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GREEN BANKSHARES, INC. 10-K 2011 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, 2010
or
Commission file number 0-14289
GREEN BANKSHARES, INC.
(Exact name of registrant as specified in its charter)
Registrant’s telephone number, including area code: (423) 639-5111
Securities registered pursuant to Section 12(b) of the Act:
Securities registered pursuant to Section 12(g) of the Act:
None Indicate by check mark if the registrant is a well-known seasoned issuer, as defined in Rule
405 of the Securities Act. YES o NO þ
Indicate by check mark if the registrant is not required to file reports pursuant to Section 13 or
Section 15(d) of the Act. YES o NO þ
Indicate by check mark whether the registrant (1) has filed all reports required to be filed by
Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for
such shorter period that the registrant was required to file such reports), and (2) has been
subject to such filing requirements for the past 90 days. YES þ NO o
Indicate by check mark whether the registrant has submitted electronically and posted on its
corporate Web site, if any, every Interactive Data File required to be submitted and posted
pursuant to Rule 405 of Regulation S-T (§ 232.405 of this chapter) during the preceding 12 months
(or for such shorter period that the registrant was required to submit and post such files). Yes
o No o
Indicate by check mark if disclosure of delinquent filers pursuant to Item 405 of Regulation S-K (§
229.405 of this chapter) is not contained herein, and will not be contained, to the best of
registrant’s knowledge, in definitive proxy or information statements incorporated by reference in
Part III of this Form 10-K or any amendment to this Form 10-K. o
Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a
non-accelerated filer, or a smaller reporting company. See the definitions of “large accelerated
filer,” “accelerated filer” and “smaller reporting company” in Rule 12b-2 of the Exchange Act:
Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the
Act). YES o NO þ
The aggregate market value of the voting stock held by non-affiliates of the registrant on June 30,
2010, the last business day of the registrant’s most recently completed second fiscal quarter, was
approximately $151 million. The market value calculation was determined using the closing sale
price of the registrant’s common stock on June 30, 2010, as reported on the Nasdaq Global Select
Market. For purposes of this calculation, the term “affiliate” refers to all directors, executive
officers and 10% shareholders of the registrant. As of the close of business on February 28, 2011,
13,188,896 shares of the registrant’s common stock were outstanding.
DOCUMENTS INCORPORATED BY REFERENCE
The following lists the documents incorporated by reference and the Part of the Form 10-K into
which the document is incorporated:
1. Portions of Proxy Statement for 2011 Annual Meeting of Shareholders. (Part III)
TABLE OF CONTENTS
Table of Contents
PART I
Forward-Looking Statements
The information contained herein contains forward-looking statements that involve a number of risks
and uncertainties. A number of factors, including those discussed herein, could cause results to
differ materially from those anticipated by such forward-looking statements which are within the
meaning of that term in Section 27A of the Securities Act of 1933, as amended, and Section 21E of
the Securities Exchange Act of 1934, as amended. In addition, such forward-looking statements are
necessarily dependent upon assumptions, estimates and data that may be incorrect or imprecise.
Accordingly, any forward-looking statements included herein do not purport to be predictions of
future events or circumstances and may not be realized. Forward-looking statements can be
identified by, among other things, the use of forward-looking terminology such as “trends,”
“assumptions,” “target,” “guidance,” “outlook,” “opportunity,” “future,” “plans,” “goals,”
“objectives,” “expectations,” “near-term,” “long-term,” “projection,” “may,” “will,” “would,”
“could,” “expect,” “intend,” “estimate,” “anticipate,” “believe,” “potential,” “regular,” or
“continue” or the negatives thereof, or other variations thereon of comparable terminology, or by
discussions of strategy or intentions. Such statements may include, but are not limited to,
projections of revenue, income or loss, expenditures, acquisitions, plans for future operations,
financing needs or plans relating to services of the Company, as well as assumptions relating to
the foregoing. The Company’s actual results may differ materially from the results anticipated in
forward-looking statements due to a variety of factors, including, but not limited to those
identified in “Item 1A. Risk Factors” in this Form 10-K and (1) deterioration in the financial
condition of borrowers resulting in significant increases in loan losses and provisions for those
losses; (2) continuation of the historically low short-term interest rate environment; (3) changes
in loan underwriting, credit review or loss reserve policies associated with economic conditions,
examination conclusions, or regulatory developments; (4) increased levels of non-performing and
repossessed assets and the ability to resolve these may result in future losses; (5) greater than
anticipated deterioration or lack of sustained growth in the national or local economies; (6) rapid
fluctuations or unanticipated changes in interest rates; (7) the impact of governmental
restrictions on entities participating in the Capital Purchase Program (the “CPP”) of the
United States Department of the Treasury (the “Treasury”); (8) changes in state and federal
legislation, regulations or policies applicable to banks or other financial service providers,
including regulatory or legislative developments, like the Dodd-Frank Wall Street Reform and
Consumer Protection Act (the “Dodd-Frank Act”), arising out of current unsettled conditions
in the economy (9) the results of regulatory examinations; (10) the remediation efforts related to
the Company’s material weakness in its internal control over financial reporting; (11) increased
competition with other financial institutions in the markets that the Bank serves; (12) the Company
recording a further valuation allowance related to its deferred tax asset; (13) exploring
alternatives available for the future repayment or conversion of the preferred stock issued in the
CPP; (14) further deterioration in the valuation of other real estate owned (“OREO”); (15)
inability to comply with regulatory capital requirements and to secure any required regulatory
approvals for capital actions to raise capital if necessary to comply with any regulatory capital
requirements; and (16) the loss of key personnel. The Company undertakes no obligation to update
forward-looking statements.
Readers are cautioned not to place undue reliance on forward-looking statements made in this
document, since the statements speak only as of the document’s date. All forward-looking statements
included in this Annual Report on Form 10-K are expressly qualified in their entirety by the
cautionary statements in this section and to the more detailed risk factors included below under
Part I, Item 1A “Risk Factors”. The Company has no obligation and does not intend to publicly
update or revise any forward-looking statements contained in or incorporated by reference into this
Annual Report on Form 10-K, to reflect events or circumstances occurring after the date of this
document or to reflect the occurrence of unanticipated events. Readers are advised, however, to
consult any further disclosures the Company may make on related subjects in its documents filed
with or furnished to the Securities and Exchange Commission (“SEC”) or in its other public
disclosures.
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Presentation of Amounts
All dollar amounts set forth below, other than share and per-share amounts, are in thousands
unless otherwise noted. Unless this Form 10-K indicates otherwise or the context otherwise
requires, the terms “we,” “our,” “us,” “the Company” or “Green Bankshares” as used herein refer to
Green Bankshares, Inc. and its subsidiaries, including GreenBank, which we sometimes refer to as
“GreenBank,” “the Bank” or “our Bank”.
Green Bankshares, Inc.
We are the third-largest bank holding company headquartered in Tennessee, with $2.4 billion in
assets as of December 31, 2010. Incorporated in 1985, Green Bankshares is the parent of GreenBank
(the “Bank”) and owns 100% of the capital stock of the Bank. The primary business of the Company
is operating the Bank.
As a bank holding company, we are subject to regulation by the Board of Governors of the
Federal Reserve System, or the Federal Reserve Board (the “FRB”). We are required to file reports
with the Federal Reserve Bank of Atlanta (the “FRB-Atlanta”) and are subject to regular
examinations by that agency. Shares of our common stock are traded on the NASDAQ Global Select
Market under the trading symbol “GRNB.”
At December 31, 2010, the Company maintained a main office in Greeneville, Tennessee and 64
full-service bank branches (of which eleven are leased operating premises), a location for mortgage
banking and nine separate locations operated by the Bank’s subsidiaries.
The Company’s assets consist primarily of its investment in the Bank and liquid investments.
Its primary activities are conducted through the Bank. At December 31, 2010, the Company’s
consolidated total assets were $2,406,040, its consolidated net loans were $1,745,378, its total
deposits were $1,976,854 and its total shareholders’ equity was $143,897.
The Company’s net income, or net loss, is dependent primarily on the earnings, or loss, of its
wholly-owned subsidiary, GreenBank and its level of net income, or net loss. GreenBank’s net
income, or net loss, is dependent upon its level of net interest income, which is the difference
between the interest income earned on its loans and other interest-earning assets and the interest
paid on deposits and other interest-bearing liabilities plus the Bank’s non-interest income, the
sum of which is either partially, or fully, offset by the amount of the Bank’s loan loss provision
plus the Bank’s total operating expenses.
Lending Activities:
General: The Bank’s lending activities reflect its community banking philosophy, emphasizing
secured loans to individuals and businesses in its primary market areas.
Commercial Real Estate Lending: Commercial real estate loans are loans originated by the Bank that
are secured by commercial real estate and includes commercial real estate construction loans to
developers, mainly to borrowers based in its primary markets.
Residential Real Estate Lending: The Bank originates traditional one-to-four family, owner
occupied, residential mortgages secured by property located in its primary market area. Further
detail on consumer residential real estate lending may be found on page 7 of this report.
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Commercial Business Lending: Commercial business loans are loans originated by the Bank that are
generally secured by various types of business assets including inventory, receivables, equipment,
financial instruments and commercial real estate. In limited cases, loans may be made on an
unsecured basis. Commercial business loans are used for a variety of purposes including working
capital and financing the purchase of equipment.
The Bank concentrates on originating commercial business loans to middle-market companies with
borrowing requirements of less than $25 million. Substantially all of the Bank’s commercial
business loans outstanding at December 31, 2010, were to borrowers based in its primary markets.
Consumer Lending: The Bank makes consumer loans for personal, family or household purposes, such as
debt consolidation, automobiles, vacations and education. Consumer lending loans are typically
secured by personal property but may also be unsecured personal loans. They may also be made on a
revolving line of credit or fixed-term basis.
Investment Activities:
The Bank has authority to invest in various types of liquid assets, including U.S. Treasury
obligations and securities of various federal agencies and U.S. Government sponsored enterprises,
deposits of insured banks and federal funds. The Bank’s investments do not include commercial
paper, asset-backed commercial paper, asset-backed securities secured by credit cards, or car
loans. The Bank also does not participate in structured investment vehicles. Liquidity may increase
or decrease depending upon the availability of funds and comparative yields on investments in
relation to the returns on loans and leases. The Bank must also meet reserve requirements of the
FRB, which are imposed based on amounts on deposit in various deposit categories.
Sources of Funds:
Deposits: Deposits are the primary source of the Bank’s funds for use in lending and for other
general business purposes. Deposit inflows and outflows are significantly influenced by economic
and competitive conditions, interest rates, money market conditions and other factors, including
depositor confidence. Consumer, small business and commercial deposits are attracted
principally from within the Bank’s primary market areas through the offering of a broad selection
of deposit instruments including consumer, small business and commercial demand deposit accounts,
interest-bearing checking accounts, money market accounts, regular savings accounts, certificates
of deposit and retirement savings plans.
The Bank’s marketing strategy emphasizes attracting core deposits held in checking, savings,
money- market and certificate of deposit accounts. These accounts are a source of low-interest cost
funds and in some cases, provide significant fee income. The composition of the Bank’s deposits has
a significant impact on the overall cost of funds. At December 31, 2010, interest-bearing deposits
comprised 92% of total deposits, as compared with 91% at December 31, 2009.
Borrowings: Borrowings may be used to compensate for reductions in deposit inflows or net deposit
outflows, or to support expanded lending activities. These borrowings include Federal Home Loan
Bank (“FHLB”) advances, repurchase agreements, federal funds and other borrowings.
The Bank, as a member of the FHLB system, is required to own a minimum level of FHLB stock and
is authorized to apply for advances on the security of such stock, mortgage-backed securities,
loans secured by real estate and other assets (principally securities which are obligations of, or
guaranteed by, the United States Government), provided certain standards related to
creditworthiness have been met. FHLB advances are made pursuant to several different credit
programs. Each credit program has its own interest rates and range of maturities. The FHLB
prescribes the acceptable uses to which the advances pursuant to each program may be made as well
as limitations on the size of advances. In addition to the program limitations, the amounts of
advances for which an institution may be eligible are generally based on the FHLB’s assessment of
the institution’s creditworthiness.
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As an additional source of funds, the Bank may sell securities subject to its obligation to
repurchase these securities (repurchase agreements) with major customers utilizing government
securities or mortgage-backed securities as collateral. Generally, securities with a value in excess of the amount borrowed
are required to be maintained as collateral to a repurchase agreement.
Information concerning the Bank’s FHLB advances, repurchase agreements, junior subordinated
notes (trust preferred) and other borrowings is set forth in “Management’s Discussion and Analysis
of Financial Condition and Results of Operations — Liquidity and Capital Resources” and in Note 8
of Notes to Consolidated Financial Statements.
We are significantly impacted by prevailing economic conditions, competition and the monetary,
fiscal and regulatory policies of governmental agencies. Lending activities are influenced by the
general credit needs of individuals and small and medium-sized businesses in the Company’s market
areas, competition among lenders, the level of interest rates and the availability of funds.
Deposit flows and costs of funds are influenced by prevailing market rates of interest, primarily
the rates paid on competing funding alternatives, account maturities and the levels of personal
income and savings in the Company’s market areas.
Our principal executive offices are located at 100 North Main Street, Greeneville, Tennessee
37743-4992 and our telephone number at these offices is (423) 639-5111. Our internet address is
www.greenbankusa.com. Please note that our website is provided as an inactive textual
reference and the information on our website is not incorporated by reference herein.
GreenBank and its Subsidiaries
Our Bank is a Tennessee-chartered commercial bank established in 1890 which has its principal
executive offices in Greeneville, Tennessee. The principal business of the Bank consists of
attracting deposits from the general public and investing those funds, together with funds
generated from operations and from principal and interest payments on loans, primarily in
commercial and residential real estate loans, commercial loans and installment consumer loans. At
December 31, 2010, the Bank had 63 Tennessee-based full-service banking offices located in Greene,
Blount, Cocke, Hamblen, Hawkins, Knox, Loudon, McMinn, Monroe, Sullivan, and Washington Counties in
East Tennessee and in Davidson, Lawrence, Macon, Montgomery, Rutherford, Smith, Sumner and
Williamson Counties in Middle Tennessee. The Bank also operates two other full service
branches—one located in nearby Madison County, North Carolina and the other in nearby Bristol,
Virginia. Further, the Bank operates a mortgage banking operation in Knox County, Tennessee.
Our Bank also offers other financial services through three wholly-owned subsidiaries.
Through Superior Financial Services, Inc. (“Superior Financial”), the Bank operates eight consumer
finance company offices located in Greene, Blount, Hamblen, Washington, Sullivan, Sevier, Knox and
Bradley Counties, Tennessee. Through GCB Acceptance Corporation (“GCB Acceptance”), the Bank
operates a sub-prime automobile lending company with a sole office in Johnson City, Tennessee.
Through Fairway Title Co., the Bank operates a title company headquartered in Knox County,
Tennessee. At December 31, 2010, these three subsidiaries had total combined assets of $42,995 and
total combined loans, net of unearned interest and loan loss reserve, of $40,671.
As described in more detail below, deposits of our Bank are insured by the Deposit Insurance
Fund (“DIF”) of the Federal Deposit Insurance Corporation (“FDIC”). Our Bank is subject to
comprehensive regulation, examination and supervision by the Tennessee Department of Financial
Institutions (the “TDFI”), the FRB and the FDIC.
Business Strategy
In 2011, the Company expects that its primary business strategy will be on managing through
the current asset quality issues affecting the Company’s performance and strengthening the
Company’s capital position, including, if necessary, through the issuance of additional equity
securities. Accordingly, the Company expects that over the short term, given the current economic
environment and high levels of nonperforming assets, there will be little to no loan growth until
the current economic environment in the Company’s markets stabilizes and the economy begins to
improve.
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The Company’s intermediate term prospects depend principally on the Company’s ability to deal
with the asset quality issues currently facing the Company and the Company’s ability to raise
capital in amounts sufficient to allow the Company and the Bank to achieve capital levels in excess
of those required by federal banking regulations and the informal commitments that the Bank has
made to the TDFI and FDIC described in more detail below.
The Bank had historically operated under a single bank charter while conducting business under
18 bank brands with a distinct community-based brand in almost every market. On March 31, 2007 the
Bank announced that it had changed all brand names to GreenBank throughout all the communities it
serves to better enhance recognition and customer convenience. The Bank continues to offer local
decision making through the presence of its regional executives in each of its markets, while
maintaining a cost effective organizational structure in its back office and support areas.
The Bank focuses its lending efforts predominately on individuals and small to medium-sized
businesses while it generates deposits primarily from individuals in its local communities. To aid
in deposit generation efforts, the Bank offers its customers extended hours of operation during the
week as well as Saturday and Sunday banking in many of its markets. The Bank also offers free
online banking along with its High Performance Checking Program which since its inception has
generated a significant number of core transaction accounts.
In addition to the Company’s business model, which is described herein, the Company is
continuously investigating and analyzing other lines and areas of business. Conversely, the
Company frequently evaluates and analyzes the profitability, risk factors and viability of its
various business lines and segments and, depending upon the results of these evaluations and
analyses, may conclude to exit certain segments and/or business lines. Further, in conjunction with
these ongoing evaluations and analyses, the Company may decide to sell, merge or close certain
branch facilities.
Lending Activities
General. The loan portfolio of the Company is comprised of commercial real estate,
residential real estate, commercial and consumer loans. Such loans are primarily originated within
the Company’s market areas of East and Middle Tennessee and are generally secured by residential or
commercial real estate or business or personal property located in its market footprint.
Loan Composition. Given the on-going challenging economic environment which began
during the second half of 2007 as the recession emerged and the resulting precipitous decline in
residential real estate construction values through 2010, the Company significantly reduced its
commercial real estate concentration levels, as noted in the table below for each of the periods
presented at December 31:
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In addition to the segment information listed above, the Company monitors commercial
real estate speculative and construction by purpose code as noted in the loan migration table below
for each of the periods presented:
Higher Risk Loan Migration Table:
Loan Maturities. The following table reflects at December 31, 2010 the dollar amount
of loans maturing based on their contractual terms to maturity. Demand loans, loans having no
stated schedule of repayments and loans having no stated maturity are reported as due in one year
or less.
The following table sets forth the dollar amount of the loans maturing subsequent to the
year ended December 31, 2011 distinguished between those with predetermined interest rates and
those with floating, or variable, interest rates.
Commercial Real Estate Loans. The Company has significantly curtailed the
origination of residential real estate construction and development loans over the past three years
as noted in the higher risk loan migration table above. The Company had historically originated
commercial real estate loans, including residential real estate construction and development loans,
generally to existing business customers, secured by real estate located in the Company’s market
area. At December 31, 2010, commercial real estate loans totaled $1,080,805, or 62%, of the
Company’s net loan portfolio. Commercial real estate loans were generally underwritten by
addressing cash flow (debt service coverage), primary and secondary source of repayment, financial
strength of any guarantor, and strength of the tenant (if any), liquidity, leverage, management
experience, ownership structure, economic conditions and collateral. Generally, the Company would
loan up to 80-85% of the value of improved property, 65% of the value of raw land and 75% of the value of land to be acquired and developed. A first lien on the
property and assignment of lease is required if the collateral is rental property, with second lien
positions considered on a case-by-case basis.
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Residential Real Estate. The Company also originates one-to-four family,
owner-occupied residential mortgage loans secured by property located in the Company’s primary
market areas. The majority of the Company’s residential mortgage loans consists of loans secured
by owner-occupied, single-family residences. At December 31, 2010, the Company had $378,783, or
21%, of its net loan portfolio in residential real estate loans, net of unearned income.
Residential real estate loans generally have a loan-to-value ratio of 85% or less. These loans are
underwritten by giving consideration to the ability to pay, stability of employment, source of
income, credit history and loan-to-value ratio. Home equity loans make up approximately 52% of
residential real estate loans. Home equity loans may have higher loan-to-value ratios when the
borrower’s repayment capacity and credit history conform to underwriting standards. Superior
Financial extends sub-prime mortgages to borrowers who generally have a higher risk of default than
mortgages extended by the Bank. Sub-prime mortgages totaled $11,742, or 3%, of the Company’s
residential real estate loans, net of unearned income, at December 31, 2010.
The Company sells most of its one-to-four family mortgage loans in the secondary market to
Freddie Mac and other mortgage investors through the Bank’s mortgage banking operation. Sales of
such loans to Freddie Mac and other mortgage investors totaled $47,881 and $43,050 during 2010 and
2009, respectively, and the related mortgage servicing rights were sold together with the loans.
All mortgage loans sales are without recourse and all notes are endorsed to the investor stating
without recourse. Certain contingencies do come into play for early prepayment or early payment
defaults and would involve a refund of the yield spread premium earned on the transaction given
certain events of default. During 2010, no refunds or events of default occurred.
Commercial Loans. Commercial loans are made for a variety of business purposes,
including working capital, inventory and equipment and capital expansion. At December 31, 2010,
commercial loans outstanding totaled $222,927, or 13%, of the Company’s net loan portfolio. Such
loans are usually amortized over one to seven years and generally mature within five years.
Commercial loan applications must be supported by current financial information on the borrower
and, where appropriate, by adequate collateral. Commercial loans are generally underwritten by
addressing cash flow (debt service coverage), primary and secondary sources of repayment, financial
strength of any guarantor, liquidity, leverage, management experience, ownership structure,
economic conditions and industry-specific trends and collateral. The loan to value ratio depends
on the type of collateral. Generally speaking, accounts receivable are financed between 70% and
80% of accounts receivable less than 90 days past due. If other collateral is taken to support the
loan, the loan to value of accounts receivable may approach 85%. Inventory financing will range
between 50% and 60% depending on the borrower and nature of the inventory. The Company requires a
first lien position for such loans. These types of loans are generally considered to be a higher
credit risk than other loans originated by the Company.
Consumer Loans. At December 31, 2010, the Company’s consumer loan portfolio, net of
unearned income, totaled $67,440, or 4%, of the Company’s total net loan portfolio. The Company’s
consumer loan portfolio is composed of secured and unsecured loans originated by the Bank, Superior
Financial and GCB Acceptance. The consumer loans of the Bank generally have a higher risk of
default than other loans originated by the Bank. Further, consumer loans originated by Superior
Financial and GCB Acceptance, which are finance companies rather than banks, generally have a
greater risk of default than such loans originated by commercial banks and, accordingly, carry a
higher interest rate. Superior Financial and GCB Acceptance consumer loans totaled approximately
$32,194, or 48%, of the Company’s installment consumer loans, net of unearned income, at December
31, 2010. The performance of consumer loans will be affected by the local and regional economy as
well as the rates of personal bankruptcies, job loss, divorce and other individual-specific
characteristics.
Past Due, Special Mention, Classified and Nonaccrual Loans. The Company classifies
its loans of concern into three categories: past due loans, special mention loans and classified
loans (both accruing and non-accruing interest).
When management determines that a loan is no longer performing and that collection of interest
appears doubtful, the loan is placed on nonaccrual status. All loans that are 90 days past due are
considered nonaccrual unless they are adequately secured and there is reasonable assurance of full
collection of principal and interest. Management closely monitors all loans that are contractually
90 days past due, treated as “special mention” or otherwise classified or on nonaccrual status. Nonaccrual loans that are 120 days past due without assurance of
repayment are charged off against the allowance for loan losses.
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The Company may elect to formally restructure a loan due to the weakening credit status of a
borrower so that the restructuring may facilitate a repayment plan that minimizes the potential
losses that the Company may have to otherwise incur. At December 31, 2010 and 2009, the Company
had $49,537 and $16,061 of restructured loans of which $9,597 and $4,429 were classified as
non-accrual and the remaining were performing.
The following table sets forth information with respect to the Company’s nonperforming assets
at the dates indicated.
Total non-performing assets increased by $73,188 from December 31, 2009 to December 31,
2010. This increase was principally driven by deterioration in the economy during 2010 which was
reflected principally in the Company’s residential real estate construction and development
portfolio. In 2010, the Company devoted significant attention to our asset quality issues,
including having segregated these assets within our Special Assets Group so that we may diligently
work through the resolution of each on an asset-by-asset basis. The Special Assets Group meets
monthly to discuss the performance of the portfolio and specific relationships with emphasis on the
underperforming assets. The Special Assets Group is responsible for the resolution of problem
credits by creating action plans, which could include foreclosure, restructuring the loan, issuing
demand letters or other actions. If nonaccrual loans at December 31, 2010 had been current
according to their original terms and had been outstanding throughout 2010, or since origination if
originated during the year, interest income on these loans in 2010 would have been approximately
$5,948. Interest actually recognized on these loans during 2010 was $4,843. Interest income not
recognized on restructured loans was not significant for 2010.
OREO increased by $2,927 from December 31, 2009 to December 31, 2010. The real estate
consists of 122 properties, of which 49 are 1-4 family residential properties with a carrying value
of $3,966; 38 are construction development of 1-4 residential properties with a carrying value of
$37,481; two are multi-family residential properties with a carrying value of $648; four are
parcels of commercial vacant land with a carrying value of $3,192; 23 are vacant 1-4 family
residential lots with a carrying value of $7,038; five are commercial buildings with a carrying
value of $5,321; and one is a commercial construction project with a carrying value of $2,318.
Management has recorded these properties at estimated fair market value, based on current
appraisals, less estimated selling costs. Other repossessed assets decreased from $216 at December
31, 2009 to $130 at December 31, 2010. The decrease is due primarily to the disposition of
repossessed automobiles at one of the Company’s subsidiaries.
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The recorded investment of impaired loans, defined under Accounting Standards Codification
(“ASC”) Topic ASC 310 as loans which, based upon current information and events, it is considered
probable that the Company will be unable to collect all amounts of contractual interest and
principal as scheduled in the loan agreement, increased by $70,753 from $115,238 at December 31,
2009 to $185,991 at December 31, 2010. The related allowance on the recorded investment of
impaired loans also increased by $19,097 from $5,737 at December 31, 2009 to $24,834 at December 31, 2010. Under accounting guidance for impaired loans,
the impairment is probable if the future events indicate that the Bank will not collect principal
and interest in accordance with contractual terms. Impaired loans are included in non-performing
loans. This increase is primarily attributable to the continued deterioration throughout 2010 in
residential real estate construction loans located in the Company’s urban markets. The recorded
investment of impaired loans of $185,991 at December 31, 2010 and $115,238 at December 31, 2009 are
net of balances previously charged-off of $36,574 and $27,937 respectively.
Allowance for Loan Losses. The allowance for loan losses is maintained at a level which
management believes is adequate to absorb all probable losses on loans then present in the loan
portfolio. The amount of the allowance is affected by: (1) loan charge-offs, which decrease the
allowance; (2) recoveries on loans previously charged-off, which increase the allowance; and (3)
the provision for possible loan losses charged against income, which increases the allowance. In
determining the provision for possible loan losses, it is necessary for management to monitor
fluctuations in the allowance resulting from actual charge-offs and recoveries, and to periodically
review the size and composition of the loan portfolio in light of current and anticipated economic
conditions, including residential real estate prices and transaction volume in the Company’s market
areas, in an effort to evaluate portfolio risks. In evaluating residential real estate market
conditions, the Company’s internal policies require new appraisals on adversely rated collateral
dependent loans to be obtained at least annually. On a quarterly basis, the Company receives a
written report from an independent nationally recognized organization which provides updated
valuation trends, by price point and by zip code, for each of the major markets in which the
Company is conducting business. The information is then used in the Company’s impairment analysis
of collateral dependent loans. If actual losses exceed the amount of the allowance for loan
losses, earnings of the Company could be adversely affected. The amount of the provision is based
on management’s judgment of those risks. During the year ended December 31, 2010, the Company’s
provision for loan losses increased by $20,861 to $71,107 from $50,246 for the year ended December
31, 2009 and the allowance for loan losses increased by $16,669 to $66,830 at December 31, 2010
from $50,161 at December 31, 2009.
The elevated allowance for loan losses was attributable primarily to continuing weakened
economic conditions experienced in the Company’s urban markets, principally the Nashville and
Knoxville markets, beginning in the fourth quarter of 2007 and continuing through 2010, accompanied
by deteriorating credit quality associated primarily with residential real estate construction and
development loans in these markets. The allowance for loan losses as a percentage of total loans
was 3.83% at the end of 2010 versus 2.45% at December 31, 2009. The loan loss reserves reflected
the higher level of non-performing banking assets, and losses inherent in this segment of the
Company’s business, as noted in Notes 3 and 17 of Notes to Consolidated Financial Statements.
Although Management believes that the allowance for loan losses is adequate to cover estimated
losses inherent in the portfolio, there can be no assurances that additional reserves may not be
required in the future.
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The following is a summary of activity in the allowance for loan losses for the periods
indicated:
Breakdown of allowance for loan losses by portfolio segment. The following table
presents an allocation among the listed loan categories of the Company’s allowance for loan losses
at the dates indicated and the percentage of loans in each category to the total amount of loans at
the respective year-ends:
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Investment Activities
General. The Company maintains a portfolio of investments for general liquidity
purposes and to cover minimum pledging requirements for municipal deposits and borrowings.
Securities by Category. The following table sets forth the carrying value of the
securities, by major categories, held by the Company at December 31, 2010, 2009 and 2008:
Maturity Distributions of Securities. The following table sets forth the distributions of
maturities of securities at amortized cost as of December 31, 2010:
Expected maturities may differ from contractual maturities because borrowers may have the right to
call or prepay obligations with or without call or prepayment penalties.
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Deposits
Deposits are the primary source of funds for the Company. Such deposits consist of
noninterest bearing and interest-bearing demand deposit accounts, regular savings deposits, Money
Market accounts and market rate certificates of deposit. Deposits are attracted from individuals,
partnerships and corporations in the Company’s market areas. In addition, the Company obtains
deposits from state and local entities and, to a lesser extent, U.S. Government and other
depository institutions. The Company’s Asset/Liability Management Policy permits the acceptance of
limited amounts of brokered deposits. At December 31, 2010 the percentage of the Company’s
brokered deposits to total deposits was 0.07%, which was within the limits of the Asset/Liability
Management Policy. The Company’s brokered deposits were also within the limits of the
Asset/Liability Management Policy at December 31, 2009 and 2008, respectively.
The following table sets forth the average balances and average interest rates based on daily
balances for deposits for the periods indicated:
The following table indicates the amount of the Company’s certificates of deposit and
brokered certificates of deposit of $100 or more by time remaining until maturity as of December
31, 2010:
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Competition
The Company seeks to compete effectively through its reliance on local commercial activity;
personal contacts by its directors, officers, other employees and shareholders; personalized
services; and its reputation in the communities it serves.
According to data as of June 30, 2010 published by SNL Financial LC and using information from
the FDIC, the Bank ranked as the largest independent commercial bank headquartered in East
Tennessee, and its major market areas include Greene, Blount, Davidson, Hamblen, Hawkins, Knox,
Lawrence, Loudon, Macon, McMinn, Montgomery, Rutherford, Smith, Sullivan, Sumner, Washington and
Williamson Counties, Tennessee and portions of Cocke and Monroe Counties, Tennessee. In Greene
County, in which the Company enjoyed its largest deposit share as of June 30, 2010, there were
seven commercial banks and one savings bank, operating 26 branches and holding an aggregate of
approximately $1.0 billion in deposits as of June 30, 2010. The following table sets forth the
Bank’s deposit share, excluding credit unions, in each county in which it has a full-service
branch(s) as of June 30, 2010, according to data published by the FDIC:
Employees
As of December 31, 2010 the Company employed 730 full-time equivalent employees. None of the
Company’s employees are presently represented by a union or covered under a collective bargaining
agreement. Management considers relations with employees to be good.
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Regulation, Supervision and Governmental Policy
The following is a brief summary of certain statutes, rules and regulations affecting the
Company and the Bank. A number of other statutes and regulations have an impact on their
operations. These laws and regulations are generally intended to protect depositors and borrowers,
not shareholders. The following discussion describes the material elements of the regulatory
framework that currently apply. In July 2010, the Dodd-Frank Act was signed into law, incorporating
numerous financial institution regulatory reforms. Many of these reforms will be implemented over
the course of 2011 through regulations to be adopted by various federal banking and securities
regulations. The following summary of applicable statutes and regulations does not purport to be
complete and is qualified in its entirety by reference to such statutes and regulations.
The Dodd-Frank Wall Street Reform and Consumer Protection Act
On July 21, 2010, the Dodd-Frank Act was signed into law. The Dodd-Frank Act implements
far-reaching reforms of major elements of the financial landscape, particularly for larger
financial institutions. Many of its most far-reaching provisions do not directly impact
community-based institutions like the Company. For instance, provisions that regulate derivative
transactions and limit derivatives trading activity of federally-insured institutions, enhance
supervision of “systemically significant” institutions, impose new regulatory authority over hedge
funds, limit proprietary trading by banks, and phase-out the eligibility of trust preferred
securities for Tier 1 capital are among the provisions that do not directly impact the Company
either because of exemptions for institutions below a certain asset size or because of the nature
of the Company’s operations. Those provisions that will impact the Company include the following:
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Many aspects of the Dodd-Frank Act are subject to rulemaking and will take effect over several
years, and their impact on the Company or the financial industry is difficult to predict before
such regulations are adopted.
Bank Holding Company Regulation. The Company is registered as a bank holding company
under the Bank Holding Company Act (the “Holding Company Act”) and, as such, is subject to
supervision, regulation and examination by the Board of Governors of the FRB.
Acquisitions and Mergers. Under the Holding Company Act, a bank holding company must obtain the
prior approval of the FRB before (1) acquiring direct or indirect ownership or control of any
voting shares of any bank or bank holding company if, after such acquisition, the bank holding
company would directly or indirectly own or control more than 5% of such shares; (2) acquiring all
or substantially all of the assets of another bank or bank holding company; or (3) merging or
consolidating with another bank holding company. Also, any company must obtain approval of the FRB
prior to acquiring control of the Company or the Bank. For purposes of the Holding Company Act,
“control” is defined as ownership of more than 25% of any class of voting securities of a bank
holding company or bank, the ability to control the election of a majority of the directors, or the
exercise of a controlling influence over management or policies of the a bank holding company or
bank. Control is rebuttably presumed to exist if a person or company acquires 10% or more, but
less than 25%, of any class of voting securities and either:
Our common stock is registered under Section 12 of the Securities Exchange Act of 1934. The
regulations provide a procedure for challenge of the rebuttable control presumption.
The Change in Bank Control Act and the related regulations of the FRB require any person or
persons acting in concert (except for companies required to make application under the Holding
Company Act), to file a written notice with the FRB before such person or persons may acquire
control of a bank holding company or bank. The Change in Bank Control Act defines “control” as the
power, directly or indirectly, to vote 25% or more of any voting securities or to direct the
management or policies of a bank holding company or an insured bank.
Bank holding companies like the Company are currently prohibited from engaging in activities
other than banking and activities so closely related to banking or managing or controlling banks as
to be a proper incident thereto. The FRB’s regulations contain a list of permissible nonbanking
activities that are closely related to banking or managing or controlling banks. A bank holding
company must file an application or notice with the FRB prior to acquiring more than 5% of the
voting shares of a company engaged in such activities. The Gramm-Leach-Bliley Act of 1999 (the
“GLB Act”), however, greatly broadened the scope of activities permissible for bank holding
companies. The GLB Act permits bank holding companies, upon election and classification as
financial holding companies, to engage in a broad variety of activities “financial” in nature. The
Company has not filed an election with the FRB to be a financial holding company, but may choose to
do so in the future.
Capital Requirements. The Company is also subject to FRB guidelines that require bank holding
companies to maintain specified minimum ratios of capital to total assets and capital to
risk-weighted assets. The Dodd-Frank Act extended additional capital requirements to bank holding
companies on a consolidated basis. See “Capital Requirements.”
Dividends. The FRB has the power to prohibit dividends by bank holding companies if their
actions constitute unsafe or unsound practices. The FRB has issued a policy statement expressing
its view that a bank holding company should pay cash dividends only to the extent that the
company’s net income for the past year is sufficient to cover both the cash dividends and a rate of earnings retention that is
consistent with the company’s capital needs, asset quality, and overall financial condition.
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The Company is a legal entity separate and distinct from the Bank. Over time, the principal
source of the Company’s cash flow, including cash flow to pay interest to its holders of trust
preferred securities and dividends to holders of the Series A preferred stock the Company issued to
the U.S. Treasury in connection with the Capital Purchase Program (“CPP”) and to the Company’s
common stock shareholders, will be dividends that the Bank pays to the Company as its sole
shareholder. Under Tennessee law, the Company is not permitted to pay dividends if, after giving
effect to such payment, the Company would not be able to pay its debts as they become due in the
normal course of business or the Company’s total assets would be less than the sum of its total
liabilities plus any amounts needed to satisfy any preferential rights if the Company were
dissolving. In addition, in deciding whether or not to declare a dividend of any particular size,
the Company’s board of directors must consider the Company’s current and prospective capital,
liquidity, and other needs.
In addition to the limitations on the Company’s ability to pay dividends under Tennessee law,
the Company’s ability to pay dividends on its common stock is also limited by the Company’s
participation in the CPP, by certain statutory or regulatory limitations and by an informal
commitment the Company has made to the FRB-Atlanta that it will not pay dividends on its common or
preferred stock (or interest on its subordinated debentures) without the prior approval of the
FRB-Atlanta. The Company also informally committed to the FRB-Atlanta that it will not incur any
indebtedness or repurchase any shares of its capital stock without the prior approval of the
FRB-Atlanta. Prior to December 23, 2011, unless the Company has redeemed the Series A preferred
stock issued to the U.S. Treasury in the CPP or the U.S. Treasury has transferred the Series A
preferred stock to a third party, the consent of the U.S. Treasury must be received before the
Company can declare or pay any dividend or make any distribution on the Company’s common stock in
excess of $0.13 per quarter. Furthermore, if the Company is not current in the payment of
quarterly dividends on the Series A preferred stock, it cannot pay dividends on its common stock.
These dividend restrictions resulting from the Company’s participation in the CPP are in addition
to those resulting from the Company’s informal commitment to the FRB-Atlanta.
Statutory and regulatory limitations also apply to the Bank’s payment of dividends to the
Company. Under Tennessee law, the Bank can only pay dividends to the Company in an amount equal to
or less than the total amount of its net income for that year combined with retained net income for
the preceding two years. Payment of dividends in excess of this amount requires the consent of the
Commissioner of the TDFI (the “Commissioner”). Because the Bank incurred a loss in both 2010 and
2009, dividends from the Bank to the Company, including, if necessary, dividends to support the
Company’s payment of interest on its subordinated debt and dividends on the Series A preferred
stock it sold to the U.S. Treasury will require prior approval by the Commissioner.
The payment of dividends by the Bank and the Company may also be affected by other factors,
such as the requirement to maintain adequate capital above regulatory guidelines. The federal
banking agencies have indicated that paying dividends that deplete a depository institution’s
capital base to an inadequate level would be an unsafe and unsound banking practice. Under the
Federal Deposit Insurance Corporation Improvement Act of 1991 (“FDICIA”), a depository institution
may not pay any dividend if payment would cause it to become undercapitalized or if it already is
undercapitalized. Moreover, the federal agencies have issued policy statements that provide that
bank holding companies and insured banks should generally only pay dividends out of current
operating earnings. Recent supervisory guidance from the FRB indicates that bank holding companies
that are participants in the CPP that are experiencing financial difficulty generally should
eliminate, reduce or defer dividends on Tier 1 capital instruments including trust preferred
securities, preferred stock or common stock, if the holding company needs to conserve capital for
safe and sound operation and to serve as a source of strength to its subsidiaries.
On November 9, 2010, following consultation with the FRB-Atlanta, the Company notified the
U.S. Treasury that the Company was suspending the payment of regular quarterly cash dividends on
the Series A preferred stock issued to the U.S. Treasury The dividends, which are cumulative, will
continue to be reported as a preferred dividend requirement that is deducted from net income for
financial statement purposes. Additionally, following consultation with the FRB-Atlanta, the
Company has exercised its rights to defer regularly scheduled interest payments on all of its
issues of junior subordinated notes having an outstanding principal amount of $88.6 million,
relating to outstanding trust preferred securities (“TRUPs”). Under the terms of the trust
documents, the Company may defer payments of interest for up to 20 consecutive quarterly periods without triggering
an event of default. During a deferral period, the Company may not pay dividends on its common or
preferred stock or interest on indebtedness that ranks pari passu or junior to the subordinated
debentures. The regular scheduled interest payments will continue to be accrued for payment in the
future and reported as an expense for financial statement purposes. Together, the deferral of
interest payments on TRUPs and suspension of dividend payments to the U.S. Treasury will preserve
about $5.1 million per year in cash flow.
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Support of Banking Subsidiaries. Under the Dodd-Frank Act, and previously under FRB policy,
the Company is expected to act as a source of financial strength to the Bank and, where required,
to commit resources to support the Bank. This support can be required at times when it would not
be in the best interest of the Company’s shareholders or creditors to provide it. Further, if the
Bank’s capital levels were to fall below minimum regulatory guidelines, the Bank would need to
develop a capital plan to increase its capital levels and the Company would be required to
guarantee the Bank’s compliance with the capital plan in order for such plan to be accepted by the
federal regulatory authority. In the event of the Company’s bankruptcy, any commitment by the
Company to a federal bank regulatory agency to maintain the capital of the Bank would be assumed by
the bankruptcy trustee and entitled to a priority of payment.
Under the “cross guarantee” provisions of the Federal Deposit Insurance Act (the “FDI Act”),
any FDIC-insured subsidiary of the Company such as the Bank could be liable for any loss incurred
by, or reasonably expected to be incurred by, the FDIC in connection with (i) the default of any
other FDIC-insured subsidiary also controlled by the Company or (ii) any assistance provided by the
FDIC to any FDIC-insured subsidiary of the Company in danger of default.
Transactions with Affiliates. The Federal Reserve Act, as amended by Regulation W, imposes
legal restrictions on the quality and amount of credit that a bank holding company or its non-bank
subsidiaries (“affiliates”) may obtain from bank subsidiaries of the holding company. For
instance, these restrictions generally require that any such extensions of credit by a bank to its
affiliates be on non-preferential terms and be secured by designated amounts of specified
collateral. Further, a bank’s ability to lend to its affiliates is limited to 10% per affiliate
(20% in the aggregate to all affiliates) of the bank’s capital and surplus.
Bank Regulation. As a federally-insured, Tennessee banking institution, the Bank is subject
to regulation, supervision and regular examination by the TDFI and the FDIC. Tennessee and federal
banking laws and regulations control, among other things, required reserves, investments, loans,
mergers and consolidations, issuance of securities, payment of dividends, and establishment of
branches and other aspects of the Bank’s operations. Supervision, regulation and examination of
the Company and the Bank by the bank regulatory agencies are intended primarily for the protection
of depositors rather than for the Company’s security holders.
Extensions of Credit. Under joint regulations of the federal banking agencies, including the
FDIC, banks must adopt and maintain written policies that establish appropriate limits and
standards for extensions of credit that are secured by liens or interests in real estate or are
made for the purpose of financing permanent improvements to real estate. These policies must
establish loan portfolio diversification standards, prudent underwriting standards, including
loan-to-value limits that are clear and measurable, loan administration procedures and
documentation, approval and reporting requirements. A bank’s real estate lending policy must
reflect consideration of the Interagency Guidelines for Real Estate Lending Policies (the
“Interagency Guidelines”) that have been adopted by the federal banking regulators. The
Interagency Guidelines, among other things, call upon depository institutions to establish internal
loan-to-value limits for real estate loans that are not in excess of the loan-to-value limits
specified in the Interagency Guidelines for the various types of real estate loans. The
Interagency Guidelines state that it may be appropriate in individual cases to originate or
purchase loans with loan-to-value ratios in excess of the supervisory loan-to-value limits. The
aggregate amount of loans in excess of the supervisory loan-to-value limits, however, should not
exceed 100% of total capital, and the total of such loans secured by commercial, agricultural,
multifamily and other non-one-to-four family residential properties should not exceed 30% of total
capital.
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Federal Deposit Insurance. The deposits of the Bank are insured by the FDIC to the maximum
extent provided by law, and the Bank is subject to FDIC deposit insurance assessments. The FDIC
has adopted a risk-based assessment system for insured depository institutions that takes into account the risks
attributable to different categories and concentrations of assets and liabilities. In early 2006,
Congress passed the Federal Deposit Insurance Reform Act of 2005, which made certain changes to the
Federal deposit insurance program. These changes included merging the Bank Insurance Fund and the
Savings Association Insurance Fund, increasing retirement account coverage to $250,000 and
providing for inflationary adjustments to general coverage beginning in 2010, providing the FDIC
with authority to set the fund’s reserve ratio within a specified range, and requiring dividends to
banks if the reserve ratio exceeds certain levels. The statute grants banks an assessment credit
based on their share of the assessment base on December 31, 1996, and the amount of the credit can
be used to reduce assessments in any year subject to certain limitations.
Under the Dodd-Frank Act, the FDIC was required to adopt regulations that would base deposit
insurance assessments on total assets less capital rather than deposit liabilities and to include
off-balance sheet liabilities of institutions and their affiliates in risk-based assessments.
The Emergency Economic Stabilization Act of 2008 (“EESA”) provided for a temporary increase in
the basic limit on federal deposit insurance coverage from $100,000 to $250,000 per depositor. This
increased level of basic deposit insurance was made permanent by the Dodd-Frank Act. In addition,
on October 14, 2008, the FDIC instituted temporary unlimited FDIC coverage of non-interest bearing
deposit transaction accounts. Following passage of the Dodd-Frank Act, an institution can provide
full coverage on non-interest bearing transaction accounts until December 31, 2012. The Dodd-Frank
Act also repealed the prohibition on paying interest on demand transaction accounts, but did not
extend unlimited insurance protection for these accounts.
The FDIC may terminate its insurance of deposits if it finds that the institution has engaged
in unsafe and unsound practices, is in an unsafe or unsound condition to continue operations, or
has violated any applicable law, regulation, rule, order or condition imposed by the FDIC.
Safety and Soundness Standards. The FDICIA required the federal bank regulatory agencies to
prescribe, by regulation, non-capital safety and soundness standards for all insured depository
institutions and depository institution holding companies. The FDIC and the other federal banking
agencies have adopted guidelines prescribing safety and soundness standards pursuant to FDICIA.
The safety and soundness guidelines establish general standards relating to internal controls and
information systems, internal audit systems, loan documentation, credit underwriting, interest rate
exposure, asset growth, and compensation, fees and benefits. Among other things, the guidelines
require banks to maintain appropriate systems and practices to identify and manage risks and
exposures identified in the guidelines.
Participation in the Capital Purchase Program of the Troubled Asset Relief Program. On October
3, 2008, the EESA became law. Under the Troubled Asset Relief Program (“TARP”) authorized by EESA,
the U.S. Treasury established the CPP providing for the purchase of senior preferred shares of
qualifying U.S. controlled banks, savings associations and certain bank and savings and loan
holding companies. On December 23, 2008, the Company sold 72,278 shares of Series A preferred stock
and warrants to acquire 635,504 shares of common stock to the U.S. Treasury pursuant to the CPP for
aggregate consideration of $83 million. As a result of the Company’s participation in the CPP, the
Company agreed to certain limitations on executive compensation. On February 17, 2009, President
Obama signed into law The American Recovery and Reinvestment Act of 2009 (“ARRA”), more commonly
known as the economic stimulus or economic recovery package. ARRA, which amends EESA, includes a
wide variety of programs intended to stimulate the economy and provide for extensive
infrastructure, energy, health, and education needs. Under ARRA, the Company is subject to
additional and more extensive executive compensation limitations and corporate governance
requirements. ARRA also permits the Company to redeem the preferred shares it sold to the U.S.
Treasury without penalty and without the need to raise new capital, subject to the U.S. Treasury’s
consultation with the Company’s and the Bank’s appropriate regulatory agency.
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For as long as the U.S. Treasury owns any debt or equity securities of the Company issued in
connection with the CPP, the Company will be required to take all necessary action to ensure that
its benefit plans with respect to its senior executive officers comply in all respects with Section
111(b) of the EESA, as amended by the ARRA, and the regulations issued and in effect thereunder,
including the interim final rule related to executive compensation and corporate governance issued
by the U.S. Treasury on June 15, 2009 (the “IFR”). This means that, among other things, while the
U.S. Treasury owns debt or equity securities issued by the Company in connection with the CPP, the
Company must:
Capital Requirements. Both the Company and the Bank are required to comply with the capital
adequacy standards established by the FRB, in the Company’s case, and the FDIC, in the case of the
Bank. The FRB has established a risk-based and a leverage measure of capital adequacy for bank
holding companies, like the Company. The Bank is also subject to risk-based and leverage capital
requirements adopted by the FDIC, which are substantially similar to those adopted by the FRB for
bank holding companies. In addition, the FDIC and TDFI may require state banks that are not members
of the FRB, like the Bank, to maintain capital at levels higher than those required by general
regulatory requirements.
The risk-based capital standards are designed to make regulatory capital requirements more
sensitive to differences in risk profiles among banks and bank holding companies, to account for
off-balance-sheet exposure, and to minimize disincentives for holding liquid assets. Assets and
off-balance-sheet items, such as letters of credit and unfunded loan commitments, are assigned to
broad risk categories, each with appropriate risk weights. The resulting capital ratios represent
capital as a percentage of total risk-weighted assets and off-balance-sheet items.
The minimum statutory guideline for the ratio of total capital to risk-weighted assets is 8%.
Total capital consists of two components, Tier 1 capital and Tier 2 capital. Tier 1 capital
generally consists of common stock, minority interests in the equity accounts of consolidated
subsidiaries, noncumulative perpetual preferred stock, and a limited amount of cumulative perpetual
preferred stock, less goodwill and other specified intangible assets. The Series A preferred stock
that the Company sold to the U.S. Treasury in connection with the CPP and the TRUPs each qualifies
as Tier 1 capital, and as described below will continue to qualify as Tier 1 capital following
passage of the Dodd-Frank Act. Under statutory guidelines, Tier 1 capital must equal at least 4% of
risk-weighted assets. Tier 2 capital generally consists of subordinated debt, other preferred
stock, and a limited amount of loan loss reserves. The total amount of Tier 2 capital is limited to
100% of Tier 1 capital.
In addition, the FRB has established minimum leverage ratio guidelines for bank holding
companies. These guidelines provide for a minimum ratio of Tier 1 capital to average assets, less
goodwill and other specified intangible assets, of 3% for bank holding companies that meet
specified criteria, including having the highest regulatory rating and implementing the FRB’s
risk-based capital measure for market risk. All other bank holding companies generally are required
to maintain a leverage ratio of at least 4%. The guidelines also provide that bank holding
companies experiencing high internal growth or making acquisitions will be expected to maintain
strong capital positions substantially above the minimum supervisory levels. Furthermore, the FRB
has indicated that it will consider a bank holding company’s Tier 1 capital leverage, after
deducting all intangibles, and other indicators of capital strength in evaluating proposals for
expansion or new activities.
In late 2010, the Basel Committee on Banking Supervision issued Basel III, a new capital
framework for banks and bank holding companies. If implemented in the United States, Basel III will
impose a stricter definition of capital, with more focus on common equity. At this time, the
Company does not know whether Basel III will be implemented in the United States, and if so
implemented whether it will be applicable to the Company and the Bank, because by its terms it is
applicable only to internationally active banks. But, if Basel III is implemented in the United
States and becomes applicable to the Company, the Company and the Bank would likely be subject to
higher minimum capital ratios than those to which the Company and the Bank are currently subject.
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Failure to meet statutorily mandated capital guidelines or more restrictive ratios separately
established for a financial institution (like those that the Bank has informally agreed with the
TDFI and FDIC that it will maintain) could subject a bank or bank holding company to a variety of
enforcement remedies, including issuance of a capital directive, the termination of deposit
insurance by the FDIC, a prohibition on accepting or renewing brokered deposits, limitations on the
rates of interest that the institution may pay on its deposits and other restrictions on its
business. As described above, significant additional restrictions can be imposed on FDIC-insured
depository institutions that fail to meet applicable capital requirements.
Additionally, the Federal Deposit Insurance Corporation Improvement Act of 1991 establishes a
system of prompt corrective action to resolve the problems of undercapitalized financial
institutions. Under this system, the federal banking regulators have established five capital
categories (well capitalized, adequately capitalized, undercapitalized, significantly
undercapitalized and critically undercapitalized) into one of which all institutions are placed.
Federal banking regulators are required to take various mandatory supervisory actions and are
authorized to take other discretionary actions with respect to institutions in the three
undercapitalized categories. The severity of the action depends upon the capital category in which
the institution is placed. Generally, subject to a narrow exception, the banking regulator must
appoint a receiver or conservator for an institution that is critically undercapitalized. The
federal banking agencies have specified by regulation the relevant capital level for each category.
An institution that is categorized as undercapitalized, significantly undercapitalized, or
critically undercapitalized is required to submit an acceptable capital restoration plan to its
appropriate federal banking agency. A bank holding company must guarantee that a subsidiary
depository institution meets its capital restoration plan, subject to various limitations. The
controlling holding company’s obligation to fund a capital restoration plan is limited to the
lesser of 5% of an undercapitalized subsidiary’s assets or the amount required to meet regulatory
capital requirements. An undercapitalized institution is also generally prohibited from increasing
its average total assets, making acquisitions, establishing any branches or engaging in any new
line of business, except under an accepted capital restoration plan or with FDIC approval. The
regulations also establish procedures for downgrading an institution and a lower capital category
based on supervisory factors other than capital. As of December 31, 2010, the Bank would be
considered “well capitalized” under the FDIC’s prompt corrective action provisions; however, the
Bank has informally committed to the TDFI and the FDIC that it will maintain a Tier 1 leverage
ratio of not less than 10% and a Total risk-based capital ratio of not less than 14%. Because of
the significant losses that the Bank incurred in the second half of 2010, the Bank’s capital levels
fell below these required minimum levels at December 31, 2010. At December 31, 2010, the Bank’s
Tier 1 leverage ratio was 8.88% and its ratio of Total capital to risk-weighted assets was 13.22%.
Because the Bank’s capital levels at December 31, 2010 were below those that the Bank had
informally committed to its primary regulators that it would maintain, the Bank was required to
submit a Capital Action Plan to its primary regulators.
The Dodd-Frank Act contains a number of provisions dealing with capital adequacy of insured
depository institutions and their holding companies, and for the most part will result in insured
depository institutions and their holding companies being subject to more stringent capital
requirements. Under the so-called Collins Amendment to the Dodd-Frank Act, federal regulators were
directed to establish minimum leverage and risk-based capital requirements for, among other
entities, banks and bank holding companies on a consolidated basis. These minimum requirements
can’t be less than the generally applicable leverage and risk-based capital requirements
established for insured depository institutions nor quantitatively lower than the leverage and
risk-based capital requirements established for insured depository institutions that were in effect
as of the date that the Dodd-Frank Act was enacted. These requirements in effect create capital
level floors for bank holding companies similar to those in place currently for insured depository
institutions. The Collins Amendment also excludes trust preferred securities issued after May 19,
2010 from being included in Tier 1 capital unless the issuing company is a bank holding company
with less than $500 million in total assets. Trust preferred securities issued prior to that date
will continue to count as Tier 1 capital for bank holding companies with less than $15 billion in
total assets, and such securities will be phased out of Tier 1 capital treatment for bank holding
companies with over $15 billion in total assets over a three-year period beginning in 2013. The
Collins Amendment did not exclude preferred stock issued to the U.S. Treasury through the CPP from
Tier 1 capital treatment. Accordingly, the Company’s TRUPs and Series A preferred stock issued to
the U.S. Treasury through the CPP will continue to qualify as Tier 1 capital.
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More information concerning the Company’s, and the Bank’s, regulatory capital ratios at
December 31, 2010 is included in Note 12 to the “Notes to Consolidated Financial Statements”
included elsewhere in this Annual Report on Form 10-K.
Legislative, Legal and Regulatory Developments. The banking industry is generally subject
to extensive regulatory oversight. The Company, as a publicly held bank holding company, and the
Bank, as a state-chartered bank with deposits insured by the FDIC, are subject to a number of laws
and regulations. Many of these laws and regulations have undergone significant change in recent
years. In July 2010, the U.S. Congress passed, and President Obama signed into law, the Dodd-Frank
Act, which includes significant consumer protection provisions related to residential mortgage
loans that is likely to increase our regulatory compliance costs. These laws and
regulations impose restrictions on activities, minimum capital requirements, lending and deposit
restrictions and numerous other requirements. Future changes to these laws and regulations, and
other new financial services laws and regulations, are likely and cannot be predicted with
certainty. With the enactments of EESA, AARA and the Dodd-Frank Act and the significant amount of
regulations that are to come from the passage of that legislation, the nature and extent of the
future legislative and regulatory changes affecting financial institutions and the resulting impact
on those institutions is very unpredictable at this time. The Dodd-Frank Act, in particular, will
require that a significant number of new regulations be adopted by various financial regulatory
agencies over 2011 and 2012.
USA Patriot Act. The President of the United States signed the Uniting and Strengthening
America by Providing Appropriate Tools Required to Intercept and Obstruct Terrorism Act (the
“Patriot Act”), into law on October 26, 2001. The Patriot Act establishes a wide variety of new
and enhanced ways of combating international terrorism. The provisions that affect banks (and
other financial institutions) most directly are contained in Title III of the act. In general, Title III amended existing law — primarily the
Bank Secrecy Act — to provide the Secretary of U.S. Treasury and other departments and agencies of
the federal government with enhanced authority to identify, deter, and punish international money
laundering and other crimes.
Among other things, the Patriot Act prohibits financial institutions from doing business with
foreign “shell” banks and requires increased due diligence for private banking transactions and
correspondent accounts for foreign banks. In addition, financial institutions will have to follow
new minimum verification of identity standards for all new accounts and will be permitted to share
information with law enforcement authorities under circumstances that were not previously
permitted. These and other provisions of the Patriot Act became effective at varying times and the
Treasury and various federal banking agencies are responsible for issuing regulations to implement
the new law.
Additional Information
The Company maintains a website at www.greenbankusa.com and is not including the information
contained on this website as a part of, or incorporating it by reference into, this Annual Report
on Form 10-K. The Company makes available free of charge (other than an investor’s own internet
access charges) through its website its Annual Report on Form 10-K, quarterly reports on Form 10-Q,
and current reports on Form 8-K, and amendments to these reports, as soon as reasonably practicable
after the Company electronically files such material with, or furnishes such material to, the SEC.
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Investing in our common stock involves various risks which are particular to our company,
our industry and our market area. Several risk factors regarding investing in our common stock are
discussed below. This listing should not be considered as all-inclusive. If any of the following
risks were to occur, we may not be able to conduct our business as currently planned and our
financial condition or operating results could be negatively impacted. These matters could cause
the trading price of our common stock to decline in future periods.
We could sustain additional losses if our asset quality declines further.
Our earnings are affected by general economic conditions, economic conditions within our
markets, loan concentrations and our ability to properly originate, underwrite and service loans.
We could sustain additional losses if we incorrectly assess the creditworthiness of our borrowers
or fail to detect or respond to deterioration in asset quality in a timely manner. Recent problems
with asset quality, particularly within the commercial real estate segment of our loan portfolio,
have caused, and could continue to cause, our interest income and net interest margin to decrease
and our provisions for loan losses and noninterest expenses to increase, which could continue to
adversely affect our results of operations and financial condition. Further increases in
non-performing loans would reduce net interest income below levels that would exist if such loans
were performing.
Our loan portfolio includes an elevated, although shrinking level, of residential construction and
land development loans, which loans have a greater credit risk than residential mortgage loans.
The Company engages in both traditional single-family residential lending and residential
construction and land development lending to developers. The percentage of speculative 1-4 family
loans to developers plus construction and land development loans to developers in the Bank’s
portfolio was approximately 21.9% at December 31, 2010 compared to 31.1% of total loans at December
31, 2009. This type of lending is generally considered to have relatively high credit risks because
the principal is concentrated in a limited number of loans with repayment dependent on the
successful completion and operation of the related real estate project. Consequently, the credit
quality of many of these loans have deteriorated as a result of the current adverse conditions in
the real estate market within our markets. These loans are generally less predictable and more
difficult to evaluate and monitor and collateral may be difficult to dispose of in a market
decline. A continued reduction in residential real estate market prices and demand could result in
further price reductions in home and land values adversely affecting the value of collateral
securing the construction and development loans that we hold. These adverse economic and real
estate market conditions may lead to further increases in non-performing loans and other real
estate owned, increased losses and expenses from the management and disposition of non-performing
assets, increases in provision for loan losses, and increases in operating expenses as a result of
the allocation of management time and resources to the collection and work out of these loans, all
of which would negatively impact our financial condition and results of operations.
Furthermore, during adverse general economic conditions, such as we believe are now being
experienced in residential real estate construction nationwide, borrowers involved in the
residential real estate construction and development business may suffer above normal financial
strain. Throughout 2010, the number of newly constructed homes or lots sold in our market areas
has continued to decline, but at a lesser rate than experienced in 2009, negatively affecting
collateral values. As the residential real estate development and construction market in our
markets has deteriorated, our borrowers in this segment have experienced difficulty repaying their
obligations to us. As a result, our loans to these borrowers have deteriorated and may deteriorate
further and may result in additional charge-offs negatively impacting our results of operations.
Additionally, to the extent repayment is dependent upon the sale of newly constructed homes or
of lots, such sales are likely to be at lower prices or at a slower rate than as expected when the
loan was made, which may result in such loans being placed on non-accrual status and subject to
higher loss estimates even if the borrower keeps interest payments current. These adverse economic
and real estate market conditions may lead to further increases in non-performing loans and other
real estate owned, increased charge-offs from the disposition of non-performing assets, and
increases in provision for loan losses, all of which would negatively impact our financial
condition and results of operations.
Negative developments in the U.S. and local economy and in local real estate markets have adversely
impacted our operations and results and may continue to adversely impact our results in the future.
Economic conditions in the markets in which we operate deteriorated significantly between
early 2008 and the second half of 2010. As a result, we incurred significant losses in 2008, 2009
and 2010. These challenges resulted primarily from provisions for loan losses related to declining
collateral values in our construction and development loan portfolio plus rising OREO related costs
associated with the holding and disposition of these assets. Although the FRB has issued statements
that economic data suggests strongly that the recession ended in the latter half of 2009, we
believe that this difficult economic environment will continue at least into the second half of
2011, and we expect that our results of operations will continue to be negatively impacted as a result. There can be no
assurance that the economic conditions that have adversely affected the financial services
industry, and the capital, credit and real estate markets generally or us in particular, will
improve materially, or at all, in the near future, or thereafter, in which case we could continue
to experience significant losses and write-downs of assets, and could face capital and liquidity
constraints or other business challenges.
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Negative developments in the financial services industry and U.S. and global credit markets may
adversely impact our operations and results.
Negative developments beginning in 2008 and continuing into 2010 in the capital markets have
resulted in uncertainty in the financial markets in general with the expectation of the general
economic downturn continuing into 2011. Loan portfolio performances have deteriorated at many
institutions resulting from, amongst other factors, a weak economy and a decline in the value of
the collateral supporting their loans. The competition for our deposits has increased significantly
due to liquidity concerns at many of these same institutions. Stock prices of bank holding
companies have been negatively affected by the current condition of the financial markets, as has
our ability, if needed, to raise capital at reasonable prices or borrow in the debt markets
compared to recent years.
Our business is subject to the success of the local economies where we operate.
Our success significantly depends upon the growth in population, income levels, deposits,
residential real estate stability and housing starts in our market areas. If the communities in
which we operate do not grow or if prevailing economic conditions locally or nationally are
unfavorable, our business may not succeed. Adverse economic conditions in our specific market areas
could cause us to continue to experience negative, or limited, growth, affect the ability of our
customers to repay their loans to us and generally affect our financial condition and results of
operations. Moreover, we cannot give any assurance that we will benefit from any market growth or
favorable economic conditions in our primary market areas if they do occur.
Continued adverse market or economic conditions in the state of Tennessee generally, and in
our markets specifically, may increase the risk that our borrowers will be unable to timely make
their loan payments. In addition, the market value of the real estate securing loans as collateral
has been and may continue to be adversely affected by continued unfavorable changes in market and
economic conditions. As of December 31, 2010, approximately 47% of our loans held for investment
were secured by non-owner occupied commercial real estate. Of this amount, approximately 26% were
speculative 1-4 residential construction and land development loans to developers, 21% were
commercial construction and development loans and 53% were non-owner occupied commercial real
estate loans. We experienced increased payment delinquencies with respect to these loans throughout
2009 and 2010 which negatively impacted our results of operations and a sustained period of
increased payment delinquencies, foreclosures or losses caused by continuing adverse market or
economic conditions in the state of Tennessee generally, and in our markets specifically, could
adversely affect the value of our assets, revenues, results of operations and financial condition.
An inadequate allowance for loan losses would reduce our earnings.
The risk of credit losses on loans varies with, among other things, general economic
conditions, the type of loan being made, the creditworthiness of the borrower over the term of the
loan and, in the case of a collateralized loan, the value and marketability of the collateral for
the loan. Management maintains an allowance for loan losses based upon, among other things,
historical experience, an evaluation of economic conditions and regular reviews of delinquencies
and loan portfolio quality. Based upon such factors, management makes various assumptions and
judgments about the ultimate collectability of the loan portfolio and provides an allowance for
loan losses based upon a percentage of the outstanding balances and takes a charge against earnings
with respect to specific loans when their ultimate collectability is considered questionable.
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If management’s assumptions and judgments prove to be incorrect and the allowance for loan
losses is inadequate to absorb losses, or if the bank regulatory authorities require us to increase
our allowance for loan losses as a part of their examination process additional provision expense would be incurred and our
earnings and capital could be significantly and adversely affected. Moreover, additions to the
allowance may be necessary based on changes in economic and real estate market conditions, new
information regarding existing loans or borrowers, identification of additional problem loans and
other factors, both within and outside of our management’s control. These additions may require
increased provision expense which would negatively impact our results of operations.
The Company’s policy requires new appraisals on adversely rated collateral dependent loans to
be obtained at least annually. On a quarterly basis, the Company receives a written report from an
independent nationally recognized organization which provides updated valuation trends, by price
point and by zip code, for each of the major markets in which the Company is conducting business.
The information obtained is then used in the Company’s impaired loan analysis of collateral
dependent loans and potentially could impact the allowance for loan losses.
We, or our bank subsidiary, may become subject to supervisory actions and/or enhanced regulation
that could have an additional material negative effect on our business, operating flexibility,
financial condition and the value of our common stock. In addition, addressing regulatory concerns
in this market environment will require significant time and attention from our management team,
which may increase our costs, impede the efficiency of our internal business processes and
adversely affect our profitability in the near-term.
Under federal and state laws and regulations pertaining to the safety and soundness of insured
depository institutions, the FRB (for bank holding companies), the TDFI (for Tennessee-chartered
banks) and, separately, the FDIC (as the insurer of bank deposits), have the authority to compel or
restrict certain actions on our part, or the part of the Bank, if they determine that we, or the
Bank, have insufficient capital or are otherwise operating in a manner that may be deemed to be
inconsistent with safe and sound banking practices. Under this authority, our, and the Bank’s
regulators can require us to enter into informal or formal enforcement orders, including board
resolutions, memoranda of understanding, written agreements and consent or cease and desist orders,
pursuant to which we, or the Bank, would be required to take identified corrective actions to
address cited concerns and to refrain from taking certain actions. For additional information
relating to the extensive regulation, supervision and legislation that govern most aspects of our
operations and limit the businesses in which we engage, please see
“Regulation, Supervision and Governmental Policy”
beginning on page 14.
In light of declining asset quality and earnings in 2010, the Bank informally committed to the
TDFI and the FDIC that, among other things, it would maintain a Tier 1 leverage ratio of at least
10% and Total risk-based capital ratio of at least 14%, and the Company informally committed to the
FRB-Atlanta that, among other things, we would not incur any additional indebtedness, pay dividends
on our common or preferred stock or pay interest on our TRUPs, without, in each case, the prior
approval of the FRB-Atlanta.
During the third quarter of 2010, the Bank was subject to a joint examination by the FDIC and
the TDFI. Based on initial findings presented to the Bank’s management, the Bank expects that
either the FDIC or the TDFI or both will require the Bank to agree to certain improvements in its
operations, particularly in relation to asset quality matters. We also believe that the Bank will
be required to agree to maintain or increase capital to levels above those required to be
considered well capitalized. We do not know at this time what minimum levels of capital the
regulators will require. If the requirement to maintain higher capital levels than those required
to be well capitalized under the prompt corrective action provisions of the FDICIA is contained in
a formal enforcement action of the FDIC, the Bank may be subject to additional limitations on its
operations including its ability to pay interest on deposits above proscribed rates, which could
adversely affect the Bank’s liquidity and/or operating results. The terms of any such supervisory
action that goes beyond the steps we have already taken may have a significant negative effect on our business,
operating flexibility, results of operations, financial condition and the value of our common
stock.
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If we, or our bank subsidiary, are unable to maintain capital levels above those that we, or the
bank subsidiary, are required to maintain either as a result of federal regulations or as a result
of commitments or agreements that we, or our bank subsidiary, have made to, or with, our
regulators, we would likely need to raise additional capital, but that capital may not be available
when it is needed.
We, and the Bank, are required by federal and state regulatory authorities to maintain
adequate levels of capital to support our, and the Bank’s, operations. In addition, the Bank has
informally committed to the TDFI and the FDIC that it will maintain a Tier 1 leverage ratio of at
least 10% and a Total risk-based capital ratio of at least 14%. At December 31, 2010, the Bank’s
Tier 1 leverage ratio and Total risk-based capital ratio were each below the levels that the Bank
had committed to maintain and a Capital Action Plan was submitted to our regulators. At December
31, 2010, the Company did not have sufficient capital available to contribute to the Bank to aid
the Bank in meeting its commitment. If the Bank is unable to generate sufficient earnings or
reduce the size of its assets to achieve the capital levels that it has informally committed to
maintain, the Company will likely have to raise additional capital and contribute that capital to
the Bank. We can give you no assurance that we will be able to raise this additional capital on
terms acceptable to us and given our current stock price and recent financial performance, it is
likely that the price at which we could raise such capital, if at all, would result in significant
dilution to our existing shareholders. Further, our ability to raise common equity is limited by
the number of authorized, but unissued shares reserved under our charter. If we were to raise
capital through a common stock offering, we would likely need to increase our authorized common
stock, which would require approval of our shareholders. We cannot assure you that our shareholders
would approve such a request.
Liquidity needs could adversely affect our results of operations and financial condition.
We rely on dividends from the Bank as our primary source of funds. The primary source of funds
of the Bank, are customer deposits and loan repayments. While scheduled loan repayments are a
relatively stable source of funds, they are subject to the ability of borrowers to repay the loans
which may be more difficult in economically challenging environments like those currently being
experienced. The ability of borrowers to repay loans can be adversely affected by a number of
factors, including changes in economic conditions, adverse trends or events affecting business
industry groups, reductions in real estate values or markets, business closings or lay-offs,
inclement weather, natural disasters and international instability. Additionally, deposit levels
may be affected by a number of factors, including rates paid by competitors, general interest rate
levels, customer confidence levels and the Bank’s financial strength, returns available to
customers on alternative investments, our financial condition and general economic conditions.
Accordingly, we may be required from time to time to rely on secondary sources of liquidity to meet
withdrawal demands or otherwise fund operations. Such sources include FHLB advances and federal
funds lines of credit from correspondent banks. While we believe that these sources are currently
adequate, there can be no assurance they will be sufficient to meet future liquidity demands. We
may be required to continue to reduce our asset size, slow or discontinue capital expenditures or
other investments or liquidate assets should such sources not be adequate.
We rely on dividends from our bank subsidiary as our primary source of liquidity and payment of
these dividends is limited under Tennessee law.
Under Tennessee law, the amount of dividends that may be declared by the Bank in a year
without approval of the Commissioner is limited to net income for that year combined with retained
net income for the two preceding years. Because of the losses incurred by the Bank in 2009 and
2010, dividends from the Bank to us, including, if necessary, dividends to support our payment of
interest on our subordinated debt and dividends on our preferred stock, including the preferred
stock we issued to the U.S. Treasury, would have required prior approval by the Commissioner.
During the fourth quarter of 2010, we elected to defer the interest payments on our subordinated
debt and dividends on the preferred stock that we issued to the U.S. Treasury as disclosed in our
third quarter 2010 Form 10-Q.
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Our ability to maintain required capital levels and adequate sources of funding and liquidity could
be impacted by changes in the capital markets and deteriorating economic and market conditions.
We, and the Bank, are required to maintain certain capital levels established by banking
regulations or specified by bank regulators or to which we have committed or agreed to maintain. We
must also maintain adequate funding sources in the normal course of business to support our operations and fund outstanding
liabilities. Our ability to maintain capital levels, sources of funding and liquidity could be
impacted by changes in the capital markets and deteriorating economic and market conditions.
Failure by the Bank to meet applicable capital guidelines (including those higher levels that the
Bank has committed, or may commit in the future, to maintain) or to satisfy certain other
regulatory requirements could subject the Bank to a variety of enforcement remedies available to
the federal regulatory authorities.
We have increased levels of other real estate, primarily as a result of foreclosures, and we
anticipate higher levels of foreclosed real estate expense.
As we have begun to resolve non-performing real estate loans, we have increased the level of
foreclosed properties primarily those acquired from builders and from residential land developers.
Foreclosed real estate expense consists of three types of charges: maintenance costs, valuation
adjustments due to new appraisal values and gains or losses on disposition. As levels of other real
estate increase and also as local real estate values decline these charges will likely increase,
negatively affecting our results of operations.
Environmental liability associated with commercial lending could result in losses.
In the course of business, the Bank may acquire, through foreclosure, properties securing
loans it has originated or purchased which are in default. Particularly in commercial real estate
lending, there is a risk that hazardous substances could be discovered on these properties. In this
event, we, or the Bank, might be required to remove these substances from the affected properties
at our sole cost and expense. The cost of this removal could substantially exceed the value of
affected properties. We may not have adequate remedies against the prior owner or other responsible
parties and could find it difficult or impossible to sell the affected properties. These events
could have an adverse effect on our business, results of operations and financial condition.
Changes in interest rates could adversely affect our results of operations and financial condition.
Changes in interest rates may affect our level of interest income, the primary component of
our gross revenue, as well as the level of our interest expense. Interest rates are highly
sensitive to many factors that are beyond our control, including general economic conditions and
the policies of various governmental and regulatory authorities. Accordingly, changes in interest
rates could decrease our net interest income. Changes in the level of interest rates also may
negatively affect our ability to originate real estate loans, the value of our assets and our
ability to realize gains from the sale of our assets, all of which ultimately affects our earnings.
National or state legislation or regulation may increase our expenses and reduce earnings.
Federal bank regulators are increasing regulatory scrutiny, and additional restrictions
(including those originating from the Dodd-Frank Act) on financial institutions have been proposed
or adopted and signed into law by the President, regulators and Congress. Changes in federal
legislation, regulation or policies, such as bankruptcy laws, deposit insurance, consumer
protection laws, and capital requirements, among others, can result in significant increases in our
expenses and/or charge-offs, which may adversely affect our earnings. Changes in state or federal
tax laws or regulations can have a similar impact. Furthermore, financial institution regulatory
agencies are expected to continue to be very aggressive in responding to concerns and trends
identified in examinations, including the continued issuance of additional formal or informal
enforcement or supervisory actions. These actions, whether formal or informal, could result in our,
or the Bank, agreeing to limitations or to take actions that limit our operational flexibility,
restrict our growth or increase our capital or liquidity levels. Failure to comply with any formal
or informal regulatory restrictions, including informal commitments like those we and the Bank have
made to our primary regulators, could lead to further regulatory enforcement actions. Negative
developments in the financial services industry and the impact of recently enacted or new
legislation in response to those developments could negatively impact our operations by restricting
our business operations, including our ability to originate or sell loans, and adversely impact our financial performance. In addition, industry, legislative or regulatory
developments may cause us to materially change our existing strategic direction, capital
strategies, compensation or operating plans.
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Competition from financial institutions and other financial service providers may adversely affect
our profitability.
The banking business is highly competitive and we experience competition in each of our
markets from many other financial institutions. We compete with commercial banks, credit unions,
savings and loan associations, mortgage banking firms, consumer finance companies, securities
brokerage firms, insurance companies, money market funds, and other mutual funds, as well as other
community banks and super-regional and national financial institutions that operate offices in our
primary market areas and elsewhere.
Additionally, we face competition from de novo community banks, including those with senior
management who were previously affiliated with other local or regional banks or those controlled by
investor groups with strong local business and community ties. These de novo community banks may
offer higher deposit rates or lower cost loans in an effort to attract our customers, and may
attempt to hire our management and employees.
We compete with these other financial institutions both in attracting deposits and in making
loans. In addition, we have to attract our customer base from other existing financial institutions
and from new residents. We expect competition to increase in the future as a result of legislative,
regulatory and technological changes and the continuing trend of consolidation in the financial
services industry. Our profitability depends upon our continued ability to successfully compete
with an array of financial institutions in our market areas.
We reported a material weakness in our internal control over financial reporting, and if we are
unable to improve our internal controls, our financial results may not be accurately reported.
Management’s assessment of the effectiveness of our internal control over financial reporting
as of December 31, 2010 identified a material weakness in its internal control over financial
reporting, as described in “Item 9A. Controls and Procedures.” This material weakness, or
difficulties encountered in implementing new or improved controls or remediation, could prevent us
from accurately reporting our financial results, result in material misstatements in our financial
statements or cause us to fail to meet our reporting obligations. Failure to comply with Section
404 of the Sarbanes-Oxley Act of 2002 could negatively affect our business, the price of our common
stock and market confidence in our reported financial information.
We have a deferred tax asset and cannot assure you that it will be fully realized.
We had net deferred tax assets (“DTA”) of $45.7 million as of December 31, 2010 and
established a valuation allowance against our federal net deferred tax assets of $43.5 million. A
valuation allowance is recognized for a net DTA if, based on the weight of available evidence, it
is more-likely-than-not that some portion or the entire DTA will not be realized. The ultimate
realization of deferred tax assets is dependent upon the generation of future taxable income during
the periods in which those temporary differences become deductible. In making such judgments,
significant weight is given to evidence that can be objectively verified.
As a result of the increased credit losses, the Company entered into a three-year cumulative
pre-tax loss position (excluding the goodwill impairment charge recognized in the second quarter of
2009) as of June 30, 2010. A cumulative loss position is considered significant negative evidence
in assessing the realizability of a deferred tax asset which is difficult to overcome. The
Company’s estimate of the realization of its net DTA was based on the scheduled reversal of
deferred tax liabilities and taxable income available in prior carry back years, and tax planning
strategies. Once profitability has been restored for a reasonable time and such profitability is
considered sustainable, the valuation allowance would be reversed. Reversal of the valuation
allowance requires a great deal of judgment and will be based on the circumstances that exist as of
that future date.
We are subject to lawsuits as a result of the losses we incurred in the third quarter of 2010.
In the third quarter of 2010, we recognized significant losses as a result of higher costs
related to loan charge-offs, coupled with losses incurred on OREO resulting from sales completed
and updated property appraisals received during that quarter. As a result, various plaintiffs
filed class action lawsuits, which have subsequently been consolidated into one class action, alleging, among other things, disclosure violations
regarding our collateral valuations, the timing of our impairment charges and our accounting for
loan charge-offs. The defense of this matter has and will continue to entail considerable cost and
will be time-consuming for our management. Unfavorable outcomes in this matter could have an
adverse effect on our business, financial condition, results of operations and cash flows.
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We rely heavily on the services of key personnel.
We are dependent on certain key officers who have important customer relationships or are
instrumental to our operations. Changes in key personnel and their responsibilities may be
disruptive to our business and could have a material adverse effect on our business, financial
condition and results of operations. We believe that our future results will also depend in part
upon our attracting and retaining highly skilled and qualified management and sales and marketing
personnel, particularly in those areas where we may open new branches. Competition for such
personnel is intense, and we cannot assure you that we will be successful in attracting or
retaining such personnel.
On February 16, 2011, we announced that James E. Adams, our Chief Financial Officer, will be
retiring on May 16, 2011 after the Annual Shareholders Meeting on May 12, 2011. We have commenced a
search for a replacement for Mr. Adams, but there can be no assurance that we will have found a
suitable replacement prior to that date.
The limitations on bonuses, retention awards, severance payments and incentive compensation
contained in ARRA may adversely affect our ability to retain our highest performing employees.
For so long as any equity securities that we issued to the U.S. Treasury under the CPP remain
outstanding, ARRA and regulations issued thereunder, including the IFR, severely restrict bonuses,
retention awards, severance and change in control payments and other incentive compensation payable
to our most highly compensated employees including our five senior executive officers. It is
possible that we may be unable to create a compensation structure that permits us to retain such
officers or other key employees or recruit additional employees, especially if we are competing
against institutions that are not subject to the same restrictions. Failure to retain our key
employees could materially adversely affect our business and results of operations.
We are subject to extensive regulation that could limit or restrict our activities.
We operate in a highly regulated industry and are subject to examination, supervision, and
comprehensive regulation by various federal and state agencies including the FRB, the FDIC and the
TDFI. Our regulatory compliance is costly and restricts certain of our activities, including
payment of dividends, mergers and acquisitions, investments, loans and interest rates charged,
interest rates paid on deposits and locations of offices. We are also subject to capitalization
guidelines established by our regulators, which require us to maintain adequate capital to support
our operations.
The laws and regulations applicable to the banking industry could change at any time, and we
cannot predict the effects of these changes on our business and profitability. Because government
regulation greatly affects the business and financial results of all commercial banks and bank
holding companies, our cost of compliance could adversely affect our ability to operate profitably.
The Sarbanes-Oxley Act of 2002, and the related rules and regulations promulgated by the
Securities and Exchange Commission and the Nasdaq Stock Market that are applicable to us, have
increased the scope, complexity and cost of corporate governance, reporting and disclosure
practices. We expect that the Dodd-Frank Act will similarly result in increases in our compliance
costs. As a result, we have experienced, and may continue to experience, greater compliance costs.
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Our long-term business strategy includes the continuation of growth plans, and our financial
condition and results of operations could be affected if our long-term business strategies are not
effectively executed.
Although our primary focus in the near term will be on strengthening our asset quality and
improving our capital position, we intend, over the longer term, to continue pursuing a growth
strategy for our business through acquisitions and de novo branching. Our prospects must be
considered in light of the risks, expenses and difficulties occasionally encountered by financial
services companies in growth stages, which may include the following:
Operating Results: There is no assurance that existing offices or future offices will
maintain or achieve deposit levels, loan balances or other operating results necessary to avoid
losses or produce profits. Our growth and de novo branching strategy necessarily entails growth in
overhead expenses as it routinely adds new offices and staff. Our historical results may not be
indicative of future results or results that may be achieved as we continue to increase the number
and concentration of our branch offices.
Development of Offices: There are considerable costs involved in opening branches, and new branches
generally do not generate sufficient revenues to offset their costs until they have been in
operation for at least a year or more. Accordingly, our de novo branches may be expected to
negatively impact our earnings during this period of time until the branches reach certain
economies of scale.
Expansion into New Markets: Much of our growth over the last five years has been focused in the
highly competitive Nashville, Knoxville and Clarksville metropolitan markets. The customer
demographics and financial services offerings in these markets are unlike those found in the
smaller, more rural East Tennessee markets that we historically served. In the Nashville, Knoxville
and Clarksville markets, we face competition from a wide array of financial institutions. Our
expansion efforts in these new markets may be impacted if we are unable to meet customer demands or
compete effectively with the financial institutions operating in these markets.
Regulatory and Economic Factors: Our growth and expansion plans may be adversely affected by a
number of regulatory and economic developments or other events. Failure to obtain required
regulatory approvals, changes in laws and regulations or other regulatory developments and changes
in prevailing economic conditions or other unanticipated events may prevent or adversely affect our
continued growth and expansion.
Failure to successfully address the issues identified above could have a material adverse
effect on our business, future prospects, financial condition or results of operations, and could
adversely affect our ability to successfully implement our longer term business strategy.
We may face risks with respect to future expansion.
From time to time we may engage in additional de novo branch expansion as well as the
acquisition of other financial institutions or parts of those institutions. We may also consider
and enter into new lines of business or offer new products or services. Acquisitions and mergers
involve a number of risks, including:
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We may incur substantial costs to expand. There can be no assurance that integration efforts
for any future mergers or acquisitions will be successful. Also, we may issue equity securities,
including common stock and securities convertible into shares of our common stock in connection
with future acquisitions, which could cause ownership and economic dilution to our shareholders.
There is no assurance that, following any future mergers or acquisitions, our integration efforts
will be successful or we, after giving effect to the acquisition, will achieve profits comparable
to or better than our historical experience.
We are subject to Tennessee anti-takeover statutes and certain charter provisions which could
decrease our chances of being acquired even if the acquisition is in our shareholders’ best
interests.
As a Tennessee corporation, we are subject to various legislative acts which impose
restrictions on and require compliance with procedures designed to protect shareholders against
unfair or coercive mergers and acquisitions. These statutes may delay or prevent offers to acquire
us and increase the difficulty of consummating any such offers, even if the acquisition of us would
be in our shareholders’ best interests. Our amended and restated charter also contains provisions
which may make it difficult for another entity to acquire us without the approval of a majority of
the disinterested directors on our board of directors.
The success and growth of our business will depend on our ability to adapt to technological
changes.
The banking industry and the ability to deliver financial services is becoming more dependent
on technological advancement, such as the ability to process loan applications over the Internet,
accept electronic signatures, provide process status updates instantly and on-line banking
capabilities and other customer expected conveniences that are cost efficient to our business
processes. As these technologies are improved in the future, we may, in order to remain
competitive, be required to make significant capital expenditures.
Even though our common stock is currently traded on The Nasdaq Global Select Market, the trading
volume in our common stock has been thin and the sale of substantial amounts of our common stock in
the public market could depress the price of our common stock.
We cannot say with any certainty when a more active and liquid trading market for our common
stock will develop or be sustained. Because of this, our shareholders may not be able to sell their
shares at the volumes, prices, or times that they desire.
We cannot predict the effect, if any, that future sales of our common stock in the market, or
availability of shares of our common stock for sale in the market, will have on the market price of
our common stock. We, therefore, can give no assurance that sales of substantial amounts of our
common stock in the market, or the potential for large amounts of sales in the market, would not
cause the price of our common stock to decline or impair our ability to raise capital through sales
of our common stock.
The market price of our common stock may fluctuate in the future, and these fluctuations may
be unrelated to our performance. General market price declines or overall market volatility in the
future could adversely affect the price of our common stock, and the current market price may not
be indicative of future market prices.
We may issue additional common stock or other equity securities in the future which could dilute
the ownership interest of existing common shareholders.
In order to maintain our capital at desired levels or required regulatory levels, or to fund
future growth, our board of directors may decide from time to time to issue additional shares of
common stock, preferred stock or securities convertible into, exchangeable for or representing
rights to acquire shares of our common stock. The sale of these shares may significantly dilute our
shareholders’ ownership interest and the per share book value of our common stock. New investors in the future may also have rights, preferences and privileges senior
to our current shareholders which may adversely impact our current shareholders.
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Our ability to declare and pay dividends is limited by law, by commitments we have made to our
regulators and by the terms of the Series A preferred stock that we have issued to the U.S.
Treasury, and we may be unable to pay future dividends.
We derive our income solely from dividends on the shares of common stock of the Bank. The
Bank’s ability to declare and pay dividends to us is limited by its obligations to maintain
sufficient capital and by other general restrictions on its dividends that are applicable to banks
that are regulated by the FDIC and the TDFI. In addition, the terms of the Series A preferred stock
impose restrictions on our ability to pay dividends on our common stock and we have informally
committed to the FRB-Atlanta that we will not pay dividends on our common or preferred stock
without the FRB-Atlanta’s prior approval. On November 9, 2010, following consultation with the
FRB-Atlanta, we notified the U.S. Treasury that we were suspending the payment of regular quarterly
cash dividends on preferred stock that we had issued to the U.S. Treasury in the CPP. We do not
know when we will receive permission from the FRB-Atlanta to resume paying dividends on our common
or preferred stock. We cannot assure our shareholders that we will declare or pay dividends on
shares of our common stock in the future.
Holders of our junior subordinated debentures have rights that are senior to those of our common
and Series A preferred shareholders.
We had supported our previous growth through the issuance of trust preferred securities from
special purpose trusts and accompanying junior subordinated debentures. This financing vehicle is
no longer an attractive source for funding acquisitions as a result of the changing characteristics
of trust preferred securities and their limited attributes towards qualifying as primary regulatory
capital. At December 31, 2010, we had outstanding trust preferred securities and accompanying
junior subordinated debentures totaling $88.7 million. Payments of the principal and interest on
the trust preferred securities of these trusts are conditionally guaranteed by us. Further, the
accompanying junior subordinated debentures we issued to the trusts are senior to our shares of
common stock and the Series A preferred stock that we issued to the U.S. Treasury in the CPP. As a
result, we must make payments on the junior subordinated debentures before any dividends can be
paid on our common stock or the Series A preferred stock and, in the event of our bankruptcy,
dissolution or liquidation, the holders of the junior subordinated debentures must be satisfied
before any distributions can be made on our common stock or Series A preferred stock. We have the
right to defer distributions on our junior subordinated debentures (and the related trust preferred
securities) for up to five years, during which time no dividends may be paid on our common stock or
our Series A preferred stock.
As described above, we have informally committed to the FRB-Atlanta that we will not pay
interest on the subordinated debentures without the prior approval of the FRB-Atlanta. In the
fourth quarter of 2010, following consultation with the FRB-Atlanta, we notified the trustees with
respect to each series of our subordinated debentures, of our intent to defer interest payments on
the subordinated debentures beginning with the interest payments due in the fourth quarter of 2010.
The Series A preferred stock impacts net income available to our common shareholders and our
earnings per share.
As long as shares of our Series A preferred stock are outstanding, no dividends may be paid on
our common stock unless all dividends on the Series A preferred stock have been paid in full.
Additionally, prior to December 23, 2011, unless we redeem the Series A preferred stock or the U.S.
Treasury has transferred the Series A preferred stock to a third party, we are not permitted to pay
cash dividends on our common stock in excess of $0.13 per quarter without the U.S. Treasury’s
consent. The dividends declared on shares of our Series A preferred stock will reduce the net
income available to common shareholders and our earnings per common share. Additionally, warrants
to purchase our common stock issued to the Treasury, in conjunction with the issuance of the Series
A preferred stock, may be dilutive to our earnings per share. The shares of our Series A preferred
stock will also receive preferential treatment in the event of our liquidation, dissolution or
winding up.
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Holders of the Series A preferred stock have rights that are senior to those of our common
shareholders.
The Series A preferred stock that we have issued to the U.S. Treasury is senior to our shares
of common stock, and holders of the Series A preferred stock have certain rights and preferences
that are senior to holders of our common stock. The Series A preferred stock will rank senior to
our common stock and all other equity securities of ours designated as ranking junior to the Series
A preferred stock. So long as any shares of the Series A preferred stock remain outstanding, unless
all accrued and unpaid dividends on shares of the Series A preferred stock for all prior dividend
periods have been paid or are contemporaneously declared and paid in full, no dividend whatsoever
shall be paid or declared on our common stock or other junior stock, other than a dividend payable
solely in common stock. Prior to December 23, 2011, unless we redeem the Series A preferred stock
or the U.S. Treasury has transferred the Series A preferred stock to a third party we and our
subsidiaries also may not, with certain limited exceptions, purchase, redeem or otherwise acquire
any shares of our common stock or other junior stock without the U.S. Treasury’s consent. During
that three-year period, and thereafter, we and our subsidiaries may not purchase, redeem or
otherwise acquire for consideration any shares of our common stock or other junior stock unless we
have paid in full all accrued and unpaid dividends on the Series A preferred stock, other than in
certain circumstances. Furthermore, the Series A preferred stock is entitled to a liquidation
preference over shares of our common stock in the event of our liquidation, dissolution or winding
up.
Holders of the Series A preferred stock may, under certain circumstances, have the right to elect
two directors to our board of directors.
As described above, on November 9, 2010, we notified the U.S. Treasury that we were suspending
the payment of dividends on the Series A preferred stock beginning with the dividend payment due in
the fourth quarter of 2010. In the event that we fail to pay dividends on the Series A preferred
stock for an aggregate of six quarterly dividend periods or more (whether or not consecutive), the
authorized number of directors then constituting our board of directors will be increased by two.
Holders of the Series A preferred stock, together with the holders of any outstanding parity stock
with like voting rights, referred to as voting parity stock, voting as a single class, will be
entitled to elect the two additional members of our board of directors, referred to as the
preferred stock directors, at the next annual meeting (or at a special meeting called for the
purpose of electing the preferred stock directors prior to the next annual meeting) and at each
subsequent annual meeting until all accrued and unpaid dividends for all past dividend periods have
been paid in full.
None.
At December 31, 2010, the Company maintained a main office in Greeneville, Tennessee in a
building it owns, 65 full-service bank branches (of which 54 are owned premises and 11 are leased
premises) and a building for mortgage lending operations which it owns. In addition, the Bank’s
subsidiaries operate from nine separate locations, all of which are leased.
On November 18, 2010 a shareholder of the Company filed a putative class action lawsuit
(styled Bill Burgraff v. Green Bankshares, Inc., et al., U.S. District Court, Eastern District of
Tennessee, Northeastern Division, Case No. 2:10-cv-00253) against the Company and certain of its
current and former officers in the United States District Court for the Eastern District of
Tennessee in Greeneville, Tennessee on behalf of all persons that acquired shares of the Company’s
common stock between January 19, 2010 and November 9, 2010. On January 18, 2011, a separate
shareholder of the Company filed a putative class action lawsuit (styled Brian Molnar v. Green
Bankshares, Inc., et al., U.S. District Court, Eastern District of Tennessee, Northeastern
Division, Case No. 2:11-cv-00014) against the Company and certain of its current and former
officers in the same court on behalf of all persons that acquired shares of the Company’s common
stock between January 19, 2010 and October 20, 2010. These lawsuits were filed following, and relate to the drop in value of the Company’s common stock price
after, the Company announced its third quarter performance results on October 20, 2010. The
Burgraff case also complains of the Company’s decision on November 9, 2010, to suspend payment of
certain quarterly cash dividends.
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The plaintiffs allege that defendants made false and/or misleading statements or failed to
disclose that the Company was purportedly overvaluing collateral of certain loans; failing to
timely take impairment charges of these certain loans; failing to properly account for loan
charge-offs; lacking adequate internal and financial controls; and providing false and misleading
financial results. The plaintiffs have asserted federal securities laws claims against all
defendants for alleged violations of Section 10(b) of the Securities Exchange Act of 1934 (the
“Exchange Act”) and Rule 10b-5 promulgated thereunder. The plaintiffs have also asserted control
person liability claims against the individual defendants named in the complaints pursuant to
Section 20(a) of the Exchange Act.
The two cases were consolidated on February 4, 2011. Plaintiffs have 60 days from that date
within which to file an amended and consolidated complaint. On February 11, 2011, the Court
appointed movant Jeffrey Blomgren as lead plaintiff.
The Company and the individual named defendants collectively intend to vigorously defend
themselves against these allegations.
The Company and its subsidiaries are subject to claims and suits arising in the ordinary
course of business. In the opinion of management, the ultimate resolution of these pending claims
and legal proceedings will not have a material adverse effect on the Company’s results of
operations.
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PART II
On February 28, 2011, Green Bankshares had 13,188,896 shares of common stock outstanding.
The Company’s shares are traded on The Nasdaq Global Select Market, under the symbol “GRNB”. As
of February 28, 2011, the Company estimates that it had approximately 5,200 shareholders, including
approximately 2,600 shareholders of record and approximately 2,600 beneficial owners holding shares
in nominee or “street” name.
The following table shows the high and low sales price and closing price for the Company’s
common stock as reported by The Nasdaq Global Select Market for 2010 and 2009. The table also sets
forth the dividends per share paid each quarter during 2010 and 2009.
Holders of the Company’s common stock are entitled to receive dividends when, as and if
declared by the Company’s board of directors out of funds legally available for dividends.
Historically, the Company has paid quarterly cash dividends on its common stock. On June 2, 2009
the Company announced that due to the uncertain nature of the current economic environment that it
was suspending the payment of cash dividends to common shareholders in order to prudently preserve
capital levels. In the fourth quarter of 2010, the Company informally committed to the FRB-Atlanta
that it would not pay dividends on its common or preferred stock without the prior approval of the
FRB-Atlanta. The Company’s ability to pay dividends to its shareholders in the future will depend
on its earnings and financial condition, liquidity and capital requirements, the general economic
and regulatory climate, the Company’s ability to service any equity or debt obligations senior to
its common stock, including its outstanding trust preferred securities and accompanying junior
subordinated debentures, and other factors deemed relevant by the Company’s board of directors. In
addition, in order to pay dividends to shareholders, the Company must receive cash dividends from
the Bank. As a result, the Company’s ability to pay future dividends will depend upon the earnings
of the Bank, its financial condition and its need for funds.
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Moreover, there are a number of federal and state banking policies and regulations that
restrict the Bank’s ability to pay dividends to the Company and the Company’s ability to pay
dividends to its shareholders. In particular, because the Bank is a depository institution and its
deposits are insured by the FDIC, it may not pay dividends or distribute capital assets if it is in
default on any assessment due to the FDIC. In addition, the Tennessee Banking Act prohibits the
Bank from declaring dividends in excess of net income for the calendar year in which the dividend
is declared plus retained net income for the preceding two years without the approval of the
Commissioner of the Tennessee Department of Financial Institutions. Because of the losses incurred
by the Bank in 2010 and 2009, the Bank will need to receive the approval of the Commissioner of the
TDFI before if pays dividends to the Company. Also, the Bank is subject to regulations which
impose certain minimum regulatory capital and minimum state law earnings requirements that affect
the amount of cash available for distribution to the Company.
In addition, as long as shares of Series A preferred stock are outstanding, no dividends may
be paid on our common stock unless all dividends on the Series A preferred stock have been paid in
full and in no event may dividends on our common stock exceed $0.13 per quarter without the consent
of the U.S. Treasury for the first three years following our sale of Series A preferred stock to
the U.S. Treasury. Lastly, under Federal Reserve policy, the Company is required to maintain
adequate regulatory capital, is expected to serve as a source of financial strength to the Bank and
to commit resources to support the Bank. These policies and regulations may have the effect of
reducing or eliminating the amount of dividends that the Company can declare and pay to its
shareholders in the future. For information regarding restrictions on the payment of dividends by the Bank to the Company, see
“Management’s Discussion and Analysis of Financial Condition and Results of Operations — Liquidity
and Capital Resources” and “Business — Regulation, Supervision and Governmental Policy —
Dividends” in this Annual Report. See also Note 12 of Notes of Consolidated Financial Statements.
The Company made no repurchases of its common stock during the quarter ended December 31,
2010.
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GAAP Reconciliation and Management Explanation of Non-GAAP Financial Measures
Certain financial information included in the selected financial data is determined by methods
other than in accordance with accounting principles generally accepted within the United States
(“GAAP”). These non-GAAP financial measures are “net income (loss) per share assuming dilution
adjusted for goodwill impairment charge,” “common shareholders’ equity,” “tangible assets,”
“tangible shareholders’ equity,” “tangible common book value per share,” “tangible common
shareholders’ equity,” “return on average common equity,” and “return on average
common tangible equity.” The Company’s management, the entire financial services sector, bank
stock analysts, and bank regulators use these non-GAAP measures in their analysis of the Company’s
performance.
These disclosures should not be viewed as a substitute for results determined in accordance
with GAAP, and are not necessarily comparable to non-GAAP performance measures which may be
presented by other companies.
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The following reconciliation table provides a more detailed analysis of these non-GAAP
performance measures:
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The table below presents computations and other financial information excluding the
goodwill impairment charge that the Company incurred in 2009. The goodwill impairment charge is
included in the financial results presented in accordance with GAAP. The Company believes that the
exclusion of the goodwill impairment in expressing net operating income (loss), operating expenses
and earnings (loss) per diluted share data provides a more meaningful base for period to period
comparisons which will assist investors in analyzing the operating results of the Company. The
Company utilizes these non-GAAP financial measures to compare the operating performance with
comparable periods in prior years and with internally prepared projections. Non-GAAP financial
measures have inherent limitations, are not required to be uniformly applied and are not audited.
To mitigate these limitations, the Company has policies in place to address goodwill impairment
from other normal operating expenses to ensure that the Company’s operating results are properly
reflected for period to period comparisons.
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Overview
The Company reported a net loss available to common shareholders of $85,696 for the full year
2010 compared with a net loss available to common shareholders of $155,676 for the full year 2009.
The loss for the year 2010 was primarily attributable to an increase in credit costs, including
both a higher loan loss provision and elevated costs associated with the disposition and
revaluation of OREO related assets along with the effects of the continued weaknesses in the
economy through 2010. This weakness was manifested primarily in the Company’s residential real
estate construction and development portfolio. As a result, the Company’s provision for loan losses
for the full year 2010 remained elevated at $71,107 compared to $50,246 in 2009 and $52,810 in
2008. Additionally, Other Real Estate Owned (“OREO”) charges totaled $29,895 in 2010 compared with
$8,156 for 2009 and $7,028 in 2008. As the economy in the Company’s market areas continued to
struggle to improve during 2010, net loan charge-offs rose to $54,438 in 2010 compared with net
loan charge-offs of $48,896 in 2009 and $38,110 in 2008. On a diluted per share basis, the net
operating loss available to common shareholders in 2010 was $6.54 compared with a net operating
loss in 2009, excluding the goodwill impairment charge, of $1.40 (please see “ITEM 6 — GAAP
Reconciliation and Management Explanations of Non-GAAP Financial Measures” above for more
information) and a net operating loss available to common shareholders of $0.42 for 2008. The net
loss available to common shareholders on a diluted per share basis for 2010 was $6.54 and including
the goodwill impairment charge, on a diluted per share basis the net loss available to common
shareholders for 2009 was $11.91 compared with a net loss available to common shareholders of $0.42
for 2008.
Net interest income for 2010 was $83,593 compared with $80,525 in 2009 including the impact of
interest reversals of $2,965 in 2010 and $2,606 in 2009. Despite the decline in average earning
assets, the improvement in net interest income was due to the Company experiencing the benefit of
interest rate floors built into loan agreements beginning in 2009 plus the re-pricing of interest
bearing liabilities in a lower market interest rate environment in 2010. As a result, the Company
experienced a widening in its net interest margin from 3.34% in 2009 to 3.86% in 2010. Noninterest
income improved modestly from $31,578 in 2009 to $32,544 in 2010 principally as a result of higher
fee income generated from the sales of annuity and investment products. Operating expenses for 2010
totaled $110,815 in 2010 compared with $229,587 in 2009, or $86,198, excluding the goodwill
impairment charge of $143,389 (please see “ITEM 6 — GAAP Reconciliation and Management
Explanations of Non-GAAP Financial Measures” above for more information). The increase in
operating expenses of $24,617 (excluding the goodwill impairment charge taken in 2009 of $143,389)
was principally driven by the increased costs associated with the losses incurred on the
revaluations and dispositions of OREO related assets.
Critical Accounting Policies and Estimates
The Company’s consolidated financial statements and accompanying notes have been prepared in
accordance with accounting principles generally accepted in the United States of America. The
preparation of these financial statements requires management to make estimates and assumptions
that affect the reported amounts of assets and liabilities, the disclosure of contingent assets and
liabilities at the date of the financial statements and the reported amounts of revenue and
expenses during the reported periods.
Management continually evaluates the Company’s accounting policies and estimates it uses to
prepare the consolidated financial statements. In general, management’s estimates are based on
current and projected economic conditions, historical experience, information from regulators and
third party professionals and various assumptions that are believed to be reasonable under the then
existing set of facts and circumstances. Actual results could differ from those estimates made by
management.
The Company believes its critical accounting policies and estimates include the valuation of
the allowance for loan losses and the fair value of financial instruments and other accounts,
including OREO. Based on management’s calculation, an allowance of $66,830, or 3.83%, of total
loans, net of unearned interest was an adequate estimate of losses inherent in the loan portfolio
as of December 31, 2010. This estimate resulted in a provision for loan losses on the income
statement of $71,107 during 2010. If the mix and amount of future charge-off percentages differ
significantly from those assumptions used by management in making its determination, the allowance
for loan losses and provision for loan losses on the income statement could be materially affected.
For further discussion of the allowance
for loan losses and a detailed description of the methodology management uses in determining
the adequacy of the allowance, see “ITEM 1. Business — Lending Activities — Allowance for Loan
Losses” located above, and “Changes in Results of Operations — Provision for Loan Losses” located
below.
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The consolidated financial statements include certain accounting and disclosures that require
management to make estimates about fair values. Estimates of fair value are used in the accounting
for securities available for sale, loans held for sale, goodwill, other intangible assets, OREO and
acquisition purchase accounting adjustments. Estimates of fair values are used in disclosures
regarding securities held to maturity, stock compensation, commitments, and the fair values of financial instruments. Fair values are
estimated using relevant market information and other assumptions such as interest rates, credit
risk, prepayments and other factors. The fair values of financial instruments are subject to
change as influenced by market conditions.
The Company believes its critical accounting policies and estimates also include the valuation
of the allowance for the net DTA. A valuation allowance is recognized for a net DTA if, based on
the weight of available evidence, it is more-likely-than-not that some portion or the entire DTA
will not be realized. The ultimate realization of deferred tax assets is dependent upon the
generation of future taxable income during the periods in which those temporary differences become
deductible. In making such judgments, significant weight is given to evidence that can be
objectively verified. As a result of the increased credit losses, the Company entered into a
three-year cumulative pre-tax loss position (excluding the goodwill impairment charge recognized in
the first quarter of 2009) as of December 31, 2010. A cumulative loss position is considered
significant negative evidence in assessing the realizability of a deferred tax asset which is
difficult to overcome.
The Company’s estimate of the realization of its net DTA was based on the scheduled reversal
of deferred tax liabilities and taxable income available in prior carry back years, and tax
planning strategies. Based on management’s calculation, a valuation allowance of $43,455, or 95.2%
of the net DTA, was an adequate estimate as of December 31, 2010. This estimate resulted in a
valuation allowance for the net DTA in the income statement of $43,455 for the period ended
December 31, 2010. Once profitability has been restored for a reasonable time, generally
considered four consecutive quarters, and such profitability is considered sustainable, the
valuation allowance would be reversed. Reversal of the valuation allowance requires a great deal of
judgment and will be based on the circumstances that exist as of that future date.
The consolidated financial statements include certain accounting disclosures that require
management to make estimates about fair values. Independent third party valuations are used for
securities available for sale and securities held to maturity as well as acquisition purchase
accounting adjustments. Third party valuations are inputs, but are not solely determinative of
value. Estimates of fair value are used in the accounting for loans held for sale, goodwill and
other intangible assets. Estimates of fair values are used in disclosures regarding stock
compensation, commitments, and the fair values of financial instruments. Fair values are
estimated using relevant market information and other assumptions such as interest rates,
credit risk, prepayments and other factors. The fair values of financial instruments are subject
to change as influenced by market conditions.
Changes in Results of Operations
Net loss. The net loss available to common shareholders was $85,696 in 2010 and
$155,676 for 2009. The net loss for the year 2009 was primarily attributable to a non-cash charge
taken for the impairment of goodwill of $137,414, net of tax of $5,975 and the continued weaknesses
in the economy through 2009. Excluding the goodwill impairment charge, net of tax, of $137,414 the
Company’s net operating loss was $18,262 for 2009 (please see “ITEM 6 — GAAP Reconciliation and
Management Explanations of Non-GAAP Financial Measures” above for more information). When
comparing the net operating loss of $85,696 in 2010 to the net operating loss of $18,262, excluding
the goodwill impairment charge, for 2009 the principal reasons for the increased loss in 2010 were
credit related costs that continued to escalate in 2010 driven by both a higher loan loss provision
coupled with rising costs associated with the maintenance, disposition and revaluation of OREO
along with continued deterioration in economic conditions in our markets. These costs were
partially offset by improvements in both net interest income and non-interest income.
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The net loss available to common shareholders’ for 2009 was $155,676 compared to a net loss of
$5,452 in 2008. The net loss for the year 2009 was primarily attributable to a non-cash charge
taken for the impairment of goodwill of $137,414, net of tax of $5,975 and the continued weaknesses
in the economy through 2009. Excluding the goodwill impairment charge, net of tax, of $137,414 the
Company’s net operating loss was $18,262 for 2009 (please see “ITEM 6 — GAAP Reconciliation and
Management Explanations of Non-GAAP Financial Measures” above for more information).The increase in
the net operating loss between 2009 and 2008 was primarily attributable to a decline in net
interest income of $14,500 from $95,025 in 2008 to $80,525 in 2009 due to narrowing interest rate
spreads and deteriorating economic conditions throughout 2009 impacting residential real estate
construction lending plus a decline in net securities gains of $2,222 between periods due to higher
other-than-temporary impairment charges taken in 2009.
Net Interest Income. The largest source of earnings for the Company is net interest
income, which is the difference between interest income on earning assets and interest paid on
deposits and other interest-bearing liabilities. The primary factors that affect net interest
income are changes in volumes and rates on earning assets and interest-bearing liabilities, which
are affected in part by management’s anticipatory responses to changes in interest rates through
asset/liability management. Despite deleveraging average earning assets of the Company by $247,978
from 2009 to 2010, net interest income improved from $80,525 in 2009 to $83,593 in 2010 as interest
rate floors were triggered in loan agreements and interest-bearing liabilities were re-priced in a
lower interest rate market environment. As a result of the re-pricing characteristics of the
balance sheet plus a modest increase of $4,049 in average non-interest bearing demand deposits, the
Company’s net interest margin rose from 3.34% in 2009 to 3.86% in 2010. Average loan balances in
2010 were $1,833,865 compared with $2,096,181 in 2009 and this reduction was principally
responsible for the decline in average earning assets, partially offset by an increase in
short-term investments as liquidity levels increased. Simultaneously, the Company reduced its large
certificates of deposit as average balances declined by $325,182 and further eliminated $55,764 in
borrowed funds.
During 2009, net interest income was $80,525 as compared to $95,025 in 2008. The Company
experienced a decline in average balances of interest-earning assets, with average total
interest-earning assets decreasing by $156,713, or 6%, to $2,433,476 in 2009 from $2,590,189 in
2008. Most of the decline occurred in loans, with average loan balances decreasing by $202,724, or
9%, to $2,096,181 in 2009 from $2,298,905 in 2008. The decrease was primarily due to the continued
downturn in economic conditions throughout 2009 that resulted in lower loan demand and heightened
levels of loan charge-offs. Average investment securities also decreased $83,966, or 31%, to
$189,377 in 2009 from $273,343 in 2008 as the Company focused on de-levering the balance sheet and
reducing excess liquidity. Average balances of total interest-bearing liabilities also decreased
in 2009 from 2008, with average total interest-bearing deposit balances decreasing by $12,223, or
1%, to $1,950,775 in 2009 from $1,962,998 in 2008, and average securities sold under repurchase
agreements and short-term borrowings, and subordinated debentures and FHLB advances and notes
payable decreased by $111,132, or 25%, to $337,993 in 2009 from $449,125 in 2008. These decreases
are primarily related to the reduction in securities sold under repurchase agreements and
short-term borrowings along with the maturities and early payoffs of FHLB advances.
Average Balances, Interest Rates and Yields. Net interest income is affected by (i) the
difference between yields earned on interest-earning assets and rates paid on interest-bearing
liabilities (“interest rate spread”) and (ii) the relative amounts of interest-earning assets and
interest-bearing liabilities. The Company’s interest rate spread is affected by regulatory,
economic and competitive factors that influence interest rates, loan demand and deposit flows.
When the total of interest-earning assets approximates or exceeds the total of interest-bearing
liabilities, any positive interest rate spread will generate net interest income. An indication of
the effectiveness of an institution’s net interest income management is its “net yield on
interest-earning assets,” which is net interest income on a fully taxable equivalent basis divided
by average interest-earning assets.
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The following table sets forth certain information relating to the Company’s consolidated
average interest-earning assets and interest-bearing liabilities and reflects the average fully
taxable equivalent yield on assets and average cost of liabilities for the periods indicated. Such
yields and costs are derived by dividing income or expense by the average daily balance of assets
or liabilities, respectively, for the periods presented.
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Rate/Volume Analysis. The following table analyzes net interest income in terms of
changes in the volume of interest-earning assets and interest-bearing liabilities and changes in
yields and rates. The table reflects the extent to which changes in the interest income and
interest expense are attributable to changes in volume (changes in volume multiplied by prior year
rate) and changes in rate (changes in rate multiplied by prior year volume). Changes attributable
to the combined impact of volume and rate have been separately identified.
At December 31, 2010, loans outstanding, net of unearned income, were $1,745,378 compared to
$2,043,807 at 2009 year end. The decrease is primarily due to weak loan demand resulting from the
continued economic pressures experienced within our markets throughout 2010, loan foreclosures
resulting in loan balances being transferred to OREO and repossessed assets and increased loan
charge-offs. Average outstanding loans, net of unearned interest, for 2010 were $1,833,865, a
decrease of 13% from the 2009 average of $2,096,181. Average outstanding loans for 2008 were
$2,298,905.
Average investment securities for 2010 were $180,681 compared to $189,377 in 2009 and $273,343
in 2008. The decreases of $8,696 and $83,966, or 5% and 31%, from 2009 to 2010 and 2008 to 2009
primarily reflect the elimination of excess liquidity in the balance sheet through de-levering. In
2010, the average yield on investments was 4.08%, a decrease from the 5.04% yield in 2009 and from
the 5.64% yield in 2008. The declining investment yields since 2008 represent the reinvestment of
proceeds of maturing securities in a lower interest rate environment. Fully taxable equivalent
income provided by the investment portfolio in 2010 was $7,376 as compared to $9,546 in 2009 and
$15,412 in 2008.
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Provision for Loan Losses. Management assesses the adequacy of the allowance for loan
losses by considering a combination of regulatory and credit risk criteria. The entire loan
portfolio is graded and potential loss factors are assigned accordingly. The potential loss
factors for impaired loans are assigned based on independent valuations of underlying collateral
and management’s judgment. The potential loss factors associated with unimpaired loans are based
on a combination of both internal and industry net loss experience, as well as management’s review
of trends within the portfolio and related industries.
Generally, commercial real estate, residential real estate and commercial loans are assigned a
level of risk at inception. Thereafter, these loans are reviewed on an ongoing basis. The review
includes loan payment and collateral status, borrowers’ financial data and borrowers’ internal
operating factors such as cash flows, operating income, liquidity, leverage and loan documentation,
and any significant change can result in an increase or decrease in the loan’s assigned risk grade.
Aggregate dollar volume by risk grade is monitored on an ongoing basis. The establishment of and
any changes to risk grades for consumer loans are generally based upon payment performance.
The Bank’s loan loss allowance is increased or decreased based on management’s assessment of
the overall risk of its loan portfolio. A portion of the allowance may be allocated to specific
loans reflecting unusual circumstances.
Management reviews certain key loan quality indicators on a monthly basis, including current
economic conditions, historical charge-offs, delinquency trends and ratios, portfolio mix changes
and other information management deems necessary. This review process provides a degree of
objective measurement that is used in conjunction with periodic internal evaluations. To the
extent that this process yields differences between estimated and actual observed losses,
adjustments are made to provisions and/or the level of the allowance for loan losses.
Increases and decreases in the allowance for loan losses due to changes in the measurement of
impaired loans are reviewed monthly given the current economic environment. To the extent that
impairment is deemed probable, an adjustment is reflected in the provision for loan losses, if
necessary, to reflect the losses inherent in the loan portfolio. Loans continue to be classified
as impaired unless payments are brought fully current and satisfactory performance is observed for
a period of at least six months and management further considers the collection of scheduled
interest and principal to be probable.
The Company’s provision for loan losses increased for the year 2010 by $20,861 to $71,107 from
$50,246 in 2009 while the total loan loss reserve increased from $50,161 at December 31, 2009 to
$66,830 at December 31, 2010. The impact of the continuing challenging economic environment,
elevated net charge-offs and increased non-performing assets were the primary reasons for the
increase in provision expense in 2010. Net charge-offs were $54,438 in 2010 compared with net
charge-offs of $48,896 in 2009 and $38,110 in 2008. Management continually evaluates the existing
portfolio in light of loan concentrations, current general economic conditions and economic trends.
On a monthly basis, the Company undertakes an extensive review of every loan in excess of $1
million that is adversely risk graded and every loan regardless of amount graded substandard.
Appraisals received by the Company during the second half of 2010 on existing OREO and
targeted loans reflected further significant deterioration in the value of the underlying
properties from the prior year, which along with the deterioration of previously performing
relationships, triggered increased charge-offs during this period of time. Management believes that
the economic slowdown in the Company’s markets occurring throughout 2008, 2009 and 2010 will
continue into at least the first half of 2011. Based on its evaluation of the allowance for loan
loss calculation and review of the loan portfolio, management believes the allowance for loan
losses is adequate at December 31, 2010. However, the provision for loan losses could further
increase throughout 2011 if the general economic trends continue to weaken or the residential real
estate markets in Nashville or Knoxville or the financial conditions of borrowers deteriorate
beyond management’s current expectations.
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The ratio of nonperforming assets to total assets reached 8.56% at December 31, 2010 compared
with 5.07% at December 31, 2009 and 2.61% at December 31, 2008 reflecting not only the challenging
economic environment but also the rise in non-performing asset levels combined with a
shrinking Balance Sheet. Total nonperforming assets increased to $205,914 in 2010 from $132,726 in
2009 from $76,806 at year-end 2008. Nonaccrual loans, included in non-performing assets, increased
to $143,707 as of December 31, 2010 compared to $75,411 at December 31, 2009 and $30,926 at
December 31, 2008. Further reflecting the economic downturn, OREO and repossessed assets increased from $45,371 at the end of 2008 to $57,168 at year-end 2009 and $60,095 at December
31, 2010. Management believes that, based upon recent appraisals, these assets have been
appropriately written down based on current economic conditions. The recorded investment of
impaired loans, which include substandard loans as well as nonaccrual loans, increased from $47,215
at December 31, 2008 to $115,238 at December 31, 2009 and $185,991 at December 31, 2010. The
related allowance on the investment of impaired loans also increased from $2,651 at December 31,
2008 to $5,737 at December 31, 2009 and $24,834 at December 31, 2010. The Company records a risk
allocation allowance for loan losses on impaired loans where the risk of loss is deemed to be
probable and the amount can be reasonably estimated. Further, the Company specifically records
additional allowance amounts for individual loans when the circumstances so warrant. For further
discussion of nonperforming assets as it relates to foreclosed real estate and impaired loans, see
“ITEM 1. Business — Lending Activities — Past Due, Special Mention, Classified and Nonaccrual
Loans” located above.
To further manage its credit risk on loans, the Company maintains a “watch list” of loans
that, although currently performing, have characteristics that require closer supervision by
management. At December 31, 2010 “watch list” loans totaled $88,130 declining from $212,288
identified at year end 2009. At December 31, 2008 “watch list” loans totaled $182,984. If, and
when, conditions are identified that would require additional loan loss reserves to be established
due to potential losses inherent in these loans, action would then be taken.
Non-interest Income. The generation of non-interest income, which is income that is
not related to interest-earning assets and consists primarily of service charges, commissions and
fees, has become more important as increases in levels of interest-bearing deposits and other
liabilities continually challenge interest rate spreads.
Total non-interest income for 2010 increased slightly to $32,544 compared to $31,578 in 2009
and declined modestly from $33,614 in 2008. The largest components of non-interest income are
service charges on deposit accounts, which totaled $24,179 in 2010, $23,738 in 2009 and $23,176 in
2008. The increase in total non-interest income in 2010 primarily reflects higher service charges
on deposit accounts, trust and investment services income and lower other-than-temporary impairment
charges on investments. The decrease in total non-interest income from 2008 to 2009 reflected a
reduction in net securities gains of $2,222 to $439 in 2009 from $2,661 in 2008. This decrease is
a result of lower realized gains on the sale of securities of $1,415 in 2009 compared to $2,661 in
2008 coupled with additional charges taken in 2009 of $976 for other-than-temporary impairment on
certain investment portfolio securities. Deposit service charges are fees generated from the
higher volume of deposit-related products, specifically fees associated with the continued success
of the Bank’s High Performance Checking Program. From the inception of this new product during the
first quarter of 2005, the Company experienced “net” new checking account growth of 7,665 in 2005
to net new checking account growth of 14,269 during 2010.
Non-interest Expense. Control of non-interest expense also is an important aspect in
generating earnings. Non-interest expense includes, among other expenses, personnel, occupancy,
goodwill impairment charges, write downs and net losses from the sales on OREO and expenses such as
data processing, printing and supplies, legal and professional fees, postage and FDIC assessments.
Total non-interest expense was $110,815 in 2010 compared to $229,587 in 2009 and $85,837 in 2008.
The decline in 2010 of $118,772 from 2009 principally reflects the one-time non-cash charge taken
for goodwill impairment of $143,389. During 2010, the Company incurred $29,895 in costs associated
with losses and revaluations on OREO properties held for sale compared with $8,156 incurred in 2009
and $7,028 in 2008.
Employee compensation and employee benefit costs are the primary element of the Company’s
non-interest expenses, excluding the one-time, non-cash write-off of goodwill in 2009. For the
years ended December 31, 2010 and 2009, compensation and benefits represented $35,368, or 32% and
$34,446, or 40% (excluding the goodwill impairment charge of $143,389 — see “ITEM 6 — GAAP
Reconciliation and Management Explanations of Non-GAAP Financial Measures” above for more
information), respectively, of total non-interest expense. Including Bank branches and non-Bank
office locations, the Company had 65 locations at December 31, 2010 and 2009, and the number of
full-time equivalent employees totaled 730 at December 31, 2010 and 716 at December 31, 2009.
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Income Taxes. The Company’s effective income tax rate (benefit) was 22.7% in 2010
compared to (10.2%) in 2009 and (46.4%) in 2008. The effective tax rate for the year ended December
31, 2010 was significantly impacted by the DTA valuation allowance of $43,455. A valuation
allowance is recognized for a net DTA if, based on the weight of available evidence, it is
more-likely-than-not that some portion or the entire DTA will not be realized. The ultimate
realization of deferred tax assets is dependent upon the generation of future taxable income
during the periods in which those temporary differences become deductible. In making such
judgments, significant weight is given to evidence that can be objectively verified. As a result of
the increased credit losses, the Company entered into a three-year cumulative pre-tax loss position
(excluding the goodwill impairment charge recognized in the second quarter of 2009) as of June 30,
2010. A cumulative loss position is considered significant negative evidence in assessing the
realizability of a deferred tax asset which is difficult to overcome.
The Company’s estimate of the realization of its net DTA was based on the scheduled reversal of
deferred tax liabilities and taxable income available in prior carry back years, and tax planning
strategies.
Changes in Financial Condition
Total assets at December 31, 2010 were $2,406,040 compared with $2,619,139 at December 31,
2009 a decrease of $213,099. Major changes in the balance sheet categories reflect a decline in
loan balances of $298,429 from the prior year comprised of loan charge-offs of $54,438 and
transfers to foreclosures of $54,613 accompanied with a decline in lending associated with the
current challenging conditions in the economy. These decreases were offset by an increase of
$83,720 in cash and cash equivalents and interest earning deposits in banks. Average assets for
2010 also decreased to $2,511,446, a reduction of $271,209, or 10%, from the average asset balance
of $2,782,655 for 2009. This decrease in average assets was also due primarily to the items
mentioned previously. The Company’s return on average assets was (3.41%) in 2010 and (5.59%) in
2009, principally as a result of significant provisioning expense and OREO expenses in 2010 and the
goodwill impairment charge in 2009.
Total assets at December 31, 2009 were $2,619,139, a decrease of $325,532 from total assets of
$2,944,671 at December 31, 2008. Major changes in the balance sheet categories reflect a decline
in loan balances of $179,583 from the prior year comprised of loan charge-offs of $48,896 and
transfers to foreclosures of $75,545 accompanied with a decline in lending associated with
recessionary conditions in the economy. An increase of $23,136 in cash and cash equivalents from
year-end 2008 was driven principally by the deleveraging of the balance sheet through reducing
investment portfolio holdings, partially offset by liquidating borrowed funds. Average assets for
2009 declined to $2,782,655 from $2,956,280 in 2008, a decrease of $173,625. This decrease in
average assets was due primarily to the decline in average loan volume of $202,724.
Earning assets consist of loans, investment securities and short-term investments that earn
interest. Average earning assets during 2010 were $2,185,498 compared with $2,433,476 in 2009, a
decrease of 10%. The decrease in average earnings assets was due primarily to the reduction of loan
and investment securities balances throughout 2010 as the Company de-levered the Balance Sheet plus
the general decline in demand for loans associated with challenging conditions in the economy.
Nonperforming loans include nonaccrual loans and loans past due 90 days and still on accrual.
The Company has a policy of placing loans 90 days delinquent in nonaccrual status and charging them
off at 120 days past due. Other loans past due that are well secured and in the process of
collection continue to be carried on the Company’s balance sheet. For further information, see
Notes 1 and 3 of the Notes to Consolidated Financial Statements. The Company has aggressive
collection practices in which senior management is significantly and directly involved.
The Company maintains an investment portfolio to primarily cover pledging requirements for
deposits and borrowings and secondarily as a source of liquidity while modestly adding to earnings.
Investments at December 31, 2010 had an amortized cost of $200,824 and a market value of $202,469
compared with investments at December 31, 2009 which had an amortized cost of $148,040 and a market
value of $148,362. As excess balance sheet liquidity continued to build throughout 2010, the
Company increased its investment portfolio accordingly. The Company invests principally in callable
federal agency securities. These callable federal agency securities will provide a higher yield
than non-callable securities with similar maturities. The primary risk involved in callable
securities is that they may be called prior to maturity and the call proceeds received would be
re-invested at lower yields. In 2010, the Company purchased $137,297 of callable federal agency
securities, which have a high likelihood of being called on the first call date, $31,538 of
collateralized mortgage obligations, and $2,985 of mortgage-backed securities. Also in 2010, the
Company received $9,095 from the pay down of collateralized mortgage obligations, $2,233 from the
pay down of mortgage-backed securities, $105,890 on the maturity or call of various U.S. agency
securities, and $1,025 from the maturity or call of municipal securities.
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The Company’s deposits totaled $1,976,854 at December 31, 2010, which represents a decrease of
$107,242, or 5%, from $2,084,096 at December 31, 2009. Non-interest bearing demand deposit
balances declined to $152,752 at December 31, 2010 from $177,602 at December 31, 2009. The
decrease in total deposits was due primarily to the reduction of $83,155 in Certificates of
Deposits in excess of $100,000. Average interest-bearing deposits decreased $128,439, or 7%, to
$1,822,336 from $1,950,775 at December 31, 2009. In 2009, average interest-bearing deposits
decreased $12,223, or 1%, to $1,950,775 from $1,962,998 at December 31, 2008.
Interest paid on deposits in 2010 was $28,434 at an effective rate of 1.56% compared with
$45,768 in 2009 at an average cost of 2.35% as market interest rates declined throughout 2010. In
2008, interest of $58,090 was paid at a cost of 2.96% on average deposits of $1,962,998.
Liquidity and Capital Resources
Liquidity. Liquidity refers to the ability or the financial flexibility to manage future
cash flows to meet the needs of depositors and borrowers and fund operations. Maintaining
appropriate levels of liquidity allows the Company to have sufficient funds available for reserve
requirements, customer demand for loans, withdrawal of deposit balances and maturities of deposits
and other liabilities. The Company’s primary source of liquidity is dividends paid by the Bank.
Applicable Tennessee statutes and regulations impose restrictions on the amount of dividends that
may be declared by the Bank. Under Tennessee law, the Bank can only pay dividends to the Company
in an amount equal to or less than the total amount of its net income for that year combined with
retained net income for the preceding two years. Payment of dividends in excess of this amount
requires the consent of the Commissioner of the Tennessee Department of Financial Institutions
(“TDFI”), FDIC, and the Federal Reserve Bank of Atlanta (“FRB-Atlanta”). Further, any dividend
payments are subject to the continuing ability of the Bank to maintain compliance with minimum
federal regulatory capital requirements, or any higher requirements that the Bank may be subject
to, (like those that the Bank has informally committed to the TDFI and FDIC that it will maintain),
and to retain its characterization under federal regulations as a “well-capitalized” institution.
Because of the Bank’s losses in 2009 and 2010, dividends from the Bank to the Company, including
funds for payment of dividends on preferred stock and trust preferred, including the preferred
stock issued to the U.S. Treasury, and interest on trust preferred securities to the extent that
the Company does not have sufficient cash available at the holding company level, will require
prior approval of the TDFI, FDIC and FRB.
Supervisory guidance from the FRB indicates that bank holding companies that are experiencing
financial difficulties generally should eliminate, reduce or defer dividends on Tier 1 capital
instruments including trust preferred securities, preferred stock or common stock, if the holding
company needs to conserve capital for safe and sound operation and to serve as a source of strength
to its subsidiaries. The Company has informally committed to the FRB that it will not (1) declare
or pay dividends on the Company’s common or preferred stock, including the preferred shares owned
by the U.S. Treasury (2) make any distributions on subordinated debentures or trust preferred
securities or (3) incur any additional indebtedness without in each case, the prior written
approval of the FRB. On November 9, 2010, following consultation with the FRB-Atlanta, the Company
notified the U.S. Treasury that the Company was suspending the payment of regular quarterly cash
dividends on the Series A preferred stock issued to the U.S. Treasury. The dividends, which are
cumulative, will continue to be accrued for payment in the future and reported as a preferred
dividend requirement that is deducted from net income for financial statement purposes.
Additionally, following consultation with the FRB-Atlanta, the Company has exercised its rights to
defer regularly scheduled interest payments on all of its issues of junior subordinated notes
having an outstanding principal amount of $88.6 million, relating to outstanding trust preferred
securities (“TRUPs”). In addition, the Company maintains borrowing availability with the FHLB
which was fully utilized at December 31, 2010. The Company also maintains federal funds lines of
credit totaling $70,000 at four correspondent banks of which $70,000 was available at December 31,
2010, and $10,000 of the federal funds lines of credit is secured by cash on deposit. The Company
believes it has sufficient liquidity to satisfy its current operating needs.
In 2010, operating activities of the Company provided $44,842 of cash flows. Cash flows from
operating activities were positively affected by various non-cash items, including (i) $71,107 in
provision for loan losses, (ii) $7,152 of depreciation and amortization, (iii) $29,895 net loss on
OREO and repossessed assets, and (iv) $26,739 in deferred tax expense. This was offset in part by
(i) a net loss of $80,695, (ii) a decrease in other assets of $4,139 and (iii) a reduction in
accrued interest payable and other liabilities of $5,505. In addition, cash flows from operating
activities were increased by the proceeds from the sale of held-for-sale loans of $47,881,
offset by cash used to originate held-for-sale loans of $46,994.
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Investing activities, including lending, provided $167,213 of the Company’s cash flows in
2010. Cash flows from investing activities increased from (i) the sale of OREO in the amount of
$16,136, (ii) the net decrease in interest-bearing deposits with banks of $11,000 and (iii) the net
decrease in loans of $195,847. Investments from the purchase of securities in excess of maturities
from securities available for sale over in the amount of $53,414 and premises and equipment of
$1,551 in 2010 reduced cash provided from investing activities.
Net cash flows of $128,335 were used by financing activities. The financing cash flow activity
in 2010 with respect to notes payable reflected a repayment of funds in the amount of $13,346 and a
repayment of funds of $57,350 during 2009. The Company elected to repay FHLB advances by the
overall contraction of the balance sheet. In addition, federal funds purchased and repurchase
agreements were reduced by $5,036 during 2009. Cash flows used by the net change in total deposits
reduced deposits by $107,242, as the continued to reduce the size of the balance sheet. The
Company’s cash flow from financing activities was also decreased by the Company’s dividend payments
during 2010 of $2,711 on preferred stock.
Capital Resources. The Company’s regulatory capital position is reflected in its
shareholders’ equity, subject to certain adjustments for regulatory purposes. Shareholders’
equity, or capital, is a measure of the Company’s net worth, soundness and viability. The Company’s
capital continued to exceed the regulatory definition of a “well capitalized” financial institution
at December 31, 2010, but fell below the levels that the Bank informally committed to the TDFI and
FDIC that it would maintain. Management believes the capital base of the Company allows it to
consider business opportunities while maintaining the level of resources deemed appropriate by
management of the Company to address business risks inherent in the Company’s daily operations.
On September 25, 2003, the Company issued $10,310 of subordinated debentures, as part of a
privately placed pool of trust preferred securities. The securities, due in 2033, bear interest at
a floating rate of 2.85% above the three-month LIBOR rate, reset quarterly, and are currently
callable by the Company without penalty. The Company used the proceeds of the offering to support
its acquisition of Independent Bankshares Corporation, and the capital raised from the offering
qualified as Tier 1 capital for regulatory purposes.
On June 28, 2005, the Company issued an additional $3,093 of subordinated debentures, as part
of a privately placed pool of trust preferred securities. The securities, due in 2035, bear
interest at a floating rate of 1.68% above the three-month LIBOR rate, reset quarterly, and are
callable by the Company five years from the date of issuance without penalty. The Company used the
proceeds to augment its capital position in connection with its significant asset growth, and the
capital raised from the offering qualifies as Tier 1 capital for regulatory purposes.
On May 16, 2007, the Company issued $57,732 of subordinated debentures, as part of a privately
placed pool of trust preferred securities. The securities, due in 2037, bear interest at a
floating rate of 1.65% above the three-month LIBOR rate, reset quarterly, and are callable by the
Company five years from the date of issuance without penalty. The Company used the proceeds of the
offering to support its acquisition of CVBG, and the capital raised from the offering qualified as
Tier I capital for regulatory purposes.
On May 18, 2007 the Company assumed the obligations of the following two trusts in the CVBG
acquisition.
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During 2007 the FRB issued regulations which allow continued inclusion of outstanding and
prospective issuances of trust preferred securities as Tier 1 capital subject to stricter
quantitative and qualitative limits than allowed under prior regulations. The new limits will
phase in over a five-year transition period and would permit the Company’s trust preferred
securities, including those obligations assumed in the CVBG acquisition, to continue to be treated
as Tier 1 capital. Under the Dodd-Frank Act, the Company’s trust preferred securities should
continue to qualify as Tier I capital.
The Company’s ability to repurchase the trust preferred securities or pay dividends on the
trust preferred securities, may be limited as a result of the Company’s participation in the CPP,
as described above and is limited by the informal commitment the Company made to the FRB-Atlanta in
2010, also as described above.
Shareholders’ equity on December 31, 2010 was $143,897, a decrease of $82,872, or 37%, from
$226,769 on December 31, 2009. The decrease in shareholders’ equity was primarily driven by the
net loss available to common shareholders of $85,696 in 2010.
On December 23, 2008 the Company entered into a definitive agreement with the U.S. Treasury.
Pursuant to the Agreement, we sold to the U.S. Treasury 72,280 shares of Series A preferred stock,
having a liquidation amount equal to $1,000 per share, with an attached warrant (the “Warrant”) to
purchase 635,504 shares of our common stock, par value $2.00 per share, for $17.06 per share.
The preferred stock qualifies as Tier 1 capital and pays cumulative dividends at a rate of 5%
per year, for the first five years, and 9% per year thereafter. The Warrant has a 10-year term and
an exercise price, subject to anti-dilution adjustments, equal to $17.06 per share of common stock.
The Company is permitted to redeem the Series A preferred stock at any time without penalty
subject to the U.S. Treasury’s consultation with the Company’s and the Bank’s appropriate
regulatory agency.
Risk-based capital regulations adopted by the FRB and the FDIC require both bank holding
companies and banks to achieve and maintain specified ratios of capital to risk-weighted assets.
The risk-based capital rules are designed to measure “Tier 1” capital (consisting of stockholders’
equity and trust preferred securities, less goodwill) and total capital in relation to the credit
risk of both on- and off-balance sheet items. Under the guidelines, one of four risk weights is
applied to the different on-balance sheet items. Off-balance sheet items, such as loan
commitments, are also subject to risk weighting after conversion to balance sheet equivalent
amounts. All bank holding companies and banks must maintain a minimum total capital to total
risk-weighted assets ratio of 8.00%, at least half of which must be in the form of core, or Tier 1,
capital. At December 31, 2010, the Company and the Bank each satisfied their respective minimum
regulatory capital requirements, and the Bank was “well-capitalized” within the meaning of federal
regulatory requirements. In light of declining asset quality and earnings in 2010, the Bank
informally committed to the TDFI and the FDIC that, among other things, it would maintain a Tier 1
leverage ratio (Tier 1 Capital to Average Assets) of at least 10% and Total risk-based capital
ratio (Total Capital to Risk Weighted Assets) of at least 14%.
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As reflected in the table below, the Bank did not satisfy these higher ratio requirements at
December 31, 2010. Actual capital levels and minimum levels (in millions) were:
Off-Balance Sheet Arrangements
At December 31, 2010, the Company had outstanding unused lines of credit and standby letters
of credit totaling $227,647 and unfunded loan commitments outstanding of $6,291. Because these
commitments generally have fixed expiration dates and many will expire without being drawn upon,
the total commitment level does not necessarily represent future cash requirements. If needed to
fund these outstanding commitments, the Company has the ability to liquidate federal funds sold or
securities available-for-sale or, on a short-term basis, to borrow or purchase federal funds from
other financial institutions. At December 31, 2010, the Company had accommodations with upstream
correspondent banks for unsecured federal funds lines. These accommodations have various covenants
related to their term and availability, and in most cases must be repaid within less than a month.
The following table presents additional information about the Company’s commitments as of December
31, 2010, which by their terms has contractual maturity dates subsequent to December 31, 2010:
Asset/Liability Management
The Company’s Asset/Liability Committee (“ALCO”) actively measures and manages interest rate
risk using a process developed by the Bank. The ALCO is also responsible for recommending the
Company’s asset/liability management policies to the Board of Directors for approval, overseeing
the formulation and implementation of strategies to improve balance sheet positioning and earnings,
and reviewing the Company’s interest rate sensitivity position.
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The primary tool that management uses to measure short-term interest rate risk is a net
interest income simulation model prepared by an independent national consulting firm and reviewed
by another separate and independent national consulting firm. These simulations estimate the
impact that various changes in the overall level of interest rates over one- and two-year time
horizons would have on net interest income. The results help the Company develop strategies for
managing exposure to interest rate risk.
Like any forecasting technique, interest rate simulation modeling is based on a large number
of assumptions. In this case, the assumptions relate primarily to loan and deposit growth, asset
and liability prepayments, interest rates and balance sheet management strategies. Management
believes that both individually and in the aggregate the assumptions are reasonable. Nevertheless,
the simulation modeling process produces only a sophisticated estimate, not a precise calculation
of exposure.
The Company’s current guidelines for interest rate risk management call for preventive
measures if a gradual 200 basis point increase or decrease in short-term rates over the next 12
months would affect net interest income over the same period by more than 18.5%. The Company has
been operating well within the guidelines. As of December 31, 2010 and 2009, based on the results
of the independent consulting firm’s simulation model, the Company could expect net interest income
to increase by approximately 6.31% and 12.75%, respectively, if short-term interest rates
immediately increase by 200 basis points. Conversely, if short-term interest rates immediately
decrease by 200 basis points, net interest income could be expected to decrease by approximately
5.40% and 14.20%, respectively.
The scenario described above, in which net interest income increases when interest rates
increase and decreases when interest rates decline, is typically referred to as being “asset
sensitive” because interest-earning assets exceed interest-bearing liabilities. At December 31,
2010, approximately 43% of the Company’s gross loans had adjustable rates. While management
believes, based on its asset/liability modeling, that the Company is liability sensitive as
measured over the one year time horizon, it also believes that a rapid, significant and prolonged
increase or decrease in rates could have a substantial adverse impact on the Company’s net interest
margin.
The Company’s net interest income simulation model incorporates certain assumptions with
respect to interest rate floors on certain deposits and other liabilities. Further, given the
relatively low interest rates on some deposit products, a 200 basis point downward shock could very
well reduce the costs on some liabilities below zero. In these cases, the Company’s model
incorporates constraints which prevent such a shock from simulating liability costs to zero.
The Company also uses an economic value of equity model, prepared and reviewed by the same
independent national consulting firm, to complement its short-term interest rate risk analysis.
The benefit of this model is that it measures exposure to interest rate changes over time frames
longer than the two-year net interest income simulation. The economic value of the Company’s
equity is determined by calculating the net present value of projected future cash flows for
current asset and liability positions based on the current yield curve.
Economic value analysis has several limitations. For example, the economic values of asset
and liability balance sheet positions do not represent the true fair values of the positions, since
economic values reflect an analysis at one particular point in time and do not consider the value
of the Company’s franchise. In addition, we must estimate cash flow for assets and liabilities
with indeterminate maturities. Moreover, the model’s present value calculations do not take into
consideration future changes in the balance sheet that will likely result from ongoing loan and
deposit activities conducted by the Company’s core business. Finally, the analysis requires
assumptions about events which span several years. Despite its limitations, the economic value of
equity model is a relatively sophisticated tool for evaluating the long term effect of possible
interest rate movements.
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The Company’s current guidelines for risk management call for preventive measures if an
immediate 200 basis point increase or decrease in interest rates would reduce the economic value of
equity by more than 23%. The Company operated well within the upper guideline but did not operate
within the lower guideline for this ratio as of December 31, 2010. As of December 31, 2010 and
2009, based on the results of an independent national consulting firm’s simulation model and
reviewed by a separate independent national consulting firm, the Company could expect its economic
value of equity to increase by approximately 16.71% and 10.48%, respectively, if short-term
interest rates immediately increased by 200 basis points. Conversely, if short-term interest rates
immediately decrease by 200 basis points, economic value of equity could be expected to decrease by
approximately
27.85% and 21.94%, at December 31, 2010 and 2009, respectively. The down 200 basis point
scenario came in below the Company’s minimum operating guideline of 23% as a result of loan
transfers to OREO and non-accrual status thus reducing the impact of the down 200 basis point
scenario from the asset side of our balance sheet.
Disclosure of Contractual Obligations
In the ordinary course of operations, the Company enters into certain contractual obligations.
Such obligations include the funding of operations through debt issuances as well as leases for
premises and equipment. The following table summarizes the Company’s significant fixed and
determinable contractual obligations as of December 31, 2010:
Additionally, the Company routinely enters into contracts for services. These contracts
may require payment for services to be provided in the future and may also contain penalty clauses
for early termination of the contract. Management is not aware of any additional commitments or
contingent liabilities which may have a material adverse impact on the liquidity or capital
resources of the Company.
Inflation
The effect of inflation on financial institutions differs from its impact on other types of
businesses. Since assets and liabilities of banks are primarily monetary in nature, they are more
affected by changes in interest rates than by the rate of inflation.
Inflation generates increased credit demand and fluctuation in interest rates. Although
credit demand and interest rates are not directly tied to inflation, each can significantly impact
net interest income. As in any business or industry, expenses such as salaries, equipment,
occupancy, and other operating expenses also are subject to the upward pressures created by
inflation.
Since the rate of inflation has been stable during the last several years, the impact of
inflation on the earnings of the Company has been insignificant.
Effect of New Accounting Standards
FASB — ASU — 2010-06 — In January 2010, the FASB issued additional guidance on fair value
disclosures. The new guidance clarifies two existing disclosure requirements and requires two new
disclosures as follows: (1) a “gross” presentation of activities (purchases, sales, and
settlements) within the Level 3 rollforward reconciliation, which will replace the “net”
presentation format; and (2) detailed disclosures about the transfers in and out of Level 1 and 2
measurements. This guidance is effective for the first interim or annual reporting period beginning
after December 15, 2009, except for the gross presentation of the Level 3 rollforward information,
which is required for annual reporting periods beginning after December 15, 2010, and for interim
reporting periods within those years. The Company adopted the fair value disclosures guidance on
January 1, 2010, except for the gross presentation of the Level 3 rollforward information which is
not required to be adopted by the Company until January 1, 2011.
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FASB — ASC — 810 and amended by FASB ASU — 2010-10 became effective on January 1, 2010, and
was amended to change how a company determines when an entity that is insufficiently capitalized or
is not controlled
through voting (or similar rights) should be consolidated. The determination of whether a
company is required to consolidate an entity is based on, among other things, an entity’s purpose
and design and a company’s ability to direct the activities of the entity that most significantly
impact the entity’s economic performance. The new authoritative accounting guidance requires
additional disclosures about the reporting entity’s involvement with variable-interest entities and
any significant changes in risk exposure due to that involvement as well as its affect on the
entity’s financial statements. The new authoritative accounting guidance under ASC 810 was
effective January 1, 2010 and did not have a significant impact on the Company’s financial
statements.
FASB — ASU — 2010-20 — “Disclosures about the Credit Quality of Financing Receivables and the
Allowance for Credit Losses” The new standard governing the disclosures associated with credit
quality and the allowance for loan losses. This standard requires additional disclosures related
to the allowance for loan loss with the objective of providing financial statement users with
greater transparency about an entity’s loan loss reserves and overall credit quality. Additional
disclosures include showing on a disaggregated basis the aging of receivables, credit quality
indicators, and troubled debt restructures with its effect on the allowance for loan loss. The
provisions of this standard were effective for interim and annual periods ending on or after
December 15, 2010. The adoption of this standard did not have a material impact on the Company’s
financial position and results of operations, but did increase the amount and quality of the credit
disclosures in the notes to the consolidated financial statements.
The information set forth on pages 52 through 54 of Item 7, “MANAGEMENT’S DISCUSSION AND
ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS — Asset/Liability Management” is
incorporated herein by reference.
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Management’s Annual Report on Internal Control Over Financial Reporting
The Company’s management is responsible for establishing and maintaining effective 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. GAAP. 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 U.S. GAAP, 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, 2010. 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.
As a result of management’s evaluation of the Company’s internal controls over financial
reporting, management identified deficiencies, that when evaluated in combination, lead to the
determination that there is a reasonable possibility that the Company’s internal controls could
fail to prevent or detect a material misstatement on a timely basis as of December 31, 2010.
Accordingly, as a result of this material weakness, management has concluded that the Company’s
internal control over financial reporting was not effective as of December 31, 2010. This material
weakness relates to controls surrounding the valuation, documentation and review of impaired loans
and other real estate owned at December 31, 2010. As a result of this material weakness,
management has adopted a specific action plan to address these deficiencies in internal controls
which are discussed in more detail below in Item 9A. Controls and Procedures.
The Company’s independent registered public accounting firm has issued a report on the
effectiveness of the Company’s internal control over financial reporting. That report appears on
pages 57 and 58 of this Report.
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REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM
BOARD OF DIRECTORS AND SHAREHOLDERS
GREEN BANKSHARES, INC. We have audited Green Bankshares, Inc. and subsidiaries’ (the “Company”) internal control over
financial reporting as of December 31, 2010, based on criteria established in Internal
Control—Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway
Commission. The Company’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, included in the accompanying Management’s Annual Report on Internal Control
Over Financial Reporting. Our responsibility is to express an opinion on 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, assessing the risk that a material weakness exists, and testing
and evaluating the design and operating effectiveness of internal control based on the assessed
risk. Our audit also included 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.
A material weakness is a deficiency, or combination of deficiencies, in internal control over
financial reporting, such that there is a reasonable possibility that a material misstatement of
the Company’s annual or interim financial statements will not be prevented or detected on a timely
basis. A combination of deficiencies noted as of December 31, 2010 give rise to the following
material weakness which is included in management’s assessment. As of December 31, 2010, the
Company did not have adequate internal controls surrounding the valuation, documentation and review
of impaired loans and other real estate owned. This material weakness was considered in determining
the nature, timing and extent of audit tests applied in our audit of the 2010 consolidated
financial statements, and this report does not affect our report dated March 15, 2011 on those
consolidated financial statements.
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In our opinion, because of the effect of the material weakness described above on the achievement
of the objectives of the control criteria, Green Bankshares, Inc. and subsidiaries has not
maintained effective internal control over financial reporting as of December 31, 2010, based on
criteria established in Internal Control—Integrated Framework issued by the Committee of
Sponsoring Organizations of the Treadway Commission.
We also have audited, in accordance with the standards of the Public Company Accounting Oversight
Board (United States), the consolidated financial statements of Green Bankshares, Inc. and
subsidiaries as of December 31, 2010 and 2009 and for each of the years in the three-year period
ended December 31, 2010, and our report dated March 15, 2011, expressed an unqualified opinion on
those consolidated financial statements. Our report on the consolidated financial statements
referred to above refers to the adoption of a new accounting standard in relation to accounting for
other-than-temporary impairments of debt securities in 2009.
/s/ Dixon Hughes PLLC
Atlanta, Georgia
March 15, 2011
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REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM
BOARD OF DIRECTORS AND SHAREHOLDERS
GREEN BANKSHARES, INC. We have audited the accompanying consolidated balance sheets of Green Bankshares, Inc. and
subsidiaries as of December 31, 2010 and 2009, and the related consolidated statements of income,
changes in shareholders’ equity and cash flows for each of the years in the three-year period ended
December 31, 2010. 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 Green Bankshares, Inc. and subsidiaries as of December
31, 2010 and 2009, and the results of their operations and their cash flows for each of the years
in the three-year period ended December 31, 2010, in conformity with accounting principles
generally accepted in the United States of America.
Effective January 1, 2009, the Company changed its method of accounting for other-than-temporary
impairments of debt securities in connection with the adoption of revised accounting guidance
issued by the Financial Accounting Standards Board.
We have also audited, in accordance with the standards of the Public Company Accounting Oversight
Board (United States), Green Bankshares, Inc.’s internal control over financial reporting as of
December 31, 2010, based on criteria established in Internal Control—Integrated Framework issued
by the Committee of Sponsoring Organizations of the Treadway Commission, and our report dated March
15, 2011 expressed an adverse opinion on the effectiveness of the Company’s internal control over
financial reporting.
/s/ Dixon Hughes PLLC
Atlanta, Georgia
March 15, 2011
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GREEN BANKSHARES, INC.
CONSOLIDATED BALANCE SHEETS
December 31, 2010 and 2009
(Amounts in thousands, except share and per share data)
See accompanying notes.
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GREEN BANKSHARES, INC.
CONSOLIDATED STATEMENTS OF INCOME
Years ended December 31, 2010, 2009 and 2008
(Amounts in thousands, except share and per share data)
See accompanying notes.
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GREEN BANKSHARES, INC.
CONSOLIDATED STATEMENTS OF CHANGES IN SHAREHOLDERS’ EQUITY
Years ended December 31, 2010, 2009 and 2008
(Amounts in thousands, except share and per share data)
See accompanying notes.
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GREEN BANKSHARES, INC.
CONSOLIDATED STATEMENTS OF CASH FLOWS
Years ended December 31, 2010, 2009 and 2008
(Amounts in thousands)
See accompanying notes.
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GREEN BANKSHARES, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Amounts in thousands, except share and per share data)
December 31, 2010, 2009 and 2008 NOTE 1 — SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
Principles of Consolidation: The consolidated financial statements include the accounts of
Green Bankshares, Inc. (the “Company”) and its wholly owned subsidiary, GreenBank (the “Bank”), and
the Bank’s wholly owned subsidiaries, Superior Financial Services, Inc., GCB Acceptance Corp.,
Inc., Fairway Title Company, Inc, and GB Holdings, LLC. All significant inter-company balances and
transactions have been eliminated in consolidation.
Nature of Operations: The Company primarily provides financial services through its offices
in Eastern, Middle and Southeastern Tennessee, Western North Carolina and Southwestern Virginia.
Its primary deposit products are checking, savings, and term certificate accounts, and its primary
lending products are residential mortgage, commercial, and installment loans. Substantially all
loans are secured by specific items of collateral including business assets, consumer assets and
real estate. Commercial loans are expected to be repaid from cash flow from operations of
businesses. Real estate loans are secured by both residential and commercial real estate.
Use of Estimates: To prepare financial statements in conformity with accounting principles
generally accepted in the United States of America, management makes estimates and assumptions
based on available information. These estimates and assumptions impact the amounts reported in the
financial statements and the disclosures provided, and future results could differ. The allowance
for loan losses, deferred tax asset valuation, OREO valuation and fair values of financial
instruments are significant items based on estimates and assumptions.
Cash Flows: Cash and cash equivalents include cash, deposits with other financial
institutions under 90 days, and federal funds sold. Net cash flows are reported for loan, deposit
and other borrowing transactions.
Securities: Securities are classified as held to maturity and carried at amortized cost
when management has the positive intent and ability to hold them to maturity. Securities are
classified as available for sale when they might be sold before maturity. Securities available for
sale are carried at fair value, with unrealized holding gains and losses reported in accumulated
other comprehensive income.
Interest income includes amortization of purchase premium or discount and is recognized based upon
the level-yield method. Gains and losses on sales are based on the amortized cost of the security
sold. Securities are written down to fair value when a decline in fair value is other than
temporary.
Investments in Equity Securities Carried at Cost: Investment in Federal Home Loan Bank
(“FHLB”) stock, which is carried at cost because it can only be redeemed at par, is a required
investment based on membership requirements. The Bank also carries certain other equity
investments at cost, which approximates fair value.
Loans: Loans are reported at the principal balance outstanding, net of unearned interest,
deferred loan fees and costs.
Interest income is reported on the interest method over the loan term. Loan origination fees, net
of certain direct origination costs, are deferred and recognized in interest income using the
level-yield method. Interest income includes amortization of purchase premiums or discounts on
loans purchased. Premiums and discounts are amortized on the level yield-method. Interest income
on mortgage and commercial loans is discontinued at the time the loan is 90 days delinquent unless
the loan is well secured and in process of collection. Most consumer loans are charged off no
later than 120 days past due. In all cases, loans are placed on nonaccrual or charged off at an
earlier date if collection of principal and interest is doubtful. Interest accrued but not
collected is reversed against interest income when a loan is placed on nonaccrual status.
(Continued)
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GREEN BANKSHARES, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Amounts in thousands, except share and per share data) December 31, 2010, 2009 and 2008 NOTE 1 — SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (Continued)
Interest received is recognized on the cash basis or cost recovery method until qualifying for
return to accrual status. Accrual is resumed when all contractually due payments are brought
current, six months of payment performance can be measured, and future payments are reasonably
assured.
Allowance for Loan Losses: The allowance for loan losses is a valuation allowance for
probable incurred credit losses, increased by the provision for loan losses and decreased by
charge-offs less recoveries. Management estimates the allowance balance required using past loan
loss experience, known and inherent risks in the nature and volume of the portfolio, information
about specific borrower situations and estimated collateral values, economic conditions, and other
factors. Allocations of the allowance may be made for specific loans, but the entire allowance is
available for any loan that, in management’s judgment, should be charged-off. Loan losses are
charged against the allowance when management believes the uncollectibility of a loan is confirmed.
The Bank uses several factors in determining if a loan is impaired. The internal asset
classification procedures include a thorough review of significant loans and lending relationships
and include the accumulation of related data. This data includes loan payment and collateral
status, borrowers’ financial data and borrowers’ operating factors such as cash flows, operating
income, liquidity, leverage and loan documentation, and any significant changes. A loan is
considered impaired, based on current information and events, if it is probable that the Bank will
be unable to collect the scheduled payments of principal or interest when due according to the
contractual terms of the loan agreement. Uncollateralized loans are measured for impairment based
on the present value of expected future cash flows discounted at the historical effective interest
rate, while all collateral-dependent loans are measured for impairment based on the fair value of
the collateral. Larger groups of smaller balance, homogeneous loans, such as consumer and
residential real estate loans, are collectively evaluated for impairment, and accordingly, they are
not separately identified for impairment disclosures.
Foreclosed Assets: Assets acquired through or instead of loan foreclosure are initially
recorded at fair value less estimated cost to sell when acquired, establishing a new cost basis.
If fair value declines, a valuation allowance is recorded through expense. Costs after acquisition
are expensed.
Premises and Equipment: Premises and equipment are stated at cost less accumulated
depreciation. Depreciation is computed over an asset’s useful life on a straight-line basis.
Buildings and related components have useful lives ranging from 10 to 40 years, while furniture,
fixtures and equipment have useful lives ranging from 3 to 10 years. Leasehold improvements are
amortized over the lesser of the life of the asset or lease term.
Mortgage Banking Activities: Mortgage loans originated and intended for sale in the
secondary market are carried at the lower of aggregate cost or market value. The Company controls
its interest rate risk with respect to mortgage loans held for sale and loan commitments expected
to close by usually entering into agreements to sell loans. The Company records loan commitments
related to the origination of mortgage loans held for sale as derivative instruments. The Company’s
commitments for fixed rate mortgage loans, generally last 60 to 90 days and are at market rates
when initiated. The Company had $4,813 in outstanding loan commitment derivatives at December 31,
2010. The aggregate market value of mortgage loans held for sale takes into account the sales
prices of such agreements. The Company also provides currently for any losses on uncovered
commitments to lend or sell. The Company sells mortgage loans servicing released.
Bank Owned Life Insurance: The Company has purchased life insurance policies on certain key
executives. Company owned life insurance is recorded at its cash surrender value or the amount
that can be realized.
(Continued)
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GREEN BANKSHARES, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Amounts in thousands, except share and per share data) December 31, 2010, 2009 and 2008 NOTE 1 — SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (Continued)
Goodwill, Core Deposit Intangibles and Other Intangible Assets: Goodwill results from prior
business acquisitions and represents the excess of the purchase price over the fair value of
acquired tangible assets and liabilities and identifiable intangible assets. Goodwill is assessed
at least annually for impairment and any such impairment is recognized in the period identified.
During the second quarter of 2009 the Company identified impairment in its goodwill resulting from
a prolonged decline in the market value of its stock price relative to book value, and took the
appropriate actions. This is explained further in “Note 6 — Goodwill and Other Intangible
Assets”.
Core deposit intangible assets arise from whole bank and branch acquisitions. They are initially
measured at fair value and then are amortized on a straight line method over their estimated useful
lives, which range from seven to 15 years and are determined by an independent consulting firm.
Core deposit intangible assets are assessed at least annually for impairment and any such
impairment is recognized in the period identified.
Other intangible assets consist of mortgage servicing rights (“MSR’s”). MSR’s represent the cost
of acquiring the rights to service mortgage loans. MSR’s are amortized based on the principal
reduction of the underlying loans. The Company is obligated to service the unpaid principal
balances of these loans, which were approximately $33 million and $43 million as of December 31,
2010 and 2009, respectively. The Company pays a third party subcontractor to perform servicing and
escrow functions with respect to loans sold with retained servicing. MSR’s are assessed at least
annually for impairment. The Company does not intend to further pursue this line of business.
Long-term Assets: Premises and equipment and other long-term assets are reviewed for
impairment when events indicate their carrying amount may not be recoverable from future
undiscounted cash flows. If impaired, the assets are recorded at fair value.
Repurchase Agreements: All repurchase agreement liabilities represent secured borrowings
from existing Bank customers and are not covered by federal deposit insurance.
Benefit Plans: Retirement plan expense is the amount contributed to the plan as determined
by Board decision. Deferred compensation expense is recognized during the year the benefit is
earned.
Stock Compensation: Compensation cost for stock-based payments is measured based on the
fair value of the award, which most commonly includes restricted stock (i.e., unvested common
stock), stock options, and stock appreciation rights at the grant date and is recognized in the
consolidated financial statements on a straight-line basis over the requisite service period for
service-based awards. The fair value of restricted stock is determined based on the price of the
Company’s common stock on the date of grant. The fair value of stock options is estimated at the
date of grant using a Black-Scholes option pricing model and related assumptions.
Income Taxes: Income tax expense is the total of the current year income tax due or
refundable and the change in deferred tax assets and liabilities. Deferred tax assets and
liabilities are the expected future tax amounts for the temporary differences between carrying
amounts and tax bases of assets and liabilities, computed using enacted tax rates. A valuation
allowance reduces deferred tax assets to the amount expected to be realized and as of December 31,
2010 the Company had recorded a deferred tax valuation allowance of $43,455.
Loan Commitments and Related Financial Instruments: Financial instruments include credit
instruments, such as commitments to make loans and standby letters of credit, issued to meet
customer financing needs. The face amount for these items represents the exposure to loss before
considering customer collateral or ability to repay. Such financial instruments are recorded when
they are funded. Instruments such as standby letters of credit are considered financial guarantees
in accordance with applicable accounting standards. The fair value of these financial guarantees
is not material.
(Continued)
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GREEN BANKSHARES, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Amounts in thousands, except share and per share data) December 31, 2010, 2009 and 2008 NOTE 1 — SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (Continued)
Earnings (loss) Per Common Share: Basic earnings (loss) per common share are net income (loss)
available to common shareholders divided by the weighted average number of common shares
outstanding during the period. Diluted earnings available to common shareholders per common share
includes the dilutive impact of additional potential common shares issuable under stock options,
unvested restricted stock awards and stock warrants issued to the U.S. Treasury in connection with
the Capital Purchase Program.
Comprehensive Income: Comprehensive income consists of net income and other comprehensive
income. Other comprehensive income includes unrealized gains and losses on securities available
for sale which are also recognized as a separate component of equity. Comprehensive income is
presented in the consolidated statements of changes in shareholders’ equity.
Recent Accounting Pronouncements: FASB — ASU — 2010-06 — In January 2010, the FASB
issued additional guidance on fair value disclosures. The new guidance clarifies two existing
disclosure requirements and requires two new disclosures as follows: (1) a “gross” presentation of
activities (purchases, sales, and settlements) within the Level 3 rollforward reconciliation, which
will replace the “net” presentation format; and (2) detailed disclosures about the transfers in and
out of Level 1 and 2 measurements. This guidance is effective for the first interim or annual
reporting period beginning after December 15, 2009, except for the gross presentation of the Level
3 rollforward information, which is required for annual reporting periods beginning after December
15, 2010, and for interim reporting periods within those years. The Company adopted the fair value
disclosures guidance on January 1, 2010, except for the gross presentation of the Level 3
rollforward information which is not required to be adopted by the Company until January 1, 2011.
FASB — ASC — 810 and amended by FASB ASU — 2010-10 became effective on January 1, 2010, and was
amended to change how a company determines when an entity that is insufficiently capitalized or is
not controlled through voting (or similar rights) should be consolidated. The determination of
whether a company is required to consolidate an entity is based on, among other things, an entity’s
purpose and design and a company’s ability to direct the activities of the entity that most
significantly impact the entity’s economic performance. The new authoritative accounting guidance
requires additional disclosures about the reporting entity’s involvement with variable-interest
entities and any significant changes in risk exposure due to that involvement as well as its affect
on the entity’s financial statements. The new authoritative accounting guidance under ASC 810 was
effective January 1, 2010 and did not have a significant impact on the Company’s financial
statements.
FASB — ASU — 2010-20 — “Disclosures about the Credit Quality of Financing Receivables and the
Allowance for Credit Losses. The Company adopted the new standard governing the disclosures
associated with credit quality and the allowance for loan losses. This standard requires
additional disclosures related to the allowance for loan loss with the objective of providing
financial statement users with greater transparency about an entity’s loan loss reserves and
overall credit quality. Additional disclosures include showing on a disaggregated basis the aging
of receivables, credit quality indicators, and troubled debt restructures with its effect on the
allowance for loan loss. The provisions of this standard were effective for interim and annual
periods ending on or after December 15, 2010. The adoption of this standard did not have a
material impact on the Company’s financial position and results of operations, but did increase the
amount and quality of the credit disclosures in the notes to the consolidated financial statements.
(Continued)
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GREEN BANKSHARES, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Amounts in thousands, except share and per share data) December 31, 2010, 2009 and 2008 NOTE 1 — SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (Continued)
Loss Contingencies: Loss contingencies, including claims and legal actions arising in
the ordinary course of business, are recorded as liabilities when the likelihood of loss is
probable and an amount or range of loss can be reasonably estimated. In the third quarter of 2010,
we recognized significant losses as a result of higher costs related to loan charge-offs, coupled
with losses incurred on OREO resulting from sales completed and updated property appraisals
received during that quarter. As a result, various plaintiffs filed class action lawsuits, which
have subsequently been consolidated into one class action, alleging, among other things, disclosure
violations regarding our collateral valuations, the timing of our impairment charges and our
accounting for loan charge-offs. The defense of this matter has and will continue to entail
considerable cost and will be time-consuming for our management. Unfavorable outcomes in this
matter could have an adverse effect on our business, financial condition, results of operations and
cash flows.
Restrictions on Cash: Cash on hand or on deposit with the Federal Reserve Bank of $14,457
and $19,245 was required to meet regulatory reserve and clearing requirements at year-end 2010 and
2009. These balances do not earn interest.
Segments: Internal financial reporting is primarily reported and aggregated in five lines
of business: banking, mortgage banking, consumer finance, subprime automobile lending, and title
insurance. Banking accounts for 93.6% of revenues for 2010.
Fair Value of Financial Instruments: Fair values of financial instruments are estimated
using relevant market information and other assumptions, as more fully disclosed in a separate
note. Fair value estimates involve uncertainties and matters of significant judgment regarding
interest rates, credit risk, prepayments, and other factors, especially in the absence of broad
markets for particular items. Changes in assumptions or in market conditions could significantly
affect the estimates.
Reclassifications: Certain items in prior year financial statements have been reclassified
to conform to the 2010 presentation. These reclassifications had no effect on net income or
shareholders’ equity as previously reported.
(Continued)
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GREEN BANKSHARES, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Amounts in thousands, except share and per share data) December 31, 2010, 2009 and 2008 NOTE 2 — SECURITIES
Securities are summarized as follows:
(Continued)
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GREEN BANKSHARES, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Amounts in thousands, except share and per share data) December 31, 2010, 2009 and 2008 NOTE 2 — SECURITIES (Continued)
Contractual maturities of securities at year-end 2010 are shown below. Securities not due at a
single maturity date, collateralized mortgage obligations and mortgage-backed securities are shown
separately.
Gross gains of $0, $1,415 and $2,661 were recognized in 2010, 2009 and 2008, respectively, from
proceeds of $0, $36,266, and $123,701, respectively, on the sale of securities available for sale.
Securities with a fair value of $135,692 and $125,005 at year-end 2010 and 2009 were pledged for
public deposits and securities sold under agreements to repurchase and to the Federal Reserve Bank.
The balance of pledged securities in excess of the pledging requirements was $7,983 and $9,135 at
year-end 2010 and 2009, respectively.
The Company held 200 and 168 securities in its portfolio as of December 31, 2010 and 2009,
respectively, and of these securities 53 and 35 had an unrealized loss. Unrealized losses on
securities are due to changes in interest rates and not due to credit quality issues.
Securities with unrealized losses at year-end 2010 and 2009 not recognized in income are as
follows:
(Continued)
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GREEN BANKSHARES, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Amounts in thousands, except share and per share data) December 31, 2010, 2009 and 2008 NOTE 2 — SECURITIES (Continued)
The Company reviews its investment portfolio on a quarterly basis judging each investment for
other-than-temporary impairment (“OTTI”). Management does not have the intent to sell any of the
temporarily impaired investments and believes it is more likely than not that the Company will not
have to sell any such securities before a recovery of cost. The OTTI analysis focuses on the
duration and amount a security is below book value and assesses a calculation for both a credit
loss and a non credit loss for each measured security considering the security’s type, performance,
underlying collateral, and any current or potential debt rating changes. The OTTI calculation for
credit loss is reflected in the income statement while the non credit loss is reflected in other
comprehensive income (loss).
The Company holds a single issue trust preferred security issued by a privately held bank
holding company. Based upon available but limited information we have estimated that the
likelihood of collecting the security’s principal and interest payments is approximately 50%. In
addition, the bank holding company deferred its interest payments beginning in the second quarter
of 2009, and we have placed the security on non-accrual. The Federal Reserve Bank of St. Louis
entered into an agreement with the bank holding company on October 22, 2009 which was made public
on October 30, 2009. Among other provisions of the regulatory agreement, the bank holding company
must strengthen its management of operations, strengthen its credit risk management practices, and
submit a capital plan. As of December 31, 2010 no other communications between the bank holding
company and the Federal Reserve Bank of St. Louis have been made public.
The Company valued the security by projecting estimated cash flows given the assumption of
collecting approximately 50% of the security’s principal and interest and then discounting the
amount back to the present value using a discount rate of 3.50% plus three month LIBOR. As of
December 31, 2010, our best estimate for the three month LIBOR over the next twenty years (the
remaining life of the security) is 3.17%. The difference in the present value and the carrying
value of the security was the OTTI credit portion. Due to the illiquid trust preferred market for
private issuers and the absence of a credible pricing source, we calculated a 15% illiquidity
premium for the security to calculate the OTTI non credit portion. The security is currently booked
at a fair value of $638 at December 31, 2010 and during the twelve months ended December 31, 2010
the Company recognized a write-down of $75 through non-interest income representing
other-than-temporary impairment on the security.
The Company holds a private label class A21 collateralized mortgage obligation that was
analyzed for the year ended December 31, 2010 with multiple stress scenarios using conservative
assumptions for underlying collateral defaults, loss severity, and prepayments. The average
principal at risk given the stress scenarios was calculated at 4.37%, and then analyzed using the
present value of the future cash flows using the fixed rate of the security of 5.5% as the discount
rate. The difference in the present value and the carrying value of the security was the OTTI
credit portion. The security is currently booked at a fair value of $2,699 at December 31, 2010
and during the twelve months ended December 31, 2010 the Company recognized a write-down of $18
through non-interest income representing other-than-temporary impairment on the security.
(Continued)
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GREEN BANKSHARES, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Amounts in thousands, except share and per share data) December 31, 2010, 2009 and 2008 NOTE 2 — SECURITIES (Continued)
The following table presents more detail on selective Company security holdings as of year-end
2010. These details are listed separately due to the inherent level of risk for OTTI on these
securities.
The following table presents a roll-forward of the cumulative amount of credit losses on the
Company’s investment securities that have been recognized through earnings as of December 31, 2010
and 2009. Credit losses on the Company’s investment securities recognized in earnings were $93 for
the year ended December 31, 2010 and $976 for the year ended December 31, 2009.
NOTE 3 — LOANS
Loans at year-end by segment, net of unearned interest, were as follows:
(Continued)
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GREEN BANKSHARES, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Amounts in thousands, except share and per share data) December 31, 2010, 2009 and 2008 NOTE 3 — LOANS
(Continued)
Activity in the allowance for loan losses is as follows:
Activity in the allowance for loan losses and recorded investment in loans by
segment:
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