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<SEC-DOCUMENT>0000950134-03-004582.txt : 20030326
<SEC-HEADER>0000950134-03-004582.hdr.sgml : 20030325
<ACCEPTANCE-DATETIME>20030326144813
ACCESSION NUMBER: 0000950134-03-004582
CONFORMED SUBMISSION TYPE: 10-K
PUBLIC DOCUMENT COUNT: 8
CONFORMED PERIOD OF REPORT: 20021231
FILED AS OF DATE: 20030326
FILER:
COMPANY DATA:
COMPANY CONFORMED NAME: TEXAS CAPITAL BANCSHARES INC/TX
CENTRAL INDEX KEY: 0001077428
STANDARD INDUSTRIAL CLASSIFICATION: STATE COMMERCIAL BANKS [6022]
IRS NUMBER: 752671109
STATE OF INCORPORATION: DE
FISCAL YEAR END: 1231
FILING VALUES:
FORM TYPE: 10-K
SEC ACT: 1934 Act
SEC FILE NUMBER: 000-30533
FILM NUMBER: 03618026
BUSINESS ADDRESS:
STREET 1: 2100 MCKINNEY AVE
STREET 2: SUITE 1250
CITY: DALLAS
STATE: TX
ZIP: 75201
BUSINESS PHONE: 2149326600
MAIL ADDRESS:
STREET 1: 2100 MCKINNEY AVE
STREET 2: SUITE 1250
CITY: DALLAS
STATE: TX
ZIP: 75201
</SEC-HEADER>
<DOCUMENT>
<TYPE>10-K
<SEQUENCE>1
<FILENAME>d03206e10vk.txt
<DESCRIPTION>FORM 10-K
<TEXT>
<PAGE>
UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-K
[X] Annual Report pursuant to Section 13 or 15(d) of the Securities and
Exchange Act of 1934 for the fiscal year ended December 31, 2002
[ ] Transition Report pursuant to Section 13 or 15(d) of the Securities and
Exchange Act of 1934 for the transition period from __________ to _________
(No fee required)
TEXAS CAPITAL BANCSHARES, INC.
(Name of Registrant)
DELAWARE 000-30533 75-2679109
(State or other jurisdiction of (Commission (I.R.S. Employer
incorporation or organization) File Number) Identification Number)
2100 MCKINNEY AVENUE, SUITE 900, DALLAS, TEXAS, U.S.A.
(Address of principal executive officers)
75201
(Zip Code)
214-932-6600
(Registrant's telephone number,
including area code)
Securities registered under Section 12(b) of the Exchange Act:
NAME OF EACH EXCHANGE
TITLE OF EACH CLASS ON WHICH REGISTERED
------------------- ---------------------
None Not applicable
Securities registered under Section 12(g) of the Exchange Act:
COMMON STOCK, PAR VALUE $0.01 PER SHARE
(Title of class)
Check whether the issuer (1) filed all reports required to be filed by Section
13 or 15(d) of the Exchange Act 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.
[X] Yes [ ] No
Check if there is no disclosure of delinquent filers in response to Item 405 of
Regulation S-K contained in this form, and no disclosure will be contained, to
the best of registrant's knowledge, in definitive proxy or information
statements incorporated by reference in Part III of this Form 10-K or any
amendment to this Form 10-K. [ ]
Indicate by checkmark whether the registrant is an accelerated filer (as defined
in Rule 12b-2 of the Exchange Act). [X] Yes [ ] No
Information required by Part III of Form 10-K (documents incorporated by
reference) is incorporated by reference in this report from the Issuer's
Definitive Proxy Materials in accordance with Schedule 14A regarding the
Issuer's annual meeting of stockholders to be held May 20, 2003, which
Definitive Proxy Materials will be filed no later than April 30, 2003.
At February 28, 2003, there were 19,199,356 shares of the Issuer's common stock
outstanding.
The aggregate market value of common stock held by non-affiliates of the Issuer
(the most recent sale price of the common stock's purchase to a private offering
in June 2000) was approximately $109,480,000 at June 30, 2002.
<PAGE>
TEXAS CAPITAL BANCSHARES, INC.
2100 McKinney Avenue, Suite 900
Dallas, Texas 75201
ANNUAL REPORT
for the
Year Ended
December 31, 2002
<PAGE>
TABLE OF CONTENTS
<Table>
<S> <C>
Part I
Item 1. Business....................................................................1
Item 2. Properties.................................................................13
Item 3. Legal Proceedings..........................................................14
Part II
Item 5. Market for Registrant's Common Equity and Related Stockholder Matters......15
Item 6. Selected Consolidated Financial Data.......................................17
Item 7. Management's Discussion and Analysis of Financial Condition and
Results of Operations......................................................19
Item 7A. Quantitative and Qualitative Disclosure About Market Risk..................41
Item 8. Financial Statements and Supplementary Data................................43
Part III
Item 10. Directors and Executive Officers of the Registrant.........................70
Item 11. Executive Compensation.....................................................70
Item 12. Security Ownership of Certain Beneficial Owners and Management.............70
Item 13. Certain Relationships and Related Transactions.............................70
Item 14. Controls and Procedures....................................................71
Part IV
Item 15. Exhibits...................................................................71
</Table>
i
<PAGE>
ITEM 1. BUSINESS
BACKGROUND
We were organized in March 1998 to serve as the holding company for an
independent bank managed by Texans and oriented to the needs of the Texas
marketplace. We decided that the most efficient method of building an
independent bank was to acquire an existing bank and substantially increase the
equity capitalization of the bank through private equity financing. The
acquisition of an existing bank was attractive because it would enable us to
avoid the substantial delay involved in chartering a new national or state bank.
Our predecessor bank, Resource Bank, N.A., headquartered in Dallas, Texas, had
completed the chartering process and commenced operations in October 1997. We
acquired Resource Bank in December 1998.
We also concluded that substantial equity capital was needed to enable
us to compete effectively with the subsidiary banks of nationwide banking
conglomerates that operate in the Texas market. Accordingly, in June 1998, we
commenced a private offering of our common stock and were successful in raising
approximately $80.0 million upon completion of the offering.
GROWTH HISTORY
We have grown substantially in both size and profitability since our
formation. The table below sets forth data regarding the growth of key areas of
our business from December 1998 through December 2002.
<Table>
<Caption>
December 31
2002 2001 2000 1999 1998
---------- ---------- ---------- ---------- ----------
(In Thousands)
<S> <C> <C> <C> <C> <C>
Loans $1,122,506 $ 903,979 $ 629,109 $ 227,600 $ 11,092
Assets 1,793,282 1,164,779 908,428 408,579 89,311
Deposits 1,196,535 886,077 794,857 287,068 16,018
Stockholders' equity 124,976 106,359 86,197 72,912 73,186
</Table>
The following table provides information about the growth of our loan
portfolio by type of loan from December 1998 to December 2002.
<Table>
<Caption>
December 31
2002 2001 2000 1999 1998
------------ ------------ ------------ ------------ ------------
(In Thousands)
<S> <C> <C> <C> <C> <C>
Commercial loans $ 509,505 $ 402,302 $ 325,774 $ 152,749 $ 2,227
Total real estate loans 455,154 398,307 248,804 63,344 7,696
Construction loans 172,451 180,115 83,931 11,565 4,554
Permanent real estate loans 282,703 218,192 164,873 51,779 3,142
Equipment leases 17,546 34,552 17,093 642 --
Consumer loans 24,195 25,054 36,092 10,865 1,169
</Table>
THE TEXAS MARKET
The Texas marketplace has historically been served by independent Texas
banks. In 1986, all ten of the largest banks with operations in Texas were
headquartered in Texas. Bankers often spent their entire careers working in
Texas-based banks in a single community. As a result, their knowledge of the
community was based on years of experience providing banking services to
businesses and prominent individuals. The business and personal relationships of
these bankers within the community often spanned many years. The banking crisis
of the late 1980s changed the Texas banking industry
1
<PAGE>
dramatically. The collapse of the Texas energy industry spurred by the
precipitous decline in the price of oil beginning in 1986, combined with the
collapse of the Texas real estate market, caused virtually every bank and thrift
in Texas to experience severe financial difficulty as the value of the
collateral for their real estate and energy loans plummeted.
By 1993, nine of the ten largest commercial banks in Texas had been
closed by federal regulators or sold to out-of-state bank conglomerates, due in
significant part to these difficulties. A number of large independent Texas
banks became branches of out-of-state nationwide banks. It is our perception
that these nationwide banks focused their Texas operations more on retail
consumer banking clients and large commercial clients with revenues over $250
million and reduced their emphasis on the established banking relationships with
middle market businesses and high net worth individuals that had been built over
years of experience by the bankers of the independent Texas banks. Many of these
experienced bankers with established relationships in their communities left the
banking industry, joined smaller community banks and thrifts or the nationwide,
out-of state banks that had entered the Texas market following the economic
crisis of the 1980s. Today, Texas' four largest banking organizations by
deposits are headquartered outside of Texas and approximately 54% of total
deposits in the state are controlled by out-of-state organizations. We believe
that many middle market companies and high net worth individuals are interested
in banking with a company headquartered in, and with decision-making authority
based in, Texas and with established Texas bankers who have the expertise to act
as trusted advisors to the customer with regard to its banking needs. Our
banking centers, which are serviced by experienced bankers with lending
expertise in the specific industries found in their market areas and established
community ties, can offer these customers responsive, personalized service. We
believe that, if we service these customers properly, we will be able to
establish long-term relationships and provide multiple products to our
customers, thereby enhancing our profitability.
We believe that the Texas economy presents an attractive opportunity to
build an independent bank managed by Texans and oriented to the needs of the
Texas economic marketplace. The population of Texas in 2001 was estimated at
21.1 million, making it the second most populous state in the country. From 1990
to 2001, the population of Texas grew by approximately 4.2 million, representing
a 24.5% increase. Approximately 85% of the residents of Texas live in
metropolitan areas and population growth in metropolitan areas accounted for
approximately 91% of the increase in population from 1990 to 2000. In terms of
population, Texas is expected to be among the ten fastest growing states in the
U.S. over the period from 2001 to 2006, and the third fastest growing state of
the ten most populous states over that period. In addition, average 2001 per
capita income of $26,430 in our target markets (the five largest metropolitan
markets in the state of Texas) was above the U.S. average and is expected to
grow faster than any of the ten largest metropolitan statistical areas in the
U.S. for the period 2001 to 2006. The Texas banking markets have grown over the
past five years, with statewide deposits increasing from $184.2 billion in 1996
to $243.4 billion in 2001, representing a compounded annual growth rate of
5.74%, compared to 5.38% nationally. The Texas economy has diversified
substantially from its energy-driven economy of the 1970s and 1980s to include a
greater diversification among industries such as services, technology and
manufacturing. Accordingly, we expect that the local Texas markets will grow
faster than most in the U.S. with less volatility than experienced in the past,
providing opportunities for above-average growth and potential profitability for
us. Although current estimates of future economic and demographic data may
indicate a favorable trend, there is no assurance that the actual results will
follow those trends, especially as the Texas market may be subject to unexpected
economic downturns.
BUSINESS STRATEGY
Utilizing the business and community ties of our management and their
banking experience, our strategy is to build an independent bank that focuses
primarily on middle market business customers and high net worth individual
customers in each of the major metropolitan markets of Texas. To achieve this,
we seek to implement the following strategies:
o Target middle market business and high net worth individual
market segments;
2
<PAGE>
o Focus our business development efforts on the key major
metropolitan markets in Texas;
o Hire experienced bankers and open strategically-located
banking centers;
o Efficiently manage our infrastructure and capital base, which
includes:
o leveraging our existing infrastructure to support a
larger volume of business;
o tight internal approval processes for capital and
operating expenses; and
o extensive use of outsourcing to provide
cost-effective operational support with service
levels consistent with large-bank operations;
o Continue to use BankDirect, our Internet banking website, as a
way to diversify our funding sources by attracting retail
deposits on a nationwide basis; and
o Expand our geographic reach and business mix by hiring
qualified local bankers, establishing select banking locations
and completing selective acquisitions in new markets.
TARGET THE ATTRACTIVE MIDDLE MARKET BUSINESS AND HIGH NET WORTH
INDIVIDUAL MARKET SEGMENTS.
Our business strategy concentrates on business customers with annual
revenues between $5 million and $250 million, commonly referred to as "middle
market" businesses, and high net worth individual customers, which we generally
define as individuals with net worth in excess of $1 million. We believe these
core customers are currently underserved in Texas. It is our perception that the
Texas operations of the large nationwide banks generally do not emphasize middle
market businesses or high net worth individuals, preferring instead to focus on
retail consumer banking clients and large commercial clients with revenues over
$250 million. Smaller community banks, savings and loans, and credit unions tend
to focus on residential mortgage loans, consumer loans and retail deposit
accounts. As a result of these market conditions, we believe we can operate
successfully by focusing on middle market businesses and high net worth
individuals. These customers generally have the size and sophistication to
demand customized products and services, which we believe our bankers are
well-equipped to understand and provide due to their experience and personal
relationships with their clients.
FOCUS OUR BUSINESS DEVELOPMENT EFFORTS ON THE KEY METROPOLITAN MARKETS
IN TEXAS.
The relationships of our bankers tend to be centered on the large
metropolitan areas of Texas. In addition, these metropolitan areas offer high
concentrations of our core middle market business and high net worth individual
customers. We also believe the diverse nature of the middle market business
communities in large Texas metropolitan markets provides us with a broad,
diverse customer base that will allow us to spread our lending risks throughout
a number of different borrowers and industries. As a result, we intend to focus
our development efforts on these market areas.
GROW OUR LOAN AND DEPOSIT BASE IN OUR EXISTING MARKETS BY HIRING
ADDITIONAL EXPERIENCED BANKERS AND OPENING SELECT STRATEGICALLY LOCATED BANKING
CENTERS.
We believe that the experience and personal relationships of our
bankers provide a competitive advantage and are a critical factor in our ability
to grow our business. The personal relationships of our bankers increase our
opportunities to market our products and services to existing customers and
obtain new customers, particularly among our core middle market business and
high net worth individual customers in our markets. We believe that the
experience of our bankers allows them to better appreciate and anticipate the
needs and demands of our customers. We provide our bankers with substantial
latitude
3
<PAGE>
regarding their customers and, as much as possible, we attempt to allow local
bankers to resolve issues that arise. This reinforces the relationship between
our bankers and the customers and enables us to better benefit from our bankers'
knowledge of our customers, their industry and their community. We intend to
continue to hire bankers with extensive banking, community and personal
relationships, particularly in market areas where we do not have an established
presence. We also intend to use the knowledge and experience of our bankers in
our market areas to identify potential new lending relationships.
IMPROVE OUR FINANCIAL PERFORMANCE THROUGH THE EFFICIENT MANAGEMENT OF
OUR INFRASTRUCTURE AND CAPITAL BASE, WHICH INCLUDES:
o LEVERAGING OUR EXISTING INFRASTRUCTURE TO SUPPORT A LARGER
VOLUME OF BUSINESS
We have made investments in our infrastructure in order to
centralize many of our critical operations, such as credit
policy, finance, data processing and loan application
processing. We believe that our existing infrastructure can
accommodate substantial additional growth without substantial
additional capital expenditures. We also believe that the
centralization of our administrative operations enables us to
maximize efficiency through economies of scale without
jeopardizing the personal relationships of our bankers with
their customers.
o TIGHT INTERNAL APPROVAL PROCESSES FOR CAPITAL AND OPERATING
EXPENSES
We maintain stringent cost control practices and policies to
increase the efficiency of our operations. A part of the
annual bonuses we pay our managers is based on the extent to
which they are successful in containing expenses and
increasing efficiency. In addition, all salary increases and
capital expenditures in excess of $25,000 are reviewed by a
committee comprised of our senior management. Capital
expenditures in excess of $10,000 must be approved by our
chief financial officer.
o EXTENSIVE USE OF OUTSOURCING TO PROVIDE COST-EFFECTIVE
OPERATIONAL SUPPORT WITH SERVICE LEVELS CONSISTENT WITH
LARGE-BANK OPERATIONS
We use outside service providers where they can increase the
efficiency of our operations. Currently, our loan
documentation, data processing and bank operations, and almost
all our internal, regulatory and audit examinations, are
provided by outside service providers. We intend to continue
to review our operations to determine where we can contain
costs by using third party service providers.
CONTINUE TO USE BANKDIRECT AS A WAY TO DIVERSIFY OUR FUNDING SOURCES BY
ATTRACTING DEPOSITS ON A NATIONWIDE BASIS.
We currently use BankDirect as a source of retail deposits to fund our
lending activities. We intend to continue to use BankDirect to attract
depositors that retain higher balances in their accounts.
EXPAND OUR GEOGRAPHIC REACH AND BUSINESS MIX BY HIRING QUALIFIED
BANKERS, ESTABLISHING SELECT BANKING LOCATIONS AND COMPLETING SELECTIVE
ACQUISITIONS.
We intend to expand our business by hiring experienced bankers in our
current market areas and in new market areas. We believe that hiring bankers in
our current market areas will augment our business by providing us with access
to established relationships with potential new customers and industries in our
current market areas. In addition, hiring experienced bankers in other markets
can enable us to enter new market areas with an established presence and
existing relationships in that market area. Selective acquisitions of other
banks or the addition of select banking locations can also allow us to expand
and grow our business. Acquisitions of banks that have lower ratios of loans to
deposits than us can also allow us to significantly increase our net deposits,
increasing our ability to make loans to our core customers. Expanding our
banking network into an underserved area may also allow us
4
<PAGE>
to increase our deposits and fund our lending activities. Although we do not
have any current commitments with respect to acquisitions or additional banking
locations, we believe that acquisitions and the establishment of select banking
locations are potentially available in our existing market areas and in new
market areas and we intend to pursue such opportunities in the future.
PRODUCTS AND SERVICES
We offer a variety of loan, deposit account and other financial
products and services to our customers. At December 31, 2002, we maintained
approximately 15,200 deposit accounts and 2,700 loan accounts.
BUSINESS CUSTOMERS. We offer a full range of products and services
oriented to the needs of our business customers, including:
o commercial loans for working capital and to finance internal
growth, acquisitions and leveraged buyouts;
o permanent real estate and construction loans;
o equipment leasing;
o cash management services;
o trust and escrow services;
o letters of credit; and
o business insurance products.
INDIVIDUAL CUSTOMERS. We also provide complete banking services for our
individual customers, including:
o personal trust and wealth management services;
o certificates of deposit;
o interest bearing and non-interest bearing checking accounts
with optional features such as Visa(R) debit/ ATM cards and
overdraft protection;
o traditional savings accounts;
o consumer loans, both secured and unsecured;
o mortgages and home equity loans;
o branded Visa(R) credit card accounts, including gold-status
accounts; and
o personal insurance products.
LENDING ACTIVITIES
We target our lending to middle market businesses and high net worth
individuals that meet our credit standards. The credit standards are set by our
standing Credit Policy Committee with the assistance of our Chief Credit
Officer, who is charged with ensuring that credit standards are met by loans in
our portfolio. Our Credit Policy Committee is comprised of senior bank officers
including the President of our bank, our Chief Lending Officer and our Chief
Credit Officer. Our credit standards for commercial borrowers reference numerous
criteria with respect to the borrower, including historical and projected
financial information, strength of management, acceptable collateral and
associated advance rates, and market conditions and trends in the borrower's
industry. In addition, prospective loans are also analyzed based on current
industry concentrations in our loan portfolio to prevent an unacceptable
concentration of loans in any particular industry. We believe our credit
standards are similar to the standards generally employed by large nationwide
banks in the markets we serve. We believe that we differentiate our bank from
its competitors by focusing on and aggressively marketing to our core customers
and accommodating, to the extent permitted by our credit standards, their
individual needs.
5
<PAGE>
We generally extend variable rate loans in which the interest rate
fluctuates with a predetermined indicator such as the United States prime rate
or the London Inter-Bank Offered Rate (LIBOR). Our use of variable rate loans is
designed to protect us from risks associated with interest rate fluctuations
since the rates of interest earned will automatically reflect such fluctuations.
As of December 31, 2002, approximately 90% of the loans by outstanding principal
balance in our portfolio were variable rate loans.
COMMERCIAL LOANS. Our commercial loan portfolio is comprised of lines
of credit for working capital and term loans to finance equipment and other
business assets. Our lines of credit for working capital generally are renewed
on an annual basis and our term loans generally have terms of two to five years.
Our lines of credit and term loans typically have floating interest rates.
Commercial loans can contain risk factors unique to the business of each
customer. In order to mitigate these risks and better serve our customers, we
seek to gain an understanding of the business of each customer and the
reliability of their cash flow, so that we can place appropriate value on
collateral taken and structure the loan to maintain collateral values at
appropriate levels. In analyzing credit risk, we generally focus on the business
experience of our borrowers' management. We prefer to lend to borrowers with an
established track record of loan repayment and predictable growth and cash flow.
Our energy production loans are usually collateralized with proven reserves and
have amortization schedules that extend for one-half of the projected life plus
one year of the proven reserves. We also rely on the experience of our bankers
and their relationships with our customers to aid our understanding of the
customer and its business. Our lines of credit typically are limited to a
percentage of the value of the assets securing the line. Lines of credit
typically are reviewed annually and are supported by accounts receivable,
inventory and equipment. Depending on the risk profile of the borrower, we may
require periodic aging of receivables, as well as borrowing base certificates
representing current levels of inventory, equipment, and accounts receivables.
Our term loans are typically also secured by the assets of our clients'
businesses. Commercial borrowers are required to provide updated personal and
corporate financial statements at least annually. At December 31, 2002, funded
commercial loans totaled approximately $509.5 million, approximately 45.4% of
our total funded loans.
PERMANENT REAL ESTATE LOANS. Approximately one half of our permanent
real estate loan portfolio is comprised of loans secured by commercial
properties occupied by the borrower. We also provide temporary financing for
commercial and residential property. Our permanent real estate loans generally
have terms of five to seven years. We generally avoid long-term loans for
commercial real estate held for investment. Our permanent real estate loans have
both floating and fixed rates. Depending on the financial situation of the
borrower, we may require periodic appraisals of the property to verify the
ongoing quality of our collateral. At December 31, 2002, funded permanent real
estate loans totaled approximately $282.7 million, approximately 25.2% of our
total funded loans.
CONSTRUCTION LOANS. Our construction loan portfolio consists primarily
of single-family residential properties and commercial projects used in
manufacturing, warehousing, service or retail businesses. Our construction loans
generally have terms of one to three years. We typically make construction loans
to developers, builders and contractors that have an established record of
successful project completion and loan repayment. We closely monitor the status
of each construction loan and the underlying project throughout its term. These
loans typically have floating rates and commitment fees. Typically, we require
full investment of the borrower's equity in construction projects prior to
releasing our funds. Generally, we do not allow our borrowers to recoup their
equity from the sale proceeds of finished units until we have recovered our
funds on the overall project. We use a title company to disburse periodic draws
from the construction loan to attempt to avoid title problems at the end of the
project. At December 31, 2002, funded construction real estate loans totaled
approximately $172.5 million, approximately 15.4% of our total funded loans.
EQUIPMENT LEASES. We provide equipment financing in the form of capital
and operating leases. Our lease financings generally have terms of three to five
years. The leases are secured by the equipment purchased with the lease
financing. Interest rates are generally fixed and based on the actual
depreciation of the collateral equipment. At December 31, 2002, funded equipment
lease financings totaled approximately $17.5 million, approximately 1.6% of our
total funded loans.
6
<PAGE>
LETTERS OF CREDIT. We issue standby or performance letters of credit,
and can service the international needs of our clients through correspondent
banks. At December 31, 2002, our commitments under letters of credit totaled
approximately $22.1 million.
CONSUMER LOANS. Our consumer loan portfolio consists of personal lines
of credit and loans to acquire personal assets such as automobiles and boats.
Our personal lines of credit generally have terms of one year and our term loans
generally have terms of three to five years. Our lines of credit typically have
floating interest rates. We generally require assets as collateral for consumer
loans, but if the financial situation of the customer is sufficient, we will
grant unsecured lines of credit. We also examine the personal liquidity of our
individual borrowers, in some cases requiring agreements to maintain a minimum
level of liquidity, to insure that the borrower has sufficient liquidity to
repay the loan. Due to low levels of profitability, interest rate risks and
collateral risks, we do not consider secured consumer loans, such as automobile
loans, a core part of our business. Our rates are generally higher than the
rates offered by other providers of these loans. At December 31, 2002, funded
consumer loans totaled approximately $24.2 million, approximately 2.2% of our
total funded loans. Of these funded consumer loans, approximately $8.3 million
are not secured by specific collateral or are unsecured, representing
approximately 34.1% of our total funded consumer loans.
We infrequently make consumer residential real estate loans consisting
primarily of first and second mortgage loans for residential properties. We do
not retain long-term, fixed rate residential real estate loans in our portfolio
due to interest rate and collateral risks and low levels of profitability. We do
not consider consumer residential real estate loans a core part of our business.
Our rates are generally higher than the rates offered by other providers of
these loans.
We maintain a diversified loan portfolio and do not focus on any
particular industry or group of related industries. Credit policies and
underwriting guidelines are tailored to address the unique risks associated with
each industry represented in the portfolio. The table below sets forth
information regarding the distribution of our funded loans among various
industries at December 31, 2002.
<Table>
<Caption>
Funded Loans
-----------------------------
Percent
Amount of Total
------------ ------------
(Dollars in Thousands)
<S> <C> <C>
Agriculture $ 10,488 0.9%
Contracting 111,349 9.9
Government 9,519 0.8
Manufacturing 76,638 6.8
Personal/household 187,256 16.7
Petrochemical and mining 133,752 11.9
Retail 19,779 1.8
Services 424,003 37.8
Wholesale 68,054 6.1
Investors and investment management companies 81,668 7.3
------------ ------------
Total $ 1,122,506 100.0%
============ ============
</Table>
Loans extended to borrowers within the contracting industry are
composed largely of loans to land subdividers and developers and to both heavy
construction and general commercial contractors. Many of these loans are secured
by real estate properties, the development of which is being funded by our
bank's financing. Loans extended to borrowers within the petrochemical and
mining industries are predominantly loans to finance the exploration and
production of petroleum and natural gas. These loans are generally secured by
proven petroleum and natural gas reserves. Personal/household loans include
loans to certain high net worth individuals for commercial purposes and mortgage
loans held for sale, in addition to consumer loans. Loans extended to borrowers
within the services industries include loans to finance working capital and
equipment, as well as loans to finance investment and owner-occupied real
estate. Significant trade categories represented within the services industry
include, but are not limited to, real estate services, financial services,
leasing companies, transportation and communication, and
7
<PAGE>
hospitality services. Borrowers represented within the real estate services
category are largely owners and managers of both residential and non-residential
commercial real estate properties.
We make loans that are appropriately collateralized under our credit
standards. Over 90% of our funded loans are secured by collateral. The table
below sets forth information regarding the distribution of our funded loans
among various types of collateral at December 31, 2002.
<Table>
<Caption>
Funded Loans
-------------------------
Percent
Amount of Total
---------- ----------
(Dollars in Thousands)
<S> <C> <C>
Business assets $ 200,512 17.9%
Energy 114,552 10.2
Highly liquid assets 181,782 16.2
Real property 455,679 40.6
Rolling stock 26,347 2.4
U. S. Government guaranty 38,489 3.4
Agricultural assets 166 <0.1
Other assets 10,328 0.9
Unsecured 94,651 8.4
---------- ----------
Total $1,122,506 100.0%
========== ==========
</Table>
DEPOSIT PRODUCTS
We offer a variety of deposit products to our core customers at
interest rates that are competitive with other banks. Our business deposit
products include commercial checking accounts, lockbox accounts, cash
concentration accounts, and other cash management products. Our consumer deposit
products include checking accounts, savings accounts, money market accounts and
certificates of deposit. We also allow our consumer deposit customers to access
their accounts, transfer funds, pay bills and perform other account functions
over the Internet and through ATM machines. At December 31, 2002, we maintained
approximately 7,900 deposit accounts at our traditional bank, representing
approximately $990.3 million in total deposits.
BANKDIRECT
BankDirect, our Internet banking website, operates as a division of our
bank. It provides a valuable source of deposit funds. As of December 31, 2002,
BankDirect had a total of approximately 7,300 existing deposit accounts
containing total deposits of approximately $206.2 million.
BankDirect provides a complete line of consumer deposit products at
attractive interest rates primarily to large depositors. We do not currently nor
do we currently intend to offer loans or other credit products through
BankDirect. The Internet-based approach of BankDirect allows our customers to
conduct banking activities from any computer that has access to the Internet and
a secure web browser. Its deposit products and services include interest bearing
checking, savings and money market accounts and certificates of deposit.
BankDirect customers can direct payments, transfer funds and perform other
account functions through a secure web browser. In addition, customers can
access their accounts at any ATM machine. All banking transactions are encrypted
and all transactions are routed to and from an Internet server within our
security system.
TRUST AND ASSET MANAGEMENT
Our trust services include investment management, personal trust and
estate services, custodial services, retirement accounts and related services.
Our investment management professionals work with our clients to define
objectives, goals and strategies for their investment portfolios. We assist the
client with the selection of an investment manager and work with the client to
tailor the investment program
8
<PAGE>
accordingly. Our trust and estate account administrators work with our clients
and their attorneys to establish their estate plans. We work closely with our
clients and their beneficiaries to ensure that their needs are met and to advise
them on financial matters. When serving as trustee or executor, we often
structure and oversee investment portfolios. We also provide our clients with
custodial services for the safekeeping of their assets. Consistent with our
focus on relationship building, we emphasize a high level of personal service in
our trust area, including prompt collection and reinvestment of interest and
dividend income, daily valuation, tracking of tax information, customized
reporting and ease of security settlement. We also offer retirement products
such as individual retirement accounts and administrative services for
retirement vehicles such as pension and profit sharing plans.
INSURANCE AND INVESTMENT SERVICES
Texas Capital Bank Wealth Management Services, Inc. was formed as a
wholly-owned subsidiary of our bank in April 2002. Texas Capital Bank Wealth
Management Services brokers corporate and personal property and casualty
insurance as well as group health and life insurance products to individuals and
businesses. We anticipate that it will also seek to offer limited securities
brokerage services in the future.
EMPLOYEES
As of December 31, 2002, we had 215 full-time employees, 116 of whom
were officers of our bank. None of our employees is represented by a collective
bargaining agreement and we consider our relations with our employees to be
good.
REGULATION AND SUPERVISION
Current banking laws contain numerous provisions affecting various
aspects of our business. As a bank, Texas Capital Bank is subject to federal
banking laws and regulations that impose specific requirements on and provide
regulatory oversight of virtually all aspects of our operations. These laws and
regulations are generally intended for the protection of depositors, the deposit
insurance funds of the Federal Deposit Insurance Corporation or FDIC, and the
banking system as a whole, rather than for the protection of our stockholders.
Banking regulators have broad enforcement powers over bank holding companies and
banks and their affiliates, including the power to impose large fines and other
penalties for violations of laws and regulations. The following is a brief
summary of laws and regulations to which we are subject.
National banks such as our bank are subject to examination by the
Office of the Comptroller of the Currency, or the OCC. Deposits in a national
bank are insured by the FDIC up to a maximum amount (generally $100,000 per
depositor). The OCC and the FDIC regulate or monitor all areas of a national
bank's operations, including security devices and procedures, adequacy of
capitalization and loss reserves, loans, investments, borrowings, deposits,
mergers, issuances of securities, payment of dividends, interest rate risk
management, establishment of branches, corporate reorganizations, maintenance of
books and records, and adequacy of staff training to carry on safe lending and
deposit gathering practices. The OCC requires national banks to maintain capital
ratios and imposes limitations on its aggregate investment in real estate, bank
premises and furniture and fixtures. National banks are currently required by
the OCC to prepare quarterly reports on their financial condition and to conduct
an annual audit of their financial affairs in compliance with minimum standards
and procedures prescribed by the OCC.
RESTRICTIONS ON DIVIDENDS. Our source of funding to pay dividends is
our bank. Our bank is subject to the dividend restrictions set forth by the OCC.
Under such restrictions, national banks may not, without the prior approval of
the OCC, declare dividends in excess of the sum of the current year's net
profits plus the retained net profits from the prior two years, less any
required transfers to surplus. As of December 31, 2002, our bank could not pay
any dividends under this test without prior OCC approval. In addition, under the
Federal Deposit Insurance Corporation Improvement Act of 1991, our bank may not
9
<PAGE>
pay any dividend if payment would cause it to become undercapitalized or in the
event it is undercapitalized.
It is the policy of the Federal Reserve, which regulates bank holding
companies such as ours, that bank holding companies should pay cash dividends on
common stock only out of 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.
If, in the opinion of the applicable federal bank regulatory authority,
a depository institution or holding company is engaged in or is about to engage
in an unsound practice (which could include the payment of dividends), such
authority may require, generally after notice and hearing, that such institution
or holding company cease and desist such practice. The federal banking agencies
have indicated that paying dividends that deplete a depository institution's or
holding company's capital base to an inadequate level would be such an unsafe
banking practice. Moreover, the Federal Reserve and the FDIC have issued policy
statements providing that bank holding companies and insured depository
institutions generally should only pay dividends out of current operating
earnings.
SUPERVISION BY THE FEDERAL RESERVE. We operate as a bank holding
company registered under the Bank Holding Company Act, and, as such, we are
subject to supervision, regulation and examination by the Federal Reserve. The
Bank Holding Company Act and other Federal laws subject 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.
Because we are a legal entity separate and distinct from our bank, our
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 a liquidation or other resolution
of a subsidiary, 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 stockholders, including any depository
institution holding company (such as ours) or any stockholder or creditor
thereof.
SUPPORT OF SUBSIDIARY BANKS. Under Federal Reserve 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 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 in order for it to be accepted by the
regulators.
In the event of a bank holding company's bankruptcy under Chapter 11 of
the U.S. Bankruptcy Code, the bankruptcy trustee will be deemed to have assumed
and is required to cure immediately any deficit under any commitment by the
debtor holding company to any of the federal banking agencies to maintain the
capital of an insured depository institution, and any claim for breach of such
obligation will generally have priority over most other unsecured claims.
CAPITAL ADEQUACY REQUIREMENTS. The bank regulators have adopted a
system using risk-based capital guidelines to evaluate the capital adequacy of
banking organizations. Under the guidelines, specific categories of assets and
off-balance sheet assets such as letters of credit are assigned different risk
weights, based generally on the perceived credit risk of the asset. These risk
weights are multiplied by corresponding asset balances to determine a "risk
weighted" asset base. The guidelines require a minimum total risk-based capital
ratio of 8% (of which at least 4% is required to consist of Tier 1 capital
elements).
In addition to the risk-based capital guidelines, the Federal Reserve
uses a leverage ratio as an additional tool to evaluate the capital adequacy of
banking organizations. The leverage ratio is a
10
<PAGE>
company's Tier 1 capital divided by its average total consolidated assets.
Banking organizations must maintain a minimum leverage ratio of at least 3%,
although most organizations are expected to maintain leverage ratios that are at
least 100 to 200 basis points above this minimum ratio.
The federal banking agencies' risk-based and leverage ratios are
minimum supervisory ratios generally applicable to banking organizations that
meet 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
guidelines also provide that banking organizations experiencing significant
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. In addition, the regulations of the
bank regulators provide that concentration of credit risks arising from
non-traditional activities, as well as an institution's ability to manage these
risks, are important factors to be taken into account by regulatory agencies in
assessing an organization's overall capital adequacy.
TRANSACTIONS WITH AFFILIATES AND INSIDERS. Our bank is subject to
Section 23A of the Federal Reserve Act which places limits on the amount of
loans or extensions of credit to, or investments in, or other transactions with,
affiliates that it may make. In addition, extensions of credit must be
collateralized by Treasury securities or other collateral in prescribed amounts.
Most of these loans and other transactions must be secured in prescribed
amounts. It also limits the amount of advances to third parties which are
collateralized by our securities or obligations or the securities or obligations
of any of our non-banking subsidiaries.
Our bank also is subject to Section 23B of the Federal Reserve Act,
which, among other things, prohibits an institution from engaging in
transactions with affiliates unless the transactions are on terms substantially
the same, or at least as favorable to such institution or its subsidiaries, as
those prevailing at the time for comparable transactions with non-affiliated
companies. We are subject to restrictions on extensions of credit to executive
officers, directors, principal stockholders, and their related interests. These
restrictions contained in the Federal Reserve Act and Federal Reserve 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 insiders and their related interests. These
loans cannot exceed the institution's total unimpaired capital and surplus, and
the FDIC may determine that a lesser amount is appropriate. Insiders are subject
to enforcement actions for knowingly accepting loans in violation of applicable
restrictions.
CORRECTIVE MEASURES FOR CAPITAL DEFICIENCIES. The Federal Deposit
Insurance Corporation Improvement Act imposes a regulatory matrix which requires
the federal banking agencies, which include the FDIC, the OCC and the Federal
Reserve, to take "prompt corrective action" with respect to capital deficient
institutions. The prompt corrective action provisions subject undercapitalized
institutions to an increasingly stringent array of restrictions, requirements
and prohibitions as their capital levels deteriorate and supervisory problems
mount. Should these corrective measures prove unsuccessful in recapitalizing the
institution and correcting its problems, the Federal Deposit Insurance
Corporation Improvement Act mandates that the institution be placed in
receivership.
Pursuant to regulations promulgated under the Federal Deposit Insurance
Corporation Improvement Act, the corrective actions that the banking agencies
either must or may take are tied primarily to an institution's capital levels.
In accordance with the framework adopted by the Federal Deposit Insurance
Corporation Improvement Act, the banking agencies have developed a
classification system, pursuant to which all banks and thrifts will be placed
into one of five categories. Agency regulations define, for each capital
category, the levels at which institutions are "well capitalized", "adequately
capitalized", "undercapitalized", "significantly undercapitalized" and
"critically undercapitalized." A well capitalized bank has a total risk-based
capital ratio (total capital to risk-weighted assets) of 10% or higher; a Tier 1
risk-based capital ratio (Tier 1 capital to risk-weighted assets) of 6% or
higher; a leverage ratio (Tier 1 capital to total adjusted assets) of 5% or
higher; and is not subject to any
11
<PAGE>
written agreement, order or directive requiring it to maintain a specific
capital level for any capital measure. An institution is critically
undercapitalized if it has a tangible equity to total assets ratio that is equal
to or less than 2%. Our bank's total risk-based capital ratio was 10.29% at
December 31, 2002 and, as a result, it is currently classified as "well
capitalized" for purposes of the FDIC's prompt corrective action regulations.
In addition to requiring undercapitalized institutions to submit a
capital restoration plan which must be guaranteed by its holding company (up to
specified limits) in order to be accepted by the bank regulators, agency
regulations contain broad restrictions on activities of undercapitalized
institutions including asset growth, acquisitions, branch establishment and
expansion into new lines of business. With some 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 FDIC's 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 only very limited discretion in dealing with a critically
undercapitalized institution and is virtually required to appoint a receiver or
conservator if the capital deficiency is not corrected promptly.
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.
FINANCIAL MODERNIZATION ACT OF 1999. The Gramm-Leach-Bliley Financial
Modernization Act of 1999:
o allows bank holding companies meeting management, capital and
Community Reinvestment Act standards to engage in a
substantially broader range of nonbanking activities than was
permissible prior to enactment, including insurance
underwriting and making merchant banking investments in
commercial and financial companies;
o allows insurers and other financial services companies to
acquire banks;
o removes various restrictions that applied to bank holding
company ownership of securities firms and mutual fund advisory
companies; and
o establishes the overall regulatory structure applicable to
bank holding companies that also engage in insurance and
securities operations.
The Modernization Act also modifies other current financial laws,
including laws related to financial privacy and community reinvestment. The
financial privacy provisions generally prohibit financial institutions,
including us, from disclosing nonpublic personal financial information to
nonaffiliated third parties unless customers have the opportunity to "opt out"
of the disclosure.
International Money Laundering Abatement and Financial Anti-Terrorism
Act of 2001. The International Money Laundering Abatement and Financial
Anti-Terrorism Act of 2001 (the "IMLAFA") contains anti-money laundering
measures affecting insured depository institutions, broker-dealers and certain
other financial institutions. The IMLAFA requires U.S. financial institutions to
adopt new policies and procedures to combat money laundering and grants the
Secretary of the Treasury broad authority to establish regulations and to impose
requirements and restrictions on financial institutions' operations. We have
established policies and procedures to ensure compliance with the IMLAFA.
12
<PAGE>
WHERE YOU CAN FIND ADDITIONAL INFORMATION
We are subject to the information reporting requirements and file
annual reports, quarterly reports, special reports, proxy statements and other
information with the United States Securities and Exchange Commission. We file
such reports and statements electronically so those filings will be available to
the public on the world wide web at the United States Securities and Exchange
Commission's website. The address of that site is www.sec.gov. These materials
are also available at the public reference facilities of the United States
Securities and Exchange Commission at:
o 450 Fifth Street, N.W., Room 1024, Washington, D.C. 20549
o 500 West Madison Street, Suite 1400, Chicago, Illinois 60661
o 75 Park Place, Room 1400, New York, New York 10007
In addition, you can have copies made and sent to you by contacting the
Public Reference Section of the United States Securities and Exchange Commission
by telephone at 1-800-732-0330. If you prefer, you can also write to the Public
Reference Section at 450 Fifth Street, N.W., Washington, D.C. 20549. We also
make copies of our filings with the United States Securities and Exchange
Commission available on our website. The address of our website is
texascapitalbank.com.
ITEM 2. PROPERTIES
As of December 31, 2002, we conducted business at eight full service
banking locations and one operations center. Our operations center houses our
loan and deposit operations and the BankDirect call center. We lease the space
in which our banking centers and the operations call center are located. These
leases expire between December 2003 and September 2012, not including any
renewal options that may be available.
The following table sets forth the location of our executive offices,
operations center and each of our banking centers.
<Table>
<Caption>
Type of Location Address
---------------- -------
<S> <C>
Executive offices, banking location 2100 McKinney Avenue
Suite 900
Dallas, Texas 75201
Operations center 6060 North Central Expressway
Suite 800
Dallas, Texas 75206
Banking location 4230 Lyndon B. Johnson Freeway
Suite 100
Dallas, Texas 75244
Banking location 5910 North Central Expressway
Suite 150
Dallas, Texas 75206
Banking location 5800 Granite Parkway
Suite 150
Plano, Texas 75024
</Table>
13
<PAGE>
<Table>
<Caption>
Type of Location Address
---------------- -------
<S> <C>
Banking location 1600 West 7th Street
Suite 200
Fort Worth, Texas 76102
Motor banking location 400 East Belknap Street
Fort Worth, Texas 76102
Banking location 600 Congress Avenue
Suite 250
Austin, Texas 78701
Banking location 745 East Mulberry Street
Suite 150
San Antonio, Texas 78212
</Table>
ITEM 3. LEGAL PROCEEDINGS
We are not involved in any pending legal proceedings other than legal
proceedings occurring in the ordinary course of business. Management believes
that none of these legal proceedings, individually or in the aggregate, will
have a material adverse impact on our results of operations or financial
condition.
14
<PAGE>
ITEM 5. MARKET FOR REGISTRANT'S COMMON EQUITY AND
RELATED STOCKHOLDER MATTERS
There is no established public trading market for our common stock. Our
common stock and preferred stock are held by approximately 865 identified
holders. Certain holders hold both common and preferred shares and have only
been counted as one holder.
We have not paid cash dividends on our shares of common stock to date,
and we intend during the near term to retain any earnings available for
dividends for the development and growth of our business. In addition, our
ability to pay dividends is restricted by Federal banking regulations. Our
long-term plan, however, calls for the payment of cash dividends when
circumstances permit, although no assurance can be given if or when we will
adopt a policy of paying cash dividends. The declaration and payment of future
cash dividends will depend on, among other things, our earnings, the general
economic and regulatory climate, our liquidity and capital requirements, and
other factors deemed relevant by our Board of Directors.
EQUITY COMPENSATION PLAN INFORMATION
<Table>
<Caption>
Number of Securities Weighted Average Number of
To Be Issued Upon Exercise Price of Securities
Exercise of Outstanding Remaining
Outstanding Options, Options, Warrant Available for
Plan category Warrants and Rights and Rights Future Issuance
-------------------- ---------------- ---------------
<S> <C> <C> <C>
Equity compensation plans approved by
security holders 2,259,828 $ 6.69 402,377
Equity compensation plans not approved
by security holders (1) 84,274 6.80 --
-------------- -------------- --------------
Total 2,344,102 $ 6.69 402,377
============== ============== ==============
</Table>
(1) Refers to deferred compensation agreement. See further discussion in
Note 11.
RECENT OFFERINGS OF UNREGISTERED SECURITIES
In December 2001 and January 2002, we sold 753,301 shares and 303,841
shares, respectively, of 6.0% Series A Convertible Preferred Stock for $17.50
per share in a private offering pursuant to Rule 506. With respect to the
private offerings pursuant to Rule 506, we determined the exemption was
available based on our compliance with the requirements of Rule 506 and the
representations by each investor in such offering that such investor qualified
as an "accredited investor" under Rule 506 or was represented by an appropriate
purchaser representative.
Each share of 6.0% Series A Convertible Preferred Stock (the Preferred
Stock) is currently convertible into two shares of the common stock of the
Company. The Preferred Stock is automatically converted into common stock in the
event of (a) a change of control; (b) a public offering of the common stock of
the Company at a price of $17.50 per share (pre-dividend) or more; (c) if the
Company's common stock is listed on the New York Stock Exchange or the Nasdaq
National Market and the average closing price of such stock for 30 days is
$17.50 or more (pre-dividend); or (d) if, as a result of a change in the Federal
Reserve capital adequacy guidelines, the Preferred Stock does not qualify as
Tier I capital. The Preferred Stock may also be converted at any time at the
discretion of the holder. The Preferred Stock is mandatorily converted upon the
fifth anniversary of the issuance date of the Preferred Stock.
In November 2002, we sold $10,000,000 aggregate liquidation amount of
floating rate capital securities (the Capital Securities) issued by our
subsidiary Connecticut statutory trust, Texas Capital Bancshares Statutory Trust
I (the Trust). We received $9,750,000 after a deduction of $250,000 in
commissions to SunTrust Capital Markets, Inc., the Placement Agent. The Capital
Securities were subsequently transferred to a pooled investment vehicle
sponsored by STI Investment Management, Inc.
15
<PAGE>
The proceeds from the sale of the Capital Securities, together with the proceeds
from the sale by the Trust of its Common Securities to our holding corporation,
Texas Capital Bancshares, Inc., were invested in our Floating Rate Junior
Subordinated Deferrable Interest Debentures of Texas Capital Bancshares due 2032
(the Debentures), which were issued pursuant to an Indenture dated November 19,
2002, between Texas Capital Bancshares and State Street Bank and Trust Company
of Connecticut, National Association (State Street), as Trustee. Both the
Capital Securities and the Debentures have a floating rate, which resets
quarterly, equal to 3-month LIBOR plus 3.35%. Payments of distributions and
other amounts due on the Capital Securities are guaranteed by Texas Capital
Bancshares, to the extent that the Trust has funds available for the payments of
such distributions but fails to make such payments, pursuant to a Guarantee
Agreement, dated November 19, 2002, between the Company and State Street, as
Guarantee Trustee. The Debentures and Capital Securities may be redeemed at the
option of the Company on fixed quarterly dates beginning on November 19, 2007.
We sold the Capital Securities in a non-public offering pursuant to
Section 4(2) of the Securities Act of 1933, as amended. The Company believed
this exemption was available because the Capital Securities were sold in a
private transaction to a single professional management entity that is highly
sophisticated and experienced with investments similar to the Capital Securities
and meets the definition of an "institutional investor" under Rule 144A of the
Securities Act. The Capital Securities were subsequently transferred to a
securitized pool in a private transaction exempt from the Securities Act
pursuant to Rule 144A.
16
<PAGE>
ITEM 6. SELECTED CONSOLIDATED FINANCIAL DATA
You should read the selected financial data presented below in
conjunction with "Management's Discussion and Analysis of Financial Condition
and Results of Operations" and our consolidated financial statements and the
related notes appearing elsewhere in this Form 10-K.
We formed our wholly-owned subsidiary bank through the acquisition of
Resource Bank, National Association on December 18, 1998. Our bank's financial
statements include the operations of our bank from December 18, 1998. The
operations of Resource Bank, N.A. prior to December 18, 1998 are shown
separately as predecessor financial statements.
<Table>
<Caption>
March 1, 1998
(Inception)
Year Ended Year Ended Year Ended Year Ended through
December 31, December 31, December 31, December 31, December 31,
2002 2001 2000 1999 1998
------------ ------------ ------------ ------------ --------------
(In thousands, except per share, average share and percentage data)
<S> <C> <C> <C> <C> <C>
SELECTED OPERATING DATA (1)
Interest income $ 70,142 $ 70,594 $ 55,769 $ 14,414 $ 213
Interest expense 27,896 35,539 32,930 6,166 32
Net interest income 42,246 35,055 22,839 8,248 181
Provision for loan losses 5,629 5,762 6,135 2,687 1
Net interest income after provision
for loan losses 36,617 29,293 16,704 5,561 180
Non-interest income 8,625 5,983 1,957 358 4
Non-interest expense 35,370 29,432 35,158 15,217 923
Income (loss) before income taxes 9,872 5,844 (16,497) (9,298) (739)
Income tax expense 2,529 -- -- -- --
Net income (loss) 7,343 5,844 (16,497) (9,298) (739)
SELECTED BALANCE SHEET DATA (1)
Total assets 1,793,282 1,164,779 908,428 408,579 89,311
Loans 1,122,506 903,979 629,109 227,600 11,092
Securities available-for-sale 553,169 206,365 184,952 164,409 3,171
Securities held-to-maturity -- -- 28,366 -- --
Deposits 1,196,535 886,077 794,857 287,068 16,018
Federal funds purchased 83,629 76,699 11,525 -- --
Other borrowings 365,831 86,899 7,061 46,267 --
Long-term debt 10,000 -- -- -- --
Stockholders' equity 124,976 106,359 86,197 72,912 73,186
OTHER FINANCIAL DATA (3)
Income (loss) per share:
Basic $ 0.33 $ 0.31 $ (0.95) $ (0.61) $ *
Diluted 0.32 0.30 (0.95) (0.61) *
Tangible book value per share (5) 5.80 5.08 4.46 4.67 5.37
Book value per share (5) 5.87 5.15 4.54 4.79 5.51
SELECTED FINANCIAL RATIOS:
PERFORMANCE RATIOS
Return on average assets 0.54% 0.58% (2.42)% (4.45)% (5.83)%(4)
Return on average equity 6.27% 6.44% (20.02)% (12.13)% (12.52)%(4)
Net interest margin 3.28% 3.62% 3.51% 4.12% 5.65%(4)
Efficiency ratio (2) 69.53% 71.72% 141.79% 176.82% 205.18%(4)
Non-interest expense to average assets 2.59% 2.90% 5.15% 7.28% 10.64%(4)
Weighted average shares: (3)
Basic 19,145,255 18,957,652 17,436,628 15,132,496 *
Diluted 19,344,874 19,177,204 17,436,628 15,132,496 *
ASSET QUALITY RATIOS
Net charge-offs to average loans 0.38% 0.26% -- 0.01% --
Allowance for loan losses to total 1.30% 1.39% 1.42% 1.22% 0.90%
loans
Allowance for loan losses to
non-performing loans 499.42% 110.23% -- -- --
Non-performing and renegotiated loans
to total loans .26% 1.26% -- -- --
</Table>
17
<PAGE>
<Table>
<Caption>
March 1, 1998
(Inception)
Year Ended Year Ended Year Ended Year Ended through
December 31, December 31, December 31, December 31, December 31,
2002 2001 2000 1999 1998
------------ ------------ ------------ ------------ -------------
(In thousands, except per share, average share and percentage data)
<S> <C> <C> <C> <C> <C>
CAPITAL AND LIQUIDITY RATIOS
Total capital ratio 11.32% 11.73% 10.98% 23.84% 267.01%
Tier 1 capital ratio 10.16% 10.48% 9.94% 22.98% 266.64%
Tier 1 leverage ratio 7.66% 9.46% 9.62% 21.32% 397.86%
Average equity/average assets 8.57% 8.93% 12.07% 36.67% 46.58%(4)
Tangible equity/assets 6.89% 9.00% 9.31% 17.42% 79.85%
Average loans/average deposits 96.31% 95.54% 72.92% 81.12% 68.36%(4)
</Table>
(1) The consolidated statement of operations data and consolidated balance
sheet data presented above for the four most recent fiscal years ended
December 31 have been derived from our audited consolidated financial
statements, which have been audited by Ernst & Young LLP, independent
auditors. The historical results are not necessarily indicative of the
results to be expected in any future period.
(2) Represents non-interest expense divided by the sum of net interest
income and non-interest income for the periods shown.
(3) Amounts have been adjusted to reflect the one-for-one stock dividend,
which was declared on July 30, 2002 and which was payable on September
16, 2002, pursuant to which each stockholder received one additional
share of common stock for each share of common stock owned as of July
30, 2002.
(4) Percentage is calculated using the combined results of Resource Bank
and TCBI for 1998.
(5) Amounts for December 31, 2001 are adjusted to reflect the conversion of
753,301 shares of preferred stock outstanding on such date into
1,506,602 shares of common stock as each preferred share is convertible
into two shares of common stock. Amounts for December 31, 2002 are
adjusted to reflect the conversion of 1,057,142 shares of preferred
stock outstanding on such date into 2,114,284 shares of common stock as
each preferred share is convertible into two shares of common stock.
* Not meaningful.
<Table>
<Caption>
Resource Bank
-----------------------------------------------------
January 1 through October 3, 1997 (Inception)
December 18, 1998 through December 31, 1997
----------------- ---------------------------
(In thousands, except per share,
average share and percentage data)
<S> <C> <C>
SELECTED OPERATING DATA
Interest income $ 1,097 $ 86
Interest expense 377 10
Net interest income 720 76
Provision for loan losses 69 30
Net interest income after provision for loan losses 651 46
Non-interest income 60 3
Non-interest expense 1,057 271
Loss before taxes (346) (222)
Income tax expense -- --
Net loss (346) (222)
SELECTED BALANCE SHEET DATA
Total assets 19,605 8,060
Loans 11,102 1,532
Securities available-for-sale 3,175 --
Deposits 15,166 3,386
Federal funds purchased -- --
Other borrowings -- --
Stockholders' equity 4,292 4,638
</Table>
18
<PAGE>
ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS
OVERVIEW OF OUR OPERATING RESULTS
Our bank was formed through the acquisition of Resource Bank, N.A.,
which itself had been organized in 1997. Upon completion of our $80 million
private equity offering and acquisition of our predecessor bank, we commenced
operations in December 1998. The amount of capital we raised, which we believe
is the largest amount of start-up capital ever raised for a national bank, was
intended to support a significant level of near-term growth and permit us to
originate and retain loans of a size and type that our targeted customers,
middle market businesses and high net worth individuals, would find attractive.
Our large initial capitalization has resulted in reduced levels of return on
equity to date. However, as we build our loan and investment portfolio we expect
our return on equity to increase to normalized levels.
An important aspect of our growth strategy is the ability to service
and effectively manage a large number of loans and deposit accounts in multiple
markets in Texas. Accordingly, we created an operations infrastructure
sufficient to support state-wide lending and banking operations. We believe that
our existing infrastructure will allow us to grow our business over the next two
to three years both geographically and with respect to the size and number of
loan and deposit accounts without substantial additional capital expenditures.
During 1999 and 2000, we established a total of seven banking centers
in key metropolitan markets in Texas. We also invested resources in hiring
experienced bankers, which required a significant period of time for both
recruiting and transitioning them from their previous employers. In conjunction
with our roll-out of operations in 1999, we undertook a significant advertising
and marketing campaign to increase brand name recognition of the traditional
banking activities of our bank and of BankDirect, particularly in the
Dallas/Fort Worth business community. Once we had achieved our initial goals, we
were able to significantly reduce our advertising expenses [from $2.3 million
(which excludes approximately $1.9 million in expenses attributable to American
Airlines AAdvantage(R) minimum mile requirements and co-branded advertising) in
2000 to $278,000 in 2001] and place more emphasis on targeted marketing to, and
relationship-building efforts with, selected business groups, charities and
communities. As we enter new market areas, we intend to evaluate the efficiency
of selected advertising to brand our name and increase our recognition in those
markets.
Our historical financial results reflect the development of our company
in its early stages, notably in connection with initial start-up costs and the
raising and retention of excess capital to fund our planned growth. In 1999 and
2000, we incurred significant non-interest expenses for the start-up and
infrastructure costs described above, while revenue items gradually increased as
we began to source and originate loans and other earning assets. In 2001 and
2002, we achieved improved levels of profitability as these costs have been
spread over a larger asset base.
Our historical results also reflect the evolving role of BankDirect,
the Internet banking division of our bank, in our business. When we launched
BankDirect in 1999, we aimed to quickly establish a significant market position
and establish a significant deposit base with which to fund our growth.
Accordingly, we committed substantial resources to advertising for BankDirect
and offered its deposit products at very attractive rates. Our efforts were
successful, and BankDirect grew to account for approximately $369.7 million in
deposits by the end of 2000, providing much of the liquidity we required to
increase our lending activities during 2000. By early 2001, however, deposits at
our traditional bank had grown to an amount sufficient to fund a much larger
portion of our ongoing lending activities. As a result, we decided to reorient
the focus of BankDirect towards higher balance depositors to reduce our
management requirements and expenses. To this end, we restructured the account
fees charged by BankDirect and lowered the rates on deposit products. This
reorientation toward customers with higher deposit balances allowed us to
significantly reduce our expenses related to BankDirect [from $6.8 million
19
<PAGE>
in 2000 (which excludes approximately $1.9 million in expenses attributable to
American Airlines AAdvantage(R) minimum mile requirements and co-branded
advertising) to $3.0 million in 2001, a decrease of over 56%], while
substantially increasing the average balance held in our BankDirect accounts and
lowering the total number of accounts serviced by BankDirect. As of December 31,
2002, BankDirect provided a significant, but not primary, source of funding for
us, accounting for approximately 17% of our deposits.
Our operating results have improved significantly over the past several
years as we moved into full operations. The table below shows the annual growth
rate of our net interest income, net income, assets, loans and deposits:
<Table>
<Caption>
At or For Annual At or For Annual At or For Annual At or For Annual
December 31, Growth December 31, Growth December 31, Growth December 31, Growth
2002 Rate (1) 2001 Rate (1) 2000 Rate (1) 1999 Rate (1)
------------ -------- ------------ -------- ------------ -------- ------------ ----------
(In Thousands)
<S> <C> <C> <C> <C> <C> <C> <C> <C>
Net interest income $ 42,246 21% $ 35,055 53% $ 22,839 177% $ 8,248 815%
Net income (loss) 7,343 26% 5,844 135% (16,497) * (9,298) *
Assets 1,793,282 54% 1,164,779 28% 908,428 122% 408,579 357%
Loans 1,122,506 24% 903,979 44% 629,109 176% 227,600 1,952%
Deposits 1,196,535 35% 886,077 11% 794,857 177% 287,068 1,692%
</Table>
(1) The annual growth rate with respect to period data is the percentage
growth of the item in the period shown compared to the most recently
completed prior period. For purposes of calculating the 1999 annual
growth rate, results of our bank and Resource Bank, our predecessor
bank, for 1998 have been combined. The annual growth rate with respect
to data as of a particular date is the percentage growth of the item at
the date shown compared to the most recent prior date.
* Not meaningful.
The growth in our profitability is based on several key factors:
o we have successfully grown our asset base significantly each
year;
o we have been able to maintain stable and diverse funding
sources, resulting in increased net interest income from 2000
onward, despite a falling interest rate environment and the
fact that most of our loans have floating interest rates;
o the growth in our asset base has resulted in annual growth of
815%, 177%, 53% and 21% in our principal earnings source, net
interest income, in 1999, 2000, 2001 and 2002, respectively;
and
o since the completion of our initial advertising and marketing
campaigns and the reorientation of BankDirect, we have been
able to tightly control non-interest expenses; this has
contributed to a substantial improvement of our efficiency
ratio from 176.8% in 1999 to 69.5% during 2002.
YEAR ENDED DECEMBER 31, 2002 COMPARED TO YEAR ENDED DECEMBER 31, 2001
We recorded net income of $7.3 million net of $2.5 million in income
tax expense, or $0.32 per diluted common share, for 2002 compared to $5.8
million, or $0.30 per diluted common share, for 2001. Returns on average assets
and average equity were 0.54% and 6.27%, respectively, for 2002 compared to
0.58% and 6.44%, respectively, for 2001. The decrease in return on average
assets and average equity resulted from the accrual of current income tax
expense during 2002.
The increase in net income for 2002 was due to an increase in both net
interest income and non-interest income partially offset by an increase in
non-interest expense. Net interest income increased by $7.2 million, or 20.5%,
from $35.1 million in 2001 to $42.3 million. The increase in net interest income
was due to an increase in average earning assets of $319.5 million or 33.0%.
Non-interest income increased by $2.6 million in 2002 to $8.6 million,
compared to $6.0 million in 2001. Our service charge income increased by
$915,000, from $1.9 million in 2001 to $2.8 million in
20
<PAGE>
2002, due to an overall increase in deposits for 2002, which resulted in more
service charges on deposit accounts. We had cash processing fees of $993,000
associated with a special cash management project for a client in the first
quarter of 2002. Also, our trust income increased by $161,000, to $987,000 for
2002 compared to $826,000 for 2001, due to continued growth in trust assets.
Other non-interest income increased by $1.1 million in 2002 to $2.5 million from
$1.4 million in 2001, primarily related to Bank Owned Life Insurance (BOLI)
income, mortgage warehouse fees and letter of credit fees. Gain on sale of
securities in 2002 was $1.4 million and $1.9 million in 2001, due to our ability
to realize substantial profits from sales of fixed-rate debt securities as a
result of rapid declines in overall interest rates.
Non-interest expense increased by $6.0 million in 2002 to $35.4 million
compared to $29.4 million in 2001. The increase was partially due to an increase
in salaries and employee benefits of $1.7 million, a $1.1 million increase in
legal and professional expense and $1.2 million of IPO expenses. Advertising
increased $958,000 to $1.2 million in 2002. 2002 advertising expenses included
direct marketing and branding for the traditional banking activities of our bank
of $586,000 and for BankDirect of $12,000, as well as American Airlines
AAdvantage(R) minimum mile requirements of $630,000 and co-branded advertising
with American Airlines AAdvantage(R) of $8,000. We did not purchase any miles in
2001 because the miles that we were contractually required to purchase in 2000
were sufficient to cover our mileage rewards to customers in 2001.
YEAR ENDED DECEMBER 31, 2001 COMPARED TO YEAR ENDED DECEMBER 31, 2000
We recorded net income of $5.8 million for 2001 compared to a net loss
of $16.5 million for 2000. Diluted income (loss) per common share was $0.30 for
2001 and $(0.95) for 2000. Returns on average assets and average equity were
0.58% and 6.44%, respectively, for 2001 compared to (2.42)% and (20.02)%,
respectively, for 2000.
The increase in net income for 2001 was due to an increase in both net
interest income and non-interest income and a substantial decrease in
non-interest expenses. Net interest income increased by $12.2 million, or 53.5%,
to $35.1 million for 2001 compared to $22.8 million for 2000. The increase in
net interest income was primarily due to an increase of $317.0 million in
average earning assets, combined with an 11 basis point increase in the net
interest margin.
Non-interest income increased by $4.0 million in 2001 to $6.0 million,
compared to $2.0 million in 2000. The increase was in part due to an overall
increase in deposits for 2001, which resulted in more service charges on deposit
accounts. Also, our trust income increased by $252,000, to $826,000 for 2001
compared to $574,000 for 2000, due to continued growth in trust assets. Other
non-interest income increased by $521,000 in 2001 to $1.4 million from $877,000
in 2000, primarily related to mortgage warehouse fees, letter of credit fees,
investment fees, rental income, and gain on sale of leases. Gain on sale of
securities in 2001 was $1.9 million compared to $19,000 in 2000, due to our
ability to realize substantial profits from sales of fixed-rate debt securities
as a result of rapid declines in overall interest rates.
Non-interest expense decreased by $5.8 million in 2001 to $29.4 million
compared to $35.2 million in 2000. The decrease was due, in part, to a reduction
in total full-time employees from 234 at December 31, 2000 to 198 at December
31, 2001. 75% of this decrease in full-time employees from 2000 to 2001 was
attributable to a reduction in BankDirect employees from 40 to 13. Also, we
reduced advertising expenses to $278,000 in 2001 compared to $4.2 million in
2000. 2000 advertising expenses included direct marketing and branding for the
traditional banking activities of our bank of $724,000 and for BankDirect of
$1.6 million, as well as American Airlines AAdvantage(R) minimum mile
requirements of $1.1 million and co-branded advertising with American Airlines
AAdvantage(R) of $752,000. We did not purchase any miles in 2001 because the
miles that we were contractually required to purchase in 2000 were sufficient to
cover our mileage rewards to customers in 2001. Also, a reduction in other
non-interest expense was due to the accrual in 2000 of a $1.8 million contingent
liability related to an agreement to provide merchant card processing for a
customer who ceased operations and filed for bankruptcy in December 2000.
Approximately $300,000 of this liability was reversed in 2001.
21
<PAGE>
NET INTEREST INCOME
Net interest income was $42.3 million for the year ended December 31,
2002 compared to $35.1 million for the same period of 2001. The increase was
primarily due to an increase in average earning assets of $319.5 million for
2002 as compared to 2001. The increase in average earning assets from 2002
included a $176.2 million increase in average net loans, which represented 74.0%
of average earning assets for the year ended December 31, 2002 compared to 80.3%
for 2001. The decrease reflected management's decision to tighten lending
standards during 2002 pending clearer signs of improvement in the U.S. economy.
Securities increased to 24.8% of average earning assets in 2002 compared to
18.2% in 2001.
Average interest bearing liabilities increased $268.0 million in 2002
compared to 2001, due, in part, to a $120.7 million increase in interest bearing
deposits and a $147.3 million increase in borrowings. Average borrowings were
18.3% of average total assets for 2002 compared to 10.1% in 2001. The increase
in average borrowings was primarily related to an increase in federal funds
purchased and securities sold under repurchase agreements, and was used to
supplement deposits in funding loan growth and securities purchases. The average
cost of interest bearing liabilities decreased from 4.35% for the year ended
December 31, 2001 to 2.57% in 2002, reflecting the continuing decline in market
interest rates and a $55.8 million increase in non-interest bearing deposits.
Net interest income increased by $12.2 million, or 53.5%, in 2001 to
$35.1 million compared to $22.8 million in 2000. The increase in net interest
income was primarily due to a significant increase in average earning assets.
Average earning assets increased by $317.0 million during 2001, primarily due to
continued growth in our lending portfolio. Additionally, the mix of earning
assets improved during 2001. Average loans, which generally have higher yields
than other types of earning assets, increased to 80.3% of average earning assets
in 2001 compared to 64.5% of average earning assets in 2000.
Average interest bearing liabilities also increased by $269.9 million
during 2001 compared to 2000. Of this amount, interest bearing deposits
increased $186.6 million and borrowings increased $83.3 million. Average
borrowings were 10.1% of average total assets for 2001 compared to 2.9% for
2000. The increase in borrowings was used to supplement deposits in funding the
growth in loans. The average cost of interest bearing liabilities decreased in
2001 to 4.35% from 6.02% in 2000. The decrease was mainly due to the overall
decline in market interest rates, as well as the additional lowering of rates on
BankDirect deposits and a $51.0 million increase in non-interest bearing
deposits.
22
<PAGE>
VOLUME/RATE ANALYSIS
<Table>
<Caption>
(In Thousands) Years Ended December 31,
-------------------------------------------------------------------------------------------------
2002/2001 2001/2000 2000/1999
------------------------------- ------------------------------- -----------------------------
Change Due To(1) Change Due To(1) Change Due To(1)
-------------------- -------------------- -------------------
Change Volume Yield/Rate Change Volume Yield/Rate Change Volume Yield/Rate
------- ------- ---------- ------- ------- ---------- ------- ------- ----------
<S> <C> <C> <C> <C> <C> <C> <C> <C> <C>
Interest income:
Securities $ 4,724 $ 8,740 $ (4,016) $(2,848) $(1,811) $ (1,037) $ 8,048 $ 6,820 $ 1,228
Loans (4,849) 13,464 (18,313) 18,954 34,432 (15,478) 31,989 27,516 4,473
Federal funds sold (337) 7 (344) (1,198) (846) (352) 1,227 820 407
Deposits in other
banks 10 11 (1) (83) 1 (84) 91 8 83
------- ------- -------- ------- ------- -------- ------- ------- --------
(452) 22,222 (22,674) 14,825 31,776 (16,951) 41,355 35,164 6,191
Interest expense:
Transaction
deposits (414) 255 (669) 383 584 (201) 456 305 151
Savings deposits (7,214) (452) (6,762) (2,621) 4,497 (7,118) 13,787 11,461 2,326
Time deposits (2,908) 6,558 (9,466) 2,294 5,734 (3,439) 11,897 9,706 2,191
Borrowed funds 2,893 5,416 (2,523) 2,553 5,218 (2,665) 624 448 176
------- ------- -------- ------- ------- -------- ------- ------- --------
(7,643) 11,777 (19,420) 2,609 16,033 (13,423) 26,764 21,920 4,844
------- ------- -------- ------- ------- -------- ------- ------- --------
Net interest income $ 7,191 $10,445 $ (3,254) $12,216 $15,743 $ (3,528) $14,591 $13,244 $ 1,347
======= ======= ======== ======= ======= ======== ======= ======= ========
</Table>
(1) Changes attributable to both volume and yield/rate are allocated to
both volume and yield/rate on an equal basis.
Net interest margin decreased from 3.62% in 2001 to 3.28% in 2002. This
decrease was due primarily to the falling rate environment in which our balance
sheet continues to be asset sensitive, which means we had more loans repricing
than deposits over the year. The cost of interest bearing liabilities decreased
by 178 basis points in 2002, primarily due to overall lower market interest
rates, and an increase in non-interest bearing deposits.
Net interest margin increased from 3.51% in 2000 to 3.62% in 2001. This
increase was due primarily to lower cost of funds and continued strong asset
yields in a falling rate environment. The cost of interest bearing liabilities
decreased by 167 basis points in 2001, primarily due to lower interest rates
offered as a result of a reorientation of BankDirect, overall lower market
interest rates, and an increase in non-interest bearing deposits.
23
<PAGE>
CONSOLIDATED DAILY AVERAGE BALANCES, AVERAGE YIELDS AND RATES
<Table>
<Caption>
Texas Capital Bancshares
------------------------------------------------------------------------------------------------------
Year ended 2002 Year ended 2001 Year ended 2000
-------------------------------- ------------------------------- --------------------------------
Average Revenue/ Yield/ Average Revenue/ Yield/ Average Revenue/ Yield/
Balance Expense(1) Rate Balance Expense(1) Rate Balance Expense(2) Rate
---------- ---------- ------ ---------- ---------- ------ ---------- ---------- -----
<S> <C> <C> <C> <C> <C> <C> <C> <C> <C>
Assets
Taxable securities $ 318,864 $ 15,484 4.86% $ 175,945 $ 10,760 6.12% $ 202,955 $ 13,608 6.70%
Federal funds sold 14,874 243 1.63% 14,688 580 3.95% 28,025 1,778 6.34%
Deposits in other banks 558 28 5.02% 351 18 5.13% 348 101 29.02%
Loans 966,964 54,387 5.62% 787,879 59,236 7.52% 424,782 40,282 9.48%
Less reserve for loan
losses 13,226 -- -- 10,335 -- -- 4,619 -- --
---------- ---------- ----- ---------- ---------- ----- ---------- ---------- -----
Loans, net 953,738 54,387 5.70% 777,544 59,236 7.62% 420,163 40,282 9.59%
---------- ---------- ----- ---------- ---------- ----- ---------- ---------- -----
Total earning assets 1,288,034 70,142 5.45% 968,528 70,594 7.29% 651,491 55,769 8.56%
Cash and other assets 77,688 47,789 31,023
---------- ---------- ----------
Total assets $1,365,722 $1,016,317 $ 682,514
========== ========== ==========
Liabilities and
stockholders' equity
Transaction deposits $ 52,155 $ 491 0.94% $ 40,673 $ 905 2.23% $ 19,198 $ 522 2.72%
Savings deposits 349,128 6,671 1.91% 360,865 13,885 3.85% 283,594 16,506 5.82%
Time deposits 433,731 14,061 3.24% 312,826 16,969 5.42% 224,933 14,675 6.52%
---------- ---------- ----- ---------- ---------- ----- ---------- ---------- -----
Total interest
bearing deposits 835,014 21,223 2.54% 714,364 31,759 4.45% 527,725 31,703 6.01%
Other borrowings 249,000 6,608 2.65% 102,840 3,780 3.68% 19,579 1,227 6.27%
Long-term debt 1,178 65 5.52% -- -- -- -- -- --
---------- ---------- ----- ---------- ---------- ----- ---------- ---------- -----
Total interest
bearing liabilities 1,085,192 27,896 2.57% 817,204 35,539 4.35% 547,304 32,930 6.02%
Demand deposits 155,298 99,471 48,483
Other liabilities 8,138 8,878 4,326
Stockholders' equity 117,094 90,764 82,401
---------- ---------- ----------
Total liabilities
and stockholders'
equity $1,365,722 $1,016,317 $ 682,514
========== ========== ==========
Net interest income $ 42,246 $ 35,055 $ 22,839
Net interest income to
earning assets 3.28% 3.62% 3.51%
Net interest spread 2.88% 2.94% 2.54%
</Table>
- ------------
(1) The loan averages include loans on which the accrual of interest has
been discontinued and are stated net of unearned income.
(2) Revenue from deposits in other banks includes interest earned on
capital while held in an escrow account, which was established in
connection with our private equity offering.
24
<PAGE>
NON-INTEREST INCOME
<Table>
<Caption>
Year ended December 31
2002 2001 2000
------------ ------------ ------------
(In thousands)
<S> <C> <C> <C>
Service charges on deposit account $ 2,772 $ 1,857 $ 487
Trust fee income 987 826 574
Gain on sale of securities 1,375 1,902 19
Cash processing fees 993 -- --
Other 2,498 1,398 877
------------ ------------ ------------
Total non-interest income $ 8,625 $ 5,983 $ 1,957
============ ============ ============
</Table>
Non-interest income increased $2.6 million, or 44.2%, in the year ended
December 31, 2002 as compared to 2001. Service charges on deposit accounts
increased $915,000 for the year ended December 31, 2002 as compared to the same
period in 2001. This increase was due to the significant increase in deposits,
which resulted in a higher volume of transactions. Trust fee income increased
$161,000 due to continued growth of trust assets during 2002. Cash processing
fees totaled $993,000 for the year ended December 31, 2002. These fees were
related to a special project that occurred during the first quarter of 2002.
Other non-interest income increased by $1.1 million due to BOLI income, mortgage
warehousing fees and letter of credit fees.
Non-interest income for the year ended December 31, 2001 increased $4.0
million, or 205.7%, to $6.0 million compared with $2.0 million in 2000. Service
charges on deposit accounts increased $1.4 million, or 281.3%, in 2001 as
compared to 2000 due to the large increase in total deposits, which resulted in
a higher volume of transactions. Service charges on deposit accounts contributed
31.0% of our non-interest income for 2001 compared to 24.9% of our non-interest
income in 2000. Trust fee income increased by $252,000 in 2001 compared to 2000,
while contributing 13.8% of non-interest income for 2001 compared to 29.3% for
2000. Other non-interest income increased by $521,000, or 59.4%, compared to
2000 due to mortgage warehouse fees, letter of credit fees, investment fees,
rental income and gain on sale of leases. Gain on sale of securities increased
in 2001 to $1.9 million compared to $19,000 in 2000.
While management expects continued growth in non-interest income, the
future rate of growth could be affected by increased competition from nationwide
and regional financial institutions. In order to achieve continued growth in
non-interest income, we may need to introduce new products or enter into new
markets. Any new product introduction or new market entry would likely place
additional demands on capital and managerial resources.
25
<PAGE>
NON-INTEREST EXPENSE
<Table>
<Caption>
Year ended December 31
2002 2001 2000
------------ ------------ ------------
(In thousands)
<S> <C> <C> <C>
Salaries and employee benefits $ 16,757 $ 15,033 $ 15,330
Net occupancy expense 5,001 4,795 4,122
Advertising and affinity payments 1,236 278 4,182
Legal and professional 3,038 1,898 2,823
Communications and data processing 2,839 2,930 1,804
Franchise taxes 108 120 145
IPO expenses 1,190 -- --
Other (1) 5,201 4,378 6,752
------------ ------------ ------------
Total non-interest expense $ 35,370 $ 29,432 $ 35,158
============ ============ ============
</Table>
(1) Other expense includes such items as courier expenses, regulatory
assessments, business development expenses, due from bank charges, and
other general operating expenses, none of which account for 1% or more of
total interest income and non-interest income.
Non-interest expense for the year ended December 31, 2002 increased
$6.0 million, or 20.2%, compared to the same period of 2001. Salaries and
employee benefits increased by $1.7 million or 11.5% which accounts for 29.0% of
the increase in non-interest expense. Total full time employees increased from
198 at December 31, 2001 to 215 at December 31, 2002.
Net occupancy expense for the year ended December 31, 2002 increased by
$206,000, or 4.3%, mainly related to the relocation of our operations center in
the last quarter of 2001.
Advertising expense for the year ended December 31, 2002 increased
$958,000, or 344.6%, compared to 2001. Advertising expense for the year ended
December 31, 2002 included $586,000 of direct marketing and branding, including
print ads for the traditional bank and $12,000 for BankDirect, $630,000 for the
purchase of miles related to the American Airlines AAdvantage(R) program and
$8,000 of co-branded advertising with American Airlines. We did not purchase any
miles in 2001 because the miles that we were contractually required to purchase
in 2000 were sufficient to cover our mileage rewards to customers for 2001. In
2002, we are purchasing miles as we utilize them. Legal and professional
expenses increased $1.1 million or 60.1%, mainly related to legal expenses
incurred with our non-performing loans and leases. Communications and data
processing expense for the year ended December 31, 2002 decreased $91,000, or
3.1%, due to some increased efficiencies in our communications costs. IPO
expenses of $1.2 million were recognized as our offering attempt has been
postponed until more favorable market conditions return.
Non-interest expense totaled $29.4 million for 2001 compared to $35.2
million in 2000, a decrease of $5.8 million, or 16.3%. Approximately $297,000,
or 5.2%, of this decrease in 2001 compared to 2000 was related to salary and
employee benefits. Total full time employees decreased from 234 at December 31,
2000 to 198 at December 31, 2001. The decrease was due to our realignment of
staffing levels during the second quarter of 2001. Most of this decrease was due
to a reduction in BankDirect employees from 40 to 13, relating to our decision
to reorient the focus of BankDirect toward higher-balance depositors.
Net occupancy expense for 2001 increased $673,000 or 16.3%. The
increase was primarily due to our use of all of our primary locations for the
entire year, as well as the relocation of our operations center in the last
quarter of the year.
Advertising expense for 2001 totaled $278,000 compared to $4.2 million
in 2000. Advertising expense in 2000 included direct marketing with print and
online ads, branding for the traditional bank and BankDirect, and minimum miles
and co-branding related to the American Airlines AAdvantage(R) program.
26
<PAGE>
Legal and professional expense for 2001 totaled $1.9 million compared to $2.8
million in 2000. This decrease is partially due to costs incurred in 2000
related to obtaining final regulatory approval for the formation of a state
chartered savings bank in connection with a possible restructuring of our
operations (which we decided not to pursue), and an investment banking fee
related to BankDirect. Legal and professional expenses for 2000 also included a
$150,000 accrual related to legal expenses associated with the contingent
liability related to the merchant card processing arrangement, which is
discussed below. Communications and data processing expenses increased to $2.9
million in 2001, as compared to $1.8 million in 2000. This increase is due to
the strong growth in our loans and non-interest bearing deposits, which created
significantly more transactions to be processed. Included in other expenses in
2000 was a $1.8 million contingent liability related to an agreement to provide
merchant card processing for a customer who ceased operations and filed for
bankruptcy in December 2000. Other expenses in 2001 include a reversal of
approximately $300,000 of the $1.8 million contingent liability, as the actual
losses were less than the original amount accrued.
INCOME TAXES
We were utilizing net operating loss carryforwards for the first nine
months of 2002, but have expensed $2.5 million of current tax expense based on
the expected effective rate for 2002.
As we incurred net operating losses for 2000, and utilized net
operating loss carryforwards for 2001, there was no current or deferred
provision for income taxes in those periods. Deferred income taxes reflect the
net effects of temporary differences between the carrying amounts of assets and
liabilities for financial reporting purposes and the amounts used for income tax
purposes. At December 31, 2002, we had a net deferred tax asset of $2.2 million
with a reserve of $5.4 million. In assessing the need for a valuation allowance,
the Company has not assumed future taxable income. It is not practical to
determine the amount of deferred tax assets that will turn around in a time
period that will allow such assets to be recovered through carryback to the 2002
tax year, primarily as a result of uncertainty concerning the period in which
charge-offs will be recorded and sustained as tax deductions. As a result, the
Company has provided a valuation allowance for a portion of its deferred tax
assets.
At December 31, 2001, we had a net deferred tax asset of $7.0 million,
with a reserve equal to that amount. Net operating loss carryforwards at
December 31, 2001 were $6.3 million.
LINES OF BUSINESS
We operate two principal lines of business under our bank - the
traditional bank and BankDirect, an Internet-only bank that is operated as a
division of our bank. BankDirect, which provides a complete line of consumer
deposit services but offers no credit products, has been a net provider of
funds, and the traditional bank has been a net user of funds. In order to
provide a consistent measure of the net interest margin for BankDirect, we use a
multiple pool funds transfer rate to calculate credit for funds provided. This
method takes into consideration the current market conditions during the
reporting period.
During the launch of BankDirect in 1999, we incurred approximately $1.9
million in start-up expenses. In 2000, we committed significant resources to
advertising and marketing for BankDirect, including approximately $1.9 million
spent on AAdvantage(R) miles and co-branded advertising with American Airlines
AAdvantage(R). As a result, our non-interest expense related to BankDirect
increased to approximately $8.7 million in 2000.
In February 2001, we reoriented BankDirect towards higher balance
depositors and restructured the account fees charged by BankDirect. As a result,
we reduced our non-interest expense related to BankDirect to $3.0 million for
2001. In addition, our higher fees resulted in an increase in non-interest
income for 2001 to approximately $300,000 from approximately $30,000 in 2000.
The historical results below illustrate the evolving role and focus of
BankDirect in our business. As management's approach to evaluating the operating
performance of BankDirect changes, management will continue to assess the
appropriate reporting of BankDirect as a separate segment.
27
<PAGE>
THE TRADITIONAL BANK
<Table>
<Caption>
Year Ended December 31
2002 2001 2000
------------ ------------ ------------
(In thousands, except percentage data)
<S> <C> <C> <C>
Net interest income $ 41,299 $ 34,344 $ 20,860
Provision for loan losses 5,629 5,762 6,135
Non-interest income 8,490 5,671 1,927
Non-interest expense 30,466 25,431 24,288
------------ ------------ ------------
Net income (loss) $ 13,694 $ 8,822 $ (7,636)
============ ============ ============
Average assets $ 1,365,377 $ 1,016,301 $ 682,497
Total assets 1,792,395 1,164,763 908,412
Return on average assets 1.00% .87% (1.12)%
</Table>
BANKDIRECT
<Table>
<Caption>
Year Ended December 31
2002 2001 2000
------------ ------------ ------------
(In thousands)
<S> <C> <C> <C>
Net interest income $ 1,012 $ 711 $ 1,901
Non-interest income 135 312 30
Non-interest expense 2,515 2,985 8,692
------------ ------------ ------------
Net loss $ (1,368) $ (1,962) $ (6,761)
============ ============ ============
</Table>
28
<PAGE>
CONSOLIDATED INTERIM FINANCIAL INFORMATION
<Table>
<Caption>
(In Thousands except Per Share Data) 2002
------------------------------------------------------------------
Selected Quarterly Financial Data
------------------------------------------------------------------
Fourth Third Second First
------------ ------------ ------------ ------------
<S> <C> <C> <C> <C>
Interest income $ 20,067 $ 18,062 $ 16,533 $ 15,480
Interest expense 8,303 7,188 6,319 6,086
------------ ------------ ------------ ------------
Net interest income 11,764 10,874 10,214 9,394
Provision for loan losses 1,270 2,380 808 1,171
------------ ------------ ------------ ------------
Net interest income after provision for loan losses 10,494 8,494 9,406 8,223
Non-interest income 2,106 1,488 1,460 2,196
Securities gains, net -- 1,375 -- --
Non-interest expense 10,027 8,563 8,439 8,341
------------ ------------ ------------ ------------
Income before income taxes 2,573 2,794 2,427 2,078
Income tax expense 701 700 608 520
------------ ------------ ------------ ------------
Net income 1,872 2,094 1,819 1,558
Preferred stock dividends (280) (280)