##### 



UNITED STATES
SECURITIES AND EXCHANGE COMMISSION  Form 10-K ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d)
OF THE SECURITIES EXCHANGE ACT OF 1934 For the fiscal year ended December 31, 2003 Commission file number 0-15956 Bank of Granite Corporation 
  Delaware
    
    56-1550545(State or other jurisdiction of
incorporation or organization)
    
    (I.R.S. Employer Identification No.)P.O. Box 128, Granite Falls, N.C.
    
    28630(Address of principal executive offices)
    
    (Zip Code)Registrants telephone number, including area code
    
    (828) 496-2000
 Securities registered pursuant to Section 12(b) of the Act: None Title of each class
    
    Name of exchange on which registered
 Securities registered pursuant to Section 12(g) of the Act: Common Stock, $1.00 par value 
  Indicate by check mark if disclosure of delinquent filers pursuant to Item 405 of Regulation S-K is
not contained herein, and will not be contained, to the best of registrants knowledge, in the definitive
proxy or information statements incorporated by reference in Part III of this Form 10-K or any
amendment to this Form 10-K.   [  ] Indicate by check mark whether the registrant (1) has filed all reports required to be filed by
Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such
shorter period that the registrant was required to file such reports), and (2) has been subject to such
filing requirements for the past 90 days. Yes [X]No [  ] Indicate by check mark whether the registrant is an accelerated filer (as defined in Exchange Act
Rule 12-b-2). Yes [X]No [  ] As of March 8, 2004, 13,606,966 shares of common stock, $1 par value, were outstanding. As of June 30, 2003, the aggregate market value of common stock held by non-affiliates was
$205,486,732. Documents Incorporated by Reference PART III: Definitive Proxy Statement dated March 19, 2004 as filed pursuant to Section 14 of the
Securities Exchange Act of 1934 in connection with the 2004 Annual Meeting of Shareholders.     Exhibit Index begins on page 75  1




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##### 



FORM 10-K CROSS-REFERENCE INDEX 20042003
    
    ProxyForm 10-K
    
    StatementPage
    
    PagePART IItem 1 - Business
    
    
    4
    
    
    
    n/aItem 2 - Properties
    
    
    7
    
    
    
    n/aItem 3 - Legal Proceedings
    
    
    10
    
    
    
    n/aItem 4 - Submission of Matters to a
Vote of Security Holders
    
    
    10
    
    
    
    n/aPART IIItem 5 - Market for the Registrants Common Equity
and Related Shareholder Matters
    
    
    11
    
    
    
    n/aItem 6 - Selected Financial Data
    
    
    12
    
    
    
    n/aItem 7 - Managements Discussion and Analysis
of Financial Condition and Results of
Operations, including Quantitative and
Qualitative Disclosures about Market Risk
    
    
    17
    
    
    
    n/aItem 7A
- Quantitative and Qualitative Disclosures
about Market Risk
    
    
    36Item 8 - Financial Statements and Supplementary Data
    
    
    37
    
    
    
    n/aItem 9 - Changes in and Disagreements with
Accountants on Accounting and Financial
Disclosure
    
    
    69
    
    
    
    n/aItem 9A
- Controls and Procedures
    
    
    70
    
    
    
    n/aPART IIIItem 10 - Directors and Executive Officers of
    
    
    
    
    
    
    4-7,the Registrant
    
    
    70
    
    
    16 and 18Item 11 - Executive Compensation
    
    
    70
    
    
    
    7-15Item 12 - Security Ownership of Certain
    
    
    
    
    
    
    2,6Beneficial Owners and Management
    
    
    70
    
    
    and 12Item 13 - Certain Relationships and Related
Transactions
    
    
    70
    
    
    
    16Item 14 - Principal Accountant Fees and Services
    
    
    70
    
    
    
    17Item 15 - Exhibits, Financial Statement Schedules
and Reports on Forms 8-K *
    
    
    71
    
    
    
    n/aSignatures
    
    
    74
    
    
    
    n/a
 * Exhibits, Financial Statement Schedules and Reports on Forms 8-K, included in or incorporated by
reference into this filing were filed with the Securities and Exchange Commission. Bank of Granite
Corporation provides these documents through its Internet site at www.bankofgranite.com or by mail
upon
request. 2




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##### 



PART I ITEM
1 - BUSINESS Bank of Granite Corporation (the Company) is a Delaware corporation organized June 1, 1987 as a bank
holding company. The Company currently engages in no operations other than ownership and operation of
Bank of Granite (the Bank), a state bank chartered under the laws of North Carolina on August 2, 1906
and Granite Mortgage, Inc., formerly GLL & Associates, Inc., a mortgage bank chartered under the laws of
North Carolina on June 24, 1985. Granite Mortgage was acquired by the Company on November 5, 1997.
On July 15, 2003, the Company acquired First Commerce Corporation and its wholly owned subsidiary, First
Commerce Bank (referred to herein collectively as First Commerce), and merged First Commerce Bank
into the Bank on July 24, 2003. First Commerce Bank operated three banking offices in the Charlotte
metropolitan area. The Company conducts its community banking business operations from 19 full-service
offices and 1 loan-production office located in Caldwell, Catawba, Burke, Watauga, Wilkes and Mecklenburg
counties in North Carolina. According to the North Carolina Commissioner of Banks, the Bank ranked 10th
in assets and 10th in deposits among North Carolina commercial banks as of September 30, 2003. The
Company conducts its mortgage banking business operations from 11 offices in the Central and Southern
Piedmont and Catawba Valley regions of North Carolina and in Hilton Head Island, South Carolina. The Company conducts its business through three reportable business segments: Community Banking,
Mortgage Banking and Other. The Community Banking segment offers a variety of loan and deposit
products and other financial services. The Mortgage Banking segment originates, retains and sells mortgage
loans. The Other segment includes activities at the holding company level such as corporate and shareholder
relations and funding from the issuance of commercial paper and trust preferred securities. For financial
information on the Companys three business segments, see Note 21 of the Notes to Consolidated Financial
Statements on page 67. GENERAL BUSINESS The Banks principal community banking activities include the taking of demand and time deposits and the
making of loans, secured and unsecured, to individuals, associations, partnerships and corporations. The
Bank is an independent community bank. The majority of its customers are individuals and small
businesses. No material part of its business is dependent upon a single customer or a few customers whose
loss would have an adverse effect on the business of the Bank. No material portion of the business of the Bank
is seasonal. Granite Mortgages principal mortgage banking activities include the origination and underwriting of mortgage
loans to individuals. Granite Mortgage also sells mortgage servicing rights and appraisal services. Granite
Mortgage specializes in government guaranteed mortgage products. The majority of its customers are
individuals. No material part of its business is dependent upon a single customer or a few customers whose
loss would have an adverse effect on the business of Granite Mortgage. The mortgage business is sensitive to
changes in interest rates in the market. When rates decline, Granite Mortgage experiences an increase in its
mortgage business. When rates rise, Granite Mortgages business declines. GENERAL DESCRIPTION OF ECONOMIC AREAS Prior to 2003, the Company conducted its community banking operations primarily in Caldwell, Catawba and
Burke counties of North Carolina. This area was historically known as a center for the manufacture of
fiber optic and coaxial cable, furniture, and apparel. When the economy began to weaken in 2001, these
counties were significantly impacted with a sudden and sustained rise in their unemployment rates. All of these
industries faced massive layoffs of their workforces. In 2003, as opportunities arose to expand and diversify
its market areas, the Company did so by entering three new markets where the local economies were better
diversified and growing. The Bank opened new banking offices in Watauga (Boone) and Wilkes (Wilkesboro)
counties in April and acquired First Commerce Bank and its three banking offices in Mecklenburg
County (Charlotte and Cornelius) in July. The Bank also plans to open a banking office in Forsyth County 3




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##### 



(Winston-Salem) in 2004. The relative unemployment rates and the population growth in Mecklenburg
County, each as shown in the tables below, formed the primary basis for the Companys decision to expand. Month of December
    
    2003
    
    2002
    
    2001
    
    2000
    
    1999Unemployment Rates*Caldwell County
    
    
    8.90
    %
    
    
    8.30
    %
    
    
    8.50
    %
    
    
    2.60
    %
    
    
    1.70
    %Catawba County
    
    
    8.00
    %
    
    
    9.10
    %
    
    
    9.30
    %
    
    
    2.80
    %
    
    
    1.70
    %Burke County
    
    
    7.30
    %
    
    
    7.80
    %
    
    
    8.30
    %
    
    
    4.20
    %
    
    
    1.90
    %Watauga County
    
    
    2.20
    %
    
    
    2.70
    %
    
    
    2.20
    %
    
    
    1.50
    %
    
    
    1.30
    %Wilkes County
    
    
    6.70
    %
    
    
    7.80
    %
    
    
    7.40
    %
    
    
    3.40
    %
    
    
    2.80
    %Mecklenburg County
    
    
    5.20
    %
    
    
    5.60
    %
    
    
    4.90
    %
    
    
    2.40
    %
    
    
    2.00
    %Forsyth County
    
    
    5.00
    %
    
    
    5.20
    %
    
    
    4.60
    %
    
    
    2.50
    %
    
    
    2.10
    %North Carolina
    
    
    6.10
    %
    
    
    6.70
    %
    
    
    6.60
    %
    
    
    4.20
    %
    
    
    3.30
    %United States
    
    
    5.70
    %
    
    
    6.00
    %
    
    
    5.80
    %
    
    
    3.90
    %
    
    
    4.00
    %
   *Source: Employment Security Commission of North CarolinaThe population estimates for the counties in the Companys primary market areas are as follows: July 2002
    
    April 2000Estimate
    
    Census
    
    % changePopulation Estimates*Caldwell County
    
    
    78,234
    
    
    
    77,708
    
    
    
    0.7
    %Catawba County
    
    
    146,548
    
    
    
    141,686
    
    
    
    3.4
    %Burke County
    
    
    89,354
    
    
    
    89,145
    
    
    
    0.2
    %Watauga County
    
    
    42,892
    
    
    
    42,695
    
    
    
    0.5
    %Wilkes County
    
    
    66,660
    
    
    
    65,632
    
    
    
    1.6
    %Mecklenburg County
    
    
    734,365
    
    
    
    695,471
    
    
    
    5.6
    %Forsyth County
    
    
    314,853
    
    
    
    306,067
    
    
    
    2.9
    %North Carolina
    
    
    8,323,375
    
    
    
    8,046,962
    
    
    
    3.4
    %
   *Source: North Carolina Office of State Budget and Management TERRITORY SERVED AND COMPETITION The Bank operates community banking offices in Granite Falls and the Baton section of Granite Falls; Lenoir
and the Hibriten and Whitnel sections of Lenoir; Hudson; Newton; Morganton; Hickory and the Springs
Road, Viewmont, Long View and Mountain View sections of Hickory; Boone; Wilkesboro; Charlotte and the
SouthPark section of Charlotte; Cornelius and Conover; for a total of 19 full-service offices, as well as a
loan-production office in Matthews. In March 2003, the Bank sold its banking office in Vale, North Carolina.
The Bank plans to open a banking office in Winston-Salem in 2004. The Federal Deposit Insurance Corporation (the FDIC) collects deposit data from insured depository
institutions as of June 30 of each year. As of June 30, 2003, there were 8 other banks in the Banks Caldwell County market. Also as of June 30,
2003, the Bank had $271 million, or 35.9%, of total county deposits of $754.1 million, compared with
$243.7 million, or 33.9%, of total county deposits of $719.9 million as of June 30, 2002. According to the FDIC data, in the Banks Catawba County market, there were 10 other banks as
of June 30, 2003. The Bank had $305.6 million, or 13.7%, of total county deposits of $2.2 billion, compared
with $256.9 million, or 12%, of total county deposits of $2.1 billion as of June 30, 2002. In the Banks Burke County market, there were 8 other banks as of June 30, 2003 according to the FDIC.
The Bank had $38.4 million, or 5.9%, of total county deposits of $646 million, compared with $31.2 million,
or 4.8%, of $650 million in total Burke County deposits as of June 30, 2002. 4




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##### 



As of June 30, 2003, there were 17 other banks in the Banks new Mecklenburg County market. Also as of
June 30, 2003, First Commerce, acquired by the Bank on July 15, 2003, had $149.2 million, or 0.3%, of
total county deposits of $59.3 billion, compared with $135.8 million, or 0.4%, of total county deposits of
$37.8 billion as of June 30, 2002. In both Watauga and Wilkes counties, the Bank began accepting deposits in full-service banking offices in
August 2003 and, therefore, had no deposits as of June 30, 2003. The mortgage banking business is also highly competitive, with both bank and nonbank mortgage originators
competing in the market. Granite Mortgage conducts its mortgage banking business from 10 offices in the
North Carolina cities of Winston-Salem, Hickory, High Point, Lenoir, Morganton, Newton, Salisbury, Boone
and Charlotte, and from one office in Hilton Head Island, South Carolina. The Companys Community Banking and Mortgage Banking operations are required to compete based on
price in order to conduct business in each of the Companys markets. However, the Company believes that its
focus on and commitment to providing superior customer service is what distinguishes it from its competitors. EMPLOYEES As of December 31, 2003, the Bank had 238 and Granite Mortgage had 58 full-time equivalent employees.
Each of the Bank and Granite Mortgage considers its relationship with its employees to be excellent. SUPERVISION AND REGULATION The following summaries of statutes and regulations affecting bank holding companies, banks and mortgage
banks do not purport to be complete. Such summaries are qualified in their entirety by reference to such
statutes and regulations. The Company is a bank holding company within the meaning of the Bank Holding Company Act of 1956, as
amended, and is required to register as such with the Board of Governors of the Federal Reserve System (the
Federal Reserve Board or FRB). A bank holding company is required to file with the FRB annual reports and other information regarding its
business operations and those of its subsidiaries. It is also subject to examination by the Federal Reserve
Board and is required to obtain Federal Reserve Board approval prior to acquiring, directly or indirectly,
more than 5% of the voting stock of a bank, unless it already owns a majority of the voting stock of the bank.
Furthermore, with limited exceptions, a bank holding company must engage only in the business of banking
or managing or controlling banks or furnishing services to or performing services for its subsidiary banks.
One of the exceptions to this prohibition is the ownership of shares of a company the activities of which the
FRB has determined to be so closely related to banking or managing or controlling banks as to be a proper
incident thereto. The FRB has cease-and-desist powers over bank holding companies and non-banking subsidiaries where their
action would constitute a serious threat to the safety, soundness or stability of a subsidiary bank. Although the Company is not presently subject to any regulatory restrictions on dividends, the Companys
ability to pay dividends depends to a large extent on the amount of dividends paid by the Bank and any other
subsidiaries. The Bank, as a North Carolina banking corporation, may pay dividends only out of undivided
profits as determined pursuant to North Carolina General Statutes Section 53-87. As of December 31, 2003,
the Bank had undivided profits of approximately $96.6 million. Additionally, current federal regulations
require that the Bank maintain a ratio of total capital to assets, as defined by regulatory authorities, in excess
of 6%. As of December 31, 2003, this ratio was 14.33% for the Bank, leaving approximately $77.4 million
of the Banks undivided profits available for the payment of dividends. 5




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##### 



In an effort to achieve a measurement of capital adequacy that is more sensitive to the individual risk profiles
of financial institutions, the various financial institution regulators mandate minimum capital regulations and
guidelines that categorize various components of capital and types of assets and measure capital adequacy in
relation to a particular institutions relative levels of those capital components and the level of risk associated
with various types of assets of that financial institution. The FDIC and the FRB statements of policy on
risk-based capital require the Company to maintain a level of capital commensurate with the risk profile
assigned to its assets in accordance with the policy statements. The capital standards call for minimum total
capital of 8% of risk-adjusted assets. At December 31, 2003, the Companys tier 1 ratio and total capital
ratio to risk-adjusted assets were 17.1% and 18.4%, respectively. The Companys leverage ratio at
December 31, 2003 was 14.1%. The Company is in compliance with all regulatory capital requirements. The Bank is subject to supervision and regulation, of which regular bank examinations are a part, by the
FDIC and the North Carolina State Banking Commission (the Banking Commission). The Bank is a
member of the FDIC, which currently insures the deposits of each member bank to a maximum of $100,000
per depositor. For this protection, each bank pays a semi-annual statutory assessment and is subject to the
rules and regulations of the FDIC. Federal banking laws applicable to all depository financial institutions, among other things, (i) afford federal
bank regulatory agencies with powers to prevent unsafe and unsound banking practices; (ii) restrict
preferential loans by banks to insiders of banks; (iii) require banks to keep information on loans to major
shareholders and executive officers, and (iv) bar certain director and officer interlocks between financial
institutions. The prohibitions against preferential loans and certain director and officer interlocks may inhibit
the ability of the Bank and the Company to obtain experienced and capable officers and directors, to replace
presently proposed officers and directors, or to add to their number. The Company is an affiliate of the Bank within the meaning of the Federal Reserve Act, which imposes
restrictions on loans by the Bank to the Company and on investments by the Bank in the stock or securities of
the Company, which serve as security for loans by the Bank to any borrower. The Company is also subject to
certain restrictions with respect to engaging in the business of issuing, underwriting and distributing securities. Shareholders of banks (including bank holding companies which own stock in banks) may be compelled by
bank regulatory authorities to invest additional capital in the event their banks experience either significant loan
losses or rapid growth of loans or deposits. In addition, the Company may also be required to provide
additional capital to any additional banks which it acquires as a condition to obtaining the approvals and
consents of regulatory authorities in connection with such acquisitions. Granite Mortgage, as a mortgage bank, is regulated by the Banking Commission. Because Granite Mortgage
is a nonbank subsidiary of a bank holding company, it is also regulated by the FRB. In addition, because
Granite Mortgage underwrites mortgages guaranteed by the government, it is subject to other audits and
examinations as required by the government agencies or the investors who purchase the mortgages. The Company cannot predict what other legislation might be enacted or what other regulation might be
adopted or, if enacted or adopted, the effect thereof. EFFECTS OF GOVERNMENTAL MONETARY POLICY AND ECONOMIC CONTROLS The Company is directly affected by governmental monetary policy and by regulatory measures affecting the
banking industry in general. Of primary importance is the FRB, whose actions directly affect the money
supply and, in general, affect banks lending abilities by increasing or decreasing the cost and availability of
bank credit in order to combat recession and curb inflationary pressures in the economy by open market
operations in the United States government securities, changes in the discount rate on member bank
borrowings, and changes in reserve requirements against bank deposits. 6




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Deregulation of interest rates paid by banks on deposits and the types of deposits that may be offered by banks
have eliminated minimum balance requirements and rate ceilings on various types of time deposit accounts.
The effect of these specific actions and, in general, the deregulation of deposit interest rates have increased
banks costs of funds and made them more sensitive to fluctuations in money market rates.
In view of changing conditions in the national economy and money markets, as well as the effect of actions by
monetary and fiscal authorities, no prediction can be made as to possible future changes in interest rates,
deposit levels, loan demand or the business and earnings of the Company. INVESTMENT POLICIES For a discussion of the Companys investment policies, see Investment Securities on page 31 of
Managements Discussion and Analysis of Financial Condition and Results of Operations section of
this annual report. LOAN PORTFOLIO For a discussion of the Companys loan portfolio, see Loans and Provisions and Allowances for Loan
Losses beginning on page 27 of Managements Discussion and Analysis of Financial Condition and Results
of Operations section of this annual report. AVAILABLE INFORMATION Additional information about the Company and its business is available at the Companys website, at
www.bankofgranite.com. The Companys filings with the Securities and Exchange Commission, including
annual reports on Form 10-K, quarterly reports on Form 10-Q, current reports on Form 8-K, and
amendments to those reports files or furnished pursuant to Section 13(a) or 15(d) of the Exchange Act of
1934, are available, free of charge, on the Companys website at www.bankofgranite.com under the heading
Investor Relations  SEC Filings. These reports are available as soon as reasonably practicable after the
Company electronically files such material with, or furnishes it to, the Securities and Exchange Commission.
Information included on the Companys website is not incorporated by reference into this annual report. ITEM
2 - PROPERTIES The Bank both owns and leases its facilities as indicated in the table below. The Banks management considers
its facilities well maintained and sufficiently suitable for present operations. ApproximateFacility Size
    
    Lot Size
    
    OwnedLocation
    
    Principal Use
    
    (square feet)
    
    (acres)
    
    or LeasedGranite Falls, North Carolina
23 North Main Street
    
    Home office
    
    
    8,735
    
    
    1.2
    
    ownedStorage building
    
    
    735
    
    
    0.5
    
    owned56 North Main Street
    
    Operations center
    
    
    11,769
    
    
    1.1
    
    ownedPrint shop
    
    
    375
    
    
    0.2
    
    owned2630 Connelly
    
    Banking office in Ingles
    
    
    430
    
    
    none
    
    leasedSprings Road (Baton)
    
    SupermarketBoone, North Carolina
    
    (opened in April 2003)643 Greenway Road,
    
    Banking office
    
    
    3,000
    
    
    none
    
    leasedSuite H-2
 7




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##### 



ApproximateFacility Size
    
    Lot Size
    
    OwnedLocation
    
    Principal Use
    
    (square feet)
    
    (acres)
    
    or LeasedCharlotte, North Carolina
    
    (acquired in July 2003)301 South McDowell Street
    
    Banking office
    
    
    8,560
    
    
    none
    
    leased4415 Sharon Road
    
    Banking office
    
    
    4,500
    
    
    none
    
    leased(SouthPark)Conover, North Carolina
    
    (opened in December 2003)1109 Conover Blvd, East
    
    Banking office
    
    
    4,421
    
    
    1.4
    
    ownedCornelius, North Carolina
    
    (acquired in July 2003)18825 West Catawba Avenue
    
    Banking office
    
    
    4,964
    
    
    1.2
    
    ownedVacant office space for lease
    
    
    7,036
    
    
    
    
    ownedHickory, North Carolina
25 3rd Street NW
    
    Banking office
    
    
    9,515
    
    
    0.5
    
    owned315 1st Avenue NW
    
    Loan and support offices
    
    
    15,092
    
    
    0.5
    
    owned(Bank of
Granite Plaza)
   2220 12th Avenue NE
    
    Banking office
    
    
    3,612
    
    
    1.6
    
    owned(Springs Road)
   281 14th Avenue NE
    
    Banking office
    
    
    4,200
    
    
    2.0
    
    owned(Viewmont)
   2637 1st Avenue SW
    
    Banking office
    
    
    2,440
    
    
    1.1
    
    owned(Long View)
   2900 Highway 127 South
    
    Banking office
    
    
    2,480
    
    
    1.8
    
    owned(Mountain View)Hudson, North Carolina
537 Main Street
    
    Banking office
    
    
    4,235
    
    
    4.1
    
    ownedLenoir, North Carolina
707 College Avenue SW
    
    Banking office
    
    
    7,400
    
    
    1.2
    
    owned1351 Norwood
    
    Banking office
    
    
    2,530
    
    
    1.0
    
    ownedStreet SW (Whitnel)
   701 Wilkesboro
    
    Banking office
    
    
    2,480
    
    
    2.1
    
    ownedBoulevard NE (Hibriten)Matthews, North Carolina
    
    (opened in October 2003)2522 Plantation Center Drive
    
    Loan production office
    
    
    265
    
    
    none
    
    leasedMorganton, North Carolina
201 East Meeting Street
    
    Banking office
    
    
    5,400
    
    
    0.8
    
    ownedNewton, North Carolina
311 North Main Avenue
    
    Banking office
    
    
    3,612
    
    
    0.9
    
    ownedWilkesboro, North Carolina
    
    (opened in April 2003)1305A S. Collegiate Drive
    
    Banking office
    
    
    1,600
    
    
    none
    
    leased
 8




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##### 



Granite Mortgage leases all of its facilities which are listed below. Granite Mortgages management considers
its facilities well maintained and sufficiently suitable for present operations. ApproximateFacility Size
    
    Lot Size
    
    OwnedLocation
    
    Principal Use
    
    (square feet)
    
    (acres)
    
    or LeasedWinston-Salem,
North Carolina
4550 Country Club Road
    
    Home office
    
    
    8,353
    
    
    none
    
    leased2150 Country Club Road,
    
    Mortgage office
    
    
    200
    
    
    none
    
    leasedSuite 100 (RE/MAX Building)Boone, North Carolina
    
    (opened in May 2003)643 Greenway Road,
    
    Mortgage office
    
    
    130
    
    
    none
    
    leasedSuite H-2Charlotte, North Carolina
    
    (opened in October 2003 and December 2003)301 South McDowell Street
    
    Mortgage office
    
    
    240
    
    
    none
    
    leased fromSuite 100
    
    
    
    
    
    
    
    
    
    the Bank4415
Sharon Road(SouthPark)
    
    Mortgage office
    
    
    144
    
    
    none
    
    leased fromthe BankCornelius, North Carolina
    
    (opened in September 2003)18825 West Catawba Avenue
    
    Mortgage office
    
    
    144
    
    
    
    
    leased fromthe BankHickory, North Carolina
315 1st Avenue NW
    
    Mortgage office
    
    
    1,080
    
    
    none
    
    leased from(Bank of Granite Plaza)
    
    
    
    
    
    
    
    
    
    the BankHigh
Point, North Carolina
211 West Lexington
    
    Mortgage office
    
    
    830
    
    
    none
    
    leasedAvenue, Suite 102Hilton Head Island, South Carolina
    
    (opened in February 2003)61 Arrow Road, Suite E
    
    Mortgage office
    
    
    850
    
    
    none
    
    leasedLenoir, North Carolina
707 College Avenue SW
    
    Mortgage office
    
    
    200
    
    
    none
    
    leased fromthe BankMorganton,
North Carolina
201 East Meeting Street
    
    Mortgage office
    
    
    196
    
    
    none
    
    leased fromthe BankNewton,
North Carolina
311 North Main Avenue
    
    Mortgage office
    
    
    64
    
    
    none
    
    leased fromthe BankSalisbury,
North Carolina
315 North Main Street
    
    Mortgage office
    
    
    457
    
    
    none
    
    leased
 9




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##### 



ITEM
3 - LEGAL PROCEEDINGS There were no significant legal proceedings as of December 31, 2003. ITEM
4 - SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS There were no matters submitted to a vote of shareholders in the fourth quarter
of 2003. 10




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##### 



PART II ITEM
5 - MARKET FOR THE REGISTRANTS COMMON EQUITY AND
RELATED SHAREHOLDER MATTERS The Companys common stock, $1 par value, trades on The NASDAQ National Market® tier of The
NASDAQ Stock Market® under the symbol GRAN. Price and volume information is contained in The
Wall Street Journal® and most major daily newspapers in the NASDAQ section under the National Market
System listings. During 2003, the market participants making a market in the Companys common stock with the highest
volumes of Company shares traded were Goldman Sachs & Company, the National Stock Exchange,
Knight Equity Markets, LP and Wachovia Capital Markets. As of December 31, 2003, there were 13,600,182 shares outstanding, owned by approximately 2,700
shareholders of record and an estimated 4,000 holders of shares registered in street name or as beneficial
owners. The following table presents the quarterly market sales prices and dividend information for the two
years in the period ended December 31, 2003. Quarterly Common Stock Market Price Ranges and Dividends 2003
    
    Quarter 1
    
    Quarter 2
    
    Quarter 3
    
    Quarter 4Price RangeHigh
    
    $
    18.45
    
    
    $
    18.59
    
    
    $
    20.18
    
    
    $
    26.96Low
    
    
    16.52
    
    
    
    16.17
    
    
    
    17.06
    
    
    
    18.75Close
    
    
    16.61

    
    
    
    17.02
    
    
    
    18.75
    
    
    
    21.77Dividend
    
    
    0.11
    
    
    
    0.11
    
    
    
    0.12
    
    
    
    0.12
 2002
    
    Quarter 1
    
    Quarter 2
    
    Quarter 3
    
    Quarter 4Price RangeHigh*
    
    $
    18.88
    
    
    $
    21.59
    
    
    $
    20.00
    
    
    $
    19.14Low*
    
    
    15.56
    
    
    
    16.80
    
    
    
    17.00
    
    
    
    17.08Close*
    
    
    18.40
    
    
    
    19.69
    
    
    
    18.00
    
    
    
    17.50Dividend*
    
    
    0.10
    
    
    
    0.10
    
    
    
    0.11
    
    
    
    0.11
 * Amounts for periods prior
to May 31, 2002 have been
restated to reflect the
5-for-4 stock split paid May
31, 2002. The following table sets forth information as of December 31, 2003 regarding shares of the Companys
common stock that may be issued upon exercise of options previously granted and currently outstanding
under the Companys stock option plans, as well as the number of shares available for the grant of options
that had not been granted as of that date. (a) Number of
    
    (b) Weighted-
    
    (c) Number of SecuritiesSecurities To Be
    
    Average Exercise
    
    Remaining Available forIssued Upon Exercise
    
    Price Of
    
    Future Issuance UnderOf Outstanding
    
    Outstanding
    
    Equity Compensation PlanOptions, Warrants and
    
    Options, Warrants
    
    (excluding securitiesRights
    
    and Rights
    
    reflected in column (a))Equity compensation plans Approved by security holders
    
    
    340,157
    
    
    $
    14.58
    
    
    
    217,763Not approved by security
holders
    
    none
    
    none
    
    noneTotal
    
    
    340,157
    
    
    $
    14.58
    
    
    
    217,763
 11




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##### 



ITEM
6 - SELECTED FINANCIAL DATA The following table presents selected consolidated historical financial data of the Company for the periods indicated.
This financial data should be read in conjunction with the Companys consolidated financial statements and notes thereto. For the Years Ended December 31,2003
    
    2002
    
    2001
    
    2000
    
    1999Interest income
    
    $
    50,696,176
    
    
    $
    45,710,526
    
    
    $
    52,284,219
    
    
    $
    55,269,464
    
    
    $
    48,005,534Interest expense
    
    
    11,389,491
    
    
    
    10,802,422
    
    
    
    19,443,569
    
    
    
    19,172,024
    
    
    
    15,752,467Net interest income
    
    
    39,306,685
    
    
    
    34,908,104
    
    
    
    32,840,650
    
    
    
    36,097,440
    
    
    
    32,253,067Provision for loan losses
    
    
    4,764,010
    
    
    
    3,492,382
    
    
    
    4,216,772
    
    
    
    3,893,585
    
    
    
    1,862,585Net interest income after
provision for loan losses
    
    
    34,542,675
    
    
    
    31,415,722
    
    
    
    28,623,878
    
    
    
    32,203,855
    
    
    
    30,390,482Other income
    
    
    14,437,740
    
    
    
    11,397,705
    
    
    
    10,140,060
    
    
    
    8,033,680
    
    
    
    8,209,542Other expense
    
    
    25,862,457
    
    
    
    20,316,234
    
    
    
    18,342,279
    
    
    
    16,778,415
    
    
    
    16,536,075Income before income taxes
    
    
    23,117,958
    
    
    
    22,497,193
    
    
    
    20,421,659
    
    
    
    23,459,120
    
    
    
    22,063,949Income taxes
    
    
    7,810,065
    
    
    
    7,394,893
    
    
    
    6,613,104
    
    
    
    7,884,537
    
    
    
    7,327,157Net income
    
    $
    15,307,893
    
    
    $
    15,102,300
    
    
    $
    13,808,555
    
    
    $
    15,574,583
    
    
    $
    14,736,792Per shareNet incomeBasic*
    
    $
    1.14
    
    
    $
    1.11
    
    
    $
    0.99
    
    
    $
    1.10
    
    
    $
    1.02Diluted*
    
    
    1.13
    
    
    
    1.11
    
    
    
    0.99
    
    
    
    1.10
    
    
    
    1.02Cash dividends*
    
    
    0.46
    
    
    
    0.41
    
    
    
    0.37
    
    
    
    0.34
    
    
    
    0.30Book value*
    
    
    10.43
    
    
    
    9.56
    
    
    
    9.09
    
    
    
    8.56
    
    
    
    7.93Share priceHigh*
    
    
    26.96
    
    
    
    21.59
    
    
    
    19.12
    
    
    
    19.60
    
    
    
    25.90Low*
    
    
    16.17
    
    
    
    15.56
    
    
    
    15.09
    
    
    
    12.90
    
    
    
    14.80Close*
    
    
    21.77
    
    
    
    17.50
    
    
    
    15.82
    
    
    
    18.60
    
    
    
    17.20Average shares outstandingBasic*
    
    
    13,438,007
    
    
    
    13,547,299
    
    
    
    13,897,764
    
    
    
    14,161,633
    
    
    
    14,386,194Diluted*
    
    
    13,516,700
    
    
    
    13,552,569
    
    
    
    13,900,127
    
    
    
    14,174,268
    
    
    
    14,413,128Performance ratiosReturn on average assets
    
    
    1.78
    %
    
    
    2.13
    %
    
    
    2.00
    %
    
    
    2.45
    %
    
    
    2.46
    %Return on average equity
    
    
    11.40
    %
    
    
    11.98
    %
    
    
    11.29
    %
    
    
    13.41
    %
    
    
    13.42
    %Average equity to
average assets
    
    
    15.58
    %
    
    
    17.80
    %
    
    
    17.70
    %
    
    
    18.31
    %
    
    
    18.35
    %Dividend payout
    
    
    40.56
    %
    
    
    37.05
    %
    
    
    37.01
    %
    
    
    30.54
    %
    
    
    29.60
    %Efficiency ratio
    
    
    46.81
    %
    
    
    42.29
    %
    
    
    40.96
    %
    
    
    36.52
    %
    
    
    39.04
    %Balances at year endAssets
    
    $
    971,382,727
    
    
    $
    742,014,674
    
    
    $
    715,389,907
    
    
    $
    661,622,812
    
    
    $
    610,726,599Investment securities
    
    
    159,436,361
    
    
    
    124,924,296
    
    
    
    159,185,159
    
    
    
    167,505,220
    
    
    
    155,345,479Loans (gross)
    
    
    715,844,632
    
    
    
    532,921,937
    
    
    
    488,035,108
    
    
    
    443,918,031
    
    
    
    382,647,354Allowance for loan losses
    
    
    10,798,897
    
    
    
    8,834,611
    
    
    
    6,426,477
    
    
    
    6,351,756
    
    
    
    4,746,692Mortgage loans held for sale
    
    
    23,092,846
    
    
    
    32,452,162
    
    
    
    22,375,840
    
    
    
    6,480,221
    
    
    
    7,541,880Liabilities
    
    
    829,567,628
    
    
    
    614,571,832
    
    
    
    590,608,591
    
    
    
    542,307,475
    
    
    
    497,275,490Deposits
    
    
    735,099,355
    
    
    
    547,249,315
    
    
    
    522,782,719
    
    
    
    517,281,500
    
    
    
    471,659,198Shareholders equity
    
    
    141,815,099
    
    
    
    127,442,842
    
    
    
    124,781,316
    
    
    
    119,315,337
    
    
    
    113,451,109Asset quality ratiosNet charge-offs
to average loans
    
    
    0.75
    %
    
    
    0.21
    %
    
    
    0.86
    %
    
    
    0.54
    %
    
    
    0.46
    %Nonperforming assets
to total assets
    
    
    1.35
    %
    
    
    0.76
    %
    
    
    0.70
    %
    
    
    0.55
    %
    
    
    0.35
    %Allowance coverage of
nonperforming loans
    
    
    95.29
    %
    
    
    199.98
    %
    
    
    136.35
    %
    
    
    182.26
    %
    
    
    230.38
    %
 * Amounts for periods prior to May 31, 2002 have been restated to reflect the 5-for-4 stock split paid May 31, 2002. 12




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##### 



ITEMS
7 AND 7A - MANAGEMENTS DISCUSSION AND ANALYSIS OF FINANCIAL
CONDITION AND RESULTS OF OPERATIONS, INCLUDING
QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK MANAGEMENTS DISCUSSION AND ANALYSIS OF
RESULTS OF OPERATIONS AND FINANCIAL CONDITION OVERVIEW Managements Discussion and Analysis is provided to assist in understanding and evaluating the Companys
results of operations and financial condition. The following discussion should be read in conjunction with the
consolidated financial statements and related notes included elsewhere herein. In 1987, the Company was formed
under a plan whereby all previously issued shares of the Banks stock were exchanged for shares of the
Companys stock. The Bank then became a wholly owned subsidiary of the Company. In 1997, the Company
acquired Granite Mortgage, a mortgage bank, through a merger, which was accounted for as a pooling of
interests. In July 2003, the Company acquired First Commerce Corporation and its subsidiary bank through a
merger, which was accounted for as a purchase transaction. All information presented is consolidated data
unless
otherwise specified. In addition, amounts per share have been adjusted to reflect the 5-for-4 stock split paid
May 31, 2002. This discussion is intended to provide a general overview of the Companys performance in 2003 and outlook for
2004. Readers seeking a more in-depth discussion of 2003 are invited to read the more detailed discussions
below
as well as the financial statements and related notes included under Item 8. The Year 2003 in Review Earnings in 2003 improved slightly amidst the challenges presented by sluggish national and weak local
economies, as well as the opportunities embraced to expand into new markets. The Companys mortgage
operations posted record profits for 2003, principally earned in the first three quarters of the year during
a period
of low mortgage interest rates. Substantially lower mortgage volumes followed in the fourth quarter due to a
rise
in mortgage interest rates. The Companys commercial and retail banking operations were challenged in 2003 by
further declining short-term interest rates, intended to support the national economy, that squeezed already
compressed net interest margins. In addition, high unemployment in the Companys weak local economies
increased levels of nonperforming loans, which resulted in higher provisions for loan losses. Despite this
challenging business environment, the Company seized opportunities to expand its banking operations into six
new
markets with six new banking offices and one new loan production office and to expand its mortgage operations
into three new markets. Three of the Companys six new banking offices were acquired through its acquisition of First Commerce
Corporation of Charlotte. In operation since 1996, the First Commerce banking offices were relatively young
compared with many of the Companys banking offices. In addition to the three new banking offices, the merger
added significantly to the Companys loans, investment securities, total assets, deposits, borrowings and
capital. 13




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##### 



Financial Highlights($ in thousands, except per share data)
    
    2003
    
    2002
    
    % changeEarningsNet interest income
    
    $
    39,307
    
    
    $
    34,908
    
    
    
    12.6
    %Provision for loan losses
    
    
    4,764
    
    
    
    3,492
    
    
    
    36.4
    %Other income
    
    
    14,438
    
    
    
    11,398
    
    
    
    26.7
    %Other expense
    
    
    25,862
    
    
    
    20,316
    
    
    
    27.3
    %Net income
    
    
    15,308
    
    
    
    15,102
    
    
    
    1.4
    %Per shareNet income- Basic
    
    $
    1.14
    
    
    $
    1.11
    
    
    
    2.7
    %- Diluted
    
    
    1.13
    
    
    
    1.11
    
    
    
    1.8
    %At year-endAssets (as reported)
    
    $
    971,383
    
    
    $
    742,015
    
    
    
    30.9
    %Assets (acquired through merger)
    
    
    171,042
    
    
    
    
    
    
    
    n/aAssets (excluding assets acquired)
    
    
    800,341
    
    
    
    742,015
    
    
    
    7.9
    %Loans (as reported)
    
    
    715,845
    
    
    
    532,922
    
    
    
    34.3
    %Loans (acquired through merger)*
    
    
    108,180
    
    
    
    
    
    
    
    n/aLoans (excluding loans acquired)
    
    
    607,665
    
    
    
    532,922
    
    
    
    14.0
    %Deposits (as reported)
    
    
    735,099
    
    
    
    547,249
    
    
    
    34.3
    %Deposits (acquired through merger)*
    
    
    132,942
    
    
    
    
    
    
    
    n/aDeposits (excluding deposits acquired)
    
    
    602,157
    
    
    
    547,249
    
    
    
    10.0
    %RatiosReturn on average assets
    
    
    1.78
    %
    
    
    2.13
    %Return on average equity
    
    
    11.40
    %
    
    
    11.98
    %Average capital to average assets
    
    
    15.58
    %
    
    
    17.80
    %Efficiency ratio
    
    
    46.81
    %
    
    
    42.29
    %
   *
    
    On July 15, 2003, gross loans of $115,427 and deposits of $132,048 were acquired from
First Commerce.The December 31, 2003 balances of such loans and deposits are reflected in the table above. Strong earnings from mortgage originations led to a year of slightly higher earnings for the Company in 2003.
Earnings of $15,307,893 in 2003 were a 1.4% increase over the $15,105,300 earned in 2002. On a per share
basis, earnings rose to $1.13 in 2003 compared to $1.11 in 2002. In 2003, the Company earned 1.78% on
average assets and 11.40% on average equity. Its efficiency ratio was 46.81%. Factors that significantly affected 2003 earnings and financial position:  °
    
    Granite Mortgage (formerly GLL & Associates), the Companys mortgage banking
subsidiary, posted record 2003 profits of $2,244,639, an 85.9% increase over 2002,
primarily due to strong mortgage activity in the first three quarters of 2003. Mortgage
volumes were $421,174,000 in 2003 compared to $271,267,000 in 2002.°
    
    Net interest income increased $4,398,581, or 12.6%, as a result of growth in loans and
deposits, but net interest margins contracted 44 basis points to 5.06% in 2003 compared to
5.50% in 2002 as the new volumes of loans and deposits were less profitable.°
    
    During 2003, loan loss provisions increased $1,271,628, or 36.4%, to provide for
charge-offs due to continued weak local economies. Total nonperforming loans were
$11,332,793 as of December 31, 2003 compared to $4,417,845 as of December 31, 2002.
Included in the nonperforming loans as of December 31, 2003 was $3,268,082 of which
80% of the principal balances were guaranteed under the federal governments small
business lending programs.°
    
    Other expenses, or operating overhead, increased $5,546,223, or 27.3%, of which
$2,964,198 was related to the production of higher volumes of mortgage originations and
$2,031,400 was related to the overhead costs of the six new banking offices opened and
acquired during 2003.°
    
    Loans grew by $182,922,695 or 34.3%, of which $108,179,844 were related to the three
offices acquired from First Commerce and $40,963,425 were related to the other three newly
opened offices. Excluding the new 2003 offices, loans grew by $33,779,426, or 6.3%. 14




---



##### 



°
    
    Deposits grew by $187,850,040 or 34.3%, of which $132,941,867 were related to the three
offices acquired from First Commerce and $10,002,597 were related to the other three newly
opened offices. Excluding the new 2003 offices, deposits grew by $44,905,576, or 8.2%.°
    
    During 2003, the Company repurchased 305,999 shares of its common stock for $5,875,198
or an average cost of $19.20 per share. OUTLOOK FOR 2004 Economists claim the United States economy has begun its recovery. The Federal Reserve reduced rates in the
second quarter of 2003 in an effort to support a recovery. The early 2004 economic signals are mixed, and the
Federal Reserve has stated its intentions to remain accommodative for a considerable period. Some economists
predict that the Federal Reserve will likely remain neutral for most of 2004. Other economists believe that the
economy will strengthen sufficiently to prompt the Federal Reserve to increase rates or tighten moderately in the
summer of 2004. After an economic bottom has occurred, banks may continue to experience increases in their levels of
nonperforming loans, even into the beginning of the subsequent recovery period. Also, as short-term interest rates
become stable, asset-sensitive banks, such as the Bank, may experience improvement in net interest margins
because the interest rates on their fixed-rate sources of funding continue to adjust to the lower rates prevalent in
the market. The Companys balance sheet remains moderately asset-sensitive because of its significant level of variable rate
loans. Asset-sensitive means that when interest rates in the overall economy change, interest rates on the
Companys variable rate assets, primarily loans, change more rapidly than the interest rates on its deposits.
Therefore, when interest rates rise, the Companys interest income rises at a faster pace than the interest expense it
pays on its time deposits and other fixed rate funding. Likewise, when interest rates fall, the Companys interest
income on loans declines at a faster pace than the interest it pays on time deposits and other fixed rate funding. In
an effort to reduce its asset sensitivity, the Company has historically placed floors and ceilings on many of its
variable rate commercial loans. Floors lessen the Companys exposure to declining rates, while ceilings reduce the
Companys benefit from rising rates. For 2004, some analysts are predicting an interest rate environment in which short-term interest rates will remain
fairly stable, and may even rise in the last six to seven months of the year. As in previous periods of flat to rising
interest rates, the Company anticipates it will continue to adjust both the mix and pricing of its rate-sensitive assets
and liabilities so as to improve, to the extent possible, its net interest margin and spreads. In addition, the
Companys mortgage subsidiary has historically performed better during periods of lower interest rates due to a
favorable housing market, which can serve to partially offset the effects that asset sensitivity may have on net
interest income. The Company believes mortgage originations will be less active in 2004 than in 2003, unless
longer term rates decline from the low levels experienced in 2003 or an economic recovery increases the demand
for housing. The Company also plans to continue to grow its loan portfolio and to use both deposit growth and alternative
sources to fund the loan growth. The Company believes that its credit quality controls remain effective and expects
to provide loan loss reserves as are deemed prudent based on its credit quality analysis. Although 2004 may bring a mixed economic environment, the Company is optimistic regarding its ability to
perform under such varying economic circumstances. Efforts are underway to introduce the Companys retail and
commercial banking services to the Winston-Salem market in the fourth quarter of 2004, where it already has a
significant mortgage presence. Planting such seeds in new markets has a challenging effect on current earnings,
but the Company believes the future benefits will outweigh the present challenges. The Company plans to continue
to diversify and broaden its market and economic base, when determined prudent to do so, as it seeks sustainable
earnings growth for its shareholders. 15




---



##### 



SEGMENT INFORMATION Statement of Financial Accounting Standards (SFAS) No. 131, Disclosures about Segments of an Enterprise
and Related Information requires public companies to report certain financial information about operating
segments for which such information is available and utilized by the chief operating decision maker in
determining the allocation of resources and also in assessing performance. Historically, the Company presented
financial information as one segment as it had no distinct operating segments based on the requirements of
SFAS No. 131. As a result of the acquisition of First Commerce by the Bank and as a part of the continued
integration, management has re-evaluated its reportable operating segments and determined that it has the
following segments in accordance with SFAS No. 131: Community Banking, Mortgage Banking and Other.
The chief operating decision maker includes certain members of the Companys management and board
committees. CRITICAL ACCOUNTING POLICIES The accounting and reporting policies of the Company and its subsidiaries are in accordance with accounting
principles generally accepted in the United States and conform to general practices within the banking industry.
The more critical accounting and reporting policies include the Companys accounting for securities, loans, the
allowance for loan losses and income taxes. In particular, the Companys accounting policies relating to the
allowance for loan losses, investment securities fair value estimates and mortgage loans held for sale fair value
estimates involve the use of estimates and require significant judgments to be made by management. Different
assumptions in the application of these policies could result in material changes in the Companys consolidated
financial position or consolidated results of operations. Please see the discussions below under the captions
Loans, Provisions and Allowance for Loan Losses and Investment Securities. Also, please refer to Note 1
in the Notes to Consolidated Financial Statements under Item 8, Financial Statements & Supplementary Data
for additional information regarding all of the Companys critical and significant accounting policies. LOANS - Loans that management has the intent and ability to hold for the foreseeable future are reported
at their outstanding principal balances adjusted for any deferred fees or costs. Substantially all loans earn
interest on the level yield method based on the daily outstanding balance. PROVISIONS AND ALLOWANCE FOR LOAN LOSSES - The provision for loan losses charged to
operations is an amount sufficient to bring the allowance for loan losses to an estimated balance considered
adequate to absorb probable losses in the portfolio. Managements determination of the adequacy of the allowance
is based on an evaluation of the portfolio, current economic conditions, periodic and systematic loan reviews,
historical loan loss experience, value of the collateral and other risk factors. Specific allowance is made and maintained to absorb losses for individually identified borrowers. These losses are
assessed on an account-by-account basis based on managements current evaluation of the Companys loss
exposure for each credit, given the payment status, financial condition of the borrower, and value of underlying
collateral. Included in the review of individual loans are those that are impaired as provided in SFAS No. 114,
Accounting for Creditors for Impairment for a Loan. Loans are deemed to be impaired when the Company
determines that it is probable the Company will be unable to collect all amounts due according to the terms of the
loan agreement. Impaired loans are measured based on the present value of expected future cash flows discounted
at the loans effective interest rate or, as a practical matter, at the loans observable market value or fair value of
the collateral if the loan is collateral dependent. A reserve, recorded as a specific reserve in the allowance for loan
losses, is established to record the difference between the stated loan amount and the present value or market value
of the impaired loan. Impaired loans may be valued on a loan-by-loan basis (e.g., loans with risk characteristics
unique to an individual borrower) or on an aggregate basis (e.g., loans with similar risk characteristics). The
Companys policy for recognition of interest income on impaired loans is the same as its interest income
recognition policy for non-impaired loans. The Company discontinues the accrual of interest when the collectibility
of such interest becomes doubtful. Recovery of the carrying value of loans is dependent to some extent on future
economic, operating and other conditions that may be beyond the Companys control. For the homogeneous pools
of loans that have not been specifically identified, estimates of losses are largely based on charge-off trends,
expected default rates, general economic conditions and overall portfolio quality. This evaluation is inherently
subjective as it requires material estimates and unanticipated future adverse changes in such conditions could result
in material adjustments to the allowance for loan losses that could adversely impact earnings in future periods.
The Companys nonperforming assets were $13,108,030 and $5,620,448 as of December 31, 2003 and 2002,
respectively, and its charge-offs were $5,087,661, $1,555,068 and $4,500,811 for 2003, 2002 and 2001,
respectively. 16




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##### 



INVESTMENT SECURITIES - Securities not classified as either held to maturity securities or trading securities,
and equity securities not classified as trading securities, are classified as available for sale securities and reported
at fair value, with unrealized gains and losses excluded from earnings and reported as a separate component of
consolidated shareholders equity. The fair values of these securities are based on quoted market prices, dealer
quotes and prices obtained from independent pricing services. Available for sale and held to maturity securities are
reviewed quarterly for possible other-than-temporary impairment. The review is inherently subjective as it requires
material estimates and judgments, including an analysis of the facts and circumstances of each individual
investment such as the length of time the fair value has been below cost, the expectation for that securitys
performance, the credit worthiness of the issuer and the Companys ability to hold the security to maturity.
Declines in the fair value of the individual held to maturity and available for sale securities below their costs that
are other-than-temporary result in write-downs of the individual securities to their fair value. The related
write-downs are included in consolidated earnings as realized losses. MORTGAGE LOANS HELD FOR SALE - The Company originates certain residential mortgage loans with the
intent to sell. Mortgage loans held for sale are reported at the lower of cost or market value on an aggregate loan
portfolio basis. Gains or losses realized on the sales of mortgage loans are recognized at the time of sale and are
determined by the difference between the net sales proceeds and the carrying value of the loans sold, adjusted for
any servicing asset or liability. Gains and losses on sales of mortgage loans are included in noninterest income. DERIVATIVES AND HEDGING ACTIVITIES - The Company enters into derivative contracts to hedge certain
assets, liabilities, and probable forecasted transactions. On the date the Company enters into a derivative contract,
the derivative instrument is designated as: (1) a hedge of the fair value of a recognized asset or liability or of an
unrecognized firm commitment (a fair value hedge); (2) a hedge of the variability in expected future cash
flows associated with an existing recognized asset or liability or a forecasted transaction (a cash flow hedge);
or (3) held for other risk management purposes (risk management derivatives). The Companys primary transactions involve cash flow hedges. In a cash flow hedge, the effective portion of the
changes in the fair value of the hedging derivative is recorded in accumulated other comprehensive income and
is subsequently reclassified into earnings during the same period in which the hedged item affects earnings. The
change in fair value of any ineffective portion of the hedging derivative is recognized immediately in earnings. The Company formally documents the relationship between the hedging instruments and hedged items, as well as
its risk management objective and strategy before undertaking the hedge. To qualify for hedge accounting, the
derivatives and related hedged items must be designated as a hedge. Both at the inception of the hedge and on an
ongoing basis, the Company assesses whether the hedging relationship is expected to be highly effective in
offsetting changes in fair value or cash flows of hedged items. If it is determined that the derivative instrument is
not highly effective as a hedge, hedge accounting is discontinued. RECENT ACQUISITION On July 15, 2003, the Company completed its acquisition of First Commerce Corporation of Charlotte, North
Carolina. As of July 15, 2003, First Commerce had total assets of approximately $171,042,000 and operated three
banking offices in the Charlotte-Gastonia-Rock Hill metropolitan statistical area. Under the terms of the
transaction, the Company issued 543,217 shares of common stock and paid $9,829,749 in cash to First Commerce
shareholders. The transaction was accounted for as a purchase and resulted in approximately $11,477,000 in
intangible assets. RESULTS OF OPERATIONS The following discussion relates to operations for the year ended December 31, 2003 compared to the year ended
December 31, 2002, the year ended December 31, 2002 compared to the year ended December 31, 2001, and
the year ended December 31, 2001 compared to the year ended December 31, 2000. 17




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##### 



2003 COMPARED TO 2002 In 2003, the Company earned $15,307,893, or $1.13 per share, compared to $15,102,300, or $1.11 per share, in
2002. The earnings provided returns on average assets of 1.78% in 2003 compared to 2.13% in 2002 and returns
on average equity of 11.40% in 2003 compared to 11.98% in 2002. The earnings increase was primarily
attributable to higher net interest income and income from mortgage originations, which were mostly offset by
higher loan loss provisions and overhead costs. The Companys net interest income increased $4,398,581, or 12.60%, during 2003 compared to 2002. This
increase was primarily because increases in net interest income from new volumes was only partially offset by
lower net interest income resulting from lower interest rates. The Companys net interest margin averaged 5.18%
for the year-to-date period, down from 5.47% for 2002. For a discussion of the Companys asset-sensitivity and
the related effects on the Companys net interest income and net interest margins, please see Net Interest Income
and Liquidity, Interest Rate Sensitivity and Market Risks below. Higher loan volumes led to higher interest income for 2003. Interest income for 2003 increased $4,985,650,
or 10.91%, from 2002 primarily because the growth in interest income from higher volumes of commercial and
mortgage loans was only partially offset by reduced interest income due to lower rates on both loans and
investments in general. Interest and fees on loans increased $5,781,538, or 14.95%, due to higher average
volumes and rates during the year. Yields on loans averaged 6.79% for 2003, down from 7.34% for 2002. The
prime rate averaged 4.13% during 2003 compared to 4.69% during 2002. Gross loans averaged $654,288,794 in
2003 compared to $526,758,803 last year, an increase of $127,529,991, or 24.21%. Average loans of the Bank
were $612,278,824 compared to $504,520,592 last year, an increase of $107,758,232, or 21.36%, while average
loans of Granite Mortgage were $42,009,970 compared to $22,238,211 last year, an increase of $19,771,759, or
88.91%. The growth in the Banks average loans was effected by $115,427,028 in loans acquired on July 15,
2003 from First Commerce and $40,963,425 in loans originated by the other Bank offices opened during
2003, although these loan volumes were included in the Banks averages for only a portion of the year. The
growth in Granite Mortgages average loans resulted from mortgage originations of approximately $421,174,000
in 2003 compared to approximately $271,267,000 in 2002. The levels of mortgage origination and refinancing
activities are very sensitive to changes in interest rates in that higher mortgage interest rates generally have the
effect of reducing both mortgage originations and refinancings, while sustained low mortgage interest rates
eventually have the effect of reducing refinancings as the demand for such refinancings becomes satisfied.
Declining rates generally cause an increase in mortgage refinancings and, to a lesser extent, mortgage originations.
Interest on securities and overnight investments decreased $795,888, or 11.31%, due to lower average yields
earned during the period. The yield on investment securities and overnight investments declined to 5.06% in 2003
from 6.27% in 2002. Investment security yields declined 98 basis points when comparing 2003 and 2002. The
decline in the yield more than offset the increase in the average balances for investment securities and overnight
investments. Average securities and overnight investments were $153,042,239 compared to $139,926,649 last
year, an increase of $13,115,590, or 9.37%. The Bank acquired investment securities of $27,240,789 in the First
Commerce acquisition, which effected average investment balances for the last six months of 2003. Interest expense increased $587,069, or 5.43%, primarily because higher interest expense from higher volumes of
interest-bearing liabilities was partially offset by lower interest expense from lower rates on interest-bearing
deposits and other borrowings. Rates on interest-bearing deposits averaged 1.83% for 2003, down from 2.26%
for 2002. Interest-bearing deposits averaged $530,436,580 in 2003 compared to $429,933,109 last year, an
increase of $100,503,471, or 23.38%. NOW deposits averaged $94,337,036 compared to $83,761,379 in 2002,
an increase of $10,575,657, or 12.63%. Money market deposits averaged $115,633,923 in 2003 compared to
$53,107,539 last year, an increase of $62,526,384, or 117.74%. Time deposits averaged $294,163,967 compared
to $266,835,606 for the same periods, an increase of $27,328,361, or 10.24%. The growth in the Banks average
deposits was effected by $131,068,621 in deposits acquired on July 15, 2003 from First Commerce and
$10,002,597 in deposits received by the other Bank offices opened during 2003, although these deposit volumes
were included in the Banks averages for only a portion of the year. Overnight and other borrowings averaged
$79,683,758 compared to $53,980,926 last year, an increase of $25,702,832, or 47.61%. Overnight borrowings
averaged $17,762,252 compared to $33,426,013 last year, a decrease of $15,663,761, or 46.86%, reflecting a
decrease of $17,215,106, or 85.81%, in average overnight borrowings in the form of federal funds purchased and
securities sold under agreements to repurchase of the Bank, partially offset by an increase of $1,551,345, or
11.61%, in average overnight borrowings in the form of commercial paper related to the commercial deposit
sweep arrangements of the Bank. Other borrowings averaged $61,921,506 compared to $20,554,913 last year, an
increase of $41,366,593, or 201.25%, reflecting an increase of $20,463,181, or 1131.68%, in average
borrowings of the Bank and an increase of $18,588,344, or 99.16%, in temporary borrowings of Granite 18




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##### 



Mortgage primarily due to higher mortgage origination activity. Other borrowings were the principal source of
funding for the mortgage origination activities of Granite Mortgage. Included in average borrowings for the last
six months of the year were $27,000,000 in borrowings assumed in the
acquisition of First Commerce.
General economic trends greatly affect loan losses, and no assurances can be made that further charges to the loan
loss allowance may not be significant in relation to the amount provided during a particular period or that further
evaluation of the loan portfolio based on conditions then prevailing may not require sizable additions to the
allowance, thus necessitating similarly sizable charges to operations. Due to continued unfavorable economic
trends in the Catawba Valley region of the Companys market area and due to higher levels of nonperforming
loans resulting from the weakened local economy, management believed it prudent to charge operations in the
amount of $4,764,010 in 2003 compared to $3,492,382 in 2002, to provide for future losses related to
uncollectible loans. Also due to the continued weak local economy, charge-offs in 2003 were substantially higher than in 2002.
Charge-offs, net of recoveries, in 2003 were $4,662,259, an increase of $3,578,011 over net charge-offs of
$1,084,248 in 2002, of which $2,098,499 were related to commercial loans in default. The effects of a prolonged
recession in the Companys Catawba Valley market area were also evidenced by increases in the Companys
allowance for loan losses as presented below, nonperforming asset levels as presented below, and loans with
higher risk grades. Nonperforming loans totaled $11,332,793 at the end of 2003 compared with $4,417,845 at the
end of 2002. Nonperforming loans as of December 31, 2003 included $3,268,082 of loans where 80% of the
balance is guaranteed under the federal governments small business lending programs. The amount of loans with
the three highest risk grades totaled $12,046,107 at December 31, 2003 as compared with $6,554,602 at
December 31, 2002. Included in these three highest risk grades were the unguaranteed portions of approximately
$1,136,000 of loans made under the federal governments small business loan programs. Some portions of the
Catawba Valley economy are beginning to show signs of growth and the new markets should help diversify the
Companys loan base, but it is difficult to determine if or when the Catawba Valley economy will return to its
former strength. For 2003, total noninterest income was $14,437,740, up $3,040,035, or 26.67%, from $11,397,705 earned in
2002, primarily because of higher fees from mortgage originations. Fees on deposit accounts were $5,537,054
during 2003, up $134,764, or 2.49%, from $5,402,290 in 2002. Also, other service fees and commissions were
$937,787, down $82,151, or 8.05%, from $1,019,938 in 2002, primarily due to lower fee income from sales of
loans and annuities, which decreased $328,404. A further drop in mortgage rates in 2003 increased mortgage
origination activity. Mortgage origination fee income was $6,892,171 for 2003, up $2,942,817, or 74.51%, from
$3,949,354 earned in 2002. Mortgage loans originated during 2003 and 2002 were approximately $421,174,000
and $271,267,000, respectively. The levels of mortgage origination and refinancing activities are very sensitive to
changes in interest rates in that higher mortgage interest rates generally have the effect of reducing both mortgage
originations and refinancings, while sustained low mortgage interest rates eventually have the effect of reducing
refinancings as the demand for such refinancings becomes satisfied. A recent rise in mortgage rates appears to be
causing a slowdown in the level of mortgage originations, and future levels of mortgage lending activity will be
affected significantly by trends in mortgage interest rates. There were no significant gains or losses on sales of
securities in the year-to-date periods of 2003 or 2002. Although management continued to emphasize other
nontraditional banking services, 2003 income from the sales of annuities and life insurance fell short of Company
goals. Total noninterest expenses were $25,862,457 during 2003, up $5,546,223, or 27.30%, from $20,316,234 in
2002. The changes in the various overhead categories included costs associated with the increase in mortgage
origination activities and the addition of newly opened banking offices and the banking offices acquired in the First
Commerce transaction. Total personnel costs, the largest of the overhead expenses, were $16,471,281 during
2003, up $3,570,532, or 27.68%, from $12,900,749 in 2002. Of the $3,570,532 increase, $2,228,175 were
related to mortgage operations, while $1,342,357 were related to banking operations. Noninterest expenses other than for personnel increased 26.64% to $9,391,176 during 2003 from the $7,415,485
incurred in 2002. Of the $1,975,691 increase, the Banks nonpersonnel costs increased $1,227,573, while Granite
Mortgages nonpersonnel costs increased $736,023. Occupancy expenses were $1,205,806 in 2003, up $295,578,
or 32.47%, from $910,228 in 2002, primarily reflecting the additional occupancy costs associated with the newly
opened banking offices and the banking offices acquired from First Commerce. Other noninterest expenses were
$6,797,392 in 2003, up $1,680,807, or 32.85%, from $5,116,585 in 2002. Of the $1,680,807 increase in other
noninterest expenses, $1,052,525 were related to banking operations, while $616,187 were related to mortgage
operations. Year-to-date income tax expense was $7,810,065 in 2003, up $415,172, or 5.61%, from $7,394,893 19




---



##### 



in 2002. The year-to-date effective tax rates were 33.78% and 32.87% for 2003 and 2002, respectively, with the
increase in 2003 being primarily attributable to lower relative levels of income from tax-exempt loans and
investments. 2002 COMPARED TO 2001 In 2002, the Company earned $15,102,300, or $1.11 per share, compared to $13,808,555, or $0.99 per share, in 2001.
The earnings provided returns on average assets of 2.13% in 2002 compared to 2.00% in 2001 and returns on
average equity of 11.98% in 2002 compared to 11.29% in 2001. The earnings increase was primarily attributable
to higher net interest income, lower loan loss provisions and increased income from mortgage originations,
partially offset by increases in operating costs. Net interest income, the Companys largest source of revenues, increased 6.3% to $34,908,104 in 2002 from
$32,840,650 in 2001. Interest income was $45,710,526 in 2002, down 12.6% from $52,284,219 in 2001,
primarily due to lower interest rates from the previous year. The average yield on interest-earning assets
was 7.12% in 2002 compared with 8.27% in 2001. Average interest-earning assets grew by $12,288,466,
or 1.9%, primarily because average loans, the highest yielding asset category, grew by $47,027,071, or 9.8%.
Interest expense decreased 44.4% to $10,802,422 in 2002 compared to $19,443,569 in 2001. The average cost
of funds was 2.23% in 2001 compared with 4.11% in 2001. Lower rates on time deposits resulted in the
significantly lower interest expense. Average balances in transaction accounts, such as noninterest-bearing demand
accounts and interest-bearing savings, NOW and money market accounts, increased $30,090,980, or 13.3%, to
$256,945,371 in 2002 from $226,854,391 in 2001. Average balances in time deposits decreased $35,338,224,
or 11.7%, to $266,835,606 in 2002 from $302,173,830 in 2001. Average overnight borrowings, principally
commercial account balances which are swept into the Companys commercial paper overnight, grew by
$19,238,103, or 135.6%, to $33,426,013 in 2002 from $14,187,910 in 2001. Average other borrowings, which
are principally used to fund mortgage banking activities, increased $1,276,667, or 6.6%, to $20,554,913 in 2002
from $16,278,246 in 2001. Such other borrowings had maturities of less than one year. Primarily because of a recessionary economy, which was particularly severe in the Companys local banking
markets, the Company provided $3,492,382 for possible loan losses in 2002 compared with $4,216,772 in 2001.
Although the 2002 provision was lower than the 2001 provision, it increased the Companys allowance or reserve
for loan losses to 1.59% of net loans outstanding at December 31, 2002 compared to 1.28% at December 31,
2001. Charge-offs, net of recoveries totaled $1,084,248 for 2002 compared with $4,142,051 for 2001.
Nonperforming loans totaled $4,417,845 at the end of 2002 compared
with $4,713,204 at the end of 2001.
Other income was $11,397,705 in 2002, an increase of $1,257,645, or 12.4%, from such revenues of
$10,140,060 in 2001. Continued low interest rates resulted in increases in fees from both mortgage originations
and annuity sales. Fee income from mortgage originations increased $827,202, or 26.5%, to $3,949,354 in 2002
from $3,122,152 in 2001. Also contributing to the increase in fee income was an increase of $214,140 in deposit
fees. Mortgage origination activities have a tendency to increase during periods of sustained low interest rates, as
was the case during 2002. Other expenses, or overhead, increased $1,973,955, or 10.8%, to $20,316,234 in 2002 from $18,342,279 in
2001, primarily due to increased costs associated with higher mortgage origination activity. Personnel expenses,
the largest component of overhead, increased to $12,900,749 in 2002 from $11,408,477 in 2001, primarily due
to increases in expenses related to profit sharing, healthcare and higher production-related compensation resulting
from increased mortgage origination activity. 20




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##### 



2001 COMPARED TO 2000 In 2001, the Company earned $13,808,555, or $0.99 per share, compared to $15,574,583, or $1.10 per share,
in 2000. The earnings provided returns on average assets of 2.00% in 2001 compared to 2.45% in 2000 and
returns on average equity of 11.29% in 2001 compared to 13.41% in 2000. The earnings decrease was primarily
attributable to lower net interest income, which resulted from 11 successive short-term interest rate reductions by
the Federal Reserve Bank. Net interest income, the Companys largest source of revenues, decreased 9% to $32,840,650 in 2001 from
$36,097,440 in 2000. Interest income was $52,284,219 in 2001, down 5.4% from $55,269,464 in 2000,
primarily due to 11 successive reductions in short-term interest rates. The average yield on interest-earning assets
was 8.27% in 2001 compared with 9.51% in 2000. Average interest-earning assets grew by $54,275,383, or
9%, primarily because average loans, the highest yielding asset category, grew by $58,478,916, or 13.9%.
Interest expense increased 1.4% to $19,443,569 in 2001 compared to $19,172,024 in 2000. The average cost of
funds was 4.11% in 2001 compared with 4.57% in 2000. Higher volumes in time deposits resulted in the slightly
higher interest expense. Average balances in transaction accounts, such as noninterest-bearing demand accounts
and interest-bearing savings, NOW and money market accounts, decreased $1,594,954, or 0.7%, to
$226,854,391 in 2001 from $228,449,345 in 2000. Average balances in time deposits grew $38,650,985, or
14.7%, to $302,173,830 in 2001 from $263,522,845 in 2000. Average overnight borrowings, principally
commercial account balances which are swept into the Companys commercial paper overnight, grew by
$1,658,656, or 13.2%, to $14,187,910 in 2001 from $12,529,254 in 2000. Average other borrowings, which
are used to fund mortgage banking activities, increased $10,255,661, or 113.7%, due to significantly higher
mortgage originations resulting from lower mortgage interest rates. Because of both the growth in loans and higher levels of charge-offs and nonperforming loans, the Company
provided $4,216,772 for possible loan losses in 2001 compared with $3,893,585 in 2000. Charge-offs, net of
recoveries totaled $4,142,051 for 2001 compared with $2,288,521 for 2000. Nonperforming loans totaled
$4,713,204 at the end of 2001 compared with $3,484,945 at the end of 2000. Other income was $10,140,060 in 2001, an increase of $2,106,380, or 26.2%, from such revenues of $8,033,680
in 2000. Lower interest rates resulted in increase in fees from both mortgage originations and annuity sales. Fee
income from mortgage originations increased $1,061,123, or 51.5%, to $3,122,152 in 2001 from $2,061,029 in
2000. Also contributing to the increase in fee income were increases of $362,996 in deposit fees and $246,633 in
fees from annuity sales. Mortgage origination and annuity activity have a tendency to increase during periods of
lower interest rates, as was the case during 2001. Other expenses, or overhead, increased $1,563,864, or 9.3%, to $18,342,279 in 2001 from $16,778,415 in
2000, primarily due to increased costs associated with higher mortgage origination activity. Personnel expenses,
the largest component of overhead, increased to $11,408,477 in 2001 from $9,914,791 in 2000. There were very
slight increases in the other categories of overhead expenses. 21




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##### 



NET INTEREST INCOME Net interest income (the difference between interest earned on interest-earning assets, primarily loans in the Bank,
and interest paid on interest-bearing liabilities, primarily deposits in the Bank) represents the most significant
portion of the Companys earnings. It is managements on-going policy to maximize net interest income. Net
interest income totaled $39,306,685, $34,908,104, and $32,840,650 for 2003, 2002 and 2001 respectively,
representing an increase of 12.6% for 2003 over 2002, an increase of 6.3% for 2002 over 2001, and a decrease
of 9% for 2001 from 2000. Interest rate spreads have been at least 4.00% over the last three years, and the
Company continues efforts to maximize these favorable spreads by managing both loan and deposit rates in order
to support the overall earnings growth. The following table presents the daily average balances, interest income
and expense and average rates earned and paid on interest-earning assets and interest-bearing liabilities of the
Company for the last three years. AVERAGE BALANCES AND INTEREST INCOME ANALYSIS
for the years ended December 31, 2003
    
    2002
    
    2001Average
    
    Interest
    
    
    
    
    
    Average
    
    Interest
    
    
    
    
    
    Average
    
    InterestAverage
    
    Yield/
    
    Income/
    
    Average
    
    Yield/
    
    Income/
    
    Average
    
    Yield/
    
    Income/dollars in thousands
    
    Balance
    
    Cost
    
    Expense
    
    Balance
    
    Cost
    
    Expense
    
    Balance
    
    Cost
    
    ExpenseAssetsLoans (1)
    
    $
    654,289
    
    
    
    6.79
    %
    
    $
    44,456
    
    
    $
    526,759
    
    
    
    7.34
    %
    
    $
    38,674
    
    
    $
    479,732
    
    
    
    8.95
    %
    
    $
    42,931Taxable securities
    
    
    81,384
    
    
    
    4.11
    %
    
    
    3,342
    
    
    
    68,745
    
    
    
    5.54
    %
    
    
    3,811
    
    
    
    86,309
    
    
    
    6.18
    %
    
    
    5,333Nontaxable securities (2)
    
    
    62,565
    
    
    
    6.89
    %
    
    
    4,310
    
    
    
    70,271
    
    
    
    7.04
    %
    
    
    4,946
    
    
    
    72,964
    
    
    
    7.06
    %
    
    
    5,148Federal funds sold
    
    
    9,093
    
    
    
    1.07
    %
    
    
    97
    
    
    
    910
    
    
    
    1.10
    %
    
    
    10
    
    
    
    15,392
    
    
    
    4.38
    %
    
    
    674Total interest-earning assets
    
    
    807,331
    
    
    
    6.47
    %
    
    
    52,205
    
    
    
    666,685
    
    
    
    7.12
    %
    
    
    47,441
    
    
    
    654,397
    
    
    
    8.27
    %
    
    
    54,086Cash and due from banks
    
    
    24,487
    
    
    
    
    
    
    
    
    
    
    
    22,045
    
    
    
    
    
    
    
    
    
    
    
    21,068All other assets
    
    
    30,052
    
    
    
    
    
    
    
    
    
    
    
    19,509
    
    
    
    
    
    
    
    
    
    
    
    15,755Total assets
    
    $
    861,870
    
    
    
    
    
    
    
    
    
    
    $
    708,239
    
    
    
    
    
    
    
    
    
    
    $
    691,220Liabilities and
shareholders equityNOW deposits
    
    $
    94,337
    
    
    
    0.65
    %
    
    
    615
    
    
    $
    83,761
    
    
    
    0.53
    %
    
    
    442
    
    
    $
    77,575
    
    
    
    1.05
    %
    
    
    813Money market deposits
    
    
    115,634
    
    
    
    1.79
    %
    
    
    2,066
    
    
    
    53,108
    
    
    
    2.07
    %
    
    
    1,097
    
    
    
    34,733
    
    
    
    2.89
    %
    
    
    1,004Savings deposits
    
    
    26,302
    
    
    
    0.14
    %
    
    
    38
    
    
    
    26,229
    
    
    
    0.43
    %
    
    
    112
    
    
    
    24,625
    
    
    
    1.16
    %
    
    
    285Time deposits of $100,000
or more
    
    
    160,781
    
    
    
    2.16
    %
    
    
    3,471
    
    
    
    121,644
    
    
    
    2.91
    %
    
    
    3,536
    
    
    
    133,055
    
    
    
    5.36
    %
    
    
    7,128Other time deposits
    
    
    133,383
    
    
    
    2.64
    %
    
    
    3,524
    
    
    
    145,192
    
    
    
    3.12
    %
    
    
    4,530
    
    
    
    169,119
    
    
    
    5.40
    %
    
    
    9,130Interest-bearing deposits
    
    
    530,437
    
    
    
    1.83
    %
    
    
    9,715
    
    
    
    429,934
    
    
    
    2.26
    %
    
    
    9,718
    
    
    
    439,107
    
    
    
    4.18
    %
    
    
    18,360Overnight borrowings
    
    
    17,762
    
    
    
    1.26
    %
    
    
    224
    
    
    
    33,426
    
    
    
    1.91
    %
    
    
    638
    
    
    
    14,188
    
    
    
    3.28
    %
    
    
    466Other borrowings
    
    
    61,922
    
    
    
    2.34
    %
    
    
    1,451
    
    
    
    20,555
    
    
    
    2.17
    %
    
    
    446
    
    
    
    19,278
    
    
    
    3.21
    %
    
    
    618Total interest-bearing liabilities
    
    
    610,121
    
    
    
    1.87
    %
    
    
    11,390
    
    
    
    483,915
    
    
    
    2.23
    %
    
    
    10,802
    
    
    
    472,573
    
    
    
    4.11
    %
    
    
    19,444Noninterest-bearing deposits
    
    
    109,834
    
    
    
    
    
    
    
    
    
    
    
    93,848
    
    
    
    
    
    
    
    
    
    
    
    89,921Other liabilities
    
    
    7,612
    
    
    
    
    
    
    
    
    
    
    
    4,429
    
    
    
    
    
    
    
    
    
    
    
    6,382Shareholders equity
    
    
    134,303
    
    
    
    
    
    
    
    
    
    
    
    126,047
    
    
    
    
    
    
    
    
    
    
    
    122,344Total liabilities and
shareholders equity
    
    $
    861,870
    
    
    
    
    
    
    
    
    
    
    $
    708,239
    
    
    
    
    
    
    
    
    
    
    $
    691,220Net yield on earning assets and
net interest income (2)(3)
    
    
    
    
    
    
    5.06
    %
    
    $
    40,815
    
    
    
    
    
    
    
    5.50
    %
    
    $
    36,639
    
    
    
    
    
    
    
    5.29
    %
    
    $
    34,642Interest rate spread (4)
    
    
    
    
    
    
    4.60
    %
    
    
    
    
    
    
    
    
    
    
    4.89
    %
    
    
    
    
    
    
    
    
    
    
    4.16
    %
   (1)
    
    Non-accrual loans have been included.  (2)
    
    Yields and interest income on tax-exempt investments have been adjusted to tax equivalent basis using 35% for 2003, 2002 and 2001.  (3)
    
    Net yield on earning assets is computed by dividing net interest earned by average earning assets.  (4)
    
    The interest rate spread is the interest earning assets rate less the interest earning liabilities rate. 22




---



##### 



Changes in interest income and interest expense can result from changes in both volume and rates. The following
table sets forth the dollar amount of increase (decrease) in interest income and interest expense resulting from
changes in the volume of interest earning assets and interest bearing liabilities and from changes in yields and
rates. INTEREST RATE AND VOLUME VARIANCE ANALYSIS
for the years ended December 31, 2003 compared to 2002
    
    2002 compared to 2001Change
    
    
    
    
    
    ChangeAttributable to
    
    
    
    
    
    Attributable todollars in thousands
    
    Volume(1)
    
    Rate(1)
    
    Total
    
    Volume(1)
    
    Rate(1)
    
    TotalLoans
    
    $
    9,014
    
    
    $
    (3,232
    )
    
    $
    5,782
    
    
    $
    3,831
    
    
    $
    (8,088
    )
    
    $
    (4,257
    )Taxable securities
    
    
    610
    
    
    
    (1,079
    )
    
    
    (469
    )
    
    
    (1,029
    )
    
    
    (493
    )
    
    
    (1,522
    )Nontaxable securities
    
    
    (537
    )
    
    
    (99
    )
    
    
    (636
    )
    
    
    (190
    )
    
    
    (12
    )
    
    
    (202
    )Federal funds sold
    
    
    89
    
    
    
    (2
    )
    
    
    87
    
    
    
    (397
    )
    
    
    (267
    )
    
    
    (664
    )Interest-earning assets
    
    $
    9,176
    
    
    $
    (4,412
    )
    
    $
    4,764
    
    
    $
    2,215
    
    
    $
    (8,860
    )
    
    $
    (6,645
    )NOW deposits
    
    $
    62
    
    
    $
    111
    
    
    $
    173
    
    
    $
    49
    
    
    $
    (420
    )
    
    $
    (371
    )Money market deposits
    
    
    1,204
    
    
    
    (235
    )
    
    
    969
    
    
    
    455
    
    
    
    (362
    )
    
    
    93Savings deposits
    
    
    
    
    
    
    (74
    )
    
    
    (74
    )
    
    
    13
    
    
    
    (186
    )
    
    
    (173
    )Time deposits of $100,000
or more
    
    
    991
    
    
    
    (1,056
    )
    
    
    (65
    )
    
    
    (472
    )
    
    
    (3,120
    )
    
    
    (3,592
    )Other time deposits
    
    
    (340
    )
    
    
    (666
    )
    
    
    (1,006
    )
    
    
    (1,019
    )
    
    
    (3,581
    )
    
    
    (4,600
    )Interest-bearing deposits
    
    
    1,917
    
    
    
    (1,920
    )
    
    
    (3
    )
    
    
    (974
    )
    
    
    (7,669
    )
    
    
    (8,643
    )Overnight borrowings
    
    
    (248
    )
    
    
    (166
    )
    
    
    (414
    )
    
    
    500
    
    
    
    (328
    )
    
    
    172Other borrowings
    
    
    933
    
    
    
    72
    
    
    
    1,005
    
    
    
    34
    
    
    
    (206
    )
    
    
    (172
    )Interest-bearing liabilities
    
    $
    2,602
    
    
    $
    (2,014
    )
    
    $
    588
    
    
    $
    (440
    )
    
    $
    (8,203
    )
    
    $
    (8,643
    )
   (1)
    
    The rate/volume variance for each category has been allocated equally on a consistent basis between rate and
volume variances. LIQUIDITY, INTEREST RATE SENSITIVITY AND MARKET RISKS
(INCLUDING QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISKS) The objectives of the Companys liquidity management policy include providing adequate funds to meet the cash
needs of both depositors and borrowers, as well as providing funds to meet the basic needs for on-going
operations of the Company and regulatory requirements. Depositor cash needs, particularly those of commercial
depositors, can fluctuate significantly depending on both business and economic cycles, while both retail and
commercial deposits can fluctuate significantly based on the yields and returns available from alternative
investment opportunities. Borrower cash needs are also often dependent upon business and economic cycles. In
addition, the Companys liquidity is affected by off-balance sheet commitments to lend in the forms of unfunded
commitments to extend credit and standby letters of credit. As of December 31, 2003 and 2002, such unfunded
commitments to extend credit were $120,746,272 and $87,675,231, respectively, while commitments in the form
of standby letters of credit totaled $6,133,695 and $6,664,731, respectively. The Company has a common stock repurchase plan, which it uses (1) to reduce the number of shares outstanding
when its share price in the market makes repurchases advantageous and (2) to manage capital levels. The
Company repurchases its shares in the open market, subject to legal requirements and the repurchase rules of the
Nasdaq Stock Market®, the stock exchange on which the Companys common stock is listed, and through
unsolicited privately negotiated transactions. The Companys share repurchases are funded through the payment of
dividends to the Company by its subsidiaries, principally the Bank. Because such dividend payments have the
effect of reducing its subsidiaries capital and liquidity positions, the subsidiaries consider both capital and
liquidity levels needed to support current and future business activities when deciding the dividend amounts
appropriate to fund share repurchases. The Company plans to continue to repurchase its shares, subject to
regulatory requirements and market conditions, for the foreseeable future, while maintaining a well capitalized
level. Although shares repurchased are available for reissuance, the Company has not historically reissued, nor
does it currently anticipate reissuing, repurchased shares. The Company repurchased 305,999 shares of its
common stock at an average price of $19.20 during 2003. In 2002, Granite Mortgage changed the method in which it manages its mortgage loans in process. Prior to the
change, as Granite Mortgage committed to or locked in a mortgage rate with a customer, Granite Mortgage would
concurrently obtain a commitment from a institutional buyer to buy the mortgage upon its closing 30 to 45 days
thereafter. Effective in 2002, Granite Mortgage waits until the mortgage loan closes to arrange for the sale of the
mortgage loan. This method allows Granite Mortgage to bundle mortgage loans and obtain better pricing 23




---



##### 



compared with the sale of individual mortgage loans. However, this method also introduces interest rate risk to
Granite Mortgages loans in process since rates may fluctuate subsequent to Granite Mortgages rate commitment
to the mortgage customer. In order to minimize the risk that interest rates may move against Granite Mortgage
subsequent to the rate commitment, Granite Mortgage began entering into hedge contracts to forward sell
mortgage-backed securities at the same time as the rate commitment. When the mortgage loan is ultimately sold,
Granite Mortgage then buys the mortgage-backed security, thereby completing the hedge contract. Granite
Mortgage classifies all of its hedge contracts in accordance with SFAS No. 133 as a hedge of an exposure to
changes in cash flows from forecasted transactions, referred to as a cash flow hedge. As of December 31,
2003, Granite Mortgage held $16,032,147 in open mortgage-backed security commitments with an estimated
market value of $15,928,407, an unrealized loss of $103,740. For 2003, there were realized gains on hedged
mortgage loan commitments of $172,517 and realized losses of $200,456 on commitments to sell mortgage-backed
securities. In addition to the improved spreads resulting from more advantageous pricing from bundling mortgage
loans for sale, Granite Mortgage production also believes that this management method increases production
efficiencies. Through its acquisition of First Commerce, the Company acquired a statutory business trust, First Commerce
Capital Trust I, created by First Commerce in 2001 to facilitate the issuance of a $5,000,000 trust preferred
security through a pooled trust preferred securities offering. First Commerce issued this security to increase its
regulatory capital. This security bears a variable interest rate based on the sixty-day LIBOR plus 375 basis
points, matures in 2031 and is callable at par in 2006. Except for the hedging strategy, neither the Company nor its subsidiaries have historically incurred off-balance
sheet obligations through the use of or investment in off-balance sheet derivative financial instruments or
structured
finance or special purpose entities organized as corporations, partnerships or limited liability companies or
trusts.
The Bank and Granite Mortgage both had contractual off-balance sheet obligations in the form of noncancelable
operating leases with unrelated vendors. As of December 31, 2003, payments due under such operating lease
arrangements are $573,234 in 2004, $1,205,598 in the years 2005 through 2006, $856,694 in the years 2007
through 2008 and $1,273,235 in the years 2009 and thereafter. Liquidity requirements of the Bank are primarily met through two categories of funding. The first is core
deposits, which includes demand deposits, savings accounts and certificates of deposits. The Bank considers these
to be a stable portion of the Banks liability mix and the result of on-going stable consumer and commercial
banking relationships. As of December 31, 2003, the Banks core deposits, defined as total deposits excluding
time deposits of $100,000 or more, totaled $574,318,385, or 78.1%, of the Banks total deposits. The other principal method of funding used by the Bank is through large denomination certificates of deposit,
federal funds purchased, repurchase agreements and other short and intermediate term borrowings. The Banks
policy is to emphasize core deposit growth rather than growth through purchased or brokered time deposits as the
cost of purchased or brokered time deposits is greater. During periods of weak demand for its deposit products,
the Bank maintains several credit facilities under which it may borrow on a short-term basis. As of December 31,
2003, the Bank had three unsecured lines of overnight borrowing capacity with its correspondent banks, which
totaled $21,000,000. In addition the Bank uses its capacity to pledge assets to serve as collateral to borrow on a
secured basis. As of December 31, 2003, the Bank had investment securities pledged to secure overnight funding
lines in the approximate amounts of $8,250,000 with the Federal Reserve Bank and no securities with the
Federal Home Loan Bank. The Bank also has pledged its loans secured by first liens on residential and
commercial real estate as collateral for additional borrowings from the Federal Home Loan Bank during periods
when loan demand exceeds deposit growth or when the interest rates on such borrowings compare favorably to
interest rates on deposit products. As of December 31, 2003, the Bank had the capacity to borrow approximately
$91,560,000 from the Federal Home Loan Bank against its pledged residential and commercial real estate loans. Granite Mortgage temporarily funds its mortgages, from the time of origination until the time of sale, through
the use of a warehouse line of credit from one of the Companys correspondent financial institutions. For the
years ended December 31, 2003 and 2002, this line of credit was $50,000,000 and $30,000,000, of which
$26,107,383 and $28,198,129, respectively, were outstanding at year end. Granite Mortgage requests the line
of credit based on its estimated funding needs for the year. The line is secured by the mortgage loans originated
and the Company serves as guarantor on this borrowing. 24




---



##### 



On June 30, 2003, the Company obtained an unsecured three-year line of credit from one of the Banks
correspondent banks to fund the cash portion of the consideration to be paid in the Companys acquisition of First
Commerce Corporation. The line is in the amount of $10,000,000 and bears an interest rate of one-month LIBOR
plus 120 basis points, with interest payable quarterly. As of December 31, 2003, the Company had not borrowed
any funds against this line of credit because the Company had sufficient liquidity to pay the cash portion of the
merger consideration. The majority of the Companys deposits are rate-sensitive instruments with rates which tend to fluctuate with
market rates. These deposits, coupled with the Companys short-term certificates of deposit, have increased the
opportunities for deposit repricing. The Company places great significance on monitoring and managing the
Companys asset/liability position. The Companys policy of managing its interest margin (or net yield on
interest-earning assets) is to maximize net interest income while maintaining a stable deposit base. Because the
Company has historically relied on deposits from its local market areas as its primary sources of funding, it has
not historically sought out-of-market or brokered time deposits as a funding source, resulting in a deposit base
that has not generally been subject to the volatility experienced in national financial markets in recent years.
However, the Company does realize the importance of minimizing such funding volatility while at the same time
maintaining and improving earnings. A common method used to manage interest rate sensitivity is to measure,
over various time periods, the difference or gap between the volume of interest-earning assets and interest-bearing
liabilities repricing over a specific time period. However, this method addresses only the magnitude of funding
mismatches and does not address the magnitude or relative timing of rate changes. Therefore, management
prepares on a regular basis earnings projections based on a range of interest rate scenarios of rising, flat and
declining rates in order to more accurately measure interest rate risk. Interest-bearing liabilities and the loan portfolio are generally repriced to current market rates. The Companys
balance sheet is asset-sensitive, meaning that in a given period there will be more assets than liabilities subject to
immediate repricing as the market rates change. Because most of the Companys loans are at variable rates, they
reprice more rapidly than rate sensitive interest-bearing deposits. During periods of rising rates, this results in
increased net interest income. The opposite occurs during periods of declining rates. INTEREST RATE SENSITIVITY (GAP ANALYSIS)
As of December 31, 2003 Interest Sensitive Within
    
    Total
    
    Non-sensitiveor Sensitive1 to
    
    91 to
    
    181 to
    
    Within
    
    Beyonddollars in thousands
    
    90 Days
    
    180 Days
    
    365 Days
    
    1 Year
    
    1 Year
    
    TotalInterest-earning AssetsInterest-bearing due from banks
    
    $
    4,103
    
    
    
    
    
    
    
    
    
    
    $
    4,103
    
    
    
    
    
    
    $
    4,103Securities (at amortized cost) (1):U.S. Treasury
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    $
    5,314
    
    
    
    5,314U.S. Government agencies
    
    
    
    
    
    $
    4,560
    
    
    $
    1,000
    
    
    
    5,560
    
    
    
    67,884
    
    
    
    73,444States and political subdivisions
    
    
    2,245
    
    
    
    4,009
    
    
    
    355
    
    
    
    6,609
    
    
    
    55,603
    
    
    
    62,212Other (including equity securities)
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    17,085
    
    
    
    17,085Loans (gross):Real estate - Construction
    
    
    78,025
    
    
    
    1,269
    
    
    
    2,355
    
    
    
    81,649
    
    
    
    8,527
    
    
    
    90,176Real estate - Mortgage
    
    
    308,406
    
    
    
    3,093
    
    
    
    3,541
    
    
    
    315,040
    
    
    
    62,916
    
    
    
    377,956Commercial, financial and agricultural
    
    
    183,363
    
    
    
    2,404
    
    
    
    3,090
    
    
    
    188,857
    
    
    
    22,620
    
    
    
    211,477Consumer
    
    
    4,537
    
    
    
    347
    
    
    
    1,179
    
    
    
    6,063
    
    
    
    29,918
    
    
    
    35,981All other
    
    
    
    
    
    
    
    
    
    
    115
    
    
    
    115
    
    
    
    1,091
    
    
    
    1,206Mortgages held for sale
    
    
    23,093
    
    
    
    
    
    
    
    
    
    
    
    23,093
    
    
    
    
    
    
    
    23,093Total interest-earning assets
    
    $
    603,772
    
    
    $
    15,682
    
    
    $
    11,635
    
    
    $
    631,089
    
    
    $
    270,958
    
    
    $
    902,047Interest-bearing LiabilitiesInterest-bearing deposits:Savings and NOW accounts
    
    $
    128,910
    
    
    
    
    
    
    
    
    
    
    $
    128,910
    
    
    
    
    
    
    $
    128,910Money market accounts
    
    
    135,046
    
    
    
    
    
    
    
    
    
    
    
    135,046
    
    
    
    
    
    
    
    135,046Time deposits of $100,000 or more
    
    
    59,237
    
    
    $
    37,349
    
    
    $
    36,309
    
    
    
    132,895
    
    
    $
    27,886
    
    
    
    160,781Other time deposits
    
    
    37,355
    
    
    
    37,829
    
    
    
    52,359
    
    
    
    127,543
    
    
    
    45,841
    
    
    
    173,384Overnight borrowings
    
    
    25,205
    
    
    
    
    
    
    
    
    
    
    
    25,205
    
    
    
    
    
    
    
    25,205Other borrowings
    
    
    29,108
    
    
    
    8,000
    
    
    
    11,000
    
    
    
    48,108
    
    
    
    17,187
    
    
    
    65,295Total interest-bearing liabilities
    
    $
    414,861
    
    
    $
    83,178
    
    
    $
    99,668
    
    
    $
    597,707
    
    
    $
    90,914
    
    
    $
    688,621Interest sensitivity gap
    
    $
    188,911
    
    
    $
    (67,496
    )
    
    $
    (88,033
    )
    
    $
    33,382Cumulative interest sensitivity gap
    
    
    188,911
    
    
    
    121,415
    
    
    
    33,382
    
    
    
    33,382Interest earning-assets as a percentage
of interest-bearing liabilities
    
    
    146
    %
    
    
    19
    %
    
    
    12
    %
    
    
    106
    %
  (1)
    
    Interest sensitivity periods for debt securities are based on contractual maturities. 25




---



##### 



The Company uses several modeling techniques to measure interest rate risk including the gap analysis previously
discussed, the simulation of net interest income under varying interest rate scenarios and the theoretical impact of
immediate and sustained rate changes referred to as rate shocks. The following table summarizes the estimated
theoretical impact on the Companys tax equivalent net interest income and market value of equity from
hypothetical rate shocks of plus and minus 1%, 2%, 3% and 4% as compared to the estimated theoretical
impact of rates remaining unchanged. The prospective effects of these hypothetical interest rate changes, is based
upon numerous assumptions including relative and estimated levels of key interest rates. Rate shock modeling is
of limited usefulness because it does not take into account the pricing strategies management would undertake in
response to the depicted sudden and sustained rate changes. Additionally, management does not believe rate
changes of the magnitude described are likely in the forecast period presented. Estimated Resulting Theoretical
    
    Estimated Resulting TheoreticalHypothetical Immediate
    
    Equivalent Net Interest Income
    
    Market Value of Equitydollars in thousands
    
    and Sustained Rate Change
    
    Amount
    
    % Change
    
    Amount
    
    % Change+4
    %
    
    $
    45,953
    
    
    
    16.1
    %
    
    $
    114,342
    
    
    
    -18.3
    %+3
    %
    
    
    44,355
    
    
    
    12.0
    %
    
    
    119,979
    
    
    
    -14.2
    %+2
    %
    
    
    42,720
    
    
    
    7.9
    %
    
    
    126,078
    
    
    
    -9.9
    %+1
    %
    
    
    41,098
    
    
    
    3.8
    %
    
    
    132,697
    
    
    
    -5.2
    %0
    %
    
    
    39,596
    
    
    
    0.0
    %
    
    
    139,904
    
    
    
    0.0
    %-1
    %
    
    
    36,189
    
    
    
    -8.6
    %
    
    
    147,793
    
    
    
    5.6
    %-2
    %
    
    
    32,264
    
    
    
    -18.5
    %
    
    
    157,570
    
    
    
    12.6
    %-3
    %
    
    
    28,737
    
    
    
    -27.4
    %
    
    
    168,873
    
    
    
    20.7
    %-4
    %
    
    
    25,789
    
    
    
    -34.9
    %
    
    
    180,158
    
    
    
    28.8
    %
 The following table presents the maturity distribution of the Companys loans by type, including fixed rate loans. MATURITIES AND SENSITIVITIES OF LOANS TO CHANGES IN INTEREST RATES
As of December 31, 2003 Within
    
    One to
    
    FiveOne
    
    Five
    
    Years ordollars in thousands
    
    Year
    
    Years
    
    More
    
    TotalReal estate - Construction
    
    $
    35,215
    
    
    $
    33,303
    
    
    $
    21,658
    
    
    $
    90,176Real estate - Mortgage
    
    
    65,089
    
    
    
    189,171
    
    
    
    123,696
    
    
    
    377,956Commercial, financial and agricultural
    
    
    116,480
    
    
    
    78,520
    
    
    
    16,477
    
    
    
    211,477Consumer
    
    
    4,397
    
    
    
    30,295
    
    
    
    1,289
    
    
    
    35,981All other
    
    
    821
    
    
    
    385
    
    
    
    
    
    
    
    1,206Total
    
    $
    222,002
    
    
    $
    331,674
    
    
    $
    163,120
    
    
    $
    716,796Predetermined rate, maturity
greater than one year
    
    
    
    
    
    $
    99,733
    
    
    $
    16,738
    
    
    $
    116,471Variable rate or maturing within
one year
    
    
    222,002
    
    
    
    231,941
    
    
    
    146,382
    
    
    
    600,325Total
    
    $
    222,002
    
    
    $
    331,674
    
    
    $
    163,120
    
    
    $
    716,796
 The Companys rate paid on interest-bearing deposits declined to 1.83% in 2003 compared to 2.26% in
2002. The Companys deposit growth was primarily reflected in transaction deposits, which increased
$100,841,882. Rate sensitive consumers chose to place funds in transaction deposit accounts because of lower
interest rate differentials to time deposits. Increased customer awareness of interest rates increases the
importance
of rate management by the Company. The Companys management continuously monitors market pricing,
competitor rates, and internal interest rate spreads in an effort to maintain the Companys growth and profitability.
Deposits continue to be the principal source of funds for continued growth, so the Company attempts to structure
its rates so as to promote deposit and asset growth while at the same time increasing the overall profitability of the
Company. The daily average amounts of deposits of the Bank are summarized below.
AVERAGE DEPOSITS
for the years ended December 31, AVERAGE DEPOSITSfor the
years ended December 31, dollars in thousands
    
    2003
    
    2002
    
    2001Non-interest-bearing demand deposits
    
    $
    109,834
    
    
    $
    93,848
    
    
    $
    89,921Interest-bearing demand deposits
    
    
    209,971
    
    
    
    136,869
    
    
    
    112,308Savings deposits
    
    
    26,302
    
    
    
    26,229
    
    
    
    24,625Time deposits
    
    
    294,164
    
    
    
    266,836
    
    
    
    302,174Total
    
    $
    640,271
    
    
    $
    523,782
    
    
    $
    529,028
 26




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##### 



The preceding table includes certificates of deposits $100,000 and over, which at December 31, 2003 totaled
approximately $160,781,000. The following table presents the maturities of these time deposits of $100,000
or more. MATURITIES OF TIME DEPOSITS OF $100,000 OR MORE
As of December 31, 2003 Within
    
    Three to
    
    Six to
    
    Within
    
    One toThree
    
    Six
    
    Twelve
    
    One
    
    Fivedollars in thousands
    
    Months
    
    Months
    
    Months
    
    Year
    
    Years
    
    TotalTime deposits of $100,000 or more
    
    $
    59,237
    
    
    $
    37,349
    
    
    $
    36,309
    
    
    $
    132,895
    
    
    $
    27,886
    
    
    $
    160,781
 CAPITAL RESOURCES Funding for the future growth and expansion of the Company is dependent upon earnings of the Companys
subsidiaries. As of December 31, 2003, the Companys ratio of total capital to risk-adjusted assets was 18.38%.
The Company fully expects to be able to meet future capital needs caused by growth and expansion as well as
regulatory capital requirements. The Company is not aware of any current recommendation by regulatory
authorities which if implemented would materially affect the Companys liquidity, capital resources or operations.
The Company currently plans no significant capital expenditures. LOANS Historically, the Company makes loans within its market area. It makes consumer and commercial loans through
the Bank and mortgage loans through Granite Mortgage. The Bank generally considers its primary markets to be
Burke, Caldwell, Catawba, Mecklenburg, Watauga and Wilkes counties of North Carolina. Granite Mortgage
considers its market area to be the central and southern Piedmont and Catawba Valley regions of North Carolina
and Hilton Head Island, South Carolina. Total loans at December 31, 2003 were $715,844,632, which compares
with $532,921,937 at December 31, 2002, for an increase of $182,922,695 or 34.32%. Excluding the effects of
the acquisition of First Commerce, loans increased $68,402,726, or 12.84%. The Company places emphasis on
consumer based installment loans and commercial loans to small and medium sized business. The Company has a
diversified loan portfolio with no concentrations to any one borrower, industry or market region. The amounts
and types of loans outstanding for the past five years ended December 31 are shown on the following table. LOANS
As of December 31, 2003
    
    2002
    
    2001
    
    2000
    
    1999% of
    
    
    
    
    
    % of
    
    
    
    
    
    % of
    
    
    
    
    
    % of
    
    
    
    
    
    % ofTotal
    
    
    
    
    
    Total
    
    
    
    
    
    Total
    
    
    
    
    
    Total
    
    
    
    
    
    Totaldollars in thousands
    
    Amount
    
    Loans
    
    Amount
    
    Loans
    
    Amount
    
    Loans
    
    Amount
    
    Loans
    
    Amount
    
    LoansLoansReal estate -Construction
    
    $
    90,176
    
    
    
    12.6
    %
    
    $
    75,383
    
    
    
    14.1
    %
    
    $
    72,418
    
    
    
    14.2
    %
    
    $
    62,093
    
    
    
    13.8
    %
    
    $
    38,957
    
    
    
    10.0
    %Mortgage
    
    
    377,956
    
    
    
    52.7
    %
    
    
    245,496
    
    
    
    46.0
    %
    
    
    243,067
    
    
    
    47.4
    %
    
    
    200,945
    
    
    
    44.5
    %
    
    
    177,004
    
    
    
    45.2
    %Commercial,
financial and
agricultural
    
    
    211,477
    
    
    
    29.5
    %
    
    
    175,409
    
    
    
    32.9
    %
    
    
    166,980
    
    
    
    32.7
    %
    
    
    156,297
    
    
    
    34.6
    %
    
    
    141,713
    
    
    
    36.3
    %Consumer
    
    
    35,981
    
    
    
    5.0
    %
    
    
    37,046
    
    
    
    6.9
    %
    
    
    28,441
    
    
    
    5.6
    %
    
    
    31,501
    
    
    
    7.0
    %
    
    
    32,331
    
    
    
    8.3
    %All other
    
    
    1,206
    
    
    
    0.2
    %
    
    
    449
    
    
    
    0.1
    %
    
    
    282
    
    
    
    0.1
    %
    
    
    248
    
    
    
    0.1
    %
    
    
    795
    
    
    
    0.2
    %Total loans
    
    
    716,796
    
    
    
    100.0
    %
    
    
    533,783
    
    
    
    100.0
    %
    
    
    511,188
    
    
    
    100.0
    %
    
    
    451,084
    
    
    
    100.0
    %
    
    
    390,800
    
    
    
    100.0
    %Deferred origination
fees, net
    
    
    (951
    )
    
    
    
    
    
    
    (860
    )
    
    
    
    
    
    
    (777
    )
    
    
    
    
    
    
    (685
    )
    
    
    
    
    
    
    (611
    )Total loans, net of
deferred fees
    
    $
    715,845
    
    
    
    
    
    
    $
    532,923
    
    
    
    
    
    
    $
    510,411
    
    
    
    
    
    
    $
    450,399
    
    
    
    
    
    
    $
    390,189
 Real estate loans comprised 65.3% of the portfolio in 2003 compared to 60.1% in 2002. Commercial loans
comprised 29.5% of the portfolio in 2003 compared to 32.9% in 2002, while consumer loans comprised 5.0% in
2003 compared to 6.9% in 2002. Commercial loans of $211,476,974, consumer loans of $35,980,704 and real
estate mortgage loans of $377,955,786 are loans for which the principal source of repayment is derived from the
ongoing cash flow of the business or the borrower. Real estate construction loans of $90,175,534 are loans for
which the principal source of repayment comes from the sale of real estate or from obtaining permanent financing. 27




---



##### 



December 31, 2003 balances of approximately $32,948,000, $7,061,000 and $551,000, in real estate, commercial
and consumer loans, respectively, were from the three offices opened during 2003. December 31, 2003 balances
of approximately $90,463,000, $17,512,000 and $558,000, in real estate, commercial and consumer loans,
respectively, were from the three offices acquired from First Commerce in July 2003. NONPERFORMING LOANS AND NONPERFORMING ASSETS
As of December 31, dollars in thousands
    
    2003
    
    2002
    
    2001
    
    2000
    
    1999Nonperforming assetsNonaccrual loans
    
    $
    8,115
    
    
    $
    3,265
    
    
    $
    2,944
    
    
    $
    1,502
    
    
    $
    1,079Loans past due 90 days or more
and still accruing interest
    
    
    3,218
    
    
    
    1,153
    
    
    
    1,769
    
    
    
    1,983
    
    
    
    981Foreclosed properties
    
    
    1,775
    
    
    
    1,203
    
    
    
    323
    
    
    
    134
    
    
    
    54Total
    
    $
    13,108
    
    
    $
    5,621
    
    
    $
    5,036
    
    
    $
    3,619
    
    
    $
    2,114Nonperforming loans to total loans
    
    
    1.58
    %
    
    
    0.83
    %
    
    
    0.97
    %
    
    
    0.79
    %
    
    
    0.54
    %Allowance for loan losses to nonperforming loans
    
    
    95.29
    %
    
    
    199.98
    %
    
    
    136.35
    %
    
    
    182.26
    %
    
    
    230.38
    %Nonperforming assets to total assets
    
    
    1.35
    %
    
    
    0.76
    %
    
    
    0.70
    %
    
    
    0.55
    %
    
    
    0.35
    %
 Certain loans are classified as nonaccrual, meaning that interest is not being accrued on these instruments.
Accrual of interest on loans is discontinued when management believes that such interest will not be collected in
a reasonable period of time. The recorded accrued interest is also reversed or charged off. A loan classified as
nonaccrual is returned to accrual status when the obligation has been brought current, has performed in
accordance with its contractual terms over an extended period of time, and the ultimate collectibility of the total
contractual principal and interest is no longer in doubt. Included in nonperforming assets as of December 31, 2003
are loans totaling $3,268,082 of which 80% of the principal balances were guaranteed under the federal
governments small business lending programs. The ratio of nonperforming loans to total loans would decline to
approximately 1.22% as of December 31, 2003 if the principal balances of $2,614,466 guaranteed by the federal
government had been excluded from nonperforming loans. The Companys investment in impaired loans for the past five years ended December 31 was as follows: IMPAIRED LOANS
As of December 31, dollars in thousands
    
    2003
    
    2002
    
    2001
    
    2000
    
    1999Investment in impaired loans:Impaired loans still accruing interest
    
    $
    3,114
    
    
    $
    1,890
    
    
    $
    1,274
    
    
    $
    545
    
    
    $
    1,171Accrued interest on accruing impaired loans
    
    
    90
    
    
    
    56
    
    
    
    38
    
    
    
    24
    
    
    
    51Impaired loans not accruing interest
    
    
    8,115
    
    
    
    3,265
    
    
    
    2,944
    
    
    
    1,502
    
    
    
    1,079Accrued interest on nonaccruing impaired loans
    
    
    215
    
    
    
    127
    
    
    
    131
    
    
    
    53
    
    
    
    56Total investment in impaired loans
    
    $
    11,534
    
    
    $
    5,338
    
    
    $
    4,387
    
    
    $
    2,124
    
    
    $
    2,357Loan loss allowance related to impaired loans
    
    $
    2,412
    
    
    $
    2,196
    
    
    $
    1,372
    
    
    $
    1,010
    
    
    $
    747
 Impaired loans are measured based on the present value of expected future cash flows discounted at the loans
effective interest rate or, as a practical matter, at the loans observable market value or fair value of the collateral
if the loan is collateral dependent. Most of the loans measured by fair value of the underlying collateral are
commercial loans, while others consist of small balance homogenous loans and are measured collectively. The
Bank classifies a loan as impaired when, based on current information and events, management believes it is
probable that the Bank will be unable to collect all amounts due according to the contractual terms of the loan
agreement. At December 31, 2003 and 2002, the recorded investment in loans that were considered to be
impaired, including accrued interest, was $11,534,862 ($8,330,334 of which was on a nonaccrual basis) and
$5,338,098 ($3,392,264 of which was on a nonaccrual basis), respectively. The average recorded balance of
impaired loans during 2003 and 2002 was not significantly different from the balance at December 31, 2003 and
2002. The related allowance for loan losses for these loans was $2,412,366 and $2,195,850 at December 31,
2003 and 2002, respectively. The allowance for impaired loans increased $216,516, or 9.86%, while the total
investment in impaired loans increased $6,196,764, or 116.09%. This disparity is primarily attributable to three
loans totaling $5,677,535, of which 80% of the principal balances are guaranteed under the federal governments
small business lending programs. The loan loss allowance related to impaired loans was 21% as of December 31,
2003. Excluding principal balances guaranteed under the federal governments small business lending programs, 28




---



##### 



the loan loss allowance related to impaired loans would have been approximately 34% as of December 31, 2003.
For the years ended December 31, 2003, 2002 and 2001, the Bank recognized interest income on those impaired
loans of approximately $305,865, $183,405 and $168,236,
respectively.
For the year ended December 31, 2003, the estimated gross interest income that would have been recorded had
the nonaccruing loans been current in accordance with their original terms was approximately $146,000. Interest
recognized on such loans for 2003 was approximately $346,000. For the years ended December 31, 2002 and
2001, management determined that the gross interest income that would have been recorded had the nonaccruing
loans been current in accordance with their original terms and the amount of interest income on those loans that
was included in net income was not material to the Companys earnings. PROVISIONS AND ALLOWANCES FOR LOAN LOSSES The risks inherent in the Companys loan portfolio, including the adequacy of the allowance or reserve for loan
losses, are significant estimates that are based on managements assumptions regarding, among other factors,
general and local economic conditions, which are difficult to predict and are beyond the Companys control. In
estimating these risks and the related loss reserve levels, management also considers the financial conditions of
specific borrowers and credit concentrations with specific borrowers, groups of borrowers and industries. Management uses several measures to assess and monitor the credit risks in the loan portfolio, including a loan
grading system that begins upon loan origination and continues until the loan is collected or collectibility becomes
doubtful. Upon loan origination, the Banks originating loan officer evaluates the quality of the loan and assigns
one of seven risk grades, each grade indicating a different level of loss reserves. The loan officer monitors the
loans performance and credit quality and makes changes to the credit grade as conditions warrant. When
originated or renewed, all loans over a certain dollar amounts receive in-depth reviews and risk assessments by
the Banks Credit Administration. Before making any changes in these risk grades, management considers
assessments as determined by the third party risk assessment group (as described below), regulatory examiners
and the Banks Credit Administration. Any issues regarding the risk assessments are addressed by the Banks
senior credit administrators and factored into managements decision to originate or renew the loan as well as the
level of reserves deemed appropriate for the loan. Furthermore, loans and commitments of $500,000 or more
made during the month, as well as commercial loans past due 30 days or more, are reviewed monthly by the
Banks Board of Directors. The Banks Board of Directors also review monthly an analysis of the Banks reserves
relative to the range of reserves estimated by the Banks Credit Administration. As an additional measure, the Bank engages an independent third party risk assessment group to review the
underwriting, documentation, risk grading analyses and the methodology of determining the adequacy of the
allowance for losses. This independent third party determines its own selection criteria to select loan relationships
for review and evaluation. The third partys evaluation and report is shared with management, the Banks Audit
Committee and ultimately, the Banks Board of Directors. Management considers certain commercial loans with weak credit risk grades to be individually impaired and
measures such impairment based upon available cash flows and the value of the collateral. Allowance or reserve
levels are estimated for all other graded loans in the portfolio based on their assigned credit risk grade, type of
loan and other matters related to credit risk. In estimating reserve levels, the Bank also aggregates non-graded
loans into pools of similar credits and reviews the historical loss experience associated with these pools as
additional criteria to allocate the allowance to each category. Management uses the information developed from the procedures described above in evaluating and grading the
loan portfolio. This continual grading process is used to monitor the credit quality of the loan portfolio and to
assist management in determining the appropriate levels of the allowance for loan losses. The allowance for loan losses is comprised of three components: specific reserves, general reserves and
unallocated reserves. Generally, all loans with outstanding balances of $10,000 or greater that have been identified
as impaired are reviewed on a monthly basis in order to determine whether a specific allowance is required. After
a loan has been identified as impaired, management measures impairment in accordance with SFAS No. 114,
Accounting By Creditors for Impairment of a Loan. When the measure of the impaired loan is less than the
recorded investment in the loan, the amount of the impairment is recorded as a specific reserve. These specific
reserves are determined on an individual loan basis based on managements current evaluation of the Companys
loss exposure for each credit, given the payment status, financial condition of the borrower, and value of any
underlying collateral. Loans for which specific reserves are provided are excluded from the general allowance
calculations as described below. 29




---



##### 



The general allowance reflects the best estimate of probable losses that exist within the portfolios of loans that have
not been specifically identified. The general allowance for the commercial loan portfolio is established considering
several factors including: current loan grades, historical loss rates, estimated future cash flows available to service
the loan, and the results of individual loan reviews and analyses. Commercial loans are assigned a loan grade and
the loss percentages assigned for each loan grade are determined based on periodic evaluation of actual loss
experience over a period of time and managements estimate of probable incurred losses as well as other factors
that are known at the time when the appropriate level for the allowance for loan losses is assessed, including the
average term of the portfolio. The allowance for loan losses for consumer loans, mortgage loans, and leases is
determined based on past due levels and historical and projected loss rates relative to each portfolio. The unallocated allowance is determined through managements assessment of probable losses that are in the
portfolio but are not adequately captured by the other two components of the allowance, including consideration of
current economic and business conditions and regulatory requirements. The unallocated allowance also reflects
managements acknowledgement of the imprecision and subjectivity that underlie the modeling of credit risk. Management considers the allowance for loan losses adequate to cover the estimated losses inherent in the
Companys loan portfolio as of the date of the financial statements. Management believes it has established the
allowance in accordance with accounting principles generally accepted in the United States of America and in
consideration of the current economic environment. Although management uses the best information available to
make evaluations, significant future additions to the allowance may be necessary based on changes in economic
and other conditions, thus adversely affecting the operating results of the Company. There were no significant
changes in the estimation methods or fundamental assumptions used in the evaluation of the allowance for loan
losses for the year ended December 31, 2003 as compared to the year ended December 31, 2002. Such revisions,
estimates and assumptions are made in any period in which the supporting factors indicate that loss levels may vary
from the previous estimates. Additionally, various regulatory agencies, as an integral part of their examination process, periodically review the
Banks allowances for loan losses. Such agencies may require the recognition of adjustments to the allowances
based on their judgments of information available to them at the time of their examinations. The allowance for loan losses is created by direct charges to operations. Losses on loans are charged against the
allowance for loan losses in the accounting period in which they are determined by management to be
uncollectible. Recoveries during the period are credited to the allowance for loan losses. General economic trends greatly affect loan losses, and no assurances can be made that further charges to the loan
loss allowance may not be significant in relation to the amount provided during a particular period or that further
evaluation of the loan portfolio based on conditions then prevailing may not require sizable additions to the
allowance, thus necessitating similarly sizable charges to operations. Due to continued unfavorable economic
trends in the Catawba Valley region of the Companys market area and due to higher levels of nonperforming
loans resulting from the weakened local economy, management believed it prudent to charge operations in the
amounts of $4,764,010 in 2003 compared to $3,492,382 in 2002 and $4,216,772 in 2001 to provide for future
losses related to uncollectible loans. At December 31, 2003, the loan loss reserve was 1.53% of net loans
outstanding compared to 1.69% as of December 31, 2002. Approximately $2,012,000 of the provision for loan
losses was attributable to loan growth, while $2,752,000 was attributable to declining credit quality. 30




---



##### 



The following table presents an analysis of changes in the allowance for loan losses for years indicated. CHANGES IN THE ALLOWANCE FOR LOAN LOSSES
for the years ended December 31, dollars in thousands
    
    2003
    
    2002
    
    2001
    
    2000
    
    1999Balance at beginning of year
    
    $
    8,835
    
    
    $
    6,426
    
    
    $
    6,352
    
    
    $
    4,747
    
    
    $
    4,620Loans charged off:Real estate
    
    
    1,616
    
    
    
    329
    
    
    
    1,474
    
    
    
    1,305
    
    
    
    662Commercial, financial and agricultural
    
    
    2,275
    
    
    
    538
    
    
    
    2,123
    
    
    
    613
    
    
    
    954Credit cards and related plans
    
    
    41
    
    
    
    57
    
    
    
    19
    
    
    
    13
    
    
    
    33Installment loans to individuals
    
    
    767
    
    
    
    260
    
    
    
    468
    
    
    
    280
    
    
    
    232Demand deposit overdraft program
    
    
    389
    
    
    
    371
    
    
    
    417
    
    
    
    395
    
    
    
    Total charge-offs
    
    
    5,088
    
    
    
    1,555
    
    
    
    4,501
    
    
    
    2,606
    
    
    
    1,881Recoveries of loans previously charged off:Real estate
    
    
    3
    
    
    
    78
    
    
    
    52
    
    
    
    89
    
    
    
    16Commercial, financial and agricultural
    
    
    176
    
    
    
    168
    
    
    
    53
    
    
    
    80
    
    
    
    58Credit cards and related plans
    
    
    5
    
    
    
    2
    
    
    
    5
    
    
    
    3
    
    
    
    7Installment loans to individuals
    
    
    71
    
    
    
    59
    
    
    
    39
    
    
    
    82
    
    
    
    64Demand deposit overdraft program
    
    
    170
    
    
    
    165
    
    
    
    209
    
    
    
    63
    
    
    
    Total recoveries
    
    
    425
    
    
    
    472
    
    
    
    358
    
    
    
    317
    
    
    
    145Net charge-offs
    
    
    4,663
    
    
    
    1,083
    
    
    
    4,143
    
    
    
    2,289
    
    
    
    1,736Additions charged to operations
    
    
    4,764
    
    
    
    3,492
    
    
    
    4,217
    
    
    
    3,894
    
    
    
    1,863Allowance of loans acquired in purchase transaction
    
    
    1,863
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    Balance at end of year
    
    $
    10,799
    
    
    $
    8,835
    
    
    $
    6,426
    
    
    $
    6,352
    
    
    $
    4,747Ratio of net charge-offs during the year to
average loans outstanding during the year
    
    
    0.75
    %
    
    
    0.21
    %
    
    
    0.86
    %
    
    
    0.54
    %
    
    
    0.46
    %Allowance coverage of net charge-offs
    
    
    231.62
    %
    
    
    814.81
    %
    
    
    155.15
    %
    
    
    277.55
    %
    
    
    273.51
    %Allowance as a percentage of gross loans
    
    
    1.51
    %
    
    
    1.66
    %
    
    
    1.32
    %
    
    
    1.43
    %
    
    
    1.24
    %Allowance as a percentage of net loans
    
    
    1.53
    %
    
    
    1.69
    %
    
    
    1.33
    %
    
    
    1.45
    %
    
    
    1.26
    %
 The allowance for loan losses acquired in the purchase transaction represents general loan loss reserves. Any
specific reserves were evaluated and recorded in the fair value adjustment for the applicable loan. The following table presents the allocation of the allowance for loan losses by category. ALLOCATION OF THE ALLOWANCE FOR LOAN LOSSES
As of December 31, 2003
    
    2002
    
    2001
    
    2000
    
    1999% of
    
    
    
    
    
    % of
    
    
    
    
    
    % of
    
    
    
    
    
    % of
    
    
    
    
    
    % ofTotal
    
    
    
    
    
    Total
    
    
    
    
    
    Total
    
    
    
    
    
    Total
    
    
    
    
    
    Totaldollars in thousands
    
    Amount
    
    Loans
    
    Amount
    
    Loans
    
    Amount
    
    Loans
    
    Amount
    
    Loans
    
    Amount
    
    LoansReal estate
    
    $
    4,602
    
    
    
    65.3
    %
    
    $
    3,564
    
    
    
    60.1
    %
    
    $
    2,397
    
    
    
    61.6
    %
    
    $
    2,399
    
    
    
    58.3
    %
    
    $
    1,219
    
    
    
    55.2
    %Commercial, financial
and agricultural
    
    
    5,226
    
    
    
    29.5
    %
    
    
    4,410
    
    
    
    32.9
    %
    
    
    3,306
    
    
    
    32.7
    %
    
    
    3,144
    
    
    
    34.6
    %
    
    
    2,909
    
    
    
    36.3
    %Consumer
    
    
    684
    
    
    
    5.0
    %
    
    
    649
    
    
    
    6.9
    %
    
    
    540
    
    
    
    5.6
    %
    
    
    626
    
    
    
    7.0
    %
    
    
    447
    
    
    
    8.3
    %All other loans
    
    
    
    
    
    
    0.2
    %
    
    
    
    
    
    
    0.1
    %
    
    
    
    
    
    
    0.1
    %
    
    
    
    
    
    
    0.1
    %
    
    
    
    
    
    
    0.2
    %Unallocated
    
    
    287
    
    
    
    n/a
    
    
    
    212
    
    
    
    n/a
    
    
    
    183
    
    
    
    n/a
    
    
    
    183
    
    
    
    n/a
    
    
    
    172
    
    
    
    n/aTotal loans
    
    $
    10,799
    
    
    
    100.0
    %
    
    $
    8,835
    
    
    
    100.0
    %
    
    $
    6,426
    
    
    
    100.0
    %
    
    $
    6,352
    
    
    
    100.0
    %
    
    $
    4,747
    
    
    
    100.0
    %
 The allowance for loan losses was 1.51%, 1.66% and 1.32% of loans outstanding at December 31, 2003, 2002
and 2001, respectively, which was consistent with managements assessment of the credit quality of the loan
portfolio. The ratios of net charge-offs during the year to average loans outstanding during the period were
0.75%, 0.21% and 0.86% at December 31, 2003, 2002 and 2001, respectively. Management believes these
ratios reflect managements conservative lending and effective efforts to recover credit losses. Charge-offs in 2003 were $5,087,661, an increase of $3,532,593 over 2002, of which $2,274,594 were related to
commercial loans in default. The effects of a prolonged recession in the Companys Catawba Valley market area
were also evidenced by increases in the Companys allowance for loan losses as presented above, nonperforming
asset levels as presented below, and the increase in loans with higher risk grades. The amount of loans with the
three highest risk grades totaled $12,046,107 at December 31, 2003 as compared with $6,554,602 and
$5,495,216 at December 31, 2002 and December 31, 2001, respectively. Some portions of the Catawba Valley
economy are beginning to show signs of growth and the new markets should help diversify the Companys loan
base, but it is difficult to determine when the Catawba Valley economy will return to its former strength. 31




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##### 



INVESTMENT SECURITIES The Company invests in securities as allowable under bank regulations. These securities include all obligations of
the U.S. Treasury, agencies of the U.S. government, including mortgage-backed securities and certain derivatives,
bank eligible obligations of any state or political subdivision, bank eligible corporate obligations, including
commercial paper, negotiable certificates of deposit, bankers acceptances, mutual funds and limited types of equity
securities. The Companys investment activities are governed internally by a written, board-approved policy. Investment
policy is carried out by the Corporations Asset/Liability Committee (ALCO), which meets regularly to review
the economic environment, assess current activities for appropriateness and establish investment strategies. Investment strategies are established by the ALCO in consideration of the interest rate environment, balance sheet
mix, actual and anticipated loan demand, funding opportunities and the overall interest rate sensitivity of the
Company. In general, the investment portfolio in managed in a manner appropriate to the attainment of the
following goals: (i) to provide a sufficient margin of liquid assets to meet unanticipated deposit and loan
fluctuations and overall funds management objectives; (ii) to provide eligible securities to secure public funds, trust
deposits as prescribed by law and other borrowings; and (iii) to earn the maximum return on funds invested that is
commensurate with meeting the requirements of (i) and (ii). At December 31, 2003, the securities classified as available for sale, carried at market value, totaled $97,666,795,
with an amortized cost of $96,284,809, compared to a December 31, 2002 total market value of $52,264,131
with an amortized cost of $50,608,309. Available for sale securities with a market value of $27,240,789 were
acquired from First Commerce. Excluding the available for sale securities acquired from First Commerce,
available for sale securities increased by $18,161,875, or 34.75%, primarily due to the investment of liquid assets
acquired from First Commerce. Securities available for sale are securities which will be held for an
indefinite period of time, including securities that management intends to use as a part of its asset/liability strategy,
or that may be sold in response to changes in interest rates, changes in prepayment risk or the need to increase
regulatory capital or other similar factors. Securities available for sale consist of U.S. Government Agencies
with an average life of 4.3 years and other bonds, notes and debentures with an average life of 21.2 years.
There have been no transfers or sales of securities classified as held to maturity. Securities classified as held to
maturity totaled $61,769,566, with a market value of $65,275,625 at December 31, 2003. Management
determined that it has both the ability and intent to hold those securities classified as investment securities until
maturity. Securities held to maturity consist of U.S. Government Agencies with an average life of 0.7 years
and municipal bonds with an average life of 4.7 years. During 2003, $44,669,257 in securities matured and
$1,207,210 in proceeds were collected from securities sold. The proceeds from maturities were reinvested along
with funds in excess of loan demand. CONTRACTUAL MATURITIES AND YIELDS OF DEBT SECURITIES
As of December 31, 2003 After One Year but
    
    After Five Years butWithin One Year
    
    Within Five Years
    
    Within Ten Years
    
    After Ten Yearsdollars in thousands
    
    Amount
    
    Yield
    
    Amount
    
    Yield
    
    Amount
    
    Yield
    
    Amount
    
    YieldAvailable for sale: (1)U.S. Treasury
    
    
    
    
    
    
    
    
    
    $
    5,314
    
    
    
    4.88
    %U.S. government agency
    
    $
    3,055
    
    
    
    6.25
    %
    
    
    50,342
    
    
    
    3.80
    %
    
    $
    14,838
    
    
    
    4.13
    %State and political subdivisions (2)
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    1,918
    
    
    
    5.12
    %
    
    $
    3,733
    
    
    
    5.79
    %Other
    
    
    
    
    
    
    
    
    
    
    200
    
    
    
    7.13
    %
    
    
    
    
    
    
    
    
    
    
    11,065
    
    
    
    5.20
    %Total
    
    $
    3,055
    
    
    
    6.25
    %
    
    $
    55,856
    
    
    
    3.91
    %
    
    $
    16,756
    
    
    
    4.24
    %
    
    $
    14,798
    
    
    
    5.35
    %Held to maturity:U.S. government agency
    
    $
    2,505
    
    
    
    6.34
    %
    
    $
    2,704
    
    
    
    5.74
    %State and political subdivisions (2)
    
    
    6,609
    
    
    
    7.13
    %
    
    
    25,286
    
    
    
    6.79
    %
    
    $
    20,159
    
    
    
    6.71
    %
    
    $
    4,507
    
    
    
    7.37
    %Total
    
    $
    9,114
    
    
    
    6.91
    %
    
    $
    27,990
    
    
    
    6.69
    %
    
    $
    20,159
    
    
    
    6.71
    %
    
    $
    4,507
    
    
    
    7.37
    %
   (1)
    
    Securities available for sale are stated at amortized cost.(2)
    
    Yields on tax-exempt investments have been adjusted to tax equivalent basis using 35% for 2003. 32




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##### 



The following table provided information regarding the composition of the Companys investment securities
portfolio at the end of each of the past three years. COMPOSITION OF INVESTMENT SECURITIES PORTFOLIO
As of December 31, dollars in thousands
    
    2003
    
    2002
    
    2001Available for sale (at estimated fair value):U.S. Treasury
    
    $
    5,372
    
    
    $
    1,029
    
    
    $
    1,029U.S. government agency
    
    
    68,783
    
    
    $
    45,281
    
    
    
    62,391State and political subdivisions
    
    
    5,594
    
    
    
    
    
    
    
    Other
    
    
    17,918
    
    
    
    6,983
    
    
    
    9,245Total
    
    $
    97,667
    
    
    $
    52,264
    
    
    $
    72,665Held to maturity (at amortized cost):U.S. Treasury
    
    
    
    
    
    
    
    
    
    $
    1,002U.S. government agency
    
    $
    5,209
    
    
    $
    5,225
    
    
    
    8,736State and political subdivisions
    
    
    56,560
    
    
    
    67,435
    
    
    
    76,782Total
    
    $
    61,769
    
    
    $
    72,660
    
    
    $
    86,520
 CONTRACTUAL OBLIGATIONS The Companys contractual obligations and other commitments are summarized in the table below. Other
commitments include commitments to extend credit. Because not all of these commitments to extend credit will be
drawn upon, the actual cash requirements are likely to be significantly less than the amounts reported for other
commitments below. CONTRACTUAL OBLIGATIONS AND OTHER COMMITMENTS
As of December 31, 2003 Within
    
    One to
    
    Three to
    
    FiveOne
    
    Three
    
    Five
    
    Years ordollars in thousands
    
    Year
    
    Years
    
    Years
    
    More
    
    TotalContractual Cash ObligationsLong-term borrowings
    
    $
    5,000
    
    
    $
    2,000
    
    
    
    
    
    
    $
    15,000
    
    
    $
    22,000Operating lease obligations
    
    
    573
    
    
    
    563
    
    
    $
    174
    
    
    
    143
    
    
    
    1,453Total
    
    $
    5,573
    
    
    $
    2,563
    
    
    $
    174
    
    
    $
    15,143
    
    
    $
    23,453Other CommitmentsCommitments to extend credit
    
    $
    52,968
    
    
    $
    25,804
    
    
    $
    11,273
    
    
    $
    30,701
    
    
    $
    120,746Standby letters of credit
    
    
    6,134
    
    
    
    101
    
    
    
    
    
    
    
    
    
    
    
    6,235Total
    
    $
    59,102
    
    
    $
    25,905
    
    
    $
    11,273
    
    
    $
    30,701
    
    
    $
    126,981
 OFF-BALANCE SHEET ARRANGEMENTS The Company enters into derivative contracts to manage various financial risks. A derivative is a financial
instrument that derives its cash flows, and therefore its value, by reference to an underlying instrument, index or
referenced interest rate. Derivative contracts are carried at fair value on the consolidated balance sheet with the
fair value representing the net present value of expected future cash receipts or payments based on market interest
rates as of the balance sheet date. Derivative contracts are written in amounts referred to as notional amounts,
which only provide the basis for calculating payments between counterparties and are not a measure of financial
risk. Therefore, the derivative liabilities recorded on the balance sheet as of December 31, 2003 do not represent
the amounts that may ultimately be paid under these contracts. Further discussions of derivative instruments are
included under Liquidity, Interest Rate Sensitivity And Market Risks beginning on page 23 above and in
Notes 1, 18, 19 and 20 in the Notes to Consolidated Financial Statements beginning on page 45. RELATED PARTY TRANSACTIONS The Company has no material related party transactions. The Company may extend credit to certain directors
and officers in the ordinary course of business. These extensions of credit are made under substantially the same
terms as comparable third-party lending arrangements and are in compliance with applicable banking regulations. 33




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##### 



SEGMENT RESULTS The Companys operations are divided into three reportable business segments: Community Banking, Mortgage
Banking, and Other. These operating segments have been identified based primarily on the Companys existing
organizational structure. See Note 21 Operating Segments, in the Notes to Consolidated Financial
Statements herein, for a full discussion of the segments, the internal accounting and reporting practices utilized by
the Company to manage these segments and financial disclosures by segment as required by SFAS No. 131.
Fluctuations in noninterest income and expense earned and incurred related to external customers are more fully
discussed in the Noninterest Income and Noninterest Expense sections of this discussion and analysis.
Expenses that are considered to be merger-related are retained in the Corporate Office and are excluded from
these segments. Community Banking Community Banking grew internally during 2003 as well as through the acquisition of First Commerce. The
Community Banking segment was comprised of 19 banking offices at the end of 2003, up from 14 banking offices
at December 31, 2002. Net interest income from Community Banking activities totaled $34,362,277, an increase
of $2,778,327 or 8.09%, compared to 2002. Net interest income in 2002 increased $1,472,002, or 4.89%,
compared to 2001. The 2003 provision for loan losses increased $1,341,628 or 39.20%, from 2002. This increase reflects the
changes in levels of nonperforming assets as a percentage of total assets during 2003. The 2002 provision
decreased $674,390, or 16.46%, compared to 2001. This decrease resulted lower necessary provisions due to a
decrease in net charge-offs compared to 2001. Noninterest income produced from customers through Community Banking increased $23,948, or 0.32% in 2003
from the noninterest income produced in 2002. Comparing 2002 to 2001, noninterest income increased $488,850,
or 6.93%. Noninterest expenses related to Community Banking activities increased $2,569,930, or 17.24%,
because of the increased overhead expenses, in particular personnel expenses, associated with the opening and
acquisition of six new full-service banking offices and one new loan production office. Comparing 2002 to 2001,
noninterest expense increased $1,136,726, or 8.25%. The provision for income taxes allocated to the Community Banking decreased $276,471, or 4.20%, because of a
5.33% decrease in pretax income, which was partially offset by higher effective tax rates. Effective tax rates
increased to 32.07% in 2003 from 31.69% in 2002. The 2002 provision for income taxes increased $564,708, or
9.37%, compared to 2001 because of a increases in pretax income and the effective tax rate. Total identifiable assets for Community Banking increased $235,305,732, or 33.68%, to a total of $933,907,945,
compared to 2002, primarily due to the acquisition of First Commerce which contributed an increase in assets of
$171,041,568. In addition to new business generated from existing Company operations, the remaining
$64,264,164 in asset growth resulted in part from the opening of three new offices in three new markets, which
generated $41,579,578 in assets by December 31, 2003. Mortgage Banking The Companys Mortgage Banking segment further expanded during 2003 compared to 2002 because of the
continued favorable low interest rate environment. The Companys mortgage originations totaled approximately
$421,174,000 in 2003, up $149,907,000, or 55.26%, from originations of approximately $271,267,000 in 2002. Net interest income for the Mortgage Banking segment totaled $4,969,103 in 2003, up $1,680,343, or 51.09%,
compared to 2002. The 2002 amount reflected an increase of 15.62% when compared to net interest income in
2001. These increases reflect the continued growth in mortgage originations as a result of historically low interest
rates. The continued strong credit quality of the mortgage portfolio has resulted in the Mortgage Banking
segments provision for loan losses being relatively stable during the years ended December 31, 2003, 2002, and
2001. Noninterest income in 2003 increased $2,942,817, or 74.51%, compared to 2002, which in turn reflected
an increase of $827,202, or 26.49%, from 2001. The increase were the result of record origination volumes in
2003 and 2002. Noninterest expenses incurred in 2003 within the Mortgage Banking segment increased $2,964,198, or 57.49%,
compared to 2002 as a result of higher costs associated with substantially higher origination activity. Comparing
2002 and 2001, noninterest expenses increased $778,531, or 17.86%. 34




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##### 



The provision for income taxes allocated to the Mortgage Banking segment increased $691,643, or 85.93%, due
to higher pretax income. For 2002, the provision for income taxes increased $217,081, or 36.93%, compared to
2001 due to the same reason that caused the 2003 increase. Other The Companys Other segment represents primarily treasury and administration activities. Included in this
segment are certain investments and commercial paper issued to the Banks commercial sweep account customers. NEW ACCOUNTING PRONOUNCEMENTS In November 2002, the FASB issued FASB Interpretation No. 45 (FIN 45), Guarantors Accounting and
Disclosure Requirements for Guarantees, Including Indirect Guarantees of Indebtedness of Others. This
interpretation expands the disclosures to be made by a guarantor in its financial statements about its obligations
under certain guarantees and requires the guarantor to recognize a liability for the fair value of an obligation
assumed under a guarantee. FIN 45 clarifies the requirements of SFAS No. 5, Accounting for Contingencies,
relating to guarantees. In general, FIN 45 applies to contracts or indemnification agreements that contingently
require the guarantor to make payments to the guaranteed party based on changes in an underlying that is related
to an asset, liability, or equity security of the guaranteed party. Certain guarantee contracts are excluded from both
the disclosure and recognition requirements of this interpretation, including, among others, guarantees relating to
employee compensation, residual value guarantees under capital lease arrangements, commercial letters of credit,
loan commitments, subordinated interests in an SPE, and guarantees of a companys own future performance.
Other guarantees are subject to the disclosure requirements of FIN 45 but not to the recognition provisions and
include, among others, a guarantee accounted for as a derivative instrument under SFAS No. 133, a parents
guarantee of debt owed to a third party by its subsidiary or vice versa, and a guarantee which is based on
performance not price. The disclosure requirements of FIN 45 are effective for the Company as of December 31,
2002, and require disclosure of the nature of the guarantee, the maximum potential amount of future payments that
the guarantor could be required to make under the guarantee, and the current amount of the liability, if any, for
the guarantors obligations under the guarantee. The recognition requirements of FIN 45 are to be applied
prospectively to guarantees issued or modified after December 31, 2002. Significant guarantees that have been
entered into by the Company are disclosed in Note 18. The adoption of FIN 45 did not have a material impact on
results of operations or financial position. In January 2003, the FASB issued FASB Interpretation No. 46 (FIN 46), Consolidation of Variable Interest
Entitiesan Interpretation of Accounting Research Bulletin 51Consolidated Financial Statements. This
interpretation provides guidance related to identifying variable interest entities and determining whether such
entities should be consolidated. FIN 46 requires an enterprise to consolidate a variable interest entity when the
enterprise (a) absorbs a majority of the variable interest entitys expected losses, (b) receives a majority of the
entitys expected residual returns, or both, as a result of ownership, contractual or other financial interests in the
entity. Prior to the effective date of FIN 46, entities were generally consolidated by an enterprise that had control
through ownership of a majority voting interest in the entity. FIN 46 originally applied immediately to variable
interest entities created or obtained after January 31, 2003. During 2003, the Bank did not participate in the
creation of, or obtain a new variable interest in, any variable interest entity. In December 2003, the FASB
issued FIN 46R, a revision to FIN 46, which modified certain requirements of FIN 46 and allowed for the
optional deferral of the effective date of FIN 46R for annual or interim periods ending after March 15, 2004. As
disclosed in the Quarterly Report on Form 10-Q for the period ended September 30, 2003, the Company
completed its assessment of the trust preferred securities and determined that these statutory business trusts should
no longer be consolidated entities. Accordingly, the statutory business trusts were reclassified to debt in
accordance with FIN 46. The Company is still evaluating the effect of the remaining provisions of FIN 46R on its
financial statements, but no material impact on the consolidated results of operations or consolidated financial
condition of the Company is expected. In April 2003, the FASB issued SFAS No. 149, Amendment of Statement 133 on Derivative Instruments and
Hedging Activities. This Statement amends and clarifies financial accounting and reporting for derivative
instruments and for hedging activities under SFAS No. 133, Accounting for Derivative Instruments and Hedging
Activities. SFAS No. 149 clarifies the conditions under which a contract with an initial net investment meets the
characteristic of a derivative; clarifies when a derivative contains a financing component; amends the definition of
an underlying to conform it to language used in FASB Interpretation No. 45, Guarantors Accounting and
Disclosure Requirements for Guarantees, Including Indirect Guarantees of Indebtedness of Others; and amends 35




---



##### 



certain other existing pronouncements. This Statement is effective for contracts entered into or modified by the
Company after June 30, 2003. All provisions of this Statement will be applied prospectively. The application of
this Statement did not have a material effect on the Companys results of operations or financial position. In May 2003, the FASB issued SFAS No. 150, Accounting for Certain Financial Instruments with
Characteristics of both Liabilities and Equity. This Statement establishes standards for the classification and
measurement of certain financial instruments with characteristics of both liabilities and equity. It clarifies when
an
issuer must classify certain financial instruments as liabilities (or as assets, in some circumstances), rather than
including them within stockholders equity or separately classifying them as mezzanine equity. This Statement was
effective for the Company for financial instruments entered into or modified after May 31, 2003, and otherwise is
effective for the Company in the third quarter of 2003. The Company has not issued any financial instruments
within the scope of SFAS No. 150; therefore, the application of SFAS No. 150 did not affect the Companys
results of operations, financial position or disclosures. INFLATION Because the assets and liabilities of a bank are primarily monetary in nature (payable in fixed, determinable
amounts), the performance of a bank is affected more by changes in interest rates than by inflation. Interest rates
generally increase as the rate of inflation increases, but the magnitude of the change in rates may not be the same. Although the effect of inflation is normally not as significant as is the influence on those businesses which have
large investments in plant and inventories, it does have an effect on the Companys operations. In times of higher
inflation, there are normally corresponding increases in the money supply, and banks will normally experience
above average growth in assets, loans and deposits. Also, general increases in the prices of goods and services
will result in increased operating expenses. FORWARD LOOKING STATEMENTS The discussions presented in this annual report contain statements that could be deemed forward looking
statements within the meaning of the Securities Exchange Act of 1934 and the Private Securities Litigation Reform
Act of 1995, which statements are inherently subject to risks and uncertainties. Forward looking statements are
statements that include projections, predictions, expectations or beliefs about future events or results or
otherwise
are not statements of historical fact. Such statements are often characterized by the use of qualifying words (and
their derivatives) such as expects, anticipates, believes, estimates, plans, projects, or other
statements concerning opinions or judgments of the Company and its management about future events. Factors that
could influence the accuracy of such forward looking statements include, but are not limited to, the financial
success or changing strategies of the Companys customers or vendors, the Companys level of success in
integrating acquisitions, actions of government regulators, the level of market interest rates, and general economic
conditions. ITEM 7A  QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK Information responsive to this item is contained in Item 7 above under the caption Liquidity, Interest Rate
Sensitivity and Market Risks. 36




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##### 



ITEM 8  FINANCIAL
STATEMENTS & SUPPLEMENTARY DATA
Index to Consolidated Financial Statements and Supplementary Financial Data Begins onPageIndependent Auditors Report
    
    
    38Statement Of Management Responsibility
    
    
    38Financial Statements:Consolidated Balance Sheets
    
    
    39December 31, 2003 and 2002Consolidated Statements Of Income
    
    
    40Years Ended December 31, 2003, 2002 and 2001Consolidated Statements Of Comprehensive Income
    
    
    41Years Ended December 31, 2003, 2002 and 2001Consolidated Statements Of Changes In Shareholders Equity
    
    
    42Years Ended December 31, 2003, 2002 and 2001Consolidated Statements Of Cash Flows
    
    
    43Years Ended December 31, 2003, 2002 and 2001Notes To Consolidated Financial Statements
    
    
    45Years Ended December 31, 2003, 2002 and 2001Supplementary Financial Data:Selected Quarterly Financial Data (Unaudited)
    
    
    69Years Ended December 31, 2003 and 2002
 37




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##### 



INDEPENDENT AUDITORS REPORT Board of Directors and
Shareholders of Bank of Granite Corporation:
We have audited the accompanying consolidated balance sheets of Bank of Granite Corporation and its
subsidiaries (the Company) as of December 31, 2003 and 2002, and the related consolidated statements
of income, comprehensive income, changes in shareholders equity, and cash flows for each of the three
years in the period ended December 31, 2003. These financial statements are the responsibility of the
Companys management. Our responsibility is to express an opinion on these financial statements based
on our audits. We conducted our audits in accordance with auditing standards generally accepted in the United States of
America. Those standards require that we plan and perform the audit to obtain reasonable assurance about
whether the financial statements are free of material misstatement. An audit includes examining, on a test basis,
evidence supporting the amounts and disclosures in the financial statements. An audit also includes assessing the
accounting principles used and significant estimates made by management, as well as evaluating the overall
financial statement presentation. We believe that our audits provide a reasonable basis for our opinion. In our opinion, such consolidated financial statements present fairly, in all material respects, the financial
position of the Company at December 31, 2003 and 2002, and the results of its operations and its cash
flows for each of the three years in the period ended December 31, 2003, in conformity with accounting
principles generally accepted in the United States of America. /s/ Deloitte & Touch LLP
    
    (DELOITTE & TOUCHE)DELOITTE & TOUCHE LLPHickory, North CarolinaFebruary 28, 2004
 STATEMENT OF MANAGEMENT RESPONSIBILITY Management of Bank of Granite Corporation and its subsidiaries has prepared the consolidated financial
statements and other information contained herein in accordance with generally accepted accounting
principles and is responsible for its accuracy. In meeting its responsibility, management relies on internal accounting and related control systems, which
include selection and training of qualified personnel, establishment and communication of accounting and
administrative policies and procedures, appropriate segregation of responsibilities and programs of internal
audits. These systems are designed to provide reasonable assurance that financial records are reliable for
preparing financial statements and maintaining accountability for assets, and that assets are safeguarded
against unauthorized use or disposition. Such assurance cannot be absolute because of inherent limitations
in any internal control system. Management also recognizes its responsibility to foster a climate in which corporate affairs are conducted
with the highest ethical standards. Bank of Granite Corporations policies, furnished to each employee and
director, address the importance of open internal communications, potential conflicts of interest, compliance
with applicable laws, including those related to financial disclosure, the confidentiality of proprietary
information and other items. There is an ongoing program to assess compliance with these policies. The Audit Committee of Bank of Granite Corporations Board of Directors consists solely of outside
directors. The Audit Committee meets periodically with management and the independent auditors to
discuss audit, financial reporting and related matters. Deloitte & Touche LLP and Bank of Granite
Corporations internal auditors have direct access to the Audit Committee. /s/ John A. Forlines, Jr.
    
    /s/ Kirby A. TyndallJOHN A. FORLINES, JR.
    
    KIRBY A. TYNDALLChairman and Chief Executive Officer
    
    Chief Financial OfficerFebruary 28, 2004
    
    February 28, 2004
 38




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##### 



BANK OF GRANITE CORPORATION AND SUBSIDIARIESCONSOLIDATED BALANCE SHEETSDECEMBER 31, 2003 AND 2002 2003
    
    2002ASSETS:Cash and cash equivalents (Notes 1 and 19):Cash and due from banks
    
    $
    29,492,515
    
    
    $
    24,829,541Interest-bearing deposits
    
    
    4,103,319
    
    
    
    2,655,071Federal funds sold
    
    
    
    
    
    
    5,900,000Total cash and cash equivalents
    
    
    33,595,834
    
    
    
    33,384,612Investment securities (Notes 1, 3 and 19):Available for sale, at fair value (amortized cost of $96,284,809 and
$50,608,309 at December 31, 2003 and 2002, respectively)
    
    
    97,666,795
    
    
    
    52,264,131Held to maturity, at amortized cost (fair value of $65,275,625 and
$76,468,664 at December 31, 2003 and 2002, respectively)
    
    
    61,769,566
    
    
    
    72,660,165Loans (Notes 1, 4 and 19)
    
    
    715,844,632
    
    
    
    532,921,937Allowance for loan losses (Notes 1 and 5)
    
    
    (10,798,897
    )
    
    
    (8,834,611
    )Net loans
    
    
    705,045,735
    
    
    
    524,087,326Mortgage loans held for sale (Note 1)
    
    
    23,092,846
    
    
    
    32,452,162Premises and equipment, net (Notes 1, 6 and 11)
    
    
    12,218,566
    
    
    
    8,170,150Accrued interest receivable
    
    
    5,620,834
    
    
    
    4,791,422Investment in bank owned life insurance (Notes 1 and 10)
    
    
    13,360,278
    
    
    
    9,106,748Intangible assets
    
    
    11,420,092
    
    
    
    Other assets
    
    
    7,592,181
    
    
    
    5,097,958Total assets
    
    $
    971,382,727
    
    
    $
    742,014,674LIABILITIES AND SHAREHOLDERS EQUITY:Deposits (Notes 14 and 19):Demand
    
    $
    136,978,161
    
    
    $
    100,281,675NOW accounts
    
    
    102,932,609
    
    
    
    89,142,366Money market accounts
    
    
    135,045,811
    
    
    
    84,874,514Savings
    
    
    25,977,333
    
    
    
    25,793,477Time deposits of $100,000 or more
    
    
    160,780,970
    
    
    
    114,696,822Other time deposits
    
    
    173,384,471
    
    
    
    132,460,461Total deposits
    
    
    735,099,355
    
    
    
    547,249,315Overnight borrowings (Notes 12 and 19)
    
    
    25,205,171
    
    
    
    16,720,407Other borrowings (Notes 13 and 19)
    
    
    65,294,540
    
    
    
    45,677,313Accrued interest payable
    
    
    1,296,539
    
    
    
    1,189,364Other liabilities
    
    
    2,672,023
    
    
    
    3,735,433Total liabilities
    
    
    829,567,628
    
    
    
    614,571,832COMMITMENTS AND CONTINGENCIES (Notes 11 and 18)SHAREHOLDERS EQUITY (Notes 1, 8, 9 and 16):Common stock, $1.00 par value, authorized - 25,000,000 shares;
issued - 14,993,493 shares in 2003 and 14,420,986 shares in 2002;
outstanding - 13,600,182 shares in 2003 and 13,333,674 shares in 2002
    
    
    14,993,493
    
    
    
    14,420,986Additional paid-in capital
    
    
    31,497,057
    
    
    
    20,694,133Retained earnings
    
    
    119,081,744
    
    
    
    109,982,826Accumulated other comprehensive income, net of
deferred income taxes of $551,097 and $660,282 at
December 31, 2003 and 2002, respectively
    
    
    768,645
    
    
    
    995,539Less: Cost of common stock in treasury;
1,393,311 shares in 2003 and 1,087,312 shares in 2002
    
    
    (24,525,840
    )
    
    
    (18,650,642
    )Total shareholders equity
    
    
    141,815,099
    
    
    
    127,442,842Total liabilities and shareholders equity
    
    $
    971,382,727
    
    
    $
    742,014,674
 See notes to consolidated financial statements. 39




---



##### 



BANK OF GRANITE CORPORATION AND SUBSIDIARIESCONSOLIDATED STATEMENTS OF INCOMEYEARS ENDED DECEMBER 31, 2003, 2002 AND 2001 2003
    
    2002
    
    2001INTEREST INCOME:Interest and fees from loans
    
    $
    38,693,788
    
    
    $
    34,972,976
    
    
    $
    39,474,405Interest and fees from mortgage banking
    
    
    5,762,032
    
    
    
    3,701,306
    
    
    
    3,456,152Federal funds sold
    
    
    96,598
    
    
    
    10,453
    
    
    
    674,341Interest-bearing deposits
    
    
    79,896
    
    
    
    39,175
    
    
    
    87,516Investments:U.S. Treasury
    
    
    69,235
    
    
    
    77,513
    
    
    
    239,075U.S. Government agencies
    
    
    2,604,432
    
    
    
    3,167,345
    
    
    
    4,344,189States and political subdivisions
    
    
    2,801,332
    
    
    
    3,215,203
    
    
    
    3,345,973Other
    
    
    588,863
    
    
    
    526,555
    
    
    
    662,568Total interest income
    
    
    50,696,176
    
    
    
    45,710,526
    
    
    
    52,284,219INTEREST EXPENSE:Time deposits of $100,000 or more
    
    
    3,471,492
    
    
    
    3,535,887
    
    
    
    7,127,789Other time and savings deposits
    
    
    6,243,594
    
    
    
    6,181,936
    
    
    
    11,231,917Overnight borrowings
    
    
    223,516
    
    
    
    638,327
    
    
    
    466,313Other borrowed funds
    
    
    1,450,889
    
    
    
    446,272
    
    
    
    617,550Total interest expense
    
    
    11,389,491
    
    

    
    10,802,422
    
    
    
    19,443,569NET INTEREST INCOME
    
    
    39,306,685
    
    
    
    34,908,104
    
    
    
    32,840,650PROVISION FOR LOAN LOSSES (Notes 1 and 5)
    
    
    4,764,010
    
    
    
    3,492,382
    
    
    
    4,216,772NET INTEREST INCOME AFTER
PROVISION FOR LOAN LOSSES
    
    
    34,542,675
    
    
    
    31,415,722
    
    
    
    28,623,878OTHER INCOME:Service charges on deposit accounts (Note 7)
    
    
    5,537,054
    
    
    
    5,402,290
    
    
    
    5,188,150Other service charges, fees and commissions
    
    
    937,787
    
    
    
    1,019,938
    
    
    
    982,614Mortgage banking income
    
    
    6,892,171
    
    
    
    3,949,354
    
    
    
    3,122,152Securities gains (Note 3)
    
    
    8,533
    
    
    
    3,170
    
    
    
    140,849Other
    
    
    1,062,195
    
    
    
    1,022,953
    
    
    
    706,295Total other income
    
    
    14,437,740
    
    
    
    11,397,705
    
    
    
    10,140,060OTHER EXPENSES:Salaries and wages
    
    
    13,881,228
    
    
    
    10,338,438
    
    
    
    9,585,915Employee benefits (Note 10)
    
    
    2,590,053
    
    
    
    2,562,311
    
    
    
    1,822,562Occupancy expense, net
    
    
    1,205,806
    
    
    
    910,228
    
    
    
    848,739Equipment rentals, depreciation and
maintenance (Notes 1 and 6)
    
    
    1,387,978
    
    
    
    1,388,672
    
    
    
    1,518,345Other (Note 7)
    
    
    6,797,392
    
    
    
    5,116,585
    
    
    
    4,566,718Total other expenses
    
    
    25,862,457
    
    
    
    20,316,234
    
    
    
    18,342,279INCOME BEFORE INCOME TAXES
    
    
    23,117,958
    
    
    
    22,497,193
    
    
    
    20,421,659INCOME TAXES (Note 1 and 8)
    
    
    7,810,065
    
    
    
    7,394,893
    
    
    
    6,613,104NET INCOME
    
    $
    15,307,893
    
    
    $
    15,102,300
    
    
    $
    13,808,555PER SHARE AMOUNTS (Notes 1 and 15):Net income - Basic
    
    $
    1.14
    
    
    $
    1.11
    
    
    $
    0.99- Diluted
    
    
    1.13
    
    
    
    1.11
    
    
    
    0.99Cash dividends
    
    
    0.46
    
    
    
    0.41
    
    
    
    0.37Book value
    
    
    10.43
    
    
    
    9.56
    
    
    
    9.09
 See notes to consolidated financial statements. 40




---



##### 



BANK OF GRANITE CORPORATION AND SUBSIDIARIESCONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOMEYEARS ENDED DECEMBER 31, 2003, 2002 AND 2001 2003
    
    2002
    
    2001NET INCOME
    
    $
    15,307,893
    
    
    $
    15,102,300
    
    
    $
    13,808,555ITEMS OF OTHER COMPREHENSIVE INCOME:Items of other comprehensive income,
before tax:Unrealized gains (losses) on securities
available for sale
    
    
    (265,303
    )
    
    
    733,118
    
    
    
    469,701Less: Reclassification adjustment for
gains included in net income
    
    
    8,533
    
    
    
    3,170
    
    
    
    140,849Unrealized losses on mortgage
derivative instruments
    
    
    (103,740
    )
    
    
    
    
    
    
    Other comprehensive income (loss),
before tax
    
    
    (377,576
    )
    
    
    729,948
    
    
    
    328,852Less: Changes in deferred income taxes
related to change in unrealized gains
or losses on securities available for sale
    
    
    (109,186
    )
    
    
    291,057
    
    
    
    131,127Less: Changes in deferred income taxes
related to change in unrealized gains
or losses on mortgage derivative instruments
    
    
    (41,496
    )
    
    
    
    
    
    
    Other comprehensive income (loss),
net of tax
    
    
    (226,894
    )
    
    
    438,891
    
    
    
    197,725COMPREHENSIVE INCOME
    
    $
    15,080,999
    
    
    $
    15,541,191
    
    
    $
    14,006,280
 See notes to consolidated financial statements. 41




---



##### 



BANK OF GRANITE CORPORATION AND SUBSIDIARIESCONSOLIDATED STATEMENTS OF CHANGES IN SHAREHOLDERS EQUITYYEARS ENDED DECEMBER 31, 2003, 2002 AND 2001 2003
    
    2002
    
    2001COMMON STOCK, $1.00 par valueAt beginning of year
    
    $
    14,420,986
    
    
    $
    11,537,515
    
    
    $
    11,517,084Par value of shares issued for First Commerce acquisition
    
    
    543,217
    
    
    
    
    
    
    
    Par value of shares issued under stock option plan
    
    
    29,290
    
    
    
    
    
    

    
    20,431Transfer from surplus to common stock due to split
    
    
    
    
    
    
    2,883,471
    
    
    
    At end of year
    
    
    14,993,493
    
    
    
    14,420,986
    
    
    
    11,537,515ADDITIONAL PAID-IN CAPITALAt beginning of year
    
    
    20,694,133
    
    
    
    23,577,604
    
    
    
    23,260,188Surplus of shares issued for First Commerce acquisition
    
    
    10,417,467
    
    
    
    
    
    
    
    Surplus of shares issued under stock option plan
    
    
    310,671
    
    
    
    
    
    
    
    317,416Tax benefit from nonqualifying dispositions of stock options
    
    
    74,786
    
    
    
    
    
    
    
    Transfer from surplus to common stock due to split
    
    
    
    
    
    
    (2,883,471
    )
    
    
    -At end of year
    
    
    31,497,057
    
    
    
    20,694,133
    
    
    
    23,577,604RETAINED EARNINGSAt beginning of year
    
    
    109,982,826
    
    
    
    100,492,853
    
    
    
    91,794,837Net income
    
    
    15,307,893
    
    
    
    15,102,300
    
    
    
    13,808,555Cash dividends
    
    
    (6,208,975
    )
    
    
    (5,594,799
    )
    
    
    (5,110,539
    )Cash paid for fractional shares
    
    
    
    
    
    
    (17,528

    )
    
    
    At end of year
    
    
    119,081,744
    
    
    
    109,982,826
    
    
    
    100,492,853ACCUMULATED OTHER
COMPREHENSIVE INCOME,
NET OF DEFERRED INCOME TAXESAt beginning of year
    
    
    995,539
    
    
    
    556,648
    
    
    
    358,923Other comprehensive income (loss),
net of deferred income taxes
    
    
    (226,894
    )
    
    
    438,891
    
    
    
    197,725At end of year
    
    
    768,645
    
    
    
    995,539
    
    
    
    556,648COST OF COMMON STOCK
IN TREASURYAt beginning of year
    
    
    (18,650,642
    )
    
    
    (11,383,304
    )
    
    
    (7,615,695
    )Cost of common stock repurchased
    
    
    (5,875,198
    )
    
    
    (7,267,338
    )
    
    
    (3,767,609
    )At end of year
    
    
    (24,525,840
    )
    
    
    (18,650,642
    )
    
    
    (11,383,304
    )Total shareholders equity (Notes 1, 8 and 16)
    
    $
    141,815,099
    
    
    $
    127,442,842
    
    
    $
    124,781,316Shares issuedAt beginning of period
    
    
    14,420,986
    
    
    
    11,537,515
    
    
    
    11,517,084Shares issued for First Commerce acquisition
    
    
    543,217
    
    
    
    
    
    
    
    Shares issued under incentive stock option plans
    
    
    29,290
    
    
    
    
    
    
    
    20,431Shares issued due to stock splits
    
    
    
    
    
    
    2,883,471
    
    
    
    At end of period
    
    
    14,993,493
    
    
    
    14,420,986
    
    
    
    11,537,515Common shares in treasuryAt beginning of period
    
    
    (1,087,312
    )
    
    
    (550,430
    )
    
    
    (364,135
    )Common shares repurchased
    
    
    (305,999
    )
    
    
    (368,737
    )
    
    
    (48,688
    )Shares issued due to stock splits
    
    
    
    
    
    
    (168,145
    )
    
    
    (137,607
    )At end of period
    
    
    (1,393,311
    )
    
    
    (1,087,312
    )
    
    
    (550,430
    )Total shares outstanding
    
    
    13,600,182
    
    
    
    13,333,674
    
    
    
    10,987,085
 See notes to consolidated financial statements. 42




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##### 



BANK OF GRANITE CORPORATION AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
YEARS ENDED DECEMBER 31, 2003, 2002 AND 2001 2003
    
    2002
    
    2001INCREASE (DECREASE) IN CASH AND CASH EQUIVALENTS:Cash flows from operating activities:Net Income
    
    $
    15,307,893
    
    
    $
    15,102,300
    
    
    $
    13,808,555Adjustments to reconcile net income to net cash
provided by operating activities:Depreciation
    
    
    895,421
    
    
    
    984,695
    
    
    
    1,125,510Provision for loan loss
    
    
    4,764,010
    
    
    
    3,492,382
    
    
    
    4,216,772Investment security premium amortization, net
    
    
    442,226
    
    
    
    156,266
    
    
    
    154,699Acquisition discount accretion, net
    
    
    (177,483
    )
    
    
    
    
    
    
    Deferred income taxes
    
    
    82,827
    
    
    
    (1,159,425
    )
    
    
    (109,271
    )Losses (gains) on sales or calls of securities
available for sale
    
    
    2,698
    
    
    
    (3,170
    )
    
    
    (137,549
    )Gains on calls of securities
held to maturity
    
    
    (11,231
    )
    
    
    
    
    
    
    (3,300
    )Losses (gains) on disposal or sale of equipment
    
    
    (38,255
    )
    
    
    (2,157
    )
    
    
    4,201Loss on sale of other real estate
    
    
    353,867
    
    
    
    5,513
    
    
    
    Increase (decrease) in taxes payable
    
    
    (1,209,631
    )
    
    
    175,045
    
    
    
    133,253Decrease (increase) in interest receivable
    
    
    (227,882
    )
    
    
    393,596
    
    
    
    1,083,826Decrease in interest payable
    
    
    (333,949
    )
    
    
    (657,129
    )
    
    
    (950,318
    )Increase in cash surrender value of bank
owned life insurance
    
    
    (489,038
    )
    
    
    (390,493
    )
    
    
    (217,755
    )Decrease (increase) in other assets
    
    
    (1,566,475
    )
    
    
    (1,041,652
    )
    
    
    443,614Increase (decrease) in other liabilities
    
    
    (3,445,394
    )
    
    
    1,196,366
    
    
    
    392,230Net cash provided by
operating activities
    
    
    14,349,604
    
    
    
    18,252,137
    
    
    
    19,944,467CASH FLOWS FROM INVESTING ACTIVITIES:Proceeds from maturities, calls and paydowns of
securities available for sale
    
    
    33,867,957
    
    
    
    31,522,750
    
    
    
    70,876,226Proceeds from maturities, calls and paydowns of
securities held to maturity
    
    
    10,801,300
    
    
    
    13,747,875
    
    
    
    9,370,225Proceeds from sales of securities available for sale
    
    
    1,207,210
    
    
    
    918,899
    
    
    
    130,755Purchases of securities available for sale
    
    
    (53,855,273
    )
    
    
    (11,351,809
    )
    
    
    (57,920,807
    )Purchases of securities held to maturity
    
    
    
    
    
    
    
    
    
    
    (13,821,336
    )Net increase in loans
    
    
    (72,391,674
    )
    
    
    (55,773,417
    )
    
    
    (64,154,747
    )Net decrease in mortgage loans held for sale
    
    
    9,043,168
    
    
    
    
    
    
    
    Increases (decreases) in unrealized gains or losses
on hedged mortgage loan commitments
    
    
    273,982
    
    
    
    (273,982
    )
    
    
    Increases (decreases) in unrealized gains or losses
on contracts to sell mortgage-backed securities
    
    
    (218,084
    )
    
    
    218,084
    
    
    
    Investment in bank owned life insurance
    
    
    
    
    
    
    (514,000
    )
    
    
    (7,984,500
    )Capital expenditures
    
    
    (2,409,757
    )
    
    
    (737,018
    )
    
    
    (307,070
    )Proceeds from sales of fixed assets
    
    
    235,909
    
    
    
    1,399
    
    
    
    125Proceeds from sales of other real estate
    
    
    967,105
    
    
    
    164,471
    
    
    
    111,945Net cash received in acquisition
    
    
    13,272,682
    
    
    
    
    
    
    
    Net cash used by investing activities
    
    
    (59,205,475
    )
    
    
    (22,076,748
    )
    
    
    (63,699,184
    )
 See notes to consolidated financial statements. (continued on next page) 43




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##### 



BANK OF GRANITE CORPORATION AND SUBSIDIARIESCONSOLIDATED STATEMENTS OF CASH FLOWS
    
    (concluded from previous page)YEARS ENDED DECEMBER 31, 2003, 2002 AND 2001
 2003
    
    2002
    
    2001CASH FLOWS FROM FINANCING ACTIVITIES:Net increase in demand deposits, NOW and
savings accounts
    
    
    47,031,803
    
    
    
    58,204,912
    
    
    
    13,566,540Net increase (decrease) in time deposits
    
    
    9,200,623
    
    
    
    (33,738,316
    )
    
    
    (8,065,321
    )Net increase (decrease) in overnight borrowings
    
    
    8,148,807
    
    
    
    (23,855,923
    )
    
    
    27,807,888Net increase (decrease) in other borrowings
    
    
    (7,569,928
    )
    
    
    22,420,202
    
    
    
    15,416,844Net proceeds from issuance of common stock
    
    
    339,961
    
    
    
    
    
    
    
    337,847Dividends paid
    
    
    (6,208,975
    )
    
    
    (5,594,799
    )
    
    
    (5,110,539
    )Purchases of common stock for treasury
    
    
    (5,875,198
    )
    
    
    (7,267,338
    )
    
    
    (3,767,609
    )Cash paid for fractional shares
    
    
    
    
    
    
    (17,528
    )
    
    
    Net cash provided by financing activities
    
    
    45,067,093
    
    
    
    10,151,210
    
    
    
    40,185,650NET INCREASE (DECREASE) IN
CASH EQUIVALENTS
    
    
    211,222
    
    
    
    6,326,599
    
    
    
    (3,569,067
    )CASH AND CASH EQUIVALENTS
AT BEGINNING OF YEAR
    
    
    33,384,612
    
    
    
    27,058,013
    
    
    
    30,627,080CASH AND CASH EQUIVALENTS
AT END OF YEAR
    
    $
    33,595,834
    
    
    $
    33,384,612
    
    
    $
    27,058,013SUPPLEMENTAL DISCLOSURE OF CASH FLOW INFORMATION:Cash paid during the year for:Interest paid
    
    $
    11,282,316
    
    
    $
    11,459,551
    
    
    $
    20,393,887Income taxes paid
    
    
    8,929,881
    
    
    
    8,379,273
    
    
    
    6,589,122Noncash investing and financing activities:Transfer from surplus to common
stock due to stock split
    
    
    
    
    
    
    2,883,471
    
    
    
    Transfer from loans to other real
estate owned
    
    
    2,595,819
    
    
    
    1,023,005
    
    
    
    420,499
 See notes to consolidated financial statements. 44




---



##### 



BANK OF GRANITE CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
YEARS ENDED DECEMBER 31, 2003, 2002 AND 2001 1. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES ORGANIZATION - Bank of Granite Corporation is a bank holding company with two wholly owned
subsidiaries, Bank of Granite (the Bank), a state chartered commercial bank incorporated in North Carolina
on August 2, 1906 and Granite Mortgage, Inc., formerly GLL & Associates, Inc., a mortgage banking
company incorporated in North Carolina on June 24, 1985. Bank of Granite Corporation and its two
subsidiaries, Bank of Granite and Granite Mortgage, Inc. are referred to herein collectively as the Company.
On July 15, 2003, the Company acquired First Commerce Corporation and its wholly owned subsidiary,
First Commerce Bank (referred to herein collectively as First Commerce), and merged First Commerce Bank
into Bank of Granite on July 24, 2003. First Commerce Bank operated three banking offices in the Charlotte
metropolitan area. The Bank is headquartered in Granite Falls, North Carolina and provides consumer and
commercial banking services in the Blue Ridge foothills through the southern Piedmont areas of North Carolina
through nineteen banking offices. Granite Mortgage is headquartered in Winston-Salem, North Carolina and
provides mortgage origination services in the central and southern Piedmont areas of North Carolina and Hilton
Head Island, South Carolina, through eleven mortgage offices. Granite Mortgage was acquired by Bank of
Granite Corporation on November 5, 1997. BASIS OF PRESENTATION - The consolidated financial statements include the accounts of Bank of Granite
Corporation and its wholly owned subsidiaries, Bank of Granite and Granite Mortgage, Inc. (referred to herein
collectively as the Company). All significant intercompany accounts and transactions have been eliminated.
All amounts reflect the July 15, 2003 acquisition of First Commerce Corporation, which was accounted for
using the purchase method of accounting and is discussed in Note 2 below. USE OF ESTIMATES - The preparation of financial statements in conformity with generally accepted
accounting principles requires management to make estimates and assumptions that affect the reported amounts
of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements
and the reported amounts of revenues and expenses during the reporting period. Actual results could differ
from those estimates. CASH AND CASH EQUIVALENTS - Cash and cash equivalents include cash on hand, amounts due from
banks, short-term interest bearing deposits, and federal funds sold. Generally, federal funds are purchased and
sold for one-day periods. INVESTMENT SECURITIES - Debt securities that the Company has the positive intent and ability to hold to
maturity are classified as held to maturity securities and reported at amortized cost. Debt and equity securities
that are bought and held principally for the purpose of selling in the near term are classified as trading
securities and reported at fair value, with unrealized gains and losses included in consolidated earnings. Debt
securities not classified as either held to maturity securities or trading securities, and equity securities not
classified as trading securities, are classified as available for sale securities and reported at fair value, with
unrealized gains and losses excluded from earnings and reported as a separate component of consolidated
shareholders equity and as an item of other comprehensive income. Gains and losses on held for investment
securities are recognized at the time of sale based upon the specific identification method. Declines in the fair
value of individual held to maturity and available for sale securities below their cost that are other than
temporary result in write-downs of the individual securities to their fair value. The related write-downs are
included in consolidated earnings as realized losses. Premiums and discounts are recognized in interest income
using the interest method over the period to maturity. Transfers of securities between classifications are
accounted for at fair value. No securities have been classified as trading securities. 45




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##### 



LOANS - Loans that management has the intent and ability to hold for the foreseeable future are reported
at their outstanding principal balances adjusted for any deferred fees or costs. Substantially all loans earn
interest on the level yield method based on the daily outstanding balance. Loans that are deemed to be impaired (i.e., probable that the Company will be unable to collect all amounts due
according to the terms of the loan agreement) are measured based on the present value of expected future cash
flows discounted at the loans effective interest rate or, as a practical matter, at the loans observable market
value or fair value of the collateral if the loan is collateral dependent. A valuation reserve is established to
record the difference between the stated loan amount and the present value or market value of the impaired loan.
Impaired loans may be valued on a loan-by-loan basis (e.g., loans with risk characteristics unique to an
individual borrower) or on an aggregate basis (e.g., loans with similar risk characteristics). The Companys
policy for recognition of interest income on impaired loans is the same as its interest income recognition policy
for non-impaired loans. The Company discontinues the accrual of interest when the collectibility of such
interest becomes doubtful. The total of impaired loans, impaired loans on a nonaccrual basis, the related
allowance for loan losses and interest income recognized on impaired loans is disclosed in Note 5. ALLOWANCE FOR LOAN LOSSES - The provision for loan losses charged to operations is an amount
sufficient to bring the allowance for loan losses to an estimated balance considered adequate to absorb potential
losses in the portfolio. Managements determination of the adequacy of the allowance is based on an evaluation
of the portfolio, current economic conditions, historical loan loss experience and other risk factors. Recovery
of the carrying value of loans is dependent to some extent on future economic, operating and other conditions
that may be beyond the Companys control. Unanticipated future adverse changes in such conditions could
result in material adjustments to the allowance for loan losses. REAL ESTATE ACQUIRED BY FORECLOSURE - Real estate acquired by foreclosure is stated at the lower
of cost or fair value. Any initial losses at the time of foreclosure are charged against the allowance for loan
losses with any subsequent losses or write-downs included in the consolidated statements of income as a
component of other expenses. PREMISES AND EQUIPMENT AND OTHER LONG-LIVED ASSETS - Premises and equipment are stated
at cost less accumulated depreciation and amortization. Depreciation and amortization, computed by the
straight-line method, are charged to operations over the properties estimated useful lives, which range from 25
to 50 years for buildings and 5 to 15 years for furniture and equipment or, in the case of leasehold
improvements, the term of the lease if shorter. Maintenance and repairs are charged to operations in the year
incurred. Gains and losses on dispositions are included in current operations. The Company reviews long-lived assets for impairment whenever events or changes in circumstances indicate
that the carrying amounts of such assets may not be recoverable. If the sum of the expected future cash flows is
less than the stated amount of the asset, an impairment loss is recognized for the difference between the fair
value of the asset and its carrying amount. GOODWILL AND OTHER INTANGIBLES - During 2003, the Companys acquisition of First Commerce
generated goodwill of $10,847,355 and core deposit intangible assets of $630,013. Statement of Financial
Accounting Standards (SFAS) No. 142, Goodwill and Other Intangible Assets uses a non-amortization
approach to account for purchased goodwill and intangible assets with fininte useful lives are amortized over
their useful lives. The carrying value of the core deposit intangible asset totaled $572,737, net of accumulated
amortization of $57,276, as of December 31, 2003. This intangible asset was determined by management to
meet the criteria for recognition apart from goodwill and to have a finite life of 10 years. Amortization expense
associated with the core deposit intangible asset was $57,276 for the year ended December 31, 2003. Annual
expense is expected to range from approximately $109,000 in 2004 to $63,000 in 2008. INCOME TAXES - Provisions for income taxes are based on amounts reported in the consolidated statements
of income (after exclusion of non-taxable income such as interest on state and municipal securities) and include
changes in deferred income taxes. Deferred taxes are computed using the asset and liability approach. The tax
effects of differences between the tax and financial accounting basis of assets and liabilities are reflected in the
balance sheets at the tax rates expected to be in effect when the differences reverse. INCOME AND EXPENSES - The Company uses the accrual method of accounting, except for immaterial
amounts of loan income and other fees which are recorded as income when collected. The recognition of
certain loan origination fee income and certain loan origination costs is deferred when such loans are originated
and amortized over the life of the loan. 46




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##### 



PER SHARE AMOUNTS - Per share amounts have been computed using both the weighted average number of
shares outstanding of common stock for the purposes of computing basic earnings per share and the weighted
average number of shares outstanding of common stock plus dilutive common stock equivalents for the purpose
of computing diluted earnings per share. See Note 15 for further information regarding the computation of
earnings per share. Dividends per share represent amounts declared by the Board of Directors. During 2002, the Company declared a 5-for-4 stock split effected in the form of a stock dividend payable
May 31, 2002 to shareholders of record on May 10, 2002. All share and per share amounts reflect the
split. STOCK-BASED COMPENSATION - The Company measures compensation costs related to employee
incentive stock options using the intrinsic value of the equity instrument granted (i.e., the excess of the market
price of the stock to be issued over the exercise price of the equity instrument at the date of grant) rather than
the fair value of the equity instrument. The Company accounts for compensation costs related to the Companys
employee stock option plan using the intrinsic value method. Therefore, no compensation cost has been
recognized for stock option awards because the options are granted at exercise prices based on the market
value of the Companys stock on the date of grant. Had compensation cost for the Companys employee stock
option plan been determined using the fair value method, the Companys pro forma net income and earnings
per share for the years ended December 31, 2003, 2002 and 2001 would have been as follows: 2003
    
    2002
    
    2001Net income as reported
    
    $
    15,307,893
    
    
    $
    15,102,300
    
    
    $
    13,808,555Deduct: Total stock-based employee compensation
expense determined under fair value based method
for all awards, net of related tax effects
    
    
    (170,543
    )
    
    
    (63,248
    )
    
    
    (117,734
    )Pro forma net income
    
    $
    15,137,350
    
    
    $
    15,039,052
    
    
    $
    13,690,821Net income per share as reported - Basic
    
    $
    1.14
    
    
    $
    1.11
    
    
    $
    0.99- Diluted
    
    
    1.13
    
    
    
    1.11
    
    
    
    0.99Pro forma net income per share - Basic
    
    
    1.13
    
    
    
    1.11
    
    
    
    0.99- Diluted
    
    
    1.12
    
    
    
    1.11
    
    
    
    0.98
 The Company estimated aggregate option values of $8.52, $6.68 and $5.91 for 2003, 2002 and 2001,
respectively, in order to compute its estimation of option compensation expense associated with the fair value
method, using The Black Scholes Model. The following assumptions were used: 2003
    
    2002
    
    2001Risk-free rate
    
    
    3.45
    %
    
    
    2.92
    %
    
    
    4.37
    %Average expected term (years)
    
    5.7 years
    
    5.6 years
    
    4.8 yearsExpected volatility
    
    
    44.61
    %
    
    
    44.63
    %
    
    
    45.26
    %Expected dividend yield
    
    
    2.53
    %
    
    
    2.28
    %
    
    
    2.20
    %Expected turnover
    
    
    9.26
    %
    
    
    2.07
    %
    
    
    2.39
    %
 LOANS HELD FOR SALE AND DERIVATIVE FINANCIAL INSTRUMENTS - Loans held for sale
primarily consist of one to four family residential loans originated for sale in the secondary market and are
carried at the lower of cost or fair value determined on an aggregate basis. Gains and losses on sales of loans
held for sale are included in mortgage banking income in the consolidated statement of income. Granite
Mortgage, uses two types of financial instruments to manage risk. These financial instruments, commonly
referred to as derivatives, consists of contracts to forward sell mortgage-backed securities and options to
forward sell securities. A derivative is a financial instrument that derives its cash flows, and therefore its
value,
by reference to an underlying instrument. Granite Mortgage uses derivatives primarily to hedge against changes
in the market values of the mortgage loans it generates and sells.  47




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##### 



As required by SFAS No. 133, Accounting for Derivative Instruments and Hedging Activities, Granite
Mortgage classifies its derivative financial instruments as a hedge of an exposure to changes in cash flow
from forecasted transactions (sales of loans to third parties) (cash flow hedge). For a qualifying cash flow
hedge, changes in the value of the derivatives that have been highly effective as hedges are recognized in other
comprehensive income. For cash flow hedges, net income may be affected to the extent that changes in the
value of the derivative instruments do not perfectly offset changes in the cash flow of the hedged asset or
liability. See Notes 18, 19 and 20 for further information regarding derivative financial instruments. NEW ACCOUNTING STANDARDS - In November 2002, the FASB issued FASB Interpretation No. 45
(FIN 45), Guarantors Accounting and Disclosure Requirements for Guarantees, Including Indirect Guarantees
of Indebtedness of Others. This interpretation expands the disclosures to be made by a guarantor in its
financial statements about its obligations under certain guarantees and requires the guarantor to recognize a
liability for the fair value of an obligation assumed under a guarantee. FIN 45 clarifies the requirements of
SFAS No. 5, Accounting for Contingencies, relating to guarantees. In general, FIN 45 applies to contracts
or indemnification agreements that contingently require the guarantor to make payments to the guaranteed party
based on changes in an underlying that is related to an asset, liability, or equity security of the guaranteed party.
Certain guarantee contracts are excluded from both the disclosure and recognition requirements of this
interpretation, including, among others, guarantees relating to employee compensation, residual value
guarantees under capital lease arrangements, commercial letters of credit, loan commitments, subordinated
interests in an SPE, and guarantees of a companys own future performance. Other guarantees are subject to
the disclosure requirements of FIN 45 but not to the recognition provisions and include, among others, a
guarantee accounted for as a derivative instrument under SFAS No. 133, a parents guarantee of debt owed to
a third party by its subsidiary or vice versa, and a guarantee which is based on performance not price. The
disclosure requirements of FIN 45 are effective for the Company as of December 31, 2002, and require
disclosure of the nature of the guarantee, the maximum potential amount of future payments that the guarantor
could be required to make under the guarantee, and the current amount of the liability, if any, for the
guarantors obligations under the guarantee. The recognition requirements of FIN 45 are to be applied
prospectively to guarantees issued or modified after December 31, 2002. Significant guarantees that have been
entered into by the Company are disclosed in Note 18. The adoption of FIN 45 did not have a material impact
on results of operations or financial position. In January 2003, the FASB issued FASB Interpretation No. 46 (FIN 46), Consolidation of Variable Interest
Entitiesan Interpretation of Accounting Research Bulletin 51Consolidated Financial Statements. This
interpretation provides guidance related to identifying variable interest entities and determining whether such
entities should be consolidated. FIN 46 requires an enterprise to consolidate a variable interest entity when the
enterprise (a) absorbs a majority of the variable interest entitys expected losses, (b) receives a majority of
the
entitys expected residual returns, or both, as a result of ownership, contractual or other financial interests in
the entity. Prior to the effective date of FIN 46, entities were generally consolidated by an enterprise that had
control through ownership of a majority voting interest in the entity. FIN 46 originally applied immediately to
variable interest entities created or obtained after January 31, 2003. During 2003, the Bank did not participate
in the creation of, or obtain a new variable interest in, any variable interest entity. In December 2003, the
FASB issued FIN 46R, a revision to FIN 46, which modified certain requirements of FIN 46 and allowed for
the optional deferral of the effective date of FIN 46R for annual or interim periods ending after March 15,
2004. As disclosed in the Quarterly Report on Form 10-Q for the period ended September 30, 2003, the
Company completed its assessment of the trust preferred securities and determined that these statutory business
trusts should no longer be consolidated entities. Accordingly, the statutory business trusts were reclassified to
debt in accordance with FIN 46. The Company is still evaluating the effect of the remaining provisions of FIN
46R on its financial statements, but no material impact on the consolidated results of operations or consolidated
financial condition of the Company is expected. In April 2003, the FASB issued SFAS No. 149, Amendment of Statement 133 on Derivative Instruments and
Hedging Activities. This Statement amends and clarifies financial accounting and reporting for derivative
instruments and for hedging activities under SFAS No. 133, Accounting for Derivative Instruments and
Hedging Activities. SFAS No. 149 clarifies the conditions under which a contract with an initial net
investment meets the characteristic of a derivative; clarifies when a derivative contains a financing component;
amends the definition of an underlying to conform it to language used in FASB Interpretation No. 45,
Guarantors Accounting and Disclosure Requirements for Guarantees, Including Indirect Guarantees of
Indebtedness of Others; and amends certain other existing pronouncements. This Statement is effective for
contracts entered into or modified by the Company after June 30, 2003. All provisions of this Statement will be
applied prospectively. The application of this Statement did not have a material effect on the Companys results
of operations or financial position. 48




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##### 



In May 2003, the FASB issued SFAS No. 150, Accounting for Certain Financial Instruments with
Characteristics of both Liabilities and Equity. This Statement establishes standards for the classification and
measurement of certain financial instruments with characteristics of both liabilities and equity. It clarifies
when
an issuer must classify certain financial instruments as liabilities (or as assets, in some circumstances), rather
than including them within stockholders equity or separately classifying them as mezzanine equity. This
Statement was effective for the Company for financial instruments entered into or modified after May 31, 2003,
and otherwise is effective for the Company in the third quarter of 2003. The Company has not issued any
financial instruments within the scope of SFAS No. 150; therefore, the application of SFAS No. 150 did not
affect the Companys results of operations, financial position or disclosures. 2. ACQUISITION On July 15, 2003, the Company completed its acquisition of First Commerce of Charlotte, North Carolina.
First Commerce was merged into the Bank and will be operated as part of the Bank. At the date of the
acquisition, First Commerce operated three banking offices and had total assets of approximately $172,568,000,
loans of approximately $113,565,000 and deposits of approximately $132,048,000. Under the terms of the acquisition agreement, the Company issued 543,217 shares of common stock and
assumed stock option plans to issue an additional 182,695 shares for a total fair value of $10,960,684 and
paid $9,829,749 in cash to acquire all of the outstanding common stock of First Commerce. The transaction was accounted for using the purchase method of accounting for business combinations, and
accordingly, the assets and liabilities of First Commerce were recorded based on preliminary estimates of
fair values of such assets and liabilities at July 15, 2003. The consolidated financial statements include the
results of operations of First Commerce since July 15, 2003. Although management does not expect that
the preliminary estimates of fair value will change significantly, subsequent information received may result
in an adjustment to these estimates. On June 30, 2003, the Company obtained an unsecured three-year line of credit from one of the Banks
correspondent banks to fund the cash portion of the consideration to be paid in the Companys acquisition
of First Commerce Corporation. The line is in the amount of $10,000,000 and bears an interest rate of
one-month LIBOR plus 120 basis points, with interest payable quarterly. As of December 31, 2003, the
Company had not borrowed any funds against this line of credit because the Company had sufficient
liquidity to pay the cash portion of the merger consideration. The estimated fair values of the assets acquired and liabilities assumed at the date of acquisition are as
follows: July 15, 2003AssetsCash and cash equivalents
    
    $
    23,102,431Investment securities
    
    
    27,240,788Loans
    
    
    113,564,818Premises and equipment
    
    
    2,731,734Intangible assets (goodwill and core deposit intangible)
    
    
    11,477,368Other assets acquired
    
    
    5,308,855Total assets acquired
    
    $
    183,425,994LiabilitiesDeposits
    
    $
    132,048,290Borrowed funds
    
    
    27,561,268Other liabilities
    
    
    3,026,003Total liabilities assumed
    
    
    162,635,561Net assets acquired and purchase price
    
    $
    20,790,433
 49




---



##### 



The portion of the purchase price allocated to intangible assets is presented below: July 15, 2003Purchase price
    
    $
    20,790,433Fair value of net tangible assets acquired
    
    
    10,180,862Excess of purchase price over fair value of net tangible assets acquired
    
    
    10,609,571Less: Core deposit intangible
    
    
    630,013Deferred income taxes
    
    
    (248,761
    )Core deposit intangible, net of deferred taxes
    
    
    381,252Goodwill recorded
    
    
    10,228,319Direct acquisition costs
    
    
    673,364Deferred income taxes
    
    
    (54,328
    )Goodwill generated
    
    $
    10,847,355
 The intangible assets consist of goodwill and a core deposit intangible. The core deposit intangible
represents $630,013 of the intangible assets and is being amortized over ten years. The following unaudited pro forma financial information presents the combined results of operations of the
Company and First Commerce as if the merger had occurred as of the beginning of the period for each
period presented. The pro forma financial information does not necessarily reflect the results of operations
that would have occurred had the Company and First Commerce constituted a single entity during such
periods. 2003
    
    2002
    
    2001Net interest income
    
    $
    53,506,017
    
    
    $
    50,879,945
    
    
    $
    56,319,214Other income
    
    
    15,128,554
    
    
    
    12,367,705
    
    
    
    10,741,060Net income
    
    
    14,724,380
    
    
    
    16,016,622
    
    
    
    14,406,022Net income
per common share - Basic
    
    $
    1.07
    
    
    $
    1.14
    
    
    $
    1.00- Diluted
    
    
    1.07
    
    
    
    1.13
    
    
    
    0.99
 50




---



##### 



3. INVESTMENT SECURITIES The amortized cost, gross unrealized gains and losses and fair values of investment securities at December 31,
2003 and 2002 are as follows: Amortized
    
    Gross Unrealized
    
    FairType and Contractual Maturity
    
    Cost
    
    Gains
    
    Losses
    
    ValueAVAILABLE FOR SALE
At December 31, 2003:U. S. Treasury due:After 1 year but within 5 years
    
    $
    5,314,460
    
    
    $
    57,415
    
    
    $
    
    
    
    $
    5,371,875Total U.S. Treasury
    
    
    5,314,460
    
    
    
    57,415
    
    
    
    
    
    
    
    5,371,875U. S. Government agencies due:Within 1 year
    
    
    3,055,026
    
    
    
    80,826
    
    
    
    
    
    
    
    3,135,852After 1 year but within 5 years
    
    
    50,341,935
    
    
    
    675,061
    
    
    
    264,326
    
    
    
    50,752,670After 5 years but within 10 years
    
    
    14,837,733
    
    
    
    64,461
    
    
    
    7,904
    
    
    
    14,894,290Total U.S. Government agencies
    
    
    68,234,694
    
    
    
    820,348
    
    
    
    272,230
    
    
    
    68,782,812State and local due:After 5 years but within 10 years
    
    
    1,918,431
    
    
    
    15,645
    
    
    
    539
    
    
    
    1,933,537After 10 years
    
    
    3,733,046
    
    
    
    
    
    
    
    72,503
    
    
    
    3,660,543Total state and local
    
    
    5,651,477
    
    
    
    15,645
    
    
    
    73,042
    
    
    
    5,594,080Others due:After 1 year but within 5 years
    
    
    199,596
    
    
    
    18,844
    
    
    
    
    
    
    
    218,440After 10 years
    
    
    11,065,026
    
    
    
    371,464
    
    
    
    31,205
    
    
    
    11,405,285Equity securities
    
    
    5,819,556
    
    
    
    537,303
    
    
    
    62,556
    
    
    
    6,294,303Total others
    
    
    17,084,178
    
    
    
    927,611
    
    
    
    93,761
    
    
    
    17,918,028Total available for sale
    
    $
    96,284,809
    
    
    $
    1,821,019
    
    
    $
    439,033
    
    
    $
    97,666,795HELD TO MATURITY
At December 31, 2003:U. S. Government agencies due:Within 1 year
    
    $
    2,505,151
    
    
    $
    55,176
    
    
    $
    
    
    
    $
    2,560,327After 1 year but within 5 years
    
    
    2,704,301
    
    
    
    120,960
    
    
    
    
    
    
    
    2,825,261Total U.S. Government agencies
    
    
    5,209,452
    
    
    
    176,136
    
    
    
    
    
    
    
    5,385,588State and local due:Within 1 year
    
    
    6,608,675
    
    
    
    73,727
    
    
    
    
    
    
    
    6,682,402After 1 year but within 5 years
    
    
    25,285,769
    
    
    
    1,347,306
    
    
    
    
    
    
    
    26,633,075After 5 years but within 10 years
    
    
    20,159,085
    
    
    
    1,548,569
    
    
    
    
    
    
    
    21,707,654After 10 years
    
    
    4,506,585
    
    
    
    360,321
    
    
    
    
    
    
    
    4,866,906Total state and local
    
    
    56,560,114
    
    
    
    3,329,923
    
    
    
    
    
    
    
    59,890,037Total held to maturity
    
    $
    61,769,566
    
    
    $
    3,506,059
    
    
    $
    
    
    
    $
    65,275,625
 Sales of securities available for sale for the year ended December 31, 2003 resulted in no gross gains and
realized gross losses of $17,756. Calls of securities available for sale for the year ended December 31, 2003
resulted in realized gross gains of $15,887 and realized gross losses of $829. Calls of securities held to maturity
for the year ended December 31, 2003 resulted in realized gross gains of $11,231 and no gross losses.  51




---



##### 



Amortized
    
    Gross Unrealized
    
    FairType and Contractual Maturity
    
    Cost
    
    Gains
    
    Losses
    
    ValueAVAILABLE FOR SALE
At December 31, 2002:U. S. Government agencies due:Within 1 year
    
    
    5,283,855
    
    
    
    44,450
    
    
    
    
    
    
    
    5,328,305After 1 year but within 5 years
    
    
    28,585,962
    
    
    
    813,983
    
    
    
    
    
    
    
    29,399,945After 5 years but within 10 years
    
    
    10,000,000
    
    
    
    553,100
    
    
    
    
    
    
    
    10,553,100Total U.S. Government agencies
    
    
    43,869,817
    
    
    
    1,411,533
    
    
    
    
    
    
    
    45,281,350Others due:After 1 year but within 5 years
    
    
    199,432
    
    
    
    24,266
    
    
    
    
    
    
    
    223,698After 10 years
    
    
    1,734,335
    
    
    
    71,836
    
    
    
    5,374
    
    
    
    1,800,797Equity securities
    
    
    4,804,725
    
    
    
    222,515
    
    
    
    68,954
    
    
    
    4,958,286Total others
    
    
    6,738,492
    
    
    
    318,617
    
    
    
    74,328
    
    
    
    6,982,781Total available for sale
    
    $
    50,608,309
    
    
    $
    1,730,150
    
    
    $
    74,328
    
    
    $
    52,264,131HELD TO MATURITY
At December 31, 2002:U. S. Government agencies due:After 1 year but within 5 years
    
    
    5,224,786
    
    
    
    363,101
    
    
    
    
    
    
    
    5,587,887Total U.S. Government agencies
    
    
    5,224,786
    
    
    
    363,101
    
    
    
    
    
    
    
    5,587,887State and local due:Within 1 year
    
    
    9,044,978
    
    
    
    94,270
    
    
    
    
    
    
    
    9,139,248After 1 year but within 5 years
    
    
    27,431,163
    
    
    
    1,566,044
    
    
    
    
    
    
    
    28,997,207After 5 years but within 10 years
    
    
    25,002,569
    
    
    
    1,473,513
    
    
    
    
    
    
    
    26,476,082After 10 years
    
    
    5,956,669
    
    
    
    311,571
    
    
    
    
    
    
    
    6,268,240Total state and local
    
    
    67,435,379
    
    
    
    3,445,398
    
    
    
    
    
    
    
    70,880,777Total held to maturity
    
    $
    72,660,165
    
    
    $
    3,808,499
    
    
    $
    
    
    
    $
    76,468,664
 Sales of securities available for sale for the year ended December 31, 2002 resulted in realized gross gains of $3,170 and no gross losses. Calls
of securities did not result in any gains or losses in 2002. Sales of securities available for sale for the year ended December 31, 2001 resulted in realized gross gains of $137,549 and no gross losses.
Calls of securities held to maturity resulted in gross gains of $3,300 and no
gross losses in 2001. Securities with an amortized cost of $54,769,851 and $86,359,688 were pledged as collateral for public
deposits and for other purposes as required by law at December 31, 2003 and 2002, respectively. 52




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##### 



4. LOANS Loans are made primarily to customers in the Companys market area.
Loans at December 31, 2003 and 2002, classified by type, are as follows: 2003
    
    2002Real estate:Construction
    
    $
    90,175,534
    
    
    $
    75,382,555Mortgage
    
    
    377,955,786
    
    
    
    245,496,076Commercial, financial and agricultural
    
    
    211,476,974
    
    
    
    175,408,637Consumer
    
    
    35,980,704
    
    
    
    37,045,878All other loans
    
    
    1,206,202
    
    
    
    449,251716,795,200
    
    
    
    533,782,397Deferred origination fees, net
    
    
    (950,568
    )
    
    
    (860,460
    )Total
    
    $
    715,844,632
    
    
    $
    532,921,937
 Nonperforming assets at December 31, 2003 and 2002 are as follows: 2003
    
    2002Nonaccrual loans
    
    $
    8,114,914
    
    
    $
    3,264,847Loans 90 days or more and still
accruing interest
    
    
    3,217,879
    
    
    
    1,152,998Foreclosed properties
    
    
    1,775,237
    
    
    
    1,202,603Total
    
    $
    13,108,030
    
    
    $
    5,620,448
 If interest from restructured loans, foreclosed properties and nonaccrual loans had been recognized in
accordance with the original terms of the loans, net income for 2003, 2002 and 2001 would not have been
materially different from the amounts reported. Directors and officers of the Company and companies with which they are affiliated are customers of and borrowers from the Bank in the ordinary course of business. At December 31, 2003 and 2002, directors and
principal officers direct and indirect indebtedness to the Bank aggregated $4,554,411 and $4,768,515, respectively. During 2003, additions to such loans were $1,126,273 and repayments totaled $1,340,377. In
the opinion of management, these loans do not involve more than normal risk of collectibility, nor do they present other unfavorable features.  53




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##### 



5. ALLOWANCE FOR LOAN LOSSES Changes in the allowance for loan losses for the years ended December 31, 2003, 2002 and 2001 are as follows: 2003
    
    2002
    
    2001Balance at beginning of year
    
    $
    8,834,611
    
    
    $
    6,426,477
    
    
    $
    6,351,756Loans charged off:Real estate
    
    
    1,615,998
    
    
    
    328,731
    
    
    
    1,473,527Commercial, financial and agricultural
    
    
    2,274,594
    
    
    
    538,069
    
    
    
    2,123,286Credit cards and related plans
    
    
    41,229
    
    
    
    56,607
    
    
    
    19,044Installment loans to individuals
    
    
    766,818
    
    
    
    260,198
    
    
    
    467,942Demand deposit overdraft program
    
    
    389,022
    
    
    
    371,463
    
    
    
    417,012Total charge-offs
    
    
    5,087,661
    
    
    
    1,555,068
    
    
    
    4,500,811Recoveries of loans previously charged off:Real estate
    
    
    3,100
    
    
    
    77,612
    
    
    
    52,490Commercial, financial and agricultural
    
    
    176,095
    
    
    
    168,349
    
    
    
    52,979Credit cards and related plans
    
    
    5,471
    
    
    
    2,321
    
    
    
    4,871Installment loans to individuals
    
    
    70,606
    
    
    
    58,642
    
    
    
    39,472Demand deposit overdraft program
    
    
    170,130
    
    
    
    163,896
    
    
    
    208,948Total recoveries
    
    
    425,402
    
    
    
    470,820
    
    
    
    358,760Net charge-offs
    
    
    4,662,259
    
    
    
    1,084,248
    
    
    
    4,142,051Additions charged to operations
    
    
    4,764,010
    
    
    
    3,492,382
    
    
    
    4,216,772Allowance acquired in purchase transaction
    
    
    1,862,535
    
    
    
    
    
    
    
    Balance at end of year
    
    $
    10,798,897
    
    
    $
    8,834,611
    
    
    $
    6,426,477Ratio of net charge-offs during the year to
average loans outstanding during the year
    
    
    0.75
    %
    
    
    0.21
    %
    
    
    0.86
    %
 At December 31, 2003 and 2002, the recorded investment in loans that are considered to be impaired,
including accrued interest, was $11,534,862 ($8,330,334 of which is on a nonaccrual basis) and $5,338,098
($3,392,264 of which is on a nonaccrual basis), respectively. The average recorded balance of impaired loans
during 2003 and 2002 is not significantly different from the balance at December 31, 2003 and 2002. The
related allowance for loan losses for these loans was $2,412,366 and $2,195,850 at December 31, 2003 and
2002, respectively. The allowance for impaired loans increased $216,516, or 9.86%, while the total
investment in impaired loans increased $6,196,764, or 116.09%. This disparity is primarily attributable to three
loans totaling $5,677,535, of which 80% of the principal balances are guaranteed under the federal
governments small business lending programs. For the years ended December 31, 2003, 2002 and 2001, the
Bank recognized interest income on those impaired loans of $305,865, $183,405 and $168,236, respectively. Primarily because of a recessionary economy in 2003, charge-offs totaled $5,087,661, significantly higher
than the $1,555,068 charged off in 2002. The largest two charge-offs were to two unrelated borrowers in the
amounts of $393,000 and $344,000. The average charge-off for 2003 was less than $25,000. 54




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##### 



6. PREMISES AND EQUIPMENT Summaries of premises and equipment at December 31, 2003 and 2002 follow: Premises andAccumulated
    
    Equipment,Cost
    
    Depreciation
    
    NetAt December 31, 2003:Land
    
    $
    2,331,599
    
    
    
    
    
    
    $
    2,331,599Buildings
    
    
    9,362,796
    
    
    $
    3,268,058
    
    
    
    6,094,738Leasehold improvements
    
    
    29,242
    
    
    
    5,551
    
    
    
    23,691Furniture, equipment and vehicles
    
    
    9,891,539
    
    
    
    7,662,769
    
    
    
    2,228,770Construction in progress
    
    
    1,539,768
    
    
    
    
    
    
    
    1,539,768Total
    
    $
    23,154,944
    
    
    $
    10,936,378
    
    
    $
    12,218,566At December 31, 2002:Land
    
    $
    1,903,616
    
    
    
    
    
    
    $
    1,903,616Buildings
    
    
    7,790,351
    
    
    $
    3,055,002
    
    
    
    4,735,349Leasehold improvements
    
    
    29,242
    
    
    
    15,347
    
    
    
    13,895Furniture, equipment and vehicles
    
    
    8,513,016
    
    
    
    7,094,309
    
    
    
    1,418,707Construction in progress
    
    
    98,583
    
    
    
    
    
    
    
    98,583Total
    
    $
    18,334,808
    
    
    $
    10,164,658
    
    
    $
    8,170,150
 7. OTHER INCOME AND EXPENSES For the years ended December 31, 2003, 2002 and 2001, items included in other income and other expenses
that exceeded 1% of total revenues are set forth below. 2003
    
    2002
    
    2001Items included in other income
Fees from demand deposit overdrafts
    
    $
    3,895,535
    
    
    $
    3,688,116
    
    
    $
    3,447,906Items included in other expenses
Marketing
    
    
    805,117
    
    
    
    526,635
    
    
    
    447,263
 8. INCOME TAXES The components of the income tax provision for the years ended December 31, 2003, 2002 and 2001 follow. 2003
    
    2002
    
    2001Income tax provisionCurrent
    
    $
    7,768,734
    
    
    $
    8,554,318
    
    
    $
    6,722,375Deferred
    
    
    41,331
    
    
    
    (1,159,425
    )
    
    
    (109,271
    )Total
    
    $
    7,810,065
    
    
    $
    7,394,893
    
    
    $
    6,613,104
 Changes in deferred taxes of $(109,186), $291,057 and $131,127 related to unrealized gains and losses on
securities available for sale during 2003, 2002 and 2001, respectively, were allocated to other comprehensive
income in the respective years. Changes in deferred taxes of $(41,496) related to unrealized gains and losses
on mortgages held for sale were allocated to other comprehensive income during 2003. 55




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##### 



A reconciliation of reported income tax expense for the years ended December 31, 2003, 2002 and 2001 to the
amount of tax expense computed by multiplying income before income taxes by the statutory federal income tax
rate follows. 2003
    
    2002
    
    2001Statutory federal income tax rate
    
    
    35
    %
    
    
    35
    %
    
    
    35
    %Tax provision at statutory rate
    
    $
    8,091,285
    
    
    $
    7,874,018
    
    
    $
    7,147,581Increase (decrease) in income taxes
resulting from:Tax-exempt interest income
    
    
    (995,475
    )
    
    
    (1,139,942
    )
    
    
    (1,190,225
    )State income taxes net of federal tax benefit
    
    
    795,840
    
    
    
    728,299
    
    
    
    599,528Other
    
    
    (81,585
    )
    
    
    (67,482
    )
    
    
    56,220Income tax provision
    
    $
    7,810,065
    
    
    $
    7,394,893
    
    
    $
    6,613,104
 The tax effect of the cumulative temporary differences and carryforwards that gave rise to the deferred tax
assets and liabilities at December 31, 2003 and 2002 are as follows: December 31, 2003Assets
    
    Liabilities
    
    TotalExcess book over tax bad debt expense
    
    $
    4,250,088
    
    
    $
    
    
    
    $
    4,250,088Excess tax over book depreciation
    
    
    
    
    
    
    (495,175
    )
    
    
    (495,175
    )Unrealized gains on securities
available for sale
    
    
    
    
    
    
    (551,097
    )
    
    
    (551,097
    )Unrealized losses on mortgage
derivative instruments
    
    
    41,496
    
    
    
    
    
    
    
    41,496Other, net
    
    
    969,110
    
    
    
    (978,942
    )
    
    
    (9,832
    )Total
    
    $
    5,260,694
    
    
    $
    (2,025,214
    )
    
    $
    3,235,480
 December 31, 2002Assets
    
    Liabilities
    
    TotalExcess book over tax bad debt expense
    
    $
    3,481,848
    
    
    $
    
    
    
    $
    3,481,848Excess tax over book depreciation
    
    
    
    
    
    
    (358,018
    )
    
    
    (358,018
    )Unrealized gains on securities
available for sale
    
    
    
    
    
    
    (660,282
    )
    
    
    (660,282
    )Other, net
    
    
    696,024
    
    
    
    (573,570
    )
    
    
    122,454Total
    
    $
    4,177,872
    
    
    $
    (1,591,870
    )
    
    $
    2,586,002
 The net deferred tax asset is included in other assets on the balance sheet. Although realization of the deferred tax assets is not assured, management believes it is more likely than not that
all of the deferred tax assets will be realized. 9. STOCK OPTIONS At December 31, 2003, 2002 and 2001, 340,157, 189,017 and 179,221 shares of common stock, respectively,
were reserved for stock options outstanding under the Companys stock option plans. Shares available for
grants under the Companys stock option plans were 217,763 shares at December 31, 2003, 215,498 shares
at December 31, 2002, and 225,294 shares at December 31, 2001. Option prices are established at market value
on the dates granted by the Board of Directors. Option shares and option prices have been restated for
the 5-for-4 stock split effected in the form of a stock dividend payable May 31, 2002 to shareholders of
record on May 10, 2002. 56




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##### 



A summary of the status of the Companys incentive stock option plans at December 31, 2003, 2002 and 2001
and changes during the years then ended are presented below: 2003
    
    2002
    
    2001Weighted
    
    
    
    
    
    Weighted
    
    
    
    
    
    WeightedAverage
    
    
    
    
    
    Average
    
    
    
    
    
    AverageExercise
    
    
    
    
    
    Exercise
    
    
    
    
    
    ExerciseShares
    
    Price
    
    Shares
    
    Price
    
    Shares
    
    PriceOutstanding at beginning of year
    
    
    189,017
    
    
    $
    19.11
    
    
    
    179,221
    
    
    $
    19.15
    
    
    
    180,750
    
    
    $
    18.77Issued in purchase transactions
    
    
    182,695
    
    
    
    9.58
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    Granted
    
    
    7,000
    
    
    
    18.03
    
    
    
    13,000
    
    
    
    18.37
    
    
    
    26,250
    
    
    
    15.92Exercised
    
    
    29,290
    
    
    
    11.61
    
    
    
    
    
    
    
    
    
    
    
    25,545
    
    
    
    13.23Expired or canceled
    
    
    9,265
    
    
    
    18.78
    
    
    
    3,204
    
    
    
    18.78
    
    
    
    2,234
    
    
    
    17.42Outstanding at end of year
    
    
    340,157
    
    
    $
    14.58
    
    
    
    189,017
    
    
    $
    19.11
    
    
    
    179,221
    
    
    $
    19.15Options exercisable at end of year
    
    
    297,222
    
    
    $
    14.14
    
    
    
    121,688
    
    
    $
    19.49
    
    
    
    96,106
    
    
    $
    19.43
 For various price ranges, weighted average characteristics of outstanding stock options at December 31, 2003
follow. Outstanding Options
    
    Exercisable OptionsWeightedShares
    
    Average
    
    Weighted
    
    Shares
    
    WeightedOutstanding at
    
    Remaining
    
    Average
    
    Exercisable at
    
    AverageRange of
    
    December 31,
    
    Contractual
    
    Exercise
    
    December 31,
    
    ExerciseExercise Prices
    
    2003
    
    Life (years)
    
    Price
    
    2003
    
    Price$0.00-8.25
    
    
    54,754
    
    
    
    7.0
    
    
    $
    7.61
    
    
    
    54,754
    
    
    $
    7.618.26 - 10.75
    
    
    53,720
    
    
    
    3.9
    
    
    
    9.65
    
    
    
    53,720
    
    
    
    9.6510.76 - 15.75
    
    
    51,149
    
    
    
    7.2
    
    
    
    11.37
    
    
    
    51,149
    
    
    
    11.3715.76 - 17.75
    
    
    64,457
    
    
    
    2.8
    
    
    
    16.82
    
    
    
    48,636
    
    
    
    16.9017.76 - 18.25
    
    
    50,624
    
    
    
    1.1
    
    
    
    17.93
    
    
    
    35,985
    
    
    
    17.9118.26 - 26.50
    
    
    65,453
    
    
    
    4.2
    
    
    
    22.16
    
    
    
    52,978
    
    
    
    23.017.18 - 26.20
    
    
    340,157
    
    
    
    4.3
    
    
    $
    14.60
    
    
    
    297,222
    
    
    $
    14.10
 Options granted become exercisable in accordance with the vesting schedule specified by the Board of Directors
in the grant. Options granted prior to January 1, 1997 and after December 31, 1997 become exercisable over a
five-year period at the rate of 20% per year beginning one-year from the date of grant. Options granted during
1997 become exercisable over a four-year period at the rate of 20% after six-months from the date of grant and
20% per year beginning one-year from the date of grant. The Company issued stock options to purchase shares
of its common stock in exchange for the First Commerce stock options that were outstanding at the time the
merger was completed. First Commerces stock option plans provided that all of the outstanding options were
vested as of the acquisition date and thus the Company included them as part of the purchase price. There is no
change in the aggregate intrinsic value of the options issued compared to the intrinsic value of the options held
immediately before the exchange, nor does the ratio of the exercise price per option to the market value per
share change. The option plans assumed in the acquisition of First Commerce are exercisable for ten-years after
the date of grant and became fully vested as of the July 15, 2003 acquisition date. No other options may be
exercisable more than five-years after the date of grant, unless the exercise date is extended by the Board of
Directors. The Board of Directors extended the exercise period to ten years for options granted during 1997
and 1998 because the exercise prices of such grants exceeded the market price resulting in no value to the
Company or the optionee. 57




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##### 



10. EMPLOYEE BENEFIT PLANS The Bank sponsors a tax-qualified profit-sharing retirement plan covering substantially all employees.
Contributions to the plan are made at the discretion of the Board of Directors but may not exceed the maximum
amount allowable for federal income tax purposes. Contributions totaled $599,693, $855,767 and $449,487
for the years ended December 31, 2003, 2002 and 2001, respectively. The Bank sponsors non-tax qualified supplemental executive retirement plans for both its chairman and chief
executive officer, which allow the Bank to supplement the level of the two executive officers retirement
incomes over that which is obtainable through the tax-qualified profit sharing retirement plan sponsored by the
Bank. Contributions totaled $15,790, $24,930 and $16,627 for the years ended December 31, 2003, 2002 and
2001, respectively. During 2001, the Bank replaced its split-dollar life insurance arrangements with its officers by adopting a
non-tax qualified Supplemental Executive Retirement Plan for its officers (Officers SERP) to supplement
the benefit each officer can receive under the Banks tax-qualified profit sharing retirement plan. Once the
officer has completed 7 full years of service with the Bank, the Officers SERP is designed to provide a benefit
to the officer at the normal retirement age of 65, or thereafter, or an early retirement age of 50. Benefits are
payable for 10 years for certain officers or life for certain officers. Actual retirement benefits payable under
the Officers SERP are dependent on an indexed retirement benefit formula, which accrues benefits equal to
the excess of the aggregate annual after-tax income from informally associated life insurance contracts over the
Banks opportunity costs related to the Officers SERP. Because retirement benefits payable under the
Officers SERP are dependent on the performance of insurance contracts, the performance of such contracts is
not guaranteed by the Bank. In the event of an officers termination of employment for any reason, other than
for cause, the officer is 100% vested after 7 or more full years of service with the Bank after the officer has
attained the age of 18. In the event of the officers termination of employment due to disability or change of
control of the Company or the Bank, payments from the plan would begin at the officers normal or early
retirement age and the officer shall be 100% vested in the entire retirement benefit amount. In connection with the Officers SERP, the Bank has also entered into Life Insurance Endorsement Method
Split Dollar Agreements (the Agreements) with the participants covered under the Officers SERP. Under
the Agreements, in the event of the officers death, the officers beneficiary will receive the lesser of 2 times
the officers salary at the time of death or 100% of the net-at-risk life insurance of the policy, which is defined
as the death benefit in excess of cash value, together with any remaining balance in the liability reserve
account. In 2001, the Bank purchased bank-owned life insurance (BOLI), which may be used, at the Banks sole
discretion, to fund the benefits payable under the Officers SERP. In the third quarter of 2001, the Bank
invested $7,984,500 in BOLI policies that, if the Bank so elects, may be used to fund the death and/or
retirement benefits payable under the Officers SERP. During 2002, an additional $514,000 was invested
in BOLI for four participants added during the year. During 2003, the Bank made no additional investments in
BOLI, although it acquired $3,764,492 in BOLI in its acquisition of First Commerce. As of December 31,
2003 and 2002, cash values from the BOLI policies equaled $13,360,278 and $9,106,748, respectively.
For 2003 and 2002, $414,910 and $286,623, respectively, was accrued in retirement benefits and plan
related costs. As of December 31, 2003, the Officers SERP had 39 participants. Granite Mortgage sponsors a retirement plan for its employees under Section 401(k) of the Internal Revenue
Code. The plan covers all employees over 21 years of age who have completed 1,000 hours of service. At its
discretion, Granite Mortgage may make matching contributions to the plan. Contributions totaled $128,649,
$97,518 and $89,709 for the years ended December 31, 2003, 2002 and 2001, respectively. 58




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##### 



11. LEASES LESSEE  OPERATING  The Companys subsidiaries lease certain premises and equipment under operating
lease agreements. As of December 31, 2003, future minimum lease payments under noncancelable operating
leases are as follows: Year
    
    Payments2004
    
    $
    573,2342005
    
    
    725,4082006
    
    
    480,1902007
    
    
    453,1632008
    
    
    403,5312009 and thereafter
    
    
    1,273,235Total
    
    $
    3,908,761
 Rental expense charged to operations under all operating lease agreements was $518,680, $291,771 and
$285,041 for the years ended December 31, 2003, 2002 and 2001, respectively. In September 2003, the Company entered into commercial leases with Salem Investors, LLC, a company
jointly owned by the chief executive officer and a senior vice president of Granite Mortgage, for the purpose
of providing a community banking facility to the Bank and a mortgage banking facility to Granite Mortgage
in Winston-Salem, North Carolina. The facility is currently under construction. The leases commence on
January 1, 2005 and have an initial lease term of seven years. Based on a fairness opinion obtained from an
independent third party expert, the Company has determined that the leases are on terms comparable to similar
properties in the area and that the leases are in the best interests of the Companys community banking and
mortgage banking operations. 12. OVERNIGHT BORROWINGS Federal funds purchased generally represent overnight borrowings by the Bank for temporary funding
requirements. Securities sold under agreements to repurchase represent short-term borrowings by the Bank
collateralized by U.S. Treasury and U.S. Government agency securities. The Bank also borrows funds on an
overnight basis from the Federal Home Loan Bank. Following is a summary of these borrowings: 2003
    
    2002Federal funds purchased:Balance at end of year
    
    $
    5,950,000
    
    
    $
    Weighted average interest rate at end of year
    
    
    1.15
    %
    
    
    Maximum amount outstanding at any month-end during the year
    
    $
    5,950,000
    
    
    $
    15,000,000Average daily balance outstanding during the year
    
    $
    434,932
    
    
    $
    4,256,849Average annual interest rate paid during the year
    
    
    1.37
    %
    
    
    1.87
    %Securities sold under agreements to repurchase:Balance at end of year
    
    $
    1,839,117
    
    
    $
    1,704,715Weighted average interest rate at end of year
    
    
    0.35
    %
    
    
    0.63
    %Maximum amount outstanding at any month-end during the year
    
    $
    2,262,318
    
    
    $
    2,328,818Average daily balance outstanding during the year
    
    $
    2,019,718
    
    
    $
    1,920,852Average annual interest rate paid during the year
    
    
    0.50
    %
    
    
    1.17
    %
 59




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##### 



2003
    
    2002Overnight borrowings from the Federal Home Loan Bank:Balance at end of year
    
    $
    
    
    
    $
    Weighted average interest rate at end of year
    
    
    
    
    
    
    Maximum amount outstanding at any month-end during the year
    
    $
    10,500,000
    
    
    $
    28,700,000Average daily balance outstanding during the year
    
    $
    392,329
    
    
    $
    13,884,384Average annual interest rate paid during the year
    
    
    1.49
    %
    
    
    1.97
    %
 The Bank offers a commercial sweep product whereby qualifying amounts are swept overnight from a
commercial deposit account into commercial paper issued by the Company. 2003
    
    2002Commercial deposits swept into commercial paper:Balance at end of year
    
    $
    17,416,054
    
    
    $
    15,015,692Weighted average interest rate at end of year
    
    
    1.50
    %
    
    
    1.50
    %Maximum amount outstanding at any month-end during the year
    
    $
    15,524,583
    
    
    $
    15,524,583Average daily balance outstanding during the year
    
    $
    14,915,273
    
    
    $
    13,363,928Average annual interest rate paid during the year
    
    
    1.35
    %
    
    
    1.96
    %
 13. OTHER BORROWINGS The Bank also borrows funds with maturities of one year or less from the Federal Home Loan Bank and
assumed borrowings of $22,000,000 with an average remaining maturity of 5.7 years in its acquisition of First
Commerce. 2003
    
    2002Federal Home Loan Bank borrowings:Balance at end of year
    
    $
    34,187,157
    
    
    $
    12,000,000Weighted average interest rate at end of year
    
    
    2.95
    %
    
    
    1.60
    %Maximum amount outstanding at any month-end during the year
    
    $
    34,225,310
    
    
    $
    12,000,000Average daily balance outstanding during the year
    
    $
    22,175,343
    
    
    $
    1,808,219Average annual interest rate paid during the year
    
    
    2.61
    %
    
    
    1.60
    %
 Granite Mortgage temporarily funds its mortgages, from the time of origination until the time of sale, through
the use of a warehouse line of credit from one of the Companys correspondent financial institutions. For the
years ended December 31, 2003 and 2002, this line of credit was $50,000,000 and $30,000,000, of which
$26,107,383 and $28,198,129, respectively, were outstanding at year end. Granite Mortgage requests the line
of credit based on its estimated funding needs for the year. Outstanding balances under this line of credit accrue
interest at a rate of the 30-day LIBOR plus 115 basis points to fund mortgages originated and sold and
construction loans. The line is secured by the mortgage loans originated and the Company serves as guarantor
on Granite Mortgages borrowings under this arrangement. Under the terms of the loan agreement, Granite
Mortgage is required to meet certain financial conditions regarding adjusted tangible net worth and interest
coverage. On June 30, 2003, the Company obtained an unsecured three-year line of credit from one of the Banks
correspondent banks to fund the cash portion of the consideration to be paid in the Companys acquisition of
First Commerce Corporation. The line is in the amount of $10,000,000 and bears an interest rate of one-month
LIBOR plus 120 basis points, with interest payable quarterly. As of December 31, 2003, the Company had not
borrowed any funds against this line of credit because the Company had sufficient liquidity to pay the cash
portion of the merger consideration. Through its acquisition of First Commerce, the Company acquired a statutory business trust, First Commerce
Capital Trust I, created by First Commerce in 2001 to facilitate the issuance of a $5,000,000 trust preferred
security through a pooled trust preferred securities offering. This security bears a variable interest rate based on
the sixty-day LIBOR plus 375 basis points, matures in 2031 and is callable at par in 2006. 60




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##### 



14. MATURITIES OF TIME DEPOSITS Principal maturities of the Banks time deposits as of December 31, 2003 are as follows: Year
    
    Payments2004
    
    $
    260,747,7982005
    
    
    36,773,4612006
    
    
    21,738,3282007
    
    
    14,902,3972009 and thereafter
    
    
    3,457Total
    
    $
    334,165,441
 15. RECONCILIATION OF BASIC AND DILUTED EARNINGS PER SHARE Basic earnings per share (EPS) is computed by dividing net income by the weighted average number of
common shares outstanding for the period. Basic EPS excludes the dilutive effect that could occur if any
securities or other contracts to issue common stock were exercised or converted into or resulted in the issuance
of common stock. Diluted EPS is computed by dividing net income by the sum of the weighted average
number of common shares outstanding for the period plus the number of additional common shares that would
have been outstanding if the potentially dilutive common shares had been issued. Options to purchase 47,175,
80,081 and 152,971 common shares were excluded from the computation of diluted net income per share for
the years ended December 31, 2003, 2002 and 2001, respectively, because the options exercise prices were
greater than the average market price of common shares. Following is the reconciliation of EPS for the years
ended December 31, 2003, 2002 and 2001. Basic and diluted earnings per share and weighted average shares outstanding for 2001 have been restated to
reflect the 5-for-4 stock split effected in the form of a stock dividend paid May 31, 2002 to shareholders of
record on May 10, 2002. 2003
    
    2002
    
    2001BASIC EARNINGS PER SHARENet income
    
    $
    15,307,893
    
    
    $
    15,102,300
    
    
    $
    13,808,555Divide by: Weighted average shares outstanding
    
    
    13,438,007
    
    
    
    13,547,299
    
    
    
    13,897,764Basic earnings per share
    
    $
    1.14
    
    
    $
    1.11
    
    
    $
    0.99DILUTED EARNINGS PER SHARENet income
    
    $
    15,307,893
    
    
    $
    15,102,300
    
    
    $
    13,808,555Divide by: Weighted average shares outstanding
    
    
    13,438,007
    
    
    
    13,547,299
    
    
    
    13,897,764Potentially dilutive effect of
stock options
    
    
    78,693
    
    
    
    5,270
    
    
    
    2,363Weighted average shares outstanding,
including potentially dilutive effect
of stock options
    
    
    13,516,700
    
    
    
    13,552,569
    
    
    
    13,900,127Diluted earnings per share
    
    $
    1.13
    
    
    $
    1.11
    
    
    $
    0.99
 16. REGULATION AND REGULATORY RESTRICTIONS The Company is regulated by the Board of Governors of the Federal Reserve System (FRB) and is subject to
securities registration and public reporting regulations of the Securities and Exchange Commission. The Bank is
regulated by the Federal Deposit Insurance Corporation (FDIC), the North Carolina State Banking
Commission and the FRB. The primary source of funds for the payment of dividends by the Company is dividends received from its
subsidiaries, the Bank and Granite Mortgage. The Bank, as a North Carolina banking corporation, may pay
dividends only out of undivided profits as determined pursuant to North Carolina General Statutes Section
53-87. As of December 31, 2003, the Bank had undivided profits, as defined, of $96,550,911. 61




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##### 



The Bank is subject to various regulatory capital requirements administered by the federal banking agencies.
Failure to meet minimum capital requirements can initiate certain mandatory, and possibly additional
discretionary, actions by regulators that, if undertaken, could have a direct material effect on the Banks assets,
liabilities, and certain off-balance-sheet items calculated under regulatory accounting practices. The Banks
capital amounts and classification are also subject to qualitative judgments by the regulators about components,
risk weightings, and other factors. Quantitative measures established by regulation to ensure capital adequacy require the Company and the Bank
to maintain minimum amounts and ratios of total and Tier I capital (as defined in the regulations) to
risk-weighted assets (as defined), and of Tier I capital (as defined) to average assets (as defined). Management
believes, as of December 31, 2003, that the Company and the Bank meet all capital adequacy requirements
to which it is subject. As of December 31, 2003, the most recent regulatory notifications categorized both the Company and the Bank
as well capitalized under the regulatory framework for prompt corrective action. To be categorized as well
capitalized, the Company and the Bank must maintain minimum total risk-based, Tier I risk-based, and Tier I
leverage ratios as set forth in the table. Management is not aware of conditions or events subsequent to such
notifications that would cause a change in the Companys or the Banks capital categories. The Companys actual capital amounts and ratios are also presented in the table: To Be WellCapitalizedUnder PromptFor Capital
    
    CorrectiveAdequacy
    
    ActionActual
    
    Purposes
    
    Provisions(dollars in thousands)
    
    Amount
    
    Ratio
    
    Amount
    
    Ratio
    
    Amount
    
    RatioAs of December 31, 2003Total capital to risk weighted assets
    
    $
    144,694
    
    
    
    18.38
    %
    
    $
    62,992
    
    
    
    8.00
    %
    
    $
    78,739
    
    
    
    10.00
    %Tier I capital to risk weighted assets
    
    
    134,626
    
    
    
    17.10
    %
    
    
    31,496
    
    
    
    4.00
    %
    
    
    47,244
    
    
    
    6.00
    %Tier I capital to average assets
    
    
    134,626
    
    
    
    14.05
    %
    
    
    38,324
    
    
    
    4.00
    %
    
    
    47,905
    
    
    
    5.00
    %As of December 31, 2002Total capital to risk weighted assets
    
    $
    134,020
    
    
    
    22.37
    %
    
    $
    47,921
    
    
    
    8.00
    %
    
    $
    59,901
    
    
    
    10.00
    %Tier I capital to risk weighted assets
    
    
    126,447
    
    
    
    21.11
    %
    
    
    23,960
    
    
    
    4.00
    %
    
    
    35,940
    
    
    
    6.00
    %Tier I capital to average assets
    
    
    126,447
    
    
    
    17.52
    %
    
    
    28,876
    
    
    
    4.00
    %
    
    
    36,095
    
    
    
    5.00
    %
 The average reserve balance required to be maintained under the requirements of the Federal Reserve was
approximately $3,647,000 for the year ended December 31, 2003. The Bank maintained average reserve
balances in excess of the requirements. 17. PARENT COMPANY CONDENSED FINANCIAL INFORMATION Condensed financial data for Bank of Granite Corporation (parent company only) follows: December 31,Condensed Balance Sheets
    
    2003
    
    2002Assets:Cash on deposit with bank subsidiary
    
    $
    19,228,055
    
    
    $
    15,891,441Investment in subsidiary bank at equity
    
    
    133,845,184
    
    
    
    117,907,574Investment in subsidiary mortgage bank at equity
    
    
    6,196,011
    
    
    
    4,459,814Other investments
    
    
    4,452,823
    
    
    
    4,438,658Other assets
    
    
    665,728
    
    
    
    86,208Total
    
    $
    164,387,801
    
    
    $
    142,783,695Liabilities and Shareholders Equity:Other borrowings
    
    $
    22,416,054
    
    
    $
    15,015,692Other liabilities
    
    
    156,648
    
    
    
    325,161Shareholders equity
    
    
    141,815,099
    
    
    
    127,442,842Total
    
    $
    164,387,801
    
    
    $
    142,783,695
 62




---



##### 



For the Years Ended December 31,Condensed Results of Operations
    
    2003
    
    2002
    
    2001Equity in earnings of subsidiary bank:Dividends
    
    $
    22,287,838
    
    
    $
    8,627,072
    
    
    $
    13,913,195Earnings retained
    
    
    (8,916,288
    )
    
    
    5,577,290
    
    
    
    (642,641
    )Equity in earnings of subsidiary mortgage bank:Dividends
    
    
    449,155
    
    
    
    326,155
    
    
    
    61,090Earnings retained
    
    
    1,795,484
    
    
    
    881,165
    
    
    
    820,408Income (expenses), net
    
    
    (308,296
    )
    
    
    (309,382
    )
    
    
    (343,497
    )Net income
    
    $
    15,307,893
    
    
    $
    15,102,300
    
    
    $
    13,808,555
 For the Years Ended December 31,Condensed Cash Flow
    
    2003
    
    2002
    
    2001Cash flows from operating activities:Net income
    
    $
    15,307,893
    
    
    $
    15,102,300
    
    
    $
    13,808,555Adjustments to reconcile net income to net
cash provided by operating activities:Equity in undistributed earnings of subsidiaries
    
    
    7,120,804
    
    
    
    (6,458,455
    )
    
    
    (177,767
    )Premium amortization and discount
accretion, net
    
    
    (1,890
    )
    
    
    (1,761
    )
    
    
    (1,774
    )Losses (gains) on sales or calls of
securities available for sale
    
    
    17,756
    
    
    
    (3,170
    )
    
    
    (9,214
    )Decrease (increase) in interest receivable
    
    
    (867
    )
    
    
    8,670
    
    
    
    (33,162
    )Decrease in interest payable
    
    
    (25,386
    )
    
    
    
    
    
    
    Decrease (increase) in other assets
    
    
    (414,706
    )
    
    
    61,949
    
    
    
    44,587Increase (decrease) in other liabilities
    
    
    (450,106
    )
    
    
    224,184
    
    
    
    88,155Net cash provided by operating activities
    
    
    21,553,498
    
    
    
    8,933,717
    
    
    
    13,719,380Cash flows from investing activities:Proceeds from maturities of securities
available for sale
    
    
    300,000
    
    
    
    300,000
    
    
    
    Proceeds from sales of securities
available for sale
    
    
    682,210
    
    
    
    56,599
    
    
    
    506,226Purchases of securities available for sale
    
    
    (537,628
    )
    
    
    (500,749
    )
    
    
    (1,828,288
    )Net cash paid in acquisition
    
    
    (9,317,616
    )
    
    
    
    
    
    
    Net cash used by investing activities
    
    
    (8,873,034
    )
    
    
    (144,150
    )
    
    
    (1,322,062
    )Cash flows from financing activities:Net increase in overnight borrowings
    
    
    2,400,362
    
    
    
    1,724,205
    
    
    
    2,327,654Net proceeds from issuance of common stock
    
    
    339,961
    
    
    
    
    
    
    
    337,847Net dividends paid
    
    
    (6,208,975
    )
    
    
    (5,594,799
    )
    
    
    (5,110,539
    )Cash paid for fractional shares
    
    
    
    
    
    
    (17,528
    )
    
    
    Purchases of common stock for treasury
    
    
    (5,875,198
    )
    
    
    (7,267,338
    )
    
    
    (3,767,609
    )Net cash used by financing activities
    
    
    (9,343,850
    )
    
    
    (11,155,460
    )
    
    
    (6,212,647
    )Net increase (decrease) in cash
    
    
    3,336,614
    
    
    
    (2,365,893
    )
    
    
    6,184,671Cash at beginning of year
    
    
    15,891,441
    
    
    
    18,257,334
    
    
    
    12,072,663Cash at end of year
    
    $
    19,228,055
    
    
    $
    15,891,441
    
    
    $
    18,257,334
 63




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##### 



(table concluded from previous page)
 For the Years Ended December 31,Condensed Cash Flow
    
    2003
    
    2002
    
    2001Supplemental disclosure of non-cash transactions:Cash paid during the year for:Interest paid
    
    $
    (339,840
    )
    
    $
    (262,350
    )
    
    $
    (364,624
    )Noncash investing and financing activities:Transfer from surplus to common
stock due to stock split
    
    
    
    
    
    
    2,883,471
    
    
    
    
 18. COMMITMENTS AND CONTINGENCIES The Companys subsidiaries are parties to financial instruments in the ordinary course of business. The Bank
routinely enters into commitments to extend credit and issues standby letters of credit in order to meet the
financing needs of its customers. Beginning in late 2002, Granite Mortgage entered into forward commitments
and options to sell mortgage-backed securities in an effort to reduce its exposure to interest rate risk resulting
from a change in its process of managing its production of mortgage loan originations. The following table
presents the contractual or notional amount of these financial instruments as of the dates indicated. December 31,2003
    
    2002Financial instruments whose contract amounts represent credit riskCommitments to extend credit
    
    $
    120,746,272
    
    
    $
    87,675,231Standby letters of credit
    
    
    6,133,695
    
    
    
    6,664,731Financial instruments whose notional or contract amounts are
intended to hedge against interest rate riskForward commitments and options to sell mortgage-backed securities
    
    $
    16,032,147
    
    
    $
    17,981,335
 Commitments to extend credit are legally binding agreements to lend to a customer as long as there is no
violation of any condition established in the contract. Commitments generally have fixed expiration dates or
other termination clauses. Since many of the commitments are expected to expire without being drawn upon,
the total commitment amounts outstanding do not necessarily represent future cash requirements. Standby letters
of credit represent conditional commitments issued by the Bank to assure the performance of a customer to a
third party. 64




---



##### 



The Banks exposure to credit loss for commitments to extend credit and standby letters of credit is the
contractual amount of those financial instruments. The Bank uses the same credit policies for making
commitments and issuing standby letters of credit as it does for on-balance sheet financial instruments. Each
customers creditworthiness is evaluated on an individual case-by-case basis. The amount and type of collateral,
if deemed necessary by management, is based upon this evaluation of creditworthiness. Collateral held varies,
but may include marketable securities, deposits, property, plant and equipment, investment assets, inventories
and accounts receivable. Management does not anticipate any significant losses as a result of these financial
instruments. Forward commitments and options to sell mortgage-backed securities are contracts for delayed delivery of
securities in which Granite Mortgage agrees to make delivery at a specified future date of a specified
instrument, at a specified price or yield. Risks arise from the possible inability of counterparties to meet the
terms of their contracts and from movements in the underlying securities values and interest rates. Legal Proceedings The nature of the businesses of the Companys subsidiaries ordinarily results in a certain amount of litigation.
The Companys subsidiaries are involved in various legal proceedings, all of which are considered incidental
to the normal conduct of business. Management believes that the liabilities, if any, arising from these
proceedings will not have a material adverse effect on the consolidated financial position or consolidated
results of operations of the Company. 19. FAIR VALUE OF FINANCIAL INSTRUMENTS Fair value information about financial instruments, whether or not recognized in the balance sheet, for which
it is practical to estimate the value, is based upon the characteristics of the instruments and relevant market
information. Financial instruments include cash, evidence of ownership in an entity or contracts that convey
or impose on an entity the contractual right or obligation to either receive or deliver cash for another financial
instrument. Fair value is the amount at which a financial instrument could be exchanged in a current transaction
between willing parties, other than in a forced sale or liquidation, and is best evidenced by a quoted market
price if one exists. The following estimated fair value amounts have been determined by the Company, using
available market information and appropriate valuation methodologies. However, considerable judgment is
necessarily required to interpret market data to develop the estimates of fair value. Accordingly, the estimates
presented herein are not necessarily indicative of the amounts the Company could realize in a current market
exchange. The use of different market assumptions and/or estimation methodologies may have a material effect
on the estimated fair value amounts. December 31, 2003
    
    December 31, 2002Estimated
    
    
    
    
    
    EstimatedCarrying
    
    Fair
    
    Carrying
    
    FairAmount
    
    Value
    
    Amount
    
    ValueAssets:Cash and cash equivalents
    
    $
    33,595,834
    
    
    $
    33,595,834
    
    
    $
    33,384,612
    
    
    $
    33,384,612Marketable securities
    
    
    159,436,361
    
    
    
    162,942,420
    
    
    
    124,924,296
    
    
    
    128,732,795Loans
    
    
    705,045,735
    
    
    
    704,473,897
    
    
    
    524,087,326
    
    
    
    524,464,555Mortgage loans held for sale
    
    
    23,135,012
    
    
    
    23,092,846
    
    
    
    32,452,162
    
    
    
    32,452,162Liabilities:Demand deposits
    
    
    400,933,914
    
    
    
    400,933,914
    
    
    
    300,092,032
    
    
    
    300,092,032Time deposits
    
    
    334,165,441
    
    
    
    337,278,070
    
    
    
    247,157,283
    
    
    
    250,316,798Overnight borrowings
    
    
    25,205,171
    
    
    
    25,205,171
    
    
    
    16,720,407
    
    
    
    16,720,407Other borrowings
    
    
    65,294,540
    
    
    
    65,294,540
    
    
    
    45,677,313
    
    
    
    45,677,313Financial instruments whose contract
amounts represent credit risk:Commitments to extend credit
    
    
    
    
    
    
    120,746,272
    
    
    
    
    
    
    
    87,675,231Standby letters of credit
    
    
    
    
    
    
    6,133,695
    
    
    
    
    
    
    
    6,664,731
 65




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##### 



The book values of cash and due from banks, federal funds sold, interest-bearing deposits, accrued interest
receivable, accrued interest payable and other liabilities are considered to be equal to fair values as a result of
the short-term nature of these items. The fair values of marketable securities is based on quoted market prices,
dealer quotes and prices obtained from independent pricing services. The fair value of loans, time deposits,
commitments and guarantees is estimated based on present values using applicable risk-adjusted spreads to the
U.S. Treasury curve to approximate current entry-value interest rates applicable to each category of such
financial instruments. No adjustment was made to the entry-value interest rates for changes in credit of loans for which there are no
known credit concerns. Management segregates loans in appropriate risk categories. Management believes that
the risk factor embedded in the entry-value interest rates, along with the general reserves applicable to the loan
portfolio for which there are no known credit concerns, result in a fair valuation of such loans on an
entry-value basis. Demand deposits are shown at their face value. The fair values for forward commitments and options to sell mortgage-backed securities are estimated based
on quoted prices, if available, and are set forth in the following table. December 31, 2003
    
    December 31, 2002Estimated
    
    
    
    
    
    EstimatedCarrying
    
    Fair
    
    Carrying
    
    FairAmount
    
    Value
    
    Amount
    
    ValueForward commitments and options
to sell mortgage-backed securities
    
    $
    16,032,147
    
    
    $
    15,928,407
    
    
    $
    17,981,335
    
    
    $
    17,763,251
 The fair value estimates presented herein are based on pertinent information available to management as of December 31, 2003. Although management is not aware of any factors that would significantly affect the
estimated fair value amounts, such amounts have not been comprehensively revalued for purposes of these
financial statements since that date and, therefore, current estimates of fair value may differ significantly from
the amounts presented herein. 20. DERIVATIVE FINANCIAL INSTRUMENTS The Companys mortgage banking subsidiary, Granite Mortgage, uses two types of financial instruments to
manage interest rate risk. These instruments, commonly referred to as derivatives, consists of contracts to
forward sell mortgage-backed securities and options to forward sell securities. A derivative is a financial
instrument that derives its cash flows, and therefore its value, by reference to an underlying instrument. Granite
Mortgage uses derivatives primarily to hedge the changes in the cash flows that will be realized from sales of
the mortgage loans it generates. The following table sets forth certain information about Granite Mortgages
derivative financial instruments as of December 31, 2003. December 31, 2003EstimatedNotional
    
    FairAmount
    
    ValueForward commitments and options to sell mortgage-backed securities
    
    $
    16,032,147
    
    
    $
    15,928,407
 Granite Mortgage classifies its derivatives in accordance with SFAS No. 133 as a hedge of an exposure to
changes in the cash flows from forecasted transactions (cash flow hedge). As of December 31, 2003, all of
Granite Mortgages derivative financial instruments were designated as cash flow hedges. These instruments
had net unrealized losses of $103,740, which were recorded in other liabilities. 66




---



##### 



Credit risk related to derivatives arises when amounts receivable from a counterparty exceed amounts payable
to that counterparty. Because the notional amount of the instrument only serves as a basis for calculating
amounts receivable or payable, the risk of loss with any counterparty is limited to a small fraction of the
notional amount. Granite Mortgage deals with large institutions with good credit ratings in their derivatives
activities. Further, Granite Mortgage has netting arrangements with the dealers with whom it does business.
Because of these factors, Granite Mortgage believes its credit risk exposure related to derivative contracts
at December 31, 2003 was not material. 21. OPERATING SEGMENTS The Companys operations are divided into three reportable business segments: Community Banking, Mortgage
Banking and Other. These operating segments have been identified based on the Companys organizational
structure. The segments require unique technology and marketing strategies and offer different products and
services. While the Company is managed as an integrated organization, individual executive managers are held
accountable for the operations of these business segments. The Company measures and presents information for internal reporting purposes in a variety of different ways.
Information for the Companys reportable segments is available based on organizational structure, product
offerings and customer relationships. The internal reporting system presently utilized by management in the
planning and measuring of operating activities, as well as the system to which most managers are held
accountable, is based on organizational structure. The Company emphasizes revenue growth by focusing on client service, sales effectiveness and relationship
management. The segment results contained herein are presented based on internal management accounting
policies that were designed to support these strategic objectives. Unlike financial accounting, there is no
comprehensive authoritative body of guidance for management accounting equivalent to generally accepted
accounting principles. Therefore, the performance of the segments is not necessarily comparable with the
Companys consolidated results or with similar information presented by other financial institutions.
Additionally, because of the interrelationships of the various segments, the information presented is not
indicative of how the segments would perform if they operated as independent entities. COMMUNITY BANKING The Companys Community Banking segment serves individual and business customers by offering a variety
of loan and deposit products and other financial services. MORTGAGE BANKING The Mortgage Banking segment originates, retains and sells mortgage loans. Mortgage loan products include
fixed-rate and adjustable-rate government and conventional loans for the purpose of constructing, purchasing or
refinancing owner-occupied properties. Mortgage loans are typically sold to other financial institutions and
government agencies. The Mortgage Banking segment earns interest on loans held in its warehouse and in its
portfolio, earns fee income from originations and recognizes gains or losses from the sale of mortgage loans. OTHER The Companys Other segment represents primarily treasury and administration activities. Included in this
segment are certain investments and commercial paper issued to the Banks commercial sweep account
customers. 67




---



##### 



The following table presents selected financial information for reportable business segments for the years
ended December 31, 2003, 2002 and 2001. 2003
    
    2002
    
    2001COMMUNITY BANKINGNet interest income
    
    $
    34,362,277
    
    
    $
    31,583,950
    
    
    $
    30,111,948Provision for loan losses
    
    
    4,764,010
    
    
    
    3,422,382
    
    
    
    4,096,772Noninterest income
    
    
    7,566,079
    
    
    
    7,542,131
    
    
    
    7,053,281Noninterest expense
    
    
    17,479,249
    
    
    
    14,909,319
    
    
    
    13,772,593Income before income taxes
    
    
    19,685,097
    
    
    
    20,794,380
    
    
    
    19,295,864Net income
    
    
    13,371,550
    
    
    
    14,204,362
    
    
    
    13,270,554Identifiable segment assets
    
    
    933,907,945
    
    
    
    698,602,213
    
    
    
    683,953,891MORTGAGE BANKINGNet interest income
    
    
    4,969,103
    
    
    
    3,288,760
    
    
    
    2,844,528Provision for loan losses
    
    
    
    
    
    
    70,000
    
    
    
    120,000Noninterest income
    
    
    6,892,171
    
    
    
    3,949,354
    
    
    
    3,122,152Noninterest expense
    
    
    8,120,117
    
    
    
    5,155,919
    
    
    
    4,377,388Income before income taxes
    
    
    3,741,157
    
    
    
    2,012,195
    
    
    
    1,469,292Net income
    
    
    2,244,639
    
    
    
    1,207,320
    
    
    
    881,498Identifiable segment assets
    
    
    32,609,851
    
    
    
    39,137,923
    
    
    
    27,343,632ALL OTHERNet interest income
    
    
    (24,695
    )
    
    
    35,394
    
    
    
    (115,826
    )Noninterest income
    
    
    (20,510
    )
    
    
    (93,780
    )
    
    
    (35,373
    )Noninterest expense
    
    
    263,091
    
    
    
    250,996
    
    
    
    192,298Income before income taxes
    
    
    (308,296
    )
    
    
    (309,382
    )
    
    
    (343,497
    )Net income
    
    
    (308,296
    )
    
    
    (309,382
    )
    
    
    (343,497
    )Identifiable segment assets
    
    
    4,864,931
    
    
    
    4,274,538
    
    
    
    4,092,384TOTAL SEGMENTSNet interest income
    
    
    39,306,685
    
    
    
    34,908,104
    
    
    
    32,840,650Provision for loan losses
    
    
    4,764,010
    
    
    
    3,492,382
    
    
    
    4,216,772Noninterest income
    
    
    14,437,740
    
    
    
    11,397,705
    
    
    
    10,140,060Noninterest expense
    
    
    25,862,457
    
    
    
    20,316,234
    
    
    
    18,342,279Income before income taxes
    
    
    23,117,958
    
    
    
    22,497,193
    
    
    
    20,421,659Net income
    
    
    15,307,893
    
    
    
    15,102,300
    
    
    
    13,808,555Identifiable segment assets
    
    
    971,382,727
    
    
    
    742,014,674
    
    
    
    715,389,907
 * * * * * 68




---



##### 



BANK OF GRANITE CORPORATION AND SUBSIDIARIES SELECTED QUARTERLY FINANCIAL DATA (UNAUDITED)
YEARS ENDED DECEMBER 31, 2003 AND 2002 2003
    
    Quarter 1
    
    Quarter 2
    
    Quarter 3
    
    Quarter 4Interest income
    
    $
    11,362,194
    
    
    $
    12,075,230
    
    
    $
    13,682,909
    
    
    $
    13,575,843Interest expense
    
    
    2,386,474
    
    
    
    2,674,476
    
    
    
    3,173,288
    
    
    
    3,155,253Net interest income
    
    
    8,975,720
    
    
    
    9,400,754
    
    
    
    10,509,621
    
    
    
    10,420,590Provision for loan losses
    
    
    1,135,852
    
    
    
    1,148,529
    
    
    
    1,139,250
    
    
    
    1,340,379Net interest income after
provision for loan losses
    
    
    7,839,868
    
    
    
    8,252,225
    
    
    
    9,370,371
    
    
    
    9,080,211Other income
    
    
    3,333,205
    
    
    
    3,817,255
    
    
    
    4,283,688
    
    
    
    3,003,592Other expense
    
    
    5,370,422
    
    
    
    6,136,225
    
    
    
    7,170,306
    
    
    
    7,185,504Income before income taxes
    
    
    5,802,651
    
    
    
    5,933,255
    
    
    
    6,483,753
    
    
    
    4,898,299Income taxes
    
    
    1,965,468
    
    
    
    2,014,098
    
    
    
    2,252,662
    
    
    
    1,577,837Net income
    
    $
    3,837,183
    
    
    $
    3,919,157
    
    
    $
    4,231,091
    
    
    $
    3,320,462Net income per shareBasic
    
    $
    0.29
    
    
    $
    0.30
    
    
    $
    0.31
    
    
    $
    0.24Diluted
    
    
    0.29
    
    
    
    0.30
    
    
    
    0.31
    
    
    
    0.24Average shares outstandingBasic
    
    
    13,291,744
    
    
    
    13,197,696
    
    
    
    13,617,019
    
    
    
    13,640,301Diluted
    
    
    13,293,767
    
    
    
    13,200,134
    
    
    
    13,692,410
    
    
    
    13,739,912
 2002
    
    Quarter 1
    
    Quarter 2
    
    Quarter 3
    
    Quarter 4Interest income
    
    $
    11,445,654
    
    
    $
    11,253,789
    
    
    $
    11,302,466
    
    
    $
    11,708,617Interest expense
    
    
    2,897,584
    
    
    
    2,703,359
    
    
    
    2,667,918
    
    
    
    2,533,561Net interest income
    
    
    8,548,070
    
    
    
    8,550,430
    
    
    
    8,634,548
    
    
    
    9,175,056Provision for loan losses
    
    
    791,035
    
    
    
    1,007,249
    
    
    
    896,782
    
    
    
    797,316Net interest income after
provision for loan losses
    
    
    7,757,035
    
    
    
    7,543,181
    
    
    
    7,737,766
    
    
    
    8,377,740Other income
    
    
    2,650,121
    
    
    
    2,467,936
    
    
    
    2,925,264
    
    
    
    3,354,384Other expense
    
    
    4,820,180
    
    
    
    5,090,311
    
    
    
    5,017,793
    
    
    
    5,387,950Income before income taxes
    
    
    5,586,976
    
    
    
    4,920,806
    
    
    
    5,645,237
    
    
    
    6,344,174Income taxes
    
    
    1,804,637
    
    
    
    1,469,271
    
    
    
    1,962,653
    
    
    
    2,158,332Net income
    
    $
    3,782,339
    
    
    $
    3,451,535
    
    
    $
    3,682,584
    
    
    $
    4,185,842Net income per shareBasic*
    
    $
    0.28
    
    

    $
    0.25
    
    
    $
    0.27
    
    
    $
    0.31Diluted*
    
    
    0.28
    
    
    
    0.25
    
    
    
    0.27
    
    
    
    0.31Average shares outstandingBasic*
    
    
    13,691,860
    
    
    
    13,600,060
    
    
    
    13,494,158
    
    
    
    13,406,832Diluted*
    
    
    13,692,765
    
    
    
    13,610,724
    
    
    
    13,501,632
    
    
    
    13,413,909
   The quarterly financial data may not aggregate to annual amounts due to rounding.*
    
    Amounts reflect the 5-for-4 stock split paid May 31, 2002. ITEM 9 - CHANGES IN AND DISAGREEMENT WITH ACCOUNTANTS ON ACCOUNTING AND FINANCIAL DISCLOSURE There have been no disagreements with accountants on accounting and financial disclosures as
defined by Item 304 of Regulation S-K. 69




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##### 



ITEM 9A - CONTROLS AND PROCEDURES As of the end of the period covered by this report, the Companys management carried out an evaluation,
under the supervision and with the participation of the Companys chief executive officer and chief financial
officer, of the effectiveness of the design and operation of the Companys disclosure controls and procedures.
Based on this evaluation, the Companys chief executive officer and chief financial officer concluded that the
Companys disclosure controls and procedures are effective in timely alerting them to material information
required to be included in its periodic reports filed with the Securities and Exchange Commission. It should be
noted that the design of any system of controls is based in part upon certain assumptions about the likelihood
of future events, and there can be no assurance that any design will succeed in achieving its stated goals under
all potential future conditions, regardless of how remote. In addition, no change in the Companys internal
control over financial reporting has occurred during, or subsequent to, the period covered by this report that
has materially affected, or is reasonably likely to materially affect, its internal control over financial reporting. PART III ITEM 10 - DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT The information required by this item is set forth on pages 4 - 7, 16 and 18 in the definitive proxy
materials of the Company filed in connection with its 2004 ANNUAL MEETING OF SHAREHOLDERS.
The information required by this item contained in such definitive proxy materials is incorporated herein by
reference. ITEM 11 - EXECUTIVE COMPENSATION The information required by this item is set forth on pages 7 - 15 in the definitive proxy materials of the
Company filed in connection with its 2004 ANNUAL MEETING OF SHAREHOLDERS, which
information is incorporated herein by reference. ITEM 12 - SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT The information required by this item is set forth on pages 2, 6 and 12 in the definitive proxy
materials of the Company filed in connection with its 2004 ANNUAL MEETING OF SHAREHOLDERS,
which information is incorporated herein by reference. ITEM 13 - CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS The information required by this item is set forth on page 16 in the definitive proxy materials of the
Company filed in connection with its 2004 ANNUAL MEETING OF SHAREHOLDERS, which
information is incorporated herein by reference. ITEM 14 - PRINCIPAL ACCOUNTANT FEES AND SERVICES The information required by this item is set forth on page 17 in the definitive proxy materials of the
Company filed in connection with its 2004 ANNUAL MEETING OF SHAREHOLDERS, which
information is incorporated herein by reference.   70




---



##### 



PART IV ITEM 15 - EXHIBITS, FINANCIAL STATEMENT SCHEDULES AND REPORTS ON FORMS 8-K * * Exhibits, Financial Statement Schedules and Reports on Forms 8-K, included in or incorporated by
reference into this filing were filed with the Securities and Exchange Commission. Bank of Granite
Corporation provides these documents through its Internet site at www.bankofgranite.com or by mail upon
request to Investor Relations, Bank of Granite Corporation, P.O. Box 128, Granite Falls, North Carolina
28630. a.1.
    
    
    
    
    
    Financial StatementsThe information required by this item is set forth under Item 82.
    
    
    
    
    
    Financial Statement SchedulesNone3.
    
    
    
    
    
    Exhibits3.1
    
    
    Certificate of Incorporation
Bank of Granite Corporations Restated Certificate of Incorporation, as amended, filed as
Exhibit 3.1 to the Registrants Registration Statement on Form S-4 (Registration Statement
No.
333-104233) on April 1, 2003 is incorporated herein by reference.3.2
    
    
    Bylaws of the Registrant
Bank of Granite Corporations Bylaws, filed as Exhibit 3.2 to the Registrants Registration
Statement on Form S-4 (Registration Statement No. 333-104233) on April 1, 2003 is
incorporated herein by reference.4.
    
    
    
    
    
    Instruments defining the rights of holders4.1
    
    
    Form of stock certificate for Bank of Granite Corporations common stock, filed as Exhibit
4.1 to the Registrants Registration Statement on Form S-4 (Registration Statement No.
333-104233) on April 1, 2003 is incorporated herein by reference.4.2
    
    
    Articles 5, 6, 7, 10 and 13 of the Restated Certificate of Incorporation of Bank of Granite
Corporation, as amended (included in Exhibit 3.1 hereto)10.
    
    
    
    
    
    Material Contracts10.1.
    
    
    Bank of Granite Employees Profit Sharing Plan and Trust, as amended, filed as
Exhibit 4.1 to the Registrants Registration Statement on Form S-8 (Registration Statement
No. 333-102383) on January 7, 2003, is incorporated herein by reference10.2.
    
    
    Bank of Granite Supplemental Executive Retirement Plan filed as Exhibit 10.2. to the
Registrants Annual Report on Form 10-K for the fiscal year ended December 31, 2000 is
incorporated herein by reference10.3.
    
    
    Bank of Granite Corporations 1997 Incentive Stock Option Plan, filed as Exhibit 4.1 to the
Registrants Registration Statement on Form S-8 (Registration Statement No. 333-29157) on
June 13, 1997 is incorporated herein by reference
 71




---



##### 



10.4.
    
    
    Amended and Restated Employment and Noncompetition Agreement, dated May 1, 2003,
between GLL & Associates, Inc. and Gary L. Lackey10.5.
    
    
    Bank of Granite Corporations 2001 Incentive Stock Option Plan, filed as Exhibit 4.1 to the
Registrants Registration Statement on Form S-8 (Registration Statement No. 333-61640) on
May 25, 2001 is incorporated herein by reference10.6.
    
    
    Executive Supplemental Retirement Plan Executive Agreement, dated November 15, 2001,
between the Bank and John A. Forlines, Jr. filed as Exhibit 10.6. to the Registrants Annual
Report on Form 10-K for the fiscal year ended December 31, 2001 is incorporated herein by
reference10.7.
    
    
    Executive Supplemental Retirement Plan Executive Agreement, dated November 15, 2001,
between the Bank and Charles M. Snipes filed as Exhibit 10.7. to the Registrants Annual
Report on Form 10-K for the fiscal year ended December 31, 2001 is incorporated herein by
reference10.8.
    
    
    Executive Supplemental Retirement Plan Executive Agreement, dated November 15, 2001,
between the Bank and Kirby A. Tyndall filed as Exhibit 10.8. to the Registrants Annual
Report on Form 10-K for the fiscal year ended December 31, 2001 is incorporated herein by
reference10.9.
    
    
    Change of Control Agreement, dated January 1, 2002, between the Company and
John A. Forlines, Jr. filed as Exhibit 10.9. to the Registrants Annual Report on Form 10-K
for the fiscal year ended December 31, 2001 is incorporated herein by reference10.10.
    
    
    Change of Control Agreement, dated January 1, 2002, between the Company and
Charles M. Snipes filed as Exhibit 10.10. to the Registrants Annual Report on Form 10-K
for the fiscal year ended December 31, 2001 is incorporated herein by reference10.11.
    
    
    Change of Control Agreement, dated January 1, 2002, between the Company and
Kirby A. Tyndall filed as Exhibit 10.11. to the Registrants Annual Report on Form 10-K
for the fiscal year ended December 31, 2001 is incorporated herein by reference10.12.
    
    
    Merger Agreement, dated December 18, 2002, between the Company and
First Commerce Corporation filed as Exhibit 99.2 to the Registrants Report on Form 8-K
dated December 18, 2002 is incorporated herein by reference10.13.
    
    
    Amendment to Merger Agreement, dated January 22, 2003, between the Company
and First Commerce Corporation filed as Exhibit 99.2 to the Registrants Report on Form
8-K dated January 23, 2003 is incorporated herein by reference11.
    
    
    
    
    
    Schedule of Computation of Net Income Per Share
The information required by this item is also set forth under Item 8, Note 1. Summary
Of Significant Accounting Policies and Note 15. Reconciliation Of Basic And Diluted
Earnings Per Share14.
    
    
    
    
    
    Ethics Policy21.
    
    
    
    
    
    Subsidiaries of the RegistrantThe information required by this item is also set forth under Item 8, Note 1. Summary
Of Significant Accounting Policies
 72




---



##### 



23.
    
    
    Consent of Independent Auditors31.1
    
    
    Chief Executive Officer Certification Pursuant to 18 U.S.C. Section 1350, as
Adopted Pursuant to Section 302(a) of the Sarbanes-Oxley Act of 200231.2
    
    
    Chief Financial Officer Certification Pursuant to 18 U.S.C. Section 1350, as
Adopted Pursuant to Section 302(a) of the Sarbanes-Oxley Act of 200232.1
    
    
    Chief Executive Officer Certification Pursuant to 18 U.S.C. Section 1350, as
Adopted Pursuant to Section 906 of the Sarbanes-Oxley Act of 200232.2
    
    
    Chief Financial Officer Certification Pursuant to 18 U.S.C. Section 1350, as
Adopted Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002b.
    
    
    
    Reports on Form 8-KOn October 14, 2003, the Company filed a report on Form 8-K regarding its October 14,
2003 news release in which it announced its earnings for the quarter ended September 30,
2003. The full text news release dated October 14, 2003 was attached as Exhibit 99(a) to
this
Form 8-K filing.
 73




---



##### 



SIGNATURES Pursuant to the requirements of Section 13 or 15(d) of the Securities Exchange Act of 1934, the registrant has
duly caused this report to be signed on its behalf by the undersigned, thereunto duly authorized. BANK OF GRANITE CORPORATIONBy:
    
    /s/ John A. Forlines, Jr.John A. Forlines, Jr.
Chairman and Chief Executive Officer
March 8, 2004
 Pursuant to the requirements of the Securities Exchange Act of 1934, this report has been signed below by
the following persons on behalf of the registrant and in the capacities and on the dates indicated. Signature
    
    Title
    
    Date/s/ John A. Forlines, Jr.
    
    Chairman and
    
    March 8, 2004Chief Executive OfficerJohn A. Forlines, Jr./s/ Kirby A. Tyndall
    
    Secretary/Treasurer,
    
    March 8, 2004Chief FinancialKirby A. Tyndall
    
    Officer and Principal
Accounting Officer/s/ John N. Bray
    
    Director
    
    March 8, 2004John N. Bray/s/ Paul M. Fleetwood, III
    
    Director
    
    March 8, 2004Paul M. Fleetwood, III/s/ John A. Forlines, Jr.
    
    Director
    
    March 8, 2004John A. Forlines, Jr./s/ Barbara F. Freiman
    
    Director
    
    March 8, 2004Barbara F. Freiman/s/ Hugh R. Gaither
    
    Director
    
    March 8, 2004Hugh R. Gaither/s/ James Y. Preston
    
    Director
    
    March 8, 2004James Y. Preston/s/ Charles M. Snipes
    
    Director
    
    March 8, 2004Charles M. Snipes/s/ Boyd C. Wilson, Jr.
    
    Director
    
    March 8, 2004Boyd C. Wilson, Jr.
 74




---



##### 



Bank of Granite Corporation
Exhibit Index BeginsExhibit
    
    
    
    on Page3.1
    
    Bank of Granite Corporations Certificate of Incorporation
    
    *3.2
    
    Bank of Granite Corporations Bylaws
    
    *4.1
    
    Form of stock certificate
    
    *4.2
    
    Articles 5, 6, 7, 10 and 13 of the Restated Certificate of
Incorporation
    
    *10.1
    
    Bank of Granite Employees Profit Sharing Plan and Trust
    
    *10.2
    
    Bank of Granite Supplemental Executive Retirement Plan
    
    *10.3
    
    Bank of Granite Corporations 1997 Incentive Stock
Option Plan
    
    *10.4
    
    Amended and Restated Employment and Noncompetition
Agreement between GLL & Associates, Inc. and
Gary L. Lackey
    
    Filed herewith10.5
    
    Bank of Granite Corporations 2001 Incentive Stock
Option Plan
    
    *10.6
    
    Executive Supplemental Retirement Plan Executive
Agreement between the Bank and John A. Forlines, Jr.
    
    *10.7
    
    Executive Supplemental Retirement Plan Executive
Agreement between the Bank and Charles M. Snipes
    
    *10.8
    
    Executive Supplemental Retirement Plan Executive
Agreement between the Bank and Kirby A. Tyndall
    
    *10.9
    
    Change of Control Agreement between the Company and
John A. Forlines, Jr.
    
    *10.10
    
    Change of Control Agreement between the Company and
Charles M. Snipes
    
    *10.11
    
    Change of Control Agreement between the Company and
Kirby A. Tyndall
    
    *10.12
    
    Merger Agreement between the Company and First
Commerce Corporation
    
    *10.13
    
    Amendment to Merger Agreement between the Company
and First Commerce Corporation
    
    *11
    
    Schedule of Computation of Net Income Per Share
    
    Filed herewith14
    
    Ethics Policy
    
    Filed herewith21
    
    Subsidiaries of the Registrant
    
    Filed herewith23
    
    Consent of Independent Auditors
    
    Filed herewith31.1
    
    Chief Executive Officer Certification Pursuant to 18 U.S.C.
Section 1350, as Adopted Pursuant to Section 302(a) of the
Sarbanes-Oxley Act of 2002
    
    Filed herewith31.2
    
    Chief Financial Officer Certification Pursuant to 18 U.S.C.
Section 1350, as Adopted Pursuant to Section 302(a) of the
Sarbanes-Oxley Act of 2002
    
    Filed herewith32.1
    
    Chief Executive Officer Certification Pursuant to 18 U.S.C.
Section 1350, as Adopted Pursuant to Section 906 of the
Sarbanes-Oxley Act of 2002
    
    Filed herewith32.2
    
    Chief Financial Officer Certification Pursuant to 18 U.S.C.
Section 1350, as Adopted Pursuant to Section 906 of the
Sarbanes-Oxley Act of 2002
    
    Filed herewith
   *
    
    Incorporated herein by reference 75