**UNITEDSTATESSECURITIES AND EXCHANGE COMMISSION**

**Washington,D.C. 20549**

 

**FORM 10- Q**

 

**(Mark One)**

 

| **ý** | ** ** | **QUARTERLY  REPORT PURSUANT TO SECTION 13 OR 15 (d) OF THE  SECURITIES EXCHANGE ACT OF 1934** |
|------------|------------|----------------------------------------------------------------------------------------------------------|
| ** ** | ** ** | ** **                                                                                               |
| ** ** | ** ** | **For the quarterly period ended June 30, 2005**                                                    |
| ** ** | ** ** | ** **                                                                                               |

 

**OR**

 

| **o**      |   | **TRANSITION  REPORT PURSUANT TO SECTION 13 OR 15 (d) OF THE  SECURITIES EXCHANGE ACT OF 1934**                                                                                                                                                                                             |
|------------|--------|-------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|
| ** ** |   | ** **                                                                                                                                                                                                                                                                                            |
| ** ** |   | **For the transition period from                         to                      ** |

 

**CommissionFile No:  0 - 14535**

 

**CITIZENSBANCSHARES CORPORATION**

(Exact name of registrant asspecified in its charter)

 

| **Georgia**                                                      | ** ** | **58 -  1631302**                  |
|------------------------------------------------------------------|------------|------------------------------------|
| (State or other  jurisdiction of  incorporation or organization) |       | (IRS Employer  Identification No.) |
|                                                             |       |                               |
| **175 John  Wesley Dobbs Avenue, N.E., Atlanta, Georgia**        | ** ** | **30303**                          |
| (Address of principal  executive offices)                        |       | (Zip Code)                         |

 

Registrant’s telephonenumber, including area code:  **(404)659 - 5959**

 

Indicate by check mark whether the registrant (1) has filed allreports required to be filed by Section 13 or 15 (d) of theSecurities Exchange Act of 1934 during the preceding 12 months (or for suchshorter period that the registrant was required to file such reports), and (2) hasbeen subject to such filing requirements for the past 90 days.  ý Yes      o No.

 

Indicate by check mark whether the registrant is an accelerated filer(as defined in Rule 12b-2 of the Exchange Act)  o Yes      ý No.

 

APPLICABLE ONLY TO ISSUERSINVOLVED IN BANKRUPTCYPROCEEDINGS DURING THE PRECEDING FIVE YEARS:

 

Indicate by check mark whether registrant has filed all documents andreports required to be filed by Sections 12, 13, or 15(d) of theSecurities Exchange Act of 1934 subsequent to the distribution of securitiesunder a plan confirmed by a court.  o Yes      o No.

 

| SEC 1296 (08-03) | ** ** | **Potential persons who are to respond to the collection  of information contained in this form are not required to respond unless the  form displays a currently valid OMB control number.** |
|------------------|------------|-----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|

 

APPLICABLE ONLY TO CORPORATEISSUERS:

 

Indicate the number of shares outstanding for each of the issuer’sclasses of common stock as of the latest practicable date: 1,996,887 shares ofCommon Stock, $1.00 par value and 90,000 shares of Non-Voting Common Stock,$1.00 par value outstanding on June 30, 2005.

 

 

----

 

**PART 1.     FINANCIALINFORMATION**

**ITEM 1.     Financialstatements**

**CITIZENSBANCSHARES CORPORATION AND SUBSIDIARIES**

** **

**CONSOLIDATEDBALANCE SHEETSJUNE 30, 2005 AND DECEMBER 31, 2004(In thousands, except share data)**

 
| ** **                                                                                                         | ** ** | **2005**        | ** ** | **2004**   | ** ** |
|--------------------------------------------------------------------------------------------------------------------|------------|-----------------|------------|------------|------------|
| ** **                                                                                                         | ** ** | **(Unaudited)** | ** ** | ** ** | ** ** |
| **ASSETS**                                                                                                         |       |            |       |       |       |
| Cash and due from banks                                                                                            |       | $               | 17,052     |       | $          | 10,875 |   |
| Interest-bearing deposits with banks                                                                               |       | 8,977           |       | 734        |       |
| Certificates of deposit                                                                                            |       | 100             |       | 800        |       |
| Investment securities available for sale,  at fair value                                                           |       | 64,122          |       | 74,687     |       |
| Investment securities held to maturity, at  cost                                                                   |       | 9,799           |       | 9,980      |       |
| Other investments                                                                                                  |       | 2,421           |       | 2,469      |       |
| Loans receivable, net                                                                                              |       | 206,391         |       | 207,354    |       |
| Premises and equipment, net                                                                                        |       | 7,965           |       | 8,379      |       |
| Cash surrender value of life insurance                                                                             |       | 8,955           |       | 8,740      |       |
| Foreclosed real estate, net                                                                                        |       | 747             |       | 1,430      |       |
| Other assets                                                                                                       |       | 5,561           |       | 5,936      |       |
|                                                                                                               |       |            |       |       |       |
| Total assets                                                                                                       |       | $               | 332,090    |       | $          | 331,384 |   |
|                                                                                                               |       |            |       |       |       |
| **LIABILITIES AND STOCKHOLDERS’ EQUITY**                                                                      | ** ** | ** **      | ** ** | ** ** | ** ** |
|                                                                                                               |       |            |       |       |       |
| LIABILITIES:                                                                                                       |       |            |       |       |       |
| Noninterest-bearing deposits                                                                                       |       | $               | 65,492     |       | $          | 57,539 |   |
| Interest-bearing deposits                                                                                          |       | 201,222         |       | 208,963    |       |
|                                                                                                               |       |            |       |       |       |
| Total deposits                                                                                                     |       | 266,714         |       | 266,502    |       |
|                                                                                                               |       |            |       |       |       |
| Accrued expenses and other liabilities                                                                             |       | 2,735           |       | 3,056      |       |
| Notes payable                                                                                                      |       | 440             |       | 540        |       |
| Junior subordinated debentures                                                                                     |       | 5,155           |       | 5,155      |       |
| Advances from Federal Home Loan Bank                                                                               |       | 30,500          |       | 30,250     |       |
|                                                                                                               |       |            |       |       |       |
| Total liabilities                                                                                                  |       | 305,544         |       | 305,503    |       |
|                                                                                                               |       |            |       |       |       |
| COMMITMENTS AND CONTINGENCIES                                                                                      |       |            |       |       |       |
|                                                                                                               |       |            |       |       |       |
| STOCKHOLDERS’ EQUITY:                                                                                         |       |            |       |       |       |
| Common stock - $1 par value; 15,000,000  shares authorized; 2,230,065 shares issued                                |       | 2,230           |       | 2,230      |       |
| Nonvoting common stock - $1 par value;  5,000,000 shares authorized; 90,000 issued and outstanding                 |       | 90              |       | 90         |       |
| Additional paid-in capital                                                                                         |       | 7,439           |       | 7,442      |       |
| Retained earnings                                                                                                  |       | 18,726          |       | 18,108     |       |
| Treasury stock at cost, 233,178 and 240,643  shares at June 30, 2005 and December 31, 2004, respectively |       | (1,896          | )          | (1,955     | )          |
| Accumulated other comprehensive loss, net  of income taxes                                                         |       | (43             | )          | (34        | )          |
|                                                                                                               |       |            |       |       |       |
| Total stockholders’ equity                                                                                    |       | 26,546          |       | 25,881     |       |
|                                                                                                               |       |            |       |       |       |
|                                                                                                               |       | $               | 332,090    |       | $          | 331,384 |   |

 

See notes to consolidated financialstatements.

 

2

----

 

**CITIZENSBANCSHARES CORPORATION AND SUBSIDIARIES**

** **

**CONSOLIDATEDSTATEMENTS OF INCOME(Unaudited - In thousands, except per share data)**

 
| ** **                                           | ** ** | **Three Months  Ended June 30,** | ** ** | **Six Months  Ended June 30,** | ** ** |
|------------------------------------------------------|------------|---------------------------------------|------------|-------------------------------------|------------|
| ** **                                           | ** ** | **2005**                              | ** ** | **2004**                            | ** ** | **2005** | ** ** | **2004** | ** ** |
| Interest income:                                     |       |                                  |       |                                |       |   |   |   |   |
| Loans, including fees                                |       | $                                     | 4,097      |                                | $          | 3,944 |   | $ | 8,030 |   | $ | 7,885 |   |
| Investment securities:                               |       |                                  |       |                                |       |   |   |   |   |
| Taxable                                              |       | 579                                   |       | 628                                 |       | 1,197 |   | 1,447 |   |
| Tax-exempt                                           |       | 195                                   |       | 202                                 |       | 394 |   | 409 |   |
| Interest-bearing deposits                            |       | 86                                    |       | 5                                   |       | 96 |   | 18 |   |
| ** **                                           | ** ** | ** **                            | ** ** | ** **                          | ** ** | ** ** | ** ** | ** ** | ** ** |
| Total interest income                                |       | 4,957                                 |       | 4,779                               |       | 9,717 |   | 9,759 |   |
| ** **                                           | ** ** | ** **                            | ** ** | ** **                          | ** ** | ** ** | ** ** | ** ** | ** ** |
| Interest expense:                                    |       |                                  |       |                                |       |   |   |   |   |
| Deposits                                             |       | 950                                   |       | 658                                 |       | 1,795 |   | 1,358 |   |
| Other borrowings                                     |       | 280                                   |       | 282                                 |       | 599 |   | 563 |   |
| Total interest expense                               |       | 1,230                                 |       | 940                                 |       | 2,394 |   | 1,921 |   |
| ** **                                           | ** ** | ** **                            | ** ** | ** **                          | ** ** | ** ** | ** ** | ** ** | ** ** |
| Net interest income                                  |       | 3,727                                 |       | 3,839                               |       | 7,323 |   | 7,838 |   |
| ** **                                           | ** ** | ** **                            | ** ** | ** **                          | ** ** | ** ** | ** ** | ** ** | ** ** |
| Provision for loan losses                            |       | 63                                    |       | 250                                 |       | 167 |   | 550 |   |
| ** **                                           | ** ** | ** **                            | ** ** | ** **                          | ** ** | ** ** | ** ** | ** ** | ** ** |
| Net interest income after provision for  loan losses |       | 3,664                                 |       | 3,589                               |       | 7,156 |   | 7,288 |   |
| ** **                                           | ** ** | ** **                            | ** ** | ** **                          | ** ** | ** ** | ** ** | ** ** | ** ** |
| Noninterest income:                                  |       |                                  |       |                                |       |   |   |   |   |
| Service charges on deposits                          |       | 852                                   |       | 935                                 |       | 1,679 |   | 1,777 |   |
| Gain on sales of securities                          |       | —                                |       | —                              |       | 46 |   | 58 |   |
| Gain (loss) on sales of assets                       |       | 9                                     |       | 66                                  |       | (17 | ) | 74 |   |
| Other operating income                               |       | 704                                   |       | 687                                 |       | 1,112 |   | 977 |   |
| ** **                                           | ** ** | ** **                            | ** ** | ** **                          | ** ** | ** ** | ** ** | ** ** | ** ** |
| Total noninterest income                             |       | 1,565                                 |       | 1,688                               |       | 2,820 |   | 2,886 |   |
| ** **                                           | ** ** | ** **                            | ** ** | ** **                          | ** ** | ** ** | ** ** | ** ** | ** ** |
| Noninterest expense:                                 |       |                                  |       |                                |       |   |   |   |   |
| Salaries and employee benefits                       |       | 2,034                                 |       | 2,129                               |       | 4,153 |   | 4,083 |   |
| Net occupancy and equipment                          |       | 669                                   |       | 657                                 |       | 1,333 |   | 1,308 |   |
| Other operating expenses                             |       | 1,932                                 |       | 1,692                               |       | 3,318 |   | 3,124 |   |
| ** **                                           | ** ** | ** **                            | ** ** | ** **                          | ** ** | ** ** | ** ** | ** ** | ** ** |
| Total noninterest expense                            |       | 4,635                                 |       | 4,478                               |       | 8,804 |   | 8,515 |   |
| ** **                                           | ** ** | ** **                            | ** ** | ** **                          | ** ** | ** ** | ** ** | ** ** | ** ** |
| Income before income taxes                           |       | 594                                   |       | 799                                 |       | 1,172 |   | 1,659 |   |
| ** **                                           | ** ** | ** **                            | ** ** | ** **                          | ** ** | ** ** | ** ** | ** ** | ** ** |
| Income tax expense                                   |       | 123                                   |       | 185                                 |       | 241 |   | 383 |   |
| ** **                                           | ** ** | ** **                            | ** ** | ** **                          | ** ** | ** ** | ** ** | ** ** | ** ** |
| Net income                                           |       | $                                     | 471        |                                | $          | 614 |   | $ | 931 |   | $ | 1,276 |   |
| ** **                                           | ** ** | ** **                            | ** ** | ** **                          | ** ** | ** ** | ** ** | ** ** | ** ** |
| Net income per share - basic                         |       | $                                     | 0.23       |                                | $          | 0.30 |   | $ | 0.45 |   | $ | 0.62 |   |
| ** **                                           | ** ** | ** **                            | ** ** | ** **                          | ** ** | ** ** | ** ** | ** ** | ** ** |
| Net income per share - diluted                       |       | $                                     | 0.22       |                                | $          | 0.30 |   | $ | 0.44 |   | $ | 0.61 |   |
| ** **                                           | ** ** | ** **                            | ** ** | ** **                          | ** ** | ** ** | ** ** | ** ** | ** ** |
| Weighted average outstanding shares - basic          |       | 2,087                                 |       | 2,074                               |       | 2,084 |   | 2,073 |   |
|                                                 |       |                                  |       |                                |       |   |   |   |   |
| Weighted average outstanding shares -  diluted       |       | 2,099                                 |       | 2,079                               |       | 2,096 |   | 2,080 |   |
| Dividends per common share                           |       | $                                     | 0.15       |                                | $          | 0.15 |   | $ | 0.15 |   | $ | 0.15 |   |

 

See notes to consolidated financialstatements.

 

3

----

 

**CITIZENS BANCSHARES CORPORATION AND SUBSIDIARIES**

 

**CONSOLIDATED STATEMENTS OF STOCKHOLDERS’ EQUITY ANDCOMPREHENSIVE INCOME (LOSS)**

**FOR THE SIX MONTHS ENDED JUNE 30, 2005 AND 2004**

**(Unaudited - In thousands)**

 
| ** **                                                                                           | ** ** | ** **       | ** ** | ** **       | ** ** | **Nonvoting** | ** ** | **Additional** | ** ** | ** **         | ** ** | ** **        | ** ** | ** ** | ** ** | **Accumulated  Other** | ** ** | ** **        | ** ** |
|------------------------------------------------------------------------------------------------------|------------|------------------|------------|------------------|------------|---------------|------------|----------------|------------|--------------------|------------|-------------------|------------|------------|------------|------------------------|------------|-------------------|------------|
| ** **                                                                                           | ** ** | **Common Stock** | ** ** | **Common Stock** | ** ** | **Paid-in**   | ** ** | **Retained**   | ** ** | **Treasury Stock** | ** ** | **Comprehensive** | ** ** | ** ** | ** ** |
| ** **                                                                                           | ** ** | **Shares**       | ** ** | **Amount**       | ** ** | **Shares**    | ** ** | **Amount**     | ** ** | **Capital**        | ** ** | **Earnings**      | ** ** | **Shares** | ** ** | **Amount**             | ** ** | **Income (Loss)** | ** ** | **Total** | ** ** |
| ** **                                                                                           | ** ** | ** **       | ** ** | ** **       | ** ** | ** **    | ** ** | ** **     | ** ** | ** **         | ** ** | ** **        | ** ** | ** ** | ** ** | ** **             | ** ** | ** **        | ** ** | ** ** | ** ** |
| Balance—December 31,  2003                                                                 |       | 2,230            |       | $                | 2,230      |          | 90         |           | $          | 90                 |       | $                 | 7,445      |       | $          | 16,114                 |       | (250              | )          | $ | (2,025 | ) | $ | 90 |   | $ | 23,944 |   |
|                                                                                                 |       |             |       |             |       |          |       |           |       |               |       |              |       |       |       |                   |       |              |       |   |   |
| Net income                                                                                           |       | —           |       | —           |       | —        |       | —         |       | —             |       | 1,276             |       | —     |       | —                 |       | —            |       | 1,276 |   |
| Unrealized  holding gains on investment securities available for sale—net of taxes of  $546     |       | —           |       | —           |       | —        |       | —         |       | —             |       | —            |       | —     |       | —                 |       | (1,059            | )          | (1,059 | ) |
| Less  reclassification adjustment for holding gains included in net income—net of  taxes of $20 |       | —           |       | —           |       | —        |       | —         |       | —             |       | —            |       | —     |       | —                 |       | (39               | )          | (39 | ) |
|                                                                                                 |       |             |       |             |       |          |       |           |       |               |       |              |       |       |       |                   |       |              |       |   |   |
| Comprehensive income                                                                                 |       | —           |       | —           |       | —        |       | —         |       | —             |       | —            |       | —     |       | —                 |       | —            |       | 178 |   |
| Sale of treasury  stock                                                                              |       | —           |       | —           |       | —        |       | —         |       | (2                 | )          | —            |       | 5          |       | 38                     |       | —            |       | 36 |   |
| Dividends  declared                                                                                  |       | —           |       | —           |       | —        |       | —         |       | —             |       | (311              | )          | —     |       | —                 |       | —            |       | (311 | ) |
|                                                                                                 |       |             |       |             |       |          |       |           |       |               |       |              |       |       |       |                   |       |              |       |   |   |
| **Balance—June 30,  2004**                                                                 | ** ** | **2,230**        | ** ** | **$**            | **2,230**  | ** **    | **90**     | ** **     | **$**      | **90**             | ** ** | **$**             | **7,443**  | ** ** | **$**      | **17,079**             | ** ** | **(245**          | **)**      | **$** | **(1,987** | **)** | **$** | **(1,008** | **)** | **$** | **23,847** | ** ** |
| ** **                                                                                           | ** ** | ** **       | ** ** | ** **       | ** ** | ** **    | ** ** | ** **     | ** ** | ** **         | ** ** | ** **        | ** ** | ** ** | ** ** | ** **             | ** ** | ** **        | ** ** | ** ** | ** ** |
| Balance—December 31,  2004                                                                 |       | 2,230            |       | $                | 2,230      |          | 90         |           | $          | 90                 |       | $                 | 7,442      |       | $          | 18,108                 |       | (241              | )          | $ | (1,955 | ) | $ | (34 | ) | $ | 25,881 |   |
|                                                                                                 |       |             |       |             |       |          |       |           |       |               |       |              |       |       |       |                   |       |              |       |   |   |
| Net income                                                                                           |       | —           |       | —           |       | —        |       | —         |       | —             |       | 931               |       | —     |       | —                 |       | —            |       | 931 |   |
| Unrealized  holding losses on investment securities available for sale—net of taxes of  $11     |       | —           |       | —           |       | —        |       | —         |       | —             |       | —            |       | —     |       | —                 |       | 21                |       | 21 |   |
| Less  reclassification adjustment for holding gains included in net income—net of  taxes of $16 |       | —           |       | —           |       | —        |       | —         |       | —             |       | —            |       | —     |       | —                 |       | (30               | )          | (30 | ) |
|                                                                                                 |       |             |       |             |       |          |       |           |       |               |       |              |       |       |       |                   |       |              |       |   |   |
| Comprehensive  loss                                                                                  |       | —           |       | —           |       | —        |       | —         |       | —             |       | —            |       | —     |       | —                 |       | —            |       | 922 |   |
| Sale of treasury  stock                                                                              |       | —           |       | —           |       | —        |       | —         |       | (3                 | )          | —            |       | 8          |       | 59                     |       | —            |       | 56 |   |
| Dividends  declared                                                                                  |       | —           |       | —           |       | —        |       | —         |       | —             |       | (313              | )          | —     |       | —                 |       | —            |       | (313 | ) |
|                                                                                                 |       |             |       |             |       |          |       |           |       |               |       |              |       |       |       |                   |       |              |       |   |   |
| **Balance—June 30,  2005**                                                                 | ** ** | **2,230**        | ** ** | **$**            | **2,230**  | ** **    | **90**     | ** **     | **$**      | **90**             | ** ** | **$**             | **7,439**  | ** ** | **$**      | **18,726**             | ** ** | **(233**          | **)**      | **$** | **(1,896** | **)** | **$** | **(43** | **)** | **$** | **26,546** | ** ** |

 

See notes to consolidated financialstatements.

 

4

----

 

 

**CITIZENS BANCSHARES CORPORATION AND SUBSIDIARIES**

 

**CONSOLIDATED STATEMENTS OF CASH FLOWS**

**FOR THE SIX MONTHS ENDED JUNE 30, 2005 AND 2004**

**(In thousands)**

 
| ** **                                                                             | ** ** | **June 30,** | ** ** |
|----------------------------------------------------------------------------------------|------------|-------------------|------------|
| ** **                                                                             | ** ** | **2005**          | ** ** | **2004** | ** ** |
| ** **                                                                             | ** ** | **(Unaudited)**   | ** ** |
| **OPERATING ACTIVITIES:**                                                              |       |              |       |   |   |
| Net income                                                                             |       | $                 | 931        |   | $ | 1,276 |   |
| **Adjustments to reconcile net income to net  cash provided by operating activities:** |       |              |       |   |   |
| Provision for loan losses                                                              |       | 167               |       | 550 |   |
| Depreciation                                                                           |       | 483               |       | 523 |   |
| Amortization and accretion, net                                                        |       | 381               |       | 607 |   |
| Provision for deferred income taxes  (benefit)                                         |       | (34               | )          | 87 |   |
| Gain on sale of assets and investments                                                 |       | (29               | )          | (133 | ) |
| Write-down of equity securities                                                        |       | 346               |       | — |   |
| Change in other assets                                                                 |       | 326               |       | (279 | ) |
| Change in accrued expenses and other  liabilities                                      |       | (322              | )          | (621 | ) |
| Net cash provided by operating activities                                              |       | 2,249             |       | 2,010 |   |
|                                                                                   |       |              |       |   |   |
| **INVESTING ACTIVITIES:**                                                              |       |              |       |   |   |
| Proceeds from calls and maturities of  investment securities held to maturity          |       | 174               |       | 346 |   |
| Proceeds from sales and maturities of  investment securities available for sale        |       | 9,866             |       | 24,376 |   |
| Purchases of investment securities  available for sale                                 |       | —            |       | (9,423 | ) |
| Net change in other investments                                                        |       | 48                |       | 474 |   |
| Net change in loans receivable                                                         |       | 292               |       | 3,668 |   |
| Premiums paid on life insurance policy                                                 |       | (70               | )          | (70 | ) |
| Net proceeds from the sale of foreclosed  properties                                   |       | 1,134             |       | 825 |   |
| Purchases of premises and equipment, net                                               |       | (78               | )          | (112 | ) |
| Net change in interest bearing deposits  with banks                                    |       | (8,243            | )          | (806 | ) |
| Net change in certificates of deposit                                                  |       | 700               |       | 1,988 |   |
| Net cash provided by investing activities                                              |       | 3,823             |       | 21,266 |   |
|                                                                                   |       |              |       |   |   |
| **FINANCING ACTIVITIES:**                                                              |       |              |       |   |   |
| Net change in deposits                                                                 |       | 212               |       | (6,865 | ) |
| Sale of treasury stock                                                                 |       | 59                |       | 38 |   |
| Principal payments on debt                                                             |       | (100              | )          | — |   |
| Net change in advances from Federal Home  Loan Bank                                    |       | 250               |       | (12,000 | ) |
| Decrease in federal funds sold                                                         |       | —            |       | (4,000 | ) |
| Net change in additional paid-in-capital                                               |       | (3                | )          | (2 | ) |
| Dividends paid                                                                         |       | (313              | )          | (311 | ) |
| Net cash provided (used) in financing  activities                                      |       | 105               |       | (23,140 | ) |
|                                                                                   |       |              |       |   |   |
| Net change in cash and cash equivalents                                                |       | 6,177             |       | 136 |   |
|                                                                                   |       |              |       |   |   |
| Cash and cash equivalents, beginning of  period                                        |       | 10,875            |       | 11,694 |   |
| Cash and cash equivalents at end of period                                             |       | $                 | 17,052     |   | $ | 11,830 |   |
|                                                                                   |       |              |       |   |   |
| **Supplemental disclosures of cash paid  during the period for:**                      |       |              |       |   |   |
| Interest                                                                               |       | $                 | 2,379      |   | $ | 2,070 |   |
|                                                                                   |       |              |       |   |   |
| Income taxes                                                                           |       | $                 | 186        |   | $ | 410 |   |
|                                                                                   |       |              |       |   |   |
| **Supplemental disclosures of noncash  transactions:**                                 |       |              |       |   |   |
| Change in unrealized loss on investment  securities available for sale, net of taxes   |       | $                 | (9         | ) | $ | (1,098 | ) |

 

See notes to consolidated financialstatements.

 

5

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**CITIZENSBANCSHARES CORPORATION AND SUBSIDIARIES**

**Notes tothe Consolidated Financial Statements**

(Unaudited)

 

**1.  SUMMARY OFSIGNIFICANT ACCOUNTING POLICIES**

 

**Basis of Presentation**

 

Citizens Bancshares Corporation (the “Company”) is a holding companythat provides a full range of commercial banking and mortgage brokerageservices to individual and corporate customers in metropolitan Atlanta andColumbus, Georgia, and in Birmingham and Eutaw, Alabama, through its whollyowned subsidiary, Citizens Trust Bank (the “Bank”).  The Bank operates under a state charter andserves its customers through eight full-service branches in metropolitanAtlanta, Georgia, one full-service branch in Columbus, Georgia, one full-servicebranch in Birmingham, Alabama, and one full-service branch in Eutaw,Alabama.  The Company also owns andoperates a wholly owned subsidiary grantor trust, Citizens (GA) Statutory TrustI (the “Trust”) through the issuance of pooled trust preferred securities.  However, in accordance with currentaccounting guidance, the Trust has not been consolidated in the financialstatements.

 

The accompanying unaudited consolidated financial statements have beenprepared pursuant to the rules and regulations for reporting on Form 10-Q.  Accordingly, certain disclosures required bygenerally accepted accounting principles are not included herein. These interimstatements should be read in conjunction with the financial statements andnotes thereto included in the Company’s latest Annual Report on Form 10-Kfiled with the Securities and Exchange Commission for the year ended December 31,2004.  The results of operations for theinterim periods reported herein are not necessarily representative of theresults expected for the full 2005 fiscal year.

 

The consolidated financial statements of the Company for the three andsix month periods ended June 30, 2005 and 2004 are unaudited.  In the opinion of management, all adjustmentsnecessary for a fair presentation of the financial position and results ofoperations, changes in stockholders’ equity and cash flows for the six monthperiods have been included.  Alladjustments are of a normal recurring nature. All significant intercompany accounts and transactions have been eliminatedin consolidation.

 

**Accounting Policies**

 

The Company’s consolidated financial statements have been prepared inaccordance with accounting principles generally accepted in the United Statesof America (“GAAP”), which often require the judgment of management in theselection and application of certain accounting principles and methods.  Reference is made to the accounting policiesof the Company described in the notes to the consolidated financial statementscontained in the Company’s Annual Report on Form 10-K for the yearended December 31, 2004.  TheCompany has followed those policies in preparing this report.  Management believes that the quality andreasonableness of its most critical policies enable the fair presentation ofits financial position and of its results of operations.

 

**Recently Issued Accounting Standards**

 

Norecent authoritative pronouncements that affect accounting, reporting, anddisclosure of financial information by us have occurred during the quarterending June 30, 2005, other than the items described below.

 

6

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InDecember 2004, the FASB issued SFAS No. 123 (revised 2004), “Share-BasedPayment” (“SFAS No. 123(R)”).  SFAS No. 123(R)will require companies to measure all employee stock-based compensation awardsusing a fair value method and record such expense in its financialstatements.  In addition, the adoption ofSFAS No. 123(R) requires additional accounting and disclosure related tothe income tax and cash flow effects resulting from share-based paymentarrangements.  SFAS No. 123(R) iseffective beginning as of the first annual reporting period beginning after June 15,2005.*** ***TheCompany is currently evaluating the impact that the adoption of SFAS No. 123(R)will have on its financial position, results of operations and cash flows.

 

In April 2005, theSecurities and Exchange Commission’s Office of the Chief Accountant and itsDivision of Corporation Finance has released Staff Accounting Bulletin (SAB)No.107 to provide guidance regarding the application of FASB Statement No.123(revised 2004), *Share-Based Payment*.  Statement No.123(R) covers a wide range ofshare-based compensation arrangements including share options, restricted shareplans, performance-based awards, share appreciation rights, and employee sharepurchase plans.  SAB 107 providesinterpretive guidance related to the interaction between Statement No.123R andcertain SEC rules and regulations, as well as the staff’s views regardingthe valuation of share-based payment arrangements for public companies. SAB 107also reminds public companies of the importance of including disclosures withinfilings made with the SEC relating to the accounting for share-based paymenttransactions, particularly during the transition to Statement No.123R.

 

InDecember 2003, the FASB issued FIN No. 46 (revised), “Consolidationof Variable Interest Entities” (“FIN No. 46(R)”), which addressesconsolidation by business enterprises of variable interest entities.  FIN No. 46(R) requires a variableinterest entity to be consolidated by a company if that company is subject to amajority of the risk of loss from the variable interest entity’s activities orentitled to receive a majority of the entity’s residual returns, or both.  FIN No. 46(R) also requires disclosuresabout variable interest entities that a company is not required to consolidate,but in which it has a significant variable interest.  FIN No. 46(R) provides guidance fordetermining whether an entity qualifies as a variable interest entity byconsidering, among other considerations, whether the entity lacks sufficientequity or its equity holders lack adequate decision-making ability.  The consolidation requirements of FIN No. 46(R)applied immediately to variable interest entities created after January 31,2003.  The consolidation requirementsapplied to the Company’s existing variable interest entities in the firstreporting period ending after March 15, 2004. Certain of the disclosure requirements appliedto all financial statements issued after December 31, 2003, regardless ofwhen the variable interest entity was established.  The adoption of FIN No. 46(R) did nothave a material impact on the Company’s financial position or results ofoperations.

 

InNovember 2003, the Emerging Issues Task Force (“EITF”) reached a consensusthat certain quantitative and qualitative disclosures should be required fordebt and marketable equity securities classified as available for sale or heldto maturity under SFAS No. 115 and SFAS No. 124 that are impaired atthe balance sheet date but for which other-than-temporary impairment has notbeen recognized.  Accordingly the EITFissued EITF No. 03-1, “The Meaning of Other-Than-TemporaryImpairment and Its Application to Certain Investments.”  This issue addresses the meaning ofother-than-temporary impairment and its application to investments classifiedas either available for sale or held to maturity under SFAS No. 115 andprovides guidance on quantitative and qualitative disclosures.  The disclosure requirements of EITF No. 03-1are effective for annual financial statements for fiscal years ending after September 15,2005.  The effective date for themeasurement and recognition guidance of EITF No. 03-1 has beendelayed.  The FASB staff has issued aproposed 

 

7

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Board-directedFASB Staff Position (“FSP”), FSP EITF 03-1-a, “ImplementationGuidance for the Application of Paragraph 16 of Issue No. 03-1.” Theproposed FSP would provide implementation guidance with respect to debtsecurities that are impaired solely due to interest rates and/or sector spreadsand analyzed for other-than-temporary impairment under the measurement andrecognition requirements of EITF No. 03-1.  The delay of the effective date for themeasurement and recognition requirements of EITF No. 03-1 will besuperseded concurrent with the final issuance of FSP EITF 03-1-a.  Citizens Bancshares adopted the guidance ofEITF 03-1, effective as of June 30, 2005.  The impact of this adoption is reflected inthe Company’s June 30, 2005 consolidated financial statements.

 

Otheraccounting standards that have been issued or proposed by the FASB or otherstandards-setting bodies that do not require adoption until a future date arenot expected to have a material impact on the consolidated financial statementsupon adoption.

 

**2.  STOCK BASEDCOMPENSATION**

 

The Company’s as reported and pro forma information, includingstock-based compensation expense as if the fair-value based method had beenapplied, is illustrated in the following table (in thousands, except per sharedata):

 
| ** **                                                                             | ** ** | **For the six months ended  June 30,** | ** ** |
|----------------------------------------------------------------------------------------|------------|---------------------------------------------|------------|
| ** **                                                                             | ** ** | **2005**                                    | ** ** | **2004** | ** ** |
|                                                                                   |       |                                        |       |   |   |
| As reported net income available to common  stockholders                               |       | $                                           | 931        |   | $ | 1,276 |   |
| Less: stock-based compensation expense  determined under fair value method, net of tax |       | (12                                         | )          | (8 | ) |
|                                                                                   |       |                                        |       |   |   |
| Pro forma net income                                                                   |       | $                                           | 919        |   | $ | 1,268 |   |
|                                                                                   |       |                                        |       |   |   |
| As reported earnings per share                                                         |       | $                                           | 0.45       |   | $ | 0.62 |   |
| Pro forma earnings per share                                                           |       | $                                           | 0.44       |   | $ | 0.61 |   |
| As reported earnings per diluted share                                                 |       | $                                           | 0.44       |   | $ | 0.61 |   |
| Pro forma earnings per diluted share                                                   |       | $                                           | 0.44       |   | $ | 0.61 |   |

 

Compensation expense in the pro forma disclosures is not indicative offuture amounts, as options vest over several years and additional grants couldbe made each year.

 

**3.  INTANGIBLEASSETS**

 

Finite lived intangible assets of the Company represent depositassumption premiums recorded upon the purchase of certain assets andliabilities from other financial institutions. Deposit assumption premiums are amortized over seven years, theestimated average lives of the deposit bases acquired, using the straight-linemethod and are included within other assets on the Consolidated Balance Sheets.

 

The Company applies a fair value-based impairment test to the carryingvalue of goodwill on an annual basis and on an interim basis if certain eventsor circumstances indicate that an impairment loss may have been incurred.

 

8

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The following table presents information about the Company’s intangibleassets at (in thousands):

 
| ** **                    | ** ** | **June 30, 2005**     | ** ** | **December 31, 2004**    | ** ** |
|-------------------------------|------------|----------------------------|------------|-------------------------------|------------|
| ** **                    | ** ** | **Gross Carrying  Amount** | ** ** | **Accumulated  Amortization** | ** ** | **Gross Carrying  Amount** | ** ** | **Accumulated  Amortization** | ** ** |
|                          |       |                       |       |                          |       |   |   |   |   |
| Unamortized intangible asset: |       |                       |       |                          |       |   |   |   |   |
| Goodwill                      |       | $                          | 362        |                          | $          | — |   | $ | 362 |   | $ | — |   |
|                          |       |                       |       |                          |       |   |   |   |   |
| Amortized intangible assets:  |       |                       |       |                          |       |   |   |   |   |
| Core deposit intangibles      |       | $                          | 2,836      |                          | $          | 1,992 |   | $ | 2,836 |   | $ | 1,790 |   |

 

The following table presents information about aggregate amortizationexpense (in thousands):

 
| ** **                                                                                               | ** ** | **For the 3  months ended  June 30, 2005** | ** ** | **For the 6  months ended  June 30, 2005** | ** ** | **For the 3  months ended  June 30, 2004** | ** ** | **For the 6  months ended  June 30, 2004** | ** ** |
|----------------------------------------------------------------------------------------------------------|------------|-------------------------------------------------|------------|-------------------------------------------------|------------|-------------------------------------------------|------------|-------------------------------------------------|------------|
| Aggregate amortization expense of core  deposit intangibles:                                             |       | $                                               | 101        |                                            | $          | 202                                             |       | $                                               | 101        |   | $ | 202 |   |
|                                                                                                     |       |                                            |       |                                            |       |                                            |       |                                            |       |   |   |   |   |
| Estimated  aggregate amortization expense of core deposit intangibles for the years  ending December 31: |       |
|                                                                                                     |       |                                            |       |                                            |       |                                            |       |                                            |       |   |   |   |   |
| 2005                                                                                                     |       | $                                               | 405        |                                            |       |                                            |       |                                            |       |   |   |   |   |
| 2006                                                                                                     |       | $                                               | 405        |                                            |       |                                            |       |                                            |       |   |   |   |   |
| 2007                                                                                                     |       | $                                               | 112        |                                            |       |                                            |       |                                            |       |   |   |   |   |
| 2008                                                                                                     |       | $                                               | 53         |                                            |       |                                            |       |                                            |       |   |   |   |   |
| 2009                                                                                                     |       | $                                               | 53         |                                            |       |                                            |       |                                            |       |   |   |   |   |

 

**4. COMPREHENSIVE INCOME**

 

Comprehensive income includes: (1) reported net income and (2) unrealizedgains and losses on marketable securities. The following table shows our comprehensive income for the three and sixmonth periods ended June 30, 2005 and 2004 (in thousands):

 
| ** **                        | ** ** | **Three Months Ended June 30,** | ** ** | **Six Months Ended June 30,** | ** ** |
|-----------------------------------|------------|--------------------------------------|------------|------------------------------------|------------|
| ** **                        | ** ** | **2005**                             | ** ** | **2004**                           | ** ** | **2005** | ** ** | **2004** | ** ** |
| ** **                        | ** ** | ** **                           | ** ** | ** **                         | ** ** | ** ** | ** ** | ** ** | ** ** |
| Net Income                        |       | $                                    | 471        |                               | $          | 614 |   | $ | 931 |   | $ | 1,276 |   |
|                              |       |                                 |       |                               |       |   |   |   |   |
| Other comprehensive income (loss) |       | 553                                  |       | (1,692                             | )          | (9 | ) | (1,098 | ) |
|                              |       |                                 |       |                               |       |   |   |   |   |
| Comprehensive income              |       | $                                    | 1,024      |                               | $          | (1,078 | ) | $ | 922 |   | $ | 178 |   |

 

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**5.  NET INCOME PER COMMON AND COMMON EQUIVALENTSHARE**

 

Basic and diluted net income per common and potential common share hasbeen calculated based on the weighted average number of sharesoutstanding.  The following schedule reconcilesthe numerator and denominator of the basic and diluted net income per commonand potential common share for the three and six month periods ended June 30,2005 and 2004 (in thousands, except per share data):

 
| ** **                                                        | ** ** | **Net Income**  | ** ** | **Shares**        | ** ** | **Per Share** | ** ** |
|-------------------------------------------------------------------|------------|-----------------|------------|-------------------|------------|---------------|------------|
| ** **                                                        | ** ** | **(Numerator)** | ** ** | **(Denominator)** | ** ** | **Amount**    | ** ** |
|                                                              |       |            |       |              |       |          |       |
| **Three Months ended June 30, 2005**                         |       |            |       |              |       |          |       |
|                                                              |       |            |       |              |       |          |       |
| Basic earnings per share                                          |       | $               | 471        |              | 2,086      |          | $          | 0.23 |   |
| Effect of dilutive securities: options to purchase  common shares |       | —          |       | 13                |       | $             | (0.01      | ) |
| Diluted earnings per share                                        |       | $               | 471        |              | 2,099      |          | $          | 0.22 |   |
|                                                              |       |            |       |              |       |          |       |
| **Three Months ended June 30, 2004**                         |       |            |       |              |       |          |       |
|                                                              |       |            |       |              |       |          |       |
| Basic earnings per share                                          |       | $               | 614        |              | 2,074      |          | $          | 0.30 |   |
| Effect of dilutive securities: options to purchase  common shares |       | —          |       | 5                 |       | —        |       |
| Diluted earnings per share                                        |       | $               | 614        |              | 2,079      |          | $          | 0.30 |   |
|                                                              |       |            |       |              |       |          |       |
| **Six Months ended June 30, 2005**                           |       |            |       |              |       |          |       |
|                                                              |       |            |       |              |       |          |       |
| Basic earnings per share                                          |       | $               | 931        |              | 2,084      |          | $          | 0.45 |   |
| Effect of dilutive securities: options to purchase  common shares |       | —          |       | 12                |       | $             | (0.01      | ) |
| Diluted earnings per share                                        |       | $               | 931        |              | 2,096      |          | $          | 0.44 |   |
|                                                              |       |            |       |              |       |          |       |
| **Six Months ended June 30, 2004**                           |       |            |       |              |       |          |       |
|                                                              |       |            |       |              |       |          |       |
| Basic earnings per share                                          |       | $               | 1,276      |              | 2,073      |          | $          | 0.62 |   |
| Effect of dilutive securities: options to purchase  common shares |       | —          |       | 7                 |       | $             | (0.01      | ) |
| Diluted earnings per share                                        |       | $               | 1,276      |              | 2,080      |          | $          | 0.61 |   |

 

**RECLASSIFICATIONS**

 

Certain 2004 amounts have been reclassifiedto conform to the 2005 presentation.

 

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**ITEM 2.****     ****MANAGEMENT’S DISCUSSION ANDANALYSIS**

 

**INTRODUCTION**

 

Citizens Bancshares Corporation (the “Company”) is a holding companythat provides a full range of commercial banking and mortgage brokerageservices to individuals and corporate customers in its primary market areas,metropolitan Atlanta and Columbus, Georgia, and Birmingham and Eutaw, Alabamathrough its wholly owned subsidiary, Citizens Trust Bank (the “Bank”).  The Bank is a member of the Federal ReserveSystem and operates under a state charter. The Company serves its customers through 11 full-service branches inGeorgia and Alabama.  The Company alsoowns and operates a wholly owned subsidiary grantor trust, Citizens (GA)Statutory Trust I (the “Trust”) through the issuance of pooled trust preferredsecurities. However, in accordance with current accounting guidance, the Trusthas not been consolidated in the financial statements.

 

**Forward Looking Statements**

 

In addition to historical information, this report on Form 10-Qmay contain forward-looking statements. For this purpose, any statementscontained herein, including documents incorporated by reference, that are notstatements of historical fact may be deemed to be forward-looking statements.Forward-looking statements are subject to numerous assumptions, risks anduncertainties. Without limiting the foregoing, the words “believe,” “anticipates,”“plan,” “expects,” and similar expressions are intended to identifyforward-looking statements.

 

Forward-looking statements are based on current management expectationsand, by their nature, are subject to risk and uncertainties because of thepossibility of changes in underlying factors and assumptions. Actualconditions, events or results could differ materially from those contained inor implied by such forward-looking statements for a variety of reasons,including: sharp and/or rapid changes in interest rates; significant changes inthe economic scenario from the current anticipated scenario which couldmaterially change anticipated credit quality trends and the ability to generateloans and gather deposits; significant delay in or inability to executestrategic initiatives designed to grow revenues and/or control expenses;unanticipated issues during the integration of acquisitions; and significant changesin accounting, tax or regulatory practices or requirements. The Companyundertakes no obligation to, nor does it intend to, update forward-lookingstatements to reflect circumstances or events that occur after the date hereofor to reflect the occurrence of unanticipated events.

 

The following discussion is of the Company’s financial condition as of June 30,2005 and the changes in the financial condition and results of operations forthe three and six month periods ended June 30, 2005 and 2004.

 

**Critical Accounting Policies**

 

In response to the Securities and Exchange Commission’s (“SEC”) ReleaseNo. 33-8040, Cautionary Advice Regarding Disclosure About CriticalAccounting Policies, the Company has identified the following as the mostcritical accounting policies upon which its financial status depends.  The critical policies were determined byconsidering accounting policies that involve the most complex or subjectivedecisions or assessments.  The Company’smost critical accounting policies relate to:

 

**Investment Securities**- The Company classifies investments in one ofthree categories based on management’s intent upon purchase: held to maturitysecurities which are reported at 

 

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amortized cost, trading securities which arereported at fair value with unrealized holding gains and losses included inearnings, and available for sale securities which are recorded at fair valuewith unrealized holding gains and losses included as a component of accumulatedother comprehensive income.  The Companyhad no investment securities classified as trading securities during 2005 or2004.

 

Premiums and discounts on available for sale andheld to maturity securities are amortized or accreted using a method which approximatesa level yield.

 

Gains and losses on sales of investment securitiesare recognized upon disposition, based on the adjusted cost of the specificsecurity.  A decline in market value ofany security below cost that is deemed other than temporary is charged toearnings resulting in the establishment of a new cost basis for the security.

 

**Loans**  - Loans are reported at principal amountsoutstanding less unearned income and the allowance for loan losses.  Interest income on loans is recognized on alevel-yield basis. Loan fees and certain direct origination costs are deferredand amortized over the estimated terms of the loans using the level-yieldmethod.  Discounts on loans purchased areaccreted using the level-yield method over the estimated remaining life of theloan purchased.

 

**Allowance for Loan Losses** - The Company provides for estimated losseson loans receivable when any significant and permanent decline in valueoccurs.  These estimates for losses arebased, not only on individual assets and their related cash flow forecasts,sales values, and independent appraisals, but also on the volatility of certainreal estate markets, and the concern for disposing of real estate in distressedmarkets.  For loans that are pooled forpurposes of determining the necessary provisions, estimates are based on loantypes, history of charge-offs, and other delinquency analyses.  Therefore, the value used to determine theprovision for losses is subject to the reasonableness of these estimates.  The adequacy of the allowance for loan lossesis reviewed on a monthly basis by management and the Board of Directors.  On a quarterly basis a comprehensive reviewof the adequacy of the allowance for loan losses is performed.  This assessment is made in the context ofhistorical losses as well as existing economic conditions, and individualconcentrations of credit.  Loans arecharged against the allowance when, in the opinion of management, such loansare deemed uncollectible and subsequent recoveries are added to the allowance.

 

A description of other accounting policies are summarized in Note 1,Summary of Significant Accounting Policies in the Notes to ConsolidatedFinancial Statements of the Company’s Annual Report on Form 10-K forthe year ended December 31, 2004. The Company has followed those policies in preparing this report.

 

**FINANCIAL CONDITION**

 

Citizens Bancshares Corporation’s total assets at June 30, 2005were $332,090,000, an increase of $706,000 or 0.21% compared to $331,384,000 atDecember 31, 2004.

 

At June 30, 2005, the Company maintained a balance of cash and duefrom banks of $17,052,000 representing an increase of $6,177,000 from December 31,2004.  Interest bearing deposits withbanks increased $8,243,000 to $8,977,000 at June 30, 2005 from $734,000 atDecember 31, 2004.  The Companyincreased its cash balance in anticipation of funding a $12 million withdrawalof a single depositor.  This deposit istypically returned to the Company in the third quarter.

 

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Investmentsecurities classified as available for sale and held to maturity decreased$10,565,000 and $181,000, respectively, since December 31, 2004.  In February 2005, the Company tookadvantage of an opportunity to increase its average yield on earning assetsthrough the sale of $1.8 million in available for sale securities to fund loangrowth. The remaining decrease in investments available for sale is attributedto called securities and pay-downs of mortgage-backed securities in theinvestment portfolio.

 

Loans receivable, net decreased $963,000 to $206,391,000 for the periodended June 30, 2005 compared to $207,354,000 at December 31,2004.  During the first quarter of 2005,a significant outstanding loan in the amount of $2.5 million paid-off.

 

Total liabilities increased $41,000 to $305,544,000 at June 30,2005 compared to $305,503,000 at December 31, 2004. Total deposits, acomponent of total liabilities, increased $212,000 to $266,714,000 at June 30,2005.  Another significant component oftotal liabilities, advances from Federal Home Loan Bank (FHLB) increased$250,000 to $30,500,000 at June 30, 2005 compared to $30,250,000 at December 31,2004.

 

**INVESTMENT SECURITIES**

 

The Company invests a portion of its assets in U.S. governmentsponsored agency securities, state, county and municipal securities, mortgagebacked bonds, as well as certain equity securities.  At June 30, 2005 and December 31,2004, the Company’s investment securities portfolio represented approximately23% and 26% of total assets, respectively.

 

Investment securities available for sale are summarized as follows (inthousands):

 
| **At June 30, 2005**               | ** ** | **Amortized  Cost** | ** ** | **Gross  Unrealized  Gains** | ** ** | **Gross  Unrealized  Losses** | ** ** | **Fair  Value** | ** ** |
|-----------------------------------------|------------|---------------------|------------|------------------------------|------------|-------------------------------|------------|-----------------|------------|
|                                    |       |                |       |                         |       |                          |       |            |       |
| U.S. Government agencies                |       | $                   | 8,350      |                         | $          | 7                             |       | $               | 69         |   | $ | 8,288 |   |
| State, county, and municipal securities |       | 12,329              |       | 329                          |       | 5                             |       | $               | 12,653     |   |
| Mortgage-backed securities              |       | 42,632              |       | 25                           |       | 530                           |       | $               | 42,127     |   |
| Equity securities (1)                   |       | 1,054               |       | —                       |       | —                        |       | 1,054           |       |
| Totals                                  |       | $                   | 64,365     |                         | $          | 361                           |       | $               | 604        |   | $ | 64,122 |   |

 
| **At December 31, 2004**                | ** ** | **Amortized  Cost** | ** ** | **Gross  Unrealized  Gains** | ** ** | **Gross  Unrealized  Losses** | ** ** | **Fair  Value** | ** ** |
|-----------------------------------------|------------|---------------------|------------|------------------------------|------------|-------------------------------|------------|-----------------|------------|
|                                    |       |                |       |                         |       |                          |       |            |       |
| U.S. Government agencies                |       | $                   | 9,880      |                         | $          | 12                            |       | $               | 26         |   | $ | 9,866 |   |
| State, county, and municipal securities |       | 14,074              |       | 424                          |       | 7                             |       | 14,491          |       |
| Mortgage-backed securities              |       | 49,384              |       | 145                          |       | 249                           |       | 49,280          |       |
| Equity securities (1)                   |       | 1,400               |       | —                       |       | 350                           |       | 1,050           |       |
| Totals                                  |       | $                   | 74,738     |                         | $          | 581                           |       | $               | 632        |   | $ | 74,687 |   |

 

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(1)  Theequity securities represent agency dividends received deduction (DRD) preferredstock issued by Fannie Mae Corporation (FNMA) and the Federal Home LoanMortgage Corporation (FHLMC).  Thesesecurities are callable at par and reprice every two years.  The interest earned on these equity securitiesis 70 percent tax free.

 

13

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The fairvalues of equity securities are highly correlated to the level of short-terminterest rates and the shape of the yield curve.  Management has the ability to hold thesecurities for a reasonable period of time for a forecasted recovery of the fairvalue.  However, the Company’s equityinvestments in the preferred stock of the Federal National Mortgage Association(FNMA) and the Federal Home Loan Mortgage Corporation (FHLMC) have been in anunrealized loss position for more than twelve months.  In accordance with SFAS 115 and SAB 59, asthe forecasted market price recovery period lengthened on the investments,management determined that there was a lack of objective evidence to supportrecovery of the cost of the securities over a reasonable period of time, whichresulted in the other-than-temporary impairment.  In June 2005, the Company recorded$346,000 for other-than-temporary impairment in the securities.  Management continues to evaluate and assessthe remaining classes of securities for any impairment deemedother-than-temporary and will take appropriate actions when deemed necessaryunder the guidelines.

 

Investment securities held to maturity are summarized as follows (inthousands):

 
| **At June 30, 2005**               | ** ** | **Amortized  Cost** | ** ** | **Gross  Unrealized  Gains** | ** ** | **Gross  Unrealized  Losses** | ** ** | **Fair Value** | ** ** |
|-----------------------------------------|------------|---------------------|------------|------------------------------|------------|-------------------------------|------------|----------------|------------|
|                                    |       |                |       |                         |       |                          |       |           |       |
| U.S. Government agencies                |       | $                   | 3,000      |                         | $          | —                        |       | $              | 27         |   | $ | 2,973 |   |
| State, county, and municipal securities |       | 5,391               |       | 163                          |       | —                        |       | 5,554          |       |
| Mortgage-backed securities              |       | 1,408               |       | 3                            |       | 35                            |       | 1,376          |       |
|                                    |       |                |       |                         |       |                          |       |           |       |
| Totals                                  |       | $                   | 9,799      |                         | $          | 166                           |       | $              | 62         |   | $ | 9,903 |   |

 
| **At December 31, 2004**           | ** ** | **Amortized  Cost** | ** ** | **Gross  Unrealized  Gains** | ** ** | **Gross  Unrealized  Losses** | ** ** | **Fair Value** | ** ** |
|-----------------------------------------|------------|---------------------|------------|------------------------------|------------|-------------------------------|------------|----------------|------------|
|                                    |       |                |       |                         |       |                          |       |           |       |
| U.S. Government agencies                |       | $                   | 3,000      |                         | $          | —                        |       | $              | 21         |   | $ | 2,979 |   |
| State, county, and municipal securities |       | 5,390               |       | 190                          |       | —                        |       | 5,580          |       |
| Mortgage-backed securities              |       | 1,590               |       | 4                            |       | 27                            |       | 1,567          |       |
|                                    |       |                |       |                         |       |                          |       |           |       |
| Totals                                  |       | $                   | 9,980      |                         | $          | 194                           |       | $              | 48         |   | $ | 10,126 |   |

 

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**LOANS**

 

Loans outstanding, by classification, are summarized as follows (inthousands):

 
| ** **                              | ** **                 | **June 30,** | ** ** | **December 31,** | ** ** |
|-----------------------------------------|----------------------------|-------------------|------------|-----------------------|------------|
| ** **                              | ** **                 | **2005**          | ** ** | **2004**              | ** ** |
|                                    |                       |              |       |                  |       |
| Commercial, financial, and agricultural |                       | $                 | 17,059     |                  | $          | 22,327 |   |
| Installment                             |                       | 9,501             |       | 7,666                 |       |
| Real estate - mortgage                  |                       | 163,656           |       | 174,335               |       |
| Real estate - construction              |                       | 17,933            |       | 4,510                 |       |
| Other                                   |                       | 2,346             |       | 2,609                 |       |
|                                    | Loans receivable           |              | 210,495    |                  | 211,447    |   |
| Less:                                   | Net deferred loan fees     |              | 433        |                  | 554        |   |
|                                    | Allowance for loan losses  |              | 3,422      |                  | 3,183      |   |
|                                    | Discount on loans acquired |              | 249        |                  | 356        |   |
|                                    |                       |              |       |                  |       |   |
|                                    | Loans receivable, net      |              | $          | 206,391               |       | $ | 207,354 |   |

 

**NONPERFORMING ASSETS**

 

Nonperforming assets include nonperforming loans, real estate acquiredthrough foreclosure, and repossessed assets. Nonperforming loans consist of loans that are past due with respect toprincipal or interest more than 90 days or have been placed on nonaccrualstatus.

 

With the exception of the loans included within nonperforming assets inthe table below, management is not aware of any loans classified for regulatorypurposes as loss, doubtful, substandard, or special mention that have not beendisclosed which (1) represent or result from trends or uncertainties whichmanagement reasonably expects will materially impact future operating results,liquidity, or capital resources, or (2) represent any information onmaterial credits which management is aware that causes management to haveserious doubts as to the abilities of such borrowers to comply with the loanrepayment terms.

 

Nonperforming assets decreased by $370,000 to $3,713,000 at June 30,2005 from $4,083,000 at December 31, 2004. Nonperforming assets represents 1.76% of loans, net of unearned income,discounts, and real estate acquired through foreclosure at June 30, 2005as compared to 1.93% at December 31, 2004.

 

15

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The table below presents a summary of the Company’s nonperformingassets at June 30, 2005 and December 31, 2004.

 
| ** **                                                                                                      | ** ** | **June 30,**         | ** ** | **December 31,** | ** ** |
|-----------------------------------------------------------------------------------------------------------------|------------|---------------------------|------------|-----------------------|------------|
| ** **                                                                                                      | ** ** | **2005**                  | ** ** | **2004**              | ** ** |
| ** **                                                                                                      | ** ** | **(in thousands, except** | ** ** |
| ** **                                                                                                      | ** ** | **financial ratios)**     | ** ** |
| Nonperforming assets:                                                                                           |       |                      |       |                  |       |
| Nonperforming loans:                                                                                            |       |                      |       |                  |       |
| Nonaccrual loans                                                                                                |       | $                         | 2,966      |                  | $          | 2,652 |   |
| Past-due loans of 90 days or more                                                                               |       | —                    |       | —                |       |
| Nonperforming loans                                                                                             |       | 2,966                     |       | 2,652                 |       |
|                                                                                                            |       |                      |       |                  |       |
| Real estate acquired through foreclosure                                                                        |       | 747                       |       | 1,431                 |       |
| Total nonperforming assets                                                                                      |       | $                         | 3,713      |                  | $          | 4,083 |   |
|                                                                                                            |       |                      |       |                  |       |
| Ratios:                                                                                                         |       |                      |       |                  |       |
| Nonperforming loans to loans, net of  unearned income and discount on loans                                     |       | 1.41                      | %          | 1.26                  | %          |
|                                                                                                            |       |                      |       |                  |       |
| Nonperforming assets to loans, net of  unearned income, discounts, and real estate acquired through foreclosure |       | 1.76                      | %          | 1.93                  | %          |
|                                                                                                            |       |                      |       |                  |       |
| Nonperforming assets to total assets                                                                            |       | 1.12                      | %          | 1.23                  | %          |
|                                                                                                            |       |                      |       |                  |       |
| Allowance for loan losses to nonperforming  loans                                                               |       | 115.37                    | %          | 120.02                | %          |
|                                                                                                            |       |                      |       |                  |       |
| Allowance for loan losses to nonperforming  assets                                                              |       | 92.16                     | %          | 77.95                 | %          |

 

16

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**ALLOWANCE FOR LOAN LOSSES**

 

The allowance for loan losses is primarily available to absorb lossesinherent in the loan portfolio. Credit exposures deemed uncorrectable arecharged against the allowance for loan losses. Recoveries of previouslycharged-off amounts are credited to the allowance for loan losses.

 

The Company provides for estimated losses on loans receivable when anysignificant and permanent decline in value occurs.  These estimates for losses are based onindividual assets and their cash flow forecasts, sales values, independentappraisals, the volatility of certain real estate markets, and concern fordisposing of real estate in distressed markets. For loans that are pooled for purposes of determining the necessaryprovisions, estimates are based on loan types, history of charge-offs, andother delinquency analyses.  Therefore,the value used to determine the provision for losses is subject to thereasonableness of these estimates. The adequacy of the allowance for loanlosses is reviewed on a monthly basis by management and the Board ofDirectors.  On a quarterly basis acomprehensive review of the adequacy of allowance for loan losses isperformed.  This assessment is made inthe context of historical losses as well as existing economic conditions, andindividual concentrations of credit.

 

Loans are charged against the allowance when, in the opinion ofmanagement, such loans are deemed uncollectible and subsequent recoveries areadded to the allowance.  For the sixmonth period ended June 30, 2005 provisions for loan losses totaled$167,000 compared to $550,000 for the same period in 2004.

 

The allowance for loan losses at June 30, 2005 was approximately$3,422,000, representing 1.63% of total loans, net of unearned income anddiscounts compared to approximately $3,183,000 at December 31, 2004, whichalso represented 1.51% of total loans, net of unearned income and discounts.

 

Management believes the allowance for loan losses is adequate. Whilemanagement uses available information to recognize losses on loans, futureadditions to the allowance may be necessary based on changes in economicconditions, particularly in the metropolitan Atlanta area. In addition,regulatory agencies, as an integral part of their examination process,periodically review the Company’s allowance for loan losses. Such agencies mayrequire the Company to recognize additions to the allowance based on theirjudgments about information available to them at the time of their examination.

 

A substantial portion of the Company’s loan portfolio is secured byreal estate in the metropolitan Atlanta market, including a concentration ofloans to churches and convenience stores. The Company’s outstanding church loans were approximately $42.7 millionat June 30, 2005 and $46.1 million at December 31, 2004.  The Company’s loans to area conveniencestores were approximately $21.3 million at June 30, 2005 and $23.6 millionat December 31, 2004.  Accordingly,the ultimate collectability of the substantial portion of the Company’s loanportfolio is susceptible to changes in market conditions in the metropolitanAtlanta area.

 

17

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The following table summarizes loans, changes in the allowance for loanlosses arising from loans charged off, recoveries on loans previously chargedoff by loan category, and additions to the allowance which have been charged tooperating expense as of and for the six month periods ended June 30, 2005and 2004 (amount in thousands, except financial ratios):

 
| ** **                                                                                                             | ** ** | **2005**   | ** ** | **2004**   | ** ** |
|------------------------------------------------------------------------------------------------------------------------|------------|------------|------------|------------|------------|
| ** **                                                                                                             | ** ** | ** ** | ** ** | ** ** | ** ** |
| Loans, net of unearned income and discounts                                                                            |       | $          | 209,813    |       | $          | 207,022 |   |
|                                                                                                                   |       |       |       |       |       |
| Average loans, net of unearned income,  discounts and the allowance for loan losses                                    |       | $          | 210,561    |       | $          | 206,795 |   |
|                                                                                                                   |       |       |       |       |       |
| Allowance for loan losses at the beginning  of period                                                                  |       | $          | 3,183      |       | $          | 3,240 |   |
|                                                                                                                   |       |       |       |       |       |
| Loans charged off:                                                                                                     |       |       |       |       |       |
| Commercial, financial, and agricultural                                                                                |       | 40         |       | 400        |       |
| Real estate - loans                                                                                                    |       | 33         |       | 324        |       |
| Installment loans to individuals                                                                                       |       | 51         |       | 118        |       |
| Total loans charged off                                                                                                |       | 124        |       | 842        |       |
|                                                                                                                   |       |       |       |       |       |
| Recoveries of loans previously charged off:                                                                            |       |       |       |       |       |
| Commercial, financial, and agricultural                                                                                |       | 102        |       | 145        |       |
| Real estate - loans                                                                                                    |       | 56         |       | 47         |       |
| Installment loans to individuals                                                                                       |       | 38         |       | 193        |       |
| Total loans recovered                                                                                                  |       | 196        |       | 385        |       |
|                                                                                                                   |       |       |       |       |       |
| Net loans recovered (charged off)                                                                                      |       | 72         |       | (457       | )          |
|                                                                                                                   |       |       |       |       |       |
| Additions to allowance for loan losses charged  to operating expense                                                   |       | 167        |       | 550        |       |
|                                                                                                                   |       |       |       |       |       |
| Allowance for loan losses at period end                                                                                |       | $          | 3,422      |       | $          | 3,333 |   |
|                                                                                                                   |       |       |       |       |       |
| Ratio of net loans charged off to average  loans, net of unearned income, discounts, and the allowance for loan losses |       | 0.03       | %          | -0.22      | %          |
|                                                                                                                   |       |       |       |       |       |
| Ratio of allowance for loan losses to  loans, net of unearned income and discounts                                     |       | 1.63       | %          | 1.61       | %          |

 

18

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**DEPOSITS**

 

Deposits are the Company’s primary source of funding loan growth.  Total deposits at June 30, 2005increased by $212,000 to $266,714,000 from $266,502,000 at December 31,2004.  Noninterest-bearing depositsincreased by $7,953,000 or 13.82%, while interest-bearing deposits decreased by$7,741,000 or 3.70%. The increase in noninterest bearing deposits is the resultof the Company’s new sales program in 2005 which places specific emphasis onnoninterest deposit growth as well as the continued success of the bank’s newfree checking account product.   Thedecrease in interest bearing deposits is primarily attributed to Corporate andGovernmental customers who make significant monthly deposits and withdrawalsbased on their budgetary needs.  In June,a single governmental depositor withdrew $12 million of a maturingcertificate.  As is typical, the Companyexpects the return of those funds in September of 2005.

 

The following is a summary of interest-bearing deposits (in thousands):

 
| ** **                        | ** ** | **June 30,** | ** ** | **December 31,** | ** ** |
|-----------------------------------|------------|-------------------|------------|-----------------------|------------|
| ** **                        | ** ** | **2005**          | ** ** | **2004**              | ** ** |
|                              |       |              |       |                  |       |
| NOW and money market accounts     |       | $                 | 61,541     |                  | $          | 55,748 |   |
| Savings accounts                  |       | 44,055            |       | 43,620                |       |
| Time deposits of $100,000 or more |       | 51,261            |       | 65,039                |       |
| Other time deposits               |       | 44,365            |       | 44,556                |       |
|                              |       | $                 | 201,222    |                  | $          | 208,963 |   |

 

**OTHER BORROWED FUNDS**

 

While the Company continues to emphasize funding earning asset growththrough deposits, the Company has relied on other borrowings as a supplementalfunding source.  Other borrowings consistof Federal Home Loan Bank (the “FHLB”) advances and short-term borrowings.  The Bank had outstanding advances from theFHLB of $30,500,000 at June 30, 2005 and $30,250,000 at December 31,2004.   The following advances arecollateralized by a blanket lien on the Company’s 1-4 family mortgageloans.

 
| **Maturity**                        | ** ** | **Callable** | ** ** | **Type** | ** ** | **June 30, 2005** | ** ** | **December 31, 2004** | ** ** |
|-------------------------------------|------------|--------------|------------|----------|------------|------------------------|------------|----------------------------|------------|
|                                |       |         |       |     |       |                   |       |                       |       |   |   |   |   |
| April 2010                     |       | Quarterly    |       | Fixed    |       | 5.82                   | %          | $                          | 10,000,000 |   | 5.82 | % | $ | 10,000,000 |   |
| July 2005                      |       | Daily        |       | Variable |       | 3.63                   | %          | 15,500,000                 |       | 2.44 | % | 15,250,000 |   |
| September 2006                 |       | Monthly      |       | Variable |       | 3.27                   | %          | 5,000,000                  |       | 2.45 | % | 5,000,000 |   |
|                                |       |         |       |     |       |                   |       |                       |       |   |   |   |   |
| Total Principal Outstanding         |       |         |       |     |       |                   |       | $                          | 30,500,000 |   |   |   | $ | 30,250,000 |   |
|                                |       |         |       |     |       |                   |       |                       |       |   |   |   |   |
| Weighted Average Rate at Period End |       |         |       |     |       | 4.29                   | %          |                       |       | 3.56 | % |   |   |

 

The Company had an unsecured note payable of approximately $440,000 at June 30,2005 and $540,000 at December 31, 2004. The note bears interest at the lender’s prime rate minus 50 basispoints.   At June 30, 2005 theinterest rate on the unsecured note payable was 5.50%

 

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During2002, the Company issued $5 million of pooled trust preferred securitiesthrough one issuance by a wholly owned subsidiary grantor trust, Citizens (GA)Statutory Trust I (the “Trust”). The trust preferred securities accrue and paydistributions periodically at an annual rate as provided in the indentures ofthe London Interbank Offered Rate plus 3.45%. The Trust used the net proceedsfrom the offering to purchase a like amount of Junior Subordinated Debentures(the “Debentures”) of the Company. These securities are reported in ourconsolidated balance sheet as Junior Subordinated Debentures.  The trust preferred securities aremandatorily redeemable upon the maturity of the Debentures on June 26,2032, or upon earlier redemption as provided in the indentures beginning June 26,2007.  The Company has the right toredeem the Debentures in whole or in part or after specific dates, at aredemption price specified in the indentures plus any accrued but unpaidinterest to the redemption date.  At June 30,2005, the interest rate on the junior subordinated debenture was 6.92%.

 

**RESULTS OF OPERATIONS**

 

**Net Interest Income:**

 

Net interest income is the principal componentof a financial institution’s income stream and represents the difference, orspread, between interest and fee income generated from earning assets and theinterest expense paid on deposits and borrowed funds.  Fluctuations in interest rates as well asvolume and mix changes in earning assets and interest bearing liabilities canmaterially impact net interest income.

 

Net interest income decreased $112,000 or 3% forthe three month period ended June 30, 2005 as compared with the sameperiod of the previous year.  Thedecrease in net interest income resulted primarily from the decrease ininvestment interest income as average investments declined coupled withincreases in total interest expense resulting from rising interest rates.  For the three month period ending June 30,2005, the average investment in available for sale securities decreased$16,679,000 to $77,870,000 compared to $94,549,000 for the comparative threemonth period ending June 30, 2004 and 2005.  The Company reduced the size of itsinvestment portfolio in order to strategically reposition its balance in arising rate environment.

 

Net Interest income decreased $515,000 or 7% forthe six month comparative periods ending June 30, 2004 and 2005.  Interest income on securities decreased$265,000 as the six month average balance of the Company’s investment portfoliodeclined $19,883,000 to $80,837,000 at June 30, 2005 from $100,720,000million at June 30, 2004.  During March 2004,the Company sold securities from its investment portfolio in order repositionits portfolio, reduce investment duration risk, and fund withdrawals of publicfunds that it elected not to renew.  Inaddition, interest expense on earning liabilities increased $473,000 due toincreases in the average interest rates.

 

**Provision for loan losses**

 

The provision for loan loss for the second quarter of 2005 is $63,000compared to $250,000 for the same period of 2004, representing a decline of 75percent.  The allowance for loan lossesand the resulting provision for loan losses are based on changes in the sizeand character of the Company’s loan portfolio, changes in nonperforming andpast due loans, the existing risk of individual loans, concentrations of loansto specific borrowers or industries, and economic conditions.  Forthe six month period ended June 30, 2005, the provision for loan losseswas $167,000 compared to $550,000 

 

20

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forthe same period ended June 30, 2004, representing a decline of 70percent.  The allowance for loanlosses was $3,422,000 at June 30, 2005, compared to $3,183,000 at December 31,2004. At June 30, 2005, theallowance for loan losses was 92 percent of the nonperforming assets comparedto 78 percent at December 31, 2004. At June 30, 2005, the Company considered its allowance for loanlosses to be adequate.

 

**Noninterest income:**

 

Noninterest income consists of revenuesgenerated from a broad range of financial services and activities, includingfee-based services, and profits and commissions earned through securities andinsurance sales.  In addition, gains andlosses realized from the sale of investment portfolio securities and sales ofassets are included in noninterest income.

 

Noninterest income totaled $1,565,000 for thethree month period ended June 30, 2005, a decrease of $123,000 or 7%compared with the same period ended June 30, 2004.  The decrease is attributed to an $83,000decline in service charges on deposits and a $57,000 decline in gains on salesof assets partially offset by a $17,000 increase in other operating income.

 

For the six month period ended June 30,2005, noninterest income totaled $2,820,000 a decrease of $66,000 or 2%compared with the same period ended June 30, 2004.  The decrease is attributed to a $98,000decline in service charges on deposits and a $91,000 decline in the gains onthe sale of assets.  These decreases werepartially offset by a $135,000 increase in other operating income as the bankrealized increases in debit card and ATM income, servicing fee and credit cardincome.  In 2004, the Company reserved$250,000 for a contingent liability resulting from a jury verdict in a lawsuitagainst the bank.  In 2005, the Companywon a reversal of the verdict on appeal and reversed the accrual.  During the same period in 2004, the bankrecovered approximately $260,000 in fraudulent losses.

 

**Noninterest expense**:

 

Noninterest expense includes compensation and benefits, occupancyexpenses, advertising and marketing, professional fees, office supplies, dataprocessing, telephone expenses, miscellaneous items and other losses.

 

Noninterest expense totaled $4,635,000 for the three month period endedJune 30, 2005, an increase of $157,000 or 4% compared to the same periodlast year.  This increase is primarilydue to a $346,000 charge for other-than-temporary impairment of investments inFederal National Mortgage Association (FNMA) and Federal Home Loan MortgageCorporation (FHLMC) perpetual preferred stocks, and a $100,000 judgment leviedagainst the Company.  Partiallyoffsetting these charges, were decreases in salaries and employee benefits.  Salaries and employee benefits decreased$95,000 or 4% for the three month period ended June 30, 2005 compared tothe same period in 2004. The Company’s full-time equivalent employees declinedby 14 to 157 as of June 30, 2005 from 171 for the same period in2004.  For three month period ending June 30,2005, net occupancy and equipment increased $12,000 compared to the same periodending June 30, 2004.

 

Noninterest expense totaled $8,804,000 for the six month period ended June 30,2005, an increase of $289,000 compared to the same period last year.  Salaries and employee benefits increased$70,000.  In January 2005, theCompany adopted a common review and salary adjustment date for allemployees.  Consequently, all salaryadjustments became effective in January on a prorated basis as opposed tobeing spread over twelve months as was the case in 2004.  The Company anticipates this 

 

21

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change will improve staff morale and retention.  In addition, the Company started accruing foranticipated bonuses in 2005 in anticipation of expected performancelevels.  No bonuses were accrued in 2004.

 

Net occupancy and equipment expense increased$25,000 or 2% over the six month comparative period ending June 30, 2004and 2005.  These costs are expected todecrease as the Company realizes savings for the consolidation of a branchlocated in Birmingham, Alabama during the second quarter of 2005.

 

Other operating expenses increased $194,000 overthe six month period ended June 30, 2005. The increase is most attributable to a loss of $346,000 that wasrecognized in the second quarter of 2005 relating to the other-than-temporaryimpairment of investments in the Federal National Mortgage Association and theFederal Home Loan Mortgage Corporation perpetual preferred equity securities.  In addition, the Company recorded a $100,000loss reserve for a judgment against its subsidiary bank in a lawsuit.  The Company is appealing the jury verdict inthe lawsuit.  Partially offsetting theselosses are decreases of $116,000 in advertising and marketing expenses and$189,000 in professional services.

 

**INTEREST RATE SENSITIVITYMANAGEMENT**

 

Interest rate sensitivity management involves managing the potentialimpact of interest rate movements on net interest income within acceptablelevels of risk.  The Company seeks toaccomplish this by structuring the balance sheet so that repricingopportunities exist for both assets and liabilities in equivalent amounts andtime intervals.  Imbalances in theserepricing opportunities at any point in time constitute a financial institution’sinterest rate risk.  The Company’sability to reprice assets and liabilities in the same dollar amounts and at thesame time minimizes interest rate risk.

 

One method of measuring the impact of interest rate sensitivity is thecumulative gap analysis.  The differencebetween interest rate sensitive assets and interest rate sensitive liabilitiesat various time intervals is referred to as the gap.  The Company is liability sensitive on ashort-term basis as reflected in the following table.  Generally, a net liability sensitive positionindicates that there would be a negative impact on net interest income in anincreasing rate environment.  However, interestrate sensitivity gap does not necessarily indicate the impact of generalinterest rate movements on the net interest margin, since all interest ratesand yields do not adjust at the same velocity and the repricing of variouscategories of assets and liabilities is subject to competitive pressures andthe needs of the Company’s customers.  Inaddition, various assets and liabilities indicated as repricing within the sameperiod may in fact reprice at different times within such period and atdifferent rates. The following table shows the contractual maturities of allinvestment securities at June 30, 2005. Expected maturities may differ from contractual maturities becauseissuers may have the right to call or prepay obligations with or without callor prepayment penalties.  Forconservative purposes, the Company has included demand deposits such as NOW,money market, and savings accounts in the three month category.  However, the actual repricing of theseaccounts may extend beyond twelve months. The interest rate sensitivity gap is only a general indicator ofpotential effects of interest rate changes on net interest income.

 

The following table sets forth the distribution of the repricing of theCompany’s interest rate sensitive assets and interest rate sensitiveliabilities as of June 30, 2005.

 

22

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| ** **                                                              | ** ** | **Cumulative amounts as of June 30, 2005  Maturing and repricing within** | ** ** |
|-------------------------------------------------------------------------|------------|--------------------------------------------------------------------------------|------------|
| ** **                                                              | ** ** | **3**                                                                          | ** ** | **3 to 12** | ** ** | **1 to 5** | ** ** | **Over** | ** ** | ** ** | ** ** |
| ** **                                                              | ** ** | **Months**                                                                     | ** ** | **Months** | ** ** | **Years** | ** ** | **5 Years** | ** ** | **Total** | ** ** |
| ** **                                                              | ** ** | **(amounts in thousands, except ratios)**                                      | ** ** |
| Interest-sensitive assets:                                              |       |                                                                           |       |   |   |   |   |   |   |   |   |
| Investments                                                             |       | $                                                                              | 445        |   | $ | 3,025 |   | $ | 23,678 |   | $ | 46,773 |   | $ | 73,921 |   |
| Certificates of deposit                                                 |       | —                                                                         |       | 100 |   | — |   | — |   | 100 |   |
| Loans                                                                   |       | 81,008                                                                         |       | 7,239 |   | 69,466 |   | 52,782 |   | 210,495 |   |
| Interest-bearing deposits with other banks                              |       | 8,977                                                                          |       | — |   | — |   | — |   | 8,977 |   |
| Total interest-sensitive assets                                         |       | $                                                                              | 90,430     |   | $ | 10,364 |   | $ | 93,144 |   | $ | 99,555 |   | $ | 293,493 |   |
|                                                                    |       |                                                                           |       |   |   |   |   |   |   |   |   |
| Interest-sensitive liabilities:                                         |       |                                                                           |       |   |   |   |   |   |   |   |   |
| Deposits (a)                                                            |       | $                                                                              | 140,915    |   | $ | 41,650 |   | $ | 18,654 |   | $ | 3 |   | $ | 201,222 |   |
| Notes payable                                                           |       | 440                                                                            |       | — |   | — |   | — |   | 440 |   |
| Junior subordinated debentures                                          |       | —                                                                         |       | — |   | 5,155 |   | — |   | 5,155 |   |
| Other borrowings                                                        |       | 15,500                                                                         |       | — |   | 5,000 |   | 10,000 |   | 30,500 |   |
| Total interest-sensitive liabilities                                    |       | $                                                                              | 156,855    |   | $ | 41,650 |   | $ | 28,809 |   | $ | 10,003 |   | $ | 237,317 |   |
|                                                                    |       |                                                                           |       |   |   |   |   |   |   |   |   |
| Interest-sensitivity gap                                                |       | $                                                                              | (66,425    | ) | $ | (31,286 | ) | $ | 64,335 |   | $ | 89,552 |   | $ | 56,176 |   |
|                                                                    |       |                                                                           |       |   |   |   |   |   |   |   |   |
| Cumulative interest-sensitivity gap to total  interest-sensitive assets |       | (22.63                                                                         | )%         | (33.29 | )% | (11.37 | )% | 19.14 | % | 19.14 | % |

 

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(a) Savings, Now, and money marketdeposits totaling $105,596,000 are included in the maturing in 3 monthsclassification.

 

**LIQUIDITY**

 

Liquidity is the ability of the Company toconvert assets into cash or cash equivalents without significant loss and toraise additional funds by increasing liabilities.  Liquidity management involves maintaining theCompany’s ability to meet the day-to-day cash flow requirements of itscustomers, whether they are depositors wishing to withdraw funds or borrowersrequiring funds to meet their credit needs. Without proper liquidity management, the Company would not be able toperform the primary function of a financial intermediary and would, therefore,not be able to meet the needs of the communities it serves. Additionally, theCompany requires cash for various operating needs including: dividends toshareholders; business combinations; capital injections to its subsidiaries;the servicing of debt; and the payment of general corporate expenses. TheCompany has access to various capital markets. However, the primary source of liquidity for the Company is dividendsfrom its bank subsidiary.  The GeorgiaDepartment of Banking and Finance regulates and must approve dividend paymentsthat exceed 50 percent of the Bank’s prior year net income.  In 2005, the amount that can be paid by theBank to the Company without prior regulatory approval is approximately$1,357,000 of which the bank paid $672,000 in April 2005. The payment ofdividends may also be affected or limited by other factors, such as therequirement to maintain adequate capital above regulatory guidelines.  The Company does not anticipate any liquidityrequirements in the near future that it will not be able to meet.

 

Asset and liability management functions notonly serve to assure adequate liquidity in order to meet the needs of theCompany’s customers, but also to maintain an appropriate balance betweeninterest-sensitive assets and interest-sensitive liabilities so that theCompany can earn a return that meets the investment requirements of itsshareholders.  Daily monitoring of thesources and uses of funds is 

 

23

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necessary to maintain an acceptable cashposition that meets both requirements.

 

The asset portion of the balance sheet providesliquidity primarily through loan principal repayments, maturities of investmentsecurities and, to a lesser extent, sales or pay-downs of investment securitiesavailable for sale and held to maturity. Other short-term investments such as federal funds sold and maturinginterest bearing deposits with other banks, are additional sources of liquidityfunding.

 

The liability portion of the balance sheetprovides liquidity through various customers’ interest bearing and noninterestbearing deposit accounts.  Federal fundspurchased and other short-term borrowings are additional sources of liquidityand, basically, represent the Company’s incremental borrowing capacity.  These sources of liquidity are short-term innature and are used as necessary to fund asset growth and meet short-termliquidity needs.

 

**CAPITAL RESOURCES**

 

Stockholders’ equity increased $665,000 for the six months ended June 30,2005, primarily due to earnings, partially offset by accumulated othercomprehensive losses on available for sale securities.  Retained earnings increased by $618,000 to$18,726,000 for the six month period due to net earnings of $931,000 reduced bydividend payments of $313,000. Accumulated other comprehensive loss, net of taxes increased by $9,000to $43,000 during the six month period ending June 30, 2005.  These losses are due to the impact ofchanging economic conditions and changes in market interest rates on theCompany’s available for sale securities.

 

Quantitative measures established by regulation to ensure capitaladequacy require the Company to maintain minimum amounts and ratios of totaland Tier 1 capital to risk weighted assets, and Tier 1 capital to averageassets.  As of June 30, 2005, theBank’s total and Tier 1 capital to risk weighted assets and Tier 1 to averageassets were 14.93%, 13.68% and 9.23% respectively, compared with 14.47%, 13.22%and 8.80% respectively, at December 31, 2004.  As of June 30, 2005, the Company met allcapital adequacy requirements to which it is subject.

 

24

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**ITEM 3.  QUANTITATIVEAND QUALITATIVE DISCLOSURES ABOUT MARKET RISK**

 

Market risk is the risk of loss from adverse changes in market pricesand interest rates.  Our market riskarises principally from interest rate risk inherent in our lending, deposit,and borrowing activities.  Although wemanage certain other risks, such as credit quality and liquidity risk, in thenormal course of business we consider interest rate risk to be our mostsignificant market risk and the risk that could potentially have the largestmaterial effect on our financial condition and results of operations.  We do not maintain a trading portfolio ordeal in international instruments, and therefore, other types of market risks,such as foreign currency risk and commodity price risk, do not arise in thenormal course of our business activities.

 

Quantitative information about the Company’s market risk at June 30,2005 is as follows (in thousands):

 

 
| ** **                           | ** ** | **2005**     | ** ** |
|--------------------------------------|------------|--------------|------------|
| ** **                           | ** ** | **Carrying** | ** ** | **Estimated** | ** ** | **Down** | ** ** | **Up** | ** ** |
| ** **                           | ** ** | **Value**    | ** ** | **Fair Value** | ** ** | **100 bp** | ** ** | **100 bp** | ** ** |
| ** **                           | ** ** | ** **   | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** |
| Financial assets:                    |       |         |       |   |   |   |   |   |   |
| Interest-bearing deposits with banks |       | $            | 8,977      |   | $ | 8,977 |   | — | % | — | % |
| Certificates of deposit              |       | 100          |       | 100 |   | — |   | — |   |
| Investment securities                |       | 73,921       |       | 74,025 |   | 1.79 |   | (3.08 | ) |
| Loans receivable                     |       | 210,495      |       | 205,948 |   | 1.13 |   | (1.52 | ) |
|                                 |       |         |       |   |   |   |   |   |   |
| Financial liabilities:               |       |         |       |   |   |   |   |   |   |
| Interest-bearing deposits            |       | 201,222      |       | 191,574 |   | 1.46 |   | (1.34 | ) |
| Notes payable                        |       | 440          |       | 440 |   | — |   | — |   |
| Junior subordinated debentures       |       | 5,155        |       | 5,245 |   | — |   | — |   |
| Advances from Federal Home Loan Bank |       | 30,500       |       | 31,208 |   | 1.54 |   | (1.48 | ) |
|                                      |            |              |            |  |  |  |  |  |  |  |  |

 

The Company has adopted an asset/liability management program tomonitor the Company’s interest rate sensitivity and to ensure that the Companyis competitive in the loan and deposit markets. Management seeks to manage the relationship between interest-sensitiveassets and liabilities in order to protect against wide interest ratefluctuations, including those resulting from inflation.  The Company has not entered into anyderivative financial instruments such as futures, forwards, swaps oroptions.  Additionally, refer to ourinterest rate sensitivity management and liquidity disclosures within Part 1,Item 2, of this Form 10-Q.

 

**ITEM 4.  CONTROLSAND PROCEDURES**

 

As of the end of the period covered by this report, we conducted, underthe supervision of and with the participation of our management, including theCompany’s Chief Executive Officer and Chief Financial Officer, an evaluation ofthe effectiveness of our disclosure controls and procedures as defined inExchange Act Rule 13a-15(e). Based on this evaluation, the Company’sChief Executive Officer and Chief Financial Officer have concluded that ourdisclosure controls and procedures were effective as of June 30, 2005 intimely alerting them to material information required to be included in ourreports filed with or furnished to the Securities and Exchange Commission.  There have been no changes in 

 

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the Company’s internal controls over financial reporting that occurredduring the quarter ended June 30, 2005 that have materially affected, orare reasonably likely to materially affect, our internal control over financialreporting.

 

**PART II. OTHER INFORMATION**

 
| **ITEM 1.** | **LEGAL  PROCEEDINGS**                                                                                                                                                                                                                                                                                                                                                                                                                                              |
|-------------|---------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|
| ** **  | ** **                                                                                                                                                                                                                                                                                                                                                                                                                                                          |
|        | On September 24,  2003, a jury awarded $250,000 in a court case against the Company.  The  Company appealed the case and won a reversal of the jury award on  May 16, 2005. The reversal of the $250,000 accrual for losses is  reflected in the June 30, 2005 Consolidated Financial Statements.                                                                                                                                               |
|        |                                                                                                                                                                                                                                                                                                                                                                                                                                                                |
|        | On June 24, 2005, a  jury awarded $100,000 in a court case against the Company.  The Company  is appealing the case and is seeking to have the jury award reversed. The  accrual for this loss is reflected in the June 30, 2005 Consolidated  Financial Statements.                                                                                                                                                                                 |
|        |                                                                                                                                                                                                                                                                                                                                                                                                                                                                |
| **ITEM 2.** | **UNREGISTERED  SALE OF EQUITY SECURITIES AND USE OF PROCEEDS**                                                                                                                                                                                                                                                                                                                                                                                                     |
|        |                                                                                                                                                                                                                                                                                                                                                                                                                                                                |
|        | On February 24, 2005, March 31, 2005 and  April 12, 2005 the Company issued 3,231shares, 312 shares and 1256  shares, respectively, of unregistered stock at $7.00 per share pursuant to the  applicable option agreement with senior management.                                                                                                                                                                                                    |
|        |                                                                                                                                                                                                                                                                                                                                                                                                                                                                |
|        | Also, on March 31, 2005, the Company issued  2,666 shares of unregistered stock which was purchased pursuant to the  Company’s Employee Stock Purchase Plan at a price of $8.49 per share.                                                                                                                                                                                                                                                                |
|        |                                                                                                                                                                                                                                                                                                                                                                                                                                                                |
| **ITEM 3.** | **DEFAULTS  UPON SENIOR SECURITIES**                                                                                                                                                                                                                                                                                                                                                                                                                                |
|        |                                                                                                                                                                                                                                                                                                                                                                                                                                                                |
|        | None                                                                                                                                                                                                                                                                                                                                                                                                                                                                |
|        |                                                                                                                                                                                                                                                                                                                                                                                                                                                                |
| **ITEM 4.** | **SUBMISSION  OF MATTERS TO VOTE OF SECURITY HOLDERS**                                                                                                                                                                                                                                                                                                                                                                                                              |
|        |                                                                                                                                                                                                                                                                                                                                                                                                                                                                |
|        | The  Company held its Annual Shareholders’ Meeting on Wednesday, May 25,  2005, at 10:00 a.m., at the Atlanta Life Insurance Company, Herndon  Plaza, 100 Auburn Avenue, N.E., Atlanta, Georgia. The purpose of the Annual  Shareholders’ Meeting was to elect three (3) Class I directors who  will serve a three year term expiring at the 2008 annual meeting. The  following table presents the results of the shareholders vote: |

 
| **Directors**         | ** ** | **For**   | ** ** | **Withhold** | ** ** |
|-----------------------|------------|-----------|------------|--------------|------------|
|                  |       |      |       |         |       |
| Stephen Elmore        |       | 1,258,060 |       | 29,635       |       |
| Ingrid Saunders Jones |       | 1,250,835 |       | 36,860       |       |
| Donald Ratajczak      |       | 1,258,050 |       | 29,645       |       |

 

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| **ITEM 5.** | **OTHER INFORMATION**                                                                                                             |
|-------------|-----------------------------------------------------------------------------------------------------------------------------------|
|        |                                                                                                                              |
|        | None                                                                                                                              |
|        |                                                                                                                              |
| **ITEM 6.** | **EXHIBITS**                                                                                                                      |
|        |                                                                                                                              |
|        | **Exhibit 31**                                                                                                               |
|        |                                                                                                                              |
|        | Certification pursuant to 18 U.S.C. Section 1350 as adopted  pursuant to Section 302 of the Sarbanes-Oxley Act of 2003. |
|        |                                                                                                                              |
|        | **Exhibit 32**                                                                                                               |
|        |                                                                                                                              |
|        | Certification pursuant to 18 U.S.C. Section 1350 as adopted  pursuant to Section 906 of the Sarbanes-Oxley Act of 2003. |

** **

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**SIGNATURES**

 

In accordance with the requirements of the Exchange Act, the registrantcaused this report to be signed on its behalf by the undersigned, thereuntoduly authorized.

 
|   | **CITIZENS BANCSHARES CORPORATION** |                                              |
|--------|-------------------------------------|---------------------------------------------------|
|   | ** **                          |                                              |
|   |                                |                                              |   |
| Date:  | August 12, 2005                |                                              | By: | /s/ James E. Young |   |
|   |                                | James E. Young                                    |
|   |                                | President and Chief Executive Officer             |
|   |                                |                                              |
|   |                                |                                              |   |
| Date:  | August 12, 2005                |                                              | By: | /s/ Samuel J. Cox |   |
|   |                                | Samuel J. Cox                                     |
|   |                                | Senior Vice President and Chief Financial Officer |
|        |                                     |                                                   |  |  |  |  |  |

 

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