principal sources of a financial institution's
earnings stream and represents the difference or spread between interest and
fee
income generated from interest earning assets and the interest expense paid
on
deposits and borrowed funds. Fluctuations in interest rates or interest rate
yield curves, as well as repricing characteristics and volume and mix changes
in
interest earning assets and interest bearing liabilities, materially impact
net
interest income.
Net
interest income for the year ended December 31, 2006 was $41.7 million, an
increase of $409,000, or 1.0%, compared to the same period in 2005. The overall
increase in net interest income was primarily the result of increases in
interest income from loans, mortgage-backed and related securities and taxable
investment securities and a decrease in interest expense on long-term
obligations which was partially offset by an increase in interest expense on
deposits and short-term obligations. During the year ended December 31, 2006,
total interest income increased $17.3 million, or 21.7%, as a result of an
increase in average
interest
earning assets of $162.3 million, or 10.2%, and the increase in average yield
on
average interest earning assets from 5.27% for the year ended December 31,
2005
to 5.74% for the year ended December 31, 2006. Total interest expense increased
$16.9 million, or 43.9%, to $55.3 million during the year ended December 31,
2006 as compared to $38.4 million during the same period in 2005. The increase
was attributable to an increase in the average yield on interest bearing
liabilities for the year ended December 31, 2006, to 3.89% from 2.96% for the
same period in 2005 and an increase in average interest bearing liabilities
of
$123.4 million, or 9.5%.
Net
interest income increased during 2006 as a result of increases in our average
interest earning assets during 2006 when compared to 2005, which more than
offset the decrease in our net interest margin and spread during the year ended
December 31, 2006 to 2.57% and 1.85%, respectively, when compared to 2.85%
and
2.31%, respectively, for the same period in 2005. The decreases in our net
interest margin and spread were due primarily to the changing interest rate
environment that began in mid-2004. Since mid-2004, short-term interest rates
have increased significantly while long-term interest rates have increased
less.
This has caused our yield on our interest bearing liabilities to increase faster
than the yield on our earning assets. During 2006, our net interest income
trend
continued to gradually decline due to the net interest spread and margin
decreases which more than offset the increase in average interest earning assets
by the end of 2006, and resulted in a slight decrease in net interest income
during the fourth quarter ended December 31, 2006, of $81,000, or 0.8%, when
compared to the same period in 2005. Future changes in the interest rate
environment or yield curve could also influence our net interest margin and
spread during future quarters. Future changes in interest rates could impact
prepayment speeds on our mortgage-backed securities, which could influence
our
net interest margin and spread during the coming quarters.
During
the year ended December 31, 2006, average loans, funded by the growth in average
deposits, increased $64.3 million, or 9.8%, compared to the same period in
2005.
The average yield on loans increased from 6.22% at December 31, 2005 to 6.70%
at
December 31, 2006. The increase in the yield on loans was due to the overall
increase in interest rates. The rate at which loan yields are increasing has
been partially impacted by repricing characteristics of the loans, interest
rates at the time the loans repriced, and the competitive loan pricing
environment. Due to the competitive loan pricing environment, we anticipate
that
we may be required to continue to offer lower interest rate loans that compete
with those offered by other financial institutions in order to retain quality
loan relationships. Offering lower interest rate loans could impact the overall
loan yield and, therefore profitability. The increase in interest income on
loans of $7.6 million, or 19.5%, was the result of an increase in average loans
and the average yield on loans.
Average
investment and mortgage-backed securities increased $97.7 million, or 11.0%,
for
the year ended December 31, 2006 when compared to the same period in 2005.
This
increase was funded by the increase in average deposits which included brokered
CDs we issued. The overall yield on average investment and mortgage-backed
securities increased to 5.06% during the year ended December 31, 2006 from
4.63%
during the same period in 2005. Interest
income on investment and mortgage-backed securities increased $9.3 million
in
2006, or 23.4%, compared to 2005 due to the increase in the overall yield and
average balances. The
increase in the average yield primarily reflects decreased prepayment rates
on
mortgage-backed securities, which led to decreased amortization expense,
combined with the reinvestment of proceeds from lower-yielding matured
securities into higher yielding securities due to the overall higher interest
rate environment. The higher overall interest rate environment during 2006
when
compared to 2005, contributed to a decrease in residential mortgage refinancing
nationwide and in our market area. The decrease in prepayments on mortgage
loans
combined with a previous restructuring of the securities portfolio reduced
overall amortization expense which contributed to the increase in interest
income. A return to a lower long-term interest rate level similar to that
experienced during 2003 could impact our net interest margin in the future
due
to increased prepayments and repricings.
Average
FHLB stock and other investments decreased $130,000, or 0.5%, to $28.0 million,
for the year ended December 31, 2006, when compared to $28.1 million for 2005.
Interest income from our FHLB stock and other investments increased $377,000,
or
36.5%, during 2006, when compared to 2005, due to the increase in average yield
from 3.67% for the year ended December 31, 2005 compared to 5.04% for the same
period in 2006. Average federal funds sold and other interest earning assets
increased $201,000, or 12.3%, to $1.8 million, for the year ended December
31,
2006, when compared to $1.6 million for 2005. Interest income from federal
funds
sold and other interest earning assets increased $38,000, or 70.4%, for the
year
ended December 31, 2006, when compared to 2005, as a result of the increase
in
the average balance and the average yield from 3.29% in 2005 to 5.00% in 2006,
which was due to the higher average short-term interest rates.
During
the year ended December 31, 2006, average securities increased more than average
loans. As a result, the mix of our average interest earning assets reflected
a
slight decrease in average total loans as a percentage of total average interest
earning assets compared to the prior year as loans averaged 41.6% during 2006
compared to 41.8% during 2005, a direct result of less loan growth when compared
to the growth in securities. Average securities were 58.3% of average total
interest earning assets and other interest earning asset categories averaged
0.1% for December 31, 2006. During 2005, the comparable mix was 58.1% in
securities and 0.1% in the other interest earning asset categories.
Total
interest expense increased $16.9 million, or 43.9%, to $55.3 million during
the
year ended December 31, 2006 as compared to $38.4 million during the same period
in 2005. The increase was primarily attributable to increased funding costs
associated with an increase in average interest bearing liabilities, including
deposits, brokered CDs and FHLB advances of $123.4 million, or 9.5%, and an
increase in the average yield on interest bearing liabilities from 2.96% for
2005 to 3.89% for the year ended December 31, 2006.
Average
interest bearing deposits increased $148.6 million, or 20.7%, and the average
rate paid increased from 2.40% for the year ended December 31, 2005 compared
to
3.54% for the year ended December 31, 2006. Average
time deposits increased $112.8 million, or 31.8%, and the average rate paid
increased 122 basis points. The largest increase in average time deposits
resulted from the issuance of callable brokered CDs. Average interest bearing
demand deposits increased $35.6 million, or 11.3%, and the average rate paid
increased 99 basis points. Average savings deposits increased $262,000, or
0.5%,
and the average rate paid increased 23 basis points. Interest expense for
interest bearing deposits for the year ended December 31, 2006, increased $13.5
million, or 78.2%, when compared to the same period in 2005 due to the increase
in the average balance and yield. Average noninterest bearing demand deposits
increased $34.2 million, or 12.2%, during 2006. The latter three categories,
which are considered the lowest cost deposits, comprised 60.5% of total average
deposits during the year ended December 31, 2006 compared to 64.5% during 2005.
The increase in our average total deposits is the result of issuing callable
brokered CDs, overall bank growth and branch expansion.
During
the year ended December 31, 2006, we issued approximately $104 million of
callable brokered CDs, net of discount, where we control numerous options to
call the CDs before the final maturity date. At December 31, 2006, these
brokered CDs had maturities from 1.7 to five years and had calls that we
control, all of which are currently six months or less. At December 31, 2006,
we
had $123.5 million in brokered CDs that represented 9.6% of deposits compared
to
$19.8 million, or 1.8% of deposits, at December 31, 2005. During 2006, we
utilized long-term brokered CDs to a greater extent than long-term FHLB funding
as the brokered CDs better match overall ALCO objectives due to the calls we
control. Our current policy allows for a maximum of $150 million in brokered
CDs. The potential higher interest cost and lack of customer loyalty are risks
associated with the use of brokered CDs.
The
following table sets forth our deposit averages by category for the years ended
December 31, 2006, 2005 and 2004:
|
COMPOSITION
OF DEPOSITS
|
|||||||||||||||||||
|
Years
Ended December 31,
|
|||||||||||||||||||
|
2006
|
2005
|
2004
|
|||||||||||||||||
|
(dollars
in thousands)
|
|||||||||||||||||||
|
AVG.
|
AVG.
|
AVG.
|
AVG.
|
AVG.
|
AVG.
|
||||||||||||||
|
BALANCE
|
YIELD
|
BALANCE
|
YIELD
|
BALANCE
|
YIELD
|
||||||||||||||
|
Noninterest
Bearing Demand Deposits
|
$
|
314,241
|
N/A
|
$
|
280,036
|
N/A
|
$
|
246,477
|
N/A
|
||||||||||
|
Interest
Bearing Demand Deposits
|
349,375
|
2.73
|
%
|
313,815
|
1.74
|
%
|
281,452
|
0.72
|
%
|
||||||||||
|
Savings
Deposits
|
50,764
|
1.27
|
%
|
50,502
|
1.04
|
%
|
48,456
|
0.48
|
%
|
||||||||||
|
Time
Deposits
|
467,174
|
4.39
|
%
|
354,360
|
3.17
|
%
|
319,083
|
2.46
|
%
|
||||||||||
|
Total
Deposits
|
$
|
1,181,554
|
2.60
|
%
|
$
|
998,713
|
1.72
|
%
|
$
|
895,468
|
1.13
|
%
|
|||||||
Average
short-term interest bearing liabilities, consisting primarily of FHLB advances
and federal funds purchased, were $376.7 million, an increase of $94.4 million,
or 33.4%, for the year ended December 31, 2006 when compared to the same period
in 2005. Interest expense associated with short-term interest bearing
liabilities increased $6.6 million, or 67.1%, and the average rate paid
increased 89 basis points to 4.39% for the year ended December 31, 2006, when
compared to 3.50% for the same period in 2005. The increase in the interest
expense was due to an increase in the average balance and the average yield
for
short-term interest bearing liabilities.
Average
long-term interest bearing liabilities consisting of FHLB advances decreased
$119.7 million, or 43.6%, during the year ended December 31, 2006 to $155.0
million as compared to $274.7 million at December 31, 2005. Interest expense
associated with long-term FHLB advances decreased $3.6 million, or 36.2%, while
the average rate paid increased 48 basis points to 4.12% for the year ended
December 31, 2006 when compared to 3.64% for the same period in 2005. The
decrease in interest expense was due to the fact the decrease in the average
balance of long-term interest bearing liabilities more than offset the increase
in the average rate paid. FHLB advances are collateralized by FHLB stock,
securities and nonspecific real estate loans.
Average
long-term debt, consisting entirely of our junior subordinated debentures issued
in 2003 in connection with the issuance of trust preferred securities by our
subsidiary Southside Statutory Trust III, was $20,619,000 for the years ended
December 31, 2005 and 2006. Interest expense increased $376,000, or 28.8%,
to
$1.7 million for the year ended December 31, 2006 when compared to $1.3 million
for the same period in 2005 as a result of the increase in three-month LIBOR
due
to higher short-term interest rates during 2006 when compared to 2005. The
long-term debt adjusts quarterly at a rate equal to three-month LIBOR plus
294
basis points.
AVERAGE
BALANCES AND YIELDS
The
following table presents average balance sheet amounts and average yields for
the years ended December 31, 2006, 2005 and 2004. The information should be
reviewed in conjunction with the consolidated financial statements for the
same
years then ended. Two major components affecting our earnings are the interest
earning assets and interest bearing liabilities. A summary of average interest
earning assets and interest bearing liabilities is set forth below, together
with the average yield on the interest earning assets and the average cost
of
the interest bearing liabilities.
|
AVERAGE
BALANCES AND YIELDS
|
||||||||||||||||||||||||||||
|
(dollars
in thousands)
|
||||||||||||||||||||||||||||
|
Years
Ended
|
||||||||||||||||||||||||||||
|
December
31, 2006
|
December
31, 2005
|
December
31, 2004
|
||||||||||||||||||||||||||
|
AVG.
|
AVG.
|
AVG.
|
AVG.
|
AVG.
|
AVG.
|
|||||||||||||||||||||||
|
BALANCE
|
INTEREST
|
YIELD
|
BALANCE
|
INTEREST
|
YIELD
|
BALANCE
|
INTEREST
|
YIELD
|
||||||||||||||||||||
|
ASSETS
|
||||||||||||||||||||||||||||
|
INTEREST
EARNING ASSETS:
|
||||||||||||||||||||||||||||
|
Loans(1)
(2)
|
$
|
722,252
|
$
|
48,397
|
6.70
|
%
|
$
|
657,938
|
$
|
40,927
|
6.22
|
%
|
$
|
604,658
|
$
|
36,921
|
6.11
|
%
|
||||||||||
|
Loans
Held For Sale
|
4,651
|
246
|
5.29
|
%
|
4,469
|
212
|
4.74
|
%
|
3,570
|
180
|
5.04
|
%
|
||||||||||||||||
|
Securities:
|
||||||||||||||||||||||||||||
|
Inv.
Sec. (Taxable)(4)
|
54,171
|
2,498
|
4.61
|
%
|
51,431
|
1,978
|
3.85
|
%
|
45,400
|
1,072
|
2.36
|
%
|
||||||||||||||||
|
Inv.
Sec. (Tax-Exempt)(3)(4)
|
43,931
|
3,134
|
7.13
|
%
|
66,023
|
4,696
|
7.11
|
%
|
75,048
|
5,333
|
7.11
|
%
|
||||||||||||||||
|
Mortgage-backed
Sec.(4)
|
891,015
|
44,401
|
4.98
|
%
|
773,973
|
34,584
|
4.47
|
%
|
643,323
|
26,845
|
4.17
|
%
|
||||||||||||||||
|
Total
Securities
|
989,117
|
50,033
|
5.06
|
%
|
891,427
|
41,258
|
4.63
|
%
|
763,771
|
33,250
|
4.35
|
%
|
||||||||||||||||
|
FHLB
stock and other investments, at cost
|
27,969
|
1,409
|
5.04
|
%
|
28,099
|
1,032
|
3.67
|
%
|
24,309
|
477
|
1.96
|
%
|
||||||||||||||||
|
Interest
Earning Deposits
|
692
|
35
|
5.06
|
%
|
644
|
24
|
3.73
|
%
|
634
|
8
|
1.26
|
%
|
||||||||||||||||
|
Federal
Funds Sold
|
1,148
|
57
|
4.97
|
%
|
995
|
30
|
3.02
|
%
|
6,886
|
67
|
0.97
|
%
|
||||||||||||||||
|
Total
Interest Earning Assets
|
1,745,829
|
100,177
|
5.74
|
%
|
1,583,572
|
83,483
|
5.27
|
%
|
1,403,828
|
70,903
|
5.05
|
%
|
||||||||||||||||
|
NONINTEREST
EARNING ASSETS:
|
||||||||||||||||||||||||||||
|
Cash
and Due From Banks
|
42,906
|
42,280
|
37,881
|
|||||||||||||||||||||||||
|
Bank
Premises and Equipment
|
33,298
|
31,504
|
30,576
|
|||||||||||||||||||||||||
|
Other
Assets
|
42,716
|
45,625
|
40,376
|
|||||||||||||||||||||||||
|
Less:
Allowance for Loan Losses
|
(7,231
|
)
|
(6,945
|
)
|
(6,597
|
)
|
||||||||||||||||||||||
|
Total
Assets
|
$
|
1,857,518
|
$
|
1,696,036
|
$
|
1,506,064
|
||||||||||||||||||||||
|
(1)
|
Interest
on loans includes fees on loans which are not material in
amount.
|
|
(2)
|
Interest
income includes taxable-equivalent adjustments of $2,230, $2,287
and
$2,216 for the years ended December 31, 2006, 2005 and 2004,
respectively.
|
|
(3)
|
Interest
income includes taxable-equivalent adjustments of $995, $1,515 and
$1,687
for the years ended December 31, 2006, 2005 and 2004,
respectively.
|
|
(4)
|
For
the purpose of calculating the average yield, the average balance
of
securities is presented at historical
cost.
|
|
Note:
|
As
of December 31, 2006, 2005 and 2004, loans totaling $1,333, $1,731
and
$2,248, respectively, were on nonaccrual status. The policy is to
reverse
previously accrued but unpaid interest on nonaccrual loans; thereafter,
interest income is recorded to the extent received when
appropriate.
|
|
AVERAGE
BALANCES AND YIELDS
|
||||||||||||||||||||||||||||
|
(dollars
in thousands)
|
||||||||||||||||||||||||||||
|
Years
Ended
|
||||||||||||||||||||||||||||
|
December
31, 2006
|
December
31, 2005
|
December
31, 2004
|
||||||||||||||||||||||||||
|
AVG.
|
AVG.
|
AVG.
|
AVG.
|
AVG.
|
AVG.
|
|||||||||||||||||||||||
|
|
BALANCE
|
INTEREST
|
YIELD
|
BALANCE
|
INTEREST
|
YIELD
|
BALANCE
|
INTEREST
|
YIELD
|
|||||||||||||||||||
|
LIABILITIES
AND SHAREHOLDERS' EQUITY
|
||||||||||||||||||||||||||||
|
INTEREST
BEARING LIABILITIES:
|
||||||||||||||||||||||||||||
|
Savings
Deposits
|
$
|
50,764
|
645
|
1.27
|
%
|
$
|
50,502
|
524
|
1.04
|
%
|
$
|
48,456
|
234
|
0.48
|
%
|
|||||||||||||
|
Time
Deposits
|
467,174
|
20,516
|
4.39
|
%
|
354,360
|
11,221
|
3.17
|
%
|
319,083
|
7,847
|
2.46
|
%
|
||||||||||||||||
|
Interest
Bearing
|
||||||||||||||||||||||||||||
|
Demand
Deposits
|
349,375
|
9,529
|
2.73
|
%
|
313,815
|
5,476
|
1.74
|
%
|
281,452
|
2,027
|
0.72
|
%
|
||||||||||||||||
|
Total
Interest Bearing Deposits
|
867,313
|
30,690
|
3.54
|
%
|
718,677
|
17,221
|
2.40
|
%
|
648,991
|
10,108
|
1.56
|
%
|
||||||||||||||||
|
Short-term
Interest
|
||||||||||||||||||||||||||||
|
Bearing
Liabilities
|
376,696
|
16,534
|
4.39
|
%
|
282,283
|
9,892
|
3.50
|
%
|
181,779
|
6,499
|
3.58
|
%
|
||||||||||||||||
|
Long-term
Interest Bearing
|
||||||||||||||||||||||||||||
|
Liabilities-FHLB
|
154,983
|
6,379
|
4.12
|
%
|
274,673
|
10,004
|
3.64
|
%
|
293,499
|
10,076
|
3.43
|
%
|
||||||||||||||||
|
Long-term
Debt (5)
|
20,619
|
1,681
|
8.04
|
%
|
20,619
|
1,305
|
6.24
|
%
|
20,619
|
923
|
4.40
|
%
|
||||||||||||||||
|
Total
Interest Bearing Liabilities
|
1,419,611
|
55,284
|
3.89
|
%
|
1,296,252
|
38,422
|
2.96
|
%
|
1,144,888
|
27,606
|
2.41
|
%
|
||||||||||||||||
|
NONINTEREST
BEARING LIABILITIES:
|
||||||||||||||||||||||||||||
|
Demand
Deposits
|
314,241
|
280,036
|
246,477
|
|||||||||||||||||||||||||
|
Other
Liabilities
|
12,403
|
14,649
|
9,534
|
|||||||||||||||||||||||||
|
Total
Liabilities
|
1,746,255
|
1,590,937
|
1,400,899
|
|||||||||||||||||||||||||
|
SHAREHOLDERS'
EQUITY
|
111,263
|
105,099
|
105,165
|
|||||||||||||||||||||||||
|
TOTAL
LIABILITIES AND HAREHOLDERS' EQUITY
|
$
|
1,857,518
|
$
|
1,696,036
|
$
|
1,506,064
|
||||||||||||||||||||||
|
NET
INTEREST INCOME
|
$
|
44,893
|
$
|
45,061
|
$
|
43,297
|
||||||||||||||||||||||
|
NET
YIELD ON AVERAGE EARNING ASSETS
|
2.57
|
%
|
2.85
|
%
|
3.08
|
%
|
||||||||||||||||||||||
|
NET
INTEREST SPREAD
|
1.85
|
%
|
2.31
|
%
|
2.64
|
%
|
||||||||||||||||||||||
|
(5)
|
Represents
junior subordinated debentures issued by us to Southside Statutory
Trust
III in connection with the issuance of Southside Statutory Trust
III of
$20 million of trust preferred
securities.
|
ANALYSIS
OF CHANGES IN INTEREST INCOME AND INTEREST EXPENSE
The
following tables set forth the dollar amount of increase (decrease) in interest
income and interest expense resulting from changes in the volume of interest
earning assets and interest bearing liabilities and from changes in yields
(in
thousands):
|
Years
Ended December 31,
|
||||||||||
|
2006
Compared to 2005
|
||||||||||
|
Average
|
Average
|
Increase
|
||||||||
|
Volume
|
Yield
|
(Decrease)
|
||||||||
|
INTEREST
INCOME:
|
||||||||||
|
Loans
(1)
|
$
|
4,173
|
$
|
3,297
|
$
|
7,470
|
||||
|
Loans
Held For Sale
|
9
|
25
|
34
|
|||||||
|
Investment
Securities (Taxable)
|
110
|
410
|
520
|
|||||||
|
Investment
Securities (Tax Exempt) (1)
|
(1,576
|
)
|
14
|
(1,562
|
)
|
|||||
|
Mortgage-backed
Securities
|
5,572
|
4,245
|
9,817
|
|||||||
|
FHLB
stock and other investments
|
(5
|
)
|
382
|
377
|
||||||
|
Interest
Earning Deposits
|
2
|
9
|
11
|
|||||||
|
Federal
Funds Sold
|
5
|
22
|
27
|
|||||||
|
Total
Interest Income
|
8,290
|
8,404
|
16,694
|
|||||||
|
INTEREST
EXPENSE:
|
||||||||||
|
Savings
Deposits
|
3
|
118
|
121
|
|||||||
|
Time
Deposits
|
4,196
|
5,099
|
9,295
|
|||||||
|
Interest
Bearing Demand Deposits
|
679
|
3,374
|
4,053
|
|||||||
|
Short-term
Interest Bearing Liabilities
|
3,785
|
2,857
|
6,642
|
|||||||
|
Long-term
FHLB Advances
|
(4,796
|
)
|
1,171
|
(3,625
|
)
|
|||||
|
Long-term
Debt
|
-
|
376
|
376
|
|||||||
|
Total
Interest Expense
|
3,867
|
12,995
|
16,862
|
|||||||
|
Net
Interest Income
|
$
|
4,423
|
$
|
(4,591
|
)
|
$
|
(168
|
)
|
||
|
Years
Ended December 31,
|
||||||||||
|
2005
Compared to 2004
|
||||||||||
|
Average
|
Average
|
Increase
|
||||||||
|
Volume
|
Yield
|
(Decrease)
|
||||||||
|
INTEREST
INCOME:
|
||||||||||
|
Loans
(1)
|
$
|
3,304
|
$
|
702
|
$
|
4,006
|
||||
|
Loans
Held For Sale
|
43
|
(11
|
)
|
32
|
||||||
|
Investment
Securities (Taxable)
|
158
|
748
|
906
|
|||||||
|
Investment
Securities (Tax Exempt) (1)
|
(642
|
)
|
5
|
(637
|
)
|
|||||
|
Mortgage-backed
Securities
|
5,738
|
2,001
|
7,739
|
|||||||
|
FHLB
stock and other investments
|
84
|
471
|
555
|
|||||||
|
Interest
Earning Deposits
|
-
|
16
|
16
|
|||||||
|
Federal
Funds Sold
|
(92
|
)
|
55
|
(37
|
)
|
|||||
|
Total
Interest Income
|
8,593
|
3,987
|
12,580
|
|||||||
|
INTEREST
EXPENSE:
|
||||||||||
|
Savings
Deposits
|
10
|
280
|
290
|
|||||||
|
Time
Deposits
|
937
|
2,437
|
3,374
|
|||||||
|
Interest
Bearing Demand Deposits
|
258
|
3,191
|
3,449
|
|||||||
|
Short-term
Interest Bearing Liabilities
|
3,524
|
(131
|
)
|
3,393
|
||||||
|
Long-term
FHLB Advances
|
(666
|
)
|
594
|
(72
|
)
|
|||||
|
Long-term
Debt
|
-
|
382
|
382
|
|||||||
|
Total
Interest Expense
|
4,063
|
6,753
|
10,816
|
|||||||
|
Net
Interest Income
|
$
|
4,530
|
$
|
(2,766
|
)
|
$
|
1,764
|
|||
|
(1)
|
Interest
yields on loans and securities which are nontaxable for Federal Income
Tax
purposes are presented on a taxable equivalent basis.
|
NOTE:
Volume/Yield variances (change in volume times change in yield) have been
allocated to amounts attributable to changes in volumes and to changes in yields
in proportion to the amounts directly attributable to those
changes.
PROVISION
FOR LOAN LOSSES
The
provision for loan losses for the year ended December 31, 2006 was $1.1 million
compared to $1.5 million for December 31, 2005. For the year ended December
31,
2006, net charge-offs of loans decreased $338,000, or 25.7%, to $977,000 when
compared to $1.3 million for the same period in 2005.
The
decrease in net charge-offs for 2006 was due to a combination of an increase
in
total recoveries of $314,000 and a slight decrease in total charge-offs of
$24,000. Net charge-offs for commercial loans decreased $226,000 from 2005
primarily as a result of an overall decrease in charge-offs. Net charge-offs
for
loans to individuals decreased $113,000 during 2006 due to an overall increase
in recoveries which more than offset the increase in charge-offs when compared
to 2005.
As
of
December 31, 2006, our review of the loan portfolio indicated that a loan loss
allowance of $7.2 million was adequate to cover probable losses in the
portfolio.
NONINTEREST
INCOME
Noninterest
income consists of revenues generated from a broad range of financial services
and activities including fee based services. The following schedule lists the
accounts from which noninterest income was derived, gives totals for these
accounts for the year ended December 31, 2006 and the comparable year ended
December 31, 2005 and indicates the percentage changes:
|
Years
Ended
|
||||||||||
|
December
31,
|
Percent
|
|||||||||
|
2006
|
2005
|
Change
|
||||||||
|
(dollars
in thousands)
|
||||||||||
|
Deposit
services
|
$
|
15,482
|
$
|
14,594
|
6.1
|
%
|
||||
|
Gain
on sale of securities available for sale
|
743
|
228
|
225.9
|
%
|
||||||
|
Gain
on sale of loans
|
1,817
|
1,807
|
0.6
|
%
|
||||||
|
Trust
income
|
1,711
|
1,422
|
20.3
|
%
|
||||||
|
Bank
owned life insurance income
|
1,067
|
951
|
12.2
|
%
|
||||||
|
Other
|
2,661
|
2,246
|
18.5
|
%
|
||||||
|
Total
noninterest income
|
$
|
23,481
|
$
|
21,248
|
10.5
|
%
|
||||
Total
noninterest income for the year ended December 31, 2006 increased 10.5%, or
$2.2 million, compared to 2005. During the year ended December 31, 2006, we
had
a gain on the sale of AFS securities of $743,000 compared to $228,000 for the
same period in 2005. The market value of the AFS securities portfolio at
December 31, 2006 was $742.1 million with a net unrealized loss on that date
of
$6.7 million. The net unrealized loss is comprised of $9.9 million in unrealized
losses and $3.2 million in unrealized gains. We sold securities out of our
AFS
portfolio to accomplish ALCO and investment portfolio objectives aimed at
repositioning a portion of the securities portfolio in an attempt to maximize
the total return of the securities portfolio and reduce alternative minimum
tax.
During 2006, we primarily sold tax-free municipal securities to reduce
alternative minimum tax and selected mortgage-backed securities where the risk
reward profile had changed.
Deposit
services income increased $888,000, or 6.1%, for the year ended December 31,
2006, when compared to the same period in 2005, primarily as a result of
increases in overdraft income and an increase in debit card income, which were
offset by decreases in deposit account service charges due to increases in
earnings credit rates.
Trust
income increased $289,000, or 20.3%, for the year ended December 31, 2006,
when
compared to the same period in 2005 due to growth experienced in our trust
department. Assets under management in our trust department exceeded $500
million for the first time during 2006 and were approximately $564 million
at
December 31, 2006.
Gain
on
sale of loans increased $10,000, or 0.6%, for the year ended December 31, 2006,
when compared to the same period in 2005. The slight increase was primarily
due
to an increase in residential mortgage loans sold during 2006 when compared
to
2005. The increase was offset by a gain of $248,000 from the sale of $6.2
million in student loans during 2005.
Bank
owned life insurance (“BOLI”) income increased $116,000, or 12.2%, for the year
ended December 31, 2006, when compared to the same period in 2005 primarily
as a
result of an increase in the average balance of cash surrender value associated
with our BOLI.
Other
noninterest income increased $415,000, or 18.5%, for the year ended December
31,
2006, when compared to the same period in 2005. The increase was primarily
a
result of increases in brokerage services income, credit card fee income,
Mastercard income and Travelers Express income, and a recovery of $150,000
received during the second quarter of 2006 that was related to a loss on a
check
during 2005. The increases were partially offset by a special distribution
of
$286,000 received during 2005 as a result of the merger of the Pulse EFT
Association with Discover Financial Services.
NONINTEREST
EXPENSE
The
following schedule lists the accounts which comprise noninterest expense, gives
totals for these accounts for the years ended December 31, 2006 and 2005
and indicates the percentage changes:
|
Years
Ended
|
||||||||||
|
December
31,
|
Percent
|
|||||||||
|
2006
|
2005
|
Change
|
||||||||
|
(dollars
in thousands)
|
||||||||||
|
Salaries
and employee benefits
|
$
|
28,275
|
$
|
27,479
|
2.9
|
%
|
||||
|
Occupancy
expense
|
4,777
|
4,257
|
12.2
|
%
|
||||||
|
Equipment
expense
|
899
|
847
|
6.1
|
%
|
||||||
|
Advertising,
travel and entertainment
|
1,742
|
1,967
|
(11.4
|
%)
|
||||||
|
ATM
and debit card expense
|
955
|
648
|
47.4
|
%
|
||||||
|
Director
fees
|
587
|
677
|
(13.3
|
%)
|
||||||
|
Supplies
|
637
|
628
|
1.4
|
%
|
||||||
|
Professional
fees
|
1,386
|
1,339
|
3.5
|
%
|
||||||
|
Postage
|
618
|
572
|
8.0
|
%
|
||||||
|
Telephone
and communications
|
723
|
593
|
21.9
|
%
|
||||||
|
Other
|
4,368
|
4,152
|
5.2
|
%
|
||||||
|
Total
noninterest expense
|
$
|
44,967
|
$
|
43,159
|
4.2
|
%
|
||||
Noninterest
expense for the year ended December 31, 2006 increased $1.8 million, or 4.2%,
when compared to the year ended December 31, 2005. Salaries and employee
benefits expense increased $796,000, or 2.9%, during the year ended December
31,
2006, when compared to the same period in 2005. Direct salary expense and
payroll taxes increased $1.6 million, or 7.4%, for the year ended December
31,
2006, when compared to the same period in 2005. These increases were the result
of normal salary increases and higher staffing levels associated with both
the
opening of four de novo branch locations since September 30, 2005, and our
regional lending initiative. While continued expansion has and will continue
to
impact short-term earnings, we believe the potential long-term benefits should
outweigh the short-term expense.
During
the third quarter of 2006, department managers completed an evaluation of work
flow in their respective departments, with the primary objective of identifying
any opportunities to increase productivity primarily through the use of
technology investments with less personnel expense. In certain departments
the
evaluations identified the ability to utilize part-time employees to better
staff for peak customer transaction times in lieu of full-time employees. In
addition, management is utilizing productivity gains to not fill certain
vacancies created by normal attrition. The combination of these initiatives
resulted in salary and employee benefit expense savings and improved
productivity gains.
Retirement
expense decreased $825,000, or 25.2%, for the year ended December 31, 2006,
when
compared to the same period in 2005, primarily as a result of the amendments
to
the Plan in the fourth quarter of 2005 that became effective in 2006. Our
actuarial assumptions used to determine net periodic pension costs were reduced
for 2006 when compared to 2005. Specifically, the assumed long-term rate
of
return was 7.875% and the assumed discount rate was 5.625%. We will continue
to
evaluate the assumed long-term rate of return and the discount rate to determine
if either should be changed in the future. If either of these assumptions
were
decreased, the cost and funding required for the retirement plan could increase.
On November 3, 2005, our board of directors approved amendments to the Plan
which affected future participation in the Plan and reduced the accrual of
future benefits. A summary of the amendments to the Plan are
presented in “Note
13- Employee
Benefits” to
our consolidated financial statements
Health
and life insurance expense increased $19,000, or 0.7%, for the year ended
December 31, 2006, when compared to the same period in 2005 due to increased
health claims expense in the last quarter of 2006. We have a self-insured health
plan which is supplemented with stop loss insurance policies. Health insurance
costs are rising nationwide and these costs may increase during
2007.
Occupancy
expense increased $520,000, or 12.2%, for the year ended December 31, 2006,
compared to the same period in 2005 due primarily to the opening of four de
novo
branch locations since September 30, 2005, combined with higher utility costs
incurred during 2006 at existing locations.
Advertising,
travel and entertainment decreased $225,000, or 11.4%, for the year ended
December 31, 2006, compared to the same period in 2005, due to a coordinated
effort to reduce costs in this area.
ATM
and
debit card expense increased $307,000, or 47.4%, for the year ended December
31,
2006, compared to the same period in 2005. The increase was primarily due to
an
increase in combined use of ATM and debit cards, point of sale activity and
a
new billing system from our service provider.
Director
fees decreased $90,000, or 13.3%, for the year ended December 31, 2006, compared
to the same period in 2005 due to a decrease in the number of directors and
a
decrease in the amount paid to holding company directors during
2006.
Telephone
and communications expense increased $130,000, or 21.9%, for the year ended
December 31, 2006, compared to the same period in 2005 primarily due to the
opening of four de novo branch locations since September 30, 2005 and the
addition of disaster recovery communication capabilities at a separate branch
facility.
Other
expense increased $216,000, or 5.2%, for the year ended December 31, 2006,
compared to the same period in 2005. The increase occurred primarily due to
increases in computer fees, taxes other than real estate, losses on OREO, bank
analysis fees, student loan origination and lender fee expense, and stored
value
card expense that were partially offset by decreases in other losses and
liability insurance expense.
INCOME
TAXES
Pre-tax
income for the year ended December 31, 2006 was $19.1 million compared to $17.9
million and $20.1 million for the years ended December 31, 2005 and 2004,
respectively.
Income
tax expense was $4.1 million for the year ended December 31, 2006 and
represented an $807,000, or 24.5%, increase from the year ended December 31,
2005. The effective tax rate as a percentage of pre-tax income was 21.5% in
2006, 18.4% in 2005 and 19.7% in 2004. The increase in the effective tax rate
and income tax expense for 2006 was due to the decrease in our tax-exempt income
as a percentage of pre-tax income for the year ended December 31, 2006 when
compared to December 31, 2005.
We
decreased our municipal securities portfolio during 2006 to balance the overall
level of tax-free income from the municipal investment securities and municipal
loan portfolios. We continue to review the appropriate level of tax-free income
so as to minimize any alternative minimum tax position in the future. We believe
the remaining alternative minimum tax position is realizable in the future
and
no valuation allowance against the related deferred tax asset is deemed
necessary at this time.
COMPARISON
OF OPERATING RESULTS FOR THE YEARS ENDED DECEMBER 31, 2005 COMPARED TO DECEMBER
31, 2004
NET
INTEREST INCOME
Net
interest income for the year ended December 31, 2005 was $41.3 million, an
increase of $1.9 million, or 4.7%, compared to the same period in 2004. The
overall increase in net interest income was primarily the result of increases
in
interest income from loans, mortgage-backed and related securities and taxable
investment securities which more than offset the increase in interest expense
on
deposits and long and short-term obligations. During the year ended December
31,
2005, total interest income increased $12.7 million, or 18.9%, as a result
of an
increase in average
interest
earning assets of $179.7 million, or 12.8%, and the increase in average yield
on
average interest earning assets from 5.05% at December 31, 2004 to 5.27% at
December 31, 2005. Total interest expense increased $10.8 million, or 39.2%,
to
$38.4 million during the year ended December 31, 2005 as compared to $27.6
million during the same period in 2004. The increase was attributable to an
increase in the average yield on interest bearing liabilities at December 31,
2005, to 2.96% from 2.41% for the same period in 2004 and an increase in average
interest bearing liabilities of $151.4 million, or 13.2%.
Net
interest income increased during 2005 as a result of increases in our average
interest earning assets during 2005 when compared to 2004, which more than
offset the decrease in our net interest margin and spread during the year ended
December 31, 2005 to 2.85% and 2.31%, respectively, when compared to 3.08%
and
2.64%, respectively, for the same period in 2004. The decreases in our net
interest margin and spread were due primarily to the changing interest rate
environment that began in mid 2004. Since mid 2004, short-term interest rates
increased significantly while long-term interest rates increased less. This
caused our yield on our interest bearing liabilities to increase faster than
the
yield on our earning assets.
During
the year ended December 31, 2005, average loans, funded by the growth in average
deposits, increased $53.3 million, or 8.8%, compared to the same period in
2004.
The average yield on loans increased from 6.11% during the year ended December
31, 2004 to 6.22% during the year ended December 31, 2005. The increase in
the
yield on loans was due to the overall increase in interest rates. The rate
at
which loan yields were increasing was partially impacted by repricing
characteristics of the loans, interest rates at the time the loans repriced,
and
the competitive loan pricing environment. The increase in interest income on
loans of $4.0 million, or 11.4%, was the result of an increase in the average
yield on loans and an increase in average loans.
Average
investment and mortgage-backed securities increased $127.7 million, or 16.7%,
for the year ended December 31, 2005 when compared to the same period in 2004.
This increase was primarily funded by an increase in average deposits. The
overall yield on average investment and mortgage-backed securities increased
to
4.63% during the year ended December 31, 2005 from 4.35% during the same period
in 2004, due to decreased prepayment rates on mortgage-backed securities which
led to decreased amortization expense. The higher overall interest rate
environment during 2005 when compared to 2004, contributed to a decrease in
residential mortgage refinancing nationwide and in our market area. This
decrease in prepayments on mortgage loans combined with a restructuring of
the
securities portfolio reduced overall amortization expense which contributed
to
the increase in interest income. In addition, securities purchased during 2005
were at overall higher yields. Interest
income on investment and mortgage-backed securities increased $8.2 million
in
2005, or 25.9%, compared to 2004 due to an increase in both the average yield
and the average balance on securities during 2005.
Interest
income from FHLB stock and other investments, federal funds sold and other
interest earning assets increased $534,000, or 96.7%, for the year ended
December 31, 2005 when compared to 2004, primarily as a result of higher average
dividends paid on FHLB stock during 2005.
During
the year ended December 31, 2005, average securities increased more than average
loans. As a result, the mix of our average interest earning assets reflected
a
decrease in average total loans as a percentage of total average interest
earning assets compared to the prior year as loans averaged 41.8% during 2005
compared to 43.3% during 2004, a direct result of less loan growth when compared
to the growth in securities. Securities averaged 58.1% of average total interest
earning assets and other interest earning asset categories averaged 0.1% for
December 31, 2005. During 2004, the comparable mix was 56.1% in securities
and
0.6% in the other interest earning asset categories.
Total
interest expense increased $10.8 million, or 39.2%, to $38.4 million during
the
year ended December 31, 2005 as compared to $27.6 million during the same period
in 2004. The increase was attributable to an increase in the average yield
on
interest bearing liabilities and an increase in average interest bearing
liabilities of $151.4 million, or 13.2%. Average interest bearing deposits
increased $69.7 million, or 10.7%, and the average rate paid increased from
1.56% during the year ended December 31, 2004 to 2.40% during the year ended
December 31, 2005. Average
time deposits increased $35.3 million, or 11.1%, and the average rate paid
increased 71 basis points. Average interest bearing demand deposits increased
$32.4 million, or 11.5%, and the average rate paid increased 102 basis points.
Average savings deposits increased $2.0 million, or 4.2%, and the average rate
paid increased 56 basis points. Average noninterest bearing demand deposits
increased $33.6 million, or 13.6%, during 2005. The latter three categories,
which are considered the lowest cost deposits, comprised 64.5% of total average
deposits during the year ended December 31, 2005 compared to 64.4% during 2004
and 60.2% during 2003. The increase in average total deposits is reflective
of
overall bank growth and branch expansion.
During
the fourth quarter ended December 31, 2005, we issued $19.8 million of callable
brokered CDs, where we retained the right to call the CDs before the final
maturity date, to replace a portion of the FHLB short-term funding. These
brokered CDs had maturities from three to five years and calls from three months
to one year. At December 31, 2005, we had $19.8 million in brokered CDs that
represented 1.8% of deposits. We utilized long-term brokered CDs in place of
long-term FHLB funding as the brokered CDs better matched overall ALCO
objectives. At December 31, 2004, we had no brokered CDs. The potential higher
interest cost and lack of customer loyalty are risks associated with the use
of
brokered CDs.
Average
short-term interest bearing liabilities, consisting primarily of FHLB advances
and federal funds purchased, were $282.3 million, an increase of $100.5 million,
or 55.3%, for the year ended December 31, 2005 when compared to the same period
in 2004. Interest expense associated with short-term interest bearing
liabilities increased $3.4 million, or 52.2%, while the average rate paid
decreased 8 basis points for the year ended December 31, 2005 when compared
to
the same period in 2004 due primarily to long-term FHLB advances becoming
short-term during 2005. The decrease in the average rate paid was due primarily
to lower interest rate long-term FHLB advances being reclassified to short-term.
Average long-term interest bearing liabilities consisting of FHLB advances
decreased $18.8 million, or 6.4%, during the year ended December 31, 2005 to
$274.7 million as compared to $293.5 million at December 31, 2004. Interest
expense associated with long-term FHLB advances decreased $72,000, or 0.7%,
while the average rate paid increased 21 basis points for the year ended
December 31, 2005 when compared to the same period in 2004. The long-term
advances were obtained from the FHLB primarily to fund long-term securities
and
loans. FHLB advances are collateralized by FHLB stock, securities and
nonspecific loans.
PROVISION
FOR LOAN LOSSES
The
provision for loan losses for the year ended December 31, 2005 was $1.5 million
compared to $925,000 for December 31, 2004. For the year ended December 31,
2005, we had net charge-offs of loans of $1.3 million, an increase of 231.2%
compared to December 31, 2004. For the year ended December 31, 2004, net
charge-offs of loans were $397,000.
The
increase in net charge-offs for 2005 was due to an increase in total charge-offs
that exceeded the increase in total recoveries. Net charge-offs for commercial
loans increased $332,000 from December 31, 2004 primarily as a result of a
large
recovery on one loan during the third quarter of 2004. Net charge-offs for
loans
to individuals increased $635,000 due primarily to an increase in net
charge-offs of overdraft accounts from December 31, 2004. These increases in
net
charge-offs were partially offset by a decrease in net charge-offs of real
estate loans of $49,000.
As
of
December 31, 2005, our review of the loan portfolio indicated that a loan loss
allowance of $7.1 million was adequate to cover probable losses in the
portfolio.
NONINTEREST
INCOME
Noninterest
income consists of revenues generated from a broad range of financial services
and activities including fee based services. The following schedule lists the
accounts from which noninterest income was derived, gives totals for these
accounts for the year ended December 31, 2005 and the comparable year ended
December 31, 2004 and indicates the percentage changes:
|
Years
Ended
|
||||||||||
|
December
31,
|
Percent
|
|||||||||
|
2005
|
2004
|
Change
|
||||||||
|
(dollars
in thousands)
|
||||||||||
|
Deposit
services
|
$
|
14,594
|
||||||||