U.S. SECURITIES AND EXCHANGE COMMISSION

Washington, DC 20549

 

FORM 10-Q

 

(Mark One)

 

ý                                 Quarterly report pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934

 

for the quarterly period ended June 30, 2005

 

o                                 Transition report pursuant to Section 13 or 15(d) of the Exchange Act

 

for the transition period from                   to                  

 

Commission File No. 000-28344

 

FIRST COMMUNITY CORPORATION

(Exact name of registrant as specified in its charter)

 

South Carolina		57-1010751
(State of Incorporation)		(I.R.S. Employer Identification)
5455 Sunset Boulevard, Lexington, South Carolina 29072
(Address of Principal Executive Offices)
(803) 951-2265
(Registrant’s Telephone Number, Including Area Code)

 

 

(Former Name, Former Address and Former Fiscal Year, if Changed Since Last Report)

 

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 ý    No o

 

Indicate by check mark whether the registrant is an accelerated filer (as defined in Rule 12b-2 of the Exchange Act). Yes o  No ý

 

Indicate the number of shares outstanding of each of the issuer’s classes of common equity, as of the latest practicable date:

 

2,839,860 shares of common stock, par value $1.00 per share, were issued and outstanding as of July 31, 2005

 

 

TABLE OF CONTENTS

 

TABLE OF CONTENTS

 

PART I - FINANCIAL INFORMATION
Item 1. Financial Statements.
	Consolidated Balance Sheets
	Consolidated Statements of Income
	Consolidated Statements of Shareholders’ Equity and Comprehensive Income
	Consolidated Statements of Cash Flows
	Notes to Consolidated Financial Statements
Item 2. Managements Discussion and Analysis of Financial Condition and Results of Operations
Item 3. Quantitative and Qualitative Disclosures About Market Risk
Item 4. Controls and Procedures
PART II – OTHER INFORMATION
Item 1. Legal Proceedings
Item 2. Unregistered Sales of Equity Securities and Use of Proceeds
Item 3. Defaults Upon Senior Securities
Item 4. Submission of Matters to a Vote of Security Holders
Item 5. Other Information
Item 6. Exhibits
INDEX TO EXHIBITS
SIGNATURES

 

2

 

PART 1

FINANCIAL INFORMATION

 

Item 1. Financial Statements

 

FIRST COMMUNITY CORPORATION

CONSOLIDATED BALANCE SHEETS

 

		June 30, 2005			December 31, 2004
		(Unaudited)
ASSETS
Cash and due from banks		$	12,678,312		$	9,391,494
Interest-bearing bank balances		209,060			803,426
Federal funds sold and securities purchased under agreements to resell		4,322,455			9,130,725
Investment securities - available for sale		182,251,083			190,010,307
Investment securities - held to maturity (market value of $5,837,428 and $6,147,698 at June 30, 2005 and December 31, 2004, respectively)		5,726,558			6,015,745
Loans		202,533,224			186,771,344
Less, allowance for loan losses		2,668,412			2,763,988
Net loans		199,864,812			184,007,356
Property, furniture and equipment - net		14,363,035			14,313,090
Goodwill		24,256,020			24,256,020
Intangible assets		3,064,445			3,361,815
Other assets		15,365,337			14,416,034
Total assets		$	462,101,117		$	455,706,012
LIABILITIES
Deposits:
Non-interest bearing demand		$	54,242,520		$	49,519,816
NOW and money market accounts		92,078,338			98,846,828
Savings		32,047,258			35,370,267
Time deposits less than $100,000		99,823,198			100,629,304
Time deposits $100,000 and over		57,848,419			52,698,069
Total deposits		336,039,733			337,064,284
Securities sold under agreements to repurchase		10,501,200			7,549,900
Federal Home Loan Bank Advances		46,613,103			42,452,122
Long term debt		15,464,000			15,464,000
Other borrowed money		170,345			184,593
Other liabilities		2,458,477			2,528,424
Total liabilities		411,246,858			405,243,323
SHAREHOLDERS’ EQUITY
Preferred stock, par value $1.00 per share; 10,000,000 shares authorized; none issued and outstanding
Common stock, par value $1.00 per share; 10,000,000 shares authorized; issued and outstanding 2,839,860 and 2,788,902 at June 30, 2005 and December 31, 2004, respectively		2,839,860			2,788,902
Additional paid in capital		42,251,649			41,832,090
Retained earnings		7,918,846			6,712,849
Accumulated other comprehensive income		(2,156,096		)	(871,152		)
Total shareholders’ equity		50,854,259			50,462,689
Total liabilities and shareholders’ equity		$	462,101,117		$	455,706,012

 

3

 

FIRST COMMUNITY CORPORATION

CONSOLIDATED STATEMENTS OF INCOME

 

		Six Months Ended June 30, 2005			Six Months Ended June 30, 2004
		(Unaudited)			(Unaudited)
Interest income:
Loans, including fees		$	6,292,892		$	4,035,279
Investment securities		3,686,323			1,043,437
Federal funds sold and securities purchased under resale agreements		106,570			79,239
Other		23,015			846
Total interest income		10,108,800			5,158,801
Interest expense:
Deposits		2,452,690			1,061,112
Federal funds sold and securities sold under agreement to repurchase		83,637			12,379
Other borrowed money		1,143,133			55,410
Total interest expense		3,679,460			1,128,901
Net interest income		6,429,340			4,029,900
Provision for loan losses		138,000			130,000
Net interest income after provision for loan losses		6,291,340			3,899,900
Non-interest income:
Deposit service charges		586,459			396,275
Mortgage origination fees		170,785			132,427
Gain on sale of securities		188,419			—
Other		424,312			272,594
Total non-interest income		1,369,975			801,296
Non-interest expense:
Salaries and employee benefits		3,030,340			1,799,410
Occupancy		372,376			207,867
Equipment		651,067			445,399
Marketing and public relations		171,164			180,774
Amortization of intangibles		297,371			89,057
Other		1,130,878			683,440
Total non-interest expense		5,653,196			3,405,947
Net income before tax		2,008,119			1,295,249
Income taxes		521,030			442,800
Net income		$	1,487,089		$	852,449
Basic earnings per common share		$	0.53		$	0.53
Diluted earnings per common share		$	0.50		$	0.51

 

4

 

FIRST COMMUNITY CORPORATION

CONSOLIDATED STATEMENTS OF INCOME

 

		Three Months Ended June 30, 2005			Three Months Ended June 30, 2004
		(Unaudited)			(Unaudited)
Interest income:
Loans, including fees		$	3,278,256		$	2,033,487
Investment securities		1,920,909			500,024
Federal funds sold and securities purchased under resale agreements		32,813			49,818
Other		12,447			413
Total interest income		5,244,425			2,583,742
Interest expense:
Deposits		1,346,357			543,207
Federal funds sold and securities sold under agreement repurchase		47,293			6,379
Other borrowed money		591,215			27,709
Total interest expense		1,984,865			577,295
Net interest income		3,259,560			2,006,447
Provision for loan losses		72,000			64,000
Net interest income after provision for loan losses		3,187,560			1,942,447
Non-interest income:
Deposit service charges		304,426			207,222
Mortgage origination fees		92,233			74,710
Gain on sale of securities		7,322			—
Other		226,691			141,609
Total non-interest income		630,672			423,541
Non-interest expense:
Salaries and employee benefits		1,520,888			897,969
Occupancy		187,070			106,892
Equipment		321,484			221,660
Marketing and public relations		83,535			82,448
Amortization of intangibles		148,686			44,529
Other		606,346			353,059
Total non-interest expense		2,868,009			1,706,557
Net income before tax		950,223			659,431
Income taxes		243,400			228,850
Net income		$	706,823		$	430,581
Basic earnings per common share		$	0.25		$	0.27
Diluted earnings per common share		$	0.24		$	0.26

 

5

 

FIRST COMMUNITY CORPORATION

Consolidated Statements of Changes in Shareholders’ Equity and Comprehensive Income

Six Months ended June 30, 2005 and June 30, 2004

 

													Accumulated
							Additional						Other
		Shares		Common			Paid-in			Retained			Comprehensive
		Issued		Stock			Capital			Earnings			Income (Loss)			Total
Balance, December 31, 2003		1,597,224		$	1,597,224		$	12,862,715		$	4,909,742		$	139,133		$	19,508,814
Comprehensive Income:
Net income										852,449						852,449
Accumulated other comprehensive loss net of income tax benefit of $293,048													(544,250		)	(544,250		)
Total comprehensive income																308,199
Cash dividend ($0.10 per share)										(160,203		)				(160,203		)
Options exercised		13,962		13,962			106,452									120,414
Dividend reinvestment plan		2,631		2,631			55,812									58,443
Balance, June 30, 2004		1,613,817		$	1,613,817		$	13,024,979		$	5,601,988		$	(405,117	)	$	19,835,667
Balance, December 31, 2004		2,788,902		$	2,788,902		$	41,832,090		$	6,712,849		$	(871,152	)	$	50,462,689
Comprehensive Income:
Net income										1,487,089						1,487,089
Accumulated other comprehensive loss net of income tax benefit of $625,944													(1,162,472		)
Less: reclassification adjustment for gains included in net income, net of tax of $65,946													(122,472		)
Other comprehensive loss													(1,284,944		)	(1,284,944		)
Comprehensive income																202,145
Dividends paid ($0.10 per share)										(281,092		)				(281,092		)
Options exercised		47,595		47,595			361,064									408,659
Dividend reinvestment plan		3,363		3,363			58,495									61,858
Balance, June 30, 2005		2,839,860		$	2,839,860		$	42,251,649		$	7,918,846		$	(2,156,096	)	$	50,854,259

 

6

 

FIRST COMMUNITY CORPORATION

CONSOLIDATED STATEMENTS OF CASH FLOWS

 

		Six months ended June 30,
		2005			2004
Cash flows from operating activities:
Net income		$	1,487,089		$	852,449
Adjustments to reconcile net income to net cash used in operating activities:
Depreciation		488,564			354,064
Premium amortization (discount accretion)		(64,555		)	45,067
Provision for loan losses		138,000			130,000
Amortization of intangibles		297,370			89,057
Gain on sale of equipment		—			(19,937		)
Gain on sale of securities		(188,418		)
(Increase) decrease in other assets		(257,414		)	(206,722		)
Increase (decrease) in other liabilities		(69,947		)	(107,308		)
Net cash provided in operating activities		1,830,689			1,136,670
Cash flows form investing activities:
Purchase of investment securities available-for-sale		(48,284,585		)	(23,792,590		)
Maturity of investment securities available-for-sale		15,057,001			19,092,332
Proceeds from sale of securities		39,071,729
Purchase of investment securities held-to-maturity		(50,000		)	—
Maturity of investment securities held-to-maturity		325,000			—
Increase in loans		(16,104,839		)	(8,820,056		)
Purchase of property and equipment		(538,509		)	(1,284,725		)
Proceeds from sale of equipment		—			22,000
Net cash used in investing activities		(10,524,203		)	(14,783,039		)
Cash flows from financing activities:
Increase (decrease) in deposit accounts		(1,024,551		)	15,920,123
Increase (decrease) in securities sold under agreements to repurchase		2,951,300			3,414,000
Increase (decrease) in other borrowings		(14,248		)	(103,343		)
Advances from the FHLB		5,480,000			—
Repayment of Advances FHLB		(1,004,230		)	—
Proceeds from exercise of stock options		408,659			120,414
Dividends paid		(281,092		)	(160,203		)
Dividend reinvestment plan		61,858			58,443
Net cash provided from financing activities		6,577,696			19,249,434
Net increase (decrease) in cash and cash equivalents		(2,115,818		)	5,603,065
Cash and cash equivalents at beginning of period		19,325,645			26,483,199
Cash and cash equivalents at end of period		$	17,209,827		$	32,086,264
Supplemental disclosure:
Cash paid during the period for:
Interest		$	3,101,763		$	1,078,177
Income taxes		$	120,000		$	437,268
Non-cash investing and financing activities:
Unrealized loss on securities available-for-sale		$	1,976,833		$	837,298

 

7

 

Note 1	-		Basis of Presentation
			In the opinion of management, the accompanying unaudited consolidated balance sheets, the consolidated statements of income, the consolidated statements of changes in shareholders’ equity, and the consolidated statements of cash flows of First Community Corporation (“the company”), present fairly in all material respects the company’s financial position at June 30, 2005 and December 31, 2004, the company’s results of operations for the three and six months ended June 30, 2005 and 2004 and its cash flows for the six months ended June 30, 2005 and 2004. The results of operations for the three and six months ended June 30, 2005 are not necessarily indicative of the results that may be expected for the year ending December 31, 2005. In the opinion of management, all adjustments necessary to fairly present the consolidated financial position and consolidated results of operations have been made. All such adjustments are of a normal recurring nature. All significant intercompany accounts and transactions have been eliminated in consolidation.
			The consolidated financial statements and notes thereto are presented in accordance with the instructions for Form 10-Q. The information included in the company’s 2004 Annual Report on Form 10-KSB should be referred to in connection with these unaudited interim financial statements.
Note 2	-		EARNINGS PER SHARE
			The following reconciles the numerator and denominator of the basic and diluted earnings per share computation:
					Six months ended June 30,						Three months ended June 30,
					2005			2004			2005			2004
			Numerator (Included in basic and diluted earnings per share)		$	1,487,089		$	852,449		$	706,823		$	430,581
			Denominator
			Weighted average common shares outstanding for:
			Basic earnings per share		2,824,586			1,602,057			2,836,208			1,606,309
			Dilutive securities:
			Stock options - Treasury stock method		134,329			76,101			129,528			75,128
			Diluted earnings per share		2,958,915			1,678,158			2,965,736			1,681,437
			The average market price used in calculating assumed number of shares		$	19.38		$	22.61		$	18.99		$	22.26

 

8

 

Note 3	-		Stock Based Compensation
			The company has a stock based compensation plans as of June 30, 2004. The accounting for the plan is based on Accounting Principles Board Opinion No. #25 (APB 25). Accordingly, no compensation cost has been recognized in the financial statements. In accordance with Statement of Financial Accounting Standard No. 123 “ Accounting for Stock Based Compensation,” (SFAS 123) the company has elected to provide the disclosure-only option provided for by SFAS 123.
						Six months ended June 30,						Three months ended June 30,
						2005			2004			2005			2004
			Net income as reported			$	1,487,089		$	852,449		$	706,823		$	430,581
			Less:	Stock based compensation using fair value method (net of tax)		63,651			1,700			32,002			850
			Pro forma net income			$	1,423,438		$	850,749		$	674,821		$	429,731
			Basic earnings per share
			As reported			$	0.53		$	0.53		$	0.25		$	0.27
			Pro forma			$	0.50		$	0.53		$	0.24		$	0.27
			Diluted earnings per share
			As reported			$	0.50		$	0.51		$	0.24		$	0.26
			Pro forma			$	0.48		$	0.51		$	0.23		$	0.26

 

Note 4 – Recent Accounting Pronouncement

 

In December 2004, the FASB issued SFAS No. 123 (revised 2004), “Share-Based Payment” (SFAS No. 123(R)”). SFAS No. 123(R) will require companies to measure all employee stock-based compensation awards using a fair value method and record such expense in its financial statements. In addition, the adoption of SFAS No. 123(R) requires additional accounting and disclosure related to the income tax and cash flow effects resulting from share-based payment arrangements. SFAS No. 123(R) is effective beginning as of the first interim or annual reporting period beginning after December 15, 2005. The company has evaluated the impact of this pronouncement on net income based on options granted through June 30, 2005. It is estimated that the compensation expense recognized will have a net of income tax effect of approximately $80,000 in 2006, $49,000 in 2007 and $30,000 in 2008. This does not include the impact of any future grants.

 

Note 5 – Significant Contract

 

On June 28, 2005 the Bank entered into a construction contract to have a 27,000 square foot administrative center built for approximately $3.4 million. The administrative center will provide the needed space for deposit and loan operations as well as other administrative functions.  The total cost including furniture and equipment is estimated to be $4.3 million.

 

9

 

Item 2. Management’s Discussion and Analysis

 

This Report contains statements that constitute forward-looking statements within the meaning of Section 27A of the Securities Act of 1933 and the Securities Exchange Act of 1934.  These statements are based on many assumptions and estimates and are not guarantees of future performance.  Our actual results may differ materially from those projected in the forward-looking statements, as they will depend on many factors, which are beyond our control.  The words “may,” “would,” “could,” “will,” “expect,” “anticipate,” “believe,” “intend,” “plan,” and “estimate,” as well as similar expressions, are meant to identify such forward-looking statements.  Potential risk and uncertainties include but are not limited to:

 

•                  significant increases in competitive pressure in the banking and financial services industries;

 

•                  changes in the interest rate environment which could reduce anticipated or actual margins;

 

•                  changes in political conditions or the legislative or regulatory environment;

 

•                  the level of allowance for loan loss;

 

•                  the rate of delinquencies and amounts of charge-offs;

 

•                  the rate of loan growth;

 

•                  adverse changes in asset quality and resulting credit risk-related losses and expenses;

 

•                  general economic conditions, either nationally or regionally and especially in primary service area, becoming less favorable than expected resulting in, among other things, a deterioration in credit quality;

 

•                  changes occurring in business conditions and inflation;

 

•                  changes in technology;

 

•                  changes in monetary and tax policies;

 

•                  changes in securities markets; and

 

•                  other risks and uncertainties detailed from time to time in our filings with the Securities and Exchange Commission.

 

Overview

 

The following discussion describes the our results of operations for the quarter ended June 30, 2005 as compared to the quarter ended June 30, 2004 as well as results for the six months ended June 30, 2005 and 2004, and also analyzes our financial condition as of June 30, 2005 as compared to December 31, 2004.  Like most community banks, we derive most of our income from interest we receive on our loans and investments.  Our primary source of funds for making these loans and investments is our deposits, on which we pay interest. Consequently, one of the key measures of our success is our amount of net interest income, or the difference between the income on our interest-earning assets, such as loans and investments, and the expense on our interest-bearing liabilities, such as deposits.  Another key measure is the spread between the yield we earn on these interest-earning assets and the rate we pay on our interest-bearing liabilities.

 

Of course, there are risks inherent in all loans, so we maintain an allowance for loan losses to absorb probable losses on existing loans that may become uncollectible.  We establish and maintain this allowance by charging a provision for loan losses against our operating earnings.  In the following section we have included a detailed discussion of this process.

 

10

 

In addition to earning interest on our loans and investments, we earn income through fees and other expenses we charge to our customers.  We describe the various components of this noninterest income, as well as our noninterest expense, in the following discussion.

 

The following discussion and analysis also identifies significant factors that have affected our financial position and operating results during the periods included in the accompanying financial statements.  We encourage you to read this discussion and analysis in conjunction with the financial statements and the related notes and the other statistical information also included in this report.

 

Critical Accounting Policies

 

We have adopted various accounting policies that govern the application of accounting principles generally accepted in the United States and with general practices within the banking industry in the preparation of our financial statements. Our significant accounting policies are described in the footnotes to our audited consolidated financial statements as of December 31, 2004, as filed in our annual report on Form 10-KSB.

 

Certain accounting policies involve significant judgments and assumptions by us that have a material impact on the carrying value of certain assets and liabilities. We consider these accounting policies to be critical accounting policies. The judgment and assumptions we use are based on historical experience and other factors, which we believe to be reasonable under the circumstances. Because of the nature of the judgment and assumptions we make, actual results could differ from these judgments and estimates that could have a material impact on the carrying values of our assets and liabilities and our results of operations.

 

We believe the allowance for loan losses is the critical accounting policy that requires the most significant judgment and estimates used in preparation of our consolidated financial statements. Some of the more critical judgments supporting the amount of our allowance for loan losses include judgments about the credit worthiness of borrowers, the estimated value of the underlying collateral, the assumptions about cash flow, determination of loss factors for estimating credit losses, the impact of current events, and conditions, and other factors impacting the level of probable inherent losses. Under different conditions or using different assumptions, the actual amount of credit losses incurred by us may be different from management’s estimates provided in our consolidated financial statements. Refer to the portion of this discussion that addresses our allowance for loan losses for a more complete discussion of our processes and methodology for determining our allowance for loan losses.

 

11

 

Comparison of Results of Operations for Six Months Ended June 30, 2005 to the Six Months Ended June 30, 2004:

The company’s results for the six months and three months ended June 30, 2005 reflect the merger of First Community Corporation and the former DutchFork Bancshares, Inc. which closed on October 1, 2004. The merger was accounted for in accordance with Statement of Financial Accounting Standards No. 141 “Business Combinations”. Periods prior to October 1, 2004 do not include the effect of the merger and, as a result, the six and three months ended June 30, 2004 does not reflect any results from the former DutchFork Bancshares.

Net Income

The company’s net income for the six months ended June 30, 2005 was $1.5 million, or $.50 diluted earnings per share, as compared to $852,000, or $.51 diluted earnings per share, for the six months ended June 30, 2004. The increase in net income is primarily due an increase in net interest income due to additional earning assets from the DutchFork merger as well as organic growth in the offices that existed prior to the merger. Average earning assets were $387.2 million during the six months ended June 30, 2005 as compared to $200.5 million during the six months ended June 30, 2004. The increase in average earning assets resulted in an increase in net interest income of $2.4 million in the first six months of 2005 as compared to the first six months of 2004. In addition, non-interest income increased $569,000 in the first six months of 2005 as compared to the first six months of 2004 largely due to the addition of the former DutchFork Bancshares. In addition there were gains on the sale of securities available-for-sale in the amount of $188,000 in the first six months of 2005 and none during the same period of 2004.

The table on page 21 shows yield and rate data for interest-bearing balance sheet components during the six month periods ended June 30, 2005 and 2004, along with average balances and the related interest income and interest expense amounts.

Net interest income was $6.4 million for the six months ended June 30, 2005 as compared to $4.0 million for the six months ended June 30, 2004. This again was primarily due to the increase in the level of earning assets. The yield on earning assets increased by 9 basis points due to increasing rates during the first half of 2005 offset by a significant change in the mix of the portfolios. The investment portfolio represented 48.0% of the interest earning assets in the six months ended June 30, 2005 as compared to 27.9% during the comparable period in 2004. This change in the mix of the earning asset portfolio is a result first of the size of the investment portfolio we acquired in the DutchFork merger and second of our restructuring of this investment portfolio during the fourth quarter of 2004 and during the first three months of 2005. The objective of the restructuring was to shorten the maturity and purchase investments that provided ongoing cash flow. Yields on loans are typically higher then yields on other types of earning assets and thus one of the company’s goals continues to be to grow the loan portfolio as a percentage of earning assets. It is believed that the restructuring of the investment portfolio provides the necessary cash flow to meet the objective of growing the loan portfolio.

 

12

 

The yield on earning assets for the six months ended June 30, 2005 and 2004 was 5.27% and 5.18%, respectively.  The cost of interest-bearing liabilities during the first six months of 2005 was 2.12% as compared to 1.44% in the same period of 2004.  The increase in the cost of interest-bearing liabilities was a result of increasing interest rates during the first six months of 2005 as well as having larger percentage of borrowed funds as total of interest –bearing funding sources in the first quarter of 2005 as compared to the same period in 2004.  The net interest margin was 3.35% for the six months ended June 30, 2005 as compared to 4.04% during the six months ended June 30, 2004.  On a fully taxable equivalent basis the net interest margin was 3.50% and 4.10% for the six months ended June 30, 2005 and 2004, respectively.

 

Provision and Allowance for Loan Losses

 

At June 30, 2005 the allowance for loan losses amounted to $2.7 million, or 1.32% of total loans, as compared to $2.8 million, or 1.48% of total loans, at December 31, 2004.  The company’s provision for loan loss was $138,000 for the six months ended June 30, 2005 as compared to $130,000 for the six months ended June 30, 2004.  The provision was made based on management’s assessment of general loan loss risk and asset quality.  The objective of management is to maintain the allowance for loan losses at approximately 1.1% to 1.5% of total loans.  The allowance for loan losses represents an amount which we believe will be adequate to absorb probable losses on existing loans that may become uncollectible.  Our judgment as to the adequacy of the allowance for loan losses is based on a number of assumptions about future events, which we believe to be reasonable, but which may or may not prove to be accurate.  Our determination of the allowance for loan losses is based on evaluations of the collectibility of loans, including consideration of factors such as the balance of impaired loans, the quality, mix, and size of our overall loan portfolio, economic conditions that may affect the borrower’s ability to repay, the amount and quality of collateral securing the loans, our historical loan loss experience, and a review of specific problem loans.  We also consider subjective issues such as changes in the lending policies and procedures, changes in the local/national economy, changes in volume or type of credits, changes in volume/severity of problem loans, quality of loan review and board of director oversight, concentrations of credit, and peer group comparisons.  Periodically, we adjust the amount of the allowance based on changing circumstances.  We charge recognized losses to the allowance and add subsequent recoveries back to the allowance for loan losses.  There can be no assurance that charge-offs of loans in future periods will not exceed the allowance for loan losses as estimated at any point in time or that provisions for loan losses will not be significant to a particular accounting period.

 

At June 30, 2005 the company had $74,000 in loans delinquent more than 90 days, and loans totaling $650,000 that were delinquent more than 30 days.  The company had three loans in a nonaccrual status in the amount of $433,000 at June 30, 2005.

 

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Allowance for Loan Losses

 

		Six Month Ended June 30,
(Dollars in thousands)		2005			2004
Average loans outstanding		$	192,539		$	126,905
Loans outstanding at period end		$	202,533		$	129,775
Non-performing assets:
Nonaccrual loans		$	433		$	191
Foreclosed real estate		404			—
Total non-performing loans		$	837		$	191
Beginning balance of allowance		$	2,764		$	1,705
Loans charged-off:
1-4 family residential mortgage		274			—
Home equity
Commercial		12			93
Installment & credit card		28			2
Total loans charged-off		314			95
Recoveries:
1-4 family residential mortgage		—			—
Home equity		—			—
Commercial		63			36
Installment & credit card		12			6
Total recoveries		80			42
Net loan charge offs		234			53
Provision for loan losses		138			130
Balance at period end		$	2,668		$	1,782
Net charge -offs to average loans		0.12		%	0.04		%
Allowance as percent of total loans		1.32		%	1.37		%
Non-performing assets as % of total assets		0.18		%	0.08		%
Allowance as % of non-performing loans		616.2		%	933.0		%

 

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The following allocation of the allowance to specific components is not necessarily indicative of future losses or future allocations.  The entire allowance is available to absorb losses in the portfolio.

 

Composition of the Allowance for Loan Losses

 

		June 30, 2005					December 31, 2004
		Amount			% of loans in category		Amount			% of loans in category
Commercial, Financial and Agricultural		$	1,075		10.3	%	$	1,215		10.2	%
Real Estate - Construction		10			7.5	%	13			4.3	%
Real Estate:
Commercial		701			51.3	%	780			51.8	%
Residential		249			17.4	%	228			19.0	%
Consumer		163			13.5	%	89			14.7	%
Unallocated		490			N/A		439			N/A
Total		$	2,688		100.0	%	$	2,764		100.0	%

 

Accrual of interest is discontinued on loans when management believes, after considering economic and business conditions and collection efforts that a borrower’s financial condition is such that the collection of interest is doubtful.  A delinquent loan is generally placed in nonaccrual status when it becomes 90 days or more past due.  At the time a loan is placed in nonaccrual status, all interest, which has been accrued on the loan but remains unpaid is reversed and deducted from earnings as a reduction of reported interest income.  No additional interest is accrued on the loan balance until the collection of both principal and interest becomes reasonably certain.

 

Non-interest Income and Expense

 

Non-interest income during the first six months of 2005 was $1.4 million as compared to $801,000 during the same period in 2004.  The growth in non-interest income consisted of increases in deposit service charges of $190,000 and mortgage origination fees of $38,000.  The increase in deposit service charges resulted from organic growth in deposit accounts as well as the growth resulting from the DutchFork merger.  Mortgage origination fees increased due to the continued low rate environment as well as continued emphasis on this source of revenue.  During the first six months of 2005 the company realized gains on the sale of securities in the amount of $188,000 with $181,000 realized in the first quarter of 2005.  Subsequent to the merger with DutchFork, management began restructuring the combined investment portfolio.  This restructuring continued into the first quarter of 2005. Although the portfolio acquired from DutchFork had a large percentage of investments with variable interest rates, the investments did not provide significant cash flow.  The objective of the restructuring was to shorten the maturity and purchase investments that provide ongoing cash flow.  Management will continue to take advantage of opportunities to restructure portions of the portfolio, but it is not anticipated that the volume of sales that the company experienced in the fourth quarter of 2004 and the first quarter of 2005  will continue.  Other income increased $152,000

 

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during the first six months of 2005 as compared to the same period in 2004 primarily as a result of the merger with DutchFork in October 2004 and the inclusion of noninterest income for these three new offices.  Included in other income for the six months ended June 30, 2004 was a gain on the sale of equipment in the amount of $27,000.

 

Total non-interest expense increased by $2.2 million during the first six months of 2005 as compared to the same period of 2004.  The DutchFork acquisition added three new offices and approximately 32 additional employees.  In addition, the bank opened a new banking office in April 2004 and February 2005.  The increases in all non-interest expense categories are primarily a result of the merger as well as these de-novo branch expansions.  Salaries and employee benefits increased $1.2 million in the first six months of 2005 as compared to the same period in 2004.  At June 30, 2005 the company had approximately 120 full time equivalent employees as compared to 78 full time equivalent employees at June 30, 2004.  Occupancy expense increased $165,000 in the first six months of 2005 as compared to the same period in 2004.  The three offices acquired in the merger and the two de-novo office expansions account for this increase.  Equipment expense increased to $651,000 in the first six months of 2005 as compared to $445,000 in the first six months of 2004.  This increase resulted from the additional equipment acquired as a result of the additional branches as well as upgrades to certain item processing hardware and software needed to process the higher volume of activity subsequent to the DutchFork merger.  Expense related to amortization of intangibles increased from $89,000 in the first six months of 2004 to $297,000 in the comparable period in 2005.  The core deposit intangible acquired in the DutchFork acquisition amounted to $2.9 million and is being amortized on a straight-line basis over seven years.  The amortization in the first six months of 2004 relates to core deposit premium acquired in a branch acquisition in 2001.  Prior core deposit premium is also amortized on a straight-line basis over seven years.  There was a $447,000 increase in other expenses in the first six months of 2005 as compared to the same period in 2004.  All components of other expense increased due to the significant growth the company experienced as a result of the merger with DutchFork.

 

The following is a summary of the components of non-interest expense:

 

		Six months ended June 30,
(In thousands)		2005			2004
Data processing		$	87		$	49
Supplies		136			85
Telephone		146			89
Correspondent services		82			62
Insurance		121			71
Postage		73			48
Professional fees		183			65
Other		303			214
		$	1,131		$	683

 

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