Form 10-K for the fiscal year ended December 31, 2007

 

 

UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

WASHINGTON, DC 20549

 

 

FORM 10-K

 

 

 

x ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

For the fiscal year ended December 31, 2007

or

 

¨ TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

For the transition period from              to             

Commission file number: 000-25221

 

 

CITIZENS HOLDING COMPANY

(Exact Name of Registrant as Specified in Its Charter)

 

 

 

MISSISSIPPI   64-0666512
(State or Other Jurisdiction of
Incorporation or Organization)
  (I.R.S. Employer
Identification Number)
521 Main Street, Philadelphia, MS   39350
(Address of Principal Executive Offices)   (Zip Code)

Registrant’s Telephone Number, Including Area Code: 601-656-4692

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

 

Title of Each Class    Name of Each Exchange on Which Registered
Common Stock, $.20 par value    The NASDAQ Global Market

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  ¨    NO  x

Indicate by check mark if the registrant is not required to file reports pursuant to Section 13 or Section 15(d) of the Exchange Act.    YES  ¨    NO  x


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 disclosure of delinquent filers pursuant to Item 405 of Regulation S-K is not contained herein, and will not be contained, to the best of registrant’s knowledge, in definitive proxy or information statements incorporated by reference in Part III of this Form 10-K or any amendment to this Form 10-K.    x

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, or a non-accelerated filer. See definition of “accelerated filer and large accelerated filer” in Rule 12b-2 of the Exchange Act.

 

Large accelerated filer  ¨

   Accelerated filer  x

Non-accelerated filer  ¨

   Smaller Reporting Company  ¨

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act).    YES  ¨    NO  x

As of June 30, 2007, the aggregate market value of the registrant’s common stock, $.20 par value, held by non-affiliates of the registrant was $93,552,732 based on the closing sale price as reported on the NASDAQ Global Market for such date (the exchange on which the registrant’s common stock was listed on June 30, 2007).

Indicate the number of shares outstanding of each of the registrant’s classes of common stock, as of the latest practicable date.

 

Class    Outstanding at March 7, 2008
Common stock, $.20 par value    4,866,342 Shares

DOCUMENTS INCORPORATED BY REFERENCE

Portions of Citizens Holding Company’s Annual Report to Shareholders for the fiscal year ended December 31, 2007 are incorporated by reference into Part II of this Annual Report on Form 10-K.

Portions of Citizens Holding Company’s definitive proxy statement with respect to its 2008 Annual Meeting of Shareholders are incorporated by reference into Part III of this Annual Report on Form 10-K.


CITIZENS HOLDING COMPANY

FORM 10-K

INDEX

 

          PAGE
   PART I   

ITEM 1.

   BUSINESS    2

ITEM 1A.

   RISK FACTORS    9

ITEM 1B.

   UNRESOLVED STAFF COMMENTS    19

ITEM 2.

   PROPERTIES    19

ITEM 3.

   LEGAL PROCEEDINGS    21

ITEM 4.

   SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS    21
   PART II   

ITEM 5.

   MARKET FOR REGISTRANT’S COMMON EQUITY, RELATED STOCKHOLDER MATTERS AND ISSUER PURCHASES OF EQUITY SECURITIES    22

ITEM 6.

   SELECTED FINANCIAL DATA    22

ITEM 7.

   MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS    22

ITEM 7A.

   QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK    22

ITEM 8.

   FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA    22

ITEM 9.

   CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND FINANCIAL DISCLOSURE    22

ITEM 9A.

   CONTROLS AND PROCEDURES    23

ITEM 9A(T).

   CONTROLS AND PROCEDURES    23

ITEM 9B

   OTHER INFORMATION    23
   PART III   

ITEM 10.

   DIRECTORS, EXECUTIVE OFFICERS AND CORPORATE GOVERNANCE    24

ITEM 11.

   EXECUTIVE COMPENSATION    24

ITEM 12.

   SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT AND RELATED STOCKHOLDER MATTERS    24

ITEM 13.

   CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS, AND DIRECTOR INDEPENDENCE    25

ITEM 14.

   PRINCIPAL ACCOUNTANT FEES AND SERVICES    25
   PART IV   

ITEM 15.

   EXHIBITS AND FINANCIAL STATEMENT SCHEDULES    26

SIGNATURES

   28


CITIZENS HOLDING COMPANY

FORM 10-K

PART I

In addition to historical information, this report contains statements that constitute forward-looking statements which are based on management’s beliefs, plans, expectations, assumptions and on information currently available to management. The words “may,” “should,” “expect,” “anticipate,” “intend,” “plan,” “continue,” “believe,” “seek,” “estimate” and similar expressions used in this report that do not relate to historical facts are intended to identify forward-looking statements. These statements appear in a number of places in this report, including, but not limited to, statements found in Item 1, “Business,” and in Item 7, “Management’s Discussion and Analysis of Financial Condition and Results of Operations.” Citizens Holding Company (the “Company”) notes that a variety of factors could cause its actual results or experience to differ materially from the anticipated results or other expectations described or implied by such forward-looking statements. The risks and uncertainties that may affect the operation, performance, development and results of the business of the Company and the Company’s wholly-owned subsidiary, The Citizens Bank of Philadelphia, Mississippi (the “Bank”), include, but are not limited to, the following:

 

   

the risk of adverse changes in business conditions in the banking industry generally and in the specific markets in which the Company operates;

 

   

changes in the legislative and regulatory environment that negatively impact the Company and the Bank through increased operating expenses;

 

   

increased competition from other financial institutions;

 

   

the impact of technological advances;

 

   

expectations about the movement of interest rates, including actions that may be taken by the Federal Reserve Board in response to changing economic conditions;

 

   

changes in asset quality and loan demand;

 

   

expectations about overall economic strength and the performance of the economy in the Company’s market area; and

 

   

other risks detailed from time to time in the Company’s filings with the Securities and Exchange Commission.

The Company does not undertake any obligation to update or revise any forward-looking statements subsequent to the date on which they are made. Please also refer to Item 1A, “Risk Factors,” for a detailed discussion of the risks related to the Company and the Bank in particular and the banking industry generally.

Except as otherwise indicated herein, the information presented in this Annual Report on Form 10-K is as of March 7, 2008.


ITEM 1. BUSINESS

BACKGROUND

The Company is a one-bank holding company incorporated under the laws of Mississippi on February 16, 1982, at the direction of the Board of Directors of the Bank in order to facilitate the Bank’s adoption of a one-bank holding company structure. The Company held 97.86% of the outstanding shares of the Bank on December 31, 2006. On December 19, 2006, the shareholders of the Bank approved a one-for-one thousand (1 for 1,000) reverse stock split. Holders of fractional shares of Bank stock after the reverse stock split received cash for such fractional shares. As a result of the reverse stock split, which was effective on January 2, 2007, the Company became the sole shareholder of the Bank.

The Bank was opened on February 8, 1908 as The First National Bank of Philadelphia. In 1917, the Bank surrendered its national charter and obtained a state charter, at which time the name of the Bank was changed to The Citizens Bank of Philadelphia, Mississippi. At December 31, 2007, the Bank was the largest bank headquartered in Neshoba County, Mississippi, with total assets of $680,720,600 and total deposits of $478,083,238. For more information regarding the assets, revenue and profits of the Company, refer to the Consolidated Financial Statements of the Company contained in Item 8, “Financial Statements and Supplementary Data.”

The principal executive offices of both the Company and the Bank are located at 521 Main Street, Philadelphia, Mississippi 39350, and the main telephone number is (601) 656-4692. All references hereinafter to the activities or operations of the Company reflect the Company’s activities or operations through the Bank.

OPERATIONS

Through its ownership of the Bank, the Company engages in a wide range of commercial and personal banking activities, including accepting demand deposits, savings and time deposit accounts, making secured and unsecured loans, issuing letters of credit, originating mortgage loans, and providing personal and corporate trust services. The Company also provides certain services that are closely related to commercial banking such as credit life insurance and title insurance for its loan customers.

Revenues from the Company’s lending activities constitute the largest component of the Company’s operating revenues. Revenue from loan interest and fees made up 63.2% of gross revenues in 2007, 67.8% in 2006 and 68.2% in 2005. Such lending activities include commercial, real estate, installment (direct and indirect) and credit card loans. The Company’s primary lending area is East Central Mississippi, specifically Neshoba, Newton, Leake, Scott, Attala, Lauderdale, Oktibbeha, Winston and Kemper counties and contiguous counties. On a very limited basis, the Company extends out-of-area credit only to borrowers who are considered to be low risk. The Company is not dependent upon any single customer or small group of customers, and it has no foreign operations.

The Company’s nine county market area is mainly rural, with Meridian, population 41,036, being the largest city. Agriculture and some light industry comprise a significant portion of the economy of this area. The largest employer in the Company’s service area is the Mississippi Band of Choctaw Indians. Their schools, manufacturing plants and their main source of income, The Pearl River Resort (the “Resort”), generate a significant number of jobs in the area. The Resort and its related services employ approximately 5,000 people within the Company’s market area.

 

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The Company has historically made, and intends to continue to make, most types of real estate loans, including, but not limited to, single and multi-family housing, farm, residential and commercial construction and commercial real estate loans. Historically, approximately 73.6% of the Company’s loan portfolio has been attributed to real estate lending. Another 11.2% of the Company’s loan portfolio is comprised of commercial, industrial and agricultural production loans. Consumer loans make up the remaining 15.2% of the total loan portfolio.

The Company’s loan personnel have the authority to extend credit under guidelines established and approved by the Company’s Board of Directors. Any aggregate credit that exceeds the authority of the loan officer is forwarded to the Board’s loan committee for approval. The loan committee is composed of various Company directors, including the Chairman of the Board. All aggregate credits that exceed the loan committee’s lending authority are presented to the full Board of Directors for ultimate approval or denial. The loan committee not only acts as an approval body to ensure consistent application of the Company’s loan policies, but also provides valuable insight through the communication and pooling of knowledge, judgment and experience of its members.

All loans in the Company’s portfolio are subject to risk based on the state of both the local and national economy. However, because the Company’s local economy in the past few years has been strong, with unemployment at historic lows, and is projected to remain strong in the near future, management believes that general risk levels are low.

In addition to lending services, the Company provides limited trust services. The Company serves as custodian of cemetery upkeep funds and insurance trusts. The Company also offers discount brokerage services through a networking agreement with First Tennessee Bank.

Through such innovations as its VISA Checkcard program, the 24 Hour Phone Teller and the Bank’s Internet site (http://www.thecitizensbankphila.com), the Company’s customers have easy and convenient access to their funds and account balances 24 hours a day, 7 days a week. Additionally, the Internet site enables Bank customers to review their accounts in detail, make transfers between their accounts and pay bills from anywhere in the world.

EXECUTIVE OFFICERS OF THE REGISTRANT

Greg L. McKee, 46, has been employed by the Bank since 1984. He was named President and Chief Executive Officer of the Company and Chief Executive Officer of the Bank in January 2003. He has served as President of the Bank since January 2002 and served as Chief Operating Officer of the Bank from January 2002 until December 31, 2002. He has also been a member of the Board of Directors of both the Company and the Bank since 2001. Mr. McKee served as Executive Vice-President of the Bank from 2001 to 2002, Senior Vice-President of the Bank from 2000 to 2001, Vice-President of the Bank from 1992 to 2000, Assistant Vice-President of the Bank from 1989 to 1992, and Assistant Cashier of the Bank from 1984 to 1989.

Robert T. Smith, 56, has been employed by the Bank since 1986. He has served as Senior Vice-President and Chief Financial Officer of the Bank since January 2001. Prior to January 2001, Mr. Smith held the title of Vice-President and Controller of the Bank from 1987 until 2001 and Assistant Vice-President of the Bank from 1986 to 1987. In addition to his position with the Bank, Mr. Smith has served as Treasurer of the Company since February 1996 and Treasurer and Chief Financial Officer since January 2001.

 

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EMPLOYEES

The Company has no employees other than three Bank officers who provide services to the Company. These officers receive no compensation from the Company for their services to it as their entire salary is paid by the Bank. At December 31, 2007, the Bank employed 231 full-time employees and 48 part-time employees. The Bank is not a party to any collective bargaining agreements, and employee relations are considered to be good.

SUPERVISION AND REGULATION

The Bank is chartered under the banking laws of the State of Mississippi and is subject to the supervision of, and is regularly examined by, the Mississippi Department of Banking and Consumer Finance and the Federal Deposit Insurance Corporation (“FDIC”). The Company is a registered bank holding company within the meaning of the Bank Holding Company Act of 1956, as amended (the “BHC Act”), and is subject to the supervision of the Federal Reserve Board (“FRB”). Certain legislation and regulations affecting the businesses of the Company and the Bank are discussed below.

General.

The FRB requires the Company to maintain certain levels of capital and to file an annual report with the FRB. The FRB also has the authority to conduct examinations of the Company and the Bank and to take enforcement action against any bank holding company that engages in any unsafe or unsound practice or that violates certain laws, regulations, or conditions imposed in writing by the FRB.

Capital Standards.

The FRB, FDIC and other federal banking agencies have established risk-based capital adequacy guidelines. These guidelines are intended to provide a measure of a bank’s capital adequacy that reflects the degree of risk associated with a bank’s operations.

A banking organization’s risk-based capital ratios are obtained by dividing its qualifying capital by its total risk-adjusted assets and off-balance sheet items. Since December 31, 1992, the federal banking agencies have required a minimum ratio of qualifying total capital to risk-adjusted assets and off-balance sheet items of 8%, and a minimum ratio of Tier 1 capital to risk-adjusted assets and off-balance sheet items of 4%. At December 31, 2007, the Company’s ratio of qualifying total capital to risk-adjusted assets and off-balance sheet items was 17.06% and its ratio of Tier 1 capital to risk-adjusted assets and off-balance sheet items was 16.07%.

In addition to the risk-based guidelines, federal banking regulators require banking organizations to maintain a minimum amount of Tier 1 capital to total assets, referred to as the leverage ratio. For a banking organization rated in the highest of the five categories used by regulators to rate banking organizations, the minimum leverage ratio of Tier 1 capital to total assets is 3%. The Company’s leverage capital ratio at December 31, 2007 was 9.98%.

 

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Prompt Corrective Action and Other Enforcement Mechanisms.

The Federal Deposit Insurance Corporation Improvement Act of 1991 (“FDICIA”) requires each federal banking agency to take prompt corrective action to resolve the problems of insured depository institutions, including, but not limited to, those that fall below one or more of the prescribed minimum capital ratios. The law requires each federal banking agency to promulgate regulations defining the following five categories in which an insured depository institution will be placed, based on the level of its capital ratios: well capitalized, adequately capitalized, undercapitalized, significantly undercapitalized, and critically undercapitalized. The Company and Bank are classified as well capitalized under the guidelines promulgated by the FRD and the FDIC.

Safety and Soundness Standards.

FDICIA also implemented certain specific restrictions on transactions and required the regulators to adopt overall safety and soundness standards for depository institutions related to internal control, loan underwriting and documentation, and asset growth. Among other things, FDICIA limits the interest rates paid on deposits by undercapitalized institutions, the use of brokered deposits and the aggregate extension of credit by a depository institution to an executive officer, director, principal shareholder or related interest, and reduces deposit insurance coverage for deposits offered by undercapitalized institutions and for deposits by certain employee benefits accounts.

Restrictions on Dividends and Other Distributions.

The Company’s ability to pay dividends depends in large part on the ability of the Bank to pay dividends to the Company. The power of the board of directors of an insured depository institution to declare a cash dividend or other distribution with respect to capital is subject to federal statutory and regulatory restrictions, which limit the amount available for such distribution depending upon the earnings, financial condition and cash needs of the institution, as well as general business conditions.

The approval of the Mississippi Department of Banking and Consumer Finance is also required prior to the Bank paying dividends. The department’s regulations limit dividends to earned surplus in excess of three times the Bank’s capital stock. At December 31, 2007, the maximum amount available for transfer from the Bank to the Company in the form of a dividend was $66,442,211, or 9.8% of the Bank’s consolidated net assets.

FRB regulations limit the amount the Bank may loan to the Company unless those loans are collateralized by specific obligations. At December 31, 2007, the maximum amount available for transfer from the Bank in the form of cash dividends and loans was $134,532,574, or 19.8% of the Bank’s consolidated net assets. The Bank does not have any outstanding loans with the Company.

FDIC Insurance Assessments.

The FDIC has established several mechanisms to raise funds to protect deposits insured by the Bank Insurance Fund (“BIF”) and the Savings Association Insurance Fund (“SAIF”), both of which are administered by the FDIC. The Bank’s deposits are insured through the BIF, except for those deposits the Bank acquired from the Resolution Trust Corporation in April, 1994. This acquisition consisted of one branch of the former Security Federal Savings and Loan in Kosciusko, Mississippi, and these deposits remain insured through the SAIF.

 

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Deposit insurance premiums for banks and savings associations were increased as a result of The Financial Institutions Reform, Recovery and Enforcement Act of 1989. Losses incurred by the FDIC in connection with the default or assistance of troubled federally insured financial institutions are required to be reimbursed by other federally insured financial institutions.

Other BHC Act Provisions.

The BHC Act requires a bank holding company to obtain the prior approval of the FRB before acquiring direct or indirect ownership or control of more than 5% of the voting shares of any bank that is not already majority-owned by such bank holding company. The BHC Act provides that the FRB shall not approve any acquisition, merger or consolidation that would result in a monopoly or that would be in furtherance of any combination or conspiracy to monopolize or attempt to monopolize the business of banking. The FRB also will not approve any other transactions in which the effect might be to substantially lessen competition or in any manner be a restraint on trade, unless the anti-competitive effects of the proposed transaction are clearly outweighed by the public interest in the probable effect of the transaction in meeting the convenience and needs of the community to be served.

The BHC Act also prohibits a bank holding company, with certain exceptions, from engaging in or from acquiring direct or indirect control of more than 5% of the voting shares of any company engaged in non-banking activities. The principal exception to this rule is for engaging in or acquiring shares of a company whose activities are found by the FRB to be so closely related to banking or managing banks as to be a proper incident thereto. In making such determinations, the FRB is required to consider whether the performance of such activities by a bank holding company or its subsidiaries can reasonably be expected to produce benefits to the public such as greater convenience, increased competition or gains in efficiency of resources that outweigh the risks of possible adverse effects such as decreased or unfair competition, conflicts of interest or unsound banking practices.

The BHC Act prohibits the acquisition by a bank holding company of more than 5% of the outstanding voting shares of a bank located outside the state in which the operations of its banking subsidiaries are principally conducted, unless such an acquisition is specifically authorized by statute of the state in which the bank to be acquired is located.

The Company and the Bank are subject to certain restrictions imposed by the Federal Reserve Act and the Federal Deposit Insurance Act on any extensions of credit to the Company or the Bank, on investments in the stock or other securities of the Company or the Bank, and on taking such stock or other securities as collateral for loans of any borrower.

The BHC Act was amended in 2000 by the Gramm-Leach-Bliley Financial Services Modernization Act of 1999 to permit “financial holding companies” to engage in a broader range of nonbanking financial activities, such as underwriting and selling insurance, providing financial or investment advice, and dealing and making markets in securities and merchant banking. In order to qualify as a financial holding company, the Company must declare to the FRB its intention to become a financial holding company and certify that the Bank meets the capitalization management requirements and that it has at least a satisfactory rating under the Community Reinvestment Act of 1997, as amended (the “CRA”). To date, we have not elected to become a financial holding company.

 

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Interstate Banking and Branching.

On September 29, 1994, the Riegle-Neal Interstate Banking and Branching Efficiency Act of 1994 (the “Interstate Act”) was signed into law. The Interstate Act effectively permits nationwide banking by removing territorial restrictions on interstate bank mergers.

Interstate branching by merger with, or acquisition or consolidation of, banks located in different states was permitted beginning June 1, 1997, except in states that have passed legislation prior to that date “opting-out” of interstate branching. If a state opted-out prior to June 1, 1997, then banks located in that state can not participate in interstate branching. Effective May 1, 1997, Mississippi “opted in” to the interstate branching provision of the Interstate Act.

Community Reinvestment Act.

The CRA requires the assessment by the appropriate regulatory authority of a financial institution’s record in meeting the credit needs of the local community, including low and moderate-income neighborhoods. The regulations promulgated under CRA emphasize an assessment of actual performance in meeting local credit needs, rather than of the procedures followed by a bank to evaluate compliance with the CRA. CRA compliance is also a factor in evaluations of proposed mergers, acquisitions and applications to open new branches or facilities. Overall CRA compliance is rated across a four-point scale from “outstanding” to “substantial noncompliance.” Different evaluation methods are used depending on the asset size of the bank.

The FDIC examined the Bank on August 17, 2004 and again most recently on August 21, 2007, for its performance under the CRA. The Bank was rated Satisfactory during both of these examinations. No discriminatory practices or illegal discouragement of applications were found.

Anti-Money Laundering Efforts.

The Uniting and Strengthening America by Providing Appropriate Tools Required to Intercept and Obstruct Terrorism Act of 2001 (“USA PATRIOT Act”) requires financial institutions to establish anti-money laundering programs and due diligence policies, procedures and controls with respect to bank accounts involving foreign individuals and certain foreign banks, and to avoid establishing and maintaining accounts in the United States for, or on the behalf of, foreign banks that do not have a physical presence in any country. We believe that we are in compliance with the requirements of the USA PATRIOT Act.

Corporate Governance.

The Sarbanes-Oxley Act of 2002 (“Sarbanes Act”) requires publicly traded companies, such as the Company, to adhere to several directives designed to prevent corporate misconduct. Additional duties have been placed on officers, directors, auditors and attorneys of public companies. The Sarbanes Act requires certifications regarding financial statement accuracy and internal control adequacy by the chief executive officer and the chief financial officer to accompany periodic reports filed with the Securities and Exchange Commission (“SEC”). The Sarbanes Act

 

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also accelerates insider reporting obligations under Section 16 of the Securities Exchange Act of 1934, as amended, restricts certain executive officer and director transactions, imposes new obligations on corporate audit committees and provides for enhanced review by the SEC.

Impact of Monetary Policies.

Banking is a business that substantially depends on interest rate differentials. In general, the difference between the interest paid by a bank on its deposits and other borrowings and the interest rate earned by banks on loans, securities and other interest-earning assets comprises the major source of banks’ earnings. Thus, the earnings and growth of banks are subject to the influence of economic conditions generally, both domestic and foreign, and also to the monetary and fiscal policies of the United States and its agencies including the FRB. The nature and timing of any future changes in such policies and their impact on the Company cannot be predicted.

COMPETITION

The banking business is highly competitive. The Company’s market area consists principally of Neshoba, Newton, Leake, Scott, Attala, Lauderdale, Oktibbeha, Winston and Kemper counties in Mississippi. The Company competes with other financial institutions in these counties and in surrounding counties in Mississippi in obtaining deposits and providing many types of financial services. The Company also competes with larger regional banks for the business of companies located in the Company’s market area.

All financial institutions, including the Company, compete for customers’ deposits. The Company also competes with savings and loan associations, credit unions, production credit associations, federal land banks, finance companies, personal loan companies, money market funds and other non-depository financial intermediaries. Many of these financial institutions have resources many times greater than those of the Company. In addition, new financial intermediaries such as money-market mutual funds and large retailers are not subject to the same regulations and laws that govern the operation of traditional depository institutions. The Company believes it benefits from a good reputation in the community and from the significant length of time it has provided needed banking services to its customers. Also, as a locally owned financial institution, the Company believes it is able to respond to the needs of the community with services tailored to the particular demands of its customers. Furthermore, as a local institution, the Company believes it can provide such services faster than a larger institution not based in the Company’s market area.

Recent changes in federal and state law have resulted in, and are expected to continue to result in, increased competition. The reductions in legal barriers to the acquisition of banks by out-of-state bank holding companies resulting from implementation of the Interstate Act and other recent changes in banking laws and regulations are expected to continue to further stimulate competition in the markets in which the Company operates, although it is not possible to predict the extent or timing of such increased competition.

Currently, there are approximately fourteen different financial institutions in the Company’s market area competing for the same customer base. As of June 30, 2007, the Company’s market share in its market area was approximately 15.5%. The Company competes in its market for loan and deposit products, along with many of the other services required by today’s banking customer, on the basis of availability, quality and pricing. The Company believes it is able to compete favorably in its markets, in terms of both the rates we offer and the level of service that we provide to our customers.

 

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AVAILABILITY OF INFORMATION

The Company’s annual reports on Form 10-K, quarterly reports on Form 10-Q, current reports on Form 8-K and any amendments thereto, along with other information about the Company, are available, free of charge, on our website, http://www.citizensholdingcompany.com. Upon request, the Company will provide to any record holder or beneficial holder of its shares a copy of such reports without charge. Requests should be made to Robert T. Smith, Treasurer and Chief Financial Officer, Citizens Holding Company, 521 Main Street, Philadelphia, Mississippi 39350.

 

ITEM 1A. RISK FACTORS

In addition to the other information contained in or incorporated by reference into this Annual Report on Form 10-K and the exhibits hereto, the following risk factors should be considered carefully in evaluating our business. The risks disclosed below, either alone or in combination, could materially adversely affect the business, financial condition or results of operations of the Company. Additional risks not presently known to us, or that we currently deem immaterial, may also adversely affect our business, financial condition or results of operations.

Risks Related To Our Business and Industry

We are subject to interest rate risk.

Our earnings and cash flows are largely dependent upon the net interest income of the Company. Net interest income is the difference between interest earned on assets, such as loans and securities, and the cost of interest-bearing liabilities, such as deposits and borrowed funds. Interest rates are highly sensitive to many factors that are beyond our control, including general economic conditions and policies of various governmental and regulatory agencies and, in particular, the FRB. Changes in monetary policy, including changes in interest rates, could influence not only the interest we receive on loans and securities and the amount of interest we pay on deposits and borrowings, but such changes could also affect (i) our ability to originate loans and obtain deposits, which could reduce the amount of fee income generated, (ii) the fair value of our financial assets and liabilities, and (iii) the average duration of our mortgage-backed securities portfolio. If the interest rates paid on deposits and other borrowings increase at a faster rate than the interest rates received on loans and other investments, our net interest income could be adversely affected, which in turn could negatively affect our earnings. Earnings could also be adversely affected if the interest rates received on loans and other investments fall more quickly than the interest rates paid on deposits and other borrowings.

Although management believes it has implemented effective asset and liability management strategies to reduce the potential effects of changes in interest rates on the results of operations of the Company, any substantial, unexpected, prolonged change in market interest rates could have a material adverse effect on our financial condition and results of operations. Volatility in interest rates may also result in disintermediation, which is the flow of funds away from financial institutions into direct investments, such as U.S. Government and Agency securities and other

 

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investment vehicles, including mutual funds, which generally pay higher rates of return than financial institutions because of the absence of federal insurance premiums and reserve requirements. Disintermediation could also result in material adverse effects on our financial condition and results of operations.

A discussion of the policies and procedures used to identify, assess and manage certain interest rate risk is set forth in Item 7A, “Qualitative and Quantitative Disclosures about Market Risk.”

We are subject to lending risk.

There are inherent risks associated with our lending activities. These risks include, among other things, the impact of changes in interest rates and changes in the economic conditions in the markets where we operate as well as those across the United States. Increases in interest rates or weakening economic conditions could adversely impact the ability of borrowers to repay outstanding loans or the value of the collateral securing these loans.

As of December 31, 2007, approximately 53% of our loan portfolio consisted of commercial, construction and commercial real estate loans. These types of loans are generally viewed as having more risk of default than residential real estate loans or consumer loans due primarily to the large amounts loaned to individual borrowers. Because the loan portfolio contains a significant number of commercial, construction and commercial real estate loans with relatively large balances, the deterioration of one or a few of these loans could cause a significant increase in non-performing loans. An increase in non-performing loans could result in a net loss of earnings from these loans, an increase in the provision for possible loan losses and an increase in loan charge-offs, all of which could have a material adverse effect on our financial condition and results of operations.

The allowance for possible loan losses may be insufficient.

Although we try to maintain diversification within our loan portfolio in order to minimize the effect of economic conditions within a particular industry, management also maintains an allowance for loan losses, which is a reserve established through a provision for loan losses charged to expense, to absorb probable credit losses inherent in the entire loan portfolio. The appropriate level of the allowance is based on management’s quarterly analysis of the loan portfolio and represents an amount that management deems adequate to provide for inherent losses, including collective impairment. Among other considerations in establishing the allowance for loan losses, management considers economic conditions reflected within industry segments, the unemployment rate in our markets, loan segmentation and historical losses that are inherent in the loan portfolio. The determination of the appropriate level of the allowance for loan losses inherently involves a high degree of subjectivity and requires management to make significant estimates of current credit risks and future trends, all of which may undergo material changes. Changes in economic conditions affecting borrowers, new information regarding existing loans, identification of additional problem loans and other factors, both within and outside of our control, may require an increase in the allowance for loan losses.

 

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In addition, bank regulatory agencies periodically review the allowance for loan losses and may require an increase in the provision for loan losses or the recognition of further loan charge-offs, based on judgments different than those of management. In addition, if charge-offs in future periods exceed the allowance for loan losses, we will need additional provisions to increase the allowance for loan losses. Any increases in the allowance for loan losses will result in a decrease in net income and, possibly, capital, and may have a material adverse effect on our financial condition and results of operations. A discussion of the policies and procedures related to management’s process for determining the appropriate level of the allowance for loan losses is set forth in Item 7, “Management’s Discussion and Analysis of Financial Condition and Results of Operations.”

Bank holding companies depend on the accuracy and completeness of information about customers and counterparties.

In deciding whether to extend credit or enter into other transactions, we often rely on information furnished by or on behalf of customers and counterparties, including financial statements, credit reports and other financial information. We may also rely on representations of those customers, counterparties or other third parties, such as independent auditors, as to the accuracy and completeness of that information. Reliance on inaccurate or misleading financial statements, credit reports or other financial information could have a material adverse impact on our business and, in turn, our financial condition and results of operations.

We are subject to environmental liability risk associated with lending activities.

A significant portion of the loan portfolio is secured by real property. During the ordinary course of business, we may foreclose on and take title to properties securing certain loans. In doing so, there is a risk that hazardous or toxic substances could be found on these properties. If hazardous or toxic substances are found, we may be liable for remediation costs, as well as for personal injury and property damage. Environmental laws may require us to incur substantial expenses and may materially reduce the affected property’s value or limit the ability of the Company to use or sell the affected property. In addition, future laws or more stringent interpretations or enforcement policies with respect to existing laws may increase our exposure to environmental liability. Although management has policies and procedures to perform an environmental review during the loan application process and also before initiating any foreclosure action on real property, these reviews may not be sufficient to detect all potential environmental hazards. The remediation costs and any other financial liabilities associated with an environmental hazard could have a material adverse effect on our financial condition and results of operations.

We are subject to recent downturns and disruptions

In 2007 several downturns and disruptions occurred in markets which are important to our businesses, and similar or additional adverse events may occur in the future. Although those events did not create new types of risks, we believe it is useful to highlight some of the key impacts of those events on our business to illustrate how events beyond our control can adversely affect us.

Some of the significant recent downturns and disruptions relevant to mortgage and related businesses include:

 

   

residential housing values in the US have stagnated or fallen, and in some highly-populated markets values have fallen significantly;

 

11


   

the volume of residential housing transactions also has stagnated or fallen, and in some markets volume has fallen significantly;

 

   

investor demand for mortgage-backed securities fluctuated suddenly and sharply, and for some categories of mortgages disappeared almost entirely;

 

   

except for “conforming loans,” which are loan products conforming to standards of certain government sponsored entities, rates for some types of home mortgage products have risen sharply and some mortgage products, with new and more restrictive credit criteria, have become difficult for borrowers to obtain even at high interest rates, making it difficult or impossible for some borrowers to refinance an existing mortgage;

 

   

many mortgage borrowers in recent years have obtained adjustable-rate products, and it is possible that many will adjust to higher rates, and therefore higher payments, in the near future;

 

   

fear has been expressed by some public officials and others that mortgage-related defaults, foreclosures, and personal bankruptcies have risen and will rise significantly in the future;

 

   

the US Congress and other governmental bodies have considered, and in the future may enact or adopt, new laws and regulations intended to modify the terms of outstanding mortgage loans in a manner benefiting borrowers at the expense of lenders, restrict the ability of lenders to make new loans, and increase the regulatory burdens and legal risks on mortgage lenders and servicers; and

 

   

the Federal Reserve has acted recently to lower certain short-term interest rates, possibly to help ameliorate the impacts of the disruptions in housing and the mortgage industry, which has triggered reductions in the prime lending rates charged by most US banks.

Some of the significant actual and potential impacts of those events on one or more of our businesses include:

 

   

pressures on our liquidity in the mortgage business as investor demand shrank and the securitization markets diminished or, for some products, disappeared;

 

   

significant reduction in our ability to create gains on sale of mortgage loans we originate;

 

   

significant reduction in mortgage origination volume and fees;

 

   

significant increase in delinquencies in some loan products and markets which are related to mortgages and housing;

 

   

significant increase in loan loss provision for loans secured by, or directly related to, mortgages and the housing industry,

 

   

significant increase in costs of servicing mortgages due to increased credit remediation and loss mitigation activity, as well as increased collection and foreclosure activity;

 

12


   

the possibility that falling US prime rates in 2008 could compress our net interest margin; and

 

   

the possibility that, in 2008, adjustable rate HELOC loans that are tied to falling US prime rates could be drawn more fully and could be pre-paid less often so that, in conjunction with falling housing values, the ratio of HELOC loan balances to current actual values may weaken which could, in turn, translate into higher loan losses and higher provisioning for future losses within the HELOC portfolio.

The profitability of the Company depends significantly on economic conditions in the State of Mississippi.

Our success depends primarily on the general economic conditions of the State of Mississippi and the specific local markets in which we operate. Unlike larger national or other regional banks that are more geographically diversified, we provide banking and financial services to customers primarily in East Central Mississippi. The local economic conditions in this area have a significant impact on the demand for our products and services, as well as the ability of our customers to repay loans, the value of the collateral securing loans and the stability of our deposit funding sources.

The earnings of bank holding companies are significantly affected by general business and economic conditions.

In addition to the risks associated with the general economic conditions in the markets in which we operate, our operations and profitability are also impacted by general business and economic conditions in the United States and abroad. These conditions include short-term and long-term interest rates, inflation, money supply, political issues, legislative and regulatory changes, fluctuations in both debt and equity capital markets, broad trends in industry and finance, and the strength of the U.S. economy and the local economies in which we operate, which are all beyond our control. A deterioration in economic conditions could result in an increase in loan delinquencies and non-performing assets, decreases in loan collateral values and a decrease in demand for our products and services, among other things, any of which could have a material adverse impact on our financial condition and results of operations.

We operate in a highly competitive industry and market area.

We face substantial competition in all areas of our operations from a variety of different competitors, many of which are larger and have more financial resources. Such competitors primarily include national, regional and community banks within the various markets in which we operate. We also face competition from many other types of financial institutions, including savings and loans, credit unions, finance companies, brokerage firms, insurance companies, factoring companies and other financial intermediaries. The information under the heading “Competition” in Item 1, “Business,” provides more information regarding the competitive conditions in our markets.

 

13


Our industry could become even more competitive as a result of legislative, regulatory and technological changes and continued consolidation. Banks, securities firms and insurance companies can merge under the umbrella of a financial holding company, which can offer virtually any type of financial service, including banking, securities underwriting, insurance (both agency and underwriting) and merchant banking. Also, technology has lowered barriers to entry and made it possible for non-banks to offer products and services traditionally provided by banks, such as automatic transfer and automatic payment systems. Many of our competitors have fewer regulatory constraints and may have lower cost structures. Additionally, many of our competitors have substantially greater resources than us, including higher total assets and capitalization, greater access to capital markets and a broader offering of financial services.

Our ability to compete successfully depends on a number of factors, including, among other things:

 

   

The ability to develop, maintain and build upon long-term customer relationships based on top quality service, high ethical standards and safe, sound assets.

 

   

The ability to expand the Company’s market position.

 

   

The scope, relevance and pricing of products and services offered to meet customer needs and demands.

 

   

The rate at which we introduce new products and services relative to our competitors.

 

   

Customer satisfaction with our level of service.

 

   

Industry and general economic trends.

Failure to perform in any of these areas could significantly weaken our competitive position, which could adversely affect our growth and profitability, which, in turn, could have a material adverse effect on our financial condition and results of operations.

We are subject to extensive government regulation and supervision.

The Company and the Bank are subject to extensive federal and state regulation and supervision. Banking regulations are primarily intended to protect depositors’ funds, federal deposit insurance funds and the banking system as a whole, and not the economic or other interests of shareholders. These regulations affect our lending practices, capital structure, investment practices, dividend policy and growth, among other things. Changes to statutes, regulations or regulatory policies, including changes in interpretation or implementation of the foregoing, could affect the Company or the Bank in substantial and unpredictable ways. Such changes could subject us to additional costs, limit the types of financial services and products we may offer and/or increase the ability of non-banks to offer competing financial services and products, among other things.

Under regulatory capital adequacy guidelines and other regulatory requirements, the Company and the Bank must meet guidelines that include quantitative measures of assets, liabilities and certain off-balance sheet items, subject to qualitative judgments by regulators about components, risk weightings and other factors. If we fail to meet these minimum capital guidelines and other regulatory requirements, our financial condition would be materially and adversely affected. Our failure to maintain the status of “well capitalized” under our regulatory framework could affect the confidence of our customers in us, thus compromising our competitive position. In addition, failure to maintain the status of “well capitalized” under our regulatory framework or “well managed” under regulatory examination procedures could compromise our status as a bank holding company and related eligibility for a streamlined review process for acquisition proposals.

 

14


We are also subject to laws, regulations and standards relating to corporate governance and public disclosure, including the Sarbanes Act and SEC regulations. These laws, regulations and standards are subject to varying interpretations in many cases, and as a result, their application in practice may evolve over time as guidance is provided by regulatory and governing bodies, which could result in continuing uncertainty regarding compliance matters and higher costs necessitated by ongoing revisions to disclosure and governance practices. We are committed to maintaining high standards of corporate governance and public disclosure. As a result, our efforts to comply with evolving laws, regulations and standards have resulted in, and are likely to continue to result in, increased expenses and a diversion of management time and attention.

Failure to comply with laws, regulations or policies could also result in sanctions by regulatory agencies and/or civil money penalties, which could have a material adverse effect on our business, financial condition and results of operations. While we have policies and procedures designed to prevent any such violations, there can be no assurance that such violations will not occur. The information under the heading “Supervision and Regulation” in Item 1, “Business,” and Note 14, “Regulatory Matters” to the Consolidated Financial Statements of the Company in Item 8, “Financial Statements and Supplementary Data,” provides more information regarding the regulatory environment in which we and our Bank operate.

Our controls and procedures may fail or be circumvented.

Management regularly reviews and updates our internal control over financial reporting, disclosure controls and procedures and corporate governance policies and procedures. Any system of controls, however well designed and operated, has inherent limitations, including the possibility that a control can be circumvented or overridden, and misstatements due to error or fraud may occur and not be detected. Also, because of changes in conditions, internal control effectiveness may vary over time. Accordingly, even an effective system of internal control will provide only reasonable assurance with respect to our adherence to financial reporting, disclosure and corporate governance policies and procedures.

Slower than anticipated growth in new branches and new product and service offerings could result in reduced income.

We have placed a strategic emphasis on expanding our branch network and product offerings. Executing this strategy carries risks of slower than anticipated growth both in new branches and new products. New branches and products require a significant investment of both financial and personnel resources. Lower than expected loan and deposit growth in new investments can decrease anticipated revenues and net income generated by those investments, and opening new branches and introducing new products could result in more additional expenses than anticipated and divert resources from current core operations.

We are substantially dependent on dividends from the Bank for our revenues.

The Company is a separate and distinct legal entity from the Bank, and it receives substantially all of its revenue from dividends from the Bank. These dividends are the principal source of funds to pay dividends on our common stock and interest and principal on debt. Various federal and state laws and regulations limit the amount of dividends that the Bank may pay to the

 

15


Company. In the event the Bank is unable to pay dividends to us, we may not be able to service debt, pay obligations or pay dividends on our common stock. The inability to receive dividends from the Bank could have a material adverse effect on our business, financial condition and results of operations. The information under the heading “Supervision and Regulation” in Item 1, “Business,” provides a discussion about the restrictions governing the Bank’s ability to transfer funds to us.

Potential acquisitions may disrupt our business and dilute shareholder value.

From time to time, we evaluate merger and acquisition opportunities and conduct due diligence activities related to possible transactions with other financial institutions. As a result, merger or acquisition discussions and, in some cases, negotiations may take place, and future mergers or acquisitions involving cash, debt or equity securities may occur at any time. Acquiring other banks, businesses or branches involves various risks commonly associated with acquisitions, including, among other things:

 

   

potential exposure to unknown or contingent liabilities of the target company.

 

   

exposure to potential asset quality issues of the target company.

 

   

difficulty and expense of integrating the operations and personnel of the target company.

 

   

potential disruption to our business.

 

   

potential diversion of management’s time and attention.

 

   

the possible loss of key employees and customers of the target company.

 

   

difficulty in estimating the value of the target company.

 

   

potential changes in banking or tax laws or regulations that may affect the target company.

In addition, acquisitions typically involve the payment of a premium over book and market values, and, therefore, some dilution of our tangible book value and net income per common share may occur in connection with any future transaction. Furthermore, failure to realize the expected revenue increases, cost savings, increases in geographic or product presence, and/or other projected benefits from an acquisition could have a material adverse effect on our financial condition and results of operations.

We may not be able to attract and retain skilled people.

Our success depends in part on our ability to retain key executives and to attract and retain additional qualified personnel who have experience both in sophisticated banking matters and in operating a bank of our size. Competition for such personnel is strong in the banking industry, and we may not be successful in attracting or retaining the personnel we require. The unexpected loss of one or more of our key personnel could have a material adverse impact on our business because of their skills, knowledge of our markets, years of industry experience and the difficulty of promptly finding qualified replacements. We expect to effectively compete in this area by offering financial packages that are competitive within the industry.

 

16


Our information systems may experience an interruption or breach in security.

We rely heavily on communications and information systems to conduct our business. Any failure, interruption or breach in security of these systems could result in failures or disruptions in our customer relationship management, general ledger, deposit, loan and other systems. While we have policies and procedures designed to prevent or limit the effect of the failure, interruption or security breach of our information systems, there can be no assurance that any such failures, interruptions or security breaches will not occur or, if they do occur, that they will be adequately addressed. The occurrence of any failures, interruptions or security breaches of our information systems could damage our reputation, result in a loss of customer business, subject us to additional regulatory scrutiny, or expose us to civil litigation and possible financial liability, any of which could have a material adverse effect on the financial condition and results of operations of the Company.

We continually encounter technological change.

Our industry is continually undergoing rapid technological change with frequent introductions of new technology-driven products and services. The effective use of technology increases efficiency and enables financial institutions to better serve customers and reduce costs. Our future success depends, in part, upon our ability to address the needs of our customers by using technology to provide products and services that will satisfy customer demands, as well as to create additional efficiencies in our operations. Many of our competitors have substantially greater resources to invest in technological improvements. We may not be able to effectively implement new technology-driven products and services or be successful in marketing these products and services to our customers. Failure to successfully keep pace with technological change affecting our industry could have a material adverse impact on our business and, in turn, our financial condition and results of operations.

Consumers may decide not to use banks to complete their financial transactions.

While we continually attempt to use technology to offer new products and services, at the same time, technology and other changes are allowing parties to complete financial transactions that historically have involved banks through alternative methods. For example, consumers can now maintain funds in brokerage accounts or mutual funds that would have historically been held as bank deposits. Consumers can also complete transactions such as paying bills or transferring funds directly without the assistance of banks. The process of eliminating banks as intermediaries, known as disintermediation, could result in the loss of fee income, as well as the loss of customer deposits and the related income generated from those deposits. The loss of these revenue streams and the lower cost deposits as a source of funds could have a material adverse effect on our financial condition and results of operations.

Severe weather, natural disasters, acts of war or terrorism and other external events could significantly impact our business.

Severe weather, natural disasters, acts of war or terrorism and other adverse external events could have a significant impact on the ability of the Company to conduct business. Such events could affect the stability of our deposit base, impair the ability of borrowers to repay outstanding loans, impair the value of collateral securing loans, cause significant property damage, result in loss of revenue or cause us to incur additional expenses. Although no hurricanes made landfall in the coastal areas along the Gulf of Mexico in 2007, Hurricanes Katrina and Rita made landfall in 2005

 

17


and subsequently caused extensive flooding and destruction in those coastal areas. Although our operations were not disrupted by these hurricanes or their aftermath, other severe weather or natural disasters, acts of war or terrorism or other adverse external events may occur in the future. Although management has established disaster recovery policies and procedures, the occurrence of any such event could have a material adverse effect on our business, which, in turn, could have a material adverse effect on our financial condition and results of operations.

Risks Associated With Our Common Stock

Our stock price can be volatile.

Stock price volatility may make it more difficult for you to resell your common stock when you want and at prices you find attractive. Our stock price can fluctuate significantly in response to a variety of factors including, among other things:

 

   

actual or anticipated variations in quarterly results of operations.

 

   

recommendations by securities analysts.

 

   

operating and stock price performance of other companies that investors deem comparable to the Company.

 

   

news reports relating to trends, concerns and other issues in the banking and financial services industry.

 

   

perceptions in the marketplace regarding us and/or our competitors.

 

   

new technology used, or services offered, by competitors.

 

   

significant acquisitions or business combinations, strategic partnerships, joint ventures or capital commitments by or involving us or our competitors.

 

   

failure to integrate acquisitions or realize anticipated benefits from acquisitions.

 

   

changes in government regulations.

 

   

geopolitical conditions such as acts or threats of terrorism or military conflicts.

Additionally, general market fluctuations, industry factors and general economic and political conditions and events, such as economic slowdowns or recessions, interest rate changes or credit loss trends, could also cause our stock price to decrease regardless of operating results.

The trading volume in our common stock is less than that of other larger bank holding companies.

Our common stock is listed for trading on The NASDAQ Global Market, having transferred the listing of our common stock from the American Stock Exchange in November 2006. The average daily trading volume in our common stock is low, generally less than that of many of our competitors and other larger bank holding companies. A public trading market having the desired characteristics of depth, liquidity and orderliness depends on the presence in the marketplace of willing buyers and sellers of our common stock at any given time. This presence depends on the individual decisions of investors and general economic and market conditions over which we have no control. Given the lower trading volume of our common stock, significant sales of our common stock, or the expectation of these sales, could cause volatility in the price of our common stock.

 

18


An investment in our common stock is not an insured deposit.

Our common stock is not a bank deposit and, therefore, is not insured against loss by the FDIC, any deposit insurance fund or by any other public or private entity. Investment in our common stock is inherently risky for the reasons described in this “Risk Factors” section and elsewhere in this report and is subject to the same market forces that affect the price of common stock in any company. As a result, if you acquire our common stock, you may lose some or all of your investment.

Our Articles of Incorporation and Bylaws, as well as certain banking laws, may have an anti-takeover effect.

Provisions of our Articles of Incorporation, Bylaws, Shareholder Rights Plan, which are exhibits to this Annual Report on Form 10-K, and the federal banking laws, including regulatory approval requirements, could make it more difficult for a third party to acquire the Company, even if doing so would be perceived to be beneficial to our shareholders. The combination of these provisions impedes a non-negotiated merger or other business combination, which, in turn, could adversely affect the market price of our common stock.

 

ITEM 1B. UNRESOLVED STAFF COMMENTS.

None.

 

ITEM 2. PROPERTIES.

The Company, through the Bank, currently operates from its main office in downtown Philadelphia, Mississippi, and from 21 additional branches in Neshoba, Newton, Leake, Scott, Attala, Lauderdale, Oktibbeha, Winston and Kemper counties, Mississippi. Information about these branches is set forth in the table below:

 

NAME OF OFFICE

  

LOCATION/

TELEPHONE NUMBER

  

BANKING

FUNCTIONS

OFFERED

Main Office

  

521 Main Street

Philadelphia, Mississippi

(601) 656-4692

  

Full Service;

Trust

24 Hour Teller

Eastside Branch

  

585 East Main Street

Philadelphia, Mississippi

(601) 656-4976

  

Full Service;

24 Hour Teller

Westside Branch

  

912 West Beacon Street

Philadelphia, Mississippi

(601) 656-4978

  

Full Service;

24 Hour Teller

Northside Branch

  

802 Pecan Avenue

Philadelphia, Mississippi

(601) 656-4977

  

Deposits;

24 Hour Teller

 

19


Pearl River Branch

  

110 Choctaw Town Center

Philadelphia, Mississippi

(601) 656-4971

  

Deposits;

24 Hour Teller

Union Branch

  

Corner of Horne & Bank

Union, Mississippi

(601) 774-9231

   Full Service

Carthage Main Office

  

219 West Main Street

Carthage, Mississippi

(601) 267-4525

   Full Service

Madden Branch

  

Highway 488

Madden, Mississippi

(601) 267-7366

   Deposits

Sebastopol Branch

  

24 Pine Street

Sebastopol, Mississippi

(601) 625-7447

  

Full Service;

24-Hour Teller

DeKalb Branch

  

Corner of Main & Bell

DeKalb, Mississippi

(601) 743-2115

   Full Service

Kosciusko Branch

  

775 North Jackson Avenue

Kosciusko, Mississippi

(662) 289-4356

  

Full Service;

24-hour Teller

Scooba Branch

  

1048 Johnston Street

Scooba, Mississippi

(662) 476-8431

   Full Service

Meridian Branch

  

1825 Highway 39 North

Meridian, Mississippi

(601) 693-8367

  

Full Service;

24-Hour Teller

Decatur Branch

  

15330 Highway 15 South

Decatur, Mississippi

(601) 635-2321

  

Full Service;

24-Hour Teller

Forest Branch

  

247 Woodland Drive North

Forest, Mississippi

(601) 469-3424

  

Full Service;

24-Hour Teller

 

20


Louisville Main Branch

  

100 East Main Street

Louisville, MS

(662) 773-6261

  

Full Service

24 Hour Teller

Industrial Branch

  

803 South Church Street

Louisville, MS

(662) 773-6261

   Drive-Up

Noxapater Branch

  

45 East Main Street

Noxapater, MS

(662) 724-4261

   Deposits

Starkville Branch

  

201 Highway 12

Starkville, MS 39759

(662) 323-4210

  

Full Service

24 Hour Teller

Collinsville Branch

  

9065 Collinsville Road

Collinsville, MS 39325

(601) 626-7608

  

Full Service

24 Hour Teller

Meridian Mid-Town

  

905 22nd Avenue

Meridian, MS 39301

(601) 482-8858

  

Full Service

24 Hour Teller

Meridian Broadmoor

  

5015 Highway 493

Meridian, MS 39305

(601) 581-1541

  

Full Service

24 Hour Teller

The Bank owns its main office and its branch offices, except for the Pearl River branch office and the Meridian Mid-Town Branches, which are leased. The main office facility, originally occupied in 1966, is used solely by the Company and the Bank. This facility contains approximately 20,000 square feet and houses the executive offices and all operations-related departments of the Company. A renovation of the first floor of this building, including the main banking lobby was completed in August 2006. The other branches range in size from nearly 4,000 square feet to 1,000 square feet.

 

ITEM 3. LEGAL PROCEEDINGS.

There are no material pending legal proceedings, other than routine litigation incidental to their business, to which either the Company or the Bank is a party or to which any of their property is subject.

 

ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS.

There were no matters submitted to the Company’s shareholders during the fourth quarter of 2007.

 

21


PART II

 

ITEM 5. MARKET FOR REGISTRANT’S COMMON EQUITY, RELATED STOCKHOLDER MATTERS AND ISSUER PURCHASES OF EQUITY SECURITIES.

Information required in partial response to this Item 5 can be found under the heading “Market Price and Dividend Information” in the 2007 Annual Report to Shareholders, a copy of which is filed as an Exhibit to this Annual Report on Form 10-K. Such information in incorporated herein by reference.

The information appearing under the caption “Equity Compensation Plan Information” in Item 12 of this Form 10-K is incorporated herein by reference.

 

ITEM 6. SELECTED FINANCIAL DATA.

Information required in response to this Item 6 can be found under the heading “Management’s Discussion and Analysis of Financial Condition and Results of Operations as of December 31, 2007, 2006 and 2005—Selected Financial Data” in the 2007 Annual Report to Shareholders, a copy of which is filed as an Exhibit to this Annual Report on Form 10-K. Such information is incorporated herein by reference.

 

ITEM 7. MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS.

Information required in response to this Item 7 can be found under the heading “Management’s Discussion and Analysis of Financial Condition and Results of Operations as of December 31, 2007, 2006 and 2005” in the 2007 Annual Report to Shareholders, a copy of which is filed as an Exhibit to this Annual Report on Form 10-K. Such information is incorporated herein by reference.

 

ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK.

Information required in response to this Item 7A can be found under the headings “Quantitative and Qualitative Disclosures about Market Risk” in the 2007 Annual Report to Shareholders, a copy of which is filed as an Exhibit to this Annual Report on Form 10-K. Such information is incorporated herein by reference.

 

ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA.

Information required in response to this Item 8 can be found under the heading “Consolidated Financial Statements” and “Quarterly Financial Trends” in the 2007 Annual Report to Shareholders, a copy of which is filed as an Exhibit to this Annual Report on Form 10-K. Such information is incorporated herein by reference.

 

ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND FINANCIAL DISCLOSURE.

None.

 

22


ITEM 9A. CONTROLS AND PROCEDURES.

Disclosure Controls and Procedures

The management of this Company, with the participation of our principal executive and financial officers, has evaluated the effectiveness of our disclosure controls and procedures in ensuring that the information required to be disclosed in our filings under the Securities Exchange Act of 1934 is recorded, processed, summarized and reported within the time periods specified in the Securities and Exchange Commission’s rules and forms, including ensuring that such information is accumulated and communicated to the Company’s management as appropriate to allow timely decisions regarding required disclosure. Based on such evaluation, our principal executive and financial officers have concluded that such disclosure controls and procedures were effective as of December 31, 2007 (the end of the period covered by this Annual Report on Form 10-K).

Management’s Annual Report on Internal Control over Financial Reporting and Report of Independent Registered Public Accounting Firm

Information required in response to this item can be found under the headings “Management’s Assessment of Internal Control over Financial Reporting” and “Report of Independent Registered Public Accounting Firm” in the Company’s Consolidated Financial Statements contained in its 2007 Annual Report to Shareholders, a copy of which is filed as an Exhibit to this Annual Report on Form 10-K. Such information is incorporated herein by reference.

Changes in Internal Control over Financial Reporting

There were no changes to the internal control over financial reporting in the fourth quarter of 2007 that materially affected, or are reasonably likely to materially affect, internal control over financial reporting.

ITEM 9A(T). CONTROLS AND PROCEDURES.

Not applicable.

 

ITEM 9B. OTHER INFORMATION.

None.

 

23


PART III

 

ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS AND CORPORATE GOVERNANCE.

Information required in partial response to this Item 10 can be found under the heading “Executive Officers of the Registrant” in Item 1, “Business,” and under the headings “Stock Ownership” and “Board of Directors” in the Company’s Definitive Proxy Statement to be filed with the SEC on or about March 19, 2007, relating to its 2008 Annual Meeting of Shareholders. Such information is incorporated herein by reference.

Code of Ethics

The Company has adopted a code of business ethics in compliance with Item 406 of Regulation S-K for the Company’s principal executive officer, principal financial officer, principal accounting officer and controller. A copy of the Company’s Code of Ethics was filed as an exhibit to the Company’s Annual Report on Form 10-K for the fiscal year ended December 31, 2003, filed on March 26, 2004 and is incorporated herein by reference. On September 26, 2006, the Company approved an expanded Code of Conduct that covers all directors, officers and employees. Copies of both the Code of Ethics and the Code of Conduct can be found on the Company’s website: http://www.citizensholdingcompany.com. The Company intends to satisfy the disclosure requirement under Item 5.05 of Form 8-K regarding an amendment to, or waiver from, a provision of the Code of Ethics and the Code of Conduct by posting information on our website at the address specified above.

 

ITEM 11. EXECUTIVE COMPENSATION.

Information required in response to this Item 11 can be found under the headings “Board of Directors,” “Executive Officers and Executive Compensation,” “Report of the Compensation Committee,” and “Compensation Committee Interlocks and Insider Participation” in the Company’s Definitive Proxy Statement to be filed with the SEC on or about March 19, 2008, relating to its 2008 Annual Meeting of Shareholders. Such information is incorporated herein by reference.

 

ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT AND RELATED STOCKHOLDER MATTERS.

Information required in partial response to this Item 12 can be found under the heading “Stock Ownership” in the Company’s Definitive Proxy Statement to be filed with the SEC on or about March 19, 2007, relating to its 2008 Annual Meeting of Shareholders. Such information is incorporated herein by reference.

 

24


Equity Compensation Plan Information

The following table provides information about the Company’s equity compensation plans as of December 31, 2007.

Equity Compensation Plan Information

 

Plan category

   (a)
Number of securities
to be issued upon
exercise of
outstanding options,
warrants and rights
   (b)
Weighted-average
exercise price of
outstanding options,
warrants and rights
   (c)
Number of securities
remaining available for
future issuance under
equity compensation plans
(excluding securities

in column (a))
 

Equity compensation plans approved by security holders(1)

   292,950    $ 18.06    183,962 (2)

Equity compensation plans not approved by security holders

   -0-    $ 0.00    -0-  

Total

   292,950    $ 18.06    183,962  

 

(1)

Two equity compensation plans have been approved by the shareholders: the 1999 Directors’ Stock Compensation Plan and the 1999 Employees’ Long-Term Incentive Plan.

(2)

Includes 71,700 shares that remain available for future issuance under the 1999 Directors’ Stock Compensation Plan. Also include 112,262 shares available for future issuance under the 1999 Employees’ Long-Term Incentive Plan (“LTIP”). Under the terms of the LTIP, the number of shares that may be issued cannot exceed 7% of the total number of shares issued and outstanding from time to time. In addition to stock options, restricted stock may be awarded under the LTIP. No restricted stock has been awarded under the LTIP.

 

ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS, AND DIRECTOR INDEPENDENCE.

Information required in response to this Item 13 can be found under the heading “Board of Directors” in the Company’s Definitive Proxy Statement to be filed with the SEC on or about March 19, 2008, relating to its 2008 Annual Meeting of Shareholders. Such information is incorporated herein by reference.

 

ITEM 14. PRINCIPAL ACCOUNTANT FEES AND SERVICES.

Information required in response to this Item 14 can be found under the heading “Proposal No. 3- Appointment of HORNE LLP as the Company’s Independent Registered Public Accounting Firm” in the Company’s Definitive Proxy Statement to be filed with the SEC on or about March 19, 2008, relating to its 2008 Annual Meeting of Shareholders. Such information is incorporated herein by reference.

 

25


PART IV

 

ITEM 15. EXHIBITS, FINANCIAL STATEMENT SCHEDULES

 

  (a) Financial Statements

 

  1. Consolidated Financial Statements and Supplementary Information for years ended December 31, 2005, 2006 and 2007, which include the following:

 

  (i) Report of Independent Registered Public Accounting Firm (Financial Statements)
  (ii) Report of Independent Registered Public Accounting Firm (Internal Control)
  (iii) Management’s Assessment of Internal Control over Financial Reporting
  (iv) Consolidated Balance Sheets
  (v) Consolidated Statements of Income
  (vi) Consolidated Statements of Comprehensive Income
  (vii) Consolidated Statements of Changes in Shareholders’ Equity
  (viii) Consolidated Statements of Cash Flows
  (ix) Notes to Consolidated Financial Statements

 

  2. Financial Statement Schedules

None.

 

  3. Exhibits required by Item 601 of Regulation S-K
3(i)    Amended Articles of Incorporation of the Company    *
3(ii)    Amended and Restated Bylaws of the Company, as amended**   
4    Rights Agreement between Citizens Holding Company and The Citizens Bank of Philadelphia, Mississippi    *
10(a)    Directors’ Deferred Compensation Plan - Form of Agreement    *†
10(b)    Citizens Holding Company 1999 Directors’ Stock Compensation Plan    *†
10(c)    Citizens Holding Company 1999 Employees’ Long-Term Incentive Plan    *†
10(d)    Change in Control Agreement dated December 10, 2002 between the Company and Greg L. McKee    ***†
10(f)    Supplemental Executive Retirement Plan    ****†
13    2007 Annual Report to Shareholders   
14    Code of Ethics    *****
21    Subsidiaries of Registrant   
23    Consent of Independent Registered Public Accounting Firm   
31.1    Rule 13a-14(a)/15d-14(a) Certification of Chief Executive Officer   
31.2    Rule 13a-14(a)/15d-14(a) Certification of Chief Executive Officer   
32.1    Section 1350 Certification of Chief Executive Officer   
32.2    Section 1350 Certification of Chief Financial Officer   

 

* Filed as an exhibit to the Form 10 Registration Statement of the Company (File No. 000-25221) filed on December 30, 1998 and incorporated herein by reference, and also filed as an exhibit to Amendment No. 1 to Form 10 Registration Statement of the Company (File No. 000-25221) filed on June 21, 1999 and incorporated herein by reference.

 

26


** Filed as an exhibit to the Company’s Annual Report on Form 10-K for the fiscal year ended December 31, 2007 (File No. 000-25221) filed on March 15, 2007 and incorporated herein by reference.
*** Filed as an exhibit to the Company’s Annual Report on Form 10-K for the fiscal year ended December 31, 2002 (File No. 000-25221) filed on March 31, 2003 and incorporated herein by reference.
**** Filed as an exhibit to the Company’s Annual Report on Form 10-K for the fiscal year ended December 31, 2004 (File No. 000-25221) filed on March 16, 2005 and incorporated herein by reference.
***** Filed as an exhibit to the Company’s Annual Report on Form 10-K for the fiscal year ended December 31, 2003 (File No. 000-25221) filed on March 26, 2004 and incorporated herein by reference.
Management contract or compensatory plan or arrangement required to be filed as an exhibit to this Form 10-K pursuant to Item 15(b) of Form 10-K.

 

27


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.

 

  CITIZENS HOLDING COMPANY
Date: March 7, 2008   By:   /s/ Greg L. McKee
      Greg L. McKee
      President and Chief Executive Officer

Pursuant to the requirements of the Securities Exchange Act of 1934, this report has been signed by the following persons on behalf of the Registrant and in the capacity and on the dates indicated:

 

SIGNATURES

 

CAPACITIES

  DATE

/s/ Terrell E. Winstead

Terrell E. Winstead

  Director   March 7, 2008

/s/ David A. King

David A. King

  Director   March 7, 2008

/s/ Herbert A. King

Herbert A. King

  Director   March 7, 2008

/s/ Don L. Fulton

Don L. Fulton

  Director   March 7, 2008

/s/ David P. Webb

David P. Webb

  Director   March 7, 2008

/s/ A. T. Williams

A.T. Williams

  Director   March 7, 2008

 

28


/s/ Greg L. McKee

Greg L. McKee

 

Director, President and

Chief Executive Officer

  March 7, 2008

/s/ Robert T. Smith

Robert T. Smith

 

Treasurer, Chief Financial

Officer and Controller

  March 7, 2008

/s/ William M. Mars

William M. Mars

  Chairman of the Board   March 7, 2008

/s/ Adam Mars

Adam Mars

  Director   March 7, 2008

 

29


EXHIBIT INDEX

 

Exhibit
Number

  

Description of Exhibit

13    2007 Annual Report to Shareholders
21    Subsidiaries of Registrant
23    Consent of Independent Registered Public Accounting Firm
31.1    Rule 13a-14(a)/15d-14(a) Certification of Chief Executive Officer
31.2    Rule 13a-14(a)/15d-14(a) Certification of Chief Executive Officer
32.1    Section 1350 Certification of Chief Executive Officer
32.2    Section 1350 Certification of Chief Financial Officer

 

30


Exhibit 13 – 2007 Annual Report to Shareholders

 

31

2007 Annual Report to Shareholders

Exhibit 13

Dear Stockholder:

I am pleased to be able to present a summary of what was accomplished during 2007. This past year can be viewed as a period of building and positioning for the future of the company. Many of the endeavors and accomplishments of last year were undertaken with the goal of building and maximizing long-term value to the stockholders. We are satisfied that these achievements will accomplish that in a timely fashion.

We continue to take advantage of any viable opportunities as they are presented. Throughout the past year, several opportunities arose that fit well within our strategic plan. These opportunities included property acquisition, branch development and increased staff in various markets. As always, considerable additional expenses are to be expected during a transition or growth stage. Although this was the case for 2007, our expectations are already beginning to be achieved.

We opened two new branches during the year. Our eco-friendly building in Starkville, Mississippi was opened, and our staff there now offers full service banking to an expanding market. We purchased property and remodeled a building in Collinsville, Mississippi. This branch offers our services to a growing community in Lauderdale County. We hired and trained staff for two additional branches in Meridian, Mississippi, which were fully operational in early 2008. We increased our lending staff at several existing locations during the year. As this staff makes additional loans, this additional payroll expense will become a revenue enhancement. I fully understand what factors caused the company’s net earnings position for 2007; and, while I would certainly have been pleased with better results, I am not discouraged due to the previously mentioned opportunities. We simply experienced some growth pains that have to be endured to achieve the desired long-term value for the stockholders.

We will continue to follow our strategic plan for growth. In so doing, we are constantly evaluating opportunities and ways to leverage our healthy capital position into increased revenues and maximized values for you. During this time of economic uncertainties, we will stay the course with sound, prudent business decisions as we carry our type of customer- friendly banking into new markets.

We continually appreciate the support of a dedicated group of stockholders, customers and employees. Considering the company’s accomplishments during 2007, we are motivated and ready for 2008.

As always, thank you for your interest and support in a great company!

Sincerely,

LOGO

Greg L. McKee

President & CEO

 


CITIZENS HOLDING COMPANY

AND SUBSIDIARY

Philadelphia, Mississippi

Consolidated Financial Statements

Years Ended December 31, 2007, 2006 and 2005

 


CONTENTS

 

Report of Independent Registered Public Accounting Firm

   1

Management’s Assessment of Internal Control over Financial Reporting

   3

Consolidated Financial Statements

  

Consolidated Balance Sheets

   4

Consolidated Statements of Income

   5

Consolidated Statements of Comprehensive Income

   6

Consolidated Statements of Changes in Stockholders’ Equity

   7

Consolidated Statements of Cash Flows

   8 – 9

Notes to Consolidated Financial Statements

   10 – 42

 


LOGO

REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM

March 10, 2008

To the Board of Directors & Stockholders

Citizens Holding Company

Philadelphia, Mississippi

We have audited the consolidated balance sheets of Citizens Holding Company and Subsidiary (the “Company”) as of December 31, 2007 and 2006, and the related consolidated statements of income, comprehensive income, changes in stockholders’ equity and cash flows for each of the three years in the period ended December 31, 2007. We also have audited the Company’s internal control over financial reporting as of December 31, 2007, based on criteria established in Internal Control — Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission (“COSO”). The Company’s management is responsible for these financial statements, 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 Assessment of Internal Control over Financial Reporting. Our responsibility is to express an opinion on these financial statements and an opinion on the Company’s internal control over financial reporting 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 audits to obtain reasonable assurance about whether the financial statements are free of material misstatement and whether effective internal control over financial reporting was maintained in all material respects. Our audits of the financial statements included examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements, assessing the accounting principles used and significant estimates made by management, and evaluating the overall financial statement presentation. Our audit of internal control over financial reporting 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 audits also included performing such other procedures as we considered necessary in the circumstances. We believe that our audits provide a reasonable basis for our opinions.

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

 

1


To the Board of Directors and Stockholders

Citizens Holding Company

Page Two

statements for external purposes in accordance with accounting principles generally accepted in the United States of America. 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 accounting principles generally accepted in the United States, and that receipts and expenditures of the company are being made only in accordance with authorizations of management and directors of the company; and (3) provide reasonable assurance regarding prevention or timely detection of unauthorized acquisition, use, or disposition of the company’s assets that could have a material effect on the financial statements.

Because of its inherent limitations, internal control over financial reporting may not prevent or detect misstatements. Also, projections of any evaluation of effectiveness to future periods are subject to the risk that controls may become inadequate because of changes in conditions, or that the degree of compliance with the policies or procedures may deteriorate.

In our opinion, the consolidated financial statements referred to above present fairly, in all material respects, the financial position of the Company as of December 31, 2007 and 2006, and the results of their operations and their cash flows for each of the three years in the period ended December 31, 2007, in conformity with accounting principles generally accepted in the United States of America. Also in our opinion, the Company maintained in all material respects, effective internal control over financial reporting as of December 31, 2007, based on criteria established in Internal Control — Integrated Framework issued by COSO.

HORNE LLP

LOGO

Jackson, Mississippi

 

2


Citizens Holding Company

Philadelphia, MS 39350

MANAGEMENT’S ASSESSMENT OF INTERNAL CONTROL OVER FINANCIAL REPORTING

Management of Citizens Holding Company (the “Company”) is responsible for establishing and maintaining adequate internal control over financial reporting. Internal control over financial reporting is a process designed under the supervision of the Company’s principal executive and principal financial officers to provide reasonable assurance regarding the reliability of financial reporting and the preparation of the Company’s financial statements for external purposes in accordance with accounting principles generally accepted in the United States of America.

Management, under the direction of the chief executive officer and chief financial officer, assessed the Company’s internal control over financial reporting as of December 31, 2007 based on the criteria for effective internal control over financial reporting established in Internal Control — Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission. Based on this assessment, management believes that, as of December 31, 2007, the Company maintained effective internal control over financial reporting.

The Company’s internal control over financial reporting includes 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. Projections of any evaluation of effectiveness to future periods are subject to risk that controls may become inadequate because of changes in conditions, or that the degree of compliance with the policies or procedures may deteriorate.

HORNE LLP, the Company’s Independent Registered Public Accounting Firm, has audited the Company’s internal control over financial reporting as of December 31, 2007, as stated in their report, beginning on page 1, which expresses an unqualified opinion on the Company’s internal control over financial reporting as of December 31, 2007.

 

LOGO     LOGO
Greg L. McKee     Robert T. Smith
President and Chief Executive Officer     Treasurer and Chief Financial Officer

March 7, 2008

 

3


CITIZENS HOLDING COMPANY AND SUBSIDIARY

Consolidated Balance Sheets

December 31, 2007 and 2006

 

ASSETS    2007     2006  

Cash and due from banks

   $ 18,622,058     $ 15,449,434  

Interest bearing deposits with other banks

     612,938       396,811  

Federal funds sold

     900,000       15,200,000  

Securities available for sale, at fair value (amortized cost of $245,410,195 in 2007 and $175,450,210 in 2006)

     244,720,367       174,617,149  

Loans, net of allowance for loan losses of

    

$3,967,951 in 2007 and $3,712,375 in 2006

     368,025,286       369,280,664  

Bank premises, furniture, fixtures and equipment, net

     14,288,797       12,106,456  

Real estate acquired by foreclosure

     2,046,584       2,707,885  

Accrued interest receivable

     5,210,201       5,015,574  

Cash value of life insurance

     17,693,476       16,846,557  

Intangible assets

     4,215,070       4,752,573  

Other assets

     4,568,854       4,824,393  
                

Total assets

   $ 680,903,631     $ 621,197,496  
                

LIABILITIES AND STOCKHOLDERS’ EQUITY

    

Deposits

    

Non-interest bearing deposits

   $ 78,224,936     $ 82,867,220  

Interest bearing time deposits

     399,007,368       388,980,036  
                

Total deposits

     477,232,304       471,847,256  

Federal funds purchased

     4,200,000       —    

Sweep account liability

     74,963,424       12,767,483  

Federal Home Loan Bank advances

     49,400,000       59,400,000  

Accrued interest payable

     1,915,232       1,153,890  

Deferred compensation payable

     2,989,940       2,699,783  

Other liabilities

     2,011,299       2,181,742  
                

Total liabilities

     612,712,199       550,050,154  
                

Commitments and contingencies

     —         —    

Minority interest

     —         1,482,069  
                

Stockholders’ equity

    

Common stock, $0.20 par value, authorized 22,500,000 shares; 4,863,242 shares issued at 2007 and 5,020,228 at 2006

     972,648       1,004,046  

Additional paid-in capital

     3,979,717       3,886,830  

Accumulated other comprehensive loss, net of taxes of $257,306 in 2007 and $304,082 in 2006

     (432,522 )     (511,161 )

Retained earnings

     63,671,589       65,285,558  
                

Total stockholders’ equity

     68,191,432       69,665,273  
                

Total liabilities and stockholders’ equity

   $ 680,903,631     $ 621,197,496  
                

The accompanying notes are an integral part of these financial statements.

 

4


CITIZENS HOLDING COMPANY AND SUBSIDIARY

Consolidated Statements of Income

Years Ended December 31, 2007, 2006 and 2005

 

     2007     2006     2005  

Interest income

      

Interest and fees on loans

   $ 28,981,941     $ 28,914,226     $ 26,435,191  

Interest on securities

      

Taxable

     4,927,774       3,651,802       3,022,520  

Non-taxable

     3,169,536       3,514,524       3,406,130  

Other

     1,020,601       406,842       179,863  
                        

Total interest income

     38,099,852       36,487,394       33,043,704  
                        

Interest expense

      

Deposits

     12,814,534       10,314,943       7,431,479  

Other borrowed funds

     3,948,220       2,866,762       2,415,801  
                        

Total interest expense

     16,762,754       13,181,705       9,847,280  
                        

Net interest income

     21,337,098       23,305,689       23,196,424  

Provision for loan losses

     (784,120 )     360,910       (1,084,326 )
                        

Net interest income after provision for loan losses

     20,552,978       23,666,599       22,112,098  
                        

Non-interest income

      

Service charges on deposit accounts

     3,859,598       3,816,473       3,556,824  

Other service charges and fees

     763,079       567,320       585,288  

Net gains (losses) on securities sales

     29,339       (12,318 )     —    

Other income

     3,126,633       1,816,046       1,594,811  
                        

Total non-interest income

     7,778,649       6,187,521       5,736,923  
                        

Non-interest expense

      

Salaries and employee benefits

     10,539,810       9,980,336       9,523,367  

Occupancy expense

     1,688,809       1,395,498       1,163,219  

Equipment expense

     1,528,841       1,614,969       1,739,751  

Earnings applicable to minority interest

     —         185,409       198,872  

Other expense

     5,691,823       5,446,971       4,891,696  
                        

Total non-interest expense

     19,449,283       18,623,183       17,516,905  
                        

Income before income taxes

     8,882,344       11,230,937       10,332,116  

Income tax expense

     1,968,110       2,836,413       2,365,984  
                        

Net income

   $ 6,914,234     $ 8,394,524     $ 7,966,132  
                        

Net income per share – basic

   $ 1.41     $ 1.67     $ 1.59  
                        

Net income per share – diluted

   $ 1.39     $ 1.65     $ 1.57  
                        

Average shares outstanding

      

Basic

     4,913,946       5,016,257       5,006,493  
                        

Diluted

     4,964,475       5,080,755       5,066,165  
                        

The accompanying notes are an integral part of these financial statements.

 

5


CITIZENS HOLDING COMPANY AND SUBSIDIARY

Consolidated Statements of Comprehensive Income

Years Ended December 31, 2007, 2006 and 2005

 

     2007     2006     2005  

Net income

   $ 6,914,234     $ 8,394,524     $ 7,966,132  
                        

Other comprehensive income (loss)

      

Unrealized holding gains (losses) during year

     172,573       729,836       (2,196,048 )

Income tax effect

     (64,369 )     (272,229 )     798,637  
                        

Net unrealized gains (losses)

     108,204       457,607       (1,397,411 )
                        

Reclassification adjustment for (gains) losses included in net income

     (29,339 )     12,318       —    

Income tax effect

     10,943       (4,594 )     —    
                        

Net (gains) losses included in net income

     (18,396 )     7,724       —    
                        

Change in minority interest in net unrealized gains (losses)

     (11,169 )     (9,950 )     30,948  
                        

Total other comprehensive income (loss)

     78,639       455,381       (1,366,463 )
                        

Comprehensive income

   $ 6,992,873     $ 8,849,905     $ 6,599,669  
                        

The accompanying notes are an integral part of these financial statements.

 

6


CITIZENS HOLDING COMPANY AND SUBSIDIARY

Consolidated Statements of Changes in Stockholders’ Equity

Years Ended December 31, 2007, 2006 and 2005

 

     Number
of Shares
Issued
    Common
Stock
    Additional
Paid-In
Capital
   Accumulated
Other
Comprehensive
Income (Loss)
    Retained
Earnings
    Total  

Balance, December 31, 2004

   5,000,278     $ 1,000,056     $ 3,150,246    $ 399,921     $ 55,641,002     $ 60,191,225  

Net income

   —         —         —        —         7,966,132       7,966,132  

Dividends paid ($0.65 per share)

   —         —         —        —         (3,254,591 )     (3,254,591 )

Options exercised, net of tax benefit of $106,792

   9,000       1,800       236,002      —         —         237,802  

Other comprehensive loss, net

   —         —         —        (1,366,463 )     —         (1,366,463 )
                                             

Balance, December 31, 2005

   5,009,278       1,001,856       3,386,248      (966,542 )     60,352,543       63,774,105  

Net income

   —         —         —        —         8,394,524       8,394,524  

Dividends paid ($0.69 per share)

   —         —         —        —         (3,461,509 )     (3,461,509 )

Options exercised, net of tax benefit of $12,287

   10,950       2,190       196,421      —         —         198,611  

Stock compensation expense

   —         —         304,161      —         —         304,161  

Other comprehensive loss, net

   —         —         —        455,381       —         455,381  
                                             

Balance, December 31, 2006

   5,020,228       1,004,046       3,886,830      (511,161 )     65,285,558       69,665,273  

Net income

   —         —         —        —         6,914,234       6,914,234  

Dividends paid ($0.73 per share)

   —         —         —        —         (3,576,655 )     (3,576,655 )

Options exercised, net of tax benefit of $10,927

   3,200       640       25,915      —         —         26,555  

Shares repurchased

   (160,186 )     (32,038 )     —        —         (3,450,115 )     (3,482,153 )

Increase investment in subsidiary

   —         —         —        —         (1,501,433 )     (1,501,433 )

Stock compensation expense

   —         —         66,972      —         —         66,972  

Other comprehensive income, net

   —         —         —        78,639       —         78,639  
                                             

Balance, December 31, 2007

   4,863,242     $ 972,648     $ 3,979,717    $ (432,522 )   $ 63,671,589     $ 68,191,432  
                                             

The accompanying notes are an integral part of these financial statements.

 

7


CITIZENS HOLDING COMPANY AND SUBSIDIARY

Consolidated Statements of Cash Flows

Years Ended December 31, 2007, 2006 and 2005

 

     2007     2006     2005  

Cash flows from operating activities

      

Net income

   $ 6,914,234     $ 8,394,524     $ 7,966,132  

Adjustments to reconcile net income to net cash provided by operating activities

      

Depreciation

     1,068,377       950,340       1,024,320  

Amortization of intangibles

     537,503       537,503       537,503  

Amortization of premiums and accretion of discounts on investment securities

     461,914       697,003       1,182,298  

Stock compensation expense

     41,994       304,161       —    

Provision for loan losses

     784,120       (360,910 )     1,084,326  

Realized investment securities (gains) losses

     (29,339 )     12,318       —    

Deferred income tax benefit

     (286,890 )     (169,994 )     (310,432 )

Net earnings applicable to minority interest

     —         108,975       198,872  

Earnings from equity investment

     (112,330 )     (102,411 )     (131,664 )

Increase in accrued interest receivable

     (194,627 )     (320,427 )     (309,255 )

Increase in cash value of life insurance

     (846,919 )     (800,884 )     (540,844 )

Increase in accrued interest payable

     761,342       355,223       178,077  

Increase in deferred compensation liability

     290,157       333,191       209,551  

Net change in other operating assets and liabilities

     284,641       3,627,264       2,212,319  
                        

Net cash provided by operating activities

     9,674,177       13,565,876       13,301,203  
                        

Cash flows from investing activities

      

Proceeds from maturities of securities available-for-sale

     15,130,290       15,451,326       37,496,514  

Proceeds from sales of securities available-for-sale

     22,916,630       18,132,710       —    

Purchases of securities available-for-sale

     (53,312,896 )     (38,846,962 )     (51,638,423 )

Purchases of bank premises, furniture, fixtures and equipment

     (3,250,718 )     (3,162,581 )     (1,146,322 )

Proceeds from sale of real estate acquired by foreclosure

     2,263,187       691,132       2,043,687  

Net (increase) decrease in interest bearing deposits with other banks

     (216,127 )     (83,986 )     505,891  

Net (increase) decrease in loans

     (1,130,628 )     5,620,592       (13,412,543 )

Net decrease (increase) in federal funds sold

     14,300,000       (15,200,000 )     11,000,000  

Cash paid for acquisition of subsidiary stock

     (2,994,671 )     —         —    

Net decrease in other securities

     7,229,658       —         —    
                        

Net cash provided (used) by investing activities

     934,725       (17,397,769 )     (15,151,196 )
                        

 

8


CITIZENS HOLDING COMPANY AND SUBSIDIARY

Consolidated Statements of Cash Flows

Years Ended December 31, 2007, 2006 and 2005

Page 2 of 2

 

     2007     2006     2005  

Cash flows from financing activities

      

Net increase in deposits

   $ 5,385,048     $ (1,964,978 )   $ (651,511 )

Net increase (decrease) in federal funds purchased

     4,200,000       (1,600,000 )     1,600,000  

Proceeds from exercise of stock options

     26,555       186,324       131,610  

Excess tax benefits on stock option exercises

     10,927       27,108       —    

Repurchase of company stock

     (3,482,153 )     —         —    

Dividends paid to stockholders

     (3,576,655 )     (3,461,509 )     (3,254,591 )

Federal Home Loan Bank advance proceeds

     —         15,000,000       25,000,000  

Federal Home Loan Bank advance payments

     (10,000,000 )     (15,648,818 )     (11,069,748 )
                        

Net cash (used) provided by financing activities

     (7,436,278 )     (7,461,873 )     11,755,760  
                        

Net increase (decrease) in cash and due from banks

     3,172,624       (11,293,766 )     9,905,767  

Cash and due from banks, beginning of year

     15,449,434       26,743,200       16,837,433  
                        

Cash and due from banks, end of year

   $ 18,622,058     $ 15,449,434     $ 26,743,200  
                        

Supplemental disclosures of cash flow Information

      

Cash paid for Interest

   $ 16,001,411     $ 12,826,482     $ 9,669,203  
                        

Income taxes

   $ 1,967,770     $ 4,711,328     $ 786,026  
                        

Non-cash disclosures

      

Real estate acquired by foreclosure

   $ 1,601,886     $ 480,646     $ 2,232,018  
                        

Unrealized gain (loss) on investments

   $ 172,573     $ 729,836     $ (2,196,048 )
                        

The accompanying notes are an integral part of these financial statements.

 

9


CITIZENS HOLDING COMPANY AND SUBSIDIARY

Years Ended December 31, 2007, 2006 and 2005

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

 

Note 1. Summary of Significant Accounting Policies

Basis of Financial Statement Presentation

The accounting policies of Citizens Holding Company and subsidiary conform to accounting principles generally accepted in the United States of America and to general practices within the banking industry. The consolidated financial statements of Citizens Holding Company include the accounts of its wholly-owned subsidiary, The Citizens Bank of Philadelphia, Mississippi (collectively referred to as the “Company”). All significant intercompany transactions have been eliminated in consolidation. As the result of a 1-for-1,000 reverse stock split on January 2, 2007, Citizens Holding Company became the sole owner of The Citizens Bank of Philadelphia, Mississippi.

Nature of Business

The Citizens Bank of Philadelphia, Mississippi (the “Bank”) operates under a state bank charter and provides general banking services. As a state bank, the Bank is subject to regulations of the Mississippi Department of Banking and Consumer Finance and the Federal Deposit Insurance Corporation. Citizens Holding Company is subject to the regulations of the Federal Reserve. The area served by the Bank is Neshoba County, Mississippi and the immediately surrounding areas. Services are provided at several branch offices.

Estimates

The preparation of financial statements in conformity with accounting principles generally accepted in the United States of America requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenues and expenses during the reporting period. Actual results could differ from those estimates.

Estimates that are particularly susceptible to significant change relate to the determination of the allowance for loan losses and the valuation of real estate acquired in connection with foreclosures or in satisfaction of loans. In connection with the determination of the allowance for loan losses and valuation of foreclosed real estate, management obtains independent appraisals for significant properties.

While management uses available information to recognize losses on loans and foreclosed real estate, future additions to the allowance or adjustments to the valuation may be necessary based on changes in local economic conditions. In addition, regulatory agencies, as an integral part of their examination process, periodically review the Company’s allowance for loan losses and valuations of foreclosed real estate. Such agencies may require the Company to recognize additions to the allowance or to make adjustments to the valuation based on their judgments about information available to them at the time of their examination. Because of these factors, it is reasonably possible that the allowance for loan losses and valuation of foreclosed real estate may change materially in the near term.

 

10


CITIZENS HOLDING COMPANY AND SUBSIDIARY

Years Ended December 31, 2007, 2006, and 2005

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

 

Note 1. Continued

 

Cash and Due from Banks

For the purpose of reporting cash flows, cash and due from banks include cash on hand and demand deposits. Cash flows from loans originated by the Company, deposits, and federal funds purchased and sold are reported net in the statement of cash flows. The Company is required to maintain average reserve balances with the Federal Reserve Bank based on a percentage of deposits. The average reserve required by the Federal Reserve Bank at December 31, 2007 and 2006 was $749,000 and $812,000, respectively.

Interest-bearing deposits with other banks mature within one year and are carried at cost.

At December 31, 2007 and 2006, the Company had deposits in financial institutions in excess of federally insured limits. Management monitors the soundness of the financial institutions and believes there is minimal risk.

Investment Securities

In accordance with Financial Accounting Standards Board (“FASB”) Statement of Financial Accounting Standards (“SFAS”) No. 115, Accounting for Certain Investments in Debt and Equity Securities, securities are classified as “available-for-sale,” “held-to-maturity” or “trading”. Fair values for securities are based on quoted market prices where available. If quoted market prices are not available, fair values are based on quoted market prices of comparable instruments. Gains or losses on the sale of securities are determined using the specific identification method. Currently, the Company has no held-to-maturity or trading securities.

Securities Available-for-Sale

Securities available-for-sale are reported at fair value with unrealized gains and losses reported as a separate component of stockholders’ equity. Securities that are held for indefinite periods of time or used as part of the Company’s asset/liability management strategy and that may be sold in response to interest rate changes, changes in prepayment risk, the need to increase regulatory capital and other similar factors are classified as available-for-sale.

Realized gains or losses, determined on the basis of the cost of specific securities sold, are included in earnings. The amortization of premiums and accretion of discounts are recognized in interest income.

 

11


CITIZENS HOLDING COMPANY AND SUBSIDIARY

Years Ended December 31, 2007, 2006, and 2005

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

 

Note 1. Continued

 

Loans and Allowance for Loan Losses

Loans receivable that management has the intent and ability to hold for the foreseeable future or until maturity or payoff are reported at the principal amount outstanding, net of unearned discounts and unearned finance charges. The Company has no loans held-for-sale.

Loan origination and commitment fees and direct loan origination costs attributable to loans held with a maturity of more than one year are not significant and are, therefore, recognized as income or expense, as applicable in the period received or incurred.

Unearned discounts on installment loans are recognized as income over the terms of the loans by a method that approximates the interest method. Unearned finance charges and interest on commercial loans are recognized based on the principal amount outstanding. For all other loans, interest is accrued daily on the outstanding balances. For impaired loans, interest is discontinued on a loan when management believes, after considering collection efforts and other factors, that the borrower’s financial condition is such that collection of interest is doubtful. Cash collections on impaired loans are credited to the loan receivable balance, and no interest income is recognized on those loans until the principal balance has been collected. The Company generally discontinues the accrual of interest income when a loan becomes 90 days past due as to principal or interest; however, management may elect to continue the accrual when the estimated net realizable value of collateral is sufficient to cover the principal balance and the accrued interest. Interest income on other nonaccrual loans is recognized only to the extent of interest payments. Upon discontinuance of the accrual of interest on a loan, any previously accrued but unpaid interest is reversed against interest income.

A loan is impaired when management determines that it is probable the Company will be unable to collect all contractual principal and interest payments due in accordance with the terms of the loan agreement. Impaired loans are measured based on the present value of expected future cash flows discounted at the loan’s effective interest rate or, as a practical expedient, at the loan’s observable market price or the fair value of the collateral if the loan is collateral dependent. The amount of impairment, if any, and any subsequent changes are included in the allowance for loan losses.

 

12


CITIZENS HOLDING COMPANY AND SUBSIDIARY

Years Ended December 31, 2007, 2006, and 2005

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

 

Note 1. Continued

 

The allowance for loan losses is established through a provision for loan losses charged against net income. Loans determined to be uncollectible are charged against the allowance for loan losses, and subsequent recoveries, if any, are credited to the allowance. The allowance represents an amount, which, in management’s judgment, will be adequate to absorb estimated probable losses on existing loans that may become uncollectible. Management’s judgment in determining the adequacy of the allowance is based on evaluations of the collectability of loans and prior loss experience. These evaluations take into consideration such factors as changes in the nature and volume of the loan portfolio, review of specific problem loans, the Company’s past loan loss experience, adverse situations that may affect the borrowers’ ability to pay, the estimated value of any underlying collateral, current economic conditions, and other relevant factors.

The allowance consists of specific, general and unallocated components. The specific component relates to loans that are classified as either doubtful, substandard or special mention, as well as loans considered impaired. For such loans that are also classified as impaired, a specific allowance is established when the discounted cash flows (or collateral value or observable market price) of the impaired loan is lower than the carrying value of that loan. The general component covers non-classified loans and is based on historical loss experience adjusted for qualitative and other factors. An unallocated component is maintained to address uncertainties that could affect management’s estimate of probable losses. The unallocated component of the allowance reflects the margin of imprecision inherent in the underlying assumptions used in the methodologies for estimating specific and general losses in the portfolio.

Large groups of small-balance homogenous loans are collectively evaluated for impairment. Accordingly, the Company does not separately identify individual consumer and residential loans for impairment disclosures.

Bank Premises, Furniture, Fixtures and Equipment

The Company’s premises, furniture, fixtures and equipment are stated at cost less accumulated depreciation computed primarily by straight-line methods over the estimated useful lives of the assets. Costs of major additions and improvements are capitalized. Expenditures for maintenance and repairs are charged to expense as incurred.

Real Estate Acquired by Foreclosure

Real estate acquired by foreclosure consists of properties repossessed by the Company on foreclosed loans. These assets are stated at the lower of the outstanding loan amount (including accrued interest, if any) or fair value at the date acquired less estimated costs to sell. Losses arising from the acquisition of such property are charged against the allowance for loan losses. Declines in value resulting from subsequent revaluation of the property or losses resulting from disposition of such property are expensed. Revenue and expenses from operations of other real estate owned are reflected as other income (expense).

 

13


CITIZENS HOLDING COMPANY AND SUBSIDIARY

Years Ended December 31, 2007, 2006, and 2005

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

 

Note 1. Continued

 

Cash Value of Life Insurance

The Company has purchased life insurance contracts on certain employees and directors. Certain of such policies were acquired pursuant to “split-dollar” arrangements with employees. Several of these policies were subsequently converted to bank owned policies and the remainder of each policy was surrendered for cash. The cash surrender value of the remaining “split-dollar” policies as well as other Company owned policies is carried at the actual cash surrender value of the policy at the balance sheet date.

Intangible Assets

Intangible assets include core deposits purchased and goodwill. Core deposit intangibles are amortized on a straight-line basis over their estimated economic lives ranging from 5 to 10 years. Goodwill and other intangible assets with indefinite lives are not amortized, but are tested at least annually for impairment. Fair values are determined based on market valuation multiples for the Company and comparable businesses based on the assets and cash flow of the Bank, the Company’s only reportable segment. If impairment has occurred, the goodwill or other intangible asset is reduced to its estimated fair value through a charge to expense.

Investment – Insurance Company

The Company accounts for its investment in New South Life Insurance Company (“New South”), a 25% owned affiliate, using the equity method of accounting. The Company’s share of the net income of New South is recognized as income in the Company’s income statement and added to the investment account, and dividends received from New South are used to reduce the investment account. New South has not paid dividends.

The fiscal year of New South ends on November 30, and the Company follows the practice of recognizing the net income of New South on that basis.

The investment in New South, which is included in other assets, totaled $2,035,526 and $1,924,196 at December 31, 2007 and 2006, respectively. Income from the investment for the years ended December 31, 2007, 2006, and 2005 included in other income totaled $112,330, $102,411 and $131,664, respectively.

Trust Assets

Assets held by the Trust Department of the Company in fiduciary or agency capacities are not assets of the Company and are not included in the consolidated financial statements.

 

14


CITIZENS HOLDING COMPANY AND SUBSIDIARY

Years Ended December 31, 2007, 2006, and 2005

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

 

Note 1. Continued

 

Income Taxes

Provisions for income taxes are based on taxes payable or refundable for the current year and deferred taxes on temporary differences between the tax bases of assets and liabilities and their reported amounts in the consolidated financial statements. Deferred tax assets and liabilities are included in the financial statements at currently enacted income tax rates applicable to the period in which the deferred tax assets and liabilities are expected to be realized or settled as described in SFAS No. 109, Accounting for Income Taxes. As changes in tax laws or rates are enacted, deferred tax assets and liabilities are adjusted through the provision for income taxes. Deferred tax assets are reduced by a valuation allowance when, in the opinion of management, it is more likely than not that some portion or all of the deferred tax assets will not be realized.

Comprehensive Income

Comprehensive income includes net earnings reported in the statements of income and changes in unrealized gain (loss) on securities available-for-sale reported as a component of stockholders’ equity. Unrealized gain (loss) on securities available-for-sale, net of related income taxes, is the only component of accumulated other comprehensive income for the Company.

Net Income Per Share

Basic net income per share is computed by dividing net income by the weighted average number of common shares outstanding during the year. Diluted net income per share is based on the weighted average number of shares of common stock outstanding for the periods, including the dilutive effect of the Company’s outstanding stock options. The effect of the dilutive shares for the years 2007, 2006 and 2005 is illustrated in the following table.

 

     2007    2006    2005

Basic weighted average shares outstanding

     4,913,946      5,016,257      5,006,493

Dilutive effect of stock options

     50,529      64,498      59,672
                    

Dilutive weighted average shares outstanding

     4,964,475      5,080,755      5,066,165
                    

Net income

   $ 6,914,234    $ 8,394,524    $ 7,966,132
                    

Net income per share-basic

   $ 1.41    $ 1.67    $ 1.59

Net income per share-diluted

   $ 1.39    $ 1.65    $ 1.57

 

15


CITIZENS HOLDING COMPANY AND SUBSIDIARY

Years Ended December 31, 2007, 2006, and 2005

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

 

Note 1. Continued

 

Stock-Based Compensation

At December 31, 2007, the Corporation had two stock-based compensation plans, which are the 1999 Employees’ Long-Term Incentive Plan and the 1999 Directors’ Stock Compensation Plan. Effective January 1, 2006, the Corporation began accounting for these plans under the recognition and measurement principles of fair value set forth in SFAS No. 123R, Share-Based Payment, (“SFAS No. 123R”) and the Securities and Exchange Commission Staff Accounting Bulletin 107 (“SAB 107”). SAB 107 provides guidance related to share-based payment transactions, including valuation methods (including assumptions such as expected volatility and expected term), the classification of compensation expense, non-GAAP financial measures, first time adoption of SFAS No. 123R in an interim period and disclosure in Management’s Discussion and Analysis subsequent to the adoption of SFAS No. 123R. Effective January 1, 2006, the Company adopted SFAS No. 123R using the modified prospective transition method. Under that method of transition, compensation cost recognized in 2006 includes: (a) compensation cost for all share-based payments granted prior to, but not yet vested as of January 1, 2006, based on the grant date fair value estimated in accordance with the original provisions of SFAS No. 123, and (b) compensation cost for all share-based payments granted subsequent to January 1, 2006, based on the grant-date fair value estimated in accordance with the provisions of SFAS No. 123R. At the date of adoption, there were no unvested share-based payments outstanding. Also, given the limited historical amount of forfeited options, the Company has not reduced compensation expense for estimated forfeitures. The adoption of SFAS No. 123R increased stock compensation expense by $304,161 in 2006.

Prior to January 1, 2006, the Corporation accounted for options in accordance with Accounting Principles Board (“APB”) Opinion No. 25, which results in no compensation cost recognized for grants prior to December 31, 2005. Accordingly, no compensation expense was recognized for stock options granted if the option price is not less than the fair market value of the underlying stock at the grant date. For the year ended December 31, 2005, no stock based compensation expense was included in the determination of net income as all options granted during the years had an exercise price equal to the market value of the stock on the date of grant.

 

16


CITIZENS HOLDING COMPANY AND SUBSIDIARY

Years Ended December 31, 2007, 2006, and 2005

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

 

Note 1. Continued

 

If compensation expense been determined on the basis of fair value pursuant to SFAS No. 123R, net income and earnings per share would have been reduced as follows:

 

     2005  

Net income

  

As reported

   $ 7,966,132  

Stock based employee compensation expense included in reported net income

     —    

Less stock based compensation expense determined under fair value method for all stock options, net of related income tax benefit

     (55,340 )
        

Pro forma net income

   $ 7,910,792  
        
     2005  

Basic earnings per share

  

As reported

   $ 1.59  

Pro forma

   $ 1.58  

Diluted earnings per share

  

As reported

   $ 1.57  

Pro forma

   $ 1.56  

The fair value of each option is estimated on the grant date using the Black-Scholes option pricing model. The following weighted average assumptions were made in estimating fair values:

 

Assumption

   2007     2006     2005  

Dividend yield

   3.3 %   2.9 %   3.0 %

Risk-free interest rate

   4.76 %   4.65 %   4.0 %

Expected life

   5.3 years     5.3 years     7 years  

Expected volatility

   34.88 %   28.86 %   5.36 %

Forfeitures

   0 %   0 %   0 %

 

17


CITIZENS HOLDING COMPANY AND SUBSIDIARY

Years Ended December 31, 2007, 2006, and 2005

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

 

Note 1. Continued

 

Advertising Costs

Advertising costs are charged to expense when incurred. Advertising expense was $551,998, $482,540 and $495,579 for the years ended December 31, 2007, 2006 and 2005, respectively.

Fair Value of Financial Instruments

SFAS No. 107, Disclosures about Fair Value of Financial Instruments (“SFAS No. 107”), requires disclosure of financial instruments’ fair values, as well as the methodology and significant assumptions used in estimating fair values. These requirements have been incorporated in Note 1. In cases where quoted market prices are not available, fair values are based on estimates using present value or other valuation techniques. Those techniques are significantly affected by the assumptions used, including the discount rate and estimates of future cash flows. In that regard, the derived fair value estimates cannot be substantiated by comparison to independent markets and, in many cases, could not be realized in immediate settlement of the instrument. SFAS No. 107 excludes certain financial instruments from its disclosure requirements. Accordingly, the aggregate fair value amounts presented do not represent the underlying value of the Company and may not be indicative of amounts that might ultimately be realized upon disposition or settlement of those assets and liabilities.

Recent Accounting Pronouncements

In July 2006, the Financial Accounting Standards Board (“FASB”) issued FASB Interpretation No. 48, Accounting for Uncertainty in Income Taxes—an interpretation of FASB Statement No. 109 (“FIN 48”), which clarifies the accounting and disclosure for uncertainty in tax positions, as defined. FIN 48 seeks to reduce the diversity in practice associated with certain aspects of the recognition and measurement related to accounting for income taxes. This interpretation was adopted effective January 1, 2007, and did not have a material impact on results of operation or financial position.

In September 2006, the FASB issued SFAS No. 157, Fair Value Measurements (“SFAS No. 157”). SFAS No. 157 enhances existing guidance for measuring assets and liabilities using fair value. Prior to the issuance of SFAS No. 157, guidance for applying fair value was incorporated in several accounting pronouncements. SFAS No. 157 provides a single definition of fair value, together with a framework for measuring it, and requires additional disclosure about the use of fair value to measure assets and liabilities. SFAS No. 157 also emphasizes that fair value is a market-based measurement, not an entity-specific measurement, and sets out a fair value hierarchy with the highest priority being quoted prices in active markets. Under SFAS No. 157, fair value measurements are disclosed by level within that hierarchy. While SFAS No. 157 does not add any new fair value measurements, it does change current practice. Changes to practice include: (1) a requirement for an entity to include its own credit standing in the measurement of its liabilities; (2) a modification of the transaction price presumption; (3) a prohibition on the use

 

18


CITIZENS HOLDING COMPANY AND SUBSIDIARY

Years Ended December 31, 2007, 2006, and 2005

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

 

Note 1. Continued

 

of block discounts when valuing large blocks of securities for broker-dealers and investment companies; and (4) a requirement to adjust the value of restricted stock for the effect of the restriction even if the restriction lapses within one year. SFAS No. 157 is effective for financial statements issued for fiscal years beginning after November 15, 2007, and interim periods within

those fiscal years. The Company does not expect the adoption of SFAS No. 157 to have a material effect on the Company’s financial condition or results of operations.

In February 2007, the FASB issued SFAS No. 159, Establishing the Fair Value Option for Financial Assets and Liabilities (“SFAS No. 159”). The FASB has issued SFAS No. 159 to permit all entities to choose to elect, at specified election dates, to measure eligible financial instruments at fair value. An entity shall report unrealized gains and losses on items for which the fair value option has been elected in earnings at each subsequent reporting date, and recognize upfront costs and fees related to those items in earnings as incurred and not deferred. SFAS No. 159 applies to fiscal years beginning after November 15, 2007, with early adoption permitted for an entity that has also elected to apply the provisions of SFAS No. 157, Fair Value Measurements. An entity is prohibited from retrospectively applying SFAS No. 159, unless it chooses early adoption. SFAS No. 159 also applies to eligible items existing at November 15, 2007 (or early adoption date). The Company does not expect the adoption of SFAS No. 159 to have a material effect on the Company’s financial condition or results of operations.

In December 2007, the FASB issued Statement No. 141(R), Business Combinations (“Statement 141R”) which replaces Statement No. 141, Business Combinations (“Statement 141”). Statement 141R retains the fundamental requirements in Statement 141 that the acquisition method of accounting (formerly referred to as purchase method) be used for all business combinations and that an acquirer be identified for each business combination. Statement 141R defines the acquirer as the entity that obtains control of one or more businesses in the business combination and establishes the acquisition date as of the date that the acquirer achieves control. Statement 141R requires an acquirer to recognize the assets acquired, the liabilities assumed, and any noncontrolling interest in the acquiree at the acquisition date, measured at their fair values. Statement 141R requires the acquirer to acquisition related costs and restructuring costs separately from the business combination as period expense. This Statement is effective for business combinations for which the acquisition date is on or after the beginning of the first annual reporting period beginning on or after December 15, 2008. The adoption of this statement will impact the accounting and reporting of acquisitions after January 1, 2008.

 

19


CITIZENS HOLDING COMPANY AND SUBSIDIARY

Years Ended December 31, 2007, 2006, and 2005

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

 

Note 1. Continued

 

In December 2007, the FASB issued Statement No. 160, Noncontrolling Interest in Consolidated Financial Statements – an Amendment to ARB No 51 (“Statement 160”). Statement 160 establishes new accounting and reporting standards that require the ownership interests in the subsidiaries held by parties other than the parent be clearly identified, labeled and presented in the consolidated statement of financial position within equity, but separate from the parent’s equity. Statement 160 also requires the amount of consolidated net income attributable to the parent and to the noncontrolling interest be clearly identified and presented on the face of the consolidated statement of income. In addition, when a subsidiary is deconsolidated, any retained noncontrolling equity investment in the former subsidiary shall be initially measured at fair value, with the gain or loss on the deconsolidation of the subsidiary measured using the fair value of any noncontrolling equity investment rather than the carrying amount of that retained investment. Statement 160 also clarifies that changes in a parent’s ownership in a subsidiary that do not result in deconsolidation are equity transactions if the parent retains its controlling financial interest. Statement 160 also includes expanded disclosure requirements regarding the interests of the parent and it noncontrolling interest. Statement 160 is effective for fiscal years, and interim periods within those fiscal years, beginning on or after December 15, 2008. Early adoption is prohibited. The Company is currently in the process of evaluating the impact of adopting Statement 160 on its financial statements.

Reclassifications

Certain information for 2006 and 2005 has been reclassified to conform to the financial presentation for 2007. Such reclassifications are not considered material and had no effect on net income or stockholders’ equity.

 

20


CITIZENS HOLDING COMPANY AND SUBSIDIARY

Years Ended December 31, 2007, 2006, and 2005

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

 

Note 2. Intangible Assets

 

In 2002, the Company acquired CB&T Capital Corporation, a one-bank holding company, whose wholly-owned subsidiary was Citizens Bank & Trust Company in Louisville, Mississippi. In addition to the intangible assets related to the purchase of CB&T Capital Corporation, the Company recorded intangible assets from the purchase of branches located in Kosciusko, Scooba, Forest and Decatur, Mississippi along with the purchase of Three D Mortgage Company. The following table details the goodwill associated with each purchase, which is no longer being amortized.

 

Purchase

   Total    Life to Date
Amortization
   Unamortized

Kosciusko Branch

   $ 605,122    $ 309,285    $ 295,837

Scooba Branch

     400,000      180,000      220,000

Three D Mortgage Company

     76,408      10,188      66,220

CB&T Capital Corporation

     2,567,600      —        2,567,600
                    

Total goodwill

   $ 3,649,130    $ 499,473    $ 3,149,657
                    

The Company has also allocated intangible assets to be recognized as core deposit intangibles on the acquisition of the Forest and Decatur branches and the CB&T Capital Corporation acquisition. These transactions are detailed in the following table.

 

Purchase

   Total    Current
Amortization
Per Year
   Life to Date
Amortization
   Unamortized

Decatur and Forest branches

   $ 2,487,574    $ 352,812    $ 2,237,879    $ 249,695

CB&T Capital Corporation

     1,846,909      184,691      1,031,191      815,718
                           

Total core deposit intangible

   $ 4,334,483    $ 537,503    $ 3,269,070    $ 1,065,413
                           

Total amortization expense related to all intangible assets for the years ended December 31, 2007, 2006 and 2005 was $537,503, $537,503 and $537,503, respectively. Estimated amortization expense attributable to core deposit intangible assets for the next five years is detailed in the table below. The Company has not added any intangibles during the last three years.

 

Year Ending December 31,

   Amount

2008

   $ 434,386

2009

     184,691

2010

     184,691

2011

     184,691

2012

     76,954

 

21


CITIZENS HOLDING COMPANY AND SUBSIDIARY

Years Ended December 31, 2007, 2006, and 2005

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

 

Note 3. Investment Securities

 

The amortized cost and fair value of investment securities at December 31, 2007 and 2006 are as follows:

 

2007

   Amortized Cost    Gross
Unrealized
Gains
   Gross
Unrealized
Losses
   Fair Value

Securities available-for-sale

           

Obligations of U.S. Government agencies

   $ 26,765,446    $ 276,179    $ —      $ 27,041,625

Mortgage-backed securities

     68,642,027      161,228      334,015      68,469,240

Other investments

     150,002,722      537,537      1,330,757      149,209,502
                           

Total

   $ 245,410,195    $ 974,944    $ 1,664,772    $ 244,720,367
                           

 

2006

   Amortized Cost    Gross
Unrealized
Gains
   Gross
Unrealized
Losses
   Fair Value

Securities available-for-sale

           

Obligations of U.S. Government agencies

   $ 11,935,669    $ 21,078    $ 243,627    $ 11,713,120

Mortgage-backed securities

     69,853,177      29,971      938,531      68,944,617

Other investments

     93,661,364      1,043,934      745,886      93,959,412
                           

Total

   $ 175,450,210    $ 1,094,983    $ 1,928,044    $ 174,617,149
                           

The following table shows the gross unrealized losses and fair value of the Company’s investments with unrealized losses that are not deemed to be other-than-temporarily impaired (in thousands), aggregated by investment category and length of time that individual securities have been in a continuous unrealized loss position, at December 31, 2007 and 2006, in thousands.

 

22


CITIZENS HOLDING COMPANY AND SUBSIDIARY

Years Ended December 31, 2007, 2006, and 2005

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

 

Note 3. Continued

 

December 31, 2007

   Less than 12 months    12 months or more    Total

Description of Securities

   Fair
Value
   Unrealized
Losses
   Fair
Value
   Unrealized
Losses
   Fair
Value
   Unrealized
Losses

Obligations of U. S. Government agencies

   $ —      $ —      $ —      $ —      $ —      $ —  

Mortgage-backed securities

     7,683      37      34,923      297      42,606      334

Other investments

     11,857      334      28,659      997      40,516      1,331
                                         

Total

   $ 19,540    $ 371    $ 63,582    $ 1,294    $ 83,122    $ 1,665
                                         

 

December 31, 2006

   Less than 12 months    12 months or more    Total

Description of Securities

   Fair
Value
   Unrealized
Losses
   Fair
Value
   Unrealized
Losses
   Fair Value    Unrealized
Losses

Obligations of U. S. Government agencies

   $ —      $ —      $ 10,761    $ 244    $ 10,761    $ 244

Mortgage-backed securities

     24,310      164      38,475      774      62,785      938

Other investments

     7,085      164      26,070      582      33,155      746
                                         

Total

   $ 31,395    $ 328    $ 75,306    $ 1,600    $ 106,701    $ 1,928
                                         

Mortgage-backed Securities. The unrealized losses on the Company’s investment in mortgage-backed securities were caused by interest rate increases. The contractual cash flows of these investments are guaranteed either by the full faith and credit of the United States or by an agency of the United States Government and it is not expected that the securities would be settled at a price less than the amortized cost of the Company’s investment. Because the decline in fair value is attributable to changes in interest rates and not credit quality and because the Company has the ability and intent to hold these investments until a recovery of fair value, which may be maturity, the Company does not consider these investments to be other-than-temporarily impaired at December 31, 2007 or 2006.

Other investments. The Company’s unrealized loss on other investments relates to state, county and municipal bonds that have seen a decline in value due to changes in interest rates. It is not expected that these securities would be settled at a price less than amortized cost of the Company’s investment. Because the decline in fair value is attributable to changes in interest rates and not credit quality and because the Company has the ability and intent to hold these investments until a recovery of fair value, which may be at maturity, the Company does not consider these investments to be other-than-temporarily impaired at December 31, 2007 or 2006.

 

23


CITIZENS HOLDING COMPANY AND SUBSIDIARY

Years Ended December 31, 2007, 2006, and 2005

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

 

Note 3. Continued

 

The amortized cost and estimated fair value of securities at December 31, 2007, by contractual maturity, are shown below. Expected maturities will differ from contractual maturities because borrowers may have the right to call or prepay obligations with or without call or prepayment penalties.

 

     Amortized
Cost
   Fair Value

Securities available-for-sale

     

Due in one year or less

   $ 74,293,984    74,295,674

Due after one year through five years

     11,584,994    11,659,854

Due after five years through ten years

     32,128,595    32,250,254

Due after ten years

     127,402,622    126,514,585
           

Total

   $ 245,410,195    244,720,367
           

Investment securities with carrying values of $110,510,441 and $107,357,331 at December 31, 2007 and 2006, respectively, were pledged as collateral for public deposits.

Gross realized gains and losses are included in other income. Total gross realized gains and gross realized losses from the sale of investment securities for each of the years ended December 31 were:

 

     2007     2006     2005

Gross realized gains

   $ 192,197     $ 12,917     $ —  

Gross realized losses

     (162,858 )     (25,235 )     —  
                      
   $ 29,339     $ (12,318 )   $       —  
                      

 

Note 4. Federal Home Loan Bank Stock

The Company, as a member of the Federal Home Loan Bank of Dallas (“FHLB”) system, owns stock in such organization. No ready market exists for the stock, and it has no quoted market value. The Company’s investment in the FHLB is carried at cost of $2,592,400 and $3,301,100 at December 31, 2007 and 2006, respectively, and is included in other investments.

 

24


CITIZENS HOLDING COMPANY AND SUBSIDIARY

Years Ended December 31, 2007, 2006, and 2005

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

 

Note 5. Loans

 

The composition of net loans at December 31, 2007 and 2006 is as follows:

 

     2007     2006  
     (In Thousands)  

Commercial, financial and agricultural loans

   $ 177,822     $ 186,202  

Real estate – construction loans

     18,820       11,047  

Real estate – mortgage loans

     119,172       115,203  

Consumer loans

     56,680       61,572  
                
     372,494       374,024  

Unearned discount

     (501 )     (1,031 )

Allowance for loan losses

     (3,968 )     (3,712 )
                

Loans, net

   $ 368,025     $ 369,281  
                

Loans are made principally to customers in the Company’s trade area. The Company’s lending policy provides that loans collateralized by real estate are normally made with loan-to-loan value ratios of 80 percent or less. Commercial loans are typically collateralized by property, equipment, inventories and/or receivables with loan-to-value ratios from 50 percent to 80 percent. Real estate mortgage loans are collateralized by personal residences with loan-to-value ratios of 80 percent or less. Consumer loans are typically collateralized by real estate, vehicles and other consumer durable goods. Approximately $50.7 million and $58.4 million of the loans outstanding at December 31, 2007 and 2006, respectively, were variable rate loans.

 

25


CITIZENS HOLDING COMPANY AND SUBSIDIARY

Years Ended December 31, 2007, 2006, and 2005

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

 

Note 5. Continued

 

Changes in the allowance for loan losses at December 31, 2007, 2006 and 2005 are as follows:

 

     2007     2006     2005  

Balance, beginning

   $ 3,712,375     $ 4,561,817     $ 4,720,875  

Provision for loan losses

     784,120       (360,910 )     1,084,326  

Loans charged off

     (886,798 )     (780,040 )     (1,567,186 )

Recoveries of loans previously charged off

     358,254       291,508       323,802  
                        

Balance, end of year

   $ 3,967,951     $ 3,712,375     $ 4,561,817  
                        

Loans on nonaccrual (impaired) status were $1,441,251, $1,628,651 and $4,346,512 at December 31, 2007, 2006 and 2005, respectively. Allowance for loan losses attributable to the entire balance of nonaccrual (impaired) loans totaled $149,972 and $491,301 at December 31, 2007 and 2006, respectively. Interest income forgone on loans classified as nonaccrual (impaired) during the years ended December 31, 2007, 2006 and 2005 was $102,452, $122,706 and $348,804, respectively.

 

Note 6. Bank Premises, Furniture, Fixtures and Equipment

Bank premises, furniture, fixtures and equipment consist of the following at December 31, 2007 and 2006:

 

     2007    2006

Land and buildings

   $ 15,977,762    $ 13,635,092

Furniture, fixtures and equipment

     10,666,590      9,758,542
             
     26,644,352      23,393,634

Less accumulated depreciation

     12,355,555      11,287,178
             

Total

   $ 14,288,797    $ 12,106,456
             

Depreciation expense for the years ended December 31, 2007, 2006 and 2005 was $1,068,377, $950,340 and $1,024,320, respectively.

 

26


CITIZENS HOLDING COMPANY AND SUBSIDIARY

Years Ended December 31, 2007, 2006, and 2005

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

 

Note 7. Deposits

 

The composition of deposits is as follows:

 

     2007    2006

Non-interest bearing

   $ 78,224,936    $ 82,867,220

NOW and money market accounts

     144,302,273      152,988,036

Savings deposits

     29,763,885      32,636,927

Time certificates, $100,000 or more

     101,806,688      76,352,424

Other time certificates

     123,134,522      127,002,649
             

Total

   $ 477,232,304    $ 471,847,256
             

The scheduled maturities of certificates of deposit at December 31, 2007 are as follows:

 

Year Ending

December 31,

   Amount

2008

   $ 207,764,513

2009

     10,946,552

2010

     6,104,161

2011

     77,634

2012

     48,350
      
   $ 224,941,210
      

Interest expense for certificates of deposit over $100,000 was approximately $4,193,000, $2,902,000 and $2,074,000 for the years ended December 31, 2007, 2006 and 2005, respectively.

 

27


CITIZENS HOLDING COMPANY AND SUBSIDIARY

Years Ended December 31, 2007, 2006, and 2005

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

 

Note 8. Federal Home Loan Bank Advances

 

Pursuant to collateral agreements with the FHLB, advances are collateralized by all the Company’s stock, FHLB securities ($2,592,400 included in securities available-for-sale at December 31, 2007) and qualifying first mortgage and other loans. As of December 31, 2007, the balance in qualifying first mortgage and other loans was $121,841,868. At December 31, 2007, advances from the FHLB, along with their rate and maturity date, consist of the following:

 

Advance Amount at
December 31,
 

Interest

Rate

 

 Final Maturity    

2007

 

2006

   
$ —     $ 10,000,000   5.37   May 25, 2007
  5,000,000     5,000,000   5.46   February 26, 2008
  5,000,000     5,000,000   5.66   April 28, 2008
  15,000,000     15,000,000   4.50   June 23, 2008
  3,000,000     3,000,000   5.24   April 20, 2009
  2,000,000     2,000,000   5.29   April 20, 2009
  2,000,000     2,000,000   4.47   September 7, 2010
  2,000,000     2,000,000   4.88   August 22, 2011
  1,000,000     1,000,000   4.76   August 29, 2011
  900,000     900,000   4.43   September 19, 2011
  10,000,000     10,000,000   3.66   June 17, 2013
  3,500,000     3,500,000   4.67   December 16, 2014
             
  $49,400,000   $ 59,400,000    
             

The scheduled payments for the next five years are as follows:

 

Year Due

   Payment

2008

   $ 25,000,000

2009

     5,000,000

2010

     2,000,000

2011

     3,900,000

2012

     —  

Thereafter

     13,500,000
      
   $ 49,400,000
      

 

28


CITIZENS HOLDING COMPANY AND SUBSIDIARY

Years Ended December 31, 2007, 2006, and 2005

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

 

Note 9. Other Income and Other Expense

 

The following is a detail of the major income classifications that are included in other income under non-interest income on the income statement.

 

Other Income

   2007    2006    2005

BOLI Insurance

   $ 714,601    $ 553,477    $ 485,890

Mortgage Loan Origination Fees

     319,044      407,426      380,049

Other Income

     2,092,988      855,143      728,872
                    

Total Other Income

   $ 3,126,633    $ 1,816,046    $ 1,594,811
                    

The following is a detail of the major expense classifications that comprise the other expense line item in the income statement.

 

Other Expense

   2007    2006    2005

Intangible Amortization

   $ 537,503    $ 537,503    $ 537,503

Advertising

     551,998      482,540      495,579

Office Supplies

     576,358      515,958      559,442

Legal and Audit Fees

     350,971      452,064      404,183

Telephone Expense

     418,681      377,716      398,435

Other Expenses

     3,256,312      3,081,190      2,496,554
                    

Total Other Expense

   $ 5,691,823    $ 5,446,971    $ 4,891,696
                    

 

Note 10. Income Taxes

The consolidated provision for income taxes consists of the following:

 

     2007     2006     2005  

Currently payable

      

Federal

   $ 1,971,014     $ 2,559,846     $ 2,250,896  

State

     308,964       446,561       425,520  
                        
     2,279,978       3,006,407       2,676,416  

Deferred tax benefit

     (311,868 )     (169,994 )     (310,432 )
                        

Income tax expense

   $ 1,968,110     $ 2,836,413     $ 2,365,984  
                        

 

29


CITIZENS HOLDING COMPANY AND SUBSIDIARY

Years Ended December 31, 2007, 2006, and 2005

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

 

Note 10. Continued

 

The differences between income taxes calculated at the federal statutory rate and income tax expense were as follows:

 

     2007     2006     2005  

Federal taxes based on statutory rate

   $ 3,019,997     $ 3,818,519     $ 3,512,919  

State income taxes, net of federal benefit

     203,916       294,730       280,843  

Tax-exempt investment interest

     (940,489 )     (1,070,432 )     (1,067,853 )

Other, net

     (315,314 )     (206,404 )     (359,925 )
                        

Income tax expense

   $ 1,968,110     $ 2,836,413     $ 2,365,984  
                        

At December 31, 2007 and 2006, net deferred tax assets consist of the following:

 

     2007    2006

Deferred tax assets

     

Allowance for loan losses

   $ 1,480,046    $ 1,384,716

Deferred compensation liability

     1,115,247      1,007,020

Unrealized loss on available-for-sale securities

     257,306      310,732

Intangible assets

     127,201      —  

Other

     72,191      67,728
             

Total

     3,051,991      2,770,196

Deferred tax liabilities

     

Premises and equipment

     1,030,258      507,826

Intangible assets

     —        13,713

Other

     790,975      717,424
             

Total

     1,821,233      1,238,963
             

Net deferred tax asset

   $ 1,230,758    $ 1,531,233
             

The net deferred tax asset of $1,230,758 and $1,531,233 at December 31, 2007 and 2006, respectively, is included in other assets. The Company has evaluated the need for a valuation allowance related to the above deferred tax assets and, based on the weight of the available evidence, has determined that it is more likely than not that all deferred tax assets will be realized.

 

30


CITIZENS HOLDING COMPANY AND SUBSIDIARY

Years Ended December 31, 2007, 2006, and 2005

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

 

Note 10. Continued

 

FASB Interpretation 48, “Accounting for Income Tax Uncertainties” (“FIN 48”), was issued in June 2006 and defines the threshold for recognizing the benefits of tax return positions in the financial statements as “more-likely-than-not” to be sustained by the taxing authority. FIN 48 also provides guidance on the derecognition, measurement and classification for income tax uncertainties, along with any related interest and penalties, and includes guidance concerning accounting for income tax uncertainties in interim periods. The Company adopted the provisions of FIN 48, on January 1, 2007, and determined that were was no need to make an adjustment to retained earnings upon adoption of FIN 48. As of December 31, 2007, the Company has no unrecognized tax benefits related to federal and state income tax matters. If ultimately recognized, the Company does not anticipate any material increase in the effective tax rate during 2007 relative to any tax positions taken prior to January 1, 2007. As of December 31, 2007, the Company has not accrued for interest and penalties related to uncertain tax positions. It is the Company’s policy to recognize interest and/or penalties related to income tax matters in income tax expense.

The Company and its subsidiaries file a consolidated U. S. federal income tax return. The Company is currently open to audit under the statute of limitations by the Internal Revenue Service for the years ended December 31, 2004 through 2007. The Company and its subsidiaries; state income tax returns are open to audit under the statute of limitations for the year ended December 31, 2004 through 2007.

 

31


CITIZENS HOLDING COMPANY AND SUBSIDIARY

Years Ended December 31, 2007, 2006, and 2005

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

 

Note 11. Summarized Financial Information of Citizens Holding Company

 

Summarized financial information of Citizens Holding Company, parent company only, at December 31, 2007 and 2006, and for the years ended December 31, 2007, 2006 and 2005, is as follows:

Balance Sheets

December 31, 2007 and 2006

 

     2007    2006

Assets

     

Cash (1)

   $ 955,232    $ 1,783,950

Investment in bank subsidiary (1)

     67,157,467      67,830,998

Other assets (1)

     78,733      53,925
             

Total assets

   $ 68,191,432    $ 69,668,873
             

Liabilities

     

Other liabilities

   $ —      $ 3,600

Stockholders’ equity

     68,191,432      69,665,273
             

Total liabilities and stockholders’ equity

   $ 68,191,432    $ 69,668,873
             

 

(1) Eliminates in consolidation.

 

32


CITIZENS HOLDING COMPANY AND SUBSIDIARY

Years Ended December 31, 2007, 2006, and 2005

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

 

Note 11. Continued

 

Income Statements

Years Ended December 31, 2007, 2006 and 2005

 

     2007     2006     2005  

Interest income

   $ 8,889     $ 13,577     $ 30,359  
                        

Other income

      

Dividends from bank subsidiary (1)

     6,251,760       3,498,167       3,265,783  

Equity in undistributed earnings of bank subsidiary (1)

     749,262       4,987,588       4,717,327  
                        

Total other income

     7,009,911       8,485,755       7,983,110  
                        

Other expense

     147,302       158,733       58,468  
                        

Income before income taxes

     6,862,609       8,340,599       7,955,001  

Income tax expense (benefit)

     (51,625 )     (53,925 )     (11,131 )
                        

Net income

   $ 6,914,234     $ 8,394,524     $ 7,966,132  
                        

 

(1) Eliminates in consolidation.

Statements of Cash Flows

Years Ended December 31, 2007, 2006 and 2005

 

     2007     2006     2005  

Cash flows from operating activities

      

Net income

   $ 6,914,234     $ 8,394,524     $ 7,966,132  

Adjustments to reconcile net income to net cash provided by operating activities

      

Equity in undistributed earnings of Bank

     (749,263 )     (4,987,588 )     (4,717,327 )

Decrease in other assets

     42,164       11,836       13,961  

(Decrease) increase in other liabilities

     (3,600 )     1,200       (36,603 )
                        

Net cash provided by operating activities

     6,203,535       3,419,972       3,226,163  
                        

Cash flows from investing activities

      

Other

     —         —         300,890  
                        

Net cash provided by investing activities

     —         —         300,890  
                        

 

33


CITIZENS HOLDING COMPANY AND SUBSIDIARY

Years Ended December 31, 2007, 2006, and 2005

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

 

Note 11. Continued

 

     2007     2006     2005  

Cash flows from financing activities

      

Dividends paid to stockholders

   $ (3,576,655 )   $ (3,461,509 )   $ (3,254,591 )

Proceeds from exercise of stock options

     26,555       311,160       131,595  
                        

Net cash used by financing activities

     (3,482,153 )     (3,150,349 )     (3,122,996 )
                        

Net increase in cash

     (828,718 )     269,623       404,057  
                        

Cash, beginning of year

     1,783,950       1,514,327       1,110,270  
                        

Cash, end of year

   $ 955,232     $ 1,783,950     $ 1,514,327  
                        

The Bank is required to obtain approval from state regulators before paying dividends. The Bank paid dividends of $6,251,760, $3,498,167 and $3,265,783 to the Citizens Holding Company during the years ended December 31, 2007, 2006 and 2005, respectively.

 

Note 12. Related Party Transactions

The Company had, and may be expected to have in the future, banking transactions in the ordinary course of business with directors, significant stockholders, principal officers, their immediate families, and affiliated companies in which they are principal stockholders (commonly referred to as related parties). In management’s opinion, such loans are made on substantially the same terms, including interest rates and collateral, as those prevailing at the time for comparable transactions with unrelated parties, and do not involve more than the normal risk of collectibility at the time of the transaction.

The balance of loans made to related parties at December 31, 2007 and 2006 was $309,044 and $336,995, respectively. Advances to related parties during the year ended December 31, 2007 and 2006 totaled $241,864 and $193,308, respectively. Payments received from related parties during the year ended December 31, 2007 and 2006 totaled $269,815 and $212,011.

Deposits from related parties at December 31, 2007 and 2006 approximated $3,239,609 and $2,649,575, respectively.

 

34


CITIZENS HOLDING COMPANY AND SUBSIDIARY

Years Ended December 31, 2007, 2006, and 2005

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

 

Note 13. Off-Balance Sheet Financial Instruments, Commitments and Contingencies and Concentrations of Risks

 

Commitments to Extend Credit

In the ordinary course of business, the Company makes various commitments and incurs certain contingent liabilities to fulfill the financing needs of its customers. These commitments and contingent liabilities include commitments to extend credit and issue standby letters of credit. They involve, to varying degrees, elements of credit risk in excess of the amount recognized in the balance sheets. The Company’s exposure to credit loss in the event of nonperformance by the other party to the financial instrument for commitments to extend credit and standby letters of credit is represented by the contractual amount of those instruments. At December 31, 2007 and 2006, commitments related to unused lines of credit were $27,293,147 and $22,150,442, respectively, and standby letters of credit were $437,918 and $955,218, respectively. The fair value of such commitments is not materially different than stated values. As some of these commitments are expected to expire without being drawn upon, the total commitment amount does not necessarily represent future cash requirements. The Company applies the same credit policies and standards as it does in the lending process when making these commitments. The collateral obtained is based upon the assessed credit worthiness of the borrower. Collateral held varies, but may include accounts receivable, crops, livestock, inventory, property and equipment, residential real estate and income-producing commercial properties.

Interest Rate Risk

The Company is principally engaged in providing short-term and medium-term installment, commercial and agricultural loans with interest rates that are fixed or fluctuate with the prime lending rate. These assets are primarily funded through short-term demand deposits and long-term certificates of deposit with variable and fixed rates. Accordingly, the Company is exposed to interest rate risk because, in changing interest rate environments, interest rate adjustments on assets and liabilities may not occur at the same time or in the same amount. The Company manages the overall rate sensitivity and mix of its asset and liability portfolio and attempts to minimize the effects that interest rate fluctuations will have on its net interest margin.

Legal Proceedings

The Company is party to lawsuits and other claims that arise in the ordinary course of business. The lawsuits assert claims related to the general business activities of the Company. The cases are being vigorously contested. In the regular course of business, management evaluates estimated losses or costs related to litigation, and provision is made for anticipated losses whenever management believes that such losses are probable and can be reasonably estimated. While management believes that the final resolution of pending legal proceedings will not have a material impact on the Company’s financial position or results of operations, the final resolution of such proceedings could have such a material adverse effect.

 

35


CITIZENS HOLDING COMPANY AND SUBSIDIARY

Years Ended December 31, 2007, 2006, and 2005

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

 

Note 13. Continued

 

Concentration of Risk

The Company makes agricultural, agribusiness, commercial, residential and consumer loans primarily in eastern central Mississippi. A substantial portion of the Company’s customers’ abilities to honor their contracts is dependent on the business and agricultural economy in that area.

Although the Company’s loan portfolio is diversified, there is a relationship in this region between the agricultural economy and the economic performance of loans made to nonagricultural customers. The Company’s lending policies for agricultural and nonagricultural customers require loans to be well-collateralized and supported by cash flows. Collateral for agricultural loans includes equipment, crops, livestock, and land. Credit losses from loans related to the agricultural economy are consistent with credit losses experienced in the portfolio as a whole. The concentration of credit in the regional agricultural economy is taken into consideration by management in determining the allowance for loan losses. See Note 5 for a summary of loans by type.

The nature of the Company’s business requires that it maintain amounts due from banks, which at times may exceed federally insured limits. The Company has not experienced any losses in such accounts.

 

Note 14. Lease Commitment and Total Rental Expense

The Company has operating leases under noncancellable operating lease agreements for banking facilities and equipment. Future minimum rental payments due under the leases are as follows:

 

Years Ending December 31,

   Amounts

2008

   $ 153,534

2009

     151,531

2010

     151,531

2011

     142,816

2012

     125,600
      
   $ 725,012
      

The total rental expense included in the income statements for the years ended December 31, 2007, 2006 and 2005 is $75,926, $65,625, and $63,398, respectively.

 

36


CITIZENS HOLDING COMPANY AND SUBSIDIARY

Years Ended December 31, 2007, 2006, and 2005

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

 

Note 15. Benefit Plans

 

The Company provides its employees with a profit sharing and savings plan, which allows employees to direct a percentage of their compensation into a tax deferred retirement account, subject to statutory limitations. To encourage participation, the Company provides a 100 percent matching contribution for up to 6 percent of each participant’s compensation, plus discretionary non-matching contributions. Employees are eligible after one year of service. For 2007, 2006 and 2005, the Company’s contributions were $558,340, $523,270 and $516,555, respectively.

Deferred Compensation Plans

The Company provides a deferred compensation plan covering its directors. Participants in the deferred compensation plan can defer a portion of their compensation for payment after attaining age 70. Life insurance contracts have been purchased which may be used to fund payments under the plan. Net expenses related to this plan were $127,577, $192,651 and $144,158 for the plan years ended December 31, 2007, 2006 and 2005, respectively.

The Company has also entered into deferred compensation arrangements with certain officers that provide for payments to such officers or their survivors after retirement. Life insurance policies have been purchased which may be used to fund payments under these arrangements. The obligations of the Company under both the directors and officers deferred compensation arrangements are on a systematic basis over the remaining expected service period of the individual directors and officers.

 

Note 16. Regulatory Matters

The Company (on a consolidated basis) and the Bank are subject to various regulatory capital requirements administered by federal banking agencies. Failure to meet the minimum regulatory capital requirements can initiate certain mandatory, and possible additional discretionary actions by regulators that, if undertaken, could have a direct material affect on the Company.

 

37


CITIZENS HOLDING COMPANY AND SUBSIDIARY

Years Ended December 31, 2007, 2006, and 2005

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

 

Note 16. Continued

 

Under the regulatory capital adequacy guidelines and the regulatory framework for prompt corrective action, the Company must meet specific capital guidelines involving quantitative measures of the Company’s assets, liabilities and certain off-balance sheet items as calculated under regulatory accounting practices. The Company’s capital amounts and classification under the prompt corrective action guidelines are also subject to qualitative judgments by the regulators about components, risk weightings, and other factors. Quantitative measures established by regulation to ensure capital adequacy require the Company to maintain minimum amounts and ratios of total capital and Tier I capital to risk-weighted assets (as defined in the regulations) and Tier I capital to average assets (as defined in the regulations). Management believes, as of December 31, 2007, that the Company and the Bank meet all capital adequacy requirements to which they are subject.

As of December 31, 2007 and 2006, the most recent regulatory notification categorized the Bank as well capitalized. There have been no conditions or events that would cause changes to the capital structure of the Company since this notification. To continue to be categorized as well capitalized under the regulatory framework for prompt corrective action, the Company would have to maintain minimum total risk-based, Tier I risk-based, and Tier I leverage ratios as disclosed below, in comparison with actual capital amounts and ratios:

 

     Actual     For Capital
Adequacy Purposes
    To Be Well
Capitalized under Prompt
Corrective Action Provisions
 
     Amount    Ratio     Amount    Ratio     Amount    Ratio  

As of December 31, 2007

               

Total Capital (to Risk-Weighted Assets)

               

Citizens Holding Company

   $ 68,376,835    17.06 %   $ 32,066,762    8 %   $ N/A    —    

Citizens Bank

     67,342,869    16.80       32,058,795    8       40,073,493    10 %

Tier I Capital (to Risk-Weighted Assets)

               

Citizens Holding Company

     64,408,884    16.07       16,033,381    4       N/A    —    

Citizens Bank

     63,374,918    15.81       16,029,397    4       24,044,096    6  

Tier I Capital (to Average Assets)

               

Citizens Holding Company

     64,408,884    9.98       25,820,254    4       N/A    —    

Citizens Bank

     63,374,918    9.79       25,894,058    4       32,367,573    5  

 

38


CITIZENS HOLDING COMPANY AND SUBSIDIARY

Years Ended December 31, 2007, 2006, and 2005

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

 

Note 16. Continued

 

     Actual     For Capital
Adequacy Purposes
    To Be Well
Capitalized under Prompt
Corrective Action Provisions
 
     Amount    Ratio     Amount    Ratio     Amount    Ratio  

As of December 31, 2006

               

Total Capital (to Risk-Weighted Assets)

               

Citizens Holding Company

   $ 70,618,305    18.32 %   $ 30,829,550    8 %   $ N/A    —    

Citizens Bank

     68,795,198    17.85       30,825,236    8       38,531,545    10 %

Tier I Capital (to Risk-Weighted Assets)

               

Citizens Holding Company

     66,905,930    17.36       15,414,775    4       N/A    —    

Citizens Bank

     65,082,824    16.89       15,412,618    4       23,118,927    6  

Tier I Capital (to Average Assets)

               

Citizens Holding Company

     66,905,930    11.30       23,683,458    4       N/A    —    

Citizens Bank

     65,082,824    11.00       23,670,190    4       29,587,738    5  

 

Note 17. Fair Values of Financial Instruments

The following represents the carrying value and estimated fair value of the Company’s financial instruments at December 31, 2007 and 2006:

 

     2007    2006
     Carrying
Amount
   Fair Value    Carrying
Amount
   Fair Value

Financial assets

           

Cash and due from banks

   $ 18,622,058    $ 18,622,058    $ 15,449,434    $ 15,449,434

Interest bearing deposits with banks

     612,938      612,938      396,811      396,811

Federal funds sold

     900,000      900,000      15,200,000      15,200,000

Securities available-for-sale

     244,720,367      244,720,367      174,617,419      174,617,419

Net loans

     368,025,286      367,012,621      369,280,664      368,758,573

Accrued interest receivable

     5,210,201      5,210,201      5,015,574      5,015,574

Financial liabilities

           

Deposits

   $ 477,232,304    $ 477,627,672    $ 471,847,256    $ 472,088,286

Federal Home Loan Bank advances

     49,400,000      49,418,909      59,400,000      58,410,468

Accrued interest payable

     1,915,232      1,915,232      1,153,890      1,153,890

Federal funds purchased

     4,200,000      4,200,000      —        —  

Sweep account liability

     74,963,424      74,963,424      12,767,483      12,767,483

The fair value estimates, methods and assumptions used by the Company in estimating its fair value disclosures for financial instruments were:

 

39


CITIZENS HOLDING COMPANY AND SUBSIDIARY

Years Ended December 31, 2007, 2006, and 2005

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

 

Note 17. Continued

 

Cash and Due from Banks and Interest Bearing Deposits with Banks

The carrying amounts reported in the balance sheet for these instruments approximate those assets’ fair values because of their immediate and shorter-term maturities.

Securities Available-for-Sale

Fair values for investment securities are based on quoted market prices, where available. If quoted market prices are not available, fair values are based on quoted market prices of comparable instruments.

Net Loans

For variable-rate loans that reprice frequently and with no significant change in credit risk, fair values are based on carrying values. The fair values for other loans (i.e., commercial real estate and rental property mortgage loans, commercial and industrial loans, financial institution loans, and agricultural loans) are estimated using discounted cash flow analyses, using interest rates currently being offered for loans with similar terms to borrowers of similar credit quality. The carrying amount of accrued interest receivable approximates its fair value.

Federal Funds Sold and Purchased; Sweep Account Liability

Due to the short term nature of these instruments, the carrying amount is equal to the fair value.

Deposits

The fair values for demand deposits, NOW and money market accounts and savings accounts are, by definition, equal to the amount payable on demand at the reporting date (i.e., their carrying amounts). The carrying amounts for variable-rate, fixed-term money market accounts and time deposits approximate their fair values at the reporting date. Fair values for fixed-rate time deposits are estimated using a discounted cash flow calculation that applies interest rates currently being offered on certificates to a schedule of aggregated expected monthly maturities on time deposits. The carrying amount of accrued interest payable approximates its fair value.

Federal Home Loan Bank Borrowings

The fair value of the portion of FHLB advances that matures within 90 days approximates its fair value. For longer term maturities, the fair value is based on discounted cash flow analysis.

Off-Balance Sheet Instruments

The fair value of commitments to extend credit and letters of credit are estimated using fees currently charged to enter into similar agreements. The fees associated with these financial instruments are not material.

 

40


CITIZENS HOLDING COMPANY AND SUBSIDIARY

Years Ended December 31, 2007, 2006, and 2005

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

 

Note 18. Stock Options

 

The Company has a directors’ stock compensation plan and employees’ long-term incentive plan. Under the directors’ plan, the Company may grant options for up to 210,000 shares of common stock. The price of each option is equal to the market price determined as of the option grant date. Options granted are exercisable after 6 months and expire after 10 years. Under the employees’ incentive plan, the Company may grant options for up to 7 percent of the total number of shares of common stock, which may be issued and outstanding. Incentive options must be granted within 10 years of the adoption of the plan and expire no later than 10 years from the grant date. The exercise price is equal to the market price of the Company’s stock on the date of grant.

Following is a summary of the status of the plans for the years ending December 31, 2007, 2006 and 2005:

 

     Directors’ Plan    Employees’ Plan
     Number
of

Shares
    Weighted
Average
Exercise
Price
   Number
of
Shares
    Weighted
Average
Exercise
Price

Outstanding at January 1, 2005

   77,850     $ 13.95    136,150     $ 16.43

Granted

   12,000       20.00    43,500       21.05

Exercised

   (6,000 )     14.66    (3,000 )     14.55

Forfeited

   —         —      (4,450 )     17.24
                         

Outstanding at December 31, 2005

   83,850     $ 14.77    172,200     $ 17.60

Granted

   12,000       23.70    40,500       23.46

Exercised

   (4,500 )     17.88    (6,450 )     16.41

Forfeited

   (1,500 )     22.25    (9,450 )     19.68
                         

Outstanding at December 31, 2006

   89,850     $ 15.68    196,800     $ 17.60

Granted

   13,500       22.00    —         —  

Exercised

   (2,700 )     7.15    (500 )     14.50

Forfeited

   —         —      (4,000 )     20.22
                         

Outstanding at December 31, 2007

   100,650     $ 16.76    192,300     $ 17.55
                         

Options exercisable at:

         

December 31, 2007

   100,650     $ 16.76    192,300     $ 17.55
                         

Weighted average fair value of Options granted during years ended

         

December 31, 2005

     $ 1.48      $ 1.56
                 

December 31, 2006

     $ 6.10      $ 5.87
                 

December 31, 2006

     $ 6.23      $ —  
                 

 

41


CITIZENS HOLDING COMPANY AND SUBSIDIARY

Years Ended December 31, 2007, 2006, and 2005

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

 

Note 18. Continued

 

The following table presents the outstanding stock options granted in relation to the option price and the weighted average maturity.

 

Range of Exercise Prices

   Options
Outstanding
   Weighted
Average Price
   Weighted Average
Life Remaining

$7.15 to $10.00

   12,150    $ 7.30    1 years, 2 months

$10.01 to $15.00

   107,300      13.39    4 years, 1 month

$15.01 to $20.00

   24,000      18.20    6 years, 4 months

$20.01 to $22.50

   99,000      21.61    7 years, 1 months

$22.51 and above

   50,500      23.52    8 years, 3 months
                

Total

   292,950    $ 18.06    5 years, 10 months
                

The intrinsic value of options granted under the Directors’ Plan at December 31, 2007 was $328,010 and the intrinsic value of the Employees’ Plan at December 31, 2007 was $344,356 for a total intrinsic value at December 31, 2007 of $672,366. Additionally, the total intrinsic value of options exercised during 2007 and 2006 was $32,040 and $93,843, respectively. There was no unrecognized stock-based compensation expense at December 31, 2007.

 

42


Management’s Discussion and Analysis of Financial Condition and Results of Operations as of December 31, 2007, 2006 and 2005

OVERVIEW

The following information discusses the financial condition and results of operations of Citizens Holding Company (the “Company”) as of December 31, 2007, 2006 and 2005. In this discussion, all references to the activities, operations or financial performance of the Company reflect the Company’s activities, operations and financial performance through its wholly-owned subsidiary, The Citizens Bank of Philadelphia, Mississippi (the “Bank”), unless otherwise specifically noted.

Over the past three years, the Company has experienced growth in total assets and deposits as management has capitalized on opportunities for organic growth within our market area. Total assets increased over the three-year period by $93.7 million. In the three year period, earnings increased in 2005 and 2006 before decreasing in 2007. Higher costs for deposits and lower loan spreads from increased market competition caused the Company’s net interest margin to compress in 2007. Even during this time of shrinking margins, management believes it has made appropriate provisions for loan losses although the improving loan portfolio quality has required smaller or negative provisions for loan losses.

During 2007, the Company’s assets grew to $680,903,631, or 9.6%, from 2006, loans decreased to $368,025,286, or 0.3%, and deposits increased $5,385,048, or 1.1%. Loans decreased in 2007 due to the repayment of several large loans in the portfolio. At the same time that demand and savings accounts decreased, certificates of deposit increased. Certificates of deposit ended 2007 at $224,941,210, or 10.6%, higher than 2006. Demand, NOW, savings and money market accounts decreased $16,201,089, or 6.0%, to $252,291,094 at December 31, 2007.

During 2006, the Company’s assets grew to $621,197,496, or 1.0%, from 2005, loans decreased to $369,280,664, or 1.5%, and deposits decreased $1,964,978, or 0.4%. Loans decreased in 2006 due to the repayment of loans related to Hurricane Katrina rebuilding contracts that were made in the fourth quarter of 2005 and repaid in the first quarter of 2006 when the contracts were completed. Decreases in savings accounts and certificates of deposit were the primary reason for the decrease in deposits as they ended 2006 at $2,051,725, or 0.9%, lower than 2005. Demand, NOW and money market accounts grew $86,747, or 0.04%, to $235,855,256 at December 31, 2006.

In 2005, the Company experienced growth in its assets and loans as compared to 2004 although the growth rate was less than in 2004. The Company’s assets grew to $607,709,136, or 3.5%, from 2004, loans increased to $374,964,316, or 2.8%, and deposits decreased $651,511, or 0.1%. Loans increased in 2005 due to the Hurricane Katrina rebuilding contracts. The decrease in savings accounts and certificates of deposit were the primary reason for the decrease in deposits as they ended 2005 at $9,731,729, or 3.9% lower than 2004. Demand, NOW and money market accounts grew $9,080,209, or 4.0% to $235,768,509, at December 31, 2005 compared to the balance at December 31, 2004.

In 2007, the Company’s net income after taxes decreased to $6,914,234, a decrease of $1,480,290 over 2006. The increase in the rates paid on deposits was a major cause of the decrease along with the additional costs related to the branch expansion expenses recorded in the fourth quarter. Net income for 2007 produced, on a fully diluted basis, earnings per share of $1.39 compared to $1.65 in 2006 and $1.57 for 2005.

 

43


In 2006, the Company’s net income after taxes increased to $8,394,524, an increase of $428,392 over 2005. The increase in the rates paid on deposits was offset by a negative provision for loan losses, which was due to an improvement in the credit quality of the loan portfolio.

The Company’s net income after taxes for 2005 increased 5.6% to $7,966,132, an increase of $420,047 over 2004. Interest rates continued to rise in 2005, resulting in a higher cost of investible funds for the Company. This increase was offset by a corresponding increase in interest rates on loans and investments.

The Company’s Return on Average Assets (“ROA”) was 1.08% in 2007, compared to 1.39% in 2006 and 1.35% in 2005. Its Return on Average Equity (“ROE”) was 10.26% in 2007, 12.59% in 2006 and 12.63% in 2005. During these periods, leverage capital ratios (the ratio of equity to average total assets) increased from 10.11% in 2005 to 11.30% in 2006 before decreasing to 9.98% in 2007. The decrease in ROE was the result of the Company’s capital growing at a faster rate than its net income. The decrease in ROA was also a result of the Company’s assets growing at a faster rate than its net income. The Company to increase the annual dividend payout rate to approximately 51.77% of 2007 earnings per share, as compared to 41.3% in 2006 and 40.9% in 2005. Even though the dividend payout ratio has increased, the leverage capital ratio was 9.98% in 2007, which is well above the regulatory requirement of 5% to be considered “well capitalized” under applicable Federal Deposit Insurance Corporation (the “FDIC”) guidelines for the Bank.

CRITICAL ACCOUNTING POLICIES

The preparation of financial statements in conformity with accounting principles generally accepted in the United States of America requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenues and expenses during the reporting period. Actual results could differ from those estimates.

The critical accounting policy most important to the presentation of our financial statements relates to the allowance for loan loss and the related provision for loan losses. The allowance for loan losses is available to absorb probable credit losses inherent in the entire loan portfolio. The appropriate level of the allowance is based on a quarterly analysis of the loan portfolio and represents an amount that management deems adequate to provide for inherent losses, including collective impairment as recognized under Financial Accounting Standards Board (“FASB”) Statement of Financial Accounting Standard (“SFAS”) No. 5, “Accounting for Contingencies”. The collective impairment is calculated based on loans grouped by grade. Another component of the allowance is losses on loans assessed as impaired under FASB Statement 114, “Accounting by Creditors for Impairment of a Loan” (“SFAS No. 114”). The balance of these loans determined to be impaired under SFAS No. 114 and their related allowance is included in management’s estimation and analysis of the allowance for loan losses. For a discussion of other considerations in establishing the allowance for loan losses and our loan policies and procedures for addressing credit risk, please refer to the disclosures in this Item under the heading “Provision for Loan Losses and Asset Quality.”

 

44


Prior to the adoption of FASB SFAS No. 123 (revised 2004), “Share-Based Payment” (“SFAS No. 123R”, effective January 1, 2006), the Company accounted for stock options in accordance with Accounting Principles Board Opinion No. 25, “Accounting for Stock Issued to Employees” (“APB No. 25”). APB No. 25 did not require the Company to recognize compensation expense for stock options granted to employees if the option price was not less than the fair market value of the underlying stock at the grant date. Accordingly, the Company did not recognize compensation expense for the 55,500 and 57,000 options granted to employees and directors for 2005 and 2004, respectively. If the Company had applied the provisions of SFAS No. 123R for the options granted, the Company would have reported compensation expense of $55,340 and $201,610 for 2005 and 2004, respectively, with the decrease in volatility of our stock price used in calculating compensation expense being the primary reason for the decrease in expense from 2004 to 2005.

Generally, all options granted to employees and directors fully vest six months and one day after the date of grant, rather than vesting in tranches over a specified period. Effective January 1, 2006, the Company adopted SFAS No. 123R using the modified prospective transition method. Under that method of transition, compensation cost recognized in 2006 includes: (a) compensation cost for all share-based payments granted prior to, but not yet vested as of January 1, 2006, based on the grant date fair value estimated in accordance with the original provisions of SFAS No. 123; and (b) compensation cost for all share-based payments granted subsequent to January 1, 2006, based on the grant-date fair value estimated in accordance with the provisions of SFAS No. 123R. At the date of adoption, there were no unvested share-based payments outstanding. Also, given the limited historical amount of forfeited options, the Company has not reduced compensation expense for estimated forfeitures. The Company did not change the amount or terms of any outstanding option arrangements in anticipation of the adoption of SFAS No. 123R.

The Company utilizes the Black-Scholes valuation model to determine the fair value of stock options. The Black-Scholes model requires the use of certain assumptions, including the volatility of the Company’s stock price (the Company has used the historical volatility in prior periods to determine the estimated compensation expense), the expected life of the option, the expected dividend rate and the discount rate. The Company does not currently expect to change the model or its methods for determining the assumptions underlying the valuation of future stock option grants. For more information on the Company’s stock options and the assumptions used to calculate the expense of such options, please refer to Note 1, “Summary of Significant Accounting Policies,” and Note 18, “Stock Options” to the Company’s Consolidated Financial Statements included in this Annual Report.

Please refer to Note 1, “Summary of Significant Accounting Policies,” to the Consolidated Financial Statements of the Company included in this Annual Report for a detailed discussion of recent accounting pronouncements affecting the Company.

 

45


DISCLOSURE REGARDING FORWARD-LOOKING STATEMENTS

In addition to historical information, this report contains statements which constitute forward-looking statements and information which are based on management’s beliefs, plans, expectations, assumptions and on information currently available to management. The words “may,” “should,” “expect,” “anticipate,” “intend,” “plan,” “continue,” “believe,” “seek,” “estimate,” and similar expressions used in this report that do not relate to historical facts are intended to identify forward-looking statements. The Company notes that a variety of factors could cause its actual results or experience to differ materially from the anticipated results or other expectations described or implied by such forward-looking statements. The risks and uncertainties that may affect the operation, performance, development and results of the business of the Company and the Bank, include, but are not limited to, the following:

 

   

the risk of adverse changes in business conditions in the banking industry generally and in the specific markets in which the Company operates;

 

   

changes in the legislative and regulatory environment that negatively impact the Company and the Bank through increased operating expenses;

 

   

increased competition from other financial institutions;

 

   

the impact of technological advances;

 

   

expectations about the movement of interest rates, including actions that may be taken by the Federal Reserve Board in response to changing economic conditions;

 

   

changes in asset quality and loan demand;

 

   

expectations about overall economic strength and the performance of the economy in the Company’s market area; and

 

   

other risks detailed from time to time in the Company’s filings with the Securities and Exchange Commission.

The Company undertakes no obligation to update or revise any forward-looking statements subsequent to the date on which they are made.

 

46


SELECTED FINANCIAL DATA

The following selected financial data has been taken from the Company’s Consolidated Financial Statements and related notes included in this Annual Report and should be read in conjunction with such consolidated financial statements and related notes. Dollar references in all of the following tables are in thousands except for per share data.

The major components of the Company’s operating results for the past five years are summarized in Table 1—Five Year Financial Summary of Consolidated Statements and Related Statistics.

TABLE 1 – FIVE YEAR SUMMARY OF CONSOLIDATED STATEMENTS AND RELATED STATISTICS

 

     2007     2006     2005     2004     2003  

Summary of Earnings

          

Total Interest Income

   $ 38,100     $ 36,487     $ 33,044     $ 29,972     $ 29,725  

Total Interest Expense

     16,763       13,181       9,847       7,537       8,188  

Provision for loan losses

     784       (361 )     1,084       1,067       2,003  

Non-interest income

     7,779       6,187       5,737       5,574       5,324  

Non-interest expense

     19,449       18,623       17,517       16,713       15,042  

Income tax expense

     1,968       2,836       2,366       2,683       2,845  

Net Income

     6,914       8,395       7,966       7,546       6,971  

Per Share Data

          

Earnings-basic

   $ 1.41     $ 1.67     $ 1.59     $ 1.51     $ 1.40  

Earnings-diluted

     1.39       1.65       1.57       1.49       1.39  

Cash dividends

     0.73       0.69       0.65       0.60       0.57  

Book value at year end

     14.02       13.88       12.73       12.04       11.35  

Selected Year End Actual Balances

          

Loans, net of unearned income

   $ 371,993     $ 372,993     $ 379,526     $ 369,589     $ 357,064  

Allowance for loan losses

     3,968       3,712       4,562       4,721       5,127  

Securities available for sale

     244,720       174,617       162,203       151,716       143,181  

Earning assets

     613,756       552,843       542,441       525,155       493,209  

Total assets

     680,904       621,197       614,827       587,239       550,761  

Deposits

     477,232       471,847       473,812       474,464       438,697  

Long term borrowings

     49,400       59,400       60,049       46,119       47,637  

Shareholders’ equity

     68,191       69,665       63,774       60,191       56,502  

Selected Year End Average Balances

          

Loans, net of unearned income

   $ 358,178     $ 373,729     $ 371,925     $ 364,922     $ 337,763  

Allowance for loan losses

     3,688       4,162       4,646       5,532       4,495  

Securities available for sale

     201,620       160,537       156,333       142,994       164,371  

Earning assets

     575,262       527,891       528,562       506,898       499,726  

Total assets

     639,305       604,137       591,872       565,892       549,520  

Deposits

     480,191       469,460       464,629       457,510       447,188  

Long term borrowings

     54,634       59,608       54,823       41,607       35,314  

Shareholders’ equity

     67,377       66,685       63,068       58,750       56,121  

Selected Ratios

          

Return on average assets

     1.08 %     1.39 %     1.35 %     1.33 %     1.27 %

Return on average equity

     10.26 %     12.59 %     12.63 %     12.84 %     12.42 %

Dividend payout ratio

     51.77 %     41.32 %     40.86 %     39.71 %     40.71 %

Equity to year end assets

     10.01 %     11.21 %     10.49 %     10.25 %     10.26 %

Total risk-based capital to risk-adjusted assets

     17.06 %     17.73 %     16.20 %     15.35 %     14.94 %

Leverage capital ratio

     9.98 %     11.30 %     10.11 %     9.72 %     9.11 %

Efficiency ratio

     64.41 %     60.05 %     58.14 %     57.65 %     54.45 %

 

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NET OPERATING INCOME

Net operating income for 2007 decreased 17.6% to $6,914,234, or $1.41 per share-basic and $1.39 per share-diluted, from the $8,394,524, or $1.67 per share basic and $1.65 per share diluted for 2006. The provision for loan losses for 2007 was $784,120 compared to the negative provision of $360,910 in 2006. Non-interest income increased $1,591,128, or 25.8%, and non-interest expense increased $826,100, or 4.4%, in 2007. Non-interest income for 2007 increased due to an increase in dividends from investments related to a commercial sweep account program and non-interest expense increased mainly due to an increase in salaries and benefits. This increase in salaries and benefits is related to our new branches in Lauderdale and Oktibbeha counties and normal raises for our existing officers and employees.

Net operating income for 2006 increased 5.4% to $8,394,524, or $1.67 per share-basic and $1.65 per share-diluted, from the $7,966,132, $1.59 per share basic and $1.57 per share diluted for 2005. The provision for possible loan losses for the year ended 2006 was a negative provision of $360,910 compared to the provision of $1,084,326 in 2005. This negative provision was the result of improved loan quality, favorable loss experience and a decrease in loans outstanding. Non-interest income increased $450,598 thousand, or 7.8%, and non-interest expense increased $1,106,278, or 6.3%, for 2006.

Net operating income for 2005 increased 5.6% to $7,966,132, or $1.59 per share-basic and $1.57 per share-diluted. The provision for possible loan losses for 2005 was $1,084,326, an increase of $16,883, or 1.6% from 2004. Non-interest income in 2005 increased $162,292, or 2.9%, over 2004 non-interest income due to an increase in service charges and other fees received. Non-interest expense increased $803,949, or 4.8% when compared to the same period in 2004. This increase was due mainly to a $916,301, or 10.6% in salaries and benefits paid.

NET INTEREST INCOME

Net interest income is the most significant component of the Company’s earnings. Net interest income is the difference between interest and fees realized on earning assets, primarily loans and securities, and interest paid on deposits and other borrowed funds. The net interest margin is this difference expressed as a percentage of average earning assets. Net interest income is affected by several factors, including the volume of earning assets and liabilities, the mix of earning assets and liabilities, and interest rates. The discussion below is presented on a tax equivalent basis which management believes to be the best way to analyze net interest income.

Net interest income on a tax equivalent basis was $23,766,000, $24,506,000 and $24,373,000 for the years 2007, 2006 and 2005, respectively. Net interest margin was 4.34%, 4.55% and 4.61% for the same periods. During 2007, the yields on interest earning assets rose less than the rates paid on interest bearing deposits. The largest increase in rates paid was in the rates paid on certificates of

 

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deposit. For the year ended December 31, 2007, the average yield on earnings assets was 7.15%, an increase of 18 basis points compared to the average yield at December 31, 2006. The average rate paid on interest-bearing liabilities was 3.38%, an increase of 40 basis points compared to the average rate at December 31, 2006. The volume of earning assets increased 1.4% while the volume of interest-bearing liabilities increased 3.0% in 2007.

For the year ended December 31, 2006, the average yield on earnings assets was 6.97%, an increase of 51 basis points compared to the average yield at December 31, 2005. The average rate paid on interest-bearing liabilities was 2.98%, an increase of 66 basis points compared to the average rate at December 31, 2005. The effect of increases in rates on net interest margin was offset partially by changes in volume. The volume of earning assets increased 2.1% while the volume of interest-bearing liabilities increased 0.3% in 2006.

During 2005, the rates on interest earning assets and interest bearing liabilities both rose such that the net interest margin in 2005 was unchanged from 2004. Both volume and rates increased on both interest bearing assets and liabilities. For the year ended December 31, 2005, the average yield on earnings assets was 6.46%, an increase of 37 basis points compared to the average yield at December 31, 2004. The average rate paid on interest-bearing liabilities was 2.22%, an increase of 46 basis points compared to the average rate at December 31, 2004. The volume of earning assets increased 4.6% while the volume of interest-bearing liabilities increased 3.2% in 2005.

During this three-year period, loan demand has remained steady and has allowed the Company to continue to invest its available funds in loans. Loans generally provide the Company with yields that are greater than the yields on typical investment securities.

During 2003, the Company purchased $11.4 million of additional bank-owned life insurance. The income received by the Company on these policies increased the Company’s total investment to approximately $16.0 million at December 31, 2005, $16.8 million at December 31, 2006 and $17.7 million at December 2007. The additional purchases were made to provide a future funding source for certain of the Company’s deferred compensation arrangements. Such insurance also offers more attractive yields than other investment securities.

Table 2 – Average Balance Sheets and Interest Rates sets forth average balance sheet data, including all major categories of interest-earning assets and interest-bearing liabilities, together with the interest earned or interest paid and the average yield or average rate paid on each such category for the fiscal years ended December 31, 2007, 2006 and 2005.

 

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TABLE 2 – AVERAGE BALANCE SHEETS AND INTEREST RATES

 

     Average Balance    Income/Expense    Average Yield/Rate  
     2007    2006    2005    2007    2006    2005    2007     2006     2005  

Loans:

                        

Loans, net of unearned income

   $ 357,323    $ 372,691    $ 370,982    $ 28,985    $ 28,920    $ 25,435    8.11 %   7.76 %   7.13 %

Investment Securities

                        

Taxable

     93,594      74,846      71,916      4,928      3,652      3,023    5.27 %   4.88 %   4.20 %

Tax-exempt

     76,803      84,019      80,728      4,247      4,709      4,564    5.53 %   5.60 %   5.65 %
                                                            

Total Investment Securities

     170,397      158,865      152,644      9,175      8,361      7,587    5.38 %   5.26 %   4.97 %

Federal Funds Sold and Other

     19,976      8,825      5,891      1,021      407      180    5.11 %   4.61 %   3.06 %
                                                            

Total Interest Earning Assets

     547,696      540,381      529,517      39,181      37,688      34,202    7.15 %   6.97 %   6.46 %
                                                            

Non-Earning Assets

     91,609      63,756      62,355                
                                    

Total Assets

   $ 639,305    $ 604,137    $ 591,872                
                                    

Deposits:

                        

Interest-bearing Demand

                        

Deposits

   $ 149,111    $ 144,348    $ 144,134    $ 2,805    $ 2,528    $ 2,098    1.88 %   1.75 %   1.46 %

Savings

     30,775      34,288      35,494      262      313      301    0.85 %   0.85 %   0.89 %

Time

     220,364      202,792      204,265      9,724      7,474      5,014    4.41 %   3.69 %   2.45 %
                                                            

Total Deposits

     400,250      381,428      383,893      12,791      10,315      7,413    3.20 %   2.70 %   1.93 %

Borrowed Funds

                        

Short-term Borrowings

     1,892      1,106      2,344      96      60      84    5.07 %   5.34 %   3.58 %

Long-term Borrowings

     53,482      59,607      54,823      2,534      2,807      2,332    4.74 %   4.64 %   4.25 %
                                                            

Total Borrowed Funds

     55,374      60,713      57,167      2,630      2,867      2,416    4.75 %   4.72 %   4.23 %
                                                            

Total Interest-Bearing Liabilities

     455,624      442,141      441,060      15,421      13,182      9,829    3.38 %   2.97 %   2.22 %

Non-Interest Bearing Liabilities

                        

Demand Deposits

     79,187      87,396      80,737                

Other Liabilities

     37,117      7,935      7,007                

Shareholders’ Equity

     67,377      66,665      63,068                
                                    

Total Liabilities and Shareholders’ Equity

   $ 639,305    $ 604,137    $ 591,872                
                                    

Interest Rate Spread

                     3.77 %   4.00 %   4.24 %
                                    

Net Interest Margin

            $ 23,760    $ 24,506    $ 24,373    4.34 %   4.55 %   4.61 %
                                                

Less Tax Equivalent Adjustment

              1,081      1,201      1,177       
                                    

Net Interest Income

            $ 22,679    $ 23,305    $ 23,196       
                                    

 

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Table 3 – Net Average Interest Earning Assets illustrates net interest earning assets and liabilities for 2007, 2006, and 2005.

TABLE 3 – NET AVERAGE INTEREST EARNING ASSETS

 

     2007    2006    2005

Average interest earning assets

   $ 547,696    $ 540,381    $ 529,517

Average interest bearing liabilities

     455,624      442,141      441,614
                    

Net average interest earning assets

   $ 92,072    $ 98,240    $ 87,903
                    

Table 4 – Volume/Rate Analysis depicts the effect on interest income and interest expense of changes in volume and changes in rate from 2005 through 2007. Variances which were attributable to both volume and rate are allocated proportionately between rate and volume using the absolute values of each for a basis for the allocation. Non-accruing loans are included in the average loan balances used in determining the yields. Interest income on tax-exempt securities and loans has been adjusted to a tax equivalent basis using a federal income tax rate of 34%.

TABLE 4 – VOLUME/RATE ANALYSIS

 

     2007 Change from 2006     2006 Change from 2005  
     Volume     Rate     Total     Volume     Rate     Total  

INTEREST INCOME

            

Loans

   $ (1,246 )   $ 1,311     $ 65     $ 133     $ 2,352     $ 2,485  

Taxable Securities

     988       288       1,276       143       486       629  

Non-Taxable Securities

     (399 )