UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

 

 

Form 10-K

 

Commission file number 0-25033

 

SUPERIOR BANCORP

(Exact Name of Registrant as Specified in Its Charter)

 

 

(205) 327-1400

(Registrant’s Telephone Number, Including Area Code)

Securities registered pursuant to Section 12(b) of the Act:

 

Securities registered pursuant to Section 12(g) of the Act:

NONE

 

Indicate by check mark if the registrant is a well-known seasoned issuer, as defined in Rule 405 of the Securities Act.  Yes o     No þ

 

Indicate by check mark if the registrant is not required to file reports pursuant to Section 13 or Section 15(d) of the Act.  Yes o     No þ

Indicate by check mark whether the registrant:  (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days.  Yes þ     No o

 

Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files).  Yes o     No o

 

Indicate by check mark if disclosure of delinquent filers pursuant to Item 405 of Regulation S-K is not contained herein, and will not be contained, to the best of registrant’s knowledge, in definitive proxy or information statements incorporated by reference in Part III of this Form 10-K or any amendment to this Form 10-K.  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 the definitions of “large accelerated filer,” “accelerated filer” and “smaller reporting company” in Rule 12b-2 of the Exchange Act. (Check one):

 

(Do not check if a smaller reporting company)

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

 

The aggregate market value of the voting common stock held by non-affiliates of the registrant as of June 30, 2009, based on a closing price of $2.61 per share of common stock, was $23,029,643.

 

Indicate the number of shares outstanding of each of the registrant’s classes of common stock as of the latest practicable date: the number of shares outstanding as of March 3, 2010, of the registrant’s only issued and outstanding class of common stock, its $.001 per share par value common stock, was 11,687,406.

DOCUMENTS INCORPORATED BY REFERENCE

 

The information set forth under Items 10, 11, 12, 13 and 14 of Part III of this Report is incorporated by reference from the registrant’s definitive proxy statement for its 2010 annual meeting of stockholders that will be filed no later than April 30, 2010.

 

 

TABLE OF CONTENTS

 

 

 

General

 

Superior Bancorp is a Delaware-chartered nondiversified unitary savings and loan holding company headquartered in Birmingham, Alabama. We offer a broad range of banking and related services in 73 locations in Alabama and Florida through Superior Bank, our principal subsidiary. Superior Bank’s consumer finance subsidiaries operate an additional 24 consumer finance offices in North Alabama. We had assets of approximately $3.222 billion, loans of approximately $2.473 billion, deposits of approximately $2.657 billion and stockholders’ equity of approximately $191.7 million at December 31, 2009. Our principal executive offices are located at 17 North 20th Street, Birmingham, Alabama 35203, and our telephone number is (205) 327-1400.

 

We were founded in 1997 and completed our initial public offering in December 1998. Beginning in the fall of 1998, we grew through the acquisition of various financial institutions in Alabama and Florida.

 

In January 2005, we began the transition from our founding management team to a new senior management team composed of veteran bankers with a strong track record and a history of enhancing stockholder value. During the remainder of 2005, we completed that management transition.

 

During 2006 and 2007, we expanded our franchise with three strategic acquisitions. On August 31, 2006, we entered the Tampa, Florida market when we acquired Kensington Bankshares, Inc. (“Kensington”) and its subsidiary, First Kensington Bank. On November 7, 2006, we increased our market presence in North Alabama by acquiring Community Bancshares, Inc. (“Community”) and its subsidiary, Community Bank. On July 27, 2007, we acquired People’s Community Bancshares, Inc. (“People’s”) and its subsidiary, People’s Community Bank of the West Coast, adding three branches in Sarasota and Manatee Counties in Florida to our franchise.

 

Strategy

 

Operations.  We focus our services on small to medium-sized businesses, as well as professionals and individuals, emphasizing our local decision-making, effective response time and personalized service. As a result, we conduct our business on a decentralized basis with respect to deposit gathering and most credit decisions, utilizing local knowledge and authority to make these decisions. We supplement this decentralized management approach with centralized loan administration, policy oversight, credit review, audit, legal, asset/liability management, data processing, human resources and risk management systems. We implement these standardized administrative and operational policies at each of our locations while retaining local management and advisory directors to capitalize on their knowledge of the local community.

 

Products and Services.  Superior Bank provides a wide range of retail and small business services, including noninterest-bearing and interest-bearing checking, savings and money market accounts, negotiable order of withdrawal (“NOW”) accounts, certificates of deposit and individual retirement accounts. In addition, Superior Bank offers an extensive array of consumer, small business, residential real estate and commercial real estate loan products. Other financial services include annuities, automated teller machines, debit cards, credit-related life and disability insurance, safety deposit boxes, Internet banking, bill payment and telephone banking. Superior Bank attracts primary banking relationships through the customer-oriented service environment created by Superior Bank’s personnel combined with competitive financial products.

 

Superior Bank also owns two consumer finance companies, Superior Financial Services, LLC and 1st Community Credit Corporation as well as Superior Financial Management, Inc. which provides investment and insurance products. The finance companies generally provide smaller loans to a market segment traditionally not pursued by Superior Bank. These loans typically involve greater risk and generate higher yields than standard bank loans. We believe that, by conducting this business, we reach a customer base not served by our banking operations.

 

Market Areas.  Superior Bancorp is headquartered in Birmingham, Alabama. Our primary markets are located in northern and central Alabama and in the panhandle and west coast of Florida.

Superior Bank has branches in:

 

 

Superior Bank’s finance companies have 24 offices in Albertville, Anniston, Arab, Attalla, Athens, Boaz, Cullman (2), Decatur, Florence, Fort Payne, Gadsden, Gardendale, Hartselle, Huntsville (2), Jasper (2), Moody, Northport, Oneonta, Oxford, Pell City and Talladega, Alabama.

 

Growth.  Our future growth depends primarily on the expansion of the business of our primary wholly owned subsidiary, Superior Bank. That expansion will depend on internal growth and the opening of new branch offices in new and existing markets. Superior Bank may also continue to engage in the strategic acquisition of other financial institutions and branches that have relatively high earnings and low-cost deposits or that we believe to have exceptional growth potential, such as the acquisitions completed in 2006 and 2007. Our ability to increase profitability and to grow internally depends primarily on our ability to attract and retain low-cost core deposits while continuing to generate high-yielding, quality loans. Our ability to grow profitably through the opening or acquisition of new branches will depend primarily on, among other things, our ability to identify growing markets and branch locations within such markets that will enable us to attract the necessary deposits to operate such branches profitably, and identify lending and investment opportunities within such markets.

 

We periodically evaluate business combination opportunities and conduct discussions, due diligence activities and negotiations in connection with those opportunities. As a result, we may pursue business combination transactions involving cash, debt or equity securities from time to time. Any future business combination or series of business combinations that we might undertake may be material to our business, financial condition or results of operations in terms of assets acquired or liabilities assumed. Any future acquisition is subject to approval by the appropriate regulatory agencies. See “Supervision and Regulation.”

 

Operating Segments

 

Our operations are managed along two reportable operating segments consisting of the geographical regions of Alabama and Florida. See the sections captioned “Results of Segment Operations” in Item 7. Management’s Discussion and Analysis of Financial Condition and Results of Operations and Note 26 — Segment Reporting in the notes to consolidated financial statements included in Item 8. Financial Statements and Supplementary Data, which are located elsewhere in this report.

Lending Activities

 

General.  We offer various lending services, including real estate, consumer and commercial loans, primarily to businesses and other organizations and individuals that are located in or conduct a substantial portion of their business in our market areas. Our total loans at December 31, 2009 were $2.473 billion, or 85.4% of total earning assets. The interest rates we charge on loans vary with the risk, maturity and amount of the loan and are subject to competitive pressures, money market rates, availability of funds and government regulations. We do not have any foreign loans or loans for highly leveraged transactions.

 

The lending activities of Superior Bank are subject to our written underwriting policy and loan origination procedures established by Superior Bank’s Board of Directors and management. Loan originations are obtained from a variety of sources, including referrals, existing customers, walk-in customers and advertising. Loan applications are initially processed by loan officers who have approval authority up to designated limits.

 

We use generally recognized loan underwriting criteria, and attempt to minimize credit losses through various means. In particular, on larger credits, we generally rely on the cash flow of a debtor as the primary source of repayment and secondarily on the value of the underlying collateral. In addition, we attempt to utilize shorter loan terms in order to reduce the risk of a decline in the value of such collateral. As of December 31, 2009, approximately 72% of our loan portfolio consisted of loans that had variable interest rates or matured within one year.

 

We address repayment risks by adhering to internal credit policies and procedures that include officer and customer lending limits, a multi-layered loan approval process that includes senior management of Superior Bank and Superior Bancorp for larger loans, periodic documentation examination and follow-up procedures for any exceptions to credit policies. The level in our loan approval process at which a loan is approved depends on the size of the borrower’s overall credit relationship with Superior Bank.

 

Loan Portfolio

 

The following is a summary of our total loan portfolio as of December 31, 2009 (dollars in thousands):

 

Our loan portfolio is our largest earning asset category. Loans secured by both residential and commercial real estate are a significant component of our loan portfolio, constituting $2.203 billion, or 89.0% of total loans, at December 31, 2009.

 

Nonresidential Mortgage Loans.  At December 31, 2009, $830.7 million, or 33.6% of our total loan portfolio, consisted of non-residential mortgage loans. Our commercial real estate loans primarily provide financing for income-producing properties such as shopping centers, multi-family complexes and office buildings and for owner-occupied properties (primarily light industrial facilities and office buildings). These loans are underwritten with loan-to-value (“LTV”) ratios ranging, on average, from 65% to 85% based upon the type of property being financed and the financial strength of the borrower. For owner-occupied commercial buildings, we underwrite the financial capability of the owner, with an 85% maximum LTV ratio. For income-producing improved real estate, we underwrite based on the strength of the leases, especially those of any anchor tenants, with minimum debt service coverage of 1.2:1 and an 85% maximum LTV ratio. While evaluation of collateral is an essential part of the underwriting process for these loans, repayment ability is determined from analysis of the borrower’s earnings and cash flow. Terms are typically 3 to 5 years and may have payments through the date of maturity based on a 15- to 30-year amortization schedule. As of December 31, 2009, owner-occupied properties comprised approximately 28.4%, or $236.2 million, of total nonresidential mortgage loans, of which $128.2 million were located in the Florida Region and the remaining amount located primarily in the Alabama Region. Non-owner occupied properties are primarily in the office, hospitality, and retail sectors and totaled approximately $118.0 million, or 14.2% of nonresidential mortgage loans, $98.7 million, or 11.9% of nonresidential mortgage loans, and $82.6 million, or 9.9% of nonresidential mortgages, respectively, at December 31, 2009. Geographically, 74.9% of the office sector, 88.5% of the hospitality sector, and 55.9% of the retail sector were located in the Florida Region, with the remaining portfolio in the Alabama Region.

 

Single-Family Mortgage Loans.  At December 31, 2009, $691.4 million, or 27.9% of our total loan portfolio, consisted of single-family mortgage loans. Single-family mortgage loans are loans that are traditionally secured by first or second liens on 1-4 family properties. At December 31, 2009, single-family mortgage loans secured by first liens accounted for $556.9 million, or 22.5% of total loans. Home equity products totaled $134.5 million, or 5.4% of total loans. Home equity products are also centrally underwritten with strict adherence to internal loan policy guidelines to ensure that borrowers have appropriate credit ratings and capacity to repay and that adequate collateral or LTV is obtained.

 

Construction and Land Development Loans.  We make loans to finance the construction of and improvements to single-family and multi-family housing and commercial structures as well as loans for land development. At December 31, 2009, $680.4 million, or 27.5% of our total loan portfolio, consisted of such loans. Within this portfolio, approximately $301.4 million, or 44.3%, was related to residential development and construction. Of the residential construction loans, 57.0% were located in the Alabama Region with the remainder located in the Florida Region. The largest category in the residential development and construction portfolio was related to the development of single-family lots and undeveloped land held for future residential development. These categories represent approximately $203.0 million, or 67.4%, of this portfolio with the remaining $98.4 million relative to the vertical construction of residential properties. An important component of the vertical construction segment is the single-family spec home construction loans. For these loans management closely monitors the aging of the builders’ spec home inventories to ensure turnover and to enable management to look for early signs of weakness within our markets. Spec homes that are 100% complete and remain in inventory for over nine months after completion are considered aged spec homes. As of December 31, 2009, approximately $21.1 million (76 homes with an approximate average loan balance of $275,000) were classified as aged.

 

For construction loans related to income-producing properties, the underwriting criteria are the same as outlined above under the heading, “Nonresidential Mortgage Loans.” Loans for this category accounted for $228.8 million, or 60.4% of the total commercial construction and land development loans. Geographically, approximately 70.1% of this total category was located in the Florida Region, with the remaining loans located primarily in the Alabama Region. The three largest sectors within this category were retail, hotel/motel and office buildings which collectively accounted for approximately $158.9 million, or 41.9% of the total commercial construction loans. Individually, the retail construction loans accounted for the largest sector, with approximately $64.1 million, or 16.9%, hotel/motel building loans accounted for approximately $61.9 million, or 16.3%, and

office construction loans accounted for approximately $32.9 million, or 8.7% of the total commercial construction. Approximately 87.1% of these three sectors were located in the Florida Region, with the remainder primarily located in the Alabama Region.

 

Commercial and Industrial Loans.  We make loans for commercial purposes in various lines of business. These loans are typically made on terms up to five years at fixed or variable rates and are secured by eligible accounts receivable, inventory or equipment. We attempt to reduce our credit risk on commercial loans by limiting the loan-to-value ratio to 80% on loans secured by eligible accounts receivable, 50% on loans secured by inventory and 75% on loans secured by equipment. Commercial and industrial loans comprised approximately $213.3 million, or 8.6% of our loan portfolio, at December 31, 2009. We also, from time to time, make unsecured commercial loans based on the cash flow of the business.

 

Consumer Loans.  Our consumer portfolio includes installment loans to individuals in our market areas and consists primarily of loans to purchase automobiles, recreational vehicles, mobile homes and consumer goods. Consumer loans comprised approximately $58.8 million, or 2.4% of our loan portfolio, at December 31, 2009. Consumer loans are underwritten based on the borrower’s income, current debt, credit history and collateral. Terms generally range from one to six years on automobile loans and one to three years on other consumer loans.

 

Credit Review and Procedures

 

There are credit risks associated with making any loan. These include repayment risks, risks resulting from uncertainties in the future value of collateral, risks resulting from changes in economic and industry conditions and risks inherent in dealing with individual borrowers. In particular, longer maturities increase the risk that economic conditions will change and adversely affect collectability.

 

We have a loan review process designed to promote early identification of credit quality problems. We employ a risk rating system that assigns to each loan a rating that corresponds to its perceived credit risk. Risk ratings are the primary responsibility of the loan officer, and are subject to independent review by a centralized loan review department, which also performs ongoing, independent review and evaluation of the risk management process, including underwriting, documentation and collateral control. Regular reports are made to senior management and the Board of Directors regarding credit quality as measured by assigned risk ratings and other measures, including, but not limited to, the level of past due percentages and nonperforming assets. The loan review function is centralized and independent of the lending function.

 

Deposits and Other Funding

 

At December 31, 2009, our deposits totaled $2.657 billion which consisted of approximately 88.0% in direct customer deposits, 2.8% of wholesale money market deposits and 9.2% of brokered certificates of deposits. Core deposits are our principal source of funds, constituting approximately 71.1% of our total deposits as of December 31, 2009. Core deposits consist of demand deposits, interest-bearing transaction accounts, savings deposits and certificates of deposit (excluding certificates of deposits over $100,000). Transaction accounts include checking, money market and NOW accounts that provide Superior Bank with a source of fee income and cross-marketing opportunities, as well as a low-cost source of funds. Time and savings accounts also provide a relatively stable and low-cost source of funding. The largest source of funds for Superior Bank is certificates of deposit. Certificates of deposit in excess of $100,000 are approximately $758.6 million, or 28.6% of our deposits, of which, approximately $244.9 million consist of wholesale, or “brokered,” certificates of deposits, at December 31, 2009.

 

Our other primary source of funds is advances from the Federal Home Loan Bank (“FHLB”). These advances are secured by FHLB stock, agency securities and a blanket lien on certain residential and commercial real estate loans. We also have available unused federal funds lines of credit with regional banks, subject to certain restrictions and collateral requirements and may borrow from the discount window at the Federal Reserve Bank.

 

Deposit rates are set periodically by our internal Asset/Liability Management Committee, which includes certain members of senior management. We believe our rates are competitive with those offered by competing institutions in our market areas.

Competition

 

The banking industry is highly competitive, and our profitability depends principally upon our ability to compete in our market areas. In our market areas, we face competition from both super-regional banks and smaller community banks, as well as non-bank financial services companies. We encounter strong competition both in making loans and attracting deposits. Superior Bank is now the second largest bank headquartered in Alabama and the largest community bank in Alabama. We fully anticipate being the beneficiary of the unsettled market conditions these changes have brought and will bring to the affected organizations in our markets. Competition among financial institutions is based upon interest rates offered on deposit accounts, interest rates charged on loans and other credit and service charges. Customers also consider the quality and scope of the services rendered, the convenience of banking facilities and, in the case of loans to commercial borrowers, relative lending limits. Customers may also take into account the fact that other banks offer different services. Many of the large super-regional banks against which we compete have significantly greater lending limits and may offer additional products; however, we believe we have been able to compete effectively with other financial institutions, regardless of their size, by emphasizing customer service and by providing a wide array of services. In addition, most of our non-bank competitors are not subject to the same extensive federal regulations that govern bank holding companies and federally insured banks. See “Supervision and Regulation.” Competition may further intensify if additional financial services companies enter markets in which we conduct business.

 

Employees

 

As of December 31, 2009, we employed approximately 828 full-time equivalent employees, primarily at Superior Bank. We believe that our employee relations have been and continue to be good.

 

Supervision and Regulation

 

General.  Superior Bancorp, as a nondiversified unitary savings and loan holding company, and Superior Bank, as a federal savings bank, are required by federal law to report to, and otherwise comply with the rules and regulations of, the Office of Thrift Supervision (“OTS”). We are subject to extensive regulation, examination and supervision by the OTS, as our primary federal regulator, and the Federal Deposit Insurance Corporation (the “FDIC”), as the deposit insurer. We are a member of the FHLB System and, with respect to deposit insurance, of the Deposit Insurance Fund managed by the FDIC. We must file periodic reports with the OTS and the FDIC concerning our activities and financial condition in addition to obtaining regulatory approvals prior to entering into certain transactions such as mergers with, or acquisitions of, other financial institutions. The OTS conducts periodic examinations to test our safety and soundness and compliance with various regulatory requirements. This regulation and supervision establishes a comprehensive framework of activities in which a thrift can engage and is intended primarily for the protection of the insurance fund and depositors. The regulatory structure also gives the regulatory authorities extensive discretion in connection with their supervisory and enforcement activities and examination policies, including policies with respect to the classification of assets and the establishment of adequate loan loss reserves for regulatory purposes. A number of proposals have been introduced in Congress to change the regulation of financial institutions like Superior Bancorp and Superior Bank. Any change in regulatory requirements and policies, whether by the OTS, the FDIC or Congress, could have a material adverse impact on us and our operations. Certain regulatory requirements applicable to us are referred to below or elsewhere herein. The description of statutory provisions and regulations applicable to thrifts and their holding companies set forth below does not purport to be a complete description of such statutes and regulations and their effects on us and is qualified in its entirety by reference to the actual laws and regulations.

 

Holding Company Regulation.  We are a nondiversified unitary savings and loan holding company within the meaning of such terms under federal law. The Gramm-Leach-Bliley Act of 1999 provides that no company may acquire control of a savings institution after May 4, 1999, unless it engages only in the financial activities permitted for financial holding companies under the law or for multiple savings and loan holding companies as described below. Further, the Gramm-Leach-Bliley Act specifies that certain savings and loan holding companies may only engage in such activities. Since we became a savings and loan holding company in 2005, we are limited to such activities. Upon any non-supervisory acquisition by us of another savings institution or savings bank that meets the qualified thrift lender test and is deemed to be a savings institution by the OTS, we would become a multiple savings and loan holding company (if the acquired institution is held as a separate subsidiary) and would generally be

limited to activities permissible for bank holding companies under Section 4(c)(8) of the Bank Holding Company Act, subject to the prior approval of the OTS, and certain activities authorized by the OTS regulations. However, the OTS has issued an interpretation concluding that multiple savings and loan holding companies may also engage in activities permitted for financial holding companies.

 

A savings and loan holding company is prohibited from directly or indirectly acquiring more than 5% of the voting stock of another financial institution or savings and loan holding company without prior written approval of the OTS and from acquiring or retaining control of a depository institution that is not insured by the FDIC. In evaluating applications by holding companies to acquire other institutions, the OTS considers, among other things, the financial and managerial resources and future prospects of the institutions involved, the effect of the acquisition on the risk to the deposit insurance funds, the convenience and needs of the community and competitive factors.

 

Subject to certain exceptions, the OTS may not approve any acquisition that would result in a multiple savings and loan holding company’s controlling savings institutions in more than one state.

 

Although savings and loan holding companies are not currently subject to specific capital requirements or specific restrictions on the payment of dividends or other capital distributions, Superior Bancorp has agreed to seek approval of the OTS prior to paying a dividend or making a capital contribution to its stockholders. Federal regulations also prescribe such restrictions on subsidiary savings institutions, as described below. Superior Bank must notify the OTS before declaring any dividend to Superior Bancorp. In addition, the financial impact of a holding company on its subsidiary institution is a matter that is evaluated by the OTS, and the OTS has authority to order cessation of activities or divestiture of subsidiaries deemed to pose a threat to the safety and soundness of the institution.

 

Change in Bank Control Act.  Under the Federal Change in Bank Control Act, a notice must be submitted to the OTS if any person, or group acting in concert, seeks to acquire “control” of a savings and loan holding company or a savings association. A change of control may occur, and prior notice may be required, upon the acquisition of more than 10% of our outstanding voting stock, unless the OTS has found that the acquisition will not result in a change of control of Superior Bancorp. Under the Change in Bank Control Act, the OTS generally has 60 days from the filing of a complete notice to act, taking into consideration certain factors, including the financial and managerial resources of the acquirer and the anti-trust effects of the acquisition.

 

Regulation of Business Activities.  The activities of thrifts are governed by federal laws and regulations. These laws and regulations delineate the nature and extent of the activities in which thrifts may engage. In particular, certain lending authority for thrifts, that is, commercial loans, non-residential real property loans and consumer loans, is limited to a specified percentage of the institution’s capital or assets.

 

Capital Requirements.  The OTS capital regulations require savings institutions to meet three minimum capital standards: a 1.5% tangible capital to total assets ratio, a 4% leverage ratio (3% for institutions receiving the highest rating on the regulatory examination rating system) and an 8% risk-based capital ratio. In addition, the prompt corrective action standards discussed below also establish, in effect, a minimum 2% tangible capital standard, a 4% leverage ratio (3% for institutions receiving the highest examination rating), and, together with the risk-based capital standard itself, a 4% Tier 1 risk-based capital standard.

 

The risk-based capital standard for savings institutions requires the maintenance of ratios of Tier 1 (core) and total capital (which is defined as core capital and supplementary capital) to risk-weighted assets of at least 4% and 8%, respectively. In determining the amount of risk-weighted assets, all assets, including certain off-balance sheet assets, recourse obligations, residual interests and direct credit substitutes, are multiplied by a risk-weight factor of 0% to 100%, and assigned by the OTS capital regulation based on the risks believed inherent in the type of asset. Core (Tier 1) capital includes, among other things, common stockholders’ equity (including retained earnings), certain noncumulative perpetual preferred stock and related surplus, and minority interests in equity accounts of consolidated subsidiaries. The components of supplementary capital currently include, among other things, mandatory convertible securities, and the allowance for loan and lease losses limited to a maximum of 1.25% of risk-weighted assets and up to 45% of unrealized gains on available-for-sale equity securities with readily determinable fair market values. Overall, the amount of supplementary capital included as part of total capital cannot exceed 100% of core capital.

The OTS also has authority to establish minimum capital requirements in appropriate cases upon a determination that an institution’s capital level is or may become inadequate in light of the particular circumstances. At December 31, 2009, Superior Bank met each of its capital requirements.

 

Prompt Corrective Regulatory Action.  The OTS is required to take certain supervisory actions against undercapitalized institutions, the severity of which depends upon the institution’s degree of undercapitalization. Generally, a savings institution that has a ratio of total capital to risk weighted assets of less than 8%, a ratio of Tier 1 (core) capital to risk-weighted assets of less than 4% or a ratio of core capital to total assets of less than 4% (less than 3% for institutions with the highest examination rating) is considered to be “undercapitalized.” A savings institution that has a total risk-based capital ratio of less than 6%, a Tier 1 capital ratio of less than 3% or a leverage ratio that is less than 3% is considered to be “significantly undercapitalized”, and a savings institution that has a tangible capital to assets ratio equal to or less than 2% is deemed to be “critically undercapitalized.” Subject to a narrow exception, the OTS is required to appoint a receiver or conservator within specified time frames for an institution that is “critically undercapitalized.” The regulation also provides that a capital restoration plan must be filed with the OTS within 45 days of the date a savings institution receives notice that it is “undercapitalized,” “significantly undercapitalized” or “critically undercapitalized.” Compliance with the plan must be guaranteed by any parent holding company. In addition, numerous mandatory supervisory actions become immediately applicable to an undercapitalized institution, including, but not limited to, increased monitoring by regulators and restrictions on growth, capital distributions and expansion. The OTS could also take any one of a number of discretionary supervisory actions, including the issuance of a capital directive and the replacement of senior executive officers and directors.

 

Insurance of Deposit Accounts.  Superior Bank is a member of the Deposit Insurance Fund of the FDIC. The FDIC maintains a risk-based assessment system by which institutions are assigned to one of four categories based upon a combination of their capitalization and examination ratings. An institution’s assessment depends upon the category to which it is assigned. An institution assigned to the category with the lowest risk also has certain financial ratios taken into account in determining assessment rates, unless it is a large institution with at least one long-term debt issuer rating, in which case the rating will be taken into account in determining its assessment rate. Assessment rates for Deposit Insurance Fund members were amended effective April 1, 2009, to provide for an initial base assessment rate ranging from 12 basis points for the healthiest institutions to 45 basis points for the riskiest. The initial base assessment rate will be subject to potential decrease for long-term unsecured debt and, for smaller institutions, a portion of Tier 1 capital, and potential increases for secured liabilities above a certain amount and, for institutions not in the lowest risk category, brokered deposits above a certain amount. The adjusted assessment rates can range from seven basis points for institutions in the lowest risk category to 77.5 basis points for institutions in the highest risk category. The FDIC also imposed an emergency special assessment of up to five basis points on all insured depository institutions as of June 30, 2009. The FDIC required all insured institutions to prepay insurance premiums through 2012. In the case of Superior, this prepayment aggregated $15.9 million in the fourth quarter of 2009. Future increases in Deposit Insurance Fund insurance premiums would likely have an adverse effect on the operating expenses and results of operations of Superior Bank. Management cannot predict what insurance assessment rates will be in the future.

 

In addition to the assessment for deposit insurance, institutions are required to make payments on bonds issued in the late 1980s by the Financing Corporation to recapitalize the predecessor to the Savings Association Insurance Fund. During fiscal year 2008, Financing Corporation payments for Savings Association Insurance Fund members approximated 1.12 basis points of assessable deposits.

 

Deposit insurance may be terminated by the FDIC upon a finding that the institution has engaged in unsafe or unsound practices, is in an unsafe or unsound condition to continue operations or has violated any applicable law, regulation, rule, order or condition imposed by the FDIC or the OTS. We do not know of any practice, condition or violation that might lead to termination of deposit insurance.

 

Loans to One Borrower.  Federal law provides that savings institutions are generally subject to the limits on loans to one borrower applicable to national banks. Generally, subject to certain exceptions, a savings institution may not make a loan or extend credit to a single or related group of borrowers in excess of 15% of its unimpaired

capital and surplus. An additional amount may be lent, equal to 10% of unimpaired capital and surplus, if secured by specified readily-marketable collateral.

 

QTL Test.  Federal law requires savings institutions to meet a qualified thrift lender test. Under the test, a savings association is required to either qualify as a “domestic building and loan association” under the Internal Revenue Code or maintain at least 65% of its “portfolio assets” (total assets less: (i) specified liquid assets up to 20% of total assets; (ii) intangibles, including goodwill; and (iii) the value of property used to conduct business) in certain “qualified thrift investments” (primarily residential mortgages and related investments, including certain mortgage-backed securities) in at least nine months out of each 12-month period.

 

A savings institution that fails the qualified thrift lender test is subject to certain operating restrictions and may be required to convert to a bank charter. As of December 31, 2009, Superior Bank met the qualified thrift lender test. Recent legislation has expanded the extent to which education loans, credit card loans and small business loans may be considered “qualified thrift investments.”

 

Limitations on Capital Distributions.  The OTS regulations impose limitations upon all capital distributions by a savings institution, including cash dividends, payments to repurchase its shares and payments to shareholders of another institution in a cash-out merger. Under the regulations, an application to and prior approval of the OTS is required prior to any capital distribution if the institution does not meet the criteria for “expedited treatment” of applications under the OTS regulations, the total capital distributions (including the proposed capital distribution) for the calendar year exceed net income for that year plus the amount of retained net income for the preceding two years, the institution would be undercapitalized following the distribution or the distribution would otherwise be contrary to a statute, regulation or agreement with the OTS. If an application is not required, the institution must still provide prior notice to the OTS of the capital distribution if, like Superior Bank, it is a subsidiary of a holding company. In the event Superior Bank’s capital fell below its regulatory requirements or the OTS notified it that it was in need of increased supervision, Superior Bank’s ability to make capital distributions could be restricted. In addition, the OTS could prohibit a proposed capital distribution by any institution, which would otherwise be permitted by the regulation, if the OTS determines that such distribution would constitute an unsafe or unsound practice.

 

Transactions with Related Parties.  Superior Bank’s authority to engage in transactions with “affiliates” (i.e., any company that controls or is under common control with Superior Bank, including Superior Bancorp and its non-savings institution subsidiaries) is limited by federal law. The aggregate amount of covered transactions with any individual affiliate is limited to 10% of the capital and surplus of the savings institution. The aggregate amount of covered transactions with all affiliates is limited to 20% of a savings institution’s capital and surplus. Certain transactions with affiliates are required to be secured by collateral in an amount and of a type described in federal law. The purchase of low quality assets from affiliates is generally prohibited. The transactions with affiliates must be on terms and under circumstances that are at least as favorable to the institution as those prevailing at the time for comparable transactions with non-affiliated companies. In addition, savings institutions are prohibited from lending to any affiliate that is engaged in activities that are not permissible for bank holding companies, and no savings institution may purchase the securities of any affiliate other than a subsidiary.

 

The Sarbanes-Oxley Act of 2002 generally prohibits loans by public companies to their executive officers and directors. However, that act contains a specific exception for loans by a financial institution, such as Superior Bank, to its executive officers and directors that are made in compliance with federal banking laws. Under such laws, Superior Bank’s authority to extend credit to executive officers, directors and 10% shareholders (“insiders”), as well as entities such persons control, is limited. The law limits both the individual and aggregate amount of loans Superior Bank may make to insiders based, in part, on Superior Bank’s capital position and requires certain board approval procedures to be followed. Such loans are required to be made on terms substantially the same as those offered to unaffiliated individuals and not involve more than the normal risk of repayment. There is an exception for loans made pursuant to a benefit or compensation program that is widely available to all employees of the institution and does not give preference to insiders over other employees.

 

Standards for Safety and Soundness.  The federal banking agencies have adopted Interagency Guidelines prescribing Standards for Safety and Soundness. These guidelines set forth the safety and soundness standards that the federal banking agencies use to identify and address problems at insured depository institutions before capital

becomes impaired. If the OTS determines that a savings institution fails to meet any standard prescribed by the guidelines, the OTS may require the institution to submit an acceptable plan to achieve compliance with the standard.

 

Enforcement.  The OTS has primary enforcement responsibility over savings institutions and has the authority to bring actions against the institution and all institution-affiliated parties, including stockholders, and any attorneys, appraisers and accountants who knowingly or recklessly participate in wrongful action likely to have an adverse effect on an insured institution. Formal enforcement action may range from the issuance of a capital directive or cease and desist order to removal of officers and/or directors to institution of receivership, conservatorship or termination of deposit insurance. Civil money penalties cover a wide range of violations and can amount to up to $1.25 million per day in especially egregious cases. In addition, the FDIC has the authority to recommend to the Director of the OTS that enforcement action be taken with respect to a particular savings institution. If action is not taken by the Director, the FDIC has authority to take such action under certain circumstances. Federal law also establishes criminal penalties for certain violations.

 

FHLB System.  Superior Bank is a member of the FHLB System, which consists of 12 regional Federal Home Loan Banks. The FHLB System provides a central credit facility primarily for member institutions. Superior Bank, as a member of the FHLB System, is required to acquire and hold shares of capital stock in the applicable FHLB (Atlanta) in an amount at least equal to 0.18% of our total assets not to exceed $25 million plus 4.5% of our outstanding advances. Superior Bank was in compliance with this requirement at December 31, 2009, with an investment in FHLB stock of $18.2 million.

 

Federal Reserve System.  The Federal Reserve Board regulations require savings institutions to maintain non-interest earning reserves against their transaction accounts (primarily NOW and regular checking accounts). The regulations generally provide that reserves be maintained against aggregate transaction accounts as follows: a 3% reserve ratio is assessed on net transaction accounts up to and including $44.4 million; a 10% reserve ratio is applied above $44.4 million. The first $10.3 million of otherwise reservable balances (subject to adjustments by the Federal Reserve Board) are exempted from the reserve requirements. These amounts are adjusted annually. Superior Bank complies with the foregoing requirements.

 

Community Reinvestment Act.  Superior Bank is subject to the CRA. The CRA and the regulations issued thereunder are intended to encourage financial institutions to help meet the credit needs of their service areas, including low and moderate income neighborhoods, consistent with the safe and sound operations of the financial institutions. These regulations also provide for regulatory assessment of an institution’s record in meeting the needs of its service area when considering applications to establish branches, merger applications, applications to engage in new activities and applications to acquire the assets and assume the liabilities of another institution. The Financial Institutions Reform, Recovery and Enforcement Act of 1989 (“FIRREA”) requires federal banking agencies to make public a rating of an institution’s performance under the CRA. In the case of a holding company involved in a proposed transaction, the CRA performance records of the banks involved are reviewed by federal banking agencies in connection with the filing of an application to acquire ownership or control of shares or assets of a bank or thrift or to merge with any other bank holding company. An unsatisfactory record can substantially delay or block the transaction. Superior Bank maintains a satisfactory CRA rating.

 

Confidentiality of Customer Information.  Federal laws and regulations, including the Gramm-Leach-Bliley Act, require that financial institutions take certain steps to protect the security and confidentiality of customers’ non-public personal information. Among other things, these regulations restrict the ability of financial institutions to share non-public customer information with non-affiliated third parties and require financial institutions to provide customers with information about their privacy policies. Superior Bank has procedures in place that are intended to comply with these requirements.

 

Bank Secrecy Act.  Superior Bancorp and Superior Bank are subject to the federal Bank Secrecy Act of 1970, as amended, which establishes requirements for recordkeeping and reporting by banks and other financial institutions designed to help identify the source, volume and movement of currency and monetary instruments into and out of the United States in order to help detect and prevent money laundering and other illegal activities. The Bank Secrecy Act requires financial institutions to develop and maintain a program reasonably designed to ensure and monitor compliance with its requirements, to train employees in such program, and to test the

effectiveness of such program. Any failure to meet the requirements of the Bank Secrecy Act can involve substantial penalties and adverse regulatory action. We have adopted policies and procedures intended to comply with the requirements of the Bank Secrecy Act.

 

USA Patriot Act.  The USA Patriot Act, passed in 2001, strengthened the ability of the United States government to detect and prosecute international money laundering and the financing of terrorism. Among its provisions, the USA Patriot Act requires that regulated financial institutions: (i) establish an anti-money laundering program that includes training and audit components; (ii) comply with regulations regarding the verification of the identity of any person seeking to open an account; (iii) take additional required precautions with non-U.S. owned accounts; and (iv) perform certain verification and certification of money laundering risk for any foreign correspondent banking relationships. We have adopted policies, procedures and controls to address compliance with the requirements of the USA Patriot Act under the existing regulations and will continue to revise and update our policies, procedures and controls to reflect changes required by the USA Patriot Act and implementing regulations.

 

Consumer Laws and Regulations.  In addition to the laws and regulations discussed herein, Superior Bank is also subject to certain consumer laws and regulations that are designed to protect consumers in transactions with banks. While the list set forth herein is not exhaustive, these laws and regulations include the Truth in Lending Act, the Truth in Savings Act, the Electronic Funds Transfer Act, the Expedited Funds Availability Act, the Equal Credit Opportunity Act, the Fair Housing Act, the Fair Credit Reporting Act and the Real Estate Settlement Procedures Act, among others. These laws and regulations mandate certain disclosure requirements and regulate the manner in which financial institutions must deal with customers when taking deposits from, making loans to, or engaging in other types of transactions with, such customers.

 

Emergency Economic Stabilization Act.  In response to the financial crises affecting the banking system and financial markets and going concern threats to investment banks and other financial institutions, on October 3, 2008, the Emergency Economic Stabilization Act of 2008 (the “EESA”) was signed into law. Pursuant to the EESA, the United States Department of the Treasury (” the Treasury Department”) was given the authority to, among other things, purchase up to $700 billion of mortgages, mortgage-backed securities and certain other financial instruments from financial institutions for the purpose of stabilizing and providing liquidity to the U.S. financial markets.

 

On October 14, 2008, the Secretary of the Treasury Department announced that the Treasury Department would purchase equity stakes in a wide variety of banks and thrifts. Under the program, known as the Troubled Asset Relief Program Capital Purchase Program (the “CPP”), from the $700 billion authorized by the EESA, the Treasury Department made $250 billion of capital available to U.S. financial institutions, usually through the purchase of preferred stock. The Treasury Department was to receive from participating financial institutions, warrants to purchase common stock with an aggregate market price equal to 15% of the preferred stock investment. Participating financial institutions were required to adopt the Treasury Department’s standards for executive compensation and corporate governance for the period during which the Treasury Department holds equity issued under the CPP.

 

On December 5, 2008, Superior Bancorp issued and sold, and the Treasury Department purchased, (i) 69,000 shares (the “Preferred Stock”) of Fixed Rate Cumulative Perpetual Preferred Stock, Series A, having a liquidation preference of $1,000 per share, and (ii) a ten-year warrant to purchase up to 1,923,792 shares of its voting common stock, par value $0.001 per share, at an exercise price of $5.38 per share, for an aggregate purchase price of $69 million in cash. The issuance and sale of these securities was a private placement exempt from registration pursuant to Section 4(2) of the Securities Act of 1933. On December 11, 2009, Superior Bancorp and the Treasury Department entered into an exchange agreement pursuant to which the Preferred Stock held by the Treasury Department was exchanged for new trust preferred securities issued by Superior Capital Trust II, a wholly-owned subsidiary of Superior Bancorp. Participants in the CPP were required to accept several compensation-related limitations. Each of Superior Bancorp’s senior executive officers on December 5, 2008 agreed in writing to accept the compensation standards in existence at that time under the CPP and thereby cap or eliminate some of

their contractual or legal rights. The provisions agreed to were as follows (but see below under the heading “American Recovery and Reinvestment Act of 2009” for more recently enacted compensation standards):

 

 

American Recovery and Reinvestment Act of 2009.  On February 17, 2009, President Obama signed the American Recovery and Reinvestment Act of 2009 (the “ARRA”) into law. The ARRA modified the compensation-related limitations contained in the CPP, created additional compensation-related limitations and directed the Secretary of the Treasury Department to establish standards for executive compensation applicable to participants in the CPP, regardless of when participation commenced. Thus, the newly enacted compensation-related limitations are applicable to Superior Bancorp, and, to the extent the Treasury Department may implement these restrictions unilaterally, Superior Bancorp will apply these provisions.

 

 

 

Temporary Liquidity Guarantee Program.  On November 21, 2008, the Board of Directors of the FDIC adopted a final rule relating to the Temporary Liquidity Guarantee Program (the “TLG Program”). The TLG Program was announced by the FDIC on October 14, 2008, preceded by the determination of systemic risk by the Secretary of the Treasury Department, as an initiative to counter the system-wide crisis in the nation’s financial sector. Under the TLG Program the FDIC will (i) guarantee, through the earlier of maturity or June 30, 2012, certain newly issued senior unsecured debt issued by participating institutions on or after October 14, 2008, and before June 30, 2009 and (ii) provide full FDIC deposit insurance coverage for non-interest bearing transaction deposit accounts and NOW accounts paying less than 0.5% interest per annum through December 31, 2009. Coverage under the TLG Program was available for the first 30 days without charge. The fee assessment for coverage of senior unsecured debt ranges from 50 basis points to 100 basis points per annum, depending on the initial maturity of the debt. The fee assessment for deposit insurance coverage is 10 basis points per quarter on amounts in covered accounts exceeding $250,000. During the first week of December 2008, Superior Bancorp elected to participate in both guarantee programs.

 

Instability of Regulatory Structure

 

Various bills are routinely introduced in the United States Congress and state legislatures with respect to the regulation of financial institutions. In addition, there has been a significant increase over the past year in legislative proposals and proposals by the administration to re-regulate financial institutions on a fundamental basis. Some of these proposals, if adopted, could significantly change the regulation of banks, thrifts and the financial services industry. We cannot predict whether any of these proposals will be adopted or, if adopted, how these proposals would affect Superior Bancorp.

 

Effect on Economic Environment

 

The policies of regulatory authorities, especially the monetary policy of the Federal Reserve Board, have a significant effect on the operating results of savings and loan holding companies and their subsidiaries. Among the means available to the Federal Reserve Board to affect the money supply are open market operations in U.S. Government securities, changes in the discount rate on member bank borrowings and changes in reserve requirements against member bank deposits. These means are used in varying combinations to influence overall growth and distribution of bank loans, investments and deposits, and their use may affect interest rates charged on loans or paid for deposits.

Federal Reserve Board monetary policies have materially affected the operating results of commercial banks and thrifts in the past and are expected to continue to do so in the future. The nature of future monetary policies and the effect of such policies on our business and earnings cannot be predicted.

 

Available Information

 

We maintain an Internet website at www.superiorbank.com. We make available free of charge through our website various reports that we file with the Securities and Exchange Commission, including our annual reports on Form 10-K, quarterly reports on Form 10-Q, current reports on Form 8-K and amendments to these reports. These reports are made available as soon as reasonably practicable after these reports are filed with, or furnished to, the Securities and Exchange Commission. From our home page at www.superiorbank.com, go to and click on “About Superior” and click on “SEC Filings” to access these reports. You may read and copy any document Superior Bancorp files with the Securities and Exchange Commission at the Securities and Exchange Commission’s Public Reference Room at 100 F Street, N.E., Washington, D.C. 20549. Please call the Securities and Exchange Commission at 1-800-SEC-0330 for further information about the public reference room. The Securities and Exchange Commission maintains a website at www.sec.gov that contains reports, proxy and other information statements regarding issuers, like us, that file electronically with the Securities and Exchange Commission.

 

Code of Ethics

 

We have adopted a code of ethics that applies to all of our employees, including our principal executive, financial and accounting officers. A copy of our code of ethics is available on our website. We intend to disclose information about any amendments to, or waivers from, our code of ethics that are required to be disclosed under applicable Securities and Exchange Commission regulations by providing appropriate information on our website. If at any time our code of ethics is not available on our website, we will provide a copy of it free of charge upon written request.

 

 

Enterprise Risk Management (“ERM”)

 

Our business, and an investment in our securities, involves risks. Our internal ERM program is a process designed to identify and manage inherent risks within our allowable risk profile and to provide reasonable assurance regarding achievement of our objectives. ERM activities are coordinated by the Chief Risk Officer and include participation of the business line managers and oversight by executive management. During the past year, our Board of Directors approved an ERM policy and delegated responsibility for Board of Directors oversight to the Audit and ERM Committee. Also, the Board of Directors approved the first two phases of implementation.

 

In phase one, we identified and documented the major risks to be tracked. These are: (1) capital, (2) compliance, regulatory, legislative, legal and governance, (3) credit, (4) interest rate risk, liquidity and funding, (5) investments, (6) operational, information technology, and environmental, (7) reporting, (8) reputational, (9) strategic and (10) compensation and human resources.

 

Capital risk is the ability to hold adequate levels of capital so that we can absorb unexpected losses and withstand the stresses that arise from the ups and downs of the economy. Compliance, regulatory, legislative, legal and governance risk is the risk of loss resulting from failure to comply with laws as well as prudent ethical standards and contractual obligations. Credit risk is the risk of loss arising from a borrower’s or counterparty’s inability to meet its obligations. Interest rate risk, liquidity, and funding risk focus on the impact to earnings and capital arising from movements in interest rates, the inability to accommodate liability maturities and deposit withdrawals, fund asset growth and meet contractual obligations through unconstrained access to funding at reasonable market rates. Investment risk is the variability of returns produced by an investment. Operational, information technology, and environmental risk is the risk of loss resulting from inadequate or failed internal processes, people and information systems or external events. Reporting risk includes events that may occur and adversely affect our ability to initiate, record, process, and report financial data consistent with the assertions of management in the financial statements. Reputational risk is the risk to earnings and capital arising from a negative public opinion and is assessed by recognizing the potential effect the public’s opinion could have on our franchise value. Strategic risk is the risk that adverse business decisions, ineffective or inappropriate business plans or failure to respond to changes in the

competitive environment, business cycles, customer preferences, product obsolescence, execution and/or other intrinsic risks of business will impact our ability to meet our objectives. Compensation and human resource risk is the risk to current and future earnings arising from the inability to attract and retain talented employees, to comply with applicable laws, and to manage through human calamities such as management succession, management capabilities, local labor conditions, and employee tragedies (illness, injury or death).

 

After identifying these risks, we surveyed our business to determine the risk tracking and measuring activities already taking place. The measuring activities were documented by quarter throughout the year and compared to regulatory limits, if applicable, Board of Directors limits and/ or management established targets. Each risk was evaluated in the following four categories: (1) Inherent risk represents the risk to the company in the absence of any actions management might take to alter either the risk’s likelihood or impact, and is assessed as low, moderate, or high; (2) Quality of risk management is how well risks are identified, measured, controlled and monitored, and is assessed as weak, satisfactory, or strong; (3) Residual risk is a summary judgment of the risk that remains after management’s response to the risk, and is assessed as low, moderate, or high; and (4) Direction of risk indicates likely changes to the risk profile over the next twelve months and is assessed as increasing, stable, or decreasing. We provided a full report of the analytics, measuring activities, and assessments to the Audit and ERM Committee and a summary dashboard report was provided to the Board of Directors showing the outcome of the assessments of the risk categories. This reporting process will be continued in future quarters.

 

During the second phase risk owners identified the risks in their respective areas and evaluated the likelihood and impact of occurrence. The top ten risks where likelihood is almost certain and impact is major were identified and documented. These risks will be discussed with executive management and reported to the Audit and ERM Committee and Board of Directors at the next quarterly meetings. This reporting process will be continued in future quarters.

 

The ERM program is a continuous process to evaluate current risks and the appropriate analytics to measure it, and to evaluate action needed.

 

The following summary describes factors we believe are material risks relating to our business and to the ownership of our securities. Our discussion of these risks contains forward-looking statements, and our actual results may differ materially from those anticipated by such forward-looking statements. In addition, financial condition and results of operations, and the market price of our common stock, may be substantially affected by other risks, including risks we have not identified or that we may believe are immaterial or unlikely. This summary does not purport to describe all risks that might possibly affect our business, financial condition or results of operations or the market price of our common stock.

 

Risks Relating To Our Business

 

Recent Negative Developments in the Financial Services Industry and U.S. and Global Credit Markets May Adversely Impact Our Operations and Results.  Negative developments in the latter half of 2007, throughout 2008 and into 2009 in the capital markets have resulted in uncertainty in the financial markets in general with the expectation of the general economic downturn into 2010 and possibly beyond. Loan portfolio performances have deteriorated at many institutions resulting from, among other factors, a weak economy and a decline in the value of the collateral supporting their loans. The competition for our deposits has increased significantly due to liquidity concerns at many of those same institutions. Stock prices of thrift holding companies, such as ours, have been negatively affected by the current condition of the financial markets, as has our ability, if needed, to raise capital or borrow in the debt markets compared to recent years. Further negative developments in the financial services industry could negatively impact our operations by restricting our business operations, including our ability to originate or sell loans, and adversely impact our financial performance.

 

If the interest payments we make on our deposits increase relative to our interest income, we may be less profitable.  Our profitability depends to a large extent on Superior Bank’s net interest income, which is the difference between income from interest-earning assets, such as loans we make and investment securities we hold, and interest we pay on deposits and our own borrowings. Our net interest income is affected not only by actions we take, but by changes in general interest rate levels and by other economic factors beyond our control. Our net interest income may be reduced if (i) more interest-earning assets than interest-bearing liabilities re-price or mature

at a time when interest rates are declining, or (ii) more interest-bearing liabilities than interest-earning assets re-price or mature at a time when interest rates are rising.

 

In addition, we may be affected by changes in the difference between short- and long-term interest rates. For example, short-term deposits may be used to support longer-term loans. If the difference between short-and long-term interest rates becomes smaller, the spread between the rates we pay on deposits and borrowings and the rates we receive on loans we make could narrow significantly, decreasing our net interest income.

 

Further, if market interest rates rise rapidly, interest rate adjustment caps may limit our ability to increase interest rates on adjustable-rate mortgage loans, but we may have to pay higher interest rates on deposits and borrowings. This could cause our net interest income to decrease.

 

An increase in loan prepayments may adversely affect our profitability.  The rate at which borrowers prepay loans is dependent on a number of factors outside our control, including changes in market interest rates, conditions in the housing and financial markets and general economic conditions. We cannot always accurately predict prepayment rates. If the prepayment rates with respect to our loans are greater than we anticipate, there may be a negative impact on our profitability because we may not be able to reinvest prepayment proceeds at rates comparable to those we received on the prepaid loans, particularly in a time of falling interest rates.

 

If our allowance for loan losses is inadequate, our profitability will be reduced.  We are exposed to the risk that our customers will be unable to repay their loans in accordance with their terms and that any collateral securing such loans will be insufficient to ensure full repayment. Such credit risk is inherent in the lending business, and our failure to adequately assess such credit risk could have material adverse effect on our financial condition and results of operations. We evaluate the collectability of our loan portfolio and review our evaluation on a regular basis, and we provide an allowance for loan losses that we believe is adequate based on various factors that we believe may affect the credit quality of our loans. However, there can be no assurance that actual loan losses will not exceed the allowance that we have established, as such allowance is adjusted from time to time.

 

If our allowance for loan losses is inadequate for the actual losses we experience, there could be a material adverse effect on our results of operations. In addition, if as a result of our perception of adverse trends, we materially increase our allowance for loan losses in the future, such increase would also reduce our earnings.

 

Events in our geographic markets could adversely affect us.  Our business is concentrated in six geographic regions in Alabama and Florida. Any adverse changes in market or economic conditions in Florida and Alabama may increase the risk that our customers will be unable to make their loan payments. In addition, the market value of the real estate securing loans as collateral could be adversely affected by unfavorable changes in local market conditions and general economic conditions. Any period of increased payment delinquencies, foreclosures or losses caused by adverse market or economic conditions in general or in our markets in Florida and Alabama could adversely affect our results of operations and financial condition.

 

With most of our loans concentrated in a small number of markets, further declines in local economic conditions could adversely affect the values of our real estate collateral. Thus, a decline in local economic conditions may have a greater effect on our earnings and capital than on the earnings and capital of larger financial institutions whose real estate loan portfolios are more geographically diverse.

 

In addition, natural disasters, such as hurricanes and tornados, in our markets could adversely affect our business. The occurrence of such natural disasters in our markets could result in a decline in the value or destruction of mortgaged properties and in an increase in the risk of delinquencies, foreclosures or losses on these loans and may impact our customers’ ability to repay loans.

 

We face substantial competition.  There are numerous competitors in our geographic markets, including national, regional and local banks and thrifts and other financial services businesses, some of which have substantially greater resources, higher brand visibility and a wider geographic presence than we have. Some of these competitors may offer a greater range of services, more favorable pricing and greater customer convenience than we are able to. In addition, in some of our markets, there are a significant number of new banks and other financial institutions that have opened in the recent past or are expected to open in the near future, and such new

competitors may also seek to exploit our markets and customer base. If we are unable to maintain and grow our market share in the face of such competition, our results of operations will be adversely affected.

 

We are subject to extensive regulation.  Our operations are subject to regulation by the OTS and the FDIC. We are also subject to applicable regulations of the FHLB. Regulation by these entities is intended primarily for the protection of our depositors and the deposit insurance fund and not for the benefit of our stockholders. We may incur substantial costs in complying with such regulations, and our failure to comply with them may expose us to substantial penalties.

 

In addition, we are subject to numerous consumer protection laws and other laws relating to the operation of financial institutions. Our failure to comply with such laws could expose us to liability, which could have a material adverse effect on our results of operations.

 

Federal regulation of the banking industry may change significantly due to the unprecedented economic decline and conditions in the banking industry.  Banking regulations are being reexamined, and the framework of bank regulatory organizations reconsidered, in the aftermath of the recent economic decline. In addition, for those financial institutions that were eligible for participation in the Treasury Department’s CPP (as Superior Bancorp was) new regulations have been promulgated addressing lending activity and compensation. The effect of these developments, including future regulatory changes, is impossible to predict.

 

Due to the current economic environment, the United States Congress and the federal banking regulators may consider any number of proposals for increased or different regulation of financial institutions. We cannot predict at this time what the effect of such changes in regulation would be.

 

We may require additional capital to fund our growth plans and to augment our capital.  Our business strategy includes the expansion of our business through the development of new locations and through the acquisition of other financial institutions and, to the extent permitted by applicable law, complementary businesses as appropriate opportunities arise. In order to finance such growth and to maintain required regulatory capital levels, we may require additional capital in the future. There can be no assurance that such capital will be available upon favorable terms, or at all.

 

We are dependent upon the services of our management team.  Our operations and strategy are directed by our senior management team, most of whom have joined Superior Bancorp since January 2005. Any loss of the services of members of our management team could have a material adverse effect on our results of operations and our ability to implement our business strategy.

 

Additional requirements under our regulatory framework, especially those imposed under ARRA, EESA or other legislation intended to strengthen the U.S. financial system, could adversely affect us.  Recent government efforts to strengthen the U.S. financial system, including the implementation of the ARRA, the EESA, the Temporary Liquidity Guarantee Program (“TLGP”) and special assessments imposed by the FDIC, subject participants to additional regulatory fees, corporate governance requirements, restrictions on executive compensation, restrictions on declaring or paying dividends, restrictions on stock repurchases, limits on executive compensation tax deductions and prohibitions against golden parachute payments. These fees, requirements and restrictions, as well as any others that may be imposed subsequently, may have a material and adverse effect on our business, financial condition, and results of operations.

 

The imposition of certain restrictions on our executive compensation as a result of our decision to participate in the CPP may have material adverse effects on our business and results of operations.  As a result of our election to participate in CPP, we have adopted the Treasury Department’s standards for executive compensation and corporate governance for the period during which the Treasury Department holds equity issued under the CPP. These standards generally apply to our Chief Executive Officer, our Chief Financial Officer and the three next most highly compensated executive officers, referred to collectively as the senior executive officers, and, in the case of some standards, to other of our employees as well. The standards include: (i) ensuring that incentive compensation plans and arrangements do not encourage unnecessary and excessive risks that threaten the value of us and Superior Bank, (ii) prohibiting a bonus payment to any of the five most highly compensated employees unless paid in the form of long-term restricted stock, (iii) requiring a “clawback” of any bonus or incentive compensation paid to a senior executive officer or any of the 20 next most highly compensation employees based on statements of earnings,

gains or other criteria that are later proven to be materially inaccurate, (iv) prohibiting golden parachute payments to a senior executive officer or any of the five next most highly compensated employees, (v) prohibiting reimbursement or “gross-up” of taxes paid with respect to compensation for any of our senior executive officers or the 20 next most highly compensated employees, and (vi) agreeing not to deduct for tax purposes compensation paid to an employee in excess of $500,000. These restrictions may place us at a competitive disadvantage in attracting and retaining management.

 

The holders of our subordinated debentures have rights that are senior to those of our stockholders.  As of December 31, 2009, we had $121.7 million of subordinated debentures issued in connection with trust preferred securities including $69,100,000 issued in connection with the trust preferred securities held by the Treasury Department. Payments of the principal and interest on the trust preferred securities are unconditionally guaranteed by us. The subordinated debentures are senior to our common stock. As a result, we must make payments on the subordinated debentures (and the related trust preferred securities) before any dividends, even if otherwise payable, can be paid on our common stock and, in the event of our bankruptcy, dissolution or liquidation, the holders of the debentures must be satisfied before any distributions can be made to the holders of our common stock. We have the right to defer distributions on the subordinated debentures (and the related trust preferred securities) for up to five years, during which time no dividends may be paid to holders of our common stock.

 

Higher FDIC deposit insurance premiums and assessments could adversely affect our financial condition.  FDIC insurance premiums increased substantially in 2009, and we expect to pay significantly higher FDIC premiums in the future. Market developments have significantly depleted the insurance fund of the FDIC and reduced the ratio of reserves to insured deposits. The FDIC adopted a revised risk-based deposit insurance assessment schedule on February 27, 2009, which raised deposit insurance premiums. On May 22, 2009, the FDIC also implemented a five-basis-point special assessment of each insured depository institution’s assets minus Tier 1 capital as of June 30, 2009, but no more than 10 basis points times the institution’s assessment base for the second quarter of 2009, to be collected on September 30, 2009. Additional special assessments may be imposed by the FDIC for future periods. We participate in the FDIC’s Temporary Liquidity Guarantee Program, or TLGP, for noninterest-bearing transaction deposit accounts. Banks that participate in the TLGP’s noninterest-bearing transaction account guarantee will pay the FDIC an annual assessment of 10 basis points on the amounts in such accounts above the amounts covered by FDIC deposit insurance. To the extent that these TLGP assessments are insufficient to cover any loss or expenses arising from the TLGP, the FDIC is authorized to impose an emergency special assessment on all FDIC-insured depository institutions. The FDIC has authority to impose charges for the TLGP upon depository institution holding companies, as well. These changes, along with the full utilization of our FDIC insurance assessment credit in early 2009, will cause the premiums and TLGP assessments charged by the FDIC to increase. These actions could significantly increase our noninterest expense currently and for the foreseeable future. The FDIC required all insured institutions to prepay insurance premiums through 2012 in order to recapitalize the Deposit Insurance Fund. In the case of Superior, this prepayment aggregated $15.9 million in the fourth quarter of 2009. Future increases in Deposit Insurance Fund insurance premiums would likely have an adverse effect on the operating expenses and results of operations of Superior Bank. Management cannot predict what insurance assessment rates will be in the future.

 

If we defer payments of interest on our outstanding junior subordinated debentures or if certain defaults relating to those debentures occur, we will be prohibited from declaring or paying dividends or distributions on, and from making liquidation payments with respect to, our common stock.  At December 2009, we had outstanding $121.7 million aggregate principal amount of junior subordinated debentures issued in connection with the sale of trust preferred securities through statutory business trusts. We have unconditionally guaranteed these trust preferred securities. There are currently five separate series of these junior subordinated debentures outstanding, each series having been issued under a separate indenture and with a separate guarantee. Each of these indentures, together with the related guarantee, prohibits us, subject to limited exceptions, from declaring or paying any dividends or distributions on, or redeeming, repurchasing, acquiring or making any liquidation payments with respect to, any of our capital stock at any time when (i) there shall have occurred and be continuing an event of default under such indenture or any event, act or condition that with notice or lapse of time or both would constitute an event of default under such indenture; (ii) we are in default with respect to payment of any obligations under such guarantee; or (iii) we have deferred payment of interest on the junior subordinated debentures outstanding under that indenture. In

that regard, we are entitled, at our option but subject to certain conditions, to defer payments of interest on the junior subordinated debentures of each series from time to time for up to five years.

 

Events of default under the indentures generally consist of our failure to pay interest on the junior subordinated debt securities under certain circumstances, our failure to pay any principal of or premium on such junior subordinated debt securities when due, our failure to comply with certain covenants under the indenture, and certain events of bankruptcy, insolvency or liquidation relating to us or Superior Bank.

 

As a result of these provisions, if we were to elect to defer payments of interest on any series of junior subordinated debentures, or if any of the other events described in clause (i) or (ii) of the first paragraph of this risk factor were to occur, we would be prohibited from declaring or paying any dividends on our common stock, from repurchasing or otherwise acquiring any such common stock, and from making any payments to holders of common stock in the event of our liquidation, which would likely have a material adverse effect on the market value of our common stock.

 

Risks Related To an Investment in Our Common Stock

 

Superior Bancorp’s stock price may be volatile due to limited trading volume and general market conditions.  Our common stock is traded on the NASDAQ Global Market. However, the average daily trading volume in our common stock is relatively small, typically less than 75,000 shares per day and sometimes less. Trades involving a relatively small number of shares may have a significant effect on the market price of our common stock, and it may be difficult for investors to acquire or dispose of large blocks of stock without significantly affecting the market price.

 

In addition, market fluctuations, industry factors, general economic conditions and political events, including economic slowdowns or recessions, interest rate changes or market trends, also could cause our stock price to decrease regardless of our operating results of operations. Stock prices of thrift holding companies, such as ours, have been negatively affected by the current condition of the financial markets.

 

Our ability to pay dividends is limited.  Our ability to pay dividends is limited by regulatory requirements and the need to maintain sufficient consolidated capital to meet the capital needs of our business, including capital needs related to future growth. Our primary source of income is the payment of dividends from Superior Bank to us. Superior Bank, in turn, is likewise subject to regulatory requirements potentially limiting its ability to pay such dividends to us and by the need to maintain sufficient capital for its operations and obligations. Further, we are obligated, subject to regulatory limitations, to make periodic distributions on our trust preferred securities, subordinated debentures and preferred stock, which reduces the income that might otherwise be available to pay dividends on our common stock. Thus, there can be no assurance that we will pay dividends to our common stockholders, no assurance as to the amount or timing of any such dividends, and no assurance that such dividends, if and when paid, will be maintained, at the same level or at all, in future periods.

 

Use of our common stock for future acquisitions or to raise capital to augment our existing capital base may be dilutive to existing stockholders.  When we determine that appropriate strategic opportunities exist, we may acquire other financial institutions and related businesses, subject to applicable regulatory requirements. We may use our common stock for such acquisitions. From time to time, we may also seek to raise capital through selling additional common stock. It is possible that the issuance of additional common stock in such acquisition or capital transactions may be dilutive to the ownership interests of our existing stockholders.

 

 

Not applicable.

 

 

Our headquarters are located at 17 North 20th Street, Birmingham, Alabama. As of December 21, 1999, Superior Bancorp and Superior Bank, who jointly owned the building, converted the building into condominiums known as The Bank Condominiums. Superior Bank owns 16 condominium units. This space includes a branch of Superior Bank, various administrative offices, operations facilities and our headquarters. Thirteen units are owned by third parties. We have leased or are pursuing the lease or sale of certain units (or parts thereof) not currently needed for our operations.

We operate through facilities at 97 locations. We own 48 of these facilities and lease 49 of these facilities. Rental expense on the leased properties totaled approximately $3.8 million in 2009.

 

 

While we are a party to various legal proceedings arising in the ordinary course of our business, we believe that there are no proceedings threatened or pending against us at this time that will individually, or in the aggregate, materially and adversely affect our business, financial condition or results of operations. We believe that we have strong claims and defenses in each lawsuit in which we are involved. While we believe that we will prevail in each lawsuit, there can be no assurance that the outcome of the pending, or any future, litigation, either individually or in the aggregate, will not have a material adverse effect on our business, our financial condition or our results of operations.

 

 

Our stockholders, at a special meeting held on November 19, 2009, voted to approve an amendment to our Restated Certificate of Incorporation to increase the number of authorized shares of our common stock from 20 million to 200 million as follows:

 

 

 

Market for Common Stock

 

Our common stock trades on the NASDAQ Global Market under the ticker symbol “SUPR.” As of March 3, 2010, there were approximately 3,108 record holders of our common stock. The following table sets forth, for the calendar periods indicated, the range of high and low reported sales prices:

 

 

On March 3, 2010, the last reported sale price for the common stock was $3.00 per share.

 

Issuer Purchases of Equity Securities

 

As discussed in the “Supervision and Regulation” section of Item 1. “Business” of this Annual Report on Form 10-K, Superior Bancorp’s ability to repurchase its common stock is limited by the terms of the Purchase Agreement between Superior Bancorp and the Treasury Department. Under the CPP, the consent of the Treasury Department is required to repurchase any shares of common stock except in connection with benefit plans in the ordinary course of business and certain other limited exceptions prior to the earlier of (i) December 5, 2011, or

(ii) the date on which the trust preferred securities held by the Treasury Department are redeemed in whole or the Treasury Department has transferred all of the trust preferred securities to unaffiliated third parties. On December 11, 2009 Superior Bancorp and the Treasury Department entered into an exchange agreement pursuant to which the Preferred Stock held by the Treasury Department was exchanged for new trust preferred securities issued by Superior Capital Trust II, a wholly-owned subsidiary of Superior Bancorp.

 

Dividends

 

On December 5, 2008, we issued 69,000 shares of preferred stock to the Treasury Department in connection with our receipt of $69 million pursuant to the Troubled Assets Relief Program Capital Purchase Program (“TARP”). Dividends on this preferred stock were payable quarterly at an annual rate of five percent for the first five years and thereafter at an annual rate of nine percent. On December 11, 2009, the preferred stock held by the Treasury Department was exchanged for 69,000 shares of trust preferred securities of Superior Capital Trust II, which have a liquidation amount of $1,000 and on which we pay interest at an equivalent rate.

 

Holders of our common stock are entitled to receive dividends when and if declared by our board of directors. We derive cash available to pay dividends primarily, if not entirely, from dividends paid to us by our subsidiaries. There are certain restrictions that limit Superior Bank’s ability to pay dividends to us and, in turn, our ability to pay dividends. The restrictions that may limit our ability to pay dividends are discussed in this Report in Item 1 under the heading “Supervision and Regulation — Limitations on Capital Distributions.” Our ability to pay dividends to our stockholders will depend on our earnings and financial condition, liquidity and capital requirements, the general economic and regulatory climate, our ability to service any equity or debt obligations senior to our common stock and other factors deemed relevant by our board of directors. We do not currently pay dividends on our common stock, but expect to evaluate our common stock dividend policy from time to time as circumstances indicate, subject to applicable regulatory restrictions.

 

Equity Compensation Plan Information

 

The following table summarizes information as of December 31, 2009, relating to our equity compensation plans pursuant to which grants of options, restricted stock units or other rights to acquire shares may be granted in the future.

 

 

 

 

2008 Incentive Compensation Plan.  The purpose of the Superior Bancorp 2008 Incentive Compensation Plan is to promote the success and enhance the value of Superior Bancorp by linking the personal interests of its directors, officers and employees to those of our stockholders and by providing such individuals with an incentive for outstanding performance to generate superior returns to our stockholders. The plan is further intended to provide

flexibility to us in its ability to motivate, attract, and retain the services of directors, officers and employees upon whose judgment, interest, and special effort the successful conduct of our operation is largely dependent. The plan authorizes the grant of incentive stock options, nonqualified stock options and other awards, including stock appreciation rights, restricted stock and performance shares. The plan covers 300,000 shares of our common stock. As of December 31, 2009, the Compensation Committee has granted options to purchase 205,850 shares of our common stock which remain outstanding and restricted stock awards covering 9,000 shares of our common stock which remain outstanding. Those shares may be, in whole or in part, authorized but unissued shares or issued shares that we have reacquired.

 

Our Compensation Committee, which administers the Superior Bancorp 2008 Incentive Compensation Plan, may grant options or other awards to employees, officers and directors of Superior Bancorp and its affiliates. The Compensation Committee, subject to the approval of the board of directors and the provisions of the plan, has full power to determine the types of awards to be granted, to select the individuals to whom awards will be granted, to fix the number of shares that each grantee may purchase, to set the terms and conditions of each award, and to determine all other matters relating to the plan.

 

Third Amended and Restated 1998 Stock Incentive Plan.  Superior Bancorp maintains the Third Amended and Restated 1998 Stock Incentive Plan of The Banc Corporation, but does not intend to make any additional awards under this plan. The plan authorizes the grant of incentive stock options, nonqualified stock options and other awards, including stock appreciation rights, restricted stock and performance shares. As of December 31, 2009, the Compensation Committee has granted options to purchase 327,528 shares of our common stock which remain outstanding and restricted stock awards covering 65,301 shares of our common stock which remain outstanding.

 

The Commerce Bank of Alabama Stock Incentive Compensation Plan.  We assumed the Commerce Bank of Alabama Incentive Compensation Plan in our acquisition of Commerce Bank of Alabama on November 6, 1998. This plan authorized the grant of incentive and nonqualified options to purchase common stock of Superior Bancorp. As of December 31, 2009, there were options outstanding under this plan to purchase 290 shares of common stock. We have not granted and do not intend to grant any additional options under this plan.

Performance Graph

 

The performance graph below compares our cumulative shareholder return on our common stock over the last five fiscal years to the cumulative total return of the NASDAQ Composite Index and the NASDAQ Financial Index. Our cumulative shareholder return over a five-year period is based on an initial investment of $100 on December 31, 2004.

 

 

 

SNL Southeast Thrift :  Includes all Major Exchange (NYSE, AMEX, NASDAQ) Thrifts in SNL’s coverage universe headquartered in AL, AR, FL, GA, MS, NC, SC, TN, VA, WV.

 

The following table sets forth selected financial data from our consolidated financial statements and should be read in conjunction with our consolidated financial statements, including the related notes, and “Management’s Discussion and Analysis of Financial Condition and Results of Operations.” The selected historical financial data as of December 31, 2009 and 2008 and for each of the three years in the period ended December 31, 2009 is derived from our audited consolidated financial statements and related notes included in this Form 10-K. See “Item 8. Superior Bancorp and Subsidiaries Consolidated Financial Statements.”

 

 

 

General

 

The following is a narrative discussion and analysis of significant changes in our results of operations and financial condition. This discussion should be read in conjunction with the consolidated financial statements and selected financial data included elsewhere in this document.

 

Overview

 

Our principal subsidiary is Superior Bank, a federal savings bank. Superior Bank has principal offices in Birmingham, Alabama and Tampa, Florida, and operates 73 banking offices in Alabama (45) and Florida (28). Superior Bank’s consumer finance subsidiaries operate an additional 24 consumer finance offices in North Alabama, doing business as 1st Community Credit and Superior Financial Services. We had assets of approximately $3.222 billion, loans of approximately $2.473 billion, deposits of approximately $2.657 billion and stockholders’ equity of approximately $191.7 million at December 31, 2009. Total assets increased 5.5% compared to $3.053 billion at December 31, 2008. Loans increased 6.8% compared to $2.315 billion at December 31, 2008. Total deposits at December 31, 2009 increased 13.4% from $2.343 billion at December 31, 2008. Our primary source of revenue is net interest income, the difference between income earned on interest-earning assets, such as loans and investments, and interest paid on interest-bearing liabilities, such as deposits and borrowings. Our results of operations are also affected by credit cost, including the provision for loan losses and losses and other costs on foreclosed properties (“foreclosure losses”), and other noninterest expenses, such as salaries and benefits, occupancy expenses and provision for income taxes. The effects of these noninterest expenses are partially offset by noninterest sources of revenue, such as service charges and fees on deposit accounts and mortgage banking income. Our volume of business is influenced by competition in our markets and overall economic conditions including such factors as market interest rates, business spending and consumer confidence.

 

2009 proved to be a very challenging year, given the economic conditions faced by our country, our markets and our bank. In response to these challenges, we focused our efforts on two primary objectives: assuring our customers that we were still doing business with regard to making loans, accepting deposits and fulfilling their banking needs, and managing the current credit cycle at the least cost to our shareholders. Additionally, we have focused internally on preparing our company for 2010 by a number of logical, well-timed and sensible steps designed to position us to have a capital structure that is unassailable in these uncertain times. In November 2009, our shareholders approved an increase in our authorized shares from 20 million to 200 million. In December 2009, we successfully completed the conversion of the Preferred Stock held by the Treasury Department under the TARP Capital Purchase Program into trust preferred securities, realizing a $23.1 million gain in the process. This non-dilutive action was equivalent to approximately $1.98 per share in increased common equity. After year-end, we announced agreements to exchange $7.5 million of our then-currently outstanding non-pooled trust preferred securities for newly issued common stock, which should result in the creation of $6.5 million additional common equity, and a projected gain of $0.15 per common share. We plan additional capital actions in 2010 consistent with market conditions.

 

Net interest income increased from $83.3 million for the year ended December 31, 2008 to $92.6 million for the year ended December 31, 2009. The net interest margin was 3.28% in 2009 compared to 3.27% in 2008. The effect on net interest margin of loans being placed on non-accruing status approximated 0.35% in 2009 (which includes foregone interest and the reversal of interest accrued during the year on those loans). The increase during 2009 in net interest income resulted from an increase in interest earning assets. Loan yields declined 90 basis points from 2008, but funding costs also declined 86 basis points from 2008. The decline in loan yields was due principally to an overall lower level of interest rates in 2009 as compared to 2008, plus the effect of higher levels of non-performing loans in 2009 as compared to 2008.

 

Despite the increase in interest income and relatively encouraging progress on the fee income front, the year’s progress was negatively impacted by increases in overall credit-related costs in light of the current economy. We incurred a net loss in 2009 of $19.9 million (before a $23.1 million gain on the exchange of Preferred Stock for trust preferred securities) compared to a loss of $163.2 million in 2008. (The 2008 loss included a goodwill impairment charge of $160.3 million.) Included in this year’s results were write-downs associated with investments in trust

preferred securities issued by others and certain private-label mortgage-backed securities in our investment portfolio totaling $15.7 million for other-than-temporary impairments (“OTTI”) versus $9.9 million 2008, and an increase in credit-related costs (i.e. provisions for loan loans, OREO expense, collection costs, etc.) of $36.7 million.

 

Our loan loss provision was well above those in previous years, with a provision of $28.6 million for the year ended December 31, 2009, compared to $13.1 million for the prior year, and an increase in the allowance for loan losses of $13.0 million to $41.9 million at December 31, 2009. A portion of this provision related to charged-off loans, but a majority was used to increase our allowance for loan losses based on management’s estimate of loss in the loan portfolio based on management’s ongoing assessment of certain areas of risk. In addition, our losses and expenses on other real estate owned (“OREO”), were $8.1 million during the year ended December 31, 2009, which was a significant increase from the $0.9 million recorded in the prior year, reflecting several dispositions of foreclosed properties.

 

Management’s Response to Current Economic Environment.

 

Changes in Lending Policy.  Since the beginning of 2008, and in direct response to the depth of the current economic downturn and its apparent length, we have made significant and fundamental changes in our credit management process.

 

 

Today, we have in place a centralized underwriting process for each of our two states, under the supervision of a Senior Credit Officer assigned to that state. Each Senior Credit Officer is responsible for the maintenance of loan underwriting standards within his state, including loan approvals up to a certain limit through a State Loan Committee. Credits with a total exposure exceeding $10 million are reviewed and approved by the Executive Loan Committee and the Board Loan and Investment Committee as needed.

 

 

These functions operate on a centralized basis, and are responsible for reviewing for policy compliance and reporting all loans that are underwritten at the state level to executive management. In recent months, in response to the current economic conditions, we have tightened our underwriting standards. We are requiring more relationship-driven deals, where we are the primary, and in many cases, the only banking relationship for these prospective customers. All of these changes are intended to further strengthen our position and mitigate the risks associated with the current economic environment. In addition, we have established concentration guidelines for each major lending category, as well as sub-limits within each of these broad categories to provide risk rated limitations on our lending activities, both by nature of collateral and by geography.

 

 

Each significant problem asset is assigned to a senior officer for workout. At December 31, 2009, each of the 23 largest problem loans or foreclosed properties in a workout status is assigned to one of the four top executive credit officers of our company, reflecting our belief that in this manner we can bring the right combination of experience, short decision making lines of communication, and executive focus on reducing our totals of these assets in the least costly manner. This encompasses essentially all problem relationships of $1 million or more.

 

Loan Trends.  Our position on new credit formation is positive, but cautious. Our primary goal is to work with existing borrowers in making sure that loans we presently have are properly structured and are soundly underwritten. At December 31, 2009, this has resulted in an increase in balances outstanding in certain categories of loans, such as commercial construction lending, which increased $56.1 million, to a level of $379 million with the majority of increases related to construction of income producing properties such as apartments and student housing. Conversely, residential construction lending decreased approximately $13.3 million to a level of $301 million, as activity in this sector continued to slow over the course of 2009. This decrease included reductions in non-pre-sold (“spec”) residential, condominium, and undeveloped land loans. Other categories of commercial real estate lending were up approximately $75.1 million, related principally to increases in income producing

properties such as apartments, office buildings and the hospitality industry. In addition, 1-4 family residential mortgages grew approximately $36.1 million from December 31, 2008. As we look forward into 2011, we expect our stance to continue to remain cautious, with loan totals remaining flat to growing slowly. This is also consistent with our stance on capital preservation in the near term, as we seek to maintain the highest capital ratios possible in this uncertain environment so that we are in the position to resume growth and profitable lending, as conditions improve.

 

During the fourth quarter of 2009, we took advantage of a unique opportunity in the local market by bringing on board 60 mortgage originators and associated staff from an existing Alabama bank which had been taken into the Federal Deposit Insurance Corporation (the “FDIC”) receivership and sold to another financial institution. We believe this “no-cost” acquisition affords us a tremendous opportunity in both Alabama and Florida, not only to increase shareholder value but also to help people achieve their dream of home ownership through the expansion of our mortgage operation. Initially, we expect the new staff to approximately double our origination capability in Alabama, as well as significantly improve the efficiency of the secondary placement of our existing originations. Longer term, we expect this to raise our origination capability to a higher level in support of our Florida branches. These additions resulted in increases in operating expenses in the fourth quarter, but we expect this expansion to be solidly profitable on an incremental basis starting in 2010.

 

Consistent with the continuing economic decline’s effect on real estate-related credits, our non-performing loans increased during 2009 to $159.6 million, or 6.45% of loans at December 31, 2009, from $62.7 million, or 2.71% of loans at December 31, 2008. The overall increase in nonperforming assets was primarily related to real estate construction, commercial real estate and residential mortgage loan portfolios. Loans in the 30-89 days past due category increased to 1.84% of total loans at December 31, 2009 from 1.05% of total loans at December 31, 2008. Non-performing assets are 6.26% of total assets at December 31, 2009 compared to 2.72% at December 31, 2008.

 

The annualized ratio of net charged-off loans to average loans increased to 0.65% for the year ended December 31, 2009, compared to 0.33% for the year ended December 31, 2008. Of the $15.5 million net charge-offs in 2009, Superior Bank’s net charge-offs were $13.0 million, or 0.54% of consolidated average loans, and our two consumer finance companies’ net charge-offs were $2.5 million, or 0.10% of consolidated average loans.

 

The provision for loan losses was approximately $28.6 million for the year ended December 31 2009, increasing the allowance for loan losses to 1.69% of net loans, or $41.9 million, at December 31, 2009, compared to 1.25% of net loans, or $28.9 million, at December 31, 2008.

 

Liquidity and Capital.  Short-term liquid assets (cash and due from banks, interest-bearing deposits in other banks and federal funds sold) increased $10.3 million, or 11.5%, to $99.8 million at December 31, 2009 from $89.4 million at December 31, 2008. At December 31, 2009, short-term liquid assets were 3.1% of total assets, compared to 2.9% at December 31, 2008. On March 31, 2009, Superior Bank completed a placement of a $40 million aggregate principal amount 2.625% Senior Note due 2012 (the “Note”). The Note is guaranteed by the FDIC under its Temporary Liquidity Guarantee Program (“TLGP”) and is backed by the full faith and credit of the United States. Management continually monitors our liquidity position and will increase or decrease short-term liquid assets as necessary. Our principal sources of funds are deposits, principal and interest payments on loans, federal funds sold and maturities and sales of investment securities. In addition to these sources of liquidity, we have access to a minimum of $250 million in additional funding from traditional sources. Management believes it has established sufficient sources of funds to meet its anticipated liquidity needs.

 

Superior Bank continues to be well-capitalized under regulatory guidelines, with a total risk-based capital ratio of 10.69%, a Tier I core capital ratio of 7.79% and a Tier I risk-based capital ratio of 9.30% at December 31, 2009. Superior Bank’s tangible common equity ratio was 7.79% at December 31, 2009.

 

Our consolidated total risk based capital ratio was 11.01% and our tangible common equity ratio was 6.74% at December 31, 2009. While we have always been “well-capitalized,” we believe that the uncertain economic environment in which we find ourselves warrants taking advantage of every opportunity to strengthen our common equity. Our goal is to build a capital base that is unassailable, and places us in the position of being able to be a leader

in the recovery of the economy in both of our key markets — Florida and Alabama. The following are all steps in a logical series to further improve our equity capital base:

 

 

Regulatory Reform and Costs.  Besides the economy, the greatest risk of uncertainty for the banking industry continues to be the regulatory reform initiatives under consideration by the U.S. Congress and federal bank regulatory agencies. The activities of the “investment banking” and “non-bank financial institutions” became major catalysts for our current economic challenges. We believe that many of the proposed reforms are over-reactive and represent a sweeping “broad brush” approach that will be applied to all banks, regardless of size or culpability in the economic situation we face. The result may be an increase in government regulations, oversight and involvement in the daily business activities that should be best left to experienced bank management teams and their boards of directors. If enacted, these proposals will result in additional burdensome disclosures and red tape for our customers and additional cost to our stockholders. For the vast majority of well-run community banks, we believe this is totally unnecessary.

 

Healthy banks are clearly carrying the costly burden for the closing of many failed banks. For example, on a cash basis, our payments to the FDIC in 2009 exceeded $21 million, including both our annual assessments, a special assessment and a prepayment of three years’ estimated assessments as deposit insurance for current and future years to fund the current losses being incurred by the government for bank closings. We fully expect the prepayment to be absorbed by future bank failures prior to the end of three years, and therefore anticipate additional FDIC costs above those reflected above.

 

Critical Accounting Estimates

 

In preparing financial information, management is required to make significant estimates and assumptions that affect the reported amounts of assets, liabilities, revenues and expenses for the periods shown. The accounting principles we follow and the methods of applying these principles conform to accounting principles generally accepted in the United States and to general banking practices. Our most significant estimates and assumptions are related primarily to our allowance for loan losses, income taxes and fair value measurements and are summarized in the following discussion and in the notes to the consolidated financial statements.

 

Allowance for Loan Losses

 

Management’s determination of the adequacy of the allowance for loan losses, which is based on the factors and risk identification procedures discussed in the section “Financial Condition — Allowance for Loan Losses”, requires the use of judgments and estimates that may change in the future. Changes in the factors used by management to determine the adequacy of the allowance or the availability of new information could cause the

allowance for loan losses to be increased or decreased in future periods. In addition, our regulators, as part of their examination process, may require that additions or reductions be made to the allowance for loan losses based on their judgments and estimates.

 

Income Taxes

 

Deferred income tax assets and liabilities are determined using the balance sheet method. Under this method, the net deferred tax assets and liabilities are determined based on temporary differences between financial reporting and tax bases of assets and liabilities and are measured using the enacted tax rates expected to apply to taxable income in the years in which those temporary differences are expected to reverse. These calculations are based on many complex factors, including estimates of the timing of reversals of temporary differences, the interpretation of federal and state income tax laws, and a determination of the differences between the tax and the financial reporting basis of assets and liabilities. Actual results could differ significantly from the estimates and interpretations used in determining the current and deferred income tax assets and liabilities.

 

The recognition of deferred tax assets (“DTA”) is based upon management’s judgment that realization of the asset is more likely than not. Management’s judgment is based on estimates concerning various future events and uncertainties, including future reversals of existing taxable temporary differences, the timing and amount of future income earned by our subsidiaries and the implementation of various tax planning strategies to maximize realization of the DTA. Although realization is not assured, we believe that the realization of the $29.5 million net DTA is more likely than not. This net DTA is comprised of $56.5 million of deferred tax assets, net of $25.8 million in deferred tax liabilities and a $1.2 million valuation allowance. The major components of the $56.5 million deferred tax asset are $7.4 million in general and AMT tax credit carryforwards, $11.6 million in net operating loss carryforwards and $37.5 million in deductions that have not yet been taken on a tax return. Our deferred tax liabilities of $25.8 million are comprised primarily of differences between the book and tax bases of certain assets and liabilities, of which $12.6 million are expected to reverse during the carryforward period to offset a corresponding amount of deferred tax asset. In general, net of the existing deferred tax liabilities, we will need to generate approximately $106 million of taxable income during the respective carryforward periods in order to fully realize our DTAs.

 

As a result of book losses incurred in 2009 and 2008, we are in three-year-cumulative loss position at December 31, 2009, and there are no taxes paid in prior years that are available for the carryback period. A cumulative loss position is considered significant negative evidence in assessing the realizability of a DTA. Our management has concluded that sufficient positive evidence exists to overcome this negative evidence. The positive evidence on which management based its conclusions includes the following:

 

 

The only tax planning strategy management considered involves the decision to hold any available-for-sale debt security in an unrealized loss position until they mature at which time our full investment will be recovered. The amount of our DTA considered realizable, however, could be significantly reduced in the near term if estimates of future taxable income during the carryforward period are significantly lower than forecasted due to further decreases in market conditions, or the economy, which could produce additional credit losses within our loan and investment portfolios. In that regard, our forecasted taxable income has been based on several economic scenarios which have been stressed in varying degrees to reflect slower economic recovery than currently anticipated by management, which under our model results in additional credit losses and the corresponding impact on the net interest margin. Each scenario was assigned individually for each year a probability of occurring, with the final five-year forecast comprising the scenarios that exceeded a cumulative probability of 50% (the more likely than not threshold) in any year. Even though our forecasts project taxable income for an eight-year period, management did not rely on any forecast after the fifth year because years six through eight did not exceed the more likely than not threshold. We evaluate quarterly the realizability of our net deferred tax assets and, if necessary adjust our valuation allowance accordingly (See Note 14 to the consolidated financial statements for additional disclosures regarding income taxes).

 

Fair Value Measurements

 

We measure fair value at the price we would receive by selling an asset or pay to transfer a liability in an orderly transaction between market participants at the measurement date. We prioritize the assumptions that market participants would use in pricing the asset or liability (the “inputs”) into a three-tier fair value hierarchy. This fair value hierarchy gives the highest priority (Level 1) to quoted prices in active markets for identical assets or liabilities and the lowest priority (Level 3) to unobservable inputs in which little or no market data exists, requiring companies to develop their own assumptions. Observable inputs that do not meet the criteria of Level 1, and include quoted prices for similar assets or liabilities in active markets or quoted prices for identical assets and liabilities in markets that are not active, are categorized as Level 2. Level 3 inputs are those that reflect management’s estimates about the assumptions market participants would use in pricing the asset or liability, based on the best information available in the circumstances. Valuation techniques for assets and liabilities measured using Level 3 inputs may include methodologies such as the market approach, the income approach or the cost approach, and may use unobservable inputs such as projections, estimates and management’s interpretation of current market data. These unobservable inputs are only utilized to the extent that observable inputs are not available or cost-effective to obtain.

 

At December 31, 2009 and 2008, we had $213.8 million, or 38.2%, and $66.3 million, or 15.8%, respectively, of total assets valued at fair value that are considered Level 3 valuations using unobservable inputs. As shown in Note 19 to the consolidated financial statements, available-for-sale securities with a carrying value of $13.3 million and $18.5 million, at December 31, 2009 and 2008, respectively, were included in the Level 3 assets category measured at fair value on a recurring basis. These securities consist primarily of certain private-label mortgage-backed securities and trust preferred securities. As the market for these securities became less active and pricing less reliable, management determined that the trust preferred securities should be transferred to a Level 3 category during the third quarter of 2008 and that six private-label mortgage-backed securities be transferred during the second and third quarters of 2009.

 

Management measures fair value on the trust preferred securities based on various spreads to LIBOR determined after its review of applicable financial data and credit ratings (See “Financial Condition — Investment Securities — Trust Preferred Securities” below for additional discussion). At December 31, 2009, the fair values of six private-label mortgage-backed securities totaling $7.4 million were measured using Level 3 inputs because the market for them has become illiquid, as indicated by few, if any, trades during the period. Prior to June 30, 2009, these securities were measured using Level 2 inputs. The assumptions used in the valuation model include expected future default rates, loss severity and prepayments. The model also takes into account the structure of the security including credit support. Based on these assumptions the model calculates and projects the timing and amount of interest and principal payments expected for the security. The discount rates used in the valuation model were based on a yield that the market would require for such securities with maturities and risk characteristics similar to the securities being measured (See “Financial Condition — Investment Securities — Mortgage-backed securities”). The remaining Level 3 assets totaling $200.5 million include loans which have been impaired, foreclosed other real estate and other real estate held for sale, which are valued on a nonrecurring basis based on appraisals of the

collateral. The value of this collateral is based primarily on appraisals by qualified licensed appraisers approved and hired by management. Appraised and reported values are discounted based on management’s historical knowledge, changes in market conditions from the time of valuation, and/or management’s expertise and knowledge of the client and the client’s business. The collateral is reviewed and evaluated on at least a quarterly basis for additional impairment and adjusted accordingly, based on the same factors identified above. See Note 19 to the consolidated financial statements for additional disclosures regarding fair value measurements.

 

Recently Issued Accounting Standards

 

See Note 1 — Summary of Significant Accounting Policies to the consolidated financial statements for information regarding recently issued accounting standards.

 

Results of Operations

 

Year ended December 31, 2009 compared with Year ended December 31, 2008

 

Earnings.  We reported a net loss of $19.9 million for 2009, primarily the result of increases in the provision for loan losses of $15.4 million, foreclosure losses of $7.2 million, OTTI of $5.8 million, and FDIC assessments of $5.2 million. These expense increases were partially offset by an increase in net interest income of $9.3 million and mortgage banking income of $3.1 million. Changes in other components of our operations are discussed in the various sections that follow. The following table presents key earnings data for the periods indicated:

 

 

 

 

NCM — Not considered meaningful.

 

Net Interest Income.  The largest component of our net income is net interest income, which is the difference between the income earned on interest-earning assets and interest paid on deposits and borrowings (See “Market Risk” section for a discussion regarding our interest rate risk). Net interest income is determined by the rates earned on our interest-earning assets, rates paid on our interest-bearing liabilities, the relative amounts of interest-earning assets and interest-bearing liabilities, the degree of mismatch and the maturity and re-pricing characteristics of our interest-earning assets and interest-bearing liabilities. Net interest income divided by average interest-earning assets represents our net interest margin. The following table summarizes the changes in the components of net interest income for the periods indicated:

 

The following table depicts, on a taxable equivalent basis, certain information for the fourth quarters of 2009 and 2008 related to our average balance sheet and our average yields on assets and average costs of liabilities. Average yields are calculated by dividing income or expense by the average balance of the corresponding assets or liabilities. Average balances have been calculated on a daily basis.

 

 

 

 

The following table sets forth, on a taxable equivalent basis, the effect that the varying levels of interest-earning assets and interest-bearing liabilities and the applicable rates have had on changes in net interest income for the fourth quarters of 2009 and 2008:

 

 

 

 

The following tables depict, on a taxable equivalent basis, certain information for each of the three years in the period ended December 31, 2009 related to our average balance sheet and our average yields on assets and average costs of liabilities. Such yields are derived by dividing income or expense by the average balance of the corresponding assets or liabilities. Average balances have been calculated on a daily basis.