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Item 1A.

Risk Factors.

There are important factors that could cause actual results to differ materially from those expressed or implied by these forward-looking statements, including our plans, objectives, expectations and intentions and other factors discussed in the risk factors, described below. You should carefully consider the following risk factors and all other information contained in this Report. The risks and uncertainties described below may not be the only ones we face. Additional risks and uncertainties not presently known to us or that we currently believe are immaterial also may impair our business. If any of the events described in the following risk factors occur, our business, results of operations and financial condition could be materially adversely affected. The value or market price of our common stock could decline due to any of these identified or other risks, and you could lose all or part of your investment.

We have entered into a formal Agreement and Consent Order for a Civil Money Penalty with the Comptroller.

The Bank was recently informed by the Comptroller that the Comptroller intended to institute an enforcement action for alleged violations of the Federal Trade Commission Act in connection with certain merchants and a payment processor that were Bank customers between September 1, 2006 and August 27, 2007.   The Comptroller proposed that the Bank enter into a formal agreement with the Comptroller (the “Agreement”) and a consent order for a civil money penalty (the “Order”) payable by the Bank to resolve the Comptroller’s allegations.

The Bank terminated all business relationships with the merchants and the payment processor on August 27, 2007. The Comptroller alleges that the merchants and the payment processor defrauded consumers and is seeking restitution of such consumers from the Bank, asserting that by accepting consumer payments for deposit from the merchants and introducing those payments into the payment clearing system, the Bank allegedly materially aided the merchants and the payment processor in the alleged fraudulent activity.

Because the cost of defending a regulatory enforcement action is likely to be significant, would likely take a protracted timeframe, and we cannot be certain of a favorable outcome to the Bank, we determined (and currently still believe) that negotiating a settlement with the Comptroller is in the best interest of the Bank.  Accordingly, we have over recent months been in discussion with the Comptroller about settling these claims.  We have over the past few weeks devoted first priority to these discussions, with the expectation that this priority would result in a settlement with the Comptroller prior to issuing our year-end 2009 financial statements.

On April 15, 2010, the Bank executed an Agreement and Order containing the general terms outlined as follows:

·

deposit $5.1 million for consumer restitution charged by the merchants to eligible consumers;

·

Provide for a civil money penalty of $100 thousand;

·

require the Bank to retain an independent claims administrator to locate and arrange for the issuance of individual consumer checks to the identified eligible consumers;

·

terminate the 2008 Order;

·

require the Bank to establish a capital plan which, among other provisions, details the Bank’s plan to achieve tier 1 capital ratio of 9% and total risk based capital ratio of 11.5%;

·

require the Bank to develop a written program designed to reduce the level of criticized assets;

·

require the Bank to develop and implement an asset liquidity enhancement plan designed to increase the amount of asset liquidity maintained by the Bank, including a loan to deposit ratio of 85%; and

·

require the Bank to develop a written profit plan to improve and sustain the earnings of the Bank.

Although we do not know at this time the precise amounts that would ultimately be payable by us under the terms of  the Agreement, we expect that any such settlement would ultimately require the Bank to, among other things, pay a significant and material restitution payment which we have estimated to be $2.4 million.  Further, there is no assurance that the Bank would be able to comply with all of the requirements of the Agreement and the Order, including meeting the stated capital requirements or loan to deposit ratio contained therein.  Nor is there assurance that, should the Bank pay significant and material amounts of restitution and/or civil money penalties, the short and long term financial condition, results of operations, liquidity, and/or prospects of the Bank, upon which the Company is dependent, will not be materially adversely, and irreparably, impacted. If the Bank is unable to satisfy the terms and conditions of the Agreement and Order or  the Bank under estimates the impact or effect of such terms and conditions, it may have a material adverse effect with respect to our financial condition, results of operations and future prospects.

If as a result of its review or examination of the Bank, the Comptroller should determine that the financial condition, capital resources, asset quality, liquidity, earnings ability, or other aspects of its operations have worsened or that it or its management is violating or has violated the Agreement and Order or any law or regulation, various additional remedies are available to the Comptroller. Such remedies include the power to enjoin “unsafe or unsound” practices, to require affirmative action to correct any conditions resulting from any violation or practice, to issue an administrative order that can be judicially enforced, to direct an increase in capital, to restrict our growth, to assess civil monetary penalties, to remove officers and directors, and ultimately to terminate our deposit insurance, which would result in the seizure of the Bank by its regulators.

 

 

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We have made estimates with respect to the amount of restitution that the Bank will ultimately be responsible to pay to consumers in connection with the Agreement with the Comptroller.

In determining the amount of funds that the Bank needs to reserve to make restitution payments to consumers under the Agreement, management has made certain assumptions regarding the number of consumers who elect to accept restitution checks and the ability of the Bank and its claim processor to locate consumers.  Based on such assumptions, management concluded that it is probable that the Bank will be liable for an amount that is up to $5.1 million.  However, the Agreement does not limit the liability to this amount.  Further, until the restitution process is fully investigated, formulated, and approved by the Comptroller, management has estimated that the amount of restitution would not exceed the $5.1 million set forth in the Agreement.  In addition, certain consumers purchased products or services from a merchant that is currently in litigation with the Federal Trade Commission, which management believes represents approximately $1.6 million of the $5.1 million set forth in the Agreement. In the event the Federal Trade Commission prevails in its litigation with such merchant and the merchant is required and pays restitution to its consumers, the Bank likely would not be obligated to make restitution payments to such consumers.

Based on the information available to management regarding actual historical rates that restitution checks are ultimately negotiated by consumers, management’s estimate is that approximately 68% of the total potential exposure will be realized. Therefore, management believes the appropriate reserve to accrue for restitution is 68% of $3.5 million, or $2.4 million.  If management’s estimates prove inaccurate, or the Bank is required to make restitution payments to the consumers of the merchant mentioned above, the Bank may be required to recognize additional payments on restitution checks.  As a result, our financial condition and results of operation may be materially adversely affected.

The Agreement with the Comptroller prevents us from being well capitalized under the system of prompt corrective action established by the Federal Deposit Insurance Corporation Improvement Act of 1991 which may inhibit our ability to retain and attract deposits.

The Bank’s capital ratios as of December 31, 2009 were 7.51% tier 1 leverage ratio and 11.33% total risk based capital ratio. Although the Bank’s capital ratios met the definition of well capitalized under the system of prompt corrective action, the Order prevents us from being considered well capitalized regardless of our capital ratios. Because of FDIC restrictions which took affect on January 1, 2010 for all insured banks which are considered not well capitalized, the Bank is restricted from offering rates in excess of .75% over the national average rate for various deposit terms as published weekly by the FDIC.  This may adversely and materially affect the Bank’s ability to attract and retain deposits which could have a negative impact on the Bank’s liquidity and impair its ability to comply with the Order.

Since we commenced operations in 2004, we have had a short and intermittent  history of experiencing profits.

Our profitability will depend on the Bank’s profitability and, while we were profitable in 2006 and 2007, we experienced significant and material losses in 2008 and 2009. Therefore we can give no assurance that we will be profitable in the future. We have incurred substantial start-up expenses associated with our organization and our public offering and sustained losses or achieved minimal profitability during our initial years of operations. At December 31, 2009, we had an accumulated deficit account of approximately $7.0 million, principally resulting from the organizational and pre-opening expenses that we incurred in connection with the opening of the Bank, losses on loans, and accrued reserves in connection with the Agreement and Order with the Comptroller. In addition, due to the extensive regulatory oversight to which we are subject, we expect to incur significant administrative costs. Our success will depend, in large part, on our ability to attract and retain deposits and customers for our services. If we are ultimately unsuccessful, you may lose part or all of the value of your investment.

Our results of operation and financial condition would be adversely affected if our allowance for loan losses is not sufficient to absorb actual losses.

Experience in the banking industry indicates that a portion of our loans in all categories of our lending business will become delinquent, and some may only be partially repaid or may never be repaid at all. Our methodology for establishing the adequacy of the allowance for loan losses depends on subjective application of risk grades as indicators of borrowers’ ability to repay. Deterioration in general economic conditions and unforeseen risks affecting customers may have an adverse effect on borrowers’ capacity to repay timely their obligations before risk grades could reflect those changing conditions. In times of improving credit quality, with growth in our loan portfolio, the allowance for loan losses may decrease as a percent of total loans. Changes in economic and market conditions may increase the risk that the allowance would become inadequate if borrowers experience economic and other conditions adverse to their businesses. Maintaining the adequacy of our allowance for loan losses may require that we make significant and unanticipated increases in our provisions for loan losses, which would materially affect our results of operations and capital adequacy. Recognizing that many of our loans individually represent a significant percentage of our total allowance for loan losses, adverse collection experience in a relatively small number of loans could require an increase in our allowance. Federal regulators, as an integral part of their respective supervisory functions, periodically review our allowance for loan losses. The regulatory agencies may require us to change classifications or grades on loans, increase the allowance for loan losses with large provisions for loan losses and to recognize further loan charge-offs based upon their judgments, which may be different from ours. Any increase in the allowance for loan losses required by these regulatory agencies could have a negative effect on our results of operations and financial condition.

Failure to implement our business strategies may adversely affect our financial performance.

We have developed a business plan that details the strategies we intend to implement in our efforts to achieve profitable operations. If we cannot implement our business strategies, we will be hampered in our ability to develop business and serve our customers, which, in turn, could have an adverse effect on our financial performance. Even if our business strategies are successfully implemented, we cannot assure you that our strategies will have the favorable impact that we anticipate. Furthermore, while we believe that our business plan is reasonable and that our strategies will enable us to execute our business plan, we have no control over the future occurrence of certain events upon which our business plan and strategies are based, particularly general and local economic conditions that may affect the Bank’s loan-to-deposit ratio, total deposits, the rate of deposit growth, cost of funding, the level of earning assets and interest-related revenues and expenses.

 

 

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We may elect or be compelled to seek additional capital, but that capital may not be available or it may be dilutive.

We are required by the Agreement with the Comptroller to achieve and maintain a Tier 1 core capital ratio of 9% and a total risk-based capital ratio of 11.5% by a date determined by the Agreement which is the earlier of 90 days after the Comptroller determines the restitution process has been completed or the Comptroller notifies us of such requirement.  As of December 31, 2009, we did not meet these requirements and would have needed approximately $2.3 million in additional capital, based on average assets at such date to meet the requests.  The Company currently does not have any capital available to invest in the Bank and payment of restitution, civil money penalties as well as further increases to cover allowance for loan losses and operating losses which would negatively impact the Bank’s capital levels and make it more difficult to achieve the capital levels directed by the Comptroller.  We will look to raise additional capital through multiple avenues, including focused expense reductions, optimizing our balance sheet for loans and deposits and increasing net interest income and ultimately improving the overall earnings of the Company. A number of financial institutions have recently raised considerable amounts of capital as a result of deterioration in their results of operations and financial condition arising from the negative impact of the mortgage loan market, non-agency mortgage-backed security market, and deteriorating economic conditions, which may diminish our ability to raise additional capital.

Our ability to raise capital will depend on conditions in the capital markets, which are outside our control, and on our financial performance. Accordingly, we cannot be assured of our ability to raise capital when needed, on favorable terms or at all. If we cannot raise additional capital when needed, we will be subject to increased regulatory supervision and the imposition of restrictions on our growth and business. These outcomes could negatively impact our ability to operate or further expand our operations through acquisitions or the establishment of additional branches and may result in increases in operating expenses and reductions in revenues that could have a material adverse effect on our financial condition and results of operations. In addition, in order to raise additional capital, we may need to issue shares of our common stock that would dilute the book value of our common stock and reduce our shareholders’ percentage ownership interest to the extent they do not participate in future offerings. Also, if we are unable to raise additional capital, we may be required to take alterative actions which may include the sale of income-producing assets to meet our capital requirements, which could have an adverse impact on our operations and ability to generate income.

The success of our trust services is dependant upon market fluctuations and a non-diversified source for its growth.

Since August 2006, we have been offering traditional fiduciary services such as serving as executor, trustee, agent, administrator or custodian for individuals, non profit organizations, employee benefit plans and organizations. The Bank received regulatory approval from the Comptroller to establish trust powers in February 2006. As of December 31, 2009, the Bank had approximately $773 million in trust assets under management. To date, virtually all of the growth in our assets under management relates to a registered investment advisor who has advised its clients of the existence of our trust services. We have not compensated the registered investment advisor in any way for making its clients aware of our trust services and cannot assure you that the investment advisor will continue to notify its clients of our trust services or that those clients will open trust accounts at the Bank. Furthermore, the level of assets under management is significantly impacted by the market value of the assets which has increased in 2009 after the sharp decline during 2008. In addition, we are subject to regulatory supervision with respect to these trust services that may restrain our growth and profitability.

Certain of our investment advisory and wealth management contracts are subject to termination on short notice, and termination of a significant number of investment advisory contracts could have a material adverse impact on our revenue.

Certain of our investment advisory and wealth management clients can terminate their relationships with us, reduce their aggregate assets under management, or shift their funds to other types of accounts with different rate structures for any number of reasons, including investment performance, changes in prevailing interest rates, inflation, changes in investment preferences of clients, changes in our reputation in the marketplace, change in management or control of clients, loss of key investment management personnel and financial market performance. We cannot be certain that our trust operations will be able to retain all of its clients. If its clients terminate their investment advisory and wealth management contracts, our trust operations, and consequently we, could lose a substantial portion of our revenues and liquidity.

We have a loan concentration related to the acquisition and financing of dental practices.

Loan concentrations are considered to exist when there are amounts loaned to a multiple number of borrowers engaged in similar activities that would cause them to be similarly impacted by economic or other conditions. At December 31, 2009, our commercial loan portfolio included $77.0 million of loans, approximately 62.6% of our total funded loans, to the dental industry, including practice acquisition loans, dental equipment loans, and dental facility loans. We believe that these loans are well secured to credit worthy borrowers and are diversified geographically. However, to the extent that there is a decline in the dental practice in general, we may incur significant losses in our loan portfolio as a result of this concentration.

 

 

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Our operations are significantly affected by interest rate levels.

Our profitability is dependent to a large extent on our net interest income, which is the difference between interest income we earn as a result of interest paid to us on loans and investments and interest we pay to third parties such as our depositors and those from whom we borrow funds. Like most financial institutions, we are affected by changes in general interest rate levels, which are currently at record low levels, and by other economic factors beyond our control. Prolonged periods of unusually low interest rates may have an adverse effect on earnings by reducing the value of demand deposits, stockholders’ equity and fixed rate liabilities with rates higher than available earning assets. Interest rate risk can result from mismatches between the dollar amount of repricing or maturing assets and liabilities and from mismatches in the timing and rate at which our assets and liabilities reprice. Although we have implemented strategies which we believe reduce the potential effects of changes in interest rates on our results of operations, these strategies will not always be successful. In addition, any substantial and prolonged increase in market interest rates could reduce our customers’ desire to borrow money from us or adversely affect their ability to repay their outstanding loans by increasing their costs since most of our loans have adjustable interest rates that reset periodically. If our borrowers’ ability to repay is affected, our level of non-performing assets would increase and the amount of interest earned on loans will decrease, thereby having an adverse effect on operating results. Any of these events could adversely affect our results of operations or financial condition.

We face intense competition from a variety of competitors.

We face competition for deposits, loans, and other financial services from other community banks, regional banks, out-of-state and in-state national banks, savings banks, thrifts, credit unions and other financial institutions as well as other entities which provide financial services, including consumer finance companies, securities brokerage firms, insurance companies, mutual funds, and other lending sources and alternative investment providers. Some of these financial institutions and financial services organizations are not subject to the same degree of regulation as we are. We face increased competition due to the Gramm-Leach-Bliley Act, which allows insurance firms, securities firms, and other non-traditional financial companies to provide traditional banking services. The banking business in our target banking market and the surrounding areas has become increasingly competitive over the past several years, and we expect the level of competition to continue to increase. Many of these competitors have been in business for many years, have established customers, are larger, have substantially higher lending limits than we do, and are able to offer certain services that we do not provide. In addition, many of these entities have greater capital resources than we have, which among other things may allow them to price their services at levels more favorable to the customer or to provide larger credit facilities.

We believe that the Bank will be a successful competitor in the area’s financial services market. However, we cannot assure you that the Bank will be able to compete successfully with other financial institutions serving our target banking market. An inability to compete effectively could have a material adverse effect on the Bank’s growth and profitability.

We compete in an industry that continually experiences technological change, and we may not be able to compete effectively with other banking institutions with greater resources.

The banking industry continues to undergo rapid technological changes with frequent introduction of new technology-driven products and services. In addition to providing better service to customers, the effective use of technology increases efficiency and enables us to reduce costs. Our future success depends in part upon our ability to address the needs of our customers by using technology to provide products and services that will satisfy customer demands for convenience as well as to create additional operating efficiencies. Many of our competitors have substantially greater resources to invest in technological improvements. Such technology may permit competitors to perform certain functions at a lower cost than we can. We may not be able to effectively implement new technology-driven products and services or be successful in marketing these to our customers. Our inability to do so could have a material adverse effect on our ability to compete effectively in our market and also on our business, financial condition, and results of operations.

Our legal lending limits may impair our ability to attract borrowers and ability to compete with larger financial institutions.

Our per customer lending limit is approximately $1.9 million, subject to further reduction based on regulatory criteria. Accordingly, the size of loans which we can offer to potential customers is less than the size which many of our competitors with larger lending limits are able to offer. This limit has affected and will continue to affect our ability to seek relationships with larger businesses in our market area. We accommodate loans in excess of our lending limit through the sale of portions of such loans to other banks. However, we may not be successful in attracting or maintaining customers seeking larger loans or in selling portions of such larger loans on terms that are favorable to us.

An economic downturn, especially one affecting our primary service area, could diminish the quality of our loan portfolio, reduce our deposit base, and negatively affect our financial performance.

Adverse economic developments can impact the collectability of loans and the sustainability of our core deposits and may negatively impact our earnings and financial condition. In addition, the banking industry in general is affected by economic conditions such as inflation, recession, unemployment, and other factors beyond our control. A prolonged economic recession or other economic dislocation could cause increases in nonperforming assets and impair the values of real estate collateral, thereby causing operating losses, decreasing liquidity, and eroding capital. Factors that adversely affect the economy in our local banking market could reduce our deposit base and the demand for our products and services, which may decrease our earnings capability.

 

 

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Monetary policy and other economic factors could adversely affect the Bank’s profitability.

Our results of operations may be materially and adversely affected by changes in prevailing economic conditions, including declines in real estate market values, rapid changes in interest rates, and the monetary and fiscal policies of the federal government. Our profitability is partly a function of the spread between the interest rates earned on investments and loans and those paid on deposits. As with most banking institutions, our net interest spread is affected by general economic conditions and other factors that influence market interest rates and our ability to respond to changes in such rates. At any given time, our assets and liabilities may be affected differently by a given change in interest rates. As a result, an increase or decrease in rates could have a material adverse effect on our net income, capital and liquidity. While we take measures to reduce interest-rate risk, these measures may not adequately minimize exposure to interest-rate risk.

We are subject to extensive regulatory oversight, which could constrain our growth and profitability.

Banking organizations such as the Company and the Bank are subject to extensive federal and state regulation and supervision. Laws and regulations affecting financial institutions are undergoing continuous change, and we cannot predict the ultimate effect of these changes. We cannot assure you that any change in the regulatory structure or the applicable statutes and regulations will not materially and adversely affect the business, condition or operations of the Company or the Bank or benefit competing entities that are not subject to the same regulations and supervision.

Bank regulators have imposed various conditions, among other things, that: (1) the Company would not assume additional debt without prior approval by the Federal Reserve Board; (2) the Company and the Bank will remain well-capitalized at all times; (3) we will make appropriate filings with the regulatory agencies; and (4) the Bank will meet all regulatory requirements as set forth. The regulatory capital requirements imposed on the Bank could have the effect of constraining growth.

We are subject to extensive state and federal government supervision and regulations that impose substantial limitations with respect to loans, purchase of securities, payments of dividends, and many other aspects of the banking business. Regulators include the Comptroller, the Federal Reserve, and the FDIC. Applicable laws, regulations, interpretations, assessments and enforcement policies have been subject to significant and sometimes retroactively applied changes and may be subject to significant future changes.

Regulatory agencies are funded, in part, by assessments imposed upon banks. Additional assessments could occur in the future which could impact our financial condition. Many of these regulations are intended to protect depositors, the public, and the FDIC, not shareholders. Future legislation or government policy could adversely affect the banking industry, our operations, or shareholders. The burden imposed by federal and state regulations may place banks, in general, and us, specifically, at a competitive disadvantage compared to less regulated competitors. Federal economic and monetary policy may affect our ability to attract deposits, make loans, and achieve satisfactory operating results.

 

 

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Current adverse market conditions have resulted in a lack of liquidity and reduced business activity.

Dramatic declines in the housing market, with falling home prices and increasing foreclosures and unemployment have resulted in significant write-downs of asset values by financial institutions.  These write-downs have caused many financial institutions to seek additional capital, to merge with larger and stronger institutions and, in some cases, to fail.  To the extent a weak institution in our market merges with or is acquired by a stronger institution, the competition within the market may increase.  Reflecting concern about the stability of the financial markets generally and the strength of counterparties, many lenders and institutional investors have reduced, and in some cases, ceased to provide funding to borrowers including other financial institutions.  The willingness of other banks to lend to the Bank may be further reduced by the fact the Bank is new and has no established banking relationships.  Loans from other banks will be essential for the Bank to maintain liquidity and grow its loan portfolio.  The Bank anticipates having sufficient liquidity to fund its immediate growth and operations following its initial capitalization; however, a prolonged lack of available credit with resulting reduced business activity could materially adversely affect our business, financial condition and results of operations.

RISKS RELATED TO OUR COMMON STOCK

Our common stock is thinly traded and, therefore, you may have difficulty selling shares.

The Company’s common stock is traded on the Over-the-Counter Bulletin Board (“OTCBB”); however, we are unable to provide assurance that an active market will exist in the future or that shares can be liquidated without delay. The average daily trading volume in our stock was 426 in 2009.

We do not anticipate paying dividends for the foreseeable future.

We do not anticipate dividends will be paid on our common stock for the foreseeable future. The Company is largely dependent upon dividends paid by the Bank to provide funds to pay cash dividends if and when the board of directors may declare such dividends. No assurance can be given that future earnings will be sufficient to satisfy regulatory requirements and permit the legal payment of dividends to shareholders at any time in the future. Even if we could legally declare dividends, the amount and timing of such dividends would be at the discretion of our board of directors. The board may in its sole discretion decide not to declare dividends.

 

The market price of our common stock may be volatile.

The market price of our common stock is subject to fluctuations as a result of a variety of factors, including the following:

·

quarterly variations in our operating results or those of other banking institutions;

·

changes in national and regional economic conditions, financial markets or the banking industry; and

·

other developments affecting us or other financial institutions.

The trading volume of our common stock is limited, which may increase the volatility of the market price for our stock. In addition, the stock market has experienced significant price and volume fluctuations in recent years. This volatility has had a significant effect on the market prices of securities issued by many companies for reasons not necessarily related to the operating performance of these companies.

 

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Item 2.

Properties.

Our main office is located at 16000 Dallas Parkway, Dallas, Texas 75248. We occupy 4,357 square feet of the main lobby-accessed ground floor of a multi-story office building at that address. The lease for our main office began on January 1, 2004 and is for a term of 125 months.  We subsequently leased an additional 3,493 square feet on the second floor of the same building to house our trust and operations areas. The lease began on June 1, 2006, and is for a term of 64 months. The leases also call for the Bank to pay for a pro rata share of operating, tax and electric costs above a certain base amount. We also operate a branch office located at 8100 North Dallas Parkway, Plano, Texas, which is approximately 10 miles north of the main office. The branch office occupies 1,750 square feet in a two story, commercial building in a developed commercial center. The lease for our branch office began on December 1, 2003 and is for a term of 120 months. The lease rate increased on month 60. The lease also calls for the Bank to pay for a pro rata share of operating and tax costs above a certain base amount.   We also operate a loan production office located at 850 E Highway 114, Southlake, Texas, which is approximately 15 miles northwest of the main office. The loan production office occupies 2,245 square feet on the second floor of a two story, commercial building in a developed commercial center. The lease for our office began on February 1, 2007 and is for a term of 120 months. The lease rate is scheduled to increase on February 1, 2012. The lease also calls for the Bank to pay for a pro rata share of operating and tax costs above a certain base amount. Management believes that the principal terms of the leases are consistent with prevailing market terms and conditions and that these facilities are in good condition and adequate to meet our current needs.

 

Item 3.

Legal Proceedings.

The Bank is involved, from time to time, as plaintiff or defendant in various legal actions arising in the normal course of its business. Based on the information presently available, management believes that the ultimate outcome in such proceedings, in the aggregate, will not have a material adverse effect on the business’s financial condition or results of operations of the Company on a consolidated basis.  On April 15, 2010, the Bank settled a threatened enforcement action by the Comptroller.  See “Management’s Discussion and Analysis of Financial Condition and Results of Operation - Recent Developments - Regulatory Action.”

 

Item 4.

[Removed and Reserved]

 

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PART II

 

Item 5.

Market for Registrant’s Common Equity and Related Shareholder Matters and Issuer Purchases of Equity Securities.

Market Information

Our common stock has been quoted on the OTCBB under the symbol “TBNC.OB” since June 2007 and “FMPX.OB” from November 2004 to June 2007. The table below gives the high and low bid information for the last two fiscal years. The bid information in the table was obtained from the OTCBB and reflects inter-dealer prices, without retail mark-up, mark-down or commission, and may not represent actual transactions. There may have been other transactions in our common stock of which we are not aware.

		High				Low
2009
Fourth Quarter		$	5.38			$	4.55
Third Quarter		$	5.80			$	3.75
Second Quarter		$	6.00			$	3.00
First Quarter		$	7.25			$	3.50
2008
Fourth Quarter		$	7.50			$	4.50
Third Quarter		$	9.50			$	5.07
Second Quarter		$	9.50			$	7.70
First Quarter		$	10.25			$	7.05

On March 31, 2010 we had 360 holders of record of our common stock.

Dividends

It is the policy of our board of directors to reinvest earnings for such period of time as is necessary to ensure our successful operations. There are no current plans to initiate payment of cash dividends, and future dividends will depend on our earnings, capital and regulatory requirements, financial condition, and other factors considered relevant by our board of directors. In addition, we are subject to regulatory restrictions on our payment of dividends. For more information regarding the Company’s ability to pay dividends, please refer to the “ Supervision and Regulation  ” section under Item 1.

Securities Authorized for Issuance Under Equity Compensation Plans

Equity Compensation Plan Information

Plan Category		Number of securities to be issued upon exercise of outstanding options, warrants, and rights (a)				Weighted average exercise price of outstanding options, warrants, and rights (b)				Number of securities remaining available for future issuance under equity compensation plans (excluding securities reflected in (a))
Equity compensation plans approved by security holders			260,000			$	10.03				53,500

 

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Item 8.

Financial Statements and Supplementary Data

 

INDEX TO FINANCIAL STATEMENTS

 

	Page
REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM	41
FINANCIAL STATEMENTS
Consolidated Balance Sheets	42
Consolidated Statements of Operations	43
Consolidated Statements of Changes in Stockholders’ Equity	44
Consolidated Statements of Cash Flows	45
Notes to Consolidated Financial Statements	46

 

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REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM

 

To the Board of Directors and

Shareholders

We have audited the accompanying consolidated balance sheets of T Bancshares, Inc. (the Company) as of December 31, 2009 and 2008, and the related consolidated statements of operations, changes in stockholders’ equity and cash flows for the years then ended. These consolidated financial statements are the responsibility of the Company’s management. Our responsibility is to express an opinion on these consolidated financial statements based on our audits.

 

We conducted our audits in accordance with the standards of the Public Company Accounting Oversight Board (United States). Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the consolidated financial statements are free of material misstatement. The Company is not required to have, nor were we engaged to perform, an audit of its internal control over financial reporting. Our audit included consideration of internal control over financial reporting as a basis for designing audit procedures that are appropriate in the circumstances, but not for the purpose of expressing an opinion on the effectiveness of the Company’s internal control over financial reporting. Accordingly, we express no such opinion. An audit also includes examining, on a test basis, evidence supporting the amounts and disclosures in the consolidated financial statements, assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall financial statement presentation. We believe that our audits provide a reasonable basis for our opinion.

 

In our opinion, the consolidated financial statements referred to above present fairly, in all material respects, the consolidated financial position of T Bancshares, Inc. as of December 31, 2009 and 2008, and the consolidated results of their operations and their cash flows for the years then ended in conformity with accounting principles generally accepted in the United States of America.

 

/s/ WEAVER AND TIDWELL, L.L.P.

Fort Worth, Texas

April 15, 2010

 

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T BANCSHARES, INC.

CONSOLIDATED BALANCE SHEETS

DECEMBER 31, 2009 and 2008

(000's)		2009				2008
ASSETS
Cash and due from banks		$	1,216			$	1,002
Interest-bearing deposits			5,526				240
Federal funds sold			550				7,215
Total cash and cash equivalents			7,292				8,457
Securities available for sale at estimated fair value			4,005				-
Securities held to maturity at amortized cost			801				981
Securities, restricted at cost			1,281				722
Loans, net of allowance for loan losses of $1,713 and $1,638, respectively			121,419				123,393
Bank premises and equipment, net			793				1,169
Other real estate owned			1,616				-
Other assets			2,204				1,528
Total assets		$	139,411			$	136,250
LIABILITIES
Demand Deposits:
Noninterest-bearing		$	9,428			$	10,077
Interest-bearing			36,157				42,407
Time deposits $100,000 and over			46,034				37,240
Other time deposits			16,506				21,372
Total deposits			108,125				111,096
Borrowed funds			16,000				10,500
Other liabilities			3,695				860
Total liabilities			127,820				122,456
SHAREHOLDERS’ EQUITY
Common Stock, $ .01 par value; 10,000,000 shares authorized; 1,941,305 shares issued and outstanding			19				17
Additional paid-in capital			18,537				16,915
Retained deficit			(6,982	)			(3,138	)
Accumulated other comprehensive income			17				-
Total shareholders' equity			11,591				13,794
Total liabilities and shareholders' equity		$	139,411			$	136,250

See accompanying notes to consolidated financial statements

 

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T BANCSHARES, INC.

CONSOLIDATED STATEMENTS OF OPERATIONS

YEARS ENDED DECEMBER 31, 2009 and 2008

(000's), except per share amounts		2009				2008
Interest Income
Loan, including fees		$	8,239			$	9,502
Securities			139				59
Federal funds sold			114				285
Interest-bearing deposits			6				-
Total interest income			8,498				9,846
Interest Expense
Deposits			3,291				4,926
Borrowed funds			49				3
Total interest expense			3,340				4,929
Net interest income			5,158				4,917
Provision for loan losses			1,370				417
Net interest income after provision for loan losses			3,788				4,500
Noninterest Income
Trust income			6,846				9,718
Service fees			116				203
Total noninterest income			6,962				9,921
Noninterest Expense
Salaries and employee benefits			3,077				3,068
Occupancy and equipment			1,285				1,197
Trust expenses			5,809				8,507
Professional fees			640				597
Data processing			268				521
Other			3,515				959
Total noninterest expense			14,594				14,849
Net Loss		$	(3,844	)		$	(428	)
Loss per common share:
Basic			(1.99	)			(0.25	)
Diluted			(1.99	)			(0.25	)
Weighted average common shares outstanding			1,936,099				1,703,801
Weighted average diluted shares outstanding			1,936,099				1,703,801

See accompanying notes to consolidated financial statements

 

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T BANCSHARES, INC.

CONSOLIDATED STATEMENTS OF CHANGES IN STOCKHOLDERS' EQUITY

YEARS ENDED DECEMBER 31, 2009 and 2008

(000's)		Common Stock				Additional Paid-in Capital				Retained Deficit				Accumulated Other Comprehensive Income				Total
BALANCE, December 31, 2007		$	17			$	16,819			$	(2,710	)		$	-			$	14,126
Comprehensive loss:
Net loss — YTD											(428	)							(428	)
Total comprehensive loss																			(428	)
Stock based compensation							96												96
BALANCE, December 31, 2008		$	17			$	16,915			$	(3,138	)		$	-			$	13,794
Comprehensive loss:
Net loss — YTD											(3,844	)							(3,844	)
Change in accumulated gain on securities available for sale															17				17
Total comprehensive loss																			(3,827	)
Net proceeds from rights offering			2				1,519												1,521
Stock based compensation							103												103
BALANCE, December 31, 2009		$	19			$	18,537			$	(6,982	)		$	17			$	11,591

See accompanying notes to consolidated financial statements

 

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T BANCSHARES, INC.

CONSOLIDATED STATEMENT OF CASH FLOWS

YEARS ENDED DECEMBER 31, 2009 and 2008

(000's)		2009				2008
Cash Flows from Operating Activities
Net loss		$	(3,844	)		$	(428	)
Adjustments to reconcile net (loss) income to net cash provided by operating activities:
Provision for loan losses			1,370				417
Depreciation and amortization			458				466
Securities premium amortization (discount accretion), net			57				(15	)
Gain on sale of real estate			(1	)			-
Stock based compensation			103				96
Change in operating assets and liabilities:
Other assets			(676	)			(347	)
Other liabilities			2,835				381
Net cash provided by operating activities			302				570
Cash Flows from Investing Activities
Purchase of securities held to maturity			-				(3,003	)
Proceeds from principal payments and maturities of securities held to maturity			180				3,000
Purchase of securities available for sale			(56,685	)			(50,000	)
Proceeds from principal payments, calls and maturities of securities available for sale			2,640				29
Proceeds from sale of securities available for sale			50,000				50,000
Purchase of securities, restricted			(984	)			(223	)
Proceeds from sale of securities, restricted			425				-
Net change in loans			(1,388	)			(3,886	)
Proceeds from sale of other real estate			377				-
Purchases of premises and equipment			(82	)			(34	)
Net cash used in investing activities			(5,517	)			(4,117	)
Cash Flows from Financing Activities
Net change in demand deposits			(6,899	)			(13,707	)
Net change in time deposits			3,928				(8,107	)
Proceeds from borrowed funds			236,517				10,500
Repayment of borrowed funds			(231,017	)			(242	)
Net proceeds from rights offering			1,521				-
Net cash (used in) provided by financing activities			4,050				(11,556	)
Net change in cash and cash equivalents			(1,165	)			(15,103	)
Cash and cash equivalents at beginning of period			8,457				23,560
Cash and cash equivalents at end of period		$	7,292			$	8,457
Supplemental disclosures of cash flow information
Cash paid during the period for
Interest		$	3,316			$	4,958
Income taxes		$	-			$	-
Non-cash transactions:
Transfers from loans to other real estate owned		$	1,992			$	-

See accompanying notes to consolidated financial statements

 

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NOTE 1. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES

 

Organization and Nature of Operations

 

T Bancshares, Inc. (the “Company”) is a bank holding company headquartered in Dallas, Texas. The consolidated financial statements include the accounts of T Bancshares, Inc. and its wholly owned subsidiary, T Bank, N.A. (the “Bank”). The Company’s financial condition and operating results principally reflect those of the Bank. All intercompany transactions and balances are eliminated in consolidation.

 

The Bank provides a full range of banking services to individuals and corporate customers with two banking facilities serving North Dallas, Addison, Plano, Frisco and surrounding area communities. Additionally, the Bank maintains a loan production office in Southlake. The Bank’s primary business segment is community banking and consists of attracting deposits from the general public and using such deposits and other sources of funds to originate commercial business loans, commercial real estate loans, and a variety of consumer loans. At December 31, 2009, the Bank’s loan portfolio consisted of approximately $77.0 million, or 62.6% of the loan portfolio, in loans to dentists and dental practices. Substantially all loans are secured by specific collateral, including business assets, consumer assets, and commercial real estate.

 

The Bank also offers traditional fiduciary services primarily to clients of Cain Watters & Associates P.C. The Bank, Cain Watters & Associates P.C., and III:I Financial Management Research, L.P. have entered into an advisory services agreement related to the trust operations.

 

Use of Estimates

 

The preparation of financial statements in conformity with U.S. generally accepted accounting principles requires management to make estimates and assumptions that affect the reported amount of assets, liabilities and disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenue and expense during the reporting period, as well as the disclosures provided. Changes in assumptions or in market conditions could significantly affect the estimates. The determination of the allowance for loan losses, the fair value of stock options, the fair values of financial instruments and other real estate owned, and the status of contingencies are particularly susceptible to significant change in recorded amounts.

 

Cash and Cash Equivalents

 

The Company maintains its cash in bank deposit accounts, which, at times, may exceed federally insured limits. The Company has not experienced any losses in such accounts and does not believe it is exposed to significant credit risk on cash and cash equivalents.

 

For purposes of the consolidated statements of cash flows, cash and cash equivalents include cash on hand, deposits with other financial institutions, and federal funds sold. Net cash flows are reported for customer loan and deposit transactions.

 

Trust Assets

 

Property held for customers in a fiduciary capacity, other than trust cash on deposit at the Bank, is not included in the accompanying consolidated financial statements since such items are not assets of the Company.

 

Securities

 

Debt securities are classified as held to maturity and carried at amortized cost when management has the positive intent and ability to hold them until maturity. Securities to be held for indefinite periods of time are classified as available for sale and carried at fair value, with the unrealized holding gains and losses reported as a component of other comprehensive income, net of tax. Securities held for resale in anticipation of short-term market movements are classified as trading and are carried at fair value, with changes in unrealized holding gains and losses included in income. Management determines the appropriate classification of securities at the time of purchase. Securities with limited marketability, such as stock in the Federal Reserve Bank and the Federal Home Loan Bank, are carried at cost.

 

Interest income includes amortization of purchase premiums and accretion of purchase discounts. Premiums and discounts on securities are amortized on the level-yield method without anticipating prepayments. Gains and losses are recorded on the trade date and determined using the specific identification method. Declines in the fair value of held-to-maturity and available-for-sale securities below their cost that are deemed to be other than temporary are reflected in earnings as realized losses. In estimating other-than-temporary impairment losses, management considers, among other things, (i) the length of time and the extent to which the fair value has been less than cost, (ii) the financial condition and near-term prospects of the issuer, and (iii) the intent and ability of the Company to retain its investment in the issuer for a period of time sufficient to allow for any anticipated recovery in fair value.

 

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The Bank has investments in stock of the Federal Reserve System and the Federal Home Loan Bank as is required for participation in the services offered. These investments are classified as restricted and are recorded at cost.

 

Loans

 

Loans that management has the intent and ability to hold for the foreseeable future or until maturity or payoff are reported at the principal balance outstanding, net of unearned interest, deferred loan fees, and allowance for loan losses. Interest income is accrued on the unpaid principal balance. Loan origination fees are deferred and recognized in interest income using the level-yield method without anticipating prepayments.

 

Interest income on commercial business and commercial real estate loans is discontinued when the loan becomes 90 days delinquent unless the credit is well secured and in process of collection. Unsecured consumer loans are generally charged off when the loan becomes 90 days past due. Consumer loans secured by collateral other than real estate are charged off after a review of all factors affecting the ability to collect on the loan, including the borrower’s history, overall financial condition, resources, guarantor support, and the realizable value of any collateral. However, any consumer loan past 180 days is charged off. Past due status is based on the contractual terms of the loan. In all cases, loans are placed on nonaccrual or charged off at an earlier date if collection of principal or interest is considered doubtful.

All interest accrued but not received for loans placed on nonaccrual are reversed against interest income. Interest received on such loans is accounted for on a cash-basis or cost-recovery method, until qualifying for return to accrual basis. Loans are returned to accrual status when all the principal and interest amounts contractually due are brought current and future payments are reasonably assured.

 

Allowance for Loan Losses

 

The allowance for loan losses is a valuation allowance for probable incurred credit losses, increased by the provision for loan losses and decreased by charge-offs less recoveries. Management estimates the allowance balance required by considering the collectability of loans based on historical experience and the borrowers ability to repay, the nature and volume of the portfolio, information about specific borrower situations and the estimated value of any underlying collateral, economic conditions and other factors.

 

The allowance consists of general and specific reserves. The specific component relates to loans that are individually evaluated and determined to be impaired. This evaluation is often based on significant estimates and assumptions due to the level of subjectivity and judgment necessary to account for highly uncertain matters of the susceptibility of such matters to change. The general component relates to the entire group of loans that are evaluated in the aggregate based primarily on industry historical loss experience adjusted for current economic factors. To the extent actual loan losses differ materially from management’s estimate of these subjective factors, loan growth/run-off accelerates, or the mix of loan types changes, the level of the provision for loan loss, and related allowance can, and will, fluctuate.

 

A loan is considered impaired when, based on current information and events, it is probable that the Company will be unable to collect the scheduled payments of principal or interest when due according to the contractual terms of the loan agreement. Factors considered by management in determining impairment include payment status, collateral value, and the probability of collecting scheduled principal and interest payments when due.

Bank Premises and Equipment

 

Bank premises and equipment are stated at cost less accumulated depreciation. Buildings and related components are depreciated using the straight-line method with useful lives ranging from 5 to 40 years. Furniture, fixtures and equipment are depreciated using the straight-line method with useful lives ranging from 3 to 10 years. Leasehold improvements are depreciated over the lease term or estimated life, whichever is shorter. Repair and maintenance costs are expensed as incurred.

 

Stock Based Compensation

Effective January 1, 2006, the Company adopted FASB ASC Topic 718 using the modified-prospective-transition method. Under this method, prior periods are not restated. Also, under this transition method, stock compensation cost recognized beginning January 1, 2006 includes: (a) compensation cost for all share-based payments granted prior to, but not yet vested as of January 1, 2006, based on the grant-date estimated fair value, and (b) compensation cost for all share-based payments granted on or subsequent to January 1, 2006, based on the grant-date fair value estimated in accordance with the provisions of FASB ASC Topic 718.

 

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As a result of applying FASB ASC Topic 718, the Company recorded $103,000 and $96,000 in compensation expense for the years ended December 31, 2009 and December 31, 2008, respectively, in connection with the Stock Incentive Plan. This amount is not reduced by related deferred tax assets since all deferred tax assets are impaired as of December 31, 2009 (see Note 10). As of December 31, 2009 there was $149,000 of total unrecognized compensation cost related to non-vested equity-based compensation awards expected to vest.

 

Income Taxes

 

The Company accounts for income taxes utilizing the asset and liability method. Under this method, deferred tax assets and liabilities are recognized for future tax consequences attributable to differences between the financial statement carrying amounts of existing assets and liabilities and their respective tax bases. Deferred tax assets and liabilities are measured using the enacted tax rates expected to apply to taxable income in the years in which those temporary differences are expected to be recovered or settled. The effect on deferred tax assets and liabilities of a change in tax rates is recognized in income in the period that includes the enactment date.

 

The Company has provided a 100% valuation allowance for its net deferred tax asset due to the Company’s net operating loss carry-forward of approximately $1.8 million as of December 31, 2009. 

The Company accounts for uncertainties in income taxes in accordance with current accounting guidance which prescribes a recognition threshold and a measurement attribute for the financial statement recognition and measurement of a tax position taken or expected to be taken in a tax return.  Benefits from tax positions should be recognized in the financial statements only when it is more likely than not that the tax position will be sustained upon examination by the appropriate taxing authority that would have full knowledge of all relevant information. A tax position that meets the more-likely-than-not recognition threshold is measured at the largest amount of cumulative benefit that is greater than fifty percent likely of being realized upon ultimate settlement. Tax positions that previously failed to meet the more-likely-than-not recognition threshold should be recognized in the first subsequent financial reporting period in which that threshold is met. Previously recognized tax positions that no longer meet the more-likely-than-not recognition threshold should be derecognized in the first subsequent financial reporting period in which that threshold is no longer met. No uncertain tax positions have been recognized.

The Company files income tax returns in the U.S. federal jurisdiction and the Texas state jurisdiction. The Company is no longer subject to U.S. federal income tax examinations by tax authorities for years before 2006.

Earnings Per Share

 

Basic earnings per share are computed by dividing net income applicable to common shareholders by the weighted average number of common shares outstanding. Diluted earnings per share are computed by dividing net income by the weighted average number of shares of common stock and common stock equivalents. Common stock equivalents consist of stock options and warrants and are computed using the treasury stock method.

 

The Company reported a net loss for the year ended December 31, 2009. The dilutive effect of 195,500 outstanding options and 96,750 outstanding warrants for the year ended December 31, 2009, is not considered in the per share calculations for these periods as the impact would have been anti-dilutive.

 

Comprehensive Income

 

Comprehensive income consists of net income and other comprehensive income. Other comprehensive income includes net unrealized gains and losses on available for sale securities, which are recognized as a separate component of equity.  Accumulated comprehensive income (loss), net for the year ended December 31, 2009 and 2008 is reported in the accompanying consolidated statements of changes in stockholders’ equity.

 

Loss Contingencies

 

Loss contingencies, including claims and legal actions arising in the ordinary course of business, are recorded as liabilities when the likelihood of loss is probable and an amount or range of loss can be reasonably estimated.

 

Fair Value of Financial Instruments

 

Fair values of financial instruments are estimated using relevant market information and other assumptions, as more fully disclosed in a separate note. Fair value estimates involve uncertainties and matters of significant judgment regarding interest rates, credit risk, prepayments, and other factors, especially in the absence of broad markets for particular items. Changes in assumptions or in market conditions could significantly affect the estimates.

 

Operating Segments

 

While the chief decision makers monitor the revenue streams of the various products and services, operations are managed and financial performance is evaluated on a Company-wide basis. Accordingly, all of the financial service operations are considered by management to be aggregated into one reportable operating segment.

 

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Recent Accounting Pronouncements

Accounting Standards Codification. The Financial Accounting Standards Board’s (FASB) Accounting Standards Codification (ASC) became effective on July 1, 2009. At that date, the ASC became FASB’s officially recognized source of authoritative U.S. generally accepted accounting principles (GAAP) applicable to all public and non-public non-governmental entities, superseding existing FASB, American Institute of Certified Public Accountants (AICPA), Emerging Issues Task Force (EITF) and related literature. Rules and interpretive releases of the SEC under the authority of federal securities laws are also sources of authoritative GAAP for SEC registrants. All other accounting literature is considered non-authoritative. The switch to the ASC affects the away companies refer to U.S. GAAP in financial statements and accounting policies. Citing particular content in the ASC involves specifying the unique numeric path to the content through the Topic, Subtopic, Section and Paragraph structure.

 

FASB ASC Topic 820, “Fair Value Measurements and Disclosures.” New authoritative accounting guidance under ASC Topic 820,”Fair Value Measurements and Disclosures,” affirms that the objective of fair value when the market for an asset is not active is the price that would be received to sell the asset in an orderly transaction, and clarifies and includes additional factors for determining whether there has been a significant decrease in market activity for an asset when the market for that asset is not active. ASC Topic 820 requires an entity to base its conclusion about whether a transaction was not orderly on the weight of the evidence. The new accounting guidance amended prior guidance to expand certain disclosure requirements. The Company adopted the new authoritative accounting guidance under ASC Topic 820 during the first quarter of 2009. Adoption of the new guidance did not significantly impact the Company’s financial statements, except that expanded disclosure has been made as reflected in Note 15.

Further new authoritative accounting guidance (Accounting Standards Update No. 2009-5) under ASC Topic 820 provides guidance for measuring the fair value of a liability in circumstances in which a quoted price in an active market for the identical liability is not available. In such instances, a reporting entity is required to measure fair value utilizing a valuation technique that uses (i) the quoted price of the identical liability when traded as an asset, (ii) quoted prices for similar liabilities or similar liabilities when traded as assets, or (iii) another valuation technique that is consistent with the existing principles of ASC Topic 820, such as an income approach or market approach. The new authoritative accounting guidance also clarifies that when estimating the fair value of a liability, a reporting entity is not required to include a separate input or adjustment to other inputs relating to the existence of a restriction that prevents the transfer of the liability. The forgoing new authoritative accounting guidance under ASC Topic 820 became effective for the Company’s financial statements for periods ending after October 1, 2009 and did not have a significant impact on the Company’s financial statements.

FASB ASC Topic 825 “Financial Instruments.” New authoritative accounting guidance under ASC Topic 825,”Financial Instruments,” requires an entity to provide disclosures about the fair value of financial instruments in interim financial information and amends prior guidance to require those disclosures in summarized financial information at interim reporting periods. The new interim disclosures required under Topic 825 are included in Note 15 - Fair Value Measurements.

 

FASB ASC Topic 855, “Subsequent Events.” New authoritative accounting guidance under ASC Topic 855, “Subsequent Events,” establishes general standards of accounting for and disclosure of events that occur after the balance sheet date but before financial statements are issued or available to be issued. Subsequently, ASU 2010-09 “Amendments to Certain Recognition and Disclosure Requirements” was issued.  This guidance, as amended, defines (i) the period after the balance sheet date during which a reporting entity’s management should evaluate events or transactions that may occur for potential recognition or disclosure in the financial statements, (ii) the circumstances under which an entity should recognize events or transactions occurring after the balance sheet date in its financial statements, and (iii) the disclosures an entity should make about events or transactions that occurred after the balance sheet date. The new authoritative accounting guidance under ASC Topic 855 became effective for the Corporation’s financial statements for periods ending after June 15, 2009.  ASU 2010-09 was adopted upon issuance.  Adoption did not have a significant impact on the Corporation’s financial statements. 

 

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NOTE 2. SECURITIES

 

Year-end securities held to maturity and available for sale consisted of the following:

 

		December 31, 2009
(000's)		Amortized Cost				Gross Unrealized Gains				Gross Unrealized Losses				Estimated Fair Value
Securities Available for Sale:
U.S. Government Agencies		$	3,988			$	20			$	3			$	4,005
Securities Held to Maturity:
U.S. Government Agencies		$	801			$	29			$	-			$	830
Securities, restricted
Other		$	1,281			$	-			$	-			$	1,281

 

		December 31, 2008
(000's)		Amortized Cost				Unrealized Gains				Unrealized Losses				Estimated Fair Value
Securities Held to Maturity:
U.S. Government Agencies		$	981			$	31			$	-			$	1,012
Securities, restricted:
Other		$	722			$	-			$	-			$	722

Securities, restricted consists of Federal Reserve Bank stock and Federal Home Loan Bank stock and are carried at cost.

Securities with a carrying value of $601,000 and $981,000 at December 31, 2009 and 2008 were pledged to the Company’s trust department.  Securities with a carrying value of $4.2 million at December 31, 2009 were pledged to secure borrowings at the Federal Home Loan Bank in Dallas.  No securities were pledged to secure borrowings at December 31, 2008.

The amortized cost and estimated fair value of securities, excluding trading securities, at December 31, 2009 are presented below by contractual maturity. Expected maturities may differ from contractual maturities because issuers may have the right to call or prepay obligations.

Management has the ability and intent to hold the securities classified as held to maturity in the table above until they mature, at which time the Company will receive full value for the securities. Furthermore, as of December 31, 2009, management does not have the intent to sell any of the securities classified as available for sale in the table above and believes that it is more likely than not that the Company will not have to sell any such securities before a recovery of cost. Management does not believe any of the securities are impaired due to reasons of credit quality.

		Held to Maturity								Available for Sale
(000's)		Amortized Cost				Estimated Fair Value				Amortized Cost				Estimated Fair Value
Due in one year or less		$				$				$	1,002			$	1,003
Due after one year through five years:											1,000				1,003
Due after five years through ten years			-				-				-				-
Due after ten years
Mortgage-backed securities			801				830				1,986				1,999
Total		$	801			$	830			$	3,988			$	4,005

NOTE 3. LOANS

 

Major classifications of loans are as follows:

(000's)		December 31, 2009				December 31, 2008
Commercial and industrial		$	88,920			$	81,342
Consumer installment			1,852				3,799
Real estate — mortgage			25,464				20,543
Real estate — construction			7,045				19,481
Other			2				12
			123,283				125,177
Less allowance for loan losses			1,713				1,638
Less deferred loan fees			151				146
Net loans		$	121,419			$	123,393

 

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The change in the allowance for loan losses is as follows:

(000's)		December 31, 2009				December 31, 2008
Balance at beginning of period		$	1,638			$	1,600
Provision charged to operations			1,369				417
Loans charged off			1,303				451
Recoveries of loans previously charged off			9				72
Balance at end of period		$	1,713			$	1,638

 

		December 31,				December 31,
(000's)		2009				2008
Impaired loans were as follows:
Year end loans with allowance allocated		$	1,426			$	409
Year end loans with no allowance allocated			3,637				-
Impaired loans			5,063				409
Amount of allowance allocated			180				53
Average of impaired loans during the year			4,392				268
Interest income recognized during impairment			121				-
Loans past due 90 days still on accrual			-				1,328
Non-accrual loans			3,788				3,253
Total non-performing loans		$	3,788			$	4,581

 

NOTE 4. BANK PREMISES AND EQUIPMENT

 

Year-end premises and equipment were as follows:

 

(000's)		December 31, 2009				December 31, 2008
Leasehold improvements		$	929			$	929
Furniture and equipment			1,876				1,794
			2,805				2,723
Less: accumulated depreciation			2,012				1,554
Balance at end of period		$	793			$	1,169

 

Depreciation expense, including amortization of leasehold improvements, was $458,000 and $466,000 for the years ended December 31, 2009 and 2008, respectively.

 

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NOTE 5. OTHER ASSETS

 

Other assets, including accrued interest receivable, as of December 31, 2009 and 2008, were as follows:

 

(000's)		December 31, 2009				December 31, 2008
Prepaid assets			1,136				267
Accounts receivable – trust fees			640				509
Accrued interest receivable			397				472
Capitalized rights offering costs			-				242
Other			31				38
Total		$	2,204			$	1,528

NOTE 6. DEPOSITS

 

Deposits at December 31, 2009 and 2008 are summarized as follows:

(000's)		December 31, 2009								December 31, 2008
Noninterest bearing demand		$	9,428				9	%		$	10,077				9	%
Interest bearing demand (NOW)			1,960				2	%			1,899				2	%
Money market accounts			34,006				31	%			40,333				36	%
Savings accounts			191				0	%			175				0	%
Certificates of deposit, less than $100,000			16,506				15	%			21,372				19	%
Certificates of deposit, greater than $100,000			46,034				43	%			37,240				34	%
Total		$	108,125				100	%		$	111,096				100	%

At December 31, 2009, the scheduled maturities of certificates of deposit were as follows:

2010			27,915
2011			22,960
2012			9,805
2013			1,549
2014			311
Total		$	62,540

 

NOTE 7. BORROWED FUNDS

 

Borrowed funds as of December 31, 2009 and December 31, 2008, were as follows:

(000's)		December 31, 2009				December 31, 2008
Federal Home Loan Bank		$	16,000			$	-
Federal Reserve Bank			-				10,500
		$	16,000			$	10,500

 

At December 31, 2009, borrowed funds consisted of a $3.0 million advance and a $13.0 million advance from the Federal Home Loan Bank. The loans have a term of 1 year and 7 days and mature on October 28, 2010 and January 7, 2010, respectively. The interest rates for the loans are fixed at 0.47% and 0.10%. The Company has a $22.7 million credit line with the Federal Reserve Bank, secured by $39.6 million in pledged commercial and industrial loans, and an $18.3 million credit line with the Federal Home Loan Bank, secured by $14.1 million in pledged real estate loans and $4.2 million in pledged securities.

 

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NOTE 8. OTHER LIABILITIES

 

Other liabilities as of December 31, 2009 and December 31, 2008, were as follows:

 

(000's)		December 31, 2009				December 31, 2008
Reserve for OCC Settlement		$	2,685			$	-
Trust Advisor Fees Payable			522				453
Interest Payable			101				125
Incentive Compensation			51				67
Audit Fees			38				97
Franchise & Property Taxes			37				37
Legal			28				-
Other Accruals			233				81
		$	3,695			$	860

 

NOTE 9. BENEFIT PLANS

 

The Company funds certain costs for medical benefits in amounts determined at the discretion of management. In 2007, the Company implemented a 401K plan, which provides for contributions by employees. As of December 31, 2009, the Company had no plans to match employee contributions.

 

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NOTE 10. INCOME TAXES

 

The provision (benefit) for income taxes consists of the following:

 

(000s)		2009				2008
Income tax expense (benefit) was as follows:
Current federal taxable income		$	-			$	-
NOL utilized			-				-
Total current taxes due			-				-
Deferred federal tax provision (benefit)			1,296				24
Valuation allowance			(1,296	)			(24	)
		$	-			$	-

 

The effective tax rate differs from the U. S. statutory tax rate due to the following for 2009 and 2008:

 

U.S. statutory rate			34.0	%
Valuation Allowance			-34.0	%
Effective tax rate			0.0	%

 

The tax effects of temporary differences that give rise to significant portions of the deferred tax assets and deferred tax liabilities as of December 31 are as follows:

 

(000s)		2009				2008
Deferred tax assets:
Organizational costs		$	-			$	66
Stock-based compensation			114				80
Allowance for loan losses			583				557
FAS91 fees			51				50
Accrued liabilities			913				-
Net operating loss carryforward			599				258
Total deferred tax asset			2,260				1,011
Deferred tax liabilities:
Depreciation and amortization			(70	)			(117	)
			2,190				894
Less valuation allowance for net deferred tax asset			(2,190	)			(894	)
		$	-			$	-

 

Management has provided a 100% valuation allowance for its net deferred tax asset. For year ended December 31, 2009, the Company had a taxable loss of $1.0 million, which increased the net tax operating loss carry-forward to $1.8 million.  The net operating loss carry-forward will fully expire in 2029 if not used. For year ended December 31, 2008, the Company produced taxable loss of $453,000.

Projections for continued levels of profitability will be reviewed quarterly and any necessary adjustments to the deferred tax assets will be recognized in the provision or benefit for income taxes. In assessing the realizability of deferred tax assets, management considers whether it is more likely than not that some portion or all of the deferred tax assets will not be realized. The realization of deferred tax assets is dependent upon the generation of future taxable income during the periods in which those temporary differences become deductible. At December 31, 2009, management believes it is more likely than not that the Company will not realize the benefits of those deductible differences.

 

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NOTE 11. STOCK OPTIONS AND WARRANTS

 

The shareholders of the Company approved the 2005 Stock Incentive Plan (“Plan”) at the annual shareholder meeting held on June 2, 2005. The plan authorizes the granting of options to purchase up to 260,000 shares of common stock of the company to employees of the Company and its subsidiaries. The Plan is designed to provide the Company with the flexibility to grant incentive stock options and non-qualified stock options to its executive and other officers. The purpose of the Plan is to provide increased incentive for key employees to render services and to exert maximum effort for the success of the Company.

The Plan is administered by the Board of Directors and has a term of 10 years. Any award that expires or is forfeited is returned to the Plan.  Stock options are granted under the Plan with an exercise price equal to or greater than the stock fair market value at the date of grant. All stock options granted have ten-year lives with vesting terms of five years.

The fair value of each option award is estimated on the date of grant using a closed form option valuation (Black-Scholes) model. Expected volatilities are based on historical volatility of the Company’s stock. The risk-free rate for the period within the contractual life of the stock option is based upon the five year Treasury rate at the date of grant.

As of December 31, 2009 and December 31, 2008, options to purchase a total of 195,500 and 205,500 had been issued with an average exercise price of $10.03 and $9.87, respectively. These options vest through September 2013.

 

Effective January 1, 2006, the Company adopted FASB ASC Topic 718 using the modified-prospective-transition method. Under this method, prior periods are not restated. Also, under this transition method, stock compensation cost recognized beginning January 1, 2006 includes: (a) compensation cost for all share-based payments granted prior to, but not yet vested as of January 1, 2006, based on the grant-date estimated fair value, and (b) compensation cost for all share-based payments granted on or subsequent to January 1, 2006, based on the grant-date fair value estimated in accordance with the provisions of FASB ASC Topic 718.

The following is a summary of activity in the Company’s Stock Incentive Plan for 2009 and 2008:

 

		2009								2008
		Number of Shares Underlying Options				Weighted Average Exercise Prices				Number of Shares Underlying Options				Weighted Average Exercise Prices
Outstanding at beginning of the year			205,500			$	9.87				196,000			$	10.44
Granted			-				-				32,000				6.53
Exercised			-				-				-				-
Expired / forfeited			10,000				6.75				22,500				10.06
Outstanding at end of period			195,500			$	10.03				205,500			$	9.87
Exercisable at end of period			155,900			$	10.13				116,800			$	10.16
Available for grant at end of period			53,500								43,500

 

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		2009								2008
		Shares				Weighted Average Grant Date Fair Value				Shares				Weighted Average Grant Date Fair Value
Nonvested at January 1			88,700			$	2.78				101,900			$	2.93
Granted			-				-				32,000				1.96
Vested			39,100				2.37				34,700				2.58
Forfeited			10,000				2.01				10,500				2.54
Nonvested at December 31			39,600			$	3.24				88,700			$	2.78

 

There were no options granted during 2009. The weighted average grant date fair value per option granted during 2008 was $1.96. The Company has 53,500 options available for grant at December 31, 2009. As of December 31, 2009 approximately $149,000 of total unrecognized compensation cost related to non-vested share based compensation arrangements to be recognized over the average vesting period of 2.9 years.

 

The fair value of options granted was determined using the following weighted-average assumptions as of grant date:

 

		2009				2008
Risk-free interest rate			n/a				2	%
Dividend yield			n/a				0	%
Expected stock price volatility			n/a				25	%
Expected term			n/a			6.5 years

All options carry exercise prices ranging from $6.00 to $13.00. At December 31, 2009, there were 155,900 exercisable options with no intrinsic value as the exercise price exceeded the stock price.

The Company’s organizers advanced funds for organizational and other preopening expenses. As consideration for the advances the organizers received warrants to purchase one share of common stock for every $20 advanced up to a limit of $100,000. A total of 96,750 warrants were issued and remain outstanding at December 31, 2009. These warrants are exercisable at a price of $10.00 per share at any time until November 2, 2014.

 

NOTE 12. LOAN COMMITMENTS AND OTHER CONTINGENCIES

 

The Company is a party to financial instruments with off-balance sheet risk in the normal course of business to meet the financing needs of its customers. These financial instruments include commitments to extend credit and standby letters of credit. These instruments involve, to varying degrees, elements of credit risk in excess of the amount recognized in the accompanying balance sheets. The Company's exposure to credit loss in the event of nonperformance by the other party to the financial instruments for commitments to extend credit and standby letters of credit is represented by the contractual amount of those instruments. The Company uses the same credit policies in making commitments and conditional obligations as it does for on-balance sheet instruments.

Commitments to extend credit are agreements to lend to a customer as long as there is no violation of any condition established in the contract. Commitments generally have fixed expiration dates or other termination clauses and may require payment of a fee. Since many of the commitments may expire without being drawn upon, the total commitment amounts do not necessarily represent future cash requirements.

 

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At December 31, 2009, the Company had commitments to extend credit and standby letters of credit of approximately $6.8 million and $15,000, respectively. At December 31, 2008, the Company had commitments to extend credit and standby letters of credit of approximately $6.5 million and $12,000, respectively.

The Company has three lease agreements, which expire on or before 2014. In addition to the leases for office space, the Company also leases various pieces of office equipment under short-term agreements. The following table summarizes loan commitments and minimum rental commitments for office space leases as of December 31, 2009:

 

		As of December 31, 2009
(000's)		Less than One Year				One to Three Years				Over Three to Five Years				Over Five Years
Unused lines of credit		$	6,085			$	-			$	-			$	764
Standby letters of credit			15				-				-				-
Operating Leases			292				488				328				145
Total		$	6,392			$	488			$	328			$	909

 

Lease expense for the years ended December 31, 2009 and 2008 was $286,000 and $285,000, respectively.

 

Employment Agreements

 

The Company has entered into employment agreements with two officers of the Bank, Steve Jones and Patrick Howard. The agreements are for an initial one-year term and are automatically renewable for an additional one-year term unless either party elects not to renew.

 

The agreement for Mr. Howard provides for compensation and benefits including the issuance of options to acquire up to 25,000 shares of the Company’s common stock at $13.00 per share, exercisable within ten years from the date of grant. At December 31, 2009, these options were issued and outstanding under the stock option plan disclosed in Note 11.

NOTE 13. RELATED PARTIES

 

The Company purchased corporate insurance through an insurance agency in which one of its principals is also a director and organizer of the Company. Premiums paid totaled $91,000 and $73,000 for the years ended December 31, 2009 and 2008, respectfully.

 

The Company purchased employee benefit insurance through an insurance agency in which one of its principals is also a director and organizer of the Company. During the years ended December 31, 2009 and 2008 those premiums totaled $212,000 and $214,000 respectively.

 

Certain Directors and Officers of the Bank have depository accounts with the Bank. None of those deposit accounts have terms more favorable than those available to any other depositor.

NOTE 14. REGULATORY MATTERS

 

The Bank is subject to various regulatory capital requirements administered by the federal banking agencies. Failure to meet minimum capital requirements can initiate certain mandatory and possibly additional discretionary actions by regulators that, if undertaken could have a direct material effect on the Bank's and, accordingly, the Company’s financial statements. Under capital adequacy guidelines and the regulatory framework for prompt corrective action, the Bank must meet specific capital guidelines that involve quantitative measures of the Bank’s assets, liabilities and certain off-balance-sheet items as calculated under regulatory accounting practices. The Bank’s capital amounts and classification are also subject to qualitative judgments by the regulators about components, risk weightings and other factors.

Quantitative measures established by regulations to ensure capital adequacy require the Bank to maintain minimum amounts and ratios (set forth in the table below) of total and Tier 1 capital (as defined in the regulations) to risk-weighted assets (as defined), and of Tier 1 capital (as defined) to average assets (as defined). To be categorized as well-capitalized, the Bank must maintain minimum total risk-based, Tier 1 risk-based, and Tier 1 leverage ratios as set forth in the table.

 

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On July 9, 2008, the Bank announced that it entered into a Stipulation and Consent to the Issuance of a Consent Order (the "Stipulation") and a Consent Order (the "Order") with the Comptroller (the "OCC"). The Stipulation and the Order were based on the Comptroller's findings during its examination as of September 30, 2007. As part of the Order, the Bank has agreed to strengthen its Bank Secrecy Act ("BSA") internal controls, revise and implement changes to its internal BSA audit program, maintain specific capital ratios and correct any violations of law. Therefore, regardless of the Bank’s capital position, the requirement in the Order to meet and maintain a specific capital level means that the Bank may not be deemed to be well capitalized under regulatory requirements as of December 31, 2009. The capital ratios required by the Order are 11.5% Total Capital to Risk Weighted Assets and 9.00% Tier 1 Capital to Average Assets. As of December 31, 2009, the Bank was in compliance with both ratios.

To be categorized as well-capitalized, the Bank must maintain minimum total risk-based, Tier 1 risk-based, and Tier 1 leverage ratios as set forth in the table. 

 

(000's)		Actual								For Capital Adequacy Purposes								To Be Well Capitalized Under Prompt Corrective Action Provisions
		Amount				Ratio				Amount				Ratio				Amount				Ratio
As of December 31, 2009
Total Capital (to Risk Weighted Assets)		$	12,640				11.33	%		$	8,925	>			8.00	%		$	11,156	>			10.00	%
Tier 1 Capital (to Risk Weighted Assets)			11,242				10.08	%			4,462	>			4.00	%			6,694	>			6.00	%
Tier 1 Capital (to Average Assets)			11,242				7.51	%			5,988	>			4.00	%			7,485	>			5.00	%
As of December 31, 2008
Total Capital (to Risk Weighted Assets)		$	14,400				12.05	%		$	9,558	>			8.00	%		$	11,947	>			10.00	%
Tier 1 Capital (to Risk Weighted Assets)			12,905				10.80	%			4,779	>			4.00	%			7,168	>			6.00	%
Tier 1 Capital (to Average Assets)			12,905				9.21	%			5,603	>			4.00	%			7,004	>			5.00	%

 

NOTE 15. FAIR VALUE OF FINANCIAL INSTRUMENTS

The fair value of an asset or liability is the price that would be received to sell that asset or paid to transfer that liability in an orderly transaction occurring in the principal market (or most advantageous market in the absence of a principal market) for such asset or liability. In estimating fair value, the Company utilizes valuation techniques that are consistent with the market approach, the income approach and/or the cost approach. Such valuation techniques are consistently applied. Inputs to valuation techniques include the assumptions that market participants would use in pricing an asset or liability. FASB ASC Topic 820 establishes a fair value hierarchy for valuation inputs that gives the highest priority to quoted prices in active markets for identical assets or liabilities and the lowest priority to unobservable inputs. The fair value hierarchy is as follows:

·

Level 1 Inputs - Unadjusted quoted prices in active markets for identical assets or liabilities that the reporting entity has the ability to access at the measurement date.

 

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	·	Level 2 Inputs - Inputs other than quoted prices included in Level 1 that are observable for the asset or liability, either directly or indirectly. These might include quoted prices for similar assets or liabilities in active markets, quoted prices for identical or similar assets or liabilities in markets that are not active, inputs other than quoted prices that are observable for the asset or liability (such as interest rates, volatilities, prepayment speeds, credit risks, etc.) or inputs that are derived principally from or corroborated by market data by correlation or other means.
	·	Level 3 Inputs - Unobservable inputs for determining the fair values of assets or liabilities that reflect an entity’s own assumptions about the assumptions that market participants would use in pricing the assets or liabilities.

 

In general, fair value is based upon quoted market prices, where available. If such quoted market prices are not available, fair value is based upon internally developed models that primarily use, as inputs, observable market-based parameters. Valuation adjustments may be made to ensure that financial instruments are recorded at fair value. The Company’s valuation methodologies may produce a fair value calculation that may not be indicative of net realizable value or reflective of future fair values. While management believes the Company’s valuation methodologies are appropriate and consistent with other market participants, the use of different methodologies or assumptions to determine the fair value of certain financial instruments could result in a different estimate of fair value at the reporting date. Furthermore, the reported fair value amounts have not been comprehensively revalued since the presentation dates, and therefore, estimates of fair value after the balance sheet date may differ significantly from the amounts presented herein.

 

The following table summarizes financial and nonfinancial assets measured at fair value as of December 31, 2009, segregated by the level of the valuation inputs within the fair value hierarchy utilized to measure fair value:

 

(000's)		Level 1 Inputs				Level 2 Inputs				Level 3 Inputs				Total Fair Value
Securities available for sale:
U.S. government agencies and corporations		$	—			$	4,005			$	—			$	4,005
Other Assets:
OREO			—				1,616				—				1,616

Non-financial assets measured at fair value on a non-recurring basis include OREO. Certain OREO assets, upon initial recognition, were remeasured and reported at fair value through a charge-off to the allowance for possible loan losses based upon the fair value of the OREO asset. The fair value of an OREO asset, upon initial recognition, is estimated using Level 2 inputs based on observable market data.  In connection with the measurement and initial recognition of the OREO assets, the Company recognized charge-offs of the allowance for loan losses totaling $1.4 million, which has been recorded on the consolidated statement of income through the provision for loan losses.

 

Carrying amount and estimated fair values of financial instruments were as follows at year end:

 

		2009								2008
		Carrying Amount				Estimated Fair Value				Carrying Amount				Estimated Fair Value
Financial assets
Cash and cash equivalents		$	7,292			$	7,292			$	8,457			$	8,457
Securities available for sale			4,005				4,005				-				-
Loans, net			121,419				120,702				123,393				122,694
Accrued interest receivable			397				397				472				472
Financial liabilities
Deposits			108,125				108,685				111,096				111,424
Accrued interest payable			101				101				125				125

 

The methods and assumptions used to estimate fair value are described as follows:

 

Carrying amount is the estimated fair value for cash and cash equivalents, restricted securities, accrued interest receivable and payable, and demand and savings deposits and variable rate loans or deposits that re-price frequently and fully. For fixed rate loans or deposits and for variable rate loans or deposits with infrequent re-pricing, fair value is based on discounted cash flows using current market rates applied to the estimated life and credit risk. The estimated fair value of other financial instruments and off-balance-sheet loan commitments approximate cost and are not considered significant to this presentation.

 

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NOTE 16. PARENT COMPANY CONDENSED FINANCIAL STATEMENTS

 

T BANCSHARES, INC.

CONDENSED BALANCE SHEET

(000's)		December 31, 2009				December 31, 2008
ASSETS
Cash and due from banks		$	367			$	333
Due from subsidiary			-				333
Other assets			-				242
Investment in subsidiary			11,259				12,905
Total assets		$	11,626			$	13,813
LIABILITIES AND CAPITAL
Accounts payable			35				19
Capital			11,591				13,794
Total liabilities and capital		$	11,626			$	13,813

 

T BANCSHARES, INC.

CONDENSED STATEMENT OF INCOME

YEARS ENDED DECEMBER 31,

(000's)		2009				2008
Equity in (loss) income from subsidiary		$	(3,663	)		$	(189	)
Noninterest expense:
Professional and administrative			78				143
Stock options			103				96
Total noninterest expenses			181				239
Net (loss) income		$	(3,844	)		$	(428	)

 

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NOTE 17. PARENT COMPANY CONDENSED FINANCIAL STATEMENTS cont’d

T BANCSHARES, INC.

CONDENSED STATEMENT OF CASH FLOWS

YEARS ENDED DECEMBER 31,

(000's)		2009				2008
Cash Flows from Operating Activities
Net Income		$	(3,844	)		$	(428	)
Adjustments to reconcile net income to net cash used by operating activities:
Equity in loss (earnings) of Bank			3,663				189
Stock based compensation			103				96
Net change in other assets			333				(44	)
Net change in other liabilities			16				19
Net cash used by operating activities			271				(168	)
Cash Flows from Investing Activities
Proceeds from sale of premises and equipment			-				-
Net cash provided by investing activities			-				-
Cash Flows from Financing Activities
Proceeds from rights offering			1,763				-
Contribution to bank			(2,000	)			-
Payment of capitalized rights offering costs			-				(242	)
Net cash provided by financing activities			(237	)			(242	)
Net change in cash and cash equivalents			34				(410	)
Cash and cash equivalents at beginning of period			333				743
Cash and cash equivalents at end of period		$	367			$	333
Supplemental disclosures of cash flow information
Cash paid during the period for
Interest		$	-			$	-
Income taxes		$	-			$	-

 

NOTE 18. SUBSEQUENT EVENTS

In preparing the financial statements, the Company has evaluated, for potential disclosure, events or transactions subsequent to the end of the most recent annual period through the issuance date of these financial statements.

Regulatory Action

The Bank was recently informed by the Comptroller that the Comptroller intended to institute an enforcement action for alleged violations of the Federal Trade Commission Act in connection with certain merchants and a payment processor that were Bank customers between September 1, 2006 and August 27, 2007.   The Comptroller proposed that the Bank enter into a formal agreement with the Comptroller (the “Agreement”) and a consent order for a civil money penalty (the “Order”) payable by the Bank to resolve the Comptroller’s allegations.

The Bank terminated all business relationships with the merchants and the payment processor on August 27, 2007. The Comptroller alleges that the merchants and the payment processor defrauded consumers and is seeking restitution of such consumers from the Bank, asserting that by accepting consumer payments for deposit from the merchants and introducing those payments into the payment clearing system, the Bank materially aided the merchants and the payment processor in the alleged fraudulent activity.

Because the cost of defending a regulatory enforcement action is likely to be significant, would likely take a protracted timeframe, and we cannot be certain of a favorable outcome to the Bank, we determined (and currently still believe) that negotiating a settlement with the Comptroller is in the best interest of the Bank.  Accordingly, we have over recent months been in discussion with the Comptroller about settling these claims.  We have over the past few weeks devoted first priority to these discussions, with the expectation that this priority would result in a settlement with the Comptroller prior to issuing our year-end 2009 financial statements.

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On April 15, 2010, the Bank executed an Agreement and Order containing the general terms outlined as follows:

·

deposit $5.1 million for consumer restitution charged by the merchants to eligible consumers;

·

Provide for a civil money penalty of $100,000;

·

require the Bank to retain an independent claims administrator to locate and arrange for the issuance of individual consumer checks to the identified eligible consumers;

·

terminate the Consent Order dated July 9, 2008, between the Bank and the Comptroller, which contained provisions requiring the Bank to establish a satisfactory program to ensure compliance with the Bank Secrecy Act and established minimum capital ratios;

·

require the Bank to establish a capital plan which, among other provisions, details the Bank’s plan to achieve tier 1 capital ratio of 9% and total risk based capital ratio of 11.5%;

·

require the Bank to develop a written program designed to reduce the level of criticized assets;

·

require the Bank to develop and implement an asset liquidity enhancement plan designed to increase the amount of asset liquidity maintained by the Bank, including a loan to deposit ratio of 85%; and

·

require the Bank to develop a written profit plan to improve and sustain the earnings of the Bank.

Although we do not know at this time the precise amounts that would ultimately be payable by us under the terms of the Agreement, we expect that any such settlement would ultimately require the Bank to, among other things, pay a significant and material restitution payment which we have estimated to be $2.4 million.  Further, there is no assurance that the Bank would be able to comply with all of the requirements of the Agreement and Order, including meeting the stated capital requirements contained therein.  Nor is there assurance that, should the Bank pay significant and material amounts of restitution and/or civil money penalties, the short and long term financial condition, results of operations, liquidity, and/or prospects of the Bank, upon which the Company is dependent, will not be materially adversely, and irreparably, impacted.

In determining the amount of funds that the Bank needs to reserve to make restitution payments to consumers under the Agreement, management has made certain assumptions regarding the number of consumers who elect to accept restitution checks and the ability of the Bank and its claim processor to locate consumers.  Based on such assumptions, management concluded that it is possible that the Bank will be liable for an amount that is up to $5.1 million, while the Agreement does not limit the liability to this amount.  However, until the restitution process is fully investigated, formulated, and approved by the Comptroller, the Company has estimated that the amount of restitution would not exceed the $5.1 million set forth in the Agreement.  In addition, certain consumers purchased products or services from a merchant that is currently in litigation with the Federal Trade Commission (“FTC”), which management believes represents approximately $1.6 million of the $5.1 million set forth in the Agreement.  We do not have enough information to estimate the probability of outcome of the FTC litigation with the merchant. Additionally, we cannot estimate the amount, if any, of restitution that the merchant or FTC may pay the consumers of this merchant which, if paid, would reduce the Bank’s possible liability to $3.5 million. Because our Agreement with the Comptroller stipulates that the Bank will not be responsible for the $1.6 million if the FTC or the merchant ultimately pay the consumers, we have not included this amount in our estimate of the appropriate reserve.

Based on the information available to management regarding actual historical rates that restitution checks are ultimately negotiated by consumers, management’s estimate is that approximately 68% of the total potential exposure will be realized. Therefore, management believes the appropriate reserve to accrue for restitution is 68% of $3.5 million, or $2.4 million.  We have estimated and accrued an expense of $185,000 representing the estimated cost to administer the restitution based on information  from our claims administrator, and accrued an expense of $100,000 for the civil money penalty to be imposed by the Comptroller in connection with the Order. This expected reserve and accrued expenses we believe represents a reasonable estimate under FASB ASC Topic 450 of liability based on the facts and circumstances as we understand them today.  However, we can not assure you that this estimate of the required reserve will not change due to the risk factors described in Item 1A. If management’s estimates prove inaccurate, the Bank may be required to recognize additional payments on restitution checks.  As a result, our financial condition and results of operation may be materially adversely affected.

As a result of the impact on the financial statements and capital of the Bank of the settlement with the OCC, we will look to raise additional capital through multiple avenues, including focused expense reductions, optimizing our balance sheet for loans and deposits and increasing net interest income and ultimately improving the overall earnings of the Company. A number of financial institutions have recently raised considerable amounts of capital as a result of deterioration in their results of operations and financial condition arising from the negative impact of the mortgage loan market, non-agency mortgage-backed security market, and deteriorating economic conditions, which may diminish our ability to raise additional capital.

We will conduct a comprehensive review of the operational expenses of the Bank to identify targeted opportunities where expenses can be reduced without adversely impacting operational effectiveness, which may result in improvements to net operating income. We will review assets and liabilities for strategic enhancements to the balance sheet structure, focusing on enhancing net interest income. We will evaluate opportunities to retain existing earning assets against available asset acquisition strategies to determine if, within acceptable risk tolerance levels, higher yielding assets can replace lower yielding assets without effecting balance sheet growth. We will continue to pursue our aggressive strategy in place to address non-performing and classified loans to reduce the levels of those assets or, alternatively to return the loans to performing status.

Loan Losses

During the first quarter of 2010, we expect losses of approximately $1.16 million primarily related to one large loan and two smaller loans.  The events and factors leading to the expected losses on these loans occurred during the first quarter of 2010. We have written the loans down to an amount that Bank believes it can collect. This has resulted in a preliminary estimated addition to the provision for loan losses of  $1.3 million. This would  increase our allowance for loan losses  from 1.39% of total loans as of December 31, 2009 to 1.59% of total loans as of March 31, 2010.

 

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