United Community Banks, Inc.
UNITED COMMUNITY BANKS INC (Form: 10-Q, Received: 08/08/2008 14:13:55)
Table of Contents

 
 
UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-Q
     
þ   QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
For the Quarterly Period Ended June 30, 2008
OR
     
o   TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
For the Transition Period from                      to                     
Commission file number 0-21656
UNITED COMMUNITY BANKS, INC.
(Exact name of registrant as specified in its charter)
     
Georgia   58-1807304
     
(State of Incorporation)   (I.R.S. Employer Identification No.)
     
63 Highway 515    
Blairsville, Georgia   30512
     
Address of Principal   (Zip Code)
Executive Offices    
(706) 781-2265
(Telephone Number)
Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days.
YES þ NO o
Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, or a non-accelerated filer or a smaller reporting company. See definitions of “large accelerated filer”, “accelerated filer” and “smaller reporting company” in Rule 12b-2 of the Exchange Act.
             
Large accelerated filer þ   Accelerated filer o   Non-accelerated filer o   Smaller Reporting Company o
        (Do not check if a smaller reporting company)    
Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Act).
YES o NO þ
Common stock, par value $1 per share: 47,095,991 shares outstanding as of June 30, 2008
 
 

 

 


 

INDEX
         
       
 
       
       
 
       
    2  
 
       
    3  
 
       
    4  
 
       
    5  
 
       
    6  
 
       
    12  
 
       
    29  
 
       
    29  
 
       
       
 
       
    30  
 
       
    30  
 
       
    30  
 
       
    30  
 
       
    30  
 
       
    30  
 
       
    31  
 
       
  Exhibit 31.1
  Exhibit 31.2
  Exhibit 32

 

1


Table of Contents

Part I — Financial Information
Item 1 — Financial Statements
UNITED COMMUNITY BANKS, INC.
Consolidated Statement of Income (unaudited)
                                 
    Three Months Ended     Six Months Ended  
    June 30,     June 30,  
(in thousands, except per share data)   2008     2007     2008     2007  
 
                               
Interest revenue:
                               
Loans, including fees
  $ 97,051     $ 119,799     $ 206,317     $ 233,872  
Investment securities:
                               
Taxable
    18,879       15,476       37,507       29,444  
Tax exempt
    398       438       792       885  
Federal funds sold and deposits in banks
    50       80       272       138  
 
                       
Total interest revenue
    116,378       135,793       244,888       264,339  
 
                       
 
                               
Interest expense:
                               
Deposits:
                               
NOW
    7,216       11,470       15,803       22,097  
Money market
    2,310       3,540       5,223       6,080  
Savings
    180       374       407       683  
Time
    38,828       41,979       77,712       83,604  
 
                       
Total deposit interest expense
    48,534       57,363       99,145       112,464  
Federal funds purchased, repurchase agreements, & other short-term borrowings
    1,820       3,671       6,138       5,488  
Federal Home Loan Bank advances
    2,818       5,035       8,563       9,836  
Long-term debt
    2,059       2,201       4,139       4,405  
 
                       
Total interest expense
    55,231       68,270       117,985       132,193  
 
                       
Net interest revenue
    61,147       67,523       126,903       132,146  
Provision for loan losses
    15,500       18,700       23,000       22,400  
 
                       
Net interest revenue after provision for loan losses
    45,647       48,823       103,903       109,746  
 
                       
 
                               
Fee revenue:
                               
Service charges and fees
    7,957       7,975       15,770       15,228  
Mortgage loan and other related fees
    2,202       2,476       4,165       4,699  
Consulting fees
    2,252       2,241       4,059       3,988  
Brokerage fees
    814       1,192       1,907       2,136  
Securities gains, net
    357       1,386       357       1,593  
Losses on prepayment of borrowings
          (1,164 )           (1,164 )
Other
    1,523       2,448       3,044       4,456  
 
                       
Total fee revenue
    15,105       16,554       29,302       30,936  
 
                       
Total revenue
    60,752       65,377       133,205       140,682  
 
                       
 
                               
Operating expenses:
                               
Salaries and employee benefits
    28,753       30,022       57,507       58,339  
Communications and equipment
    3,852       3,845       7,684       7,657  
Occupancy
    3,704       3,316       7,420       6,507  
Advertising and public relations
    2,009       2,098       3,360       4,114  
Postage, printing and supplies
    1,448       1,680       3,040       3,340  
Professional fees
    1,679       2,010       3,600       3,489  
Amortization of intangibles
    745       633       1,512       1,197  
Other
    7,571       4,098       13,167       7,900  
 
                       
Total operating expenses
    49,761       47,702       97,290       92,543  
 
                       
Income before income taxes
    10,991       17,675       35,915       48,139  
Income taxes
    3,898       5,764       12,744       16,883  
 
                       
Net income
  $ 7,093     $ 11,911     $ 23,171     $ 31,256  
 
                       
 
                               
Net income available to common shareholders
  $ 7,089     $ 11,906     $ 23,163     $ 31,246  
 
                       
 
                               
Earnings per common share:
                               
Basic
  $ .15     $ .26     $ .49     $ .71  
Diluted
    .15       .26       .49       .70  
Dividends per common share
    .09       .09       .18       .18  
Weighted average common shares outstanding:
                               
Basic
    47,060       44,949       47,013       43,980  
Diluted
    47,249       45,761       47,260       44,842  
See notes to Consolidated Financial Statements

 

2


Table of Contents

UNITED COMMUNITY BANKS, INC.
Consolidated Balance Sheet
                         
    June 30,     December 31,     June 30,  
(in thousands, except share and per share data)   2008     2007     2007  
    (unaudited)     (audited)     (unaudited)  
 
                       
ASSETS
                       
 
                       
Cash and due from banks
  $ 176,240     $ 157,549     $ 171,095  
Interest-bearing deposits in banks
    12,455       62,074       23,146  
 
                 
Cash and cash equivalents
    188,695       219,623       194,241  
 
                       
Securities available for sale
    1,430,588       1,356,846       1,213,659  
Mortgage loans held for sale
    27,094       28,004       30,615  
Loans, net of unearned income
    5,933,141       5,929,263       5,999,093  
Less allowance for loan losses
    91,035       89,423       92,471  
 
                 
Loans, net
    5,842,106       5,839,840       5,906,622  
 
                       
Premises and equipment, net
    181,395       180,088       171,327  
Accrued interest receivable
    50,399       62,828       64,538  
Goodwill and other intangible assets
    323,296       325,305       326,467  
Other assets
    220,478       194,768       180,198  
 
                 
Total assets
  $ 8,264,051     $ 8,207,302     $ 8,087,667  
 
                 
 
                       
LIABILITIES AND SHAREHOLDERS’ EQUITY
                       
Liabilities:
                       
Deposits:
                       
Demand
  $ 696,575     $ 700,941     $ 773,435  
NOW
    1,541,609       1,474,818       1,447,789  
Money market
    418,935       452,917       504,730  
Savings
    187,088       186,392       207,468  
Time:
                       
Less than $100,000
    1,744,217       1,573,604       1,651,486  
Greater than $100,000
    1,573,078       1,364,763       1,428,841  
Brokered
    534,954       322,516       347,520  
 
                 
Total deposits
    6,696,456       6,075,951       6,361,269  
 
                       
Federal funds purchased, repurchase agreements, and other short-term borrowings
    288,650       638,462       238,429  
Federal Home Loan Bank advances
    285,807       519,782       499,060  
Long-term debt
    107,996       107,996       113,151  
Accrued expenses and other liabilities
    47,252       33,209       47,027  
 
                 
Total liabilities
    7,426,161       7,375,400       7,258,936  
 
                 
 
                       
Shareholders’ equity:
                       
Preferred stock, $1 par value; $10 stated value; 10,000,000 shares authorized; 25,800, 25,800 and 32,200 shares issued and outstanding
    258       258       322  
Common stock, $1 par value; 100,000,000 shares authorized; 48,809,301, 48,809,301 and 48,781,351 shares issued
    48,809       48,809       48,781  
Common stock issuable; 105,579, 73,250 and 60,761 shares
    2,696       2,100       1,816  
Capital surplus
    462,939       462,881       461,226  
Retained earnings
    362,089       347,391       329,229  
Treasury stock; 1,713,310 and 1,905,921 shares, at cost
    (39,222 )     (43,798 )      
Accumulated other comprehensive income (loss)
    321       14,261       (12,643 )
 
                 
Total shareholders’ equity
    837,890       831,902       828,731  
 
                 
 
                       
Total liabilities and shareholders’ equity
  $ 8,264,051     $ 8,207,302     $ 8,087,667  
 
                 
See notes to Consolidated Financial Statements

 

3


Table of Contents

UNITED COMMUNITY BANKS, INC.
Consolidated Statement of Changes in Shareholders’ Equity (Unaudited)
For the Six Months Ended June 30,
                                                                 
                                                    Accumulated        
                    Common                             Other        
    Preferred     Common     Stock     Capital     Retained     Treasury     Comprehensive        
(in thousands, except share and per share data)   Stock     Stock     Issuable     Surplus     Earnings     Stock     Income (Loss)     Total  
 
                                                               
Balance, December 31, 2006
  $ 322     $ 42,891     $ 862     $ 270,383     $ 306,261     $     $ (3,952 )   $ 616,767  
 
                                                               
Comprehensive income:
                                                               
Net income
                                    31,256                       31,256  
Other comprehensive income:
                                                               
Unrealized holding losses on available for sale securities, net of deferred tax benefit and reclassification adjustment
                                                    (5,517 )     (5,517 )
Unrealized losses on derivative financial instruments qualifying as cash flow hedges, net of deferred tax benefit
                                                    (3,174 )     (3,174 )
 
                                               
   
Comprehensive income
                                    31,256               (8,691 )     22,565  
Cash dividends declared on common stock ($.18 per share)
                                    (8,278 )                     (8,278 )
Common stock issued for acquisitions ( 5,691,948 shares)
            5,692               185,649                               191,341  
Exercise of stock options (78,228 shares)
            78               722                               800  
Common stock issued to Dividend Reinvestment Plan and employee benefit plans (90,002 shares)
            90               2,791                               2,881  
Amortization of stock option and restricted stock awards
                            1,630                               1,630  
Vesting of restricted stock (30,310 shares issued, 2,750 shares deferred)
            30       81       (111 )                              
Deferred compensation plan, net, including dividend equivalents
                    873                                       873  
Tax benefit from options exercised
                            162                               162  
Dividends declared on preferred stock ($.30 per share)
                                    (10 )                     (10 )
 
                                               
 
                                                               
Balance, June 30, 2007
  $ 322     $ 48,781     $ 1,816     $ 461,226     $ 329,229     $     $ (12,643 )   $ 828,731  
 
                                               
 
                                                               
Balance, December 31, 2007
  $ 258     $ 48,809     $ 2,100     $ 462,881     $ 347,391     $ (43,798 )   $ 14,261     $ 831,902  
 
                                                               
Comprehensive income:
                                                               
Net income
                                    23,171                       23,171  
Other comprehensive income:
                                                               
Unrealized holding losses on available for sale securities, net of deferred tax benefit and reclassification adjustment
                                                    (15,203 )     (15,203 )
Unrealized gains on derivative financial instruments qualifying as cash flow hedges, net of deferred tax expense
                                                    1,263       1,263  
 
                                               
   
Comprehensive income
                                    23,171               (13,940 )     9,231  
Cash dividends declared on common stock ($.18 per share)
                                    (8,465 )                     (8,465 )
Exercise of stock options (62,860 shares)
                            (717 )             1,529               812  
Common stock issued to Dividend Reinvestment Plan and employee benefit plans (113,047 shares)
                            (1,024 )             2,648               1,624  
Amortization of stock options and restricted stock
                            1,944                               1,944  
Vesting of restricted stock (15,159 shares issued, 8,700 shares deferred)
                    264       (626 )             362                
Deferred compensation plan, net, including dividend equivalents
                    374                                       374  
Shares issued from deferred compensation plan (1,545 shares)
                            (42 )     5               37        
Tax benefit from options exercised
                            476                               476  
Dividends declared on preferred stock ($.30 per share)
                                    (8 )                     (8 )
 
                                               
 
                                                               
Balance, June 30, 2008
  $ 258     $ 48,809     $ 2,696     $ 462,939     $ 362,089     $ (39,222 )   $ 321     $ 837,890  
 
                                               
Comprehensive loss for the second quarter of 2008 was $31,569,000 and comprehensive income for the second quarter of 2007 was $511,000.
See notes to Consolidated Financial Statements

 

4


Table of Contents

UNITED COMMUNITY BANKS, INC.
Consolidated Statement of Cash Flows (Unaudited)
                 
    Six Months Ended  
    June 30,  
(in thousands)   2008     2007  
Operating activities, net of effect of business combinations:
               
Net income
  $ 23,171     $ 31,256  
Adjustments to reconcile net income to net cash provided by operating activities:
               
Depreciation, amortization and accretion
    7,211       6,728  
Provision for loan losses
    23,000       22,400  
Stock based compensation
    1,944       1,630  
Gain on sale of securities available for sale
    (357 )     (1,593 )
Gain on sale of other assets
    (29 )     (210 )
Loss on prepayment of borrowings
          1,164  
Changes in assets and liabilities:
               
Other assets and accrued interest receivable
    (14,055 )     (5,732 )
Accrued expenses and other liabilities
    25,309       (13,319 )
Mortgage loans held for sale
    910       4,710  
 
           
Net cash provided by operating activities
    67,104       47,034  
 
           
 
               
Investing activities, net of effect of business combinations:
               
Proceeds from sales of securities available for sale
    79,735       44,150  
Proceeds from maturities and calls of securities available for sale
    344,597       187,556  
Purchases of securities available for sale
    (511,626 )     (300,857 )
Net increase in loans
    (65,062 )     (113,609 )
Purchase of Bank Owned Life Insurance (BOLI)
          (50,000 )
Proceeds from sales of premises and equipment
    323       662  
Purchases of premises and equipment
    (7,291 )     (20,357 )
Net cash paid for acquisitions
          (4,346 )
Proceeds from sale of other real estate
    30,636       7,799  
 
           
Net cash used by investing activities
    (128,688 )     (249,002 )
 
           
 
               
Financing activities, net of effect of business combinations:
               
Net change in deposits
    620,505       20,538  
Net change in federal funds purchased, repurchase agreements, and other short-term borrowings
    (349,812 )     209,200  
Proceeds from FHLB advances
    400,000       750,000  
Repayments of FHLB advances
    (634,000 )     (751,164 )
Proceeds from exercise of stock options
    812       800  
Proceeds from issuance of common stock for dividend reinvestment and employee benefit plans
    1,624       2,881  
Cash dividends on common stock
    (8,465 )     (7,320 )
Cash dividends on preferred stock
    (8 )     (10 )
 
           
Net cash provided by financing activities
    30,656       224,925  
 
           
 
               
Net change in cash and cash equivalents
    (30,928 )     22,957  
 
               
Cash and cash equivalents at beginning of period
    219,623       171,284  
 
           
 
               
Cash and cash equivalents at end of period
  $ 188,695     $ 194,241  
 
           
 
               
Supplemental disclosures of cash flow information:
               
Cash paid during the period for:
               
Interest
  $ 120,314     $ 130,527  
Income taxes
    20,098       26,984  
See notes to Consolidated Financial Statements

 

5


Table of Contents

United Community Banks, Inc.
Notes to Consolidated Financial Statements
Note 1 — Accounting Policies
The accounting and financial reporting policies of United Community Banks, Inc. (“United”) and its subsidiaries conform to accounting principles generally accepted in the United States of America and general banking industry practices. The accompanying interim consolidated financial statements have not been audited. All material intercompany balances and transactions have been eliminated. A more detailed description of United’s accounting policies is included in the 2007 annual report filed on Form 10-K.
In management’s opinion, all accounting adjustments necessary to accurately reflect the financial position and results of operations on the accompanying financial statements have been made. These adjustments are normal and recurring accruals considered necessary for a fair and accurate presentation. The results for interim periods are not necessarily indicative of results for the full year or any other interim periods.
Note 2 — Stock-Based Compensation
United has an equity compensation plan that allows for grants of incentive stock options, nonqualified stock options, restricted stock awards (also referred to as “nonvested stock” awards), stock awards, performance share awards or stock appreciation rights. Options granted under the plan can have an exercise price no less than the fair market value of the underlying stock at the date of grant. The general terms of the plan include a vesting period (usually four years) with an exercisable period not to exceed ten years. Certain option and restricted stock awards provide for accelerated vesting if there is a change in control (as defined in the plan). As of June 30, 2008, approximately 1,378,000 additional awards could be granted under the plan. Through June 30, 2008, only incentive stock options, nonqualified stock options and restricted stock awards had been granted under the plan.
The following table shows stock option activity for the first six months of 2008.
                                 
                    Weighted-        
                    Average     Aggregate  
            Weighted-     Remaining     Intrinisic  
            Average Exercise     Contractual     Value  
Options   Shares     Price     Term (Years)     ($000)  
 
                               
Outstanding at December 31, 2007
    2,912,557     $ 21.57                  
Granted
    582,750       13.79                  
Exercised
    (68,039 )     13.51                  
Forfeited
    (53,175 )     28.50                  
Expired
    (23,275 )     24.21                  
 
                             
Outstanding at June 30, 2008
    3,350,818     $ 20.26       6.5     $ 74  
 
                       
 
                               
Exercisable at June 30, 2008
    2,025,341     $ 18.88       4.9     $ 74  
 
                       
The weighted average fair value of stock options granted in the second quarter of 2008 and 2007 was $2.93 and $8.30, respectively. The fair value of each option granted was estimated on the date of grant using the Black-Scholes model. Because United’s option plan has not been in place long enough to gather sufficient information about exercise patterns to establish an expected life, United uses the formula provided by the Securities and Exchange Commission in Staff Accounting Bulletin No. 107 to determine the expected life of options. The key assumptions used to determine the fair value of stock options are presented in the table below.
                 
    Six Months Ended  
    June 30,  
    2008     2007  
 
               
Expected volatility
    23.4 %     20 %
Expected dividend yield
  2.1% to 3.6%   1.1% to 1.2%
Expected life (in years)
    6.25       6.25 to 6.50  
Risk-free rate
  2.9% to 3.9%   4.6% to 4.9%

 

6


Table of Contents

United’s stock trading history began in March of 2002 when United listed on the Nasdaq National Market. For 2008 and 2007, expected volatility was determined using United’s historical monthly volatility over the period beginning in March of 2002 through the end of the last completed year. Compensation expense for stock options was $1.1 million and $1.0 million for the six months ended June 30, 2008 and 2007, respectively, which was net of deferred tax benefits of $445,000 and $293,000, respectively. The amount of compensation expense for both periods was determined based on the fair value of the options at the time of grant, multiplied by the number of options granted that were expected to vest, which was then amortized, net of any applicable tax benefit, over the vesting period. The forfeiture rate for options is estimated to be approximately 3% per year. The total intrinsic value of options exercised during the six months ended June 30, 2008 and 2007 was $277,000 and $1.8 million, respectively.
The table below presents the activity in restricted stock awards for the first six months of 2008.
                 
            Weighted-  
            Average Grant-  
Restricted Stock   Shares     Date Fair Value  
 
               
Outstanding at December 31, 2007
    84,413     $ 29.26  
Granted
    29,597       14.11  
Vested
    (23,859 )     26.95  
Cancelled
    (3,000 )     30.10  
 
             
Outstanding at June 30, 2008
    87,151     $ 24.72  
 
           
Compensation expense for restricted stock is based on the fair value of restricted stock awards at the time of grant, which is equal to the value of United’s common stock on the date of grant. The value of restricted stock grants that are expected to vest is amortized into expense over the vesting period. For the six months ended June 30, 2008 and 2007, compensation expense of $441,000 and $324,000, respectively, was recognized related to restricted stock awards. The total intrinsic value of the restricted stock was $743,000 at June 30, 2008.
As of June 30, 2008, there was $8.9 million of unrecognized compensation cost related to nonvested stock options and restricted stock awards granted under the plan. That cost is expected to be recognized over a weighted-average period of 1.5 years. The aggregate grant date fair value of options and restricted stock awards that vested during the six months ended June 30, 2008, was $3.5 million.
Note 3 — Common Stock Issued / Common Stock Issuable
United provides a Dividend Reinvestment and Share Purchase Plan (DRIP) to its shareholders. Under the DRIP, shareholders of record can voluntarily reinvest all or a portion of their cash dividends into shares of United’s common stock, as well as purchase additional stock through the plan with cash. United’s 401(k) retirement plan regularly purchases shares of United’s common stock directly from United. In addition, United has an Employee Stock Purchase Program (ESPP) that allows eligible employees to purchase shares of common stock at a 5% discount, with no commission charges. For the six months ended June 30, 2008 and 2007, United issued 113,047 and 90,002 shares, respectively, and increased capital by $1.6 million and $2.9 million, respectively, through these programs.
In the fourth quarter of 2005, United began offering its common stock as an investment option in its deferred compensation plan. The common stock component of the deferred compensation plan is accounted for as an equity instrument and is reflected in the consolidated financial statements as common stock issuable. At June 30, 2008 and 2007, 105,579 and 60,761 shares, respectively, are issuable under the deferred compensation plan.

 

7


Table of Contents

Note 4 — Earnings Per Share
The following table sets forth the computation of basic and diluted earnings per share for the three months and six months ended June 30 .
                                 
    Three Months Ended     Six Months Ended  
    June 30,     June 30,  
(in thousands, except per share data)   2008     2007     2008     2007  
 
                               
Net income available to common shareholders
  $ 7,089     $ 11,906     $ 23,163     $ 31,246  
 
                       
 
                               
Weighted average shares outstanding:
                               
Basic
    47,060       44,949       47,013       43,980  
Effect of dilutive securities
                               
Stock options and restricted stock
    91       760       155       819  
Common stock issuable under deferred compensation plan
    98       52       92       43  
 
                       
Diluted
    47,249       45,761       47,260       44,842  
 
                       
 
                               
Earnings per common share:
                               
Basic
  $ .15     $ .26     $ .49     $ .71  
 
                       
Diluted
  $ .15     $ .26     $ .49     $ .70  
 
                       
Note 5 — Mergers and Acquisitions
On June 1, 2007, United acquired 100 percent of the outstanding common shares of Gwinnett Commercial Group, Inc. (Gwinnett), a community bank holding company headquartered in Lawrenceville, Georgia. Gwinnett’s results of operations are included in consolidated financial results from the acquisition date. Gwinnett was the parent company of First Bank of the South, a community bank with five full service banking offices serving the north metro Atlanta counties of Gwinnett, DeKalb and north Fulton and a commercial loan office in Walton County. United has continued to expand its presence in metropolitan Atlanta and the acquisition of Gwinnett accomplished a long-standing strategic goal of encircling metro Atlanta. Additionally, Gwinnett brought strong commercial lending experience to better diversify United’s business mix. The aggregate purchase price was approximately $222.9 million, including 5,691,948 shares of United’s common stock and $31.5 million in cash that was exchanged for all of the outstanding common shares and options to purchase common shares of Gwinnett. The value of the common stock issued of $33.62 per share was determined based on the average of the closing market price of United’s common shares over the period beginning two days before and ending two days after the terms of the acquisition were agreed to and announced.
The financial information below presents the pro forma earnings of United assuming that the results of operations of Gwinnett were included in consolidated earnings for the three and six months ended June 30.
                                 
    Three Months Ended     Six Months Ended  
    June 30,     June 30,  
    2008     2007     2008     2007  
 
                               
Total revenue
  $ 60,752     $ 69,221     $ 133,205     $ 151,930  
Net income
    7,093       13,016       23,171       35,514  
 
                               
Diluted earnings per common share
    .15       .26       .49       .72  
Note 6 — Assets and Liabilities Measured at Fair Value
On January 1, 2008, United adopted Statement of Financial Accounting Standards No. 157, Fair Value Measurements (“SFAS No. 157”). SFAS No. 157 defines fair value, establishes a framework for measuring fair value, and expands disclosures about fair value measurements. SFAS No. 157 applies to reported balances that are required or permitted to be measured at fair value under existing accounting pronouncements; accordingly, the standard does not require any new fair value measurements of reported balances.

 

8


Table of Contents

SFAS No. 157 emphasizes that fair value is a market-based measurement, not an entity-specific measurement. Therefore, a fair value measurement should be determined based on the assumptions that market participants would use in pricing the asset or liability. As a basis for considering market participant assumptions in fair value measurements, SFAS No. 157 establishes a fair value hierarchy that distinguishes between market participant assumptions based on market data obtained from sources independent of the reporting entity (observable inputs that are classified within Levels 1 and 2 of the hierarchy) and the reporting entity’s own assumptions about market participant assumptions (unobservable inputs classified within Level 3 of the hierarchy).
Fair Value Hierarchy
  Level 1  
Valuation is based upon quoted prices (unadjusted) in active markets for identical assets or liabilities that United has the ability to access.
 
  Level 2  
Valuation is based upon quoted prices for similar assets and liabilities in active markets, as well as inputs that are observable for the asset or liability (other than quoted prices), such as interest rates, foreign exchange rates, and yield curves that are observable at commonly quoted intervals.
 
  Level 3  
Valuation is generated from model-based techniques that use at least one significant assumption based on unobservable inputs for the asset or liability, which are typically based on an entity’s own assumptions, as there is little, if any, related market activity. In instances where the determination of the fair value measurement is based on inputs from different levels of the fair value hierarchy, the level in the fair value hierarchy within which the entire fair value measurement falls is based on the lowest level input that is significant to the fair value measurement in its entirety. United’s assessment of the significance of a particular input to the fair value measurement in its entirety requires judgment, and considers factors specific to the asset or liability.
The following is a description of valuation methodologies used for assets and liabilities recorded at fair value.
Securities Available for Sale
Investment securities available-for-sale are recorded at fair value on a recurring basis. Fair value measurement is based upon quoted prices, if available. If quoted prices are not available, fair values are measured using independent pricing models or other model-based valuation techniques such as the present value of future cash flows, adjusted for the security’s credit rating, prepayment assumptions and other factors such as credit loss assumptions. Level 1 securities include those traded on an active exchange, such as the New York Stock Exchange, U.S. Treasury securities that are traded by dealers or brokers in active over-the-counter markets and money market funds. Level 2 securities include mortgage-backed securities issued by government sponsored entities, municipal bonds and corporate debt securities. Securities classified as Level 3 include asset-backed securities in less liquid markets.
Deferred Compensation Plan Assets and Liabilities
Included in other assets in the consolidated balance sheet are assets related to employee deferred compensation plans. The assets associated with these plans are invested in mutual funds and classified as Level 1. Deferred compensation liabilities, also classified as Level 1, are carried at the fair value of the obligation to the employee, which mirrors the fair value of the invested assets and is included in other liabilities in the consolidated balance sheet.
Loans Held for Sale
Loans held for sale are carried at the lower of cost or market value. The fair value of loans held for sale is based on what secondary markets are currently offering for portfolios with similar characteristics. As such, United classifies loans subjected to nonrecurring fair value adjustments as Level 2.

 

9


Table of Contents

Loans
United does not record loans at fair value on a recurring basis. However, from time to time, a loan is considered impaired and an allowance for loan losses is established. Loans for which it is probable that payment of interest and principal will not be made in accordance with the contractual terms of the loan agreement are considered impaired. Once a loan is identified as individually impaired, management measures impairment in accordance with SFAS 114, Accounting by Creditors for Impairment of a Loan , (SFAS 114). The fair value of impaired loans is estimated using one of several methods, including collateral value, market value of similar debt, enterprise value, liquidation value and discounted cash flows. Those impaired loans not requiring an allowance represent loans for which the fair value of the expected repayments or collateral exceed the recorded investments in such loans. At June 30, 2008, substantially all of the total impaired loans were evaluated based on the fair value of the collateral. In accordance with SFAS 157, impaired loans where an allowance is established based on the fair value of collateral require classification in the fair value hierarchy. When the fair value of the collateral is based on an observable market price or a current appraised value, United records the impaired loan as nonrecurring Level 2. When an appraised value is not available or management determines the fair value of the collateral is further impaired below the appraised value and there is no observable market price, United records the impaired loan as nonrecurring Level 3.
Foreclosed Assets
Foreclosed assets are adjusted to fair value upon transfer of the loans to foreclosed assets. Subsequently, foreclosed assets are carried at the lower of carrying value or fair value. Fair value is based upon independent market prices, appraised values of the collateral or management’s estimation of the value of the collateral. When the fair value of the collateral is based on an observable market price or a current appraised value, United records the foreclosed asset as nonrecurring Level 2. When an appraised value is not available or management determines the fair value of the collateral is further impaired below the appraised value and there is no observable market price, United records the foreclosed asset as nonrecurring Level 3.
Goodwill and Other Intangible Assets
Goodwill and identified intangible assets are subject to impairment testing. United’s approach to testing goodwill for impairment is to compare the business unit’s carrying value to the implied fair value based on multiples of earnings and tangible book value for recently completed merger transactions. In the event the fair value is determined to be less than the carrying value, the asset is recorded at fair value as determined by the valuation model. As such, United classifies goodwill and other intangible assets subjected to nonrecurring fair value adjustments as Level 3.
Derivative Financial Instruments
Currently, United uses interest rate swaps and interest rate floors to manage its interest rate risk. The valuation of these instruments is determined using widely accepted valuation techniques including discounted cash flow analysis on the expected cash flows of each derivative. This analysis reflects the contractual terms of the derivatives, including the period to maturity, and uses observable market-based inputs, including interest rate curves and implied volatilities. The fair values of interest rate swaps are determined using the market standard methodology of netting the discounted future fixed cash receipts and the discounted expected variable cash payments. The variable cash payments are based on an expectation of future interest rates (forward curves) derived from observable market interest rate curves.
The fair values of interest rate options are determined using the market standard methodology of discounting the future expected cash receipts that would occur if variable interest rates fell below the strike rate of the floors. The variable interest rates used in the calculation of projected receipts on the floor are based on an expectation of future interest rates derived from observable market interest rate curves and volatilities. To comply with the provisions of SFAS No. 157, United incorporates credit valuation adjustments to appropriately reflect both its own nonperformance risk and the respective counterparty’s nonperformance risk in the fair value measurements. In adjusting the fair value of its derivative contracts for the effect of nonperformance risk, United has considered the effect of netting and any applicable credit enhancements, such as collateral postings, thresholds, mutual puts, and guarantees.
Although United has determined that the majority of the inputs used to value its derivatives fall within Level 2 of the fair value hierarchy, the credit valuation adjustments associated with its derivatives utilize Level 3 inputs, such as estimates of current credit spreads to evaluate the likelihood of default by itself and its counterparties. However, as of June 30, 2008, United has assessed the significance of the effect of the credit valuation adjustments on the overall valuation of its derivative positions and has determined that the credit valuation adjustments are not significant to the overall valuation of its derivatives. As a result, United has determined that its derivative valuations in their entirety are classified in Level 2 of the fair value hierarchy.

 

10


Table of Contents

Assets and Liabilities Measured at Fair Value on a Recurring Basis
The table below presents United’s assets and liabilities measured at fair value on a recurring basis as of June 30, 2008, aggregated by the level in the fair value hierarchy within which those measurements fall.
                                 
(in thousands)                           Balance at  
Description   Level 1     Level 2     Level 3     June 30, 2008  
Assets
                               
Securities available for sale
  $     $ 1,430,588     $     $ 1,430,588  
Deferred compensation plan assets
    4,949                   4,949  
Derivative financial instruments
          28,461             28,461  
 
                       
 
                               
Total
  $ 4,949     $ 1,459,049     $     $ 1,463,998  
 
                       
 
                               
Liabilities
                               
Deferred compensation plan liability
  $ 4,949     $     $     $ 4,949  
 
                       
 
                               
Total liabilities
  $ 4,949     $     $     $ 4,949  
 
                       
Assets and Liabilities Measured at Fair Value on a Nonrecurring Basis
United may be required, from time to time, to measure certain assets at fair value on a nonrecurring basis in accordance with U.S. Generally Accepted Accounting Principles. These include assets that are measured at the lower of cost or market that were recognized at fair value below cost at the end of the period. The table below presents United’s assets and liabilities measured at fair value on a nonrecurring basis as of June 30, 2008, aggregated by the level in the fair value hierarchy within which those measurements fall.
                                 
(in thousands)                           Balance at  
Description   Level 1     Level 2     Level 3     June 30, 2008  
Assets
                               
Loans
  $     $     $ 55,321     $ 55,321  
Foreclosed assets
                17,567       17,567  
 
                       
 
                               
Total
  $     $     $ 72,888     $ 72,888  
 
                       
Note 7 — Recent Accounting Pronouncements
In February 2008, the Financial Accounting Standards Board (“FASB”) issued FASB Staff Position (“FSP”) 140-3 Accounting for Transfers of Financial Assets and Repurchase Financing Transactions. This statement provides guidance regarding the accounting for a transfer of a financial asset and repurchase financing where the counterparties for both transactions are the same. In these circumstances, certain criteria must be met in order to not account for the transactions as a linked transaction. This FSP becomes effective for fiscal years and interim periods within those fiscal years, beginning on or after November 15, 2008. United does not anticipate that this FSP will have a material effect on United’s financial position, results of operations, or disclosures.
In March 2008, the FASB issued Statement of Financial Accounting Standards No. 161 (SFAS No. 161), Disclosures about Derivative Instruments and Hedging Activities. This statement requires an entity to provide enhanced disclosures about how and why an entity uses derivative instruments, how derivative instruments and related items are accounted for under SFAS 133, Accounting for Derivative Instruments and Hedging Activities (“SFAS 133”) and its related interpretations, and how derivative instruments and related hedged items affect an entity’s financial position, financial performance, and cash flows. This statement is intended to enhance the current disclosure framework in SFAS 133, by requiring the objectives for using derivative instruments be disclosed in terms of underlying risk and accounting designation. This statement becomes effective for fiscal years and interim periods beginning within those years after November 15, 2008. As this statement is related to disclosures only, United does not anticipate that adoption of this standard will have a material effect on United’s financial position or results of operations.

 

11


Table of Contents

Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations
Forward-Looking Statements
This Form 10-Q contains forward-looking statements regarding United Community Banks, Inc. (“United”), including, without limitation, statements relating to United’s expectations with respect to revenue, credit losses, levels of nonperforming assets, expenses, earnings and other measures of financial performance. Words such as “may”, “could”, “would”, “should”, “believes”, “expects”, “anticipates”, “estimates”, “intends”, “plans”, “targets” or similar expressions are intended to identify forward-looking statements. These forward-looking statements are not guarantees of future performance and involve certain risks and uncertainties that are subject to change based on various factors (many of which are beyond United’s control). The following factors, among others, could cause United’s financial performance to differ materially from the expectations expressed in such forward-looking statements:
   
our recent operating results may not be indicative of future operating results;
   
our business is subject to the success of the local economies in which we operate;
   
our concentration of construction and land development loans is subject to unique risks that could adversely affect our earnings;
   
we may face risks with respect to future expansion and acquisitions or mergers;
   
changes in prevailing interest rates may negatively affect our net income and the value of our assets;
   
if our allowance for loan losses is not sufficient to cover actual loan losses, our earnings would decrease;
   
we may be subject to losses due to fraudulent and negligent conduct of our loan customers, third party service providers or employees;
   
competition from financial institutions and other financial service providers may adversely affect our profitability;
   
business increases, productivity gains and other investments are lower than expected or do not occur as quickly as anticipated;
   
competitive pressures among financial services companies increase significantly;
   
the success of our business strategy;
   
the strength of the United States economy in general changes;
   
change in trade, monetary and fiscal policies and laws, including interest rate policies of the Board of Governors of the Federal Reserve System;
   
inflation or market conditions fluctuate;
   
conditions in the stock market, the public debt market and other capital markets deteriorate;
   
financial services laws and regulations change;
   
technology changes and United fails to adapt to those changes;
   
consumer spending and saving habits change;
   
unanticipated regulatory or judicial proceedings occur; and
   
United is unsuccessful at managing the risks involved in the foregoing.
Additional information with respect to factors that may cause actual results to differ materially from those contemplated by such forward-looking statements may also be included in other reports that United files with the Securities and Exchange Commission. United cautions that the foregoing list of factors is not exclusive and not to place undue reliance on forward-looking statements. United does not intend to update any forward-looking statement, whether written or oral, relating to the matters discussed in this Form 10-Q.
Overview
The following discussion is intended to provide insight into the results of operations and financial condition of United and its subsidiaries and should be read in conjunction with the consolidated financial statements and accompanying notes.
United is a bank holding company registered with the Federal Reserve under the Bank Holding Company Act of 1956 that was incorporated under the laws of the state of Georgia in 1987 and commenced operations in 1988. At June 30, 2008, United had total consolidated assets of $8.3 billion, total loans of $5.9 billion, total deposits of $6.7 billion and stockholders’ equity of $837.9 million.
United activities are primarily conducted by its wholly-owned Georgia banking subsidiary (the “Bank”) and Brintech, Inc., a consulting firm providing professional services to the financial services industry. The Bank operations are conducted under a community bank model that operates 27 “community banks” with local bank presidents and boards in north Georgia, the Atlanta metropolitan statistical area (“MSA”), the Gainesville MSA, coastal Georgia, western North Carolina, and east Tennessee.

 

12


Table of Contents

Net income for the second quarter of 2007 included a special $15 million provision for fraud related loan losses involving two failed real estate developments near Spruce Pine, North Carolina. The after-tax effect of this provision was $9.2 million, or $.20 per diluted share. Because management believes these losses are an isolated and non-recurring event, we will highlight operating earnings information, which excludes the special provision to provide a better understanding of our ongoing earnings and credit trends.
Net operating income was $7.1 million for the second quarter of 2008, a decrease of 66% from the $21.1 million for the second quarter of 2007. Diluted operating earnings per common share was $.15 for the second quarter of 2008, a decrease of 67% from the $.46 for the second quarter of 2007. Operating return on tangible equity for the second quarter of 2008 was 5.86%, compared to 17.52% for the second quarter of 2007. Operating return on assets for the second quarter of 2008 was .34% as compared to 1.12% for the second quarter of 2007.
Net operating income was $23.2 million for the six months ended June 30, 2008, a decrease of 43% from the $40.4 million for the six months ended June 30, 2007. Diluted operating earnings per common share was $.49 for the six months ended June 30, 2008, a decrease of 46% from the $.90 for the six months ended June 30, 2007. Operating return on tangible equity for the six months ended June 30, 2008 was 9.46%, compared to 17.36% for the six months ended June 30, 2007. Operating return on assets for the six months ended June 30, 2008 was .56% as compared to 1.12% for the six months ended June 30, 2007.
Earnings decreased primarily as a result of higher credit costs and margin compression due to competitive deposit pricing and higher levels of non-performing assets. Housing starts remain at low levels, leaving a surplus of lot inventory in our footprint, most notably in the Atlanta MSA. This increase in lot inventory negatively affects both the cash flows of our residential construction and land development customers, and the demand for new land development loans.
Nonperforming assets increased to 1.84% of total assets as of June 30, 2008, a significant increase from .54% as of June 30, 2007. This increase is a reflection of the downstream effects of the lot inventory buildup in the Atlanta MSA, which itself is indicative of the regional economic slowdown that is occurring in much of the Southeast. To date, the rise in nonperforming assets has been mostly confined to the residential construction portfolio and predominantly within the Atlanta MSA.
Fee revenue decreased $1.4 million, or 9%, from the second quarter of 2007. Although service charges and fees and consulting fees remained near the same level as the second quarter of 2007, mortgage fees and brokerage fees saw declines reflecting the slow housing market and declining conditions in the financial markets. Other fee revenue was down from a year ago, primarily due to gains from the sale of foreclosed properties realized in the second quarter of 2007 and higher income from bank owned life insurance and deferred compensation plan assets in the second quarter of 2007.
Operating expenses increased $2.1 million, or 4%, from the second quarter of 2007, primarily due to higher expenses and losses on foreclosed real estate properties, higher FDIC insurance premiums and the additional operating expenses related to First Bank of the South. Because the acquisition of First Bank of the South occurred on June 1, 2007, second quarter 2007 expenses include only one month of expenses for the quarter compared to three months for 2008.
Critical Accounting Policies
The accounting and reporting policies of United are in accordance with accounting principles generally accepted in the United States of America (“GAAP”) and conform to general practices within the banking industry. The more critical accounting and reporting policies include United’s accounting for the allowance for loan losses and accounting for intangible assets. In particular, United’s accounting policies related to allowance for loan losses and intangibles involve the use of estimates and require significant judgment to be made by management. Different assumptions in the application of these policies could result in material changes in United’s consolidated financial position or consolidated results of operations. See “Asset Quality and Risk Elements” herein for additional discussion of United’s accounting methodologies related to the allowance.
Non-GAAP Performance Measures
The presentation of United’s financial results herein include references to operating performance measures, which are measures of performance determined by methods other than GAAP. Management included non-GAAP performance measures because it believes they are useful for evaluating United’s operations and performance over periods of time. Also, United uses operating performance measures in managing and evaluating United’s business and intends to use them in discussions about United’s operations and performance.
Operating performance measures exclude the effect of a special $15 million fraud related provision for loan losses recorded in the second quarter of 2007 and an additional $3 million provision and $18 million in related charge-offs in the fourth quarter of 2007 involving lot loans near Spruce Pine, North Carolina. Management believes that the circumstances leading to the special provision and subsequent charge-offs were isolated, non-recurring events and do not reflect overall trends in United’s performance. Management also believes that these non-GAAP performance measures provide users of United’s financial information with a meaningful measure for assessing United’s financial results and credit trends and comparing financial results to prior periods.

 

13


Table of Contents

A reconciliation of operating earnings measures to reported earnings measures using GAAP is presented below:
Table 1 — Operating Earnings to GAAP Earnings Reconciliation
                                                         
    2008     2007     For the Six Months Ended  
    Second     First     Fourth     Third     Second     June 30  
(in thousands, except per share data)   Quarter     Quarter     Quarter     Quarter     Quarter     2008     2007  
Special provision for fraud related loan losses
  $     $     $ 3,000     $     $ 15,000     $     $ 15,000  
 
                                         
Income tax effect of special provision
                1,167             5,835             5,835  
 
                                         
After-tax effect of special provision
  $     $     $ 1,833     $     $ 9,165     $     $ 9,165  
 
                                         
 
                                                       
Net Income Reconciliation
                                                       
Operating net income
  $ 7,093     $ 16,078     $ 6,034     $ 22,536     $ 21,076     $ 23,171     $ 41,421  
After-tax effect of special provision and merger-related charges
                (1,833 )           (9,165 )           (9,165 )
 
                                         
Net income (GAAP)
  $ 7,093     $ 16,078     $ 4,201     $ 22,536     $ 11,911     $ 23,171     $ 32,256  
 
                                         
 
                                                       
Basic Earnings Per Share Reconciliation
                                                       
Basic operating earnings per share
  $ .15     $ .34     $ .13     $ .47     $ .47     $ .49     $ .92  
Per share effect of special provision and merger-related charges
                (.04 )           (.21 )           (.21 )
 
                                         
Basic earnings per share (GAAP)
  $ .15     $ .34     $ .09     $ .47     $ .26     $ .49     $ .71  
 
                                         
 
                                                       
Diluted Earnings Per Share Reconciliation
                                                       
Diluted operating earnings per share
  $ .15     $ .34     $ .13     $ .46     $ .46     $ .49     $ .90  
Per share effect of special provision and merger-related charges
                (.04 )           (.20 )           (.20 )
 
                                         
Diluted earnings per share (GAAP)
  $ .15     $ .34     $ .09     $ .46     $ .26     $ .49     $ .70  
 
                                         
 
                                                       
Provision for Loan Losses Reconciliation
                                                       
Operating provision for loan losses
  $ 15,500     $ 7,500     $ 26,500     $ 3,700     $ 3,700     $ 23,000     $ 7,400  
Special provision for fraud related loan losses
                3,000             15,000             15,000  
 
                                         
Provision for loan losses (GAAP)
  $ 15,500     $ 7,500     $ 29,500     $ 3,700     $ 18,700     $ 23,000     $ 22,400  
 
                                         
 
                                                       
Nonperforming Assets Reconciliation
                                                       
Nonperforming assets excluding fraud-related assets
  $ 148,219     $ 85,182     $ 40,956     $ 39,761     $ 19,968     $ 148,218     $ 19,968  
Fraud-related loans and OREO included in nonperforming assets
    3,945       4,682       5,302       23,576       23,633       3,945       23,633  
 
                                         
Nonperforming assets (GAAP)
  $ 152,164     $ 89,864     $ 46,258     $ 63,337     $ 43,601     $ 152,163     $ 43,601  
 
                                         
 
                                                       
Allowance for Loan Losses Reconciliation
                                                       
Allowance for loan losses excluding special fraud-related allowance
  $ 91,035     $ 89,848     $ 89,423     $ 75,935     $ 77,471     $ 91,035     $ 77,471  
Fraud-related allowance for loan losses
                      15,000       15,000             15,000  
 
                                         
Allowance for loan losses (GAAP)
  $ 91,035     $ 89,848     $ 89,423     $ 90,935     $ 92,471     $ 91,035     $ 92,471  
 
                                         
 
                                                       
Net Charge Offs Reconciliation
                                                       
Net charge offs excluding charge off of fraud-related loans
  $ 14,313     $ 7,075     $ 13,012     $ 5,236     $ 2,124     $ 21,388     $ 3,586  
Fraud-related loans charged off
                18,000                          
 
                                         
Net charge offs (GAAP)
  $ 14,313     $ 7,075     $ 31,012     $ 5,236     $ 2,124     $ 21,388     $ 3,586  
 
                                         
 
                                                       
Allowance for Loan Losses to Loans Ratio Reconciliation
                                                       
Allowance for loan losses to loans ratio excluding fraud-related allowance
    1.53 %     1.51 %     1.51 %     1.28 %     1.29 %     1.53 %     1.29 %
Portion of allowance assigned to fraud-related loans
                      .25       .25             .25  
 
                                         
Allowance for loan losses to loans ratio (GAAP)
    1.53 %     1.51 %     1.51 %     1.53 %     1.54 %     1.53 %     1.54 %
 
                                         
 
                                                       
Nonperforming Assets to Total Assets Ratio Reconciliation
                                                       
Nonperforming assets to total assets ratio excluding fraud-related assets
    1.79 %     1.02 %     .50 %     .49 %     .25 %     1.79 %     .25 %
Fraud-related nonperforming assets
    .05       .05       .06       .28       .29       .05       .29  
 
                                         
Nonperforming assets to total assets ratio (GAAP)
    1.84 %     1.07 %     .56 %     .77 %     .54 %     1.84 %     .54 %
 
                                         
 
                                                       
Net Charge Offs to Average Loans Ratio Reconciliation
                                                       
Net charge offs to average loans ratio excluding fraud-related loans
    .97 %     .48 %     .87 %     .35 %     .15 %     .97 %     .13 %
Charge offs of fraud-related loans
                1.20                          
 
                                         
Net charge offs to average loans ratio (GAAP)
    .97 %     .48 %     2.07 %     .35 %     .15 %     .97 %     .13 %
 
                                         

 

14


Table of Contents

Table 2 — Financial Highlights
Selected Financial Information
                                                                         
                                            Second              
    2008     2007     Quarter     For the Six     YTD  
(in thousands, except per share   Second     First     Fourth     Third     Second     2008-2007     Months Ended     2008-2007  
data; taxable equivalent)   Quarter     Quarter     Quarter     Quarter     Quarter     Change     2008     2007     Change  
INCOME SUMMARY
                                                                       
Interest revenue
  $ 116,984     $ 129,041     $ 140,768     $ 144,884     $ 136,237             $ 246,025     $ 265,265          
Interest expense
    55,231       62,754       71,038       73,203       68,270               117,985       132,193          
 
                                                         
Net interest revenue
    61,753       66,287       69,730       71,681       67,967       (9 )%     128,040       133,072       (4 )%
Provision for loan losses (1)
    15,500       7,500       26,500       3,700       3,700               23,000       7,400          
Fee revenue
    15,105       14,197       16,100       15,615       16,554       (9 )     29,302       30,936       (5 )
 
                                                         
Total operating revenue
    61,358       72,984       59,330       83,596       80,821       (24 )     134,342       156,608       (14 )
Operating expenses
    49,761       47,529       49,336       48,182       47,702       4       97,290       92,543       5  
 
                                                         
Income before taxes
    11,597       25,455       9,994       35,414       33,119       (65 )     37,052       64,065       (42 )
Income taxes
    4,504       9,377       3,960       12,878       12,043               13,881       23,644          
 
                                                         
Net operating income
    7,093       16,078       6,034       22,536       21,076       (66 )     23,171       40,421       (43 )
Fraud loss provision, net of tax (1)
                1,833             9,165                     9,165          
 
                                                         
Net income
  $ 7,093     $ 16,078     $ 4,201     $ 22,536     $ 11,911       (40 )   $ 23,171     $ 31,256       (26 )
 
                                                         
 
                                                                       
OPERATING PERFORMANCE (1)
                                                                       
Earnings per common share:
                                                                       
Basic
  $ .15     $ .34     $ .13     $ .47     $ .47       (68 )   $ .49     $ .92       (47 )
Diluted
    .15       .34       .13       .46       .46       (67 )     .49       .90       (46 )
Return on equity (2)
    3.41 %     7.85 %     2.89 %     10.66 %     12.47 %             5.61 %     9.64 %        
Return on tangible equity (2)(3)(4)
    5.86       13.16       5.06       17.54       17.52               9.46       17.36          
Return on assets (4)
    .34       .78       .29       1.11       1.12               .56       1.12          
Dividend payout ratio
    60.00       26.47       69.23       19.15       19.15               36.73       19.57          
 
                                                                       
GAAP PERFORMANCE MEASURES
                                                                       
Per common share:
                                                                       
Basic earnings
  $ .15     $ .34     $ .09     $ .47     $ .26       (42 )   $ .49     $ .71       (31 )
Diluted earnings
    .15       .34       .09       .46       .26       (42 )     .49       .70       (30 )
Cash dividends declared
    .09       .09       .09       .09       .09             .18       .18        
Book value
    17.75       18.50       17.70       17.51       16.96       5       17.75       16.96       5  
Tangible book value (3)
    11.03       11.76       10.92       10.81       10.43       6       11.03       10.43       6  
 
                                                                       
Key performance ratios:
                                                                       
Return on equity (2)(4)
    3.41 %     7.85 %     2.01 %     10.66 %     7.05 %             5.61 %     9.64 %        
Return on assets
    .34       .78       .20       1.11       .64               .56       .86          
Net interest margin (4)
    3.32       3.55       3.73       3.89       3.94               3.43       3.96          
Efficiency Ratio
    65.05       59.05       57.67       55.34       56.59               61.97       56.57          
Dividend payout ratio
    60.00       26.47       100.00       19.15       34.62               36.73       25.35          
Equity to assets
    10.33       10.30       10.20       10.32       8.94               10.31       8.87          
Tangible equity to assets (3)
    6.77       6.73       6.58       6.65       6.65               6.75       6.65          
 
                                                                       
ASSET QUALITY
                                                                       
Allowance for loan losses
  $ 91,035     $ 89,848     $ 89,423     $ 90,935     $ 92,471             $ 91,035     $ 92,471          
Net charge-offs (1)
    14,313       7,075       13,012       5,236       2,124               21,388       3,586          
Non-performing loans
    123,786       67,728       28,219       46,783       30,849               123,786       30,849          
OREO
    28,378       22,136       18,039       16,554       12,752               28,378       12,752          
 
                                                         
Total non-performing assets
    152,164       89,864       46,258       63,337       43,601               152,164       43,601          
Allowance for loan losses to loans (1)
    1.53 %     1.51 %     1.51 %     1.28 %     1.29 %             1.53 %     1.29 %        
Net charge-offs to average loans (1)(4)
    .97       .48       .87       .35       .15               .72       .13          
Non-performing assets to loans and OREO
    2.55       1.50       .78       1.06       .73               2.55       .73          
Non-performing assets to total assets
    1.84       1.07       .56       .77       .54               1.84       .54          
 
                                                                       
AVERAGE BALANCES
                                                                       
Loans
  $ 5,933,143     $ 5,958,296     $ 5,940,230     $ 5,966,933     $ 5,619,950       6     $ 5,945,720     $ 5,512,005       8  
Investment securities
    1,507,240       1,485,515       1,404,796       1,308,192       1,242,448       21       1,496,377       1,198,075       25  
Earning assets
    7,478,018       7,491,480       7,424,992       7,332,492       6,915,134       8       7,484,749       6,757,959       11  
Total assets
    8,295,748       8,305,621       8,210,120       8,083,739       7,519,392       10       8,300,686       7,307,231       14  
Deposits
    6,461,361       6,051,069       6,151,476       6,246,319       5,945,633       9       6,256,217       5,855,530       7  
Shareholders’ equity
    856,727       855,659       837,195       834,094       672,348       27       856,193       648,358       32  
Common shares — basic
    47,060       46,966       47,203       48,348       44,949               47,013       43,980          
Common shares — diluted
    47,249       47,272       47,652       48,977       45,761               47,260       44,842          
 
                                                                       
AT PERIOD END
                                                                       
Loans
  $ 5,933,141     $ 5,967,839     $ 5,929,263     $ 5,952,749     $ 5,999,093       (1 )   $ 5,933,141     $ 5,999,093       (1 )
Investment securities
    1,430,588       1,508,402       1,356,846       1,296,826       1,213,659       18       1,430,588       1,213,659       18  
Total assets
    8,264,051       8,386,255       8,207,302       8,180,600       8,087,667       2       8,264,051       8,087,667       2  
Deposits
    6,696,456       6,175,769       6,075,951       6,154,308       6,361,269       5       6,696,456       6,361,269       5  
Shareholders’ equity
    837,890       871,452       831,902       833,761       828,731       1       837,890       828,731       1  
Common shares outstanding
    47,096       47,004       46,903       47,542       48,781               47,096       48,781          
     
(1)  
Excludes effect of special $15 million fraud related provision for loan losses recorded in the second quarter of 2007, an additional $3 million provision in the fourth quarter of 2007, and $18 million of related loan charge-offs recorded in the fourth quarter of 2007.
 
(2)  
Net income available to common shareholders, which excludes preferred stock dividends, divided by average realized common equity, which excludes accumulated other comprehensive income (loss).
 
(3)  
Excludes effect of acquisition related intangibles and associated amortization.
 
(4)  
Annualized.

 

15


Table of Contents

Results of Operations
Net operating income was $7.1 million for the second quarter of 2008, a decrease of $14.0 million, from the same period in 2007. Diluted operating earnings per share was $.15 for the second quarter of 2008, compared to $.46 for the second quarter of 2007. Operating return on tangible equity for the second quarter of 2008 was 5.86%, compared to 17.52% for the second quarter of 2007. Operating return on assets for the second quarter of 2008 was .34% compared to 1.12% for the second quarter of 2007.
Net operating income was $23.2 million for the six months ending June 30, 2008, a decrease of $17.3 million, from the same period in 2007. Diluted operating earnings per share was $.49 for the six months ending June 30, 2008, compared to $.90 for the six months ending June 30, 2007. Operating return on tangible equity for the six months ending June 30, 2008 was 9.46%, compared to 17.36% for the six months ending June 30, 2007. Operating return on assets for the six months ending June 30, 2008 was .56% compared to 1.12% for the six months ending June 30, 2007.
Net Interest Revenue (Taxable Equivalent)
Net interest revenue (the difference between the interest earned on assets and the interest paid on deposits and borrowed funds) is the single largest component of total revenue. United actively manages this revenue source to provide optimal levels of revenue while balancing interest rate, credit and liquidity risks. Net interest revenue for the three months ended June 30, 2008 was $61.1 million, down $6.2 million, or 9%, from last year. Average loans increased $313.2 million, or 6%, from the second quarter last year. The increase over the second quarter of 2007 was driven primarily by assets acquired in the acquisition of First Bank of the South (“Gwinnett Acquisition”) in June 2007. Overall, United’s loan portfolio decreased slightly, which was the result of a slowdown in the housing market in the Atlanta MSA and management reducing the exposure to residential construction, where period-end loans decreased $199.7 million from June 30, 2007. In contrast, period-end loans in north Georgia increased $33.0 million, western North Carolina increased $3.1 million, coastal Georgia increased $40.2 million, the Gainesville MSA increased $37.7 million and east Tennessee increased $19.7 million.
Average interest-earning assets for the second quarter 2008 increased $562.9 million, or 8%, over the same period in 2007. This increase is largely the result of the Gwinnett Acquisition, and adding to the securities portfolio. These increases in interest-earning assets were funded by interest-bearing sources, resulting in increases in average interest-bearing liabilities of $619.2 million compared to the same period in 2007.
The banking industry uses two ratios to measure relative profitability of net interest revenue. The net interest spread measures the difference between the average yield on interest-earning assets and the average rate paid on interest-bearing liabilities. The interest rate spread eliminates the effect of non-interest-bearing deposits and gives a direct perspective on the effect of market interest rate movements. The net interest margin is defined as net interest revenue as a percent of average total interest-earning assets and takes into account the positive effect of investing non-interest-bearing deposits and capital.
For the three months ended June 30, 2008 and 2007, the net interest spread was 2.96% and 3.38%, respectively, while the net interest margin was 3.32% and 3.94%, respectively. The compression of the spread and margin was primarily due to the 325 basis point lowering of the prime rate initiated by actions of the Federal Reserve beginning in September 2007 and competitive deposit pricing. Also contributing to the lower spread and net interest margin was the higher level of non-performing assets, a shift in earning-asset mix resulting from growth in the securities portfolio, and a general tightening of new business spreads between loans and certificates of deposit.
At June 30, 2008 and 2007, United had receive-fixed swap contracts with a total notional value of $730 million and $530 million respectively, which are used to reduce United’s exposure to changes in interest rates that were accounted for as cash flow hedges of prime-based loans. United also had receive-fixed swap contracts with a total notional amount of $70 million and $90 million that are being accounted for as fair value hedges of brokered time deposits and fixed rate Federal Home Loan Bank advances. In addition to the swap contracts, United has purchased interest rate floors having a total notional amount of $500 million for which it paid premiums totaling $13 million that are being accounted for as cash flow hedges of daily repricing, prime-based loans. The use of swap and floor contracts is more fully explained in the Interest Rate Sensitivity Management section of this report beginning on page 25 .
The average yield on interest-earning assets for the second quarter of 2008 was 6.29%, compared with 7.90% in the second quarter of 2007. Loan yields were down 195 basis points compared with the second quarter of 2007, primarily due to the 325 basis point decrease in the prime rate since September 2007.
The average cost of interest-bearing liabilities for the second quarter was 3.33%, compared to 4.52% from the same period of 2007. Even as the cost of borrowed funds decreased 244 basis points compared with the second quarter of 2007, the cost of interest-bearing deposits only decreased 100 basis points in the same timeframe. Deposit pricing decreased less than borrowed funds because at the same time index interest rates were dropping, increasing competition for deposits kept deposit pricing at higher levels in relation to the cost to borrow funds.

 

16


Table of Contents

The following table shows the relationship between interest revenue and expense, and the average amounts of interest-earning assets and interest-bearing liabilities for the three months ended June 30, 2008 and 2007.
Table 3 — Average Consolidated Balance Sheets and Net Interest Analysis
For the Three Months Ended June 30,
                                                 
    2008     2007  
    Average             Avg.     Average             Avg.  
(dollars in thousands, taxable equivalent)   Balance     Interest     Rate     Balance     Interest     Rate  
Assets:
                                               
Interest-earning assets:
                                               
Loans, net of unearned income (1)(2)
  $ 5,933,143     $ 97,080       6.58 %   $ 5,619,950     $ 119,569       8.53 %
Taxable securities (3)
    1,471,958       18,879       5.13       1,200,268       15,476       5.16  
Tax-exempt securities (1)(3)
    35,282       655       7.43       42,180       721       6.83  
Federal funds sold and other interest-earning assets
    37,635       370       3.93       52,736       471       3.57  
 
                                       
 
                                               
Total interest-earning assets
    7,478,018       116,984       6.29       6,915,134       136,237       7.90  
 
                                       
Non-interest-earning assets:
                                               
Allowance for loan losses
    (93,776 )                     (73,323 )                
Cash and due from banks
    144,589                       130,046                  
Premises and equipment
    181,454                       158,290                  
Other assets (3)
    585,463                       389,245                  
 
                                           
Total assets
  $ 8,295,748                     $ 7,519,392                  
 
                                           
 
                                               
Liabilities and Shareholders’ Equity:
                                               
Interest-bearing liabilities:
                                               
Interest-bearing deposits:
                                               
NOW
  $ 1,505,280     $ 7,216       1.93     $ 1,379,423     $ 11,470       3.34  
Money market
    422,419       2,310       2.20       354,815       3,540       4.00  
Savings
    186,826       180       .39       186,490       374       .80  
Time less than $100,000
    1,642,677       17,285       4.23       1,627,708       19,978       4.92  
Time greater than $100,000
    1,484,032       16,135       4.37       1,372,410       17,892       5.23  
Brokered
    535,898       5,408       4.06       332,857       4,109       4.95  
 
                                   
Total interest-bearing deposits
    5,777,132       48,534       3.38       5,253,703       57,363       4.38  
 
                                       
 
                                               
Federal funds purchased and other borrowings
    383,378       1,820       1.91       275,319       3,671       5.35  
Federal Home Loan Bank advances
    412,268       2,818       2.75       419,287       5,035       4.82  
Long-term debt
    107,996       2,059       7.67       113,270       2,201       7.79  
 
                                   
Total borrowed funds
    903,642       6,697       2.98       807,876       10,907       5.42  
 
                                       
 
                                               
Total interest-bearing liabilities
    6,680,774       55,231       3.33       6,061,579       68,270       4.52  
 
                                           
Non-interest-bearing liabilities:
                                               
Non-interest-bearing deposits
    684,229                       691,930                  
Other liabilities
    74,018                       93,535                  
Total liabilities
    7,439,021                       6,847,044                  
Shareholders’ equity
    856,727                       672,348                  
 
                                           
Total liabilities and shareholders’ equity
  $ 8,295,748                     $ 7,519,392                  
 
                                           
 
                                               
Net interest revenue
          $ 61,753                     $ 67,967          
 
                                           
Net interest-rate spread
                    2.96 %                     3.38 %
 
                                           
 
                                               
Net interest margin (4)
                    3.32 %                     3.94 %
 
                                           
     
(1)  
Interest revenue on tax-exempt securities and loans has been increased to reflect comparable interest on taxable securities and loans. The rate used was 39%, reflecting the statutory federal income tax rate and the federal tax adjusted state income tax rate.
 
(2)  
Included in the average balance of loans outstanding are loans where the accrual of interest has been discontinued.
 
(3)  
Securities available for sale are shown at amortized cost. Pretax unrealized gains of $13.0 million in 2008 and pretax unrealized losses of $7.8 million in 2007 are included in other assets for purposes of this presentation.
 
(4)  
Net interest margin is taxable equivalent net-interest revenue divided by average interest-earning assets.

 

17


Table of Contents

The following table shows the relationship between interest revenue and expense, and the average amounts of interest-earning assets and interest-bearing liabilities for the six months ended June 30, 2008 and 2007.
Table 4 — Average Consolidated Balance Sheets and Net Interest Analysis
For the Six Months Ended June 30,
                                                 
    2008     2007  
    Average             Avg.     Average             Avg.  
(dollars in thousands, taxable equivalent)   Balance     Interest     Rate     Balance     Interest     Rate  
Assets:
                                               
Interest-earning assets:
                                               
Loans, net of unearned income (1)(2)
  $ 5,945,720     $ 206,332       6.98 %   $ 5,512,005     $ 233,437       8.54 %
Taxable securities (3)
    1,460,090       37,507       5.14       1,155,308       29,444       5.10  
Tax-exempt securities (1)(3)
    36,287       1,303       7.18       42,767       1,456       6.81  
Federal funds sold and other interest-earning assets
    42,652       883       4.14       47,879       928       3.88  
 
                                       
 
                                               
Total interest-earning assets
    7,484,749       246,025       6.60       6,757,959       265,265       7.91  
 
                                       
Non-interest-earning assets:
                                               
Allowance for loan losses
    (92,901 )                     (70,769 )                
Cash and due from banks
    149,648                       125,367                  
Premises and equipment
    181,405                       152,593                  
Other assets (3)
    577,785                       342,081                  
 
                                           
Total assets
  $ 8,300,686                     $ 7,307,231                  
 
                                           
 
                                               
Liabilities and Shareholders’ Equity:
                                               
Interest-bearing liabilities:
                                               
Interest-bearing deposits:
                                               
NOW
  $ 1,483,699     $ 15,803       2.14     $ 1,351,277     $ 22,097       3.30  
Money market
    430,734       5,223       2.44       308,541       6,080       3.97  
Savings
    185,819       407       .44       180,913       683       .76  
Time less than $100,000
    1,597,995       35,508       4.47       1,634,569       39,774       4.91  
Time greater than $100,000
    1,424,670       32,505       4.59       1,378,870       35,808       5.24  
Brokered
    455,150       9,699       4.29       333,800       8,022       4.85  
 
                                   
Total interest-bearing deposits
    5,578,067       99,145       3.57       5,187,970       112,464       4.37  
 
                                       
 
                                               
Federal funds purchased and other borrowings
    467,596       6,138       2.64       207,663       5,488       5.33  
Federal Home Loan Bank advances
    536,883       8,563       3.21       407,583       9,836       4.87  
Long-term debt
    107,995       4,139       7.71       113,251       4,405       7.84  
 
                                   
Total borrowed funds
    1,112,474       18,840       3.41       728,497       19,729       5.46  
 
                                       
 
                                               
Total interest-bearing liabilities
    6,690,541       117,985       3.55       5,916,467       132,193       4.51  
 
                                           
Non-interest-bearing liabilities:
                                               
Non-interest-bearing deposits
    678,150                       667,560                  
Other liabilities
    75,802                       74,846                  
Total liabilities
    7,444,493                       6,658,873                  
Shareholders’ equity
    856,193                       648,358                  
 
                                           
Total liabilities and shareholders’ equity
  $ 8,300,686                     $ 7,307,231                  
 
                                           
 
                                               
Net interest revenue
          $ 128,040                     $ 133,072          
 
                                           
Net interest-rate spread
                    3.05 %                     3.40 %
 
                                           
 
                                               
Net interest margin (4)
                    3.43 %                     3.96 %
 
                                           
     
(1)  
Interest revenue on tax-exempt securities and loans has been increased to reflect comparable interest on taxable securities and loans. The rate used was 39%, reflecting the statutory federal income tax rate and the federal tax adjusted state income tax rate.
 
(2)  
Included in the average balance of loans outstanding are loans where the accrual of interest has been discontinued.
 
(3)  
Securities available for sale are shown at amortized cost. Pretax unrealized gains of $14.5 million in 2008 and pretax unrealized losses of $8.9 million in 2007 are included in other assets for purposes of this presentation.
 
(4)  
Net interest margin is taxable equivalent net-interest revenue divided by average interest-earning assets.

 

18


Table of Contents

The following table shows the relative effect on net interest revenue for changes in the average outstanding amounts (volume) of interest-earning assets and interest-bearing liabilities and the rates earned and paid on such assets and liabilities (rate). Variances resulting from a combination of changes in rate and volume are allocated in proportion to the absolute dollar amounts of the change in each category.
Table 5 — Change in Interest Revenue and Expense on a Taxable Equivalent Basis
                                                 
    Three Months Ended June 30, 2008     Six Months Ended June 30, 2008  
    Compared to 2007     Compared to 2007  
    Increase (decrease)     Increase (decrease)  
    Due to Changes in     Due to Changes in  
(in thousands)   Volume     Rate     Total     Volume     Rate     Total  
Interest-earning assets:
                                               
Loans
  $ 6,364     $ (28,853 )   $ (22,489 )   $ 17,361     $ (44,466 )   $ (27,105 )
Taxable securities
    3,485       (82 )     3,403       7,827       236       8,063  
Tax-exempt securities
    (125 )     59       (66 )     (347 )     194       (153 )
Federal funds sold and other interest-earning assets
    (145 )     44       (101 )     (183 )     138       (45 )
 
                                   
Total interest-earning assets
    9,579       (28,832 )     (19,253 )     24,658       (43,898 )     (19,240 )
 
                                   
 
                                               
Interest-bearing liabilities:
                                               
NOW accounts
    968       (5,222 )     (4,254 )     2,000       (8,294 )     (6,294 )
Money market accounts
    584       (1,814 )     (1,230 )     1,938       (2,795 )     (857 )
Savings deposits
    1       (195 )     (194 )     18       (294 )     (276 )
Time deposits less than $100,000
    182       (2,875 )     (2,693 )     (874 )     (3,392 )     (4,266 )
Time deposits greater than $100,000
    1,376       (3,133 )     (1,757 )     1,158       (4,461 )     (3,303 )
Brokered deposits
    2,154       (855 )     1,299       2,664       (987 )     1,677  
 
                                   
Total interest-bearing deposits
    5,265       (14,094 )     (8,829 )     6,904       (20,223 )     (13,319 )
 
                                   
Federal funds purchased & other borrowings
    1,090       (2,941 )     (1,851 )     4,404       (3,754 )     650  
Federal Home Loan Bank advances
    (83 )     (2,134 )     (2,217 )     2,609       (3,882 )     (1,273 )
Long-term debt
    (101 )     (41 )     (142 )     (202 )     (64 )     (266 )
 
                                   
Total borrowed funds
    906       (5,116 )     (4,210 )     6,811       (7,700 )     (889 )
 
                                   
Total interest-bearing liabilities
    6,171       (19,210 )     (13,039 )     13,715       (27,923 )     (14,208 )
 
                                   
 
                                               
Increase in net interest revenue
  $ 3,408     $ (9,622 )   $ (6,214 )   $ 10,943     $ (15,975 )   $ (5,032 )
 
                                   
Provision for Loan Losses
The provision for loan losses on a GAAP basis was $15.5 million for the second quarter of 2008, compared with $18.7 million for the same period in 2007. The second quarter 2007 provision for loan losses included a special $15 million provision for fraud related loan losses in two real estate developments located near Spruce Pine, North Carolina. During the second quarter 2007, the North Carolina Attorney General obtained a receiver to take custody of the developers’ assets citing possible fraud on the part of the developers. United had loans outstanding to 83 individual borrowers that totaled $23.6 million secured by undeveloped lots in these projects.
Net loan charge-offs as an annualized percentage of average outstanding loans for the three months ended June 30, 2008 was .97%, compared to .15% for the second quarter of 2007. For the first six months of 2008 net loan charge offs as an annualized percentage of average outstanding loans was .72% versus .13% for 2007. As vacant developed lot inventories have increased within United’s footprint, notably in the Atlanta MSA, it has made it difficult for some developers to obtain cash flows from selling lots and houses that were needed to service their debt. This is part of the deterioration of the residential construction and housing markets that has affected the Southeast and resulted in higher credit losses and an increase in non-performing assets.
The provision for loan losses is based on management’s evaluation of losses inherent in the loan portfolio and corresponding analysis of the allowance for loan losses at quarter-end. The amount of provision recorded in the second quarter was the amount required such that the total allowance for loan losses reflects, in the estimation of management, the appropriate balance and is adequate to cover inherent losses in the loan portfolio. Additional discussion on loan quality and the allowance for loan losses is included in the Asset Quality section of this report.

 

19


Table of Contents

Fee Revenue
Fee revenue for the three months ended June 30, 2008 was $15.1 million, a decrease of $1.4 million, or 9%, from 2007. Fee revenue accounted for 25% of taxable equivalent total operating revenue for the second quarter of 2008, compared to 20% for the second quarter 2007. United continues to focus on increasing fee revenue through new products and services. The following table presents the components of fee revenue for the second quarter and the first six months of 2008 and 2007.
Table 6 — Fee Revenue
                                                 
    Three Months Ended             Six Months Ended        
    June 30,             June 30,        
(dollars in thousands)   2008     2007     Change     2008     2007     Change  
 
                                               
Service charges and fees
  $ 7,957     $ 7,975       %   $ 15,770     $ 15,228       4 %
Mortgage loan and other related fees
    2,202       2,476       (11 )     4,165       4,699       (11 )
Consulting fees
    2,252       2,241             4,059       3,988       2  
Brokerage fees
    814       1,192       (32 )     1,907       2,136       (11 )
Securities gains, net
    357       1,386               357       1,593          
Loss on prepayments of borrowings
          (1,164 )                   (1,164 )        
Other
    1,523       2,448       (38 )     3,044       4,456       (32 )
 
                                       
Total
  $ 15,105     $ 16,554       (9 )   $ 29,302     $ 30,936       (5 )
 
                                       
Mortgage loans and related fees for the first quarter decreased $274,000, or 11%, from 2007. This decrease was due to decreased demand for new mortgage loans resulting from the slow housing market. Substantially all originated residential mortgages were sold into the secondary market, including the right to service these loans.
Brokerage fees decreased $378,000, or 32%, compared to 2007. This decrease was due to declining market activity by our customers.
Other fee revenue decreased $925,000, or 38%, compared to 2007. This decline is due to lower revenue generated by United’s bank owned life insurance investments, deferred compensation plan assets, and non-recurring items in 2007, including a $307,000 gain on the sale of foreclosed properties.
Operating Expenses
For the six months ended June 30, 2008, total operating expenses were $49.7 million, an increase of 4% compared with $47.7 million for the same period in 2007. The following table presents the components of operating expenses for the thee months and six months ended June 30, 2008 and 2007.
Table 7 — Operating Expenses
                                                 
    Three Months Ended             Six Months Ended        
    June 30,             June 30,        
(dollars in thousands)   2008     2007     Change     2008     2007     Change  
 
                                               
Salaries and employee benefits
  $ 28,753     $ 30,022       (4) %   $ 57,507     $ 58,339       (1) %
Communications and equipment
    3,852       3,845             7,684       7,657        
Occupancy
    3,704       3,316       12       7,420       6,507       14  
Advertising and public relations
    2,009       2,098       (4 )     3,360       4,114       (18 )
Postage, printing and supplies
    1,448       1,680       (14 )     3,040       3,340       (9 )
Professional fees
    1,679       2,010       (16 )     3,600       3,489       3  
Amortization of intangibles
    745       633       18       1,512       1,197       26  
Other
    7,571       4,098       85       13,167       7,900       67  
 
                                       
 
    49,761       47,702       4       97,290       92,543       5  
 
                                       

 

20


Table of Contents

Salaries and employee benefits for the second quarter 2008 totaled $28.8 million, a decrease of $1.3 million, or 4%, over the same period in 2007. This decrease was primarily due to lower bonus and incentive costs in 2008, which was offset partially by higher costs for the Gwinnett Acquisition that was included for the full quarter this year versus one month in the second quarter of 2007. At June 30, 2008, total staff was 2,020 , an increase of three employees from the second quarter 2007.
Occupancy expense for the second quarter 2008 increased $388,000, or 12%, from the same period in 2007. This increase reflects the additional office space obtained in the Gwinnett Acquisition and de novo expansion.
Postage, printing and supplies for the second quarter 2008 decreased $232,000, or 14%, from the same period in 2007. This decrease was due to company-wide discipline controlling costs.
Professional fees for the second quarter 2008 decreased $331,000, or 16%, over the same period in 2007. This decrease was primarily the result of higher legal fees last year associated with the fraud related loans in Spruce Pine, North Carolina.
Other expense of $7.6 million increased $3.5 million from 2007. The increase was due to approximately $2.5 million in writedowns and expenses on foreclosed properties and the increase in FDIC insurance premiums of approximately $900,000. Higher foreclosed property expenses and losses and higher FDIC insurance premiums also account for most of the year to date increase over 2007.
The efficiency ratio measures total operating expenses as a percentage of total revenue, excluding the provision for loan losses, net securities gains or losses, and gains or losses from the prepayment of borrowings. United’s operating efficiency ratio for the second quarter was 65.05%, compared to 56.59% for the second quarter of 2007. The increase is primarily the result of decreasing net interest revenue and fee revenue, and an increase in other operating expenses, primarily resulting from the higher cost of foreclosed properties.
Income Taxes
Income tax expense was $3.9 million as compared with $5.8 million for the second quarter of 2007, representing a 35.5% and a 32.6% effective tax rate, respectively. For the first six months, income tax expense was $12.7 million and $16.9 million for the periods ending June 30, 2008 and 2007, respectively. The effective tax rate for those periods was 35.5% and 35.1% respectively. The effective tax rates were lower than the statutory tax rates primarily due to interest revenue on certain investment securities and loans that are exempt from income taxes, tax exempt fee revenue and tax credits received on affordable housing investments. Additional information regarding income taxes can be found in Note 14 to the consolidated financial statements filed with United’s 2007 Form 10-K.
Balance Sheet Review
Total assets at June 30, 2008 were $8.3 billion, compared with $8.1 billion at June 30, 2007. Average total assets for the second quarter 2008 were $8.3 billion, up $776 million from average assets for the second quarter of 2007. A significant portion of the growth was the result of the Gwinnett Acquisition on June 1, 2007, which added total assets of $809 million, including intangible assets.
Goodwill
United reviews its goodwill for impairment annually, or more frequently if circumstances indicate that goodwill has been impaired. During the last three quarters, United’s stock price has traded below its per-share book value and falling below tangible book value for a short period of time, reflecting uncertainty about the economic cycle rather than the value of the underlying business. The current economic environment has temporarily resulted in lower earnings with higher credit losses and those losses have been reflected in the income statement as well as valuation adjustments to the loan balances through increases to the level of the allowance for loan losses. Management believes that goodwill has not been impaired and that the value of United’s business remains intact and earnings will return to past levels when the credit cycle recovers.

 

21


Table of Contents

Loans
The following table presents a summary of the loan portfolio.
Table 8 — Loans Outstanding
                         
    June 30,     December 31,     June 30,  
(dollars in thousands)   2008     2007     2007  
By Loan Type
                       
Commercial (secured by real estate)
  $ 1,584,258     $ 1,475,930     $ 1,461,286  
Commercial construction
    521,794       527,123       506,962  
Commercial (commercial and industrial)
    416,626       417,715       420,608  
 
                 
Total commercial
    2,522,678       2,420,768       2,388,856  
Residential construction
    1,745,151       1,829,506       2,015,135  
Residential mortgage
    1,494,562       1,501,916       1,412,597  
Installment
    170,750       177,073       182,505  
 
                 
Total loans
  $ 5,933,141     $ 5,929,263     $ 5,999,093  
 
                 
 
                       
As a percentage of total loans:
                       
Commercial (secured by real estate)
    27 %     25 %     24 %
Commercial construction
    9       9       8  
Commercial (commercial and industrial)
    7       7       7  
 
                 
Total commercial
    43       41       39  
Residential construction
    29       31       34  
Residential mortgage
    25       25       24  
Installment
    3       3       3  
 
                 
Total
    100 %     100 %     100 %
 
                 
 
                       
By Geographic Location
                       
Atlanta MSA
  $ 1,933,811     $ 2,002,089     $ 2,133,487  
Gainesville MSA
    421,711       399,560       384,017  
North Georgia
    2,064,856       2,060,224       2,031,875  
North Carolina
    818,677       805,999       815,592  
Coastal Georgia
    436,594       415,622       396,373  
Tennessee
    257,492       245,769       237,749  
 
                 
Total loans
  $ 5,933,141     $ 5,929,263     $ 5,999,093  
 
                 
Substantially all of United’s loans are to customers located in the immediate market areas of the community banks in Georgia, North Carolina, and Tennessee. At June 30, 2008, total loans were $5.9 billion, a decrease of $66.0 million or 1%, from June 30, 2007. The rate of loan growth began to decline in the first quarter of 2007 and continued through 2008. The slowdown in loan growth was due to deterioration in the residential construction and housing markets that resulted in part from an oversupply of lot inventory within United’s markets, which slowed construction activities and acquisition and development projects. To date, the slowdown in the housing market has been most severe in the Atlanta MSA.
Asset Quality and Risk Elements
United manages asset quality and controls credit risk through review and oversight of the loan portfolio as well as adherence to policies designed to promote sound underwriting and loan monitoring practices. United’s credit administration function is responsible for monitoring asset quality, establishing credit policies and procedures and enforcing the consistent application of these policies and procedures at all of the Community Banks. Additional information on the credit administration function is included in Item 1 under the heading Loan Review and Non-performing Assets in United’s Annual Report on Form 10-K.
The provision for loan losses charged to earnings was based upon management’s judgment of the amount necessary to maintain the allowance at a level appropriate to absorb losses inherent in the loan portfolio at quarter-end. The amount each period is dependent upon many factors, including growth and changes in the composition of the loan portfolio, net charge-offs, delinquencies, management’s assessment of loan portfolio quality, the value of collateral, and other economic factors and trends. The evaluation of these factors is performed quarterly by management through an analysis of the appropriateness of the allowance for loan losses.

 

22


Table of Contents

Reviews of non-performing loans, past due loans and larger credits, designed to identify potential charges to the allowance for loan losses, as well as determine the adequacy of the allowance, are conducted on a regular basis during the quarter. These reviews are performed by the responsible lending officers with management, as well as by a separate loan review department, and consider such factors as the financial strength of borrowers, the value of the applicable collateral, past loan loss experience, anticipated loan losses, growth in the loan portfolio, prevailing economic conditions and other factors. United also uses external loan review to supplement the activities of United’s loan review department and to ensure the independence of the loan review process.
The following table presents a summary of the changes in the allowance for loan losses for the three and six month periods ended June 30, 2008 and 2007 on a GAAP basis.
Table 9 — Summary of Loan Loss Experience
                                 
    Three Months Ended     Six Months Ended  
    June 30,     June 30,  
(dollars in thousands)   2008     2007     2008     2007  
 
                               
Balance beginning of period
  $ 89,848     $ 68,804     $ 89,423     $ 66,566  
Allowance from acquisitions
          7,091             7,091  
Charge-offs:
                               
Commercial (commercial and industrial)
    410       106       734       282  
Commercial (secured by real estate)
    492       280       1,122       364  
Commercial construction
    125             125       245  
Residential construction
    10,354       836       15,162       920  
Residential mortgage
    2,599       1,055       3,672       1,951  
Installment
    670       474       1,337       955  
 
                       
Total loans charged-off
    14,650       2,751       22,152       4,717  
 
                       
Recoveries
                               
Commercial (commercial and industrial)
    12       55       32       173  
Commercial (secured by real estate)
    68       63       68       64  
Commercial construction
          1             1  
Residential construction
    11       2       154       3  
Residential mortgage
    23       275       85       354  
Installment
    223       231       425       536  
 
                       
Total recoveries
    337       627       764       1,131  
 
                       
Net charge-offs
    14,313       2,124       21,388       3,586  
Provision for loan losses
    15,500       18,700       23,000       22,400  
 
                       
Balance end of period
  $ 91,035     $ 92,471     $ 91,035     $ 92,471  
 
                       
 
                               
Net charge-offs by region
                               
Atlanta MSA
  $ 10,682     $ 1,418     $ 15,329     $ 1,961  
Gainesville MSA
    360       1       683       (1 )
North Georgia
    1,829       579       3,109       1,508  
Western North Carolina
    279       172       336       213  
Coastal Georgia
    980       32       1,022       1  
East Tennessee
    183       (78 )     909       (96 )
 
                       
Balance end of period
  $ 14,313     $ 2,124     $ 21,388     $ 3,586  
 
                       
 
                               
Total loans:
                               
At period end
  $ 5,933,141     $ 5,999,093     $ 5,933,141     $ 5,999,093  
Average
    5,933,143       5,619,950       5,945,720       5,512,005  
As a percentage of average loans (annualized):
                               
Net charge-offs
    .97 %     .15 %     .72 %     .13 %
Provision for loan losses
    1.04       1.33       .77       .81  
Allowance as a percentage of period end loans
    1.53       1.54       1.53       1.54  
Allowance as a percentage of period end non-performing loans
    74       300       74       300  

 

23


Table of Contents

Management believes that the allowance for loan losses at June 30, 2008 reflects the losses inherent in the loan portfolio. This assessment involves uncertainty and judgment; therefore, the adequacy of the allowance for loan losses cannot be determined with precision and may be subject to change in future periods. In addition, bank regulatory authorities, as part of their periodic examination of the Bank, may require adjustments to the provision for loan losses in future periods if, in their opinion, the results of their review warrant such additions.
Non-performing Assets
The table below summarizes non-performing assets on a GAAP basis.
Table 10 — Non-Performing Assets
                         
    June 30,     December 31,     June 30,  
(dollars in thousands)   2008     2007     2007  
Non-accrual loans
  $ 123,786     $ 28,219     $ 30,849  
Loans past due 90 days or more and still accruing
                 
 
                 
 
                       
Total non-performing loans
    123,786       28,219       30,849  
Other real estate owned
    28,378       18,039       12,752  
 
                 
 
                       
Total non-performing assets
  $ 152,164     $ 46,258     $ 43,601  
 
                 
 
                       
Non-performing loans as a percentage of total loans
    2.09 %     .48 %     .51 %
 
                       
Non-performing assets as a percentage of loans and OREO
    2.55       .78       .73  
 
                       
Non-performing assets as a percentage of total assets
    1.84       .56       .54  
Non-performing loans totaled $123.8 million, compared with $28.2 million at December 31, 2007 and $30.8 million at June 30, 2007. The ratio of non-performing loans to total loans increased 158 basis points from June 30, 2007 reflecting a deterioration in United’s residential construction and development portfolio primarily in the Atlanta MSA. Non-performing assets, which include non-performing loans and foreclosed real estate, totaled $152.2 million at June 30, 2008, compared to $46.3 million at December 31, 2007 and $43.6 million at June 30, 2007.
United’s policy is to classify loans as non-accrual when, in the opinion of management, the principal and interest on a loan is not likely to be repaid in accordance with the loan terms or when the loan becomes 90 days past due and is not well secured and in the process of collection. When a loan is classified on non-accrual status, interest previously accrued but not collect is reversed against current interest revenue. Payments received on a non-accrual loan are applied to reduce outstanding principal.
At June 30, 2008 and 2007, there were $79.6 million and $38.8 million, respectively, of loans classified as impaired under the definition outlined in SFAS No. 114 Accounting By Creditors For Impairment of a Loan . Specific reserves allocated to these impaired loans totaled $20.3 million and $2.1 million at June 30, 2008 and 2007, respectively. The average recorded investment in impaired loans for the quarters ended June 30, 2008 and 2007 was $79.7 million and $40.8 million, respectively. Interest revenue recognized on loans while they were impaired for the first six months of 2008 was $393,000 compared with $540,000 for the same period in 2007.
Investment Securities
The composition of the investment securities portfolio reflects United’s investment strategy of maintaining an appropriate level of liquidity while providing a relatively stable source of revenue. The investment securities portfolio also provides a balance to interest rate risk and credit risk in other categories of the balance sheet while providing a vehicle for the investment of available funds, furnishing liquidity, and supplying securities to pledge as required collateral for certain deposits.
Total investment securities available for sale at quarter-end increased $216.9 million from a year ago. The investment portfolio is used as a supplemental tool to stabilize interest rate sensitivity and increase net interest revenue. At June 30, 2008 and June 30, 2007, the securities portfolio represented approximately 17.3% and 15.0% of total assets, respectively.
The investment securities portfolio primarily consists of U.S. Government agency securities, U.S. Government sponsored agency mortgage-backed securities, non-agency mortgage-backed securities, and municipal securities. Mortgage-backed securities rely on the underlying pools of mortgage loans to provide a cash flow of principal and interest. The actual maturities of these securities will differ from contractual maturities because loans underlying the securities can prepay. Decreases in interest rates will generally cause an acceleration of prepayment levels. In a declining interest rate environment, United may not be able to reinvest the proceeds from these prepayments in assets that have comparable yields. In a rising rate environment, the opposite occurs. Prepayments tend to slow and the weighted average life extends. This is referred to as extension risk which can lead to lower levels of liquidity due to the delay of cash receipts and can result in the holding of a below market yielding asset for a longer time period.

 

24


Table of Contents

Deposits
Total deposits as of June 30, 2008 were $6.7 billion, an increase of $335 million, or 4%, from June 30, 2007. Total non-interest-bearing demand deposit accounts of $697 million decreased $77 million or 10%, and NOW, money market and savings accounts of $2.1 billion decreased $12 million, or 1%. Management believes the decreases were primarily caused by the slowdown in the local economy and the resultant increase in the use of funds by United’s customers because average balances have declined over the past year.
Total time deposits, excluding brokered deposits, as of June 30, 2008 were $3.3 billion, an increase of $237 million, or 8%, from June 30, 2007. Time deposits less than $100,000 totaled $1.7 billion, an increase of $93 million, or 6%, from a year ago. Time deposits of $100,000 and greater totaled $1.6 billion as of June 30, 2008, an increase of $144 million, or 10%, from June 30, 2007. During the second quarter, United made a decision to actively pursue time deposits by offering a 15 month certificate of deposit at an attractive rate, in order to increase liquidity. The program was very successful and added over $400 million of customer deposits. United also takes advantage of “brokered” time deposits, issued in certificates of less than $100,000, as an alternate source of cost-effective funding. Brokered time deposits as of June 30, 2008 were $535 million, compared with $348 million at June 30, 2007.
Wholesale Funding
At June 30, 2008, the Bank was a shareholder in a Federal Home Loan Bank (“FHLB”). Through this affiliation, FHLB secured advances totaled $286 million and $499 million as of June 30, 2008 and 2007, respectively. This decline was the result of a successful CD program during the second quarter of 2008 that reduced United’s need for borrowed funds. United anticipates continued use of this short- and long-term source of funds. FHLB advances outstanding at June 30, 2008 had both fixed and floating interest rates up to 5.06% . Additional information regarding FHLB advances, including scheduled maturities, is provided in Note 10 to the consolidated financial statements included in United’s 2007 Form 10-K.
At June 30, 2008, United had $289 million in Federal funds purchased, repurchase agreements, and other short-term borrowings outstanding, compared to $238 million outstanding at June 30, 2007. United takes advantage of these additional sources of liquidity when rates are favorable compared to other forms of short-term borrowings, such as FHLB advances and brokered deposits.
Interest Rate Sensitivity Management
The absolute level and volatility of interest rates can have a significant effect on United’s profitability. The objective of interest rate risk management is to identify and manage the sensitivity of net interest revenue to changing interest rates, in order to achieve United’s overall financial goals. Based on economic conditions, asset quality and various other considerations, management establishes tolerance ranges for interest rate sensitivity and manages within these ranges.
Net interest revenue is influenced by changes in the level of interest rates. United manages its exposure to fluctuations in interest rates through policies established by the Asset/Liability Management Committee (“ALCO”). ALCO meets regularly and has responsibility for approving asset/liability management policies, formulating and implementing strategies to improve balance sheet positioning and/or earnings, and reviewing United’s interest rate sensitivity.
One of the tools management utilizes to estimate the sensitivity of net interest revenue to changes in interest rates is an interest rate simulation model. Such estimates are based upon a number of assumptions for various scenarios, including the level of balance sheet growth, deposit repricing characteristics and the rate of prepayments. The simulation model measures the potential change in net interest revenue over a twelve-month period under various interest rate scenarios. United’s baseline scenario assumes rates remain flat (“flat rate scenario”) over the next twelve months and is the scenario that all others are compared to in order to measure the change in net interest revenue. United runs ramp scenarios that assume gradual increases and decreases of 200 basis points each over the next twelve months. United’s policy for net interest revenue simulation is limited to a change from the flat rate scenario of less than 10% for the up or down 200 basis point ramp scenarios over twelve months. At June 30, 2008, United’s simulation model indicated that a 200 basis point increase in rates over the next twelve months would cause a 1.2% increase in net interest revenue and a 200 basis point decrease in rates over the next twelve months would cause an approximate 2.6% decrease in net interest revenue.
In order to manage its interest rate sensitivity, United uses off-balance sheet contracts that are considered derivative financial instruments. Derivative financial instruments can be a cost and capital effective means of modifying the repricing characteristics of on-balance sheet assets and liabilities. At June 30, 2008, United was a party to interest rate swap contracts under which it pays a variable rate and receives a fixed rate, and interest rate floor contracts in which United pays a premium to a counterparty who agrees to pay United the difference between a variable rate and a strike rate if the variable rate falls below the strike rate.

 

25


Table of Contents

The following table presents the interest rate swap contracts outstanding at June 30, 2008.
Table 11 — Derivative Financial Instruments
As of June 30, 2008
                                 
            Rate              
(dollars in thousands)   Notional     Received /              
Type/Maturity   Amount     Floor Rate     Rate Paid     Fair Value (7)  
Fair Value Hedges:
                               
LIBOR Swaps (Brokered CDs)
                               
September 29, 2008 (1)
  $ 10,000       5.25 %     2.48 %   $ 62  
November 3, 2008 (2)
    10,000       5.00       2.20       86  
 
                       
Total:
    20,000       5.13       2.34       148  
 
                       
 
                               
LIBOR Swaps (FHLB Advances)
                               
January 5, 2009 (3)
    25,000       5.06       2.36       305  
March 2, 2009 (4)
    25,000       4.90       2.33       377  
 
                       
Total:
    50,000       4.98       2.35       682  
 
                       
Total Fair Value Hedges
    70,000       5.02       2.34       830  
 
                       
Cash Flow Hedges:
                               
Prime Swaps (Prime Loans) (5)
                               
August 4, 2008
    50,000       8.32       5.00       147  
November 4, 2008
    100,000       8.32       5.00       987  
February 1, 2009
    25,000       8.31       5.00       407  
May 4, 2009
    30,000       8.29       5.00       681  
June 9, 2010
    100,000       5.82       5.00       (225 )
June 11, 2010
    25,000       8.26       5.00       1,100  
June 13, 2011
    25,000       6.72       5.00       280  
December 12, 2011
    25,000       6.86       5.00       178  
January 2, 2012
    100,000       6.71       5.00       73  
March 12, 2012
    50,000       6.87       5.00       630  
March 27, 2012
    50,000       6.76       5.00       434  
March 27, 2012
    50,000       6.72       5.00       340  
January 31, 2013
    50,000       6.26       5.00       (807 )
May 6, 2013
    50,000       7.21       5.00       898  
 
                       
Total:
    730,000       7.12       5.00       5,123  
 
                       
 
                               
Prime Floors (Prime Loans) (6)
                               
February 1, 2009
    25,000       8.75               510  
May 1, 2009
    25,000       8.75               694  
August 1, 2009
    75,000       8.75               2,619  
November 1, 2009
    75,000       8.75               3,090  
February 4, 2010
    100,000       8.75               4,692  
May 4, 2010
    100,000       8.75               5,172  
August 1, 2010
    50,000       8.75               2,811  
August 4, 2010
    50,000       8.75               2,815  
 
                           
Total:
    500,000                       22,403  
 
                           
Total Cash Flow Hedges:
    1,230,000                       27,526  
 
                           
Total Derivative Contracts
  $ 1,300,000                     $ 28,356  
 
                           
     
(1)  
Rate Paid equals 1-Month LIBOR minus .0075
 
(2)  
Rate Paid equals 1-Month LIBOR minus .2725
 
(3)  
Rate Paid equals 1-Month LIBOR minus .1101
 
(4)  
Rate Paid equals 1-Month LIBOR minus .1280
 
(5)  
Rate Paid equals Prime rate as of June 30, 2008
 
(6)  
Floor contracts receive cash payments equal to the floor rate less the prime rate.
 
(7)  
Excludes accrued interest

 

26


Table of Contents

United’s derivative financial instruments are classified as either cash flow or fair value hedges. The change in fair value of cash flow hedges is recognized in other comprehensive income. Fair value hedges recognize currently in earnings both the effect of the change in the fair value of the derivative financial instrument and the offsetting effect of the change in fair value of the hedged asset or liability associated with the particular risk of that asset or liability being hedged. At June 30, 2008, United had interest rate swap contracts with a total notional amount of $730 million that were designated as cash flow hedges of prime-based loans. United had interest rate floor contracts with a total notional of $500 million that were also designated as cash flow hedges of prime-based loans. United also had receive fixed, pay LIBOR swap contracts with a total notional of $70 million that were accounted for as fair value hedges of brokered deposits and fixed-rate FHLB advances.
United’s policy requires all derivative financial instruments be used only for asset/liability management through the hedging of specific transactions or positions, and not for trading or speculative purposes. Management believes that the risk associated with using derivative financial instruments to mitigate interest rate risk sensitivity is minimal and should not have any material unintended effect on the financial condition or results of operations. In order to mitigate potential credit risk, from time to time United may require the counterparties to derivative contracts to pledge securities as collateral to cover the net exposure.
Liquidity Management
The objective of liquidity management is to ensure that sufficient funding is available, at reasonable cost, to meet the ongoing operational cash needs and to take advantage of revenue producing opportunities as they arise. While the desired level of liquidity will vary depending upon a variety of factors, it is the primary goal of United to maintain a sufficient level of liquidity in all expected economic environments. Liquidity is defined as the ability to convert assets into cash or cash equivalents without significant loss and to raise additional funds by increasing liabilities. Liquidity management involves maintaining United’s ability to meet the daily cash flow requirements of the Banks’ customers, both depositors and borrowers.
Two key objectives of asset/liability management are to provide for adequate liquidity in order to meet the needs of customers and to maintain an optimal balance between interest-sensitive assets and interest-sensitive liabilities to optimize net interest revenue. Daily monitoring of the sources and uses of funds is necessary to maintain a position that meets both requirements.
The asset portion of the balance sheet provides liquidity primarily through loan principal repayments and the maturities and sales of securities. Mortgage loans held for sale totaled $27 million at June 30, 2008, and typically turn over every 45 days as the closed loans are sold to investors in the secondary market.
The liability section of the balance sheet provides liquidity through interest-bearing and noninterest-bearing deposit accounts. Federal funds purchased, Federal Reserve short-term borrowings, FHLB advances and securities sold under agreements to repurchase are additional sources of liquidity and represent United’s incremental borrowing capacity. These sources of liquidity are generally short-term in nature and are used as necessary to fund asset growth and meet other short-term liquidity needs.
United had sufficient qualifying collateral to increase FHLB advances by $915 million at June 30, 2008. United’s internal policy limits brokered deposits to 25% of total non-brokered deposits. At June 30, 2008, United had the capacity to increase brokered deposits by $1.0 billion and still remain within this limit. Also, United had sufficient qualifying assets pledged to the Federal Reserve under the Term Auction Facility to increase short-term borrowings by $479 million and federal funds lines available of $445 million.
As disclosed in United’s consolidated statement of cash flows, net cash provided by operating activities was $67.1 million for the six months ended June 30, 2008. The major contributors in this category were net income of $23.2 million, plus non-cash expenses for depreciation, amortization and accretion of $7.2 million, provision for loan losses of $23.0 million, stock based compensation of $1.9 million, and a net increase in accrued expenses and other liabilities of $25.3 million, offset by an increase in other assets and accrued interest receivable of $14.1 million. Net cash used by investing activities of $128.7 million consisted primarily of a net increase in loans totaling $65.1 million, purchases of premises and equipment of $7.3 million, and $511.6 million used to purchase investment securities, partially offset by proceeds from sales of securities of $79.7 million, maturities and calls of investment securities of $344.6 million, and sales of other real estate of $30.6 million. Net cash provided by financing activities of $30.7 million consisted primarily of a net increase in deposits of $620.5 million offset by a net decrease of $349.8 million in federal funds purchased, repurchase agreements, and other short-term borrowings, a net decrease in FHLB advances of $234.0 million, and cash dividends paid of $8.5 million. In the opinion of management, the liquidity position at June 30, 2008 is sufficient to meet its expected cash flow requirements.

 

27


Table of Contents

Capital Resources and Dividends
Shareholders’ equity at June 30, 2008 was $837.9 million, an increase of $6.0 million from December 31, 2007. Accumulated other comprehensive income (loss) is not included in the calculation of regulatory capital adequacy ratios. Excluding the change in the accumulated other comprehensive income (loss), shareholders’ equity increased $19.9 million from December 31, 2007. Dividends of $8.5 million, or $.18 per share, were declared on common stock during the first six months of 2008, an increase of 2% from the amount declared in the same period in 2007 due to an increase in the number of outstanding shares since the dividend rate remained unchanged. The dividend payout ratio was 60% for the second quarter of 2008, compared to 19% for the second quarter of 2007. Although, United retains a portion of its earnings in order to provide a cost effective source of capital for continued growth and expansion, United recognizes that cash dividends are an important component of shareholder value, and therefore, provides for cash dividends when earnings and capital levels permit.
United’s Board of Directors has authorized the repurchase of United’s outstanding common stock for general corporate purposes. At June 30, 2008, 1,000,000 shares remained available to be repurchased under the current 3,000,000 share authorization through December 31, 2008. During the first six months of 2008, optionees delivered 5,179 shares to exercise stock options.
United’s common stock trades on the Nasdaq Global Select Market under the symbol “UCBI”. Below is a quarterly schedule of high, low and closing stock prices and average daily volume for 2008 and 2007.
Table 12 — Stock Price Information
                                                                 
    2008     2007  
                            Avg Daily                             Avg Daily  
    High     Low     Close     Volume     High     Low     Close     Volume  
 
                                                               
First quarter
  $ 20.80     $ 13.38     $ 16.98       441,659     $ 34.98     $ 30.81     $ 32.79       232,269  
Second quarter
    18.51       8.51       8.53       464,566       33.03       25.80       25.89       266,682  
Third quarter
                                    27.50       22.16       24.52       346,596  
Fourth quarter
                                    25.73       15.13       15.80       421,910  
The following table presents the quarterly cash dividends declared in 2008 and 2007 and the respective payout ratios as a percentage of basic operating earnings per share, which excludes special fraud related provisions for loan losses in the second and fourth quarters of 2007.
Table 13 — Dividend Payout Information
                                 
    2008     2007  
    Dividend     Payout %     Dividend     Payout %  
First quarter
  $ .09       26     $ .09       20  
Second quarter
    .09       60       .09       19 *
Third quarter
                    .09       19  
Fourth quarter
                    .09       69 *
     
*  
Based on basic operating earnings per share which excludes the effect of the $15 million special fraud-related provision for loan losses in the second quarter of 2007 and $3 million in the fourth quarter of 2007. Including the special provisions, the dividend payout ratio was 35% and 100%, respectively, for the second and fourth quarters of 2007.
The Board of Governors of the Federal Reserve System has issued guidelines for the implementation of risk-based capital requirements by U.S. banks and bank holding companies. These risk-based capital guidelines take into consideration risk factors, as defined by regulators, associated with various categories of assets, both on and off-balance sheet. Under the guidelines, capital strength is measured in two tiers that are used in conjunction with risk-adjusted assets to determine the risk based capital ratios. The guidelines require an 8% total risk-based capital ratio, of which 4% must be Tier I capital. To be considered well-capitalized under the guidelines, a 10% total risk-based capital ratio is required, of which 6% must be Tier I capital.
A minimum leverage ratio is required in addition to the risk-based capital standards and is defined as Tier I capital divided by average assets adjusted for goodwill and deposit-based intangibles. Although a minimum leverage ratio of 3% is required for the highest-rated bank holding companies which are not undertaking significant expansion programs, the Federal Reserve Board requires a bank holding company to maintain a leverage ratio greater than 3% if it is experiencing or anticipating significant growth or is operating with less than well-diversified risks in the opinion of the Federal Reserve Board. The Federal Reserve Board uses the leverage and risk-based capital ratios to assess capital adequacy of banks and bank holding companies.

 

28


Table of Contents

The following table shows United’s capital ratios, as calculated under regulatory guidelines, at June 30, 2008 and 2007.
Table 14 — Capital Ratios
                                 
    2008     2007  
    Actual     Regulatory     Actual     Regulatory  
(dollars in thousands)   Amount     Minimum     Amount     Minimum  
 
                               
Tier I Leverage:
                               
Amount
  $ 560,820     $ 239,362     $ 567,478     $ 216,007  
Ratio
    7.03 %     3.00 %     7.88 %     3.00 %
 
                               
Tier I Risk-Based:
                               
Amount
  $ 560,820     $ 244,680     $ 567,478     $ 253,182  
Ratio
    9.17 %     4.00 %     8.97 %     4.00 %
 
                               
Total Risk-Based:
                               
Amount
  $ 697,597     $ 489,359     $ 713,237     $ 506,365  
Ratio
    11.40 %     8.00 %     11.27 %     8.00 %
United’s Tier I capital excludes other comprehensive income, and consists of stockholders’ equity and qualifying capital securities, less goodwill and deposit-based intangibles. Tier II capital components include supplemental capital items such as a qualifying allowance for loan losses and qualifying subordinated debt. Tier I capital plus Tier II capital components is referred to as Total Risk-Based capital.
The capital ratios of United and the Banks currently exceed the minimum ratios as defined by federal regulators. United monitors these ratios to ensure that United and the Banks remain above regulatory minimum guidelines.
Effect of Inflation and Changing Prices
A bank’s asset and liability structure is substantially different from that of an industrial firm in that primarily all assets and liabilities of a bank are monetary in nature with relatively little investment in fixed assets or inventories. Inflation has an important effect on the growth of total assets and the resulting need to increase equity capital at higher than normal rates in order to maintain an appropriate equity to assets ratio.
United’s management believes the effect of inflation on financial results depends on United’s ability to react to changes in interest rates, and by such reaction, reduce the inflationary effect on performance. United has an asset/liability management program to manage interest rate sensitivity. In addition, periodic reviews of banking services and products are conducted to adjust pricing in view of current and expected costs.
Item 3. Quantitative and Qualitative Disclosure About Market Risk
There have been no material changes in United’s quantitative and qualitative disclosures about market risk as of June 30, 2008 from that presented in the Annual Report on Form 10-K for the year ended December 31, 2007. The interest rate sensitivity position at June 30, 2008 is included in management’s discussion and analysis on page 25 of this report.
Item 4. Controls and Procedures
United’s management, including the Chief Executive Officer and Chief Financial Officer, supervised and participated in an evaluation of the company’s disclosure controls and procedures as of June 30, 2008. Based on, and as of the date of, that evaluation, United’s Chief Executive Officer and Chief Financial Officer have concluded that the disclosure controls and procedures were effective in accumulating and communicating information to management, including the Chief Executive Officer and Chief Financial Officer, as appropriate to allow timely decisions regarding required disclosures of that information under the Securities and Exchange Commission’s rules and forms and that the disclosure controls and procedures are designed to ensure that the information required to be disclosed in reports that are filed or submitted by United under the Act is recorded, processed, summarized and reported within the time periods specified in the Securities and Exchange Commission’s rules and forms.
There were no significant changes in the internal controls or in other factors that could significantly affect these controls subsequent to the date of their evaluation.

 

29


Table of Contents

Part II. Other Information
Item 1. Legal Proceedings
In the ordinary course of operations, United and the Banks are defendants in various legal proceedings. In the opinion of management, there is no pending or threatened proceeding in which an adverse decision could result in a material adverse change in the consolidated financial condition or results of operations of United.
Item 1A. Risk Factors
There have been no material changes from the risk factors previously disclosed in United’s Form 10-K for the year ended December 31, 2007, but United did add the following risk factor:
Our ability to raise capital could be limited and could affect our liquidity and could be dilutive to existing shareholders.
Current conditions in the capital markets are such that traditional sources of capital may not be available to us on reasonable terms if we needed to raise capital. In such case, there is no guarantee that we will be able to borrow funds or successfully raise additional capital at all or on terms that are favorable or otherwise not dilutive to existing shareholders.
Item 2. Unregistered Sales of Equity Securities and Use of Proceeds — None
Item 3. Defaults upon Senior Securities — None
Item 4. Submission of Matters to a Vote of Security Holders
United held its annual meeting of shareholders on April 30, 2008.
At the annual meeting, the shareholders elected Jimmy C. Tallent, Robert L. Head, Jr., W.C. Nelson, Jr., A. William Bennett, Robert H. Blalock, Guy W. Freeman, Charles E. Hill, Hoyt O. Holloway, John D. Stephens, and Tim Wallis as directors to serve until the next annual meeting and until their successors are elected and qualified. Of the 46,984,672 shares outstanding on the record date, 38,095,236 were voted representing 81% of the outstanding shares. The elections were approved by the votes set forth in the following table.
                 
Election of Directors   Shares Voted in Favor     Shares Withheld  
Jimmy C. Tallent
    37,766,554       328,682  
Robert L. Head, Jr.
    37,764,302       330,934  
W.C. Nelson, Jr.
    37,621,040       474,196  
A. William Bennett
    37,651,575       443,661  
Robert H. Blalock
    37,841,310       253,926  
Guy W. Freeman
    37,689,374       405,862  
Charles E. Hill
    37,105,317       989,919  
Hoyt O. Holloway
    37,618,252       476,984  
John D. Stephens
    37,845,581       249,655  
Tim Wallis
    37,628,656       466,580  
Shareholders also voted on the ratification of the independent auditors, Porter Keadle Moore. Of the 46,984,672 shares outstanding on the record date, 38,095,241 were voted, representing 81% of the outstanding shares. The ratification was approved by the votes set forth in the following table.
                         
Other Proposals   Shares Voted in Favor     Shares Voted Against     Shares Withheld  
Ratification of the independent auditors, Porter Keadle Moore
    37,822,674       107,328       165,239  
Item 5. Other Information — None

 

30


Table of Contents

Item 6. Exhibits
3.1  
Restated Articles of Incorporation of United Community Banks, Inc., (incorporated herein by reference to Exhibit 3.1 to United Community Banks, Inc.’s Quarterly Report on Form 10-Q for the quarter ended June 30, 2001, File No. 0-21656, filed with the Commission on August 14, 2001).
 
3.2  
Amendment to the Restated Articles of Incorporation of United Community Banks, Inc. (incorporated herein by reference to Exhibit 3.3 to United Community Banks, Inc.’s Registration Statement on Form S-4, File No. 333-118893, filed with the Commission on September 9, 2004).
 
3.3  
Amended and Restated Bylaws of United Community Banks, Inc., dated September 12, 1997 (incorporated herein by reference to Exhibit 3.1 to United Community Banks, Inc.’s Annual Report on Form 10-K, for the year ended December 31, 1997, File No. 0-21656, filed with the Commission on March 27, 1998).
 
4.1  
See Exhibits 3.1, 3.2 and 3.3 for provisions of the Restated Articles of Incorporation, as amended, and Amended and Restated Bylaws, which define the rights of the Shareholders.
 
31.1  
Certification by Jimmy C. Tallent, President and Chief Executive Officer of United Community Banks, Inc., as adopted pursuant to Section 302 of the Sarbanes-Oxley Act of 2002.
 
31.2  
Certification by Rex S. Schuette, Executive Vice President and Chief Financial Officer of United Community Banks, Inc., as adopted pursuant to Section 302 of the Sarbanes-Oxley Act of 2002.
 
32  
Certification Pursuant to 18 U.S.C. Section 1350, as Adopted Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.
Signatures
Pursuant to the requirements of the Securities Exchange Act of 1934, the Registrant has duly caused this Report to be signed on its behalf by the undersigned thereunto duly authorized.
         
  UNITED COMMUNITY BANKS, INC.
 
 
  /s/ Jimmy C. Tallent    
  Jimmy C. Tallent   
  President and Chief Executive Officer
(Principal Executive Officer) 
 
 
  /s/ Rex S. Schuette    
  Rex S. Schuette   
  Executive Vice President and Chief Financial Officer
(Principal Financial Officer) 
 
 
  /s/ Alan H. Kumler    
  Alan H. Kumler   
  Senior Vice President and Controller
(Principal Accounting Officer) 
 
 
  Date: August 8, 2008  

 

31

         
Exhibit 31.1
I, Jimmy C. Tallent, President and Chief Executive Officer of United Community Banks, Inc. (the “registrant”), certify that:
1. I have reviewed this quarterly report on Form 10-Q of the registrant;
2. Based on my knowledge, this report does not contain any untrue statement of a material fact or omit to state a material fact necessary to make the statements made, in light of the circumstances under which such statements were made, not misleading with respect to the period covered by this report;
3. Based on my knowledge, the financial statements, and other financial information included in this report, fairly present in all material respects the financial condition, results of operations and cash flows of the registrant as of, and for, the periods presented in this report;
4. The registrant’s other certifying officer and I are responsible for establishing and maintaining disclosure controls and procedures (as defined in Exchange Act Rules 13a-15(e) and 15d-15(e)) and internal control over financial reporting (as defined in Exchange Act Rules 13a - 15(f) and 15d — 15(f)) for the registrant and have:
a) Designed such disclosure controls and procedures, or caused such disclosure controls and procedures to be designed under our supervision, to ensure that material information relating to the registrant, including its consolidated subsidiaries, is made known to us by others within those entities, particularly during the period in which this report is being prepared;
b) Designed such internal control over financial reporting, or caused such internal control over financial reporting to be designed under our supervision, to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements for external purposes in accordance with generally accepted accounting principles;
c) Evaluated the effectiveness of the registrant’s disclosure controls and procedures and presented in this report our conclusions about the effectiveness of the disclosure controls and procedures, as of the end of the period covered by this report based on such evaluation; and
d) Disclosed in this report any change in the registrant’s internal control over financial reporting that occurred during the registrant’s most recent fiscal quarter that has materially affected, or is reasonably likely to materially affect, the registrant’s internal control over financial reporting; and
5. The registrant’s other certifying officer and I have disclosed, based on our most recent evaluation of internal control over financial reporting, to the registrant’s auditors and the audit committee of the registrant’s board of directors:
a) All significant deficiencies and material weaknesses in the design or operation of internal control over financial reporting which are reasonably likely to adversely affect the registrant’s ability to record, process, summarize and report financial information; and
b) Any fraud, whether or not material, that involves management or other employees who have a significant role in the registrant’s internal control over financial reporting.
         
  By:   /s/ Jimmy C. Tallent    
    Jimmy C. Tallent   
    President and Chief Executive Officer   
 
  Date: August 8, 2008
 
 
     
     
     
 

 

 

Exhibit 31.2
I, Rex S. Schuette, Executive Vice President and Chief Financial Officer of United Community Banks, Inc. (the “registrant”), certify that:
1. I have reviewed this quarterly report on Form 10-Q of the registrant;
2. Based on my knowledge, this report does not contain any untrue statement of a material fact or omit to state a material fact necessary to make the statements made, in light of the circumstances under which such statements were made, not misleading with respect to the period covered by this report;
3. Based on my knowledge, the financial statements, and other financial information included in this report, fairly present in all material respects the financial condition, results of operations and cash flows of the registrant as of, and for, the periods presented in this report;
4. The registrant’s other certifying officer and I are responsible for establishing and maintaining disclosure controls and procedures (as defined in Exchange Act Rules 13a-15(e) and 15d-15(e)) and internal control over financial reporting (as defined in Exchange Act Rules 13a - 15(f) and 15d — 15(f)) for the registrant and have:
a) Designed such disclosure controls and procedures, or caused such disclosure controls and procedures to be designed under our supervision, to ensure that material information relating to the registrant, including its consolidated subsidiaries, is made known to us by others within those entities, particularly during the period in which this report is being prepared;
b) Designed such internal control over financial reporting, or caused such internal control over financial reporting to be designed under our supervision, to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements for external purposes in accordance with generally accepted accounting principles;
c) Evaluated the effectiveness of the registrant’s disclosure controls and procedures and presented in this report our conclusions about the effectiveness of the disclosure controls and procedures, as of the end of the period covered by this report based on such evaluation; and
d) Disclosed in this report any change in the registrant’s internal control over financial reporting that occurred during the registrant’s most recent fiscal quarter that has materially affected, or is reasonably likely to materially affect, the registrant’s internal control over financial reporting; and
5. The registrant’s other certifying officer and I have disclosed, based on our most recent evaluation of internal control over financial reporting, to the registrant’s auditors and the audit committee of the registrant’s board of directors:
a) All significant deficiencies and material weaknesses in the design or operation of internal control over financial reporting which are reasonably likely to adversely affect the registrant’s ability to record, process, summarize and report financial information; and
b) Any fraud, whether or not material, that involves management or other employees who have a significant role in the registrant’s internal control over financial reporting.
         
  By:   /s/ Rex S. Schuette    
    Rex S. Schuette   
    Executive Vice President and Chief Financial Officer   
 
  Date: August 8, 2008
 
 
     
     
     
 

 

 

Exhibit 32
CERTIFICATION PURSUANT TO
18 U.S.C. SECTION 1350,
AS ADOPTED PURSUANT TO
SECTION 906 OF THE SARBANES-OXLEY ACT OF 2002
In connection with the Quarterly Report of United Community Banks, Inc. (“United”) on Form 10-Q for the period ending June 30, 2008 filed with the Securities and Exchange Commission on the date hereof (the “Report”), I, Jimmy C. Tallent, President and Chief Executive Officer of United, and I, Rex S. Schuette, Executive Vice President and Chief Financial Officer of United, certify, pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002, that:
  (1)  
The Report fully complies with the requirements of section 13(a) or 15(d) of the Securities Exchange Act of 1934; and
 
  (2)  
The information contained in the Report fairly presents, in all material respects, the financial condition and result of operations of United.
         
  By:   /s/ Jimmy C. Tallent    
    Jimmy C. Tallent   
    President and Chief Executive Officer   
         
  By:   /s/ Rex S. Schuette    
    Rex S. Schuette   
    Executive Vice President and Chief Financial Officer   
 
Date: August 8, 2008