UNITED STATES SECURITIES AND EXCHANGE COMMISSION WASHINGTON, D.C. 20549 ------------- FORM 10-K Annual Report Pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934 ------------- For the fiscal year ended Commission File Number 0-20146 December 31, 2001 EAGLE FINANCIAL SERVICES, INC. (Exact name of Registrant as specified in its charter) Virginia 54-1601306 (State or other jurisdiction of (I.R.S. Employer incorporation or organization) Identification No.) Post Office Box 391 Berryville, Virginia 22611 (Address of principal executive offices) (Zip Code) (540) 955-2510 (Registrant's telephone number, including area code) SECURITIES REGISTERED PURSUANT TO SECTION 12(b) OF THE ACT: NONE SECURITIES REGISTERED PURSUANT TO SECTION 12(g) OF THE ACT: Common Stock, Par Value $2.50 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 [X] No [ ] Indicate by check mark if disclosures 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 the 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.[X] PAGE 1 OF 63 PAGES. Exhibit index on page 37 . ------ ------ ------ The aggregate market value of the voting stock held by non-affiliates of the Registrant at March 18, 2002 was $31,821,144. The aggregate market value of the stock was computed using a market rate of $24.00 per share. The number of shares of Registrant's Common Stock outstanding as of March 18, 2002 was 1,464,948. DOCUMENTS INCORPORATED BY REFERENCE (1) Portions of the Registrant's 2001 Annual Report to Shareholders are incorporated by reference in Parts I, II, and IV of this Form 10-K. (2) Portions of the Registrant's Proxy Statement for the 2002 Annual Meeting of Shareholders are incorporated by reference in Part III of this Form 10-K. 1
EAGLE FINANCIAL SERVICES, INC. INDEX TO FORM 10-K Page ------ PART I Item 1. Business................................................. 3 Item 2. Properties............................................... 17 Item 3. Legal Proceedings........................................ 17 Item 4. Submission of Matters to a Vote of Security Holders...... 17 PART II Item 5. Market for Registrant's Common Equity and Related Shareholder Matters............................ 18 Item 6. Selected Financial Data.................................. 19 Item 7. Management's Discussion and Analysis of Financial Condition and Results of Operations................... 20 Item 7A. Quantitative and Qualitative Disclosures about Market Risk.............................................. 33 Item 8. Financial Statements and Supplementary Data.............. 33 Item 9. Changes in and Disagreements with Accountants on Accounting and Financial Disclosure................... 33 PART III Item 10. Directors and Executive Officers of the Registrant....... 34 Item 11. Executive Compensation................................... 34 Item 12. Security Ownership of Certain Beneficial Owners and Management.... ................................... 34 Item 13. Certain Relationships and Related Transactions........... 34 PART IV Item 14. Exhibits, Financial Statement Schedules, and Reports on Form 8-K................................... 35 2
PART I Item 1. Business. General The Registrant was incorporated October 2, 1991 by the Bank of Clarke County, Berryville, Virginia (the "Bank"), for the purpose of establishing a one bank holding company upon consummation of a Plan of Share Exchange between the Registrant and the Bank. The Bank is a Virginia banking corporation chartered on April 1, 1881. On December 31, 1991, the Share Exchange was consummated resulting in the Bank becoming a wholly-owned subsidiary of the Registrant. The Registrant has no other subsidiaries. The Registrant is regulated by the Board of Governors of the Federal Reserve System under the Bank Holding Company Act of 1956, which limits the Registrant's activities to managing or controlling banks and engaging in other activities closely related to banking. The Bank is a member of the Federal Deposit Insurance Corporation and is a state member bank of the Federal Reserve System. The Bank is supervised and regulated by the Federal Reserve Board and the Virginia Bureau of Financial Institutions. The Bank offers a wide range of retail and commercial banking services, including demand, savings and time deposits and consumer, mortgage and commercial lending services. The Bank makes seasonal and term commercial loans, both alone and in conjunction with other banks or governmental agencies. The Bank also offers a wide variety of trust services to customers. During 1999 the Bank expanded its internet web site to offer internet banking. Customers may utilize the site to perform inquiries on account balances and activity, transfer funds among deposit and loan accounts, and pay bills online. During 1997 the Bank formed Eagle Investment Services, a division of the Bank which sells non-deposit investment products through a third party provider, UVEST Investment Services. The Bank's main office is located in Berryville, Clarke County, Virginia, and it operates branch offices in Boyce, Jubal Early Drive in Winchester, Piccadilly Street in Winchester, Senseny Road in Frederick County and in Stephens City. Clarke and Frederick Counties and the City of Winchester are the Bank's primary trade area. Within its primary trade area, the Bank competes with numerous large and small financial institutions, credit unions, insurance companies and other non-bank competitors. The Bank had twenty-nine officers,sixty-three other full-time and six- teen part-time employees as of December 31, 2001. None of the Bank's employees are represented by a union or covered under a collective bargaining agreement. Employee relations have been good. The Bank's loan portfolio is primarily comprised of real estate loans, particularly those secured by 1-4 family residential properties. The Bank also offers many other types of loans including consumer loans, commercial real estate loans, commercial and industrial loans (not secured by real estate), agricultural production loans, and construction loans. See the respective sections in Items 6, 7, and 8 for additional discussion and analysis of the Bank's loan portfolio. The loss of any one depositor or the failure by any one borrower to repay a loan would not have a material adverse effect on the Bank. 3
Statistical Information The following statistical information is furnished pursuant to the requirements of Guide 3 (Statistical Disclosure by Bank Holding Companies) promulgated under the Securities Act of 1933. <TABLE> <CAPTION> INDEX <S> <C> Table 1 Average Balances, Income/Expenses and Average Rates Table 2 Rate/Volume Variance Table 3 Analysis of Allowance for Loan Losses Table 4 Allocation of Allowance for Loan Losses Table 5 Loan Portfolio Table 6 Maturity Schedule of Selected Loans Table 7 Non-Performing Assets Table 8 Maturity Distribution and Yields of Securities Table 9 Deposits and Rates Paid Table 10 Maturities of Certificates of Deposit of $100,000 and More Table 11 Risk Based Capital Ratios Table 12 Interest Rate Sensitivity Schedule </TABLE> 4
<TABLE> Table 1 - Average Balances, Income/Expenses and Average Rates (In Thousands) (Fully Taxable Equivalent) <CAPTION> 2001 2000 --------------------------------- --------------------------------- Average Income/ Average Average Income/ Average Balances Expense Rate Balances Expense Rate --------- --------- --------- --------- --------- --------- <S><C> ASSETS: Loans Taxable $156,194 $ 12,243 7.84% $132,647 $11,020 8.31% Tax-exempt (1) 1,365 103 7.55% 1,557 118 7.58% --------- --------- --------- --------- Total Loans $157,559 $ 12,346 7.84% $134,204 $11,138 8.30% --------- --------- --------- --------- Securities Taxable $ 27,121 $ 1,715 6.32% $ 27,694 $ 1,743 6.29% Tax-Exempt (1) 10,843 707 6.52% 11,171 735 6.58% --------- --------- --------- --------- Total Securities $ 37,964 $ 2,422 6.38% $ 38,865 $ 2,478 6.38% --------- --------- --------- --------- Deposits in banks $ 80 $ 3 3.75% $ 30 $ 2 6.67% --------- --------- --------- --------- Federal funds sold $ 555 $ 18 3.24% $ 224 $ 14 6.25% --------- --------- --------- --------- Total Earning Assets $196,158 $ 14,789 7.54% $173,323 $ 13,632 7.87% ========= ========= Less: Reserve for loan losses (1,499) (1,230) Cash and due from banks 7,997 5,845 Bank premises and equipment, net 5,113 4,254 Other assets 4,074 3,755 --------- --------- Total Assets $211,843 $185,947 ========= ========= LIABILITIES AND SHAREHOLDERS' EQUITY: Deposits Demand deposits $ 30,462 $ 0 $ 25,067 $ 0 --------- --------- --------- --------- NOW accounts $ 26,387 $ 225 0.85% $ 21,472 $ 279 1.30% Money market accounts 22,690 545 2.40% 18,255 533 2.92% Savings accounts 16,956 302 1.78% 15,453 344 2.23% Time deposits 81,026 4,382 5.41% 76,003 4,185 5.51% --------- --------- --------- --------- Total Interest- Bearing Deposits $147,059 $ 5,454 3.71% $131,183 $ 5,341 4.07% Fed funds purchased and securities sold under agreements to repurchase 6,252 238 3.81% $ 5,324 308 5.79% Federal Home Loan Bank advances 6,493 321 4.94% $ 5,000 251 5.02% --------- --------- --------- --------- Total Interest- Bearing Liabilities $159,804 $ 6,013 3.76% $141,507 $ 5,900 4.17% --------- ========= --------- ========= Other Liabilities $ 1,272 $ 1,145 --------- --------- Shareholders' Equity $ 20,305 $ 18,228 --------- --------- Total Liabilities & Shareholders' Equity $211,843 $185,947 ========= ========= Net interest spread 3.78% 3.70% Interest expense as a percent of average earning assets 3.07% 3.40% Net interest margin 4.47% 4.46% (1) Income and rates on tax-exempt assets are computed on a tax equivalent basis using a federal tax rate of 34%. </TABLE> <TABLE> <CAPTION> Table 1 - Average Balances, Income/Expenses and Average Rates (In Thousands) (Fully Taxable Equivalent) (continued) 1999 --------------------------------- Average Income/ Average Balances Expense Rate --------- --------- --------- <S> <C> ASSETS: Loans Taxable $ 105,663 $ 8,601 8.14% Tax-exempt (1) 1,427 103 7.22% --------- --------- Total Loans $ 107,090 $ 8,704 8.13% --------- --------- Securities Taxable $ 30,555 $ 1,863 6.10% Tax-Exempt (1) 10,911 708 6.49% --------- --------- Total Securities $ 41,466 $ 2,571 6.20% --------- --------- Deposits in banks $ 38 $ 1 2.63% --------- --------- Federal funds sold $ 217 $ 15 6.91% --------- --------- Total Earning Assets $ 148,811 $ 11,291 7.59% ========= Less: Reserve for loan losses (987) Cash and due from banks 5,845 Bank premises and equipment, net 4,024 Other assets 3,307 --------- Total Assets $ 161,000 ========= LIABILITIES AND SHAREHOLDERS' EQUITY: Deposits Demand deposits $ 22,343 $ 0 --------- --------- NOW accounts $ 19,120 $ 330 1.73% Money market accounts 19,460 568 2.92% Savings accounts 15,178 339 2.23% Time deposits 57,383 2,768 4.82% --------- --------- Total Interest- Bearing Deposits $111,141 $ 4,005 3.60% Fed funds purchased and securities sold under agreements to repurchase 4,754 230 4.84% Federal Home Loan Bank advances 5,000 250 5.00% --------- --------- Total Interest- Bearing Liabilities $120,895 $ 4,485 3.71% --------- ========= Other Liabilities $ 1,050 --------- Shareholders' Equity $ 16,712 --------- Total Liabilities & Shareholders' Equity $161,000 ========= Net interest spread 3.88% Interest expense as a percent of average earning assets 3.01% Net interest margin 4.57% (1) Income and rates on tax-exempt assets are computed on a tax equivalent basis using a federal tax rate of 34%. </TABLE> 5
Table 2 - Rate/Volume Variance (In Thousands) <TABLE> <CAPTION> 2001 Compared to 2000 2000 Compared to 1999 -------------------------------------------------------------------- Due to Due to Due to Due to Change Volume Rate Change Volume Rate -------- -------- -------- -------- -------- -------- <S><C> INTEREST INCOME: Loans; taxable $ 1,223 $ 1,795 $ (572) $ 2,419 $ 2,236 $ 183 Loans; tax-exempt (15) (15) 0 15 10 5 Securities; taxable (28) (36) 8 (120) (180) 60 Securities; tax-exempt (28) (21) (7) 27 17 10 Deposits in banks 1 1 0 1 1 0 Federal funds sold 4 6 (2) (1) 1 (2) -------- -------- -------- -------- -------- -------- Total Interest Income $ 1,157 $ 1,730 ($573) $ 2,341 $2,085 $ 256 -------- -------- -------- -------- -------- -------- INTEREST EXPENSE: NOW accounts $ (54) $105 ($159) $ (51) $ 50 $ (101) Money market accounts 12 45 (33) (35) (35) 0 Savings accounts (42) 39 (81) 5 5 0 Time deposits 197 272 (75) 1,417 983 434 Federal funds purchased and securities sold under agreements to repurchase (70) 73 (143) 78 30 48 Federal Home Loan Bank advances 70 74 (4) 1 0 1 -------- -------- -------- -------- -------- -------- Total Interest Expense $ 113 $ 608 $ (495) $ 1,415 $ 1,033 $ 382 -------- -------- -------- -------- -------- -------- Net Interest Income $ 1,044 $ 1,122 $ (78) $ 926 $1,052 $ (126) -------- -------- -------- -------- -------- -------- </TABLE> 6
Table 3 - Analysis of Allowance for Loans Losses (In Thousands) <TABLE> <CAPTION> Year Ended December 31 -------------------------------------------------- 2001 2000 1999 1998 1997 ------ ------ ------ ------ ------ <S><C> Allowance for Loan Losses, January 1 $1,340 $1,123 $ 925 $ 749 $ 914 ------ ------ ------ ------ ------ Loans Charged-Off: Commercial, financial and agricultural $ 7 $ 35 $ 73 $ 1 $ 4 Real estate-construction and development 0 0 0 0 0 Real estate-mortgage 139 3 27 7 42 Consumer 205 133 137 286 640 ------ ------ ------ ------ ------ Total Loans Charged-Off $ 351 $ 171 $ 237 $ 294 $ 686 ------ ------ ------ ------ ------ Recoveries: Commercial, financial and agricultural $ 0 $ 0 $ 0 $ 0 $ 1 Real estate-construction and development 0 0 0 0 0 Real estate-mortgage 5 3 1 4 4 Consumer 90 35 99 94 39 ------ ------ ------ ------ ------ Total Recoveries $ 95 $ 38 $ 100 $ 98 $ 44 ------ ------ ------ ------ ------ Net Charge-Offs $ 256 $ 133 $ 137 $ 196 $ 642 ------ ------ ------ ------ ------ Provision for Loan Losses $ 713 $ 350 $ 335 $ 372 $ 477 ------ ------ ------ ------ ------ Allowance for Loan Losses, December 31 $1,797 $1,340 $1,123 $ 925 $ 749 ====== ====== ====== ====== ====== Ratio of Net Charge-Offs to Average Loans: 0.16% 0.10% 0.13% 0.23% 0.77% ====== ====== ====== ====== ====== </TABLE> 7
Table 4 - Allocation of Allowance for Loan Losses (In Thousands) <TABLE> <CAPTION> 2001 2000 1999 ---------------------- ---------------------- ---------------------- Allowance Percentage Allowance Percentage Allowance Percentage for Loan of Total for Loan of Total for Loan of Total Losses Loans Losses Loans Losses Loans ---------- ---------- ---------- ---------- ---------- ---------- <S> <C> Commercial, financial, and agricultural $ 594 8.5% $ 446 9.0% $ 374 9.5% Real Estate: mortgage 304 77.1% 224 77.8% 187 78.7% Consumer 899 14.4% 670 13.2% 562 11.8% ---------- ---------- ---------- $ 1,797 $ 1,340 $ 1,123 ========== ========== ========== </TABLE> 8
Table 5 - Loan Portfolio (In Thousands) <TABLE> <CAPTION> December 31 ---------------------------------------------------------- 2001 2000 1999 1998 1997 ---------- ---------- ---------- ---------- ---------- <S><C> Loans secured by real estate: Construction and land development $ 10,383 $ 4,396 $ 4,138 $ 2,168 $ 588 Secured by farmland 4,778 5,109 6,057 3,565 3,700 Secured by 1-4 family residential properties 93,042 75,809 64,566 51,444 44,863 Secured by nonfarm, nonresidential properties 30,295 25,217 23,457 16,902 11,141 Loans to farmers (except those secured by real estate) 1,002 656 495 745 770 Commercial and industrial loans (except those secured by real estate) 13,912 10,749 9,952 6,463 5,116 Consumer installment loans (except those secured by real estate) 25,909 18,749 14,745 13,603 14,458 All other loans 350 1,372 1,445 1,193 1,251 ---------- ---------- ---------- ---------- ---------- Total loans 179,671 142,057 124,855 96,083 81,887 Less: Unearned discount (2) (8) (37) (150) (462) ---------- ---------- ---------- ---------- ---------- Total Loans, Net $ 179,669 $ 142,049 $ 124,818 $ 95,933 $ 81,425 ========== ========== ========== ========== ========== </TABLE> 9
Table 6 - Maturity Schedule of Selected Loans (In Thousands) <TABLE> <CAPTION> After 1 Year Within Within After 1 Year 5 Years 5 Years Total --------- --------- --------- --------- <S><C> Loans secured by real estate $ 26,461 $ 80,178 $ 31,859 $ 138,498 Loans to farmers 447 501 54 1,002 Commercial and industrial loans 6,159 7,296 457 13,912 Consumer installment loans 3,078 20,999 1,830 25,907 All other loans 334 16 0 350 --------- --------- --------- --------- $ 36,479 $ 108,990 $ 34,200 $ 179,669 ========= ========= ========= ========= For maturities over one year: Floating rate loans $ 6,887 $ 10,897 $ 17,784 Fixed rate loans 102,103 23,303 125,406 --------- --------- --------- $ 108,990 $ 34,200 $ 143,190 ========= ========= ========= </TABLE> 10
Table 7 - Non-Performing Assets (In Thousands) <TABLE> <CAPTION> December 31, ------------------------------------------ 2001 2000 1999 1998 1997 ------ ------ ------ ------ ------ <S><C> Nonaccrual loans $2,029 $ 0 $ 156 $ 227 $ 437 Restructured loans 0 0 0 0 0 Other real estate owned 0 0 109 0 190 ------ ------ ------ ------ ------ Total Non-Performing Assets $2,029 $ 0 $ 265 $ 227 $ 627 ====== ====== ====== ====== ====== Loans past due 90 days accruing interest $ 8 $ 47 $ 642 $ 372 $ 614 ====== ====== ====== ====== ====== Allowance for loan losses to period end loans 1.00% 0.94% 0.90% 0.96% 0.92% Non-performing assets to period end loans and other real estate owned 1.13% 0.00% 0.21% 0.24% 0.77% </TABLE> The amount of gross interest income that would have been recorded during the periods if the non-accrual loans had been current in accordance with their original terms is incorporated by reference to Note 4 of the Consolidated Financial Statements which are contained herein` as Exhibit 99.1. A discussion of the Company's policy for placing loans on non-accrual status is incorporated by reference to Note 1 of the Consolidated Financial Statements which are contained herein as Exhibit 99.1. 11
<TABLE> Table 8 - Maturity Distribution and Yields of Securities (In Thousands) <CAPTION> Due in one year Due after 1 Due after 5 or less through 5 years through 10 years ----------------- ----------------- ----------------- Amount Yield Amount Yield Amount Yield ------- ----- ------- ----- ------- ----- <S><C> Securities held to maturity: U.S. Treasury securities $ 0 0.00% $ 0 0.00% $ 122 7.63% Obligations of U.S. government corporations and agencies 1,000 6.41% 999 5.21% 0 0.00% Mortgage-backed securities 0 0.00% 1,588 6.45% 1,754 6.02% Obligations of states and political subdivisions, taxable 850 6.43% 2,583 6.07% 229 6.28% ------- ------- ------- Total taxable 1,850 5,170 2,105 Obligations of states and political subdivisions, tax-exempt (1) 680 7.07% 4,122 6.28% 3,881 6.40% ------- ------- ------- Total $ 2,530 $ 9,292 $ 5,986 ------- ------- ------- Securities available for sale: Obligations of U.S. government corporations and agencies $ 511 6.38% $ 1,504 4.59% $ 0 0.00% Mortgage-backed securities 0 0.00% 1,257 6.08% 797 7.31% Corporate securities 0 0.00% 6,501 6.71% 2,610 6.56% Other taxable securities 0 0.00% 0 0.00% 0 0.00% ------- ------- ------- Total taxable $ 511 $ 9,262 $ 3,407 ------- ------- ------- Obligations of states and Political subdivisions, tax-exempt (1) 0 0.00% 0 0.00% 1,545 7.37% ------- ------- ------- Total $ 511 $ 9,262 $ 4,952 ------- ------- ------- Total securities: $ 3,041 $18,554 $10,938 ======= ======= ======= (1) Yields on tax-exempt securities have been computed on a tax-equivalent basis using a federal tax rate of 34%. </TABLE> Table 8 - Maturity Distribution and Yields of Securities (In Thousands) (continued) <TABLE> <CAPTION> Due after 10 years and Equity Securities Total ----------------- ----------------- Amount Yield Amount Yield ------- ----- ------- ----- <S><C> Securities held to maturity: U.S. Treasury securities $ 0 0.00% $ 122 7.63% Obligations of U.S. government corporations and agencies 0 0.00% 1,999 5.81% Mortgage-backed securities 2,042 6.21% 5,384 6.22% Obligations of states and political subdivisions, taxable 0 0.00% 3,662 6.17% ------- ------- Total taxable 2,042 11,167 Obligations of states and political subdivisions, tax-exempt (1) 410 6.44% 9,093 6.40% ------- ------- Total $ 2,452 $20,260 ------- ------- Securities available for sale: Obligations of U.S. government corporations and agencies $ 0 0.00% $ 2,015 5.04% Mortgage-backed securities 0 0.00% 2,054 6.55% Corporate securities 790 9.80% 9,901 6.91% Other taxable securities 1,198 6.66% 1,198 6.66% ------- ------- Total taxable $ 1,988 $15,168 ------- ------- Obligations of state and Political subdivisions Tax-exempt 0 0.00% 1,545 7.37% ------- ------- Total $ 1,988 $16,713 ------- ------- Total securities: $ 4,440 $36,973 ======= ======= (1) Yields on tax-exempt securities have been computed on a tax-equivalent basis using a federal tax rate of 34%. </TABLE> 12
Table 9 - Deposits and Rates Paid (In Thousands) <TABLE> <CAPTION> December 31 -------------------------------------------------------------- 2001 2000 1999 ------------------ ------------------ ------------------ Amount Rate Amount Rate Amount Rate --------- ------ --------- ------ --------- ------ <S><C> Noninterest-bearing $ 36,719 $ 28,189 $ 22,883 --------- --------- --------- Interest-bearing: NOW accounts 31,041 0.85& 23,487 1.30% 20,267 1.73% Money market accounts 33,475 2.40% 18,032 2.92% 19,384 2.92% Regular savings accounts 19,081 1.78% 15,181 2.23% 15,494 2.23% Certificates of deposit: Less than $100,000 51,335 5.82% 56,319 5.38% 48,820 4.82% $100,000 and more 25,698 4.67% 26,849 5.80% 22,040 4.78% --------- --------- --------- Total interest-bearing $ 160,630 3.71% $ 139,868 4.07% $ 126,005 3.60% --------- --------- --------- Total deposits $ 197,349 $ 168,057 $ 148,888 ========= ========= ========= </TABLE> 13
<TABLE> Table 10 - Maturities of Certificates of Deposit and Other Time Deposits of $100,000 and More (In Thousands) <CAPTION> Within Three to Six to One to Over Three Six Twelve Five Five Months Months Months Years Years Total -------- -------- -------- -------- -------- -------- <S><C> At December 31, 2001 $ 15,864 $ 6,130 $ 2,989 $ 715 $ 0 $ 25,698 ======== ======== ======== ======== ======== ======== </TABLE> 14
Table 11 - Risk Based Capital Ratios (In Thousands) <TABLE> <CAPTION> December 31 ------------------------ 2001 2000 ---------- ---------- <S><C> Tier 1 Capital: Shareholders' Equity $ 20,836 $ 18,736 Tier 2 Capital: Allowable Allowance for Loan Losses 1,797 1,340 ---------- ---------- Total Capital: $ 22,633 $ 20,076 ========== ========== Risk Weighted Assets: $ 173,952 $ 134,219 ========== ========== Risk Based Capital Ratios: Tier 1 to Risk Weighted Assets 11.98% 13.96% Total Capital to Risk Weighted Assets 13.01% 14.96% </TABLE> 15
<TABLE> Table 12 - Interest Rate Sensitivity Schedule (In Thousands) <CAPTION> December 31, 2001 ------------------------------------------------------------------- Mature or Reprice Within ------------------------------------------------------------------- Over Three Months Over Three Through One Year Over Months Twelve To Five Five Or Less Months Years Years Total ----------- ----------- ----------- ----------- ----------- <S><C> INTEREST-EARNING ASSETS: Loans (net of unearned income) $ 43,929 $ 10,335 $ 102,102 $ 23,303 $ 179,669 Securities and other interest-earning assets 960 2,644 18,100 15,304 37,008 ----------- ----------- ----------- ----------- ----------- Total interest-earning assets $ 44,889 $ 12,979 $ 120,202 $ 38,607 $ 216,677 ----------- ----------- ----------- ----------- ----------- INTEREST-BEARING LIABILITIES: Certificates of deposit: $100,000 and more $ 15,864 $ 9,119 $ 715 $ 0 $ 25,698 less than $100,000 22,346 21,464 7,511 14 51,335 Other deposits 83,597 0 0 0 83,597 Federal funds purchased and securities sold under agreements to repurchase 7,817 0 0 0 7,817 Federal Home Loan Bank advances 0 0 $ 10,000 0 10,000 ----------- ----------- ----------- ----------- ----------- Total interest-bearing liabilities $ 129,624 $ 30,583 $ 18,226 $ 14 $ 178,447 ----------- ----------- ----------- ----------- ----------- Interest sensitivity gap: Asset sensitive (Liability sensitive) $ (84,735) $ (17,604) $ 101,976 $ 38,593 $ 38,230 =========== =========== =========== =========== =========== Cumulative interest rate gap: $ (84,735) $ (102,339) $ (363) $ 38,230 =========== =========== =========== =========== Ratio of cumulative gap to total interest earning assets: -39.11% -47.23% -0.17% 17.64% =========== =========== =========== =========== </TABLE> 16
Item 2. Properties. The present headquarters building of the Registrant and the Bank, which is owned, was substantially enlarged and remodeled in 1983-84 and again in 1993. The building now consists of a two-story building of brick construction, with approximately 20,000 square feet of floor space located at 2 East Main Street, Berryville, Virginia. This office has seven teller stations in the lobby, a remote drive-through facility with a walk-up window, and a 24 hour automated teller machine. The Bank also owns and operates branch offices at 108 West Main Street, Boyce, Virginia, 1508 Senseny Road, Winchester, Virginia, 40 West Piccadilly Street, Wincheter, Virginia, and 382 Fairfax Pike, Stephens City, Virginia. The Bank also operates a leased branch at 625 East Jubal Early Drive, Winchester, Virginia. Another branch located at 1460 North Frederick Pike, Winchester, Virginia is currently under construction and should open in April 2002. The Bank owns a 1.5 acre parcel of land located adjacent to the Food Lion grocery store in Berryville, Virginia on Route 340. A branch will be constructed on this site in the future. The Bank also owns a building at 18 North Church Street in Berryville for future expansion. This site is currently leased and used for offices. Item 3. Legal Proceedings. There are no material pending legal proceedings against the Registrant or the Bank and no material proceedings to which any director, officer or affiliate of the Registrant, any beneficial owner of more than 5% of the Common Stock of the Registrant, or any associate of such director, officer or affiliate of the Registrant, is a party adverse to the Registrant or the Bank or has a material interest adverse to the Registrant or the Bank. Item 4. Submission of Matters to a Vote of Security Holders. No matters were submitted to a vote of security holders through the solicitation of proxies or otherwise during the fourth quarter of the fiscal year covered by this report. 17
PART II Item 5. Market for Registrant's Common Equity and Related Shareholder Matters. The Common Stock of the Registrant is not listed for trading on a registered exchange or any automated quotation system. Accordingly, there is no established public trading market for shares of the Registrant's Common Stock. Trades in shares of the Registrant's Common Stock occur sporadically on a local basis. Based on information available to the Registrant concerning such trading, the following table shows the trading ranges of the Common Stock of the Registrant and dividends for the periods indicated. <TABLE> <CAPTION> 2001 2000 1999 Dividends Per Share --------------------------------------------------------------------------- High Low High Low High Low 2001 2000 1999 --------------------------------------------------------------------------- <S><C> 1st Quarter $25.50 $24.00 $29.00 $27.50 $28.00 $27.00 $0.13 $0.11 $0.09 2nd Quarter 25.00 23.00 28.00 25.50 29.00 28.00 0.13 0.11 0.09 3rd Quarter 24.00 23.85 25.50 25.00 28.00 28.00 0.14 0.12 0.10 4th Quarter 24.00 23.50 26.00 25.00 29.00 28.00 0.15 0.12 0.10 </TABLE> The Company's dividend policy was changed during 1997 to pay quarterly dividends beginning February 15, 1997. The company has paid quarterly dividends during each of years after the policy change. The Registrant's future dividends will depend upon its earnings and financial condition and upon other factors not presently determinable. It is anticipated that the Registrant will obtain the funds needed for the payment of its dividends and expenses from the Bank in the form of dividends. There were 1,248 holders of record of the Registrant's Common Stock as of March 18, 2002. 18
Item 6. Selected Financial Data. The following Selected Financial Data for the five fiscal years ended December 31, 2001 should be read in conjunction with Item 7, Management's Discussion and Analysis of Financial Condition and Results of Operations and the Financial Statements of the Registrant incorporated by reference in response to Item 8, Financial Statements and Supplementary Data. <TABLE> <CAPTION> Year Ended December 31 ------------------------------------------------------------------------ 2001 2000 1999 1998 1997 Income Statement Data: ------------ ------------ ------------ ------------ ------------ <S><C> Interest Income $ 14,514,207 $ 13,342,966 $ 11,014,989 $ 9,746,590 $ 9,310,237 Interest Expense 6,012,603 5,899,537 4,485,143 4,204,254 3,904,197 ------------ ------------ ------------ ------------ ------------ Net Interest Income $ 8,501,604 $ 7,443,429 $ 6,529,846 $ 5,542,336 $ 5,406,040 Provision for Loan Losses 712,500 350,000 335,000 371,886 476,667 ------------ ------------ ------------ ------------ ------------ Net Interest Income after Provision for Loan Losses $ 7,789,104 $ 7,093,429 $ 6,194,846 $ 5,170,450 $ 4,929,373 Noninterest Income 2,983,504 2,175,228 2,024,649 1,707,712 1,245,781 ------------ ------------ ------------ ------------ ------------ Net Revenue $ 10,772,608 $ 9,268,657 $ 8,219,495 $ 6,878,162 $ 6,175,154 Noninterest Expenses 7,375,872 6,576,135 5,982,827 5,099,167 4,690,999 ------------ ------------ ------------ ------------ ------------ Income before Income Taxes $ 3,396,736 $ 2,692,522 $ 2,236,668 $ 1,778,995 $ 1,484,155 Applicable Income Taxes 952,044 677,696 551,538 470,190 372,143 ------------ ------------ ------------ ------------ ------------ Net Income $ 2,444,692 $ 2,014,826 $ 1,685,130 $ 1,308,805 $ 1,112,012 ============ ============ ============ ============ ============ Performance Ratios: Return on Average Assets 1.15% 1.08% 1.05% 0.94% 0.87% Return on Average Equity 12.04% 11.05% 10.08% 8.42% 7.59% Shareholders' Equity to Assets 9.04% 9.82% 9.79% 10.58% 11.30% Dividend Payout Ratio 32.62% 32.81% 32.06% 35.60% 40.38% Per Share Data: Net Income, basic and diluted $ 1.68 $ 1.40 $ 1.18 $ 0.93 $ 0.79 Cash Dividends Declared 0.55 0.46 0.38 0.33 0.32 Book Value 14.69 13.33 12.19 11.42 10.69 Market Price * 24.00 25.50 29.00 27.00 24.00 Average Shares Outstanding 1,452,416 1,439,129 1,423,312 1,413,172 1,404,645 Balance Sheet Data: Assets $237,641,939 $196,133,288 $178,377,761 $153,124,559 $133,239,401 Loans 179,668,892 142,049,516 124,817,215 95,933,498 81,425,186 Securities 36,972,829 37,918,656 40,587,858 43,081,952 37,418,780 Deposits 197,348,451 168,056,776 148,888,478 130,209,888 117,079,355 Shareholders' Equity 21,472,707 19,265,486 17,460,848 16,193,501 15,058,115 * The Company issues one class of stock, Common, which is not listed for trading on a registered exchange or quoted on the National Association of Securities Dealers Automated Quotation System (NASDAQ). Trades in the Company's stock occur sporadically on a local basis. Accordingly, there is no established public trade market for shares of the Company's stock, and quotations do not necessarily reflect the price that would be paid in an active and liquid market. </TABLE> 19
Item 7. Management's Discussion and Analysis of Financial Condition and Results of Operation. The purpose of this discussion is to focus on the important factors affecting the Company's financial condition and results of operations. This discussion should be read in conjunction with the Selected Financial Data and the Company's Consolidated Financial Statements (including the notes thereto). The Company's Form 10-K may be obtained from the S.E.C.'s EDGAR database on the internet or by request from the Company's transfer agent. OVERVIEW During 2001 total assets of the company increased $41.5 million or 21.16% from $196.1 million at December 31, 2000 to $237.6 million at December 31, 2001. Loan growth was funded through an increase in total deposits and Federal Home Loan Bank advances. Net loans increased $37.2 million or 26.41% from $140.7 million to $177.9 million at year-end 2000 and 2001, respectively. Securities decreased $0.9 million or 2.49% from $37.9 million to $37.0 million at year-end 2000 and 2001, respectively. Total deposits of the Company increased from $168.1 million to $197.3 million, which represents an increase of $29.2 million or 17.43% from December 31, 2000 to December 31, 2001. Shareholders' equity increased $2.2 million or 11.46% during 2001 from $19.3 million to $21.5 million. For the year ended December 31, 2001, net income totaled $2.4 million, a $0.4 million or 21.34% increase over 2000 net income of $2.0 million. Net income for 1999 was $1.7 million. Earnings per share was $1.68, $1.40 and $1.18 for 2001, 2000 and 1999, respectively. This is a $0.22 or 18.64% increase in 2000 and a $0.28 or 20.00% increase for 2001. Return on average equity for 2001 was 12.04% as compared to 11.05% for 2000 and 10.08% in 1999. Return on average assets for 2001 was 1.15% as compared to 1.08% for 2000 and 1.05% for 1999. 20
NET INTEREST INCOME AND NET INTEREST MARGIN Net interest income, the difference between total interest income and total interest expense, is the Company's primary source of earnings. Net interest income increased $1.1 million or 14.22% in 2001 and increased $0.9 million or 13.99% in 2000 from $6.5 million in 1999, $7.4 million in 2000 and $8.5 million in 2001. The amount of net interest income is derived from the volume of earning assets, the rates earned on those assets, and the cost of funds. The difference between rates on earning assets and the cost of funds is measured by the net interest margin, which decreased from 4.57% in 1999 to 4.46% in 2000, then increased slightly to 4.47% in 2001. Earning assets yielded 7.54% on a tax-equivalent basis in 2001 as compared to 7.87% in 2000 and 7.59% in 1999. The average rate on total loans decreased from 8.30% in 2000 to 7.84% in 2001, as compared to 8.13% in 1999. The total tax-equivalent interest earned on loans for 2001 was $12.3 million as compared to $11.1 million in 2000 and $8.7 million for 1999. Average loans increased $23.4 million or 17.44% from $134.2 million in 2000 to $157.6 million in 2001 as compared to an increase of $27.1 million or 25.30% for 2000 from $107.1 million in 1999. The total tax-equivalent interest earned on securities was $2.6 million, $2.5 million, and $2.4 million for 1999, 2000, and 2001, respectively. This represents a decrease of $0.1 million or 3.85% in 2000 and a decrease of $0.1 million or 4.00% in 2001. The average balance of securities decreased by $0.9 million or 2.31% in 2001 and decreased $2.6 million or 6.27% in 2000 from $41.5 million, $38.9 million and $38.0 million in 1999, 2000 and 2001, respectively. The average rate on securities increased from 6.20% in 1999 to 6.38% for 2000 and remained unchanged at 6.38% for 2001. Interest expense increased from $4.5 million in 1999 to $5.9 million in 2000 and $6.0 million in 2001. This represents an increase of $1.4 million or 31.54% in 2000 and $0.1 million or 1.92% in 2001. The average balance of interest-bearing liabilities increased by $18.3 million or 12.93% from $141.5 million in 2000 to $159.8 million in 2001 as compared to an increase of $20.6 million or 17.04% for 2000 from $120.9 million in 1999. The average rate on interest-bearing liabilities increased from 3.71% in 1999 to 4.17% in 2000, then decreased to 3.76% in 2001. Interest expense as a percent of average earning assets increased from 3.01% in 1999 to 3.40% in 2000, then decreased to 3.07% in 2001. Net interest spread decreased from 3.88% in 1999 to 3.70% in 2000, then increased to 3.78% in 2001. 21
PROVISION AND ALLOWANCE FOR LOAN LOSSES The provision for loan losses is based upon management's estimate of the amount required to maintain an adequate allowance for loan losses reflective of the risks in the loan portfolio. The provision for loan losses increased $362,500 for 2001 from $350,000 during 2000 to $712,500 during 2001 as compared to an increase of $15,000 for 2000 from $335,000 during 1999. The ratio of net charge-offs to average loans was 0.16% for 2001 as compared to 0.10% in 2000 and 0.13% in 1999. The allowance for loan losses as a percentage of loans increased from 0.90% at the end of 1999 to 0.94% at the end of 2000 and 1.00% at the end of 2001. Charged-off loans were $237,301, $170,518 and $350,540 for 1999, 2000 and 2001, respectively. Recoveries were $99,746, $37,988 and $95,217 for 1999, 2000 and 2001, respectively. Net charge-offs were $137,555, $132,530 and $255,323 for 1999, 2000 and 2001, respectively. The allowance for loan losses at year-end covered net charge-offs during the year by 8.16 times for 1999, 10.11 times for 2000 and 7.04 times for 2001. The Company reviews the adequacy of the allowance for loan losses monthly and utilizes the results of these evaluations to establish the provision for loan losses. The allowance is maintained at a level believed by management to absorb potential losses in the loan portfolio. The methods utilized consider specific identifications, specific and estimate pools, trends in delinquencies, local and regional economic trends, concentrations, commitments, off balance sheet exposure and other factors. 22
NONINTEREST INCOME AND EXPENSES Total noninterest income increased $0.8 million or 37.16% from $2.2 million in 2000 to $3.0 million in 2001 and increased $0.2 million or 7.44% in 2000 from $2.0 million in 1999. Service charges on deposit accounts were $657,956, $742,026 and $924,846 in 1999, 2000 and 2001, respectively. This represents an increase of $84,070 or 12.78% from 1999 to 2000 and an increase of $182,820 or 24.64% from 2000 to 2001. The increase in 2001 can be attributed to an increase in the number of deposit accounts and changes in the fee schedule for demand and savings accounts. The increase in 2000 can be attributed to an increased volume of transactions which are service charged and a change in the service charge schedule on commercial deposit accounts. Other service charges and fees were $861,849, $964,223 and $1,317,379 in 1999, 2000 and 2001, respectively. This represents an increase of $102,374 or 11.88% from 1999 to 2000 and $353,156 or 36.63% from 2000 to 2001. The increase during 2001 can be attributed to an increase in commissions received from the sale of non-deposit investment products through Eagle Investment Services, fees generated from the origination of mortgage loans for the secondary market, and fees generated from the Bank's ATM/debit card and credit card products. The increase during 2000 can be attributed to an increase in commissions received from the sale of non-deposit investment products and fees generated from the Bank's ATM/debit card and credit card products. Total noninterest expenses were $5,982,827, $6,576,135 and $7,375,872 in 1999, 2000 and 2001, respectively. This represents an increase of $593,308 or 9.92% from 1999 to 2000 and an increase of $799,737 or 12.16% from 2000 to 2001. Salaries and employee benefits increased $582,282 or 16.29% from $3,575,431 in 2000 to $4,157,713 in 2001 as compared to an increase of $420,211 or 13.32% in 2000 from $3,155,220 in 1999. The increases in 2000 and 2001 for salaries and employee benefits can be attributed to annual salary adjustments and the hiring of additional personnel to accommodate the continued growth of the Company. Occupancy expenses decreased $82,486 or 16.07% from $513,400 in 2000 to $430,914 in 2001 as compared to an increase of $81,525 or 18.88% in 2000 from $431,875 in 1999. Equipment expenses increased $51,087 or 8.08% from $632,097 in 2000 to $683,184 in 2001 as compared to an increase of $71,856 or 12.83% in 2000 from $560,241 in 1999. The increase during 2001 can be attributed to software installations and upgrades and the increase during 2000 can be attributed to the implementation of check imaging. The efficiency ratio of the Company, a measure of its performance based upon the relationship between noninterest expenses and operating income, was 67.76% in 1999, 66.37% in 2000 and 63.15% in 2001. This decrease in the efficiency ratio can be attributed to the percentage increase in tax-equivalent net interest income and noninterest income being greater than the percentage increase in noninterest expenses. It is management's objective to maintain an efficiency ratio at or below 65.00% for the Company. 23
INCOME TAXES Income tax expense was $952,044, $677,696, $551,538 for the years ended December 31, 2001, 2000 and 1999, respectively. The increase in income tax expense can be attributed to increased taxable earnings at the federal statutory income tax rate of 34%. These amounts correspond to an effective tax rate of 28.03%, 25.17% and 24.66% for 2001, 2000 and 1999, respectively. Note 7 to the Consolidated Financial Statements provides a reconciliation between income tax expense computed using the federal statutory income tax rate and the Company's actual income tax expense. In addition, Note 7 to the Consolidated Financial Statements provides information regarding the principal items giving rise to deferred taxes for 2001 and 2000. 24
LOAN PORTFOLIO The Company uses its funds primarily to support lending activities from which it derives the greatest amount of interest income. Traditionally the company invested 70% to 85% of total deposits in loans, however, alternative funding sources, such as Federal Home Loan Bank advances, will allow this ratio to approach 100% of total deposits. Nonetheless, this ratio is still calculated and monitored as part of management's overall risk assessment. The ratio of loans to deposits increased 6.52% and 0.69% in 2001 and 2000, respectively, from 83.83% in 1999 to 84.52% in 2000 and 91.04% in 2001. Loans, net of unearned income increased $37.7 million or 26.48% from $142.0 million at year-end 2000 to $179.7 million at year-end 2001 as compared to an increase of $17.2 million or 13.81% for 2000 from $124.8 million at year-end 1999. The loan portfolio consists primarily of loans for owner-occupied single family dwellings, loans to acquire consumer products such as automobiles, and loans to small farms and businesses. Loans secured by real estate were $138.5 million or 77.08% of total loans in 2001 and $110.5 million or 77.81% of total loans in 2000 which represents an increase of $28.0 million or 25.30% during the year. These loans are well-secured and based on conservative appraisals in a stable market. The Company generally does not make real estate loans outside its primary market area which consists of Clarke and Frederick Counties and the City of Winchester, all of which are located in the Northern Shenandoah Valley in the state of Virginia. 25
RISK ELEMENTS AND NON-PERFORMING ASSETS Non-performing assets consist of nonaccrual loans, restructured loans, and other real estate owned (foreclosed properties). Total non-performing assets were $2,029,379 and $265,365 as of December 31, 2001 and 1999, respectively. There were no non-performing assets as of December 31, 2000. The $2,029,379 in non-performing assets as of December 31, 2001 is comprised entirely of nonaccrual loans. These loans are secured by real estate and the Company does not anticipate a material loss on the disposition of the collateral. The ratio of non-performing assets to loans and other real estate owned was 1.13%, 0.00% and 0.21% as of December 31, 2001, 2000 and 1999,respectively. Total loans past due 90 days or more and still accruing interest were $642,299, $46,713 and $7,827 at December 31, 1999, 2000 and 2001, respectively. This is a decrease of $595,586 or 92.73% from 1999 to 2000 and a decrease of $38,886 or 83.24% from 2000 to 2001. The loans past due 90 days or more and still accruing interest are secured and in the process of collection, therefore, they are not classified as nonaccrual. Any loan over 90 days past due without being in the process of collection or where the collection of its principal or interest is doubtful would be placed on nonaccrual status. Upon being placed on nonaccrual status, accrued interest would be reversed from income and future accruals would be discontinued with interest income being recognized on a cash basis. The amount of potential problem loans decreased $231,409 or 19.16% during 2001 from $1,207,601 to $976,192 as of December 31, 2000 and 2001, respectively. These loans are primarily well-secured and in the process of collection and the allowance for loan losses includes $82,193 in specific allocations for these loans as well as percentage allocations for classified assets without specific allocations. 26
SECURITIES The total amount of securities as of December 31, 2001 was $37.0 million compared to $37.9 million as of December 31, 2000. Securities decreased $0.9 million or 2.49% in 2001 from 2000. The decrease from 2000 to 2001 is due to loan growth using funds which would have otherwise been used to purchase securities. The Company had $20.2 million and $26.3 million in securities classified as held to maturity in 2001 and 2000, respectively. The Company's available for sale securities totaled $16.7 million in 2001 and $11.6 million in 2000. The Company sold $2.6 million in securities during 2001, comprised of obligations of U.S. government corporations and agencies and equity securities. A gross gain of $84,614 was realized from these sales. Generally, the proceeds from the sales were invested in corporate securities which have higher yields and more appropriate terms than the securities which were sold. The Company had an unrealized gain on available for sale securities in the amount of $352,229 at December 31, 2001 as compared to an unrealized gain in the amount of $26,191 at December 31, 2000. This resulted in a total unrealized gain of $326,038 during 2001. This unrealized gain can be attributed to changes in interest rates during 2001 and the purchase of securities whose values increased during the year. Unrealized gains or losses on available for sale securities are reported within shareholders' equity, net of the related deferred tax effect, as accumulated other comprehensive income. 27
DEPOSITS Total deposits increased $29.2 million or 17.43% from $168.1 million in 2000 to $197.3 million in 2001. Noninterest bearing demand deposits increased $8.5 million or 30.26% from $28.2 million in 2000 to $36.7 million in 2001. Savings and interest bearing demand deposits increased $26.9 million or 47.44% from $56.7 million in 2000 to $83.6 million in 2001. Time deposits decreased $6.2 million or 7.38% from $83.2 million in 2000 to $77.0 million in 2001. The decrease in time deposits and increase in savings and interest bearing demand deposits can be attributed to the migration of maturing certificates of deposit into accessible accounts without fixed terms. The Company attempts to fund asset growth with deposit accounts and focus upon core deposit growth as its primary source funding. Core deposits consist of demand deposits, interest-bearing demand deposits, money market accounts, savings accounts, and time deposits of less than $100,000. Core deposits totaled $171.7 million or 86.98% of total deposits in 2001 as compared to $141.2 million or 84.02% of total deposits in 2000. Certificates of deposit of $100,000 or more totaled $25.7 million or 13.02% of total deposits in 2001 as compared to $26.8 million or 15.98% of total deposits in 2000. Although allowed by policy, the Company has not utilized brokered certificates of deposits as a source of funding. Also, the Company does not solicit deposits from outside of its primary market area. 28
CAPITAL RESOURCES The Company continues to be a well capitalized financial institution. Total shareholders' equity on December 31, 2001 was $21.5 million, reflecting a percentage of total assets of 9.04%, as compared to $19.3 million and 9.82% at year-end 2000. Shareholders' equity per share increased $1.36 or 10.20% from $13.33 per share in 2000 to $14.69 per share in 2001. The return on average shareholders' equity increased from 11.05% in 2000 to 12.04% in 2001. During 2001 the Company paid $0.55 per share in dividends as compared to $0.46 per share in 2000. The Company has a Dividend Investment Plan that reinvests the dividends of the shareholder in Company stock. Federal regulatory risk-based capital guidelines require percentages to be applied to various assets, including off-balance sheet assets, based on their perceived risk in order to calculate risk-weighted assets. Tier I capital consists of total shareholders' equity less net unrealized gains and losses on available for sale securities and goodwill and other intangible assets. Total capital is comprised of Tier I capital plus the allowable portion of the allowance for loan losses. Financial institutions must maintain a Tier I risk-based capital ratio of at least 4% and a total risk-based capital ratio of at least 8%. Additionally, they must maintain a minimum Tier I leverage ratio of 4%. On December 31, 2001, the Company's Tier I risk-based capital ratio was 11.98% compared to 13.96% in 2000, the total risk-based capital ratio was 13.01% compared to 14.96% in 2000 and the leverage ratio was 9.07% compared to 9.66% in 2000. See Note 12 to the Consolidated Financial Statements as of December 31, 2001 for additional discussion and analysis of regulatory capital requirements. 29
LIQUIDITY AND MARKET RISK Liquidity management involves meeting the present and future financial obligations of the Company with the sale or maturity of assets or with the occurrence of additional liabilities. Liquidity needs are met with cash on hand, deposits in banks, federal funds sold, securities classified as available for sale and loans maturing within one year. At December 31, 2001, liquid assets totaled $64.3 million as compared to $47.5 million at year-end 2000. These amounts represent 29.75% for 2001 and 26.85% for 2000, of total liabilities. The Company minimizes liquidity demand by utilizing core deposits to fund asset growth. Securities provide a constant source of liquidity through paydowns and maturities. Also, the Company maintains short-term borrowing arrangements, namely federal funds lines of credit, with larger financial institutions as an additional source of liquidity. Finally, the Bank's membership with the Federal Home Loan Bank of Atlanta provides a source of borrowings with numerous rate and term structures. The Company's senior management monitors the liquidity position regularly and attempts to maintain a position which utilizes available funds most efficiently. As the holding company of Bank of Clarke County, the Company's primary component of market risk is interest rate volatility. Fluctuations in interest rates will impact the amount of interest income and expense the Bank receives or pays on almost all of its assets and liabilities and the market value of its interest-earning assets and interest-bearing liabilities, excluding those which have a very short term until maturity. Interest rate risk exposure of the Company is, therefore, experienced at the Bank level. Asset / liability management attempts to maximize the net interest income of the Company by adjusting the volume and price of rate sensitive assets and liabilities. The Bank does not subject itself to foreign currency exchange or commodity price risk due to prohibition through policy and the current nature of operations. As of December 31, 2001, the Company did not have any hedging transactions in place such as interest rate swaps, floors or caps. The Bank's interest rate management strategy is designed to maximize net interest income and preserve the capital of the Company. The following paragraphs provide the results from various simulations that the Bank's financial instruments are periodically subjected to. These models are based on actual data from the bank's financial statements and assumptions about the performance of certain financial instruments. Prepayment assumptions are applied to all mortgage related assets, which includes real estate loans and mortgage-backed securities. Prepayment assumptions are based on a median rate at which principal payments are received on these assets over their contractual term. The rate of principal payback is assumed to increase when rates fall and decrease when rates rise. Term assumptions are applied to nonmaturity deposits, which includes demand deposits, NOW accounts, savings accounts, and money market accounts. Demand deposits, NOW accounts, and savings accounts are generally assumed to have a term greater than one year since the total amount outstanding does not fluctuate with changes in interest rates. Money market accounts are assumed to be more interest rate sensitive, therefore, a majority of the amount outstanding is assumed to have a term of less than one year. The Bank uses interest rate sensitivity analysis which uses the term to maturity or repricing for rate sensitive assets and liabilities to measure how well they match. Differences in the terms of rate sensitive assets and liabilities create gaps, which are analyzed for each term segment and analyzed cumulatively. Management focuses on the static 1-year cumulative gap to measure its short-term sensitivity position. The Company had negative static 1-year cumulative gaps of 25.87% and 19.42% of total rate sensitive assets at December 31, 2001 and 2000, respectively. The negative gap indicates a liability sensitive position, which is expected by management since deposits have relatively short terms with most having a variable rate and loans have longer terms with most having a fixed rate. Because this analysis is only a general indication of the Bank's interest rate sensitivity and is based on the balance sheet's composition at a single point of time, no policy limits are established with regard to the negative static 1-year cumulative gap. The Bank also measures the change in net income assuming rates would increase or decrease by 2.00%. If rates decreased by 2.00%, net income would have increased by 1.61% in 2000 and 10.06% in 2001 as compared to net income in a stable rate environment. Conversely, if rates increased by 2.00%, net income would have decreased by 3.39% in 2000 and 10.62% in 2001 as compared to net income in a stable rate environment. These results, like interest rate sensitivity analysis, indicate that the Bank is liability sensitive due to the percentage change in net income being larger when rates increase by 2.00%. Overall changes in the economy with regards to interest rates and changes in the balance sheet's structure have increased the volatility of net income in the simulation from 2000 to 2001. Finally, the Bank measures the change in present value of its balance sheet assuming rates would increase or decrease by 2.00%. This simulation applies these rate changes to the net present value of the balance sheet which is derived by subtracting the net present value of liabilities from the net present value of assets. If rates decreased by 2.00%, the net present value of the balance sheet would have increased by 7.33% in 2000 and decreased by 6.66% in 2001. Conversely, if rates increased by 2.00%, the net present value of the balance sheet would have decreased by 12.53% in 2000 and 10.05% in 2001. This simulation confirms the Bank's liability sensitive position since the net present value of the balance sheet changes by a greater percentage in a rising rate environment for 2000 and 2001. 30
RECENT ACCOUNTING PRONOUNCEMENTS In July, 2001, the Financial Accounting Standards Board issued two statements - Statement 141, "Business Combinations", and Statement 142, "Goodwill and Other Intangible Assets", which will potentially impact the accounting for goodwill and other intangible assets. Statement 141 eliminates the pooling method of accounting for business combinations and requires that intangible assets that meet certain criteria be reported separately from goodwill. The Statement also requires negative goodwill arising from a business combination to be recorded as an extraordinary gain. Statement 142 eliminates the amortization of goodwill and other intangibles that are determined to have an indefinite life. The Statement requires, at a minimum, annual impairment tests for goodwill and other intangible assets that are determined to have an indefinite life. Upon adoption of these Statements, an organization is required to reevaluate goodwill and other intangible assets that arose from business combinations entered into before July 1, 2001. If the recorded other intangible assets do not meet the criteria for recognition, they should be classified as goodwill. Similarly, if there are other intangible assets that meet the criteria for recognition but were not separately recorded from goodwill, they should be reclassified from goodwill. An organization also must reassess the useful lives of intangible assets and adjust the remaining amortization periods accordingly. Any negative goodwill must be written-off. The standards generally require implementation by the Company in its 2002 financial statements. The adoption of these standards will not have a material impact on the financial statements. In June 2001, the Financial Accounting Standards Board issued Statement 143, "Accounting for Asset Retirement Obligations." This Statement addresses financial accounting and reporting for obligations associated with the retirement of tangible long-lived assets and associated retirement costs. It requires that the fair value of a liability for an asset retirement obligation be recognized in the period in which it is incurred and the associated asset retirement costs be capitalized as part of the carrying amount of the long-lived asset. This Statement is effective for financial statements issued for fiscal years beginning after June 15, 2002. The Statement is not expected to have a material effect on the Company's financial statements. In August 2001, the Financial Accounting Standards Board issued Statement 144, "Accounting for the Impairment or Disposal of Long-Lived Assets." The Statement addresses financial accounting and reporting for the impairment or disposal of long-lived assets. It also establishes a single accounting model for long-lived assets to be disposed of by sale, which includes long-lived assets that are part of a discontinued operation. This Statement is effective for financial statements issued for fiscal years and interim periods beginning after December 15, 2001. The Statement is not expected to have a material effect on the Company's financial statements 31
FORWARD LOOKING STATEMENTS Certain statements contained in this annual report that are not historical facts may be forward looking statements. The forward looking statements are subject to certain risks and uncertainties which could cause actual results to differ materially from historical or expected results. Readers are cautioned not to place undue reliance on these forward looking statements. 32
Item 7A. Quantitative and Qualitative Disclosures about Market Risk The information required by Part II, Item 7A., is incorporated herein by reference to the section titled LIQUIDITY AND MARKET RISK within Part II, Item 7 "Management's Discussion and Analysis of Financial Condition and Results of Operation." Item 8. Financial Statements and Supplementary Data Pursuant to General Instruction G(2) information required by this Item is incorporated by reference to Part IV, Item 14. Item 9. Changes In and Disagreements With Accountants on Accounting and Financial Disclosure. None. 33
PART III Item 10. Directors and Executive Officers of the Registrant. The information required by Part III, Item 10., is incorporated herein by reference to the Company's proxy statement, dated March 29, 2002, for the Company's 2002 Annual Meeting of Shareholders to be held April 17, 2002. Item 11. Executive Compensation. The information required by Part III, Item 11., is incorporated herein by reference to the Company's proxy statement, dated March 29, 2002, for the Company's 2002 Annual Meeting of Shareholders to be held April 17, 2002. Item 12. Security Ownership of Certain Beneficial Owners and Management. The information required by Part III, Item 12., is incorporated herein by reference to the Company's proxy statement, dated March 29, 2002, for the Company's 2002 Annual Meeting of Shareholders to be held April 17, 2002. Item 13. Certain Relationships and Related Transactions. The information required by Part III, Item 13., is incorporated herein by reference to the Company's proxy statement, dated March 29, 2002, for the Company's 2002 Annual Meeting of Shareholders to be held April 17, 2002. 34
PART IV Item 14. Exhibits, Financial Statement Schedules, and Reports on Form 8-K. (a) The following documents are filed or incorporated by reference as part of this report on Form 10-K. (1) Financial Statements Financial statements of the registrant for the fiscal year ended December 31, 2001 are incorporated herein by reference to Exhibit 99.1. (2) Financial Statement Schedules All financial statement schedules are omitted because of the absence of conditions under which they are required or because the required information is given in the financial statements or notes thereto. (3) Exhibits The following exhibits, when applicable, are filed with this Form 10-K or incorporated by reference to previous filings. Number Description --------- ----------------------------------------- Exhibit 2. Not applicable. Exhibit 3. (i) Articles of Incorporation of Registrant (incorporated herein by reference to Exhibit 3.1 of Registrant's Form S-4 Registration Statement, Registration No. 33-43681.) (ii) Bylaws of Registrant (incorporated herein by reference to Exhibit 3.2 of Registrant's Form S-4 Registration Statement, Registration No. 33-43681) Exhibit 4. Not applicable. Exhibit 9. Not applicable. Exhibit 10. Material Contracts. 10.1 Description of Executive Supplemental Income Plan (incorporated by reference to Exhibit 10.1 to the Company's Annual Report on Form 10-K for the year ended December 31, 1996). 10.2 Lease Agreement between Bank of Clarke County (tenant) and Winchester Development Company (landlord) dated August 1, 1992 for the branch office at 625 East Jubal Early Drive, Winchester, Virginia (incorporated herein by reference to Exhibit 10.2 of the Company's Annual Report on Form 10-K for the year ended December 31, 1995). 10.3 Lease Agreement between Bank of Clarke County (tenant) and Winchester Real Estate Management, Inc. (landlord) dated March 20, 2000 for the branch office at 190 Campus Boulevard, Suite 120, Winchester, Virginia (incorporated herein by reference to Exhibit 10.5 of the Company's Quarterly Report on Form 10-Q for the quarter ended March 31, 2000). Exhibit 11. Computation of Per Share Earnings (incorporated herein as Exhibit 11). Exhibit 12. Not applicable. Exhibit 13. Portions of the 2000 Annual Report to Shareholders for the year ended December 31, 2000 (filed herein). Exhibit 16. Not applicable. Exhibit 18. Not applicable. Exhibit 21. Subsidiaries of the Registrant (incorporated herein as Exhibit 21). Exhibit 22. Not applicable. Exhibit 23. Not applicable. Exhibit 24. Not applicable. Exhibit 99. Additional Exhibits 99.1 The following consolidated financial statements of the Company including the related notes and the report of the independent auditors for the year ended December 31, 2000 (incorporated herein as Exhibit 99.1). 1. Independent Auditor's Report. 2. Consolidated Balance Sheets - At December 31, 2001 and 2000. 3. Consolidated Statements of Income - Years ended December 31, 2001, 2000, and 1999. 4. Consolidated Statements of Changes in Shareholders' Equity - Years ended December 31, 2001, 2000, and 1999. 5. Consolidated Statements of Cash Flows - Years ended December 31, 2001, 2000, and 1999. 6. Notes to Consolidated Financial Statements. (b) Reports on Form 8-K. No reports on Form 8-K were filed by the registrant during the fourth quarter of 2001. 35
SIGNATURES Pursuant to the requirements of Section 13 or 15(d) of the Securities Exchange Act of 1934, the Registrant has duly caused this report to be signed on its behalf by the undersigned, thereunto duly authorized, this 29th day of March, 2002. Eagle Financial Services, Inc. By: /s/ JOHN R. MILLESON --------------------------------- John R. Milleson, President & CEO Pursuant to the requirements of the Securities Exchange Act of 1934, this report has been signed below by the following persons on behalf of the registrant and in the capacities and on the dates indicated. <TABLE> <S><C> /s/ JOHN R. MILLESON President, Chief Executive March 29, 2002 - ------------------------- Officer, and Director John R. Milleson (principal executive officer) /s/ JAMES W. MCCARTY, JR. Vice President, Chief March 29, 2002 - ------------------------- Financial Officer, and James W. McCarty, Jr. Secretary/Treasurer (principal financial officer) /s/ JOHN D. HARDESTY Chairman of the Board March 29, 2002 - ------------------------- and Director John D. Hardesty /s/ LEWIS M. EWING Director March 29, 2002 - ------------------------- Lewis M. Ewing Director March 29, 2002 - ------------------------- Marilyn C. Beck /s/ THOMAS T. BYRD Director March 29, 2002 - ------------------------- Thomas T. Byrd /s/ THOMAS T. GILPIN Director March 29, 2002 - ------------------------- Thomas T. Gilpin /s/ MARY BRUCE GLAIZE Director March 29, 2002 - ------------------------- Mary Bruce Glaize /s/ ROBERT W. SMALLEY, JR. Director March 29, 2002 - ------------------------- Robert W. Smalley, Jr. Director March 29, 2002 - ------------------------- Randall G. Vinson /s/ JAMES T. VICKERS Director March 29, 2002 - ------------------------- James T. Vickers /s/ JAMES R. WILKINS, JR. Director March 29, 2002 - ------------------------- James R. Wilkins, Jr. </TABLE> 36
EAGLE FINANCIAL SERVICES, INC. EXHIBIT INDEX TO FORM 10-K FOR THE FISCAL YEAR ENDED DECEMBER 31, 2001 EXHIBIT NUMBER DESCRIPTION -------------- ---------------------------------------- 11 Computation of Per Share Earnings . 21 Subsidiaries of the Registrant. 99.1 The following consolidated financial statements of the Company including the related notes and the report of the independent auditors for the year ended December 31, 2001. 1. Independent Auditor's Report. 2. Consolidated Balance Sheets - At December 31, 2001 and 2000. 3. Consolidated Statements of Income - Years ended December 31, 2001, 2000, and 1999. 4. Consolidated Statements of Changes in Shareholders' Equity Years ended December 31, 2001, 2000, and 1999. 5. Consolidated Statements of Cash Flows Years ended December 31, 2001, 2000, and 1999. 6. Notes to Consolidated Financial Statements. 37