FORM 10-Q SECURITIES AND EXCHANGE COMMISSION Washington, D.C. 20549 Mark One [X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 For the quarterly period ended September 30, 2002. OR [ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 Commission File Number: 0-22423 HCB BANCSHARES, INC. (Exact name of registrant as specified in its charter) OKLAHOMA 62-1670792 (State or other jurisdiction of (I.R.S. Employer incorporation or organization) Identification No.) 237 Jackson Street, Camden, Arkansas 71701 (Address of principal executive offices) (Zip Code) Registrant's telephone number, including area code: (870) 836-6841 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 ninety days: Yes [X ] No [ ] Indicate the number of shares outstanding of each of the issuer's classes of common stock as of the latest practicable date: 1,497,196 shares of common stock outstanding as of October 31, 2002. Page 1 CONTENTS PART I. FINANCIAL INFORMATION --------------------- Item 1. Condensed Consolidated Financial Statements Condensed Consolidated Statements of Financial Condition at September 30, 2002 (unaudited) and June 30, 2002 Condensed Consolidated Statements of Income and Comprehensive Income Three Months Ended September 30, 2002 and 2001 (unaudited) Condensed Consolidated Statements of Cash Flows Three Months Ended September 30, 2002 and 2001 (unaudited) Notes to Condensed Consolidated Financial Statements (unaudited) Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations Item 3. Quantitative and Qualitative Disclosures about Market Risk Item 4. Controls and Procedures PART II. OTHER INFORMATION ----------------- Item 1. Legal Proceedings Item 2. Changes in Securities Item 3. Defaults upon Senior Securities Item 4. Submission of Matters to a Vote of Security Holders Item 5. Other Information Item 6. Exhibits and Reports on Form 8-K SIGNATURES Page 2 HCB BANCSHARES, INC. CONDENSED CONSOLIDATED STATEMENTS OF FINANCIAL CONDITION SEPTEMBER 30, 2002 (UNAUDITED) and JUNE 30, 2002 ---------------------------------------------------------------------------------------------------------------- SEPTEMBER 30, 2002 JUNE 30, ASSETS (UNAUDITED) 2002 --------------- -------- Cash and due from banks $ 2,969,305 $ 3,492,257 Interest-bearing deposits with banks 10,973,430 14,404,572 ------------ ------------ Cash and cash equivalents 13,942,735 17,896,829 Investment securities available for sale, at fair value 119,994,699 118,198,564 Loans receivable, net of allowance 113,127,749 124,176,898 Accrued interest receivable 1,525,861 1,721,612 Federal Home Loan Bank stock 4,710,300 4,709,900 Premises and equipment, net 5,928,135 7,112,211 Goodwill, net -- 131,250 Real estate held for sale 662,319 910,587 Other assets 1,012,357 1,567,443 ------------ ------------ TOTAL $260,904,155 $276,425,294 ============ ============ LIABILITIES AND STOCKHOLDERS' EQUITY LIABILITIES: Deposits $150,199,483 $165,005,183 Federal Home Loan Bank advances 79,965,146 82,263,936 Advance payments by borrowers for taxes and insurance 121,139 110,446 Accrued interest payable 672,067 740,008 Other liabilities 1,505,353 1,569,433 ------------ ------------ Total liabilities 232,463,188 249,689,006 ------------ ------------ STOCKHOLDERS' EQUITY: Common stock, $.01 par value, 10,000,000 shares authorized, 2,645,000 shares issued, 1,425,056 and 1,425,056 shares outstanding at September 30, 2002 and June 30, 2002, respectively 26,450 26,450 Additional paid-in capital 25,858,029 25,832,641 Unearned ESOP shares (793,500) (846,400) Unearned MRP shares (107,375) (116,169) Accumulated other comprehensive income 2,448,448 1,441,942 Retained earnings 15,561,179 14,950,088 ------------ ------------ 42,993,231 41,288,552 Treasury stock, at cost, 1,219,944 and 1,219,944 shares at September 30, 2002, and June 30, 2002, respectively (14,552,264) (14,552,264) ------------- ------------- Total stockholders' equity 28,440,967 26,736,288 ------------ ------------ TOTAL $260,904,155 $276,425,294 ============ ============ See accompanying notes to condensed consolidated financial statements. Page 3 HCB BANCSHARES, INC. CONDENSED CONSOLIDATED STATEMENTS OF INCOME AND COMPREHENSIVE INCOME THREE MONTHS ENDED SEPTEMBER 30, 2002 AND 2001 (UNAUDITED) ------------------------------------------------------------------------------------------------ THREE MONTHS ENDED SEPTEMBER 30, 2002 (UNAUDITED) 2001 ---- ---- INTEREST INCOME: Interest and fees on loans $2,275,167 $2,803,304 Investment securities: Taxable 1,293,521 1,373,940 Nontaxable 321,862 382,707 Other 80,992 140,790 ---------- ---------- Total interest income 3,971,542 4,700,741 ---------- ---------- INTEREST EXPENSE: Deposits 1,064,439 1,711,601 Federal Home Loan Bank advances 1,196,079 1,326,236 Note payable -- 1,000 ---------- ---------- Total interest expense 2,260,518 3,038,837 ---------- --------- NET INTEREST INCOME 1,711,024 1,661,904 PROVISION FOR LOAN AND INVESTMENT LOSSES 90,000 60,000 ---------- ---------- NET INTEREST INCOME AFTER PROVISION FOR LOAN AND INVESTMENT LOSSES 1,621,024 1,601,904 ---------- ---------- NONINTEREST INCOME: Service charges on deposit accounts 234,716 247,529 Gain on sale of branch 742,942 -- Other 150,137 127,197 ---------- ---------- Net noninterest income 1,127,795 374,726 ---------- ---------- NONINTEREST EXPENSE: Salaries and employee benefits 985,805 952,528 Net occupancy expense 237,981 276,859 Communication, postage, printing and office supplies 91,677 107,041 Advertising 43,464 56,142 Data processing 98,587 81,089 Professional fees 148,580 121,930 Amortization of goodwill -- 18,750 Other 146,786 101,008 ---------- ---------- Total noninterest expense 1,752,880 1,715,347 ---------- ---------- INCOME BEFORE INCOME TAXES 995,939 261,283 INCOME TAX PROVISION (BENEFIT) 270,842 (24,000) ---------- ----------- NET INCOME $ 725,097 $ 285,283 ---------- ---------- (Continued) Page 4 HCB BANCSHARES, INC. CONDENSED CONSOLIDATED STATEMENTS OF INCOME AND COMPREHENSIVE INCOME THREE MONTHS ENDED SEPTEMBER 30, 2002 AND 2001 (UNAUDITED) ----------------------------------------------------------------------------------------------- THREE MONTHS ENDED SEPTEMBER 30, 2002 (UNAUDITED) 2001 ---- ---- OTHER COMPREHENSIVE INCOME, NET OF TAX: Unrealized holding gain on securities arising during period $ 1,006,506 $ 1,335,777 Reclassification adjustment for gains included in net income -- -- ----------- ----------- Other comprehensive income 1,006,506 1,335,777 ----------- ----------- COMPREHENSIVE INCOME $ 1,731,603 $ 1,621,060 =========== =========== WEIGHTED AVERAGE COMMON SHARES OUTSTANDING BASIC 1,343,943 1,768,494 =========== =========== DILUTED 1,427,939 1,843,429 =========== =========== EARNINGS PER SHARE: Basic $ 0.54 $ 0.16 ====== ====== Diluted $ 0.51 $ 0.15 ====== ====== DIVIDENDS PER SHARE $ 0.08 $ 0.06 ====== ====== (Concluded) See accompanying notes to condensed consolidated financial statements. Page 5 HCB BANCSHARES, INC. CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS THREE MONTHS ENDED SEPTEMBER 30, 2002 AND 2001 (UNAUDITED) ---------------------------------------------------------------------------------------------------------- THREE MONTHS ENDED SEPTEMBER 30, 2002 (UNAUDITED) 2001 ------ ------- OPERATING ACTIVITIES: Net income $ 725,097 $ 285,283 Adjustments to reconcile net income to net cash provided (used) by operating activities: Depreciation 156,859 192,616 Amortization (accretion) of: Deferred loan origination fees 26,163 (3,396) Goodwill -- 18,750 Premiums and discounts on loans, net (958) (1,103) Premiums and discounts on investment securities, net 54,026 19,050 Provision for loan losses 90,000 60,000 Gain on sale of branch (742,942) -- Deferred income taxes 270,842 (24,000) Originations of loans held for sale (7,143,961) (6,208,096) Proceeds from sales of loans 5,400,812 5,899,495 Stock compensation expense 87,082 29,457 Change in accrued interest receivable 145,473 118,090 Change in accrued interest payable (33,253) (70,590) Change in other assets (288,452) 27,585 Change in other liabilities (47,581) (74,280) ------------ ------------ Net cash provided (used) by operating activities (1,300,793) 268,861 ------------ ----------- INVESTING ACTIVITIES: Purchases of investment securities - available for sale (6,218,957) (4,827,871) Redemption (purchase) of Federal Home Loan Bank stock (400) 17,700 Purchases of premises and equipment (211,239) (87,197) Net change due to branch sale (2,523,471) -- Loan originations, net of repayments 4,448,935 (3,651,670) Principal payments on investment securities 5,934,096 5,430,995 Net increase in real estate held for resale (65,921) (64,831) ------------ ------------ Net cash provided (used) by investing activities 1,363,043 (3,182,874) ----------- ------------ (Continued) Page 6 HCB BANCSHARES, INC. CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS THREE MONTHS ENDED SEPTEMBER, 2002 AND 2001 (UNAUDITED) ---------------------------------------------------------------------------------------------------------- THREE MONTHS ENDED SEPTEMBER 30, 2002 (UNAUDITED) 2001 ------ ------- FINANCING ACTIVITIES: Net decrease in deposits $ (1,614,241) $ (713,403) Advances from Federal Home Loan Bank -- 2,056,000 Repayment of Federal Home Loan Bank advances (2,298,790) (5,801,914) Net increase in advance payments by borrowers for taxes and insurance 10,693 41,928 Repayment of note payable -- (80,000) Purchase of treasury stock -- (1,656,813) Dividends paid (114,006) (108,387) ------------- ------------- Net cash used by financing activities (4,016,344) (6,262,589) ------------- ------------- NET DECREASE IN CASH AND CASH EQUIVALENTS (3,954,094) (9,176,602) CASH AND CASH EQUIVALENTS: Beginning of period 17,896,829 18,410,021 ------------ ------------ End of period $ 13,942,735 $ 9,233,419 ============ ============ See accompanying notes to condensed consolidated financial statements. (Concluded) Page 7 HCB BANCSHARES, INC NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED) NOTE 1 - BASIS OF PRESENTATION AND CONSOLIDATION HCB Bancshares, Inc. ("Bancshares"), incorporated under the laws of the State of Oklahoma, is a savings bank holding company that owns HCB Investments, Inc. ("HCBI") and HEARTLAND Community Bank and its subsidiary (the "Bank"). Bancshares' business is primarily that of owning the Bank, and participating in the Bank's activities. HCBI holds a $500,000 initial investment in EastPoint Technologies LLC, which is the company whose core processing software the Bank utilizes. The accompanying condensed consolidated financial statements include the accounts of Bancshares, HCBI, and the Bank and are collectively referred to as the Company. All significant intercompany balances and transactions have been eliminated in consolidation. The accompanying unaudited condensed consolidated financial statements were prepared in accordance with instructions for Form 10-Q. Accordingly, they do not include all of the information required by generally accepted accounting principles. The unaudited statements reflect all adjustments, which are, in the opinion of management, necessary for fair presentation of the financial condition and results of operations and cash flows of the Company. Those adjustments consist only of normal recurring adjustments. The condensed consolidated statements of income and comprehensive income for the three months ended September 30, 2002, are not necessarily indicative of the results that may be expected for the Company's fiscal year ending June 30, 2003. The unaudited condensed consolidated financial statements and notes thereto should be read in conjunction with the audited consolidated financial statements and notes thereto for the year ended June 30, 2002, contained in the Company's Annual Report on Form 10-K for the year ended June 30, 2002. NOTE 2 - EARNINGS PER SHARE The weighted average number of common shares used to calculate earnings per share for the periods ended September 30, 2002 and 2001, were as follows: Three months ended September 30, 2002 2001 ---- ---- Basic weighted - average shares 1,343,943 1,768,494 Effect of dilutive securities 83,996 74,935 ---------- ---------- Diluted weighted - average shares 1,427,939 1,843,429 ========== ========== The Company has issued stock options that have the potential to be dilutive to its weighted average shares calculation, and were dilutive for the three months ending September 30, 2002 and 2001. In addition, the Company has issued MRP shares that have the potential to be dilutive to its weighted average shares calculation, but were anti-dilutive for these three month periods. NOTE 3 - COMMITMENTS AND CONTINGENCIES In the ordinary course of business, the Company has various outstanding commitments and contingent liabilities that are not reflected in the accompanying consolidated financial statements. In addition, the Company may be a defendant from time to time in certain claims and legal actions arising in the ordinary course of business. In the opinion of management, after consultation with legal counsel, the ultimate disposition of these matters is not expected to have a material adverse effect on the consolidated financial statements of the Company. NOTE 4 - MONTICELLO BRANCH SALE On July 19, 2002, the Bank sold its Monticello branch to Simmons First Bank of South Arkansas. The sale included approximately $8.3 million in loans, $1.5 million in fixed assets, $0.2 million in other assets and $13.2 million in deposits. The Bank recognized a premium on the deposits of approximately $0.9 million and the difference was paid in cash to the buyer. Page 8 Item 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS FORWARD-LOOKING STATEMENTS When used in this Form 10-Q, the words or phrases "will likely result," "are expected to," "will continue," "is anticipated," "estimate," "project" or similar expressions are intended to identify "forward-looking statements" within the meaning of the Private Securities Litigation Reform Act of 1995. Such statements are subject to certain risks and uncertainties including changes in economic conditions in the Company's market area changes in policies by regulatory agencies, fluctuations in interest rates, demand for loans in the Company's market area, and competition that could cause actual results to differ materially from historical earnings and those presently anticipated or projected. The Company wishes to caution readers not to place undue reliance on any such forward-looking statements, which speak only as of the date made. The Company wishes to advise readers that the factors listed above could affect the Company's financial performance and could cause the Company's actual results for future periods to differ materially from any opinions or statements expressed with respect to future periods in any current statements. The Company does not undertake, and specifically disclaims any obligation, to publicly release the result of any revisions which may be made to any forward-looking statements to reflect events or circumstances after the date of such statements or to reflect the occurrence of anticipated or unanticipated events. GENERAL The Bank's principal business consists of attracting savings deposits from the general public and investing those funds in loans secured by first mortgages on existing owner-occupied single-family residences in the Bank's primary market area, commercial and multi-family real estate loans and consumer and commercial business loans. The Bank also maintains a substantial investment portfolio of mortgage-related securities, nontaxable municipal securities, and U.S. government and agency securities. The Bank's net income is dependent primarily on its net interest income, which is the difference between interest income earned on its loans, mortgage-backed securities and securities portfolio and interest paid on customers' deposits and other borrowings. The Bank's net income is also affected by the level of noninterest income, such as service charges on customers' deposit accounts, net gains or losses on the sale of loans and securities and other fees. In addition, net income is affected by the level of noninterest expense, which primarily consists of employee compensation expenses, occupancy expenses and other expenses. The financial condition and results of operations of the Bank and the thrift and banking industries as a whole are significantly affected by prevailing economic conditions, competition and the monetary and fiscal policies of governmental agencies. Lending activities are influenced by demand for and supply of credit, competition among lenders and the level of interest rates in the Bank's market area. The Bank's deposit flows and costs of funds are influenced by prevailing market rates of interest, primarily on competing investments, as well as account maturities and the levels of personal income and savings in the Bank's market area. Page 9 AVERAGE BALANCES, INTEREST AND AVERAGE YIELDS AND RATES The following table sets forth information regarding the Company's average interest-earning assets and interest-bearing liabilities and reflects the average yield of interest-earning assets and the average cost of interest-bearing liabilities for the periods indicated. Average balances are derived from daily balances. The table also presents information for the periods indicated with respect to the difference between the weighted average yield earned on interest-earning assets and the weighted average rate paid on interest-bearing liabilities, or "interest rate spread," which savings institutions have traditionally used as an indicator of profitability. Another indicator of an institution's net interest income is its "net yield on interest-earning assets," which is its net interest income divided by the average balance of interest-earning assets. Net interest income is affected by the interest rate spread and by the relative amounts of interest-earning assets and interest-bearing liabilities. The yield on nontaxable securities has not been adjusted to a tax equivalent basis. The yield on available for sale securities is based on amortized cost. Loans on a nonaccrual basis are included in the computation of the average balance of loans receivable. Loan fees deferred and accreted into income are included in interest earned. Whenever interest-earning assets equal or exceed interest-bearing liabilities, any positive interest rate spread will generate net interest income. Quarter Ended September 30, ------------------------------------------------------------------------- 2002 2001 ----------------------------------- ---------------------------------- Average Average Average Interest Yield/ Average Interest Yield/ Balance Earned/Paid Rate Balance Earned/Paid Rate ------- ----------- ------- ------- ----------- ------- Interest-earning assets: Loans receivable......................... $116,001,697 $2,275,167 7.85% $133,640,481 $2,803,304 8.39% Investment and mortgage-backed securities Taxable............................... 90,026,436 1,293,521 5.75 88,801,112 1,373,940 6.19 Nontaxable............................ 25,524,086 321,862 5.04 30,492,676 382,707 5.02 FHLB stock............................. 4,675,384 35,354 3.02 4,693,588 95,245 8.12 FHLB DDA............................... 10,986,527 45,033 1.64 10,647,850 43,175 1.62 Other interest-earning assets.......... 179,242 605 1.35 144,337 2,370 6.57 ----------- --------- ---- ----------- --------- ---- Total interest-earning assets......... 247,393,372 3,971,542 6.42 268,420,044 4,700,741 7.01 --------- --------- Noninterest-earning assets............... 15,885,885 16,058,237 ----------- ----------- Total assets.......................... $263,279,257 $284,478,281 =========== =========== Interest-bearing liabilities: NOW, MMDA, statement savings........... $ 41,289,431 152,721 1.48 $ 42,609,454 303,069 2.85 Time deposits.......................... 104,293,869 911,718 3.50 110,326,785 1,408,532 5.11 FHLB advances.......................... 80,242,111 1,196,079 5.96 90,066,400 1,326,236 5.89 Note payable........................... -- -- -- 58,261 1,000 6.87 ----------- --------- ---- ----------- --------- ---- Total interest-bearing liabilities.... 225,825,411 2,260,518 4.00 243,060,900 3,038,837 5.00 --------- --------- Noninterest-bearing liabilities.......... 9,576,723 8,766,453 ----------- ----------- Total liabilities..................... 235,402,134 251,827,353 Equity................................... 27,877,123 32,650,928 ----------- ----------- Total liabilities and equity.......... $263,279,257 $284,478,281 =========== =========== Net interest income...................... $1,711,024 $1,661,904 ========= ========= Net interest rate spread................. 2.42% 2.01% ==== ==== Net yield on interest-earning assets..... 2.77% 2.48% ==== ==== Ratio of average interest-earning assets to average interest-bearing liabilities 109.55% 110.43% ======= ====== Page 10 RATE/VOLUME ANALYSIS The following table analyzes dollar amounts of changes in interest income and interest expense for major components of interest-earning assets and interest-bearing liabilities. The table distinguishes between (i) changes attributable to volume (changes in volume multiplied by the prior period's rate), (ii) changes attributable to rate (changes in rate multiplied by the prior period's volume) and (iii) changes in rate/volume (changes in rate multiplied by changes in volume). 2002 vs. 2001 --------------------------------------------- Increase (Decrease) Due to --------------------------------------------- Rate/ Volume Rate Volume Total ------ ---- ------ ----- (In thousands) Interest income: Loans receivable $ (370) $ (182) $ 24 $(528) Investment and mortgage-backed securities Taxable 19 (98) (1) (80) Nontaxable (62) 2 (1) (61) FHLB stock -- (60) -- (60) FHLB DDA 1 -- 1 2 Other interest-earning assets 1 (2) (1) (2) ----- ----- ---- ---- Total interest-earning assets (411) (340) 22 (729) ----- ----- ---- ---- Interest expense: NOW, MMDA, statement savings (9) (145) 4 (150) Time deposits (77) (444) 24 (497) FHLB advances (145) 16 (1) (130) Note payable (1) -- -- (1) ----- ----- ---- ---- Total interest-bearing liabilities (232) (573) 27 (778) ----- ----- ---- ---- Change in net interest income $ (179) $ 233 $ (5) $ 49 ===== ===== ==== ==== COMPARISON OF FINANCIAL CONDITION AT SEPTEMBER 30, 2002 AND JUNE 30, 2002 The Company had consolidated total assets of $260.9 million and $276.4 million at September 30, 2002, and June 30, 2002, respectively. During the three month period ended September 30, 2002, the Company experienced a decrease in its consolidated loan portfolio from $124.2 million at June 30, 2002, to $113.1 million at September 30, 2002. Of the $11.1 million decrease, $8.3 million is due to the sale of loans in the Monticello branch sale. During this same period, investments and mortgage-backed securities increased from $118.2 million at June 30, 2002, to $120.0 million at September 30, 2002. While investments and mortgage-backed securities increased $1.8 million for the three month period ended September 30, 2002, there were $5.9 million in paydowns offset with purchases of $6.2 million and a $1.5 million increase in the market value of the securities. Deposits decreased from $165.0 million at June 30, 2002, to $150.2 million at September 30, 2002. Of the $14.8 million decrease, $13.2 million is due to the sale of deposits in the Monticello branch sale. Although the Bank's level of deposits has been sufficient to provide for adequate liquidity, the deposit market remains competitive. The outstanding balances of FHLB borrowings decreased from $82.3 million at June 30, 2002, to $80.0 million at September 30, 2002. Stockholders' equity amounted to $28.4 million at September 30, 2002, and $26.7 million at June 30, 2002. The changes in equity were primarily due to an increase in accumulated other comprehensive income and net income for the period. At September 30, 2002, the Bank's regulatory capital exceeded all applicable regulatory capital requirements. Page 11 COMPARISON OF RESULTS OF OPERATIONS FOR THE THREE MONTHS ENDED SEPTEMBER 30, 2002 AND 2001 Net Income. Net income for the three months ended September 30, 2002, was approximately $725,000 compared to net income of $285,000 for the three months ended September 30, 2001. The changes resulted primarily from an increase in net interest income of $49,000, an increase in noninterest income of $753,000 offset by an increase in the provision for loan and investment loss of $30,000, a decrease in the income tax benefit of $295,000 and a increase in noninterest expense of $37,000. The specific reasons for the above changes and the Monticello branch sale effect on net income are discussed below. Interest Income. Interest income for the three months ended September 30, 2002, was approximately $3,972,000, or $729,000 less than interest income for the three months ended September 30, 2001. The total average interest-earning assets decreased $21.0 million, while the yield decreased from 7.01% to 6.42%. Of the $729,000 decrease in interest income, $370,000 was due to volume decreases in loans, $182,000 was due to rate decreases on loans, $98,000 was due to rate decreases on taxable investment and mortgage-backed securities, $62,000 was due to volume decreases on nontaxable investments and mortgage-backed securities, $60,000 was due to rate decreases on FHLB stock, offset by an increase in the volume of taxable investments and mortgage-backed securities. For the three months ended September 30, 2002, compared to the three months ended September 30, 2001, the average balance of loans receivable decreased $17.6 million, total loan interest income decreased $528,000 and the average yield on loans decreased 54 basis points. For the same comparative periods, the average balance of investments and mortgage-backed securities receivable decreased $3.7 million, interest income decreased $141,000 and the average yield decreased 30 basis points. Further, the average balance of other interest-earning assets (primarily FHLB DDA's and FHLB stock) increased $0.3 million, interest income decreased $60,000 and the average yield decreased 159 basis points. On July 19, 2002, the Bank sold its Monticello branch that included approximately $8.3 million in loans at a rate of approximately 8.10 percent. This transaction had the effect of reducing average loans outstanding by approximately $6.5 million during the three months ended September 30, 2002, and reducing interest income by approximately $133,000 for the same period. Interest Expense. Total average interest-bearing liabilities decreased $17.2 million, while the average interest rate on such liabilities decreased from 5.00% to 4.00%. The average balance of interest-bearing deposits decreased $7.4 million, deposit interest expense decreased $647,000 and the average cost decreased 155 basis points. The average balance of FHLB advances decreased $9.8 million, FHLB interest expense decreased $130,000 and the average cost increased 7 basis points. Of the $778,000 decrease in interest expense, $86,000 was due to volume decreases in deposits, $589,000 was due to rate decreases on deposits, $145,000 was due to volume decreases on FHLB advances, offset by a $16,000 increase due to rate increases on FHLB advances and the difference is an increase due to both rate and volumes on deposits. On July 19, 2002, the Bank sold its Monticello branch that included approximately $13.2 million in deposits at a rate of approximately 2.90 percent. This transaction had the effect of reducing average deposits outstanding by approximately $10.4 million during the three months ended September 30, 2002, and reducing interest expense by approximately $75,000 for the same period. Net Interest Income. Net interest income for the three months ended September 30, 2002, was $1.7 million, or $49,000 more than net interest income for the three months ended September 30, 2001. The increase in net interest income for the three months ended September 30, 2002, compared to the three months ended September 30, 2001, was the result of an increase in our interest rate spread of 41 basis points. This trend reflects the liability sensitive nature of the Company which would, keeping all other things equal, typically show improved net interest income in a decreasing interest rate environment. Page 12 Provision for Loan and Investment Losses. During the three months ended September 30, 2002, the Bank's management continued its review of the appropriateness of the amount of the allowance for loan and investment losses. Based on these reviews, management made a total of $90,000 in provision for loan losses for the three months ended September 30, 2002. The allowance for loan losses of $1.6 million at September 30, 2002, represented 1.38% of gross outstanding loans which compares to 1.22% as of June 30, 2002. The provision was made in consideration of reviews of individual loans and the fact that nonperforming loans as of September 30, 2002, as a percent of total loans increased to 1.51% from 1.44% as of June 30, 2002. In addition, total classified assets as a percent of the Bank's tangible capital plus allowance for loan loss was 35.9% as of September 30, 2002, which compares to 31.0% as of June 30, 2002. As of September 30, 2002, the Bank had $8.7 million in assets classified substandard or doubtful as compared to $7.1 million as of June 30, 2002. Management evaluates the carrying value of the loan portfolio periodically and provisions are made, if necessary. While management uses the best information available to make evaluations, future provisions to the allowance may be necessary if conditions differ substantially from the assumptions used in making the evaluations. In addition, various regulatory agencies, as an integral part of their examination process, periodically review the Bank's allowance for loan losses. Such agencies may require the Bank to recognize changes to the allowance based upon their judgments and the information available to them at the time of their examination. There were no significant changes in loan terms during the period, nor were there significant changes in the estimation methodologies employed or assumptions utilized. Nonperforming loan and loss trends did not indicate a need to substantially modify loss experience factors during the period. Noninterest Income. Noninterest income is typically comprised primarily of gains on the sales of loans and service charges on deposit accounts. However, for the three months ended September 30, 2002, the Company recognized a gain on the sale of its Monticello branch of approximately $743,000. Noninterest income for the three months ended September 30, 2002, was approximately $1,128,000 compared to approximately $375,000 for the three months ended September 30, 2001. This increase of approximately $753,000 is primarily the result of the $743,000 gain on the sale of the Monticello branch. Based on the average for the six months ended June 30, 2002, it is estimated that the sale of the Monticello branch will result in approximately a $49,000 decrease in noninterest income per quarter, primarily consisting of service charges on deposit accounts. Noninterest Expense. The major components of noninterest expense are salaries and employee benefits paid to or on behalf of the Company's employees and directors, professional fees paid to consultants, attorneys, and accountants, occupancy expense for ownership and maintenance of the Company's buildings, furniture and equipment and data processing expenses. Total noninterest expense for the three months ended September 30, 2002, was $1.75 million compared to $1.72 million for the three months ended September 30, 2001. Significant components of the increase in noninterest expense were a $33,000 increase in salaries and employee benefits, a $17,000 increase in data processing expense, a $27,000 increase in professional fees, a $46,000 increase in other expenses, offset by a $39,000 decrease in net occupancy expense, a $15,000 decrease in communication, postage, printing and office supplies, a $19,000 decrease in amortization of goodwill and a $13,000 decrease in advertising. Based on the average for the six months ended June 30, 2002, it is estimated that the sale of the Monticello branch will result in approximately a $93,000 decrease in noninterest expense per quarter, primarily as a result of decreased salaries and employee benefits, occupancy expense and data processing expense. Income Taxes. The effective income tax rates for the Company for the three months ended September 30, 2002 and 2001 were 27.2% and (9.2)%, respectively. The variance in the effective rate from the expected statutory rate is due primarily to tax exempt interest. The negative rate for fiscal three months ended September 30, 2001, is a net tax benefit and increases net income. The net tax benefit is primarily due to tax exempt income. The corresponding deferred tax asset totals approximately $1.7 million as of September 30, 2002, and $1.7 million as of June 30, 2002. The recoverability of this asset is entirely contingent upon the production of taxable income for income tax reporting purposes. Management Page 13 anticipates that the Company will produce such income in the near future based on management's current forecasts of earnings. SOURCES OF CAPITAL AND LIQUIDITY The Company has no business other than that of the Bank and banking related activities. Bancshares' primary sources of liquidity are cash, dividends paid by the Bank and earnings on investments and loans. In addition, the Bank is subject to regulatory limitations with respect to the payment of dividends to Bancshares. The Bank has historically maintained substantial levels of capital. The assessment of capital adequacy is dependent on several factors including asset quality, earnings trends, liquidity and economic conditions. Maintenance of adequate capital levels is integral to provide stability to the Bank. The Bank needs to maintain substantial levels of regulatory capital to give it maximum flexibility in the changing regulatory environment and to respond to changes in the market and economic conditions. The Bank's primary sources of funds are savings deposits, borrowed funds, proceeds from principal and interest payments on loans and mortgage-backed securities, interest payments and maturities of investment securities and earnings. While scheduled principal repayments on loans and mortgage-backed securities and interest payments on investment securities are a relatively predictable source of funds, deposit flows and loan and mortgage-backed securities prepayments are greatly influenced by general interest rates, economic conditions, competition and other factors. At September 30, 2002 and June 30, 2002, the Company had designated all securities as available for sale. In addition to internal sources of funding, the Bank as a member of the FHLB, has substantial borrowing authority with the FHLB. The Bank's use of a particular source of funds is based on need, comparative total costs and availability. At September 30, 2002, the Bank had $4.5 million in commitments to originate loans (including unfunded portions of construction loans) and approximately $1.1 million in unused lines of credit. At the same date, the total amount of certificates of deposit which were scheduled to mature in one year or less was $84.7 million. Management anticipates that the Bank will have adequate resources to meet its current commitments through internal funding sources described above. Management is not aware of any current recommendations by its regulatory authorities, legislation, competition, trends in interest rate sensitivity, new accounting guidance or other material events and uncertainties that would have a material effect on the Bank's ability to meet its liquidity demands. IMPACT OF INFLATION AND CHANGING PRICES The financial statements and related financial data presented herein have been prepared in accordance with instructions to Form 10-Q which require the measurement of financial position and operating results in terms of historical dollars, without considering changes in relative purchasing power over time due to inflation. Unlike most industrial companies, virtually all of the Bank's assets and liabilities are monetary in nature. As a result, changes in interest rates generally have a more significant impact on a financial institution's performance than do changes in the rate of inflation. ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK For a discussion of the Company's asset and liability management policies as well as the potential impact of interest rate changes upon the market value of the Bank's portfolio equity, see "MARKET RISK" in the Company's Annual Report on Form 10-K for the year ended June 30, 2002. There has been no material change in the Company's asset and liability position since June 30, 2002. Page 14 ITEM 4. CONTROLS AND PROCEDURES EVALUATION OF DISCLOSURE CONTROLS AND PROCEDURES The Company's Chief Executive Officer and Chief Financial Officer have reviewed and evaluated the effectiveness of the Company's disclosure controls and procedures (as defined in 15 C. F. R. ' 240.13a-14(c) and 15 C. F. R. '240.15-14(c)) as of a date within ninety days prior to the filing of this quarterly report. Based upon that evaluation, the Chief Executive Officer and Chief Financial Officer have concluded that the Company's current disclosure controls and procedures are effective. CHANGES IN INTERNAL CONTROLS There were no significant changes in the Company's internal controls or in other factors that could significantly affect those controls subsequent to the date of evaluation. PART II. OTHER INFORMATION ----------------- Item 1. Legal Proceedings In the ordinary course of business, the Company has various outstanding commitments and contingent liabilities that are not reflected in the accompanying consolidated financial statements. In addition, the Company may be a defendant in certain claims and legal actions arising in the ordinary course of business. In the opinion of management, after consultation with legal counsel, the ultimate disposition of these matters is not expected to have a material adverse effect on the consolidated financial statements of the Company. Item 2. Changes in Securities None Item 3. Defaults upon Senior Securities None Item 4. Submission of Matters to a Vote of Security Holders None Item 5. Other Information None Item 6. Exhibits and Reports on Form 8-K Exhibits: 3.2 Bylaws of HCB Bancshares, Inc. as amended 99 Certification Pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002 Reports on Form 8-K: On July 31, 2002, the Registrant filed a Current Report on Form 8-K under item 5 to report the completed sale of its Monticello, Arkansas branch office to Simmons First Bank of South Arkansas. On August 26, 2002, the Registrant filed a Current Report on Form 8-K under item 5 to report the commencement of a stock repurchase program to acquire up to 75,171 shares of its common stock, representing approximately 5% of the outstanding common stock. Page 15 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. HCB BANCSHARES, INC. Registrant Date: November 8, 2002 By: /s/Cameron D. McKeel -------------------------------- Cameron D. McKeel President and Chief Executive Officer (Duly Authorized Representative) Date: November 8, 2002 By: /s/Scott A. Swain -------------------------------- Scott A. Swain Senior Vice President and Chief Financial Officer (Principal Financial Officer) Page 16 CERTIFICATION I, Cameron D. McKeel, certify that: 1. I have reviewed this quarterly report on Form 10-Q of HCB Bancshares, Inc.; 2. Based on my knowledge, this quarterly 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 quarterly report; 3. Based on my knowledge, the financial statements, and other financial information included in this quarterly 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 quarterly report; 4. The registrant's other certifying officers and I are responsible for establishing and maintaining disclosure controls and procedures (as defined in Exchange Act Rules 13a-14 and 15d-14) for the registrant and we have: a) designed such disclosure controls and procedures 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 quarterly report is being prepared; b) evaluated the effectiveness of the registrant's disclosure controls and procedures as of a date within 90 days prior to the filing date of this quarterly report (the "Evaluation Date"); and c) presented in this quarterly report our conclusions about the effectiveness of the disclosure controls and procedures based on our evaluation as of the Evaluation Date; 5. The registrant's other certifying officers and I have disclosed, based on our most recent evaluation, to the registrant's auditors and the audit committee of registrant's board of directors (or persons performing the equivalent function): a) all significant deficiencies in the design or operation of internal controls which could adversely affect the registrant's ability to record, process, summarize and report financial data and have identified for the registrant's auditors any material weaknesses in internal controls; and b) any fraud, whether or not material, that involves management or other employees who have a significant role in the registrant's internal controls; and 6. The registrant's other certifying officers and I have indicated in this quarterly report whether or not there were significant changes in internal controls or in other factors that could significantly affect internal controls subsequent to the date of our most recent evaluation, including any corrective actions with regard to significant deficiencies and material weaknesses. Date: November 8, 2002 By: /s/ Cameron D. McKeel --------------------------------------------- Name: Cameron D. McKeel Title: President, and Chief Executive Officer Page 17 CERTIFICATION I, Scott A. Swain, certify that: 1. I have reviewed this quarterly report on Form 10-Q of HCB Bancshares, Inc.; 2. Based on my knowledge, this quarterly 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 quarterly report; 3. Based on my knowledge, the financial statements, and other financial information included in this quarterly 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 quarterly report; 4. The registrant's other certifying officers and I are responsible for establishing and maintaining disclosure controls and procedures (as defined in Exchange Act Rules 13a-14 and 15d-14) for the registrant and we have: a) designed such disclosure controls and procedures 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 quarterly report is being prepared; b) evaluated the effectiveness of the registrant's disclosure controls and procedures as of a date within 90 days prior to the filing date of this quarterly report (the "Evaluation Date"); and c) presented in this quarterly report our conclusions about the effectiveness of the disclosure controls and procedures based on our evaluation as of the Evaluation Date; 5. The registrant's other certifying officers and I have disclosed, based on our most recent evaluation, to the registrant's auditors and the audit committee of registrant's board of directors (or persons performing the equivalent function): a) all significant deficiencies in the design or operation of internal controls which could adversely affect the registrant's ability to record, process, summarize and report financial data and have identified for the registrant's auditors any material weaknesses in internal controls; and b) any fraud, whether or not material, that involves management or other employees who have a significant role in the registrant's internal controls; and 6. The registrant's other certifying officers and I have indicated in this quarterly report whether or not there were significant changes in internal controls or in other factors that could significantly affect internal controls subsequent to the date of our most recent evaluation, including any corrective actions with regard to significant deficiencies and material weaknesses. Date: November 8, 2002 By: /s/ Scott A. Swain -------------------------------------- Name: Scott A. Swain Title: Senior Vice President, and Chief Financial Officer Page 18