|
|
 | | | |
- close
- close
- close
- close
BancorpSouth 10-K 2007 Documents found in this filing:
Table of Contents
UNITED STATES
SECURITIES AND EXCHANGE COMMISSION Washington, D.C. 20549
FORM 10-K
(Mark One)
For the fiscal year ended December 31, 2006
OR
For the transition period from to
Commission file number 1-12991
BANCORPSOUTH, INC.
(Exact name of registrant as specified in its charter)
Registrant’s telephone number, including area code: (662) 680-2000
Securities registered pursuant to Section 12(b) of the Act:
Securities registered pursuant to Section 12(g) of the Act:
Common stock, $2.50 par value
Common stock purchase rights Guarantee of 8.15% Preferred Securities of BancorpSouth Capital Trust I (Title of Class)
Indicate by check mark if the registrant is a well-known seasoned issuer, as defined in Rule
405 of the Securities Act. Yes þ No o
Indicate by check mark if the registrant is not required to file reports pursuant to Section
13 or Section 15(d) of the Act. Yes o No þ
Indicate by check mark whether the registrant: (1) has filed all reports required to be filed
by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or
for such shorter period that the registrant was required to file such reports), and (2) has been
subject to such filing requirements for the past 90 days. Yes þ No o
Indicate by check mark if disclosure of delinquent filers pursuant to Item 405 of Regulation
S-K is not contained herein, and will not be contained, to the best of registrant’s knowledge, in
definitive proxy or information statements incorporated by reference in Part III of this Form 10-K
or any amendment to this Form 10-K. þ
Indicate by check mark whether the registrant is a large accelerated filer, an accelerated
filer, or a non-accelerated filer. See definition of “accelerated filer and large accelerated
filer” in Rule 12b-2 of the Exchange Act. (Check One):
Large Accelerated Filer þ Accelerated Filer o Non-Accelerated Filer o
Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of
the Exchange Act). Yes o No þ
The aggregate market value of the registrant’s common stock held by non-affiliates of the
registrant on June 30, 2006 was approximately $2,042,000,000, based on the last reported sale price
per share of the registrant’s common stock as reported on the New York Stock Exchange on June 30,
2006.
As
of February 23, 2007, the registrant had outstanding 79,075,721 shares of common stock, par
value $2.50 per share.
DOCUMENTS INCORPORATED BY REFERENCE
Portions of the definitive Proxy Statement used in connection with registrant’s 2007 Annual
Meeting of Shareholders, to be held April 25, 2007, are incorporated by reference into Part III of
this Report.
BANCORPSOUTH, INC.
FORM 10-K For the Fiscal Year Ended December 31, 2006 TABLE OF CONTENTS
2
Table of Contents
PART I
ITEM 1. BUSINESS.
GENERAL
BancorpSouth, Inc. (the “Company”) is a financial holding company incorporated in 1982.
Through its principal bank subsidiary, BancorpSouth Bank (the “Bank”), the Company conducts
commercial banking and financial services operations in Mississippi, Tennessee, Alabama, Arkansas,
Texas, Louisiana and Florida. At December 31, 2006, the Company and its subsidiaries had total
assets of approximately $12.0 billion and total deposits of approximately $9.7 billion. The
Company’s principal office is located at One Mississippi Plaza, 201 South Spring Street, Tupelo,
Mississippi 38804 and its telephone number is (662) 680-2000.
The Company’s Internet website address is www.bancorpsouth.com. The Company makes its annual
reports on Form 10-K, quarterly reports on Form 10-Q, current reports on Form 8-K and all
amendments to those reports available free of charge on its website on the Investor Relations
webpage under the caption “SEC Filings” as soon as reasonably practicable after such material is
electronically filed with, or furnished to, the Securities and Exchange Commission (the “SEC”).
The Company’s Internet website and the information contained therein or connected thereto are not
intended to be incorporated into this Annual Report on Form 10-K (this “Report”).
DESCRIPTION OF BUSINESS
The Bank has its principal office in Tupelo, Lee County, Mississippi, and conducts a
general commercial banking, trust and insurance business through 287 offices in 151 municipalities
or communities in Mississippi, Tennessee, Alabama, Arkansas, Texas, Louisiana and Florida. The Bank
has grown through the acquisition of other banks and insurance agencies and through the opening of
new branches and offices.
The Bank and its subsidiaries provide a range of financial services to individuals and
small-to-medium size businesses. The Bank operates investment services, credit insurance and
insurance agency subsidiaries which engage in investment brokerage services and sales of other
insurance products. The Bank’s trust department offers a variety of services including personal
trust and estate services, certain employee benefit accounts and plans, including individual
retirement accounts, and limited corporate trust functions. All of the Company’s assets are
located in the United States and all of its revenues generated from external customers originate
within the United States.
The Company has registered the trademarks “BancorpSouth,” both typed form and design, and
“Bank of Mississippi,” both typed form and design, with the U.S. Patent and Trademark Office. The
trademark “BancorpSouth” will expire in 2011, and “Bank of Mississippi” will expire in 2010, unless
the Company extends these trademarks for additional 10 year periods. Registrations of trademarks
with the U.S. Patent and Trademark Office generally may be renewed and continue indefinitely,
provided that the Company continues to use these trademarks and files appropriate maintenance and
renewal documentation with the U.S. Patent and Trademark Office at times required by the federal
trademark laws and regulations.
At December 31, 2006, the Company and its subsidiaries had approximately 4,100 full-time
equivalent employees. The Company and its subsidiaries are not a party to any collective bargaining
agreements and employee relations are considered to be good.
COMPETITION
Vigorous competition exists in all major areas where the Bank is engaged in business. The
Bank competes for available loans and depository accounts with state and national commercial banks
as well as savings and loan associations, insurance companies, credit unions, money market mutual
funds, automobile finance companies and financial services companies. None of these competitors is
dominant in the entire area served by the Bank.
The principal areas of competition in the banking industry center on a financial institution’s
ability and willingness to provide credit on a timely and competitively priced basis, to offer a
sufficient range of deposit and investment opportunities at competitive prices and maturities, and
to offer personal and other services of sufficient
quality and at competitive prices. The Company and its subsidiaries believe they can compete
effectively in all these areas.
3
Table of Contents
REGULATION AND SUPERVISION
The following is a brief summary of the regulatory environment in which the Company and
its subsidiaries operate and is not designed to be a complete discussion of all statutes and
regulations affecting such operations, including those statutes and regulations specifically
mentioned herein. Changes in these applicable laws, and their application by regulatory and law
enforcement agencies, cannot necessarily be predicted, but could have a material effect on the
business and results of the Company and its subsidiaries.
The Company is a financial holding company regulated as such under the Bank Holding Company
Act of 1956 (the “Bank Holding Company Act”) and is subject to regulation and supervision by the
Board of Governors of the Federal Reserve System (the “Federal Reserve”). The Company is required
to file annual reports with the Federal Reserve and such other information as the Federal Reserve
may require. The Federal Reserve may also conduct examinations of the Company. According to
Federal Reserve policy, a financial holding company must act as a source of financial strength to
its subsidiary banks and to commit resources to support each such subsidiary. This support may be
required at times when a financial holding company may not be able to provide such support.
The Bank is incorporated under the laws of the State of Mississippi and is subject to
the applicable provisions of Mississippi banking laws and the laws of various states in which it
operates, as well as federal law. The Bank is subject to the supervision of the Mississippi
Department of Banking and Consumer Finance and to regular examinations by that department.
Deposits in the Bank are insured by the Federal Deposit Insurance Corporation (the “FDIC”) and,
therefore, the Bank is subject to the provisions of the Federal Deposit Insurance Act and to
examination by the FDIC. FDIC regulations require that management report annually on its
responsibility for preparing its institution’s financial statements, and establishing and
maintaining an internal control structure and procedures for financial reporting and compliance
with designated laws and regulations concerning safety and soundness. The Bank is not a member of
the Federal Reserve.
The Financial Institutions Reform, Recovery and Enforcement Act of 1989 (“FIRREA”) permits,
among other things, the acquisition of savings associations by financial holding companies,
irrespective of their financial condition, and increased the deposit insurance premiums for banks
and savings associations. FIRREA also provides that commonly controlled, federally insured
financial institutions must reimburse the FDIC for losses incurred by the FDIC in connection with
the default of another commonly controlled financial institution or in connection with the
provision of FDIC assistance to such a commonly controlled financial institution in danger of
default. Reimbursement liability under FIRREA is superior to any obligations to shareholders of
such federally insured institutions (including a financial holding company such as the Company if
it were to acquire another federally insured financial institution) arising as a result of their
status as shareholders of a reimbursing financial institution.
The Company and the Bank are subject to the provisions of the Federal Deposit Insurance
Corporation Improvement Act of 1991 (“FDICIA”). This statute provides for increased funding for
the FDIC’s deposit insurance fund and expands the regulatory powers of federal banking agencies to
permit prompt corrective actions to resolve problems of insured depository institutions through the
regulation of banks and their affiliates, including financial holding companies. Its provisions
are designed to minimize the potential loss to depositors and to FDIC insurance funds if financial
institutions default on their obligations to depositors or become in danger of default. Among
other things, FDICIA provides a framework for a system of supervisory actions based primarily on
the capital levels of financial institutions. FDICIA also provides for a risk-based deposit
insurance premium structure. The FDIC charges an annual assessment for the insurance of deposits
based on the risk a particular institution poses to its deposit insurance fund. While most of the
Company’s deposits are in the Bank Insurance Fund, certain other of the Company’s deposits which
were acquired from thrifts over the years remain in the Savings Association Insurance Fund.
The Company is required to comply with the risk-based capital guidelines established by the
Federal Reserve and with other tests relating to capital adequacy that the Federal Reserve adopts
from time to time. See Note 20 to the Company’s Consolidated Financial Statements included in this
Report for a discussion of the Company’s capital amounts and ratios.
The Company is a legal entity that is separate and distinct from its subsidiaries. There are
various legal limitations on the extent to which the Bank may extend credit, pay dividends or
otherwise supply funds to the Company or its affiliates. In particular, the Bank is subject to
certain restrictions imposed by federal law, including without limitation, sections 23A and 23B of
the Federal Reserve Act, on any extensions of credit to the Company or, with certain exceptions,
other affiliates.
The primary source of funds for dividends paid to the Company’s shareholders is dividends paid
to the Company by the Bank. Various federal and state laws limit the amount of dividends that the
Bank may pay to the
4
Table of Contents
Company without regulatory approval. Under Mississippi law, the Bank must
obtain approval of the Commissioner of the Mississippi Department of Banking and Consumer Finance
prior to paying any dividend on the Bank’s common stock. Under FDICIA, the Bank may not pay any
dividends, if after paying the dividend, it would be undercapitalized under applicable capital
requirements. The FDIC also has the authority to prohibit the Bank from engaging in business
practices that the FDIC considers to be unsafe or unsound, which, depending on the financial
condition of the Bank, could include the payment of dividends.
In addition, the Federal Reserve has the authority to prohibit the payment of dividends by a
financial holding company if its actions constitute unsafe or unsound practices. In 1985, the
Federal Reserve issued a policy statement on the payment of cash dividends by financial holding
companies, which outlined the Federal Reserve’s view that a financial holding company that is
experiencing earnings weaknesses or other financial pressures should not pay cash dividends that
exceed its net income, that are inconsistent with its capital position or that could only be funded
in ways that weaken its financial health, such as by borrowing or selling assets. The Federal
Reserve indicated that, in some instances, it may be appropriate for a financial holding company to
eliminate its dividends.
The Riegle-Neal Interstate Banking and Branching Efficiency Act of 1994 (“IBBEA”) permits
adequately capitalized and managed financial holding companies to acquire control of banks in
states other than their home states, subject to federal regulatory approval, without regard to
whether such a transaction is prohibited by the laws of any state. IBBEA permits states to
continue to require that an acquired bank must have been in existence for a certain minimum time
period that may not exceed five years. IBBEA prohibits a financial holding company, following an
interstate acquisition, from controlling more than 10% of the nation’s total amount of bank
deposits or 30% of bank deposits in the relevant state. States retain the ability to adopt
legislation to effectively raise or lower the 30% limit. Federal banking regulators may approve
merger transactions involving banks located in different states, without regard to laws of any
state prohibiting such transactions; provided, however, that mergers may not be approved with
respect to banks located in a state that, prior to June 1, 1997, enacted legislation prohibiting
mergers by banks located in such state with out-of-state institutions. Federal banking regulators
may permit an out-of-state bank to open new branches in another state if such state has enacted
legislation permitting interstate branching. Affiliated institutions are authorized to accept
deposits for existing accounts, renew time deposits and close and service loans for affiliated
institutions without being deemed an impermissible branch of the affiliate.
The Community Reinvestment Act of 1997 (“CRA”) and its implementing regulations provide an
incentive for regulated financial institutions to meet the credit needs of their local community or
communities, including low and moderate income neighborhoods, consistent with the safe and sound
operation of such financial institutions. The regulations provide that the appropriate regulatory
authority will assess reports under CRA in connection with applications for establishment of
domestic branches, acquisitions of banks or mergers involving financial holding companies. An
unsatisfactory rating under CRA may serve as a basis to deny an application to acquire or establish
a new bank, to establish a new branch or to expand banking services.
As of December 31, 2006, the
Company had a “satisfactory” rating under CRA.
Under the Gramm-Leach-Bliley Act of 1999 (the “GLBA”), banks may associate with a company
engaged principally in securities activities. The GLBA also permits a bank holding company to
elect to become a “financial holding company,” allowing it to exercise expanded financial powers.
Financial holding company powers relate to financial activities that are determined by the Federal
Reserve to be financial in nature, incidental to an activity that is financial in nature or
complementary to a financial activity (provided that the complementary activity does not pose a
safety and soundness risk). The GLBA expressly characterizes certain activities as financial in
nature, including lending activities, underwriting and selling insurance, providing financial or
investment advice, securities underwriting, dealing and making markets in securities and merchant
banking. In order to qualify as a financial holding company, a bank holding company’s depository
subsidiaries must be both well-capitalized and well-managed and must have at least a satisfactory
rating under CRA. The Company elected to become a financial holding company during 2004.
In addition, the Uniting and Strengthening America by Providing Appropriate Tools Required to
Intercept and Obstruct Terrorism Act of 2001, as recently extended and revised by the PATRIOT
Improvement and Reauthorization Act of 2005 (the “USA Patriot Act”), requires each financial
institution (i) to establish an anti-money laundering program; (ii) to establish due diligence
policies, procedures and controls with respect to its private banking accounts and correspondent
banking accounts involving foreign individuals and certain foreign financial institutions; and
(iii) to avoid establishing, maintaining, administering or managing correspondent accounts in the
United States for, or on behalf of, foreign financial institutions that do not have a physical
presence in any country. The USA Patriot Act also requires that financial institutions must follow
certain minimum standards to verify the identity of customers, both foreign and domestic, when a
customer opens an account. In addition, the
5
Table of Contents
USA Patriot Act contains a provision encouraging
cooperation among financial institutions, regulatory authorities and law enforcement authorities
with respect to individuals, entities and organizations engaged in, or reasonably suspected of
engaging in, terrorist acts or money laundering activities.
The
activities of the Company and its subsidiaries are also subject to
regulation under various federal laws and regulations thereunder,
including the Truth-in-Lending Act, the Equal Credit Opportunity Act,
the Fair Housing Act, the
Fair Credit Reporting Act, the Electronic Funds Transfer Act
and the Currency and Foreign Transactions Reporting Act (Bank Secrecy Act), among others, as well
as various state laws.
The GLBA and other federal and state laws, as well as the various guidelines adopted by the
Federal Reserve and the FDIC, provide for minimum standards of privacy to protect the
confidentiality of the personal information of customers and to regulate the use of such
information by financial institutions. The Company and its subsidiaries have adopted a customer
information security program to comply with these regulatory requirements.
The Bank’s insurance subsidiaries are regulated by the insurance regulatory authorities and
applicable laws and regulations of the states in which they operate.
The Bank’s investment services subsidiary is regulated as a registered investment adviser and
broker-dealer by federal and/or state securities regulations and self-regulatory authorities.
The Sarbanes-Oxley Act of 2002 (the “Sarbanes-Oxley Act”) represents a comprehensive revision
of laws affecting corporate governance, accounting obligations and corporate reporting. The
Sarbanes-Oxley Act is applicable to all companies with equity or debt securities registered under
the Securities Exchange Act of 1934, as amended (the “Exchange Act”). In particular, the
Sarbanes-Oxley Act establishes: (i) new requirements for audit committees, including independence,
expertise and responsibilities; (ii) additional responsibilities regarding financial statements for
the Chief Executive Officer and Chief Financial Officer of the reporting company; (iii) new
standards for auditors and regulation of audits; (iv) increased disclosure and reporting
obligations for the reporting company and its directors and executive officers; and (v) new and
increased civil and criminal penalties for violation of the securities laws.
In addition, there have been a number of legislative and regulatory proposals that would have
an impact on the operation of financial holding companies and their bank and non-bank subsidiaries.
Management is not able to predict whether or in what form these proposals may be adopted in the
future and, if adopted, what their effect will be on the Company and its subsidiaries.
LENDING ACTIVITIES
The Bank’s lending activities include both commercial and consumer loans. Loan
originations are derived from a number of sources including real estate broker referrals, mortgage
loan companies, direct solicitation by the Bank’s loan officers, existing depositors and borrowers,
builders, attorneys, walk-in customers and, in some instances, other lenders. The Bank
has established systematic procedures for approving and monitoring loans that vary depending on the
size and nature of the loan, and applies these procedures in a disciplined manner.
Commercial Lending
The Bank offers a variety of commercial loan services including term loans, lines of credit,
equipment and receivable financing and agricultural loans. A broad range of short-to-medium term
commercial loans, both secured and unsecured, are made available to businesses for working capital
(including inventory and receivables), business expansion (including acquisition and development of
real estate and improvements), and the purchase of
equipment and machinery. At times, the Bank also makes construction loans to real estate
developers for the acquisition, development and construction of residential subdivisions.
Commercial loans are granted based on the borrower’s ability to generate cash flow to support
its debt obligations and other cash related expenses. A borrower’s ability to repay commercial
loans is substantially dependent on the success of the business itself and on the quality of its
management. As a general practice, the Bank takes as collateral a security interest in any
available real estate, equipment, inventory, receivables or other personal property, although such
loans may also be made infrequently on an unsecured basis. In many instances, the Bank requires
personal guarantees of its commercial loans to provide additional credit support.
The Bank has had very little exposure as an agricultural lender. Crop production loans have
been either fully supported by the collateral and financial strength of the borrower, or a 90% loan
guaranty has been obtained through the Farm Service Agency on such loans.
6
Table of Contents
Residential Consumer Lending
A portion of the Bank’s lending activities consists of the origination of fixed and adjustable
rate residential mortgage loans secured by owner-occupied property located in the Bank’s primary
market areas. Home mortgage lending is unique in that a broad geographic territory may be serviced
by originators working from strategically placed offices either within the Bank’s traditional
banking facilities or from affordable storefront locations in commercial buildings. In addition,
the Bank offers construction loans, second mortgage loans and home equity lines of credit.
The Bank finances the construction of individual, owner-occupied houses on the basis of
written underwriting and construction loan management guidelines. First mortgage construction
loans are made to contractors on both a pre-sold and a “speculation” basis. Such loans are also
made to qualified individual borrowers and are generally supported by a take-out commitment from a
permanent lender. The Bank makes residential construction loans to individuals who intend to erect
owner-occupied housing on a purchased parcel of real estate. The construction phase of these loans
has certain risks, including the viability of the contractor, the contractor’s ability to complete
the project and changes in interest rates.
In most cases, the Bank sells its mortgage loans with terms of 15 years or more in the
secondary market and either retains or releases the right to service those loans. The sale of
mortgage loans to the secondary market allows the Bank to manage the interest rate risks related to
such lending operations. Generally, after the sale of a loan with servicing retained, the Bank’s
only involvement is to act as a servicing agent. In certain cases, the Bank may be required to
repurchase mortgage loans upon which customers have defaulted that were previously sold in the
secondary market if these loans did not meet the underwriting standards of the entity that
purchased the loans. These loans would be held by the Bank in its mortgage loan portfolio.
In most cases, the Bank requires fire, extended casualty insurance and, where appropriate,
wind and hail insurance and, where required by applicable regulations, flood insurance to be
obtained by the borrower. The Bank maintains its own errors and omissions insurance policy to
protect against loss in the event of failure of a mortgagor to pay premiums on fire and other
hazard insurance policies. Mortgage loans originated by the Bank customarily include a “due on
sale” clause giving the Bank the right to declare a loan immediately due and payable in the event,
among other matters, that the borrower sells or otherwise disposes of the real property subject to
a mortgage. In general, the Bank enforces “due on sale” clauses. Borrowers are typically
permitted to refinance or repay residential mortgage loans at their option without penalty.
Non-Residential Consumer Lending
Non-residential consumer loans made by the Bank include loans for automobiles, recreation
vehicles, boats, personal (secured and unsecured) and deposit account secured loans. In addition,
the Bank provides federally insured or guaranteed student loans to students at universities and
community colleges in the Bank’s market areas. Non-residential consumer loans are attractive to
the Bank because they typically have a shorter term and carry higher interest rates than those
charged on other types of loans. Non-residential consumer loans, however, do pose additional risks
of collectability when compared to traditional types of loans granted by commercial banks such as
residential mortgage loans.
The Bank also issues credit cards solicited on the basis of applications received through
referrals from the Bank’s branches and other marketing efforts. The Bank generally has a small
portfolio of credit card receivables outstanding. Credit card lines are underwritten using
conservative credit criteria, including past credit history and
debt-to-income ratios, similar to the credit policies applicable to other personal consumer loans.
The Bank grants consumer loans based on employment and financial information solicited from
prospective borrowers as well as credit records collected from various reporting agencies.
Financial stability of the borrower and credit history are the primary factors the Bank considers
in granting such loans. The availability of collateral is also a factor considered in making such
loans. The Bank seeks collateral that can be assigned and has good marketability with an adequate
margin of value. The geographic area of the borrower is another consideration, with preference
given to borrowers in the Bank’s primary market areas.
OTHER FINANCIAL SERVICES
The Bank’s consumer finance subsidiary has historically extended consumer loans to
individuals and entities and operated a network of offices in Mississippi and Tennessee. During
2004, the consumer finance subsidiary sold all of its operating offices in Mississippi and
reclassified the loans in its Tennessee offices as held
7
Table of Contents
for sale. During 2005, all but two of its
operating offices in Tennessee were sold and the consumer finance subsidiary ceased making new
loans at the two remaining offices. The Bank closed the last two operating offices in Tennessee in
2006.
The Bank’s insurance service subsidiary serves as an agent in the sale of title insurance,
commercial lines of insurance and a full line of property and casualty, life, health and employee
benefits products and services and operates in Mississippi, Tennessee, Alabama, Arkansas, Texas and
Louisiana.
The Bank’s investment services subsidiary provides brokerage, investment advisory and asset
management services and operates in certain communities in Mississippi, Tennessee, Alabama,
Arkansas, Louisiana and Texas.
See Note 21 to the Company’s Consolidated Financial Statements included elsewhere in this
Report for financial information about each segment of the Company, as defined by U.S. generally
accepted accounting principles.
ASSET QUALITY
Management seeks to maintain a high quality of assets through conservative underwriting
and sound lending practices. Management intends to follow this policy even though it may result in
foregoing the funding of higher yielding loans. While there is no assurance that the Bank will not
suffer losses on its loans, management believes that the Bank has adequate underwriting and loan
administration policies in place and personnel to manage the associated risks prudently.
In an effort to maintain the quality of the loan portfolio, management seeks to minimize
higher risk loans. These loans include loans to provide initial equity and working capital to new
businesses with no other capital strength, loans secured by unregistered stock, loans for
speculative transactions in stock, land or commodity markets, loans to borrowers or the taking of
collateral outside the Bank’s primary market areas, loans dependent on secondary liens as primary
collateral and non-recourse loans. To the extent risks are identified, additional precautions are
taken in order to reduce the Bank’s risk of loss. Commercial loans entail certain additional risks
because they usually involve large loan balances to single borrowers or a related group of
borrowers, resulting in a more concentrated loan portfolio. Further, because payment of these
loans is usually dependent upon the successful operation of the commercial enterprise, the risk of
loss with respect to these loans may increase in the event of adverse conditions in the economy.
The Board of Directors of the Bank focuses much of its efforts and resources, and that of the
Bank’s management and lending officials, on loan review and underwriting policies. Loan status and
monitoring is handled through the Bank’s loan administration department. Weak financial
performance is identified and monitored using past due reporting, the internal loan rating system,
loan review reports, the various loan committee functions and periodic asset quality rating
committee meetings. Senior loan officers have established a review process with the objective of
quickly identifying, evaluating and initiating necessary corrective action for substandard loans.
The results of loan reviews are reported to the Audit Committee of both the Company’s and the
Bank’s Board of Directors. This process is an integral element of the Bank’s loan program.
Nonetheless,
management maintains a cautious outlook in anticipating the potential effects of uncertain economic
conditions (both locally and nationally) and the possibility of more stringent regulatory
standards.
RECENT ACQUISITONS
The Company completed no material acquisitions during 2006.
SELECTED FINANCIAL INFORMATION
Set forth in this section is certain selected financial information relating to the
business of the Company and the Bank.
Distribution of Assets, Liabilities and Shareholders’ Equity; Interest Rates and Interest
Differential
See “Item 7. Management’s Discussion and Analysis of Financial Condition and Results of
Operations — Results of Operations — Net Interest Revenue” included herein for information regarding
the distribution of assets, liabilities and shareholders’ equity, and interest rates and interest
differential.
8
Table of Contents
Analysis of Changes in Effective Interest Differential
See “Item 7. Management’s Discussion and Analysis of Financial Condition and Results of
Operations — Results of Operations — Net Interest Revenue” included herein for information regarding
the analysis of changes in effective interest differential.
Investment Portfolio
Held-to-Maturity Securities
The following table shows the amortized cost of the Bank’s held-to-maturity securities at
December 31, 2006, 2005 and 2004:
The following table shows the maturities and weighted average yields at December 31, 2006 for
the investment categories presented above:
The yield on tax-exempt obligations of states and political subdivisions has been adjusted to
a taxable equivalent basis using a 35% tax rate.
Available-for-Sale Securities
The following table shows the book value of the Bank’s available-for-sale securities at
December 31, 2006, 2005 and 2004:
9
Table of Contents
The following table shows the maturities and weighted average yields at December 31, 2006 for
the investment categories presented above:
The yield on tax-exempt obligations of states and political subdivisions has been adjusted to
a taxable equivalent basis using a 35% tax rate. See “Item 7. Management’s Discussion and Analysis
of Financial Condition and Results of Operations – Financial Condition – Securities and Other
Earning Assets” included herein for more information regarding the Company’s securities portfolio.
Loan and Lease Portfolio
The Bank’s loans and leases are widely diversified by borrower and industry. The table below
shows the composition of the Bank’s loans and leases by collateral type at December 31 for the
years indicated. See “Item 7. Management’s Discussion and Analysis of Financial Condition and
Results of Operations – Financial Condition – Loans and Leases” included herein for more
information regarding the Bank’s loan and lease portfolio.
10
Table of Contents
Maturity Distribution of Loans and Leases
The maturity distribution of the Bank’s loan portfolio is one factor in management’s
evaluation by collateral type of the risk characteristics of the loan and lease portfolio. The
following table shows the maturity distribution of the Bank’s loans and leases net of unearned
income as of December 31, 2006:
Sensitivity of Loans and Leases to Changes in Interest Rates
The interest rate sensitivity of the Bank’s loan and lease portfolio is important in the
management of effective interest differential. The Bank attempts to manage the relationship
between the interest rate sensitivity of its assets and liabilities to produce an effective
interest differential that is not significantly impacted by the level of interest rates. The
following table shows the interest rate sensitivity of the Bank’s loans and leases net of unearned
income as of December 31, 2006:
Non-Accrual, Past Due and Restructured Loans and Leases
Non-performing loans and leases consist of both non-accrual loans and leases and loans and
leases that have been restructured (primarily in the form of reduced interest rates) because of the
borrower’s weakened financial condition. The Bank’s non-performing loans and leases were as
follows at December 31 for the years indicated:
11
Table of Contents
The total amount of interest earned on non-performing loans and leases was approximately
$114,000, $194,000, $195,000, $248,000 and $274,000 in 2006, 2005, 2004, 2003 and 2002,
respectively. The gross interest income that would have been recorded under the original terms of
those loans and leases if they had not been non-performing amounted to $475,000, $600,000,
$784,000, $1,334,000 and $936,000 in 2006, 2005, 2004, 2003 and 2002, respectively.
Loans considered impaired under Statement of Financial Accounting Standards (“SFAS”) No. 114,
“Accounting by Creditors for Impairment of a Loan,” as amended by SFAS No. 118, “Accounting by
Creditors for Impairment of a Loan – Income Recognition and Disclosure,” are loans for which, based
on current information and events, it is probable that the creditor will be unable to collect all
amounts due according to the contractual terms of the loan agreement. The Bank’s recorded
investment in loans considered impaired at December 31, 2006, 2005, 2004, 2003 and 2002 was
$9,087,000, $13,505,000, $11,523,000, $13,979,000 and $9,797,000, respectively, with a valuation
allowance of $4,511,000, $6,117,000, $5,279,000, $6,854,000 and $4,827,000,
respectively. The average recorded investment in impaired loans during 2006, 2005, 2004, 2003 and
2002 was $9,633,000, $12,794,000, $14,579,000, $15,695,000 and $9,408,000, respectively.
The Bank’s policy provides that loans and leases are generally placed in non-accrual status
if, in management’s opinion, payment in full of principal or interest is not expected or payment of
principal or interest is more than 90 days past due, unless the loan or lease is both well-secured
and in the process of collection.
In the normal course of business, management becomes aware of possible credit problems in
which borrowers exhibit potential for the inability to comply with the contractual terms of their
loans and leases, but which do not currently meet the criteria for disclosure as non-performing
loans and leases. Historically, some of these loans and leases are ultimately restructured or
placed in non-accrual status. At December 31, 2006, no single loan or lease of material
significance was known to be a potential non-performing loan or lease.
At December 31, 2006, the Bank did not have any concentration of loans or leases in excess of
10% of total loans and leases outstanding. Loan concentrations are considered to exist when there
are amounts loaned to a multiple number of borrowers engaged in similar activities, which would
cause them to be similarly impacted by economic or other conditions. The Bank conducts business in
a geographically concentrated area but does not consider this factor alone in identifying loan
concentrations. The ability of the Bank’s borrowers to repay loans is somewhat dependent upon the
economic conditions prevailing in the Bank’s market area
Summary of Credit Loss Experience
In the normal course of business, the Bank assumes risks in extending credit. The Bank
manages these risks through its lending policies, loan review procedures and the diversification of
its loan portfolio. Although it is not possible to predict credit losses with certainty,
management regularly reviews the characteristics of the loan portfolio to determine its overall
risk profile and quality.
Attention is paid to the quality of the loan portfolio through a formal loan review process.
The Board of Directors of the Bank has appointed a loan loss reserve valuation committee (the “Loan
Loss Committee”) that is responsible for ensuring that the allowance for credit losses provides
coverage of both known and inherent losses. The Loan Loss Committee considers estimates of loss
for individually analyzed credits as well as factors such as historical experience, changes in
economic and business conditions and concentrations of risk in determining the level of the
allowance for credit losses. The Loan Loss Committee meets at least quarterly to determine the
amount of adjustments to the allowance for credit losses. The Loan Loss Committee is composed of
senior management from the Bank’s loan administration, lending and finance departments. In each
period, the Loan Loss Committee bases the allowance for credit losses on its loan classification
system as well as an analysis of general economic and business trends in the Bank’s region and
nationally. See “Item 7 Management’s Discussion and Analysis of
12
Table of Contents
Financial Condition and Results of
Operations – Results of Operations – Provisions for Credit Losses and Allowance for Credit Losses”
included herein for more information regarding the provision and the allowance for credit losses.
Any loan or portion thereof which is classified as “loss” by regulatory examiners or which is
determined by management to be uncollectible because of factors such as the borrower’s failure to
pay interest or principal, the borrower’s financial condition, economic conditions in the
borrower’s industry or the inadequacy of underlying collateral, is charged off.
The table below presents (a) the breakdown of the allowance for credit losses by loan category
and (b) the percentage of each category in the Bank’s loan portfolio to total loans at December 31
for the years presented. The breakdown of the allowance by loan category is based in part on
evaluations of specific loan’s past history and on economic conditions within specific industries
or geographical areas. Because these conditions are subject to change, the allocation is not
necessarily indicative of the breakdown of any losses.
The table below sets forth certain information with respect to the Bank’s loans (net of
unearned income) and the allowance for credit losses for the five years ended December 31, 2006.
See “Item 7. Management’s Discussion and Analysis of
Financial Condition and Results of Operations — Results of Operations — Provisions for Credit Losses and Allowance for Credit Losses” included
herein for more information regarding the Bank’s allowance for credit losses.
13
Table of Contents
Deposits
Deposits represent the principal source of funds for the Bank. The distribution and market
share of deposits by type of deposit and by type of depositor are important considerations in the
Bank’s assessment of the stability of its funds sources and its access to additional funds.
Furthermore, management shifts the mix and maturity of the deposits depending on economic
conditions and loan and investment policies in an attempt, within set policies, to minimize cost
and maximize effective interest differential. See “Item 7. Management’s Discussion and Analysis of
Financial Condition and Results of Operations – Financial Condition – Deposits” included herein for
more information regarding deposits made with the Bank.
The following table shows the classification of the Bank’s deposits on an average basis for
the three years ended December 31, 2006:
14
Table of Contents
The Bank’s other time deposits of $100,000 and greater, including certificates of deposits of
$100,000 and greater, at December 31, 2006 had maturities as follows:
Return on Equity and Assets
Return on average shareholders’ equity, return on average assets and the dividend payout
ratios based on net income for the three years ended December 31, 2006 were as follows:
The Company’s average shareholders’ equity as a percentage of average assets was 8.48%, 8.52%
and 8.27% for 2006, 2005 and 2004, respectively. In 2006, the Company’s return on average
shareholders’ equity (which is calculated by dividing net income by average shareholders’ equity)
and return on average assets (which is calculated by dividing net income by average total assets)
increased compared to 2005 and its dividend payout ratio (which is calculated by dividing dividends
declared per share by net income per share) decreased compared to 2005. See “Item 7. Management’s
Discussion and Analysis of Financial Condition and Results of Operations – Overview” included
herein for more information regarding the Company’s net income and the calculation of return on
average shareholders’ equity and return on average assets.
Short-Term Borrowings
The Bank uses borrowed funds as an additional source of funds for growth in earning assets.
Short-term borrowings consist of federal funds purchased, flexible repurchase agreements purchased,
securities sold under repurchase agreements and short-term Federal Home Loan Bank (“FHLB”)
advances.
The following table sets forth, for the periods indicated, certain information about the
Bank’s short-term borrowings and the components thereof:
15
Table of Contents
Federal funds purchased generally mature the day following the date of purchase while
securities sold under agreement to repurchase generally mature within 30 days from the date of the
sale. At December 31, 2006, the Bank had established informal federal funds borrowing lines of
credit aggregating $460 million.
Long-Term Federal Home Loan Bank Borrowings
The Bank has entered into a blanket floating lien security agreement with the Federal Home
Loan Bank (“FHLB”) of Dallas. Under the terms of this agreement, the Bank is required to maintain
sufficient collateral to secure borrowings in an aggregate amount of the lesser of 75% of the book
value (unpaid principal balance) of the Bank’s eligible mortgage loans pledged as collateral or 35%
of the Bank’s assets. At December 31, 2006, there were no call
features on long-term FHLB borrowings.
At December 31, 2006, the following FHLB fixed term advances were repayable as follows:
16
Table of Contents
ITEM 1A. RISK FACTORS.
Certain statements contained in this Annual Report may not be based on historical facts
and are “forward-looking statements” within the meaning of Section 27A of the Securities Act of
1933, as amended, and Section 21E of the Exchange Act, as amended. These forward-looking statements may be identified by
reference to a future period(s) or by the use of forward-looking terminology, such as “anticipate,”
“believe,” “estimate,” “expect,” “foresee,” “may,” “might,” “will,” “would,” “could” or “intend,”
future or conditional verb tenses, and variations or negatives of such terms. These
forward-looking statements include, without limitation, those relating to the expiration of the
Company’s trademarks, the Company’s ability to compete effectively, the effect of changes in laws,
governmental regulations and legislative proposals affecting financial institutions, examinations
of the Company by the Federal Reserve, Company’s operating results, growth strategies and growth
opportunities, interest earning assets and interest bearing liabilities, unsecured loans, credit
card losses, commercial loans, mortgage loans, economic conditions in the Company’s market area,
internal control over financial reporting, maturities of held-to-maturity securities, valuation of
mortgage servicing rights, diversification of revenue stream, the Company’s policy regarding asset
quality, net interest revenue, net interest margin, interest rate sensitivity, credit quality and
credit losses, capital resources, sources of liquidity and liquidity strategies, sources of
maturing loans and investment securities, sales of loans held for sale, cash from operating
activities, deposits, non-performing assets, the Company’s ability to declare and pay dividends,
future acquisitions, market risk, significant accounting policies, underwriting and loan
administration policies, indirect lending activities, market conditions, stock repurchase program,
the impact of Hurricane Katrina, allowance for credit losses, financial condition of the Company’s
borrowers, pension and other post-retirement benefit amounts, loans in the Bank’s consumer finance subsidiary, expansion of products and services offered by the Company’s
insurance agencies, charge-offs, legal and regulatory limitations and compliance, junior
subordinated debt securities and the effect of certain legal claims and pending lawsuits.
We caution you not to place undue reliance on the forward-looking statements contained in this
Annual Report in that actual results could differ materially from those indicated in such
forward-looking statements due to a variety of factors. These factors include, but are not limited
to, the following:
17
Table of Contents
The Company undertakes no obligation to update its forward-looking statements to reflect
events or circumstances that occur after the date of this Report.
In addition to the factors listed above that could influence our forward-looking statements,
management believes that the risk factors set forth below should be considered in evaluating the
Company’s business. Other relevant risk factors are outlined below and may be supplemented from
time to time in the Company’s press releases and filings with the Securities and Exchange
Commission.
Rising interest rates may result in higher interest rates being paid on interest bearing deposits
than are charged on outstanding loans.
If interest rates rise, we may pay interest on our customers’ interest bearing deposits and
our other liabilities at higher rates than the interest rates paid to us by our customers on
outstanding loans that were made when interest rates were at a lower level. This situation would
result in a negative interest rate spread with respect to those loans and cause an adverse effect
on our earnings. This adverse effect would increase if interest rates continued to rise while we
had outstanding loans payable at fixed interest rates that could not be adjusted to a higher
interest rate.
Our allowance for credit losses may not be adequate to cover actual credit losses.
We make various assumptions and judgments about the collectibility of our loan and lease
portfolio and provide an allowance for potential losses based on a number of factors. If our
assumptions or judgments are wrong, our allowance for credit losses may not be sufficient to cover
our actual losses, which could have an adverse effect on our operating results, and may also cause
us to increase the allowance in the future. Further, our net income could decrease for any period
in which we add additional amounts to our allowance for credit losses.
Hurricanes or other adverse weather events could negatively affect local economies where we
maintain branch offices or cause disruption or damage to our branch office locations, which could
have an adverse effect on our business or results of operations.
We have operations in Mississippi, Alabama, Louisiana and Texas, which include areas
susceptible to hurricanes or tropical storms. Such weather conditions can disrupt our operations,
result in damage to our branch office locations or negatively affect the local economies in which
we operate. In late August 2005, Hurricane Katrina devastated parts of the Mississippi Gulf Coast,
causing substantial damage to residences and businesses in these areas, including 13 of our banking
locations. We cannot predict whether or to what extent damage caused by future hurricanes or storms
will affect our operations or the economies in our market areas, but such weather conditions could
result in a decline in loan originations and an increase in the risk of delinquencies, foreclosures
or loan losses. Our business or results of operations may be adversely affected by these and other
negative effects of devastating hurricanes or storms.
Our operations are subject to extensive governmental regulation.
BancorpSouth, Inc. is a financial holding company under the Bank Holding Company Act and
BancorpSouth Bank is a Mississippi state banking corporation. Both are subject to extensive
governmental regulation, legislation and control. These laws and regulations limit the manner in
which we operate, including the amount of loans we can originate, interest we can charge on loans
and fees we can charge for certain services. We cannot predict whether, or the extent to which,
the government and governmental organizations may change any of these laws or controls. We also
cannot predict how such changes would adversely affect our business and prospects.
We face risks in connection with completed or potential acquisitions.
Historically, we have grown through the acquisition of other financial institutions as well as
the development of de novo offices. If appropriate opportunities present themselves, we intend to
pursue additional
18
Table of Contents
acquisitions in the future that we believe are strategic. There can be no
assurance that we will be able to identify, negotiate or finance future acquisitions successfully
or integrate such acquisitions with our current business.
Upon completion of an acquisition, we are faced with the challenges of integrating the
operations, services, products, personnel and systems of acquired companies into our business,
which may divert management’s attention from ongoing business operations. We cannot assure you that
we will be successful in effectively integrating any acquisition into the operations of our
business. Moreover, there can be no assurance that the anticipated benefits of any acquisition will
be realized.
The success of our acquisitions is dependent on the continued employment of key employees. If
acquired businesses do not meet projected revenue targets, or if certain key employees were to
leave, we could conclude that the value of the businesses has decreased and that the related
goodwill has been impaired. If we were to conclude that goodwill has been impaired, it would result
in an impairment of goodwill charge to us, which would adversely affect our results of operations.
Issuing additional shares of our common stock to acquire other banks, bank holding companies,
financial holding companies and insurance agencies may result in dilution for existing shareholders
and may adversely affect the market price of our stock.
In connection with our growth strategy, we have issued, and may issue in the future, shares of
our common stock to acquire additional banks, bank holding companies, financial holding companies
and insurance agencies. Resales of substantial amounts of common stock in the public market and
the potential of such sales could adversely affect the prevailing market price of our common stock
and impair our ability to raise additional capital through the sale of equity securities. We
usually must pay an acquisition premium above the fair market value of acquired assets for the
acquisition of banks, bank holding companies, financial holding companies and insurance agencies.
Paying this acquisition premium, in addition to the dilutive effect of issuing additional shares,
may also adversely affect the prevailing market price of our common stock.
Our ability to declare and pay dividends is limited by law.
We derive our income solely from dividends received from owning the Bank’s common stock.
Federal and state law limit the Bank’s ability to declare and pay dividends. In addition, the
Federal Reserve may impose restrictions on our ability to declare and pay dividends on our common
stock.
Our growth strategy includes risks that could have an adverse effect on financial performance.
A significant element of our growth strategy is the acquisition of additional banks, bank
holding companies, financial holding companies and insurance agencies in order to achieve greater
economies of scale. We cannot assure you that the current level of growth opportunities will
continue to exist, that we will be able to acquire banks, insurance agencies, bank holding
companies and financial holding companies that satisfy our criteria or that any such acquisitions
will be on terms favorable to us. Further, our growth strategy requires that we continue to hire
qualified personnel, while concurrently expanding our managerial and operational infrastructure.
We cannot assure you that we will be able to hire and retain qualified personnel or that we will be
able to successfully expand our infrastructure to accommodate future acquisitions or growth. As a
result of these factors, we may not realize the expected economic benefits associated with our
acquisitions. This could have a material adverse effect on our financial performance.
Diversification in types of financial services may adversely affect our financial performance.
As part of our business strategy, we may further diversify our lines of business into areas
that are not traditionally associated with the banking business. As a result, we would need to
manage the development of new business lines in which we have not previously participated. Each
new business line would require the investment of additional capital and the significant
involvement of our senior management to develop and integrate the service subsidiaries with our
traditional banking operations. We can offer no assurances that we will be able to develop and
integrate new services without adversely affecting our financial performance.
Monetary policies and economic factors may limit our ability to attract deposits or make loans.
The monetary policies of federal regulatory authorities, particularly the Federal Reserve, and
economic conditions in our service area and the United States generally, affect our ability to
attract deposits and extend loans. We cannot predict either the nature and timing of any changes
in these monetary policies and economic conditions, including the Federal Reserve’s interest rate
policies, or their impact on our financial performance. The banking
19
Table of Contents
business is subject to various
material business risks, which may become more acute in periods of economic slowdown or recession.
During such periods, foreclosures generally increase and such conditions could also lead to a
potential decline in deposits and demand for loans.
We compete with other financial holding companies, bank holding companies, banks, insurance and
financial services companies.
The banking business is extremely competitive in our service areas in Mississippi, Tennessee,
Alabama, Arkansas, Texas, Louisiana and Florida. We compete, and will continue to compete, with
well-established banks, credit unions, insurance agencies and other financial institutions, some of
which have significantly greater resources and lending limits. Some of our competitors provide
certain services that we do not provide.
Anti-takeover provisions may discourage a change of our control.
Our governing documents and certain agreements to which we are a party contain provisions
which make a change-in-control difficult to accomplish, and may discourage a potential acquirer.
These include a shareholder rights plan, or “poison pill,” a classified or “staggered” Board of
Directors, change-in-control agreements with members of management and supermajority voting
requirements. These anti-takeover provisions may have an adverse effect on the market for our
common stock.
Securities that we issue, including our common stock, are not FDIC insured.
Securities that we issue, including our common stock, are not savings or deposit accounts or
other obligations of any bank and are not insured by the FDIC, the Bank Insurance Funds, any other
governmental agency or instrumentality or any private insurer and are subject to investment risk,
including the possible loss of principal
ITEM 1B. UNRESOLVED STAFF COMMENTS.
None.
ITEM 2. PROPERTIES.
The physical properties of the Company are held by its subsidiaries as follows:
ITEM 3. LEGAL PROCEEDINGS.
The Company and its subsidiaries are engaged in lines of business that are heavily regulated
and involve a large volume of financial transactions with numerous customers through offices in
seven states. Although the
20
Table of Contents
Company and its subsidiaries have developed policies and procedures to
minimize the impact of legal noncompliance and other disputes, litigation presents an ongoing risk.
The Company and its subsidiaries are defendants in various lawsuits arising out of the normal
course of business, including claims against entities to which the Company is a successor as a
result of business combinations. In the opinion of management, the ultimate resolution of such
matters should not have a material adverse effect on the Company’s consolidated financial position
or results of operations. Litigation is, however, inherently uncertain, and the Company cannot
make assurances that it will prevail in any of these actions, nor can it estimate with reasonable
certainty the amount of damages that it might incur.
During the second quarter of 2006, the State Tax Commission of the State of Mississippi and
the Company resolved the issues related to the State Tax Commission’s audit of the Company’s income
tax returns for
the tax years 1998 through 2001. As a result, the Company paid additional taxes in the amount
of $40,000 plus interest of $25,000. The balance of the previously recorded liability related to
this matter of approximately $2.0 million was credited against the Company’s second quarter’s
income tax expense.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS.
No matter was submitted to a vote of the Company’s security holders during the fourth
quarter of 2006.
PART II
ITEM 5. MARKET FOR THE REGISTRANT’S COMMON EQUITY, RELATED STOCKHOLDER MATTERS AND ISSUER PURCHASES
OF EQUITY SECURITIES.
MARKET FOR COMMON STOCK
The common stock of the Company trades on the New York Stock Exchange under the symbol
“BXS.” The following table sets forth, for the quarters indicated, the range of sale prices of the
Company’s common stock as reported on the New York Stock Exchange:
HOLDERS OF RECORD
As
of February 23, 2007, there were 9,425 shareholders of record of the Company’s common
stock.
DIVIDENDS
The Company declared cash dividends each quarter in an aggregate annual amount of $0.79
per share during 2006 and $0.76 per share during 2005. Future dividends, if any, will vary
depending on the Company’s profitability, anticipated capital requirements and applicable federal
and state regulations. See “Item 1. Business – Regulation and Supervision” and Note 16 to the
Company’s Consolidated Financial Statements included elsewhere in this Report for more information
on restrictions and limitations on the Company’s ability to pay dividends.
21
Table of Contents
ISSUER PURCHASES OF EQUITY SECURITIES
The Company made the following purchases of its common stock during the three months
ended December 31, 2006:
ITEM 6. SELECTED FINANCIAL DATA.
The table below sets forth the Company’s selected financial and operating data. When
reviewing this selected financial and operating data, it is important that you read along with it
the historical financial statements and related notes included elsewhere in this Report, as well as
the section of this Report captioned “Item 7. Management’s Discussion and Analysis of Financial
Condition and Results of Operations” for, among other things, a discussion of accounting changes
and business combinations.
22
Table of Contents
ITEM 7. MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS.
OVERVIEW
The Company is a regional financial holding company with approximately $12.0 billion in assets
headquartered in Tupelo, Mississippi. The Company’s wholly-owned banking subsidiary has commercial
banking operations in Mississippi, Tennessee, Alabama, Arkansas,
Texas, Louisiana and Florida. The Bank and its consumer finance, credit insurance, insurance agency and
brokerage subsidiaries provide commercial banking, leasing, mortgage origination and servicing,
insurance, brokerage and trust services to corporate customers, local governments, individuals and
other financial institutions through an extensive network of branches and offices.
Management’s discussion and analysis provides a narrative discussion of the Company’s
financial condition and results of operations for the previous three years. For a complete
understanding of the following discussion, you should refer to the Consolidated Financial
Statements and related Notes presented elsewhere in this Report. This discussion and analysis is
based on reported financial information, and certain amounts for prior years have been reclassified
to conform with the current financial statement presentation. The information that follows is
provided to enhance comparability of financial information between years and to provide a better
understanding of the Company’s operations.
As a financial holding company, the financial condition and operating results of the Company
are heavily influenced by economic trends nationally and in the specific markets in which the
Company’s subsidiaries provide financial services. Most of the revenue of the Company is derived
from the operation of its principal operating subsidiary, the Bank. The financial condition and
operating results of the Bank are affected by the level and volatility of interest rates on loans,
investment securities, deposits and other borrowed funds, and the impact of economic downturns on
loan demand and creditworthiness of existing borrowers. The financial services industry is highly
competitive and heavily regulated. The Company’s success depends on its ability to compete
aggressively within its markets while maintaining sufficient asset quality and cost controls to
generate net income.
The table below summarizes key indicators of the Company’s financial performance for the years
ended December 31, 2006, 2005 and 2004.
23
Table of Contents
The increase in the Company’s net income for 2006 when compared to 2005 was primarily
attributable to the increase in its net interest revenue. The primary source of revenue for the
Company is the amount of net interest revenue earned by the Bank. Net interest revenue is the
difference between interest earned on loans and investments and interest paid on deposits and other
obligations. Net interest revenue for 2006 was $385.8 million,
compared to $355.6 million for 2005 and $333.8 million for 2004. Net interest revenue is affected
by the general level of interest rates, changes in interest rates and changes in the amount and
composition of interest earning assets and interest bearing liabilities. The Company’s long-term
objective is to manage those assets and liabilities to maximize net interest revenue, while
balancing interest rate, credit, liquidity and capital risks. In 2006, the Company’s net interest
revenue continued to be positively impacted by increases in interest rates as well as the increased
loan demand resulting from favorable economic activity throughout most of the Bank’s markets and
the Company’s continued focus on funding this growth with maturing investment securities and
lower-cost liabilities. Also positively impacting
the Company’s net income was the decrease in the Company’s provision for credit losses in 2006
compared to 2005. During 2005, the company increased the provision by $7.6 million related to the
expected impact of Hurricane Katrina on the Mississippi Gulf Coast region. Because the actual
effect of Hurricane Katrina on the Company’s customers has been less than what was originally
estimated in 2005, the Company reversed $5.9 million of the allowance for credit losses that was
related to Hurricane Katrina during 2006.
The Company has taken steps to diversify its revenue stream by increasing the amount of
revenue received from mortgage lending operations, insurance agency activities, brokerage and
securities activities and other activities that generate fee income. Management believes this
diversification is important to reduce the impact of fluctuations in net interest revenue on the
overall operating results of the Company. Noninterest revenue for 2006 was $206.1 million,
compared to $198.8 million for 2005 and $183.5 million in 2004. One of the primary contributors to
noninterest revenue in 2006 was the increase in insurance commissions. Insurance commissions
increased 15.1% in 2006 compared to 2005 after increasing 5.8% in 2005 compared to 2004 as a result
of the increase in policies written in 2006, including substantial new business generated in the
Mississippi Gulf Coast region, coupled with higher policy premiums. Noninterest revenue in 2006
was also positively impacted by the 22.7% increase in trust revenue primarily as a result of the
Company’s change from recognizing trust income as collected to recognition of trust income on the
accrual method. Noninterest revenue in 2005 was positively impacted by the $6.9 million gain from
insurance proceeds relating to the effects of Hurricane Katrina. Both 2006 and 2005 noninterest
revenue reflected decreases in mortgage lending as competitive pricing pressure, which is common in
a rising mortgage interest rate environment, resulted in decreasing revenue. Service charges
increased 7.6% in 2006 compared to 2005 as service charge revenue in 2005 was negatively impacted
by the Company’s waiver of certain fees and service charges for people and businesses in the areas
affected by Hurricane Katrina.
Improved asset quality allowed net charge-offs to fall to 0.15% of average loans during 2006
from 0.23% of average loans in 2005 and 0.31% of average loans in 2004. Noninterest expense for
2006 was $393.2 million, an increase of 8.6% from $362.1 million for 2005, which was an increase of
5.6% from $342.9 million for 2004. The increases in noninterest expense primarily resulted from
additional salaries and employee benefits associated with the acquisitions of three banks since
late December 2004 and increased occupancy costs from opening new offices during 2006 and 2005 as
the Company continued to reinvest by expanding its branch and ATM networks while systems and
operational consolidation efforts continued. The Company completed the acquisition of American
State Bank Corporation on December 1, 2005. Pursuant to the merger, American State Bank
Corporation’s banking subsidiary, American State Bank, merged with and into the Bank. The Company
completed the acquisitions of Premier Bancorp, Inc. and Business Holding Corporation on December
31, 2004. Pursuant to the mergers, the banking subsidiaries of these two bank holding companies,
Premier Bank of Brentwood and The Business Bank of Baton Rouge, merged with and into the Bank.
Noninterest expense in 2005 was also impacted by expenses related to the Company’s hurricane relief
efforts and assistance for affected employees. Income tax expense was $65.0
24
Table of Contents
million in 2006, $52.6
million in 2005 and $46.3 million in 2004. Income tax expense increased in 2006 primarily as a
result of an increase in the provision for income taxes of $6.8 million due to a
statutory limitation that prevents the Company from recovering excess income taxes paid in prior
years. The major components of net income are discussed in more detail in the various sections that
follow.
CRITICAL ACCOUNTING POLICIES AND ESTIMATES
The Company’s consolidated financial statements are prepared in accordance with accounting
principles generally accepted in the United States, which require the Company to make estimates and
assumptions (see Note 1 to the Company’s Consolidated Financial Statements included elsewhere in
this Report). The Company believes that its determination of the allowance for credit losses, the
valuation of mortgage servicing rights and the
estimation of pension and other post retirement benefit amounts involve a higher degree of judgment
and complexity than the Company’s other significant accounting policies. Further, these estimates
can be materially impacted by changes in market conditions or the actual or perceived financial
condition of the Company’s borrowers, subjecting the Company to significant volatility of earnings.
Allowance for Credit Losses
The allowance for credit losses is established through the provision for credit losses, which
is a charge against earnings. Provisions for credit losses are made to reserve for estimated
probable losses on loans. The allowance for credit losses is a significant estimate and is
regularly evaluated by the Company for adequacy by taking into consideration factors such as
changes in the nature and volume of the loan portfolio; trends in actual and forecasted portfolio
credit quality, including delinquency, charge-off and bankruptcy rates; and current economic
conditions that may affect a borrower’s ability to pay. In determining an adequate allowance for
credit losses, management makes numerous assumptions, estimates and assessments. The use of
different estimates or assumptions could produce different provisions for credit losses. See “Item
7. Management’s Discussion and Analysis of Financial Condition and Results of Operations – Results
of Operations – Provisions for Credit Losses and Allowance for Credit Losses” included herein for
more information. At December 31, 2006, the allowance for credit losses was $98.8 million,
representing 1.26% of total loans and leases at year-end.
Mortgage Servicing Rights
The Company recognizes as assets the rights to service mortgage loans for others, known as
mortgage servicing rights (“MSRs”). Prior to the Company’s adoption of SFAS No. 156 “Accounting
for Servicing of Financial Assets – an amendment of FASB Statement No. 140,” MSRs were capitalized
based on the relative fair value of the servicing right and the mortgage loan on the date the
mortgage loan is sold. As a result of the Company’s adoption of SFAS No. 156 on January 1, 2006,
the Company carries MSRs at fair value with subsequent remeasurement of MSRs based on change in
fair value. In determining the fair value of MSRs, the Company utilizes the expertise of an
independent third party. An estimate of the fair value of the Company’s MSRs is determined by the
independent third party utilizing assumptions about factors such as mortgage interest rates,
discount rates, mortgage loan prepayment speeds, market trends and industry demand. This estimate
and the assumptions used by the independent third party to arrive at the estimate are reviewed by
management. Because the valuation is determined by using discounted cash flow models, the primary
risk inherent in valuing the MSRs is the impact of fluctuating interest rates on the estimated life
of the servicing revenue stream. The use of different estimates or assumptions could also produce
different fair values. The Company does not hedge the change in fair value of MSRs and, therefore,
the Company is susceptible to significant fluctuations in the fair value of its MSRs in changing
interest rate environments. At December 31, 2006, the Company’s mortgage servicing asset was
valued at $35.3 million.
Pension and Postretirement Benefits
Accounting for pension and other postretirement benefit amounts is another area where the
accounting guidance requires management to make various assumptions in order to appropriately value
any related asset or liability. Estimates that the Company makes to determine pension-related
assets and liabilities include actuarial assumptions, expected long-term rate of return on plan
assets, rate of compensation increase for participants and discount rate. Estimates that the
Company makes to determine asset and liability amounts for other postretirement benefits include
actuarial assumptions and a discount rate. Changes in these estimates could impact earnings. For
example, lower expected long-term rates of return on plan assets could negatively impact earnings,
as would lower
25
Table of Contents
estimated discount rates or higher rates of compensation increase. We utilize the expertise
of an independent third party to perform actuarial calculations related to the pension and other
postretirement plans. In estimating the projected benefit obligation, actuaries must make
assumptions about such factors as mortality rate, turnover rate, retirement rate, disability rate
and the rate of compensation increases. The Company accounts for the over-funded or under-funded
status of its defined benefit and postretirement plans as an asset or liability in its consolidated
balance sheets and recognizes changes in that funded status in the year in which the changes occur
through comprehensive income as require by SFAS No. 158 “Employers’ Accounting for Defined Benefit
Pension and Other Postretirement Plans – an amendment of SFAS No. 87, 88, 106 and 132R” which was
adopted on December 31, 2006. The adoption of SFAS No. 158 had no material impact on the
regulatory requirements for capital of the Company. In accordance with SFAS No. 87, “Employers’
Accounting for Pensions,” the Company calculates the expected return on plan assets each year based
on the balance in the pension asset portfolio at the beginning of the year and the expected
long-term rate of return on that portfolio. In determining the reasonableness of the expected rate
of return, the Company considers a variety of factors including the actual return earned on plan
assets, historical rates of return on the various asset classes of which the plan portfolio is
comprised and current/prospective capital market conditions and economic forecasts. The Company
used an expected rate of return of 8% on plan assets for 2006, 2005 and 2004. The discount rate is
the rate used to determine the present value of the Company’s future benefit obligations for its
pension and other postretirement benefit plans. It is an assumption that reflects the rates
available on long-term, high-quality, fixed-income debt instruments and is reset annually on the
measurement date of each year. The Company used the same discount rate of 5.75% in 2006 and 2005
and used a discount rate of 6.00% in 2004.
RESULTS OF OPERATIONS
Net Interest Revenue
Net interest revenue increased 8.5% to $385.8 million in 2006 from $355.6 million in 2005,
which represented an increase of 6.5% from $333.8 million in 2004. The increase in net interest
revenue for 2006 and 2005 is related to the combination of growth in loans during a rising interest
rate environment and the Company’s continued focus on funding this growth with maturing investment
securities and lower-cost liabilities. Net interest revenue is the difference between interest
revenue earned on assets such as loans, leases and securities, and interest expense paid on
liabilities such as deposits and borrowings, and continues to provide the Company with its
principal source of revenue. Net interest revenue is affected by the general level of interest
rates, changes in interest rates and changes in the amount and composition of interest earning
assets and interest bearing liabilities. The Company’s long-term objective is to manage interest
earning assets and interest bearing liabilities to maximize net interest revenue, while balancing
interest rate, credit, liquidity and capital risks. For purposes of the following discussion,
revenue from tax-exempt loans and investment securities has been adjusted to a fully taxable
equivalent basis, using an effective tax rate of 35%.
Interest revenue increased 21.6% to $692.0 million in 2006 from $569.1 million in 2005, which
represented a increase of 12.3% from $507.0 million in 2004. The increase in interest revenue
during 2006 was attributable to a 6.9% increase in average interest earning assets to $10.7 billion
in 2006 and an increase in the yield of those assets of 78 basis points to 6.46% in 2006. The
increase in interest revenue during 2005 was attributable to a 2.8% increase in average interest
earning assets to $10.0 billion in 2005 and an increase in the yield of those assets of 48 basis
points to 5.68% in 2005. While average interest earning assets increased 2.5% to $9.8 billion in
2004, this increase was more than offset by a decrease of 44 basis points in the yield of those
assets to 5.20% in 2004, resulting in a decrease in interest revenue.
Interest expense increased 44.9% to $296.1 million in 2006 from $204.4 million in 2005, which
represented an increase of 24.7% from $163.8 million in 2004. The increase in interest expense
during 2006 was attributable to a 6.4% increase in average interest bearing liabilities to $8.9
billion in 2006 and an increase in the average rate paid on those liabilities of 88 basis points to
3.32% in 2006. The increase in interest expense during 2005 was attributable to a 1.5% increase in
average interest bearing liabilities to $8.4 billion in 2005 and an increase in the average rate
paid on those liabilities of 46 basis points to 2.44% in 2005. While average interest bearing
liabilities increased 2.1% to $8.3 billion in 2004, this increase was more than offset by a
decrease of 19 basis points in the average rate paid on those liabilities to 1.98% in 2004,
resulting in a decrease in interest expense.
The relative performance of the Company’s lending and deposit-raising functions is frequently
measured by two calculations – net interest margin and net interest rate spread. Net interest
margin is determined by dividing fully-taxable equivalent net interest revenue by average earning
assets. Net interest rate spread is the difference
26
Table of Contents
between the average fully-taxable equivalent
yield earned on interest earning assets and the average rate paid on interest bearing liabilities.
Net interest margin is generally greater than the net interest rate spread because of the
additional income earned on those
assets funded by noninterest bearing liabilities, or free funding, such as noninterest bearing
demand deposits and shareholders’ equity.
Net interest margin for 2006 was 3.70%, an increase of 6 basis points from 3.64% for 2005,
which represented an increase of 12 basis points from 3.52% for 2004. Net interest rate spread for
2006 was 3.14%, a decrease of 10 basis points from 3.24% for 2005, which represented an increase of
2 basis points from 3.22% for 2004. The increase in net interest margin for 2006 was primarily a
result of the larger percentage increase in the earning asset yield relative to the percentage
increase in the average earning assets. The earning asset yield increase for 2006 was a result of
favorable economic activity throughout most of the Bank’s markets, resulting in stronger loan
demand. The Company has also invested funds from maturing securities in higher rate loans or new
higher rate short- and intermediate-term investments. The decrease in the net interest rate spread
for 2006 was primarily a result of the larger increase in the average rate paid on interest bearing
liabilities, from 2.44% in 2005 to 3.32% in 2006, than the increase in the average rate earned on
interest earning assets from 5.68% in 2005 to 6.46% in 2006. The increase in net interest margin
and net interest rate spread in 2005 was primarily a result of the larger increase in the average
rate earned on interest earning assets, from 5.20% in 2004 to 5.68% in 2005, than the increase in
the average rate paid on interest bearing liabilities, from 1.98% in 2004 to 2.44% in 2005. The
earning asset yield increase for 2005 was a result of the favorable economic activity throughout
most of the Bank’s markets, driving increased interest rates as well as stronger loan demand. The
Company has also maintained a conservative stance in the average maturity of its investment assets
mitigating the Company’s liability-sensitivity as interest rates have increased. The decrease in
net interest margin and net interest rate spread in 2004 was primarily because of the larger
decline in the earning asset yield relative to the decline in funding cost.
The Company experienced growth in average interest earning assets and average interest bearing
liabilities during the three years ended December 31, 2006. Average interest earning assets
increased 6.9% during 2006, 2.8% during 2005 and 2.5% during 2004. The asset growth was paced by
increases in the Company’s securities portfolios as economic conditions and competition limited
loan growth during 2004, with loan growth improving during 2005 and 2006. Average interest bearing
liabilities increased 6.4% during 2006, 1.5% during 2005 and 2.1% during 2004 because of increases
in the Company’s deposits and short-term borrowings.
The table below presents average interest earning assets, average interest bearing
liabilities, net interest income, net interest margin and net interest rate spread for the three
years ended December 31, 2006. Each of the measures is reported on a fully-taxable equivalent
basis.
27
Table of Contents
28
Table of Contents
Net interest revenue may also be analyzed by segregating the rate and volume components
of interest revenue and interest expense. The table below presents an analysis of rate and volume
change in net interest revenue from 2005 to 2006 and from 2004 to 2005. Changes that are not
solely a result of volume or rate have been allocated to volume.
Interest Rate Sensitivity
The interest rate sensitivity gap is the difference between the maturity or repricing
opportunities of interest sensitive assets and interest sensitive liabilities for a given period of
time. A prime objective of asset/liability management is to maximize net interest margin while
maintaining a reasonable mix of interest sensitive assets and liabilities. The following table
presents the Company’s interest rate sensitivity at December 31, 2006:
29
Table of Contents
In the event interest rates decline after 2006, based on this interest rate sensitivity gap,
it is likely that the Company would experience slightly increased net interest revenue in the
following one-year period, as the cost of funds will decrease at a more rapid rate than interest
revenue on interest earning assets. Conversely, in the event interest rates increase after 2006,
based on this interest rate sensitivity gap, the Company would likely experience decreased net
interest revenue in the following one-year period. It should be noted that the balances shown in
the table above are at December 31, 2006 and may not be reflective of positions at other times
during the year or in subsequent periods. Allocations to specific interest rate sensitivity
periods are based on the earlier of maturity or repricing dates.
Provisions for Credit Losses and Allowance for Credit Losses
The provision for credit losses is the periodic cost of providing an allowance or reserve for
estimated probable losses on loans and leases. The Bank employs a systematic methodology for
determining its allowance for credit losses that considers both qualitative and quantitative
factors and requires that management make material estimates and assumptions that are particularly
susceptible to significant change. Some of the quantitative factors considered by the Bank include
loan and lease growth, changes in nonperforming and past due loans and leases, historical loan and
lease loss experience, delinquencies, management’s assessment of loan and lease portfolio quality,
the value of collateral and concentrations of loans and leases to specific borrowers or industries.
Some of the qualitative factors that the Bank considers include existing general economic
conditions and the inherent risks of individual loans and leases.
The allowance for credit losses is based principally upon the Bank’s loan and lease
classification system, delinquencies and historic loss rates. The Bank has a disciplined approach
for assigning credit ratings and classifications to individual credits. Each credit is assigned a
grade by the appropriate loan officer, which serves as a basis for the credit analysis of the
entire portfolio. The assigned grade reflects the borrower’s creditworthiness, collateral values,
cash flows and other factors. An independent loan review department of the Bank is responsible for
reviewing the credit rating and classification of individual credits and assessing trends in the
portfolio,
30
Table of Contents
adherence to internal credit policies and procedures and other factors that may affect
the overall adequacy of the allowance. The work of the loan review
department is supplemented by governmental regulatory agencies in connection with their periodic
examinations of the Bank, which provides an additional independent level of review. The loss
factors assigned to each classification are based upon the attributes of the loans and leases
typically assigned to each grade (such as loan to collateral values and borrower creditworthiness).
Management periodically reviews the loss factors assigned in light of the general economic
environment and overall condition of the loan and lease portfolio and modifies the loss factors
assigned to each classification as it deems appropriate. The overall allowance generally includes
a component representing the results of other analyses intended to ensure that the allowance is
adequate to cover other probable losses inherent in the portfolio. This component considers
analyses of changes in credit risk resulting from the differing underwriting criteria in acquired
loan and lease portfolios, industry concentrations, changes in the mix of loans and leases
originated, overall credit criteria and other economic indicators.
The provision for credit losses, the allowance for credit losses as a percentage of loans and
leases outstanding at December 31, 2006, 2005 and 2004 and net charge-offs and net charge-offs as a
percentage of average loans and leases for those years are shown in the following table:
The
decrease in the provision for credit losses in 2006 compared to 2005
and the increase in the provision for credit losses in 2005 compared
to 2004 is largely due to the special provision for credit losses of
$7.6 million recorded in 2005 related to the expected impact of
Hurricane Katrina on the Mississippi Gulf Coast region. If you
exclude this special provision in 2005, the provision for credit
losses decreased 3.3% in 2005 when compared to 2004. During 2006, the
Company recorded a $5.9 million reduction in the provision for credit
losses as contacts with customers in the hurricane-impacted area were
re-established and losses related to loans in such area were
determined not to be a great as originally anticipated immediately
following the hurricane. If you exclude the reduction in the
provision of $5.9 million due to Hurricane Katrina from 2006 and the
special provision for Hurricane Katrina of $7.6 million from 2005,
the provision for credit losses decreased 14.2% in 2006 compared to
2005. These decreases in the Company’s provision for credit
losses, excluding the impact of the special provision for Hurricane
Katrina, reflect the continued improvement in the credit quality of
our loan portfolio as does the decreased level of net charge-offs in
2006, 2005 and 2004. Net charge-offs in 2006 included $1.4
million in life insurance proceeds from a policy assigned to the
Company to secure a loan that was previously charged-off.
Non-performing assets include non-accrual loans and leases, loans and leases more than 90 days
past due, restructured loans and leases and foreclosed real estate. These assets serve as one
indication of the quality of the Bank’s loan and lease portfolio. Non-performing assets totaled
$33.9 million at December 31, 2006, compared to $44.7 million at December 31, 2005 and $48.7
million at December 31, 2004. The level of the Bank’s non-performing assets in 2006, 2005 and 2004
reflects the improvement in the credit quality of the Bank’s loans at December 31, 2006, 2005 and
2004, respectively. For more information on nonperforming assets, see “Item 7. Management’s
Discussion and Analysis of Financial Condition and Results of Operations — Financial Condition –
Loans and Leases.”
Noninterest Revenue
The components of noninterest revenue for the years ended December 31, 2006, 2005 and 2004 and
the percentage change between years are shown in the following table:
31
Table of Contents
The Company’s revenue from mortgage lending typically fluctuates as mortgage interest rates
change and is primarily attributable to two activities —
origination and sale of new mortgage loans and
servicing mortgage loans. The Company’s normal practice is to generate mortgage loans to sell them
in the secondary market and to either retain or release the associated MSRs with the loan sold.
The Company adopted SFAS No. 156 on January 1, 2006, and, as a result, records MSRs at fair value.
Prior to the Company’s adoption of SFAS No. 156, MSRs were capitalized based on the relative fair
value of the servicing right and the mortgage loan on the date the mortgage loan was sold. For
more information about the Company’s treatment of MSRs, see “Item 7. Management’s Discussion and
Analysis of Financial Condition and Results of Operations – Critical Accounting Policies and
Estimates – Mortgage Servicing Rights” of this report.
Origination revenue, a component of mortgage lending, is comprised of gains or losses from the
sale of the mortgage loans originated. Origination
volume of $614.9 million, $588.6 million and $575.9 million produced origination revenue of $4.1
million, $4.8 million and $7.1 million for 2006, 2005 and 2004, respectively. While origination
volume increased slightly over the past three years, competitive pricing pressure, which is common
in a rising mortgage interest rate environment, resulted in decreasing revenue during the same time
periods.
Revenue from the servicing process, the other component of mortgage lending revenue, includes
fees from the actual servicing of loans and the recognition of changes in the valuation of the
Company’s MSRs. Revenue from the servicing of loans was $9.1 million, $9.2 million and $9.6
million for 2006, 2005 and 2004, respectively. Changes in the fair value of the Company’s MSRs are
generally a result of changes in mortgage interest rates from the previous reporting date. An
increase in mortgage interest rates typically results in an increase in the fair value of the MSRs
while a decrease in mortgage interest rates typically results in a decrease in the fair value of
MSRs. The Company does not hedge the change in fair value of its MSRs and is susceptible to
significant fluctuations in their value in changing interest rate environments. The decline in
fair value on MSRs was $7.1 million, $4.5 million and $5.0 million for 2006, 2005 and 2004,
respectively.
The following table presents the Company’s mortgage lending operations for 2006, 2005 and
2004:
32
Table of Contents
Service charges on deposit accounts increased in 2006 when compared to 2005 because of higher
volumes of items processed and growth in the number of deposit accounts. Although total deposits
increased in 2005, service charges on deposit accounts remained relatively stable in 2005 when
compared to 2004 as a result of a growth in accounts without the service charge feature combined
with the Company’s waiver of certain fees and service charges for people and businesses in the
areas affected by Hurricane Katrina.
Trust income increased 22.7% in 2006 compared to 2005 primarily as a result of the Company’s
change from recognizing trust income as collected to recognition of trust income on the accrual
method. This change resulted in a positive adjustment to trust income in 2006 of approximately
$900,000. Trust income increased 10.0% in 2005 and 6.7% in 2004 primarily as a result of increases
in the value of assets under care (either managed or in custody).
Net securities gains of $40,000 and $472,000 were recorded in 2006 and 2005, respectively,
while net securities losses of $661,000 were recorded in 2004. These amounts reflected the sales
of securities from the available-for-sale portfolio and certain securities that were within three
months of maturity from the held-to-marturiy portfolio. The security losses in 2004 included a
$1.5 million other-than-temporary impairment charge for certain investments in Fannie Mae and
Freddie Mac preferred stock.
The increase in insurance commissions from 2005 to 2006 is primarily a result of the increase
in policies written in 2006, including substantial new business generated in the Mississippi Gulf
Coast region, coupled with higher policy premiums. The increase in insurance commissions in 2005
was primarily a result of the increase in policies written and the addition of experienced
producers during 2005. Revenue from insurance commissions increased in 2004 as a result of the
acquisition of two insurance agencies during 2003. The Company plans to continue to expand the
products and services offered by its insurance agencies.
While other noninterest revenue for 2006 included a gain of $732,000 from the redemption of
Class B shares of MasterCard common stock held by the Company, other noninterest revenue decreased
when compared to 2005 as the Company recorded a $6.9 million gain from insurance proceeds relating
to the hurricane during the last quarter of 2005. This $6.9 million gain is primarily the result
of insurance proceeds exceeding the Company’s write-off of damage to its premises and equipment as
a result of the hurricane. Other noninterest revenue in 2005 also included a $765,000 gain related
to the sale of certain insurance agency accounts, an $831,000 gain on the sale of a branch bank and
a $1.7 million gain on the sale of the Company’s membership in the PULSE Network, an electronic
banking network in which the Company continues to participate and retain access. The increase in
other noninterest revenue in 2004 was primarily attributable to fees generated from brokerage
activities as well as increased customer account analysis charges and debit card net interchange
fees. Other noninterest revenue included gains of $2.9 million, $3.1 million and $2.9 million in
2006, 2005 and 2004, respectively, from the sales of student loans originated by the Company.
Other noninterest revenue in 2004 also included $3.15 million in insurance proceeds as partial
reimbursement for prior litigation settlements and related costs and expenses.
Noninterest Expense
The components of noninterest expense for the years ended December 31, 2006, 2005 and 2004 and
the percentage change between years are shown in the following table:
Salaries and employee benefits expense for 2006, 2005 and 2004 increased as a result of
increases in incentive payments (especially commission-based), salary increases, increases in the
cost of employee heath care benefits, compensation costs associated with the acquisition of Premier
Bancorp, Inc. and Business Holding Corporation on December 31, 2004 and of American State Bank
Corporation on December 1, 2005, and the hiring
33
Table of Contents
of employees to staff the banking and insurance
locations added during those years. Assistance given to employees located in areas affected by
Hurricane Katrina also increased the salaries and employee benefits expense for 2005. Pension plan
costs, a component of salaries and employee benefits expense, increased to $8.7 million in 2006
after increasing to $7.1 million in 2005 compared to $6.5 million in 2004. Occupancy expense
increased in 2006, 2005 and 2004 principally as a result of additional branch offices, additional
bank buildings and the bank acquisitions previously discussed. Equipment expense increased when
comparing 2006 to 2005 because of increased depreciation related to the equipment replacement
purchases made during the last four months of 2005 as a result of the damage caused by Hurricane
Katrina, coupled with increases in various maintenance contracts. Equipment expense remained
relatively static when comparing 2005 to 2004 as a result of the Company’s continuing focus on
controlling expenses.
Income Taxes
Income tax expense was $65.0 million in 2006, $52.6 million in 2005 and $46.3 million in 2004.
Income tax expense increased in 2006 primarily as a result of an increase in the
provision for income taxes of $6.8 million due to a statutory limitation that prevents the Company
from recovering excess income taxes paid in prior years. This increase was
partially offset by the reversal of a previously recorded tax contingency of approximately $2.0
million related to a tax assessment resulting from an audit performed by the State Tax Commission
of the State of Mississippi for tax years 1998 through 2001. The issues related to the audit were
resolved in June 2006. With the previously recorded contingency no longer deemed necessary, that
amount was credited against the 2006 income tax expense. The remaining increase in 2006 income tax
expense was a result of the 13.3% increase in pre-tax income. Income tax expense for 2005 and 2004
fluctuated based on pre-tax income. The effective tax rate for 2006 was 34.2% compared to 31.3%
for 2005 and 29.5% for 2004. The increase in the effective tax rate in 2006 is primarily a result
of the increase of $6.8 million previously mentioned. The increase in the effective
tax rate in 2005 compared to 2004 was the result of the reversal of a previously recorded tax
contingency of approximately $1.5 million and the receipt of approximately $550,000 in state tax
refunds during 2004. The previously recorded tax contingency was determined to be no longer
necessary. The state tax refund resulted from the filing of an amended return. Details of the
deferred tax assets and liabilities are included in Note 12 to the Company’s Consolidated Financial
Statements included elsewhere in this Report. Further information about the resolution of the
Mississippi tax audit are included in Note 22 to the Company’s Consolidated Financial Statements
included elsewhere in this Report.
FINANCIAL CONDITION
Loans and Leases
The Bank’s loan and lease portfolio represents the largest single component of the Company’s
earning asset base, comprising 70.8% of average earning assets during 2006. The following table
indicates the average loans and leases, year-end balances of the loan and lease portfolio and the
percentage increases for the years presented:
Average loans increased 7.9% in 2006 compared to 2005. Loans outstanding at December 31, 2006
increased 6.9% compared to December 31, 2005. Average loans increased 10.0% in 2005 compared to
2004. Loans outstanding at December 31, 2005 increased 7.7% compared to December 31, 2004 with
3.8% of the increase related to the acquisition of American State Bank Corporation on December 1,
2005.
Quality, as opposed to growth, is stressed in the Company’s lending policy. The Company’s
non-performing assets, which are carried either in the loan account or other assets on the
consolidated balance sheets, depending on foreclosure status, were as follows at the end of each
year presented:
34
Table of Contents
The level of the Company’s non-performing assets in 2006, 2005 and 2004 reflected a general
improvement in the overall economy of the region serviced by the Company. Because the Company is
primarily a secured lender, management does not anticipate a significant rise in charge-offs. The
Company has not, as a matter of policy, made or participated in any loans or investments relating
to extraordinary corporate transactions such as leveraged buyouts or
leveraged recapitalizations. At December 31, 2006, 2005 and 2004, the Company did not have any
concentration of loans in excess of 10% of loans outstanding. Loan concentrations are considered
to exist when there are amounts loaned to multiple borrowers engaged in similar activities which
would cause them to be similarly impacted by economic or other conditions. The Company conducts
business in a geographically concentrated area but does not consider this factor alone in
identifying loan concentrations. The ability of the Company’s borrowers to repay loans may be
dependent upon the economic conditions prevailing in the Company’s market area.
Included in non-performing assets discussed above were loans the Company considered impaired
totaling $10.1 million, $13.5 million and $11.5 million at December 31, 2006, 2005 and 2004,
respectively.
Securities and Other Earning Assets
The Company uses its securities portfolio to make various term investments, to provide a
source of liquidity and to serve as collateral to secure certain types of deposits and borrowings.
A portion of the Company’s securities portfolio continues to be tax-exempt. Investments in
tax-exempt securities totaled $281.5 million at December 31, 2006, compared to $284.3 million at
the end of 2005. The Company invests only in investment grade securities, with the exception of
obligations of certain counties and municipalities within the Company’s market area, and avoids
other high yield non-rated securities and investments.
At December 31, 2006, the Company’s available-for-sale securities totaled $1.0 billion. These
securities, which are subject to possible sale, are recorded at fair value. At December 31, 2006,
the Company held no securities whose decline in fair value was considered other than temporary.
Net unrealized losses on investment securities as of December 31, 2006 totaled $23.9 million.
Net unrealized losses on held-to-maturity securities comprised $11.7 million of that total, while
net unrealized losses on available-for-sale securities were $12.2 million. Net unrealized gains on
investment securities as of December 31, 2005 totaled $42.5 million. Of that total, $20.1 million
was attributable to held-to-maturity securities and $22.4 million was attributable to
available-for-sale securities.
Deposits
Deposits are the Company’s primary source of funds to support its earning assets. The Company
has been able to effectively compete for deposits in its primary market areas, which has resulted
in the increases in deposits for the years presented.
The following table presents the Company’s average deposit mix and percentage change for the
years indicated:
35
Table of Contents
Liquidity and Capital Resources
One of the Company’s goals is to provide adequate funds to meet increases in loan demand or
any potential increase in the normal level of deposit withdrawals. This goal is accomplished
primarily by generating cash from the Bank’s operating activities and maintaining sufficient
short-term liquid assets. These sources, coupled with a stable deposit base and a strong
reputation in the capital markets, allow the Company to fund earning assets and maintain the
availability of funds. Management believes that the Bank’s traditional sources of maturing loans
and investment securities, sales of loans held for sale, cash from operating activities and a
strong base of core deposits are adequate to meet the Company’s liquidity needs for normal
operations over both the short-term and the long-term.
To provide additional liquidity, the Company utilizes short-term financing through the
purchase of federal funds and securities lending arrangements. Further, the Company maintains a
borrowing relationship with the FHLB which provides liquidity to fund term loans with borrowings of
matched or longer maturities. At December 31, 2006, the Company had long-term advances from the
FHLB totaling approximately $136 million, bearing interest rates from 3.02% to 7.19%. The Company
has pledged eligible mortgage loans to secure the FHLB borrowings and had approximately $2.5
billion in additional borrowing capacity under the existing FHLB borrowing agreement at December
31, 2006.
The Company had informal federal funds borrowing arrangements aggregating approximately $460
million at December 31, 2006. Secured borrowing arrangements utilizing the Company’s securities
portfolio also provide substantial additional liquidity to the Company. Such arrangements
typically provide for borrowings of 95% to 98% of the unencumbered fair value of the Company’s
federal government and government agencies securities portfolio. If these traditional sources of
liquidity were constrained, the Company would be forced to pursue avenues of funding not typically
used and the Company’s net interest margin could be impacted negatively. The Company utilizes,
among other tools, maturity gap tables, interest rate shock scenarios and an active asset and
liability management committee to analyze, manage and plan asset growth and to assist in managing
the Company’s net interest margin and overall level of liquidity. The Company’s approach to
providing adequate liquidity has been successful in the past and management does not anticipate any
short- or long-term changes to its liquidity strategies.
Off-Balance Sheet Arrangements
In the ordinary course of business, the Company enters into various off-balance sheet
commitments and other arrangements to extend credit that are not reflected on the consolidated
balance sheets of the Company. The business purpose of these off-balance sheet commitments is the
routine extension of credit. As of December 31, 2006, commitments to extend credit included
approximately $132 million for letters of credit and approximately $2.1 billion for interim
mortgage financing, construction credit, credit card and other revolving line of credit
arrangements. While most of the commitments to extend credit are made at variable rates, included
in these commitments are forward commitments to fund individual fixed-rate mortgage loans of
approximately $20.5 million at December 31, 2006, with a carrying value and fair value reflecting a
loss of approximately $84,000, which has been recognized in the Company’s results of operations.
Fixed-rate lending commitments expose the Company to risks associated with increases in interest
rates. As a method to manage these risks, the Company also enters into forward commitments to sell
individual fixed-rate mortgage loans. At December 31, 2006, the
Company had $47.7 million in such
commitments to sell, with a carrying value and fair value reflecting a gain of approximately
$86,000. The Company also faces the risk of deteriorating credit quality of borrowers to whom a
commitment to extend credit has been made; however, no significant credit losses are expected from
these commitments and arrangements.
36
Table of Contents
Regulatory Requirements for Capital
The Company is required to comply with the risk-based capital guidelines established by the
Federal Reserve. These guidelines apply a variety of weighting factors which vary according to the
level of risk associated with the assets. Capital is measured in two “Tiers”: Tier I consists of
common shareholders’ equity and qualifying noncumulative perpetual preferred stock, less goodwill
and certain other intangible assets; and Tier II consists of general allowance for losses on loans
and leases, “hybrid” debt capital instruments, and all or a portion of other subordinated capital
debt, depending upon remaining term to maturity. Total capital is the sum of Tier I and Tier II
capital. The Company’s Tier I capital and total capital, as a percentage of total risk-adjusted
assets, were 12.34% and 13.55%, respectively, at December 31, 2006, compared to 12.85% and 14.11%,
respectively, at December 31, 2005. Both ratios exceeded the required minimum levels of 4% and 8%,
respectively, for each period. In addition, the Company’s Tier I leverage capital ratio (Tier I
capital divided by total assets, less goodwill) was 8.73% at December 31, 2006 and 8.65% at
December 31, 2005, compared to the required minimum Tier I leverage capital ratio of 4%.
The FDIC’s capital-based supervisory system for insured financial institutions categorizes the
capital position for banks into five categories, ranging from well capitalized to critically
undercapitalized. For a bank to classify as “well capitalized,” the Tier I capital, total capital
and leverage capital ratios must be at least 6%, 10% and 5%, respectively. The Bank met the
criteria for the “well capitalized” category as of December 31, 2006 as its Tier I capital, total
capital and leverage capital ratios were 11.98%, 13.19% and 8.46%, respectively.
There are various legal and regulatory limits on the extent to which the Bank may pay
dividends or otherwise supply funds to the Company. In addition, federal and state regulatory
agencies have the authority to prevent a bank or bank holding company from paying a dividend or
engaging in any other activity that, in the opinion of the agency, would constitute an unsafe or
unsound practice. The Company does not expect these limitations to have a material adverse effect
on its ability to meet its cash obligations.
Uses of Capital
The Company may pursue acquisition transactions of depository institutions and businesses
closely related to banking which further the Company’s business strategies. The Company
anticipates that consideration for any such transactions would be shares of the Company’s common
stock, cash or a combination thereof. For example, the merger with American State Bank Corporation
was completed on December 1, 2005 and the mergers with Premier Bancorp, Inc.
and Business Holding Corporation were completed on December 31, 2004. The consideration in each
transaction was a combination of shares of the Company’s common stock and cash (see Note 2 to the
Company’s Consolidated Financial Statements included elsewhere in this Report). The consideration
for the merger with City Bancorp that is expected to be completed during the first quarter of 2007
is anticipated to be a combination of shares of the Company’s common stock and cash (see Note 24 to
the Company’s Consolidated Financial Statements included elsewhere in this Report).
On April 27, 2005, the Company announced a new stock repurchase program pursuant to which the
Company may acquire up to three million shares of its common stock in the open market at prevailing
market prices or in privately negotiated transactions during the period between May 1, 2005 and
April 30, 2007. The extent and timing of any repurchases will depend on market conditions and
other corporate considerations. Repurchased shares will be held as authorized but unissued shares.
These authorized but unissued shares will be available for use in connection with the Company’s
stock option plans, other compensation programs, other transactions or for other corporate purposes
as determined by the Company’s Board of Directors. At December 31, 2006, 760,500 shares had been
repurchased under this program. The Company will continue to evaluate additional share repurchases
under this repurchase program and will evaluate whether to adopt a new stock repurchase program
before the current program expires. The Company conducts its stock repurchase program by using
funds received in the ordinary course of business. The Company has not experienced, and does not
expect to experience, a material adverse effect on its capital resources or liquidity in connection
with its stock repurchase program during the term of the program.
From January 1, 2001 through December 31, 2006, the Company had repurchased approximately 11.3
million shares of its common stock under various approved repurchase programs.
In 2002, the Company issued $128,866,000 in 8.15% Junior Subordinated Debt Securities to
BancorpSouth Capital Trust I (the “Trust”), a business trust. The Trust used the proceeds from the
issuance of five million shares of 8.15% trust preferred securities, $25 face value per share, to
acquire the 8.15% Junior Subordinated Debt Securities. Both the Junior Subordinated Debt
Securities and the trust preferred securities
37
Table of Contents
mature on January 28, 2032, and are callable at the
option of the Company after January 28, 2007. The $125 million in trust preferred securities
issued by the Trust qualifies as Tier I capital under Federal Reserve guidelines. The Company may
prepay the Junior Subordinated Debt Securities, and in turn the trust preferred securities, at a
prepayment price of 100% of the principal amount of these securities within 90 days of a
determination by the Federal Reserve that trust preferred securities will no longer qualify as Tier
I capital.
The Company assumed $9.3 million in Junior Subordinated Debt Securities and the related $9.0
million in trust preferred securities pursuant to the mergers on December 31, 2004 with Premier
Bancorp, Inc. and Business Holding Corporation and assumed $6.7 million in Junior Subordinated Debt
Securities and the related $6.5 million in trust preferred securities pursuant to the merger on
December 1, 2005 with American State Bank Corporation (see Notes 2 and 11 to the Company’s
Consolidated Financial Statements included elsewhere in this Report). The aggregate $15.5 million
in trust preferred securities qualifies as Tier I capital under Federal Reserve guidelines.
Contractual Obligations
The Company has contractual obligations to make future payments on debt and lease agreements.
See Notes 9, 10, 11 and 22 to the Company’s Consolidated Financial Statements included elsewhere in
this Report for further disclosures regarding contractual obligations. The following table
summarizes the Company’s contractual obligations at December 31, 2006:
The Company’s operating lease obligations represent short and long-term operating lease and
rental payments for facilities, certain software and data processing and other equipment. Purchase
obligations represent obligations to purchase goods and services that are legally binding and
enforceable on the Company and that specify all significant
terms, including: fixed or minimum quantities to be purchased; fixed, minimum or variable price
provisions; and the approximate timing of the transaction. The purchase obligation amounts
presented above primarily relate to certain contractual payments for services provided related to
information technology.
Certain Litigation Contingencies
The Company and its subsidiaries are engaged in lines of business that are heavily regulated
and involve a large volume of financial transactions with numerous customers through offices in
seven states. Although the Company and its subsidiaries have developed policies and procedures to
minimize the impact of legal noncompliance and other disputes, litigation presents an ongoing risk.
The Company and its subsidiaries are defendants in various lawsuits arising out of the normal
course of business, including claims against entities to which the Company is a successor as a
result of business combinations. In the opinion of management, the ultimate resolution of such
matters should not have a material adverse effect on the Company’s consolidated financial position
or results of operations. Litigation is, however, inherently uncertain, and the Company cannot
make assurances that it will prevail in any of these actions, nor can it estimate with reasonable
certainty the amount of damages that it might incur.
Income Tax Contingencies
During the second quarter of 2006, the State Tax Commission of the State of Mississippi and
the Company resolved the issues related to the State Tax Commission’s audit of the Company’s income
tax returns for the tax years 1998 through 2001. As a result, the Company paid additional taxes in
the amount of $40,000 plus interest of
38
Table of Contents
$25,000. The balance of the previously recorded liability
related to this matter of approximately $2.0 million was credited against the Company’s second
quarter’s income tax expense.
Recent Pronouncements
In December 2004, SFAS No. 123, “Share-Based Payment,” was revised by SFAS No. 123R. SFAS No.
123R requires compensation cost related to share-based payment transactions to be recognized in the
financial statements. Compensation cost will be measured based on the grant-date fair value of
the equity or liability instruments issued and is to be recognized over the period that an employee
is required to provide services in exchange for the award. SFAS 123R
was effective for public
companies that do not file as small business issuers as of the beginning of the first annual
reporting period that begins on or after June 15, 2005 (i.e., January 1, 2006 for the Company).
The adoption of SFAS No. 123R had no material impact on the financial position or
results of operations of the Company. As described in Note 15, Stock Incentive and Stock Option
Plans, the Company accelerated the vesting of its “out-of-the-money” unvested options to reduce the
recognition of compensation costs in 2006, 2007 and 2008 for previously granted unvested awards.
As a result of the adoption of Statement 123R, the Company recognized compensation costs for
previously granted unvested awards of approximately $26,000 in 2006.
In March 2005, the Financial Accounting Standards Board (“FASB”) issued FASB Interpretation
No. 47 (“FIN 47”) “Accounting for Conditional Asset Retirement Obligations”. FIN 47 requires
conditional asset retirement obligations to be recognized if a legal obligation exists to perform
asset retirement activities and a reasonable estimate of the fair value of the obligation can be
made. FIN 47 also provides guidance as to when an entity would have sufficient information to
reasonably estimate the fair value of an asset retirement obligation. FIN 47 was adopted by the
Company effective December 31, 2005. The adoption of FIN 47 has had no material impact on the
financial position or results of operations of the Company.
In March 2006, SFAS No. 156 was issued. SFAS No. 156 amends SFAS No. 140, “Accounting for
Transfers and Servicing of Financial Assets and Extinguishments of Liabilities,” as it relates to
the accounting for separately recognized servicing assets and servicing liabilities by requiring
that all separately recognized servicing assets and servicing liabilities be initially measured by
fair value, if practicable. SFAS No. 156 also permits the subsequent measurement of separately
recognized servicing assets and servicing liabilities at fair value. SFAS No. 156 was adopted by
the Company effective January 1, 2006 with the Company electing to measure its servicing rights at
fair value at each reporting date. The adoption of SFAS No. 156 has had no material impact on the
Company’s financial statements.
In June 2006, the FASB issued FASB Interpretation No. 48 (“FIN 48”), “Accounting for
Uncertainty in Income Taxes – an interpretation of SFAS 109.” FIN 48 clarifies the accounting for
uncertainty in income taxes recognized in an enterprise’s financial statements in accordance with
SFAS 109, “Accounting for Income Taxes,” and prescribes a recognition threshold and measurement
attribute for financial statement disclosure of tax positions taken or expected to be taken on a
tax return. FIN 48 also provides guidance on derecognition, classification, interest and
penalties, accounting in interim periods, disclosure and transition. FIN 48 is effective for
fiscal years beginning after December 15,
2006. The Company is currently evaluating the impact that the adoption of FIN 48 will have on
the financial position and results of operations of the Company,
however, the Company does not anticipate that the adoption of FIN 48
will have a material impact on the financial position and results of
operations of the Company.
In February 2006, SFAS No. 155, “Accounting for Certain Hybrid Financial Instruments — an
amendment of FASB Statements No. 133 and 140,” was issued. SFAS No. 155 permits fair value
remeasurement for any hybrid financial instrument that contains an embedded derivative that
otherwise would require bifurcation, clarifies which interest-only strips and principal-only strips
are not subject to the requirements of SFAS No. 133, establishes a requirement to evaluate
interests in securitized financial assets to identify interests that are freestanding derivatives
or that are hybrid financial instruments that contain an embedded derivative requiring bifurcation,
clarifies that concentrations of credit risk in the form of subordination are not embedded
derivatives and amends SFAS No. 140 to eliminate the prohibition on a qualifying special-purpose
entity from holding a derivative financial instrument that pertains to a beneficial interest other
than another derivative financial instrument. In January 2007, the FASB issued Derivatives
Implementation Group Issue B-40, “Application of Paragraph 13(b) to Securitized Interests in
Prepayable Financial Assets” (DIG B40). DIG B40 provides an exemption from the embedded derivative
test of paragraph 13(b) of SFAS No. 133 for instruments that would otherwise require bifurcation if
the test is met solely because of a prepayment feature included within the securitied interest and
prepayment is not controlled by the security holder. SFAS No. 155 and DIG B40 is effective for all
financial instruments acquired or issued after the beginning of an entity’s first fiscal year that
begins after September 15, 2006. Due to the guidance of DIG B40, the
39
Table of Contents
adoption of SFAS No. 155 is
expected to have no material impact on the financial position or results of operations of the
Company.
In September 2006, SFAS No. 157, “Fair Value Measurements,” was issued. SFAS No. 157
establishes a framework for measuring fair value in accordance with generally accepted accounting
principles and expands disclosures about fair value measurements. SFAS No. 157 is effective for
fiscal years beginning after November 15, 2007 and interim periods within those fiscal years. The
Company is currently evaluating the impact that the adoption of SFAS No. 157 will have on the
financial position of the Company.
In September 2006, SFAS No. 158 was issued. SFAS No. 158 requires an employer to recognize
the over-funded or under-funded status of a defined benefit postretirement plan (other than a
multiemployer plan) as an asset or liability in its statement of financial position and to
recognize changes in that funded status in the year in which the changes occur through
comprehensive income. SFAS No. 158 also requires an employer to measure the funded status of a
plan as of the date of its year-end statement of financial position. SFAS No. 158 recognition and
disclosure requirements are effective as of the end of the fiscal year ending after December 15,
2006. SFAS No. 158 measurement requirements are effective for fiscal years ending after December
15, 2008. The adoption of SFAS No. 158 had no material impact on the financial position, results
of operations or regulatory requirements for capital of the Company.
In September 2006, Staff Accounting Bulletin (“SAB”) No. 108, “Considering the Effects of
Prior Year Misstatements when Quantifying Misstatements in Current Year Financial Statements,” was
issued. SAB 108 provides interpretative guidance on how the effects of the carryover or reversal
of prior year misstatements should be considered in quantifying a current year misstatement. SAB
108 requires registrants to quantify errors using both a balance sheet and an income statement
approach and to evaluate whether either approach results in quantifying a misstatement material in
light of relevant quantitative and qualitative factors. SAB 108 must be applied to annual
financial statements for the first fiscal year ending after November 15, 2006. The application of
SAB 108 has had no material impact on the financial position or results of operations of the
Company.
In September 2006, the Emerging Issues Task Force (“EITF”) reached a final consensus on Issue
No. 06-4, “Accounting for the Deferred Compensation and Postretirement Benefit Aspects of
Endorsement Split-Dollar Life Insurance Arrangements.” EITF 06-4 requires employers to recognize a
liability for future benefits provided through endorsement split-dollar life insurance arrangements
that extend into postretirement periods in accordance with SFAS No. 106, “Employers’ Accounting for
Postretirement Benefits Other Than Pensions” or APB Opinion No. 12, “Omnibus Opinion – 1967.” EITF
06-4 is effective for fiscal years beginning after December 15, 2007. Entities should recognize
the effects of applying EITF 06-4 through either (a) a change in accounting principle through a
cumulative-effect adjustment to retained earnings or to other components of equity or net assets in
the statement of financial position as of the beginning of the year of adoption or (b) a change in
accounting principle through retrospective application to all prior periods. The Company is
currently evaluating the impact that the adoption of EITF 06-4 will have on the financial position
of the Company.
ITEM
7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK.
Market risk reflects the risk of economic loss resulting from changes in interest rates
and market prices. This risk of loss can be reflected in either reduced potential net interest
revenue in future periods or diminished market values of financial assets.
The Company’s market risk arises primarily from interest rate risk that is inherent in its
lending, investment and deposit taking activities. Financial institutions derive their income
primarily from the excess of interest collected over interest paid. The rates of interest the
Company earns on its assets and owes on its liabilities are established contractually for a period
of time. Because market interest rates change over time, the Company is exposed to lower profit
margins (or losses) if it cannot adapt to interest rate changes. Several techniques might be used
by a financial institution to minimize interest rate risk. One approach used by the Company is to
periodically analyze its assets and liabilities and make future financing and investing decisions
based on payment streams, interest rates, contractual maturities, repricing opportunities and
estimated sensitivity to actual or potential changes in market interest rates. Such activities
fall under the broad definition of asset/liability management. The Company’s primary
asset/liability management technique is the measurement of its asset/liability gap, that is, the
difference between the amounts of interest-sensitive assets and liabilities that will be refinanced
(repriced) during a given period. If the asset amount to be repriced exceeds the corresponding
liability amount for a certain day, month, year or longer period, the Company is in an
asset-sensitive gap position. In this situation, net interest revenue would increase if market
interest rates rose or decrease if market interest rates fell. If, alternatively, more liabilities
40
Table of Contents
than assets will reprice, the Company is in a liability-sensitive position. Accordingly, net
interest revenue would decline when rates rose and increase when rates fell. These examples assume
that interest-rate changes for assets and liabilities are of the same magnitude, whereas actual
interest-rate changes generally differ in magnitude for assets and liabilities.
Management seeks to manage interest rate risk through the utilization of various tools that
include matching repricing periods for new assets and liabilities and managing the composition and
size of the investment portfolio so as to reduce the risk in the deposit and loan portfolios, while
at the same time maximizing the yield generated from the portfolio.
MSRs
are sensitive to changes in interest rates. Changes in the fair value
of the Company’s MSRs are generally a result of changes in
mortgage interest rates from the previous reporting date. An increase
in mortgage interest rates typically results in an increase in the
fair value of the MSRs while a decrease in mortgage interest rates
typically results in a decrease in the fair value of MSRs. The
Company does not hedge the change in fair value of its MSRs and is
susceptible to significant fluctuations in their value in changing
interest rate environments.
The table below provides information about the Company’s financial instruments that are
sensitive to changes in interest rates as of December 31, 2006. The expected maturity categories
take into account repricing opportunities as well as contractual maturities. For core deposits
without contractual maturities (e.g., interest bearing checking, savings and money market
accounts), the table presents cash flows based on management’s judgement concerning their most
likely runoff or repricing behaviors. The fair value of loans, deposits and other borrowings are
based on the discounted value of expected cash flows using a discount rate that is commensurate
with the maturity. The fair value of securities is based on market prices or dealer quotes.
41
Table of Contents
For additional information about the Company’s market risk and its strategies for
minimizing this risk, see “Item 1. Business – Selected Statistical Information – Investment
Portfolio,” “Item 7. Management’s Discussion and Analysis of Financial Condition and Results of
Operations – Results of Operations – Interest Rate Sensitivity” and “Item 7. Management’s
Discussion and Analysis of Financial Condition and Results of Operations – Financial Condition –
Securities and Other Earning Assets.”
42
Table of Contents
ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA.
SELECTED QUARTERLY FINANCIAL DATA
Summary of Quarterly Results
(1) Quarterly information for the third quarter of 2006 has been
restated. The Company determined that it had overpaid income taxes in
prior years and that approximately $6.75 million of the income taxes
paid was not recoverable because the statute of limitations relating
to the amendment of certain prior year tax returns lapsed during the
third quarter of 2006. The effect of the restatement was an increase
in income tax expense of $6.75 million, which resulted in a decrease
in net income after taxes of $6.75 million. The following table
summarizes the effect of the restatement adjustment on the statement
of income for the three months ended September 30, 2006:
43
Table of Contents
MANAGEMENT’S REPORT ON INTERNAL CONTROL OVER FINANCIAL REPORTING
The Company’s management is responsible for establishing and maintaining adequate
internal control over financial reporting as defined in Rules 13a-15(f) and 15d-15(f) under the
Exchange Act. The Company’s internal control over financial reporting is designed to provide
reasonable assurance regarding the reliability of financial reporting and the preparation of
financial statements for external purposes in accordance with U.S. generally accepted accounting
principles. The Company’s internal control over financial reporting includes those policies and
procedures that:
(i) pertain to the maintenance of records that, in reasonable detail, accurately and
fairly reflect the transactions and dispositions of the assets of the Company;
(ii) provide reasonable assurance that transactions are recorded as necessary to permit
preparation of financial statements in accordance with generally accepted accounting
principles, and that receipts and expenditures of the Company are being made only in
accordance with authorizations of management and directors of the Company; and
(iii) provide reasonable assurance regarding prevention or timely detection of
unauthorized acquisition, use or disposition of the Company’s assets that could have a
material effect on the financial statements.
Because of its inherent limitations, internal control over financial reporting may not prevent
or detect misstatements. Also, projections of any evaluation of effectiveness to future periods are
subject to the risk that controls may become inadequate because of changes in conditions, or that
the degree of compliance with the policies or procedures may deteriorate.
Management assessed the effectiveness of the Company’s internal control over financial
reporting as of December 31, 2006. In making this assessment, management used the criteria set
forth by the Committee of Sponsoring Organizations of the Treadway Commission (COSO) in Internal
Control-Integrated Framework.
Based on our assessment and those criteria, management believes that the Company maintained
effective internal control over financial reporting as of December 31, 2006.
The Company’s independent auditors have issued an attestation report on management’s
assessment of the Company’s internal control over financial reporting. That report appears on page
45 of this Report.
44
Table of Contents
REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM
The Board of Directors and Shareholders of
BancorpSouth, Inc.: We have audited management’s assessment, included in the accompanying Management’s Report on
Internal Control over Financial Reporting, that BancorpSouth, Inc. maintained effective internal
control over financial reporting as of December 31, 2006, based on criteria established in Internal
Control—Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway
Commission (COSO). BancorpSouth, Inc.’s management is responsible for maintaining effective
internal control over financial reporting and for its assessment of the effectiveness of internal
control over financial reporting. Our responsibility is to express an opinion on management’s
assessment and an opinion on the effectiveness of the Company’s internal control over financial
reporting based on our audit.
We conducted our audit 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 effective internal control over financial reporting was
maintained in all material respects. Our audit included obtaining an understanding of internal
control over financial reporting, evaluating management’s assessment, testing and evaluating the
design and operating effectiveness of internal control, and performing such other procedures as we
considered necessary in the circumstances. We believe that our audit provides a reasonable basis
for our opinion.
A company’s internal control over financial reporting is a process designed to provide
reasonable assurance regarding the reliability of financial reporting and the preparation of
financial statements for external purposes in accordance with generally accepted accounting
principles. A company’s internal control over financial reporting includes those policies and
procedures that (1) pertain to the maintenance of records that, in reasonable detail, accurately
and fairly reflect the transactions and dispositions of the assets of the company; (2) provide
reasonable assurance that transactions are recorded as necessary to permit preparation of financial
statements in accordance with generally accepted accounting principles, and that receipts and
expenditures of the company are being made only in accordance with authorizations of management and
directors of the company; and (3) provide reasonable assurance regarding prevention or timely
detection of unauthorized acquisition, use, or disposition of the company’s assets that could have
a material effect on the financial statements.
Because of its inherent limitations, internal control over financial reporting may not prevent
or detect misstatements. Also, projections of any evaluation of effectiveness to future periods
are subject to the risk that controls may become inadequate because of changes in conditions, or
that the degree of compliance with the policies or procedures may deteriorate.
In our opinion, management’s assessment that BancorpSouth, Inc. maintained effective internal
control over financial reporting as of December 31, 2006, is fairly stated, in all material
respects, based on criteria established in Internal Control—Integrated Framework issued by the
Committee of Sponsoring Organizations of the Treadway Commission (COSO). Also, in our opinion,
BancorpSouth, Inc. maintained, in all material respects, effective internal control over financial
reporting as of December 31, 2006, based on criteria established in Internal Control—Integrated
Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission (COSO).
We also have audited, in accordance with the standards of the Public Company Accounting
Oversight Board (United States), the consolidated balance sheets of BancorpSouth, Inc. and
subsidiaries as of December 31, 2006 and 2005, and the related consolidated statements of income,
shareholders’ equity and comprehensive income, and cash flows for each of the years in the
three-year period ended December 31, 2006, and our report dated February 27, 2007 expressed an
unqualified opinion on those consolidated financial statements.
/s/ KPMG LLP
Memphis, Tennessee
February 27, 2007 45
Table of Contents
Report Of Independent Registered Public Accounting Firm
The Board of Directors and Shareholders of
BancorpSouth, Inc.: We have audited the accompanying consolidated balance sheets of BancorpSouth, Inc. and
subsidiaries as of December 31, 2006 and 2005, and the related consolidated statements of income,
shareholders’ equity and comprehensive income, and cash flows for each of the years in the
three-year period ended December 31, 2006. 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 financial statements are free of material
misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and
disclosures in the financial statements. An audit also includes 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 financial position of BancorpSouth, Inc. and subsidiaries as of December 31,
2006 and 2005, and the results of their operations and their cash flows for each of the years in
the three-year period ended December 31, 2006, in conformity with U.S. generally accepted
accounting principles.
As discussed in Notes 1 and 15 to the consolidated financial statements, effective January 1,
2006, the Company adopted the fair value method of accounting for stock-based compensation as
required by Statement of Financial Accounting Standards No. 123R, Share-Based Payment.
As
discussed in Notes 1 and 19 to the consolidated financial statements, effective January 1,
2006, the Company adopted the recognition and disclosure provisions
for separately recognized servicing assets and liabilities as
required by Statement of Financial Accounting Standards No. 156,
Accounting for Servicing of Financial Assets.
As discussed in Notes 1 and 13 to the consolidated financial statements, the Company adopted
the recognition and disclosure provisions of Statement of Financial Accounting Standards No. 158,
Employers’ Accounting for Defined Benefit Pension and Other Postretirement Plans, as of December
31, 2006.
We also have audited, in accordance with the standards of the Public Company Accounting
Oversight Board (United States), the effectiveness of BancorpSouth, Inc.’s internal control over
financial reporting as of December 31, 2006, based on criteria established in Internal
Control—Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway
Commission (COSO), and our report dated February 27, 2007 expressed an unqualified opinion on
management’s assessment of, and the effective operation of, internal control over financial
reporting.
/s/ KPMG LLP
Memphis, Tennessee
February 27, 2007 46
Table of Contents
Consolidated Balance Sheets
BancorpSouth, Inc. and Subsidiaries
See accompanying notes to consolidated financial statements.
47
Table of Contents
Consolidated Statements of Income
BancorpSouth, Inc. and Subsidiaries
See accompanying notes to consolidated financial statements.
48
Table of Contents
Consolidated Statements of Shareholders’ Equity and Comprehensive Income
BancorpSouth, Inc. and Subsidiaries Years Ended December 31, 2006, 2005 and 2004
See accompanying notes to consolidated financial statements.
49
Table of Contents
Consolidated Statements of Cash Flows
BancorpSouth, Inc. and Subsidiaries
See accompanying notes to consolidated financial statements.
50
Table of Contents
Notes to Consolidated Financial Statements
BancorpSouth, Inc. and Subsidiaries December 31, 2006, 2005 and 2004 (1) SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
The consolidated financial statements of BancorpSouth, Inc. (the “Company”) have been prepared
in conformity with accounting principles generally accepted in the United States of America. In
preparing the financial statements, management is required to make estimates and assumptions that
affect the reported amounts of assets and liabilities as of the date of the balance sheets and
revenues and expenses for the periods reported. Actual results could differ significantly from
those estimates. The Company’s subsidiaries are engaged in the business of banking and activities
closely related to banking. The Company and its subsidiaries are subject to the regulations of
certain federal and state regulatory agencies and undergo periodic examinations by those regulatory
agencies. The following is a summary of the more significant accounting and reporting policies.
Principles of Consolidation
The consolidated financial statements include the accounts of the Company and its wholly-owned
subsidiaries, BancorpSouth Bank and its wholly owned subsidiaries (the “Bank”) and Risk Advantage,
Inc. All significant intercompany accounts and transactions have been eliminated in consolidation.
Cash Flow Statements
Cash equivalents include cash and amounts due from banks, including interest bearing deposits
with other banks. The Company paid interest of $284.3 million, $197.9 million and $163.0 million
and income taxes of $84.4 million, $36.8 million and $38.6 million for the years ended December
31, 2006, 2005 and 2004, respectively. Fair value of assets acquired during 2005 as a result of
business combinations totaled $380.8 million, while liabilities assumed totaled $330.4 million.
Fair value of assets acquired during 2004 as a result of business combinations totaled $383.0
million, while liabilities assumed totaled $314.2 million.
Securities
Securities are classified as either held-to-maturity, trading or available-for-sale.
Held-to-maturity securities are debt securities for which the Company has the ability and
management has the intent to hold to maturity. They are reported at amortized cost. Trading
securities are debt and equity securities that are bought and held principally for the purpose of
selling them in the near term. They are reported at fair value, with unrealized gains and losses
included in earnings. Available-for-sale securities are debt and equity securities not classified
as either held-to-maturity securities or trading securities. They are reported at fair value, with
unrealized gains and losses excluded from earnings and reported, net of tax, as a separate
component of shareholders’ equity until realized. Gains and losses on securities are determined on
the identified certificate basis. Amortization of premium and accretion of discount are computed
using the interest method. Changes in the valuation of securities which are considered other than
temporary are recorded as losses in the period recognized.
Securities Purchased and Sold Under Agreements to Resell or Repurchase
Securities
purchased under agreements to resell are generally accounted for as short-term
investments and securities sold under agreements to
repurchase are generally accounted for as collateralized financing
transactions and are recorded at
the amounts at which the securities were acquired or sold plus accrued interest. The securities
pledged as collateral are generally U.S. government and federal agency securities.
Loans and Leases
Loans and leases are recorded at the face amount of the notes reduced by collections of
principal. Loans and leases include net unamortized deferred origination costs or fees. Net
deferred origination costs or fees are recognized as a component of income using the effective
interest method. In the event of a loan pay-off, the remaining net deferred origination costs are
automatically recognized into income and/or expense. Where doubt exists as to the collectibility
of the loans and leases, interest income is recorded as payment is received. Interest is recorded
monthly as earned on all other loans.
The Bank’s policy provides that loans and leases are generally placed in non-accrual status
if, in management’s opinion, payment in full of principal or interest is not expected or payment of
principal or interest is more than 90 days past due, unless the loan or lease is both well-secured
and in the process of collection.
51
Table of Contents
In the normal course of business, management becomes aware of possible credit problems in
which borrowers exhibit potential for the inability to comply with the contractual terms of their
loans and leases, but which do not currently meet the criteria for disclosure as non-performing
loans and leases. Historically, some of these loans and leases are ultimately restructured or
placed in non-accrual status.
Any loan or portion thereof which is classified as “loss” by regulatory examiners or which is
determined by management to be uncollectible because of factors such as the borrower’s failure to
pay interest or principal, the borrower’s financial condition, economic conditions in the
borrower’s industry or the inadequacy of underlying collateral, is charged off.
Provision and Allowance for Credit Losses
The provision for credit losses charged to expense is an amount that, in the judgment of
management, is necessary to maintain the allowance for credit losses at a level that is adequate
based on estimated probable losses on the Company’s current portfolio of loans. Management’s
judgment is based on a variety of factors that include the Company’s experience related to loan and
lease balances, charge-offs and recoveries, scrutiny of individual loans and leases and risk
factors, results of regulatory agency reviews of loans and leases, and present economic conditions
in the Company’s market area. Material estimates that are particularly susceptible to significant
change in the near term are a necessary part of this process. Future additions to the allowance
may be necessary based on changes in economic conditions. In addition, various regulatory agencies,
as an integral part of their examination process, periodically review the Company’s allowance for
credit losses. Such agencies may require the Company to recognize adjustments to the allowance
based on their judgments about information available to them at the time of their examination.
Loans Held for Sale
Mortgages originated and intended for sale in the secondary market and student loans
originated and intended for sale under existing contracts are carried at the lower of cost or
estimated fair value in the aggregate. Estimated fair value is determined on the basis of existing
commitments or the current market value of similar loans. Loan sales
are recognized when the transaction closes, the proceeds are
collected, ownership is transferred and, through the sales agreement,
continuing involvement consists of the right to service the loan for
a fee for the life of the loan, if applicable.
Premises and Equipment
Premises and equipment are stated at cost, less accumulated depreciation and amortization.
Provisions for depreciation and amortization, computed using straight-line methods,
are charged to expense over the shorter of the lease term or the estimated useful lives of the
assets. Costs of major additions and improvements are capitalized. Expenditures for routine
maintenance and repairs are charged to expense as incurred.
Other Real Estate Owned
Real estate acquired in settlement of loans is carried at the lower of cost or fair value,
less estimated selling costs. Fair value is based on independent appraisals and other relevant
factors. At the time of acquisition, any excess of cost over fair value is charged to the
allowance for credit losses. Gains and losses realized on sales are
included in other revenue. Other real estate owned is included in the
other assets category of the consolidated balance sheet and totaled
$10.5 million and $15.9 million at December 31, 2006 and 2005,
respectively.
Goodwill and Other Intangible Assets
Goodwill represents costs in excess of the fair value of net assets acquired in connection
with purchase business combinations. Goodwill and intangible assets acquired in a purchase
business combination and determined to have an indefinite useful life are not amortized, but
instead tested for impairment at least annually in accordance with the provisions of Statement of
Financial Accounting Standards (“SFAS”) No. 142, “Goodwill and Other Intangible Assets.”
Intangible assets with estimable useful lives are amortized over their respective estimated useful
lives to their estimated residual values, and reviewed for impairment in accordance with SFAS No.
144, “Accounting for Impairment or Disposal of Long-Lived Assets.” Goodwill and other intangible
assets are reviewed annually for possible impairment. If impaired, the asset is written down to
its estimated fair value. No impairment charges have been recognized through December 31, 2006.
Mortgage Servicing Rights
The
Company recognizes as assets the rights to service mortgage loans for others, known as
MSRs. Prior to the Company’s adoption of SFAS No. 156, MSRs were recognized based on the relative
fair value of the servicing right and the mortgage loan on the date the mortgage loan is sold. As
a result of the Company’s adoption of SFAS No. 156 on January 1, 2006, the Company records MSRs at
fair value with subsequent remeasurement of MSRs
52
Table of Contents
based on change in fair value. In determining
fair value of MSRs, the Company utilizes the expertise of an independent third party. An estimate
of the fair value of the Company’s MSRs is determined by the independent third party utilizing
assumptions about factors such as mortgage interest rates, discount rates, mortgage loan prepayment
speeds, market trends and industry demand. This estimate and assumptions are reviewed by
management. Because the valuation is determined by using discounted cash flow models, the primary
risk inherent in valuing the MSRs is the impact of fluctuating interest rates on the estimated life
of the servicing revenue stream. The use of different estimates or assumptions could also produce
different fair values. The Company does not hedge the change in fair value of MSRs and, therefore,
the Company is susceptible to significant fluctuations in the fair value of its MSRs in changing
interest rate environments. MSRs are included in the other assets
category of the consolidated balance sheet. Changes in fair value of
MSRs are recorded as part of mortgage lending noninterest revenue on
the statement of income.
Pension and Postretirement Benefits Accounting
The Company accounts for its defined benefit pension plans using an actuarial model as
required by SFAS No. 87, “Employers’ Accounting for Pensions.” This model uses an approach that
allocates pension costs over the service period of employees in the plan. The Company accounts for
its other postretirement benefits using the requirements of SFAS No. 106, “Employers’ Accounting
for Postretirement Benefits Other Than Pensions.” SFAS No. 106 requires the Company to recognize
net periodic postretirement benefit costs as employees render the services necessary to earn their
postretirement benefits. The principle underlying the accounting as required by SFAS No. 87 and
SFAS No. 106 is that employees render service ratably over the service period and, therefore, the
income statement effects of the Company’s defined benefit pension and postretirement benefit plans
should follow the same pattern. The Company accounts for the over-funded or under-funded status of
its defined benefit and other postretirement plans as an asset or liability in its consolidated
balance sheets and recognizes changes in that funded status in the year in which the changes occur
through comprehensive income, as required by SFAS No. 158 “Employers’ Accounting for Defined
Benefit Pension and Other Postretirement Plans – an amendment of FASB Statement Nos. 87, 88, 106,
and 132R.” The adoption of SFAS No. 158 had no material impact
on the regulatory capital requirements of the Company.
Stock-Based Compensation
At December 31, 2006, the Company had three stock-based employee compensation plans, which are
described more fully in Note 15, Stock Incentive and Stock Option Plans. Prior to January 1, 2006,
the Company accounted for those plans under the recognition and measurement principles of
Accounting Principles Board (“APB”) Opinion No. 25, “Accounting for Stock Issued to Employees,” and
related interpretations. No stock-based employee compensation cost was reflected in net income, as
all options granted under those plans had an exercise price equal to the market value of the
underlying common stock on the date of grant. The fair value of each option granted was estimated
on the date of grant using the Black-Scholes option-pricing model. The following table illustrates
the effect on net income and earnings per share if the Company had applied the fair value
recognition provisions of SFAS No. 123, “Accounting for Stock-Based Compensation,” for the years
ended December 31, 2005 and 2004:
The fair value of each option grant in 2005 and 2004 was estimated on the date of grant using
the Black-Scholes option-pricing model with the following assumptions used for grants in 2005 and
2004: expected options lives of 7 years for 2005 and 7 years for 2004; expected dividend yield of
3.40% and 3.30%, respectively; expected volatility of 21% for both years, and risk-free interest
rates of 3.5% and 2.3%, respectively. The Company adopted SFAS No. 123R, “Share-Based Payment,” on
January 1, 2006. As a result, the Company recognized compensation
53
Table of Contents
costs for previously granted
unvested awards of approximately $26,000 in 2006. The Company recognized compensation costs for
newly granted unvested awards of approximately $247,000 in 2006.
Certain of the Company’s stock option plans contain provisions for stock appreciation rights
(“SARs”). Accounting rules for SARs require the recognition of expense for appreciation in the
market value of the Company’s common stock or a reduction of expense in the event of a decline in
the market value of the Company’s common stock. See Note 15, Stock Incentive and Stock Option
Plans, for further disclosures regarding SARs.
Derivative Instruments
The derivatives held by the Company are commitments to fund fixed-rate mortgage loans to
customers and forward commitments to sell individual fixed-rate mortgage loans. The Company’s
objective in obtaining the forward commitments is to mitigate the interest rate risk associated
with the commitments to fund the fixed-rate mortgage loans. Both the commitments to fund
fixed-rate mortgage loans and the forward commitments to sell individual fixed-rate mortgage loans
are reported at fair value, with adjustments being recorded in current period earnings, and are not
accounted for as hedges.
Recent Pronouncements
In December 2004, SFAS No. 123, “Share-Based Payment,” was revised by SFAS No. 123R. SFAS No.
123R requires compensation cost related to share-based payment transactions to be recognized in the
financial statements. Compensation cost will be measured based on the grant-date fair value of
the equity or liability instruments issued and is to be recognized over the period that an employee
is required to provide services in exchange for the award. SFAS 123R
was effective for public
companies that do not file as small business issuers as of the beginning of the first annual
reporting period that begins on or after June 15, 2005 (i.e., January 1, 2006 for the Company).
The adoption of SFAS No. 123R had no material impact on the financial position or
results of operations of the Company. As described in Note 15, Stock Incentive and Stock Option
Plans, the Company accelerated the vesting of its “out-of-the-money” unvested options to reduce the
recognition of compensation costs in 2006, 2007 and 2008 for previously granted unvested awards.
As a result of the adoption of Statement 123R, the Company recognized compensation costs for
previously granted unvested awards of approximately $26,000 in 2006.
In March 2005, the Financial Accounting Standards Board (“FASB”) issued FASB Interpretation
No. 47 (“FIN 47”) “Accounting for Conditional Asset Retirement Obligations”. FIN 47 requires
conditional asset retirement obligations to be recognized if a legal obligation exists to perform
asset retirement activities and a reasonable estimate of the fair value of the obligation can be
made. FIN 47 also provides guidance as to when an entity would have sufficient information to
reasonably estimate the fair value of an asset retirement obligation. FIN 47 was adopted by the
Company effective December 31, 2005. The adoption of FIN 47 has had no material impact on the
financial position or results of operations of the Company.
In March 2006, SFAS No. 156 was issued. SFAS No. 156 amends SFAS No. 140, “Accounting for
Transfers and Servicing of Financial Assets and Extinguishments of Liabilities,” as it relates to
the accounting for separately recognized servicing assets and servicing liabilities by requiring
that all separately recognized servicing assets and servicing liabilities be initially measured by
fair value, if practicable. SFAS No. 156 also permits the subsequent
measurement of separately recognized servicing assets and servicing liabilities at fair value.
SFAS No. 156 was adopted by the Company effective January 1, 2006 with the Company electing to
measure its servicing rights at fair value at each reporting date. The adoption of SFAS No. 156
has had no material impact on the Company’s financial statements.
In June 2006, the FASB issued FASB Interpretation No. 48 (“FIN 48”), “Accounting for
Uncertainty in Income Taxes – an interpretation of SFAS 109.” FIN 48 clarifies the accounting for
uncertainty in income taxes recognized in an enterprise’s financial statements in accordance with
SFAS 109, “Accounting for Income Taxes,” and prescribes a recognition threshold and measurement
attribute for financial statement disclosure of tax positions taken or expected to be taken on a
tax return. FIN 48 also provides guidance on derecognition, classification, interest and
penalties, accounting in interim periods, disclosure and transition. FIN 48 is effective for
fiscal years beginning after December 15, 2006. The Company is currently evaluating the impact
that the adoption of FIN 48 will have on the financial position and results of operations of the
Company, however, the Company does not anticipate that the adoption
of FIN 48 will have a material impact on the financial position and results of operations of the Company.
In February 2006, SFAS No. 155, “Accounting for Certain Hybrid Financial Instruments — an
amendment of FASB Statements No. 133 and 140,” was issued. SFAS No. 155 permits fair value
remeasurement for any hybrid financial instrument that contains an embedded derivative that
otherwise would require bifurcation, clarifies which interest-only strips and principal-only strips
are not subject to the requirements of SFAS No. 133, establishes a
54
Table of Contents
requirement to evaluate
interests in securitized financial assets to identify interests that are freestanding derivatives
or that are hybrid financial instruments that contain an embedded derivative requiring bifurcation,
clarifies that concentrations of credit risk in the form of subordination are not embedded
derivatives and amends SFAS No. 140 to eliminate the prohibition on a qualifying special-purpose
entity from holding a derivative financial instrument that pertains to a beneficial interest other
than another derivative financial instrument. In January 2007, the FASB issued Derivatives
Implementation Group Issue B-40, “Application of Paragraph 13(b) to Securitized Interests in
Prepayable Financial Assets” (DIG B40). DIG B40 provides an exemption from the embedded derivative
test of paragraph 13(b) of SFAS No. 133 for instruments that would otherwise require bifurcation if
the test is met solely because of a prepayment feature included within the securitied interest and
prepayment is not controlled by the security holder. SFAS No. 155 and DIG B40 is effective for all
financial instruments acquired or issued after the beginning of an entity’s first fiscal year that
begins after September 15, 2006. Due to the guidance of DIG B40, the adoption of SFAS No. 155 is
expected to have no material impact on the financial position or results of operations of the
Company.
In September 2006, SFAS No. 157, “Fair Value Measurements,” was issued. SFAS No. 157
establishes a framework for measuring fair value in accordance with generally accepted accounting
principles and expands disclosures about fair value measurements. SFAS No. 157 is effective for
fiscal years beginning after November 15, 2007 and interim periods within those fiscal years. The
Company is currently evaluating the impact that the adoption of SFAS No. 157 will have on the
financial position of the Company.
In September 2006, SFAS No. 158 was issued. SFAS No. 158 requires an employer to recognize
the over-funded or under-funded status of a defined benefit postretirement plan (other than a
multiemployer plan) as an asset or liability in its statement of financial position and to
recognize changes in that funded status in the year in which the changes occur through
comprehensive income. SFAS No. 158 also requires an employer to measure the funded status of a
plan as of the date of its year-end statement of financial position. SFAS No. 158 recognition and
disclosure requirements are effective as of the end of the fiscal year ending after December 15,
2006. SFAS No. 158 measurement requirements are effective for fiscal years ending after December
15, 2008. The adoption of SFAS No. 158 had no material impact on the financial position, results
of operations or regulatory requirements for capital of the Company.
In September 2006, Staff Accounting Bulletin (“SAB”) No. 108, “Considering the Effects of
Prior Year Misstatements when Quantifying Misstatements in Current Year Financial Statements,” was
issued. SAB 108 provides interpretative guidance on how the effects of the carryover or reversal
of prior year misstatements should be considered in quantifying a current year misstatement. SAB
108 requires registrants to quantify errors using both a balance sheet and an income statement
approach and to evaluate whether either approach results in quantifying a misstatement material in
light of relevant quantitative and qualitative factors. SAB 108 must be applied to annual
financial statements for the first fiscal year ending after November 15, 2006. The application of
SAB 108 has had no material impact on the financial position or results of operations of the
Company.
In September, 2006, the Emerging Issues Task Force (“EITF”) reached a final consensus on Issue
No. 06-4, “Accounting for the Deferred Compensation and Postretirement Benefit Aspects of
Endorsement Split-Dollar Life Insurance Arrangements.” EITF 06-4 requires employers to recognize a
liability for future benefits provided through endorsement split-dollar life insurance arrangements
that extend into postretirement periods in accordance with SFAS No. 106, “Employers’ Accounting for
Postretirement Benefits Other Than Pensions” or APB Opinion No. 12, “Omnibus Opinion – 1967.” EITF
06-4 is effective for fiscal years beginning after December 15, 2007. Entities should recognize
the effects of applying EITF 06-4 through either (a) a change in accounting principle through a
cumulative-effect
adjustment to retained earnings or to other components of equity or net assets in the
statement of financial position as of the beginning of the year of adoption or (b) a change in
accounting principle through retrospective application to all prior periods. The Company is
currently evaluating the impact that the adoption of EITF 06-4 will have on the financial position
of the Company.
Income Taxes
Deferred tax assets and liabilities are recognized for the future tax consequences
attributable to differences between the financial statement carrying amounts of existing assets and
liabilities and their respective tax bases and operating loss and tax credit carryforwards.
Deferred tax assets and liabilities are measured using 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 of a change in tax rates on deferred tax assets and liabilities is recognized
in income in the period that includes the enactment date. The Company, with the exception of the
Bank’s credit life insurance subsidiary, files a consolidated federal income tax return.
55
Table of Contents
Insurance Commissions
Commission income is recorded as of the effective date of insurance coverage or the billing
date, whichever is later. Contingent commissions and commissions on premiums billed and collected
directly by insurance companies are recorded as revenue when received, which is our first
notification of amounts earned. The income effects of subsequent premium and fee adjustments are
recorded when the adjustments become known.
Other Noninterest Revenue
Other
noninterest revenue includes credit card, debit card and merchant fees of $21.3 million,
$18.0 million and $14.2 million in 2006, 2005 and 2004, respectively.
Other
Prior
to 2006, trust income was recorded on the cash basis as received,
which resulted in amounts that did not differ materially from the
amount that would be recorded under the accrual basis. During 2006,
the Company changed from recognizing trust income on the cash basis
as received to recognizing trust income on the accrual basis.
(2) BUSINESS COMBINATIONS
On May 15, 2003, certain assets of WMS, L.L.C. (“WMS”), an independent insurance agency
headquartered in Baton Rouge, Louisiana, that operated under the name of Wright & Percy Insurance,
were acquired by BancorpSouth Insurance Services, Inc., a subsidiary of the Bank (“BancorpSouth
Insurance”). Consideration paid to complete this transaction consisted of 426,309 shares of the
Company’s common stock in addition to cash paid to WMS in the aggregate amount of approximately
$9,711,000. Under the terms of the acquisition agreement, the Company may be required to pay an
additional aggregate amount of up to $8,584,000 in cash to WMS in three annual installments based
on the performance of WMS over the three years following the completion of this transaction. The
Company paid a total of approximately $6.8 million in 2004, 2005 and 2006 under this agreement.
The operations of Wright & Percy Insurance became a part of BancorpSouth Insurance. This
transaction was accounted for as a purchase and, accordingly, the results of operations have been
included since the date of acquisition. This acquisition was not material to the financial
position or results of operations of the Company.
On August 1, 2003, Ramsey, Krug, Farrell & Lensing, Inc. (“RKF&L”), an independent insurance
agency headquartered in Little Rock, Arkansas, merged with and into the Bank. Subsequent to the
merger, the operations of RKF&L became a part of BancorpSouth Insurance. Consideration paid to
complete this transaction consisted of 473,918 shares of the Company’s common stock in addition to
cash paid to RKF&L shareholders in the aggregate amount of approximately $10,028,000. Under the
terms of the acquisition agreement, the Company may be required to pay an additional aggregate
amount of up to $7,633,000 in a combination of cash and shares of the Company’s common stock to
RKF&L shareholders in three annual installments based on the performance of RKF&L over the three
years following the completion of this transaction. The Company paid a total of approximately $3.2
million in 2004, 2005 and 2006 in a combination of cash and shares of the Company’s common stock
under this agreement. This transaction was accounted for as a purchase and, accordingly, the
results of operations have been included since the date of acquisition. This acquisition was not
material to the financial position or results of operations of the Company.
On December 31, 2004, Premier Bancorp, Inc. (“Premier”), a bank holding company with
approximately $160 million in assets headquartered in Brentwood, Tennessee, merged with and into
the Company. Pursuant to the merger, Premier’s subsidiary, Premier Bank of Brentwood, merged with
and into the Bank. Consideration paid to complete this transaction consisted of 669,891 shares of
the Company’s common stock in addition to cash paid to the Premier shareholders in the aggregate
amount of approximately $14,794,000. This transaction was accounted for as a purchase. This
acquisition was not material to the financial position and had no impact on the results of
operations of the Company in 2004.
On December 31, 2004, Business Holding Corporation (“BHC”), a bank holding company with
approximately $170 million in assets headquartered in Baton Rouge, Louisiana, merged with and into
the Company. Pursuant to the merger, BHC’s subsidiary, The Business Bank, merged with and into the
Bank. Consideration paid to complete this transaction consisted of 762,978 shares of the Company’s
common stock in addition to cash paid to the BHC shareholders in the aggregate amount of
approximately $16,696,000. This transaction was accounted for as a purchase. This acquisition was
not material to the financial position and had no impact on the results of operations of the
Company in 2004.
On December 1, 2005, American State Bank Corporation (“ASB”), a financial holding company with
approximately $358 million in assets headquartered in Jonesboro, Arkansas, merged with and into the
Company. Pursuant to the merger, ASB’s subsidiary, American State Bank, merged with and into the
Bank. Consideration paid to complete this transaction consisted of 1,127,544 shares of the
Company’s common stock in addition to cash paid to ASB shareholders in the aggregate amount of
approximately $25,001,242. This transaction was accounted
56
Table of Contents
for as a purchase, and accordingly, the
results of operations have been included since the date of acquisition. This acquisition was not
material to the financial position or results of operations of the Company.
(3) HELD-TO-MATURITY SECURITIES
A comparison of amortized cost and estimated fair values of held-to-maturity securities as of
December 31, 2006 and 2005 follows:
Gross gains of $28,000 and gross losses of $5,000 were recognized in 2006, gross gains of
$130,000 and gross losses of $4,000 were recognized in 2005 and gross gains of $117,000 and gross
losses of $9,000 were recognized in 2004 on held-to-maturity securities. These gains and losses
were the result of held-to-maturity securities being called prior to maturity.
Held-to-maturity securities with a carrying value of approximately $1.3 billion at December
31, 2006 were pledged to secure public and trust funds on deposit and for other purposes. Included
in held-to-maturity securities at December 31, 2006 were securities with a carrying value of $110.1
million issued by the State of Mississippi and securities with a carrying value of $54.9 million
issued by the State of Arkansas.
The amortized cost and estimated fair value of held-to-maturity securities at December 31,
2006 by contractual maturity are shown below. Actual maturities may differ from contractual
maturities because borrowers may have the right to call or prepay obligations with or without call
or prepayment penalties.
A summary of temporarily impaired held-to-maturity investments with continuous unrealized loss
positions at December 31, 2006 follows:
57
Table of Contents
Based
upon review of the credit quality of these securities and the intent and ability
to hold the securities for a period of time sufficient for a recovery
of costs, at which point the fair value will
mirror amortized cost, the impairments related to the securities were determined to be temporary.
(4) AVAILABLE-FOR-SALE SECURITIES
A comparison of amortized cost and estimated fair values of available-for-sale securities as
of December 31, 2006 and 2005 follows:
Gross gains of $17,000 were recognized in 2006, gross gains of $346,000 were recognized in
2005 and gross gains of $5.0 million and gross losses of $5.8 million were recognized in 2004 on
available-for-sale securities.
Available-for-sale securities with a carrying value of approximately $836.6 million at
December 31, 2006 were pledged to secure public and trust funds on deposit and for other purposes.
Included in available-for-sale securities at December 31, 2006, were securities with a carrying
value of $43.7 million issued by the State of Mississippi and securities with a carrying value of
$48.6 million issued by the State of Arkansas.
The amortized cost and estimated fair value of available-for-sale securities at December 31,
2006 by contractual maturity are shown below. Actual maturities may differ from contractual
maturities because borrowers may have the right to call or prepay obligations with or without call
or prepayment penalties. Equity securities are considered as maturing after 10 years.
58
Table of Contents
A summary of temporarily impaired available-for-sale investments with continuous unrealized
loss positions at December 31, 2006 follows:
Based
upon a review of the credit quality of these securities, the ability
and intent to hold
these securities for a period of time sufficient for a recovery of
costs and the volatility of their market price,
the impairments related to these securities were determined to be temporary.
(5) LOANS AND LEASES
A summary of loans and leases classified by collateral type at December 31, 2006 and 2005
follows:
Non-performing loans and leases consist of both non-accrual loans and leases and loans and
leases that have been restructured (primarily in the form of reduced interest rates) because of the
borrower’s weakened financial condition. The aggregate principal balance of non-accrual loans and
leases was $6,603,000 and $8,816,000 at December 31, 2006 and 2005, respectively. Restructured
loans and leases totaled $1,571,000 and $2,239,000 at December 31, 2006 and 2005, respectively.
The total amount of interest earned on non-performing loans and leases was approximately
$114,000, $194,000 and $195,000 in 2006, 2005 and 2004, respectively. The gross interest income
which would have been recorded under the original terms of those loans and leases amounted to
$475,000, $600,000 and $784,000 in 2006, 2005 and 2004, respectively.
Loans considered impaired under SFAS No. 114, “Accounting by Creditors for Impairment of a
Loan – an amendment of FASB Statements no. 5 and 15,” as amended by SFAS No. 118, “Accounting by
Creditors for Impairment of a Loan-Income Recognition and Disclosures – an amendment of FASB
Statement No. 114,” are loans for which, based on current information and events, it is probable
that the Company will be unable to collect
59
Table of Contents
all amounts due according to the contractual terms of
the loan agreement. The Company’s recorded investment in loans considered impaired at December 31,
2006 and 2005 was $9.1 million and $13.5 million,
respectively, with a valuation allowance of $4.5
million and $6.1 million, respectively. The average recorded investment in impaired loans during
2006 and 2005 was $9.6 million and $12.8 million, respectively.
(6) ALLOWANCE FOR CREDIT LOSSES
The following summarizes the changes in the allowance for credit losses for the years ended
December 31, 2006, 2005 and 2004:
(7) PREMISES AND EQUIPMENT
A summary by asset classification at December 31, 2006 and 2005 follows:
(8) GOODWILL AND OTHER INTANGIBLE ASSETS
The following table presents the changes in the carrying amount of goodwill by operating
segment for the years ended December 31, 2006 and 2005:
60
Table of Contents
The Company’s annual goodwill impairment evaluation for 2006 and 2005 indicated no impairment
of goodwill for its reporting units. The Company will continue to test reporting unit goodwill for
potential impairment on an annual basis in the Company’s fourth quarter, or sooner if a goodwill
impairment indicator is identified.
The following table presents information regarding the components of the Company’s
identifiable intangible assets for the years ended December 31, 2006 and 2005:
The following table presents information regarding estimated amortization expense on the
Company’s amortizable identifiable intangible assets for the year ending December 31, 2007, and the
succeeding four years:
(9) TIME DEPOSITS AND SHORT-TERM DEBT
Certificates of deposit and other time deposits of $100,000 or more amounting to approximately
$2,072,021,000 and $1,834,920,000 were outstanding at December 31, 2006 and 2005, respectively.
Total interest expense relating to
certificate and other time deposits of $100,000 or more totaled approximately $82,936,000,
$59,415,000 and $50,129,000 for the years ended December 31, 2006, 2005 and 2004, respectively.
For time deposits with a remaining maturity of more than one year at December 31, 2006, the
aggregate amount of maturities for the following five years is presented in the following table:
61
Table of Contents
Presented below is information relating to short-term debt for the years ended December 31,
2006, 2005 and 2004:
Federal funds purchased generally mature the day following the date of purchase while
securities sold under repurchase agreements generally mature within 30 days from the date of sale.
At December 31, 2006, the Bank had established informal federal funds borrowing lines of credit
aggregating $460 million.
62
Table of Contents
(10) LONG-TERM FEDERAL HOME LOAN BANK BORROWINGS
The Bank has entered into a blanket floating lien security agreement with the Federal Home
Loan Bank (“FHLB”) of Dallas. Under the terms of this agreement, the Bank is required to maintain
sufficient collateral to secure borrowings in an aggregate amount of the lesser of 75% of the book
value (i.e., unpaid principal balance) of the Bank’s eligible mortgage loans pledged as collateral
or 35% of the Bank’s assets.
At December 31, 2006, the following FHLB fixed term advances were repayable as follows:
(11) JUNIOR SUBORDINATED DEBT SECURITIES
In 2002, the Company issued $128.9 million in 8.15% Junior Subordinated Debt Securities to
BancorpSouth Capital Trust I (the “Trust”), a business trust. The Trust used the proceeds from the
issuance of five million shares of 8.15% trust preferred securities, $25 face value per share, to
acquire the 8.15% Junior Subordinated Debt Securities. Both the Junior Subordinated Debt Securities
and the trust preferred securities mature on January 28, 2032, and are callable at the option of
the Company after January 28, 2007
Pursuant to the merger with BHC on December 31, 2004, the Company assumed the liability for
$6.2 million in Junior Subordinated Debt Securities issued to Business Holding Company Trust I, a
statutory trust. Business Holding Company Trust I used the proceeds from the issuance of 6,000
shares of trust preferred securities to acquire the Junior Subordinated Debt Securities. Both the
Junior Subordinated Debt Securities and the trust preferred securities mature on April 7, 2034, and
are callable at the option of the Company, in whole or in part, on any January 7, April 7, July 7
or October 7 on or after April 7, 2009. The Junior Subordinated Debt Securities and the trust
preferred securities pay a per annum rate of interest, reset quarterly, equal to the three month
London Interbank Offered Rate (“LIBOR”) plus 2.80% from January 30, 2004 to April 7, 2009 and
thereafter at LIBOR plus 2.85%.
Pursuant to the merger with Premier on December 31, 2004, the Company assumed the liability
for $3.1 million in Junior Subordinated Debt Securities issued to Premier Bancorp Capital Trust I,
a statutory trust. Premier Bancorp Capital Trust I used the proceeds from the issuance of 3,000
shares of trust preferred securities to acquire the Junior Subordinated Debt Securities. Both the
Junior Subordinated Debt Securities and the trust preferred securities mature on November 7, 2032,
and are callable at the option of the Company, in whole or in part, on any February 7, May 7,
August 7 or November 7 on or after November 7, 2007. The Junior Subordinated Debt Securities and
the trust preferred securities pay a per annum rate of interest, reset quarterly, equal to the
three month LIBOR plus 3.45%.
Pursuant to the merger with ASB on December 1, 2005, the Company assumed the liability for
$6.7 million in Junior Subordinated Debt Securities issued to American State Capital Trust I, a
statutory trust. American State Capital Trust I used the proceeds from the issuance of 6,500
shares of trust preferred securities to acquire the Junior Subordinated Debt Securities. Both the
Junior Subordinated Debt Securities and the trust preferred securities mature on April 7, 2034, and
are callable at the option of the Company, in whole or in part, on July 7, October 7, January 7 or
April 7 on or after April 7, 2009. The Junior Subordinated Debt Securities and the trust preferred
securities pay a per annum rate of interest, reset quarterly, equal to the three month LIBOR plus
2.80%.
(12) INCOME TAXES
Total income taxes for the years ended December 31, 2006, 2005 and 2004 are allocated as
follows:
63
Table of Contents
The components of income tax expense attributable to operations are as follows for the years
ended December 31, 2006, 2005 and 2004:
| |||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||