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XBKS > SEC Filings for XBKS > Form 10-Q on 14-Nov-2011All Recent SEC Filings

Show all filings for XENITH BANKSHARES, INC. | Request a Trial to NEW EDGAR Online Pro

Form 10-Q for XENITH BANKSHARES, INC.


14-Nov-2011

Quarterly Report


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

The following is management's discussion and analysis of the company's consolidated financial condition, changes in financial condition, results of operations, liquidity, cash flows and capital resources. This discussion should be read in conjunction with the consolidated financial statements and accompanying notes in Part I, Item 1, "Financial Statements" in this Quarterly Report on Form 10-Q ("Form 10-Q") and Part II, Item 8, "Financial Statements and Supplementary Data" in the company's Annual Report on Form 10-K for the year ended December 31, 2010 ("2010 Form 10-K"). The data presented as of September 30, 2011 and for the three- and nine-month periods ended September 30, 2011 is derived from unaudited interim financial statements and include, in the opinion of management, all adjustments, consisting solely of normal recurring accruals, necessary for a fair presentation of the data for such period.

All references to "Xenith Bankshares", "our company", "we", "our" or "us" are to Xenith Bankshares, Inc. and its wholly-owned subsidiary, Xentith Bank, collectively. All references to "the Bank" are to Xenith Bank.

All dollar amounts included in the tables in this discussion and analysis are in thousands.

BUSINESS OVERVIEW

Xenith Bankshares is a Virginia corporation that is the bank holding company for Xenith Bank, which is a Virginia banking corporation organized and chartered pursuant to the laws of the Commonwealth of Virginia and a member of the Federal Reserve. The Bank is a full-service, locally-managed commercial bank specifically targeting the banking needs of middle market and small businesses, local real estate developers and investors, private banking clients and select retail banking clients, which we refer to as our target customers. We are geographically focused on the Washington, D.C.-Arlington-Alexandria, Richmond and Virginia Beach-Norfolk-Newport News metropolitan statistical area, which we refer to as our target markets. As of September 30, 2011, the Bank conducted its principal banking activities through its five full-service branches, with one branch located in Tysons Corner, Virginia, one branch located in Richmond, Virginia and three branches located in Suffolk, Virginia. We acquired the three branches located in Suffolk, Virginia in the merger with First Bankshares, Inc., the parent company of its wholly-owned subsidiary SuffolkFirst Bank. SuffolkFirst Bank opened its first branch in Suffolk, Virginia in 2003 under the name of SuffolkFirst Bank. All of the former SuffolkFirst Bank branches operate under the name Xenith Bank. As of September 30, 2011, we had total assets of $470.0 million, total loans, net of the allowance for loan and lease losses, of $293.3 million, total deposits of $362.3 million and shareholders' equity of $80.4 million.

Our services and products consist primarily of taking deposits from, and making loans to, our target customers within our target markets. We provide a broad selection of commercial and retail banking products, including commercial and industrial loans, commercial and residential real estate loans, and select consumer loans. We also offer a wide range of checking, savings and treasury products, including remote deposit capture, automated clearing house transactions, debit cards, 24-hour ATM access, and Internet banking and bill pay service. We do not engage in any activities other than banking activities.

The primary source of our revenue is net interest income, which represents the difference between interest income on interest-earning assets and interest expense on interest-bearing liabilities used to fund those assets. Interest-earning assets include loans, available-for-sale securities, and federal funds sold. Interest-bearing liabilities include deposits and borrowings. Sources of non- interest income include service charges on deposit accounts, fees from loan originations, gains on the sale of securities, and other miscellaneous income. Deposits and Federal Home Loan Bank borrowed funds are our primary sources of funding. Our largest expenses are interest on our funding sources and salaries and related employee benefits.

Merger of First Bankshares, Inc. and Xenith Corporation

First Bankshares, Inc. ("First Bankshares") was incorporated in Virginia in 2008, and was the holding company for SuffolkFirst Bank, a community bank founded in the City of Suffolk, Virginia in 2002.

On December 22, 2009, First Bankshares and Xenith Corporation, a Virginia corporation, completed the merger of Xenith Corporation with and into First Bankshares (the "merger"), with First Bankshares being the surviving entity in the merger. The merger was completed in accordance with the terms of an agreement of merger and related plan of merger, dated as of May 12, 2009, as amended. At the effective time of the merger, First Bankshares amended its amended and restated articles of incorporation to, among other things, change its name to Xenith Bankshares, Inc. In addition, following the completion of the merger, SuffolkFirst Bank changed its name to Xenith Bank.

Acquisitions

Effective July 29, 2011, the Bank acquired select loans totaling approximately $58 million and related assets associated with the Richmond, Virginia branch office (the "Paragon Branch") of Paragon Commercial Bank, a North Carolina banking corporation ("Paragon"), and assumed select deposit accounts totaling approximately $77 million and certain related liabilities associated with the Paragon Branch (the "Paragon Transaction"). The Paragon Transaction was completed in accordance with the terms of the Amended and Restated Purchase and Assumption Agreement, dated as of July 25, 2011 (the "Paragon Agreement"), between the Paragon Bank and Paragon. Under the terms of the Paragon Agreement, Paragon retained the real and personal property associated with the Paragon Branch office and, subject to receipt of required regulatory approvals, the Paragon Branch office will be closed.


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Under the terms of the Paragon Agreement, Paragon made a cash payment to the Bank in the amount of $17.3 million (subject to adjustment as provided in the Paragon Agreement), which represents the excess of approximately all of the liabilities assumed at a premium of 3.92%, over approximately all of the assets acquired at a discount of 3.77%.

Also effective July 29, 2011, the Bank acquired substantially all of the assets, including all loans, and assumed certain liabilities, including all deposits, of Virginia Business Bank ("VBB"), a Virginia banking corporation located in Richmond, Virginia, which was closed on July 29, 2011 by the Virginia State Corporation Commission (the "VBB Acquisition"). The Federal Deposit Insurance Corporation ("FDIC") is acting as court-appointed receiver of VBB. The VBB Acquisition was completed in accordance with the terms of the Purchase and Assumption Agreement, dated as of July 29, 2011 (the "VBB Agreement"), among the FDIC, receiver for VBB, the FDIC and the Bank.

Based upon a preliminary closing with the FDIC as of July 29, 2011, the Bank acquired total assets of approximately $93 million, including approximately $70 million in loans. The Bank also assumed liabilities of approximately $87 million, including approximately $77 million in deposits. These amounts are estimates and, accordingly, are subject to adjustments based upon final settlement with the FDIC. The VBB Acquisition was completed without any shared-loss agreement.

Under the terms of the VBB Agreement, the Bank received a discount of approximately $23.8 million on the net assets and did not pay a deposit premium. The Bank also received an initial cash payment from the FDIC in the amount of $17.8 million based on the difference between the discount received ($23.8 million) and the net assets acquired ($5.9 million) (subject to adjustment as provided in the VBB Agreement). We believe the Paragon Transaction and the VBB Acquisition provide strategic and financial growth for the Bank, while leveraging our existing infrastructure costs.

Industry Conditions

In the third quarter of 2011, economic growth strengthened somewhat, however weakness in overall labor market conditions continued. Business investment in equipment and software has continued to expand, though investment in nonresidential structures remains weak and the housing sector remains depressed. The unemployment rate, as published by the Bureau of Labor Statistics, which climbed to 9.2% in the second quarter of 2011 dropped to just above 9.0% in the third quarter of 2011. The Bureau of Economic Analysis reported the economy grew by 2.5% in the third quarter, the highest level in a year, fueled by consumer spending.

On November 2, 2011, the Federal Open Market Committee ("FOMC") publicly stated that it expects a moderate pace of economic growth over the coming quarters and that the unemployment rate will decline only gradually. The FOMC stated there are downside risks to the economic outlook, including strains in global financial markets. The FOMC stated that economic conditions "are likely to warrant exceptionally low levels for the federal funds rate for at least through mid-2013." The FOMC also stated that it is maintaining its existing policy of reinvesting principal payments from its securities holdings.

Regulatory reform continued during the quarter, as regulatory agencies proposed and finalized rules mandated by the Dodd-Frank Act. The rules that became effective on April 1, 2011 require us to base our deposit insurance assessment calculation on our total average assets less average tangible equity, rather than domestic deposits. In addition, the FDIC revised the overall pricing structure for large banks, resulting in assessment rates being affected by specific risk characteristics. We are actively evaluating these and future regulatory and legislative developments so that we will be in a position to adapt our business at the appropriate time.

Outlook

We believe we are well positioned to take advantage of competitive opportunities. We believe that we will benefit from (1) our capital base, which we believe will allow us to compete effectively with both the larger, more established super-regional and national banks, as well as the smaller, locally managed community banks operating in our target markets, (2) our advantageous market locations in our target markets, (3) our variety of banking services and products, and (4) our experienced management team and board of directors.

We intend to execute our business strategy by focusing on developing long-term relationships with our target customer base through a team of bankers with significant experience in our target markets.

In our continuing evaluation of our business strategy, we believe properly priced acquisitions can complement our organic growth. We may seek to acquire other financial institutions or branches or assets of those institutions. Although our principal acquisition focus will be to expand our presence in our target markets, we may also expand into new markets or lines of business or offer new services or products. Our goal in making these decisions is to maximize shareholder value.

Critical Accounting Policies

Our accounting policies are fundamental to an understanding of our consolidated financial position and consolidated results of operations. We believe that our accounting and reporting policies are in accordance with Generally Accepted Accounting Principles in the United States of America ("GAAP") and conform to general practices within the banking industry. Our financial position and results of operations are affected by management's application of accounting policies, including estimates, assumptions and judgments made to arrive at the carrying value of assets and liabilities, and amounts reported for revenues, expenses and related disclosures. Different assumptions in the application of these policies could result in material changes in our consolidated financial position or results of operations or both our consolidated financial position and results of operations.


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We consider a policy critical if (1) the accounting estimate requires assumptions about matters that are highly uncertain at the time of the accounting estimate, and (2) different estimates that could reasonably have been used in the current period, or changes in the accounting estimate that are reasonably likely to occur from period to period, would have a material impact on our financial statements. Using these criteria, we believe that our most critical accounting policy relates to the allowance for loan and lease losses, which reflects the estimated losses resulting from the inability of borrowers to make required loan payments. If the financial condition of borrowers were to deteriorate, resulting in an impairment of their ability to make payments, adjustments to our estimates would be made and additional provisions for loan and lease losses could be required, which could have a material adverse impact on our results of operations and financial condition. Further discussion of the estimates used in determining the allowance for loan and lease losses is contained in the discussion under "- Allowance for Loan and Lease Losses" below.

Our critical accounting policies are discussed in detail in "Management's Discussion and Analysis of Financial Condition and Results of Operations - Critical Accounting Policies" and "Note 2-Summary of Significant Accounting Policies" in the notes to the consolidated financial statements in our 2010 Form 10-K. Since December 31, 2010, there have been no changes in these policies that have had or could reasonably expected to have a material impact on our results of operations or financial condition.

RESULTS OF OPERATIONS

Net Income (Loss)

For the three months ended September 30, 2011, we reported net income of $6.8 million, compared to a net loss of $2.0 million for the three months ended September 30, 2010. For the nine months ended September 30, 2010, we reported net income of $4.2 million compared to a net loss of $5.0 million for the nine months ended September 30, 2010. Net income for both the three- and nine-month periods ended September 30, 2011 compared to the same periods in 2010 was driven by the bargain purchase gain of $8.7 million recognized on the VBB Acquisition, which was effective July 29, 2011.

The following table presents net income (loss) and net earnings (loss) per common share information for the periods stated. On April 4, 2011 and April 14, 2011, common shares outstanding increased 4,000,000 and 600,000, respectively, as a result of the completion of our underwritten public offering of shares of our common stock on April 4, 2011 and the related exercise of the underwriters of their over-allotment option on April 14, 2011. On September 21, 2011, we received $8,361,000 from the U.S. Department of Treasury pursuant to its Small Business Lending Fund program and issued 8,361 shares of Senior Non-Cumulative Perpetual Preferred Stock, Series A, which is further discussed below.

                                                          For the Three Months Ended September 30,
                                                              2011                        2010
Net income (loss)                                      $            6,789         $             (1,951 )


Earnings (loss) per common share, basic and diluted    $             0.65         $              (0.33 )


                                                           For the Nine Months Ended September 30,
                                                              2011                        2010
Net income (loss)                                      $            4,232         $             (4,993 )


Earnings (loss) per common share, basic and diluted    $             0.48         $              (0.85 )

Net Interest Income

For the three months ended September 30, 2011, net interest income was $4.8 million compared to $2.3 million for the three months ended September 30, 2010. Higher net interest income was primarily due to higher balances of average interest-earning assets, partially offset by both lower yields on these balances and higher balances of interest-bearing liabilities; although, the higher balances of interest-bearing liabilities were at lower interest costs. As presented in the table below, net interest margin for the three-month period ended September 30, 2011 was 5.01%, a 59 basis point increase from the same period in 2010. Net interest margin is defined as the percentage of net interest income to average interest-earning assets. Excluding the effect of acquisition accounting adjustments, net interest margin for the three months ended September 30, 2011 was 3.44%, a 45 basis points decrease from the same period in 2010. Lower net interest margin, excluding purchase accounting adjustments, is primarily due to lower yields on higher average interest-earning asset balances.

Average interest-earning assets and related interest income increased $175.2 million and $2.7 million, respectively, for the three-month period ended September 30, 2011 compared to the same period in 2010. Average interest-bearing liabilities and related interest expense increased $134.5 million and $231 thousand, respectively, for the three-month period ended September 30, 2011


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compared to the same period in 2010. Yields on interest-earning assets increased 33 basis points to 5.85%, while costs of interest-bearing liabilities declined 31 basis points to 1.08% when comparing the three-month period ended September 30, 2011 to the same period in 2010.

For the nine months ended September 30, 2011, net interest income was $10.5 million compared to $5.9 million for the nine months ended September 30, 2010. Higher net interest income was primarily due to higher balances of average interest-earning assets, partially offset by both lower yields on these balances and higher balances of interest-bearing liabilities, although at lower costs. As presented in the table below, net interest margin for the nine months ended September 30, 2011 was 4.76%, a 62 basis point increase from the same period in 2010. Excluding the effect of acquisition accounting adjustments, net interest margin for the nine months ended September 30, 2011 was 3.45%, a 57 basis point increase from 2.88% for the same period in 2010. Contributing to higher net interest margin, excluding purchase accounting adjustments, was higher average loan balances and lower rates paid on time deposits, partially offset by lower yields on investments and higher average balances of interest-bearing liabilities.

Average interest-earning assets and related interest income increased $102.0 million and $4.7 million, respectively, for the nine-month period ended September 30, 2011 compared to the same period in 2010. Average interest-bearing liabilities and related interest expense increased $78.4 million and $0.2 million, respectively, for the nine-month period ended September 30, 2011 compared to the same period in 2010. Yields on interest-earning assets increased 31 basis points to 5.58%, while costs of interest-bearing liabilities declined 38 basis points to 1.05% when comparing the nine-month period ended September 30, 2011 to the same period in 2010.

Our loan portfolios acquired in the merger, the Paragon Transaction and VBB Acquisition were discounted to fair value immediately following the acquisitions. The total performing loan discount of $15.3 million related to these acquired portfolios is being recognized (accreted) into interest income over the estimated remaining life of the loans. Amounts recovered in excess of carrying value for nonperforming loans on cost recovery are also accreted into interest income at the time of the recovery. The loan discount accretion was $1.2 million and $507 thousand, respectively, for the three-month periods ended September 30, 2011 and 2010. The loan discount accretion was $2.1 million and $996 thousand, respectively, for the nine-month periods ended September 30, 2011 and 2010. The effect of this accretion on net interest margin was 129 basis points and 27 basis points, respectively, for the three-month periods ended September 30, 2011 and 2010. The effect of this accretion on net interest margin was 94 basis points and 69 basis points, respectively, for the nine-month periods ended September 30, 2011 and 2010. Acquired time deposits were also adjusted to fair value at the date of the merger for interest rates. The total adjustment at the date of the merger was $2.1 million and is being amortized as a reduction of interest expense over a two-year period. The effect of this amortization is a decrease in interest expense of $270 thousand for the three-month periods ended September 30, 2011 and 2010, and $810 thousand for the nine-month periods ended September 30, 2011 and 2010. The effect of this adjustment on net interest margin was 28 basis points and 27 basis points, respectively, for the three-month periods ended September 30, 2011 and 2010 and 37 basis points and 56 basis points, respectively, for the nine-month periods ended September 30, 2011 and 2010. As of September 30, 2011, unearned loan discounts totaled $16.4 million.


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The following tables provide a detailed analysis of the effective yields and rates on average interest-earning assets and average interest-bearing liabilities as of and for the periods stated. The average balances and other statistical data used in this table were calculated using daily average balances.

                                                                                             Average Balances, Income and Expenses, Yields and Rates
                                                                                                As of and For the Three Months Ended September 30,
                                                                                                                                                                2011 vs. 2010
                                                          Average Balances (1)            Yield / Rate            Income / Expense (7), (8)         Increase          Change due to (2)
                                                           2011           2010          2011        2010           2011               2010         (Decrease)         Rate         Volume
Assets
Interest-earning assets:
Federal funds sold                                      $    1,089      $     235        0.46 %      0.00 %    $          1       $         -      $         1      $      1       $    -
Investments / Interest-earning deposits                    124,623         82,956        1.65 %      2.59 %             514                537             (23 )        (236 )         213
Loans, gross (3)                                           260,246        127,577        7.88 %      7.44 %           5,129              2,372           2,757           150         2,607

Total interest-earning assets                              385,958        210,768        5.85 %      5.52 %           5,644              2,909           2,735           (84 )       2,820


Noninterest-earning assets:
Cash and due from banks                                      3,105          3,035
Premises and fixed assets                                    6,167          6,808
Other assets                                                19,965         17,682
Allowance for loan and lease losses                         (3,192 )         (687 )

Total noninterest-earning assets                            26,044         26,838


Total assets                                            $  412,002      $ 237,606


Liabilities and Shareholders' Equity
Interest-bearing liabilities:
Demand deposits                                         $   12,327      $   5,672        0.48 %      0.21 %    $         15       $          3     $        12      $      6       $     6
Savings and money market deposits                          131,431         33,693        1.04 %      0.96 %             340                 81             259             7           252
Time deposits                                              131,714        103,009        0.83 %      1.34 %             274                344             (70 )        (151 )          80
Federal funds purchased and borrowed funds                  26,374         25,014        2.80 %      2.46 %             185                154              31            22             9

Total interest-bearing liabilities                         301,846        167,388        1.08 %      1.39 %             813                582             231          (116 )         347


Noninterest-bearing liabilities:
Noninterest-bearing demand deposits                         37,249         16,524
Other liabilities                                            1,924          1,954

Total noninterest-bearing liabilities                       39,173         18,478


Shareholders' equity                                        70,983         51,740


Total liabilities and shareholders' equity              $  412,002      $ 237,606


Interest rate spread (4)                                                                 4.77 %      4.13 %

Net interest income (5)                                                                                        $      4,831       $      2,327     $     2,504      $     32       $ 2,472


Net interest margin (6)                                                                  5.01 %      4.42 %

(1) Average balances are computed on a daily basis.

(2) Change in interest due to both volume and rate has been allocated in proportion to the absolute dollar amounts of the change in each.

(3) Nonaccrual loans have been included in the average balances. Only the interest collected on such loans has been included as income.

(4) Interest rate spread is the average yield on interest-earning assets less the average rate on interest-bearing liabilities.

(5) Net interest income is interest income less interest expense.

(6) Net interest margin is net interest income expressed as a percentage of average interest-earning assets.

(7) Interest income on loans in 2011 and 2010 includes $1,240 thousand and $507 thousand, respectively, in accretion related to purchase accounting adjustments.

(8) Interest expense on time deposits in 2011 and 2010 is reduced by $270 thousand related to purchase accounting adjustments.


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                                                                                   Average Balances, Income and Expenses, Yields and Rates
                                                                                      As of and For the Nine Months Ended September 30,
                                                                                                                                                      2011 vs. 2010
                                               Average Balances (1)            Yield / Rate            Income / Expense (7), (8)          Increase          Change due to (2)
                                                2011           2010          2011        2010           2011                2010         (Decrease)         Rate         Volume
Assets
Interest-earning assets:
. . .
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