Annual Statements Open main menu

UWHARRIE CAPITAL CORP - Quarter Report: 2006 March (Form 10-Q)

Form 10-Q
Table of Contents

UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

WASHINGTON, D.C. 20549

 


FORM 10-Q

 


 

x QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

For the quarterly period ended March 31, 2006

OR

 

¨ TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

For the transition period from              to             .

COMMISSION FILE NUMBER 000-22062

 


UWHARRIE CAPITAL CORP

(Exact name of registrant as specified in its charter)

 


 

NORTH CAROLINA   56-1814206

(State or Other Jurisdiction of

Incorporation or Organization)

 

(I.R.S. Employer

Identification No.)

132 NORTH FIRST STREET

ALBEMARLE, NORTH CAROLINA

  28001
(Address of Principal Executive Offices)   (Zip Code)

Registrant’s Telephone number, including area code: (704) 983-6181

N/A

(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.    x  Yes    ¨  No

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, or a non-accelerated filer. See definition of “accelerated filer and large accelerated filer” in Rule 12b-2 of the Exchange Act. (Check one):

Large accelerated filer  ¨    Accelerated filer  ¨    Non-accelerated filer  x

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Act).    ¨  Yes    x  No

Indicate the number of shares outstanding of each of the registrant’s classes of common stock as of the latest practicable date. 7,204,419 shares of common stock outstanding as of May 5, 2006.

 



Table of Contents

Table of Contents

 

          Page No.
Part I.   FINANCIAL INFORMATION   
Item 1 -   Financial Statements (Unaudited)   
 

Consolidated Balance Sheets March 31, 2006 and December 31, 2005

   3
 

Consolidated Statements of Operations for the Three Months Ended March 31, 2006 and 2005

   4
 

Consolidated Statements of Changes in Shareholders’ Equity Three Months Ended March 31, 2006

   5
 

Consolidated Statements of Cash Flows Three Months Ended March 31, 2006 and 2005

   6
 

Notes to Consolidated Financial Statements

   7
Item 2 -   Management’s Discussion and Analysis of Financial Condition and Results of Operations    12
Item 3 -   Quantitative and Qualitative Disclosures about Market Risk    18
Item 4 -   Controls and Procedures    18
Part II.   OTHER INFORMATION   
Item 1 -   Legal Proceedings    19
Item 1A -   Risk Factors    19
Item 2 -   Unregistered Sales of Equity Securities and Use of Proceeds    19
Item 3 -   Defaults Upon Senior Securities    19
Item 4 -   Submission of Matters to a Vote of Security Holders    19
Item 5 -   Other Information    19
Item 6 -   Exhibits    19

 

-2-


Table of Contents

Uwharrie Capital Corp and Subsidiaries

Consolidated Balance Sheets

Part I. FINANCIAL INFORMATION

Item 1 - Financial Statements

 

    

March 31,

2006

    December 31,
2005*
 
     (Unaudited)        

ASSETS

    

Cash and due from banks

   $ 11,206,753     $ 11,438,743  

Interest-earning deposits with banks

     1,445,972       3,729,940  

Federal funds sold

     175,000       6,200,000  

Securities available for sale, at fair value

     33,397,602       35,015,878  

Loans

     288,721,353       276,195,875  

Less allowance for loan losses

     (4,563,665 )     (4,482,304 )
                

Net loans

     284,157,688       271,713,571  
                

Premises and equipment, net

     8,324,612       8,432,296  

Interest receivable

     1,651,492       1,525,366  

Federal Home Loan Bank stock

     2,115,200       2,072,200  

Bank owned life insurance

     4,989,317       4,948,772  

Goodwill

     987,436       987,436  

Other assets

     4,563,451       4,125,663  
                

Total assets

   $ 353,014,523     $ 350,189,865  
                

LIABILITIES

    

Deposits:

    

Demand noninterest-bearing

   $ 48,626,404     $ 47,279,515  

Interest checking and money market accounts

     83,780,066       83,679,745  

Savings deposits

     34,514,647       36,689,516  

Time deposits, $100,000 and over

     33,817,365       38,881,451  

Other time deposits

     68,543,382       67,445,605  
                

Total deposits

     269,281,864       273,975,832  
                

Short-term borrowed funds

     15,480,065       7,903,628  

Long-term debt

     38,701,435       39,103,025  

Interest payable

     338,049       368,850  

Other liabilities

     1,487,062       1,385,754  
                

Total liabilities

     325,288,475       322,737,089  
                

Off balance sheet items, commitments and contingencies (Note 6)

    

SHAREHOLDERS’ EQUITY

    

Common stock, $1.25 par value: 20,000,000 shares authorized; shares issued and outstanding 7,150,963 and 7,138,686 shares, respectively

     8,938,704       8,923,357  

Additional paid-in capital

     12,448,690       12,409,663  

Unearned ESOP compensation

     (900,359 )     (914,088 )

Undivided profits

     7,131,160       6,705,568  

Accumulated other comprehensive income

     107,853       328,276  
                

Total shareholders’ equity

     27,726,048       27,452,776  
                

Total liabilities and shareholders’ equity

   $ 353,014,523     $ 350,189,865  
                

(*) Derived from audited consolidated financial statements

See accompanying notes

 

-3-


Table of Contents

Uwharrie Capital Corp and Subsidiaries

Consolidated Statements of Operations (Unaudited)

 

    

Three Months Ended

March,

     2006    2005

Interest Income

     

Loans, including fees

   $ 4,991,758    $ 4,017,110

Investment securities

     

US Treasury

     24,242      24,242

US Government agencies and corporations

     181,983      126,432

State and political subdivisions

     178,750      159,723

Other

     55,891      35,157

Interest-earning deposits with banks and federal funds sold

     43,981      45,322
             

Total Interest income

     5,476,605      4,407,986
             

Interest Expense

     

Time deposits, $100,000 and over

     352,338      239,032

Other interest-bearing deposits

     1,251,519      601,227

Short-term borrowed funds

     100,042      84,846

Long-term debt

     467,188      434,182
             

Total interest expense

     2,171,087      1,359,287
             

Net interest income

     3,305,518      3,048,699

Provision for loan losses

     145,500      215,000
             

Net interest income after provision for loan losses

     3,160,018      2,833,699
             

Noninterest Income

     

Service charges on deposit accounts

     469,749      361,516

Other service fees and commissions

     519,708      426,123

Gain on sale of securities

     —        3,960

Income from mortgage loan sales

     185,426      177,849

Other income

     86,241      78,012
             

Total noninterest income

     1,261,124      1,047,460
             

Noninterest Expense

     

Salaries and employee benefits

     2,248,037      1,925,996

Net occupancy expense

     187,707      153,695

Equipment expense

     156,503      166,274

Data processing costs

     199,920      205,187

Other noninterest expense

     1,063,819      973,823
             

Total noninterest expenses

     3,855,986      3,424,975
             

Income before taxes

     565,156      456,184

Income taxes

     139,564      116,350
             

Net income

   $ 425,592    $ 339,834
             

Net income per common share

     

Basic

   $ 0.06    $ 0.05
             

Diluted

   $ 0.06    $ 0.05
             

Weighted average shares outstanding

     

Basic

     6,978,664      7,077,612

Diluted

     7,111,983      7,267,143

See accompanying notes

 

-4-


Table of Contents

Uwharrie Capital Corp and Subsidiaries

Consolidated Statement of Changes in Shareholders’ Equity

 

     Common Stock    Additional
Paid-in
Capital
   Unearned
ESOP
Compensation
    Undivided
Profits
   Accumulated
Other
Comprehensive
Income
    Total  
     Shares    Amount             

Balance, January 1, 2006

   7,138,686    $ 8,923,357    $ 12,409,663    $ (914,088 )   $ 6,705,568    $ 328,276     $ 27,452,776  

Net income

   —        —        —        —         425,592      —         425,592  

Other comprehensive loss

   —        —        —        —         —        (220,423 )     (220,423 )

Release of ESOP shares

   —        —        9,799      13,729       —        —         23,528  

Common stock issued pursuant to:

                  

Stock options exercised

   12,277      15,347      12,350      —         —        —         27,697  

Stock option compensation expense

   —        —        16,878      —         —        —         16,878  
                                                  

Balance, March 31, 2006

   7,150,963    $ 8,938,704    $ 12,448,690    $ (900,359 )   $ 7,131,160    $ 107,853     $ 27,726,048  
                                                  

See accompanying notes

 

-5-


Table of Contents

Uwharrie Capital Corp and Subsidiaries

Consolidated Statements of Cash Flows (Unaudited)

 

    

Three Months ended

March 31,

 
     2006     2005  

Cash flows from operating activities

    

Net income

   $ 425,592     $ 339,834  

Adjustments to reconcile net income to net cash Provided (used) by operating activities:

    

Depreciation

     157,107       160,430  

Net amortization of security premiums/discounts

     (13,016 )     6,270  

Provision for loan losses

     145,500       215,000  

Net realized loss (gain) on available for sale securities

     —         (3,960 )

Income from mortgage loan sales

     (185,426 )     (177,849 )

Proceeds from sales of loans held for sale

     10,600,358       11,301,032  

Origination of loans held for sale

     (12,884,792 )     (12,297,137 )

Gain on sale of premises, equipment and other assets

     —         (158 )

Increase in cash surrender value of life insurance

     (40,545 )     (39,750 )

Release of ESOP shares

     23,528       —    

Stock option expense

     16,878       —    

Net change in interest receivable

     (126,126 )     (159,630 )

Net change in other assets

     (213,444 )     (188,003 )

Net change in interest payable

     (30,801 )     30,465  

Net change in other liabilities

     101,309       65,384  
                

Net cash provided (used) by operating activities

     (2,023,878 )     (748,072 )
                

Cash flows from investing activities

    

Proceeds from sales, maturities and calls of securities available for sale

     2,658,493       303,592  

Purchase of securities available for sale

     (1,385,939 )     —    

Net(increase) decrease in Federal Home Loan Bank stock

     (43,000 )     95,976  

Net (increase) decrease in loans

     (10,205,787 )     (1,359,486 )

Proceeds from sale of premises, equipment and other assets

     —         650  

Purchase of premises and equipment

     (49,423 )     (141,694 )
                

Net cash used in investing activities

     (9,025,656 )     (1,100,962 )
                

Cash flows from financing activities

    

Net increase (decrease) in deposit accounts

     (4,693,968 )     386,894  

Net increase (decrease) in short-term borrowed funds

     7,576,437       (3,013,394 )

Net increase (decrease) in long-term debt

     (401,590 )     (401,497 )

Repurchases of common stock

     —         (352,854 )

Net proceeds from issuance of common stock

     27,697       112,327  
                

Net cash provided (used) by financing activities

     2,508,576       (3,268,524 )
                

Decrease in cash and cash equivalents

     (8,540,958 )     (5,117,558 )
                

Cash and cash equivalents, beginning of period

     21,368,683       19,574,769  
                

Cash and cash equivalents, end of period

   $ 12,827,725     $ 14,457,211  
                

 

-6-


Table of Contents

UWHARRIE CAPITAL CORP AND SUBSIDIARIES

Notes to Consolidated Financial Statements (Unaudited)

Note 1 - Basis of Presentation

The financial statements and accompanying notes are presented on a consolidated basis including Uwharrie Capital Corp (the “Company”), its subsidiaries, Bank of Stanly (“Stanly”), Anson Bank & Trust Co. (“Anson”), Cabarrus Bank & Trust Company (“Cabarrus”), Strategic Investment Advisors, Inc., (“SIA”), and Uwharrie Mortgage Inc. Stanly consolidates its subsidiaries, the Strategic Alliance Corporation, BOS Agency, Inc. and Gateway Mortgage, Inc., each of which is wholly-owned by Stanly.

The information contained in the consolidated financial statements is unaudited. In the opinion of management, the consolidated financial statements have been prepared in conformity with accounting principles generally accepted in the United States of America and material adjustments necessary for a fair presentation of results of interim periods, all of which are of a normal recurring nature, have been made. The results of operations for the interim periods are not necessarily indicative of the results that may be expected for an entire year. Management is not aware of economic events, outside influences or changes in concentrations of business that would require additional clarification or disclosure in the consolidated financial statements. Certain prior period amounts have been reclassified to conform to current period classifications. These reclassifications had no effect on net income or shareholders’ equity as previously reported.

The organization and business of the Company, accounting policies followed by the Company and other information are contained in the notes to consolidated financial statements filed as part of the Company’s 2005 annual report on Form 10-K. This quarterly report should be read in conjunction with such annual report.

Note 2 – Comprehensive Income

Accounting principles generally require that recognized revenue, expenses, gains and losses be included in net income. Although certain changes in assets and liabilities, such as unrealized gains and losses on available for sale securities, are reported as a separate component of the equity section of the balance sheet, such items, along with net income, are components of comprehensive income.

 

     Three months ended
March 31,
 

(in thousands)

 

   2006     2005  

Net Income

   $ 426     $ 340  
                

Other comprehensive loss

    

Unrealized losses on available for sale securities

     (358 )     (510 )

Related tax effect

     138       196  

Reclassification of gains recognized in net income

     —         (4 )

Related tax effect

     —         2  
                

Total other comprehensive loss

     (220 )     (316 )
                

Comprehensive income

   $ 206     $ 24  
                

 

-7-


Table of Contents

Note 3 – Per Share Data

Basic and diluted net income per common share is computed based on the weighted average number of shares outstanding during each period after retroactively adjusting for stock dividends. Diluted net income per common share reflects the potential dilution that could occur if securities or other contracts to issue common stock were exercised or converted into common stock or resulted in the issuance of common stock that then shared in the net income of the Company.

Basic and diluted net income per common share have been computed based upon net income as presented in the accompanying consolidated statements of operations divided by the weighted average number of common shares outstanding or assumed to be outstanding.

On September 20, 2005, the Company’s Board of Directors declared a 3% stock dividend payable on November 14, 2005 to shareholders of record on October 20, 2005. All information presented in the accompanying interim consolidated financial statements regarding earnings per share and weighted average number of shares outstanding has been computed giving effect to this stock dividend.

Note 4 – Loans

 

Loans outstanding at period end:

(in thousands)

   March 31,
2006
    December 31,
2005
 

Commercial

   $ 36,856     $ 37,299  

Real estate-construction

     25,729       21,206  

Real estate-residential

     116,537       116,926  

Real estate-commercial

     92,823       83,861  

Consumer loans

     13,072       13,479  

Loans held for sale

     3,625       3,353  

All other loans

     79       72  
                

Total

   $ 288,721     $ 276,196  
                

Analysis of the allowance for loan losses:

(in thousands)

  

Three months ended

March 31,

 
   2006     2005  

Balance at beginning of period

   $ 4,482     $ 4,983  

Provision charged to operations

     146       215  

Charge-offs

     (74 )     (220 )

Recoveries

     10       10  
                

Net charge-offs

     (64 )     (210 )
                

Balance at end of period

   $ 4,564     $ 4,988  
                

Note 5 – Stock-Based Compensation

Effective January 1, 2006, the Company adopted Statement of Financial Accounting Standards No. 123R (revised 2004, “Share-Based Payment”, (“SFAS No. 123R”)) which was issued by the FASB in December 2004. SFAS No. 123R revises SFAS No. 123 “Accounting for Stock-Based Compensation” and supersedes APB Opinion No. 25 “Accounting for Stock Issued to Employees” (APB No. 25) and its related interpretations. SFAS No. 123R requires recognition of the cost of employee services received in exchange for an award of equity instruments in the financial statements over the period the employee is required to perform the services in

 

-8-


Table of Contents

exchange for the award (presumptively the vesting period). SFAS No. 123R also requires measurement of the cost of employee services received in exchange for an award based on the grant-date fair value of the award. SFAS No. 123R also amends SFAS No. 95 “Statement of Cash Flows”, to require that excess tax benefits be reported as financing cash inflows, rather than as a reduction of taxes paid, which is included within operating cash flows.

The Company adopted SFAS No. 123R using the modified prospective application as permitted under SFAS No. 123R. Accordingly, prior period amounts have not been restated. Under this application, the Company is required to record compensation expense for all awards granted after the date of adoption and for the unvested portion of previously granted awards that remain outstanding at the date of adoption. Prior to the adoption of SFAS No. 123R, the Company used the intrinsic value method as prescribed by APB No. 25 and thus recognized no compensation expense for options granted with exercise prices equal to the fair market value of the common stock on the date of grant.

The Company had one share-based compensation plan and an ESPP in effect. The compensation cost charged against income for those plans for the three months ended March 31, 2006 was $17 thousand.

During 1996, the Company adopted the 1996 Employment Stock Option Plan (“SOP”) and the Employee Stock Purchase Plan (“SPP”), under which options to purchase shares of the Company’s common stock may be granted to officers and eligible employees. Options granted under the SOP are exercisable in established increments according to vesting schedules, generally three to five years, and will expire if not exercised within ten years of the date of grant. Options granted under the SPP are fully vested at the date of grant and expire if not exercised within two years of the grant date.

The fair market value of each option award is estimated on the date of grant using the Black-Scholes option pricing model. There were no options granted during the three months ended March 31, 2006 or 2005.

The following is a summary of stock option activity for the three months ended March 31, 2006:

 

     Number of
Shares
    Weighted
Average
Exercise
Price
  

Aggregate
Intrinsic
Value

(in thousands)

Outstanding at December 31, 2005

   663,256     $ 4.58   

Granted

   —         —     

Exercised

   (12,277 )     2.26   

Forfeited

   (35,966 )     5.98   
           

Outstanding at March 31, 2006

   615,013       4.56    $ 978
           

Options exercisable at March 31, 2006

   508,117       4.33      925
           

A summary of the status of the Company’s non-vested stock options as of March 31, 2006, and changes during the quarter then ended is presented below:

 

     Shares     Weighted
Average
Grant Date
Fair Value

Non-vested – December 31, 2005

   153,505     $ 1.50

Granted

   —         —  

Vested

   (10,643 )     1.35

Forfeited

   (35,966 )     1.59
        

Non-vested- March 31, 2006

   106,896       1.49
        

 

-9-


Table of Contents

The fair value of stock options vested over the quarter ended March 31, 2006 was $14 thousand. There were no options vested for the same period in 2005.

As of March 31, 2006, there was $159 thousand of total unrecognized compensation cost related to non-vested share-based compensation arrangements granted under all of the Company’s stock benefit plans. That cost is expected to be recognized over a weighted-average period of 2.6 years.

The Company funds the option shares from authorized but unissued shares. The Company does not typically purchase shares to fulfill the obligations of the stock benefit plans. Company policy does allow option holders to exercise options with seasoned shares.

The adoption of SFAS 123R and its fair value compensation cost recognition provisions are different from the non-recognition provisions under SFAS 123 and the intrinsic value method for compensation cost allowed under APB 25. The effect (Increase/ (decrease)) of the adoption of SFAS 123R is as follows:

 

Income before income tax expense

   (16,878 )

Net Income

   (16,878 )

Cash flow from operating activities

   16,878  

Cash flow provided by financing activities

   —    

Basic earnings per share

   —    

Diluted earnings per share

   —    

For the three months ended March 31, 2006, the intrinsic value of options exercised was $48 thousand and $31 thousand for the three months ended March 31, 2005.

The following illustrates the effect on net income available to common stockholders if the Company had applied the fair value recognition provisions of SFAS No. 123 to the results for the three months ended March 31, 2005 (in thousands, except per share data):

 

Net income as reported

   $ 340  

Add: Stock-based employee compensation expenses included in reported net income, net of related income tax effects

     —    

Less: Stock-based compensation determined under fair value based method of all awards, net of related income taxes

     (66 )
        

Net income, pro forma

   $ 274  
        

Net income per share:

  

Basic net income per common share

  

As reported

   $ .05  

Pro forma

     .04  

Diluted net income per share

  

As reported

     .05  

Pro forma

     .04  

 

-10-


Table of Contents

Note 6 - Commitments and Contingencies

The subsidiary banks are party to financial instruments with off-balance sheet risk in the normal course of business to meet the financing needs of their customers. These financial instruments include commitments to extend credit, lines of credit and standby letters of credit. These instruments involve elements of credit risk in excess of amounts recognized in the accompanying financial statements.

The banks’ risk of loss with the unfunded loans and lines of credit or standby letters of credit is represented by the contractual amount of these instruments. The banks use the same credit policies in making commitments under such instruments as they do for on-balance sheet instruments. The amount of collateral obtained, if any, is based on management’s credit evaluation of the borrower. Since many of the commitments are expected to expire without being drawn upon, the total commitment amounts do not necessarily represent future cash requirements. Credit card commitments are unsecured. At March 31, 2006, outstanding financial instruments whose contract amounts represent credit risk were approximately (in thousands):

 

Commitments to extend credit

   $ 65,886

Credit card commitments

     7,337

Standby letters of credit

     902
      

Total commitments

   $ 74,125
      

Note 7 – Recent Accounting Pronouncements

In November 2005, the Financial Accounting Standards Board (FASB) issued Staff Position (FSP) FAS 115-1 and FAS 124-1, the Meaning of Other-Than-Temporary Impairment and Its Application to Certain Investments, which amends SFAS No. 115, Accounting for Certain Investments in Debt and Equity Securities, and No. 124, Accounting for Certain Investments Held by Not-for-Profit Organizations, and APB Opinion No. 18, The Equity Method of Accounting for Investments in Common Stock. This FSP addresses the determination as to when an investment is considered impaired, whether the impairment is other than temporary, and the measurement of an impairment loss. FSP FAS 115-1 and FAS 124-1 also include accounting considerations subsequent to the recognition of an other-than-temporary impairment and requires certain disclosures about unrealized losses that have not been recognized as other-than-temporary impairments. The guidance in this FSP is effective for accounting periods beginning after December 15, 2005. The adoption of FSP FAS 115-1 and FAS 124-1 did not have a material impact on the Company’s financial condition or results of operations.

In December 2004, the FASB issued Statement of Financial Accounting Standards No. 123R (“SFAS No. 123R”), “Share-Based Payment”, which is a revision of FASB Statement No. 123 “Accounting for Stock-Based Compensation” and supersedes APB Opinion No. 25 “Accounting for Stock Issued to Employees”. SFAS No. 123R requires companies to recognize in the income statement the grant-date fair value of stock options and other equity-based compensation issued to employees over the period during which an employee is required to provide service in exchange for the award (presumptively the vesting period). SFAS No. 123R sets accounting requirements for “share-based” compensation to employees, including employee-stock purchase plans (“ESPPs”). Awards to most nonemployee directors will be accounted for as employee awards. This Statement was to be effective for public companies that do not file as small business issuers as of the beginning of interim or annual reporting periods beginning after June 15, 2005. In April 2005, the Securities and Exchange Commission (“SEC”) issued Release No. 2005-57, which defers the effective date of SFAS No. 123R for many registrants. Registrants that do not file as small business users must adopt SFAS No. 123R as of the beginning of their first annual period beginning after June 15, 2005. The Corporation adopted the provisions of SFAS No. 123R on January 1, 2006 as discussed in Note 5 above.

 

-11-


Table of Contents

In March 2005, the SEC issued Staff Accounting Bulletin No. 107 (“SAB 107”), which contains guidance on applying the requirements in SFAS No. 123R. SAB 107 provides guidance on valuation techniques, development of assumptions used in valuing employee share options and related MD&A disclosures. SAB 107 is effective for the period in which SFAS No. 123R is adopted. In conjunction with the adoption of SFAS No. 123R on January 1, 2006, the Corporation adopted the provisions of SAB 107.

In May 2005, the FASB issued Statement of Financial Accounting Standards No. 154 (“SFAS No. 154”), “Accounting Changes and Error Corrections”, which replaces APB Opinion No. 20 “Accounting Changes” and FASB Statement No. 3 “Reporting Accounting Changes in Interim Financial Statements”. SFAS No. 154 changes the requirements for the accounting for and reporting of a change in an accounting principle. SFAS No. 154 requires retrospective application for voluntary changes in an accounting principle unless it is impracticable to do so. SFAS No. 154 is effective for accounting changes made in fiscal years beginning after December 15, 2005. The Corporation adopted the provisions of SFAS No. 154 on January 1, 2006 with no effect on its consolidated financial statements.

In March 2006, the FASB issued Statement of Financial Accounting Standards No. 156, “Accounting for Servicing of Financial Assets – an amendment of FASB Statement No. 140” which is effective for fiscal years beginning after September 15, 2006. This statement was issued to simplify the accounting for servicing rights and to reduce the volatility that results from using different measurement attributes. The Bank is currently evaluating the new statement to determine the potential impact, if any, this would have on our financial results.

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

This Quarterly Report on Form 10-Q may contain certain forward-looking statements consisting of estimates with respect to the financial condition, results of operations and business of the Company that are subject to various factors which could cause actual results to differ materially from these estimates. These factors include, but are not limited to, general economic conditions, changes in interest rates, deposit flows, loan demand, real estate values, and competition; changes in accounting principles, policies, or guidelines; changes in legislation or regulation; and other economic, competitive, governmental, regulatory, and technological factors affecting the Company’s operations, pricing, products and services.

Comparison of Financial Condition at March 31, 2006 and December 31, 2005.

During the three months ended March 31, 2006, total assets increased $2.8 million or 0.8% from $350.2 million to $353.0 million. During the three months, net loans receivable increased $12.5 million or 4.6%, from $271.7 million at December 31, 2005 to $284.2 million at March 31, 2006. This increase, however, was offset by a decrease in liquid assets consisting of cash and due from banks, interest earning deposits with banks, federal funds sold and investment securities of $10.2 million.

Investment securities decreased $1.6 million or 4.6% for the three months. The Company has continued to work to improve its asset liability position during the current rising rate environment.

As stated, net loans receivable increased $12.5 million to $284.2 million during the period ended March 31, 2006. The Company has experienced positive growth trends in its residential construction, commercial real estate and loans held for sale portfolios. These positive trends were impacted by decreases in the remaining areas of our loan portfolio. The allowance for loan losses was $4.6 million at March 31, 2006 which represents 1.58% of the loan portfolio.

 

-12-


Table of Contents

Federal Home Loan Bank stock increased $43 thousand or 2.1% during the first three months of 2006. FHLB stock ownership is a requirement for member banks that utilize FHLB for borrowing funds. The amount of stock owned by each member bank is based on the amount of borrowings outstanding.

Customer deposits, our primary funding source, experienced a $4.7 million, or 1.7%, decrease during the three months ended March 31, 2006, decreasing from $274.0 million to $269.3 million. The most significant factor attributing to this decrease was a decline in time deposits over $100 thousand of $5.1 million. During the first quarter of 2006 the Company had maturing brokered deposits of $4.1 million. This decrease coupled with a decline in savings accounts was offset by positive growth trends in noninterest bearing demand accounts, interest checking and money market accounts and other time deposits.

The Company utilizes both short-term and long-term borrowings as funding sources. During the period, total borrowings outstanding increased $7.2 million. At March 31, 2006, $31.4 million of the total borrowings of $54.2 million were comprised of Federal Home Loan Bank advances.

At March 31, 2006, total shareholders’ equity was $27.7 million, an increase of $273 thousand from December 31, 2005. Net income for the period was $426 thousand and the Company received $27.7 thousand from the exercise of stock options. These increases were offset by a decrease in unrealized gains on our investment securities, net of tax of $220 thousand.

At March 31, 2006, the Company and its subsidiary banks exceeded all applicable regulatory capital requirements.

Comparison of Results of Operations For the Three Months Ended March 31, 2006 and 2005.

Net Income

Uwharrie Capital Corp reported net income of $426 thousand, or $.06 per basic share, for the three months ended March 31, 2006, as compared to $340 thousand, or $.05, for the three months ended March 31, 2005, an increase of $86 thousand, or $.01 per share.

Net Interest Income

As with most financial institutions, the primary component of earnings for our banks, is net interest income. Net interest income is the difference between interest income, principally from loan and investment securities portfolios, and interest expense, principally on customer deposits and borrowings. Changes in net interest income result from changes in volume, spread and margin. For this purpose, volume refers to the average dollar level of interest-earning assets and interest-bearing liabilities, spread refers to the difference between the average yield on interest-earning assets and the average cost of interest-bearing liabilities, and margin refers to net interest income divided by average interest-earning assets. Margin is influenced by the level and relative mix of interest-earning assets and interest-bearing liabilities, as well as by levels of noninterest-bearing liabilities and capital.

Net interest income for the three months ended March 31, 2006 was $3.3 million as compared with $3.0 million during the quarter ending March 31, 2005, resulting in an increase of $257 thousand, or 8.4%. This increase resulted from the increased volume of interest-earning assets coupled with a 9 basis point increase in the net yield on interest-earning assets. The yield on interest earning assets for the current three months was 7.01%. The cost of interest-bearing

 

-13-


Table of Contents

liabilities increased 111 basis points to 3.23%. The net interest spread decreased 12 basis points to 3.78%. A large majority of our loan portfolio is comprised of adjustable rate loans. These loans reprice each time the Federal Reserve adjusts interest rates. Deposits on the other hand are repriced at maturity. While both our yield and cost experienced increases, the repricing of deposits negatively impacted our net interest spread. The net interest margin for the first three months of 2006 was 4.29%, as compared to 4.20% for the same period in 2005.

The following table presents average balance sheets and a net interest income analysis for the three months ended March 31, 2006 and 2005.

Average Balance Sheet and Net Interest Income Analysis

For the Three Months Ended March 31,

 

     Average Balance    Income/Expenses    Rate/Yield  

(in thousands)

 

   2006    2005    2006    2005    2006     2005  

Interest-earning assets:

                

Loans (1)

   $ 277,949    $ 263,853    $ 4,941    $ 3,969    7.21 %   6.10 %

Nontaxable loans (2)

     4,321      4,005      51      48    7.35 %   7.54 %

Taxable securities

     26,470      20,316      275      215    4.21 %   4.29 %

Nontaxable securities (2)

     10,899      10,795      166      130    9.51 %   7.51 %

Other (3)

     4,137      4,348      44      45    4.31 %   4.20 %
                                        

Total interest-earning assets

     323,776      303,317      5,477      4,407    7.01 %   6.02 %

Interest-bearing liabilities:

                

Interest-bearing deposits

     223,441      207,037      1,604      840    2.91 %   1.65 %

Short-term borrowings

     10,234      8,804      100      44    3.96 %   2.03 %

Long-term borrowings

     39,098      43,643      467      475    4.84 %   4.41 %
                                        

Total interest bearing liabilities

     272,773      259,484      2,171      1,359    3.23 %   2.12 %
                                        

Net interest spread

   $ 51,003    $ 43,833    $ 3,306    $ 3,048    3.78 %   3.90 %
                                        

Net interest margin (2) (% of earning assets)

               4.29 %   4.20 %
                        

(1) Average loan balances are stated net of unearned income and include nonaccrual loans. Interest recognized on nonaccrual loans is included in interest income.
(2) Yields related to securities and loans exempt from income taxes are stated on a fully tax-equivalent basis, assuming a 35% tax rate.
(3) Includes federal funds sold and interest bearing deposits with banks.

Provision and Allowance for Loan Losses

The Company’s allowance for loan losses is established through charges to earnings in the form of a provision for loan losses. The allowance is increased by provisions charged to operations and by recoveries of amounts previously charged off, and reduced by loans charged off. Management evaluates the adequacy of the allowance at least quarterly. In evaluating the adequacy of the allowance, management considers the growth, composition and industry diversification of the portfolio, historical loan loss experience, current delinquency levels, adverse situations that may affect a borrower’s ability to repay, estimated value of any underlying collateral, prevailing economic conditions and other relevant factors. The Company’s credit administration function, through a review process, validates the accuracy of the initial risk grade assessment. In addition, as a given loan’s credit quality improves or deteriorates, the credit administration department has the responsibility to change the borrower’s risk grade accordingly. For loans determined to be impaired, the allowance is based either on discounted cash flows using the loan’s initial effective interest rate or on the fair value of the collateral for certain collateral dependent loans. This evaluation is inherently subjective, as it requires material estimates, including the amounts and timing of future cash flows expected to be received on impaired loans, which may be susceptible to significant change. In addition, regulatory agencies, as an integral part of their examination process, periodically review the allowance for loan losses and may require additions for estimated losses based upon judgments different from those of management.

 

-14-


Table of Contents

Management uses the risk-grading program to facilitate the evaluation of probable inherent loan losses and the adequacy of the allowance for loan losses. In this program, risk grades are initially assigned by loan officers and reviewed and monitored by credit administration. The Company strives to maintain its loan portfolio in accordance with conservative loan underwriting policies that result in loans specifically tailored to the needs of its market area. Every effort is made to identify and minimize the credit risks associated with such lending strategies. The Company has no foreign loans and does not engage in significant lease financing or highly leveraged transactions. The Company follows a loan review program designed to evaluate the credit risk in the loan portfolio. This process includes the maintenance of an internally classified watch list that helps management assess the overall quality of the loan portfolio and the adequacy of the allowance for loan losses. In establishing the appropriate classification for specific assets, management considers, among other factors, the estimated value of the underlying collateral, the borrower’s ability to repay, the borrower’s payment history and the current delinquent status. As a result of this process, certain loans are categorized as substandard, doubtful or loss and reserves are allocated based on management’s judgment and historical experience.

Loans classified as “substandard” are those loans with clear and defined weaknesses such as unfavorable financial ratios, uncertain repayment sources or poor financial condition that may jeopardize the timely payments on the loan. They are characterized by the distinct possibility that the Company may sustain some losses if the deficiencies are not corrected. A reserve of 15% is generally allocated to these loans. Loans classified as “doubtful” are those loans that have characteristics similar to substandard loans but with an increased risk that collection or liquidation in full is highly questionable and improbable. A reserve of 50% is generally allocated to loans classified as doubtful. Loans classified as “loss” are considered uncollectible and of such little value that continuance as bankable assets is not warranted. This classification does not mean that the loan has absolutely no recovery or salvage value but rather it is not practical or desirable to defer writing off this asset even though partial recovery may be achieved in the future. As a practical matter, when loans are identified as loss they are charged off against the allowance for loan losses. In addition to the above classification categories, the Company also categorizes loans based upon risk grade and loan type, assigning an allowance allocation based upon each category.

The allowance for loan losses represents management’s estimate of an amount adequate to provide for known and inherent losses in the loan portfolio in the normal course of business. While management believes that it uses the best information available to establish the allowance for loan losses, future adjustments to the allowance may be necessary and results of operations could be adversely affected if circumstances differ substantially from the assumptions used in making the determinations. Furthermore, while management believes it has established the allowance for loan losses in conformity with generally accepted accounting principles, there can be no assurance that regulators, in reviewing the Company’s portfolio, will not require an adjustment to the allowance for loan losses. In addition, because future events affecting borrowers and collateral cannot be predicted with certainty, there can be no assurance that the existing allowance for loan losses is adequate or that increases will not be necessary should the quality of any loans deteriorate as a result of the factors discussed herein. Any material increase in the allowance for loan losses may adversely affect the Company’s financial condition and results of operations.

The provision for loan losses was $146 thousand and $215 thousand for the quarters ended March 31, 2006 and 2005 respectively, resulting in a decrease of $70 thousand. Net loan charge-offs, were $64 thousand, or .02%, of average loans outstanding for the quarter ended March 31, 2006, compared to $210 thousand, or .08%, of average loans outstanding for the same period in 2005.

 

-15-


Table of Contents

Our allowance for loan losses increased to $4.6 million at March 31, 2006 an increase of $81 thousand from December 2005. The allowance expressed as a percentage of total loans decreased from 1.62% at December 31, 2005 to 1.58% at March 31, 2006. During the three month period, total non-performing loans declined $40 thousand, and loans 90 days past due and still accruing interest decreased $133 thousand. Restructured loans, excluding those included in nonperforming loans, amounted to $3.1 million at March 31, 2006, a reduction of $214 thousand since December 31, 2005. The ratio of non-performing loans to total loans decreased from .68% at December 31, 2005 to .64 % at March 31, 2006. The three month period did see a decrease in net loan charge-offs of $146 thousand compared to the same three month period in 2005. Management believes the current level of allowance for loan losses to be adequate at this time. The following table sets forth information with respect to nonperforming assets for the dates indicated.

Schedule of Nonperforming Assets

(In thousands)

 

      March 31,
2006
    December 31,
2005
 

Nonperforming Assets:

    

Nonaccrual loans

   $ 1,835     $ 1,875  

Other real estate owned

     255       169  
                

Total nonperforming assets

   $ 2,090     $ 2,044  
                

Accruing loans past due

    

90 days or more

   $ 206     $ 339  

Allowance for loan losses

     4,564       4,482  

Allowance for loan losses to total loans

     1.58 %     1.62 %

Allowance for loan losses to nonperforming loans

     248.72 %     239.09 %

Nonperforming loans to total loans

     .64 %     .68 %

Nonperforming assets to total assets

     .59 %     .58 %

Noninterest Income

The Company generates most of its revenue from net interest income; however, like all financial institutions, diversification of our earnings base is of major importance in our long term success. Total noninterest income increased $214 thousand, from $1.0 million for the quarter ended March 31, 2005 to $1.3 million for the same period in 2006. Service charges on deposit accounts produced earnings of $470 thousand for the three months ended March 31, 2006, an increase of $108 thousand, or 29.9%. During the third quarter of 2005, the Company implemented a new non-sufficient funds program. This program along with the growth in deposit accounts generated an increase of $89 thousand in non-sufficient fees. Other service fees and commissions experienced a 22.0% increase for the comparable three month periods. Growth in ATM fees of $19 thousand and investment related fees of $40 thousand enhanced this increase.

Noninterest Expense

Noninterest expense for the quarter ended March 31, 2006 was $3.9 million compared to $3.4 million for the same period of 2005, an increase of $431 thousand. Salaries and employee benefits, the largest component of noninterest expense, increased $322 thousand, from $1.9 million for the quarter ending March 31, 2005 to $2.2 million for the same period in 2006. Additions at the executive and bank support staff levels during the past year coupled with

 

-16-


Table of Contents

normal salary increases attributed to this increase. Other noninterest expense increased $90 thousand for the comparable three month periods. The table below reflects the composition of other noninterest expenses.

Other noninterest expenses

(in thousands)

 

      Three months ended
March 31,
     2006    2005

Professional fees and services

   $ 128    $ 141

Marketing and donations

     126      102

Office supplies, printing and postage

     123      100

Telephone and data lines

     56      53

Electronic banking expenses

     148      109

Software amortization and maintenance

     76      51

Loan collection expense

     56      68

Other

     350      350
             

Total

   $ 1,063    $ 974
             

Income Tax Expense

Income taxes computed at the statutory rate are reduced primarily by the eligible amount of interest earned on state and municipal securities and tax advantaged loans. Income tax expense calculated for the quarter ended March 31, 2006 totaled $140 thousand compared to $116 thousand in the quarter ended March 31, 2005. The effective tax rate decreased from 25.51% for the period ended March 31, 2005 to 24.69% for the three months ended March 31, 2006, due to an increase in nontaxable income.

Liquidity and Capital Resources

The objective of the Company’s liquidity management policy is to ensure the availability of sufficient cash flows to meet all financial commitments and to capitalize on any opportunities for expansion. Liquidity management addresses the ability to meet deposit withdrawals on demand or at contractual maturity, to repay borrowings as they mature, and to fund new loans and investments as opportunities arise.

The Company’s primary sources of internally generated funds are principal and interest payments on loans, cash flows generated from operations and cash flow generated by investments. Growth in deposits is typically the primary source of funds for loan growth. The Company and its subsidiary banks have multiple funding sources in addition to deposits that can be used to increase liquidity and provide additional financial flexibility. These sources are the subsidiary banks’ established federal funds lines with correspondent banks aggregating $20.2 million at March 31, 2006, with available credit of $13.0 million, established borrowing relationships with the Federal Home Loan Bank, with available credit of $22.9 million, access to borrowings from the Federal Reserve Bank discount window, and the sale of securities under agreements to repurchase. In addition, the Company issues commercial paper and has secured long-term debt from other sources. Total debt from these sources aggregated $54.2 million at March 31, 2006, compared to $47.0 million at December 31, 2005.

Banks and bank holding companies, as regulated institutions, must meet required levels of capital. The FDIC and the Federal Reserve, the primary federal regulators of the Company and its subsidiary banks, have adopted minimum capital regulations or guidelines that categorize components and the level of risk associated with various types of assets.

Regulatory guidelines require a minimum of total capital to risk-adjusted assets ratio of 8 percent and a Tier I leverage ratio of 4 percent. Banks, which meet or exceed a Tier I ratio of 6

 

-17-


Table of Contents

percent, a total capital ratio of 10 percent and a Tier I leverage ratio of 5 percent are considered “well capitalized” by regulatory standards. Financial institutions are expected to maintain a level of capital commensurate with the risk profile assigned to their assets in accordance with those guidelines.

Both the Company and its subsidiary banks have maintained capital levels exceeding minimum levels for “well capitalized” banks and bank holding companies.

Accounting and Regulatory Matters

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

Item 3. Quantitative and Qualitative Disclosures about Market Risk.

The Company’s primary market risk is interest rate risk. Interest rate risk is the result of differing maturities or repricing intervals of interest-earning assets and interest-bearing liabilities and the fact that rates on these financial instruments do not change uniformly. These conditions may impact the earnings generated by the Company’s interest earning assets or the cost of its interest-bearing liabilities, thus directly impacting the Company’s overall earnings. The Company’s management actively monitors and manages interest rate risk. One way this is accomplished is through the development of and adherence to the Company’s asset/liability policy. This policy sets forth management’s strategy for matching the risk characteristics of the Company’s interest-earning assets and liabilities so as to mitigate the effect of changes in the rate environment. The Company’s market risk profile has not changed significantly since December 31, 2005.

Item 4. Controls and Procedures

As of the end of the period covered by this report, the Company’s management completed an evaluation of the Company’s disclosure controls and procedures pursuant to Rule 13a-15 promulgated under the Securities Exchange Act of 1934. Based upon that evaluation, the Chief Executive Officer and Principal Financial Officer concluded that the Company’s disclosure controls and procedures are effective in timely alerting them to material information relating to the Company (including its consolidated subsidiaries) required to be included in the Company’s periodic filings with the Securities and Exchange Commission. There have been no material changes in the Company’s internal controls or in other factors that could materially affect these controls during the period covered by this report.

 

-18-


Table of Contents

Part II. OTHER INFORMATION

Item 1. Legal Proceedings

Neither the Company nor its subsidiaries, nor any of their properties are subject to any legal proceedings other than ordinary routine litigation incidental to their business.

Item 1A. Risk Factors

There has been no change in the risk factors included in the Company’s most recent form 10-K.

Item 2. Unregistered Sales of Equity Securities and Use of Proceeds

None

Item 3. Defaults Upon Senior Securities

None

Item 4. Submission of Matters to a Vote of Security Holders

None

Item 5. Other Information

None

Item 6. Exhibits

 

  (a) Exhibits

 

31.1   Certification of Chief Executive Officer pursuant to Rule 13{a} – 14(a)
31.2   Certification of Principal Financial Officer pursuant to Rule 13{a} – 14(a)
32   Certification pursuant to 18 U.S.C. 1350 as adopted pursuant to Section 906 of the Sarbanes - Oxley Act of 2002

 

-19-


Table of Contents

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 who is thereunto duly authorized.

 

  UWHARRIE CAPITAL CORP
  (Registrant)
Date: May 11, 2006   By:  

/s/ Roger L. Dick

    Roger L. Dick
    President and Chief Executive Officer
Date: May 11, 2006   By:  

/s/ Barbara S. Williams

    Barbara S. Williams
    Principal Financial Officer

 

-20-