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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549

FORM 10-Q

Commission file number 000-25141

METROCORP BANCSHARES, INC.
(Exact name of registrant as specified in its charter)

9600 Bellaire Boulevard, Suite 252
Houston, Texas 77036
(Address of principal executive offices including zip code)

(713) 776-3876
(Registrant’s telephone number, including area code)

Securities registered pursuant to Section 12(b) of the Act:
None

Securities registered pursuant to Section 12(g) of the Act:
Common Stock, par value $1.00 per share
(Title of class)

     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 o.

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

     As of April 30, 2003, the number of outstanding shares of Common Stock, par value $1.00 per share, was 7,034,668.

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PART I

FINANCIAL INFORMATION

Item 1.

Condensed Consolidated Financial Statements.

METROCORP BANCSHARES, INC.
CONDENSED CONSOLIDATED BALANCE SHEETS
(In thousands, except share amounts)
(Unaudited)

See accompanying notes to condensed consolidated financial statements

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METROCORP BANCSHARES, INC.
CONDENSED CONSOLIDATED STATEMENTS OF INCOME
(In thousands, except per share amounts)
(Unaudited)

See accompanying notes to condensed consolidated financial statements

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METROCORP BANCSHARES, INC.
CONDENSED CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME
(In thousands)
(Unaudited)

METROCORP BANCSHARES, INC.
CONDENSED CONSOLIDATED STATEMENTS OF CHANGES IN SHAREHOLDERS’ EQUITY
For The Three Months Ended March 31, 2003
(In thousands)
(Unaudited)

See accompanying notes to condensed consolidated financial statements

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METROCORP BANCSHARES, INC
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
(In thousands)
(Unaudited)

See accompanying notes to condensed consolidated financial statements

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METROCORP BANCSHARES, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

1.

SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES

Basis of Presentation

     The unaudited condensed consolidated financial statements include the accounts of MetroCorp Bancshares, Inc. (the “Company”) and its wholly-owned subsidiary MetroBank, National Association (the “Bank”). The Bank was formed in 1987 and is engaged in commercial banking activities through its fourteen branches in Houston and Dallas, Texas. The Company considers itself one reporting segment. All material intercompany accounts and transactions have been eliminated in consolidation.

     The accompanying unaudited condensed consolidated financial statements were prepared in accordance with accounting principles generally accepted in the United States of America for interim financial information and with the instructions for Form 10-Q. In the opinion of management, the unaudited condensed consolidated financial statements reflect all adjustments, consisting only of normal and recurring adjustments, necessary for a fair statement of the Company’s consolidated financial position at March 31, 2003, consolidated results of operations for the three months ended March 31, 2003 and 2002, consolidated cash flows for the three months ended March 31, 2003 and 2002, consolidated comprehensive income for the three months ended March 31, 2003 and 2002, and consolidated changes in shareholders’ equity for the three months ended March 31, 2003. Interim period results are not necessarily indicative of results for a full-year period.

     Certain amounts applicable to the prior periods have been reclassified to conform to the classifications currently followed. Such reclassifications had no effect on net income or shareholders’ equity.

     These financial statements and the notes thereto should be read in conjunction with the Company’s annual report on Form 10-K for the year ended December 31, 2002.

Stock Compensation

     The Company grants stock options under several stock-based incentive compensation plans. The Company utilizes the intrinsic value method for its stock compensation plans. No compensation cost is recognized for fixed stock options in which the exercise price is equal to or greater than the estimated market price on the date of grant. Statement of Financial Accounting Standards (“SFAS”) No. 123, Accounting for Stock-Based Compensation, which, if fully adopted by the Company, would change the methods the Company applies in recognizing the cost of the plans. Adoption of the cost recognition provisions of SFAS No. 123 is optional and the Company has decided not to elect these provisions of SFAS No. 123. However, pro forma disclosures as if the Company adopted the cost recognition provisions of SFAS No. 123 are required by SFAS No. 123, and by SFAS No. 148, Accounting for Stock-Based Compensation—Transaction and Disclosure, an amendment of FASB Statement No. 123, on a quarterly basis.

     If the fair value based method of accounting under SFAS No. 123 had been applied, the Company’s net income available for common shareholders and earnings per common share would have been reduced to the pro forma amounts indicated below (assuming that the fair value of options granted during the year are amortized over the vesting period) (in thousands except per share amounts):

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     The effects of applying SFAS No. 123 in this pro forma disclosure are not indicative of future amounts. SFAS No. 123 does not apply to awards prior to 1995, and the Company anticipates making awards in the future under its stock-based compensation plans. The Black-Scholes option valuation model was developed for use in estimating the fair value of traded options which have no vesting restrictions and are fully transferable. In addition, option valuation models require the input of highly subjective assumptions including the expected stock price volatility. Because the Company’s employee stock options have characteristics significantly different from those of traded options, and because changes in the subjective input assumptions can materially affect the fair value estimate, the existing models do not necessarily provide a reliable single measure of the fair value of its employee stock options.

2.

EARNINGS PER COMMON SHARE

     Basic earnings per share (“EPS”) is computed by dividing net income available to common shareholders by the weighted-average number of common shares outstanding during the period. Diluted EPS is computed by dividing net income available to common shareholders by the weighted-average number of common shares and potentially dilutive common shares outstanding during the period. Potentially dilutive common shares are computed using the treasury stock method.

3.

NEW ACCOUNTING PRONOUNCEMENTS

     On October 24, 2002, the Financial Accounting Standards Board (“FASB”) approved SFAS No. 147, Acquisitions of Certain Financial Institutions. SFAS No. 147 amends previously issued guidance regarding the accounting and reporting for the acquisition of all or part of a financial institution. The statement also provides guidance on the accounting for impairment of core deposits. It is effective for acquisitions after October 1, 2002. The adoption of this standard has not had any effect on the Company’s financial condition or results of operations.

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     On December 31, 2002, the FASB approved SFAS No. 148, Accounting for Stock-Based Compensation – Transition and Disclosure, an amendment of FASB Statement No. 123. SFAS No. 148 amends SFAS No. 123, to provide alternative methods of transition for an entity that voluntarily changes to the fair value based method of accounting for stock-based employee compensation. It also amends the disclosure provisions of SFAS No. 123 to require prominent disclosure about the effects on reported net income of an entity’s accounting policy decisions with respect to stock-based employee compensation. Finally, it amends the Accounting Research Bulletin (“ARB”) Opinion No. 28, Interim Financial Reporting, to require disclosure about those effects in interim financial information. While the Company has continued to elect the intrinsic method of accounting for employee stock options, the disclosure requirements of SFAS No. 148 and ARB Opinion No. 28 have been presented in Footnote 1.

     On November 25, 2002, the FASB issued FASB Interpretation (“FIN”) No. 45, Guarantor’s Accounting and Disclosure Requirements for Guarantees, Including Indirect Guarantees of Indebtedness of Others. FIN No. 45 considers standby letters of credit, excluding commercial letters of credit and other lines of credit, a guarantee of the Bank. The Bank enters into a standby letter of credit to guarantee performance of a customer to a third party. These guarantees are primarily issued to support public and private borrowing arrangements. The credit risk involved is represented by the contractual amounts of those instruments. Under the standby letters of credit, the Bank is required to make payments to the beneficiary of the letters of credit upon request by the beneficiary so long as all performance criteria have been met. Most guarantees extend up to one year. The maximum potential amount of future payments was approximately $3.3 million at March 31, 2003. The Company has recorded a liability of approximately $3,400 at March 31, 2003, for the fair value of the Company’s potential obligations, which represents the unamortized portion of the letter of credit fees.

     On January 17, 2003, the FASB issued FIN No. 46, Consolidation of Variable Interest Entities, which addresses consolidation by business enterprises of variable interest entities. FIN No. 46 clarifies the application of ARB No. 51, Consolidated Financial Statements, to certain entities in which equity investors do not have the characteristics of a controlling financial interest or do not have sufficient equity at risk for the entity to finance its activities without additional subordinated financial support from other parties. The adoption of this interpretation is not expected to impact the Company’s financial condition or results of operations.

Item 2.		Management’s Discussion and Analysis of Financial Condition and Results of Operations
		Special Cautionary Notice Regarding Forward-looking Statements

     The Statements and financial discussion and analysis contained in this Quarterly Report on Form 10-Q and documents incorporated herein by reference that are not historical facts are forward-looking statements made pursuant to the safe harbor provisions of the Private Securities Litigation Reform Act of 1995. Forward-looking statements, which describe the Company’s future plans, strategies and expectations, are based on assumptions and involve a number of risks and uncertainties, many of which are beyond the Company’s control. The important factors that could cause actual results to differ materially from the results, performance or achievements expressed or implied by the forward-looking statements include, without limitation:

	•		Changes in interest rates and market prices, which could reduce the Company’s net interest margins, asset valuations and expense expectations;
	•		Changes in the levels of loan prepayments and the resulting effects on the value of the Company’s loan portfolio;
	•		Changes in local economic and business conditions which adversely affect the ability of the Company’s customers to transact profitable business with the Company, including the ability of borrowers to repay their loans according to their terms or a change in the value of the related collateral;
	•		Increased competition for deposits and loans adversely affecting rates and terms;
	•		The Company’s ability to identify suitable acquisition candidates;

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	•		The timing, impact and other uncertainties of the Company’s ability to enter new markets successfully and capitalize on growth opportunities;
	•		Increased credit risk in the Company’s assets and increased operating risk caused by a material change in commercial, consumer and/or real estate loans as a percentage of the total loan portfolio;
	•		The failure of assumptions underlying the establishment of and provisions made to the allowance for loan losses;
	•		Changes in the availability of funds resulting in increased costs or reduced liquidity;
	•		Increased asset levels and changes in the composition of assets and the resulting impact on the Company’s capital levels and regulatory capital ratios;
	•		The Company’s ability to acquire, operate and maintain cost effective and efficient systems without incurring unexpectedly difficult or expensive but necessary technological changes;
	•		The loss of senior management or operating personnel and the potential inability to hire qualified personnel at reasonable compensation levels; and
	•		Changes in statutes and government regulations or their interpretations applicable to bank holding companies and our present and future banking and other subsidiaries, including changes in tax requirements and tax rates.

     The Company undertakes no obligation to publicly update or otherwise revise any forward-looking statements, unless the securities laws require the Company to do so. All written or oral forward-looking statements attributable to the Company are expressly qualified in their entirety by these cautionary statements.

Overview

     Net income for the three months ended March 31, 2003 was $1.9 million, down approximately $200,000 or 8.7% from the same quarter in 2002. The Company’s diluted earnings per share (“EPS”) for the three months ended March 31, 2003 was $0.27, compared to $0.29 for the same quarter in 2002. Both the Company’s net income and EPS were affected by a decrease in the net interest margin.

     At March 31, 2003, total assets were $844.6 million, up $4.5 million or 0.5% from $840.1 million at December 31, 2002. This was primarily the result of deposit growth during the period. Investment securities at March 31, 2003 were $235.5 million, down $24.5 million or 9.4% from $260.0 million at December 31, 2002. Net loans at March 31, 2003 were $541.8 million, up $24.2 million or 4.7% from $517.6 million at December 31, 2002. Total deposits at March 31, 2003 were $696.8 million, up $5.4 million or 0.8% from $691.4 million at December 31, 2002. Other borrowings at March 31, 2003 were $65.8 million, relatively flat compared to other borrowings at December 31, 2002. The Company’s return on average assets (“ROAA”) for the three months ended March 31, 2003 and 2002 was 0.93% and 1.15%, respectively.

     Shareholders’ equity at March 31, 2003 was $75.5 million compared to $74.5 million at December 31, 2002, an increase of $1.0 million or 1.4%, and was primarily the result of net income for the three months ended March 31, 2003 of $1.9 million, that was partially offset by a reduction of approximately $364,000 in accumulated other comprehensive income (unrealized gains in the market value of securities), dividend payments of approximately $422,000 and net common stock repurchases of approximately $77,000. The Company’s return on average shareholders’ equity (“ROAE”) for the three months ended March 31, 2003 and 2002 was 10.27% and 12.64%, respectively.

Results of Operations

     Net Interest Income and the Net Interest Margin. For the three months ended March 31, 2003, net interest income, before the provision for loan losses, was $7.8 million, down approximately $200,000 or 2.1% from $8.0 million for the same quarter in 2002. The decrease in net interest income was primarily the result of a decrease in the net interest margin to 3.96% for the three months ended March 31, 2003 compared to 4.68% for the same period in 2002.

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The decrease was primarily rate driven although partially offset by increases in average balances in both interest-earning assets and interest-bearing liabilities. Another factor that impacted the net interest margin was the increase in nonaccrual loans to $23.4 million at March 31, 2003 compared to $17.2 million at December 31, 2002 and $12.7 million at March 31, 2002. The net interest margin may experience further pressure depending on the future interest rate environment. Since the Company’s balance sheet is interest rate sensitive, management believes the Company would benefit from a rising interest rate environment.

     Total Interest Income. Total interest income for the three months ended March 31, 2003 was $11.1 million, down approximately $800,000 or 6.8% from $11.9 million for the same quarter in 2002. This decrease, which was primarily due to lower interest rates on earning-assets in 2003 compared to 2002, was partially softened by higher average earning-assets, both in loans and investment securities. The Federal Reserve’s 50 basis point interest rate cut in November 2002 partially contributed to the lower interest income. A majority of the loans in the loan portfolio are variable rate loans that reprice as the market “prime” rate moves and therefore, are sensitive to interest rate movement. At March 31, 2003, $468.2 million or 84.7% of the total loan portfolio was comprised of variable rate loans.

     Interest Income from Loans. Interest income from loans for the three months ended March 31, 2003 was $8.9 million, down approximately $600,000 or 6.5% from $9.5 million for the same period in 2002. For the three months ended March 31, 2003, the average yield on loans was 6.65%, compared to 7.85% for the same period in 2002, a decrease of 120 basis points. The average yield on loans was 240 basis points above the prime rate, but was supported by loans with interest rate floors that represented approximately $330.9 million or 59.9% of the total loan portfolio and carried a weighted average interest rate of 6.39% at March 31, 2003. Factors that impacted interest income on loans included an increase in nonaccrual loans, refinancing pressure on existing loans, and lower interest rates on new loan production.

     Interest Income from Investments. Interest income from investments for the three months ended March 31, 2003 was $2.2 million, down approximately $200,000 or 8.1% compared to $2.4 million for the same period in 2002, primarily due to a lower interest rate yield that was partially offset by higher average investment balances. The lower interest rate yield on investments was primarily due to an increased level of prepayments in mortgage-backed securities with the funds reinvested at lower market interest rates. For the three months ended March 31, 2003, the average yield on investments (securities, Federal Funds sold and other temporary investments) was 3.44% compared to 4.81% for the same period in 2002, a decline of 137 basis points.

     Total Interest Expense. Total interest expense for the three months ended March 31, 2003 was $3.2 million, down approximately $700,000 or 17.9% compared to $3.9 million for the same period in 2002. The decrease in total interest expense was primarily the result of lower interest rates in 2003 that was partially offset by higher balances in average interest-bearing liabilities.

     Interest Expense on Deposits. Interest paid on interest-bearing deposits for the three months ended March 31, 2003 was $2.7 million, down approximately $800,000 or 22.9% compared to $3.5 million for the same period in 2002. This was primarily due to decreases in the rates paid for interest-bearing deposits reflecting the lower interest rate environment in 2003. Average interest-bearing deposits for the three months ended March 31, 2003 were $544.7 million compared to average interest-bearing deposits for the same period in 2002 of $510.6 million, an increase of $34.1 million or 6.7%. The average rate paid on interest-bearing deposits for the three months ended March 31, 2003 was 2.04% compared to the average rate for the same three months in 2002 at 2.83%, a decrease of 79 basis points.

     Interest Expense on Borrowed Funds. Interest paid on borrowed funds for the three months ended March 31, 2003 was $505,000 compared to $330,000 for the same period in 2002, an increase of $175,000. Average borrowed funds for the three months ended March 31, 2003 were $68.4 million compared to average borrowed funds for the same period in 2002 of $29.2 million, an increase of $39.2 million. The increase in borrowed funds reflected advances obtained from the Federal Home Loan Bank (“FHLB”) to fund mortgage-related securities investments to increase earning assets. The average rate paid on borrowed funds for the three months ended March 31, 2003 was 3.00%, compared to the same three months in 2002 of 4.58%, a decrease of 158 basis points.

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     The following table presents the total dollar amount of interest income from average interest-earning assets and the resultant yields, as well as the interest expense on average interest-bearing liabilities, expressed both in dollars and rates for the periods indicated. No tax-equivalent adjustments were made and all average balances are daily average balances. Nonaccruing loans have been included in the table as loans having a zero yield.

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     The following table presents the dollar amount of changes in interest income and interest expense for the major components of interest-earning assets and interest-bearing liabilities and distinguishes between changes in outstanding balances and changes in interest rates for the three months ended March 31, 2003 compared with the three months ended March 31, 2002. For purposes of this table, changes attributable to both rate and volume have been allocated to rate.