e10vkza
Table of Contents

 
UNITED STATES SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
 
Form 10-K/A
(Amendment No. 2)
 
ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
 
For the fiscal year ended December 31, 2009
 
Commission file number 000-19297
FIRST COMMUNITY BANCSHARES, INC.
(Exact name of registrant as specified in its charter)
 
     
Nevada   55-0694814
(State or other jurisdiction of incorporation)   (I.R.S. Employer Identification No.)
P.O. Box 989
Bluefield, Virginia
(Address of principal executive offices)
  24605-0989
(Zip Code)
 
(276) 326-9000
Registrant’s telephone number, including area code:
 
Securities registered pursuant to Section 12(b) of the Act:
 
     
Title of each class
 
Name of exchange on which registered
 
Common Stock, $1.00 par value   NASDAQ Global Select
 
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.  o Yes     þ No
 
Indicate by check mark if the registrant is not required to file reports pursuant to Section 13 or 15(d) of the Act.  o Yes     þ No
 
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.  þ Yes     o No
 
Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Website, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files).  o Yes     o 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 the registrant’s knowledge, in definitive proxy or information statements incorporated by reference in Part III of this Form 10-K or any amendment to this Form 10-K.  o
 
Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, or a smaller reporting company. See the definitions of “large accelerated filer,” “accelerated filer” and “smaller reporting company” in Rule 12b-2 of the Exchange Act. (Check one):
 
             
Large accelerated filer o
  Accelerated filer þ   Non-accelerated filer o   Smaller reporting company o
        (Do not check if a smaller reporting company)    
 
Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act).  o Yes     þ No
 
State the aggregate market value of the voting and non-voting common equity held by non-affiliates computed by reference to the price at which the common equity was last sold, or the average bid and asked price of such common equity, as of the last business day of the registrant’s most recently completed second fiscal quarter.
 
Approximately $193.61 million based on the closing sales price at June 30, 2009.
 
Indicate the number of shares outstanding of each of the issuer’s classes of common stock, as of the latest practicable date.
 
Class — Common Stock, $1.00 Par Value; 17,765,164 shares outstanding as of February 26, 2010.
 
DOCUMENTS INCORPORATED BY REFERENCE
 
Portions of the Proxy Statement for the annual meeting of shareholders held on April 27, 2010, are incorporated by reference in Part III of this Form 10-K/A.
 


 

 
TABLE OF CONTENTS
 
             
        Page
 
  Business     3  
  Risk Factors     12  
  Unresolved Staff Comments     19  
  Properties     19  
  Legal Proceedings     19  
  Reserved     19  
 
  Market for Registrant’s Common Equity, Related Stockholder Matters and Issuer Purchases of Equity Securities     19  
  Selected Financial Data     22  
  Management’s Discussion and Analysis of Financial Condition and Results of Operations     23  
  Quantitative and Qualitative Disclosures About Market Risk     48  
  Financial Statements and Supplementary Data     50  
  Changes in and Disagreements with Accountants on Accounting and Financial Disclosure     106  
  Controls and Procedures     106  
  Other Information     106  
 
  Directors, Executive Officers and Corporate Governance     106  
  Executive Compensation     109  
  Security Ownership of Certain Beneficial Owners and Management and Related Stockholder Matters     109  
  Certain Relationships and Related Transactions, and Director Independence     109  
  Principal Accounting Fees and Services     109  
 
  Exhibits, Financial Statement Schedules     110  
    Signatures     113  
 EX-12
 EX-23.1
 EX-31.1
 EX-31.2
 EX-32


2


Table of Contents

Explanatory Note
 
Overview
 
First Community Bancshares, Inc. (“the Company”) is filing this second amendment to its Annual Report on Form 10-K for the year ended December 31, 2009 (the “Original Filing”), to amend and restate financial statements and other financial information in the Original Filing as filed with the Securities and Exchange Commission (“SEC”) to reflect the correction of a computational error in its model used to calculate its allowance for loan losses. For the same reason, the Company also is restating the financial statements and other financial information filed with the SEC for the year ended December 31, 2008 and each of the quarters ended March 31, 2009, June 30, 2009, September 30, 2009, and March 31, 2010.
 
Background
 
The reason for the restatement is to correct a computational error in the model that the Company used to calculate the quantitative basis for its allowance for loan losses for the periods indicated. The Company identified the computational error as a result of one of its routine internal audits. In connection with its determination of the appropriate loan loss reserves at December 31, 2008, the Company made certain modifications to its loan loss reserves model with respect to a $130.76 million pool of loans. However, in calculating the loan loss reserves for this pool of loans, the computational error resulted in the Company’s historical quarterly net charge-off rates not being annualized.
 
The Company has corrected the computational error in its model for calculating the allowance for loan losses. Based on the Company’s modeling using the corrected computations, the Company, in consultation with the Audit Committee of its Board of Directors, determined that the amount of the allowance for loan losses should be increased by an aggregate of $2.55 million for the period beginning December 31, 2008 and ending March 31, 2010.
 
Amendments to the Original Filing
 
The following sections of this Annual Report on Form 10-K/A have been revised to reflect the restatement: Part I — Item 1 — Business and Item 1A — Risk Factors; Part II — Item 6 — Selected Financial Data, Item 7 — Management’s Discussion and Analysis of Financial Condition and Results of Operations, Item 8 — Financial Statements and Supplementary Data and Item 9A — Controls and Procedures; and Part IV — Item 15 — Exhibits and Financial Statement Schedules. Except to the extent relating to the restatement of the Company’s financial statements and other financial information described above, the financial statements and other disclosures in this Annual Report on Form 10-K/A do not reflect any events that have occurred after the Original Filing was filed with the SEC on March 4, 2010. This Annual Report on Form 10-K/A does not modify or update those disclosures affected by subsequent events. Information not affected by the restatement is unchanged and reflects the disclosures made at the time of the Original Filing. Although the Company is amending only certain portions of its Annual Report on Form 10-K for the year ended December 31, 2009, for convenience and ease of reference, it is filing the entire Annual Report on this Form 10-K/A.
 
PART I
 
ITEM 1.   BUSINESS.
 
General
 
First Community Bancshares, Inc. (the “Company”) is a financial holding company incorporated in the State of Nevada and serves as the holding company for First Community Bank, N. A. (the “Bank”), a national banking association that conducts commercial banking operations within the states of Virginia, West Virginia, North and South Carolina, and Tennessee. The Company also owns GreenPoint Insurance Group, Inc. (“GreenPoint”), a full-service insurance agency, and Investment Planning Consultants (“IPC”), an investment advisory. The Company had total consolidated assets of approximately $2.27 billion at December 31, 2009, and conducts its banking operations through fifty-seven locations.
 
The Company provides a mechanism for ownership of the subsidiary banking operations, provides capital funds as required, and serves as a conduit for distribution of dividends to stockholders. The Company’s banking operations are expected to remain the principal business and major source of revenue for the Company. The Company also considers and evaluates options for growth and expansion of the existing subsidiary banking operations. The Company currently derives substantially all of its revenues from dividends paid to it by the Bank. Dividend payments by the Bank are determined in relation to earnings, asset growth and capital position and are subject to certain restrictions by regulatory agencies as described more fully under “Regulation and Supervision — The Company” of this item.
 
Although the Company is a corporate entity, legally separate and distinct from its affiliates, bank holding companies, such as the Company, are generally required to act as a source of financial strength for their subsidiary banks. The principal source of the Company’s income is dividends from the Bank. There are certain regulatory restrictions on the extent to which the Bank can pay dividends or otherwise provide funds to the Company. See “Supervision and Regulation — The Bank” in Item 1 hereof.
 
Operating Segments
 
The Company’s operations are managed along two reportable business segments consisting of community banking and insurance services. See Note 20 — Segment Information in the Notes to the Consolidated Financial Statements included in Item 8 hereof.
 
Competition
 
There is significant competition among banks in the Company’s market areas. In addition, the Company also competes with other providers of financial services, such as savings and loan associations, credit unions, consumer finance companies, securities firms, insurance companies, insurance agencies, commercial finance and leasing companies, full service brokerage firms and discount brokerage firms. Some of the Company’s competitors have greater resources and, as such, may have higher lending limits and may offer other services that are not provided by the Company. See “Management’s Discussion and Analysis of Financial Condition and Results of Operations — Executive Overview — Competition” in Item 7 hereof.
 
Employees
 
The Company and its subsidiaries employed 646 full-time equivalent employees at December 31, 2009. Management considers employee relations to be excellent.
 
Regulation and Supervision
 
General
 
The supervision and regulation of the Company and its subsidiaries by the banking agencies is intended primarily for the protection of depositors, the Deposit Insurance Fund of the Federal Deposit Insurance Corporation (“FDIC”), and the banking system as a whole, and not for the protection of stockholders or creditors. The banking


3


Table of Contents

agencies have broad enforcement power over bank holding companies and banks, including the power to impose substantial fines and other penalties for violations of laws and regulations.
 
The following description summarizes some of the laws to which the Company and the Bank are subject. References in the following description to applicable statutes and regulations are brief summaries of these statutes and regulations, do not purport to be complete, and are qualified in their entirety by reference to such statutes and regulations.
 
The Company
 
The Company is a financial holding company pursuant to the Gramm-Leach-Bliley Act (“GLB Act”) and a bank holding company registered under the Bank Holding Company Act of 1956, as amended (“BHCA”). Accordingly, the Company is subject to supervision, regulation and examination by the Board of Governors of the Federal Reserve System (“Federal Reserve Board”). The BHCA, the GLB Act, and other federal laws subject financial and bank holding companies to particular restrictions on the types of activities in which they may engage, and to a range of supervisory requirements and activities, including regulatory enforcement actions for violations of laws and regulations.
 
Regulatory Restrictions on Dividends; Source of Strength.  It is the policy of the Federal Reserve Board that bank holding companies should pay cash dividends on common stock only from income available over the past year and only if prospective earnings retention is consistent with the organization’s expected future needs and financial condition. The policy provides that bank holding companies should not maintain a level of cash dividends that undermines the bank holding company’s ability to serve as a source of strength to its banking subsidiaries.
 
Under Federal Reserve Board policy, a bank holding company is expected to act as a source of financial strength to each of its banking subsidiaries and commit resources to their support. Such support may be required at times when, absent this Federal Reserve Board policy, a holding company may not be inclined to provide it. As discussed below, a bank holding company in certain circumstances could be required to guarantee the capital plan of an undercapitalized banking subsidiary.
 
Scope of Permissible Activities.  Under the BHCA, bank holding companies generally may not acquire a direct or indirect interest in or control of more than 5% of the voting shares of any company that is not a bank or bank holding company or engage in activities other than those of banking, managing or controlling banks or furnishing services to or performing services for its subsidiaries, except that it may engage in, directly or indirectly, certain activities that the Federal Reserve Board determined to be closely related to banking or managing and controlling banks as to be a proper incident thereto.
 
Notwithstanding the foregoing, the GLB Act eliminated the barriers to affiliations among banks, securities firms, insurance companies and other financial service providers and permits bank holding companies to become financial holding companies and thereby affiliate with securities firms and insurance companies and engage in other activities that are financial in nature. The GLB Act defines “financial in nature” to include securities underwriting, dealing and market making; sponsoring mutual funds and investment companies; insurance underwriting and agency; merchant banking activities and activities that the Federal Reserve Board has determined to be closely related to banking. No regulatory approval is generally required for a financial holding company to acquire a company, other than a bank or savings association, engaged in activities that are financial in nature or incidental to activities that are financial in nature, as determined by the Federal Reserve Board.
 
Under the GLB Act, a bank holding company may become a financial holding company by filing a declaration with the Federal Reserve Board if each of its subsidiary banks is well-capitalized under the Federal Deposit Insurance Corporation Improvement Act of 1991 (“FDICIA”) prompt corrective action provisions, is well managed and has at least a satisfactory rating under the Community Reinvestment Act of 1977 (“CRA”). The Company elected financial holding company status in December 2006.
 
Anti-Tying Restrictions.  Bank holding companies and their affiliates are prohibited from tying the provision of certain services, such as extensions of credit, to other services offered by a holding company or its affiliates.


4


Table of Contents

Stock Repurchases.  A bank holding company is required to give the Federal Reserve Board prior notice of any redemption or repurchase of its own equity securities, if the consideration to be paid, together with the consideration paid for any repurchases or redemptions in the preceding year, is equal to 10% or more of the company’s consolidated net worth. The Federal Reserve Board may oppose the transaction if it believes that the transaction would constitute an unsafe or unsound practice or would violate any law or regulation.
 
Capital Adequacy Requirements.  The Federal Reserve Board has promulgated capital adequacy guidelines for use in its examination and supervision of bank holding companies. If a bank holding company’s capital falls below minimum required levels, then the bank holding company must implement a plan to increase its capital, and its ability to pay dividends, make acquisitions of new banks or engage in certain other activities such as issuing brokered deposits may be restricted or prohibited.
 
The Federal Reserve Board currently uses two types of capital adequacy guidelines for holding companies, a two-tiered risk-based capital guideline and a leverage capital ratio guideline. The two-tiered risk-based capital guideline assigns risk weightings to all assets and certain off-balance sheet items of the holding company’s operations, and then establishes a minimum ratio of the holding company’s Tier 1 capital to the aggregate dollar amount of risk-weighted assets (which amount is usually less than the aggregate dollar amount of such assets without risk weighting) and a minimum ratio of the holding company’s total capital (Tier 1 capital plus Tier 2 capital, as adjusted) to the aggregate dollar amount of such risk-weighted assets. The leverage ratio guideline establishes a minimum ratio of the holding company’s Tier 1 capital to its total tangible assets (total assets less goodwill and certain identifiable intangibles), without risk-weighting.
 
Under both guidelines, Tier 1 capital (sometimes referred to as “core capital”) is defined to include: common shareholders’ equity (including retained earnings), qualifying non-cumulative perpetual preferred stock and related surplus, qualifying cumulative perpetual preferred stock and related surplus, trust preferred securities, and minority interests in the equity accounts of consolidated subsidiaries (limited to a maximum of 25% of Tier 1 capital). Goodwill and most intangible assets are deducted from Tier 1 capital. For purposes of the total risk-based capital guidelines, Tier 2 capital (sometimes referred to as “supplementary capital”) is defined to include: allowances for loan and lease losses (limited to 1.25% of risk-weighted assets), perpetual preferred stock not included in Tier 1 capital, intermediate-term preferred stock and any related surplus, certain hybrid capital instruments, perpetual debt and mandatory convertible debt securities, and intermediate-term subordinated debt instruments (subject to limitations). The maximum amount of qualifying Tier 2 capital is 100% of qualifying Tier 1 capital. For purposes of the total capital guideline, total capital equals Tier 1 capital, plus qualifying Tier 2 capital, minus investments in unconsolidated subsidiaries, reciprocal holdings of bank holding company capital securities, and deferred tax assets and other deductions. The Federal Reserve Board’s current capital adequacy guidelines require that a bank holding company maintain a Tier 1 risk-based capital ratio of at least 4% and a total risk-based capital ratio of at least 8%. At December 31, 2009, the Company’s ratio of Tier 1 capital to total risk-weighted assets was 12.56% and its ratio of total capital to risk-weighted assets was 13.81%.
 
In addition to the risk-based capital guidelines, the Federal Reserve Board uses a leverage ratio as an additional tool to evaluate the capital adequacy of bank holding companies. The leverage ratio is a company’s Tier 1 capital divided by its average total consolidated assets. Certain highly rated bank holding companies may maintain a minimum leverage ratio of 3.0%, but other bank holding companies are required to maintain a leverage ratio of 4.0% or more, depending on their overall condition. At December 31, 2009, the Company’s leverage ratio was 8.51%.
 
The federal banking agencies’ risk-based and leverage ratios are minimum supervisory ratios generally applicable to banking organizations that meet certain specified criteria, assuming that they have the highest regulatory rating. Banking organizations not meeting these criteria are expected to operate with capital positions well above the minimum ratios. The federal bank regulatory agencies may set capital requirements for a particular banking organization that are higher than the minimum ratios when circumstances warrant. Federal Reserve Board guidelines also provide that banking organizations experiencing internal growth or making acquisitions will be expected to maintain strong capital positions substantially above the minimum supervisory levels, without significant reliance on intangible assets.


5


Table of Contents

Acquisitions by Bank Holding Companies.  The BHCA requires every bank holding company to obtain the prior approval of the Federal Reserve Board before it may acquire all or substantially all of the assets of any bank, or ownership or control of any voting shares of any bank, if after such acquisition it would own or control, directly or indirectly, more than 5% of the voting shares of such bank. In approving bank acquisitions by bank holding companies, the Federal Reserve Board is required to consider the financial and managerial resources and future prospects of the bank holding company and the banks concerned, the convenience and needs of the communities to be served, and various competitive factors.
 
Incentive Compensation.  On October 22, 2009, the Federal Reserve Board issued a comprehensive proposal on incentive compensation policies (the “Incentive Compensation Proposal”) intended to ensure that the incentive compensation policies of banking organizations do not undermine the safety and soundness of such organizations by encouraging excessive risk-taking. The Incentive Compensation Proposal, which covers all employees that have the ability to materially affect the risk profile of an organization, is based upon the key principles that a banking organization’s incentive compensation arrangements should (i) provide incentives that do not encourage risk-taking beyond the organization’s ability to effectively identify and manage risks, (ii) be compatible with effective internal controls and risk management, and (iii) be supported by strong corporate governance, including active and effective oversight by the organization’s board of directors. The Federal Reserve Board indicated that all banking organizations are to evaluate their incentive compensation arrangements and related risk management, control, and corporate governance processes and immediately address deficiencies in these arrangements or processes that are inconsistent with safety and soundness.
 
The Federal Reserve Board will review, as part of the regular, risk-focused examination process, the incentive compensation arrangements of banking organizations, such as the Company, that are not “large, complex banking organizations.” These reviews will be tailored to each organization based on the scope and complexity of the organization’s activities and the prevalence of incentive compensation arrangements. The findings of the supervisory initiatives will be included in reports of examination. Deficiencies will be incorporated into the organization’s supervisory ratings, which can affect the organization’s ability to make acquisitions and take other actions. Enforcement actions may be taken against a banking organization if its incentive compensation arrangements, or related risk-management control or governance processes, pose a risk to the organization’s safety and soundness and the organization is not taking prompt and effective measures to correct the deficiencies.
 
In addition, on January 12, 2010, FDIC issued an Advance Notice of Proposed Rulemaking seeking public comment on whether certain employee compensation structures pose risks that should be captured in the deposit insurance assessment program through higher deposit assessment rates.
 
The scope and content of the U.S. banking regulators’ policies on executive compensation are continuing to develop and are likely to continue evolving in the near future. It cannot be determined at this time whether compliance with such policies will adversely affect the Company’s ability to hire, retain and motivate its key employees.
 
The Bank
 
The Bank is a national association and is subject to supervision and regulation by the Office of the Comptroller of Currency (“OCC”). Since the deposits of the Bank are insured by the FDIC, the Bank is also subject to supervision and regulation by the FDIC. Because the Federal Reserve Board regulates the Company, and because the Bank is a member of the Federal Reserve System, the Federal Reserve Board also has regulatory authority which directly affects the Bank.
 
Restrictions on Transactions with Affiliates and Insiders.  Transactions between the Bank and its nonbanking subsidiaries and/or affiliates, including the Company, are subject to Section 23A of the Federal Reserve Act. In general, Section 23A imposes limits on the amount of such transactions, and also requires certain levels of collateral for loans to affiliated parties. It also limits the amount of advances to third parties which are collateralized by the securities or obligations of the Company or its subsidiaries.
 
Affiliate transactions are also subject to Section 23B of the Federal Reserve Act which generally requires that certain transactions between the Bank and its affiliates be on terms substantially the same, or at least as favorable to


6


Table of Contents

the Bank, as those prevailing at the time for comparable transactions with or involving other nonaffiliated persons. The Federal Reserve Board has issued Regulation W which codifies prior regulations under Sections 23A and 23B of the Federal Reserve Act and interpretive guidance with respect to affiliate transactions.
 
The restrictions on loans to directors, executive officers, principal shareholders and their related interests contained in the Federal Reserve Act and Regulation O apply to all insured institutions and their subsidiaries and holding companies. These restrictions include limits on loans to one borrower and conditions that must be met before such a loan can be made. There is also an aggregate limitation on all loans to such persons. These loans cannot exceed the institution’s total unimpaired capital and surplus, and the FDIC may determine that a lesser amount is appropriate.
 
Restrictions on Distribution of Subsidiary Bank Dividends and Assets.  Dividends paid by the Bank have provided the Company’s operating funds and for the foreseeable future it is anticipated that dividends paid by the Bank to the Company will continue to be the Company’s primary source of operating funds.
 
Capital adequacy requirements of the OCC limit the amount of dividends that may be paid by the Bank. The Bank cannot pay a dividend if, after paying the dividend, it would be classified as “undercapitalized.” In addition, without the OCC’s approval, dividends may not be paid by the Bank in an amount in any calendar year which exceeds its total net profits for that year, plus its retained profits for the preceding two years, less any required transfers to capital surplus. National banks also may not pay dividends in excess of total retained profits, including current year’s earnings after deducting bad debts in excess of reserves for loan losses. In some cases, the OCC may find a dividend payment that meets these statutory requirements to be an unsafe or unsound practice. As a result of securities impairments and a special dividend from the Bank in 2008, the Bank is limited as to the dividends it can pay. Accordingly, the Bank would need permission from the OCC prior to paying dividends.
 
Because the Company is a legal entity separate and distinct from its subsidiaries, its right to participate in the distribution of assets of any subsidiary upon the subsidiary’s liquidation or reorganization will be subject to the prior claims of the subsidiary’s creditors. In the event of liquidation or other resolution of an insured depository institution, the claims of depositors and other general or subordinated creditors are entitled to a priority of payment over the claims of holders of any obligation of the institution to its shareholders, including any depository institution holding company or any shareholder or creditor thereof.
 
Examinations.  Under the FDICIA, all insured institutions must undergo regular on-site examination by their appropriate banking agency and such agency may assess the institution for its costs of conducting the examination. The OCC periodically examines and evaluates national banks, such as the Bank. These examinations review areas such as capital adequacy, reserves, loan portfolio quality and management, consumer and other compliance issues, investments, information systems, disaster recovery and contingency planning and management practices. Based upon such an evaluation, the OCC may revalue the assets of a bank and require that it establish specific reserves to compensate for the difference between the OCC determined value and the book value of such assets.
 
Capital Adequacy Requirements.  The OCC has adopted regulations establishing minimum requirements for the capital adequacy of insured national banks. The OCC may establish higher minimum requirements if, for example, a bank has previously received special attention or has a high susceptibility to interest rate risk.
 
The OCC’s risk-based capital guidelines generally require national banks to have a minimum ratio of Tier 1 capital to total risk-weighted assets of 4.0% and a ratio of total capital to total risk-weighted assets of 8.0%. The capital categories have the same definitions for the Bank as for the Company. See “Regulation and Supervision — The Company — Capital Adequacy Requirements” above. At December 31, 2009, the Bank’s ratio of Tier 1 capital to total risk-weighted assets was 10.50% and its ratio of total capital to total risk-weighted assets was 11.76%.
 
The OCC’s leverage guidelines require national banks to maintain Tier 1 capital of no less than 4.0% of average total assets, except in the case of certain highly rated banks for which the requirement is 3.0% of average total assets. At December 31, 2009, the Bank’s leverage ratio was 7.09%.
 
Corrective Measures for Capital Deficiencies.  The federal banking regulators are required to take “prompt corrective action” with respect to capital-deficient institutions. Agency regulations define, for each capital category, the levels at which institutions are “well-capitalized,” “adequately capitalized,” “undercapitalized,” “significantly


7


Table of Contents

undercapitalized” and “critically undercapitalized.” A “well-capitalized” institution has a total risk-based capital ratio of 10.0% or higher; a Tier 1 risk-based capital ratio of 6.0% or higher; a leverage ratio of 5.0% or higher; and is not subject to any written agreement, order or directive requiring it to maintain a specific capital level for any capital measure. An “adequately capitalized” institution has a total risk-based capital ratio of 8.0% or higher; a Tier 1 risk-based capital ratio of 4.0% or higher; a leverage ratio of 4.0% or higher (3.0% or higher if the bank was rated a composite 1 in its most recent examination report and is not experiencing significant growth); and does not meet the criteria for a well-capitalized bank. An “undercapitalized” institution has a total risk-based capital ratio that is less than 8.0%; a Tier 1 risk-based capital ratio of less than 4.0% or a leverage ratio of less than 4.0%. A “significantly undercapitalized” institution has a total risk-based capital ratio of less than 6.0%; a Tier 1 risk-based capital ratio of less than 3.0% or a leverage ratio of less than 3.0%. A “critically undercapitalized” institution’s tangible equity is equal to or less than 2.0% of average quarterly tangible assets. An institution may be downgraded to, or deemed to be in, a capital category that is lower than indicated by its capital ratios if it is determined to be in an unsafe or unsound condition or if it receives an unsatisfactory examination rating with respect to certain matters. A bank’s capital category is determined solely for the purpose of applying prompt corrective action regulations, and the capital category may not constitute an accurate representation of the bank’s overall financial condition or prospects for other purposes. The Bank was classified as “well-capitalized” for purposes of the FDIC’s prompt corrective action regulation as of December 31, 2009.
 
In addition to requiring undercapitalized institutions to submit a capital restoration plan, agency regulations contain broad restrictions on certain activities of undercapitalized institutions including asset growth, acquisitions, branch establishment and expansion into new lines of business. With certain exceptions, an insured depository institution is prohibited from making capital distributions, including dividends, and is prohibited from paying management fees to control persons if the institution would be undercapitalized after any such distribution or payment.
 
As an institution’s capital decreases, the federal regulators’ enforcement powers become more severe. A significantly undercapitalized institution is subject to mandated capital raising activities, restrictions on interest rates paid and transactions with affiliates, removal of management and other restrictions. The FDIC has limited discretion in dealing with a critically undercapitalized institution and is generally required to appoint a receiver or conservator. Similarly, within 90 days of a national bank becoming critically undercapitalized, the OCC must appoint a receiver or conservator unless certain findings are made with respect to the institution’s continued viability.
 
Banks with risk-based capital and leverage ratios below the required minimums may also be subject to certain administrative actions, including the termination of deposit insurance upon notice and hearing, or a temporary suspension of insurance without a hearing in the event the institution has no tangible capital.
 
Deposit Insurance Assessments.  The Bank’s deposits are insured up to applicable limits by the Deposit Insurance Fund (“DIF”) of the FDIC and are subject to deposit insurance assessments to maintain the DIF. The FDIC utilizes a risk-based assessment system to evaluate the risk of each financial institution based on three primary sources of information: (1) its supervisory rating, (2) its financial ratios, and (3) its long-term debt issuer rating, if the institution has one. The FDIC’s base assessment schedule can be adjusted up or down, and premiums for 2009 ranged from 12 basis points in the lowest risk category to 45 basis points for banks in the highest risk category. Premiums for 2010 are currently set at 2009 rates. During 2009 the FDIC also imposed a special assessment for all insured depositories that amounted to $988 thousand for the Bank.
 
In November 2009, the FDIC adopted a final rule requiring subject institutions to prepay approximately three years of deposit insurance assessments. On December 30, 2009, the Bank made of a payment of approximately $10.88 million to the FDIC for its estimated quarterly risk-based assessments for the fourth quarter of 2009 and for all of 2010, 2011, and 2012. The Bank’s FDIC insurance expense totaled $4.26 million and $202 thousand in 2009 and 2008, respectively. FDIC insurance expense includes deposit insurance assessments and Financing Corporation (“FICO”) assessments related to outstanding FICO bonds. The FICO is a mixed-ownership government corporation established by the Competitive Equality Banking Act of 1987 whose sole purpose was to function as a financing vehicle for the now defunct Federal Savings & Loan Insurance Corporation. Under the Federal Deposit Insurance Reform Act of 2005, the Bank received a one-time assessment credit of $1.13 million to be applied against future


8


Table of Contents

deposit insurance assessments, subject to certain limitations. This credit was utilized to offset $81 thousand, $693 thousand, and $356 thousand of deposit insurance assessments during 2009, 2008, and 2007, respectively.
 
The Company cannot provide any assurance as to the amount of any proposed increase in its deposit insurance premium rate, as such changes are dependent upon a variety of factors, some of which are beyond the Company’s control. Given the enacted and proposed increases in FDIC assessments for insured financial institutions in 2009, the Company anticipates that FDIC assessments on deposits will have a significantly greater impact upon operating expenses in 2010 compared to 2009 and 2008, and could affect its reported earnings, liquidity and capital for the period.
 
Under the FDIA, the FDIC may terminate deposit insurance upon a finding that the institution has engaged in unsafe and unsound practices, is in an unsafe or unsound condition to continue operations, or has violated any applicable law, regulation, rule, order or condition imposed by the FDIC.
 
Temporary Liquidity Guarantee Program.  In November 2008, the FDIC adopted a final rule relating to the Temporary Liquidity Guarantee Program (“TLG Program”). Under the TLG Program, the FDIC will (i) guarantee, through the earlier of maturity or December 31, 2012, certain newly issued senior unsecured debt issued by participating institutions on or after October 14, 2008, and before June 30, 2009 and (ii) provide full FDIC deposit insurance coverage for non-interest bearing transaction deposit accounts, Negotiable Order of Withdrawal (“NOW”) accounts paying less than 0.5% interest per annum and Interest on Lawyers Trust Accounts held at participating FDIC-insured institutions through June 30, 2010. Coverage under the TLG Program was available for the first 30 days without charge. The fee assessment for coverage of senior unsecured debt ranges from 50 basis points to 100 basis points per annum, depending on the initial maturity of the debt. The fee assessment for deposit insurance coverage is 10 basis points per quarter on amounts in covered accounts exceeding $250,000. In December 2008, the Company elected to participate in both guarantee programs and did not opt out of the six-month extension of the transaction account guarantee program. During the six-month extension period in 2010, the fee assessment increases to 15 basis points per quarter for institutions that are in Risk Category 1 of the risk-based premium system.
 
Safety and Soundness Standards.  The Federal Deposit Insurance Act, as amended (the “FDIA”), requires the federal bank regulatory agencies to prescribe standards, by regulations or guidelines, relating to internal controls, information systems and internal audit systems, loan documentation, credit underwriting, interest rate risk exposure, asset growth, asset quality, earnings, stock valuation and compensation, fees and benefits, and such other operational and managerial standards as the agencies deem appropriate. Guidelines adopted by the federal bank regulatory agencies establish general standards relating to internal controls and information systems, internal audit systems, loan documentation, credit underwriting, interest rate exposure, asset growth and compensation, fees and benefits. In general, the guidelines require, among other things, appropriate systems and practices to identify and manage the risk and exposures specified in the guidelines. The guidelines prohibit excessive compensation as an unsafe and unsound practice and describe compensation as excessive when the amounts paid are unreasonable or disproportionate to the services performed by an executive officer, employee, director or principal stockholder. In addition, the agencies adopted regulations that authorize, but do not require, an agency to order an institution that has been given notice by an agency that it is not satisfying any of such safety and soundness standards to submit a compliance plan. If, after being so notified, an institution fails to submit an acceptable compliance plan or fails in any material respect to implement an acceptable compliance plan, the agency must issue an order directing action to correct the deficiency and may issue an order directing other actions of the types to which an undercapitalized institution is subject under the “prompt corrective action” provisions of FDIA. See “Corrective Measures for Capital Deficiencies” above. If an institution fails to comply with such an order, the agency may seek to enforce such order in judicial proceedings and to impose civil money penalties.
 
Enforcement Powers.  The FDIC and the other federal banking agencies have broad enforcement powers, including the power to terminate deposit insurance, impose substantial fines and other civil and criminal penalties and appoint a conservator or receiver. Failure to comply with applicable laws, regulations and supervisory agreements could subject the Company or the Bank, as well as officers, directors and other institution-affiliated parties of these organizations, to administrative sanctions and potentially substantial civil money penalties. The appropriate federal banking agency may appoint the FDIC as conservator or receiver for a banking institution (or the FDIC may appoint itself, under certain circumstances) if any one or more of a number of circumstances exist,


9


Table of Contents

including, without limitation, the fact that the banking institution is undercapitalized and has no reasonable prospect of becoming adequately capitalized; fails to become adequately capitalized when required to do so; fails to submit a timely and acceptable capital restoration plan; or materially fails to implement an accepted capital restoration plan.
 
Consumer Laws and Regulations.  In addition to the laws and regulations discussed herein, the Bank is also subject to certain consumer laws and regulations that are designed to protect consumers in transactions with banks. While the list set forth herein is not exhaustive, these laws and regulations include the Truth in Lending Act, the Truth in Savings Act, the Electronic Funds Transfer Act, the Expedited Funds Availability Act, the Equal Credit Opportunity Act, and the Fair Housing Act, and various state counterparts. These laws and regulations mandate certain disclosure requirements and regulate the manner in which financial institutions must deal with customers when taking deposits or making loans to such customers. The Bank must comply with the applicable provisions of these consumer protection laws and regulations as part of their ongoing customer relations.
 
In addition, federal law currently contains extensive customer privacy protection provisions. Under these provisions, a financial institution must provide to its customers, at the inception of the customer relationship and annually thereafter, the institution’s policies and procedures regarding the handling of customers’ nonpublic personal financial information. These provisions also provide that, except for certain limited exceptions, a financial institution may not provide such personal information to unaffiliated third parties unless the institution discloses to the customer that such information may be so provided and the customer is given the opportunity to opt out of such disclosure.
 
USA PATRIOT Act of 2001.  The Uniting and Strengthening America by Providing Appropriate Tools Required to Intercept and Obstruct Terrorism Act of 2001 (“Patriot Act”) was enacted in October 2001. The Patriot Act has broadened existing anti-money laundering legislation while imposing new compliance and due diligence obligations on banks and other financial institutions, with a particular focus on detecting and reporting money laundering transactions involving domestic or international customers. The U.S. Treasury Department has issued and will continue to issue regulations clarifying the Patriot Act’s requirements. The Patriot Act requires all “financial institutions,” as defined, to establish certain anti-money laundering compliance and due diligence programs. Recently, the regulatory agencies have intensified their examination procedures in light of the Patriot Act’s anti-money laundering and Bank Secrecy Act requirements. The Company believes that its controls and procedures were in compliance with the Patriot Act as of December 31, 2009.
 
Regulatory Reform.  In June 2009, President Obama’s administration proposed a wide range of regulatory reforms that, if enacted, may have significant effects on the financial services industry in the United States. Significant aspects of the administration’s proposals that may affect the Company included, among other things, proposals: (i) to reassess and increase capital requirements for banks and bank holding companies and examine the types of instruments that qualify as regulatory capital; (ii) to combine the OCC and the Office of Thrift Supervision into a National Bank Supervisor with a unified federal bank charter; (iii) to expand the current eligibility requirements for financial holding companies, such as the Company, so that the financial holding company must be “well capitalized” and “well managed” on a consolidated basis; (iv) to create a federal consumer financial protection agency to be the primary federal consumer protection supervisor with broad examination, supervision and enforcement authority with respect to consumer financial products and services; (v) to further limit the ability of banks to engage transactions with affiliates; and (vi) to subject all “over-the-counter” derivatives markets to comprehensive regulation.
 
The U.S. Congress, state lawmaking bodies and federal and state regulatory agencies continue to consider a number of wide-ranging and comprehensive proposals for altering the structure, regulation and competitive relationships of the nation’s financial institutions, including rules and regulations related to the administration’s proposals. Separate comprehensive financial reform bills intended to address the proposals set forth by the administration were introduced in both houses of Congress in the second half of 2009 and remain under review by both the U.S. House of Representatives and the U.S. Senate. In addition, both the U.S. Treasury Department and the Basel Committee have issued policy statements regarding proposed significant changes to the regulatory capital framework applicable to banking organizations, as discussed above. The Company cannot predict whether or in what form further legislation or regulations may be adopted or the extent to which the Company may be affected thereby.


10


Table of Contents

Participation in the Troubled Asset Relief Program Capital Purchase Program
 
On November 21, 2008, the Company issued and sold to the U.S. Department of the Treasury (“Treasury”) (i) 41,500 shares of the Company’s Series A Preferred Stock and (ii) a warrant (the “Warrant”) to purchase 176,546 shares of the Company’s common stock, par value $1.00 per share (the “Common Stock”), for an aggregate purchase price of $41.50 million in cash. On June 5, 2009 the Company completed a public offering of its Common Stock that resulted in the reduction of the shares of Common Stock underlying the Warrant from 176,546 shares to 88,273 shares. On July 8, 2009, the Company repurchased from the Treasury all of the Series A Preferred Stock that it had issued to the Treasury in November 2008. The Company did not repurchase the Warrant.
 
The Warrant has a 10-year term and was immediately exercisable upon its issuance, with an initial per share exercise price of $35.26. Pursuant to the Purchase Agreement, Treasury has agreed not to exercise voting power with respect to any share of Common Stock issued upon exercise of the Warrant. In accordance with the terms of the Purchase Agreement, the Company registered the Warrant and the shares of Common Stock underlying the Warrant with the Securities and Exchange Commission (the “SEC”). The Warrant is not subject to any contractual restrictions on transfer. As required by the American Recovery and Reinvestment Act of 2009, the Secretary of the Treasury is required to liquidate the Warrant following the repurchase of the Series A Preferred Stock by the Company, which occurred in July 2009.
 
Website Access to Company Documents
 
The Company makes available free of charge on its website at www.fcbinc.com its Annual Report on Form 10-K, Quarterly Reports on Form 10-Q and Current Reports on Form 8-K, and all amendments thereto, as soon as reasonably practicable after the Company files such reports with, or furnishes them to, the SEC. Investors are encouraged to access these reports and the other information about the Company’s business on its website. Information found on the Company’s website is not part of this Annual Report on Form 10-K/A. The Company will also provide copies of its Annual Report on Form 10-K/A, free of charge, upon written request of its Investor Relations Department at the Company’s main address, P.O. Box 989, Bluefield, VA 24605.
 
Also posted on the Company’s website, and available in print upon request of any shareholder to the Company’s Investor Relations Department, are the charters of the standing committees of its Board of Directors, the Standards of Conduct governing the Company’s directors, officers, and employees, and the Company’s Insider Trading & Disclosure Policy.
 
Forward-Looking Statements
 
This Annual Report on Form 10-K/A may include “forward-looking statements”, which are made in good faith by the Company pursuant to the “safe harbor” provisions of the Private Securities Litigation Reform Act of 1995. These forward-looking statements include, among others, statements with respect to the Company’s beliefs, plans, objectives, goals, guidelines, expectations, anticipations, estimates and intentions that are subject to significant risks and uncertainties and are subject to change based on various factors, many of which are beyond the Company’s control. The words “may”, “could”, “should”, “would”, “believe”, “anticipate”, “estimate”, “expect”, “intend”, “plan” and similar expressions are intended to identify forward-looking statements. The following factors, among others, could cause the Company’s financial performance to differ materially from that expressed in such forward-looking statements: the strength of the United States economy in general and the strength of the local economies in which the Company conducts operations; the effects of, and changes in, trade, monetary and fiscal policies and laws, including interest rate policies of the Federal Reserve Board; inflation, interest rate, market and monetary fluctuations; the timely development of competitive new products and services of the Company and the acceptance of these products and services by new and existing customers; the willingness of customers to substitute competitors’ products and services for the Company’s products and services and vice versa; the impact of changes in financial services laws and regulations (including laws concerning taxes, banking, securities and insurance); technological changes; the effect of acquisitions, including, without limitation, the failure to achieve the expected revenue growth and/or expense savings from such acquisitions; the growth and profitability of the Company’s noninterest or fee income being less than expected; unanticipated regulatory or judicial proceedings; changes in


11


Table of Contents

consumer spending and saving habits; and the success of the Company at managing the risks involved in the foregoing.
 
The Company cautions that the foregoing list of important factors is not all-inclusive. If one or more of the factors affecting these forward-looking statements proves incorrect, then the Company’s actual results, performance, or achievements could differ materially from those expressed in, or implied by, forward-looking statements contained in this Annual Report on Form 10-K/A. Therefore, the Company cautions you not to place undue reliance on these forward-looking statements.
 
The Company does not intend to update these forward-looking statements, whether written or oral, to reflect change. All forward-looking statements attributable to the Company are expressly qualified by these cautionary statements.
 
ITEM 1A.   RISK FACTORS.
 
Changes in the fair value of the Company’s securities may reduce its stockholders’ equity and net income.
 
At December 31, 2009, $486.06 million of the Company’s securities were classified as available-for-sale. At such date, the aggregate unrealized losses on the Company’s available-for-sale securities were $27.39 million. The Company increases or decreases stockholders’ equity by the amount of the change in the unrealized gain or loss (the difference between the estimated fair value and the amortized cost) of the Company’s available-for-sale securities portfolio, net of the related tax benefit, under the category of accumulated other comprehensive income/loss. Therefore, a decline in the estimated fair value of this portfolio will result in a decline in reported stockholders’ equity, as well as book value per common share and tangible book value per common share. This decrease will occur even though the securities are not sold. In the case of debt securities, if these securities are never sold and there are no further credit impairments, the decrease will be recovered over the life of the securities. In the case of equity securities which have no stated maturity, the declines in fair value may or may not be recovered over time.
 
The Company conducts periodic reviews and evaluations of its entire securities portfolio to determine if the decline in the fair value of any security below its cost basis is other-than-temporary. Factors which the Company considered in its analysis of debt securities include, but are not limited to, intent to sell the security, evidence available to determine if it is more likely than not that the Company will have to sell the securities before recovery of the amortized cost, and probable credit losses. Probable credit losses are evaluated based upon, but are not limited to: the present value of future cash flows, the severity and duration of the decline in fair value of the security below its amortized cost, the financial condition and near-term prospects of the issuer, whether the decline appears to be related to issuer conditions or general market or industry conditions, the payment structure of the security, failure of the security to make scheduled interest or principal payments, and changes to the rating of the security by rating agencies. The Company generally views changes in fair value for debt securities caused by changes in interest rates as temporary, which is consistent with the Company’s experience. If the Company deems such decline to be other-than-temporary, the security is written down to a new cost basis and the resulting loss is charged to earnings as a component of non-interest income. For the year ended December 31, 2009, the Company reported other-than-temporary impairment (“OTTI”) charges of $77.59 million on its debt securities portfolio.
 
Factors that the Company considers in its analysis of equity securities include, but are not limited to: intent to sell the security before recovery of the cost, the severity and duration of the decline in fair value of the security below its cost, the financial condition and near-term prospects of the issuer, and whether the decline appears to be related to issuer conditions or general market or industry conditions.
 
The Company continues to monitor the fair value of its entire securities portfolio as part of its ongoing OTTI evaluation process. No assurance can be given that the Company will not need to recognize OTTI charges related to securities in the future.


12


Table of Contents

The current economic environment poses significant challenges for the Company and could adversely affect its financial condition and results of operations.
 
There has been significant disruption and volatility in the financial and capital markets since 2007. The financial markets and the financial services industry in particular suffered unprecedented disruption, causing a number of institutions to fail or require government intervention to avoid failure. These conditions were largely the result of the erosion of the U.S. and global credit markets, including a significant and rapid deterioration in the mortgage lending and related real estate markets. Dramatic declines in the housing markets over the past three years, with falling home prices and increasing foreclosures and unemployment, have resulted in significant writedowns of asset values by financial institutions. As a consequence, the Company recently experienced losses resulting primarily from substantial impairment charges on investment securities. Continued declines in real estate values, home sales volumes, and financial stress on borrowers as a result of the uncertain economic environment could have an adverse effect on the Company’s borrowers or their customers, which could adversely affect the Company’s financial condition and results of operations. A worsening of these conditions would likely exacerbate the adverse effects on the Company and others in the financial institutions industry. There can be no assurance that the economic conditions that have adversely affected the financial services industry, and the capital, credit and real estate markets generally, will improve significantly, in which case the Company could continue to experience losses, writedowns of assets, further impairment charges of investment securities and capital and liquidity constraints or other business challenges. A further deterioration in local economic conditions, particularly within the Company’s geographic regions and markets, could drive losses beyond that which is provided for in its allowance for loan losses. The Company may also face the following risks in connection with these events:
 
  •  Economic conditions that negatively affect housing prices and the job market have resulted, and may continue to result, in deterioration in credit quality of the Company’s loan portfolios, and such deterioration in credit quality has had, and could continue to have, a negative impact on the Company’s business.
 
  •  Market developments may affect consumer confidence levels and may cause adverse changes in payment patterns, causing increases in delinquencies and default rates on loans and other credit facilities.
 
  •  The processes the Company uses to estimate allowance for loan losses and reserves may no longer be reliable because they rely on complex judgments, including forecasts of economic conditions, which may no longer be capable of accurate estimation.
 
  •  The Company’s ability to assess the creditworthiness of its customers may be impaired if the models and approaches it uses to select, manage, and underwrite its customers become less predictive of future charge-offs.
 
  •  The Company expects to face increased regulation of its industry, and compliance with such regulation may increase its costs, limit its ability to pursue business opportunities, and increase compliance challenges.
 
As the above conditions or similar ones continue to exist or worsen, the Company could experience continuing or increased adverse effects on its financial condition and results of operations.
 
The Company and its subsidiary business are subject to interest rate risk and variations in interest rates may negatively affect its financial performance.
 
The Company’s earnings and cash flows are largely dependent upon its net interest income. Net interest income is the difference between interest income earned on interest-earning assets, such as loans and securities, and interest expense paid on interest bearing liabilities, such as deposits and borrowed funds. Interest rates are highly sensitive to many factors that are beyond the Company’s control, including general economic conditions and policies of various governmental and regulatory agencies and, in particular, the Federal Reserve Board. Changes in monetary policy, including changes in interest rates, could influence not only the interest the Company receives on loans and securities and the amount of interest it pays on deposits and borrowings, but such changes could also affect (i) the Company’s ability to originate loans and obtain deposits, and (ii) the fair value of the Company’s financial assets and liabilities. 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, the Company’s net interest income, and therefore


13


Table of Contents

earnings, could be adversely affected. 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.
 
The Bank’s allowance for loan losses may not be adequate to cover actual losses.
 
Like all financial institutions, the Bank maintains an allowance for loan losses to provide for probable losses. The Bank’s allowance for loan losses may not be adequate to cover actual loan losses, and future provisions for loan losses could materially and adversely affect the Bank’s operating results. The determination of the appropriate level of the allowance for loan losses inherently involves a high degree of subjectivity and requires the Bank to make significant estimates of current credit risks and future trends, all of which may undergo material changes. The Bank’s allowance for loan losses is determined by analyzing historical loan losses, current trends in delinquencies and charge-offs, plans for problem loan resolution, changes in the size and composition of the loan portfolio, and industry information. Also included in management’s estimates for loan losses are considerations with respect to the impact of economic events, the outcome of which are uncertain. The amount of future losses is susceptible to changes in economic, operating and other conditions, including changes in interest rates, that may be beyond the Bank’s control, and these losses may exceed current estimates. Federal regulatory agencies, as an integral part of their examination process, review the Bank’s loans and allowance for loan losses. Although the Company believes that the Bank’s allowance for loan losses is adequate to provide for probable losses, there are no assurances that future increases in the allowance for loan losses will not be needed or that regulators will not require the Bank to increase its allowance. Either of these occurrences could materially and adversely affect the Company’s earnings and profitability.
 
The Company has experienced increases in the levels of non-performing assets and loan charge-offs in recent periods. The Company’s total non-performing assets amounted to $22.11 million at December 31, 2009, $14.09 million at December 31, 2008, and $3.47 million at December 31, 2007. The Company had $9.31 million of net loan charge-offs for the year ended December 31, 2009, compared to $5.45 million and $2.43 million in net loan charge-offs for the years ended December 31, 2008 and 2007, respectively. The Company’s provision for loan losses was $15.80 million for the year ended December 31, 2009, $9.23 million for the year ended December 31, 2008, and $717 thousand for the year ended December 31, 2007. At December 31, 2009, the ratios of the Company’s allowance for loan losses to non-accrual loans and to total loans outstanding was 138.51% and 1.74%, respectively. Additional increases in the Company’s non-performing assets or loan charge-offs may require it to increase its allowance for loan losses, which would have an adverse effect upon the Company’s future results of operations.
 
The declining real estate market could impact the Company’s business.
 
The Company’s business activities are conducted in Virginia, West Virginia, North Carolina, South Carolina, Tennessee and the surrounding region. During 2008 and 2009, the real estate market in these regions experienced declines with falling home prices and increased foreclosures. As the Company’s net charge-offs increased during this period and in recognition of the continued deterioration in the real estate market and the potential for further increases in non-performing assets, the Company increased its provision for loan losses during 2008 and 2009. A continued downturn in this regional real estate market could hurt the Company’s business because of the geographic concentration within this regional area and because the vast majority of the Company’s loans are secured by real estate. If there is a further decline in real estate values, the collateral for the Company’s loans will provide less security. As a result, the Company’s ability to recover on defaulted loans by selling the underlying real estate will be diminished, and it will be more likely to suffer losses on defaulted loans.
 
The Company’s level of credit risk is increasing due to its focus on commercial and construction lending, and the concentration on small businesses and middle market customers with heightened vulnerability to economic conditions.
 
As of December 31, 2009, the Company’s largest outstanding commercial business loan and largest outstanding commercial real estate loan amounted to $15.34 million and $7.92 million, respectively. At such date, the Company’s commercial business loans amounted to $96.37 million, or 6.91% of the Company’s total loan portfolio, and the Company’s commercial real estate loans amounted to $450.61 million, or 32.33% of the Company’s total loan portfolio. Commercial business and commercial real estate loans generally are considered


14


Table of Contents

riskier than single-family residential loans because they have larger balances to a single borrower or group of related borrowers. Commercial business and commercial real estate loans involve risks because the borrowers’ ability to repay the loans typically depends primarily on the successful operation of the businesses or the properties securing the loans. Most of the Company’s commercial business loans are made to small business or middle market customers who may have a heightened vulnerability to economic conditions. Moreover, a portion of these loans have been made or acquired by the Company in recent years and the borrowers may not have experienced a complete business or economic cycle.
 
In addition to commercial real estate and commercial business loans, the Company holds a portfolio of construction loans. At December 31, 2009, the Company’s construction loans amounted to $124.90 million, or 8.96% of the Company’s total loan portfolio. Construction loans generally have a higher risk of loss than single-family residential mortgage loans due primarily to the critical nature of the initial estimates of a property’s value upon completion of construction compared to the estimated costs, including interest, of construction as well as other assumptions. If the estimates upon which construction loans are made prove to be inaccurate, the Company may be confronted with projects that, upon completion, have values which are below the loan amounts. The nature of the allowance for loan losses requires that the Company must use assumptions regarding, among other factors, individual loans and the economy. While the Company is not aware of any specific, material impediments impacting any of its builder/developer borrowers at this time, there continues to be nationwide reports of significant problems which have adversely affected many property developers and builders as well as the institutions that have provided those loans. If any of the builder/developers to which the Company has extended construction loans experience the type of difficulties that are being reported, it could have adverse consequences upon its future results of operations.
 
The Bank may suffer losses in its loan portfolio despite its underwriting practices.
 
The Bank seeks to mitigate the risks inherent in the Bank’s loan portfolio by adhering to specific underwriting practices. These practices include analysis of a borrower’s prior credit history, financial statements, tax returns and cash flow projections, valuation of collateral based on reports of independent appraisers and verification of liquid assets. Although the Bank believes that its underwriting criteria are appropriate for the various kinds of loans it makes, the Bank may incur losses on loans that meet its underwriting criteria, and these losses may exceed the amounts set aside as reserves in the Bank’s allowance for loan losses.
 
The Company and its subsidiaries are subject to extensive regulation which could adversely affect them.
 
The Company and its subsidiaries’ operations are subject to extensive regulation and supervision by federal and state governmental authorities and are subject to various laws and judicial and administrative decisions imposing requirements and restrictions on part or all of the Company’s operations. Banking regulations governing the Company’s operations are primarily intended to protect depositors’ funds, federal deposit insurance funds and the banking system as a whole, not security holders. Congress and federal regulatory agencies continually review banking laws, regulations and policies for possible changes. Changes to statutes, regulations or regulatory policies, including changes in interpretation or implementation of statutes, regulations or policies, could affect the Company in substantial and unpredictable ways. Such changes could subject the Company to additional costs, limit the types of financial services and products the Company may offer and/or increase the ability of non-banks to offer competing financial services and products, among other things. Failure to comply with laws, regulations or policies could result in sanctions by regulatory agencies, civil money penalties and/or reputation damage, which could have a material adverse effect on the Company’s business, financial condition and results of operations. While the Company has policies and procedures designed to prevent any such violations, there can be no assurance that such violations will not occur. These laws, rules and regulations, or any other laws, rules or regulations, that may be adopted in the future, could make compliance more difficult or expensive, restrict the Company’s ability to originate, broker or sell loans, further limit or restrict the amount of commissions, interest or other charges earned on loans originated or sold by the Bank and otherwise adversely affect the Company’s business, financial condition or prospects.
 
On October 3, 2008, the Emergency Economic Stabilization Act of 2008 (“EESA”) was signed into law. Pursuant to the EESA, the Treasury was granted the authority to take a range of actions for the purpose of stabilizing


15


Table of Contents

and providing liquidity to the U.S. financial markets and has proposed several programs, including the purchase by the Treasury of certain troubled assets from financial institutions and the direct purchase by the Treasury of equity of financial institutions. There can be no assurance, however, as to the actual impact that the foregoing or any other governmental program will have on the financial markets. The failure of the financial markets to stabilize and a continuation or worsening of current financial market conditions could materially and adversely affect the Company’s business, financial condition, results of operations, access to credit or the trading price of its Common Stock. In addition, current initiatives of President Obama’s administration may adversely affect the Company’s financial condition and results of operations.
 
The financial services industry is likely to face increased regulation and supervision as a result of the recent financial crisis. Such additional regulation and supervision may increase the Company’s costs and limit its ability to pursue business opportunities. The affects of such recently enacted, and proposed, legislation and regulatory programs on the Company cannot reliably be determined at this time.
 
The Bank’s ability to pay dividends is subject to regulatory limitations which, to the extent the Company requires such dividends in the future, may affect the Company’s ability to pay its obligations and pay dividends.
 
The Company is a separate legal entity from the Bank and its subsidiaries and does not have significant operations of its own. The Company currently depends on the Bank’s cash and liquidity as well as dividends to pay the Company’s operating expenses and dividends to shareholders. No assurance can be made that in the future the Bank will have the capacity to pay the necessary dividends and that the Company will not require dividends from the Bank to satisfy the Company’s obligations. The availability of dividends from the Bank is limited by various statutes and regulations. It is possible, depending upon the financial condition of the Bank and other factors, that the OCC, the Bank’s primary regulator, could assert that payment of dividends or other payments by the Bank are an unsafe or unsound practice. In the event the Bank is unable to pay dividends sufficient to satisfy the Company’s obligations or is otherwise unable to pay dividends to the Company, the Company may not be able to service its obligations as they become due, including payments required to be made to the FCBI Capital Trust, a business trust subsidiary of the Company, or pay dividends on the Company’s Common Stock. Consequently, the inability to receive dividends from the Bank could adversely affect the Company’s financial condition, results of operations, cash flows and prospects. As a result of securities impairments and a special dividend from the Bank in 2008, the Bank does not have retained profits from which it can pay dividends. Accordingly, the Bank would need permission from the OCC prior to paying dividends to the Company.
 
The Company faces strong competition from other financial institutions, financial service companies and other organizations offering services similar to those offered by the Company and its subsidiaries, which could hurt the Company’s business.
 
The Company’s business operations are centered primarily in Virginia, West Virginia, North Carolina, South Carolina, and Tennessee. Increased competition within this region may result in reduced loan originations and deposits. Ultimately, the Company may not be able to compete successfully against current and future competitors. Many competitors offer the types of loans and banking services that the Bank offers. These competitors include other savings associations, national banks, regional banks and other community banks. The Company also faces competition from many other types of financial institutions, including finance companies, brokerage firms, insurance companies, credit unions, mortgage banks and other financial intermediaries. In particular, the Bank’s competitors include other state and national banks and major financial companies whose greater resources may afford them a marketplace advantage by enabling them to maintain numerous banking locations and mount extensive promotional and advertising campaigns.
 
Additionally, banks and other financial institutions with larger capitalization and financial intermediaries not subject to bank regulatory restrictions have larger lending limits and are thereby able to serve the credit needs of larger clients. These institutions, particularly to the extent they are more diversified than the Company, may be able to offer the same loan products and services that the Company offers at more competitive rates and prices. If the Company is unable to attract and retain banking clients, the Company may be unable to continue the Bank’s loan and deposit growth and the Company’s business, financial condition and prospects may be negatively affected.


16


Table of Contents

Potential Acquisitions May Disrupt the Company’s Business and Dilute Stockholder Value
 
The Company may seek merger or acquisition partners that are culturally similar and have experienced management and possess either significant market presence or have potential for improved profitability through financial management, economies of scale or expanded services. 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 the Company’s business.
 
  •  Potential diversion of the Company’s 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.
 
The Company regularly evaluates merger and acquisition opportunities and conducts due diligence activities related to possible transactions with other financial institutions and financial services companies. 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. Acquisitions typically involve the payment of a premium over book and market values, and, therefore, some dilution of the Company’s 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 the Company’s financial condition and results of operations.
 
In the third quarter of 2009, the Company completed its acquisition of TriStone Community Bank, located in Winston-Salem, North Carolina. Details of recent acquisitions are presented in Note 3 — Merger, Acquisition and Branching Activity in the Notes to the Consolidated Financial Statements included in Item 8 hereof.
 
The Company’s goodwill may be determined to be impaired.
 
As of December 31, 2009, the carrying amount of the Company’s goodwill was $84.65 million. The Company tests goodwill for impairment on an annual basis, or more frequently if necessary. Quoted market prices in active markets are the best evidence of fair value and are to be used as the basis for measuring impairment, when available. Other acceptable valuation methods include present-value measurements based on multiples of earnings or revenues, or similar performance measures. If the Company determines that the carrying amount of its goodwill exceeds its implied fair value, the Company would be required to write down the value of the goodwill on its balance sheet. This, in turn, would result in a charge against earnings and, thus, a reduction in the Company’s stockholders’ equity and certain related capital measures.
 
The Company may lose members of its management team and have difficulty attracting skilled personnel.
 
The Company’s success depends, in large part, on its ability to attract and retain key people. Competition for the best people can be intense and the Company may not be able to hire such people or to retain them. The unexpected loss of services of key personnel of the Company could have a material adverse impact on its business because of their skills, knowledge of the Company’s market, years of industry experience and the difficulty of promptly finding qualified replacement personnel. In addition, recent regulatory proposals and guidance relating to compensation may negatively impact the Company’s ability to retain and attract skilled personnel.


17


Table of Contents

Higher FDIC deposit insurance premiums and assessments could adversely affect the Company’s financial condition.
 
The Bank’s FDIC insurance premiums increased substantially in 2009, and the Company expects to pay significantly higher premiums in the future. A large number of depository institution failures have significantly depleted the DIF and reduced the ratio of reserves to insured deposits. In order to restore the DIF to its statutorily mandated minimum of 1.15 percent over a period of several years, the FDIC increased deposit insurance premium rates at the beginning of 2009 and imposed a special assessment on June 30, 2009, which amounted to $988 thousand for the Bank. The FDIC may impose additional special assessments in the future.
 
In November 2009, in order to ensure sufficient liquidity to pay for projected depository institution failures, the FDIC adopted a final rule pursuant to which all insured depository institutions were required to prepay their estimated quarterly risk-based assessments for the fourth quarter of 2009 and for all of 2010, 2011, and 2012. For purposes of calculating the prepaid assessment amount, an institution’s assessment base for the quarter ended September 30, 2009, is increased quarterly by an estimated five percent annual growth rate through the end of 2012. An institution’s assessment rate for the fourth quarter of 2009 and for all of 2010 is equal to the rate in effect on September 30, 2009, under the proposed rule, but is increased by three basis points for all of 2011 and 2012. Under the final rule, the Company was required to make a payment to the FDIC on December 30, 2009, and to record the payment as a prepaid expense, which would be amortized to expense over three years. On December 30, 2009, the Company paid $10.88 million as prepayment of its estimated quarterly risk-based assessments for the fourth quarter of 2009 and for all of 2010, 2011, and 2012.
 
The Company may need to raise additional capital in the future, and such capital may not be available when needed or at all.
 
The Company may need to raise additional capital in the future to provide it with sufficient capital resources and liquidity to meet its commitments and business needs, particularly if its asset quality or earnings were to deteriorate significantly. The Company’s ability to raise additional capital, if needed, will depend on, among other things, conditions in the capital markets at that time, which are outside of its control, and its financial performance. Economic conditions and the loss of confidence in financial institutions may increase the Company’s cost of funding and limit access to certain customary sources of capital, including inter-bank borrowings, repurchase agreements and borrowings from the discount window of the Federal Reserve Board. Any occurrence that may limit the Company’s access to the capital markets may adversely affect the Company’s capital costs and its ability to raise capital and, in turn, its liquidity. Accordingly, the Company cannot provide any assurance that additional capital will be available on acceptable terms or at all. An inability to raise additional capital on acceptable terms when needed could have a materially adverse effect on the Company’s businesses, financial condition and results of operations.
 
Liquidity risk could impair the Company’s ability to fund its operations and jeopardize its financial condition.
 
Liquidity is essential to the Company’s business. An inability to raise funds through deposits, borrowings, equity/debt offerings and other sources could have a substantial negative effect on the Company’s liquidity. The Company’s access to funding sources in amounts adequate to finance its activities, or on terms attractive to the Company, could be impaired by factors that affect the Company specifically or the financial services industry in general. Factors that could detrimentally impact the Company’s access to liquidity sources include a reduction in its credit ratings, if any, an increase in costs of capital in financial capital markets, a decrease in the level of its business activity due to a market downturn or adverse regulatory action against the Company, or a decrease in depositor or investor confidence in it. The Company’s ability to borrow could also be impaired by factors that are not specific to it, such as a severe disruption of the financial markets or negative views and expectations about the prospects for the financial services industry as a whole.


18


Table of Contents

ITEM 1B.   UNRESOLVED STAFF COMMENTS.
 
The Company has no unresolved staff comments as of the filing date of this 2009 Annual Report on Form 10-K.
 
ITEM 2.   PROPERTIES.
 
The Company generally owns its offices, related facilities, and unimproved real property. The principal offices of the Company are located at One Community Place, Bluefield, Virginia, where the Company owns and occupies approximately 36,000 square feet of office space. As of December 31, 2009, the Company operated in 57 locations throughout the five states of Virginia, West Virginia, North and South Carolina, and Tennessee. The Company owns 43 of its banking offices while others are leased or are located on leased land. The Company also operates nine insurance offices throughout North Carolina and Virginia, including its headquarters in High Point, North Carolina. The Company owns one of its insurance offices and leases the remaining locations. There are no mortgages or liens against any property of the Company. A complete listing of all branches and ATM sites can be found on the Internet at www.fcbresource.com. Information on such website is not part of this Annual Report on Form 10-K/A.
 
ITEM 3.   LEGAL PROCEEDINGS.
 
The Company is currently a defendant in various legal actions and asserted claims involving lending and collection activities and other matters in the normal course of business. Although the Company and legal counsel are unable to assess the ultimate outcome of each of these matters with certainty, they are of the belief that the resolution of these actions should not have a material adverse affect on the financial position or the results of operations of the Company.
 
ITEM 4.   RESERVED.
 
PART II
 
ITEM 5.   MARKET FOR REGISTRANT’S COMMON EQUITY, RELATED STOCKHOLDER MATTERS AND ISSUER PURCHASES OF EQUITY SECURITIES.
 
Common Stock Market Prices and Dividends
 
The number of common stockholders of record on February 22, 2010, was 2,802 and outstanding shares totaled 17,765,164. The number of common stockholders is measured by the number of recordholders. The Company’s common stock trades on the NASDAQ Global Select market under the symbol “FCBC”.
 
Cash dividends on common stock for 2009 totaled $0.30 per share and $1.12 per share in 2008. Total dividends paid on common stock for the current and prior years totaled $4.62 million and $12.45 million, respectively. Total dividends paid on preferred stock for the 2009 totaled $1.12 million. Details of the restrictions on cash dividends are set forth in Management’s Discussion and Analysis of Financial Condition and Results of Operations- Liquidity and Capital Resources in Item 6 hereof and Note 15 — Regulatory Capital Requirements and Restrictions of the Notes to Consolidated Financial Statements included in Item 8 hereof.
 
The following table sets forth the high and low stock prices and dividends paid per share on the Company’s common stock during the periods indicated.
 
                                 
    2009   2008
    High   Low   High   Low
 
Sales Price Per Share
                               
First quarter
  $ 35.13     $ 7.90     $ 34.89     $ 28.00  
Second quarter
    17.55       10.27       34.89       27.79  
Third quarter
    14.29       12.00       39.00       25.54  
Fourth quarter
    13.06       10.50       38.00       23.49  
 


19


Table of Contents

                 
    2009     2008  
 
Cash Dividends Per Share
               
First quarter
  $     $ 0.28  
Second quarter
    0.20       0.28  
Third quarter
    0.10       0.28  
Fourth quarter
          0.28  
                 
Total
  $ 0.30     $ 1.12  
                 
 
Stock Repurchase Plans
 
The following table provides information with respect to purchases made by or on behalf of the Company or any “affiliated purchaser” (as defined in Rule 10b-18(a)(3) under the Securities Exchange Act of 1934) of the Company’s Common Stock during the fourth quarter of 2009.
 
                                 
                Total Number
    Maximum
 
    Total
          of Shares
    Number of
 
    Number of
    Average
    Purchased as
    Shares That May
 
    Shares
    Price Paid
    Part of a Publicly
    Yet be Purchased
 
    Purchased     per Share     Announced Plan     Under the Plan(1)  
 
October 1-31, 2009
    8,500     $ 12.53       8,500       689,006  
November 1-30, 2009
    4,000       11.66       4,000       707,514  
December 1-31, 2009
                      782,342  
                                 
Total
    12,500     $ 12.25       12,500          
                                 
 
 
(1) The Company’s stock repurchase plan, as amended, allows the purchase and retention of up to 1,100,000 shares. The plan has no expiration date, remains open and no plans have expired during the reporting period covered by this table. No determination has been made to terminate the plan or to cease making purchases. The Company held 317,658 shares in treasury at December 31, 2009.

20


Table of Contents

Total Return Analysis
 
The following chart was compiled by SNL Securities LC, and compares cumulative total shareholder return of the Company’s Common Stock for the five-year period ended December 31, 2009, with the cumulative total return of the S&P 500 Index, the NASDAQ Composite index, and the Asset Size & Regional Peer Group. The Asset Size & Regional Peer Group consists of 53 bank holding companies that are traded on the NASDAQ, OTC Bulletin Board, and pink sheets with total assets between $1 billion and $5 billion and are located in the Southeast Region of the United States. The cumulative returns include reinvestment of dividends by the Company.
 
Total Return Performance
 
(PERFORMANCE GRAPH)
 
                                                 
    Period Ending
Index   12/31/04   12/31/05   12/31/06   12/31/07   12/31/08   12/31/09
First Community Bancshares, Inc.
    100.00       89.28       116.96       97.44       110.34       39.06  
                                                 
S&P 500
    100.00       104.91       121.48       128.16       80.74       102.11  
                                                 
NASDAQ Composite
    100.00       101.37       111.03       121.92       72.49       104.31  
                                                 
Asset & Regional Peer Group**
    100.00       104.09       116.63       86.19       72.47       51.23  
                                                 
 
** The Asset Size & Regional Peer Group consists of the following institutions: Ameris Bancorp, Atlantic Southern Financial Group, Inc., BancTrust Financial Group, Inc., Bank of Florida Corporation, Bank of Granite Corporation, Bank of the Ozarks, Inc., BNC Bancorp, Burke & Herbert Bank & Trust Company, Cadence Financial Corporation, Capital Bank Corporation, Capital City Bank Group, Inc., Cardinal Financial Corporation, Carter Bank & Trust, CenterState Banks, Inc., City Holding Company, Colony Bankcorp, Inc., Commonwealth Bankshares, Inc., Crescent Banking Company, Crescent Financial Corporation, Eastern Virginia Bankshares, Inc., Fidelity Southern Corporation, First Bancorp, First Bancorp, Inc., First M&F Corporation, First National Bank of Shelby, First Security Group, Inc., FNB United Corp., Great Florida Bank, Green Bankshares, Inc., Hampton Roads Bankshares, Inc., Home BancShares, Inc., NewBridge Bancorp, Nexity Financial Corporation, PAB Bankshares, Inc., Palmetto Bancshares, Inc., Peoples Bancorp of North Carolina, Inc., Renasant Corporation, Savannah Bancorp, Inc., SCBT Financial Corporation, Seacoast Banking Corporation of Florida, Simmons First National Corporation, Southeastern Bank Financial Corporation, Southern Bancshares (N.C.), Inc., Southern Community Financial Corporation, StellarOne Corporation, Summit Financial Group, Inc., Tennessee Commerce Bancorp, Inc., TIB Financial Corp., TowneBank, Union Bankshares Corporation, Virginia Commerce Bancorp, Inc., Wilson Bank Holding Company, and Yadkin Valley Financial Corporation.


21


Table of Contents

 
 
ITEM 6.   SELECTED FINANCIAL DATA.
 
The following consolidated selected financial data is derived from the Company’s audited financial statements as of and for the five years ended December 31, 2009. The following consolidated financial data should be read in conjunction with Management’s Discussion and Analysis of Financial Condition and Results of Operations and the Consolidated Financial Statements and related notes included in this Annual Report on Form 10-K/A. All of the Company’s acquisitions during the five years ended December 31, 2009 were accounted for using the purchase method. Accordingly, the operating results of the acquired companies are included with the Company’s results of operations since their respective dates of acquisition.
 
The consolidated selected financial data set forth in this Item 6 for the year ended December 31, 2009 has been restated. For additional information concerning the restated financial information, see Note 2 - Restatement of Consolidated Financial Statements of the Notes to Consolidated Financial Statements of this Annual Report on Form 10-K/A.
 
                                         
    At or for the Year Ended December 31,  
Five-Year Selected Financial Data
  2009     2008     2007     2006     2005  
    (Dollars in thousands, except per share data)  
  (Restated)     (Restated)                  
 
Balance Sheet Summary
(at end of period)
                                       
Securities
  $ 493,511     $ 529,393     $ 676,195     $ 528,389     $ 428,554  
Loans held for sale
    11,576       1,024       811       781       1,274  
Loans, net of unearned income
    1,393,931       1,298,159       1,225,502       1,284,863       1,331,039  
Allowance for loan losses
    24,277       17,782       12,833       14,549       14,736  
Total assets
    2,273,283       2,132,187       2,149,838       2,033,698       1,952,483  
Deposits
    1,645,960       1,503,758       1,393,443       1,394,771       1,403,220  
Borrowings
    352,558       381,791       517,843       406,556       335,885  
Total liabilities
    2,021,016       1,912,972       1,932,740       1,820,968       1,757,982  
Stockholders’ equity
    252,267       219,215       217,098       212,730       194,501  
Summary of Earnings
                                       
Total interest income
  $ 107,934     $ 110,765     $ 127,591     $ 120,026     $ 109,508  
Total interest expense
    38,682       44,930       59,276       48,381       35,880  
Net interest income
    69,252       65,835       68,315       71,645       73,628  
Provision for loan losses
    15,801       9,226       717       2,706       3,706  
Net interest income after provision for loan losses
    53,451       56,609       67,598       68,939       69,922  
Non-interest income
    25,186       32,297       24,831       21,323       22,305  
Investment securities impairment
    78,863       29,923                    
Non-interest expense
    66,624       60,516       50,463       49,837       55,591  
(Loss) income from continuing operations before income taxes
    (66,850 )     (1,533 )     41,966       40,425       36,636  
Income (benefit) tax expense
    (28,154 )     (3,487 )     12,334       11,477       10,191  
(Loss) income from continuing operations
    (38,696 )     1,954       29,632       28,948       26,445  
Loss from discontinued operations before income taxes
                            (233 )
Income tax benefit
                            (91 )
Loss from discontinued operations
                            (142 )
Net (loss) income
    (38,696 )     1,954       29,632       28,948       26,303  
Dividends on preferred stock
    2,160       255                    
Net (loss) income available to common shareholders
    (40,856 )     1,699       29,632       28,948       26,303  


22


Table of Contents

                                         
    At or for the Year Ended December 31,  
Five-Year Selected Financial Data-continued
  2009     2008     2007     2006     2005  
  (Restated)     (Restated)                    
 
Per Share Data
                                       
Basic (loss) earnings per common share
  $ (2.75 )   $ 0.15     $ 2.64     $ 2.58     $ 2.33  
Basic (loss) earnings per common share-continuing operations
    (2.75 )     0.15       2.64       2.58       2.35  
Basic loss per common share-discontinued operations
                            (0.02 )
Diluted (loss) earnings per common share
  $ (2.75 )   $ 0.15     $ 2.62     $ 2.57     $ 2.32  
Diluted (loss) earnings per common share-continuing operations
    (2.75 )     0.15       2.62       2.57       2.33  
Diluted loss per common share-discontinued operations
                            (0.01 )
Cash dividends
  $ 0.30     $ 1.12     $ 1.08     $ 1.04     $ 1.02  
Book value per common share at year-end
  $ 14.20     $ 15.36     $ 19.61     $ 18.92     $ 17.29  
Selected Ratios
                                       
Return on average assets
    −1.83 %     0.08 %     1.39 %     1.46 %     1.37 %
Return on average equity
    −16.73 %     0.86 %     13.54 %     14.32 %     13.79 %
Average equity to average assets
    10.95 %     9.86 %     10.30 %     10.21 %     9.91 %
Dividend payout
                40.91 %     40.31 %     43.78 %
Risk based capital to risk adjusted assets
    13.81 %     12.94 %     12.34 %     12.69 %     11.65 %
Leverage ratio
    8.51 %     9.70 %     8.09 %     8.50 %     7.77 %
 
ITEM 7.   MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS.
 
Restatement
 
As a result of a routine internal audit, the Company determined there was a computational error in the model that it uses to calculate the quantitative basis for its allowance for loan losses. In connection with its determination of the appropriate loan loss reserve at December 31, 2008, the Company made certain modifications to its loan loss reserve model with respect to a $130.76 million pool of loans. However, in calculating the loan loss reserves for this pool of loans, the historical quarterly net charge-off rates were not annualized as was the case with all other quarterly loss rates in the model. The Company has corrected the computational error in its model for calculating the allowance for loan losses. The financial information for the year ending December 31, 2009 provided in this Management’s Discussion and Analysis of Financial Condition and Results of Operations has been restated to reflect the correction of the computational error. For additional information, see the Explanatory Note immediately preceding Part I, Item 1 and Note 2. - Restatement of Consolidated Financial Statements of the Notes to Consolidated Financial Statements of this Annual Report on Form 10-K/A.
 
Executive Overview
 
First Community Bancshares, Inc. is a financial holding company that, through its bank subsidiary, provides commercial banking services and has positioned itself as a regional community bank and a financial services alternative to larger banks which often provide less emphasis on personal relationships, and smaller community banks which lack the capital and resources to efficiently serve customer needs. The Company has focused its growth efforts on building financial partnerships and more enduring and complete relationships with businesses and individuals through a very personal and local approach to banking and financial services. The Company and its operations are guided by a strategic plan which includes growth through acquisitions and through office expansion in new market areas including strategically identified metro markets in Virginia, West Virginia, North Carolina, South Carolina, and Tennessee. While the Company’s mission remains that of a community bank, management believes that entry into new markets will accelerate the Company’s growth rate by diversifying the demographics of its customer base and customer prospects and by generally increasing its sales and service network.
 
Economy
 
The local economies in which the Company operates are diverse and span a five-state region. The economies of West Virginia and Southwest Virginia have significant exposure to extractive industries, such as coal, timber and natural gas, which become more active and lucrative when oil prices rise. The local economies in the central portion of North Carolina have suffered in recent years due to foreign competition in both furniture and textiles, as well as consolidation in the financial services industry. Despite these detractions, the economies in this region continue to benefit from national companies operating in the Triad, Central Piedmont, and central South Carolina areas. The Eastern Virginia local economies have, in recent years, benefited from key corporate and government activities and relocations. The economy in eastern Tennessee continues to benefit from the stability of higher education and tourism.
 
Despite the stable and positive aspects of our regional economies, the Company’s markets have experienced significant declines in residential development and construction, not inconsistent with national trends. These


23


Table of Contents

declines have led to contraction in residential land development and construction, which have historically been important components of the Company’s lending activities. The economies of the Company’s southwest Virginia and West Virginia markets have remained stable compared to the national economy and unemployment levels are generally lower than the national average at December 31, 2009.
 
Competition
 
As the Company competes for increased market share and growth in both loans and deposits, it continues to encounter strong competition from many sources. Many of the markets targeted by the Company are also being entered by other banks in nearby and distant markets. The expansion of banks, credit unions, and other non-depository financial companies over recent years has intensified competitive pressures on core deposit generation and retention. Competitive forces impact the Company through pressure on interest yields, product fees, and loan structure and terms; however, the Company has countered these pressures with its relationship style of banking, competitive pricing and a disciplined approach to loan underwriting.
 
Application of Critical Accounting Policies
 
The Company’s consolidated financial statements are prepared in accordance with U.S. generally accepted accounting principles (“GAAP”) and conform to general practices within the banking industry. The Company’s financial position and results of operations are affected by management’s application of accounting policies, including judgments made to arrive at the carrying value of assets and liabilities and amounts reported for revenues, expenses and related disclosures. Different assumptions in the application of these policies could result in material changes in the Company’s consolidated financial position and consolidated results of operations.
 
Estimates, assumptions, and judgments are necessary principally when assets and liabilities are required to be recorded at estimated fair value, when a decline in the value of an asset carried on the financial statements at fair value warrants an impairment writedown or valuation reserve to be established, or when an asset or liability needs to be recorded based upon the probability of occurrence of a future event. Carrying assets and liabilities at fair value inherently results in more financial statement volatility. The fair values and the information used to record valuation adjustments for certain assets and liabilities are based either on quoted market prices or are provided by third party sources, when available. When third party information is not available, valuation adjustments are estimated by management primarily through the use of financial modeling techniques and appraisal estimates.
 
The Company’s accounting policies are fundamental to understanding Management’s Discussion and Analysis of Financial Condition and Results of Operation. The following is a summary of the Company’s more subjective and complex “critical accounting policies.” In addition, the disclosures presented in the Notes to the Consolidated Financial Statements and in Management’s Discussion and Analysis of Financial Condition and Results of Operations provide information on how significant assets and liabilities are valued in the financial statements and how those values are determined. Based on the valuation techniques used and the sensitivity of financial statement amounts to the methods, assumptions, and estimates underlying those amounts, management has identified investment valuation, determination of the allowance for loan losses, accounting for acquisitions and intangible assets, and accounting for income taxes as the accounting areas that require the most subjective or complex judgments.
 
Investment securities
 
Management performs an extensive review of the investment securities portfolio quarterly to determine the cause of declines in the fair value of each security within each segment of the portfolio. The Company uses inputs provided by an independent third party to determine the fair values of its investment securities portfolio. Inputs provided by the third party are reviewed and corroborated by management. Evaluations of the causes of the unrealized losses are performed to determine whether the impairment is temporary or other-than-temporary in nature. Considerations such as the Company’s intent and ability to hold the securities, recoverability of the invested amounts over the Company’s intended holding period, severity in pricing decline, credit rating, and receipt of amounts contractually due, among other factors, are applied in determining whether a security is


24


Table of Contents

other-than-temporarily impaired. If a decline in value is determined to be other-than-temporary, the value of the security is reduced and a corresponding charge to earnings is recognized.
 
Allowance for Loan Losses
 
The allowance for loan losses is maintained at a level management deems sufficient to absorb probable losses inherent in the portfolio, and is based on management’s evaluation of the risks in the loan portfolio and changes in the nature and volume of loan activity. The Company consistently applies a review process to periodically evaluate loans for changes in credit risk. This process serves as the primary means by which the Company evaluates the adequacy of the allowance for loan losses.
 
The Company determines the allowance for loan losses by making specific allocations to impaired loans that exhibit inherent weaknesses and various credit risk factors, and general allocations to commercial, residential real estate, and consumer loans are developed giving weight to risk ratings, historical loss trends and management’s judgment concerning those trends and other relevant factors. These factors may include, but are not limited to, actual versus estimated losses, regional and national economic conditions, business segment and portfolio concentrations, industry competition and consolidation, and the impact of government regulations. The foregoing analysis is performed by management to evaluate the portfolio and calculate an estimated valuation allowance through a quantitative and qualitative analysis that applies risk factors to those identified risk areas.
 
This risk management evaluation is applied at both the portfolio level and the individual loan level for commercial loans and credit relationships while the level of consumer and residential mortgage loan allowance is determined primarily on a total portfolio level based on a review of historical loss percentages and other qualitative factors including concentrations, industry specific factors and economic conditions. The commercial portfolio requires more specific analysis of individually significant loans and the borrower’s underlying cash flow, business conditions, capacity for debt repayment and the valuation of secondary sources of payment, such as collateral. This analysis may result in specifically identified weaknesses and corresponding specific impairment allowances. While allocations are made to specific loans and classifications within the various categories of loans, the allowance for loan losses is available for all loan losses.
 
The use of various estimates and judgments in the Company’s ongoing evaluation of the required level of allowance can significantly impact the Company’s results of operations and financial condition and may result in either greater provisions against earnings to increase the allowance or reduced provisions based upon management’s current view of the portfolio and economic conditions and the application of revised estimates and assumptions. Differences between actual loan loss experience and estimates are reflected through adjustments, either increasing or decreasing the loan loss provision based upon current measurement criteria.
 
Acquisitions and Intangible Assets
 
The Company may, from time to time, engage in business combinations with other companies. Purchase accounting requires the recording of underlying assets and liabilities of the entity acquired at their fair market value. Any excess of the purchase price of the business over the net assets acquired and any identified intangibles is recorded as goodwill. In instances where the price of the acquired business is less than the net assets acquired, a gain on purchase is recorded. Fair values are assigned based on quoted prices for similar assets, if readily available, or appraisal by qualified independent parties for relevant asset and liability categories. Financial assets and liabilities are typically valued using discount models which apply current discount rates to streams of cash flow. All of these valuation methods require the use of assumptions which can result in alternate valuations and varying levels of goodwill and amounts of bargain purchase gain and, in some cases, amortization expense or accretion income.
 
Management must also make estimates of useful or economic lives of certain acquired assets and liabilities. These lives are used in establishing amortization and accretion of some intangible assets and liabilities, such as the intangible associated with core deposits acquired in the acquisition of a commercial bank.
 
Goodwill is recorded as the excess of the purchase price, if any, over the fair value of the revalued net assets. Goodwill is tested annually in the month of October for possible impairment by comparing the fair value of each segment to its book value, including goodwill (step 1). If the fair value of the segment is greater than its book value,


25


Table of Contents

no goodwill impairment exists. However, if the book value of the segment is greater than its determined fair value, goodwill impairment may exist and further testing is required to determine the amount, if any, of the actual impairment loss (step 2). The step 1 test utilizes a combination of two methods to determine the fair value of the reporting units. For both segments, a discounted cash flow model is created projecting cash flows from operations of the business segment, the results of which are weighted 70%. For the banking segment, a market multiple model utilizes price to net income and price to tangible book value inputs for closed transactions and for certain common sized institutions and the results are weighted 30%. For the insurance segment the market multiple model primarily utilizes price to sales for closed transactions and certain similar industry public companies and the results are weighted 30%. The end results for both segments are then compared to the respective book values to consider if impairment is evident. To determine the overall reasonableness of the segment computations, the combined computed fair value is then compared to the overall market capitalization of the consolidated Company to determine the level of implied control premium.
 
The discounted cash flow analysis uses estimates in the form of growth and attrition rates, anticipated rates of return, and discount rates. These estimates have a direct bearing on the results of the impairment testing and serve as the basis for management’s conclusions as to potential impairment.
 
The results of the step 1 analysis performed at October 31, 2009, determined that no impairment was evident and a step 2 test was not necessary. An adjustment to the weighting of the results, deterioration in the market multiples used, further decline in the banking and retail insurance industry valuations, or further decline in our common stock price could provide evidence in the future of potential impairment.
 
Income Taxes
 
The establishment of provisions for federal and state income taxes is a complex area of accounting which also involves the use of judgments and estimates in applying relevant tax statutes. The Company operates in multiple state tax jurisdictions and this requires the appropriate allocation of income and expense to each state based on a variety of apportionment or allocation bases. The Company is also subject to audit by federal and state tax authorities. Results of these audits may produce indicated liabilities which differ from Company estimates and provisions. The Company continually evaluates its exposure to possible tax assessments arising from audits and records its estimate of possible exposure based on current facts and circumstances.
 
Deferred tax assets and liabilities are recognized for the tax effects of differing carrying values of assets and liabilities for tax and financial statement purposes that will reverse in future periods. Deferred tax assets and liabilities are reflected at currently enacted income tax rates applicable to the period in which the deferred tax assets or liabilities are expected to be realized or settled. As changes in tax laws or rates are enacted, deferred tax assets and liabilities are adjusted through the provision for income taxes. When uncertainty exists concerning the recoverability of a deferred tax asset, the carrying value of the asset may be reduced by a valuation allowance. The amount of any valuation allowance established is based upon an estimate of the deferred tax asset that is more likely than not to be recovered. Increases or decreases in the valuation allowance result in increases or decreases to the provision for income taxes.
 
Recent Acquisitions and Branching Activity
 
In July 2009, the Company acquired TriStone Community Bank (“TriStone”), based in Winston-Salem, North Carolina. TriStone had two full service locations in Winston-Salem, North Carolina. At acquisition, TriStone had total assets of $166.82 million, total loans of $132.23 million and total deposits of $142.27 million. Each outstanding common share of TriStone was exchanged for .5262 shares of the Company’s Common Stock and the overall acquisition cost was approximately $10.78 million. The acquisition of TriStone significantly augmented the Company’s market presence and human resources in the Winston-Salem, North Carolina market.
 
In November 2008, the Company acquired Coddle Creek Financial Corp. (“Coddle Creek”), headquartered in Mooresville, North Carolina. Coddle Creek had three full service branch offices located in Mooresville, Cornelius, and Huntersville, North Carolina. At acquisition, Coddle Creek had total assets of $158.66 million, total loans of $136.99 million and total deposits of $137.06 million. Under the terms of the merger agreement, shares of Coddle Creek common stock were exchanged for .9046 shares of the Company’s common stock and $19.60 in cash. The


26


Table of Contents

total deal value, including the cash-out of outstanding stock options, was approximately $32.29 million. Concurrent with the Coddle Creek acquisition, Mooresville Savings Bank, Inc., SSB, the wholly-owned subsidiary of Coddle Creek, was merged into the Bank. As a result of the acquisition and preliminary purchase price allocation, approximately $14.41 million in goodwill was recorded which represents the excess of the purchase price over the fair market value of the net assets acquired and identified intangibles.
 
In September 2007, the Company acquired GreenPoint Insurance Group (“GreenPoint”), an insurance agency located in High Point, North Carolina. As of September 30, 2007, GreenPoint had annualized commission revenues of approximately $4.60 million. In connection with the acquisition, the Company has issued an aggregate of 78,824 shares of common stock to the former shareholders of GreenPoint. Under the terms of the stock purchase agreement, former shareholders of GreenPoint are entitled to additional consideration aggregating up to $906 thousand in the form of cash or the Company’s Common Stock, valued at the time of issuance, if certain future operating performance targets are met. If those operating targets are met, the value of the consideration ultimately paid will be added to the cost of the acquisition, which will increase the amount of goodwill related to the acquisition. The acquisition of GreenPoint has added $11.01 million of goodwill and intangibles to the Company’s balance sheet, net of amortization totaling $10.57 million.
 
GreenPoint has acquired six insurance agencies and sold one since its acquisition by the Company. GreenPoint has issued aggregate cash consideration of approximately $803 thousand and $2.04 million in 2009 and 2008, respectively, in connection with those acquisitions. Acquisition terms in all instances call for issuing further aggregate cash consideration of $3.5 million if certain operating performance targets are met. If those targets are met, the value of the consideration ultimately paid will be added to the cost of the acquisitions. GreenPoint’s 2009 and 2008 acquisitions added approximately $803 thousand and $2.04 million, respectively, of goodwill and intangibles to the Company’s balance sheet.
 
The Company opened one branch during 2009 and one during 2008. The new branch in 2009 is located in Grafton, West Virginia.
RESULTS OF OPERATIONS
 
2009 COMPARED TO 2008
 
The net loss available to common shareholders for 2009 was $40.86 million, a decrease of $42.56 million from net income available to common shareholders of $1.70 million in 2008. Basic and diluted loss per common share for 2009 was $2.75, compared with basic and diluted earnings per common share of $0.15 in 2008. The significant decline in earnings in 2009 reflects pre-tax impairment charges and losses on the sale of securities amounting to $90.54 million. The Company’s returns on average assets was a negative 1.83% in 2009 and 0.08% in 2008. Return on equity was a negative 16.73% in 2009 and 0.86% in 2008.
 
The Company acquired TriStone Community Bank, a $166.82 million bank holding company, in July 2009. As a result of the acquisition, a gain of approximately $4.49 million was recorded, which represents the excess fair market value of the net assets acquired and indentified intangibles over the purchase price. The net operations of TriStone were not significant to the Company’s 2009 results of operations.
 
Net Interest Income
 
The primary source of the Company’s earnings is net interest income, the difference between income on earning assets and the cost of funds supporting those assets. Significant categories of earning assets are loans and securities while deposits and borrowings represent the major portion of interest bearing liabilities. Net interest income was $69.25 million for 2009, compared with $65.84 million for 2008. Tax equivalent net interest income totaled $72.55 million for 2009, an increase of $2.58 million from the $69.97 million reported for 2008.
 
For purposes of the following discussion, comparison of net interest income is performed on a tax equivalent basis, which provides a common basis for comparing yields on earning assets exempt from federal income taxes to those assets which are fully taxable (see the table titled Average Balance Sheets and Net Interest Income Analysis).


27


Table of Contents

During 2009, average earning assets increased $138.73 million while average interest bearing liabilities increased $147.22 million, in each case over the comparable period. The increases primarily reflect the acquisitions of TriStone and Coddle Creek. The yield on average earning assets decreased 65 basis points to 5.73% for 2009 from 6.38% for 2008. Short-term market interest rates remained low throughout 2009, as the Federal Reserve Board held the “range” of zero to 25 basis points as its target for federal funds. The prevailing low interest rate environment was the largest driver in the overall decrease in the Company’s yield on average earning assets.
 
Total cost of average interest bearing liabilities decreased 59 basis points to 2.20% during 2009. The Company’s time deposit portfolio experienced downward repricing during 2009, as many of the higher-rate certificates were renewed at lower rates, or not renewed. The net result was a decrease of 6 basis points in the net interest rate spread, or the difference between interest income on earning assets and expense on interest bearing liabilities, for 2009 compared to 2008. The net interest rate spread for 2009 was 3.53% compared with 3.59% for 2008. The Company’s net interest margin, or net interest income to average earning assets, of 3.74% for 2009 represents a decrease of 14 basis points from 3.88% in 2008.
 
Loan interest income increased $2.48 million during 2009 as compared with 2008 as volume increased, while the yield on loans decreased 49 basis points during the same period. During 2009, the yield on available-for-sale securities decreased 66 basis points to 5.14% while the average balance decreased by $39.59 million as compared with 2008.
 
Average interest bearing balances with banks increased $46.75 million during 2009 to $62.24 million, while the yield decreased 171 basis points to 0.27% during the same period. These balances consist primarily of overnight investments, and the yield as compared with 2008 on these balances is primarily affected by changes in the target federal funds rate. The Company determined that it was prudent to maintain a high level of liquidity as a measure of safety during the recessionary economic conditions experienced in 2009, particularly through the first two quarters of 2009, as a result of market volatility.
 
The average total cost of interest bearing deposits decreased 59 basis points in 2009 compared with 2008. The average rate paid on interest bearing demand deposits increased 5 basis points, while the average rate paid on savings, which includes money market and savings accounts, decreased 73 basis points in 2009 compared with 2008. In 2009, average time deposits increased $191.63 million while the average rate paid decreased 82 basis points to 2.87% as compared with 2008. The increase in time deposits reflects the full year impact of the acquisition of Coddle Creek and the partial year impact of the acquisition of TriStone. The level of average non-interest bearing demand deposits decreased $11.87 million to $199.92 million in 2009 compared with the prior year, but was offset by a $31.19 million increase in interest bearing demand deposits.
 
Average federal funds purchased decreased $15.94 million in 2009 compared with 2008 to a zero balance, as the Company experienced historically high levels of liquidity. Average retail repurchase agreements decreased $41.38 million in 2009, while the average rate paid on those funds decreased, as they are closely tied to the target federal funds rate and 3-month LIBOR. Average Federal Home Loan Bank (“FHLB”) advances and other borrowings decreased $40.12 million while the rate paid on those borrowings decreased 42 basis points in 2009 compared with 2008. The Company prepaid a $25.00 million FHLB advance in June 2009. Other borrowings include the Company’s trust preferred issuance of $15.46 million, which is indexed to 3-month LIBOR.


28


Table of Contents

Average Balance Sheets and Net Interest Income Analysis
 
                                                                         
    2009     2008     2007  
    Average
          Yield/
    Average
          Yield/
    Average
          Yield/
 
    Balance     Interest(1)     Rate(1)     Balance     Interest(1)     Rate(1)     Balance     Interest(1)     Rate(1)  
    (Dollars in thousands)        
    (Restated)          
 
Earning Assets:
                                                                       
Loans held for
investment:(2)
    1,333,112       82,785       6.21 %     1,199,076       80,305       6.70 %     1,251,028       93,561       7.48 %
Available-for-sale securities
    537,278       27,638       5.14 %     576,864       33,438       5.80 %     625,413       36,113       5.77 %
Held-to-maturity securities
    7,828       643       8.21 %     10,302       849       8.24 %     15,220       1,212       7.96 %
Interest bearing deposits with banks
    62,242       165       0.27 %     15,489       306       1.98 %     24,662       1,175       4.76 %
                                                                         
Total earning assets
    1,940,460       111,231       5.73 %     1,801,731       114,898       6.38 %     1,916,323       132,061       6.89 %
Other assets
    288,450                       244,455                       208,916                  
                                                                         
Total
  $ 2,228,910                     $ 2,046,186                     $ 2,125,239                  
                                                                         
Interest-bearing liabilities:
                                                                       
Demand deposits
  $ 205,997     $ 443       0.22 %   $ 174,809     $ 292       0.17 %   $ 147,856     $ 456       0.31 %
Savings deposits
    334,217       2,588       0.77 %     312,363       4,693       1.50 %     330,969       7,327       2.21 %
Time deposits
    863,357       24,765       2.87 %     671,729       24,807       3.69 %     697,996       30,974       4.44 %
                                                                         
Total interest bearing deposits
    1,403,571       27,796       1.98 %     1,158,901       29,792       2.57 %     1,176,821       38,757       3.29 %
Borrowings:
                                                                       
Federal funds purchased
                      15,942       362       2.27 %     5,773       312       5.40 %
Retail repurchase agreements
    101,775       1,375       1.38 %     143,159       3,029       2.12 %     167,359       5,809       3.47 %
Wholesale repurchase agreements
    50,000       1,922       3.84 %     50,000       1,630       3.26 %     50,000       2,181       4.36 %
FHLB borrowings and other debt
    204,678       7,589       3.71 %     244,801       10,117       4.13 %     258,644       12,217       4.72 %
                                                                         
Total borrowings
    356,453       10,886       3.05 %     453,902       15,138       3.34 %     481,776       20,519       4.26 %
                                                                         
Total interest bearing liabilities
    1,760,024       38,682       2.20 %     1,612,803       44,930       2.79 %     1,658,597       59,276       3.57 %
Demand deposits
    199,917                       211,791                       228,583                  
Other liabilities
    24,832                       19,850                       19,210                  
Stockholders’ equity
    244,137                       201,742                       218,849                  
                                                                         
Total
  $ 2,228,910                     $ 2,046,186                     $ 2,125,239                  
                                                                         
Net interest income
          $ 72,549                     $ 69,968                     $ 72,785          
                                                                         
Net interest rate spread(3)
                    3.53 %                     3.59 %                     3.32 %
                                                                         
Net interest margin(4)
                    3.74 %                     3.88 %                     3.80 %
                                                                         
 
 
(1) Fully taxable equivalent at the rate of 35%.
 
(2) Non-accrual loans are included in average balances outstanding but with no related interest income during the period of non-accrual.
 
(3) Represents the difference between the tax equivalent yield on earning assets and cost of funds.
 
(4) Represents tax equivalent net interest income divided by average interest earning assets.


29


Table of Contents

 
Rate and Volume Analysis of Interest
 
The following table summarizes the changes in tax equivalent interest earned and paid detailing the amounts attributable to (i) changes in volume (change in the average volume times the prior year’s average rate), (ii) changes in rate (changes in the average rate times the prior year’s average volume), and (iii) changes in rate/volume (change in the average column times the change in average rate).
 
                                                                 
    Twelve Months Ended
    Twelve Months Ended
 
    December 31,
    December 31,
 
    2009 Compared to 2008
    2008 Compared to 2007
 
    $ Increase/(Decrease) due to     $ Increase/(Decrease) due to  
                Rate/
                      Rate/
       
    Volume     Rate     Volume     Total     Volume     Rate     Volume     Total  
    (In thousands)  
 
Interest Earned On:
                                                               
Loans(1)
  $ 8,980     $ (5,875 )   $ (625 )   $ 2,480     $ (3,886 )   $ (9,758 )   $ 388     $ (13,256 )
Securities available-for-sale(1)
    (2,296 )     (3,807 )     303       (5,800 )     (2,801 )     188       (61 )     (2,675 )
Securities held-to-maturity(1)
    (204 )     (3 )     1       (206 )     (391 )     43       (14 )     (363 )
Interest-bearing deposits with other banks
    926       (265 )     (802 )     (141 )     (437 )     (686 )     253       (869 )
                                                                 
Total interest-earning assets
    7,406       (9,951 )     (1,123 )     (3,667 )     (7,515 )     (10,213 )     566       (17,163 )
                                                                 
Interest Paid On:
                                                               
Demand deposits
    53       87       11       151       84       (207 )     (41 )     (164 )
Savings deposits
    328       (2,280 )     (153 )     (2,105 )     (411 )     (2,350 )     127       (2,634 )
Time deposits
    7,071       (5,508 )     (1,605 )     (42 )     (1,166 )     (5,235 )     234       (6,167 )
Fed funds purchased
    (363 )           1       (362 )     551       (181 )     (320 )     50  
Retail repurchase agreements
    (877 )     (1,102 )     326       (1,654 )     (840 )     (2,259 )     319       (2,780 )
Wholesale repurchase agreements
          290       2       292             (550 )     (1 )     (551 )
FHLB borrowings and other long-term debt
    (1,657 )     (1,028 )     157       (2,528 )     (653 )     (1,526 )     79       (2,100 )
                                                                 
Total interest-bearing liabilities
    4,555       (9,542 )     (1,261 )     (6,248 )     (2,436 )     (12,308 )     398       (14,346 )
                                                                 
Change in net interest income, tax-equivalent
  $ 2,851     $ (409 )   $ 139     $ 2,581     $ (5,079 )   $ 2,095     $ 168     $ (2,817 )
                                                                 
 
 
(1) Fully taxable equivalent using a rate of 35%.
 
Provision for Loan Losses
 
The provision for loan losses for 2009 was $15.80 million, an increase of $6.58 million compared with 2008. The increase in loan loss provision is primarily attributable to rising loss factors as net charge-offs escalated during 2009. Qualitative risk factors were also higher, reflective of the higher risk of inherent loan losses due to rising unemployment, recessionary pressures, and devaluations of various categories of collateral, including real estate and marketable securities. Net charge-offs for 2009 and 2008 were $9.31 million and $5.45 million, respectively. Expressed as a percentage of average loans, net charge-offs increased to 0.70% for 2009 from 0.45% in 2008.
 
Noninterest Income
 
Noninterest income consists of all revenues which are not included in interest and fee income related to earning assets. Noninterest income for 2009, exclusive of the $78.86 million other-than-temporary impairment (“OTTI”) charges, $11.67 million loss on the sale of securities, and $4.49 million in gain resulting from the TriStone acquisition, was $32.37 million, compared with $30.40 million in 2008. See “Financial Position — Available-for-Sale Securities” in Item 7 hereof for information on the changes and losses relating to the Company’s securities.


30


Table of Contents

Wealth management income, which includes fees for trust services and commission and fee income generated by IPC, increased $47 thousand in 2009 compared with 2008, a result of the increases in revenues at IPC. Service charges on deposit accounts decreased $175 thousand as a result of lower overall consumer spending leading to lower levels of certain activity charges. Other service charges, commissions and fees reflected an increase of $467 thousand in 2009 compared with 2008, due mainly to increased debit card interchange income and ATM service fees, as the Company’s customers increasingly chose card-based payment delivery systems.
 
Insurance commissions earned in 2009 were $6.99 million, compared with $4.99 million in 2008. Income for the insurance subsidiary is derived primarily from commissions earned on the sale of policies. The increase is due largely to a sizeable acquisition of an insurance agency by GreenPoint located in Warrenton, Virginia, that was completed in December 2008.
 
Other operating income for 2009 was $2.62 million, a decrease of $371 thousand from 2008. The largest components of that difference are decreases in revenue from FHLB stock dividends and secondary market mortgage operations of $432 thousand and $207 thousand, respectively, net of a $340 thousand gain on the disposition of a GreenPoint office.
 
During 2009, the Company recognized net securities losses of $11.67 million, a decrease of $13.57 million from gains recognized in 2008. In December 2009, the Company sold four pooled trust preferred securities that resulted in a loss of $14.82 million.
 
Noninterest Expense
 
Total noninterest expense was $66.62 million for 2009, an increase of $6.11 million over 2008. Salaries and benefits increased approximately $1.51 million. At December 31, 2009, the Company had total full-time equivalent employees of 646 compared to 638 at December 31, 2008. Full-time equivalent employees are calculated using the number of hours worked. GreenPoint accounted for approximately 57 full-time equivalent employees at year-end 2009 compared with 50 at year-end 2008. Total full-time equivalent employees at the Bank and IPC remained relatively stable increasing by 19 full-time equivalent employees from the acquisition of TriStone. Health insurance costs decreased $732 thousand, or 31.59%, and 401(k) employer matching costs increased $139 thousand, or 11.36%. The Company also deferred $231 thousand less in direct loan origination costs than in 2008.
 
Occupancy expenses increased $787 thousand in 2009 compared with 2008, due to the full year effect of new branches, the full year impact of the acquisition of Coddle Creek, and the partial year effect of the acquisition of TriStone.
 
During 2009, the Company prepaid a $25.00 million FHLB advance. The expense associated with that prepayment was $88 thousand.
 
FDIC premiums and assessments totaled $4.26 million, an increase of $4.06 million from 2008. Included in the 2009 amount is a special assessment levied that approximated $988 thousand. The Company also incurred expenses related to the TriStone merger of $1.73 million.
 
Other operating expenses decreased $760 thousand in 2009 compared with 2008. Contributing to the change were decreases in advertising expenses, consulting fees, and legal fees of $689 thousand, $350 thousand, and $238 thousand, respectively, offset by increases in service fees of $433 thousand.
 
The Company uses an efficiency ratio that is a non-GAAP financial measure of operating expense control and efficiency of operations. Management believes this ratio better focuses attention on the core operating performance of the Company over time than does a GAAP-based ratio, and is highly useful in comparing period-to-period operating performance of the Company’s core business operations. It is used by management as part of its assessment of its performance in managing noninterest expenses. However, this measure is supplemental and is not a substitute for an analysis of performance based on GAAP measures. The reader is cautioned that the efficiency ratio used by the Company may not be comparable to efficiency ratios reported by other financial institutions.
 
In general, the efficiency ratio used by the Company is noninterest expenses as a percentage of net interest income plus noninterest income. Noninterest expenses used in the calculation exclude amortization of intangibles and non-recurring expenses. Income for the ratio is increased for the favorable effect of tax-exempt income (see


31


Table of Contents

Average Balance Sheets and Net Interest Income Analysis), and excludes securities gains and losses, which vary widely from period to period without appreciably affecting operating expenses, non-recurring gains and losses, and OTTI charges. The measure is different from the GAAP-based efficiency ratio, which also is presented in this report, which is calculated using noninterest expense and income amounts as shown on the face of the Consolidated Statements of Income. Both types of efficiency ratio calculations are set forth and are reconciled in the table below.
 
The (non-GAAP) efficiency ratios for continuing operations for 2009, 2008, and 2007 were 59.10%, 57.54%, and 51.20%, respectively. The following table details the components used in calculation of the efficiency ratios.
 
                         
    2009     2008     2007  
    (Dollars in thousands)  
 
GAAP-based efficiency ratio
                       
Noninterest expenses
  $ 66,624     $ 60,516     $ 50,463  
Net interest income plus noninterest income
  $ 15,575     $ 68,209     $ 93,146  
GAAP-based efficiency ratio
    427.76 %     88.72 %     54.18 %
Non-GAAP efficiency ratio
                       
Noninterest expenses — GAAP-based
  $ 66,624     $ 60,516     $ 50,463  
Less non-GAAP adjustments:
                       
Foreclosed property expense
    (763 )     (382 )     (185 )
Amortization of intangibles
    (1,028 )     (689 )     (467 )
Prepayment penalties on FHLB advances
    (88 )     (1,647 )      
Merger expenses
    (1,726 )            
FDIC special assessments
    (988 )            
Other non-core, non-recurring expense items
    (225 )     (51 )     (100 )
                         
Adjusted non-interest expenses
    61,806       57,747       49,711  
                         
Net interest income plus noninterest income — GAAP-based
    15,575       68,209       93,146  
Plus non-GAAP adjustment:
                       
Tax equivalency
    3,297       4,133       4,470  
Less non-GAAP adjustments:
                       
Security losses (gains)
    11,673       (1,899 )     (411 )
Other-than-temporary security impairments
    78,863       29,923        
Acquisition gains
    (4,493 )                
Other non-core, non-recurring income items
    (340 )           (104 )
                         
Adjusted net interest income plus noninterest income
    104,575       100,366       97,101  
                         
Non-GAAP efficiency ratio
    59.10 %     57.54 %     51.20 %
 
Income Tax Expense
 
Income tax expense is comprised of federal and state current and deferred income taxes on pre-tax earnings of the Company. Income taxes as a percentage of pre-tax income may vary significantly from statutory rates due to items of income and expense which are excluded, by law, from the calculation of taxable income. These items are commonly referred to as permanent differences. The most significant permanent differences for the Company include income on state and municipal securities which are exempt from federal income tax, certain dividend payments which are deductible by the Company, and the increases in the cash surrender values of life insurance policies.
 
Consolidated income taxes for 2009 were a benefit of $28.15 million compared with a benefit of $3.49 million in 2008. The effective tax rate for 2009 was 42.12%. The effective tax rate for 2008 was not meaningful due to the levels of pre-tax income. The level of tax benefit increased in 2009 due to higher pre-tax loss levels over 2008.


32


Table of Contents

2008 COMPARED TO 2007
 
Net income available to common shareholders for 2008 was $1.70 million, a decrease of $27.93 million from $29.63 million in 2007. Basic and diluted earnings per common share for 2008 were $0.15 compared with basic and diluted earnings per common share of $2.64 and $2.62, respectively, in 2007. The significant decline in earnings in 2008 reflects a fourth quarter non-cash pre-tax impairment charge of $29.92 million on certain investment securities. The Company’s key profitability ratios are return on average assets and return on average equity. Returns on average assets for 2008 and 2007 were 0.08% and 1.39%, respectively.
 
The Company acquired Coddle Creek, a $158.66 million bank holding company, in November 2008. Accordingly, the operations of Coddle Creek were not significant to the 2008 results of operations.
 
Net Interest Income
 
The primary source of the Company’s earnings is net interest income, the difference between income on earning assets and the cost of funds supporting those assets. Significant categories of earning assets are loans and securities while deposits and borrowings represent the major portion of interest bearing liabilities. For purposes of the following discussion, comparison of net interest income is performed on a tax equivalent basis, which provides a common basis for comparing yields on earning assets exempt from federal income taxes to those assets which are fully taxable (see the table titled Average Balance Sheets and Net Interest Income Analysis). Net interest income was $65.84 million for 2008, compared with $68.32 million for 2007. Tax equivalent net interest income totaled $69.97 million for 2008, a decrease of $2.82 million from the $72.79 million reported for 2007.
 
During 2008, average earning assets decreased $114.59 million while average interest bearing liabilities decreased $45.79 million, in each case over the comparable period. The yield on average earning assets decreased 51 basis points to 6.38% for 2008 from 6.89% for 2007. Short-term market interest rates decreased precipitously throughout 2008, culminating in a move by the Federal Reserve to create a “range” of zero to 25 basis points as its target for federal funds. During 2008, the target federal funds rate decreased 400 basis points, and the average bank prime loan rate decreased in concert. Those decreases were the largest driver in the overall decrease in the Company’s yield on average earning assets.
 
Total cost of average interest bearing liabilities decreased 78 basis points to 2.79% during 2008. The Company’s time deposit portfolio experienced significant downward repricing during 2008, as many of the higher-rate certificates were not renewed. The net result was an increase of 27 basis points to net interest rate spread, or the difference between interest income on earning assets and expense on interest bearing liabilities. Spread for 2008 was 3.59% compared with 3.32% for 2007. The Company’s tax equivalent net interest margin of 3.88% for 2008 represents an increase of eight basis points from 3.80% in 2007.
 
Loan interest income decreased $13.26 million during 2008 as compared with 2007 as volume declined, while the yield on loans decreased 78 basis points. During 2008, the tax equivalent yield on available-for-sale securities increased three basis points to 5.80% while the average balance decreased by $48.55 million as compared with 2007.
 
Average interest bearing balances with banks declined $9.17 million during 2008 to $15.49 million, while the yield decreased 278 basis points to 1.98%. These balances consist primarily of overnight liquidity, and the yield on these balances is largely affected by changes in the target federal funds rate.
 
The average total cost of interest bearing deposits decreased 72 basis points in 2008 compared with 2007. The average rate paid on interest bearing demand deposits decreased 14 basis points, while the average rate paid on savings, which includes money market and savings accounts, decreased 71 basis points. The Company was successful in keeping rates paid on interest bearing checking accounts relatively stable and increased money market account rates to remain competitive and retain deposit funding. In 2008, average time deposits decreased $26.27 million while the average rate paid decreased 75 basis points to 3.69% as compared with 2007. The level of average non-interest bearing demand deposits decreased $16.79 million to $211.79 million in 2008 compared with the prior year.


33


Table of Contents

Average federal funds purchased increased $10.17 million in 2008, while the average rate paid on those funds also decreased, as they are closely tied to the target federal funds rate. Average retail repurchase agreements decreased $24.20 million in 2008, while the average rate paid on those funds decreased, as they are closely tied to the target federal funds rate and 3-month LIBOR. Average FHLB advances and other borrowings decreased $13.84 million while the rate paid on those borrowings decreased 59 basis points in 2008. The Company reduced end-of-period FHLB advances by $75.00 million during 2008. Other borrowings include the Company’s trust preferred issuance of $15.46 million, which is indexed to 3-month LIBOR.
 
Provision for Loan Losses
 
The provision for loan losses for 2008 was $9.23 million, an increase of $8.51 million when compared with 2007. The increase in loan loss provision between the periods is primarily attributable to rising loss factors as net charge-offs escalated during 2008. Qualitative risk factors were also higher, reflective of the higher risk of inherent loan losses due to rising unemployment, recessionary pressures, and devaluations of various categories of collateral, including real estate and marketable securities. Net charge-offs for 2008 and 2007 were $5.45 million and $2.43 million, respectively. Expressed as a percentage of average loans, net charge-offs increased to 0.45% for 2008 from 0.19% in 2007.
 
Noninterest Income
 
Noninterest income consists of all revenues which are not included in interest and fee income related to earning assets. Noninterest income for 2008, exclusive of the $29.92 million OTTI charge, was $32.30 million compared with $24.83 million in 2007. Non-interest income for 2008 was bolstered by the addition of insurance revenues from 2008 acquisitions, as well as significantly higher deposit service charges, a result of new retail marketing strategies.
 
Wealth management income, which includes fees for trust services and commission and fee income generated by IPC, increased $220 thousand in 2008 compared with 2007, largely a result of the increases in revenues at IPC. Service charges on deposit accounts increased $2.68 million as a result of increased transaction fees and a larger number of fee-based deposit accounts. Other service charges, commissions and fees reflected an increase of $648 thousand in 2008 compared with 2007, due mainly to increased debit card interchange income and ATM service fees.
 
Insurance commissions earned were $4.99 million in 2008, compared with $1.14 million in 2007. The Company acquired its insurance subsidiary, GreenPoint Insurance Group, Inc., in September 2007. Income for the insurance subsidiary is derived primarily from commissions earned on the sale of policies.
 
Other operating income for 2008 was $3.00 million, a decrease of $1.42 million from 2007. The largest components of that difference are decreases in revenue from bank-owned life insurance and FHLB stock dividends of $470 thousand and $332 thousand, respectively, as well as a one-time gain of $298 thousand resulting from the Company’s exit from a state banking association insurance partnership in 2007.
 
During 2008, the Company also recognized securities gains of $1.90 million, an increase of $1.49 million over gains recognized in 2007.
 
Noninterest Expense
 
Total noninterest expense was $60.52 million for 2008, an increase of $10.05 million over 2007. Salaries and benefits increased approximately $4.03 million. During 2008, total full-time equivalent employees increased to 638 from 615 at December 31, 2007. Full-time equivalent employees are calculated using the number of hours worked. GreenPoint accounted for approximately 50 full-time equivalent employees at year-end 2008 compared with 51 at year-end 2007. Total full-time equivalent employees at the Bank and IPC remained relatively stable increasing by only the 22 full-time equivalent employees in the acquisition of Coddle Creek. Health insurance costs increased $660 thousand, or 39.77%, and 401(k) employer matching costs increased $288 thousand, or 30.54%, both due mostly to the addition of GreenPoint. The Company also deferred $1.10 million less in loan origination costs than in 2007.


34


Table of Contents

Occupancy expenses increased $922 thousand compared with 2007, due to the full year effect of new branches, the full year impact of GreenPoint and its acquisitions, and the partial year effect of Coddle Creek. Furniture and equipment expenses increased $370 thousand, due mainly to an increase of $609 thousand in depreciation and amortization expense from 2007 to 2008.
 
During 2008, the Company prepaid a $25.00 million FHLB advance. The expense associated with that prepayment was $1.65 million. The Company also repaid $50.00 million without a prepayment penalty.
 
All other operating expense accounts increased $3.09 million in 2008 compared with 2007. Contributing to the increase in operating expenses were increased advertising and new account promotions of $550 thousand and consulting expense of $821 thousand. Legal fees also increased $267 thousand in 2008 compared with 2007 as the Company realized increased expenses relating to its acquisition transactions and the issuance of new preferred stock. Professional fees also increased $241 thousand as the Company outsourced its internal audit function near mid-year 2007.
 
Income Tax Expense
 
Income tax expense is comprised of federal and state current and deferred income taxes on pre-tax earnings of the Company. Income taxes as a percentage of pre-tax income may vary significantly from statutory rates due to items of income and expense which are excluded, by law, from the calculation of taxable income. These items are commonly referred to as permanent differences. The most significant permanent differences for the Company include income on state and municipal securities which are exempt from federal income tax, certain dividend payments which are deductible by the Company, and tax credits generated by investments in low income housing and historical building rehabilitation.
 
Consolidated income taxes for 2008 were a benefit of $3.49 million compared with an expense of $12.33 million in 2007. The effective tax rate for 2008 is not meaningful due to the level of pre-tax income and the effective tax rate for 2007 was 29.39%.
 
FINANCIAL POSITION
 
Available-for-Sale Securities
 
Available-for-sale securities were $486.06 million at December 31, 2009, compared with $520.72 million at December 31, 2008, a decrease of $34.67 million. The decrease is largely the result of the Company’s sale and writedown of certain pooled trust preferred securities. At December 31, 2009, the average life and duration of the portfolio were 6.0 years and 4.9, respectively. Average life and duration at December 31, 2008 were 5.0 years and 3.6, respectively.
 
Available-for-sale and held-to-maturity securities are reviewed quarterly for possible OTTI. This review includes an analysis of the facts and circumstances of each individual investment such as the length of time the fair value has been below cost, timing and amount of contractual cash flows, the expectation for that security’s performance, the creditworthiness of the issuer and the Company’s intent to hold the security to recovery or maturity. If a decline in value is determined to be other-than-temporary, the value of the security is reduced and a corresponding charge to earnings is recognized. In the instance of a debt security which is determined to be other-than-temporarily impaired, the Company determines the amount of the impairment due to credit and the amount due to others factors. The amount of impairment related to credit is recognized in the Consolidated Statements of Income and the remainder is recognized in other comprehensive income.
 
Late in 2009, the Company sold four of the nine issues from its portfolio of pooled trust preferred securities. The sale resulted in the recognition of $14.82 million in losses in addition to $19.40 million of impairment previously recognized on those securities throughout 2009. As of December 31, 2009, the Company wrote down all remaining securities in that portfolio sector. The Company cannot assert its intent to hold the remaining five issues to recovery or maturity. The Company may need to engage in future sales of those securities to covert deferred tax assets to current tax receivables. Accordingly, the Company wrote the securities down to fair value.


35


Table of Contents

In addition to the pooled trust preferred securities portfolio, the Company maintains a small portfolio of equity securities. During 2009, the Company recognized total impairment charges $1.27 million on 11 individual holdings.
 
The Company does not believe any unrealized loss remaining in the investment portfolio, individually or in the aggregate, as of December 31, 2009, represents OTTI. The Company has the intent and ability to hold these equity securities until such time as the value recovers or the securities mature. Based on currently available information, the Company believes the recorded declines in the value of these securities at December 31, 2009, are largely attributable to changes in market interest rates.
 
Included in available-for-sale securities is a portfolio of trust preferred securities with a total market value of approximately $42.76 million as of December 31, 2009. That portfolio is comprised of single-issue and pooled trust preferred securities. The single-issue securities are trust preferred issuances from large banking institutions and had a total market value of approximately $41.11 million as of December 31, 2009, compared with their adjusted cost basis of approximately $55.62 million.
 
The following table presents in more detail the Company’s single-issue and pooled trust preferred security holdings as of December 31, 2009.
 
                                                                                 
                                                    Current
       
    Current
                                              Year
    Cumulative
 
    Composite
    Credit
                      Deferrals/Defaults     Unrealized
    Credit-
    Credit-
 
    Credit
    Rating at
    Issuing
    Book
    Fair
    Actual
    Percent
    Loss
    Related
    Related
 
Deal Name
  Rating     Purchase     Banks     Value     Value     Amount     of Deal     in OCI     OTTI     OTTI  
    (Dollars in thousands)  
 
Single-issue
                                                                               
Bank of America
    BB       A+       1     $ 28,793     $ 22,970       None       n/a     $ (5,823 )   $     $  
JPMorgan Chase
    BBB+       A       1       10,070       7,300       None       n/a       (2,770 )            
Northern Trust
    A−       A2       1       4,008       2,752       None       n/a       (1,256 )            
SunTrust
    BB+       A       1       4,941       3,104       None       n/a       (1,837 )            
Wells Fargo
    BBB+       A+       1       7,812       4,984       None       n/a       (2,828 )            
                                                                                 
                            $ 55,624     $ 41,110                     $ (14,514 )   $     $  
                                                                                 
Pooled
                                                                               
PreTSL X B1
    Ca       A       58     $ 188     $ 188     $ 195,625       38.6 %   $     $ 9,900     $ 9,900  
PreTSL XII B1
    Ca       A       79       366       366       197,100       25.8 %           19,748       19,748  
PreTSL XIV B1
    Ca       A       64       901       901       89,500       18.8 %           8,099       8,099  
PreTSL XXII C1
    Ca       A       82       119       119       339,500       24.5 %           12,559       12,559  
PreTSL XXIII C1
    Caa3       A       70       74       74       270,500       19.5 %           7,890       7,890  
                                                                                 
                            $ 1,648     $ 1,648                     $     $ 58,196     $ 58,196  
                                                                                 


36


Table of Contents

The following table provides details regarding the type and credit ratings within the securities portfolios as of December 31, 2009.
 
                                         
                      Unrealized
       
                      Gains/(Losses)
       
    Par
    Fair
    Amortized
    Recognized
    Cumulative
 
    Value     Value     Cost     in AOCL     OTTI  
    (Amounts in thousands)  
 
Available for sale
                                       
Agency securities
  $ 25,435     $ 25,276     $ 25,421     $ (145 )   $  
Agency mortgage-backed securities
    259,032       264,218       260,220       3,998        
Non-Agency mortgage-backed securities:
                                       
BB
    5,766       5,170       5,743       (573 )      
CCC
    25,000       11,301       20,968       (9,667 )     4,251  
                                         
Total
    30,766       16,471       26,711       (10,240 )     4,251  
Municipals:
                                       
AAA
    4,583       4,652       4,580       72        
AA
    52,105       53,380       52,063       1,317        
A
    47,042       48,071       46,989       1,082        
BBB
    14,870       14,886       14,757       129        
Not rated
    15,570       14,612       14,796       (184 )      
                                         
Total
    134,170       135,601       133,185       2,416        
Single-issue bank trust preferred securities:
                                       
A
    4,130       2,752       4,008       (1,256 )      
BBB
    18,300       12,283       17,882       (5,599 )      
BB
    34,125       26,075       33,734       (7,659 )      
                                         
Total
    56,555       41,110       55,624       (14,514 )      
Pooled trust preferred securities:
                                       
Below investment grade
    59,948       1,648       1,648             58,196  
                                         
Total
    59,948       1,648       1,648             58,196  
Equity securities
          1,733       1,717       16       1,189  
                                         
Total
  $ 565,906     $ 486,057     $ 504,526     $ (18,469 )   $ 63,636  
                                         
Held to maturity
                                       
Municipals:
                                       
AA
  $ 2,830     $ 2,867     $ 2,819     $ 48     $  
A
    3,670       3,567       3,495       72        
BBB
    660       661       659       2        
Not rated
    1,120       484       481       3        
                                         
Total
  $ 8,280     $ 7,579     $ 7,454     $ 125     $  
                                         


37


Table of Contents

The following table details amortized cost and fair value of available-for-sale securities as of December 31, 2009, 2008, and 2007.
 
                                                 
    December 31,  
    2009     2008     2007  
    Amortized
    Fair
    Amortized
    Fair
    Amortized
    Fair
 
    Cost     Value     Cost     Value     Cost     Value  
    (Amounts in thousands)  
 
U.S. Government agency securities
  $ 25,421     $ 25,276     $ 53,425     $ 54,818     $ 136,791     $ 139,237  
States and political subdivisions
    133,185       135,601       163,042       159,419       186,834       188,536  
Trust preferred securities:
                                               
Single-issue
    55,624       41,110       55,491       33,542       55,422       51,549  
Pooled
    1,648       1,648       93,269       32,511       109,309       99,076  
                                                 
Total trust preferred securites
    57,272       42,758       148,760       66,053       164,731       150,625  
Mortgage-backed securities:
                                               
Agency
    260,220       264,218       212,315       216,962       177,965       176,708  
Non-Agency prime residential
    5,743       5,170       7,423       5,766       4       4  
Non-Agency Alt-A residential
    20,968       11,301       10,750       10,750       15       15  
                                                 
Total mortgage-backed securities
    286,931       280,689       230,488       233,478       177,984       176,727  
Equities
    1,717       1,733       7,979       6,955       8,597       8,995  
                                                 
Total
  $ 504,526     $ 486,057     $ 603,694     $ 520,723     $ 674,937     $ 664,120  
                                                 
 
Held-to-Maturity Securities
 
Investment securities classified as held-to-maturity are comprised primarily of high grade state and municipal bonds. The portfolio totaled $7.45 million at December 31, 2009, compared with $8.67 million at December 31, 2008. This decrease is reflective of continuing maturities and calls within the portfolio. The market value of held-to-maturity investment securities was 101.68% and 101.52% of book value at December 31, 2009 and 2008, respectively.
 
The following table details amortized cost and fair value of held-to-maturity securities at December 31, 2009, 2008, and 2007.
 
                                                 
    December 31,  
    2009     2008     2007  
    Amortized
    Fair
    Amortized
    Fair
    Amortized
    Fair
 
    Cost     Value     Cost     Value     Cost     Value  
    (Amounts in thousands)  
 
States and political subdivisions
  $ 7,454     $ 7,579     $ 8,670     $ 8,802     $ 11,699     $ 11,922  
Corporate notes
                            375       375  
Mortgage-backed securities
                            1       1  
                                                 
Total
  $ 7,454     $ 7,579     $ 8,670     $ 8,802     $ 12,075     $ 12,298  
                                                 


38


Table of Contents

Loans Held for Sale
 
At December 31, 2009, the Company held $11.58 million of mortgage loans for sale to the secondary market. The gross notional amount of outstanding commitments to originate mortgage loans for customers at December 31, 2009, was $4.64 million on 31 loans. The Company sells these mortgages on a best efforts basis and generates non-interest income through origination fees and yield spread gains.
 
Loans Held for Investment
 
Total loans held for investment increased $95.77 million to $1.39 billion at December 31, 2009, from $1.30 billion at December 31, 2008, primarily as a result of the addition of $129.54 million in loans obtained in the acquisition of TriStone, which was partially offset by lower loan production and net payoffs throughout 2009. The average loan to deposit ratio decreased to 83.14% for 2009, compared with 87.48% for 2008. Average loans held for investment for 2009 of $1.33 billion increased $134.04 million when compared with the average loans held for investment for 2008 of $1.20 billion.
 
The held for investment loan portfolio continues to be well diversified among loan types and industry segments. The following table presents the various loan categories and changes in composition at year-end 2005 through 2009.
 
Loan Portfolio Summary
 
                                         
    December 31,  
    2009     2008     2007     2006     2005  
    (Amounts in thousands)  
    (Restated)     (Restated)              
 
Commercial, financial and
                                       
agricultural
  $ 96,366     $ 85,034     $ 96,261     $ 106,645     $ 110,211  
Real estate — commercial
    450,611       407,638       386,112       421,067       464,510  
Real estate — construction
    124,896       130,610       163,310       158,566       143,976  
Real estate — residential
    657,367       602,573       498,345       506,370       504,387  
Consumer
    60,090       66,259       75,450       88,679       106,206  
Other
    4,601       6,046       6,027       3,549       1,808  
                                         
Total
    1,393,931       1,298,160       1,225,505       1,284,876       1,331,098  
Less unearned income
          1       3       13       59  
                                         
      1,393,931       1,298,159       1,225,502       1,284,863       1,331,039  
Less allowance for loan losses
    24,277       17,782       12,833       14,549       14,736  
                                         
Net loans
  $ 1,369,654     $ 1,280,377     $ 1,212,669     $ 1,270,314     $ 1,316,303  
                                         
 
The Company maintained no foreign loans in the periods presented. Although the Company’s loans are made primarily in the five-state region in which it operates, the Company had no concentrations of loans to one borrower or industry representing 10% or more of outstanding loans at December 31, 2009.
 
At December 31, 2009, commercial real estate loans comprised 32.33% of the total loan portfolio. Commercial loans include loans to small to mid-size industrial, commercial, and service companies that include, but are not limited to, coal mining companies, manufacturers, automobile dealers, and retail and wholesale merchants. Commercial real estate projects represent a variety of sectors of the commercial real estate market, including residential land development, single family and apartment building operators, commercial real estate lessors, and hotel/motel developers. Underwriting standards require that comprehensive reviews and independent evaluations be performed on credits exceeding predefined market limits on commercial loans. Updates to these loan reviews are done periodically or on an annual basis depending on the size of the loan relationship.


39


Table of Contents

The following table details the maturities and rate sensitivity of the Company’s loan portfolio at December 31, 2009.
 
                                         
    Remaining Maturities  
          Over
                   
    One Year
    One to
    Over Five
             
    and Less     Five Years     Years     Total     Percent  
    (Amounts in thousands)  
 
Commercial, financial and agricultural
  $ 40,887     $ 51,353     $ 4,126     $ 96,366       6.91 %
Real estate — commercial
    91,712       292,656       66,242       450,610       32.33 %
Real estate — construction
    61,653       47,141       16,104       124,898       8.96 %
Real estate — mortgage
    53,082       156,766       447,519       657,367       47.16 %
Consumer
    17,712       39,814       2,563       60,089       4.31 %
Other
    1,814       1,141       1,646       4,601       0.33 %
                                         
    $ 266,860     $ 588,871     $ 538,200     $ 1,393,931       100.00 %
                                         
Rate Sensitivity:
                                       
Predetermined rate
  $ 124,794     $ 444,222     $ 202,451     $ 771,467       55.34 %
Floating or adjustable rate
    142,066       144,648       335,750       622,464       44.66 %
                                         
    $ 266,860     $ 588,870     $ 538,201     $ 1,393,931       100.00 %
                                         
 
Allowance for Loan Losses
 
The allowance for loan losses is increased by charges to earnings in the form of provisions charged to current earnings and by recoveries of prior loan charge-offs, and decreased by loan charge-offs. The provisions are calculated to bring the allowance to a level, which, according to a systematic process of measurement, is reflective of the amount that management deems adequate to absorb probable losses. Additional information regarding the determination of the allowance for loan losses can be found in Note 1 — Summary of Significant Accounting Policies of the Notes to Consolidated Financial Statements included in Item 8 hereof.
 
The allowance for loan losses was $24.28 million at December 31, 2009, compared with $17.78 million at December 31, 2008, an increase of $6.50 million. The increase in the allowance was primarily influenced by the effect of net charge-off activity during the year, which totaled $9.31 million as of December 31, 2009, as compared to $5.45 million as of December 31, 2008, on provision expense.
 
The allowance for loan loss methodology utilizes a rolling five year average loss history that is adjusted for current qualitative or environmental factors that management deem likely to cause estimated credit losses as of the evaluation date to differ from the historical loss experience. Such factors include trends in delinquency, loss rates, and non-performing loans as well as general economic conditions. Management considers the allowance adequate based upon its analysis of the portfolio as of December 31, 2009; however, no assurance can be made that additions to the allowance for loan losses will not be required in future periods.
 
The Company did not record an allowance for loan losses in connection with the TriStone acquisition. The loans acquired were accounted for at fair value; therefore, no allowance was allowed to be recorded at acquisition.


40


Table of Contents

The following table details loan charge-offs and recoveries by loan type for the five years ended December 31, 2005 through 2009.
 
                                         
    Years Ended December 31,  
    2009     2008     2007     2006     2005  
    (Dollars in thousands)  
    (Restated)     (Restated)              
 
Allowance for loan losses at beginning of period
  $ 17,782     $ 12,833     $ 14,549     $ 14,736     $ 16,339  
Acquisition balances
          1,169                    
Charge-offs:
                                       
Commercial, financial, and agricultural
    6,742       3,079       1,874       1,522       4,481  
Real estate — construction
    274       731       75       51       148  
Real estate — mortgage
    2,295       1,625       962       1,579       770  
Installment loans to individuals
    1,044       1,936       1,384       1,391       1,537  
                                         
Total charge-offs
    10,355       7,371       4,295       4,543       6,936  
                                         
Recoveries:
                                       
Commercial, financial, and agricultural
    570       1,336       720       881       1,232  
Real estate — construction
    23       5       3       1       112  
Real estate — mortgage
    111       121       567       275       183  
Installment loans to individuals
    345       463       572       493       492  
                                         
Total recoveries
    1,049       1,925       1,862       1,650       2,019  
                                         
Net charge-offs
    9,306       5,446       2,433       2,893       4,917  
Provision charged to operations
    15,801       9,226       717       2,706       3,706  
Reclassification of allowance for lending-related commitments(1)
                            (392 )
                                         
Allowance for loan losses at end of period
  $ 24,277     $ 17,782     $ 12,833     $ 14,549     $ 14,736  
                                         
Ratio of net charge-offs to average loans outstanding
    0.70 %     0.45 %     0.19 %     0.22 %     0.38 %
Ratio of allowance for loan losses to total loans outstanding
    1.74 %     1.37 %     1.05 %     1.13 %     1.11 %
 
 
(1) At June 30, 2005, the Company reclassified $392 thousand of its allowance for loan losses to a separate allowance for lending-related liabilities. Net income and prior period balances were not affected by this reclassification. The allowance for lending-related liabilities is included in other liabilities.
 
The following table details the allocation of the allowance for loan losses and the percent of loans in each category to total loans for the five years ended December 31, 2009.
 
                                                                                 
    December 31,  
    2009     2008     2007     2006     2005  
    (Restated)     (Restated)  
    (Dollars in thousands)  
 
Commercial, financial, and
                                                                               
agricultural
  $ 10,508       39 %   $ 6,224       38 %   $ 7,118       39 %   $ 8,153       41 %   $ 9,627       43 %
Real estate — construction
    3,246       9 %     2,300       10 %     409       13 %     378       12 %     452       11 %
Real estate — mortgage
    8,191       47 %     6,760       46 %     3,613       41 %     3,745       39 %     2,377       38 %
Installment loans to individuals
    1,999       5 %     2,025       6 %     1,693       7 %     2,273       8 %     2,281       8 %
Unallocated
    333               473                                                    
                                                                                 
Total
  $ 24,277       100 %   $ 17,782       100 %   $ 12,833       100 %   $ 14,549       100 %   $ 14,737       100 %
                                                                                 


41


Table of Contents

Risk Elements
 
Non-performing assets include loans on non-accrual status, loans contractually past due 90 days or more and still accruing interest, and other real estate owned (“OREO”). The levels of non-performing assets for the last five years ending December 31, 2009, are presented in the following table.
 
                                         
    December 31,  
    2009     2008     2007     2006     2005  
    (Dollars in thousands)  
    (Restated)     (Restated)              
 
Non-accrual loans
  $ 17,527     $ 12,763     $ 2,923     $ 3,813     $ 3,383  
                                         
Loans 90 days or more past due and still accruing interest
                            11  
                                         
Total non-performing loans
    17,527       12,763       2,923       3,813       3,394  
                                         
Other real estate owned
    4,578       1,326       545       258       1,400  
                                         
Total non-performing assets
  $ 22,105     $ 14,089     $ 3,468     $ 4,071     $ 4,794  
                                         
Non-performing loans as a percentage of total loans
    1.26 %     0.98 %     0.24 %     0.30 %     0.25 %
Non-performing assets as a percentage of total loans and other real estate owned
    1.58 %     1.08 %     0.28 %     0.32 %     0.36 %
Allowance for loan losses as a percentage of non-performing loans
    138.5 %     139.3 %     439.0 %     381.6 %     434.2 %
Allowance for loan losses as a percentage of non-performing assets
    109.8 %     126.2 %     370.0 %     357.4 %     307.4 %
Restructured loans performing in accordance with modified terms
  $ 3,215     $ 113     $ 245     $ 272     $ 302  
                                         
 
Total non-performing assets were $22.11 million at December 31, 2009, compared with $14.09 million at December 31, 2008, an increase of $8.02 million. Non-accrual loans increased by $4.76 million to $17.53 million at December 31, 2009, compared with 2008. A majority of the increase in non-accrual loans can be attributed to a $2.64 million increase in non-accrual loans in the residential real estate segment of the portfolio. Total non-accrual loans within this segment approximate $6.32 million, or 35.59% of total non-accrual loans. The Company’s Winston-Salem and Mooresville, North Carolina markets account for $3.51 million, or 55.45%, of total residential real estate non-accrual loans.
 
Ongoing activity within the classification and categories of non-performing loans includes collections on delinquencies, foreclosures and movements into or out of the non-performing classification as a result of changing customer business conditions. There were no loans 90 days past due and still accruing at December 31, 2009 and 2008. OREO was $4.58 million at December 31, 2009, an increase of $3.25 million from December 31, 2008, and is carried at the lesser of estimated net realizable value or cost. OREO increased from December 31, 2008 as non-performing loans were converted to foreclosed real estate. The principal components of OREO at December 31, 2009, are acquisition and development, residential real estate, and owner-occupied commercial real estate of $975 thousand, $1.35 million, and $1.65 million, respectively. Approximately 24.65% of OREO is located in Winston-Salem and Mooresville, North Carolina and approximately 26.55% in Richmond, Virginia. The present foreclosure process in North Carolina prohibits more timely resolution of real estate secured loans within that state. At December 31, 2009, OREO consisted of 60 properties with an average value of $121 thousand and an average age of 7 months.
 
Certain loans included in the non-accrual category have been written down to the estimated realizable value or have been assigned specific reserves within the allowance for loan losses based upon management’s estimate of loss upon ultimate resolution.


42


Table of Contents

The Company has considered all loans determined to be impaired in the evaluation of the adequacy of the allowance for loan losses at December 31, 2009. The following table presents additional detail of non-performing and restructured loans for the five years ended December 31, 2009. Additional information regarding non-performing loans can be found in Note 6 — Allowance for Loan Losses of the Notes to Consolidated Financial Statements included in Item 8 hereof.
 
                                         
    December 31,  
    2009     2008     2007     2006     2005  
    (Amounts in thousands)  
 
Non-accruing loans
  $ 17,527     $ 12,763     $ 2,923     $ 3,813     $ 3,383  
Loans past due over 90 days and still accruing interest
                            11  
Restructured loans performing in accordance with modified terms
    3,565       113       245       272       302  
Gross interest income which would have been recorded under original terms of non-accruing and restructured loans
    698       458       301       397       380  
Actual interest income during the period
    395       89       179       286       161  
 
Although total delinquent loans increased during 2009, the Company has not yet experienced the significant credit quality deterioration experienced by many of its peers. Total delinquent loans as of December 31, 2009, measured 2.32% of total loans, and were comprised of loans 30-89 days delinquent of 1.07% and loans in non-accrual status of 1.25%. This compares to total delinquency of 1.97% at December 31, 2008. Non-performing loans, comprised entirely of non-accrual loans as the Company does not have any loans that are 90 days past due and still accruing, measured 1.26% and 0.98% of total loans as of December 31, 2009 and December 31, 2008, respectively. By way of comparison, the Company’s Federal Reserve Board peer group of bank holding companies with total assets between $1 and $3 billion at September 30, 2009, had non-performing loans measured at 4.65% of total loans.
 
The primary composition of non-performing loans is 39.40% residential real estate, 20.07% construction, land development, and vacant land, 14.39% owner occupied commercial real estate, and 7.62% non-owner occupied commercial real estate. Approximately $1.78 million, or 25.72%, of the non-performing residential real estate loans can be attributed to the TriStone loan portfolio that was acquired during the third quarter of 2009.
 
The Company increased the quarterly provisions for loan losses and the allowance for loan losses during 2009. Excluding the effect of the TriStone merger in July 2009, the Company increased the allowance for loan losses to 1.92% of total loans as of December 31, 2009. Nonperforming loans increased during 2009 due to the weakness in the real estate market and the recessionary economic conditions experienced during the year. As a result of the increase in charge-offs, the Company deemed it appropriate to increase key qualitative factors that adjust the increasing historical loss rates in its allowance model. Those increases have resulted in increases in the allowance as a percentage of total loans.
 
As of December 31, 2009, there are outstanding commitments to lend an additional six thousand dollars to borrowers related to restructured loans.
 
The Company maintains an active and robust problem credit identification system. When a credit is identified as exhibiting characteristics of weakening, the Company will assess the credit for potential impairment. Examples of weakening include delinquency and deterioration of the borrower’s capacity to repay as determined by our ongoing credit review function. As part of the impairment review, the Company evaluates the current collateral value. It is the Company’s standard practice to obtain updated third party collateral valuations to assist management in measuring potential impairment of a credit and the amount of the impairment to be recorded, if any.
 
Internal collateral valuations are generally performed within two to four weeks of the original identification of potential impairment and receipt of the third party valuation. The internal valuation is performed by comparing the original appraisal to current local real estate market conditions and experience and considers liquidation costs. The result of the internal valuation is compared to the outstanding loan balance, and, if warranted, a specific impairment reserve will be established at the completion of the internal evaluation.


43


Table of Contents

A third party evaluation is typically received within thirty to forty-five days of the completion of the internal evaluation. Once received, the third party evaluation is reviewed by Special Assets staff and/or Credit Appraisal staff for reasonableness. Once the evaluation is reviewed and accepted, discounts to fair market value are applied based upon such factors as the bank’s historical liquidation experience of like collateral, and an estimated net realizable value is established. That estimated net realizable value is then compared to the outstanding loan balance to determine the amount of specific impairment reserve. The specific impairment reserve, if necessary, is adjusted to reflect the results of the updated evaluation. A specific impairment reserve is generally maintained on impaired loans during the time period while awaiting receipt of the third party evaluation as well as on impaired loans that continue to make some form of payment and liquidation is not imminent. Impaired loans not meeting the aforementioned criteria and that do not have a specific impairment reserve typically have been previously written down through a partial charge-off to their net realizable value.
 
The Company’s Special Assets staff assumes the management and monitoring of all loans determined to be impaired. While awaiting the completion of the third party appraisal, the Company generally begins to complete the tasks necessary to gain control of the collateral and prepare for liquidation, including, but not limited to engagement of counsel, inspection of collateral, and continued communication with the borrower, if appropriate. Special Assets staff also regularly reviews the relationship to identify any potential adverse developments during this time.
 
Generally, the only difference between current appraised value, adjusted for liquidation costs, and the carrying amount of the loan less the specific reserve is any downward adjustment to the appraised value that the Company’s Special Assets staff determines appropriate. These differences generally consist of costs to sell the property, as well as a deflator for the devaluation of property when banks are the sellers, and we deem these fair value adjustments.
 
Based on prior experience, the Bank does not generally return loans to performing status after the loans have been partially charged off. Generally, credits identified as impaired move quickly through the process towards ultimate resolution of the problem credit.
 
Deposits
 
Total deposits were $1.65 billion at December 31, 2009, an increase of $142.20 million from $1.50 billion at December 31, 2008. The increase is attributable largely to the acquisition of TriStone. Non-interest bearing demand deposits increased by $8.53 million while interest bearing demand deposits increased $46.79 million during 2009. Savings deposits, which consist of money market accounts and savings accounts, increased $84.94 million while time deposits increased $15.08 million during 2009.
 
Average total deposits increased to $1.60 billion during 2009 as compared to $1.37 billion during 2008. Average interest bearing demand deposits increased $31.19 million during 2009 to $206.00 million. Average non-interest bearing demand deposits decreased $11.87 million to $199.92 million and savings deposits increased $21.85 million to $334.22 million during 2009. Average time deposits increased $191.63 million in 2009. In 2009, the average rate paid on interest bearing deposits was 1.98%, down 59 basis points from 2.57% in 2008. Throughout 2009, the Company decreased its higher-rate certificates of deposit and money market accounts. The increase in interest bearing demand deposits can be attributed to the TriStone acquisition.
 
Borrowings
 
The Company’s borrowings consist primarily of overnight federal funds purchased from the FHLB and other sources, securities sold under agreements to repurchase, and term FHLB borrowings. This category of liabilities represents wholesale sources of funding and liquidity for the Company.
 
Short-term borrowings decreased on average approximately $57.33 million for 2009 compared with the prior year as a result of decreasing funding needs and strong deposit inflows. There were no federal funds purchased at December 31, 2009, and none purchased at December 31, 2008. Repurchase agreements were $153.63 million and $165.91 million at December 31, 2009 and 2008, respectively. Retail repurchase agreements are sold to customers as an alternative to available deposit products and commercial treasury accounts. At December 31, 2009 and 2008, wholesale repurchase agreements totaled $50.00 million. The weighted average rate of those long-term, wholesale repurchase agreements was 3.71% and 4.32% at December 31, 2009 and 2008, respectively. The underlying


44


Table of Contents

securities included in retail repurchase agreements remain under the Company’s control during the effective period of the agreements.
 
Short-term borrowings include overnight federal funds and repurchase agreements. Balances and rates paid on short-term borrowings used in daily operations are summarized as follows:
 
                                                 
    2009   2008   2007
    Amount   Rate   Amount   Rate   Amount   Rate
    (Dollars in thousands)
 
At year-end
  $ 103,634       1.22 %   $ 115,914       1.49 %   $ 225,927       3.19 %
Average during the year
    101,775       1.35 %     159,101       2.13 %     223,132       3.53 %
Maximum month-end balance
    106,407               232,110               273,920          
 
At December 31, 2009, FHLB borrowings included $183.18 million in convertible and callable advances. The weighted average interest rate of all FHLB advances was 2.41% and 3.70% at December 31, 2009 and 2008, respectively. $50.00 million of the advances are hedged by an interest rate swap to achieve a fixed rate of 4.34%. After considering the effect of the interest rate swap, the weighted average interest rate of all FHLB advances was 3.59% at December 31, 2009. At December 31, 2009, the FHLB advances had maturities between three months and twelve years.
 
Also included in other indebtedness is $15.46 million of junior subordinated debentures issued by the Company in October 2003 through FCBI Capital Trust, an unconsolidated trust subsidiary, with an interest rate of three-month LIBOR plus 2.95%. The debentures mature in October 2033 and are currently callable at the option of the Company.
 
Stockholders’ Equity
 
Total stockholders’ equity increased $33.05 million to $252.27 million at December 31, 2009. In June 2009, the Company completed the sale of 5.29 million shares of its Common Stock in a public offering. The purchase price was $12.50 per share, and net proceeds from the sale totaled approximately $61.67 million. In July 2009, in connection with the TriStone acquisition the Company issued 741,588 shares of its Common Stock for approximately $10.13 million towards the total purchase price of $10.78 million. In December 2009, the Company issued 22,008 and 43,054 additional shares of its Common Stock to the former shareholders of GreenPoint and IPC, respectively.
 
On November 21, 2008, the Company completed the issuance of $41.5 million of Series A perpetual preferred stock and a related warrant under the Treasury’s voluntary TARP Capital Purchase Program. The Warrant initially represented the right to purchase 176,546 shares of the Company’s Common Stock at an initial exercise price of $35.26 per share. As a result of the Company’s public offering of Common Stock in June 2009, the number of shares of Common Stock issuable under the terms of the Warrant was reduced to 88,273. On July 8, 2009, the Company repurchased and retired the $41.5 million in preferred stock from the Treasury. The Company did not repurchase the Warrant; therefore, the Treasury retains the option to sell the Warrant in the open market to a third party.
 
Risk-Based Capital
 
Risk-based capital guidelines and the leverage ratio measure capital adequacy of banking institutions. At December 31, 2009, the Company’s Tier I capital ratio was 12.56% compared with 11.84% in 2008. The Company’s total risk-based capital-to-asset ratio was 13.81% at December 31, 2009, compared with 12.94% at December 31, 2008. Both of these ratios are well above the current minimum level of 8% prescribed for bank holding companies by the Federal Reserve Board. The leverage ratio is the measurement of total tangible equity to total assets. The Company’s leverage ratio at December 31, 2009, was 8.51% versus 9.70% at December 31, 2008, both of which are well above the minimum levels prescribed by the Federal Reserve Board. See Note 15 — Regulatory Capital Requirements and Restrictions in the Notes to Consolidated Financial Statements in Item 8 hereof.


45


Table of Contents

Liquidity and Capital Resources
 
Liquidity represents the Company’s ability to respond to demands for funds and is primarily derived from maturing investment securities, overnight investments, periodic repayment of loan principal, and the Company’s ability to generate new deposits. The Company also has the ability to attract short-term sources of funds and draw on credit lines that have been established at financial institutions to meet cash needs.
 
Total liquidity of $473.19 million at December 31, 2009, is comprised of the following: unencumbered cash on hand and deposits with other financial institutions of $98.14 million; unpledged available-for-sale securities of $131.13 million; held- to-maturity securities due within one year of $1.10 million; FHLB credit availability of $148.65 million; and federal funds lines availability of $94.17 million.
 
Liquidity management is both a daily and long-term function of business management. Excess liquidity is generally used to pay down short-term borrowings. On a longer-term basis, the Company maintains a strategy of investing in securities, mortgage-backed obligations and loans with varying maturities. The Company uses these funds to meet ongoing commitments, to pay maturing certificates of deposit and savings withdrawals, fund loan commitments and maintain a portfolio of securities.
 
Since the Company is a holding company and does not conduct operations, its primary sources of liquidity are dividends upstreamed from the Bank and borrowings from outside sources. Banking regulations limit the amount of dividends that may be paid by the Bank. See Note 15 — Regulatory Capital Requirements and Restrictions of the Notes to Consolidated Financial Statements included in Item 8 hereof regarding such dividends. At December 31, 2009, the Company had liquid assets, including cash and investment securities, totaling $27.57 million.
 
At December 31, 2009, approved loan commitments outstanding amounted to $233.72 million and certificates of deposit scheduled to mature in one year or less totaled $525.78 million. Management believes that the Company has adequate resources to fund outstanding commitments and could either adjust rates on certificates of deposit in order to retain or attract deposits in changing interest rate environments or replace such deposits with advances from the FHLB or other funds providers if it proved to be cost effective to do so.
 
The following table presents contractual cash obligations as of December 31, 2009.
 
                                         
    Total Payments Due by Period  
          Less than
    One to
    Three to
    More than
 
    Total     One year     Three Years     Five Years     Five Years  
    (Amounts in thousands)  
 
Deposits without a stated maturity(1)
  $ 821,532     $ 821,532     $     $     $  
Federal funds borrowed and overnight security repurchase agreements
    84,528       84,528                    
Certificates of Deposit(2)(3)
    847,198       617,337       160,984       68,877        
Term security repurchase agreements
    85,429       12,577       5,965       12,851       54,036  
FHLB advances(2)(3)
    215,979       14,460       8,390       8,360       184,769  
Trust preferred indebtedness
    27,893       641       1,175       1,022       25,055  
Leases
    5,729       1,084       1,633       1,106       1,906  
                                         
Total
  $ 2,088,288     $ 1,552,159     $ 178,147     $ 92,216     $ 265,766  
                                         
 
 
(1) Excludes interest.
 
(2) Includes interest on both fixed and variable rate obligations. The interest associated with variable rate obligations is based upon interest rates in effect at December 31, 2009. The interest to be paid on variable rate obligations is affected by changes in market interest rates, which materially affect the contractual obligation amounts to be paid.
 
(3) Excludes carrying value adjustments such as unamortized premiums or discounts.


46


Table of Contents

 
The following table presents detailed information regarding the Company’s off-balance sheet arrangements at December 31, 2009.
 
                                         
    Amount of Commitment Expiration Per Period  
          Less than
                   
          One Year
    One to
    Three to
    More than
 
    Total     (1)     Three Years     Five Years     Five Years  
    (Amounts in thousands)  
 
Commitments to extend credit
                                       
Commercial, financial and agricultural
    34,960     $ 25,611     $ 6,622     $ 2,683     $ 44  
Real estate — commercial
    17,757       11,930       2,891       2,560       376  
Real estate — residential
    84,209       6,896       5,465       9,786       62,062  
Real estate — construction
    36,475       22,632       2,139       7,661       4,043  
Consumer
    49,501       49,449       9       30       13  
Other
    206       179             27        
                                         
Total unused commitments
  $ 223,108     $ 116,697     $ 17,126     $ 22,747     $ 66,538  
                                         
Financial letters of credit
  $ 576     $ 559     $ 7     $     $ 10  
Performance letters of credit
    1,224       1,091       64       5       64  
                                         
Total letters of credit
  $ 1,800     $ 1,650     $ 71     $ 5     $ 74  
                                         
 
 
(1) Lines of credit with no stated maturity date are included in commitments for less than one year.
 
The Company has a pay fixed and receive variable interest rate swap that effectively fixes $50.00 million of FHLB borrowings at 4.34% for a period of five years. The derivative transaction is effective and performing as originally expected.
 
Wealth Management Services
 
As part of its community banking services, the Company offers trust management and estate administration services through its Trust and Financial Services Division (Trust Division). The Trust Division reported market value of assets under management of $411 million and $416 million at December 31, 2009 and 2008, respectively. The Trust Division manages inter vivos trusts and trusts under will, develops and administers employee benefit plans and individual retirement plans and manages and settles estates. Fiduciary fees for these services are charged on a schedule related to the size, nature and complexity of the account.
 
The Company also offers investment advisory services through the Bank’s wholly-owned subsidiary, IPC, which reported assets under management of $414 million and $432 million at December 31, 2009 and 2008, respectively. Revenues consist primarily of commissions on assets under management and investment advisory fees.
 
Insurance Services
 
The Company offers insurance services through its subsidiary GreenPoint. Revenues are derived mainly from commissions paid on policies sold. Commission revenue was $6.99 million for 2009 compared to $4.99 million for 2008. GreenPoint made two large acquisitions during 2008, REL Insurance in Greensboro, North Carolina, and Carr & Hyde in Warrenton, Virginia. Those two agencies added combined annualized revenues of over $3 million in 2009. See Note 20 — Segment Information of the Notes to the Consolidated Financial Statements include in Item 8 hereof.


47


Table of Contents

ITEM 7A.   QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK.
 
The Company’s profitability is dependent to a large extent upon its net interest income, which is the difference between its interest income on interest-earning assets, such as loans and securities, and its interest expense on interest bearing liabilities, such as deposits and borrowings. The Company, like other financial institutions, is subject to interest rate risk to the degree that its interest-earning assets reprice differently than its interest bearing liabilities. The Company manages its mix of assets and liabilities with the goals of limiting its exposure to interest rate risk, ensuring adequate liquidity, and coordinating its sources and uses of funds while maintaining an acceptable level of net interest income given the current interest rate environment.
 
The Company’s primary component of operational revenue, net interest income, is subject to variation as a result of changes in interest rate environments in conjunction with unbalanced repricing opportunities on earning assets and interest bearing liabilities. Interest rate risk has four primary components including repricing risk, basis risk, yield curve risk and option risk. Repricing risk occurs when earning assets and paying liabilities reprice at differing times as interest rates change. Basis risk occurs when the underlying rates on the assets and liabilities the institution holds change at different levels or in varying degrees. Yield curve risk is the risk of adverse consequences as a result of unequal changes in the spread between two or more rates for different maturities for the same instrument. Lastly, option risk is the result of “embedded options”, often called put or call options, given or sold to holders of financial instruments.
 
In order to mitigate the effect of changes in the general level of interest rates, the Company manages repricing opportunities and thus, its interest rate sensitivity. The Company seeks to control its interest rate risk (“IRR”) exposure to insulate net interest income and net earnings from fluctuations in the general level of interest rates. To measure its exposure to IRR, quarterly simulations of net interest income are performed using financial models that project net interest income through a range of possible interest rate environments including rising, declining, most likely and flat rate scenarios. The results of these simulations indicate the existence and severity of IRR in each of those rate environments based upon the current balance sheet position, assumptions as to changes in the volume and mix of interest-earning assets and interest-paying liabilities, management’s estimate of yields to be attained in those future rate environments, and rates that will be paid on various deposit instruments and borrowings. Specific strategies for management of IRR have included shortening the amortized maturity of new fixed rate loans, increasing the volume of adjustable rate loans to reduce the repricing term of the Bank’s interest-earning assets, and monitoring the term structure of liabilities to maintain a balanced mix of maturity and repricing to mitigate the potential exposure. The simulation model used by the Company captures all earning assets, interest bearing liabilities and all off-balance sheet financial instruments and combines the various factors affecting rate sensitivity into an earnings outlook. Based upon the latest simulation, the Company believes that it is in a slightly liability sensitive position.
 
The Company has established policy limits for tolerance of interest rate risk that allow for no more than a 10% reduction in the next twelve months’ projected net interest income based on the income simulation compared with forecasted results. In addition, the policy addresses exposure limits to changes in the economic value of equity according to predefined policy guidelines. The most recent simulation indicates that current exposure to interest rate risk is within the Company’s defined policy limits.


48


Table of Contents

The following table summarizes the impact of immediate and sustained rate shocks in the interest rate environment on net interest income and the economic value of equity as of December 31, 2009 and 2008. The model simulates plus 200 and minus 100 basis point changes from the base case rate simulation. This table, which illustrates the prospective effects of hypothetical interest rate changes, is based upon numerous assumptions including relative and estimated levels of key interest rates over a twelve-month time period. This modeling technique, although useful, does not take into account all strategies that management might undertake in response to a sudden and sustained rate shock as depicted. Also, as market conditions vary from those assumed in the sensitivity analysis, actual results will also differ due to prepayment and refinancing levels likely deviating from those assumed, the varying impact of interest rate change caps or floors on adjustable rate assets, the potential effect of changing debt service levels on customers with adjustable rate loans, depositor early withdrawals and product preference changes, and other internal and external variables. As of December 31, 2009, the Federal Open Market Committee maintained a target range for federal funds of 0 to 25 basis points, rendering a complete downward shock of 200 basis points as not realistic and not meaningful. In the downward rate shocks presented, benchmark interest rates are dropped with floors near 0%.
 
Rate Sensitivity Analysis
 
                                 
December 31, 2009 Simulation
Increase (Decrease)
  Change in
      Change in
   
in Interest Rates
  Net Interest
  %
  Market Value
  %
(Basis Points)
  Income   Change   of Equity   Change
    (Dollars in thousands)    
 
200
  $ (1,405 )     (1.9 )   $ (18,634 )     (6.9 )
100
    (866 )     (1.2 )     (7,715 )     (2.9 )
(100)
    2,117       2.9       16,087       5.9  
 
                                 
December 31, 2008 Simulation
Increase (Decrease)
  Change in
      Change in
   
in Interest Rates
  Net Interest
  %
  Market Value
  %
(Basis Points)
  Income   Change   of Equity   Change
 
200
  $ 1,479       2.3     $ (8,040 )     (3.7 )
100
    1,493       2.3       719       0.3  
(100)
    1,874       2.9       (21,443 )     (9.9 )


49


Table of Contents

ITEM 8.   FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA.
 
         
Consolidated Financial Statements
       
    51  
    52  
    53  
    54  
    55  
    103  
    104  
    105  


50


Table of Contents

FIRST COMMUNITY BANCSHARES, INC.

CONSOLIDATED BALANCE SHEETS
 
                 
    December 31,  
    2009     2008  
(Amounts in thousands, except share and per share data) (Restated)     (Restated)  
 
ASSETS
Cash and due from banks
  $ 36,265     $ 39,310  
Federal funds sold
    61,376        
Interest-bearing balances with banks
    3,700       7,129  
                 
Total cash and cash equivalents
    101,341       46,439  
Securities available for sale
    486,057       520,723  
Securities held to maturity
    7,454       8,670  
Loans held for sale
    11,576       1,024  
Loans held for investment, net of unearned income
    1,393,931       1,298,159  
Less allowance for loan losses
    24,277       17,782  
                 
Net loans held for investment
    1,369,654       1,280,377  
Premises and equipment, net
    56,946       55,024  
Other real estate owned
    4,578       1,326  
Interest receivable
    8,610       10,084  
Goodwill
    84,648       83,192  
Other intangible assets
    6,413       6,420  
Other assets
    136,006       118,908  
                 
Total Assets
  $ 2,273,283     $ 2,132,187  
                 
 
LIABILITIES
Deposits:
               
Non-interest bearing
  $ 208,244     $ 199,712  
Interest bearing
    1,437,716       1,304,046  
                 
Total Deposits
    1,645,960       1,503,758  
Interest, taxes and other liabilities
    22,498       27,423  
Securities sold under agreements to repurchase
    153,634       165,914  
FHLB borrowings and other indebtedness
    198,924       215,877  
                 
Total Liabilities
    2,021,016       1,912,972  
                 
Stockholders’ Equity
               
Preferred stock, par value undesignated; 1,000,000 shares authorized; no shares issued and outstanding at 2009 and 41,500 at 2008
          40,419  
Common stock, $1 par value; shares authorized: 25,000,000; shares issued: 18,082,822 at 2009 and 12,051,234 at 2008; shares outstanding: 17,765,164 at 2009 and 11,567,449 at 2008
    18,083       12,051  
Additional paid-in capital
    190,967       128,526  
Retained earnings
    66,760       106,104  
Treasury stock, at cost
    (9,891 )     (15,368 )
Accumulated other comprehensive loss
    (13,652 )     (52,517 )
                 
Total Stockholders’ Equity
    252,267       219,215  
                 
Total Liabilities and Stockholders’ Equity
  $ 2,273,283     $ 2,132,187  
                 
 
See Notes to Consolidated Financial Statements.


51


Table of Contents

FIRST COMMUNITY BANCSHARES, INC.

CONSOLIDATED STATEMENTS OF OPERATIONS
 
                         
    Years Ended December 31,  
    2009     2008     2007  
(Amounts in thousands, except share and per share data)   (Restated)     (Restated)
 
Interest Income
                       
Interest and fees on loans
  $ 82,704     $ 80,224     $ 93,501  
Interest on securities-taxable
    19,093       22,714       24,725  
Interest on securities-nontaxable
    5,972       7,521       8,190  
Interest on federal funds sold and deposits in banks
    165       306       1,175  
                         
Total interest income
    107,934       110,765       127,591  
                         
Interest Expense
                       
Interest on deposits
    27,796       29,792       38,757  
Interest on short-term borrowings
    3,297       5,252       9,760  
Interest on long-term debt
    7,589       9,886       10,759  
                         
Total interest expense
    38,682       44,930       59,276  
                         
Net Interest Income
    69,252       65,835       68,315  
Provision for loan losses
    15,801       9,226       717  
                         
Net interest income after provision for loan losses
    53,451       56,609       67,598  
                         
Noninterest Income
                       
Wealth management income
    4,147       4,100       3,880  
Service charges on deposit accounts
    13,892       14,067       11,387  
Other service charges, commissions and fees
    4,715       4,248       3,600  
Insurance commissions
    6,988       4,988       1,142  
Total impairment losses on securities
    (88,435 )     (29,923 )      
Portion of loss recognized in other comprehensive income
    9,572              
                         
Net impairment losses recognized in earnings
    (78,863 )     (29,923 )      
Net (losses) gains on sale of securities
    (11,673 )     1,899       411  
Gain on acquisition
    4,493              
Other operating income
    2,624       2,995       4,411  
                         
Total noninterest income
    (53,677 )     2,374       24,831  
                         
Noninterest Expense
                       
Salaries and employee benefits
    31,385       29,876       25,848  
Occupancy expense of bank premises
    5,889       5,102       4,180  
Furniture and equipment expense
    3,746       3,740       3,370  
Amortization of intangible assets
    1,028       689       467  
Prepayment penalties on FHLB advances
    88       1,647        
FDIC premiums and assessments
    4,262       202        
Merger related expenses
    1,726              
Other operating expense
    18,500       19,260       16,598  
                         
Total noninterest expense
    66,624       60,516       50,463  
                         
Income (loss) before income taxes
    (66,850 )     (1,533 )     41,966  
Income tax (benefit) expense
    (28,154 )     (3,487 )     12,334  
                         
Net (loss) income
    (38,696 )     1,954       29,632  
Dividends on preferred stock
    2,160       255        
                         
Net (loss) income available to common shareholders
  $ (40,856 )   $ 1,699     $ 29,632  
                         
Basic earnings (loss) per common share
  $ (2.75 )   $ 0.15     $ 2.64  
                         
Diluted earnings (loss) per common share
  $ (2.75 )   $ 0.15     $ 2.62  
                         
Dividends declared per common share
  $ 0.30     $ 1.12     $ 1.08  
                         
Weighted average basic shares outstanding
    14,868,547       11,058,076       11,204,676  
                         
Weighted average diluted shares outstanding
    14,868,547       11,134,025       11,292,871  
                         
 
See Notes to Consolidated Financial Statements.


52


Table of Contents

FIRST COMMUNITY BANCSHARES, INC.

CONSOLIDATED STATEMENTS OF CASH FLOWS
 
                         
    Years Ended December 31,  
    2009     2008     2007  
(Amounts in thousands)   (Restated)     (Restated)
 
Cash flows from operating activities
                       
Net income (loss)
  $ (38,696 )   $ 1,954     $ 29,632  
Adjustments to reconcile net income (loss) to net cash provided by (used in) operating activities:
                       
Provision for loan losses
    15,801       9,226       717  
Depreciation and amortization of premises and equipment
    4,028       3,885       3,276  
Intangible amortization
    1,028       689       467  
Net investment amortization and accretion
    1,234       (161 )     534  
Gains (losses) on the sale of assets
    11,599       (1,839 )     (357 )
Net gain on acquisitions
    (4,493 )            
Mortgage loans originated for sale
    (35,249 )     (32,704 )     (42,598 )
Proceeds from sale of mortgage loans
    27,464       32,672       42,822  
Gain on sale of loans
    (83 )     (181 )     (254 )
Equity-based compensation expense
    153       260       271  
Deferred income tax (benefit) expense
    (18,866 )     (13,324 )     216  
Decrease (increase) in interest receivable
    2,071       3,071       (324 )
Excess tax benefit from stock-based compensation
    (2 )     (85 )     (327 )
Prepayment penalty
    88       1,647        
Contribution of treasury stock to 401(k) plan
    1,414       1,208        
FDIC prepayment
    (10,885 )            
Net impairment losses recognized in earnings
    78,863       29,923        
Net changes in other assets and liabilities
    (20,338 )     (2,651 )     2,581  
                         
Net cash provided by (used in) operating activities
    15,131       33,590       36,656  
                         
Cash flows from investing activities
                       
Proceeds from sales of securities available for sale
    167,071       128,888       12,010  
Proceeds from maturities and calls of securities available for sale
    77,178       87,144       28,635  
Proceeds from maturities and calls of held to maturity securities
    1,238       3,417       7,907  
Purchase of securities available for sale
    (218,961 )     (171,446 )     (211,321 )
Net decrease in loans made to customers
    18,902       58,473       56,623  
Net redemption (purchase) of FHLB stock
    351       4,013       (4,207 )
Cash provided by (used in) divestitures and acquisitions, net
    21,749       (4,661 )     (5,364 )
Purchase of premises and equipment
    (4,380 )     (6,040 )     (15,160 )
Proceeds from sale of equipment
    327       21       526  
                         
Net cash provided by (used in) investing activities
    63,475       99,809       (130,351 )
                         
Cash flows from financing activities
                       
Net increase (decrease) in demand and savings deposits
    71,436       (52,079 )     2,158  
Net (decrease) increase in time deposits
    (71,931 )     24,788       (3,649 )
Net (decrease) increase in FHLB and other borrrowings
    (25,130 )     (76,039 )     93,272  
FHLB debt prepayment fees
    (88 )     (1,647 )      
Net (decrease) increase in federal funds purchased
          (18,500 )     10,800  
Net (decrease) increase in securities sold under agreement to repurchase
    (12,280 )     (41,513 )     6,242  
Redemption of preferred stock
    (41,500 )            
Net proceeds from the issuance of common stock
    61,668              
Net proceeds from the issuance of preferred stock
          41,409        
Proceeds from the exercise of stock options
    21       464       781  
Excess tax benefit from stock-based compensation
    2       85       327  
Acquisition of treasury stock
    (167 )     (4,222 )     (9,170 )
Preferred dividends paid
    (1,116 )            
Common dividends paid
    (4,619 )     (12,452 )     (12,079 )
                         
Net cash provided by (used in) financing activities
    (23,704 )     (139,706 )     88,682  
                         
Net increase (decrease) in cash and cash equivalents
    54,902       (6,307 )     (5,013 )
Cash and cash equivalents at beginning of year
    46,439       52,746       57,759  
                         
Cash and cash equivalents at end of year
  $ 101,341     $ 46,439     $ 52,746  
                         
Supplemental information — Noncash items
                       
Transfers of loans to other real estate
  $ 6,490     $ 2,653     $ 1,342  
Cumulative effect adjustment, net of tax
  $ 6,131     $     $  
 
(See Note 1 for detail of income taxes and interest paid and Note 3 for supplemental information regarding detail of cash paid in acquisitions.)
 
See Notes to Consolidated Financial Statements


53


Table of Contents

FIRST COMMUNITY BANCSHARES, INC.

CONSOLIDATED STATEMENTS OF CHANGES IN STOCKHOLDERS’ EQUITY
 
 
                                                         
                                  Accumulated
       
                Additional
                Other
       
    Preferred
    Common
    Paid-in
    Retained
    Treasury
    Comprehensive
       
    Stock     Stock     Capital     Earnings     Stock     (Loss) Income     Total  
    (Amounts in thousands, except share and per share information)  
 
Balance January 1, 2007
  $     $ 11,499     $ 108,806     $ 100,117     $ (7,924 )   $ 232     $ 212,730  
Comprehensive income:
                                                       
Net income
                      29,632                   29,632  
Other comprehensive income (loss) — See note 18
                                  (7,515 )     (7,515 )
                                                         
Comprehensive income (loss)
                      29,632             (7,515 )     22,117  
                                                         
Common dividends declared ($1.08 per share)
                      (12,079 )                 (12,079 )
Purchase of 287,500 treasury shares at $31.89 per share
                            (9,170 )           (9,170 )
Acquisition of GreenPoint Insurance Group (49,088 shares)
                133             1,524             1,657  
Acquisition of Investment Planning Consultants (13,401 shares)
                30             425             455  
Equity-based compensation
                169             102             271  
Tax benefit from exercise of stock options
                336                         336  
Common stock options exercised (45,665 shares)
                (649 )           1,430             781  
                                                         
Balance December 31, 2007
  $     $ 11,499     $ 108,825     $ 117,670     $ (13,613 )   $ (7,283 )   $ 217,098  
                                                         
Comprehensive income:
                                                       
Net income (restated)
  $     $     $     $ 1,954     $     $     $ 1,954  
Other comprehensive income (loss) — See note 18
                                  (45,234 )     (45,234 )
                                                         
Comprehensive income (loss)
                      1,954             (45,234 )     (43,280 )
                                                         
Cumulative effect of change in accounting principle
                            (813 )                     (813 )
Preferred stock issuance, net
    40,395             (91 )                       40,304  
Common stock warrant issuance
                1,105                         1,105  
Preferred dividend, net
    24                   (255 )                 (231 )
Common dividends declared ($1.12 per share)
                      (12,452 )                 (12,452 )
Purchase of 132,100 treasury shares at $31.96 per share
                            (4,222 )           (4,222 )
Acquisition of Coddle Creek (552,216 shares)
          552       18,588                         19,140  
Acquisition of GreenPoint Insurance Group (7,728 shares)
                22             245             267  
Acquisition of Investment Planning Consultants (8,361 shares)
                (26 )           266             240  
Contribution of treasury stock to 401(k) plan (37,775 shares)
                8             1,200             1,208  
Equity-based compensation
                244             16             260  
Tax benefit from exercise of stock options
                127                         127  
Common stock options exercised (22,323 shares)
                (276 )           740             464  
                                                         
Balance December 31, 2008 (restated)
  $ 40,419     $ 12,051     $ 128,526     $ 106,104     $ (15,368 )   $ (52,517 )   $ 219,215  
                                                         
Cumulative effect of change in accounting principle
  $     $     $     $ 6,131     $     $ (6,131 )   $  
Comprehensive income:
                                                       
Net (loss) income (restated)
                      (38,696 )                 (38,696 )
Other comprehensive income — See note 18
                                  44,996       44,996  
                                                         
Comprehensive income (restated)
                      (32,565 )           38,865       6,300  
                                                         
Preferred dividend, net
    1,081             (37 )     (2,160 )                 (1,116 )
Common dividends declared ($0.30 per share)
                      (4,619 )                 (4,619 )
Redemption of preferred stock
    (41,500 )                                   (41,500 )
Purchase of 13,500 treasury shares at $12.29 per share
                            (167 )           (167 )
Acquisition of GreenPoint Insurance Group (22,008 shares)
                (404 )           685             281  
Acquisition of Investment Planning Consultants (43,054 shares)
                (851 )           1,341             490  
Acquisition of TriStone Community Bank (741,588 shares)
          742       9,385                         10,127  
Equity-based compensation
                115             38             153  
Common stock issuance, net (5,290,000 shares)
          5,290       56,378                         61,668  
Contribution of treasury stock to 401(k) plan (111,365 shares)
                (2,103 )           3,517             1,414  
Common stock options exercised (2,000 shares)
                (42 )           63             21  
                                                         
Balance December 31, 2009 (restated)
  $     $ 18,083     $ 190,967     $ 66,760     $ (9,891 )   $ (13,652 )   $ 252,267  
                                                         
 
See Notes to Consolidated Financial Statements


54


Table of Contents

 
FIRST COMMUNITY BANCSHARES, INC.
 
NOTES TO CONSOLIDATED STATEMENTS
 
Note 1.   Summary of Significant Accounting Policies
 
Basis of Presentation
 
The accounting and reporting policies of First Community Bancshares, Inc. and subsidiaries (“First Community” or the “Company”) conform to accounting principles generally accepted in the United States and to predominant practices within the banking industry. In preparing financial statements, management is required to make estimates and assumptions that affect the reported amounts of assets and liabilities as of the date of the balance sheet and revenues and expenses for the period. Actual results could differ from those estimates. Assets held in an agency or fiduciary capacity are not assets of the Company and are not included in the accompanying consolidated balance sheets.
 
Accounting Standards Codification
 
The Financial Accounting Standards Board’s (“FASB”) Accounting Standards Codification (“ASC”) became effective on July 1, 2009. At that date, the ASC became FASB’s officially recognized source of authoritative U.S. GAAP applicable to all public and non-public non-governmental entities, superseding existing FASB, American Institute of Certified Public Accountants, and Emerging Issues Task Force guidance and related literature. Rules and interpretive releases of the SEC under the authority of federal securities laws are also sources of authoritative GAAP for SEC registrants. All other accounting literature is considered non-authoritative. The switch to the ASC affects the way companies refer to U.S. GAAP in financial statements and accounting policies. Citing particular content in the ASC involves specifying the unique numeric path to the content through the Topic, Subtopic, Section and Paragraph structure.
 
Principles of Consolidation
 
The consolidated financial statements of First Community include the accounts of all wholly-owned subsidiaries. All significant intercompany balances and transactions have been eliminated in consolidation. Effective January 1, 2008, the Company operates within two business segments, community banking and insurance services.
 
Use of Estimates
 
In preparing consolidated financial statements in conformity with generally accepted accounting principles, management is required to make estimates and assumptions that affect the reported amounts of assets and liabilities as of the date of the balance sheet and reported amounts of revenues and expenses during the reporting period. Financial statement items requiring the significant use of estimates and assumptions include, but are not limited to, fair values of investment securities, fair value adjustment of acquired businesses and the establishment of the allowance for loan losses. Actual results could differ from those estimates.
 
Cash and Cash Equivalents
 
Cash and cash equivalents include cash and due from banks, time deposits with other banks, federal funds sold, and interest bearing balances on deposit with the Federal Home Loan Bank (“FHLB”) that are available for immediate withdrawal. Interest and income taxes paid were as follows:
 
                         
    2009   2008   2007
    (Amounts in thousands)
 
Interest
  $ 39,871     $ 46,381     $ 58,797  
Income Taxes
    9,318       8,777       12,097  
 
Pursuant to agreements with the Federal Reserve Bank, the Company maintains a cash balance of approximately $250 thousand in lieu of charges for check clearing and other services. The Company maintained a cash deposit of approximately $3.20 million with a counterparty to collateralize an interest rate swap.


55


Table of Contents

 
FIRST COMMUNITY BANCSHARES, INC.
 
NOTES TO CONSOLIDATED STATEMENTS — (Continued)
 
Investment Securities
 
Securities to be held for indefinite periods of time, including securities that management intends to use as part of its asset/liability management strategy and that may be sold in response to changes in interest rates, changes in prepayment risk, or other similar factors, are classified as available-for-sale and are recorded at estimated fair value. Unrealized appreciation or depreciation in fair value above or below amortized cost is included in stockholders’ equity, net of income taxes, and is entitled “Other Comprehensive Income (Loss).” Premiums and discounts are amortized to expense or accreted to income over the life of the security. Gain or loss on sale is based on the specific identification method.
 
Investments in debt securities that management has determined it does not intend to sell and has asserted that it is not more likely than not that it will have to sell are carried at amortized cost. Premiums and discounts are amortized to expense and accreted to income over the lives of the securities. Gain or loss on the call or maturity of investment securities, if any, is recorded based on the specific identification method. Investments that management has determined it does intend to sell and has asserted that it is more likely than not that it will have to sell are carried at the lower of amortized cost or market value.
 
Management performs an extensive review of the investment securities portfolio quarterly to determine the cause of declines in the fair value of each security within each segment of the portfolio. The Company uses inputs provided by an independent third party to determine the fair values of its investment securities portfolio. Inputs provided by the third party are reviewed and corroborated by management. Evaluations of the causes of the unrealized losses are performed to determine whether the impairment is temporary or other-than-temporary in nature. Considerations such as whether the Company determines it has the intent to sell the security or whether it is more likely than not it will be required to sell the security, recoverability of the invested amounts over the Company’s intended holding period, severity in pricing decline and receipt of amounts contractually due, for example, are applied in determining whether a security is other-than-temporarily impaired. If a decline in value is determined to be other-than-temporary, the value of the security is reduced and a corresponding charge to earnings is recognized. In the instance of a debt security which is determined to be other-than-temporarily impaired, the Company determines the amount of the impairment due to credit and the amount due to other factors. The amount of impairment related to credit is recognized in the Consolidated Statements of Income and the remainder of the impairment is recognized in other comprehensive income.
 
Loans Held for Sale
 
Loans held for sale primarily consist of one-to-four family residential loans originated for sale in the secondary market and are carried at the lower of cost or estimated fair value determined on an aggregate basis. The long-term, fixed rate loans are sold to investors on a best efforts basis such that the Company does not absorb the interest rate risk involved in the loans. The fair value of loans held for sale is determined by reference to quoted prices for loans with similar coupon rates and terms.
 
The Company enters into rate-lock commitments it makes to customers with the intention to sell the loan in the secondary market. The derivatives arising from the rate-lock commitments are recorded at fair value in other assets and liabilities and changes in that fair value are included in other income. The fair value of the rate-lock commitment derivatives are determined by reference to quoted prices for loans with similar coupon rates and terms. Gains and losses on the sale of those loans are included in other income.
 
Loans Held for Investment
 
Loans held for investment are carried at the principal amount outstanding less any writedowns which may be necessary to reduce individual loans to net realizable value. Individually significant commercial loans are evaluated for impairment when evidence of impairment exists. Impairment allowances are recorded through specific additions to the allowance for loan losses. Loans are considered past due when principal or interest becomes


56


Table of Contents

 
FIRST COMMUNITY BANCSHARES, INC.
 
NOTES TO CONSOLIDATED STATEMENTS — (Continued)
 
delinquent by 30 days or more. Consumer loans are charged off against the allowance for loan losses when the loan becomes 120 days past due (180 days if secured by residential real estate). Other loans are charged off against the allowance for loan losses after collection attempts have been exhausted, which generally is within 120 days. Recoveries of loans charged off are credited to the allowance for loan losses in the period received.
 
Allowance for Loan Losses
 
The allowance for loan losses is maintained at a level management deems sufficient to absorb probable losses inherent in the portfolio, and is based on management’s evaluation of the risks in the loan portfolio and changes in the nature and volume of loan activity. The Company consistently applies a review process to periodically evaluate loans for changes in credit risk. This process serves as the primary means by which the Company evaluates the adequacy of the allowance for loan losses.
 
The Company determines the allowance for loan losses by making specific allocations to impaired loans that exhibit inherent weaknesses and various credit risk factors, and general allocations to commercial, residential real estate, and consumer loans are developed giving weight to risk ratings, historical loss trends and management’s judgment concerning those trends and other relevant factors. These factors may include, but are not limited to, actual versus estimated losses, regional and national economic conditions, including unemployment trend, business segment and portfolio concentrations, industry competition, interest rate trends, and the impact of government regulations. The foregoing analysis is performed by management to evaluate the portfolio and calculate an estimated valuation allowance through a quantitative and qualitative analysis that applies risk factors to those identified risk areas.
 
This risk management evaluation is applied at both the portfolio level and the individual loan level for commercial loans and credit relationships while the level of consumer and residential mortgage loan allowance is determined primarily on a total portfolio level based on a review of historical loss percentages and other qualitative factors including concentrations, industry specific factors and economic conditions. The commercial portfolio requires more specific analysis of individually significant loans and the borrower’s underlying cash flow, business conditions, capacity for debt repayment and the valuation of secondary sources of payment, such as collateral. This analysis may result in specifically identified weaknesses and corresponding specific impairment allowances. While allocations are made to specific loans and classifications within the various categories of loans, the allowance for loan losses is available for all loan losses.
 
The use of various estimates and judgments in the Company’s ongoing evaluation of the required level of allowance can significantly impact the Company’s results of operations and financial condition and may result in either greater provisions against earnings to increase the allowance or reduced provisions based upon management’s current view of portfolio and economic conditions and the application of revised estimates and assumptions. Differences between actual loan loss experience and estimates are reflected through adjustments either increasing or decreasing the loan loss provision based upon current measurement criteria.
 
Long-term Investments
 
Certain long-term equity investments representing less than 20% ownership are accounted for under the cost method, are carried at cost, and are included in other assets. At December 31, 2009, these equity investments totaled $1.81 million. These investments in operating companies represent required long-term investments in insurance, investment and service company affiliates or consortiums which serve as vehicles for the delivery of various support services. In accordance with the cost method, dividends received are recorded as current period revenues and there is no recognition of the Company’s proportionate share of net operating income or loss. The Company has determined that fair value measurement is not practical, and further, nothing has come to the attention of the Company that would indicate impairment of any of these investments.


57


Table of Contents

 
FIRST COMMUNITY BANCSHARES, INC.
 
NOTES TO CONSOLIDATED STATEMENTS — (Continued)
 
As a condition to membership in the FHLB system, the Company is required to subscribe to a minimum level of stock in the FHLB of Atlanta (“FHLBA”). The Company feels this ownership position provides access to relatively inexpensive wholesale and overnight funding. The Company accounts for FHLBA and Federal Reserve Bank stock as a long-term investment in other assets. At December 31, 2009 and 2008, the Company owned approximately $13.70 million and $13.17 million in FHLBA stock, respectively, which is classified as other assets. The Company’s policy is to review for impairment at each reporting period. During the year ended December 31, 2009, FHLBA repurchased excess activity-based stock from the Company and reinstituted quarterly dividends. At December 31, 2009 FHLBA was in compliance with all of its regulatory capital requirements. Based on the Company’s review, it believes that as of December 31, 2009 and 2008, its FHLBA stock was not impaired.
 
Premises and Equipment
 
Premises and equipment are stated at cost less accumulated depreciation. Depreciation and amortization are computed on the straight-line method over estimated useful lives. Useful lives range from 5 to 10 years for furniture, fixtures, and equipment; three to five years for software, hardware, and data handling equipment; and 10 to 40 years for buildings and building improvements. Land improvements are amortized over a period of 20 years, and leasehold improvements are amortized over the lesser of the useful life or the term of the lease plus the first optional renewal period, when renewal is reasonably assured. Maintenance and repairs are charged to current operations while improvements that extend the economic useful life of the underlying asset are capitalized. Disposition gains and losses are reflected in current operations.
 
The Company leases various properties within its branch network. Leases generally have initial terms of up to 20 years and most contain options to renew with reasonable increases in rent. All leases are accounted for as operating leases.
 
Other Real Estate Owned
 
Other real estate owned and acquired through foreclosure is stated at the lower of cost or fair value less estimated costs to sell. Loan losses arising from the acquisition of such properties are charged against the allowance for loan losses. Expenses incurred in connection with operating the properties, subsequent writedowns and gains or losses upon sale are included in other noninterest expense.
 
Goodwill and Other Intangible Assets
 
The excess of the cost of an acquired company over the fair value of the net assets and identified intangibles acquired is recorded as goodwill. The net carrying amount of goodwill was $84.65 million and $83.19 million at December 31, 2009 and 2008, respectively. A portion of the purchase price in certain transactions has been allocated to values associated with the future earnings potential of acquired deposits and is being amortized over the estimated lives of the deposits, ranging from four to ten years while the weighted average remaining life of these core deposits is approximately 7.18 years. As of December 31, 2009 and 2008, the balance of core deposit intangibles was $3.49 million and $6.41 million, respectively, while the corresponding accumulated amortization was $4.44 million and $3.79 million, respectively. The net unamortized balance of identified intangibles associated with acquired deposits was $3.50 million and $3.02 million at December 31, 2009 and 2008, respectively. The acquisition of GreenPoint, and its continued acquisitions, added $1.32 million of goodwill for the period ended December 31, 2009. The acquisition of Investment Planning Consultants, Inc. added a total of $490 thousand of goodwill for the period ended December 31, 2009. Annual amortization expense of all intangibles for 2010 and the succeeding four years are approximately $1.02 million, $1.01 million, $824 thousand, $749 thousand, and $727 thousand, respectively.
 
The Company reviews and tests goodwill for potential impairment on an annual basis in October. Goodwill is tested for impairment by comparing the fair value of each segment to its book value (step 1), including goodwill. If the fair value of the segment is greater than its book value, no goodwill impairment exists. However, if the book


58


Table of Contents

 
FIRST COMMUNITY BANCSHARES, INC.
 
NOTES TO CONSOLIDATED STATEMENTS — (Continued)
 
value of the segment is greater than its determined fair value, goodwill impairment may exist and further testing is required to determine the amount, if any, of the actual impairment loss (step 2). The step 1 test utilizes a combination of two methods to determine the fair value of the reporting units. For both segments, a discounted cash flow model uses estimates in the form of growth and attrition rates of return and discount rates to project cash flows from operations of the business segment, the results of which are weighted 70%. For the banking segment, a market multiple model utilizes price to net income and price to tangible book value inputs for closed transactions and for certain common sized institutions and the results are weighted 30%. For the insurance segment, the market multiple model primarily utilizes price to sales for closed transactions and certain similar industry public companies and the results are weighted 30%. The end results for both segments are then compared to the respective book values to consider if impairment is evident. To determine the overall reasonableness of the segment computations, the combined computed fair value is then compared to the overall market capitalization of the consolidated Company to determine the level of implied control premium.
 
The progression of the Company’s goodwill and intangible assets for continuing operations for the three years ended December 31, 2009, is detailed in the following table:
 
                 
          Other
 
    Goodwill     Intangibles  
    (Amounts in thousands)  
 
Balance at December 31, 2006
    60,135       2,061  
Acquisitions
    6,175       2,152  
Amortization
          (467 )
                 
Balance at December 31, 2007
    66,310       3,746  
Acquisitions
    15,990       3,362  
Other Adjustments
    892        
Amortization
          (689 )
                 
Balance at December 31, 2008
    83,192       6,419  
Acquisitions and dispositions, net
    1,456       1,022  
Amortization
          (1,028 )
                 
Balance at December 31, 2009
  $ 84,648     $ 6,413  
                 
 
Other Assets
 
In addition to deferred tax assets, other assets included $40.97 million and $40.78 million in cash surrender value of life insurance and $13.70 million and $13.17 million in FHLBA stock at December 31, 2009 and 2008, respectively.
 
In connection with the bank-owned life insurance, the Company has also entered into Life Insurance Endorsement Method Split Dollar Agreements with certain of the individuals whose lives are insured. Under these agreements, the Company shares 80% of death benefits (after recovery of cash surrender value) with the designated beneficiaries of the plan participants under life insurance contracts. The Company as owner of the policies retains a 20% interest in life proceeds and a 100% interest in the cash surrender value of the policies. Expenses associated with split dollar agreements were $89 thousand and $126 thousand in 2009 and 2008, respectively.
 
Securities Sold Under Agreements to Repurchase
 
Securities sold under agreements to repurchase are generally accounted for as collateralized financing transactions. Securities, generally U.S. government and Federal agency securities, pledged as collateral under


59


Table of Contents

 
FIRST COMMUNITY BANCSHARES, INC.
 
NOTES TO CONSOLIDATED STATEMENTS — (Continued)
 
these arrangements cannot be sold or repledged by the secured party. The fair value of the collateral provided to a third party is continually monitored, and additional collateral is provided as appropriate.
 
Preferred Stock and Participation in the U.S. Treasury Capital Purchase Program
 
On November 21, 2008, the Company issued and sold to the U.S. Department of the Treasury (“Treasury”) (i) 41,500 shares of the Company’s Series A Preferred Stock and (ii) a warrant (the “Warrant”) to purchase 176,546 shares of the Company’s common stock, par value $1.00 per share (the “Common Stock”), for an aggregate purchase price of $41.50 million in cash. On June 5, 2009 the Company completed a public offering of its Common Stock that resulted in the reduction of the shares of Common Stock underlying the Warrant from 176,546 shares to 88,273 shares. On July 8, 2009, the Company repurchased from the Treasury all of the Series A Preferred Stock that it had issued to the Treasury in November 2008. The Company did not repurchase the Warrant.
 
The Warrant has a 10-year term and was immediately exercisable upon its issuance, with an initial per share exercise price of $35.26. Pursuant to the Purchase Agreement, Treasury has agreed not to exercise voting power with respect to any share of Common Stock issued upon exercise of the Warrant. In accordance with the terms of the Purchase Agreement, the Company registered the Warrant and the shares of Common Stock underlying the Warrant with the SEC. The Warrant is not subject to any contractual restrictions on transfer.
 
Loan Interest Income Recognition
 
Accrual of interest on loans is based generally on the daily amount of principal outstanding. Loans are considered past due when either principal or interest payments are delinquent by 30 or more days. It is the Company’s policy to discontinue the accrual of interest on loans based on the payment status and evaluation of the related collateral and the financial strength of the borrower. The accrual of interest income is normally discontinued when a loan becomes 90 days past due as to principal or interest. Management may elect to continue the accrual of interest when the loan is well secured and in process of collection. When interest accruals are discontinued, interest accrued and not collected in the current year is reversed from income and interest accrued and not collected from prior years is charged to the allowance for loan losses. Interest income realized on impaired loans is recognized upon receipt if the impaired loan is on a non-accrual basis. Accrual of interest on non-accrual loans may be resumed if the loan is brought current and follows a period of substantial performance, including six months of regular principal and interest payments. Accrual of interest on impaired loans is generally continued unless the loan becomes delinquent 90 days or more.
 
Loan Fee Income
 
Loan origination and underwriting fees are reduced by direct costs associated with loan processing, including salaries, review of legal documents and obtainment of appraisals. Net origination fees and costs are deferred and amortized over the life of the related loan. Loan commitment fees are deferred and amortized over the related commitment period. Net deferred loan fees were $632 thousand at December 31, 2009, and net deferred costs were $447 thousand at December 31, 2008.
 
Advertising Expenses
 
Advertising costs are generally expensed as incurred. Amounts recognized for the three years ended December 31, 2009, are detailed in Note 16 — Other Operating Expenses of the Notes to Consolidated Financial Statements included in Item 8 hereof.
 
Equity-Based Compensation
 
The cost of employee services received in exchange for equity instruments including options and restricted stock awards generally are measured at fair value at the grant date. The effect of option shares on earnings per share


60


Table of Contents

 
FIRST COMMUNITY BANCSHARES, INC.
 
NOTES TO CONSOLIDATED STATEMENTS — (Continued)
 
relates to the dilutive effect of the underlying options outstanding. To the extent the granted exercise share price is less than the current market price, or “in the money”, there is an economic incentive for the options to be exercised and an increase in the dilutive effect on earnings per share.
 
Income Taxes
 
Income tax expense is comprised of federal and state current and deferred income taxes on pre-tax earnings of the Company. Income taxes as a percentage of pre-tax income may vary significantly from statutory rates due to items of income and expense which are excluded, by law, from the calculation of taxable income. These items are commonly referred to as permanent differences. The most significant permanent differences for the Company include income on state and municipal securities which are exempt from federal income tax, income on bank-owned life insurance, and tax credits generated by investments in low income housing and rehabilitation of historic structures.
 
The Company includes interest and penalties related to income tax liabilities in income tax expense. The Company and its subsidiaries’ tax filings for the years ended December 31, 2005 through 2008 are currently open to audit under statutes of limitation by the Internal Revenue Service and various state tax departments.
 
Deferred tax assets and liabilities are recognized for the estimated future tax consequences attributable to differences between the tax bases of assets and liabilities and their carrying amounts for financial reporting purposes. Deferred tax assets and liabilities are measured using enacted tax rates in effect for the year in which the temporary differences are expected to be recovered or settled. Deferred tax assets are reduced by a valuation allowance if it is more likely than not that the tax benefits will not be realized.
 
Earnings Per Share
 
Basic earnings per share are determined by dividing net income available to common shareholders by the weighted average number of shares outstanding. Diluted earnings per share are determined by dividing net income available to common shareholders by the weighted average shares outstanding, which includes the dilutive effect of stock options, warrants and contingently issuable shares. The dilutive effects of stock options, warrants, and contingently issuable shares are not considered for the year ended December 31, 2009, because of the reported net loss available to common shareholders. Basic and diluted net income per common share calculations follow:
 
                         
    For the Year Ended December 31,  
    2009     2008     2007  
(Amounts in thousands, except share and per share data)   (Restated)     (Restated)
 
Net (loss) income available to common shareholders
  $ (40,856 )   $ 1,699     $ 29,632  
Weighted average shares outstanding
    14,868,547       11,058,076       11,204,676  
Dilutive shares for stock options
          53,680       65,320  
Contingently issuable shares
          22,269       22,875  
Common stock warrants
                 
                         
Weighted average dilutive shares outstanding
    14,868,547       11,134,025       11,292,871  
                         
Basic earnings per share
  $ (2.75 )   $ 0.15     $ 2.64  
Diluted earnings per share
  $ (2.75 )   $ 0.15     $ 2.62  
 
For the years ended December 31, 2009, 2008 and 2007, options and warrants to purchase 488,689, 206,996, and 10,000 shares, respectively, of common stock were outstanding but were not included in the computation of diluted earnings per common share because the exercise price was greater than the market price of the Company’s common stock or the Company incurred losses; accordingly, they would have an anti-dilutive effect.


61


Table of Contents

 
FIRST COMMUNITY BANCSHARES, INC.
 
NOTES TO CONSOLIDATED STATEMENTS — (Continued)
 
Variable Interest Entities
 
The Company maintains ownership positions in various entities which it deems variable interest entities (“VIE’s”). These VIE’s include certain tax credit limited partnerships and other limited liability companies which provide aviation services, insurance brokerage, title insurance and other financial and related services. Based on the Company’s analysis, it is a non- primary beneficiary; accordingly, these entities do not meet the criteria for consolidation. The carrying value of VIE’s was $1.81 million and $1.50 million at December 31, 2009 and 2008, respectively. The Company’s maximum possible loss exposure was $1.62 million and $1.51 million at December 31, 2009 and 2008, respectively. Management does not believe net losses, if any, resulting from its involvement with the entities discussed above will be material.
 
Derivative Instruments
 
The Company enters into derivative transactions principally to protect against the risk of adverse price or interest rate movements on the value of certain assets and liabilities and on future cash flows. In addition, certain contracts and commitments are defined as derivatives under generally accepted accounting principles.
 
All derivative instruments are carried at fair value on the balance sheet. Special hedge accounting provisions are provided, which permit the change in the fair value of the hedged item related to the risk being hedged to be recognized in earnings in the same period and in the same income statement line as the change in the fair value of the derivative.
 
Derivative instruments designated in a hedge relationship to mitigate exposure to changes in the fair value of an asset, liability, or firm commitment attributable to a particular risk, such as interest rate risk, are considered fair value hedges. Derivative instruments designated in a hedge relationship to mitigate exposure to variability in expected future cash flows, or other types of forecasted transactions, are considered cash flow hedges. The Company formally documents all relationships between hedging instruments and hedged items, as well as its risk management objective and strategy for undertaking each hedged transaction.
 
Other Recent Accounting Developments
 
FASB ASC Topic 320, Investments — Debt and Equity Securities.  New authoritative accounting guidance under ASC Topic 320, “Investments — Debt and Equity Securities,” (i) changes existing guidance for determining whether an impairment is other than temporary to debt securities and (ii) replaces the existing requirement that the entity’s management assert it has both the intent and ability to hold an impaired security until recovery with a requirement that management assert: (a) it does not have the intent to sell the security; and (b) it is more likely than not it will not have to sell the security before recovery of its cost basis. Under ASC Topic 320, declines in the fair value of held-to-maturity and available-for-sale debt securities below their cost that are deemed to be other than temporary are reflected in earnings as realized losses to the extent the impairment is related to credit losses. The amount of the impairment related to other factors is recognized in other comprehensive income. The Company adopted the provisions of the new authoritative accounting guidance under ASC Topic 320 during the first quarter of 2009, and recorded a cumulative effect adjustment between retained earnings and accumulated other comprehensive loss of $6.13 million.
 
FASB ASC Topic 805, Business Combinations.  On January 1, 2009, new authoritative accounting guidance under ASC Topic 805, “Business Combinations,” became applicable to the Company’s accounting for business combinations closing on or after January 1, 2009. ASC Topic 805 applies to all transactions and other events in which one entity obtains control over one or more other businesses. ASC Topic 805 requires an acquirer, upon initially obtaining control of another entity, to recognize the assets, liabilities and any non-controlling interest in the acquiree at fair value as of the acquisition date. Contingent consideration is required to be recognized and measured at fair value on the date of acquisition rather than at a later date when the amount of that consideration may be determinable beyond a reasonable doubt. This fair value approach replaces the cost allocation process required


62


Table of Contents

 
FIRST COMMUNITY BANCSHARES, INC.
 
NOTES TO CONSOLIDATED STATEMENTS — (Continued)
 
under previous accounting guidance whereby the cost of an acquisition was allocated to the individual assets acquired and liabilities assumed based on their estimated fair value. ASC Topic 805 requires acquirers to expense acquisition related costs as incurred rather than allocating such costs to the assets acquired and liabilities assumed, as was previously the case under prior accounting guidance. Assets acquired and liabilities assumed in a business combination that arise from contingencies are to be recognized at fair value if fair value can be reasonably estimated. Pre-acquisition contingencies are to be recognized at fair value, unless it is a non-contractual contingency that is not likely to materialize, in which case, nothing should be recognized in purchase accounting and, instead, that contingency would be subject to the probable and estimable recognition criteria of ASC Topic 450, “Contingencies.” The Company recorded the acquisition of TriStone Community Bank in accordance with the new accounting guidance and recognized a gain of $4.49 million. In accordance with the new accounting guidance, the Company did not record an allowance for loan losses in connection with the TriStone acquisition. The loans acquired were accounted for at fair value; therefore, no allowance was allowed to be recorded at acquisition.
 
FASB ASC Topic 810, Consolidation.  New authoritative accounting guidance under ASC Topic 810 amends prior guidance to change how a company determines when an entity that is insufficiently capitalized or is not controlled through voting (or similar rights) should be consolidated. The determination of whether a company is required to consolidate an entity is based on, among other things, an entity’s purpose and design and a company’s ability to direct the activities of the entity that most significantly impact the entity’s economic performance. The new authoritative accounting guidance requires additional disclosures about the reporting entity’s involvement with variable interest entities and any significant changes in risk exposure due to that involvement as well as its affect on the entity’s financial statements. The new authoritative accounting guidance under ASC Topic 810 is effective for the Company January 1, 2010, and is not expected to have a significant impact on the Company’s financial statements.
 
FASB ASC Topic 815, Derivatives and Hedging.  New authoritative accounting guidance under ASC Topic 815, “Derivatives and Hedging,” amends prior guidance to amend and expand the disclosure requirements for derivatives and hedging activities to provide greater transparency about (i) how and why an entity uses derivative instruments, (ii) how derivative instruments and related hedged items are accounted for under ASC Topic 815, and (iii) how derivative instruments and related hedged items affect an entity’s financial position, results of operations and cash flows. To meet those objectives, the new authoritative accounting guidance requires qualitative disclosures about objectives and strategies for using derivatives, quantitative disclosures about fair value amounts of gains and losses on derivative instruments and disclosures about credit risk related contingent features in derivative agreements. The new authoritative accounting guidance under ASC Topic 815 became effective for the Company on January 1, 2009, and the required disclosures are reported in Note 14 — Derivative Instruments and Hedging Activities of the Notes to Consolidated Financial Statements included in Item 8 hereof .
 
FASB ASC Topic 820, Fair Value Measurements and Disclosures.  ASC Topic 820, “Fair Value Measurements and Disclosures,” defines fair value, establishes a framework for measuring fair value in generally accepted accounting principles, and expands disclosures about fair value measurements. The provisions of ASC Topic 820 became effective for the Company on January 1, 2008, for financial assets and financial liabilities and on January 1, 2009, for non-financial assets and non-financial liabilities. See Note 17 — Fair Value of the Notes to Consolidated Financial Statements included in Item 8 hereof.
 
Additional new authoritative accounting guidance under ASC Topic 820 affirms that the objective of fair value when the market for an asset is not active is the price that would be received to sell the asset in an orderly transaction, and clarifies and includes additional factors for determining whether there has been a significant decrease in market activity for an asset when the market for that asset is not active. ASC Topic 820 requires an entity to base its conclusion about whether a transaction was not orderly on the weight of the evidence. The new accounting guidance amended prior guidance to expand certain disclosure requirements. The Company adopted the new authoritative accounting guidance under ASC Topic 820 during the first quarter of 2009. Adoption of the new guidance did not significantly impact the Company’s financial statements.


63


Table of Contents

 
FIRST COMMUNITY BANCSHARES, INC.
 
NOTES TO CONSOLIDATED STATEMENTS — (Continued)
 
FASB ASC Topic 855, Subsequent Events.  New authoritative accounting guidance under ASC Topic 855, “Subsequent Events,” as amended, establishes general standards of accounting for and disclosure of events that occur after the balance sheet date but before financial statements are issued or available to be issued. ASC Topic 855 defines (i) the period after the balance sheet date during which a reporting entity’s management should evaluate events or transactions that may occur for potential recognition or disclosure in the financial statements, (ii) the circumstances under which an entity should recognize events or transactions occurring after the balance sheet date in its financial statements, and (iii) the disclosures an entity should make about events or transactions that occurred after the balance sheet date. The new authoritative accounting guidance under ASC Topic 855 became effective for the Company’s financial statements for periods ending after June 15, 2009, and did not have a significant impact on the Company’s financial statements.
 
FASB ASC Topic 860, Transfers and Servicing.  New authoritative accounting guidance under ASC Topic 860, “Transfers and Servicing,” amends prior accounting guidance to enhance reporting about transfers of financial assets, including securitizations, and where companies have continuing exposure to the risks related to transferred financial assets. The new authoritative accounting guidance eliminates the concept of a “qualifying special purpose entity” and changes the requirements for derecognizing financial assets. The new authoritative accounting guidance also requires additional disclosures about all continuing involvements with transferred financial assets including information about gains and losses resulting from transfers during the period. The new authoritative accounting guidance under ASC Topic 860 will be effective January 1, 2010, and is not expected to have a significant impact on the Company’s financial statements.
Note 2. Restatement of Consolidated Financial Statements
 
As a result of a routine internal audit, the Company determined there was a computational error in the model that it uses to calculate the quantitative basis for its allowance for loan losses. In connection with its determination of the appropriate loan loss reserve at December 31, 2008, the Company made certain modifications to its loan loss reserve model with respect to a $130.76 million pool of loans. However, in calculating the loan loss reserves for this pool of loans, the historical quarterly net charge-off rates were not annualized as was the case with all other quarterly loss rates in the model. The Company has corrected the computational error in its model for calculating the allowance for loan losses. Based on the Company’s modeling using the corrected computations, the Company, in consultation with the Audit Committee of its Board of Directors, determined that the amount of the allowance for loan losses should be increased by an aggregate of $2.55 million for the period beginning December 31, 2008 and ending March 31, 2010.
 
In this Annual Report on Form 10-K/A, the Company is restating its consolidated balance sheet, statements of income, statements of cash flows and statement of changes in stockholders’ equity at and for the years ended December 31, 2009. The Company restated its consolidated balance sheet, statements of income, statement of cash flows and statement of changes in stockholders’ equity at and for the year ended December 31, 2008 in an amendment to the Annual Report on Form 10-K for the year ended December 31, 2008, which has been filed with the SEC. For ease of reference, the effects of the restatement on the financial statements for the year ended December 31, 2008 is provided below in this Note 2.
 
The effects of the restatement by line item for the periods presented in this Annual Report on Form 10-K/A follow.
                                                 
    Impact on Consolidated
    Balance Sheets
    December 31, 2009   December 31, 2008
    As Previously           Effect of   As Previously           Effect of
(Amounts in Thousands)   Reported   As Restated   Change   Reported   As Restated   Change
Allowance for loan losses
  $ 21,725     $ 24,277     $ 2,552     $ 15,978     $ 17,782     $ 1,804  
Net loans held for investment
    1,372,206       1,369,654       (2,552 )     1,282,181       1,280,377       (1,804 )
Other assets
    135,049       136,006       957       118,231       118,908       677  
Total assets
    2,274,878       2,273,283       (1,595 )     2,133,314       2,132,187       (1,127 )
Retained earnings
    68,355       66,760       (1,595 )     107,231       106,104       (1,127 )
Total stockholders’ equity
    253,862       252,267       (1,595 )     220,342       219,215       (1,127 )
                                                 
    Impact on Consolidated
    Statements of Income
    Year Ended December 31, 2009   Year Ended December 31, 2008
    As Previously           Effect of   As Previously           Effect of
(Amounts in Thousands, except per share data)   Reported   As Restated   Change   Reported   As Restated   Change
Provision for loan losses
  $ 15,053     $ 15,801     $ 748     $ 7,422     $ 9,226     $ 1,804  
Net interest income after provision for loan losses
    54,199       53,451       (748 )     58,413       56,609       (1,804 )
 
Income (loss) before income taxes
    (66,102 )     (66,850 )     (748 )     271       (1,533 )     (1,804 )
Income tax expense (benefit)
    (27,874 )     (28,154 )     (280 )     (2,810 )     (3,487 )     (677 )
 
Net income (loss)
    (38,228 )     (38,696 )     (468 )     3,081       1,954       (1,127 )
Net income (loss) to common shareholders
    (40,388 )     (40,856 )     (468 )     2,826       1,699       (1,127 )
 
Net income (loss) share
                                               
Basic
  $ (2.72 )   $ (2.75 )   $ (0.03 )   $ 0.26     $ 0.15     $ (0.11 )
Diluted
  $ (2.72 )   $ (2.75 )   $ (0.03 )   $ 0.25     $ 0.15     $ (0.10 )
                                                 
    Impact on Consolidated
    Statements of Cash Flows
    Year Ended December 31, 2009   Year Ended December 31, 2008
    As Previously           Effect of   As Previously           Effect of
(Amounts in Thousands)   Reported   As Restated   Change   Reported   As Restated   Change
Operating Activities:
                                               
Net income (loss)
  $ (38,228 )   $ (38,696 )   $ (468 )   $ 3,081     $ 1,954     $ (1,127 )
Provision for loan losses
    15,053       15,801       748       7,422       9,226       1,804  
Deferred income tax benefit
    (18,586 )     (18,866 )     (280 )     (12,647 )     (13,324 )     (677 )
                                                 
    Impact on Consolidated
    Statements of
    Changes in Stockholders’ Equity
    Year Ended December 31, 2009   Year Ended December 31, 2008
    As Previously           Effect of   As Previously           Effect of
(Amounts in Thousands)   Reported   As Restated   Change   Reported   As Restated   Change
Total retained earnings, January 1
  $ 107,231     $ 106,104     $ (1,127 )   $ 117,670     $ 117,670     $  
Net income (loss)
    (38,228 )     (38,696 )     (468 )     3,081       1,954       (1,127 )
Total retained earnings, December 31
    68,355       66,760       (1,595 )     107,231       106,104       (1,127 )
 
Note 3.   Merger, Acquisitions and Branching Activity
 
In July 2009, the Company acquired TriStone Community Bank (“TriStone”), based in Winston-Salem, North Carolina. TriStone had two full service locations in Winston-Salem, North Carolina. At acquisition, TriStone had total assets of $166.82 million, total loans of $132.23 million and total deposits of $142.27 million. Shares of TriStone were exchanged for .5262 shares of the Company’s common stock and the overall acquisition cost was approximately $10.78 million. The acquisition of TriStone significantly augmented the Company’s market presence and human resources in the Winston-Salem, North Carolina region. The Company recorded a $4.49 million gain on the acquisition of TriStone.
 
The TriStone merger is being accounted for under the acquisition method of accounting. The statement of net assets acquired as of July 31, 2009 is presented in the following table. The purchased assets and assumed fair value of liabilities were recorded at their respective acquisition date fair values, and identifiable intangible assets were recorded at fair value. Fair values are preliminary and subject to refinement for up to one year after the closing date of the merger as information relative to closing date fair value becomes available. After the initial valuation was completed, the Company reassessed the recognition and measurement of identifiable assets acquired and liabilities assumed and concluded that all assets acquired and assumed liabilities were recognized and that the valuation procedures and resulting measures were appropriate. As a result, the Company recognized a preliminary gain on the acquisition of $4.49 million. Goodwill and bargain purchase gains created in business combinations are generally not taxable. For the year ended December 31, 2009, the Company incurred expenses related to the merger of $1.73 million.
 
Revenue of $3.66 million and net income of $1.75 million for the period of August 1, 2009 to December 31, 2009 included in the consolidated financial statements is related to the newly acquired TriStone. TriStone’s results of operations prior to the acquisition are not included in the Company’s statements of income.


64


Table of Contents

 
FIRST COMMUNITY BANCSHARES, INC.
 
NOTES TO CONSOLIDATED STATEMENTS — (Continued)
 
Acquisition of TriStone Community Bank
 
         
    (In thousands)  
 
Consideration:
       
Common Stock — 741,588 shares
  $ 10,082  
Cash paid for dissenting shares
    649  
Cash in lieu of fractional shares
    4  
Option consideration
    42  
         
Fair value of total consideration paid
  $ 10,777  
         
Recognized amounts of assets acquired and liabilities assumed:
       
Cash and cash equivalents
  $ 21,948  
Investments
    8,656  
Loans, net
    130,808  
Premises and equipment, net
    2,112  
Other assets
    1,624  
         
Identifiable assets
    165,148  
Deposits
    141,833  
Other liabilities, primarily FHLB advances
    8,045  
         
Identifiable liabilities
    149,878  
Identifiable net assets
    15,270  
         
Gain on purchase
  $ (4,493 )
         
 
The pro forma consolidated condensed statements of income for the Company and TriStone for the years ended December 31, 2009 and 2008 are presented below as if the combination had occurred on January 1. The unaudited pro forma information presented does not necessarily reflect the results of operations that would have resulted had the acquisition been completed at the beginning of the applicable periods presented, nor does it indicate the results of operations in future periods.
 
The pro forma purchase accounting adjustments related to investments, loans and leases, deposits, and other borrowed funds are being accreted or amortized into income using methods that approximate a level yield over their respective estimated lives. Purchase accounting adjustments related to identifiable intangibles, which totaled $1.31 million, are being amortized and recorded as noninterest expense over their respective estimated lives using accelerated methods. The pro forma consolidated condensed statements of income do not reflect any adjustments to TriStone’s historical provision for credit losses. The pro forma results are not necessarily indicative of what actually would have occurred if the acquisition had been completed as of the beginning of each fiscal period presented, nor are they necessarily indicative of future consolidated results.
 


65


Table of Contents

 
FIRST COMMUNITY BANCSHARES, INC.
 
NOTES TO CONSOLIDATED STATEMENTS — (Continued)
 
                                 
    2009  
    First
          Pro Forma
    Pro Forma
 
    Community     TriStone     Adjustments     Combined  
    (Restated)     (Dollars in thousands)     (Restated)  
 
Interest Income
  $ 104,459     $ 7,527     $ 265     $ 112,251  
Interest Expense
    37,760       3,214       (427 )     40,547  
                                 
Net interest income
    66,699       4,313       692       71,704  
Provision for loan losses
    15,801       175             15,976  
                                 
Net interest income after provision for loan losses
    50,898       4,138       692       55,728  
Noninterest Income
    (58,237 )     992       4,493       (52,752 )
Noninterest Expense
    64,004       4,177       1,726       69,907  
                                 
Income (loss) before income taxes
    (71,343 )     953       3,459       (66,931 )
Income tax expense (benefit)
    (28,288 )           1,133       (27,155 )
                                 
Net income (loss)
    (43,055 )     953       2,326       (39,776 )
Dividends on preferred stock
    2,160                   2,160  
                                 
Net income (loss) available to common shareholders
  $ (45,215 )   $ 953     $ 2,326     $ (41,936 )
                                 
 
                                 
    2008  
    First
          Pro Forma
    Pro Forma
 
    Community     TriStone     Adjustments     Combined  
    (Restated)     (Dollars in thousands)     (Restated)  
 
Interest Income
  $ 110,765     $ 7,633     $ 265     $ 118,663  
Interest Expense
    44,930       3,882       (427 )     48,385  
                                 
Net interest income
    65,835       3,751       692       70,278  
Provision for loan losses
    9,226       687             9,913  
                                 
Net interest income after provision for loan losses
    56,609       3,064       692       60,365  
Noninterest Income
    2,374       680       4,493       7,547  
Noninterest Expense
    60,516       3,993       1,726       66,235  
                                 
Income (loss) before income taxes
    (1,553 )     (249 )     3,459       1,677  
Income tax expense (benefit)
    (3,487 )           1,133       (2,354 )
                                 
Net income (loss)
    1,954       (249 )     2,326       4,031  
Dividends on preferred stock
    255                   255  
                                 
Net income (loss) available to common shareholders
  $ 1,699     $ (249 )   $ 2,326     $ 3,776  
                                 
 
In November 2008, the Company acquired Coddle Creek Financial Corp. (“Coddle Creek”), headquartered in Mooresville, North Carolina. Coddle Creek had three full service branch offices located in Mooresville, Cornelius, and Huntersville, North Carolina. At acquisition, Coddle Creek had total assets of $158.66 million, total loans of $136.99 million and total deposits of $137.06 million. Under the terms of the merger agreement, shares of Coddle Creek common stock were exchanged for .9046 shares of the Company’s common stock and $19.60 in cash. The total deal value, including the cash-out of outstanding stock options, was approximately $32.29 million. Concurrent

66


Table of Contents

 
FIRST COMMUNITY BANCSHARES, INC.
 
NOTES TO CONSOLIDATED STATEMENTS — (Continued)
 
with the Coddle Creek acquisition, Mooresville Savings Bank, Inc., SSB, the wholly-owned subsidiary of Coddle Creek, was merged into the First Community Bank, N. A. (the “Bank”), the wholly-owned subsidiary of the Company. As a result of the acquisition and preliminary purchase price allocation, approximately $14.41 million in goodwill was recorded which represents the excess of the purchase price over the fair market value of the net assets acquired and identified intangibles.
 
In September 2007, the Company acquired GreenPoint Insurance Group (“GreenPoint”), an insurance agency located in High Point, North Carolina. In connection with the acquisition, the Company has issued an aggregate of 78,824 shares to the former shareholders of GreenPoint. Under the terms of the stock purchase agreement, former shareholders of GreenPoint are entitled to additional consideration aggregating up to $906 thousand in the form of cash or the Company’s common stock, valued at the time of issuance, if certain future operating performance targets are met. If those operating targets are met, the value of the consideration ultimately paid will be added to the cost of the acquisition, which will increase the amount of goodwill related to the acquisition. The acquisition of GreenPoint has added $11.01 million of goodwill and intangibles to the Company’s balance sheet, net of amortization of $10.57 million.
 
GreenPoint has acquired six insurance agencies and sold one since its acquisition by the Company. GreenPoint issued aggregate cash consideration of approximately $803 thousand and $2.04 million in 2009 and 2008, respectively, in connection with those acquisitions. Acquisition terms in all instances call for issuing further aggregate cash consideration of $3.5 million if certain operating performance targets are met. If those targets are met, the value of the consideration ultimately paid will be added to the cost of the acquisitions. GreenPoint’s 2009 and 2008 acquisitions added approximately $803 thousand and $2.04 million, respectively, of goodwill and intangibles to the Company’s balance sheet.
 
The following table summarizes the net cash provided by or used in acquisitions and divestitures during the three years ended December 31, 2009.
 
                         
    2009     2008     2007  
    (Amounts in thousands)  
 
Fair value of investments acquired
  $ 7,837     $ 1,269     $  
Fair value of loans acquired
    129,937       136,035        
Fair value of premises and equipment acquired
    1,797       4,505        
Fair value of other assets
    26,746       23,872       382  
Fair value of deposits assumed
    (142,697 )     (137,606 )      
Fair value of other liabilities assumed
    (9,008 )     (4,967 )     (1,167 )
Purchase price (lesser than) in excess of net assets acquired
    (3,037 )     15,991       7,838  
                         
Total purchase price
    11,575       39,099       7,053  
Less non-cash purchase price
    11,579       19,647       1,658  
Less cash acquired
    21,295       14,792       32  
                         
Net cash (received) paid for acquisition
  $ (21,299 )   $ 4,660     $ 5,363  
                         
Book value of assets sold
  $ (110 )   $     $  
Book value of liabilities sold
                 
Sales price in excess of net liabilities assumed
    (340 )            
                         
Total sales price
    (450 )            
Add cash on hand sold
                 
Less amount due remaining on books
                 
                         
Net cash paid (received) for divestiture
  $ (450 )   $     $  
                         


67


Table of Contents

 
FIRST COMMUNITY BANCSHARES, INC.
 
NOTES TO CONSOLIDATED STATEMENTS — (Continued)
 
 
Note 4.   Investment Securities
 
The amortized cost and estimated fair value of securities, with gross unrealized gains and losses, classified as available-for-sale are as follows:
 
                                         
    December 31, 2009  
    Amortized
    Unrealized
    Unrealized
    Fair
    OTTI in
 
    Cost     Gains     Losses     Value     AOCI  
    (Amounts in thousands)  
 
U.S. Government agency securities
  $ 25,421     $ 10     $ (155 )   $ 25,276     $  
States and political subdivisions
    133,185       3,309       (893 )     135,601        
Trust preferred securities:
                                       
Single Issue
    55,624             (14,514 )     41,110        
Pooled
    1,648                   1,648        
                                         
Total trust preferred securities
    57,272             (14,514 )     42,758        
Mortgage-backed securities:
                                       
Agency
    260,220       5,399       (1,401 )     264,218        
Non-Agency prime residential
    5,743             (573 )     5,170        
Non-Agency Alt-A residential
    20,968             (9,667 )     11,301       (9,667 )
                                         
Total mortgage-backed securities
    286,931       5,399       (11,641 )     280,689       (9,667 )
Equities
    1,717       207       (191 )     1,733        
                                         
Total
  $ 504,526     $ 8,925     $ (27,394 )   $ 486,057     $ (9,667 )
                                         
 
                                 
    December 31, 2008  
    Amortized
    Unrealized
    Unrealized
    Fair
 
    Cost     Gains     Losses     Value  
    (Amounts in thousands)  
 
U.S. Government agency securities
  $ 53,425     $ 1,393     $     $ 54,818  
States and political subdivisions
    163,042       864       (4,487 )     159,419  
Trust preferred securities:
                               
Single Issue
    55,491             (21,950 )     33,541  
Pooled
    93,269             (60,757 )     32,512  
                                 
Total trust preferred securities
    148,760             (82,707 )     66,053  
Mortgage-backed securities:
                               
Agency
    212,315       4,649       (2 )     216,962  
Non-Agency prime residential
    7,423             (1,657 )     5,766  
Non-Agency Alt-A residential
    10,750                   10,750  
                                 
Total mortgage-backed securities
    230,488       4,649       (1,659 )     233,478  
Equities
    7,979       357       (1,381 )     6,955  
                                 
Total
  $ 603,694     $ 7,263     $ (90,234 )   $ 520,723  
                                 
 
The amortized cost and estimated fair value of available-for-sale securities by contractual maturity, at December 31, 2009, are shown below. Expected maturities may differ from contractual maturities because issuers may have the right to call or prepay obligations with or without call or prepayment penalties.
 


68


Table of Contents

 
FIRST COMMUNITY BANCSHARES, INC.
 
NOTES TO CONSOLIDATED STATEMENTS — (Continued)
 
                                         
    U.S.
    States
                Tax
 
    Government
    and
                Equivalent
 
    Agencies &
    Political
    Corporate
          Purchase
 
Available For Sale
  Corporations     Subdivisions     Notes     Total     Yield  
    (Dollars in thousands)  
 
Amortized Cost Maturity:
                                       
Within one year
  $     $ 627     $     $ 627       5.87 %
After one year through five years
    994       8,402             9,396       5.69 %
After five years through ten years
          67,410             67,410       6.05 %
After ten years
    24,427       56,746       57,272       138,445       4.14 %
                                         
Amortized cost
  $ 25,421     $ 133,185     $ 57,272       215,878          
                                         
Mortgage-backed securities
                            286,931       4.78 %
Equity securities
                            1,717          
                                         
Total Amortized cost
                          $ 504,526          
                                         
Tax equivalent purchase yield
    5.45 %     6.24 %     1.19 %     4.81 %        
Average contractual maturity (in years)
    11.32       9.80       18.10       12.18          
Fair Value Maturity:
                                       
Within one year
  $     $ 630     $     $ 630          
After one year through five years
    1,004       8,656             9,660          
After five years through ten years
          69,662             69,662          
After ten years
    24,272       56,653       42,758       123,683          
                                         
Fair Value
  $ 25,276     $ 135,601     $ 42,758       203,635          
                                         
Mortgage-backed securities
                            280,689          
Equity securities
                            1,733          
                                         
Total Fair Value
                          $ 486,057          
                                         
 
The amortized cost and estimated fair value of securities, with gross unrealized gains and losses, classified as held-to-maturity are as follows:
 
                                 
    December 31, 2009  
    Amortized
    Unrealized
    Unrealized
    Fair
 
    Cost     Gains     Losses     Value  
          (Amounts in thousands)        
 
States and political subdivisions
  $ 7,454     $ 125     $     $ 7,579  
                                 
Total
  $ 7,454     $ 125     $     $ 7,579  
                                 
 
                                 
    December 31, 2008  
    Amortized
    Unrealized
    Unrealized
    Fair
 
    Cost     Gains     Losses     Value  
    (Amounts in thousands)  
 
States and political subdivisions
  $ 8,670     $ 133     $ (1 )   $ 8,802  
                                 
Total
  $ 8,670     $ 133     $ (1 )   $ 8,802  
                                 
 
The amortized cost and estimated fair value of securities by contractual maturity, at December 31, 2009, are shown below. Expected maturities may differ from contractual maturities because issuers may have the right to call or prepay obligations with or without call or prepayment penalties.

69


Table of Contents

 
FIRST COMMUNITY BANCSHARES, INC.
 
NOTES TO CONSOLIDATED STATEMENTS — (Continued)
 
                 
    States
    Tax
 
    and
    Equivalent
 
    Political
    Purchase
 
Held-to-Maturity
  Subdivisions     Yield  
    (Dollars in thousands)  
 
Amortized Cost Maturity:
               
Within one year
  $ 1,091       7.61 %
After one year through five years
    4,227       8.25 %
After five years through ten years
    2,136       8.19 %
After ten years
             
                 
Total amortized cost
  $ 7,454          
                 
Tax equivalent purchase yield
    8.14 %        
Average contractual maturity (in years)
    3.40          
Fair Value Maturity:
               
Within one year
  $ 1,103          
After one year through five years
    4,303          
After five years through ten years
    2,173          
After ten years
             
                 
Total fair value
  $ 7,579          
                 
 
The carrying value of securities pledged to secure public deposits and for other purposes required by law were $354.92 million and $377.56 million at December 31, 2009 and 2008, respectively.
 
In 2009, net losses on the sale of securities were $11.67 million. Gross gains were $4.11 million while gross losses were $15.78 million. In 2008, net gains on the sale of securities were $1.90 million. Gross gains were $2.84 million while gross losses were $938 thousand. In 2007, net gains on the sale of securities were $411 thousand. Gross gains were $540 thousand while gross losses were $128 thousand.
 
The following tables reflect those investments, both available-for-sale and held-to-maturity, in a continuous unrealized loss position for less than 12 months and for 12 months or longer at December 31, 2009 and 2008. There were 70 securities in a continuous unrealized loss position for 12 or more months for which the Company does not


70


Table of Contents

 
FIRST COMMUNITY BANCSHARES, INC.
 
NOTES TO CONSOLIDATED STATEMENTS — (Continued)
 
intend to sell any of these securities in a loss position and has determined that it is more likely than not going to be required to sell at December 31, 2009, until the security matures or recovers in value.
 
                                                 
    December 31, 2009  
    Less than 12 Months     12 Months or Longer     Total  
    Fair
    Unrealized
    Fair
    Unrealized
    Fair
    Unrealized
 
Description of Securities
  Value     Losses     Value     Losses     Value     Losses  
    (Amounts in thousands)  
 
U.S. Government agency securities
  $ 23,271     $ (155 )   $     $     $ 23,271     $ (155 )
States and political subdivisions
    13,864       (270 )     16,285       (623 )     30,149       (893 )
Trust preferred securities:
                                               
Single Issue
                41,111       (14,514 )     41,111       (14,514 )
Mortgage-backed securities:
                                               
Agency
    83,491       (1,400 )     34       (1 )     83,525       (1,401 )
Prime residential
                5,169       (573 )     5,169       (573 )
Alt-A residential
    11,301       (9,667 )                 11,301       (9,667 )
                                                 
Total mortgage-backed securities
    94,792       (11,067 )     5,203       (574 )     99,995       (11,641 )
Equity securities
    86       (60 )     731       (131 )     817       (191 )
                                                 
Total
  $ 132,013     $ (11,552 )   $ 63,330     $ (15,842 )   $ 195,343     $ (27,394 )
                                                 
 
                                                 
    December 31, 2008  
    Less than 12 Months     12 Months or Longer     Total  
    Fair
    Unrealized
    Fair
    Unrealized
    Fair
    Unrealized
 
Description of Securities
  Value     Losses     Value     Losses     Value     Losses  
    (Amounts in thousands)  
 
States and political subdivisions
  $ 85,374     $ (2,948 )   $ 16,413     $ (1,539 )   $ 101,787     $ (4,487 )
Trust preferred securities:
                                               
Single Issue
                30,693       (21,950 )     30,693       (21,950 )
Pooled
                29,567       (60,757 )     29,567       (60,757 )
                                                 
Total trust preferred securities
                60,260       (82,707 )     60,260       (82,707 )
Mortgage-backed securities:
                                               
Agency
    42,674       (1 )     43       (1 )     42,717       (2 )
Prime residential
    5,766       (1,657 )                 5,766       (1,657 )
                                                 
Total mortgage-backed securities
    48,440       (1,658 )     43       (1 )     48,483       (1,659 )
Equity securities
    2,167       (1,161 )     2,201       (220 )     4,368       (1,381 )
                                                 
Total
  $ 135,981     $ (5,767 )   $ 78,917     $ (84,467 )   $ 214,898     $ (90,234 )
                                                 
 
At December 31, 2009, the combined depreciation in value of the 89 individual securities in an unrealized loss position was approximately 5.64% of the combined reported value of the aggregate securities portfolio. At December 31, 2008, the combined depreciation in value of the 310 individual securities in an unrealized loss position was approximately 17.04% of the combined reported value of the aggregate securities portfolio.
 
The Company reviews its investment portfolio on a quarterly basis for indications of other-than-temporary impairment (“OTTI”). The analysis differs depending upon the type of investment security being analyzed. For debt securities the Company has determined that, except for pooled trust preferred securities, it does not intend to sell securities that are impaired and has asserted that it is not more likely than not that it will have to sell impaired securities before recovery of the impairment occurs. The Company’s assertion is based upon its investment strategy for the particular type of security and the Company’s cash flow needs, liquidity position, capital adequacy and interest rate risk position.


71


Table of Contents

 
FIRST COMMUNITY BANCSHARES, INC.
 
NOTES TO CONSOLIDATED STATEMENTS — (Continued)
 
For non-beneficial interest debt securities, the Company analyzes several qualitative factors such as the severity and duration of the impairment, adverse conditions within the issuing industry, prospects for the issuer, performance of the security, changes in rating by rating agencies and other qualitative factors to determine if the impairment will be recovered. If it is determined that there is evidence that the impairment will not be recovered, the Company performs a present value calculation to determine the amount of credit related impairment and records any credit-related OTTI through earnings and the non-credit related OTTI through other comprehensive income (“OCI”). During the years ended December 31, 2009 and 2008, no OTTI charges were incurred related to non-beneficial interest debt securities. The temporary impairment on these securities is primarily related to changes in interest rates, certain disruptions in the credit markets, and other current economic factors.
 
For beneficial interest debt securities, the Company reviews cash flow analyses on each applicable security to determine if an adverse change in cash flows expected to be collected has occurred. An adverse change in cash flows expected to be collected has occurred if the present value of cash flows previously projected is greater than the present value of cash flows projected at the current reporting date and less than the current book value. If an adverse change in cash flows is deemed to have occurred, then an OTTI has occurred. The Company then compares the present value of cash flows using the current yield for the current reporting period to the reference amount, or current net book value, to determine the credit-related OTTI. The credit-related OTTI is then recorded through earnings and the non-credit related OTTI is accounted for in OCI.
 
During the years ended December 31, 2009 and 2008, the Company incurred credit-related OTTI charges related to beneficial interest debt securities of $77.59 million and $29.92 million, respectively. For the beneficial interest debt securities not deemed to have incurred an OTTI, the Company has concluded that the primary difference in the fair value of the securities and credit impairment evident in their cash flow models is the significantly higher rate of return demanded by market participants in an illiquid and inactive market as compared to the rate of return received when the Company purchased the securities in a normally functioning market.
 
As of December 31, 2009, the Company determined that it cannot assert its intent to hold its remaining pooled trust preferred securities to recovery or maturity and that it is more likely than not it will need to sell the securities in order to convert deferred tax assets to current tax receivables. Accordingly, the Company carries those securities at the lower of its adjusted cost basis or market value. The securities continue to remain categorized as available for sale.
 
For the non-Agency Alt-A residential MBS, cash flows are modeled using the following assumptions: constant prepayment speed of 5, a customized constant default rate scenario starting at 15 for the first three quarters ramping down over the course of the next three years to 3, and a customized loss severity scenario starting at 65 for the first three quarters ramping down over the course of the next six quarters. For the non-Agency prime residential MBS, cash flows are modeled using the following assumptions: constant prepayment speed of 5, a constant default rate of 5, and a loss severity of 10. The scenarios presented do not indicate OTTI for either security.


72


Table of Contents

 
FIRST COMMUNITY BANCSHARES, INC.
 
NOTES TO CONSOLIDATED STATEMENTS — (Continued)
 
The table below provides a cumulative roll forward of credit losses recognized in earnings for debt securities for which a portion of an OTTI is recognized in OCI:
 
         
    Year Ended
 
    December 31, 2009  
    (In thousands)  
 
Estimated credit losses, beginning balance*
  $ 19,707  
Additions for credit losses on securities not previously recognized
    30,953  
Additions for credit losses on securities previously recognized
    2,944  
Reduction for increases in cash flows
     
Reduction for securities management no longer intends to hold to recovery
    (14,499 )
Reduction for securities sold/realized losses
    (34,854 )
         
Estimated credit losses as of December 31, 2009
  $ 4,251  
         
 
 
* The beginning balance includes credit related losses included in OTTI charges recognized on debt securities in prior periods.
 
During the first quarter of 2009, the FASB ASC Topic 320, “Investments — Debt and Equity Securities”, amended the assessment criteria for recognizing and measuring OTTI related to debt securities. It also amends the presentation requirements for OTTI and significantly impacted disclosures of all investment securities. In 2008, $14.47 million in pre-tax OTTI charges related to a non-Agency Alt-A mortgage-backed security were recognized, of which $4.25 million was credit related. As a result of the adoption in the first quarter of 2009, the Company made a cumulative effect adjustment to increase retained earnings and decrease OCI by approximately $6.13 million, net of tax. The cumulative effect adjustment represented the non-credit related portion of OTTI losses recognized in the prior year’s earnings, net of tax.
 
For equity securities, the Company reviews for OTTI based upon the prospects of the underlying companies, analysts’ expectations, and certain other qualitative factors to determine if impairment is recoverable over a foreseeable period of time. During the year ended December 31, 2009, the Company recognized OTTI charges of $1.27 million on certain of its equity positions. No charges were recognized for the years ended December 31, 2008 and 2007.
 
Note 5.   Loans
 
Loans, net of unearned income, consist of the following at December 31:
 
                 
    2009     2008  
    (Amounts in thousands)  
 
Real estate- commercial
  $ 450,611     $ 407,638  
Real estate- construction
    124,896       130,610  
Real estate- residential
    657,367       602,573  
Commercial, financial and agricultural
    96,366       85,034  
Loans to individuals for household and other consumer expenditures
    60,090       66,258  
All other loans
    4,601       6,046  
                 
Total loans
  $ 1,393,931     $ 1,298,159  
                 
Loans Held for Sale
  $ 11,576     $ 1,024  
                 
 
The Company is a party to financial instruments with off-balance sheet risk in the normal course of business to meet the financing needs of its customers. These financial instruments include commitments to extend credit, standby letters of credit and financial guarantees. These instruments involve, to varying degrees, elements of credit


73


Table of Contents

 
FIRST COMMUNITY BANCSHARES, INC.
 
NOTES TO CONSOLIDATED STATEMENTS — (Continued)
 
and interest rate risk beyond the amount recognized on the balance sheet. The contractual amounts of those instruments reflect the extent of involvement the Company has in particular classes of financial instruments. The Company’s exposure to credit loss in the event of non-performance by the other party to the financial instrument for commitments to extend credit and standby letters of credit and financial guarantees written is represented by the contractual amount of those instruments. The Company uses the same credit policies in making commitments and conditional obligations as it does for on-balance sheet instruments.
 
Commitments to extend credit are agreements to lend to a customer as long as there is not a violation of any condition established in the contract. Commitments generally have fixed expiration dates or other termination clauses and may require payment of a fee. Since many of the commitments are expected to expire without being drawn upon, the total commitment amounts do not necessarily represent future cash requirements. The Company evaluates each customer’s creditworthiness on a case-by-case basis. The amount of collateral obtained, if deemed necessary by the Company upon extension of credit, is based on management’s credit evaluation of the counterparties. Collateral held varies but may include accounts receivable, inventory, property, plant and equipment, and income producing commercial properties.
 
Standby letters of credit and written financial guarantees are conditional commitments issued by the Company to guarantee the performance of a customer to a third party. The credit risk involved in issuing letters of credit is essentially the same as that involved in extending loan facilities to customers. To the extent deemed necessary, collateral of varying types and amounts is held to secure customer performance under certain of those letters of credit outstanding.
 
Financial instruments whose contract amounts represent credit risk are commitments to extend credit (including availability of lines of credit) of $233.72 million and standby letters of credit and financial guarantees written of $9.80 million at December 31, 2009. Additionally, the Company had gross notional amounts of outstanding commitments to lend related to secondary market mortgage loans of $4.64 million at December 31, 2009.
 
In the normal course of business, the Company’s subsidiary bank has made loans to directors and executive officers of the Company and its subsidiaries and their affiliates (collectively referred to as “related parties”). All loans and commitments made to such officers and directors and to companies in which they are officers, or have significant ownership interest, have been made on substantially the same terms, including interest rates and collateral, as those prevailing at the time for comparable transactions with other persons. The aggregate dollar amount of such loans was $11.37 million and $5.98 million at December 31, 2009 and 2008, respectively. During 2009, approximately $7.05 million in new loans and increases were made and repayments on such loans to officers and directors totaled $1.65 million. Changes in composition of the Company’s subsidiary board members and executive officers resulted in increases of approximately $477 thousand.
 
At December 31, 2009 and 2008, customer overdrafts totaling $1.56 million and $2.10 million, respectively, were reclassified as loans.
 
Loans acquired in a business combination closing after January 1, 2009, are recorded at estimated fair value on their purchase date and prohibit the carryover of the related allowance for loan losses, which include loans purchased in the TriStone acquisition. Purchased impaired loans are accounted for under the Loans and Debt Securities Acquired with Deteriorated Credit Quality Topic 310-30 of FASB ASC when the loans have evidence of credit deterioration since origination and it is probable at the date of acquisition that the Company will not collect all contractually required principal and interest payments. Evidence of credit quality deterioration as of the purchase date may include measures such as credit scores, decline in collateral value, past due and nonaccrual status. The difference between contractually required payments at acquisition and the cash flows expected to be collected at acquisition is referred to as the nonaccretable difference which is included in the carrying amount of the loans. Subsequent decreases to the expected cash flows will generally result in a provision for loan losses. Subsequent increases in cash flows result in a reversal of the provision for loan losses to the extent of prior charges, or a reversal


74


Table of Contents

 
FIRST COMMUNITY BANCSHARES, INC.
 
NOTES TO CONSOLIDATED STATEMENTS — (Continued)
 
of the nonaccretable difference with a positive impact on interest income prospectively. Further, any excess of cash flows expected at acquisition over the estimated fair value is referred to as the accretable yield and is recognized in interest income over the remaining life of the loan when there is a reasonable expectation about the amount and timing of such cash flows. Purchased performing loans are recorded at fair value, including a credit component. The fair value adjustment is accreted as an adjustment to yield over the estimated lives of the loans. There is no allowance for loan losses established at the acquisition date for acquired performing loans. A provision for loan losses is recorded for any credit deterioration in these loans subsequent to the acquisition.
 
The carrying amount of acquired loans at July 31, 2009, consisted of loans with credit deterioration, or impaired loans, and loans with no credit deterioration, or performing loans. The following table presents the acquired performing loans receivable at the acquisition date of July 31, 2009. The amounts include principal only and do not reflect accrued interest as of the date of the acquisition or beyond.
 
         
    (In thousands)  
 
Contractually required principal payments to balance sheet received
  $ 125,366  
Fair value of adjustment for credit, interest rate, and liquidity
    (472 )
         
Fair value of loans receivable, with no credit deterioration
  $ 124,894  
         
 
The following table presents the required detail regarding acquired impaired loans for 2009. The Company has estimated the cash flows to be collected on the loans and discounted those cash flows at a market rate of interest. The excess of cash flows expected at acquisition over the estimated fair value is referred to as the accretable yield and is recognized into interest income over the remaining life of the loan. The difference between contractually required payments at acquisition and the cash flows expected to be collected at acquisition, considering the impact of prepayments, is referred to as the nonaccretable difference. The nonaccretable difference includes estimated future credit losses expected to be incurred over the life of the loan. The Company has not noted any further deterioration in the acquired impaired loans.
 
                         
    TriStone     Other     Total  
    (In thousands)  
 
Balance, January 1, 2009
  $     $     $  
Contractually required principal payments to balance sheet receivable
    6,862       8,790       15,652  
Nonaccretable difference
    (1,670 )     (2,488 )     (4,158 )
                         
Present value of cash flows expected to be collected
    5,192       6,302       11,494  
Accretable difference
    (149 )     (891 )     (1,040 )
                         
Fair value of acquired impaired loans
    5,043       5,411       10,454  
Principal payments received
    (1,240 )     (1,215 )     (2,455 )
Accretion
    104             104  
                         
Balance, December 31, 2009
  $ 3,907     $ 4,196     $ 8,103  
                         
 
The accretion during 2009 consists of both nonaccretable difference and accretable difference. The nonaccretable difference was collected with the ultimate resolution of the problem credit and was recognized into interest income. The remaining balance of the accretable difference at December 31, 2009, was $1.01 million.
 
There was no allowance for loan losses related to the acquired impaired loans as of December 31, 2009.
 
Note 6.   Allowance for Loan Losses
 
The allowance for loan losses is maintained at a level sufficient to absorb probable loan losses inherent in the loan portfolio. The allowance is increased by charges to earnings in the form of provision for loan losses and


75


Table of Contents

 
FIRST COMMUNITY BANCSHARES, INC.
 
NOTES TO CONSOLIDATED STATEMENTS — (Continued)
 
recoveries of prior loan charge-offs, and decreased by loans charged off. The provision is calculated to bring the allowance to a level which, according to a systematic process of measurement, reflects the amount management estimates is needed to absorb probable losses within the portfolio.
 
Management performs periodic assessments to determine the appropriate level of allowance. Differences between actual loan loss experience and estimates are reflected through adjustments that are made by either increasing or decreasing the loss provision based upon current measurement criteria. Commercial, consumer and mortgage loan portfolios are evaluated separately for purposes of determining the allowance. The specific components of the allowance include allocations to individual commercial credits and allocations to the remaining non-homogeneous and homogeneous pools of loans. Management’s allocations are based on judgment of qualitative and quantitative factors about both macro and micro economic conditions reflected within the portfolio of loans and the economy as a whole. Factors considered in this evaluation include, but are not necessarily limited to, probable losses from loan and other credit arrangements, general economic conditions, changes in credit concentrations or pledged collateral, historical loan loss experience, and trends in portfolio volume, maturities, composition, delinquencies, and non-accruals. While management has allocated the allowance for loan losses to various portfolio segments, the entire allowance is available for use against any type of loan loss deemed appropriate by management
 
Activity in the allowance for loan losses was as follows:
 
                         
    2009     2008     2007  
    (Restated)     (Restated)      
    (Amounts in thousands)  
 
Balance at January 1
  $ 17,782     $ 12,833     $ 14,549  
Provision for loan losses
    15,801       9,226       717  
Acquisition balance
          1,169        
Loans charged off
    (10,355 )     (7,371 )     (4,295 )
Recoveries credited to allowance
    1,049       1,925       1,862  
                         
Net charge-offs
    (9,306 )     (5,446 )     (2,433 )
                         
Balance at December 31
  $ 24,277     $ 17,782     $ 12,833  
                         
 
The following table presents the Company’s investment in loans considered to be impaired and related information on those impaired loans:
 
                         
    2009     2008     2007  
    (Amounts in thousands)  
 
Recorded investment in loans considered to be impaired:
                       
Recorded investment in impaired loans with related allowance
  $ 13,241     $ 4,796     $ 3,129  
Recorded investment in impaired loans with no related allowance
    13,371       8,504       1,196  
                         
Total recorded investment in loans considered to be impaired
    26,612       13,300       4,325  
Loans considered to be impaired that were on a non-accrual basis
    17,014       12,764       2,923  
Allowance for loan losses related to loans considered to be impaired
    2,932       678       880  
Average recorded investment in impaired loans
    15,928       14,914       4,762  
Total interest income recognized on impaired loans
    663       793       237  
 
There were no loans past due 90 days and still accruing interest at December 31, 2009, 2008, and 2007.


76


Table of Contents

 
FIRST COMMUNITY BANCSHARES, INC.
 
NOTES TO CONSOLIDATED STATEMENTS — (Continued)
 
 
Note 7.   Premises and Equipment
 
Premises and equipment are comprised of the following as of December 31:
 
                 
    2009     2008  
    (Amounts in thousands)  
 
Land
  $ 19,158     $ 18,634  
Bank premises
    50,845       47,147  
Equipment
    32,542       29,968  
                 
      102,545       95,749  
Less: accumulated depreciation and amortization
    45,599       40,725  
                 
Total
  $ 56,946     $ 55,024  
                 
 
Total depreciation and amortization expense for the three years ended December 31, 2009, was $4.03 million, $3.88 million, and $3.28 million, respectively.
 
The primary contractor for construction of one of the Company’s new branches is a firm which has a preferred shareholder who is an immediate family member of two directors of the Company. All branch construction contracts involving the related party were granted pursuant to a competitive bidding process. There were no payments to the related party in 2009. Payments to the related party were $606 thousand and $703 thousand in 2008 and 2007, respectively.
 
The Company also enters into land and building leases for the operation of banking and loan production offices, operations centers and for the operation of automated teller machines. All such leases qualify as operating leases. Following is a schedule by year of future minimum lease payments required under operating leases that have initial or remaining non-cancelable lease terms in excess of one year as of December 31, 2009:
 
         
Year Ended December 31:
     
    (Amounts in
 
    thousands)  
 
2010
  $ 1,084  
2011
    855  
2012
    777  
2013
    714  
2014
    392  
Later years
    1,907  
         
Total
  $ 5,729  
         
 
Total lease expense for the three years ended December 31, 2009, was $1.03 million, $1.01 million, and $981 thousand, respectively. Certain portions of the above listed leases have been sublet to third parties for properties not


77


Table of Contents

 
FIRST COMMUNITY BANCSHARES, INC.
 
NOTES TO CONSOLIDATED STATEMENTS — (Continued)
 
currently being used by the Company. The impact of the future lease payments to be received and the non-cancelable subleases are as follows:
 
         
Year Ended December 31:
     
    (Amounts in
 
    thousands)  
 
2010
  $ 157  
2011
    284  
2012
    215  
2013
    197  
2014
    21  
Later years
    253  
         
Total
  $ 1,127  
         
 
Note 8.   Deposits
 
The following is a summary of interest bearing deposits by type as of December 31:
 
                 
    2009     2008  
    (Amounts in thousands)  
 
Interest bearing demand deposits
  $ 231,907     $ 185,117  
Money market accounts
    199,229       144,017  
Savings deposits
    182,152       165,560  
Certificates of deposit
    718,552       708,954  
Individual Retirement Accounts
    105,876       100,398  
                 
Total
  $ 1,437,716     $ 1,304,046  
                 
 
At December 31, 2009, the scheduled maturities of certificates of deposit are as follows:
 
         
    (Amounts in
 
    thousands)  
 
2010
  $ 525,780  
2011
    118,628  
2012
    32,298  
2013
    33,564  
2014 and thereafter
    114,157  
         
    $ 824,427  
         
 
Time deposits of $100 thousand or more were $372.56 million and $286.74 million at December 31, 2009 and 2008, respectively.


78


Table of Contents

 
FIRST COMMUNITY BANCSHARES, INC.
 
NOTES TO CONSOLIDATED STATEMENTS — (Continued)
 
At December 31, 2009, the scheduled maturities of certificates of deposit of $100 thousand or more are as follows:
 
         
    (Amounts in
 
    thousands)  
 
Three months or less
  $ 99,506  
Over three to six months
    112,335  
Over six to twelve months
    76,321  
Over twelve months
    84,397  
         
Total
  $ 372,559  
         
 
Included in total deposits are deposits by related parties in the total amount of $18.13 million and $25.48 million at December 31, 2009 and 2008, respectively.
 
Note 9.   Borrowings
 
The following table details borrowings as of December 31:
 
                 
    2009     2008  
    (Amounts in thousands)  
 
Securities sold under agreements to repurchase
  $ 153,634     $ 165,914  
FHLB borrowings
    183,177       200,000  
Subordinated debt
    15,464       15,464  
Other debt
    283       413  
                 
Total
  $ 352,558     $ 381,791  
                 
 
Securities sold under agreements to repurchase consist of $103.63 million and $115.91 million of retail overnight and term repurchase agreements at December 31, 2009 and 2008, respectively, and $50.00 million of wholesale repurchase agreements at both December 31, 2009 and 2008. The wholesale repurchase agreements had a weighted average maturity of 7.7 years at December 31, 2009, and are collateralized with agency mortgage-backed securities.
 
The Bank is a member of the FHLB which provides credit in the form of short-term and long-term advances collateralized by various mortgage assets. At December 31, 2009, credit availability with the FHLB totaled approximately $148.65 million. Advances from the FHLB are secured by stock in the FHLBA, qualifying loans of $302.56 million, mortgage-backed securities, and certain investment securities of $29.09 million. The FHLB advances are subject to restrictions or penalties in the event of prepayment.
 
FHLB borrowings include $175.00 million and $200.00 million in convertible and callable advances at December 31, 2009 and 2008, respectively. The callable advances may be called, or redeemed at quarterly intervals after various lockout periods. These call options may substantially shorten the lives of these instruments. If these advances are called, the debt may be paid in full, converted to another FHLB credit product, or converted to an adjustable rate advance. The weighted average contractual rate of all FHLB advances was 2.41% and 3.70% at December 31, 2009 and 2008, respectively.


79


Table of Contents

 
FIRST COMMUNITY BANCSHARES, INC.
 
NOTES TO CONSOLIDATED STATEMENTS — (Continued)
 
At December 31, 2009, the FHLB advances have approximate contractual final maturities between three months and twelve years. The scheduled maturities of the advances are as follows:
 
         
    (Amounts in
 
    thousands)  
 
2010
  $ 8,177  
2011
     
2012
     
2013
     
2014
     
2015 and thereafter
    175,000  
         
    $ 183,177  
         
 
In January 2006, the Company entered into a derivative swap instrument where it receives LIBOR-based variable interest payments and pays fixed interest payments. The notional amount of the derivative swap is $50.00 million and effectively fixes a portion of the FHLB borrowings at approximately 4.34%. After considering the effect of the interest rate swap, the effective weighted average interest rate of the FHLB borrowings was 3.59% and 3.85% at December 31, 2009 and 2008, respectively.
 
Also included in borrowings is $15.46 million of junior subordinated debentures (the “Debentures”) issued by the Company in October 2003 to an unconsolidated trust subsidiary, FCBI Capital Trust (the “Trust”), with an interest rate of three-month LIBOR plus 2.95%. The Trust was able to purchase the Debentures through the issuance of trust preferred securities which had substantially identical terms as the Debentures. The Debentures mature on October 8, 2033, and are currently callable. The net proceeds from the offering were contributed as capital to the Company’s subsidiary bank to support further growth.
 
The Company has committed to irrevocably and unconditionally guarantee the following payments or distributions with respect to the trust preferred securities to the holders thereof to the extent that the Trust has not made such payments or distributions: (i) accrued and unpaid distributions, (ii) the redemption price, and (iii) upon a dissolution or termination of the Trust, the lesser of the liquidation amount and all accrued and unpaid distributions and the amount of assets of the Trust remaining available for distribution, in each case to the extent the Trust has funds available.
 
Note 10.   Income Taxes, Continuing Operations
 
The components of income tax benefit and expense from continuing operations consist of the following:
 
                         
    Years Ended December 31,  
    2009     2008     2007  
    (Amounts in thousands)  
    (Restated)     (Restated)      
 
Current tax expense
                       
Federal
  $ (9,534 )   $ 8,577     $ 10,777  
State
    246       1,260       1,341  
                         
      (9,288 )     9,837       12,118  
Deferred tax (benefit) expense
                       
Federal
    (17,608 )     (11,981 )     194  
State
    (1,258 )     (1,343 )     22  
                         
      (18,866 )     (13,324 )     216  
                         
Total income tax (benefit) expense
  $ (28,154 )   $ (3,487 )   $ 12,334  
                         


80


Table of Contents

 
FIRST COMMUNITY BANCSHARES, INC.
 
NOTES TO CONSOLIDATED STATEMENTS — (Continued)
 
Deferred income taxes related to continuing operations reflect the net effects of temporary differences between the carrying amounts of assets and liabilities for financial reporting versus tax purposes. The tax effects of significant items comprising the Company’s net deferred tax assets as of December 31, 2009 and 2008 are as follows:
 
                 
    2009     2008  
    (Amounts in thousands)  
    (Restated)     (Restated)  
 
Deferred tax assets:
               
Allowance for loan losses
  $ 8,427     $ 6,976  
Unrealized losses on AFS securities
    6,926       33,208  
Unrealized loss on derivative security
    794       1,298  
Securities impairments
    23,912       11,670  
Deferred compensation
    4,175       4,120  
Other
    3,244       1,920  
                 
Total deferred tax assets
  $ 47,478     $ 59,192  
Deferred tax liabilities:
               
Intangible assets
  $ 6,295     $ 6,209  
Odd days interest deferral
    1,358       1,710  
Fixed assets
    2,446       1,675  
Other
    1,564       1,358  
                 
Total deferred tax liabilities
    11,663       10,952  
                 
Net deferred tax assets
  $ 35,815     $ 48,240  
                 
 
Income taxes as a percentage of pre-tax income may vary significantly from statutory rates due to items of income and expense which are excluded, by law, from the calculation of taxable income, as well as the utilization of available tax credits. State and municipal bond income represent the most significant permanent tax difference.
 
The reconciliation of the statutory federal tax rate and the effective tax rates from continuing operations for the three years ended December 31, 2009, is as follows:
 
                         
    For Years Ended  
    2009     2008     2007  
    (Restated)     (Restated)          
 
Tax at statutory rate
    35.00 %     35.00 %     35.00 %
(Reduction) increase resulting from:
                       
Tax-exempt interest, net of nondeductible expense
    2.88       154.30     (5.95 )
State income taxes, net of federal benefit
    0.65       2.21       2.12  
Gain on acquisition, net of acquisition related costs
    2.24       0.00       0.00  
Other, net
    1.29       34.42     (1.78 )
                         
Effective tax rate
    42.06 %     225.93 %     29.39 %
                         
 
Note 11.   Employee Benefits
 
Employee Stock Ownership and Savings Plan
 
The Company maintains an Employee Stock Ownership and Savings Plan (“KSOP”). Coverage under the plan is provided to all employees meeting minimum eligibility requirements.


81


Table of Contents

 
FIRST COMMUNITY BANCSHARES, INC.
 
NOTES TO CONSOLIDATED STATEMENTS — (Continued)
 
Employer Stock Fund:  Annual contributions to the stock portion of the plan were made through 2006 at the discretion of the Board of Directors, and allocated to plan participants on the basis of relative compensation. The plan was frozen to future contributions for periods after 2006. Substantially all plan assets are invested in common stock of the Company. The Company reports the contributions to the plan as a component of salaries and benefits. All contributions made after 2006 have been made to the employee savings feature of the plan. Accordingly, there were no contributions to the Employer Stock Fund in 2009, 2008, or 2007. The Employer Stock Fund held 504,801 and 418,322 shares of the Company’s common stock at December 31, 2009 and 2008, respectively.
 
Employee Savings Plan:  The Company provides a 401(k) savings feature within the KSOP that is available to substantially all employees meeting minimum eligibility requirements. Under the 401(k) feature, the Company makes matching contributions to employee deferrals at levels determined by the board on an annual basis. The cost of the Company’s 100% matching contributions to qualified deferrals under the 401(k) savings component of the KSOP was $1.37 million, $1.23 million, and $942 thousand in 2009, 2008 and 2007, respectively. In 2009 and 2008, the Company made its matching contribution in Company common stock, while the 2007 contributions were made in cash.
 
Employee Welfare Plan
 
The Company provides various medical, dental, vision, life, accidental death and dismemberment and long-term disability insurance benefits to all full-time employees who elect coverage under this program. The health plan is managed by a third party administrator. Monthly employer and employee contributions are made to a tax-exempt employer benefits trust against which the third party administrator processes and pays claims. Stop-loss insurance coverage limits the Company’s risk of loss to $85 thousand and $4.30 million for individual and aggregate claims, respectively. Total Company expenses under the plan were $1.59 million, $2.32 million, and $1.66 million in 2009, 2008 and 2007, respectively.
 
Deferred Compensation Plan
 
The Company has deferred compensation agreements with certain current and former officers providing for benefit payments over various periods commencing at retirement or death. The liability at December 31, 2009 and 2008, was approximately $474 thousand and $484 thousand, respectively. The annual expenses associated with these agreements were $60 thousand, $60 thousand and $60 thousand for 2009, 2008 and 2007, respectively. The obligation is based upon the present value of the expected payments and estimated life expectancies of the individuals.
 
The Company maintains a life insurance contract on the life of one of the participants covered under these agreements. Proceeds derived from death benefits are intended to provide reimbursement of plan benefits paid over the post employment lives of the participants. Premiums on the insurance contract are currently paid through policy dividends on the cash surrender values of $1.20 million, $1.12 million, and $1.03 million at December 31, 2009, 2008, and 2007, respectively.
 
Executive Retention Plan
 
The Company maintains an Executive Retention Plan for key members of senior management. The Executive Retention Plan provides for a defined benefit at normal retirement targeted at 35% of projected final base salary. Benefits under the Executive Retention Plan become payable at age 62. The associated benefit accrued as of year-end 2009 and 2008 was $3.41 million and $2.95 million, respectively, while the associated expense incurred in connection with the Executive Retention Plan was $402 thousand, $426 thousand, and $110 thousand for 2009, 2008, and 2007, respectively.
 
During 2008, the Company amended the plan to convert from an index benefit based on performance of related life insurance policies to a defined benefit based on years of service. The amendment allowed for consideration of


82


Table of Contents

 
FIRST COMMUNITY BANCSHARES, INC.
 
NOTES TO CONSOLIDATED STATEMENTS — (Continued)
 
prior service. In connection with the amendment the Company changed its method of accounting to defined benefit accounting. As the change in the plan was effective at year end, there are no components of periodic pension cost for the year end 2007.
 
Projected benefit payments are expected to be paid as follows:
 
         
    (Amounts in
 
    thousands)  
 
2010
  $ 59  
2011
    59  
2012
    176  
2013
    237  
2014
    237  
2015 through 2019
    1,384  
 
The following sets forth the components of the net periodic benefit cost of the Company’s domestic non-contributory defined benefit plan for the years ended December 31, 2009 and 2008.
 
                 
    Year Ended
    Year Ended
 
    December 31,
    December 31,
 
    2009     2008  
    (In thousands)  
 
Service cost
  $ 213     $ 253  
Interest cost
    189       173  
                 
Net periodic cost
  $ 402     $ 426  
                 
 
The discount rates assumed as of December 31, 2009 were lowered from 6.50% to 6.00%. The Executive Retention Plan is an unfunded plan, and as such there are no plan assets. At December 31, 2009, the actuarial benefit plan obligation was $3.41 million.
 
Directors Supplemental Retirement Plan
 
The Company maintains a Directors Supplemental Retirement Plan (the “Directors Plan”) for its non-employee directors. The Directors Plan provides for a benefit upon retirement from service on the Board at specified ages depending upon length of service or death. Benefits under the Directors Plan become payable at age 70, 75, and 78 depending upon the individual director’s age and original date of election to the Board. The associated benefit accrued as of year-end 2009 and 2008 was $1.45 million and $1.43 million, respectively, while the associated expense incurred in connection with the Directors Plan was $158 thousand, $161 thousand and $195 thousand for 2009, 2008 and 2007, respectively.
 
Note 12.   Equity-Based Compensation
 
Stock Options
 
The Company maintains share-based compensation plans to promote the long-term success of the Company by encouraging officers, employees, directors and individuals performing services for the Company to focus on critical long-range objectives.
 
At the 2004 Annual Meeting, the Company’s shareholders ratified approval of the 2004 Omnibus Stock Option Plan (“2004 Plan”) which made available up to 200,000 shares for potential grants of incentive stock options, non-qualified stock options, restricted stock awards or performance awards. Non-qualified and incentive stock options, as well as restricted and unrestricted stock may continue to be awarded under the 2004 Plan. Vesting under the 2004 Plan is generally over a three-year period.


83


Table of Contents

 
FIRST COMMUNITY BANCSHARES, INC.
 
NOTES TO CONSOLIDATED STATEMENTS — (Continued)
 
In 2001, the Company also instituted a plan to grant stock options to non-employee directors (the “Directors Option Plan”). The options granted pursuant to the Plan expire at the earlier of ten years from the date of grant or two years after the optionee ceases to serve as a director of the Company. Options not exercised within the appropriate time shall expire and be deemed cancelled. Options under the Directors Option Plan were granted in the form of non-statutory stock options with the aggregate number of shares of common stock available for grant under the Directors Option Plan set at 108,900 shares (adjusted for the 10% stock dividends paid in 2002 and 2003).
 
In 1999, the Company instituted the 1999 Stock Option Plan (the “1999 Plan”). Options under the 1999 Plan were granted in the form of non-statutory stock options with the aggregate number of shares of common stock available for grant under the Plan set at 332,750 (adjusted for 10% stock dividends paid in 2002 and 2003). The options granted under the 1999 Plan represent the rights to acquire the option shares with deemed grant dates of January 1st for each year beginning with the initial year granted and the following four anniversaries. All stock options granted pursuant to the 1999 Plan vest ratably on the first through the seventh anniversary dates of the deemed grant date. The option price of each stock option is equal to the fair market value (as defined by the 1999 Plan) of the Company’s common stock on the date of each deemed grant during the five-year grant period. Vested stock options granted pursuant to the 1999 Plan are exercisable during employment and for a period of five years after the date of the grantee’s retirement, provided retirement occurs at or after age 62. If employment is terminated other than by early retirement, disability, or death, vested options must be exercised within 90 days after the effective date of termination. Any option not exercised within such period will be deemed cancelled.
 
The Company also has options from various option plans other than described above (the Prior Plans); however, no common shares of the Company are available for grants under the Prior Plans. Awards outstanding under the Prior Plans will remain in effect in accordance with their respective terms.
 
The cash flows from the tax benefits resulting from tax deductions in excess of the compensation expense recognized for those options and restricted stock (“excess tax benefits”) are classified as financing cash flows. Excess tax benefits totaling $2 thousand, $85 thousand, and $327 thousand are classified as financing cash inflows for 2009, 2008, and 2007, respectively.
 
During the three years ended December 31, 2009, the Company recognized pre-tax compensation expense related to total equity-based compensation of approximately $153 thousand, $260 thousand, and $271 thousand, respectively. The Company recognizes equity-based compensation on a straight line pro-rata basis, so that the percentage of the total expense recognized for an award is never less than the percentage of the award that has vested.
 
As of December 31, 2009, there was approximately $94 thousand in unrecognized compensation cost related to unvested stock options. That cost is expected to be recognized over a weighted average period of 1.2 years. The actual compensation cost recognized will differ from this estimate due to a number of items, including new awards granted and changes in estimated forfeitures.


84


Table of Contents

 
FIRST COMMUNITY BANCSHARES, INC.
 
NOTES TO CONSOLIDATED STATEMENTS — (Continued)
 
A summary of the Company’s stock option activity, and related information for the year ended December 31, 2009, is as follows:
 
                                 
                Weighted
       
          Weighted
    Average
       
          Average
    Remaining
    Aggregate
 
    Option
    Exercise
    Contractual
    Intrinsic
 
    Shares     Price     Term (Years)     Value  
                      (In thousands)  
 
Outstanding at January 1, 2009
    252,091     $ 24.25                  
Granted
    15,000       13.81                  
Acquired with TriStone Community Bank
    148,764       20.55                  
Exercised
    2,000       9.52                  
Forfeited
    375       26.54                  
                                 
Outstanding at December 31, 2009
    413,480     $ 22.71       8.0     $ 9,389  
                                 
Exercisable at December 31, 2009
    394,481     $ 22.82       7.9     $ 9,001  
                                 
 
The fair value of options was estimated at the date of grant using the Black-Scholes-Merton option pricing model and certain assumptions. Expected volatility is based on the weekly historical volatility of the Company’s stock price over the expected term of the option. Expected dividend yield is based on the ratio of the most recent dividend rate paid per share of the Company’s common stock to recent trading price of the Company’s common stock. The expected term is generally calculated using the “shortcut method.” The risk-free interest rate is based on the U.S. Treasury yield curve at the time of grant for the period equal to the expected term of the option.
 
The fair values of grants made during the three years ended December 31, 2009, were estimated using the following weighted average assumptions:
 
                         
    2009   2008   2007
 
Volatility
    44.83 %     29.11 %     28.33 %
Expected dividend yield
    2.71 %     3.64 %     3.28 %
Expected term (in years)
    6.20       10.00       6.00  
Risk-free rate
    2.81 %     2.96 %     4.74 %
 
The weighted average grant-date fair value of options granted during the three years ended December 31, 2009, was $5.33, $7.74, and $8.14, respectively. The aggregate intrinsic value of options exercised during the three years ended December 31, 2009, was approximately $5 thousand, $310 thousand, and $913 thousand, respectively.
 
Stock Awards
 
The 2004 Plan permits the granting of restricted and unrestricted stock grants either alone, in addition to, or in tandem with other awards made by the Company. Stock grants are generally measured at fair value on the date of grant based on the number of shares granted and the quoted price of the Company’s common stock. Such value is recognized as expense over the corresponding service period. Compensation costs related to these types of awards are consistently reported for all periods presented.


85


Table of Contents

 
FIRST COMMUNITY BANCSHARES, INC.
 
NOTES TO CONSOLIDATED STATEMENTS — (Continued)
 
The following table summarizes the changes in the Company’s nonvested shares for the year ended December 31, 2009.
 
                 
          Grant-Date
 
    Shares     Fair Value  
 
Nonvested at January 1, 2009
    2,100     $ 36.58  
Granted
    1,000       11.67  
Vested
    1,200       36.70  
Forfeited
    100       36.42  
                 
Nonvested at December 31, 2009
    1,800       22.67  
                 
 
As of December 31, 2009, there was approximately $11 thousand in unrecognized compensation cost related to unvested stock awards. That cost is expected to be recognized over a weighted average period of 0.5 years. The actual compensation cost recognized will differ from this estimate due to a number of items, including new awards granted and changes in estimated forfeitures.
 
Note 13.   Litigation, Commitments and Contingencies
 
In the normal course of business, the Company is a defendant in various legal actions and asserted claims, most of which involve lending, collection and employment matters. While the Company and legal counsel are unable to assess the ultimate outcome of each of these matters with certainty, they are of the belief that the resolution of these actions, singly or in the aggregate, should not have a material adverse affect on the financial condition, results of operations or cash flows of the Company.
 
The Company is a party to financial instruments with off-balance sheet risk in the normal course of business to meet the financing needs of its customers. These financial instruments include commitments to extend credit, standby letters of credit and financial guarantees. These instruments involve, to varying degrees, elements of credit and interest rate risk beyond the amount recognized on the balance sheet. The contractual amounts of those instruments reflect the extent of involvement the Company has in particular classes of financial instruments. The Company’s exposure to credit loss in the event of non-performance by the other party to the financial instrument for commitments to extend credit and standby letters of credit and financial guarantees written is represented by the contractual amount of those instruments. The Company uses the same credit policies in making commitments and conditional obligations as it does for on-balance sheet instruments.
 
Commitments to extend credit are agreements to lend to a customer as long as there is not a violation of any condition established in the contract. Commitments generally have fixed expiration dates or other termination clauses and may require payment of a fee. Since many of the commitments are expected to expire without being drawn upon, the total commitment amounts do not necessarily represent future cash requirements. The Company evaluates each customer’s creditworthiness on a case-by-case basis. The amount of collateral obtained, if deemed necessary by the Company upon extension of credit, is based on management’s credit evaluation of the counterparties. Collateral held varies but may include accounts receivable, inventory, property, plant and equipment, and income-producing commercial properties.
 
Standby letters of credit and written financial guarantees are conditional commitments issued by the Company to guarantee the performance of a customer to a third party. The credit risk involved in issuing letters of credit is essentially the same as that involved in extending loan facilities to customers. To the extent deemed necessary, collateral of varying types and amounts is held to secure customer performance under certain of those letters of credit outstanding.
 
Financial instruments, whose contract amounts represent credit risk at December 31, 2009 and 2008, are commitments to extend credit (including availability of lines of credit) of $233.72 million and $199.29 million, respectively, and standby letters of credit and financial guarantees of $9.80 million and $2.84 million, respectively.


86


Table of Contents

 
FIRST COMMUNITY BANCSHARES, INC.
 
NOTES TO CONSOLIDATED STATEMENTS — (Continued)
 
The Company has issued, through Trust, $15.00 million of trust preferred securities in a private placement. In connection with the issuance of the trust preferred securities, the Company has committed to irrevocably and unconditionally guarantee the following payments or distributions with respect to the trust preferred securities to the holders thereof to the extent that the Trust has not made such payments or distributions and has the funds therefore: (i) accrued and unpaid distributions, (ii) the redemption price, and (iii) upon a dissolution or termination of the Trust, the lesser of the liquidation amount and all accrued and unpaid distributions and the amount of assets of the Trust remaining available for distribution.
 
Note 14.   Derivative Instruments and Hedging Activities
 
The Company uses derivative instruments primarily to protect against the risk of adverse price or interest rate movements on the value of certain assets and liabilities and on future cash flows. These derivatives may consist of interest rate swaps, floors, caps, collars, futures, forward contracts, and written and purchased options. Derivative instruments represent contracts between parties that usually require little or no initial net investment and result in one party delivering cash or another type of asset to the other party based on a notional amount and an underlying asset as specified in the contract.
 
The primary derivatives that the Company uses are interest rate swaps and interest rate lock commitments (“IRLCs”). Generally, these instruments help the Company manage exposure to market risk and meet customer financing needs. Market risk represents the possibility that economic value or net interest income will be adversely affected by fluctuations in external factors, such as interest rates, market-driven loan rates and prices or other economic factors.
 
The Company entered into an interest rate swap derivative accounted for as a cash flow hedge in January 2006. The $50.00 million notional amount pay fixed, receive variable interest rate swap was a liability with an estimated fair value of $2.12 million and $3.40 million at December 31, 2009 and 2008, respectively. The Company pays a fixed rate of 4.34% and receives a LIBOR-based floating rate from the counterparty. Any gains and losses associated with the market value fluctuations of the interest rate swap are included in OCI.
 
The following table presents the aggregate contractual, or notional, amounts of derivative financial instruments as of the dates indicated:
 
                 
    December 31,
  December 31,
    2009   2008
    (In thousands)
 
Interest rate swap
  $ 50,000     $ 50,000  
IRLC’s
    4,636       10,500  
 
As of December 31, 2009 and 2008, the fair values of the Company’s derivatives were as follows:
 
                                 
    Asset Derivatives  
    December 31, 2009     December 31, 2008  
    Balance Sheet
    Fair
    Balance Sheet
    Fair
 
    Location     Value     Location     Value  
    (In thousands)  
 
Derivatives not designated as hedges
                               
IRLC’s
    Other assets     $ 2       Other assets     $ 39  
                                 
Total
          $ 2             $ 39  
                                 
 


87


Table of Contents

 
FIRST COMMUNITY BANCSHARES, INC.
 
NOTES TO CONSOLIDATED STATEMENTS — (Continued)
 
                                 
    Liability Derivatives  
    December 31, 2009     December 31, 2008  
    Balance Sheet
          Balance Sheet
       
    Location     Fair Value     Location     Fair Value  
    (In thousands)  
 
Derivatives designated as hedges
                               
Interest rate swap
    Other liabilities     $ 2,117       Other liabilities     $ 3,327  
                                 
Total
          $ 2,117             $ 3,327  
                                 
Derivatives not designated as hedges
                               
IRLC’s
    Other liabilities     $ 74       Other liabilities     $ 16  
                                 
Total
          $ 74             $ 16  
                                 
Total derivatives
          $ 2,191             $ 3,343  
                                 
 
Interest Rate Swaps.  The Company uses interest rate swap contracts to modify its exposure to interest rate risk. The Company currently employs a cash flow hedging strategy to effectively convert certain floating-rate liabilities into fixed rate instruments. The interest rate swap is accounted for under the “short-cut” method. Changes in fair value of the interest rate swap are reported as a component of OCI. The Company does not currently employ fair value hedging strategies.
 
Interest Rate Lock Commitments.  In the normal course of business, the Company sells originated mortgage loans into the secondary mortgage loan market. During the period of loan origination and prior to the sale of the loans in the secondary market, the Company has exposure to movements in interest rates associated with mortgage loans that are in the “mortgage pipeline.” A pipeline loan is one on which the potential borrower has set the interest rate for the loan by entering into an IRLC. Once a mortgage loan is closed and funded, it is included within loans held for sale and awaits sale and delivery into the secondary market. During the term of an IRLC, the Company has the risk that interest rates will change from the rate quoted to the borrower.
 
The Company’s balance of mortgage loans held for sale is subject to changes in fair value, due to fluctuations in interest rates from the loan closing date through the date of sale of the loan into the secondary market. Typically, the fair value of the warehouse declines in value when interest rates increase and rises in value when interest rates decrease.
 
Effect of Derivatives and Hedging Activities on the Income Statement.  For the years ended December 31, 2009 and 2008, the Company has determined there was no amount of ineffectiveness on cash flow hedges. The following table details gains and losses recognized in income on non-designated hedging instruments for the periods ended December 31, 2009 and 2008.
 
                         
    Location of
             
    Gain/(Loss)
    Amount of Gain/(Loss)
 
Derivatives not
  Recognized in
    Recognized in Income on Derivative  
designated as hedging
  Income on
    Year Ended December 31,  
instruments
  Derivative     2009     2008  
    (In thousands)  
 
IRLC’s
    Other income     $ (94 )   $ 16  
                         
Total
          $ (94 )   $ 16  
                         
 
Counterparty Credit Risk.  Like other financial instruments, derivatives contain an element of “credit risk.” Credit risk is the possibility that the Company will incur a loss because a counterparty, which may be a bank, a

88


Table of Contents

 
FIRST COMMUNITY BANCSHARES, INC.
 
NOTES TO CONSOLIDATED STATEMENTS — (Continued)
 
broker-dealer or a customer, fails to meet its contractual obligations. This risk is measured as the expected positive replacement value of contracts. All derivative contracts may be executed only with exchanges or counterparties approved by the Company’s Asset/Liability Management Committee. The Company reviews its counterparty risk regularly and has determined that as of December 31, 2009 and 2008, there is no significant counterparty credit risk.
 
Note 15.   Regulatory Capital Requirements and Restrictions
 
The primary source of funds for dividends paid by the Company is dividends received from its subsidiary bank. Dividends paid by the Bank are subject to restrictions by banking regulations. The most restrictive provision of the regulations requires approval by the Office of the Comptroller of the Currency if dividends declared in any year would exceed the year’s net income, as defined, plus retained net profit of the two preceding years. Dividends from the Company’s banking subsidiary are restricted and subject to prior approval of the Comptroller of the Currency.
 
The Company and its subsidiaries are subject to various regulatory capital requirements administered by the federal banking agencies. Failure to meet minimum capital requirements can initiate certain mandatory and possibly additional discretionary actions by regulators that, if undertaken, could have a direct material effect on the Company’s financial statements. Under the capital adequacy guidelines and the regulatory framework for prompt corrective action, which applies only to the Bank, the Bank must meet specific capital guidelines that involve quantitative measures of the entity’s assets, liabilities, and certain off-balance sheet items as calculated under regulatory accounting practices. The Bank’s capital amounts and classifications 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 and the Bank to maintain minimum amounts and ratios for total and Tier 1 capital (as defined in the regulations) to risk-weighted assets (as defined), and of Tier 1 capital (as defined) to average assets (as defined). As of December 31, 2009, the Company and the Bank met all capital adequacy requirements to which they are subject. As of December 31, 2009 and 2008, the most recent notifications from regulators categorized the Bank as well capitalized under the regulatory framework for prompt corrective action. To be categorized as well capitalized, the Bank must maintain minimum Total capital to risk-weighted assets, Tier 1 capital to risk-weighted assets, and Tier 1 capital to average assets (leverage) ratios as set forth in the table below. There are no conditions or events since those notifications that management believes have changed the institution’s category.
 
The Company’s and the Bank’s capital ratios as of December 31, 2009 and 2008, are presented in the following tables.
 
                                                 
    December 31, 2009
                                    To Be Well
                    For Capital   Capitalized Under
                    Adequacy   Prompt Corrective
    Actual   Purposes   Action Provisions
    Amount   Ratio   Amount   Ratio   Amount   Ratio
  (Dollars in Thousands)
  (Restated)
Total Capital to Risk-Weighted Assets
                                               
First Community Bancshares, Inc.
  $ 208,837       13.81 %   $ 120,969       8.00 %     N/A       N/A  
First Community Bank, N. A.
    176,302       11.76 %     119,726       8.00 %   $ 149,657       10.00 %
Tier 1 Capital to Risk-Weighted Assets
                                               
First Community Bancshares, Inc.
    189,858       12.56 %     60,484       4.00 %     N/A       N/A  
First Community Bank, N. A.
    157,152       10.50 %     59,863       4.00 %     89,795       6.00 %
Tier 1 Capital to Average Assets (Leverage)
                                               
First Community Bancshares, Inc.
    189,858       8.51 %     89,290       4.00 %     N/A       N/A  
First Community Bank, N. A.
    157,152       7.09 %     88,709       4.00 %     110,887       5.00 %
 


89


Table of Contents

 
FIRST COMMUNITY BANCSHARES, INC.
 
NOTES TO CONSOLIDATED STATEMENTS — (Continued)
 
                                                 
    December 31, 2008
                                    To Be Well
                    For Capital   Capitalized Under
                    Adequacy   Prompt Corrective
    Actual   Purposes   Action Provisions
    Amount   Ratio   Amount   Ratio   Amount   Ratio
    (Dollars in Thousands)
  (Restated)
Total Capital to Risk-Weighted Assets
                                               
First Community Bancshares, Inc.
  $ 214,626       12.94 %   $ 132,644       8.00 %     N/A       N/A  
First Community Bank, N. A.
    191,781       11.72 %     130,814       8.00 %   $ 163,518       10.00 %
Tier 1 Capital to Risk-Weighted Assets
                                               
First Community Bancshares, Inc.
    196,473       11.84 %     66,322       4.00 %     N/A       N/A  
First Community Bank, N. A.
    173,628       10.62 %     65,407       4.00 %     98,110       6.00 %
Tier 1 Capital to Average Assets (Leverage)
                                               
First Community Bancshares, Inc.
    196,473       9.70 %     84,629       4.00 %     N/A       N/A  
First Community Bank, N. A.
    173,628       8.66 %     80,232       4.00 %     100,290       5.00 %
 
At December 31, 2009 and 2008, $15.46 million in subordinated debt was treated as Tier 1 capital for bank regulatory purposes for the Company.
 
Note 16.   Other Operating Income and Expenses
 
Included in other operating income and expenses are certain costs, the total of which exceeds one percent of combined interest income and noninterest income. Following are such costs for the years indicated:
 
                         
    Years Ended December 31,  
    2009     2008     2007  
    (Amounts in Thousands)  
Income
                       
Bank owned life insurance
  $ 819     $ 746     $ 1,306  
Expense
                       
Advertising and public relations
    1,633       2,166       1,616  
Service fees
    3,767       3,557       3,031  
Telephone and data communications
    1,399       1,505       1,372  
Professional fees
    1,759       1,878       1,370  
Office supplies
    1,323       1,426       1,378  
ATM processing expenses
    975       986       511  
Non-employee production commissions
    648       310       54  
 
Note 17.   Fair Value
 
Financial Instruments Measured at Fair Value
 
Fair value is defined as the price that would be received to sell an asset or paid to transfer a liability in an orderly transaction between market participants. A fair value measurement assumes that the transaction to sell the asset or transfer the liability occurs in the principal market for the asset or liability or, in the absence of a principal market, the most advantageous market for the asset or liability. The price in the principal, or most advantageous, market used to measure the fair value of the asset or liability shall not be adjusted for transaction costs. An orderly transaction is a transaction that assumes exposure to the market for a period prior to the measurement date to allow for marketing activities that are usual and customary for transactions involving such assets and liabilities; it is not a forced transaction. Market participants are buyers and sellers in the principal market that are (i) independent, (ii) knowledgeable, (iii) able to transact, and (iv) willing to transact.

90


Table of Contents

 
FIRST COMMUNITY BANCSHARES, INC.
 
NOTES TO CONSOLIDATED STATEMENTS — (Continued)
 
The fair value hierarchy is as follows:
 
     
Level 1 Inputs —
  Unadjusted quoted prices in active markets for identical assets or liabilities that the reporting entity has the ability to access at the measurement date.
Level 2 Inputs —
  Inputs other than quoted prices included in Level 1 that are observable for the asset or liability, either directly or indirectly. These might include quoted prices for similar assets or liabilities in active markets, quoted prices for identical or similar assets or liabilities in markets that are not active, inputs other than quoted prices that are observable for the asset or liability, such as interest rates, volatilities, prepayment speeds, and credit risks, or inputs that are derived principally from or corroborated by market data by correlation or other means.
Level 3 Inputs —
  Unobservable inputs for determining the fair values of assets or liabilities that reflect an entity’s own assumptions about the assumptions that market participants would use in pricing the assets or liabilities.
 
A description of the valuation methodologies used for instruments measured at fair value, as well as the general classification of such instruments pursuant to the valuation hierarchy, is set forth below. These valuation methodologies were applied to all of the Company’s assets and liabilities carried at fair value. In general, fair value is based upon quoted market prices, where available. If such quoted market prices are not available, fair value is based upon third party models that primarily use, as inputs, observable market-based parameters. Valuation adjustments may be made to ensure that financial instruments are recorded at fair value. These adjustments may include amounts to reflect counterparty credit quality, the Company’s creditworthiness, among other things, as well as unobservable parameters. Any such valuation adjustments are applied consistently over time. The Company’s valuation methodologies may produce a fair value calculation that may not be indicative of net realizable value or reflective of future fair values. While management believes the Company’s valuation methodologies are appropriate and consistent with other market participants, the use of different methodologies or assumptions to determine the fair value of certain financial instruments could result in a different estimate of fair value at the reporting date.
 
Securities Available-for-Sale:  Securities classified as available-for-sale are reported at fair value utilizing Level 1, Level 2, and Level 3 inputs. Securities are classified as Level 1 within the valuation hierarchy when quoted prices are available in an active market. This includes securities whose value is based on quoted market prices in active markets for identical assets. The Company also uses Level 1 inputs for the valuation of equity securities traded in active markets.
 
Securities are classified as Level 2 within the valuation hierarchy when the Company obtains fair value measurements from an independent pricing service. The fair value measurements consider observable data that may include dealer quotes, market spreads, cash flows, the U.S. Treasury yield curve, live trading levels, trade execution data, market consensus prepayment speeds, credit information, and the bond’s terms and conditions, among other things. Level 2 inputs are used to value U.S. Agency securities, mortgage-backed securities, municipal securities, single-issue trust preferred securities, certain pooled trust preferred securities, and certain equity securities that are not actively traded.
 
Securities are classified as Level 3 within the valuation hierarchy in certain cases when there is limited activity or less transparency to the valuation inputs. These securities include pooled trust preferred securities. In the absence of observable or corroborated market data, internally developed estimates that incorporate market-based assumptions are used when such information is available. The Level 3 inputs used to value pooled trust preferred security holdings are weighted between discounted cash flow model results and actual trades of the same and similar securities in the inactive trust preferred market. The cash flow modeling uses discount rates based upon observable market expectations, known defaults and deferrals, projected future defaults and deferrals, and projected prepayments to arrive at fair value.
 
Fair value models may be required when trading activity has declined significantly or does not exist, prices are not current or pricing variations are significant. The Company’s fair value from third party models utilizes modeling


91


Table of Contents

 
FIRST COMMUNITY BANCSHARES, INC.
 
NOTES TO CONSOLIDATED STATEMENTS — (Continued)
 
software that uses market participant data and knowledge of the structures of each individual security to develop cash flows specific to each security. The fair values of the securities are determined by using the cash flows developed by the fair value model and applying appropriate market observable discount rates. The discount rates are developed by determining credit spreads above a benchmark rate, such as LIBOR, and adding premiums for illiquidity developed based on a comparison of initial issuance spread to LIBOR versus a financial sector curve for recently issued debt to LIBOR. Specific securities that have increased uncertainty regarding the receipt of cash flows are discounted at higher rates due to the addition of a deal specific credit premium. Finally, internal fair value model pricing and external pricing observations are combined by assigning weights to each pricing observation. Pricing is reviewed for reasonableness based on the direction of the specific markets and the general economic indicators.
 
Other Assets and Associated Liabilities:  Securities held for trading purposes are recorded at fair value and included in “other assets” on the consolidated balance sheets. Securities held for trading purposes include assets related to employee deferred compensation plans. The assets associated with these plans are generally invested in equities and classified as Level 1. Deferred compensation liabilities, also classified as Level 1, are carried at the fair value of the obligation to the employee, which corresponds to the fair value of the invested assets.
 
Derivatives:  Derivatives are reported at fair value utilizing Level 2 inputs. The Company obtains dealer quotations based on observable data to value its derivatives.
 
Impaired Loans:  Certain impaired loans are reported at the fair value of the underlying collateral if repayment is expected solely from the collateral. Collateral values are estimated using Level 3 inputs based on appraisals adjusted for customized discounting criteria.
 
The Company maintains an active and robust problem credit identification system. When a credit is identified as exhibiting characteristics of weakening, the Company will assess the credit for potential impairment. Examples of weakening include delinquency and deterioration of the borrower’s capacity to repay as determined by the Company’s regular credit review function. As part of the impairment review, the Company will evaluate the current collateral value. It is the Company’s standard practice to obtain updated third party collateral valuations to assist management in measuring potential impairment of a credit and the amount of the impairment to be recorded.
 
Internal collateral valuations are generally performed within two to four weeks of the original identification of potential impairment and receipt of the third party valuation. The internal valuation is performed by comparing the original appraisal to current local real estate market conditions and experience and considers liquidation costs. The result of the internal valuation is compared to the outstanding loan balance, and, if warranted, a specific impairment reserve will be established at the completion of the internal evaluation.
 
A third party evaluation is typically received within thirty to forty-five days of the completion of the internal evaluation. Once received, the third party evaluation is reviewed by Special Assets staff and/or Credit Appraisal staff for reasonableness. Once the evaluation is reviewed and accepted, discounts to fair market value are applied based upon such factors as the bank’s historical liquidation experience of like collateral, and an estimated net realizable value is established. That estimated net realizable value is then compared to the outstanding loan balance to determine the amount of specific impairment reserve. The specific impairment reserve, if necessary, is adjusted to reflect the results of the updated evaluation. A specific impairment reserve is generally maintained on impaired loans during the time period while awaiting receipt of the third party evaluation as well as on impaired loans that continue to make some form of payment and liquidation is not imminent. Impaired loans not meeting the aforementioned criteria and that do not have a specific impairment reserve have usually been previously written down through a partial charge-off, to their net realizable value.
 
The Company’s Special Assets staff assumes the management and monitoring of all loans determined to be impaired. While awaiting the completion of the third party appraisal, the Company generally begins to complete the tasks necessary to gain control of the collateral and prepare for liquidation, including, but not limited to engagement


92


Table of Contents

 
FIRST COMMUNITY BANCSHARES, INC.
 
NOTES TO CONSOLIDATED STATEMENTS — (Continued)
 
of counsel, inspection of collateral, and continued communication with the borrower, if appropriate. Special Assets staff also regularly reviews the relationship to identify any potential adverse developments during this time.
 
Generally, the only difference between current appraised value, adjusted for liquidation costs, and the carrying amount of the loan less the specific reserve is any downward adjustment to the appraised value that the Company’s Special Assets staff determine appropriate. These differences are generally made up of costs to sell the property, as well as a deflator for the devaluation of property seen when banks are the sellers, and the Company deemed these adjustments as fair value adjustments.
 
Other Real Estate Owned.  The fair value of the Company’s other real estate owned is determined using current and prior appraisals, estimates of costs to sell, and proprietary qualitative adjustments. Accordingly, other real estate owned is stated at a Level 3 fair value.
 
The following tables summarize financial assets and financial liabilities measured at fair value on a recurring basis as of December 31, 2009 and 2008, segregated by the level of the valuation inputs within the fair value hierarchy utilized to measure fair value:
 
                                 
    December 31, 2009  
    Fair Value Measurements Using     Total
 
    Level 1     Level 2     Level 3     Fair Value  
          (In thousands)        
 
Available-for-sale securities:
                               
Agency securities
  $     $ 25,276     $     $ 25,276  
Agency mortgage-backed securities
          264,218             264,218  
Non-Agency prime residential MBS
          5,170             5,170  
Non-Agency Alt-A residential MBS
          11,301             11,301  
Municipal securities
          135,601             135,601  
Single-issue trust preferred securities
          41,110             41,110  
Pooled trust preferred securities
                1,648       1,648  
Equity securities
    1,713       20             1,733  
                                 
Total available-for-sale securities
    1,713       482,696       1,648       486,057  
Deferred compensation assets
    2,872                   2,872  
Derivative assets
          2             2  
Deferred compensation liabilities
    2,872                   2,872  
Derivative liabilities
          2,191             2,191  
 


93


Table of Contents

 
FIRST COMMUNITY BANCSHARES, INC.
 
NOTES TO CONSOLIDATED STATEMENTS — (Continued)
 
                                 
    December 31, 2008  
    Fair Value Measurements Using     Total
 
    Level 1     Level 2     Level 3     Fair Value  
    (In thousands)  
 
Available-for-sale securities:
                               
Agency securities
  $     $ 54,818     $     $ 54,818  
Agency mortgage-backed securities
          216,962             216,962  
Non-Agency prime residential MBS
          5,766             5,766  
Non-Agency Alt-A residential MBS
          10,750             10,750  
Municipal securities
          159,419             159,419  
Single-issue trust preferred securities
          33,541             33,541  
Pooled trust preferred securities
          4,445       28,067       32,512  
Equity securities
    6,811       144             6,955  
                                 
Total available-for-sale securities
    6,811       485,845       28,067       520,723  
Other assets
    2,637                   2,637  
Derivative assets
          39             39  
Other liabilities
    2,637                   2,637  
Derivative liabilities
          3,343             3,343  
 
The following table presents additional information about financial assets and liabilities measured at fair value at December 31, 2009, on a recurring basis and for which Level 3 inputs are utilized to determine fair value:
 
         
    Available-for-Sale
 
    Securities  
    (In thousands)  
 
Balance, January 1, 2009
  $ 28,067  
Total gains or losses (realized/unrealized)
       
Included in earnings
    (26,419 )
Payments and maturities
     
Transfers in and/or out of Level 3
     
         
Balance, December 31, 2009
  $ 1,648  
         
 
Certain financial and non-financial assets are measured at fair value on a nonrecurring basis; that is, the instruments are not measured at fair value on an ongoing basis but are subject to fair value adjustments in certain circumstances, for example, when there is evidence of impairment. Items subjected to nonrecurring fair value adjustments at December 31, 2009, and December 31, 2008, are as follows:
 
                                 
    December 31, 2009
    Fair Value Measurements Using   Total
    Level 1   Level 2   Level 3   Fair Value
    (In thousands)
 
Impaired loans
  $     $     $ 11,702     $ 11,702  
Other real estate owned
                4,578       4,578  
 

94


Table of Contents

 
FIRST COMMUNITY BANCSHARES, INC.
 
NOTES TO CONSOLIDATED STATEMENTS — (Continued)
 
                                 
    December 31, 2008
    Fair Value Measurements Using   Total
    Level 1   Level 2   Level 3   Fair Value
    (In thousands)
 
Impaired loans
  $     $     $ 5,980     $ 5,980  
 
Fair Value of Financial Instruments
 
Fair value information about financial instruments, whether or not recognized in the balance sheet, for which it is practical to estimate the value is based upon the characteristics of the instruments and relevant market information. Financial instruments include cash, evidence of ownership in an entity, or contracts that convey or impose on an entity that contractual right or obligation to either receive or deliver cash for another financial instrument. Fair value is the amount at which a financial instrument could be exchanged in a current transaction between willing parties, other than in a forced sale or liquidation, and is best evidenced by a quoted market price if one exists.
 
The following summary presents the methodologies and assumptions used to estimate the fair value of the Company’s financial instruments presented below. The information used to determine fair value is highly subjective and judgmental in nature and, therefore, the results may not be precise. Subjective factors include, among other things, estimates of cash flows, risk characteristics, credit quality, and interest rates, all of which are subject to change. Since the fair value is estimated as of the balance sheet date, the amounts that will actually be realized or paid upon settlement or maturity on these various instruments could be significantly different.
 
                                 
    December 31, 2009     December 31, 2008  
    Carrying
          Carrying
       
    Amount     Fair Value     Amount     Fair Value  
          (Amounts in thousands)        
 
Assets
                               
Cash and cash equivalents
  $ 101,341     $ 101,341     $ 46,439     $ 46,439  
Investment Securities
    493,511       493,636       529,393       529,525  
Loans held for sale
    11,576       11,580       1,024       1,026  
Loans held for investment (restated)
    1,369,654       1,362,814       1,280,377       1,274,675  
Accrued interest receivable
    8,610       8,610       10,084       10,084  
Bank owned life insurance
    40,972       40,972       40,784       40,784  
Derivative financial assets
    2       2       39       39  
Deferred compensation assets
    2,872       2,872       2,637       2,637  
Liabilities
                               
Demand deposits
    208,244       208,244     $ 199,712     $ 199,712  
Interest-bearing demand deposits
    231,907       231,907       185,117       185,117  
Savings deposits
    381,381       381,381       309,577       309,577  
Time deposits
    824,428       834,546       809,352       824,068  
Securities sold under agreements to repurchase
    153,634       156,653       165,914       177,454  
Accrued interest payable
    4,130       4,130       5,326       5,326  
FHLB and other indebtedness
    198,924       208,334       215,877       242,223  
Derivative financial liabilities
    2,191       2,191       3,343       3,343  
Deferred compensation liabilities
    2,872       2,872       2,637       2,637  

95


Table of Contents

 
FIRST COMMUNITY BANCSHARES, INC.
 
NOTES TO CONSOLIDATED STATEMENTS — (Continued)
 
Cash and Cash Equivalents:
 
The book values of cash and due from banks and federal funds sold and purchased are considered to be equal to fair value as a result of the short-term nature of these items.
 
Investment Securities and Deferred Compensation Assets and Liabilities:
 
Fair values are determined in the same manner as described above.
 
Loans:
 
The estimated fair value of loans held for investment is measured based upon discounted future cash flows using current rates for similar loans. Loans held for sale are recorded at lower of cost or estimated fair value. The fair value of loans held for sale is determined based upon the market sales price of similar loans.
 
Accrued Interest Receivable and Payable:
 
The book value is considered to be equal to the fair value due to the short-term nature of the instrument.
 
Bank-owned Life Insurance:
 
The fair value is determined by stated contract values.
 
Derivative Financial Instruments:
 
The estimated fair value of derivative financial instruments is based upon the current market price for similar instruments.
 
Deposits and Securities Sold Under Agreements to Repurchase:
 
Deposits without a stated maturity, including demand, interest bearing demand, and savings accounts, are reported at their carrying value. No value has been assigned to the franchise value of these deposits. For other types of deposits and repurchase agreements with fixed maturities and rates, fair value has been estimated by discounting future cash flows based on interest rates currently being offered on instruments with similar characteristics and maturities.
 
FHLB and Other Indebtedness:
 
Fair value has been estimated based on interest rates currently available to the Company for borrowings with similar characteristics and maturities. The fair value for trust preferred obligations has been estimated based on credit spreads seen in the marketplace for like issues.
 
Commitments to Extend Credit, Standby Letters of Credit, and Financial Guarantees:
 
The amount of off-balance sheet commitments to extend credit, standby letters of credit, and financial guarantees is considered equal to fair value. Because of the uncertainty involved in attempting to assess the likelihood and timing of commitments being drawn upon, coupled with the lack of an established market and the wide diversity of fee structures, the Company does not believe it is meaningful to provide an estimate of fair value that differs from the given value of the commitment.


96


Table of Contents

 
FIRST COMMUNITY BANCSHARES, INC.
 
NOTES TO CONSOLIDATED STATEMENTS — (Continued)
 
 
Note 18.   Accumulated Other Comprehensive Income (Loss)
 
The components of the Company’s comprehensive income (loss), net of income taxes, as of December 31, 2009, 2008 and 2007, were as follows:
 
                         
    December 31,  
    2009     2008     2007  
    (In thousands)  
    (Restated)     (Restated)      
 
Net (loss) income
  $ (38,696 )   $ 1,954     $ 29,632  
Other comprehensive income (loss)
                       
Unrealized loss on securities available-for-sale with other-than-temporary impairment
    (28 )            
Unrealized loss on securities available-for-sale without other-than-temporary impairment
    (10,103 )            
Unrealized loss on securities available-for-sale prior to adoption of ASC Topic 320
          (102,303 )     (11,028 )
Reclassification adjustment for losses (gains) realized in net income
    11,673       30,100       263  
Reclassification adjustment for credit related other-than-temporary impairments recognized in earnings
    78,863              
Cumulative effect of change in accounting principle
    (9,771 )            
Unrealized (loss) gain on derivative securities
    1,073       (2,007 )     (1,760 )
Change related to employee benefit plans
          (1,180 )      
Income tax effect
    (26,711 )     30,156       5,010  
                         
Total other comprehensive income (loss)
    44,996       (45,234 )     (7,515 )
                         
Comprehensive income (loss)
  $ 6,300     $ (43,280 )   $ 22,117  
                         
 
The components of the Company’s accumulated other comprehensive income (loss), net of income taxes, as of December 31, 2009 and 2008, were as follows:
 
                                 
          Unrealized
             
    Unrealized
    Loss
    Benefit
    Accumulated
 
    Loss
    on Cash Flow
    Plan
    Comprehensive
 
    on Securities     Hedge Derivative     Liability     Loss  
    (Amounts in thousands)  
 
December 31, 2009
  $ (11,543 )   $ (1,323 )   $ (786 )   $ (13,652 )
                                 
December 31, 2008
  $ (49,813 )   $ (1,996 )   $ (708 )   $ (52,517 )
                                 


97


Table of Contents

 
FIRST COMMUNITY BANCSHARES, INC.
 
NOTES TO CONSOLIDATED STATEMENTS — (Continued)
 
 
Note 19.   Parent Company Financial Information
 
Condensed financial information related to First Community as of December 31, 2009 and 2008, and for each of the years ended December 31, 2009, 2008, and 2007, is as follows:
 
                 
    December 31,  
Condensed Balance Sheets
  2009     2008  
    (Amounts in thousands)  
    (Restated)     (Restated)  
 
Assets
               
Cash
  $ 17,426     $ 2,038  
Securities available for sale
    10,142       11,609  
Loans
          1,000  
Investment in subsidiary
    233,072       210,402  
Other assets
    4,563       8,167  
                 
Total assets
  $ 265,203     $ 233,216  
                 
Liabilities
               
Other liabilities
  $ 310     $ 603  
Long-term debt
    15,464       15,464  
                 
Total liabilities
    15,774       16,067  
Stockholders’ Equity
               
Preferred stock
          40,419  
Common stock
    18,083       12,051  
Additional paid-in capital
    190,967       128,526  
Retained earnings
    63,922       104,038  
Treasury stock
    (9,891 )     (15,368 )
Accumulated other comprehensive loss
    (13,652 )     (52,517 )
                 
Total stockholders’ equity
    249,429       217,149  
                 
Total liabilities and stockholders’ equity
  $ 265,203     $ 233,216  
                 
 
                         
    Years Ended December 31,  
Condensed Statements of Income
  2009     2008     2007  
    (Amounts in thousands)  
    (Restated)     (Restated)          
 
Cash dividends received from subsidiary bank
  $ 4,027     $ 22,383     $ 26,408  
Other income
    3,774       2,104       2,853  
Operating expense
    (3,030 )     (2,200 )     (2,106 )
Income tax benefit (expense)
    (2,691 )     24       (545 )
Equity in undistributed earnings (loss) of subsidiary
    (40,776 )     (20,357 )     3,022  
                         
Net income (loss)
    (38,696 )     1,954       29,632  
Dividends on preferred stock
    2,160       255        
                         
Net income (loss) available to common shareholders
  $ (40,856 )   $ 1,699     $ 29,632  
                         
 


98


Table of Contents

 
FIRST COMMUNITY BANCSHARES, INC.
 
NOTES TO CONSOLIDATED STATEMENTS — (Continued)
 
                         
    Years Ended December 31,  
Condensed Statements of Cash Flows
  2009     2008     2007  
    (Amounts in thousands)  
    (Restated)     (Restated)  
 
Cash flows from operating activities
                       
Net income (loss)
  $ (38,696 )   $ 1,954     $ 29,632  
Adjustments to reconcile net income to net cash provided by
                       
operating activities:
                       
Equity in undistributed loss (earnings) of subsidiary
    40,776       20,357       (3,022 )
Loss (gain) on sale of securities
    60       625       (447 )
(Increase) decrease in other assets
    661       (2,059 )     (2,678 )
(Decrease) increase in other liabilities
    881       (7 )     996  
Other, net
    1,081       2,471        
                         
Net cash provided by operating activities
    4,763       23,341       24,481  
                         
Cash flows from investing activities
                       
Purchase of securities available for sale
    (931 )     (13,117 )     (3,217 )
Proceeds from sale of securities available for sale
    4,402       3,324       4,671  
Investment in subsidiary
    (10,000 )     (40,000 )     (5,397 )
Other, net
    1,000       (1,042 )     (2,390 )
                         
Net cash provided by (used in) investing activities
    (5,529 )     (50,835 )     (6,333 )
                         
Cash flows from financing activities
                       
Issuance of preferred stock
          41,500        
Redemption of preferred stock
    (41,500 )            
Issuance of common stock
    61,688       606       1,117  
Acquisition of treasury stock
    (167 )     (4,222 )     (9,170 )
Common dividends paid
    (4,620 )     (12,452 )     (12,079 )
Preferred dividends paid
    (1,116 )            
Other, net
    1,869       1,220       353  
                         
Net cash provided by (used in) financing activities
    16,154       26,652       (19,779 )
                         
Net increase (decrease) in cash and cash equivalents
    15,388       (842 )     (1,631 )
Cash and cash equivalents at beginning of year
    2,038       2,880       4,511  
                         
Cash and cash equivalents at end of year
  $ 17,426     $ 2,038     $ 2,880  
                         
 
Note 20.   Segment Information
 
The Company operates within two business segments, community banking and insurance services. The Community Banking segment includes both commercial and consumer lending and deposit services. This segment provides customers with such products as commercial loans, real estate loans, business financing and consumer loans. This segment also provides customers with several choices of deposit products including demand deposit accounts, savings accounts and certificates of deposit. In addition, the Community Banking segment provides wealth management services to a broad range of customers. The Insurance Services segment is a full-service insurance agency providing commercial and personal lines of insurance.

99


Table of Contents

 
FIRST COMMUNITY BANCSHARES, INC.
 
NOTES TO CONSOLIDATED STATEMENTS — (Continued)
 
The following table sets forth information about the reportable operating segments and reconciliation of this information to the consolidated financial statements at and for the year ended December 31, 2009 and 2008.
 
                                 
    December 31, 2009  
    Community
    Insurance
    Parent/
       
    Banking     Services     Elimination     Total  
    (Restated)     (In thousands)     (Restated)  
 
Net interest income
  $ 69,364     $ (73 )   $ (39 )   $ 69,252  
Provision for loan losses
    15,801                   15,801  
Noninterest income
    (60,839 )     7,427       (265 )     (53,677 )
Noninterest expense
    61,523       6,139       (1,038 )     66,624  
                                 
Income (loss) before income taxes
    (68,799 )     1,215       734       (66,850 )
Provision for income taxes (benefit)
    (30,568 )     506       1,908       (28,154 )
                                 
Net income (loss)
  $ (38,231 )   $ 709     $ (1,174 )   $ (38,696 )
                                 
End of period goodwill and other intangibles
  $ 79,419     $ 11,642     $     $ 91,061  
                                 
End of period assets
  $ 2,247,396     $ 12,230     $ 13,657     $ 2,273,283  
                                 
 
                                 
    December 31, 2008  
    Community
    Insurance
    Parent/
       
    Banking     Services     Elimination     Total  
    (Restated)     (In thousands)     (Restated)  
 
Net interest income
  $ 66,703     $ (49 )   $ (819 )   $ 65,835  
Provision for loan losses
    9,226                   9,226  
Noninterest income
    (4,730 )     5,042       2,062       2,374  
Noninterest expense
    57,704       4,371       (1,559 )     60,516  
                                 
Income before income taxes
    (4,957 )     622       2,802       (1,533 )
Provision for income taxes (benefit)
    (4,479 )     183       809       (3,487 )
                                 
Net income
  $ (478 )   $ 439     $ 1,993     $ 1,954  
                                 
End of period goodwill and other intangibles
  $ 78,869     $ 10,743     $     $ 89,612  
                                 
End of period assets
  $ 2,102,318     $ 12,111     $ 17,758     $ 2,132,187  
                                 


100


Table of Contents

 
FIRST COMMUNITY BANCSHARES, INC.
 
NOTES TO CONSOLIDATED STATEMENTS — (Continued)
 
 
Note 21.   Supplemental Financial Data (Unaudited)
 
Quarterly earnings for the years ended December 31, 2009 and 2008, are as follows:
 
                                 
    2009
 
    Quarter Ended  
    March 31    June 30    Sept 30    Dec 31  
    (Amounts in thousands, except per share Data)  
    (Restated)         (Restated)    (Restated)  
 
Interest income
  $ 26,863     $ 26,189     $ 27,130     $ 27,752  
Interest expense
    10,430       9,868       9,594       8,790  
                             
Net interest income
    16,433       16,321       17,536       18,962  
Provision for loan losses
    2,148       2,552       3,819       7,282  
                             
Net interest income after provision for loan losses
    14,285       13,769       13,717       11,680  
Other income
    8,006       3,867       ( 18,150 )     (35,727 )
Net securities gains (losses)
    411       1,653       866       (14,603 )
Other expenses
    15,187       16,041       17,768       17,628  
                             
Income (loss) before income taxes
    7,515       3,248       (21,335 )     (56,278 )
Income taxes
    2,323       843       (9,783 )     (21,537 )
                             
Net income (loss)
    5,192       2,405       (11,552 )     (34,741 )
Preferred dividends
    571       578       1,011        
                             
Net income (loss) available to common shareholders
  $ 4,621     $ 1,827     $ (12,563 )   $ (34,741 )
                             
Per share:
                               
Basic earnings
  $ 0.40     $ 0.14     $ (0.72 )   $ (1.96 )
Diluted earnings
  $ 0.40     $ 0.14     $ (0.72 )   $ (1.96 )
Dividends
  $     $ 0.20     $ 0.10     $  
Weighted average basic shares outstanding
    11,568       12,696       17,427       17,687  
                             
Weighted average diluted shares outstanding
    11,617       12,741       17,427       17,687  
                             
 


101


Table of Contents

 
FIRST COMMUNITY BANCSHARES, INC.
 
NOTES TO CONSOLIDATED STATEMENTS — (Continued)
 
                                 
    2008
 
    Quarter Ended  
    March 31     June 30     Sept 30     Dec 31  
    (Amounts in thousands, except per share Data)  
                        (Restated)  
 
Interest income
  $ 29,547     $ 27,433     $ 26,550     $ 27,235  
Interest expense
    13,187       10,808       10,227       10,708  
                                 
Net interest income
    16,360       16,625       16,323       16,527  
Provision for loan losses
    323       937       3,461       4,505  
                                 
Net interest income after provision for loan losses
    16,037       15,688       12,862       12,022  
Other income
    7,321       7,574       7,720       (22,140 )
Net securities gains (losses)
    1,820       150       163       (234 )
Other expenses
    16,283       14,759       14,441       15,033  
                                 
Income (loss) before income taxes
    8,895       8,653       6,304       (25,385 )
Income taxes
    2,583       2,415       1,753       (10,238 )
                                 
Net income (loss)
    6,312       6,238       4,551       (15,147 )
Preferred dividends
                      255  
                                 
Net income (loss) available to common shareholders
  $ 6,312     $ 6,238     $ 4,551     $ (15,402 )
                                 
Per share:
                               
Basic earnings
  $ 0.57     $ 0.57     $ 0.42     $ (1.37 )
Diluted earnings
  $ 0.57     $ 0.56     $ 0.41     $ (1.37 )
Dividends
  $ 0.28     $ 0.28     $ 0.28     $ 0.28  
Weighted average basic shares outstanding
    11,030       10,992       10,957       11,252  
                                 
Weighted average diluted shares outstanding
    11,108       11,073       11,034       11,252  
                                 

102


Table of Contents

- REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM -
To the Audit Committee of the Board of Directors and the Stockholders
First Community Bancshares, Inc.
     We have audited the accompanying consolidated balance sheets of First Community Bancshares, Inc. and its Subsidiaries (the “Company”) as of December 31, 2009 and 2008, and the related consolidated statements of income (loss), changes in stockholders’ equity and cash flows for each of the years in the three-year period ended December 31, 2009. These consolidated financial statements are the responsibility of the Company’s management. Our responsibility is to express an opinion on these financial statements based on our audits.
     We conducted our audits in accordance with the standards of the Public Company Accounting Oversight Board (United States). Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements. An audit also includes assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall financial statement presentation. We believe that our audits provide a reasonable basis for our opinion.
     In our opinion, the consolidated financial statements referred to above present fairly, in all material respects, the financial position of First Community Bancshares, Inc. and its Subsidiaries as of December 31, 2009 and 2008, and the results of their operations and their cash flows for each of the years in the three-year period ended December 31, 2009 in conformity with accounting principles generally accepted in the United States of America.
     As discussed in Note 1 to the consolidated financial statements, the Company adopted, in 2009, new business combination and investment impairment accounting standards. Also, as discussed in Note 2 to the consolidated financial statements, the consolidated financial statements for 2009 and 2008 have been restated for the correction of an error.
     We also have audited, in accordance with the standards of the Public Company Accounting Oversight Board (United States), the Company’s internal control over financial reporting as of December 31, 2009, based on criteria established in Internal Control—Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission (COSO), and our report dated March 4, 2010, except for the effects of the material weakness described in Management’s Assessment of Internal Control Over Financial Reporting, as to which the date is August 13, 2010, expressed an adverse opinion on the effectiveness of the Company’s internal control over financial reporting.
(DIXON HUGHES PLLC)
Asheville, North Carolina
March 4, 2010, except for the effects of the restatement as described in Note 2, for which the date is August 13, 2010.

103


Table of Contents

MANAGEMENT’S ASSESSMENT OF INTERNAL CONTROL OVER FINANCIAL REPORTING
 
First Community Bancshares, Inc. (the “Company”) is responsible for the preparation, integrity, and fair presentation of the consolidated financial statements included in this Annual Report on Form 10-K/A. The consolidated financial statements and notes included in this Annual Report on Form 10-K/A have been prepared in conformity with U.S. generally accepted accounting principles and necessarily include some amounts that are based on management’s best estimates and judgments.
 
We, as management of the Company, are responsible for establishing and maintaining effective internal control over financial reporting that is designed to produce reliable financial statements in conformity with U.S. generally accepted accounting principles. The system of internal control over financial reporting as it relates to the financial statements is evaluated for effectiveness by management and tested for reliability. Any system of internal control, no matter how well designed, 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 financial statement preparation.
 
Management conducted an assessment of the effectiveness of the Company’s internal control over financial reporting based on the framework in Internal Control-Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission. In the Company’s Annual Report on Form 10-K for the year ended December 31, 2009, filed on March 4, 2010, management concluded that the Company’s system of internal control over financial reporting was effective as of December 31, 2009. Subsequently, management identified a material weakness in the Company’s system of internal control over financial reporting with respect to ensuring the appropriate calculation of its allowance for loan losses. Specifically, during a process enhancement to the model that calculates the allowance for loan losses, the quarterly average loss rate was not annualized due to a computational error. Control procedures in place for reviewing the quantitative model for calculating the allowance for loan losses did not timely identify this error and, as such, the Company did not have adequately designed procedures. This material weakness resulted in this amendment to our Annual Report on Form 10-K for the year ended December 31, 2009, in order to restate the financial statements for the years ended December 31, 2009 and 2008, as described in Note 2 - Restatement of Consolidated Financial Statements of the Notes to the Consolidated Financial Statements in Item 8 hereof. Solely as a result of this material weakness, management has revised its earlier assessment and has now concluded that the Company’s internal control over financial reporting was not effective as of December 31, 2009.
 
Dixon Hughes PLLC, independent registered public accounting firm, has issued an attestation report on management’s revised assessment of the effectiveness of the Company’s internal control over financial reporting as of December 31, 2009. The Report of Independent Registered Public Accounting Firm appears hereafter in Item 8 of this Annual Report on Form 10-K/A.
 
Dated this 16th day of August, 2010.
 
/s/  John M. Mendez
John M. Mendez
President and Chief Executive Officer
 
/s/  David D. Brown
David D. Brown
Chief Financial Officer


104


Table of Contents

- Report of Independent Registered Public Accounting Firm -
To the Audit Committee of the Board of Directors and the Stockholders
First Community Bancshares, Inc.
     We have audited First Community Bancshares, Inc. and Subsidiary’s (the “Company”) internal control over financial reporting as of December 31, 2009, based on criteria established in Internal Control—Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission. The Company’s management is responsible for maintaining effective internal control over financial reporting and for its assessment of the effectiveness of internal control over financial reporting, included in the accompanying Management’s Assessment of Internal Control over Financial Reporting. Our responsibility is to express an opinion on the Company’s internal control over financial reporting based on our audit.
     We conducted our audit in accordance with the standards of the Public Company Accounting Oversight Board (United States). Those standards require that we plan and perform the audit to obtain reasonable assurance about whether effective internal control over financial reporting was maintained in all material respects. Our audit included obtaining an understanding of internal control over financial reporting, assessing the risk that a material weakness exists, and testing and evaluating the design and operating effectiveness of internal control based on the assessed risk. Our audit also included performing such other procedures as we considered necessary in the circumstances. We believe that our audit provides a reasonable basis for our opinion.
     A company’s internal control over financial reporting is a process designed to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements for external purposes in accordance with generally accepted accounting principles. A company’s internal control over financial reporting includes those policies and procedures that (1) pertain to the maintenance of records that, in reasonable detail, accurately and fairly reflect the transactions and dispositions of the assets of the company; (2) provide reasonable assurance that transactions are recorded as necessary to permit preparation of financial statements in accordance with generally accepted accounting principles, and that receipts and expenditures of the company are being made only in accordance with authorizations of management and directors of the company; and (3) provide reasonable assurance regarding prevention or timely detection of unauthorized acquisition, use, or disposition of the Company’s assets that could have a material effect on the financial statements.
     Because of its inherent limitations, internal control over financial reporting may not prevent or detect misstatements. Also, projections of any evaluation of effectiveness to future periods are subject to the risk that controls may become inadequate because of changes in conditions, or that the degree of compliance with the policies or procedures may deteriorate.
     In our report dated March 4, 2010, we expressed an unqualified opinion on the effectiveness of the Company’s internal control over financial reporting. As described in the following paragraph, a material weakness was subsequently identified as a result of the restatement of the Company’s December 31, 2009 financial statements. Accordingly, management has revised its assessment about the effectiveness of the Company’s internal control over financial reporting, and our present opinion on the effectiveness of the Company’s internal control over financial reporting as of December 31, 2009, as expressed herein, is different from that expressed in our previous report.
     A material weakness is a deficiency, or a combination of deficiencies, in internal control over financial reporting, such that there is a reasonable possibility that a material misstatement of the annual or interim financial statements will not be prevented or detected on a timely basis. A material weakness related to an ineffective review process over the formulas in the Company’s allowance for loan loss reserve model has been identified. This material weakness has resulted in restatement of the Company’s 2008 and 2009 consolidated financial statements, and the first quarter consolidated financial statements for 2010.
     In our opinion, because of the effect of the material weakness discussed above, the Company did not maintain effective internal control over financial reporting as of December 31, 2009, based on criteria established in Internal Control—Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission.
     We also have audited, in accordance with the standards of the Public Company Accounting Oversight Board (United States), the consolidated balance sheet as of December 31, 2009, and the related consolidated statements of operations, changes in stockholders’ equity, and cash flows of the Company for the year ended December 31, 2009, and our report dated March 4, 2010, except for the effects of the restatement as described in Note 2 for which the date is August 13, 2010, expressed an unqualified opinion with explanatory paragraphs regarding the restatement and the adoption of certain accounting standards. The aforementioned material weakness was considered in assessing the nature, timing, and extent of audit tests applied in our audit of the consolidated financial statements of the Company. This material weakness does not affect our report on those consolidated financial statements.
(DIXON HUGHES PLLC)
Asheville, North Carolina
March 4, 2010, except for the effects of the material weakness described in Management’s Assessment of Internal Control over Financial Reporting, as to which the date is August 13, 2010

105


Table of Contents

ITEM 9.   CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND FINANCIAL DISCLOSURE.
 
None.
 
ITEM 9A.   CONTROLS AND PROCEDURES.
 
In connection with the restatement discussed in the Explanatory Note and in Note 2 — Restatement of Consolidated Financial Statements of the Notes to the Consolidated Financial Statements of this Annual Report on Form 10-K/A, under the direction of the Company’s Chief Executive Officer and Chief Financial Officer, we reevaluated our disclosure controls and procedures. The Company identified a material weakness in our internal control over financial reporting with respect to ensuring the appropriate calculation of its allowance for loan losses. Specifically, during a process enhancement to the model that calculates the allowance for loan losses, the quarterly average loss rate was not annualized. Control procedures in place for reviewing the quantitative model for calculating the allowance for loan losses did not timely identify this error and, as such, the Company did not have adequately designed procedures. Solely as a result of this material weakness, we concluded that our disclosure controls and procedures were not effective as of December 31, 2009. As of July 27, 2010, the Company has corrected the computational error in its model for calculating the allowance for loan losses ..
 
Except for the foregoing, there were no changes in the Company’s internal control over financial reporting during the quarter ended December 31, 2009, that has materially affected, or is reasonably likely to materially affect, the Company’s internal control over financial reporting.
 
Disclosure controls and procedures are Company controls and other procedures that are designed to ensure that information required to be disclosed by the Company in the reports that it files or submits under the Exchange Act is recorded, processed, summarized and reported within the time periods specified in the SEC’s rules and forms. Disclosure controls and procedures include, without limitation, controls and procedures designed to ensure that information required to be disclosed by the Company in the reports that it files or submits under the Exchange Act is accumulated and communicated to the Company’s management, including the Chief Executive Officer and Chief Financial Officer, as appropriate, to allow timely decisions regarding required disclosure.
 
The Company’s Management’s Report on Internal Control Over Financial Reporting and the Report of Independent Registered Public Accounting Firm on Management’s Assessment of Internal Control Over Financial Reporting are each hereby incorporated by reference from Item 8 of this Annual Report on Form 10-K/A.
 
ITEM 9B.   OTHER INFORMATION.
 
None.
 
PART III
 
ITEM 10.   DIRECTORS, EXECUTIVE OFFICERS AND CORPORATE GOVERNANCE.
 
The required information concerning directors and executive officers has been omitted in accordance with General Instruction G. Such information regarding directors and executive officers will be set forth under the headings of “Election of Directors”, “Continuing Directors”, and “Executive Officers who are not Directors” of the Proxy Statement relating to the 2010 Annual Meeting of Stockholders and is incorporated herein by reference.
 
Information relating to compliance with Section 16(a) of the Exchange Act has been omitted in accordance with General Instruction G. Such information will be set forth under the heading of “Section 16(a) Beneficial Ownership Reporting Compliance” of the Proxy Statement relating to the 2010 Annual Meeting of Stockholders and is incorporated herein by reference.
 
The Company has adopted a Standards of Conduct that applies to its principal executive officer, principal financial officer, principal accounting officer or controller or persons performing similar functions, as well as all employees and directors of the Company. A copy of the Company’s Standard of Conduct is available on the Company’s website at www.fcbinc.com. There have been no waivers of the standard of conduct related to any of the above officers.
 
Information relating to the Audit Committee and the Audit Committee Financial Expert has been omitted in accordance with General Instruction G. Such information regarding the Audit Committee and the Audit Committee


106


Table of Contents

Financial Expert will be set forth under the heading “Report of the Audit Committee” of the Proxy Statement relating to the 2010 Annual Meeting of Stockholders and is incorporated herein by reference.
 
Since the last report on Form 10-K, filed on March 13, 2009, the Company has not made any material changes to the procedures by which stockholders may recommend nominees to the Company’s board of directors.
 
BOARD OF DIRECTORS, FIRST COMMUNITY BANCSHARES, INC.
 
     
Franklin P. Hall
  A. A. Modena
Businessman; Senior Partner, Hall & Hall Family Law Firm; Commissioner, Virginia Department of Alcoholic Beverage Control; Former Delegate, Virginia General Assembly   Past Executive Vice President and Secretary, First Community Bancshares, Inc.; Past President and Chief Executive Officer, The Flat Top National Bank of Bluefield
     
Allen T. Hamner, Ph.D.    Robert E. Perkinson, Jr.
Retired Professor of Chemistry, West Virginia Wesleyan College   Past Vice President-Operations, MAPCO Coal, Inc. — Virginia Region
     
Richard S. Johnson   William P. Stafford
President, The Wilton Companies
  President, Princeton Machinery Service, Inc.
     
I. Norris Kantor   William P. Stafford, II
Of Counsel, Katz, Kantor & Perkins,
Attorneys at Law
  Attorney at Law, Brewster, Morhous, Cameron, Caruth, Moore, Kersey & Stafford, PLLC
     
John M. Mendez    
President and Chief Executive Officer, First Community Bancshares, Inc.; Chief Executive Officer, First Community Bank, N. A.    
 
EXECUTIVE OFFICERS, FIRST COMMUNITY BANCSHARES, INC.
 
     
John M. Mendez
  E. Stephen Lilly
President and Chief Executive Officer   Chief Operating Officer
     
David D. Brown   Robert L. Buzzo
Chief Financial Officer   Vice President and Secretary


107


Table of Contents

BOARD OF DIRECTORS, FIRST COMMUNITY BANK, N. A.
 
     
W. C. Blankenship, Jr. 
  I. Norris Kantor
Agent, State Farm Insurance   Of Counsel, Katz, Kantor & Perkins,
Attorneys at Law
     
D. L. Bowling, Jr.    John M. Mende
President, Best Energy, Inc.    President and Chief Executive Officer, First Community Bancshares, Inc.; Chief Executive Officer, First Community Bank, N. A.
     
Juanita G. Bryan   A. A. Modena
Homemaker   Past Executive Vice President and Secretary, First Community Bancshares, Inc.; Past President and Chief Executive Officer, The Flat Top National Bank of Bluefield
     
Robert L. Buzzo   Robert E. Perkinson, Jr.
Vice President and Secretary, First Community Bancshares, Inc.; President, First Community Bank, N. A.   Past Vice President-Operations, MAPCO Coal, Inc. — Virginia Region
     
C. William Davis   William P. Stafford
Attorney at Law, Richardson & Davis   President, Princeton Machinery Service, Inc.
     
T. Vernon Foster   William P. Stafford, II
President of J. La’Verne Print Communications Past Director, TriStone Community Bank   Attorney at Law, Brewster, Morhous, Cameron, Caruth, Moore, Kersey & Stafford, PLLC
     
Franklin P. Hall   Frank C. Tinder
Businessman; Senior Partner, Hall & Hall Family Law Firm; Commissioner, Virginia Department of Alcoholic Beverage Control; Former Delegate, Virginia General Assembly   President, Tinder Enterprises, Inc. and Tinco Leasing Corporation
     
Allen T. Hamner, Ph.D.    Dale F. Woody
Retired Professor of Chemistry, West Virginia Wesleyan College   President, Woody Lumber Company
     
Richard S. Johnson    
President, The Wilton Companies    


108


Table of Contents

ITEM 11.   EXECUTIVE COMPENSATION.
 
The information called for by Item 11 has been omitted in accordance with General Instruction G. Such information will be set forth under the heading of “Compensation Discussion and Analysis” of the Proxy Statement relating to the 2010 Annual Meeting of Stockholders and is incorporated herein by reference.
 
ITEM 12.   SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT AND RELATED STOCKHOLDER MATTERS.
 
The required information concerning security ownership of certain beneficial owners and management has been omitted in accordance with General Instruction G. Such information appears under the heading of “Information on Stock Ownership” of the Proxy Statement relating to the 2010 Annual Meeting of Stockholders and is incorporated herein by reference.
 
Equity Compensation Plan Information
 
Information regarding compensation plans under which the Company’s equity securities are authorized for issuance as of December 31, 2009 is included in the table which follows.
 
                         
    Number of
          Number of Securities
 
    Securities to be
          Remaining Available
 
    Issued Upon
    Weighted-Average
    for Future Issuance
 
    Exercise of
    Exercise Price of
    Under Equity
 
    Outstanding
    Outstanding
    Compensation Plans
 
    Options, Warrants
    Options, Warrants
    (Excluding Securities
 
Plan Category
  and Rights     and Rights     Reflected in Column (a))  
    (a)     (b)     (c)  
 
Equity compensation plans approved by security holders
    56,625     $ 26.02       85,343  
Equity compensation plans not approved by security holders
    356,855     $ 22.05       71,801  
                         
Total
    413,480               157,144  
                         
 
For additional information regarding equity compensation plans, see Note 10 — Employee Benefits of the Notes to Consolidated Financial Statements included in Item 8 hereof.
 
ITEM 13.   CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS, AND DIRECTOR INDEPENDENCE.
 
The information called for by Item 13 has been omitted in accordance with General Instruction G. Such information will be set forth under the heading of “Related Party Transactions” of the Proxy Statement relating to the 2010 Annual Meeting of Stockholders and is incorporated herein by reference.
 
ITEM 14.   PRINCIPAL ACCOUNTING FEES AND SERVICES.
 
The information called for by Item 14 has been omitted in accordance with General Instruction G. Such information will be set forth under the heading of “Independent Auditor” of the Proxy Statement relating to the 2010 Annual Meeting of Stockholders and is incorporated herein by reference.


109


Table of Contents

 
PART IV
 
ITEM 15.   EXHIBITS, FINANCIAL STATEMENT SCHEDULES.
 
(a) Documents Filed as Part of this Report
 
(1) Financial Statements
 
The Consolidated Financial Statements of First Community Bancshares, Inc. and subsidiaries together with the Independent Registered Public Accounting Firm’s Report dated March 2, 2010, are incorporated by reference from Item 8 hereof.
 
(2) Financial Statement Schedules
 
No financial statement schedules are being filed since the required information is inapplicable or is presented in the consolidated financial statements or related notes.
 
(b) Exhibits
 
         
Exhibit No.
 
Exhibit
 
  2 .1   Reserved
  2 .2   Reserved
  3 (i)   Articles of Incorporation of First Community Bancshares, Inc., as amended.(1)
  3 (ii)   Certificate of Designation Series A Preferred Stock(22)
  3 (iii)   Bylaws of First Community Bancshares, Inc., as amended.(17)
  4 .1   Specimen stock certificate of First Community Bancshares, Inc.(3)
  4 .2   Indenture Agreement dated September 25, 2003.(11)
  4 .3   Amended and Restated Declaration of Trust of FCBI Capital Trust dated September 25, 2003.(11)
  4 .4   Preferred Securities Guarantee Agreement dated September 25, 2003.(11)
  4 .5   Reserved
  4 .6   Warrant to purchase 88,273 shares of Common Stock of First Community Bancshares, Inc.(22)
  10 .1**   First Community Bancshares, Inc. 1999 Stock Option Agreements(2) and Plan.(4)
  10 .1.1**   Amendment to First Community Bancshares, Inc. 1999 Stock Option Plan.(11)
  10 .2**   First Community Bancshares, Inc. 2001 Non-Qualified Directors Stock Option Plan.(5)
  10 .3**   Employment Agreement dated December 16, 2008, between First Community Bancshares, Inc. and John M. Mendez.(6)
  10 .4**   First Community Bancshares, Inc. 2000 Executive Retention Plan, as amended.(24)
  10 .5**   First Community Bancshares, Inc. Split Dollar Plan and Agreement.(2)
  10 .6**   First Community Bancshares, Inc. 2001 Directors Supplemental Retirement Plan.(2)
  10 .6.1**   First Community Bancshares, Inc. 2001 Directors Supplemental Retirement Plan. Second Amendment (B.W. Harvey, Sr. — October 19, 2004).(14)
  10 .7**   First Community Bancshares, Inc. Wrap Plan.(7)
  10 .8   Reserved
  10 .9**   Form of Indemnification Agreement between First Community Bancshares, Inc., its Directors and Certain Executive Officers.(9)
  10 .10**   Form of Indemnification Agreement between First Community Bank, N. A, its Directors and Certain Executive Officers.(9)
  10 .11   Reserved
  10 .12**   First Community Bancshares, Inc. 2004 Omnibus Stock Option Plan (10) and Award Agreement.(13)
  10 .13   Reserved
  10 .14**   First Community Bancshares, Inc. Directors Deferred Compensation Plan.(7)
  10 .15**   First Community Bancshares, Inc. Deferred Compensation and Supplemental Bonus Plan For Key Employees.(15)
  10 .16**   Employment Agreement dated November 30, 2006, between First Community Bank, N. A. and Ronald L. Campbell.(19)


110


Table of Contents

         
Exhibit No.
 
Exhibit
 
  10 .17**   Employment Agreement dated September 28, 2007, between GreenPoint Insurance Group, Inc. and Shawn C. Cummings.(20)
  10 .18   Securities Purchase Agreement by and between the United States Department of the Treasury and First Community Bancshares, Inc. dated November 21, 2008.(22)
  10 .19**   Employment Agreement dated December 16, 2008, between First Community Bancshares, Inc. and David D. Brown.(23)
  10 .20**   Employment Agreement dated December 16, 2008, between First Community Bancshares, Inc. and Robert L. Buzzo.(26)
  10 .21**   Employment Agreement dated December 16, 2008, between First Community Bancshares, Inc. and E. Stephen Lilly.(26)
  10 .22**   Employment Agreement dated December 16, 2008, between First Community Bank, N. A. and Gary R. Mills.(26)
  10 .23**   Employment Agreement dated December 16, 2008, between First Community Bank, N. A. and Martyn A. Pell.(26)
  10 .24**   Employment Agreement dated December 16, 2008, between First Community Bank, N. A. and Robert. L. Schumacher.(26)
  10 .25**   Employment Agreement dated July 31, 2009, between First Community Bank, N. A. and Simpson O. Brown.(25)
  10 .26**   Employment Agreement dated July 31, 2009, between First Community Bank, N. A. and Mark R. Evans.(25)
  11     Statement regarding computation of earnings per share.(16)
  12 *   Computation of Ratios
  21     Subsidiaries of Registrant — Reference is made to “Item 1. Business” for the required information
  23 .1*   Consent of Dixon Hughes PLLC, Independent Registered Public Accounting Firm for First Community Bancshares, Inc.
  31 .1*   Certification as Adopted Pursuant to Section 302(a) of the Sarbanes-Oxley Act of 2002 by Chief Executive Officer
  31 .2*   Certification as Adopted Pursuant to Section 302(a) of the Sarbanes-Oxley Act of 2002 by Chief Financial Officer
  32 *   Certification Pursuant to 18 U.S.C. Section 1350, as Adopted Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002 by Chief Executive Officer and Chief Financial Officer
  99 .1   Certification of Chief Executive Officer pursuant to Section 111(b) of the Emergency Economic Stabilization Act of 2008, from Amendment No. 1 to the 2009 Form 10-K.(27)
  99 .2   Certification of Chief Financial Officer pursuant to Section 111(b) of the Emergency Economic Stabilization Act of 2008, from Amendment No. 1 to the 2009 Form 10-K/A.(27)
 
 
Furnished herewith.
 
**  Indicates a management contract or compensation plan.
 
(1) Incorporated by reference from the Quarterly Report on Form 10-Q for the period ended June 30, 2005, filed on August 5, 2005.
 
(2) Incorporated by reference from the Quarterly Report on Form 10-Q for the period ended June 30, 2002, filed on August 14, 2002.
 
(3) Incorporated by reference from the Annual Report on Form 10-K for the period ended December 31, 2002, filed on March 25, 2003, as amended on March 31, 2003.
 
(4) Incorporated by reference from the Annual Report on Form 10-K for the period ended December 31, 1999, filed on March 30, 2000, as amended April 13, 2000.
 
(5) The option agreements entered into pursuant to the 1999 Stock Option Plan and the 2001 Non-Qualified Directors Stock Option Plan are incorporated by reference from the Quarterly Report on Form 10-Q for the period ended June 30, 2002, filed on August 14, 2002.
 
(6) Incorporated by reference from Exhibit 10.1 of the Current Report on Form 8-K dated and filed December 16, 2008. The Registrant has entered into substantially identical agreements with Robert L. Buzzo and E. Stephen Lilly, with the only differences being with respect to title and salary.
 
(7) Incorporated by reference from the Current Report on Form 8-K dated August 22, 2006, and filed August 23, 2006.

111


Table of Contents

 
(8) Reserved.
 
(9) Form of indemnification agreement entered into by the Company and by First Community Bank, N. A. with their respective directors and certain officers of each including, for the Registrant and Bank: John M. Mendez, Robert L. Schumacher, Robert L. Buzzo, E. Stephen Lilly, David D. Brown, and Gary R. Mills. Incorporated by reference from the Annual Report on Form 10-K for the period ended December 31, 2003, filed on March 15, 2004, and amended on May 19, 2004.
 
(10) Incorporated by reference from the 2004 First Community Bancshares, Inc. Definitive Proxy filed on March 15, 2004.
 
(11) Incorporated by reference from the Quarterly Report on Form 10-Q for the period ended September 30, 2003, filed on November 10, 2003.
 
(12) Incorporated by reference from the Quarterly Report on Form 10-Q for the period ended March 31, 2004, filed on May 7, 2004.
 
(13) Incorporated by reference from the Quarterly Report on Form 10-Q for the period ended June 30, 2004, filed on August 6, 2004.
 
(14) Incorporated by reference from the Annual Report on Form 10-K for the period ended December 31, 2004, and filed on March 16, 2005. Amendments in substantially similar form were executed for Directors Clark, Kantor, Hamner, Modena, Perkinson, Stafford, and Stafford II.
 
(15) Incorporated by reference from the Current Report on Form 8-K dated October 24, 2006, and filed October 25, 2006.
 
(16) Incorporated by reference from Footnote 1 of the Notes to Consolidated Financial Statements included herein.
 
(17) Incorporated by reference from Exhibit 3.1 of the Current Report on Form 8-K dated February 14, 2008, filed on February 20, 2008.
 
(18) Reserved
 
(19) Incorporated by reference from Exhibit 2.1 of the Form S-3 registration statement filed May 2, 2007.
 
(20) Incorporated by reference from the Annual Report on Form 10-K for the period ended December 31, 2007, filed on March 13, 2008.
 
(21) Reserved.
 
(22) Incorporated by reference from the Current Report on Form 8-K dated November 21, 2008, and filed November 24, 2008.
 
(23) Incorporated by reference from Exhibit 10.2 of the Current Report on Form 8-K dated and filed December 16, 2008.
 
(24) Incorporated by reference from Exhibit 10.1 of the Current Report on Form 8-K dated December 30, 2008, and filed January 5, 2009.
 
(25) Incorporated by reference from Exhibit 2.2 of the Current Report on Form 8-K dated April 2, 2009 and filed April 3, 2009.
 
(26) Incorporated by reference from the Current Report on Form 8-K dated and filed July 6, 2009.
 
(27) Incorporated by reference from the Annual Report on Amendment No. 1 to the Form 10-K/A for the year ended December 31, 2009, filed on April 1, 2010.


112


Table of Contents

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 on the 16th day of August, 2010.
 
First Community Bancshares, Inc.
(Registrant)
 
  By: 
/s/  John M. Mendez
John M. Mendez
President and Chief Executive Officer
(Principal Executive Officer)
 
  By: 
/s/  David D. Brown
David D. Brown
Chief Financial Officer
(Principal Accounting Officer)
 
Pursuant to the requirements of the Securities Exchange Act of 1934, this report has been signed below by the following persons on behalf of the Registrant and in the capacities and on the dates indicated.
 
             
Signature
 
Title
 
Date
 
         
/s/  John M. Mendez

John M. Mendez
  Director, President and
Chief Executive Officer
  August 16, 2010
         
/s/  David D. Brown

David D. Brown
  Chief Financial Officer   August 16, 2010
         
/s/  Franklin P. Hall

Franklin P. Hall
  Director   August 16, 2010
         
/s/  Allen T. Hamner

Allen T. Hamner
  Director   August 16, 2010
         
/s/  I. Norris Kantor

I. Norris Kantor
  Director   August 16, 2010
         
/s/  Richard S. Johnson

Richard S. Johnson
  Director   August 16, 2010
         
/s/  Robert E. Perkinson, Jr.

Robert E. Perkinson, Jr.
  Director   August 16, 2010
         
/s/  William P. Stafford

William P. Stafford
  Director   August 16, 2010
         
/s/  William P. Stafford, II

William P. Stafford, II
  Chairman of the Board of Directors   August 16, 2010


113