XOTC:UBAB United Bancorp Of Al A Quarterly Report 10-Q Filing - 3/31/2012

Effective Date 3/31/2012

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UNITED STATES 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 quarterly period ended      March 31, 2012

Commission file number      000-25917

UNITED BANCORPORATION OF ALABAMA, INC.
(Exact name of registrant as specified in its charter)
 
Delaware    63-0833573
(State or other jurisdiction of incorporation or organization)   (I.R.S. Employer Identification Number)
 
200 East Nashville Avenue, Atmore, Alabama    36502
(Address of principal executive offices)    (Zip Code)
 
(251) 446-6000
(Registrant's telephone number, including area code)

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 report(s), and (2) has been subject to such filing requirements for the past 90 days.  Yes x No o

Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of regulation S-T (§ 232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files.
Yes x No o
 
Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, or a smaller reporting company.  See definition of “large accelerated filer,” “accelerated filer,” and “smaller reporting company”  in Rule 12b-2 of the Exchange Act.
 
Large accelerated filer o Accelerated filer o Non-accelerated filer o
     
Smaller Reporting Company  x    
 
Indicate by check mark whether the registrant is a shell company (as define in Rule 12b-2 of the Exchange Act).  Yeso  No x
 
Indicate the number of shares outstanding of each of the issuer's classes of common stock as of May 15, 2012.
 
Class A Common Stock.... 2,367,903 Shares
Class B Common Stock....   -0-    Shares



 
 

 
 
UNITED BANCORPORATION OF ALABAMA, INC.

FORM 10-Q

For the Quarter Ended March 31, 2012
 
 
PART I - FINANCIAL INFORMATION
PAGE
     
Item 1.
Financial Statements
 
     
 
3
     
 
4
     
 
5
     
 
6
     
 
7
     
Item 2.
38
 
   
Item 4.
        47
     
PART II - OTHER INFORMATION
     
Item 1A.
48
     
Item 6.
Exhibits
48

 
2

 
UNITED BANCORPORATION OF ALABAMA, INC.
AND SUBSIDIARY
   
March 31,
   
December 31,
 
   
2012
   
2011
 
   
(Unaudited)
       
Assets
           
Cash and due from banks
  $ 11,784,158     $ 14,940,877  
Interest bearing deposits in banks
    54,176,907       41,333,309  
Cash and cash equivalents
    65,961,065       56,274,186  
                 
Securities available for sale (amortized cost of $72,670,242 and $70,951,957 respectively)
    73,340,403       71,493,832  
                 
Securities held to maturity (fair values of $20,809,424 and $22,012,073 respectively)
    19,804,308       21,048,977  
                 
Loans held for sale
    137,755       169,400  
                 
Loans held for investment
    269,811,732       263,093,320  
Less: Allowance for loan losses
    5,111,534       4,901,550  
Net loans
    264,700,198       258,191,770  
                 
Premises and equipment, net
    15,785,171       15,853,633  
Interest receivable
    1,891,623       2,155,497  
Other real estate owned
    9,400,591       9,946,107  
Other assets
    13,408,848       11,745,770  
                 
Total assets
    464,429,962       446,879,172  
                 
Liabilities and Stockholders' Equity
               
Deposits:
               
Non-interest bearing
    136,075,305       126,469,004  
Interest bearing
    277,673,880       268,984,934  
Total deposits
    413,749,185       395,453,938  
                 
Advances from Federal Home Loan Bank of Atlanta
    1,058,050       1,115,500  
Treasury, tax, and loan account
    0       991,750  
Interest payable
    255,970       287,686  
Note payable to Trust
    10,310,000       10,310,000  
Accrued expenses and other liabilities
    1,451,473       1,451,275  
Total liabilities
    426,824,678       409,610,149  
                 
Stockholders' equity                
Preferred stock of $.01 par value. Authorized 250,000 shares; 10,300 shares, net of discount
    10,167,226       10,149,323  
Class A common stock, $0.01 par value. Authorized 5,000,000 shares; issued and outstanding, 2,388,676 shares in 2012 and 2011, respectively
    23,887       23,891  
Class B common stock, $0.01 par value. Authorized 250,000 shares; no shares issued or outstanding
    -       -  
Additional paid in capital
    7,139,894       7,114,042  
Accumulated other comprehensive loss net of tax
    402,091       325,119  
Retained earnings
    20,038,645       19,984,862  
      37,771,743       37,597,237  
                 
Less:  20,773 and 40,943 treasury shares, at cost, respectively
    166,459       328,214  
Total stockholders' equity
    37,605,284       37,269,023  
Total liabilities and stockholders' equity
  $ 464,429,962     $ 446,879,172  
 
See Notes to Consolidated Financial Statements

 
3


UNITED BANCORPORATION OF ALABAMA, INC.
AND SUBSIDIARY
(Unaudited)

   
Three Months Ended
 
   
March 31
 
   
2012
   
2011
 
             
Interest income:
           
Interest and fees on loans
  $ 3,970,899     $ 3,896,988  
Interest on investment securities:
               
Taxable
    317,190       438,129  
Nontaxable
    57,712       84,646  
Total investment income
    374,902       522,775  
Other interest income
    32,615       45,692  
Total interest income
    4,378,416       4,465,455  
                 
Interest expense:
               
Interest on deposits
    634,181       866,407  
Interest on other borrowed funds
    74,642       69,054  
Total interest expense
    708,823       935,461  
                 
Net interest income
    3,669,593       3,529,994  
                 
Provision for loan losses
    200,000       300,000  
                 
Net interest income after provision for loan losses
    3,469,593       3,229,994  
                 
Noninterest income:
               
Service charge on deposits
    743,274       796,682  
Mortgage loan and related fees
    95,390       63,570  
Other
    258,468       171,088  
Total noninterest income
    1,097,132       1,031,340  
                 
Noninterest expense:
               
Salaries and benefits
    2,177,428       2,207,870  
Net occupancy expense
    455,932       483,691  
Other
    1,516,138       1,278,364  
Total noninterest expense
    4,149,498       3,969,925  
                 
Earnings before income tax expense
    417,227       291,409  
Income tax expense
    110,184       64,047  
Net earnings
    307,043       227,362  
Preferred stock dividends
    51,500       51,500  
Accretion on preferred stock discount
    17,903       16,904  
Net earnings available to common shareholders
  $ 237,640     $ 158,958  
                 
Basic earnings per share available to common shareholders
  $ 0.10     $ 0.07  
Diluted earnings per share available to common shareholders
  $ 0.10     $ 0.07  
Basic weighted average shares outstanding
    2,363,027       2,314,019  
Diluted weighted average shares outstanding
    2,363,027       2,314,019  
Cash dividend per share
  $ -     $ -  

See Notes to Consolidated Financial Statements
 
 
4

 
UNITED BANCORPORATION OF ALABAMA, INC.
AND SUBSIDIARY
(Unaudited)
 
   
Three Months Ended
 
   
March 31
 
   
2012
   
2011
 
   
 
   
 
 
Net income
  $ 307,043     $ 227,362  
                 
Other comprehensive income (loss)
               
Unrealized holding gains (losses) on securities available for sale arising during the period, net of tax (benefits) of $51,315 and $(78,203), respectively.
    76,972       (117,305 )
                 
Comprehensive income
  $ 384,015     $ 110,057  

See Notes to Consolidated Financial Statements
 
 
5

 
UNITED BANCORPORATION OF ALABAMA, INC.
AND SUBSIDIARY

    Three Months Ended
    March 31
   
2012
   
2011
 
             
Cash flows from operating activities
           
Net earnings
  $ 307,043     $ 227,362  
Adjustments to reconcile net earnings to net cash provided by (used in) operating activities
               
Provision for loan losses
    200,000       300,000  
Depreciation of premises and equipment
    207,136       235,719  
Net amortization of premium on investment securities available for sale
    151,367       110,801  
Net amortization of premium on investment securities held to maturity
    41,213       42,941  
Gain on sale of other real estate
    (46,095 )     (31,594 )
Originations of loans held for sale
    (3,026,363 )     -  
Proceeds from sales of loans held for sale
    3,058,008       -  
Stock-based compensation
    6,080       6,223  
Decrease in deferred income taxes
    144,451       87,018  
Provision for other real estate losses
    230,000       41,095  
Decrease in interest receivable
    263,874       188,291  
(Increase) decrease in other assets
    (1,858,845 )     1,216,563  
Decrease in interest payable
    (31,716 )     (27,935 )
Increase in accrued expenses and other liabilities
    198       3,055  
Net cash provided by (used in)  by operating activities
    (353,649 )     2,399,539  
                 
Cash flows from investing activities
               
Proceeds from maturities, calls, and principal repayments of investment securities available for sale
    4,555,000       2,108,335  
Proceeds from maturities, calls, and principal repayments of investment securities held to maturity
    1,203,456       2,325,000  
Purchases of investment securities available for sale
    (6,424,650 )     (7,145,308 )
Net increase in loans
    (6,742,887 )     (2,183,599 )
Purchases of premises and equipment, net
    (138,674 )     (30,022 )
Proceeds from sale of other real estate
    396,070       380,122  
Net cash used in investing activities
    (7,151,685 )     (4,545,472 )
                 
Cash flows from financing activities
               
Net increase (decrease) in deposits
    18,295,247       (18,788,763 )
Cash dividends - preferred stock
    (51,500 )     (51,500 )
Cash dividends - common stock
    (2,334 )     (3,233 )
Repayments of advances from FHLB Atlanta
    (57,450 )     (57,450 )
Decrease in other borrowed funds
    (991,750 )     (81,004 )
Net cash provided by (used in) financing activities
    17,192,213       (18,981,950 )
                 
Net increase (decrease) in cash and cash equivalents
    9,686,879       (21,127,883 )
                 
Cash and cash equivalents, beginning of period
    56,274,186       80,966,109  
                 
Cash and cash equivalents, end of period
  $ 65,961,065     $ 59,838,226  
                 
Supplemental disclosures
               
Cash paid during the period for:
               
Interest
  $ 740,539     $ 963,396  
Income taxes
    41,144       46,642  
                 
Noncash transactions
               
Transfer of loans to other real estate through foreclosure
  $ 34,459     $ 106,128  

See Notes to Consolidated Financial Statements
 
 
6


UNITED BANCORPORATION OF ALABAMA, INC.
AND SUBSIDIARY
 

NOTE 1 – General

This report includes interim consolidated financial statements of United Bancorporation of Alabama, Inc. (the “Corporation”) and its wholly-owned subsidiary, United Bank (the “Bank”). The interim consolidated financial statements in this report have not been audited.  In the opinion of management, all adjustments necessary to present fairly the financial position and the results of operations for the interim periods have been made.  All such adjustments are of a normal recurring nature.  The results of operations are not necessarily indicative of the results of operations for the full year or any other interim periods.  For further information, refer to the consolidated financial statements and footnotes included in the Corporation's Annual Report on Form 10-K for the year ended December 31, 2011.

 
7

 
NOTE 2 – Net Earnings per Share

Basic net earnings per share were computed by dividing net earnings by the weighted average number of shares of common stock outstanding during the three month periods ended March 31, 2012 and 2011.  Common stock outstanding consists of issued shares less treasury stock.  Diluted net earnings per share for the three month periods ended March 31, 2012 and 2011 were computed by dividing net earnings by the weighted average number of shares of common stock and the dilutive effects of the shares subject to options and restricted stock grants awarded under the Corporation’s equity incentive plans, based on the treasury stock method using an average fair market value of the stock during the respective periods.  There was no dilutive effect for the three months ended March 31, 2012 and 2011 because the exercise price of the stock awards, described in Note 7 below, was greater than the fair value of the stock as of March 31, 2012.

 
8

 
 NOTE 3 – Investment Securities

The amortized cost and fair value of investment securities available for sale at March 31, 2012 and December 31, 2011 were as follows:
 
         
Gross
   
Gross
       
   
Amortized
   
unrealized
   
unrealized
   
Fair
 
   
cost
   
gains
   
losses
   
value
 
March 31, 2012
                       
U.S. Treasury securities
  $ 2,053,139     $ 1,710     $ (4,224 )   $ 2,050,625  
U.S. Government sponsored agencies
    63,629,652       495,474       (70,652 )     64,054,474  
State and political subdivisions
    6,977,298       276,792       (27,951 )     7,226,139  
Equity securities
    10,153       -       (988 )     9,165  
    $ 72,670,242     $ 773,976     $ (103,815 )   $ 73,340,403  
December 31, 2011
                       
U.S. Treasury securities
  $ 4,003,429     $ 10,009     $ -     $ 4,013,438  
U.S. Government sponsored agencies
    59,403,763       413,643       (76,732 )     59,740,674  
State and political subdivisions
    7,534,612       245,003       (45,940 )     7,733,675  
Equity securities
    10,153       -       (4,108 )     6,045  
    $ 70,951,957     $ 668,655     $ (126,780 )   $ 71,493,832  

 
9

 
The amortized cost and fair value of investment securities held to maturity at March 31, 2012 and December 31, 2011 were as follows:
 
         
Gross
   
Gross
       
   
Amortized
   
unrealized
   
unrealized
   
Fair
 
   
cost
   
gains
   
losses
   
value
 
March 31, 2012
                       
U.S. Government sponsored agencies
  $ 13,738,523     $ 672,996     $ -     $ 14,411,519  
Mortgage-backed securities
    6,065,785       332,120       -       6,397,905  
    $ 19,804,308     $ 1,005,116     $ -     $ 20,809,424  
December 31, 2011
                               
U.S. Government sponsored agencies
  $ 14,777,587     $ 679,208     $ -     $ 15,456,795  
Mortgage-backed securities
    6,271,390       283,888       -       6,555,278  
    $ 21,048,977     $ 963,096     $ -     $ 22,012,073  

 
10

 
Those investment securities classified as available for sale which have an unrealized loss position at March 31, 2012 and December 31, 2011 are detailed below:
 
March 31, 2012
                                   
   
Less than 12 months
   
12 months or more
   
Total
 
         
Unrealized
         
Unrealized
         
Unrealized
 
Description of Securities
 
Fair Value
    losses    
Fair Value
    losses    
Fair Value
    losses  
                                     
U.S. Treasury securities
  $ 1,047,188     $ (4,224 )   $ -     $ -     $ 1,047,188     $ (4,224 )
U.S. government sponsored agencies
    15,130,846       (70,652 )     -       -       15,130,846       (70,652 )
State and political subdivisions
    -       -       302,049       (27,951 )     302,049       (27,951 )
Equity securities
    -       -       9,165       (988 )     9,165       (988 )
Total temporarily impaired securities
  $ 16,178,034     $ (74,876 )   $ 311,214     $ (28,939 )   $ 16,489,248     $ (103,815 )
 
December 31, 2011
                                   
   
Less than 12 months
   
12 months or more
   
Total
 
         
Unrealized
         
Unrealized
         
Unrealized
 
Description of Securities
 
Fair Value
    losses    
Fair Value
    losses    
Fair Value
    losses  
                                     
U.S. Treasury securities
  $ -     $ -     $ -     $ -     $ -     $ -  
U.S. government sponsored agencies
    31,544,265       (76,732 )     -       -       31,544,265       (76,732 )
State and political subdivdisions
    -       -       1,150,186       (45,940 )     1,150,186       (45,940 )
Equity securities
    -       -       6,045       (4,108 )     6,045       (4,108 )
Total temporarily impaired securities
  $ 31,544,265     $ (76,732 )   $ 1,156,231     $ (50,048 )   $ 32,700,496     $ (126,780 )
 
 
11

 
No investment securities classified as held to maturity had an unrealized loss position as of March 31, 2012 or December 31, 2011.
 
U.S. Treasury securities.  The unrealized loss on a single U.S. Treasury Note was caused by normal interest rate fluctuations.  The contractual terms of this investment do not permit the issuer to settle the security at a price less than the amortized cost basis of the investment.  Because the Corporation does not currently intend to sell the investment and it is not more likely than not that the Corporation will be required to sell the investment before recovery of its amortized cost basis, which may be at maturity, the Corporation does not consider this investment to be other-than-temporarily impaired at March 31, 2012.
 
U.S. Government sponsored agencies.  The unrealized losses on ten investments in direct obligations of U.S. government sponsored agencies were caused by interest rate increases.  The contractual terms of those investments do not permit the issuer to settle the securities at a price less than the amortized cost bases of the investments.  Because the Corporation does not currently intend to sell the investments and it is not more likely than not that the Corporation will be required to sell the investments before recovery of their amortized cost bases, which may be at maturity, the Corporation does not consider those investments to be other-than-temporarily impaired at March 31, 2012.

States and political subdivisions.  The unrealized loss associated with one security issued by a state or political subdivision is primarily driven by wider credit spreads and changes in interest rates.  The contractual terms of this investment do not permit the issuer to settle the security at a price less than the amortized cost basis of the investment.  Because the Corporation does not currently intend to sell the investment and it is not more likely than not that the Corporation will be required to sell the investment before recovery of their amortized cost bases, which may be at maturity, the Corporation does not consider this investment to be other-than-temporarily impaired at March 31, 2012.

Mortgage-backed securities.  There were no unrealized losses related to investments in mortgage-backed securities as of March 31, 2012.

Equity securities.  The Corporation’s investment in equity securities consists of a single investment in the common stock of a government-sponsored enterprise.  Because of the Corporation’s ability and intent to hold the investment for a reasonable period of time sufficient for a forecasted recovery of fair value, the Corporation does not consider this investment to be other-than-temporarily impaired at March 31, 2012.

 
12

 
The following table presents the amortized cost, fair value and weighted-average yield of securities available for sale by contractual maturity at March 31, 2012.  In some cases, the issuers may have the right to call or prepay obligations without call or prepayment penalties prior to the contractual maturity date.  Rates are calculated on a fully tax-equivalent basis using a 35% Federal Income Tax rate.
 
   
Within 1
   
1 to 5
   
5 to 10
   
Over 10
       
   
Year
   
Years
   
Years
   
Years
   
Total
 
Amortized Cost
                             
U.S. Treasury securities
  $ 1,001,727     $ 1,051,412     $ -     $ -     $ 2,053,139  
U.S. government sponsored agencies
    1,008,987       59,281,217       3,339,448       -       63,629,652  
State and political subdivisions
    154,885       892,154       3,630,713       2,299,546       6,977,298  
Equity securities
    10,153       -       -       -       10,153  
Total
  $ 2,175,752     $ 61,224,783     $ 6,970,161     $ 2,299,546     $ 72,670,242  
                                         
Fair Value
                                       
U.S. Treasury securities
  $ 1,003,437     $ 1,047,188     $ -     $ -     $ 2,050,625  
U.S. government sponsored agencies
    1,011,880       59,736,530       3,306,064       -       64,054,474  
State and political subdivisions
    157,359       928,462       3,827,729       2,312,589       7,226,139  
Equity securities
    9,165       -       -       -       9,165  
Total
  $ 2,181,841     $ 61,712,180     $ 7,133,793     $ 2,312,589     $ 73,340,403  
                                         
Total Average Yield
    1.28 %     1.08 %     2.62 %     4.13 %     1.33 %
 
The following table presents the amortized cost, fair value and weighted-average yield of securities held to maturity by contractual maturity at March 31, 2012.  In some cases, the issuers may have the right to call or prepay obligations without call or prepayment penalties prior to the contractual maturity date.  Rates are calculated on a fully tax-equivalent basis using a 35% Federal income tax rate.
 
   
Within 1
   
1 to 5
   
5 to 10
   
Over 10
       
   
Year
   
Years
   
Years
   
Years
   
Total
 
Amortized Cost
                             
U.S. government sponsored agencies
  $ 2,002,596     $ 10,626,813     $ 1,109,114     $ -     $ 13,738,523  
Mortgage-backed securities
    -       -       -       6,065,785       6,065,785  
Total
  $ 2,002,596     $ 10,626,813     $ 1,109,114     $ 6,065,785     $ 19,804,308  
                                         
Fair Value
                                       
U.S. government
                                       
sponsored agencies
  $ 2,036,503     $ 11,205,339     $ 1,169,677     $ -     $ 14,411,519  
Mortgage-backed securities
    -       -       -       6,397,905       6,397,905  
Total
  $ 2,036,503     $ 11,205,339     $ 1,169,677     $ 6,397,905     $ 20,809,424  
                                         
Total Average Yield
    2.36 %     2.47 %     2.56 %     3.12 %     2.66 %
 
 
13

 
There were no gains or losses realized by the Corporation from sales of investment securities available for sale for the three months ended March 31, 2012 and 2011.

There were no sales of securities held to maturity for the three months ended March 31, 2012 or 2011.
 
Investment securities available for sale with fair values of $25,019,867 and $25,335,254 at March 31, 2012 and December 31, 2011, respectively, were pledged to secure federal funds lines, Federal Home Loan Bank advances, and public and trust deposits as required by law and for other purposes.
 
Investment securities held to maturity with amortized costs of $13,738,523 and $13,778,456 at March 31, 2012 and December 31, 2011, respectively, were pledged to secure federal funds lines and public and trust deposits as required by law and for other purposes.
 
Subsequent to March 31, 2012, the Corporation transferred all of the securities designated as held to maturity to the available for sale designation.  Had the transfer occurred as of March 31, 2012, the unrealized gain on securities available for sale would have increased $1,005,116, to $1,675,277.
 
Restricted equity securities (included in Other assets in the Consolidated Balance Sheets) primarily consist of the following as of March 31, 2012 and December 31, 2011:
 
   
March 31,
   
December 31,
 
   
2012
   
2011
 
             
Federal Home Loan Bank stock
  $ 842,500     $ 842,500  
First National Bankers' Bank stock
    825,000       825,000  
    $ 1,667,500     $ 1,667,500  

 
14

 
NOTE 4 – Loans and Allowance for Loan Losses

At March 31, 2012 and December 31, 2011, the composition of the loan portfolio was as follows:
 
   
March 31
   
December 31,
 
   
2012
   
2011
 
Real estate:
           
Construction and land loans
  $ 34,060,769     $ 37,436,067  
Farmland
    32,704,234       30,360,189  
1-4 family residential mortgage
    54,696,230       53,905,156  
Multifamily
    4,227,996       4,083,577  
Commercial
    80,312,419       76,210,622  
Agriculture
    21,128,904       16,504,150  
Commercial
    25,072,682       26,861,247  
Consumer
    13,037,410       13,533,716  
States and political subdivisions
    4,530,180       4,108,510  
Other loans
    40,908       90,086  
Gross loans held for investment
    269,811,732       263,093,320  
Allowance for loan losses
    (5,111,534 )     (4,901,550 )
Net loans held for investment
    264,700,198       258,191,770  
Loans held for sale
    137,755       169,400  
Total loans
  $ 264,837,953     $ 258,361,170  
 
Historically, the Bank has acted in an agent or broker capacity when originating mortgage loans for customers.  During 2011, the Bank began to originate mortgage loans in a principal capacity and hold them for resale.

The following table summarizes the activity in the allowance for loan losses for the three month periods ended (in thousands):

    March 31,
   
2012
   
2011
 
             
Balance at beginning of year
    4,902       5,140  
                 
Provision charged to expense
    200       300  
                 
Loans charged off
    (32 )     (121 )
                 
Recoveries
    42       85  
                 
Balance at end of period
    5,112       5,404  

 
15


At March 31, 2012 and 2011, nonaccrual loans totaled $13,815,000 and $17,280,000, respectively.

The Corporation assigns a risk rating to each loan when approved.  The rating categories are based on information about the ability of borrowers to service the debt.  Such information includes, among other things, current financial information, payment history, credit documentation and current economic conditions.  Loan Officers are expected and required to initiate recommendations for changes in assigned risk ratings according to changes in the overall levels of risk in each loan in their portfolio no less than monthly. The current risk rating will be reviewed from time to time by the Chief Credit Officers and the Special Assets Officer for concurrence.  The Corporation uses the following guidelines in determining the appropriate risk rating:

Grade 1:  Investment Grade – There is an absence of credit risk. Loans in this category are fully secured by United Bank certificates of deposit or savings accounts (demand deposit accounts are not eligible as collateral). The certificate should be sufficient in amount to cover principal and interest.

Grade 2:  Minimal Credit Risk – The overall financial condition is very strong.  Businesses should have high liquidity, a history of stable and predictable earnings, a strong management team and the primary source of repayment is clear and subject to little risk. Customers should have a substantial net worth in liquid assets with a well defined source of repayment.

Grade 3:  Attractive Credit Risk - The overall financial condition is good. Financial statements are current and show satisfactory income, profits, cash flow, and debt service coverage, debt to worth ratio and credit history. Loans in this category are properly structured and documented and require only minimal supervision.

Grade 4:  Average Risk – The overall financial condition is average. Credit history has been satisfactory. Refinancing could be obtained with normal effort.  Financial statements are current and show some volatility in income, profits, cash flow, debt service coverage or credit history.  The volatility is easily identifiable and has been addressed and does not constitute an unwarranted level of risk.

Grade 5:  Acceptable Risk – The overall financial condition of the business or individual is acceptable. There is more than average credit risk and the credit should be more closely watched but there is little chance of loss.  While acceptable, loans in this category may warrant close monitoring for any number of reasons including inconsistent earnings, leveraged balance sheet, economic conditions, collateral requiring close supervision, financial information that is stale or incomplete or irregular payment record.
 
 
16

 
Grade 6:  Monitor - This asset has potential weakness and deserves management attention. If left uncorrected the potential weakness may result in deterioration of the overall financial condition. There is no room for debt expansion and they are fully leveraged. If liquidation were to take place there could be a minimal loss and thus an analysis should be made to determine if a specific reserve is needed.

Grade 7:  Substandard – This asset is inadequately protected by the current sound worth and paying capacity of the obligor or of the collateral pledged. Loans in this category involve more than a normal risk. There is limited opportunity to refinance. If liquidation were to take place there could be some recognized loss exposure.  If the loan is determined to be impaired, an analysis will be performed to determine the amount of reserve, if any, to be recognized.

Grade 8: Doubtful – A loss is highly likely and there probably will be a default. There is no ability to refinance.  At this point collection effort should be in full process. Loans in this category will be reserved at a specific amount in line with the impairment analysis performed if the loan is determined to be impaired.
 
These risk ratings are summarized into categories as follows:  Pass includes loans with Grades 1-5, Special Mention includes loans with a Grade of 6, and Substandard / Doubtful include loans with Grades 7 and 8.
 
The following tables summarize the credit risk profile of the loan portfolio by internally assigned grades as of March 31, 2012 (in thousands).
 
         
Special
   
Substandard
       
   
Pass
   
Mention
   
/ Doubtful
   
Total
 
Real estate:
                       
Construction and land loans
  $ 20,289     $ 3,013     $ 10,759     $ 34,061  
Farmland
    24,448       6,474       1,782       32,704  
1-4 family residential mortgage
    51,267       2,838       591       54,696  
Multifamily
    4,228       -       -       4,228  
Commercial
    61,264       9,604       9,445       80,313  
Agriculture
    17,573       1,958       1,598       21,129  
Commercial
    23,326       924       823       25,073  
Consumer
    12,963       45       29       13,037  
States and political subdivisions
    4,530       -       -       4,530  
Other loans
    41       -       -       41  
Total
  $ 219,929     $ 24,856     $ 25,027     $ 269,812  

Approximately $551,000 of the $25,027,000 identified as Substandard / Doubtful above were considered Doubtful as of March 31, 2012.
 
 
17

 
The following table summarizes the credit risk profile of the loan portfolio by internally assigned grades as of December 31, 2011 (in thousands):
 
         
Special
   
Substandard
       
   
Pass
   
Mention
   
/ Doubtful
   
Total
 
Real estate:
                       
Construction and land loans
    23,581     $ 3,030     $ 10,825     $ 37,436  
Farmland
    21,763       6,631       1,966       30,360  
1-4 family residential mortgage
    50,459       2,822       624       53,905  
Multifamily
    4,084       -       -       4,084  
Commercial
    57,259       9,451       9,501       76,211  
Agriculture
    13,124       1,804       1,576       16,504  
Commercial
    25,241       782       838       26,861  
Consumer
    13,463       58       13       13,534  
States and political subdivisions
    4,108       -       -       4,108  
Other loans
    90       -       -       90  
Total
  $ 213,172     $ 24,578     $ 25,343     $ 263,093  
 
Approximately $645,000 of the $25,343,000 identified as Substandard / Doubtful above were considered Doubtful as of December 31, 2011.

The following table details the Bank’s allowance for loan loss as of March 31, 2012 and December 31, 2011 (in thousands):
 
   
March 31,
   
December 31,
 
   
2012
   
2011
 
Allowance for loan losses:
           
Real estate:
           
Construction, land development, and other land loans
  $ 2,021     $ 1,933  
Farmland
    331       243  
1-4 family residential mortgage
    462       387  
Multifamily
    10       9  
Commercial
    1,245       1,412  
Agriculture
    161       159  
Commercial
    742       593  
Consumer
    128       155  
States and political subdivisions
    10       9  
Other loans
    2       2  
Total allowance for loan losses
  $ 5,112     $ 4,902  
 
 
18

 
Changes in the allowance for loan losses for the three months ended March 31, 2012 and 2011 are as follows (in thousands):
 
   
March 31,
   
March 31,
 
   
2012
   
2011
 
Average amount of loans outstanding
  $ 262,344     $ 259,411  
                 
Allowance for loan losses:
               
Beginning balance
  $ 4,902     $ 5,140  
Loans charged off:
               
Real estate:
               
Construction and land loans
    -       (37 )
Farmland
    -       -  
1-4 family residential mortgage
    -       (41 )
Multifamily
    -       -  
Commercial
    -       (9 )
Agriculture
    -       (17 )
Commercial
    (28 )     (1 )
Consumer
    (4 )     (16 )
States and political subdivisions
    -       -  
Other loans
    -       -  
                 
Total charged off
    (32 )     (121 )
Recoveries:
               
Real estate:
               
Construction and land loans
    1       2  
Farmland
    -       -  
1-4 family residential mortgage
    6       3  
Multifamily
    -       -  
Commercial
    25       9  
Agriculture
    1       4  
Commercial
    2       60  
Consumer
    7       7  
States and political subdivisions
    -       -  
Other loans
    -       -  
Total recoveries
    42       85  
Loans recovered (charged off), net
    10       (36 )
Additions to the allowance charged to operations
    200       300  
Ending balance
  $ 5,112     $ 5,404  
                 
Net charge offs to average loans
    0.00 %     0.01 %

 
19

 
A loan is considered impaired when, based on current information and events; it is probable that the Bank will be unable to collect all amounts due (both principal and interest) according to the terms of the loan agreement.

The following tables detail the Bank’s impaired loans, by portfolio class, as of March 31, 2012 (in thousands):
 
         
Unpaid
         
Average
   
Interest
 
   
Recorded
   
Principal
   
Related
   
Recorded
   
Income
 
   
Investment
   
Balance
   
Allowance
   
Investment
   
Recognized
 
With no specific allowance reserved
                             
Real estate:
                             
Construction and land loans
  $ 1,696     $ 1,940     $ -     $ 1,221     $ 7  
Farmland
    -       -       -       199       -  
1-4 family residential mortgage
    815       815       -       684       7  
Multifamily
    -       -       -       -       -  
Commercial
    1,891       1,891       -       1,368       9  
Agriculture
    1,420       1,420       -       1,420       28  
Commercial
    166       2,135       -       212       3  
Consumer
    -       -       -       -       -  
States and political subdivisions
    -       -       -       -       -  
Other loans
    -       -       -       -       -  
Total
  $ 5,988     $ 8,201     $ -     $ 5,104     $ 54  
 
         
Unpaid
         
Average
   
Interest
 
   
Recorded
   
Principal
   
Related
   
Recorded
   
Income
 
   
Investment
   
Balance
   
Allowance
   
Investment
   
Recognized
 
With specific allowance reserved
                             
Real estate:
                             
Construction and land loans
  $ 8,064     $ 9,941     $ 1,143     $ 8,072     $ 74  
Farmland
    654       654       244       457       -  
1-4 family residential mortgage
    132       132       4       341       4  
Multifamily
    -       -       -       -       -  
Commercial
    5,248       5,578       689       4,672       87  
Agriculture
    -       -       -       -       -  
Commercial
    1,065       1,175       408       825       2  
Consumer
    -       -       -       -       -  
States and political subdivisions
    -       -       -       -       -  
Other loans
    -       -       -       -       -  
Total
  $ 15,163     $ 17,480     $ 2,488     $ 14,367     $ 167  

 
20


         
Unpaid
         
Average
   
Interest
 
   
Recorded
   
Principal
   
Related
   
Recorded
   
Income
 
   
Investment
   
Balance
   
Allowance
   
Investment
   
Recognized
 
Total Impaired Loans
                             
Real estate:
                             
Construction and land loans
  $ 9,760     $ 11,881     $ 1,143     $ 9,293     $ 81  
Farmland
    654       654       244       656       -  
1-4 family residential mortgage
    947       947       4       1,025       11  
Multifamily
    -       -       -       -       -  
Commercial
    7,139       7,469       689       6,040       96  
Agriculture
    1,420       1,420       -       1,420       28  
Commercial
    1,231       3,310       408       1,037       5  
Consumer
    -       -       -       -       -  
States and political subdivisions
    -       -       -       -       -  
Other loans
    -       -       -       -       -  
Total
  $ 21,151     $ 25,681     $ 2,488     $ 19,471     $ 221  
 
The following tables detail the Bank’s impaired loans, by portfolio class, as of December 31, 2011 (in thousands):

         
Unpaid
         
Average
   
Interest
 
   
Recorded
   
Principal
   
Related
   
Recorded
   
Income
 
   
Investment
   
Balance
   
Allowance
   
Investment
   
Recognized
 
With no specific allowance reserved
                             
Real estate:
                             
Construction and land loans
  $ 746     $ 990     $ -     $ 1,140     $ 9  
Farmland
    397       397       -       1,179       -  
1-4 family residential mortgage
    552       552       -       688       21  
Multifamily
    -       -       -       -       -  
Commercial
    845       845       -       429       45  
Agriculture
    1,420       1,420       -       1,362       163  
Commercial
    257       2,335       -       547       2  
Consumer
    -       -       -       41       -  
States and political subdivisions
    -       -       -       -       -  
Other loans
    -       -       -       -       -  
Total
  $ 4,217     $ 6,539     $ -     $ 5,386     $ 240  
 
 
21


         
Unpaid
         
Average
   
Interest
 
   
Recorded
   
Principal
   
Related
   
Recorded
   
Income
 
   
Investment
   
Balance
   
Allowance
   
Investment
   
Recognized
 
                               
With specific allowance reserved
                             
Real estate:
                             
Construction and land loans
  $ 8,079     $ 9,957     $ 1,142     $ 8,023     $ 63  
Farmland
    259       259       125       170       -  
1-4 family residential mortgage
    550       550       28       554       34  
Multifamily
    -       -       -       -       -  
Commercial
    4,095       4,425       868       3,346       86  
Agriculture
    -       -       -       122       -  
Commercial
    585       585       265       984       2  
Consumer
    -       -       -