SOUTHERN BANCSHARES NC INC - Quarter Report: 2003 September (Form 10-Q)

Form 10-Q

SECURITIES AND EXCHANGE COMMISSION

Washington, D. C. 20549

FORM 10-Q

QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15 (d)

OF THE SECURITIES EXCHANGE ACT OF 1934

For the quarter ended September 30, 2003

Commission File No. 0-10852

SOUTHERN BANCSHARES (N.C.), INC.

(Exact name of registrant as specified in its charter)

DELAWARE		56-1538087
(State or other jurisdiction of incorporation or organization)		(I.R.S. Employer Identification Number)

121 East Main Street Mount Olive, North Carolina		28365
(Address of Principal Executive offices)		(Zip Code)

Registrant’s Telephone Number, including Area Code: (919) 658-7000

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 ¨

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

Indicate the number of shares outstanding of the Registrant’s common stock as of the close of the quarter covered by this report.

111,825 shares

Part i – FINANCIAL INFORMATION

Item 1 – Financial Statements.

SOUTHERN BANCSHARES (N.C.), INC. AND SUBSIDIARIES

CONSOLIDATED BALANCE SHEETS

(Dollars in thousands except per share data)

	(Unaudited) September 30, 2003			December 31, 2002
ASSETS
Cash and due from banks	$	33,839		$	39,263
Overnight funds sold		60,873			30,625
Investment securities:
Available-for-sale, at fair value (amortized cost $107,896 and $145,195, respectively)		130,455			164,374
Held-to-maturity, at amortized cost (fair value $60,585 and $26,759, respectively)		59,570			26,181
Loans		634,299			602,183
Loans held for sale		8,287			14,967
Less allowance for loan losses		(9,917	)		(9,098	)

Net loans		632,669			608,052
Premises and equipment		34,057			32,541
Intangible assets		9,833			10,772
Accrued interest receivable		5,482			5,281
Other assets		4,215			3,514

Total assets	$	970,993		$	920,603


LIABILITIES
Deposits:
Noninterest-bearing	$	159,482		$	147,108
Interest-bearing		676,185			649,664

Total deposits		835,667			796,772
Short-term borrowings		17,092			14,340
Long-term obligations		23,000			23,000
Accrued interest payable		1,402			1,919
Other liabilities		8,508			7,063

Total liabilities		885,669			843,094


SHAREHOLDERS’ EQUITY
Series B non-cumulative preferred stock, no par value; $3,590 and $3,609 liquidation value at September 30, 2003 and December 31, 2002, respectively; 408,728 shares authorized; 358,988 and 360,920 shares issued and outstanding at September 30, 2003 and December 31, 2002, respectively		1,749			1,758
Series C non-cumulative preferred stock, no par value; $397 liquidation value at both September 30, 2003 and December 31, 2002; 43,631shares authorized; 39,657 shares issued and outstanding at both September 30, 2003 and December 31, 2002		552			552
Common stock, $5 par value; 158,485 shares authorized; 111,825 and 113,649 shares issued and outstanding at September 30, 2003 and December 31, 2002, respectively		559			568
Surplus		10,000			10,000
Retained earnings		58,632			52,876
Accumulated other comprehensive income		13,832			11,755

Total shareholders’ equity		85,324			77,509

Total liabilities and shareholders’ equity	$	970,993		$	920,603

The accompanying notes are an integral part of these consolidated financial statements.

SOUTHERN BANCSHARES (N.C.), INC. AND SUBSIDIARIES

CONSOLIDATED STATEMENTS OF INCOME AND COMPREHENSIVE INCOME

(Dollars in thousands except share and per share data)

	(Unaudited) Three Months Ended September 30,					(Unaudited) Nine Months Ended September 30,
	2003		2002			2003		2002
			(Restated - see Note 1)					(Restated - see Note 1)
Interest income:
Loans	$	10,381	$	10,447		$	31,322	$	30,686
Investment securities:
U. S. Government		713		1,284			2,408		4,419
State, county and municipal		242		294			811		903
Other		355		409			1,147		1,243

Total investment securities interest income		1,310		1,987			4,366		6,565
Overnight funds sold		116		104			352		360

Total interest income		11,807		12,538			36,040		37,611

Interest expense:
Deposits		2,613		3,223			8,280		10,174
Short-term borrowings		29		70			91		160
Long-term obligations		474		518			1,495		1,553

Total interest expense		3,116		3,811			9,866		11,887

Net interest income		8,691		8,727			26,174		25,724
Provision for loan losses		450		450			1,350		1,350

Net interest income after provision for loan losses		8,241		8,277			24,824		24,374

Noninterest income:
Service charges on deposit accounts		1,721		1,426			4,996		4,024
Other service charges and fees		579		455			1,716		1,269
Investment securities gains, net		249		484			249		1,262
Gain on sale of loans		357		360			1,499		454
Other		133		125			458		160

Total noninterest income		3,039		2,850			8,918		7,169

Noninterest expense:
Personnel		4,310		3,741			12,568		11,181
Intangibles amortization		396		290			1,272		1,362
Occupancy		798		752			2,307		2,155
Data processing		748		708			2,205		2,025
Furniture and equipment		531		428			1,469		1,431
Professional fees		186		146			694		544
Other		1,694		1,260			3,518		3,049

Total noninterest expense		8,663		7,325			24,033		21,747

Income before income taxes		2,617		3,802			9,709		9,796
Income taxes		864		1,151			3,200		2,963

Net income		1,753		2,651			6,509		6,833

Other comprehensive income (loss) net of tax:
Unrealized gains (losses) arising during period		913		(898	)		2,244		2,927
Less: Reclassification adjustment for gains included in net income		167		320			167		833

Other comprehensive (loss) income		746		(1,218	)		2,077		2,094

Total comprehensive income (loss)	$	2,499	$	1,433		$	8,586	$	8,927


Per share information:
Net income per common share	$	14.84	$	22.46		$	55.63	$	57.56
Cash dividends declared on common shares		0.40		0.38			1.18		1.13
Weighted average common shares outstanding		111,825		113,951			112,189		114,065

The accompanying notes are an integral part of these consolidated financial statements.

SOUTHERN BANCSHARES (N.C.), INC. AND SUBSIDIARIES

CONSOLIDATED STATEMENTS OF CHANGES IN SHAREHOLDERS’ EQUITY

FOR THE NINE MONTHS ENDED SEPTEMBER 30, 2003 AND 2002

(Dollars in thousands except per share data)

(Unaudited)

	Preferred Stock								Common Stock					Surplus		Retained Earnings			Accumulated Other Compre- hensive Income		Total Shareholders’ Equity
	Series B					Series C			Common Stock
	Shares		Amount			Shares	Amount		Shares		Amount
Balance, December 31, 2001	363,373		$	1,770		39,716	$	553	114,208		$	571		$	10,000	$	44,388		$	10,147	$	67,429
Net income (Restated – see Note 1)	—			—		—		—	—			—			—		6,833			—		6,833
Purchase and retirement of stock	(2,412	)		(12	)	—		—	(294	)		(1	)		—		(73	)		—		(86	)
Cash dividends:
Common stock ($1.13 per share)	—			—		—		—	—			—			—		(129	)		—		(129	)
Preferred B ($.67 per share)	—			—		—		—	—			—			—		(242	)		—		(242	)
Preferred C ($.67 per share)	—			—		—		—	—			—			—		(27	)		—		(27	)
Other	—			—		—		—	—			—			—		33			—		33
Unrealized gain on securities available-for-sale, net of tax	—			—		—		—	—			—			—		—			2,094		2,094

Balance, September 30, 2002	360,961		$	1,758		39,716	$	553	113,914		$	570		$	10,000	$	50,783		$	12,241	$	75,905

Balance, December 31, 2002	360,920		$	1,758		39,657	$	552	113,649		$	568		$	10,000	$	52,876		$	11,755	$	77,509
Net income																	6,509					6,509
Purchase and retirement of stock	(1,932	)		(9	)	—		—	(1,824	)		(9	)				(358	)				(376	)
Cash dividends:
Common stock ($1.18 per share)																	(127	)				(127	)
Preferred B ($.67 per share)																	(241	)				(241	)
Preferred C ($.67 per share)																	(27	)				(27	)
Unrealized gain on securities available-for-sale, net of tax																				2,077		2,077

Balance, September 30, 2003	358,988		$	1,749		39,657	$	552	111,825		$	559		$	10,000	$	58,632		$	13,832	$	85,324

The accompanying notes are an integral part of these consolidated financial statements.

SOUTHERN BANCSHARES (N.C.), INC. AND SUBSIDIARIES

CONSOLIDATED STATEMENTS OF CASH FLOWS

	(Unaudited) Nine months ended September 30,
(Dollars in thousands)	2003			2002
				(Restated –see Note 1)
OPERATING ACTIVITIES:
Net income	$	6,509		$	6,833
Adjustments to reconcile net income to net cash provided by operating activities:
Provision for loan losses		1,350			1,350
Investment securities gain, net		(249	)		(1,262	)
Gain on sale of loans		(1,499	)		(454	)
Premium amortization and discount accretion of investments, net		782			481
Loss on sale or abandonment of property and equipment		(1	)		220
Amortization of intangibles		1,449			1,362
Depreciation		1,832			1,799
Net increase in intangible assets		(510	)		(221	)
Net decrease (increase) in accrued interest receivable		(201	)		207
Net decrease in accrued interest payable		(517	)		(1,425	)
Net decrease (increase) in other assets		(352	)		1,771
Net increase (decrease) in other liabilities		142			(1,412	)

NET CASH PROVIDED BY OPERATING ACTIVITIES		8,735			9,249

INVESTING ACTIVITIES:
Proceeds from maturities and issuer calls of investment securities available-for-sale		48,777			27,726
Proceeds from maturities and issuer calls of investment securities held-to-maturity		21,001			38,622
Proceeds from sale of investment securities available-for-sale		1,322			2,650
Proceeds from sales of loans		114,619			44,253
Purchases of investment securities held-to-maturity		(52,523	)		(13,337	)
Purchases of investment securities available-for-sale		(15,200	)		(41,676	)
Net increase in loans		(139,436	)		(94,500	)
Purchases of fixed assets		(3,347	)		(1,546	)

NET CASH USED BY INVESTING ACTIVITIES		(24,787	)		(37,808	)

FINANCING ACTIVITIES:
Net increase in demand and interest-bearing demand deposits		34,131			21,762
Net increase (decrease) in time deposits		4,764			(5,682	)
Net change in short-term borrowed funds		2,752			(1,232	)
Other		—			33
Cash dividends paid		(395	)		(398	)
Purchase and retirement of stock		(376	)		(86	)

NET CASH PROVIDED BY FINANCING ACTIVITIES		40,876			14,397

NET INCREASE (DECREASE) IN CASH AND CASH EQUIVALENTS	$	24,824		$	(14,162	)
CASH AND CASH EQUIVALENTS AT THE BEGINNING OF YEAR		69,888			63,176

CASH AND CASH EQUIVALENTS AT THE END OF PERIOD	$	94,712		$	49,014

SUPPLEMENTAL DISCLOSURES OF CASH PAID DURING THE PERIOD FOR:
Interest	$	10,383		$	9,785
Income taxes	$	3,592		$	2,380

SUPPLEMENTAL DISCLOSURE OF NONCASH INVESTING AND FINANCING ACTIVITIES:
Unrealized gain on securities available-for-sale, net of deferred tax	$	2,077		$	2,094

Foreclosed loans transferred to other real estate	$	349		$	246

The accompanying notes are an integral part of these consolidated financial statements.

SOUTHERN BANCSHARES (N. C.), INC. AND SUBSIDIARIES

Notes to Consolidated Financial Statements

Note 1. Summary Of Significant Accounting Policies

Basis of Financial Statement Presentation

Southern BancShares (N. C.), Inc. (“BancShares”) is the holding company for Southern Bank and Trust Company (“Southern”), which operates 50 banking offices in eastern North Carolina, and Southern Capital Trust I (the “Trust”), a statutory business trust that issued $23.0 million of 8.25% Capital Securities (the “Capital Securities”) in June 1998 maturing in 2028. BancShares irrevocably and unconditionally guarantees the Trust’s obligations. Southern, which began operations January 29, 1901, has a wholly-owned subsidiary, Goshen, Inc. which acts as agent for credit life and credit accident and health insurance written in connection with loans made by Southern. BancShares and Southern are headquartered in Mount Olive, North Carolina.

The consolidated financial statements in this report are unaudited. In the opinion of management, all adjustments (consisting of normal accruals and the restatement of 2002 for the application of Statement of Financial Accounting Standards No.147, “Acquisitions of Certain Financial Institutions”) necessary for a fair presentation of the financial position and results of operations for the quarters presented have been included. BancShares restated its interim consolidated financial statements for the three and nine month periods ended September 30, 2002 to remove the effects of the amortization of intangibles previously recorded under Statement 72. BancShares reversed amortization expense of approximately $300,000 and $954,000 which increased net income by $125,000 and $507,000 and net income per common share by $1.10 and $4.45 for the three and nine month periods ended September 30, 2002.

The preparation of financial statements in conformity with accounting principles generally accepted in the United States of America requires management to make estimates and assumptions. These estimates and assumptions affect the reported amounts of assets and liabilities, the disclosure of contingent liabilities at the date of the financial statements and the reported amounts of revenues and expenses for the reporting periods. Actual results could differ from those estimates. The statements should be read in conjunction with the consolidated financial statements and accompanying notes for the year ended December 31, 2002, incorporated by reference in the 2002 Annual Report on Form 10-K.

Principles Of Consolidation

The consolidated financial statements include the accounts of BancShares and its wholly-owned subsidiaries, Southern and the Trust. The statements also include the accounts of Goshen, Inc., a wholly-owned subsidiary of Southern. BancShares’ financial resources are primarily provided by dividends from Southern. All significant intercompany balances have been eliminated in consolidation.

Cash And Cash Equivalents

For purposes of reporting cash flows, cash and cash equivalents include cash, due from banks and overnight funds sold.

Goodwill and Other Intangible Assets

Intangible assets are composed primarily of goodwill, core deposit premiums and mortgage servicing rights. Core deposit premiums are generally amortized on an accelerated basis over a period of 5 to 10 years and the useful lives are periodically reviewed for reasonableness. Mortgage servicing rights (MSRs) represent the estimated value of the right to service mortgage loans for others. Capitalization of MSRs occurs when the underlying loans are sold. Capitalized MSRs are amortized into income over the projected servicing life of the underlying loans. Capitalized MSRs are periodically reviewed for impairment. The net MSR balances were $965,000 and $557,000 at September 30, 2003 and 2002 respectively. No valuation allowance for impairment was required at September 30, 2003 or September 30, 2002.

BancShares adopted the provisions of Statement of Financial Accounting Standards No. 141, “Business Combinations” (Statement 141) as of June 30, 2001 and adopted Statement of Financial Accounting Standards No. 142, “Goodwill and Other Intangible Assets,” (Statement 142) effective January 1, 2002. Any goodwill and any intangible asset determined to have an indefinite useful life that are acquired in a purchase business combination completed after June 30, 2001 will not be amortized, but will continue to be evaluated for impairment in accordance with Statement of Financial Accounting Standards No. 144, “Accounting for the Impairment or Disposal of Long-Lived Assets” (Statement 144). Statement 141 required, upon adoption of Statement 142, that BancShares evaluate its existing intangible assets and goodwill that were acquired in prior purchase business combinations, and to make any necessary reclassifications in order to conform with the new criteria in Statement 141 for recognition apart from goodwill. Upon adoption of Statement 142, BancShares was required to reassess the useful lives and residual values of all identifiable intangible assets acquired in purchase business combinations, and to make any necessary amortization period adjustments.

Effective January 1, 2002 Bancshares adopted the provisions of Statement on Financial Accounting Standards No. 147 “Acquisitions of Certain Financial Institutions,” (Statement 147), which requires that all acquisitions of financial institutions that meet the definition of a business, including acquisitions of part of a financial institution that meet the definition of a business, must be accounted for in accordance with Statement 141 and the related intangibles accounted for in accordance with Statement 142. Upon adoption of Statement 147, BancShares restated its previously issued 2002 interim consolidated financial statements (including separate quarterly results) to remove the effects of amortization of intangibles previously recorded in the 2002 fiscal year.

As of September 30, 2003, BancShares had intangible assets totaling $9.8 million. Management evaluated BancShares’ existing intangible assets and goodwill as of January 1, 2002 and determined that BancShares had $5.6 million of goodwill that would no longer be amortized. In accordance with Statement 142, BancShares performed a transitional impairment test of this goodwill in the first six months of 2002 and performed an annual impairment test of the goodwill in the last six months of 2002 and will perform an annual impairment test thereafter. Bancshares will continue to amortize the remaining intangible assets, totaling $4.2 million at September 30, 2003, which relate primarily to acquisitions of branches and MSR. These intangible assets will continue to be amortized over their estimated useful lives. Management periodically reviews the useful lives of these assets and adjusts them accordingly.

The following is a summary of the gross carrying amounts and accumulated amortization of amortized intangible assets as of September 30, 2003 and December 31, 2002 and the gross carrying amount of unamortized intangible assets as of September 30, 2003:

	September 30, 2003				December 31, 2002
	(Unaudited)
(Dollars in thousands)	Gross Carrying Amount		Accumulated Amortization		Gross Carrying Amount		Accumulated Amortization
Amortized intangible assets:
Branch acquisitions	$	13,274	$	9,985	$	13,274	$	8,714
Mortgage servicing rights		2,348		1,383		1,837		1,204

Total	$	15,622	$	11,368	$	15,111	$	9,918

Unamortized intangible assets:
Goodwill	$	5,540	$	—	$	5,540	$	—

Pension	$	39	$	—	$	39	$	—

There was no change in the gross carrying amount of unamortized goodwill at September 30, 2003 compared to December 31, 2002.

The scheduled amortization expense for intangible assets for the years ended December 31, 2003, 2004, 2005, 2006 and 2007 and thereafter is as follows:

(Dollars in thousands, unaudited)	Estimated Amortization Expense
2003	$	1,755
2004		1,376
2005		1,005
2006		647
2007		318
2008 and after		92

Total	$	5,193

The actual amortization expense in future periods may be subject to change based on changes in the useful life of the assets, expectations for loan prepayments, future acquisitions and future loan sales.

In November 2002, the FASB issued FASB Interpretation No. 45 (“FIN 45”), “Guarantor’s Accounting and Disclosure Requirements for Guarantees, Including Indirect Guarantees of Indebtedness of Others,” which addresses the disclosure to be made by a guarantor in its interim and annual financial statements about its obligations under guarantees. FIN 45 requires the guarantor to recognize a liability for the non-contingent component of the guarantee, such as the obligation to stand ready to perform in the event that specified triggering events or conditions occur. The initial measurement of this liability is the fair value of the guarantee at inception. The recognition of the liability is required even if it is not probable that payments will be required under the guarantee or if the guarantee was issued with a premium payment or as part of a transaction with multiple elements. The disclosure requirements are effective for interim and annual financial statements ending after December 15, 2002. The initial recognition and measurement provisions are effective for all guarantees within the scope of FIN 45 issued or modified after December 31, 2002. Southern issues standby letters of credit whereby Southern guarantees performance if a specified triggering event or condition occurs. The guarantees generally expire within one year and may be automatically renewed depending on the terms of the guarantee. The maximum potential amount of undiscounted future payments related to standby letters of credit at September 30, 2003 is $3.9 million. At September 30, 2003, BancShares has recorded no liability for the current carrying amount of the obligation to perform as a guarantor, as such amounts are deemed immaterial.

In January 2003, the FASB issued Interpretation No. 46, “Consolidation of Variable Interest Entities, an interpretation of ARB No. 51” (“FIN 46”). FIN 46 addresses the consolidation by business enterprises of variable interest entities as defined in the interpretation. FIN 46 applies immediately to variable interests in variable interest entities created after January 31, 2003, and to variable interest entities obtained after January 31, 2003. BancShares has identified no investments in variable interest entities that would require consolidation under FIN 46. The application of Interpretation 46 may result in the de-consolidation of the trust that has issued the trust preferred capital securities currently reported in BancShares consolidated financial statements. At this time the final interpretation regarding such application is pending. The trust preferred capital securities are currently disclosed as long-term borrowings within the consolidated financial statements. However, the continued consolidation of the trust associated with BancShares trust preferred securities under FIN 46 is still under consideration. BancShares will apply FIN 46 to these entities on December 31, 2003, as appropriate. The impact of this change is not expected to have a material effect on BancShares consolidated financial statements.

Treatment of trust preferred securities within BancShares’ capital ratio calculations in light of FIN46 is pending further guidance from the banking regulators. If the banking regulators change the capital treatment for trust preferred securities, BancShares’ tier 1 and total capital would be reduced by the amount of outstanding trust preferred securities, but we believe BancShares’ capital classifications would remain unchanged.

Reclassifications

Certain 2002 year-to-date and quarter-to-date balances have been reclassified to conform to the current period presentation. Such reclassifications, other than the Goodwill and Other Intangible Assets discussed above, had no effect on net income or shareholders’ equity as previously reported.

Subsequent Events

On October 24, 2003, Bancshares purchased an existing RBC Centura Branch in Norlina, North Carolina. This purchase increased BancShares’ deposits by approximately $18.4 million and increased BancShares’ loans, consisting of primarily consumer loans, by approximately $1.2 million. BancShares paid and recorded as intangible assets, a premium of 10.50% of certain deposit balances, or approximately $1.9 million, for this purchase.

SOUTHERN BANCSHARES (N.C.), INC. AND SUBSIDIARIES

Notes to consolidated financial statements

Dollars in thousands

Note 2. Investment securities

(In thousands)

	(Unaudited) September 30, 2003									December 31, 2002
	Amortized Cost		Gross Unrealized Gains		Gross Unrealized Losses			Fair Value		Amortized Cost		Gross Unrealized Gains		Gross Unrealized Losses			Fair Value
SECURITIES HELD-TO-MATURITY:
U. S. Government	$	42,524	$	52	$	(78	)	$	42,498	$	6,004	$	103	$	—		$	6,107
Obligations of states and political subdivisions		17,046		1,045		(4	)		18,087		20,177		475		—			20,652

		59,570		1,097		(82	)		60,585		26,181		578		—			26,759

SECURITIES AVAILABLE-FOR-SALE:
U. S. Government		77,565		562		—			78,127		107,771		1,537		—			109,308
Marketable equity securities		16,088		21,274		(3	)		37,359		11,774		16,668		—			28,442
Obligations of states and political subdivisions		7,220		387		—			7,607		12,776		380		(1	)		13,155
Mortgage-backed securities		7,023		339		—			7,362		12,874		603		(8	)		13,469

		107,896		22,562		(3	)		130,455		145,195		19,188		(9	)		164,374

Totals	$	167,466	$	23,659	$	(85	)	$	191,040	$	171,376	$	19,766	$	(9	)	$	191,133

Note 3. ALLOWANCE FOR LOAN LOSSES

(Dollars in thousands)

	(Unaudited) Nine Months Ended September 30,
	2003			2002
Balance at beginning of year	$	9,098		$	7,636
Provision for loan losses		1,350			1,350
Loans charged off		(843	)		(541	)
Loan recoveries		312			201

Balance at end of the period	$	9,917		$	8,646

Note 4. Earnings Per Common Share

Earnings per common share are computed by dividing income applicable to common shares by the weighted average number of common shares outstanding during the period. Income applicable to common shares represents net income reduced by dividends paid to preferred shareholders. Since BancShares had no potentially dilutive securities during 2003 or 2002, the computation of basic and diluted earnings per share is the same. The following table presents the components of the earnings per share computations:

	(Unaudited) Three Months Ended September 30,						(Unaudited) Nine Months Ended September 30,
(Dollars in thousands)	2003			2002			2003			2002
Net income	$	1,753		$	2,651		$	6,509		$	6,833
Less: Preferred dividends		(93	)		(92	)		(268	)		(269	)

Net income applicable to common shares	$	1,660		$	2,559		$	6,241		$	6,564


Weighted average common shares outstanding during the period		111,825			113,951			112,189			114,065

Note 5. Related Parties

BancShares has entered into various service contracts with another bank holding company (the “Corporation”) and its subsidiary (First Citizens). The fees for these service contracts are based upon the market value of the various services provided. The Corporation has two significant shareholders, who also are significant shareholders of BancShares.

The first significant shareholder is a director of BancShares and, at September 30, 2003, beneficially owned 32,751 shares, or 29.29%, of BancShares’ outstanding common stock and 4,966 shares, or 1.38%, of BancShares’ outstanding Series B preferred stock. At the same date, the second significant shareholder beneficially owned 27,422 shares, or 24.52%, of BancShares’ outstanding common stock.

These two significant shareholders are directors and executive officers of the Corporation and at September 30, 2003, beneficially owned 2,530,322 shares, or 28.89%, and 1,384,121 shares, or 15.80%, of the Corporation’s outstanding Class A common stock, and 652,285 shares, or 38.88%, and 201,812 shares, or 12.03%, of the Corporation’s outstanding Class B common stock. The above totals include 472,855 Class A common shares, or 5.40%, and 104,644 Class B Common shares, or 6.24%, that are considered to be beneficially owned by both of the shareholders and, therefore, are included in each of their totals.

BancShares is related through common ownership with The Fidelity Bank, (“Fidelity”), in that the aforementioned two significant shareholders of BancShares and certain of their related parties are also significant shareholders of Fidelity. Fidelity has contracted with BancShares for BancShares to service, on Fidelity’s behalf, $3.0 million of Fidelity’s mortgage loans at September 30, 2003.

The following table lists the various charges paid to the Corporation during the three and nine months ended September 30, 2003 and the three and nine months ended September 30, 2002 in accordance with the aforementioned service contracts:

	(Unaudited) Three Months Ended September 30,				(Unaudited) Nine Months Ended September 30,
(Dollars in thousands)	2003		2002		2003		2002
Data and item processing	$	660	$	663	$	1,998	$	1,809
Forms, supplies and equipment		545		147		1,144		413
Trustee for employee benefit plans		16		14		46		45
Consulting fees		32		23		81		71
Other services		67		52		173		143


	$	1,320	$	899	$	3,442	$	2,481

Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations.

SOUTHERN BANCSHARES (N.C.), INC. AND SUBSIDIARIES

MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS - NINE MONTHS ENDED 2003 VS. NINE MONTHS ENDED 2002

INTRODUCTION

The net income of BancShares decreased approximately $324,000 from $6.8 million in the first nine months of 2002 to $6.5 million in the first nine months of 2003, a decrease of 4.74%. This decrease resulted primarily from a $727,000 before tax increase in charitable contributions for 2003 partially offset by an increase of $442,000 of net gains on sales of loans and available-for-sale investments. The acquisition of a branch in October 2002 and the opening of a new branch in February 2003 resulted in increased net interest income, increased noninterest income, increased personnel expense and increased operating expenses for the nine months ended September 30, 2003.

BancShares restated its interim consolidated financial statements for the nine month period ended September 30, 2002 to remove the effects of the amortization of intangibles previously recorded under Statement 72. BancShares reversed amortization expense of approximately $954,000 which increased net income by $507,000 and net income per common share by $4.46 for the nine month period ended September 30, 2002.

Per share net income available to common shares for the first nine months of 2003 was $55.63, a decrease of $1.93, or 3.35%, from $57.56 for the first nine months of 2002. The annualized return on average equity decreased to 10.53%, for the period ended September 30, 2003, from 12.72% for the period ended September 30, 2002.

At September 30, 2003, BancShares’ assets totaled $971.0 million, an increase of $50.4 million, or 5.47%, from the $920.6 million reported at December 31, 2002. During this nine month period, cash and due from banks decreased $5.4 million, or 13.81% from $39.3 million to $33.8 million. During this nine month period, overnight funds sold increased $30.2 million, or 98.77% from $30.6 million to $60.9 million. During this nine month period, loans increased $32.1 million, or 5.33%, from $602.2 million to $634.3 million. During the nine months ended September 30, 2003 investment securities decreased $530,000, or 0.28% from $190.6 million at December 31, 2002 to $190.0 million at September 30, 2003. Total deposits increased $38.9 million, or 4.88% from $796.8 million at December 31, 2002 to $835.7 million at September 30, 2003.

CRITICAL ACCOUNTING POLICIES

BancShares’ significant accounting policies are set forth in note 1 of the consolidated financial statements in the annual report on Form 10-K. Of these significant accounting policies, BancShares considers its policy regarding the allowance for loan losses to be its single critical accounting policy, because it requires management’s most subjective and complex judgments. In addition, changes in economic conditions can have a significant impact on the allowance for loan losses and therefore the provision for loan losses and results of operations. BancShares has developed 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.

BancShares’ 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 is not known to management at the time of the issuance of the consolidated financial statements. For additional discussion concerning BancShares’ allowance for loan losses and related matters, see ASSET QUALITY AND PROVISION FOR LOAN LOSSES.

ACQUISITIONS, NEW OFFICES AND CONSOLIDATIONS

BancShares did not acquire any additional locations in the nine months ended September 30, 2003 or 2002. BancShares opened an additional full service branch in Rocky Mount in January 2002 and opened an additional full service branch in Kenansville in February 2003.

BancShares closed and consolidated its limited service Turkey office in September 2002, closed and consolidated its limited service Calypso, North Carolina location in October 2002 and acquired an existing RBC Centura branch in Scotland Neck, North Carolina in October 2002.

The 2002 Scotland Neck acquisition increased BancShares’s deposits by approximately $31.3 million and increased BancShare’s loans by approximately $4.1 million. BancShares paid approximately $2.3 million for the Scotland Neck acquisition.

INTEREST INCOME

Interest and fees on loans increased $636,000, or 2.07%, from $30.7 million for the nine months ended September 30, 2002 to $31.3 million for the nine months ended September 30, 2003. This increase resulted from increased loan portfolio balances that were partially offset by decreased loan yields. Average loans for the nine months ended September 30, 2003 were $633.9 million, an increase of $79.5 million, or 14.34%, from $554.4 million for the prior year period. This increase in average loans was principally the result of growth within the existing branches, the additions of new branches in January 2002 and February 2003 and the acquisition in October 2002. The yield on the loan portfolio decreased to 6.61% for the nine months ended September 30, 2003 from 7.40% for the nine months ended September 30, 2002.

Interest income from investment securities, including U. S. Treasury and Government obligations, obligations of state and county subdivisions and other securities decreased $2.2 million or 33.50%, from $6.6 million in the nine months ended September 30, 2002 to $4.4 million in the nine months ended September 30, 2003. This decrease was due to both a decrease in yields for the nine months ended September 30, 2003 and a decrease in average investment securities. The average investment securities for the nine months ended September 30, 2003 was $186.1 million as compared to $202.4 million for the same 2002 period. The decrease in volume principally resulted from increased average overnight investments. The yield on investment securities was 3.51% for the nine-month period ended September 30, 2003 and 4.77% for the nine-month period ended September 30, 2002.

Interest income on overnight funds sold decreased $8,000, or 2.22%, from $360,000 for the nine months ended September 30, 2002 to $352,000 for the nine months ended September 30, 2003. This decrease in income resulted from an increase in the average overnight funds sold to $45.4 million for the nine months ended September 30, 2003 from an average of $28.8 million for the nine months ended September 30, 2002 offset by a decrease in the average overnight funds sold yields from 1.65% for the nine months ended September 30, 2002, to 1.02% for the nine months ended September 30, 2003.

Total interest income decreased $1.6 million or 4.18%, from $37.6 million for the nine months ended September 30, 2002 to $36.0 million for the nine months ended September 30, 2003. This decrease was the result of an increase of $78.3 million in average earning assets offset by an 86 basis point decrease in average earning asset yields.

Average earning asset yields for the nine months ended September 30, 2003 decreased to 5.70% from the 6.56% yield on average earning assets for the nine months ended September 30, 2002 as a result of the overall decline in market rates. Average earning assets increased from $767.0 million in the nine months ended September 30, 2002 to $845.4 million in the nine months ended September 30, 2003. This $78.3 million increase in the average earning assets resulted primarily from growth within the existing branches, the opening of a new branch in January 2002, the acquisition of a branch in October 2002 and the opening of a new branch in February 2003.

INTEREST EXPENSE

Total interest expense decreased $2.0 million, or 17.00%, from $11.9 million in the nine months ended September 30, 2002 to $9.9 million for the nine months ended September 30, 2003. BancShares’ total cost of funds decreased from 2.43% for the nine months ended September 30, 2002 to 1.88% for the nine months ended September 30, 2003 as a result of the overall decrease in market rates. Average interest-bearing deposits were $663.7 million in the nine months ended September 30, 2003, an increase of $50.2 million from the $613.5 million average in the nine months ending September 30, 2002. The increase in interest-bearing deposits was primarily the result of growth within the existing branches, the opening of a new branch in January 2002, the acquisition of a branch in October 2002 and the opening of a new branch in February 2003.

NET INTEREST INCOME

Net interest income before provision for loan losses was $26.2 million for the nine months ended September 30, 2003 and $25.7 million for the nine months ended September 30, 2002

The interest rate spread for the nine months ended September 30, 2003 was 3.82%, a decrease of 30 basis points from the 4.12% interest rate spread for the nine months ended September 30, 2002. The decrease in the interest rate spread was primarily due to the average rate on interest-bearing liabilities repricing downward at a slower rate than the downward repricing of interest-earning assets.

ASSET QUALITY AND PROVISION FOR LOAN LOSSES

For the nine months ended September 30, 2003 management recorded $1.4 million as a provision for loan losses. Management also recorded a $1.4 million provision for loan losses for the nine months ended September 30, 2002. Management recorded the 2003 provision in consideration of loan growth, increased net loan charge offs and the continued weak economy.

During the first nine months of 2003 management charged-off loans totaling $843,000 and received recoveries of $312,000, resulting in net charge-offs of $531,000. During the same period in 2002, $541,000 in loans were charged-off and recoveries of $201,000 were received, resulting in net charge-offs of $340,000. The ratio of net charge-offs to average loans increased from 0.09% for the year ended December 31, 2002 to an annualized 0.11% for the nine months ended September 30, 2003. For the nine months ended September 30, 2003, $1.4 million was added to the allowance for loan losses through charges to the operations of BancShares. The allowance for loan losses accordingly increased $819,000 from December 31, 2002. The following table presents comparative Asset Quality ratios of BancShares:

	September 30, 2003		December 31, 2002		September 30, 2002

Ratio of annualized net loans charged off to average loans	0.11	%	0.09	%	0.08	%

Allowance for loan losses to loans excluding loans held-for-sale	1.56	%	1.51	%	1.48	%

Non-performing loans to loans excluding loans held-for-sale	0.39	%	0.51	%	0.31	%

Non-performing loans and assets to total assets	0.32	%	0.38	%	0.24	%

Allowance for loan losses to non-performing loans	400.36	%	291.32	%	463.34	%

The allowance for loan losses represented 1.56% of loans, excluding loans held-for-sale, at September 30, 2003 compared to 1.51% of loans, excluding loans held-for-sale, at December 31, 2002. The allowance for loan losses to loans, net of loans held-for-sale, ratio was also impacted by the net growth in loans, net of loans held-for-sale of $32.1 million, or 5.33% from $602.2 million at December 31, 2002 to $634.3 million at September 30, 2003.

The ratio of nonperforming loans to loans, net of loans held-for-sale, decreased from 0.51% at December 31, 2002 to 0.39% at September 30, 2003. Nonperforming loans and assets to total assets decreased to 0.32% at September 30, 2003 from 0.38% at December 31, 2002. The allowance for loan losses represented 400.36% of nonperforming loans at September 30, 2003, an increase from the 291.32% at December 31, 2002.

Performance improvements resulted primarily from loan growth while maintaining nonperforming loans at $2.5 million and $3.1 million at September 30, 2003 and December 31, 2002, respectively. The nonperforming loans at September 30, 2003 included $896,000 of nonaccrual loans, $1.6 million of accruing loans 90 days or more past due and no restructured loans. The nonperforming loans at December 31, 2002 included $918,000 of nonaccrual loans, $2.2 million of accruing loans 90 days or more past due and $25,000 of restructured loans. BancShares had $586,000 of assets classified as other real estate at September 30, 2003. BancShares had $411,000 of assets classified as other real estate at December 31, 2002. Other real estate is recorded at the lower of cost or fair value less estimated costs to sell. Subsequent costs directly related to development and improvement of property are capitalized, whereas costs relating to holding the property are expensed.

Management considers the September 30, 2003 allowance for loan losses to be adequate to cover the losses and risks inherent in the loan portfolio at September 30, 2003 and will continue to monitor its portfolio and to adjust the relative level of the allowance as needed. BancShares had impaired loans of $576,000 at September 30, 2002 compared to $470,000 at December 31, 2002. No additional allowances for loan losses were required for these impaired loans.

Management actively maintains a current loan watch list and knows of no other loans which are material and (i) represent or result from trends or uncertainties which management reasonably expects will materially impact future operating results, liquidity or capital resources, or (ii) represent material credits about which management is aware of any information which causes management to have serious doubts as to the ability of such borrowers to comply with the loan repayment terms.

Management believes it has established the allowance in accordance with accounting principles generally accepted in the United States of America and in consideration of the current economic environment. While management uses the best information available to make evaluations, future adjustments may be necessary if economic and other conditions differ substantially from the assumptions used.

In addition, various regulatory agencies, as an integral part of their examination process, periodically review Southern’s allowance for loan losses and other real estate owned. Such agencies may require Southern to recognize adjustments to the allowances based on the examiners’ judgments about information available to them at the time of their examinations.

NONINTEREST INCOME

During the nine months ended September 30, 2003, BancShares realized a $1.7 million increase in noninterest income primarily as a result of a $1.4 million increase in service charges and fees and a $1.0 million increase in gains on sale of loans offset by a decrease of $1.0 million in investment securities gains in the nine months ended September 30, 2003 compared to the nine months ended September 30, 2002.

Service charges on deposit accounts for the nine months ended September 30, 2003 increased $972,000 and other service charges and fees for the nine months ended September 30, 2003 increased $447,000 over the nine months ended September 30, 2002 primarily as a result of growth within the existing branches, the October 2002 branch acquisition and the new branch opened in February 2003.

NONINTEREST EXPENSE

Noninterest expense increased $2.3 million or 10.51%, from $21.7 million in the nine months ended September 30, 2002 to $24.0 million in the nine months ended September 30, 2003.

This increase was primarily due to an increase in personnel expense of $1.4 million, or 12.40%, from $11.2 million at September 30, 2002 to $12.6 million at September 30, 2003 and increased occupancy, data processing and other expenses resulting principally from the existing branches, the October 2002 branch acquisition and the opening of a new branch in February 2003.

INCOME TAXES

In the nine months ended September 30, 2003 BancShares recorded income tax expense of $3.2 million. In the nine months ended September 30, 2002, BancShares recorded income tax expense of $3.0 million. The resulting effective tax rate for the nine months ended September 30, 2003 was 32.96%. The effective tax rate for the nine months ended September 30, 2002 was 30.25%. The estimated effective tax rate was higher in 2003 due to a decrease in tax-exempt income in 2003 as a percentage of total income before taxes. The effective tax rates in 2003 of 32.96% and in 2002 of 30.25% differ from the federal statutory rate of 34.00% primarily due to tax exempt income.

SOUTHERN BANCSHARES (N.C.), INC. AND SUBSIDIARIES

MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS – THIRD QUARTER OF 2003 VS. THIRD QUARTER OF 2002

INTRODUCTION

In the three months ended September 30, 2003, the net income of BancShares decreased $898,000 from $2.7 million in the three months ended September 30, 2002 to $1.8 million in the three months ended September 30, 2003, a decrease of 33.87%. The decrease in net income for the quarter ended September 30, 2003 is attributed principally to an increase in noninterest expenses. In addition, BancShares’ effective tax rate increased in the third quarter of 2003 compared to the third quarter of 2002.

BancShares restated its interim consolidated financial statements for the three month period ended September 30, 2002 to remove the effects of the amortization of intangibles previously recorded under Statement 72. BancShares reversed amortization expense of approximately $300,000 which increased net income by $125,000 and net income per common share by $1.10 for the three month period ended September 30, 2002.

Per share net income available to common shares for the three months ended September 30, 2003 was $14.84, a decrease of $7.62, or 33.93%, from $22.46 for the three months ended September 30, 2002.

ACQUISITIONS

BancShares had no acquisitions in the quarter ended September 30, 2002 or the quarter ended September 30, 2003.

INTEREST INCOME

Interest and fees on loans decreased $66,000 or 0.63% to $10.4 million for the quarter ended September 30, 2003 from $10.4 million for the quarter ended September 30, 2002. This decrease was due to increased loan balances that did not offset lower loan portfolio yields. Average loans for the quarter ended September 30, 2003 were $646.6 million, an increase of 12.49% from $574.8 million for the prior year quarter. The yield on the loan portfolio was 6.37% for the three months ended September 30, 2003 and 7.27% for the three months ended September 30, 2002.

Interest income from investment securities, including U. S. Treasury and Government obligations, obligations of state and county subdivisions and other securities decreased $677,000, or 34.07%, from $2.0 million in the three months ended September 30, 2002 to $1.3 million in the three months ended September 30, 2003. This decrease was primarily due to an increase in the average investment portfolio that was offset by decreased yields. Average investment securities for the quarter ended September 30, 2003 increased to $189.1 million as compared to $178.1 million for the same 2002 quarter. The yield on investment securities was 3.10% for the quarter ended September 30, 2003 and 4.46% for the quarter ended September 30, 2002.

Interest income on overnight funds sold increased $12,000, or 11.54%, from $104,000 for the quarter ended September 30, 2002 to $116,000 for the quarter ended September 30, 2003. This increase in income resulted from an increase in volume offset by a decrease in yield. The average overnight funds sold was $53.2 million for the quarter ended September 30, 2003 compared to an average of $25.0 million for the quarter ended September 30, 2002. Average overnight funds sold yields were 0.86% for the quarter ended September 30, 2003 down from 1.68% for the quarter ended September 30, 2002.

Total interest income decreased $731,000, or 5.83%, from $12.5 million for the quarter ended September 30, 2002 to $11.8 million for the quarter ended September 30, 2003. This decrease was primarily the result of a decrease in the yields on average earning assets resulting primarily from the overall lower market interest rates during the quarter ended September 30, 2003.

Average earning asset yields for the quarter ended September 30, 2003 decreased to 5.40% from the 6.45% yield on average earning assets for the quarter ended September 30, 2002. Average earning assets increased from $777.9 million in the quarter ended September 30, 2002 to $867.2 million in the quarter ended September 30, 2003.

INTEREST EXPENSE

Total interest expense decreased $695,000 from $3.8 million for the three months ended September 30, 2002 to $3.1 million for the three months ended September 30, 2003. Interest expense decreased as the impact of the increased balances was offset by significantly decreased costs of deposits and short-term borrowings.

Interest-bearing liability rates for the quarter ended September 30, 2003 decreased to 1.74% from the 2.32% cost for the quarter ended September 30, 2002. Average interest-bearing liabilities increased from $655.5 million in the quarter ended September 30, 2002 to $711.8 million in the quarter ended September 30, 2003.

NET INTEREST INCOME

Net interest income before provision for loan losses was $8.7 million for the three months ended September 30, 2003 and $8.7 million for the three months ended September 30, 2002.

The interest rate spread for the quarter ended September 30, 2003 was 3.66%, a decrease of 44 basis points from the 4.10% interest rate spread for the quarter ended September 30, 2002. The decrease in the interest rate spread was primarily due to the average rate on interest-bearing liabilities repricing downward at a slower rate than the average yield on interest-earning assets.

ASSET QUALITY AND PROVISION FOR LOAN LOSSES

For the three months ended September 30, 2003 management recorded $450,000 as a provision for loan losses. Management also made a $450,000 provision for loan losses for the quarter ended September 30, 2002. BancShares recorded the 2003 provision for loan losses due to loan growth, the continued overall weakness of the economy and the increased charge-offs for the quarter ended September 30, 2003.

During the three months ended September 30, 2003 management charged-off loans totaling $208,000 and received recoveries of $98,000, resulting in $110,000 of net charge-offs for the three months ended September 30, 2003. During the three months ended September 30, 2002, $137,000 in loans were charged-off and recoveries of $114,000 were received, resulting in net charge-offs of $23,000 for the three months ended September 30, 2002.

NONINTEREST INCOME

During the three months ended September 30, 2003, BancShares’ noninterest income increased $189,000 principally as a result of increased service charges and fees. Service charges on deposit accounts for the three months ended September 30, 2003 increased $295,000 and other service charges and fees for the three months ended September 30, 2003 increased $124,000 over the three months ended September 30, 2002 primarily as a result of growth within the existing branches, the acquisition of a branch in October 2002 and a new branch that opened in February 2003.

NONINTEREST EXPENSE

Noninterest expense including personnel, occupancy, furniture and equipment, data processing, FDIC insurance, state assessments, printing, supplies and other expenses, increased $1.3 million or 18.27%, from $7.3 million in the three months ended September 30, 2002 to $8.7 million in the three months ended September 30, 2003.

This increase was primarily due to an increase in personnel expense of $569,000, or 15.21%, from $3.7 million for the quarter ended September 30, 2002 to $4.3 million for the quarter ended September 30, 2003 and increased occupancy, furniture and equipment expense and other expenses resulting principally from the growth within the existing branches, the October 2002 branch acquisition and new branch that opened in February 2003.

INCOME TAXES

In the three months ended September 30, 2003, BancShares had income tax expense of $864,000, a decrease of $287,000 from $1.2 million in the prior year quarter. This decrease is due to decreased earnings as the estimated effective tax rate increased to 33.01% for the quarter ended September 30, 2003 compared to 30.27% for the quarter ended September 30, 2002. The effective tax rates for the quarters ended September 30, 2003 of 33.01% and September 30, 2002 of 30.27% differ from the federal statutory rate of 34.00% primarily due to the relative proportion of tax exempt income.

SHAREHOLDERS’ EQUITY AND CAPITAL ADEQUACY

Sufficient levels of capital are necessary to sustain growth and absorb losses. Southern Capital Trust I (the “Trust”), a statutory business trust issued $23.0 million of 8.25% Capital Securities (“the Capital Securities”) in June 1998 maturing in 2028. The Trust invested the $23.0 million proceeds in Junior Subordinated Debentures issued by BancShares (the “Junior Debentures”), which upon consolidation of BancShares are eliminated. The Junior Debentures are the primary assets of the Trust. BancShares irrevocably and unconditionally guarantees the Trust’s obligations.

BancShares contributed Capital Securities proceeds of $12.0 million to Southern which are included in Tier I capital for Southern’s regulatory capital adequacy requirements. BancShares has similar regulatory capital adequacy requirements and is in compliance with those capital adequacy requirements at September 30, 2003.

The Federal Reserve Board, which regulates BancShares, and the Federal Deposit Insurance Corporation, which regulates Southern, have established minimum capital guidelines for the institutions they supervise.

Regulatory guidelines define minimum requirements for Southern’s leverage capital ratio. Leverage capital equals total equity less goodwill and certain other intangibles and is measured relative to total adjusted assets as defined by regulatory guidelines. According to these guidelines, Southern’s leverage capital ratio at September 30, 2003 was 7.99%. At December 31, 2002, Southern’s leverage capital ratio was 7.67%. Both of these ratios exceed the minimum threshold designated as “well capitalized” by the FDIC.

Southern is also required to meet minimum requirements for Risk Based Capital (“RBC”). Southern’s assets, including loan commitments and other off-balance sheet items, are weighted according to federal guidelines for the risk considered inherent in each asset. At September 30, 2003, Southern’s Total RBC ratio was 12.83%. At December 31, 2002 the RBC ratio was 12.44%. Both of these ratios exceed the minimum threshold designated as “well capitalized” by the FDIC.

The regulatory capital ratios above reflect increases in assets and liabilities from acquisitions Southern has made. Each acquisition has resulted in BancShares recording intangible assets in its consolidated financial statements, which are deducted from total equity in the above ratio calculations.

Accumulated other comprehensive income was $13.8 million at September 30, 2003 compared to $11.8 million at December 31, 2002. Accumulated other comprehensive income consists principally of unrealized gains on securities available-for-sale, net of taxes. Although a part of total shareholders’ equity, accumulated other comprehensive income is not included in the calculation of either the RBC or leverage capital ratios pursuant to regulatory definitions of these capital requirements. The following table presents capital adequacy calculations and ratios of Southern:

(Dollars in thousands)	September 30, 2003
Tier 1 capital	$	73,527
Total capital		85,743
Risk-adjusted assets		668,159
Average tangible assets		920,453

Tier 1 capital ratio (1)		11.00	%
Total capital ratio (1)		12.83	%
Leverage capital ratio (1)		7.99	%

(1)	These ratios exceed the minimum ratios required for a bank to be classified as “well capitalized” as defined by the FDIC.

LIQUIDITY

Liquidity refers to the ability of Southern to generate sufficient funds to meet its financial obligations and commitments at a reasonable cost. Maintaining liquidity ensures that funds will be available for reserve requirements, customer demand for loans, withdrawal of deposit balances and maturities of other deposits and liabilities. Past experiences help management anticipate cyclical demands and amounts of cash required. These obligations can be met by existing cash reserves or funds from maturing loans and investments, but in the normal course of business are met by deposit growth.

In assessing liquidity, many relevant factors are considered, including stability of deposits, quality of assets, economy of the markets served, business concentrations, competition and BancShares’ overall financial condition. BancShares’ liquid assets include cash and due from banks, overnight funds sold and investment securities available-for-sale. The liquidity ratio, which is defined as cash plus short term available-for-sale securities divided by deposits plus short term liabilities, was 24.84% at September 30, 2003 and 22.66% at December 31, 2002.

The Statement of Cash Flows discloses the principal sources and uses of cash from operating, investing and financing activities for the nine months ended September 30, 2003 and for the nine months ended September 30, 2002. Southern has no brokered deposits. Jumbo time deposits are considered to include all time deposits of $100,000 or more. Almost all jumbo time deposit customers have other relationships with Southern, including savings, demand and other time deposits, and in some cases, loans. At September 30, 2003 jumbo time deposits represented 14.95% of total deposits. At December 31, 2002 jumbo time deposits represented 14.07% of total deposits.

Management believes that BancShares has the ability to generate sufficient amounts of cash to cover normal requirements and any additional needs which may arise, within realistic limitations, and management is not aware of any known demands, commitments or uncertainties that will affect liquidity in a material way.

BancShares has obligations under existing contractual obligations that will require payments in future periods. The following table presents aggregated information about such payments to be made in future periods. Transaction deposit accounts with indeterminate maturities have been classified as having payments due in less than one year.

CONTRACTUAL OBLIGATIONS

As of September 30, 2003

(In thousands)

	Payments due by period
	Less than 1 year		1-3 years		4-5 years		Over 5 years		Total
Deposits	$	729,429	$	64,679	$	41,559		—	$	835,667
Short-term borrowings		17,092		—		—		—		17,092
Long-term obligations		—		—		—		23,000		23,000
Lease obligations		53		48		22		—		123

Total contractual obligations	$	746,574	$	64,727	$	41,581	$	23,000	$	875,882

ACCOUNTING AND OTHER MATTERS

In October 2002, the Financial Accounting Standards Board (“FASB”) issued Statement on Financial Accounting Standards No. 147 “Acquisitions of Certain Financial Institutions,” (Statement 147), which brings all business combinations involving financial institutions, except mutuals, into the scope of Statement 141, “Business Combinations.” Statement 147 requires that all acquisitions of financial institutions that meet the definition of a business, including acquisitions of part of a financial institution that meet the definition of a business, must be accounted for in accordance with Statement 141 and the related intangibles accounted for in accordance with Statement 142, “Goodwill and Other Intangible Assets.” Statement 147 removes such acquisitions from the scope of Statement 72, which was adopted in February 1983 to address financial institutions’ acquisitions during a period when many of such acquisitions involved “troubled” institutions. Statement 147 also amends Statement 144, “Accounting for the Impairment or Disposal of Long-Lived Assets” (see below) to include in its scope long-term customer-relationship intangible assets of financial institutions. Statement 147 is generally effective immediately and provides guidance with respect to amortization and impairment of intangibles recognized in connection with acquisitions previously within the scope of Statement 72. BancShares adopted Statement 147 during the fourth quarter of 2002, but effective as of January 1, 2002. BancShares restated its previously issued 2002 interim consolidated financial statements (including separate quarterly results) to remove the effects of amortization of intangibles previously recorded under Statement 72 in the first three quarters of the 2002 fiscal year. BancShares determined that, upon adoption of Statement 147 as of January 1, 2002, BancShares had $5.5 million of goodwill that would no longer be amortized beginning in 2002. The amortization expense associated with this goodwill during 2001 was $1.6 million. In accordance with Statement 147, BancShares performed a transitional impairment test of this goodwill in the first six months of 2002, an annual impairment test in the last six months of 2002 and will perform an annual impairment test of the goodwill in 2003 and thereafter.

In June 2002, the FASB issued Statement of Financial Accounting Standards No. 146 “Accounting for Costs Associated with Exit or Disposal Activities” (Statement 146), which addresses financial accounting and reporting for costs associated with exit or disposal activities and nullifies Emerging Issues Task Force (EITF) Issue No. 94-3, “Liability Recognition for Certain Employee Termination Benefits and Other Costs to Exit an Activity (including Certain Costs Incurred in a Restructuring).” This Statement applies to costs associated with an exit activity that does not involve an entity newly acquired in a business combination or with a disposal activity covered by FASB Statement No. 144, “Accounting for the Impairment or Disposal of Long-Lived Assets.” Those costs include, but are not limited to, the following: a) termination benefits provided to current employees that are involuntarily terminated under the terms of a benefit arrangement that, in substance, is not an ongoing benefit arrangement or an individual deferred compensation contract (hereinafter referred to as one-time termination benefits), b) costs to terminate a contract that is not a capital lease and c) costs to consolidate facilities or relocate employees. This Statement does not apply to costs associated with the retirement of a long-lived asset covered by FASB Statement No. 143, “Accounting for Asset Retirement Obligations.” A liability for a cost associated with an exit or disposal activity shall be recognized and measured initially at its fair value in the period in which the liability is incurred. A liability for a cost associated with an exit or disposal activity is incurred when the definition of a liability in Statements of Financial Accounting Concepts No. 6, Elements of Financial Statements, is met. The provisions of this Statement are effective for exit or disposal activities that are initiated after December 31, 2002, with early application encouraged. BancShares adopted this statement effective January 1, 2003 with no material impact on its consolidated financial statements.

In November 2002, the FASB issued Financial Interpretation No. 45 (“FIN 45”), “Guarantor’s Accounting and Disclosure Requirements for Guarantees, Including Indirect Guarantees of Indebtedness of Others,” which addresses the disclosure to be made by a guarantor in its interim and annual financial statements about its obligations under guarantees. FIN 45 requires the guarantor to recognize a liability for the non-contingent component of the guarantee, such as the obligation to stand ready to perform in the event that specified triggering events or conditions occur. The initial measurement of this liability is the fair value of the guarantee at inception. The recognition of the liability is required even if it is not probable that payments will be required under the guarantee or if the guarantee was issued with a premium payment or as part of a transaction with multiple elements. The disclosure requirements are effective for interim and annual financial statements ending after December 15, 2002. The initial recognition and measurement provisions are effective for all guarantees within the scope of FIN 45 issued or modified after December 31, 2002. Southern issues standby letters of credit whereby Southern guarantees performance if a specified triggering event or condition occurs. The guarantees generally expire within one year and may be automatically renewed depending on the terms of the guarantee. The maximum potential amount of undiscounted future payments related to standby letters of credit at September 30, 2003 is $3.9 million. At September 30, 2003, BancShares has recorded no liability for the current carrying amount of the standby letter obligations to perform as a guarantor, as such amounts are deemed immaterial.

The above potential changes would not have a material impact on BancShares consolidated financial statements.

In December 2002, the FASB issued Statement of Financial Accounting Standards No. 148, “Accounting for Stock-Based Compensation – Transition and Disclosure” (“Statement 148”), an amendment of FASB Statement No. 123, “Accounting for Stock-Based Compensation” (“Statement 123”), which provides alternative methods of transition for a voluntary change to the fair value based method of accounting for stock-based employee compensation. In addition, Statement 148 amends the disclosure requirements of Statement 123 to require prominent disclosures in both annual and interim financial statements about the method of accounting for stock-based employee compensation and the effect of the method used on reported results. The transition provisions of the statement are effective for financial statements for fiscal years ending after December 15, 2002 while the disclosure requirements are effective for interim periods beginning after December 15, 2002, with early application encouraged. At September 30, 2003, BancShares had no stock-based compensation plans and therefore the adoption of Statement 148 does not impact BancShares’ consolidated financial statements.

In April 2003, the FASB issued Statement of Financial Accounting Standards No. 149 (Statement 149), “Amendment of Statement 133 on Derivative Instruments and Hedging Activities,” which amends and clarifies financial accounting and reporting for derivative instruments and for hedging activities under Statement of Financial Accounting Standards No. 133 (Statement 133). All provisions of this Statement should be applied prospectively, except as defined in Statement 149. Adoption of Statement 149 on July 1, 2003 did not have a material effect on BancShares’ consolidated financial statements.

In May 2003, the FASB issued Statement of Financial Accounting Standards No. 150 (Statement 150), “Accounting for Certain Financial Instruments with Characteristics of both Liabilities and Equity”, which establishes standards for how an issuer classifies and measures certain financial instruments with characteristics of both liabilities and equity. It requires that an issuer classify a financial instrument that is within its scope as a liability (or an asset in some circumstances). This Statement is effective for financial instruments entered into or modified after May 31, 2003, and otherwise is effective at the beginning of the first interim period beginning after June 15, 2003. It is to be implemented by reporting the cumulative effect of a change in accounting principle for financial instruments created before the issuance date of the Statement and still existing at the beginning of the interim period of adoption. Adoption of Statement 150 on July 1, 2003 did not have a material effect on BancShares’ consolidated financial statements.

The FASB also issues exposure drafts for proposed statements of financial accounting standards. Such exposure drafts are subject to comment from the public, to revisions by the FASB and to final issuance by the FASB as statements of financial accounting standards. Management considers the effect of the proposed statements on the consolidated financial statements of BancShares and monitors the status of changes to issued exposure drafts and to proposed effective dates.

OTHER MATTERS

BancShares purchased an existing RBC Centura Branch in Norlina, North Carolina on October 24, 2003. This purchase increased BancShares’ deposits by $18.4 million, increased BancShares’ cash by $15.2 million and increased BancShares’ loans by $1.2 million. BancShares paid $1.9 million for this purchase.

BancShares has received regulatory approval to open a denovo Branch in Manteo, North Carolina. This Branch is expected to open in the first quarter of 2004.

Management is not aware of any other trends, events, uncertainties or current recommendations by regulatory authorities that will have or that are reasonably likely to have a material effect on BancShares’ liquidity, capital resources or other operations.

Item 3 – Quantitative and Qualitative Disclosures About Market Risk:

Market risk reflects the risk of economic loss resulting from adverse changes in market price and interest rates. This risk of loss can be reflected in either diminished current market values or reduced potential net interest income in future periods. BancShares’ market risk arises primarily from interest rate risk inherent in its lending and deposit taking activities. The structure of BancShares’ loan and deposit portfolios is such that a significant increase in the prime rate may adversely impact net interest income. Historical prepayment experience is considered as well as management’s expectations based on the interest rate environment as of September 30, 2003. Management seeks to manage this risk through the use of shorter term maturities. The composition and size of the investment portfolio is managed so as to reduce the interest rate risk in the deposit and loan portfolios while at the same time maximizing the yield generated from the investment portfolio.

The table below presents in tabular form the contractual balances and the estimated fair value of financial instruments at their expected maturity dates as of September 30, 2003. The expected maturity categories take into consideration historical prepayment experience as well as management’s expectations based on the interest rate environment as of September 30, 2003. For core deposits without contractual maturity (i.e., interest bearing checking, savings and money market accounts), the table presents principal cash flows as maturing in 2004 since they are subject to immediate repricing. Weighted average variable rates in future periods are based on the implied forward rates in the yield curve as of September 30, 2003. Overall loan and deposit balance maturities are shorter at September 30, 2003 and overall rates have declined significantly, primarily as a result of market conditions and management’s responses thereto.

	Maturing in the years ended September 30
(Dollars in thousands, unaudited)	2004			2005			2006			2007			2008			Thereafter			Total			Fair Value
Assets
Loans
Fixed rate	$	138,307		$	14,891		$	22,335		$	72,821		$	24,273		$	63,657		$	336,284		$	332,275
Average rate (%)		7.60	%		7.59	%		7.55	%		7.15	%		7.01	%		6.51	%		7.37	%

Variable rate	$	129,042		$	36,787		$	33,193		$	45,482		$	40,766		$	21,032		$	306,302		$	306,302
Average rate (%)		5.21	%		5.29	%		5.20	%		5.52	%		4.73	%		3.66	%		5.10	%

Investment securities
Fixed rate	$	81,601		$	50,885		$	1,583		$	898		$	920		$	31,579		$	167,466		$	191,040
Average rate (%)		2.72	%		1.69	%		8.21	%		8.09	%		7.97	%		5.47	%		3.04	%

Liabilities
Savings and interest bearing checking

Fixed rate	$	280,631			—			—			—			—			—		$	280,631		$	280,631
Average rate (%)		0.53	%		—			—			—			—			—			0.53	%

Certificates of deposit
Fixed rate	$	285,236		$	47,000		$	15,666		$	41,559			—			—		$	389,461		$	393,909
Average rate (%)		1.81	%		2.93	%		3.23	%		3.90	%		—			—			2.22	%

Variable rate	$	4,080		$	2,013			—			—			—			—		$	6,093		$	6,093
Average rate (%)		0.93	%		1.00	%		—			—			—			—			0.96	%

Short-term debt

Variable rate	$	17,092			—			—			—			—			—		$	17,092		$	17,092
Average rate (%)		0.69	%		—			—			—			—			—			0.69	%

Long-term debt

Fixed rate		—			—			—			—			—			23,000		$	23,000		$	24,150
Average rate (%)		—			—			—			—			—			8.25	%		8.25	%

A principal objective of BancShares’ asset/liability function is to manage interest rate risk or the exposure to changes in interest rates. Management maintains portfolios of interest-earning assets and interest-bearing liabilities with maturities or repricing opportunities that will protect against wide interest rate fluctuations, thereby limiting, to the extent possible, the ultimate interest rate exposure. The table below provides BancShares’ interest-sensitivity position as of September 30, 2003, which reflected a one year negative interest-sensitivity gap of $177.2 million. As a result of this one year negative gap, increases in interest rates could have an unfavorable impact on net interest income. It should be noted that this analysis reflects BancShares’ interest sensitivity as of a single point in time and may not reflect the effects of repricings of assets and liabilities in various interest rate environments. The overall one-year negative interest sensitivity of financial instruments is significantly lower at September 30, 2003 as compared to December 31, 2002 as a result of deposit customers, in anticipation of higher rates, continuing to invest in primarily short term deposits. The total cumulative negative interest sensitivity gap has also decreased at September 30, 2003 as compared to December 31, 2002.

INTEREST-SENSITIVITY ANALYSIS

	September 30, 2003
(Dollars in thousands, unaudited)	1-90 Days Sensitive			91-180 Days Sensitive			181-365 Days Sensitive			Non-Rate Sensitive & Over 1 year		Total
Earning Assets:
Loans	$	178,745		$	71,156		$	17,448		$	375,237	$	642,586
Investment securities		20,854			18,556			42,191			108,424		190,025
Temporary investments		60,873			—			—			—		60,873

Total earning assets	$	260,472		$	89,712		$	59,639		$	483,661	$	893,484


Interest-Bearing Liabilities:
Savings and core time deposits	$	364,316		$	52,000		$	54,449		$	80,487	$	551,252

Time deposits of $100,000 and more		51,197			26,094			21,891			25,751		124,933

Short-term borrowings		17,092			—			—			—		17,092
Long-term obligations		—			—			—			23,000		23,000

Total interest-bearing liabilities	$	432,605		$	78,094		$	76,340		$	129,238	$	716,277


Interest sensitivity gap	$	(172,133	)	$	11,618		$	(16,701	)	$	354,423	$	177,207


Cumulative interest sensitivity gap	$	(172,133	)	$	(160,515	)	$	(177,216	)	$	177,207	$	177,207

FORWARD-LOOKING STATEMENTS

The foregoing discussion may contain statements that could be deemed forward-looking statements within the meaning of Section 21E of the Securities Exchange Act of 1934 and the Private Securities Litigation Reform Act. Forward-looking statements are inherently subject to risks and uncertainties because they include projections, predictions, expectations or beliefs about future events or results that are not statements of historical fact. Such statements are often characterized by the use of qualifiers such as “expect,” “believe,” “estimate,” “plan,” “project” or other statements concerning opinions or judgments of BancShares and its management about future events. Factors that could influence the accuracy of such forward-looking statements include, but are not limited to, the financial success or changing strategies of BancShares’ customers, actions of government regulators, the level of market interest rates, and general economic conditions.

Item 4 – Disclosure controls and procedures:

During the 90-day period prior to the filing date of this report, management, including BancShares Chief Executive Officer and Chief Financial Officer, evaluated the effectiveness of the design and operation of BancShares’ disclosure controls and procedures. As of the date of that evaluation, the Chief Executive Officer and the Chief Financial Officer concluded that the disclosure controls and procedures were effective, in all material respects, to ensure that the information required to be disclosed in the reports BancShares files and submits under the Securities Exchange Act of 1934 is recorded, processed, summarized and reported within the time periods required.

There have been no significant changes in BancShares’ internal controls or in other factors which could significantly affect internal controls subsequent to the date BancShares carried out its evaluation. There were no significant deficiencies or material weaknesses identified in the evaluation and therefore, no corrective actions were taken.

Part II – OTHER INFORMATION

Item 6 – Exhibits and Reports on Form 8K:


a.	The following exhibits are incorporated by reference to Form 10-K:

	3.1	Certificate of Incorporation and Certificate of Amendment to the Certificate of Incorporation of the Registrant (filed as exhibit 3.1 to the Registrant’s Registration Statement on Form S-1 (No. 33-52107) filed May 7, 1998 and incorporated herein by reference)

	3.2	Registrant’s Bylaws (filed as exhibit 3.2 to the Registrant’s Registration Statement on FormS-1 (No.33-52107) filed May 7, 1998 and incorporated herein by reference)

	4.1	Southern Bank and Trust Company Indenture dated February 27, 1971 (filed as exhibit 4 to the Registrant’s Registration Statement on Form S-14 (No. 2-78327) filed July 7, 1982 and incorporated herein by reference)

b.	31	Certifications pursuant to Section 302

c.	32	Certification pursuant to Section 906

d.		No reports on Form 8-K were filed during this period.

SIGNATURES

Pursuant to the requirements of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized.

SOUTHERN BANCSHARES (N.C.), INC.

November 4, 2003

/s/ John C. Pegram, Jr.

Date

John C. Pegram, Jr.,

President and Chief Executive Officer

November 4, 2003

/s/ David A. Bean

Date

David A. Bean,

Secretary, Treasurer and Chief Financial Officer