Item 405 of Regulation S-B is not contained
in this form, and no disclosure will be contained to the best of the registrant’s knowledge, in
definitive proxy information statements incorporated by reference in Part III of this Form 10-KSB
or any amendments to this Form 10-KSB.
Not applicable
Not applicable
Issuer’s revenues for its most recent fiscal year: $18,164,343
Aggregate market value of the voting stock held by non-affiliates, computed by reference to the
closing price of such stock on February 22, 2008 was: $53,418,324
As of February 22, 2008, the Registrant has outstanding 3,953,984 shares of common stock.
Transitional Small Business Disclosure Format (check one): Yes o No þ
BANK OF SOUTH CAROLINA CORPORATION
AND SUBSIDIARY
AND SUBSIDIARY
Table of Contents
Table of Contents
PART I
Item 1. Description of Business
On February 26, 1987, The Bank of South Carolina (the “Bank”), a state-chartered financial
institution, opened for business. Organized originally on October 22, 1986, the Bank was
reorganized into a wholly-owned subsidiary of Bank of South Carolina Corporation (the “Company”),
effective April 17, 1995. At the time of the reorganization, each outstanding share of the Bank
was exchanged for two shares of Bank of South Carolina Corporation Stock.
The Company, a bank holding company within the meaning of the Bank Holding Company Act of 1956, as
amended and as such, is under the supervisory and regulatory authority of the Board of Governors of
the Federal Reserve System (the “Federal Reserve”). As a bank holding company registered under the
laws of the South Carolina Bank Holding Company Act, the Company is also subject to regulation by
the South Carolina State Board of Financial Institutions. Thus, the Company is required to file
annual reports and other information with the Federal Reserve and the South Carolina State Board of
Financial Institutions regarding its financial condition, results of operations, management and
intercompany relationships and transactions between the Company and its subsidiaries. The Company
is publicly traded on the National Association of Securities Dealers Automated Quotations (NASDAQ),
and is under the reporting authority of the Securities and Exchange Commission (SEC). Compliance
with federal, state and local provisions regulating the discharge of materials into the environment
had no material effect on the capital expenditures, earnings and competitive position of the Bank
in fiscal year ended December 31, 2007.
The Company’s subsidiary bank, The Bank of South Carolina, is a state chartered financial
institution, and as such, is subject to various statutory requirements, supervision and regulation,
of which regular bank examinations are a part, promulgated and enforced primarily by the Federal
Deposit Insurance Corporation (FDIC), through which the Bank is insured, and the South Carolina
State Board of Financial Institutions. Since the primary asset of the Company is its wholly-owned
subsidiary, the majority of the following discussion relates to the Bank.
The Bank serves Berkeley, Charleston and Dorchester counties (the “Tri-County Area”) as an
independent, community-oriented commercial bank concentrating on individuals and small and
medium-sized businesses desiring a high level of personalized services. The four banking house
locations of the Bank include: 256 Meeting Street, Charleston, SC, 100 North Main Street,
Summerville, SC, 1337 Chuck Dawley Boulevard, Mt. Pleasant, SC and 2027 Sam Rittenberg Boulevard,
Charleston, SC.
The Bank offers a full range of deposit services. Checking account services include regular
non-interest bearing checking accounts as well as interest bearing negotiable order of withdrawal
(“NOW”) accounts. Savings and certificate of deposit accounts include accounts ranging from a
daily maturity (regular savings and also money market accounts) to longer term certificates as
authorized by regulation. The Bank offers tiered interest to its customers on both money market
and NOW accounts. In addition, Individual Retirement Accounts are available. During 2006, the bank
added health savings accounts to its deposit services. All deposit accounts are insured by the
FDIC to the full amount permitted by law. Deposit accounts are solicited from individuals,
businesses, professional organizations and governmental authorities.
Lending services include a full range of commercial, personal and mortgage loans. The Bank’s
primary focus is on business lending. The types of commercial loans that are available include
both secured and unsecured loans for working capital (including inventory and receivables),
business expansion (including acquisition of real estate and improvements) and purchase of
machinery and equipment. From time to time the Bank may make real estate loans for land
acquisition, land development or construction loans. The types of personal loans that are available
include secured and unsecured loans for such purposes as financing automobiles, home improvements,
education, lot acquisition, construction, home equity loans and personal investments. The Bank
offers a personal checking account related line of credit. This line of credit is available for
both protection against unexpected overdrafts and also for the convenience of having a pre-arranged
loan that can be activated simply by a check drawn on a personal checking account. In the fourth
quarter of 1993, a residential mortgage lending department was opened with mortgage loans being
provided through correspondent relationships. The Bank originates, processes and closes the loan
and sells (each individually) to a correspondent.
3
Table of Contents
The Bank offers credit cards (through correspondent banking services)
including MasterCard(TM) and
Visa(TM). The Bank does not have a proprietary automated teller machine but participates in a
national ATM network through the Visa Debit Card Program. This service is called “Check Card” by
the Bank and also offers purchases by the cardholder where Visa debit cards are accepted worldwide
using a direct charge to their checking account. Other services offered, but not limited to,
include safe deposit boxes, letters of credit, travelers checks, direct deposit of payroll, social
security and dividend payments and automatic payment of insurance premiums and mortgage loans.
The Bank offers a courier service and ACH origination service as part of its deposit services for
commercial customers. Internet Banking called “ESafe” by the Bank, offers twenty-four hour
information, up-to-the minute account activity, automatic transfers or one-time transfers between
accounts, actual images of customer checks, and statement viewing. The Bank will begin offering
internet “Bill Pay” services in 2008. The Bank’s website, www.banksc.com, provides direct access to
public filings by the Company. In 2006, the Company implemented a direct stock purchase plan and a
dividend reinvestment plan through Computershare.
The business of the Bank is not considered to be seasonal nor is the Bank’s business dependent on
any one industry.
The Company’s accounting policies are discussed in Item 7, Note 1 to the Consolidated Financial
Statements. Of these significant accounting policies, the Company considers its policies regarding
the allowance for loan losses to be its most critical accounting policy due to the significant
degree of management judgment. For additional discussion concerning the Company’s allowance for
loan losses and related matters, see Item 6, “Allowance for Loan Losses”.
The Company was authorized by its Board of Directors at its December 1995 board meeting to
repurchase up to 116,462 shares of its common stock on the open market from time to time, and, at
its October, 1999 Board meeting, to repurchase up to 37,812 shares of its common stock on the open
market from time to time, and, at its September, 2001 Board meeting, to repurchase up to 45,375
shares of its common stock on the open market from time to time. As of this date, 199,501 shares
have been repurchased by the Company with 148 shares remaining that are authorized to be
repurchased.
Since January 1, 1986, South Carolina law has permitted regional interstate banking. Pursuant to
such law, several of the banks in the Tri-County Area have been acquired by banks with headquarters
outside the State of South Carolina. In addition, South Carolina laws permit statewide branching
by banks and savings and loan associations. In the Bank’s primary service area, there are 20
financial institutions, of which seven are considered to have their headquarters in the Bank’s
service area. In addition, there are two savings banks and various credit unions with offices in
the Tri-County Area. The Bank encounters strong competition from these financial institutions as
well as consumer and commercial finance companies, insurance companies, brokerage firms and other
financial institutions, some of which are not subject to the same degree of regulation and
restrictions as the Bank. Many of these competitors have substantially greater resources and
lending limits than the Bank has and offer certain services, such as trust and international
banking services, which the Bank is not providing. The Bank does, however, provide a means for
clearing international checks and drafts through a third party or correspondent bank.
At year- end 2007, the Bank employed 70 people, 2 of whom are considered part time employees, none
of whom are subject to a collective bargaining agreement. Management believes its relationship
with its employees is excellent.
4
Table of Contents
Item 2. Description of Property
The Bank leases its headquarters and office facilities at 256 Meeting Street in downtown
Charleston. On June 30, 1995, the Bank was successful in renegotiating its lease for one hundred
forty (140) months with two additional ten-year terms. Base rent was $26,432 monthly payable in
advance for the first twenty (20) months and the remaining one hundred twenty (120) months of the
term (which began March 1, 1997) and for the two (2) extensions of the original term is $24,801
per month in advance and is adjustable by 4% of the base rent every two years. The rent, payable
in equal monthly installments of $30,175, will increase to $31,382 in March 2009. In addition, the
Bank leases adjacent parking facilities at $3,042 per month.
In October of 1993, the Bank opened an office at 100 N. Main Street, Summerville, SC and entered
into a lease agreement on August 9, 1993, with an original termination date of June 30, 1999, and
two 5-year options to renew. In June of 2004, the bank was successful in renegotiating its 100 N.
Main Street facilities lease beginning July 1, 2004 to an annual rent of $30,725 with an increase
of $3,582 each year thereafter until July 1, 2009. The lease was a fixed rate of $2,262 through
July 1, 2009; however, the new lease was negotiated so that the bank could remain in its current
location with the option to expand. At the end of the five year term (June 30, 2009) The Bank of
South Carolina will have three (3) ten (10) year options for renewal. During the renewal periods,
the annual rent will be adjusted by the current Consumer Price Index (CPI) capped at 3% annually.
On November 1, 1995, the Bank entered into an agreement with an individual to lease property for
construction of a new banking facility at 1337 Chuck Dawley Boulevard, Mt. Pleasant, SC. The
original term of the lease is for fifteen (15) years with six (6) additional terms of five (5)
years each. The base rent for the first ten (10) years was $2,250 per month paid in advance. Rent
for years 11 through 15 and each six (6) option periods shall be adjusted to reflect an annualized
return determined by multiplying the average yield on five (5) year U.S. Treasury Notes plus 150
basis points times an assumed raw land value of $325,000. The monthly rent, however, shall never
be less than the original rent of $2,250 per month. As of February 22, 2008, the rent has not
increased based on the above formula.
In the first quarter of 1997, the Bank purchased one acre of land for approximately $838,000 in
order to construct a full service banking office and operations center in the West Ashley community
of Charleston. In March, 1998, the two-story, 12,000 square foot facility was completed at a cost
of approximately $1,334,000 representing construction costs and furnishings.
All leased properties are in good order and condition.
Item 3. Legal Proceedings
In the opinion of management, there are no legal proceedings pending other than routine litigation
incidental to its business involving amounts which are not material to the financial condition of
the Company and the Bank. To the knowledge of management, no proceedings have been instituted or
are contemplated by or against any governmental authority against or by the Company or the Bank.
Item 4. Submission of Matters to a Vote of Security Holders
No matters were submitted to a vote of security holders during the fourth quarter of the fiscal
year ended December 31, 2007.
5
Table of Contents
PART II
Item 5. Market for the Company’s Common Equity and Related Stockholder Matters
There were issued and outstanding 3,953,984 shares of the 12,000,000 authorized shares of common
stock of the Company at the close of the Company’s fiscal year ended December 31, 2007. These
outstanding shares were held by approximately 1,200 shareholders in nominee names and of record on
December 31, 2007. The common stock of the Company is traded in the “capital market” by twenty
market making investment banking firms. These firms are Alternate Display Facility, Archipelago
Stock Exchange, Automated Trading Desk, Citadel Derivative Group, LLC, Citigroup Global Markets,
Inc., Hill, Thompson, Magid and Company, Howe Barnes Investments, Hudson Securities, Inc., JJB
Hilliard WL Lyons, Knight Equity Markets, LP, Merrill Lynch, Monroe Securities Inc., Morgan Keegan
& Company, Inc., Nasdaq Execution Services, LLC, Sandler O’Neill & Partners, Scott & Stringfellow,
Inc., Stern, Agee & Leach, Inc., Susquehanna Financial Group, LLLP, Susquehanna Financial Group and
USB Securities, LLC. Stock quotations are available through the National Association of Securities
Dealers Automated Quotations (NASDAQ) where the Bank’s shares are listed as BKSC.
According to information supplied by The Nasdaq Stock Market, the range of high and low bid
quotations for each quarterly period in the fiscal years 2007, 2006 and 2005 has been as follows:
| 2007 | 2006 | 2005 | ||||||||||||||||||||||
| High | Low | High | Low | High | Low | |||||||||||||||||||
First Quarter |
17.00 | 15.54 | 16.79 | 14.00 | 10.84 | 9.56 | ||||||||||||||||||
Second Quarter |
16.37 | 15.10 | 17.60 | 15.03 | 12.79 | 10.55 | ||||||||||||||||||
Third Quarter |
16.48 | 15.10 | 17.21 | 14.80 | 14.70 | 11.58 | ||||||||||||||||||
Fourth Quarter |
16.30 | 13.82 | 17.21 | 15.63 | 15.24 | 13.38 | ||||||||||||||||||
The Board of Directors of Bank of South Carolina Corporation declared a quarterly dividend of $.14
per share to shareholders of record March 30, 2007, payable April 30, 2007; $.16 per share to
shareholders of record July 2, 2007, payable July 31, 2007; $.16 per share to shareholders of
record October 1, 2007, payable October 31, 2007; $.16 per share to shareholders of record December
31, 2007, payable January 31, 2008.
The Board of Directors of Bank of South Carolina Corporation declared quarterly dividends in 2006
of $.15 per share to shareholders of record March 31, 2006, payable April 28, 2006; 25% stock
dividend to shareholders of record April 28, 2006, payable May 15, 2006; $.14 per share to
shareholders of record June 30, 2006, payable July 31, 2006; $.14 per share to shareholders of
record October 2, 2006, payable October 31, 2006; $.14 per share and a special $.10 per share to
shareholders of record December 29, 2006, payable January 31, 2007.
The Board of Directors of Bank of South Carolina Corporation declared quarterly dividends in 2005
of $.12 per share to shareholders of record March 31, 2005, payable April 29, 2005; 10% stock
distribution to shareholders of record April 29, 2005, payable May 16, 2005; $.12 per share to
shareholders of record June 30, 2005, payable July 29, 2005; $.12 per share to shareholders of
record September 30, 2005, payable October 31, 2005; $.15 per share to shareholders of record
December 30, 2005, payable January 31, 2005.
As of January 1, 2007, there were approximately 1,200 shareholders of record with shares held by
individuals and in nominee names, and on February 22, 2008, the market price for the common stock
of the Company was $13.51. It is the intent of the Company to continue paying dividends in the
future.
6
Table of Contents
Cash dividends, when declared, are paid by the Bank to the Company for distribution to shareholders
of the Company. Certain regulatory requirements restrict the amount of dividends which the Bank can
pay to the Company. Dividends paid by the Bank to the Company totaled $2,670,000 for the year
ended December 31, 2007.
Consolidated Financial Highlights
| 2007 | 2006 | 2005 | 2004 | 2003 | ||||||||||||||||
For December 31: |
||||||||||||||||||||
Net Income |
$ | 3,831,244 | $ | 3,928,263 | $ | 3,185,006 | $ | 1,845,623 | $ | 1,904,713 | ||||||||||
Selected Year End Balances: |
||||||||||||||||||||
Total Assets |
225,157,090 | 243,472,740 | 222,517,526 | 201,235,286 | 187,342,649 | |||||||||||||||
Total Loans (1) |
158,329,035 | 162,557,288 | 159,338,650 | 129,107,437 | 125,235,883 | |||||||||||||||
Investment Securities Available for Sale |
35,840,019 | 40,897,855 | 39,833,240 | 45,638,694 | 26,489,162 | |||||||||||||||
Federal Funds Sold and Resale Agreements |
18,357,674 | 26,857,657 | 10,600,904 | 15,476,959 | 22,522,973 | |||||||||||||||
Interest Bearing Deposits in Other Banks |
8,109 | 7,990 | 7,872 | 7,783 | 7,725 | |||||||||||||||
Earning Assets |
212,534,837 | 230,320,790 | 209,780,666 | 190,230,873 | 174,255,743 | |||||||||||||||
Deposits |
197,346,458 | 215,316,901 | 197,847,314 | 179,070,078 | 166,142,512 | |||||||||||||||
Shareholders’ Equity |
25,692,570 | 23,640,431 | 21,505,794 | 19,990,716 | 19,647,839 | |||||||||||||||
Weighted Average Shares Outstanding-Diluted |
3,971,349 | 3,945,928 | 3,913,119 | 3,868,448 | 3,876,687 | |||||||||||||||
For the Year: |
||||||||||||||||||||
Selected Average Balances: |
||||||||||||||||||||
Total Assets |
236,019,185 | 232,257,502 | 225,939,657 | 192,034,402 | 174,154,907 | |||||||||||||||
Total Loans (1) |
162,006,962 | 159,659,211 | 147,844,856 | 123,923,761 | 130,056,441 | |||||||||||||||
Investment Securities Available for Sale |
38,810,306 | 39,330,090 | 38,596,553 | 34,808,745 | 21,202,689 | |||||||||||||||
Federal Funds Sold and Resale Agreements |
22,548,768 | 19,893,084 | 26,109,498 | 20,431,597 | 11,275,653 | |||||||||||||||
Interest Bearing Deposits in Other Banks |
8,049 | 7,931 | 7,824 | 7,754 | 7,693 | |||||||||||||||
Earning Assets |
223,374,085 | 218,890,316 | 212,558,731 | 179,171,857 | 162,542,476 | |||||||||||||||
Deposits |
209,104,665 | 207,459,557 | 203,645,606 | 171,036,567 | 152,955,447 | |||||||||||||||
Shareholders’ Equity |
24,841,050 | 22,841,402 | 20,867,968 | 19,904,862 | 19,626,907 | |||||||||||||||
Performance Ratios: |
||||||||||||||||||||
Return on Average Equity |
15.42 | % | 17.20 | % | 15.26 | % | 9.27 | % | 9.70 | % | ||||||||||
Return on Average Assets |
1.62 | % | 1.69 | % | 1.41 | % | .96 | % | 1.09 | % | ||||||||||
Average Equity to Average Assets |
10.53 | % | 9.83 | % | 9.24 | % | 10.37 | % | 11.27 | % | ||||||||||
Net Interest Margin |
5.13 | % | 5.24 | % | 4.58 | % | 3.93 | % | 4.36 | % | ||||||||||
Net (Recoveries) Charge-offs to Average Loans |
(0.01 | )% | (0.02 | )% | 0.03 | % | 0.02 | % | 0.15 | % | ||||||||||
Allowance
for Loan Losses as a Percentage of Total Loans (excluding
mortgage loans held for sale) |
.85 | % | .82 | % | .65 | % | .82 | % | .94 | % | ||||||||||
Per Share: |
||||||||||||||||||||
Basic Earnings |
$ | 0.97 | $ | 1.01 | $ | 0.83 | $ | 0.48 | $ | 0.49 | ||||||||||
Diluted Earnings |
0.96 | 1.00 | 0.81 | 0.48 | 0.49 | |||||||||||||||
Year End Book Value |
6.50 | 6.02 | 5.56 | 5.18 | 5.09 | |||||||||||||||
Cash Dividends Declared |
0.62 | 0.67 | 0.51 | 0.44 | 0.44 | |||||||||||||||
Dividend Payout Ratio |
61.89 | % | 63.76 | % | 48.39 | % | 66.89 | % | 61.87 | % | ||||||||||
Full Time Employee Equivalents |
68 | 67 | 64 | 64 | 62 | |||||||||||||||
| (1) | Including mortgage loans held for sale |
All share and per share data have been restated to reflect a 10% stock dividend declared on June
19, 2003, a 10% stock distribution declared on April 12, 2005 and a 25% stock dividend declared on
April 11, 2006.
7
Table of Contents
The following tables, as well as the previously presented consolidated financial highlights, set
forth certain selected financial information concerning the Company and its wholly owned
subsidiary. The information was derived from audited consolidated financial statements. The
information should be read in conjunction with Management’s Discussion and Analysis of Financial
Condition and Results of Operations, which follows, and the audited consolidated financial
statements and notes which are presented elsewhere in this report.
| For Years Ended | ||||||||||||||||||||
| December 31, | ||||||||||||||||||||
| 2007 | 2006 | 2005 | 2004 | 2003 | ||||||||||||||||
Operating Data: |
||||||||||||||||||||
Interest and fee income |
$ | 16,482,178 | $ | 16,169,958 | $ | 12,383,548 | $ | 7,904,128 | $ | 7,855,161 | ||||||||||
Interest expense |
5,023,086 | 4,696,492 | 2,646,198 | 857,801 | 764,647 | |||||||||||||||
Net interest income |
11,459,092 | 11,473,466 | 9,737,350 | 7,046,327 | 7,090,514 | |||||||||||||||
(Recovery) provision for loan losses |
40,000 | 240,000 | 12,000 | (103,000 | ) | 9,230 | ||||||||||||||
Net interest income after
(recovery) provision for loan losses |
11,419,092 | 11,233,466 | 9,725,350 | 7,149,327 | 7,081,284 | |||||||||||||||
Other income |
1,543,869 | 1,467,393 | 1,788,472 | 1,748,715 | 2,096,959 | |||||||||||||||
Other expense |
7,085,401 | 6,703,716 | 6,529,267 | 6,073,609 | 6,261,182 | |||||||||||||||
Income before income taxes |
5,877,560 | 5,997,143 | 4,984,555 | 2,824,433 | 2,917,061 | |||||||||||||||
Income tax expense |
2,046,316 | 2,068,880 | 1,799,549 | 978,810 | 1,012,348 | |||||||||||||||
Net income |
$ | 3,831,244 | $ | 3,928,263 | $ | 3,185,006 | $ | 1,845,623 | $ | 1,904,713 | ||||||||||
Basic income per share |
$ | .97 | $ | 1.01 | $ | 0.83 | $ | 0.48 | $ | 0.49 | ||||||||||
Diluted income per share |
$ | .96 | $ | 1.00 | $ | 0.81 | $ | 0.48 | $ | 0.49 | ||||||||||
Weighted average common shares-basic |
3,943,067 | 3,900,707 | 3,859,351 | 3,857,411 | 3,857,411 | |||||||||||||||
Weighted average common shares —
diluted |
3,971,349 | 3,945,928 | 3,913,119 | 3,868,448 | 3,876,687 | |||||||||||||||
Dividends per common share |
$ | 0.62 | $ | 0.67 | $ | 0.51 | $ | 0.44 | $ | 0.44 | ||||||||||
| As of | ||||||||||||||||||||
| December 31, | ||||||||||||||||||||
| 2007 | 2006 | 2005 | 2004 | 2003 | ||||||||||||||||
Balance Sheet Data: |
||||||||||||||||||||
Investment securities available for sale |
$ | 35,840,019 | $ | 40,897,855 | $ | 39,833,240 | $ | 45,638,694 | $ | 26,489,162 | ||||||||||
Total loans (1) |
158,329,035 | 162,557,288 | 159,338,650 | 129,107,437 | 125,235,883 | |||||||||||||||
Allowance for loan losses |
1,355,099 | 1,294,994 | 1,017,175 | 1,043,901 | 1,169,627 | |||||||||||||||
Total assets |
225,157,090 | 243,472,740 | 222,517,526 | 201,235,286 | 187,342,649 | |||||||||||||||
Total deposits |
197,346,458 | 215,316,901 | 197,847,314 | 179,070,078 | 166,142,512 | |||||||||||||||
Shareholders’ equity |
25,692,570 | 23,640,431 | 21,505,794 | 19,990,716 | 19,647,839 | |||||||||||||||
| (1) | Including Mortgage loans held for sale |
All share and per share data have been restated to reflect a 10% stock dividend declared on June
19, 2003, a 10% stock distribution declared on April 12, 2005, and a 25% stock dividend declared on
April 11, 2006.
8
Table of Contents
Item 6. Management’s Discussion and Analysis or Plan of Operations
Management’s discussion and analysis is included to provide the shareholders with an expanded
narrative of the Company’s results of operations, changes in financial condition, liquidity and
capital adequacy. This narrative should be reviewed in conjunction with the audited consolidated
financial statements and notes included in this report. Since the primary asset of the Company is
its wholly-owned subsidiary, most of the discussion and analysis relates to the Bank.
DISCUSSION OF FORWARD-LOOKING STATEMENTS
Management’s Discussion and Analysis of Financial Condition and Results of Operations and other
portions of this annual report contain certain “forward-looking statements” concerning the future
operations of the Bank of South Carolina Corporation. Management desires to take advantage of the
“safe harbor” provisions of the Private Securities Litigation Reform Act of 1996 and is including
this statement for the express purpose of availing the Company of protections of such safe harbor
with respect to all “forward-looking statements” contained in this Form 10-KSB. We have used
“forward-looking statements” to describe future plans and strategies including our expectations of
the Company’s future financial results. The following are cautionary statements. Management’s
ability to predict results or the effect of future plans or strategies is inherently uncertain.
Factors which could affect actual results include interest rate trends, the general economic
climate in the Company’s market area and the country as a whole, the ability of the Company to
control costs and expenses, the ability of the Company to successfully address competitive products
and pricing, loan delinquency rates, and changes in federal and state regulation. These factors
should be considered in evaluating the “forward-looking statements” and undue reliance should not
be placed on such statements.
CRITICAL ACCOUNTING POLICIES
The Company’s significant accounting policies are set forth in Note One of the consolidated
financial statements. Of these policies, the Company considers its policy regarding the allowance
for loan losses to be its most subjective accounting policy due to the significant degree of
management judgement. The Company has developed what it believes to be appropriate policies and
procedures for assessing the adequacy of the allowance for loan losses, recognizing that this
process requires a number of assumptions and estimates with respect to its loan portfolio. The
Company’s assessments may be impacted in future periods by changes in economic conditions, the
impact of regulatory examinations and the discovery of information with respect to borrowers which
were not known by management at the time of the issuance of the consolidated financial statements.
For additional discussion concerning the Company’s allowance for loan losses and related matters,
see “Allowance for Loan Losses”.
OVERVIEW
Earnings for the year ended December 31, 2007 were $3,831,244 or basic and diluted earnings per
share of $.97 and $.96, respectively, a decrease of 2.47% over 2006’s earnings of $3,928,263 or
basic and diluted earnings per share of $1.01 and $1.00. Earnings for the fourth quarter of 2007
were $893,906 or basic and diluted earnings per share of $.23 and $.22, respectively, down 12.55%
from fourth quarter 2006 earnings of $1,022,246 or basic and diluted earnings per share of $.26,
respectively. The return on average equity and return on average assets for the year were 15.42%
and 1.62%, respectively, compared to the 2006 return on average equity and return on average assets
of 17.20% and 1.69%, respectively.
9
Table of Contents
COMPARISON OF THE YEAR ENDED DECEMBER 31, 2007 TO DECEMBER 31, 2006
Net income decreased $97,019 from $3,928,263 for the year ended December 31, 2006, to $3,831,244
for the year ended December 31, 2007, a decrease of 2.47%. Basic and diluted earnings per share
decreased from $1.01 and $1.00, respectively, for 2006 to $.97 and $.96, respectively for the year
ended December 31, 2007. The decrease in net income is primarily due to an increase in other
operating expenses. Sundry losses increased $15,586. During 2007, the Company suffered a loss due
to a robbery at its Summerville Branch. Additional operating expenses that increased were check and
ACH clearing fees by $10,838, data processing fees by $9,682, contributions by $16,234 and
professional audit and legal fees increased $10,982 and $19,041, respectively.
Net interest and fee income decreased .13% to $11,459,092 in 2007 from $11,473,466 in 2006. Net
interest income depends upon the volume of and rates associated with interest earning assets and
interest bearing liabilities, which result in the net interest spread. The average net interest
spread decreased from 4.26% for the year ended December 31, 2006, to 4.12% for the year ended
December 31, 2007. Average interest bearing assets increased $4,483,769 to $223,374,085 for the
year ended December 31, 2007, from $218,890,316 in 2006. This increase was primarily due to an
increase in average loans, including mortgage loans held for sale, and an increase in average
federal funds sold. Average loans including mortgage loans held for sale increased $2,347,751 to
$162,006,962 for the year ended December 31, 2007, from $159,659,211 in 2006. Average federal funds
sold increased $2,655,684 to $22,548,768 for the year ended December 31, 2007, compared to
$19,893,084 for the year ended December 31, 2006. The yield on average loans of 8.38% for the year
ended December 31, 2007, remained the same as the yield for the year ended December 31, 2006.
Average interest bearing liabilities increased $3,934,744 to $153,972,303 for the year ended
December 31, 2007 compared to $150,037,559 in 2006. This increase is primarily due to an increase
in average transaction accounts and time deposit offset by a decrease in average savings accounts.
Average transaction accounts and average time deposit increased $1,243,331 and $4,950,835,
respectively. Average savings accounts decreased $2,384,977 for the year ended December 31, 2007.
The yield on average interest bearing liabilities increased from 3.13% for the year ended December
31, 2006, to 3.26% for the year ended December 31, 2007. The net interest margin decreased from
5.24% for the year ended December 31, 2006, to 5.13% for the year ended December 31, 2007.
Total interest and fee income earned on interest bearing assets increased $312,220 to $16,482,178
for the year ended December 31, 2007, from $16,169,958 for the year ended December 31, 2006. As
noted above average loans increased $2,347,751. As a result interest and fees earned on loans
increased $199,672 or 1.49% to $13,569,616 for the year ended December 31, 2007 form $13,369,944 in
2006. The increase on average federal funds sold led to an increase of $132,313 in interest earned
to $1,119,485 for the year ended December 31, 2007, from $987,172 for the year ended December 31,
2006. Interest and dividends on investment securities decreased $19,765 to $1,793,077 for the year
ended December 31, 2007, from $1,812,842 in 2006. The decrease in interest and dividends on
investment securities is primarily due to a decline in average investments which resulted from the
sale of investment securities, decreasing the average investment securities by $23,958. A gain of
$69,792 was recognized on the sale of the investment securities compared to a loss on sale of
securities of $22,950 in 2006.
Total interest expense increased $326,594 or 6.95% to $5,023,086 from $4,696,492. As noted above
average time deposits increased $4,950,835 to $40,580,931 for the year ended December 31, 2007,
from $35,630,096 for the year ended December 31, 2006. This resulted in an increase of $378,480 in
the cost paid time deposits. The cost on average interest bearing liabilities increased from 3.13%
for the year ended December 31, 2006, to 3.26% for the year ended December 31, 2007.
During the third quarter of 2007, the methodology used by management in the analysis of the
allowance for loan losses (the “Allowance”) was modified to conform to regulatory guidance. The
new methodology is discussed more fully in “Allowance for Loan Losses”. Total provision for loan
losses for the year ended December 31, 2007 was $40,000 compared to $240,000 for the year ended
December 31, 2006. Management believes the allowance for loan losses at December 31, 2007, is
adequate to cover probable losses in the loan portfolio; however, assessing the adequacy of the
allowance is a process that requires considerable judgment. Management’s judgments are based on
numerous assumptions about current events which it believes to be reasonable, but which may or may
not be valid. Thus there can be no assurance that loan losses in future periods will not exceed
the current allowance amount or that future increases in the allowance will not be required. No
assurance can be given that management’s ongoing evaluation of the loan portfolio in light of
changing economic conditions and other relevant circumstances will not require significant future
additions to the allowance, thus adversely affecting the operating results of the Company.
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The Allowance is also subject to examination testing by regulatory agencies, which may consider
such factors as the methodology used to determine adequacy and the size of the Allowance relative
to that of peer institutions, and other adequacy tests. In addition, such regulatory agencies
could require the Company to adjust its Allowance based on information available to them at the
time of their examination. For further discussion, see “Non accrual and Past Due Loans” and
“Allowance for Loan Losses”.
The methodology used to determine the reserve for unfunded lending commitments, which is included
in other liabilities, is inherently similar to that used to determine the allowance for loan losses
described above adjusted for factors specific to binding commitments, including the probability of
funding and historical loss ratio. During the third quarter of the year ended December 31, 2007,
Management determined that $20,796 of the allowance for loan loss represented the reserve for
unfunded lending commitments. This amount was moved from the allowance for loan loss to the
allowance for unfunded loans and commitments. In addition $1,507 was added to the provision of
unfunded loans and commitments, for the year ending December 31, 2007, based on the methodology
referred to above.
Total non interest income increased $76,476 or 5.21% to $1,543,869 for the year ended December 31,
2007, from $1,467,393 at December 31, 2006. This increase was primarily due to a gain of $69,792
on the sale of securities. During 2006 there was a loss of $22,950 on the sale of securities which
makes the total increase due to the gain in 2007, $91,742 or 399.75%. This increase was offset by
a decrease in mortgage banking income of $35,378 or 5.99%. This decrease is primarily due to the
slow down in the real estate market.
Banking overhead increased $381,685 or 5.69% to $7,085,401 for the year ended December 31, 2007
from $6,703,716 for the year ended December 31, 2006. This increase was primarily due to an
increase in both salaries and employee benefits and net occupancy expense as well as other
operating expenses. Salaries and employee benefits increased $173,829 or 4.34% to $4,181,712 for
the year ended December 31, 2007 from $4,007,883 for the year ended December 31, 2006. Salaries
increased $182,071 or 5.60% due to annual merit increases and the hiring of a loan officer.
Insurance increased $25,572 and payroll taxes increased $17,384. These increases were offset by a
$60,000 decrease in the ESOP contribution. Total occupancy expense increased $114,074 or 9.29% to
$1,341,970 for the year ended December 31, 2007 from $1,227,896 for the year ended December 31,
2006. Insurance on the properties increased $52,198 or 109.79% to $99,740 for the year ended
December 31, 2007 from $47,542 for the year ended December 31, 2006. In addition, rent on the
buildings increased $15,188 or 3.95%, property taxes increased $13,049 or 15.18% and depreciation
on furniture fixtures and equipment increased $19,281 or 11.82%. Other operating expenses
increased $92,275 or 6.29% to $1,560,212 for the year ended December 31, 2007 from $1,467,937 in
2006. This increase included $19,041 in legal fees and $10,982 in audit fees, which included an
increase due to compliance with Sarbanes Oxley. Data processing fees increased $9,682, check and
ACH clearing fees increased $10,838, contributions increased $16,234 and sundry losses increased
$15,586.
Income tax expense decreased $22,564 or 1.09% to $2,046,316 for the year ended December 31, 2007
from $2,068,880 for the year ended December 31, 2006. The Company’s effective tax rate was
approximately 34.82% for the year ended December 31, 2007 compared to 34.50% for the year ended
December 31, 2006.
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COMPARISON OF THE YEAR ENDED DECEMBER 31, 2006 TO DECEMBER 31, 2005
Net income increased $743,257 from $3,185,006 in 2005, to $3,928,263 for 2006, an increase of
23.34%. Basic and diluted earnings per share increase to $1.01 and $1.00, respectively for 2006,
compared to basic and diluted earnings per share of $.83 and $.81 in 2005. The increase is
primarily due to an increase on interest and fees earned on loans as well as an increase in
interest and dividends on investment securities. Interest and fees on loans increased $3,068,432
or 29.79% from $10,301,512 for the year ended December 31, 2005, to $13,369,944 for the year ended
December 31, 2006. Interest and dividends on investment securities increased from $1,245,105 for
the year ended December 31, 2005, to $1,812,842 for the year ended December 31, 2006, an increase
of $567,737 or 45.60%.
Net interest and fee income increased 17.83% or $1,736,116, to $11,473,466 in 2006 from $9,737,350
in 2005. Net interest income depends upon the volume of and rates associated with interest earning
assets and interest bearing liabilities, which result in the net interest spread. The net interest
spread increased from 3.99% for the year ended December 31, 2005 to 4.26% for the year ended
December 31, 2006. Average interest earning assets increased $6,331,585 to $218,890,316 for the
year ended December 31, 2006, from $212,558,731 in 2005. This increase is primarily due to an
increase in average loans of $11,814,355 offset by a decrease in average federal funds sold of
$6,216,414. The yield on average loans increased 141 basis points to 8.38% from 6.97% in 2005.
Average investment securities available for sale increased $733,537 with an increase in the yield
of 138 basis points to 4.61%. Average interest bearing liabilities increased $6,373,572 from
$143,663,987 for the year ended December 31, 2005, to $150,037,559 for the year ended December 31,
2006. This increase is primarily due to an increase in average transaction accounts of $5,300,712
to $100,320,632 for the year ended December 31, 2006, from $95,019,920 in 2005. Average savings
accounts also increased by $884,156 to $13,375,943 from $12,491,787. Net interest margin increased
from 4.58% in 2005, to 5.24% in 2006.
Total interest and fee income earned on interest bearing assets, increased $3,786,410 or 30.58% to
$16,169,958 for the year ended December 31, 2006, from $12,383,548. As noted above, average loans
increased $11,814,355. As a result, interest and fees earned on loans increased $3,068,432 or
29.79% to $13,369,944 for the year ended December 31, 2006 from $10,301,512 in 2005. Average
investment securities available for sale increased $733,537 to $39,330,090 from $38,596,553.
Interest and dividends on investment securities increased $567,737 or 45.60% to $1,812,842 from
$1,245,105.
Total interest expense increased $2,050,294 or 77.48% to $4,696,492 from $2,646,198. This increase
is primarily due to an increase in rates paid on deposit accounts. Interest on deposits increased
$2,035,180 or 77.47% to $4,662,283 for the year ended December 31, 2006 from $2,627,103 in 2005.
The average cost of interest bearing liabilities increased 129 basis points from 1.84% in 2005 to
3.13% in 2006.
Total provision for loan losses for 2006 was $240,000 compared to $12,000 for 2005. The allowance
for loan losses is based on management’s and the Loan Committee’s review and evaluation of the loan
portfolio and general economic conditions on a monthly basis and by the Board of directors on a
quarterly basis. Management’s review and evaluation of the allowance for loan losses is based on a
historical review of the loan portfolio performance, analysis of the individual loans, and
additional risk factors that affect the quality and ultimately the collectibility of the loan
portfolio. These risk factors include loan and credit administration risk, economic conditions,
portfolio risk, loan concentration risk and off balance sheet risk which were added to the loan
loss model during the first quarter of 2006. Management believes that the allowance for loan losses
at December 31, 2006, is adequate to cover probable losses in the loan portfolio; however,
assessing the adequacy of the allowance is a process that requires considerable judgment.
Management’s judgments are based on numerous assumptions about current events which it believes to
be reasonable, but which may or may not be valid. Thus there can be no assurance that loan losses
in future periods will not exceed the current allowance amount or that future increases in the
allowance will not be required. For further discussion, see “Non accrual and Past Due Loans” and
“Allowance for Loan Losses”.
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Total non-interest income decreased $321,079 or 17.95% to $1,467,393 for the year ended December
31, 2006, from $1,788,472 in 2005. Mortgage banking income decreased 28.32% or $233,178, from
$823,510 for the year ended December 31, 2005 to $590,332 in 2006. The decrease in mortgage income
is primarily due to rising interest rates resulting in a slower real estate market. Mortgage loan
origination fees, mortgage discount fees and tax and underwriting fees decreased $326,761 or
36.37%. During the second quarter of 2005 a correction was made for an error in a liability
clearing account. This correction was reflected as an increase of $142,971 in mortgage loan
discount fees earned in 2005.
Service charge fees earned on business accounts decreased $25,695 or 16.73% between the year ended
December 31, 2005 and 2006. There was also a decrease in overdraft fees of $31,813 or 8.61% for
the same period. The service charge fees on business accounts decreased due to an increase in the
earnings credit and higher average balances, which offset the service charges.
Bank overhead increased $174,449 or 2.67% to $6,703,716 for the year ended December 31, 2006 from
$6,529,267 for the year ended December 31, 2005. The increase is primarily due to an increase of
4.61% in salaries and employee benefits as a result of annual merit increases.
Income tax expense increased $269,331 or 14.97% to $2,068,880 for the year ended December 31, 2006
from $1,799,549 for the year ended December 31, 2005. The Company’s effective tax rate was
approximately 34.50% for the year ended December 31, 2006 compared to 36.10% for the year ended
December 31, 2005.
ASSET AND LIABILITY MANAGEMENT
The assets and liabilities of the Company are managed to provide a consistent level of liquidity to
accommodate normal fluctuations in loans and deposits. At year end 2007, total assets were
$225,157,090 a decrease of 7.52% from the end of the previous year, and total deposits were
$197,346,458, a decrease of 8.35% from the end of the previous year, while
short-term borrowings, consisting of Demand Notes Issued to U.S. Treasury, decreased $1,784,810 or 65.80% to $927,873 for the year ended December 31, 2007 from $2,712,683 for the year ended December 31, 2006.
short-term borrowings, consisting of Demand Notes Issued to U.S. Treasury, decreased $1,784,810 or 65.80% to $927,873 for the year ended December 31, 2007 from $2,712,683 for the year ended December 31, 2006.
At December 31, 2007, approximately 94.39% of the Company’s assets were earning assets composed of
U.S. Treasury, Federal Agency and municipal securities in the amount of $35,840,019, Federal Funds
Sold and interest bearing deposits in other banks in the amount of $18,365,783, and total loans
including mortgage loans held for sale in the amount of $158,329,035.
The yield on a majority of the Company’s earning assets adjusts simultaneously with changes in the
general level of interest rates. Some of the Company’s liabilities are issued with fixed terms and
can be repriced only at maturity. During 2003, loans grew at a faster rate than deposits, however,
the net interest margin declined by 40 basis points from January to December 2003 with the decline
in interest rates. During 2004 deposits grew at a faster rate than loans and the net interest
margin decreased 43 basis points from January to December. In 2005 the Bank’s loans grew 23.42%
compared to an increase of 10.49% in deposits. As a result the net interest margin increased 65
basis points to 4.58% at December 31, 2005 compared to 3.93% for the year ended December 31, 2004.
In 2006, net interest margin increased 66 basis points to 5.24% for the year ended December 31,
2006, from 4.58% at December 31, 2005, as a result of an increase in loan growth. The Bank’s net
interest margin decreased 11 basis points from 5.24% at December 31, 2006 to 5.13% at December 31,
2007 due to a decrease in interest rates and a decrease in loan growth.
MARKET RISK
Market risk is the risk of loss from adverse changes in market prices and rates. For the Company,
this risk is constituted primarily of interest rate risk in its lending and investing activities as
they relate to their funding by deposit and borrowing activities.
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The Bank’s policy is to minimize interest rate risk between interest bearing assets and liabilities
at various maturities and to attempt to maintain an asset positive position over a 6 month period.
In adhering to this policy, unless there is a sudden extraordinary drop in the interest rate, it is
anticipated that the Bank’s net interest margins will not be materially affected by changes in
interest rates. The average net interest rate spread for 2007 decreased to 4.12% from 4.26% for
2006 and the average net interest margin for 2007 decreased to 5.13% from 5.24% for 2006.
Management will continue to monitor its asset sensitive position.
Since the rates on most of the Bank’s interest bearing liabilities can vary on a daily basis,
management continues to maintain a loan portfolio priced predominately on a variable rate basis;
however, in an effort to protect future earnings in a declining rate environment, the Bank offers
certain fixed rates and terms primarily associated with real estate transactions. The Bank seeks
stable, long-term deposit relationships to fund its loan portfolio.
At December 31, 2007, the average maturity of the investment portfolio was 2 years 9.2 months with
an average yield of 4.51% compared to 3 year 2.7 months with an average yield of 4% at December 31,
2006.
The Company does not take foreign exchange or commodity risks. In addition the Company does not
own mortgage-backed securities, nor does it have any exposure to the sub-prime market or any other
distressed debt instruments.
The following table summarizes the Bank’s interest sensitivity position as of December 31, 2007: