10-Q 1 d10q.txt FORM 10-Q SECURITIES AND EXCHANGE COMMISSION Washington, D. C. 20549 FORM 10-Q QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15 (d) OF THE SECURITIES EXCHANGE ACT OF 1934 For the quarter ended June 30, 2002 Commission File No. 0-10852 SOUTHERN BANCSHARES (N.C.), INC. (Exact name of registrant as specified in its charter) DELAWARE 56-1538087 (State or other jurisdiction of (I.R.S. Employer incorporation or organization) Identification Number) 121 East Main Street Mount Olive, North Carolina 28365 ( Address of Principal Executive offices) (Zip Code) Registrant's Telephone Number, including Area Code: (919) 658-7000 Indicate by check mark whether the Registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the Registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes _X_ No ___ Indicate the number of shares outstanding of the Registrant's common stock as of the close of the quarter covered by this report. 114,104 shares Part I-FINANCIAL INFORMATION Item 1-Financial Statements. SOUTHERN BANCSHARES (N.C.), INC. AND SUBSIDIARIES CONSOLIDATED BALANCE SHEETS

The accompanying notes are an integral part of these consolidated financial statements. 2 SOUTHERN BANCSHARES (N.C.), INC. AND SUBSIDIARIES CONSOLIDATED STATEMENTS OF INCOME AND COMPREHENSIVE INCOME

The accompanying notes are an integral part of these consolidated financial statements. 3 SOUTHERN BANCSHARES (N.C.), INC. AND SUBSIDIARIES CONSOLIDATED STATEMENTS OF CHANGES IN SHAREHOLDERS' EQUITY FOR THE SIX MONTHS ENDED JUNE 30, 2002 AND 2001 (Dollars in thousands except per share data) (Unaudited)

The accompanying notes are an integral part of these consolidated financial statements. 4 SOUTHERN BANCSHARES (N.C.), INC. AND SUBSIDIARIES CONSOLIDATED STATEMENTS OF CASH FLOWS

The accompanying notes are an integral part of these consolidated financial statements. 5 SOUTHERN BANCSHARES (N. C.), INC. AND SUBSIDIARIES Notes to Consolidated Financial Statements Note 1. Summary Of Significant Accounting Policies Basis of Financial Statement Presentation Southern BancShares (N. C.), Inc. ("BancShares") is the holding company for Southern Bank and Trust Company ("Southern"), which operates 49 banking offices in eastern North Carolina, and Southern Capital Trust I (the "Trust"), a statutory business trust that issued $23.0 million of 8.25% Capital Securities ("the Capital Securities") in June 1998 maturing in 2028. BancShares irrevocably and unconditionally guarantees the Trust's obligations. Southern, which began operations January 29, 1901, has a wholly-owned subsidiary, Goshen, Inc. which acts as agent for credit life and credit accident and health insurance written in connection with loans made by Southern. BancShares and Southern are headquartered in Mount Olive, North Carolina. The consolidated financial statements in this report are unaudited. In the opinion of management, all adjustments (none of which were other than normal accruals) necessary for a fair presentation of the financial position and results of operations for the quarters presented have been included. The preparation of financial statements in conformity with accounting principles generally accepted in the United States of America requires management to make estimates and assumptions. These estimates and assumptions affect the reported amounts of assets and liabilities, the disclosure of contingent liabilities at the date of the financial statements and the reported amounts of revenues and expenses for the reporting periods. Actual results could differ from those estimates. The statements should be read in conjunction with the consolidated financial statements and accompanying notes for the year ended December 31, 2001, incorporated by reference in the 2001 Annual Report on Form 10-K. Principles of Consolidation The consolidated financial statements include the accounts of BancShares and its wholly-owned subsidiaries, Southern and the Trust. The statements also include the accounts of Goshen, Inc., a wholly-owned subsidiary of Southern. BancShares' financial resources are primarily provided by dividends from Southern. All significant intercompany balances have been eliminated in consolidation. 6 Cash And Cash Equivalents For purposes of reporting cash flows, cash and cash equivalents include cash, due from banks and overnight funds sold. Overnight and federal funds are purchased and sold for one day periods. Goodwill and Other Intangible Assets In July 2001, the FASB issued Statement No. 141, Business Combinations, and Statement No. 142, Goodwill and Other Intangible Assets. Statement 141 requires that the purchase method of accounting be used for all business combinations initiated after June 30, 2001 as well as all purchase method business combinations completed after June 30, 2001. Statement 141 also specifies the criteria that intangible assets acquired in a purchase method business combination must meet to be recognized and reported apart from goodwill. Statement 142 requires that goodwill and intangible assets with indefinite useful lives no longer be amortized, but instead tested for impairment at least annually in accordance with the provisions of Statement 142. Statement 142 also requires that intangible assets with estimable useful lives be amortized over their respective estimated useful lives to their estimated residual values, and reviewed for impairment in accordance with FASB Statement No. 121, Accounting for the Impairment of Long-Lived Assets and for Long-Lived Assets to Be Disposed Of. The following is a summary of the gross carrying amount and accumulated amortization of amortized intangible assets as of June 30, 2002 and December 31, 2001 and the gross carrying amount of unamortized intangible assets as of June 30, 2002:

The remaining intangible assets, totaling $8.1 million at June 30, 2002, relate to acquisitions of branches that are being accounted for in accordance with Statement of Financial Accounting Standards No. 72 (Statement 72), "Accounting for Certain Acquisitions of Banking and Thrift Institutions." Statement 72, which was not amended by Statement 142, requires that identified intangible assets and unidentified intangible assets associated with certain acquisitions of branches be amortized into expense. Accordingly, these intangible assets will continue to be amortized over their useful lives (generally 7 years). Management periodically reviews the useful lives of these assets and adjusts them downward where appropriate. The amortization expense associated with these branches was $1.7 million and $2.0 million for the six months ended June 30, 2002 and 2001, respectively. There was no change in the gross carrying amount of unamortized goodwill at June 30, 2002 compared to December 31, 2001. 7 Amortization expense on identified amortizing intangible assets totaled $1.7 million and $2.0 million for the six months ended June 30, 2002 and 2001, respectively. Amortization expense on goodwill for the six months ended June 30, 2001 was $102,000. The estimated amortization expense for intangible assets for the years ended December 31, 2002, 2003, 2004, 2005 and 2006 and thereafter is as follows: Estimated (Dollars in thousands) Amortization Expense -------------------------------------------------------------------------------- 2002 $ 3,183 2003 $ 2,489 2004 $ 1,854 2005 $ 1,260 2006 $ 640 2007 and after $ 161 --------------- Total $ 9,587 =============== The actual amortization expense in future periods may be subject to change based on changes in the useful life of the assets and expectations for loan prepayments. The following table presents the adjusted effect on net income and net income per share excluding the amortization of goodwill for the six months ended June 30, 2002 and 2001 and for the years ended December 31, 2001, 2000 and 1999:

8 Reclassifications Certain prior period balances have been reclassified to conform to the current period presentation. Such reclassifications had no effect on net income or shareholders' equity as previously reported. SOUTHERN BANCSHARES (N.C.), INC. AND SUBSIDIARIES Notes to consolidated financial statements Dollars in thousands

Note 4. ALLOWANCE FOR LOAN LOSSES

9 Note 5. Earnings Per Common Share Earnings per common share are computed by dividing income applicable to common shares by the weighted average number of common shares outstanding during the period. Income applicable to common shares represents net income reduced by dividends paid to preferred shareholders. Since BancShares had no potentially dilutive securities during 2002 or 2001, the computation of basic and diluted earnings per share is the same. The following table presents the components of the earnings per share computations: Note 5. EARNINGS PER COMMON SHARE

Note 6. Related Parties BancShares has entered into various service contracts with another bank holding company (the "Corporation") and its subsidiary. The Corporation has two significant shareholders, who also are significant shareholders of BancShares. The first significant shareholder is a director of BancShares and, at June 30, 2002, beneficially owned 32,856 shares, or 28.79%, of BancShares' outstanding common stock and 4,966 shares, or 1.38%, of BancShares' outstanding Series B preferred stock. At the same date, the second significant shareholder beneficially owned 27,422 shares, or 24.03%, of BancShares' outstanding common stock. These two significant shareholders are directors and executive officers of the Corporation and at June 30, 2002, beneficially owned 2,529,080 shares, or 28.75%, and 1,404,121 shares, or 15.96%, of the Corporation's outstanding Class A common stock, and 650,678 shares, or 38.66%, and 199,052 shares, or 11.83%, of the Corporation's outstanding Class B common stock. The above totals include 472,855 Class A common shares, or 5.38%, and 104,644 Class B Common shares, or 6.22%, that are considered to be beneficially owned by both of the shareholders and, therefore, are included in each of their totals. A subsidiary of the Corporation is First-Citizens Bank & Trust Company ("First Citizens"). In May 2001 Southern sold its $3.2 million credit card portfolio to First Citizens, recording a gain of approximately $250,000 on the sale. Southern continues to offer its customers a credit card with the Southern Bank brand through First Citizens but the loans are owned by First Citizens. The following table lists the various charges paid to the Corporation during the six months ended June 30, 2002 and the six months ended June 30, 2001:

10 Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations. SOUTHERN BANCSHARES (N.C.), INC. AND SUBSIDIARIES MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS - SIX MONTHS ENDED 2002 VS. SIX MONTHS ENDED 2001 INTRODUCTION The net income of BancShares decreased approximately $1.6 million from $5.4 million in the first six months of 2001 to $3.8 million in the first six months of 2002, a decrease of 29.47%. This decrease resulted primarily from $4.6 million of gains on available-for-sale securities in 2001 that exceeded securities gains of $778,000 recorded in 2002. Increased support staff and the opening of a new home office in September 2001 resulted in increased operating expenses for the six months ended June 30, 2002. The opening of a new branch in January 2002 resulted in increased net interest income, increased noninterest income, increased personnel expense and increased operating expenses for the six months ended June 30, 2002. Per share net income available to common shares for the first six months of 2002 was $31.75, a decrease of $13.53, or 29.88%, from $45.28 for the first six months of 2001. The annualized return on average equity decreased to 10.84%, for the period ended June 30, 2002, from 11.49% for the period ended June 30, 2001 and the annualized return on average assets decreased to 0.89%, for the period ended June 30, 2002, from 0.90% for the period ended June 30, 2001. At June 30, 2002, BancShares' assets totaled $854.1 million, a decrease of $1.1 million, or 0.13%, from the $855.2 million reported at December 31, 2001. During this six month period, cash and due from banks increased $4.0 million, or 9.73% from $40.8 million to $44.8 million. During this six month period, overnight funds sold decreased $9.9 million, or 44.18% from $22.4 million to $12.5 million. During this six month period, loans increased $15.9 million, or 2.91%, from $545.3 million to $561.2 million. During the six months ended June 30, 2002 investment securities decreased $7.9 million, or 4.03% from $204.3 million at December 31, 2001 to $196.4 million at June 30, 2002. Total deposits decreased $6.4 million, or 0.86% from $738.7 million at December 31, 2001 to $732.3 million at June 30, 2002. The above changes resulted principally from the seasonal impact of the agricultural markets served by Southern. 11 CRITICAL ACCOUNTING POLICIES BancShares' significant accounting policies are set forth in note 1 of the consolidated financial statements in the annual report on Form 10-K. Of these significant accounting policies, BancShares considers its policy regarding the allowance for loan losses to be its single critical accounting policy, because it requires management's most subjective and complex judgments. In addition, changes in economic conditions can have a significant impact on the allowance for loan losses and therefore the provision for loan losses and results of operations. BancShares has developed appropriate policies and procedures for assessing the adequacy of the allowance for loan losses, recognizing that this process requires a number of assumptions and estimates with respect to its loan portfolio. BancShares' assessments may be impacted in future periods by changes in economic conditions, the impact of regulatory examinations, and the discovery of information with respect to borrowers which is not known to management at the time of the issuance of the consolidated financial statements. For additional discussion concerning BancShares' allowance for loan losses and related matters, see ASSET QUALITY AND PROVISION FOR LOAN LOSSES. ACQUISITIONS AND CONSOLIDATIONS Southern did not acquire any additional locations or close and consolidate any existing locations in the six months ended June 30, 2002 or 2001. Southern did open one additional location in an existing market in January 2002. Southern has signed an agreement with RBC Centura Bank to purchase an existing RBC Centura branch in Scotland Neck, North Carolina. This purchase, subject to regulatory approval, is expected to be completed in the fourth quarter of 2002 and is expected to increase Southern's deposits by approximately $24.5 million and is expected to increase Southern's loans by approximately $5.9 million. Southern expects to pay approximately $2.8 million for this acquisition. Southern has received regulatory approval to close and consolidate its existing limited service office in Turkey, North Carolina. Southern has a full service Branch located 3.5 miles West and a full service Branch located 5 miles East of the Turkey limited service office. Southern expects to close and consolidate this limited service office in the third quarter of 2002. Southern has also received regulatory approval to close and consolidate its existing limited service office in Calypso, North Carolina. Southern has a full service Branch located 4.0 miles South and a full service Branch located 3.8 miles North of the Calypso limited service office. Southern expects to close and consolidate this limited service office in the fourth quarter of 2002. 12 INTEREST INCOME Interest and fees on loans decreased $1.6 million, or 7.39%, from $21.9 million for the six months ended June 30, 2001 to $20.2 million for the six months ended June 30, 2002. This decrease resulted from lower loan portfolio yields due to the declining interest rate environment in 2001. Average loans for the six months ended June 30, 2002 were $544.1 million, an increase of 6.48% from $511.0 million for the prior year period. This increase in average loans was principally the result of growth within existing branches and one new branch opened in Rocky Mount, North Carolina in January 2002. The yield on the loan portfolio was 7.50% for the six months ended June 30, 2002 and 8.50% for the six months ended June 30, 2001. Interest income from investment securities, including U.S. Treasury and Government obligations, obligations of state and county subdivisions and other securities decreased $962,000 or 17.36%, and totaled $4.6 million in the six months ended June 30, 2002 and $5.5 million in the six months ended June 30, 2001. This decrease was due to a decrease in the yield on the investment portfolio that more than offset an increase in the volume of average investment securities. Investment securities for the six months ended June 30, 2002 was $204.6 million compared to $188.6 million for the same 2001 period. The increase in volume principally resulted from deposit growth. The yield on investment securities was 5.91% for the six-month period ended June 30, 2001 and 4.94% for the six-month period ended June 30, 2002. Interest income on overnight funds sold decreased $439,000, or 63.17% from $695,000 for the six months ended June 30, 2001 to $256,000 for the six months ended June 30, 2002. This decrease in income resulted from both a decrease in the average overnight funds sold to $16.2 million for the six months ended June 30, 2002 from an average of $27.4 million for the six months ended June 30, 2001 and a decrease in the yield on overnight funds. The decrease in average overnight funds resulted from an increase in loans. Average overnight funds sold yields decreased to 1.66% for the six months ended June 30, 2002 from 5.04% for the six months ended June 30, 2001. Total interest income decreased $3.0 million or 10.74%, from $28.1 million for the six months ended June 30, 2001 to $25.1 million for the six months ended June 30, 2002. This decrease was the result of a 106 basis point decrease in average earning asset yields that more than offset an increase of $34.5 million in average earning assets. As a result of the overall decline in market rates, average earning asset yields for the six months ended June 30, 2002 decreased to 6.64% from the 7.70% yield on average earning assets for the six months ended June 30, 2001. Average earning assets increased from $727.0 million in the six months ended June 30, 2001 to $761.5 million in the six months ended June 30, 2002. This $34.5 million increase in the average earning assets resulted primarily from existing branches and the opening of one new branch in Rocky Mount, North Carolina in January 2002. 13 INTEREST EXPENSE Total interest expense decreased $6.1 million, or 43.09%, from $14.2 million in the six months ended June 30, 2001 to $8.1 million for the six months ended June 30, 2002. The principal reasons for this decrease were declines in the cost of funds for both deposit and short-term borrowings. As a result of the overall decline in market rates, BancShares' total cost of funds decreased from 4.44% for the six months ended June 30, 2001 to 2.50% for the six months ended June 30, 2002. Average interest-bearing deposits were $612.6 million in the six months ended June 30, 2002, an increase of $12.7 million from the $599.9 million average in the six months ending June 30, 2001. The increase in interest-bearing deposits was primarily the result of growth within existing branches and the opening of one new branch in January 2002. NET INTEREST INCOME Net interest income before provision for loan losses was $17.0 million for the six months ended June 30, 2002 and $13.9 million for the six months ended June 30, 2001. The interest rate spread for the six months ended June 30, 2002 was 4.14%, an increase of 87 basis points from the 3.27% interest rate spread for the six months ended June 30, 2001. The increase in the interest rate spread was primarily due to the average rate on interest-bearing liabilities repricing downward more than the average yield on interest-earning assets which had experienced most of its market related adjustments in 2001. ASSET QUALITY AND PROVISION FOR LOAN LOSSES For the six months ended June 30, 2002 management recorded $900,000 as a provision for loan losses. Management made a $400,000 addition to the provision for loan losses for the six months ended June 30, 2001. Management increased the provision in consideration of the continued recessionary economy and the increase in net loan charge offs for the six months ended June 30, 2002 compared to the six months ended June 30, 2001. During the first six months of 2002 management charged-off loans totaling $404,000 and received recoveries of $87,000, resulting in net charge-offs of $317,000. During the same period in 2001, $351,000 in loans were charged-off and recoveries of $58,000 were received, resulting in net charge-offs of $293,000. The ratio of charge-offs to average loans increased from 0.10% for the year ended December 31, 2001 to an annualized 0.12% for the six months ended June 30, 2002. For the six months ended June 30, 2002 $900,000 was added to the allowance for loan losses through charges to the operations of BancShares. The allowance for loan losses accordingly increased $583,000 from December 31, 2001. The following table presents comparative Asset Quality ratios of BancShares: 14

The allowance for loan losses represented 1.46% of gross loans at June 30, 2002. The allowance for loan losses represented 1.40% of gross loans at December 31, 2001. The allowance for loan losses to loans ratio was impacted by management's decision to increase the provision for loan losses due to continued declines in economic conditions, an overall increase in the commercial loan portfolio and an overall reduction in the mortgage loan portfolio. Loans increased $15.9 million, or 2.91% from $545.3 million at December 31, 2001 to $561.2 million at June 30, 2002. During the second quarter of 2001 BancShares sold its credit card portfolio. The allowance related to this portfolio was $95,000 at the time of sale in 2001. See the table above for the effect of the sale on the allowance. The ratio of nonperforming loans to total loans, decreased from 0.37% at December 31, 2001 to 0.25% at June 30, 2002. Nonperforming loans and assets to total assets decreased to 0.17% at June 30, 2002 from 0.24% at December 31, 2001. The allowance for loan losses to nonperforming loans represented 596.88% of nonperforming loans at June 30, 2002, an increase from the 381.80% at December 31, 2001. The above performance improvements resulted primarily from a decrease in nonperforming loans to $1.4 million at June 30, 2002 from $1.9 million at December 31, 2001. The nonperforming loans at June 30, 2002 included $427,000 of nonaccrual loans, $950,000 of accruing loans 90 days or more past due and no restructured loans. The nonperforming loans at December 31, 2001 included $407,000 of nonaccrual loans, $1.6 million of accruing loans 90 days or more past due and $28,000 of restructured loans. BancShares had $80,000 of assets classified as other real estate at June 30, 2002. BancShares had $64,000 of assets classified as other real estate at December 31, 2001. Other real estate is recorded at the lower of cost or fair value less estimated costs to sell. Subsequent costs directly related to development and improvement of property are capitalized, whereas costs relating to holding the property are expensed. Management considers the June 30, 2002 allowance for loan losses to be adequate to cover the losses and risks inherent in the loan portfolio at June 30, 2002 and will continue to monitor its portfolio and to adjust the relative level of the allowance as needed. BancShares' had impaired loans of $282,000 at June 30, 2002 compared to $197,000 at December 31, 2001 and no additional allowances for loan losses were required for these impaired loans. 15 Management actively maintains a current loan watch list and knows of no other loans which are material and (i) represent or result from trends or uncertainties which management reasonably expects will materially impact future operating results, liquidity or capital resources, or (ii) represent material credits about which management is aware of any information which causes management to haveserious doubts as to the ability of such borrowers to comply with the loan repayment terms. Management believes it has established the allowance in accordance with generally accepted accounting principles and in consideration of the current economic environment. While management uses the best information available to make evaluations, future adjustments may be necessary if economic and other conditions differ substantially from the assumptions used. In addition, various regulatory agencies, as an integral part of their examination process, periodically review Southern's allowance for loan losses and losses on other real estate owned. Such agencies may require Southern to recognize adjustments to the allowances based on the examiners' judgments about information available to them at the time of their examinations. NONINTEREST INCOME During the six months ended June 30, 2002, BancShares realized a $3.9 million decrease in noninterest income primarily as a result of $4.6 million in gains on the sales of available-for-sale investment securities in the six months ended June 30, 2001 compared to $778,000 in gains on the sales of available-for-sale investment securities in the six months ended June 30, 2002. In May 2001 Southern sold its $3.2 million credit card portfolio, recording a gain of approximately $250,000 on the sale. Service charges on deposit accounts for the six months ended June 30, 2002 increased $132,000 and other service charges and fees for the six months ended June 30, 2002 increased $89,000 over the six months ended June 30, 2001 primarily as a result of growth within the existing branches and the opening of one new branch in January 2002. NONINTEREST EXPENSE Noninterest expense increased $342,000 or 2.32%, from $14.7 million in the six months ended June 30, 2001 to $15.1 million in the six months ended June 30, 2002. 16 This increase was primarily due to an increase in personnel expense of $520,000, or 7.51%, from $6.9 million at June 30, 2001 to $7.4 million at June 30, 2002 and increased occupancy and furniture and equipment expense resulting principally from the opening of a new branch in January 2002 offset by a $432,000 reduction in intangibles amortization. The decrease in intangibles amortization expense principally resulted from the reduction of expense related to amortizing intangibles of $330,000 and the absence of amortization expense related to goodwill from the adoption of Statement 142 (see note 1 to Consolidated Financial Statements), which resulted in a reduction of $102,000 for the six months ending June 30, 2002 compared to the six months ending June 30, 2001. INCOME TAXES In the six months ended June 30, 2002, BancShares had income tax expense of $1.5 million, a decrease of $100,000 from $1.6 million in the prior year period. The majority of this decrease is due to the decline in gains realized on available-for-sale securities sales in the six months ended June 30, 2002 compared to 2001 which was offset by an increase in the effective tax rate. The resulting estimated effective tax rate for the six months ended June 30, 2002 was 28.84% compared to 23.34% for the six months ended June 30, 2001. The effective rate for the six months ended June 30, 2002 increased compared to the effective rate for the six months ended June 30, 2001 primarily due to a lower proportion of non-taxable investments. The effective tax rates in 2002 and 2001 differ from the federal statutory rate of 34.00% primarily due to tax exempt income. 17 SOUTHERN BANCSHARES (N.C.), INC. AND SUBSIDIARIES MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS - SECOND QUARTER OF 2002 VS. SECOND QUARTER OF 2001 INTRODUCTION Net income of BancShares increased $988,000, or 83.38%, and was $1.2 million in the three months ended June 30, 2001 and $2.2 million in the three months ended June 30, 2002. The increase in net income for the quarter ended June 30, 2002 resulted principally from increased net interest income. Per share net income available to common shares for the three months ended June 30, 2002 was $18.27, an increase of $8.74, or 91.71%, from $9.53 in the three months ended June 30, 2001. ACQUISITIONS AND CONSOLIDATIONS Southern had no acquisitions in the three months ended June 30, 2001 or the three months ended June 30, 2002. Southern did not close and consolidate any locations in the three months ended June 30, 2001 or the three months ended June 30, 2002. INTEREST INCOME Interest and fees on loans decreased $811,000, or 7.39%, from $11.0 million for the quarter ended June 30, 2001 to $10.2 million for the quarter ended June 30, 2002. This decrease was due to lower 2002 interest rates, which more than offset the increase in average interest earning assets. Average loans for the quarter ended June 30, 2002 were $550.7 million, an increase of 5.54% from $521.8 million for the prior year quarter. The yield on the loan portfolio was 8.38% for the three months ended June 30, 2001 and 7.38% for the three months ended June 30, 2002. Interest income from investment securities, including U. S. Treasury and Government obligations, obligations of state and county subdivisions and other securities decreased $501,000, or 18.11%, from $2.8 million in the three months ended June 30, 2001 to $2.3 million in the three months ended June 30, 2002. This decrease was due to lower yields. Loan growth resulted in decreased average investment securities for the quarter ended June 30, 2002 to $186.1 million as compared to $188.5 million for the same 2001 quarter. The yield on investment securities was 5.92% for the quarter ended June 30, 2001 and 4.92% for the quarter ended June 30, 2002. 18 Interest income on overnight funds sold decreased $172,000, or 59.93%, from $287,000 for the quarter ended June 30, 2001 to $115,000 for the quarter ended June 30, 2002. This decrease in income resulted from a decrease in rates that more than offset the effect of an increase in average overnight funds. The volume increase resulted primarily from increased deposits. The average overnight funds sold was $24.3 million for the quarter ended June 30, 2001 compared to an average of $25.4 million for the quarter ended June 30, 2002. Average overnight federal funds sold yields were 1.79% for the quarter ended June 30, 2002 down from 4.66% for the quarter ended June 30, 2001. Total interest income decreased $1.5 million, or 10.58%, from $14.0 million for the quarter ended June 30, 2001 to $12.5 million for the quarter ended June 30, 2002. This decrease was primarily the result of decreased average earning asset yields. Average earning asset yields for the quarter ended June 30, 2002 decreased to 6.60% from the 7.62% yield on average earning assets for the quarter ended June 30, 2001. Average earning assets increased from $734.6 million in the quarter ended June 30, 2001 to $763.2 million in the quarter ended June 30, 2002. This $28.6 million increase in the average earning assets resulted primarily from growth within existing branches and the opening of one new branch in January 2002. INTEREST EXPENSE Total interest expense decreased $3.0 million or 43.86%, from $6.8 million in the three months ended June 30, 2001 to $3.8 million for the second quarter ended June 30, 2002. The principal reason for this decrease was lower costs of both deposits and short-term borrowings. NET INTEREST INCOME Net interest income before provision for loan losses was $8.7 million for the three months ended June 30, 2002 and $7.2 million for the three months ended June 30, 2001. The interest rate spread for the quarter ended June 30, 2002 was 4.23%, an increase of 86 basis points from the 3.37% interest rate spread for the quarter ended June 30, 2001. The increase in the interest rate spread was primarily due to the average rate on interest-bearing liabilities repricing downward more than the average yield on interest-earning assets which had experienced most of its market related adjustments in 2001. 19 ASSET QUALITY AND PROVISION FOR LOAN LOSSES For the three months ended June 30, 2002 management recorded $450,000 as a provision for loan losses. Management recorded a $250,000 provision for loan losses for the quarter ended June 30, 2001. Management increased the provision in consideration of loan growth and the continued overall recession of the economy. During the three months ended June 30, 2002 management charged-off loans totaling $238,000 and received recoveries of $41,000, resulting in net charge-offs for the three months ended June 30, 2002 of $197,000. During the three months ended June 30, 2001, $345,000 in loans were charged-off and recoveries of $20,000 were received, resulting in net charge-offs of $325,000 for the three months ended June 30, 2001. NONINTEREST INCOME During the three months ended June 30, 2002, BancShares' noninterest income increased $120,000 principally as a result of the sale of available-for-sale securities. Service charges on deposit accounts for the three months ended June 30, 2002 increased $38,000 and other service charges and fees for the three months ended June 30, 2002 increased $54,000 from the three months ended June 30, 2001 primarily as a result of growth within the existing branches. The decrease in other income for the three months ended June 30, 2002 compared to the three months ended June 30, 2001 is primarily the result of the 2001 sale of the credit card loan portfolio for a gain of approximately $250,000. NONINTEREST EXPENSE Noninterest expense including personnel, occupancy, furniture and equipment, data processing, FDIC insurance, state assessments, printing, supplies and other expenses, increased $124,000 or 1.67%, from $7.4 million in the three months ended June 30, 2001 to $7.6 million in the three months ended June 30, 2002. This increase was primarily due to an increase in personnel expense of $242,000, or 6.93%, from $3.5 million for the quarter ended June 30, 2001 to $3.7 million for the quarter ended June 30, 2002 and increased occupancy and furniture and equipment expense resulting principally from the opening of one new branch in January 2002. 20 INCOME TAXES In the three months ended June 30, 2002, BancShares had income tax expense of $910,000, an increase of $320,000 from $590,000 in the prior year quarter. This increase is due primarily to increased earnings as the estimated effective tax rate decreased to 29.52% for the quarter ended June 30, 2002 from 33.24% for the quarter ended June 30, 2001. The effective tax rate for the quarters ended June 30, 2002 and 2001 differ from the federal statutory rate of 34.00% primarily due to tax exempt income. SHAREHOLDERS' EQUITY AND CAPITAL ADEQUACY Sufficient levels of capital are necessary to sustain growth and absorb losses. Southern Capital Trust I (the "Trust"), a statutory business trust issued $23.0 million of 8.25% Capital Securities ("the Capital Securities") in June 1998 maturing in 2028. The Trust invested the $23.0 million proceeds in Junior Subordinated Debentures issued by BancShares (the "Junior Debentures"), which upon consolidation of BancShares are eliminated. The Junior Debentures are the primary assets of the Trust. BancShares irrevocably and unconditionally guarantees the Trust's obligations. BancShares contributed Capital Securities proceeds of $12.0 million to Southern which are included in Tier I capital for Southern's regulatory capital adequacy requirements. BancShares has similar regulatory capital adequacy requirements as Southern and is in compliance with those capital adequacy requirements at June 30, 2002. The Federal Reserve Board, which regulates BancShares, and the Federal Deposit Insurance Corporation, which regulates Southern, have established minimum capital guidelines for the institutions they supervise. Regulatory guidelines define minimum requirements for Southern's leverage capital ratio. Leverage capital equals total equity less goodwill and certain other intangibles and is measured relative to total adjusted assets as defined by regulatory guidelines. According to these guidelines, Southern's leverage capital ratio at June 30, 2002 was 7.93%. At December 31, 2001, Southern's leverage capital ratio was 7.37%. Both of these ratios are greater than the level designated as "well capitalized" by the FDIC. Southern is also required to meet minimum requirements for Risk Based Capital ("RBC"). Southern's assets, including loan commitments and other off-balance sheet items, are weighted according to federal guidelines for the risk considered inherent in each asset. At June 30, 2002, Southern's Total RBC ratio was 13.39%. At December 31, 2001 the RBC ratio was 12.92%. Both of these ratios are greater than the level designated as "well capitalized" by the FDIC. 21 The regulatory capital ratios above reflect increases in assets and liabilities from acquisitions Southern has made. Each acquisition resulted in BancShares recording intangible assets in its consolidated financial statements, which are deducted from total equity in the ratio calculations. The accumulated other comprehensive income was $12.8 million at June 30, 2002, and $10.1 million at December 31, 2001. Accumulated other comprehensive income consists entirely of unrealized gains on securities available-for-sale, net oftaxes. Although a part of total shareholders' equity, accumulated other comprehensive income is not included in the calculation of either the RBC or leverage capital ratios pursuant to regulatory definitions of these capital requirements. The following table presents capital adequacy calculations and ratios of Southern:

(1) These ratios exceed the minimum ratios required for a bank to be classified as "well capitalized" as defined by the FDIC. At June 30, 2002 and December 31, 2001, BancShares was also in compliance with its regulatory capital requirements and all of its regulatory capital ratios exceeded the minimum ratios required by the regulators to be classified as "well capitalized." LIQUIDITY Liquidity refers to the ability of Southern to generate sufficient funds to meet its financial obligations and commitments at a reasonable cost. Maintaining liquidity ensures that funds will be available for reserve requirements, customer demand for loans, withdrawal of deposit balances and maturities of other deposits and liabilities. Past experiences help management anticipate cyclical demands and amounts of cash required. These obligations can be met by existing cash reserves or funds from maturing loans and investments, but in the normal course of business are met by deposit growth. In assessing liquidity, many relevant factors are considered, including stability of deposits, quality of assets, economy of the markets served, business concentrations, competition and BancShares' overall financial condition. BancShares' liquid assets include cash and due from banks, overnight funds sold and investment securities available-for-sale. The liquidity ratio, which is defined as cash plus short term available-for-sale securities divided by deposits plus short term liabilities, was 20.64% at June 30, 2002 and 26.33% at December 31, 2001. 22 The Statement of Cash Flows discloses the principal sources and uses of cash from operating, investing and financing activities for the six months ended June 30, 2002 and for the six months ended June 30, 2001. Southern has no brokered deposits. Jumbo time deposits are considered to include all time deposits of $100,000 or more. Southern has never aggressively bid on these deposits. Almost all jumbo time deposit customers have other relationships with Southern, including savings, demand and other time deposits, and in some cases, loans. At June 30, 2002 jumbo time deposits represented 13.27% of total deposits. At December 31, 2001 jumbo time deposits represented 14.23% of total deposits. Management believes that BancShares has the ability to generate sufficient amounts of cash to cover normal requirements and any additional needs which may arise, within realistic limitations, and management is not aware of any known demands, commitments or uncertainties that will affect liquidity in a material way. BancShares has obligations under existing contractual obligations that will require payments in future periods. The following table presents aggregated information about such payments to be made in future periods. Transaction deposit accounts with indeterminate maturities have been classified as having payments due in less than one year. CONTRACTUAL OBLIGATIONS As of June 30, 2002 (In thousands)

23 ACCOUNTING AND OTHER MATTERS In July 2001, the FASB issued Statement of Financial Accounting Standards No. 141 (Statement 141), "Business Combinations," and Statement of Financial Accounting Standards No. 142 (Statement 142), "Goodwill and Other Intangible Assets." Statement 141 requires that the purchase method of accounting be used for all business combinations initiated after June 30, 2001. Statement 141 also specifies criteria which must be met for intangible assets acquired in a purchase method business combination to be recognized and reported apart from goodwill. Statement 142 will require that goodwill and intangible assets with indefinite useful lives no longer be amortized, but instead tested for impairment at least annually in accordance with the provisions of Statement 142. Statement 142 will also require that identifiable intangible assets with definite useful lives be amortized over their respective estimated useful lives to their estimated residual values, and reviewed for impairment in accordance with Statement 121, "Accounting for the Impairment of Long-Lived Assets and for Long-Lived Assets to Be Disposed Of." BancShares adopted the provisions of Statement 141 as of June 30, 2001 and fully adopted Statement 142 effective January 1, 2002. Goodwill and intangible assets acquired in business combinations completed before July 1, 2001 continued to be amortized in 2001 prior to the adoption of Statement 142 on January 1, 2002. Statement 141 requires, upon adoption of Statement 142, that BancShares evaluate its existing intangible assets and goodwill that were acquired in a prior purchase business combination, and to make any necessary reclassifications in order to conform with the new criteria in Statement 141 for recognition apart from goodwill. Upon adoption of Statement 142, BancShares was required to reassess the useful lives and residual values of all identifiable intangible assets acquired in purchase business combinations. As of June 30, 2002, BancShares had intangible assets totaling $8.3 million. Management evaluated BancShares's existing intangible assets and goodwill as of January 1, 2002 and has made appropriate reclassifications in order to conform to the new criteria in Statement 141 for recognition apart from goodwill, as further described below. BancShares determined that upon adoption of Statement 142 on January 1, 2002, BancShares had $229,000 of goodwill that will no longer be amortized beginning in 2002. The amortization expense associated with this goodwill during the six months ended June 30, 2001 was $102,000. In accordance with Statement 142, BancShares performed a transitional impairment test of this goodwill in the first six months of 2002, and will perform an annual impairment test of the goodwill in 2002 and hereafter. 24 In October 2001, the Financial Accounting Standards Board (FASB) issued Statement of Financial Accounting Standards No. 144 (Statement 144), "Accounting for the Impairment or Disposal of Long-Lived Assets," which addresses financial accounting and reporting for the impairment or disposal of long-lived assets. This standard provides guidance on differentiating between long-lived assets to be held and used, long-lived assets to be disposed of other than bysale and long-lived assets to be disposed of by sale. Statement 144 supersedes FASB Statement of Financial Accounting Standards No. 121, "Accounting for the Impairment of Long-Lived Assets and for Long-Lived Assets to Be Disposed Of." Statement 144 also supersedes Accounting Principals Board Opinion No. 30, "Reporting the Results of Operations - Reporting the Effects of Disposal of a Segment of a Business, and Extraordinary, Unusual and Infrequently Occurring Events and Transactions." This statement is effective for fiscal years beginning after December 15, 2001. BancShares adoption of this statement on January 1, 2002 did not have a material effect on its consolidated financial statements. In June 2002, the FASB issued Statement of Financial Accounting Standards No. 146 (Statement 146), "Accounting for Costs Associated with Exit or Disposal Activities," which addresses financial accounting and reporting for costs associated with exit or disposal activities and nullifies Emerging Issues Task Force (EITF) Issue No. 94-3, "Liability Recognition for Certain Employee Termination Benefits and Other Costs to Exit an Activity (including Certain Costs Incurred in a Restructuring)." This Statement applies to costs associated with an exit activity that does not involve an entity newly acquired in a business combination or with a disposal activity covered by FASB Statement No. 144, Accounting for the Impairment or Disposal of Long-Lived Assets. Those costs include, but are not limited to, the following: a) termination benefits provided to current employees that are involuntarily terminated under the terms of a benefit arrangement that, in substance, is not an ongoing benefit arrangement or an individual deferred compensation contract (hereinafter referred to as one-time termination benefits), b) costs to terminate a contract that is not a capital lease and c) costs to consolidate facilities or relocate employees. This Statement does not apply to costs associated with the retirement of a long-lived asset covered by FASB Statement No. 143, Accounting for Asset Retirement Obligations. A liability for a cost associated with an exit or disposal activity shall be recognized and measured initially at its fair value in the period in which the liability is incurred. A liability for a cost associated with an exit or disposal activity is incurred when the definition of a liability is met. The provisions of this Statement are effective for exit or disposal activities that are initiated after December 31, 2002, with early application encouraged. The impact of adoption on BancShares is not known at this time. The FASB also issues exposure drafts for proposed statements of financial accounting standards. Such exposure drafts are subject to comment from the public, to revisions by the FASB and to final issuance by the FASB as statements of financial accounting standards. Management considers the effect of the proposed statements on the consolidated financial statements of BancShares and monitors the status of changes to issued exposure drafts and to proposed effective dates. 25 OTHER MATTERS Southern has signed an agreement with RBC Centura Bank to purchase an existing RBC Centura Branch in Scotland Neck, North Carolina. This purchase, subject to regulatory approval, is expected to be completed in the fourth quarter of 2002 and is expected to increase Southern's deposits by approximately $21.8 million and isexpected to increase Southern's loans by approximately $5.6 million. Southern expects to pay approximately $2.5 million for this acquisition. Southern has received regulatory approval to close and consolidate its existing limited service office in Turkey, North Carolina. Southern has a full service Branch located 3.5 miles West and a full service Branch located 5 miles East of the Turkey limited service office. Southern expects to close and consolidate this limited service office in the third quarter of 2002. Southern has also received regulatory approval to close and consolidate its existing limited service office in Calypso, North Carolina. Southern has a full service Branch located 4.0 miles South and a full service Branch located 3.8 miles North of the Calypso limited service office. Southern expects to close and consolidate this limited service office in the fourth quarter of 2002. Management is not aware of any other trends, events, uncertainties or current recommendations by regulatory authorities that will have or that are reasonably likely to have a material effect on BancShares' liquidity, capital resources or other operations. Item 3 - Quantitative and Qualitative Disclosures About Market Risk: Market risk reflects the risk of economic loss resulting from adverse changes in market price and interest rates. This risk of loss can be reflected in either diminished current market values or reduced potential net interest income in future periods. BancShares' market risk arises primarily from interest rate risk inherent in its lending and deposit taking activities. The structure of BancShares' loan and deposit portfolios is such that a significant increase in the prime rate may adversely impact net interest income. Historical prepayment experience is considered as well as management's expectations based on the interest rate environment as of June 30, 2002. Management seeks to manage this risk through the use of shorter term maturities. The composition and size of the investment portfolio is managed so as to reduce the interest rate risk in the deposit and loan portfolios while at the same time maximizing the yield generated from the investment portfolio. 26 The table below presents in tabular form the contractual balances and the estimated fair value of financial instruments at their expected maturity dates as of June 30, 2002. The expected maturity categories take into consideration historical prepayment experience as well as management's expectations based on the interest rate environment as of June 30, 2002. For core deposits without contractual maturity (i.e., interest bearing checking, savings and money market accounts), the table presents principal cash flows as maturing in 2003 since they are subject to immediate repricing. Weighted average variable rates in future periods are based on the implied forward rates in the yield curve as of June 30, 2002. The overall estimated fair market value of financial instruments, as compared to statement amounts have decreased at June 30, 2002 as compared to December 31, 2001. Overall loan maturities are shorter, deposit maturities are longer and overall rates have declined significantly at June 30, 2002.

COMMITMENTS, CONTINGENCIES AND OFF-BALANCE SHEET RISK In the normal course of business there are various commitments and contingent liabilities outstanding, such as guarantees, commitments to extend credit, etc., which are not reflected in the accompanying financial statements. Southern is party to financial instruments with off-balance-sheet risk in the normal course of business to meet the financing needs of its customers and to reduce its own exposure to fluctuations in interest rates. These financial instruments include commitments to extend credit, standby letters of credit and undisbursed advances on customer lines of credit. These instruments involve, to varying degrees, elements of credit and interest rate risk in excess of the amount recognized in the consolidated balance sheet. Southern is exposed to credit loss, in the event of nonperformance by the other party to the financial instrument, for commitments to extend credit and standby letters of credit which is represented by the contractual notional amount of those instruments. Southern uses the same credit policies in making these commitments and conditional obligations as it does for on-balance-sheet instruments. 27 Commitments to extend credit and undisbursed advances on customer lines of credit are agreements to lend to a customer as long as there is no violation of any condition established in the contract. Commitments generally have fixed expiration dates or other termination clauses and may require payment of a fee. Since many commitments expire without being drawn, the total commitment amounts do not necessarily represent future cash requirements. Southern evaluates each customer's credit worthiness on a case-by-case basis. The amount of collateral obtained, if deemed necessary by Southern, upon extension of credit is based on management's credit evaluation of the borrower. Collateral held varies but may include trade accounts receivable, property, plant, and equipment and income-producing commercial properties. Standby letters of credit are commitments issued by Southern to guarantee the performance of a customer to a third party. The credit risk involved in issuing letters of credit is essentially the same as that involved in extending loans to customers. Outstanding standby letters of credit as of June 30, 2002 and December 31, 2001amounted to $2.3 million and $2.1 million. Outstanding commitments to lend at June 30, 2002 and December 31, 2001 were $158.2 million and $154.6 million. Undisbursed advances on customer lines of credit at June 30, 2002 and December 31, 2001 were $48.6 million and $45.9 million. Outstanding standby letters of credit and commitments to lend at June 30, 2002 generally expire within one year, whereas commitments associated with undisbursed advances on customer lines of credit at June 30, 2002 generally expire within one to five years. At June 30, 2002, commitments to sell loans amounted to $2.6 million. At December 31, 2001 commitments to sell loans amounted to $3.7 million. BancShares does not have any special purpose entities or other similar forms of off-balance sheet financing arrangements. Southern grants agribusiness, commercial and consumer loans to customers primarily in eastern North Carolina. Although Southern has a diversified loan portfolio, a substantial portion of its debtors' ability to honor their contracts is dependent upon the agricultural industry and in particular the tobacco segment thereof. For several decades tobacco has been under criticism for potential health risks. BancShares is also involved in various legal actions arising in the normal course of business. Management is of the opinion that the outcome of such actions will not have a material adverse effect on the consolidated financial condition of BancShares. 28 A principal objective of BancShares' asset/liability function is to manage interest rate risk or the exposure to changes in interest rates. Management maintains portfolios of interest-earning assets and interest-bearing liabilities with maturities or repricing opportunities that will protect against wide interest rate fluctuations, thereby limiting, to the extent possible, the ultimate interest rate exposure. The table below provides BancShares' interest-sensitivity position as of June 30, 2002, which reflected a one year negative interest-sensitivity gap of $268.7 million. As a result of this one year negative gap, increases in interest rates could have an unfavorable impact on net interest income. It should be noted that this analysis reflects BancShares' interest sensitivity as of a single point in time and may not reflect the effects of repricings of assets and liabilities in various interest rate environments. As a result of the overall low interest rate environment and customer expectations that the next move in interest rates by the Federal Reserve will be upward, the overall movement in deposits has been to shorter term maturities resulting in both the one-year negative interest sensitivity of financial instruments and the total cumulative negative interest sensitivity gap being slightly higher at June 30, 2002 as compared to December 31, 2001. INTEREST-SENSITIVITY ANALYSIS (Dollars in thousands, unaudited)

FORWARD-LOOKING STATEMENTS The foregoing discussion may contain statements that could be deemed forward-looking statements within the meaning of Section 21E of the Securities Exchange Act of 1934 and the Private Securities Litigation Reform Act, which statements are inherently subject to risks and uncertainties. Forward-looking statements are statements that include projections, predictions, expectations or beliefs about future events or results or otherwise are not statements of historical fact. Such statements are often characterized by the use of qualifiers such as "expect," "believe," "estimate," "plan," "project" or other statements concerning opinions or judgments of BancShares and its management about future events. Factors that could influence the accuracy of such forward-looking statements include, but are not limited to, the financial success or changing strategies of BancShares' customers, actions of government regulators, the level of market interest rates, and general economic conditions. 29 Part II - OTHER INFORMATION Item 4. Submission of Matters to a Vote of Security Holders On April 17, 2002 the annual meeting of shareholders was held. Seventeen Directors of BancShares were elected for terms of one year or until their respective successors are duly elected and qualified and KPMG LLP was ratified as BancShares' independent accountants for 2002.

RATIFICATION OF INDEPENDENT ACCOUNTANTS:

30 Item 6 - Exhibits: 3.1 Certificate of Incorporation and Certificate of Amendment to the Certificate of Incorporation of the Registrant (filed as exhibit 3.1 to the Registrant's Registration Statement on Form S-1 (No. 33-52107) filed May 7, 1998 and incorporated herein by reference) 3.2 Registrant's Bylaws (filed as exhibit 3.2 to the Registrant's Registration Statement on Form S-1 (No.33-52107) filed May 7, 1998 and incorporated herein by reference) 4 Southern Bank and Trust Company Indenture dated February 27, 1971 (filed as exhibit 4 to the Registrant's Registration Statement on Form S-14 (No. 2-78327) filed July 7, 1982 and incorporated herein by reference) 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. SOUTHERN BANCSHARES (N.C.), INC. August 12, 2002 /s/ John C. Pegram, Jr. --------------- ---------------------------------------- Date John C. Pegram, Jr., President and Chief Executive Officer August 12, 2002 /s/ David A. Bean ---------------- ---------------------------------------- Date David A. Bean, Secretary, Treasurer and Chief Financial Officer CERTIFICATION (Pursuant to 18 U.S.C. Section 1350) The undersigned hereby certifies that (i) the foregoing Quarterly Report on Form 10-Q filed by Southern BancShares (N.C.), Inc. (the "issuer") for the quarter ended June 30, 2002, fully complies with the requirements of section 13(a) or 15(d) of the Securities Exchange Act of 1934 and (ii) the information contained in that Report fairly presents, in all material respects, the financial condition and results of operations of the issuer on the dates and for the periods presented therein. Date: August 12, 2002 /s/ John C. Pegram, Jr. ---------------------------------------- John C. Pegram, Jr., President and Chief Executive Officer Date: August 12, 2002 /s/ David A. Bean ----------------------------------------- David A. Bean, Secretary, Treasurer and Chief Financial Officer

SOUTHERN BANCSHARES NC INC 10-Q