United States Securities and Exchange Commission
WASHINGTON, D. C. 20549
FORM 10-Q
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þ
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Quarterly Report Under Section 13 or 15(d) of the Securities Exchange Act of 1934
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For the quarterly period ended June 30, 2008
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o
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Transition Report Under Section 13 or 15(d) of the Securities Exchange Act of
1934
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For the transition period ended
Commission File Number
000-33223
GATEWAY FINANCIAL HOLDINGS, INC.
(Exact name of registrant as specified in its charter)
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NORTH CAROLINA
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56-2264354
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(State or other jurisdiction of
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(IRS Employer
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incorporation or organization)
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Identification Number)
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1580 LASKIN ROAD, VIRGINIA BEACH, VIRGINIA 23451
(Address of principal executive office)
(757) 422-4055
(Issuers telephone number)
Check whether the issuer (1) filed all reports required to be filed by Section 13 or 15(d) of the
Exchange Act of 1934 during the past 12 months (or for such shorter period that the registrant was
required to file such reports) and (2) has been subject to such filing requirements for the past
90 days. Yes
o
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 accelerated filer and
large accelerated filer in Rule 12b-2 of the Exchange Act.
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Large accelerated filer
o
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Accelerated filer
þ
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Non-accelerated filer
o
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Smaller reporting company
o
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(Do not check if a smaller reporting company)
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Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the
Exchange Act). Yes
o
No
o
As of August 7, 2008, 12,697,222 shares of the issuers common stock, no par value, were
outstanding.
Part I. FINANCIAL INFORMATION
Item 1 Financial Statements
GATEWAY FINANCIAL HOLDINGS, INC. AND SUBSIDIARY
CONSOLIDATED BALANCE SHEETS
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June 30, 2008
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December 31,
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(Unaudited)
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2007*
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(in thousands, except share data)
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ASSETS
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Cash and due from banks
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$
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33,606
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$
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19,569
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Interest-earning deposits in other banks
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636
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1,092
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Trading securities
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10,051
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23,011
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Investment securities available for sale, at fair value
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139,831
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126,750
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Mortgage loans held for sale
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6,012
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5,624
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Loans
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1,745,995
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1,516,777
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Allowance for loan losses
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(18,203
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)
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(15,339
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)
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NET LOANS
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1,727,792
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1,501,438
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Accrued interest receivable
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10,929
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12,330
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Stock in Federal Reserve Bank, at cost
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6,098
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5,348
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Stock in Federal Home Loan Bank of Atlanta, at cost
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10,954
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10,312
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Premises and equipment, net
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73,714
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73,614
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Intangible assets, net
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4,761
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5,069
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Goodwill
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46,006
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46,006
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Bank-owned life insurance
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40,947
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26,105
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Real estate owned
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2,985
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482
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Other assets
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13,403
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11,435
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TOTAL ASSETS
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$
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2,127,725
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$
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1,868,185
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LIABILITIES AND STOCKHOLDERS EQUITY
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Deposits
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Demand
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$
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147,416
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$
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123,885
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Savings
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26,436
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16,685
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Money market and NOW
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672,097
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385,838
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Time
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772,592
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882,511
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TOTAL DEPOSITS
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1,618,541
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1,408,919
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Short-term borrowings
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63,501
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33,000
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Long-term borrowings $13,023 and $14,865 at fair value as of
June 30, 2008 and December 31, 2007, respectively
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273,761
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249,102
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Accrued expenses and other liabilities
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8,238
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12,757
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TOTAL LIABILITIES
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1,964,041
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1,703,778
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Stockholders Equity
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Non-cumulative, perpetual preferred stock, $1,000 liquidation
value per share, 1,000,000 shares authorized, 23,266 issued
and outstanding at June 30, 2008 and December 31, 2007
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23,182
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23,182
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Common stock, no par value, 30,000,000 shares authorized, 12,695,021
and 12,558,625 shares issued and outstanding at June 30, 2008 and
December 31, 2007, respectively
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127,913
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127,258
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Retained earnings
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16,684
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14,991
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Accumulated other comprehensive loss
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(4,095
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)
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(1,024
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)
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TOTAL STOCKHOLDERS EQUITY
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163,684
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164,407
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TOTAL LIABILITIES AND
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STOCKHOLDERS EQUITY
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$
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2,127,725
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$
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1,868,185
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*
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Derived from audited consolidated financial statements.
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See accompanying notes.
-3-
GATEWAY FINANCIAL HOLDINGS, INC. AND SUBSIDIARY
CONSOLIDATED STATEMENTS OF OPERATIONS (Unaudited)
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Three Months Ended
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Six Months Ended
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June 30,
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June 30,
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2008
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2007
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2008
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2007
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(in thousands, except share and per share data)
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Interest Income
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Interest and fees on loans
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$
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26,957
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$
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24,114
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$
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54,530
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$
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44,498
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Trading account securities
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136
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349
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404
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861
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Investment securities available for sale:
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Taxable
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1,800
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1,123
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3,400
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1,519
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Tax-exempt
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116
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116
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234
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186
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Interest-earning bank deposits
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11
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138
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51
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172
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Other interest and dividends
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277
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207
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539
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391
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Total Interest Income
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29,297
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26,047
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59,158
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47,627
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Interest Expense
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Money market, NOW, and savings deposits
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3,579
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2,610
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6,649
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4,866
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Time deposits
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9,048
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8,846
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20,028
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15,720
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Short-term borrowings
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140
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543
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436
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818
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Long-term borrowings
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2,810
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2,339
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5,691
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4,475
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Total Interest Expense
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15,577
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14,338
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32,804
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25,879
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Net Interest Income
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13,720
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11,709
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26,354
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21,748
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Provision for Loan Losses
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2,200
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1,350
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3,800
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2,550
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Net Interest Income After
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Provision for Loan Losses
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11,520
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10,359
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22,554
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19,198
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Non-Interest Income
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Service charges on deposit accounts
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1,146
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998
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2,052
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1,875
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Mortgage operations
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875
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733
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1,638
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1,665
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Loss and net cash settlements on
economic hedge
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(948
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)
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(759
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)
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Gain on sale of securities available for sale
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800
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163
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Gain (loss) from trading securities
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(54
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)
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(21
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)
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(3
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)
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|
259
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Insurance operations
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1,410
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1,518
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3,056
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2,839
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Brokerage operations
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104
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196
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195
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462
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Income from bank-owned life insurance
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445
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267
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843
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528
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Fair value gain on junior subordinate debentures
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256
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8
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1,842
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50
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Other
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|
659
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366
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1,296
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684
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Total Non-Interest Income
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4,841
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3,117
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11,719
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7,766
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Non-Interest Expense
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Personnel costs
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7,412
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5,726
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14,778
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10,985
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Occupancy and equipment
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2,455
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|
2,007
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|
4,873
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|
3,817
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Data processing fees
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|
620
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|
426
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1,280
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|
879
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Other (Note 4)
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|
3,268
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|
2,258
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6,250
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4,262
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Total Non-Interest Expense
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13,755
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|
10,417
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27,181
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19,943
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|
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Income Before Income Taxes
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|
2,606
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|
|
|
3,059
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|
|
|
7,092
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|
|
|
7,021
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|
|
|
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|
|
|
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|
|
|
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|
|
|
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|
Income Tax Expense
|
|
|
646
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|
|
|
1,040
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|
|
|
2,009
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|
|
|
2,488
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|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net Income
|
|
|
1,960
|
|
|
|
2,019
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|
|
|
5,083
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|
|
|
4,533
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|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
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|
Dividend on preferred stock
|
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|
506
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|
|
|
|
|
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|
1,012
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|
|
|
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|
|
|
|
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|
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|
|
|
|
|
|
|
|
|
|
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|
|
|
|
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|
|
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|
Net Income Available to Common Shareholders
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|
$
|
1,454
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|
|
$
|
2,019
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|
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$
|
4,071
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|
|
$
|
4,533
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|
|
|
|
|
|
|
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Net Income Per Common Share
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Basic
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$
|
0.12
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$
|
0.17
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$
|
0.33
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$
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0.40
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Diluted
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|
0.11
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|
|
0.17
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|
|
0.32
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|
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0.39
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Weighted Average Common Shares Outstanding
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|
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|
|
|
|
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|
Basic
|
|
|
12,535,189
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|
|
|
11,608,656
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|
|
|
12,519,089
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|
|
|
11,301,222
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|
Diluted
|
|
|
12,852,137
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|
|
|
11,950,358
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|
|
|
12,897,186
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|
|
|
11,619,485
|
|
See accompanying notes.
-4-
GATEWAY FINANCIAL HOLDINGS, INC. AND SUBSIDIARY
CONSOLIDATED STATEMENT OF STOCKHOLDERS EQUITY (Unaudited)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
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|
|
|
|
|
|
|
|
|
|
|
|
Accumulated
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Other Com-
|
|
|
Total
|
|
|
|
Preferred Stock
|
|
|
Common Stock
|
|
|
Retained
|
|
|
Comprehensive
|
|
|
Stockholders
|
|
|
|
Shares
|
|
|
Amount
|
|
|
Shares
|
|
|
Amount
|
|
|
Earnings
|
|
|
Loss
|
|
|
Equity
|
|
|
|
(in thousands, except share data)
|
|
Balance at December 31, 2007
|
|
|
23,266
|
|
|
$
|
23,182
|
|
|
|
12,558,625
|
|
|
$
|
127,258
|
|
|
$
|
14,991
|
|
|
$
|
(1,024
|
)
|
|
$
|
164,407
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Cumulative-effect adjustment
resulting from the adoption of
EITF 06-4
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
(352
|
)
|
|
|
|
|
|
|
(352
|
)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Comprehensive income:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net income
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
5,083
|
|
|
|
|
|
|
|
5,083
|
|
Other comprehensive loss, net of tax
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
(3,071
|
)
|
|
|
(3,071
|
)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total comprehensive income
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
2,012
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Issuance of restricted stock
|
|
|
|
|
|
|
|
|
|
|
95,000
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Shares issued from options exercised
|
|
|
|
|
|
|
|
|
|
|
41,396
|
|
|
|
286
|
|
|
|
|
|
|
|
|
|
|
|
286
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Stock based compensation related
to restricted stock
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
234
|
|
|
|
|
|
|
|
|
|
|
|
234
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Stock based compensation related
to options
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
25
|
|
|
|
|
|
|
|
|
|
|
|
25
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Tax benefits from the exercise of options
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
110
|
|
|
|
|
|
|
|
|
|
|
|
110
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Cash dividends on:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Common stock ($0.16 per share)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
(2,026
|
)
|
|
|
|
|
|
|
(2,026
|
)
|
Non-cumulative, perpetual preferred stock
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
(1,012
|
)
|
|
|
|
|
|
|
(1,012
|
)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Balance at June 30, 2008
|
|
|
23,266
|
|
|
$
|
23,182
|
|
|
|
12,695,021
|
|
|
$
|
127,913
|
|
|
$
|
16,684
|
|
|
$
|
(4,095
|
)
|
|
$
|
163,684
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
See accompanying notes.
-5-
GATEWAY FINANCIAL HOLDINGS, INC. AND SUBSIDIARY
CONSOLIDATED STATEMENTS OF CASH FLOWS (Unaudited)
|
|
|
|
|
|
|
|
|
|
|
Six Months Ended
|
|
|
|
June 30,
|
|
|
|
2008
|
|
|
2007
|
|
|
|
(in thousands)
|
|
Cash Flows from Operating Activities
|
|
|
|
|
|
|
|
|
Net income
|
|
$
|
5,083
|
|
|
$
|
4,533
|
|
Adjustments to reconcile net income to net cash provided
by operating activities:
|
|
|
|
|
|
|
|
|
Amortization of intangibles
|
|
|
309
|
|
|
|
465
|
|
Depreciation and amortization
|
|
|
2,160
|
|
|
|
1,289
|
|
Provision for loan losses
|
|
|
3,800
|
|
|
|
2,550
|
|
Proceeds from the sale of real estate owned
|
|
|
68
|
|
|
|
|
|
Gain on sale of real estate owned
|
|
|
(16
|
)
|
|
|
|
|
Valuation loss related to real estate owned
|
|
|
35
|
|
|
|
|
|
Market value loss on economic hedge
|
|
|
|
|
|
|
193
|
|
Gain on sale of investment securities available for sale
|
|
|
(800
|
)
|
|
|
(163
|
)
|
(Gain) loss from trading securities
|
|
|
3
|
|
|
|
(259
|
)
|
Gain from fair value on junior subordinated debt
|
|
|
(1,842
|
)
|
|
|
(50
|
)
|
Stock based compensation
|
|
|
259
|
|
|
|
199
|
|
Proceeds from sale of loans
|
|
|
3,971
|
|
|
|
|
|
Gain on sale of loans
|
|
|
(347
|
)
|
|
|
|
|
Proceeds from sale of mortgage loans held for sale
|
|
|
85,967
|
|
|
|
98,811
|
|
Mortgage loan originations held for sale
|
|
|
(86,355
|
)
|
|
|
(93,520
|
)
|
Income on bank-owned life insurance
|
|
|
(843
|
)
|
|
|
(528
|
)
|
Changes in assets and liabilities:
|
|
|
|
|
|
|
|
|
Decrease (increase) in accrued interest receivable
|
|
|
1,401
|
|
|
|
(1,278
|
)
|
Increase in other assets
|
|
|
(45
|
)
|
|
|
(3,471
|
)
|
Decrease (increase) in accrued expenses and other liabilities
|
|
|
(4,871
|
)
|
|
|
1,630
|
|
|
|
|
|
|
|
|
Net Cash Provided by Operating Activities
|
|
|
7,937
|
|
|
|
10,401
|
|
|
|
|
|
|
|
|
Cash Flows from Investing Activities
|
|
|
|
|
|
|
|
|
Cash received (paid) from investment securities available
for sale transactions:
|
|
|
|
|
|
|
|
|
Purchases
|
|
|
(57,482
|
)
|
|
|
(89,640
|
)
|
Maturities
|
|
|
6,045
|
|
|
|
3,367
|
|
Sales
|
|
|
34,004
|
|
|
|
22,269
|
|
Cash received (paid) from trading securities for sale transactions:
|
|
|
|
|
|
|
|
|
Purchases
|
|
|
(25,148
|
)
|
|
|
(69,962
|
)
|
Maturities
|
|
|
23,000
|
|
|
|
|
|
Sales
|
|
|
|
|
|
|
42,337
|
|
Calls
|
|
|
15,000
|
|
|
|
|
|
Cash and cash equivalents acquired with The Bank of Richmond acquisition
|
|
|
|
|
|
|
17,974
|
|
Cash paid for subsidiary acquisition
|
|
|
|
|
|
|
(445
|
)
|
Cash paid through June 30, 2007 for The Bank of Richmond acquisition
|
|
|
|
|
|
|
(14,636
|
)
|
Purchase of bank-owned life insurance
|
|
|
(14,000
|
)
|
|
|
|
|
Net increase in loans
|
|
|
(236,368
|
)
|
|
|
(197,595
|
)
|
Proceeds from sale of premises and equipment
|
|
|
702
|
|
|
|
|
|
Purchases of premises and equipment
|
|
|
(2,698
|
)
|
|
|
(5,007
|
)
|
Redemption (purchase) of FHLB stock
|
|
|
(642
|
)
|
|
|
1,270
|
|
Purchase of FRB stock
|
|
|
(750
|
)
|
|
|
(75
|
)
|
|
|
|
|
|
|
|
Net Cash Used by Investing Activities
|
|
|
(258,337
|
)
|
|
|
(290,143
|
)
|
|
|
|
|
|
|
|
Cash Flows from Financing Activities
|
|
|
|
|
|
|
|
|
Net increase in deposits
|
|
|
209,622
|
|
|
|
309,934
|
|
Net increase in short-term borrowings
|
|
|
30,501
|
|
|
|
27,567
|
|
Net increase (decrease) in long-term borrowings
|
|
|
26,500
|
|
|
|
(19,176
|
)
|
Cash dividends paid
|
|
|
(3,038
|
)
|
|
|
(1,435
|
)
|
Tax benefit of options exercised
|
|
|
110
|
|
|
|
10
|
|
Repurchase of common stock
|
|
|
|
|
|
|
(1,361
|
)
|
Proceeds from the exercise of stock options
|
|
|
286
|
|
|
|
27
|
|
Proceeds from the issuance of common stock
|
|
|
|
|
|
|
286
|
|
|
|
|
|
|
|
|
Net Cash Provided by Financing Activities
|
|
|
263,981
|
|
|
|
315,852
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net Increase in Cash and Cash Equivalents
|
|
|
13,581
|
|
|
|
36,110
|
|
Cash and Cash Equivalents, Beginning
|
|
|
20,661
|
|
|
|
26,794
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Cash and Cash Equivalents, Ending
|
|
$
|
34,242
|
|
|
$
|
62,904
|
|
|
|
|
|
|
|
|
See accompanying notes.
-6-
GATEWAY FINANCIAL HOLDINGS, INC. AND SUBSIDIARY
CONSOLIDATED STATEMENTS OF CASH FLOWS (Unaudited)
|
|
|
|
|
|
|
|
|
|
|
Six Months Ended
|
|
|
June 30,
|
|
|
2008
|
|
2007
|
|
|
|
(in thousands)
|
|
|
Supplemental disclosure of cash flow information:
|
|
|
|
|
|
|
|
|
Transfer to REO
|
|
$
|
2,590
|
|
|
$
|
350
|
|
Investment securities transferred from available for sale to trading
|
|
$
|
|
|
|
$
|
51,012
|
|
Cash obligation still to be paid for The Bank of Richmond acquisition
|
|
$
|
|
|
|
$
|
11,776
|
|
|
|
|
|
|
|
|
|
|
Merger acquisition of subsidiary company:
|
|
|
|
|
|
|
|
|
Fair value of assets acquired
|
|
$
|
|
|
|
$
|
217,957
|
|
Fair value of liabilities assumed
|
|
$
|
|
|
|
$
|
179,593
|
|
|
|
|
|
|
|
|
|
|
Common stock issued and stock options assumed
|
|
$
|
|
|
|
$
|
29,792
|
|
See accompanying notes.
-7-
GATEWAY FINANCIAL HOLDINGS, INC. AND SUBSIDIARY
Notes to Consolidated Financial Statements
Note 1 Basis of Presentation
Gateway Bank & Trust Co. (the Bank) was incorporated November 24, 1998 and began banking
operations on December 1, 1998. Effective October 1, 2001, the Bank became a wholly-owned
subsidiary of Gateway Financial Holdings, Inc. (the Company), a financial holding company whose
principal business activity consists of the ownership of the Bank, Gateway Capital Statutory Trust
I, Gateway Capital Statutory Trust II, Gateway Capital Statutory Trust III, and Gateway Capital
Statutory Trust IV.
The Bank is engaged in general commercial and retail banking in Eastern and Central North Carolina
and in the Richmond, Lynchburg, Charlottesville, and Tidewater areas of Virginia, operating under
state banking laws and the rules and regulations of the Federal Reserve System and the North
Carolina Commissioner of Banks. The Bank undergoes periodic examinations by those regulatory
authorities.
The Bank has four wholly-owned subsidiaries: Gateway Bank Mortgage, Inc., which began operations
during the second quarter of 2006, whose principal activity is to engage in originating and
processing mortgage loans; Gateway Investment Services, Inc., whose principal activity is to engage
in brokerage services as an agent for non-bank investment products and services; Gateway Title
Agency, Inc., acquired in January 2007, with offices in Newport News, Hampton, and Virginia Beach,
Virginia, whose principal activity is to engage in title services for real estate transactions; and
Gateway Insurance Services, Inc., an independent insurance agency with offices in Edenton,
Hertford, Elizabeth City, Moyock, Plymouth, and Kitty Hawk, North Carolina and Chesapeake and
Newport News, Virginia. For reporting purposes, Gateway Title and Gateway Insurance are combined.
The Company formed Gateway Capital Statutory Trust I in 2003, Gateway Capital Statutory Trust II in
2004, Gateway Capital Statutory Trust III in May 2006, and Gateway Capital Statutory Trust IV in
May 2007, all four of which are wholly owned by the Company to facilitate the issuance of trust
preferred securities totaling $8.0 million, $7.0 million, $15.0 million, and $25.0 million,
respectively. Our 2004 adoption of Financial Accounting Standards Board (FASB) Interpretation No.
(FIN) 46,
Consolidation of Variable Interest Entities,
resulted in the deconsolidation of Gateway
Capital Statutory Trust I and II. Upon deconsolidation, the junior subordinated debentures issued
by the Company to the trusts were included in long-term borrowings and the Companys equity
interest in the trusts was included in other assets. The deconsolidation of the trusts did not
materially impact net income.
Generally, trust preferred securities qualify as Tier 1 regulatory capital and are reported in
Federal Reserve regulatory reports as a minority interest in a consolidated subsidiary. The junior
subordinated debentures do not qualify as Tier 1 regulatory capital. On March 1, 2005, the Board of
Governors of the Federal Reserve issued the final rule that retains the inclusion of trust
preferred securities in Tier 1 capital of bank holding companies but with stricter quantitative
limits and clearer qualitative standards. After a transition period, under the new rule which will
become effective as of March 31, 2009, the aggregate amount of trust preferred securities and
certain other capital elements will be limited to 25 percent of Tier 1 capital elements, net of
goodwill less any associated deferred tax liability. The amount of trust preferred securities and
certain other elements in excess of the limit could be included in Tier 2 capital, subject to
restrictions.
All intercompany transactions and balances have been eliminated in consolidation. In managements
opinion, the financial information, which is unaudited, reflects all adjustments (consisting solely
of a normal recurring nature) necessary for a fair presentation of the financial information as of
and for the three and six month periods ended June 30, 2008 and 2007 in conformity with accounting
principles generally accepted in the United States of America.
The preparation of financial statements requires management to make estimates and assumptions that
affect reported amounts of assets and liabilities at the date of the financial statements, as well
as the amounts of income and expense during the reporting period. Actual results could differ from
those estimates. Operating results for the six-month period ended June 30, 2008 are not necessarily
indicative of the results that may be expected for the fiscal year ending December 31, 2008.
The organization and business of the Company, the accounting policies followed by the Company and
other relevant information are contained in the notes to the consolidated financial statements
filed as part of the Companys 2007 annual report on Form 10-K. This quarterly report should be
read in conjunction with such annual report.
-8-
GATEWAY FINANCIAL HOLDINGS, INC. AND SUBSIDIARY
Notes to Consolidated Financial Statements
Note 1 Basis of Presentation (Continued)
In 2006 the Emerging Issues Task Force issued EITF Issue 06-4,
Accounting for Deferred Compensation
and Postretirement Benefits Aspects of Endorsement Split-Dollar Life Insurance Arrangements,
which
requires the recognition of a liability related to the postretirement benefits covered by an
endorsement split-dollar life insurance arrangement. The employer (who is also the policyholder)
has a liability for the benefit it is providing to its employee. As such, if the policyholder has
agreed to maintain the insurance policy in force for the employees benefit during his or her
retirement, then the liability recognized during the employees active service period should be
based on the future cost of insurance to be incurred during the employees retirement.
Alternatively, if the policyholder has agreed to provide the employee with a death benefit, then
the liability for the future death benefit should be recognized by following the guidance in
Statement 106 or Opinion 12, as appropriate. This issue is applicable for interim or annual
reporting periods beginning after December 15, 2007. The Company adopted the provisions of EITF
Issue 06-4 effective January 1, 2008, and as a result had to establish an initial liability of
approximately $352,000, which in accordance with the standard was recorded as a cumulative-effect
adjustment, reducing retained earnings as of January 1, 2008. Additionally, the adoption of the
issue resulted in increased personnel costs of approximately $30,000 and $61,000, respectively, for
the three and six months ended June 30, 2008.
In November 2007, the Securities and Exchange Commission issued Staff Accounting Bulletin (SAB)
No. 109,
Written Loan Commitments Recorded at Fair Value Through Earnings,
which addresses the
valuation of written loan commitments accounted for at fair value through earnings. The guidance in
SAB No. 109 expresses the staffs view that the measurement of fair value for a written loan
commitment accounted for at fair value through earnings should incorporate the expected net future
cash flows related to the associated servicing of the loan. Previously under SAB No. 105,
Application of Accounting Principles to Loan Commitments
, this component of value was not
incorporated into the fair value of the loan commitment. The impact of SAB No. 109 accelerated the
recognition of the estimated fair value of the servicing inherent in the loan to the commitment
date. The adoption of SAB No. 109 resulted in increased revenues of approximately $45,000 for the
three and six months ended June 30, 2008.
Note 2 Stock Compensation Plans
Effective January 1, 2006, the Company adopted Statements of Financial Accounting Standards
(SFAS) No. 123R,
Share-Based Payment
, which was issued by the FASB in December 2004. SFAS
No. 123R revises SFAS No. 123,
Accounting for Stock Based Compensation
, and supersedes APB No. 25,
Accounting for Stock Issued to Employees
, 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 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 flows 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 Companys common stock on the date of the grant.
The Company had four share-based compensation plans in effect at June 30, 2008. The compensation
cost that has been charged against income for those plans was approximately $130,000 and $259,000
for the three and six months ended June 30, 2008, respectively. The compensation cost that has been
charged against income for those plans was approximately $117,000 and $199,000 for the three and
six months ended June 30, 2007, respectively. The Company recorded a deferred tax benefit in the
amount of $50,000 and $100,000 related to share-based compensation for the three and six months
ended June 30, 2008, respectively; and $44,000 and $75,000 during the three and six months ended
June 30, 2007, respectively.
-9-
GATEWAY FINANCIAL HOLDINGS, INC. AND SUBSIDIARY
Notes to Consolidated Financial Statements
Note 2 Stock Compensation Plans (Continued)
During 1999 the Company adopted, with shareholder approval, an Incentive Stock Option Plan (the
Employee Plan) and a Nonstatutory Stock Option Plan (the 1999 Director Plan). During 2001 the
Company increased, with shareholder approval, the number of shares available under its option
plans. In 2002, the Company increased, with shareholder approval, the number of shares available
under the Employee Plan. The Company also adopted a 2001 Nonstatutory Stock Option Plan. On
November 24, 2004, the Company adopted a 2005 Omnibus Stock Ownership and Long-Term Incentive Plan
(the Omnibus Plan) providing for the issuance of up to 726,000 shares of common stock under the
terms of the Omnibus Plan, approved by the shareholders at the annual shareholder meeting. All
options granted prior to November 2004 to non-employee directors vested immediately at the time of
grant, while other options from this pool vest over a four-year period with 20% vesting on the
grant date and 20% vesting annually thereafter. Options granted from the pool of shares made
available on November 24, 2004 to non-employee directors vested immediately at the time of the
grant, while options from this pool granted to employees vested 50% at the time of the grant and
50% the following year. During the year ended December 31, 2006, the Company granted 166,500
nonstatutory options which will vest at 20% per year beginning the month following the quarter in
which the Company achieves a ROA of 1%. During the first half of 2007, the Company granted 500
nonstatutory options with the same vesting criteria as in 2006. The Company granted 20,000 options
during the first half of 2008, which will vest 20% per year beginning on the first anniversary date
of the grant. The Company granted 100,000 shares of restricted stock during the first half of 2008
that vest over a five-year period.
The Company assumed, as a result of the acquisition of The Bank of Richmond, the 1999 BOR Stock
Option Plan, which was adopted by the Board of Directors of The Bank of Richmond as of June 2,
1999. The plan provides for the issuance of up to 601,237 shares of common stock of which 369,048
were outstanding and fully vested as of June 30, 2008.
All unexercised options expire ten years after the date of grant. All references to options have
been adjusted to reflect the effects of stock splits. The exercise price of all options granted to
date under these plans range from $3.95 to $16.53.
The fair market value of each option award is estimated on the date of grant using the
Black-Scholes option pricing model. The Company has assumed a volatility rate of 17.14% to 21.75%,
an expected life of 7 years, interest rates of 4.66% to 3.40%, and a dividend yield of 1.50% in the
Black Scholes computation related to the options granted for the xix months ended June 30, 2007 and
2008. The Company granted 500 nonqualifying stock options during the six months ended June 30,
2007, and the Company granted 20,000 stock options during the six months ended June 30, 2008.
A summary of option activity under the stock option plans as of and for the period ended June 30,
2008 is presented below:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Weighted
|
|
|
|
|
|
|
|
|
|
|
Weighted
|
|
|
Average
|
|
|
|
|
|
|
|
|
|
|
Average
|
|
|
Remaining
|
|
|
Aggregate
|
|
|
|
|
|
|
|
Exercise
|
|
|
Contractual
|
|
|
Intrinsic
|
|
|
|
Shares
|
|
|
Price
|
|
|
Term
|
|
|
Value
|
|
Outstanding at December 31, 2007
|
|
|
1,871,986
|
|
|
$
|
9.59
|
|
|
4.80 Years
|
|
|
|
|
Exercised
|
|
|
(7,360
|
)
|
|
|
5.79
|
|
|
|
|
|
|
|
|
|
Authorized
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Forfeited
|
|
|
(60,200
|
)
|
|
|
14.74
|
|
|
|
|
|
|
|
|
|
Granted
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Outstanding at March 31, 2008
|
|
|
1,804,426
|
|
|
|
9.43
|
|
|
4.46 Years
|
|
$
|
4,817,859
|
|
Exercised
|
|
|
(34,036
|
)
|
|
|
7.13
|
|
|
|
|
|
|
|
|
|
Authorized
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Forfeited
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Granted
|
|
|
20,000
|
|
|
|
10.30
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Outstanding at June 30, 2008
|
|
|
1,790,390
|
|
|
$
|
9.48
|
|
|
4.34 Years
|
|
$
|
1,854,360
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Exercisable at June 30, 2008
|
|
|
1,611,286
|
|
|
$
|
8.96
|
|
|
3.88 Years
|
|
$
|
1,854,360
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
-10-
GATEWAY FINANCIAL HOLDINGS, INC. AND SUBSIDIARY
Notes to Consolidated Financial Statements
Note 2 Stock Compensation Plans (Continued)
For the three and six months ended June 30, 2008, employees exercised 34,036 and 41,396 options,
respectively, with the intrinsic value of options exercised of approximately $125,200 and $158,020.
There were 2,544 options exercised with an intrinsic value of $14,000 for the three and six months
ended June 30, 2007. Cash received from option exercises for the three and six months ended June
30, 2008 was $242,700 and $285,700, respectively. The actual tax benefit in stockholders equity
realized for the tax deductions from exercise of stock options for the three and six months ended
June 30, 2008 was $93,000 and $110,000, respectively. The fair value of options that contractually
vested during the three and six months ended June 30, 2008 was $-0- and $4,200, respectively. The
fair value of options vested during the three and six months ended June 30, 2007 was $12,000 and
$31,000, respectively.
The 100,000 shares of restricted stock granted during the first half of 2008 have a vesting period
of five years (20% per year). For the six months ended June 30, 2008, 6,367 shares with a fair
value of $91,706 vested. No restricted stock vested over the six months ended June 30, 2007.
A summary of restricted stock outstanding during the first six months of 2008 is presented below:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Weighted
|
|
|
|
|
|
|
|
Average
|
|
|
|
|
|
|
|
Grant Date
|
|
|
|
Shares
|
|
|
Fair Value
|
|
Non-vested outstanding at December 31, 2007
|
|
|
61,500
|
|
|
$
|
14.60
|
|
Granted
|
|
|
90,000
|
|
|
|
10.61
|
|
Vested
|
|
|
(6,367
|
)
|
|
|
14.40
|
|
|
|
|
|
|
|
|
Non-vested outstanding at March 31, 2008
|
|
|
145,133
|
|
|
|
12.13
|
|
Granted
|
|
|
10,000
|
|
|
|
7.70
|
|
Forfeited
|
|
|
(5,000
|
)
|
|
|
15.30
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Non-vested outstanding at June 30, 2008
|
|
|
150,133
|
|
|
$
|
11.70
|
|
|
|
|
|
|
|
|
As of June 30, 2008, there was $1.9 million of total unrecognized compensation cost related to
non-vested share-based compensation arrangements granted under all of the Companys stock benefit
plans. The cost expected to be recognized for the remaining quarters of 2008 and for the years
ended 2009, 2010, 2011, 2012, 2013, and 2014 is $277,000, $534,000, $354,000, $305,000, $296,000,
$81,000, and $17,000, respectively.
The Company funds the stock option exercises and restricted stock grants from its authorized but
unissued shares. The Company does not typically purchase shares to fulfill the obligations of the
stock benefit plans.
Note 3 Commitments
In the normal course of business, there are commitments and contingent liabilities, such as
commitments to extend credit, which may or may not require future cash outflows. The following
table reflects commitments of the Company outstanding as of June 30, 2008.
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Amounts
|
|
|
Within
|
|
|
|
|
|
|
|
|
|
|
After
|
|
Other Commitments
|
|
Committed
|
|
|
1 Year
|
|
|
2-3 Years
|
|
|
4-5 Years
|
|
|
5 Years
|
|
|
|
|
(In thousands)
|
|
Undisbursed home equity credit lines
|
|
$
|
69,105
|
|
|
$
|
69,105
|
|
|
$
|
|
|
|
$
|
|
|
|
$
|
|
|
Other commitments and credit lines
|
|
|
302,289
|
|
|
|
302,289
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Undisbursed portion of construction loans
|
|
|
46,529
|
|
|
|
46,529
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Lease obligations
|
|
|
19,129
|
|
|
|
1,599
|
|
|
|
2,835
|
|
|
|
2,349
|
|
|
|
12,346
|
|
Commitments to originate mortgage
loans, fixed and variable
|
|
|
14,756
|
|
|
|
14,756
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Standby letters of credit
|
|
|
19,368
|
|
|
|
19,368
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total other commitments
|
|
$
|
471,176
|
|
|
$
|
453,646
|
|
|
$
|
2,835
|
|
|
$
|
2,349
|
|
|
$
|
12,346
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
-11-
GATEWAY FINANCIAL HOLDINGS, INC. AND SUBSIDIARY
Notes to Consolidated Financial Statements
Note 3 Commitments (Continued)
In addition to the above lease obligations, the Company has entered into a full service office
lease for approximately 50,000 square feet of office space at $24.00 per square foot. The lease
will commence when the landlord has substantially completed the office space, which is estimated to
be no later than July 1, 2010. The lease is contingent upon the landlord successfully acquiring the
land on which the office space will be built by December 31, 2008 and substantially completing the
office space no later than December 31, 2010; otherwise, the Company has the option to terminate
the lease.
Note 4 Other Non-Interest Expense
The major components of other non-interest expense are as follows (in thousands):
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Three Months Ended
|
|
|
Six Months Ended
|
|
|
|
June 30,
|
|
|
June 30,
|
|
|
|
2008
|
|
|
2007
|
|
|
2008
|
|
|
2007
|
|
Advertising and promotion
|
|
$
|
241
|
|
|
$
|
234
|
|
|
$
|
454
|
|
|
$
|
382
|
|
Professional services
|
|
|
445
|
|
|
|
314
|
|
|
|
861
|
|
|
|
641
|
|
FDIC insurance
|
|
|
272
|
|
|
|
156
|
|
|
|
510
|
|
|
|
181
|
|
Franchise and sales and use tax
|
|
|
303
|
|
|
|
224
|
|
|
|
621
|
|
|
|
424
|
|
Amortization of intangibles
|
|
|
155
|
|
|
|
90
|
|
|
|
309
|
|
|
|
208
|
|
Postage, printing, and office supplies
|
|
|
602
|
|
|
|
404
|
|
|
|
1,126
|
|
|
|
770
|
|
Other
|
|
|
1,250
|
|
|
|
836
|
|
|
|
2,369
|
|
|
|
1,656
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
$
|
3,268
|
|
|
$
|
2,258
|
|
|
$
|
6,250
|
|
|
$
|
4,262
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Note 5 Comprehensive Income
A summary of comprehensive income is as follows (in thousands):
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Three Months Ended
|
|
|
Six Months Ended
|
|
|
|
June 30,
|
|
|
June 30,
|
|
|
|
2008
|
|
|
2007
|
|
|
2008
|
|
|
2007
|
|
Net income
|
|
$
|
1,960
|
|
|
$
|
2,019
|
|
|
$
|
5,083
|
|
|
$
|
4,533
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Other comprehensive loss
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Securities available for sale:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Unrealized holding losses on
available-for-sale securities
|
|
|
(4,436
|
)
|
|
|
(2,735
|
)
|
|
|
(4,194
|
)
|
|
|
(3,130
|
)
|
Tax effect
|
|
|
1,708
|
|
|
|
1,057
|
|
|
|
1,615
|
|
|
|
1,205
|
|
Reclassification of gains
recognized in net income
|
|
|
|
|
|
|
|
|
|
|
(800
|
)
|
|
|
(163
|
)
|
Tax effect
|
|
|
|
|
|
|
|
|
|
|
308
|
|
|
|
61
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total other comprehensive loss
|
|
|
(2,728
|
)
|
|
|
(1,678
|
)
|
|
|
(3,071
|
)
|
|
|
(2,027
|
)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Comprehensive income (loss)
|
|
$
|
(768
|
)
|
|
$
|
341
|
|
|
$
|
2,012
|
|
|
$
|
2,506
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
-12-
GATEWAY FINANCIAL HOLDINGS, INC. AND SUBSIDIARY
Notes to Consolidated Financial Statements
Note 6 Per Share Results
Basic earnings per share represents income available to common stockholders divided by the
weighted-average number of common shares outstanding during the period. Diluted earnings per share
reflect additional common shares that would have been outstanding if dilutive potential common
shares had been issued as well as any adjustment to income that would result from the assumed
issuance. Potential common shares that may be issued by the Company relate to outstanding stock
options and restricted stock and are determined using the treasury stock method. The basic and
diluted weighted average shares outstanding are as follows:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Three Months Ended
|
|
|
Six Months Ended
|
|
|
|
June 30,
|
|
|
June 30,
|
|
|
|
2008
|
|
|
2007
|
|
|
2008
|
|
|
2007
|
|
Weighted average outstanding shares used
for basic EPS
|
|
|
12,535,189
|
|
|
|
11,608,656
|
|
|
|
12,519,089
|
|
|
|
11,301,222
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Plus incremental shares from assumed
exercise of:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Stock options
|
|
|
313,339
|
|
|
|
284,852
|
|
|
|
329,067
|
|
|
|
271,600
|
|
Restricted stock
|
|
|
3,609
|
|
|
|
56,850
|
|
|
|
49,030
|
|
|
|
46,663
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Weighted average outstanding shares
used for diluted EPS
|
|
|
12,852,137
|
|
|
|
11,950,358
|
|
|
|
12,897,186
|
|
|
|
11,619,485
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
The Board declared quarterly cash preferred stock dividends of $506,000 for the first and second
quarters of 2008, payable in April and June 2008. The second quarter preferred stock dividend was
deducted from the three months ended June 30, 2008 net income, and the aggregate preferred stock
dividends of $1.01 million were deducted from six months ended June 30, 2008 net income in the
computation of basic and diluted earnings per share. No adjustments were required to be made to
net income, in the computation of diluted earnings per share for the three and six months ended
June 30, 2007. For the three and six months ended June 30, 2008, there were 808,770 and 799,320
options, respectively; and for the three and six months ended June 30, 2007, there were 314,750
options that were antidilutive since the exercise price for these options exceeded the average
market price of the Companys common stock for the respective periods.
Note 7 Business Segment Reporting
In addition to its banking operations, the Company has three other reportable segments: Gateway
Bank Mortgage, Inc., a mortgage company whose principal activity is to engage in originating and
processing mortgage loans; Gateway Investment Services, Inc., whose principal activity is to engage
in brokerage services as an agent for non-bank investment products and services; and its insurance
operations consisting of Gateway Insurance Services, Inc., an independent insurance agency, and
Gateway Title Agency, Inc., an independent title company. Set forth below is certain financial
information for each segment and in total (in thousands).
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total
|
|
|
Elimination
|
|
|
Banking
|
|
|
Mortgage
|
|
|
Brokerage
|
|
|
Insurance
|
|
Total Assets at
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
June 30, 2008
|
|
$
|
2,127,725
|
|
|
$
|
|
|
|
$
|
2,110,690
|
|
|
$
|
6,297
|
|
|
$
|
939
|
|
|
$
|
9,799
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total Assets at
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
June 30, 2007
|
|
$
|
1,749,258
|
|
|
$
|
|
|
|
$
|
1,728,668
|
|
|
$
|
10,640
|
|
|
$
|
779
|
|
|
$
|
9,171
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
-13-
GATEWAY FINANCIAL HOLDINGS, INC. AND SUBSIDIARY
Notes to Consolidated Financial Statements
Note 7 Business Segment Reporting (Continued)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total
|
|
|
Elimination
|
|
|
Banking
|
|
|
Mortgage
|
|
|
Brokerage
|
|
|
Insurance
|
|
Three Months Ended June 30, 2008
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net interest income
|
|
$
|
13,720
|
|
|
$
|
90
|
|
|
$
|
13,594
|
|
|
$
|
32
|
|
|
$
|
|
|
|
$
|
4
|
|
Non-interest income
|
|
|
4,841
|
|
|
|
|
|
|
|
2,441
|
|
|
|
871
|
|
|
|
104
|
|
|
|
1,425
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total income
|
|
$
|
18,561
|
|
|
$
|
90
|
|
|
$
|
16,035
|
|
|
$
|
903
|
|
|
$
|
104
|
|
|
$
|
1,429
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net income
|
|
$
|
1,960
|
|
|
$
|
90
|
|
|
$
|
1,506
|
|
|
$
|
19
|
|
|
$
|
32
|
|
|
$
|
313
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Three Months Ended June 30, 2007
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net interest income
|
|
$
|
11,709
|
|
|
$
|
115
|
|
|
$
|
11,578
|
|
|
$
|
11
|
|
|
$
|
|
|
|
$
|
5
|
|
Non-interest income
|
|
|
3,117
|
|
|
|
|
|
|
|
698
|
|
|
|
705
|
|
|
|
196
|
|
|
|
1,518
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total income
|
|
$
|
14,826
|
|
|
$
|
115
|
|
|
$
|
12,256
|
|
|
$
|
716
|
|
|
$
|
196
|
|
|
$
|
1,523
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net income
|
|
$
|
2,019
|
|
|
$
|
115
|
|
|
$
|
1,531
|
|
|
$
|
25
|
|
|
$
|
44
|
|
|
$
|
304
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Six Months Ended June 30, 2008
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net interest income
|
|
$
|
26,354
|
|
|
$
|
165
|
|
|
$
|
26,148
|
|
|
$
|
34
|
|
|
$
|
|
|
|
$
|
7
|
|
Non-interest income
|
|
|
11,719
|
|
|
|
|
|
|
|
6,819
|
|
|
|
1,634
|
|
|
|
195
|
|
|
|
3,071
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total income
|
|
$
|
38,073
|
|
|
$
|
165
|
|
|
$
|
32,967
|
|
|
$
|
1,668
|
|
|
$
|
195
|
|
|
$
|
3,078
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net income (loss)
|
|
$
|
5,083
|
|
|
$
|
165
|
|
|
$
|
3,993
|
|
|
$
|
(22
|
)
|
|
$
|
59
|
|
|
$
|
888
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Six Months Ended June 30, 2007
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net interest income
|
|
$
|
21,748
|
|
|
$
|
245
|
|
|
$
|
21,470
|
|
|
$
|
26
|
|
|
$
|
|
|
|
$
|
7
|
|
Non-interest income
|
|
|
7,766
|
|
|
|
|
|
|
|
2,828
|
|
|
|
1,637
|
|
|
|
462
|
|
|
|
2,839
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total income
|
|
$
|
29,514
|
|
|
$
|
245
|
|
|
$
|
24,298
|
|
|
$
|
1,663
|
|
|
$
|
462
|
|
|
$
|
2,846
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net income
|
|
$
|
4,533
|
|
|
$
|
245
|
|
|
$
|
3,229
|
|
|
$
|
276
|
|
|
$
|
131
|
|
|
$
|
652
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Note 8 Securities Available for Sale
The amortized cost of the Companys securities available for sale and their fair values were as
follows at the dates indicated:
|
|
|
|
|
|
|
|
|
|
|
June 30,
|
|
|
December 31,
|
|
|
|
2008
|
|
|
2007
|
|
|
|
(in thousands)
|
|
Amortized Cost
|
|
$
|
146,491
|
|
|
$
|
128,416
|
|
Gross unrealized losses
|
|
|
(6,786
|
)
|
|
|
(2,455
|
)
|
Gross unrealized gains
|
|
|
126
|
|
|
|
789
|
|
|
|
|
|
|
|
|
Fair Value
|
|
$
|
139,831
|
|
|
$
|
126,750
|
|
|
|
|
|
|
|
|
The Company evaluates all securities on a quarterly basis, and more frequently when economic
conditions warrant additional evaluations, to determine if an other-than-temporary impairment
(
OTTI
) exists pursuant to guidelines established in FSP 115-1,
The Meaning of
Other-Than-Temporary Impairment and Its Application to Certain Investments
.
-14-
GATEWAY FINANCIAL HOLDINGS, INC. AND SUBSIDIARY
Notes to Consolidated Financial Statements
Note 8 Securities Available for Sale (Continued)
In evaluating the possible impairment of securities, consideration is given to the length of time
and the extent to which the fair value has been less than book value, the financial conditions and
near-term prospects of the issuer, and the ability and intent of the Company to retain its
investment in the issuer for a period of time sufficient to allow for any anticipated recovery in
fair value. In analyzing an issuers financial condition, the Company may consider whether the
securities are issued by the federal government or its agencies or government sponsored agencies,
whether downgrades by bond rating agencies have occurred, and the results of reviews of the
issuers financial condition. If management determines that an investment experienced an OTTI, the
loss is recognized in the income statement as a realized loss. Any recoveries related to the value
of these securities are recorded as an unrealized gain (as other comprehensive income (loss) in
stockholders equity) and not recognized in income until the security is ultimately sold.
Included in securities available for sale at June 30, 2008 were 800,000 shares of Freddie Mac
(FHLMC) 8.375% Series Z preferred stock with an amortized cost of $20.2 million and 800,000
shares of Fannie Mae (FNMA) 8.25% Series S preferred stock with an amortized cost of $20.2
million. The market value of these FHLMC and FNMA securities at June 30, 2008 resulted in a loss
of $532,000 and a loss of $1.1 million, respectively. The difference between the aggregate
amortized cost of these securities and the aggregate market value yields an unrealized loss of $1.6
million, or $993,000 after taxes. Additionally, the securities available for sale at June 30, 2008
included investments in several community bank stocks with an aggregate cost of $8.0 million with
the market value of these securities at June 30, 2008 resulting in a loss of $3.4 million, or $2.1
million after taxes.
During the second quarter of 2008, the market for preferred stock issued by FHLMC and FNMA and the
overall market sentiment towards bank stocks weakened. The quoted market prices for the preferred
stocks have been volatile in recent months. In addition, uncertainties continue to exist with
respect to the financial condition of FHLMC and FNMA, and these uncertainties and general market
and economic conditions have resulted in further material declines in the quoted market prices for
these preferred stocks since June 30, 2008. Management has evaluated the unrealized losses
associated with the preferred stocks and the community bank investments as of June 30, 2008, and,
in managements belief, the unrealized losses are temporary and will recover in a reasonable amount
of time. However, factors discussed above and other circumstances may make it possible that these
securities could require the recording of other-than-temporary impairment losses in one or more
future reporting periods. For further information see
Part II. Item 1A. Risk Factors
of this
Form 10-Q.
At June 30, 2008, the Companys other available-for-sale securities with an unrealized loss
position were, in managements belief, primarily due to differences in market interest rates as
compared to those of the underlying securities. Management does not believe any of these
securities are other-than-temporarily impaired. At June 30, 2008, the Company has both the intent
and ability to hold these impaired securities for a period of time necessary to recover the
unrealized losses; however, the Company may from time to time dispose of an impaired security in
response to asset/liability management decisions, future market movements, business plan changes,
or if the net proceeds could be reinvested at a rate of return that is expected to recover the loss
within a reasonable period of time.
Note 9 Derivatives
The Company had a $150.0 million stand-alone derivative financial instrument that was entered into
on December 30, 2005. The derivative financial instrument was in the form of an interest rate swap
agreement, which derived its value from underlying interest rates. The Company used this interest
rate swap agreement to effectively convert a portion of its variable rate loans to a fixed rate.
These transactions involved both credit and market risk. The notional amount is the amount on which
calculations, payments, and the value of the derivative are based. Notional amounts do not
represent direct credit exposures. Direct credit exposure is limited to the net difference between
the calculated amounts to be received and paid. SFAS No. 133,
Accounting for Derivative Instruments
and Hedging Activities
, requires that changes in the fair value of derivative financial instruments
that are not designated or do not qualify as hedging instruments be reported as an economic gain or
loss in non-interest income.
-15-
GATEWAY FINANCIAL HOLDINGS, INC. AND SUBSIDIARY
Notes to Consolidated Financial Statements
Note 9 Derivatives (Continued)
For the three and six months ended June 30, 2007, a loss of $663,600 and $192,900, respectively,
was recorded related to the change in the fair value of the interest rate swap agreement.
Additionally, this agreement required the Company to make monthly payments at a variable rate
determined by a specified index (prime rate as stated in Publication H-15) in exchange for
receiving payments at a fixed rate. These net cash monthly settlements are also recorded as
non-interest income in the period to which they relate. For the three and six months ended June 30,
2007, the interest rate swap cash settlements decreased non-interest income by $290,700 and
$571,900, respectively. On September 11, 2007, the Company terminated its position in the
stand-alone derivative and received a $115,000 termination fee from the counterparty, and
therefore, there was no gain or loss reported from the derivative financial instrument for the
three and six months ended June 30, 2008. The Company had been exposed to credit related losses in
the event of nonperformance by the counterparty to this agreement until it was terminated. The
Company controlled the credit risk of its financial contracts through credit approvals, limits, and
monitoring procedures, and did not expect the counterparty to fail their obligations. The Company
had been required to provide collateral in the form of U. S. Treasury Securities of $2.0 million to
the counterparty based on the evaluation of the market value of the agreement. The Company received
back its collateral when the financial instrument was terminated.
Note 10 Fair Value Measurement
Effective January 1, 2007, the Company elected early adoption of SFAS No. 157,
Fair Value
Measurements,
and SFAS No. 159,
The Fair Value Option for Financial Assets and Liabilities
. SFAS
No. 157, which was issued in September 2006, establishes a framework for using fair value. It
defines fair value as the price that would be received to sell an asset or paid to transfer a
liability in an orderly transaction between market participants at the measurement date. SFAS
No. 159, which was issued in February 2007, generally permits the measurement of selected eligible
financial instruments at fair value at specified election dates. Upon adoption of SFAS No. 159, the
Company selected the fair value measurement option for various pre-existing financial assets and
liabilities, including certain short-term investment securities used primarily for liquidity and
asset liability management purposes in the available-for-sale portfolio totaling approximately
$51.0 million and junior subordinated debentures issued to unconsolidated capital trusts of
$15.5 million. The initial fair value measurement of these items resulted in, approximately, a
$1.2 million cumulative-effect adjustment, net of tax, recorded as a reduction in retained earnings
as of January 1, 2007. Under SFAS No. 159, this one-time charge was not recognized in earnings.
The investment securities selected for fair value measurement are classified as trading securities
because they are held principally for resale in the near term and are reported at fair value in the
consolidated balance sheets at June 30, 2008 and 2007. Interest and dividends are included in net interest income. Unrealized
gains and losses are reported as a component in non-interest income. The Company recorded trading
losses of approximately $54,000 and $3,000 for the three and six months ended June 30, 2008,
respectively, compared with a loss of $21,000 for the three months ended June 30, 2007 and a gain
of $259,000 for the six months ended June 30, 2007. Additionally, the Company recorded gains of
$256,000 and $1.8 million related to the change in fair value of the junior subordinated debentures
during the three and six months ended June 30, 2008, respectively. For the three and six months
ended June 30, 2007, the Company recorded gains of $8,000 and $50,000, respectively, related to the
change in the fair value of the junior subordinated debentures. These gains were recorded as a
component of non-interest income.
The Company chose to elect fair value measurement for these specific assets and liabilities because
they have a positive impact on the Companys ability to manage the market and interest rate risks
and liquidity associated with certain financial instruments (primarily investments with short
durations and low market volatility), improve its financial reporting, mitigate volatility in
reported earnings without having to apply complex hedge accounting rules, and remain competitive in
the marketplace. The Company has chosen not to elect fair value measurement for municipal
securities, corporate equity securities and bonds, longer term duration mortgage-backed securities,
and held-to-maturity investments.
-16-
GATEWAY FINANCIAL HOLDINGS, INC. AND SUBSIDIARY
Notes to Consolidated Financial Statements
Note 10 Fair Value Measurement (Continued)
Below is a table that presents the cumulative effect adjustment to retained earnings for the
initial adoption of the fair value option (FVO) for the elected financial assets and liabilities
as of January 1, 2007:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Balance Sheet
|
|
|
|
|
|
|
Balance Sheet
|
|
|
|
1/1/07 prior
|
|
|
Net Gain/ (Loss)
|
|
|
1/1/07 after
|
|
Description
|
|
to adoption
|
|
|
upon adoption
|
|
|
adoption of FVO
|
|
|
|
(in thousands)
|
|
Trading securities
|
|
$
|
|
|
|
$
|
|
|
|
$
|
51,012
|
|
Accumulated other comprehensive loss
|
|
|
917
|
|
|
|
(917
|
)
|
|
|
|
|
Junior subordinated debenture
|
|
|
(15,465
|
)
|
|
|
(447
|
)
|
|
|
(15,912
|
)
|
Pretax cumulative effect of adoption of the fair value option
|
|
|
|
|
|
|
(1,364
|
)
|
|
|
|
|
Decrease in deferred tax asset
|
|
|
|
|
|
|
167
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Cumulative effect of adoption of the fair value option
(charge to retained earnings)
|
|
|
|
|
|
$
|
(1,197
|
)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
In accordance with SFAS No. 157, we group our financial assets and financial liabilities measured
at fair value in three levels, based on the markets in which the assets and liabilities are traded
and the reliability of the assumptions used to determine fair value. The most significant
instruments that the Company fair values include investment securities, derivative instruments, and
certain junior subordinated debentures. The majority of instruments fall into the Level 1 or 2
fair value hierarchy. Valuation methodologies for the fair value hierarchy are as follows:
Level 1 Valuations for assets and liabilities traded in active exchange markets, such as the New
York Stock Exchange. Level 1 securities include common and preferred stock of publicly traded
companies and were valued based on the price of the security at the close of business on June 30,
2008.
Level 2 Valuations are obtained from readily available pricing sources via independent providers
for market transactions involving similar assets or liabilities. The Companys principal market for
these securities is the secondary institutional markets. Valuations are based on observable market
data in those markets. Level 2 securities include U.S. Treasury, other U.S. government and agency
mortgage-backed securities, and corporate and municipal bonds.
Level 3 Valuations for assets and liabilities that are derived from other valuation
methodologies, including option pricing models, discounted cash flow models, and similar
techniques; they are not based on market exchange, dealer, or broker traded transactions. Level 3
valuations incorporate certain assumptions and projections in determining the fair value assigned
to such assets or liabilities. Level 3 financial instruments include economic hedges and junior
subordinated debentures. The Company obtains pricing for these instruments from third parties who
have experience in valuing these type of securities. Additionally, beginning in 2008, the Company
classified interest rate lock commitments on residential mortgage loans held for sale, which are
derivatives under SFAS No. 133, on a gross basis within other assets. The fair value of these
commitments, while based on interest rates observable in the market, is highly dependent on the
ultimate closing of the loans. These pull-through rates are based on the Companys historical
data and reflect an estimate of the likelihood that a commitment will ultimately result in a closed
loan. As a result of the adoption of SAB No. 109, we recorded an other asset of $45,000 at June 30,
2008. Because the inputs into the fair value of the locked loan commitments are not transparent in
market trades, they are considered to be Level 3 assets in the valuation hierarchy.
The Company measures or monitors certain of its assets and liabilities on a fair value basis. Fair
value is used on a recurring basis for those assets and liabilities that were elected under SFAS
No. 159 as well as for certain assets and liabilities in which fair value is the primary basis of
accounting.
-17-
GATEWAY FINANCIAL HOLDINGS, INC. AND SUBSIDIARY
Notes to Consolidated Financial Statements
Note 10 Fair Value Measurement (Continued)
Below is a table that presents information about certain assets and liabilities measured at fair
value on a recurring basis:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Changes in Fair Values for the
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
6-Month Period Ended June 30, 2008
|
|
|
|
|
|
|
Fair Value Measurements at
|
|
for Items Measured at air Value Pursuant to
|
|
|
|
|
|
|
June 30, 2008, Using
|
|
Election of the Fair Value Option (*)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Changes in
|
|
|
|
|
|
|
Quoted Prices
|
|
Significant
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Fair Value
|
|
|
Assets/Liabilities
|
|
in Active
|
|
Other
|
|
Significant
|
|
Trading
|
|
Other
|
|
|
|
|
|
Consolidated
|
|
Included in
|
|
|
Measured at
|
|
Markets for
|
|
Observable
|
|
Unobservable
|
|
Gains
|
|
Gains
|
|
Interest
|
|
Expense
|
|
Current
|
|
|
Fair Value
|
|
Identical Assets
|
|
Inputs
|
|
Inputs
|
|
and
|
|
and
|
|
Income
|
|
on Long-
|
|
Period
|
Description
|
|
6/30/2008
|
|
(Level 1)
|
|
(Level 2)
|
|
(Level 3)
|
|
Losses
|
|
Losses
|
|
on Loans
|
|
term Debt
|
|
Earnings
|
Trading securities
|
|
$
|
10,051
|
|
|
$
|
|
|
|
$
|
10,051
|
|
|
$
|
|
|
|
$
|
(3
|
)
|
|
$
|
|
|
|
$
|
|
|
|
$
|
|
|
|
$
|
(3
|
)
|
Available-for-sale securities
|
|
|
139,831
|
|
|
|
43,386
|
|
|
|
96,445
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Junior subordinated debentures
|
|
|
13,023
|
|
|
|
|
|
|
|
|
|
|
|
13,023
|
|
|
|
|
|
|
|
1,842
|
|
|
|
|
|
|
|
|
|
|
|
1,842
|
|
Written loan commitments
|
|
|
45
|
|
|
|
|
|
|
|
|
|
|
|
45
|
|
|
|
|
|
|
|
45
|
|
|
|
|
|
|
|
|
|
|
|
45
|
|
|
|
|
(*)
|
|
Comparisons to the three and six months ended June 30, 2007 have been made in the second
paragraph of this note as well as Note 8.
|
The Company evaluates other assets and liabilities for which fair value accounting is used on a
non-recurring basis. These assets and liabilities include goodwill, loans held for sale, impaired
loans, and real estate owned of $46.0 million, $6.0 million, $18.2 million, and $3.0 million,
respectively, at June 30, 2008. There was a fair value loss of $35,000 in the first half of 2008
related to the real estate owned. The balance in impaired loans increased $1.3 million and $3.0
million for the three and six months ended June 30, 2008, respectively. The estimated valuation
allowance related to the impaired loans used in determining the Companys allowance for loan losses
increased $428,000 and $505,000 for the three and six months ended June 30, 2008 (see further
discussion below). There were no other fair value adjustments related to these assets and
liabilities for the three and six months ended June 30, 2008 and 2007.
The Company does not record loans at fair value on a recurring basis. However, from time to time, a
loan is considered impaired and an allowance for loan losses is established. Loans for which it is
probable that payment of interest and principal will not be made in accordance with the contractual
terms of the loan agreement are considered impaired. Once a loan is identified as individually
impaired, management measures impairment in accordance with SFAS No. 114,
Accounting by Creditors
for Impairment of a Loan
. The fair value of impaired loans is estimated using one of several
methods, including collateral value, market value of similar debt, enterprise value, liquidation
value, and discounted cash flows. Those impaired loans not requiring an allowance represent loans
for which the fair value of the expected repayments or collateral exceed the recorded investments
in such loans. At June 30, 2008, substantially all of the total impaired loans were evaluated based
on the fair value of the collateral. In accordance with SFAS No. 157, impaired loans where an
allowance is established based on the fair value of collateral require classification in the fair
value hierarchy. When the fair value of the collateral is based on an observable market price or a
current appraised value, the Company records the impaired loan as nonrecurring Level 2. When an
appraised value is not available or management determines the fair value of the collateral is
further impaired below the appraised value and there is no observable market price, the Company
records the impaired loan as nonrecurring Level 3.
Real estate owned is adjusted to fair value upon transfer of the loans to real estate owned.
Subsequently, real estate owned is carried at the lower of carrying value or fair value. Fair value
is based upon independent market prices, appraised values of the collateral, or managements
estimation of the value of the collateral. When the fair value of the collateral is based on an
observable market price or a current appraised value, the Company records the real estate owned as
nonrecurring Level 2. When an appraised value is not available or management determines the fair
value of the collateral is further impaired below the appraised value and there is no observable
market price, the Company records the foreclosed asset as nonrecurring Level 3. All of the real
estate owned at June 30, 2008 was evaluated based on appraised values of the underlying collateral.
Loans held for sale on the consolidated balance sheets are carried at the lower of cost or market
value. The fair value of loans held for sale is based on what secondary markets are currently
offering for portfolios with similar characteristics. As such, the Company classifies loans
subjected to nonrecurring fair value adjustments as Level 2.
-18-
GATEWAY FINANCIAL HOLDINGS, INC. AND SUBSIDIARY
Notes to Consolidated Financial Statements
Note 10 Fair Value Measurement (Continued)
Goodwill and identified intangible assets are subject to impairment testing at least annually on
June 30 or more frequently if events or circumstances indicate possible impairment. The Company
uses various valuation methodologies including multipliers of earnings and tangible book value and
projected cash flow valuation methods in the completion of impairment testing. These valuation
methods require a significant degree of management judgment. In the event this valuation is less
than the carrying value, the asset is recorded at fair value as determined by the valuation model.
As a result of the recent decline in the Companys stock price, which is typical for financial
institutions nationwide that have been affected by the slowing economy and credit issues, the
market value of the Companys stock was below the book value as of June 30, 2008. In managements
opinion, the price of the stock at June 30, 2008 is not reflective of the current fair value of the
Company or any of its separate reporting units. Management used valuation methodologies as
discussed above to support the fair value of the Company and concluded that the goodwill recorded
on the books at June 30, 2008 is properly valued and has not been impaired. This conclusion is
dependent on the Companys 2008 and 2009 earnings and capital projections and will be reviewed
quarterly. The Company classifies goodwill and other intangible assets subjected to nonrecurring
fair value adjustments as Level 3.
Junior subordinated debentures are included in long-term borrowings in the consolidated balance
sheet as of June 30, 2008. Approximately $41.2 million of other junior subordinated debentures,
$169.0 million of FHLB advances, $20.0 million of reverse repurchase agreements, and $30.5 million
of other borrowings are included in long-term borrowings that were not elected for the fair value
option.
NOTE 11 Acquisitions
The Bank of Richmond Transaction
On June 1, 2007, the Company completed the acquisition of The Bank of Richmond, a Richmond,
Virginia based bank with approximately $197 million in assets, operating six financial centers in
the Richmond area and a loan production office in Charlottesville, Virginia. The Bank of Richmond
acquisition further enhances the Companys geographic footprint and provides a meaningful presence
in the demographically attractive Richmond market.
Pursuant to the terms of the acquisition, the Company purchased 100% of the outstanding stock of
The Bank of Richmond with a combination of cash and Company stock. The aggregate purchase price was
$56.6 million including approximately $1.1 million of transaction costs. The Company issued
approximately 1.85 million shares of the Companys common stock, assumed outstanding The Bank of
Richmond stock options valued at approximately $3.6 million, and paid approximately $25.6 million
in cash to The Bank of Richmond shareholders for the approximate 1.72 million of The Bank of
Richmond shares outstanding. The overall exchange for stock was limited to 50% of The Bank of
Richmond common stock, using an exchange ratio of 2.11174 of the Company stock for every share of
The Bank of Richmond stock. The value of the common stock exchanged was determined based on the
average market price of the Companys common stock over the 10-day period ended May 21, 2007.
The acquisition transaction has been accounted for using the purchase method of accounting for
business combinations, and accordingly, the assets and liabilities of The Bank of Richmond were
recorded based on estimated fair values as of June 1, 2007 with the estimate of goodwill being
subject to possible adjustments during the one-year period from that date. Goodwill will not be
amortized but will be tested for impairment in accordance with SFAS 142. None of the goodwill is
expected to be deductible for income tax purposes. The consolidated financial statements include
the results of operations of The Bank of Richmond since June 1, 2007.
-19-
GATEWAY FINANCIAL HOLDINGS, INC. AND SUBSIDIARY
Notes to Consolidated Financial Statements
Note 11 Acquisitions (Continued)
The estimated fair values of the The Bank of Richmond assets acquired and liabilities assumed at
the date of acquisition based on the information currently available is as follows (in thousands):
|
|
|
|
|
Cash and cash equivalents
|
|
$
|
17,974
|
|
Investment securities, available for sale
|
|
|
2,998
|
|
Loans, net
|
|
|
165,879
|
|
Premises and equipment, net
|
|
|
8,749
|
|
Goodwill
|
|
|
36,699
|
|
Core deposit intangible
|
|
|
1,464
|
|
Other assets
|
|
|
1,927
|
|
Deposits
|
|
|
(177,572
|
)
|
Borrowings
|
|
|
(50
|
)
|
Other liabilities
|
|
|
(1,566
|
)
|
Stockholders Equity
|
|
|
98
|
|
|
|
|
|
|
|
|
|
|
Net assets acquired
|
|
$
|
56,600
|
|
|
|
|
|
The core deposit intangible is being amortized on the straight-line basis over a ten-year life. The
amortization method and valuation of the core deposit intangible are based upon a historical study
of the deposits acquired. Premiums and discounts that resulted from recording The Bank of Richmond
assets and liabilities at their respective fair values are being amortized using methods that
approximate an effective yield over the life of the assets and liabilities. The net amortization
increased net income before taxes by $24,000 and $48,000 for the three and six months ended June
30, 2008.
The following unaudited pro forma financial information presents the combined results of operations
of the Company and The Bank of Richmond as if the acquisition had occurred as of January 1, 2007
after giving effect to certain adjustments, including amortization of the core deposit intangible,
fair value premium and discounts, and additional financing necessary to complete the transaction.
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Three Months Ended
|
|
Six Months Ended
|
|
|
June 30,
|
|
June 30,
|
|
|
2008
|
|
2007
|
|
2008
|
|
2007
|
|
|
(in thousands, except per share data)
|
Net interest income
|
|
$
|
13,720
|
|
|
$
|
12,805
|
|
|
$
|
26,354
|
|
|
$
|
24,402
|
|
Non-interest income
|
|
|
4,841
|
|
|
|
3,321
|
|
|
|
11,719
|
|
|
|
8,224
|
|
Total revenue
|
|
|
18,561
|
|
|
|
16,126
|
|
|
|
38,073
|
|
|
|
32,626
|
|
Provision for loan losses
|
|
|
2,200
|
|
|
|
1,750
|
|
|
|
3,800
|
|
|
|
3,066
|
|
Acquisition related charges
|
|
|
|
|
|
|
2,286
|
|
|
|
|
|
|
|
2,286
|
|
Non-interest expense
|
|
|
13,755
|
|
|
|
11,593
|
|
|
|
27,181
|
|
|
|
22,358
|
|
Income before taxes
|
|
|
2,606
|
|
|
|
497
|
|
|
|
7,092
|
|
|
|
4,916
|
|
Net income
|
|
|
1,960
|
|
|
|
117
|
|
|
|
5,083
|
|
|
|
2,946
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net income per common share:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Basic
|
|
$
|
0.12
|
|
|
$
|
0.01
|
|
|
$
|
0.33
|
|
|
$
|
0.23
|
|
Diluted
|
|
|
0.11
|
|
|
|
0.01
|
|
|
|
0.32
|
|
|
|
0.22
|
|
-20-
GATEWAY FINANCIAL HOLDINGS, INC. AND SUBSIDIARY
Notes to Consolidated Financial Statements
Note 11 Acquisitions (Continued)
Other Acquisitions
During January 2007, the Bank completed the acquisition of Breen Title & Settlement, Inc., an
independent title agency with offices located in Newport News, Hampton, and Virginia Beach,
Virginia. A summary of the purchase price and the assets acquired is as follows (in thousands):
|
|
|
|
|
Purchase price:
|
|
|
|
|
Portion paid in cash
|
|
$
|
445
|
|
Issuance of common stock
|
|
|
425
|
|
|
|
|
|
|
Total purchase price
|
|
$
|
870
|
|
|
|
|
|
|
Assets acquired:
|
|
|
|
|
Property and equipment
|
|
$
|
15
|
|
Goodwill
|
|
|
855
|
|
|
|
|
|
|
Total assets acquired
|
|
$
|
870
|
|
|
|
|
|
It is anticipated that the goodwill related to the acquisition of Breen Title & Settlement, Inc. is
tax deductible. The pro forma impact of the acquisition presented as though it had been made at the
beginning of the period is not considered material to the Companys consolidated financial
statements.
NOTE 12 Income Taxes
In July 2006, the FASB issued FIN 48,
Accounting for Uncertainty in Income Taxes
. FIN 48 clarifies
the accounting for uncertainty in income taxes recognized in enterprises financial statements in
accordance with FASB No. 109,
Accounting for Income Taxes
. FIN 48 prescribes a recognition
threshold and measurement attributable for the financial statement recognition and measurement of a
tax position taken or expected to be taken in a tax return. FIN 48 also provides guidance on
derecognition, classification, interest and penalties, accounting in interim periods, disclosures,
and transitions. FIN 48 is effective for fiscal years beginning after December 15, 2006. The
Company adopted FIN 48 on January 1, 2007 with no material impact to its financial position,
results of operations, or cash flows.
NOTE 13 Reclassification
Certain amounts presented in the prior period consolidated financial statements have been
reclassified to conform to the current period presentation. The reclassifications had no effect on
the net income or total stockholders equity as previously reported.
-21-
Item 2. Managements 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 our financial condition, results of operations, and business 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; acquisition
regulatory approval; changes in accounting principles, policies, or guidelines; changes in
legislation or regulation; and other economic, competitive, governmental, regulatory, and
technological factors affecting our operations, pricing, products and services, and other
announcements described in our filings with the SEC.
Financial Condition at June 30, 2008 and December 31, 2007
The Company continued its pattern of steady growth during the first half of 2008 with total assets
increasing by $259.5 million or 13.9% to $2.13 billion at June 30, 2008 from $1.87 billion at
December 31, 2007. This growth was principally driven by increased loans from our franchise
expansion, in particular Raleigh and Wilmington, North Carolina and the Hampton Roads area and
Richmond, Virginia. The economies in these markets have remained steady over the first half of the
year and the Banks loan pipeline continues to reflect consistent demand in these markets.
Total loans increased by $229.2 million or 15.1% from $1.52 billion at December 31, 2007 to
$1.75 billion at June 30, 2008. Commercial loans represented the majority of the growth over the
first half of the year, with construction, acquisition, and development loans increasing $63.2
million or 27.5%; commercial real estate loans increasing $78.0 million or 34.0%; and commercial
and industrial loans increasing $40.4 million or 17.6%. As a percent of total loans, commercial
loans represent approximately 78% of loans outstanding at June 30, 2008. Construction, acquisition,
and development loans represent 38.1% of loans outstanding at June 30, 2008 down from 39.7% at
December 31, 2007.
The Company has maintained liquidity at what it believes to be an appropriate level. Liquid assets,
consisting of cash and due from banks, interest-earning deposits in other banks and investment
securities available for sale and trading, were $184.1 million or 8.7% of total assets at June 30,
2008 as compared to $170.4 million or 9.1% of total assets at December 31, 2007. Additionally, the
Company had $24.2 million of borrowing availability from the Federal Home Loan Bank of Atlanta
(FHLB) and $58 million of borrowing availability on its federal funds lines of credit with
correspondent banks at June 30, 2008.
Funding for the growth in assets and loans during the period was provided by an increase in
deposits of $209.6 million to $1.62 billion. Of this increase, $95.8 million was the result of a
net increase in brokered deposits. Non-interest-bearing demand deposits increased by 19.0% or
$23.5 million to $147.4 million from the $123.9 million balance at December 31, 2007.
Savings, money market, and NOW accounts increased by 73.5% or $296.0 million to $698.5 million from
the $402.5 million balance at December 31, 2007. Of this increase $192.5 million was represented by
brokered money market accounts. These brokered money market accounts carry an average interest rate
of 16 basis points over the federal funds rate and were used to replace higher cost brokered CDs
that matured during the first half of the year and to fund a portion of our growth during the first
half of 2008. These deposits have been less expensive than retail deposits and have acted as a
natural hedge to our variable rate loan portfolio during the falling rate environment that we have
experienced during the period. The remaining increase of $103.5 million in these accounts has
resulted from the maturing of our branch network, especially those financial centers opened over
the past year in Wilmington, the Raleigh Triangle area, and Richmond. Additionally, we have
introduced new money market products and have run money market specials during the first half of
the year in new market areas that have been very successful as well as our low cost business
checking and commercial sweep programs.
Time deposits aggregated $772.6 million at June 30, 2008 as compared to $882.5 million at
December 31, 2007. This decrease of $109.9 million was primarily the result of replacing $96.7
million of maturing brokered CDs with the above mentioned brokered money market account and
consciously allowing non-relationship, higher-cost CDs to run-off as they matured during the
period and replacing them with the above discussed money market accounts. Time deposits of more
than $100,000 were $280.5 million or 17.3% of total deposits at June 30, 2008 as compared with
$271.3 million or 19.3% of total deposits at December 31, 2007.
-22-
The Company continued using brokered deposits to fund growth and manage interest rate sensitivity.
The total brokered deposits increased to $321.7 million as of June 30, 2008 compared to
$225.9 million at December 31, 2007. As a percentage of total deposits, our brokered deposits
increased to 19.9% of total deposits as compared to 16.0% at December 31, 2007. Brokered deposits
have been used primarily to fund loan growth in our loan production offices in Wilmington (now a
full financial center), Greenville, Chapel Hill (now a full financial center), and Wake Forest,
North Carolina and Charlottesville, Virginia (now a full financial center). Loans for these offices
aggregated $292.5 million at June 30, 2008, and the offices that have been converted to full
financial centers have generated $40.8 million in deposits over the past 12 months.
Net borrowings increased $55.2 million during the first half of the year, primarily as a result of
purchasing $30.5 million of federal funds from correspondent banks and incurring $20 million of
junior subordinated debt during the second quarter with a bank that qualifies as regulatory Tier 2
capital. For further information related to the junior subordinated debt, see
Part II. Item 6.
Exhibit 10.1 Loan and Subordinated Debenture Purchase Agreement
of this Form 10-Q. Advances from
the FHLB aggregated $169.0 million (all of which was long-term) at June 30, 2008, which was
unchanged from the beginning of the year.
Total stockholders equity decreased $723,000 to $163.7 million from December 31, 2007 primarily as
a result of $5.08 million of net income for the period that was more than offset by cash dividends
of approximately $3.04 million paid on its common and preferred stock and an increase in
accumulated other comprehensive loss of $3.07 million, which resulted from a decrease in the fair
value of the Companys available-for-sale securities during the first half of the year. The capital
ratios of the Company and the Bank continue to be in excess of the minimums required to be deemed
well-capitalized by regulatory authorities.
Asset Quality
An analysis of the allowance for loan losses is as follows:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Three Months Ended
|
|
|
Six Months Ended
|
|
|
|
June 30,
|
|
|
June 30,
|
|
|
|
2008
|
|
|
2007
|
|
|
2008
|
|
|
2007
|
|
|
|
(in thousands)
|
|
Balance at beginning of period
|
|
$
|
16,829
|
|
|
$
|
10,189
|
|
|
$
|
15,339
|
|
|
$
|
9,405
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Provision charged to operations
|
|
|
2,200
|
|
|
|
1,350
|
|
|
|
3,800
|
|
|
|
2,550
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Charge-offs
|
|
|
(830
|
)
|
|
|
(329
|
)
|
|
|
(953
|
)
|
|
|
(755
|
)
|
Recoveries
|
|
|
4
|
|
|
|
8
|
|
|
|
17
|
|
|
|
18
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net charge-offs
|
|
|
(826
|
)
|
|
|
(321
|
)
|
|
|
(936
|
)
|
|
|
(737
|
)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Allowance acquired from The Bank of
Richmond acquisition
|
|
|
|
|
|
|
2,122
|
|
|
|
|
|
|
|
2,122
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Balance at end of period
|
|
$
|
18,203
|
|
|
$
|
13,340
|
|
|
$
|
18,203
|
|
|
$
|
13,340
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
-23-
The table below sets forth, for the periods indicated, information with respect to the Companys
nonaccrual loans, restructured loans, total nonperforming loans (nonaccrual loans plus restructured
loans), and total nonperforming assets. The accounting estimates for loan loss are subject to
changing economic conditions.
|
|
|
|
|
|
|
|
|
|
|
June 30,
|
|
|
December 31,
|
|
|
|
2008
|
|
|
2007
|
|
|
|
(in thousands)
|
|
Nonaccrual loans
|
|
$
|
7,056
|
|
|
$
|
3,407
|
|
Restructured loans
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total nonperforming loans
|
|
|
7,056
|
|
|
|
3,407
|
|
Real estate owned
|
|
|
2,985
|
|
|
|
482
|
|
|
|
|
|
|
|
|
Total nonperforming assets
|
|
$
|
10,041
|
|
|
$
|
3,889
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Accruing loans past due 90 days or more
|
|
$
|
|
|
|
$
|
|
|
Allowance for loan losses
|
|
|
18,203
|
|
|
|
15,339
|
|
Nonperforming loans to period end loans
|
|
|
0.40
|
%
|
|
|
0.22
|
%
|
Allowance for loan losses to period end loans
|
|
|
1.04
|
%
|
|
|
1.01
|
%
|
Nonperforming assets to total assets
|
|
|
0.47
|
%
|
|
|
0.21
|
%
|
A further break-down of nonaccrual loans at June 30, 2008 by geographic region and type are as follows:
|
|
|
|
|
|
|
|
|
|
|
|
|
Geographic Region:
|
|
|
|
|
|
% of non-accruals
|
|
|
# of accounts
|
|
Albemarle
|
|
$
|
987,000
|
|
|
|
13.99
|
%
|
|
|
8
|
|
Hampton Roads
|
|
|
1,744,000
|
|
|
|
24.72
|
%
|
|
|
3
|
|
Outer Banks
|
|
|
2,628,000
|
|
|
|
37.24
|
%
|
|
|
14
|
|
Wilmington
|
|
|
1,469,000
|
|
|
|
20.82
|
%
|
|
|
3
|
|
Richmond
|
|
|
3,000
|
|
|
|
0.04
|
%
|
|
|
1
|
|
Raleigh Triangle
|
|
|
143,000
|
|
|
|
2.03
|
%
|
|
|
1
|
|
Other
|
|
|
82,000
|
|
|
|
1.16
|
%
|
|
|
1
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total nonaccrual loans
|
|
$
|
7,056,000
|
|
|
|
100.00
|
%
|
|
|
31
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Loan Type:
|
|
|
|
|
|
% Loans Outstanding
|
|
|
# of accounts
|
|
HELOC
|
|
$
|
1,250,000
|
|
|
|
1.05
|
%
|
|
|
7
|
|
1 - 4 Family
|
|
|
2,560,000
|
|
|
|
1.07
|
%
|
|
|
8
|
|
Const & Development
|
|
|
2,624,000
|
|
|
|
0.40
|
%
|
|
|
7
|
|
CRE
|
|
|
99,000
|
|
|
|
0.02
|
%
|
|
|
1
|
|
C&I
|
|
|
438,000
|
|
|
|
0.14
|
%
|
|
|
6
|
|
Consumer
|
|
|
85,000
|
|
|
|
0.45
|
%
|
|
|
2
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total nonaccrual loans
|
|
$
|
7,056,000
|
|
|
|
0.40
|
%
|
|
|
31
|
|
|
|
|
|
|
|
|
|
|
|
-24-
Total loan delinquencies were $2.4 million at June 30, 2008 or 0.14% of loans outstanding. A
break-out of the loan delinquencies at June 30, 2008 by type is as follows:
|
|
|
|
|
|
|
|
|
Loan Type:
|
|
|
|
|
|
% Loans Outstanding
|
|
HELOC
|
|
$
|
296,000
|
|
|
|
0.25
|
%
|
1 - 4 Family
|
|
|
573,000
|
|
|
|
0.24
|
%
|
Const & Development
|
|
|
1,278,000
|
|
|
|
0.19
|
%
|
CRE
|
|
|
136,000
|
|
|
|
0.03
|
%
|
C&I
|
|
|
73,000
|
|
|
|
0.02
|
%
|
Consumer
|
|
|
54,000
|
|
|
|
0.28
|
%
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total delinquent loans
|
|
$
|
2,410,000
|
|
|
|
0.14
|
%
|
|
|
|
|
|
|
|
Comparison of Results of Operations for the Three Months Ended June 30, 2008 and 2007
Overview.
The Company reported net income of $1.96 million or $0.11 per diluted share for
the three months ended June 30, 2008 as compared with net income of $2.02 million or $0.17 per
diluted share for the three months ended June 30, 2007, a decrease of $59,000 in net income and
$0.06 in earnings per diluted share. During the second quarters of 2008 and 2007, an $0.08 per
share cash dividend was paid to common stockholders in each period. The per share results were
affected by the issuance of additional shares in June 2007 as part of the consideration for the
acquisition of The Bank of Richmond and a cash dividend paid on the preferred stock of $506,000 in
the second quarter of 2008.
The second quarter of 2008 results included a loss from the sale of trading account securities of
$54,000 and a fair value gain of $256,000 related to certain trust preferred debt securities that
the Company elected fair value option treatment effective January 1, 2007. During the comparative
quarter of 2007, there was a loss on the sale of trading securities of $21,000 and a gain on the
trust preferred debt securities of $8,000. The second quarter of 2007 also included a loss of
$948,000 from the fair value and net cash settlements on the economic hedge. There was no gain or
loss on the economic hedge in the second quarter of 2008 as the Company terminated its position in
the economic hedge during the third quarter of 2007. The fair value gain on the trust preferred
securities in the second quarter of 2008 was the result of the continued unusual credit conditions
the financial industry has faced over the past six to nine months that saw credit spreads on these
types of securities widen significantly. At the time the fair value option was elected at the
beginning of 2007, credit spreads on these types of debt securities were approximately 135 to 155
basis points over 3-month LIBOR. In the second quarter of 2008, the credit spreads were
approximately 450 basis points over 3-month LIBOR, and the markets have become very illiquid. The
Company obtained the fair value related to these securities from a third party that has experience
in valuing these types of securities, and such valuations were derived from a pricing model using
discounted cash flow methodologies and the forward LIBOR swap curve. Management has reviewed the
valuation of the securities and agrees with their values at June 30, 2008. Because of the type of
debt instrument and the illiquidity of the markets, it is not anticipated that the Company would
ever realize the gain associated with these trust preferred securities. Additionally, it would not
be anticipated that the Company would experience a fair value gain of this magnitude in the future
and, in all likelihood, would show a fair value loss if credit market conditions become more
normalized.
The Companys primary banking operations continues to grow with de novo development of its branch
network over the past 12 months and the completed acquisition of The Bank of Richmond on June 1,
2007. The acquisition of The Bank of Richmond added six additional financial centers in the
demographically desirable Richmond, Virginia market and a loan production office in
Charlottesville, Virginia, which has since been converted to a full financial center during the
second quarter of 2008. The acquisition and the opening of five de novo financial centers since
March 2007 in Raleigh (2), Wilmington, and Chapel Hill, North Carolina and our second office in
Emporia, Virginia has increased our total financial centers to 36 as well as with three loan
production offices.
Our franchise has generated consistently high levels of net interest income and non-interest income
since inception. During the second quarter of 2008, total revenue (defined as net interest income
and non-interest income) increased $3.7 million or 25.2% to $18.6 million over the prior year
second quarter. The Companys net interest income was $2.0 million higher in the second quarter of
2008 as compared with the second quarter of the prior year. The increase in total revenue for the
quarter was basically offset by increases in non-interest expenses and the loan loss provision.
-25-
Non-interest expenses increased $3.3 million or 32.0% as the Company has incurred additional non-
interest expenses as a result of the growth of the franchise, increased FDIC insurance costs,
higher franchise taxes, and the acquisition of The Bank of Richmond (which had only one month of
expense in the second quarter of 2007 as compared to three months in the second quarter of 2008).
Additionally, the loan loss provision was $850,000 higher in the second quarter of 2008 as compared
with the second quarter of 2007.
Net Interest Income.
Like most financial institutions, the primary component of earnings
for the Company 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.
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 non-interest-bearing liabilities and stockholders equity.
Total interest income increased to $29.3 million for the quarter ended June 30, 2008, a $3.3
million or 12.5% increase from the $26.0 million earned in the same quarter of 2007. Total interest
income benefited from a 38.5% increase in average earning assets that was driven primarily from a
42.8% growth in average loans since June 30, 2007. Average total interest-earning assets increased
$517.0 million to $1.86 billion for the second quarter of 2008 as compared to the second quarter of
2007. Average loans increased $509.6 million to $1.70 billion as compared with the second quarter
of 2007. The increase in interest income related to this increased volume was partially offset by a
drop in yield. The average yield on interest-earning assets decreased 138 basis points from 7.78%
for the second quarter of 2007 to 6.40% for the second quarter of 2008 due primarily to the
325-basis point reduction in interest rates since September 2007, including a 125-basis point
reduction during an 8-day period in January 2008.
Approximately 63% of the loans outstanding at June 30, 2008 were variable related to the prime rate
or LIBOR. As a result, the reduction in interest rates dropped loan yields by 174 basis points from
8.12% in the second quarter of 2007 to 6.38% for the second quarter of 2008, which was helped
somewhat by an increase in the investment yield from 5.14% for the second quarter of 2007 to 6.71%
(fully tax-equivalent) in the second quarter of 2008. The increase in investment yield was the
result of restructuring the investment portfolio in the second quarter of 2007 and purchasing $40
million of FHLMC and FNMA preferred stock in the fourth quarter of 2007 and first quarter of 2008
that carries an average coupon rate in excess of 8.00%. The dividends on the FHLMC and FNMA
preferred stocks are 70% tax free, increasing the fully tax-equivalent yield on these investments
to approximately 12.9%. The loan yield stabilized in the second quarter and the Federal Reserve did
not reduce interest rates any further at its last meeting in June. Additionally, the Company is
requiring interest rate floors on the majority of its renewing and new variable rate loans and has
increased its credit spreads on fixed rate loans. Therefore, it does anticipate any substantial
further reduction in loan yield in the near future.
Average total interest-bearing liabilities increased by $528.1 million or 43.2%, which is
consistent with the increase in interest-earning assets. The average cost of interest-bearing
liabilities decreased by 114 basis points from 4.71% for the quarter ended June 30, 2007 to 3.57%
for the current quarter primarily associated with the 325-basis point drop in interest rates since
September 2007. The cost of savings, money market, and NOW accounts decreased 122 basis points
from 3.47% for the second quarter of 2007 to 2.25% for the current quarter. This decrease resulted
from reducing interest rates primarily on business sweep accounts and the most popular money market
accounts in line with the decrease in the federal funds rate previously discussed. Additionally, as
discussed above, the Bank has utilized $192.5 million of brokered money market deposits during the
second quarter that are tied directly to the federal funds rate and have adjusted downward with the
reduction in rates. The Bank has kept money market rates higher in certain new markets through
specials that run for three to six months time periods, which has mitigated the reduction in
average rates to some extent as well as only adjusting rates nominally on already low cost savings
and NOW accounts. The cost of CDs decreased 67 basis points from 5.08% for the second quarter of
2007 to 4.41% for the current quarter. This decrease is primarily the result of repricing CDs
opened in the second quarter of 2007 that carried rates in the 5.25% to 5.50% range 200 basis
points lower during the second quarter of 2008. However, as a result of competitive pressures and
liquidity issues that the financial industry continues to face, CD rates have increased recently
and are not expected to reprice as rapidly during the second half of the year.
As a result primarily of the effect that the 325-basis point interest rate reduction had on the
revenues of the variable loan portfolio, the repricing lag related to the Banks CD portfolio and
the competitive pressures that have kept deposit rates higher than in more normalized markets, the
interest rate spread decreased 24 basis points from 3.07% for the quarter ended June 30, 2007 to
2.83% for the current quarter, and the net interest margin, on a tax-equivalent basis, decreased 47
basis points from 3.50% for the quarter ended June 30, 2007 to 3.03% for the current quarter.
-26-
However, as a result of our loan yield stabilizing during the second quarter and our CDs repricing
substantially lower during the second quarter, the interest rate margin improved 12 basis points
from 2.91% for the second quarter of 2008. The net interest margin for the month of June was 3.18%
as compared with 2.84% for the month of March 2008.
Provision for Loan Losses.
The Company recorded a $2.2 million provision for loan losses in
the second quarter of 2008, an increase of $850,000 over the $1.35 million provision for loan
losses recorded for the same quarter of 2007. Provisions for loan losses are charged to income to
bring the allowance for loan losses to a level deemed appropriate by Management. In evaluating the
allowance for loan losses, Management considers factors that include growth, composition, and
industry diversification of the portfolio, historical loan loss experience, current delinquency
levels, adverse situations that may affect a borrowers ability to repay, estimated value of any
underlying collateral, prevailing economic conditions, and other relevant factors. In the second
quarters of both 2008 and 2007, the provision for loan losses was made principally in response to
growth in loans as well as changes in conditions related to the above factors. Net charge-offs as a
percentage of average loans were 0.20% for the second quarter of 2008 as compared with 0.11% for
the second quarter of 2007 and 0.03% for the first quarter of 2008; the Companys level of
nonperforming assets has increased by $8.8 million since June 30, 2007, and as a percent to total
loans outstanding, increased from 0.06% at June 30, 2007 to 0.47% at March 31, 2008 and June 30,
2008. Additionally, delinquencies were 0.14% of loans outstanding at the end of the second quarter
of the current year as compared with 0.19% at June 30, 2007 and 0.56% at March 31, 2008. At June
30, 2008 the total amount of potential problem loans was $18.2 million as compared with $11.8
million as of December 31, 2007 and $16.9 million at March 31, 2008. Loan growth for the second
quarter of 2008 was $116.7 million as compared with $103.1 million for the quarter ended June 30,
2007. At June 30, 2008 and December 31, 2007, respectively, the allowance for loan losses was
$18.2 million and $15.3 million, representing 1.04% and 1.01%, respectively, of loans outstanding
at the end of each period. Other than the nonaccrual loans listed under the caption Asset
Quality, the Companys loan portfolio continues to perform well.
Non-Interest Income.
Non-interest income totaled $4.8 million for the three months ended
June 30, 2008 as compared with $3.1 million for the three months ended June 30, 2007, an increase
of $1.7 million or 55.3%. Non-interest income for the second quarter of 2008 included a loss from
trading securities of $54,000 and a fair value gain of $256,000 related to certain trust preferred
debt securities that the Company had elected fair value option treatment effective January 1, 2007.
During the comparative quarter of 2007, there was a $21,000 loss from trading securities and a gain
related to the trust preferred debt securities of $8,000. Non-interest income for the second
quarter of 2007 also included a loss in the fair value and net cash settlements on economic hedge
of $948,000. There was no gain or loss on the economic hedge in the second quarter of 2008 as the
Company terminated its position in the economic hedge during the third quarter of 2007. The fair
value gain on the trust preferred securities in the second quarter of 2008 was the result of the
difficult credit conditions the financial industry continues to face which has seen credit spreads
on these types of securities widen significantly. At the time the fair value option was elected at
the beginning of 2007, credit spreads on this type of debt security were approximately 135 to 155
basis points over 3-month LIBOR. In the second quarter of 2008, the credit spreads were
approximately 450 basis points over 3-month LIBOR, and the markets have become very illiquid. It
would not be anticipated that the Company would experience a market value gain of this magnitude in
the future, and in all likelihood would show a market value loss if credit market conditions become
more normalized. If such a loss were to occur, it would reduce non-interest income during the
period in which the loss took place.
Since inception, the Company has actively pursued additional non-interest income sources outside of
traditional banking operations, including income from insurance, mortgage, brokerage operations,
and title insurance. Revenues from the Companys non-banking activities represent $2.4 million of
the Companys non-interest income. Revenue from Gateways insurance operations decreased $108,000
or 7.1% to $1.4 million for the quarter ended June 30, 2008 as compared with the second quarter of
the prior year as a result of a softening in the market during the second quarter of 2008.
Revenue from the mortgage subsidiary increased $142,000 or 19.4% from the second quarter of 2007 to
$875,000 for the second quarter of 2008. The increase was attributed to increased head count of
loan originators over the past 12 months as we continue to expand our mortgage operations and
access to the secondary markets has become more normalized. Additionally, the Company adopted the
Securities and Exchange Commissions SAB No. 109 in 2008, which provides for the measurement of the
fair value for a written loan commitment through earnings. The adoption of SAB No. 109 resulted in
approximately $45,000 higher revenues from the mortgage operations for the second quarter of 2008
as compared with the prior year quarter.
Revenues from the brokerage operations decreased $92,000 or 46.9% to $104,000 in the second quarter
of 2008 as compared with the prior year second quarter as the result of the departure of a broker
from our North Carolina operations at the end of the third quarter of last year.
-27-
Service charges on deposit accounts represent another key component of non-interest income for the
Bank. As a result of the Companys growth in transaction deposit accounts from period to period
from its expanding financial center network and an increased focus during the second quarter of
2008 of expanding the types of services charged to the customer and limiting waived charges,
service charges have increased $148,000 or 14.8% to $1.1 million in the second quarter of 2008 as
compared with the second quarter of 2007.
Other income increased $293,000 to $659,000 during the second quarter of 2008 as compared with the
second quarter of 2007 as a result of gains related to the sale of government sponsored loans of
$193,000 (there were no such gains in the second quarter of 2007) and $52,000 higher fee income
primarily from check card exchange fees. Income from BOLI was $178,000 higher for the second
quarter of 2008 as compared with the same quarter of 2007 as a result of the purchase of $14.0
million of additional BOLI during January 2008.
Non-interest income as a percent of total revenue was 26.1% for the quarter ended June 30, 2008 as
compared with 21.0% for the same quarter of 2007.
Non-Interest Expenses.
Non-interest expenses aggregated $13.8 million for the three months
ended June 30, 2008, an increase of $3.3 million or 32.0% over the $10.4 million reported for the
same three months of 2007. Substantially all of this increase resulted from the Banks growth and
franchise development as well as the acquisition of The Bank of Richmond in June of last year. The
second quarter of 2007 only included one month of non-interest expenses from The Bank of Richmond
as compared with the second quarter of 2008 which included a full three months of expenses. In
addition to the six financial centers and loan production office it acquired with The Bank of
Richmond merger, the Bank opened three new financial centers and a loan production office during
the second half of 2007 and three additional financial centers during the first half of 2008.
For the three months ended June 30, 2008, personnel costs increased by $1.7 million or 29.4% to
$7.4 million from $5.7 million for the quarter ended June 30, 2007 as a result of 63 new hires over
the past 12 months and personnel costs associated with The Bank of Richmond. The additional
personnel were associated with the additional financial centers as well as continued building of
the support infrastructure in deposit operations, credit administration, and retail banking and
deposit gathering areas.
Occupancy and equipment costs increased $448,000 or 22.3% to $2.5 million for the second quarter of
2008 as compared with $2.0 million for the second quarter of 2007. This increase was the direct
result of the six financial centers and loan production office added since the second quarter of
last year as well as the financial centers and loan production office acquired with The Bank of
Richmond acquisition.
Other expenses increased $1.0 million or 44.7% as a result of $115,000 higher FDIC insurance
premiums that resulted from our increased deposit base; higher postage, printing, and supplies of
$188,000; an increase in franchise taxes of $80,000 as a result of the financial center expansion
in Virginia and greater capital base; business development and travel expenses which increased
$130,000; an increase of $130,000 related to consulting and professional services; and $36,000
increase in intangibles amortization related to The Bank of Richmond acquisition.
Gateways efficiency ratio for the second quarter of 2008 was 74.11% up from the 70.26% for the
second quarter of 2007. As a percentage of average assets, non-interest expense has dropped from
2.86% for the second quarter of 2007 to 2.69% for the second quarter of 2008 as Gateway continues
to gain economies of scale from its maturing financial centers.
Provision for Income Taxes.
The Companys effective tax rate was 24.8% for the three months
ended June 30, 2008 as compared with 34.0% for the second quarter of 2007. The lower effective tax
rate in 2008 is the result of dividend income related to FHMLC and FNMA preferred stock purchased
in the fourth quarter of 2007 and first quarter of 2008 (of which 70% of the dividends are tax
free), increased income from BOLI in the first quarter of 2008, and higher municipal interest
income in the second quarter of 2008. As a result of the Companys sustained pattern of
profitability, we expect our tax rate to remain near the level incurred for the current quarter.
Deferred tax assets have increased primarily due to increases in our loan loss provision.
Comparison of Results of Operations for the Six Months Ended June 30, 2008 and 2007
Overview.
The Company reported net income of $5.1 million or $0.32 per diluted share for
the six months ended June 30, 2008 as compared with net income of $4.5 million or $0.39 per diluted
share for the six months ended June 30, 2007, an increase of $550,000 in net income and a decrease
of $0.07 in earnings per diluted share.
-28-
During the first half of 2008, a $0.16 per share cash dividend was paid compared to $0.13 per share
for the same period in 2007. The per share results were affected by the issuance of additional
shares in June 2007 as part of the consideration for the acquisition of The Bank of Richmond and a
cash dividend paid on the preferred stock of $1.01 million in the first half of 2008.
The first half of 2008 results included a gain from the sale of available-for-sale investment
securities of $800,000 and a fair value gain of $1.8 million related to certain trust preferred
debt securities that the Company had elected fair value option treatment effective January 1, 2007.
These gains were higher than the gain on sale of available-for-sale securities of $163,000, trading
account gains of $259,000, and a fair value gain of $50,000 on the trust preferred debt securities
in the first half of 2007. The first half of 2007 also included a loss on the economic hedge of
$759,000. There was no gain or loss on the economic hedge in the first half of 2008 as the Company
terminated its position in the economic hedge during the third quarter of 2007. The fair value gain
on the trust preferred securities in the first half of 2008 was the result of the unusually
difficult credit conditions the financial industry has faced over the first half of this year that
resulted in credit spreads on these types of securities to widen significantly as discussed above.
Because of the type of debt instrument and the illiquidity of the markets, it is not anticipated
that the Company would ever realize the gain associated with these trust preferred securities.
Additionally, it would not be anticipated that the Company would experience a fair value gain of
this magnitude in the future and, in all likelihood, would show a fair value loss if credit market
conditions become more normalized.
The Companys primary banking operations continues to grow with de novo development of its branch
network over the past 12 months and the completed acquisition of The Bank of Richmond on June 1,
2007 as discussed in detail above. Our franchise has generated consistently high levels of net
interest income and non-interest income since inception. During the first half of 2008, total
revenue increased $8.6 million or 29.0% to $38.1 million over the same period in the prior year.
The Companys net interest income was $4.6 million or 21.2% higher in the first half of 2008 as
compared with the first half of the prior year. The increase in net interest income coupled with
the securities gains discussed above were the primary reasons for the increase in net income
partially offset by increases in non-interest expenses and the loan loss provision. Non-interest
expenses increased $7.2 million or 36.3% as the Company has incurred additional non-interest
expenses as a result of the growth of the franchise, increased FDIC insurance costs, higher
franchise taxes, and the acquisition of The Bank of Richmond, which had only one month of expense
in the first half of 2007 as compared a full six months in the second quarter of 2008.
Additionally, the loan loss provision was $1.25 million higher in the first half of 2008 as
compared with the same period of 2007.
Net Interest Income.
Total interest income increased to $59.2 million for the six month
period ended June 30, 2008, an $11.5 million or 24.2% increase from the $47.6 million earned in the
same period of 2007. Total interest income benefited from a 45.8% increase in average earning
assets driven primarily from a 48.1% growth in average loans since June 30, 2007. Average total
interest-earning assets increased $566.2 million to $1.8 billion for the first half of 2008 as
compared to the first half of 2007. Average loans increased $532.9 million to $1.6 billion as
compared with the first half of 2007. The increase in interest income related to this increased
volume was partially offset by a drop in yield. The average yield on interest-earning assets
decreased 111 basis points from 7.77% for the first half of 2007 to 6.66% for the first half of
2008 due primarily to the 325-basis point reduction in interest rates since September 2007,
including a 125-basis point reduction during an 8-day period in January 2008.
Approximately 63% of the loans outstanding during this time period were variable related to the
prime rate or LIBOR. As a result, the reduction in interest rates dropped loan yields by 141 basis
points from 8.10% in the first half of 2007 to 6.69% for the first half of 2008, which was helped
somewhat by an increase in the investment yield from 4.95% for the first half of 2007 to 6.45%
(fully tax-equivalent) in the first half of 2008. The increase in investment yield was the result
of restructuring the investment portfolio in the second quarter of 2007 and purchasing $40 million
of FHLMC and FNMA preferred stock in the fourth quarter of 2007 and first quarter of 2008 that
carries an average coupon rate in excess of 8.00%. The dividends on the FHLMC and FNMA preferred
stocks are 70% tax free, increasing the fully tax-equivalent yield on these investments to
approximately 12.9%. The loan yield stabilized in the second quarter and the Federal Reserve did
not reduce interest rates any further at its last meeting in June. Additionally, the Company is
requiring interest rate floors on the majority of its renewing and new variable rate loans and has
increased its credit spreads on fixed rate loans. Therefore, it does not anticipate any substantial
further reduction in loan yield in the near future.
Average total interest-bearing liabilities increased by $573.3 million or 51.2%, which is
consistent with the increase in interest-earning assets. The average cost of interest-bearing
liabilities decreased by 76 basis points from 4.66% for the six months ended June 30, 2007 to 3.90%
for the six months ended June 30, 2008 primarily associated with the 325-basis point drop in
interest rates since September 2007. The cost of savings, money market, and NOW accounts decreased
98 basis points from 3.42% for the first half of 2007 to 2.44% for the current period. This
decrease resulted from reducing interest rates primarily on business sweep accounts and the most
popular money market accounts in line with the decrease in the federal funds rate previously
discussed.
-29-
The cost of short-term borrowings decreased 252 basis points from 5.72% for the first half of 2007
to 3.20% for the same period in 2008 as all of these borrowings are directly tied to the federal
funds rate. The cost of long-term debt decreased 64 basis points from 5.14% for the first half of
2007 to 4.50% for the first half of 2008 primarily because all of our subordinated debt is variable
(tied to LIBOR), which also reduced with the federal funds rate. Additionally, as discussed above,
the Bank has utilized $192.5 million of brokered money market deposits during the first half of the
year that are tied directly to the federal funds rate and have adjusted downward with the reduction
in rates. The cost of CDs decreased 38 basis points from 5.04% for the first half of 2007 to 4.66%
for the current period. Even though the majority of the CDs mature with a one year time frame, it
will take several months for the repricing of the maturing CDs to catch up to the interest rate
reductions because of the significant reduction in rates over a very short time period. As
discussed above, the cost of the CDs decreased more rapidly during the second quarter of 2008.
Additionally, as a result of competitive pressures and liquidity issues that the financial industry
has faced over the past several months, CD rates have been higher related to the prime rate that
would be the case in more normalized markets.
As a result primarily of the effect that the 325-basis point interest rate reduction had on the
revenues of the variable loan portfolio and the repricing lag related to the Banks CD portfolio,
the interest rate spread decreased 35 basis points from 3.11% for the half year ended June 30, 2007
to 2.76% for the current half year, and the net interest margin, on a tax-equivalent basis,
decreased 55 basis points from 3.55% for the half year ended June 30, 2007 to 3.00% for the current
period. Further adding to the margin compression during the current half year was the financing of
the financial center expansion over the past six months and $14.0 million of BOLI purchased during
the first quarter of this year. As a result of interest rate margin for the second quarter being
3.03% and the month of June 2008 being 3.18% as discussed above, we would expect to experience an
improvement in margin on a linked quarter basis over the second half of the year as maturing CDs
continue to reprice at much lower rates, money market specials adjust to lower rates, and loan
yields stabilize to second quarter levels.
Provision for Loan Losses.
The Company recorded a $3.8 million provision for loan losses in
the first half of 2008, an increase of $1.25 million over the $2.55 million provision for loan
losses recorded for the same period of 2007. Provisions for loan losses are charged to income to
bring the allowance for loan losses to a level deemed appropriate by Management. In evaluating the
allowance for loan losses, Management considers factors that include growth, composition, and
industry diversification of the portfolio, historical loan loss experience, current delinquency
levels, adverse situations that may affect a borrowers ability to repay, estimated value of any
underlying collateral, prevailing economic conditions, and other relevant factors. In the first
half of both 2008 and 2007, the provision for loan losses was made principally in response to
growth in loans as well as changes in conditions related to the above factors. Net charge-offs as a
percentage of average loans were 0.11% for the first half of 2008 as compared with 0.13% for the
first half of 2007; however, the Companys level of nonperforming assets has increased $8.8 million
since June 30, 2007, and as a percent to total loans outstanding increased from 0.06% at June 30,
2007 to 0.47% at June 30, 2008. Additionally, delinquencies were 0.14% of loans outstanding at the
end of the first half of the current year as compared with 0.19% at June 30, 2007. Loan growth for
the first half of 2008 was $229.6 million as compared with $192.2 million for the period ended June
30, 2007. At June 30, 2008 and December 31, 2007, the allowance for loan losses was $18.2 million
and $15.3 million, respectively, representing 1.04% and 1.01%, respectively, of loans outstanding
at the end of each period. Other than the nonaccrual loans listed under the caption Asset
Quality, the Companys loan portfolio continues to perform well.
Non-Interest Income.
Non-interest income totaled $11.7 million for the six months ended
June 30, 2008 as compared with $7.8 million for the six months ended June 30, 2007, an increase of
$3.95 million or 50.9%. Non-interest income for first half of 2008 included a gain from the sale of
available-for-sale investment securities of $800,000 and a fair value gain of $1.8 million related
to certain trust preferred debt securities that the Company had elected fair value option treatment
effective January 1, 2007. These gains were higher than the gain on sale of securities of $163,000,
trading account gains of $259,000, and a gain of $50,000 on the trust preferred debt securities in
the first half of 2007. Non-interest income for the first half of 2007 also included a loss and net
cash settlements on the economic hedge of $759,000. There was no gain or loss on the economic hedge
in the first half of 2008 as the Company terminated its position in the economic hedge during the
third quarter of 2007. The fair value gain on the trust preferred securities in the first half of
2008 was the result of the unusually difficult credit conditions the financial industry faced over
the first half of the year which resulted in credit spreads on these types of securities to widen
significantly and increase the value of the debt securities as discussed above. It is not
anticipated that the Company would experience a fair value gain of this magnitude in the future
and, in all likelihood, would show a market value loss if credit market conditions become more
normalized. If such a loss were to occur, it would reduce non-interest income during the period in
which the loss took place.
-30-
Revenues from the Companys non-banking activities represented $4.9 million of the Companys
non-interest income. Revenue from Gateways insurance operations increased $217,000 or 7.6% to $3.1
million for the six months ended June 30, 2008 as compared with the first half of the prior year.
The increase in insurance revenues resulted from higher performance bonuses in the first quarter of
2008 as compared with 2007, offsetting some of the softness the market experienced during the
second quarter.
Revenue from the mortgage subsidiary decreased $27,000 or 1.6% from the first half of 2007 to $1.6
for the first half of 2008. The decrease was attributed to the nationwide issues that have affected
the mortgage industry during the last half of 2007 and has continued into 2008. Although Gateway
Bank Mortgage does no sub-prime lending, the limited access to the secondary markets (especially
for jumbo mortgages) had a negative effect on selling mortgages in the secondary market thus
slowing revenues during the first part of the year. These markets opened up somewhat during the
second quarter and mortgage revenues increased $112,000 during the second quarter as compared with
the first quarter of 2008.
Revenues from the brokerage operations decreased $267,000 or 57.8% to $195,000 in the first half of
2008 as compared with the first half of the prior year as the result of the departure of a broker
from our North Carolina operations at the end of the third quarter of last year.
Service charges on deposit accounts represent another key component of non-interest income for the
Bank. As a result of the Companys growth in transaction deposit accounts from period to period
from its expanding financial center network, service charges have increased $177,000 or 9.4% to
$2.1 million in the first half of 2008 as compared with the first half of 2007.
Other income increased $612,000 to $1.3 million during the first half of 2008 as compared with the
first half of 2007 as a result of gains related to the sale of government sponsored loans of
$347,500 (there were no such gains in the first half of 2007) and $150,000 higher fee income
primarily from check card exchange fees. Income from BOLI increased $324,600 for the first half of
2008 as compared with the same period of 2007 as a result of the purchase of $14.0 million of
additional BOLI during January 2008.
Non-interest income as a percent of total revenue was 30.8% for the six-month period ended June 30,
2008 as compared with 26.3% for the same period of 2007. The increase was partially associated
with the higher securities and fair value gains recognized during the first half of 2008.
Non-Interest Expenses.
Non-interest expenses aggregated $27.2 million for the six months
ended June 30, 2008 an increase of $7.2 million or 36.3% over the $19.9 million reported for
comparative 2007. Substantially all of this increase resulted from the Banks growth and franchise
development as well as the acquisition of The Bank of Richmond in June of last year as discussed in
detail above.
For the six months ended June 30, 2008, personnel costs increased by $3.8 million or 34.5% to
$14.8 million from $11.0 million for the six month period ended June 30, 2007 as a result of 63 new
hires over the past 12 months and The Bank of Richmond acquisition. The additional personnel were
associated with the additional financial centers as well as continued building to the support
infrastructure in deposit operations, credit administration, and retail banking and deposit
gathering areas.
Occupancy and equipment costs increased $1.1 million or 27.7% to $4.9 million for the first half of
2008 as compared with $3.8 million for the first half of 2007. This increase was the direct result
of the six financial centers and a loan production office added since the second quarter of last
year as well as the financial centers and loan production office acquired with The Bank of Richmond
acquisition.
Other expenses increased $2.0 million or 46.6% primarily because of higher FDIC insurance premiums
which increased $328,000 as a result of our increased deposit base; higher postage, printing, and
supplies expense of $324,000; franchise taxes which were $197,000 higher as a result of the
financial center expansion in Virginia and greater capital base; business development and travel
expenses which increased $350,000; an increase of $265,000 in consulting and professional services;
and $73,000 increase in intangibles amortization primarily related to The Bank of Richmond
acquisition.
Gateways efficiency ratio for the first half of 2008 was 71.39% up from the 67.95% for the first
half of 2007. As a percentage of average assets, non-interest expense has dropped from 2.98% for
the first half of 2007 to 2.74% for the first half of 2008 as Gateway continues to gain economies
of scale from its maturing financial centers.
-31-
Provision for Income Taxes.
The Companys effective tax rate was 28.3% for the six months
ended June 30, 2008 as compared with 35.4% for the first half of 2007. The lower effective tax rate
in 2008 is the result of dividend income related to FHMLC and FNMA preferred stock purchased in the
fourth quarter of 2007 and first quarter of 2008 (of which 70% of the dividends are tax free),
increased income from BOLI in the first half of 2008, and higher municipal interest income in the
first half of 2008. As a result of the Companys sustained pattern of profitability, we expect our
tax rate to remain near the level incurred during the first half of the year. Deferred tax assets
have increased primarily due to increases in our loan loss provision.
Average Balances and Average Rates Earned and Paid
.
The following table sets forth, for the
periods indicated, information on a fully taxable-equivalent basis with regard to average balances
of assets and liabilities as well as the total dollar amounts of interest income from
interest-earning assets and interest expense on interest-bearing liabilities, resultant yields or
costs, net interest income, net interest spread, net interest margin, and ratio of average
interest-earning assets to average interest-bearing liabilities. In preparing the table, nonaccrual
loans are included in the average loan balance.
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
For the Six Months Ended June 30,
|
|
|
|
2008
|
|
|
2007
|
|
|
|
Average
|
|
|
|
|
|
|
Average
|
|
|
Average
|
|
|
|
|
|
|
Average
|
|
|
|
Balance
|
|
|
Interest
|
|
|
Rate
|
|
|
Balance
|
|
|
Interest
|
|
|
Rate
|
|
|
|
(in thousands)
|
|
Interest-earning assets:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Loans
|
|
$
|
1,640,007
|
|
|
$
|
54,530
|
|
|
|
6.69
|
%
|
|
$
|
1,107,156
|
|
|
$
|
44,498
|
|
|
|
8.10
|
%
|
Interest-earning deposits
|
|
|
3,566
|
|
|
|
51
|
|
|
|
2.88
|
%
|
|
|
7,940
|
|
|
|
172
|
|
|
|
4.37
|
%
|
Investment securities available for
sale and trading securities:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Taxable
|
|
|
89,445
|
|
|
|
2,284
|
|
|
|
5.14
|
%
|
|
|
98,527
|
|
|
|
2,380
|
|
|
|
4.87
|
%
|
Tax-exempt
1
|
|
|
52,278
|
|
|
|
2,250
|
|
|
|
8.66
|
%
|
|
|
10,072
|
|
|
|
186
|
|
|
|
3.72
|
%
|
FHLB/FRB stock
|
|
|
16,533
|
|
|
|
539
|
|
|
|
6.56
|
%
|
|
|
11,977
|
|
|
|
391
|
|
|
|
6.58
|
%
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total interest-earning assets
1
|
|
|
1,801,829
|
|
|
|
59,654
|
|
|
|
6.66
|
%
|
|
|
1,235,672
|
|
|
|
47,627
|
|
|
|
7.77
|
%
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Other assets
|
|
|
195,959
|
|
|
|
|
|
|
|
|
|
|
|
115,269
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total assets
|
|
$
|
1,997,788
|
|
|
|
|
|
|
|
|
|
|
$
|
1,350,941
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Interest-bearing liabilities:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Deposits:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Savings, NOW, and money market
|
|
$
|
547,356
|
|
|
|
6,649
|
|
|
|
2.44
|
%
|
|
$
|
286,714
|
|
|
|
4,866
|
|
|
|
3.42
|
%
|
Time deposits
|
|
|
864,076
|
|
|
|
20,028
|
|
|
|
4.66
|
%
|
|
|
628,441
|
|
|
|
15,720
|
|
|
|
5.04
|
%
|
Short-term borrowings
|
|
|
27,361
|
|
|
|
436
|
|
|
|
3.20
|
%
|
|
|
28,839
|
|
|
|
818
|
|
|
|
5.72
|
%
|
Long-term borrowings
|
|
|
254,261
|
|
|
|
5,691
|
|
|
|
4.50
|
%
|
|
|
175,712
|
|
|
|
4,475
|
|
|
|
5.14
|
%
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total interest-bearing liabilities
|
|
|
1,693,054
|
|
|
|
32,804
|
|
|
|
3.90
|
%
|
|
|
1,119,706
|
|
|
|
25,879
|
|
|
|
4.66
|
%
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Demand deposits
|
|
|
128,112
|
|
|
|
|
|
|
|
|
|
|
|
107,179
|
|
|
|
|
|
|
|
|
|
Other liabilities
|
|
|
11,450
|
|
|
|
|
|
|
|
|
|
|
|
9,031
|
|
|
|
|
|
|
|
|
|
Stockholders equity
|
|
|
165,172
|
|
|
|
|
|
|
|
|
|
|
|
115,025
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total liabilities and stockholders equity
|
|
$
|
1,997,788
|
|
|
|
|
|
|
|
|
|
|
$
|
1,350,941
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net interest income and interest rate spread
1
|
|
|
|
|
|
$
|
26,850
|
|
|
|
2.76
|
%
|
|
|
|
|
|
$
|
21,748
|
|
|
|
3.11
|
%
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net interest margin
1
|
|
|
|
|
|
|
|
|
|
|
3.00
|
%
|
|
|
|
|
|
|
|
|
|
|
3.55
|
%
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Ratio of average interest-earning assets to
average interest-bearing liabilities
|
|
|
106.42
|
%
|
|
|
|
|
|
|
|
|
|
|
110.36
|
%
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
1
|
|
Interest income includes the affects of tax-equivalent adjustments using a federal tax
rate of 35% and applicable state income taxes to increase the tax-exempt interest and dividend
income to a tax-equivalent basis. The net tax-equivalent adjustments included in the above table
were $496,000 for the six months ended June 30, 2008. These adjustments are related to interest
income from municipal bonds that are tax-exempt for federal tax purposes, and dividends from
preferred stock of government sponsored enterprises which are 70% tax-exempt. There were no
tax-equivalent adjustments for the six months ended June 30, 2007 as they were considered
immaterial.
|
-32-
RATE/VOLUME ANALYSIS
The following table analyzes the dollar amount, on a fully taxable equivalent basis, of changes in
interest income and interest expense for major components of interest-earning assets and
interest-bearing liabilities. The table distinguishes between (i) changes attributable to volume
(changes in volume multiplied by the prior periods rate), (ii) changes attributable to rate
(changes in rate multiplied by the prior periods volume), and (iii) net change (the sum of the
previous columns). The change attributable to both rate and volume (changes in rate multiplied by
changes in volume) has been allocated to both the changes attributable to volume and the changes
attributable to rate.
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Six Months Ended
|
|
|
|
June 30, 2008 vs. June 30, 2007
|
|
|
|
Increase (Decrease) Due to
|
|
|
|
Volume
|
|
|
Rate
|
|
|
Total
|
|
|
|
(in thousands)
|
|
Interest income:
|
|
|
|
|
|
|
|
|
|
|
|
|
Loans
|
|
$
|
19,567
|
|
|
$
|
(9,535
|
)
|
|
$
|
10,032
|
|
Interest-earning deposits
|
|
|
(79
|
)
|
|
|
(42
|
)
|
|
|
(121
|
)
|
Investment securities available for sale
and trading securities:
|
|
|
|
|
|
|
|
|
|
|
|
|
Taxable
|
|
|
(226
|
)
|
|
|
130
|
|
|
|
(96
|
)
|
Tax-exempt
|
|
|
1,298
|
|
|
|
766
|
|
|
|
2,064
|
|
Other interest and dividends
|
|
|
149
|
|
|
|
(1
|
)
|
|
|
148
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total interest income
|
|
|
20,709
|
|
|
|
(8,682
|
)
|
|
|
12,027
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Interest expense:
|
|
|
|
|
|
|
|
|
|
|
|
|
Deposits:
|
|
|
|
|
|
|
|
|
|
|
|
|
Savings, NOW, and money market
|
|
|
3,796
|
|
|
|
(2,013
|
)
|
|
|
1,783
|
|
Time deposits
|
|
|
5,677
|
|
|
|
(1,369
|
)
|
|
|
4,308
|
|
Short-term borrowings
|
|
|
(33
|
)
|
|
|
(349
|
)
|
|
|
(382
|
)
|
Long-term borrowings
|
|
|
1,879
|
|
|
|
(663
|
)
|
|
|
1,216
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total interest expense
|
|
|
11,319
|
|
|
|
(4,394
|
)
|
|
|
6,925
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net interest income
|
|
$
|
9,390
|
|
|
$
|
(4,288
|
)
|
|
$
|
5,102
|
|
|
|
|
|
|
|
|
|
|
|
Liquidity and Capital Resources
The Companys sources of funds are customer deposits, cash and demand balances due from other
banks, interest-earning deposits in other banks, and trading and investment securities available
for sale. These funds, together with loan repayments and wholesale funding, are used to make loans
and to fund continuing operations. In addition, at June 30, 2008, the Bank had credit availability
with the FHLB of approximately $193.2 million with $169 million outstanding and federal funds lines
of credit with other financial institutions in the amount of $121.5 million, which $63.5 million
were outstanding at June 30, 2008.
Total deposits were $1.6 billion and $1.4 billion at June 30, 2008 and December 31, 2007,
respectively. As a result of the Companys loan demand exceeding the rate at which core deposits
have been gathered (primarily associated with the loan production offices that are not allowed to
gather deposits), the Company has relied heavily on time deposits, wholesale brokered deposits, and
borrowings as a source of funds. Time deposits are the only deposit accounts that have stated
maturity dates. Such deposits are generally considered to be rate sensitive. At June 30, 2008 and
December 31, 2007, time deposits represented 47.7% and 62.6%, respectively, of the Companys total
deposits. Time deposits of $100,000 or more represented 17.3% and 19.3%, respectively, of the
Banks total deposits at June 30, 2008 and December 31, 2007. At June 30, 2008, the Company had
$12.4 million in deposits from public units and $321.7 million in brokered deposits (of which
$192.5 million are money market funds that are due on demand). Management believes that most other
time deposits are relationship-oriented. While we will need to pay competitive rates to retain
these deposits at their maturities, there are other subjective factors that will determine their
continued retention. Based upon prior experience, the Company anticipates that a substantial
portion of outstanding certificates of deposit of the public units will renew upon maturity.
-33-
Additionally, the Companys liquidity policy allows for the Bank to utilize wholesale funding
(either through the brokered deposit markets or borrowings) up to 50% of its assets. At June 30,
2008, the Companys ratio of debt and brokered deposits to assets was 31.0% allowing for additional
wholesale funding and borrowings of approximately $405 million.
Management anticipates that the Company will rely primarily upon customer deposits, loan
repayments, wholesale funding (brokered CDs and borrowings from FHLB), federal funds line of
credit, and current earnings to provide liquidity and will use funds thus generated to make loans
and to purchase securities, primarily investment grade securities issued by the federal government
and its agencies, investment grade corporate securities, and investment grade mortgage-backed
securities.
CAPITAL RATIOS
The Company is subject to minimum capital requirements. As the following table indicates, at June
30, 2008, the Company exceeded regulatory capital requirements.
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
At June 30, 2008
|
|
|
Actual
|
|
Minimum
|
|
Well-Capitalized
|
|
|
Ratio
|
|
Requirement
|
|
Requirement
|
Total risk-based capital ratio
|
|
|
10.89
|
%
|
|
|
8.0
|
%
|
|
|
10.0
|
%
|
Tier 1 risk-based capital ratio
|
|
|
8.88
|
%
|
|
|
4.0
|
%
|
|
|
6.0
|
%
|
Leverage ratio
|
|
|
8.40
|
%
|
|
|
4.0
|
%
|
|
|
5.0
|
%
|
Management expects that the Company will remain well-capitalized for regulatory purposes,
although there can be no assurance that additional capital will not be required in the near future
due to greater-than-expected growth, or otherwise.
New Accounting Pronouncements
On March 19, 2008, the FASB issued SFAS No. 161,
Disclosures about Derivative Instruments and
Hedging Activities-an amendment of FASB Statement No. 133
, which requires enhanced disclosures
about an entitys derivative and hedging activities intended to improve the transparency of
financial reporting. Under SFAS No. 161, entities will be required to provide enhanced disclosures
about (a) how and why an entity uses derivative instruments, (b) how derivative instruments and
related hedged items are accounted for under SFAS No. 133 and its related interpretations, and (c)
how derivative instruments and related hedged items affect an entitys financial position,
financial performance, and cash flows. SFAS No. 161 is effective for financial statements issued
for fiscal years and interim periods beginning after November 15, 2008, with early application
encouraged. Management is currently evaluating the effects that SFAS No. 161 will have on the
financial condition, results of operations, liquidity, and the disclosures that will be presented
in the consolidated financial statements.
The FASB issued SFAS No. 141(R),
Business Combinations
, which replaces SFAS No. 141,
Business
Combinations
. This statement establishes principles and requirements for how an acquirer
recognizes and measures in its financial statements the identifiable assets acquired, the
liabilities assumed, and any non-controlling interest in the acquiree as well as the goodwill
acquired in the business combination or a gain from a bargain purchase. SFAS No. 141(R) also
establishes disclosure requirements which will enable users to evaluate the nature and financial
effects of the business combination. SFAS No. 141(R) is effective for fiscal years beginning after
December 15, 2008. The Company is currently evaluating the potential impact of the adoption of
SFAS No. 141(R) on the Companys consolidated financial position and results of operations.
In May 2008, the FASB issued SFAS No. 162, The Hierarchy of Generally Accepted Accounting
Principles. SFAS No. 162 identifies the sources of accounting principles and the framework for
selecting the principles used in the preparation of financial statements of non-governmental
entities that are presented in conformity with US GAAP. SFAS No. 162 is effective 60 days following
the SECs approval of the Public Company Accounting Oversight Board amendments to AU Section 411,
The Meaning of Present Fairly in Conformity With Generally Accepted Accounting Principles. The
Company does not anticipate that SFAS No. 162 will have an impact on its financial position and
results of operations.
-34-
From time to time, the FASB issues exposure drafts for proposed statements of financial accounting
standards. Such exposure drafts are subject to comment from the public, to revisions by the FASB,
and to final issuance by the FASB as statements of financial accounting standards. Management
considers the effect of the proposed statements on the consolidated financial statements of the
Company and monitors the status of changes to and proposed effective dates of exposure drafts.
Subsequent Event
Gateway Financial Holdings, Inc., the holding company for Gateway Bank & Trust Co., announced that
its board of directors has approved a quarterly cash dividend of $0.08 per share. The dividend is
payable on August 22, 2008 to shareholders of record at the close of business on August 8, 2008.
Item 3. Quantitative and Qualitative Disclosures about Market Risk
The Companys 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. The
secondary market risk is the value of collateral. Real estate is used as collateral for a
significant number and dollar amount of loans in our loan portfolio. The value of real estate has
risen at a noticeably higher rate during the last several years. After periods of significant real
estate value increases the possibility of market corrections or reductions in real estate
collateral value becomes more probable with a current cooling of real estate value. The third area
of market risk is the estimate for loan loss since it is subject to changing economic conditions.
As a result of the rising interest rates since mid 2004, it is anticipated that some home owners
and/or businesses will have difficulty timely paying the increased monthly payment of their
adjustable rate mortgages, even in light of the fact that interest rates have decreased over the
past year.
These conditions may impact the earnings generated by the Companys interest-earning assets or the
cost of its interest-bearing liabilities, thus directly impacting the Companys overall earnings.
The Companys management actively monitors and manages interest rate risk. One way this is
accomplished is through the development of, and adherence to, the Companys asset/liability policy.
This policy sets forth managements strategy for matching the risk characteristics of the Companys
interest-earning assets and interest-bearing liabilities so as to mitigate the effect of changes in
the rate environment. Collateral values are periodically monitored to protect the credit extended
and are subject to market fluctuations in our concentrated geographical area. The Companys market
risk profile has not changed significantly since December 31, 2007.
Item 4. Controls and Procedures
Evaluation of Disclosure Controls and Procedures
As of June 30, 2008, the Company carried out an evaluation under the supervision and with the
participation of the Companys management, including the Companys Chief Executive Officer and
Chief Financial Officer, of the effectiveness of the design and operation of the Companys
disclosure controls and procedures pursuant to Securities Exchange Act Rule 13a-14. Based upon that
evaluation, the Chief Executive Officer and Chief Financial Officer concluded that the Companys
disclosure controls and procedures are effective in timely alerting them to material information
relating to the Company required to be included in the Companys periodic SEC Filings. There were
no material changes in the Companys internal controls over financial reporting during the period
covered by this report that have materially affected, or are reasonably likely to materially
affect, the Companys internal control over financial reporting.
-35-
Part II. OTHER INFORMATION
Item 1 A. Risk Factors
The following are revised and additional risk factors from those disclosed in our Annual Report on
Form 10-K for the year ended December 31, 2007:
Our financial condition and results of operations could be negatively affected if we fail to manage
our growth effectively.
We pursued a significant growth strategy for our business historically, but intend to normalize our
future growth. We cannot assure you we will be able to successfully manage this normalization of
our growth or that any such a change in our historic business strategy will not adversely affect
our results of operations. Failure to manage our growth effectively could have a material adverse
effect on our business, future prospects, financial condition or results of operations, and could
adversely affect our ability to successfully implement our business strategy.
We may face risks with respect to future expansion.
Our historic strategy was to increase the size of our franchise by aggressively pursuing business
development opportunities, and we have grown rapidly since our incorporation. We have purchased a
number of banking offices of other financial institutions as a part of that strategy and have
acquired a number of insurance agencies. While we intend to normalize our future growth, we will
continue to explore acquisitions of or investments in bank or permissible non-bank entities,
including insurance agencies, by either us or our subsidiary bank, if we believe an appropriate
opportunity arises. Acquisitions and mergers involve a number of risks, including:
|
|
|
the time and costs associated with identifying and evaluating
potential acquisitions and merger partners;
|
|
|
|
|
the estimates and judgments used to evaluate credit, operations,
management and market risks with respect to the target entity may not
be accurate;
|
|
|
|
|
the time and costs of evaluating new markets, hiring experienced local
management and opening new offices, and the time lags between these
activities and the generation of sufficient assets and deposits to
support the costs of the expansion;
|
|
|
|
|
our ability to finance an acquisition and possible ownership and
economic dilution to our current shareholders and to investors
purchasing common stock in this offering;
|
|
|
|
|
the diversion of our managements attention to the negotiation of a
transaction, and the integration of the operations and personnel of
the combining businesses;
|
|
|
|
|
entry into new markets where we lack experience;
|
|
|
|
|
the introduction of new products and services into our business;
|
|
|
|
|
the incurrence and possible impairment of goodwill associated with an
acquisition and possible adverse short-term effects on our results of
operations; and
|
|
|
|
|
the risk of loss of key employees and customers.
|
We may incur substantial costs to expand, and we can give no assurance such expansion will result
in the levels of profits we seek. There can be no assurance integration efforts for any future
mergers or acquisitions will be successful. Also, we may issue equity securities, including common
stock, and securities convertible into shares of our common stock in connection with future
acquisitions, which could cause ownership and economic dilution to our current shareholders. There
is no assurance that, following any future mergers or acquisition, our integration efforts will be
successful or our company, after giving effect to the acquisition, will achieve profits comparable
to or better than our historical experience.
-36-
Our construction loans are subject to additional lending risks that could adversely affect
earnings.
As of June 30, 2008, approximately 38% of our total loan portfolio was in construction, acquisition
and development loans. In the event of a general economic slowdown like the one we are currently
experiencing, these loans have additional risks beyond our other loans that could affect the
borrowers ability to repay on a timely basis. In addition to the normal loan risks of nonpayment
by borrowers and decreases in real estate values, construction lending poses additional risks that
affect the ability of borrowers to repay loans and the value and marketability of real estate
collateral, such as:
|
|
|
developments, builders or owners may fail to complete or develop projects;
|
|
|
|
|
municipalities may place moratoriums on building, utility connections or required
certifications;
|
|
|
|
|
developers may fail to sell the improved real estate;
|
|
|
|
|
there may be construction delays and cost overruns;
|
|
|
|
|
the variable rates on these loans could increase the payment on the loan at a time when
the borrowers income is under stress;
|
|
|
|
|
collateral may prove insufficient; or
|
|
|
|
|
permanent financing may not be obtained in a timely manner.
|
Any of these conditions could negatively affect our net income and our financial condition.
A significant part of our loan portfolio is unseasoned.
From the beginning of 2007 through June 30, 2008, our loan portfolio grew by approximately
$751 million. It is difficult to assess the future performance of this part of our loan portfolio
due to the recent origination of these loans. Industry experience shows that it takes several
years for loan difficulties to become apparent. We can give no assurance that these loans will not
become non-performing or delinquent, which could adversely affect our future performance.
The decline in the fair market value of various investment securities available for sale could
result in future impairment losses.
As of June 30, 2008, the total amortized cost of our portfolio of investment securities available
for sale, which includes both debt and equity securities, was approximately $146.5 million while
the fair market value of our investment securities available for sale was approximately $139.8
million. As of June 30, 2008, the difference between the estimated fair value and amortized cost
of the equity securities included within our available-for-sale investment portfolio was a loss of
$6.7 million, and an approximate $4.1 million loss net of tax, which was included in accumulated
other comprehensive loss as a reduction in stockholders equity on our balance sheet.
We have not recognized this difference as a charge against net income due to our determination at
June 30, 2008, that the unrealized losses in our investment securities available for sale did not
constitute other-than-temporary impairments. If we determine in one or more future reporting
periods that any difference between the fair value and the amortized cost of any of our investment
securities available for sale is other-than-temporarily impaired, we would be required to record an
impairment loss against our income in an amount equal to such difference.
A number of factors could cause us to conclude in one or more future reporting periods that any
difference between the fair value and the amortized cost of any of our investment securities
available for sale constitutes an other-than-temporary impairment. These factors include, but are
not limited to, an increase in the severity of the unrealized loss on a particular security, an
increase in the length of time unrealized losses continue without an improvement in value, a change
in our intent or ability to hold the security for a period of time sufficient to allow for the
forecasted recovery, or changes in market conditions or industry or issuer specific factors that
would render us unable to forecast a full recovery in value.
-37-
The building of market share through our de novo financial center strategy could cause our expenses
to increase faster than our revenues.
We intend to continue to build market share through our de novo financial center strategy. During
2008, we opened an additional new financial center in Emporia, Virginia and our first financial
centers in Charlottesville, Virginia and Chapel Hill, North Carolina. Additionally, we opened our
first financial center in Wake Forest, North Carolina in July 2008 and intend to open six
additional new financial centers in 2009. There are considerable costs involved in opening
financial centers. New financial centers generally do not generate sufficient revenues to offset
their costs until they have been in operation for at least a year or more. Accordingly, our new
financial centers can be expected to negatively impact our earnings for some period of time until
the financial centers reach certain economies of scale. Our expenses could be further increased if
we encounter delays in the opening of any of our new financial centers. Finally, we have no
assurance our new financial centers will be successful even after they have been established.
Holders of our junior subordinated debentures and preferred stock have rights that are senior to
those of our common shareholders.
We have supported our continued growth through the issuance of trust preferred securities from
special purpose trusts and accompanying junior subordinated debentures and through the issuance of
preferred stock. At June 30, 2008, we had outstanding trust preferred securities and accompanying
junior subordinated debentures totaling $56.1 million and 23,266 shares of Series A Preferred
Stock. The junior subordinated debentures we issued to the special purpose trusts and the
preferred stock are senior to our shares of common stock. As a result, we must make payments on
the junior subordinated debentures and the preferred stock before any dividends can be paid on our
common stock and, in the event of our bankruptcy, dissolution or liquidation, the holders of the
junior subordinated debentures and the preferred stock must be satisfied before any distributions
can be made on our common stock. We have the right to defer distributions on our junior
subordinated debentures (and the related trust preferred securities) for up to five years and on
our preferred stock for any period of time, during which time no dividends may be paid on our
common stock.
Item 4. Submission of Matters to a Vote of Security Holders
The Annual Meeting of Stockholders was held on May 19, 2008. Of the 12,665,323 shares entitled to
vote at the meeting, 10,459,586 voted. The following matter was voted on at the meeting:
Proposal 1:
To elect five members of the Board of Directors as Class III directors to serve
three-year terms until the annual meeting in 2011, until their successors are elected and
qualified, or until their death, resignation, or retirement.
Votes for each nominee were as follows:
|
|
|
|
|
|
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NOMINEE
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FOR
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WITHHOLD
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D. Ben Berry
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10,211,123
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|
|
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248,463
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Jimmie Dixon, Jr.
|
|
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10,223,764
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|
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235,822
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Robert Y. Green, Jr.
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10,208,593
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|
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250,993
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W. Taylor Johnson, Jr.
|
|
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10,064,607
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|
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394,979
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William A. Paulette
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10,228,253
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|
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231,333
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-38-
The following directors continue in office after the annual meeting:
H. Spencer Barrow
Robert Willard Luther III
W.C. Bill Owens, Jr.
Frank T. Williams
Jerry T. Womack
William Brumsey III
James H. Ferebee, Jr.
Frances Morrisette Norrell
Ollin B. Sykes
Billy G. Roughton
Item 6.
Exhibits
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Exhibit #
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Description
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10.1
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Loan and Subordinated Debenture Purchase Agreement
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10.2
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Employment agreement with Matthew D. White
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31.1
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Rule 13a-14(a)/15d-14(a) Certification
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31.2
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Rule 13a-14(a)/15d-14(a) Certification
|
|
|
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32.0
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Section 1350 Certification
|
-39-
SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934, the Bank has duly caused this
report to be signed on its behalf by the undersigned thereunto duly authorized.
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GATEWAY FINANCIAL HOLDINGS, INC.
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Date: August 11, 2008
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By:
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/s/ D. Ben Berry
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D. Ben Berry
|
|
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President and Chief Executive Officer
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Date: August 11, 2008
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By:
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/s/ Theodore L. Salter
|
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|
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Theodore L. Salter
|
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Senior Executive Vice President and Chief Financial Officer
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-40-
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